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Financial Officer (Principal |
Executive Officer) (Principal |
Financial and Accounting Officer) Date: November |
9, 2023 Date: November |
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Washington, D.C. 20549 FORM 10-K (Mark One) ☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31 , 2021 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to __________ COMMISSION FILE NUMBER 001-12307 ZIONS BANCORPORATION, NATIONAL ASSOCIATION (Exact name of registrant as specified in its charter) United States of America 87-0189025 (State or other jurisdiction of incorporation or organization) (IRS Employer Identification Number) One South Main Salt Lake City, Utah 84133-1109 (Address of principal executive offices) (Zip Code) Registrant’s telephone number, including area co ( 801 ) 844-7637 Securities registered pursuant to Section 12(b) of the Ac Title of Each Class Trading Symbols Name of Each Exchange on Which Registered Common Stock, par value $0.001 ZION The NASDAQ Stock Market LLC Depositary Shares each representing a 1/40th ownership interest in a share o Series A Floating-Rate Non-Cumulative Perpetual Preferred Stock ZIONP The NASDAQ Stock Market LLC Series G Fixed/Floating-Rate Non-Cumulative Perpetual Preferred Stock ZIONO The NASDAQ Stock Market LLC 6.95% Fixed-to-Floating Rate Subordinated Notes due September 15, 2028 ZIONL The NASDAQ Stock Market LLC Securities registered pursuant to Section 12(g) of the Ac None. Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☒ No ¨ Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨ No ☒ Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No ¨ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ý No ¨ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ý Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨ Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ý Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No ý Aggregate Market Value of Common Stock Held by Non-affiliates at June 30, 2021 $ 8,437,915,233 Number of Common Shares Outstanding at February 7, 2022 151,574,325 shares Documents Incorporated by Referen Part III: Items 10-14 — Proxy Statement for the 2022 Annual Meeting of Shareholders to be held April 29, 2022. 1 ZIONS BANCORPORATION, NATIONAL ASSOCIATION TABLE OF CONTENTS PART I Item 1. Business 4 Item 1A. Risk Factors 12 Item 1B. Unresolved Staff Comments 20 Item 2. Properties 20 Item 3. Legal Proceedings 21 Item 4. Mine Safety Disclosures 21 PART II Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 21 Item 6. Reserved 22 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 22 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 72 Item 8. Financial Statements and Supplementary Data 72 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 141 Item 9A. Controls and Procedures 141 Item 9B. Other Information 141 Item 9C. Disclosure Regarding Foreign Jurisdictions that Prevent Inspections 142 PART III Item 10. Directors, Executive Officers and Corporate Governance 142 Item 11. Executive Compensation 142 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 142 Item 13. Certain Relationships and Related Transactions, and Director Independence 142 Item 14. Principal Account ant Fees and Services 142 PART IV Item 15. Exhibits and Financial Statement Schedules 142 Item 16. Form 10-K Summary 147 Signatures 148 2 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses Fintech Financial Technology Company AFS Available-for-Sale FRB Federal Reserve Board ALCO Asset/Liability Committee FTP Funds Transfer Pricing ALLL Allowance for Loan and Lease Losses GAAP Generally Accepted Accounting Principles Amegy Amegy Bank, a division of Zions Bancorporation, National Association HECL Home Equity Credit Line AMERIBOR American Interbank Offered Rate HTM Held-to-Maturity AOCI Accumulated Other Comprehensive Income IMG International Manufacturing Group ASC Accounting Standards Codification IPO Initial Public Offering ASU Accounting Standards Update IRS Internal Revenue Service ATM Automated Teller Machine ISDA International Swaps and Derivative Association BOLI Bank-Owned Life Insurance KBW Keefe, Bruyette & Woods, Inc. bps Basis Points KRX KBW REgional Bank Index BSBY Bloomberg Short-Term Bank Yield LIBOR London Interbank Offered Rate CB&T California Bank & Trust, a division of Zions Bancorporation, National Association MD&A Management’s Discussion and Analysis CCAR Comprehensive Capital Analysis and Review Municipalities State and Local Governments CCPA California Consumer Privacy Act of 2018 NASDAQ National Association of Securities Dealers Automated Quotations CECL Current Expected Credit Loss NAV Net Asset Value CET1 Common Equity Tier 1 (Basel III) NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association CFPB Consumer Financial Protection Bureau NIM Net Interest Margin CLTV Combined Loan-to-Value Ratio NM Not Meaningful CMC Capital Management Committee NSB Nevada State Bank, a division of Zions Bancorporation, National Association CMT Constant Maturity Treasury OCC Office of the Comptroller of the Currency COSO Committee of Sponsoring Organizations of the Treadway Commission OCI Other Comprehensive Income CPRA California Privacy Rights Act OREO Other Real Estate Owned CRA Community Reinvestment Act PCAOB Public Company Accounting Oversight Board CRE Commercial Real Estate PEI Private Equity Investment CSA Credit Support Annex PPNR Pre-provision Net Revenue CSV Cash Surrender Value PPP Paycheck Protection Program CVA Credit Valuation Adjustment ROC Risk Oversight Committee Dodd-Frank Act Dodd-Frank Wall Street Reform and Consumer Protection Act ROU Right-of-Use DTA Deferred Tax Asset RULC Reserve for Unfunded Lending Commitments DTL Deferred Tax Liability S&P Standard and Poor's EaR Earnings at Risk SBA U.S. Small Business Administration EPS Earnings per Share SBIC Small Business Investment Company ERM Enterprise Risk Management SEC Securities and Exchange Commission ERMC Enterprise Risk Management Committee SOFR Secured Overnight Financing Rate ESG Environmental, Social, and Governance TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association EVE Economic Value of Equity at Risk TDR Troubled Debt Restructuring FAMC Federal Agricultural Mortgage Corporation, or “Farmer Mac” Tier 1 Common Equity Tier 1 (Basel III) and Additional Tier 1 Capital FASB Financial Accounting Standards Board U.S. United States FDIC Federal Deposit Insurance Corporation Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association FDICIA Federal Deposit Insurance Corporation Improvement Act VIE Variable Interest Entity FHLB Federal Home Loan Bank Zions Bank Zions Bank, a division of Zions Bancorporation, National Association FINRA Financial Industry Regulatory Authority 3 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION PART I FORWARD-LOOKING INFORMATION This annual report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. These forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although this list is not comprehensive, important factors that may cause material differences include changes in general industry and economic conditions, including inflation; changes and uncertainties in legislation and fiscal, monetary, regulatory, trade and tax policies; changes in interest and reference rates; the quality and composition of our loan and securities portfolios; our ability to recruit and retain talent, including increased competition for qualified candidates as a result of expanded remote-work opportunities and increased compensation expenses; competitive pressures and other factors that may affect aspects of our business, such as pricing, demand for our products and services; our ability to execute our strategic plans, manage our risks, and achieve our business objectives; our ability to develop and maintain information security systems and controls designed to guard against fraud, cyber, and privacy risks; the effects of the COVID-19 pandemic (including variants) and associated actions such as shutdowns, vaccine mandates, testing requirements, and protests that may affect our business, employees, and communities; other national or international crises or conflicts that may occur in the future; and governmental and social responses to environmental issues and climate change. We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any of the forward-looking statements included herein to reflect future events or developments. ITEM 1. BUSINESS DESCRIPTION OF BUSINESS Zions Bancorporation, National Association (“Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) is a bank headquartered in Salt Lake City, Utah with annual net revenue (net interest income and noninterest income) of $2.9 billion in 2021, and total assets of $93 billion at December 31, 2021. We provide a wide range of banking products and related services, primarily in the states of Arizona, California, Colorado, Idaho, Nevada, New Mexico, Oregon, Texas, Utah, Washington, and Wyoming. We have more than one million customers, served by our 418 branches at year-end 2021. We had 9,685 full-time equivalent employees at December 31, 2021. At year end, we had a strong capital position, with a Common Equity Tier 1 (“CET1”) capital to total risk-weighted assets ratio of 10.2%, which is considered well capitalized under regulatory definitions. We conduct our operations primarily through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These affiliate banks comprise our primary business segments as referred to throughout this document. We emphasize local authority, responsibility, and pricing; and customization of certain products (as applicable) designed to maximize customer 4 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION satisfaction and strengthen community relations. For further information about our segments, see “Business Segment Results” on page 40 in Management's Discussion and Analysis (“MD&A”) and Note 22 of the Notes to Consolidated Financial Statements. We focus on serving our customers and communities. Our experienced bankers develop long-lasting relationships with our customers by providing competitive products and award-winning service. Building and sustaining these relationships is essential to understanding and meeting our customers’ needs. PRODUCTS AND SERVICES Some of the products and services we provide inclu • Commercial business banking. We serve a wide range of commercial customers, small- and medium-sized businesses, and large corporations, supported by our high-quality treasury, cash management, and digital banking products and services. Specialties within our commercial business banking inclu ◦ Municipal and public finance services ◦ Merchant and payment processing services ◦ Corporate cards ◦ Capital markets, syndication, and foreign exchange services ◦ Term real estate lending ◦ Construction and land development lending • Retail banking. We have a strong retail banking business in several of our markets, with competitive products and top-quality online and mobile offerings, focused on serving consumers and small businesses. Our retail banking products and services inclu ◦ Residential mortgages ◦ Home equity lines of credit ◦ Personal lines of credit and installment consumer loans ◦ Depository account services ◦ Consumer cards ◦ Personal trust services • Wealth management and private client banking. We offer various wealth management solutions to customers, which is one of the fastest growing segments of our company. Our planning-driven offerings combined with high-touch service and sophisticated asset management capabilities have resulted in substantial growth in assets under management. We also offer advanced business succession and estate planning services to our most complex business customers, helping prepare them for important transitions. COMPETITION We operate in a highly competitive environment. Our most direct competition for loans, deposits, and other banking services such as mortgage banking, merchant services, and payment processing comes from other commercial banks, credit unions, and financial technology companies. Some of these financial institutions do not have a physical presence in our market footprint, but solicit business via the internet and other means. We also compete with finance companies, mutual fund companies, insurance companies, brokerage firms, securities dealers, investment banking companies, financial technology companies (“fintech”), other nontraditional lending and banking companies, and a variety of other types of companies. Some of our competitors may have fewer regulatory constraints, and some have lower cost structures or tax burdens. Our key differentiators include the quality of service delivered, our local community knowledge, convenience of office locations, online banking functionality and other delivery methods, a wide range of products and services 5 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION offered, and the overall relationship with our clients. We strive to compete effectively in all of these areas to remain successful. SUPERVISION AND REGULATION This section describes the material elements of selected laws and regulations applicable to us. The descriptions are not intended to be complete and are qualified in their entirety by reference to the full text of the statutes and regulations described. The banking and financial services business in which we engage is highly regulated. Such regulation is intended to improve the stability of banking and financial companies and to protect the interests of customers and taxpayers. These regulations are not generally intended to protect the interests of our shareholders or creditors. Banking laws and regulations have given financial regulators expanded powers over many aspects of the financial services industry, which have reduced, and may continue to reduce, returns earned by shareholders. Furthermore, changes in applicable laws or regulations, and in their application by regulatory agencies cannot be predicted and may have a material effect on our business and results. General We are subject to the provisions of the National Bank Act and other statutes governing national banks, as well as the rules and regulations of the Office of the Comptroller of the Currency (“OCC”), the Consumer Financial Protection Bureau (“CFPB”), and the Federal Deposit Insurance Corporation (“FDIC”). We are also subject to examination and supervision by the OCC and examination by the CFPB in respect of federal consumer financial regulations. We, as well as some of our subsidiaries, are also subject to regulation by other federal and state agencies. These regulatory agencies may exert considerable influence over our activities through their supervisory and examination roles. Our brokerage and investment advisory subsidiaries are regulated by the Securities and Exchange Commission (“SEC”), Financial Industry Regulatory Authority (“FINRA”), and state securities regulators. The National Bank Act Our corporate affairs are governed by the National Bank Act, and related regulations are administered by the OCC. With respect to securities matters, we are not subject to the Securities Act, but are subject to OCC regulations governing securities offerings. Our common stock and certain other securities are registered under the Exchange Act, which vests the OCC with the power to administer and enforce certain sections of the Exchange Act applicable to national banks, though we continue to make filings required by the Exchange Act with the SEC as a voluntary filer. These statutory and regulatory frameworks are not as well-developed as the corporate and securities law frameworks applicable to many other publicly held corporations. The National Bank Act provides that under certain circumstances the common stock of a national bank is assessable, i.e., holders may be subject to a levy for more funds if so determined by the OCC. The OCC has confirmed that under the applicable provisions of the National Bank Act, assessability is limited to the par value of a national bank’s stock. Our common stock has a par value of $0.001. In addition, according to the OCC, it has not exercised its authority to levy assessments since 1933 and views the assessability authority as a mechanism for addressing capital deficiency that has long been overtaken by developments in statute and regulation, including robust capital standards, prompt corrective action requirements, and supervisory and enforcement authorities requiring an institution to maintain capital at a particular level. Capital Standards – Basel Framework At December 31, 2021, we met all capital adequacy requirements under the Basel III capital rules, which include certain risk-based capital and leverage ratio requirements prescribed by the OCC. The Basel III capital rules define the components of capital and risk weights, where applicable, and other factors affecting the numerator and denominator in banking institutions’ regulatory capital ratios. Under the Basel III capital rules, the minimum capital ratio requirements are as follows: • 4.5% CET1 to risk-weighted assets; • 6.0% Tier 1 capital (i.e., CET1 plus Additional Tier 1) to risk-weighted assets; 6 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION • 8.0% Total capital (i.e., Tier 1 plus Tier 2) to risk-weighted assets; and • 4.0% Tier 1 capital to average consolidated assets (known as the “Tier 1 leverage ratio”). The Basel III capital rules also require us to maintain a 2.5% “capital conservation buffer” designed to absorb losses during periods of economic stress, composed entirely of CET1, and in excess of the minimum risk-weighted asset ratios, effectively resulting in minimum ratios of (1) CET1 to risk-weighted assets of at least 7.0%, (2) Tier 1 capital to risk-weighted assets of at least 8.5%, and (3) Total capital to risk-weighted assets of at least 10.5%. Financial institutions with a ratio of CET1 to risk-weighted assets above the minimum, but below the capital conservation buffer, face constraints on dividends, equity repurchases, and compensation based on the amount of the shortfall. The severity of the constraint depends on the amount of the shortfall and the institution’s “eligible retained income,” which is defined as four quarters of trailing net income, net of distributions and associated tax effects not already reflected in net income. Capital Planning and Stress Testing We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions. Our 2021 internal stress test included hypothetical scenarios that reflected the ongoing economic impact of the COVID-19 pandemic. The results of the stress test indicated that we would maintain regulatory capital ratios at levels adequate for our risk profile throughout the nine-quarter horizon for the hypothetical stress test. Regulations promulgated under the Dodd-Frank Act require many banks to adhere to an annual Comprehensive Capital Analysis and Review (“CCAR”) process and stress testing administered by the Federal Reserve Board (“FRB”). We are not regulated by the FRB and therefore are not subject to this process. However, we use the FRB's CCAR process, including published economic scenarios, to inform our stress testing activities. Liquidity Our liquidity profile remained very strong during 2021. We manage liquidity in accordance with the Basel III liquidity requirements, and we utilize internal liquidity stress tests as our primary tool for establishing and managing liquidity guidelines including, but not limited to, holdings of investment securities and other liquid assets, maintaining levels of readily available contingency funding, concentrations of funding sources, and the maturity profile of liabilities. Financial Privacy and Cyber Security The federal banking regulators have enacted rules that limit the ability of banks and other financial institutions to disclose nonpublic information about consumers to unaffiliated third parties, including provisions of the Gramm-Leach-Bliley Act, which require financial institutions to disclose privacy policies to consumers and, in some circumstances, allow consumers to prevent disclosure of certain personal information to an unaffiliated third party. These regulations affect how consumer information is transmitted through diversified financial companies and conveyed to outside vendors. In addition, consumers may also prevent disclosure of certain information among affiliated companies that is assembled or used to determine eligibility for a product or service, such as that shown on consumer credit reports and asset and income information from applications. Consumers also have the option to direct banks and other financial institutions not to share information about transactions and experiences with affiliated companies for the purpose of marketing products or services. Federal law makes it a criminal offense, except in limited circumstances, to obtain or attempt to obtain customer information of a financial nature by fraudulent or deceptive means. State regulators have been increasingly active in implementing privacy and cybersecurity standards and regulations. Recently, several states have enacted regulations requiring certain financial institutions to implement cybersecurity programs and have provided detailed requirements with respect to these programs, including data encryption requirements. Many states have also recently implemented or modified their data breach notification and data privacy requirements. In June 2018, the California legislature passed the California Consumer Privacy Act of 2018 (the “CCPA”), which took effect on January 1, 2020 and which was further amended in November 2020 by the California Privacy Rights Act (the “CPRA”). The CCPA, as amended, covers businesses that obtain or access 7 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION personal information on California residents, grants them enhanced privacy rights and control over their personal information, and imposes significant requirements on covered companies with respect to individual data privacy rights. Some of the rights afforded to California residents also extend to California employees, though the CPRA amendments now exempt certain employee information and employer usage from some of the CPRA provisions until at least January 1, 2023. Other states have implemented, or are considering, similar privacy laws. We expect this trend of state-level activity to continue and are continually monitoring developments in the states in which we operate. Data and cybersecurity laws and regulations are evolving rapidly, remain a focus of state and federal regulators, are likely to be the subject of future rule making, and will continue to have a significant impact on our risk management practices. Prompt Corrective Action The Federal Deposit Insurance Corporation Improvement Act (“FDICIA”) requires each federal banking agency to take prompt corrective action to resolve identified problems of insured depository institutions, including, but not limited to, those that fall below one or more prescribed minimum capital ratios. Pursuant to FDICIA, the FDIC promulgated regulations defining the following five categories in which an insured depository institution will be placed, based on the level of its capital ratios: well-capitalized, adequately capitalized, under-capitalized, significantly under-capitalized, and critically under-capitalized. Under the prompt corrective action provisions of FDICIA as modified by the Basel III capital rules, an insured depository institution will generally be classified as well-capitalized if it has a CET1 ratio of at least 6.5%, a Tier 1 risk-based capital ratio of at least 8%, a total risk-based capital ratio of at least 10%, and a Tier 1 leverage ratio of at least 5%. An insured depository institution will generally be classified as under-capitalized if it has a CET1 ratio less than 4.5%, a Tier 1 risk-based capital ratio less than 6%, a total risk-based capital ratio less than 8%, and a Tier 1 leverage ratio less than 4%. At December 31, 2021, our capital ratios exceeded those required for an institution to be considered well capitalized under these regulations. An institution that is classified as well-capitalized, adequately capitalized, or under-capitalized, may be treated as though it were in the next lower capital category if the appropriate federal banking agency, after notice and opportunity for hearing, determines that an unsafe or unsound condition or an unsafe or unsound practice warrants such treatment. At each successive lower capital category, an insured depository institution is subject to more restrictions and prohibitions, including restrictions on growth, interest rates paid on deposits, the acceptance of brokered deposits, and restrictions or prohibitions on the payment of dividends. Furthermore, if a bank is classified in one of the under-capitalized categories, it is required to submit a capital restoration plan to the federal bank regulator add back some language taken out. Other Regulations We are subject to a wide range of other requirements and restrictions contained in both federal and state laws. These regulations include, but are not limited to, the followin • Limitations on dividends payable to shareholders. Our ability to pay dividends on both our common and preferred stock is subject to regulatory restrictions. See Note 15 of the Notes to Consolidated Financial Statements for additional information. • Safety and soundness standards prescribed in the FDICIA, including standards related to internal controls, information systems, internal audit, loan documentation, credit underwriting, interest rate exposure, asset growth and compensation, as well as other operational and management standards deemed appropriate by the federal banking agencies. • Requirements for approval of acquisitions and restrictions on other activities. The National Bank Act requires regulatory and shareholder approval of all mergers between a national bank and another national or state bank and do not allow for the direct merger into a national bank of a unaffiliated nonbank. See discussion under “Risk Factors.” Other laws and regulations governing national banks contain similar provisions concerning acquisitions and activities. 8 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION • Limits on interchange fees imposed under the Dodd-Frank Act, including a set of rules requiring that interchange transaction fees for electronic debit transactions be reasonable and proportional to certain costs associated with processing the transactions. • Limitations on the dollar amount of loans made to a borrower and its affiliates. • Limitations on transactions with affiliates. • Restrictions on the nature and amount of any investments and ability to underwrite certain securities. • Requirements for opening of branches. • A number of federal and state consumer protection laws, including fair lending and truth in lending requirements, to provide equal access to credit and to protect consumers in credit transactions. In addition, as a bank with $10 billion or more in assets, we are subject to examination and primary enforcement authority with respect to consumer financial laws by the CFPB, which has broad rule making, supervisory and enforcement powers under various federal consumer financial protection laws. • Community Reinvestment Act (“CRA”) requirements. The CRA requires banks to help serve the credit needs in their communities, including providing credit to low- and moderate-income individuals. If we fail to adequately serve our communities, penalties may be imposed including denials of applications to add branches, relocate, add subsidiaries and affiliates, and merge with or purchase other financial institutions. • Requirements regarding the time, manner, and form of compensation given to key executives and other personnel receiving incentive compensation. These restrictions include documentation and governance, deferral, risk-balancing, and clawback requirements. Any deficiencies in compensation practices may be incorporated into supervisory ratings, which can affect our ability to make acquisitions or engage in certain other activities, or could result in regulatory enforcement actions. • Anti-money laundering regulations. The Bank Secrecy Act, Title III of the Uniting and Strengthening of America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (“USA Patriot Act”), and other federal laws require financial institutions to assist United States (“U.S.”) government agencies in detecting and preventing money laundering and other illegal acts by maintaining policies, procedures and controls designed to detect and report money laundering, terrorist financing, and other suspicious activity. We are subject to the Sarbanes-Oxley Act of 2002, certain provisions of the Dodd-Frank Act, and other federal and state laws and regulations which address, among other issues, corporate governance, auditing and accounting, and enhanced and timely disclosure of corporate information. The National Association of Securities Dealers Automated Quotations (“NASDAQ”) market has also enacted corporate governance rules, including director diversity standards, which are intended to allow shareholders and investors to more easily and efficiently monitor the performance of companies and the independence, diversity, and effectiveness of their directors. Environmental, social, and governance (“ESG”) standards and concerns continue to evolve and have become more prominent in recent years. We are closely monitoring developments in standards published by ESG interest groups and organizations, as well as proposed regulatory initiatives and expectations relating to ESG issues. Although we believe the way we do business has been and is consistent with many of these standards and expectations, our ongoing monitoring enables us to enhance our business practices by incorporating ESG recommendations that we believe will benefit our investors, customers, employees, and communities. We publish a Corporate Responsibility Report that provides a summary of how we address ESG issues. The report is available on our website. Our Board of Directors (“Board”) has overseen management’s establishment of a comprehensive system of corporate governance and risk management practices. This system includes frameworks, policies, and guidelines such as Corporate Governance Guidelines; a Code of Business Conduct and Ethics for Employees; a Directors Code of Conduct; a Risk Management Framework; a Related Party Transaction Policy; Stock Ownership and Retention Guidelines; a Compensation Clawback Policy; an Insider Trading Policy, including provisions prohibiting hedging and placing restrictions on the pledging of bank stock by insiders; and charters for the Executive, Audit, Risk Oversight, Compensation, and Nominating and Corporate Governance Committees. More information on our 9 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION corporate governance practices is available on our website at zionsbancorporation.com. Our website is not part of this Form 10-K. HUMAN CAPITAL MANAGEMENT We are proud of our employees who bring their unique, diverse talents to work each day. We are committed to identifying, recognizing, and creating fulfilling opportunities for our employees, and rewarding them for their contributions to our success. The COVID-19 pandemic continued to have a significant impact on how we work and the work we perform. Since the beginning of the pandemic in 2020, we successfully transitioned approximately 70% of our employees to working remotely. We implemented additional programs to promote mental health and wellness, as well as policies and procedures to keep our employees safe, including work-from-home arrangements, elevated cleaning standards of our facilities, required masking, and we strongly encourage our employees to be fully vaccinated. We continue to monitor and adjust our policies and procedures to keep our people safe. As the pandemic subsides and vaccination rates increase, we look forward to returning to our offices in-person more regularly. We believe that in-person exchange of ideas and viewpoints, in both formal and informal settings, improves productivity and supports a strong corporate culture. The number of full-time equivalent employees at December 31, 2021 totaled 9,685, and remained relatively flat from the prior year period. The following schedule presents certain demographic attributes of our employees at December 31, 2021. Schedule 1 Women People of Color Disabled Veterans Employee Roles Management 51 % 27 % 11 % 3 % Non-management 60 % 38 % 12 % 2 % Overall 58 % 35 % 12 % 3 % The following objectives and initiatives are integral to our human capital management efforts: Cultivating a diverse, equitable, and inclusive environment for our employees, our customers, and the communities in which we operate We believe in an environment where people are respected and valued, regardless of their differences. We also believe that our performance is stronger when we are able to draw upon the talents and experience of a diverse team of employees. We use analytics, recruiting outreach efforts, and manager training to reach a diverse, qualified group of potential applicants to secure and retain a high-performing workforce drawn from all segments of society. To identify qualified candidates, our recruiting team partners with community organizations, schools, and governmental entities that support marginalized and underserved communities in our footprint. Our 2021 Corporate Responsibility Report highlights several achievements in this area. For example, in our 2021 Banker Development Program that attracts and advances undergraduates and early-career professionals, 53% of participants were women and 38% were people of color. Of the participants in our 2021 college internship program, 30% were women and 28% were people of color. We have instituted enterprise-wide and affiliate diversity, equity, and inclusion councils; employee business forums; regional inclusion champions; mental health initiatives; and a broad range of employee and community events. Throughout the organization, employee business resource groups foster a sense of community and enable greater connectivity and support among employees through forum meetings and discussions, which are open to all 10 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION employees and offer networking and initiatives that support our commitment to diversity, both internally and externally. Attracting, developing, and retaining talent for long-term success We are committed to attracting, developing, and retaining the most qualified individuals who reflect the diversity of the markets in which we operate, to helping our employees grow in their careers, and to actively building a pipeline of talent for future leadership opportunities. As we attract and hire talent, we proactively consider the demand for competencies that will be needed within the workforce of the future. We offer more than 2,000 virtual, in-person, and pre-recorded or self-paced learning options for employees to create tailored learning plans for personal and professional development. In 2021, we hosted more than 900 training experiences to support employees, build new skills, or to assist in career advancement. We offer new manager programs, tuition reimbursement, education sponsorship opportunities, job shadowing, coaching, and formal mentoring programs. Of the participants in our 2021 mentor program, 53% were women and 25% were people of color. Our talent development program and individual development plans focus on education, experience, and exposure to help create well-rounded and successful employees. We are also mindful of the increasing competition for talent in the current labor market. Our overall 2021 turnover rates and time-to-fill for vacancies were comparable to the annual rates we experienced prior to the pandemic. We continue to analyze relevant metrics related to employee recruiting and turnover, which has and will continue to impact wages and flexible work arrangements. Recognizing, engaging, and rewarding our employees We support a culture of integrity, engagement, and achievement through comprehensive rewards and recognition. Our programs are designed to enhance the employee experience, drive retention, promote recognition, and reward high performance. We provide meaningful upside opportunities for those who take accountability for business objectives that help us deliver superior results while reducing risk. We routinely assess pay equity among employees across our organization by analyzing potential disparities in pay based on gender, minority status, and other factors. These actions help us compensate employees fairly. During 2021, we enlisted the services of an independent third party that found after adjusting for relevant variables such as education, experience, performance, and geography, women are paid, on average, approximately 99% of what men are paid, and people of color are paid approximately 98% of what white employees are paid. Our employees provide regular feedback through enterprise outreach and engagement forums, which include quarterly leadership calls, biannual employee opinion surveys, and targeted focus groups. These forums for employee input continue to help strengthen working relationships with managers, improve clarity of organizational purpose and goals, and reinforce our Guiding Principles and Code of Business Conduct and Ethics. We value work-life balance and strive to create a work environment that supports our employees with mental, physical, social, and financial wellness. Some of our key benefits include the followin • Corporate match for our 401(k) plan of 4.5% of an employee’s salary and incentive compensation; • Annual profit-sharing contributions; • Health care plan options including behavioral health, wellness, and autism spectrum disorder services; • Preventive prescription drug coverage not subject to deductibles; • Paid parental program allowing time off for mothers, fathers, and domestic partners; • Adoption assistance program; and • Paid time off for various community service activities and other volunteer opportunities. 11 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ITEM 1A. RISK FACTORS We generate revenue and grow our businesses by taking prudent and appropriately priced risks. These risks are outlined in our Risk Management Framework. Our Board has established an Audit Committee, a Compensation Committee, a Risk Oversight Committee (“ROC”), and appointed an Enterprise Risk Management Committee (“ERMC”) to oversee and implement the Risk Management Framework. The ERMC is comprised of senior management and is chaired by the Chief Risk Officer. Our largest risk exposure has traditionally come from the acceptance of credit risk inherent in extensions of credit to customers. In addition to credit risk, these committees also monitor the following risk areas: market and interest rate risk; liquidity risk; strategic and business risk; operational risk; technology risk; cyber risk; capital/financial reporting risk; legal/compliance risk (including regulatory risk); and reputational risk, as outlined in our risk taxonomy. We have developed policies, procedures, and controls designed to address these risks, but there can be no certainty that our actions will be effective to prevent or limit the effects of these risks on our business or performance. Although not comprehensive, risk factors that are material to us are described below. Credit Risk Credit quality has adversely affected us in the past and may adversely affect us in the future. Credit risk is one of our most significant risks. A decline in the strength of the U.S. economy in general or the local economies in which we conduct operations could result in, among other things, deterioration in credit quality and/or reduced demand for credit, including a resultant adverse effect on the income from our loan and investment portfolios, an increase in charge-offs, and an increase in the allowance for credit losses (“ACL”). We have concentrations of risk in our loan portfolio, including loans secured by real estate, oil and gas-related lending, and leveraged and enterprise value lending, which may have unique risk characteristics that may adversely affect our results. Concentration or counterparty risk could adversely affect us. Concentration risk across our loan and investment securities portfolios could pose significant additional credit risk to us due to similar exposures between the two asset types. Counterparty risk arising from derivative or securities financing transactions could also pose additional credit risk. We engage in commercial real estate (“CRE”) term and construction and land acquisition and development lending, primarily in our Western states footprint. We also have a concentration in oil and gas-related lending, primarily in Texas, as well as concentrations in leveraged and enterprise value lending across our entire footprint. These concentrations are subject to specific risks, including governmental and social responses to environmental issues and climate change, volatility, and potential significant and prolonged declines in collateral values and activity levels. We may have other unidentified concentrated or correlated risks in our loan portfolio. Our business is highly correlated to local economic conditions in a specific geographic region of the U.S. We provide a wide range of banking products and related services through our local management teams and unique brands in Arizona, California, Colorado, Idaho, Nevada, New Mexico, Oregon, Texas, Utah, Washington, and Wyoming. At December 31, 2021, loan balances associated with our banking operations in Utah/Idaho, Texas, and California comprised 77% of the commercial lending portfolio, 73% of the CRE lending portfolio, and 71% of the consumer lending portfolio. As a result of this geographic concentration, our financial performance depends largely upon economic conditions in these market areas. Accordingly, deterioration in economic conditions, such as that caused by climate change or natural disasters, may specifically affect these states, and could result in higher credit losses and significantly affect our consolidated operations and financial results. For information about how we manage credit risk, see “Credit Risk Management” on page 48 in MD&A. 12 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Market and Interest Rate Risk We could be negatively affected by adverse economic conditions. Adverse economic conditions negatively affect our business, including our loan and investment portfolios, capital levels, results of operations, and financial condition. Prolonged periods of slow growth, significant inflationary pressures, volatility and disruption in financial markets, continued uncertainties and disruptions arising from the COVID-19 pandemic (including the emergence of new variants), and other adverse economic conditions could lead to lower demand for loans, higher credit losses, and lower fee income, among other effects. Failure to effectively manage our interest rate risk could adversely affect our results. Net interest income is the largest component of our revenue. Interest rate risk is managed by the Asset Liability Management Committee. Factors beyond our control can significantly influence the interest rate environment and increase our risk. These factors include changes in the prevailing interest rate environment, competitive pricing pressures for our loans and deposits, adverse shifts in the mix of deposits and other funding sources, and volatile market interest rates resulting from general economic conditions and the policies of governmental and regulatory agencies, in particular the FRB. As interest rates on earning assets decline, our cost of funds may not decline commensurately. Conversely, rising rates may result in our cost of funds increasing more than expected. Some components of our balance sheet are very sensitive to rising and falling rates. Interest rates on our financial instruments are subject to change based on developments related to LIBOR, which could adversely impact our revenue, expenses, and value of those financial instruments. The London Interbank Offered Rate (“LIBOR”) is being phased out globally, and U.S. banking regulators instructed banks to cease entering into new lending arrangements using LIBOR no later than December 31, 2021, and migrate to alternative reference rates no later than June 2023. The adoption of alternative reference rates continues to evolve in the marketplace. The market transition away from LIBOR is complex and could have a range of adverse effects on our business, financial condition, and results of operations. In particular, any such transition coul • adversely affect the interest rates paid or received on, and the value of, our floating-rate obligations, loans, deposits, derivatives, and other financial instruments indexed to LIBOR, or other securities or financial arrangements given LIBOR’s dominant role in determining market interest rates globally; • require consent from counterparties regarding the amendment of certain outstanding contracts indexed to LIBOR; • result in disputes, litigation or other actions with counterparties regarding the interpretation and enforceability of certain fallback language in financial instruments; and • require the transition to, or development of, appropriate systems and analytics to effectively transition our risk management processes from LIBOR-based products to those based on the applicable alternative pricing benchmarks. The manner and impact of this transition, as well as the effect of these developments on our funding costs, loan and investment portfolios, asset-liability management, and business, is uncertain. For information about how we manage the transition from LIBOR, interest rate risk, and market risk, see “Interest Rate and Market Risk Management” on page 57 in MD&A. Liquidity Risk We and the holders of our securities could be adversely affected by unfavorable rating actions from rating agencies. Our ability to access the capital markets is important to our overall funding profile. This access is affected by the ratings assigned to us by rating agencies. The rates we pay on our securities are also influenced by, among other things, the credit ratings that we and our securities receive from recognized rating agencies. Ratings downgrades to 13 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION us or our securities could increase our costs or otherwise have a negative effect on our liquidity position, financial condition or the market prices of our securities. Changes in sources of liquidity and capital and liquidity requirements may limit our operations and potential growth. Our primary source of liquidity is deposits from our customers, which may be impacted by market-related forces and a variety of other events. Liquidity requirements and sources are also subject to comprehensive supervision by the OCC and the FDIC. For information about how we manage liquidity risk, see “Liquidity Risk Management” on page 62 in MD&A. Strategic and Business Risk Problems encountered by other financial institutions could adversely affect financial markets generally and have indirect adverse effects on us. The soundness and stability of many financial institutions may be closely interrelated as a result of credit, trading, clearing, or other relationships between the institutions. As a result, concerns about, or a default or threatened default by, one institution could lead to significant market-wide liquidity and credit problems, losses or defaults by other institutions. This is sometimes referred to as “systemic risk” and may adversely affect financial intermediaries, such as clearing agencies, clearing houses, banks, securities firms, and exchanges, with which we interact on a daily basis, and therefore, could adversely affect us. We may not be able to hire or retain qualified personnel or effectively promote our corporate culture, and recruiting and compensation costs may increase as a result of changes in the workplace, marketplace, economy, and regulatory environment. Our ability to execute our strategy, provide services, and remain competitive may suffer if we are unable to recruit or retain qualified people, or if the costs of employee compensation and benefits increase substantially. Bank regulatory agencies have published regulations and guidance that limit the manner and amount of compensation that banking organizations provide to employees. These regulations and guidance may adversely affect our ability to attract and retain key personnel. Some of these limitations may not apply to institutions with which we compete for talent, in particular, as we are more frequently competing for personnel with financial technology providers and other entities that may not have the same limitations on compensation as we do. If we were to suffer such adverse effects with respect to our employees, our business, financial condition and results of operations could be adversely or materially affected. Our ability to retain talent may also be adversely affected by changes in the economy and workforce trends, priorities, migration, modes of delivery and other considerations, such as the increased ability of employees to work from anywhere in many industries. This growth in remote work and other changing priorities and benefits has led to an increase in compensation and related expenses and workplace challenges, such as fewer opportunities for face-to-face interactions, training and mentoring new employees, promoting a cohesive corporate culture, and increased competition for experienced labor, especially in high-demand and highly-skilled categories. Inflationary pressures have also increased our compensation costs and are likely to continue to do so in the future. We have made, and are continuing to make, significant changes that include, among other things, organizational restructurings, efficiency initiatives, and replacement or upgrades of technology systems to improve our control environment and operating efficiency. The ultimate success and completion of these changes, and their effects on us, may vary significantly from initial planning, which could materially adversely affect us. Over the last several years, we have completed numerous improvement projects, including the merger of our bank holding company into the Bank; combining the legal charters of our seven affiliate banks into one; consolidating 15 loan operations sites into two; replacing our core loan systems; upgrading our accounting systems; installing a credit origination work flow system; streamlining our small business and retail lending, mortgage, wealth management and foreign exchange businesses; and investing in data quality and information security. 14 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Ongoing investments continue in a variety of strategic projects designed to improve our products and services and to simplify how we do business. These projects include the replacement of our core deposit systems, the development of a collection of customer-facing digital capabilities such as improved online and mobile banking applications and services, and the enhancement of the online treasury management portal for our business customers. These initiatives and other changes continue to be implemented and are in various stages of completion. By their very nature, projections of duration, cost, expected savings, expected efficiencies, and related items are subject to change and significant variability. There can be no certainty that we will achieve the expected benefits or other intended results associated with these projects. Operational Risk Catastrophic events including, but not limited to, hurricanes, tornadoes, earthquakes, fires, floods, prolonged drought, and pandemics may adversely affect us and the general economy, financial and capital markets, and specific industries. The occurrence of pandemics, natural disasters, and other catastrophic events could adversely affect our operations. We have significant operations and number of customers in Utah, Texas, California, and other regions where natural and other disasters have and are likely to continue to occur. These regions are known for being vulnerable to natural disasters and other risks, such as hurricanes, tornadoes, earthquakes, fires, floods, prolonged droughts, and other weather-related events, which may become more frequent and intense. These types of catastrophic events at times have disrupted the local economy, our business and customers, and have posed physical risks to our property. In addition, catastrophic events occurring in other regions of the world may have an impact on us and our customers. A significant catastrophic event could materially and adversely affect our operations and financial results. Our operations could be disrupted by the effects of our new and ongoing projects and initiatives. We may encounter significant operational disruption arising from our numerous projects and initiatives. These may include significant time delays, cost overruns, loss of key people, technological problems, and processing failures. We may also experience operational disruptions due to capacity constraints, service level failures and inadequate performance, the level of concentration, replacement costs, and other risks arising from our dependence on third-party vendors. Any or all of these issues could result in disruptions to our systems, processes, control environment, procedures, and employees. The ultimate effect of any significant disruption to our business could subject us to additional regulatory scrutiny or expose us to civil litigation and possible financial liability, any of which could materially affect us, including our control environment, operating efficiency, and results of operations. We could be adversely affected by failure in our internal controls. Because of their inherent limitations, internal controls over financial reporting may not prevent or detect misstatements. A failure in our internal controls could have a significant negative impact not only on our earnings, but also on the perception that customers, regulators, and investors may have of us and adversely affect our business and our stock price. We could be adversely affected by internal and external fraud schemes. Attempts to commit fraud by both internal and external actors are becoming increasingly more sophisticated and may go undetected by the systems and procedures we have in place to monitor our operations. We have suffered losses in the past as a result of these schemes and will not be able to identify, prevent, or otherwise mitigate all instances of fraud in the future that have the potential to result in material losses. We use models in the management of the Bank. There is risk that these models are inaccurate in various ways, which can cause us to make suboptimal decisions. We rely on models in the management of the Bank. For example, we use models to inform our estimate of the allowance for credit losses, to manage interest rate and liquidity risk, to project stress losses in various segments of our loan and investment portfolios, and to project net revenue under stress. Models are inherently imperfect for a number of reasons and cannot perfectly predict outcomes. Management decisions based in part on such models, therefore, may be suboptimal. 15 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION We outsource various operations to third-party vendors which could adversely impact our business and operational performance. We rely on various vendors to perform operational activities to conduct our business. Although there are benefits in entering into these relationships, there are risks associated with such activities. Our operational controls and third-party management programs may not provide adequate oversight and control, and inadequate performance by third parties can adversely affect our ability to deliver products and services to our customers and conduct our business. Replacing or finding alternatives for vendors who do not perform adequately can be difficult and costly, and may also adversely impact our customers and other operations, particularly when circumstances require us to make changes under tight time constraints. Many of our vendors have experienced adverse effects upon operations, supply chains, personnel, and businesses arising from COVID-19 and other events, all of which can impact our operations as well. For information about how we manage operational risk, see “Operational, Technology, and Cyber Risk Management” on page 65 in MD&A. Technology Risk We could be adversely affected by our ability to develop, adopt, and implement technology advancements. Our ability to remain competitive is increasingly dependent upon our ability to maintain critical technological capabilities, and to identify and develop new, value-added products for existing and future customers. These technological competitive pressures arise from both traditional banking and non-traditional sources. Larger banks may have greater resources and economies of scale attendant to maintaining existing capabilities and developing digital and other technologies. Fintechs and other technology platform companies continue to emerge and compete with traditional financial institutions across a wide variety of products and services. The expansion of blockchain technologies and the potential creation and adoption of central bank digital currencies present similar risks. Our failure to remain technologically competitive could impede our time to market and reduce customer satisfaction, product accessibility, and relevance. We could be adversely impacted by system vulnerabilities, failures, or outages impacting operations and customer services such as online and mobile banking. We rely on hundreds of information technology systems that work together in supporting internal operations and customer services. Vulnerabilities in, or a failure or outage of, one or many of these systems could impact the ability to perform internal operations and provide services to customers such as online banking, mobile banking, remote deposit capture, and other services dependent on system processing. These risks increase as systems and software approach the end of their useful life or require more frequent updates and modifications. We cannot guarantee that such occurrences will not have a significant operational or customer impact. For information regarding risks associated with the replacement or upgrades of our core technology systems, see “Strategic and Business Risk” on page 14 in Risk Factors. For information about how we manage technology risk, see “Operational, Technology, and Cyber Risk Management” on page 65 in MD&A. Cyber Risk We are subject to a variety of system failure and cyber security risks that could adversely affect our business and financial performance. We rely heavily on communications and information systems to conduct our business. We, our customers, and other financial institutions with which we interact, are subject to ongoing, continuous attempts to penetrate key systems by individual hackers, organized criminals, and in some cases, state-sponsored organizations. Information security risks for large financial institutions have increased significantly in recent years, in part because of the proliferation of new technologies and internet connections (e.g., Internet of Things, the internet, and mobile banking to conduct financial transactions) and the increased sophistication and activities of organized crime, hackers, terrorists, nation-states, activists, and other external third parties. 16 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Third parties, including vendors and suppliers, also present operational and information security risks to us, including security breaches or failures of their own systems. In incidents involving third parties, we may not be informed timely of any effect on our services or our data, or be able to participate in any investigation, notification, or remediation that occurs as a result. Any such incidents may have a material adverse effect upon our operations, reputation, customers, and services. The possibility of third-party or employee error, failure to follow security procedures, or malfeasance also presents these risks. As cyber threats continue to evolve, we will be required to expend significant additional resources to continue to modify or enhance our layers of defense or to investigate or remediate any information security vulnerabilities. We, and our third-party vendors, have experienced security breaches due to cyberattacks in the past that have not had material impact to our data, customers, or operations, but there can be no assurance that any such failure, interruption, or significant security breach will not occur in the future, or, if any future occurrences will be adequately addressed . It is impossible to determine the severity or potential effects of these events with any certainty, but any such breach could result in material adverse consequences for us and our customers. System enhancements and updates may also create risks associated with implementing new systems and integrating them with existing ones. Due to the complexity and interconnectedness of information technology systems, the process of enhancing our layers of defense can itself create a risk of systems disruptions and security issues. In addition, addressing certain information security vulnerabilities, such as hardware-based vulnerabilities, may affect the performance of our information technology systems. The ability of our hardware and software providers to deliver patches and updates to mitigate vulnerabilities and our ability to implement them in a timely manner can introduce additional risks, particularly when a vulnerability is being actively exploited by threat actors. The occurrence of any failure, interruption or security breach of our information systems could damage our reputation, result in a loss of customer business, subject us to additional regulatory scrutiny, or expose us to civil litigation and possible financial liability. For information about how we manage cyber risk, see “Operational, Technology, and Cyber Risk Management” on page 65 in MD&A. Capital/Financial Reporting Risk Internal stress testing and capital management, as well as provisions of the National Bank Act and OCC regulations, may limit our ability to increase dividends, repurchase shares of our stock, and access the capital markets. We are required to submit stress tests to the OCC because we have assets in excess of $10 billion, and we continue to utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions. The stress testing and other applicable regulatory requirements may, among other things, require us to increase our capital levels, limit our dividends or other capital distributions to shareholders, modify our business strategies, or decrease our exposure to various asset classes. Under the National Bank Act and OCC regulations, certain capital transactions, including share repurchases, are subject to the approval of the OCC. These requirements may limit our ability to respond to and take advantage of market developments. Economic and other circumstances may require us to raise capital at times or in amounts that are unfavorable to us. We must maintain certain risk-based and leverage capital ratios, as required by our banking regulators, which can change depending upon general economic conditions, as well as the particular conditions, risk profiles, and our growth plans. Compliance with capital requirements may limit our ability to expand and has required, and may require, us to raise additional capital. These uncertainties and risks, including those created by legislative and regulatory uncertainties, may increase our cost of capital and other financing costs. 17 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION We could be adversely affected by accounting, financial reporting, and regulatory compliance risk. We are exposed to accounting, financial reporting, and regulatory compliance risk. We use a number of complex financial products and services for our own capital, funding, investment and risk management needs, and also provide them to our customers. Estimates, judgments, and interpretations of complex and changing accounting and regulatory policies are required in order to provide and account for these products and services. Changes in our accounting policies or in accounting standards could materially affect how we report our financial results and conditions. The level of regulatory compliance oversight continues to be heightened. Therefore, identification, interpretation, and implementation of complex and changing accounting standards, as well as compliance with regulatory requirements, pose an ongoing risk. The value of our goodwill may decline in the future. At December 31, 2021, we had $1 billion of goodwill that was allocated to Amegy Bank (“Amegy”), California Bank & Trust (“CB&T”) and Zions Bank. If the fair value of a reporting unit is determined to be less than its carrying value, we may have to take a charge related to the impairment of our goodwill. Such a charge could result from, among other factors, a significant decline in our expected future cash flows or a sustained decline in the price of our common stock. For information about how we manage capital, see “Capital Management” on page 66 in MD&A. Legal/Compliance Risk Laws and regulations applicable to us and the financial services industry impose significant limitations on our business activities and subject us to increased regulation and additional costs. We, and the entire financial services industry, have incurred, and will continue to incur, substantial costs related to personnel, systems, consulting, and other activities in order to comply with banking regulations. See “Supervision and Regulation” on page 6 for further information about the regulations applicable to us and the financial services industry generally. Regulators, the U.S. Congress, state legislatures, and other governing or consultative bodies continue to enact rules, laws, and policies to regulate the financial services industry and public companies, including laws that are designed to promote, protect, or penalize certain activities or industries and their access to financial services. We are, and may in the future become, subject to these laws by offering our products and services to certain industries or in certain locations. The nature of these laws and regulations and their effect on our future business and performance cannot be predicted. There can be no assurance that any or all of these regulatory changes or actions will ultimately be enacted. However, if enacted, some of these proposals could adversely affect us by, among other thi impacting after-tax returns earned by financial services firms in general; limiting our ability to grow; increasing FDIC insurance assessments, taxes or fees on our funding or activities; limiting the range of products and services that we could offer; and requiring us to raise capital at inopportune times. Political developments may also result in substantial changes in tax, international trade, immigration, and other policies. The extent and timing of any such changes are uncertain, as are the potential direct and indirect impacts, whether beneficial or adverse. Regulations and laws may be modified or repealed, and new legislation may be enacted that will affect us and our subsidiaries. The ultimate impact of these proposals cannot be predicted as it is unclear which, if any, may be enacted. We could be adversely affected by legal and governmental proceedings. We are subject to risks associated with legal claims, litigation, and regulatory and other government proceedings. Our exposure to these proceedings has increased and may further increase as a result of stresses on customers, counterparties, and others arising from the past or current economic environments, more frequent claims and actions resulting from fraud schemes perpetrated by or involving our customers, new regulations promulgated under recently enacted statutes, the creation of new examination and enforcement bodies, and enforcement and legal 18 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION actions against banking organizations. Any such matters may result in material adverse consequences to our results of operations, financial condition or ability to conduct our business, including adverse judgments, settlements, fines, penalties (e.g., civil money penalties under applicable banking laws), injunctions, restrictions on our business activities, or other relief. Our involvement in any such matters, even if the matters are ultimately determined in our favor, could also cause significant harm to our reputation and divert management attention from the operation of our business. In general, the amounts paid by financial institutions in settlement of proceedings or investigations, have been increasing dramatically. This has affected and will continue to adversely affect our ability to obtain insurance coverage for certain claims and significantly increase our deductibles and premiums associated with the coverage. In addition, any enforcement matters could impact our supervisory and CRA ratings, which may restrict or limit our activities. The corporate and securities laws applicable to us are not as well-developed as those applicable to a state-chartered corporation, which may impact our ability to effect corporate transactions in an efficient and optimal manner. Our corporate affairs are governed by the National Bank Act, and related regulations are administered by the OCC. As to securities laws, the OCC maintains its own securities offering framework applicable to national banks and their securities offerings, and our compliance with the Exchange Act is governed and enforced by the OCC. State corporate codes, including that of Utah, are widely recognized, updated by legislative action from time-to-time, and are often based on and influenced by model statutes. The federal securities law regime established by the Securities Act and the Exchange Act and the SEC’s extensive and well-developed framework thereunder are widely used by public companies. The OCC statutory and regulatory frameworks have been used by publicly-traded banking organizations relatively rarely and are not as well-developed as the corporate and securities law frameworks applicable to other public corporations. While certain specific risks associated with operating under these frameworks are described below, unless and until these frameworks are further developed and established over time, the uncertainty of how these frameworks might apply to any given corporate or securities matters may prevent us from effecting transactions in an efficient and optimal manner or perhaps at all. Differences between the National Bank Act and state law requirements regarding mergers could hinder our ability to execute acquisitions as efficiently and advantageously as bank holding companies or other financial institutions. Unlike state corporate law, the National Bank Act requires shareholder approval of all mergers between a national bank and another national or state bank and does not allow for exceptions in the case of various “minor” mergers, such as a parent company’s merger with a subsidiary or an acquirer’s merger with an unaffiliated entity in which the shares issued by the acquirer do not exceed a designated percentage. The National Bank Act and related regulations may also complicate the structuring of certain nonbank acquisitions. These differences could adversely affect the ability of the Bank and other banks registered under the National Bank Act to efficiently consummate acquisition transactions. In addition, such differences could make us less competitive as a potential acquirer in certain circumstances given that our acquisition proposal may be conditioned on shareholder approval while our competitors’ proposals will not have such a condition. We are subject to restrictions on permissible activities that would limit the types of business we may conduct and that may make acquisitions of other financial companies more challenging. Under applicable laws and regulations, bank holding companies and banks are generally limited to business activities and investments that are related to banking or are financial in nature. The range of permissible financial activities is set forth in the Gramm-Leach-Bliley Act and is more limited for banks than for bank holding company organizations. The differences relate mainly to insurance underwriting (but not insurance agency activities) and merchant banking (but not broker-dealer and investment advisory activities). The fact that we do not have a bank holding company could make future acquisitions of financial institutions with such operations more challenging. 19 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Reputational Risk We are presented with various reputational risk issues that could stem from operational, regulatory, compliance, and legal risks. Any of the aforementioned risks may give rise to adverse publicity and other expressions of negative public opinion, increased regulatory scrutiny, and damaged relationships among other reputational risks. Other Risk Our business, financial condition, liquidity and results of operations have been, and will likely continue to be, adversely affected by the COVID-19 pandemic. The COVID-19 pandemic created economic, financial, and social disruptions that have adversely affected, and are likely to continue to adversely affect, our business, financial condition, and results of operations, including the direct and indirect impact on our employees, customers, communities, counterparties, service providers, other market participants, and actions taken by governmental authorities and other third parties in response to the pandemic. The pandemic is likely to continue to affect consumer confidence and business activity generally, including loan demand, deposit levels, and the market for other financial products or services. Disruptions in supply chains have in some instances adversely affected our ability to procure equipment and materials for our employees and facilities in a timely fashion and may increase our costs for the same. Pressures on the cost and availability of labor have also negatively affected us and many of our customers. These disruptions are likely to continue as the pandemic evolves. The extent to which the COVID-19 pandemic will negatively affect our businesses, financial condition, liquidity, and results of operations will depend on future developments that are highly uncertain and cannot be predicted. Uncertainties arising from evolving political and governmental responses to the pandemic, such as vaccine and testing mandates and other workplace policies and requirements, will also continue to impact our business and results, particularly as more of our employees return to our physical locations. The long-term effects of the pandemic and the increasing interest in remote-work environments may reduce our need for physical office space while negatively impacting our ability to sell or sublease any excess space or selling and lease termination expenses associated with our leased and owned properties. ESG-related developments could lead or require us to restrict or modify some of our business activities. ESG expectations of investors and regulators could, over time, lead us to restrict or modify some of our business practices. In addition, our business practices could be adversely affected by laws and regulations enacted or promulgated by federal, state, and local governments that relate to environmental and social issues. For example, in 2021 and 2022, certain states passed or considered passing laws prohibiting financial institutions from restricting the services that they provide to certain types of businesses if the institutions also conduct business with governmental entities in such states. Depending on how these laws are worded and implemented, they could adversely affect our ability to manage risk. ITEM 1B. UNRESOLVED STAFF COMMENTS There are no unresolved written comments that were received from the SEC’s or OCC’s staff 180 days or more before the end of our fiscal year relating to our periodic or current reports filed under the Securities Exchange Act of 1934. ITEM 2. PROPERTIES At December 31, 2021, we operated 418 branches, of which 274 are owned and 144 are leased. We also lease our headquarters in Salt Lake City, Utah. The annual rentals under long-term leases for leased premises are determined under various formulas and factors, including operating costs, maintenance, and taxes. For additional information regarding leases and rental payments, see Note 8 of the Notes to Consolidated Financial Statements. 20 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ITEM 3. LEGAL PROCEEDINGS The information contained in Note 16 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 4. MINE SAFETY DISCLOSURES None. PART II ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES PREFERRED STOCK We have 4.4 million authorized shares of preferred stock without par value and with a liquidation preference of $1,000 per share. As of December 31, 2021, 66,139, 138,391, 98,555, and 136,368 of preferred shares series A, G, I, and J respectively, are outstanding. See Note 14 of the Notes to Consolidated Financial Statements for further information regarding our preferred stock. COMMON STOCK Market Information Our common stock is traded on the NASDAQ Global Select Market under the symbol “ZION.” The last reported sale price of the common stock on NASDAQ was $71.65 per share on February 7, 2022. Equity Capital and Dividends As of February 7, 2022, there were 3,699 holders of record of our common stock. In January 2022, our Board declared a dividend of $0.38 per common share payable on February 24, 2022 to shareholders of record on February 17, 2022. Common Stock Warrants During the second quarter of 2020, 29.2 million common stock warrants (NASDAQ: ZIONW) expired out-of-the-money. Each common stock warrant was convertible into 1.10 shares at an exercise price of $33.31. Share Repurchases During 2021, we repurchased 13.5 million common shares outstanding for $800 million at an average price of $59.27 per share, which was equivalent to 8.2% of common stock outstanding as of the prior year-end. During 2020, we repurchased 1.7 million common shares outstanding for $75 million at an average price of $45.02. In February 2022, we repurchased 107,559 common shares outstanding for $7.5 million at an average price of $69.73. The following schedule summarizes our share repurchases for the fourth quarter of 2021: Fourth Quarter of 2021 Share Repurchases Period Total number of shares repurchased 1 Average price paid per share October 114,006 $ 63.56 November 4,887,699 $ 65.06 December — — Fourth quarter total 5,001,705 $ 65.03 1 Includes common shares acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. 21 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Performance Graph The following stock performance graph compares the five-year cumulative total return of our common stock with the Standard and Poor’s (“S&P”) 500 Index and the Keefe, Bruyette & Woods, Inc. (“KBW”) Regional Bank Index (“KRX”). The KRX is a modified market capitalization-weighted regional bank and thrift stock index developed and published by KBW, a nationally recognized brokerage and investment banking firm specializing in bank stocks. The index is composed of 50 geographically diverse stocks representing regional banks or thrifts. The stock performance graph is based upon an initial investment of $100 on December 31, 2016 and assumes reinvestment of dividends. PERFORMANCE GRAPH FOR ZIONS BANCORPORATION, N.A. INDEXED COMPARISON OF 5-YEAR CUMULATIVE TOTAL RETURN 2016 2017 2018 2019 2020 2021 Zions Bancorporation, N.A. 100.0 119.3 97.5 127.8 111.0 165.4 KRX Regional Bank Index 100.0 101.8 84.0 104.1 95.0 129.8 S&P 500 100.0 121.8 116.5 153.1 181.3 233.3 SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS The information contained in Item 12 of this Form 10-K is incorporated by reference herein. ITEM 6. [RESERVED] ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS MANAGEMENT’S DISCUSSION AND ANALYSIS GAAP to NON-GAAP RECONCILIATIONS This Form 10-K presents non-GAAP financial measures, in addition to Generally Accepted Accounting Principles (“GAAP”) financial measures, to provide investors with additional information. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results as they provide a basis for period-to-period and company-to-company comparisons. We use these non-GAAP financial measures to assess our performance, financial position, and for presentations of our performance to investors. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by management. 22 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under GAAP. Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a company more consistently, whether acquired or developed internally. Schedule 2 RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Year Ended December 31, (Dollar amounts in millions) 2021 2020 2019 Net earnings applicable to common shareholders (a) $ 1,100 $ 505 $ 782 Average common equity (GAAP) $ 7,371 $ 7,050 $ 6,965 Average goodwill and intangibles (1,015) (1,015) (1,014) Average tangible common equity (non-GAAP) (b) $ 6,356 $ 6,035 $ 5,951 Return on average tangible common equity (non-GAAP) (a/b) 17.3 % 8.4 % 13.1 % Schedule 3 TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) December 31, 2021 2020 2019 Total shareholders’ equity (GAAP) $ 7,463 $ 7,886 $ 7,353 Goodwill and intangibles (1,015) (1,016) (1,014) Tangible equity (non-GAAP) (a) 6,448 6,870 6,339 Preferred stock (440) (566) (566) Tangible common equity (non-GAAP) (b) $ 6,008 $ 6,304 $ 5,773 Total assets (GAAP) $ 93,200 $ 81,479 $ 69,172 Goodwill and intangibles (1,015) (1,016) (1,014) Tangible assets (non-GAAP) (c) $ 92,185 $ 80,463 $ 68,158 Common shares outstanding (thousands) (d) 151,625 164,090 165,057 Tangible equity ratio (non-GAAP) (a/c) 7.0 % 8.5 % 9.3 % Tangible common equity ratio (non-GAAP) (b/c) 6.5 % 7.8 % 8.5 % Tangible book value per common share (non-GAAP) (b/d) $39.62 $38.42 $34.98 Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. The methodology for determining the efficiency ratio may differ among companies. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allow for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how well we are managing our expenses; adjusted pre-provision net revenue (“PPNR”) enables management and others to assess our ability to generate capital to cover credit losses through a credit cycle. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. 23 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Schedule 4 EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) (Dollar amounts in millions) 2021 2020 2019 Noninterest expense (GAAP) (a) $ 1,741 $ 1,704 $ 1,742 Adjustments: Severance costs 1 1 25 Other real estate expense, net — 1 (3) Amortization of core deposit and other intangibles 1 — 1 Restructuring costs — 1 15 Pension termination-related expense 1 (5) 28 — SBIC investment success fee accrual 2 7 — — Total adjustments (b) 4 31 38 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 1,737 $ 1,673 $ 1,704 Net interest income (GAAP) (d) $ 2,208 $ 2,216 $ 2,272 Fully taxable-equivalent adjustments (e) 32 28 26 Taxable-equivalent net interest income (non-GAAP) (d+e)=(f) 2,240 2,244 2,298 Noninterest income (GAAP) (g) 703 574 562 Combined income (non-GAAP) (f+g)=(h) 2,943 2,818 2,860 Adjustments: Fair value and nonhedge derivative gain/(loss) 14 (6) (9) Securities gains, net 71 7 3 Total adjustments (i) 85 1 (6) Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 2,858 $ 2,817 $ 2,866 Pre-provision net revenue (non-GAAP) (h)-(a) $ 1,202 $ 1,114 $ 1,118 Adjusted pre-provision net revenue (non-GAAP) (j-c) 1,121 1,144 1,162 Efficiency ratio (non-GAAP) (c/j) 60.8 % 59.4 % 59.5 % 1 Represents the expense incurred to terminate our defined benefit pension plan during the second quarter of 2020, and a subsequent refund received during the first quarter of 2021. 2 The success fee accrual is associated with the gains/(losses) from our SBIC investments. The gains/(losses) related to these investments are excluded from the efficiency ratio through securities gains, net. 24 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Key Corporate Objectives We conduct our operations through seven separately managed affiliates, each with its own local branding and management team. We focus our efforts and resources to maintain a competitive advantage and to achieve our desired growth objectives. In particular, we are strategically focused on four growth areas: small businesses, mid-sized commercial businesses, affluent customers, and capital markets. The graphic below illustrates these key corporate objectives. We strive to achieve balanced growth of customers, PPNR, and earnings per share (“EPS”). Our incentive compensation plans are designed to support our growth objectives, as disclosed in our proxy statements. To facilitate the achievement of these objectives, we invest in the following five key areas, referred to as “strategic enablers”: • Risk Management — we invest in enhanced risk management practices to ensure prudent risk taking and appropriate oversight. • People and Empowerment — we invest in training our employees and providing them the tools and resources to build their capabilities, while promoting a diverse, inclusive, and equitable culture. • Technology — we invest in technologies that will make us more efficient and enable us to remain competitive while helping to insulate us from the risks of bank-disrupting technology companies. • Operational Excellence — we invest in and support ongoing improvements in how we safely and securely deliver value to our customers. • Data and Analytics — we invest in advanced enterprise data and analytics to support local execution and prudent decision-making. 25 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION RESULTS OF OPERATIONS Navigating Through the Ongoing Pandemic The COVID-19 pandemic continued to impact our operations throughout 2021, though its effects varied compared with the prior year. • During 2020, credit concerns were high given the significant uncertainty of the depth and duration of the pandemic and the related shut-downs, which resulted in a significant increase in the allowance for credit losses. However, with strong government stimulus and the development of vaccines and treatments, consumer and business spending rebounded in 2021. As such, credit concerns abated significantly during 2021, resulting in significant releases of the credit loss reserves we added in 2020. • Since the beginning of the pandemic, we funded $10.2 billion of Paycheck Protection Program (“PPP”) loans ($2.9 billion in 2021 and $7.3 billion in 2020) for approximately 77,000 customers, positively impacting loan balances and interest income. We ranked as the 10th largest originator of PPP loans by dollar volume of all the participating financial institutions, as disclosed by the U.S. Small Business Administration (“SBA”). In 2021, we continued to strengthen our relationships with more than 20,000 new-to-bank PPP customers, which resulted in additional revenue generating services. Total interest income from PPP loans during 2021 was $235 million, of which $138 million was related to accelerated recognition of net unamortized deferred fees on $6.5 billion of PPP loans forgiven by the SBA. • Demand for loans softened considerably in 2020 as a result of increased uncertainty and reduced economic activity. Loan attrition continued in 2021, but reversed course during the latter half of the year. Excluding PPP, loan growth in the fourth quarter of 2021 was robust, reflecting one of our strongest growth rates in recent years. • As with the prior year, we assisted our employees in adapting to a work-from-home environment, where applicable, to help limit the spread of COVID-19, by modifying operating hours, limiting lobby visits, and requiring masks, to help keep our employees and communities safe. • The domestic money supply, as measured by the Federal Reserve, increased significantly in 2021. This increase, together with our ongoing efforts to deepen relationships with customers, positively affected our deposit growth. • As 2021 progressed, we experienced elevated turnover rates in some of our entry-level jobs and found it increasingly difficult to fill employment vacancies, a challenge faced by many companies. In response, we have adjusted both cash and non-cash compensation and benefits to stem the turnover, which has generally normalized. Our Financial Performance This section and other sections provide information about our recent financial performance. For information about our results of operations for 2020 compared with 2019, see the respective sections in MD&A included in our 2020 Form 10-K. 26 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency ratio Net earnings applicable to common shareholders increased from 2020, primarily due to a significant decrease in our reserves for credit losses and broad-based improvement in noninterest income year-over-year. Diluted earnings per share increased from 2020 as a result of increased net earnings and a 5.4 million decrease in average diluted shares, primarily due to share repurchases. Adjusted PPNR decreased from 2020, primarily due to the increase in other noninterest expense, driven by increases in salaries and benefits and professional and legal expenses, partially offset by increases in customer-related noninterest income. The efficiency ratio increased from the prior year, primarily as growth in adjusted noninterest expense outpaced growth in adjusted taxable-equivalent revenue. Relative to 2020, our financial performance for 2021 refle • Stable net interest income, driven largely by significant increases in average interest-earning assets. Growth in these assets contributed to compression in the net interest margin (“NIM”), given an increased concentration in lower-yielding assets, and the low interest rate environment. • Significant growth of $11.1 billion, or 16%, in average interest-earning assets, and an increase of $12.6 billion, or 20%, in average total deposits. This deposit growth funded increases of $8.0 billion and $4.2 billion in average money market investments and average investment securities, respectively. We actively managed our balance sheet in view of the low interest rate environment, and evaluated opportunities to deploy excess liquidity into short-to-medium duration assets. We balanced competing objectives of increasing income, maintaining asset sensitivity to benefit from rising rates, maintaining sufficient liquidity for changes in deposit trends, and supporting loan growth. • A $129 million, or 22%, increase in total noninterest income. Increases in customer-related fees were primarily due to improved customer transaction volume, new client activity, and deepening of existing client relationships, specifically resulting in the growth of card, commercial account, and wealth management fees. Increases in noncustomer-related revenue were driven largely by net securities gains related to our Small Business Investment Company (“SBIC”) investment portfolio. • An increase of $37 million, or 2%, in noninterest expense, arising from inflationary and competitive labor pressures on wages and higher profit sharing expense, as well as increases in professional and legal services expenses, mainly due to various technology-related and other outsourced services associated with ongoing investments in our core technology systems. • Strong credit performance. Net loan and lease charge-offs were $6 million, or 0.01% of average loans (ex-PPP), in 2021, compared with net charge-offs of $105 million, or 0.22% of average loans (ex-PPP), in the prior year. The provision for credit losses was a negative $276 million in 2021, compared with a positive $414 million in 2020, reflecting improvements in economic forecasts, loan portfolio changes, and strong credit quality. • A decrease of $2.6 billion, or 5%, in total loans and leases, due to the forgiveness of PPP loans and a decline in 1-4 family residential mortgage loans. Excluding PPP loans, total loans and leases increased $1.1 billion, or 2%, reflecting improving loan growth trends during the second half of 2021. 27 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The result of the items discussed above yielded a 118% increase in net earnings applicable to common shareholders and a 125% increase in earnings per diluted share from the prior year. The following schedule presents additional selected financial highlights. Prior period amounts have been reclassified to conform with the current period presentation, where applicable. Schedule 5 SELECTED FINANCIAL HIGHLIGHTS 1 (Dollar amounts in millions, except per share amounts) 2021/2020 Change 2021 2020 2019 2018 2017 For the Year Net interest income — % $ 2,208 $ 2,216 $ 2,272 $ 2,230 $ 2,065 Noninterest income +22 % 703 574 562 552 544 Total net revenue +4 % 2,911 2,790 2,834 2,782 2,609 Provision for credit losses NM (276) 414 39 (40) 17 Noninterest expense +2 % 1,741 1,704 1,742 1,679 1,656 Pre-provision net revenue +8 % 1,202 1,114 1,118 1,125 988 Net income +109 % 1,129 539 816 884 592 Net earnings applicable to common shareholders +118 % 1,100 505 782 850 550 Per Common Share Net earnings – diluted +125 % 6.79 3.02 4.16 4.08 2.60 Tangible book value at year-end +3 % 39.62 38.42 34.98 31.97 30.87 Market price – end +45 % 63.16 43.44 51.92 40.74 50.83 Market price – high +30 % 68.25 52.48 52.08 59.19 52.20 Market price – low +79 % 42.12 23.58 39.11 38.08 38.43 At Year-End Assets +14 % 93,200 81,479 69,172 68,746 66,288 Loans and leases, net of unearned income and fees -5 % 50,851 53,476 48,709 46,714 44,780 Deposits +19 % 82,789 69,653 57,085 54,101 52,621 Common equity -4 % 7,023 7,320 6,787 7,012 7,113 Performance Ratios Return on average assets 1.29% 0.71% 1.17% 1.33% 0.91% Return on average common equity 14.9% 7.2% 11.2% 12.1% 7.7% Return on average tangible common equity 17.3% 8.4% 13.1% 14.2% 9.0% Net interest margin 2.72% 3.15% 3.54% 3.61% 3.45% Net charge-offs to average loans and leases (ex-PPP) 0.01% 0.22% 0.08% (0.04)% 0.17% Total allowance for credit losses to loans and leases outstanding (ex-PPP) 1.13% 1.74% 1.14% 1.18% 1.29% Capital Ratios at Year-End Common equity tier 1 capital 10.2% 10.8% 10.2% 11.7% 12.1% Tier 1 leverage 7.2% 8.3% 9.2% 10.3% 10.5% Tangible common equity 6.5% 7.8% 8.5% 8.9% 9.3% Other Selected Information Weighted average diluted common shares outstanding (in thousands) -3 % 160,234 165,613 186,504 206,501 209,653 Bank common shares repurchased (in thousands) +710 % 13,497 1,666 23,505 12,943 7,009 Dividends declared +6 % 1.44 1.36 1.28 1.04 0.44 Common dividend payout ratio 2 21.1% 44.6% 29.0% 23.8% 16.2% Capital distributed as a percentage of net earnings applicable to common shareholders 3 94% 59% 170% 103% 74% Efficiency ratio 60.8% 59.4% 59.5% 59.6% 62.3% 1 This table includes certain non-GAAP measures. See “GAAP to Non-GAAP Reconciliations” on page 22 for more information. 2 The common dividend payout ratio is equal to common dividends paid divided by net earnings applicable to common shareholders. 3 This ratio is the common dividends paid plus share repurchases for the year, divided by net earnings applicable to common shareholders. 28 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Net Interest Income and Net Interest Margin Net interest income is the difference between interest earned on interest-earning assets and interest paid on interest-bearing liabilities and is approximately 76% of our net revenue (net interest income plus noninterest income) for the year. The NIM is derived from both the amount of interest-earning assets and interest-bearing liabilities and their respective yields and rates. Schedule 6 NET INTEREST INCOME AND NET INTEREST MARGIN Amount change Percent change Amount change Percent change (Dollar amounts in millions) 2021 2020 2019 Interest and fees on loans $ 1,935 $ (115) (6) % $ 2,050 $ (239) (10) % $ 2,289 Interest on money market investments 21 7 50 14 (18) (56) 32 Interest on securities 311 7 2 304 (58) (16) 362 Total interest income 2,267 (101) (4) 2,368 (315) (12) 2,683 Interest on deposits 30 (75) (71) 105 (149) (59) 254 Interest on short- and long-term borrowings 29 (18) (38) 47 (110) (70) 157 Total interest expense 59 (93) (61) 152 (259) (63) 411 Net interest income $ 2,208 $ (8) — % $ 2,216 $ (56) (2) % $ 2,272 Average interest-earning assets $ 82,267 $ 11,108 16 % $ 71,159 $ 6,217 10 % $ 64,942 Average interest-bearing liabilities 40,750 2,512 7 % 38,238 563 1 % 37,675 bps bps Yield on interest-earning assets 1 2.79 % (58) 3.37 % (80) 4.17 % Rate paid on total deposits and interest-bearing liabilities 1 0.07 % (15) 0.22 % (45) 0.67 % Cost of total deposits 1 0.04 % (13) 0.17 % (29) 0.46 % Net interest margin 1 2.72 % (43) 3.15 % (39) 3.54 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. Net interest income remained relatively stable at $2.2 billion in 2021, relative to the prior year, and was driven largely by a significant increase in average interest-earning assets. Growth in these assets had a dilutive effect on the NIM, given an increased concentration in lower-yielding assets and the low interest rate environment. Average interest-earning assets increased $11.1 billion, or 16%, driven by growth in average money market investments and investment securities. These increases were partially offset by declines in consumer mortgage loans. Average money market investments, including short-term deposits held at the Federal Reserve, increased to 13.4% of average interest-earning assets, compared with 4.3%. Average securities increased to 23.3% of average interest-earning assets, compared with 21.1%, as we have actively deployed excess liquidity into short-to-medium duration assets. The NIM was 2.72%, compared with 3.15%. The yield on average interest-earning assets was 2.79% in 2021, a decrease of 58 basis points (“bps”). The yield on total loans decreased 13 bps to 3.76%, compared with 3.89%. Excluding PPP loans, the yield on loans decreased 33 bps. The yield on securities decreased 42 bps, primarily due to lower yields on re-investment of principal payments and other purchases throughout 2021. 29 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Average loans and leases decreased $1.0 billion, or 2%, from $53.0 billion in 2020, primarily due to a decrease in 1-4 family residential mortgage loans. The decline in our mortgage loan portfolio is partly due to the low interest rate environment and refinancing activity. We generally originate residential mortgage loans and sell them to government-sponsored entities as part of our interest rate risk management efforts to limit our balance sheet exposure to long-term assets. Since early 2020, we provided assistance to many small businesses through the SBA PPP and originated a total of $10.2 billion in PPP loans. During 2021 and 2020, PPP loans totaling $6.5 billion and $1.3 billion, respectively, were forgiven by the SBA. The yield on these loans was 5.16% and 3.22% for 2021 and 2020, respectively, and was positively impacted by accelerated amortization of deferred fees on paid off or forgiven PPP loans of $138 million and $26 million. At December 31, 2021 and 2020, the remaining unamortized net origination fees on these loans totaled $45 million and $102 million, respectively. Average total deposits increased $12.6 billion to $76.3 billion at an average cost of 0.04% in 2021, from $63.7 billion at an average cost of 0.17% in 2020. Average interest-bearing liabilities increased $2.5 billion, or 7%, and the average rate paid on interest-bearing liabilities decreased 26 bps to 0.14%. The rate paid on total deposits and interest-bearing liabilities was 0.07%, a significant decrease from 0.22% during 2020, which was primarily due to low interest-bearing deposit rates and strong noninterest-bearing deposit growth. 30 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Average available-for-sale (“AFS”) securities balances increased $4.2 billion, or 29%, in 2021, from $14.2 billion in 2020, mainly due to an increase in our mortgage-backed securities portfolio. Average borrowed funds decreased $1.4 billion in 2021, with average short-term borrowings decreasing $1.1 billion, and average long-term borrowings decreasing $0.3 billion. The average rate paid on short-term borrowings decreased 45 bps; the rate paid on long-term debt decreased 9 bps from the prior year, primarily due to senior debt that matured during 2021. We continued to rely less on borrowed funds due to strong deposit growth during the year. Refer to the “Interest Rate and Market Risk Management” section on page 57 for more information on how we manage interest rate risk, and the “Liquidity Risk Management” section beginning on page 62 for more information on how we manage liquidity risk. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 31 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Schedule 7 - AVERAGE BALANCE SHEETS, YIELDS, AND RATES 2021 2020 (Dollar amounts in millions) Average balance Amount of interest Average rate 1 Average balance Amount of interest Average rate 1 ASSETS Money market investments: Interest-bearing deposits $ 8,917 $ 12 0.14 % $ 965 $ 5 0.49 % Federal funds sold and security resell agreements 2,129 9 0.40 2,089 9 0.44 Total money market investments 11,046 21 0.19 3,054 14 0.46 Securiti Held-to-maturity 562 17 2.97 618 22 3.54 Available-for-sale 18,365 292 1.59 14,208 284 2.00 Trading account 246 11 4.43 167 7 4.36 Total securities 2 19,173 320 1.67 14,993 313 2.09 Loans held for sale 65 1 2.35 96 4 3.89 Loans and leases 3 Commercial - excluding PPP loans 25,014 950 3.80 25,193 1,036 4.11 Commercial - PPP loans 4,566 235 5.16 4,534 146 3.22 Commercial real estate 12,136 418 3.44 11,854 458 3.87 Consumer 10,267 354 3.44 11,435 425 3.71 Total loans and leases 51,983 1,957 3.76 53,016 2,065 3.89 Total interest-earning assets 82,267 2,299 2.79 71,159 2,396 3.37 Cash and due from banks 605 619 Allowance for credit losses on loans and debt securities (612) (733) Goodwill and intangibles 1,015 1,015 Other assets 4,122 3,997 Total assets $ 87,397 $ 76,057 LIABILITIES AND SHAREHOLDERS' EQUITY Interest-bearing deposits: Saving and money market $ 36,717 $ 21 0.06 % $ 31,100 $ 60 0.19 % Time 2,020 9 0.41 3,706 45 1.22 Total interest-bearing deposits 38,737 30 0.08 34,806 105 0.30 Borrowed funds: Federal funds purchased and other short-term borrowings 802 1 0.07 1,888 10 0.52 Long-term debt 1,211 28 2.36 1,544 37 2.45 Total borrowed funds 2,013 29 1.45 3,432 47 1.39 Total interest-bearing liabilities 40,750 59 0.14 38,238 152 0.40 Noninterest-bearing demand deposits 37,520 28,883 Other liabilities 1,259 1,320 Total liabilities 79,529 68,441 Shareholders’ equity: Preferred equity 497 566 Common equity 7,371 7,050 Total shareholders’ equity 7,868 7,616 Total liabilities and shareholders’ equity $ 87,397 $ 76,057 Spread on average interest-bearing funds 2.65 2.97 Net impact of noninterest-bearing sources of funds 0.07 0.18 Net interest margin $ 2,240 2.72 $ 2,244 3.15 Me Total loans and leases, excluding PPP loans 47,417 1,722 3.63 48,482 1,919 3.96 Me Total cost of deposits 0.04 0.17 Me Total deposits and interest-bearing liabilities 78,270 59 0.07 67,121 152 0.22 1 Rates are calculated using amounts in thousands and tax rates of 21% for 2021, 2020, 2019 and 2018, and 35% for 2017. The taxable-equivalent rates used are the rates that were applicable at the time of each respective reporting period. 2 Interest on total securities included $118 million and $111 million of taxable-equivalent premium amortization for 2021 and 2020, respectively. 3 Net of unearned income and fees, net of related costs. Loans include nonaccrual and restructured loans. 32 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 2019 2018 2017 Average balance Amount of interest Average rate 1 Average balance Amount of interest Average rate 1 Average balance Amount of interest Average rate 1 $ 717 $ 16 2.23 % $ 758 $ 15 1.90 % $ 1,105 $ 12 1.06 % 629 16 2.61 602 14 2.39 434 7 1.65 1,346 32 2.41 1,360 29 2.12 1,539 19 1.23 706 26 3.69 781 28 3.56 776 31 3.95 14,389 340 2.36 14,712 328 2.23 14,907 313 2.10 147 6 4.45 109 4 3.97 64 2 3.75 15,242 372 2.45 15,602 360 2.31 15,747 346 2.20 89 3 2.90 53 2 4.63 87 3 3.56 24,990 1,215 4.86 23,333 1,118 4.79 22,116 964 4.36 — — — — — — — — — 11,675 597 5.11 11,079 549 4.95 11,184 504 4.50 11,600 490 4.22 11,013 445 4.04 10,201 391 3.84 48,265 2,302 4.77 45,425 2,112 4.65 43,501 1,859 4.27 64,942 2,709 4.17 62,440 2,503 4.01 60,874 2,227 3.65 610 549 786 (501) (495) (548) 1,014 1,015 1,019 3,506 3,060 2,985 $ 69,571 $ 66,569 $ 65,116 $ 26,852 $ 160 0.60 % $ 25,480 $ 81 0.32 % $ 25,453 $ 39 0.15 % 4,868 94 1.94 3,876 54 1.38 2,966 20 0.69 31,720 254 0.80 29,356 135 0.46 28,419 59 0.21 4,719 111 2.36 4,562 88 1.93 4,096 44 1.05 1,236 46 3.69 535 28 5.21 417 24 5.79 5,955 157 2.64 5,097 116 2.27 4,513 68 1.49 37,675 411 1.09 34,453 251 0.73 32,932 127 0.38 23,361 23,827 23,781 1,004 699 624 62,040 58,979 57,337 566 566 631 6,965 7,024 7,148 7,531 7,590 7,779 $ 69,571 $ 66,569 $ 65,116 3.08 3.28 3.27 0.46 0.33 0.18 $ 2,298 3.54 $ 2,252 3.61 $ 2,100 3.45 48,265 2,302 4.77 45,425 2,112 4.65 43,501 1,859 4.27 0.46 0.25 0.11 61,036 411 0.67 58,280 251 0.78 56,713 127 0.40 33 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents year-to-year changes in net interest income on a fully taxable-equivalent basis for the years indicated. For purposes of calculating the yields in this schedule, the average loan balances also include the principal amounts of nonaccrual and restructured loans. Interest payments received on nonaccrual loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. In addition, interest on restructured loans is generally accrued at modified rates. In the analysis of taxable-equivalent net interest income changes due to volume and rate, changes are allocated to volume with the following exceptio when volume and rate both increase, the variance is allocated proportionately to both volume and rate; when the rate increases and volume decreases, the variance is allocated to rate. Schedule 8 ANALYSIS OF TAXABLE-EQUIVALENT NET INTEREST INCOME CHANGES DUE TO VOLUME AND RATE 2021 over 2020 2020 over 2019 Changes due to Total changes Changes due to Total changes (In millions) Volume Rate 1 Volume Rate 1 INTEREST-EARNING ASSETS Money market investments: Interest-bearing deposits $ 11 $ (4) $ 7 $ 1 $ (12) $ (11) Federal funds sold and security resell agreements 1 (1) — 6 (13) (7) Total money market investments 12 (5) 7 7 (25) (18) Securiti Held-to-maturity (1) (4) (5) (3) (1) (4) Available-for-sale 66 (58) 8 (4) (52) (56) Trading account 4 — 4 1 — 1 Total securities 69 (62) 7 (6) (53) (59) Loans held for sale (1) (2) (3) (1) 2 1 Loans and leases 2 Commercial - excluding SBA PPP loans (7) (79) (86) 9 (188) (179) Commercial - SBA PPP loans 1 88 89 — 146 146 Commercial real estate 10 (50) (40) 6 (145) (139) Consumer (39) (32) (71) (5) (60) (65) Total loans and leases (35) (73) (108) 10 (247) (237) Total interest-earning assets 45 (142) (97) 10 (323) (313) INTEREST-BEARING LIABILITIES Interest-bearing deposits: Saving and money market 2 (41) (39) 9 (109) (100) Time (6) (30) (36) (14) (35) (49) Total interest-bearing deposits (4) (71) (75) (5) (144) (149) Borrowed funds: Federal funds purchased and other short-term borrowings — (9) (9) (15) (86) (101) Long-term debt (8) (1) (9) 7 (16) (9) Total borrowed funds (8) (10) (18) (8) (102) (110) Total interest-bearing liabilities (12) (81) (93) (13) (246) (259) Change in taxable-equivalent net interest income $ 57 $ (61) $ (4) $ 23 $ (77) $ (54) 1 Taxable-equivalent rates used where applicable. 2 Net of unearned income and fees, net of related costs. Loans include nonaccrual and restructured loans. 34 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans. On January 1, 2020, we adopted Accounting Standards Update (“ASU”) 2016-13, Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, and its subsequent updates, often referred to as the Current Expected Credit Loss (“CECL”) model. Upon adoption of this ASU, we recorded the full amount of the ACL for loans and leases of $526 million, resulting in an after-tax increase to retained earnings of $20 million. The impact of the adoption of CECL for our securities portfolio was less than $1 million. As a result of the CECL accounting standard, the ACL is subject to economic forecasts that may change materially from period to period. The provision for credit losses, which is the combination of both the provision for loan losses and the provision for unfunded lending commitments, was a negative $276 million in 2021, compared with a positive $414 million in 2020. The ACL decreased $282 million to $553 million at December 31, 2021. The ratio of ACL to net loans and leases (ex-PPP) at December 31, 2021 and 2020 was 1.13% and 1.74%, respectively. The provision for security losses was less than $1 million during 2021 and 2020. 35 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The ACL was $553 million at December 31, 2021, compared with $835 million at December 31, 2020. The bar chart above shows the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic forecasts and current economic conditions, which decreased the ACL by $220 million from the prior year due to improvements in both realized economic results and economic forecasts, compared with the economic stress caused by the COVID-19 pandemic in the prior year, and was partially offset by the expected impact of the resurgence of COVID-19 cases resulting from the Omicron variant. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, decreased the ACL by $25 million, indicating significant improvements in credit quality. Net loan and lease charge-offs were $6 million, or 0.01% of average loans (ex-PPP) in 2021, compared with $105 million, or 0.22% of average loans (ex-PPP) in the prior year, reflecting strong credit performance. The fourth bar represents loan portfolio changes, driven by changes in portfolio mix, the aging of the portfolio, and other risk factors; all of which resulted in a $37 million reduction in the ACL. See Note 6 of the Notes to Consolidated Financial Statements for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue we earn from products and services that generally have no associated interest rate or yield and is classified as either customer-related fees or noncustomer-related revenue. Customer-related fees exclude items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income increased $129 million, or 22%, in 2021. Noninterest income accounted for 24% and 21% of net revenue during 2021 and 2020, respectively. The following schedule presents a comparison of the major components of noninterest income. 36 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Schedule 9 NONINTEREST INCOME (Dollar amounts in millions) 2021 Amount change Percent change 2020 Amount change Percent change 2019 Commercial account fees $ 134 $ 9 7 % $ 125 $ 4 3 % $ 121 Card fees 95 13 16 82 (10) (11) 92 Retail and business banking fees 74 6 9 68 (10) (13) 78 Loan-related fees and income 95 (14) (13) 109 34 45 75 Capital markets and foreign exchange fees 73 (4) (5) 77 (1) (1) 78 Wealth management fees 1 50 6 14 44 4 10 40 Other customer-related fees 54 10 23 44 3 7 41 Total customer-related fees 575 26 5 % 549 24 5 % 525 Fair value and nonhedge derivative income (loss) 14 20 NM (6) 3 (33) (9) Dividends and other income 43 19 79 24 (19) (44) 43 Securities gains (losses), net 71 64 NM 7 4 NM 3 Total noncustomer-related revenue 128 103 NM 25 (12) (32) 37 Total noninterest income $ 703 $ 129 22 % $ 574 $ 12 2 % $ 562 1 Wealth management fees for 2020 and 2019 included certain retirement service-related fees of $3 million in both periods. Beginning in 2021, those fees, which totaled $4 million, were reported in other customer-related fees. Customer-related Fees Customer-related fee income growth is a result of our focus on our key corporate objectives. By providing high-quality treasury management products, wealth management advisory services, and capital market solutions, we seek to deepen existing relationships with our commercial and small business customers. Total customer-related fees increased $26 million, or 5%, in 2021, largely driven by improved customer transaction volume and new client activity during the year, compared with the more-stressed economic activity impacted by the COVID-19 pandemic in the prior year. Key drivers impacting customer-related fees inclu • Card fees increased $13 million, or 16%, in 2021, due to increased economic activity and transaction volume. Commercial account fees increased $9 million or 7%, for similar reasons. • Wealth management fee income increased $6 million, or 14%, resulting from continued growth in assets and further adoption of wealth and advisory services from our customer base. Consequently, our assets under management increased $2.3 billion, or 26%, to $11.0 billion at December 31, 2021, which included meaningful increases in net new assets. • Loan-related fees and income decreased $14 million or 13%, in 2021, primarily due to a decline in mortgage banking income, particularly lower margins on loan sales. • Capital markets and foreign exchange income decreased $4 million, or 5%, primarily due to reduced interest rate swap sales. During the prior year, as a result of the low interest rate environment, many commercial customers purchased interest rate swaps from us to effectively fix the interest rate on their variable-rate loans. The decrease was partially offset by an increase in loan syndication fees. Noncustomer-related Revenue Total noncustomer-related revenue increased $103 million in 2021, primarily due to a $64 million increase in net securities gains and losses, which was largely driven by net gains related to our SBIC investment portfolio. During the fourth quarter of 2021, we recognized a $31 million realized gain resulting from the sale of one of our SBIC investments. During 2021, we also recognized a net $23 million unrealized gain related to our investment in Recursion Pharmaceuticals, Inc., which completed an initial public offering (“IPO”) in the second quarter of 2021. 37 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Fair value and nonhedge derivative income increased $20 million, due to recognized net gains related to credit valuation adjustments (“CVA”) on client-related interest rate swaps, compared with net CVA losses in the prior year period. The CVA may fluctuate from period to period based on the credit quality of our clients and changes in interest rates, which impact the value of, and our credit exposure to, the client-related interest rate swaps. Dividends and other income increased $19 million, or 79%, primarily due to a $12 million gain on sale of certain bank-owned facilities during 2021. These sales related to the consolidation of a substantial portion of our technology and operations facilities in advance of occupying our new Corporate Technology Center, which is expected to be completed in mid-2022. Noninterest Expense The following schedule presents a comparison of the major components of noninterest expense. Schedule 10 NONINTEREST EXPENSE (Dollar amounts in millions) 2021 Amount change Percent change 2020 Amount change Percent change 2019 Salaries and employee benefits $ 1,127 $ 40 4 % $ 1,087 $ (54) (5) % $ 1,141 Occupancy, net 131 1 1 130 (3) (2) 133 Furniture, equipment and software, net 128 1 1 127 (8) (6) 135 Other real estate expense, net — (1) NM 1 4 NM (3) Credit-related expense 26 4 18 22 2 10 20 Professional and legal services 68 16 31 52 5 11 47 Advertising 19 — — 19 — — 19 FDIC premiums 25 — — 25 — — 25 Other 217 (24) (10) 241 16 7 225 Total noninterest expense $ 1,741 $ 37 2 % $ 1,704 $ (38) (2) % $ 1,742 Adjusted noninterest expense $ 1,737 $ 64 4 % $ 1,673 $ (31) (2) % $ 1,704 Noninterest expense increased $37 million, or 2%, in 2021, relative to the prior year, primarily due to salaries and benefits expense, which represented the largest component, or 65% and 64%, of total noninterest expense during the same time periods, respectively. The following schedule presents detail of the major segments of salaries and employee benefits expense. Schedule 11 SALARIES AND EMPLOYEE BENEFITS (Dollar amounts in millions) 2021 Amount/quantity change Percent change 2020 Amount/quantity change Percent change 2019 Salaries and bonuses $ 935 $ 17 2 % $ 918 $ (35) (4) % $ 953 Employee benefits: Employee health and insurance 83 (3) (3) 86 3 4 83 Retirement and profit sharing 57 18 46 39 (10) (20) 49 Payroll taxes and other fringe benefits 52 8 18 44 (12) (21) 56 Total benefits 192 23 14 169 (19) (10) 188 Total salaries and employee benefits $ 1,127 $ 40 4 % $ 1,087 $ (54) (5) % $ 1,141 Full-time equivalent employees at December 31, 9,685 7 — % 9,678 (510) (5) % 10,188 Salaries and benefits expense increased $40 million, or 4%, primarily due to inflationary and competitive labor pressures on wages and higher profit sharing expense as a result of improved profitability. We had 9,685 full-time equivalent employees at December 31, 2021, which remained relatively flat when compared with the prior year. We believe that inflation and the competitive labor market may continue to impact our salaries and benefits expense. 38 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Professional and legal services expense increased $16 million, or 31%, mainly due to various technology-related and other outsourced services related to our ongoing investment in our core technology systems. Other noninterest expense decreased $24 million, or 10%, primarily due to higher expenses in the prior year, including a $30 million charitable contribution (compared with $10 million in 2021) and a $28 million pension termination-related expense in 2020. The decrease in expense was partially offset by an increase of $14 million in software licenses and maintenance and a $7 million increase in success fee accruals associated with net gains on our SBIC investments in 2021. Adjusted noninterest expense increased $64 million, or 4%, primarily due to the increases in noninterest expense previously discussed. The efficiency ratio was 60.8%, compared with 59.4%. For information on non-GAAP financial measures, including differences between noninterest expense and adjusted noninterest expense, see page 22. Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods presented. Schedule 12 INCOME TAXES (Dollar amounts in millions) 2021 2020 2019 Income before income taxes $ 1,446 $ 672 $ 1,053 Income tax expense 317 133 237 Effective tax rate 21.9 % 19.8 % 22.5 % The income tax rates for the tax years presented above were reduced by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the nondeductibility of FDIC premiums, certain executive compensation, and other fringe benefits. The tax rate for 2020 was also reduced as a result of the proportional increase in nontaxable items and tax credits relative to pretax book income, as compared with 2021 and 2019. Our investments in technology initiatives, low-income housing, and municipal securities during 2021, 2020, and 2019, generated tax credits and nontaxable income that benefited the tax rate for each respective year. We had a net deferred tax asset (“DTA”) of $96 million at December 31, 2021, compared with a net deferred tax liability (“DTL”) of $3 million at December 31, 2020. The increase to a DTA from a DTL resulted primarily from an increase in unrealized losses in accumulated other comprehensive income (“AOCI”) associated with investment securities and the capitalization of expenses related to intangible assets, and was partially offset by significant negative provisions for credit losses during 2021. We had no valuation allowance at December 31, 2021. See Note 20 of the Notes to Consolidated Financial Statements for more information about the factors that impacted our effective tax rate, significant components of our DTAs and DTLs, and our assessment of any potential additional valuation allowances. Preferred Stock Dividends Preferred stock dividends totaled $29 million in 2021, and $34 million in both 2020 and 2019. The decrease in preferred dividends was due to the redemption of the outstanding shares of our Series H preferred stock during the second quarter of 2021. See further details in Note 14 of the Notes to Consolidated Financial Statements. 39 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION BUSINESS SEGMENT RESULTS We manage our operations through seven affiliate banks located in different geographic markets, each with its own local branding and management team. These affiliate banks comprise our primary business segments and inclu Zions Bank, Amegy Bank (“Amegy”), California Bank & Trust (“CB&T”), National Bank of Arizona (“NBAZ”), Nevada State Bank (“NSB”), Vectra Bank Colorado (“Vectra”), and The Commerce Bank of Washington (“TCBW”). In maintaining alignment with our key corporate objectives, we emphasize local authority, responsibility, and pricing, with customization of certain products (as applicable) to maximize customer satisfaction and strengthen community relations. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal Funds Transfer Pricing (“FTP”) allocation process to report results of operations for business segments. This process is continually refined. Where applicable, prior period amounts have been revised to reflect the impact of these changes had they been instituted for the periods presented. See Note 22 of the Notes to Consolidated Financial Statements for more information on our FTP allocations, the Other segment, and more performance information including net interest income, noninterest income, and noninterest expense by segment. The following schedule summarizes selected financial information of our business segments. Ratios are calculated based on amounts in thousands. Schedule 13 SELECTED SEGMENT INFORMATION (Dollar amounts in millions) Zions Bank Amegy CB&T 2021 2020 2019 2021 2020 2019 2021 2020 2019 KEY FINANCIAL INFORMATION Total average loans $ 13,198 $ 13,845 $ 13,109 $ 12,189 $ 13,114 $ 12,235 $ 12,892 $ 12,366 $ 10,763 Total average deposits 23,588 18,370 15,561 15,496 12,970 11,627 15,796 13,763 11,522 Income before income taxes 381 295 346 363 178 274 406 182 277 CREDIT QUALITY Provision for credit losses $ (26) $ 67 $ 18 $ (96) $ 111 $ 9 $ (78) $ 120 $ 7 Net loan and lease charge-offs — 27 9 2 49 19 — 15 10 Ratio of net charge-offs to average loans and leases — % 0.20 % 0.07 % 0.02 % 0.37 % 0.16 % — % 0.12 % 0.09 % Allowance for credit losses $ 142 $ 167 $ 134 $ 128 $ 210 $ 155 $ 90 $ 158 $ 64 Ratio of allowance for credit losses to net loans and leases, at year-end 1.08 % 1.21 % 1.02 % 1.05 % 1.60 % 1.27 % 0.70 % 1.28 % 0.59 % Nonperforming lending-related assets $ 89 $ 97 $ 85 $ 90 $ 131 $ 60 $ 41 $ 56 $ 49 Ratio of nonperforming lending-related assets to net loans and leases and other real estate owned 0.69 % 0.70 % 0.65 % 0.77 % 1.03 % 0.49 % 0.32 % 0.43 % 0.45 % Accruing loans past due 90 days or more $ 3 $ 7 $ 2 $ 1 $ — $ 2 $ 3 $ 4 $ 5 Ratio of accruing loans past due 90 days or more to net loans and leases 0.02 % 0.05 % 0.09 % 0.01 % — % 0.01 % 0.02 % 0.03 % 0.09 % (Dollar amounts in millions) NBAZ NSB Vectra TCBW 2021 2020 2019 2021 2020 2019 2021 2020 2019 2021 2020 2019 KEY FINANCIAL INFORMATION Total average loans $ 4,849 $ 5,099 $ 4,774 $ 3,015 $ 3,102 $ 2,630 $ 3,414 $ 3,401 $ 3,109 $ 1,569 $ 1,460 $ 1,194 Total average deposits 7,288 5,771 5,002 6,691 5,427 4,512 4,386 3,637 2,853 1,537 1,256 1,094 Income before income taxes 127 75 107 90 11 47 67 24 50 42 28 37 CREDIT QUALITY Provision for credit losses $ (27) $ 35 $ 2 $ (35) $ 37 $ (1) $ (12) $ 34 $ 3 $ (3) $ 7 $ (1) Net loan and lease charge-offs (1) 1 — 1 (1) (3) — 14 2 1 — — Ratio of net charge-offs to average loans and leases (0.02) % 0.02 % — % 0.03 % (0.03) % (0.11) % — % 0.41 % 0.06 % 0.06 % — % — % Allowance for credit losses $ 38 $ 60 $ 32 $ 26 $ 59 $ 14 $ 37 $ 47 $ 27 $ 8 $ 11 $ 7 Ratio of allowance for credit losses to net loans and leases, at year-end 0.78% 1.18% 0.68% 0.86% 1.90% 0.53% 1.08% 1.38% 0.87% 0.51% 0.75% 0.59% Nonperforming lending-related assets $ 11 $ 17 $ 14 $ 24 $ 40 $ 27 $ 18 $ 19 $ 11 $ 1 $ 8 $ 4 Ratio of nonperforming lending-related assets to net loans and leases and other real estate owned 0.24% 0.34% 0.29% 0.85% 1.24% 1.00% 0.53% 0.56% 0.35% 0.06% 0.52% 0.33% Accruing loans past due 90 days or more $ 1 $ — $ — $ — $ — $ — $ — $ 1 $ 1 $ — $ — $ — Ratio of accruing loans past due 90 days or more to net loans and leases 0.02% —% 0.02% —% —% —% —% 0.03% —% —% —% —% Zions Bank Zions Bank is headquartered in Salt Lake City, Utah, and conducts operations in Utah, Idaho, and Wyoming. If it were a separately chartered bank, it would be the second largest full-service commercial bank in Utah and the seventh largest in Idaho, as measured by domestic deposits in these states. Zions Bank’s income before income taxes increased $86 million, or 29%, during 2021. The increase was primarily due to a $93 million decrease in the provision for credit losses, and a $27 million increase in noninterest income, partially offset by an $18 million increase in noninterest expense. The loan portfolio decreased $981 million during 2021, which consisted of decreases of $897 million and $108 million in commercial and CRE loans, respectively, partially offset by an increase of $24 million in consumer loans. The ratio of ACL to net loans and leases decreased to 1.08% at December 31, 2021, compared with 1.21%. Nonperforming lending-related assets decreased $8 million, or 8%, from the prior year. Deposits increased 25% in 2021. Amegy Bank Amegy Bank is headquartered in Houston, Texas. If it were a separately chartered bank, it would be the ninth largest full-service commercial bank in Texas as measured by domestic deposits in the state. Amegy’s income before income taxes increased $185 million, or 104%, during 2021. The increase was primarily due to a $207 million decrease in the provision for credit losses, and an $8 million increase in noninterest income, partially offset by an $8 million increase in noninterest expense. The loan portfolio decreased $998 million during 2021, which consisted of decreases of $471 million, $427 million, and $100 million, in commercial, consumer, and CRE loans, respectively. The ratio of ACL to net loans and leases decreased to 1.05% at December 31, 2021, 40 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION compared with 1.60%. Nonperforming lending-related assets decreased $41 million, or 31%, from the prior year. Deposits increased 18% in 2021. California Bank & Trust California Bank & Trust is headquartered in San Diego, California. If it were a separately chartered bank, it would be the 17 th largest full-service commercial bank in California as measured by domestic deposits in the state. CB&T’s income before income taxes increased $224 million, or 123%, during 2021. The increase was primarily due to a $198 million decrease in the provision for credit losses, and a $7 million increase in noninterest income, partially offset by a $6 million increase in noninterest expense. The loan portfolio increased $22 million during 2021, which consisted of increases of $242 million and $10 million in CRE and consumer loans, respectively, and a decrease of $230 million in commercial loans. The ratio of ACL to net loans and leases decreased to 0.70% at December 31, 2021, compared with 1.28%. Nonperforming lending-related assets decreased $15 million, or 27%, from the prior year. Deposits increased 11% in 2021. National Bank of Arizona National Bank of Arizona is headquartered in Phoenix, Arizona. If it were a separately chartered bank, it would be the fifth largest full-service commercial bank in Arizona as measured by domestic deposits in the state. NBAZ’s income before income taxes increased $52 million, or 69%, during 2021. The increase was primarily due to a $62 million decrease in the provision for credit losses, and a $5 million increase in noninterest income, partially offset by an increase of $4 million in noninterest expense. The loan portfolio decreased $438 million during 2021, which consisted of decreases of $291 million, $104 million, and $43 million, in commercial, consumer, and CRE loans, respectively. The ratio of ACL to net loans and leases decreased to 0.78% at December 31, 2021, compared with 1.18%. Nonperforming lending-related assets decreased $6 million, or 35%, from the prior year. Deposits increased 26% in 2021. Nevada State Bank Nevada State Bank is headquartered in Las Vegas, Nevada. If it were a separately chartered bank, it would be the sixth largest full-service commercial bank in Nevada as measured by domestic deposits in the state. NSB’s income before income taxes increased $79 million, or 718%, during 2021. The increase was primarily due to a $72 million decrease in the provision for credit losses, and an increase of $7 million in noninterest income, partially offset by an increase of $1 million in noninterest expense. The loan portfolio decreased $415 million during 2021, which consisted of decreases of $394 million and $59 million in commercial and consumer loans, respectively, partially offset by an increase of $38 million in CRE loans. The ratio of ACL to net loans and leases decreased to 0.86% at December 31, 2021, compared with 1.90%. Nonperforming lending-related assets decreased $16 million, or 40%, from the prior year. Deposits increased 27% in 2021. On February 11, 2022, NSB announced that it has entered into an agreement to purchase three Northern Nevada branches and their associated deposit, credit card, and loan accounts. In addition to the three branches, the purchase includes approximately $480 million in deposits and $110 million in commercial and consumer loans. The transaction is expected to be completed by the third quarter of 2022, subject to customary closing conditions and regulatory approval. Vectra Bank Colorado Vectra Bank Colorado is headquartered in Denver, Colorado. If it were a separately chartered bank, it would be the tenth largest full-service commercial bank in Colorado as measured by domestic deposits in the state. Vectra’s income before income taxes increased $43 million, or 179%, during 2021. The increase was primarily due to a $46 million decrease in the provision for credit losses, and an increase of $1 million in noninterest income, partially offset by a $5 million increase in noninterest expense. The loan portfolio decreased $15 million during 2021, which consisted of decreases of $42 million and $18 million in consumer and CRE loans, respectively, 41 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION partially offset by an increase of $45 million in commercial loans. The ratio of ACL to net loans and leases decreased to 1.08% at December 31, 2021, compared with 1.38%. Nonperforming lending-related assets decreased $1 million, or 5%, from the prior year. Deposits increased 10% in 2021. The Commerce Bank of Washington The Commerce Bank of Washington is headquartered in Seattle, Washington, and operates in Washington under The Commerce Bank of Washington name and in Portland, Oregon, under The Commerce Bank of Oregon name. Its business strategy focuses primarily on serving the financial needs of commercial businesses, including professional services firms. If it were a separately chartered bank, it would be the 24 th largest full-service commercial bank in Washington and the 35 th largest in Oregon, as measured by domestic deposits in these states. TCBW’s income before income taxes increased $14 million, or 50%, during 2021. The increase was primarily due to a $10 million decrease in the provision for credit losses. The loan portfolio increased $71 million during 2021, which consisted of increases of $84 million and $12 million in CRE and commercial loans, respectively, partially offset by a decrease of $25 million in consumer loans. The ratio of ACL to net loans and leases decreased to 0.51% at December 31, 2021, compared with 0.75%. Nonperforming lending-related assets decreased $7 million, or 88%, from the prior year. Deposits increased 20% in 2021. BALANCE SHEET ANALYSIS Interest-earning Assets Interest-earning assets are assets that have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see Schedule 7 on page 32. AVERAGE OUTSTANDING LOANS AND DEPOSITS (at December 31) Investment Securities Portfolio We invest in securities to generate interest income and to actively manage liquidity, interest rate, and credit risk. Refer to the “Liquidity Risk Management” section on page 62 for additional information about how we manage our liquidity risk. The following schedule presents the components of our investment securities portfolio. See Note 3 42 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. Schedule 14 INVESTMENT SECURITIES PORTFOLIO December 31, 2021 December 31, 2020 (In millions) Par Value Amortized cost Fair value Par Value Amortized cost Fair value Held-to-maturity Municipal securities $ 441 $ 441 $ 443 $ 636 $ 636 $ 640 Available-for-sale U.S. Treasury securities 155 155 134 205 205 192 U.S. Government agencies and corporatio Agency securities 833 833 845 1,051 1,051 1,091 Agency guaranteed mortgage-backed securities 20,340 20,549 20,387 11,259 11,439 11,693 Small Business Administration loan-backed securities 867 938 912 1,103 1,195 1,160 Municipal securities 1,489 1,652 1,694 1,237 1,352 1,420 Other debt securities 75 75 76 175 175 175 Total available-for-sale 23,759 24,202 24,048 15,030 15,417 15,731 Total HTM and AFS investment securities $ 24,200 $ 24,643 $ 24,491 $ 15,666 $ 16,053 $ 16,371 The amortized cost of investment securities increased 54% from the prior year, and approximately 11% of the total investment securities are floating rate at December 31, 2021, compared with 23% at December 31, 2020. The investment securities portfolio includes $443 million of net premium that is distributed across various asset classes. Total premium amortization for our investment securities was $110 million in 2021, compared with $105 million in 2020. At December 31, 2021, based on the GAAP fair value hierarchy, 0.6% and 99.4% of the AFS securities portfolio was valued at Level 1 and Level 2, respectively, compared with 1.2% and 98.8% at December 31, 2020. None of the AFS securities portfolio was valued at Level 3 for either period. See Note 3 of the Notes to Consolidated Financial Statements for further discussion of fair value accounting. Exposure to Municipalities We provide products and services to state and local governments (referred to collectively as “municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. Schedule 15 summarizes our exposure to state and local municipaliti Schedule 15 MUNICIPALITIES December 31, (In millions) 2021 2020 Loans and leases $ 3,659 $ 2,951 Held-to-maturity – municipal securities 441 636 Available-for-sale – municipal securities 1,694 1,420 Trading account – municipal securities 355 149 Unfunded lending commitments 280 359 Total direct exposure to municipalities $ 6,429 $ 5,515 43 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. Our municipal loans and securities primarily relate to municipalities located within our geographic footprint. At December 31, 2021, no municipal loans were on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At December 31, 2021, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. Loan and Lease Portfolio At December 31, 2021 and 2020, the ratio of loans and leases to total assets was 55% and 66%, respectively. The largest loan category was commercial and industrial loans, which constituted 27% and 25% of our total loan portfolio for the same time periods. Schedule 16 presents our outstanding loan portfolio by type and contractual maturity. This schedule also reflects the repricing characteristics of these loans. In a small number of cases, we have hedged the repricing characteristics of our variable-rate loans as more fully described in “Interest Rate Risk” on page 60. Schedule 16 LOAN AND LEASE PORTFOLIO BY TYPE AND MATURITY December 31, 2021 December 31, (In millions) One year or less One year through five years Five years through fifteen years Over fifteen years Total 2020 2019 2018 2017 Commerci Commercial and industrial $ 3,675 $ 8,085 $ 2,060 $ 47 $ 13,867 $ 13,444 $ 14,760 $ 14,513 $ 14,003 PPP — 1,855 — — 1,855 5,572 — — — Leasing 326 1 — — 327 320 334 327 364 Owner-occupied 443 1,376 5,382 1,532 8,733 8,185 7,901 7,661 7,288 Municipal 215 530 2,073 840 3,658 2,951 2,393 1,661 1,271 Total commercial 4,659 11,847 9,515 2,419 28,440 30,472 25,388 24,162 22,926 Commercial real estate: Construction and land development 789 1,828 75 65 2,757 2,345 2,211 2,186 2,021 Term 1,581 4,921 2,818 121 9,441 9,759 9,344 8,939 9,103 Total commercial real estate 2,370 6,749 2,893 186 12,198 12,104 11,555 11,125 11,124 Consume Home equity credit line 11 19 83 2,903 3,016 2,745 2,917 2,937 2,777 1-4 family residential 40 34 230 5,746 6,050 6,969 7,568 7,176 6,662 Construction and other consumer real estate 2 10 15 611 638 630 624 643 597 Bankcard and other revolving plans 329 67 — — 396 432 502 491 509 Other 13 73 27 — 113 124 155 180 185 Total consumer 395 203 355 9,260 10,213 10,900 11,766 11,427 10,730 Total net loans and leases $ 7,424 $ 18,799 $ 12,763 $ 11,865 $ 50,851 $ 53,476 $ 48,709 $ 46,714 $ 44,780 Loans maturin With fixed interest rates $ 2,146 $ 4,275 $ 5,865 $ 1,328 $ 13,614 With variable interest rates 5,278 14,524 6,898 10,537 37,237 Total $ 7,424 $ 18,799 $ 12,763 $ 11,865 $ 50,851 44 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The loan and lease portfolio decreased $2.6 billion from December 31, 2020, primarily due to the forgiveness of PPP loans. Excluding PPP loans, commercial loans increased $1.7 billion, driven largely by increases in municipal loans, owner-occupied loans, and commercial and industrial loans of $0.7 billion, $0.5 billion and $0.4 billion, respectively. Commercial real estate construction and land development loans increased $0.4 billion, while term commercial real estate loans decreased $0.3 billion. Consumer loans decreased $0.7 billion, primarily due to a $0.9 billion decline in 1-4 family residential mortgage loans, partially offset by a $0.3 billion increase in home equity credit lines (“HECL”). Other Noninterest-bearing Investments Other noninterest-bearing investments are equity investments that do not generally provide interest income, but are held primarily for capital appreciation, dividends, or for certain regulatory requirements. Schedule 17 summarizes our related investments: Schedule 17 OTHER NONINTEREST-BEARING INVESTMENTS December 31, Amount change Percent change (Dollar amounts in millions) 2021 2020 Bank-owned life insurance $ 537 $ 532 $ 5 1 % Federal Home Loan Bank stock 11 11 — — Federal Reserve stock 81 98 (17) (17) Farmer Mac stock 19 28 (9) (32) SBIC investments 179 135 44 33 Other 24 13 11 85 Total other noninterest-bearing investments $ 851 $ 817 $ 34 4 % Total other noninterest-bearing investments increased $34 million, or 4%, during 2021, primarily due a net $23 million unrealized gain related to our investment in Recursion Pharmaceuticals, Inc., which completed an IPO in the second quarter of 2021. Premises, Equipment, and Software Net premises, equipment, and software increased $110 million, or 9.1%, during 2021, primarily due to capitalized construction costs related to the completion of our new Corporate Technology Center. During 2020, we announced the construction of a 400,000 square-foot technology campus in Midvale, Utah. The campus is expected to be completed in mid-2022 and will be our primary technology and operations center, accommodating more than 2,000 employees. The new campus will allow us to achieve significant efficiencies by eliminating a number of smaller facilities totaling 520,000 square feet and reducing related occupancy costs by more than 20%. During 2021, we sold a substantial portion of our smaller technology and operations facilities, resulting in net gains on sale of $12 million. In 2020, we announced the construction of a new corporate center for Vectra in Denver, Colorado. The 127,000 square-foot, nine-story, mixed-use building is scheduled to open in late-2022. We are also in the final phase of a three-phase project to replace our core loan and deposit banking systems, and are on track to convert our deposit servicing system by 2023. Capitalized costs associated with the core system replacement project generally carry a useful life of ten years, and are summarized in the following schedule. Schedule 18 CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT December 31, 2021 (In millions) Phase 1 Phase 2 Phase 3 Total Total capitalized costs, less accumulated depreciation $ 38 $ 64 $ 154 $ 256 45 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Deposits Deposits are our primary funding source. The following schedule presents our deposits by category and percentage of total deposits: Schedule 19 DEPOSITS December 31, 2021 December 31, 2020 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Noninterest-bearing demand $ 41,053 49.6 % $ 32,494 46.7 % Interest-bearin Savings and money market 40,114 48.4 34,571 49.6 Time 1,622 2.0 2,588 3.7 Total deposits $ 82,789 100.0 % $ 69,653 100.0 % Total deposits increased $13.1 billion, or 19%, in 2021, primarily due to an $8.6 billion increase in noninterest-bearing deposits. When combined, savings and money market deposits and noninterest-bearing deposits comprised 98% and 96% of total deposits at December 31, 2021 and 2020, respectively. Total deposits included $0.4 billion and $1.3 billion of brokered deposits for the same time periods. Total U.S. time deposits that exceed the current FDIC insurance limit of $250,000 were $563 million and $547 million at December 31, 2021 and 2020, respectively. The estimated total amount of uninsured deposits, including related interest accrued and unpaid, was $49 billion and $38 billion at December 31, 2021 and 2020, respectively. See Notes 12 and 13 of the Notes to Consolidated Financial Statements and “Liquidity Risk Management” on page 62 for additional information on funding and borrowed funds. RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We utilize the three lines of defense approach to risk management with responsibilities for each line of defense defined in our Risk Management Framework. The first line of defense represents units and functions throughout the Bank engaged in activities related to revenue generation, expense reduction, operational support, and technology services. These units and functions are accountable for owning and managing the risks associated with these activities. The second line of defense represents functions responsible for independently assessing and overseeing risk management activities. The third line of defense is our internal audit function that provides independent assessment of the effectiveness of the first and second lines of defense. In support of management's efforts, the Board has established certain committees to oversee our risk management processes. The Audit Committee oversees financial reporting risk, and the Risk Oversight Committee (“ROC”) oversees the other risk management processes. The ROC meets on a regular basis to monitor and review Enterprise Risk Management (“ERM”) activities. As required by its charter, the ROC provides oversight for various ERM activities and approves ERM policies and activities as detailed in the ROC charter. We employ various strategies to reduce the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cyber risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by various management committees of which the Enterprise Risk Management Committee is the focal point. 46 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. The Board, through the ROC, is responsible for approving the overall credit policies relating to the management of credit risk. The ROC also oversees and monitors adherence to key credit policies and the credit risk appetite as defined in the Risk Management Framework. The Board has delegated responsibility for managing credit risk and approving changes to credit policies to the Chief Credit Officer, who chairs the Credit Risk Committee. Credit policies, credit risk management, and credit examination functions inform and support the oversight of credit risk. Our credit policies emphasize strong underwriting standards and early detection of potential problem credits in order to develop and implement action plans on a timely basis to mitigate potential losses. These formal credit policies and procedures provide us with a framework for consistent underwriting and a basis for sound credit decisions at the local banking affiliate level. Our credit policies and practices are also designed to help manage potential risks, including those arising from environmental issues. Environmental risk related to our lending practices is primarily covered in our environmental credit policy and by our environmental subject matter experts and manager. The extent of environmental due diligence performed by our environmental risk team is based on the risks identified at each property and the loan amount. The extension of credit to certain borrowers, or those connected with certain activities, may be restricted or require escalated approval, by policy, because of various environmental risks. Our credit risk management function is separate from the lending function and strengthens control over, and the independent evaluation of, credit activities. In addition, we have a well-defined set of standards for evaluating our loan portfolio, and we utilize a comprehensive loan risk-grading system to determine the risk potential in the portfolio. The internal credit examination department, which is independent of the lending function, periodically conducts examinations of our lending departments and credit activities. These examinations are designed to review credit quality, adequacy of documentation, appropriate loan risk-grading administration, and compliance with credit policies. Credit examinations related to the ACL are reported to both the Audit Committee and the ROC. Our overall credit risk management strategy includes diversification of our loan portfolio. Our business activity is conducted primarily within the geographic footprint of our banking affiliates. We seek to avoid the risk of undue concentrations of credit in any particular industry, collateral type, location, or with any individual customer or counterparty. We have certain significant concentrations, including CRE and oil and gas-related lending. We have adopted and adhere to concentration limits on leveraged lending, municipal lending, oil and gas-related lending, and various types of CRE lending, particularly construction and land development lending. Concentration limits are regularly monitored and revised as necessary. 47 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Schedule 20 presents the composition of our loan and lease portfolio. Schedule 20 LOAN AND LEASE PORTFOLIO December 31, 2021 December 31, 2020 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 13,867 27.3 % $ 13,444 25.1 % PPP 1,855 3.6 5,572 10.5 Leasing 327 0.6 320 0.6 Owner-occupied 8,733 17.2 8,185 15.3 Municipal 3,658 7.2 2,951 5.5 Total commercial 28,440 55.9 30,472 57.0 Commercial real estate: Construction and land development 2,757 5.4 2,345 4.4 Term 9,441 18.6 9,759 18.2 Total commercial real estate 12,198 24.0 12,104 22.6 Consume Home equity credit line 3,016 5.9 2,745 5.2 1-4 family residential 6,050 11.9 6,969 13.0 Construction and other consumer real estate 638 1.3 630 1.2 Bankcard and other revolving plans 396 0.8 432 0.8 Other 113 0.2 124 0.2 Total consumer 10,213 20.1 10,900 20.4 Total net loans and leases $ 50,851 100.0 % $ 53,476 100.0 % Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by U.S. government agencies, such as the SBA, Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At December 31, 2021, $2.3 billion of these loans were guaranteed, primarily by the SBA. The following schedule presents the composition of U.S. government agency guaranteed loans and includes $1.9 billion of the previously mentioned PPP loans. Schedule 21 U.S. GOVERNMENT AGENCY GUARANTEES (Dollar amounts in millions) December 31, 2021 Percent guaranteed December 31, 2020 Percent guaranteed Commercial $ 2,410 95 % $ 6,116 98 % Commercial real estate 22 73 18 72 Consumer 5 100 5 100 Total loans $ 2,437 94 % $ 6,139 98 % 48 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. Schedule 22 COMMERCIAL LENDING BY INDUSTRY GROUP 1 December 31, 2021 December 31, 2020 (Dollar amounts in millions) Amount Percent Amount Percent Real estate, rental and leasing $ 2,536 8.9 % $ 2,408 7.9 % Retail trade 2,412 8.5 2,736 9.0 Manufacturing 2,374 8.3 2,480 8.1 Healthcare and social assistance 2,349 8.2 2,686 8.8 Finance and insurance 2,303 8.1 2,115 6.9 Public Administration 1,959 6.9 1,512 5.0 Wholesale trade 1,701 6.0 1,735 5.7 Construction 1,456 5.1 2,001 6.6 Utilities 2 1,446 5.1 1,507 4.9 Hospitality and food services 1,353 4.8 1,545 5.1 Transportation and warehousing 1,273 4.5 1,526 5.0 Other Services (except Public Administration) 1,213 4.2 1,207 4.0 Mining, quarrying, and oil and gas extraction 1,185 4.2 1,236 4.1 Educational services 1,163 4.1 1,181 3.9 Professional, scientific, and technical services 1,084 3.8 1,598 5.2 Other 3 2,633 9.3 2,999 9.8 Total $ 28,440 100.0 % $ 30,472 100.0 % 1 Industry groups are determined by North American Industry Classification System (NAICS) codes. 2 Includes primarily utilities, power, and renewable energy. 3 No other industry group individually exceeds 2.7%. 49 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Commercial Real Estate Loans The following schedule presents credit quality information for our CRE loan portfolio segmented by real estate category and collateral location. Schedule 23 COMMERCIAL REAL ESTATE PORTFOLIO BY LOAN TYPE AND COLLATERAL LOCATION (Dollar amounts in millions) Collateral Location Loan type As of date Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington/Oregon Other 1 Total % of total CRE Commercial term Balance outstanding 12/31/2021 $ 1,038 $ 3,331 $ 508 $ 653 $ 1,606 $ 1,408 $ 444 $ 453 $ 9,441 77.4 % % of loan type 11.0 % 35.3 % 5.4 % 6.9 % 17.0 % 14.9 % 4.7 % 4.8 % 100.0 % Delinquency rat 2 30-89 days 12/31/2021 — % 0.2 % 0.2 % — % — % 0.1 % — % — % 0.1 % 12/31/2020 0.7 % 1.1 % — % — % 0.7 % — % — % 0.2 % 0.6 % ≥ 90 days 12/31/2021 — % 0.1 % — % — % 0.2 % — % — % — % 0.1 % 12/31/2020 0.1 % 0.2 % — % — % — % 0.2 % — % 0.2 % 0.1 % Accruing loans past due 90 days or more 12/31/2021 $ — $ — $ — $ — $ — $ — $ — $ — $ — 12/31/2020 — 4 — — — — — — 4 Nonaccrual loans 12/31/2021 — 3 — — 17 — — — 20 12/31/2020 1 5 — — 18 6 — 1 31 Commercial construction and land development 3 Balance outstanding 12/31/2021 $ 242 $ 405 $ 94 $ 107 $ 475 $ 543 $ 181 $ 40 $ 2,087 17.1 % % of loan type 11.6 % 19.4 % 4.5 % 5.1 % 22.8 % 26.0 % 8.7 % 1.9 % 100.0 % Delinquency rat 2 30-89 days 12/31/2021 — % — % — % — % — % — % 13.2 % — % 0.9 % 12/31/2020 — % — % — % — % — % — % — % — % — % ≥ 90 days 12/31/2021 — % — % — % — % — % — % — % — % — % 12/31/2020 — % — % — % — % — % — % 3.9 % — % 0.2 % Accruing loans past due 90 days or more 12/31/2021 $ — $ — $ — $ — $ — $ — $ — $ — $ — 12/31/2020 — — — — — — 4 — 4 Residential construction and land development 3 Balance outstanding 12/31/2021 $ 82 $ 167 $ 44 $ 2 $ 162 $ 167 $ 9 $ 37 $ 670 5.5 % % of loan type 12.3 % 25.0 % 6.6 % 0.2 % 24.2 % 24.9 % 1.3 % 5.5 % 100.0 % Total construction and land development 12/31/2021 $ 324 $ 572 $ 138 $ 109 $ 637 $ 710 $ 190 $ 77 $ 2,757 Total commercial real estate 12/31/2021 $ 1,362 $ 3,903 $ 646 $ 762 $ 2,243 $ 2,118 $ 634 $ 530 $ 12,198 100.0 % 1 No other geography exceeds $65 million for all three loan types. 2 Delinquency rates include nonaccrual loans. 3 At December 31, 2021 and 2020, there was no meaningful nonaccrual activity for commercial construction and land development loans, nor delinquency or nonaccrual activity for residential construction and land development loans. At December 31, 2021, our CRE construction and land development and term loan portfolios represented approximately 24% of the total loan portfolio. The majority of our CRE loans are secured by real estate, which is primarily located within our geographic footprint. Approximately 19% of the CRE loan portfolio matures in the next 12 months. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with one- to five-year extension options or roll-to-perm options that often result in term debt. Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and nonrecourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. 50 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Approximately $160 million, or 6%, of the commercial construction and land development portfolio at December 31, 2021 consists of acquisition and development loans. Most of these acquisition and development loans are secured by specific retail, apartment, office, or other projects. Underwriting on commercial properties is primarily based on the economic viability of the project with significant consideration given to the creditworthiness and experience of the sponsor. We generally require that the owner’s equity be injected prior to bank advances. Re-margining requirements (required equity infusions upon a decline in value or cash flow of the collateral) are often included in the loan agreement along with guarantees of the sponsor. Consideration of projected cash flows is critical when underwriting commercial properties, as these cash flows ultimately support a project’s debt service. Therefore, in most projects (with the exception of multi-family and hospitality construction projects), we require substantial pre-leasing or leasing in our underwriting, and we generally require a minimum projected stabilized debt service coverage ratio of 1.20 or higher, depending on the project asset class. Within the residential construction and development sector, many of the requirements previously mentioned, such as creditworthiness and experience of the developer, up-front injection of the developer’s equity, principal curtailment requirements, and the viability of the project are also important in underwriting a residential development loan. Consideration is also given to the expected market acceptance of the product, location, strength of the developer, and the ability of the developer to stay within budget. Progress inspections by qualified independent inspectors are routinely performed before disbursements are made. Real estate appraisals are ordered in accordance with regulatory guidelines and are validated independently of the loan officer and the borrower, generally by our internal appraisal review function, which is staffed by licensed appraisers. In some cases, reports from automated valuation services are used or internal evaluations are performed. A new appraisal or evaluation is required when a loan deteriorates to a certain level of credit weakness. Advance rates will vary based on the viability of the project and the creditworthiness of the sponsor, but our guidelines generally limit advances to 50% for raw land, 65% for land development, 65% for finished commercial lots, 75% for finished residential lots, 80% for pre-sold homes, 75% for models and homes not under contract, and 75% for commercial properties. Exceptions may be granted on a case-by-case basis. Loan agreements require regular financial information on the project and the sponsor in addition to lease schedules, rent rolls and, on construction projects, independent progress inspection reports. The receipt of this financial information is monitored, and calculations are made to determine adherence to the covenants set forth in the loan agreement. The existence of a guarantee that improves the likelihood of repayment is taken into consideration when evaluating CRE loans for expected losses. If the support of the guarantor is quantifiable and documented, it is included in the potential cash flows and liquidity available for debt repayment, and our expected loss methodology takes this repayment source into consideration. In general, we obtain and consider updated financial information for the guarantor as part of our determination to extend credit. The quality and frequency of financial reporting collected and analyzed varies depending on the contractual requirements for reporting, the size of the transaction, and the strength of the guarantor. Complete underwriting of the guarantor includes, but is not limited to, an analysis of the guarantor’s current financial statements, tax returns, leverage, liquidity (brokerage) confirmations, global cash flow, global debt service coverage, and contingent liabilities. The assessment also includes a qualitative analysis of the guarantor’s willingness to perform in the event of a problem and demonstrated history of performing in similar situations. A qualitative assessment is performed on a case-by-case basis to evaluate the guarantor’s experience, performance track record, reputation, and willingness to work with us. We also utilize market information sources, rating, and scoring services in our assessment. This qualitative analysis, coupled with a documented quantitative ability to 51 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION support the loan, may result in a higher-quality internal loan grade, which may ultimately reduce the level of allowance we estimate. In the event of default, we pursue any and all appropriate potential sources of repayment, which may come from multiple sources, including the guarantee. A number of factors are considered when deciding whether or not to pursue a guarantor, including, but not limited to, the value and liquidity of other sources of repayment (collateral), the financial strength and liquidity of the guarantor, possible statutory limitations (e.g., single action rule on real estate) and the overall cost of pursuing a guarantee compared with the ultimate amount we may be able to recover. Consumer Loans We generally originate first-lien residential home mortgages considered to be of prime quality. We typically hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. We also originate home equity credit lines (“HECL”). At December 31, 2021 and 2020, our HECL portfolio totaled $3.0 billion and $2.7 billion, respectively. The following schedule presents the composition of our HECL portfolio by lien status. Schedule 24 HECL PORTFOLIO BY LIEN STATUS December 31, (In millions) 2021 2020 Secured by first liens $ 1,503 $ 1,354 Secured by second (or junior) liens 1,513 1,391 Total $ 3,016 $ 2,745 At December 31, 2021, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral-value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with high credit scores. Approximately 90% of our HECL portfolio is still in the draw period, and approximately 19% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is minimal. The ratio of HECL net charge-offs for the trailing twelve months to average balances at December 31, 2021 and 2020 was (0.01)% for both periods. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of the HECL portfolio. Nonperforming Assets Nonperforming assets as a percentage of loans and leases and other real estate owned (“OREO”) decreased to 0.53% at December 31, 2021, compared with 0.69% at December 31, 2020. Total nonaccrual loans at December 31, 2021 decreased to $271 million from $367 million, reflecting credit quality improvements across most of our loan portfolios. The balance of nonaccrual loans can decrease due to paydowns, charge-offs, and the return of loans to accrual status under certain conditions. If a nonaccrual loan is refinanced or restructured, the new note is immediately placed on nonaccrual. If a restructured loan performs under the new terms for at least a period of six months, the loan can be considered for return to accrual status. See “Restructured Loans” and Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. 52 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents our nonperforming assets: Schedule 25 NONPERFORMING ASSETS (Dollar amounts in millions) December 31, 2021 2020 2019 2018 2017 Nonaccrual loa Loans held for sale $ — $ — $ — $ 6 $ 12 Commerci Commercial and industrial 124 140 110 82 195 PPP 3 — — — — Leasing — — — 2 8 Owner-occupied 57 76 65 67 90 Municipal — — — 1 1 Commercial real estate: Construction and land development — — — — 4 Term 20 31 16 38 36 Consume Real estate 66 119 52 55 68 Other 1 1 — 1 — Nonaccrual loans 271 367 243 252 414 Other real estate owned 1 : Commerci Commercial properties 1 4 5 2 3 Developed land — — 1 — — Land — — 1 — — Residenti 1-4 family — — 1 2 1 Other real estate owned 1 4 8 4 4 Total nonperforming assets $ 272 $ 371 $ 251 $ 256 $ 418 Accruing loans past due 90 days or mo Commerci $ 7 $ 2 $ 9 $ 7 $ 17 Commercial real estate — 8 — 1 2 Consumer 1 2 1 2 3 Total $ 8 $ 12 $ 10 $ 10 $ 22 Ratio of nonaccrual loans to net loans and leases 2 0.53 % 0.69 % 0.50 % 0.54 % 0.92 % Ratio of nonperforming assets to net loans and leases 2 and other real estate owned 0.53 % 0.69 % 0.51 % 0.55 % 0.93 % Ratio of accruing loans past due 90 days or more to net loans and leases 2 0.02 % 0.02 % 0.02 % 0.02 % 0.05 % 1 Does not include banking premises held for sale. 2 Includes loans held for sale. Troubled Debt Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are classified as troubled debt restructurings (“TDRs”). TDRs totaled $326 million at December 31, 2021, compared with $311 million at December 31, 2020. Modifications that qualified for applicable accounting and regulatory exemptions for borrowers experiencing financial difficulties exclusively related to the COVID-19 pandemic were not classified and reported as TDRs. 53 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION If the restructured loan performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the restructuring is taken into account to determine whether a loan is returned to accrual status. Schedule 26 ACCRUING AND NONACCRUING TROUBLED DEBT RESTRUCTURED LOANS December 31, (In millions) 2021 2020 2019 2018 2017 Restructured loans – accruing $ 221 $ 198 $ 78 $ 112 $ 139 Restructured loans – nonaccruing 105 113 75 90 87 Total $ 326 $ 311 $ 153 $ 202 $ 226 In the periods following the calendar year in which a loan was restructured, a loan may no longer be reported as a TDR if it is on accrual, is in compliance with its modified terms, and yields a market rate (as determined and documented at the time of the modification or restructure). See Note 6 of the Notes to Consolidated Financial Statements for additional information regarding TDRs. Schedule 27 TROUBLED DEBT RESTRUCTURED LOANS ROLLFORWARD (In millions) 2021 2020 Balance at beginning of year $ 311 $ 153 New identified troubled debt restructuring and principal increases 235 270 Payments and payoffs (117) (51) Charge-offs (3) (49) No longer reported as troubled debt restructuring (86) (2) Sales and other (14) (10) Balance at end of year $ 326 $ 311 Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. The following schedule shows the changes in the allowance for credit losses and a summary of credit loss experien 54 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Schedule 28 SUMMARY OF CREDIT LOSS EXPERIENCE (Dollar amounts in millions) 2021 2020 2019 2018 2017 Loans and leases outstanding, on December 31, $ 50,851 $ 53,476 $ 48,709 $ 46,714 $ 44,780 Average loans and leases outstandin Commercial - excluding PPP loans 25,014 25,193 24,990 23,333 22,116 Commercial - PPP loans 4,566 4,534 — — — Commercial real estate 12,136 11,854 11,675 11,079 11,184 Consumer 10,267 11,435 11,600 11,013 10,201 Total average loans and leases outstanding $ 51,983 $ 53,016 $ 48,265 $ 45,425 $ 43,501 Allowance for loan and lease loss Balance at beginning of year 1 $ 777 $ 497 $ 495 $ 518 $ 567 Provision for loan losses (258) 385 37 (39) 24 Charge-offs: Commercial 35 113 57 46 118 Commercial real estate — 1 4 5 9 Consumer 13 14 17 18 17 Total 48 128 78 69 144 Recoveri Commercial 29 14 25 68 46 Commercial real estate 3 — 6 9 14 Consumer 10 9 10 8 11 Total 42 23 41 85 71 Net loan and lease charge-offs 6 105 37 (16) 73 Balance at end of year $ 513 $ 777 $ 495 $ 495 $ 518 Reserve for unfunded lending commitments: Balance at beginning of year 1 $ 58 $ 29 $ 57 $ 58 $ 65 Provision for unfunded lending commitments (18) 29 2 (1) (7) Balance at end of year $ 40 $ 58 $ 59 $ 57 $ 58 Total allowance for credit loss Allowance for loan and lease losses $ 513 $ 777 $ 495 $ 495 $ 518 Reserve for unfunded lending commitments 40 58 59 57 58 Total allowance for credit losses $ 553 $ 835 $ 554 $ 552 $ 576 Ratio of allowance for credit losses to net loans and leases, on December 31, 2 1.09 % 1.56 % 1.14 % 1.18 % 1.29 % Ratio of allowance for credit losses to nonaccrual loans, on December 31, 171 % 228 % 228 % 224 % 143 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, on December 31, 166 % 220 % 219 % 216 % 136 % Ratio of total net charge-offs to average total loans and leases 3 0.01 % 0.20 % 0.08 % (0.04) % 0.17 % Ratio of commercial net charge-offs to average commercial loans 0.02 % 0.33 % 0.13 % (0.09) % 0.33 % Ratio of commercial real estate net charge-offs to average commercial real estate loans (0.02) % 0.01 % (0.02) % (0.04) % (0.04) % Ratio of consumer net charge-offs to average consumer loans 0.03 % 0.04 % 0.06 % 0.09 % 0.06 % 1 Beginning balances at January 1, 2020 for the allowance for loan and lease losses and reserve for unfunded lending commitments do not agree to their respective ending balances at December 31, 2019 because of the adoption of the CECL accounting standard. 2 The ratio of allowance for credit losses to net loans and leases (ex-PPP loans), at December 31, 2021 and 2020 was 1.13% and 1.74%, respectively. 3 The ratio of total net charge-offs to average loans and leases (ex-PPP loans), at December 31, 2021 and 2020 was 0.01% and 0.22%, respectively. 55 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Schedule 29 ALLOCATION OF THE ALLOWANCE FOR CREDIT LOSSES December 31, 2021 2020 2019 2018 2017 (Dollar amounts in millions) % of total loans Allocation of ACL % of total loans Allocation of ACL % of total loans Allocation of ACL % of total loans Allocation of ACL % of total loans Allocation of ACL Loan segment Commercial 59.7 % $ 330 57.0 % $ 494 52.1 % $ 380 51.7 % $ 371 51.2 % $ 419 Commercial real estate 21.3 118 22.6 191 23.7 121 23.8 127 24.8 113 Consumer 19.0 105 20.4 150 24.2 53 24.5 54 24.0 44 Total 100.0 % $ 553 100.0 % $ 835 100.0 % $ 554 100.0 % $ 552 100.0 % $ 576 The total ACL decreased $282 million during 2021, primarily due to improvements in economic forecasts and credit quality, compared with the economic stress caused by the COVID-19 pandemic in the prior year period. Due to the adoption of the CECL standard in 2020, the ACL is not comparable to periods presented prior to that time. The RULC represents a reserve for potential losses associated with off-balance sheet loan commitments and standby letters of credit, and decreased $18 million during 2021. The reserve is separately recorded on the consolidated balance sheet in “Other liabilities,” and any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. As a financial institution that engages in transactions involving various financial products, we are exposed to both interest rate risk and market risk. Our Board approves the overall policies relating to the management of our financial risk, including interest rate and market risk management. The Board has delegated the responsibility of managing our interest rate and market risk to the Asset/Liability Committee (“ALCO”), which consists of members of management. ALCO establishes and periodically revises policy limits and reviews with the ROC the limits and limit exceptions reported by management. Interest Rate Risk Interest rate risk is one of the most significant risks to which we are regularly exposed. We strive to position the Bank for interest rate changes and manage the balance sheet sensitivity to reduce net interest income volatility. We generally have granular, stable deposit funding. Much of this funding has an indeterminate life with no maturity and can be withdrawn at any time. However, because most deposits come from household and business accounts, their duration is generally long, compared with the short duration of our loan portfolio. As such, we are naturally “asset-sensitive” — meaning that our assets are expected to reprice faster or more significantly than our liabilities. In previous interest rate environments, we have added (1) interest rate swaps to synthetically increase the duration of the loan portfolio, (2) longer-duration securities, and (3) longer-duration loans to reduce the asset sensitivity to a level where an increase in interest rates of 100 basis points would result in only a slightly positive change in net interest income. During the COVID-19 pandemic with short-term interest rates at or near zero, we judged the risk-reward profile to be in favor of allowing the balance sheet to become significantly more asset-sensitive. We increased our investment securities portfolio during 2021 and added interest rate swaps in part to prevent the Bank from becoming even more asset-sensitive. 56 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Asset sensitivity to rising rates is dependent upon assumptions we use for deposit runoff and repricing behavior. As rapid growth in new deposits has led to more uncertainty in future behavior, these assumptions have become more significant. Average total deposits increased 20% from the prior year, and a significant portion of the deposits were invested in money market investments, resulting in increased asset sensitivity to rising rates. We are less asset-sensitive to declining rates than rising rates due to the limited amount of compression that could occur between the spread of the cost of deposits and the yield on money market investments. The following schedule presents derivatives utilized in our asset-liability management activities that are designated in qualifying hedging relationships at December 31, 2021. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each category of cash flow and fair value hedge. Schedule 30 DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2022 2023 2024 2025 (Dollar amounts in millions) First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter Cash flow hedges Cash flow asset hedges 1 Average outstanding notional $ 3,312 $ 2,878 $ 3,683 $ 4,416 $ 4,350 $ 4,183 $ 4,183 $ 4,183 $ 3,725 $ 2,242 Weighted-average fixed-rate received 1.80 % 1.36 % 1.26 % 1.24 % 1.20 % 1.16 % 1.16 % 1.16 % 1.05 % 1.08 % 2022 2023 2024 2025 2026 2027 2028 2029 2030 2031 Fair value hedges Fair value debt hedges 2 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — Weighted-average fixed-rate received 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % — % — % Fair value asset hedges 3 Average outstanding notional $ 479 $ 479 $ 478 $ 478 $ 478 $ 477 $ 475 $ 474 $ 473 $ 470 Weighted-average fixed-rate paid 1.16 % 1.16 % 1.16 % 1.16 % 1.16 % 1.16 % 1.16 % 1.16 % 1.16 % 1.16 % 1 Cash flow hedges consist of receive-fixed swaps hedging pools of floating-rate loans. Increases in the average outstanding notional are due to forward-starting interest rate swaps. 2 Fair value debt hedges consist of receive-fixed swaps hedging fixed-rate debt. The $500 million fair value debt hedge matures at the end of July 2029. 3 Fair value assets hedges consist of pay-fixed swaps hedging AFS fixed-rate securities. Interest Rate Risk Measurement We monitor interest rate risk through the use of two complementary measurement methods: net interest income simulation, or Earnings at Risk (“EaR”), and Economic Value of Equity at Risk (“EVE”). EaR measures the expected change in near-term (one year) net interest income in response to changes in interest rates. EVE measures the expected changes in the fair value of equity in response to changes in interest rates. EaR is an estimate of the change in total net interest income that would be recognized under different interest rate environments over a one-year period. This simulated impact to net interest income due to a change in rates uses as its base a modeled net interest income that is not necessarily the same as the most recent year’s reported net interest income. Rather, EaR employs estimated net interest income under an unchanged interest rate scenario as the basis for comparison. The EaR process then simulates changes to the base net interest income under several interest rate scenarios, including parallel and nonparallel interest rate shifts across the yield curve, taking into account deposit repricing assumptions and estimates of the possible exercise of embedded options within the portfolio (e.g., a borrower’s ability to refinance a loan under a lower-rate environment). The EaR model does not contemplate 57 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION changes in fee income that are amortized into interest income (e.g., premiums, discounts, origination points and costs, etc.). EVE is calculated as the fair value of all assets minus the fair value of liabilities. We measure changes in the dollar amount of EVE for parallel shifts in interest rates. Due to embedded optionality and asymmetric rate risk, changes in EVE can be useful in quantifying risks not apparent for small rate changes. Examples of such risks may include out-of-the-money interest rate caps (or limits) on loans, which have little effect under small rate movements but may become important if large rate changes were to occur, or substantial prepayment deceleration for low-rate mortgages in a higher-rate environment. Estimating the impact on net interest income and EVE requires that we assess a number of variables and make various assumptions in managing our exposure to changes in interest rates. The assessments address deposit withdrawals and deposit product migration (e.g., customers moving money from checking accounts to certificates of deposit), competitive pricing (e.g., existing loans and deposits are assumed to roll into new loans and deposits at similar spreads relative to benchmark interest rates), loan and security prepayments, and the effects of other embedded options. As a result of uncertainty about the maturity and repricing characteristics of both deposits and loans, we also calculate the sensitivity of EaR and EVE results to key assumptions. As previously noted, most of our liabilities are comprised of indeterminate maturity and managed-rate deposits, such as checking, savings, and money market accounts, and therefore, the modeled results are highly sensitive to the assumptions used for these deposits and to prepayment assumptions used for assets with prepayment options. We use historical regression analysis as a guide for setting such assumptions; however, due to the current low-interest-rate environment, which has little historical precedent, estimated deposit behavior may not reflect actual future results. Additionally, competition for funding in the marketplace may produce changes to deposit pricing on interest-bearing accounts that are greater or less than changes in benchmark interest rates or the federal funds rate. Under most rising interest rate scenarios, we would expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. The models are particularly sensitive to the assumption about the rate of such migration. In addition, we assume a correlation, often referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-on-checking accounts are assumed to have a lower correlation. Actual results may differ materially due to factors including the shape of the yield curve, competitive pricing, money supply, our credit worthiness, and so forth; however, we use our historical experience as well as industry data to inform our assumptions. The migration and correlation assumptions previously discussed result in deposit durations presented in the following schedu Schedule 31 DEPOSIT ASSUMPTIONS December 31, 2021 December 31, 2020 Product Effective duration (unchanged) Effective duration (+200 bps) Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 3.6 % 2.8 % 4.6 % 3.0 % Money market 1.7 % 1.7 % 3.4 % 1.4 % Savings and interest-bearing 2.4 % 2.2 % 3.0 % 2.2 % With interest rates forecast to rise more, the effective duration of deposits has shortened due to higher expected runoff and/or migration to more rate sensitive deposit products. 58 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Incorporating the assumptions previously discussed, the following schedule presents EaR, or percentage change in net interest income, and our estimated percentage change in EVE; both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. Schedule 32 INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY December 31, 2021 December 31, 2020 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Earnings at Risk (EaR) (5.2) % — % 11.2 % 22.7 % 33.6 % (2.9) % — % 9.2 % 18.0 % 26.4 % Economic Value of Equity (EVE) 20.9 % — % 0.8 % (0.5) % (1.2) % 13.0 % — % 12.0 % 14.4 % 16.1 % 1 Assumes rates cannot go below zero in the negative rate shift. For non-maturity, interest-bearing deposits, the weighted average modeled beta is 26%. If the weighted average deposit beta were to increase 11%, the EaR in the +100 bps rate shock would change from 11.2% to 9.0%. The asset sensitivity, as measured by EaR, increased in 2021, primarily due to growth in demand deposits and money market investments. The EaR analysis focuses on parallel rate shocks across the term structure of rates. The yield curve typically does not move in a parallel manner. If we consider a steepener rate ramp where the short-term rate declines to zero but the ten-year rate moves to +200 bps, the increase in EaR is 59.5% less over 24 months compared with the parallel +200 bps rate ramp. In the -100 bps rate shock, the EVE would increase due to the fact that we cap the value of our indeterminate deposits at their par value, or equivalently we assume no premium would be required to dispose of these liabilities given that depositors could be repaid at par. Since our assets increase in value as rates fall and the majority of our liabilities are indeterminate deposits, EVE increases disproportionately. The changes in EVE measures from December 31, 2020 are primarily driven by the behavior of the deposit models. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At December 31, 2021, $22 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. Of these variable-rate loans, approximately 98% are tied to either the prime rate, LIBOR, or AMERIBOR. For these variable-rate loans, we have executed $3.1 billion of cash flow hedges by receiving fixed rates on interest rate swaps. Additionally, asset sensitivity is reduced due to $6 billion of variable-rate commercial and CRE loans being priced at floored rates at December 31, 2021, which were above the “index plus spread” rate by an average of 54 bps. At December 31, 2021, we also had $3 billion of variable-rate consumer loans scheduled to reprice in the next six months, and approximately $1 billion were priced at floored rates, which were above the “index plus spread” rate by an average of 31 bps. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. LIBOR Exposure LIBOR is being phased out globally, and U.S. banking regulators instructed banks to cease entering into new lending arrangements using LIBOR no later than December 31, 2021, and migrate to alternative reference rates no later than June 2023. To facilitate the transition process, we instituted an enterprise-wide program to identify, assess, and monitor risks associated with the expected discontinuance or unavailability of LIBOR, which includes active engagement with industry working groups and regulators. This program also includes active involvement of senior management with regular engagement from the Enterprise Risk Management Committee, and seeks to minimize client and internal business operational impacts, while providing reporting transparency, consistency, and a central governance model that aligns with Financial Accounting Standards Board (“FASB”), Internal Revenue Service (“IRS”), and other regulatory guidance. 59 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION We have implemented processes, procedures, and systems to ensure contract risk is sufficiently mitigated. New originations, and any modifications or renewals of LIBOR-based contracts, contain fallback language to ensure transition to an alternative reference rate. For our contracts that referenced LIBOR and had a duration beyond December 31, 2021, all fallback provisions and variations were identified and classified based upon those provisions. During 2021, we originated more non-LIBOR referenced loans than LIBOR referenced loans, and by the end of the year, we had discontinued substantially all new originations referencing LIBOR. We have a significant number of assets and liabilities that reference LIBOR. At December 31, 2021, we had approximately $33 billion in loans (mainly commercial loans), unfunded lending commitments, and securities referencing LIBOR. The amount of borrowed funds referencing LIBOR at December 31, 2021 was less than $1 billion. These amounts exclude derivative assets and liabilities on the consolidated balance sheet. At December 31, 2021, the notional amount of our LIBOR-referenced interest rate derivative contracts was more than $18 billion, of which more than $14 billion related to contracts with central counterparty clearinghouses. The adoption of alternative reference rates continues to evolve in the marketplace. We are positioned to support our customers’ needs by accommodating multiple alternative reference rates, including the Constant Maturity Treasury rate (“CMT”), the Federal Home Loan Bank (“FHLB”) rate, the American Interbank Offered Rate (“AMERIBOR”), the Secured Overnight Financing Rate (“SOFR”), and the Bloomberg Short Term Bank Yield Index (“BSBY”). During 2022, customers will be prompted to either voluntarily modify their contracts and migrate to a reference rate other than LIBOR no later than June 2023, or be subject to the fallback provisions in their contracts. Voluntary modifications are expected to qualify for the available Tax Safe-Harbor provisions as allowed by IRS guidance. We expect that customers who voluntarily migrate to an alternative reference rate will do so by the end of year 2022, and we expect the remaining customers to move to an alternative rate index in accordance with the relevant fallback provisions in their contracts prior to June of 2023. For more information on the transition from LIBOR, see Risk Factors on page 13. Market Risk — Fixed Income We underwrite municipal and corporate securities. We also trade municipal, agency, and U.S. Treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. At December 31, 2021 and 2020, we had $372 million and $266 million of trading assets, and $254 million and $61 million of securities sold, not yet purchased, respectively. We are exposed to market risk through changes in fair value. This includes market risk for interest rate swaps used to hedge interest rate risk. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in AOCI for each financial reporting period. During 2021, the after-tax change in AOCI attributable to AFS securities decreased $336 million, due largely to changes in the interest rate environment, compared with a $229 million increase in the same prior year period. Market Risk — Equity Investments Through our equity investment activities, we own equity securities that are publicly traded. In addition, we own equity securities in governmental entities and companies, e.g., Federal Reserve Bank and the FHLB, that are not publicly traded. Equity investments may be accounted for at cost, fair value, the equity method, or full consolidation methods of accounting, depending on our ownership position and degree of influence over the investees’ affairs. Regardless of the accounting method, the value of our investment is subject to fluctuation. Because the fair value of these securities may fall below the cost at which we acquired them, we are exposed to the possibility of loss. Equity investments in private and public companies are approved, monitored, and evaluated by our Equity Investments Committee consisting of members of management. 60 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION We hold both direct and indirect investments in predominantly pre-public companies, primarily through various SBIC venture capital funds. Our equity exposure to these investments was approximately $179 million and $135 million at December 31, 2021 and 2020, respectively. On occasion, some of the companies within our SBIC investments may issue an IPO. In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce additional market risk. During 2021, we recognized a $31 million realized gain resulting from the sale of one of our SBIC investments, and a net $23 million unrealized gain related to our investment in Recursion Pharmaceuticals, Inc., which completed an IPO in the second quarter of 2021. See Note 3 of the Notes to Consolidated Financial Statements for additional information regarding the valuation of our SBIC investments. Liquidity Risk Management Overview Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as marketable loans and investment securities. Since liquidity risk is closely linked to both credit risk and market risk, many of the previously described risk control mechanisms also apply to the monitoring and management of liquidity risk. We manage our liquidity to provide adequate funds for our customers’ credit needs, capital plan actions, anticipated financial and contractual obligations, which include withdrawals by depositors, debt and capital service requirements, and lease obligations. Overseeing liquidity management is the responsibility of ALCO, which implements a Board-approved corporate Liquidity Policy. This policy addresses monitoring and maintaining adequate liquidity, diversifying funding positions, and anticipating future funding needs. The policy also includes liquidity ratio guidelines, such as a 30-day liquidity coverage ratio, that are used to monitor our liquidity positions as well as our various stress test and liquid asset measurements. We perform liquidity stress tests and assess our portfolio of highly liquid assets (sufficient to cover 30-day funding needs under stress scenarios). At December 31, 2021, our investment securities portfolio of $24.9 billion and cash and money market investments of $13.0 billion collectively comprised 41% of total assets. Our Treasury group, under the direction of the Corporate Treasurer, manages our liquidity and funding, with oversight by ALCO. The Treasurer is responsible for recommending changes to existing funding plans and our policies related to liquidity and funding. These recommendations are submitted for approval to ALCO, and changes to the policies are also approved by the ERMC and the Board. We have adopted policy limits that govern liquidity risk. The policy requires us to maintain a buffer of highly liquid assets sufficient to cover cash outflows in the event of a severe liquidity crisis. We complied with this policy throughout 2021. Liquidity Regulation We perform liquidity stress tests and assess our portfolio of highly liquid assets (sufficient to cover 30-day funding needs under the stress scenarios) even though we are no longer subject to the enhanced prudential standards for liquidity management (Reg. YY). In addition, we exceed the regulatory requirements that mandate a buffer of securities and other liquid assets to cover 70% of 30-day cash outflows under the assumptions mandated therein, although we are no longer subject to the regulations of the Final LCR Rule. Liquidity Management Actions Our consolidated cash, interest-bearing deposits held as investments, and security resell agreements were $12.9 billion at December 31, 2021, compared with $7.3 billion at December 31, 2020. During 2021, the primary sources of cash came from significant increases in deposits, redemptions and sales of investment securities, and net cash provided by operating activities. Uses of cash during the same period included primarily increases in investment securities and money market investments, repurchases of our common stock, and a decrease in short-term borrowings. Total deposits were $82.8 billion at December 31, 2021, compared with $69.7 billion at December 31, 2020. The $13.1 billion increase during 2021 was a result of an $8.6 billion and $5.5 billion increase in noninterest-bearing 61 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION demand deposits and savings and money market deposits, respectively, partially offset by a $1.0 billion decrease in time deposits. An increase in the money supply contributed meaningfully to overall deposit growth. Our core deposits, consisting of noninterest-bearing demand deposits, savings and money market deposits, and time deposits under $250,000, were $81.9 billion at December 31, 2021, compared with $68.2 billion at December 31, 2020. At December 31, 2021, maturities of our long-term senior and subordinated debt ranged from March 2022 to October 2029. During 2021, we redeemed $281 million of senior debt which matured and was not replaced with a new debt issuance. In February 2022, we redeemed $290 million of the 4-year, 3.35% senior notes on the contractual call date one month prior to final maturity. Our cash payments for interest, reflected in operating expenses, decreased to $81 million during 2021, from $195 million during 2020, primarily due to lower interest rates paid on deposits and borrowed funds and a decreased balance of fed funds and other short-term borrowings. Additionally, we paid approximately $263 million of dividends on preferred and common stock during 2021, compared with $259 million during 2020. Dividends paid per common share were $1.44 in 2021, compared with $1.36 in 2020. In January 2022, the Board approved a quarterly common dividend of $0.38 per share. General financial market and economic conditions impact our access to, and cost of, external financing. Access to funding markets is also directly affected by the credit ratings received from various rating agencies. The ratings not only influence the costs associated with borrowings, but can also influence the sources of the borrowings. All of the credit rating agencies rate our debt at an investment-grade level, and they recently improved their outloo Kroll from Stable to Positive, Fitch and S&P from Negative to Stable, and Moody’s from Stable to Review for Upgrade. Our credit ratings and outlooks are presented in the following schedule. Schedule 33 CREDIT RATINGS as of January 31, 2022: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Stable BBB+ BBB NR Fitch Stable BBB+ BBB F1 Moody's Review for Upgrade Baa2 NR NR The FHLB system and Federal Reserve Banks have been, and continue to be, a significant source of additional liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and Federal Reserve stock to maintain our borrowing capacity. At December 31, 2021, our total investment in FHLB and Federal Reserve stock was $11 million and $81 million, respectively, compared with $11 million and $98 million at December 31, 2020. The amount available for additional FHLB and Federal Reserve borrowings was approximately $18.3 billion at December 31, 2021, compared with $17.1 billion at December 31, 2020. Loans with a carrying value of approximately $26.8 billion at December 31, 2021 have been pledged at the FHLB of Des Moines and the Federal Reserve as collateral for current and potential borrowings, compared with $24.7 billion at December 31, 2020. At both December 31, 2021 and 2020, we had no FHLB or Federal Reserve borrowings outstanding. Our AFS investment securities are primarily held as a source of contingent liquidity. We target securities that can be easily turned into cash through sale or repurchase agreements and whose value remains relatively stable during market disruptions. We manage our short-term funding needs through secured borrowing with the securities pledged as collateral. Our AFS securities balances increased $8.3 billion during 2021. 62 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Our loan-to-total deposit ratio was 61% at December 31, 2021, compared with 77% at December 31, 2020, reflecting higher deposit growth in 2021. With deposit growth driving our increase in funding, liquidity considerations are highly dependent on the future behavior of deposit growth. By primarily deploying excess funds in liquid securities and money market investments, we retain the ability to address changes to our funding or liquidity profile. Borrowed funds (both short- and long-term) decreased by $993 million during 2021, as deposit growth exceeded loan demand. We used deposit funding to increase money market investments and investment securities, which increased $5.6 billion and $8.2 billion, respectively, during 2021. We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. Contractual Obligations The following schedule summarizes our contractual obligations at December 31, 2021. Schedule 34 CONTRACTUAL OBLIGATIONS (In millions) One year or less Over one year through three years Over three years through five years Over five years Indeterminable maturity 1 Total Deposits $ 1,304 $ 241 $ 76 $ 1 $ 81,167 $ 82,789 Net unfunded lending commitments 7,349 8,143 2,796 7,509 — 25,797 Standby letters of cr Financial 274 232 86 5 — 597 Performance 159 62 24 — — 245 Commercial letters of credit 14 8 — — — 22 Commitments to make venture and other noninterest-bearing investments 2 — — — — 54 54 Federal funds and other short-term borrowings 903 — — — — 903 Long-term debt 3 290 128 — 586 — 1,004 Operating leases 48 78 45 81 — 252 Total contractual obligations $ 10,341 $ 8,892 $ 3,027 $ 8,182 $ 81,221 $ 111,663 1 Indeterminable maturity deposits include noninterest-bearing demand, savings, and money market deposits. 2 Commitments to make venture and other noninterest-bearing investments do not have defined maturity dates. They are due upon demand and may be drawn immediately. Therefore, these commitments are shown as having indeterminable maturities. 3 The values presented do not reflect the associated hedges. In addition to the commitments specifically noted in the schedule above, we enter into a number of contractual commitments in the ordinary course of business. These include software licensing and maintenance, telecommunications services, facilities maintenance and equipment servicing, supplies purchasing, and other goods and services used in the operation of our business. Some of these contracts are renewable or cancellable annually or in shorter time intervals. To secure favorable pricing concessions, we may also commit to contracts that may extend several years. We enter into derivative contracts under which we are required either to receive or pay cash, depending on changes in interest rates. These contracts are measured at fair value on the balance sheet, reflecting the net present value of the expected future cash receipts and payments based on market interest rates. See Note 7 of the Notes to Consolidated Financial Statements for further information on derivative contracts. 63 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Operational, Technology, and Cyber Risk Management Operational Risk Operational risk is the risk to current or anticipated earnings or capital arising from inadequate or failed internal processes or systems, human errors or misconduct, or adverse external events. ERM assists employees, management, and the Board with assessing, measuring, managing, and monitoring this risk in accordance with our Risk Management Framework. We have documented control self-assessments related to financial reporting under the 2013 framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) and the FDICIA. We have instituted a number of measures to manage our operational risk, including, but not limited t (1) transactional documentation requirements; (2) systems and procedures to monitor transactions and positions; (3) systems and procedures to detect and mitigate attempts to commit fraud, penetrate our systems or telecommunications, access customer data, or deny normal access to those systems to our legitimate customers; (4) regulatory compliance reviews; and (5) periodic reviews by our Compliance Risk Management, Internal Audit, and Credit Examination departments. Reconciliation procedures have been established to ensure that data processing systems consistently and accurately capture critical data. In addition, the Data Governance department provides additional oversight of data integrity and data availability. Further, we maintain disaster recovery and business continuity plans for operational support in the event of natural or other disasters. We also mitigate certain operational risks through the purchase of insurance, including errors and omissions and professional liability insurance. We continually strive to improve our operational risk management, including enhancement of risk identification, risk and control self-assessments, business process mappings, regular tests of controls, and anti-fraud measures, which are reported on a regular basis to enterprise management committees. The Operational Risk Committee reports directly to the ROC. Key measures have been established in line with our Risk Management Framework to increase oversight by ERM and Operational Risk Management through the strengthening of new initiative reviews and enhancements to enterprise supply chain and vendor risk management. We also continue to enhance and strengthen the Enterprise Business Continuity program, Enterprise Security program, and Enterprise Incident Management reporting. Significant enhancements have also been made to governance, technology, and reporting, including the establishment of Policy and Committee Governance programs; the implementation of a governance, risk, and control system to manage and integrate business processes, risks, controls, assessments, and control testing; and the creation of an Enterprise Risk Profile and Operational Risk Profile. In addition, our Enterprise Exam Management department has standardized our response and reporting, and increased our effectiveness and efficiencies with regulatory examination, communications and issues management. Technology Risk Technology risk is the risk of adverse impact to business operations and customers due to reduced or denied availability or inadequate value delivery caused by technology-related assets, infrastructure, strategy or processes. We make significant investments to enhance our technology capabilities and to mitigate the risk from outdated and unsupported technologies (technical debt). This includes updating core banking systems, as well as introducing new digital customer-facing capabilities. Technology projects, initiatives, and operations are governed by a change management framework that assesses the activities and risk within our business processes to limit disruption and resource constraints. New, expanded, or modified products and services, as well as new lines of business, change initiative status, and other risks are regularly reviewed and approved by the Change, Initiatives, and Technology Committee. This Committee includes, among other senior executives, the CEO, CFO, COO and CRO. Initiative risk and change impact from the framework are reported to the ROC. Technology governance is also in place at the operational level within our Enterprise and Technology Operations (ETO) division to help ensure safety, soundness, operational resiliency, and compliance with our cybersecurity requirements. ETO management teams participate in enterprise architecture review boards and technology risk 64 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION councils to address such issues as enterprise standards compliance and strategic alignment, cyber vulnerability management, end-of-life, audit, risk and compliance issue management, and asset management. Thresholds are defined to escalate risks in these areas to the attention of the ROC and ERMC committees as appropriate. Cyber Risk Cyber risk is the risk of adverse impacts to the confidentiality, integrity and availability of data owned, stored or processed by the Bank. The number and sophistication of attempts to disrupt or penetrate our systems, and those of our suppliers — sometimes referred to as hacking, cyber fraud, cyberattacks, or other similar names — continues to grow. To combat the ever-increasing sophistication of cyberattacks, we are continually improving methods for detecting and preventing attacks. We have implemented policies and procedures, developed specific training for our employees, and have elevated our oversight and internal reporting to the Board and relevant committees. Further, we regularly engage independent third-party cyber experts to test for vulnerabilities in our environment. We also conduct our own internal simulations and tabletop exercises as well as participate in financial sector-specific exercises. We have engaged consultants at both the strategic level and at the technology implementation level to assist us in better managing this critical risk. Cyber defense and improving our resiliency against cybersecurity threats remain a key focus at all levels of management, and of our Board. CAPITAL MANAGEMENT Overview The Board is responsible for approving the policies associated with capital management. The Board has delegated responsibility of managing our capital risk to the Capital Management Committee (“CMC”), which is chaired by the Chief Financial Officer, consists of members of management, and whose primary responsibility is to recommend and administer the approved capital policies that govern our capital management. Other major CMC responsibilities inclu • Setting overall capital targets within the Board-approved Capital Policy, monitoring performance compared with our Capital Policy limits, and recommending changes to capital including dividends, common stock issuances and repurchases, subordinated debt, and changes in major strategies to maintain ourselves at well-capitalized levels; • Maintaining an adequate capital cushion to withstand adverse stress events while continuing to meet the borrowing needs of our customers, and to provide reasonable assurance of continued access to wholesale funding, consistent with fiduciary responsibilities to depositors and bondholders; and • Reviewing our agency ratings. A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. We have fundamental financial objectives and policies to consistently improve risk-adjusted returns on our shareholders’ capital, including (1) maintaining sufficient capital to support the current needs and growth of our businesses, and (2) fulfilling responsibilities to depositors and bondholders while managing capital distributions to shareholders through dividends and repurchases of common stock. Under the National Bank Act and OCC regulations, certain capital transactions are subject to the approval of the OCC. We continue to utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the FRB. The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as Board and OCC approval. Shares may be repurchased occasionally in the open market or through privately negotiated transactions. 65 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Schedule 35 SHAREHOLDERS' EQUITY (Dollar amounts in millions) December 31, 2021 December 31, 2020 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 566 $ (126) (22) % Common stock and additional paid-in capital 1,928 2,686 (758) (28) Retained earnings 5,175 4,309 866 20 Accumulated other comprehensive income (80) 325 (405) NM Total shareholders' equity $ 7,463 $ 7,886 $ (423) (5) % Total shareholders’ equity decreased $423 million, or 5% to $7.5 billion at December 31, 2021. An $866 million increase in retained earnings was offset by significant decreases in common stock and additional paid-in capital, AOCI, and preferred stock. Common stock and additional paid-in capital decreased $758 million, primarily due to common stock repurchases. AOCI decreased $405 million, primarily due to decreases in the fair value of available-for-sale securities as a result of changes in interest rates. Preferred stock decreased $126 million due to the redemption of the outstanding shares of our 5.75% Series H Non-Cumulative Perpetual Preferred Stock at par value during the second quarter of 2021. Capital Management Actions Weighted average diluted shares outstanding decreased 5.4 million in 2021, primarily due to common stock repurchases. During 2021, we repurchased 13.5 million common shares outstanding for $800 million, which is equivalent to 8.2% of common stock outstanding as of December 31, 2020. In January 2022, the Board approved a plan to repurchase up to $50 million of common shares outstanding during the first quarter of 2022. In February 2022, we repurchased 107,559 common shares outstanding for $7.5 million at an average price of $69.73. Schedule 36 CAPITAL DISTRIBUTIONS (In millions, except share data) 2021 2020 Capital distributio Preferred dividends paid $ 29 $ 34 Bank preferred stock redeemed 126 — Total capital distributed to preferred shareholders 155 34 Common dividends paid 232 225 Bank common stock repurchased 800 75 Total capital distributed to common shareholders 1,032 300 Total capital distributed to preferred and common shareholders $ 1,187 $ 334 Common shares outstanding, at year-end (in thousands) 159,913 163,737 Weighted average diluted common shares outstanding (in thousands) 160,234 165,613 Under the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. As of January 1, 2022, we had $1.1 billion of retained net profits available for distribution. The common stock dividend was $0.38 per share during the second half of 2021, compared with $0.34 during the first half of the year and the prior year. We paid common dividends of $232 million in 2021, compared with $225 million in 2020. In January 2022, the Board declared a quarterly dividend of $0.38 per common share payable on 66 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION February 24, 2022, to shareholders of record on February 17, 2022. We also paid dividends on preferred stock of $29 million in 2021, compared with $34 million in 2020. CECL We elected to phase-in the regulatory capital effects of the adoption of CECL, as allowed by federal bank agencies, and as described in Note 15 of the Notes to Consolidated Financial Statements. On December 31, 2021, the two-year deferral period for any adverse effect from CECL on regulatory capital expired. The application of these provisions had no impact on our CET1, Tier 1 risk-based, Total risk-based capital, and Tier 1 leverage capital ratios at December 31, 2021, and therefore, will not have any phase-in impact to our capital ratios over the next three years. Basel III We are subject to Basel III capital requirements to maintain adequate levels of capital as measured by several regulatory capital ratios. At December 31, 2021, we met all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. The following schedule presents our capital and other performance ratios. The Supervision and Regulation section on page 6 and Note 15 of the Notes to Consolidated Financial Statements contain more information about Basel III capital requirements. Schedule 37 CAPITAL RATIOS December 31, 2021 December 31, 2020 December 31, 2019 Tangible common equity ratio 1 6.5 % 7.8 % 8.5 % Tangible equity ratio 1 7.0 % 8.5 % 9.3 % Average equity to average assets 9.0 % 10.0 % 10.8 % Basel III risk-based capital ratios: Common equity tier 1 capital 10.2 % 10.8 % 10.2 % Tier 1 leverage 7.2 % 8.3 % 9.2 % Tier 1 risk-based 10.9 % 11.8 % 11.2 % Total risk-based 12.8 % 14.1 % 13.2 % Return on average common equity 14.9 % 7.2 % 11.2 % Return on average tangible common equity 1 17.3 % 8.4 % 13.1 % 1 See “GAAP to Non-GAAP Reconciliations” on page 22 for more information regarding these ratios. At December 31, 2021, Basel III regulatory tier 1 risk-based capital and total risk-based capital was $6.5 billion and $7.7 billion, respectively, compared with $6.6 billion and $7.9 billion, respectively, at December 31, 2020. Our Tier 1 leverage ratio declined to 7.2% from 8.3%, and has become more relevant in our capital adequacy assessments. Deployment of deposit-driven balance sheet growth into lower risk-weighted assets during the year has resulted in a modest reduction in our risk-weighted regulatory capital ratios, and a larger reduction in the Tier 1 leverage ratio, as the denominator for this ratio is not adjusted for risk. CRITICAL ACCOUNTING POLICIES AND SIGNIFICANT ESTIMATES Note 1 of the Notes to Consolidated Financial Statements contains a summary of our significant accounting policies. Described below are certain significant accounting policies that we consider critical to our financial statements. These critical accounting policies were selected because the amounts affected by them are significant to the financial statements. Any changes to these amounts, including changes in estimates, may also be significant to the financial statements. We believe that an understanding of these policies, along with the related estimates we are required to make in recording our financial transactions, is important to have a complete picture of our financial 67 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION condition. In addition, in arriving at these estimates, we are required to make complex and subjective judgments, many of which include a high degree of uncertainty. The following discussion of these critical accounting policies includes the significant estimates related to these policies. We have discussed each of these accounting policies and related estimates with the Audit Committee of the Board. We have included, where applicable in this document, sensitivity schedules and other examples to demonstrate the impact of the changes in estimates made for various financial transactions. The sensitivities in these schedules and examples are hypothetical and should be viewed with caution. Changes in estimates are based on variations in assumptions and are not subject to simple extrapolation, as the relationship of the change in the assumption to the change in the amount of the estimate may not be linear. In addition, the effect of a variation in one assumption is likely to cause changes in other assumptions, which could potentially magnify or counteract the sensitivities. Allowance for Credit Losses The ACL includes the ALLL and the RULC and represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. The ACL for our securities portfolio is estimated separately from loans. On January 1, 2020, we adopted ASU 2016-13, or CECL. Upon adoption of the ASU, we recorded the full amount of the ACL for loans and leases of $526 million, resulting in an after-tax increase to retained earnings of $20 million. The impact of the adoption of CECL for our securities portfolio was less than $1 million. The CECL allowance is calculated based on quantitative models and management qualitative judgment based on many factors over the life of loan. The primary assumptions of the CECL quantitative model are the economic forecast, the length of the reasonable and supportable forecast period, the length of the reversion period, prepayment rates, and the credit quality of the portfolio. As a result of the CECL accounting standard, the ACL may change significantly each period because, under the CECL methodology, the ACL is subject to economic forecasts that may change materially from period to period. Although we believe that our methodology for determining an appropriate level for the ACL adequately addresses the various components that could potentially result in credit losses, the processes and their elements include features that may be susceptible to significant change. Any unfavorable differences between the actual outcome of credit-related events and our estimates could require an additional provision for credit losses. For example, if the ACL was evaluated on the baseline economic scenario rather than probability weighting four scenarios, the quantitatively determined amount of the ACL at December 31, 2021 would decrease by approximately $82 million. Additionally, if the probability of default risk grade for all pass-graded loans was immediately downgraded one grade on our internal risk-grading scale, the quantitatively determined amount of the ACL at December 31, 2021 would increase by approximately $40 million. These sensitivity analyses are hypothetical and have been provided only to indicate the potential impact that changes in economic forecasts and changes in risk grades may have on the ACL estimate. See Note 6 of the Notes to Consolidated Financial Statements for more information on the processes and methodologies used to estimate the ACL. Fair Value Estimates We measure many of our assets and liabilities at fair value. Fair value is the price that could be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. To increase consistency and comparability in fair value measurements, GAAP has established a three-level hierarchy to prioritize the valuation inputs among (1) observable inputs that reflect quoted prices in active markets, (2) inputs other than quoted prices with observable market data, and (3) unobservable data such as our own data or single dealer nonbinding pricing quotes. When observable market prices are not available, fair value is estimated using modeling techniques such as discounted cash flow analysis. These modeling techniques use assumptions that market participants would consider in pricing the asset or the liability, including assumptions about the risk inherent in a particular valuation technique, 68 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION the effect of a restriction on the sale or use of an asset, the life of the asset and applicable growth rate, the risk of nonperformance, and other related assumptions. The selection and weighting of the various fair value techniques may result in a fair value higher or lower than the carrying value of the item being valued. Considerable judgment may be involved in determining the amount that is most representative of fair value. For assets and liabilities measured at fair value, our policy is to maximize the use of observable inputs, when available, and minimize the use of unobservable inputs when developing fair value measurements. In certain cases, when market observable inputs for model-based valuation techniques may not be readily available, we are required to make judgments about the assumptions market participants would use in estimating the fair value of the financial instrument. The models used to determine fair value adjustments are regularly evaluated by management for relevance under current facts and circumstances. Changes in market conditions may reduce the availability of quoted prices or observable data. For example, reduced liquidity in the capital markets or changes in secondary market activities could result in observable market inputs becoming unavailable. When market data is not available, we use valuation techniques requiring more management judgment to estimate the appropriate fair value. Fair value is used on a recurring basis for certain assets and liabilities in which fair value is the primary measure of accounting. Fair value is used on a nonrecurring basis to measure certain assets or liabilities (including loans held for sale and OREO) for impairment or for disclosure purposes in accordance with current accounting guidance. Impairment analysis also relates to long-lived assets, goodwill, and core deposit and other intangible assets. An impairment loss is recognized if the carrying amount of the asset is not likely to be recoverable and exceeds its fair value. In determining the fair value, management uses models and applies the techniques and assumptions previously described. AFS securities are valued using several methodologies, which depend on the nature of the security, availability of current market information, and other factors. AFS securities in an unrealized loss position are formally reviewed on a quarterly basis for the presence of impairment. If we have an intent to sell an identified security, or it is more likely than not we will be required to sell the security before recovery of its amortized cost basis, we first recognize an identified impairment. If we do not have the intent to sell a security, and it is more likely than not that we will not be required to sell a security prior to recovery of its amortized cost basis, then we determine whether there is any impairment attributable to credit-related factors. Notes 1, 3 , 5, 7, and 10 of the Notes to Consolidated Financial Statements and the “Investment Securities Portfolio” on page 43 contain further information regarding the use of fair value estimates. Goodwill Goodwill is recorded at fair value in the financial statements of a reporting unit at the time of its acquisition and is subsequently evaluated at least annually for impairment in accordance with current accounting guidance. We perform this annual test at the beginning of the fourth quarter, or more often if events or circumstances indicate that the carrying value of any of our reporting units, inclusive of goodwill, is less than fair value. The goodwill impairment test for a given reporting unit compares its fair value with its carrying value. If the carrying amount, inclusive of goodwill, is more likely than not to exceed its fair value, additional quantitative analysis must be performed to determine the amount, if any, of goodwill impairment. Our reporting units with goodwill are Amegy, CB&T, and Zions Bank. To determine the fair value of a reporting unit, we historically have used a combination of up to three separate quantitative methods: comparable publicly-traded commercial banks in the Western and Southwestern states (“Market Value”); where applicable, comparable acquisitions of commercial banks in the Western and 69 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Southwestern states (“Transaction Value”); and the discounted present value of management’s estimates of future cash flows. Critical assumptions that are used as part of these calculations may inclu • Selection of comparable publicly-traded companies based on location, size, and business focus and composition; • Selection of market comparable acquisition transactions, if available, based on location, size, business focus and composition, and date of the transaction; • The discount rate, which is based on our estimate of the cost of equity capital; • The projections of future earnings and cash flows of the reporting unit; • The relative weight given to the valuations derived by the three methods described; and • The control premium associated with reporting units. We apply a control premium in the Market Value approach to determine the reporting units’ equity values. Control premiums represent the ability of a controlling shareholder to change how we are managed and can cause the fair value of a reporting unit as a whole to exceed its market capitalization. Based on a review of historical bank acquisition transactions within our geographic footprint, and a comparison of the target banks’ market values 30 days prior to the announced transaction to the deal value, we have determined that up to a 25% control premium for the reporting units is appropriate. Since estimates are an integral part of the impairment test computations, changes in these estimates could have a significant impact on our reporting units' fair value and the goodwill impairment amount, if any. Estimates include economic conditions, which impact the assumptions related to interest and growth rates, loss rates, and imputed cost of equity capital. The fair value estimates for each reporting unit incorporate current economic and market conditions, including Federal Reserve monetary policy expectations and the impact of legislative and regulatory changes. Additional factors that may significantly affect the estimates include, among others, competitive forces, customer behaviors and attrition, loan losses, changes in growth trends, cost structures and technology, changes in equity market values and merger and acquisition valuations, and changes in industry conditions. Weakening in the economic environment, a decline in the performance of the reporting units, or other factors could cause the fair value of one or more of the reporting units to fall below carrying value, resulting in a goodwill impairment charge. Additionally, new legislative or regulatory changes not anticipated in management’s expectations may cause the fair value of one or more of the reporting units to fall below the carrying value, resulting in a goodwill impairment charge. Any impairment charge would not affect our regulatory capital ratios, tangible common equity ratio, or liquidity position. During the fourth quarter of 2021, we performed our annual goodwill impairment evaluation, effective October 1, 2021. We concluded that none of our reporting units were impaired. During the fourth quarter of 2020, we performed a full quantitative analysis and determined that the fair values of Zions Bank, CB&T, and Amegy exceeded their carrying values by 44%, 28%, and 12%, respectively. As part of the quantitative analysis, we also performed a hypothetical sensitivity analysis on the discount rate assumption to evaluate the impact of an adverse change to this assumption. If the discount rate applied to future earnings was increased by 100 bps, the fair values of Zions Bank, CB&T, and Amegy, would exceed their carrying values by 39%, 24%, and 9%, respectively. RECENT ACCOUNTING PRONOUNCEMENTS AND DEVELOPMENTS Note 2 of the Notes to Consolidated Financial Statements discusses recently issued accounting pronouncements that we will be required to adopt. Also described is our expectation of the impact these new accounting pronouncements will have, to the extent they are material, on our financial condition, results of operations, or liquidity. 70 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Information required by this Item is included in “Interest Rate and Market Risk Management” in MD&A, beginning on page 57 and is hereby incorporated by reference. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA REPORT ON MANAGEMENT’S ASSESSMENT OF INTERNAL CONTROL OVER FINANCIAL REPORTING The management of Zions Bancorporation, N.A is responsible for establishing and maintaining adequate internal control over financial reporting as defined by Exchange Act Rules 13a-15 and 15d-15. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Although any system of internal control can be compromised by human error or intentional circumvention of required procedures, we believe our system provides reasonable assurance that financial transactions are recorded and reported properly, providing an adequate basis for reliable financial statements. Our management has used the criteria established in Internal Control – Integrated Framework (2013 framework) issued by the COSO to evaluate the effectiveness of our internal control over financial reporting. Our management has assessed the effectiveness of our internal control over financial reporting as of December 31, 2021, and has concluded that such internal control over financial reporting is effective. There are no material weaknesses in our internal control over financial reporting that have been identified by our management. Ernst & Young LLP, an independent registered public accounting firm, has audited our consolidated financial statements for the year ended December 31, 2021, and has also issued an attestation report, which is included herein, on internal control over financial reporting in accordance with the standards of the Public Company Accounting Oversight Board (“PCAOB”). 71 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION REPORTS OF ERNST & YOUNG LLP, INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM (PCAOB ID: 42 ) REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING To the Shareholders and the Board of Directors of Zions Bancorporation, National Association Opinion on Internal Control Over Financial Reporting We have audited Zions Bancorporation, National Association’s (“the Bank” ) internal control over financial reporting as of December 31, 2021, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (“the COSO criteria”). In our opinion, the Bank maintained, in all material respects, effective internal control over financial reporting as of December 31, 2021, based on the COSO criteria. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the 2021 consolidated financial statements of the Bank, and our report dated February 24, 2022 expressed an unqualified opinion thereon. Basis for Opinion The Bank’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Report on Management’s Assessment of Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Bank’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Bank in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. Definition and Limitations of Internal Control Over Financial Reporting A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. /s/ Ernst & Young LLP Salt Lake City, Utah February 24, 2022 72 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION REPORT ON CONSOLIDATED FINANCIAL STATEMENTS To the Shareholders and the Board of Directors of Zions Bancorporation, National Association Opinion on the Financial Statements We have audited the accompanying consolidated balance sheets of Zions Bancorporation, National Association (“the Bank”) as of December 31, 2021 and 2020, the related consolidated statements of income, comprehensive income, changes in shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2021, and the related notes (collectively referred to as the “ consolidated financial statements ” ). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Bank at December 31, 2021 and 2020, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2021, in conformity with U.S. generally accepted accounting principles. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) ( “PCAOB” ), the Bank’s internal control over financial reporting as of December 31, 2021, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework), and our report dated February 24, 2022 expressed an unqualified opinion thereon. Adoption of ASU 2016-13 As discussed in Note 1 to the consolidated financial statements, the Bank changed its method of accounting for credit losses in 2020 due to the adoption of ASU 2016-13, Financial Instruments-Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments . Basis for Opinion These financial statements are the responsibility of the Bank’s management. Our responsibility is to express an opinion on the Bank’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Bank in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion. Critical Audit Matter The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and tha (1) relates to accounts or disclosures that are material to the financial statements, and (2) involved our especially challenging, subjective or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the account and the disclosures to which it relates. 73 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Allowance for loan and lease losses Description of the Matter The Bank’s loan and lease portfolio and the associated allowance for loan and lease losses (ALLL), were $50.9 billion and $513 million as of December 31, 2021, respectively. The provision for loan and lease losses was $(258) million for the year ended December 31, 2021. The ALLL represented the Bank’s estimate of current expected credit losses over the contractual remaining life of the loan and lease portfolio as of the consolidated balance sheet date. Management’s ALLL estimate includes quantitative calculations based on the statistical analysis of historical loss experience dependent on weighted economic scenarios and other loan-level characteristics forecasted over a reasonable period, losses estimated using historical loss experience for periods outside the reasonable economic forecast period (collectively the quantitative portion), supplemented with qualitative adjustments that bring the ALLL to the level management deemed appropriate based on factors that are not fully considered in the quantitative analysis. The statistical analysis of historical loss experience was derived from credit loss models used to determine the quantitative portion of the ALLL. Judgment was required by management to determine the weightings of the economic scenarios and the magnitude of the impact of the qualitative adjustments to the ALLL. Auditing management’s estimate of the ALLL is complex due to the judgment used to weight the economic scenarios and the judgment involved in determining the magnitude of the impact of the various risk factors used to derive the qualitative adjustments to the ALLL. How We Addressed the Matter in Our Audit We obtained an understanding, evaluated the design and tested the operating effectiveness of controls that address the risk of material misstatement in determining the weightings of the economic scenarios and in determining the impact of the qualitative adjustments to the ALLL at the Bank. We tested controls over the Bank’s ALLL governance process, model development and model risk management as it relates to the credit loss models used in the ALLL process. Such testing included testing controls over model governance, controls over data input into the models, and controls over model calculation accuracy and observing key management meetings where weightings of the economic scenarios and the magnitude of qualitative adjustments are reviewed and approved. To test the reasonableness of the weightings of the economic scenarios, our procedures consisted of obtaining an understanding of the forecasted economic scenarios used, including agreeing the economic scenarios to third party published data and economic scenarios developed from market information as well as evaluating management’s methodology, including the economic scenario weighting process. We also performed analytical procedures and sensitivity analyses on the weightings of the economic scenarios and searched for and evaluated information that corroborated or contradicted these weightings. Regarding the completeness of qualitative adjustments identified and incorporated into measuring the ALLL, we evaluated the potential impact of imprecision in the credit loss models and emerging risks related to changes in the environment impacting specific portfolio segments and portfolio characteristics. We also evaluated and tested internal and external data used in the qualitative adjustments by agreeing significant inputs and underlying data to internal and external sources. Further, we compared the resulting ALLL to peer bank data. We assessed whether the total amount of the ALLL estimate was consistent with the Bank’s historical loss information, credit quality statistics, and publicly observable indicators of macroeconomic financial conditions and whether the total ALLL amount was reflective of current expected losses in the loan and lease portfolio as of the consolidated balance sheet date. /s/ Ernst & Young LLP We have served as the Bank’s auditor since 2000. Salt Lake City, Utah February 24, 2022 74 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) December 31, 2021 2020 ASSETS Cash and due from banks $ 595 $ 543 Money market investments: Interest-bearing deposits 10,283 1,074 Federal funds sold and security resell agreements 2,133 5,765 Investment securiti Held-to-maturity, at amortized cost (fair value $ 443 and $ 640 ) 441 636 Available-for-sale, at fair value 24,048 15,731 Trading account, at fair value 372 266 Total investment securities 24,861 16,633 Loans held for sale 83 81 Loans and leases, net of unearned income and fees 50,851 53,476 Less allowance for loan and lease losses 513 777 Loans, net of allowance 50,338 52,699 Other noninterest-bearing investments 851 817 Premises, equipment and software, net 1,319 1,209 Goodwill and intangibles 1,015 1,016 Other real estate owned 8 4 Other assets 1,714 1,638 Total assets $ 93,200 $ 81,479 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 41,053 $ 32,494 Interest-bearin Savings and money market 40,114 34,571 Time 1,622 2,588 Total deposits 82,789 69,653 Federal funds and other short-term borrowings 903 1,572 Long-term debt 1,012 1,336 Reserve for unfunded lending commitments 40 58 Other liabilities 993 974 Total liabilities 85,737 73,593 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 566 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 151,625 and 164,090 shares and additional paid-in capital) 1,928 2,686 Retained earnings 5,175 4,309 Accumulated other comprehensive income ( 80 ) 325 Total shareholders’ equity 7,463 7,886 Total liabilities and shareholders’ equity $ 93,200 $ 81,479 See accompanying notes to consolidated financial statements. 75 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF INCOME (In millions, except shares and per share amounts) Year Ended December 31, 2021 2020 2019 Interest income: Interest and fees on loans $ 1,935 $ 2,050 $ 2,289 Interest on money market investments 21 14 32 Interest on securities 311 304 362 Total interest income 2,267 2,368 2,683 Interest expense: Interest on deposits 30 105 254 Interest on short- and long-term borrowings 29 47 157 Total interest expense 59 152 411 Net interest income 2,208 2,216 2,272 Provision for credit loss Provision for loan losses ( 258 ) 385 37 Provision for unfunded lending commitments ( 18 ) 29 2 Total provision for credit losses ( 276 ) 414 39 Net interest income after provision for credit losses 2,484 1,802 2,233 Noninterest income: Commercial account fees 134 125 121 Card fees 95 82 92 Retail and business banking fees 74 68 78 Loan-related fees and income 95 109 75 Capital markets and foreign exchange fees 73 77 78 Wealth management fees 50 44 40 Other customer-related fees 54 44 41 Customer-related fees 575 549 525 Fair value and nonhedge derivative income (loss) 14 ( 6 ) ( 9 ) Dividends and other income 43 24 43 Securities gains, net 71 7 3 Total noninterest income 703 574 562 Noninterest expense: Salaries and employee benefits 1,127 1,087 1,141 Occupancy, net 131 130 133 Furniture, equipment and software, net 128 127 135 Other real estate expense, net — 1 ( 3 ) Credit-related expense 26 22 20 Professional and legal services 68 52 47 Advertising 19 19 19 FDIC premiums 25 25 25 Other 217 241 225 Total noninterest expense 1,741 1,704 1,742 Income before income taxes 1,446 672 1,053 Income taxes 317 133 237 Net income 1,129 539 816 Preferred stock dividends ( 29 ) ( 34 ) ( 34 ) Net earnings applicable to common shareholders $ 1,100 $ 505 $ 782 Weighted average common shares outstanding during the y Basic shares (in thousands) 159,913 163,737 175,984 Diluted shares (in thousands) 160,234 165,613 186,504 Net earnings per common sh Basic $ 6.80 $ 3.06 $ 4.41 Diluted 6.79 3.02 4.16 See accompanying notes to consolidated financial statements. 76 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (In millions) Year Ended December 31, 2021 2020 2019 Net income $ 1,129 $ 539 $ 816 Other comprehensive income (loss), net of t Net unrealized holding gains (losses) on investment securities ( 336 ) 229 257 Net unrealized gains (losses) on other noninterest-bearing investments 3 1 ( 9 ) Net unrealized holding gains (losses) on derivative instruments ( 26 ) 76 33 Reclassification adjustment for decrease (increase) in interest income recognized in earnings on derivative instruments ( 46 ) ( 36 ) 5 Pension and post-retirement — 12 7 Other comprehensive income (loss), net of tax ( 405 ) 282 293 Comprehensive income $ 724 $ 821 $ 1,109 See accompanying notes to consolidated financial statements. 77 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2018 $ 566 187,554 $ — $ 3,806 $ 3,456 $ ( 250 ) $ 7,578 Net income 816 816 Cumulative effect adjustment, adoption of ASU 2017-08, Premium Amortization on Purchased Callable Debt Securities ( 3 ) ( 3 ) Other comprehensive income, net of tax 293 293 Bank common stock repurchased ( 23,531 ) ( 1,102 ) ( 1,102 ) Net shares issued from stock warrant exercises 8 Net activity under employee plans and related tax benefits 1,026 31 31 Dividends on preferred stock ( 34 ) ( 34 ) Dividends on common stock, $ 1.28 per share ( 226 ) ( 226 ) Balance at December 31, 2019 566 165,057 — 2,735 4,009 43 7,353 Net income 539 539 Cumulative effect adjustment, adoption of ASU 2016-13, Credit Loss Measurement of Credit Losses on Financial Instruments 20 20 Other comprehensive income, net of tax 282 282 Bank common stock repurchased ( 1,686 ) ( 76 ) ( 76 ) Net shares issued from stock warrant exercises 1 Net activity under employee plans and related tax benefits 718 27 27 Dividends on preferred stock ( 34 ) ( 34 ) Dividends on common stock, $ 1.36 per share ( 225 ) ( 225 ) Balance at December 31, 2020 566 164,090 — 2,686 4,309 325 7,886 Net income 1,129 1,129 Other comprehensive loss, net of tax ( 405 ) ( 405 ) Bank common stock repurchased ( 13,521 ) ( 800 ) ( 800 ) Preferred stock redemption ( 126 ) 3 ( 3 ) ( 126 ) Net activity under employee plans and related tax benefits 1,056 39 39 Dividends on preferred stock ( 29 ) ( 29 ) Dividends on common stock, $ 1.44 per share ( 232 ) ( 232 ) Change in deferred compensation 1 1 Balance at December 31, 2021 $ 440 151,625 $ — $ 1,928 $ 5,175 $ ( 80 ) $ 7,463 See accompanying notes to consolidated financial statements. 78 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF CASH FLOWS (In millions) Year Ended December 31, 2021 2020 2019 CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 1,129 $ 539 $ 816 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses ( 276 ) 414 39 Depreciation and amortization ( 14 ) 86 188 Share-based compensation 28 26 27 Deferred income tax expense (benefit) 32 ( 58 ) ( 2 ) Net decrease (increase) in trading securities ( 107 ) ( 83 ) ( 76 ) Net decrease (increase) in loans held for sale 14 ( 10 ) ( 84 ) Change in other liabilities 13 57 ( 14 ) Change in other assets ( 78 ) ( 223 ) ( 179 ) Other, net ( 112 ) ( 29 ) ( 18 ) Net cash provided by operating activities 629 719 697 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease (increase) in money market investments ( 5,577 ) ( 5,611 ) 852 Proceeds from maturities and paydowns of investment securities held-to-maturity 457 386 391 Purchases of investment securities held-to-maturity ( 262 ) ( 430 ) ( 209 ) Proceeds from sales, maturities, and paydowns of investment securities available-for-sale 4,748 4,339 3,105 Purchases of investment securities available-for-sale ( 13,647 ) ( 6,151 ) ( 1,864 ) Net change in loans and leases 2,814 ( 4,687 ) ( 1,957 ) Purchases and sales of other noninterest-bearing investments 63 79 172 Purchases of premises and equipment ( 206 ) ( 171 ) ( 117 ) Other, net 31 42 2 Net cash provided by (used in) investing activities ( 11,579 ) ( 12,204 ) 375 CASH FLOWS FROM FINANCING ACTIVITIES Net increase in deposits 13,136 12,568 2,984 Net change in short-term funds borrowed ( 669 ) ( 481 ) ( 3,600 ) Cash paid for preferred stock redemptions ( 126 ) — — Repayments of long-term debt ( 286 ) ( 429 ) — Proceeds from the issuance of long-term debt — — 992 Bank common stock repurchased ( 800 ) ( 76 ) ( 1,102 ) Proceeds from the issuance of common stock 21 8 14 Dividends paid on common and preferred stock ( 261 ) ( 259 ) ( 260 ) Other, net ( 13 ) ( 8 ) ( 9 ) Net cash provided by (used in) financing activities 11,002 11,323 ( 981 ) Net increase (decrease) in cash and due from banks 52 ( 162 ) 91 Cash and due from banks at beginning of year 543 705 614 Cash and due from banks at end of year $ 595 $ 543 $ 705 Cash paid for interest $ 81 $ 195 $ 401 Net cash paid for income taxes 442 169 233 Noncash activities are summarized as follows: Loans held for investment transferred to other real estate owned 25 4 12 Loans held for investment reclassified to loans held for sale, net 120 ( 11 ) 85 See accompanying notes to consolidated financial statements. 79 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ZIONS BANCORPORATION, N.A. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2021 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Business Zions Bancorporation, National Association (“Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) is a bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed affiliat Zions Bank in Utah, Idaho, and Wyoming; California Bank & Trust (“CB&T”); Amegy Bank (“Amegy”) in Texas; National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”) in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under The Commerce Bank of Oregon in Oregon. Basis of Financial Statement Presentation and Principles of Consolidation The consolidated financial statements include our accounts and those of our majority-owned, consolidated subsidiaries. Unconsolidated investments where we have the ability to exercise significant influence over the operating and financial policies of the respective investee are accounted for using the equity method of accounting. All significant intercompany accounts and transactions have been eliminated in consolidation. Assets held in an agency or fiduciary capacity are not included in the consolidated financial statements. The consolidated financial statements have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) and prevailing practices within the financial services industry. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. Prior year amounts have been reclassified to conform with the current year presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. We evaluated events that occurred between December 31, 2021 and the date the accompanying financial statements were issued, and there were no material events that would require recognition in the consolidated financial statements or disclosure in the accompanying Notes. As referenced in Note 13 of the “Notes to Consolidated Financial Statements,” we redeemed the 3.35 % senior notes on February 4, 2022. Variable Interest Entities A variable interest entity (“VIE”) is consolidated when we are the primary beneficiary of the VIE. Current accounting guidance requires continuous analysis to determine the primary beneficiary of a VIE. At the commencement of our involvement, and periodically thereafter, we consider our consolidation conclusions for all entities with which we are involved. At December 31, 2021, and 2020, we had no VIEs that have been consolidated in our financial statements. Statement of Cash Flows For purposes of presentation in the consolidated statements of cash flows, “cash and cash equivalents” are defined as those amounts included in cash and due from banks in the consolidated balance sheets. Fair Value Estimates We measure many of our assets and liabilities on a fair value basis. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. To improve consistency and comparability in fair value measurements, GAAP has established a hierarchy to prioritize the 80 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION valuation inputs among three levels. We prioritize quoted prices in active markets and minimize reliance on unobservable inputs when possible. When observable market prices are not available, fair value is estimated using modeling techniques requiring professional judgment to estimate the appropriate fair value. These valuation techniques use assumptions that market participants would consider in pricing the asset or the liability, including the effect of a restriction on the sale or use of an asset, the life of the asset and applicable growth rate, the risk of nonperformance, and other related assumptions. Changes in market conditions may reduce the availability of quoted prices or observable data. See Note 3 of the “Notes to Consolidated Financial Statements” for further information regarding the use of fair value estimates. Security Resell Agreements Security resell agreements represent overnight and term agreements with the majority maturing within 30 days. These agreements are generally treated as collateralized financing transactions and are carried at amounts at which the securities were acquired plus accrued interest. Either we, or in some instances third parties on our behalf, take possession of the underlying securities. The fair value of such securities is monitored throughout the contract term to ensure that asset values remain sufficient to protect against counterparty default. We are permitted by contract to sell or repledge certain securities that we accept as collateral for security resell agreements. If sold, our obligation to return the collateral is recorded as “securities sold, not yet purchased” and included as a liability in “Federal funds and other short-term borrowings.” At December 31, 2021, and 2020, we held $ 2.0 billion and $ 5.7 billion of securities for which we were permitted by contract to sell or repledge, respectively. Security resell agreements averaged $ 2.1 billion during both 2021 and 2020, and the maximum amount outstanding at any month-end during those same time periods was $ 3.6 billion and $ 6.4 billion, respectively. Investment Securities We classify our investment securities according to their purpose and holding period. Gains or losses on the sale of securities are recognized using the specific identification method and recorded in noninterest income. Held-to-maturity (“HTM”) debt securities are carried at amortized cost with purchase discounts or premiums accreted or amortized into interest income over the contractual life of the security. We have the intent and ability to hold such securities until maturity. For HTM securities, the ACL is assessed consistent with the approach described in Note 6 for loans carried at amortized cost. Available-for-sale (“AFS”) securities are measured at fair value and generally consist of debt securities held for investment. Unrealized gains and losses of AFS securities, after applicable taxes, are recorded as a component of other comprehensive income (“OCI”). AFS securities in an unrealized loss position are formally reviewed on a quarterly basis for the presence of impairment. If we have an intent to sell an identified security, or it is more likely than not we will be required to sell the security before recovery of its amortized cost basis, we recognize an identified impairment. If we have the intent and ability to hold the securities, they are analyzed to determine whether there is any impairment attributable to credit-related factors. If a credit impairment is determined to exist, then we measure the amount of credit loss and recognize an allowance for the credit loss. The process, methodology, and factors considered to evaluate securities for impairment are described further in Note 5. Trading securities are measured at fair value and consist of securities acquired for short-term appreciation or other trading purposes. Realized and unrealized gains and losses are recorded in trading income, which is included in “Capital markets and foreign exchange fees” line item in the income statement. See Note 3 for further information regarding the measurement of our investment securities at fair value. Leases All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “Other assets,” and “Premises, equipment and software, net,” respectively. The corresponding liabilities for those 81 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION leases are presented in “Other liabilities,” and “Long-term debt.” See Note 8 for further information regarding the accounting for leases. Loans Loans are reported at the principal amount outstanding, net of unearned income, unamortized purchase premiums and discounts, and net of deferred loan fees and costs, which are amortized into interest income over the life of the loan using the interest method. At the time of origination, we determine whether loans will be held for investment or held for sale. We may subsequently change our intent for a loan or group of loans and reclassify them appropriately. Loans held for sale are carried at the lower of aggregate cost or fair value. A valuation allowance is recorded when cost exceeds fair value based on reviews at the time of reclassification and periodically thereafter. Gains and losses are recorded in “Loan-related fees and income” in noninterest income based on the difference between sales proceeds and carrying value. We evaluate loans throughout their lives for signs of credit deterioration, which may impact the loan status, risk grading, and potentially impact the accounting for that loan. Loan status categories include past due as to contractual payments, accruing or nonaccruing, and restructured, including troubled debt restructurings (“TDRs”). Our accounting policies for loans and our estimation of the related allowance for credit losses (“ACL”) are described further in Note 6. In the ordinary course of business, we may syndicate portions of loans or transfer portions of loans under participation agreements to manage credit risk and our portfolio concentration. We evaluate the loan participations to determine if they meet the appropriate accounting guidance to qualify as sales. Certain purchased loans require separate accounting procedures that are also described in Note 6. Allowance for Credit Losses The ACL, which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. On January 1, 2020, we adopted Accounting Standards Update (“ASU”) 2016-13, Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, and its subsequent updates, often referred to as the Current Expected Credit Loss (“CECL”) model. CECL changed how the ACL is measured for loans and for additional financial assets, including HTM securities. The ACL for debt securities is estimated separately from loans. See Note 6 for further discussion of our estimation process for the ACL. Other Noninterest-bearing Investments These investments include private equity investments (“PEIs”), venture capital securities, securities acquired for various debt and regulatory requirements, bank-owned life insurance (“BOLI”), and certain other noninterest-bearing investments. See further discussion in Note 3. Certain PEIs and venture capital securities are accounted for under the equity method and some are reported at fair value. Changes in fair value and gains and losses from sales are recognized in the “Securities gains and losses, net” line item in noninterest income. We have elected to measure PEIs without readily determinable fair values at cost less impairment (if any), plus or minus observable price changes from an identical or similar investment of the same issuer, referred to as the “measurement alternative,” with such changes also recognized in noninterest income. Periodic reviews are conducted for impairment by comparing carrying values with estimates of fair value. BOLI is accounted for at fair value based on the cash surrender values (“CSVs”) of the general account insurance policies. A third-party service provides these values. 82 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Premises, Equipment, and Software Premises, equipment, and software are stated at cost, net of accumulated depreciation and amortization. Depreciation, computed primarily on the straight-line method, is charged to operations over the estimated useful lives of the properties, generally 25 to 40 years for buildings, three to 10 years for furniture and equipment, and three to 10 years for software, including capitalized costs related to our technology initiatives. Leasehold improvements are amortized over the terms of the respective leases (including any extension options that are reasonably certain to be exercised) or the estimated useful lives of the improvements, whichever is shorter. Premises, equipment, and software are evaluated for impairment on a periodic basis. Goodwill and Identifiable Intangible Assets Goodwill is recorded at fair value at the time of its acquisition and is subsequently evaluated for impairment annually, or more frequently if conditions warrant. Business Combinations Business combinations are accounted for under the acquisition method of accounting. Upon initially obtaining control, we recognize 100 % of all acquired assets and all assumed liabilities, regardless of the percentage owned. The assets and liabilities are recorded at their estimated fair values, with goodwill being recorded when such fair values are less than the cost of acquisition. Certain transaction and restructuring costs are expensed as incurred. Changes to estimated fair values from a business combination are recognized as an adjustment to goodwill over the measurement period, which cannot exceed one year from the acquisition date. Results of operations of acquired businesses are included in our statement of income from the date of acquisition. Other Real Estate Owned Other real estate owned (“OREO”) consists principally of commercial and residential real estate obtained in partial or total satisfaction of loan obligations. Amounts are recorded initially at fair value (less any selling costs) based on property appraisals at the time of transfer and subsequently at the lower of cost or fair value (less any selling costs). Derivative Instruments We use derivative instruments such as swaps and purchased and sold options as part of our overall interest rate risk management strategy. Derivatives are an important tool used in managing our overall asset and liability sensitivities to remain within management’s stated interest rate risk thresholds. Their use allows us to adjust and align our naturally occurring mix of fixed and floating-rate assets and liabilities to manage interest income volatility by synthetically converting variable-rate assets to fixed-rate, or synthetically converting fixed-rate funding instruments to floating rates. We also execute both interest rate and short-term foreign currency derivative instruments with our commercial banking customers to facilitate their risk management strategies. These derivatives are hedged by entering into offsetting derivatives with third parties such that we minimize our net risk exposure as a result of such transactions. We record all derivatives at fair value, and they are included on the consolidated balance sheet in “Other assets” or “Other liabilities.” The accounting for the change in value of a derivative depends on whether or not the transaction has been designated and qualifies for hedge accounting. Derivatives that are not designated as hedges are reported and measured at fair value through earnings. See Note 7 for more information. Derivatives Designated in Qualifying Hedging Relationships We apply hedge accounting to certain derivatives executed for risk management purposes, primarily interest rate risk. To qualify for hedge accounting, a derivative must be highly effective at reducing the risk associated with the exposure being hedged and the hedging relationship must be formally documented. We primarily use regression analysis to assess the effectiveness of each hedging relationship, unless the hedge qualifies for other methods of assessing effectiveness (e.g., shortcut or critical terms match), both at inception and on an ongoing basis. We designate derivatives as fair value and cash flow hedges for accounting purposes and these hedges can be a significant aspect of our overall interest risk sensitivity management. We may add additional hedging strategies over time. See Note 7 for more information regarding the accounting for derivatives designated as hedging instruments. 83 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Commitments and Letters of Credit In the ordinary course of business, we enter into loan commitments, commercial letters of credit, and standby letters of credit. Such financial instruments are recorded in the financial statements when they are funded. The credit risk associated with these commitments is evaluated in a manner similar to the ALLL. The RULC is presented separately on the consolidated balance sheet in “Other liabilities.” Revenue Recognition Noninterest income and revenue from contracts with customers are recognized when control of the promised goods or services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those goods or services. See Note 17 for further information regarding how we recognize revenue for contracts with customers. Share-based Compensation Share-based compensation generally includes grants of stock options, restricted stock, restricted stock units (“RSUs”), and other awards to employees and nonemployee directors. We recognize compensation expense in the statement of income based on the grant-date value of the associated share-based awards. See further discussion in Note 19. Income Taxes Deferred tax assets (“DTAs”) and liabilities (“DTLs”) are determined based on temporary differences between financial statement asset and liability amounts and their respective tax basis, and are measured using enacted tax laws and rates. The effect on DTAs and DTLs of a change in tax rates is recognized into income in the period that includes the enactment date. DTAs are recognized insofar that management deems it more likely than not that they will be realized. Unrecognized tax benefits for uncertain tax positions relate primarily to tax credits on technology initiatives. See Note 20 for further discussion of income taxes and unrecognized tax benefits for uncertain tax positions. Net Earnings Per Common Share Net earnings per common share is based on net earnings applicable to common shareholders, which is net of preferred stock dividends. Basic net earnings per common share is based on the weighted average outstanding common shares during each year. Unvested share-based awards with rights to receive nonforfeitable dividends are considered participating securities and are included in the computation of basic earnings per share. Diluted net earnings per common share is based on the weighted average outstanding common shares during each year, including common stock equivalents. Stock options, restricted stock, RSUs, and stock warrants are converted to common stock equivalents using the more dilutive of the treasury stock method or the two-class method. Diluted net earnings per common share excludes common stock equivalents whose effect is antidilutive. See further discussion in Note 21. 84 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 2. RECENT ACCOUNTING PRONOUNCEMENTS There have been no recent accounting pronouncements and developments that would significantly impact our financial statements or operations. 3. FAIR VALUE Fair Value Measurement Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. To measure fair value, a hierarchy has been established that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs. This hierarchy uses the following three levels of inputs to measure the fair value of assets and liabiliti Level 1 — Quoted prices in active markets for identical assets or liabilities that we have the ability to access; Level 2 — Observable inputs other than Level 1, including quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in less active markets, observable inputs other than quoted prices that are used in the valuation of an asset or liability, and inputs that are derived principally from or corroborated by observable market data by correlation or other means; and Level 3 — Unobservable inputs supported by little or no market activity for financial instruments whose value is determined by pricing models, discounted cash flow methodologies or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. The level in the fair value hierarchy within which the fair value measurement is classified is determined based on the lowest level input that is significant to the fair value measurement in its entirety. Market activity is presumed to be orderly in the absence of evidence of forced or disorderly sales. Applicable accounting guidance precludes the use of blockage factors or liquidity adjustments due to the quantity of securities held by an entity. We measure certain assets and liabilities at fair value on a recurring basis when fair value is the primary measure for accounting. Fair value is used on a nonrecurring basis to measure certain assets, such as the application of lower of cost or fair value accounting and the recognition of impairment on assets. Fair value is also used when providing required disclosures for certain financial instruments. Fair Value Policies and Procedures We have various policies, processes, and controls in place to ensure that fair values are reasonably developed, reviewed, and approved for use. These include a Securities Valuation Committee, comprised of executive management, that reviews and approves on a quarterly basis the key components of fair value measurements, including critical valuation assumptions for Level 3 measurements. A Model Risk Management Group conducts model validations, including internal models, and sets policies and procedures for revalidation, including the timing of revalidation. Third-party Service Providers We use a third-party pricing service to measure fair value for approximately 98 % of our AFS Level 2 securities. Fair value measurements for other AFS Level 2 securities generally use inputs corroborated by market data and include standard discounted cash flow analysis. For Level 2 securities, the third-party pricing service provides documentation on an ongoing basis that presents market data, including detailed pricing information and market reference data. The documentation includes benchmark yields, reported trades, broker-dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, and reference data, including information from the vendor trading platform. We review, test, and validate this information as appropriate. 85 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following describes the hierarchy designations, valuation methodologies and key inputs to measure fair value on a recurring basis for designated financial instruments: Available-for-Sale U.S. Treasury, Agencies and Corporations U.S. Treasury securities are measured under Level 1 using quoted market prices when available. U.S. agencies and corporations are measured under Level 2 for which observable market inputs were utilized in measuring fair value. Municipal Securities Municipal securities are measured under Level 2 using observable market inputs in measuring fair value. Other Debt Securities Other debt securities are measured using quoted prices for similar securities and are classified under Level 2. Trading Account Securities in the trading account are generally measured under Level 2. Held-to-Maturity HTM securities are carried at amortized cost, but are measured at fair value for disclosure purposes using a third-party pricing service or an internal model. The internal model utilizes observable market yields as inputs. Bank-owned Life Insurance BOLI is measured under Level 2 according to CSVs of the insurance policies. Nearly all policies are general account policies with CSVs based on our claims on the assets of the insurance companies. The insurance companies’ investments include predominantly fixed-income securities consisting of investment-grade corporate bonds and various types of mortgage instruments. Management regularly reviews its BOLI investment performance, including concentrations among insurance providers. Private Equity Investments PEIs carried at fair value on a recurring basis are generally measured under Level 3. On occasion, PEIs may become publicly traded and are measured under Level 1. The majority of these PEIs are held in our Small Business Investment Company (“SBIC”) and are early-stage venture investments. These investments are reviewed at least quarterly by the Securities Valuation Committee, and whenever a new round of financing occurs. Certain of these investments may be measured using multiples of operating performance. The Equity Investments Committee, consisting of executives familiar with the investments, reviews periodic financial information, including audited financial statements when available. Certain valuation analytics may be employed that include current and projected financial performance, recent financing activities, economic and market conditions, market comparable companies, market liquidity, sales restrictions, and other factors. A significant change in the expected performance of the individual investment would result in a change in the fair value measurement of the investment. Certain restrictions apply for the redemption of these investments. See additional discussions in Notes 5 and 16. Agriculture Loan Servicing We service agriculture loans approved and funded by Federal Agricultural Mortgage Corporation (“FAMC”), and provide this servicing under an agreement with FAMC for loans they own. The servicing assets are measured at fair value, which represents our projection of the present value of future cash flows measured under Level 3 using discounted cash flow methodologies. Interest-only Strips Interest-only strips are created as a by-product of securitizing U.S. Small Business Administration (“SBA”) loan pools. When the guaranteed portions of SBA 7(a) loans are pooled, interest-only strips may be created in the 86 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION pooling process. The asset’s fair value represents the present value of future cash flows measured under Level 3 using discounted cash flow methodologies. Deferred Compensation Plan Assets Invested assets in the deferred compensation plan consist of shares of registered investment companies. These mutual funds are valued under Level 1 at quoted market prices, which represents the net asset value (“NAV”) of shares held by the plan at the end of the period. Derivatives Derivatives are measured according to their classification as either exchange-traded or over-the-counter. Exchange-traded derivatives, including foreign currency exchange contracts, are generally measured under Level 1 because they are traded in active markets. Over-the-counter derivatives, consisting primarily of interest rate swaps and options, are generally measured under Level 2 as the related fair values are obtained from third-party services that utilize observable market inputs. Observable market inputs include yield curves, foreign exchange rates, commodity prices, option volatility, counterparty credit risk, and other related data. Valuations include credit valuation adjustments (“CVAs”) to reflect nonperformance risk for both us and our counterparties. CVAs are determined generally by applying a credit spread to the total expected exposure (net of any collateral) of the derivative. Securities Sold, Not Yet Purchased Securities sold, not yet purchased, included in “Federal funds and other short-term borrowings” on the balance sheet, are measured under Level 1 using quoted market prices. If market prices for identical securities are not available, quoted prices under Level 2 for similar securities are used. Quantitative Disclosure by Fair Value Hierarchy Assets and liabilities measured at fair value by class on a recurring basis are summarized as follows: (In millions) December 31, 2021 Level 1 Level 2 Level 3 Total ASSETS Investment securiti Available-for-s U.S. Treasury, agencies and corporations $ 134 $ 22,144 $ — $ 22,278 Municipal securities 1,694 1,694 Other debt securities 76 76 Total Available-for-sale 134 23,914 — 24,048 Trading account 14 358 372 Other noninterest-bearing investments: Bank-owned life insurance 537 537 Private equity investments 1 35 66 101 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 138 138 Derivativ Derivatives designated as hedges 10 10 Derivatives not designated as hedges 209 209 Total Assets $ 321 $ 25,028 $ 78 $ 25,427 LIABILITIES Securities sold, not yet purchased $ 254 $ — $ — $ 254 Other liabiliti Derivativ Derivatives not designated as hedges 51 51 Total Liabilities $ 254 $ 51 $ — $ 305 1 The level 1 PEIs relate to the portion of our SBIC investments that are now publicly traded. (In millions) December 31, 2020 Level 1 Level 2 Level 3 Total ASSETS Investment securiti Available-for-s U.S. Treasury, agencies and corporations $ 192 $ 13,944 $ — $ 14,136 Municipal securities 1,420 1,420 Other debt securities 175 175 Total Available-for-sale 192 15,539 — 15,731 Trading account 111 155 266 Other noninterest-bearing investments: Bank-owned life insurance 532 532 Private equity investments 80 80 Other assets: Agriculture loan servicing and interest-only strips 16 16 Deferred compensation plan assets 120 120 Derivativ Derivatives designated as hedges 3 3 Derivatives not designated as hedges 415 415 Total Assets $ 423 $ 16,644 $ 96 $ 17,163 LIABILITIES Securities sold, not yet purchased $ 61 $ — $ — $ 61 Other liabiliti Derivativ Derivatives not designated as hedges 38 38 Total Liabilities $ 61 $ 38 $ — $ 99 Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments December 31, 2021 December 31, 2020 (In millions) Private equity investments Ag loan servicing & interest-only strips Private equity investments Ag loan servicing & interest-only strips Balance at beginning of year $ 80 $ 16 $ 107 $ 18 Unrealized securities gains (losses), net 71 — ( 23 ) — Other noninterest income (expense) — ( 3 ) — ( 1 ) Purchases 17 — 10 — Cost of investments sold ( 24 ) — ( 14 ) — Redemptions and paydowns — ( 1 ) — ( 1 ) Transfers out 1 ( 78 ) — — — Balance at end of year $ 66 $ 12 $ 80 $ 16 1 Represents the transfer of SBIC investments out of Level 3 and into Level 1 because they are now publicly traded. The rollforward of Level 3 instruments includes the following realized gains and losses in the statement of income: (In millions) Year Ended December 31, 2021 2020 Securities gains (losses), net $ 31 $ 18 87 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Nonrecurring Fair Value Measurements Included in the balance sheet amounts are the following amounts of assets that had fair value changes measured on a nonrecurring basis: (In millions) Fair value at December 31, 2021 Gains (losses) from fair value changes Year Ended December 31, 2021 Level 1 Level 2 Level 3 Total Collateral-dependent loans $ — $ 2 $ — $ 2 $ ( 3 ) (In millions) Fair value at December 31, 2020 Gains (losses) from fair value changes Year Ended December 31, 2020 Level 1 Level 2 Level 3 Total Private equity investments $ — $ — $ 1 $ 1 $ ( 1 ) Collateral-dependent loans — 14 — 14 ( 14 ) Other real estate owned — 1 — 1 ( 2 ) Total $ — $ 15 $ 1 $ 16 $ ( 17 ) The previous fair values may not be current as of the dates indicated, but rather as of the most recent date the fair value change occurred. Accordingly, carrying values may not equal the current fair value. PEIs carried at cost were $ 18 million at December 31, 2021 and $ 8 million at December 31, 2020. Other noninterest-bearing investments carried at cost were $ 92 million and $ 109 million at December 31, 2021, and 2020, respectively, which were comprised of Federal Reserve and Federal Home Loan Bank (“FHLB”) stock. PEIs accounted for using the equity method were $ 83 million and $ 61 million at December 31, 2021, and 2020, respectively. Loans that are collateral dependent were measured at the lower of amortized cost or the fair value of the collateral. OREO was measured initially at fair value based on collateral appraisals at the time of transfer and subsequently at the lower of cost or fair value (less any selling costs). Measurement of fair value for collateral-dependent loans and OREO was based on third-party appraisals that utilize one or more valuation techniques (income, market and/or cost approaches). Any adjustments to calculated fair value were made based on recently completed and validated third-party appraisals, third-party appraisal services, automated valuation services, or our informed judgment. Automated valuation services may be used primarily for residential properties when values from any of the previous methods were not available within 90 days of the balance sheet date. These services use models based on market, economic, and demographic values. Fair Value of Certain Financial Instruments Following is a summary of the carrying values and estimated fair values of certain financial instruments: December 31, 2021 December 31, 2020 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: Held-to-maturity investment securities $ 441 $ 443 2 $ 636 $ 640 2 Loans and leases (including loans held for sale), net of allowance 50,421 50,619 3 52,780 53,221 3 Financial liabiliti Time deposits 1,622 1,624 2 2,588 2,603 2 Long-term debt 1,012 1,034 2 1,336 1,346 2 This summary excludes financial assets and liabilities for which carrying value approximates fair value and financial instruments that are recorded at fair value on a recurring basis. Financial instruments for which carrying values approximate fair value include cash and due from banks, money market investments, demand, savings and money market deposits, federal funds purchased and other short-term borrowings, and security repurchase agreements. The estimated fair value of demand, savings and money market deposits is the amount payable on 88 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION demand at the reporting date. Carrying value is used because the accounts have no stated maturity and the customer has the ability to withdraw funds immediately. Time and foreign deposits, and any other short-term borrowings, are measured at fair value by discounting future cash flows using the London Interbank Offered Rate (“LIBOR”) yield curve to the given maturity dates. Long-term debt is measured at fair value based on actual market trades (i.e., an asset value) when available, or discounting cash flows to maturity using the LIBOR yield curve adjusted for credit spreads. For loans measured at amortized cost, fair value is estimated for disclosure purposes by discounting future cash flows using the applicable yield curve adjusted by a factor that is derived from analyzing recent loan originations and combined with a liquidity premium inherent in the loan. These future cash flows are then reduced by the estimated life-of-the-loan aggregate credit losses in the loan portfolio (i.e., the allowance for loan and lease losses under the CECL model). The methods used to measure fair value for HTM securities was previously described. These fair value disclosures represent our best estimates based on relevant market information. Fair value estimates are based on judgments regarding current economic conditions, future expected loss experience, risk characteristics of the various instruments, and other factors. These estimates are subjective in nature, involve uncertainties and matters of significant judgment, and cannot be determined with precision. Changes in these methodologies and assumptions would significantly affect the estimates. 4. OFFSETTING ASSETS AND LIABILITIES Gross and net information for selected financial instruments in the balance sheet is as follows: December 31, 2021 (In millions) Gross amounts not offset in the balance sheet Description Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 2,133 $ — $ 2,133 $ — $ — $ 2,133 Derivatives (included in other assets) 219 — 219 ( 16 ) ( 7 ) 196 Total assets $ 2,352 $ — $ 2,352 $ ( 16 ) $ ( 7 ) $ 2,329 Liabiliti Federal funds and other short-term borrowings $ 903 $ — $ 903 $ — $ — $ 903 Derivatives (included in other liabilities) 51 — 51 ( 16 ) ( 1 ) 34 Total liabilities $ 954 $ — $ 954 $ ( 16 ) $ ( 1 ) $ 937 89 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION December 31, 2020 (In millions) Gross amounts not offset in the balance sheet Description Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 6,457 $ ( 692 ) $ 5,765 $ — $ — $ 5,765 Derivatives (included in other assets) 418 — 418 ( 4 ) ( 3 ) 411 Total assets $ 6,875 $ ( 692 ) $ 6,183 $ ( 4 ) $ ( 3 ) $ 6,176 Liabiliti Federal funds and other short-term borrowings $ 2,264 $ ( 692 ) $ 1,572 $ — $ — $ 1,572 Derivatives (included in other liabilities) 38 — 38 ( 4 ) ( 26 ) 8 Total liabilities $ 2,302 $ ( 692 ) $ 1,610 $ ( 4 ) $ ( 26 ) $ 1,580 Security repurchase and reverse repurchase (“resell”) agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 5. INVESTMENTS Investment Securities Investment securities are classified as HTM, AFS, or trading. HTM securities, which management has the intent and ability to hold until maturity, are carried at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. AFS securities are carried at fair value and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to accumulated other comprehensive income (“AOCI”), net of related taxes. Trading securities are carried at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 65 million and $ 54 million at December 31, 2021, and 2020, respectively. These receivables are presented on the consolidated balance sheet in “Other assets.” The purchase premiums for callable debt securities classified as HTM or AFS are amortized into interest income at an effective yield to the earliest call date. The purchase premiums and discounts for all other HTM and AFS securities are recognized in interest income over the contractual life of the security using the effective yield method. As principal prepayments are received on securities, a proportionate amount of the related premium or discount is recognized in income so that the effective yield on the remaining portion of the security continues unchanged. Note 3 discusses the process to estimate fair value for investment securities. December 31, 2021 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 441 $ 4 $ 2 $ 443 Available-for-sale U.S. Treasury securities 155 — 21 134 U.S. Government agencies and corporatio Agency securities 833 13 1 845 Agency guaranteed mortgage-backed securities 20,549 108 270 20,387 Small Business Administration loan-backed securities 938 2 28 912 Municipal securities 1,652 46 4 1,694 Other debt securities 75 1 — 76 Total available-for-sale 24,202 170 324 24,048 Total HTM and AFS investment securities $ 24,643 $ 174 $ 326 $ 24,491 December 31, 2020 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 636 $ 5 $ 1 $ 640 Available-for-sale U.S. Treasury securities 205 — 13 192 U.S. Government agencies and corporatio Agency securities 1,051 40 — 1,091 Agency guaranteed mortgage-backed securities 11,439 262 8 11,693 Small Business Administration loan-backed securities 1,195 — 35 1,160 Municipal securities 1,352 68 — 1,420 Other debt securities 175 — — 175 Total available-for-sale 15,417 370 56 15,731 Total HTM and AFS investment securities $ 16,053 $ 375 $ 57 $ 16,371 Maturities The following schedule shows the amortized cost and weighted average yields of investment debt securities by contractual maturity of principal payments at December 31, 2021. Actual principal payments may differ from contractual or expected principal payments because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. 90 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION December 31, 2021 Total debt investment securities Due in one year or less Due after one year through five years Due after five years through 10 years Due after 10 years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity Municipal securities 1 $ 441 3.14 % $ 29 2.71 % $ 131 3.53 % $ 170 2.81 % $ 111 3.30 % Available-for-sale U.S. Treasury securities 155 1.28 — — — — — — 155 1.28 U.S. Government agencies and corporatio Agency securities 833 2.06 — — 327 1.32 284 2.41 222 2.71 Agency guaranteed mortgage-backed securities 20,549 1.61 — — 396 1.36 1,381 1.56 18,772 1.62 Small Business Administration loan-backed securities 938 1.30 — — 51 1.33 113 1.55 774 1.26 Municipal securities 1 1,652 2.36 111 2.08 687 2.56 490 2.08 364 2.46 Other debt securities 75 2.16 — — — — 60 1.99 15 2.83 Total available-for-sale securities 24,202 1.67 111 2.08 1,461 1.91 2,328 1.78 20,302 1.63 Total HTM and AFS investment securities $ 24,643 1.69 % $ 140 2.21 % $ 1,592 2.05 % $ 2,498 1.85 % $ 20,413 1.64 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis using a tax rate of 21%. The following schedule summarizes the amount of gross unrealized losses for debt securities and the estimated fair value by length of time the securities have been in an unrealized loss positi December 31, 2021 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 1 $ 88 $ 1 $ 68 $ 2 $ 156 Available-for-sale U.S. Treasury securities — — 21 134 21 134 U.S. Government agencies and corporatio Agency securities 1 121 — 1 1 122 Agency guaranteed mortgage-backed securities 231 13,574 39 942 270 14,516 Small Business Administration loan-backed securities — 27 28 749 28 776 Municipal securities 4 327 — 8 4 335 Other — — — — — — Total available-for-sale 236 14,049 88 1,834 324 15,883 Total HTM and AFS investment securities $ 237 $ 14,137 $ 89 $ 1,902 $ 326 $ 16,039 91 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION December 31, 2020 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 1 $ 96 $ — $ 12 $ 1 $ 108 Available-for-sale U.S. Treasury securities 13 142 — — 13 142 U.S. Government agencies and corporatio Agency securities — 6 — 2 — 8 Agency guaranteed mortgage-backed securities 7 1,197 1 179 8 1,376 Small Business Administration loan-backed securities — 15 35 1,068 35 1,083 Municipal securities — 19 — — — 19 Other — 150 — — — 150 Total available-for-sale 20 1,529 36 1,249 56 2,778 Total HTM and AFS investment securities $ 21 $ 1,625 $ 36 $ 1,261 $ 57 $ 2,886 Approximately 137 and 119 HTM and 1,302 and 549 AFS investment securities were in an unrealized loss position at December 31, 2021, and 2020, respectively. Impairment Ongoing Policy We review investment securities quarterly on an individual basis for the presence of impairment. For AFS securities, when the fair value of a debt security is less than its amortized cost basis at the balance sheet date, we assess whether impairment is present. When determining if the fair value of an investment is less than the amortized cost basis, we have elected to exclude accrued interest from the amortized cost basis of the investment. If we have an intent to sell an identified security, or it is more likely than not we will be required to sell the security before recovery of its amortized cost basis, we recognize an impairment. If we have the intent and ability to hold the securities, we determine whether there is any impairment attributable to credit-related factors. We analyze certain factors, primarily internal and external credit ratings, to determine if the decline in fair value below the amortized cost basis has resulted from a credit loss or other factors. If a credit impairment is determined to exist, then we measure the amount of credit loss and recognize an allowance for the credit loss. In measuring the credit loss, we generally compare the present value of cash flows expected to be collected from the security to the amortized cost basis of the security. These cash flows are credit adjusted using, among other things, assumptions for default probability and loss severity. Certain other unobservable inputs, such as prepayment rate assumptions, are also utilized. In addition, certain internal models may be utilized. To determine the credit-related portion of impairment, we use the security-specific effective interest rate when estimating the present value of cash flows. If the present value of cash flows is less than the amortized cost basis of the security, then this amount is recorded as an allowance for credit loss, limited to the amount that the fair value is less than the amortized cost basis (i.e., the credit impairment cannot result in the security being carried at an amount lower than its fair value). The assumptions used to estimate the expected cash flows depend on the particular asset class, structure and credit rating of the security. Declines in fair value that are not recorded in the allowance are recorded in other comprehensive income, net of applicable taxes. AFS Impairment Conclusions We did not recognize any impairment on our AFS investment securities portfolio during 2021 or 2020. Unrealized losses relate to changes in interest rates subsequent to purchase and are not attributable to credit. At December 31, 2021, we had not initiated any sales of AFS securities, nor did we have an intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not we would be required to sell such securities before recovery of their amortized cost basis. 92 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION HTM Impairment Conclusions For HTM securities, the ACL is assessed consistent with the approach described in Note 6 for loans and leases carried at amortized cost. The ACL on HTM securities was less than $ 1 million at December 31, 2021. All HTM securities were risk-graded as “pass” in terms of credit quality and none were past due at December 31, 2021. The amortized cost basis of HTM securities categorized by year acquired and risk classification as monitored by management is summarized in the following schedu December 31, 2021 Amortized cost basis by year acquired (In millions) 2021 2020 2019 2018 2017 Prior Total Securities Held-to-maturity $ 102 $ 124 $ 10 $ — $ 8 $ 197 $ 441 Securities Gains and Losses Recognized in Income The following schedule summarizes gains and losses recognized in the income statemen 2021 2020 2019 (In millions) Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Other noninterest-bearing investments $ 119 $ 48 $ 27 $ 20 $ 20 $ 17 Net gains 1 $ 71 $ 7 $ 3 1 Net gains were recognized in securities gains in the income statement. The following schedule presents interest income by security type: (In millions) 2021 2020 2019 Taxable Nontaxable Total Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 10 $ 5 $ 15 $ 10 $ 10 $ 20 $ 9 $ 13 $ 22 Available-for-sale 256 29 285 252 25 277 308 25 333 Trading — 11 11 — 7 7 1 6 7 Total securities $ 266 $ 45 $ 311 $ 262 $ 42 $ 304 $ 318 $ 44 $ 362 Investment securities with a carrying value of approximately $ 3.1 billion and $ 2.3 billion at December 31, 2021, and 2020, respectively, were pledged to secure public and trust deposits, advances, and for other purposes as required by law. Securities are also pledged as collateral for security repurchase agreements. 93 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific class: December 31, (In millions) 2021 2020 Loans held for sale $ 83 $ 81 Commerci Commercial and industrial $ 13,867 $ 13,444 PPP 1,855 5,572 Leasing 327 320 Owner-occupied 8,733 8,185 Municipal 3,658 2,951 Total commercial 28,440 30,472 Commercial real estate: Construction and land development 2,757 2,345 Term 9,441 9,759 Total commercial real estate 12,198 12,104 Consume Home equity credit line 3,016 2,745 1-4 family residential 6,050 6,969 Construction and other consumer real estate 638 630 Bankcard and other revolving plans 396 432 Other 113 124 Total consumer 10,213 10,900 Total loans and leases $ 50,851 $ 53,476 Loans and leases are measured and presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 83 million and $ 149 million at December 31, 2021, and December 31, 2020, respectively. Amortized cost basis does not include accrued interest receivables of $ 161 million and $ 200 million at December 31, 2021, and December 31, 2020, respectively. These receivables are presented on the consolidated balance sheet in “Other assets.” Municipal loans generally include loans to municipalities with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 160 million at December 31, 2021 and $ 156 million at December 31, 2020. Loans with a carrying value of approximately $ 26.8 billion at December 31, 2021, and $ 24.7 billion at December 31, 2020, have been pledged at the Federal Reserve and the FHLB of Des Moines as collateral for current and potential borrowings. We sold loans totaling $ 1.7 billion in 2021, $ 1.8 billion in 2020, and $ 0.9 billion in 2019, that were classified as loans held for sale. The sold loans were derecognized from the balance sheet. Loans classified as loans held for sale primarily consist of conforming residential mortgages and the guaranteed portion of SBA loans. The loans are mainly sold to U.S. government agencies or participated to third-party participants. At times, we have continuing involvement in the transferred loans in the form of servicing rights or guarantees to the respective issuer. Amounts added to loans held for sale during these same periods were $ 1.7 billion, $ 1.8 billion, and $ 0.9 billion, respectively. See Note 5 for further information regarding guaranteed securities. 94 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The principal balance of sold loans for which we retain servicing was approximately $ 3.3 billion at December 31, 2021, and $ 2.7 billion at December 31, 2020. Income from loans sold, excluding servicing, was $ 34 million in 2021, $ 54 million in 2020, and $ 18 million in 2019. Allowance for Credit Losses The ACL, which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is assessed consistent with the approach for loans carried at amortized cost. See Note 5 for further discussion on our assessment of expected credit losses on AFS securities and disclosures related to AFS and HTM securities. The ACL reflects our best estimate of credit losses and is calculated using the loan's amortized cost basis (principal balance, net of unamortized premiums, discounts, and deferred fees and costs). We do not estimate the ACL for accrued interest receivables because we reverse or write-off uncollectible accrued interest receivable balances in a timely manner, generally within one month. The methodologies we use to estimate the ACL depend upon the type of loan, the age and contractual term of the loan, expected payments (both contractual and assumed prepayments), credit quality indicators, economic forecasts, and the evaluation method (whether individually or collectively evaluated). Loan extensions or renewals are not considered in the ACL unless they are included in the original or modified loan contract and are not unconditionally cancellable, or we reasonably expect a related modification to result in a TDR. Losses are charged to the ACL when recognized. Generally, commercial and commercial real estate (“CRE”) loans are charged off or charged down when they are determined to be uncollectible in whole or in part, or when 180 days past due, unless the loan is well-secured and in process of collection. Consumer loans are either charged off or charged down to net realizable value no later than the month in which they become 180 days past due. Closed-end consumer loans that are not secured by residential real estate are either charged off or charged down to net realizable value no later than the month in which they become 120 days past due. We establish the amount of the ACL by analyzing the portfolio at least quarterly, and we adjust the provision for loan losses and unfunded lending commitments to ensure the ACL is at an appropriate level at the balance sheet date. The ACL is determined based on our review of loans that have similar risk characteristics, which are evaluated on a collective basis, as well as loans that do not have similar risk characteristics, which are evaluated on an individual basis. For commercial and CRE loans with commitments greater than $ 1 million, we assign internal risk grades using a comprehensive loan grading system based on financial and statistical models, individual credit analysis, and loan officer experience and judgment. The credit quality indicators described subsequently are based on this grading system. Estimated credit losses on all loan segments, including consumer and small commercial and CRE loans with commitments less than or equal to $ 1 million that are evaluated on a collective basis, are derived from statistical analyses of our historical default and loss experience since January 2008. We estimate current expected credit losses for each loan, which includes considerations of historical credit loss experience, current conditions, and reasonable and supportable forecasts about the future. We use the following two types of credit loss estimation mod • Econometric loss models, which rely on statistical analyses of our historical loss experience dependent upon economic factors and other loan-level characteristics. Statistically relevant economic factors vary depending upon the type of loan, but include variables such as unemployment, real estate price indices, energy prices, GDP, etc. The results derived using alternative economic scenarios are weighted to produce the credit loss estimate from these models. • Loss models that are based on our long-term average historical credit loss experience since 2008, which rely on statistical analyses of our historical loss experience dependent upon loan-level characteristics. 95 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Credit loss estimates for the first 12 months of a loan’s remaining life are derived using economic loss models. Over a subsequent 12-month reversion period, we blend the estimated credit losses from the two models on a straight-line basis. For the remaining life of the loan, the estimated credit losses are derived from the long-term average historical credit loss models. For loans that do not share risk characteristics with other loans, we estimate lifetime expected credit losses on an individual basis. These include nonaccrual loans with a balance greater than $ 1 million; TDR loans, including TDRs that subsequently default; a loan no longer reported as a TDR; or a loan where we reasonably expect it to become a TDR. When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on either the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. When we base the specific reserve on the fair value of the loan’s underlying collateral, we generally charge off the portion of the balance that is greater than fair value. For these loans, subsequent to the charge-off, if the fair value of the loan’s underlying collateral increases according to an updated appraisal, we hold a negative reserve up to the lesser of the amount of the charge-off or the updated fair value. The methodologies described previously generally rely on historical loss information to help determine our quantitative portion of the ACL. However, we also consider other qualitative and environmental factors related to current conditions and reasonable and supportable forecasts that may indicate current expected credit losses may differ from the historical information reflected in our quantitative models. Thus, after applying historical loss experience, as described above, we review the quantitative portion of ACL for each segment using qualitative criteria, and we use those criteria to determine our qualitative estimate. We monitor various risk factors that influence our judgment regarding the level of the ACL across the portfolio segments. These factors primarily inclu • Actual and expected changes in international, national, regional, and local economic and business conditions and developments; • The volume and severity of past due loans, the volume of nonaccrual loans, and the volume and severity of adversely classified or graded loans; • Lending policies and procedures, including changes in underwriting standards and practices for collection, charge-off, and recovery; • The experience, ability, and depth of lending management and other relevant staff; • The nature and volume of the portfolio; • The quality of the credit review function; • The existence, growth, and effect of any concentration of credit; • The effect of other external factors such as regulatory, legal, and technological environments; fiscal and monetary actions; competition; and events such as natural disasters and pandemics. The magnitude of the impact of these factors on our qualitative assessment of the ACL changes from quarter to quarter according to changes made by management in its assessment of these factors, the extent these factors are already reflected in quantitative loss estimates, and the extent changes in these factors diverge from one to another. We also consider the uncertainty and imprecision inherent in the estimation process when evaluating the ACL. Off-balance Sheet Credit Exposures As previously mentioned, we estimate current expected credit losses for off-balance sheet loan commitments, including letters of credit that are not unconditionally cancelable. This estimate uses the same procedures and methodologies described previously for loans and is calculated by taking the difference between the estimated current expected credit loss and the funded balance, if greater than zero. 96 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Changes in the Allowance for Credit Losses Changes in the ACL are summarized as follows: December 31, 2021 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan and lease losses Balance at beginning of year $ 464 $ 171 $ 142 $ 777 Provision for loan losses ( 147 ) ( 67 ) ( 44 ) ( 258 ) Gross loan and lease charge-offs 35 — 13 48 Recoveries 29 3 10 42 Net loan and lease charge-offs (recoveries) 6 ( 3 ) 3 6 Balance at end of year $ 311 $ 107 $ 95 $ 513 Reserve for unfunded lending commitments Balance at beginning of year $ 30 $ 20 $ 8 $ 58 Provision for unfunded lending commitments ( 11 ) ( 9 ) 2 ( 18 ) Balance at end of year $ 19 $ 11 $ 10 $ 40 Total allowance for credit losses Allowance for loan and lease losses $ 311 $ 107 $ 95 $ 513 Reserve for unfunded lending commitments 19 11 10 40 Total allowance for credit losses $ 330 $ 118 $ 105 $ 553 December 31, 2020 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan and lease losses Balance at beginning of year $ 282 $ 69 $ 146 $ 497 Provision for loan losses 281 103 1 385 Gross loan and lease charge-offs 113 1 14 128 Recoveries 14 — 9 23 Net loan and lease charge-offs (recoveries) 99 1 5 105 Balance at end of year $ 464 $ 171 $ 142 $ 777 Reserve for unfunded lending commitments Balance at beginning of year $ 11 $ 12 $ 6 $ 29 Provision for unfunded lending commitments 19 8 2 29 Balance at end of year $ 30 $ 20 $ 8 $ 58 Total allowance for credit losses Allowance for loan and lease losses $ 464 $ 171 $ 142 $ 777 Reserve for unfunded lending commitments 30 20 8 58 Total allowance for credit losses $ 494 $ 191 $ 150 $ 835 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement; (2) the loan, if secured, is well-secured; (3) the borrower has paid 97 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION according to the contractual terms for a minimum of six months; and (4) an analysis of the borrower indicates a reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of loans on nonaccrual status is summarized as follows: December 31, 2021 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 30 $ 94 $ 124 $ 34 PPP 2 1 3 — Owner-occupied 37 20 57 3 Total commercial 69 115 184 37 Commercial real estate: Term 6 14 20 3 Total commercial real estate 6 14 20 3 Consume Home equity credit line 4 10 14 2 1-4 family residential 9 43 52 5 Bankcard and other revolving plans — 1 1 1 Total consumer loans 13 54 67 8 Total $ 88 $ 183 $ 271 $ 48 December 31, 2020 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 73 $ 67 $ 140 $ 22 Owner-occupied 38 38 76 4 Total commercial 111 105 216 26 Commercial real estate: Term 12 19 31 3 Total commercial real estate 12 19 31 3 Consume Home equity credit line 2 14 16 3 1-4 family residential 14 89 103 9 Bankcard and other revolving plans — 1 1 1 Total consumer loans 16 104 120 13 Total $ 139 $ 228 $ 367 $ 42 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed or written off from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. For the 2021 and 2020, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. 98 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The amount of accrued interest receivables written off by reversing interest income during the period is summarized by loan portfolio segment as follows: (In millions) Year Ended December 31, 2021 Year Ended December 31, 2020 Commercial $ 15 $ 16 Commercial real estate 2 2 Consumer — 1 Total $ 17 $ 19 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as charge-card plans and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. Past-due loans (accruing and nonaccruing) are summarized as follows: December 31, 2021 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 13,822 $ 17 $ 28 $ 45 $ 13,867 $ 2 $ 91 PPP 1,813 35 7 42 1,855 5 — Leasing 327 — — — 327 — — Owner-occupied 8,712 7 14 21 8,733 — 42 Municipal 3,658 — — — 3,658 — — Total commercial 28,332 59 49 108 28,440 7 133 Commercial real estate: Construction and land development 2,757 — — — 2,757 — — Term 9,426 10 5 15 9,441 — 15 Total commercial real estate 12,183 10 5 15 12,198 — 15 Consume Home equity credit line 3,008 4 4 8 3,016 — 10 1-4 family residential 6,018 6 26 32 6,050 — 24 Construction and other consumer real estate 638 — — — 638 — Bankcard and other revolving plans 393 2 1 3 396 1 — Other 112 1 — 1 113 — — Total consumer loans 10,169 13 31 44 10,213 1 34 Total $ 50,684 $ 82 $ 85 $ 167 $ 50,851 $ 8 $ 182 December 31, 2020 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 13,388 $ 26 $ 30 $ 56 $ 13,444 $ 2 $ 109 PPP 5,572 — — — 5,572 — — Leasing 320 — — — 320 — 1 Owner-occupied 8,129 34 22 56 8,185 — 48 Municipal 2,951 — — — 2,951 — — Total commercial 30,360 60 52 112 30,472 2 158 Commercial real estate: Construction and land development 2,341 — 4 4 2,345 4 — Term 9,692 57 10 67 9,759 4 13 Total commercial real estate 12,033 57 14 71 12,104 8 13 Consume Home equity credit line 2,733 8 4 12 2,745 — 9 1-4 family residential 6,891 12 66 78 6,969 — 33 Construction and other consumer real estate 630 — — — 630 — Bankcard and other revolving plans 428 2 2 4 432 2 1 Other 123 1 — 1 124 — — Total consumer loans 10,805 23 72 95 10,900 2 43 Total $ 53,198 $ 140 $ 138 $ 278 $ 53,476 $ 12 $ 214 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is not expected. Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk-grading systems, which vary based on the size and type of credit risk exposure. The internal risk grades assigned to loans follow our definitions of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. Definitions of Pass, Special Mention, Substandard, and Doubtful are summarized as follows: • Pass — A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention — A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard — A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful — A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were no loans classified as Doubtful at December 31, 2021, compared with $ 4 million at December 31, 2020. We generally assign internal risk grades to commercial and CRE loans with commitments greater than $ 1 million based on financial and statistical models, individual credit analysis, and loan officer experience and judgment. For 99 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION these larger loans, we assign one of multiple grades within the Pass classification or one of the following four gr Special Mention, Substandard, Doubtful, and Loss. Loss indicates that the outstanding balance has been charged off. We confirm our internal risk grades quarterly, or as soon as we identify information that affects the credit risk of the loan. For consumer loans and for commercial and CRE loans with commitments less than or equal to $ 1 million, we generally assign internal risk grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The amortized cost basis of loans and leases categorized by year of origination and by credit quality classifications as monitored by management are summarized as follows: December 31, 2021 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2017 Prior Total loans Commerci Commercial and industrial Pass $ 2,561 $ 1,309 $ 1,179 $ 748 $ 354 $ 239 $ 6,594 $ 121 $ 13,105 Special Mention 4 17 9 12 1 3 128 1 175 Accruing Substandard 28 22 99 53 31 65 162 3 463 Nonaccrual 14 10 6 3 1 21 51 18 124 Total commercial and industrial 2,607 1,358 1,293 816 387 328 6,935 143 13,867 PPP Pass 1,317 535 — — — — — — 1,852 Nonaccrual — 3 — — — — — — 3 Total PPP 1,317 538 — — — — — — 1,855 Leasing Pass 46 74 70 64 42 19 — — 315 Special Mention — 1 4 1 1 — — — 7 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 46 75 74 65 43 24 — — 327 Owner-occupied Pass 2,420 1,366 1,028 868 695 1,663 177 69 8,286 Special Mention 10 13 19 32 18 50 3 3 148 Accruing Substandard 14 24 41 47 24 79 13 — 242 Nonaccrual — 4 14 9 9 20 1 — 57 Total owner-occupied 2,444 1,407 1,102 956 746 1,812 194 72 8,733 Municipal Pass 1,303 963 553 250 327 220 3 — 3,619 Special Mention — — — — — 25 — — 25 Accruing Substandard — 9 — — — 5 — — 14 Nonaccrual — — — — — — — — — Total municipal 1,303 972 553 250 327 250 3 — 3,658 Total commercial 7,717 4,350 3,022 2,087 1,503 2,414 7,132 215 28,440 Commercial real estate: Construction and land development Pass 640 736 515 94 24 2 650 64 2,725 Special Mention — — 1 — — — — — 1 Accruing Substandard — 3 28 — — — — — 31 Nonaccrual — — — — — — — — — Total construction and land development 640 739 544 94 24 2 650 64 2,757 Term Pass 2,407 1,765 1,491 1,066 529 1,401 239 179 9,077 Special Mention 22 39 10 17 8 25 — 4 125 Accruing Substandard 9 9 44 77 14 64 — 2 219 Nonaccrual — 1 5 1 — 13 — — 20 Total term 2,438 1,814 1,550 1,161 551 1,503 239 185 9,441 Total commercial real estate 3,078 2,553 2,094 1,255 575 1,505 889 249 12,198 100 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION December 31, 2021 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2017 Prior Total loans Consume Home equity credit line Pass — — — — — — 2,903 96 2,999 Special Mention — — — — — — 1 — 1 Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 7 7 14 Total home equity credit line — — — — — — 2,913 103 3,016 1-4 family residential Pass 1,391 1,021 728 484 681 1,691 — — 5,996 Special Mention — — — — — — — — — Accruing Substandard — — 1 — — 1 — — 2 Nonaccrual — 3 3 3 9 34 — — 52 Total 1-4 family residential 1,391 1,024 732 487 690 1,726 — — 6,050 Construction and other consumer real estate Pass 295 232 73 27 4 7 — — 638 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 295 232 73 27 4 7 — — 638 Bankcard and other revolving plans Pass — — — — — — 391 3 394 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — 1 — 1 Total bankcard and other revolving plans — — — — — — 393 3 396 Other consumer Pass 58 23 17 9 4 2 — — 113 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 58 23 17 9 4 2 — — 113 Total consumer 1,744 1,279 822 523 698 1,735 3,306 106 10,213 Total loans $ 12,539 $ 8,182 $ 5,938 $ 3,865 $ 2,776 $ 5,654 $ 11,327 $ 570 $ 50,851 101 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION December 31, 2020 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2020 2019 2018 2017 2016 Prior Total loans Commerci Commercial and industrial Pass $ 2,585 $ 2,743 $ 1,903 $ 829 $ 296 $ 228 $ 3,298 $ 109 $ 11,991 Special Mention 79 152 183 98 4 43 110 1 670 Accruing Substandard 123 157 129 44 26 17 141 6 643 Nonaccrual 57 2 10 8 2 15 36 10 140 Total commercial and industrial 2,844 3,054 2,225 979 328 303 3,585 126 13,444 PPP Pass 5,572 — — — — — — — 5,572 Total PPP 5,572 — — — — — — — 5,572 Leasing Pass 87 121 44 34 14 5 — — 305 Special Mention 1 — 2 1 — 6 — — 10 Accruing Substandard 2 1 1 1 — — — — 5 Nonaccrual — — — — — — — — — Total leasing 90 122 47 36 14 11 — — 320 Owner-occupied Pass 1,588 1,205 1,167 895 585 1,806 161 11 7,418 Special Mention 72 65 60 60 51 41 9 3 361 Accruing Substandard 28 64 61 37 35 98 6 1 330 Nonaccrual 8 11 15 11 6 23 2 — 76 Total owner-occupied 1,696 1,345 1,303 1,003 677 1,968 178 15 8,185 Municipal Pass 1,031 827 359 419 68 227 3 — 2,934 Special Mention — — — — — 8 — — 8 Accruing Substandard — — — — — 9 — — 9 Nonaccrual — — — — — — — — — Total municipal 1,031 827 359 419 68 244 3 — 2,951 Total commercial 11,233 5,348 3,934 2,437 1,087 2,526 3,766 141 30,472 Commercial real estate: Construction and land development Pass 558 933 267 41 1 6 423 3 2,232 Special Mention 24 43 11 — — — 5 — 83 Accruing Substandard — 30 — — — — — — 30 Nonaccrual — — — — — — — — — Total construction and land development 582 1,006 278 41 1 6 428 3 2,345 Term Pass 2,524 1,858 1,639 761 778 1,291 73 20 8,944 Special Mention 110 89 177 42 23 85 — 5 531 Accruing Substandard 41 34 96 30 18 34 — — 253 Nonaccrual 3 5 — 2 1 20 — — 31 Total term 2,678 1,986 1,912 835 820 1,430 73 25 9,759 Total commercial real estate 3,260 2,992 2,190 876 821 1,436 501 28 12,104 102 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION December 31, 2020 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2020 2019 2018 2017 2016 Prior Total loans Consume Home equity credit line Pass — — — — — — 2,606 115 2,721 Special Mention — — — — — — 2 — 2 Accruing Substandard — — — — — — 6 — 6 Nonaccrual — — — — — — 11 5 16 Total home equity credit line — — — — — — 2,625 120 2,745 1-4 family residential Pass 1,185 1,017 833 1,081 1,174 1,570 — — 6,860 Special Mention — — — — — 2 — — 2 Accruing Substandard — — 1 — 2 1 — — 4 Nonaccrual 2 12 7 19 15 48 — — 103 Total 1-4 family residential 1,187 1,029 841 1,100 1,191 1,621 — — 6,969 Construction and other consumer real estate Pass 200 296 106 16 1 11 — — 630 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 200 296 106 16 1 11 — — 630 Bankcard and other revolving plans Pass — — — — — — 426 2 428 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 3 — 3 Nonaccrual — — — — — — — 1 1 Total bankcard and other revolving plans — — — — — — 429 3 432 Other consumer Pass 51 35 22 10 4 2 — — 124 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 51 35 22 10 4 2 — — 124 Total consumer 1,438 1,360 969 1,126 1,196 1,634 3,054 123 10,900 Total loans $ 15,931 $ 9,700 $ 7,093 $ 4,439 $ 3,104 $ 5,596 $ 7,321 $ 292 $ 53,476 Modified and Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are considered TDRs. We consider many factors in determining whether to agree to a loan modification involving concessions, and we seek a solution that will both minimize potential loss to us and attempt to help the borrower. We evaluate 103 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION borrowers’ current and forecasted future cash flows, their ability and willingness to make current contractual or proposed modified payments, the value of the underlying collateral (if applicable), the possibility of obtaining additional security or guarantees, and the potential costs related to a repossession or foreclosure and the subsequent sale of the collateral. TDRs are classified as either accrual or nonaccrual loans. A loan on nonaccrual and restructured as a TDR will remain on nonaccrual status until the borrower has proven the ability to perform under the modified structure for a minimum of six months, and there is evidence that such payments can and are likely to continue as agreed. Performance prior to the restructuring, or significant events that coincide with the restructuring, are included in assessing whether the borrower can meet the new terms and may result in the loan being returned to accrual at the time of restructuring or after a shorter performance period. If the borrower’s ability to meet the revised payment schedule is uncertain, the loan remains classified as a nonaccrual loan. A TDR loan that specifies an interest rate that, at the time of the restructuring, is greater than or equal to the rate we are willing to accept for a new loan with comparable risk may not be reported as a TDR in the calendar years subsequent to the restructuring if it is in compliance with its modified terms. Consistent with recent accounting and regulatory guidance, loan modifications provided to borrowers experiencing financial difficulties exclusively related to the COVID-19 pandemic, in which we provide certain short-term modifications or payment deferrals, are not classified as TDRs. The TDRs disclosed subsequently do not include these loan modifications. Other loan modifications above and beyond these short-term modifications or payment deferrals were assessed for TDR classification. 104 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Information on TDRs, including the amortized cost on an accruing and nonaccruing basis by loan class and modification type is summarized in the following schedul December 31, 2021 Recorded investment resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 19 $ 1 $ — $ — $ 4 $ 7 $ 31 Owner-occupied 5 4 — 8 14 12 43 Municipal — 10 — — — — 10 Total commercial 24 15 — 8 18 19 84 Commercial real estate: Term 1 29 — 27 41 8 106 Total commercial real estate 1 29 — 27 41 8 106 Consume Home equity credit line — 1 5 — — 2 8 1-4 family residential 5 1 2 — 1 14 23 Total consumer loans 5 2 7 — 1 16 31 Total accruing $ 30 $ 46 $ 7 $ 35 $ 60 $ 43 $ 221 Nonaccruing Commerci Commercial and industrial $ 1 $ 4 $ — $ 2 $ 8 $ 49 $ 64 Owner-occupied 5 — — 2 — 13 20 Total commercial 6 4 — 4 8 62 84 Commercial real estate: Term — — — 11 2 3 16 Total commercial real estate — — — 11 2 3 16 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 3 — 4 Total consumer loans — 1 1 — 3 — 5 Total nonaccruing 6 5 1 15 13 65 105 Total $ 36 $ 51 $ 8 $ 50 $ 73 $ 108 $ 326 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of any of the previous modification types. December 31, 2020 Recorded investment resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ — $ — $ — $ — $ 3 $ 4 $ 7 Owner-occupied 5 1 — 4 4 8 22 Total commercial 5 1 — 4 7 12 29 Commercial real estate: Term 1 — — 16 94 23 134 Total commercial real estate 1 — — 16 94 23 134 Consume Home equity credit line — 1 7 — — 2 10 1-4 family residential 4 1 3 — 2 15 25 Total consumer loans 4 2 10 — 2 17 35 Total accruing $ 10 $ 3 $ 10 $ 20 $ 103 $ 52 $ 198 Nonaccruing Commerci Commercial and industrial $ — $ — $ — $ 3 $ 10 $ 52 $ 65 Owner-occupied 5 — — 3 — 10 18 Total commercial 5 — — 6 10 62 83 Commercial real estate: Term 2 — — 13 3 2 20 Total commercial real estate 2 — — 13 3 2 20 Consume Home equity credit line — — 2 — — — 2 1-4 family residential 1 1 — — — 6 8 Total consumer loans 1 1 2 — — 6 10 Total nonaccruing 8 1 2 19 13 70 113 Total $ 18 $ 4 $ 12 $ 39 $ 116 $ 122 $ 311 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of any of the previous modification types. Unfunded lending commitments on TDRs amounted to approximately $ 10 million at December 31, 2021, and $ 3 million at December 31, 2020. The total recorded investment of all TDRs in which interest rates were modified below market was $ 100 million at December 31, 2021, and $ 76 million at December 31, 2020. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the years ended December 31, 2021 and 2020 was not significant. On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. 105 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The amortized cost of accruing and nonaccruing TDRs that had a payment default during the year ended December 31, 2021 and December 31, 2020, which were still in default at period end, and were within 12 months or less of being modified as TDRs was approximately $ 3 million for both periods. Collateral-dependent Loans As previously mentioned, when a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. Select information on loans for which the repayment is expected to be provided substantially through the operation or sale of the underlying collateral and the borrower is experiencing financial difficulties, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: December 31, 2021 (In millions) Amortized Cost Major Types of Collateral Weighted Average LTV 1 Commerci Commercial and industrial $ 27 Corporate assets, Single family residential 55 % Owner-occupied 11 Office building 40 % Commercial real estate: Term 2 Multi-family, Retail 28 % Consume Home equity credit line 5 Single family residential 45 % 1-4 family residential 2 Single family residential 35 % Total $ 47 December 31, 2020 (In millions) Amortized Cost Major Types of Collateral Weighted Average LTV 1 Commerci Commercial and industrial $ 20 Single family residential, Agriculture 55 % Owner-occupied 10 Office Building 47 % Commercial real estate: Term 12 Multi-family, Hotel/Motel, Retail 58 % Consume Home equity credit line 3 Single family residential 34 % 1-4 family residential 2 Single family residential 60 % Total $ 47 1 The fair value is based on the most recent appraisal or other collateral evaluation. Foreclosed Residential Real Estate At December 31, 2021, and December 31, 2020, we had no foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure was $ 10 million for both periods. 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives for Using Derivatives Our primary objective for using derivatives is to manage risks, primarily interest rate risk. We use derivatives to manage volatility in interest income, interest expense, earnings, and capital by adjusting our interest rate sensitivity to minimize the impact of fluctuations in interest rates. Derivatives are used to stabilize forecasted interest income 106 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities as we consider advisable. We also assist clients with their risk management needs through the use of derivatives. Derivatives Related to Interest Rate Risk Management — When we use derivatives as hedges, either for economic or accounting purposes, it is done only to manage identified risks. We apply hedge accounting to certain derivatives executed for risk management purposes as subsequently described in more detail. However, we do not apply hedge accounting to all the derivatives involved in our risk management activities. Derivatives not designated as accounting hedges are not speculative and are used to economically manage our exposure to interest rate movements, including offsetting customer-facing derivatives. These derivatives either do not require the use of hedge accounting for their economic impact to be accurately reflected in our financial statements or they do not meet the strict hedge accounting requirements. Derivatives Related to Customers — We provide certain borrowers access to over-the-counter interest rate derivatives, which we generally offset with interest rate derivatives executed with other dealers or central clearing houses. Other interest rate derivatives that we provide to customers, or use for our own purposes, include mortgage rate locks and forward sale loan commitments. We also provide commercial clients with short-term foreign currency spot trades or forward contracts with maturities that are typically 90 days or less. These trades are also largely offset by foreign currency trades with closely matching terms executed with other dealer counterparties or central clearing houses. Accounting for Derivatives We record all derivatives at fair value, and they are presented on the consolidated balance sheet in “Other assets” or “Other liabilities,” regardless of the accounting designation of each derivative. We enter into International Swaps and Derivatives Association, Inc. (“ISDA”) master netting agreements, or similar agreements, with substantially all derivative counterparties. Where legally enforceable, these master netting agreements give us, in the event of default or the triggering of other specified contingent events by the counterparty, the right to use cash or liquidate securities held as collateral and to offset receivables and payables with the same counterparty. For purposes of the Consolidated Balance Sheet, we do not offset derivative assets and liabilities and cash collateral held with the same counterparty where it has a legally enforceable master netting agreement and reports all derivatives on a gross fair value basis. Note 3 discusses the process to estimate fair value for derivatives. The accounting for changes in the fair value of derivatives depends on the intended use of the derivative and the resulting accounting designation. Derivatives used to hedge the exposure to changes in the fair value of assets, liabilities, or firm commitments attributable to interest rates or other eligible risks, are considered fair value hedges. Derivatives used to hedge the exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges. Changes in the fair value of derivatives that are not part of designated fair value or cash flow hedging relationships are recorded in current period earnings. Fair Value Hedges — We generally use interest rate swaps designated as fair value hedges to hedge changes in the fair value of fixed-rate assets and liabilities for specific risks (e.g., interest rate risk resulting from changes in a benchmark interest rate). We use both received-fixed, pay-floating and pay-fixed, receive floating interest rate swaps to effectively convert the fixed-rate assets and liabilities to floating rates. In qualifying fair value hedges, changes in value of the derivative hedging instrument are recognized in current period earnings in the same line item affected by the hedged item. Similarly, the periodic changes in value of the hedged item, for the risk being hedged, are recognized in current period earnings, thereby offsetting all, or a significant majority, of the change in the value of the derivative hedging instrument. Interest accruals on both the derivative hedging instrument and the hedged item are recorded in the same line item, effectively converting the designated fixed-rate assets or liabilities to a floating-rate. Generally, the designated risk being hedged in all of our fair value hedges is the change in fair value of the LIBOR (or alternative rate) benchmark swap rate component of the contractual coupon cash flows of the fixed-rate assets or liabilities. The swaps are structured to match the critical terms of the hedged items, maximizing the economic (and accounting) effectiveness of the hedging relationships and resulting in the expectation that the swaps will be highly effective as a hedging instrument. All interest rate swaps designated as fair value hedges were highly effective and met all other requirements to remain designated and part of qualifying hedge accounting relationships as of the balance sheet date. 107 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Fair Value Hedges of Liabilities — At December 31, 2021, we had one receive-fixed interest rate swap with a notional amount of $ 500 million designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converts the interest on our fixed-rate debt to floating. During 2020, we terminated $ 1 billion of swaps (i.e., two $ 500 million swaps with maturities in August 2021 and February 2022) that were designated as fair value hedges of our fixed-rate debt. As a result, the cumulative basis adjustment on the debt at the time of the terminations (which was equal to the fair value of the swaps at the termination date) will be amortized as an adjustment to interest expense through the maturity of the debt, thereby reducing the effective interest rate. During 2021, $ 10 million of the outstanding unamortized debt basis adjustment was amortized. We have $ 1 million of unamortized debt basis adjustments from previously designated fair value hedges remaining. Fair Value Hedges of Assets — During the third quarter of 2020, we began hedging certain newly acquired fixed-rate AFS securities using pay-fixed, receive-floating interest rate swaps, effectively converting the fixed interest income to a floating-rate on the hedged portion of the securities. Subsequently, two of these hedges were slightly restructured to better match the terms of the hedged securities, which required these hedges to be redesignated. Changes in the fair value of the hedged securities prior to the redesignations were recognized in the amortized cost basis of the securities and, similar to the terminated debt hedges noted above, the unamortized basis adjustments will be amortized to interest income through the originally designated maturity of the hedging relationships. Both hedges were designated as hedges of 30-year U.S. Treasury securities and hedged for the full life of the securities. We have $ 7 million of cumulative unamortized basis adjustments from these previous fair value hedging relationships, which will continue to be amortized as an adjustment to interest income through the end of 2050, thereby increasing the effective interest rate recognized on these securities. As of December 31, 2021, we had qualifying fair value hedging relationships of fixed-rate AFS securities being hedged by pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 479 million. Cash Flow Hedges — For derivatives designated and qualifying as cash flow hedges, ineffectiveness is not measured or separately disclosed. Rather, as long as the hedging relationship continues to qualify for hedge accounting, the entire change in the fair value of the hedging instrument is recorded in OCI and recognized in earnings as the hedged transaction affects earnings. Derivative amounts affecting earnings are recognized consistent with the classification of the hedged item. We may use interest rate swaps, options, or a combination of options in our cash flow hedging strategy to eliminate or reduce the variable cash flows associated primarily with interest receipts on floating-rate commercial loans due to changes in any separately identifiable and reliably measurable contractual interest rate index. As of December 31, 2021, we had receive-fixed interest rate swaps with an aggregate notional amount of $ 6.9 billion designated as cash flow hedges of the variability of interest receipts on floating-rate commercial loans due to changes in the LIBOR swap rate. As of December 31, 2021, we had less than $ 1 million of net deferred gains in OCI from active and terminated cash flow hedges. Amounts deferred in AOCI from cash flow hedges are expected to be fully reclassified to interest income by the third quarter of 2027. Hedge Effectiveness — We assess the effectiveness of each hedging relationship by comparing the changes in fair value or cash flows on the derivative hedging instrument with the changes in fair value or cash flows on the designated hedged item or transactions for the risk being hedged. If a hedging relationship ceases to qualify for hedge accounting, the relationship is discontinued and future changes in the fair value of the derivative instrument are recognized in current period earnings. For a discontinued or terminated fair value hedging relationship, all remaining basis adjustments to the carrying amount of the hedged item are amortized to interest income or expense over the remaining life of the hedged item consistent with the amortization of other discounts or premiums. Previous balances deferred in AOCI from discontinued or terminated cash flow hedges are reclassified to interest income or expense as the hedged transactions affect earnings or over the originally specified term of the hedging relationship. Collateral and Credit Risk Exposure to credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred during 2021 as a result of counterparty nonperformance. Financial institutions that are well-capitalized are the counterparties for those derivatives entered into for asset-liability management and 108 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION used to offset derivatives sold to our customers. We reduce our counterparty exposure for derivative contracts by centrally clearing all eligible derivatives. For those derivatives that are not centrally cleared, the counterparties are typically financial institutions or our customers. For those that are financial institutions, as noted above, we manage our credit exposure through the use of a Credit Support Annex (“CSA”) to an ISDA master agreement with each counterparty. Eligible collateral types are documented by the CSA and controlled under our general credit policies. Collateral balances are typically monitored on a daily basis. A valuation haircut policy reflects the fact that collateral may fall in value between the date the collateral is called and the date of liquidation or enforcement. As of December 31, 2021, all of our collateral held as credit risk mitigation under a CSA is cash. We offer interest rate swaps to our customers to assist them in managing their exposure to changing interest rates. Upon issuance, all of these customer swaps are immediately offset through closely matching derivative contracts to minimize our interest rate risk exposure resulting from such transactions. We manage the credit risk associated with customer nonperformance through loan underwriting that includes a credit risk exposure formula for the swap, the same collateral and guarantee protection applicable to the loan and credit approvals, limits, and monitoring procedures. Fee income from customer swaps is included in other service charges, commissions and fees. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position. Certain derivative contracts contain credit-risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit-risk-related feature were triggered, such as a downgrade of our credit rating. However, in past situations, not all counterparties have demanded that additional collateral be pledged when provided for by the contractual terms. At December 31, 2021, the fair value of our derivative liabilities was $ 51 million, for which we were required to pledge cash collateral of approximately $ 69 million in the normal course of business. If our credit rating were downgraded one notch by either Standard & Poor’s (“S&P”) or Moody’s at December 31, 2021, there would likely be $ 1 million additional collateral required to be pledged. As a result of the Dodd-Frank Act, all newly eligible derivatives entered into are cleared through a central clearinghouse. Derivatives that are centrally cleared do not have credit-risk-related features that require additional collateral if our credit rating were downgraded. 109 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Derivative Amounts Certain information with respect to notional amounts and recorded gross fair values at December 31, 2021, and 2020, and the related gain (loss) of derivative instruments for the years then ended is summarized as follows: December 31, 2021 December 31, 2020 Notional amount Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Purchased interest rate floors $ — $ — $ — $ — $ — $ — Receive-fixed interest rate swaps 6,883 — — 3,150 — — Fair value hed Debt hed Receive-fixed interest rate swaps 500 — — 500 — — Asset hed Pay-fixed interest rate swaps 479 10 — 383 3 — Total derivatives designated as hedging instruments 7,862 10 — 4,033 3 — Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives 1 6,587 192 36 5,986 390 2 Offsetting interest rate derivatives 2 6,587 38 197 5,986 3 409 Other interest rate derivatives 1,286 6 1 1,649 20 3 Foreign exchange derivatives 288 3 2 223 4 4 Total derivatives not designated as hedging instruments 14,748 239 236 13,844 417 418 Total derivatives $ 22,610 $ 249 $ 236 $ 17,877 $ 420 $ 418 1 Customer-facing interest rate derivatives include a net CVA of $ 3 million and $ 18 million, reducing the fair value amount at December 31, 2021, and December 31, 2020, respectively. These adjustments are required to reflect both our nonperformance risk and that of the respective counterparty. 2 The fair value amounts for these derivatives do not include the settlement amounts for those trades that are centrally cleared. Once the settlement amounts with the clearing houses are included the derivative fair values would be the followin December 31, 2021 December 31, 2020 (In millions) Other assets Other liabilities Other assets Other liabilities Offsetting interest rate derivatives $ 8 $ 12 $ 1 $ 29 The amount of derivative gains (losses) from cash flow and fair value hedges that was deferred in OCI or recognized in earnings for year ended December 31, 2021 and 2020 is shown in the schedules below. Year Ended December 31, 2021 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Excluded components deferred in AOCI (amortization approach) Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness / AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ 11 $ — $ — Interest rate swaps ( 34 ) — 51 — — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — — 8 — Basis amortization on terminated hedges 2, 3 — — — 10 — Fair value hedges of assets: Pay-fixed interest rate swaps — — — ( 3 ) — Basis amortization on terminated hedges 2, 3 — — — — — Total derivatives designated as hedging instruments $ ( 34 ) $ — $ 62 $ 15 $ — 110 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Year Ended December 31, 2020 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Excluded components deferred in AOCI (amortization approach) Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness / AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ 11 $ — $ — Interest rate swaps 101 — 36 — — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — — 6 — Basis amortization on terminated hedges 2, 3 — — — 13 — Fair value hedges of assets: Pay-fixed interest rate swaps — — — ( 1 ) — Basis amortization on terminated hedges 2, 3 — — — — — Total derivatives designated as hedging instruments $ 101 $ — $ 47 $ 18 $ — Note: These schedules are not intended to present at any given time our long/short position with respect to our derivative contracts. 1 For the 12 months following December 31, 2021, we estimate that $ 32 million of net gains will be reclassified from AOCI into interest income, compared with an estimate of $ 61 million as of December 31, 2020. 2 Adjustment to interest expense resulting from the amortization of the debt basis adjustment on fixed-rate debt previously hedged by terminated receive-fixed interest rate. 3 The cumulative unamortized basis adjustment from previously terminated or redesignated fair value hedges as of December 31, 2021, is $ 1 million and $ 7 million of terminated fair value debt and asset hedges, respectively, compared with $ 12 million and $ 7 million as of December 31, 2020. The amortization of the cumulative unamortized basis adjustment from asset hedges is not shown in the schedules because it is not significant. The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) 2021 2020 Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives $ ( 124 ) $ 324 Offsetting interest rate derivatives 158 ( 300 ) Other interest rate derivatives ( 12 ) 8 Foreign exchange derivatives 27 21 Total derivatives not designated as hedging instruments $ 49 $ 53 111 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Twelve Months Ended December 31, 2021 Twelve Months Ended December 31, 2020 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1,2 $ ( 30 ) $ 30 $ — $ 63 $ ( 63 ) $ — Assets: Pay-fixed interest rate swaps 1,2 23 ( 23 ) — 28 ( 28 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt and fixed-rate AFS securities. Gains and losses were recorded in interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged assets/(liabilities) (In millions) 2021 2020 2021 2020 2021 2020 Long-term fixed-rate debt 1,2 $ ( 500 ) $ ( 500 ) $ ( 507 ) $ ( 537 ) $ ( 7 ) $ ( 37 ) Fixed-rate AFS securities 1,2 479 383 435 362 ( 44 ) ( 21 ) 1 Carrying amounts displayed above exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 8. LEASES We have operating and finance leases for branches, corporate offices, and data centers. Our equipment leases are not significant. At December 31, 2021, we had 418 branches, of which 274 are owned and 144 are leased. We lease our headquarters in Salt Lake City, Utah, and other office or data centers are either owned or leased. The remaining maturities of our lease commitments range from the year 2022 to 2063, and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “ Other assets ,” and “ Premises, equipment and software, net ,” respectively. The corresponding liabilities for those leases are presented in “ Other liabilities ,” and “ Long-term debt .” ROU assets and related lease liabilities reflect the present value of the future minimum lease payments over the lease term at commencement date. Because most of our leases do not provide an implicit rate, we use our secured incremental borrowing rate that is commensurate with the lease term when calculating the present value of future payments. The ROU asset also reflects any lease prepayments, initial direct costs, incurred amortization, and certain nonlease components, such as maintenance, utilities or tax payments. Our lease terms may include options to extend or terminate the lease, and the lease term incorporates these when it is reasonably certain that we will exercise these options. The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate: 112 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION December 31, (Dollar amounts in millions) 2021 2020 Operating leases ROU assets, net of amortization $ 195 $ 213 Lease liabilities 222 240 Financing leases ROU assets, net of amortization 4 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.5 8.9 Finance leases 18.3 19.2 Weighted average discount rate Operating leases 2.8 % 2.9 % Finance leases 3.1 % 3.1 % Additional information related to lease expense is presented be Year Ended December 31, (In millions) 2021 2020 2019 Lease expense: Operating lease expense $ 47 $ 49 $ 48 Other expenses associated with operating leases 1 50 49 53 Total lease expense $ 97 $ 98 101 Related cash disbursements from operating leases $ 50 $ 51 $ 50 1 Other expenses primarily relate to property taxes and building and property maintenance. ROU assets related to new leases totaled $ 1 million and $ 9 million at December 31, 2021 and 2020, respectively. Total contractual undiscounted lease payments for operating lease liabilities are summarized in the following schedule by expected due date: (In millions) Total undiscounted lease payments 2022 $ 49 2023 44 2024 35 2025 25 2026 21 Thereafter 82 Total $ 256 We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 13 million for the year ended 2021, and $ 12 million for both the years ending 2020 and 2019, respectively. We originated equipment leases, considered to be sales-type leases or direct-financing leases, totaling $ 327 million and $ 320 million at December 31, 2021 and 2020, respectively. We recorded income of $ 11 million, $ 13 million, and $ 14 million for the years ending 2021, 2020, and 2019, respectively. 113 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 9. PREMISES, EQUIPMENT, AND SOFTWARE Net premises, equipment, and software are summarized as follows: (In millions) December 31, 2021 2020 Land $ 265 $ 257 Buildings 868 802 Furniture and equipment 378 420 Leasehold improvements 168 165 Software 664 581 Total premises, equipment, and software 1 2,343 2,225 Less accumulated depreciation and amortization 1,024 1,016 Net book value $ 1,319 $ 1,209 1 The totals for 2021 and 2020 include $ 348 million and $ 213 million, respectively, of costs that have been capitalized but are not yet depreciating because the respective assets have not been placed in service. 10. GOODWILL AND OTHER INTANGIBLE ASSETS Goodwill is recorded at fair value at the time of its acquisition and is subsequently evaluated for impairment annually as of October 1 st , or more frequently if events or circumstances indicate that impairment may exist. Based on the annual impairment tests conducted during 2021 and 2020, there was no goodwill impairment present in any of our operating segments. The following schedule presents the carrying amount of goodwill for our business segments with goodwil Carrying amount of goodwill (In millions) December 31, 2021 December 31, 2020 Amegy $ 615 $ 615 CB&T 379 379 Zions Bank 20 20 Total goodwill $ 1,014 $ 1,014 Core deposits and other intangible assets, net of related accumulated amortization, totaled $ 1 million and $ 2 million at December 31, 2021 and 2020, respectively. 11. DEPOSITS The following schedule presents our deposits by category: December 31, (Dollar amounts in millions) 2021 2020 Noninterest-bearing demand $ 41,053 $ 32,494 Interest-bearin Savings and money market 40,114 34,571 Time 1,622 2,588 Total deposits $ 82,789 $ 69,653 114 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION At December 31, 2021, the scheduled maturities of all time deposits were as follows: (In millions) Amount 2022 $ 1,304 2023 179 2024 62 2025 40 2026 36 Thereafter 1 Total $ 1,622 The contractual maturities of time deposits with a denomination of $100,000 or more were as follows: (In millions) December 31, 2021 Three months or less $ 308 After three months through six months 179 After six months through twelve months 340 After twelve months 159 Total $ 986 Nonbrokered time deposits under the current Federal Deposit Insurance Corporation (“FDIC”) insurance limit of $250,000 were $ 1.0 billion and $ 2.0 billion at December 31, 2021 and 2020, respectively. Deposit overdrafts reclassified as loan balances were $ 8 million and $ 9 million at December 31, 2021 and 2020 , respectively. 12. SHORT-TERM BORROWINGS Selected information for FHLB advances and other short-term borrowings is as follows: (Dollar amounts in millions) 2021 2020 Federal Home Loan Bank advances Average amount outstanding $ — $ 206 Average rate — % 1.11 % Highest month-end balance $ — $ 2,200 Year-end balance — — Average rate on outstanding advances at year-end — % — % Other short-term borrowings, year-end balances Federal funds purchased $ 421 $ 1,105 Security repurchase agreements 228 406 Securities sold, not yet purchased 254 61 Federal funds purchased and other short-term borrowings $ 903 $ 1,572 We may borrow from the FHLB under lines of credit that are secured by blanket pledge arrangements. We maintained unencumbered collateral with carrying amounts adjusted for the types of collateral pledged, equal to at least 100 % of the outstanding advances. At December 31, 2021, the amount available for FHLB advances was approximately $ 15.1 billion . We may also borrow from the Federal Reserve based on the amount of collateral pledged. At December 31, 2021, the amount available for Federal Reserve borrowings was approximately $ 3.2 billion . Federal funds purchased and security repurchase agreements generally mature in less than 30 days. We execute overnight repurchase agreements with sweep accounts in conjunction with a master repurchase agreement. When this occurs, securities under our control are pledged and interest is paid on the collected balance of the customers’ accounts. For the nonsweep overnight and term repurchase agreements, securities are transferred to the applicable counterparty. The counterparty, in certain instances, is contractually entitled to sell or repledge securities accepted as collateral. Of the total security repurchase agreements at December 31, 2021, $ 180 million were overnight and $ 48 million were term. 115 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 13. LONG-TERM DEBT Long-term debt is summarized as follows: December 31, (In millions) 2021 2020 Subordinated notes $ 590 $ 619 Senior notes 418 713 Finance lease obligations 4 4 Total $ 1,012 $ 1,336 The preceding carrying values represent the par value of the debt adjusted for any unamortized premium or discount, unamortized debt issuance costs, and fair value hedge basis adjustments. The decrease in outstanding senior debt from the prior year was primarily due to the maturity of $ 281 million of 3 -year, 3.50 % senior notes during the third quarter of 2021. During 2020, we terminated two receive-fixed interest rate swaps designated as hedges on senior notes, resulting in one outstanding receive-fixed interest rate swap designated as a hedge on a $ 500 million subordinated note with an interest rate of 3.25 % at December 31, 2021. The outstanding swap constitutes a qualifying fair value hedging relationship. The terminated interest rate swaps adjusted the carrying value of the debt and this adjustment will be amortized into earnings until the original maturity date of the debt (see the subsequent Senior Notes schedule). For more information on derivatives designated as qualifying hedges, see Note 7 - Derivative Instruments and Hedging Activities. Subordinated Notes The following schedule presents key aspects of our subordinated notes outstanding at December 31, 2021: (Dollar amounts in millions) Subordinated notes Coupon rate Balance Par amount Maturity 6.95 % $ 88 $ 88 September 2028 3.25 % 502 500 October 2029 Total $ 590 $ 588 The 6.95 % subordinated notes are unsecured, with interest payable quarterly; the earliest redemption date for these notes is September 15, 2023, after which the interest rate changes to an annual floating rate equal to 3mL+3.89% . The 3.25 % subordinated notes are unsecured, interest is payable semi-annually, and the earliest redemption date is July 29, 2029. Senior Notes The following schedule presents key aspects of our issued senior notes outstanding at December 31, 2021: (Dollar amounts in millions) Senior notes Coupon rate Balance Par amount Maturity 4.50 % $ 127 $ 128 June 2023 3.35 % 291 290 March 2022 Total $ 418 $ 418 The senior notes are unsecured, with interest payable semi-annually. They were issued under a shelf registration filed with the Securities and Exchange Commission (“SEC”). The notes are not generally redeemable prior to maturity. In February 2022, we redeemed $ 290 million of the 4-year , 3.35 % senior notes on the contractual call date one month prior to final maturity. 116 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Maturities of Long-term Debt The scheduled maturity of our long-term debt is presented in the following schedu (In millions) Amount 2022 $ 290 2023 128 2024 — 2025 — 2026 — Thereafter 586 Total $ 1,004 The amounts presented in the previous schedule do not include basis adjustments related to terminated or active fair value hedges. 14. SHAREHOLDERS’ EQUITY Preferred Stock We have 4.4 million authorized shares of preferred stock without par value and with a liquidation preference of $ 1,000 per share, or $ 25 per depositary share. Except for Series I and J, all preferred shares were issued in the form of depositary shares, with each depositary share representing a 1/40 th ownership interest in a share of the preferred stock. All preferred shares are registered with the SEC. In addition, Series A and G preferred stock are listed and traded on the National Association of Securities Dealers Automated Quotations (“NASDAQ”) Global Select Market. In general, preferred shareholders may receive asset distributions before common shareholders; however, preferred shareholders have only limited voting rights. Preferred stock dividends reduce earnings applicable to common shareholders and are paid on the 15th day of the months indicated in the following schedule. Dividends are approved by the Board. Redemption of the preferred stock is at our option after the expiration of any applicable redemption restrictions and the redemption amount is computed at the per share liquidation preference plus any declared but unpaid dividends. Redemptions are subject to certain regulatory provisions and maintaining well-capitalized minimum requirements. During the second quarter of 2021, we redeemed the outstanding shares of our 5.75 % Series H Non-Cumulative Perpetual Preferred Stock at par value, resulting in a $ 126 million decrease of preferred stock. There were no additional fees or premium paid associated with the redemption. 117 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule summarizes key aspects of our preferred stoc Shares at December 31, 2021 (Dollar amounts in millions) Carrying value at December 31, Authorized Outstanding Dividends payable Earliest redemption date Rate following earliest redemption date Dividends payable after rate change 2021 2020 (thousands) (thousands) Rate (when applicable) Series A $ 67 $ 67 140,000 66,139 > of 4.0% or 3mL+0.52% Qtrly Mar, Jun, Sep, Dec Dec 15, 2011 Series G 138 138 200,000 138,391 6.3 % Qtrly Mar, Jun, Sep, Dec Mar 15, 2023 annual float-ing rate = 3mL+4.24% Series H — 126 — — 5.75 % Qtrly Mar, Jun, Sep, Dec Jun 15, 2019 Series I 99 99 300,893 98,555 5.8 % Semi-annually Jun, Dec Jun 15, 2023 annual float-ing rate = 3mL+3.8% Qtrly Mar, Jun, Sep, Dec Series J 136 136 195,152 136,368 7.2 % Semi-annually Mar, Sep Sep 15, 2023 annual float-ing rate = 3mL+4.44% Qtrly Mar, Jun, Sep, Dec Total $ 440 $ 566 Common Stock Our common stock is traded on the NASDAQ Global Select Market. At December 31, 2021, there were 151.6 million shares of $ 0.001 par common stock outstanding. The balance of common stock and additional paid-in-capital was $ 1.9 billion at December 31, 2021, and decreased $ 758 million , or 28 % , from December 31, 2020 primarily as a result of common stock repurchases. During 2021, we repurchased 13.5 million shares of common shares outstanding with a fair value of $ 800 million at an average price of $ 59.27 per share. During 2020, we repurchased 1.7 million shares of common shares outstanding with a fair value of $ 75 million at an average price of $ 45.02 per share. In February 2022, we repurchased 107,559 common shares outstanding with a fair value of $ 7.5 million at an average price of $ 69.73 . Common Stock Warrants During the second quarter of 2020, 29.2 million common stock warrants (NASDAQ: ZIONW) expired out-of-the-money. Each common stock warrant was convertible into 1.10 shares at an exercise price of $ 33.31 . 118 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Accumulated Other Comprehensive Income Accumulated other comprehensive income decreased $ 405 million to a loss of $ 80 million at December 31, 2021, primarily due to decreases in the fair value of AFS securities as a result of changes in interest rates. Changes in AOCI by component are as follows: (In millions) Net unrealized gains (losses) on investment securities Net unrealized gains (losses) on derivatives and other Pension and post-retirement Total 2021 Balance at December 31, 2020 $ 258 $ 69 $ ( 2 ) $ 325 Other comprehensive loss before reclassifications, net of tax ( 336 ) ( 23 ) — ( 359 ) Amounts reclassified from AOCI, net of tax — ( 46 ) — ( 46 ) Other comprehensive loss ( 336 ) ( 69 ) — ( 405 ) Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) Income tax benefit included in other comprehensive loss $ ( 109 ) $ ( 22 ) $ — $ ( 131 ) 2020 Balance at December 31, 2019 $ 29 $ 28 $ ( 14 ) $ 43 Other comprehensive income (loss) before reclassifications, net of tax 229 77 ( 9 ) 297 Amounts reclassified from AOCI, net of tax — ( 36 ) 21 ( 15 ) Other comprehensive income 229 41 12 282 Balance at December 31, 2020 $ 258 $ 69 $ ( 2 ) $ 325 Income tax expense included in other comprehensive income $ 74 $ 13 $ 4 $ 91 Statement of Income (SI) (In millions) Amounts reclassified from AOCI 1 Details about AOCI components 2021 2020 2019 Affected line item Net unrealized gains (losses) on derivative instruments $ 61 $ 47 $ ( 4 ) SI Interest and fees on loans Income tax expense (benefit) 15 11 ( 1 ) $ 46 $ 36 $ ( 3 ) Amortization of net actuarial loss 2 $ — $ ( 28 ) $ ( 2 ) SI Other noninterest expense Income tax benefit — ( 7 ) ( 1 ) $ — $ ( 21 ) $ ( 1 ) 1 Positive reclassification amounts indicate increases to earnings in the statement of income. 2 There was no amortization of net actuarial loss in 2021 due to the termination of pension plan in 2020. Deferred Compensation Deferred compensation consists of invested assets, including our common stock, which are held in rabbi trusts for certain employees and directors. The cost of the common stock was approximately $ 13 million at both December 31, 2021 and 2020. We consolidate the rabbi trust assets and liabilities and include them in “Other assets” and “Other liabilities” on the consolidated balance sheet. At December 31, 2021 and 2020, total invested assets were approximately $ 138 million and $ 120 million, and total obligations were approximately $ 151 million and $ 133 million, respectively. 15. REGULATORY MATTERS We are subject to various regulatory capital requirements administered by federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory — and possibly additional discretionary — actions by regulators that, if undertaken, could have a direct material effect on our financial statements. Under capital 119 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION adequacy guidelines and the regulatory framework for prompt corrective action, we must meet specific capital guidelines that involve quantitative measures of our assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. Required capital levels are also subject to judgmental review by regulators. At December 31, 2021 and 2020, we met all capital adequacy requirements under the Basel III capital rules. Quantitative measures established by regulation to ensure capital adequacy require us to maintain minimum amounts and ratios of Total and Tier 1 capital (as defined in the regulations) to risk-weighted assets, and of Tier 1 capital to average assets. “Well-capitalized” levels are also published as a guideline to evaluate capital positions. At December 31, 2021 and 2020, all our capital ratios exceeded the “well-capitalized” levels under the regulatory framework for prompt corrective action. Dividends declared by us may not exceed specified criteria unless otherwise approved by the appropriate federal regulators. When determining dividends, we consider current and historical earning levels, retained earnings, and risk-based and other regulatory capital requirements and limitations. Our internal stress tests seek to comprehensively measure all risks to which the institution is exposed, including credit, liquidity, market, operating and other risks, the losses that could result from those risk exposures under adverse scenarios, and the institution’s resulting capital levels. These stress tests have both a qualitative and a quantitative component. The qualitative component evaluates the robustness of our risk identification, stress risk modeling, policies, capital planning, governance processes, and other components of a Capital Adequacy Process. The quantitative process subjects our balance sheet and other risk characteristics to stress testing by using our own models. Our capital amounts and ratios under Basel III at December 31, 2021 and 2020 are as follows: (Dollar amounts in millions) December 31, 2021 To be well-capitalized Amount Ratio Amount Ratio Basel III Regulatory Capital Amounts and Ratios Total capital (to risk-weighted assets) $ 7,652 12.8 % $ 5,960 10.0 % Tier 1 capital (to risk-weighted assets) 6,508 10.9 4,768 8.0 Common equity tier 1 capital (to risk-weighted assets) 6,068 10.2 3,874 6.5 Tier 1 capital (to average assets) - leverage ratio 6,508 7.2 4,546 5.0 December 31, 2020 To be well-capitalized (Dollar amounts in millions) Amount Ratio Amount Ratio Basel III Regulatory Capital Amounts and Ratios Total capital (to risk-weighted assets) $ 7,862 14.1 % $ 5,587 10.0 % Tier 1 capital (to risk-weighted assets) 6,579 11.8 4,469 8.0 Common equity tier 1 capital (to risk-weighted assets) 6,013 10.8 3,631 6.5 Tier 1 capital (to average assets) - leverage ratio 6,579 8.3 3,944 5.0 The Basel III capital rules require us to maintain a 2.5% “capital conservation buffer” designed to absorb losses during periods of economic stress, composed entirely of Common Equity Tier 1 (“CET1”), on top of the minimum risk-weighted asset ratios, effectively resulting in minimum ratios of (1) CET1 to risk-weighted assets of at least 7.0%, (2) Tier 1 capital to risk-weighted assets of at least 8.5%, and (3) Total capital to risk-weighted assets of at least 10.5%. Financial institutions with a ratio of CET1 to risk-weighted assets above the minimum, but below the capital conservation buffer will face constraints on dividends, equity repurchases, and compensation based on the amount of the shortfall. Our internal triggers and limits under actual conditions and baseline projections are more restrictive than the capital conservation buffer requirements. 120 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION A final rule adopted by the federal banking agencies in February 2019 provides banking organizations with the option to phase in, over a three-year period, the adverse day-one regulatory capital effects of the adoption of CECL. On March 27, 2020, the federal banking agencies issued an interim final rule that gave banking organizations that implemented CECL before the end of 2020 the option to reduce for two years a portion of CECL’s adverse effect on regulatory capital. This is in addition to the three-year transition period already in place, resulting in an optional five-year transition. We adopted the provisions of this guidance beginning with the first quarter 2020 financial statements. On December 31, 2021, the two-year deferral period for any adverse effect from CECL on regulatory capital expired. The application of these provisions had no impact on our CET1, Tier 1 risk-based, Total risk-based capital, and Tier 1 leverage capital ratios at December 31, 2021, and therefore, will not have any phase-in impact to our capital ratios over the next three years. The schedule below presents our capital ratios in comparison to minimum capital ratios and capital ratios in excess of minimum capital requirements plus minimum capital conservation buffer requirements. December 31, 2021 Capital ratio Minimum capital requirement Capital conservation buffer ratio Capital ratio in excess of minimum capital ratio plus capital conservation buffer requirement Total capital (to risk-weighted assets) 12.8 % 8.0 % 2.5 % 2.3 % Tier 1 capital (to risk-weighted assets) 10.9 6.0 2.5 2.4 Common equity tier 1 capital (to risk-weighted assets) 10.2 4.5 2.5 3.2 16. COMMITMENTS, GUARANTEES, CONTINGENT LIABILITIES, AND RELATED PARTIES Commitments and Guarantees We use certain financial instruments, including derivative instruments, in the normal course of business to meet the financing needs of our customers, to reduce our own exposure to fluctuations in interest rates, and to make a market in U.S. government, agency, corporate, and municipal securities. These financial instruments involve, to varying degrees, elements of credit, liquidity, and interest rate risk in excess of the amounts recognized in the balance sheet. See Notes 3 and 7 for more information on derivative instruments. Contractual amounts related to off-balance sheet financial instruments used to meet the financing needs of our customers are as follows: December 31, (In millions) 2021 2020 Unfunded lending commitments 1 $ 25,797 $ 24,217 Standby letters of cr Financial 597 531 Performance 245 167 Commercial letters of credit 22 34 Total unfunded commitments $ 26,661 $ 24,949 1 Net of participations. Loan commitments are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require the payment of a fee. The amount of collateral obtained, if deemed necessary by us upon extension of credit, is based on our initial credit evaluation of the counterparty. Types of collateral vary, but may include accounts receivable, inventory, property, plant and equipment, and income-producing properties. While making loan commitments creates credit risk, a significant portion of such commitments is expected to expire without being drawn upon. At December 31, 2021, there were $ 7.3 billion of commitments scheduled to expire in 2022. We use the same credit policies and procedures in making loan commitments and conditional obligations as 121 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION we do for on-balance sheet instruments. These policies and procedures include credit approvals, limits, and ongoing monitoring. We issue standby and commercial letters of credit as conditional commitments generally to guarantee the performance of a customer to a third party. The guarantees are primarily issued to support public and private borrowing arrangements, including commercial paper, bond financing, and similar transactions. Standby letters of credit include remaining commitments of $ 433 million expiring in 2022 and $ 409 million expiring thereafter through 2030. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending credit to customers. We generally hold marketable securities and cash equivalents as collateral when necessary. At December 31, 2021, we had recorded $ 4 million as a liability for these guarantees, which consisted of $ 2 million attributable to the RULC and $ 2 million of deferred commitment fees. Certain mortgage loans sold have limited recourse provisions for periods ranging from three months to one year. The amount of losses resulting from the exercise of these provisions has not been significant. At December 31, 2021 and 2020, the regulatory risk-weighted values assigned to all off-balance sheet financial instruments and derivative instruments described herein were $ 9.0 billion and $ 8.5 billion, respectively. Contingent Liabilities and Legal Matters We are subject to litigation in court and arbitral proceedings, as well as proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. At December 31, 2021, we were subject to the following material litigation or governmental inquiri • a civil suit, JTS Communities, Inc. et. al v. CB&T, Jun Enkoji and Dawn Satow , brought against us in the Superior Court for Sacramento County, California in June 2017. In this case four investors in our former customer, International Manufacturing Group (“IMG”), seek to hold us liable for losses arising from their investments in that company, alleging that we conspired with and knowingly assisted IMG and its principal in furtherance of an alleged Ponzi scheme. Currently, trial is scheduled for June 2022. • a civil class action lawsuit, Evans v. CB&T , brought against us in the United States District Court for the Eastern District of California in May 2017. This case was filed on behalf of a class of up to 50 investors in IMG and seeks to hold us liable for losses of class members arising from their investments in IMG, alleging that we conspired with and knowingly assisted IMG and its principal in furtherance of an alleged Ponzi scheme. In December 2017, the District Court dismissed all claims against the Bank. In January 2018, the plaintiff filed an appeal with the Court of Appeals for the Ninth Circuit. The appeal was heard in early April 2019 with the Court of Appeals reversing the trial court’s dismissal. This case is in the post-pleading phase and trial will not occur for a substantial period of time. • two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the 122 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Bank who filed for bankruptcy protection in 2017. The cases are in early phases, with initial motion practice and discovery underway in the Lifescan case. Trial has not been scheduled in either case. • a civil class action lawsuit, Gregory, et. al. v. Zions Bancorporation , brought against us in the United States District Court for Utah in January 2019. This case was filed on behalf of investors in Rust Rare Coin, Inc., alleging that we aided and abetted a Ponzi scheme fraud perpetrated by Rust Rare Coin, a Zions Bank customer. The case follows civil actions and the establishment of a receivership for Rust Rare Coin by The Commodities Futures Trading Commission and the Utah Division of Securities in November 2018, as well as a separate suit brought by the SEC against Rust Rare Coin and its principal, Gaylen Rust. During the third quarter of 2020, the Court granted our motion to dismiss the plaintiffs' claims in part, dismissing claims relating to fraud and fiduciary duty, but allowing a claim for aiding and abetting conversion to proceed. On January 14, 2022, the parties notified the court they reached a settlement in principle, and the court set a deadline of February 28, 2022 for submission of the settlement agreement for its preliminary approval of the agreement and notification of the putative class. There can be no assurance that the proposed settlement will result in a definitive agreement, that the conditions to the settlement will be met, or the settlement will be approved by the court. If completed, the proposed settlement would have a nominal impact on the Bank. At least quarterly, we review outstanding and new legal matters, utilizing available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at December 31, 2021, we estimated that the aggregate range of reasonably possible losses for those matters to be from $ 0 million to $ 40 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments and actual outcomes will differ from our estimates. These differences may be material. 123 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Related Party Transactions We have no material related party transactions requiring disclosure. In the ordinary course of business, we extend credit to related parties, including executive officers, directors, principal shareholders, and their associates and related interests. These related party loans are made in compliance with applicable banking regulations. 17. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which was approximately 76 % of our total revenue in 2021. Noninterest income and revenue from contracts with customers is recognized when control of the promised goods or services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those goods or services. We recognize the incremental cost of obtaining a contract as an expense, when incurred, if the amortization period of the asset that we would have recognized is one year or less. For performance obligations satisfied over time, if we have a right to consideration from a customer in an amount that corresponds directly with the value to the customer of our performance completed to date, we will generally recognize revenue in the amount to which we have a right to invoice. We do not generally disclose information about our remaining performance obligations for those performance obligations that have an original expected duration of one year or less, or where we recognize revenue in the amount to which we have a right to invoice. The following is a description of revenue from contracts with custome Commercial Account Fees Commercial account fee income is comprised of account analysis fees, merchant fees, and payroll services income. Revenue is recognized as the services are rendered or upon completion of services. Card Fees Our card fee income includes interchange income from credit and debit cards, net fees earned from processing card transactions for merchants, and automated teller machine (“ATM”) services. Card income is recognized as earned. Reward program costs are recorded when the rewards are earned by the customer and presented as a reduction to interchange income. Retail and Business Banking Fees Retail and business banking fees typically consist of fees charged for providing customers with deposit services. These fees are primarily comprised of insufficient funds fees, noncustomer ATM charges, and other various fees on deposit accounts. Service charges on deposit accounts include fees earned in lieu of compensating balances, and fees earned for performing cash management services and other deposit account services. Service charges on deposit accounts in this revenue category are recognized over the period in which the related service is provided. Treasury Management fees are billed monthly based on services rendered for the month. Capital Markets and Foreign Exchange Fees Capital markets and foreign exchange fees primarily consist of mutual fund distribution fees, municipal advisory services, customer swap fees, loan syndication fees, and foreign exchange services provided to customers. Revenue is recognized as the services are rendered or upon completion of services. Wealth Management Fees Wealth management fees are primarily comprised of wealth management commissions, but also are made up of other products such as portfolio services and advisory services. Revenue is recognized as the services are rendered or upon completion of services. Financial planning and estate services typically have performance obligations that are greater than 12 months, although the amount of future performance obligations are not significant. 124 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Other Customer-related Fees Other customer-related fees consist of miscellaneous income streams, including personal and corporate trust income, as well as claims and inventory management services for certain customers. Revenue is recognized as the services are rendered or upon completion of services. Disaggregation of Revenue The schedule below presents noninterest income and net revenue by operating business segments. Prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Zions Bank Amegy CB&T (In millions) 2021 2020 2019 2021 2020 2019 2021 2020 2019 Commercial account fees $ 45 $ 42 $ 41 $ 38 $ 37 $ 34 $ 25 $ 22 $ 23 Card fees 58 49 51 29 24 28 17 14 16 Retail and business banking fees 23 21 23 15 15 17 12 11 13 Capital markets and foreign exchange fees — ( 1 ) — 2 5 6 — — — Wealth management fees 21 17 16 13 10 8 5 4 4 Other customer-related fees 7 8 3 6 7 5 4 5 2 Total noninterest income from contracts with customers (ASC 606) 154 136 134 103 98 98 63 56 58 Other noninterest income (Non-ASC 606 customer related) 21 23 12 36 34 40 34 36 28 Total customer-related fees 175 159 146 139 132 138 97 92 86 Other noninterest income (noncustomer-related) 10 ( 1 ) 1 2 1 — 5 3 2 Total noninterest income 185 158 147 141 133 138 102 95 88 Other real estate owned gain from sale — — 3 — — — — 1 — Net interest income 634 650 688 463 485 489 537 512 512 Total income less interest expense $ 819 $ 808 $ 838 $ 604 $ 618 $ 627 $ 639 $ 608 $ 600 NBAZ NSB Vectra (In millions) 2021 2020 2019 2021 2020 2019 2021 2020 2019 Commercial account fees $ 7 $ 7 $ 7 $ 9 $ 8 $ 8 $ 7 $ 6 $ 6 Card fees 11 10 11 12 10 12 6 5 6 Retail and business banking fees 9 8 8 10 9 11 4 4 5 Capital markets and foreign exchange fees — — — — — — — — — Wealth management fees 3 2 2 4 3 3 2 1 2 Other customer-related fees 1 1 1 1 1 1 2 3 — Total noninterest income from contracts with customers (ASC 606) 31 28 29 36 31 35 21 19 19 Other noninterest income (Non-ASC 606 customer related) 13 12 12 14 12 8 12 13 7 Total customer-related fees 44 40 41 50 43 43 33 32 26 Other noninterest income (noncustomer-related) 2 1 1 — — — — — — Total noninterest income 46 41 42 50 43 43 33 32 26 Other real estate owned gain from sale — — — — — 1 — — — Net interest income 205 216 223 147 146 148 136 135 135 Total income less interest expense $ 251 $ 257 $ 265 $ 197 $ 189 $ 192 $ 169 $ 167 $ 161 TCBW Other Consolidated Bank (In millions) 2021 2020 2019 2021 2020 2019 2021 2020 2019 Commercial account fees $ 2 $ 1 $ 2 $ 1 $ 2 $ — $ 134 $ 125 $ 121 Card fees 1 1 1 1 — 2 135 113 127 Retail and business banking fees — — — — — 1 73 68 78 Capital markets and foreign exchange fees — — — 7 8 7 9 12 13 Wealth management fees — — 1 ( 2 ) 1 ( 2 ) 46 38 34 Other customer-related fees 1 1 — 30 20 29 52 46 41 Total noninterest income from contracts with customers (ASC 606) 4 3 4 37 31 37 449 402 414 Other noninterest income (Non-ASC 606 customer related) 2 2 1 ( 6 ) 15 3 126 147 111 Total customer-related fees 6 5 5 31 46 40 575 549 525 Other noninterest income (noncustomer-related) — — — 109 21 33 128 25 37 Total noninterest income 6 5 5 140 67 73 703 574 562 Other real estate owned gain from sale — — — — — — — 1 4 Net interest income 54 52 53 32 20 24 2,208 2,216 2,272 Total income less interest expense $ 60 $ 57 $ 58 $ 172 $ 87 $ 97 $ 2,911 $ 2,791 $ 2,838 Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is typically insignificant. 18. RETIREMENT PLANS Defined Benefit Plans Pension Plan — In June 2020, we terminated our pension plan and incurred a one-time $ 28 million expense, which was recognized in other noninterest expense. Supplemental Retirement Plans — These unfunded, nonqualified plans are for certain current and former employees. Each year, our contributions to these plans are made in amounts sufficient to meet benefit payments to plan participants. Our liability for these plans was $ 4 million and $ 5 million at December 31, 2021, and 2020, respectively. Post-retirement Plan — This unfunded health care and life insurance plan provides post-retirement benefits to certain former full-time employees who meet minimum age and service requirements. Our contribution toward the retiree medical premium has been permanently frozen at an amount that does not increase in any future year. Each year, our contributions to the plan are made in amounts sufficient to meet the portion of the premiums that are our responsibility. 125 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents the change in benefit obligation, change in fair value of plan assets, and funded status, of the plans and amounts recognized in the balance sheet at the measurement date of December 31: Pension Supplemental Retirement Post-retirement (In millions) 2021 2020 2021 2020 2021 2020 Change in benefit obligati Benefit obligation at beginning of year $ — $ 140 $ 8 $ 8 $ 1 $ 1 Interest cost — 1 — — — — Actuarial loss — 13 — 1 — — Annuity purchase — ( 97 ) — — — — Benefits paid — ( 57 ) ( 1 ) ( 1 ) — — Benefit obligation at end of year — — 7 8 1 1 Change in fair value of plan assets: Fair value of plan assets at beginning of year — 171 — — — — Actual return on plan assets — 4 — — — — Employer contributions — ( 21 ) 1 1 — — Annuity purchase — ( 97 ) — — — — Benefits paid — ( 57 ) ( 1 ) ( 1 ) — — Fair value of plan assets at end of year — — — — — — Funded status $ — $ — $ ( 7 ) $ ( 8 ) $ ( 1 ) $ ( 1 ) Amounts recognized in balance she Asset (liability) for pension/postretirement benefits $ — $ — $ ( 7 ) $ ( 8 ) $ ( 1 ) $ ( 1 ) Accumulated other comprehensive income (loss) — — ( 2 ) ( 3 ) — — The pension asset and liability for supplemental retirement and post-retirement benefits are included in “Other assets” and “Other liabilities,” respectively, on the consolidated balance sheet. The accumulated benefit obligation is the same as the benefit obligation shown in the preceding schedule. The following schedule presents the components of the net periodic benefit cost (benefit) for the pension plan. There was no periodic cost (benefit) for the supplemental retirement or post-retirement plans during the same time periods. Pension (In millions) 2021 2020 2019 Interest cost $ — $ 1 $ 5 Expected return on plan assets — ( 2 ) ( 9 ) Amortization of net actuarial loss — — — Settlement loss — 28 1 Net periodic benefit cost $ — $ 27 $ ( 3 ) Defined Contribution Plan We offer a 401(k) and employee stock ownership plan under which employees select from several investment alternatives. Employees can contribute up to 80 % of their earnings subject to the annual maximum allowed contribution. We match 100 % of the first 3 % of employee contributions and 50 % of the next 3 % of employee contributions. Matching contributions to participants amounted to $ 32 million, $ 31 million, and $ 33 million in 2021 , 2020, and 2019 respectively. The 401(k) plan also has a noncontributory profit-sharing feature which is discretionary and may range from 0 % to 3.5 % of eligible compensation based upon our return on average common equity for the year. The profit-sharing expense was $ 24 million, $ 7 million, and $ 16 million in 2021 , 2020 , and 2019, respectively. The profit-sharing contribution to participants consisted of shares of our common stock purchased in the open market. 126 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 19. SHARE-BASED COMPENSATION We have a share-based compensation incentive plan which allows us to grant stock options, restricted stock, RSUs, and other awards to employees and nonemployee directors. Total shares authorized under the plan were 9,000,000 at December 31, 2021, of which 1,889,694 were available for future grants. All share-based payments to employees, including grants of employee stock options, are recognized in the income statement based on their grant date values with consideration of service and performance vesting requirements. The value of an equity award is estimated on the grant date using a fair value-based model without regard to service or performance vesting conditions, but does consider post-vesting restrictions. We classify all share-based awards as equity instruments. Compensation expense is included in salaries and employee benefits in the statement of income, with the corresponding increase included in additional paid-in capital. We account for forfeitures of share-based compensation awards as they occur. Substantially all awards of stock options, restricted stock, and RSUs have graded vesting that is recognized on a straight-line basis over the vesting period. Compensation expense and the related tax benefit for all share-based awards were as follows: (In millions) 2021 2020 2019 Compensation expense $ 28 $ 26 $ 27 Reduction of income tax expense 11 8 11 We reduced share-based compensation expense by $ 2 million during 2021, and by $ 1 million during both 2020 and 2019, as a result of using a valuation model to estimate a liquidity discount on RSUs with post-vesting restrictions. As of December 31, 2021, compensation expense not yet recognized for nonvested share-based awards was approximately $ 28 million, which is expected to be recognized over a weighted average period of 2.4 years. Stock Options Stock options granted to employees generally vest at the rate of one third each year and expire seven years after the date of grant. For all stock options granted in 2021, 2020, and 2019, we used the Black-Scholes option pricing model to estimate the grant date value of stock options in determining compensation expense. The following summarizes the weighted average value at grant date and the significant assumptions used in applying the Black-Scholes model for options grant 2021 2020 2019 Weighted average value for options granted $ 7.86 $ 8.18 $ 10.30 Weighted average assumptions us Expected dividend yield 2.5 % 3.0 % 2.5 % Expected volatility 25.0 % 27.0 % 26.0 % Risk-free interest rate 0.47 % 1.38 % 2.52 % Expected life (in years) 5.0 5.0 5.0 The assumptions for expected dividend yield, expected volatility, and expected life reflect management’s judgment and include consideration of historical experience. Expected volatility is based in part on historical volatility. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant for periods corresponding with the expected life of the option. 127 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following summarizes our stock option activity for the three years ended December 31, 2021: Number of shares Weighted average exercise price Balance at December 31, 2018 2,004,598 $ 29.85 Granted 256,818 50.80 Exercised ( 569,808 ) 24.61 Expired ( 4,330 ) 22.37 Forfeited ( 10,500 ) 43.13 Balance at December 31, 2019 1,676,778 34.77 Granted 320,913 45.61 Exercised ( 285,954 ) 26.48 Expired ( 22,685 ) 30.17 Forfeited ( 5,395 ) 51.34 Balance at December 31, 2020 1,683,657 38.26 Granted 345,636 48.65 Exercised ( 686,894 ) 31.08 Expired ( 7,910 ) 42.16 Forfeited ( 6,345 ) 48.04 Balance at December 31, 2021 1,328,144 44.60 Outstanding stock options exercisable as o December 31, 2021 693,883 $ 41.54 December 31, 2020 1,137,596 33.42 December 31, 2019 1,239,821 28.95 We issue new authorized common shares for the exercise of stock options. The total intrinsic value of stock options exercised was approximately $ 16 million in 2021, $ 3 million in 2020, and $ 13 million in 2019. Cash received from the exercise of stock options was $ 20 million in 2021, $ 7 million in 2020, and $ 13 million in 2019. Additional selected information on stock options at December 31, 2021 follows: Outstanding stock options Exercisable stock options Exercise price range Number of shares Weighted average exercise price Weighted average remaining contractual life (years) Number of shares Weighted average exercise price $ 4.15 to $ 19.99 5,223 $ 6.41 1 0 5,223 $ 6.41 $ 20.00 to $ 24.99 124,427 20.99 1.1 124,427 20.99 $ 25.00 to $ 29.99 89,283 29.02 0.4 88,831 29.02 $ 40.00 to $ 44.99 117,972 43.92 2.1 116,817 43.93 $ 45 .00 to $ 49.99 633,124 47.27 5.6 80,518 45.66 $ 50.00 to $ 55.68 358,115 52.75 3.5 278,067 53.20 1,328,144 44.60 1 3.9 693,883 41.54 1 The weighted average remaining contractual life excludes 5,223 stock options without a fixed expiration date that were assumed with the Amegy acquisition. They expire between the date of termination and one year from the date of termination, depending upon certain circumstances. The aggregate intrinsic value of outstanding stock options at December 31, 2021 and 2020 was $ 25 million and $ 14 million, respectively, while the aggregate intrinsic value of exercisable options was $ 15 million and $ 14 million at the same respective dates. For exercisable options, the weighted average remaining contractual life was 2.6 years and 2.2 years at December 31, 2021 and 2020, respectively, excluding the stock options previously noted without a fixed expiration date. At December 31, 2021, 632,759 stock options with a weighted average exercise price of $ 47.95 , a weighted average remaining life of 5.4 years, and an aggregate intrinsic value of $ 10 million , were expected to vest. 128 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Restricted Stock and Restricted Stock Units Restricted stock is common stock with certain restrictions that relate to trading and the possibility of forfeiture. Generally, restricted stock vests over four years . Holders of restricted stock have full voting rights and receive dividend equivalents during the vesting period. In addition, holders of restricted stock can make an election to be subject to income tax on the grant date rather than the vesting date. RSUs represent rights to one share of common stock for each unit and generally vest over four years . Holders of RSUs receive dividend equivalents during the vesting period, but do not have voting rights. Compensation expense is determined based on the number of restricted shares or RSUs granted and the market price of our common stock at the issue date. During 2021, 2020, and 2019, we granted 16,938 , 28,992 , and 19,116 RSUs, respectively, to nonemployee directors. The RSUs vested immediately upon grant. The following summarizes our restricted stock activity for the three years ended December 31, 2021: Number of shares Weighted average fair value Nonvested restricted shares at December 31, 2018 45,686 $ 33.78 Issued 24,994 42.83 Vested ( 20,223 ) 30.69 Nonvested restricted shares at December 31, 2019 50,457 39.50 Issued 27,798 45.65 Vested ( 20,859 ) 34.77 Nonvested restricted shares at December 31, 2020 57,396 44.20 Issued 26,083 39.16 Vested ( 18,663 ) 43.89 Nonvested restricted shares at December 31, 2021 64,816 42.26 The following summarizes our RSU activity for the three years ended December 31, 2021: Number of restricted stock units Weighted average fair value Restricted stock units at December 31, 2018 1,400,699 $ 37.65 Granted 536,489 47.85 Vested ( 614,968 ) 33.74 Forfeited ( 28,150 ) 44.69 Restricted stock units at December 31, 2019 1,294,070 43.59 Granted 586,302 42.75 Vested ( 593,375 ) 37.56 Forfeited ( 44,676 ) 47.78 Restricted stock units at December 31, 2020 1,242,321 46.31 Granted 578,056 47.02 Vested ( 505,690 ) 46.51 Forfeited ( 40,604 ) 47.97 Restricted stock units at December 31, 2021 1,274,083 46.49 The total value at grant date of restricted stock and RSUs vested during the year was $ 24 million in 2021, $ 23 million in 2020, and $ 21 million in 2019. At December 31, 2021, 64,816 shares of restricted stock and 847,876 RSUs were expected to vest with an aggregate intrinsic value of $ 4 million and $ 54 million , respectively. 129 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 20. INCOME TAXES The following schedule presents the major components of our income tax expense: (In millions) 2021 2020 2019 Feder Current $ 230 $ 153 $ 195 Deferred 27 ( 47 ) ( 1 ) Total Federal 257 106 194 State: Current 55 38 44 Deferred 5 ( 11 ) ( 1 ) Total State 60 27 43 Total income tax expense $ 317 $ 133 $ 237 Income tax expense computed at the statutory federal income tax rate of 21% reconciles to actual income tax expense as follows: (In millions) 2021 2020 2019 Income tax expense at statutory federal rate $ 304 $ 141 $ 221 State income taxes including credits, net 48 21 34 Other nondeductible expenses 8 8 13 Nontaxable income ( 36 ) ( 32 ) ( 28 ) Share-based compensation ( 3 ) ( 1 ) ( 4 ) Tax credits and other taxes ( 4 ) ( 4 ) 1 Total income tax expense $ 317 $ 133 $ 237 On the consolidated balance sheet, the net DTA is included in “Other assets,” and the net DTL is included in “Other liabilities.” The tax effects of temporary differences that give rise to significant portions of DTAs and DTLs are presented be (In millions) December 31, 2021 2020 Gross deferred tax assets: Book loan loss deduction in excess of tax $ 136 $ 205 Pension and postretirement 1 1 Deferred compensation 77 71 Security investments and derivative fair value adjustments 26 — Lease liabilities 55 59 Capitalization of intangible assets 40 — Other 44 35 Total deferred tax assets before valuation allowance 379 371 Valuation allowance — — Total deferred tax assets 379 371 Gross deferred tax liabiliti Premises and equipment, due to differences in depreciation ( 88 ) ( 81 ) Federal Home Loan Bank stock dividends ( 2 ) ( 2 ) Leasing operations ( 44 ) ( 55 ) Prepaid expenses ( 8 ) ( 6 ) Prepaid pension reserves ( 6 ) ( 6 ) Mortgage servicing ( 10 ) ( 8 ) Security investments and derivative fair value adjustments — ( 102 ) Deferred loan costs ( 30 ) ( 32 ) ROU assets ( 49 ) ( 53 ) Qualified opportunity fund deferred gains ( 26 ) ( 11 ) Equity investments ( 20 ) ( 18 ) Total deferred tax liabilities ( 283 ) ( 374 ) Net deferred tax assets (liabilities) $ 96 $ ( 3 ) 130 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION There was no valuation allowance at December 31, 2021 or December 31, 2020. We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more likely than not criteria that such assets will be realized. This evaluation includes, but is not limited t (1) available carryback potential to prior tax years; (2) potential future reversals of existing deferred tax liabilities, which historically have a reversal pattern generally consistent with DTAs; (3) potential tax planning strategies; and (4) future projected taxable income. Based on this evaluation, we concluded that a valuation allowance was not required at December 31, 2021. At December 31, 2021, the tax effect of remaining net operating loss and tax credit carryforward was less than $ 1 million, expiring through 2039. We have a liability for unrecognized tax benefits relating to uncertain tax positions for tax credits on technology initiatives. The following schedule presents a rollforward of gross unrecognized tax benefits: (In millions) 2021 2020 2019 Balance at beginning of year $ 11 $ 14 $ 8 Tax positions related to current y Additions 2 2 2 Tax positions related to prior yea Additions 1 — 4 Reductions — ( 5 ) — Balance at end of year $ 14 $ 11 $ 14 At both December 31, 2021 and 2020, the liability for unrecognized tax benefits included approximately $ 12 million and $ 10 million, respectively (net of the federal tax benefit on state issues) that, if recognized, would affect the effective tax rate. The amount of gross unrecognized tax benefits related to tax credits on technology initiatives that may increase or decrease during the 12 months subsequent to December 31, 2021 is dependent on the timing and outcome of various ongoing federal and state examinations. For tax years not currently under examination, the gross unrecognized tax benefits on technology initiatives may decrease by approximately $ 2 million. Interest and penalties related to unrecognized tax benefits are included in income tax expense in the statement of income. At both December 31, 2021 and 2020, accrued interest and penalties recognized in the balance sheet, net of any federal and state tax benefits, totaled approximately $ 1 million. We file income tax returns in U.S. federal and various state jurisdictions, and we are no longer subject to income tax examinations for years prior to 2013 for federal and certain state returns. 131 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 21. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: (In millions, except shares and per share amounts) 2021 2020 2019 Basic: Net income $ 1,129 $ 539 $ 816 Less common and preferred dividends 261 259 260 Less impact from redemption of preferred stock 3 — — Undistributed earnings 865 280 556 Less undistributed earnings applicable to nonvested shares 7 2 4 Undistributed earnings applicable to common shares 858 278 552 Distributed earnings applicable to common shares 230 223 224 Total earnings applicable to common shares $ 1,088 $ 501 $ 776 Weighted average common shares outstanding (in thousands) 159,913 163,737 175,984 Net earnings per common share $ 6.80 $ 3.06 $ 4.41 Dilut Total earnings applicable to common shares $ 1,088 $ 501 $ 776 Weighted average common shares outstanding (in thousands) 159,913 163,737 175,984 Dilutive effect of common stock warrants (in thousands) — 1,641 9,926 Dilutive effect of stock options (in thousands) 321 235 594 Weighted average diluted common shares outstanding (in thousands) 160,234 165,613 186,504 Net earnings per common share $ 6.79 $ 3.02 $ 4.16 The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per share. (In thousands) 2021 2020 2019 Restricted stock and restricted stock units $ 1,374 $ 1,338 $ 1,390 Stock options 74 889 460 22. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, Amegy Bank, California Bank & Trust, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. The operating segment identified as “ Other” includes certain nonbank financial service subsidiaries, centralized back-office functions, and eliminations of transactions between segments. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal FTP allocation system and process to report results of operations for business segments, which is continually refined. In the third quarter of 2019, we made changes to the FTP process to more accurately reflect the cost of funds for loans. Additionally, in the third quarter of 2020, we began allocating the net interest income associated with our Treasury department to the business segments. Historically, this amount was presented in the “Other” segment. Prior period amounts have been revised to reflect the impact of these changes had they been instituted for the periods presented. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. 132 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION At December 31, 2021, Zions Bank operated 96 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. Amegy operated 75 branches in Texas. CB&T operated 83 branches in California. NBAZ operated 56 branches in Arizona. NSB operated 44 branches in Nevada. Vectra operated 34 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. The following schedule presents selected operating segment informati (In millions) Zions Bank Amegy CB&T 2021 2020 2019 2021 2020 2019 2021 2020 2019 SELECTED INCOME STATEMENT DATA Net interest income $ 634 $ 650 $ 688 $ 463 $ 485 $ 489 $ 537 $ 512 $ 512 Provision for credit losses ( 26 ) 67 18 ( 96 ) 111 9 ( 78 ) 120 7 Net interest income after provision for credit losses 660 583 670 559 374 480 615 392 505 Noninterest income 185 158 147 141 133 138 102 95 88 Noninterest expense 464 446 471 337 329 344 311 305 316 Income before income taxes $ 381 $ 295 $ 346 $ 363 $ 178 $ 274 $ 406 $ 182 $ 277 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 13,198 $ 13,845 $ 13,109 $ 12,189 $ 13,114 $ 12,235 $ 12,892 $ 12,366 $ 10,763 Total average deposits 23,588 18,370 15,561 15,496 12,970 11,627 15,796 13,763 11,522 (In millions) NBAZ NSB Vectra 2021 2020 2019 2021 2020 2019 2021 2020 2019 SELECTED INCOME STATEMENT DATA Net interest income $ 205 $ 216 $ 223 $ 147 $ 146 $ 148 $ 136 $ 135 $ 135 Provision for credit losses ( 27 ) 35 2 ( 35 ) 37 ( 1 ) ( 12 ) 34 3 Net interest income after provision for credit losses 232 181 221 182 109 149 148 101 132 Noninterest income 46 41 42 50 43 43 33 32 26 Noninterest expense 151 147 156 142 141 145 114 109 108 Income before income taxes $ 127 $ 75 $ 107 $ 90 $ 11 $ 47 $ 67 $ 24 $ 50 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 4,849 $ 5,099 $ 4,774 $ 3,015 $ 3,102 $ 2,630 $ 3,414 $ 3,401 $ 3,109 Total average deposits 7,288 5,771 5,002 6,691 5,427 4,512 4,386 3,637 2,853 (In millions) TCBW Other Consolidated Bank 2021 2020 2019 2021 2020 2019 2021 2020 2019 SELECTED INCOME STATEMENT DATA Net interest income $ 54 $ 52 $ 53 $ 32 $ 20 $ 24 $ 2,208 $ 2,216 $ 2,272 Provision for credit losses ( 3 ) 7 ( 1 ) 1 3 2 ( 276 ) 414 39 Net interest income after provision for credit losses 57 45 54 31 17 22 2,484 1,802 2,233 Noninterest income 6 5 5 140 67 73 703 574 562 Noninterest expense 21 22 22 201 205 180 1,741 1,704 1,742 Income (loss) before income taxes $ 42 $ 28 $ 37 $ ( 30 ) $ ( 121 ) $ ( 85 ) $ 1,446 $ 672 $ 1,053 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,569 $ 1,460 $ 1,194 $ 857 $ 629 $ 451 $ 51,983 $ 53,016 $ 48,265 Total average deposits 1,537 1,256 1,094 1,475 2,495 2,910 76,257 63,689 55,081 133 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 23. QUARTERLY FINANCIAL INFORMATION (UNAUDITED) Quarterly financial information for 2021 and 2020 is presented below. Prior period amounts have been reclassified to conform with the current year presentation, where applicable. These reclassifications did not affect net income. See related discussion in Note 1. (In millions, except per share amounts) Fourth Quarter Third Quarter Second Quarter First Quarter 2021 Gross interest income $ 566 $ 569 $ 570 $ 562 Net interest income 553 555 555 545 Provision for credit losses 25 ( 46 ) ( 123 ) ( 132 ) Noninterest income 190 139 205 169 Noninterest expense 449 429 428 435 Income before income taxes 269 311 455 411 Net income 213 240 354 322 Preferred stock dividends 6 6 9 8 Net earnings applicable to common shareholders 207 234 345 314 Net earnings per common sh Basic 1.34 1.45 2.08 1.90 Diluted 1.34 1.45 2.08 1.90 2020 Gross interest income $ 571 $ 581 $ 595 $ 622 Net interest income 550 555 563 548 Provision for credit losses ( 67 ) 55 168 258 Noninterest income 166 157 117 134 Noninterest expense 424 442 430 408 Income before income taxes 359 215 82 16 Net income 284 175 66 14 Preferred stock dividends 9 8 9 8 Net earnings applicable to common shareholders 275 167 57 6 Net earnings per common sh Basic 1.66 1.01 0.34 0.04 Diluted 1.66 1.01 0.34 0.04 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. ITEM 9A. CONTROLS AND PROCEDURES Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures as of December 31, 2021. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of December 31, 2021. There were no changes in our internal control over financial reporting during the fourth quarter of 2021 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. See “Report on Management’s Assessment of Internal Control over Financial Reporting” included in Item 8 on page 72 for management’s report on the adequacy of internal control over financial reporting. Also see “Report on Internal Control over Financial Reporting” issued by Ernst & Young LLP included in Item 8 on page 73. ITEM 9B. OTHER INFORMATION None. 134 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ITEM 9C. DISCLOSURE REGARDING FOREIGN JURISDICTIONS THAT PREVENT INSPECTIONS None. PART III ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, AND CORPORATE GOVERNANCE Incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 11. EXECUTIVE COMPENSATION Incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS Equity Compensation Plan Information The following schedule provides information as of December 31, 2021 with respect to the shares of our common stock that may be issued under existing equity compensation plans. (a) (b) (c) Plan category 1 Number of securities to be issued upon exercise of outstanding options, warrants and rights Weighted average exercise price of outstanding options, warrants and rights Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a)) Equity compensation plan approved by security holde Zions Bancorporation, N.A. 2015 Omnibus Incentive Plan 1,322,921 $ 44.75 1,889,694 1 Column (a) excludes 64,816 shares of unvested restricted stock, and 1,274,083 RSUs (each unit representing the right to one share of common stock). The schedule also excludes 5,223 shares of common stock issuable upon the exercise of stock options, with a weighted average exercise price of $6.41, granted under plans assumed in mergers that are outstanding. Other information required by Item 12 is incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE Incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES Incorporated by reference from our Proxy Statement to be subsequently filed. PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES a. (1) Financial statements — The following consolidated financial statements of Zions Bancorporation, N.A. are filed as part of this Form 10-K under Item 8, Financial Statements and Supplementary Da Consolidated balance sheets — December 31, 2021 and 2020 Consolidated statements of income — Years ended December 31, 2021, 2020 and 2019 Consolidated statements of comprehensive income — Years ended December 31, 2021, 2020 and 2019 135 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Consolidated statements of changes in shareholders ’ equity — Years ended December 31, 2021, 2020 and 2019 Consolidated statements of cash flows — Years ended December 31, 2021, 2020 and 2019 Notes to consolidated financial statements — December 31, 2021 (2) Financial statement schedules — All financial statement schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions, the required information is contained elsewhere in the Form 10-K, or the schedules are inapplicable and have therefore been omitted. (3) List of Exhibits: Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 4.1 Description of Securities of Zions Bancorporation, National Association, as of December 31, 2021 (filed herewith). 10. 1 Zions Bancorporation 2017-2019 Value Sharing Plan, incorporated by reference to Exhibit 10.2 of Form 10-Q for the quarter ended June 30, 2017. * 10. 2 Zions Bancorporation 2018-2020 Value Sharing Plan, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended June 30, 2018. * 10. 3 Zions Bancorporation 2017 Management Incentive Compensation Plan, incorporated by reference to Appendix I of our Proxy Statement dated April 14, 2016. * 10.4 Zions Bancorporation Third Restated and Revised Deferred Compensation Plan, incorporated by reference to Exhibit 10.5 of Form 10-K for the year ended December 31, 2018. * 10.5 Zions Bancorporation Fourth Restated Deferred Compensation Plan for Directors, incorporated by reference to Exhibit 10.6 of Form 10-K for the year ended December 31, 2018. * 10. 6 Amendment to the Zions Bancorporation Fourth Restated Deferred Compensation Plan for Directors, incorporated by reference to Exhibit 10.8 of Form 10-K for the year ended December 31, 2015. * 10.7 Amegy Bancorporation, Inc. Fifth Amended and Restated Non-Employee Directors Deferred Fee Plan (Frozen upon merger with Zions Bancorporation in 2005), incorporated by reference to Exhibit 10.8 of Form 10-K for the year ended December 31, 2018. * 10.8 Zions Bancorporation Executive Management Pension Plan, incorporated by reference to Exhibit 10.8 of Form 10-K for the year ended December 31, 2020. * 10.9 Zions Bancorporation First Restated Excess Benefit Plan, incorporated by reference to Exhibit 10.9 of Form 10-K for the year ended December 31, 2020. * 10.1 0 Amegy Bancorporation 2004 (formerly Southwest Bancorporation of Texas, Inc.) Omnibus Incentive Plan, incorporated by reference to Exhibit 10.38 of Form 10-K for the year ended December 31, 2015. * 136 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Exhibit Number Description 10.1 1 Trust Agreement establishing the Zions Bancorporation Deferred Compensation Plan Trust by and between Zions Bancorporation and Cigna Bank & Trust Company, FSB effective October 1, 2002, incorporated by reference to Exhibit 10.12 of Form 10-K for the year ended December 31, 2018. * 10.12 Amendment to the Trust Agreement Establishing the Zions Bancorporation Deferred Compensation Plans Trust, effective September 1, 2006, incorporated by reference to Exhibit 10.13 of Form 10-K for the year ended December 31, 2018. * 10.1 3 Amendment to the Trust Agreement establishing the Zions Bancorporation Deferred Compensation Plan Trust by and between Zions Bancorporation and Cigna Bank & Trust Company, FSB substituting Prudential Bank & Trust, FSB as the trustee, incorporated by reference to Exhibit 10.12 of Form 10-K for the year ended December 31, 2016. * 10.14 Zions Bancorporation Deferred Compensation Plans Master Trust between Zions Bancorporation and Fidelity Management Trust Company, effective September 1, 2006, incorporated by reference to Exhibit 10.15 of Form 10-K for the year ended December 31, 2018. * 10.15 Revised schedule C to Zions Bancorporation Deferred Compensation Plans Master Trust between Zions Bancorporation and Fidelity Management Trust Company, effective September 13, 2006, incorporated by reference to Exhibit 10.16 of Form 10-K for the year ended December 31, 2018. * 10.1 6 Third Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, dated June 13, 2012, incorporated by reference to Exhibit 10.17 of Form 10-K for the year ended December 31, 2017. * 10.17 Fifth Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, incorporated by reference to Exhibit 10.18 of Form 10-K for the year ended December 31, 2018. * 10.18 Sixth Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, dated August 17, 2015, incorporated by reference to Exhibit 10.18 of Form 10-K for the year ended December 31, 2020. * 10. 19 Seventh Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, effective September 30, 2018, incorporated by reference to Exhibit 10.2 of Form 10-Q for the quarter ended September 30, 2018. * 10. 20 Second Amendment to the Zions Bancorporation Pension Plan, dated July 17, 2017, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended June 30, 2017. * 10.2 1 Third Amendment to the Zions Bancorporation Pension Plan, dated October 30, 2017, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended September 30, 2018. * 10.2 2 Sixth Amendment to the Zions Bancorporation Pension Plan, dated June 25, 2020, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended June 30, 2020. * 10.23 Zions Bancorporation Restated Pension Plan effective January 1, 2009, including amendments adopted through December 31, 2013, incorporated by reference to Exhibit 10.2 of Form 10-Q for the quarter ended June 30, 2018. * 10.24 First Amendment to the Zions Bancorporation Restated Pension Plan, effective October 1, 2018, dated October 29, 2018, incorporated by reference to Exhibit 10.24 of Form 10-K for the year ended December 31, 2018. * 137 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Exhibit Number Description 10.2 5 Second Amendment to the Zions Bancorporation Restated Pension Plan, effective December 31, 2018, dated December 31, 2018, incorporated by reference to Exhibit 10.25 of Form 10-K for the year ended December 31, 2018. * 10.26 Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, Restated and Amended effective January 1, 2007, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended June 30, 2018. * 10.27 Second Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated December 31, 2018, effective January 1, 2019, incorporated by reference to Exhibit 10.27 of Form 10-K for the year ended December 31, 2018. * 10.28 Third Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated June 27, 2019, effective September 30, 2018, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended June 30, 2019. * 10.29 Fourth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated September 11, 2020, effective January 1, 2020, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended September 30, 2020. * 10.30 Fifth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated September 11, 2020, effective January 1, 2020, incorporated by reference to Exhibit 10.2 of Form 10-Q for the quarter ended September 30, 2020. * 10.31 Sixth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated September 11, 2020, effective October 1, 2020, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended September 30, 2020. * 10.32 Seventh Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated December 23, 2020, effective January 1, 2021, incorporated by reference to Exhibit 10.32 of Form 10-K for the year ended December 31, 2020. * 10.33 Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated July 3, 2006, incorporated by reference to Exhibit 10.28 of Form 10-K for the year ended December 31, 2018. * 10.34 First Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 5, 2010, incorporated by reference to Exhibit 10.25 of Form 10-K for the year ended December 31, 2015. * 10.35 Second Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 5, 2010, incorporated by reference to Exhibit 10.26 of Form 10-K for the year ended December 31, 2015. * 10.36 Third Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 30, 2010, incorporated by reference to Exhibit 10.27 of Form 10-K for the year ended December 31, 2015. * 10.37 Fourth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated October 1, 2014, incorporated by reference to Exhibit 10.37 of Form 10-K for the year ended December 31, 2020. * 138 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Exhibit Number Description 10.38 Fifth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated October 1, 2014, incorporated by reference to Exhibit 10.38 of Form 10-K for the year ended December 31, 2020. * 10.39 Sixth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated August 17, 2015, incorporated by reference to Exhibit 10.39 of Form 10-K for the year ended December 31, 2020. * 10.40 Seventh Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 27, 2016, incorporated by reference to Exhibit 10.31 of Form 10-K for the year ended December 31, 2016. * 10.41 Eighth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective September 30, 2018, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended September 30, 2018. * 10.42 Ninth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective October 27, 2020, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended June 30, 2021. * 10.4 3 Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.42 of Form 10-K for the year ended December 31, 2020. * 10.4 4 Form of Restricted Stock Award Agreement subject to holding requirement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.43 of Form 10-K for the year ended December 31, 2020. * 10.4 5 Form of Standard Restricted Stock Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.44 of Form 10-K for the year ended December 31, 2020. * 10.4 6 Form of Standard Restricted Stock Unit Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.45 of Form 10-K for the year ended December 31, 2020. * 10.4 7 Form of Restricted Stock Unit Agreement subject to holding requirement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.46 of Form 10-K for the year ended December 31, 2020. * 10.4 8 Form of Standard Stock Option Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.47 of Form 10-K for the year ended December 31, 2020. * 10.4 9 Form of Standard Directors Stock Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.48 of Form 10-K for the year ended December 31, 2020. * 10. 50 Form of Change in Control Agreement between the Bank and Certain Executive Officers, incorporated by reference to Exhibit 10.49 of Form 10-K for the year ended December 31, 2020. * 10. 51 Form of Change in Control Agreement between the Bank and Dallas E. Haun, dated May 23, 2008, incorporated by reference to Exhibit 10.50 of Form 10-K for the year ended December 31, 2020. * 139 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Exhibit Number Description 21 List of Subsidiaries of Zions Bancorporation, National Association (filed herewith). 23 Consent of Independent Registered Public Accounting Firm (filed herewith). 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in inline XBRL: (i) the Consolidated Balance Sheets as of December 31, 2021 and December 31, 2020, (ii) the Consolidated Statements of Income for the years ended December 31, 2021, December 31, 2020, and December 31, 2019, (iii) the Consolidated Statements of Comprehensive Income for the years ended December 31, 2021, December 31, 2020, and December 31, 2019, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the years ended December 31, 2021, December 31, 2020, and December 31, 2019, (v) the Consolidated Statements of Cash Flows for the years ended December 31, 2021, December 31, 2020, and December 31, 2019, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Form 10-K, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. ITEM 16. FORM 10-K SUMMARY Not applicable. 140 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. February 24, 2022 ZIONS BANCORPORATION, NATIONAL ASSOCIATION By /s/ Harris H. Simmons HARRIS H. SIMMONS, Chairman and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the date indicated. February 24, 2022 /s/ Harris H. Simmons /s/ Paul E. Burdiss HARRIS H. SIMMONS, Director, Chairman and Chief Executive Officer (Principal Executive Officer) PAUL E. BURDISS, Executive Vice President and Chief Financial Officer (Principal Financial Officer) /s/ R. Ryan Richards /s/ Maria Contreras-Sweet R. RYAN RICHARDS, Controller (Principal Accounting Officer) MARIA CONTRERAS-SWEET, Director /s/ Gary L. Crittenden /s/ Suren K. Gupta GARY L. CRITTENDEN, Director SUREN K. GUPTA, Director /s/ Claire A. Huang /s/ Vivian S. Lee CLAIRE A. HUANG, Director VIVIAN S. LEE, Director /s/ Scott J. McLean /s/ Edward F. Murphy SCOTT J. MCLEAN, Director EDWARD F. MURPHY, Director /s/ Stephen D. Quinn /s/ Aaron B. Skonnard STEPHEN D. QUINN, Director AARON B. SKONNARD, Director /s/ Barbara A. Yastine BARBARA A. YASTINE, Director 141 |
Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) 35 Consolidated Balance Sheets 35 Consolidated Statements of Income 36 Consolidated Statements of Comprehensive Income (Loss) 37 Consolidated Statements of Changes in Shareholders’ Equity 37 Consolidated Statements of Cash Flows 38 Notes to Consolidated Financial Statements 39 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 4 Item 3. Quantitative and Qualitative Disclosures About Market Risk 74 Item 4. Controls and Procedures 74 PART II. OTHER INFORMATION Item 1. Legal Proceedings 75 Item 1A. Risk Factors 75 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 75 Item 6. Exhibits 76 Signatures 77 2 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses IMG International Manufacturing Group AFS Available-for-Sale IPO Initial Public Offering ALLL Allowance for Loan and Lease Losses IRS Internal Revenue Service Amegy Amegy Bank, a division of Zions Bancorporation, National Association LIBOR London Interbank Offered Rate AMERIBOR American Interbank Offered Rate Municipalities State and Local Governments AOCI Accumulated Other Comprehensive Income NAICS North American Industry Classification System ASC Accounting Standards Codification NASDAQ National Association of Securities Dealers Automated Quotations ASU Accounting Standards Update NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association BOLI Bank-Owned Life Insurance NIM Net Interest Margin bps Basis Points NM Not Meaningful BSBY Bloomberg Short-Term Bank Yield NSB Nevada State Bank, a division of Zions Bancorporation, National Association CB&T California Bank & Trust, a division of Zions Bancorporation, National Association OCC Office of the Comptroller of the Currency CCPA California Consumer Privacy Act of 2018 OCI Other Comprehensive Income CECL Current Expected Credit Loss OREO Other Real Estate Owned CLTV Combined Loan-to-Value Ratio PEI Private Equity Investment CMT Constant Maturity Treasury PPNR Pre-provision Net Revenue CRE Commercial Real Estate PPP Paycheck Protection Program CVA Credit Valuation Adjustment ROU Right-of-Use DTA Deferred Tax Asset RULC Reserve for Unfunded Lending Commitments EaR Earnings at Risk S&P Standard and Poor's EPS Earnings per Share SBA U.S. Small Business Administration EVE Economic Value of Equity SBIC Small Business Investment Company FASB Financial Accounting Standards Board SEC Securities and Exchange Commission FDIC Federal Deposit Insurance Corporation SOFR Secured Overnight Financing Rate FHLB Federal Home Loan Bank TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association FRB Federal Reserve Board TDR Troubled Debt Restructuring FTP Funds Transfer Pricing U.K. United Kingdom GAAP Generally Accepted Accounting Principles U.S. United States HECL Home Equity Credit Line Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association HTM Held-to-Maturity Zions Bank Zions Bank, a division of Zions Bancorporation, National Association 3 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION PART I. FINANCIAL INFORMATION ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING INFORMATION This quarterly report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. These forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although this list is not comprehensive, important factors that may cause material differences include changes in general industry and economic conditions, including inflation; changes and uncertainties in legislation and fiscal, monetary, regulatory, trade, and tax policies; changes in interest and reference rates; the quality and composition of our loan and securities portfolios; our ability to recruit and retain talent, including increased competition for qualified candidates as a result of expanded remote-work opportunities and increased compensation expenses; competitive pressures and other factors that may affect aspects of our business, such as pricing, demand for our products and services; our ability to execute our strategic plans, manage our risks, and achieve our business objectives; our ability to develop and maintain information security systems and controls designed to guard against fraud, cyber, and privacy risks; the effects of the COVID-19 pandemic (including variants) and associated actions that may affect our business, employees, and communities; other local, national, or international disasters, crises, or conflicts that may occur in the future; and governmental and social responses to environmental issues and climate change. These factors, risks, and uncertainties, among others, are discussed in our 2021 Form 10-K and subsequent filings with the Securities and Exchange Commission (“SEC”). We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any of the forward-looking statements included herein to reflect future events or developments. GAAP to NON-GAAP RECONCILIATIONS This Form 10-Q presents non-GAAP financial measures, in addition to generally accepted accounting principles (“GAAP”) financial measures, to provide investors with additional information. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results and to provide a meaningful base for period-to-period and company-to-company comparisons. We use these non-GAAP financial measures to assess our performance, financial position, and for presentations of our performance to investors. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by our management and the financial services industry. 4 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar financial measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under GAAP. Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets and their related amortization. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a business more consistently, whether acquired or developed internally. RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Three Months Ended (Dollar amounts in millions) March 31, 2022 December 31, 2021 March 31, 2021 Net earnings applicable to common shareholders, net of tax (a) $ 195 $ 207 $ 314 Average common equity (GAAP) $ 6,700 $ 7,146 $ 7,333 Average goodwill and intangibles (1,015) (1,015) (1,016) Average tangible common equity (non-GAAP) (b) $ 5,685 $ 6,131 $ 6,317 Number of days in quarter (c) 90 92 90 Number of days in year (d) 365 365 365 Return on average tangible common equity (non-GAAP) (a/b/c)*d 13.9 % 13.4 % 20.2 % TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) March 31, 2022 December 31, 2021 March 31, 2021 Total shareholders’ equity (GAAP) $ 6,294 $ 7,463 $ 7,933 Goodwill and intangibles (1,015) (1,015) (1,016) Tangible equity (non-GAAP) (a) 5,279 6,448 6,917 Preferred stock (440) (440) (566) Tangible common equity (non-GAAP) (b) $ 4,839 $ 6,008 $ 6,351 Total assets (GAAP) $ 91,126 $ 93,200 $ 85,121 Goodwill and intangibles (1,015) (1,015) (1,016) Tangible assets (non-GAAP) (c) $ 90,111 $ 92,185 $ 84,105 Common shares outstanding (thousands) (d) 151,348 151,625 163,800 Tangible equity ratio (non-GAAP) (a/c) 5.9 % 7.0 % 8.2 % Tangible common equity ratio (non-GAAP) (b/c) 5.4 % 6.5 % 7.6 % Tangible book value per common share (non-GAAP) (b/d) $ 31.97 $ 39.62 $ 38.77 5 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. The methodology of determining the efficiency ratio may differ among companies. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allow for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how well we are managing our expenses; adjusted pre-provision net revenue (“PPNR”) enables management and others to assess our ability to generate capital. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) Three Months Ended Year Ended (Dollar amounts in millions) March 31, 2022 December 31, 2021 March 31, 2021 December 31, 2021 Noninterest expense (GAAP) (a) $ 464 $ 449 $ 435 $ 1,741 Adjustments: Severance costs — — — 1 Other real estate expense, net 1 — — — Amortization of core deposit and other intangibles — 1 — 1 Pension termination-related (income) expense 1 — — (5) (5) SBIC investment success fee accrual 2 (1) 2 — 7 Total adjustments (b) — 3 (5) 4 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 464 $ 446 $ 440 $ 1,737 Net interest income (GAAP) (d) $ 544 $ 553 $ 545 $ 2,208 Fully taxable-equivalent adjustments (e) 8 10 8 32 Taxable-equivalent net interest income (non-GAAP) (d+e)=f 552 563 553 2,240 Noninterest income (GAAP) g 142 190 169 703 Combined income (non-GAAP) (f+g)=(h) 694 753 722 2,943 Adjustments: Fair value and nonhedge derivative gain (loss) 6 (1) 18 14 Securities gains (losses), net 2 (17) 20 11 71 Total adjustments (i) (11) 19 29 85 Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 705 $ 734 $ 693 $ 2,858 Pre-provision net revenue (non-GAAP) (h)-(a) $ 230 $ 304 $ 287 $ 1,202 Adjusted PPNR (non-GAAP) (j)-(c) 241 288 253 1,121 Efficiency ratio (non-GAAP) 3 (c/j) 65.8 % 60.8 % 63.5 % 60.8 % 1 Represents a valuation adjustment related to the termination of our defined benefit pension plan. 2 The success fee accrual is associated with the gains/(losses) from our SBIC investments. The gains/(losses) related to these investments are excluded from the efficiency ratio through securities gains, net. 3 Results for the first quarter of 2022 benefited from a one-time adjustment of approximately $6 million in commercial account fees. Excluding the $6 million adjustment, the efficiency ratio for the first quarter of 2022 would have been 66.4%. 6 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Comparisons noted below are calculated for the current quarter versus the same prior-year period unless otherwise specified. Growth rates of 100% or more are considered not meaningful (“NM”) as they generally reflect a low starting point. RESULTS OF OPERATIONS Executive Summary Our financial results in the first quarter of 2022 reflected strong non-PPP loan growth, solid credit performance, and improving customer-related noninterest income. Diluted earnings per share (“EPS”) decreased to $1.27, compared with $1.90 in the first quarter of 2021. Net interest income remained relatively stable at $544 million, as significant growth of $7.8 billion in average interest-earning assets was partially offset by net interest margin (“NIM”) compression arising from an increased concentration in cash and securities and the low interest rate environment. The NIM was 2.60% in the first quarter of 2022, compared with 2.86%. Our results benefited from a negative $33 million provision for credit losses, reflecting improvements in economic forecasts and strong credit quality. This compares with a negative $132 million provision for credit losses in the first quarter of 2021. Net loan and lease charge-offs were $6 million, or 0.05% of average loans (ex-PPP), compared with net charge-offs of $8 million, or 0.07% of average loans (ex-PPP), in the prior year quarter. Total customer-related noninterest income increased $18 million, or 14%, primarily due to improved card, retail and business banking, and wealth management activity. Total noninterest income decreased $27 million, or 16%, largely due to $17 million of negative mark-to-market adjustments during the quarter primarily relating to our Small Business Investment Company (“SBIC”) investment in Recursion Pharmaceuticals, Inc. Total noninterest expense increased $29 million, or 7%. The increase was largely driven by a $24 million increase in salaries and benefits expense, which was impacted by (1) inflationary and competitive labor market pressures on wages and (2) increases in incentive compensation accruals arising from improvements in anticipated full-year profitability. Our efficiency ratio was 65.8%, compared with 63.5% for the first quarter of 2021. The growth in average interest-earning assets was driven by a $9.4 billion increase in average available-for-sale (“AFS”) investment securities and a $1.2 billion increase in average money market investments. Over the past year, we actively deployed excess liquidity into medium-duration assets, as we sought to balance competing objectives of increasing current income, maintaining asset sensitivity to benefit from rising rates, and maintaining sufficient liquidity for loan growth and changes in deposit trends. Excluding Paycheck Protection Program (“PPP”) loans, total loans and leases increased $3.2 billion, or 7%, to $50.2 billion. The increases were primarily in the commercial and industrial, commercial owner-occupied, municipal, and home equity credit line portfolios. Total loans and leases decreased $2.2 billion, or 4%, from the prior year quarter, primarily due to the forgiveness of PPP loans and a decline in 1-4 family residential mortgage loans. Total deposits increased $8.5 billion, or 12%, from the prior year quarter, primarily due to a $6.1 billion increase in noninterest-bearing deposits. 7 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION First Quarter 2022 Financial Performance Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency Ratio Net earnings applicable to common shareholders decreased from the first quarter of 2021. The prior year quarter benefited from a negative $132 million provision for credit losses, compared with negative $33 million in the first quarter of 2022. Diluted earnings per share declined from the first quarter of 2021 as a result of decreased net earnings, the effect of which was partially offset by a 12.2 million decrease in average diluted shares, primarily due to share repurchases. Adjusted PPNR decreased $12 million from the first quarter of 2021, primarily due to the increase in adjusted noninterest expense, driven by increases in salaries and benefits expense, partially offset by increases in customer-related fee income. The efficiency ratio increased from the prior year quarter, primarily as growth in adjusted noninterest expense due to the increase in salaries and benefits expense exceeded growth in adjusted revenue. Net Interest Income and Net Interest Margin Net interest income is the difference between interest earned on interest-earning assets and interest paid on interest-bearing liabilities, and was approximately 79% of our net revenue (net interest income plus noninterest income) for the quarter. The net interest margin is derived from both the amount of interest-earning assets and interest-bearing liabilities and their respective yields and rates. NET INTEREST INCOME AND NET INTEREST MARGIN Three Months Ended March 31, Amount change Percent change (Dollar amounts in millions) 2022 2021 Interest and fees on loans $ 437 $ 488 $ (51) (10) % Interest on money market investments 6 3 3 NM Interest on securities 112 71 41 58 Total interest income 555 562 (7) (1) Interest on deposits 6 9 (3) (33) Interest on short- and long-term borrowings 5 8 (3) (38) Total interest expense 11 17 (6) (35) Net interest income $ 544 $ 545 $ (1) — % Average interest-earning assets $ 86,093 $ 78,294 $ 7,799 10 % Average interest-bearing liabilities $ 42,136 $ 40,157 $ 1,979 5 % bps Yield on interest-earning assets 1 2.65 % 2.95 % (30) Rate paid on total deposits and interest-bearing liabilities 1 0.06 % 0.09 % (3) Cost of total deposits 1 0.03 % 0.05 % (2) Net interest margin 1 2.60 % 2.86 % (26) 1 Rates are calculated using amounts in thousands; taxable-equivalent rates are used where applicable. 8 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Net interest income remained relatively stable at $544 million during the first quarter of 2022, as significant growth in average interest-earning assets was partially offset by NIM compression arising from an increased concentration in cash and securities and the low interest rate environment. Average interest-earning assets increased $7.8 billion, or 10%, driven by growth of $9.4 billion in AFS securities, $2.3 billion in commercial loans (ex-PPP), and $1.2 billion in money market investments. These increases were partially offset by a $4.7 billion decline in average PPP loans. Average securities increased to 30% of average interest-earning assets, compared with 21%, as we actively deployed excess liquidity into medium duration assets. The NIM was 2.60%, compared with 2.86%. The yield on average interest-earning assets was 2.65% in the first quarter of 2022, a decrease of 30 basis points (“bps”), primarily due to a decrease in the yield on loans. The average rate paid on interest-bearing liabilities decreased 6 bps to 0.11%. Average loans and leases (ex-PPP) increased $1.9 billion, or 4%, primarily in the commercial and industrial loan portfolio. Total average loans and leases decreased $2.8 billion, or 5%, from $53.7 billion in the first quarter of 2021, primarily due to the forgiveness of PPP loans and a decrease in 1-4 family residential mortgage loans. The decline in our mortgage loan portfolio is partly due to refinancing activity. We generally originate residential mortgage loans and sell them to government-sponsored entities as part of our interest rate risk management efforts to limit our balance sheet exposure to long-term assets. The yield on total loans decreased 21 basis points to 3.52%. The yield on non-PPP loans decreased 26 basis points, primarily driven by (1) lower yields on loans originated during the past year, compared with yields on loans maturing and amortizing during the same period, and (2) promotional rates on commercial owner-occupied loans and home equity credit lines. During the first quarter of 2022 and 2021, PPP loans totaling $0.8 billion and $1.6 billion, respectively, were forgiven by the Small Business Administration (“SBA”). PPP loans contributed $24 million and $60 million in interest income during the same time periods. The yield on these loans was 6.64% and 3.98% for the first quarter of 2022 and 2021, respectively, and was positively impacted by accelerated amortization of deferred fees on paid off or forgiven PPP loans. At March 31, 2022 and 2021, the remaining unamortized net deferred fees on these loans totaled $24 million and $168 million, respectively. Average total deposits increased $10.2 billion to $81.6 billion at an average cost of 0.03%, from $71.4 billion at an average cost of 0.05% in the first quarter of 2021. Average interest-bearing liabilities increased $2.0 billion, or 5%. 9 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The rate paid on total deposits and interest-bearing liabilities was 0.06%, a decrease from 0.09% during the first quarter of 2021, which was primarily due to low interest-bearing deposit rates and strong noninterest-bearing deposit growth. Average AFS securities balances increased $9.3 billion, or 59%, from $15.9 billion, mainly due to an increase in our mortgage-backed securities portfolio. The yield on securities remained relatively stable at 1.78%. Average borrowed funds decreased $1.0 billion, or 42%, from $2.4 billion, with both average short-term borrowings and average long-term borrowings decreasing $0.5 billion. The average rate paid on short-term borrowings remained stable at 0.08%, while the rate paid on long-term debt increased 36 bps from the prior year quarter, primarily due to lower-yielding senior debt that was redeemed or matured over the past few quarters. The decrease in overall borrowed funds continues to reflect strong deposit growth. For further discussion of the effects of market rates on net interest income and how we manage interest rate risk, refer to the “Interest Rate and Market Risk Management” section on page 27. For more information on how we manage liquidity risk, refer to the “Liquidity Risk Management” section on page 31. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 10 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED AVERAGE BALANCE SHEETS, YIELDS AND RATES (Unaudited) Three Months Ended March 31, 2022 Three Months Ended March 31, 2021 (Dollar amounts in millions) Average balance Amount of interest Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 6,735 $ 3 0.19 % $ 4,592 $ 1 0.11 % Federal funds sold and security resell agreements 2,300 3 0.52 3,199 2 0.24 Total money market investments 9,035 6 0.27 7,791 3 0.16 Securiti Held-to-maturity 438 3 3.12 663 5 2.98 Available-for-sale 25,246 106 1.71 15,876 66 1.69 Trading account 384 5 4.76 231 2 3.96 Total securities 2 26,068 114 1.78 16,770 73 1.77 Loans held for sale 57 — 1.92 68 — 2.81 Loans and leases 3 Commercial - excluding PPP loans 27,037 236 3.54 24,732 234 3.83 Commercial - PPP loans 1,459 24 6.64 6,135 60 3.98 Commercial real estate 12,171 101 3.37 12,133 105 3.50 Consumer 10,266 82 3.23 10,665 95 3.59 Total loans and leases 50,933 443 3.52 53,665 494 3.73 Total interest-earning assets 86,093 563 2.65 78,294 570 2.95 Cash and due from banks 625 614 Allowance for credit losses on loans and debt securities (515) (774) Goodwill and intangibles 1,015 1,016 Other assets 4,211 3,930 Total assets $ 91,429 $ 83,080 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 39,132 $ 5 0.05 % $ 35,232 $ 6 0.07 % Time 1,587 1 0.26 2,491 3 0.55 Total interest-bearing deposits 40,719 6 0.06 37,723 9 0.10 Borrowed funds: Federal funds purchased and other short-term borrowings 594 — 0.08 1,110 — 0.07 Long-term debt 823 5 2.66 1,324 8 2.30 Total borrowed funds 1,417 5 1.58 2,434 8 1.28 Total interest-bearing liabilities 42,136 11 0.11 40,157 17 0.17 Noninterest-bearing demand deposits 40,886 33,723 Other liabilities 1,267 1,301 Total liabilities 84,289 75,181 Shareholders’ equity: Preferred equity 440 566 Common equity 6,700 7,333 Total shareholders’ equity 7,140 7,899 Total liabilities and shareholders’ equity $ 91,429 $ 83,080 Spread on average interest-bearing funds 2.54 % 2.78 % Net impact of noninterest-bearing sources of funds 0.06 % 0.08 % Net interest margin $ 552 2.60 % $ 553 2.86 % Me total loans and leases, excluding PPP loans $ 49,474 419 3.43 % $ 47,530 434 3.69 % Me total cost of deposits 0.03 % 0.05 % Me total deposits and interest-bearing liabilities 83,022 11 0.06 % 73,880 17 0.09 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. The taxable-equivalent rates used are the rates that were applicable at the time of each respective reporting period. 2 Interest on total securities includes $28 million and $30 million of taxable-equivalent premium amortization for the first quarters of 2022 and 2021, respectively. 3 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 11 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans. The provision for credit losses, which is the combination of both the provision for loan and lease losses and the provision for unfunded lending commitments, was negative $33 million, compared with negative $132 million in the first quarter of 2021. The ACL was $514 million at March 31, 2022, compared with $695 million at March 31, 2021. The ratio of ACL to net loans and leases (ex-PPP) was 1.02% and 1.48% at March 31, 2022 and 2021, respectively. The provision for securities losses was less than $1 million during the first quarter of 2022 and 2021. 12 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The total ACL was $514 million at March 31, 2022, compared with $695 million at March 31, 2021. The bar chart above illustrates the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic forecasts and current economic conditions, which decreased the ACL by $141 million from the prior year quarter due to improvements in both realized economic results and forecasts, partially offset by economic uncertainty caused by inflation, supply chain disruptions, and the conflict in Eastern Europe. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, decreased the ACL by $16 million, indicating improvements in credit quality. Net charge-offs were $6 million, or 0.05% annualized of average loans (ex-PPP), in the first quarter of 2022, compared with net charge-offs of $8 million, or 0.07% annualized of average loans (ex-PPP), in the prior year quarter. The fourth bar represents loan portfolio changes, driven by changes in portfolio mix, the aging of the portfolio, and other risk factors; all of which resulted in a $24 million reduction in the ACL. See “Credit Risk Management” on page 20 and Note 6 of the Notes to Consolidated Financial Statements in our 2021 Form 10-K for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue we earn from products and services that generally have no associated interest rate or yield and is classified as either customer-related or noncustomer-related. Customer-related noninterest income excludes items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income decreased $27 million, or 16%, from $169 million during the prior year quarter. Noninterest income accounted for 21% and 24% of net revenue during the first quarter of 2022 and 2021, respectively. The following schedule presents a comparison of the major components of noninterest income. 13 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION NONINTEREST INCOME Three Months Ended March 31, Amount change Percent change (Dollar amounts in millions) 2022 2021 Commercial account fees $ 41 $ 32 $ 9 28 % Card fees 25 21 4 19 Retail and business banking fees 20 17 3 18 Loan-related fees and income 22 25 (3) (12) Capital markets and foreign exchange fees 15 15 — — Wealth management fees 14 12 2 17 Other customer-related fees 14 11 3 27 Customer-related noninterest income 151 133 18 14 Fair value and nonhedge derivative income 6 18 (12) (67) Dividends and other income 2 7 (5) (71) Securities gains (losses), net (17) 11 (28) NM Noncustomer-related noninterest income (9) 36 (45) NM Total noninterest income $ 142 $ 169 $ (27) (16) % Customer-related Total customer-related noninterest income increased $18 million, or 14%, mainly due to increased card, retail and business banking, and wealth management activity, partially offset by a decrease in loan-related fees and income. Results for the first quarter of 2022 benefited from a one-time adjustment of approximately $6 million in commercial account fees. Retail and business banking fees include overdraft and non-sufficient funds fees. Beginning in the third quarter of 2022, we expect to reduce the rate and frequency with which such fees are assessed, specifically to consumer accounts. Relative to current activity levels, we expect this will reduce our customer-related noninterest income by approximately $5 million per quarter. Noncustomer-related Total noncustomer-related noninterest income decreased $45 million, relative to the prior year quarter. Net securities gains and losses decreased $28 million, due to $17 million of negative mark-to-market adjustments primarily related to our SBIC investment in Recursion Pharmaceuticals, Inc., and an $11 million gain on the sale of Farmer Mac Class C stock recognized during the prior year period. Fair value and nonhedge derivative income decreased $12 million from the prior year period. We recognized a $6 million gain during the quarter related to a credit valuation adjustment (“CVA”) on client-related interest rate swaps, compared with an $18 million CVA gain in the prior year period. The CVA may fluctuate from period-to-period based on the credit quality of our clients and changes in interest rates, which impacts the value of, and our credit exposure to, the client-related interest rate swaps. Noninterest Expense During the first quarter of 2022, we made certain financial reporting reclassifications to noninterest expense in our Consolidated Statements of Income, primarily to improve the presentation and disclosure of certain expenses related to our ongoing technology initiatives and investments and to provide a more relevant presentation of our business and operations. Other expense line items were also impacted by these reclassifications, which were adopted retrospectively to January 1, 2020. 14 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents a comparison of the major components of noninterest expense. NONINTEREST EXPENSE Three Months Ended March 31, Amount change Percent change (Dollar amounts in millions) 2022 2021 Salaries and employee benefits $ 312 $ 288 $ 24 8 % Technology, telecom, and information processing 52 49 3 6 Occupancy and equipment, net 38 39 (1) (3) Professional and legal services 14 21 (7) (33) Marketing and business development 8 7 1 14 Deposit insurance and regulatory expense 10 10 — — Credit-related expense 7 6 1 17 Other real estate expense, net 1 — 1 NM Other 22 15 7 47 Total noninterest expense $ 464 $ 435 $ 29 7 % Adjusted noninterest expense 1 $ 464 $ 440 $ 24 5 % 1 For information on non-GAAP financial measures, see “GAAP to Non-GAAP Reconciliations” on page 4. Total noninterest expense increased $29 million, or 7%, relative to the prior year quarter. Salaries and benefits expense increased $24 million, or 8%, due to (1) the impact of inflationary and competitive labor market pressures on wages, (2) increases in commissions, (3) increases in incentive compensation accruals arising from improvements in anticipated full-year profitability, and (4) declines in deferred salaries primarily associated with PPP loans originated in the prior year period. Other noninterest expense increased $7 million, or 47%, primarily due to lower expenses in the prior year period, which benefited from a $5 million valuation adjustment related to the termination of our defined benefit pension plan. Professional and legal services expense decreased $7 million, or 33%, due to third-party assistance associated with PPP loan forgiveness as well as various technology-related and other outsourced services incurred in the prior year period. Adjusted noninterest expense increased $24 million, or 5%, to $464 million, compared with $440 million for the prior year period, driven primarily by the increase in salaries and benefits expense described previously. The efficiency ratio was 65.8%, compared with 63.5%. Given the seasonality associated with employee benefits, the efficiency ratio is generally elevated in the first quarter of the year. This effect was more pronounced in the first quarter of 2022 due to the aforementioned increases in incentive compensation accruals arising from improvements in anticipated full-year profitability. For information on non-GAAP financial measures, including differences between noninterest expense and adjusted noninterest expense, see page 4. Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods present INCOME TAXES Three Months Ended March 31, (Dollar amounts in millions) 2022 2021 Income before income taxes $ 255 $ 411 Income tax expense 52 89 Effective tax rate 20.4 % 21.7 % See Note 12 of the Notes to Consolidated Financial Statements for more information about the factors that influenced the income tax rates as well as information about deferred income tax assets and liabilities. 15 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Preferred Stock Dividends Preferred stock dividends totaled $8 million for both the first quarter of 2022 and 2021. Technology Spend As the banking industry continues to move toward information technology-based products and services, we recognize there are disparate ways of discussing expenditures associated with technology-related investments and operations. We generally describe these expenditures as total technology spend, which includes current period expenses reported on our consolidated statement of income, and capitalized investments, net of related amortization and depreciation, reported on our consolidated balance sheet. We believe these disclosures provide more relevant presentation and discussion regarding our technology-related investments and operations. The following schedule provides information related to our technology spen TECHNOLOGY SPEND Three Months Ended March 31, (In millions) 2022 2021 Technology, telecom, and information processing expense $ 52 $ 49 Other technology-related expenses 49 44 Technology investments 22 28 L related amortization and depreciation (14) (13) Total technology spend $ 109 $ 108 Total technology spend represents expenditures for technology systems and infrastructure and is reported as a combination of the followin • Technology, telecom, and information processing expense — includes expenses related to application software licensing and maintenance, related amortization, telecommunications, and data processing; • Other technology-related expenses — includes related noncapitalized salaries and employee benefits, occupancy and equipment, and professional and legal services; and • Technology investments — includes capitalized technology infrastructure equipment, hardware, and purchased or internally developed software, less related amortization or depreciation. BALANCE SHEET ANALYSIS Interest-Earning Assets Interest-earning assets are assets that have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see the Consolidated Average Balance Sheet on page 11. Investment Securities Portfolio We invest in securities to generate interest income and to actively manage liquidity, interest rate, and credit risk. Refer to the “Liquidity Risk Management” section on page 31 for additional information about how we manage our liquidity risk. See Note 3 and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. 16 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents the components of our investment securities portfolio. INVESTMENT SECURITIES PORTFOLIO March 31, 2022 December 31, 2021 (In millions) Par value Amortized cost Estimated fair value Par value Amortized cost Estimated fair value Held-to-maturity Municipal securities $ 438 $ 439 $ 414 $ 441 $ 441 $ 443 Available-for-sale U.S. Treasury securities 555 557 503 155 155 134 U.S. Government agencies and corporatio Agency securities 802 802 792 833 833 845 Agency guaranteed mortgage-backed securities 23,441 23,626 22,082 20,340 20,549 20,387 Small Business Administration loan-backed securities 884 950 925 867 938 912 Municipal securities 1,645 1,828 1,768 1,489 1,652 1,694 Other debt securities 75 75 75 75 75 76 Total available-for-sale 27,402 27,838 26,145 23,759 24,202 24,048 Total HTM and AFS investment securities $ 27,840 $ 28,277 $ 26,559 $ 24,200 $ 24,643 $ 24,491 The amortized cost of total held-to-maturity (“HTM”) and AFS investment securities increased $3.6 billion, or 15%, from December 31, 2021. Approximately 9% and 11% of the total HTM and AFS investment securities portfolio were floating rate at March 31, 2022 and December 31, 2021, respectively. The investment securities portfolio includes $437 million of net premium that is distributed across various asset classes. Total premium amortization for our investment securities was $26 million for the first quarter of 2022, compared with $28 million for the same prior year period. Refer to the “Capital Management” section on page 32 and Note 5 of the Notes to Consolidated Financial Statements for more discussion on our investment securities portfolio and related unrealized gains/losses. At March 31, 2022, based on the GAAP fair value hierarchy, 1.9% and 98.1% of the $26.1 billion AFS securities portfolio was valued at Level 1 and Level 2, respectively, compared with 0.6% and 99.4% at December 31, 2021. None of the AFS securities portfolio was valued at Level 3 for either period. See Note 3 of the Notes to Consolidated Financial Statements for further discussion of fair value accounting. Municipalities We provide products and services to state and local governments (referred to collectively as “municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. The following schedule summarizes our exposure to state and local municipaliti EXPOSURE TO MUNICIPALITIES (In millions) March 31, 2022 December 31, 2021 Loans and leases $ 3,944 $ 3,658 Held-to-maturity – municipal securities 439 441 Available-for-sale – municipal securities 1,768 1,694 Trading account – municipal securities 364 355 Unfunded lending commitments 341 280 Total direct exposure to municipalities $ 6,856 $ 6,428 The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. Our municipal loans and securities primarily relate to municipalities located within our geographic footprint. 17 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION At March 31, 2022, no municipal loans were on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At March 31, 2022, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. Loan and Lease Portfolio At March 31, 2022 and December 31, 2021, the ratio of loans and leases to total assets was 56% and 55%, respectively. The largest loan category was commercial and industrial loans, which constituted 28% and 27% of our total loan portfolio for the same periods. The following schedule presents our loans and leases according to major portfolio segment, specific loan class, and percentage of total loa LOAN AND LEASE PORTFOLIO March 31, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 14,356 28.0 % $ 13,867 27.3 % PPP 1,081 2.1 1,855 3.6 Leasing 318 0.6 327 0.6 Owner-occupied 9,026 17.6 8,733 17.2 Municipal 3,944 7.7 3,658 7.2 Total commercial 28,725 56.0 28,440 55.9 Commercial real estate: Construction and land development 2,769 5.4 2,757 5.4 Term 9,325 18.2 9,441 18.6 Total commercial real estate 12,094 23.6 12,198 24.0 Consume Home equity credit line 3,089 6.0 3,016 5.9 1-4 family residential 6,122 12.0 6,050 11.9 Construction and other consumer real estate 692 1.4 638 1.3 Bankcard and other revolving plans 410 0.8 396 0.8 Other 110 0.2 113 0.2 Total consumer 10,423 20.4 10,213 20.1 Total net loans and leases $ 51,242 100.0 % $ 50,851 100.0 % The loan and lease portfolio increased $391 million from December 31, 2021. Excluding PPP loans, commercial loans increased $1.1 billion, or 4%, driven largely by increases in commercial and industrial loans, owner-occupied loans, and municipal loans of $489 million, $293 million, and $286 million, respectively. Consumer loans increased $210 million, primarily due to increases in home equity credit lines, 1-4 family residential loans, and construction and other consumer real estate loans. 18 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Other Noninterest-Bearing Investments Other noninterest-bearing investments are equity investments that are held primarily for capital appreciation, dividends, or for certain regulatory requirements. The following schedule summarizes our related investments: OTHER NONINTEREST-BEARING INVESTMENTS (Dollar amounts in millions) March 31, 2022 December 31, 2021 Amount change Percent change Bank-owned life insurance $ 538 $ 537 $ 1 — % Federal Home Loan Bank stock 11 11 — — Federal Reserve stock 71 81 (10) (12) Farmer Mac stock 19 19 — — SBIC investments 165 179 (14) (8) Other 25 24 1 4 Total other noninterest-bearing investments $ 829 $ 851 $ (22) (3) % Total other noninterest-bearing investments decreased $22 million, or 3%, during the first three months of 2022, primarily due to a $14 million decrease in the value of our SBIC investments. This decrease was driven largely by $17 million of negative mark-to-market adjustments primarily related to our investment in Recursion Pharmaceuticals, Inc. Premises, Equipment, and Software Net premises, equipment, and software increased $27 million, or 2%, from December 31, 2021, primarily due to capitalized costs related to the construction of a new corporate technology center in Midvale, Utah and a new corporate center for Vectra in Denver, Colorado. Both facilities are expected to be completed in mid- to late-2022. We are also in the final phase of a three-phase project to replace our core loan and deposit banking systems, and are on track to convert our deposit servicing system in 2023. Capitalized costs associated with the core system replacement project generally carry a useful life of ten years, and are summarized in the following schedule. CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT March 31, 2022 (In millions) Phase 1 Phase 2 Phase 3 Total Total amount of capitalized costs, less accumulated depreciation $ 36 $ 62 $ 166 $ 264 Deposits Deposits are a primary funding source. The following schedule presents our deposits by category and percentage of total deposits: DEPOSITS March 31, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Noninterest-bearing demand $ 41,937 50.9 % $ 41,053 49.6 % Interest-bearin Savings and money market 38,864 47.2 40,114 48.4 Time 1,550 1.9 1,622 2.0 Total deposits $ 82,351 100.0 % $ 82,789 100.0 % Total deposits decreased $0.4 billion, or 1%, from December 31, 2021, primarily due to a $1.3 billion decrease in interest-bearing deposits, partially offset by a $0.9 billion increase in noninterest-bearing deposits. Total deposits included $377 million and $381 million of brokered deposits for March 31, 2022 and December 31, 2021, 19 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION respectively. See “Liquidity Risk Management” on page 31 for additional information on funding and borrowed funds. Total U.S. time deposits that exceed the current Federal Deposit Insurance Corporation (“FDIC”) insurance limit of $250,000 were $526 million and $563 million at March 31, 2022 and December 31, 2021, respectively. The estimated total amount of uninsured deposits, including related interest accrued and unpaid, was $48 billion and $49 billion at March 31, 2022 and December 31, 2021, respectively. RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We employ various strategies to reduce the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cyber risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by the various management committees of which the Enterprise Risk Management Committee is the focal point. For a more comprehensive discussion of these risks, see “Risk Factors” in our 2021 Form 10-K. Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. For a more comprehensive discussion of our credit risk management, see “Credit Risk Management” in our 2021 Form 10-K. U.S. Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by U.S. government agencies, such as the SBA, Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At March 31, 2022, $1.5 billion of related loans were guaranteed, primarily by the SBA, and include $1.1 billion of PPP loans. The following schedule presents the composition of U.S. government agency guaranteed loans. U.S. GOVERNMENT AGENCY GUARANTEED LOANS (Dollar amounts in millions) March 31, 2022 Percent guaranteed December 31, 2021 Percent guaranteed Commercial $ 1,630 92 % $ 2,410 95 % Commercial real estate 22 73 22 73 Consumer 4 100 5 100 Total loans $ 1,656 92 % $ 2,437 94 % 20 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. COMMERCIAL LENDING BY INDUSTRY GROUP 1 March 31, 2022 December 31, 2021 (Dollar amounts in millions) Amount Percent Amount Percent Retail trade $ 2,604 9.1 % $ 2,412 8.5 % Real estate, rental and leasing 2,550 8.9 2,536 8.9 Finance and insurance 2,407 8.4 2,303 8.1 Manufacturing 2,369 8.2 2,374 8.3 Healthcare and social assistance 2,362 8.2 2,349 8.2 Public Administration 2,203 7.7 1,959 6.9 Wholesale trade 1,777 6.2 1,701 6.0 Utilities 2 1,462 5.1 1,446 5.1 Construction 1,404 4.9 1,456 5.1 Hospitality and food services 1,262 4.4 1,353 4.8 Transportation and warehousing 1,229 4.3 1,273 4.5 Other Services (except Public Administration) 1,190 4.1 1,213 4.2 Educational services 1,155 4.0 1,163 4.1 Mining, quarrying, and oil and gas extraction 1,141 4.0 1,185 4.2 Professional, scientific, and technical services 1,059 3.7 1,084 3.8 Other 3 2,551 8.8 2,633 9.3 Total $ 28,725 100.0 % $ 28,440 100.0 % 1 Industry groups are determined by North American Industry Classification System (NAICS) codes. 2 Includes primarily utilities, power, and renewable energy. 3 No other industry group exceeds 2.6%. 21 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Commercial Real Estate Loans The following schedule presents credit quality information for our commercial real estate (“CRE”) loan portfolio segmented by real estate category and collateral location. COMMERCIAL REAL ESTATE PORTFOLIO BY LOAN TYPE AND COLLATERAL LOCATION (Dollar amounts in millions) Collateral Location Loan type As of date Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total % of total CRE Commercial term Balance outstanding 3/31/2022 $ 1,109 $ 3,069 $ 479 $ 675 $ 1,601 $ 1,544 $ 492 $ 356 $ 9,325 77.1 % % of loan type 11.9 % 32.9 % 5.1 % 7.2 % 17.2 % 16.6 % 5.3 % 3.8 % 100.0 % Delinquency rates 2 : 30-89 days 3/31/2022 — % — % — % — % — % — % — % — % — % 12/31/2021 — % 0.2 % 0.2 % — % — % 0.1 % — % — % 0.1 % ≥ 90 days 3/31/2022 — % — % — % — % 0.2 % — % — % 0.3 % — % 12/31/2021 — % 0.1 % — % — % 0.2 % — % — % — % 0.1 % Accruing loans past due 90 days or more 3/31/2022 $ — $ — $ — $ — $ — $ — $ — $ 1 $ 1 12/31/2021 — — — — — — — — — Nonaccrual loans 3/31/2022 $ — $ 4 $ — $ — $ 16 $ — $ — $ — $ 20 12/31/2021 — 3 — — 17 — — — 20 Commercial construction and land development Balance outstanding 3/31/2022 $ 224 $ 456 $ 108 $ 119 $ 463 $ 518 $ 174 $ 42 $ 2,104 17.4 % % of loan type 10.7 % 21.7 % 5.2 % 5.7 % 21.9 % 24.6 % 8.3 % 1.9 % 100.0 % Delinquency rates 2 : 30-89 days 3/31/2022 — % 0.2 % — % — % — % — % — % — % — % 12/31/2021 — % — % — % — % — % — % 13.2 % — % 0.9 % Residential construction and land development 3 Balance outstanding 3/31/2022 $ 55 $ 146 $ 34 $ 3 $ 199 $ 181 $ 9 $ 38 $ 665 5.5 % % of loan type 8.3 % 21.9 % 5.2 % 0.4 % 30.0 % 27.2 % 1.3 % 5.7 % 100.0 % Total construction and land development 3/31/2022 $ 279 $ 602 $ 142 $ 122 $ 662 $ 699 $ 183 $ 80 $ 2,769 Total commercial real estate 3/31/2022 $ 1,388 $ 3,671 $ 621 $ 797 $ 2,263 $ 2,243 $ 675 $ 436 $ 12,094 100.0 % 1 No other geography exceeds $62 million for all three loan types. 2 Delinquency rates include nonaccrual loans. 3 At March 31, 2022 and December 31, 2021, there was no meaningful delinquency or nonaccrual activity for residential construction and land development loans. At March 31, 2022, our CRE construction and land development and term loan portfolios represented approximately 24% of the total loan portfolio. The majority of our CRE loans are secured by real estate, which is primarily located within our geographic footprint. Approximately 21% of the CRE loan portfolio matures in the next 12 months. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with one- to five-year extension options or roll-to-perm options that often result in term debt. Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and non-recourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. Approximately $176 million, or 6%, of the commercial construction and land development portfolio at March 31, 2022 consists of acquisition and development loans. Most of these land acquisition and development loans are secured by specific retail, apartment, office, or other projects. For a more comprehensive discussion of CRE loans, see the “Commercial Real Estate Loans” section in our 2021 Form 10-K. 22 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Consumer Loans We generally originate first-lien residential home mortgages considered to be of prime quality. We generally hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. We also originate home equity credit lines (“HECL”). At March 31, 2022 and December 31, 2021, our HECL portfolio totaled $3.1 billion and $3.0 billion, respectively. The following schedule presents the composition of our HECL portfolio by lien status. HECL PORTFOLIO BY LIEN STATUS (In millions) March 31, 2022 December 31, 2021 Secured by first liens $ 1,497 $ 1,503 Secured by second (or junior) liens 1,592 1,513 Total $ 3,089 $ 3,016 At March 31, 2022, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with high credit scores. Approximately 91% of our HECL portfolio is still in the draw period, and approximately 18% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is minimal. The ratio of HECL net charge-offs for the trailing twelve months to average balances at March 31, 2022 and December 31, 2021 was 0.00% and (0.01)%, respectively. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of the HECL portfolio. Nonperforming Assets Nonperforming assets as a percentage of loans and leases and other real estate owned (“OREO”) decreased to 0.49% at March 31, 2022, compared with 0.53% at December 31, 2021. Total nonaccrual loans at March 31, 2022 decreased to $252 million from $271 million at December 31, 2021, reflecting credit quality improvements across most of our loan portfolios. The balance of nonaccrual loans can decrease due to paydowns, charge-offs, and the return of loans to accrual status under certain conditions. If a nonaccrual loan is refinanced or restructured, the new note is immediately placed on nonaccrual. If a restructured loan performs under the new terms for at least a period of six months, the loan can be considered for return to accrual status. See “Restructured Loans” and Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. 23 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents our nonperforming assets: NONPERFORMING ASSETS (Dollar amounts in millions) March 31, 2022 December 31, 2021 Nonaccrual loans 1 $ 252 $ 271 Other real estate owned 2 — 1 Total nonperforming assets $ 252 $ 272 Ratio of nonperforming assets to net loans and leases 1 and other real estate owned 2 0.49 % 0.53 % Accruing loans past due 90 days or more $ 3 $ 8 Ratio of accruing loans past due 90 days or more to loans and leases 1 0.01 % 0.02 % Nonaccrual loans and accruing loans past due 90 days or more $ 255 $ 279 Ratio of nonperforming assets 1 and accruing loans past due 90 days or more to loans and leases 1 and other real estate owned 2 0.50 % 0.55 % Accruing loans past due 30-89 days 3 $ 93 $ 70 Nonaccrual loans 1 current as to principal and interest payments 70.2 % 67.2 % 1 Includes loans held for sale. 2 Does not include banking premises held for sale. 3 Includes $26 million and $35 million of PPP loans at March 31, 2022 and December 31, 2021, respectively, which we expect will be paid in full by either the borrower or the SBA. Troubled Debt Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are classified as troubled debt restructurings (“TDRs”). TDRs totaled $316 million at March 31, 2022, compared with $326 million at December 31, 2021. Modifications that qualified for applicable accounting and regulatory exemption for borrowers experiencing financial difficulties exclusively related to the COVID-19 pandemic were not classified and reported as TDRs. If the restructured loan performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the restructuring is taken into account to determine whether a loan should be returned to accrual status. ACCRUING AND NONACCRUING TROUBLED DEBT RESTRUCTURED LOANS (In millions) March 31, 2022 December 31, 2021 Restructured loans – accruing $ 216 $ 221 Restructured loans – nonaccruing 100 105 Total $ 316 $ 326 In the periods following the calendar year in which a loan was restructured, a loan may no longer be reported as a TDR if it is on accrual, is in compliance with its modified terms, and yields a market rate (as determined and documented at the time of the modification or restructure). See Note 6 of the Notes to Consolidated Financial Statements for additional information regarding TDRs. 24 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION TROUBLED DEBT RESTRUCTURED LOANS ROLLFORWARD Three Months Ended March 31, (In millions) 2022 2021 Balance at beginning of period $ 326 $ 311 New identified TDRs and principal increases 12 120 Payments and payoffs (20) (14) Charge-offs (1) (2) No longer reported as TDRs — — Sales and other (1) (1) Balance at end of period $ 316 $ 414 Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. 25 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule shows the changes in the ACL and a summary of credit loss experien SUMMARY OF CREDIT LOSS EXPERIENCE (Dollar amounts in millions) Three Months Ended March 31, 2022 Twelve Months Ended December 31, 2021 Three Months Ended March 31, 2021 Loans and leases outstanding $ 51,242 $ 50,851 $ 53,472 Average loans and leases outstandin Commercial - excluding PPP loans 27,037 25,014 24,732 Commercial - PPP loans 1,459 4,566 6,135 Commercial real estate 12,171 12,136 12,133 Consumer 10,266 10,267 10,665 Total average loans and leases outstanding $ 50,933 $ 51,983 $ 53,665 Allowance for loan and lease loss Balance at beginning of period $ 513 $ 777 $ 777 Provision for loan losses (29) (258) (123) Charge-offs: Commercial 13 35 18 Commercial real estate — — — Consumer 4 13 3 Total 17 48 21 Recoveri Commercial 8 29 10 Commercial real estate — 3 — Consumer 3 10 3 Total 11 42 13 Net loan and lease charge-offs 6 6 8 Balance at end of period $ 478 $ 513 $ 646 Reserve for unfunded lending commitments: Balance at beginning of period $ 40 $ 58 $ 58 Provision for unfunded lending commitments (4) (18) (9) Balance at end of period $ 36 $ 40 $ 49 Total allowance for credit loss Allowance for loan and lease losses $ 478 $ 513 $ 646 Reserve for unfunded lending commitments 36 40 49 Total allowance for credit losses $ 514 $ 553 $ 695 Ratio of allowance for credit losses to net loans and leases, at period end 1 1.00 % 1.09 % 1.30 % Ratio of allowance for credit losses to nonaccrual loans, at period end 204 % 204 % 215 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, at period end 202 % 198 % 209 % Ratio of total net charge-offs to average loans and leases 2, 3 0.05 % 0.01 % 0.06 % Ratio of commercial net charge-offs to average commercial loans 3 0.07 % 0.02 % 0.10 % Ratio of commercial real estate net charge-offs to average commercial real estate loans 3 — % (0.02) % — % Ratio of consumer net charge-offs to average consumer loans 3 0.04 % 0.03 % — % 1 The ratio of allowance for credit losses to net loans and leases (excluding PPP loans) was 1.02% at March 31, 2022, 1.13% at December 31, 2021, and 1.48% at March 31, 2021. 2 The annualized ratio of net charge-offs to average loans and leases (excluding PPP loans) was 0.05% at March 31, 2022, 0.01% at December 31, 2021, and 0.07% at March 31, 2021. 3 Ratios are annualized for the periods presented except for the period representing the full twelve months. 26 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The total ACL decreased to $514 million during the first three months of 2022, primarily due to improvements in economic forecasts and overall credit quality, partially offset by economic uncertainty caused by inflation, supply chain disruptions, and the conflict in Eastern Europe. The RULC represents a reserve for potential losses associated with off-balance sheet commitments and standby letters of credit, and decreased $4 million during the first quarter of 2022. The reserve is separately recorded on the consolidated balance sheet in “Other liabilities,” and any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. As a financial institution that engages in transactions involving various financial products, we are exposed to both interest rate risk and market risk. For a more comprehensive discussion of our interest rate and market risk management, see “Interest Rate and Market Risk Management” in our 2021 Form 10-K. Interest Rate Risk Average total deposits increased $10.2 billion, or 14%, from March 31, 2021, and a significant portion of the deposits were invested in fixed-rate AFS securities, resulting in decreased asset sensitivity to rising rates. The lower asset sensitivity to rising rates is dependent upon the assumptions we used for deposit runoff and repricing behavior, which is more uncertain given the higher level of new deposits. We are less asset-sensitive to declining rates than rising rates due to the limited amount that the spread between the cost of deposits and the yield on money market investments could compress. The following schedule presents derivatives utilized in our asset-liability management activities that are designated in qualifying hedging relationships at March 31, 2022. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each category of cash flow and fair value hedge. See Note 7 of the Notes to Consolidated Financial Statements for additional information regarding the impact of these hedging relationships on interest income and expense. 27 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2022 2023 2024 2Q24 - 1Q25 2Q25 - 1Q26 (Dollar amounts in millions) Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Cash flow hedges Cash flow asset hedges 1 Average outstanding notional $ 3,378 $ 4,183 $ 4,916 $ 4,850 $ 4,683 $ 4,383 $ 4,383 $ 4,250 $ 3,604 $ 2,150 Weighted-average fixed-rate received 1.33 % 1.30 % 1.31 % 1.31 % 1.29 % 1.18 % 1.18 % 1.14 % 1.08 % 1.14 % 2022 4 2023 2024 2025 2026 2027 2028 2029 2030 2031 Fair value hedges Fair value debt hedges 2 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — Weighted-average fixed-rate received 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % — % — % Fair value asset hedges 3 Average outstanding notional $ 590 $ 589 $ 863 $ 978 $ 985 $ 983 $ 981 $ 978 $ 976 $ 972 Weighted-average fixed-rate paid 1.32 % 1.32 % 1.50 % 1.56 % 1.57 % 1.57 % 1.57 % 1.57 % 1.57 % 1.57 % 1 Cash flow hedges consist of receive-fixed swaps hedging pools of floating-rate loans. Increases in the average outstanding notional are due to forward-starting interest rate swaps. 2 Fair value debt hedges consist of receive-fixed swaps hedging fixed-rate debt. The $500 million fair value debt hedge matures at the end of July 2029. 3 Fair value assets hedges consist of pay-fixed swaps hedging AFS fixed-rate securities. Increases in average outstanding notional are due to forward-starting interest rate swaps. 4 Represents the remaining three quarters of 2022. Under most rising interest rate environments, we expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. Our models are particularly sensitive to the assumption about the rate of such migration. In addition, we assume a correlation, often referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-on-checking accounts are assumed to have a lower correlation. Actual results may differ materially due to factors including the shape of the yield curve, competitive pricing, money supply, our credit worthiness, and so forth; however, we use our historical experience as well as industry data to inform our assumptions. The migration and correlation assumptions previously discussed result in deposit durations presented in the following schedu DEPOSIT ASSUMPTIONS March 31, 2022 Product Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 2.8 % 2.9 % Money market 1.8 % 1.8 % Savings and interest-on-checking 2.6 % 2.4 % With interest rates forecast to rise more, the effective duration of deposits has shortened due to higher expected runoff and/or migration to more rate-sensitive deposit products. Incorporating the assumptions previously discussed, the following schedule presents earnings at risk (“EaR”), or percentage change in net interest income, and our estimated percentage change in economic value of equity 28 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION (“EVE”); both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY March 31, 2022 December 31, 2021 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Earnings at Risk (EaR) (4.8) % — % 7.9 % 15.9 % 23.7 % (5.2) % — % 11.2 % 22.7 % 33.6 % Economic Value of Equity (EVE) 8.7 % — % (3.4) % (5.5) % (7.0) % 20.9 % — % 0.8 % (0.5) % (1.2) % 1 Assumes rates cannot go below zero in the negative rate shift. For interest-bearing deposits with indeterminate maturity, the weighted average modeled beta is 26%. If the weighted average deposit beta were to increase to 37%, the EaR in the +100 bps rate shock would change from 7.9% to 6.0%. The asset sensitivity, as measured by EaR, decreased during the first quarter of 2022, primarily due to (1) an increase in fixed-rate investment securities and receive-fixed interest rate swaps, (2) model tuning, and (3) a higher level of “base-case” net interest income, which reduced the percentage change for the same modeled dollar change in net interest income. Our base-case net interest income simulation for the first quarter of 2023 indicates a 15% increase in net interest income, compared with the results for the first quarter of 2022 (ex-PPP). This base-case simulation assumes a static balance sheet and an unchanged interest rate curve at March 31, 2022. The modeled increase is notably larger than it was at December 31, 2021, primarily due to active balance sheet management during the first quarter of 2022, as well as a steeper yield curve at March 31, 2022, when compared with December 31, 2021. We disclose asset sensitivity to parallel rate shocks, but interest rates rarely change in a parallel fashion. During the first quarter of 2022, medium- to long-term rates moved significantly, whereas short-term rate movements were muted. Net interest income in the base-case simulation benefited from longer-term rate increases, and if short-term rates increase as implied by forward rates, we anticipate corresponding increases in net interest income from the base case. As described previously, the EaR analysis focuses on parallel rate shocks across the term structure of benchmark interest rates. In a non-parallel rate scenario where the overnight rate increases 200 bps, but the ten-year rate increases only 30 bps, the increase in EaR is modeled to be approximately two-thirds of the change associated with the parallel +200 bps rate change. In the -100 bps rate shock, our models indicate that EVE would increase because we cap the value of our indeterminate deposits at their par value, or equivalently, we assume no premium would be required to dispose of these liabilities because depositors could be repaid at par. Since our assets increase in value as rates fall, and the majority of our liabilities are indeterminate deposits, EVE would increase disproportionately. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At March 31, 2022, $23 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. Of these variable-rate loans, approximately 99% are tied to either the prime rate, London Interbank Offered Rate (“LIBOR”), Secured Overnight Financing Rate (“SOFR”), or American Interbank Offered Rate (“AMERIBOR”). For these variable-rate loans, we have executed $3.3 billion of cash flow hedges by receiving fixed rates on interest rate swaps. Additionally, asset sensitivity is reduced due to $5 billion of variable-rate commercial and CRE loans being priced at floored rates at March 31, 2022, which were above the “index plus spread” rate by an average of 42 bps. At March 31, 2022, we also had $3 billion of variable-rate consumer loans scheduled to reprice in the next six months, and approximately $1 billion were priced at floored 29 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION rates, which were above the “index plus spread” rate by an average of 29 bps. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. LIBOR Exposure LIBOR is being phased out globally, and U.S. banking regulators instructed banks to cease entering into new lending arrangements using LIBOR no later than December 31, 2021, and migrate to alternative reference rates no later than June 2023. To facilitate the transition process, we instituted an enterprise-wide program to identify, assess, and monitor risks associated with the expected discontinuance or unavailability of LIBOR, which includes active engagement with industry working groups and regulators. This program also includes active involvement of senior management with regular engagement from the Enterprise Risk Management Committee, and seeks to minimize client and internal business operational impacts, while providing reporting transparency, consistency, and a central governance model that aligns with accounting and regulatory guidance. We have implemented processes, procedures, and systems to ensure contract risk is sufficiently mitigated. New originations, and any modifications or renewals of LIBOR-based contracts, contain fallback language to facilitate transition to an alternative reference rate. For our contracts that referenced LIBOR and had a duration beyond December 31, 2021, all fallback provisions and variations were identified and classified based upon those provisions. By the end of 2021, we had discontinued substantially all new originations referencing LIBOR. We have a significant number of assets and liabilities that reference LIBOR. At March 31, 2022, we had approximately $30 billion in loans (mainly commercial loans), unfunded lending commitments, and securities referencing LIBOR. The amount of borrowed funds referencing LIBOR at March 31, 2022 was less than $1 billion. These amounts exclude derivative assets and liabilities on the consolidated balance sheet. At March 31, 2022, the notional amount of our LIBOR-referenced interest rate derivative contracts was more than $13 billion, of which more than $12 billion related to contracts with central counterparty clearinghouses. The adoption of alternative reference rates continues to evolve in the marketplace. We are positioned to support our customers’ needs by accommodating multiple alternative reference rates, including the Constant Maturity Treasury rate (“CMT”), the Federal Home Loan Bank (“FHLB”) rate, AMERIBOR, SOFR, and the Bloomberg Short Term Bank Yield Index (“BSBY”). During the first quarter of 2022, we began to prompt our customers to either voluntarily modify their contracts and migrate to a reference rate other than LIBOR no later than June 2023, or be subject to the fallback provisions in their contracts. Voluntary modifications are expected to qualify for the available Tax Safe-Harbor provisions as allowed by Internal Revenue Service (“IRS”) guidance. We expect that customers who voluntarily migrate to an alternative reference rate will do so by the end of this year, and we expect the remaining customers to move to an alternative rate index in accordance with the relevant fallback provisions in their contracts prior to June 2023. For more information on the transition from LIBOR, see Risk Factors in our 2021 Form 10-K. Market Risk – Fixed Income We underwrite municipal and corporate securities. We also trade municipal, agency, and treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. At March 31, 2022, we had $382 million of trading assets and $101 million of securities sold, not yet purchased, compared with $372 million and $254 million at December 31, 2021, respectively. We are exposed to market risk through changes in fair value. This includes market risk for interest rate swaps used to hedge interest rate risk. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in accumulated other comprehensive income (“AOCI”) for each financial reporting period. During the first quarter of 2022, the after-tax change in AOCI attributable to AFS securities decreased by $1.1 billion, due largely to changes in the interest rate environment, compared with a $164 million decrease in the prior year period. 30 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Market Risk – Equity Investments We hold both direct and indirect investments in predominantly pre-public companies, primarily through various SBIC venture capital funds as a strategy to provide beneficial financing, growth, and expansion opportunities to diverse businesses generally in communities within our geographic footprint. Our equity exposure to these investments was $165 million and $179 million at March 31, 2022 and December 31, 2021, respectively. On occasion, some of the companies within our SBIC investment may issue an initial public offering (“IPO”). In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce additional market risk. See Note 3 of our 2021 Form 10-K for additional information regarding the valuation of our SBIC investments. Liquidity Risk Management Overview Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as marketable loans and investment securities. For a more comprehensive discussion of our liquidity risk management, see “Liquidity Risk Management” in our 2021 Form 10-K. Strong deposit growth over the past year has contributed to a solid overall liquidity position. At March 31, 2022, our investment securities portfolio of $27.0 billion and cash and money market investments of $8.1 billion, collectively comprised 39% of total assets, compared with $24.9 billion of investment securities, and $13.0 billion of cash and money market investments, collectively comprising 41% of total assets at December 31, 2021. Given our investment securities portfolio is predominantly comprised of securities for which a strong repurchase market exists, we believe we can readily convert securities to cash to support loan growth through repurchase agreements rather than sales. Liquidity Management Actions During the first quarter of 2022, the primary sources of cash came from a significant decrease in money market investments, and net cash provided by operating activities. Uses of cash during the quarter included primarily an increase in investment securities, redemption of long-term debt, and a decrease in short-term borrowings. Cash payments for interest, reflected in operating expenses, were $11 million and $22 million for the first three months of 2022 and 2021, respectively. Total deposits were $82.4 billion at March 31, 2022, compared with $82.8 billion at December 31, 2021. The decrease in deposits was primarily due to a $1.3 billion decrease in savings and money market deposits, partially offset by a $0.9 billion increase in noninterest-bearing demand deposits. Our core deposits, consisting of noninterest-bearing demand deposits, savings and money market deposits, and time deposits under $250,000, were $81.5 billion at March 31, 2022, compared with $81.9 billion at December 31, 2021. At March 31, 2022, our loan to total deposit ratio remained relatively stable at 62%, compared with 61% at December 31, 2021. 31 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Our credit ratings are presented in the following schedu CREDIT RATINGS as of April 30, 2022: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Stable BBB+ BBB NR Fitch Stable BBB+ BBB F1 Moody's Stable Baa1 NR NR The FHLB system and Federal Reserve Banks have been, and continue to be, a significant source of back-up liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against their eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and Federal Reserve stock to maintain our borrowing capacity. At March 31, 2022, our total investment in FHLB and Federal Reserve stock was $11 million and $71 million, respectively, compared with $11 million and $81 million at December 31, 2021. The amount available for additional FHLB and Federal Reserve borrowings was $18.6 billion at March 31, 2022, compared with $18.3 billion at December 31, 2021. Loans with a carrying value of approximately $26.8 billion at both March 31, 2022 and December 31, 2021, were pledged at the FHLB and the Federal Reserve as collateral for potential borrowings. At both March 31, 2022 and December 31, 2021, we had no FHLB or Federal Reserve borrowings outstanding. Our AFS investment securities are primarily held as a source of contingent liquidity. We target securities that can be easily turned into cash through repurchase agreements or sales, and whose liquidity value remains relatively stable during market disruptions. We manage our short-term funding needs through secured borrowing with the securities pledged as collateral. During the first quarter of 2022, our AFS securities balances increased $2.1 billion. Total borrowed funds decreased $588 million during the first quarter of 2022, primarily due to the redemption of $290 million of the 4-year, 3.35% senior notes. The decrease in overall borrowed funds continues to reflect strong deposit growth. We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. Capital Management Overview A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. Our capital management objectives inclu (1) consistently improving risk-adjusted returns on our shareholders' capital and appropriately managing capital distributions, (2) maintaining sufficient capital to support the current needs and growth of our businesses, and (3) fulfilling responsibilities to depositors and bondholders. We continue to utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the Federal Reserve Board (“FRB”). The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as Board and Office of the Comptroller of the Currency (“OCC”) approval. Shares may be repurchased occasionally in the open market or through privately 32 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION negotiated transactions. For a more comprehensive discussion of our capital risk management, see “Capital Management” in our 2021 Form 10-K. SHAREHOLDERS' EQUITY (In millions, except share data) March 31, 2022 December 31, 2021 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 440 $ — — % Common stock and additional paid-in capital 1,889 1,928 (39) (2) Retained earnings 5,311 5,175 136 3 Accumulated other comprehensive income (loss) (1,346) (80) (1,266) NM Total shareholders' equity $ 6,294 $ 7,463 $ (1,169) (16) % Total shareholders’ equity decreased $1.2 billion, or 16%, to $6.3 billion at March 31, 2022, compared with $7.5 billion at December 31, 2021. Common stock and additional paid-in capital decreased $39 million, primarily due to common stock repurchases. AOCI decreased to a loss of $1.3 billion, primarily due to decreases in the fair value of fixed-rate AFS securities as a result of changes in interest rates. These unrealized losses will not be recognized unless we sell the securities. We have not initiated any sales of AFS securities, nor do we currently intend to sell any identified securities with unrealized losses. Additionally, changes in AOCI do not impact our regulatory capital ratios. Refer to Note 5 of the Notes to Consolidated Financial Statements for more discussion on our investment securities portfolio and their unrealized gains/losses. Weighted average diluted shares outstanding decreased 12.2 million from the same prior year period, primarily due to common stock repurchases. During the first quarter of 2022, we repurchased 0.8 million common shares outstanding for $50 million. In April 2022, the Board approved a plan to repurchase up to $50 million of common shares outstanding during the second quarter of 2022. CAPITAL DISTRIBUTIONS (In millions, except share data) March 31, 2022 March 31, 2021 Capital distributio Preferred dividends paid $ 8 $ 8 Bank preferred stock redeemed — — Total capital distributed to preferred shareholders 8 8 Common dividends paid 58 56 Bank common stock repurchased 1 51 50 Total capital distributed to common shareholders 109 106 Total capital distributed to preferred and common shareholders $ 117 $ 114 Weighted average diluted common shares outstanding (in thousands) 151,687 163,887 Common shares outstanding, at period end (in thousands) 151,348 163,800 1 Includes amounts related to the common shares acquired from our publicly announced plans and those acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. Under the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. At March 31, 2022, we had $1.3 billion of retained net profits available for distribution. 33 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION We paid common dividends of $58 million, or $0.38 per share, during the first quarter of 2022. In April 2022, the Board declared a regular quarterly dividend of $0.38 per common share, payable on May 26, 2022, to shareholders of record on May 19, 2022. We also paid dividends on preferred stock of $8 million during the first quarter of 2022. See Note 9 for additional information about our capital management actions. Basel III We are subject to Basel III capital requirements to maintain adequate levels of capital as measured by several regulatory capital ratios. At March 31, 2022, we met all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. The following schedule presents our capital and other performance ratios. CAPITAL RATIOS March 31, 2022 December 31, 2021 March 31, 2021 Tangible common equity ratio 1 5.4 % 6.5 % 7.6 % Tangible equity ratio 1 5.9 7.0 8.2 Average equity to average assets (three months ended) 7.8 8.3 9.5 Basel III risk-based capital ratios: Common equity tier 1 capital 10.0 10.2 11.2 Tier 1 leverage 7.3 7.2 8.3 Tier 1 risk-based 10.8 10.9 12.2 Total risk-based 12.5 12.8 14.5 Return on average common equity (three months ended) 11.8 11.5 17.4 Return on average tangible common equity (three months ended) 1 13.9 13.4 20.2 1 See “GAAP to Non-GAAP Reconciliations” on page 4 for more information regarding these ratios. Our regulatory tier 1 risk-based capital and total risk-based capital was $6.6 billion and $7.7 billion at March 31, 2022, compared with $6.5 billion and $7.7 billion, respectively, at December 31, 2021. See the “Supervision and Regulation” section and Note 15 of the Notes to Consolidated Financial Statements of our 2021 Form 10-K for more information about our compliance with the Basel III capital requirements. Deposit-driven balance sheet growth over the past year has resulted in a modest reduction in our risk-weighted regulatory capital ratios, and a larger reduction in our Tier 1 leverage ratio, as the denominator for this ratio is not adjusted for risk. As a result, our Tier 1 leverage ratio declined to 7.3% at March 31, 2022, from 8.3% at March 31, 2021. 34 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ITEM 1. FINANCIAL STATEMENTS (Unaudited) CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) March 31, 2022 December 31, 2021 (Unaudited) ASSETS Cash and due from banks $ 700 $ 595 Money market investments: Interest-bearing deposits 5,093 10,283 Federal funds sold and security resell agreements 2,345 2,133 Investment securiti Held-to-maturity, at amortized cost (included $ 414 and $ 443 at fair value ) 439 441 Available-for-sale, at fair value 26,145 24,048 Trading account, at fair value 382 372 Total securities 26,966 24,861 Loans held for sale 43 83 Loans and leases, net of unearned income and fees 51,242 50,851 Less allowance for loan and lease losses 478 513 Loans held for investment, net of allowance 50,764 50,338 Other noninterest-bearing investments 829 851 Premises, equipment and software, net 1,346 1,319 Goodwill and intangibles 1,015 1,015 Other real estate owned 4 8 Other assets 2,021 1,714 Total assets $ 91,126 $ 93,200 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 41,937 $ 41,053 Interest-bearin Savings and money market 38,864 40,114 Time 1,550 1,622 Total deposits 82,351 82,789 Federal funds purchased and other short-term borrowings 638 903 Long-term debt 689 1,012 Reserve for unfunded lending commitments 36 40 Other liabilities 1,118 993 Total liabilities 84,832 85,737 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 440 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 151,348 and 151,625 shares) and additional paid-in capital 1,889 1,928 Retained earnings 5,311 5,175 Accumulated other comprehensive income (loss) ( 1,346 ) ( 80 ) Total shareholders’ equity 6,294 7,463 Total liabilities and shareholders’ equity $ 91,126 $ 93,200 See accompanying notes to consolidated financial statements. 35 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF INCOME (Unaudited) Three Months Ended March 31, (In millions, except shares and per share amounts) 2022 2021 Interest income: Interest and fees on loans $ 437 $ 488 Interest on money market investments 6 3 Interest on securities 112 71 Total interest income 555 562 Interest expense: Interest on deposits 6 9 Interest on short- and long-term borrowings 5 8 Total interest expense 11 17 Net interest income 544 545 Provision for credit loss Provision for loan and lease losses ( 29 ) ( 123 ) Provision for unfunded lending commitments ( 4 ) ( 9 ) Total provision for credit losses ( 33 ) ( 132 ) Net interest income after provision for credit losses 577 677 Noninterest income: Commercial account fees 41 32 Card fees 25 21 Retail and business banking fees 20 17 Loan-related fees and income 22 25 Capital markets and foreign exchange fees 15 15 Wealth management fees 14 12 Other customer-related fees 14 11 Customer-related noninterest income 151 133 Fair value and nonhedge derivative gain 6 18 Dividends and other investment income 2 7 Securities gains (losses), net ( 17 ) 11 Total noninterest income 142 169 Noninterest expense: Salaries and employee benefits 312 288 Technology, telecom, and information processing 52 49 Occupancy and equipment, net 38 39 Professional and legal services 14 21 Marketing and business development 8 7 Deposit insurance and regulatory expense 10 10 Credit-related expense 7 6 Other real estate expense, net 1 — Other 22 15 Total noninterest expense 464 435 Income before income taxes 255 411 Income taxes 52 89 Net income 203 322 Preferred stock dividends ( 8 ) ( 8 ) Net earnings applicable to common shareholders $ 195 $ 314 Weighted average common shares outstanding during the perio Basic shares (in thousands) 151,285 163,551 Diluted shares (in thousands) 151,687 163,887 Net earnings per common sh Basic $ 1.27 $ 1.90 Diluted 1.27 1.90 See accompanying notes to consolidated financial statements. 36 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Unaudited) Three Months Ended March 31, (In millions) 2022 2021 Net income for the period $ 203 $ 322 Other comprehensive income (loss), net of t Net unrealized holding losses on investment securities ( 1,121 ) ( 164 ) Net unrealized gains on other noninterest-bearing investments — 2 Net unrealized holding losses on derivative instruments ( 135 ) ( 4 ) Reclassification adjustment for increase in interest income recognized in earnings on derivative instruments ( 10 ) ( 11 ) Other comprehensive loss ( 1,266 ) ( 177 ) Comprehensive income (loss) $ ( 1,063 ) $ 145 See accompanying notes to consolidated financial statements. CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited) (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2021 $ 440 151,625 $ — $ 1,928 $ 5,175 $ ( 80 ) $ 7,463 Net income for the period 203 203 Other comprehensive loss, net of tax ( 1,266 ) ( 1,266 ) Bank common stock repurchased ( 778 ) ( 51 ) ( 51 ) Net activity under employee plans and related tax benefits 501 12 12 Dividends on preferred stock ( 8 ) ( 8 ) Dividends on common stock, $ 0.38 per share ( 58 ) ( 58 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at March 31, 2022 $ 440 151,348 $ — $ 1,889 $ 5,311 $ ( 1,346 ) $ 6,294 Balance at December 31, 2020 $ 566 164,090 $ — $ 2,686 $ 4,309 $ 325 $ 7,886 Net income for the period 322 322 Other comprehensive loss, net of tax ( 177 ) ( 177 ) Bank common stock repurchased ( 1,012 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 722 17 17 Dividends on preferred stock ( 8 ) ( 8 ) Dividends on common stock, $ 0.34 per share ( 57 ) ( 57 ) Balance at March 31, 2021 $ 566 163,800 $ — $ 2,653 $ 4,566 $ 148 $ 7,933 See accompanying notes to consolidated financial statements. 37 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In millions) Three Months Ended March 31, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES Net income for the period $ 203 $ 322 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses ( 33 ) ( 132 ) Depreciation and amortization 19 ( 3 ) Share-based compensation 17 14 Deferred income tax expense 39 70 Net decrease (increase) in trading securities ( 10 ) 76 Net decrease (increase) in loans held for sale 29 ( 3 ) Change in other liabilities 127 ( 54 ) Change in other assets ( 116 ) 212 Other, net 13 ( 18 ) Net cash provided by operating activities 288 484 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease (increase) in money market investments 4,979 ( 2,903 ) Proceeds from maturities and paydowns of investment securities held-to-maturity 20 167 Purchases of investment securities held-to-maturity ( 17 ) ( 114 ) Proceeds from sales, maturities and paydowns of investment securities available-for-sale 1,018 1,370 Purchases of investment securities available-for-sale ( 4,673 ) ( 2,546 ) Net change in loans and leases ( 355 ) 56 Purchases and sales of other noninterest-bearing investments 8 12 Purchases of premises and equipment ( 53 ) ( 53 ) Other, net 4 13 Net cash provided by (used in) investing activities 931 ( 3,998 ) CASH FLOWS FROM FINANCING ACTIVITIES Net increase (decrease) in deposits ( 439 ) 4,200 Net change in short-term funds borrowed ( 264 ) ( 540 ) Redemption of long-term debt ( 290 ) — Proceeds from the issuance of common stock 6 11 Dividends paid on common and preferred stock ( 66 ) ( 66 ) Bank common stock repurchased ( 51 ) ( 50 ) Other, net ( 10 ) ( 8 ) Net cash provided by (used in) financing activities ( 1,114 ) 3,547 Net increase in cash and due from banks 105 33 Cash and due from banks at beginning of period 595 543 Cash and due from banks at end of period $ 700 $ 576 Cash paid for interest $ 11 $ 22 Net refunds received for income taxes ( 1 ) — Noncash activities are summarized as follows: Loans held for investment transferred to other real estate owned — 1 Loans held for investment reclassified to loans held for sale, net 34 ( 7 ) See accompanying notes to consolidated financial statements. 38 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) March 31, 2022 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Zions Bancorporation, National Association and its majority-owned subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). The results of operations for the three months ended March 31, 2022 and 2021 are not necessarily indicative of the results that may be expected in future periods. In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. For further information, refer to the consolidated financial statements and accompanying footnotes included in our 2021 Form 10-K. Certain prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Effective for the first quarter of 2022, we made certain financial reporting changes and reclassifications to noninterest expense in our Consolidated Statements of Income. These financial reporting changes were made primarily to improve the presentation and disclosure of certain expenses related to our ongoing technology initiatives. Other noninterest expense line items were impacted by these changes and reclassifications. These changes and reclassifications (1) were adopted retrospectively to January 1, 2020, (2) reflect changes only to noninterest expense in the Consolidated Statements of Income, and (3) do not impact net income, net interest income, or noninterest income. Zions Bancorporation, N.A. is a commercial bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These include Zions Bank, in Utah, Idaho, and Wyoming; Amegy Bank (“Amegy”), in Texas; California Bank & Trust (“CB&T”); National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”), in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under the name The Commerce Bank of Oregon in Oregon. 39 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 2. RECENT ACCOUNTING PRONOUNCEMENTS Standard Description Date of adoption Effect on the financial statements or other significant matters Standards not yet adopted by the Bank ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures This accounting standards update (“ASU”) eliminates the recognition and measurement guidance on troubled debt restructurings (“TDRs”) for creditors that have adopted ASC 326 (“CECL”), and eliminates certain existing TDR disclosures while requiring enhanced disclosures about loan modifications for borrowers experiencing financial difficulty. The new guidance also requires public companies to present current-period gross write-offs (on a current year-to-date basis for interim-period disclosures) by year of origination in their vintage disclosures. The new guidance is effective for calendar year-end public companies beginning January 1, 2023, with early adoption permitted. Periods beginning after December 15, 2022 We have established an implementation team to ensure that the necessary data is captured in order to comply with the new disclosure requirements. The overall effect of the guidance is not expected to have a material impact on our financial statements. We do not plan to early adopt this new guidance. 40 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 3. FAIR VALUE Fair Value Measurements Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. For more information about our valuation methodologies for assets and liabilities measured at fair value and the fair value hierarchy, see Note 3 of our 2021 Form 10-K. Quantitative Disclosure by Fair Value Hierarchy Assets and liabilities measured at fair value by class on a recurring basis are summarized as follows: (In millions) March 31, 2022 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 503 $ 23,799 $ — $ 24,302 Municipal securities 1,768 1,768 Other debt securities 75 75 Total available-for-sale 503 25,642 — 26,145 Trading account 15 367 382 Other noninterest-bearing investments: Bank-owned life insurance 538 538 Private equity investments 1 13 74 87 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 131 131 Derivativ Derivatives designated as hedges 29 29 Derivatives not designated as hedges 90 90 Total assets $ 662 $ 26,666 $ 86 $ 27,414 LIABILITIES Securities sold, not yet purchased $ 101 $ — $ — $ 101 Other liabiliti Derivativ Derivatives not designated as hedges 179 179 Total liabilities $ 101 $ 179 $ — $ 280 1 The Level 1 private equity investments (“PEIs”) relate to the portion of our Small Business Investment Company (“SBIC”) investments that are now publicly traded. 41 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) December 31, 2021 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 134 $ 22,144 $ — $ 22,278 Municipal securities 1,694 1,694 Other debt securities 76 76 Total available-for-sale 134 23,914 — 24,048 Trading account 14 358 372 Other noninterest-bearing investments: Bank-owned life insurance 537 537 Private equity investments 1 35 66 101 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 138 138 Derivativ Derivatives designated as hedges 10 10 Derivatives not designated as hedges 209 209 Total assets $ 321 $ 25,028 $ 78 $ 25,427 LIABILITIES Securities sold, not yet purchased $ 254 $ — $ — $ 254 Other liabiliti Derivativ Derivatives not designated as hedges 51 51 Total liabilities $ 254 $ 51 $ — $ 305 1 The Level 1 private equity investments (“PEIs”) relate to the portion of our Small Business Investment Company (“SBIC”) investments that are now publicly traded. Level 3 Valuations Our Level 3 holdings include PEIs, agriculture loan servicing, and interest-only strips. For additional information regarding our Level 3 financial instruments, including the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2021 Form 10-K. Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments Three Months Ended March 31, 2022 March 31, 2021 (In millions) Private equity investments Ag loan servicing & interest only strips Private equity investments Ag loan servicing & interest only strips Balance at beginning of period $ 66 $ 12 $ 80 $ 16 Unrealized securities gains (losses), net 5 — 1 — Other noninterest income (expense) — — — ( 1 ) Purchases 6 — 4 — Cost of investments sold ( 3 ) — ( 2 ) — Balance at end of period $ 74 $ 12 $ 83 $ 15 42 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES During the three months ended March 31, 2022 and 2021, there were no transfers of assets or liabilities recorded at fair value on a recurring basis into or out of Level 3 fair value measurements. The rollforward Level 3 instruments includes the following realized gains and losses recognized in securities gains (losses) on the consolidated statement of income for the periods present (In millions) Three Months Ended March 31, 2022 March 31, 2021 Securities gains (losses), net $ ( 2 ) $ ( 1 ) Nonrecurring Fair Value Measurements Certain assets and liabilities may be recorded at fair value on a nonrecurring basis, including impaired loans that have been measured based on the fair value of the underlying collateral, other real estate owned (“OREO”), and nonmarketable equity securities. Nonrecurring fair value adjustments typically involve write-downs of individual assets or the application of lower of cost or fair value accounting. At March 31, 2022, we had no assets or liabilities that had fair value changes measured on a nonrecurring basis. At December 31, 2021, we had $ 2 million of collateral-dependent loans valued as level 2 measurements, and recognized $ 3 million of losses from fair value changes related to these loans. The previous fair values may not be current as of the dates indicated, but rather as of the most recent date the fair value change occurred. For additional information regarding the measurement of fair value for impaired loans, collateral-dependent loans, and OREO, see Note 3 of our 2021 Form 10-K. Fair Value of Certain Financial Instruments The f ollowing schedule summarizes of the carrying values and estimated fair values of certain financial instruments: March 31, 2022 December 31, 2021 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: HTM investment securities $ 439 $ 414 2 $ 441 $ 443 2 Loans and leases (including loans held for sale), net of allowance 50,807 49,837 3 50,421 50,619 3 Financial liabiliti Time deposits 1,550 1,538 2 1,622 1,624 2 Long-term debt 689 699 2 1,012 1,034 2 This summary excludes financial assets and liabilities for which carrying value approximates fair value and financial instruments that are recorded at fair value on a recurring basis. For additional information regarding the financial instruments within the scope of this disclosure, and the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2021 Form 10-K. 43 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 4. OFFSETTING ASSETS AND LIABILITIES Gross and net information for selected financial instruments in the balance sheet is as follows: March 31, 2022 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 2,345 $ — $ 2,345 $ — $ — $ 2,345 Derivatives (included in other assets) 119 — 119 ( 8 ) ( 65 ) 46 Total assets $ 2,464 $ — $ 2,464 $ ( 8 ) $ ( 65 ) $ 2,391 Liabiliti Federal funds purchased and other short-term borrowings $ 638 $ — $ 638 $ — $ — $ 638 Derivatives (included in other liabilities) 179 — 179 ( 8 ) — 171 Total liabilities $ 817 $ — $ 817 $ ( 8 ) $ — $ 809 December 31, 2021 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 2,133 $ — $ 2,133 $ — $ — $ 2,133 Derivatives (included in other assets) 219 — 219 ( 16 ) ( 7 ) 196 Total assets $ 2,352 $ — $ 2,352 $ ( 16 ) $ ( 7 ) $ 2,329 Liabiliti Federal funds purchased and other short-term borrowings $ 903 $ — $ 903 $ — $ — $ 903 Derivatives (included in other liabilities) 51 — 51 ( 16 ) ( 1 ) 34 Total liabilities $ 954 $ — $ 954 $ ( 16 ) $ ( 1 ) $ 937 Security repurchase and reverse repurchase (“resell”) agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 5. INVESTMENTS Investment Securities Investment securities are classified as held-to-maturity (“HTM”), available-for sale (“AFS”), or trading. HTM securities, which management has the intent and ability to hold until maturity, are carried at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. AFS securities are carried at fair value and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to accumulated other comprehensive income (“AOCI”), net of related taxes. Trading securities are carried at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 71 million and $ 65 million at March 31, 2022 and December 31, 2021, respectively. These receivables are presented on the consolidated balance sheet in “Other 44 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES assets.” See Note 5 of our 2021 Form 10-K for more information related to our accounting for investment securities, and see Note 3 of our 2021 Form 10-K for description of our process to estimate fair value for investment securities. The following schedule summarizes the amortized cost and estimated fair values of our HTM and AFS securiti March 31, 2022 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 439 $ — $ 25 $ 414 Available-for-sale U.S. Treasury securities 557 — 54 503 U.S. Government agencies and corporatio Agency securities 802 — 10 792 Agency guaranteed mortgage-backed securities 23,626 9 1,553 22,082 Small Business Administration loan-backed securities 950 2 27 925 Municipal securities 1,828 6 66 1,768 Other debt securities 75 — — 75 Total available-for-sale 27,838 17 1,710 26,145 Total HTM and AFS investment securities $ 28,277 $ 17 $ 1,735 $ 26,559 December 31, 2021 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 441 $ 4 $ 2 $ 443 Available-for-sale U.S. Treasury securities 155 — 21 134 U.S. Government agencies and corporatio Agency securities 833 13 1 845 Agency guaranteed mortgage-backed securities 20,549 108 270 20,387 Small Business Administration loan-backed securities 938 2 28 912 Municipal securities 1,652 46 4 1,694 Other debt securities 75 1 — 76 Total available-for-sale 24,202 170 324 24,048 Total HTM and AFS investment securities $ 24,643 $ 174 $ 326 $ 24,491 Maturities The following schedule shows the amortized cost and weighted average yields of debt securities by contractual maturity of principal payments at March 31, 2022. Actual principal payments may differ from contractual or expected principal payments because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. 45 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES March 31, 2022 Total debt securities Due in one year or less Due after one year through five years Due after five years through ten years Due after ten years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity Municipal securities 1 $ 439 3.02 % $ 29 2.71 % $ 139 3.19 % $ 176 2.71 % $ 95 3.41 % Available-for-sale U.S. Treasury securities 557 2.05 — — — — — — 557 2.05 U.S. Government agencies and corporatio Agency securities 802 2.06 31 0.84 317 1.50 292 2.37 162 2.83 Agency guaranteed mortgage-backed securities 23,626 1.70 — — 442 1.49 1,824 1.84 21,360 1.69 Small Business Administration loan-backed securities 950 1.38 — — 47 1.30 184 2.18 719 1.18 Municipal securities 1 1,828 2.37 106 2.18 683 2.59 638 2.10 401 2.47 Other debt securities 75 2.17 — — — — 60 1.99 15 2.91 Total available-for-sale securities 27,838 1.75 137 1.88 1,489 1.99 2,998 1.97 23,214 1.70 Total HTM and AFS investment securities $ 28,277 1.77 % $ 166 2.02 % $ 1,628 2.09 % $ 3,174 2.01 % $ 23,309 1.71 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis. The following schedule summarizes the amount of gross unrealized losses for debt securities and the estimated fair value by length of time the securities have been in an unrealized loss positi March 31, 2022 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 12 $ 224 $ 13 $ 92 $ 25 $ 316 Available-for-sale U.S. Treasury securities 15 386 39 117 54 503 U.S. Government agencies and corporatio Agency securities 10 660 — — 10 660 Agency guaranteed mortgage-backed securities 1,152 17,185 401 3,874 1,553 21,059 Small Business Administration loan-backed securities — 27 27 693 27 720 Municipal securities 55 1,067 11 89 66 1,156 Other — 15 — — — 15 Total available-for-sale 1,232 19,340 478 4,773 1,710 24,113 Total HTM and AFS investment securities $ 1,244 $ 19,564 $ 491 $ 4,865 $ 1,735 $ 24,429 46 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 1 $ 88 $ 1 $ 68 $ 2 $ 156 Available-for-sale U.S. Treasury securities — — 21 134 21 134 U.S. Government agencies and corporatio Agency securities 1 121 — 1 1 122 Agency guaranteed mortgage-backed securities 231 13,574 39 942 270 14,516 Small Business Administration loan-backed securities — 27 28 749 28 776 Municipal securities 4 327 — 8 4 335 Other — — — — — — Total available-for-sale 236 14,049 88 1,834 324 15,883 Total HTM and AFS investment securities $ 237 $ 14,137 $ 89 $ 1,902 $ 326 $ 16,039 Approximately 455 and 137 HTM and 3,059 and 1,302 AFS investment securities were in an unrealized loss position at March 31, 2022, and December 31, 2021, respectively. Impairment We review investment securities quarterly on an individual security basis for the presence of impairment. For additional information on our policy and impairment evaluation process for investment securities, see Note 5 of our 2021 Form 10-K. AFS Impairment We did not recognize any impairment on our AFS investment securities portfolio during the first three months of 2022. Unrealized losses primarily relate to changes in interest rates subsequent to purchase and are not attributable to credit. At March 31, 2022, we had not initiated any sales of AFS securities, nor did we have an intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not that we would be required to sell such securities before recovery of their amortized cost basis. HTM Impairment For HTM securities, the allowance for credit losses (“ACL”) is assessed consistent with the approach described in Note 6 for loans and leases carried at amortized cost. The ACL on HTM securities was less than $ 1 million at March 31, 2022. All HTM securities were risk-graded as "Pass" in terms of credit quality and none were past due at March 31, 2022. The amortized cost basis of HTM securities categorized by year acquired is summarized in the following schedu March 31, 2022 Amortized cost basis by year acquired (In millions) 2022 2021 2020 2019 2018 Prior Total Securities Held-to-maturity $ 17 $ 101 $ 122 $ 10 $ — $ 189 $ 439 47 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Securities Gains and Losses Recognized in Income The following schedule summarizes securities gains and losses recognized in the income statemen Three Months Ended March 31, 2022 2021 (In millions) Gross gains Gross losses Gross gains Gross losses Other noninterest-bearing investments $ 3 $ 20 $ 14 $ 3 Net gains (losses) 1 $ ( 17 ) $ 11 1 Net gains (losses) were recognized in securities gains (losses) in the income statement. The following schedule presents interest income by security type: Three Months Ended March 31, 2022 2021 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 2 $ 1 $ 3 $ 3 $ 2 $ 5 Available-for-sale 96 8 104 57 7 64 Trading — 5 5 — 2 2 Total securities $ 98 $ 14 $ 112 $ 60 $ 11 $ 71 A t March 31, 2022 and December 31, 2021, investment securities with a carrying value of approximately $ 3.0 billion and $ 3.1 billion, respectively, were pledged to secure public and trust deposits, advances, and for other purposes as required by law. Securities are also pledged as collateral for security repurchase agreements. 48 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific loan class: (In millions) March 31, 2022 December 31, 2021 Loans held for sale $ 43 $ 83 Commerci Commercial and industrial $ 14,356 $ 13,867 PPP 1,081 1,855 Leasing 318 327 Owner-occupied 9,026 8,733 Municipal 3,944 3,658 Total commercial 28,725 28,440 Commercial real estate: Construction and land development 2,769 2,757 Term 9,325 9,441 Total commercial real estate 12,094 12,198 Consume Home equity credit line 3,089 3,016 1-4 family residential 6,122 6,050 Construction and other consumer real estate 692 638 Bankcard and other revolving plans 410 396 Other 110 113 Total consumer 10,423 10,213 Total loans and leases $ 51,242 $ 50,851 Loans and leases are presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 59 million and $ 83 million at March 31, 2022 and December 31, 2021, respectively. Amortized cost basis does not include accrued interest receivables of $ 157 million and $ 161 million at March 31, 2022 and December 31, 2021, respectively. These receivables are presented in the Consolidated Balance Sheet within the “Other assets” line item. Municipal loans generally include loans to state and local governments (“municipalities”) with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 176 million at March 31, 2022 and $ 160 million at December 31, 2021. Loans with a carrying value of $ 26.8 billion at both March 31, 2022 and December 31, 2021 have been pledged at the Federal Reserve and the Federal Home Loan Bank (“FHLB”) of Des Moines as collateral for potential borrowings. We sold loans totaling $ 336 million for the three months ended March 31, 2022, and $ 423 million for the three months ended March 31, 2021, that were classified as loans held for sale. The sold loans were derecognized from the balance sheet. Loans classified as loans held for sale primarily consist of conforming residential mortgages and the guaranteed portion of Small Business Administration (“SBA”) loans that are primarily sold to U.S. government agencies or participated to third parties. They do not consist of loans from the SBA's Paycheck Protection Program (“PPP”). At times, we have continuing involvement in the sold loans in the form of servicing rights or guarantees. Amounts added to loans held for sale during these same periods were $ 297 million and $ 426 million, respectively. See Note 5 for further information regarding guaranteed securities. 49 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The principal balance of sold loans for which we retain servicing was approximately $ 3.5 billion at March 31, 2022, and $ 3.3 billion at December 31, 2021. Income from loans sold, excluding servicing, was $ 6 million and $ 11 million for the three months ended March 31, 2022, and 2021, respectively. Allowance for Credit Losses The allowance for credit losses (“ACL”), which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. For additional information regarding our policies and methodologies used to estimate the ACL, see Note 6 of our 2021 Form 10-K. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is estimated consistent with the approach for loans carried at amortized cost. See Note 5 for further discussion of our estimate of expected credit losses on AFS securities and disclosures related to AFS and HTM securities. Changes in the ACL are summarized as follows: Three Months Ended March 31, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 311 $ 107 $ 95 $ 513 Provision for loan losses ( 24 ) ( 5 ) — ( 29 ) Gross loan and lease charge-offs 13 — 4 17 Recoveries 8 — 3 11 Net loan and lease charge-offs (recoveries) 5 — 1 6 Balance at end of period $ 282 $ 102 $ 94 $ 478 Reserve for unfunded lending commitments Balance at beginning of period $ 19 $ 11 $ 10 $ 40 Provision for unfunded lending commitments ( 5 ) 1 — ( 4 ) Balance at end of period $ 14 $ 12 $ 10 $ 36 Total allowance for credit losses at end of period Allowance for loan losses $ 282 $ 102 $ 94 $ 478 Reserve for unfunded lending commitments 14 12 10 36 Total allowance for credit losses $ 296 $ 114 $ 104 $ 514 50 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Three Months Ended March 31, 2021 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 464 $ 171 $ 142 $ 777 Provision for loan losses ( 94 ) ( 19 ) ( 10 ) ( 123 ) Gross loan and lease charge-offs 18 — 3 21 Recoveries 10 — 3 13 Net loan and lease charge-offs (recoveries) 8 — — 8 Balance at end of period $ 362 $ 152 $ 132 $ 646 Reserve for unfunded lending commitments Balance at beginning of period $ 30 $ 20 $ 8 $ 58 Provision for unfunded lending commitments ( 6 ) ( 3 ) — ( 9 ) Balance at end of period $ 24 $ 17 $ 8 $ 49 Total allowance for credit losses at end of period Allowance for loan losses $ 362 $ 152 $ 132 $ 646 Reserve for unfunded lending commitments 24 17 8 49 Total allowance for credit losses $ 386 $ 169 $ 140 $ 695 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement, (2) the loan, if secured, is well-secured, (3) the borrower has paid according to the contractual terms for a minimum of six months, and (4) an analysis of the borrower indicates a reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of loans on nonaccrual status is summarized as follows: March 31, 2022 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 20 $ 92 $ 112 $ 38 PPP — 2 2 — Owner-occupied 33 20 53 2 Total commercial 53 114 167 40 Commercial real estate: Term 5 15 20 3 Total commercial real estate 5 15 20 3 Consume Home equity credit line 4 9 13 1 1-4 family residential 8 43 51 5 Bankcard and other revolving plans — 1 1 1 Total consumer loans 12 53 65 7 Total $ 70 $ 182 $ 252 $ 50 51 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 30 $ 94 $ 124 $ 34 PPP 2 1 3 — Owner-occupied 37 20 57 3 Total commercial 69 115 184 37 Commercial real estate: Term 6 14 20 3 Total commercial real estate 6 14 20 3 Consume Home equity credit line 4 10 14 2 1-4 family residential 9 43 52 5 Bankcard and other revolving plans — 1 1 1 Total consumer loans 13 54 67 8 Total $ 88 $ 183 $ 271 $ 48 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed or written-off from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. For the three months ended March 31, 2022 and 2021, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. The amount of accrued interest receivables written-off by reversing interest income during the period is summarized by loan portfolio segment as follows: Three Months Ended March 31, (In millions) 2022 2021 Commercial $ 4 $ 3 Commercial real estate — 1 Consumer — — Total $ 4 $ 4 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as bankcard and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. 52 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Past due loans (accruing and nonaccruing) are summarized as follows: March 31, 2022 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 14,285 $ 49 $ 22 $ 71 $ 14,356 $ 1 $ 89 PPP 1,053 26 2 28 1,081 — — Leasing 317 1 — 1 318 — — Owner-occupied 9,001 13 12 25 9,026 — 40 Municipal 3,944 — — — 3,944 — — Total commercial 28,600 89 36 125 28,725 1 129 Commercial real estate: Construction and land development 2,769 — — — 2,769 — — Term 9,320 1 4 5 9,325 1 17 Total commercial real estate 12,089 1 4 5 12,094 1 17 Consume Home equity credit line 3,083 3 3 6 3,089 — 10 1-4 family residential 6,090 11 21 32 6,122 — 21 Construction and other consumer real estate 692 — — — 692 — — Bankcard and other revolving plans 408 1 1 2 410 1 — Other 109 1 — 1 110 — — Total consumer loans 10,382 16 25 41 10,423 1 31 Total $ 51,071 $ 106 $ 65 $ 171 $ 51,242 $ 3 $ 177 December 31, 2021 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 13,822 $ 17 $ 28 $ 45 $ 13,867 $ 2 $ 91 PPP 1,813 35 7 42 1,855 5 — Leasing 327 — — — 327 — — Owner-occupied 8,712 7 14 21 8,733 — 42 Municipal 3,658 — — — 3,658 — — Total commercial 28,332 59 49 108 28,440 7 133 Commercial real estate: Construction and land development 2,757 — — — 2,757 — — Term 9,426 10 5 15 9,441 — 15 Total commercial real estate 12,183 10 5 15 12,198 — 15 Consume Home equity credit line 3,008 4 4 8 3,016 — 10 1-4 family residential 6,018 6 26 32 6,050 — 24 Construction and other consumer real estate 638 — — — 638 — — Bankcard and other revolving plans 393 2 1 3 396 1 — Other 112 1 — 1 113 — — Total consumer loans 10,169 13 31 44 10,213 1 34 Total $ 50,684 $ 82 $ 85 $ 167 $ 50,851 $ 8 $ 182 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is still not expected. 53 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk-grading systems, which vary based on the size and type of credit risk exposure. The internal risk grades assigned to loans follow our definition of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. • Pass – A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention – A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard – A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful – A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were no loans classified as Doubtful at both March 31, 2022 and December 31, 2021. We generally assign internal risk grades to commercial and commercial real estate (“CRE”) loans with commitments greater than $ 1 million based on financial and statistical models, individual credit analysis, and loan officer experience and judgment. For these larger loans, we assign one of multiple risk grades within the Pass classification or one of the risk classifications described previously. We confirm our internal risk grades quarterly, or as soon as we identify information that affects the credit risk of the loan. For consumer loans and for commercial and CRE loans with commitments less than or equal to $ 1 million, we generally assign internal risk grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The amortized cost basis of loans and leases categorized by year of origination and by credit quality classifications as monitored by management are summarized as follows. 54 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES March 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Commerci Commercial and industrial Pass $ 669 $ 2,455 $ 1,257 $ 1,095 $ 700 $ 452 $ 6,851 $ 158 $ 13,637 Special Mention — 5 13 4 13 45 97 1 178 Accruing Substandard — 30 21 115 44 87 124 8 429 Nonaccrual — 13 9 6 1 19 49 15 112 Total commercial and industrial 669 2,503 1,300 1,220 758 603 7,121 182 14,356 PPP Pass — 778 301 — — — — — 1,079 Nonaccrual — — 2 — — — — — 2 Total PPP — 778 303 — — — — — 1,081 Leasing Pass 2 55 70 64 60 55 — — 306 Special Mention — — — 5 1 1 — — 7 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 2 55 70 69 61 61 — — 318 Owner-occupied Pass 602 2,447 1,311 1,013 810 2,183 193 70 8,629 Special Mention — 8 12 20 22 65 3 3 133 Accruing Substandard 5 6 28 29 47 91 5 — 211 Nonaccrual — — 2 13 9 25 4 — 53 Total owner-occupied 607 2,461 1,353 1,075 888 2,364 205 73 9,026 Municipal Pass 428 1,279 939 529 208 527 4 — 3,914 Special Mention — — — — — 25 — — 25 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total municipal 428 1,279 939 529 208 557 4 — 3,944 Total commercial 1,706 7,076 3,965 2,893 1,915 3,585 7,330 255 28,725 Commercial real estate: Construction and land development Pass 75 695 811 386 61 27 674 36 2,765 Special Mention — — — 1 — — — — 1 Accruing Substandard — — 3 — — — — — 3 Nonaccrual — — — — — — — — — Total construction and land development 75 695 814 387 61 27 674 36 2,769 Term Pass 627 2,297 1,604 1,297 994 1,795 189 215 9,018 Special Mention — 22 — — — 15 — 1 38 Accruing Substandard 8 9 39 43 95 55 — — 249 Nonaccrual — — 1 5 1 13 — — 20 Total term 635 2,328 1,644 1,345 1,090 1,878 189 216 9,325 Total commercial real estate 710 3,023 2,458 1,732 1,151 1,905 863 252 12,094 55 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES March 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Consume Home equity credit line Pass — — — — — — 2,982 91 3,073 Special Mention — — — — — — 1 — 1 Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 7 6 13 Total home equity credit line — — — — — — 2,992 97 3,089 1-4 family residential Pass 470 1,384 982 677 428 2,128 — — 6,069 Special Mention — — — — — — — — — Accruing Substandard — — — 1 — 1 — — 2 Nonaccrual — 1 3 4 2 41 — — 51 Total 1-4 family residential 470 1,385 985 682 430 2,170 — — 6,122 Construction and other consumer real estate Pass 55 382 186 43 18 8 — — 692 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 55 382 186 43 18 8 — — 692 Bankcard and other revolving plans Pass — — — — — — 401 6 407 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 1 — 1 Total bankcard and other revolving plans — — — — — — 404 6 410 Other consumer Pass 20 45 19 14 7 5 — — 110 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 20 45 19 14 7 5 — — 110 Total consumer 545 1,812 1,190 739 455 2,183 3,396 103 10,423 Total loans $ 2,961 $ 11,911 $ 7,613 $ 5,364 $ 3,521 $ 7,673 $ 11,589 $ 610 $ 51,242 56 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2016 Prior Total loans Commerci Commercial and industrial Pass $ 2,561 $ 1,309 $ 1,179 $ 748 $ 354 $ 239 $ 6,594 $ 121 $ 13,105 Special Mention 4 17 9 12 1 3 128 1 175 Accruing Substandard 28 22 99 53 31 65 162 3 463 Nonaccrual 14 10 6 3 1 21 51 18 124 Total commercial and industrial 2,607 1,358 1,293 816 387 328 6,935 143 13,867 PPP Pass 1,317 535 — — — — — — 1,852 Nonaccrual — 3 — — — — — — 3 Total PPP 1,317 538 — — — — — — 1,855 Leasing Pass 46 74 70 64 42 19 — — 315 Special Mention — 1 4 1 1 — — — 7 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 46 75 74 65 43 24 — — 327 Owner-occupied Pass 2,420 1,366 1,028 868 695 1,663 177 69 8,286 Special Mention 10 13 19 32 18 50 3 3 148 Accruing Substandard 14 24 41 47 24 79 13 — 242 Nonaccrual — 4 14 9 9 20 1 — 57 Total owner-occupied 2,444 1,407 1,102 956 746 1,812 194 72 8,733 Municipal Pass 1,303 963 553 250 327 220 3 — 3,619 Special Mention — — — — — 25 — — 25 Accruing Substandard — 9 — — — 5 — — 14 Nonaccrual — — — — — — — — — Total municipal 1,303 972 553 250 327 250 3 — 3,658 Total commercial 7,717 4,350 3,022 2,087 1,503 2,414 7,132 215 28,440 Commercial real estate: Construction and land development Pass 640 736 515 94 24 2 650 64 2,725 Special Mention — — 1 — — — — — 1 Accruing Substandard — 3 28 — — — — — 31 Nonaccrual — — — — — — — — — Total construction and land development 640 739 544 94 24 2 650 64 2,757 Term Pass 2,407 1,765 1,491 1,066 529 1,401 239 179 9,077 Special Mention 22 39 10 17 8 25 — 4 125 Accruing Substandard 9 9 44 77 14 64 — 2 219 Nonaccrual — 1 5 1 — 13 — — 20 Total term 2,438 1,814 1,550 1,161 551 1,503 239 185 9,441 Total commercial real estate 3,078 2,553 2,094 1,255 575 1,505 889 249 12,198 57 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2016 Prior Total loans Consume Home equity credit line Pass — — — — — — 2,903 96 2,999 Special Mention — — — — — — 1 — 1 Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 7 7 14 Total home equity credit line — — — — — — 2,913 103 3,016 1-4 family residential Pass 1,391 1,021 728 484 681 1,691 — — 5,996 Special Mention — — — — — — — — — Accruing Substandard — — 1 — — 1 — — 2 Nonaccrual — 3 3 3 9 34 — — 52 Total 1-4 family residential 1,391 1,024 732 487 690 1,726 — — 6,050 Construction and other consumer real estate Pass 295 232 73 27 4 7 — — 638 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 295 232 73 27 4 7 — — 638 Bankcard and other revolving plans Pass — — — — — — 391 3 394 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — 1 — 1 Total bankcard and other revolving plans — — — — — — 393 3 396 Other consumer Pass 58 23 17 9 4 2 — — 113 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 58 23 17 9 4 2 — — 113 Total consumer 1,744 1,279 822 523 698 1,735 3,306 106 10,213 Total loans $ 12,539 $ 8,182 $ 5,938 $ 3,865 $ 2,776 $ 5,654 $ 11,327 $ 570 $ 50,851 Modified and Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are considered troubled debt restructurings (“TDRs”). For further discussion of our policies and processes regarding TDRs, see Note 6 of our 2021 Form 10-K. 58 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Information on TDRs, including the amortized cost on an accruing and nonaccruing basis by loan class and modification type is summarized in the following schedul March 31, 2022 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 19 $ 10 $ — $ — $ 4 $ 4 $ 37 Owner-occupied 1 4 — 9 14 9 37 Municipal — 10 — — — — 10 Total commercial 20 24 — 9 18 13 84 Commercial real estate: Term 1 29 — 27 41 8 106 Total commercial real estate 1 29 — 27 41 8 106 Consume Home equity credit line — — 5 — — 2 7 1-4 family residential 3 1 2 — 1 12 19 Total consumer loans 3 1 7 — 1 14 26 Total accruing 24 54 7 36 60 35 216 Nonaccruing Commerci Commercial and industrial 1 3 — 11 7 36 58 Owner-occupied 9 — — — — 12 21 Total commercial 10 3 — 11 7 48 79 Commercial real estate: Term — — — 11 2 3 16 Total commercial real estate — — — 11 2 3 16 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — — 3 4 Total consumer loans — 1 1 — — 3 5 Total nonaccruing 10 4 1 22 9 54 100 Total $ 34 $ 58 $ 8 $ 58 $ 69 $ 89 $ 316 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. 59 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 19 $ 1 $ — $ — $ 4 $ 7 $ 31 Owner-occupied 5 4 — 8 14 12 43 Municipal — 10 — — — — 10 Total commercial 24 15 — 8 18 19 84 Commercial real estate: Term 1 29 — 27 41 8 106 Total commercial real estate 1 29 — 27 41 8 106 Consume Home equity credit line — 1 5 — — 2 8 1-4 family residential 5 1 2 — 1 14 23 Total consumer loans 5 2 7 — 1 16 31 Total accruing 30 46 7 35 60 43 221 Nonaccruing Commerci Commercial and industrial 1 4 — 2 8 49 64 Owner-occupied 5 — — 2 — 13 20 Total commercial 6 4 — 4 8 62 84 Commercial real estate: Term — — — 11 2 3 16 Total commercial real estate — — — 11 2 3 16 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 3 — 4 Total consumer loans — 1 1 — 3 — 5 Total nonaccruing 6 5 1 15 13 65 105 Total $ 36 $ 51 $ 8 $ 50 $ 73 $ 108 $ 326 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. Unfunded lending commitments on TDRs totaled $ 4 million and $ 10 million at March 31, 2022 and December 31, 2021, respectively. The total amortized cost of all TDRs in which interest rates were modified below market was $ 92 million at March 31, 2022 and $ 100 million at December 31, 2021. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the three months ended March 31, 2022 and 2021 was not significant. On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. 60 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Collateral-Dependent Loans As discussed previously, when a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. Select information on loans for which the repayment is expected to be provided substantially through the operation or sale of the underlying collateral and the borrower is experiencing financial difficulties, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: March 31, 2022 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 8 Single family residential 39 % Owner-occupied 8 Office building 40 % Commercial real estate: Term 2 Multi-family 37 % Consume Home equity credit line 4 Single family residential 35 % 1-4 family residential 2 Single family residential 38 % Total $ 24 December 31, 2021 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 27 Corporate assets, Single family residential 55 % Owner-occupied 11 Office Building 40 % Commercial real estate: Term 2 Multi-family, Retail 28 % Consume Home equity credit line 5 Single family residential 45 % 1-4 family residential 2 Single family residential 35 % Total $ 47 1 The fair value is based on the most recent appraisal or other collateral evaluation. Foreclosed Residential Real Estate At March 31, 2022 and December 31, 2021, we did no t have any foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure was $ 13 million and $ 10 million for the same periods, respectively. 61 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives and Accounting Our primary objective for using derivatives is to manage risks, primarily interest rate risk. We use derivatives to manage volatility in interest income, interest expense, earnings, and capital by adjusting our interest rate sensitivity to minimize the impact of fluctuations in interest rates. Derivatives are used to stabilize forecasted interest income from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities as we consider advisable. We also assist clients with their risk management needs through the use of derivatives. For a more detailed discussion of the use of and accounting policies regarding derivative instruments, see Note 7 of our 2021 Form 10-K. Fair Value Hedges of Liabilities – At March 31, 2022, we had one receive-fixed interest rate swap with a notional amount of $ 500 million designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converts the interest on our fixed-rate debt to floating. During the first quarter of 2022, derivatives designated as fair value hedges of debt decreased in value by $ 7 million which was offset by changes in the fair value of the hedged debt instruments as shown in the schedules below. During the first quarter of 2022, we fully amortized the remaining $ 1 million of cumulative unamortized debt basis adjustments related to previously terminated fair value hedges of debt. Fair Value Hedges of Assets – At March 31, 2022, we had pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 990 million designated as fair value hedges of certain AFS securities. These swaps effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. During the first quarter of 2022, derivatives designated as fair value hedges of fixed-rate AFS securities increased in value by $ 52 million, which was offset by changes in value of the hedged securities, as shown in the schedules below. We had $ 7 million of unamortized basis adjustments to AFS securities from previously designated fair value hedges. Cash Flow Hedges – At March 31, 2022, we had $ 6 billion notional amount of receive-fixed interest rate swaps designated as cash flow hedges of pools of floating-rate commercial loans. Also during the quarter, our cash flow hedge portfolio decreased in value by $ 192 million, which was recorded in AOCI. The amounts deferred in AOCI are reclassified into earnings in the periods in which the hedged interest receipts occur (i.e., when the hedged forecasted transactions affect earnings). Collateral and Credit Risk Exposure to credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred as a result of counterparty nonperformance. For a more detailed discussion of collateral and credit risk related to our derivative contracts, see Note 7 of our 2021 Form 10-K. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position at a given balance sheet date. Certain of these derivative contracts contain credit-risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit-risk-related feature were triggered, such as a downgrade of our credit rating. However, in past situations, not all counterparties have demanded that additional collateral be pledged when provided for by the contractual terms. At March 31, 2022, the fair value of our derivative liabilities was $ 179 million, for which we were required to pledge cash collateral of $ 118 million in the normal course of business. If our credit rating were downgraded one notch by either Standard & Poor’s (“S&P”) or Moody’s at March 31, 2022, there would likely be $ 1 million of additional collateral required to be pledged. 62 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Derivative Amounts Certain information with respect to notional amounts and recorded gross fair values at March 31, 2022 and December 31, 2021, and the related gain (loss) of derivative instruments is summarized as follows: March 31, 2022 December 31, 2021 Notional amount Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Receive-fixed interest rate swaps $ 6,041 $ — $ — $ 6,883 $ — $ — Fair value hed Debt hed Receive-fixed interest rate swaps 500 — — 500 — — Asset hed Pay-fixed interest rate swaps 990 29 — 479 10 — Total derivatives designated as hedging instruments 7,531 29 — 7,862 10 — Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives 1 6,604 41 170 6,587 192 36 Offsetting interest rate derivatives 2 6,604 175 43 6,587 38 197 Other interest rate derivatives 1,067 6 1 1,286 6 1 Foreign exchange derivatives 380 4 3 288 3 2 Total derivatives not designated as hedging instruments 14,655 226 217 14,748 239 236 Total derivatives $ 22,186 $ 255 $ 217 $ 22,610 $ 249 $ 236 1 Customer-facing interest rate derivatives include a net credit valuation adjustment (“CVA”) of $ 3 million, reducing the fair value of the liability at March 31, 2022, and $ 3 million, reducing the fair value of the asset at December 31, 2021. These adjustments are required to reflect both our nonperformance risk and that of the respective counterparty. 2 The fair value amounts for these derivatives do not include the settlement amounts for those trades that are centrally cleared. Once the settlement amounts with the clearing houses are included the derivative fair values would be the followin March 31, 2022 December 31, 2021 (In millions) Other assets Other liabilities Other assets Other liabilities Offsetting interest rate derivatives $ 39 $ 5 $ 8 $ 12 The amount of derivative gains (losses) from cash flow and fair value hedges that was deferred in other comprehensive income (“OCI”) or recognized in earnings for the three months ended March 31, 2022 and 2021 is shown in the schedules below. Three Months Ended March 31, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Excluded components deferred in AOCI (amortization approach) Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness/AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ 2 $ — $ — Interest rate swaps ( 178 ) — 12 — — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — — 2 — Basis amortization on terminated hedges 2, 3 — — — 1 — Fair value hedges of assets: Pay-fixed interest rate swaps — — — ( 1 ) — Basis amortization on terminated hedges 2, 3 — — — — — Total derivatives designated as hedging instruments $ ( 178 ) $ — $ 14 $ 2 $ — 63 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Three Months Ended March 31, 2021 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Excluded components deferred in AOCI (amortization approach) Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness/AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ 3 $ — $ — Interest rate swaps ( 5 ) — 12 — — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — — 2 — Basis amortization on terminated hedges 2, 3 — — — 3 — Fair value hedges of assets: Pay-fixed interest rate swaps — — — ( 1 ) — Basis amortization on terminated hedges 2, 3 — — — — — Total derivatives designated as hedging instruments $ ( 5 ) $ — $ 15 $ 4 $ — 1 For the 12 months following March 31, 2022, we estimate that $ 26 million of losses will be reclassified from AOCI into interest income, compared with an estimate of $ 57 million of gains as of March 31, 2021. 2 Adjustment to interest expense resulting from the amortization of the debt basis adjustment on fixed-rate debt previously hedged by terminated receive-fixed interest rate. 3 The cumulative unamortized basis adjustment from previously terminated or redesignated fair value hedges at March 31, 2022 is $ 0 and $ 7 million of terminated fair value debt and asset hedges, respectively, compared with $ 9 million and $ 7 million as of March 31, 2021. The remaining basis adjustment for terminated fair value debt hedges was fully amortized during the first quarter of 2022. The amortization of the cumulative unamortized basis adjustment from asset hedges is not shown in the schedules because it is not significant. The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) Three Months Ended March 31, 2022 Three Months Ended March 31, 2021 Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives $ ( 268 ) $ ( 182 ) Offsetting interest rate derivatives 281 206 Other interest rate derivatives 1 ( 4 ) Foreign exchange derivatives 6 5 Total derivatives not designated as hedging instruments $ 20 $ 25 The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Three Months Ended March 31, 2022 Three Months Ended March 31, 2021 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ ( 32 ) $ 32 $ — $ ( 35 ) $ 35 $ — Assets: Pay-fixed interest rate swaps 1, 2 53 ( 53 ) — 48 ( 48 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt and fixed-rate AFS securities. Gains and losses were recorded in net interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. 64 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) 1 Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged item (In millions) March 31, 2022 December 31, 2021 March 31, 2022 December 31, 2021 March 31, 2022 December 31, 2021 Long-term fixed-rate debt $ ( 500 ) $ ( 500 ) $ ( 474 ) $ ( 507 ) $ 26 $ ( 7 ) Fixed-rate AFS securities 990 479 894 435 ( 96 ) ( 44 ) 1 Carrying amounts displayed above exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 8 . LEASES We have operating and finance leases for branches, corporate offices, and data centers. We do not have significant equipment leases. At March 31, 2022, we had 416 branches, of which 273 are owned and 143 are leased. We lease our headquarters in Salt Lake City, Utah. The remaining maturities of our lease commitments range from the year 2022 to 2062, and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “Other assets,” and “Premises, equipment and software, net,” respectively. The corresponding liabilities for those leases are presented in “Other liabilities,” and “Long-term debt.” For more information about our lease policies, see Note 8 of our 2021 Form 10-K. The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate: (Dollar amounts in millions) March 31, 2022 December 31, 2021 Operating leases ROU assets, net of amortization $ 188 $ 195 Lease liabilities 215 222 Financing leases ROU assets, net of amortization 4 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.5 8.5 Finance leases 18.1 18.3 Weighted average discount rate Operating leases 2.8 % 2.8 % Finance leases 3.1 % 3.1 % Additional information related to lease expense is presented be Three Months Ended March 31, (In millions) 2022 2021 Lease expense: Operating lease expense $ 12 $ 12 Other expenses associated with operating leases 1 12 12 Total lease expense $ 24 $ 24 Related cash disbursements from operating leases $ 12 $ 12 1 Other expenses primarily relate to property taxes and building and property maintenance. 65 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ROU assets related to new leases totaled $ 1 million at both March 31, 2022 and December 31, 2021. Total contractual undiscounted lease payments for operating lease liabilities are summarized in the following schedule by expected due date: (In millions) Total undiscounted lease payments 2022 1 $ 37 2023 45 2024 36 2025 26 2026 21 Thereafter 83 Total $ 248 1 Contractual maturities for the nine months remaining in 2022. We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 3 million for both the first quarter of 2022 and 2021. We originated equipment leases, considered to be sales-type leases or direct financing leases, totaling $ 318 million and $ 327 million at March 31, 2022 and December 31, 2021, respectively. We recorded income of $ 3 million on these leases for both the first quarter of 2022 and 2021. 9. LONG-TERM DEBT AND SHAREHOLDERS’ EQUITY Long-Term Debt The long-term debt carrying values in the following schedule represent the par value of the debt, adjusted for any unamortized premium or discount, unamortized debt issuance costs, and basis adjustments for interest rate swaps designated as fair value hedges. LONG-TERM DEBT (In millions) March 31, 2022 December 31, 2021 Amount change Percent change Subordinated notes $ 557 $ 590 $ ( 33 ) ( 6 ) % Senior notes 128 418 ( 290 ) ( 69 ) Finance lease obligations 4 4 — — Total $ 689 $ 1,012 $ ( 323 ) ( 32 ) % The decrease in long-term debt was primarily due to the redemption of $ 290 million of the 4-year, 3.35 % senior notes during the first quarter of 2022. Common Stock Our common stock is traded on the National Association of Securities Dealers Automated Quotations (“NASDAQ”) Global Select Market. At March 31, 2022, there were 151.3 million shares of $ 0.001 par value common stock outstanding. Common stock and additional paid-in capital totaled $ 1.9 billion at March 31, 2022, which decreased $ 39 million, or 2 %, from December 31, 2021, primarily due to common stock repurchases. During the first three months of 2022, we repurchased 0.8 million common shares outstanding for $ 50 million at an average price of $ 65.31 per share. 66 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Accumulated Other Comprehensive Income (Loss) Accumulated other comprehensive income (loss) decreased to a loss of $ 1.3 billion at March 31, 2022, primarily due to decreases in the fair value of fixed-rate available-for-sale securities as a result of changes in interest rates. Changes in AOCI by component are as follows: (In millions) Net unrealized gains (losses) on investment securities Net unrealized gains (losses) on derivatives and other Pension and post-retirement Total Three Months Ended March 31, 2022 Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) OCI (loss) before reclassifications, net of tax ( 1,121 ) ( 135 ) — ( 1,256 ) Amounts reclassified from AOCI, net of tax — ( 10 ) — ( 10 ) Other comprehensive loss ( 1,121 ) ( 145 ) — ( 1,266 ) Balance at March 31, 2022 $ ( 1,199 ) $ ( 145 ) $ ( 2 ) $ ( 1,346 ) Income tax benefit included in OCI (loss) $ ( 363 ) $ ( 47 ) $ — $ ( 410 ) Three Months Ended March 31, 2021 Balance at December 31, 2020 $ 258 $ 69 $ ( 2 ) $ 325 OCI (loss) before reclassifications, net of tax ( 165 ) ( 1 ) — ( 166 ) Amounts reclassified from AOCI, net of tax — ( 11 ) — ( 11 ) Other comprehensive income (loss) ( 165 ) ( 12 ) — ( 177 ) Balance at March 31, 2021 $ 93 $ 57 $ ( 2 ) $ 148 Income tax benefit included in OCI (loss) $ ( 53 ) $ ( 4 ) $ — $ ( 57 ) Amounts reclassified from AOCI 1 Statement of income (SI) (In millions) Three Months Ended March 31, Details about AOCI components 2022 2021 Affected line item Net unrealized gains on derivative instruments $ 14 $ 15 SI Interest and fees on loans Income tax expense 4 4 Amounts reclassified from AOCI $ 10 $ 11 1 Positive reclassification amounts indicate increases to earnings in the income statement. 10. COMMITMENTS, GUARANTEES, AND CONTINGENT LIABILITIES Commitments and Guarantees Off-balance sheet financial obligations used to meet the financing needs of our customers include the followin (In millions) March 31, 2022 December 31, 2021 Unfunded lending commitments 1 $ 26,391 $ 25,797 Standby letters of cr Financial 589 597 Performance 255 245 Commercial letters of credit 18 22 Total unfunded commitments $ 27,253 $ 26,661 1 Net of participations. 67 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Our 2021 Form 10-K contains further information about these commitments and guarantees including their terms and collateral requirements. At March 31, 2022, the liability for the guarantees associated with the standby letters of credit was $ 4 million, which consisted of $ 2 million attributable to the RULC, and $ 2 million of deferred commitment fees. Legal Matters We are subject to litigation in court and arbitral proceedings, as well as proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. At March 31, 2022, we were subject to the following material litigation or governmental inquiri • a civil suit, JTS Communities, Inc. et. al v. CB&T, Jun Enkoji and Dawn Satow , brought against us in the Superior Court for Sacramento County, California in June 2017. In this case four investors in our former customer, International Manufacturing Group (“IMG”) seek to hold us liable for losses arising from their investments in that company, alleging that we conspired with and knowingly assisted IMG and its principal in furtherance of an alleged Ponzi scheme. In March 2022, the parties participated in mediation, which resulted in a binding settlement agreement. Our insurers are responsible for the payment of the settlement amount under applicable policies. The settlement is not expected to have a significant financial impact on the Bank. • a civil class action lawsuit, Evans v. CB&T , brought against us in the United States District Court for the Eastern District of California in May 2017. This case was filed on behalf of a class of up to 50 investors in IMG and seeks to hold us liable for losses of class members arising from their investments in IMG, alleging that we conspired with and knowingly assisted IMG and its principal in furtherance of an alleged Ponzi scheme. In December 2017, the District Court dismissed all claims against the Bank. In January 2018, the plaintiff filed an appeal with the Court of Appeals for the Ninth Circuit. The appeal was heard in early April 2019 with the Court of Appeals reversing the trial court’s dismissal. In March 2022, the parties participated in mediation and an agreement was reached in principle. Our insurers are responsible for the payment of the settlement amount under applicable policies. The settlement agreement will be submitted to the court for its preliminary approval of the agreement and notification of the putative class. There can be no assurance that the proposed settlement will result in a definitive agreement, that the conditions to the settlement will be met or the settlement will be approved by the court. If completed, the proposed settlement is not expected to have a significant financial impact on the Bank. • two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the Bank who filed for bankruptcy protection in 2017. The cases are in early phases, with initial motion practice and discovery underway in the Lifescan case. Trial has not been scheduled in either case. • a civil class action lawsuit, Gregory, et. al. v. Zions Bancorporation , brought against us in the United States District Court for Utah in January 2019. This case was filed on behalf of investors in Rust Rare Coin, Inc., alleging that we aided and abetted a Ponzi scheme fraud perpetrated by Rust Rare Coin, a Zions Bank customer. 68 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The case follows civil actions and the establishment of a receivership for Rust Rare Coin by The Commodities Futures Trading Commission and the Utah Division of Securities in November 2018, as well as a separate suit brought by the Securities and Exchange Commission (“SEC”) against Rust Rare Coin and its principal, Gaylen Rust. During the third quarter of 2020, the Court granted our motion to dismiss the plaintiffs' claims in part, dismissing claims relating to fraud and fiduciary duty, but allowing a claim for aiding and abetting conversion to proceed. On January 14, 2022, the parties notified the court they reached a settlement in principle and the parties are preparing to submit a proposed settlement agreement for the court’s preliminary approval of the agreement and notification of the putative class. There can be no assurance that the proposed settlement will result in a definitive agreement, that the conditions to the settlement will be met or the settlement will be approved by the court. If completed, the proposed settlement is not expected to have a significant financial impact on the Bank. • Five civil class action cases have been filed against us by the same plaintiffs’ attorney, seeking to hold the Bank liable for practices relating to, and disclosures in, its deposit agreement pertaining to fees. Sipple v. Zions Bancorporation, N.A. was brought against us in the District Court of Clark County, Nevada in February 2021 with respect to foreign transaction fees. The following four cases pertain to insufficient fund fees and have similar or overlapping claims: Ward v. Zions Bancorporation, N.A. was brought against us in federal court in the District of Arizona in May 2021; this case was dismissed by the court in February 2022, but the plaintiff has appealed. Thornton v. Zions Bancorporation, N.A. was brought against us in federal court in the District of Utah in June 2021; the attorney bringing this case took action to dismiss this case in February 2022. Christensen v. Zions Bancorporation, N.A. was brought against us in California state court in November 2021 and removed to federal court in the Southern District of California in January 2022. Covell v. Zions Bancorporation, N.A. was brought against us in federal court in the Southern District of California in April 2022. These cases are all in early phases of litigation. At least quarterly, we review outstanding and new legal matters, utilizing then available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at March 31, 2022, we estimated that the aggregate range of reasonably possible losses for those matters to be from $ 0 million to roughly $ 10 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and 69 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments and actual outcomes will differ from our estimates. These differences may be material. 11. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which was approximately 79 % of our total revenue in the first quarter of 2022. Only noninterest income is considered to be revenue from contracts with customers in scope of ASC 606. For more information about our revenue recognition from contracts, see Note 17 of our 2021 Form 10-K. Disaggregation of Revenue The schedule below presents noninterest income and net revenue by our operating business segments for the three months ended March 31, 2022 and 2021. Certain prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Zions Bank Amegy CB&T (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 15 $ 11 $ 11 $ 10 $ 7 $ 6 Card fees 13 13 8 6 5 4 Retail and business banking fees 6 5 4 4 3 3 Capital markets and foreign exchange fees — — — — — — Wealth management fees 6 5 4 3 1 1 Other customer-related fees 2 1 1 1 1 1 Total noninterest income from contracts with customers (ASC 606) 42 35 28 24 17 15 Other noninterest income (non-ASC 606 customer-related) 4 5 9 8 6 8 Total customer-related noninterest income 46 40 37 32 23 23 Other noncustomer-related noninterest income — ( 1 ) — — 1 1 Total noninterest income 46 39 37 32 24 24 Other real estate owned gain from sale — — — — — — Net interest income 157 157 112 116 129 131 Total income less interest expense $ 203 $ 196 $ 149 $ 148 $ 153 $ 155 70 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 2 $ 2 $ 3 $ 2 $ 2 $ 2 Card fees 4 2 3 3 2 1 Retail and business banking fees 2 2 3 3 1 1 Capital markets and foreign exchange fees — — — — — — Wealth management fees 1 1 1 1 — — Other customer-related fees — — — — 1 1 Total noninterest income from contracts with customers (ASC 606) 9 7 10 9 6 5 Other noninterest income (non-ASC 606 customer-related) 1 4 2 4 2 3 Total customer-related noninterest income 10 11 12 13 8 8 Other noncustomer-related noninterest income 1 — — — — — Total noninterest income 11 11 12 13 8 8 Other real estate owned gain from sale — — — — — — Net interest income 51 52 37 37 33 34 Total income less interest expense $ 62 $ 63 $ 49 $ 50 $ 41 $ 42 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 1 $ 1 $ — $ ( 2 ) $ 41 $ 32 Card fees — — 1 — 36 29 Retail and business banking fees — — — ( 1 ) 19 17 Capital markets and foreign exchange fees — — 1 2 1 2 Wealth management fees — — — — 13 11 Other customer-related fees — — 9 7 14 11 Total noninterest income from contracts with customers (ASC 606) 1 1 11 6 124 102 Other noninterest income (non-ASC 606 customer-related) — — 3 ( 1 ) 27 31 Total customer-related noninterest income 1 1 14 5 151 133 Other noncustomer-related noninterest income — — ( 11 ) 36 ( 9 ) 36 Total noninterest income 1 1 3 41 142 169 Other real estate owned gain from sale — — — — — — Net interest income 14 13 11 5 544 545 Total income less interest expense $ 15 $ 14 $ 14 $ 46 $ 686 $ 714 Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is typically not significant. 12. INCOME TAXES The effective income tax rate was 20.4 % for the first quarter of 2022, compared with 21.7 % for the first quarter of 2021. These rates were reduced by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the non-deductibility of Federal Deposit Insurance Corporation (“FDIC”) premiums, certain executive compensation plans, and other fringe benefits. The tax rate for the first quarter 2022 was lower than the tax rate for the same prior year period, primarily as a result of the proportional increase in nontaxable items and tax credits relative to pretax book income. At March 31, 2022, we had a net deferred tax asset (“DTA”) totaling $ 467 million, compared with $ 96 million at December 31, 2021. On the consolidated balance sheet, the net DTA is included in “Other assets.” The increase in the net DTA was driven largely by the increase in unrealized losses in AOCI associated with investment securities and derivative instruments, and was partially offset by the negative provision for credit losses and a decrease in deferred compensation. 71 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES There was no valuation allowance at March 31, 2022 or December 31, 2021. We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more-likely-than-not criteria that such assets will be realized. This evaluation includes, but is not limited to, (1) available carryback potential to prior tax years; (2) potential future reversals of existing deferred tax liabilities, which historically have a reversal pattern generally consistent with DTAs; (3) potential tax planning strategies; and (4) future projected taxable income. Based on this evaluation, we concluded that a valuation allowance was not required at March 31, 2022. 13. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: Three Months Ended March 31, (In millions, except shares and per share amounts) 2022 2021 Basic: Net income $ 203 $ 322 Less common and preferred dividends 66 64 Undistributed earnings 137 258 Less undistributed earnings applicable to nonvested shares 1 2 Undistributed earnings applicable to common shares 136 256 Distributed earnings applicable to common shares 57 56 Total earnings applicable to common shares $ 193 $ 312 Weighted average common shares outstanding (in thousands) 151,285 163,551 Net earnings per common share $ 1.27 $ 1.90 Dilut Total earnings applicable to common shares $ 193 $ 312 Weighted average common shares outstanding (in thousands) 151,285 163,551 Dilutive effect of stock options (in thousands) 402 336 Weighted average diluted common shares outstanding (in thousands) 151,687 163,887 Net earnings per common share $ 1.27 $ 1.90 The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per sh Three Months Ended March 31, (In thousands) 2022 2021 Restricted stock and restricted stock units 1,339 1,414 Stock options 109 377 14. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, Amegy Bank, California Bank & Trust, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. The operating segment identified as “Other” includes certain non-bank financial service subsidiaries, centralized back-office functions, and eliminations of transactions between segments. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an 72 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES internal funds transfer pricing (“FTP”) allocation system and process to report results of operations for business segments, which is continually refined. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. At March 31, 2022, Zions Bank operated 96 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. Amegy operated 75 branches in Texas. CB&T operated 82 branches in California. NBAZ operated 56 branches in Arizona. NSB operated 43 branches in Nevada. Vectra operated 34 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. 73 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the three months ended March 31, 2022 and 2021: Zions Bank Amegy CB&T (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 157 $ 157 $ 112 $ 116 $ 129 $ 131 Provision for credit losses ( 2 ) ( 11 ) ( 27 ) ( 53 ) 6 ( 37 ) Net interest income after provision for credit losses 159 168 139 169 123 168 Noninterest income 46 39 37 32 24 24 Noninterest expense 123 117 86 85 84 80 Income (loss) before income taxes $ 82 $ 90 $ 90 $ 116 $ 63 $ 112 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 12,817 $ 13,730 $ 11,795 $ 12,704 $ 12,845 $ 13,051 Total average deposits 26,120 21,711 16,413 14,243 16,468 15,183 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 51 $ 52 $ 37 $ 37 $ 33 $ 34 Provision for credit losses ( 4 ) ( 10 ) ( 3 ) ( 18 ) ( 4 ) — Net interest income after provision for credit losses 55 62 40 55 37 34 Noninterest income 11 11 12 13 8 8 Noninterest expense 40 38 37 36 30 28 Income (loss) before income taxes $ 26 $ 35 $ 15 $ 32 $ 15 $ 14 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 4,774 $ 5,108 $ 2,817 $ 3,247 $ 3,398 $ 3,451 Total average deposits 7,953 6,544 7,437 6,069 4,298 4,279 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 14 $ 13 $ 11 $ 5 $ 544 $ 545 Provision for credit losses — ( 3 ) 1 — ( 33 ) ( 132 ) Net interest income after provision for credit losses 14 16 10 5 577 677 Noninterest income 1 1 3 41 142 169 Noninterest expense 6 6 58 45 464 435 Income (loss) before income taxes $ 9 $ 11 $ ( 45 ) $ 1 $ 255 $ 411 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,591 $ 1,573 $ 896 $ 801 $ 50,933 $ 53,665 Total average deposits 1,581 1,398 1,335 2,019 81,605 71,446 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Interest rate and market risks are among the most significant risks regularly undertaken by us, and they are closely monitored as previously discussed. A discussion regarding our management of interest rate and market risk is included in the section entitled “Interest Rate and Market Risk Management” in this Form 10-Q. ITEM 4. CONTROLS AND PROCEDURES Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures at March 31, 2022. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at March 31, 2022. There were no changes in our internal control over financial reporting during the first quarter of 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 74 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The information contained in Note 10 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 1A. RISK FACTORS The following risk factor supplements the risk factors disclosed in our 2021 Form 10-K. The Russian invasion of Ukraine and the retaliatory measures imposed by the U.S., U.K., European Union and other countries and the responses of Russia to such measures have caused significant disruptions to domestic and foreign economies. The Russia and Ukraine conflict has created new risks for global markets, trade, economic conditions, cybersecurity, and similar concerns. For example, the conflict could affect the availability and price of commodities and products, adversely affecting supply chains and increasing inflationary pressures; the value of currencies, interest rates and other components of financial markets; and, if the conflict escalates, cyberattacks that could result in severe costs and disruptions to governmental entities and companies and their operations. The impact of the conflict and retaliatory measures is continually evolving and cannot be predicted with certainty. It is likely that the conflict will continue to affect the global political order and global and domestic markets for a substantial period of time, regardless of when the conflict itself ends. While these events have not materially interrupted our operations, these or future developments resulting from the Russia and Ukraine conflict, such as cyberattacks on the U.S., us, our customers, or our vendors, could make it difficult to conduct business activities for us, our customers, or our vendors. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS The following schedule summarizes our share repurchases for the first quarter of 2022: SHARE REPURCHASES Period Total number of shares repurchased 1 Average price paid per share Total number of shares purchased as part of publicly announced plans or programs January 1,742 $ 68.82 — February 116,693 70.03 107,559 March 659,813 64.59 658,022 First quarter 778,248 65.42 765,581 1 Includes common shares acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options under provisions of an employee share-based compensation plan. 75 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 6. EXHIBITS a. Exhibits Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in Inline XBRL (i) the Consolidated Balance Sheets as of March 31, 2022 and December 31, 2021, (ii) the Consolidated Statements of Income for the three months ended March 31, 2022 and March 31, 2021, (iii) the Consolidated Statements of Comprehensive Income for the three months ended March 31, 2022 and March 31, 2021, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the three months ended March 31, 2022 and March 31, 2021, (v) the Consolidated Statements of Cash Flows for the three months ended March 31, 2022 and March 31, 2021, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Quarterly Report on Form 10-Q, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. 76 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZIONS BANCORPORATION, NATIONAL ASSOCIATION /s/ Harris H. Simmons Harris H. Simmons, Chairman and Chief Executive Officer /s/ Paul E. Burdiss Paul E. Burdiss, Executive Vice President and Chief Financial Officer Date: May 6, 2022 77 |
Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) 36 Consolidated Balance Sheets 36 Consolidated Statements of Income 37 Consolidated Statements of Comprehensive Income (Loss) 38 Consolidated Statements of Changes in Shareholders’ Equity 38 Consolidated Statements of Cash Flows 40 Notes to Consolidated Financial Statements 41 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 4 Item 3. Quantitative and Qualitative Disclosures About Market Risk 80 Item 4. Controls and Procedures 81 PART II. OTHER INFORMATION Item 1. Legal Proceedings 81 Item 1A. Risk Factors 81 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 82 Item 6. Exhibits 83 Signatures 84 2 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses IPO Initial Public Offering AFS Available-for-Sale IRS Internal Revenue Service ALLL Allowance for Loan and Lease Losses LIBOR London Interbank Offered Rate Amegy Amegy Bank, a division of Zions Bancorporation, National Association Municipalities State and Local Governments AMERIBOR American Interbank Offered Rate NAICS North American Industry Classification System AOCI Accumulated Other Comprehensive Income NASDAQ National Association of Securities Dealers Automated Quotations ASC Accounting Standards Codification NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association ASU Accounting Standards Update NIM Net Interest Margin BOLI Bank-Owned Life Insurance NM Not Meaningful bps Basis Points NSB Nevada State Bank, a division of Zions Bancorporation, National Association BSBY Bloomberg Short-Term Bank Yield OCC Office of the Comptroller of the Currency CB&T California Bank & Trust, a division of Zions Bancorporation, National Association OCI Other Comprehensive Income CECL Current Expected Credit Loss OREO Other Real Estate Owned CLTV Combined Loan-to-Value Ratio PEI Private Equity Investment CMT Constant Maturity Treasury PPNR Pre-provision Net Revenue CRE Commercial Real Estate PPP Paycheck Protection Program CVA Credit Valuation Adjustment ROU Right-of-Use DTA Deferred Tax Asset RULC Reserve for Unfunded Lending Commitments EaR Earnings at Risk S&P Standard & Poor's EPS Earnings per Share SBA U.S. Small Business Administration EVE Economic Value of Equity SBIC Small Business Investment Company FASB Financial Accounting Standards Board SEC Securities and Exchange Commission FDIC Federal Deposit Insurance Corporation SOFR Secured Overnight Financing Rate FHLB Federal Home Loan Bank TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association FRB Federal Reserve Board TDR Troubled Debt Restructuring FTP Funds Transfer Pricing U.K. United Kingdom GAAP Generally Accepted Accounting Principles U.S. United States HECL Home Equity Credit Line Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association HTM Held-to-Maturity Zions Bank Zions Bank, a division of Zions Bancorporation, National Association IMG International Manufacturing Group 3 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION PART I. FINANCIAL INFORMATION ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING INFORMATION This quarterly report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. These forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although this list is not comprehensive, important factors that may cause material differences include changes in general industry and economic conditions, including inflation; changes and uncertainties in legislation and fiscal, monetary, regulatory, trade, and tax policies; changes in interest and reference rates; the quality and composition of our loan and securities portfolios; our ability to recruit and retain talent, including increased competition for qualified candidates as a result of expanded remote-work opportunities and increased compensation expenses; competitive pressures and other factors that may affect aspects of our business, such as pricing, demand for our products and services; our ability to execute our strategic plans, manage our risks, and achieve our business objectives; our ability to develop and maintain information security systems and controls designed to guard against fraud, cyber, and privacy risks; the effects of the COVID-19 pandemic (including variants) and associated actions that may affect our business, employees, and communities; the effects of the ongoing conflict in Eastern Europe and other local, national, or international disasters, crises, or conflicts that may occur in the future; and governmental and social responses to environmental issues and climate change. These factors, risks, and uncertainties, among others, are discussed in our 2021 Form 10-K and subsequent filings with the Securities and Exchange Commission (“SEC”). We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any of the forward-looking statements included herein to reflect future events or developments. GAAP to NON-GAAP RECONCILIATIONS This Form 10-Q presents non-GAAP financial measures, in addition to generally accepted accounting principles (“GAAP”) financial measures, to provide investors with additional information. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results and provide a meaningful base for period-to-period and company-to-company comparisons. We use these non-GAAP financial measures to assess our performance, financial position, and for presentations of our performance to investors. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by our management and the financial services industry. 4 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar financial measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under GAAP. Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets and their related amortization. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a business more consistently, whether acquired or developed internally. RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Three Months Ended (Dollar amounts in millions) June 30, 2022 March 31, 2022 June 30, 2021 Net earnings applicable to common shareholders, net of tax (a) $ 195 $ 195 $ 345 Average common equity (GAAP) $ 5,582 $ 6,700 $ 7,436 Average goodwill and intangibles (1,015) (1,015) (1,015) Average tangible common equity (non-GAAP) (b) $ 4,567 $ 5,685 $ 6,421 Number of days in quarter (c) 91 90 91 Number of days in year (d) 365 365 365 Return on average tangible common equity (non-GAAP) (a/b/c)*d 17.1 % 13.9 % 21.6 % TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) June 30, 2022 March 31, 2022 June 30, 2021 Total shareholders’ equity (GAAP) $ 5,632 $ 6,294 $ 8,033 Goodwill and intangibles (1,015) (1,015) (1,015) Tangible equity (non-GAAP) (a) 4,617 5,279 7,018 Preferred stock (440) (440) (440) Tangible common equity (non-GAAP) (b) $ 4,177 $ 4,839 $ 6,578 Total assets (GAAP) $ 87,784 $ 91,126 $ 87,208 Goodwill and intangibles (1,015) (1,015) (1,015) Tangible assets (non-GAAP) (c) $ 86,769 $ 90,111 $ 86,193 Common shares outstanding (thousands) (d) 150,471 151,348 162,248 Tangible equity ratio (non-GAAP) (a/c) 5.3 % 5.9 % 8.1 % Tangible common equity ratio (non-GAAP) (b/c) 4.8 % 5.4 % 7.6 % Tangible book value per common share (non-GAAP) (b/d) $ 27.76 $ 31.97 $ 40.54 5 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. The methodology of determining the efficiency ratio may differ among companies. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allow for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how we are managing our expenses; adjusted pre-provision net revenue (“PPNR”) enables management and others to assess our ability to generate capital. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) Three Months Ended Six Months Ended Year Ended (Dollar amounts in millions) June 30, 2022 March 31, 2022 June 30, 2021 June 30, 2022 June 30, 2021 December 31, 2021 Noninterest expense (GAAP) (a) $ 464 $ 464 $ 428 $ 928 $ 863 $ 1,741 Adjustments: Severance costs 1 — — 1 — 1 Other real estate expense, net — 1 — 1 — — Amortization of core deposit and other intangibles — — — — — 1 Pension termination-related (income) expense 1 — — — — (5) (5) SBIC investment success fee accrual 2 — (1) 9 (1) 9 7 Total adjustments (b) 1 — 9 1 4 4 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 463 $ 464 $ 419 $ 927 $ 859 $ 1,737 Net interest income (GAAP) (d) $ 593 $ 544 $ 555 $ 1,137 $ 1,100 $ 2,208 Fully taxable-equivalent adjustments (e) 9 8 7 17 15 32 Taxable-equivalent net interest income (non-GAAP) (d+e)=f 602 552 562 1,154 1,115 2,240 Noninterest income (GAAP) g 172 142 205 314 374 703 Combined income (non-GAAP) (f+g)=(h) 774 694 767 1,468 1,489 2,943 Adjustments: Fair value and nonhedge derivative gain (loss) 10 6 (5) 16 13 14 Securities gains (losses), net 2 1 (17) 63 (16) 74 71 Total adjustments (i) 11 (11) 58 — 87 85 Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 763 $ 705 $ 709 $ 1,468 $ 1,402 $ 2,858 Pre-provision net revenue (non-GAAP) (h)-(a) $ 310 $ 230 $ 339 $ 540 $ 626 $ 1,202 Adjusted PPNR (non-GAAP) (j)-(c) 300 241 290 541 543 1,121 Efficiency ratio (non-GAAP) 3 (c/j) 60.7 % 65.8 % 59.1 % 63.1 % 61.3 % 60.8 % 1 Represents a valuation adjustment related to the termination of our defined benefit pension plan. 2 The success fee accrual is associated with the gains/(losses) from our SBIC investments, which are excluded from the efficiency ratio through securities gains (losses), net. 3 Results for the first quarter of 2022 benefited from a one-time adjustment of approximately $6 million in commercial account fees. Excluding the $6 million adjustment, the efficiency ratio for the first quarter of 2022 would have been 66.4% . 6 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Comparisons noted below are calculated for the current quarter compared with the same prior-year period unless otherwise specified. Growth rates of 100% or more are considered not meaningful (“NM”) as they generally reflect a low starting point. RESULTS OF OPERATIONS Executive Summary Our financial results in the second quarter of 2022 reflected strong loan growth, solid credit performance, and increasing revenue, partially offset by a significant reduction in Paycheck Protection Program (“PPP”) revenue. Diluted earnings per share (“EPS”) decreased to $1.29, compared with $2.08 in the second quarter of 2021, as the prior year quarter benefited from a large negative provision for credit losses and a significant unrealized gain related to our Small Business Investment Company (“SBIC”) investment portfolio. Net interest income increased $38 million, or 7%, to $593 million, primarily due to a $3.1 billion increase in average interest-earning assets, a favorable change in earning-asset composition, and a higher interest rate environment. The net interest margin (“NIM”) was 2.87%, compared with 2.79% in the second quarter of 2021. The provision for credit losses was $41 million, compared with a $(123) million provision in the prior year period, reflecting changes in economic forecasts and loan growth. Net loan and lease charge-offs were $9 million, or 0.07% of average loans (ex-PPP), compared with net recoveries of $2 million, or (0.02)% of average loans (ex-PPP), in the prior year quarter. Total customer-related noninterest income increased $15 million, or 11%, driven by increased customer activity across most fee categories, notably capital markets and foreign exchange fees, other customer-related fees, and commercial account fees. Total noninterest income decreased $33 million, or 16%, primarily due to a $63 million unrealized gain during the prior year period relating to our SBIC investment in Recursion Pharmaceuticals, Inc. Total noninterest expense increased $36 million, or 8%. The increase was largely driven by a $35 million increase in salaries and benefits expense, which was impacted by increased incentive compensation accruals arising from improvements in anticipated full-year profitability, inflationary and competitive labor market pressures on wages and benefits, and increased headcount. Our efficiency ratio was 60.7%, compared with 59.1%. The growth in average interest-earning assets was driven by an $8.7 billion increase in average available-for-sale (“AFS”) investment securities and a $3.6 billion increase in average commercial loans (non-PPP) as we actively deployed excess liquidity. These increases were partially offset by declines in average PPP loans and average money market investments. Excluding PPP loans, total loans and leases increased $4.9 billion, or 10%, to $51.8 billion. The increases were primarily in the commercial and industrial, owner-occupied, municipal, and home equity credit line (“HECL”) portfolios. Total loans and leases increased $1.0 billion, or 2%, from the prior year quarter. Total deposits increased $3.0 billion, or 4%, from the prior year quarter, primarily due to a $2.2 billion increase in noninterest-bearing deposits. At June 30, 2022, total deposits decreased $3.3 billion from the previous quarter, primarily due to deposit attrition driven by a limited number of customers with deposit balances greater than $50 million. Our loan-to-deposit ratio was 66%, compared with 62% in the prior quarter. 7 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Second Quarter 2022 Financial Performance Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency Ratio Net earnings applicable to common shareholders decreased from the second quarter of 2021. The prior year quarter benefited from a ($123) million provision for credit losses, compared with $41 million in the second quarter of 2022. Diluted earnings per share declined from the second quarter of 2021 as a result of decreased net earnings, the effect of which was partially offset by a 12.2 million decrease in weighted average diluted shares, primarily due to share repurchases. Adjusted PPNR increased $10 million from the second quarter of 2021, primarily due to growth in customer-related noninterest income. This increase was partially offset by higher adjusted noninterest expense, driven by an increase in salaries and benefits expense. The efficiency ratio increased from the prior year quarter, primarily as growth in adjusted noninterest expense exceeded growth in adjusted revenue. Net Interest Income and Net Interest Margin NET INTEREST INCOME AND NET INTEREST MARGIN Three Months Ended June 30, Amount change Percent change (Dollar amounts in millions) 2022 2021 Interest and fees on loans 1 $ 468 $ 492 $ (24) (5) % Interest on money market investments 12 4 8 NM Interest on securities 128 74 54 73 Total interest income 608 570 38 7 Interest on deposits 7 7 — — Interest on short- and long-term borrowings 8 8 — — Total interest expense 15 15 — — Net interest income $ 593 $ 555 $ 38 7 % Average interest-earning assets $ 84,041 $ 80,916 $ 3,125 4 % Average interest-bearing liabilities $ 41,234 $ 40,232 $ 1,002 2 % bps Yield on interest-earning assets 2 2.94 % 2.86 % 8 Rate paid on total deposits and interest-bearing liabilities 2 0.07 % 0.08 % (1) Cost of total deposits 2 0.03 % 0.04 % (1) Net interest margin 2 2.87 % 2.79 % 8 1 Includes interest income recoveries of $4 million and $2 million for the three months ended June 30, 2022, and 2021, respectively. 2 Rates are calculated using amounts in thousands; taxable-equivalent rates are used where applicable. 8 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Net interest income accounted for approximately 78% of our net revenue (net interest income plus noninterest income) for the quarter, and increased $38 million, or 7%, to $593 million, primarily due to growth in average interest-earning assets, a favorable change in earning-asset composition, and a higher interest rate environment. Average interest-earning assets increased $3.1 billion, or 4%, driven by growth of $8.7 billion in AFS securities and $3.6 billion in commercial loans (ex-PPP). These increases were partially offset by a $5.1 billion decline in average PPP loans and $4.6 billion decrease in average money market investments. Average securities increased to 32% of average interest-earning assets, compared with 22%, as we actively deployed excess liquidity. The NIM was 2.87%, compared with 2.79%. The yield on average interest-earning assets was 2.94% in the second quarter of 2022, an increase of eight basis points (“bps”), primarily due to an increase in the yield on securities. The average rate paid on interest-bearing liabilities remained relatively stable at 0.14%. Excluding PPP loans, average loans and leases increased $4.2 billion, or 9%, primarily in the commercial and industrial, owner-occupied, municipal, and home equity credit line portfolios. Total average loans and leases decreased $1.0 billion, or 2%, to $51.8 billion, primarily due to the forgiveness of PPP loans. The yield on total loans decreased 10 basis points to 3.67%. The yield on non-PPP loans decreased six basis points, due to lower yields on new originations during the past year arising, in part, from promotional rates on commercial owner-occupied loans and home equity credit lines that we utilized to deploy excess liquidity. During the second quarter of 2022 and 2021, PPP loans totaling $0.6 billion and $2.3 billion, respectively, were forgiven by the Small Business Administration (“SBA”). PPP loans contributed $15 million and $68 million in interest income during the same time periods. The yield on PPP loans was 7.45% and 4.56% for the respective periods, and was positively impacted by accelerated amortization of deferred fees on paid off or forgiven PPP loans. At June 30, 2022 and 2021, the remaining unamortized net deferred fees on PPP loans totaled $11 million and $137 million, respectively. Average total deposits increased $6.3 billion, or 8%, to $80.9 billion at an average cost of 0.03%, from $74.6 billion at an average cost of 0.04% in the second quarter of 2021. Average interest-bearing liabilities increased $1.0 billion, or 2%. The rate paid on total deposits and interest-bearing liabilities remained relatively stable at 0.07%. 9 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Average AFS securities balances increased $8.7 billion, or 51%, to $25.7 billion, mainly due to an increase in our mortgage-backed securities portfolio. The yield on securities increased 26 basis points to 1.97%, largely due to higher interest rates. We expect our securities portfolio to decline modestly over the near term. Average borrowed funds decreased $0.7 billion, or 34%, to $1.4 billion, mainly due to a decrease in average long-term debt. The average rate paid on total borrowed funds increased 74 bps from the prior year quarter, primarily due to lower-yielding senior debt that was redeemed or matured over the past year. The growth of deposits has allowed us to reduce borrowed funds. For further discussion of the effects of market rates on net interest income and how we manage interest rate risk, refer to the “Interest Rate and Market Risk Management” section on page 28. For more information on how we manage liquidity risk, refer to the “Liquidity Risk Management” section on page 32. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 10 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED AVERAGE BALANCE SHEETS, YIELDS AND RATES (Unaudited) Three Months Ended June 30, 2022 Three Months Ended June 30, 2021 (Dollar amounts in millions) Average balance Amount of interest Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 3,113 $ 5 0.66 % $ 8,848 $ 2 0.11 % Federal funds sold and security resell agreements 2,542 7 1.13 1,405 2 0.51 Total money market investments 5,655 12 0.87 10,253 4 0.17 Securiti Held-to-maturity 485 4 2.96 579 4 2.91 Available-for-sale 25,722 123 1.91 17,041 69 1.63 Trading account 357 4 5.07 211 3 4.43 Total securities 2 26,564 131 1.97 17,831 76 1.71 Loans held for sale 38 — 0.72 62 1 2.50 Loans and leases 3 Commercial – excluding PPP loans 28,151 260 3.71 24,560 236 3.85 Commercial – PPP loans 801 15 7.45 5,945 68 4.56 Commercial real estate 12,098 112 3.69 12,037 103 3.46 Consumer 10,734 87 3.24 10,228 89 3.51 Total loans and leases 51,784 474 3.67 52,770 496 3.77 Total interest-earning assets 84,041 617 2.94 80,916 577 2.86 Cash and due from banks 617 579 Allowance for credit losses on loans and debt securities (480) (647) Goodwill and intangibles 1,015 1,015 Other assets 4,712 4,094 Total assets $ 89,905 $ 85,957 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 38,325 $ 6 0.06 % $ 35,987 $ 5 0.06 % Time 1,488 1 0.24 2,108 2 0.42 Total interest-bearing deposits 39,813 7 0.07 38,095 7 0.08 Borrowed funds: Federal funds purchased and other short-term borrowings 743 1 0.70 834 1 0.06 Long-term debt 678 7 3.79 1,303 7 2.31 Total borrowed funds 1,421 8 2.17 2,137 8 1.43 Total interest-bearing liabilities 41,234 15 0.14 40,232 15 0.15 Noninterest-bearing demand deposits 41,074 36,545 Other liabilities 1,575 1,200 Total liabilities 83,883 77,977 Shareholders’ equity: Preferred equity 440 544 Common equity 5,582 7,436 Total shareholders’ equity 6,022 7,980 Total liabilities and shareholders’ equity $ 89,905 $ 85,957 Spread on average interest-bearing funds 2.80 % 2.71 % Net impact of noninterest-bearing sources of funds 0.07 % 0.08 % Net interest margin $ 602 2.87 % $ 562 2.79 % Me total loans and leases, excluding PPP loans $ 50,983 459 3.61 % $ 46,825 428 3.67 % Me total cost of deposits 0.03 % 0.04 % Me total deposits and interest-bearing liabilities 82,308 15 0.07 % 76,777 15 0.08 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. The taxable-equivalent rates used are the rates that were applicable at the time of each respective reporting period. 2 Interest on total securities includes $27 million and $29 million of taxable-equivalent premium amortization for the second quarters of 2022 and 2021, respectively. 3 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 11 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Six Months Ended June 30, 2022 Six Months Ended June 30, 2021 (Dollar amounts in millions) Average balance Amount of interest 1 Average yield/rate Average balance Amount of interest 1 Average yield/rate ASSETS Money market investments $ 7,336 $ 18 0.50 % $ 9,029 $ 7 0.17 % Securiti Held-to-maturity 462 7 3.04 620 9 2.95 Available-for-sale 25,485 229 1.81 16,462 135 1.66 Trading account 370 9 4.91 221 5 4.18 Total securities 2 26,317 245 1.88 17,303 149 1.74 Loans held for sale 48 — 1.44 65 1 2.66 Loans and leases 3 Commercial – excluding PPP loans 27,597 496 3.63 24,646 470 3.84 Commercial – PPP loans 1,128 39 6.93 6,039 128 4.26 Commercial real estate 12,134 213 3.53 12,085 208 3.48 Consumer 10,501 169 3.24 10,445 184 3.55 Total loans and leases 51,360 917 3.60 53,215 990 3.75 Total interest-earning assets 85,061 1,180 2.80 79,612 1,147 2.90 Cash and due from banks 621 597 Allowance for loan losses (497) (710) Goodwill and intangibles 1,015 1,015 Other assets 4,463 4,012 Total assets $ 90,663 $ 84,526 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 38,726 $ 11 0.05 % $ 35,611 $ 11 0.06 % Time 1,538 2 0.25 2,299 5 0.49 Total interest-bearing deposits 40,264 13 0.06 37,910 16 0.09 Borrowed funds: Federal funds purchased and other short-term borrowings 669 1 0.42 971 1 0.06 Long-term debt 750 12 3.17 1,314 15 2.31 Total borrowed funds 1,419 13 1.88 2,285 16 1.35 Total interest-bearing liabilities 41,683 26 0.12 40,195 32 0.16 Noninterest-bearing demand deposits 40,980 35,142 Other liabilities 1,422 1,249 Total liabilities 84,085 76,586 Shareholders’ equity: Preferred equity 440 555 Common equity 6,138 7,385 Total shareholders’ equity 6,578 7,940 Total liabilities and shareholders’ equity $ 90,663 $ 84,526 Spread on average interest-bearing funds 2.68 % 2.74 % Net impact of noninterest-bearing sources of funds 0.05 % 0.08 % Net interest margin $ 1,154 2.73 % $ 1,115 2.82 % Me total loans and leases, excluding PPP loans $ 50,232 878 3.52 % $ 47,176 862 3.68 % Me total interest-earning assets, excluding PPP loans 83,933 1,141 2.74 % 73,573 1,019 2.79 % Me total cost of deposits 0.03 % 0.05 % Me total deposits and interest-bearing liabilities 82,663 26 0.06 % 75,337 32 0.08 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. The taxable-equivalent rates used are the rates that were applicable at the time of each respective reporting period. 2 Interest on total securities includes $55 million and $59 million of taxable-equivalent premium amortization for the first six months of 2022 and 2021, respectively. 3 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 12 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans. The provision for credit losses, which is the combination of both the provision for loan and lease losses and the provision for unfunded lending commitments, was $41 million, compared with $(123) million in the second quarter of 2021. The ACL was $546 million at June 30, 2022, compared with $574 million at June 30, 2021. The ACL increased $32 million from the previous quarter, primarily due to the increased probability of a recession and loan growth. The ACL is informed by our view of economic forecasts, which have changed over the first six months of 2022. The ratio of ACL to net loans and leases (ex-PPP) was 1.05% and 1.22% at June 30, 2022 and 2021, respectively. The provision for securities losses was less than $1 million during the second quarter of 2022 and 2021. 13 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The bar chart above illustrates the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic forecasts and current economic conditions, which decreased the ACL by $16 million from the prior year quarter. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, decreased the ACL by $15 million, indicating improvements in overall credit quality. Net loan and lease charge-offs were $9 million, or 0.07% annualized of average loans (ex-PPP), in the second quarter of 2022, compared with net recoveries of $2 million, or 0.02% annualized of average loans (ex-PPP), in the prior year quarter. The fourth bar represents loan portfolio changes, driven by loan growth (ex-PPP), changes in portfolio mix, the aging of the portfolio, and other risk factors; all of which resulted in a $3 million increase in the ACL. See “Credit Risk Management” on page 21 and Note 6 in our 2021 Form 10-K for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue we earn from products and services that generally have no associated interest rate or yield and is classified as either customer-related or noncustomer-related. Customer-related noninterest income excludes items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income decreased $33 million, or 16%, from $205 million during the prior year quarter. Noninterest income accounted for 22% and 27% of net revenue during the second quarter of 2022 and 2021, respectively. The following schedule presents a comparison of the major components of noninterest income. 14 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION NONINTEREST INCOME Three Months Ended June 30, Amount change Percent change Six Months Ended June 30, Amount change Percent change (Dollar amounts in millions) 2022 2021 2022 2021 Commercial account fees $ 37 $ 34 $ 3 9 % $ 78 $ 66 $ 12 18 % Card fees 25 24 1 4 50 45 5 11 Retail and business banking fees 20 18 2 11 40 35 5 14 Loan-related fees and income 21 21 — — 43 46 (3) (7) Capital markets and foreign exchange fees 21 17 4 24 36 32 4 13 Wealth management fees 13 12 1 8 27 24 3 13 Other customer-related fees 17 13 4 31 31 24 7 29 Customer-related noninterest income 154 139 15 11 305 272 33 12 Fair value and nonhedge derivative income 10 (5) 15 NM 16 13 3 23 Dividends and other income 7 8 (1) (13) 9 15 (6) (40) Securities gains (losses), net 1 63 (62) (98) (16) 74 (90) NM Noncustomer-related noninterest income 18 66 (48) (73) 9 102 (93) (91) Total noninterest income $ 172 $ 205 $ (33) (16) % $ 314 $ 374 $ (60) (16) % Customer-related Total customer-related noninterest income increased $15 million, or 11%, from the prior year quarter, mainly due to increased customer transaction activity across most fee categories, notably capital markets and foreign exchange fees, other customer-related fees, and commercial account fees. Retail and business banking fees include overdraft and non-sufficient funds fees. Beginning in the third quarter of 2022, we expect to reduce the rate and frequency with which such fees are assessed. Relative to current activity levels, we expect this will reduce our customer-related noninterest income by approximately $5 million per quarter. Noncustomer-related Total noncustomer-related noninterest income decreased $48 million, relative to the prior year quarter. Net securities gains and losses decreased $62 million, mainly due to a large unrealized gain during the prior year period related to the initial public offering (“IPO”) of our SBIC investment in Recursion Pharmaceuticals, Inc. Fair value and nonhedge derivative income increased $15 million from the prior year period. We recognized a $10 million gain during the quarter related to a credit valuation adjustment (“CVA”) on client-related interest rate swaps, compared with a $5 million CVA loss in the prior year period. 15 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Noninterest Expense The following schedule presents a comparison of the major components of noninterest expense. NONINTEREST EXPENSE Three Months Ended June 30, Amount change Percent change Six Months Ended June 30, Amount change Percent change (Dollar amounts in millions) 2022 2021 2022 2021 Salaries and employee benefits $ 307 $ 272 $ 35 13 % $ 619 $ 560 $ 59 11 % Technology, telecom, and information processing 53 49 4 8 105 98 7 7 Occupancy and equipment, net 36 39 (3) (8) 74 78 (4) (5) Professional and legal services 14 18 (4) (22) 28 39 (11) (28) Marketing and business development 9 7 2 29 17 14 3 21 Deposit insurance and regulatory expense 13 7 6 86 23 17 6 35 Credit-related expense 7 6 1 17 14 12 2 17 Other real estate expense, net — — — NM 1 — 1 NM Other 25 30 (5) (17) 47 45 2 4 Total noninterest expense $ 464 $ 428 $ 36 8 % $ 928 $ 863 $ 65 8 % Adjusted noninterest expense 1 $ 463 $ 419 $ 44 11 % $ 927 $ 859 $ 68 8 % 1 For information on non-GAAP financial measures, see “GAAP to Non-GAAP Reconciliations” on page 4. Total noninterest expense increased $36 million, or 8%, relative to the prior year quarter. Salaries and benefits expense increased $35 million, or 13%, due to increased incentive compensation accruals arising from improvements in anticipated full-year profitability, inflationary and competitive labor market pressures on wages and benefits, and increased headcount. Deposit insurance and regulatory expense increased $6 million, driven by a higher Federal Deposit Insurance Corporation (“FDIC”) insurance assessment as a result of changes in balance sheet composition. Other noninterest expense decreased $5 million, or 17%, primarily due to the success fee accrual in the prior year period related to the IPO of our SBIC investment in Recursion Pharmaceuticals, Inc. Professional and legal services expense decreased $4 million, or 22%, due to reduced third-party assistance associated with PPP loan forgiveness and various other technology-related and outsourced services. The efficiency ratio was 60.7%, compared with 59.1%. For information on non-GAAP financial measures, including differences between noninterest expense and adjusted noninterest expense, see page 4. Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods present INCOME TAXES Three Months Ended June 30, Six Months Ended June 30, (Dollar amounts in millions) 2022 2021 2022 2021 Income before income taxes $ 260 $ 455 $ 515 $ 866 Income tax expense 57 101 109 190 Effective tax rate 21.9 % 22.2 % 21.2 % 21.9 % See Note 12 of the Notes to Consolidated Financial Statements for more information about the factors that influenced the income tax rates as well as information about deferred income tax assets and liabilities. 16 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Preferred Stock Dividends Preferred stock dividends totaled $8 million and $9 million for the second quarter of 2022 and 2021, respectively. Technology Spend As the banking industry continues to move toward information technology-based products and services, we recognize there are disparate ways of discussing expenditures associated with technology-related investments and operations. We generally describe these expenditures as total technology spend, which includes current period expenses reported on our consolidated statement of income, and capitalized investments, net of related amortization and depreciation, reported on our consolidated balance sheet. We believe these disclosures provide more relevant presentation and discussion regarding our technology-related investments and operations. The following schedule provides information related to our technology spen TECHNOLOGY SPEND Three Months Ended June 30, Six Months Ended June 30, (In millions) 2022 2021 2022 2021 Technology, telecom, and information processing expense $ 53 $ 49 $ 105 $ 98 Other technology-related expense 51 48 100 92 Technology investments 22 24 44 52 L related amortization and depreciation (13) (14) (27) (27) Total technology spend $ 113 $ 107 $ 222 $ 215 Total technology spend increased $6 million, or 6%, from the second quarter of 2021, primarily due to increases in application software licensing and maintenance expense. Total technology spend represents expenditures for technology systems and infrastructure and is reported as a combination of the followin • Technology, telecom, and information processing expense — includes expenses related to application software licensing and maintenance, related amortization, telecommunications, and data processing; • Other technology-related expenses — includes related noncapitalized salaries and employee benefits, occupancy and equipment, and professional and legal services; and • Technology investments — includes capitalized technology infrastructure equipment, hardware, and purchased or internally developed software, less related amortization or depreciation. BALANCE SHEET ANALYSIS Interest-Earning Assets Interest-earning assets are assets that have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see the Consolidated Average Balance Sheet on page 11. Investment Securities Portfolio We invest in securities to generate interest income and to actively manage liquidity, interest rate, and credit risk. Refer to the “Liquidity Risk Management” section on page 32 for additional information about how we manage our liquidity risk. See Note 3 and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. 17 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents the components of our investment securities portfolio. INVESTMENT SECURITIES PORTFOLIO June 30, 2022 December 31, 2021 (In millions) Par value Amortized cost Estimated fair value Par value Amortized cost Estimated fair value Held-to-maturity Municipal securities $ 614 $ 614 $ 578 $ 441 $ 441 $ 443 Available-for-sale U.S. Treasury securities 555 557 442 155 155 134 U.S. Government agencies and corporatio Agency securities 908 899 877 833 833 845 Agency guaranteed mortgage-backed securities 23,601 23,768 21,311 20,340 20,549 20,387 Small Business Administration loan-backed securities 818 878 856 867 938 912 Municipal securities 1,658 1,835 1,737 1,489 1,652 1,694 Other debt securities 75 75 74 75 75 76 Total available-for-sale 27,615 28,012 25,297 23,759 24,202 24,048 Total HTM and AFS investment securities $ 28,229 $ 28,626 $ 25,875 $ 24,200 $ 24,643 $ 24,491 The amortized cost of total held-to-maturity (“HTM”) and AFS investment securities increased $4.0 billion, or 16%, from December 31, 2021. Approximately 8% and 11% of the total HTM and AFS investment securities portfolio were floating rate at June 30, 2022 and December 31, 2021, respectively. At June 30, 2022, the investment securities portfolio includes $397 million of net premium that is distributed across various asset classes. Total premium amortization for our investment securities was $25 million for the second quarter of 2022, compared with $27 million for the same prior year period. Refer to the “Capital Management” section on page 33 and Note 5 of the Notes to Consolidated Financial Statements for more discussion on our investment securities portfolio and related unrealized gains/losses. At June 30, 2022, based on the GAAP fair value hierarchy, 1.7% and 98.3% of the $25.3 billion AFS securities portfolio was valued at Level 1 and Level 2, respectively, compared with 0.6% and 99.4% at December 31, 2021. None of the AFS securities portfolio was valued at Level 3 for either period. See Note 3 of the Notes to Consolidated Financial Statements for further discussion of fair value accounting. Municipalities We provide products and services to state and local governments (referred to collectively as “municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. The following schedule summarizes our exposure to state and local municipaliti EXPOSURE TO MUNICIPALITIES (In millions) June 30, 2022 December 31, 2021 Loans and leases $ 4,113 $ 3,658 Held-to-maturity – municipal securities 614 441 Available-for-sale – municipal securities 1,737 1,694 Trading account – municipal securities 287 355 Unfunded lending commitments 285 280 Total direct exposure to municipalities $ 7,036 $ 6,428 The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. Our municipal loans and securities primarily relate to municipalities located within our geographic footprint. 18 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION At June 30, 2022, no municipal loans were on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At June 30, 2022, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. Loan and Lease Portfolio At June 30, 2022 and December 31, 2021, the ratio of loans and leases to total assets was 60% and 55%, respectively. The largest loan category was commercial and industrial loans, which constituted 29% and 27% of our total loan portfolio for the same periods. The following schedule presents our loans and leases according to major portfolio segment, specific loan class, and percentage of total loa LOAN AND LEASE PORTFOLIO June 30, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 14,989 28.6 % $ 13,867 27.3 % PPP 534 1.0 1,855 3.6 Leasing 339 0.6 327 0.6 Owner-occupied 9,208 17.6 8,733 17.2 Municipal 4,113 7.9 3,658 7.2 Total commercial 29,183 55.7 28,440 55.9 Commercial real estate: Construction and land development 2,659 5.1 2,757 5.4 Term 9,477 18.1 9,441 18.6 Total commercial real estate 12,136 23.2 12,198 24.0 Consume Home equity credit line 3,266 6.2 3,016 5.9 1-4 family residential 6,423 12.3 6,050 11.9 Construction and other consumer real estate 787 1.5 638 1.3 Bankcard and other revolving plans 448 0.9 396 0.8 Other 127 0.2 113 0.2 Total consumer 11,051 21.1 10,213 20.1 Total net loans and leases $ 52,370 100.0 % $ 50,851 100.0 % The loan and lease portfolio increased $1.5 billion from December 31, 2021. Excluding PPP loans, commercial loans increased $2.1 billion, or 8%, driven largely by increases in commercial and industrial loans, owner-occupied loans, and municipal loans of $1.1 billion, $475 million, and $455 million, respectively. Consumer loans increased $838 million, primarily due to increases in 1-4 family residential loans, home equity credit lines, and construction and other consumer real estate loans. 19 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Other Noninterest-Bearing Investments Other noninterest-bearing investments are equity investments that are held primarily for capital appreciation, dividends, or for certain regulatory requirements. The following schedule summarizes our related investments: OTHER NONINTEREST-BEARING INVESTMENTS (Dollar amounts in millions) June 30, 2022 December 31, 2021 Amount change Percent change Bank-owned life insurance $ 541 $ 537 $ 4 1 % Federal Home Loan Bank stock 11 11 — — Federal Reserve stock 70 81 (11) (14) Farmer Mac stock 18 19 (1) (5) SBIC investments 165 179 (14) (8) Other 35 24 11 46 Total other noninterest-bearing investments $ 840 $ 851 $ (11) (1) % Total other noninterest-bearing investments decreased $11 million, or 1%, during the first six months of 2022, primarily due to a $14 million decrease in the value of our SBIC investments. This decrease was driven largely by negative mark-to-market adjustments associated with our investment in Recursion Pharmaceuticals, Inc. This investment will continue to be marked-to-market until the SBIC fund manager divests of the shares. Premises, Equipment, and Software Net premises, equipment, and software increased $53 million, or 4%, from December 31, 2021, primarily due to capitalized costs related to the construction of a new corporate technology center in Midvale, Utah, which was completed in July 2022, and a new corporate center for Vectra in Denver, Colorado, which is expected to be completed in the fourth quarter of 2022. These new facilities will allow us to achieve efficiencies by eliminating a number of smaller facilities and by reducing related occupancy costs. We are also in the final phase of a three-phase project to replace our core loan and deposit banking systems, and are on track to convert our deposit servicing system in 2023. Capitalized costs associated with the core system replacement project generally carry a useful life of ten years, and are summarized in the following schedule. CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT June 30, 2022 (In millions) Phase 1 Phase 2 Phase 3 Total Total amount of capitalized costs, less accumulated depreciation $ 34 $ 59 $ 178 $ 271 Deposits Deposits are a primary funding source. The following schedule presents our deposits by category and percentage of total deposits: DEPOSITS June 30, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Noninterest-bearing demand $ 40,289 51.0 % $ 41,053 49.6 % Interest-bearin Savings and money market 37,346 47.2 40,114 48.4 Time 1,426 1.8 1,622 2.0 Total deposits $ 79,061 100.0 % $ 82,789 100.0 % 20 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Total deposits decreased $3.7 billion, or 5%, from December 31, 2021, primarily due to a $3.0 billion decrease in interest-bearing deposits, and a $0.8 billion decrease in noninterest-bearing deposits. Total deposits included $373 million and $381 million of brokered deposits at June 30, 2022 and December 31, 2021, respectively. See “Liquidity Risk Management” on page 32 for additional information on funding and borrowed funds. Total United States (“U.S.”) time deposits that exceed the current FDIC insurance limit of $250,000 were $430 million and $563 million at June 30, 2022 and December 31, 2021, respectively. The estimated total amount of uninsured deposits, including related interest accrued and unpaid, was $45 billion and $49 billion at June 30, 2022 and December 31, 2021, respectively. RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We employ various strategies to reduce the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cyber risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by the various management committees of which the Enterprise Risk Management Committee is the focal point. For a more comprehensive discussion of these risks, see “Risk Factors” in our 2021 Form 10-K. Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. For a more comprehensive discussion of our credit risk management, see “Credit Risk Management” in our 2021 Form 10-K. U.S. Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by U.S. government agencies, such as the SBA, Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At June 30, 2022, $965 million of related loans were guaranteed, primarily by the SBA, and include $534 million of PPP loans. The following schedule presents the composition of U.S. government agency guaranteed loans. U.S. GOVERNMENT AGENCY GUARANTEED LOANS (Dollar amounts in millions) June 30, 2022 Percent guaranteed December 31, 2021 Percent guaranteed Commercial $ 1,071 89 % $ 2,410 95 % Commercial real estate 17 76 22 73 Consumer 4 100 5 100 Total loans $ 1,092 88 % $ 2,437 94 % 21 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. COMMERCIAL LENDING BY INDUSTRY GROUP 1 June 30, 2022 December 31, 2021 (Dollar amounts in millions) Amount Percent Amount Percent Real estate, rental and leasing $ 2,716 9.3 % $ 2,536 8.9 % Finance and insurance 2,673 9.2 2,303 8.1 Retail trade 2,629 9.0 2,412 8.5 Healthcare and social assistance 2,356 8.1 2,349 8.2 Manufacturing 2,342 8.0 2,374 8.3 Public Administration 2,218 7.6 1,959 6.9 Wholesale trade 1,857 6.4 1,701 6.0 Utilities 2 1,461 5.0 1,446 5.1 Construction 1,364 4.7 1,456 5.1 Hospitality and food services 1,210 4.1 1,353 4.8 Educational services 1,194 4.1 1,163 4.1 Mining, quarrying, and oil and gas extraction 1,186 4.1 1,185 4.2 Transportation and warehousing 1,156 4.0 1,273 4.5 Other services (except Public Administration) 1,149 3.9 1,213 4.2 Professional, scientific, and technical services 1,035 3.5 1,084 3.8 Other 3 2,637 9.0 2,633 9.3 Total $ 29,183 100.0 % $ 28,440 100.0 % 1 Industry groups are determined by North American Industry Classification System (“NAICS”) codes. 2 Includes primarily utilities, power, and renewable energy. 3 No other industry group exceeds 2.7%. Commercial Real Estate Loans The following schedules present credit quality information for our commercial real estate (“CRE”) loan portfolio segmented by real estate category and collateral location. 22 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION COMMERCIAL REAL ESTATE PORTFOLIO BY LOAN TYPE AND COLLATERAL LOCATION (Dollar amounts in millions) June 30, 2022 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total % of total CRE Commercial term Balance outstanding $ 1,045 $ 3,110 $ 438 $ 664 $ 1,728 $ 1,597 $ 567 $ 328 $ 9,477 78.1 % % of loan type 11.0 % 32.8 % 4.6 % 7.0 % 18.2 % 16.9 % 6.0 % 3.5 % 100.0 % Delinquency rates 2 : 30-89 days — % 1.4 % — % — % — % 0.1 % — % — % 0.5 % ≥ 90 days — % — % — % — % 0.3 % — % 0.5 % 0.3 % 0.1 % Accruing loans past due 90 days or more $ — $ — $ — $ — $ — $ — $ 3 $ — $ 3 Nonaccrual loans $ — $ 4 $ — $ — $ 15 $ — $ — $ 1 $ 20 Commercial construction and land development Balance outstanding $ 266 $ 457 $ 94 $ 82 $ 289 $ 506 $ 200 $ 46 $ 1,940 16.0 % % of loan type 13.7 % 23.6 % 4.8 % 4.2 % 14.9 % 26.1 % 10.3 % 2.4 % 100.0 % Delinquency rates 2 : 30-89 days — % — % 24.4 % — % — % — % — % — % 1.2 % ≥ 90 days — % — % — % — % — % — % — % — % — % Residential construction and land development 3 Balance outstanding $ 75 $ 121 $ 51 $ 3 $ 219 $ 199 $ 9 $ 42 $ 719 5.9 % % of loan type 10.5 % 16.8 % 7.2 % 0.4 % 30.4 % 27.6 % 1.2 % 5.9 % 100.0 % Total construction and land development $ 341 $ 578 $ 145 $ 85 $ 508 $ 705 $ 209 $ 88 $ 2,659 Total CRE $ 1,386 $ 3,688 $ 583 $ 749 $ 2,236 $ 2,302 $ 776 $ 416 $ 12,136 100.0 % (Dollar amounts in millions) December 31, 2021 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total % of total CRE Commercial term Balance outstanding $ 1,038 $ 3,331 $ 508 $ 653 $ 1,606 $ 1,408 $ 444 $ 453 $ 9,441 77.4 % % of loan type 11.0 % 35.3 % 5.4 % 6.9 % 17.0 % 14.9 % 4.7 % 4.8 % 100.0 % Delinquency rates 2 : 30-89 days — % 0.2 % 0.2 % — % — % 0.1 % — % — % 0.1 % ≥ 90 days — % 0.1 % — % — % 0.2 % — % — % — % 0.1 % Accruing loans past due 90 days or more $ — $ — $ — $ — $ — $ — $ — $ — $ — Nonaccrual loans $ — $ 3 $ — $ — $ 17 $ — $ — $ — $ 20 Commercial construction and land development Balance outstanding $ 242 $ 405 $ 94 $ 107 $ 475 $ 543 $ 181 $ 40 $ 2,087 17.1 % % of loan type 11.6 % 19.4 % 4.5 % 5.1 % 22.8 % 26.0 % 8.7 % 1.9 % 100.0 % Delinquency rates 2 : 30-89 days — % — % — % — % — % — % 13.2 % — % 0.9 % ≥ 90 days — % — % — % — % — % — % — % — % — % Residential construction and land development 3 Balance outstanding $ 82 $ 167 $ 44 $ 2 $ 162 $ 167 $ 9 $ 37 $ 670 5.5 % % of loan type 12.3 % 25.0 % 6.6 % 0.2 % 24.2 % 24.9 % 1.3 % 5.5 % 100.0 % Total construction and land development $ 324 $ 572 $ 138 $ 109 $ 637 $ 710 $ 190 $ 77 $ 2,757 Total CRE $ 1,362 $ 3,903 $ 646 $ 762 $ 2,243 $ 2,118 $ 634 $ 530 $ 12,198 100.0 % 1 No other geography exceeds $61 million and $65 million for all three loan types at June 30, 2022 and December 31, 2021, respectively. 2 Delinquency rates include nonaccrual loans. 3 At June 30, 2022 and December 31, 2021, there was no meaningful delinquency or nonaccrual activity for residential construction and land development loans. 23 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION At June 30, 2022, our CRE construction and land development and term loan portfolios represented approximately 23% of the total loan portfolio. The majority of our CRE loans are secured by real estate, which is primarily located within our geographic footprint. Approximately 19% of the CRE loan portfolio matures in the next 12 months. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with one- to five-year extension options or roll-to-perm options that often result in term debt. Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and non-recourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. Approximately $198 million, or 7%, of the commercial construction and land development portfolio at June 30, 2022 consists of acquisition and development loans. Most of these land acquisition and development loans are secured by specific retail, apartment, office, or other projects. For a more comprehensive discussion of CRE loans, see the “Commercial Real Estate Loans” section in our 2021 Form 10-K. Consumer Loans We originate first-lien residential home mortgages considered to be of prime quality. We generally hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. We also originate home equity credit lines. At June 30, 2022 and December 31, 2021, our HECL portfolio totaled $3.3 billion and $3.0 billion, respectively. The following schedule presents the composition of our HECL portfolio by lien status. HECL PORTFOLIO BY LIEN STATUS (In millions) June 30, 2022 December 31, 2021 Secured by first liens $ 1,549 $ 1,503 Secured by second (or junior) liens 1,717 1,513 Total $ 3,266 $ 3,016 At June 30, 2022, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with high credit scores. Approximately 91% of our HECL portfolio is still in the draw period, and approximately 17% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is minimal. The ratio of HECL net charge-offs for the trailing twelve months to average balances at June 30, 2022 and December 31, 2021 was 0.00% and (0.01)%, respectively. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of the HECL portfolio. Nonperforming Assets Nonperforming assets as a percentage of loans and leases and other real estate owned (“OREO”) decreased to 0.38% at June 30, 2022, compared with 0.53% at December 31, 2021. Total nonaccrual loans at June 30, 2022 decreased to $201 million from $271 million at December 31, 2021, reflecting credit quality improvements across most of our loan portfolios. 24 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The balance of nonaccrual loans can decrease due to paydowns, charge-offs, and the return of loans to accrual status under certain conditions. If a nonaccrual loan is refinanced or restructured, the new note is immediately placed on nonaccrual. If a restructured loan performs under the new terms for a period of at least six months, the loan can be considered for return to accrual status. See “Restructured Loans” and Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. The following schedule presents our nonperforming assets: NONPERFORMING ASSETS (Dollar amounts in millions) June 30, 2022 December 31, 2021 Nonaccrual loans 1 $ 201 $ 271 Other real estate owned 2 — 1 Total nonperforming assets $ 201 $ 272 Ratio of nonperforming assets to net loans and leases 1 and other real estate owned 2 0.38 % 0.53 % Accruing loans past due 90 days or more $ 6 $ 8 Ratio of accruing loans past due 90 days or more to loans and leases 1 0.01 % 0.02 % Nonaccrual loans 1 and accruing loans past due 90 days or more $ 207 $ 279 Ratio of nonperforming assets 1 and accruing loans past due 90 days or more to loans and leases 1 and other real estate owned 2 0.39 % 0.55 % Accruing loans past due 30-89 days 3 $ 123 $ 70 Nonaccrual loans 1 current as to principal and interest payments 68.7 % 70.2 % 1 Includes loans held for sale. 2 Does not include banking premises held for sale. 3 Includes $7 million and $35 million of PPP loans at June 30, 2022 and December 31, 2021, respectively, which we expect will be paid in full by either the borrower or the SBA. Troubled Debt Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are classified as troubled debt restructurings (“TDRs”). At June 30, 2022 and December 31, 2021, TDRs totaled $275 million and $326 million, respectively. Modifications that qualified for applicable accounting and regulatory exemption for borrowers experiencing financial difficulties exclusively related to the COVID-19 pandemic were not classified and reported as TDRs. If the restructured loan performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the restructuring is taken into account to determine whether a loan should be returned to accrual status. ACCRUING AND NONACCRUING TROUBLED DEBT RESTRUCTURED LOANS (In millions) June 30, 2022 December 31, 2021 Restructured loans – accruing $ 214 $ 221 Restructured loans – nonaccruing 61 105 Total $ 275 $ 326 25 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION In the periods following the calendar year in which a loan was restructured, a loan may no longer be reported as a TDR if it is accruing, is in compliance with its modified terms, and yields a market rate (as determined and documented at the time of the modification or restructure). See Note 6 of the Notes to Consolidated Financial Statements for additional information regarding TDRs. TROUBLED DEBT RESTRUCTURED LOANS ROLLFORWARD Three Months Ended June 30, Six Months Ended June 30, (In millions) 2022 2021 2022 2021 Balance at beginning of period $ 316 $ 414 $ 326 $ 311 New identified TDRs and principal increases 15 63 27 183 Payments and payoffs (42) (17) (62) (31) Charge-offs (1) (1) (2) (3) No longer reported as TDRs (3) — (3) — Sales and other (10) (1) (11) (2) Balance at end of period $ 275 $ 458 $ 275 $ 458 Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. 26 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule shows the changes in the ACL and a summary of credit loss experien SUMMARY OF CREDIT LOSS EXPERIENCE (Dollar amounts in millions) Six Months Ended June 30, 2022 Twelve Months Ended December 31, 2021 Six Months Ended June 30, 2021 Loans and leases outstanding $ 52,370 $ 50,851 $ 51,398 Average loans and leases outstandin Commercial – excluding PPP loans 27,597 25,014 24,646 Commercial – PPP loans 1,128 4,566 6,039 Commercial real estate 12,134 12,136 12,085 Consumer 10,501 10,267 10,445 Total average loans and leases outstanding $ 51,360 $ 51,983 $ 53,215 Allowance for loan and lease loss Balance at beginning of period $ 513 $ 777 $ 777 Provision for loan losses 10 (258) (236) Charge-offs: Commercial 28 35 23 Commercial real estate — — — Consumer 7 13 6 Total 35 48 29 Recoveri Commercial 15 29 17 Commercial real estate — 3 — Consumer 5 10 6 Total 20 42 23 Net loan and lease charge-offs 15 6 6 Balance at end of period $ 508 $ 513 $ 535 Reserve for unfunded lending commitments: Balance at beginning of period $ 40 $ 58 $ 58 Provision for unfunded lending commitments (2) (18) (19) Balance at end of period $ 38 $ 40 $ 39 Total allowance for credit loss Allowance for loan and lease losses $ 508 $ 513 $ 535 Reserve for unfunded lending commitments 38 40 39 Total allowance for credit losses $ 546 $ 553 $ 574 Ratio of allowance for credit losses to net loans and leases, at period end 1 1.04 % 1.09 % 1.12 % Ratio of allowance for credit losses to nonaccrual loans, at period end 280 % 204 % 188 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, at period end 272 % 198 % 184 % Ratio of total net charge-offs to average loans and leases 2, 3 0.06 % 0.01 % 0.02 % Ratio of commercial net charge-offs to average commercial loans 3 0.09 % 0.02 % 0.04 % Ratio of commercial real estate net charge-offs to average commercial real estate loans 3 — % (0.02) % — % Ratio of consumer net charge-offs to average consumer loans 3 0.04 % 0.03 % — % 1 The ratio of allowance for credit losses to net loans and leases (excluding PPP loans) was 1.05% at June 30, 2022, 1.13% at December 31, 2021, and 1.22% at June 30, 2021. 2 The annualized ratio of net charge-offs to average loans and leases (excluding PPP loans) was 0.06% at June 30, 2022, 0.01% at December 31, 2021, and 0.03% at June 30, 2021. 3 Ratios are annualized for the periods presented except for the period representing the full twelve months. 27 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The total ACL decreased to $546 million, from $553 million, during the first six months of 2022, primarily due changes in economic forecasts and improvements in overall credit quality. The RULC represents a reserve for potential losses associated with off-balance sheet commitments and standby letters of credit, and decreased $2 million during the first six months of 2022. The reserve is separately recorded on the consolidated balance sheet in “Other liabilities,” and any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. Because we engage in transactions involving various financial products, we are exposed to both interest rate risk and market risk. For a more comprehensive discussion of our interest rate and market risk management, see the “Interest Rate and Market Risk Management” section in our 2021 Form 10-K. Interest Rate Risk Average total deposits increased $6.2 billion, or 8%, from June 30, 2021, and a significant portion of the deposits were invested in fixed-rate, medium-duration AFS securities. The investment in these securities relative to short-duration money market funds resulted in higher earning-asset yields, increased net interest income, and decreased asset sensitivity to rising rates. Asset sensitivity measures depend upon the assumptions we use for deposit runoff and repricing behavior, which is more uncertain given the higher level of new deposits. As interest rates rise, we expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. Our models are particularly sensitive to the assumption about the rate of such migration. We also assume a correlation, referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-bearing checking accounts are assumed to have a lower correlation. We anticipate that changes in deposit rates will lag changes in reference rates. Our modeled cost of total deposits for June 2023 is approximately 0.38% without the effect of additional Federal Reserve rate hikes. Additional rate hikes would be expected to result in further increases to the cost of total deposits. Actual results may differ materially due to various factors, including the shape of the yield curve, competitive pricing, money supply, our credit worthiness, etc. We use our historical experience as well as industry data to inform our assumptions. The migration and correlation assumptions previously discussed result in deposit durations presented in the following schedu DEPOSIT ASSUMPTIONS June 30, 2022 Product Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 2.7 % 2.9 % Money market 1.8 % 1.6 % Savings and interest-bearing checking 2.5 % 2.2 % 28 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION With interest rates forecast to rise more, the effective duration of deposits has shortened due to higher than expected runoff and migration to more rate-sensitive deposit products. Additionally, we utilize derivatives to manage interest rate risk. The following schedule presents derivatives that are designated in qualifying hedging relationships at June 30, 2022. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each category of cash flow and fair value hedge. See Note 7 of the Notes to Consolidated Financial Statements for additional information regarding the impact of these hedging relationships on interest income and expense. DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2022 2023 2024 3Q24 - 2Q25 3Q25 - 2Q26 (Dollar amounts in millions) Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Cash flow hedges Cash flow asset hedges 1 Average outstanding notional $ 6,033 $ 6,766 $ 6,700 $ 6,233 $ 5,933 $ 5,633 $ 5,200 $ 4,866 $ 3,633 $ 1,971 Weighted-average fixed-rate received 1.54 % 1.65 % 1.72 % 1.70 % 1.66 % 1.56 % 1.44 % 1.38 % 1.26 % 1.23 % 2022 4 2023 2024 2025 2026 2027 2028 2029 2030 2031 Fair value hedges Fair value debt hedges 2, 4 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — Weighted-average fixed-rate received 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % — % — % Fair value asset hedges 3, 5 Average outstanding notional $ 828 $ 827 $ 1,099 $ 1,212 $ 1,217 $ 1,213 $ 1,208 $ 1,203 $ 1,198 $ 1,192 Weighted-average fixed-rate paid 1.65 % 1.65 % 1.71 % 7.74 % 1.74 % 1.74 % 1.73 % 1.73 % 1.73 % 1.73 % 1 Cash flow hedges consist of receive-fixed swaps hedging pools of floating-rate loans. Increases in the average outstanding notional are due to forward-starting interest rate swaps. 2 Fair value debt hedges consist of receive-fixed swaps hedging fixed-rate debt. The $500 million fair value debt hedge matures at the end of July 2029. 3 Fair value assets hedges consist of pay-fixed swaps hedging AFS fixed-rate securities. Increases in average outstanding notional are due to forward-starting interest rate swaps. 4 Represents the remaining two quarters of 2022. Incorporating the deposit assumptions and the impact of derivatives in qualifying hedging relationships previously discussed, the following schedule presents earnings at risk (“EaR”), or the percentage change in 12-month forward looking net interest income, and our estimated percentage change in economic value of equity (“EVE”). Both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY June 30, 2022 December 31, 2021 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Earnings at Risk (EaR) (5.8) % — % 5.6 % 11.0 % 16.4 % (5.2) % — % 11.2 % 22.7 % 33.6 % Economic Value of Equity (EVE) 5.9 % — % (3.1) % (5.3) % (7.3) % 20.9 % — % 0.8 % (0.5) % (1.2) % 1 Assumes rates cannot go below zero in the negative rate shift. 29 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The asset sensitivity, as measured by EaR, decreased during the second quarter of 2022, primarily due to (1) deposit runoff, (2) an increase in receive fixed-rate swap notionals, and (3) a higher level of “base-case” net interest income, which reduced the percentage change for the same modeled dollar change in net interest income. For interest-bearing deposits with indeterminate maturity, the weighted average modeled beta is 27%. If the weighted average deposit beta were to increase to 40%, the EaR in the +100 bps rate shock would change from 5.6% to 3.9%. The EaR analysis focuses on parallel rate shocks across the term structure of benchmark interest rates. In a non-parallel rate scenario where the overnight rate increases 200 bps, but the ten-year rate increases only 30 bps, the increase in EaR is modeled to be approximately two-thirds of the change associated with the parallel +200 bps rate change. We recognize that EaR has inherent limitations in describing expected changes in net interest income in rapidly changing interest rate environments due to a lag in asset and liability repricing behavior. As such, we expect net interest income to change due to “latent” and “emergent” interest rate sensitivity. Unlike EaR, which measures net interest income over 12 months, latent and emergent interest rate sensitivity explains changes in current quarter net interest income (ex-PPP), compared with expected net interest income in the same quarter one year forward. Latent interest rate sensitivity refers to future changes in net interest income based upon past rate movements that have yet to be fully recognized in revenue, but will be recognized over the near term. We expect latent sensitivity to add approximately 15% to net interest income in second quarter of 2023, compared with the second quarter of 2022 (ex-PPP). Emergent interest rate sensitivity refers to future changes in net interest income based upon future interest rate movements and is measured from the latent level of net interest income. If interest rates rise consistent with the forward curve at June 30, 2022, we expect emergent sensitivity to add approximately 8% to the latent sensitivity level of net interest income. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At June 30, 2022, $23.5 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. Of these variable-rate loans, approximately 95% are tied to either the prime rate, London Interbank Offered Rate (“LIBOR”), Secured Overnight Financing Rate (“SOFR”), or American Interbank Offered Rate (“AMERIBOR”). For these variable-rate loans, we have executed $6.5 billion of cash flow hedges by receiving fixed rates on interest rate swaps. Additionally, asset sensitivity is reduced due to $0.4 billion of variable-rate commercial and CRE loans being priced at floored rates at June 30, 2022, which were above the “index plus spread” rate by an average of 22 bps. At June 30, 2022, we also had $3.4 billion of variable-rate consumer loans scheduled to reprice in the next six months, and $0.1 billion were priced at floored rates, which were above the “index plus spread” rate by an average of 6 bps. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. LIBOR Exposure LIBOR is being phased out globally, and U.S. banking regulators instructed banks to cease entering into new lending arrangements using LIBOR no later than December 31, 2021, and migrate to alternative reference rates no later than June 2023. To facilitate the transition process, we instituted an enterprise-wide program to identify, assess, and monitor risks associated with the expected discontinuance or unavailability of LIBOR, which includes active engagement with industry working groups and regulators. This program also includes active involvement of senior management with regular engagement from the Enterprise Risk Management Committee, and seeks to minimize client and internal business operational impacts, while providing reporting transparency, consistency, and a central governance model that aligns with accounting and regulatory guidance. 30 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION We have implemented processes, procedures, and systems to ensure contract risk is sufficiently mitigated. New originations, and any modifications or renewals of LIBOR-based contracts, contain fallback language to facilitate transition to an alternative reference rate. For our contracts that referenced LIBOR and had a duration beyond June 2023, all fallback provisions and variations were identified and classified based upon those provisions. By the end of 2021, we had discontinued substantially all new originations and any renewals or modifications referencing LIBOR. We have a significant number of assets and liabilities that reference LIBOR. At June 30, 2022, we had $24.9 billion in loans (mainly commercial loans), unfunded lending commitments, and securities referencing LIBOR. The amount of borrowed funds referencing LIBOR at June 30, 2022 was less than $1 billion. These amounts exclude derivative assets and liabilities on the consolidated balance sheet. At June 30, 2022, the notional amount of our LIBOR-referenced interest rate derivative contracts was $11.0 billion, of which nearly all related to contracts with central counterparty clearinghouses. The adoption of alternative reference rates continues to evolve in the marketplace. We are positioned to support our customers’ needs by accommodating multiple alternative reference rates, including the Constant Maturity Treasury rate (“CMT”), the Federal Home Loan Bank (“FHLB”) rate, AMERIBOR, SOFR, and the Bloomberg Short Term Bank Yield Index (“BSBY”). During the first quarter of 2022, we began to prompt our customers to either voluntarily modify their contracts and migrate to a reference rate other than LIBOR no later than June 2023, or be subject to the fallback provisions in their contracts. Voluntary modifications are expected to qualify for the available Tax Safe-Harbor provisions as allowed by Internal Revenue Service (“IRS”) guidance. We expect that customers who voluntarily migrate to an alternative reference rate will do so by the end of this year, and we expect the remaining customers to move to an alternative rate index in accordance with the relevant fallback provisions in their contracts prior to June 2023. For more information on the transition from LIBOR, see Risk Factors in our 2021 Form 10-K. Market Risk – Fixed Income We underwrite municipal and corporate securities. We also trade municipal, agency, and treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. At June 30, 2022, we had $304 million of trading assets and $222 million of securities sold, not yet purchased, compared with $372 million and $254 million at December 31, 2021, respectively. We are exposed to market risk through changes in fair value. This includes market risk for interest rate swaps used to hedge interest rate risk. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in accumulated other comprehensive income (“AOCI”) for each financial reporting period. During the second quarter of 2022, the after-tax change in AOCI attributable to AFS securities decreased $698 million, due largely to changes in the interest rate environment, compared with a $34 million increase in the prior year period. Market Risk – Equity Investments We hold both direct and indirect investments in predominantly pre-public companies, primarily through various SBIC venture capital funds as a strategy to provide beneficial financing, growth, and expansion opportunities to diverse businesses generally in communities within our geographic footprint. Our equity exposure to these investments was $165 million and $179 million at June 30, 2022 and December 31, 2021, respectively. On occasion, some of the companies within our SBIC investment may issue an IPO. In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce additional market risk. See Note 3 of our 2021 Form 10-K for additional information regarding the valuation of our SBIC investments. 31 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Liquidity Risk Management Overview Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as marketable loans and investment securities. For a more comprehensive discussion of our liquidity risk management, see “Liquidity Risk Management” in our 2021 Form 10-K. Strong deposit growth over the past year has contributed to a solid overall liquidity position. At June 30, 2022, our investment securities portfolio of $26.2 billion and cash and money market investments of $4.1 billion, collectively comprised 35% of total assets, compared with $24.9 billion of investment securities, and $13.0 billion of cash and money market investments, collectively comprising 41% of total assets at December 31, 2021. Given that our investment securities portfolio is predominantly comprised of securities for which a strong repurchase market exists, we believe we can readily convert securities to cash to support loan growth through repurchase agreements rather than sales. Liquidity Management Actions For the first six months of 2022, the primary sources of cash came from a significant decrease in money market investments and net cash provided by operating activities. Uses of cash during the same period included primarily an increase in investment securities, an increase in loans and leases, and redemption of long-term debt. Cash payments for interest, reflected in operating expenses, were $31 million and $43 million for the first six months of 2022 and 2021, respectively. Total deposits were $79.1 billion at June 30, 2022, compared with $82.8 billion at December 31, 2021. The decrease in deposits was primarily due to a $2.8 billion decrease in savings and money market deposits, and a $0.8 billion decrease in noninterest-bearing demand deposits. Our core deposits, consisting of noninterest-bearing demand deposits, savings and money market deposits, and time deposits under $250,000, were $78.3 billion at June 30, 2022, compared with $81.9 billion at December 31, 2021. At June 30, 2022, our loan-to-deposit ratio was 66%, compared with 61% at December 31, 2021. General financial market and economic conditions impact our access to, and cost of, external financing. Access to funding markets is also directly affected by the credit ratings received from various rating agencies. Our credit ratings are presented in the following schedu CREDIT RATINGS as of July 31, 2022: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Stable BBB+ BBB NR Fitch Stable BBB+ BBB F1 Moody's Stable Baa1 NR NR The FHLB system and Federal Reserve Banks have been, and continue to be, a significant source of back-up liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against their eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and Federal Reserve stock to maintain our borrowing capacity. At June 30, 2022, our total investment in FHLB and Federal Reserve stock was $11 million and $70 million, respectively, compared with $11 million and $81 million at December 31, 2021. 32 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The amount available for additional FHLB and Federal Reserve borrowings was $19.0 billion at June 30, 2022, compared with $18.3 billion at December 31, 2021. Loans with a carrying value of $27.0 billion and $26.8 billion at June 30, 2022 and December 31, 2021, respectively, were pledged at the FHLB and the Federal Reserve as collateral for potential borrowings. At both June 30, 2022 and December 31, 2021, we had no FHLB or Federal Reserve borrowings outstanding. Our AFS investment securities are primarily held as a source of contingent liquidity. We target securities that can be easily turned into cash through repurchase agreements or sales, and whose liquidity value remains relatively stable during market disruptions. We manage our short-term funding needs through secured borrowing with securities pledged as collateral. During the first six months of 2022, our AFS securities balances increased $1.2 billion. Total borrowed funds decreased $226 million during the first six months of 2022, primarily due to the redemption of $290 million of the 4-year, 3.35% senior notes. The growth of deposits has allowed us to reduce borrowed funds. We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. Capital Management Overview A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. Our capital management objectives inclu (1) consistently improving risk-adjusted returns on our shareholders' capital and appropriately managing capital distributions, (2) maintaining sufficient capital to support the current needs and growth of our businesses, and (3) fulfilling responsibilities to depositors and bondholders. We continue to utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the Federal Reserve Board (“FRB”). The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as our Board of Directors (“Board”) and Office of the Comptroller of the Currency (“OCC”) approval. Shares may be repurchased occasionally in the open market or through privately negotiated transactions. For a more comprehensive discussion of our capital risk management, see “Capital Management” in our 2021 Form 10-K. SHAREHOLDERS' EQUITY (Dollar amounts in millions) June 30, 2022 December 31, 2021 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 440 $ — — % Common stock and additional paid-in capital 1,845 1,928 (83) (4) Retained earnings 5,447 5,175 272 5 Accumulated other comprehensive income (loss) (2,100) (80) (2,020) NM Total shareholders' equity $ 5,632 $ 7,463 $ (1,831) (25) % Total shareholders’ equity decreased $1.8 billion, or 25%, to $5.6 billion at June 30, 2022, compared with $7.5 billion at December 31, 2021. Common stock and additional paid-in capital decreased $83 million, primarily due to common stock repurchases. 33 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AOCI decreased $2.0 billion, primarily due to decreases in the fair value of fixed-rate AFS securities as a result of changes in interest rates. Absent any sales or credit impairment of these securities, the unrealized losses will revert back to par over the remaining life of the securities. We have not initiated any sales of AFS securities, nor do we currently intend to sell any identified securities with unrealized losses. Additionally, changes in AOCI do not impact our regulatory capital ratios. Refer to Note 5 of the Notes to Consolidated Financial Statements for more discussion on our investment securities portfolio and their unrealized gains/losses. Common shares outstanding decreased 1.2 million during the first six months of 2022, primarily due to common stock repurchases. During the second quarter of 2022, we repurchased 0.9 million common shares outstanding for $50 million. In July 2022, the Board approved a plan to repurchase up to $50 million of common shares outstanding during the third quarter of 2022. CAPITAL DISTRIBUTIONS Three Months Ended June 30, Six Months Ended June 30, (In millions, except share data) 2022 2021 2022 2021 Capital distributio Preferred dividends paid $ 8 $ 9 $ 16 $ 17 Bank preferred stock redeemed — 126 — 126 Total capital distributed to preferred shareholders 8 135 16 143 Common dividends paid 58 56 116 112 Bank common stock repurchased 1 50 101 101 151 Total capital distributed to common shareholders 108 157 217 263 Total capital distributed to preferred and common shareholders $ 116 $ 292 $ 233 $ 406 Weighted average diluted common shares outstanding (in thousands) 150,838 163,054 151,264 163,468 Common shares outstanding, at period end (in thousands) 150,471 162,248 150,471 162,248 1 Includes amounts related to the common shares acquired from our publicly announced plans and those acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. Under the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. At June 30, 2022, we had $1.4 billion of retained net profits available for distribution. We paid common dividends of $58 million, or $0.38 per share, during the second quarter of 2022. In July 2022, the Board declared a regular quarterly dividend of $0.41 per common share, payable on August 25, 2022, to shareholders of record on August 18, 2022. We also paid dividends on preferred stock of $8 million during the second quarter of 2022. See Note 9 of the Notes to Consolidated Financial Statements for additional information about our capital management actions. Basel III We are subject to Basel III capital requirements to maintain adequate levels of capital as measured by several regulatory capital ratios. At June 30, 2022, we met all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. The following schedule presents our capital and other performance ratios. 34 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CAPITAL RATIOS June 30, 2022 December 31, 2021 June 30, 2021 Tangible common equity ratio 1 4.8 % 6.5 % 7.6 % Tangible equity ratio 1 5.3 7.0 8.1 Average equity to average assets (three months ended) 6.7 8.3 9.3 Basel III risk-based capital ratios: Common equity tier 1 capital 9.9 10.2 11.3 Tier 1 leverage 7.4 7.2 8.0 Tier 1 risk-based 10.6 10.9 12.1 Total risk-based 12.3 12.8 14.2 Return on average common equity (three months ended) 14.0 11.5 18.6 Return on average tangible common equity (three months ended) 1 17.1 13.4 21.6 1 See “GAAP to Non-GAAP Reconciliations” on page 4 for more information regarding these ratios. Our regulatory tier 1 risk-based capital and total risk-based capital was $6.7 billion and $7.8 billion at June 30, 2022, compared with $6.5 billion and $7.7 billion, respectively, at December 31, 2021. See the “Supervision and Regulation” section and Note 15 of our 2021 Form 10-K for more information about our compliance with the Basel III capital requirements. 35 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ITEM 1. FINANCIAL STATEMENTS (Unaudited) CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) June 30, 2022 December 31, 2021 (Unaudited) ASSETS Cash and due from banks $ 559 $ 595 Money market investments: Interest-bearing deposits 1,249 10,283 Federal funds sold and security resell agreements 2,273 2,133 Investment securiti Held-to-maturity, at amortized cost (included $ 578 and $ 443 at fair value ) 614 441 Available-for-sale, at fair value 25,297 24,048 Trading account, at fair value 304 372 Total securities 26,215 24,861 Loans held for sale 42 83 Loans and leases, net of unearned income and fees 52,370 50,851 Less allowance for loan and lease losses 508 513 Loans held for investment, net of allowance 51,862 50,338 Other noninterest-bearing investments 840 851 Premises, equipment and software, net 1,372 1,319 Goodwill and intangibles 1,015 1,015 Other real estate owned — 8 Other assets 2,357 1,714 Total assets $ 87,784 $ 93,200 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 40,289 $ 41,053 Interest-bearin Savings and money market 37,346 40,114 Time 1,426 1,622 Total deposits 79,061 82,789 Federal funds purchased and other short-term borrowings 1,018 903 Long-term debt 671 1,012 Reserve for unfunded lending commitments 38 40 Other liabilities 1,364 993 Total liabilities 82,152 85,737 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 440 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 150,471 and 151,625 shares) and additional paid-in capital 1,845 1,928 Retained earnings 5,447 5,175 Accumulated other comprehensive income (loss) ( 2,100 ) ( 80 ) Total shareholders’ equity 5,632 7,463 Total liabilities and shareholders’ equity $ 87,784 $ 93,200 See accompanying notes to consolidated financial statements. 36 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF INCOME (Unaudited) Three Months Ended June 30, Six Months Ended June 30, (In millions, except shares and per share amounts) 2022 2021 2022 2021 Interest income: Interest and fees on loans $ 468 $ 492 $ 905 $ 980 Interest on money market investments 12 4 18 7 Interest on securities 128 74 240 145 Total interest income 608 570 1,163 1,132 Interest expense: Interest on deposits 7 7 13 16 Interest on short- and long-term borrowings 8 8 13 16 Total interest expense 15 15 26 32 Net interest income 593 555 1,137 1,100 Provision for credit loss Provision for loan and lease losses 39 ( 113 ) 10 ( 236 ) Provision for unfunded lending commitments 2 ( 10 ) ( 2 ) ( 19 ) Total provision for credit losses 41 ( 123 ) 8 ( 255 ) Net interest income after provision for credit losses 552 678 1,129 1,355 Noninterest income: Commercial account fees 37 34 78 66 Card fees 25 24 50 45 Retail and business banking fees 20 18 40 35 Loan-related fees and income 21 21 43 46 Capital markets and foreign exchange fees 21 17 36 32 Wealth management fees 13 12 27 24 Other customer-related fees 17 13 31 24 Customer-related noninterest income 154 139 305 272 Fair value and nonhedge derivative gain (loss) 10 ( 5 ) 16 13 Dividends and other investment income 7 8 9 15 Securities gains (losses), net 1 63 ( 16 ) 74 Total noninterest income 172 205 314 374 Noninterest expense: Salaries and employee benefits 307 272 619 560 Technology, telecom, and information processing 53 49 105 98 Occupancy and equipment, net 36 39 74 78 Professional and legal services 14 18 28 39 Marketing and business development 9 7 17 14 Deposit insurance and regulatory expense 13 7 23 17 Credit-related expense 7 6 14 12 Other real estate expense, net — — 1 — Other 25 30 47 45 Total noninterest expense 464 428 928 863 Income before income taxes 260 455 515 866 Income taxes 57 101 109 190 Net income 203 354 406 676 Preferred stock dividends ( 8 ) ( 9 ) ( 16 ) ( 17 ) Net earnings applicable to common shareholders $ 195 $ 345 $ 390 $ 659 Weighted average common shares outstanding during the perio Basic shares (in thousands) 150,635 162,742 150,958 163,144 Diluted shares (in thousands) 150,838 163,054 151,264 163,468 Net earnings per common sh Basic $ 1.29 $ 2.08 $ 2.56 $ 3.98 Diluted 1.29 2.08 2.56 3.98 See accompanying notes to consolidated financial statements. 37 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Unaudited) Three Months Ended June 30, Six Months Ended June 30, (In millions) 2022 2021 2022 2021 Net income for the period $ 203 $ 354 $ 406 $ 676 Other comprehensive income (loss), net of t Net unrealized holding gains (losses) on investment securities ( 698 ) 34 ( 1,820 ) ( 130 ) Net unrealized gains (losses) on other noninterest-bearing investments ( 1 ) 1 ( 1 ) 3 Net unrealized holding gains (losses) on derivative instruments ( 50 ) 3 ( 184 ) — Reclassification adjustment for increase in interest income recognized in earnings on derivative instruments ( 5 ) ( 11 ) ( 15 ) ( 23 ) Other comprehensive income (loss) ( 754 ) 27 ( 2,020 ) ( 150 ) Comprehensive income (loss) $ ( 551 ) $ 381 $ ( 1,614 ) $ 526 See accompanying notes to consolidated financial statements. CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited) (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at March 31, 2022 $ 440 151,348 $ — $ 1,889 $ 5,311 $ ( 1,346 ) $ 6,294 Net income for the period 203 203 Other comprehensive loss, net of tax ( 754 ) ( 754 ) Bank common stock repurchased ( 936 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 59 6 6 Dividends on preferred stock ( 8 ) ( 8 ) Dividends on common stock, $ 0.38 per share ( 58 ) ( 58 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at June 30, 2022 $ 440 150,471 $ — $ 1,845 $ 5,447 $ ( 2,100 ) $ 5,632 Balance at March 31, 2021 $ 566 163,800 $ — $ 2,653 $ 4,566 $ 148 $ 7,933 Net income for the period 354 354 Other comprehensive income, net of tax 27 27 Preferred stock redemption ( 126 ) 3 ( 3 ) ( 126 ) Bank common stock repurchased ( 1,735 ) ( 101 ) ( 101 ) Net activity under employee plans and related tax benefits 183 10 10 Dividends on preferred stock ( 9 ) ( 9 ) Dividends on common stock, $ 0.34 per share ( 56 ) ( 56 ) Change in deferred compensation 1 1 Balance at June 30, 2021 $ 440 162,248 $ — $ 2,565 $ 4,853 $ 175 $ 8,033 See accompanying notes to consolidated financial statements. 38 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2021 $ 440 151,625 $ — $ 1,928 $ 5,175 $ ( 80 ) $ 7,463 Net income for the period 406 406 Other comprehensive loss, net of tax ( 2,020 ) ( 2,020 ) Bank common stock repurchased ( 1,714 ) ( 101 ) ( 101 ) Net activity under employee plans and related tax benefits 560 18 18 Dividends on preferred stock ( 16 ) ( 16 ) Dividends on common stock, $ 0.76 per share ( 116 ) ( 116 ) Change in deferred compensation ( 2 ) ( 2 ) Balance at June 30, 2022 $ 440 150,471 $ — $ 1,845 $ 5,447 $ ( 2,100 ) $ 5,632 Balance at December 31, 2020 $ 566 164,090 $ — $ 2,686 $ 4,309 $ 325 $ 7,886 Net income for the period 676 676 Other comprehensive loss, net of tax ( 150 ) ( 150 ) Preferred stock redemption ( 126 ) 3 ( 3 ) ( 126 ) Bank common stock repurchased ( 2,747 ) ( 151 ) ( 151 ) Net activity under employee plans and related tax benefits 905 27 27 Dividends on preferred stock ( 17 ) ( 17 ) Dividends on common stock, $ 0.68 per share ( 113 ) ( 113 ) Change in deferred compensation 1 1 Balance at June 30, 2021 $ 440 162,248 $ — $ 2,565 $ 4,853 $ 175 $ 8,033 39 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In millions) Six Months Ended June 30, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES Net income for the period $ 406 $ 676 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses 8 ( 255 ) Depreciation and amortization 45 ( 11 ) Share-based compensation 22 19 Deferred income tax expense 29 108 Net decrease in trading securities 67 85 Net decrease in loans held for sale 42 6 Change in other liabilities 389 ( 1 ) Change in other assets ( 205 ) ( 259 ) Other, net 1 ( 85 ) Net cash provided by operating activities 804 283 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease (increase) in money market investments 8,895 ( 4,961 ) Proceeds from maturities and paydowns of investment securities held-to-maturity 48 272 Purchases of investment securities held-to-maturity ( 220 ) ( 256 ) Proceeds from sales, maturities and paydowns of investment securities available-for-sale 1,915 2,485 Purchases of investment securities available-for-sale ( 5,773 ) ( 5,170 ) Net change in loans and leases ( 1,476 ) 2,177 Purchases and sales of other noninterest-bearing investments ( 1 ) 4 Purchases of premises and equipment ( 102 ) ( 84 ) Other, net 11 10 Net cash provided by (used in) investing activities 3,297 ( 5,523 ) CASH FLOWS FROM FINANCING ACTIVITIES Net (decrease) increase in deposits ( 3,728 ) 6,452 Net change in short-term funds borrowed 115 ( 831 ) Cash paid for preferred stock redemption — ( 126 ) Redemption of long-term debt ( 290 ) — Proceeds from the issuance of common stock 8 16 Dividends paid on common and preferred stock ( 130 ) ( 129 ) Bank common stock repurchased ( 101 ) ( 151 ) Other, net ( 11 ) ( 9 ) Net cash (used in) provided by financing activities ( 4,137 ) 5,222 Net decrease in cash and due from banks ( 36 ) ( 18 ) Cash and due from banks at beginning of period 595 543 Cash and due from banks at end of period $ 559 $ 525 Cash paid for interest $ 31 $ 43 Net cash paid for income taxes 4 427 Noncash activities are summarized as follows: Loans held for investment transferred to other real estate owned — 1 Loans held for investment reclassified to loans held for sale, net 61 27 See accompanying notes to consolidated financial statements. 40 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) June 30, 2022 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Zions Bancorporation, National Association and its majority-owned subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). The results of operations for the six months ended June 30, 2022 and 2021 are not necessarily indicative of the results that may be expected in future periods. In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. For further information, refer to the consolidated financial statements and accompanying footnotes included in our 2021 Form 10-K. Certain prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Effective for the first quarter of 2022, we made certain financial reporting changes and reclassifications to noninterest expense in our Consolidated Statements of Income. These financial reporting changes were made primarily to improve the presentation and disclosure of certain expenses related to our ongoing technology initiatives. Other noninterest expense line items were impacted by these changes and reclassifications. These changes and reclassifications (1) were adopted retrospectively to January 1, 2020, (2) reflect changes only to noninterest expense in the Consolidated Statements of Income, and (3) do not impact net income, net interest income, or noninterest income. We evaluated events that occurred between June 30, 2022 and the date the accompanying financial statements were issued, and determined that there were no material events that would require adjustments to our consolidated financial statements or disclosure in the accompanying Notes. As referenced in Note 14 of the Notes to Consolidated Financial Statements, we purchased three Northern Nevada branches and their associated deposit, credit card, and loan accounts in July 2022. Zions Bancorporation, N.A. is a commercial bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These include Zions Bank, in Utah, Idaho, and Wyoming; California Bank & Trust (“CB&T”); Amegy Bank (“Amegy”), in Texas; National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”), in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under the name The Commerce Bank of Oregon in Oregon. 41 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 2. RECENT ACCOUNTING PRONOUNCEMENTS Standard Description Date of adoption Effect on the financial statements or other significant matters Standards not yet adopted by the Bank ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures This accounting standards update (“ASU”) eliminates the recognition and measurement guidance on troubled debt restructurings (“TDRs”) for creditors that have adopted ASC 326 (“CECL”), and eliminates certain existing TDR disclosures while requiring enhanced disclosures about loan modifications for borrowers experiencing financial difficulty. The new guidance also requires public companies to present current-period gross write-offs (on a current year-to-date basis for interim-period disclosures) by year of origination in their vintage disclosures. The new guidance is effective for calendar year-end public companies beginning January 1, 2023, with early adoption permitted. Periods beginning after December 15, 2022 We have established an implementation team to ensure that the necessary data is captured in order to comply with the new disclosure requirements. The overall effect of the guidance is not expected to have a material impact on our financial statements. We do not plan to early adopt this new guidance. ASU 2022-03, Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions This ASU clarifies that contractual restrictions prohibiting the sale of an equity security are not considered part of the unit of account of the equity security, and therefore, are not considered in measuring fair value. The amendments also clarify that an entity cannot recognize and measure a contractual sale restriction as a separate unit of account. The amendments in this ASU also require additional qualitative and quantitative disclosures for equity securities subject to contractual sale restrictions. The new guidance is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 The guidance in this ASU is consistent with our current treatment of equity securities subject to contractual sale restrictions and is not expected to impact the fair value measurements of these securities. We are evaluating supplementary disclosure requirements and additional data needed to meet these requirements. The overall effect of the guidance is not expected to have a material impact on our financial statements. We do not plan to early adopt this new guidance. 42 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 3. FAIR VALUE Fair Value Measurements Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. For more information about our valuation methodologies for assets and liabilities measured at fair value and the fair value hierarchy, see Note 3 of our 2021 Form 10-K. Quantitative Disclosure by Fair Value Hierarchy Assets and liabilities measured at fair value by class on a recurring basis are summarized as follows: (In millions) June 30, 2022 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 442 $ 23,044 $ — $ 23,486 Municipal securities 1,737 1,737 Other debt securities 74 74 Total available-for-sale 442 24,855 — 25,297 Trading account 14 290 304 Other noninterest-bearing investments: Bank-owned life insurance 541 541 Private equity investments 1 9 77 86 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 117 117 Derivativ Derivatives designated as hedges 58 58 Derivatives not designated as hedges 94 94 Total assets $ 582 $ 25,838 $ 89 $ 26,509 LIABILITIES Securities sold, not yet purchased $ 222 $ — $ — $ 222 Other liabiliti Derivativ Derivatives designated as hedges 2 2 Derivatives not designated as hedges 293 293 Total liabilities $ 222 $ 295 $ — $ 517 1 The Level 1 private equity investments (“PEIs”) relate to the portion of our Small Business Investment Company (“SBIC”) investments that are now publicly traded. 43 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) December 31, 2021 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 134 $ 22,144 $ — $ 22,278 Municipal securities 1,694 1,694 Other debt securities 76 76 Total available-for-sale 134 23,914 — 24,048 Trading account 14 358 372 Other noninterest-bearing investments: Bank-owned life insurance 537 537 Private equity investments 1 35 66 101 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 138 138 Derivativ Derivatives designated as hedges 10 10 Derivatives not designated as hedges 209 209 Total assets $ 321 $ 25,028 $ 78 $ 25,427 LIABILITIES Securities sold, not yet purchased $ 254 $ — $ — $ 254 Other liabiliti Derivativ Derivatives not designated as hedges 51 51 Total liabilities $ 254 $ 51 $ — $ 305 1 The Level 1 PEIs relate to the portion of our SBIC investments that are now publicly traded. Level 3 Valuations Our Level 3 holdings include PEIs, agriculture loan servicing, and interest-only strips. For additional information regarding our Level 3 financial instruments, including the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2021 Form 10-K. Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments Three Months Ended Six Months Ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 (In millions) Private equity investments Ag loan servicing & interest only strips Private equity investments Ag loan servicing & interest only strips Private equity investments Ag loan servicing & interest only strips Private equity investments Ag loan servicing & interest only strips Balance at beginning of period $ 74 $ 12 $ 83 $ 15 $ 66 $ 12 $ 80 $ 16 Unrealized securities gains (losses), net — — 68 — 5 — 69 — Other noninterest income (expense) — — — — — — — ( 1 ) Purchases 3 — 2 — 9 — 6 — Cost of investments sold — — ( 4 ) — ( 3 ) — ( 6 ) — Transfers out 1 — — ( 77 ) — — — ( 77 ) — Balance at end of period $ 77 $ 12 $ 72 $ 15 $ 77 $ 12 $ 72 $ 15 1 Represents the transfer of SBIC investments out of Level 3 and into Level 1 because they are now publicly traded. 44 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The rollforward of Level 3 instruments includes the following realized gains and losses recognized in securities gains (losses) on the consolidated statement of income for the periods present (In millions) Three Months Ended Six Months Ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Securities gains (losses), net $ — $ ( 4 ) $ ( 2 ) $ ( 5 ) Nonrecurring Fair Value Measurements Certain assets and liabilities may be recorded at fair value on a nonrecurring basis, including impaired loans that have been measured based on the fair value of the underlying collateral, other real estate owned (“OREO”), and nonmarketable equity securities. Nonrecurring fair value adjustments typically involve write-downs of individual assets or the application of lower of cost or fair value accounting. At June 30, 2022, we had no assets or liabilities that had fair value changes measured on a nonrecurring basis. At December 31, 2021, we had $ 2 million of collateral-dependent loans valued as Level 2 measurements, and we recognized $ 3 million of losses from fair value changes related to these loans. The previous fair values may not be current as of the dates indicated, but rather as of the most recent date the fair value change occurred. For additional information regarding the measurement of fair value for impaired loans, collateral-dependent loans, and OREO, see Note 3 of our 2021 Form 10-K. Fair Value of Certain Financial Instruments The following schedule summarizes the carrying values and estimated fair values of certain financial instruments: June 30, 2022 December 31, 2021 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: HTM investment securities $ 614 $ 578 2 $ 441 $ 443 2 Loans and leases (including loans held for sale), net of allowance 51,904 50,184 3 50,421 50,619 3 Financial liabiliti Time deposits 1,426 1,401 2 1,622 1,624 2 Long-term debt 671 660 2 1,012 1,034 2 This summary excludes financial assets and liabilities for which carrying value approximates fair value and financial instruments that are recorded at fair value on a recurring basis. For additional information regarding the financial instruments within the scope of this disclosure, and the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2021 Form 10-K. 45 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 4. OFFSETTING ASSETS AND LIABILITIES Gross and net information for selected financial instruments in the balance sheet is as follows: June 30, 2022 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 2,273 $ — $ 2,273 $ — $ — $ 2,273 Derivatives (included in other assets) 152 — 152 ( 9 ) ( 40 ) 103 Total assets $ 2,425 $ — $ 2,425 $ ( 9 ) $ ( 40 ) $ 2,376 Liabiliti Federal funds purchased and other short-term borrowings $ 1,018 $ — $ 1,018 $ — $ — $ 1,018 Derivatives (included in other liabilities) 295 — 295 ( 9 ) — 286 Total liabilities $ 1,313 $ — $ 1,313 $ ( 9 ) $ — $ 1,304 December 31, 2021 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 2,133 $ — $ 2,133 $ — $ — $ 2,133 Derivatives (included in other assets) 219 — 219 ( 16 ) ( 7 ) 196 Total assets $ 2,352 $ — $ 2,352 $ ( 16 ) $ ( 7 ) $ 2,329 Liabiliti Federal funds purchased and other short-term borrowings $ 903 $ — $ 903 $ — $ — $ 903 Derivatives (included in other liabilities) 51 — 51 ( 16 ) ( 1 ) 34 Total liabilities $ 954 $ — $ 954 $ ( 16 ) $ ( 1 ) $ 937 Security repurchase and reverse repurchase (“resell”) agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 5. INVESTMENTS Investment Securities Investment securities are classified as held-to-maturity (“HTM”), available-for-sale (“AFS”), or trading. HTM securities, which management has the intent and ability to hold until maturity, are carried at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. AFS securities are carried at fair value, and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to accumulated other comprehensive income (“AOCI”), net of related taxes. Trading securities are carried at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 80 million and $ 65 million at June 30, 2022 and December 31, 2021, respectively. These receivables are presented on the consolidated balance sheet in “Other 46 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES assets.” See Note 5 of our 2021 Form 10-K for more information related to our accounting for investment securities, and see Note 3 of our 2021 Form 10-K for description of our process to estimate fair value for investment securities. The following schedule summarizes the amortized cost and estimated fair values of our HTM and AFS securiti June 30, 2022 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 614 $ — $ 36 $ 578 Available-for-sale U.S. Treasury securities 557 — 115 442 U.S. Government agencies and corporatio Agency securities 899 — 22 877 Agency guaranteed mortgage-backed securities 23,768 2 2,459 21,311 Small Business Administration loan-backed securities 878 2 24 856 Municipal securities 1,835 3 101 1,737 Other debt securities 75 — 1 74 Total available-for-sale 28,012 7 2,722 25,297 Total HTM and AFS investment securities $ 28,626 $ 7 $ 2,758 $ 25,875 December 31, 2021 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 441 $ 4 $ 2 $ 443 Available-for-sale U.S. Treasury securities 155 — 21 134 U.S. Government agencies and corporatio Agency securities 833 13 1 845 Agency guaranteed mortgage-backed securities 20,549 108 270 20,387 Small Business Administration loan-backed securities 938 2 28 912 Municipal securities 1,652 46 4 1,694 Other debt securities 75 1 — 76 Total available-for-sale 24,202 170 324 24,048 Total HTM and AFS investment securities $ 24,643 $ 174 $ 326 $ 24,491 Maturities The following schedule shows the amortized cost and weighted average yields of debt securities by contractual maturity of principal payments at June 30, 2022. Actual principal payments may differ from contractual or expected principal payments because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. 47 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES June 30, 2022 Total debt securities Due in one year or less Due after one year through five years Due after five years through ten years Due after ten years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity Municipal securities 1 $ 614 2.84 % $ 227 2.53 % $ 137 3.19 % $ 190 3.03 % $ 60 2.59 % Available-for-sale U.S. Treasury securities 557 2.05 — — — — — — 557 2.05 U.S. Government agencies and corporatio Agency securities 899 2.33 31 0.84 340 1.92 285 2.39 243 3.03 Agency guaranteed mortgage-backed securities 23,768 1.79 — — 391 1.50 1,810 1.93 21,567 1.78 Small Business Administration loan-backed securities 878 1.50 — — 48 1.51 166 2.41 664 1.27 Municipal securities 1 1,835 2.40 108 2.07 670 2.61 694 2.18 363 2.55 Other debt securities 75 2.82 — — — — 60 2.61 15 3.67 Total available-for-sale securities 28,012 1.84 139 1.79 1,449 2.11 3,015 2.07 23,409 1.80 Total HTM and AFS investment securities $ 28,626 1.86 % $ 366 2.25 % $ 1,586 2.20 % $ 3,205 2.13 % $ 23,469 1.80 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis. The following schedule summarizes the amount of gross unrealized losses for debt securities and the estimated fair value by length of time the securities have been in an unrealized loss positi June 30, 2022 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 14 $ 327 $ 22 $ 96 $ 36 $ 423 Available-for-sale U.S. Treasury securities 60 341 55 101 115 442 U.S. Government agencies and corporatio Agency securities 17 729 5 96 22 825 Agency guaranteed mortgage-backed securities 1,827 17,069 632 3,886 2,459 20,955 Small Business Administration loan-backed securities 1 84 23 637 24 721 Municipal securities 86 1,189 15 84 101 1,273 Other 1 14 — — 1 14 Total available-for-sale 1,992 19,426 730 4,804 2,722 24,230 Total HTM and AFS investment securities $ 2,006 $ 19,753 $ 752 $ 4,900 $ 2,758 $ 24,653 48 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 1 $ 88 $ 1 $ 68 $ 2 $ 156 Available-for-sale U.S. Treasury securities — — 21 134 21 134 U.S. Government agencies and corporatio Agency securities 1 121 — 1 1 122 Agency guaranteed mortgage-backed securities 231 13,574 39 942 270 14,516 Small Business Administration loan-backed securities — 27 28 749 28 776 Municipal securities 4 327 — 8 4 335 Other — — — — — — Total available-for-sale 236 14,049 88 1,834 324 15,883 Total HTM and AFS investment securities $ 237 $ 14,137 $ 89 $ 1,902 $ 326 $ 16,039 Approximately 488 and 137 HTM and 3,528 and 1,302 AFS investment securities were in an unrealized loss position at June 30, 2022, and December 31, 2021, respectively. Impairment We review investment securities quarterly on an individual security basis for the presence of impairment. For additional information on our policy and impairment evaluation process for investment securities, see Note 5 of our 2021 Form 10-K. AFS Impairment We did not recognize any impairment on our AFS investment securities portfolio during the first six months of 2022. Unrealized losses primarily relate to changes in interest rates subsequent to purchase and are not attributable to credit. At June 30, 2022, we had not initiated any sales of AFS securities, nor did we have an intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not that we would be required to sell such securities before recovery of their amortized cost basis. HTM Impairment For HTM securities, the allowance for credit losses (“ACL”) is assessed consistent with the approach described in Note 6 for loans and leases carried at amortized cost. The ACL on HTM securities was less than $ 1 million at June 30, 2022. All HTM securities were risk-graded as “ Pass ” in terms of credit quality and none were past due at June 30, 2022. The amortized cost basis of HTM securities categorized by year acquired is summarized in the following schedu June 30, 2022 Amortized cost basis by year acquired (In millions) 2022 2021 2020 2019 2018 Prior Total Securities Held-to-maturity $ 220 $ 87 $ 117 $ 9 $ — $ 181 $ 614 49 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Securities Gains and Losses Recognized in Income The following schedule summarizes securities gains and losses recognized in the income statemen Three Months Ended June 30, Six Months Ended June 30, 2022 2021 2022 2021 (In millions) Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Other noninterest-bearing investments $ 1 $ — $ 66 $ 3 $ 5 $ 21 $ 80 $ 6 Net gains (losses) 1 $ 1 $ 63 $ ( 16 ) $ 74 1 Net gains (losses) were recognized in securities gains (losses) in the income statement. The following schedule presents interest income by security type: Three Months Ended June 30, 2022 2021 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 3 $ 1 $ 4 $ 2 $ 1 $ 3 Available-for-sale 109 11 120 61 7 68 Trading — 4 4 — 3 3 Total securities $ 112 $ 16 $ 128 $ 63 $ 11 $ 74 Six Months Ended June 30, 2022 2021 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 5 $ 2 $ 7 $ 5 $ 3 $ 8 Available-for-sale 205 19 224 118 14 132 Trading — 9 9 — 5 5 Total $ 210 $ 30 $ 240 $ 123 $ 22 $ 145 At June 30, 2022 and December 31, 2021, investment securities with a carrying value of $ 3.2 billion and $ 3.1 billion, respectively, were pledged to secure public and trust deposits, advances, and for other purposes as required by law. Securities are also pledged as collateral for security repurchase agreements. 50 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific loan class: (In millions) June 30, 2022 December 31, 2021 Loans held for sale $ 42 $ 83 Commerci Commercial and industrial $ 14,989 $ 13,867 PPP 534 1,855 Leasing 339 327 Owner-occupied 9,208 8,733 Municipal 4,113 3,658 Total commercial 29,183 28,440 Commercial real estate: Construction and land development 2,659 2,757 Term 9,477 9,441 Total commercial real estate 12,136 12,198 Consume Home equity credit line 3,266 3,016 1-4 family residential 6,423 6,050 Construction and other consumer real estate 787 638 Bankcard and other revolving plans 448 396 Other 127 113 Total consumer 11,051 10,213 Total loans and leases $ 52,370 $ 50,851 Loans and leases are presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 45 million and $ 83 million at June 30, 2022 and December 31, 2021, respectively. Amortized cost basis does not include accrued interest receivables of $ 163 million and $ 161 million at June 30, 2022 and December 31, 2021, respectively. These receivables are presented in the Consolidated Balance Sheet within the “Other assets” line item. Municipal loans generally include loans to state and local governments (“municipalities”) with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 198 million at June 30, 2022 and $ 160 million at December 31, 2021. Loans with a carrying value of $ 27.0 billion at June 30, 2022 and $ 26.8 billion at December 31, 2021 have been pledged at the Federal Reserve and the Federal Home Loan Bank (“FHLB”) of Des Moines as collateral for potential borrowings. We sold loans totaling $ 187 million and $ 523 million for the three and six months ended June 30, 2022, and $ 436 million and $ 859 million for the three and six months ended June 30, 2021, that were classified as loans held for sale. The sold loans were derecognized from the balance sheet. Loans classified as loans held for sale primarily consist of conforming residential mortgages and the guaranteed portion of Small Business Administration (“SBA”) loans that are primarily sold to U.S. government agencies or participated to third parties. They do not include loans from the SBA's Paycheck Protection Program (“PPP”). At times, we have continuing involvement in the sold loans in the form of servicing rights or guarantees. Amounts added to loans held for sale during these same periods were $ 190 million and $ 487 million for the three and six months ended June 30, 2022, and $ 428 million and $ 855 million 51 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES for the three and six months ended June 30, 2021, respectively. See Note 5 for further information regarding guaranteed securities. The principal balance of sold loans for which we retain servicing was $ 3.5 billion at June 30, 2022, and $ 3.3 billion at December 31, 2021. Income from loans sold, excluding servicing, was $ 4 million and $ 10 million for the three and six months ended June 30, 2022, and $ 7 million and $ 18 million for the three and six months ended June 30, 2021, respectively. Allowance for Credit Losses The allowance for credit losses (“ACL”), which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. For additional information regarding our policies and methodologies used to estimate the ACL, see Note 6 of our 2021 Form 10-K. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is estimated consistent with the approach for loans carried at amortized cost. See Note 5 of our 2021 Form 10-K for further discussion of our methodology used to estimate the ACL on AFS and HTM debt securities. Changes in the ACL are summarized as follows: Three Months Ended June 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 282 $ 102 $ 94 $ 478 Provision for loan losses 12 12 15 39 Gross loan and lease charge-offs 15 — 3 18 Recoveries 7 — 2 9 Net loan and lease charge-offs (recoveries) 8 — 1 9 Balance at end of period $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments Balance at beginning of period $ 14 $ 12 $ 10 $ 36 Provision for unfunded lending commitments ( 1 ) 3 — 2 Balance at end of period $ 13 $ 15 $ 10 $ 38 Total allowance for credit losses at end of period Allowance for loan losses $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments 13 15 10 38 Total allowance for credit losses $ 299 $ 129 $ 118 $ 546 52 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 311 $ 107 $ 95 $ 513 Provision for loan losses ( 12 ) 7 15 10 Gross loan and lease charge-offs 28 — 7 35 Recoveries 15 — 5 20 Net loan and lease charge-offs (recoveries) 13 — 2 15 Balance at end of period $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments Balance at beginning of period $ 19 $ 11 $ 10 $ 40 Provision for unfunded lending commitments ( 6 ) 4 — ( 2 ) Balance at end of period $ 13 $ 15 $ 10 $ 38 Total allowance for credit losses at end of period Allowance for loan losses $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments 13 15 10 38 Total allowance for credit losses $ 299 $ 129 $ 118 $ 546 Three Months Ended June 30, 2021 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 362 $ 152 $ 132 $ 646 Provision for loan losses ( 43 ) ( 41 ) ( 29 ) ( 113 ) Gross loan and lease charge-offs 5 — 3 8 Recoveries 7 — 3 10 Net loan and lease charge-offs (recoveries) ( 2 ) — — ( 2 ) Balance at end of period $ 321 $ 111 $ 103 $ 535 Reserve for unfunded lending commitments Balance at beginning of period $ 24 $ 17 $ 8 $ 49 Provision for unfunded lending commitments ( 3 ) ( 7 ) — ( 10 ) Balance at end of period $ 21 $ 10 $ 8 $ 39 Total allowance for credit losses at end of period Allowance for loan losses $ 321 $ 111 $ 103 $ 535 Reserve for unfunded lending commitments 21 10 8 39 Total allowance for credit losses $ 342 $ 121 $ 111 $ 574 53 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2021 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 464 $ 171 $ 142 $ 777 Provision for loan losses ( 137 ) ( 60 ) ( 39 ) ( 236 ) Gross loan and lease charge-offs 23 — 6 29 Recoveries 17 — 6 23 Net loan and lease charge-offs (recoveries) 6 — — 6 Balance at end of period $ 321 $ 111 $ 103 $ 535 Reserve for unfunded lending commitments Balance at beginning of period $ 30 $ 20 $ 8 $ 58 Provision for unfunded lending commitments ( 9 ) ( 10 ) — ( 19 ) Balance at end of period $ 21 $ 10 $ 8 $ 39 Total allowance for credit losses at end of period Allowance for loan losses $ 321 $ 111 $ 103 $ 535 Reserve for unfunded lending commitments 21 10 8 39 Total allowance for credit losses $ 342 $ 121 $ 111 $ 574 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement, (2) the loan, if secured, is well-secured, (3) the borrower has paid according to the contractual terms for a minimum of six months, and (4) an analysis of the borrower indicates a reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of loans on nonaccrual status is summarized as follows: June 30, 2022 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Loans held for sale $ 5 $ 1 $ 6 $ — Commerci Commercial and industrial $ 12 $ 74 $ 86 $ 29 PPP — 1 1 — Owner-occupied 25 15 40 1 Total commercial 37 90 127 30 Commercial real estate: Term 1 19 20 3 Total commercial real estate 1 19 20 3 Consume Home equity credit line 1 9 10 2 1-4 family residential 9 29 38 4 Bankcard and other revolving plans — — — — Total consumer loans 10 38 48 6 Total $ 48 $ 147 $ 195 $ 39 54 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 30 $ 94 $ 124 $ 34 PPP 2 1 3 — Owner-occupied 37 20 57 3 Total commercial 69 115 184 37 Commercial real estate: Term 6 14 20 3 Total commercial real estate 6 14 20 3 Consume Home equity credit line 4 10 14 2 1-4 family residential 9 43 52 5 Bankcard and other revolving plans — 1 1 1 Total consumer loans 13 54 67 8 Total $ 88 $ 183 $ 271 $ 48 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed or written off from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. For the six months ended June 30, 2022 and 2021, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. The amount of accrued interest receivables written off by reversing interest income during the period is summarized by loan portfolio segment as follows: Three Months Ended June 30, Six Months Ended June 30, (In millions) 2022 2021 2022 2021 Commercial $ 4 $ 4 $ 8 $ 7 Commercial real estate — 1 — 1 Consumer — — — — Total $ 4 $ 5 $ 8 $ 8 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as bankcard and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. 55 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Past due loans (accruing and nonaccruing) are summarized as follows: June 30, 2022 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 14,937 $ 31 $ 21 $ 52 $ 14,989 $ — $ 64 PPP 526 7 1 8 534 — — Leasing 339 — — — 339 — — Owner-occupied 9,191 10 7 17 9,208 2 33 Municipal 4,113 — — — 4,113 — — Total commercial 29,106 48 29 77 29,183 2 97 Commercial real estate: Construction and land development 2,636 23 — 23 2,659 — — Term 9,423 45 9 54 9,477 3 15 Total commercial real estate 12,059 68 9 77 12,136 3 15 Consume Home equity credit line 3,260 4 2 6 3,266 — 6 1-4 family residential 6,399 6 18 24 6,423 — 19 Construction and other consumer real estate 787 — — — 787 — — Bankcard and other revolving plans 446 1 1 2 448 1 — Other 126 1 — 1 127 — — Total consumer loans 11,018 12 21 33 11,051 1 25 Total $ 52,183 $ 128 $ 59 $ 187 $ 52,370 $ 6 $ 137 December 31, 2021 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 13,822 $ 17 $ 28 $ 45 $ 13,867 $ 2 $ 91 PPP 1,813 35 7 42 1,855 5 — Leasing 327 — — — 327 — — Owner-occupied 8,712 7 14 21 8,733 — 42 Municipal 3,658 — — — 3,658 — — Total commercial 28,332 59 49 108 28,440 7 133 Commercial real estate: Construction and land development 2,757 — — — 2,757 — — Term 9,426 10 5 15 9,441 — 15 Total commercial real estate 12,183 10 5 15 12,198 — 15 Consume Home equity credit line 3,008 4 4 8 3,016 — 10 1-4 family residential 6,018 6 26 32 6,050 — 24 Construction and other consumer real estate 638 — — — 638 — — Bankcard and other revolving plans 393 2 1 3 396 1 — Other 112 1 — 1 113 — — Total consumer loans 10,169 13 31 44 10,213 1 34 Total $ 50,684 $ 82 $ 85 $ 167 $ 50,851 $ 8 $ 182 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is still not expected. 56 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk grading systems, which vary based on the size and type of credit risk exposure. The internal risk grades assigned to loans follow our definition of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. • Pass – A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention – A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard – A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful – A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were $ 1 million of loans classified as Doubtful at June 30, 2022, compared with none at December 31, 2021. We generally assign internal risk grades to commercial and commercial real estate (“CRE”) loans with commitments greater than $ 1 million, based on financial and statistical models, individual credit analysis, and loan officer experience and judgment. For these larger loans, we assign one of multiple risk grades within the Pass classification or one of the risk classifications described previously. We confirm our internal risk grades quarterly, or as soon as we identify information that affects the credit risk of the loan. For consumer loans and for commercial and CRE loans with commitments less than or equal to $ 1 million, we generally assign internal risk grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The amortized cost basis of loans and leases categorized by year of origination and by credit quality classifications as monitored by management are summarized as follows. 57 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES June 30, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Commerci Commercial and industrial Pass $ 1,522 $ 2,234 $ 1,116 $ 955 $ 627 $ 409 $ 7,267 $ 181 $ 14,311 Special Mention — 21 15 3 6 44 137 — 226 Accruing Substandard 13 21 18 107 42 75 87 3 366 Nonaccrual 1 12 3 4 1 15 47 3 86 Total commercial and industrial 1,536 2,288 1,152 1,069 676 543 7,538 187 14,989 PPP Pass — 341 192 — — — — — 533 Nonaccrual — — 1 — — — — — 1 Total PPP — 341 193 — — — — — 534 Leasing Pass 14 85 66 57 55 50 — — 327 Special Mention — — — 5 1 1 — — 7 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 14 85 66 62 56 56 — — 339 Owner-occupied Pass 1,242 2,396 1,212 969 750 2,027 164 86 8,846 Special Mention 1 6 12 15 19 24 — 1 78 Accruing Substandard 8 12 43 33 62 80 6 — 244 Nonaccrual — — 3 7 6 20 4 — 40 Total owner-occupied 1,251 2,414 1,270 1,024 837 2,151 174 87 9,208 Municipal Pass 736 1,263 904 498 174 522 5 — 4,102 Special Mention — — — 8 — — — — 8 Accruing Substandard — — — — — 3 — — 3 Nonaccrual — — — — — — — — — Total municipal 736 1,263 904 506 174 525 5 — 4,113 Total commercial 3,537 6,391 3,585 2,661 1,743 3,275 7,717 274 29,183 Commercial real estate: Construction and land development Pass 188 702 721 213 2 2 720 45 2,593 Special Mention 1 1 — 22 — 24 — — 48 Accruing Substandard 9 — — 9 — — — — 18 Nonaccrual — — — — — — — — — Total construction and land development 198 703 721 244 2 26 720 45 2,659 Term Pass 1,472 2,160 1,587 1,253 937 1,429 224 161 9,223 Special Mention — 22 — 16 3 8 — — 49 Accruing Substandard 48 4 36 22 37 38 — — 185 Nonaccrual — — 1 4 1 14 — — 20 Total term 1,520 2,186 1,624 1,295 978 1,489 224 161 9,477 Total commercial real estate 1,718 2,889 2,345 1,539 980 1,515 944 206 12,136 58 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES June 30, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Consume Home equity credit line Pass — — — — — — 3,156 98 3,254 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 7 3 10 Total home equity credit line — — — — — — 3,165 101 3,266 1-4 family residential Pass 989 1,394 985 652 401 1,960 — — 6,381 Special Mention — — — — — — — — — Accruing Substandard — — — 2 — 2 — — 4 Nonaccrual — 1 3 2 1 31 — — 38 Total 1-4 family residential 989 1,395 988 656 402 1,993 — — 6,423 Construction and other consumer real estate Pass 167 443 130 31 9 7 — — 787 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 167 443 130 31 9 7 — — 787 Bankcard and other revolving plans Pass — — — — — — 444 3 447 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 445 3 448 Other consumer Pass 49 40 16 12 6 4 — — 127 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 49 40 16 12 6 4 — — 127 Total consumer 1,205 1,878 1,134 699 417 2,004 3,610 104 11,051 Total loans $ 6,460 $ 11,158 $ 7,064 $ 4,899 $ 3,140 $ 6,794 $ 12,271 $ 584 $ 52,370 59 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2016 Prior Total loans Commerci Commercial and industrial Pass $ 2,561 $ 1,309 $ 1,179 $ 748 $ 354 $ 239 $ 6,594 $ 121 $ 13,105 Special Mention 4 17 9 12 1 3 128 1 175 Accruing Substandard 28 22 99 53 31 65 162 3 463 Nonaccrual 14 10 6 3 1 21 51 18 124 Total commercial and industrial 2,607 1,358 1,293 816 387 328 6,935 143 13,867 PPP Pass 1,317 535 — — — — — — 1,852 Nonaccrual — 3 — — — — — — 3 Total PPP 1,317 538 — — — — — — 1,855 Leasing Pass 46 74 70 64 42 19 — — 315 Special Mention — 1 4 1 1 — — — 7 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 46 75 74 65 43 24 — — 327 Owner-occupied Pass 2,420 1,366 1,028 868 695 1,663 177 69 8,286 Special Mention 10 13 19 32 18 50 3 3 148 Accruing Substandard 14 24 41 47 24 79 13 — 242 Nonaccrual — 4 14 9 9 20 1 — 57 Total owner-occupied 2,444 1,407 1,102 956 746 1,812 194 72 8,733 Municipal Pass 1,303 963 553 250 327 220 3 — 3,619 Special Mention — — — — — 25 — — 25 Accruing Substandard — 9 — — — 5 — — 14 Nonaccrual — — — — — — — — — Total municipal 1,303 972 553 250 327 250 3 — 3,658 Total commercial 7,717 4,350 3,022 2,087 1,503 2,414 7,132 215 28,440 Commercial real estate: Construction and land development Pass 640 736 515 94 24 2 650 64 2,725 Special Mention — — 1 — — — — — 1 Accruing Substandard — 3 28 — — — — — 31 Nonaccrual — — — — — — — — — Total construction and land development 640 739 544 94 24 2 650 64 2,757 Term Pass 2,407 1,765 1,491 1,066 529 1,401 239 179 9,077 Special Mention 22 39 10 17 8 25 — 4 125 Accruing Substandard 9 9 44 77 14 64 — 2 219 Nonaccrual — 1 5 1 — 13 — — 20 Total term 2,438 1,814 1,550 1,161 551 1,503 239 185 9,441 Total commercial real estate 3,078 2,553 2,094 1,255 575 1,505 889 249 12,198 60 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2016 Prior Total loans Consume Home equity credit line Pass — — — — — — 2,903 96 2,999 Special Mention — — — — — — 1 — 1 Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 7 7 14 Total home equity credit line — — — — — — 2,913 103 3,016 1-4 family residential Pass 1,391 1,021 728 484 681 1,691 — — 5,996 Special Mention — — — — — — — — — Accruing Substandard — — 1 — — 1 — — 2 Nonaccrual — 3 3 3 9 34 — — 52 Total 1-4 family residential 1,391 1,024 732 487 690 1,726 — — 6,050 Construction and other consumer real estate Pass 295 232 73 27 4 7 — — 638 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 295 232 73 27 4 7 — — 638 Bankcard and other revolving plans Pass — — — — — — 391 3 394 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — 1 — 1 Total bankcard and other revolving plans — — — — — — 393 3 396 Other consumer Pass 58 23 17 9 4 2 — — 113 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 58 23 17 9 4 2 — — 113 Total consumer 1,744 1,279 822 523 698 1,735 3,306 106 10,213 Total loans $ 12,539 $ 8,182 $ 5,938 $ 3,865 $ 2,776 $ 5,654 $ 11,327 $ 570 $ 50,851 Modified and Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are considered troubled debt restructurings (“TDRs”). For further discussion of our policies and processes regarding TDRs, see Note 6 of our 2021 Form 10-K. 61 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Information on TDRs, including the amortized cost on an accruing and nonaccruing basis by loan class and modification type is summarized in the following schedul June 30, 2022 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 15 $ 10 $ — $ — $ 1 $ 31 $ 57 Owner-occupied — 5 — 9 14 9 37 Municipal — 8 — — — — 8 Total commercial 15 23 — 9 15 40 102 Commercial real estate: Term 1 27 — 27 29 1 85 Total commercial real estate 1 27 — 27 29 1 85 Consume Home equity credit line — 1 5 — — 1 7 1-4 family residential 3 — 2 — 1 14 20 Total consumer loans 3 1 7 — 1 15 27 Total accruing 19 51 7 36 45 56 214 Nonaccruing Commerci Commercial and industrial 1 3 — 10 3 6 23 Owner-occupied 9 — — — — 8 17 Total commercial 10 3 — 10 3 14 40 Commercial real estate: Term — — — 11 — 4 15 Total commercial real estate — — — 11 — 4 15 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 1 — — 3 5 Total consumer loans — 1 2 — — 3 6 Total nonaccruing 10 4 2 21 3 21 61 Total $ 29 $ 55 $ 9 $ 57 $ 48 $ 77 $ 275 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. 62 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 19 $ 1 $ — $ — $ 4 $ 7 $ 31 Owner-occupied 5 4 — 8 14 12 43 Municipal — 10 — — — — 10 Total commercial 24 15 — 8 18 19 84 Commercial real estate: Term 1 29 — 27 41 8 106 Total commercial real estate 1 29 — 27 41 8 106 Consume Home equity credit line — 1 5 — — 2 8 1-4 family residential 5 1 2 — 1 14 23 Total consumer loans 5 2 7 — 1 16 31 Total accruing 30 46 7 35 60 43 221 Nonaccruing Commerci Commercial and industrial 1 4 — 2 8 49 64 Owner-occupied 5 — — 2 — 13 20 Total commercial 6 4 — 4 8 62 84 Commercial real estate: Term — — — 11 2 3 16 Total commercial real estate — — — 11 2 3 16 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 3 — 4 Total consumer loans — 1 1 — 3 — 5 Total nonaccruing 6 5 1 15 13 65 105 Total $ 36 $ 51 $ 8 $ 50 $ 73 $ 108 $ 326 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. Unfunded lending commitments on TDRs totaled $ 11 million and $ 10 million at June 30, 2022 and December 31, 2021, respectively. The total amortized cost of all TDRs in which interest rates were modified below market was $ 87 million at June 30, 2022 and $ 100 million at December 31, 2021. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the three and six months ended June 30, 2022 and 2021 was not significant. On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. 63 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Collateral-Dependent Loans When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. Select information on loans for which the repayment is expected to be provided substantially through the operation or sale of the underlying collateral and the borrower is experiencing financial difficulties, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: June 30, 2022 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 1 Corporate assets 14 % Owner-occupied 2 Land 38 % Commercial real estate: Term 2 Multi-family 32 % Consume Home equity credit line 2 Single family residential 15 % 1-4 family residential 1 Single family residential 36 % Total $ 8 December 31, 2021 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 27 Corporate assets, Single family residential 55 % Owner-occupied 11 Office Building 40 % Commercial real estate: Term 2 Multi-family, Retail 28 % Consume Home equity credit line 5 Single family residential 45 % 1-4 family residential 2 Single family residential 35 % Total $ 47 1 The fair value is based on the most recent appraisal or other collateral evaluation . Foreclosed Residential Real Estate At June 30, 2022 and December 31, 2021, we did no t have any foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure was $ 14 million and $ 10 million for the same periods, respectively. 64 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives and Accounting Our primary objective for using derivatives is to manage risks, primarily interest rate risk. We use derivatives to manage volatility in interest income, interest expense, earnings, and capital by adjusting our interest rate sensitivity to minimize the impact of fluctuations in interest rates. Derivatives are used to stabilize forecasted interest income from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities as we consider advisable. We also assist clients with their risk management needs through the use of derivatives. For a more detailed discussion of the use of and accounting policies regarding derivative instruments, see Note 7 of our 2021 Form 10-K. Fair Value Hedges of Liabilities – At June 30, 2022, we had one receive-fixed interest rate swap with a notional amount of $ 500 million designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converts the interest on our fixed-rate debt to floating. During the second quarter of 2022, derivatives designated as fair value hedges of debt decreased in value by $ 18 million, which was offset by changes in the fair value of the hedged debt instruments as shown in the schedules below. We had no cumulative unamortized debt basis adjustments related to previously terminated fair value hedges of debt at June 30, 2022. Fair Value Hedges of Assets – At June 30, 2022, we had pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 1.2 billion designated as fair value hedges of certain AFS securities. These swaps effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. During the second quarter of 2022, derivatives designated as fair value hedges of fixed-rate AFS securities increased in value by $ 97 million, which was offset by changes in value of the hedged securities, as shown in the schedules below. We had $ 7 million of unamortized basis adjustments to AFS securities from previously designated fair value hedges. Cash Flow Hedges – At June 30, 2022, we had $ 6.8 billion notional amount of receive-fixed interest rate swaps designated as cash flow hedges of pools of floating-rate commercial loans. Also during the quarter, our cash flow hedge portfolio decreased in value by $ 72 million, which was recorded in AOCI. The amounts deferred in AOCI are reclassified into earnings in the periods in which the hedged interest receipts occur (i.e., when the hedged forecasted transactions affect earnings). Collateral and Credit Risk Exposure to credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred as a result of counterparty nonperformance. For a more detailed discussion of collateral and credit risk related to our derivative contracts, see Note 7 of our 2021 Form 10-K. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position at a given balance sheet date. Certain of these derivative contracts contain credit-risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit-risk-related feature were triggered, such as a downgrade of our credit rating. However, in past situations, not all counterparties have demanded that additional collateral be pledged when provided for by the contractual terms. At June 30, 2022, the fair value of our derivative liabilities was $ 295 million, for which we were required to pledge cash collateral of $ 133 million in the normal course of business. If our credit rating were downgraded one notch by either Standard & Poor’s (“S&P”) or Moody’s at June 30, 2022, there would likely be less than $ 1 million of additional collateral required to be pledged. 65 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Derivative Amounts Certain information with respect to notional amounts and recorded gross fair values at June 30, 2022 and December 31, 2021, and the related gain (loss) of derivative instruments is summarized as follows: June 30, 2022 December 31, 2021 Notional amount Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Receive-fixed interest rate swaps $ 6,833 $ — $ 2 $ 6,883 $ — $ — Fair value hed Debt hed Receive-fixed interest rate swaps 500 — — 500 — — Asset hed Pay-fixed interest rate swaps 1,229 58 — 479 10 — Total derivatives designated as hedging instruments 8,562 58 2 7,862 10 — Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives 1 6,609 14 284 6,587 192 36 Offsetting interest rate derivatives 2 6,609 298 14 6,587 38 197 Other interest rate derivatives 883 1 — 1,286 6 1 Foreign exchange derivatives 392 4 3 288 3 2 Total derivatives not designated as hedging instruments 14,493 317 301 14,748 239 236 Total derivatives $ 23,055 $ 375 $ 303 $ 22,610 $ 249 $ 236 1 Customer-facing interest rate derivatives include a net credit valuation adjustment (“CVA”) of $ 13 million, reducing the fair value of the liability at June 30, 2022, and $ 3 million, reducing the fair value of the asset at December 31, 2021. These adjustments are required to reflect both our nonperformance risk and that of the respective counterparties. 2 The fair value amounts for these derivatives do not include the settlement amounts for those trades that are centrally cleared. Once the settlement amounts with the clearing houses are included, the total derivative fair values would be the followin June 30, 2022 December 31, 2021 (In millions) Other assets Other liabilities Other assets Other liabilities Offsetting interest rate derivatives $ 75 $ 6 $ 8 $ 12 The amount of derivative gains (losses) from cash flow and fair value hedges that was deferred in other comprehensive income (“OCI”) or recognized in earnings for the six months ended June 30, 2022 and 2021 is shown in the schedules below. Three Months Ended June 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — Interest rate swaps ( 66 ) 6 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 1 Basis amortization on terminated hedges 2, 3 — — — Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 66 ) $ 6 $ — 66 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 2 $ — Interest rate swaps ( 244 ) 17 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 3 Basis amortization on terminated hedges 2, 3 — — 1 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 2 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 244 ) $ 19 $ 2 Three Months Ended June 30, 2021 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 2 $ — Interest rate swaps ( 4 ) 13 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 2 Basis amortization on terminated hedges 2, 3 — — 3 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 4 ) $ 15 $ 4 67 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2021 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 6 $ — Interest rate swaps ( 9 ) 25 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 4 Basis amortization on terminated hedges 2, 3 — — 6 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 9 ) $ 31 $ 9 1 For the 12 months following June 30, 2022, we estimate that $ 94 million of losses will be reclassified from AOCI into interest income, compared with an estimate of $ 48 million of gains as of June 30, 2021. 2 Adjustment to interest expense resulting from the amortization of the debt basis adjustment on fixed-rate debt previously hedged by terminated receive-fixed interest rate. 3 There was no cumulative unamortized basis adjustment from previously terminated or redesignated fair value debt hedges and $ 7 million of terminated fair value asset hedges at June 30, 2022, compared with $ 5 million and $ 7 million as of June 30, 2021, respectively. The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) Three Months Ended June 30, 2022 Six Months Ended June 30, 2022 Three Months Ended June 30, 2021 Six Months Ended June 30, 2021 Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives $ ( 143 ) $ ( 411 ) $ 87 $ ( 95 ) Offsetting interest rate derivatives 160 441 ( 89 ) 117 Other interest rate derivatives ( 1 ) — ( 6 ) ( 10 ) Foreign exchange derivatives 8 14 6 11 Total derivatives not designated as hedging instruments $ 24 $ 44 $ ( 2 ) $ 23 The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Three Months Ended June 30, 2022 Three Months Ended June 30, 2021 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ ( 18 ) $ 18 $ — $ 12 $ ( 12 ) $ — Assets: Pay-fixed interest rate swaps 1, 2 97 ( 97 ) — ( 25 ) 25 — 68 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Gain/(loss) recorded in income Six Months Ended June 30, 2022 Six Months Ended June 30, 2021 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ ( 50 ) $ 50 $ — $ ( 23 ) $ 23 $ — Assets: Pay-fixed interest rate swaps 1, 2 150 ( 150 ) — 23 ( 23 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt and fixed-rate AFS securities. Gains and losses were recorded in net interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) 1 Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged item (In millions) June 30, 2022 December 31, 2021 June 30, 2022 December 31, 2021 June 30, 2022 December 31, 2021 Long-term fixed-rate debt $ ( 500 ) $ ( 500 ) $ ( 482 ) $ ( 507 ) $ 18 $ ( 7 ) Fixed-rate AFS securities 1,229 479 1,132 435 ( 97 ) ( 44 ) 1 Carrying amounts displayed above exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 8 . LEASES We have operating and finance leases for branches, corporate offices, and data centers. At June 30, 2022, we had 413 branches, of which 273 are owned and 140 are leased. We lease our headquarters in Salt Lake City, Utah. The remaining maturities of our lease commitments range from the year 2022 to 2062 , and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “ Other assets ,” and “ Premises, equipment and software, net ,” respectively. The corresponding liabilities for those leases are presented in “ Other liabilities ,” and “ Long-term debt .” For more information about our lease policies, see Note 8 of our 2021 Form 10-K. The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate: (Dollar amounts in millions) June 30, 2022 December 31, 2021 Operating leases ROU assets, net of amortization $ 183 $ 195 Lease liabilities 209 222 Financing leases ROU assets, net of amortization 4 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.5 8.5 Finance leases 17.8 18.3 Weighted average discount rate Operating leases 2.8 % 2.8 % Finance leases 3.1 % 3.1 % 69 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Additional information related to lease expense is presented be Three Months Ended June 30, Six Months Ended June 30, (In millions) 2022 2021 2022 2021 Lease expense: Operating lease expense $ 12 $ 12 $ 24 $ 24 Other expenses associated with operating leases 1 12 12 24 25 Total lease expense $ 24 $ 24 $ 48 $ 49 Related cash disbursements from operating leases $ 12 $ 12 $ 25 $ 25 1 Other expenses primarily relate to property taxes and building and property maintenance. ROU assets related to new leases totaled $ 1 million at both June 30, 2022 and December 31, 2021. Total contractual undiscounted lease payments for operating lease liabilities are summarized in the following schedule by expected due date: (In millions) Total undiscounted lease payments 2022 1 $ 24 2023 46 2024 37 2025 27 2026 22 Thereafter 86 Total $ 242 1 Contractual maturities for the six months remaining in 2022. We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 3 million for both the second quarter of 2022 and 2021, and $ 7 million for both the first six months of 2022 and 2021. We originated equipment leases, considered to be sales-type leases or direct financing leases, totaling $ 339 million and $ 327 million at June 30, 2022 and December 31, 2021, respectively. We recorded income of $ 3 million on these leases for both the second quarter of 2022 and 2021, and $ 6 million for both the first six months of 2022 and 2021. 9. LONG-TERM DEBT AND SHAREHOLDERS’ EQUITY Long-Term Debt The long-term debt carrying values in the following schedule represent the par value of the debt, adjusted for any unamortized premium or discount, unamortized debt issuance costs, and basis adjustments for interest rate swaps designated as fair value hedges. LONG-TERM DEBT (In millions) June 30, 2022 December 31, 2021 Amount change Percent change Subordinated notes $ 540 $ 590 $ ( 50 ) ( 8 ) % Senior notes 127 418 ( 291 ) ( 70 ) Finance lease obligations 4 4 — — Total $ 671 $ 1,012 $ ( 341 ) ( 34 ) % The decrease in long-term debt was primarily due to the redemption of $ 290 million of the 4-year , 3.35 % senior notes during the first quarter of 2022. 70 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Common Stock Our common stock is traded on the National Association of Securities Dealers Automated Quotations (“NASDAQ”) Global Select Market. At June 30, 2022, there were 150.5 million shares of $ 0.001 par value common stock outstanding. Common stock and additional paid-in capital totaled $ 1.8 billion at June 30, 2022, which decreased $ 83 million, or 4 %, from December 31, 2021, primarily due to common stock repurchases. During the first six months of 2022, we repurchased 1.7 million common shares outstanding for $ 100 million at an average price of $ 58.82 per share. Accumulated Other Comprehensive Income (Loss) Accumulated other comprehensive income (loss) decreased to a loss of $ 2.1 billion at June 30, 2022, primarily due to decreases in the fair value of fixed-rate available-for-sale securities as a result of changes in interest rates. Changes in AOCI by component are as follows: (In millions) Net unrealized gains/(losses) on investment securities Net unrealized gains/(losses) on derivatives and other Pension and post-retirement Total Six Months Ended June 30, 2022 Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) OCI (loss) before reclassifications, net of tax ( 1,820 ) ( 185 ) — ( 2,005 ) Amounts reclassified from AOCI, net of tax — ( 15 ) — ( 15 ) Other comprehensive loss ( 1,820 ) ( 200 ) — ( 2,020 ) Balance at June 30, 2022 $ ( 1,898 ) $ ( 200 ) $ ( 2 ) $ ( 2,100 ) Income tax benefit included in OCI (loss) $ ( 590 ) $ ( 65 ) $ — $ ( 655 ) Six Months Ended June 30, 2021 Balance at December 31, 2020 $ 258 $ 69 $ ( 2 ) $ 325 OCI (loss) before reclassifications, net of tax ( 130 ) 3 — ( 127 ) Amounts reclassified from AOCI, net of tax — ( 23 ) — ( 23 ) Other comprehensive income (loss) ( 130 ) ( 20 ) — ( 150 ) Balance at June 30, 2021 $ 128 $ 49 $ ( 2 ) $ 175 Income tax benefit included in OCI (loss) $ ( 42 ) $ ( 6 ) $ — $ ( 48 ) Amounts reclassified from AOCI 1 Statement of income (SI) (In millions) Three Months Ended June 30, Six Months Ended June 30, Details about AOCI components 2022 2021 2022 2021 Affected line item Net unrealized gains on derivative instruments $ 6 $ 15 $ 20 $ 31 SI Interest and fees on loans Income tax expense 2 4 5 8 Amounts reclassified from AOCI $ 4 $ 11 $ 15 $ 23 1 Positive reclassification amounts indicate increases to earnings in the income statement. 71 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 10. COMMITMENTS, GUARANTEES, AND CONTINGENT LIABILITIES Commitments and Guarantees Off-balance sheet financial obligations used to meet the financing needs of our customers include the followin (In millions) June 30, 2022 December 31, 2021 Unfunded lending commitments 1 $ 27,211 $ 25,797 Standby letters of cr Financial 581 597 Performance 199 245 Commercial letters of credit 17 22 Total unfunded commitments $ 28,008 $ 26,661 1 Net of participations. Our 2021 Form 10-K contains further information about these commitments and guarantees including their terms and collateral requirements. At June 30, 2022, the liability for the guarantees associated with the standby letters of credit was $ 4 million , which consisted of $ 1 million attributable to the RULC, and $ 3 million of deferred commitment fees. Legal Matters We are subject to litigation in court and arbitral proceedings, as well as proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. In the second quarter of 2022, we were subject to the following material litigation or governmental inquiri • a civil suit, JTS Communities, Inc. et. al v. CB&T, Jun Enkoji and Dawn Satow , brought against us in the Superior Court for Sacramento County, California in June 2017. In this case four investors in our former customer, International Manufacturing Group (“IMG”) seek to hold us liable for losses arising from their investments in that company, alleging that we conspired with and knowingly assisted IMG and its principal in furtherance of an alleged Ponzi scheme. In March 2022, the parties participated in mediation, which resulted in a binding settlement agreement. Our insurers paid the settlement amount under applicable policies. The case was dismissed in May 2022. The settlement did not have a significant financial impact on the Bank. • a civil class action lawsuit, Evans v. CB&T , brought against us in the United States District Court for the Eastern District of California in May 2017. This case was filed on behalf of a class of up to 50 investors in IMG and seeks to hold us liable for losses of class members arising from their investments in IMG, alleging that we conspired with and knowingly assisted IMG and its principal in furtherance of an alleged Ponzi scheme. In December 2017, the District Court dismissed all claims against the Bank. In January 2018, the plaintiff filed an appeal with the Court of Appeals for the Ninth Circuit. The appeal was heard in early April 2019 with the Court of Appeals reversing the trial court’s dismissal. In March 2022, the parties participated in mediation and an agreement was reached in principle. Our insurers are responsible for the payment of the settlement amount under applicable policies. The settlement agreement has been submitted to the court for its preliminary approval of the agreement and notification of the putative class. There can be no assurance that the proposed settlement 72 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES will result in a definitive agreement, that the conditions to the settlement will be met or the settlement will be approved by the court. If completed, the proposed settlement is not expected to have a significant financial impact on the Bank. • two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the Bank who filed for bankruptcy protection in 2017. The cases are in early phases, with initial motion practice and discovery underway in the Lifescan case. Trial has not been scheduled in either case. • a civil class action lawsuit, Gregory, et. al. v. Zions Bancorporation , brought against us in the United States District Court for Utah in January 2019. This case was filed on behalf of investors in Rust Rare Coin, Inc., alleging that we aided and abetted a Ponzi scheme fraud perpetrated by Rust Rare Coin, a Zions Bank customer. The case follows civil actions and the establishment of a receivership for Rust Rare Coin by The Commodities Futures Trading Commission and the Utah Division of Securities in November 2018, as well as a separate suit brought by the Securities and Exchange Commission (“SEC”) against Rust Rare Coin and its principal, Gaylen Rust. During the third quarter of 2020, the Court granted our motion to dismiss the plaintiffs' claims in part, dismissing claims relating to fraud and fiduciary duty, but allowing a claim for aiding and abetting conversion to proceed. On January 14, 2022, the parties notified the court they reached a settlement in principle and the parties are preparing to submit a proposed settlement agreement for the court’s preliminary approval of the agreement and notification of the putative class. There can be no assurance that the proposed settlement will result in a definitive agreement, that the conditions to the settlement will be met or the settlement will be approved by the court. If completed, the proposed settlement is not expected to have a significant financial impact on the Bank. • Five civil class action cases have been filed against us by the same plaintiffs’ attorney, seeking to hold the Bank liable for practices relating to, and disclosures in, its deposit agreement pertaining to fees. Three of the five cases have been dismissed, and two remain pending. Sipple v. Zions Bancorporation, N.A. was brought against us in the District Court of Clark County, Nevada in February 2021 with respect to foreign transaction fees. The following four cases pertain to insufficient fund fees and have similar or overlapping claims: Ward v. Zions Bancorporation , N.A. was brought against us in federal court in the District of Arizona in May 2021 and was dismissed by the court in February 2022. Subsequently, the plaintiff dismissed his appeal of the court’s dismissal of the case. Thornton v. Zions Bancorporation, N.A. was brought against us in federal court in the District of Utah in June 2021 and was dismissed by plaintiff in February 2022. C hristensen v. Zions Bancorporation, N.A. was brought against us in California state court in November 2021 and removed to federal court in the Southern District of California in January 2022. Covell v. Zions Bancorporation, N.A. was brought against us in federal court in the Southern District of California in April 2022, and was dismissed by plaintiff in May 2022. The two remaining cases, Sipple and Christensen, are in early phases of litigation. At least quarterly, we review outstanding and new legal matters, utilizing then available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at June 30, 2022, we estimated that the aggregate range of reasonably possible losses for those matters to be from $ 0 million to roughly $ 10 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are 73 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments and actual outcomes will differ from our estimates. These differences may be material. 11. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which was approximately 76 % of our total revenue in the second quarter of 2022. Only noninterest income is considered to be revenue from contracts with customers in scope of ASC 606. For more information about our revenue recognition from contracts, see Note 17 of our 2021 Form 10-K. 74 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Disaggregation of Revenue The schedule below presents net revenue by our operating business segments for the three months ended June 30, 2022 and 2021. Certain prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 12 $ 11 $ 7 $ 6 $ 11 $ 10 Card fees 14 15 5 4 8 7 Retail and business banking fees 6 6 3 3 4 4 Capital markets and foreign exchange fees — — — — — — Wealth management fees 6 5 1 1 4 3 Other customer-related fees 2 2 2 1 2 1 Total noninterest income from contracts with customers (ASC 606) 40 39 18 15 29 25 Other noninterest income (non-ASC 606 customer-related) 6 7 8 9 13 9 Total customer-related noninterest income 46 46 26 24 42 34 Other noncustomer-related noninterest income 3 — 1 1 — 1 Total noninterest income 49 46 27 25 42 35 Net interest income 170 158 142 133 120 116 Total net revenue $ 219 $ 204 $ 169 $ 158 $ 162 $ 151 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 2 $ 2 $ 2 $ 2 $ 2 $ 2 Card fees 4 3 4 3 2 1 Retail and business banking fees 2 2 3 3 1 1 Capital markets and foreign exchange fees — — — — — — Wealth management fees 1 1 1 1 — — Other customer-related fees — — — — 1 1 Total noninterest income from contracts with customers (ASC 606) 9 8 10 9 6 5 Other noninterest income (non-ASC 606 customer-related) 1 2 2 3 2 3 Total customer-related noninterest income 10 10 12 12 8 8 Other noncustomer-related noninterest income 1 1 — — — — Total noninterest income 11 11 12 12 8 8 Net interest income 55 53 39 37 35 35 Total net revenue $ 66 $ 64 $ 51 $ 49 $ 43 $ 43 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 1 $ 1 $ — $ — $ 37 $ 34 Card fees 1 — ( 2 ) — 36 33 Retail and business banking fees — — 1 ( 1 ) 20 18 Capital markets and foreign exchange fees — — 1 2 1 2 Wealth management fees — — — — 13 11 Other customer-related fees — — 9 8 16 13 Total noninterest income from contracts with customers (ASC 606) 2 1 9 9 123 111 Other noninterest income (non-ASC 606 customer-related) — 1 ( 1 ) ( 6 ) 31 28 Total customer-related noninterest income 2 2 8 3 154 139 Other noncustomer-related noninterest income — — 13 63 18 66 Total noninterest income 2 2 21 66 172 205 Net interest income 15 14 17 9 593 555 Total net revenue $ 17 $ 16 $ 38 $ 75 $ 765 $ 760 75 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the noninterest income and net revenue by operating segments for the six months ended June 30, 2022 and 2021: Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 27 $ 22 $ 14 $ 12 $ 22 $ 20 Card fees 27 27 10 8 16 13 Retail and business banking fees 12 10 6 6 8 8 Capital markets and foreign exchange fees — — — — — — Wealth management fees 11 10 2 2 8 6 Other customer-related fees 4 4 3 2 3 3 Total noninterest income from contracts with customers (ASC 606) 81 73 35 30 57 50 Other noninterest income (non-ASC 606 customer-related) 11 12 14 17 22 16 Total customer-related noninterest income 92 85 49 47 79 66 Other noncustomer-related noninterest income 3 — 2 2 — 1 Total noninterest income 95 85 51 49 79 67 Net interest income 326 315 271 263 232 231 Total net revenue $ 421 $ 400 $ 322 $ 312 $ 311 $ 298 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 4 $ 4 $ 6 $ 4 $ 4 $ 3 Card fees 7 5 7 6 4 3 Retail and business banking fees 5 4 6 5 2 2 Capital markets and foreign exchange fees — — — — — — Wealth management fees 2 1 2 2 1 1 Other customer-related fees 1 1 — — 1 1 Total noninterest income from contracts with customers (ASC 606) 19 15 21 17 12 10 Other noninterest income (non-ASC 606 customer-related) 3 6 4 8 4 6 Total customer-related noninterest income 22 21 25 25 16 16 Other noncustomer-related noninterest income 1 1 — — — — Total noninterest income 23 22 25 25 16 16 Net interest income 106 105 77 73 68 68 Total net revenue $ 129 $ 127 $ 102 $ 98 $ 84 $ 84 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 1 $ 1 $ — $ — $ 78 $ 66 Card fees 1 1 — — 72 63 Retail and business banking fees — — 1 — 40 35 Capital markets and foreign exchange fees — — 2 3 2 3 Wealth management fees — — — — 26 22 Other customer-related fees — — 18 13 30 24 Total noninterest income from contracts with customers (ASC 606) 2 2 21 16 248 213 Other noninterest income (non-ASC 606 customer-related) 1 1 ( 2 ) ( 7 ) 57 59 Total customer-related noninterest income 3 3 19 9 305 272 Other noncustomer-related noninterest income — — 3 98 9 102 Total noninterest income 3 3 22 107 314 374 Net interest income 28 27 29 18 1,137 1,100 Total net revenue $ 31 $ 30 $ 51 $ 125 $ 1,451 $ 1,474 76 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is typically not significant. 12. INCOME TAXES The effective income tax rate was 21.9 % for the second quarter of 2022, compared with 22.2 % for the same prior year period. The effective tax rates for the first six months of 2022 and 2021 were 21.2 % and 21.9 %, respectively. These rates were reduced by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the non-deductibility of Federal Deposit Insurance Corporation (“FDIC”) premiums, certain executive compensation plans, and other fringe benefits. The tax rate for 2022 was lower than the tax rate for the same prior year period, primarily as a result of the proportional increase in nontaxable items and tax credits relative to pretax book income. At June 30, 2022, we had a net deferred tax asset (“DTA”) totaling $ 722 million, compared with $ 96 million at December 31, 2021. On the consolidated balance sheet, the net DTA is included in “Other assets.” The increase in the net DTA was driven largely by the increase in unrealized losses in AOCI associated with investment securities and derivative instruments. There was no valuation allowance at June 30, 2022 or December 31, 2021. We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more-likely-than-not criteria that such assets will be realized. This evaluation includes, but is not limited to (1) available carryback potential to prior tax years; (2) potential future reversals of existing deferred tax liabilities, which historically have a reversal pattern generally consistent with DTAs; (3) potential tax planning strategies; and (4) future projected taxable income. Based on this evaluation, we concluded that a valuation allowance was not required at June 30, 2022. 13. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: Three Months Ended June 30, Six Months Ended June 30, (In millions, except shares and per share amounts) 2022 2021 2022 2021 Basic: Net income $ 203 $ 354 $ 406 $ 676 Less common and preferred dividends 66 65 132 129 Less impact from redemption of preferred stock — 3 — 3 Undistributed earnings 137 286 274 544 Less undistributed earnings applicable to nonvested shares 1 2 2 5 Undistributed earnings applicable to common shares 136 284 272 539 Distributed earnings applicable to common shares 57 56 115 111 Total earnings applicable to common shares $ 193 $ 340 $ 387 $ 650 Weighted average common shares outstanding (in thousands) 150,635 162,742 150,958 163,144 Net earnings per common share $ 1.29 $ 2.08 $ 2.56 $ 3.98 Dilut Total earnings applicable to common shares $ 193 $ 340 $ 387 $ 650 Weighted average common shares outstanding (in thousands) 150,635 162,742 150,958 163,144 Dilutive effect of stock options (in thousands) 203 312 306 324 Weighted average diluted common shares outstanding (in thousands) 150,838 163,054 151,264 163,468 Net earnings per common share $ 1.29 $ 2.08 $ 2.56 $ 3.98 77 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per sh Three Months Ended June 30, Six Months Ended June 30, (In thousands) 2022 2021 2022 2021 Restricted stock and restricted stock units 1,251 1,374 1,289 1,394 Stock options 200 7 155 234 14. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, California Bank & Trust, Amegy Bank, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. The operating segment identified as “Other” includes certain non-bank financial service subsidiaries, centralized back-office functions, and eliminations of transactions between segments. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal funds transfer pricing (“FTP”) allocation system and process to report results of operations for business segments, which is continually refined. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. At June 30, 2022, Zions Bank operated 95 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. CB&T operated 80 branches in California. Amegy operated 75 branches in Texas. NBAZ operated 56 branches in Arizona. NSB operated 43 branches in Nevada. Vectra operated 34 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. In July 2022, NSB completed the purchase of three Northern Nevada branches and their associated deposit, credit card, and loan accounts. The purchase included approximately $ 430 million in deposits and $ 95 million in commercial and consumer loans. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. 78 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the three months ended June 30, 2022 and 2021: Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 170 $ 158 $ 142 $ 133 $ 120 $ 116 Provision for credit losses 1 ( 8 ) 16 ( 32 ) 5 ( 45 ) Net interest income after provision for credit losses 169 166 126 165 115 161 Noninterest income 49 46 27 25 42 35 Noninterest expense 125 113 84 76 88 84 Income (loss) before income taxes $ 93 $ 99 $ 69 $ 114 $ 69 $ 112 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 13,120 $ 13,248 $ 12,895 $ 13,053 $ 11,934 $ 12,452 Total average deposits 25,035 22,862 16,663 15,602 16,253 15,350 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 55 $ 53 $ 39 $ 37 $ 35 $ 35 Provision for credit losses 6 ( 14 ) 3 ( 12 ) 10 ( 11 ) Net interest income after provision for credit losses 49 67 36 49 25 46 Noninterest income 11 11 12 12 8 8 Noninterest expense 42 37 37 36 30 29 Income (loss) before income taxes $ 18 $ 41 $ 11 $ 25 $ 3 $ 25 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 4,888 $ 4,950 $ 2,914 $ 3,120 $ 3,527 $ 3,476 Total average deposits 8,447 7,036 7,546 6,552 4,189 4,388 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 15 $ 14 $ 17 $ 9 $ 593 $ 555 Provision for credit losses 1 ( 1 ) ( 1 ) — 41 ( 123 ) Net interest income after provision for credit losses 14 15 18 9 552 678 Noninterest income 2 2 21 66 172 205 Noninterest expense 6 5 52 48 464 428 Income (loss) before income taxes $ 10 $ 12 $ ( 13 ) $ 27 $ 260 $ 455 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,579 $ 1,606 $ 927 $ 865 $ 51,784 $ 52,770 Total average deposits 1,547 1,500 1,207 1,350 80,887 74,640 79 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the six months ended June 30, 2022 and 2021: Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 326 $ 315 $ 271 $ 263 $ 232 $ 231 Provision for credit losses — ( 19 ) 22 ( 69 ) ( 22 ) ( 98 ) Net interest income after provision for credit losses 326 334 249 332 254 329 Noninterest income 95 85 51 49 79 67 Noninterest expense 248 231 168 156 175 169 Income (loss) before income taxes $ 173 $ 188 $ 132 $ 225 $ 158 $ 227 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 12,969 $ 13,488 $ 12,870 $ 13,052 $ 11,865 $ 12,577 Total average deposits 25,574 22,289 16,566 15,393 16,333 14,800 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 106 $ 105 $ 77 $ 73 $ 68 $ 68 Provision for credit losses 2 ( 24 ) — ( 30 ) 6 ( 11 ) Net interest income after provision for credit losses 104 129 77 103 62 79 Noninterest income 23 22 25 25 16 16 Noninterest expense 82 75 74 72 59 57 Income (loss) before income taxes $ 45 $ 76 $ 28 $ 56 $ 19 $ 38 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 4,831 $ 5,029 $ 2,866 $ 3,183 $ 3,463 $ 3,463 Total average deposits 8,201 6,791 7,492 6,312 4,243 4,334 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 28 $ 27 $ 29 $ 18 $ 1,137 $ 1,100 Provision for credit losses 1 ( 3 ) ( 1 ) ( 1 ) 8 ( 255 ) Net interest income after provision for credit losses 27 30 30 19 1,129 1,355 Noninterest income 3 3 22 107 314 374 Noninterest expense 12 11 110 92 928 863 Income (loss) before income taxes $ 18 $ 22 $ ( 58 ) $ 34 $ 515 $ 866 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,585 $ 1,590 $ 911 $ 833 $ 51,360 $ 53,215 Total average deposits 1,564 1,449 1,271 1,684 81,244 73,052 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Interest rate and market risks are among the most significant risks regularly undertaken by us, and they are closely monitored as previously discussed. A discussion regarding our management of interest rate and market risk is included in the section entitled “Interest Rate and Market Risk Management” in this Form 10-Q. 80 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 4. CONTROLS AND PROCEDURES Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures at June 30, 2022. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at June 30, 2022. There were no changes in our internal control over financial reporting during the second quarter of 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The information contained in Note 10 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 1A. RISK FACTORS The following risk factors supplement the risk factors disclosed in our 2021 Form 10-K. We could be negatively affected by adverse economic conditions Adverse economic conditions pose significant risks to our business, including our loan and investment portfolios, capital levels, results of operations, and financial condition. Recent indicators of a slowing economy including two consecutive quarters of negative GDP growth, rising interest rates, increased volatility in the financial markets, and uncertainty related to inflationary pressures, including related changes in monetary policies and actions, can increase these risks and lead to lower demand for loans, higher credit losses, decreased values for our investment securities, and lower fee income, among other negative effects. The Russian invasion of Ukraine and the retaliatory measures imposed by the U.S., U.K., European Union and other countries and the responses of Russia to such measures have caused significant disruptions to domestic and foreign economies. The Russia and Ukraine conflict has created new risks for global markets, trade, economic conditions, cybersecurity, and similar concerns. For example, the conflict could affect the availability and price of commodities and products, adversely affecting supply chains and increasing inflationary pressures; the value of currencies, interest rates and other components of financial markets; and, if the conflict escalates, cyberattacks that could result in severe costs and disruptions to governmental entities and companies and their operations. The impact of the conflict and retaliatory measures is continually evolving and cannot be predicted with certainty. It is likely that the conflict will continue to affect the global political order and global and domestic markets for a substantial period of time, regardless of when the conflict itself ends. While these events have not materially interrupted our operations, these or future developments resulting from the Russia and Ukraine conflict, such as cyberattacks on the U.S., us, our customers, or our vendors, could make it difficult to conduct business activities for us, our customers, or our vendors. 81 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS The following schedule summarizes our share repurchases for the second quarter of 2022: SHARE REPURCHASES Period Total number of shares repurchased 1 Average price paid per share Total number of shares purchased as part of publicly announced plans or programs April 4,775 $ 58.01 — May 840,107 53.41 839,531 June 91,374 56.51 91,374 Second quarter 936,256 53.73 930,905 1 Includes common shares acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options under provisions of an employee share-based compensation plan . 82 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 6. EXHIBITS a. Exhibits Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 10.1 Zions Bancorporation 2020-2022 Value Sharing Plan (filed herewith). 10.2 Zions Bancorporation 2021-2023 Value Sharing Plan (filed herewith). 10.3 Zions Bancorporation 2021-2023 Value Sharing Plan with conditional incentives (filed herewith). 10.4 Zions Bancorporation 2022-2024 Value Sharing Plan (filed herewith). 10.5 Ninth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective October 1, 2019 (filed herewith). 10.6 Eleventh Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective November 1, 2020 (filed herewith). 10.7 Twelfth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective April 1, 2022 (filed herewith). 10.8 Form of Standard Restricted Stock Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan (filed herewith). 10.9 Form of Restricted Stock Award Agreement subject to holding requirement, Zions Bancorporation 2022 Omnibus Incentive Plan (filed herewith). 10.1 0 Form of Standard Restricted Stock Unit Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan (filed herewith). 10.11 Form of Restricted Stock Unit Award Agreement subject to holding requirement, Zions Bancorporation 2022 Omnibus Incentive Plan (filed herewith). 10.12 Form of Standard Stock Option Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan (filed herewith). 10.13 Form of Standard Directors Stock Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan (filed herewith). 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in Inline XBRL (i) the Consolidated Balance Sheets as of June 30, 2022 and December 31, 2021, (ii) the Consolidated Statements of Income for the three months ended June 30, 2022 and June 30, 2021 and the six months ended June 30, 2022 and June 30, 2021, (iii) the Consolidated Statements of Comprehensive Income for the three months ended June 30, 2022 and June 30, 2021 and the six months ended June 30, 2022 and June 30, 2021, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the three months ended June 30, 2022 and June 30, 2021 and the six months ended June 30, 2022 and June 30, 2021, (v) the Consolidated Statements of Cash Flows for the six months ended June 30, 2022 and June 30, 2021, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Quarterly Report on Form 10-Q, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. 83 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZIONS BANCORPORATION, NATIONAL ASSOCIATION /s/ Harris H. Simmons Harris H. Simmons, Chairman and Chief Executive Officer /s/ Paul E. Burdiss Paul E. Burdiss, Executive Vice President and Chief Financial Officer Date: August 4, 2022 84 |
Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) 36 Consolidated Balance Sheets 36 Consolidated Statements of Income 37 Consolidated Statements of Comprehensive Income (Loss) 38 Consolidated Statements of Changes in Shareholders’ Equity 38 Consolidated Statements of Cash Flows 40 Notes to Consolidated Financial Statements 41 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 4 Item 3. Quantitative and Qualitative Disclosures About Market Risk 79 Item 4. Controls and Procedures 80 PART II. OTHER INFORMATION Item 1. Legal Proceedings 80 Item 1A. Risk Factors 80 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 81 Item 6. Exhibits 81 Signatures 82 2 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses IPO Initial Public Offering AFS Available-for-Sale IRS Internal Revenue Service ALLL Allowance for Loan and Lease Losses LIBOR London Interbank Offered Rate Amegy Amegy Bank, a division of Zions Bancorporation, National Association Municipalities State and Local Governments AMERIBOR American Interbank Offered Rate NAICS North American Industry Classification System AOCI Accumulated Other Comprehensive Income NASDAQ National Association of Securities Dealers Automated Quotations ASC Accounting Standards Codification NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association ASU Accounting Standards Update NIM Net Interest Margin BOLI Bank-Owned Life Insurance NM Not Meaningful bps Basis Points NSB Nevada State Bank, a division of Zions Bancorporation, National Association BSBY Bloomberg Short-Term Bank Yield OCC Office of the Comptroller of the Currency CB&T California Bank & Trust, a division of Zions Bancorporation, National Association OCI Other Comprehensive Income CECL Current Expected Credit Loss OREO Other Real Estate Owned CLTV Combined Loan-to-Value Ratio PEI Private Equity Investment CMT Constant Maturity Treasury PPNR Pre-provision Net Revenue CRE Commercial Real Estate PPP Paycheck Protection Program CVA Credit Valuation Adjustment ROU Right-of-Use DTA Deferred Tax Asset RULC Reserve for Unfunded Lending Commitments EaR Earnings at Risk S&P Standard & Poor's EPS Earnings per Share SBA U.S. Small Business Administration EVE Economic Value of Equity SBIC Small Business Investment Company FASB Financial Accounting Standards Board SEC Securities and Exchange Commission FDIC Federal Deposit Insurance Corporation SOFR Secured Overnight Financing Rate FHLB Federal Home Loan Bank TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association FRB Federal Reserve Board TDR Troubled Debt Restructuring FTP Funds Transfer Pricing U.K. United Kingdom GAAP Generally Accepted Accounting Principles U.S. United States HECL Home Equity Credit Line Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association HTM Held-to-Maturity Zions Bank Zions Bank, a division of Zions Bancorporation, National Association 3 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES PART I. FINANCIAL INFORMATION ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING INFORMATION This quarterly report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. These forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although this list is not comprehensive, important factors that may cause material differences include changes in general industry and economic conditions, including inflation, economic slowdown or other economic disruption; securities and capital markets behavior, including volatility and changes in market liquidity; changes and uncertainties in legislation and fiscal, monetary, regulatory, trade, and tax policies; changes in interest and reference rates; the quality and composition of our loan and securities portfolios; our ability to recruit and retain talent, including increased competition for qualified candidates as a result of expanded remote-work opportunities and increased compensation expenses; competitive pressures and other factors that may affect aspects of our business, such as pricing and demand for our products and services; our ability to execute our strategic plans, manage our risks, and achieve our business objectives; our ability to develop and maintain information security systems and controls designed to guard against fraud, cyber, and privacy risks; the effects of the COVID-19 pandemic (including variants) and associated actions that may affect our business, employees, and communities; the effects of the ongoing conflict in Eastern Europe and other local, national, or international disasters, crises, or conflicts that may occur in the future; and governmental and social responses to environmental issues and climate change. These factors, risks, and uncertainties, among others, are discussed in our 2021 Form 10-K and subsequent filings with the Securities and Exchange Commission (“SEC”). We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any of the forward-looking statements included herein to reflect future events or developments. 4 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Comparisons noted below are calculated for the current quarter compared with the same prior-year period unless otherwise specified. Growth rates of 100% or more are considered not meaningful (“NM”) as they generally reflect a low starting point. RESULTS OF OPERATIONS Executive Summary Our financial results in the third quarter of 2022 reflected strong revenue growth, which was offset by increases in the provision for credit losses and noninterest expense. Diluted earnings per share (“EPS”) decreased to $1.40, compared with $1.45 in the third quarter of 2021. Notwithstanding a $57 million decrease in interest income from Paycheck Protection Program (“PPP”) loans, net interest income increased $108 million, or 19%, to $663 million, primarily due to a higher interest rate environment and a favorable change in the composition of interest-earning assets. The net interest margin (“NIM”) was 3.24%, compared with 2.68%. Nonperforming assets decreased $173 million, and classified loans decreased $432 million. Net loan and lease charge-offs were $27 million, or 0.21% of average loans (ex-PPP), compared with net recoveries of $1 million, or 0.01% of average loans (ex-PPP), in the prior year quarter. Despite improvements in most of our credit quality metrics, the provision for credit losses was $71 million, compared with a $(46) million provision in the prior year period, reflecting loan growth and changes in economic scenarios. Total customer-related noninterest income increased $5 million, or 3%, driven by increases in capital markets and foreign exchange fees, commercial account fees, card fees, and wealth management fees, partially offset by decreases in loan-related fees and retail and business banking fees. Total noninterest income increased $26 million, or 19%, primarily due to unrealized losses recorded during the prior year period related to our Small Business Investment Company (“SBIC”) investment in Recursion Pharmaceuticals, Inc. Total noninterest expense increased $50 million, or 12%. The increase was driven largely by a $27 million increase in salaries and benefits expense, which was impacted by inflationary and competitive labor market pressures on wages and benefits, increased headcount, and increased incentive compensation accruals arising from improvements in anticipated full-year profitability. Our efficiency ratio was 57.6%, compared with 59.8%, as growth in net revenue outpaced growth in noninterest expense. Average interest-earning assets decreased $0.7 billion, or 1%, from the prior year quarter, driven by declines in average money market investments and PPP loans, the effects of which were largely offset by growth in average available-for-sale (“AFS”) investment securities and average loans and leases (ex-PPP). Excluding PPP loans, total loans and leases increased $6.0 billion, or 13%. The increases were primarily in the commercial and industrial, owner-occupied, municipal, consumer 1-4 family residential mortgage, and home equity credit line (“HECL”) portfolios. Total deposits decreased $1.9 billion, or 2%, primarily due to a $1.7 billion, or 4%, decrease mainly related to more rate-sensitive larger-balance deposits. Total deposits at September 30, 2022 included approximately $400 million of deposit balances acquired from the purchase of three Northern Nevada branches during the third quarter of 2022. Our loan-to-deposit ratio was 71%, compared with 65% in the prior year quarter, which continues to afford us flexibility in managing our funding costs. 5 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Third Quarter 2022 Financial Performance Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency Ratio Net earnings applicable to common shareholders decreased from the third quarter of 2021, primarily due to a $117 million unfavorable change in the provision for credit losses. Diluted earnings per share declined from the third quarter of 2021 as a result of decreased net earnings, the effect of which was partially offset by a 10.7 million decrease in weighted average diluted shares, primarily due to share repurchases. Adjusted pre-provision net revenue (“PPNR”) increased $61 million from the third quarter of 2021, primarily due to growth in adjusted net revenue, driven largely by an increase in net interest income. This increase was partially offset by higher adjusted noninterest expense. The efficiency ratio improved from the prior year quarter, as growth in adjusted revenue outpaced growth in adjusted noninterest expense, resulting in positive operating leverage. Net Interest Income and Net Interest Margin NET INTEREST INCOME AND NET INTEREST MARGIN Three Months Ended September 30, Amount change Percent change (Dollar amounts in millions) 2022 2021 Interest and fees on loans 1 $ 551 $ 484 $ 67 14 % Interest on money market investments 24 7 17 NM Interest on securities 132 78 54 69 Total interest income 707 569 138 24 Interest on deposits 19 7 12 NM Interest on short- and long-term borrowings 25 7 18 NM Total interest expense 44 14 30 NM Net interest income $ 663 $ 555 $ 108 19 % Average interest-earning assets $ 82,474 $ 83,189 $ (715) (1) % Average interest-bearing liabilities $ 41,398 $ 40,925 $ 473 1 % bps Yield on interest-earning assets 2 3.45 % 2.75 % 70 Rate paid on total deposits and interest-bearing liabilities 2 0.22 % 0.07 % 15 Cost of total deposits 2 0.10 % 0.03 % 7 Net interest margin 2 3.24 % 2.68 % 56 1 Includes interest income recoveries of $2 million and $1 million for the three months ended September 30, 2022, and 2021, respectively. 2 Rates are calculated using amounts in thousands; taxable-equivalent rates are used where applicable. 6 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Net interest income accounted for approximately 80% of our net revenue (net interest income plus noninterest income) for the quarter. Notwithstanding a $57 million decrease in interest income from PPP loans, net interest income increased $108 million, or 19%, primarily due to a higher interest rate environment and a favorable change in the composition of interest-earning assets. Average interest-earning assets decreased $0.7 billion, or 1%, from the prior year quarter, driven by declines of $9.0 billion and $3.4 billion in average money market investments and average PPP loans, respectively. These decreases were largely offset by increases of $6.2 billion and $5.5 billion in average securities and average loans and leases (ex-PPP), respectively. The NIM was 3.24%, compared with 2.68%. The yield on average interest-earning assets was 3.45% in the third quarter of 2022, an increase of 70 basis points (“bps”), reflecting a change in the mix of interest-earning assets from money market investments to securities and loans. The yield also benefited from a decrease in the market value of AFS securities due to rising interest rates. The average rate paid on interest-bearing liabilities increased to 0.43%, compared with 0.13%, reflecting the higher interest rate environment and increased short-term borrowings. Total average loans and leases increased $2.1 billion, or 4%, to $53.0 billion, and were partially offset by decreases in PPP loans, primarily due to forgiveness of these loans by the Small Business Administration (“SBA”). The yield on total loans increased 35 basis points to 4.17%, reflecting the higher interest rate environment. Excluding PPP loans, average loans and leases increased $5.5 billion, or 12%, primarily in the commercial and industrial, owner-occupied, municipal, 1-4 family residential mortgage, and home equity credit line portfolios. The yield on non-PPP loans increased 57 basis points to 4.16%. During the third quarter of 2022 and 2021, PPP loans totaling $0.2 billion and $1.5 billion, respectively, were forgiven by the SBA. PPP loans contributed $6 million and $63 million in interest income during the same time periods. The yield on PPP loans was 6.28% and 6.66% for the respective periods, and was positively impacted by accelerated amortization of deferred fees on paid off or forgiven PPP loans. At September 30, 2022 and 2021, the remaining unamortized net deferred fees on PPP loans totaled $5 million and $83 million, respectively. Average total deposits increased $0.1 billion to $77.5 billion at an average cost of 0.10%, from $77.4 billion at an average cost of 0.03% in the third quarter of 2021. The rate paid on total deposits and interest-bearing liabilities was 0.22%, compared with 0.07%. Average noninterest-bearing deposits as a percentage of total deposits were 51%, up 7 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES slightly from the same prior year period. Our funding costs were well controlled, reflecting the granularity of our deposit base and the extent of our noninterest-bearing deposits. Average AFS securities balances increased $6.1 billion, or 32%, to $24.9 billion, primarily due to an increase in our agency guaranteed mortgage-backed securities portfolio. Average borrowed funds increased $1.8 billion, driven by increases in short-term borrowings as a result of loan growth and declines in interest-bearing deposits. These increases were partially offset by a decrease in long-term debt, primarily due to the redemption and maturity of senior notes during the past year. For further discussion of the effects of market rates on net interest income and how we manage interest rate risk, refer to the “Interest Rate and Market Risk Management” section on page 28. For more information on how we manage liquidity risk, refer to the “Liquidity Risk Management” section on page 32. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 8 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED AVERAGE BALANCE SHEETS, YIELDS AND RATES (Unaudited) Three Months Ended September 30, 2022 Three Months Ended September 30, 2021 (Dollar amounts in millions) Average balance Amount of interest Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 1,233 $ 7 2.19 % $ 10,977 $ 5 0.15 % Federal funds sold and security resell agreements 2,511 17 2.66 1,739 2 0.50 Total money market investments 3,744 24 2.51 12,716 7 0.20 Securiti Held-to-maturity 560 4 2.88 557 4 2.87 Available-for-sale 2 24,892 129 2.05 18,814 74 1.56 Trading account 288 3 4.57 199 2 4.41 Total securities 3 25,740 136 2.10 19,570 80 1.63 Loans held for sale 37 1 5.33 52 — 3.03 Loans and leases 4 Commercial – excluding PPP loans 28,972 302 4.13 24,854 235 3.76 Commercial – PPP loans 408 6 6.28 3,795 63 6.66 Commercial real estate 12,182 145 4.73 12,144 105 3.42 Consumer 11,391 103 3.61 10,058 86 3.38 Total loans and leases 52,953 556 4.17 50,851 489 3.82 Total interest-earning assets 82,474 717 3.45 83,189 576 2.75 Cash and due from banks 604 597 Allowance for credit losses on loans and debt securities (515) (536) Goodwill and intangibles 1,021 1,015 Other assets 4,923 4,291 Total assets $ 88,507 $ 88,556 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 36,399 $ 18 0.20 % $ 37,262 $ 5 0.05 % Time 1,441 1 0.32 1,829 2 0.32 Total interest-bearing deposits 37,840 19 0.20 39,091 7 0.07 Borrowed funds: Federal funds purchased and other short-term borrowings 2,885 17 2.33 630 — 0.08 Long-term debt 673 8 4.83 1,204 7 2.34 Total borrowed funds 3,558 25 2.80 1,834 7 1.56 Total interest-bearing liabilities 41,398 44 0.43 40,925 14 0.13 Noninterest-bearing demand deposits 39,623 38,320 Other liabilities 1,743 1,302 Total liabilities 82,764 80,547 Shareholders’ equity: Preferred equity 440 440 Common equity 5,303 7,569 Total shareholders’ equity 5,743 8,009 Total liabilities and shareholders’ equity $ 88,507 $ 88,556 Spread on average interest-bearing funds 3.02 % 2.62 % Net impact of noninterest-bearing sources of funds 0.22 % 0.06 % Net interest margin $ 673 3.24 % $ 562 2.68 % Me total loans and leases, excluding PPP loans $ 52,545 550 4.16 % $ 47,056 426 3.59 % Me total cost of deposits 0.10 % 0.03 % Me total deposits and interest-bearing liabilities 81,021 44 0.22 % 79,245 14 0.07 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. The taxable-equivalent rates used are the rates that were applicable at the time of each respective reporting period. 2 The fair value of AFS securities at September 30, 2022, and September 30, 2021, was $23.2 billion and $20.5 billion, respectively. In addition to other factors, the yield on AFS securities was positively impacted by the decline in fair value. 3 Interest on total securities includes $27 million and $29 million of taxable-equivalent premium amortization for the third quarter of 2022 and 2021, respectively. 4 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 9 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2022 Nine Months Ended September 30, 2021 (Dollar amounts in millions) Average balance Amount of interest 1 Average yield/rate Average balance Amount of interest 1 Average yield/rate ASSETS Money market investments: Interest-bearing deposits $ 3,674 $ 15 0.55 % $ 8,162 $ 8 0.13 % Federal funds sold and security resell agreements 2,451 27 1.47 2,109 6 0.37 Total money market investments 6,125 42 0.92 10,271 14 0.18 Securiti Held-to-maturity 495 11 2.98 599 13 2.92 Available-for-sale 2 25,285 358 1.89 17,255 209 1.62 Trading account 343 12 4.81 213 7 4.25 Total securities 3 26,123 381 1.95 18,067 229 1.70 Loans held for sale 44 1 2.55 61 1 2.77 Loans and leases 4 Commercial – excluding PPP loans 28,060 798 3.80 24,716 705 3.81 Commercial – PPP loans 885 45 6.83 5,283 191 4.84 Commercial real estate 12,151 358 3.93 12,104 313 3.46 Consumer 10,801 272 3.37 10,315 270 3.50 Total loans and leases 51,897 1,473 3.79 52,418 1,479 3.77 Total interest-earning assets 84,189 1,897 3.01 80,817 1,723 2.85 Cash and due from banks 615 597 Allowance for loan losses (503) (651) Goodwill and intangibles 1,017 1,015 Other assets 4,618 4,106 Total assets $ 89,936 $ 85,884 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 37,942 $ 29 0.10 % $ 36,168 $ 16 0.06 % Time 1,505 3 0.27 2,140 7 0.44 Total interest-bearing deposits 39,447 32 0.11 38,308 23 0.08 Borrowed funds: Federal funds purchased and other short-term borrowings 1,415 18 1.73 856 1 0.07 Long-term debt 724 20 3.69 1,277 22 2.32 Total borrowed funds 2,139 38 2.39 2,133 23 1.41 Total interest-bearing liabilities 41,586 70 0.23 40,441 46 0.15 Noninterest-bearing demand deposits 40,523 36,213 Other liabilities 1,530 1,267 Total liabilities 83,639 77,921 Shareholders’ equity: Preferred equity 440 516 Common equity 5,857 7,447 Total shareholders’ equity 6,297 7,963 Total liabilities and shareholders’ equity $ 89,936 $ 85,884 Spread on average interest-bearing funds 2.78 % 2.70 % Net impact of noninterest-bearing sources of funds 0.12 % 0.08 % Net interest margin $ 1,827 2.90 % $ 1,677 2.78 % Me total loans and leases, excluding PPP loans $ 51,012 1,428 3.74 % $ 47,135 1,288 3.65 % Me total cost of deposits 0.05 % 0.04 % Me total deposits and interest-bearing liabilities 82,109 70 0.12 % 76,654 46 0.15 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. The taxable-equivalent rates used are the rates that were applicable at the time of each respective reporting period. 2 The fair value of AFS securities at September 30, 2022, and September 30, 2021, was $23.2 billion and $20.5 billion, respectively. In addition to other factors, the yield on AFS securities was positively impacted by the decline in fair value. 3 Interest on total securities includes $82 million and $87 million of taxable-equivalent premium amortization for the first nine months of 2022 and 2021, respectively. 4 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 10 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans. The provision for credit losses, which is the combination of both the provision for loan and lease losses and the provision for unfunded lending commitments, was $71 million, compared with $(46) million in the third quarter of 2021. The ACL was $590 million at September 30, 2022, compared with $529 million at September 30, 2021. The increase in the ACL was primarily due to growth in the loan portfolio, as well as changes in economic scenarios, which were driven by the increased probability of a recession, the effects of which were partially offset by improvements in credit quality. The ratio of ACL to net loans and leases (ex-PPP) was 1.10% and 1.11% at September 30, 2022 and 2021, respectively. The provision for securities losses was less than $1 million during the third quarter of 2022 and 2021. 11 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The bar chart above illustrates the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic scenarios and current economic conditions, which increased the ACL by $11 million from the prior year quarter. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, decreased the ACL by $9 million, indicating improvements in overall credit quality. Nonperforming assets decreased $173 million, or 53%, and classified loans decreased $432 million, or 31%. Net loan and lease charge-offs were $27 million, or 0.21% annualized of average loans (ex-PPP), in the third quarter of 2022, compared with net recoveries of $1 million, or 0.01% annualized of average loans (ex-PPP), in the prior year quarter. The fourth bar represents loan portfolio changes, driven primarily by loan growth, as well as changes in portfolio mix, the aging of the portfolio, and other risk factors; all of which resulted in a $59 million increase in the ACL. See “Credit Risk Management” on page 21 and Note 6 in our 2021 Form 10-K for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue we earn from products and services that generally have no associated interest rate or yield and is classified as either customer-related or noncustomer-related. Customer-related noninterest income excludes items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income increased $26 million, or 19%. Noninterest income accounted for approximately 20% of our net revenue during both the third quarter of 2022 and 2021. The following schedule presents a comparison of the major components of noninterest income. 12 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NONINTEREST INCOME Three Months Ended September 30, Amount change Percent change Nine Months Ended September 30, Amount change Percent change (Dollar amounts in millions) 2022 2021 2022 2021 Commercial account fees $ 40 $ 34 $ 6 18 % $ 118 $ 100 $ 18 18 % Card fees 27 25 2 8 77 70 7 10 Retail and business banking fees 17 20 (3) (15) 57 55 2 4 Loan-related fees and income 18 27 (9) (33) 61 73 (12) (16) Capital markets and foreign exchange fees 25 17 8 47 61 49 12 24 Wealth management fees 14 13 1 8 41 37 4 11 Other customer-related fees 15 15 — — 46 39 7 18 Customer-related noninterest income 156 151 5 3 461 423 38 9 Fair value and nonhedge derivative income 4 2 2 NM 20 15 5 33 Dividends and other income (loss) (1) 9 (10) NM 8 24 (16) (67) Securities gains (losses), net 6 (23) 29 NM (10) 51 (61) NM Noncustomer-related noninterest income 9 (12) 21 NM 18 90 (72) (80) Total noninterest income $ 165 $ 139 $ 26 19 % $ 479 $ 513 $ (34) (7) % Customer-related Total customer-related noninterest income increased $5 million, or 3%, from the prior year quarter, driven by increases in capital markets and foreign exchange fees, commercial account fees, card fees, and wealth management fees. Capital markets and foreign exchange fees benefited from improved customer swap, foreign exchange, and syndication activity. These increases were partially offset by a decrease in loan-related fees, primarily due to an increased proportion of our 1-4 family residential mortgage production being retained versus sold, and a decrease in retail and business banking fees. The latter decrease was due largely to previously disclosed changes in our overdraft and non-sufficient funds practices, including the rate and frequency with which we assess related fees. These changes were effected early in the third quarter of 2022. Noncustomer-related Total noncustomer-related noninterest income increased $21 million, relative to the prior year quarter. Net securities gains increased $29 million, due largely to unrealized losses recorded during the prior year period related to our SBIC investment in Recursion Pharmaceuticals, Inc. Dividends and other income (loss) decreased $10 million from the prior year period, primarily due to a $6 million valuation loss recognized on one of our equity investments in the current period. 13 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Noninterest Expense The following schedule presents a comparison of the major components of noninterest expense. NONINTEREST EXPENSE Three Months Ended September 30, Amount change Percent change Nine Months Ended September 30, Amount change Percent change (Dollar amounts in millions) 2022 2021 2022 2021 Salaries and employee benefits $ 312 $ 285 $ 27 9 % $ 931 $ 845 $ 86 10 % Technology, telecom, and information processing 53 50 3 6 158 148 10 7 Occupancy and equipment, net 38 37 1 3 112 115 (3) (3) Professional and legal services 14 17 (3) (18) 42 56 (14) (25) Marketing and business development 11 9 2 22 28 22 6 27 Deposit insurance and regulatory expense 13 8 5 63 36 25 11 44 Credit-related expense 8 7 1 14 22 19 3 16 Other real estate expense, net — — — NM 1 — 1 NM Other 30 16 14 88 77 62 15 24 Total noninterest expense $ 479 $ 429 $ 50 12 % $ 1,407 $ 1,292 $ 115 9 % Adjusted noninterest expense 1 $ 477 $ 432 $ 45 10 % $ 1,404 $ 1,291 $ 113 9 % 1 For information on non-GAAP financial measures, see “Non-GAAP Financial Measures” on page 33. Total noninterest expense increased $50 million, or 12%, relative to the prior year quarter. Salaries and benefits expense increased $27 million, or 9%, due to the impact of inflationary and competitive labor market pressures on wages and benefits, increased headcount, and increased incentive compensation accruals arising from improvements in anticipated full-year profitability. Other noninterest expense increased $14 million, primarily due to the reversal of a success fee accrual in the prior year period related to our SBIC investment in Recursion Pharmaceuticals, Inc., as well as increased travel and certain other expenses incurred during the current period. Deposit insurance and regulatory expense increased $5 million, driven largely by a higher Federal Deposit Insurance Corporation (“FDIC”) insurance assessment resulting from changes in the balance sheet composition. Professional and legal services expense decreased $3 million, or 18%, due to third-party assistance associated with PPP loan forgiveness and other technology-related and outsourced services utilized in the prior year period. The efficiency ratio was 57.6%, compared with 59.8%, as growth in net revenue outpaced growth in noninterest expense. For information on non-GAAP financial measures, including differences between noninterest expense and adjusted noninterest expense, see page 33. Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods present INCOME TAXES Three Months Ended September 30, Nine Months Ended September 30, (Dollar amounts in millions) 2022 2021 2022 2021 Income before income taxes $ 278 $ 311 $ 793 $ 1,177 Income tax expense 61 71 170 261 Effective tax rate 21.9 % 22.8 % 21.4 % 22.2 % See Note 12 of the Notes to Consolidated Financial Statements for more information about the factors that influenced the income tax rates as well as information about deferred income tax assets and liabilities. 14 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Preferred Stock Dividends Preferred stock dividends totaled $6 million for both the third quarter of 2022 and 2021. Technology Spend As the banking industry continues to move toward information technology-based products and services, we recognize there are disparate ways of discussing expenditures associated with technology-related investments and operations. We generally describe these expenditures as total technology spend, which includes current period expenses reported on our consolidated statement of income, and capitalized investments, net of related amortization and depreciation, reported on our consolidated balance sheet. We believe these disclosures provide more relevant presentation and discussion regarding our technology-related investments and operations. Total technology spend represents expenditures for technology systems and infrastructure and is reported as a combination of the followin • Technology, telecom, and information processing expense — includes expenses related to application software licensing and maintenance, related amortization, telecommunications, and data processing; • Other technology-related expenses — includes related noncapitalized salaries and employee benefits, occupancy and equipment, and professional and legal services; and • Technology investments — includes capitalized technology infrastructure equipment, hardware, and purchased or internally developed software, less related amortization or depreciation. The following schedule provides information related to our technology spen TECHNOLOGY SPEND Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2022 2021 2022 2021 Technology, telecom, and information processing expense $ 53 $ 50 $ 158 $ 148 Other technology-related expense 52 48 152 140 Technology investments 21 28 65 80 L related amortization and depreciation (14) (13) (41) (40) Total technology spend $ 112 $ 113 $ 334 $ 328 Total technology spend remained relatively flat compared with the prior year period, as increases in related expenses were offset by reduced technology investments. BALANCE SHEET ANALYSIS Interest-Earning Assets Interest-earning assets are assets that have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see the Consolidated Average Balance Sheet on page 11. Investment Securities Portfolio We invest in securities to generate interest income and to actively manage liquidity, interest rate, and credit risk. Refer to the “Liquidity Risk Management” section on page 32 for additional information about how we manage our liquidity risk. See Note 3 and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. 15 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the components of our investment securities portfolio. INVESTMENT SECURITIES PORTFOLIO September 30, 2022 December 31, 2021 (In millions) Par value Amortized cost Estimated fair value Par value Amortized cost Estimated fair value Held-to-maturity Municipal securities $ 423 $ 423 $ 379 $ 441 $ 441 $ 443 Available-for-sale U.S. Treasury securities 555 557 394 155 155 134 U.S. Government agencies and corporatio Agency securities 859 851 807 833 833 845 Agency guaranteed mortgage-backed securities 23,002 23,162 19,566 20,340 20,549 20,387 Small Business Administration loan-backed securities 740 793 766 867 938 912 Municipal securities 1,611 1,780 1,626 1,489 1,652 1,694 Other debt securities 75 75 74 75 75 76 Total available-for-sale 26,842 27,218 23,233 23,759 24,202 24,048 Total HTM and AFS investment securities $ 27,265 $ 27,641 $ 23,612 $ 24,200 $ 24,643 $ 24,491 The amortized cost of total held-to-maturity (“HTM”) and AFS investment securities increased $3.0 billion, or 12%, from December 31, 2021. Approximately 8% and 11% of the total HTM and AFS investment securities portfolio were floating rate at September 30, 2022 and December 31, 2021, respectively. At September 30, 2022, the investment securities portfolio includes $376 million of net premium that is distributed across the various asset classes. Total taxable-equivalent premium amortization for our investment securities was $27 million for the third quarter of 2022, compared with $29 million for the same prior year period. In addition to HTM and AFS securities, we also have a Trading securities portfolio of $526 million and $372 million, at September 30, 2022 and December 31, 2021, respectively, which is comprised primarily of municipal securities and money market sweep transactions for customers. Refer to the “Capital Management” section on page 33 and Note 5 of the Notes to Consolidated Financial Statements for more discussion regarding our investment securities portfolio and related unrealized gains and losses. In October 2022, we transferred approximately $9.0 billion amortized cost ($7.2 billion fair value) of pass-through mortgage-backed AFS securities to the HTM category to reflect our new intent for these securities. Municipalities We provide products and services to state and local governments (referred to collectively as “municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. The following schedule summarizes our exposure to state and local municipaliti EXPOSURE TO MUNICIPALITIES (In millions) September 30, 2022 December 31, 2021 Loans and leases $ 4,224 $ 3,658 Held-to-maturity securities 423 441 Available-for-sale securities 1,626 1,694 Trading account securities 302 355 Unfunded lending commitments 337 280 Total direct exposure to municipalities $ 6,912 $ 6,428 The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. Our municipal loans and securities primarily relate to municipalities located within our geographic footprint. 16 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At September 30, 2022, no municipal loans were on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At September 30, 2022, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. Loan and Lease Portfolio At September 30, 2022 and December 31, 2021, the ratio of loans and leases to total assets was 61% and 55%, respectively. The largest loan category was commercial and industrial loans, which constituted 29% and 27% of our total loan portfolio for the same periods. The following schedule presents our loans and leases according to major portfolio segment, specific loan class, and percentage of total loa LOAN AND LEASE PORTFOLIO September 30, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 15,656 29.0 % $ 13,867 27.3 % PPP 306 0.6 1,855 3.6 Leasing 347 0.7 327 0.6 Owner-occupied 9,279 17.2 8,733 17.2 Municipal 4,224 7.8 3,658 7.2 Total commercial 29,812 55.3 28,440 55.9 Commercial real estate: Construction and land development 2,800 5.2 2,757 5.4 Term 9,556 17.7 9,441 18.6 Total commercial real estate 12,356 22.9 12,198 24.0 Consume Home equity credit line 3,331 6.2 3,016 5.9 1-4 family residential 6,852 12.7 6,050 11.9 Construction and other consumer real estate 973 1.8 638 1.3 Bankcard and other revolving plans 471 0.9 396 0.8 Other 123 0.2 113 0.2 Total consumer 11,750 21.8 10,213 20.1 Total net loans and leases $ 53,918 100.0 % $ 50,851 100.0 % The loan and lease portfolio increased $3.1 billion from December 31, 2021. Excluding PPP loans, commercial loans increased $2.9 billion, or 11%, driven largely by increases in commercial and industrial loans, municipal loans, and owner-occupied loans of $1.8 billion, $566 million, and $546 million, respectively. Consumer loans increased $1.5 billion, primarily due to increases in 1-4 family residential loans, construction and other consumer real estate loans, and home equity credit lines of $802 million, $335 million, and $315 million, respectively. 17 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Other Noninterest-Bearing Investments Other noninterest-bearing investments are equity investments that are held primarily for capital appreciation, dividends, or for certain regulatory requirements. The following schedule summarizes our related investments: OTHER NONINTEREST-BEARING INVESTMENTS (Dollar amounts in millions) September 30, 2022 December 31, 2021 Amount change Percent change Bank-owned life insurance $ 543 $ 537 $ 6 1 % Federal Home Loan Bank stock 151 11 140 NM Federal Reserve stock 69 81 (12) (15) Farmer Mac stock 19 19 — — SBIC investments 169 179 (10) (6) Other 32 24 8 33 Total other noninterest-bearing investments $ 983 $ 851 $ 132 16 % Total other noninterest-bearing investments increased $132 million, or 16%, during the first nine months of 2022, primarily due to a $140 million increase in Federal Home Loan Bank (“FHLB”) stock. This increase was driven largely by increases in FHLB short-term borrowings during the third quarter of 2022 as a result of loan growth and declines in interest-bearing deposits. Premises, Equipment, and Software Net premises, equipment, and software increased $69 million, or 5%, from December 31, 2021, primarily due to capitalized costs related to the construction of a new corporate technology center in Midvale, Utah, which was completed in July 2022, and a new corporate center for Vectra Bank Colorado (“Vectra”) in Denver, Colorado, which is expected to be completed in the fourth quarter of 2022. We are also in the final phase of a three-phase project to replace our core loan and deposit banking systems, and are on track to convert our deposit servicing system in 2023. Capitalized costs associated with the core system replacement project generally carry a useful life of ten years, and are summarized in the following schedule. CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT September 30, 2022 (In millions) Phase 1 Phase 2 Phase 3 Total Total amount of capitalized costs, less accumulated depreciation $ 32 $ 57 $ 190 $ 279 Deposits Deposits are a primary funding source. The following schedule presents our deposits by category and percentage of total deposits: DEPOSITS September 30, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Noninterest-bearing demand $ 39,133 51.5 % $ 41,053 49.6 % Interest-bearin Savings and money market 35,389 46.6 40,114 48.4 Time 1,473 1.9 1,622 2.0 Total deposits $ 75,995 100.0 % $ 82,789 100.0 % Total deposits decreased $6.8 billion, or 8%, from December 31, 2021, primarily due to a $4.9 billion decrease in interest-bearing deposits, and a $1.9 billion decrease in noninterest-bearing deposits. Total deposits included $166 18 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES million and $381 million of brokered deposits at September 30, 2022 and December 31, 2021, respectively. Additionally, total deposits at September 30, 2022 included approximately $400 million of deposit balances acquired from the purchase of three Northern Nevada branches during the third quarter of 2022. See “Liquidity Risk Management” on page 32 for additional information on funding and borrowed funds. Total time deposits that exceed the current FDIC insurance limit of $250,000 were $420 million and $563 million at September 30, 2022 and December 31, 2021, respectively. The estimated total amount of uninsured deposits, including related interest accrued and unpaid, was $44 billion and $49 billion at September 30, 2022 and December 31, 2021, respectively. RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We employ various strategies to reduce the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cyber risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by the various management committees of which the Enterprise Risk Management Committee is the focal point. For a more comprehensive discussion of these risks, see “Risk Factors” in our 2021 Form 10-K. Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. For a more comprehensive discussion of our credit risk management, see “Credit Risk Management” in our 2021 Form 10-K. U.S. Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by United States (“U.S.”) government agencies, such as the SBA, Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At September 30, 2022, $740 million of related loans were guaranteed, primarily by the SBA, and included $306 million of PPP loans. The following schedule presents the composition of U.S. government agency guaranteed loans. U.S. GOVERNMENT AGENCY GUARANTEED LOANS (Dollar amounts in millions) September 30, 2022 Percent guaranteed December 31, 2021 Percent guaranteed Commercial $ 844 86 % $ 2,410 95 % Commercial real estate 18 72 22 73 Consumer 4 100 5 100 Total loans $ 866 85 % $ 2,437 94 % 19 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. COMMERCIAL LENDING BY INDUSTRY GROUP 1 September 30, 2022 December 31, 2021 (Dollar amounts in millions) Amount Percent Amount Percent Finance and insurance $ 2,853 9.6 % $ 2,303 8.1 % Real estate, rental and leasing 2,703 9.1 2,536 8.9 Retail trade 2,663 8.9 2,412 8.5 Manufacturing 2,414 8.1 2,374 8.3 Healthcare and social assistance 2,374 8.0 2,349 8.2 Public Administration 2,254 7.5 1,959 6.9 Wholesale trade 1,908 6.4 1,701 6.0 Transportation and warehousing 1,387 4.6 1,273 4.5 Construction 1,339 4.5 1,456 5.1 Utilities 2 1,331 4.5 1,446 5.1 Educational services 1,310 4.4 1,163 4.1 Hospitality and food services 1,243 4.2 1,353 4.8 Mining, quarrying, and oil and gas extraction 1,237 4.1 1,185 4.2 Other Services (except Public Administration) 1,075 3.6 1,213 4.2 Professional, scientific, and technical services 972 3.3 1,084 3.8 Other 3 2,749 9.2 2,633 9.3 Total $ 29,812 100.0 % $ 28,440 100.0 % 1 Industry groups are determined by North American Industry Classification System (“NAICS”) codes. 2 Includes primarily utilities, power, and renewable energy. 3 No other industry group exceeds 2.9%. Commercial Real Estate Loans The following schedules present credit quality information for our commercial real estate (“CRE”) loan portfolio segmented by real estate category and collateral location. 20 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES COMMERCIAL REAL ESTATE PORTFOLIO BY LOAN TYPE AND COLLATERAL LOCATION (Dollar amounts in millions) September 30, 2022 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total % of total CRE Commercial term Balance outstanding $ 1,092 $ 3,147 $ 490 $ 685 $ 1,561 $ 1,600 $ 627 $ 354 $ 9,556 77.3 % % of loan type 11.4 % 32.9 % 5.1 % 7.2 % 16.3 % 16.8 % 6.6 % 3.7 % 100.0 % Delinquency rates 2 : 30-89 days — % 0.1 % 0.4 % — % 0.1 % — % — % — % 0.1 % ≥ 90 days — % — % — % — % 1.0 % — % — % — % 0.2 % Nonaccrual loans $ — $ 3 $ — $ — $ 15 $ — $ — $ 1 $ 19 Commercial construction and land development Balance outstanding $ 226 $ 460 $ 62 $ 79 $ 373 $ 584 $ 252 $ 55 $ 2,091 16.9 % % of loan type 10.8 % 22.0 % 3.0 % 3.8 % 17.9 % 27.9 % 12.0 % 2.6 % 100.0 % Delinquency rates 2 : 30-89 days — % — % — % — % — % — % — % — % — % ≥ 90 days — % — % — % — % — % — % — % — % — % Residential construction and land development 3 Balance outstanding $ 64 $ 136 $ 46 $ 1 $ 206 $ 204 $ 9 $ 43 $ 709 5.8 % % of loan type 9.0 % 19.1 % 6.5 % 0.2 % 29.0 % 28.8 % 1.3 % 6.1 % 100.0 % Total construction and land development $ 290 $ 596 $ 108 $ 80 $ 579 $ 788 $ 261 $ 98 $ 2,800 Total CRE $ 1,382 $ 3,743 $ 598 $ 765 $ 2,140 $ 2,388 $ 888 $ 452 $ 12,356 100.0 % (Dollar amounts in millions) December 31, 2021 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total % of total CRE Commercial term Balance outstanding $ 1,038 $ 3,331 $ 508 $ 653 $ 1,606 $ 1,408 $ 444 $ 453 $ 9,441 77.4 % % of loan type 11.0 % 35.3 % 5.4 % 6.9 % 17.0 % 14.9 % 4.7 % 4.8 % 100.0 % Delinquency rates 2 : 30-89 days — % 0.2 % 0.2 % — % — % 0.1 % — % — % 0.1 % ≥ 90 days — % 0.1 % — % — % 0.2 % — % — % — % 0.1 % Nonaccrual loans $ — $ 3 $ — $ — $ 17 $ — $ — $ — $ 20 Commercial construction and land development Balance outstanding $ 242 $ 405 $ 94 $ 107 $ 475 $ 543 $ 181 $ 40 $ 2,087 17.1 % % of loan type 11.6 % 19.4 % 4.5 % 5.1 % 22.8 % 26.0 % 8.7 % 1.9 % 100.0 % Delinquency rates 2 : 30-89 days — % — % — % — % — % — % 13.2 % — % 0.9 % ≥ 90 days — % — % — % — % — % — % — % — % — % Residential construction and land development 3 Balance outstanding $ 82 $ 167 $ 44 $ 2 $ 162 $ 167 $ 9 $ 37 $ 670 5.5 % % of loan type 12.3 % 25.0 % 6.6 % 0.2 % 24.2 % 24.9 % 1.3 % 5.5 % 100.0 % Total construction and land development $ 324 $ 572 $ 138 $ 109 $ 637 $ 710 $ 190 $ 77 $ 2,757 Total CRE $ 1,362 $ 3,903 $ 646 $ 762 $ 2,243 $ 2,118 $ 634 $ 530 $ 12,198 100.0 % 1 No other geography exceeds $66 million and $65 million for all three loan types at September 30, 2022 and December 31, 2021, respectively. 2 Delinquency rates include nonaccrual loans. 3 At September 30, 2022 and December 31, 2021, there was no meaningful delinquency or nonaccrual activity for residential construction and land development loans. 21 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At September 30, 2022 and December 31, 2021, our CRE construction and land development and term loan portfolios represented approximately 23% and 24% of the total loan portfolio, respectively. The majority of our CRE loans are secured by real estate, which is primarily located within our geographic footprint. At September 30, 2022, approximately 21% of the CRE loan portfolio matures in the next 12 months. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with one- to five-year extension options or roll-to-perm options that often result in term debt. Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and non-recourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. At September 30, 2022 and December 31, 2021, approximately $257 million, or 9%, and $160 million, or 6%, of the commercial construction and land development portfolio consisted of land acquisition and development loans, respectively. Most of these loans are secured by specific retail, apartment, office, or other projects. For a more comprehensive discussion of CRE loans, see the “Commercial Real Estate Loans” section in our 2021 Form 10-K. Consumer Loans We originate first-lien residential home mortgages considered to be of prime quality. We generally hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. We also originate home equity credit lines. At September 30, 2022 and December 31, 2021, our HECL portfolio totaled $3.3 billion and $3.0 billion, respectively. The following schedule presents the composition of our HECL portfolio by lien status. HECL PORTFOLIO BY LIEN STATUS (In millions) September 30, 2022 December 31, 2021 Secured by first liens $ 1,517 $ 1,503 Secured by second (or junior) liens 1,814 1,513 Total $ 3,331 $ 3,016 At September 30, 2022, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with high credit scores. Approximately 91% of our HECL portfolio is still in the draw period, and about 19% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is minimal. The ratio of HECL net charge-offs (recoveries) for the trailing twelve months to average balances at September 30, 2022 and December 31, 2021 was (0.03)% and (0.01)%, respectively. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of the HECL portfolio. Nonperforming Assets Nonperforming assets as a percentage of loans and leases and other real estate owned (“OREO”) decreased to 0.28% at September 30, 2022, compared with 0.53% at December 31, 2021. Total nonaccrual loans at September 30, 2022 decreased to $151 million from $271 million at December 31, 2021, reflecting credit quality improvements across most of our loan portfolios. 22 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The balance of nonaccrual loans can decrease due to paydowns, charge-offs, and the return of loans to accrual status under certain conditions. If a nonaccrual loan is refinanced or restructured, the new note is immediately placed on nonaccrual. If a restructured loan performs under the new terms for a period of at least six months, the loan can be considered for return to accrual status. See “Restructured Loans” and Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. The following schedule presents our nonperforming assets: NONPERFORMING ASSETS (Dollar amounts in millions) September 30, 2022 December 31, 2021 Nonaccrual loans 1 $ 151 $ 271 Other real estate owned 2 — 1 Total nonperforming assets $ 151 $ 272 Ratio of nonperforming assets to net loans and leases 1 and other real estate owned 2 0.28 % 0.53 % Accruing loans past due 90 days or more $ 20 $ 8 Ratio of accruing loans past due 90 days or more to loans and leases 1 0.04 % 0.02 % Nonaccrual loans 1 and accruing loans past due 90 days or more $ 171 $ 279 Ratio of nonperforming assets 1 and accruing loans past due 90 days or more to loans and leases 1 and other real estate owned 2 0.32 % 0.55 % Accruing loans past due 30-89 days 3 $ 84 $ 70 Nonaccrual loans 1 current as to principal and interest payments 57.6 % 67.2 % 1 Includes loans held for sale. 2 Does not include banking premises held for sale. 3 Includes $31 million and $35 million of PPP loans at September 30, 2022 and December 31, 2021, respectively, which we expect will be paid in full by either the borrower or the SBA. Troubled Debt Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are classified as troubled debt restructurings (“TDRs”). At September 30, 2022 and December 31, 2021, TDRs totaled $245 million and $326 million, respectively. Modifications that qualified for applicable accounting and regulatory exemption for borrowers experiencing financial difficulties exclusively related to the COVID-19 pandemic were not classified and reported as TDRs. If the restructured loan performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the restructuring is taken into account to determine whether a loan should be returned to accrual status. ACCRUING AND NONACCRUING TROUBLED DEBT RESTRUCTURED LOANS (In millions) September 30, 2022 December 31, 2021 Restructured loans – accruing $ 206 $ 221 Restructured loans – nonaccruing 39 105 Total $ 245 $ 326 23 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES In the periods following the calendar year in which a loan was restructured, a loan may no longer be reported as a TDR if it is accruing, is in compliance with its modified terms, and yields a market rate (as determined and documented at the time of the modification or restructure). See Note 6 of the Notes to Consolidated Financial Statements for additional information regarding TDRs. TROUBLED DEBT RESTRUCTURED LOANS ROLLFORWARD Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2022 2021 2022 2021 Balance at beginning of period $ 275 $ 458 $ 326 $ 311 New identified TDRs and principal increases 15 17 42 200 Payments and payoffs (41) (33) (103) (64) Charge-offs (3) — (5) (3) No longer reported as TDRs — (86) (3) (86) Sales and other (1) (4) (12) (6) Balance at end of period $ 245 $ 352 $ 245 $ 352 Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. 24 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule shows the changes in the ACL and a summary of credit loss experien SUMMARY OF CREDIT LOSS EXPERIENCE (Dollar amounts in millions) Nine Months Ended September 30, 2022 Twelve Months Ended December 31, 2021 Nine Months Ended September 30, 2021 Loans and leases outstanding $ 53,918 $ 50,851 $ 50,678 Average loans and leases outstandin Commercial – excluding PPP loans 28,060 25,014 24,716 Commercial – PPP loans 885 4,566 5,283 Commercial real estate 12,151 12,136 12,104 Consumer 10,801 10,267 10,315 Total average loans and leases outstanding $ 51,897 $ 51,983 $ 52,418 Allowance for loan and lease loss Balance at beginning of period $ 513 $ 777 $ 777 Provision for loan losses 70 (258) (281) Charge-offs: Commercial 65 35 27 Commercial real estate — — — Consumer 8 13 10 Total 73 48 37 Recoveri Commercial 21 29 24 Commercial real estate — 3 — Consumer 10 10 8 Total 31 42 32 Net loan and lease charge-offs 42 6 5 Balance at end of period $ 541 $ 513 $ 491 Reserve for unfunded lending commitments: Balance at beginning of period $ 40 $ 58 $ 58 Provision for unfunded lending commitments 9 (18) (20) Balance at end of period $ 49 $ 40 $ 38 Total allowance for credit loss Allowance for loan and lease losses $ 541 $ 513 $ 491 Reserve for unfunded lending commitments 49 40 38 Total allowance for credit losses $ 590 $ 553 $ 529 Ratio of allowance for credit losses to net loans and leases, at period end 1 1.09 % 1.09 % 1.04 % Ratio of allowance for credit losses to nonaccrual loans, at period end 391 % 204 % 164 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, at period end 345 % 198 % 162 % Ratio of total net charge-offs to average loans and leases 2, 3 0.11 % 0.01 % 0.01 % Ratio of commercial net charge-offs to average commercial loans 3 0.20 % 0.02 % 0.01 % Ratio of commercial real estate net charge-offs to average commercial real estate loans 3 — % (0.02) % — % Ratio of consumer net charge-offs to average consumer loans 3 (0.02) % 0.03 % 0.03 % 1 The ratio of allowance for credit losses to net loans and leases (excluding PPP loans) was 1.10% at September 30, 2022, 1.13% at December 31, 2021, and 1.11% at September 30, 2021. 2 The annualized ratio of net charge-offs to average loans and leases (excluding PPP loans) was 0.11% at September 30, 2022, 0.01% at December 31, 2021, and 0.01% at September 30, 2021. 3 Ratios are annualized for the periods presented except for the period representing the full twelve months. 25 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The total ACL increased to $590 million, from $553 million, during the first nine months of 2022, primarily due to growth in the loan portfolio, as well as changes in economic scenarios, which were driven by the increased probability of a recession, the effects of which were partially offset by improvements in credit quality. The RULC represents a reserve for potential losses associated with off-balance sheet commitments and increased $9 million during the first nine months of 2022. The reserve is separately recorded on the consolidated balance sheet in “Other liabilities,” and any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. Because we engage in transactions involving various financial products, we are exposed to both interest rate risk and market risk. For a more comprehensive discussion of our interest rate and market risk management, see the “Interest Rate and Market Risk Management” section in our 2021 Form 10-K. Interest Rate Risk Average total deposits remained relatively flat at $77.5 billion, compared with the prior year period. During 2021, deposits increased and were primarily invested in fixed-rate, medium-duration AFS securities. The investment in these securities relative to short-duration money market funds resulted in higher earning-asset yields, increased net interest income, and decreased asset sensitivity to rising rates. Asset sensitivity measures depend upon the assumptions we use for deposit runoff and repricing behavior. As interest rates rise, we expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. Our models are particularly sensitive to the assumption about the rate of such migration. We also assume a correlation, referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-bearing checking accounts are assumed to have a lower correlation. We anticipate that changes in deposit rates will lag changes in reference rates. Our modeled cost of total deposits for September 2023 is approximately 0.63% without the effect of additional Federal Reserve rate hikes. Additional rate hikes would be expected to result in further increases to the cost of total deposits. Actual results may differ materially due to various factors, including the shape of the yield curve, competitive pricing, money supply, our credit worthiness, etc. We use our historical experience as well as industry data to inform our assumptions. The migration and correlation assumptions previously discussed result in deposit durations presented in the following schedu DEPOSIT ASSUMPTIONS September 30, 2022 Product Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 3.2 % 3.0 % Money market 1.8 % 1.6 % Savings and interest-bearing checking 2.6 % 2.4 % 26 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES As the more rate sensitive deposits have runoff, the effective duration of deposits has lengthened due to remaining deposits assumed to be stickier and less rate sensitive. Additionally, we utilize derivatives to manage interest rate risk. The following schedule presents derivatives that are designated in qualifying hedging relationships at September 30, 2022. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each category of cash flow and fair value hedge. See Note 7 of the Notes to Consolidated Financial Statements for additional information regarding the impact of these hedging relationships on interest income and expense. DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2022 2023 2024 4Q24 - 3Q25 3Q25 - 2Q26 (Dollar amounts in millions) Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Cash flow hedges Cash flow asset hedges 1 Average outstanding notional $ 7,336 $ 7,300 $ 6,833 $ 6,533 $ 6,233 $ 5,800 $ 5,466 $ 5,033 $ 3,737 $ 2,221 Weighted-average fixed-rate received 1.77 % 1.84 % 1.83 % 1.79 % 1.71 % 1.61 % 1.57 % 1.50 % 1.57 % 1.68 % 2022 4 2023 2024 2025 2026 2027 2028 2029 2030 2031 Fair value hedges Fair value debt hedges 2 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — Weighted-average fixed-rate received 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % — % — % Fair value asset hedges 3 Average outstanding notional $ 828 $ 827 $ 1,099 $ 1,212 $ 1,217 $ 1,213 $ 1,208 $ 1,203 $ 1,198 $ 1,192 Weighted-average fixed-rate paid 1.65 % 1.65 % 1.71 % 1.74 % 1.74 % 1.74 % 1.73 % 1.73 % 1.73 % 1.73 % 1 Cash flow hedges consist of receive-fixed swaps hedging pools of floating rates loans. 2 Fair value debt hedges consist of receive-fixed swaps hedging fixed-rate debt. The $500 million fair value debt hedge matures at the end of July 2029. Amounts for 2029 have not been prorated to reflect this hedge maturing during the year. 3 Fair value assets hedges consist of pay-fixed swaps hedging AFS fixed-rate securities. Increases in average outstanding notional are due to forward-starting interest rate swaps. 4 Represents the fourth quarter of 2022. Incorporating the deposit assumptions and the impact of derivatives in qualifying hedging relationships previously discussed, the following schedule presents earnings at risk (“EaR”), or the percentage change in 12-month forward looking net interest income, and our estimated percentage change in economic value of equity (“EVE”). Both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY September 30, 2022 December 31, 2021 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Earnings at Risk (EaR) (4.2) % — % 4.1 % 8.2 % 12.2 % (5.2) % — % 11.2 % 22.7 % 33.6 % Economic Value of Equity (EVE) 4.0 % — % (2.0) % (4.1) % (6.1) % 20.9 % — % 0.8 % (0.5) % (1.2) % 1 Assumes rates cannot go below zero in the negative rate shift. 27 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The asset sensitivity, as measured by EaR, decreased during the third quarter of 2022, primarily due to (1) deposit runoff, (2) an increase in receive-fixed-rate swap notional, and (3) a higher level of “base-case” net interest income, which reduced the percentage change for the same modeled dollar change in net interest income. For interest-bearing deposits with indeterminate maturity, the weighted average modeled beta is 26%. If the weighted average deposit beta were to increase to 36%, the EaR in the +100 bps rate shock would change from 4.1% to 3.0%. The EaR analysis focuses on parallel rate shocks across the term structure of benchmark interest rates. In a non-parallel rate scenario where the overnight rate increases 200 bps, but the ten-year rate increases only 30 bps, the increase in EaR is modeled to be approximately two-thirds of the change associated with the parallel +200 bps rate change. We recognize that EaR has inherent limitations in describing expected changes in net interest income in rapidly changing interest rate environments due to a lag in asset and liability repricing behavior. As such, we expect net interest income to change due to “latent” and “emergent” interest rate sensitivity. Unlike EaR, which measures net interest income over 12 months, latent and emergent interest rate sensitivity explains changes in current quarter net interest income (ex-PPP), compared with expected net interest income in the same quarter one year forward. Latent interest rate sensitivity refers to future changes in net interest income based upon past rate movements that have yet to be fully recognized in revenue, but will be recognized over the near term. We expect latent sensitivity to add approximately 10% to net interest income in the third quarter of 2023, compared with the third quarter of 2022 (ex-PPP). Emergent interest rate sensitivity refers to future changes in net interest income based upon future interest rate movements and is measured from the latent level of net interest income. If interest rates rise consistent with the forward curve at September 30, 2022, we expect emergent sensitivity to add approximately 4% to the latent sensitivity level of net interest income. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At September 30, 2022, $24.3 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. Of these variable-rate loans, approximately 97% are tied to either the prime rate, London Interbank Offered Rate (“LIBOR”), Secured Overnight Financing Rate (“SOFR”), American Interbank Offered Rate (“AMERIBOR”), or Bloomberg Short-term Bank Yield (“BSBY”). For these variable-rate loans, we have executed $7.1 billion of cash flow hedges by receiving fixed rates on interest rate swaps. At September 30, 2022, we also had $3.5 billion of variable-rate consumer loans scheduled to reprice in the next six months. The impact on asset sensitivity from commercial or consumer loans with floors has become insignificant as rates have risen. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. LIBOR Exposure LIBOR is being phased out globally, and U.S. banking regulators instructed banks to cease entering into new lending arrangements using LIBOR no later than December 31, 2021, and migrate to alternative reference rates no later than June 2023. To facilitate the transition process, we instituted an enterprise-wide program to identify, assess, and monitor risks associated with the expected discontinuance or unavailability of LIBOR, which includes active engagement with industry working groups and regulators. This program also includes active involvement of senior management with regular engagement from the Enterprise Risk Management Committee, and seeks to minimize client and internal business operational impacts, while providing reporting transparency, consistency, and a central governance model that aligns with accounting and regulatory guidance. 28 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES We have implemented processes, procedures, and systems to ensure contract risk is sufficiently mitigated. New originations, and any modifications or renewals of LIBOR-based contracts, contain fallback language to facilitate transition to an alternative reference rate. For our contracts that referenced LIBOR and had a duration beyond June 2023, all fallback provisions and variations were identified and classified based upon those provisions. By the end of 2021, we had discontinued substantially all new originations and any renewals or modifications referencing LIBOR. We have a significant number of assets and liabilities that reference LIBOR. At September 30, 2022, we had $20.3 billion in loans (mainly commercial loans), unfunded lending commitments, and securities referencing LIBOR. The amount of borrowed funds referencing LIBOR at September 30, 2022 was less than $1 billion. These amounts exclude derivative assets and liabilities on the consolidated balance sheet. At September 30, 2022, the notional amount of our LIBOR-referenced interest rate derivative contracts was $10.0 billion, of which nearly all related to contracts with central counterparty clearinghouses. The adoption of alternative reference rates continues to evolve in the marketplace. We are positioned to support our customers’ needs by accommodating multiple alternative reference rates, including the Constant Maturity Treasury (“CMT”) rate, the FHLB rate, AMERIBOR, SOFR, and BSBY. During the first quarter of 2022, we began to prompt our customers to voluntarily modify their contracts and migrate to a reference rate other than LIBOR. Voluntary modifications are expected to qualify for the available Tax Safe-Harbor provisions as allowed by Internal Revenue Service (“IRS”) guidance. We expect that customers who voluntarily migrate to an alternative reference rate will do so by the end of this year, and we expect the remaining customers to move to an alternative rate index in accordance with the relevant fallback provisions in their contracts prior to June 2023. For more information on the transition from LIBOR, see Risk Factors in our 2021 Form 10-K. Market Risk – Fixed Income We underwrite municipal and corporate securities. We also trade municipal, agency, and treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. At September 30, 2022, we had $526 million of trading assets and $34 million of securities sold, not yet purchased, compared with $372 million and $254 million at December 31, 2021, respectively. We are exposed to market risk through changes in fair value. This includes market risk for interest rate swaps used to hedge interest rate risk. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in accumulated other comprehensive income (“AOCI”) for each financial reporting period. The after-tax change in AOCI attributable to AFS securities decreased $909 million and $2.7 billion for the three and nine months ended September 30, 2022, respectively, due largely to increased interest rates. Refer to Note 5 of the Notes to Consolidated Financial Statements for more discussion regarding our investment securities portfolio and related unrealized gains and losses. As discussed in the Net Interest Income and NIM section above, our deposit costs are well controlled, reflecting the granularity of our deposit base and the extent of our noninterest-bearing deposits. This funding advantage is more pronounced in a rising interest rate environment, creating meaningful economic value that is not fully reflected on our balance sheet since deposits and related intangible assets are not recorded at fair value for accounting purposes. Market Risk – Equity Investments We hold both direct and indirect investments in predominantly pre-public companies, primarily through various SBIC venture capital funds as a strategy to provide beneficial financing, growth, and expansion opportunities to diverse businesses generally in communities within our geographic footprint. Our equity exposure to these investments was $169 million and $179 million at September 30, 2022 and December 31, 2021, respectively. On occasion, some of the companies within our SBIC investment may issue an initial public offering (“IPO”). In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce 29 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES additional market risk. See Note 3 of our 2021 Form 10-K for additional information regarding the valuation of our SBIC investments. Liquidity Risk Management Overview Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as marketable loans and investment securities. For a more comprehensive discussion of our liquidity risk management, see “Liquidity Risk Management” in our 2021 Form 10-K. Our AFS investment securities are primarily held as a source of contingent liquidity. We target securities that can be readily turned into cash through repurchase agreements or sales. We manage our short-term funding needs through secured borrowing with securities pledged as collateral. At September 30, 2022, our investment securities portfolio of $24.2 billion and cash and money market investments of $4.6 billion, collectively comprised 33% of total assets, compared with $24.9 billion of investment securities, and $13.0 billion of cash and money market investments, collectively comprising 41% of total assets at December 31, 2021. Liquidity Management Actions For the first nine months of 2022, the primary sources of cash came from a decrease in money market investments, an increase in short-term funds borrowed, and net cash provided by operating activities. Uses of cash during the same period included primarily an increase in investment securities, an increase in loans and leases, and redemption of long-term debt. Cash payments for interest were $63 million and $61 million for the first nine months of 2022 and 2021, respectively. Total deposits were $76.0 billion at September 30, 2022, compared with $82.8 billion at December 31, 2021. The decrease in deposits was primarily due to a $4.7 billion decrease in savings and money market deposits, and a $1.9 billion decrease in noninterest-bearing demand deposits. Our core deposits, consisting of noninterest-bearing demand deposits, savings and money market deposits, and time deposits under $250,000, were $75.5 billion at September 30, 2022, compared with $81.9 billion at December 31, 2021. At September 30, 2022, our loan-to-deposit ratio was 71%, compared with 61% at December 31, 2021. General financial market and economic conditions impact our access to, and cost of, external financing. Access to funding markets is also directly affected by the credit ratings received from various rating agencies. Our credit ratings are presented in the following schedu CREDIT RATINGS as of October 31, 2022: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Stable BBB+ BBB NR Fitch Stable BBB+ BBB F1 Moody's Stable Baa1 NR NR The FHLB system and Federal Reserve Banks have been, and continue to be, a significant source of back-up liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against their eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and Federal Reserve stock to maintain our borrowing capacity. At September 30, 2022, our total investment in FHLB and Federal Reserve stock was $151 million and $69 million, respectively, compared with $11 million and $81 million at December 31, 2021. 30 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amount available for additional FHLB and Federal Reserve borrowings was $15.9 billion at September 30, 2022, compared with $18.3 billion at December 31, 2021. Loans with a carrying value of $27.6 billion and $26.8 billion at September 30, 2022 and December 31, 2021, respectively, were pledged at the FHLB and the Federal Reserve as collateral for current and potential borrowings. At September 30, 2022 we had $3.5 billion of short-term FHLB borrowings outstanding and no Federal Reserve borrowings outstanding. At December 31, 2021, we had no FHLB or Federal Reserve borrowings outstanding. Total borrowed funds increased $4.1 billion during the first nine months of 2022, driven by increases in short-term borrowings as a result of loan growth and declines in interest-bearing deposits. These increases were partially offset by a decrease in long-term debt primarily due to the redemption of senior notes during the first quarter of 2022. We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. Capital Management Overview A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. Our capital management objectives inclu (1) consistently improving risk-adjusted returns on our shareholders' capital and appropriately managing capital distributions, (2) maintaining sufficient capital to support the current needs and growth of our businesses, and (3) fulfilling responsibilities to depositors and bondholders. We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the Federal Reserve Board (“FRB”). The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as our Board of Directors (“Board”) and Office of the Comptroller of the Currency (“OCC”) approval. Shares may be repurchased occasionally in the open market or through privately negotiated transactions. For a more comprehensive discussion of our capital risk management, see “Capital Management” in our 2021 Form 10-K. SHAREHOLDERS' EQUITY (Dollar amounts in millions) September 30, 2022 December 31, 2021 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 440 $ — — % Common stock and additional paid-in capital 1,799 1,928 (129) (7) Retained earnings 5,597 5,175 422 8 Accumulated other comprehensive income (loss) (3,140) (80) (3,060) NM Total shareholders' equity $ 4,696 $ 7,463 $ (2,767) (37) % Total shareholders’ equity decreased $2.8 billion, or 37%, to $4.7 billion at September 30, 2022, compared with $7.5 billion at December 31, 2021. Common stock and additional paid-in capital decreased $129 million, primarily due to common stock repurchases. AOCI decreased $3.1 billion, primarily due to decreases in the fair value of fixed-rate available-for-sale securities as a result of changes in interest rates. Absent any sales or credit impairment of these securities, the unrealized losses will not be recognized in earnings. We do not intend to sell any securities with unrealized losses. Additionally, changes in AOCI do not impact our regulatory capital ratios. Refer to Note 5 of the Notes to Consolidated Financial Statements for more discussion on our investment securities portfolio and related unrealized gains and losses. 31 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Common shares outstanding decreased 2.0 million during the first nine months of 2022, primarily due to common stock repurchases. During the third quarter of 2022, we repurchased 0.9 million common shares outstanding for $50 million. In October 2022, the Board approved a plan to repurchase up to $50 million of common shares outstanding during the fourth quarter of 2022. CAPITAL DISTRIBUTIONS Three Months Ended September 30, Nine Months Ended September 30, (In millions, except share data) 2022 2021 2022 2021 Capital distributio Preferred dividends paid $ 6 $ 6 $ 22 $ 23 Bank preferred stock redeemed — — — 126 Total capital distributed to preferred shareholders 6 6 22 149 Common dividends paid 62 62 178 174 Bank common stock repurchased 1 50 325 151 475 Total capital distributed to common shareholders 112 387 329 649 Total capital distributed to preferred and common shareholders $ 118 $ 393 $ 351 $ 798 Weighted average diluted common shares outstanding (in thousands) 149,792 160,480 150,766 162,460 Common shares outstanding, at period end (in thousands) 149,611 156,530 149,611 156,530 1 Includes amounts related to the common shares acquired from our publicly announced plans and those acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. Under the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. At September 30, 2022, we had $1.6 billion of retained net profits available for distribution. During the third quarter of 2022, we paid dividends on preferred stock of $6 million and dividends on common stock of $62 million, or $0.41 per share. In October 2022, the Board declared a regular quarterly dividend of $0.41 per common share, payable on November 17, 2022, to shareholders of record on November 10, 2022. See Note 9 of the Notes to Consolidated Financial Statements for additional information about our capital management actions. Basel III We are subject to Basel III capital requirements to maintain adequate levels of capital as measured by several regulatory capital ratios. At September 30, 2022, we exceeded all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. The following schedule presents our capital and other performance ratios. 32 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CAPITAL RATIOS September 30, 2022 December 31, 2021 September 30, 2021 Tangible common equity ratio 1 3.7 % 6.5 % 7.2 % Tangible equity ratio 1 4.2 7.0 7.7 Average equity to average assets (three months ended) 6.5 8.3 9.0 Basel III risk-based capital ratios: Common equity tier 1 capital 9.6 10.2 10.9 Tier 1 leverage 7.5 7.2 7.6 Tier 1 risk-based 10.3 10.9 11.6 Total risk-based 12.0 12.8 13.6 Return on average common equity (three months ended) 15.8 11.5 12.3 Return on average tangible common equity (three months ended) 1 19.5 13.4 14.2 1 See “ Non-GAAP Financial Measures ” on page 33 for more information regarding these ratios. Our regulatory tier 1 risk-based capital and total risk-based capital was $6.8 billion and $7.9 billion at September 30, 2022, compared with $6.5 billion and $7.7 billion, respectively, at December 31, 2021. See the “Supervision and Regulation” section and Note 15 of our 2021 Form 10-K for more information about our compliance with the Basel III capital requirements. NON-GAAP FINANCIAL MEASURES This Form 10-Q presents non-GAAP financial measures, in addition to generally accepted accounting principles (“GAAP”) financial measures, to provide investors with additional information. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results and provide a meaningful basis for period-to-period comparisons. We use these non-GAAP financial measures to assess our performance, financial position, and for presentations of our performance to investors. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by our management and the financial services industry. Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar financial measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under GAAP. Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets and their related amortization. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a business more consistently, whether acquired or developed internally. 33 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Three Months Ended (Dollar amounts in millions) September 30, 2022 June 30, 2022 September 30, 2021 Net earnings applicable to common shareholders, net of tax (a) $ 211 $ 195 $ 234 Average common equity (GAAP) $ 5,303 $ 5,582 $ 7,569 Average goodwill and intangibles (1,021) (1,015) (1,015) Average tangible common equity (non-GAAP) (b) $ 4,282 $ 4,567 $ 6,554 Number of days in quarter (c) 92 91 92 Number of days in year (d) 365 365 365 Return on average tangible common equity (non-GAAP) (a/b/c)*d 19.5 % 17.1 % 14.2 % TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) September 30, 2022 June 30, 2022 September 30, 2021 Total shareholders’ equity (GAAP) $ 4,696 $ 5,632 $ 7,774 Goodwill and intangibles (1,034) (1,015) (1,015) Tangible equity (non-GAAP) (a) 3,662 4,617 6,759 Preferred stock (440) (440) (440) Tangible common equity (non-GAAP) (b) $ 3,222 $ 4,177 $ 6,319 Total assets (GAAP) $ 88,474 $ 87,784 $ 88,306 Goodwill and intangibles (1,034) (1,015) (1,015) Tangible assets (non-GAAP) (c) $ 87,440 $ 86,769 $ 87,291 Common shares outstanding (thousands) (d) 149,611 150,471 156,530 Tangible equity ratio (non-GAAP) (a/c) 4.2 % 5.3 % 7.7 % Tangible common equity ratio (non-GAAP) (b/c) 3.7 % 4.8 % 7.2 % Tangible book value per common share (non-GAAP) (b/d) $ 21.54 $ 27.76 $ 40.37 34 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allow for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how we are managing our expenses; adjusted pre-provision net revenue enables management and others to assess our ability to generate capital. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) Three Months Ended Nine Months Ended Year Ended (Dollar amounts in millions) September 30, 2022 June 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021 December 31, 2021 Noninterest expense (GAAP) (a) $ 479 $ 464 $ 429 $ 1,407 $ 1,292 $ 1,741 Adjustments: Severance costs — 1 1 1 1 1 Other real estate expense, net — — — 1 — — Amortization of core deposit and other intangibles 1 — — 1 — 1 Pension termination-related (income) expense 1 — — — — (5) (5) SBIC investment success fee accrual 2 1 — (4) — 5 7 Total adjustments (b) 2 1 (3) 3 1 4 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 477 $ 463 $ 432 $ 1,404 $ 1,291 $ 1,737 Net interest income (GAAP) (d) $ 663 $ 593 $ 555 $ 1,800 $ 1,655 $ 2,208 Fully taxable-equivalent adjustments (e) 10 9 7 27 22 32 Taxable-equivalent net interest income (non-GAAP) (d+e)=f 673 602 562 1,827 1,677 2,240 Noninterest income (GAAP) g 165 172 139 479 513 703 Combined income (non-GAAP) (f+g)=(h) 838 774 701 2,306 2,190 2,943 Adjustments: Fair value and nonhedge derivative gains 4 10 2 20 15 14 Securities gains (losses), net 2 6 1 (23) (10) 51 71 Total adjustments 3 (i) 10 11 (21) 10 66 85 Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 828 $ 763 $ 722 $ 2,296 $ 2,124 $ 2,858 Pre-provision net revenue (non-GAAP) (h)-(a) $ 359 $ 310 $ 272 $ 899 $ 898 $ 1,202 Adjusted PPNR (non-GAAP) (j)-(c) 351 300 290 892 833 1,121 Efficiency ratio (non-GAAP) (c/j) 57.6 % 60.7 % 59.8 % 61.1 % 60.8 % 60.8 % 1 Represents a valuation adjustment related to the termination of our defined benefit pension plan. 2 The success fee accrual is associated with the gains/(losses) from our SBIC investments, which are excluded from the efficiency ratio through securities gains (losses), net. 3 Excluding the $6 million equity investment valuation loss recorded in dividends and other income, the efficiency ratio for the three and nine months ended September 30, 2022 would have been 57.2% and 61.0%, respectively. 35 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 1. FINANCIAL STATEMENTS (Unaudited) CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) September 30, 2022 December 31, 2021 (Unaudited) ASSETS Cash and due from banks $ 549 $ 595 Money market investments: Interest-bearing deposits 1,291 10,283 Federal funds sold and security resell agreements 2,797 2,133 Investment securiti Held-to-maturity, at amortized cost (included $ 379 and $ 443 at fair value ) 423 441 Available-for-sale, at fair value 23,233 24,048 Trading account, at fair value 526 372 Total securities 24,182 24,861 Loans held for sale 25 83 Loans and leases, net of unearned income and fees 53,918 50,851 Less allowance for loan and lease losses 541 513 Loans held for investment, net of allowance 53,377 50,338 Other noninterest-bearing investments 983 851 Premises, equipment and software, net 1,388 1,319 Goodwill and intangibles 1,034 1,015 Other real estate owned 3 8 Other assets 2,845 1,714 Total assets $ 88,474 $ 93,200 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 39,133 $ 41,053 Interest-bearin Savings and money market 35,389 40,114 Time 1,473 1,622 Total deposits 75,995 82,789 Federal funds purchased and other short-term borrowings 5,363 903 Long-term debt 647 1,012 Reserve for unfunded lending commitments 49 40 Other liabilities 1,724 993 Total liabilities 83,778 85,737 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 440 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 149,611 and 151,625 shares) and additional paid-in capital 1,799 1,928 Retained earnings 5,597 5,175 Accumulated other comprehensive income (loss) ( 3,140 ) ( 80 ) Total shareholders’ equity 4,696 7,463 Total liabilities and shareholders’ equity $ 88,474 $ 93,200 See accompanying notes to consolidated financial statements. 36 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Unaudited) Three Months Ended September 30, Nine Months Ended September 30, (In millions, except shares and per share amounts) 2022 2021 2022 2021 Interest income: Interest and fees on loans $ 551 $ 484 $ 1,456 $ 1,464 Interest on money market investments 24 7 42 14 Interest on securities 132 78 372 223 Total interest income 707 569 1,870 1,701 Interest expense: Interest on deposits 19 7 32 23 Interest on short- and long-term borrowings 25 7 38 23 Total interest expense 44 14 70 46 Net interest income 663 555 1,800 1,655 Provision for credit loss Provision for loan and lease losses 60 ( 45 ) 70 ( 281 ) Provision for unfunded lending commitments 11 ( 1 ) 9 ( 20 ) Total provision for credit losses 71 ( 46 ) 79 ( 301 ) Net interest income after provision for credit losses 592 601 1,721 1,956 Noninterest income: Commercial account fees 40 34 118 100 Card fees 27 25 77 70 Retail and business banking fees 17 20 57 55 Loan-related fees and income 18 27 61 73 Capital markets and foreign exchange fees 25 17 61 49 Wealth management fees 14 13 41 37 Other customer-related fees 15 15 46 39 Customer-related noninterest income 156 151 461 423 Fair value and nonhedge derivative income 4 2 20 15 Dividends and other income (loss) ( 1 ) 9 8 24 Securities gains (losses), net 6 ( 23 ) ( 10 ) 51 Total noninterest income 165 139 479 513 Noninterest expense: Salaries and employee benefits 312 285 931 845 Technology, telecom, and information processing 53 50 158 148 Occupancy and equipment, net 38 37 112 115 Professional and legal services 14 17 42 56 Marketing and business development 11 9 28 22 Deposit insurance and regulatory expense 13 8 36 25 Credit-related expense 8 7 22 19 Other real estate expense, net — — 1 — Other 30 16 77 62 Total noninterest expense 479 429 1,407 1,292 Income before income taxes 278 311 793 1,177 Income taxes 61 71 170 261 Net income 217 240 623 916 Preferred stock dividends ( 6 ) ( 6 ) ( 22 ) ( 23 ) Net earnings applicable to common shareholders $ 211 $ 234 $ 601 $ 893 Weighted average common shares outstanding during the perio Basic shares (in thousands) 149,628 160,221 150,510 162,159 Diluted shares (in thousands) 149,792 160,480 150,766 162,460 Net earnings per common sh Basic $ 1.40 $ 1.45 $ 3.96 $ 5.44 Diluted 1.40 1.45 3.96 5.43 See accompanying notes to consolidated financial statements. 37 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Unaudited) Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2022 2021 2022 2021 Net income for the period $ 217 $ 240 $ 623 $ 916 Other comprehensive income (loss), net of t Net unrealized holding losses on investment securities ( 909 ) ( 95 ) ( 2,729 ) ( 225 ) Net unrealized gains (losses) on other noninterest-bearing investments ( 1 ) — ( 2 ) 3 Net unrealized holding losses on derivative instruments ( 138 ) ( 4 ) ( 322 ) ( 4 ) Reclassification adjustment for decrease (increase) in interest income recognized in earnings on derivative instruments 8 ( 12 ) ( 7 ) ( 35 ) Other comprehensive income (loss) ( 1,040 ) ( 111 ) ( 3,060 ) ( 261 ) Comprehensive income (loss) $ ( 823 ) $ 129 $ ( 2,437 ) $ 655 See accompanying notes to consolidated financial statements. CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited) (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at June 30, 2022 $ 440 150,471 $ — $ 1,845 $ 5,447 $ ( 2,100 ) $ 5,632 Net income for the period 217 217 Other comprehensive loss, net of tax ( 1,040 ) ( 1,040 ) Bank common stock repurchased ( 888 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 28 4 4 Dividends on preferred stock ( 6 ) ( 6 ) Dividends on common stock, $ 0.41 per share ( 61 ) ( 61 ) Balance at September 30, 2022 $ 440 149,611 $ — $ 1,799 $ 5,597 $ ( 3,140 ) $ 4,696 Balance at June 30, 2021 $ 440 162,248 $ — $ 2,565 $ 4,853 $ 175 $ 8,033 Net income for the period 240 240 Other comprehensive loss, net of tax ( 111 ) ( 111 ) Bank common stock repurchased ( 5,772 ) ( 325 ) ( 325 ) Net activity under employee plans and related tax benefits 54 5 5 Dividends on preferred stock ( 6 ) ( 6 ) Dividends on common stock, $ 0.38 per share ( 62 ) ( 62 ) Balance at September 30, 2021 $ 440 156,530 $ — $ 2,245 $ 5,025 $ 64 $ 7,774 38 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2021 $ 440 151,625 $ — $ 1,928 $ 5,175 $ ( 80 ) $ 7,463 Net income for the period 623 623 Other comprehensive loss, net of tax ( 3,060 ) ( 3,060 ) Bank common stock repurchased ( 2,602 ) ( 151 ) ( 151 ) Net activity under employee plans and related tax benefits 588 22 22 Dividends on preferred stock ( 22 ) ( 22 ) Dividends on common stock, $ 1.17 per share ( 178 ) ( 178 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at September 30, 2022 $ 440 149,611 $ — $ 1,799 $ 5,597 $ ( 3,140 ) $ 4,696 Balance at December 31, 2020 $ 566 164,090 $ — $ 2,686 $ 4,309 $ 325 $ 7,886 Net income for the period 916 916 Other comprehensive loss, net of tax ( 261 ) ( 261 ) Preferred stock redemption ( 126 ) 3 ( 3 ) ( 126 ) Bank common stock repurchased ( 8,519 ) ( 475 ) ( 475 ) Net activity under employee plans and related tax benefits 959 31 31 Dividends on preferred stock ( 23 ) ( 23 ) Dividends on common stock, $ 1.06 per share ( 174 ) ( 174 ) Balance at September 30, 2021 $ 440 156,530 $ — $ 2,245 $ 5,025 $ 64 $ 7,774 See accompanying notes to consolidated financial statements. 39 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In millions) Nine Months Ended September 30, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES Net income for the period $ 623 $ 916 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses 79 ( 301 ) Depreciation and amortization 79 ( 22 ) Share-based compensation 25 23 Deferred income tax expense 15 108 Net increase in trading securities ( 154 ) ( 39 ) Net decrease in loans held for sale 51 13 Change in other liabilities 745 14 Change in other assets ( 467 ) ( 177 ) Other, net ( 20 ) ( 72 ) Net cash provided by operating activities 976 463 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease (increase) in money market investments 8,328 ( 4,461 ) Proceeds from maturities and paydowns of investment securities held-to-maturity 250 433 Purchases of investment securities held-to-maturity ( 232 ) ( 256 ) Proceeds from sales, maturities and paydowns of investment securities available-for-sale 2,743 3,611 Purchases of investment securities available-for-sale ( 5,829 ) ( 8,730 ) Net change in loans and leases ( 3,026 ) 2,957 Purchases and sales of other noninterest-bearing investments ( 147 ) 18 Purchases of premises and equipment ( 154 ) ( 153 ) Other, net 21 8 Net cash provided by (used in) investing activities 1,954 ( 6,573 ) CASH FLOWS FROM FINANCING ACTIVITIES Net (decrease) increase in deposits ( 6,794 ) 8,230 Net change in short-term funds borrowed 4,461 ( 993 ) Cash paid for preferred stock redemption — ( 126 ) Redemption of long-term debt ( 290 ) ( 281 ) Proceeds from the issuance of common stock 8 17 Dividends paid on common and preferred stock ( 200 ) ( 199 ) Bank common stock repurchased ( 151 ) ( 475 ) Other, net ( 10 ) ( 9 ) Net cash (used in) provided by financing activities ( 2,976 ) 6,164 Net decrease in cash and due from banks ( 46 ) 54 Cash and due from banks at beginning of period 595 543 Cash and due from banks at end of period $ 549 $ 597 Cash paid for interest $ 63 $ 61 Net cash paid for income taxes 5 442 Noncash activities are summarized as follows: Loans held for investment transferred to other real estate owned — 22 Loans held for investment reclassified to loans held for sale, net 100 55 See accompanying notes to consolidated financial statements. 40 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) September 30, 2022 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Zions Bancorporation, National Association and its majority-owned subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). The results of operations for the nine months ended September 30, 2022 and 2021 are not necessarily indicative of the results that may be expected in future periods. In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. For further information, refer to the consolidated financial statements and accompanying footnotes included in our 2021 Form 10-K. Certain prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Effective for the first quarter of 2022, we made certain financial reporting changes and reclassifications to noninterest expense in our Consolidated Statements of Income. These financial reporting changes were made primarily to improve the presentation and disclosure of certain expenses related to our ongoing technology initiatives. Other noninterest expense line items were impacted by these changes and reclassifications. These changes and reclassifications (1) were adopted retrospectively to January 1, 2020, (2) reflect changes only to noninterest expense in the Consolidated Statements of Income, and (3) do not impact net income, net interest income, or noninterest income. We evaluated events that occurred between September 30, 2022 and the date the accompanying financial statements were issued, and determined that there were no material events that would require adjustments to our consolidated financial statements or significant disclosure in the accompanying Notes. As referenced in Note 5 of the Notes to Consolidated Financial Statements, we transferred pass-through mortgage-backed available-for-sale (“AFS”) securities to the held-to-maturity (“HTM”) category to reflect our new intent for these securities in October 2022. Zions Bancorporation, N.A. is a commercial bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These include Zions Bank, in Utah, Idaho, and Wyoming; California Bank & Trust (“CB&T”); Amegy Bank (“Amegy”), in Texas; National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”), in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under the name The Commerce Bank of Oregon in Oregon. 41 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 2. RECENT ACCOUNTING PRONOUNCEMENTS Standard Description Date of adoption Effect on the financial statements or other significant matters Standards not yet adopted by the Bank ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures This accounting standards update (“ASU”) eliminates the recognition and measurement guidance on troubled debt restructurings (“TDRs”) for creditors that have adopted ASC 326 (“CECL”), and eliminates certain existing TDR disclosures while requiring enhanced disclosures about loan modifications for borrowers experiencing financial difficulty. The new standard also requires public companies to present current-period gross write-offs (on a current year-to-date basis for interim-period disclosures) by year of origination in their vintage disclosures. The new standard is effective for calendar year-end public companies beginning January 1, 2023, with early adoption permitted. Periods beginning after December 15, 2022 We have established an implementation team to ensure that the necessary data is captured in order to comply with the new disclosure requirements. The overall effect of this standard is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. ASU 2022-03, Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions This ASU clarifies that contractual restrictions prohibiting the sale of an equity security are not considered part of the unit of account of the equity security, and therefore, are not considered in measuring fair value. The amendments clarify that an entity cannot recognize and measure a contractual sale restriction as a separate unit of account. The amendments in this ASU also require additional qualitative and quantitative disclosures for equity securities subject to contractual sale restrictions. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 The requirements of this ASU are consistent with our current treatment of equity securities subject to contractual sale restrictions and are not expected to impact the fair value measurements of these securities. We are evaluating supplementary disclosure requirements and additional data needed to meet these requirements. The overall effect of this standard is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. 42 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 3. FAIR VALUE Fair Value Measurements Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. For more information about our valuation methodologies for assets and liabilities measured at fair value and the fair value hierarchy, see Note 3 of our 2021 Form 10-K. Quantitative Disclosure by Fair Value Hierarchy Assets and liabilities measured at fair value by class on a recurring basis are summarized as follows: (In millions) September 30, 2022 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 394 $ 21,139 $ — $ 21,533 Municipal securities 1,626 1,626 Other debt securities 74 74 Total available-for-sale 394 22,839 — 23,233 Trading account 221 305 526 Other noninterest-bearing investments: Bank-owned life insurance 543 543 Private equity investments 1 5 81 86 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 118 118 Derivativ Derivatives designated as hedges 83 83 Derivatives not designated as hedges 212 212 Total assets $ 738 $ 23,982 $ 93 $ 24,813 LIABILITIES Securities sold, not yet purchased $ 34 $ — $ — $ 34 Other liabiliti Derivativ Derivatives designated as hedges 2 2 Derivatives not designated as hedges 489 489 Total liabilities $ 34 $ 491 $ — $ 525 1 The Level 1 private equity investments (“PEIs”) relate to the portion of our Small Business Investment Company (“SBIC”) investments that are now publicly traded. 43 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) December 31, 2021 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 134 $ 22,144 $ — $ 22,278 Municipal securities 1,694 1,694 Other debt securities 76 76 Total available-for-sale 134 23,914 — 24,048 Trading account 14 358 372 Other noninterest-bearing investments: Bank-owned life insurance 537 537 Private equity investments 1 35 66 101 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 138 138 Derivativ Derivatives designated as hedges 10 10 Derivatives not designated as hedges 209 209 Total assets $ 321 $ 25,028 $ 78 $ 25,427 LIABILITIES Securities sold, not yet purchased $ 254 $ — $ — $ 254 Other liabiliti Derivativ Derivatives not designated as hedges 51 51 Total liabilities $ 254 $ 51 $ — $ 305 1 The Level 1 PEIs relate to the portion of our SBIC investments that are now publicly traded. Level 3 Valuations Our Level 3 holdings include PEIs, agriculture loan servicing, and interest-only strips. For additional information regarding our Level 3 financial instruments, including the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2021 Form 10-K. Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments Three Months Ended Nine Months Ended September 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021 (In millions) Private equity investments Ag loan servicing & interest only strips Private equity investments Ag loan servicing & interest only strips Private equity investments Ag loan servicing & interest only strips Private equity investments Ag loan servicing & interest only strips Balance at beginning of period $ 77 $ 12 $ 72 $ 15 $ 66 $ 12 $ 80 $ 16 Unrealized securities gains (losses), net 2 — 10 — 7 — 79 — Other noninterest income (expense) — — — ( 1 ) — — — ( 2 ) Purchases 2 — 4 — 11 — 10 — Cost of investments sold — — ( 13 ) — ( 3 ) — ( 19 ) — Transfers out 1 — — ( 1 ) — — — ( 78 ) — Balance at end of period $ 81 $ 12 $ 72 $ 14 $ 81 $ 12 $ 72 $ 14 1 Represents the transfer of SBIC investments out of Level 3 and into Level 1 because they are now publicly traded. 44 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The rollforward of Level 3 instruments includes the following realized gains and losses recognized in securities gains (losses) on the consolidated statement of income for the periods present (In millions) Three Months Ended Nine Months Ended September 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021 Securities gains (losses), net $ — $ ( 6 ) $ ( 2 ) $ ( 11 ) Nonrecurring Fair Value Measurements Certain assets and liabilities may be recorded at fair value on a nonrecurring basis, including impaired loans that have been measured based on the fair value of the underlying collateral, other real estate owned (“OREO”), and nonmarketable equity securities. Nonrecurring fair value adjustments typically involve write-downs of individual assets or the application of lower of cost or fair value accounting. At September 30, 2022, we had no assets or liabilities that had fair value changes measured on a nonrecurring basis. At December 31, 2021, we had $ 2 million of collateral-dependent loans valued as Level 2 measurements, and we recognized $ 3 million of losses from fair value changes related to these loans. The previous fair values may not be current as of the dates indicated, but rather as of the most recent date the fair value change occurred. For additional information regarding the measurement of fair value for impaired loans, collateral-dependent loans, and OREO, see Note 3 of our 2021 Form 10-K. Fair Value of Certain Financial Instruments The following schedule summarizes the carrying values and estimated fair values of certain financial instruments: September 30, 2022 December 31, 2021 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: Held-to-maturity investment securities $ 423 $ 379 2 $ 441 $ 443 2 Loans and leases (including loans held for sale), net of allowance 53,402 51,735 3 50,421 50,619 3 Financial liabiliti Time deposits 1,473 1,433 2 1,622 1,624 2 Other short-term borrowings 3,500 3,500 2 — — 2 Long-term debt 647 628 2 1,012 1,034 2 This summary excludes financial assets and liabilities for which carrying value approximates fair value and financial instruments that are recorded at fair value on a recurring basis. For additional information regarding the financial instruments within the scope of this disclosure, and the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2021 Form 10-K. 45 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 4. OFFSETTING ASSETS AND LIABILITIES Gross and net information for selected financial instruments in the balance sheet is as follows: September 30, 2022 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 2,797 $ — $ 2,797 $ — $ — $ 2,797 Derivatives (included in other assets) 295 — 295 ( 10 ) ( 159 ) 126 Total assets $ 3,092 $ — $ 3,092 $ ( 10 ) $ ( 159 ) $ 2,923 Liabiliti Federal funds purchased and other short-term borrowings $ 5,363 $ — $ 5,363 $ — $ — $ 5,363 Derivatives (included in other liabilities) 491 — 491 ( 10 ) — 481 Total liabilities $ 5,854 $ — $ 5,854 $ ( 10 ) $ — $ 5,844 December 31, 2021 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 2,133 $ — $ 2,133 $ — $ — $ 2,133 Derivatives (included in other assets) 219 — 219 ( 16 ) ( 7 ) 196 Total assets $ 2,352 $ — $ 2,352 $ ( 16 ) $ ( 7 ) $ 2,329 Liabiliti Federal funds purchased and other short-term borrowings $ 903 $ — $ 903 $ — $ — $ 903 Derivatives (included in other liabilities) 51 — 51 ( 16 ) ( 1 ) 34 Total liabilities $ 954 $ — $ 954 $ ( 16 ) $ ( 1 ) $ 937 Security repurchase and reverse repurchase (“resell”) agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 5. INVESTMENTS Investment Securities Investment securities are classified as HTM, AFS, or trading. HTM securities, which management has the intent and ability to hold until maturity, are carried at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. AFS securities are carried at fair value, and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to accumulated other comprehensive income (“AOCI”), net of related taxes. Trading securities are carried at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 76 million and $ 65 million at September 30, 2022 and December 31, 2021, respectively. These receivables are presented on the consolidated balance sheet in “Other assets.” 46 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES In October 2022, we transferred approximately $ 9.0 billion amortized cost ($ 7.2 billion fair value) of pass-through mortgage-backed AFS securities to the HTM category to reflect our new intent for these securities. See Note 5 of our 2021 Form 10-K for more information regarding our accounting for investment securities, and see Note 3 of our 2021 Form 10-K for description of our process to estimate fair value for investment securities. The following schedule summarizes the amortized cost and estimated fair values of our HTM and AFS securiti September 30, 2022 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities 1 $ 423 $ — $ 44 $ 379 Available-for-sale U.S. Treasury securities 557 — 163 394 U.S. Government agencies and corporatio Agency securities 851 — 44 807 Agency guaranteed mortgage-backed securities 1 23,162 — 3,596 19,566 Small Business Administration loan-backed securities 793 1 28 766 Municipal securities 1 1,780 — 154 1,626 Other debt securities 1 75 — 1 74 Total available-for-sale 27,218 1 3,986 23,233 Total HTM and AFS investment securities $ 27,641 $ 1 $ 4,030 $ 23,612 1 Gross unrealized gains for these security categories were less than $ 1 million. December 31, 2021 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 441 $ 4 $ 2 $ 443 Available-for-sale U.S. Treasury securities 155 — 21 134 U.S. Government agencies and corporatio Agency securities 833 13 1 845 Agency guaranteed mortgage-backed securities 20,549 108 270 20,387 Small Business Administration loan-backed securities 938 2 28 912 Municipal securities 1,652 46 4 1,694 Other debt securities 75 1 — 76 Total available-for-sale 24,202 170 324 24,048 Total HTM and AFS investment securities $ 24,643 $ 174 $ 326 $ 24,491 Maturities The following schedule shows the amortized cost and weighted average yields of debt securities by contractual maturity of principal payments at September 30, 2022. Actual principal payments may differ from contractual or expected principal payments because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. 47 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES September 30, 2022 Total debt securities Due in one year or less Due after one year through five years Due after five years through ten years Due after ten years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity Municipal securities 1 $ 423 3.11 % $ 46 3.65 % $ 132 3.20 % $ 185 3.08 % $ 60 2.59 % Available-for-sale U.S. Treasury securities 557 2.05 — — — — — — 557 2.05 U.S. Government agencies and corporatio Agency securities 851 2.40 31 0.84 371 2.08 239 2.48 210 3.09 Agency guaranteed mortgage-backed securities 23,162 1.82 — — 370 1.70 1,725 1.97 21,067 1.81 Small Business Administration loan-backed securities 793 2.58 — — 52 2.73 160 3.02 581 2.44 Municipal securities 1 1,780 2.42 112 2.18 650 2.67 710 2.17 308 2.56 Other debt securities 75 3.46 — — 50 1.79 10 9.52 15 4.98 Total available-for-sale securities 27,218 1.91 143 1.89 1,493 2.25 2,844 2.15 22,738 1.86 Total HTM and AFS investment securities $ 27,641 1.93 % $ 189 2.32 % $ 1,625 2.33 % $ 3,029 2.21 % $ 22,798 1.86 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis. The following schedule summarizes the amount of gross unrealized losses for debt securities and the estimated fair value by length of time the securities have been in an unrealized loss positi September 30, 2022 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 18 $ 260 $ 26 $ 96 $ 44 $ 356 Available-for-sale U.S. Treasury securities 95 306 68 88 163 394 U.S. Government agencies and corporatio Agency securities 37 712 7 95 44 807 Agency guaranteed mortgage-backed securities 1,865 12,129 1,731 7,429 3,596 19,558 Small Business Administration loan-backed securities 7 77 21 571 28 648 Municipal securities 106 1,375 48 230 154 1,605 Other 1 13 — — 1 13 Total available-for-sale 2,111 14,612 1,875 8,413 3,986 23,025 Total HTM and AFS investment securities $ 2,129 $ 14,872 $ 1,901 $ 8,509 $ 4,030 $ 23,381 48 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 1 $ 88 $ 1 $ 68 $ 2 $ 156 Available-for-sale U.S. Treasury securities — — 21 134 21 134 U.S. Government agencies and corporatio Agency securities 1 121 — 1 1 122 Agency guaranteed mortgage-backed securities 231 13,574 39 942 270 14,516 Small Business Administration loan-backed securities — 27 28 749 28 776 Municipal securities 4 327 — 8 4 335 Other — — — — — — Total available-for-sale 236 14,049 88 1,834 324 15,883 Total HTM and AFS investment securities $ 237 $ 14,137 $ 89 $ 1,902 $ 326 $ 16,039 Approximately 550 and 137 HTM and 4,236 and 1,302 AFS investment securities were in an unrealized loss position at September 30, 2022, and December 31, 2021, respectively. Impairment We review investment securities quarterly on an individual security basis for the presence of impairment. For additional information on our policy and impairment evaluation process for investment securities, see Note 5 of our 2021 Form 10-K. AFS Impairment We did not recognize any impairment on our AFS investment securities portfolio during the first nine months of 2022. Unrealized losses primarily relate to changes in interest rates subsequent to purchase and are not attributable to credit. At September 30, 2022, we had not initiated any sales of AFS securities, nor did we have an intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not that we would be required to sell such securities before recovery of their amortized cost basis. HTM Impairment For HTM securities, the allowance for credit losses (“ACL”) is assessed consistent with the approach described in Note 6 for loans and leases carried at amortized cost. The ACL on HTM securities was less than $ 1 million at September 30, 2022. All HTM securities were risk-graded as “ Pass ” in terms of credit quality and none were past due at September 30, 2022. The amortized cost basis of HTM securities categorized by year acquired is summarized in the following schedu September 30, 2022 Amortized cost basis by year acquired (In millions) 2022 2021 2020 2019 2018 Prior Total Securities Held-to-maturity investment securities $ 38 $ 87 $ 117 $ 8 $ — $ 173 $ 423 49 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Securities Gains and Losses Recognized in Income The following schedule summarizes securities gains and losses recognized in the income statemen Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 (In millions) Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Other noninterest-bearing investments $ 6 $ — $ 6 $ 29 $ 10 $ 20 $ 86 $ 35 Net gains (losses) 1 $ 6 $ ( 23 ) $ ( 10 ) $ 51 1 Net gains (losses) were recognized in securities gains (losses) in the income statement. The following schedule presents interest income by security type: Three Months Ended September 30, 2022 2021 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 2 $ 1 $ 3 $ 3 $ 1 $ 4 Available-for-sale 115 11 126 64 8 72 Trading — 3 3 — 2 2 Total securities $ 117 $ 15 $ 132 $ 67 $ 11 $ 78 Nine Months Ended September 30, 2022 2021 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 7 $ 3 $ 10 $ 8 $ 4 $ 12 Available-for-sale 320 30 350 182 22 204 Trading — 12 12 — 7 7 Total securities $ 327 $ 45 $ 372 $ 190 $ 33 $ 223 At September 30, 2022 and December 31, 2021, investment securities with a carrying value of $ 4.6 billion and $ 3.1 billion, respectively, were pledged to secure public and trust deposits, advances, and for other purposes as required by law. Securities are also pledged as collateral for security repurchase agreements. 50 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific loan class: (In millions) September 30, 2022 December 31, 2021 Loans held for sale $ 25 $ 83 Commerci Commercial and industrial $ 15,656 $ 13,867 PPP 306 1,855 Leasing 347 327 Owner-occupied 9,279 8,733 Municipal 4,224 3,658 Total commercial 29,812 28,440 Commercial real estate: Construction and land development 2,800 2,757 Term 9,556 9,441 Total commercial real estate 12,356 12,198 Consume Home equity credit line 3,331 3,016 1-4 family residential 6,852 6,050 Construction and other consumer real estate 973 638 Bankcard and other revolving plans 471 396 Other 123 113 Total consumer 11,750 10,213 Total loans and leases $ 53,918 $ 50,851 Loans and leases are presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 44 million and $ 83 million at September 30, 2022 and December 31, 2021, respectively. Amortized cost basis does not include accrued interest receivables of $ 196 million and $ 161 million at September 30, 2022 and December 31, 2021, respectively. These receivables are presented in the Consolidated Balance Sheet within the “Other assets” line item. Municipal loans generally include loans to state and local governments (“municipalities”) with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 257 million at September 30, 2022 and $ 160 million at December 31, 2021. Loans with a carrying value of $ 27.6 billion at September 30, 2022 and $ 26.8 billion at December 31, 2021 have been pledged at the Federal Reserve and the Federal Home Loan Bank (“FHLB”) of Des Moines as collateral for potential borrowings. We sold loans totaling $ 112 million and $ 635 million for the three and nine months ended September 30, 2022, and $ 0.4 billion and $ 1.2 billion for the three and nine months ended September 30, 2021, that were classified as loans held for sale. The sold loans were derecognized from the balance sheet. Loans classified as loans held for sale primarily consist of conforming residential mortgages and the guaranteed portion of Small Business Administration (“SBA”) loans that are primarily sold to U.S. government agencies or participated to third parties. They do not include loans from the SBA's Paycheck Protection Program (“PPP”). At times, we have continuing involvement in the sold loans in the form of servicing rights or guarantees. Amounts added to loans held for sale during these same periods were $ 96 million and $ 583 million for the three and nine months ended September 30, 2022, and $ 0.4 51 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES billion and $ 1.2 billion for the three and nine months ended September 30, 2021, respectively. See Note 5 of the Notes to Consolidated Financial Statements for further information regarding guaranteed securities. The principal balance of sold loans for which we retain servicing was $ 3.5 billion at September 30, 2022, and $ 3.3 billion at December 31, 2021. Income from loans sold, excluding servicing, was $ 2 million and $ 12 million for the three and nine months ended September 30, 2022, and $ 12 million and $ 30 million for the three and nine months ended September 30, 2021, respectively. Allowance for Credit Losses The allowance for credit losses (“ACL”), which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. For additional information regarding our policies and methodologies used to estimate the ACL, see Note 6 of our 2021 Form 10-K. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is estimated consistent with the approach for loans carried at amortized cost. See Note 5 of our 2021 Form 10-K for further discussion of our methodology used to estimate the ACL on AFS and HTM debt securities. Changes in the ACL are summarized as follows: Three Months Ended September 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 286 $ 114 $ 108 $ 508 Provision for loan losses 41 17 2 60 Gross loan and lease charge-offs 37 — 1 38 Recoveries 6 — 5 11 Net loan and lease charge-offs (recoveries) 31 — ( 4 ) 27 Balance at end of period $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments Balance at beginning of period $ 13 $ 15 $ 10 $ 38 Provision for unfunded lending commitments 3 7 1 11 Balance at end of period $ 16 $ 22 $ 11 $ 49 Total allowance for credit losses at end of period Allowance for loan losses $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments 16 22 11 49 Total allowance for credit losses $ 312 $ 153 $ 125 $ 590 52 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 311 $ 107 $ 95 $ 513 Provision for loan losses 29 24 17 70 Gross loan and lease charge-offs 65 — 8 73 Recoveries 21 — 10 31 Net loan and lease charge-offs (recoveries) 44 — ( 2 ) 42 Balance at end of period $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments Balance at beginning of period $ 19 $ 11 $ 10 $ 40 Provision for unfunded lending commitments ( 3 ) 11 1 9 Balance at end of period $ 16 $ 22 $ 11 $ 49 Total allowance for credit losses at end of period Allowance for loan losses $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments 16 22 11 49 Total allowance for credit losses $ 312 $ 153 $ 125 $ 590 Three Months Ended September 30, 2021 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 321 $ 111 $ 103 $ 535 Provision for loan losses ( 25 ) ( 10 ) ( 10 ) ( 45 ) Gross loan and lease charge-offs 4 — 4 8 Recoveries 7 — 2 9 Net loan and lease charge-offs (recoveries) ( 3 ) — 2 ( 1 ) Balance at end of period $ 299 $ 101 $ 91 $ 491 Reserve for unfunded lending commitments Balance at beginning of period $ 21 $ 10 $ 8 $ 39 Provision for unfunded lending commitments ( 2 ) — 1 ( 1 ) Balance at end of period $ 19 $ 10 $ 9 $ 38 Total allowance for credit losses at end of period Allowance for loan losses $ 299 $ 101 $ 91 $ 491 Reserve for unfunded lending commitments 19 10 9 38 Total allowance for credit losses $ 318 $ 111 $ 100 $ 529 53 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2021 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 464 $ 171 $ 142 $ 777 Provision for loan losses ( 162 ) ( 70 ) ( 49 ) ( 281 ) Gross loan and lease charge-offs 27 — 10 37 Recoveries 24 — 8 32 Net loan and lease charge-offs (recoveries) 3 — 2 5 Balance at end of period $ 299 $ 101 $ 91 $ 491 Reserve for unfunded lending commitments Balance at beginning of period $ 30 $ 20 $ 8 $ 58 Provision for unfunded lending commitments ( 11 ) ( 10 ) 1 ( 20 ) Balance at end of period $ 19 $ 10 $ 9 $ 38 Total allowance for credit losses at end of period Allowance for loan losses $ 299 $ 101 $ 91 $ 491 Reserve for unfunded lending commitments 19 10 9 38 Total allowance for credit losses $ 318 $ 111 $ 100 $ 529 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement, (2) the loan, if secured, is well-secured, (3) the borrower has paid according to the contractual terms for a minimum of six months, and (4) an analysis of the borrower indicates a reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of nonaccrual loans is summarized as follows: September 30, 2022 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 10 $ 42 $ 52 $ 19 PPP 5 — 5 — Owner-occupied 19 9 28 1 Total commercial 34 51 85 20 Commercial real estate: Term — 20 20 8 Total commercial real estate — 20 20 8 Consume Home equity credit line 1 9 10 1 1-4 family residential 7 29 36 4 Bankcard and other revolving plans — — — — Total consumer loans 8 38 46 5 Total $ 42 $ 109 $ 151 $ 33 54 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 30 $ 94 $ 124 $ 34 PPP 2 1 3 — Owner-occupied 37 20 57 3 Total commercial 69 115 184 37 Commercial real estate: Term 6 14 20 3 Total commercial real estate 6 14 20 3 Consume Home equity credit line 4 10 14 2 1-4 family residential 9 43 52 5 Bankcard and other revolving plans — 1 1 1 Total consumer loans 13 54 67 8 Total $ 88 $ 183 $ 271 $ 48 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. For the three and nine months ended September 30, 2022 and 2021, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. The amount of accrued interest receivables reversed from interest income during the periods presented is summarized by loan portfolio segment as follows: Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2022 2021 2022 2021 Commercial $ 3 $ 3 $ 11 $ 11 Commercial real estate 1 1 1 1 Consumer — — — — Total $ 4 $ 4 $ 12 $ 12 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as bankcard and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. 55 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Past due loans (accruing and nonaccruing) are summarized as follows: September 30, 2022 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 15,597 $ 26 $ 33 $ 59 $ 15,656 $ 17 $ 36 PPP 268 31 7 38 306 2 — Leasing 347 — — — 347 — — Owner-occupied 9,264 10 5 15 9,279 — 21 Municipal 4,223 1 — 1 4,224 — — Total commercial 29,699 68 45 113 29,812 19 57 Commercial real estate: Construction and land development 2,800 — — — 2,800 — — Term 9,536 5 15 20 9,556 — 5 Total commercial real estate 12,336 5 15 20 12,356 — 5 Consume Home equity credit line 3,323 7 1 8 3,331 — 6 1-4 family residential 6,829 7 16 23 6,852 — 19 Construction and other consumer real estate 973 — — — 973 — — Bankcard and other revolving plans 468 3 — 3 471 1 — Other 122 1 — 1 123 — — Total consumer loans 11,715 18 17 35 11,750 1 25 Total $ 53,750 $ 91 $ 77 $ 168 $ 53,918 $ 20 $ 87 December 31, 2021 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 13,822 $ 17 $ 28 $ 45 $ 13,867 $ 2 $ 91 PPP 1,813 35 7 42 1,855 5 — Leasing 327 — — — 327 — — Owner-occupied 8,712 7 14 21 8,733 — 42 Municipal 3,658 — — — 3,658 — — Total commercial 28,332 59 49 108 28,440 7 133 Commercial real estate: Construction and land development 2,757 — — — 2,757 — — Term 9,426 10 5 15 9,441 — 15 Total commercial real estate 12,183 10 5 15 12,198 — 15 Consume Home equity credit line 3,008 4 4 8 3,016 — 10 1-4 family residential 6,018 6 26 32 6,050 — 24 Construction and other consumer real estate 638 — — — 638 — — Bankcard and other revolving plans 393 2 1 3 396 1 — Other 112 1 — 1 113 — — Total consumer loans 10,169 13 31 44 10,213 1 34 Total $ 50,684 $ 82 $ 85 $ 167 $ 50,851 $ 8 $ 182 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is still not expected. 56 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk grading systems, which vary based on the size and type of credit risk exposure. The internal risk grades assigned to loans follow our definition of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. • Pass – A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention – A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard – A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful – A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were $ 1 million of loans classified as Doubtful at September 30, 2022, compared with none at December 31, 2021. We generally assign internal risk grades to commercial and commercial real estate (“CRE”) loans with commitments greater than $ 1 million, based on financial and statistical models, individual credit analysis, and loan officer experience and judgment. For these larger loans, we assign one of multiple risk grades within the Pass classification or one of the risk classifications described previously. We confirm our internal risk grades quarterly, or as soon as we identify information that affects the credit risk of the loan. For consumer loans and for commercial and CRE loans with commitments less than or equal to $ 1 million, we generally assign internal risk grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The amortized cost basis of loans and leases categorized by year of origination and by credit quality classifications as monitored by management are summarized as follows. 57 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES September 30, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Commerci Commercial and industrial Pass $ 2,640 $ 2,004 $ 941 $ 788 $ 535 $ 364 $ 7,626 $ 182 $ 15,080 Special Mention 19 2 11 11 1 42 88 — 174 Accruing Substandard 13 14 17 101 40 71 92 2 350 Nonaccrual 1 1 2 1 1 3 39 4 52 Total commercial and industrial 2,673 2,021 971 901 577 480 7,845 188 15,656 PPP Pass — 154 147 — — — — — 301 Nonaccrual — — 5 — — — — — 5 Total PPP — 154 152 — — — — — 306 Leasing Pass 97 76 50 74 22 23 — — 342 Special Mention — — — — — — — — — Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 97 76 50 74 22 28 — — 347 Owner-occupied Pass 1,778 2,346 1,173 909 675 1,827 162 85 8,955 Special Mention 3 8 8 11 7 18 1 — 56 Accruing Substandard 15 17 45 32 56 67 8 — 240 Nonaccrual — 1 2 4 5 15 1 — 28 Total owner-occupied 1,796 2,372 1,228 956 743 1,927 172 85 9,279 Municipal Pass 1,027 1,224 848 472 167 469 6 — 4,213 Special Mention — — — 8 — — — — 8 Accruing Substandard — — — — — 3 — — 3 Nonaccrual — — — — — — — — — Total municipal 1,027 1,224 848 480 167 472 6 — 4,224 Total commercial 5,593 5,847 3,249 2,411 1,509 2,907 8,023 273 29,812 Commercial real estate: Construction and land development Pass 375 814 621 128 2 2 706 85 2,733 Special Mention 1 1 — — — 25 — — 27 Accruing Substandard 17 1 — 22 — — — — 40 Nonaccrual — — — — — — — — — Total construction and land development 393 816 621 150 2 27 706 85 2,800 Term Pass 2,170 1,987 1,661 1,022 810 1,316 239 120 9,325 Special Mention — 21 — — 3 3 — — 27 Accruing Substandard 51 4 35 23 37 34 — — 184 Nonaccrual — — 2 4 1 13 — — 20 Total term 2,221 2,012 1,698 1,049 851 1,366 239 120 9,556 Total commercial real estate 2,614 2,828 2,319 1,199 853 1,393 945 205 12,356 58 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES September 30, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Consume Home equity credit line Pass — — — — — — 3,222 97 3,319 Special Mention — — — — — — 1 — 1 Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — 8 2 10 Total home equity credit line — — — — — — 3,232 99 3,331 1-4 family residential Pass 1,461 1,451 1,010 648 393 1,851 — — 6,814 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — 1 3 3 1 28 — — 36 Total 1-4 family residential 1,461 1,452 1,013 651 394 1,881 — — 6,852 Construction and other consumer real estate Pass 357 483 95 22 9 7 — — 973 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 357 483 95 22 9 7 — — 973 Bankcard and other revolving plans Pass — — — — — — 468 2 470 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 469 2 471 Other consumer Pass 58 34 13 10 5 3 — — 123 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 58 34 13 10 5 3 — — 123 Total consumer 1,876 1,969 1,121 683 408 1,891 3,701 101 11,750 Total loans $ 10,083 $ 10,644 $ 6,689 $ 4,293 $ 2,770 $ 6,191 $ 12,669 $ 579 $ 53,918 59 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2016 Prior Total loans Commerci Commercial and industrial Pass $ 2,561 $ 1,309 $ 1,179 $ 748 $ 354 $ 239 $ 6,594 $ 121 $ 13,105 Special Mention 4 17 9 12 1 3 128 1 175 Accruing Substandard 28 22 99 53 31 65 162 3 463 Nonaccrual 14 10 6 3 1 21 51 18 124 Total commercial and industrial 2,607 1,358 1,293 816 387 328 6,935 143 13,867 PPP Pass 1,317 535 — — — — — — 1,852 Nonaccrual — 3 — — — — — — 3 Total PPP 1,317 538 — — — — — — 1,855 Leasing Pass 46 74 70 64 42 19 — — 315 Special Mention — 1 4 1 1 — — — 7 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 46 75 74 65 43 24 — — 327 Owner-occupied Pass 2,420 1,366 1,028 868 695 1,663 177 69 8,286 Special Mention 10 13 19 32 18 50 3 3 148 Accruing Substandard 14 24 41 47 24 79 13 — 242 Nonaccrual — 4 14 9 9 20 1 — 57 Total owner-occupied 2,444 1,407 1,102 956 746 1,812 194 72 8,733 Municipal Pass 1,303 963 553 250 327 220 3 — 3,619 Special Mention — — — — — 25 — — 25 Accruing Substandard — 9 — — — 5 — — 14 Nonaccrual — — — — — — — — — Total municipal 1,303 972 553 250 327 250 3 — 3,658 Total commercial 7,717 4,350 3,022 2,087 1,503 2,414 7,132 215 28,440 Commercial real estate: Construction and land development Pass 640 736 515 94 24 2 650 64 2,725 Special Mention — — 1 — — — — — 1 Accruing Substandard — 3 28 — — — — — 31 Nonaccrual — — — — — — — — — Total construction and land development 640 739 544 94 24 2 650 64 2,757 Term Pass 2,407 1,765 1,491 1,066 529 1,401 239 179 9,077 Special Mention 22 39 10 17 8 25 — 4 125 Accruing Substandard 9 9 44 77 14 64 — 2 219 Nonaccrual — 1 5 1 — 13 — — 20 Total term 2,438 1,814 1,550 1,161 551 1,503 239 185 9,441 Total commercial real estate 3,078 2,553 2,094 1,255 575 1,505 889 249 12,198 60 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2016 Prior Total loans Consume Home equity credit line Pass — — — — — — 2,903 96 2,999 Special Mention — — — — — — 1 — 1 Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 7 7 14 Total home equity credit line — — — — — — 2,913 103 3,016 1-4 family residential Pass 1,391 1,021 728 484 681 1,691 — — 5,996 Special Mention — — — — — — — — — Accruing Substandard — — 1 — — 1 — — 2 Nonaccrual — 3 3 3 9 34 — — 52 Total 1-4 family residential 1,391 1,024 732 487 690 1,726 — — 6,050 Construction and other consumer real estate Pass 295 232 73 27 4 7 — — 638 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 295 232 73 27 4 7 — — 638 Bankcard and other revolving plans Pass — — — — — — 391 3 394 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — 1 — 1 Total bankcard and other revolving plans — — — — — — 393 3 396 Other consumer Pass 58 23 17 9 4 2 — — 113 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 58 23 17 9 4 2 — — 113 Total consumer 1,744 1,279 822 523 698 1,735 3,306 106 10,213 Total loans $ 12,539 $ 8,182 $ 5,938 $ 3,865 $ 2,776 $ 5,654 $ 11,327 $ 570 $ 50,851 Modified and Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are considered TDRs. For further discussion of our policies and processes regarding TDRs, see Note 6 of our 2021 Form 10-K. 61 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Information on TDRs, including the amortized cost on an accruing and nonaccruing basis by loan class and modification type is summarized in the following schedul September 30, 2022 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 1 $ 9 $ — $ — $ 9 $ 30 $ 49 Owner-occupied 1 6 — 8 13 12 40 Municipal — 8 — — — — 8 Total commercial 2 23 — 8 22 42 97 Commercial real estate: Term 1 27 — 27 28 1 84 Total commercial real estate 1 27 — 27 28 1 84 Consume Home equity credit line — 1 5 — — 1 7 1-4 family residential 2 1 2 — — 13 18 Total consumer loans 2 2 7 — — 14 25 Total accruing 5 52 7 35 50 57 206 Nonaccruing Commerci Commercial and industrial 1 — — — 6 2 9 Owner-occupied 4 — — — — 4 8 Total commercial 5 — — — 6 6 17 Commercial real estate: Term — — — 11 — 4 15 Total commercial real estate — — — 11 — 4 15 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 1 4 6 Total consumer loans — 1 1 — 1 4 7 Total nonaccruing 5 1 1 11 7 14 39 Total $ 10 $ 53 $ 8 $ 46 $ 57 $ 71 $ 245 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. 62 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 19 $ 1 $ — $ — $ 4 $ 7 $ 31 Owner-occupied 5 4 — 8 14 12 43 Municipal — 10 — — — — 10 Total commercial 24 15 — 8 18 19 84 Commercial real estate: Term 1 29 — 27 41 8 106 Total commercial real estate 1 29 — 27 41 8 106 Consume Home equity credit line — 1 5 — — 2 8 1-4 family residential 5 1 2 — 1 14 23 Total consumer loans 5 2 7 — 1 16 31 Total accruing 30 46 7 35 60 43 221 Nonaccruing Commerci Commercial and industrial 1 4 — 2 8 49 64 Owner-occupied 5 — — 2 — 13 20 Total commercial 6 4 — 4 8 62 84 Commercial real estate: Term — — — 11 2 3 16 Total commercial real estate — — — 11 2 3 16 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 3 — 4 Total consumer loans — 1 1 — 3 — 5 Total nonaccruing 6 5 1 15 13 65 105 Total $ 36 $ 51 $ 8 $ 50 $ 73 $ 108 $ 326 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. Unfunded lending commitments on TDRs totaled $ 6 million and $ 10 million at September 30, 2022 and December 31, 2021, respectively. The total amortized cost of all TDRs in which interest rates were modified below market was $ 60 million at September 30, 2022 and $ 100 million at December 31, 2021. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the three and nine months ended September 30, 2022 and 2021 was not significant. On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. 63 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amortized cost of TDRs that had a payment default during the three and nine months ended September 30, 2022, which were still in default at period end, and were within 12 months or less of being modified as TDRs was approximately $ 13 million for both periods, and $ 2 million and $ 5 million for the three and nine months ended September 30, 2021, respectively. Collateral-Dependent Loans When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. Select information on loans for which the borrower is experiencing financial difficulties and repayment is expected to be provided substantially through the operation or sale of the underlying collateral, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: September 30, 2022 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 1 Corporate assets 8 % Owner-occupied 2 Land, Warehouse 39 % Commercial real estate: Term 3 Multi-family 80 % Consume Home equity credit line 1 Single family residential 14 % 1-4 family residential 2 Single family residential 37 % Total $ 9 December 31, 2021 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 27 Corporate assets, Single family residential 55 % Owner-occupied 11 Office building 40 % Commercial real estate: Term 2 Multi-family, Retail 28 % Consume Home equity credit line 5 Single family residential 45 % 1-4 family residential 2 Single family residential 35 % Total $ 47 1 The fair value is based on the most recent appraisal or other collateral evaluation . Foreclosed Residential Real Estate At September 30, 2022 and December 31, 2021, we did no t have any foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure was $ 11 million and $ 10 million for the same periods, respectively. 64 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives and Accounting Our primary objective for using derivatives is to manage risks, primarily interest rate risk. We use derivatives to manage volatility in interest income, interest expense, earnings, and capital by adjusting our interest rate sensitivity to minimize the impact of fluctuations in interest rates. Derivatives are used to stabilize forecasted interest income from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities as we consider advisable. We also assist clients with their risk management needs through the use of derivatives. For a more detailed discussion of the use of and accounting policies regarding derivative instruments, see Note 7 of our 2021 Form 10-K. Fair Value Hedges of Liabilities – At September 30, 2022, we had one receive-fixed interest rate swap with a notional amount of $ 500 million designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converts the interest on our fixed-rate debt to floating. During the third quarter of 2022, derivatives designated as fair value hedges of debt decreased in value by $ 25 million, which was offset by changes in the fair value of the hedged debt instruments as shown in the schedules below. We had no cumulative unamortized debt basis adjustments related to previously terminated fair value hedges of debt at September 30, 2022. Fair Value Hedges of Assets – At September 30, 2022, we had pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 1.2 billion designated as fair value hedges of certain AFS securities. These swaps effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. During the third quarter of 2022, derivatives designated as fair value hedges of fixed-rate AFS securities increased in value by $ 67 million, which was offset by changes in value of the hedged securities, as shown in the schedules below. At September 30, 2022, we had $ 10 million of unamortized basis adjustments to AFS securities from previously designated fair value hedges. Cash Flow Hedges – At September 30, 2022, we had $ 7.4 billion notional amount of receive-fixed interest rate swaps designated as cash flow hedges of pools of floating-rate commercial loans. During the quarter, our cash flow hedge portfolio decreased in value by $ 172 million, which was recorded in AOCI. The amounts deferred in AOCI are reclassified into earnings in the periods in which the hedged interest receipts occur (i.e., when the hedged forecasted transactions affect earnings). Collateral and Credit Risk Exposure to credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred as a result of counterparty nonperformance. For a more detailed discussion of collateral and credit risk related to our derivative contracts, see Note 7 of our 2021 Form 10-K. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position at a given balance sheet date. Certain of these derivative contracts contain credit-risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit-risk-related feature were triggered, such as a downgrade of our credit rating. However, in past situations, not all counterparties have demanded that additional collateral be pledged when provided for by the contractual terms. At September 30, 2022, the fair value of our derivative liabilities was $ 491 million, for which we were required to pledge cash collateral of $ 143 million in the normal course of business. If our credit rating were downgraded one notch by either Standard & Poor’s (“S&P”) or Moody’s at September 30, 2022, there would likely be less than $ 1 million of additional collateral required to be pledged. 65 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Derivative Amounts Certain information with respect to notional amounts and recorded gross fair values at September 30, 2022 and December 31, 2021, and the related gain (loss) of derivative instruments is summarized as follows: September 30, 2022 December 31, 2021 Notional amount Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Receive-fixed interest rate swaps $ 7,433 $ — $ 2 $ 6,883 $ — $ — Fair value hed Debt hed Receive-fixed interest rate swaps 500 — — 500 — — Asset hed Pay-fixed interest rate swaps 1,228 83 — 479 10 — Total derivatives designated as hedging instruments 9,161 83 2 7,862 10 — Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives 1 6,931 1 483 6,587 192 36 Offsetting interest rate derivatives 2 6,931 501 1 6,587 38 197 Other interest rate derivatives 905 1 — 1,286 6 1 Foreign exchange derivatives 432 6 5 288 3 2 Total derivatives not designated as hedging instruments 15,199 509 489 14,748 239 236 Total derivatives $ 24,360 $ 592 $ 491 $ 22,610 $ 249 $ 236 1 Customer-facing interest rate derivatives include a net credit valuation adjustment (“CVA”) of $ 17 million, reducing the fair value of the liability at September 30, 2022, and $ 3 million, reducing the fair value of the asset at December 31, 2021. These adjustments are required to reflect both our nonperformance risk and that of the respective counterparties. 2 The fair value amounts for these derivatives do not include the settlement amounts for those trades that are centrally cleared. Once the settlement amounts with the clearing houses are included, the total derivative fair values would be the followin September 30, 2022 December 31, 2021 (In millions) Other assets Other liabilities Other assets Other liabilities Offsetting interest rate derivatives $ 204 $ 1 $ 8 $ 12 The amount of derivative gains (losses) from cash flow and fair value hedges that was deferred in other comprehensive income (“OCI”) or recognized in earnings for the nine months ended September 30, 2022 and 2021 is shown in the schedules below. Three Months Ended September 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — Interest rate swaps ( 183 ) ( 11 ) — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2, 3 — — — Fair value hedges of assets: Pay-fixed interest rate swaps — — 1 Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 183 ) $ ( 11 ) $ — 66 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 2 $ — Interest rate swaps ( 427 ) 7 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 2 Basis amortization on terminated hedges 2, 3 — — 1 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 427 ) $ 9 $ 2 Three Months Ended September 30, 2021 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 3 $ — Interest rate swaps 4 13 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 2 Basis amortization on terminated hedges 2, 3 — — 3 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ 4 $ 16 $ 4 67 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2021 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 8 $ — Interest rate swaps ( 5 ) 38 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 6 Basis amortization on terminated hedges 2, 3 — — 9 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 2 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 5 ) $ 46 $ 13 1 For the 12 months following September 30, 2022, we estimate that $ 173 million of losses will be reclassified from AOCI into interest income, compared with an estimate of $ 42 million of gains as of September 30, 2021. 2 Adjustment to interest expense resulting from the amortization of the debt basis adjustment on fixed-rate debt previously hedged by terminated receive-fixed interest rate. 3 There was no cumulative unamortized basis adjustment from previously terminated or redesignated fair value debt hedges and $ 10 million of terminated fair value asset hedges at September 30, 2022, compared with $ 2 million and $ 7 million as of September 30, 2021, respectively. The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) Three Months Ended September 30, 2022 Nine Months Ended September 30, 2022 Three Months Ended September 30, 2021 Nine Months Ended September 30, 2021 Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives $ ( 227 ) $ ( 638 ) $ ( 5 ) $ ( 100 ) Offsetting interest rate derivatives 238 680 12 129 Other interest rate derivatives — — 3 ( 7 ) Foreign exchange derivatives 8 21 6 17 Total derivatives not designated as hedging instruments $ 19 $ 63 $ 16 $ 39 The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Three Months Ended September 30, 2022 Three Months Ended September 30, 2021 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ ( 25 ) $ 25 $ — $ ( 4 ) $ 4 $ — Assets: Pay-fixed interest rate swaps 1, 2 67 ( 67 ) — 4 ( 4 ) — 68 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Gain/(loss) recorded in income Nine Months Ended September 30, 2022 Nine Months Ended September 30, 2021 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ ( 75 ) $ 75 $ — $ ( 27 ) $ 27 $ — Assets: Pay-fixed interest rate swaps 1, 2 217 ( 217 ) — 27 ( 27 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt and fixed-rate AFS securities. Gains and losses were recorded in net interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) 1 Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged item (In millions) September 30, 2022 December 31, 2021 September 30, 2022 December 31, 2021 September 30, 2022 December 31, 2021 Long-term fixed-rate debt $ ( 500 ) $ ( 500 ) $ ( 432 ) $ ( 507 ) $ 68 $ ( 7 ) Fixed-rate AFS securities 1,228 479 969 435 ( 260 ) ( 44 ) 1 Carrying amounts displayed above exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 8 . LEASES We have operating and finance leases for branches, corporate offices, and data centers. At September 30, 2022, we had 416 branches, of which 275 are owned and 141 are leased. We lease our headquarters in Salt Lake City, Utah. The remaining maturities of our lease commitments range from the year 2022 to 2062 , and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “ Other assets ,” and “ Premises, equipment and software, net ,” respectively. The corresponding liabilities for those leases are presented in “ Other liabilities ,” and “ Long-term debt .” For more information about our lease policies, see Note 8 of our 2021 Form 10-K. The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate: (Dollar amounts in millions) September 30, 2022 December 31, 2021 Operating leases ROU assets, net of amortization $ 183 $ 195 Lease liabilities 209 222 Financing leases ROU assets, net of amortization 4 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.5 8.5 Finance leases 17.6 18.3 Weighted average discount rate Operating leases 2.8 % 2.8 % Finance leases 3.1 % 3.1 % 69 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Additional information related to lease expense is presented be Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2022 2021 2022 2021 Lease expense: Operating lease expense $ 11 $ 12 $ 35 $ 35 Other expenses associated with operating leases 1 13 12 38 37 Total lease expense $ 24 $ 24 $ 73 $ 72 Related cash disbursements from operating leases $ 12 $ 13 $ 37 $ 38 1 Other expenses primarily relate to property taxes and building and property maintenance. ROU assets related to new leases totaled $ 5 million at September 30, 2022 and $ 1 million at December 31, 2021. Total contractual undiscounted lease payments for operating lease liabilities are summarized in the following schedule by expected due date: (In millions) Total undiscounted lease payments 2022 1 $ 13 2023 47 2024 38 2025 28 2026 24 Thereafter 92 Total $ 242 1 Contractual maturities for the three months remaining in 2022. We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 3 million for both the third quarter of 2022 and 2021, and $ 10 million for both the first nine months of 2022 and 2021. We originated equipment leases, considered to be sales-type leases or direct financing leases, totaling $ 347 million and $ 327 million at September 30, 2022 and December 31, 2021, respectively. We recorded income of $ 3 million on these leases for both the third quarter of 2022 and 2021, and $ 9 million for both the first nine months of 2022 and 2021. 9. LONG-TERM DEBT AND SHAREHOLDERS’ EQUITY Long-Term Debt The long-term debt carrying values in the following schedule represent the par value of the debt, adjusted for any unamortized premium or discount, unamortized debt issuance costs, and basis adjustments for interest rate swaps designated as fair value hedges. LONG-TERM DEBT (In millions) September 30, 2022 December 31, 2021 Amount change Percent change Subordinated notes $ 515 $ 590 $ ( 75 ) ( 13 ) % Senior notes 128 418 ( 290 ) ( 69 ) Finance lease obligations 4 4 — — Total $ 647 $ 1,012 $ ( 365 ) ( 36 ) % The decrease in long-term debt was primarily due to the redemption of $ 290 million of the 4-year , 3.35 % senior notes during the first quarter of 2022. 70 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Shareholders' Equity Our common stock is traded on the National Association of Securities Dealers Automated Quotations (“NASDAQ”) Global Select Market. At September 30, 2022, there were 149.6 million shares of $ 0.001 par value common stock outstanding. Common stock and additional paid-in capital totaled $ 1.8 billion at September 30, 2022, which decreased $ 129 million, or 7 %, from December 31, 2021, primarily due to common stock repurchases. During the first nine months of 2022, we repurchased 2.6 million common shares outstanding for $ 150 million at an average price of $ 58.04 per share. Accumulated other comprehensive income decreased to a loss of $ 3.1 billion at September 30, 2022, primarily due to decreases in the fair value of fixed-rate available-for-sale securities as a result of changes in interest rates. Changes in AOCI by component are as follows: (In millions) Net unrealized gains/(losses) on investment securities Net unrealized gains/(losses) on derivatives and other Pension and post-retirement Total Nine Months Ended September 30, 2022 Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) OCI (loss) before reclassifications, net of tax ( 2,729 ) ( 324 ) — ( 3,053 ) Amounts reclassified from AOCI, net of tax — ( 7 ) — ( 7 ) Other comprehensive income (loss) ( 2,729 ) ( 331 ) — ( 3,060 ) Balance at September 30, 2022 $ ( 2,807 ) $ ( 331 ) $ ( 2 ) $ ( 3,140 ) Income tax benefit included in OCI (loss) $ ( 884 ) $ ( 107 ) $ — $ ( 991 ) Nine Months Ended September 30, 2021 Balance at December 31, 2020 $ 258 $ 69 $ ( 2 ) $ 325 OCI (loss) before reclassifications, net of tax ( 225 ) ( 1 ) — ( 226 ) Amounts reclassified from AOCI, net of tax — ( 35 ) — ( 35 ) Other comprehensive income (loss) ( 225 ) ( 36 ) — ( 261 ) Balance at September 30, 2021 $ 33 $ 33 $ ( 2 ) $ 64 Income tax benefit included in OCI (loss) $ ( 73 ) $ ( 12 ) $ — $ ( 85 ) Amounts reclassified from AOCI 1 Statement of income (SI) (In millions) Three Months Ended September 30, Nine Months Ended September 30, Details about AOCI components 2022 2021 2022 2021 Affected line item Net unrealized gains (losses) on derivative instruments $ ( 11 ) $ 16 $ 9 $ 46 SI Interest and fees on loans Income tax expense (benefit) ( 3 ) 4 2 11 Amounts reclassified from AOCI $ ( 8 ) $ 12 $ 7 $ 35 1 Positive reclassification amounts indicate increases to earnings in the income statement. 71 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 10. COMMITMENTS, GUARANTEES, AND CONTINGENT LIABILITIES Commitments and Guarantees Off-balance sheet financial obligations used to meet the financing needs of our customers include the followin (In millions) September 30, 2022 December 31, 2021 Unfunded lending commitments 1 $ 28,959 $ 25,797 Standby letters of cr Financial 586 597 Performance 186 245 Commercial letters of credit 12 22 Total unfunded commitments $ 29,743 $ 26,661 1 Net of participations. Our 2021 Form 10-K contains further information about these commitments and guarantees including their terms and collateral requirements. Legal Matters We are subject to litigation in court and arbitral proceedings, as well as investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. In the third quarter of 2022, we were subject to the following material litigation or governmental inquiri • two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the Bank who filed for bankruptcy protection in 2017. The cases are in early phases, with initial motion practice and discovery underway in the Lifescan case. Trial has not been scheduled in either case. • Five civil class action cases have been filed against us by the same plaintiffs’ attorney, seeking to hold the Bank liable for practices relating to, and disclosures in, its deposit agreement pertaining to fees. Three of the five cases have been dismissed, and the following two cases remain pending and are in early phases of litigati Sipple v. Zions Bancorporation, N.A. was brought against us in the District Court of Clark County, Nevada in February 2021 with respect to foreign transaction fees. C hristensen v. Zions Bancorporation, N.A. was brought against us in California state court in November 2021 and removed to federal court in the Southern District of California in January 2022. • In addition, two class action lawsuits, Evans v. CB&T, and Gregory, et. al. v. Zions Bancorporation , were settled in principle earlier in 2022. The parties to those cases are undertaking the procedural and administrative actions, including court approvals of the settlements, necessary to complete the settlements. There can be no assurance that the proposed settlements will receive court approvals or that the conditions to settlements will be met. If completed, these settlements are not expected to have a significant financial impact on the Bank. 72 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At least quarterly, we review outstanding and new legal matters, utilizing then available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at September 30, 2022, we estimated that the aggregate range of reasonably possible losses for those matters to be from $ 0 million to roughly $ 10 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments and actual outcomes will differ from our estimates. These differences may be material. 11. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which was approximately 78 % of our total revenue in the third quarter of 2022. Only noninterest income is considered to be revenue from contracts with customers in scope of ASC 606. For more information about our revenue recognition from contracts, see Note 17 of our 2021 Form 10-K. 73 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Disaggregation of Revenue The schedule below presents net revenue by our operating business segments for the three months ended September 30, 2022 and 2021. Certain prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 13 $ 12 $ 7 $ 7 $ 12 $ 10 Card fees 14 15 5 4 8 8 Retail and business banking fees 5 6 3 3 4 4 Capital markets and foreign exchange fees — — — — — — Wealth management fees 5 5 1 2 4 3 Other customer-related fees 2 2 2 1 2 2 Total noninterest income from contracts with customers (ASC 606) 39 40 18 17 30 27 Other noninterest income (non-ASC 606 customer-related) 4 4 9 6 11 10 Total customer-related noninterest income 43 44 27 23 41 37 Other noncustomer-related noninterest income 1 ( 1 ) 1 2 — — Total noninterest income 44 43 28 25 41 37 Net interest income 197 161 154 135 137 117 Total net revenue $ 241 $ 204 $ 182 $ 160 $ 178 $ 154 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 2 $ 2 $ 3 $ 3 $ 2 $ 2 Card fees 4 3 4 3 2 2 Retail and business banking fees 2 2 3 3 1 1 Capital markets and foreign exchange fees — — — — — — Wealth management fees 1 1 1 1 — — Other customer-related fees — — — — 1 1 Total noninterest income from contracts with customers (ASC 606) 9 8 11 10 6 6 Other noninterest income (non-ASC 606 customer-related) 2 4 1 3 2 2 Total customer-related noninterest income 11 12 12 13 8 8 Other noncustomer-related noninterest income 1 1 — — — — Total noninterest income 12 13 12 13 8 8 Net interest income 64 50 50 38 41 34 Total net revenue $ 76 $ 63 $ 62 $ 51 $ 49 $ 42 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 1 $ 1 $ — $ ( 3 ) $ 40 $ 34 Card fees — — 1 — 38 35 Retail and business banking fees — — ( 1 ) 1 17 20 Capital markets and foreign exchange fees — — 1 1 1 1 Wealth management fees — — — — 12 12 Other customer-related fees — — 8 8 15 14 Total noninterest income from contracts with customers (ASC 606) 1 1 9 7 123 116 Other noninterest income (non-ASC 606 customer-related) 1 — 3 6 33 35 Total customer-related noninterest income 2 1 12 13 156 151 Other noncustomer-related noninterest income — — 6 ( 14 ) 9 ( 12 ) Total noninterest income 2 1 18 ( 1 ) 165 139 Net interest income 17 12 3 8 663 555 Total net revenue $ 19 $ 13 $ 21 $ 7 $ 828 $ 694 74 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the noninterest income and net revenue by operating segments for the nine months ended September 30, 2022 and 2021: Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 40 $ 34 $ 21 $ 19 $ 33 $ 30 Card fees 41 42 15 12 24 21 Retail and business banking fees 17 17 10 9 12 11 Capital markets and foreign exchange fees — — — — — — Wealth management fees 17 15 3 3 12 9 Other customer-related fees 6 5 4 3 5 5 Total noninterest income from contracts with customers (ASC 606) 121 113 53 46 86 76 Other noninterest income (non-ASC 606 customer-related) 15 16 23 24 33 27 Total customer-related noninterest income 136 129 76 70 119 103 Other noncustomer-related noninterest income 3 ( 1 ) 3 4 — 1 Total noninterest income 139 128 79 74 119 104 Net interest income 523 476 425 398 369 348 Total net revenue $ 662 $ 604 $ 504 $ 472 $ 488 $ 452 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 7 $ 5 $ 8 $ 7 $ 6 $ 5 Card fees 11 8 11 9 7 5 Retail and business banking fees 7 7 8 8 3 3 Capital markets and foreign exchange fees — — — — — — Wealth management fees 2 2 4 3 1 1 Other customer-related fees 1 1 1 — 2 2 Total noninterest income from contracts with customers (ASC 606) 28 23 32 27 19 16 Other noninterest income (non-ASC 606 customer-related) 4 10 5 11 5 8 Total customer-related noninterest income 32 33 37 38 24 24 Other noncustomer-related noninterest income 2 2 — — — — Total noninterest income 34 35 37 38 24 24 Net interest income 170 154 126 111 109 102 Total net revenue $ 204 $ 189 $ 163 $ 149 $ 133 $ 126 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 1 $ 1 $ 2 $ ( 1 ) $ 118 $ 100 Card fees 1 1 — — 110 98 Retail and business banking fees — — ( 1 ) — 56 55 Capital markets and foreign exchange fees — — 3 4 3 4 Wealth management fees — — — 1 39 34 Other customer-related fees 1 1 25 21 45 38 Total noninterest income from contracts with customers (ASC 606) 3 3 29 25 371 329 Other noninterest income (non-ASC 606 customer-related) 2 1 3 ( 3 ) 90 94 Total customer-related noninterest income 5 4 32 22 461 423 Other noncustomer-related noninterest income — — 10 84 18 90 Total noninterest income 5 4 42 106 479 513 Net interest income 46 40 32 26 1,800 1,655 Total net revenue $ 51 $ 44 $ 74 $ 132 $ 2,279 $ 2,168 75 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is typically not significant. 12. INCOME TAXES The effective income tax rate was 21.9 % for the third quarter of 2022, compared with 22.8 % for the same prior year period. The effective tax rates for the first nine months of 2022 and 2021 were 21.4 % and 22.2 %, respectively. These rates were reduced by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the non-deductibility of Federal Deposit Insurance Corporation (“FDIC”) premiums, certain executive compensation plans, and other fringe benefits. The tax rate for 2022 was lower than the tax rate for the same prior year period, primarily as a result of the proportional increase in nontaxable items and tax credits relative to pre-tax book income. At September 30, 2022, we had a net deferred tax asset (“DTA”) totaling $ 1.1 billion , compared with $ 96 million at December 31, 2021. On the consolidated balance sheet, the net DTA is included in “Other assets.” The increase in the net DTA was driven largely by the increase in unrealized losses in AOCI associated with investment securities and derivative instruments. There was no valuation allowance at September 30, 2022 or December 31, 2021. We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more-likely-than-not criteria that such assets will be realized. This evaluation includes, but is not limited to (1) available carryback potential to prior tax years; (2) potential future reversals of existing deferred tax liabilities, which historically have a reversal pattern generally consistent with DTAs; (3) potential tax planning strategies; and (4) future projected taxable income. Based on this evaluation, we concluded that a valuation allowance was not required at September 30, 2022. 13. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: Three Months Ended September 30, Nine Months Ended September 30, (In millions, except shares and per share amounts) 2022 2021 2022 2021 Basic: Net income $ 217 $ 240 $ 623 $ 916 Less common and preferred dividends 68 68 199 197 Less impact from redemption of preferred stock — — — 3 Undistributed earnings 149 172 424 716 Less undistributed earnings applicable to nonvested shares 1 1 4 6 Undistributed earnings applicable to common shares 148 171 420 710 Distributed earnings applicable to common shares 61 61 176 172 Total earnings applicable to common shares $ 209 $ 232 $ 596 $ 882 Weighted average common shares outstanding (in thousands) 149,628 160,221 150,510 162,159 Net earnings per common share $ 1.40 $ 1.45 $ 3.96 $ 5.44 Dilut Total earnings applicable to common shares $ 209 $ 232 $ 596 $ 882 Weighted average common shares outstanding (in thousands) 149,628 160,221 150,510 162,159 Dilutive effect of stock options (in thousands) 164 259 256 301 Weighted average diluted common shares outstanding (in thousands) 149,792 160,480 150,766 162,460 Net earnings per common share $ 1.40 $ 1.45 $ 3.96 $ 5.43 76 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per sh Three Months Ended September 30, Nine Months Ended September 30, (In thousands) 2022 2021 2022 2021 Restricted stock and restricted stock units 1,245 1,358 1,274 1,382 Stock options 305 294 170 227 14. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, California Bank & Trust, Amegy Bank, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. The operating segment identified as “Other” includes certain non-bank financial service subsidiaries, centralized back-office functions, and eliminations of transactions between segments. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal funds transfer pricing (“FTP”) allocation system and process to report results of operations for business segments, which is continually refined. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. At September 30, 2022, Zions Bank operated 95 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. CB&T operated 80 branches in California. Amegy operated 75 branches in Texas. NBAZ operated 56 branches in Arizona. NSB operated 46 branches in Nevada. Vectra operated 34 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. In July 2022, NSB completed the purchase of three Northern Nevada branches and their associated deposit, credit card, and loan accounts. We acquired approximately $ 430 million in deposits and $ 95 million in commercial and consumer loans at the time of the purchase. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. 77 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the three months ended September 30, 2022 and 2021: Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 197 $ 161 $ 154 $ 135 $ 137 $ 117 Provision for credit losses 35 ( 10 ) 19 ( 12 ) 15 ( 10 ) Net interest income after provision for credit losses 162 171 135 147 122 127 Noninterest income 44 43 28 25 41 37 Noninterest expense 125 115 86 77 90 83 Income (loss) before income taxes $ 81 $ 99 $ 77 $ 95 $ 73 $ 81 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 13,448 $ 12,985 $ 13,100 $ 12,672 $ 12,176 $ 11,865 Total average deposits 23,634 24,399 16,096 15,900 15,531 15,925 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 64 $ 50 $ 50 $ 38 $ 41 $ 34 Provision for credit losses — ( 5 ) 1 ( 5 ) 2 ( 4 ) Net interest income after provision for credit losses 64 55 49 43 39 38 Noninterest income 12 13 12 13 8 8 Noninterest expense 44 38 39 34 31 28 Income (loss) before income taxes $ 32 $ 30 $ 22 $ 22 $ 16 $ 18 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 4,913 $ 4,689 $ 3,052 $ 2,892 $ 3,722 $ 3,339 Total average deposits 8,090 7,259 7,479 6,870 4,100 4,362 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 17 $ 12 $ 3 $ 8 $ 663 $ 555 Provision for credit losses — 1 ( 1 ) ( 1 ) 71 ( 46 ) Net interest income after provision for credit losses 17 11 4 9 592 601 Noninterest income 2 1 18 ( 1 ) 165 139 Noninterest expense 6 5 58 49 479 429 Income (loss) before income taxes $ 13 $ 7 $ ( 36 ) $ ( 41 ) $ 278 $ 311 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,633 $ 1,542 $ 909 $ 867 $ 52,953 $ 50,851 Total average deposits 1,585 1,552 948 1,144 77,463 77,411 78 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the nine months ended September 30, 2022 and 2021: Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 523 $ 476 $ 425 $ 398 $ 369 $ 348 Provision for credit losses 35 ( 29 ) 40 ( 81 ) ( 7 ) ( 108 ) Net interest income after provision for credit losses 488 505 385 479 376 456 Noninterest income 139 128 79 74 119 104 Noninterest expense 373 346 254 233 264 251 Income (loss) before income taxes $ 254 $ 287 $ 210 $ 320 $ 231 $ 309 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 13,130 $ 13,318 $ 12,948 $ 12,924 $ 11,970 $ 12,337 Total average deposits 24,920 23,001 16,407 15,564 16,062 15,179 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 170 $ 154 $ 126 $ 111 $ 109 $ 102 Provision for credit losses 2 ( 29 ) 1 ( 35 ) 8 ( 15 ) Net interest income after provision for credit losses 168 183 125 146 101 117 Noninterest income 34 35 37 38 24 24 Noninterest expense 125 112 113 106 90 85 Income (loss) before income taxes $ 77 $ 106 $ 49 $ 78 $ 35 $ 56 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 4,859 $ 4,914 $ 2,929 $ 3,085 $ 3,550 $ 3,422 Total average deposits 8,164 6,949 7,487 6,500 4,195 4,344 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 46 $ 40 $ 32 $ 26 $ 1,800 $ 1,655 Provision for credit losses — ( 3 ) — ( 1 ) 79 ( 301 ) Net interest income after provision for credit losses 46 43 32 27 1,721 1,956 Noninterest income 5 4 42 106 479 513 Noninterest expense 18 16 170 143 1,407 1,292 Income (loss) before income taxes $ 33 $ 31 $ ( 96 ) $ ( 10 ) $ 793 $ 1,177 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,601 $ 1,573 $ 910 $ 845 $ 51,897 $ 52,418 Total average deposits 1,571 1,484 1,164 1,500 79,970 74,521 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Interest rate and market risks are among the most significant risks regularly undertaken by us, and they are closely monitored as previously discussed. A discussion regarding our management of interest rate and market risk is included in the section entitled “Interest Rate and Market Risk Management” in this Form 10-Q. 79 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 4. CONTROLS AND PROCEDURES Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures at September 30, 2022. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at September 30, 2022. There were no changes in our internal control over financial reporting during the third quarter of 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The information contained in Note 10 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 1A. RISK FACTORS The following risk factors supplement the risk factors disclosed in our 2021 Form 10-K. We could be negatively affected by adverse economic conditions Adverse economic conditions pose significant risks to our business, including our loan and investment portfolios, capital levels, results of operations, and financial condition. Increasing indicators of a slowing economy including negative GDP growth, rising interest rates, increased volatility in the financial markets, and uncertainty related to inflationary pressures, including related changes in monetary policies and actions, can increase these risks and lead to lower demand for loans, higher credit losses, decreased values for our investment securities, and lower fee income, among other negative effects. The Russian invasion of Ukraine and the retaliatory measures imposed by the U.S., U.K., European Union, and other countries, and the responses of Russia to such measures, have caused significant disruptions to domestic and foreign economies. The Russia and Ukraine conflict has created new risks for global markets, trade, economic conditions, cybersecurity, and similar concerns. For example, the conflict could affect the availability and price of commodities and products, adversely affecting supply chains and increasing inflationary pressures; the value of currencies, interest rates, and other components of financial markets; and lead to increased risks of events such as cyberattacks that could result in severe costs and disruptions to governmental entities and companies and their operations. The impact of the conflict and retaliatory measures is continually evolving and cannot be predicted with certainty. It is likely that the conflict will continue to affect the global political order and global and domestic markets for a substantial period of time, regardless of when the conflict itself ends. While these events have not materially interrupted our operations, these or future developments resulting from the Russia and Ukraine conflict, such as cyberattacks on the U.S., us, our customers, or our suppliers, could make it difficult to conduct business activities for us, our customers, or our vendors. 80 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS The following schedule summarizes our share repurchases for the third quarter of 2022: SHARE REPURCHASES Period Total number of shares repurchased 1 Average price paid per share Total number of shares purchased as part of publicly announced plans or programs July — $ — — August 888,092 56.30 888,092 September — — — Third quarter 888,092 56.30 888,092 1 Includes common shares acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options under provisions of an employee share-based compensation plan . ITEM 6. EXHIBITS a. Exhibits Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 10.1 Ninth Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, effective April 1, 2022 (filed herewith). 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in Inline XBRL (i) the Consolidated Balance Sheets as of September 30, 2022 and December 31, 2021, (ii) the Consolidated Statements of Income for the three months ended September 30, 2022 and September 30, 2021 and the nine months ended September 30, 2022 and September 30, 2021, (iii) the Consolidated Statements of Comprehensive Income for the three months ended September 30, 2022 and September 30, 2021 and the nine months ended September 30, 2022 and September 30, 2021, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the three months ended September 30, 2022 and September 30, 2021 and the nine months ended September 30, 2022 and September 30, 2021, (v) the Consolidated Statements of Cash Flows for the nine months ended September 30, 2022 and September 30, 2021, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Quarterly Report on Form 10-Q, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. 81 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZIONS BANCORPORATION, NATIONAL ASSOCIATION /s/ Harris H. Simmons Harris H. Simmons, Chairman and Chief Executive Officer /s/ Paul E. Burdiss Paul E. Burdiss, Executive Vice President and Chief Financial Officer Date: November 3, 2022 82 |
ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses FINRA Financial Industry Regulatory Authority AFS Available-for-Sale Fintech Financial Technology Company ALCO Asset/Liability Committee FRB Federal Reserve Board ALLL Allowance for Loan and Lease Losses FTP Funds Transfer Pricing Amegy Amegy Bank, a division of Zions Bancorporation, National Association GAAP Generally Accepted Accounting Principles AMERIBOR American Interbank Offered Rate HECL Home Equity Credit Line AOCI Accumulated Other Comprehensive Income HTM Held-to-Maturity ASC Accounting Standards Codification IPO Initial Public Offering ASU Accounting Standards Update IRS Internal Revenue Service ATM Automated Teller Machine ISDA International Swaps and Derivative Association BOLI Bank-Owned Life Insurance KBW Keefe, Bruyette & Woods, Inc. bps Basis Points KRX KBW Regional Bank Index BSBY Bloomberg Short-Term Bank Yield LIBOR London Interbank Offered Rate CB&T California Bank & Trust, a division of Zions Bancorporation, National Association MD&A Management’s Discussion and Analysis CCAR Comprehensive Capital Analysis and Review Municipalities State and Local Governments CECL Current Expected Credit Loss NASDAQ National Association of Securities Dealers Automated Quotations CET1 Common Equity Tier 1 (Basel III) NAV Net Asset Value CFPB Consumer Financial Protection Bureau NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association CLTV Combined Loan-to-Value Ratio NIM Net Interest Margin CMC Capital Management Committee NM Not Meaningful CMT Constant Maturity Treasury NSB Nevada State Bank, a division of Zions Bancorporation, National Association COSO Committee of Sponsoring Organizations of the Treadway Commission OCC Office of the Comptroller of the Currency CRA Community Reinvestment Act OCI Other Comprehensive Income CRE Commercial Real Estate OREO Other Real Estate Owned CSA Credit Support Annex PCAOB Public Company Accounting Oversight Board CSV Cash Surrender Value PEI Private Equity Investment CVA Credit Valuation Adjustment PPNR Pre-provision Net Revenue Dodd-Frank Act Dodd-Frank Wall Street Reform and Consumer Protection Act PPP Paycheck Protection Program DTA Deferred Tax Asset ROC Risk Oversight Committee DTL Deferred Tax Liability ROU Right-of-Use EaR Earnings at Risk RULC Reserve for Unfunded Lending Commitments EPS Earnings per Share S&P Standard and Poor's ERM Enterprise Risk Management SBA U.S. Small Business Administration ERMC Enterprise Risk Management Committee SBIC Small Business Investment Company ESG Environmental, Social, and Governance SEC Securities and Exchange Commission ETO Enterprise and Technology Operations SOFR Secured Overnight Financing Rate EVE Economic Value of Equity at Risk TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association FAMC Federal Agricultural Mortgage Corporation, or “Farmer Mac” TDR Troubled Debt Restructuring FASB Financial Accounting Standards Board U.S. United States FCA Financial Conduct Authority USD United States Dollar FDIC Federal Deposit Insurance Corporation Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association FDICIA Federal Deposit Insurance Corporation Improvement Act VIE Variable Interest Entity FHLB Federal Home Loan Bank Zions Bank Zions Bank, a division of Zions Bancorporation, National Association 3 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES PART I FORWARD-LOOKING INFORMATION This annual report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. These forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although this list is not comprehensive, important factors that may cause material differences include the quality and composition of our loan and securities portfolios; changes in general industry and economic conditions, including inflation, economic slowdown, or other economic disruptions; changes in interest and reference rates; securities and capital markets behavior, including volatility and changes in market liquidity and our ability to raise capital; our ability to recruit and retain talent, including increased competition for qualified candidates as a result of expanded remote-work opportunities and increased compensation expenses; competitive pressures and other factors that may affect aspects of our business, such as pricing and demand for our products and services; our ability to complete projects and initiatives and execute on our strategic plans, manage our risks, and achieve our business objectives; our ability to provide adequate oversight of our suppliers or prevent inadequate performance by third parties upon whom we rely for the delivery of various products and services; our ability to develop and maintain technology, information security systems and controls designed to guard against fraud, cybersecurity, and privacy risks; changes and uncertainties in applicable laws, and fiscal, monetary, regulatory, trade, and tax policies; adverse media and other expressions of negative public opinion that may adversely affect our reputation and that of the banking industry generally; the effects of pandemics and other health emergencies, including the lingering effects of the COVID-19 pandemic that may affect our business, employees, customers, and communities, such as ongoing effects on availability and cost of labor; the effects of wars and geopolitical conflicts, and other local, national, or international disasters, crises, or conflicts that may occur in the future; natural disasters that may impact our and our customer's operations and business; and governmental and social responses to environmental, social, and governance issues, including those with respect to climate change. We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any of the forward-looking statements included herein to reflect future events or developments. ITEM 1. BUSINESS DESCRIPTION OF BUSINESS Zions Bancorporation, National Association (“Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) is a bank headquartered in Salt Lake City, Utah with annual net revenue (net interest income and noninterest income) of $3.2 billion in 2022, and total assets of approximately $90 billion at December 31, 2022. We provide a wide range of banking products and related services, primarily in the states of Arizona, California, Colorado, Idaho, Nevada, New Mexico, Oregon, Texas, Utah, Washington, and Wyoming. We had more than one million customers at year- 4 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES end 2022, served by 416 branches and various online, mobile, and digital offerings. We had 9,989 full-time equivalent employees at December 31, 2022. We conduct our operations primarily through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These affiliate banks comprise our primary business segments as referred to throughout this document. We emphasize local authority, responsibility, pricing, and customization of certain products that are designed to maximize customer satisfaction and strengthen community relations. Our affiliate banks are supported by an enterprise operating segment (referred to as the “Other” segment) that provides governance and risk management, allocates capital, establishes strategic objectives, and includes centralized technology, back-office functions, and certain lines of business not operated through our affiliate banks. For further information about our segments, see “Business Segment Results” on page 38 in Management's Discussion and Analysis (“MD&A”) and Note 22 of the Notes to Consolidated Financial Statements. We focus on serving our customers and communities. Our experienced bankers develop long-lasting relationships with our customers by providing competitive products and award-winning service. Building and sustaining these relationships is essential to understanding and meeting our customers’ needs. PRODUCTS AND SERVICES Some of the products and services we provide inclu • Commercial and small business banking. We serve a wide range of commercial customers, generally small- and medium-sized businesses. Products and services within our commercial business banking inclu ◦ Commercial and industrial lending and leasing ◦ Municipal and public finance services ◦ Cash management services ◦ Commercial card and merchant processing services ◦ Capital markets, syndication, and foreign exchange services • Commercial real estate lending. We provide lending products secured by commercial real estate to borrowers that inclu ◦ Owner-occupied, construction and land development, and term financing ◦ Residential development financing • Retail banking. We have a strong retail banking business with quality products and highly competitive online and mobile offerings. Our retail banking products and services inclu ◦ Residential mortgages ◦ Home equity lines of credit ◦ Personal lines of credit and installment consumer loans ◦ Depository account services ◦ Consumer cards ◦ Personal trust services • Wealth management. We offer various wealth management solutions to customers. Our planning-driven offerings, combined with high-touch service and sophisticated asset management capabilities, have resulted in continued growth in assets under management. Additional offerings to our wealth management customers inclu ◦ Investment management services ◦ Fiduciary and estate services ◦ Advanced business succession and estate planning services 5 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES COMPETITION We operate in a highly competitive environment. Our most direct competition for loans, deposits, and other banking services comes from other commercial banks, credit unions, and financial technology companies (“fintechs”). Some of these financial institutions do not have a physical presence in our market footprint, but solicit business via the internet and other means. We also compete with finance companies, mutual fund companies, insurance companies, brokerage firms, securities dealers, investment banking companies, other nontraditional lending and banking companies, and a variety of other types of companies. Some of our competitors may have fewer regulatory constraints, and some have lower cost structures or tax burdens. Our key differentiators include the quality of service delivered, our local community knowledge, convenience of branch and office locations, mobile and online banking functionality and other delivery methods, a wide range of products and services offered, and the overall relationship with our customers. We strive to compete effectively in all of these areas to remain successful. SUPERVISION AND REGULATION The banking and financial services business in which we engage is highly regulated. Such regulation is intended to promote the stability of banking and financial companies and to protect the interests of customers, depositors, and communities. In some cases, these regulations may not be aligned with, or intended to protect, the interests of our shareholders or creditors. Banking laws and regulations have given financial regulators expanded powers over many aspects of the financial services industry, which have reduced, and may continue to reduce, returns earned by shareholders. Furthermore, changes in applicable laws or regulations, and in their application by regulatory agencies cannot be predicted and may have a material effect on our business and results. General We are subject to the provisions of the National Bank Act and other statutes governing national banks, as well as the rules and regulations of the Office of the Comptroller of the Currency (“OCC”), the Consumer Financial Protection Bureau (“CFPB”), and the Federal Deposit Insurance Corporation (“FDIC”). We, as well as some of our subsidiaries, are also subject to regulation by other federal and state agencies. These regulatory agencies may exert considerable influence over our activities through their supervisory and examination roles. Our brokerage and investment advisory subsidiaries are regulated by the Securities and Exchange Commission (“SEC”), Financial Industry Regulatory Authority (“FINRA”), and state securities regulators. The National Bank Act Our corporate affairs are governed by the National Bank Act, and related regulations are administered by the OCC. With respect to securities matters, we are not subject to the Securities Act, but are subject to OCC regulations governing securities offerings. Our common stock and certain other securities are registered under the Exchange Act, which vests the OCC with the power to administer and enforce certain sections of the Exchange Act applicable to national banks, though we continue to make filings required by the Exchange Act with the SEC as a voluntary filer. These statutory and regulatory frameworks are not as well-developed as the corporate and securities law frameworks applicable to many other publicly held companies. The National Bank Act provides that under certain circumstances the common stock of a national bank is assessable, i.e., holders may be subject to a levy for more funds if so determined by the OCC. The OCC has confirmed that under the applicable provisions of the National Bank Act, assessability is limited to the par value of a national bank’s stock. Our common stock has a par value of $0.001. In addition, according to the OCC, it has not exercised its authority to levy assessments since 1933 and views the assessability authority as a mechanism for addressing capital deficiency that has long been overtaken by developments in statute and regulation, including supervisory and enforcement authorities requiring an institution to maintain capital at a particular level. Capital Standards – Basel Framework At December 31, 2022, we exceeded all capital adequacy requirements under the Basel III capital rules, which include certain risk-based capital and leverage ratio requirements prescribed by the OCC. The Basel III capital rules 6 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES define the components of capital and other factors, such as risk weights, affecting banking institutions’ regulatory capital ratios. The Basel III capital rules require us to maintain certain minimum capital ratios, as well as a 2.5% “capital conservation buffer,” which is designed to absorb losses during periods of economic stress, composed entirely of common equity Tier 1 (“CET1”), and in excess of the minimum risk-based capital ratios. The following schedule presents minimum capital ratio and capital conservation buffer requirements, compared with our capital ratios at December 31, 2022. Schedule 1 MINIMUM CAPITAL RATIO AND CAPITAL CONSERVATION BUFFER REQUIREMENTS December 31, 2022 Minimum capital requirement Capital conservation buffer Minimum capital ratio requirement with capital conservation buffer Current capital ratio CET1 to risk-weighted assets 4.5 % 2.5 % 7.0 % 9.8 % Tier 1 capital (i.e., CET1 plus additional Tier 1 capital) to risk-weighted assets 6.0 2.5 8.5 10.5 Total capital (i.e., Tier 1 capital plus Tier 2 capital) to risk-weighted assets 8.0 2.5 10.5 12.2 Tier 1 capital to average consolidated assets (known as the “Tier 1 leverage ratio”) 4.0 N/A 4.0 7.7 Financial institutions with a ratio of CET1 to risk-weighted assets above the minimum, but below the capital conservation buffer, face constraints on dividends, equity repurchases, and compensation based on the amount of the shortfall. The severity of the constraint depends on the amount of the shortfall and the institution’s “eligible retained income,” which is defined as four quarters of trailing net income, net of distributions and associated tax effects not already reflected in net income. For information about our capital ratios, see “Capital Management” on page 65 in MD&A. Capital Planning and Stress Testing We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions. Our recent internal stress test included hypothetical scenarios that reflected (1) high inflation, (2) increased losses on commercial loans due to inflation and supply chain disruptions, (3) declining commercial property values, (4) increased losses on consumer loans due to falling home prices, (5) rising unemployment, and (6) other current economic, financial, and social disruptions. The results of our stress test indicated that we would maintain capital ratios in excess of regulatory minimum and capital conservation buffer requirements throughout the nine-quarter horizon for the hypothetical stress test. Regulations promulgated under the Dodd-Frank Act require many banks to adhere to an annual Comprehensive Capital Analysis and Review (“CCAR”) process and stress testing administered by the Federal Reserve Board (“FRB”). We are not regulated by the FRB and therefore are not subject to this process. However, we use the FRB’s CCAR process, including published economic scenarios, to inform our stress testing activities. Liquidity We manage liquidity in accordance with Basel III liquidity requirements, and we utilize internal liquidity stress tests as our primary tool for establishing and managing liquidity guidelines including, but not limited to, holdings of investment securities and other liquid assets, levels of readily available contingency funding, concentrations of funding sources, and the maturity profile of liabilities. During the recent pandemic, our liquidity profile benefited from a significant influx of deposits, which was impacted by certain fiscal and monetary policy decisions. In 2022, with the withdrawal of such measures by the federal government, our deposit levels decreased; however, our liquidity profile remained above regulatory and internal Bank limits. We continue to actively manage our deposit base and associated deposit costs in response to the rising interest rate environment. 7 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Financial Privacy and Cybersecurity The federal banking regulators have enacted rules that limit the ability of banks and other financial institutions to disclose nonpublic information about consumers to unaffiliated third parties, including provisions of the Gramm-Leach-Bliley Act, which require financial institutions to disclose privacy policies to consumers and, in some circumstances, allow consumers to prevent disclosure of certain personal information to an unaffiliated third party. These regulations affect how consumer information is transmitted through diversified financial companies and conveyed to outside vendors. In addition, consumers may also prevent disclosure of certain information among affiliated companies that is assembled or used to determine eligibility for a product or service, such as that shown on consumer credit reports and asset and income information from applications. Consumers also have the option to direct banks and other financial institutions not to share information about transactions and experiences with affiliated companies for the purpose of marketing products or services. Federal law makes it a criminal offense, except in limited circumstances, to obtain or attempt to obtain customer information of a financial nature by fraudulent or deceptive means. State regulators have been increasingly active in implementing privacy and cybersecurity standards and regulations. During the past several years, a growing number of states, including those in which we conduct business, have enacted, or are considering enacting, regulations granting consumers enhanced privacy rights and control over personal information, establishing or modifying data breach notification requirements, and requiring certain financial institutions to implement detailed and prescriptive cybersecurity programs. Data and cybersecurity laws and regulations are evolving rapidly and remain a focus of state and federal regulators. For example, in 2022, the SEC proposed new cybersecurity disclosure rules for public companies. If the proposed rules are adopted, they may require changes in the way such companies disclose material cybersecurity events. These evolving laws and rules will continue to have an impact on our risk management practices. Prompt Corrective Action The Federal Deposit Insurance Corporation Improvement Act (“FDICIA”) requires each federal banking agency to take prompt corrective action to resolve identified problems of insured depository institutions, including, but not limited to, those that fall below one or more prescribed minimum capital ratios. Pursuant to FDICIA, the FDIC promulgated regulations defining the following five categories in which an insured depository institution will be placed, based on the level of its capital ratios: well-capitalized, adequately capitalized, under-capitalized, significantly under-capitalized, and critically under-capitalized. Under the prompt corrective action provisions of FDICIA as modified by the Basel III capital rules, an insured depository institution will generally be classified as well-capitalized if it has a CET1 ratio of at least 6.5%, a Tier 1 risk-based capital ratio of at least 8%, a total risk-based capital ratio of at least 10%, and a Tier 1 leverage ratio of at least 5%. An insured depository institution will generally be classified as under-capitalized if it has a CET1 ratio less than 4.5%, a Tier 1 risk-based capital ratio less than 6%, a total risk-based capital ratio less than 8%, and a Tier 1 leverage ratio less than 4%. An institution that is classified as well-capitalized, adequately capitalized, or under-capitalized, may be treated as though it were in the next lower capital category if the appropriate federal banking agency, after notice and opportunity for hearing, determines that an unsafe or unsound condition or an unsafe or unsound practice warrants such treatment. At each successive lower capital category, an insured depository institution is subject to more restrictions and prohibitions, including restrictions on growth, interest rates paid on deposits, the acceptance of brokered deposits, and restrictions or prohibitions on the payment of dividends. Furthermore, if a bank is classified in one of the under-capitalized categories, it is required to submit a capital restoration plan to the federal banking regulator. 8 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Other Regulations We are subject to a wide range of other requirements and restrictions contained in both federal and state laws. These regulations include, but are not limited to, the followin • Limitations on dividends payable to shareholders. Our ability to pay dividends on both our common and preferred stock is subject to regulatory restrictions. See Note 15 of the Notes to Consolidated Financial Statements for additional information. • Safety and soundness standards prescribed in the FDICIA, including standards related to internal controls, information systems, internal audit, loan documentation, credit underwriting, interest rate exposure, asset growth and compensation, as well as other operational and management standards deemed appropriate by the federal banking agencies. • Requirements for approval of acquisitions and restrictions on other activities. The National Bank Act requires regulatory and shareholder approval of all mergers between a national bank and another national or state bank and does not allow for the direct merger into a national bank of an unaffiliated nonbank. See discussion under “Risk Factors.” Other laws and regulations governing national banks contain similar provisions concerning acquisitions and activities. • Limits on interchange fees imposed under the Dodd-Frank Act, including a set of rules requiring that interchange transaction fees for electronic debit transactions be reasonable and proportional to certain costs associated with processing the transactions. • Limitations on the dollar amount of loans made to a borrower and its affiliates. • Limitations on transactions with affiliates. • Restrictions on the nature and amount of any investments and ability to underwrite certain types of securities (e.g., common equity). • Requirements for opening and closing of branches. • A number of federal and state consumer protection laws, including fair lending and truth in lending requirements, to provide equal access to credit and to protect consumers in credit transactions. In addition, as a bank with $10 billion or more in assets, we are subject to examination and primary enforcement authority with respect to consumer financial laws by the CFPB, which has broad rule making, supervisory and enforcement powers under various federal consumer financial protection laws. • Community Reinvestment Act (“CRA”) requirements. The CRA requires banks to help serve the credit needs in their communities, including providing credit to low- and moderate-income individuals. If we fail to adequately serve our communities, penalties may be imposed including denials of applications to add branches, relocate, add subsidiaries and affiliates, and merge with or purchase other financial institutions. • Requirements regarding the time, manner, and form of compensation given to key executives and other personnel receiving incentive compensation, including requirements related to the SEC’s 2022 rule on pay versus performance disclosures. These restrictions include documentation and governance, deferral, risk-balancing, and clawback requirements. Any deficiencies in compensation practices may be incorporated into supervisory ratings, which can affect our ability to make acquisitions or engage in certain other activities, or could result in regulatory enforcement actions. • Anti-money laundering regulations. The Bank Secrecy Act, Title III of the Uniting and Strengthening of America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (“USA Patriot Act”), and other federal laws require financial institutions to assist United States (“U.S.”) government agencies in detecting and preventing money laundering and other illegal acts by maintaining policies, procedures and controls designed to detect and report money laundering, terrorist financing, and other suspicious activity. We are also subject to the Sarbanes-Oxley Act of 2002, certain provisions of the Dodd-Frank Act, and other federal and state laws and regulations which address, among other issues, corporate governance, auditing and accounting, internal controls over financial reporting, and enhanced and timely disclosure of corporate information. 9 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Environmental, social, and governance (“ESG”) standards and related concerns, including those related to global climate change, continue to evolve and have become more prominent in recent years. We are closely monitoring developments in standards published by ESG interest groups and organizations, as well as proposed regulatory initiatives and expectations relating to ESG issues. Although we believe the way we do business has been and is consistent with many of these standards and expectations, our ongoing monitoring enables us to enhance our business practices by incorporating ESG recommendations that we believe will benefit our investors, customers, employees, and communities. In addition to proposed and evolving rulemaking by federal regulators, such as the SEC’s 2022 proposed rule on climate-related disclosures, many states have adopted, or are considering, laws that address ESG issues. These laws may include provisions that conflict with other state and federal regulations and may increase our costs or limit our ability to conduct business in certain jurisdictions. We publish an annual Corporate Responsibility Report that provides a summary of how we address ESG issues. The report is available on our website. Corporate Governance Our Board of Directors (“Board”) has overseen management’s establishment of a comprehensive system of corporate governance and risk management practices. This system includes frameworks, policies, and guidelines such as the followin • Corporate Governance Guidelines; • A Code of Business Conduct and Ethics for Employees; • A Director's Code of Conduct; • A Risk Management Framework; • A Related Party Transaction Policy; • A Compensation Clawback Policy; • Stock Ownership and Retention Guidelines; • An Insider Trading Policy, including provisions prohibiting hedging and placing restrictions on the pledging of bank stock by insiders; and • Charters for our Executive, Audit, Risk Oversight, Compensation, and Nominating and Corporate Governance Committees. More information on our corporate governance practices is available on our website at zionsbancorporation.com. Our website is not part of this Form 10-K. HUMAN CAPITAL MANAGEMENT We are proud of our employees who bring their unique, diverse talents to work each day. We are committed to identifying, recognizing, and creating fulfilling opportunities for our employees, and rewarding them for their contributions to our success. The recent COVID-19 pandemic had a significant impact on how and where we work. We were successful in transitioning most of our employees to working remotely, and as the pandemic subsided and related treatments improved, we returned to more in-person collaboration while supporting certain flexible and remote work arrangements. We believe that in-person exchange of ideas and viewpoints, in both formal and informal settings, improves productivity and supports a strong corporate culture. During 2022, we continued to enhance certain benefits for our employees to adapt to the changing practices of the labor market. Recent changes include more flexibility with paid time off, more options with health care plans, and greater access to mental health benefits. We had 9,989 full-time equivalent employees December 31, 2022. The following schedule presents certain demographic attributes of our employees. 10 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 2 December 31, 2022 Women People of Color Disabled Veterans Employee Roles Management 52% 28% 12% 2% Non-management 61% 39% 12% 2% Overall 59% 37% 12% 2% The following objectives and initiatives are integral to our human capital management efforts: Cultivating a diverse, equitable, and inclusive environment for our employees, our customers, and the communities in which we operate We believe in an environment where people are respected and valued, and where individual and cultural differences are embraced. We also believe that our performance is stronger when we are able to draw upon the talents and experience of a diverse team of employees. We use analytics, recruiting outreach efforts, and manager training to reach a diverse, qualified group of potential applicants to secure a high-performing workforce drawn from all segments of society. To identify qualified candidates, our recruiting team partners with community organizations, schools, and governmental entities that support marginalized and underserved communities in our footprint. Our annual Corporate Responsibility Report, which is published on our website, highlights several achievements in this area, such as our Banker Development Program, which attracts and advances undergraduates and early career professionals. We have instituted enterprise-wide and affiliate diversity, equity, and inclusion councils; employee business forums; regional inclusion champions; mental health initiatives; and a broad range of employee and community events. Throughout the organization, employee business resource groups foster a sense of community and enable greater connectivity and support among employees through forum meetings and discussions, which are open to all employees and offer networking and initiatives that support our commitment to diversity, both internally and externally. Attracting, developing, and retaining talent for long-term success We are committed to (1) attracting, developing, and retaining the most qualified individuals who reflect the diversity of the available workforce and markets in which we operate, (2) helping our employees grow in their careers, and (3) actively building a pipeline of talent for future leadership opportunities. As we attract and hire talent, we proactively consider the demand for competencies that will be needed within the workforce of the future. We offer more than 2,000 virtual, in-person, expert-led, and pre-recorded or self-paced learning options for employees to create custom learning plans for personal and professional development. In 2022, we hosted more than 1,000 training experiences to support employees, build new skills, or to assist in career advancement. We offer new manager programs, tuition reimbursement, education sponsorship opportunities, job shadowing, coaching, and formal mentoring programs. Our talent development program and individual development plans focus on education, experience, and exposure to help create well-rounded and successful employees. We are also mindful of the increasing competition for talent in the labor market. We experienced greater challenges in the recent past in filling certain job openings relative to when labor market conditions were more balanced, but we began to see improvement in 2022. We continue to analyze relevant metrics related to employee recruiting and turnover, which has and will continue to impact wages and flexible work arrangements. Recognizing, engaging, and rewarding our employees Our comprehensive rewards and recognition programs are designed to reward high performance, improve retention, and enhance the employee experience through recognition and growth opportunities. We provide meaningful upside 11 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES opportunities for those who take accountability for business objectives that help us deliver superior results while reducing risk. We routinely assess pay equity among employees across our organization by analyzing potential disparities in pay based on gender, minority status, and other factors. These actions help us compensate employees fairly. On a biennial basis, we enlist the services of an independent third party to review our pay equity. Results of the most recent review revealed that after adjusting for relevant variables such as education, experience, performance, and geography, there were no meaningful differences in pay levels among men, women, and people of color. We remain committed to fair and equitable compensation for all our employees. Our employees provide regular feedback through enterprise outreach and engagement forums, which include quarterly leadership calls, biannual employee opinion surveys, and targeted focus groups. These forums for employee input continue to help strengthen working relationships with managers, improve clarity of organizational purpose and goals, and reinforce our Guiding Principles and Code of Business Conduct and Ethics. We value work-life balance and strive to create a work environment that supports our employees with mental, physical, social, and financial wellness. Some of our key benefits include the followin • Corporate match for our 401(k) plan of 4.5% of an employee’s salary and incentive compensation; • Annual profit-sharing contributions; • Health care plan options including behavioral health, wellness, and autism spectrum disorder services; • Expanded mental health coverage, including coaching and clinical therapy sessions; • Preventive prescription drug coverage not subject to deductibles; • Paid parental leave program; • Adoption assistance program; and • Paid time off for various community service activities and other volunteer opportunities. ITEM 1A. RISK FACTORS We generate revenue and grow our businesses by taking prudent and appropriately priced and managed risks. These risks are outlined in our Risk Management Framework. Our Board has established an Audit Committee, a Compensation Committee, a Risk Oversight Committee (“ROC”), and appointed an Enterprise Risk Management Committee (“ERMC”) to oversee and implement the Risk Management Framework. The ERMC is comprised of senior management and is chaired by the Chief Risk Officer. These committees monitor the following risk areas: credit risk, interest rate and market risk; liquidity risk; strategic and business risk; operational risk; technology risk; cybersecurity risk; capital/financial reporting risk; legal/compliance risk (including regulatory risk); and reputational risk, as outlined in our risk taxonomy. We have developed policies, procedures, and controls designed to address these risks, but there can be no certainty that our actions will be effective to prevent or limit the effects of these risks on our business or performance. Although not comprehensive, risk factors that are material to us are described below. CREDIT RISK Credit quality has adversely affected us in the past and may adversely affect us in the future. Credit risk is one of our most significant risks. Rising interest rates, increased market volatility, or a decline in the strength of the U.S. economy in general or the local economies in which we conduct operations could result in, among other things, deterioration in credit quality and reduced demand for credit, including a resultant adverse effect on the income from our loan and investment portfolios, an increase in charge-offs, and an increase in the allowance for credit losses (“ACL”). 12 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES We have concentration of risk from counterparties and risk in our loan portfolio, including, but not limited to, loans secured by real estate, oil and gas-related lending, and leveraged and enterprise value lending, which may have unique risk characteristics that may adversely affect our results. Concentrations of risk from counterparties could adversely affect us, and risk across our loan and investment securities portfolios could pose significant additional credit risk to us due to similar exposures between the two asset types. Counterparty risk arising from derivative or securities financing transactions could also pose additional credit risk. We engage in commercial real estate (“CRE”) term and construction lending, primarily in our Western states footprint. We also engage in oil and gas-related lending, primarily in Texas, and we provide leveraged and enterprise value loans across our entire footprint. These loan types may be subject to specific risks, including governmental and social responses to environmental issues and climate change, volatility, and potential significant and prolonged declines in collateral-values and activity levels. We may have other unidentified risks in our loan portfolio. Our business is highly correlated to local economic conditions in a specific geographic region of the U.S. We provide a wide range of banking products and related services through our local management teams and unique brands in Arizona, California, Colorado, Idaho, Nevada, New Mexico, Oregon, Texas, Utah, Washington, and Wyoming. At December 31, 2022, loan balances associated with our banking operations in Utah/Idaho, Texas, and California comprised 77%, 71%, and 70% of the commercial, CRE, and consumer lending portfolios, respectively. As a result of this geographic concentration, our financial performance depends largely upon economic conditions in these market areas. Accordingly, deterioration in economic conditions, such as that caused by climate change or natural disasters, may specifically affect these states, and could result in higher credit losses and significantly affect our consolidated operations and financial results. For information about our lending exposure to various industries and how we manage credit risk, see “Credit Risk Management” on page 49 in MD&A. INTEREST RATE AND MARKET RISK We could be negatively affected by adverse economic conditions. Adverse economic conditions pose significant risks to our business, including our loan and investment portfolios, capital levels, results of operations, and financial condition. A slowing economy and uncertainty related to inflationary pressures, including related changes in monetary policies and actions, rising interest rates, and decreased values of our fixed-rate assets, can increase these risks and lead to lower demand for loans, higher credit losses, and lower fee income, among other negative effects. Failure to effectively manage our interest rate risk could adversely affect our results. Net interest income is the largest component of our revenue. Interest rate risk is managed by our Asset Liability Management Committee. Factors beyond our control can significantly influence the interest rate environment and increase our risk. These factors include changes in the prevailing interest rate environment, competitive pricing pressures for our loans and deposits, adverse shifts in the mix of deposits and other funding sources, and volatile market interest rates resulting from general economic conditions and the policies of governmental and regulatory agencies, in particular the FRB. Most components of our balance sheet are sensitive to rising and falling rates, and mismatches in rate sensitivity between assets and liabilities may result in unanticipated changes in both asset and liability values and related income and expense. Interest rates on our financial instruments are subject to change based on developments related to LIBOR, which could adversely impact our revenue, expenses, and value of those financial instruments. The London Interbank Offered Rate (“LIBOR”) is being phased out globally, and banks are required to migrate to alternative reference rates no later than June 2023. The market transition away from LIBOR could have a range of adverse effects on our business, financial condition, and results of operations. In particular, the transition could (1) adversely affect the interest rates paid or received on, and the value of, our floating-rate obligations, loans, deposits, 13 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES derivatives, and other financial instruments indexed to LIBOR; and (2) result in disputes, litigation or other actions with counterparties regarding the interpretation and enforceability of certain fallback language in financial instruments. For information about how we manage the transition from LIBOR, interest rate risk, and market risk, see “Interest Rate and Market Risk Management” on page 56 in MD&A. LIQUIDITY RISK Changes in levels and sources of liquidity and capital and liquidity requirements may limit our operations and potential growth. Our primary source of liquidity is deposits from our customers, which may be impacted by market-related forces such as increased competition for these deposits and a variety of other factors. The Federal Reserve's tightened monetary policy may contribute to a decline in the value of our fixed-rate loans and investment securities that are pledged as collateral to support short-term borrowings, and other economic conditions may also affect our liquidity and efforts to manage associated risks. The Federal Home Loan Bank (“FHLB”) system and Federal Reserve have been, and continue to be, a significant source of additional liquidity and funding. Changes in FHLB funding programs could adversely affect our liquidity and management of associated risks. We and the holders of our securities could be adversely affected by unfavorable rating actions from rating agencies. We access capital markets to augment our funding. This access is affected by the ratings assigned to us by rating agencies. The rates we pay on our securities are also influenced by, among other things, the credit ratings that we and our securities receive from recognized rating agencies. Ratings downgrades to us or our securities could increase our costs or otherwise have a negative effect on our liquidity position, financial condition, or the market prices of our securities. For information about how we manage liquidity risk, see “Liquidity Risk Management” on page 60 in MD&A. STRATEGIC AND BUSINESS RISK Problems encountered by other financial institutions could adversely affect financial markets generally and have indirect adverse effects on us. The soundness and stability of many financial institutions may be closely interrelated as a result of credit, trading, clearing, or other relationships between the institutions. As a result, concerns about, or a default or threatened default by, one institution could lead to significant market-wide liquidity and credit problems, losses or defaults by other institutions. This is sometimes referred to as “systemic risk” and may adversely affect financial intermediaries, such as clearing agencies, clearing houses, banks, securities firms, and exchanges, with which we interact on a daily basis, and therefore, could adversely affect us. We may not be able to hire or retain qualified personnel or effectively promote our corporate culture, and recruiting and compensation costs may increase as a result of changes in the workplace, marketplace, economy, and regulatory environment. Our ability to execute our strategy, provide services, and remain competitive may suffer if we are unable to recruit or retain qualified people, or if the costs of employee compensation and benefits increase substantially. Bank regulatory agencies have published regulations and guidance that limit the manner and amount of compensation that banking organizations provide to employees. These regulations and guidance may adversely affect our ability to attract and retain key personnel. Some of these limitations may not apply to institutions with which we compete for talent, in particular, as we are more frequently competing for personnel with financial technology providers and other entities that may not have the same limitations on compensation as we do. If we were to suffer such adverse effects with respect to our employees, our business, financial condition and results of operations could be adversely or materially affected. 14 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Our ability to retain talent may also be adversely affected by changes in the economy and workforce trends, priorities, migration, modes of delivery and other considerations, such as the increased ability of employees to work from anywhere in many industries. This growth in remote work and other changing priorities and benefits has led to an increase in compensation and related expenses and workplace challenges, such as fewer opportunities for face-to-face interactions, training and mentoring new employees, promoting a cohesive corporate culture, and increased competition for experienced labor, especially in high-demand and highly skilled categories. Inflationary pressures have also increased our compensation costs and are likely to continue to do so in the future. We have made, and are continuing to make, significant changes that include, among other things, organizational restructurings, efficiency initiatives, and replacement or upgrades of technology systems to improve our control environment and operating efficiency. The ultimate success and completion of these changes, and their effects on us, may vary significantly from intended results, which could materially adversely affect us. We continue to invest in a variety of strategic projects designed to improve our products and services and to simplify how we do business. These initiatives and other significant changes continue to be implemented and are in various stages of completion. By their very nature, projections of duration, cost, expected savings, expected efficiencies, and related items are subject to change and significant variability. There can be no certainty that we will achieve the expected benefits or other intended results associated with these projects. OPERATIONAL RISK Our operations could be disrupted by the effects of our new and ongoing projects and initiatives. We may encounter significant operational disruption arising from our numerous projects and initiatives. These may include significant time delays, cost overruns, loss of key people, technological problems, and processing failures. We may also experience operational disruptions due to capacity constraints, service level failures and inadequate performance, the level of concentration, and certain replacement costs. Any or all of these issues could result in disruptions to our systems, processes, control environment, procedures, employees, and customers. The ultimate effect of any significant disruption to our business could subject us to additional regulatory scrutiny or expose us to civil litigation and possible financial liability, any of which could materially affect us, including our control environment, operating efficiency, and results of operations. We could be adversely affected by failure in our internal controls. Because of their inherent limitations, our internal controls may not prevent or detect the risk of misstatements in our financial statements, or capital arising from inadequate or failed internal processes or systems, human errors or misconduct, or other adverse external events. A failure in our internal controls could have a significant negative impact not only on our earnings, but also on the perception that customers, regulators, and investors may have of us and adversely affect our business and our stock price. We could be adversely affected by internal and external fraud schemes. Attempts to commit fraud both internally and externally are becoming increasingly more sophisticated and may increase in an adverse economic environment. These attempts may go undetected by the systems and procedures that we have in place to monitor our operations. We have experienced losses in the past as a result of these schemes and may not be able to identify, prevent, or otherwise mitigate all instances of fraud in the future that have the potential to result in material losses. Climate-related and other catastrophic events including, but not limited to, hurricanes, tornadoes, earthquakes, fires, floods, prolonged drought, and pandemics may adversely affect us, our customers, and the general economy, financial and capital markets, and specific industries. The occurrence of pandemics, natural disasters, and other climate-related or catastrophic events could materially and adversely affect our operations and financial results. We have significant operations and customers in Utah, Texas, California, and other regions where natural and other disasters have occurred, and are likely to continue to occur. These regions are known for being vulnerable to natural disasters and other risks, such as hurricanes, tornadoes, earthquakes, fires, floods, prolonged droughts, and other weather-related events, some of which may be exacerbated by global climate change and become more frequent and intense. These types of catastrophic events at 15 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES times have disrupted the local economy, our business and customers, and have posed physical risks to our property. In addition, catastrophic events occurring in other regions of the world may have an impact on us and our customers. We use models in the management of the Bank. There is risk that these models are inaccurate in various ways, which can cause us to make suboptimal decisions. We rely on models in the management of the Bank. For example, we use models to inform our estimate of the allowance for credit losses, to manage interest rate and liquidity risk, to project stress losses in various segments of our loan and investment portfolios, and to project net revenue under stress. Models are inherently imperfect and cannot perfectly predict outcomes. Management decisions based in part on such models, therefore, may be suboptimal. We outsource various operations to third-party vendors, which could adversely impact our business and operational performance. We rely on various vendors to perform operational activities to conduct our business. Although there are benefits in entering into these relationships, there are risks associated with such activities. Our operational controls and third-party management programs may not provide adequate oversight and control, and inadequate performance by third parties can adversely affect our ability to deliver products and services to our customers and conduct our business. Replacing or finding alternatives for vendors who do not perform adequately can be difficult and costly, and may also adversely impact our customers and other operations, particularly when circumstances require us to make changes under tight time constraints. Many of our vendors have experienced adverse effects upon operations, supply chains, personnel, and businesses arising from inflationary pressures, wars and geopolitical conflicts, COVID-19, and other events, all of which can impact our operations as well. For information about how we manage operational risk, see “Operational, Technology, and Cybersecurity Risk Management” on page 63 in MD&A. TECHNOLOGY RISK We could be adversely affected by our ability to develop, adopt, and implement technology advancements. Our ability to remain competitive is increasingly dependent upon our ability to maintain critical technological capabilities, and to identify and develop new, value-added products for existing and future customers. These technological competitive pressures arise from both traditional banking and non-traditional sources. Larger banks may have greater resources and economies of scale attendant to maintaining existing capabilities and developing digital and other technologies. Fintechs and other technology platform companies continue to emerge and compete with traditional financial institutions across a wide variety of products and services. The expansion of blockchain technologies and the potential creation and adoption of central bank digital currencies present similar risks. Our failure to remain technologically competitive could impede our time to market and reduce customer satisfaction, product accessibility, and relevance. We could be adversely impacted by system vulnerabilities, failures, or outages impacting operations and customer services such as online and mobile banking. We rely on various information technology systems that work together in supporting internal operations and customer services. Vulnerabilities in, or a failure or outage of, one or many of these systems could impact the ability to perform internal operations and provide services to customers, such as online banking, mobile banking, remote deposit capture, treasury and payment services, and other services dependent on system processing. These risks increase as systems and software approach the end of their useful life or require more frequent updates and modifications. We cannot guarantee that such occurrences will not have a significant operational or customer impact. For information regarding risks associated with the replacement or upgrades of our core technology systems, see “Strategic and Business Risk” on page 14 in Risk Factors. For information about how we manage technology risk, see “Operational, Technology, and Cybersecurity Risk Management” on page 63 in MD&A. 16 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CYBERSECURITY RISK We are subject to a variety of information system failure and cybersecurity risks that could adversely affect our business and financial performance. We rely heavily on communications and information systems to conduct our business. We, our customers, and other financial institutions with which we interact, are subject to ongoing, continuous attempts to penetrate key systems by individual hackers, organized criminals, and in some cases, state-sponsored organizations. Information security risks for large financial institutions have increased significantly in recent years, in part because of the proliferation of new technologies, internet connections, and the increased sophistication and activities of organized crime, hackers, terrorists, nation-states, activists, and other external third parties. Third parties, including vendors and suppliers, also present operational and information security risks to us, including security breaches or failures of their own systems. In incidents involving third parties, we may not be informed promptly of any effect on our services or our data, or be able to participate in any investigation, notification, or remediation that occurs as a result. Any such incidents may have a material adverse effect upon our operations, reputation, customers, and services. The possibility of third-party or employee error, failure to follow security procedures, or malfeasance also presents these risks. As cybersecurity threats continue to evolve, we will be required to expend significant additional resources to continue to modify or enhance our layers of defense or to investigate or remediate any information security vulnerabilities. We, and our third-party vendors, have experienced security breaches due to cyberattacks in the past that have not had material impact to our data, customers, or operations, but there can be no assurance that any such failure, interruption, or significant security breach will not occur in the future, or, if any future occurrences will be adequately addressed . It is impossible to determine the severity or potential effects of these events with any certainty, but any such breach could result in material adverse consequences for us and our customers. System enhancements and updates may also create risks associated with implementing new systems and integrating them with existing ones. Due to the complexity and interconnectedness of information technology systems, the process of enhancing our layers of defense can itself create a risk of systems disruptions and security issues. In addition, addressing certain information security vulnerabilities, such as hardware-based vulnerabilities, may affect the performance of our information technology systems. The ability of our hardware and software providers to deliver patches and updates to mitigate vulnerabilities and our ability to implement them in a timely manner can introduce additional risks, particularly when a vulnerability is being actively exploited by threat actors. The occurrence of any failure, interruption or security breach of our information systems could damage our reputation, result in a loss of customer business, subject us to additional regulatory scrutiny, or expose us to civil litigation and possible financial liability. For information about how we manage cybersecurity risk, see “Operational, Technology, and Cybersecurity Risk Management” on page 63 in MD&A. CAPITAL/FINANCIAL REPORTING RISK Internal stress testing and capital management, as well as provisions of the National Bank Act and OCC regulations, may limit our ability to increase dividends, repurchase shares of our stock, and access the capital markets. We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions. The stress testing and other applicable regulatory requirements may, among other things, require us to increase our capital levels, limit our dividends or other capital distributions to shareholders, modify our business strategies, or decrease our exposure to various asset classes. Under the National Bank Act and OCC regulations, certain capital transactions, including share repurchases, are subject to the approval of the OCC. These requirements may limit our ability to respond to and take advantage of market developments. 17 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Economic and other circumstances may require us to raise capital at times or in amounts that are unfavorable to us. We maintain certain risk-based and leverage capital ratios, as required by our banking regulators, which can change depending upon general economic conditions, as well as the particular conditions, risk profiles, and our growth plans. Compliance with capital requirements may limit our ability to expand and has required, and may require, us to raise additional capital. These uncertainties and risks, including those created by legislative and regulatory uncertainties, may increase our cost of capital and other financing costs. We could be adversely affected by accounting, financial reporting, and regulatory compliance risk. We are exposed to accounting, financial reporting, and regulatory compliance risk. Significant estimates, judgments, and interpretations of complex and changing accounting and regulatory policies are required to properly account for the products and services we provide to our customers. Changes in our accounting policies or accounting standards could materially affect how we report our financial results and conditions. The level of regulatory compliance oversight continues to be heightened. Identification, interpretation, and implementation of complex and changing accounting standards, as well as compliance with regulatory requirements, pose an ongoing risk. The value of our goodwill may decline in the future. If the fair value of a reporting unit is determined to be less than its carrying value, we may have to take a charge related to the impairment of our goodwill. Such a charge could result from, among other factors, weakening in the economic environment, a decline in the performance of the reporting unit, or new legislative or regulatory changes not anticipated in management’s expectations. We may not be able to fully realize our deferred tax assets, which could adversely affect our operating results and financial performance. At December 31, 2022, we had a net deferred tax asset of $1.1 billion. The accounting treatment for realization of deferred tax assets is complex and requires judgment. Our ability to fully realize our deferred tax asset could be reduced in the future if our estimates of future taxable income from our operations, future reversals of existing deferred tax liabilities, or tax planning strategies do not support the realization of our deferred tax asset. Changes in applicable tax laws, regulations, macroeconomic conditions, or market conditions may adversely affect our financial results, and there can be no assurance that we will be able to fully realize our deferred tax assets. For information about how we manage capital, see “Capital Management” on page 65 in MD&A. LEGAL/COMPLIANCE RISK Laws and regulations applicable to us and the financial services industry impose significant limitations on our business activities and subject us to increased regulation and additional costs. We, and the entire financial services industry, have incurred, and will continue to incur, substantial costs related to personnel, systems, consulting, and other activities in order to comply with banking regulations. See “Supervision and Regulation” on page 6 for further information about the regulations applicable to us and the financial services industry generally. Regulators, the U.S. Congress, state legislatures, and other governing or consultative bodies continue to enact rules, laws, and policies to regulate the financial services industry and public companies, including laws that are designed to promote, protect, or penalize certain activities or industries and their access to financial services. We are, and may in the future become, subject to these laws by offering our products and services to certain industries or in certain locations. The nature of these laws and regulations and their effect on our future business and performance cannot be predicted. There can be no assurance that any or all of these regulatory changes or actions will ultimately be enacted. However, if enacted, some of these proposals could adversely affect us by, among other thi impacting after-tax returns earned by financial services firms in general; limiting our ability to grow; increasing FDIC insurance 18 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES assessments, taxes or fees on our funding or activities; limiting the range of products and services that we could offer; and requiring us to raise capital at inopportune times. Political developments may also result in substantial changes in tax, international trade, immigration, and other policies. The extent and timing of any such changes are uncertain, as are the potential direct and indirect impacts, whether beneficial or adverse. Regulations and laws may be modified or repealed, and new legislation may be enacted that will affect us and our subsidiaries. The ultimate impact of these proposals cannot be predicted as it is unclear which, if any, may be enacted. We could be adversely affected by legal and governmental proceedings. We are subject to risks associated with legal claims, litigation, and regulatory and other government proceedings. Our exposure to these proceedings has increased and may further increase as a result of stresses on customers, counterparties, and others arising from the past or current economic environments, more frequent claims and actions resulting from fraud schemes perpetrated by or involving our customers, new regulations promulgated under recently enacted statutes, the creation of new examination and enforcement bodies, and enforcement and legal actions against banking organizations. Any such matters may result in material adverse consequences to our results of operations, financial condition or ability to conduct our business, including adverse judgments, settlements, fines, penalties (e.g., civil money penalties under applicable banking laws), injunctions, restrictions on our business activities, or other relief. We maintain insurance coverage to mitigate the financial risk of defense costs, settlements, and awards, but the coverage is subject to deductibles and limits of coverage. Our involvement in any such matters, even if the matters are ultimately determined in our favor, could also cause significant harm to our reputation and divert management attention from the operation of our business. In general, the amounts paid by financial institutions in settlement of proceedings or investigations, have been increasing dramatically. This has affected and will continue to adversely affect (1) our ability to obtain insurance coverage for certain claims, (2) our deductible levels, and (3) the cost of premiums associated with our coverage. Consequently, our financial results are subject to greater risk of adverse outcomes from legal claims. Due to the difficulty in predicting the timing of, and damages or penalties associated with, the resolution of legal claims, it is possible that adverse financial impacts from litigation could occur sporadically and could be significant. In addition, any enforcement matters could impact our supervisory and CRA ratings, which may restrict or limit our activities. The corporate and securities laws applicable to us are not as well-developed as those applicable to a state-chartered corporation, which may impact our ability to effect corporate transactions in an efficient and optimal manner. Our corporate affairs are governed by the National Bank Act, and related regulations are administered by the OCC. As to securities laws, the OCC maintains its own securities offering framework applicable to national banks and their securities offerings, and our compliance with the Exchange Act is governed and enforced by the OCC. State corporate codes, including that of Utah, are widely recognized, updated by legislative action from time-to-time, and may be based on and influenced by model statutes. The federal securities law regime established by the Securities Act and the Exchange Act and the SEC’s extensive and well-developed framework thereunder are widely used by public companies. The OCC’s statutory and regulatory frameworks have been used by publicly traded banking organizations relatively rarely and are not as well-developed as the corporate and securities law frameworks applicable to other public corporations. While certain specific risks associated with operating under these frameworks are described below, unless and until these frameworks are further developed and established over time, the uncertainty of how these frameworks might apply to any given corporate or securities matters may prevent us from effecting transactions in an efficient and optimal manner or perhaps at all. 19 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Differences between the National Bank Act and state law requirements regarding mergers could hinder our ability to execute acquisitions as efficiently and advantageously as bank holding companies or other financial institutions. Unlike state corporate law, the National Bank Act requires shareholder approval of all mergers between a national bank and another national or state bank and does not allow for exceptions in the case of various “minor” mergers, such as a parent company’s merger with a subsidiary or an acquirer’s merger with an unaffiliated entity in which the shares issued by the acquirer do not exceed a designated percentage. The National Bank Act and related regulations may also complicate the structuring of certain nonbank acquisitions. These differences could adversely affect the ability of the Bank and other banks registered under the National Bank Act to efficiently consummate acquisition transactions. In addition, such differences could make us less competitive as a potential acquirer in certain circumstances given that our acquisition proposal may be conditioned on shareholder approval while our competitors’ proposals will not have such a condition. We are subject to restrictions on permissible activities that would limit the types of business we may conduct and that may make acquisitions of other financial companies more challenging. Under applicable laws and regulations, bank holding companies and banks are generally limited to business activities and investments that are related to banking or are financial in nature. The range of permissible financial activities is set forth in the Gramm-Leach-Bliley Act and is more limited for banks than for bank holding company organizations. The differences relate mainly to insurance underwriting (but not insurance agency activities) and merchant banking (but not broker-dealer and investment advisory activities). The fact that we do not have a bank holding company could make future acquisitions of financial institutions with such operations more challenging. REPUTATIONAL RISK We are presented with various reputational risk issues that could stem from operational, regulatory, compliance, and legal risks. Any of the aforementioned risks may give rise to adverse publicity and other expressions of negative public opinion, increased regulatory scrutiny, and damaged relationships among other reputational risks. OTHER RISKS The Russian invasion of Ukraine and other geopolitical conflicts, and retaliatory measures imposed by the U.S. and other countries, including the responses to such measures, may cause significant disruptions to domestic and foreign economies and markets. The Russia/Ukraine war and other geopolitical conflicts have created new risks for global markets, trade, economic conditions, cybersecurity, and similar concerns. For example, these conflicts could affect the availability and price of commodities and products, adversely affecting supply chains and increasing inflationary pressures; the value of currencies, interest rates, and other components of financial markets; and lead to increased risks of events such as cyberattacks that could result in severe costs and disruptions to governmental entities and companies and their operations. The impact of these conflicts and retaliatory measures is continually evolving and cannot be predicted with certainty. It is likely that these conflicts will continue to affect the global political order and global and domestic markets for a substantial period of time, regardless of when these conflicts end. While these events have not materially interrupted our operations, these or future developments resulting from these conflicts, such as cyberattacks on the U.S., the Bank, our customers, or our suppliers, could make it difficult to conduct business activities for us, our customers, or our vendors. Our business, financial condition, liquidity and results of operations have been, and will likely continue to be, adversely affected by the COVID-19 pandemic. The COVID-19 pandemic created economic, financial, and social disruptions that have adversely affected, and are likely to continue to adversely affect, our business, financial condition, credit exposure, and results of operations, including the direct and indirect impact on our employees, customers, communities, counterparties, service 20 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES providers, other market participants, and actions taken by governmental authorities and other third parties in response to the pandemic. The pandemic and its aftermath are likely to continue to affect consumer confidence and business activity generally, including loan demand, deposit levels, and the market for other financial products or services. Disruptions in supply chains have in some instances adversely affected our ability to procure equipment and materials for our employees and facilities in a timely fashion and may increase our costs for the same. These supply chain disruptions have in some instances adversely affected our vendors and their service level agreements to us and our subsequent delivery to customers. Pressures on the cost and availability of labor have also negatively affected us and many of our customers. The effects of these disruptions are likely to continue for the near term. Additionally, the long-term effects of the pandemic, including the increased interest in remote-work environments, may reduce our need for physical office space while negatively impacting our ability to sell or sublease any excess space. ESG-related risk developments could lead or require us to restrict or modify some of our business activities. ESG expectations of investors and regulators could, over time, lead us to restrict or modify some of our business practices. In addition, our business practices could be adversely affected by laws and regulations enacted or promulgated by federal, state, and local governments that relate to environmental and social issues. For example, in 2021 and 2022, certain states passed, or considered passing, laws prohibiting financial institutions from restricting the services that they provide to certain types of businesses if the institutions also conduct business with governmental entities in such states. Depending on how these laws are worded and implemented, they could adversely affect our ability to manage risk. These laws and rules related to ESG issues may include provisions that conflict with other state and federal regulations and may increase our costs or limit our ability to conduct business in certain jurisdictions. Heightened regulatory and social focus on climate change may place additional requirements on public companies, including financial institutions, regarding the measurement, management, and disclosure of climate-related risks and associated lending and investment activities. This may result in higher regulatory, compliance, credit, and reputational risks and costs. In addition, the transition to a lower-carbon economy could subject us to risks through our customers' exposure to volatility in commodity prices and the market for carbon-related products and services. ITEM 1B. UNRESOLVED STAFF COMMENTS There are no unresolved written comments that were received from the SEC’s or OCC’s staff 180 days or more before the end of our fiscal year relating to our periodic or current reports filed under the Securities Exchange Act of 1934. ITEM 2. PROPERTIES At December 31, 2022, we operated 416 branches, of which 277 are owned and 139 are leased. We also lease our headquarters in Salt Lake City, Utah. The annual rentals under long-term leases for leased premises are determined under various formulas and factors, including operating costs, maintenance, and taxes. For additional information regarding leases and rental payments, see Note 8 of the Notes to Consolidated Financial Statements. ITEM 3. LEGAL PROCEEDINGS The information contained in Note 16 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 4. MINE SAFETY DISCLOSURES None. 21 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES PART II ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES PREFERRED STOCK We have 4.4 million authorized shares of preferred stock without par value and with a liquidation preference of $1,000 per share. As of December 31, 2022, 66,139, 138,390, 98,555, and 136,368 of preferred shares series A, G, I, and J respectively, are outstanding. See Note 14 of the Notes to Consolidated Financial Statements for further information regarding our preferred stock. COMMON STOCK Market Information Our common stock is traded on the NASDAQ Global Select Market under the symbol “ZION.” The reported sale price of the common stock on NASDAQ was $54.10 per share on February 6, 2023. Equity Capital and Dividends As of February 6, 2023, there were 3,602 shareholders of record of our common stock. In January 2023, our Board declared a dividend of $0.41 per common share payable on February 23, 2023 to shareholders of record on February 16, 2023. Share Repurchases During 2022, the Board approved plans to repurchase up to $200 million of common shares outstanding. As part of these plans, we repurchased 3.6 million common shares outstanding for $200 million at an average price of $56.13 per share. During 2021, we repurchased 13.5 million common shares outstanding for $800 million at an average price of $59.27 per share. In January 2023, the Board approved a plan to repurchase up to $50 million of common shares outstanding during the first quarter of 2023. In February 2023, we repurchased 946,644 common shares outstanding for $50 million at an average price of $52.82. For further information regarding our common stock activity, see the Consolidated Statement of Changes in Shareholders' Equity on page 80. The following schedule summarizes our share repurchases for the year ended December 31, 2022: Schedule 3 2022 Share Repurchases Period Total number of shares purchased 1 Average price paid per share Shares purchased as part of publicly announced plans First quarter 778,248 $ 65.42 765,581 Second quarter 936,256 53.73 930,905 Third quarter 888,092 56.30 888,092 October — — November 978,491 51.11 978,281 December — — Fourth quarter total 978,491 51.11 978,281 Total 2022 3,581,087 $ 56.19 3,562,859 1 Includes common shares acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. 22 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Performance Graph The following stock performance graph compares the five-year cumulative total return of our common stock with the Standard and Poor’s (“S&P”) 500 Index and the Keefe, Bruyette & Woods, Inc. (“KBW”) Regional Bank Index (“KRX”). The KRX is a modified market capitalization-weighted regional bank and thrift stock index developed and published by KBW, a nationally recognized brokerage and investment banking firm specializing in bank stocks. The index is composed of 50 geographically diverse stocks representing regional banks or thrifts. The stock performance graph is based upon an initial investment of $100 on December 31, 2017 and assumes reinvestment of dividends. PERFORMANCE GRAPH FOR ZIONS BANCORPORATION, N.A. INDEXED COMPARISON OF 5-YEAR CUMULATIVE TOTAL RETURN 2017 2018 2019 2020 2021 2022 Zions Bancorporation, N.A. 100.0 81.7 107.1 93.0 138.7 104.0 KRX Regional Bank Index 100.0 82.5 102.2 93.3 127.5 118.7 S&P 500 100.0 95.6 125.7 148.8 191.5 156.8 SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS The information contained in Item 12 of this Form 10-K is incorporated by reference herein. ITEM 6. [RESERVED] 23 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Key Corporate Objectives We conduct our operations through seven separately managed affiliates, each with its own local branding and management team. Our affiliate banks are supported by an enterprise operating segment (referred to as the “Other” segment) that provides governance and risk management, allocates capital, establishes strategic objectives, and includes centralized technology, back-office functions, and certain lines of business not operated through our affiliate banks. We focus our efforts and resources to achieve our strategic growth and profitability objectives. This includes providing high-quality products and services and deepening relationships with our commercial, small business, and retail customers. Serving as a trusted partner for our small business and commercial customers and supporting their operational needs affords us a major source of relatively stable, low-cost deposits. We strive to achieve balanced growth of customers, pre-provision net revenue (“PPNR”), earnings per share (“EPS”), profitability, and shareholder returns. As depicted in the graphic below, we focus on four strategic growth areas: small businesses, commercial businesses, affluent customers, and capital markets. To facilitate the achievement of our growth and profitability objectives, we invest in the following five key areas, referred to as “strategic enablers”: • People and Empowerment — we invest in training our employees and providing them the tools and resources to build their capabilities, while promoting a diverse, inclusive, and equitable culture. • Technology — we invest in technologies that will make us more efficient and enable us to remain competitive while helping to insulate us from the risks of bank-disrupting technology companies. • Operational Excellence — we invest in and support ongoing improvements in how we safely and securely deliver value to our customers. • Risk Management — we invest in enhanced risk management practices to ensure prudent risk-taking and appropriate oversight. 24 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES • Data and Analytics — we invest in advanced enterprise data and analytics to support local execution and prudent decision making. RESULTS OF OPERATIONS Our Financial Performance This section and other sections provide information about our recent financial performance. For information about our results of operations for 2021 compared with 2020, see the respective sections in MD&A included in our 2021 Form 10-K. Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency ratio Net earnings applicable to common shareholders decreased from 2021, primarily due to an increase in the provision for credit losses. Diluted earnings per share decreased from 2021 as a result of decreased net earnings, the effect of which was partially offset by a 10.0 million decrease in weighted average diluted shares, primarily due to share repurchases. Adjusted PPNR increased from 2021, primarily due to growth in adjusted net revenue, driven largely by an increase in net interest income. This increase was partially offset by higher adjusted noninterest expense. The efficiency ratio improved from the prior year, as growth in adjusted revenue outpaced growth in adjusted noninterest expense, resulting in positive operating leverage. O ur financial performance for 2022 relative to the prior year reflect • Strong net revenue growth, offset by increases in provision for credit losses and noninterest expense. • Net interest income increased $312 million, or 14%, notwithstanding a $188 million decrease in interest income from U.S. Small Business Administration (“SBA”) Paycheck Protection Program (“PPP”) loans. The increase was primarily due to a higher interest rate environment and a favorable change in the composition of interest-earning assets. • The net interest margin (“NIM”) was 3.06%, compared with 2.72%, reflecting higher yields on interest-earning assets and favorable funding costs associated with our noninterest-bearing deposits. • Solid credit performance, as nonperforming assets decreased $123 million, or 45%, and classified loans decreased $307 million, or 25%. Net loan and lease charge-offs were $39 million, or 0.08% of average loans (ex-PPP) in 2022, compared with net charge-offs of $6 million, or 0.01% of average loans (ex-PPP), in 2021. Despite improvements in credit quality, the provision for credit losses was $122 million in 2022, compared with $(276) million in 2021, reflecting loan growth and deterioration in economic scenarios used for estimating future losses. • A $39 million, or 7%, increase in customer-related noninterest income, primarily due to increases in commercial account fees, capital markets and foreign exchange fees, and card fees, partially offset by decreases in loan-related fees and retail and business banking fees. Decreases in noncustomer-related 25 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES noninterest income were due largely to prior year securities gains in our Small Business Investment Company (“SBIC”) investment portfolio and gains on the sale of certain bank-owned facilities. • An increase of $137 million, or 8%, in noninterest expense, primarily due to an increase in salaries and benefits expense, which was impacted by inflationary and competitive labor market pressures on wages and benefits, increased incentive compensation accruals arising from improvements in full-year profitability, and increased headcount. • An increase of $1.4 billion, or 2%, in average interest-earning assets, driven by growth in average securities and average loans and leases (ex-PPP), largely offset by declines in average money market investments and PPP loans. • Strong growth of $4.8 billion, or 9%, in total loans and leases, driven largely by increases in the commercial and industrial, consumer 1-4 family residential mortgage, commercial real estate term, and municipal loan portfolios. • Total deposits decreased $11.1 billion, or 13%, primarily due to decreases in larger-balance and more rate-sensitive, nonoperating deposits. Our loan-to-deposit ratio was 78%, compared with 61% at the prior year- end, which continues to afford us flexibility in managing our funding costs. The following schedule presents additional selected financial highlights. Prior period amounts have been reclassified to conform with the current period presentation, where applicable. 26 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 4 SELECTED FINANCIAL HIGHLIGHTS (Dollar amounts in millions, except per share amounts) 2022/2021 Change 2022 2021 2020 2019 2018 For the Year Net interest income +14 % $ 2,520 $ 2,208 $ 2,216 $ 2,272 $ 2,230 Noninterest income -10 % 632 703 574 562 552 Total net revenue +8 % 3,152 2,911 2,790 2,834 2,782 Provision for credit losses NM 122 (276) 414 39 (40) Noninterest expense +8 % 1,878 1,741 1,704 1,742 1,679 Pre-provision net revenue 1 +9 % 1,311 1,202 1,114 1,118 1,125 Net income -20 % 907 1,129 539 816 884 Net earnings applicable to common shareholders -20 % 878 1,100 505 782 850 Per Common Share Net earnings – diluted -15 % 5.79 6.79 3.02 4.16 4.08 Tangible book value at year-end 1 +9 % 43.72 40.15 36.44 34.72 33.31 Market price – end -22 % 49.16 63.16 43.44 51.92 40.74 Market price – high +11 % 75.44 68.25 52.48 52.08 59.19 Market price – low +7 % 45.21 42.12 23.58 39.11 38.08 At Year-End Assets -4 % 89,545 93,200 81,479 69,172 68,746 Loans and leases, net of unearned income and fees +9 % 55,653 50,851 53,476 48,709 46,714 Deposits -13 % 71,652 82,789 69,653 57,085 54,101 Common equity -37 % 4,453 7,023 7,320 6,787 7,012 Performance Ratios Return on average assets 1.01% 1.29% 0.71% 1.17% 1.33% Return on average common equity 16.0% 14.9% 7.2% 11.2% 12.1% Return on average tangible common equity 1 13.9% 17.8% 8.8% 13.3% 14.9% Net interest margin 3.06% 2.72% 3.15% 3.54% 3.61% Net charge-offs to average loans and leases (ex-PPP) 0.08% 0.01% 0.22% 0.08% (0.04)% Total allowance for credit losses to loans and leases outstanding (ex-PPP) 1.15% 1.13% 1.74% 1.14% 1.18% Capital Ratios at Year-End Common equity tier 1 capital 9.8% 10.2% 10.8% 10.2% 11.7% Tier 1 leverage 7.7% 7.2% 8.3% 9.2% 10.3% Tangible common equity 1 7.1% 6.6% 7.5% 8.4% 9.2% Other Selected Information Weighted average diluted common shares outstanding (in thousands) -6 % 150,271 160,234 165,613 186,504 206,501 Bank common shares repurchased (in thousands) -74 % 3,563 13,497 1,666 23,505 12,943 Dividends declared +10 % $ 1.58 $ 1.44 $ 1.36 $ 1.28 $ 1.04 Common dividend payout ratio 2 27.3% 21.1% 44.6% 29.0% 23.8% Capital distributed as a percentage of net earnings applicable to common shareholders 3 50% 94% 59% 170% 103% Efficiency ratio 58.8% 60.8% 59.4% 59.5% 59.6% 1 See “Non-GAAP Financial Measures” on page 70 for more information. 2 The common dividend payout ratio is equal to common dividends paid divided by net earnings applicable to common shareholders. 3 This ratio is the common dividends paid plus share repurchases for the year, divided by net earnings applicable to common shareholders . 27 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Net Interest Income and Net Interest Margin Net interest income is the difference between interest earned on interest-earning assets and interest paid on interest-bearing liabilities, and represented approximately 80% of our net revenue (net interest income plus noninterest income) for the year. The NIM is calculated as net interest income as a percent of interest-earning assets. Schedule 5 NET INTEREST INCOME AND NET INTEREST MARGIN Amount change Percent change Amount change Percent change (Dollar amounts in millions) 2022 2021 2020 Interest and fees on loans $ 2,112 $ 177 9 % $ 1,935 $ (115) (6) % $ 2,050 Interest on money market investments 81 60 NM 21 7 50 14 Interest on securities 512 201 65 311 7 2 304 Total interest income 2,705 438 19 2,267 (101) (4) 2,368 Interest on deposits 70 40 NM 30 (75) (71) 105 Interest on short- and long-term borrowings 115 86 NM 29 (18) (38) 47 Total interest expense 185 126 NM 59 (93) (61) 152 Net interest income $ 2,520 $ 312 14 % $ 2,208 $ (8) — % $ 2,216 Average interest-earning assets $ 83,638 $ 1,371 2 % $ 82,267 $ 11,108 16 % $ 71,159 Average interest-bearing liabilities 42,138 1,388 3 % 40,750 2,512 7 % 38,238 bps bps Yield on interest-earning assets 1 3.28 % 49 2.79 % (58) 3.37 % Rate paid on total deposits and interest-bearing liabilities 1 0.23 % 16 0.07 % (15) 0.22 % Cost of total deposits 1 0.09 % 5 0.04 % (13) 0.17 % Net interest margin 1 3.06 % 34 2.72 % (43) 3.15 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. Net interest income increased $312 million, or 14%, in 2022, relative to the prior year, despite a $188 million decrease in interest income from PPP loans. The increase was driven largely by a higher interest rate environment and a favorable change in the composition of interest-earning assets. Average interest-earning assets increased $1.4 billion, or 2%, primarily due to increases of $6.3 billion and $4.5 billion in average securities and average loans and leases (ex-PPP), respectively. These increases were largely offset by decreases of $5.5 billion and $3.8 billion in average money market investments and average PPP loans, respectively. Average securities increased to 30.4% of average interest-earning assets, compared with 23.3%. The NIM was 3.06%, compared with 2.72%. The yield on average interest-earning assets was 3.28% in 2022, an increase of 49 basis points (“bps”), reflecting the higher interest rate environment and a change in the mix of interest-earning assets from money market investments to securities and loans. The yield on total loans increased 30 bps to 4.06%, and the yield on securities increased 39 bps to 2.06%. The yield on securities benefited from a decrease in the market value of available-for-sale (“AFS”) securities due to rising interest rates. 28 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Average loans and leases increased $0.6 billion, or 1%, to $52.6 billion. Excluding PPP loans, average loans and leases increased $4.5 billion, or 9%, to $51.9 billion, primarily in the commercial and industrial, consumer 1-4 family residential mortgage, commercial real estate term, and municipal loan portfolios. During 2022 and 2021, PPP loans totaling approximately $1.5 billion and $6.5 billion, respectively, were forgiven by the SBA. PPP loans contributed $47 million and $235 million in interest income during the same time periods. The yield on PPP loans was 6.53% and 5.16% for the respective periods, and was positively impacted by accelerated amortization of deferred fees on paid off or forgiven PPP loans of $31 million and $138 million. At December 31, 2022 and 2021, the remaining unamortized net deferred fees on PPP loans totaled $2 million and $45 million, respectively. Average deposits increased $2.2 billion, or 3%, during 2022, and period-end deposits decreased $11.1 billion, or 13%, compared with the prior year period. The average cost of deposits was 0.09% in 2022, compared with 0.04% in 2021. The rate paid on total deposits and interest-bearing liabilities was 0.23%, compared with 0.07%, reflecting the higher interest rate environment and increased short-term borrowings. Average noninterest-bearing deposits as a percentage of average deposits were 51%, up from 49% for the prior year. Our funding costs remained well controlled, reflecting the granularity of our deposit base and the extent of our noninterest-bearing deposits. 29 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Average AFS securities balances increased $4.8 billion, or 26%, to $23.2 billion in 2022, mainly due to an increase in our agency guaranteed mortgage-backed securities portfolio. During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the held-to-maturity (“HTM”) category to reflect our intent for these securities. Average borrowed funds increased $1.5 billion, or 74%, to $3.5 billion in 2022, driven by increases in short-term borrowings as a result of significant loan growth and declines in total deposits. These increases were partially offset by a decrease in long-term debt, primarily due to the redemption and maturity of senior notes during 2022 and 2021. For further discussion of the effects of market rates on net interest income and how we manage interest rate risk, refer to the “Interest Rate and Market Risk Management” section on page 13. For more information on how we manage liquidity risk, refer to the “Liquidity Risk Management” section on page 14. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 30 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 6 - AVERAGE BALANCE SHEETS, YIELDS, AND RATES Year Ended December 31, 2022 2021 2020 (In millions) Average balance Interest Yield/ Rate 1 Average balance Interest Yield/ Rate 1 Average balance Interest Yield/ Rate 1 ASSETS Money market investments: Interest-bearing deposits $ 3,066 $ 27 0.87 % $ 8,917 $ 12 0.14 % $ 965 $ 5 0.49 % Federal funds sold and securities purchased under agreements to resell 2,482 54 2.16 2,129 9 0.40 2,089 9 0.44 Total money market investments 5,548 81 1.45 11,046 21 0.19 3,054 14 0.46 Securiti Held-to-maturity 1,999 47 2.36 562 17 2.97 618 22 3.54 Available-for-sale 23,132 461 1.99 18,365 292 1.59 14,208 284 2.00 Trading account 322 16 4.79 246 11 4.43 167 7 4.36 Total securities 25,453 524 2.06 19,173 320 1.67 14,993 313 2.09 Loans held for sale 39 1 2.57 65 1 2.35 96 4 3.89 Loans and leas 2 Commercial - excluding PPP loans 28,500 1,147 4.02 25,014 950 3.80 25,193 1,036 4.11 Commercial - PPP loans 725 47 6.53 4,566 235 5.16 4,534 146 3.22 Commercial real estate 12,251 544 4.44 12,136 418 3.44 11,854 458 3.87 Consumer 11,122 398 3.58 10,267 354 3.44 11,435 425 3.71 Total loans and leases 52,598 2,136 4.06 51,983 1,957 3.76 53,016 2,065 3.89 Total interest-earning assets 83,638 2,742 3.28 82,267 2,299 2.79 71,159 2,396 3.37 Cash and due from banks 621 605 619 Allowance for credit losses on loans and debt securities (514) (612) (733) Goodwill and intangibles 1,022 1,015 1,015 Other assets 4,908 4,122 3,997 Total assets $ 89,675 $ 87,397 $ 76,057 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 37,045 $ 61 0.16 $ 36,717 $ 21 0.06 $ 31,100 $ 60 0.19 Time 1,594 9 0.58 2,020 9 0.41 3,706 45 1.22 Total interest-bearing deposits 38,639 70 0.18 38,737 30 0.08 34,806 105 0.30 Borrowed funds: Federal funds purchased and security repurchase agreements 1,531 38 2.49 797 1 0.07 1,680 8 0.45 Other short-term borrowings 1,263 46 3.65 5 — 0.04 208 2 1.09 Long-term debt 705 31 4.28 1,211 28 2.36 1,544 37 2.45 Total borrowed funds 3,499 115 3.27 2,013 29 1.45 3,432 47 1.39 Total interest-bearing funds 42,138 185 0.44 40,750 59 0.14 38,238 152 0.40 Noninterest-bearing demand deposits 39,890 37,520 28,883 Other liabilities 1,735 1,259 1,320 Total liabilities 83,763 79,529 68,441 Shareholders’ equity: Preferred equity 440 497 566 Common equity 5,472 7,371 7,050 Total shareholders’ equity 5,912 7,868 7,616 Total liabilities and shareholders’ equity $ 89,675 $ 87,397 $ 76,057 Spread on average interest-bearing funds 2.84 % 2.65 % 2.97 % Impact of net noninterest-bearing sources of funds 0.22 % 0.07 % 0.18 % Net interest margin $ 2,557 3.06 % $ 2,240 2.72 % $ 2,244 3.15 % Me total loans and leases, excluding PPP loans 51,873 2,089 4.03 % 47,417 1,722 3.63 % 48,482 1,919 3.89 % Me total cost of deposits 0.09 % 0.04 % 0.17 % Me total deposits and interest-bearing liabilities 82,028 185 0.23 % 78,270 59 0.07 % 67,121 152 0.22 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. 2 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. Loans include nonaccrual and restructured loans. 31 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents year-over-year changes in net interest income on a fully taxable-equivalent basis for the years indicated. For purposes of calculating the yields in this schedule, the average loan balances also include the principal amounts of nonaccrual and restructured loans. Interest payments received on nonaccrual loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. In addition, interest on restructured loans is generally accrued at modified rates. In the analysis of taxable-equivalent net interest income changes due to volume and rate, changes are allocated to volume with the following exceptio when volume and rate both increase, the variance is allocated proportionately to both volume and rate; when the rate increases and volume decreases, the variance is allocated to rate. Schedule 7 ANALYSIS OF TAXABLE-EQUIVALENT NET INTEREST INCOME CHANGES DUE TO VOLUME AND RATE 2022 over 2021 2021 over 2020 Changes due to Total changes Changes due to Total changes (In millions) Volume Rate 1 Volume Rate 1 INTEREST-EARNING ASSETS Money market investments: Interest-bearing deposits $ (8) $ 23 $ 15 $ 11 $ (4) $ 7 Federal funds sold and securities purchased under agreements to resell 1 44 45 1 (1) — Total money market investments (7) 67 60 12 (5) 7 Securiti Held-to-maturity 34 (4) 30 (1) (4) (5) Available-for-sale 86 83 169 66 (58) 8 Trading account 4 1 5 4 — 4 Total securities 124 80 204 69 (62) 7 Loans held for sale — — — (1) (2) (3) Loans and leases 2 Commercial - excluding SBA PPP loans 139 58 197 (7) (79) (86) Commercial - SBA PPP loans (198) 10 (188) 1 88 89 Commercial real estate 3 123 126 10 (50) (40) Consumer 30 14 44 (39) (32) (71) Total loans and leases (26) 205 179 (35) (73) (108) Total interest-earning assets 91 352 443 45 (142) (97) INTEREST-BEARING LIABILITIES Interest-bearing deposits: Saving and money market 1 39 40 2 (41) (39) Time (2) 2 — (6) (30) (36) Total interest-bearing deposits (1) 41 40 (4) (71) (75) Borrowed funds: Federal funds purchased and security repurchase agreements — 37 37 — (7) (7) Other short-term borrowings 34 12 46 — (2) (2) Long-term debt (11) 14 3 (8) (1) (9) Total borrowed funds 23 63 86 (8) (10) (18) Total interest-bearing liabilities 22 104 126 (12) (81) (93) Change in taxable-equivalent net interest income $ 69 $ 248 $ 317 $ 57 $ (61) $ (4) 1 Taxable-equivalent rates used where applicable. 2 Net of unearned income and fees, net of related costs. Loans include nonaccrual and restructured loans. 32 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans and is recorded in investment securities on the consolidated balance sheet. The provision for credit losses, which is the combination of both the provision for loan and lease losses and the provision for unfunded lending commitments, was $122 million in 2022, compared with $(276) million in 2021. The ACL was $636 million at December 31, 2022, compared with $553 million at December 31, 2021. The increase in the ACL was primarily due to loan growth and deterioration in economic scenarios, partially offset by improvements in credit quality. The ratio of ACL to net loans and leases (ex-PPP) was 1.15% and 1.13% at December 31, 2022 and 2021, respectively. The provision for securities losses was less than $1 million during 2022 and 2021. 33 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The bar chart above illustrates the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic scenarios and current economic conditions, which increased the ACL by $45 million from the prior year period. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, decreased the ACL by $6 million, indicating improvements in overall credit quality. Nonperforming assets decreased $123 million, or 45%, and classified loans decreased $307 million, or 25%. Net loan and lease charge-offs were $39 million, or 0.08% annualized of average loans (ex-PPP), in 2022, compared with $6 million, or 0.01% annualized of average loans (ex-PPP), in 2021. The fourth bar represents loan portfolio changes, driven primarily by loan growth, as well as changes in portfolio mix, the aging of the portfolio, and other risk factors, all of which resulted in a $44 million increase in the ACL. See Note 6 of the Notes to Consolidated Financial Statements for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue we earn from products and services that generally have no associated interest rate or yield and is classified as either customer-related or noncustomer-related. Customer-related noninterest income excludes items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income decreased $71 million, or 10%, in 2022, relative to the prior year. Noninterest income accounted for 20% and 24% of net revenue during 2022 and 2021, respectively. The following schedule presents a comparison of the major components of noninterest income. 34 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 8 NONINTEREST INCOME (Dollar amounts in millions) 2022 Amount change Percent change 2021 Amount change Percent change 2020 Commercial account fees $ 159 $ 22 16 % $ 137 $ 5 4 % $ 132 Card fees 104 9 9 95 13 16 82 Retail and business banking fees 73 (1) (1) 74 6 9 68 Loan-related fees and income 80 (15) (16) 95 (14) (13) 109 Capital markets and foreign exchange fees 83 13 19 70 — — 70 Wealth management fees 1 55 5 10 50 6 14 44 Other customer-related fees 60 6 11 54 10 23 44 Customer-related noninterest income 614 39 7 % 575 26 5 % 549 Fair value and nonhedge derivative income (loss) 16 2 14 14 20 NM (6) Dividends and other income 17 (26) (60) 43 19 79 24 Securities gains (losses), net (15) (86) NM 71 64 NM 7 Noncustomer-related noninterest income 18 (110) NM 128 103 NM 25 Total noninterest income $ 632 $ (71) (10) % $ 703 $ 129 22 % $ 574 1 Wealth management fees for 2020 included certain retirement service-related fees of $3 million. Beginning in 2021, those fees, which totaled $4 million, were reported in other customer-related noninterest income. Customer-related Noninterest Income Customer-related noninterest income growth reflects our focus on our key corporate objectives. We continue to deepen existing relationships with our commercial, small business, and retail customers by providing high-quality treasury management products, capital market solutions, wealth management advisory services, and depository account services. Total customer-related noninterest income increased $39 million, or 7%, in 2022, largely driven by improved customer transaction volume and activity during the year. Key drivers impacting customer-related revenue includ • Commercial account fees increased $22 million or 16%, driven by increases in account analysis, treasury management, and merchant fees. Commercial account fees also benefited from a one-time adjustment of approximately $6 million during the first quarter of 2022. • Capital markets and foreign exchange fees increased $13 million, or 19%, primarily due to improved customer swap, loan syndication, and foreign exchange activity. • Card fees increased $9 million, or 9%, due to increased commercial and business bankcard interchange fees. • Other customer-related fee income increased $6 million, or 11%, due to growth in corporate trust fees, reflecting new business growth. • Wealth management fee income increased $5 million, or 10%, reflecting growth in assets and ongoing adoption of wealth and advisory services from our customer base. Our assets under management increased $1.2 billion, or 11%, to $12.2 billion at December 31, 2022, despite declines in market valuations. • Loan-related fees decreased $15 million or 16%, in 2022, primarily due to an increased proportion of our 1-4 family residential mortgage production being retained versus sold. During 2022, we experienced a strong increase in demand for adjustable-rate mortgages, which we generally retain on our balance sheet. • Retail and business banking fees decreased $1 million, primarily due to changes in our overdraft and non-sufficient funds practices, which were effected early in the third quarter of 2022. The impact of these changes on customer-related noninterest income is expected to be ongoing. Noncustomer-related Noninterest Income Total noncustomer-related noninterest income decreased $110 million in 2022. Net securities gains and losses decreased $86 million, due largely to net gains recorded during the prior year related to our SBIC investment 35 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES portfolio. Dividends and other income declined $26 million, primarily due to a valuation loss recognized on one of our equity investments during the third quarter of 2022, as well as gains on the sale of certain bank-owned facilities during the prior year. These sales resulted from the consolidation of some of our technology and operations facilities in advance of occupying our new corporate technology center in July 2022. Noninterest Expense The following schedule presents a comparison of the major components of noninterest expense. Schedule 9 NONINTEREST EXPENSE (Dollar amounts in millions) 2022 Amount change Percent change 2021 Amount change Percent change 2020 Salaries and employee benefits $ 1,235 $ 108 10 % $ 1,127 $ 40 4 % $ 1,087 Technology, telecom, and information processing 209 10 5 199 7 4 192 Occupancy and equipment, net 152 (1) (1) 153 2 1 151 Professional and legal services 57 (15) (21) 72 15 26 57 Marketing and business development 39 (4) (9) 43 (18) (30) 61 Deposit insurance and regulatory expense 50 16 47 34 1 3 33 Credit-related expense 30 4 15 26 4 18 22 Other real estate expense, net 1 1 NM — (1) NM 1 Other 105 18 21 87 (13) (13) 100 Total noninterest expense $ 1,878 $ 137 8 % $ 1,741 $ 37 2 % $ 1,704 Adjusted noninterest expense $ 1,876 $ 139 8 % $ 1,737 $ 64 4 % $ 1,673 Noninterest expense increased $137 million, or 8%, in 2022, relative to the prior year, primarily due to salaries and benefits expense, which represented the largest component of total noninterest expense during 2022 and 2021. The following schedule presents the major segments of salaries and employee benefits expense. Schedule 10 SALARIES AND EMPLOYEE BENEFITS (Dollar amounts in millions) 2022 Amount/quantity change Percent change 2021 Amount/quantity change Percent change 2020 Salaries and bonuses $ 1,028 $ 93 10 % $ 935 $ 17 2 % $ 918 Employee benefits: Employee health and insurance 93 10 12 83 (3) (3) 86 Retirement and profit sharing 52 (5) (9) 57 18 46 39 Payroll taxes and other fringe benefits 62 10 19 52 8 18 44 Total benefits 207 15 8 192 23 14 169 Total salaries and employee benefits $ 1,235 $ 108 10 % $ 1,127 $ 40 4 % $ 1,087 Full-time equivalent employees at December 31, 9,989 304 3 % 9,685 7 — % 9,678 Total salaries and benefits expense increased $108 million, or 10%, primarily due to the ongoing impact of inflationary and competitive labor market pressures on wages and benefits, increased incentive compensation accruals arising from improvements in full-year profitability, and increased headcount. We had 9,989 full-time equivalent employees at December 31, 2022, an increase of approximately 3% relative to the prior year. Other noninterest expense increased $18 million, primarily due to a negative valuation adjustment in the prior year related to the termination of our defined benefit pension plan, as well as increased travel and various other expenses incurred during the current year. Deposit insurance and regulatory expense increased $16 million, driven largely by a higher FDIC insurance assessment resulting from changes in our balance sheet composition. 36 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Technology, telecom, and information processing expense increased $10 million, mainly due to increased software licensing and maintenance expense, reflecting our ongoing investments in strategic technology initiatives designed to improve our products and services and to simplify how we do business. Professional and legal services expense decreased $15 million, due to third-party assistance associated with PPP loan forgiveness and other technology-related and outsourced services utilized in the prior year. The efficiency ratio was 58.8%, compared with 60.8%, as growth in net revenue significantly outpaced growth in noninterest expense. For information on non-GAAP financial measures, including differences between noninterest expense and adjusted noninterest expense, see page 70. Technology Spend As the banking industry continues to move toward information technology-based products and services, we recognize there are disparate ways of discussing expenditures associated with technology-related investments and operations. We generally describe these expenditures as total technology spend, which includes current period expenses reported on our consolidated statement of income, and capitalized investments, net of related amortization and depreciation, reported on our consolidated balance sheet. We believe these disclosures provide more relevant presentation and discussion regarding our technology-related investments and operations. Total technology spend represents expenditures for technology systems and infrastructure and is reported as a combination of the followin • Technology, telecom, and information processing expense — includes expenses related to application software licensing and maintenance, related amortization, telecommunications, and data processing; • Other technology-related expenses — includes related noncapitalized salaries and employee benefits, occupancy and equipment, and professional and legal services; and • Technology investments — includes capitalized technology infrastructure equipment, hardware, and purchased or internally developed software, less related amortization or depreciation. The following schedule presents information related to our technology spend. Schedule 11 TECHNOLOGY SPEND December 31 (In millions) 2022 2021 Technology, telecom, and information processing expense $ 209 $ 199 Other technology-related expense 206 190 Technology investments 90 100 L related amortization and depreciation (54) (54) Total technology spend $ 451 $ 435 Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods presented. Schedule 12 INCOME TAXES (Dollar amounts in millions) 2022 2021 2020 Income before income taxes $ 1,152 $ 1,446 $ 672 Income tax expense 245 317 133 Effective tax rate 21.3 % 21.9 % 19.8 % The effective tax rates for the periods presented above were decreased by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the nondeductibility of 37 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES FDIC premiums, certain executive compensation, and other fringe benefits. The effective tax rate for 2020 was further reduced by the proportional increase in nontaxable items and tax credits relative to a lower pretax book income, compared with 2021 and 2022. Additionally, investments in technology initiatives, low-income housing, and municipal securities during 2022, 2021, and 2020, generated tax credits and nontaxable income that benefited the effective tax rate for each respective year. We had a net deferred tax asset (“DTA”) of $1.1 billion at December 31, 2022, compared with $0.1 billion at December 31, 2021. The increase in the net DTA was driven largely by the increase in unrealized losses in accumulated other comprehensive income (“AOCI”) associated with investment securities and derivative instruments, the capitalization of certain expenses for tax purposes, and the provision for credit losses during 2022. We had no valuation allowance at December 31, 2022. See Note 20 of the Notes to Consolidated Financial Statements for more information about the factors that impacted our effective tax rate, significant components of our DTAs and deferred tax liabilities (“DTLs”), including our assessment regarding valuation allowances, and unrecognized tax benefits for uncertain tax positions. Preferred Stock Dividends Preferred stock dividends totaled $29 million in 2022 and 2021, and $34 million in 2020. The decrease in preferred dividends was due to the redemption of the outstanding shares of our Series H preferred stock during the second quarter of 2021. See further details in Note 14 of the Notes to Consolidated Financial Statements. Business Segment Results We manage our operations through seven affiliate banks located in different geographic markets, each with its own local branding and management team. These affiliate banks comprise our primary business segments and inclu Zions Bank, California Bank & Trust (“CB&T”), Amegy Bank (“Amegy”), National Bank of Arizona (“NBAZ”), Nevada State Bank (“NSB”), Vectra Bank Colorado (“Vectra”), and The Commerce Bank of Washington (“TCBW”). We emphasize local authority, responsibility, and pricing, with customization of certain products (as applicable) to maximize customer satisfaction and strengthen community relations. Our affiliate banks are supported by an enterprise operating segment (referred to as the “Other” segment) that provides governance and risk management, allocates capital, establishes strategic objectives, and includes centralized technology, back-office functions, and certain lines of business not operated through our affiliate banks. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal funds transfer pricing (“FTP”) allocation process to report results of operations for business segments. This process is subject to change and refinement over time. Where applicable, prior period amounts have been revised to reflect the impact of these changes had they been instituted for the periods presented. For more performance information related to our business segments, including the Other segment, see Note 22 of the Notes to Consolidated Financial Statements. The following schedule summarizes selected financial information of our business segments. Ratios are calculated based on amounts in thousands. 38 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 13 SELECTED SEGMENT INFORMATION (Dollar amounts in millions) Zions Bank CB&T Amegy 2022 2021 2020 2022 2021 2020 2022 2021 2020 KEY FINANCIAL INFORMATION Total average loans $ 13,277 $ 13,198 $ 13,845 $ 13,129 $ 12,892 $ 12,366 $ 12,110 $ 12,189 $ 13,114 Total average deposits 24,317 23,588 18,370 16,160 15,796 13,763 15,735 15,496 12,970 Income before income taxes 387 380 295 314 405 182 311 362 178 CREDIT QUALITY Provision for credit losses $ 43 $ (26) $ 67 $ 49 $ (78) $ 120 $ 5 $ (96) $ 111 Net loan and lease charge-offs (recoveries) 29 — 27 3 — 15 3 2 49 Ratio of net charge-offs to average loans and leases 0.22 % — % 0.20 % 0.02 % — % 0.12 % 0.02 % 0.02 % 0.37 % Allowance for credit losses $ 155 $ 142 $ 167 $ 122 $ 90 $ 158 $ 122 $ 128 $ 210 Ratio of allowance for credit losses to net loans and leases, at year-end 1.17 % 1.08 % 1.21 % 0.93 % 0.70 % 1.28 % 1.01 % 1.05 % 1.60 % Nonperforming assets $ 36 $ 84 $ 97 $ 25 $ 41 $ 56 $ 59 $ 90 $ 131 Ratio of nonperforming assets to net loans and leases and other real estate owned 0.26 % 0.65 % 0.70 % 0.18 % 0.32 % 0.43 % 0.46 % 0.77 % 1.03 % (Dollar amounts in millions) NBAZ NSB Vectra TCBW 2022 2021 2020 2022 2021 2020 2022 2021 2020 2022 2021 2020 KEY FINANCIAL INFORMATION Total average loans $ 4,911 $ 4,849 $ 5,099 $ 2,987 $ 3,015 $ 3,102 $ 3,632 $ 3,414 $ 3,401 $ 1,630 $ 1,569 $ 1,460 Total average deposits 8,035 7,288 5,771 7,436 6,691 5,427 4,109 4,386 3,637 1,571 1,537 1,256 Income before income taxes 111 126 75 76 89 11 55 67 24 45 41 28 CREDIT QUALITY Provision for credit losses $ 11 $ (27) $ 35 $ 4 $ (35) $ 37 $ 9 $ (12) $ 34 $ 1 $ (3) $ 7 Net loan and lease charge-offs (recoveries) (1) (1) 1 (2) 1 (1) 9 — 14 — 1 — Ratio of net charge-offs to average loans and leases (0.02) % (0.02) % 0.02 % (0.07) % 0.03 % (0.03) % 0.25 % — % 0.41 % — % 0.06 % — % Allowance for credit losses $ 40 $ 38 $ 60 $ 27 $ 26 $ 59 $ 36 $ 37 $ 47 $ 9 $ 8 $ 11 Ratio of allowance for credit losses to net loans and leases, at year-end 0.81% 0.79% 1.18% 0.90% 0.86% 1.90% 0.99% 1.08% 1.38% 0.55% 0.51% 0.75% Nonperforming assets $ 6 $ 11 $ 17 $ 9 $ 24 $ 40 $ 14 $ 18 $ 19 $ — $ 1 $ 8 Ratio of nonperforming assets to net loans and leases and other real estate owned 0.12% 0.24% 0.34% 0.27% 0.85% 1.24% 0.36% 0.53% 0.56% —% 0.06% 0.52% Zions Bank Zions Bank is headquartered in Salt Lake City, Utah, and conducts operations in Utah, Idaho, and Wyoming. If it were a separately chartered bank, it would be the second largest full-service commercial bank in Utah and the sixth largest in Idaho, as measured by domestic deposits in these states. Zions Bank’s income before income taxes increased $7 million, or 2%, during 2022. The increase was due to a $108 million increase in net interest income, partially offset by a $69 million increase in the provision for credit losses, a $31 million increase in noninterest expense, and a $1 million decrease in noninterest income. The loan portfolio 39 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES increased $1.1 billion during 2022, including increases of $655 million, $369 million, and $68 million, in consumer, commercial, and CRE loans, respectively. The ratio of ACL to net loans and leases increased to 1.17% at December 31, 2022, compared with 1.08%. Nonperforming assets decreased $48 million, or 57%, from the prior year. Deposits decreased 19% in 2022. California Bank & Trust California Bank & Trust is headquartered in San Diego, California. If it were a separately chartered bank, it would be the 17 th largest full-service commercial bank in California as measured by domestic deposits in the state. CB&T’s income before income taxes decreased $91 million, or 22%, during 2022. The decrease was due to a $127 million increase in the provision for credit losses, and a $29 million increase in noninterest expense, partially offset by a $59 million increase in net interest income and a $6 million increase in noninterest income. The loan portfolio increased $937 million during 2022, including increases of $492 million, $361 million, and $84 million, in consumer, commercial, and CRE loans, respectively. The ratio of ACL to net loans and leases increased to 0.93% at December 31, 2022, compared with 0.70%. Nonperforming assets decreased $16 million, or 39%, from the prior year. Deposits decreased 10% in 2022. Amegy Bank Amegy Bank is headquartered in Houston, Texas. If it were a separately chartered bank, it would be the ninth largest full-service commercial bank in Texas as measured by domestic deposits in the state. Amegy’s income before income taxes decreased $51 million, or 14%, during 2022. The decrease was due to a $101 million increase in the provision for credit losses, and an $18 million increase in noninterest expense, partially offset by a $51 million increase in net interest income and a $17 million increase in noninterest income. The loan portfolio increased $1.0 billion during 2022, including increases of $759 million and $322 million in commercial and consumer loans, respectively, and a decrease of $46 million in CRE loans. The ratio of ACL to net loans and leases decreased to 1.01% at December 31, 2022, compared with 1.05%. Nonperforming assets decreased $31 million, or 34%, from the prior year. Deposits decreased 14% in 2022. National Bank of Arizona National Bank of Arizona is headquartered in Phoenix, Arizona. If it were a separately chartered bank, it would be the fifth largest full-service commercial bank in Arizona as measured by domestic deposits in the state. NBAZ’s income before income taxes decreased $15 million, or 12%, during 2022. The decrease was due to a $38 million increase in the provision for credit losses, and a $16 million increase in noninterest expense, partially offset by a $37 million increase in net interest income and a $2 million increase in noninterest income. The loan portfolio increased $484 million during 2022, including increases of $188 million, $170 million, and $126 million, in consumer, commercial, and CRE loans, respectively. The ratio of ACL to net loans and leases increased to 0.81% at December 31, 2022, compared with 0.79%. Nonperforming assets decreased $5 million, or 45%, from the prior year. Deposits decreased 8% in 2022. Nevada State Bank Nevada State Bank is headquartered in Las Vegas, Nevada. If it were a separately chartered bank, it would be the fifth largest full-service commercial bank in Nevada as measured by domestic deposits in the state. NSB’s income before income taxes decreased $13 million, or 15%, during 2022. The decrease was due to a $39 million increase in the provision for credit losses, a $9 million increase in noninterest expense, and a $2 million decrease in noninterest income, partially offset by a $37 million increase in net interest income. The loan portfolio increased $467 million during 2022, including increases of $285 million, $93 million, and $89 million, in consumer, commercial, and CRE loans, respectively. The ratio of ACL to net loans and leases increased to 0.90% at December 31, 2022, compared with 0.86%. Nonperforming assets decreased $15 million, or 63%, from the prior year. Deposits decreased 5% in 2022. 40 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES In July 2022, NSB purchased three Northern Nevada City National Bank branches and their associated deposit, credit card, and loan accounts. In addition to the three branches, the purchase included approximately $430 million in deposits and $95 million in commercial and consumer loans. Vectra Bank Colorado Vectra Bank Colorado is headquartered in Denver, Colorado. If it were a separately chartered bank, it would be the twelfth largest full-service commercial bank in Colorado as measured by domestic deposits in the state. Vectra’s income before income taxes decreased $12 million, or 18%, during 2022. The decrease was due to a $21 million increase in the provision for credit losses, a $6 million increase in noninterest expense, and a $2 million decrease in noninterest income, partially offset by a $17 million increase in net interest income. The loan portfolio increased $533 million during 2022, including increases of $275 million, $131 million, and $127 million, in consumer, CRE, and commercial loans, respectively. The ratio of ACL to net loans and leases decreased to 0.99% at December 31, 2022, compared with 1.08%. Nonperforming assets decreased $4 million, or 22%, from the prior year. Deposits decreased 17% in 2022. The Commerce Bank of Washington The Commerce Bank of Washington is headquartered in Seattle, Washington, and operates in Washington under The Commerce Bank of Washington name and in Portland, Oregon, under The Commerce Bank of Oregon name. If it were a separately chartered bank, it would be the 22 nd largest full-service commercial bank in Washington and the 35 th largest in Oregon, as measured by domestic deposits in these states. TCBW’s income before income taxes increased $4 million, or 10%, during 2022. The increase was due to a $10 million increase in net interest income, and a $1 million increase in noninterest income, partially offset by a $4 million increase in the provision for credit losses, and a $3 million increase in noninterest expense. The loan portfolio increased $153 million during 2022, including increases of $89 million and $83 million in CRE and commercial loans, respectively, partially offset by a decrease of $19 million in consumer loans. The ratio of ACL to net loans and leases increased to 0.55% at December 31, 2022, compared with 0.51%. Nonperforming assets decreased $1 million from the prior year. Deposits decreased 10% in 2022. BALANCE SHEET ANALYSIS Interest-earning Assets Interest-earning assets are assets that have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see Schedule 6 on page 31. 41 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES AVERAGE OUTSTANDING LOANS AND DEPOSITS (at December 31) Investment Securities Portfolio We invest in securities to generate interest income and to actively manage liquidity and interest rate risk. Refer to the “Liquidity Risk Management” section on page 60 for additional information about how we manage our liquidity risk. See Note 3 and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. The following schedule presents the components of our investment securities portfolio. 42 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 14 INVESTMENT SECURITIES PORTFOLIO December 31, 2022 December 31, 2021 (In millions) Par Value Amortized cost Fair value Par Value Amortized cost Fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 100 $ 100 $ 93 $ — $ — $ — Agency guaranteed mortgage-backed securities 1 12,921 10,621 10,772 — — — Municipal securities 404 405 374 441 441 443 Total held-to-maturity 13,425 11,126 11,239 441 441 443 Available-for-sale U.S. Treasury securities 555 557 393 155 155 134 U.S. Government agencies and corporatio Agency securities 790 782 736 833 833 845 Agency guaranteed mortgage-backed securities 9,566 9,652 8,367 20,340 20,549 20,387 Small Business Administration loan-backed securities 691 740 712 867 938 912 Municipal securities 1,571 1,732 1,634 1,489 1,652 1,694 Other debt securities 75 75 73 75 75 76 Total available-for-sale 13,248 13,538 11,915 23,759 24,202 24,048 Total HTM and AFS investment securities $ 26,673 $ 24,664 $ 23,154 $ 24,200 $ 24,643 $ 24,491 1 During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category to reflect our intent for these securities. The amortized cost basis of these securities does not include $2.4 billion of unrealized losses in AOCI that is amortized over the life of the securities. The amortization of the unrealized losses reported in AOCI will offset the effect of the accretion of the discount in interest income that is created by adjusting the amortized cost basis to the securities' fair value on the date of the transfer. The amortized cost of total HTM and AFS investment securities increased $21 million during 2022. Approximately 8% and 11% of the total HTM and AFS investment securities portfolio had a variable-rate at December 31, 2022 and December 31, 2021, respectively. At December 31, 2022, the AFS investment securities portfolio included approximately $290 million of net premium that was distributed across various security types. Total taxable-equivalent premium amortization for these investment securities was $103 million in 2022, compared with $118 million in 2021. In addition to HTM and AFS securities, we also have a Trading securities portfolio of $465 million and $372 million, at December 31, 2022 and December 31, 2021, respectively, which is comprised primarily of municipal securities and money market sweep transactions for customers. Refer to the “Capital Management” section on page 65 and Note 5 of the Notes to Consolidated Financial Statements for more discussion regarding our investment securities portfolio and related unrealized gains and losses. Municipal Investments and Extensions of Credit We support our communities by providing products and services to state and local governments (“municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. Our municipal lending products generally include loans in which the debt service is repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. 43 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule summarizes our total investments and extensions of credit to municipaliti Schedule 15 MUNICIPAL INVESTMENTS AND EXTENSIONS OF CREDIT December 31, (In millions) 2022 2021 Loans and leases $ 4,361 $ 3,658 Held-to-maturity – municipal securities 405 441 Available-for-sale – municipal securities 1,634 1,694 Trading account – municipal securities 71 355 Unfunded lending commitments 406 280 Total $ 6,877 $ 6,428 Our municipal loans and securities are primarily associated with municipalities located within our geographic footprint. The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. At December 31, 2022, no municipal loans were on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At December 31, 2022, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. Loan and Lease Portfolio We focus on serving and creating value for our customers and communities by helping them achieve their potential, optimize their daily operations, create economic opportunities for them, and grow their business. We do this by providing a wide range of lending products to commercial customers, generally small- and medium-sized businesses. We also provide various retail lending products and services to consumers and small businesses. The following schedule presents the composition of our loan and lease portfolio. 44 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 16 LOAN AND LEASE PORTFOLIO December 31, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 16,180 29.1 % $ 13,867 27.3 % PPP 197 0.4 1,855 3.6 Leasing 386 0.7 327 0.6 Owner-occupied 9,371 16.8 8,733 17.2 Municipal 4,361 7.8 3,658 7.2 Total commercial 30,495 54.8 28,440 55.9 Commercial real estate: Construction and land development 2,513 4.5 2,757 5.4 Term 10,226 18.4 9,441 18.6 Total commercial real estate 12,739 22.9 12,198 24.0 Consume Home equity credit line 3,377 6.1 3,016 5.9 1-4 family residential 7,286 13.1 6,050 11.9 Construction and other consumer real estate 1,161 2.1 638 1.3 Bankcard and other revolving plans 471 0.8 396 0.8 Other 124 0.2 113 0.2 Total consumer 12,419 22.3 10,213 20.1 Total loans and leases $ 55,653 100.0 % $ 50,851 100.0 % Our loan and lease portfolio grew significantly during 2022. At December 31, 2022 and 2021, the ratio of loans and leases to total assets was 62% and 55%, respectively. The largest loan category was commercial and industrial loans, which constituted 29% and 27% of our total loan portfolio for the same time periods. The loan and lease portfolio increased $4.8 billion, or 9%, to $55.7 billion at December 31, 2022. Excluding PPP loans, total loans and leases increased $6.5 billion, or 13%, to $55.5 billion. Loan growth was driven largely by increases of $2.3 billion in commercial and industrial loans, $1.2 billion in consumer 1-4 family residential mortgage loans, $0.8 billion in commercial real estate term loans, and $0.7 billion in municipal loans. The following schedule presents the contractual maturity distribution of our loan and lease portfolio. 45 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 17 LOAN AND LEASE PORTFOLIO BY CONTRACTUAL MATURITY December 31, 2022 (In millions) One year or less One year through five years Five years through fifteen years Over fifteen years Total Commerci Commercial and industrial $ 9,019 $ 5,232 $ 1,897 $ 32 $ 16,180 PPP — 197 — — 197 Leasing 20 258 108 — 386 Owner-occupied 476 1,426 5,851 1,618 9,371 Municipal 407 524 2,521 909 4,361 Total commercial 9,922 7,637 10,377 2,559 30,495 Commercial real estate: Construction and land development 1,202 1,232 28 51 2,513 Term 2,148 5,259 2,673 146 10,226 Total commercial real estate 3,350 6,491 2,701 197 12,739 Consume Home equity credit line 101 16 242 3,018 3,377 1-4 family residential 50 36 183 7,017 7,286 Construction and other consumer real estate 1 1 19 1,140 1,161 Bankcard and other revolving plans 337 134 — — 471 Other 11 73 40 — 124 Total consumer 500 260 484 11,175 12,419 Total loans and leases $ 13,772 $ 14,388 $ 13,562 $ 13,931 $ 55,653 Our loans and leases have predetermined (fixed) or variable interest rates. The following schedule presents the interest rate composition of our loan and lease portfolio with a contractual maturity date over one year. For more information on our interest rate risk management, see “Interest Rate Risk” on page 56. 46 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 18 LOAN AND LEASE PORTFOLIO WITH CONTRACTUAL MATURITIES OVER ONE YEAR BY INTEREST RATE TYPE December 31, 2022 Loans with contractual maturities over one year (In millions) Predetermined (fixed) interest rates Variable interest rates Total Commerci Commercial and industrial $ 2,419 $ 4,742 $ 7,161 PPP 197 — 197 Leasing 366 — 366 Owner-occupied 3,345 5,550 8,895 Municipal 3,293 661 3,954 Total commercial 9,620 10,953 20,573 Commercial real estate: Construction and land development 67 1,244 1,311 Term 1,662 6,416 8,078 Total commercial real estate 1,729 7,660 9,389 Consume Home equity credit line 190 3,086 3,276 1-4 family residential 538 6,698 7,236 Construction and other consumer real estate — 1,160 1,160 Bankcard and other revolving plans 3 131 134 Other 111 2 113 Total consumer 842 11,077 11,919 Total loans and leases $ 12,191 $ 29,690 $ 41,881 Other Noninterest-bearing Investments Other noninterest-bearing investments are equity investments that are held primarily for capital appreciation, dividends, or for certain regulatory requirements. The following schedule summarizes our related investments: Schedule 19 OTHER NONINTEREST-BEARING INVESTMENTS December 31, Amount change Percent change (Dollar amounts in millions) 2022 2021 Bank-owned life insurance $ 546 $ 537 $ 9 2 % Federal Home Loan Bank stock 294 11 283 NM Federal Reserve stock 68 81 (13) (16) Farmer Mac stock 19 19 — — SBIC investments 172 179 (7) (4) Other 31 24 7 29 Total other noninterest-bearing investments $ 1,130 $ 851 $ 279 33 % Total other noninterest-bearing investments increased $279 million, or 33%, primarily due to a $283 million increase in FHLB stock. We are required to invest 4% of our FHLB borrowings in FHLB stock to maintain our borrowing capacity. The increase in FHLB stock was driven largely by increases in FHLB short-term borrowings during 2022 as a result of loan growth and declines in interest-bearing deposits. 47 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Premises, Equipment, and Software Net premises, equipment, and software increased $89 million, or 7%, primarily due to capitalized costs related to the construction of a new corporate technology center in Midvale, Utah, which was completed in July 2022, and a new corporate center for Vectra in Denver, Colorado, which was completed in January 2023. We are also in the final phase of a three-phase project to replace our core loan and deposit banking systems, and are on track to convert our deposit servicing system in 2023. Capitalized costs associated with the core system replacement project are generally amortized over ten years, and are summarized in the following schedule. Schedule 20 CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT December 31, 2022 (In millions) Phase 1 Phase 2 Phase 3 Total Total amount of capitalized costs, less accumulated amortization $ 30 $ 55 $ 201 $ 286 Deposits Deposits are our primary funding source. In recent years, we benefited from a significant influx of deposits, which was impacted by considerable fiscal and monetary policy decisions. Our strong liquidity position at the beginning of 2022 afforded us the ability to prioritize the quality of deposits over quantity. During 2022, with the withdrawal of stimulus by the federal government, our deposits declined to more normalized levels and remained above regulatory and internal Bank limits. The following schedule presents our deposits by category and percentage of total deposits. Schedule 21 DEPOSITS December 31, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Noninterest-bearing demand $ 35,777 49.9 % $ 41,053 49.6 % Interest-bearin Savings and money market 33,566 46.9 40,114 48.4 Time 2,309 3.2 1,622 2.0 Total deposits $ 71,652 100.0 % $ 82,789 100.0 % Total deposits decreased $11.1 billion, or 13%, in 2022, primarily due to decreases in larger-balance and more rate-sensitive, nonoperating deposits. Interest-bearing deposits decreased $5.9 billion, or 14%, and noninterest-bearing deposits decreased $5.3 billion, or 13%. Total deposits included $0.9 billion and $0.4 billion of brokered deposits for the same time periods. Total deposits at December 31, 2022 also included approximately $347 million in deposits associated with the purchase of three Northern Nevada City National Bank branches by NSB in July 2022. Our deposit costs remained well controlled, reflecting the granularity of our deposit base and the extent of our noninterest-bearing deposits. We continue to actively manage our deposit base and associated deposit costs in response to the rising interest rate environment. We expect our deposit costs to increase over the near term in view of increased competition for low-cost funding sources. Nevertheless, we expect our overall cost of funds to remain low relative to our peers. See Notes 12 and 13 of the Notes to Consolidated Financial Statements and “Liquidity Risk Management” on page 60 for additional information on funding and borrowed funds. Total time deposits that exceed the current FDIC insurance limit of $250,000 totaled $527 million and $563 million at December 31, 2022 and December 31, 2021, respectively. The estimated total amount of uninsured deposits, including related interest accrued and unpaid, was $38 billion and $49 billion at December 31, 2022 and December 31, 2021, respectively. 48 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We utilize the three lines of defense approach to risk management with responsibilities for each line of defense defined in our Risk Management Framework. The first line of defense represents units and functions throughout the Bank engaged in activities related to revenue generation, expense reduction, operational support, and technology services. These units and functions are accountable for owning and managing the risks associated with these activities. The second line of defense represents functions responsible for independently assessing and overseeing risk management activities. The third line of defense is our internal audit function that provides independent assessment of the effectiveness of the first and second lines of defense. In support of management’s efforts, the Board has established certain committees to oversee our risk management processes. The Audit Committee oversees financial reporting risk, and the ROC oversees the other risk management processes. The ROC meets on a regular basis to monitor and review Enterprise Risk Management (“ERM”) activities. As required by its charter, the ROC provides oversight for various ERM activities and approves ERM policies and activities as detailed in the ROC charter. We employ various strategies to reduce the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cybersecurity risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by various management committees of which the Enterprise Risk Management Committee is the focal point. Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. The Board, through the ROC, is responsible for approving the overall credit policies relating to the management of credit risk. The ROC also oversees and monitors adherence to key credit policies and the credit risk appetite as defined in the Risk Management Framework. The Board has delegated responsibility for managing credit risk and approving changes to credit policies to the Chief Credit Officer, who chairs the Credit Risk Committee. Credit policies, credit risk management, and credit examination functions inform and support the oversight of credit risk. Our credit policies emphasize strong underwriting standards and early detection of potential problem credits in order to develop and implement action plans on a timely basis to mitigate potential losses. These formal credit policies and procedures provide us with a framework for consistent underwriting and a basis for sound credit decisions at the local banking affiliate level. Policies include standards for sensitivity and scenario analyses that assess the resilience of the borrower, including the borrower’s ability to service the loan in a rising interest rate environment. Our credit policies and practices are also designed to help manage potential risks, including those arising from environmental issues. Environmental risk related to our lending practices is primarily covered in our environmental credit policy and by our environmental subject matter experts and management. The extent of environmental due diligence performed by our environmental risk team is based on the risks identified at each property and the loan amount. The extension of credit to certain borrowers, or those connected with certain activities, may be restricted or require escalated approval, by policy, because of various environmental risks. Our credit risk management function is separate from the lending function and strengthens control over, and the independent evaluation of, credit activities. In addition, we have a well-defined set of standards for evaluating our loan portfolio, and we utilize a comprehensive loan risk-grading system to determine the risk potential in the portfolio. The internal credit examination department, which is independent of the lending function, periodically conducts examinations of our lending departments and credit activities. These examinations are designed to review credit 49 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES quality, adequacy of documentation, appropriate loan risk-grading administration, and compliance with credit policies. Credit examinations related to the ACL are reported to both the Audit Committee and the ROC. Our overall credit risk management strategy includes diversification of our loan portfolio. Our business activity is conducted primarily within the geographic footprint of our banking affiliates. We strive to avoid the risk of undue concentrations of credit in any particular industry, collateral type, location, or with any individual customer or counterparty. We have adopted and adhere to concentration limits on certain commercial industries, including leveraged lending, municipal lending, oil and gas-related lending, and various types of CRE lending, particularly construction and land development lending. Concentration limits are regularly monitored and revised as necessary. Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by U.S. government agencies, such as the SBA, Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At December 31, 2022, approximately $649 million of these loans were guaranteed, primarily by the SBA. The following schedule presents the composition of U.S. government agency guaranteed loans. Schedule 22 U.S. GOVERNMENT AGENCY GUARANTEES (Dollar amounts in millions) December 31, 2022 Percent guaranteed December 31, 2021 Percent guaranteed Commercial $ 753 83 % $ 2,410 95 % Commercial real estate 21 76 22 73 Consumer 5 100 5 100 Total loans $ 779 83 % $ 2,437 94 % Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. Schedule 23 COMMERCIAL LENDING BY INDUSTRY GROUP 1 December 31, 2022 December 31, 2021 (Dollar amounts in millions) Amount Percent Amount Percent Finance and insurance $ 2,992 9.8 % $ 2,303 8.1 % Real estate, rental and leasing 2,802 9.2 2,536 8.9 Retail trade 2,751 9.0 2,412 8.5 Manufacturing 2,387 7.8 2,374 8.3 Healthcare and social assistance 2,373 7.8 2,349 8.2 Public Administration 2,366 7.8 1,959 6.9 Wholesale trade 1,880 6.2 1,701 6.0 Transportation and warehousing 1,464 4.8 1,273 4.5 Utilities 2 1,418 4.6 1,446 5.1 Construction 1,355 4.4 1,456 5.1 Mining, quarrying, and oil and gas extraction 1,349 4.4 1,185 4.2 Educational services 1,302 4.3 1,163 4.1 Hospitality and food services 1,238 4.1 1,353 4.8 Other Services (except Public Administration) 1,041 3.4 1,213 4.2 Professional, scientific, and technical services 995 3.3 1,084 3.8 Other 3 2,782 9.1 2,633 9.3 Total $ 30,495 100.0 % $ 28,440 100.0 % 1 Industry groups are determined by North American Industry Classification System (NAICS) codes. 2 Includes primarily utilities, power, and renewable energy. 3 At December 31, 2022, no other industry group individually exceeded 2.9%. 50 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Commercial Real Estate Loans At December 31, 2022 and 2021, our CRE loan portfolio totaled $12.7 billion and $12.2 billion, representing approximately 23% and 24% of the total loan portfolio, respectively. The majority of our CRE loans are secured by real estate, which is primarily located within our geographic footprint. At December 31, 2022, approximately 26% of the CRE loan portfolio matures in one year or less. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with one- to five-year extension options or roll-to-perm options that often result in term debt. Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and non-recourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. The following schedule provides information regarding lending exposures to certain collateral types in our commercial real estate lending portfolio. Schedule 24 COMMERCIAL REAL ESTATE LENDING BY COLLATERAL TYPE December 31, 2022 December 31, 2021 (Dollar amounts in millions) Amount Percent Amount Percent Commercial property Multi-family $ 3,068 24.1 % $ 2,835 23.2 % Industrial 2,509 19.7 1,997 16.4 Office 2,281 17.9 2,372 19.5 Retail 1,529 12.0 1,594 13.1 Hospitality 695 5.4 689 5.6 Land 276 2.2 249 2.0 Other 1 1,728 13.5 1,792 14.7 Residential property Single family 340 2.7 380 3.1 Land 75 0.6 33 0.3 Condo/Townhome 13 0.1 10 0.1 Other 1 225 1.8 247 2.0 Total $ 12,739 100.0 % $ 12,198 100.0 % 1 Included in the total amount of the “Other” category was approximately $301 million and $440 million of unsecured loans at December 31, 2022 and 2021, respectively. Underwriting on commercial properties is primarily based on the economic viability of the project with significant consideration given to the creditworthiness and experience of the sponsor. We generally require that the owner’s equity be injected prior to any advances. Re-margining requirements (required equity infusions upon a decline in value or cash flow of the collateral) are often included in the loan agreement along with guarantees of the sponsor. Within the residential construction and development sector, many of the requirements previously mentioned, such as creditworthiness and experience of the developer, up-front injection of the developer’s equity, principal curtailment requirements, and the viability of the project are also important in underwriting a residential development loan. Consideration is given to the expected market acceptance of the product, location, strength of the developer, and the ability of the developer to stay within budget. Progress inspections by qualified independent inspectors are routinely performed before disbursing loan funds. Advance rates will vary based on the collateral, viability of the project, and the creditworthiness of the sponsor, with exceptions granted on a case-by-case basis. Real estate appraisals are performed in accordance with regulatory guidelines and are validated independently of the loan officer and the borrower, generally by our internal appraisal review team. In some cases, reports from automated valuation services are used or internal evaluations are performed. A new appraisal or evaluation is required when a loan deteriorates to a certain level of credit weakness. 51 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Loan agreements require regular financial information on the project and the sponsor in addition to lease schedules, rent rolls and, on construction projects, independent progress inspection reports. We monitor this financial information to ensure adherence to covenants set forth in the loan agreement. The existence of a guarantee that improves the likelihood of repayment is taken into consideration when evaluating CRE loans for expected losses. If guarantor support is quantifiable and documented, it is considered in the potential cash flows and liquidity available for debt repayment. Our expected loss methodology also considers these sources of repayment. In general, we obtain and evaluate updated financial information for the guarantor as part of our determination to extend credit. The quality and frequency of financial reporting collected and analyzed varies depending on the contractual requirements for reporting, the size of the transaction, and the strength of the guarantor. In the event of default, we pursue any and all available sources of repayment, including from collateral and guarantors. A number of factors are considered when deciding whether to pursue a guarantor, including, but not limited to, the value and liquidity of other sources of repayment (collateral), the financial strength and liquidity of the guarantor, possible statutory limitations, and the overall cost of pursuing a guarantee versus the amount we are likely to recover. Consumer Loans Residential Mortgages We originate first-lien residential home mortgages considered to be of prime quality. We generally hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. Our 1-4 family residential mortgage loan portfolio increased $1.2 billion, or 20%, to $7.3 billion at December 31, 2022, primarily due to an increased demand for variable-rate mortgages, which we have retained as part of our overall interest rate risk management strategy. Home Equity Credit Lines We also originate home equity credit lines (“HECL”). At December 31, 2022 and 2021, the outstanding balance of our HECL portfolio totaled $3.4 billion and $3.0 billion, respectively. The following schedule presents the composition of our HECL portfolio by lien status. Schedule 25 HECL PORTFOLIO BY LIEN STATUS December 31 (In millions) 2022 2021 Secured by first liens $ 1,474 $ 1,503 Secured by second (or junior) liens 1,903 1,513 Total $ 3,377 $ 3,016 At December 31, 2022, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral-value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with high credit scores. Approximately 91% of our HECL portfolio is still in the draw period, and about 18% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is minimal. The ratio of HECL net recoveries for the trailing twelve months to average balances at December 31, 2022 and 2021 was 0.03% and 0.01%, respectively. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of our 1-4 family residential mortgage portfolio and our HECL portfolio. 52 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nonperforming Assets Nonperforming assets include nonaccrual loans and other real estate owned (“OREO”) or foreclosed properties. Nonperforming assets as a percentage of loans and leases and OREO decreased to 0.27% at December 31, 2022, compared with 0.53% at December 31, 2021. Total nonaccrual loans at December 31, 2022 decreased to $149 million from $271 million, reflecting strong credit quality improvements across most of our loan portfolios. The balance of nonaccrual loans can decrease due to paydowns, charge-offs, and the return of loans to accrual status under certain conditions. If a nonaccrual loan is refinanced or restructured, the new note is immediately placed on nonaccrual. If a restructured loan performs under the new terms for at least a period of six months, the loan can be considered for return to accrual status. See “Restructured Loans” and Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. The following schedule presents our nonperforming assets and accruing loans past due 90 days or more. Schedule 26 NONPERFORMING ASSETS (Dollar amounts in millions) December 31, 2022 2021 2020 2019 2018 Nonaccrual loa Loans held for sale $ — $ — $ — $ — $ 6 Commerci Commercial and industrial 56 124 140 110 82 PPP 7 3 — — — Leasing — — — — 2 Owner-occupied 24 57 76 65 67 Municipal — — — — 1 Commercial real estate: Term 14 20 31 16 38 Consume Real estate 48 66 119 52 55 Other — 1 1 — 1 Nonaccrual loans 149 271 367 243 252 Other real estate owned 1 : Commerci Commercial properties — 1 4 5 2 Developed land — — — 1 — Land — — — 1 — Residenti 1-4 family — — — 1 2 Other real estate owned — 1 4 8 4 Total nonperforming assets $ 149 $ 272 $ 371 $ 251 $ 256 Accruing loans past due 90 days or mo Commerci $ 5 $ 7 $ 2 $ 9 $ 7 Commercial real estate — — 8 — 1 Consumer 1 1 2 1 2 Total $ 6 $ 8 $ 12 $ 10 $ 10 Ratio of nonaccrual loans to net loans and leases 2 0.27 % 0.53 % 0.69 % 0.50 % 0.54 % Ratio of nonperforming assets to net loans and leases 2 and other real estate owned 0.27 % 0.53 % 0.69 % 0.51 % 0.55 % Ratio of accruing loans past due 90 days or more to net loans and leases 2 0.01 % 0.02 % 0.02 % 0.02 % 0.02 % 1 Does not include banking premises held for sale. 2 Includes loans held for sale. 53 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Troubled Debt Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are classified as troubled debt restructurings (“TDRs”). At December 31, 2022 and 2021, TDRs totaled $235 million and $326 million, respectively. Modifications that qualified for applicable accounting and regulatory exemptions for borrowers experiencing financial difficulties exclusively related to the COVID-19 pandemic were not classified and reported as TDRs. If the restructured loan performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the restructuring is taken into account to determine whether a loan is returned to accrual status. Schedule 27 ACCRUING AND NONACCRUING TROUBLED DEBT RESTRUCTURED LOANS December 31, (In millions) 2022 2021 2020 2019 2018 Restructured loans – accruing $ 197 $ 221 $ 198 $ 78 $ 112 Restructured loans – nonaccruing 38 105 113 75 90 Total $ 235 $ 326 $ 311 $ 153 $ 202 In the periods following the calendar year in which a loan was restructured, a loan may no longer be reported as a TDR if it is accruing, is in compliance with its modified terms, and yields a market rate (as determined and documented at the time of the modification or restructure). See Note 6 of the Notes to Consolidated Financial Statements for additional information regarding TDRs. Schedule 28 TROUBLED DEBT RESTRUCTURED LOANS ROLLFORWARD (In millions) 2022 2021 Balance at beginning of year $ 326 $ 311 New identified troubled debt restructuring and principal increases 68 235 Payments and payoffs (131) (117) Charge-offs (9) (3) No longer reported as troubled debt restructuring (3) (86) Sales and other (16) (14) Balance at end of year $ 235 $ 326 Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. The following schedules present the changes in and allocation of the ACL: 54 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 29 CHANGES IN THE ALLOWANCE FOR CREDIT LOSSES (Dollar amounts in millions) 2022 2021 2020 2019 2018 Loans and leases outstanding, on December 31, $ 55,653 $ 50,851 $ 53,476 $ 48,709 $ 46,714 Average loans and leases outstandin Commercial - excluding PPP loans 28,500 25,014 25,193 24,990 23,333 Commercial - PPP loans 725 4,566 4,534 — — Commercial real estate 12,251 12,136 11,854 11,675 11,079 Consumer 11,122 10,267 11,435 11,600 11,013 Total average loans and leases outstanding $ 52,598 $ 51,983 $ 53,016 $ 48,265 $ 45,425 Allowance for loan and lease loss Balance at beginning of year 1 $ 513 $ 777 $ 497 $ 495 $ 518 Provision for loan losses 101 (258) 385 37 (39) Charge-offs: Commercial 72 35 113 57 46 Commercial real estate — — 1 4 5 Consumer 10 13 14 17 18 Total 82 48 128 78 69 Recoveri Commercial 32 29 14 25 68 Commercial real estate — 3 — 6 9 Consumer 11 10 9 10 8 Total 43 42 23 41 85 Net loan and lease charge-offs 39 6 105 37 (16) Balance at end of year $ 575 $ 513 $ 777 $ 495 $ 495 Reserve for unfunded lending commitments: Balance at beginning of year 1 $ 40 $ 58 $ 29 $ 57 $ 58 Provision for unfunded lending commitments 21 (18) 29 2 (1) Balance at end of year $ 61 $ 40 $ 58 $ 59 $ 57 Total allowance for credit loss Allowance for loan and lease losses $ 575 $ 513 $ 777 $ 495 $ 495 Reserve for unfunded lending commitments 61 40 58 59 57 Total allowance for credit losses $ 636 $ 553 $ 835 $ 554 $ 552 Ratio of allowance for credit losses to net loans and leases, on December 31, 2 1.14 % 1.09 % 1.56 % 1.14 % 1.18 % Ratio of allowance for credit losses to nonaccrual loans, on December 31, 427 % 204 % 228 % 228 % 224 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, on December 31, 410 % 198 % 220 % 220 % 216 % Ratio of total net charge-offs to average total loans and leases 3 0.07 % 0.01 % 0.20 % 0.08 % (0.04) % Ratio of commercial net charge-offs to average commercial loans 0.14 % 0.02 % 0.33 % 0.13 % (0.09) % Ratio of commercial real estate net charge-offs to average commercial real estate loans 0.00 % (0.02) % 0.01 % (0.02) % (0.04) % Ratio of consumer net charge-offs to average consumer loans (0.01) % 0.03 % 0.04 % 0.06 % 0.09 % 1 Beginning balances at January 1, 2020 for the allowance for loan and lease losses and reserve for unfunded lending commitments do not agree to their respective ending balances at December 31, 2019 because of the adoption of the CECL accounting standard. 2 The ratio of allowance for credit losses to net loans and leases (ex-PPP loans), at December 31, 2022 and 2021 was 1.15% and 1.13%, respectively. 3 The ratio of total net charge-offs to average loans and leases (ex-PPP loans), at December 31, 2022 and 2021 was 0.08% and 0.01%, respectively. 55 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 30 ALLOCATION OF THE ALLOWANCE FOR CREDIT LOSSES December 31, 2022 2021 2020 2019 2018 (Dollar amounts in millions) % of total loans Allocation of ACL % of total loans Allocation of ACL % of total loans Allocation of ACL % of total loans Allocation of ACL % of total loans Allocation of ACL Loan segment Commercial 54.8 % $ 316 55.9 % $ 330 57.0 % $ 494 52.1 % $ 380 51.7 % $ 371 Commercial real estate 22.9 189 24.0 118 22.6 191 23.7 121 23.8 127 Consumer 22.3 131 20.1 105 20.4 150 24.2 53 24.5 54 Total 100.0 % $ 636 100.0 % $ 553 100.0 % $ 835 100.0 % $ 554 100.0 % $ 552 The total ACL increased $83 million during 2022, primarily due to loan growth and deterioration in economic scenarios, partially offset by improvements in credit quality. Due to the adoption of the current expected credit loss (“CECL”) standard in 2020, the ACL is not comparable to periods presented prior to that time. The RULC, which represents a reserve for potential losses associated with off-balance sheet loan commitments, increased $21 million during 2022. The reserve is separately recorded on the consolidated balance sheet in “Other liabilities,” and any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. Because we engage in transactions involving various financial products, we are exposed to both interest rate risk and market risk. Our Board approves the overall policies relating to the management of our financial risk, including interest rate and market risk management. The Board has delegated the responsibility of managing our interest rate and market risk to the Asset/Liability Committee (“ALCO”), which consists of members of management. ALCO establishes and periodically revises policy limits and reviews with the ROC the limits and limit exceptions reported by management. Interest Rate Risk Interest rate risk is one of the most significant risks to which we are regularly exposed. We strive to position the Bank for interest rate changes and manage the balance sheet sensitivity to reduce net interest income volatility. We generally have granular, stable deposit funding. Much of this funding has an indeterminate life with no maturity and can be withdrawn at any time. However, because most deposits come from household and business accounts, their duration is generally long, compared with the short duration of our loan portfolio. As such, we are naturally “asset-sensitive” — meaning that our assets are expected to reprice faster or more significantly than our liabilities. In previous interest rate environments, we have added (1) interest rate swaps to synthetically increase the duration of the loan portfolio, (2) longer-duration securities, and (3) longer-duration loans to reduce the asset sensitivity to a level where an increase in interest rates of 100 bps would result in a positive change in net interest income. Asset sensitivity measures depend upon assumptions we use for deposit runoff and repricing behavior. As interest rates rise, we expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. Our models are particularly sensitive to the assumption about the rate of such migration. 56 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES We also assume a correlation, referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-bearing checking accounts are assumed to have a lower correlation. We anticipate that changes in deposit rates will lag changes in reference rates. Our modeled cost of total deposits for December 2023 is approximately 0.80% without the effect of additional Federal Reserve rate hikes. Additional rate hikes would be expected to result in further increases to the cost of total deposits. Actual results may differ materially due to various factors, including the shape of the yield curve, competitive pricing, money supply, our credit worthiness, etc. We use our historical experience as well as industry data to inform our assumptions. The migration and correlation assumptions previously discussed result in deposit durations presented in the following schedu Schedule 31 DEPOSIT ASSUMPTIONS December 31, 2022 December 31, 2021 Product Effective duration (unchanged) Effective duration (+200 bps) Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 3.6 % 3.5 % 3.6 % 2.8 % Money market 2.3 % 2.0 % 1.7 % 1.7 % Savings and interest-bearing 3.1 % 2.8 % 2.4 % 2.2 % As the more rate-sensitive deposits have runoff, the effective duration of deposits has lengthened due to remaining deposits that are assumed to be less rate sensitive. Additionally, we utilize derivatives to manage interest rate risk. The following schedule presents derivatives that are designated in qualifying hedging relationships at December 31, 2022. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each category of cash flow and fair value hedge. See Note 7 of the Notes to Consolidated Financial Statements for additional information regarding the impact of these hedging relationships on interest income and expense. 57 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 32 DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2023 2024 2025 2026 (Dollar amounts in millions) First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter Cash flow hedges Cash flow asset hedges 1 Average outstanding notional $ 7,500 $ 7,033 $ 6,733 $ 6,433 $ 6,000 $ 5,666 $ 5,233 $ 4,733 $ 3,488 $ 2,033 Weighted-average fixed-rate received 1.76 % 1.75 % 1.71 % 1.63 % 1.53 % 1.48 % 1.41 % 1.37 % 1.48 % 1.40 % 2023 2024 2025 2026 2027 2028 2029 2030 2031 2032 Fair value hedges Fair value debt hedges 2 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — $ — Weighted-average fixed-rate received 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % — % — % — % Fair value asset hedges 3 Average outstanding notional $ 827 $ 1,099 $ 1,212 $ 1,217 $ 1,213 $ 1,208 $ 1,203 $ 1,198 $ 1,192 $ 1,156 Weighted-average fixed-rate paid 1.65 % 1.71 % 1.74 % 1.74 % 1.74 % 1.73 % 1.73 % 1.73 % 1.73 % 1.73 % 1.72 % 1 Cash flow asset hedges consist of receive-fixed swaps hedging pools of floating-rate loans. 2 Fair value debt hedges consist of receive-fixed swaps hedging fixed-rate debt. The $500 million fair value debt hedge matures at the end of July 2029. 3 Fair value asset hedges consist of pay-fixed swaps hedging fixed-rate AFS securities. Increasing notional amounts are due to forward starting swaps. Incorporating the deposit assumptions and the impact of derivatives in qualifying hedging relationships previously discussed, the following schedule presents earnings at risk (“EaR”), or the percentage change in 12-month forward-looking net interest income, and our estimated percentage change in economic value of equity (“EVE”). Both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. Schedule 33 INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY December 31, 2022 December 31, 2021 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Earnings at Risk (EaR) (2.4) % — % 2.4 % 4.8 % 7.1 % (5.2) % — % 11.2 % 22.7 % 33.6 % Economic Value of Equity (EVE) 2.0 % — % (1.1) % (2.3) % (3.7) % 20.9 % — % 0.8 % (0.5) % (1.2) % 1 Assumes rates cannot go below zero in the negative rate shift. The asset sensitivity, as measured by EaR, decreased during 2022, primarily due to (1) deposit runoff, (2) an increase in receive-fixed-rate swap notional, (3) an increase in the amount of fixed-rate securities, and (4) a higher level of “base-case” net interest income, which reduced the percentage change for the same modeled dollar change in net interest income. For interest-bearing deposits with indeterminate maturity, the weighted average modeled beta is 26%. If the weighted average deposit beta were to increase to 35%, the EaR in the +100 bps rate shock would change from 2.4% to 1.3%. 58 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The EaR analysis focuses on parallel rate shocks across the term structure of benchmark interest rates. In a non-parallel rate scenario where the overnight rate increases 200 bps, but the ten-year rate increases only 30 bps, the increase in EaR is modeled to be approximately two-thirds of the change associated with the parallel +200 bps rate change. EaR has inherent limitations in describing expected changes in net interest income in rapidly changing interest rate environments due to a lag in asset and liability repricing behavior. As such, we expect net interest income to change due to “latent” and “emergent” interest rate sensitivity. Unlike EaR, which measures net interest income over 12 months, latent and emergent interest rate sensitivity explains changes in current quarter net interest income (ex-PPP), compared with expected net interest income in the same quarter one year forward. Latent interest rate sensitivity refers to future changes in net interest income based upon past rate movements that have yet to be fully recognized in revenue, but will be recognized over the near term. We expect latent sensitivity to reduce net interest income by approximately 1% at December 31, 2023, compared with December 31, 2022 (ex-PPP). Emergent interest rate sensitivity refers to future changes in net interest income based upon future interest rate movements and is measured from the latent level of net interest income. If interest rates rise consistent with the forward curve at December 31, 2022, we expect emergent sensitivity to reduce net interest income by approximately 1% from the latent sensitivity level, for a cumulative 2% reduction in net interest income. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At December 31, 2022, $25.2 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. Of these variable-rate loans, approximately 98% are tied to either the prime rate, London Interbank Offered Rate (“LIBOR”), Secured Overnight Financing Rate (“SOFR”), American Interbank Offered Rate (“AMERIBOR”), or Bloomberg Short-term Bank Yield (“BSBY”). For these variable-rate loans, we have executed $7.3 billion of cash flow hedges by receiving fixed rates on interest rate swaps. At December 31, 2022, we also had $3.6 billion of variable-rate consumer loans scheduled to reprice in the next six months. The impact on asset sensitivity from commercial or consumer loans with floors has become insignificant as rates have risen. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. LIBOR Transition LIBOR is being phased out globally, and banks are required to migrate to alternative reference rates no later than June 2023. To facilitate the transition process, we instituted an orderly enterprise-wide program to identify, assess, and monitor risks associated with the expected discontinuance or unavailability of LIBOR. This program included active engagement or involvement of senior management, the Enterprise Risk Management Committee, industry working groups, and our regulators. We have implemented processes, procedures, and systems to ensure contract risk is sufficiently mitigated. New originations, and any modifications or renewals of LIBOR-based contracts, contain fallback language to facilitate transition to an alternative reference rate. For our contracts that referenced LIBOR and had a duration beyond June 2023, all fallback provisions and variations were identified and classified based upon those provisions. At December 31, 2022, we had approximately $14.2 billion in loans (mainly commercial loans), unfunded lending commitments, and securities referencing LIBOR. The amount of borrowed funds referencing LIBOR at December 31, 2022 was less than $1 billion. These amounts exclude derivative assets and liabilities on the consolidated balance sheet. At December 31, 2022, the notional amount of our LIBOR-referenced interest rate derivative contracts was $8.4 billion, of which nearly all related to contracts with central counterparty clearinghouses. We support our customers’ needs by accommodating various alternative reference rates, including the Constant Maturity Treasury (“CMT”) rate, the FHLB rate, SOFR, BSBY, the prime rate, and AMERIBOR. During 2022, a significant number of customers voluntarily migrated to an alternative reference rate. We expect the remaining 59 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES customers will move to an alternative rate index in accordance with the relevant fallback provisions in their contracts prior to June 2023. Under the Adjustable Interest Rate (LIBOR) Act of 2022, the Federal Reserve identified benchmark replacement rates for LIBOR contracts lacking fallback provisions with a clearly defined or practical replacement benchmark rate. Where applicable, these replacement rates will be used. For more information on the transition from LIBOR, see related risk factors on page 13. Market Risk — Fixed Income We underwrite municipal and corporate securities. We also trade municipal, agency, and U.S. Treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. At December 31, 2022 and 2021, we had $465 million and $372 million of trading assets, and $187 million and $254 million of securities sold, not yet purchased, respectively. We are exposed to market risk through changes in fair value. This includes market risk for interest rate swaps used to hedge interest rate risk. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in AOCI for each financial reporting period. During 2022, the after-tax change in AOCI attributable to AFS securities decreased $2.7 billion, compared with a $336 million decrease during 2021, due largely to increases in benchmark interest rates. See Note 5 of the Notes to Consolidated Financial Statements for further information regarding the accounting for investment securities. As discussed in the Net Interest Income and NIM section above, our deposit costs remained well controlled, reflecting the granularity of our deposit base and the extent of our noninterest-bearing deposits. This funding advantage is more pronounced in a rising interest rate environment, creating meaningful economic value that is not fully reflected on our balance sheet since deposits and related intangible assets are not recorded at fair value for accounting purposes. Market Risk — Equity Investments Through our equity investment activities, we own equity securities that are publicly traded. In addition, we own equity securities in governmental entities and companies, e.g., Federal Reserve Bank and the FHLB, that are not publicly traded. Equity investments may be accounted for at cost less impairment and adjusted for observable price changes, fair value, the equity method, or full consolidation methods of accounting, depending on our ownership position and degree of influence over the investees’ business. Regardless of the accounting method, the value of our investment is subject to fluctuation. Because the fair value of these securities may fall below the cost at which we acquired them, we are exposed to the possibility of loss. Equity investments in private and public companies are evaluated, monitored, and approved by members of management in our Equity Investments Committee and Securities Valuation Committee. We hold both direct and indirect investments in predominantly pre-public companies, primarily through various SBIC venture capital funds as a strategy to provide beneficial financing, growth, and expansion opportunities to diverse businesses generally in communities within our geographic footprint. Our equity exposure to these investments was approximately $172 million and $179 million at December 31, 2022 and 2021, respectively. On occasion, some of the companies within our SBIC investments may issue an initial public offering (“IPO”). In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce additional market risk. See Note 3 of the Notes to Consolidated Financial Statements for additional information regarding the valuation of our SBIC investments. Liquidity Risk Management Overview Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as marketable loans and investment securities. 60 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Since liquidity risk is closely linked to both credit risk and market risk, many of the previously described risk control mechanisms also apply to the monitoring and management of liquidity risk. We manage our liquidity to provide adequate funds for our customers’ credit needs, capital plan actions, anticipated financial and contractual obligations, which include withdrawals by depositors, debt and capital service requirements, and lease obligations. Overseeing liquidity management is the responsibility of ALCO, which implements a Board-approved corporate Liquidity Policy. This policy addresses monitoring and maintaining adequate liquidity, diversifying funding positions, and anticipating future funding needs. The policy also includes liquidity ratio guidelines, such as a 30-day liquidity coverage ratio, that are used to monitor our liquidity positions as well as our various stress test and liquid asset measurements. We perform liquidity stress tests and assess our portfolio of highly liquid assets (sufficient to cover 30-day funding needs under stress scenarios). Our AFS investment securities are primarily held as a source of contingent liquidity. We target securities that can be readily turned into cash through repurchase agreements or sales. We manage our short-term funding needs through secured borrowing with securities pledged as collateral. At December 31, 2022, our investment securities portfolio of $23.5 billion and cash and money market investments of $4.4 billion, collectively comprised 31% of total assets. Our Treasury group, under the direction of the Corporate Treasurer, manages our liquidity and funding, with oversight by ALCO. The Treasurer is responsible for recommending changes to existing funding plans and our policies related to liquidity and funding. These recommendations are submitted for approval to ALCO, and changes to the policies are also approved by the ERMC and the Board. We have adopted policy limits that govern liquidity risk. The policy requires us to maintain a buffer of highly liquid assets sufficient to cover cash outflows in the event of a severe liquidity crisis. We complied with this policy throughout 2022. Liquidity Regulation We perform liquidity stress tests and assess our portfolio of highly liquid assets (sufficient to cover 30-day funding needs under the stress scenarios) even though we are no longer subject to the enhanced prudential standards for liquidity management (Reg. YY). In addition, we exceed the regulatory requirements that mandate a buffer of securities and other liquid assets to cover 70% of 30-day cash outflows under the assumptions mandated therein, although we are no longer subject to the regulations of the Final LCR Rule. Liquidity Management Actions Our consolidated cash, interest-bearing deposits held as investments, federal funds sold, and securities purchased under agreements to resell totaled $4.4 billion at December 31, 2022, compared with $13.0 billion at December 31, 2021. During 2022, the primary sources of cash came from an increase in short-term funds borrowed, a decrease in money market investments, and net cash provided by operating activities. Uses of cash during the same period included primarily an increase in loans and leases, an increase in investment securities, and the redemption of long-term debt. Total deposits were $71.7 billion at December 31, 2022, compared with $82.8 billion at December 31, 2021. The $11.1 billion decrease during 2022 was a result of a $5.3 billion and $6.5 billion decrease in noninterest-bearing demand deposits and savings and money market deposits, respectively, partially offset by a $0.7 billion increase in time deposits. Our core deposits, consisting of noninterest-bearing demand deposits, savings and money market deposits, and time deposits under $250,000, were $70.3 billion at December 31, 2022, compared with $81.9 billion at December 31, 2021. At December 31, 2022, maturities of our long-term senior and subordinated debt ranged from June 2023 to October 2029. In February 2022, we redeemed $290 million of the 4-year, 3.35% senior notes. Our cash payments for interest, reflected in operating expenses, increased to $160 million during 2022, from $81 million during 2021, primarily due to higher interest rates paid on deposits and borrowed funds and an increased balance of fed funds and other short-term borrowings. Additionally, we paid approximately $269 million of dividends on preferred and common stock during 2022, compared with $263 million during 2021. Dividends paid 61 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES per common share were $1.58 in 2022, compared with $1.44 in 2021. In January 2023, the Board approved a quarterly common dividend of $0.41 per share. General financial market and economic conditions impact our access to, and cost of, external financing. Access to funding markets is also directly affected by the credit ratings received from various rating agencies. The ratings not only influence the costs associated with borrowings, but can also influence the sources of the borrowings. All of the credit rating agencies rate our debt at an investment-grade level. During 2022, Moody’s improved its credit rating and upgraded its outlook. The following schedule presents our credit ratings. Schedule 34 CREDIT RATINGS as of January 31, 2023: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Stable BBB+ BBB NR Fitch Stable BBB+ BBB F1 Moody's Stable Baa1 NR NR The FHLB system and Federal Reserve Banks have been, and continue to be, a significant source of additional liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and Federal Reserve stock to maintain our borrowing capacity. At December 31, 2022, our total investment in FHLB and Federal Reserve stock was $294 million and $68 million, respectively, compared with $11 million and $81 million at December 31, 2021. The amount available for additional FHLB and Federal Reserve borrowings was approximately $13.4 billion at December 31, 2022, compared with $18.3 billion at December 31, 2021. Loans with a carrying value of approximately $27.6 billion at December 31, 2022 have been pledged at the FHLB of Des Moines and the Federal Reserve as collateral for current and potential borrowings, compared with $26.8 billion at December 31, 2021. At December 31, 2022, we had $7.1 billion of short-term FHLB borrowings outstanding and no Federal Reserve borrowings outstanding, compared with no FHLB or Federal Reserve borrowings outstanding at December 31, 2021. Total borrowed funds increased by $9.2 billion during 2022, driven by increases in short-term borrowings as a result of loan growth and declines in interest-bearing deposits. These increases were partially offset by a decrease in long-term debt, primarily due to the redemption of senior notes during the first quarter of 2022. We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. 62 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Contractual Obligations The following schedule summarizes our contractual obligations at December 31, 2022. Schedule 35 CONTRACTUAL OBLIGATIONS (In millions) One year or less Over one year through three years Over three years through five years Over five years Indeterminable maturity 1 Total Deposits $ 2,038 $ 209 $ 61 $ 1 $ 69,343 $ 71,652 Unfunded lending commitments 7,654 9,217 2,949 9,808 — 29,628 Standby letters of cr Financial 667 — — — — 667 Performance 184 — — — — 184 Commercial letters of credit 11 — — — — 11 Mortgage-backed security purchase agreements 2 23 — — — — 23 Commitments to make venture and other noninterest-bearing investments 3 — — — — 77 77 Federal funds and other short-term borrowings 10,417 — — — — 10,417 Long-term debt 4 128 — — 587 — 715 Operating leases 47 67 39 73 — 226 Total contractual obligations $ 21,169 $ 9,493 $ 3,049 $ 10,469 $ 69,420 $ 113,600 1 Indeterminable maturity deposits include noninterest-bearing demand, savings, and money market deposits. 2 Represents agreements with Farmer Mac to purchase securities backed by certain agricultural mortgage loans. 3 Commitments to make venture and other noninterest-bearing investments do not have defined maturity dates. They are due upon demand and may be drawn immediately. Therefore, these commitments are shown as having indeterminable maturities. 4 The values presented do not reflect the associated hedges. In addition to the commitments specifically noted in the schedule above, we enter into a number of contractual commitments in the ordinary course of business. These include software licensing and maintenance, telecommunications services, facilities maintenance and equipment servicing, supplies purchasing, and other goods and services used in the operation of our business. Some of these contracts are renewable or cancellable annually or in shorter time intervals. To secure favorable pricing concessions, we may also commit to contracts that may extend several years. We enter into derivative contracts under which we are required either to receive or pay cash, depending on changes in interest rates. These contracts are measured at fair value on the balance sheet, reflecting the net present value of the expected future cash receipts and payments based on market interest rates. See Note 7 of the Notes to Consolidated Financial Statements for further information on derivative contracts. Operational, Technology, and Cybersecurity Risk Management Operational Risk Management Operational risk is the risk to current or anticipated earnings or capital arising from inadequate or failed internal processes or systems, human errors or misconduct, or adverse external events. ERM assists employees, management, and the Board with assessing, measuring, managing, and monitoring this risk in accordance with our Risk Management Framework. For example, we have documented control self-assessments related to financial reporting under the 2013 framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) and the FDICIA. We have instituted a number of measures to manage our operational risk, including, but not limited t (1) transactional documentation requirements; (2) systems and procedures to monitor transactions and positions; (3) systems and procedures to detect and mitigate attempts to commit fraud, penetrate our systems or telecommunications, access customer data, or deny normal access to those systems to our legitimate customers; (4) 63 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES regulatory compliance reviews; and (5) periodic reviews by our Compliance Risk Management, Internal Audit, Operational Risk Management, and Credit Examination departments. Reconciliation procedures have been established to ensure that data processing systems consistently and accurately capture critical data. In addition, the Data Governance department provides additional oversight of data integrity and data availability. Further, we maintain disaster recovery and business continuity plans for operational support in the event of natural or other disasters. We also mitigate certain operational risks through the purchase of insurance, including errors and omissions and professional liability insurance. We continually strive to improve our operational risk management, including enhancement of risk identification, risk and control self-assessments, business process mappings, regular tests of controls, and anti-fraud measures, which are reported on a regular basis to enterprise management committees. The Operational Risk Committee reports directly to the ROC. Key measures have been established in line with our Risk Management Framework to increase oversight by ERM and Operational Risk Management through the strengthening of new initiative reviews and enhancements to enterprise supply chain and vendor risk management. We also continue to enhance and strengthen the Enterprise Business Continuity program, Enterprise Security program, and Enterprise Incident Management reporting. Significant enhancements have also been made to governance, technology, and reporting, including the establishment of Policy and Committee Governance programs; the implementation of a governance, risk, and control system to manage and integrate business processes, risks, controls, assessments, and control testing; and the creation of an Enterprise Risk Profile and Operational Risk Profile. In addition, our Enterprise Exam Management department has standardized our response and reporting, and increased our effectiveness and efficiencies with regulatory examination, communications and issues management. Technology Risk Management Technology risk is the risk of adverse impact to business operations and customers due to reduced or denied availability or inadequate value delivery caused by technology-related assets, infrastructure, strategy or processes. We make significant investments to enhance our technology capabilities and to mitigate the risk from outdated and unsupported technologies (technical debt). This includes updating core banking systems, as well as introducing new digital customer-facing capabilities. Technology projects, initiatives, and operations are governed by a change management framework that assesses the activities and risk within our business processes to limit disruption and resource constraints. New, expanded, or modified products and services, as well as new lines of business, change initiative status, and other risks are regularly reviewed and approved by the Change, Initiatives, and Technology Committee. This Committee includes, among other senior executives, the Chief Executive Officer, Chief Financial Officer, Chief Operating Officer, Chief Information Officer, and Chief Risk Officer. Initiative risk and change impact from the framework are reported to the ROC. Technology governance is also in place at the operational level within our Enterprise and Technology Operations (“ETO”) division to help ensure safety, soundness, operational resiliency, and compliance with our technology and cybersecurity policy requirements. ETO management teams participate in enterprise architecture review boards and technology risk councils to address such issues as enterprise standards compliance and strategic alignment, cybersecurity vulnerability management, end-of-life, audit, risk and compliance issue management, and asset management. Thresholds are defined to escalate risks in these areas to the attention of the ROC and ERMC committees as appropriate. Cybersecurity Risk Management Cybersecurity risk is the risk of adverse impacts to the confidentiality, integrity and availability of data owned, stored or processed by the Bank. The number and sophistication of attempts to disrupt or penetrate our systems, and those of our suppliers — sometimes referred to as hacking, cybersecurity fraud, cyberattacks, or other similar names — continues to grow. To combat the ever-increasing sophistication of cyberattacks, we are continually improving methods for detecting and preventing attacks. We have implemented policies and procedures, benchmarked to industry, regulatory, and cybersecurity frameworks (e.g., National Institute of Standards and Technology), developed specific training for our employees, monitored threats through our Cybersecurity Operations Center, and 64 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES have elevated our oversight and internal reporting to the Board and relevant committees. Further, we regularly engage independent third-party cybersecurity experts to test for vulnerabilities in our environment. We also conduct our own internal simulations and tabletop exercises as well as participate in financial sector-specific exercises. We have engaged consultants at both the strategic level and at the technology implementation level to assist us in better managing this critical risk. Cybersecurity defense and improving our resiliency against cybersecurity threats remain a key focus of our Board and all levels of management. Capital Management Overview The Board is responsible for approving the policies associated with capital management. The Board has delegated responsibility of managing our capital risk to the Capital Management Committee (“CMC”), which is chaired by the Chief Financial Officer, consists of members of management, and whose primary responsibility is to recommend and administer the approved capital policies that govern our capital management. Other major CMC responsibilities inclu • Setting overall capital targets within the Board-approved Capital Policy, monitoring performance compared with our Capital Policy limits, and recommending changes to capital including dividends, common stock issuances and repurchases, subordinated debt, and changes in major strategies to maintain ourselves at well-capitalized levels; • Maintaining an adequate capital cushion to withstand adverse stress events while continuing to meet the borrowing needs of our customers, and to provide reasonable assurance of continued access to wholesale funding, consistent with fiduciary responsibilities to depositors and bondholders; and • Reviewing our agency ratings. A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. We have fundamental financial objectives and policies to consistently improve risk-adjusted returns on our shareholders’ capital, including (1) maintaining sufficient capital to support the current needs and growth of our businesses, and (2) fulfilling responsibilities to depositors and bondholders while managing capital distributions to shareholders through dividends and repurchases of common stock. We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the FRB. The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as Board and OCC approval. Shares may be repurchased occasionally in the open market or through privately negotiated transactions. Schedule 36 SHAREHOLDERS' EQUITY (Dollar amounts in millions) December 31, 2022 December 31, 2021 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 440 $ — — % Common stock and additional paid-in capital 1,754 1,928 (174) (9) Retained earnings 5,811 5,175 636 12 Accumulated other comprehensive income (3,112) (80) (3,032) NM Total shareholders' equity $ 4,893 $ 7,463 $ (2,570) (34) % Total shareholders’ equity decreased $2.6 billion, or 34% to $4.9 billion at December 31, 2022. A $636 million increase in retained earnings was offset by significant decreases in AOCI and common stock and additional paid-in capital. 65 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES AOCI decreased $3.0 billion, primarily due to the decline in the fair value of fixed-rate AFS securities as a result of increases in benchmark interest rates. Absent any sales or credit impairment of these securities, the unrealized losses will not be recognized in earnings. We do not intend to sell any securities with unrealized losses. Although changes in AOCI are reflected in shareholders’ equity, they are excluded from regulatory capital, and therefore do not impact our regulatory ratios. We have excluded the impact of AOCI from certain non-GAAP financial measures, such as tangible common equity and related measures. See “Non-GAAP Financial Measures” on page 70 for further information. Refer also to Note 5 of the Notes to Consolidated Financial Statements for more discussion on our investment securities portfolio and related unrealized gains and losses. Common stock and additional paid-in capital decreased $174 million, primarily due to common stock repurchases. Capital Management Actions Common shares outstanding decreased 3.0 million in 2022, due to common stock repurchases. During 2022, we repurchased 3.6 million common shares outstanding for $200 million, compared with 13.5 million common shares repurchased for $800 million during 2021. In January 2023, the Board approved a plan to repurchase up to $50 million of common shares outstanding during the first quarter of 2023. In February 2023, we repurchased 946,644 common shares outstanding for $50 million at an average price of $52.82. Schedule 37 CAPITAL DISTRIBUTIONS (In millions, except share data) 2022 2021 Capital distributio Preferred dividends paid $ 29 $ 29 Bank preferred stock redeemed — 126 Total capital distributed to preferred shareholders 29 155 Common dividends paid 240 232 Bank common stock repurchased 1 202 800 Total capital distributed to common shareholders 442 1,032 Total capital distributed to preferred and common shareholders $ 471 $ 1,187 Weighted average diluted common shares outstanding (in thousands) 150,271 160,234 Common shares outstanding, at year-end (in thousands) 148,664 151,625 1 Includes amounts related to the common shares acquired from our publicly announced plans and those acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. Under the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. As of January 1, 2023, we had $1.8 billion of retained net profits available for distribution. We paid dividends on preferred stock of $29 million in both 2022 and 2021. The common stock dividend was $0.41 per share during the second half of 2022, compared with $0.38 during the first half of 2022. We paid common dividends of $240 million in 2022, compared with $232 million in 2021. In January 2023, the Board declared a quarterly dividend of $0.41 per common share payable on February 23, 2023, to shareholders of record on February 16, 2023. Basel III We are subject to Basel III capital requirements to maintain adequate levels of capital as measured by several regulatory capital ratios. At December 31, 2022, we exceeded all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold 66 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. The following schedule presents our capital and other performance ratios. Schedule 38 CAPITAL RATIOS December 31, 2022 December 31, 2021 December 31, 2020 Average equity to average assets 6.6 % 9.0 % 10.0 % Return on average common equity 16.0 % 14.9 % 7.2 % Return on average tangible common equity 1 13.9 % 17.8 % 8.8 % Tangible equity ratio 1 7.6 % 7.1 % 8.2 % Tangible common equity ratio 1 7.1 % 6.6 % 7.5 % Basel III risk-based capital ratios: Common equity tier 1 capital 9.8 % 10.2 % 10.8 % Tier 1 risk-based 10.5 % 10.9 % 11.8 % Total risk-based 12.2 % 12.8 % 14.1 % Tier 1 leverage 7.7 % 7.2 % 8.3 % 1 See “Non-GAAP Financial Measures” on page 70 for more information regarding these ratios. Our regulatory Tier 1 risk-based capital and total risk-based capital were $6.9 billion and $8.1 billion at December 31, 2022, compared with $6.5 billion and $7.7 billion, respectively, at December 31, 2021. See the “Supervision and Regulation” section on page 6 and Note 15 of the Notes to Consolidated Financial Statements for more information about Basel III capital requirements. CRITICAL ACCOUNTING POLICIES AND SIGNIFICANT ESTIMATES Note 1 of the Notes to Consolidated Financial Statements contains a summary of our significant accounting policies. Certain accounting policies that we consider critical are described below because their related balances and estimates are significant to the financial statements. Any changes to these amounts, including changes in estimates, may also be significant to the financial statements. We believe that an understanding of these policies, along with the related estimates we are required to make in recording our financial transactions, is important to have a complete picture of our financial condition. Additionally, in making these estimates, we are required to make complex and subjective judgments, many of which include a high degree of uncertainty. We discuss these critical accounting policies and related estimates below. We have included, where applicable in this document, sensitivity schedules and other examples to demonstrate the impact of the changes in estimates made for various financial transactions. The sensitivities in these schedules and examples are hypothetical and should be viewed with caution. Changes in estimates are based on variations in assumptions and are not subject to simple extrapolation, as the relationship of the change in the assumption to the change in the amount of the estimate may not be linear. In addition, the effect of a variation in one assumption is likely to cause changes in other assumptions, which could potentially magnify or counteract the sensitivities. Allowance for Credit Losses The ACL includes the ALLL and the RULC and represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. The ACL for our AFS and HTM debt securities portfolio is estimated separately from loans and is not reflected separately on the consolidated balance sheet due to immateriality. The ACL for debt securities was less than $1 million at both December 31, 2022 and 2021. 67 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The ACL may change significantly each period because the ACL is subject to economic forecasts that may change materially from period to period. Although we believe that our methodology for determining an appropriate level for the ACL adequately addresses the various components that could potentially result in credit losses, the processes and their elements include features that may be susceptible to significant change. Any unfavorable differences between the actual outcome of credit-related events and our estimates could require an additional provision for credit losses. The ACL is calculated based on quantitative models and management’s qualitative judgment based on many factors over the life of loan. The primary assumptions of the quantitative model are the economic forecast, the length of the reasonable and supportable forecast period, the length of the reversion period, prepayment rates, and the credit quality of the portfolio. The quantitative ACL estimate is a probability-weighted amount based on losses under multiple economic scenarios that reflect optimistic, baseline, and stressed economic conditions. Management uses qualitative judgment to adjust standard probability weights to more closely reflect management’s assessments of current conditions and reasonable and supportable forecasts. If the ACL was evaluated on the baseline economic scenario rather than probability weighting multiple scenarios, the quantitatively determined amount of the ACL at December 31, 2022 would decrease by approximately $86 million. Additionally, if the probability of default risk-grade for all pass-graded loans was immediately downgraded one grade on our internal risk-grading scale, the quantitatively determined amount of the ACL at December 31, 2022 would increase by approximately $52 million. These sensitivity analyses are hypothetical and have been provided only to indicate the potential impact that changes in economic forecasts and changes in risk-grades may have on the ACL estimate. See Note 6 of the Notes to Consolidated Financial Statements for more information on the processes and methodologies used to estimate the ACL. Fair Value Estimates We measure certain of our assets and liabilities at fair value. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. To increase consistency and comparability in fair value measurements, generally accepted accounting principles (“GAAP”) has established a three-level hierarchy to prioritize the valuation inputs among (1) observable inputs that reflect quoted prices in active markets, (2) inputs other than quoted prices with observable market data, and (3) unobservable data such as our own data. When observable market prices are not available, fair value is estimated using modeling techniques such as discounted cash flow analysis. These modeling techniques use assumptions that market participants would consider in pricing the asset or the liability. The selection and weighting of the various fair value techniques may result in a fair value higher or lower than the carrying value of the item being valued. Considerable judgment may be involved in determining the amount that is most representative of fair value. For assets and liabilities measured at fair value, our policy is to maximize the use of observable inputs, when available, and minimize the use of unobservable inputs when developing fair value measurements. In certain cases, when market observable inputs for model-based valuation techniques may not be readily available, we are required to make judgments about the assumptions market participants would use in estimating the fair value of the financial instrument. The models used to determine fair value adjustments are regularly evaluated by management for relevance under current facts and circumstances. Changes in market conditions may reduce the availability of quoted prices or observable data. For example, reduced liquidity in the capital markets or changes in secondary market activities could result in observable market inputs becoming unavailable. When market data is not available, we use valuation techniques requiring more management judgment to estimate the appropriate fair value. 68 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Fair value is used on a recurring basis for certain assets and liabilities in which fair value is the primary measure of accounting. Fair value is used on a nonrecurring basis to measure certain assets or liabilities (including loans held for sale and OREO) for impairment or for disclosure purposes in accordance with current accounting guidance. Impairment analysis also relates to long-lived assets, goodwill, and core deposit and other intangible assets. An impairment loss is recognized if the carrying amount of the asset is not likely to be recoverable and exceeds its fair value. In determining the fair value, management uses models and applies the techniques and assumptions previously described. AFS securities are valued using several methodologies, which depend on the nature of the security, availability of current market information, and other factors. AFS securities in an unrealized loss position are formally reviewed on a quarterly basis for the presence of credit impairment. If we have the intent to sell an identified security, or it is more likely than not we will be required to sell the security before recovery of its amortized cost basis, we first recognize an identified impairment. If we do not have the intent to sell a security, and it is more likely than not that we will not be required to sell a security prior to recovery of its amortized cost basis, then we determine whether there is any impairment attributable to credit-related factors. Credit-related impairment is recognized as an allowance. Full or partial write-offs of an AFS security are recorded in the period in which the security is deemed to be uncollectible. While certain of our assets and liabilities are measured at fair value, such as our AFS securities, the majority of our assets and liabilities are not adjusted for changes in fair value. This asymmetrical accounting creates volatility in AOCI and equity. Notes 1, 3 , 5, 7, and 10 of the Notes to Consolidated Financial Statements and the “Investment Securities Portfolio” on page 42 contain further information regarding the use of fair value estimates. Goodwill Goodwill is recorded at fair value in the financial statements of a reporting unit at the time of its acquisition and is subsequently evaluated at least annually for impairment in accordance with current accounting standards. We perform an evaluation during the fourth quarter of each year, or more frequently if events or circumstances indicate that the carrying value of any of our reporting units, inclusive of goodwill, is less than fair value. We may elect to perform a qualitative analysis to determine if it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If the carrying amount is more likely than not to exceed its fair value, additional quantitative analysis is performed to determine the amount of goodwill impairment. If the fair value is less than the carrying value, an impairment is recorded for the difference. Goodwill impairment does not impact our regulatory capital ratios or tangible common equity ratio. To determine the fair value of a reporting unit, we use (1) a market method that incorporates comparable publicly traded commercial banks along with data related to recent comparable merger and acquisition activity, and (2) an income method that consists of a discounted present value of management’s estimates of future cash flows. Critical assumptions used as part of these methods generally inclu • Selection of comparable publicly traded companies based on location, size, and business focus and composition; • Selection of market comparable acquisition transactions, if available, based on location, size, business focus and composition, and date of the transaction; • The discount rate, which is based on our estimate of the cost of equity capital; • The projections of future earnings and cash flows of the reporting unit; • The relative weight given to the valuations derived by the two methods described previously; and • The control premium associated with reporting units. Since estimates are an integral part of the impairment test calculations, changes in these estimates could have a significant impact on our reporting units’ fair value and the goodwill impairment amount, if any. Estimates include 69 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES economic conditions, which impact the assumptions related to interest and growth rates, loss rates, and imputed cost of equity capital. Additional factors that may significantly affect the estimates include, among others, competitive forces, customer behaviors and attrition, loan losses, changes in growth trends, cost structures and technology, changes in equity market values and merger and acquisition valuations, and changes in industry conditions. During the fourth quarter of 2022, we performed our annual goodwill impairment evaluation, effective October 1, 2022. Based on our evaluation, we determined that none of our reporting units were impaired. RECENT ACCOUNTING PRONOUNCEMENTS AND DEVELOPMENTS Note 2 of the Notes to Consolidated Financial Statements discusses recently issued accounting pronouncements that we are, or will be, required to adopt. Also described is our expectation of the impact these new accounting pronouncements will have, to the extent they are material, on our financial condition or results of operations. NON-GAAP FINANCIAL MEASURES This Form 10-K presents non-GAAP financial measures, in addition to GAAP financial measures. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results and provide a meaningful basis for period-to-period comparisons. We use these non-GAAP financial measures to assess our performance and financial position. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by our management and the financial services industry. Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar financial measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under GAAP. Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets and their related amortization and accumulated other comprehensive income or loss. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a business more consistently, whether acquired or developed internally. Schedule 39 RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Year Ended December 31, (Dollar amounts in millions) 2022 2021 2020 Net earnings applicable to common shareholders (GAAP) $ 878 $ 1,100 $ 505 Adjustments, net of t Amortization of core deposit and other intangibles 1 1 — Net earnings applicable to common shareholders, net of tax (a) $ 879 $ 1,101 $ 505 Average common equity (GAAP) $ 5,472 $ 7,371 $ 7,050 Average goodwill and intangibles (1,022) (1,015) (1,015) Average accumulated other comprehensive loss (income), net of tax 1,863 (164) (270) Average tangible common equity (non-GAAP) (b) $ 6,313 $ 6,192 $ 5,765 Return on average tangible common equity (non-GAAP) (a/b) 13.9 % 17.8 % 8.8 % 70 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 40 TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) December 31, 2022 2021 2020 Total shareholders’ equity (GAAP) $ 4,893 $ 7,463 $ 7,886 Goodwill and intangibles (1,065) (1,015) (1,016) Accumulated other comprehensive loss (income), net of tax 3,112 80 (325) Tangible equity (non-GAAP) (a) 6,940 6,528 6,545 Preferred stock (440) (440) (566) Tangible common equity (non-GAAP) (b) $ 6,500 $ 6,088 $ 5,979 Total assets (GAAP) $ 89,545 $ 93,200 $ 81,479 Goodwill and intangibles (1,065) (1,015) (1,016) Accumulated other comprehensive loss (income), net of tax $ 3,112 $ 80 $ (325) Tangible assets (non-GAAP) (c) $ 91,592 $ 92,265 $ 80,138 Common shares outstanding (in thousands) (d) 148,664 151,625 164,090 Tangible equity ratio (non-GAAP) (a/c) 7.6 % 7.1 % 8.2 % Tangible common equity ratio (non-GAAP) (b/c) 7.1 % 6.6 % 7.5 % Tangible book value per common share (non-GAAP) (b/d) $43.72 $40.15 $36.44 Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allow for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how we are managing our expenses. Adjusted pre-provision net revenue enables management and others to assess our ability to generate capital. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. 71 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 41 EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) (Dollar amounts in millions) 2022 2021 2020 Noninterest expense (GAAP) (a) $ 1,878 $ 1,741 $ 1,704 Adjustments: Severance costs 1 1 1 Other real estate expense, net 1 — 1 Amortization of core deposit and other intangibles 1 1 — Restructuring costs — — 1 Pension termination-related expense (income) 1 — (5) 28 SBIC investment success fee accrual 2 (1) 7 — Total adjustments (b) 2 4 31 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 1,876 $ 1,737 $ 1,673 Net interest income (GAAP) (d) $ 2,520 $ 2,208 $ 2,216 Fully taxable-equivalent adjustments (e) 37 32 28 Taxable-equivalent net interest income (non-GAAP) (d+e)=(f) 2,557 2,240 2,244 Noninterest income (GAAP) (g) 632 703 574 Combined income (non-GAAP) (f+g)=(h) 3,189 2,943 2,818 Adjustments: Fair value and nonhedge derivative gain (loss) 16 14 (6) Securities gains, net (15) 71 7 Total adjustments (i) 1 85 1 Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 3,188 $ 2,858 $ 2,817 Pre-provision net revenue (non-GAAP) (h)-(a) $ 1,311 $ 1,202 $ 1,114 Adjusted pre-provision net revenue (non-GAAP) (j-c) 1,312 1,121 1,144 Efficiency ratio (non-GAAP) (c/j) 58.8 % 60.8 % 59.4 % 1 Represents the expense incurred and a subsequent valuation adjustment related to termination of our defined benefit pension plan. 2 The success fee accrual is associated with the gains/(losses) from our SBIC investments. The gains/(losses) related to these investments are excluded from the efficiency ratio through securities gains (losses), net. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Information required by this Item is included in “Interest Rate and Market Risk Management” in MD&A beginning on page 56, and is hereby incorporated by reference. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 72 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES REPORT ON MANAGEMENT’S ASSESSMENT OF INTERNAL CONTROL OVER FINANCIAL REPORTING The management of Zions Bancorporation, N.A is responsible for establishing and maintaining adequate internal control over financial reporting as defined by Exchange Act Rules 13a-15 and 15d-15. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Although any system of internal control can be compromised by human error or intentional circumvention of required procedures, we believe our system provides reasonable assurance that financial transactions are recorded and reported properly, providing an adequate basis for reliable financial statements. Our management has used the criteria established in Internal Control – Integrated Framework (2013 framework) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) to evaluate the effectiveness of our internal control over financial reporting. Our management has assessed the effectiveness of our internal control over financial reporting as of December 31, 2022, and has concluded that such internal control over financial reporting is effective. There are no material weaknesses in our internal control over financial reporting that have been identified by our management. Ernst & Young LLP, an independent registered public accounting firm, has audited our consolidated financial statements for the year ended December 31, 2022, and has also issued an attestation report, which is included herein, on internal control over financial reporting in accordance with the standards of the Public Company Accounting Oversight Board (“PCAOB”). 73 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES REPORTS OF ERNST & YOUNG LLP, INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM (PCAOB ID: 42 ) REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING To the Shareholders and the Board of Directors of Zions Bancorporation, National Association Opinion on Internal Control Over Financial Reporting We have audited Zions Bancorporation, National Association’s (“the Bank” ) internal control over financial reporting as of December 31, 2022 , based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (“the COSO criteria”). In our opinion, the Bank maintained, in all material respects, effective internal control over financial reporting as of December 31, 2022 , based on the COSO criteria. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the 2022 consolidated financial statements of the Bank and our report dated February 23, 2023, expressed an unqualified opinion thereon. Basis for Opinion The Bank’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Report on Management’s Assessment of Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Bank’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Bank in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. Definition and Limitations of Internal Control Over Financial Reporting A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. /s/ Ernst & Young LLP Salt Lake City, Utah February 23, 2023 74 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES REPORT ON CONSOLIDATED FINANCIAL STATEMENTS To the Shareholders and the Board of Directors of Zions Bancorporation, National Association Opinion on the Financial Statements We have audited the accompanying consolidated balance sheets of Zions Bancorporation, National Association (“the Bank”) as of December 31, 2022 and 2021, the related consolidated statements of income, comprehensive income (loss), changes in shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2022, and the related notes (collectively referred to as the “ consolidated financial statements ” ). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Bank at December 31, 2022 and 2021, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2022, in conformity with U.S. generally accepted accounting principles. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) ( “PCAOB” ), the Bank’s internal control over financial reporting as of December 31, 2022, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework), and our report dated February 23, 2023 expressed an unqualified opinion thereon. Basis for Opinion These financial statements are the responsibility of the Bank’s management. Our responsibility is to express an opinion on the Bank’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Bank in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion. Critical Audit Matter The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and tha (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the account and the disclosures to which it relates. 75 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Allowance for loan and lease losses Description of the Matter The Bank’s loan and lease portfolio and the associated allowance for loan and lease losses (ALLL), were $55.7 billion and $575 million as of December 31, 2022, respectively. The provision for loan and lease losses was $101 million for the year ended December 31, 2022. As discussed in Note 1 and 6 to the consolidated financial statements, the ALLL represented the Bank’s estimate of current expected credit losses over the contractual remaining life of the loan and lease portfolio as of the consolidated balance sheet date. Management’s ALLL estimate includes quantitative calculations based on the statistical analysis of historical loss experience dependent on weighted economic scenarios and other loan-level characteristics forecasted over a reasonable period, losses estimated using historical loss experience for periods outside the reasonable economic forecast period (collectively the quantitative portion), supplemented with qualitative adjustments that bring the ALLL to the level management deemed appropriate based on factors that are not fully considered in the quantitative analysis. The statistical analysis of historical loss experience was derived from credit loss models used to determine the quantitative portion of the ALLL. Judgment was required by management to determine the weightings of the economic scenarios and the magnitude of the impact of the qualitative adjustments to the ALLL. Auditing management’s estimate of the ALLL is complex due to the judgment used to weigh the economic scenarios and the judgment involved in determining the magnitude of the impact of the various risk factors used to derive the qualitative adjustments to the ALLL. How We Addressed the Matter in Our Audit We obtained an understanding, evaluated the design and tested the operating effectiveness of controls that address the risk of material misstatement in determining the weightings of the economic scenarios and in determining the impact of the qualitative adjustments to the ALLL. We tested controls over the Bank’s ALLL governance process, model development and model risk management as it relates to the credit loss models used in the ALLL process. Such testing included testing controls over model governance, controls over data input into the models, and controls over model calculation accuracy and observing key management meetings where weightings of the economic scenarios and the magnitude of qualitative adjustments are reviewed and approved. To test the reasonableness of the weightings of the economic scenarios, our procedures consisted of obtaining an understanding of the forecasted economic scenarios used, including agreeing the economic scenarios to third party published data and economic scenarios developed from market information as well as evaluating management’s methodology, including the economic scenario weighting process. We also performed analytical procedures and sensitivity analyses on the weightings of the economic scenarios and searched for and evaluated information that corroborated or contradicted these weightings. Regarding the completeness of qualitative adjustments identified and incorporated into measuring the ALLL, we evaluated the potential impact of imprecision in the credit loss models and emerging risks related to changes in the economic environment impacting the Bank's loan and lease portfolio. We also evaluated and tested internal and external data used in the qualitative adjustments by agreeing significant inputs and underlying data to internal and external sources. Further, we assessed whether the total amount of the ALLL estimate was consistent with the Bank’s historical loss information, peer bank information, credit quality statistics, subsequent events and transactions, and publicly observable indicators of macroeconomic financial conditions and whether the total ALLL amount was reflective of current expected losses in the loan and lease portfolio as of the consolidated balance sheet date. /s/ Ernst & Young LLP We have served as the Bank’s auditor since 2000. Salt Lake City, Utah February 23, 2023 76 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) December 31, 2022 2021 ASSETS Cash and due from banks $ 657 $ 595 Money market investments: Interest-bearing deposits 1,340 10,283 Federal funds sold and securities purchased under agreements to resell 2,426 2,133 Investment securiti Held-to-maturity, at amortized cost (fair value $ 11,239 and $ 443 ) 11,126 441 Available-for-sale, at fair value 11,915 24,048 Trading account, at fair value 465 372 Total investment securities 23,506 24,861 Loans held for sale 8 83 Loans and leases, net of unearned income and fees 55,653 50,851 Less allowance for loan and lease losses 575 513 Loans, net of allowance 55,078 50,338 Other noninterest-bearing investments 1,130 851 Premises, equipment and software, net 1,408 1,319 Goodwill and intangibles 1,065 1,015 Other real estate owned 3 8 Other assets 2,924 1,714 Total assets $ 89,545 $ 93,200 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 35,777 $ 41,053 Interest-bearin Savings and money market 33,566 40,114 Time 2,309 1,622 Total deposits 71,652 82,789 Federal funds and other short-term borrowings 10,417 903 Long-term debt 651 1,012 Reserve for unfunded lending commitments 61 40 Other liabilities 1,871 993 Total liabilities 84,652 85,737 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 440 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 148,664 and 151,625 shares and additional paid-in capital) 1,754 1,928 Retained earnings 5,811 5,175 Accumulated other comprehensive income ( 3,112 ) ( 80 ) Total shareholders’ equity 4,893 7,463 Total liabilities and shareholders’ equity $ 89,545 $ 93,200 See accompanying notes to consolidated financial statements. 77 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF INCOME (In millions, except shares and per share amounts) Year Ended December 31, 2022 2021 2020 Interest income: Interest and fees on loans $ 2,112 $ 1,935 $ 2,050 Interest on money market investments 81 21 14 Interest on securities 512 311 304 Total interest income 2,705 2,267 2,368 Interest expense: Interest on deposits 70 30 105 Interest on short- and long-term borrowings 115 29 47 Total interest expense 185 59 152 Net interest income 2,520 2,208 2,216 Provision for credit loss Provision for loan losses 101 ( 258 ) 385 Provision for unfunded lending commitments 21 ( 18 ) 29 Total provision for credit losses 122 ( 276 ) 414 Net interest income after provision for credit losses 2,398 2,484 1,802 Noninterest income: Commercial account fees 159 137 132 Card fees 104 95 82 Retail and business banking fees 73 74 68 Loan-related fees and income 80 95 109 Capital markets and foreign exchange fees 83 70 70 Wealth management fees 55 50 44 Other customer-related fees 60 54 44 Customer-related noninterest income 614 575 549 Fair value and nonhedge derivative income (loss) 16 14 ( 6 ) Dividends and other income 17 43 24 Securities gains (losses), net ( 15 ) 71 7 Total noninterest income 632 703 574 Noninterest expense: Salaries and employee benefits 1,235 1,127 1,087 Technology, telecom, and information processing 209 199 192 Occupancy and equipment, net 152 153 151 Professional and legal services 57 72 57 Marketing and business development 39 43 61 Deposit insurance and regulatory expense 50 34 33 Credit-related expense 30 26 22 Other real estate expense, net 1 — 1 Other 105 87 100 Total noninterest expense 1,878 1,741 1,704 Income before income taxes 1,152 1,446 672 Income taxes 245 317 133 Net income 907 1,129 539 Preferred stock dividends ( 29 ) ( 29 ) ( 34 ) Net earnings applicable to common shareholders $ 878 $ 1,100 $ 505 Weighted average common shares outstanding during the y Basic shares (in thousands) 150,064 159,913 163,737 Diluted shares (in thousands) 150,271 160,234 165,613 Net earnings per common sh Basic $ 5.80 $ 6.80 $ 3.06 Diluted 5.79 6.79 3.02 See accompanying notes to consolidated financial statements. 78 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (In millions) Year Ended December 31, 2022 2021 2020 Net income $ 907 $ 1,129 $ 539 Other comprehensive income (loss), net of t Net unrealized holding gains (losses) on investment securities ( 2,722 ) ( 336 ) 229 Net unrealized gains (losses) on other noninterest-bearing investments ( 2 ) 3 1 Net unrealized holding gains (losses) on derivative instruments ( 330 ) ( 26 ) 76 Reclassification adjustment for decrease (increase) in interest income recognized in earnings on derivative instruments 21 ( 46 ) ( 36 ) Pension and post-retirement 1 — 12 Other comprehensive income (loss), net of tax ( 3,032 ) ( 405 ) 282 Comprehensive income (loss) $ ( 2,125 ) $ 724 $ 821 See accompanying notes to consolidated financial statements. 79 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2019 $ 566 165,057 $ — $ 2,735 $ 4,009 $ 43 $ 7,353 Net income 539 539 Cumulative effect adjustment, adoption of ASU 2016-13, Credit Loss Measurement of Credit Losses on Financial Instruments 20 20 Other comprehensive income, net of tax 282 282 Bank common stock repurchased ( 1,686 ) ( 76 ) ( 76 ) Net shares issued from stock warrant exercises 1 Net activity under employee plans and related tax benefits 718 27 27 Dividends on preferred stock ( 34 ) ( 34 ) Dividends on common stock, $ 1.36 per share ( 225 ) ( 225 ) Balance at December 31, 2020 566 164,090 — 2,686 4,309 325 7,886 Net income 1,129 1,129 Other comprehensive loss, net of tax ( 405 ) ( 405 ) Bank common stock repurchased ( 13,521 ) ( 800 ) ( 800 ) Preferred stock redemption ( 126 ) 3 ( 3 ) ( 126 ) Net activity under employee plans and related tax benefits 1,056 39 39 Dividends on preferred stock ( 29 ) ( 29 ) Dividends on common stock, $ 1.44 per share ( 232 ) ( 232 ) Change in deferred compensation 1 1 Balance at December 31, 2021 440 151,625 — 1,928 5,175 ( 80 ) 7,463 Net income 907 907 Other comprehensive loss, net of tax ( 3,032 ) ( 3,032 ) Bank common stock repurchased ( 3,581 ) ( 202 ) ( 202 ) Net activity under employee plans and related tax benefits 620 28 28 Dividends on preferred stock ( 29 ) ( 29 ) Dividends on common stock, $ 1.58 per share ( 240 ) ( 240 ) Change in deferred compensation ( 2 ) ( 2 ) Balance at December 31, 2022 $ 440 148,664 $ — $ 1,754 $ 5,811 $ ( 3,112 ) $ 4,893 See accompanying notes to consolidated financial statements. 80 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF CASH FLOWS (In millions) Year Ended December 31, 2022 2021 2020 CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 907 $ 1,129 $ 539 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses 122 ( 276 ) 414 Depreciation and amortization 110 ( 14 ) 86 Share-based compensation 30 28 26 Deferred income tax expense (benefit) ( 43 ) 32 ( 58 ) Net increase in trading securities ( 93 ) ( 107 ) ( 83 ) Net decrease (increase) in loans held for sale 48 14 ( 10 ) Change in other liabilities 892 13 57 Change in other assets ( 457 ) ( 78 ) ( 223 ) Other, net ( 46 ) ( 112 ) ( 29 ) Net cash provided by operating activities 1,470 629 719 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease (increase) in money market investments 8,650 ( 5,577 ) ( 5,611 ) Proceeds from maturities and paydowns of investment securities held-to-maturity 445 457 386 Purchases of investment securities held-to-maturity ( 399 ) ( 262 ) ( 430 ) Proceeds from sales, maturities, and paydowns of investment securities available-for-sale 3,309 4,748 4,339 Purchases of investment securities available-for-sale ( 5,829 ) ( 13,647 ) ( 6,151 ) Net change in loans and leases ( 4,628 ) 2,814 ( 4,687 ) Purchases and sales of other noninterest-bearing investments ( 298 ) 63 79 Purchases of premises and equipment ( 190 ) ( 206 ) ( 171 ) Acquisition of Nevada branches, net of cash acquired 318 — — Other, net 27 31 42 Net cash provided by (used in) investing activities 1,405 ( 11,579 ) ( 12,204 ) CASH FLOWS FROM FINANCING ACTIVITIES Net (decrease) increase in deposits ( 11,567 ) 13,136 12,568 Net change in short-term funds borrowed 9,514 ( 669 ) ( 481 ) Cash paid for preferred stock redemption — ( 126 ) — Redemption of long-term debt ( 290 ) ( 286 ) ( 429 ) Bank common stock repurchased ( 202 ) ( 800 ) ( 76 ) Proceeds from the issuance of common stock 9 21 8 Dividends paid on common and preferred stock ( 269 ) ( 261 ) ( 259 ) Other, net ( 8 ) ( 13 ) ( 8 ) Net cash provided by (used in) financing activities ( 2,813 ) 11,002 11,323 Net increase (decrease) in cash and due from banks 62 52 ( 162 ) Cash and due from banks at beginning of year 595 543 705 Cash and due from banks at end of year $ 657 $ 595 $ 543 Cash paid for interest $ 160 $ 81 $ 195 Net cash paid for income taxes 21 442 169 Noncash activiti Loans held for investment transferred to other real estate owned — 25 4 Loans held for investment reclassified to loans held for sale, net 114 120 ( 11 ) Investment securities available-for-sale transferred to held-to-maturity, at amortized cost (fair value $ 10,691 ) 13,097 — — Deposits acquired in purchase of Nevada branches 430 — — Loans acquired in purchase of Nevada branches, net 95 — — See accompanying notes to consolidated financial statements. 81 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ZIONS BANCORPORATION, N.A. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2022 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Business Zions Bancorporation, National Association (“Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) is a bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed affiliat Zions Bank in Utah, Idaho, and Wyoming; California Bank & Trust (“CB&T”); Amegy Bank (“Amegy”) in Texas; National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”) in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under The Commerce Bank of Oregon in Oregon. Basis of Financial Statement Presentation and Principles of Consolidation The consolidated financial statements include our accounts and those of our majority-owned, consolidated subsidiaries. Unconsolidated investments where we have the ability to exercise significant influence over the operating and financial policies of the respective investee are accounted for using the equity method of accounting. All intercompany accounts and transactions have been eliminated in consolidation. Assets held in an agency or fiduciary capacity are not included in the consolidated financial statements. The consolidated financial statements have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) and prevailing practices within the financial services industry. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. Prior year amounts have been reclassified to conform with the current year presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Effective for the first quarter of 2022, we made certain financial reporting changes and reclassifications to noninterest expense in our Consolidated Statements of Income. These financial reporting changes were made primarily to improve the presentation and disclosure of certain expenses related to our ongoing technology initiatives. Other noninterest expense line items were impacted by these changes and reclassifications. These changes and reclassifications (1) were adopted retrospectively to January 1, 2020, (2) reflect changes only to noninterest expense in the Consolidated Statements of Income, and (3) do not impact net income, net interest income, or noninterest income. Subsequent Events We evaluated events that occurred between December 31, 2022 and the date the accompanying financial statements were issued, and determined that there were no material events that would require adjustments to our consolidated financial statements or significant disclosure in the accompanying Notes. Variable Interest Entities A variable interest entity (“VIE”) is consolidated when we are the primary beneficiary of the VIE. Current accounting guidance requires continuous analysis to determine the primary beneficiary of a VIE. At the commencement of our involvement, and periodically thereafter, we consider our consolidation conclusions for all entities with which we are involved. At December 31, 2022, and 2021, we had no VIEs that have been consolidated in our financial statements. 82 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Statement of Cash Flows For purposes of presentation in the consolidated statements of cash flows, “cash and cash equivalents” are defined as those amounts included in cash and due from banks in the consolidated balance sheets. Fair Value Estimates We measure many of our assets and liabilities on a fair value basis. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. To improve consistency and comparability in fair value measurements, GAAP has established a hierarchy to prioritize the valuation inputs among three levels. We prioritize quoted prices in active markets and minimize reliance on unobservable inputs when possible. When observable market prices are not available, fair value is estimated using modeling techniques requiring professional judgment to estimate the appropriate fair value. These valuation techniques use assumptions that market participants would consider in pricing the asset or the liability. Changes in market conditions may reduce the availability of quoted prices or observable data. See Note 3 for further information regarding the use of fair value estimates. Securities Purchased Under Agreements to Resell Securities purchased under agreements to resell represent overnight and term agreements with the majority maturing within 30 days. These agreements are generally treated as collateralized financing transactions and are carried at amounts at which the securities were acquired plus accrued interest. Either we, or in some instances third parties on our behalf, take possession of the underlying securities. The fair value of such securities is monitored throughout the contract term to ensure that asset values remain sufficient to protect against counterparty default. We are permitted by contract to sell or repledge certain securities that we accept as collateral for securities purchased under agreements to resell. If sold, our obligation to return the collateral is recorded as “securities sold, not yet purchased” and included as a liability in “Federal funds and other short-term borrowings.” At December 31, 2022, and 2021, we held $ 2.3 billion and $ 2.0 billion of securities for which we were permitted by contract to sell or repledge, respectively. Securities purchased under agreements to resell averaged $ 2.4 billion and $ 2.1 billion during 2022 and 2021, and the maximum amount outstanding at any month-end during those same time periods was $ 2.7 billion and $ 3.6 billion, respectively. Investment Securities We classify our investment securities according to their purpose and holding period. Gains or losses on the sale of securities are recognized using the specific identification method and recorded in noninterest income. Held-to-maturity (“HTM”) debt securities are carried at amortized cost with purchase discounts or premiums accreted or amortized into interest income over the contractual life of the security. We have the intent and ability to hold such securities until maturity. For HTM securities, the allowance for credit losses (“ACL”) is assessed consistent with the approach described in Note 6 for loans carried at amortized cost. Available-for-sale (“AFS”) securities are measured at fair value and generally consist of debt securities held for investment. Unrealized gains and losses of AFS securities, after applicable taxes, are recorded as a component of other comprehensive income (“OCI”). AFS securities in an unrealized loss position are formally reviewed on a quarterly basis for the presence of credit impairment. If we have the intent to sell an identified security, or it is more likely than not we will be required to sell the security before recovery of its amortized cost basis, we write the amortized cost down to the security's fair value at the reporting date through earnings. If we have the intent and ability to hold the securities, they are analyzed to determine whether any impairment was attributable to credit-related factors. If a credit impairment is determined to exist, then we measure the amount of credit loss and recognize an allowance for the credit loss. The process, methodology, and factors considered to evaluate securities for impairment are described further in Note 5. Transfers of debt securities into the HTM category from the AFS category are made at fair value at the transfer date. Any unrealized holding gains or losses at the transfer date are retained in other comprehensive income (loss) and in the carrying value of the HTM securities. Such amounts are amortized over the remaining life of the security. 83 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Trading securities are measured at fair value and consist of securities generally held for only a short period of time. Realized and unrealized gains and losses are recorded in trading income, which is included in “Capital markets and foreign exchange fees” line item in the income statement. See Note 3 for further information regarding the measurement of our investment securities at fair value. Leases All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “Other assets,” and “Premises, equipment and software, net,” respectively. The corresponding liabilities for those leases are presented in “Other liabilities,” and “Long-term debt.” See Note 8 for further information regarding the accounting for leases. Loans Loans are reported at their amortized cost basis, which includes the principal amount outstanding, net of unamortized purchase premiums, discounts, and deferred loan fees and costs, which are amortized into interest income over the life of the loan using the interest method. At the time of origination, we determine whether loans will be held for investment or held for sale. We may subsequently change our intent for a loan or group of loans and reclassify them accordingly. Loans held for sale are carried at the lower of aggregate cost or fair value. A valuation allowance is recorded when cost exceeds fair value based on reviews at the time of reclassification and periodically thereafter. Gains and losses are recorded in “Loan-related fees and income” in noninterest income based on the difference between sales proceeds and carrying value. We evaluate loans throughout their lives for signs of credit deterioration, which may impact the loan status, risk- grading, and potentially impact the accounting for that loan. Loan status categories include past due as to contractual payments, accruing or nonaccruing, and restructured, including troubled debt restructurings (“TDRs”), which will no longer be designated after the adoption of ASU 2022-02, Financial Instruments--Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures , beginning January 1, 2023 as discussed in Note 2. Our accounting policies for loans and our estimation of the related ACL are described further in Note 6. In the ordinary course of business, we may syndicate portions of loans or transfer portions of loans under participation agreements to manage credit risk and our portfolio concentration. We evaluate the loan participations to determine if they meet the appropriate accounting guidance to qualify as sales. Certain purchased loans require separate accounting procedures that are also described in Note 6. Allowance for Credit Losses The ACL, which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. The ACL for debt securities is estimated separately from loans. See Note 6 for further discussion of our estimation process for the ACL. Other Noninterest-bearing Investments These investments include private equity investments (“PEIs”), venture capital securities, securities acquired for various debt and regulatory requirements, bank-owned life insurance (“BOLI”), and certain other noninterest-bearing investments. See further discussion in Note 3. Certain PEIs and venture capital securities are accounted for under the equity method when we are able to exercise significant influence over the operating and financial policies of the investee. Equity investments in PEIs that do not give us significant influence are reported at fair value, unless there is not a readily determinable fair value. We have elected to measure PEIs without readily determinable fair values at cost less impairment (if any), plus or minus observable price changes from an identical or similar investment of the same issuer, referred to as the “measurement alternative.” 84 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Periodic reviews are conducted for impairment by comparing carrying values with estimates of fair value. Changes in fair value, impairment losses, and gains and losses from sales are recognized in the “Securities gains and losses, net” line item in noninterest income. BOLI is accounted for at fair value based on the cash surrender values (“CSVs”) of the general account insurance policies. Premises, Equipment, and Software Premises, equipment, and software are reported at cost, net of accumulated depreciation and amortization. Depreciation, computed primarily on the straight-line method, is charged to operations over the estimated useful lives of the properties, generally 25 to 40 years for buildings, three to 10 years for furniture and equipment, and three to 10 years for software, including capitalized costs related to our technology initiatives. Leasehold improvements are amortized over the terms of the respective leases (including any extension options that are reasonably certain to be exercised) or the estimated useful lives of the improvements, whichever is shorter. Premises, equipment, and software are evaluated for impairment on a periodic basis. Goodwill and Intangible Assets Goodwill is recorded at fair value at the time of its acquisition and is subsequently evaluated for impairment annually, or more frequently if conditions warrant. Business Combinations Business combinations are accounted for under the acquisition method of accounting. Upon initially obtaining control, we recognize 100 % of all acquired assets and all assumed liabilities, regardless of the percentage owned. The assets and liabilities are recorded at their estimated fair values, with goodwill being recorded when such fair values are less than the cost of acquisition. Certain transaction and restructuring costs are expensed as incurred. Changes to estimated fair values from a business combination are recognized as an adjustment to goodwill over the measurement period, which cannot exceed one year from the acquisition date. Results of operations of acquired businesses are included in our statement of income from the date of acquisition. Other Real Estate Owned Other real estate owned (“OREO”) consists primarily of commercial and residential real estate acquired in partial or total satisfaction of loan obligations. Amounts are recorded initially at fair value (less estimated selling costs) based on recent property appraisals at the time of transfer and subsequently at the lower of cost or fair value (less estimated selling costs). Derivative Instruments We use derivative instruments such as swaps and purchased and sold options as an important tool used in managing our overall asset and liability sensitivities to remain within our stated interest rate risk thresholds. Their use allows us to adjust and align our mix of fixed- and floating-rate assets and liabilities to manage interest income volatility by synthetically converting variable-rate assets to fixed-rate, or synthetically converting fixed-rate funding instruments to floating rates. We also execute both interest rate and short-term foreign currency derivative instruments with our commercial banking customers to facilitate their risk management objectives. These derivatives are hedged by entering into offsetting derivatives with third parties such that we minimize our net risk exposure as a result of such transactions. We record all derivatives at fair value, and they are included on the consolidated balance sheet in “Other assets” or “Other liabilities.” The accounting for the change in value of a derivative depends on whether or not the transaction has been designated and qualifies for hedge accounting. Derivatives that are not designated as hedges are reported and measured at fair value through earnings. See Note 7 for more information. 85 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Derivatives Designated in Qualifying Hedging Relationships We apply hedge accounting to certain derivatives executed for risk management purposes, primarily interest rate risk. To qualify for hedge accounting, a derivative must be highly effective at reducing the risk associated with the exposure being hedged and the hedging relationship must be formally documented. We primarily use regression analysis to assess the effectiveness of each hedging relationship, unless the hedge qualifies for other methods of assessing effectiveness (e.g., shortcut or critical terms match), both at inception and on an ongoing basis. We designate derivatives as fair value and cash flow hedges for accounting purposes. See Note 7 for more information regarding the accounting for derivatives designated as hedging instruments. Commitments and Letters of Credit In the ordinary course of business, we enter into loan commitments, commercial letters of credit, and standby letters of credit. Such financial instruments are recorded in the financial statements when they are funded. The credit risk associated with these commitments is evaluated in a manner similar to the ALLL. The RULC is presented separately on the consolidated balance sheet in “Other liabilities.” Revenue Recognition Revenue from contracts with customers is recognized when control of the promised goods or services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those goods or services. See Note 17 for further information regarding how we recognize revenue for contracts with customers. Share-based Compensation Share-based compensation generally includes grants of stock options, restricted stock, restricted stock units (“RSUs”), and other awards to employees and nonemployee directors. We recognize compensation expense in the statement of income based on the grant-date value of the associated share-based awards. See further discussion in Note 19. Income Taxes Deferred tax assets (“DTAs”) and deferred tax liabilities (“DTLs”) are determined based on temporary differences between financial statement asset and liability amounts and their respective tax basis, and are measured using enacted tax laws and rates. The effect of a change in tax rates on DTAs and DTLs is recognized into income in the period that includes the enactment date. DTAs are recognized insofar that management deems it more likely than not that they will be realized. Unrecognized tax benefits for uncertain tax positions primarily relate to tax credits on technology initiatives. See Note 20 for more information about the factors that impacted our effective tax rate, significant components of our DTAs and DTLs, including our assessment regarding valuation allowances and unrecognized tax benefits for uncertain tax positions. Net Earnings Per Common Share Net earnings per common share is based on net earnings applicable to common shareholders, which is net of preferred stock dividends. Basic net earnings per common share is based on the weighted average outstanding common shares during each year. Unvested share-based awards with rights to receive nonforfeitable dividends are considered participating securities and are included in the computation of basic earnings per share. Diluted net earnings per common share is based on the weighted average outstanding common shares during each year, including common stock equivalents. Stock options, restricted stock, RSUs, and stock warrants are converted to common stock equivalents using the more dilutive of the treasury stock method or the two-class method. Diluted net earnings per common share excludes common stock equivalents whose effect is antidilutive. See further discussion in Note 21. 86 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 2. RECENT ACCOUNTING PRONOUNCEMENTS Standard Description Date of adoption Effect on the financial statements or other significant matters Standards not yet adopted by the Bank as of December 31, 2022 ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures This accounting standards update (“ASU”) eliminates the recognition and measurement guidance on troubled debt restructurings for creditors that have adopted ASC 326 (“CECL”), and eliminates certain existing TDR disclosures while requiring enhanced disclosures about loan modifications for borrowers experiencing financial difficulty. The new standard also requires public companies to present gross write-offs (on a year-to-date basis for interim-period disclosures) by year of origination in their vintage disclosures. The new standard is effective for calendar year-end public companies beginning January 1, 2023, with early adoption permitted. Periods beginning after December 15, 2022 We have implemented processes to capture necessary data in order to comply with the new disclosure requirements. The overall effect of this standard is not expected to have a material impact on our financial statements. We adopted the guidance in the new standard on January 1, 2023. ASU 2022-03, Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions This ASU clarifies that contractual restrictions prohibiting the sale of an equity security are not considered part of the unit of account of the equity security, and therefore, are not considered in measuring fair value. The amendments clarify that an entity cannot recognize and measure a contractual sale restriction as a separate unit of account. The amendments in this ASU also require additional qualitative and quantitative disclosures for equity securities subject to contractual sale restrictions. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 The requirements of this ASU are consistent with our current treatment of equity securities subject to contractual sale restrictions and are not expected to impact the fair value measurements of these securities. We are evaluating supplementary disclosure requirements and additional data needed to meet these requirements. The overall effect of this standard is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. 87 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Standard Description Date of adoption Effect on the financial statements or other significant matters Standards adopted by the Bank in 2022 ASU 2022-06, Reference Rate Reform (Topic 848): Deferral of The Sunset Date of Topic 848 As part of reference rate reform, the London Interbank Offered Rate (“LIBOR”) is expected to be discontinued and be replaced by observable or transaction-based alternative reference rates. ASC 848, Reference Rate Reform , provided temporary optional expedients and exceptions tha (1) modify the accounting requirements for contract modifications for contracts that reference LIBOR, (2) provide for a one-time election to sell or transfer to AFS or trading certain qualifying HTM debt securities, and (3) provide various optional expedients for hedging relationships affected by reference rate reform. These practical expedients were originally set to expire on December 31, 2022. In March 2021, the Financial Conduct Authority (“FCA”) extended the cessation date of most common tenors of United States Dollar (“USD”) LIBOR to June 30, 2023, beyond the original sunset date of ASC 848. ASU 2022-06 extends the original sunset date of the practical expedients detailed in ASC 848 to December 31, 2024. December 31, 2022 We adopted ASC 848 on April 1, 2020. As of December 31, 2022, we had transitioned a significant portion of our legacy LIBOR-based contracts to alternative reference rates. The extension of the sunset date in ASC 848 will facilitate the transition of the remaining contracts away from LIBOR, but is not expected to have a material impact on the Bank. The amendments in ASU 2022-06 became effective upon issuance of the Update. 3. FAIR VALUE Fair Value Measurement Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. To measure fair value, a hierarchy has been established that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs. This hierarchy uses the following three levels of inputs to measure the fair value of assets and liabiliti Level 1 — Quoted prices in active markets for identical assets or liabilities that we have the ability to access; Level 2 — Observable inputs other than Level 1, including quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in less active markets, observable inputs other than quoted prices that are used in the valuation of an asset or liability, and inputs that are derived principally from or corroborated by observable market data by correlation or other means; and Level 3 — Unobservable inputs supported by little or no market activity for financial instruments whose value is determined by pricing models, discounted cash flow methodologies or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. The level in the fair value hierarchy within which the fair value measurement is classified is determined based on the lowest level input that is significant to the fair value measurement in its entirety. Market activity is presumed to be orderly in the absence of evidence of forced or disorderly sales. Applicable accounting guidance precludes the use of blockage factors or liquidity adjustments due to the quantity of securities held by an entity. We measure certain assets and liabilities at fair value on a recurring basis when fair value is the primary measure for accounting. Fair value is used on a nonrecurring basis to measure certain assets, such as the application of lower of 88 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES cost or fair value accounting and the recognition of impairment on assets. Fair value is also used when providing required disclosures for certain financial instruments. Fair Value Policies and Procedures We have various policies, processes, and controls in place to ensure that fair values are reasonably developed, reviewed, and approved for use. These include a Securities Valuation Committee, comprised of executive management, that reviews and approves on a quarterly basis the key components of fair value measurements, including critical valuation assumptions for Level 3 measurements. Our Model Risk Management Group conducts model validations, including internal models, and sets policies and procedures for revalidation, including the timing of revalidation. Third-party Service Providers We use a third-party pricing service to measure fair value for substantially all of our Level 2 AFS securities. Fair value measurements for other Level 2 AFS securities generally use inputs corroborated by market data and include standard discounted cash flow analysis. For Level 2 securities, the third-party pricing service provides documentation on an ongoing basis that presents market data, including detailed pricing information and market reference data. The documentation includes benchmark yields, reported trades, broker-dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, and reference data, including information from the vendor trading platform. We review, test, and validate this information on a regular basis. The following describes the hierarchy designations, valuation methodologies and key inputs to measure fair value on a recurring basis for designated financial instruments: Available-for-Sale • U.S. Treasury, Agencies and Corporations — U.S. Treasury securities measured using quoted market prices are classified in Level 1. U.S. agency and corporate securities measured using observable market inputs are classified in Level 2. • Municipal Securities — Municipal securities are measured using observable market inputs and are classified in Level 2. • Other Debt Securities — Other debt securities are measured using quoted prices for similar securities and are classified in Level 2. Trading Trading securities are measured using observable market inputs and are classified in Level 1 and Level 2. Bank-owned Life Insurance BOLI is measured according to the cash surrender value (“CSV”) of the insurance policies. Nearly all policies are general account policies with CSVs based on our claims on the assets of the insurance companies. The insurance companies’ investments include predominantly fixed-income securities consisting of investment-grade corporate bonds and various types of mortgage instruments. Management regularly reviews its BOLI investment performance, including concentrations among insurance providers and classifies BOLI balances in Level 2. Private Equity Investments PEIs carried at fair value on a recurring basis are generally classified in Level 3 because related measurements include unobservable inputs. Key assumptions and considerations include current and projected financial performance, recent financing activities, economic and market conditions, market comparable companies, market liquidity, and other factors. The majority of these PEIs are held in our Small Business Investment Company (“SBIC”) and are early-stage venture investments. These investments are reviewed at least quarterly by the Securities Valuation Committee and whenever a new round of financing occurs. Certain of these investments may be measured using multiples of operating performance. The Equity Investments Committee reviews periodic 89 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES financial information for these investments, including audited financial statements when available. On occasion, PEIs may become publicly traded and are measured in Level 1. Certain restrictions apply for the redemption of these investments. See additional discussions in Note 5. Agriculture Loan Servicing We service agriculture loans approved and funded by Federal Agricultural Mortgage Corporation (“FAMC”), and provide this servicing under an agreement with FAMC for the loans it owns. The servicing assets are measured at fair value, which represents our projection of the present value of future cash flows. Because related measurements include unobservable inputs, these assets are classified in Level 3. Interest-only Strips Interest-only strips are created as a by-product of securitizing U.S. Small Business Administration (“SBA”) loan pools. When the guaranteed portions of SBA 7(a) loans are pooled, interest-only strips may be created in the pooling process. The asset’s fair value is measured using discounted cash flow methodologies that incorporate unobservable inputs, and therefore are classified in Level 3. Deferred Compensation Plan Assets Invested assets in the deferred compensation plan consist of shares of registered investment companies. These mutual funds are valued using quoted market prices, which represents the net asset value (“NAV”) of shares held by the plan at the end of the period. As such, these assets are classified in Level 1. Derivatives Exchange-traded derivatives, including foreign currency exchange contracts, are generally classified in Level 1 because they are traded in active markets. Over-the-counter derivatives, consisting primarily of interest rate swaps and options, are generally classified in Level 2 as the related fair values are obtained from third-party services that utilize observable market inputs. Observable market inputs include yield curves, foreign exchange rates, commodity prices, option volatility, counterparty credit risk, and other related data. Valuations include credit valuation adjustments (“CVAs”) to reflect nonperformance risk for both us and our counterparties. CVAs are determined generally by applying a credit spread to the total expected exposure (net of any collateral) of the derivative. Securities Sold, Not Yet Purchased Securities sold, not yet purchased, included in “Federal funds and other short-term borrowings” on the consolidated balance sheet, are measured using quoted market prices and are generally classified in Level 1. If market prices for identical securities are not available, quoted prices for similar securities are used with the related balances classified in Level 2. 90 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Quantitative Disclosure by Fair Value Hierarchy Assets and liabilities measured at fair value by class on a recurring basis are summarized as follows: (In millions) December 31, 2022 Level 1 Level 2 Level 3 Total ASSETS Investment securiti Available-for-s U.S. Treasury, agencies and corporations $ 393 $ 9,815 $ — $ 10,208 Municipal securities 1,634 1,634 Other debt securities 73 73 Total Available-for-sale 393 11,522 — 11,915 Trading account 395 70 465 Other noninterest-bearing investments: Bank-owned life insurance 546 546 Private equity investments 1 4 81 85 Other assets: Agriculture loan servicing and interest-only strips 14 14 Deferred compensation plan assets 114 114 Derivatives 386 386 Total Assets $ 906 $ 12,524 $ 95 $ 13,525 LIABILITIES Securities sold, not yet purchased $ 187 $ — $ — $ 187 Other liabiliti Derivatives 451 451 Total Liabilities $ 187 $ 451 $ — $ 638 1 The level 1 PEIs relate to the portion of our SBIC investments that are now publicly traded. (In millions) December 31, 2021 Level 1 Level 2 Level 3 Total ASSETS Investment securiti Available-for-s U.S. Treasury, agencies and corporations $ 134 $ 22,144 $ — $ 22,278 Municipal securities 1,694 1,694 Other debt securities 76 76 Total Available-for-sale 134 23,914 — 24,048 Trading account 14 358 372 Other noninterest-bearing investments: Bank-owned life insurance 537 537 Private equity investments 35 66 101 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 138 138 Derivatives 219 219 Total Assets $ 321 $ 25,028 $ 78 $ 25,427 LIABILITIES Securities sold, not yet purchased $ 254 $ — $ — $ 254 Other liabiliti Derivatives 51 51 Total Liabilities $ 254 $ 51 $ — $ 305 91 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments December 31, 2022 December 31, 2021 (In millions) Private equity investments Ag loan servicing & interest-only strips Private equity investments Ag loan servicing & interest-only strips Balance at beginning of year $ 66 $ 12 $ 80 $ 16 Unrealized securities gains (losses), net 3 — 71 — Other noninterest income (expense) — 2 — ( 3 ) Purchases 16 — 17 — Cost of investments sold ( 3 ) — ( 24 ) — Redemptions and paydowns — — — ( 1 ) Transfers out 1 ( 1 ) — ( 78 ) — Balance at end of year $ 81 $ 14 $ 66 $ 12 1 Represents the transfer of SBIC investments out of Level 3 and into Level 1 because they are now publicly traded. The rollforward of Level 3 instruments includes the following realized gains and losses recognized in securities gains (losses) on the consolidated statement of income for the periods present (In millions) Year Ended December 31, 2022 2021 Securities gains (losses), net $ ( 2 ) $ 31 Nonrecurring Fair Value Measurements Certain assets and liabilities may be recorded at fair value on a nonrecurring basis, including impaired loans that have been measured based on the fair value of the underlying collateral, OREO, and equity investments without readily determinable fair values. Nonrecurring fair value adjustments generally include changes in value resulting from observable price changes for equity investments without readily determinable fair values, write-downs of individual assets, or the application of lower of cost or fair value accounting. At December 31, 2022, we had an insignificant amount of assets or liabilities that had fair value changes measured on a nonrecurring basis. Loans that are collateral dependent were measured at the lower of amortized cost or the fair value of the collateral. OREO was measured initially at fair value based on collateral appraisals at the time of transfer and subsequently at the lower of cost or fair value (less any selling costs). Measurement of fair value for collateral-dependent loans and OREO was based on third-party appraisals that utilize one or more valuation techniques (income, market and/or cost approaches). Any adjustments to calculated fair value were made based on recently completed and validated third-party appraisals, third-party appraisal services, automated valuation services, or our informed judgment. Automated valuation services may be used primarily for residential properties when values from any of the previous methods were not available within 90 days of the balance sheet date. These services use models based on market, economic, and demographic values. 92 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Fair Value of Certain Financial Instruments The following schedule presents the carrying values and estimated fair values of certain financial instruments: December 31, 2022 December 31, 2021 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: Held-to-maturity investment securities $ 11,126 $ 11,239 2 $ 441 $ 443 2 Loans and leases (including loans held for sale), net of allowance 55,086 53,093 3 50,421 50,619 3 Financial liabiliti Time deposits 2,309 2,269 2 1,622 1,624 2 Long-term debt 651 635 2 1,012 1,034 2 The schedule above does not include certain financial instruments that are recorded at fair value on a recurring basis, as well as certain financial assets and liabilities for which the carrying value approximates fair value, such as cash and due from banks; money market investments; demand, savings, and money market deposits; federal funds purchased and other short-term borrowings; and security repurchase agreements. The estimated fair value of demand, savings and money market deposits is the amount payable on demand at the reporting date. Carrying value is used because the accounts have no stated maturity, and the customer has the ability to withdraw funds immediately. Time and foreign deposits are measured at fair value by discounting future cash flows using the applicable yield curve to the given maturity dates. Long-term debt is measured at fair value based on actual market trades (i.e., an asset value) when available, or discounting cash flows to maturity using the applicable yield curve adjusted for credit spreads. For loans measured at amortized cost, fair value is estimated for disclosure purposes by discounting future cash flows using the applicable yield curve adjusted by a factor that is derived from analyzing recent loan originations and combined with a liquidity premium inherent in the loan. These future cash flows are then reduced by the estimated life-of-the-loan aggregate credit losses in the loan portfolio (i.e., the allowance for loan and lease losses under the CECL model). The methods used to measure fair value for HTM securities was previously described. These fair value disclosures represent our best estimates based on relevant market information. Fair value estimates are based on judgments regarding current economic conditions, future expected loss experience, risk characteristics of the various instruments, and other factors. These estimates are subjective in nature, involve uncertainties and matters of significant judgment, and cannot be determined with precision. Changes in these methodologies and assumptions would significantly affect the estimates. 93 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 4. OFFSETTING ASSETS AND LIABILITIES Gross and net information for selected financial instruments in the balance sheet is as follows: December 31, 2022 (In millions) Gross amounts not offset in the balance sheet Description Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 2,451 $ ( 25 ) $ 2,426 $ — $ — $ 2,426 Derivatives (included in Other assets ) 386 — 386 ( 10 ) ( 367 ) 9 Total assets $ 2,837 $ ( 25 ) $ 2,812 $ ( 10 ) $ ( 367 ) $ 2,435 Liabiliti Federal funds and other short-term borrowings $ 10,442 $ ( 25 ) $ 10,417 $ — $ — $ 10,417 Derivatives (included in Other liabilities ) 451 — 451 ( 10 ) — 441 Total liabilities $ 10,893 $ ( 25 ) $ 10,868 $ ( 10 ) $ — $ 10,858 December 31, 2021 (In millions) Gross amounts not offset in the balance sheet Description Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 2,133 $ — $ 2,133 $ — $ — $ 2,133 Derivatives (included in Other assets ) 219 — 219 ( 16 ) ( 7 ) 196 Total assets $ 2,352 $ — $ 2,352 $ ( 16 ) $ ( 7 ) $ 2,329 Liabiliti Federal funds and other short-term borrowings $ 903 $ — $ 903 $ — $ — $ 903 Derivatives (included in Other liabilities ) 51 — 51 ( 16 ) ( 1 ) 34 Total liabilities $ 954 $ — $ 954 $ ( 16 ) $ ( 1 ) $ 937 Security repurchase and reverse repurchase agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 94 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 5. INVESTMENTS Investment Securities Investment securities are classified as HTM, AFS, or trading. HTM securities, which management has the intent and ability to hold until maturity, are carried at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. When a security is transferred from AFS to HTM, the difference between its amortized cost basis and fair value at the date of transfer is amortized as a yield adjustment through interest income, and the fair value at the date of transfer, adjusted for subsequent amortization, becomes the security’s amortized cost basis. The amortization of the unrealized losses reported in accumulated other comprehensive income (“AOCI”) will offset the effect of the accretion of the discount in interest income that is created by adjusting the amortized cost basis to the securities’ fair value on the date of the transfer. AFS securities are carried at fair value, and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to AOCI, net of related taxes. Trading securities are carried at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 75 million and $ 65 million at December 31, 2022, and 2021, respectively. These receivables are presented on the consolidated balance sheet in “Other assets.” The purchase premiums for callable debt securities classified as HTM or AFS are amortized into interest income at an effective yield to the earliest call date. The purchase premiums and discounts for all other HTM and AFS securities are recognized in interest income over the contractual life of the security using the effective yield method. As principal prepayments are received on securities, a proportionate amount of the related premium or discount is recognized in income so that the effective yield on the remaining portion of the security continues unchanged. See Note 3 for more information about the process to estimate fair value for investment securities. December 31, 2022 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 100 $ — $ 7 $ 93 Agency guaranteed mortgage-backed securities 1 10,621 165 14 10,772 Municipal securities 405 — 31 374 Total held-to-maturity 11,126 165 52 11,239 Available-for-sale U.S. Treasury securities 557 — 164 393 U.S. Government agencies and corporatio Agency securities 782 — 46 736 Agency guaranteed mortgage-backed securities 9,652 — 1,285 8,367 Small Business Administration loan-backed securities 740 1 29 712 Municipal securities 1,732 1 99 1,634 Other debt securities 75 — 2 73 Total available-for-sale 13,538 2 1,625 11,915 Total HTM and AFS investment securities $ 24,664 $ 167 $ 1,677 $ 23,154 1 During the fourth quarter of 2022, we transferred approximately $ 10.7 billion fair value ($ 13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category to reflect our intent for these securities. The amortized cost basis of these securities does not include $ 2.4 billion of unrealized losses in AOCI that is amortized over the life of the securities. The amortization of the unrealized losses reported in AOCI will offset the effect of the accretion of the discount in interest income that is created by adjusting the amortized cost basis to the securities ’ fair value on the date of the transfer. 95 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 441 $ 4 $ 2 $ 443 Available-for-sale U.S. Treasury securities 155 — 21 134 U.S. Government agencies and corporatio Agency securities 833 13 1 845 Agency guaranteed mortgage-backed securities 20,549 108 270 20,387 Small Business Administration loan-backed securities 938 2 28 912 Municipal securities 1,652 46 4 1,694 Other debt securities 75 1 — 76 Total available-for-sale 24,202 170 324 24,048 Total HTM and AFS investment securities $ 24,643 $ 174 $ 326 $ 24,491 Maturities The following schedule shows the amortized cost and weighted average yields of debt securities by contractual maturity of principal payments at December 31, 2022. Actual principal payments may differ from contractual or expected principal payments because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. 96 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Total debt securities Due in one year or less Due after one year through five years Due after five years through 10 years Due after 10 years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 100 3.50 % $ — — % $ — — % $ — — % $ 100 3.50 % Agency guaranteed mortgage-backed securities 10,621 1.84 — — — — 49 2.02 10,572 1.84 Municipal securities 1 405 3.05 33 3.32 130 3.13 183 3.09 59 2.61 Total held-to-maturity securities 11,126 1.90 33 3.32 130 3.13 232 2.86 10,731 1.86 Available-for-sale U.S. Treasury securities 557 2.05 — — — — — — 557 2.05 U.S. Government agencies and corporatio Agency securities 782 2.61 — — 345 2.40 230 2.49 207 3.10 Agency guaranteed mortgage-backed securities 9,652 1.92 25 4.27 305 1.53 1,625 2.03 7,697 1.91 Small Business Administration loan-backed securities 740 3.83 — — 43 4.22 154 3.66 543 3.84 Municipal securities 1 1,732 2.24 112 2.29 643 2.73 706 1.90 271 1.94 Other debt securities 75 5.39 — — 50 4.25 10 9.52 15 6.44 Total available-for-sale securities 13,538 2.13 137 2.65 1,386 2.48 2,725 2.15 9,290 2.06 Total HTM and AFS investment securities $ 24,664 2.16 % $ 170 2.78 % $ 1,516 2.54 % $ 2,957 2.21 % $ 20,021 2.06 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis. The following schedule summarizes the amount of gross unrealized losses for debt securities and the estimated fair value by length of time the securities have been in an unrealized loss positi December 31, 2022 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ 94 $ 308 $ 70 $ 85 $ 164 $ 393 U.S. Government agencies and corporatio Agency securities 39 634 7 102 46 736 Agency guaranteed mortgage-backed securities 447 4,322 838 4,042 1,285 8,364 Small Business Administration loan-backed securities 8 101 21 524 29 625 Municipal securities 63 1,295 36 256 99 1,551 Other 2 13 — — 2 13 Total available-for-sale investment securities $ 653 $ 6,673 $ 972 $ 5,009 $ 1,625 $ 11,682 97 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ — $ — $ 21 $ 134 $ 21 $ 134 U.S. Government agencies and corporatio Agency securities 1 121 — 1 1 122 Agency guaranteed mortgage-backed securities 231 13,574 39 942 270 14,516 Small Business Administration loan-backed securities — 27 28 749 28 776 Municipal securities 4 327 — 8 4 335 Other — — — — — — Total available-for-sale investment securities $ 236 $ 14,049 $ 88 $ 1,834 $ 324 $ 15,883 Approximately 3,562 and 1,302 AFS investment securities were in an unrealized loss position at December 31, 2022, and 2021, respectively. Impairment Ongoing Policy We review investment securities quarterly on an individual basis for the presence of impairment. For AFS securities, when the fair value of a debt security is less than its amortized cost basis at the balance sheet date, we assess for the presence of credit impairment. When determining if the fair value of an investment is less than the amortized cost basis, we have elected to exclude accrued interest from the amortized cost basis of the investment. If we have the intent to sell an identified security, or if it is more likely than not we will be required to sell the security before recovery of its amortized cost basis, we write the amortized cost down to the security’s fair value at the reporting date through earnings. If we have the intent and ability to hold the securities, we determine whether there is any impairment attributable to credit-related factors. We analyze certain factors, primarily internal and external credit ratings, to determine if the decline in fair value below the amortized cost basis has resulted from a credit loss or other factors. If a credit impairment is determined to exist, then we measure the amount of credit loss and recognize an allowance for the credit loss. In measuring the credit loss, we generally compare the present value of cash flows expected to be collected from the security to the amortized cost basis of the security. These cash flows are credit adjusted using, among other things, assumptions for default probability and loss severity. Certain other inputs, such as prepayment rate assumptions, are also utilized. In addition, certain internal models may be utilized. To determine the credit-related portion of impairment, we use the security-specific effective interest rate when estimating the present value of cash flows. If the present value of cash flows is less than the amortized cost basis of the security, then this amount is recorded as an allowance for credit loss, limited to the amount that the fair value is less than the amortized cost basis (i.e., the credit impairment cannot result in the security being carried at an amount lower than its fair value). The assumptions used to estimate the expected cash flows depend on the particular asset class, structure, and credit rating of the security. Declines in fair value that are not recorded in the allowance are recorded in other comprehensive income, net of applicable taxes. AFS Impairment We did not recognize any credit impairment on our AFS investment securities portfolio during 2022 or 2021. Unrealized losses relate primarily to changes in interest rates subsequent to purchase and are not attributable to credit. At December 31, 2022, we had not initiated any sales of AFS securities, nor did we have the intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not we would be required to sell such securities before recovery of their amortized cost basis. 98 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES HTM Impairment For HTM securities, the ACL is assessed consistent with the approach described in Note 6 for loans and leases carried at amortized cost. The ACL on HTM securities was less than $ 1 million at December 31, 2022. All HTM securities were risk-graded as “pass” in terms of credit quality, and none were past due at December 31, 2022. The following schedule presents the amortized cost basis of HTM securities categorized by year acquir December 31, 2022 Amortized cost basis by year acquired (In millions) 2022 2021 2020 2019 2018 Prior Total Securities Held-to-maturity $ 2,386 $ 7,222 $ 1,121 $ 81 $ 72 $ 244 $ 11,126 Securities Gains and Losses Recognized in Income The following schedule summarizes securities gains and losses recognized in the income statemen 2022 2021 2020 (In millions) Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Other noninterest-bearing investments $ 11 $ 26 $ 119 $ 48 $ 27 $ 20 Net gains (losses) 1 $ ( 15 ) $ 71 $ 7 1 Net gains (losses) were recognized in securities gains (losses) in the income statement. The following schedule presents interest income by security type: (In millions) 2022 2021 2020 Taxable Nontaxable Total Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 42 $ 4 $ 46 $ 10 $ 5 $ 15 $ 10 $ 10 $ 20 Available-for-sale 411 40 451 256 29 285 252 25 277 Trading — 15 15 — 11 11 — 7 7 Total securities $ 453 $ 59 $ 512 $ 266 $ 45 $ 311 $ 262 $ 42 $ 304 Investment securities with a carrying value of $ 7.1 billion and $ 3.1 billion at December 31, 2022, and 2021, respectively, were pledged to secure public and trust deposits, advances, and for other purposes as required by law. Securities are also pledged as collateral for security repurchase agreements. 99 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific class: December 31, (In millions) 2022 2021 Loans held for sale $ 8 $ 83 Commerci Commercial and industrial $ 16,180 $ 13,867 PPP 197 1,855 Leasing 386 327 Owner-occupied 9,371 8,733 Municipal 4,361 3,658 Total commercial 30,495 28,440 Commercial real estate: Construction and land development 2,513 2,757 Term 10,226 9,441 Total commercial real estate 12,739 12,198 Consume Home equity credit line 3,377 3,016 1-4 family residential 7,286 6,050 Construction and other consumer real estate 1,161 638 Bankcard and other revolving plans 471 396 Other 124 113 Total consumer 12,419 10,213 Total loans and leases $ 55,653 $ 50,851 Loans and leases are measured and presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 49 million and $ 83 million at December 31, 2022, and December 31, 2021, respectively. Amortized cost basis does not include accrued interest receivables of $ 247 million and $ 161 million at December 31, 2022, and December 31, 2021, respectively. These receivables are presented on the consolidated balance sheet within the “ Other assets ” line item. Municipal loans generally include loans to state and local governments (“municipalities”) with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 262 million at December 31, 2022 and $ 160 million at December 31, 2021. Loans with a carrying value of approximately $ 27.6 billion at December 31, 2022, and $ 26.8 billion at December 31, 2021, have been pledged at the Federal Reserve and the Federal Home Loan Bank (“FHLB”) of Des Moines as collateral for current and potential borrowings. We sold loans totaling $ 0.7 billion in 2022, $ 1.7 billion in 2021, and $ 1.8 billion in 2020, that were classified as loans held for sale. Loans classified as loans held for sale primarily consist of conforming residential mortgages and the guaranteed portion of SBA loans that are primarily sold to U.S. government agencies or participated to third-parties. They do not include loans from the SBA’s Paycheck Protection Program (“PPP”). Occasionally, we have continuing involvement in the sold loans in the form of servicing rights or guarantees. Amounts added to loans held for sale during these same periods were $ 0.7 billion, $ 1.7 billion, and $ 1.8 billion, respectively. See Note 5 for further information regarding guaranteed securities. 100 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The principal balance of sold loans for which we have retained servicing was approximately $ 3.5 billion at December 31, 2022, and $ 3.3 billion at December 31, 2021. Income from loans sold, excluding servicing, was $ 14 million in 2022, $ 34 million in 2021, and $ 54 million in 2020. Allowance for Credit Losses The ACL, which consists of the ALLL and the RULC, represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is assessed consistent with the approach for loans carried at amortized cost. See Note 5 for further discussion on our assessment of expected credit losses on AFS securities and disclosures related to AFS and HTM securities. The ACL reflects our best estimate of credit losses and is calculated using the loan’s amortized cost basis (principal balance, net of unamortized premiums, discounts, and deferred fees and costs). We do not estimate the ACL for accrued interest receivables because we reverse or write-off uncollectible accrued interest receivable balances in a timely manner, generally within one month. The methodologies we use to estimate the ACL depend upon the type of loan, the age and contractual term of the loan, expected payments (both contractual and assumed prepayments), credit quality indicators, economic forecasts, and the evaluation method (whether individually or collectively evaluated). Loan extensions or renewals are not considered in the ACL unless they are included in the original or modified loan contract and are not unconditionally cancellable, or we reasonably expect a related modification to result in a TDR. Losses are charged to the ACL when recognized. Generally, commercial and commercial real estate (“CRE”) loans are charged off or charged down when they are determined to be uncollectible in whole or in part, or when 180 days past due, unless the loan is well-secured and in process of collection. Consumer loans are either charged off or charged down to net realizable value no later than the month in which they become 180 days past due. Closed-end consumer loans that are not secured by residential real estate are either charged off or charged down to net realizable value no later than the month in which they become 120 days past due. We establish the amount of the ACL by analyzing the portfolio at least quarterly, and we adjust the provision for loan losses and unfunded lending commitments to ensure the ACL is at an appropriate level at the balance sheet date. The ACL is determined based on our review of loans that have similar risk characteristics, which are evaluated on a collective basis, as well as loans that do not have similar risk characteristics, which are evaluated on an individual basis. For commercial and CRE loans with commitments greater than $ 1 million, we assign internal risk grades using a comprehensive loan grading system based on financial and statistical models, individual credit analysis, and loan officer experience and judgment. The credit quality indicators described subsequently are based on this grading system. Estimated credit losses on all loan segments, including consumer and small commercial and CRE loans with commitments less than or equal to $ 1 million that are evaluated on a collective basis, are derived from statistical analyses of our historical default and loss experience since January 2008. We estimate current expected credit losses for each loan, which includes considerations of historical credit loss experience, current conditions, and reasonable and supportable forecasts about the future. We use the following two types of credit loss estimation mod • Econometric loss models, which rely on statistical analyses of our historical loss experience dependent upon economic factors and other loan-level characteristics. Statistically relevant economic factors vary depending upon the type of loan, but include variables such as unemployment, real estate price indices, energy prices, GDP, etc. The models use multiple economic scenarios that reflect optimistic, baseline, and stressed economic conditions. The results derived using these economic scenarios are probability-weighted to produce the credit loss estimate. • Loss models that are based on our long-term average historical credit loss experience since 2008, which rely on statistical analyses of our historical loss experience dependent upon loan-level characteristics. 101 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit loss estimates for the first 12 months of a loan’s remaining life are derived using econometric loss models. Over a subsequent 12-month reversion period, we blend the estimated credit losses from the two models on a straight-line basis. For the remaining life of the loan, the estimated credit losses are derived from the long-term average historical credit loss models. For loans that do not share risk characteristics with other loans, we estimate lifetime expected credit losses on an individual basis. These include nonaccrual loans with a balance greater than $ 1 million; TDR loans, including TDRs that subsequently default; a loan no longer reported as a TDR; or a loan where we reasonably expect it to become a TDR. When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on either the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. When we base the specific reserve on the fair value of the loan’s underlying collateral, we generally charge-off the portion of the balance that is greater than fair value. For these loans, subsequent to the charge-off, if the fair value of the loan’s underlying collateral increases according to an updated appraisal, we establish a negative reserve up to the lesser of the amount of the charge-off or the updated fair value. The methodologies described previously generally rely on historical loss information to help determine our quantitative portion of the ACL. However, we also consider other qualitative and environmental factors related to current conditions and reasonable and supportable forecasts that may indicate current expected credit losses may differ from the historical information reflected in our quantitative models. Thus, after applying historical loss experience, as described above, we review the quantitative portion of ACL for each segment using qualitative criteria, and we use those criteria to determine our qualitative estimate. We monitor various risk factors that influence our judgment regarding the level of the ACL across the portfolio segments. These factors primarily inclu • Actual and expected changes in international, national, regional, and local economic and business conditions and developments; • The volume and severity of past due loans, the volume of nonaccrual loans, and the volume and severity of adversely classified or graded loans; • Lending policies and procedures, including changes in underwriting standards and practices for collection, charge-off, and recovery; • The experience, ability, and depth of lending management and other relevant staff; • The nature and volume of the portfolio; • The quality of the credit review function; • The existence, growth, and effect of any concentration of credit; • The effect of other external factors such as regulatory, legal, and technological environments; fiscal and monetary actions; competition; and events such as natural disasters and pandemics. The magnitude of the impact of these factors on our qualitative assessment of the ACL changes from quarter to quarter according to changes made by management in its assessment of these factors, the extent these factors are already reflected in quantitative loss estimates, and the extent changes in these factors diverge from one to another. Management may adjust the probability weights mentioned previously to reflect management’s assessments of current conditions and reasonable and supportable forecasts. We also consider the uncertainty and imprecision inherent in the estimation process when evaluating the ACL. Off-balance Sheet Credit Exposures As previously mentioned, we estimate current expected credit losses for off-balance sheet loan commitments, including letters of credit that are not unconditionally cancellable. This estimate uses the same procedures and methodologies described previously for loans and is calculated by taking the difference between the estimated current expected credit loss and the funded balance, if greater than zero. 102 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Changes in the Allowance for Credit Losses Changes in the ACL are summarized as follows: December 31, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan and lease losses Balance at beginning of year $ 311 $ 107 $ 95 $ 513 Provision for loan losses 29 49 23 101 Gross loan and lease charge-offs 72 — 10 82 Recoveries 32 — 11 43 Net loan and lease charge-offs (recoveries) 40 — ( 1 ) 39 Balance at end of year $ 300 $ 156 $ 119 $ 575 Reserve for unfunded lending commitments Balance at beginning of year $ 19 $ 11 $ 10 $ 40 Provision for unfunded lending commitments ( 3 ) 22 2 21 Balance at end of year $ 16 $ 33 $ 12 $ 61 Total allowance for credit losses Allowance for loan and lease losses $ 300 $ 156 $ 119 $ 575 Reserve for unfunded lending commitments 16 33 12 61 Total allowance for credit losses $ 316 $ 189 $ 131 $ 636 December 31, 2021 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan and lease losses Balance at beginning of year $ 464 $ 171 $ 142 $ 777 Provision for loan losses ( 147 ) ( 67 ) ( 44 ) ( 258 ) Gross loan and lease charge-offs 35 — 13 48 Recoveries 29 3 10 42 Net loan and lease charge-offs (recoveries) 6 ( 3 ) 3 6 Balance at end of year $ 311 $ 107 $ 95 $ 513 Reserve for unfunded lending commitments Balance at beginning of year $ 30 $ 20 $ 8 $ 58 Provision for unfunded lending commitments ( 11 ) ( 9 ) 2 ( 18 ) Balance at end of year $ 19 $ 11 $ 10 $ 40 Total allowance for credit losses Allowance for loan and lease losses $ 311 $ 107 $ 95 $ 513 Reserve for unfunded lending commitments 19 11 10 40 Total allowance for credit losses $ 330 $ 118 $ 105 $ 553 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral-value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement; (2) the loan, if secured, is well-secured; (3) the borrower has paid according to the contractual terms for a minimum of six months; and (4) an analysis of the borrower indicates a 103 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of loans on nonaccrual status is summarized as follows: December 31, 2022 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 4 $ 52 $ 56 $ 26 PPP 4 3 7 1 Owner-occupied 13 11 24 1 Total commercial 21 66 87 28 Commercial real estate: Term — 14 14 2 Total commercial real estate — 14 14 2 Consume Home equity credit line 1 10 11 2 1-4 family residential 9 28 37 3 Total consumer loans 10 38 48 5 Total $ 31 $ 118 $ 149 $ 35 December 31, 2021 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 30 $ 94 $ 124 $ 34 SBA PPP 2 1 3 — Owner-occupied 37 20 57 3 Total commercial 69 115 184 37 Commercial real estate: Term 6 14 20 3 Total commercial real estate 6 14 20 3 Consume Home equity credit line 4 10 14 2 1-4 family residential 9 43 52 5 Bankcard and other revolving plans — 1 1 1 Total consumer loans 13 54 67 8 Total $ 88 $ 183 $ 271 $ 48 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. When the collectibility of the amortized cost basis for a nonaccrual loan is no longer in doubt, then interest payments may be recognized in interest income on a cash basis. For 2022 and 2021, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. 104 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amount of accrued interest receivables reversed from interest income during the periods presented is summarized by loan portfolio segment as follows: Twelve Months Ended December 31, (In millions) 2022 2021 2020 Commercial $ 12 $ 15 $ 16 Commercial real estate 1 2 2 Consumer — — 1 Total $ 13 $ 17 $ 19 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as bankcard and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. Past-due loans (accruing and nonaccruing) are summarized as follows: December 31, 2022 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 16,148 $ 18 $ 14 $ 32 $ 16,180 $ 2 $ 44 PPP 183 6 8 14 197 2 1 Leasing 386 — — — 386 — — Owner-occupied 9,344 20 7 27 9,371 1 15 Municipal 4,361 — — — 4,361 — — Total commercial 30,422 44 29 73 30,495 5 60 Commercial real estate: Construction and land development 2,511 2 — 2 2,513 — — Term 10,179 37 10 47 10,226 — 4 Total commercial real estate 12,690 39 10 49 12,739 — 4 Consume Home equity credit line 3,369 5 3 8 3,377 — 6 1-4 family residential 7,258 9 19 28 7,286 — 16 Construction and other consumer real estate 1,161 — — — 1,161 — Bankcard and other revolving plans 467 3 1 4 471 1 — Other 124 — — — 124 — — Total consumer loans 12,379 17 23 40 12,419 1 22 Total $ 55,491 $ 100 $ 62 $ 162 $ 55,653 $ 6 $ 86 105 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 13,822 $ 17 $ 28 $ 45 $ 13,867 $ 2 $ 91 PPP 1,813 35 7 42 1,855 5 — Leasing 327 — — — 327 — — Owner-occupied 8,712 7 14 21 8,733 — 42 Municipal 3,658 — — — 3,658 — — Total commercial 28,332 59 49 108 28,440 7 133 Commercial real estate: Construction and land development 2,757 — — — 2,757 — — Term 9,426 10 5 15 9,441 — 15 Total commercial real estate 12,183 10 5 15 12,198 — 15 Consume Home equity credit line 3,008 4 4 8 3,016 — 10 1-4 family residential 6,018 6 26 32 6,050 — 24 Construction and other consumer real estate 638 — — — 638 — — Bankcard and other revolving plans 393 2 1 3 396 1 — Other 112 1 — 1 113 — — Total consumer loans 10,169 13 31 44 10,213 1 34 Total $ 50,684 $ 82 $ 85 $ 167 $ 50,851 $ 8 $ 182 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is not expected. Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk-grading systems, which vary based on the size and type of credit risk exposure. The internal risk-grades assigned to loans follow our definitions of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. Definitions of Pass, Special Mention, Substandard, and Doubtful are summarized as follows: • Pass — A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention — A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard — A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful — A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were no loans classified as Doubtful at both December 31, 2022, and December 31, 2021. 106 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES For commercial and CRE loans with commitments greater than $ 1 million, we assign one of multiple grades within the Pass classification or one of the risk classifications described previously. We confirm our internal risk-grades quarterly, or as soon as we identify information that affects the credit risk of the loan. For consumer loans and for commercial and CRE loans with commitments less than or equal to $ 1 million, we generally assign internal risk-grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The amortized cost basis of loans and leases categorized by year of origination and by credit quality classifications as monitored by management are summarized as follows: 107 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Commerci Commercial and industrial Pass $ 3,363 $ 1,799 $ 864 $ 876 $ 293 $ 264 $ 8,054 $ 182 $ 15,695 Special Mention 1 2 10 52 1 2 50 — 118 Accruing Substandard 26 7 17 78 30 67 84 2 311 Nonaccrual — 6 — 11 1 2 32 4 56 Total commercial and industrial 3,390 1,814 891 1,017 325 335 8,220 188 16,180 PPP Pass — 75 115 — — — — — 190 Nonaccrual — 2 5 — — — — — 7 Total PPP — 77 120 — — — — — 197 Leasing Pass 160 71 47 66 18 19 — — 381 Special Mention — — — — — — — — — Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 160 71 47 66 18 24 — — 386 Owner-occupied Pass 2,157 2,285 1,143 874 654 1,679 187 74 9,053 Special Mention 1 15 5 8 3 16 1 — 49 Accruing Substandard 16 33 48 20 55 64 9 — 245 Nonaccrual 1 1 2 4 5 10 1 — 24 Total owner-occupied 2,175 2,334 1,198 906 717 1,769 198 74 9,371 Municipal Pass 1,230 1,220 816 441 168 437 8 — 4,320 Special Mention 32 6 — — — — — — 38 Accruing Substandard — — — — — 3 — — 3 Nonaccrual — — — — — — — — — Total municipal 1,262 1,226 816 441 168 440 8 — 4,361 Total commercial 6,987 5,522 3,072 2,430 1,228 2,568 8,426 262 30,495 Commercial real estate: Construction and land development Pass 548 671 455 81 2 2 617 96 2,472 Special Mention 1 1 — — — — — — 2 Accruing Substandard 17 — — 22 — — — — 39 Nonaccrual — — — — — — — — — Total construction and land development 566 672 455 103 2 2 617 96 2,513 Term Pass 2,861 2,107 1,686 1,012 666 1,229 276 112 9,949 Special Mention 39 21 11 — 4 1 — — 76 Accruing Substandard 42 2 34 21 53 35 — — 187 Nonaccrual — — — 4 1 9 — — 14 Total term 2,942 2,130 1,731 1,037 724 1,274 276 112 10,226 Total commercial real estate 3,508 2,802 2,186 1,140 726 1,276 893 208 12,739 108 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Consume Home equity credit line Pass — — — — — — 3,265 98 3,363 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 3 — 3 Nonaccrual — — — — — — 8 3 11 Total home equity credit line — — — — — — 3,276 101 3,377 1-4 family residential Pass 1,913 1,503 1,024 638 381 1,788 — — 7,247 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — 2 2 4 3 26 — — 37 Total 1-4 family residential 1,913 1,505 1,026 642 384 1,816 — — 7,286 Construction and other consumer real estate Pass 583 485 64 19 5 5 — — 1,161 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 583 485 64 19 5 5 — — 1,161 Bankcard and other revolving plans Pass — — — — — — 468 2 470 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 469 2 471 Other consumer Pass 68 30 12 8 4 2 — — 124 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 68 30 12 8 4 2 — — 124 Total consumer 2,564 2,020 1,102 669 393 1,823 3,745 103 12,419 Total loans $ 13,059 $ 10,344 $ 6,360 $ 4,239 $ 2,347 $ 5,667 $ 13,064 $ 573 $ 55,653 109 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2017 Prior Total loans Commerci Commercial and industrial Pass $ 2,561 $ 1,309 $ 1,179 $ 748 $ 354 $ 239 $ 6,594 $ 121 $ 13,105 Special Mention 4 17 9 12 1 3 128 1 175 Accruing Substandard 28 22 99 53 31 65 162 3 463 Nonaccrual 14 10 6 3 1 21 51 18 124 Total commercial and industrial 2,607 1,358 1,293 816 387 328 6,935 143 13,867 PPP Pass 1,317 535 — — — — — — 1,852 Nonaccrual — 3 — — — — — — 3 Total PPP 1,317 538 — — — — — — 1,855 Leasing Pass 46 74 70 64 42 19 — — 315 Special Mention — 1 4 1 1 — — — 7 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 46 75 74 65 43 24 — — 327 Owner-occupied Pass 2,420 1,366 1,028 868 695 1,663 177 69 8,286 Special Mention 10 13 19 32 18 50 3 3 148 Accruing Substandard 14 24 41 47 24 79 13 — 242 Nonaccrual — 4 14 9 9 20 1 — 57 Total owner-occupied 2,444 1,407 1,102 956 746 1,812 194 72 8,733 Municipal Pass 1,303 963 553 250 327 220 3 — 3,619 Special Mention — — — — — 25 — — 25 Accruing Substandard — 9 — — — 5 — — 14 Nonaccrual — — — — — — — — — Total municipal 1,303 972 553 250 327 250 3 — 3,658 Total commercial 7,717 4,350 3,022 2,087 1,503 2,414 7,132 215 28,440 Commercial real estate: Construction and land development Pass 640 736 515 94 24 2 650 64 2,725 Special Mention — — 1 — — — — — 1 Accruing Substandard — 3 28 — — — — — 31 Nonaccrual — — — — — — — — — Total construction and land development 640 739 544 94 24 2 650 64 2,757 Term Pass 2,407 1,765 1,491 1,066 529 1,401 239 179 9,077 Special Mention 22 39 10 17 8 25 — 4 125 Accruing Substandard 9 9 44 77 14 64 — 2 219 Nonaccrual — 1 5 1 — 13 — — 20 Total term 2,438 1,814 1,550 1,161 551 1,503 239 185 9,441 Total commercial real estate 3,078 2,553 2,094 1,255 575 1,505 889 249 12,198 110 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2017 Prior Total loans Consume Home equity credit line Pass — — — — — — 2,903 96 2,999 Special Mention — — — — — — 1 — 1 Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 7 7 14 Total home equity credit line — — — — — — 2,913 103 3,016 1-4 family residential Pass 1,391 1,021 728 484 681 1,691 — — 5,996 Special Mention — — — — — — — — — Accruing Substandard — — 1 — — 1 — — 2 Nonaccrual — 3 3 3 9 34 — — 52 Total 1-4 family residential 1,391 1,024 732 487 690 1,726 — — 6,050 Construction and other consumer real estate Pass 295 232 73 27 4 7 — — 638 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 295 232 73 27 4 7 — — 638 Bankcard and other revolving plans Pass — — — — — — 391 3 394 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — 1 — 1 Total bankcard and other revolving plans — — — — — — 393 3 396 Other consumer Pass 58 23 17 9 4 2 — — 113 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 58 23 17 9 4 2 — — 113 Total consumer 1,744 1,279 822 523 698 1,735 3,306 106 10,213 Total loans $ 12,539 $ 8,182 $ 5,938 $ 3,865 $ 2,776 $ 5,654 $ 11,327 $ 570 $ 50,851 Modified and Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are reported as TDRs. We consider many factors in determining whether to agree to a loan modification involving concessions, and we seek a solution that will both minimize potential loss to us and attempt to help the borrower. We evaluate 111 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES borrowers’ current and forecasted future cash flows, their ability and willingness to make current contractual or proposed modified payments, the value of the underlying collateral (if applicable), the possibility of obtaining additional security or guarantees, and the potential costs related to a repossession or foreclosure and the subsequent sale of the collateral. TDRs are classified as either accrual or nonaccrual loans. A loan on nonaccrual and restructured as a TDR will remain on nonaccrual status until the borrower has proven the ability to perform under the modified structure for a minimum of six months, and there is evidence that such payments can and are likely to continue as agreed. Performance prior to the restructuring, or significant events that coincide with the restructuring, are included in assessing whether the borrower can meet the new terms and may result in the loan being returned to accrual at the time of restructuring or after a shorter performance period. If the borrower’s ability to meet the revised payment schedule is uncertain, the loan remains classified as a nonaccrual loan. A TDR loan that specifies an interest rate that, at the time of the restructuring, is greater than or equal to the rate we are willing to accept for a new loan with comparable risk may not be reported as a TDR in the calendar years subsequent to the restructuring if it is in compliance with its modified terms. Loan modifications provided to borrowers experiencing financial difficulties exclusively related to the COVID-19 pandemic, in which we provide certain short-term modifications or payment deferrals, are not classified as TDRs. The TDRs disclosed subsequently do not include these loan modifications. Other loan modifications above and beyond these short-term modifications or payment deferrals were assessed for TDR classification. 112 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Information on TDRs, including their amortized cost on an accruing and nonaccruing basis by loan class, and by modification type, is summarized in the following schedul December 31, 2022 Amortized cost basis resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 1 $ 12 $ — $ — $ 9 $ 28 $ 50 Owner-occupied — 1 — 2 13 12 28 Municipal — — — — — — — Total commercial 1 13 — 2 22 40 78 Commercial real estate: Construction and land development — — — — — 8 8 Term 1 27 — 27 28 1 84 Total commercial real estate 1 27 — 27 28 9 92 Consume Home equity credit line — 1 4 — — 1 6 1-4 family residential 2 1 2 — 1 15 21 Total consumer loans 2 2 6 — 1 16 27 Total accruing $ 4 $ 42 $ 6 $ 29 $ 51 $ 65 $ 197 Nonaccruing Commerci Commercial and industrial $ — $ — $ — $ 3 $ 9 $ 3 $ 15 Owner-occupied 4 — — — — 4 8 Total commercial 4 — — 3 9 7 23 Commercial real estate: Term — 10 — — — — 10 Total commercial real estate — 10 — — — — 10 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 1 2 4 Total consumer loans — 1 1 — 1 2 5 Total nonaccruing 4 11 1 3 10 9 38 Total $ 8 $ 53 $ 7 $ 32 $ 61 $ 74 $ 235 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of any of the previous modification types. 113 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Amortized cost basis resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 19 $ 1 $ — $ — $ 4 $ 7 $ 31 Owner-occupied 5 4 — 8 14 12 43 Municipal — 10 — — — — 10 Total commercial 24 15 — 8 18 19 84 Commercial real estate: Term 1 29 — 27 41 8 106 Total commercial real estate 1 29 — 27 41 8 106 Consume Home equity credit line — 1 5 — — 2 8 1-4 family residential 5 1 2 — 1 14 23 Total consumer loans 5 2 7 — 1 16 31 Total accruing $ 30 $ 46 $ 7 $ 35 $ 60 $ 43 $ 221 Nonaccruing Commerci Commercial and industrial $ 1 $ 4 $ — $ 2 $ 8 $ 49 $ 64 Owner-occupied 5 — — 2 — 13 20 Total commercial 6 4 — 4 8 62 84 Commercial real estate: Term — — — 11 2 3 16 Total commercial real estate — — — 11 2 3 16 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 3 — 4 Total consumer loans — 1 1 — 3 — 5 Total nonaccruing 6 5 1 15 13 65 105 Total $ 36 $ 51 $ 8 $ 50 $ 73 $ 108 $ 326 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of any of the previous modification types. Unfunded lending commitments on TDRs totaled $ 7 million and $ 10 million at December 31, 2022 and December 31, 2021, respectively. The total amortized cost of all TDRs in which interest rates were modified below market was $ 63 million at December 31, 2022, and $ 100 million at December 31, 2021. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the years ended December 31, 2022 and 2021 was not significant. On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. 114 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amortized cost of accruing and nonaccruing TDRs that had a payment default during the year ended December 31, 2022 and December 31, 2021, which were still in default at period end, and were within 12 months or less of being modified as TDRs was approximately $ 10 million and $ 3 million, respectively. Collateral-dependent Loans When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. Select information on loans for which the repayment is expected to be provided substantially through the operation or sale of the underlying collateral and the borrower is experiencing financial difficulties, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: December 31, 2022 (In millions) Amortized Cost Major Types of Collateral Weighted Average LTV 1 Commerci Owner-occupied $ 2 Land, Warehouse 29 % Commercial real estate: Term 1 Multi-family 55 % Consume Home equity credit line 1 Single family residential 13 % 1-4 family residential 3 Single family residential 41 % Total $ 7 December 31, 2021 (In millions) Amortized Cost Major Types of Collateral Weighted Average LTV 1 Commerci Commercial and industrial $ 27 Corporate assets, Single family residential 55 % Owner-occupied 11 Office building 40 % Commercial real estate: Term 2 Multi-family, Retail 28 % Consume Home equity credit line 5 Single family residential 45 % 1-4 family residential 2 Single family residential 35 % Total $ 47 1 The fair value is based on the most recent appraisal or other collateral evaluation. Foreclosed Residential Real Estate At December 31, 2022, and December 31, 2021, we did not have any foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure was $ 10 million for both periods. 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives for Using Derivatives Our primary objective for using derivatives is to manage risks, primarily interest rate risk. We use derivatives to manage volatility in interest income, interest expense, earnings, and capital by adjusting our interest rate sensitivity to minimize the impact of fluctuations in interest rates. Derivatives are used to stabilize forecasted interest income from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities as we consider advisable. We also assist customers with their risk management needs through the use of derivatives. 115 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Derivatives Related to Interest Rate Risk Management — When we use derivatives as hedges, either for economic or accounting purposes, it is done only to manage identified risks. We apply hedge accounting to certain derivatives executed for risk management purposes. However, we do not apply hedge accounting to all the derivatives involved in our risk management activities. Derivatives not designated as accounting hedges are not speculative and are used to economically manage our exposure to interest rate movements, including offsetting customer-facing derivatives. These derivatives either do not require the use of hedge accounting for their economic impact to be appropriately reflected in our financial statements or they do not meet the strict hedge accounting requirements. Derivatives Related to Customers — We provide certain borrowers access to over-the-counter interest rate derivatives, which we generally offset with interest rate derivatives executed with dealers or central clearing houses. Other interest rate derivatives that we provide to customers, or use for our own purposes, include mortgage rate locks and forward sale loan commitments. We also provide commercial customers with short-term foreign currency spot trades or forward contracts with maturities that are typically 90 days or less. These trades are also largely offset by foreign currency trades with closely matching terms executed with other dealer counterparties or central clearing houses. Accounting for Derivatives We record all derivatives at fair value, and they are presented on the consolidated balance sheet in “Other assets” or “Other liabilities,” regardless of the accounting designation of each derivative. We enter into International Swaps and Derivatives Association, Inc. (“ISDA”) master netting agreements, or similar agreements, with substantially all derivative counterparties. Where legally enforceable, these master netting agreements give us, in the event of default or the triggering of other specified contingent events by the counterparty, the right to use cash or liquidate securities held as collateral and to offset receivables and payables with the same counterparty. For purposes of the Consolidated Balance Sheet, we report all derivatives on a gross fair value basis (i.e., we do not offset derivative assets and liabilities and cash collateral held with the same counterparty where we have a legally enforceable master netting agreement). Note 3 discusses the process to estimate fair value for derivatives. The accounting for changes in the fair value of derivatives depends on the intended use of the derivative and the resulting accounting designation. Derivatives used to hedge the exposure to changes in the fair value of assets, liabilities, or firm commitments attributable to interest rates or other eligible risks, are considered fair value hedges. Derivatives used to hedge the exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges. Changes in the fair value of derivatives that are not part of designated fair value or cash flow hedging relationships are recorded in current period earnings. Fair Value Hedges — We generally use interest rate swaps designated as fair value hedges to hedge changes in the fair value of fixed-rate assets and liabilities for specific risks (e.g., interest rate risk resulting from changes in a benchmark interest rate). We use both pay-fixed, receive-floating and received-fixed, pay-floating interest rate swaps to effectively convert the fixed-rate assets and liabilities to floating rates. In qualifying fair value hedges, changes in value of the derivative hedging instrument are recognized in current period earnings in the same line item affected by the hedged item. Similarly, the periodic changes in value of the hedged item, for the risk being hedged, are recognized in current period earnings, thereby offsetting all, or a significant majority, of the change in the value of the derivative hedging instrument. Interest accruals on both the derivative hedging instrument and the hedged item are recorded in the same line item, effectively converting the designated fixed-rate assets or liabilities to a floating rate. Generally, the designated risk being hedged in all of our fair value hedges is the change in fair value of the LIBOR (or alternative rate) benchmark swap rate component of the contractual coupon cash flows of the fixed-rate assets or liabilities. The swaps are structured to match the critical terms of the hedged items, maximizing the economic (and accounting) effectiveness of the hedging relationships and resulting in the expectation that the swaps will be highly effective as a hedging instrument. All interest rate swaps designated as fair value hedges were highly effective and met all other requirements to remain designated and part of qualifying hedge accounting relationships as of the balance sheet date. Fair Value Hedges of Liabilities — At December 31, 2022, we had one receive-fixed interest rate swap with a notional amount of $ 500 million designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converts the interest on our fixed-rate debt to floating. During 2022, 116 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES approximately $ 1 million of unamortized debt basis adjustments related to previously terminated fair value hedges of debt was amortized as a decrease to interest expense. We have no remaining unamortized debt basis adjustments from previously designated fair value hedges remaining. Fair Value Hedges of Assets — We hedge certain newly acquired fixed-rate AFS securities using pay-fixed, receive-floating interest rate swaps, effectively converting the fixed coupon to a floating-rate on the hedged portion of the securities. We have $ 10 million of cumulative unamortized basis adjustments from previous fair value hedging relationships, which will continue to be amortized as an adjustment to interest income through the end of 2050, thereby increasing the effective interest rate recognized on these securities. At December 31, 2022, we had qualifying fair value hedging relationships of fixed-rate AFS securities being hedged by pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 1.2 billion (inclusive of forward starting swaps). Cash Flow Hedges — For derivatives designated and qualifying as cash flow hedges, as long as the hedging relationship continues to qualify for hedge accounting, the entire change in the fair value of the hedging instrument is recorded in OCI and recognized in earnings as the hedged transaction affects earnings. Ineffectiveness is not measured or separately disclosed. Derivative amounts affecting earnings are recognized in the same line item as the hedged transactions. We may use interest rate swaps, options, or a combination of options in our cash flow hedging strategy to eliminate or reduce the variability of interest receipts on floating-rate commercial loans due to changes in any separately identifiable and reliably measurable contractual interest rate index. At December 31, 2022, we had receive-fixed interest rate swaps with an aggregate notional amount of $ 7.6 billion designated as cash flow hedges of the variability of interest receipts on floating-rate commercial loans due to changes in the LIBOR swap rate. At December 31, 2022, we have $ 410 million of net deferred losses in AOCI from active cash flow hedges. There were no amounts deferred in AOCI for terminated cash flow hedges as of December 31, 2022. Amounts deferred in AOCI from cash flow hedges are expected to be fully reclassified to interest income by the third quarter of 2027. Hedge Effectiveness — We assess the effectiveness of each hedging relationship by comparing the changes in fair value or cash flows on the derivative hedging instrument with the changes in fair value or cash flows on the designated hedged item or transactions for the risk being hedged. If a hedging relationship ceases to qualify for hedge accounting, the relationship is discontinued and future changes in the fair value of the derivative instrument are recognized in current period earnings. For a discontinued or terminated fair value hedging relationship, all remaining basis adjustments to the carrying amount of the hedged item are amortized to interest income or expense over the remaining life of the hedged item consistent with the amortization of other discounts or premiums. Previous balances deferred in AOCI from discontinued or terminated cash flow hedges are reclassified to interest income or expense as the hedged transactions affect earnings or over the originally specified term of the hedging relationship. Collateral and Credit Risk Credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred during 2022 as a result of counterparty nonperformance. We reduce our counterparty exposure for derivative contracts by centrally clearing all eligible derivatives and by executing dealer-facing derivative transactions with well-capitalized financial institutions. For those derivatives that are not centrally cleared, the counterparties are typically financial institutions or our customers. For those that are financial institutions, as noted above, we manage our credit exposure through the use of a Credit Support Annex (“CSA”) to an ISDA master agreement with each counterparty. Eligible collateral types are documented by the CSA and controlled under our general credit policies. Collateral balances are typically monitored on a daily basis. A valuation haircut policy reflects the fact that collateral may fall in value between the date the collateral is called and the date of liquidation or enforcement. At December 31, 2022, all of our collateral held as credit risk mitigation under a CSA was cash. We offer interest rate swaps to our customers to assist them in managing their exposure to changing interest rates. Upon issuance, all of these customer swaps are immediately offset through closely matching derivative contracts to 117 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES minimize our interest rate risk exposure resulting from such transactions. Fee income from customer swaps is recorded in “Capital markets and foreign exchange fees” on the consolidated statement of income. We manage the credit risk associated with customer nonperformance through additional underwriting that includes modeling the credit risk exposure for the swap, shared collateral and guarantee protection applicable to the loan and credit approvals, limits, and monitoring procedures. We measure counterparty credit risk through the calculation of a CVA that captures the value of both the nonperformance risk that we have to our customers and that they have to us. Periodic changes in the net CVA are recorded in current period earnings in “Fair value and nonhedge derivative income or loss” on the consolidated statement of income. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position. Certain derivative contracts contain credit-risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit-risk-related feature were triggered, such as a downgrade of our credit rating. However, in past situations, not all counterparties have demanded that additional collateral be pledged when provided for by the contractual terms. At December 31, 2022, the fair value of our derivative liabilities was $ 451 million, for which we were required to pledge cash collateral of approximately $ 152 million in the normal course of business. If our credit rating were downgraded one notch by either Standard and Poor’s (“S&P”) or Moody’s at December 31, 2022, there would likely be no additional collateral required to be pledged. Derivatives that are centrally cleared do not have credit-risk-related features that require additional collateral if our credit rating were downgraded. Derivative Amounts The following schedule presents derivative notional amounts and recorded gross fair values at December 31, 2022 and 2021. December 31, 2022 December 31, 2021 Notional amount Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Purchased interest rate floors $ — $ — $ — $ — $ — $ — Receive-fixed interest rate swaps 7,633 — 1 6,883 — — Fair value hed Debt hed Receive-fixed interest rate swaps 500 — — 500 — — Asset hed Pay-fixed interest rate swaps 1 1,228 84 — 479 10 — Total derivatives designated as hedging instruments 9,361 84 1 7,862 10 — Derivatives not designated as hedging instruments: Customer interest rate derivatives 2 13,670 296 443 13,174 200 48 Other interest rate derivatives 862 — — 1,286 6 1 Foreign exchange derivatives 605 6 7 288 3 2 Total derivatives not designated as hedging instruments 15,137 302 450 14,748 209 51 Total derivatives $ 24,498 $ 386 $ 451 $ 22,610 $ 219 $ 51 1 The notional amount includes forward starting swaps that are not yet effective. 2 Customer interest rate derivatives include both customer-facing derivatives and the offsetting, dealer-facing derivatives. Customer interest rate derivatives include a net CVA of $ 13 million and $ 3 million, reducing the fair value amount at December 31, 2022, and December 31, 2021, respectively. These adjustments are required to reflect both our nonperformance risk and that of the respective counterparty. 118 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amount of derivative gains (losses) from cash flow and fair value hedges that was deferred in OCI or recognized in earnings for year ended December 31, 2022 and 2021 is shown in the schedules below. Year Ended December 31, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Excluded components deferred in AOCI (amortization approach) Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness / AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ 2 $ — $ — Interest rate swaps ( 437 ) — ( 29 ) — — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — — ( 1 ) — Basis amortization on terminated hedges 2, 3 — — — 1 — Fair value hedges of assets: Pay-fixed interest rate swaps — — — 4 ( 1 ) Basis amortization on terminated hedges 2, 3 — — — — — Total derivatives designated as hedging instruments $ ( 437 ) $ — $ ( 27 ) $ 4 $ ( 1 ) Year Ended December 31, 2021 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Excluded components deferred in AOCI (amortization approach) Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness / AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ 11 $ — $ — Interest rate swaps ( 34 ) — 51 — — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — — 8 — Basis amortization on terminated hedges 2, 3 — — — 10 — Fair value hedges of assets: Pay-fixed interest rate swaps — — — ( 3 ) — Basis amortization on terminated hedges 2, 3 — — — — — Total derivatives designated as hedging instruments $ ( 34 ) $ — $ 62 $ 15 $ — Note: These schedules are not intended to present at any given time our long/short position with respect to our derivative contracts. 1 For the 12 months following December 31, 2022, we estimate that $ 205 million of net losses will be reclassified from AOCI into interest income, compared with an estimate of $ 32 million at December 31, 2021. 2 Adjustment to interest income or expense resulting from the amortization of the basis adjustment from previously terminated hedging relationships. 3 The cumulative unamortized basis adjustment from previously terminated or redesignated fair value hedges at December 31, 2022 was zero and $ 10 million of terminated fair value debt and asset hedges, respectively, compared with $ 1 million and $ 7 million at December 31, 2021. The amortization of the cumulative unamortized basis adjustment from asset hedges is not shown in the schedules because it is not significant. 119 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) 2022 2021 Derivatives not designated as hedging instruments: Customer interest rate derivatives $ 43 $ 34 Other interest rate derivatives — ( 12 ) Foreign exchange derivatives 29 27 Total derivatives not designated as hedging instruments $ 72 $ 49 The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Twelve Months Ended December 31, 2022 Twelve Months Ended December 31, 2021 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1,2 $ ( 79 ) $ 79 $ — $ ( 30 ) $ 30 $ — Assets: Pay-fixed interest rate swaps 1,2 224 ( 225 ) ( 1 ) 23 ( 23 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt and fixed-rate AFS securities. Gains and losses were recorded in interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged assets/(liabilities) (In millions) 2022 2021 2022 2021 2022 2021 Long-term fixed-rate debt 1,2 $ ( 500 ) $ ( 500 ) $ ( 435 ) $ ( 507 ) $ 65 $ ( 7 ) Fixed-rate AFS securities 1,2 1,228 479 962 435 ( 266 ) ( 44 ) 1 Carrying amounts displayed above exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 8. LEASES We have operating and finance leases for branches, corporate offices, and data centers. At December 31, 2022, we had 416 branches, of which 277 are owned and 139 are leased. We lease our headquarters in Salt Lake City, Utah. The remaining maturities of our lease commitments range from the year 2023 to 2062, and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding ROU asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “ Other assets ,” and “ Premises, equipment and software, net ,” respectively. The corresponding liabilities for those leases are presented in “ Other liabilities ,” and “ Long-term debt .” ROU assets and related lease liabilities reflect the present value of the future minimum lease payments over the lease term at commencement date. Because most of our leases do not provide an implicit rate, we use our secured incremental borrowing rate that is commensurate with the lease term when calculating the present value of future 120 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES payments. The ROU asset also reflects any lease prepayments, initial direct costs, amortization, and certain nonlease components, such as maintenance, utilities or tax payments. Our lease terms incorporate options to extend or terminate the lease when it is reasonably certain that we will exercise these options. The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate: December 31, (Dollar amounts in millions) 2022 2021 Operating leases ROU assets, net of amortization $ 173 $ 195 Lease liabilities 198 222 Finance leases ROU assets, net of amortization 4 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.4 8.5 Finance leases 17.4 18.3 Weighted average discount rate Operating leases 2.9 % 2.8 % Finance leases 3.1 % 3.1 % Additional information related to lease expense is presented be Year Ended December 31, (In millions) 2022 2021 2020 Lease expense: Operating lease expense $ 46 $ 47 $ 49 Other expenses associated with operating leases 1 51 50 49 Total lease expense $ 97 $ 97 98 Related cash disbursements for operating leases $ 50 $ 50 $ 51 1 Other expenses primarily relate to property taxes and building and property maintenance. ROU assets related to new leases totaled $ 7 million and $ 1 million at December 31, 2022 and 2021, respectively. The following schedule presents the total contractual undiscounted lease payments for operating lease liabilities by expected due date for each of the next five yea (In millions) Total undiscounted lease payments 2023 $ 47 2024 39 2025 29 2026 24 2027 15 Thereafter 75 Total $ 229 We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 14 million , $ 13 million, and $ 12 million during 2022, 2021, and 2020, respectively. 121 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES We originated equipment leases, considered to be sales-type leases or direct-financing leases, totaling $ 386 million and $ 327 million at December 31, 2022 and 2021, respectively. We recorded income of $ 12 million , $ 11 million, and $ 13 million on these leases during 2022, 2021, and 2020, respectively. 9. PREMISES, EQUIPMENT, AND SOFTWARE Net premises, equipment, and software are summarized as follows: (In millions) December 31, 2022 2021 Land $ 264 $ 265 Buildings 943 868 Furniture and equipment 346 378 Leasehold improvements 151 168 Software 730 664 Total premises, equipment, and software 1 2,434 2,343 Less accumulated depreciation and amortization 1,026 1,024 Net book value $ 1,408 $ 1,319 1 The totals for 2022 and 2021 include $ 298 million and $ 348 million, respectively, of costs that have been capitalized, but are not yet depreciating because the respective assets have not been placed in service. 10. GOODWILL AND OTHER INTANGIBLE ASSETS Goodwill is recorded at fair value at the time of its acquisition and is subsequently evaluated for impairment annually as of October 1, or more frequently if events or circumstances indicate that impairment may exist. Based on the annual impairment evaluation conducted in 2022 and 2021, there was no goodwill impairment present in any of our operating segments. The following schedule presents the carrying amount of goodwill for our business segments with goodwill, as well as the balance of our core deposits and other intangible assets, net of related accumulated amortizati December 31, (In millions) 2022 2021 Goodwil Amegy $ 615 $ 615 CB&T 379 379 Zions Bank 20 20 Nevada State Bank 13 — Total goodwill $ 1,027 $ 1,014 Core deposits and other intangibles, net of accumulated amortization 38 1 Total goodwill and intangibles $ 1,065 $ 1,015 The increase in goodwill is due to the NSB purchase of three Northern Nevada City National Bank branches and their associated deposit, credit card, and loan accounts in July 2022. The increase in other intangible assets was driven largely from an acquisition of intellectual property from one of our operating partners that offers compliance and other support services to pharmacies and healthcare providers. 122 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 11. DEPOSITS The following schedule presents our deposits by category: December 31, (Dollar amounts in millions) 2022 2021 Noninterest-bearing demand $ 35,777 $ 41,053 Interest-bearin Savings and money market 33,566 40,114 Time 2,309 1,622 Total deposits $ 71,652 $ 82,789 At December 31, 2022, the aggregate amount of all time deposits by maturity were as follows: (In millions) Amount 2023 $ 2,038 2024 145 2025 64 2026 36 2027 25 Thereafter 1 Total $ 2,309 The scheduled maturities of time deposits that exceed $250,000 were as follows: (In millions) December 31, 2022 Three months or less $ 106 After three months through six months 87 After six months through twelve months 263 After twelve months 71 Total $ 527 Nonbrokered time deposits that meet or do not exceed the current Federal Deposit Insurance Corporation (“FDIC”) insurance limit of $250,000 were $ 1.8 billion and $ 1.0 billion at December 31, 2022 and 2021, respectively. Deposit overdrafts reclassified as loan balances were $ 21 million and $ 8 million at December 31, 2022 and 2021 , respectively. 12. SHORT-TERM BORROWINGS The following schedule presents selected information for FHLB advances and other short-term borrowi (Dollar amounts in millions) 2022 2021 Federal Home Loan Bank advances Average amount outstanding $ 1,257 $ — Average rate 3.67 % — % Highest month-end balance $ 7,100 $ — Year-end balance 7,100 — Average rate on outstanding advances at year-end 4.43 % — % Other short-term borrowings, year-end balances Federal funds purchased $ 232 $ 421 Security repurchase agreements 2,898 228 Securities sold, not yet purchased 187 254 Total federal funds and other short-term borrowings $ 10,417 $ 903 123 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES We may borrow from the FHLB under lines of credit that are secured by blanket pledge arrangements. We maintain unencumbered collateral with carrying amounts adjusted for the types of collateral pledged, equal to at least 100 % of the outstanding advances. At December 31, 2022, the amount of collateral pledged and available for FHLB borrowings was approximately $ 9.4 billion . We may also borrow from the Federal Reserve based on the amount of collateral pledged. At December 31, 2022, the amount of collateral pledged and available for Federal Reserve borrowings was approximately $ 4.0 billion . Federal funds purchased and security repurchase agreements generally mature in less than 30 days. We execute overnight repurchase agreements with sweep accounts in conjunction with a master repurchase agreement. When this occurs, securities under our control are pledged and interest is paid on the collected balance of the customers’ accounts. For the nonsweep overnight and term repurchase agreements, securities are transferred to the applicable counterparty. In certain instances, the counterparty is contractually entitled to sell or repledge securities accepted as collateral. Of the total security repurchase agreements at December 31, 2022, nearly all were overnight term accounts. 13. LONG-TERM DEBT Long-term debt is summarized as follows: December 31, (In millions) 2022 2021 Subordinated notes $ 519 $ 590 Senior notes 128 418 Finance lease obligations 4 4 Total $ 651 $ 1,012 The carrying values presented above include the par value of the debt, adjusted for any unamortized premium or discount, unamortized debt issuance costs, and fair value hedge basis adjustments. The overall decrease in long-term debt from the prior year was primarily due to the redemption of $ 290 million of senior notes during the first quarter of 2022. During 2020, we terminated two receive-fixed interest rate swaps designated as hedges on senior notes, resulting in one outstanding receive-fixed interest rate swap designated as a hedge on a $ 500 million subordinated note with an interest rate of 3.25 % at December 31, 2022. The outstanding swap constitutes a qualifying fair value hedging relationship. The terminated interest rate swaps adjusted the carrying value of the notes and this adjustment is amortized into earnings until the original maturity date. See Note 7 for more information on derivatives designated as qualifying hedges. Subordinated Notes The following schedule presents our subordinated notes outstanding at December 31, 2022 : (Dollar amounts in millions) Subordinated notes Coupon rate Balance Par amount Maturity 6.95 % $ 88 $ 88 September 2028 3.25 % 431 500 October 2029 Total $ 519 $ 588 The 6.95 % subordinated notes are unsecured, with interest payable quarterly; the earliest redemption date for these notes is September 15, 2023, after which the interest rate changes to an annual floating rate equal to 3mL+ 3.89 %. The 3.25 % subordinated notes are unsecured, interest is payable semi-annually, and the earliest redemption date is July 29, 2029. 124 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Senior Notes The following schedule presents our senior notes outstanding at December 31, 2022 : (Dollar amounts in millions) Senior notes Coupon rate Balance Par amount Maturity 4.50 % $ 128 $ 128 June 2023 The senior notes are unsecured, with interest payable semi-annually. They were issued under a shelf registration filed with the Securities and Exchange Commission (“SEC”). In February 2022, we redeemed $ 290 million of the 4-year , 3.35 % senior notes on the contractual call date one month prior to final maturity. Maturities of Long-term Debt The following schedule presents our long-term debt by maturity for each of the next five yea (In millions) Amount 1 2023 $ 128 2024 — 2025 — 2026 — 2027 — Thereafter 587 Total $ 715 1 Does not include basis adjustments related to terminated or active fair value hedges. 14. SHAREHOLDERS’ EQUITY Preferred Stock We have 4.4 million authorized shares of preferred stock without par value and with a liquidation preference of $ 1,000 per share, or $ 25 per depositary share. Except for Series I and J, all preferred shares were issued in the form of depositary shares, with each depositary share representing a 1/40 th ownership interest in a share of the preferred stock. All preferred shares are registered with the SEC. In addition, Series A and G preferred shares are listed and traded on the NASDAQ Global Select Market. Preferred shareholders generally receive asset distributions before common shareholders; however, preferred shareholders have only limited voting rights. Preferred stock dividends reduce earnings applicable to common shareholders and are paid on the 15th day of the months indicated in the following schedule. Dividends are approved by the Board. The preferred shares are redeemable at our option after the expiration of any applicable redemption restrictions. The redemption amount is computed at the per share liquidation preference plus any declared but unpaid dividends. Redemptions are subject to certain regulatory provisions including satisfying well-capitalized minimum requirements. During the second quarter of 2021, we redeemed the outstanding shares of our 5.75 % Series H Non-Cumulative Perpetual Preferred Stock at par value, resulting in a $ 126 million decrease of preferred stock. There were no additional fees or premium paid associated with the redemption. 125 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule summarizes key aspects of our preferred stoc (Dollar amounts in millions) Carrying value at December 31, Shares at December 31, 2022 Dividends payable Earliest redemption date Rate following earliest redemption date Dividends payable after rate change 2022 2021 Authorized Outstanding Rate (when applicable) Series A $ 67 $ 67 140,000 66,139 > of 4.0 % or 3mL+ 0.52 % Qtrly Mar, Jun, Sep, Dec Dec 15, 2011 Series G 138 138 200,000 138,390 6.3 % Qtrly Mar, Jun, Sep, Dec Mar 15, 2023 annual float-ing rate = 3mL+ 4.24 % Series I 99 99 300,893 98,555 5.8 % Semi-annually Jun, Dec Jun 15, 2023 annual float-ing rate = 3mL+ 3.8 % Qtrly Mar, Jun, Sep, Dec Series J 136 136 195,152 136,368 7.2 % Semi-annually Mar, Sep Sep 15, 2023 annual float-ing rate = 3mL+ 4.44 % Qtrly Mar, Jun, Sep, Dec Total $ 440 $ 440 Common Stock Our common stock is traded on the NASDAQ Global Select Market. At December 31, 2022 , there were 148.7 million shares of $ 0.001 par common stock outstanding. The balance of common stock and additional paid-in-capital was $ 1.8 billion at December 31, 2022 , and decreased $ 174 million , or 9 % , primarily as a result of common stock repurchases. During 2022, we repurchased 3.6 million shares of common shares outstanding with a fair value of $ 200 million at an average price of $ 56.13 per share. During 2021, we repurchased 13.5 million shares of common shares outstanding with a fair value of $ 800 million at an average price of $ 59.27 per share. In February 2023, we repurchased 946,644 common shares outstanding for $ 50 million at an average price of $ 52.82 . Accumulated Other Comprehensive Income AOCI decreased $ 3.0 billion to a loss of $ 3.1 billion at December 31, 2022, primarily due to the decline in the fair value of AFS securities as a result of increases in benchmark interest rates. During the fourth quarter of 2022, we transferred approximately $ 10.7 billion fair value ($ 13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category to reflect our intent for these securities. The amortized cost basis of these securities does not include $ 2.4 billion of unrealized losses in AOCI that is amortized over the life of the securities. The amortization of the unrealized losses reported in AOCI will offset the effect of the accretion of the discount in interest income that is created by adjusting the amortized cost basis to the securities’ fair value on the date of the transfer. 126 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Changes in AOCI by component are as follows: (In millions) Net unrealized gains (losses) on investment securities Net unrealized gains (losses) on derivatives and other Pension and post-retirement Total 2022 Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) Other comprehensive loss before reclassifications, net of tax ( 2,722 ) ( 332 ) 1 ( 3,053 ) Amounts reclassified from AOCI, net of tax — 21 — 21 Other comprehensive loss ( 2,722 ) ( 311 ) 1 ( 3,032 ) Balance at December 31, 2022 $ ( 2,800 ) $ ( 311 ) $ ( 1 ) $ ( 3,112 ) Income tax benefit included in other comprehensive loss $ ( 888 ) $ ( 101 ) $ — $ ( 989 ) 2021 Balance at December 31, 2020 $ 258 $ 69 $ ( 2 ) $ 325 Other comprehensive loss before reclassifications, net of tax ( 336 ) ( 23 ) — ( 359 ) Amounts reclassified from AOCI, net of tax — ( 46 ) — ( 46 ) Other comprehensive loss ( 336 ) ( 69 ) — ( 405 ) Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) Income tax benefit included in other comprehensive loss $ ( 109 ) $ ( 22 ) $ — $ ( 131 ) Statement of Income (SI) (In millions) Amounts reclassified from AOCI 1 Details about AOCI components 2022 2021 2020 Affected line item Net unrealized gains (losses) on derivative instruments $ ( 27 ) $ 61 $ 47 SI Interest and fees on loans Income tax expense (benefit) ( 6 ) 15 11 $ ( 21 ) $ 46 $ 36 Amortization of net actuarial loss 2 $ — $ — $ ( 28 ) SI Other noninterest expense Income tax expense (benefit) — — ( 7 ) $ — $ — $ ( 21 ) 1 Positive reclassification amounts indicate increases to earnings in the statement of income. 2 There was no amortization of net actuarial loss in 2021 and 2022 due to the termination of pension plan in 2020. Deferred Compensation Deferred compensation consists of invested assets, including our common stock, which are held in rabbi trusts for certain employees and directors. The cost of our common stock was approximately $ 14 million and $ 13 million at December 31, 2022 and 2021, respectively. We consolidate the rabbi trust assets and liabilities and include them in “Other assets” and “Other liabilities” on the consolidated balance sheet. At December 31, 2022 and 2021, total invested assets were approximately $ 114 million and $ 138 million, and total obligations were approximately $ 128 million and $ 151 million, respectively. 15. REGULATORY MATTERS We are subject to various regulatory capital requirements administered by federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory — and possibly additional discretionary — actions by regulators that, if undertaken, could have a direct material effect on our financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, we must meet specific capital guidelines that involve quantitative measures of our assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. Required capital levels are also subject to judgmental review by regulators. At December 31, 2022 and 2021, we exceeded all capital adequacy requirements under the Basel III capital rules. 127 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Quantitative measures established by regulation to ensure capital adequacy require us to maintain minimum amounts and ratios of Total capital, Tier 1 capital (as defined in the regulations), and common equity Tier 1 (“CET1”) to risk-weighted assets, and Tier 1 capital to average assets (Tier 1 leverage ratio). “Well-capitalized” levels are also published as a guideline to evaluate capital positions. At December 31, 2022 and 2021, all of our capital ratios exceeded the “well-capitalized” levels under the regulatory framework for prompt corrective action. Dividends declared by us may not exceed specified criteria unless otherwise approved by our regulators. When determining dividends, we consider current and historical earning levels, retained earnings, and risk-based and other regulatory capital requirements and limitations. Our internal stress tests seek to comprehensively measure all risks to which we are exposed, the losses that could result from those risk exposures under adverse scenarios, and our resulting capital levels. These stress tests have both a qualitative and a quantitative component. The qualitative component evaluates our risk identification processes, stress risk modeling, policies, capital planning, governance processes, and other components of a capital adequacy process. The quantitative process subjects our balance sheet and other risk characteristics to stress testing by using our own models. Our capital amounts and ratios under Basel III at December 31, 2022 and 2021 are as follows: (Dollar amounts in millions) December 31, 2022 To be well-capitalized Amount Ratio Amount Ratio Basel III Regulatory Capital Amounts and Ratios Common equity tier 1 capital (to risk-weighted assets) $ 6,481 9.8 % $ 4,297 6.5 % Tier 1 capital (to risk-weighted assets) 6,921 10.5 5,289 8.0 Total capital (to risk-weighted assets) 8,077 12.2 6,611 10.0 Tier 1 leverage ratio 6,921 7.7 4,472 5.0 December 31, 2021 To be well-capitalized (Dollar amounts in millions) Amount Ratio Amount Ratio Basel III Regulatory Capital Amounts and Ratios Common equity tier 1 capital (to risk-weighted assets) $ 6,068 10.2 % $ 3,874 6.5 % Tier 1 capital (to risk-weighted assets) 6,508 10.9 4,768 8.0 Total capital (to risk-weighted assets) 7,652 12.8 5,960 10.0 Tier 1 leverage ratio 6,508 7.2 4,546 5.0 The Basel III capital rules require us to maintain certain minimum capital ratios, as well as a 2.5% “capital conservation buffer,” which is designed to absorb losses during periods of economic stress, composed entirely of CET1, and in excess of the minimum risk-based capital ratios. The following schedule presents the minimum capital ratios and capital conservation buffer requirements, compared with our capital ratios at December 31, 2022. December 31, 2022 Minimum capital requirement Capital conservation buffer Minimum capital ratio requirement with capital conservation buffer Current capital ratio CET1 to risk-weighted assets 4.5 % 2.5 % 7.0 % 9.8 % Tier 1 capital (i.e., CET1 plus additional Tier 1 capital) to risk-weighted assets 6.0 2.5 8.5 10.5 Total capital (i.e., Tier 1 capital plus Tier 2 capital) to risk-weighted assets 8.0 2.5 10.5 12.2 Financial institutions with a ratio of CET1 to risk-weighted assets above the minimum but below the capital conservation buffer may face constraints on dividends, equity repurchases, and compensation based on the amount of the shortfall. Our internal triggers and limits under actual conditions and baseline projections are more restrictive than the capital conservation buffer requirements. 128 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 16. COMMITMENTS, GUARANTEES, CONTINGENT LIABILITIES, AND RELATED PARTIES Commitments and Guarantees We use certain financial instruments, including derivative instruments, in the normal course of business to meet the financing needs of our customers, to reduce our own exposure to fluctuations in interest rates, and to make a market in U.S. government, agency, corporate, and municipal securities. These financial instruments involve, to varying degrees, elements of credit, liquidity, and interest rate risk in excess of the amounts recognized in the balance sheet. See Notes 3 and 7 for more information on derivative instruments. Contractual amounts related to off-balance sheet financial instruments used to meet the financing needs of our customers are as follows: December 31, (In millions) 2022 2021 Unfunded lending commitments 1 $ 29,628 $ 25,797 Standby letters of cr Financial 667 597 Performance 184 245 Commercial letters of credit 11 22 Mortgage-backed security purchase agreements 2 23 1 Total unfunded commitments $ 30,513 $ 26,662 1 Net of participations. 2 Represents agreements with Farmer Mac to purchase securities backed by certain agricultural mortgage loans. Loan commitments are agreements to lend to a customer subject to specified conditions. Commitments generally have fixed expiration dates or other termination clauses and may require the payment of a fee. The amount of collateral obtained, if deemed necessary by us upon extension of credit, is based on our initial credit evaluation of the counterparty. Types of collateral vary, but may include accounts receivable, inventory, property, plant and equipment, and income-producing properties. While making loan commitments creates credit risk, a significant portion of such commitments is expected to expire without being drawn upon. At December 31, 2022, we had $ 7.7 billion of commitments scheduled to expire in 2023. We use the same credit policies and procedures in making loan commitments and conditional obligations as we do for on-balance sheet instruments. These policies and procedures include credit approvals, limits, and ongoing monitoring. We issue standby and commercial letters of credit as conditional commitments generally to guarantee the performance of a customer to a third party. The guarantees are primarily issued to support public and private borrowing arrangements, including commercial paper, bond financing, and similar transactions. Standby letters of credit include commitments of $ 851 million expiring in 2023. The credit risk involved in issuing letters of credit is equivalent to the risk involved in extending credit to customers. We generally hold marketable securities and cash equivalents as collateral. Certain mortgage loans sold have limited recourse provisions for periods ranging from three months to one year . The amount of losses resulting from the exercise of these provisions has not been significant. Legal Matters We are subject to litigation in court and arbitral proceedings, as well as investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ 129 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. At December 31, 2022, we were subject to the following material litigation or governmental inquiri • Two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the Bank who filed for bankruptcy protection in 2017. The cases are in early phases, with initial motion practice and discovery underway in the Lifescan case. Trial has not been scheduled in either case. • Five civil class action cases have been filed against us by the same plaintiffs’ attorney, seeking to hold the Bank liable for practices relating to, and disclosures in, its deposit agreement pertaining to fees. Four of the five cases have been dismissed, and the following case remains pending and is in early phases of litigati Sipple v. Zions Bancorporation, N.A. , brought against us in the District Court of Clark County, Nevada in February 2021 with respect to foreign transaction fees. • In addition, two class action lawsuits, Evans v. CB&T, and Gregory, et. al. v. Zions Bancorporation , were settled in principle earlier in 2022. The settlement in the Evans case was completed in December 2022 and did not have a significant financial impact on the Bank. The parties to the Gregory case are undertaking the procedural and administrative actions, including court approvals of the settlement, necessary to complete the settlement. There can be no assurance that the proposed settlement will receive court approvals or that the conditions to settlement will be met. If completed, this settlement is not expected to have a significant financial impact on the Bank. At least quarterly, we review outstanding and new legal matters, utilizing then available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at December 31, 2022, we estimated that the aggregate range of reasonably possible losses for those matters to be from zero to approximately $ 5 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant 130 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments, and actual outcomes will differ from our estimates. These differences may be material. Related Party Transactions We have no material related party transactions requiring disclosure. In the ordinary course of business, we extend credit to related parties, including executive officers, directors, principal shareholders, and their associates and related interests. These related party loans are made in compliance with applicable banking regulations. 17. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which represented approximately 79 % of our total revenue in 2022. Noninterest income and revenue from contracts with customers is recognized when control of the promised goods or services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those goods or services. We recognize the incremental cost of obtaining a contract as an expense, when incurred, if the amortization period of the asset that we would have recognized is one year or less. For performance obligations satisfied over time, if we have a right to consideration from a customer in an amount that corresponds directly with the value to the customer of our performance completed to date, we will generally recognize revenue in the amount to which we have a right to invoice. We do not generally disclose information about our remaining performance obligations for those performance obligations that have an original expected duration of one year or less, or where we recognize revenue in the amount to which we have a right to invoice. The following is a description of revenue from contracts with custome Commercial Account Fees Commercial account fee income is comprised of account analysis fees, merchant fees, and payroll services income. Revenue is recognized as the services are rendered or upon completion of services. Card Fees Our card fee income includes interchange income from credit and debit cards, net fees earned from processing card transactions for merchants, and automated teller machine (“ATM”) services. Card income is recognized as earned. Reward program costs are recorded when the rewards are earned by the customer and presented as a reduction to interchange income. Retail and Business Banking Fees Retail and business banking fees typically consist of fees charged for providing customers with deposit services. These fees are primarily comprised of insufficient funds fees, noncustomer ATM charges, and other various fees on deposit accounts. Service charges on deposit accounts include fees earned in lieu of compensating balances, and fees earned for performing cash management services and other deposit account services. Service charges on deposit accounts in this revenue category are recognized over the period in which the related service is provided. Treasury Management fees are billed monthly based on services rendered for the month. 131 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Capital Markets and Foreign Exchange Fees Capital markets and foreign exchange fees primarily consist of municipal advisory services, customer swap fees, loan syndication fees, and foreign exchange services provided to customers. Revenue is recognized as the services are rendered or upon completion of services. Wealth Management Fees Wealth management fees are primarily comprised of wealth management commissions, but also are made up of other products such as portfolio services and advisory services. Revenue is recognized as the services are rendered or upon completion of services. Financial planning, fiduciary, and estate services typically have performance obligations that are greater than 12 months, although the amount of future performance obligations are not significant. Other Customer-related Fees Other customer-related fees generally consist of miscellaneous income sources, including fees associated with compliance and other support services to pharmacies and healthcare providers; corporate trust fees; other advisory and referral fees; and fees associated with claims and inventory management services for certain customers. Revenue is recognized as the services are rendered or upon completion of services. Disaggregation of Revenue The schedule below presents net revenue by our operating business segments. Certain prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Zions Bank CB&T Amegy (In millions) 2022 2021 2020 2022 2021 2020 2022 2021 2020 Commercial account fees $ 53 $ 46 $ 43 $ 28 $ 25 $ 23 $ 46 $ 40 $ 42 Card fees 55 58 50 20 17 13 33 29 24 Retail and business banking fees 22 22 21 12 12 11 16 15 15 Capital markets and foreign exchange fees — — ( 2 ) — — — — — — Wealth management fees 22 21 17 4 5 4 15 13 10 Other customer-related fees 8 7 7 6 4 5 7 6 7 Total noninterest income from contracts with customers (ASC 606) 160 154 136 70 63 56 117 103 98 Other noninterest income (non-ASC 606 customer-related) 19 21 23 34 34 36 40 36 34 Total customer-related noninterest income 179 175 159 104 97 92 157 139 132 Other noncustomer-related noninterest income 5 10 ( 1 ) 4 5 3 1 2 1 Total noninterest income 184 185 158 108 102 95 158 141 133 Other real estate owned gain from sale — — — — — 1 — — — Net interest income 741 633 650 595 536 512 513 462 485 Total net revenue $ 925 $ 818 $ 808 $ 703 $ 638 $ 608 $ 671 $ 603 $ 618 132 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NBAZ NSB Vectra (In millions) 2022 2021 2020 2022 2021 2020 2022 2021 2020 Commercial account fees $ 9 $ 7 $ 7 $ 11 $ 9 $ 8 $ 8 $ 7 $ 6 Card fees 15 11 10 15 12 10 9 6 5 Retail and business banking fees 9 9 8 10 10 9 4 4 4 Capital markets and foreign exchange fees — — — — — — — — — Wealth management fees 3 3 2 5 4 3 1 2 1 Other customer-related fees 2 1 1 1 1 1 3 2 3 Total noninterest income from contracts with customers (ASC 606) 38 31 28 42 36 31 25 21 19 Other noninterest income (non-ASC 606 customer-related) 8 13 12 6 14 12 6 12 13 Total customer-related noninterest income 46 44 40 48 50 43 31 33 32 Other noncustomer-related noninterest income 2 2 1 — — — — — — Total noninterest income 48 46 41 48 50 43 31 33 32 Other real estate owned gain from sale — — — — — — — — — Net interest income 241 204 216 183 146 146 153 136 135 Total net revenue $ 289 $ 250 $ 257 $ 231 $ 196 $ 189 $ 184 $ 169 $ 167 TCBW Other Consolidated Bank (In millions) 2022 2021 2020 2022 2021 2020 2022 2021 2020 Commercial account fees $ 2 $ 2 $ 1 $ 2 $ 1 $ 2 $ 159 $ 137 $ 132 Card fees 2 1 1 — 1 — 149 135 113 Retail and business banking fees — — — — 1 — 73 73 68 Capital markets and foreign exchange fees — — — 4 6 7 4 6 5 Wealth management fees — — — 1 ( 2 ) 1 51 46 38 Other customer-related fees 1 1 1 31 30 21 59 52 46 Total noninterest income from contracts with customers (ASC 606) 5 4 3 38 37 31 495 449 402 Other noninterest income (non-ASC 606 customer-related) 2 2 2 4 ( 6 ) 15 119 126 147 Total customer-related noninterest income 7 6 5 42 31 46 614 575 549 Other noncustomer-related noninterest income — — — 6 109 21 18 128 25 Total noninterest income 7 6 5 48 140 67 632 703 574 Other real estate owned gain from sale — — — — — — — — 1 Net interest income 63 53 52 31 38 20 2,520 2,208 2,216 Total net revenue $ 70 $ 59 $ 57 $ 79 $ 178 $ 87 $ 3,152 $ 2,911 $ 2,791 Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is generally not significant. 18. RETIREMENT PLANS Defined Benefit Plans Pension Plan — In June 2020, we terminated our pension plan and incurred a one-time $ 28 million expense, which was recognized in other noninterest expense. Supplemental Retirement Plans — These unfunded, nonqualified plans are for certain current and former employees. Each year, our contributions to these plans are made in amounts sufficient to meet benefit payments to 133 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES plan participants. Our liability for these plans totaled approximately $ 10 million and $ 12 million at December 31, 2022, and 2021, respectively. Post-retirement Plan — This unfunded health care and life insurance plan provides post-retirement benefits to certain former full-time employees who meet minimum age and service requirements. Our contribution toward the retiree medical premium has been permanently frozen at an amount that does not increase in any future year. Each year, our contributions to the plan are made in amounts sufficient to meet the portion of the premiums that are our responsibility. Our liability for this plan was less than $ 1 million at December 31, 2022 and 2021. The liability for supplemental retirement and post-retirement benefits is included in “Other liabilities” on the consolidated balance sheet. Defined Contribution Plan We offer a 401(k) and employee stock ownership plan under which employees select from several investment alternatives. Employees can contribute up to 80 % of their earnings subject to the annual maximum allowed contribution. We match 100 % of the first 3 % of employee contributions and 50 % of the next 3 % of employee contributions. Matching contributions to participants amounted to $ 33 million, $ 32 million, and $ 31 million in 2022 , 2021, and 2020 respectively. The 401(k) plan also has a noncontributory profit-sharing feature that is discretionary and may range from 0 % to 3.5 % of eligible compensation based upon our performance according to a formula approved annually by the Board. The profit-sharing expense was $ 19 million, $ 24 million, and $ 7 million in 2022 , 2021 , and 2020, respectively. The profit-sharing contribution to participants consisted of shares of our common stock purchased in the open market. 19. SHARE-BASED COMPENSATION We have a share-based compensation incentive plan that allows us to grant stock options, restricted stock, RSUs, and other awards to employees and nonemployee directors. Total shares authorized under the plan at December 31, 2022 were 4,300,000 , of which 3,683,780 were available for future grants. All share-based payments to employees, including grants of employee stock options, are recognized as compensation expense in the statement of income based on their grant date values with consideration of service and performance vesting requirements. The value of an equity award is estimated on the grant date using a fair value model without regard to service or performance vesting conditions, but does consider post-vesting restrictions. We classify all share-based awards as equity instruments. Compensation expense is included in salaries and employee benefits in the statement of income, and the corresponding equity effect is included in additional paid-in capital. We account for forfeitures of share-based compensation awards as they occur. Substantially all share-based awards of stock options, restricted stock, and RSUs have graded vesting that is recognized on a straight-line basis over the vesting period. The following schedule presents compensation expense and the related tax benefit for all share-based awards: (In millions) 2022 2021 2020 Compensation expense $ 30 $ 28 $ 26 Reduction of income tax expense 11 11 8 At December 31, 2022, compensation expense not yet recognized for nonvested share-based awards was approximately $ 31 million, which is expected to be recognized over a weighted average period of 2.4 years. Stock Options Stock options granted to employees generally vest at the rate of one third each year and expire seven years after the date of grant. For all stock options granted in 2022, 2021, and 2020, we used the Black-Scholes option pricing model to estimate the grant date value of stock options in determining compensation expense. The following 134 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES summarizes the weighted average value at grant date and the significant assumptions used in applying the Black-Scholes model for options grant 2022 2021 2020 Weighted average value for options granted $ 15.16 $ 7.86 $ 8.18 Weighted average assumptions us Expected dividend yield 2.3 % 2.5 % 3.0 % Expected volatility 27.0 % 25.0 % 27.0 % Risk-free interest rate 1.98 % 0.47 % 1.38 % Expected life (in years) 5.0 5.0 5.0 The assumptions for expected dividend yield, expected volatility, and expected life reflect management’s judgment and include consideration of historical experience. Expected volatility is based in part on historical volatility. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant for periods corresponding with the expected life of the option. The following summarizes our stock option activity for the three years ended December 31, 2022: Number of shares Weighted average exercise price Balance at December 31, 2019 1,676,778 $ 34.77 Granted 320,913 45.61 Exercised ( 285,954 ) 26.48 Expired ( 22,685 ) 30.17 Forfeited ( 5,395 ) 51.34 Balance at December 31, 2020 1,683,657 38.26 Granted 345,636 48.65 Exercised ( 686,894 ) 31.08 Expired ( 7,910 ) 42.16 Forfeited ( 6,345 ) 48.04 Balance at December 31, 2021 1,328,144 44.60 Granted 201,932 73.02 Exercised ( 256,004 ) 36.79 Expired ( 8,912 ) 37.58 Forfeited ( 2,794 ) 57.75 Balance at December 31, 2022 1,262,366 50.75 Outstanding stock options exercisable as o December 31, 2022 729,411 $ 46.02 December 31, 2021 693,883 41.54 December 31, 2020 1,137,596 33.42 We issue new authorized common shares for the exercise of stock options. The total intrinsic value of stock options exercised was approximately $ 7 million in 2022, $ 16 million in 2021, and $ 3 million in 2020. Cash received from the exercise of stock options was $ 8 million in 2022, $ 20 million in 2021, and $ 7 million in 2020. 135 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents additional selected information on stock options at December 31, 2022: Outstanding stock options Exercisable stock options Exercise price range Number of shares Weighted average exercise price Weighted average remaining contractual life (years) Number of shares Weighted average exercise price $ 4.15 to $ 19.99 5,223 $ 6.41 1 0 5,223 $ 6.41 $ 20.00 to $ 24.99 75,598 20.99 0.1 75,598 20.99 $ 25.00 to $ 29.99 452 29.12 4.8 226 29.12 $ 40.00 to $ 44.99 84,913 44.23 1.2 84,664 44.24 $ 45 .00 to $ 49.99 585,877 47.30 4.6 254,209 46.77 $ 50.00 to $ 59.99 311,062 52.67 2.6 309,491 52.67 $ 60.00 to $ 73.22 199,241 73.19 6.1 — — 1,262,366 50.75 1 3.8 729,411 46.02 1 The weighted average remaining contractual life excludes 5,223 stock options without a fixed expiration date that were assumed with the Amegy acquisition. They expire between the date of termination and one year from the date of termination, depending upon certain circumstances. The aggregate intrinsic value of outstanding stock options at December 31, 2022 and 2021 was $ 4 million and $ 25 million, respectively, while the aggregate intrinsic value of exercisable options was $ 3 million and $ 15 million at the same respective dates. For exercisable options, the weighted average remaining contractual life was 2.8 years and 2.6 years at December 31, 2022 and 2021, respectively, excluding the stock options previously noted without a fixed expiration date. At December 31, 2022, 532,955 stock options with a weighted average exercise price of $ 57.23 , a weighted average remaining life of 5.2 years, and an aggregate intrinsic value of $ 490 thousand , were expected to vest. Restricted Stock and Restricted Stock Units Restricted stock is common stock with certain restrictions that relate to trading and the possibility of forfeiture. Generally, restricted stock vests over four years . Holders of restricted stock have full voting rights and receive dividend equivalents during the vesting period. In addition, holders of restricted stock can make an election to be subject to income tax on the grant date rather than the vesting date. RSUs represent rights to one share of common stock for each unit and generally vest over four years . Holders of RSUs receive dividend equivalents during the vesting period, but do not have voting rights. Compensation expense is determined based on the number of restricted shares or RSUs granted and the market price of our common stock at the issue date. During 2022, 2021, and 2020, we granted 16,722 , 16,938 , and 28,992 RSUs, respectively, to nonemployee directors. The RSUs vested immediately upon grant. The following schedule summarizes our restricted stock activity for the three years ended December 31, 2022: Number of shares Weighted average fair value Nonvested restricted shares at December 31, 2019 50,457 $ 39.50 Issued 27,798 45.65 Vested ( 20,859 ) 34.77 Nonvested restricted shares at December 31, 2020 57,396 44.20 Issued 26,083 39.16 Vested ( 18,663 ) 43.89 Nonvested restricted shares at December 31, 2021 64,816 42.26 Issued 21,038 60.21 Vested ( 25,105 ) 42.66 Nonvested restricted shares at December 31, 2022 60,749 48.31 136 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule summarizes our RSU activity for the three years ended December 31, 2022: Number of restricted stock units Weighted average fair value Restricted stock units at December 31, 2019 1,294,070 $ 43.59 Granted 586,302 42.75 Vested ( 593,375 ) 37.56 Forfeited ( 44,676 ) 47.78 Restricted stock units at December 31, 2020 1,242,321 46.31 Granted 578,056 47.02 Vested ( 505,690 ) 46.51 Forfeited ( 40,604 ) 47.97 Restricted stock units at December 31, 2021 1,274,083 46.49 Granted 433,674 68.07 Vested ( 504,358 ) 47.83 Forfeited ( 34,306 ) 56.58 Restricted stock units at December 31, 2022 1,169,093 53.62 The total value at grant date of restricted stock and RSUs vested during the year was $ 25 million in 2022, $ 24 million in 2021, and $ 23 million in 2020. At December 31, 2022, 60,749 shares of restricted stock and 775,833 RSUs were expected to vest with an aggregate intrinsic value of $ 3 million and $ 38 million , respectively. 20. INCOME TAXES The following schedule presents the major components of our income tax expense: (In millions) 2022 2021 2020 Feder Current $ 236 $ 230 $ 153 Deferred ( 38 ) 27 ( 47 ) Total Federal 198 257 106 State: Current 52 55 38 Deferred ( 5 ) 5 ( 11 ) Total State 47 60 27 Total income tax expense $ 245 $ 317 $ 133 Income tax expense computed at the statutory federal income tax rate of 21% reconciles to actual income tax expense as follows: (In millions) 2022 2021 2020 Income tax expense at statutory federal rate $ 242 $ 304 $ 141 State income taxes including credits, net 38 48 21 Other nondeductible expenses 13 8 8 Nontaxable income ( 40 ) ( 36 ) ( 32 ) Share-based compensation ( 4 ) ( 3 ) ( 1 ) Tax credits and other taxes ( 4 ) ( 4 ) ( 4 ) Total income tax expense $ 245 $ 317 $ 133 137 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES On the consolidated balance sheet, the net DTA is included in “Other assets.” The tax effects of temporary differences that give rise to significant portions of DTAs and DTLs are presented be (In millions) December 31, 2022 2021 Gross deferred tax assets: Book loan loss deduction in excess of tax $ 157 $ 136 Pension and postretirement — 1 Deferred compensation 83 77 Security investments and derivative fair value adjustments 1,011 26 Lease liabilities 49 55 Capitalized costs 82 54 Other 29 30 Total deferred tax assets before valuation allowance 1,411 379 Valuation allowance — — Total deferred tax assets 1,411 379 Gross deferred tax liabiliti Premises and equipment, due to differences in depreciation ( 99 ) ( 88 ) Federal Home Loan Bank stock dividends ( 2 ) ( 2 ) Leasing operations ( 49 ) ( 44 ) Prepaid expenses ( 5 ) ( 8 ) Prepaid pension reserves ( 3 ) ( 6 ) Mortgage servicing ( 12 ) ( 10 ) Deferred loan costs ( 34 ) ( 30 ) ROU assets ( 44 ) ( 49 ) Qualified opportunity fund deferred gains ( 26 ) ( 26 ) Equity investments ( 9 ) ( 20 ) Total deferred tax liabilities ( 283 ) ( 283 ) Net deferred tax assets (liabilities) $ 1,128 $ 96 We have certain fixed-rate AFS securities whose fair value has declined due to increases in benchmark interest rates, resulting in large unrealized losses in the AFS portfolio and a significant DTA. The sale of these securities could result in significant realized losses, which would require future earnings to utilize the deferred tax assets. We have the ability and intent to hold these securities to recovery. We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more-likely-than-not criteria that such assets will be realized. This evaluation includes, but is not limited to, the followin • Future reversals of existing DTLs — These DTLs have a reversal pattern generally consistent with DTAs, and are used to realize the DTAs. • Tax planning strategies — We have considered prudent and feasible tax planning strategies that we would implement to preserve the value of the DTAs, if necessary. • Future projected taxable income — We expect future taxable income will offset the reversal of remaining net DTAs. Based on this evaluation, we concluded that a valuation allowance was not required at December 31, 2022 and 2021. At December 31, 2022, the tax effect of remaining net operating loss and tax credit carryforwards was less than $ 1 million, expiring through 2039. 138 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES We have a liability for unrecognized tax benefits relating to uncertain tax positions for tax credits on technology initiatives. The following schedule presents a rollforward of gross unrecognized tax benefits: (In millions) 2022 2021 2020 Balance at beginning of year $ 14 $ 11 $ 14 Tax positions related to current y Additions 2 2 2 Tax positions related to prior yea Additions — 1 — Reductions ( 1 ) — ( 5 ) Lapses in statutes of limitations ( 2 ) — — Balance at end of year $ 13 $ 14 $ 11 At both December 31, 2022 and 2021, the liability for unrecognized tax benefits included approximately $ 12 million (net of the federal tax benefit on state taxes) that, if recognized, would affect the effective tax rate. The amount of gross unrecognized tax benefits related to tax credits on technology initiatives that may increase or decrease during the 12 months subsequent to December 31, 2022 is dependent on the timing and outcome of various ongoing federal and state examinations. For tax years not currently under examination, the gross unrecognized tax benefits on technology initiatives may decrease by approximately $ 5 million. Interest and penalties related to unrecognized tax benefits are included in income tax expense in the statement of income. At both December 31, 2022 and 2021, accrued interest and penalties recognized in the balance sheet, net of any federal and state tax benefits, totaled approximately $ 1 million. We file income tax returns in U.S. federal and various state jurisdictions, and we are no longer subject to income tax examinations for years prior to 2013 for federal and certain state returns. 139 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 21. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: (In millions, except shares and per share amounts) 2022 2021 2020 Basic: Net income $ 907 $ 1,129 $ 539 Less common and preferred dividends 269 261 259 Less impact from redemption of preferred stock — 3 — Undistributed earnings 638 865 280 Less undistributed earnings applicable to nonvested shares 5 7 2 Undistributed earnings applicable to common shares 633 858 278 Distributed earnings applicable to common shares 237 230 223 Total earnings applicable to common shares $ 870 $ 1,088 $ 501 Weighted average common shares outstanding (in thousands) 150,064 159,913 163,737 Net earnings per common share $ 5.80 $ 6.80 $ 3.06 Dilut Total earnings applicable to common shares $ 870 $ 1,088 $ 501 Weighted average common shares outstanding (in thousands) 150,064 159,913 163,737 Dilutive effect of common stock warrants (in thousands) — — 1,641 Dilutive effect of stock options (in thousands) 207 321 235 Weighted average diluted common shares outstanding (in thousands) 150,271 160,234 165,613 Net earnings per common share $ 5.79 $ 6.79 $ 3.02 The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per share. (In thousands) 2022 2021 2020 Restricted stock and restricted stock units $ 1,265 $ 1,374 $ 1,338 Stock options 178 74 889 22. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, Amegy Bank, California Bank & Trust, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. Our affiliate banks are supported by an enterprise operating segment (referred to as the “Other” segment) that provides governance and risk management, allocates capital, establishes strategic objectives, and includes centralized technology, back-office functions, and certain lines of business not operated through our affiliate banks. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal funds transfer pricing (“FTP”) allocation process to report results of operations for business segments. This process is subject to change and refinement over time. In the third quarter of 2020, we began allocating the net interest income associated with our Treasury department to the business segments. Historically, this amount was presented in the “Other” segment. Prior period amounts have been revised to reflect the impact of these changes had they been instituted for the periods presented. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. 140 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At December 31, 2022, Zions Bank operated 95 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. CB&T operated 80 branches in California. Amegy operated 75 branches in Texas. NBAZ operated 56 branches in Arizona. NSB operated 46 branches in Nevada. Vectra operated 34 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. In July 2022, NSB completed the purchase of three Northern Nevada City National Bank branches and their associated deposit, credit card, and loan accounts. We acquired approximately $ 430 million in deposits and $ 95 million in commercial and consumer loans at the time of the purchase. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. 141 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment informati (In millions) Zions Bank CB&T Amegy 2022 2021 2020 2022 2021 2020 2022 2021 2020 SELECTED INCOME STATEMENT DATA Net interest income $ 741 $ 633 $ 650 $ 595 $ 536 $ 512 $ 513 $ 462 $ 485 Provision for credit losses 43 ( 26 ) 67 49 ( 78 ) 120 5 ( 96 ) 111 Net interest income after provision for credit losses 698 659 583 546 614 392 508 558 374 Noninterest income 184 185 158 108 102 95 158 141 133 Noninterest expense 495 464 446 340 311 305 355 337 329 Income (loss) before income taxes $ 387 $ 380 $ 295 $ 314 $ 405 $ 182 $ 311 $ 362 $ 178 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 13,277 $ 13,198 $ 13,845 $ 13,129 $ 12,892 $ 12,366 $ 12,110 $ 12,189 $ 13,114 Total average deposits 24,317 23,588 18,370 16,160 15,796 13,763 15,735 15,496 12,970 (In millions) NBAZ NSB Vectra 2022 2021 2020 2022 2021 2020 2022 2021 2020 SELECTED INCOME STATEMENT DATA Net interest income $ 241 $ 204 $ 216 $ 183 $ 146 $ 146 $ 153 $ 136 $ 135 Provision for credit losses 11 ( 27 ) 35 4 ( 35 ) 37 9 ( 12 ) 34 Net interest income after provision for credit losses 230 231 181 179 181 109 144 148 101 Noninterest income 48 46 41 48 50 43 31 33 32 Noninterest expense 167 151 147 151 142 141 120 114 109 Income (loss) before income taxes $ 111 $ 126 $ 75 $ 76 $ 89 $ 11 $ 55 $ 67 $ 24 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 4,911 $ 4,849 $ 5,099 $ 2,987 $ 3,015 $ 3,102 $ 3,632 $ 3,414 $ 3,401 Total average deposits 8,035 7,288 5,771 7,436 6,691 5,427 4,109 4,386 3,637 (In millions) TCBW Other Consolidated Bank 2022 2021 2020 2022 2021 2020 2022 2021 2020 SELECTED INCOME STATEMENT DATA Net interest income $ 63 $ 53 $ 52 $ 31 $ 38 $ 20 $ 2,520 $ 2,208 $ 2,216 Provision for credit losses 1 ( 3 ) 7 — 1 3 122 ( 276 ) 414 Net interest income after provision for credit losses 62 56 45 31 37 17 2,398 2,484 1,802 Noninterest income 7 6 5 48 140 67 632 703 574 Noninterest expense 24 21 22 226 201 205 1,878 1,741 1,704 Income (loss) before income taxes $ 45 $ 41 $ 28 $ ( 147 ) $ ( 24 ) $ ( 121 ) $ 1,152 $ 1,446 $ 672 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,630 $ 1,569 $ 1,460 $ 922 $ 857 $ 629 $ 52,598 $ 51,983 $ 53,016 Total average deposits 1,571 1,537 1,256 1,166 1,475 2,495 78,529 76,257 63,689 142 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 23. QUARTERLY FINANCIAL INFORMATION (UNAUDITED) Quarterly financial information for 2022 and 2021 is presented below. Prior period amounts have been reclassified to conform with the current year presentation, where applicable. These reclassifications did not affect net income. See related discussion in Note 1. (In millions, except per share amounts) Fourth Quarter Third Quarter Second Quarter First Quarter 2022 Total interest income $ 835 $ 707 $ 608 $ 555 Net interest income 720 663 593 544 Provision for credit losses 43 71 41 ( 33 ) Noninterest income 153 165 172 142 Noninterest expense 471 479 464 464 Income before income taxes 359 278 260 255 Net income 284 217 203 203 Preferred stock dividends 7 6 8 8 Net earnings applicable to common shareholders 277 211 195 195 Net earnings per common sh Basic 1.84 1.40 1.29 1.27 Diluted 1.84 1.40 1.29 1.27 2021 Total interest income $ 566 $ 569 $ 570 $ 562 Net interest income 553 555 555 545 Provision for credit losses 25 ( 46 ) ( 123 ) ( 132 ) Noninterest income 190 139 205 169 Noninterest expense 449 429 428 435 Income before income taxes 269 311 455 411 Net income 213 240 354 322 Preferred stock dividends 6 6 9 8 Net earnings applicable to common shareholders 207 234 345 314 Net earnings per common sh Basic 1.34 1.45 2.08 1.90 Diluted 1.34 1.45 2.08 1.90 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. ITEM 9A. CONTROLS AND PROCEDURES Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures as of December 31, 2022. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of December 31, 2022. There were no changes in our internal control over financial reporting during the fourth quarter of 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. See “Report on Management’s Assessment of Internal Control over Financial Reporting” included in Item 8 on page 73 for management’s report on the adequacy of internal control over financial reporting. Also see “Report on Internal Control over Financial Reporting” issued by Ernst & Young LLP included in Item 8 on page 74. ITEM 9B. OTHER INFORMATION None. 143 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 9C. DISCLOSURE REGARDING FOREIGN JURISDICTIONS THAT PREVENT INSPECTIONS None. PART III ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, AND CORPORATE GOVERNANCE Incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 11. EXECUTIVE COMPENSATION Incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS Equity Compensation Plan Information The following schedule provides information as of December 31, 2022 with respect to the shares of our common stock that may be issued under existing equity compensation plans. (a) (b) (c) Plan category 1 Number of securities to be issued upon exercise of outstanding options, warrants and rights Weighted average exercise price of outstanding options, warrants and rights Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a)) Equity compensation plan approved by security holde Zions Bancorporation, N.A. 2022 Omnibus Incentive Plan 1,257,143 $ 50.93 3,683,780 1 Column (a) excludes 60,749 shares of unvested restricted stock, and 1,169,093 RSUs (each unit representing the right to one share of common stock). The schedule also excludes 5,223 shares of common stock issuable upon the exercise of stock options, with a weighted average exercise price of $6.41, granted under plans assumed in mergers that are outstanding. Other information required by Item 12 is incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE Incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES Incorporated by reference from our Proxy Statement to be subsequently filed. PART IV ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES a. (1) Financial statements — The following consolidated financial statements of Zions Bancorporation, N.A. are filed as part of this Form 10-K under Item 8, Financial Statements and Supplementary Da Consolidated balance sheets — December 31, 2022 and 2021 Consolidated statements of income — Years ended December 31, 2022, 2021, and 2020 Consolidated statements of comprehensive income — Years ended December 31, 2022, 2021, and 2020 144 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Consolidated statements of changes in shareholders ’ equity — Years ended December 31, 2022, 2021, and 2020 Consolidated statements of cash flows — Years ended December 31, 2022, 2021, and 2020 Notes to consolidated financial statements — December 31, 2022 (2) Financial statement schedules — All financial statement schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions, the required information is contained elsewhere in the Form 10-K, or the schedules are inapplicable and have therefore been omitted. (3) List of Exhibits: Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 4.1 Description of Securities of Zions Bancorporation, National Association, as of December 31, 2022 (filed herewith). 10.1 Zions Bancorporation 2020-2022 Value Sharing Plan, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended June 30, 2022. * 10.2 Zions Bancorporation 2021-2023 Value Sharing Plan, incorporated by reference to Exhibit 10.2 of Form 10-Q for the quarter ended June 30, 2022. * 10.3 Zions Bancorporation 2021-2023 Value Sharing Plan with conditional incentives, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended June 30, 2022. * 10.4 Zions Bancorporation 2022-2024 Value Sharing Plan, incorporated by reference to Exhibit 10.4 of Form 10-Q for the quarter ended June 30, 2022. * 10.5 Zions Bancorporation 2017 Management Incentive Compensation Plan, incorporated by reference to Appendix I of our Proxy Statement dated April 14, 2016. * 10.6 Zions Bancorporation Third Restated and Revised Deferred Compensation Plan, incorporated by reference to Exhibit 10.5 of Form 10-K for the year ended December 31, 2018. * 10.7 Zions Bancorporation Fourth Restated Deferred Compensation Plan for Directors, incorporated by reference to Exhibit 10.6 of Form 10-K for the year ended December 31, 2018. * 10.8 Amendment to the Zions Bancorporation Fourth Restated Deferred Compensation Plan for Directors, incorporated by reference to Exhibit 10.8 of Form 10-K for the year ended December 31, 2015. * 10.9 Amegy Bancorporation, Inc. Fifth Amended and Restated Non-Employee Directors Deferred Fee Plan (Frozen upon merger with Zions Bancorporation in 2005), incorporated by reference to Exhibit 10.8 of Form 10-K for the year ended December 31, 2018. * 10.10 Zions Bancorporation Executive Management Pension Plan, incorporated by reference to Exhibit 10.8 of Form 10-K for the year ended December 31, 2020. * 145 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Exhibit Number Description 10.11 Zions Bancorporation First Restated Excess Benefit Plan, incorporated by reference to Exhibit 10.9 of Form 10-K for the year ended December 31, 2020. * 10.12 Amegy Bancorporation 2004 (formerly Southwest Bancorporation of Texas, Inc.) Omnibus Incentive Plan, incorporated by reference to Exhibit 10.38 of Form 10-K for the year ended December 31, 2015. * 10.13 Trust Agreement establishing the Zions Bancorporation Deferred Compensation Plan Trust by and between Zions Bancorporation and Cigna Bank & Trust Company, FSB effective October 1, 2002, incorporated by reference to Exhibit 10.12 of Form 10-K for the year ended December 31, 2018. * 10.14 Amendment to the Trust Agreement Establishing the Zions Bancorporation Deferred Compensation Plans Trust, effective September 1, 2006, incorporated by reference to Exhibit 10.13 of Form 10-K for the year ended December 31, 2018. * 10.15 Amendment to the Trust Agreement establishing the Zions Bancorporation Deferred Compensation Plan Trust by and between Zions Bancorporation and Cigna Bank & Trust Company, FSB substituting Prudential Bank & Trust, FSB as the trustee, incorporated by reference to Exhibit 10.12 of Form 10-K for the year ended December 31, 2016. * 10.16 Zions Bancorporation Deferred Compensation Plans Master Trust between Zions Bancorporation and Fidelity Management Trust Company, effective September 1, 2006, incorporated by reference to Exhibit 10.15 of Form 10-K for the year ended December 31, 2018. * 10.17 Revised schedule C to Zions Bancorporation Deferred Compensation Plans Master Trust between Zions Bancorporation and Fidelity Management Trust Company, effective September 13, 2006, incorporated by reference to Exhibit 10.16 of Form 10-K for the year ended December 31, 2018. * 10.18 Third Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, dated June 13, 2012, incorporated by reference to Exhibit 10.17 of Form 10-K for the year ended December 31, 2017. * 10.19 Fifth Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, incorporated by reference to Exhibit 10.18 of Form 10-K for the year ended December 31, 2018. * 10.20 Sixth Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, dated August 17, 2015, incorporated by reference to Exhibit 10.18 of Form 10-K for the year ended December 31, 2020. * 10.21 Seventh Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, effective September 30, 2018, incorporated by reference to Exhibit 10.2 of Form 10-Q for the quarter ended September 30, 2018. * 10.22 Ninth Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, effective April 1, 2022, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended September 30, 2022. * 10.23 Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, Restated and Amended effective January 1, 2007, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended June 30, 2018. * 146 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Exhibit Number Description 10.24 Second Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated December 31, 2018, effective January 1, 2019, incorporated by reference to Exhibit 10.27 of Form 10-K for the year ended December 31, 2018. * 10.25 Third Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated June 27, 2019, effective September 30, 2018, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended June 30, 2019. * 10.26 Fourth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated September 11, 2020, effective January 1, 2020, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended September 30, 2020. * 10.27 Fifth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated September 11, 2020, effective January 1, 2020, incorporated by reference to Exhibit 10.2 of Form 10-Q for the quarter ended September 30, 2020. * 10.28 Sixth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated September 11, 2020, effective October 1, 2020, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended September 30, 2020. * 10.29 Seventh Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated December 23, 2020, effective January 1, 2021, incorporated by reference to Exhibit 10.32 of Form 10-K for the year ended December 31, 2020. * 10.30 Eighth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated December 20, 2022, effective January 1, 2023 (filed herewith). 10.31 Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated July 3, 2006, incorporated by reference to Exhibit 10.28 of Form 10-K for the year ended December 31, 2018. * 10.32 First Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 5, 2010, incorporated by reference to Exhibit 10.25 of Form 10-K for the year ended December 31, 2015. * 10.33 Second Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 5, 2010, incorporated by reference to Exhibit 10.26 of Form 10-K for the year ended December 31, 2015. * 10.34 Third Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 30, 2010, incorporated by reference to Exhibit 10.27 of Form 10-K for the year ended December 31, 2015. * 10.35 Fourth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated October 1, 2014, incorporated by reference to Exhibit 10.37 of Form 10-K for the year ended December 31, 2020. * 10.36 Fifth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated October 1, 2014, incorporated by reference to Exhibit 10.38 of Form 10-K for the year ended December 31, 2020. * 147 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Exhibit Number Description 10.37 Sixth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated August 17, 2015, incorporated by reference to Exhibit 10.39 of Form 10-K for the year ended December 31, 2020. * 10.38 Seventh Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 27, 2016, incorporated by reference to Exhibit 10.31 of Form 10-K for the year ended December 31, 2016. * 10.39 Eighth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective September 30, 2018, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended September 30, 2018. * 10.40 Ninth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective October 27, 2020, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended June 30, 2021. * 10.41 Tenth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective October 1, 2019, incorporated by reference to Exhibit 10.5 of Form 10-Q for the quarter ended June 30, 2022. * 10.42 Eleventh Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective November 1, 2020, incorporated by reference to Exhibit 10.6 of Form 10-Q for the quarter ended June 30, 2022. * 10.43 Twelfth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective April 1, 2022, incorporated by reference to Exhibit 10.7 of Form 10-Q for the quarter ended June 30, 2022. * 10.44 Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.42 of Form 10-K for the year ended December 31, 2020. * 10.45 Form of Restricted Stock Award Agreement subject to holding requirement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.43 of Form 10-K for the year ended December 31, 2020. * 10.46 Form of Standard Restricted Stock Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.44 of Form 10-K for the year ended December 31, 2020. * 10.47 Form of Standard Restricted Stock Unit Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.45 of Form 10-K for the year ended December 31, 2020. * 10.48 Form of Restricted Stock Unit Agreement subject to holding requirement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.46 of Form 10-K for the year ended December 31, 2020. * 10.49 Form of Standard Stock Option Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.47 of Form 10-K for the year ended December 31, 2020. * 148 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Exhibit Number Description 10.50 Form of Standard Directors Stock Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.48 of Form 10-K for the year ended December 31, 2020. * 10.51 Zions Bancorporation 2022 Omnibus Incentive Plan, incorporated by reference to Appendix I of Schedule 14A, dated March 17, 2022. * 10.52 Form of Standard Restricted Stock Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.8 of Form 10-Q for the quarter ended June 30, 2022. * 10.53 Form of Restricted Stock Award Agreement subject to holding requirement, Zions Bancorporation 2022 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.9 of Form 10-Q for the quarter ended June 30, 2022. * 10.54 Form of Standard Restricted Stock Unit Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.10 of Form 10-Q for the quarter ended June 30, 2022. * 10.55 Form of Restricted Stock Unit Award Agreement subject to holding requirement, Zions Bancorporation 2022 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.11 of Form 10-Q for the quarter ended June 30, 2022. * 10.56 Form of Standard Stock Option Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.12 of Form 10-Q for the quarter ended June 30, 2022). * 10.57 Form of Standard Directors Stock Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.13 of Form 10-Q for the quarter ended June 30, 2022. * 10.58 Form of Change in Control Agreement between the Bank and Certain Executive Officers, incorporated by reference to Exhibit 10.49 of Form 10-K for the year ended December 31, 2020. * 10.59 Form of Change in Control Agreement between the Bank and Dallas E. Haun, dated May 23, 2008, incorporated by reference to Exhibit 10.50 of Form 10-K for the year ended December 31, 2020. * 21 List of Subsidiaries of Zions Bancorporation, National Association (filed herewith). 23 Consent of Independent Registered Public Accounting Firm (filed herewith). 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 149 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Exhibit Number Description 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in inline XBRL: (i) the Consolidated Balance Sheets as of December 31, 2022 and December 31, 2021, (ii) the Consolidated Statements of Income for the years ended December 31, 2022, December 31, 2021, and December 31, 2020, (iii) the Consolidated Statements of Comprehensive Income for the years ended December 31, 2022, December 31, 2021, and December 31, 2020, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the years ended December 31, 2022, December 31, 2021, and December 31, 2020, (v) the Consolidated Statements of Cash Flows for the years ended December 31, 2022, December 31, 2021, and December 31, 2020, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Form 10-K, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. ITEM 16. FORM 10-K SUMMARY Not applicable. 150 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. February 23, 2023 ZIONS BANCORPORATION, NATIONAL ASSOCIATION By /s/ Harris H. Simmons HARRIS H. SIMMONS, Chairman and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the date indicated. February 23, 2023 /s/ Harris H. Simmons /s/ Paul E. Burdiss HARRIS H. SIMMONS, Director, Chairman and Chief Executive Officer (Principal Executive Officer) PAUL E. BURDISS, Executive Vice President and Chief Financial Officer (Principal Financial Officer) /s/ R. Ryan Richards /s/ Maria Contreras-Sweet R. RYAN RICHARDS, Controller (Principal Accounting Officer) MARIA CONTRERAS-SWEET, Director /s/ Gary L. Crittenden /s/ Suren K. Gupta GARY L. CRITTENDEN, Director SUREN K. GUPTA, Director /s/ Claire A. Huang /s/ Vivian S. Lee CLAIRE A. HUANG, Director VIVIAN S. LEE, Director /s/ Scott J. McLean /s/ Edward F. Murphy SCOTT J. MCLEAN, Director EDWARD F. MURPHY, Director /s/ Stephen D. Quinn /s/ Aaron B. Skonnard STEPHEN D. QUINN, Director AARON B. SKONNARD, Director /s/ Barbara A. Yastine BARBARA A. YASTINE, Director 151 |
Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) 39 Consolidated Balance Sheets 39 Consolidated Statements of Income 40 Consolidated Statements of Comprehensive Income (Loss) 41 Consolidated Statements of Changes in Shareholders’ Equity 41 Consolidated Statements of Cash Flows 42 Notes to Consolidated Financial Statements 43 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 4 Item 3. Quantitative and Qualitative Disclosures About Market Risk 78 Item 4. Controls and Procedures 79 PART II. OTHER INFORMATION Item 1. Legal Proceedings 79 Item 1A. Risk Factors 79 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 80 Item 6. Exhibits 81 Signatures 82 2 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses HECL Home Equity Credit Line AFS Available-for-Sale HTM Held-to-Maturity ALLL Allowance for Loan and Lease Losses IPO Initial Public Offering Amegy Amegy Bank, a division of Zions Bancorporation, National Association LIHTC Low-income Housing Tax Credit AMERIBOR American Interbank Offered Rate LIBOR London Interbank Offered Rate AOCI Accumulated Other Comprehensive Income or Loss Municipalities State and Local Governments ASC Accounting Standards Codification NAICS North American Industry Classification System ASU Accounting Standards Update NASDAQ National Association of Securities Dealers Automated Quotations BOLI Bank-Owned Life Insurance NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association bps Basis Points NIM Net Interest Margin BSBY Bloomberg Short-Term Bank Yield NM Not Meaningful BTFP Bank Term Funding Program NSB Nevada State Bank, a division of Zions Bancorporation, National Association CB&T California Bank & Trust, a division of Zions Bancorporation, National Association OCC Office of the Comptroller of the Currency CECL Current Expected Credit Loss OCI Other Comprehensive Income or Loss CLTV Combined Loan-to-Value Ratio OREO Other Real Estate Owned CMT Constant Maturity Treasury PAM Proportional Amortization Method CRE Commercial Real Estate PEI Private Equity Investment CVA Credit Valuation Adjustment PPNR Pre-provision Net Revenue DTA Deferred Tax Asset PPP Paycheck Protection Program DTL Deferred Tax Liability ROU Right-of-Use EaR Earnings at Risk RULC Reserve for Unfunded Lending Commitments EPS Earnings per Share S&P Standard & Poor's EVE Economic Value of Equity SBA U.S. Small Business Administration FASB Financial Accounting Standards Board SBIC Small Business Investment Company FDIC Federal Deposit Insurance Corporation SEC Securities and Exchange Commission FHLB Federal Home Loan Bank SOFR Secured Overnight Financing Rate FICO Fair Isaac Corporation TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association FRB Federal Reserve Board TDR Troubled Debt Restructuring FTP Funds Transfer Pricing U.S. United States GAAP Generally Accepted Accounting Principles Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association GCF General Collateral Funding Zions Bank Zions Bank, a division of Zions Bancorporation, National Association 3 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES PART I. FINANCIAL INFORMATION ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING INFORMATION This quarterly report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • Statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • Statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. Forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although the following list is not comprehensive, important factors that may cause material differences inclu • The quality and composition of our loan and securities portfolios and the quality and composition of our deposits; • Changes in general industry, political and economic conditions, including continued high inflation, economic slowdown or recession, or other economic disruptions; changes in interest and reference rates which could adversely affect our revenue and expenses, the value of assets and obligations, and the availability and cost of capital and liquidity; deterioration in economic conditions that may result in increased loan and leases losses; • Securities and capital markets behavior, including volatility and changes in market liquidity and our ability to raise capital; • The impact of bank failures or adverse developments at other banks on general investor sentiment regarding the stability and liquidity of banks; • The possibility that our recorded goodwill could become impaired, which may have an adverse impact on our earnings; • Our ability to recruit and retain talent, including increased competition for qualified candidates as a result of expanded remote-work opportunities and increased compensation expenses; • Competitive pressures and other factors that may affect aspects of our business, such as pricing and demand for our products and services; • Our ability to complete projects and initiatives and execute on our strategic plans, manage our risks, and achieve our business objectives; • Our ability to provide adequate oversight of our suppliers or prevent inadequate performance by third parties upon whom we rely for the delivery of various products and services; • Our ability to develop and maintain technology, information security systems and controls designed to guard against fraud, cybersecurity, and privacy risks; • Changes and uncertainties in applicable laws, and fiscal, monetary, regulatory, trade, and tax policies, and actions taken by governments, agencies, central banks and similar organizations; adverse media and other expressions of negative public opinion whether directed at us, other banks, the banking industry generally or otherwise that may adversely affect our reputation and that of the banking industry generally; 4 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES • The effects of pandemics and other health emergencies, including the lingering effects of the COVID-19 pandemic that may affect our business, employees, customers, and communities, such as ongoing effects on availability and cost of labor; • The effects of wars and geopolitical conflicts, and other local, national, or international disasters, crises, or conflicts that may occur in the future; • Natural disasters that may impact our and our customer's operations and business; and • Governmental and social responses to environmental, social, and governance issues, including those with respect to climate change. We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any forward-looking statements to reflect future events or developments. RECENT DEVELOPMENTS As this quarterly report is filed, the Nasdaq Regional Banking Index is down about 30% year-to-date in 2023, reflecting broad weakness in bank valuations due in large part to several regional banks being closed and placed into receivership with the Federal Deposit Insurance Corporation (“FDIC”). The root causes of these closures appear to be centered on weaknesses in liquidity risk, interest rate risk, and capital management. Investor sentiment has also been adversely impacted by concerns about future losses in commercial real estate. In light of the current banking environment, below we have summarized key strategic actions that we employ (and have employed since the 2008 global financial crisis) to prudently manage the associated risks. Liquidity Risk We manage liquidity to provide necessary funds in varying circumstances. As a result, we have readily available sources of liquidity, including cash, interest-bearing funds held at the Federal Reserve, and advances and other borrowings against loans and highly-liquid investment securities, which all together exceed our level of uninsured deposits. An important source of our liquidity is an approximately $22 billion investment securities portfolio, comprised primarily of United States (“U.S.”) government mortgage-backed securities that can be readily pledged for future borrowings without effecting a sale. Interest Rate Risk We actively manage the volatility of net interest income and economic value of equity associated with changes in interest rates. Our investment securities portfolio, which has an estimated duration of 4.1 years, facilitates the balancing of the mismatch between our loan and deposit durations. Capital Management We maintain strong regulatory capital ratios, exceeding all capital adequacy and regulatory requirements for well-capitalized banks, and have current and projected earnings capacity to augment capital going forward. We regularly utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital and funding. Credit Risk We believe we have strong credit discipline, solid underwriting standards, and a well-diversified loan portfolio, all of which has resulted in very good credit quality for more than a decade. Specifically, we have actively managed the credit risk in our commercial real estate loan portfolio, reducing these loans to 23% of total loans, compared with 33% in late 2008. 5 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Comparisons noted below are calculated for the current quarter compared with the same prior-year period unless otherwise specified. Growth rates of 100% or more are considered not meaningful (“NM”) as they generally reflect a low starting point. RESULTS OF OPERATIONS Executive Summary Our financial results in the first quarter of 2023 reflected strong credit quality and revenue growth, which was partially offset by increases in the provision for credit losses and noninterest expense. Diluted earnings per share (“EPS”) was $1.33, compared with $1.27 in the first quarter of 2022. Net interest income increased $135 million, or 25%, to $679 million, primarily due to a higher interest rate environment and a favorable change in the mix of interest-earning assets. The net interest margin (“NIM”) was 3.33%, compared with 2.60%. Nonperforming assets decreased $79 million, or 31%, and classified loans decreased $236 million, or 21%. We had zero net loan and lease charge-offs, compared with net charge-offs of $6 million, in the prior year quarter. Despite improvements in most of our credit quality metrics, the provision for credit losses was $45 million, compared with a $(33) million provision in the prior year period, reflecting deterioration in economic forecasts and growth in the loan portfolio. Total customer-related noninterest income remained stable at $151 million, compared with the prior year period, driven by increases in commercial treasury management, foreign exchange, and capital markets syndication fees, offset by a decrease in retail and business banking fees. Total noninterest income increased $18 million, or 13%, primarily due to negative mark-to-market adjustments recorded during the prior year period related to our Small Business Investment Company (“SBIC”) investment portfolio. Total noninterest expense increased $48 million, or 10%. The increase was driven largely by a $27 million increase in salaries and benefits expense, which was impacted by ongoing inflationary and competitive labor market pressures on wages and benefits, increased headcount, and an additional business day during the current quarter. Our efficiency ratio was 59.9%, compared with 65.8%, as growth in adjusted taxable-equivalent revenue significantly outpaced growth in adjusted noninterest expense. Average interest-earning assets decreased $2.3 billion, or 3%, from the prior year quarter, driven by declines of $4.2 billion and $3.2 billion in average money market investments and average securities, respectively, and partially offset by an increase of $5.2 billion in average loans and leases. Total loans and leases increased $5.1 billion, or 10%, to $56.3 billion. The increases were primarily in the consumer 1-4 family residential mortgage, commercial real estate term, commercial and industrial, and consumer construction loan portfolios. Total deposits decreased $13.1 billion, or 16%, to $69.2 billion, from the prior year quarter, mainly due to declines in larger-balance and more rate-sensitive, nonoperating deposits during the prior year, which continued into the first quarter of 2023 due to market uncertainty and heightened sensitivity of large depositors in the wake of prominent bank failures. Our loan-to-deposit ratio was 81%, compared with 62% in the prior year quarter. Borrowed funds, consisting primarily of secured borrowings, increased $11.5 billion from the prior year quarter in response to declines in total deposits and loan growth. 6 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES First Quarter 2023 Financial Performance Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency Ratio Net earnings applicable to common shareholders increased from the first quarter of 2022, primarily due to an increase in net revenue, driven largely by the higher interest rate environment and change in the mix of interest-earning assets, partially offset by increases in the provision for credit losses and noninterest expense, as well as a higher effective tax rate. Diluted earnings per share improved from the first quarter of 2022 as a result of increased net earnings and a 3.6 million decrease in weighted average diluted shares, primarily due to share repurchases. Adjusted pre-provision net revenue (“PPNR”) increased $100 million from the first quarter of 2022, primarily due to growth in net interest income. This increase was partially offset by higher adjusted noninterest expense. The efficiency ratio improved from the prior year quarter, as growth in adjusted taxable-equivalent revenue significantly outpaced growth in adjusted noninterest expense, resulting in positive operating leverage. Net Interest Income and Net Interest Margin NET INTEREST INCOME AND NET INTEREST MARGIN Three Months Ended March 31, Amount change Percent change (Dollar amounts in millions) 2023 2022 Interest and fees on loans 1 $ 726 $ 437 $ 289 66 % Interest on money market investments 57 6 51 NM Interest on securities 137 112 25 22 Total interest income 920 555 365 66 Interest on deposits 82 6 76 NM Interest on short- and long-term borrowings 159 5 154 NM Total interest expense 241 11 230 NM Net interest income $ 679 $ 544 $ 135 25 % Average interest-earning assets $ 83,832 $ 86,093 $ (2,261) (3) % Average interest-bearing liabilities $ 49,012 $ 42,136 $ 6,876 16 % bps Yield on interest-earning assets 2 4.49 % 2.65 % 184 Rate paid on total deposits and interest-bearing liabilities 2 1.17 % 0.06 % 111 Cost of total deposits 2 0.47 % 0.03 % 44 Net interest margin 2 3.33 % 2.60 % 73 1 Includes interest income recoveries of $2 million for both the three months ended March 31, 2023, and 2022. 2 Rates are calculated using amounts in thousands; taxable-equivalent rates are used where applicable. 7 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Net interest income accounted for approximately 81% of our net revenue (net interest income plus noninterest income) for the quarter and increased $135 million, or 25%, relative to the prior year quarter. The increase was primarily due to the higher interest rate environment and a favorable change in the mix of interest-earning assets. Average interest-earning assets decreased $2.3 billion, or 3%, from the prior year quarter, driven by declines of $4.2 billion and $3.2 billion in average money market investments and average securities, respectively. A majority of the decrease in average securities was due to payments and maturities. These decreases were partially offset by an increase of $5.2 billion in average loans and leases. The NIM was 3.33%, compared with 2.60%. The yield on average interest-earning assets was 4.49% in the first quarter of 2023, an increase of 184 basis points (“bps”), reflecting higher interest rates and a favorable mix change from money market investments to loans. The yield also benefited from a decrease in the market value of available-for-sale (“AFS”) securities due to rising interest rates. The rate paid on average interest-bearing liabilities increased to 1.99%, compared with 0.11%, reflecting the higher interest rate environment and increased borrowings. We expect that the funding mix change toward the end of the first quarter of 2023, combined with the continued improvement in earning asset yields, will result in an estimated NIM of approximately 3.0% in the near term. Average loans and leases increased $5.2 billion, or 10%, to $56.1 billion, mainly due to growth in average consumer and commercial loans. The yield on total loans increased 178 basis points to 5.30%, reflecting the higher interest rate environment. Average deposits decreased $11.4 billion, or 14%, to $70.2 billion at an average cost of 0.47%, from $81.6 billion at an average cost of 0.03% in the first quarter of 2022. The rate paid on total deposits and interest-bearing liabilities was 1.17%, compared with 0.06%, reflecting the higher interest rate environment and increased short-term borrowings. Average noninterest-bearing deposits as a percentage of total deposits were 49%, compared with 50% during the same prior year period. 8 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Average AFS securities balances decreased $13.3 billion, or 53%, to $11.9 billion. During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the held-to-maturity (“HTM”) category to reflect our intent for these securities. Average borrowed funds, consisting primarily of secured borrowings, increased $11.8 billion from the prior year quarter in response to declines in total deposits and loan growth. For more information on our investments securities portfolio and borrowed funds and how we manage liquidity risk, refer to the “Investment Securities Portfolio” section on page 15 and the “Liquidity Risk Management” section on page 31. For further discussion of the effects of market rates on net interest income and how we manage interest rate risk, refer to the “Interest Rate and Market Risk Management” section on page 28. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 9 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED AVERAGE BALANCE SHEETS, YIELDS AND RATES (Unaudited) Three Months Ended March 31, 2023 Three Months Ended March 31, 2022 (Dollar amounts in millions) Average balance Amount of interest Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 2,724 $ 31 4.72 % $ 6,735 $ 3 0.19 % Federal funds sold and securities purchased under agreements to resell 2,081 26 5.02 2,300 3 0.52 Total money market investments 4,805 57 4.85 9,035 6 0.27 Securiti Held-to-maturity 11,024 62 2.28 438 3 3.12 Available-for-sale 2 11,824 76 2.62 25,246 106 1.71 Trading 21 — 4.01 384 5 4.76 Total securities 3 22,869 138 2.46 26,068 114 1.78 Loans held for sale 5 — 0.26 57 — 1.92 Loans and leases 4 Commercial 30,678 381 5.03 28,496 260 3.70 Commercial real estate 12,876 209 6.59 12,171 101 3.37 Consumer 12,599 144 4.62 10,266 82 3.23 Total loans and leases 56,153 734 5.30 50,933 443 3.52 Total interest-earning assets 83,832 929 4.49 86,093 563 2.65 Cash and due from banks 543 625 Allowance for credit losses on loans and debt securities (576) (515) Goodwill and intangibles 1,064 1,015 Other assets 5,624 4,211 Total assets $ 90,487 $ 91,429 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 32,859 $ 62 0.77 % $ 39,132 $ 5 0.05 % Time 2,934 20 2.68 1,587 1 0.26 Total interest-bearing deposits 35,793 82 0.92 40,719 6 0.06 Borrowed funds: Federal funds and security repurchase agreements 5,614 64 4.65 585 — 0.08 Other short-term borrowings 6,952 84 4.89 9 — — Long-term debt 653 11 6.85 823 5 2.66 Total borrowed funds 13,219 159 4.88 1,417 5 1.58 Total interest-bearing liabilities 49,012 241 1.99 42,136 11 0.11 Noninterest-bearing demand deposits 34,363 40,886 Other liabilities 2,058 1,267 Total liabilities 85,433 84,289 Shareholders’ equity: Preferred equity 440 440 Common equity 4,614 6,700 Total shareholders’ equity 5,054 7,140 Total liabilities and shareholders’ equity $ 90,487 $ 91,429 Spread on average interest-bearing funds 2.50 % 2.54 % Net impact of noninterest-bearing sources of funds 0.83 % 0.06 % Net interest margin $ 688 3.33 % $ 552 2.60 % Me total cost of deposits 0.47 % 0.03 % Me total deposits and interest-bearing liabilities 83,375 241 1.17 % 83,022 11 0.06 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. 2 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 10 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans and is recorded in investment securities on the consolidated balance sheet. The provision for credit losses, which is the combination of both the provision for loan and lease losses and the provision for unfunded lending commitments, was $45 million, compared with $(33) million in the first quarter of 2022. The ACL was $678 million at March 31, 2023, compared with $514 million at March 31, 2022. The increase in the ACL was primarily due to deterioration in economic forecasts and growth in the loan portfolio. The ratio of ACL to net loans and leases was 1.20% and 1.00% at March 31, 2023 and 2022, respectively. The provision for securities losses was less than $1 million during the first quarter of 2023 and 2022. 11 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The bar chart above illustrates the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic forecasts and current economic conditions, which increased the ACL by $114 million from the prior year quarter. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, increased the ACL by $6 million, reflecting relatively stable credit quality. Nonperforming assets decreased $79 million, or 31%, and classified loans decreased $236 million, or 21%. We had zero net loan and lease charge-offs, or 0.00% annualized of average loans, compared with net charge-offs of $6 million, or 0.05% annualized of average loans in the prior year quarter. The fourth bar represents loan portfolio changes, driven primarily by loan growth, as well as changes in portfolio mix, the aging of the portfolio, and other risk factors; all of which resulted in a $44 million increase in the ACL. See “Credit Risk Management” on page 20 and Note 6 in our 2022 Form 10-K for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue we earn from products and services that generally have no associated interest rate or yield and is classified as either customer-related or noncustomer-related. Customer-related noninterest income excludes items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income increased $18 million, or 13%, relative to the prior year. Noninterest income accounted for approximately 19% and 21% of our net revenue during the first quarter of 2023 and 2022, respectively. The following schedule presents a comparison of the major components of noninterest income. 12 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NONINTEREST INCOME Three Months Ended March 31, Amount change Percent change (Dollar amounts in millions) 2023 2022 Commercial account fees $ 43 $ 41 $ 2 5 % Card fees 24 25 (1) (4) Retail and business banking fees 16 20 (4) (20) Loan-related fees and income 21 22 (1) (5) Capital markets fees 17 15 2 13 Wealth management fees 15 14 1 7 Other customer-related fees 15 14 1 7 Customer-related noninterest income 151 151 — — Fair value and nonhedge derivative income (3) 6 (9) NM Dividends and other income (loss) 11 2 9 NM Securities gains (losses), net 1 (17) 18 NM Noncustomer-related noninterest income 9 (9) 18 NM Total noninterest income $ 160 $ 142 $ 18 13 % Customer-related Noninterest Income Total customer-related noninterest income remained stable at $151 million, compared with the prior year period. Increases in commercial treasury management, foreign exchange, and capital markets syndication fees were offset by a decrease in retail and business banking fees largely as a result of a change in our overdraft and non-sufficient funds practices effected during the third quarter of 2022. Noncustomer-related Noninterest Income Total noncustomer-related noninterest income increased $18 million from the prior year quarter. Net securities gains and losses increased $18 million, due largely to negative mark-to-market adjustments recorded during the prior year period related to our SBIC investment portfolio. Dividends and other income increased $9 million, primarily due to an increase in dividends on Federal Home Loan Bank (“FHLB”) stock. These increases were offset by a $9 million decrease in fair value and nonhedge derivative income, primarily due to a $3 million loss during the quarter related to a credit valuation adjustment (“CVA”) on client-related interest rate swaps, compared with a $6 million CVA gain in the prior year period. Noninterest Expense The following schedule presents a comparison of the major components of noninterest expense. NONINTEREST EXPENSE Three Months Ended March 31, Amount change Percent change (Dollar amounts in millions) 2023 2022 Salaries and employee benefits $ 339 $ 312 $ 27 9 % Technology, telecom, and information processing 55 52 3 6 Occupancy and equipment, net 40 38 2 5 Professional and legal services 13 14 (1) (7) Marketing and business development 12 8 4 50 Deposit insurance and regulatory expense 18 10 8 80 Credit-related expense 6 7 (1) (14) Other real estate expense, net — 1 (1) NM Other 29 22 7 32 Total noninterest expense $ 512 $ 464 $ 48 10 % Adjusted noninterest expense 1 $ 509 $ 464 $ 45 10 % 1 For information on non-GAAP financial measures, see “Non-GAAP Financial Measures” on page 36. 13 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Total noninterest expense increased $48 million, or 10%, relative to the prior year quarter. Salaries and benefits expense increased $27 million, or 9%, due to the ongoing impact of inflationary and competitive labor market pressures on wages and benefits, increased headcount, a decline in deferred salaries, and an additional business day during the current quarter. Deposit insurance and regulatory expense increased $8 million, driven largely by an increased base rate beginning in 2023 and a higher FDIC insurance assessment resulting from changes in balance sheet composition. Other noninterest expense increased $7 million, primarily due to increased travel, intangible amortization, and other expenses incurred during the current quarter. The efficiency ratio was 59.9%, compared with 65.8%, as growth in adjusted taxable-equivalent revenue significantly outpaced growth in adjusted noninterest expense. For information on non-GAAP financial measures, including differences between noninterest expense and adjusted noninterest expense, see page 36. Technology Spend Technology spend represents expenditures associated with technology-related investments, operations, systems, and infrastructure, and includes current period expenses reported on our consolidated statement of income, and capitalized investments, net of related amortization and depreciation, reported on our consolidated balance sheet. Technology spend is reported as a combination of the followin • Technology, telecom, and information processing expense — includes expenses related to application software licensing and maintenance, related amortization, telecommunications, and data processing; • Other technology-related expense — includes related noncapitalized salaries and employee benefits, occupancy and equipment, and professional and legal services; and • Technology investments — includes capitalized technology infrastructure equipment, hardware, and purchased or internally developed software, less related amortization or depreciation. The following schedule provides information related to our technology spen TECHNOLOGY SPEND Three Months Ended March 31, (In millions) 2023 2022 Technology, telecom, and information processing expense $ 55 $ 52 Other technology-related expense 54 49 Technology investments 26 22 L related amortization and depreciation (14) (14) Total technology spend $ 121 $ 109 Total technology spend increased $12 million relative to the prior year quarter, largely due to technology-related compensation and investments in application resiliency. Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods present INCOME TAXES Three Months Ended March 31, (Dollar amounts in millions) 2023 2022 Income before income taxes $ 282 $ 255 Income tax expense 78 52 Effective tax rate 27.7 % 20.4 % 14 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The effective tax rate was 27.7% at March 31, 2023, compared with 20.4% at March 31, 2022, primarily as a result of a discrete item that affected the reserve for uncertain tax positions during the current quarter. See Note 12 of the Notes to Consolidated Financial Statements for more information about the factors that influenced the income tax rates as well as information about deferred income tax assets and liabilities, and valuation allowances. Preferred Stock Dividends Preferred stock dividends totaled $6 million and $8 million for the first quarter of 2023 and 2022, respectively. BALANCE SHEET ANALYSIS Interest-Earning Assets Interest-earning assets are assets that have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see the Consolidated Average Balance Sheet on page 10. Investment Securities Portfolio We invest in securities to actively manage liquidity and interest rate risk and to generate interest income. We primarily own securities that can readily provide us cash and liquidity through secured borrowing agreements without the need to sell the securities. We also manage the duration extension risk of our investment securities portfolio. At March 31, 2023, the estimated duration of our securities portfolio remained unchanged at 4.1 years, compared with December 31, 2022. This duration helps to manage the inherent interest rate mismatch between loans and deposits, as fixed-rate term investments facilitate the balancing of asset and liability durations, as well as protect the expected economic value of shareholders' equity. For information about our borrowing capacity associated with the investment securities portfolio and how we manage our liquidity risk, refer to the “Liquidity Risk Management” section on page 31. See also Note 3 and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. 15 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the components of our investment securities portfolio. INVESTMENT SECURITIES PORTFOLIO March 31, 2023 December 31, 2022 (In millions) Par Value Amortized cost Fair value Par Value Amortized cost Fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 98 $ 98 $ 92 $ 100 $ 100 $ 93 Agency guaranteed mortgage-backed securities 1 12,707 10,471 10,750 12,921 10,621 10,772 Municipal securities 392 392 368 404 405 374 Total held-to-maturity 13,197 10,961 11,210 13,425 11,126 11,239 Available-for-sale U.S. Treasury securities 655 656 511 555 557 393 U.S. Government agencies and corporatio Agency securities 760 753 716 790 782 736 Agency guaranteed mortgage-backed securities 9,341 9,423 8,220 9,566 9,652 8,367 Small Business Administration loan-backed securities 655 701 676 691 740 712 Municipal securities 1,379 1,517 1,447 1,571 1,732 1,634 Other debt securities 25 25 24 75 75 73 Total available-for-sale 12,815 13,075 11,594 13,248 13,538 11,915 Total HTM and AFS investment securities $ 26,012 $ 24,036 $ 22,804 $ 26,673 $ 24,664 $ 23,154 1 During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category to reflect our intent for these securities. The transfer of these securities from AFS to HTM at fair value resulted in a discount to the amortized cost basis of the HTM securities equivalent to the $2.4 billion ($1.8 billion after-tax) of unrealized losses in AOCI. The amortization of the unrealized losses will offset the effect of the accretion of the discount created by the transfer. The amortized cost of total HTM and AFS investment securities decreased $0.6 billion, or 3%, from December 31, 2022, primarily due to payments and maturities. Approximately 8% of the total HTM and AFS investment securities portfolio were floating rate at both March 31, 2023 and December 31, 2022, respectively. Additionally, we have $1.2 billion of pay-fixed swaps held as fair value hedges against fixed-rate AFS securities that effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. At March 31, 2023, the AFS investment securities portfolio included approximately $260 million of net premium that was distributed across the various security categories. Total taxable-equivalent premium amortization for these investment securities was $26 million for the first quarter of 2023, compared with $28 million for the same prior year period. In addition to HTM and AFS securities, we also have a trading securities portfolio comprised of municipal securities that totaled $12 million at March 31, 2023, compared with $465 million at December 31, 2022. The prior quarter also included $395 million of money market mutual sweep accounts. Refer to the “Capital Management” section on page 34 and Note 5 of the Notes to Consolidated Financial Statements for more discussion regarding our investment securities portfolio and related unrealized gains and losses. Municipal Investments and Extensions of Credit We support our communities by providing products and services to state and local governments (“municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. Our municipal lending products generally include loans in which the debt service is repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. 16 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule summarizes our total investments and extensions of credit to municipaliti MUNICIPAL INVESTMENTS AND EXTENSIONS OF CREDIT (In millions) March 31, 2023 December 31, 2022 Loans and leases $ 4,374 $ 4,361 Held-to-maturity securities 392 405 Available-for-sale securities 1,447 1,634 Trading securities 12 71 Unfunded lending commitments 374 406 Total $ 6,599 $ 6,877 Our municipal loans and securities are primarily associated with municipalities located within our geographic footprint. The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. At March 31, 2023, no municipal loans were on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At March 31, 2023, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. Loan and Lease Portfolio We provide a wide range of lending products to commercial customers, generally small- and medium-sized businesses. We also provide various retail lending products and services to consumers and small businesses. The following schedule presents the composition of our loan and lease portfolio. LOAN AND LEASE PORTFOLIO March 31, 2023 December 31, 2022 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 16,500 29.3 % $ 16,377 29.4 % Leasing 385 0.7 386 0.7 Owner-occupied 9,317 16.5 9,371 16.8 Municipal 4,374 7.8 4,361 7.8 Total commercial 30,576 54.3 30,495 54.8 Commercial real estate: Construction and land development 2,313 4.1 2,513 4.5 Term 10,585 18.8 10,226 18.4 Total commercial real estate 12,898 22.9 12,739 22.9 Consume Home equity credit line 3,276 5.8 3,377 6.1 1-4 family residential 7,692 13.7 7,286 13.1 Construction and other consumer real estate 1,299 2.3 1,161 2.1 Bankcard and other revolving plans 459 0.8 471 0.8 Other 131 0.2 124 0.2 Total consumer 12,857 22.8 12,419 22.3 Total loans and leases $ 56,331 100.0 % $ 55,653 100.0 % 17 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At March 31, 2023 and December 31, 2022, the ratio of loans and leases to total assets was 64% and 62%, respectively. The largest loan category was commercial and industrial loans, which constituted 29% of our total loan portfolio at both time periods. The loan and lease portfolio increased $0.7 billion, or 1%, to $56.3 billion at March 31, 2023. Loan growth was driven largely by increases of $0.4 billion in consumer 1-4 family residential mortgage loans and $0.4 billion in commercial real estate term loans. Other Noninterest-Bearing Investments Other noninterest-bearing investments are equity investments that are held primarily for capital appreciation, dividends, or for certain regulatory requirements. The following schedule summarizes our related investments. OTHER NONINTEREST-BEARING INVESTMENTS (Dollar amounts in millions) March 31, 2023 December 31, 2022 Amount change Percent change Bank-owned life insurance $ 547 $ 546 $ 1 — % Federal Home Loan Bank stock 330 294 36 12 Federal Reserve stock 66 68 (2) (3) Farmer Mac stock 21 19 2 11 SBIC investments 174 172 2 1 Other 31 31 — — Total other noninterest-bearing investments $ 1,169 $ 1,130 $ 39 3 % Total other noninterest-bearing investments increased $39 million, or 3%, during the first three months of 2023, primarily due to a $36 million increase in FHLB stock. We are required to invest approximately 4% of our FHLB borrowings in FHLB stock to maintain our borrowing capacity. The increase was driven by increases in FHLB borrowings during the first quarter of 2023 in response to declines in total deposits and loan growth. Premises, Equipment, and Software We are in the final phase of a three-phase project to replace our core loan and deposit banking systems, and expect to convert our deposit servicing system in 2023. The following schedule summarizes the capitalized costs associated with our core system replacement project, which are depreciated using a useful life of ten years. CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT March 31, 2023 (In millions) Phase 1 Phase 2 Phase 3 Total Total amount of capitalized costs, less accumulated depreciation $ 28 $ 52 $ 212 $ 292 Deposits Deposits are our primary funding source. In recent years, particularly during the COVID-19 pandemic, we benefited from a significant influx of deposits, which was impacted by considerable fiscal and monetary policy decisions. During 2022, with the withdrawal of stimulus by the federal government, our deposits began to decline to more normalized levels. During the first quarter of 2023, with the failure of two prominent banks, this trend continued in response to market uncertainty, though total deposits remained above pre-pandemic (12/31/2019) levels. 18 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the composition of our deposit portfolio. DEPOSIT PORTFOLIO March 31, 2023 December 31, 2022 December 31, 2019 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Amount % of total deposits Deposits by type Noninterest-bearing demand $ 30,974 44.8 % $ 35,777 49.9 % $ 23,576 41.3 % Interest-bearin Savings and money market 30,826 44.5 33,474 46.7 28,249 49.5 Time 2,024 2.9 1,484 2.1 2,451 4.3 Brokered 5,384 7.8 917 1.3 2,809 4.9 Total deposits $ 69,208 100.0 % $ 71,652 100.0 % $ 57,085 100.0 % Deposit-related metrics Estimated amount of insured deposits $ 37,846 55 % $ 34,018 47 % $ 28,802 50 % Estimated amount of uninsured deposits $ 31,362 45 % $ 37,634 53 % $ 28,283 50 % Estimated amount of collateralized deposits $ 2,708 3.9 % $ 2,861 4.0 % $ 1,928 3.4 % Loan-to-deposit ratio 81 % 78 % 85 % Total deposits decreased $2.4 billion, or 3% to $69.2 billion at March 31, 2023 from December 31, 2022, primarily due to a $4.8 billion decrease in noninterest-bearing deposits and a $2.1 billion decrease in savings, money market, and time deposits (excluding brokered deposits). At March 31, 2023, the estimated total amount of uninsured deposits was $31.4 billion, or 45%, of total deposits, compared with $37.6 billion, or 53%, of total deposits at December 31, 2022. Our loan-to-deposit ratio was 81%, compared with 78% for the same time periods, reflecting a return to more normalized, pre-pandemic levels. The following schedule presents our deposits by customer segment. DEPOSITS BY CUSTOMER SEGMENT March 31, 2023 Amount (in millions) % of total deposits % insured % uninsured Average account size Commercial and CRE $ 36,577 52.9 % 33 % 67 % $ 187,000 Consumer 23,616 34.1 82 18 $ 32,000 Other 1 9,015 13.0 72 28 N/A Total deposits $ 69,208 100.0 % 45 55 1 Includes primarily brokered, trust, estate, and certain internal operational accounts. At March 31, 2023, we had no single depositor with uncollateralized deposits exceed 0.22% of total deposits, and the top 25 largest uncollateralized deposit accounts totaled 3.1% of total deposits. 19 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents our deposit balances by size. DEPOSITS BY SIZE March 31, 2023 December 31, 2022 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Amount change Percent change Deposit balance, at period end < $250,000 $ 24,258 35.0 % $ 23,911 33.4 % $ 347 1 % $250,000 < $500,000 8,067 11.6 8,339 11.6 (272) (3) $500,000 < $1 million 6,467 9.3 7,522 10.5 (1,055) (14) $1 million < $5 million 12,365 17.9 14,753 20.6 (2,388) (16) $5 million < $10 million 4,007 5.8 5,247 7.3 (1,240) (24) $10 million < $25 million 4,075 5.9 5,508 7.7 (1,433) (26) ≥ $25 million 3,428 5.0 4,401 6.1 (973) (22) Other 1 1,157 1.7 1,054 1.5 103 10 Total nonbrokered deposits 63,824 92.2 70,735 98.7 (6,911) (10) Brokered deposits 5,384 7.8 917 1.3 4,467 NM Total deposits $ 69,208 100.0 % $ 71,652 100.0 % $ (2,444) (3) % 1 Includes primarily certain internal operational accounts. Total nonbrokered deposits decreased $6.9 billion, or 10%, from December 31, 2022. A majority of the decrease related to larger balance accounts with relatively low transaction volume. This decrease was partially offset by a $4.5 billion increase in brokered deposits. See “Liquidity Risk Management” on page 31 for additional information on liquidity and borrowed funds. RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We employ various strategies to prudently manage the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cybersecurity risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by various management committees including the Enterprise Risk Management Committee. For a more comprehensive discussion of these risks, see “Risk Factors” in our 2022 Form 10-K. Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. Credit policies, credit risk management, and credit examination functions inform and support the oversight of credit risk. Our credit policies emphasize strong underwriting standards and early detection of potential problem credits in order to develop and implement action plans on a timely basis to mitigate potential losses. These formal credit policies and procedures provide us with a framework for consistent underwriting and a basis for sound credit decisions at the local banking affiliate level. Our overall credit risk management strategy includes diversification of our loan portfolio. Our business activity is conducted primarily within the geographic footprint of our banking affiliates. We strive to avoid the risk of undue concentrations of credit in any particular industry, collateral type, location, or with any individual customer or counterparty. We have actively managed the credit risk in our commercial real estate (“CRE”) portfolio for more than a decade, having reduced CRE loans to 23% of total loans, compared with 33% in late 2008. For a more comprehensive discussion of our credit risk management, see “Credit Risk Management” in our 2022 Form 10-K. 20 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES U.S. Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by U.S. government agencies, such as the Small Business Administration (“SBA”), Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At March 31, 2023, $622 million of related loans were guaranteed, primarily by the SBA, and included $157 million of Paycheck Protection Program (“PPP”) loans. The following schedule presents the composition of U.S. government agency guaranteed loans. U.S. GOVERNMENT AGENCY GUARANTEED LOANS (Dollar amounts in millions) March 31, 2023 Percent guaranteed December 31, 2022 Percent guaranteed Commercial $ 730 82 % $ 753 83 % Commercial real estate 24 79 21 76 Consumer 4 100 5 100 Total loans $ 758 82 % $ 779 83 % Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. COMMERCIAL LENDING BY INDUSTRY GROUP 1 March 31, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Real estate, rental and leasing $ 2,924 9.6 % $ 2,802 9.2 % Finance and insurance 2,837 9.3 2,992 9.8 Retail trade 2,801 9.2 2,751 9.0 Public Administration 2,389 7.8 2,366 7.8 Manufacturing 2,355 7.7 2,387 7.8 Healthcare and social assistance 2,337 7.6 2,373 7.8 Wholesale trade 1,871 6.1 1,880 6.2 Utilities 2 1,545 5.0 1,418 4.6 Transportation and warehousing 1,447 4.7 1,464 4.8 Mining, quarrying, and oil and gas extraction 1,362 4.5 1,349 4.4 Construction 1,322 4.3 1,355 4.4 Educational services 1,270 4.2 1,302 4.3 Hospitality and food services 1,197 3.9 1,238 4.1 Professional, scientific, and technical services 1,046 3.4 995 3.3 Other Services (except Public Administration) 1,039 3.4 1,041 3.4 Other 3 2,834 9.3 2,782 9.1 Total $ 30,576 100.0 % $ 30,495 100.0 % 1 Industry groups are determined by North American Industry Classification System (“NAICS”) codes. 2 Includes primarily utilities, power, and renewable energy. 3 No other industry group exceeds 3.1%. Commercial Real Estate Loans At March 31, 2023 and December 31, 2022, our CRE loan portfolio totaled $12.9 billion and $12.7 billion, respectively, representing approximately 23% of the total loan portfolio for both periods. The majority of our CRE loans are secured by real estate primarily located within our geographic footprint. The following schedule presents the geographic distribution of our CRE loan portfolio based on the location of the primary collateral. 21 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES COMMERCIAL REAL ESTATE LENDING BY COLLATERAL LOCATION March 31, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Arizona $ 1,588 12 % $ 1,521 12 % California 3,814 30 % 3,805 30 % Colorado 656 5 % 637 5 % Nevada 968 7 % 910 7 % Texas 2,157 17 % 2,139 17 % Utah/Idaho 2,309 18 % 2,397 19 % Washington/Oregon 914 7 % 899 7 % Other 492 4 % 431 3 % Total CRE $ 12,898 100 % $ 12,739 100 % Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and non-recourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with one- to five-year extension options or roll-to-perm options that often result in term debt. At March 31, 2023, approximately 85% of our CRE loan portfolio was variable-rate, and approximately 23% of these variable-rate loans were swapped to a fixed rate. Underwriting on commercial properties is primarily based on the economic viability of the project with significant consideration given to the creditworthiness and experience of the sponsor. We generally require that the owner’s equity be injected prior to any advances. Re-margining requirements (required equity infusions upon a decline in value or cash flow of the collateral) are often included in the loan agreement along with guarantees of the sponsor. For a more comprehensive discussion of CRE loans and our underwriting, see the “Commercial Real Estate Loans” section in our 2022 Form 10-K. The following schedule provides information regarding lending exposures to certain collateral types in our CRE loan portfolio. COMMERCIAL REAL ESTATE LENDING BY COLLATERAL TYPE March 31, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Commercial property Multi-family $ 3,197 24.8 % $ 3,068 24.1 % Industrial 2,720 21.1 2,509 19.7 Office 2,245 17.4 2,281 17.9 Retail 1,483 11.5 1,529 12.0 Hospitality 693 5.4 695 5.4 Land 202 1.6 276 2.2 Other 1 1,754 13.6 1,728 13.5 Residential property 2 Single family 328 2.5 340 2.7 Land 76 0.6 75 0.6 Condo/Townhome 12 0.1 13 0.1 Other 1 188 1.4 225 1.8 Total $ 12,898 100.0 % $ 12,739 100.0 % 1 Included in the total amount of the “Other” category was approximately $270 million and $301 million of unsecured loans at March 31, 2023 and December 31, 2022, respectively. 2 Residential property collateral type consists primarily of loans provided to commercial homebuilders for land, lot, and single-family housing developments. 22 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Our CRE portfolio is diversified across geography and collateral type, with the largest concentration in multi-family. We provide additional analysis of our office CRE portfolio below in view of increased investor interest in that collateral type in recent periods. Office CRE loan portfolio At March 31, 2023 and December 31, 2022, our office CRE loan portfolio totaled $2.2 billion and $2.3 billion, representing 17% and 18% of the total CRE loan portfolio, respectively. The following schedule presents the composition of our office CRE loan portfolio and other related credit quality metrics. OFFICE CRE LOAN PORTFOLIO (Dollar amounts in millions) March 31, 2023 December 31, 2022 Office CRE Construction and land development $ 172 $ 208 Term 2,073 2,073 Total office CRE $ 2,245 $ 2,281 Classified loans $ 112 $ 133 Allowance for credit losses 37 31 Ratio of allowance for credit losses to office CRE loans, at period end 1.65 % 1.36 % The following schedules present credit quality information for our office CRE loan portfolio by collateral location. OFFICE CRE LOAN PORTFOLIO BY COLLATERAL LOCATION (Dollar amounts in millions) March 31, 2023 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total Office CRE Construction and land development $ — $ 83 $ — $ 2 $ — $ 27 $ 60 $ — $ 172 Term 293 524 96 96 216 575 242 31 2,073 Total Office CRE $ 293 $ 607 $ 96 $ 98 $ 216 $ 602 $ 302 $ 31 $ 2,245 % of total 13.1 % 27.0 % 4.3 % 4.3 % 9.6 % 26.8 % 13.5 % 1.4 % 100.0 % Credit quality metrics: Delinquency rat 30-89 days — % — % — % — % — % — % — % — % — % ≥ 90 days — % — % — % — % — % — % — % — % — % Accruing loans past due 90 days or more $ — $ — $ — $ — $ — $ — $ — $ — $ — Nonaccrual loans $ — $ 1 $ — $ — $ — $ — $ — $ — $ 1 Net charge-offs $ — $ — $ — $ — $ — $ — $ — $ — $ — 23 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (Dollar amounts in millions) December 31, 2022 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total Office CRE Construction and land development $ 8 $ 79 $ — $ 2 $ — $ 18 $ 101 $ — $ 208 Term 295 525 97 99 217 613 195 32 2,073 Total Office CRE $ 303 $ 604 $ 97 $ 101 $ 217 $ 631 $ 296 $ 32 $ 2,281 % of total 13.1 % 27.0 % 4.3 % 4.3 % 9.6 % 26.8 % 13.5 % 1.4 % 100.0 % Credit quality metrics: Delinquency rat 30-89 days — % 5.8 % — % — % — % — % — % — % 1.5 % ≥ 90 days — % — % — % — % — % — % — % — % — % Accruing loans past due 90 days or more $ — $ — $ — $ — $ — $ — $ — $ — $ — Nonaccrual loans $ — $ 1 $ — $ — $ — $ — $ — $ — $ 1 Net charge-offs $ — $ — $ — $ — $ — $ — $ — $ — $ — 1 No other geography exceeds $18 million at both March 31, 2023 and December 31, 2022. 2 Delinquency rates include nonaccrual loans. Consumer Loans We originate first-lien residential home mortgages considered to be of prime quality. We generally hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. Our 1-4 family residential mortgage loan portfolio increased $406 million, or 6%, to $7.7 billion at March 31, 2023, compared with $7.3 billion at December 31, 2022, primarily due to an increased demand for adjustable-rate mortgages, which we have retained as part of our overall interest rate risk management strategy. We also originate home equity credit lines (“HECLs”). At March 31, 2023 and December 31, 2022, our HECL portfolio totaled $3.3 billion and $3.4 billion, respectively. The following schedule presents the composition of our HECL portfolio by lien status. HECL PORTFOLIO BY LIEN STATUS (In millions) March 31, 2023 December 31, 2022 Secured by first liens $ 1,375 $ 1,474 Secured by second (or junior) liens 1,901 1,903 Total $ 3,276 $ 3,377 At March 31, 2023, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with high Fair Isaac Corporation (“FICO”) credit scores. Approximately 90% of our HECL portfolio is still in the draw period, and about 19% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is minimal. The ratio of HECL net charge-offs (recoveries) for the trailing twelve months to average balances at March 31, 2023 and December 31, 2022 was (0.03)% for both periods. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of the HECL portfolio. 24 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nonperforming Assets Nonperforming assets include nonaccrual loans and other real estate owned (“OREO”) or foreclosed properties. Nonperforming assets as a percentage of loans and leases and OREO increased to 0.31% at March 31, 2023, compared with 0.27% at December 31, 2022. Total nonaccrual loans at March 31, 2023 increased to $171 million from $149 million at December 31, 2022, primarily in the commercial and industrial and owner-occupied loan portfolios. See Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. The following schedule presents our nonperforming assets: NONPERFORMING ASSETS (Dollar amounts in millions) March 31, 2023 December 31, 2022 Nonaccrual loans 1 $ 171 $ 149 Other real estate owned 2 2 — Total nonperforming assets $ 173 $ 149 Ratio of nonperforming assets to net loans and leases 1 and other real estate owned 2 0.31 % 0.27 % Accruing loans past due 90 days or more $ 2 $ 6 Ratio of accruing loans past due 90 days or more to loans and leases 1 — % 0.01 % Nonaccrual loans 1 and accruing loans past due 90 days or more $ 173 $ 155 Ratio of nonperforming assets 1 and accruing loans past due 90 days or more to loans and leases 1 and other real estate owned 2 0.31 % 0.28 % Accruing loans past due 30-89 days $ 79 $ 93 Nonaccrual loans 1 current as to principal and interest payments 73.7 % 57.7 % 1 Includes loans held for sale. 2 Does not include banking premises held for sale Loan Modifications Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. On January 1, 2023, we adopted Accounting Standards Update (“ASU”) 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures, which eliminated the recognition and measurement of troubled debt restructurings (“TDRs”) and their related disclosures. ASU 2022-02 requires enhanced disclosures for loan modifications to borrowers experiencing financial difficulty. At March 31, 2023, loans that have been modified to accommodate a borrower experiencing financial difficulties totaled $97 million. If the modified loan performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the modification is taken into account to determine whether a loan should be returned to accrual status. ACCRUING AND NONACCRUING MODIFIED LOANS TO BORROWERS EXPERIENCING FINANCIAL DIFFICULTY (In millions) March 31, 2023 Modified loans – accruing $ 96 Modified loans – nonaccruing 1 Total $ 97 25 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES For additional information regarding loan modifications to borrowers experiencing financial difficulty, including information related to TDRs prior to our adoption of ASU 2022-02, see Note 6 of the Notes to Consolidated Financial Statements. Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. The RULC, a reserve for potential losses associated with off-balance sheet commitments, decreased $1 million during the first three months of 2023. The reserve is separately recorded on the consolidated balance sheet in “Other liabilities,” and any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” The following schedule presents the changes in and allocation of the ACL. 26 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SUMMARY OF CREDIT LOSS EXPERIENCE (Dollar amounts in millions) Three Months Ended March 31, 2023 Twelve Months Ended December 31, 2022 Three Months Ended March 31, 2022 Loans and leases outstanding $ 56,331 $ 55,653 $ 51,242 Average loans and leases outstandin Commercial 30,678 29,225 28,496 Commercial real estate 12,876 12,251 12,171 Consumer 12,599 11,122 10,266 Total average loans and leases outstanding $ 56,153 $ 52,598 $ 50,933 Allowance for loan and lease loss Balance at beginning of period 1 $ 572 $ 513 $ 513 Provision for loan losses 46 101 (29) Charge-offs: Commercial 3 72 13 Commercial real estate — — — Consumer 4 10 4 Total 7 82 17 Recoveri Commercial 6 32 8 Commercial real estate — — — Consumer 1 11 3 Total 7 43 11 Net loan and lease charge-offs — 39 6 Balance at end of period $ 618 $ 575 $ 478 Reserve for unfunded lending commitments: Balance at beginning of period $ 61 $ 40 $ 40 Provision for unfunded lending commitments (1) 21 (4) Balance at end of period $ 60 $ 61 $ 36 Total allowance for credit loss Allowance for loan and lease losses $ 618 $ 575 $ 478 Reserve for unfunded lending commitments 60 61 36 Total allowance for credit losses $ 678 $ 636 $ 514 Ratio of allowance for credit losses to net loans and leases, at period end 1.20 % 1.14 % 1.00 % Ratio of allowance for credit losses to nonaccrual loans, at period end 396 % 427 % 204 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, at period end 392 % 410 % 202 % Ratio of total net charge-offs to average loans and leases 2 — % 0.07 % 0.05 % Ratio of commercial net charge-offs to average commercial loans 2 (0.04) % 0.14 % 0.07 % Ratio of commercial real estate net charge-offs to average commercial real estate loans 2 — % — % — % Ratio of consumer net charge-offs to average consumer loans 2 0.10 % (0.01) % 0.04 % 1 The beginning balance at March 31, 2023 for the allowance for loan losses does not agree to its respective ending balance at December 31, 2022 because of the adoption of the new accounting standard related to loan modifications to borrowers experiencing financial difficulties. 2 Ratios are annualized for the periods presented except for the period representing the full twelve months. The total ACL increased to $678 million, from $636 million, during the first three months of 2023, primarily due to deterioration in economic forecasts and growth in the loan portfolio. See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. 27 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. Because we engage in transactions involving various financial products, we are exposed to both interest rate risk and market risk. For a more comprehensive discussion of our interest rate and market risk management, see the “Interest Rate and Market Risk Management” section in our 2022 Form 10-K. Interest Rate Risk We strive to position the Bank for interest rate changes and manage the balance sheet sensitivity to reduce the volatility of both net interest income and economic value of equity. We generally have granular deposit funding. Much of this funding has an indeterminate life with no maturity and can be withdrawn at any time. Because most deposits come from household and business accounts, their duration is generally longer than the duration of our loan portfolio. As such, we are naturally “asset-sensitive” — meaning that our assets are expected to reprice faster or more significantly than our liabilities. In previous interest rate environments, we have added (1) interest rate swaps to synthetically increase the duration of the loan portfolio, (2) longer-duration securities, and (3) longer-duration loans to reduce the asset sensitivity to a level where an increase in interest rates of 100 bps would result in a positive change in net interest income. Asset sensitivity measures depend upon the assumptions we use for deposit runoff and repricing behavior. As interest rates rise, we expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. Our models are particularly sensitive to the assumption about the rate of such migration. We also assume a correlation, referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-bearing checking accounts are assumed to have a lower correlation. We anticipate that changes in deposit rates will lag changes in reference rates. Our modeled cost of total deposits for March 2024 is approximately 1.31% without the effect of any additional Federal Reserve (“FRB”) rate hikes. Additional rate hikes would be expected to result in further increases to the cost of total deposits. Actual results may differ materially due to various factors, including the shape of the yield curve, competitive pricing, money supply, our credit worthiness, etc. We use our historical experience as well as industry data to inform our assumptions. The migration and correlation assumptions previously discussed result in deposit durations presented in the following schedu DEPOSIT ASSUMPTIONS March 31, 2023 December 31, 2022 Product Effective duration (unchanged) Effective duration (+200 bps) Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 3.5 % 3.6 % 3.6 % 3.5 % Money market 2.5 % 2.2 % 2.3 % 2.0 % Savings and interest-bearing checking 3.2 % 2.7 % 3.1 % 2.8 % As the more rate-sensitive deposits have runoff, the effective duration of deposits has lengthened due to the remaining deposits that are assumed to be less rate sensitive. As noted previously, we utilize derivatives to manage interest rate risk. The following schedule presents derivatives that are designated in qualifying hedging relationships at March 31, 2023. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each 28 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES category of cash flow and fair value hedge. See Note 7 of the Notes to Consolidated Financial Statements for additional information regarding the impact of these hedging relationships on interest income and expense. DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2023 2024 2025 2Q25 - 1Q26 2Q26 - 1Q27 (Dollar amounts in millions) Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Cash flow hedges Cash flow asset hedges 1, 4 Average outstanding notional $ 4,433 $ 4,133 $ 3,833 $ 3,400 $ 3,066 $ 2,633 $ 2,133 $ 1,450 $ 558 $ 108 Weighted-average fixed-rate received 1.92 % 1.87 % 1.75 % 1.59 % 1.50 % 1.36 % 1.27 % 1.39 % 1.73 % 1.65 % 2023 4 2024 2025 2026 2027 2028 2029 2030 2031 2032 Fair value hedges Fair value debt hedges 2 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — $ — Weighted-average fixed-rate received 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % — % — % — % Fair value asset hedges 3 Average outstanding notional $ 827 $ 1,099 $ 1,212 $ 1,217 $ 1,213 $ 1,208 $ 1,203 $ 1,198 $ 1,192 $ 1,156 Weighted-average fixed-rate paid 1.65 % 1.71 % 1.74 % 1.74 % 1.74 % 1.73 % 1.73 % 1.73 % 1.73 % 1.72 % 1 Cash flow hedges consist of receive-fixed swaps hedging pools of floating-rate loans. 2 Fair value debt hedges consist of receive-fixed swaps hedging fixed-rate debt. The $500 million fair value debt hedge matures at the end of July 2029. Amounts for 2029 have not been prorated to reflect this hedge maturing during the year. 3 Fair value assets hedges consist of pay-fixed swaps hedging AFS fixed-rate securities. Increases in average outstanding notional amounts are due to forward-starting interest rate swaps. 4 The cash flow portfolio fully matures in February 2027. Amounts for 2027 have not been prorated to reflect this hedge maturing during the period. Incorporating the deposit assumptions and the impact of derivatives in qualifying hedging relationships previously discussed, the following schedule presents earnings at risk (“EaR”), or the percentage change in 12-month forward-looking net interest income, and our estimated percentage change in economic value of equity (“EVE”). Both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY March 31, 2023 December 31, 2022 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Earnings at Risk (EaR) (3.4) % — % 3.3 % 6.5 % 9.7 % (2.4) % — % 2.4 % 4.8 % 7.1 % Economic Value of Equity (EVE) 1.8 % — % (1.2) % (2.4) % (3.8) % 2.0 % — % (1.1) % (2.3) % (3.7) % 1 Assumes rates cannot go below zero in the negative rate shift. The asset sensitivity, as measured by EaR, increased during the first quarter of 2023, primarily due to a decrease in receive-fixed-rate swap notional, partially offset by deposit runoff. For interest-bearing deposits with indeterminate maturities, the weighted average modeled beta is 27%. If the weighted average deposit beta were to increase to 38%, the EaR in the +100 bps rate shock would change from 3.3% to 2.0%. 29 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The EaR analysis focuses on parallel rate shocks across the term structure of benchmark interest rates. In a non-parallel rate scenario where the overnight rate increases 200 bps, but the ten-year rate increases only 30 bps, the increase in EaR is modeled to be approximately two-thirds of the change associated with the parallel +200 bps rate change. EaR has inherent limitations in describing expected changes in net interest income in rapidly changing interest rate environments due to a lag in asset and liability repricing behavior. As such, we expect net interest income to change due to “latent” and “emergent” interest rate sensitivity. Unlike EaR, which measures net interest income over 12 months, latent and emergent interest rate sensitivity explains changes in current quarter net interest income, compared with expected net interest income in the same quarter one year forward. Latent interest rate sensitivity refers to future changes in net interest income based upon past rate movements that have yet to be fully recognized in revenue but will be recognized over the near term. We expect latent sensitivity to reduce net interest income by approximately 7% in the first quarter of 2024, compared with the first quarter of 2023. Emergent interest rate sensitivity refers to future changes in net interest income based upon future interest rate movements and is measured from the latent level of net interest income. If interest rates rise consistent with the forward curve at March 31, 2023, we expect emergent sensitivity to reduce net interest income by approximately 1% from the latent sensitivity level, for a cumulative 8% reduction in net interest income. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At March 31, 2023, $25.6 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. Of these variable-rate loans, approximately 96% are tied to either the prime rate, London Interbank Offered Rate (“LIBOR”), Secured Overnight Financing Rate (“SOFR”), American Interbank Offered Rate (“AMERIBOR”), or Bloomberg Short-term Bank Yield (“BSBY”). For these variable-rate loans, we have executed $4.4 billion of cash flow hedges by receiving fixed rates on interest rate swaps. At March 31, 2023, we also had $3.6 billion of variable-rate consumer loans scheduled to reprice in the next six months. The impact on asset sensitivity from commercial or consumer loans with floors has become insignificant as rates have risen. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. LIBOR Transition LIBOR is being phased out globally, and banks are required to migrate to alternative reference rates no later than June 2023. To facilitate the transition process, we instituted an orderly enterprise-wide program to identify, assess, and monitor risks associated with the expected discontinuance or unavailability of LIBOR. This program included active engagement or involvement of senior management, the Enterprise Risk Management Committee, industry working groups, and our regulators. We have implemented processes, procedures, and systems to ensure contract risk is sufficiently mitigated. New originations, and any modifications or renewals of LIBOR-based contracts, contain fallback language to facilitate transition to an alternative reference rate. For our contracts that referenced LIBOR and had a duration beyond June 2023, all fallback provisions and variations were identified and classified based upon those provisions. At March 31, 2023, we had approximately $10.5 billion in loans (mainly commercial loans), unfunded lending commitments, and securities referencing LIBOR. The amount of borrowed funds referencing LIBOR at March 31, 2023 was less than $1 billion. These amounts exclude derivative assets and liabilities on the consolidated balance sheet. At March 31, 2023, the notional amount of our LIBOR-referenced interest rate derivative contracts was $6.5 billion, of which nearly all related to contracts with central counterparty clearinghouses. We expect the swap central counterparty clearinghouses, LCH.Clearnet Limited and CME Clearing House, to transition all of our USD LIBOR swaps to SOFR during the second quarter of 2023. We support our customers’ needs by accommodating various alternative reference rates, including primarily the Constant Maturity Treasury (“CMT”) rate, the FHLB rate, SOFR, BSBY, and the prime rate. At March 31, 2023, as a result of our efforts, more than 70% of our loans referencing LIBOR have moved to an alternative rate index, and 30 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES a significant number of customers had voluntarily migrated to an alternative rate index. We expect that most of the remaining customers will move to an alternative rate index in accordance with the relevant fallback provisions in their contracts prior to June 2023. A limited number of customers will be notified of the activation of their fallback language prior to June 2023, with transition to an alternative rate index occurring upon their next scheduled rate reset subsequent to June 2023. Under the Adjustable Interest Rate (LIBOR) Act of 2022, the FRB identified benchmark replacement rates for LIBOR contracts lacking fallback provisions with a clearly defined or practical replacement benchmark rate. Where applicable, these replacement rates will be used. For more information on the transition from LIBOR, see Risk Factors in our 2022 Form 10-K. Market Risk – Fixed Income We underwrite municipal and corporate securities. We also trade municipal, agency, and treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. At March 31, 2023 and December 31, 2022, we had $12 million and $465 million of trading assets, and $281 million and $187 million of securities sold, not yet purchased, respectively. We are exposed to market risk through changes in fair value. This includes market risk for interest rate swaps used to hedge interest rate risk. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in accumulated other comprehensive income (“AOCI”) for each financial reporting period. The after-tax change in AOCI attributable to AFS securities increased $126 million for the three months ended March 31, 2023, due largely to increases in benchmark interest rates. See Note 5 of the Notes to Consolidated Financial Statements for further information regarding the accounting for investment securities. We believe our funding advantage is more pronounced in a rising interest rate environment, creating meaningful economic value that is not fully reflected on our balance sheet since deposits and related intangible assets are not recorded at fair value for accounting purposes. Market Risk – Equity Investments Through our equity investment activities, we own equity securities that are publicly traded. In addition, we own equity securities in governmental entities and companies, e.g., FRB and the FHLB, that are not publicly traded. Equity investments may be accounted for at cost less impairment and adjusted for observable price changes, fair value, the equity method, or full consolidation methods of accounting, depending on our ownership position and degree of influence over the investees’ business. Regardless of the accounting method, the values of our investments are subject to fluctuation. Because the fair value of these securities may fall below the cost at which we acquired them, we are exposed to the possibility of loss. Equity investments in private and public companies are evaluated, monitored, and approved by members of management in our Equity Investments Committee and Securities Valuation Committee. We hold both direct and indirect investments in predominantly pre-public companies, primarily through various SBIC venture capital funds as a strategy to provide beneficial financing, growth, and expansion opportunities to diverse businesses generally in communities within our geographic footprint. Our equity exposure to these investments was approximately $174 million and $172 million at March 31, 2023 and December 31, 2022, respectively. On occasion, some of the companies within our SBIC investment may issue an initial public offering (“IPO”). In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce additional market risk. See Note 3 of the Notes to Consolidated Financial Statements for additional information regarding the valuation of our SBIC investments. Liquidity Risk Management Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. We manage our 31 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES liquidity to provide funds for our customers’ credit needs, our anticipated financial and contractual obligations, and other corporate activities. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as loans and investment securities. Our investment securities are primarily held as a source of contingent liquidity. We primarily own securities that can readily provide us cash and liquidity through secured borrowing agreements with securities pledged as collateral. We maintain and regularly test a contingency funding plan to identify sources and uses of liquidity. Additionally, we have a Board-approved liquidity policy that requires us to monitor and maintain adequate liquidity, diversify funding positions, and anticipate future funding needs. In accordance with this policy, we monitor our liquidity positions by conducting various stress tests and evaluating certain liquid asset measurements, such as a 30-day liquidity coverage ratio. We perform regular liquidity stress tests and assess our portfolio of highly liquid assets (sufficient to cover 30-day funding needs under stress scenarios). These stress tests include projections of funding maturities, uses of funds, and assumptions of deposit runoff. These assumptions consider the size of deposit account, operational nature of deposits, type of depositor, and concentrations of funding sources including large depositors and aggregate levels of uncollateralized deposits exceeding insured levels. Concentrated funding sources are given large runoff factors up to 100% in projecting stressed funding needs. Our liquidity stress testing considers multiple timeframes ranging from overnight to 12 months. Our liquidity policy requires us to maintain sufficient on-balance sheet liquidity in the form of FRB reserve balance and other highly liquid assets to meet stressed outflow assumptions. We have a dedicated funding desk that monitors real-time inflows and outflows of our FRB account, and we have tools, including ready access to repo markets and FHLB advances, to manage intraday liquidity. FHLB borrowings are “open-term,” allowing us the ability to retain or return funds based on our liquidity needs. We pledge a large portion of our highly liquid investment securities portfolio through the General Collateral Funding (“GCF”) repo program. Through this program, high-quality collateral is pledged and program participants exchange funds anonymously, which allows for near instant access to funding during market hours. Additionally, we have pledged collateral to the FRB’s primary credit facility (or discount window) and the Bank Term Funding Program (“BTFP”), which provide additional contingent funding sources outside the normal operating hours of the FHLB and the GCF program. The BTFP offers loans of up to one year in length to eligible depository institutions pledging U.S. Treasuries, agency debt and government mortgage-backed securities, and other qualifying assets as collateral. Unlike other funding sources, borrowing capacity under the BTFP is based on the par value, not the fair value, of collateral. During the first quarter of 2023, we did not access the discount window or BTFP, except for an operational test of the BTFP consisting of a $1 million overnight advance. For more information on our liquidity risk management practices, see “Liquidity Risk Management” in our 2022 Form 10-K. For the first three months of 2023, the primary sources of cash came from an increase in short-term borrowings, a decrease in money market investments, a decrease in investment securities, and net cash provided by operating activities. Uses of cash during the same period included primarily an increase in loans and leases, dividends paid on common and preferred stock, and the repurchase of bank common stock. Cash payments for interest reflected in operating expenses were $224 million and $11 million for the first three months of 2023 and 2022, respectively. The FHLB and FRB have been, and continue to be, a significant source of back-up liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and FRB stock to maintain our borrowing capacity. At March 31, 2023, our total investment in FHLB and FRB stock was $330 million and $66 million, respectively, compared with $294 million and $68 million at December 31, 2022. At March 31, 2023, loans with a carrying value of $24.2 billion and $6.0 billion, compared with $23.7 billion and $3.9 billion at December 31, 2022, were pledged at the FHLB and FRB, respectively, as collateral for current and potential borrowings. In April 2023, an additional $9.4 billion of loans were pledged at the FRB as collateral for potential borrowings, resulting in additional borrowing capacity of approximately $7.8 billion. 32 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At March 31, 2023 and December 31, 2022, investment securities with a carrying value of $22.0 billion and $13.5 billion, respectively, were pledged as collateral for potential borrowings. For the same time periods, these pledges included $10.4 billion and $8.3 billion for available use through the GCF repo program, $7.6 billion and $1.0 billion to the FRB, and $4.0 billion and $4.2 billion to secure collateralized public and trust deposits, advances, and for other purposes. A large portion of these pledged assets are unencumbered, but are pledged to provide immediate access to contingency sources of funds. The following schedule presents our total available liquidity including unused collateralized borrowing capacity. AVAILABLE LIQUIDITY March 31, 2023 December 31, 2022 (In billions) FHLB FRB GCF BTFP Total FHLB FRB GCF BTFP Total Total borrowing capacity $ 16.4 $ 6.1 $ 10.6 $ 7.3 $ 40.4 $ 16.6 $ 4.0 $ 8.4 $ — $ 29.0 Borrowings outstanding 8.1 — 3.3 — 11.4 7.2 — 2.7 — 9.9 Remaining capacity, at period end $ 8.3 $ 6.1 $ 7.3 $ 7.3 $ 29.0 $ 9.4 $ 4.0 $ 5.7 $ — $ 19.1 Cash and due from banks 0.6 0.7 Interest-bearing deposits 1 2.7 1.3 Total available liquidity $ 32.3 $ 21.1 1 Represents funds deposited by the Bank primarily at the Federal Reserve Bank. At March 31, 2023 and December 31, 2022, our total available liquidity was $32.3 billion, compared with $21.1 billion, respectively. At March 31, 2023, we had sources of liquidity which exceeded our uninsured deposits without the need to sell any investment securities. General financial market and economic conditions also impact our access to, and cost of, external financing. Access to funding markets is also directly affected by the credit ratings we receive from various rating agencies. The ratings not only influence the costs associated with borrowings, but can also influence the sources of the borrowings. All of the credit rating agencies rate our debt at an investment-grade level. In April 2023, as a result of broader uncertainty in the banking industry, Moody's downgraded our long-term issuer rating to Baa2 from Baa1, our short-term debt rating to P2 from P1, and changed their outlook on our long-term deposit and issuer ratings to “stable” from “ratings under review.” The following schedule presents our current credit ratings. CREDIT RATINGS as of April 30, 2023: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Stable BBB+ BBB NR Fitch Stable BBB+ BBB F1 Moody's Stable Baa2 NR P2 We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. 33 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Capital Management A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. We have fundamental financial objectives and policies to consistently improve risk-adjusted returns on our shareholders’ capital, including (1) maintaining sufficient capital to support the current needs and growth of our businesses, and (2) fulfilling responsibilities to depositors and bondholders while managing capital distributions to shareholders through dividends and repurchases of common stock. We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the FRB. The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as Board and Office of the Comptroller of the Currency (“OCC”) approval. Shares may be repurchased occasionally in the open market or through privately negotiated transactions. For a more comprehensive discussion of our capital risk management, see “Capital Management” in our 2022 Form 10-K. SHAREHOLDERS' EQUITY (Dollar amounts in millions) March 31, 2023 December 31, 2022 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 440 $ — — % Common stock and additional paid-in capital 1,715 1,754 (39) (2) Retained earnings 5,949 5,811 138 2 Accumulated other comprehensive loss (2,920) (3,112) 192 6 Total shareholders' equity $ 5,184 $ 4,893 $ 291 6 % Total shareholders’ equity increased $291 million, or 6%, to $5.2 billion at March 31, 2023, compared with $4.9 billion at December 31, 2022. Common stock and additional paid-in capital decreased $39 million, primarily due to common stock repurchases. AOCI was $2.9 billion at March 31, 2023, and reflects the decline in the fair value of fixed-rate available-for-sale securities as a result of changes in interest rates. Absent any sales or credit impairment of these securities, the unrealized losses will not be recognized in earnings. We do not intend to sell any securities with unrealized losses. Although changes in AOCI are reflected in shareholders’ equity, they are excluded from regulatory capital, and therefore do not impact our regulatory ratios. We excluded the effect of AOCI to align with its impact on certain incentive compensation plans that utilize return on tangible common equity as a performance metric. See “Non-GAAP Financial Measures” on page 36 for further information. For more discussion on our investment securities portfolio and related unrealized gains and losses, see Note 5 of the Notes to Consolidated Financial Statements. Common shares outstanding decreased 0.6 million during the first three months of 2023, primarily due to common stock repurchases. During the first quarter of 2023, we repurchased 0.9 million common shares outstanding for $50 million. As the macroeconomic environment has become more uncertain, we do not expect to repurchase common shares during the second quarter of 2023. 34 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CAPITAL DISTRIBUTIONS Three Months Ended March 31, (In millions, except share data) 2023 2022 Capital distributio Preferred dividends paid $ 6 $ 8 Total capital distributed to preferred shareholders 6 8 Common dividends paid 61 58 Bank common stock repurchased 1 50 51 Total capital distributed to common shareholders 111 109 Total capital distributed to preferred and common shareholders $ 117 $ 117 Weighted average diluted common shares outstanding (in thousands) 148,038 151,687 Common shares outstanding, at period end (in thousands) 148,100 151,348 1 Includes amounts related to the common shares acquired from our publicly announced plans and those acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. Under the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. At March 31, 2023, we had $1.6 billion of retained net profits available for distribution. During the first quarter of 2023, we paid dividends on preferred stock of $6 million and dividends on common stock of $61 million, or $0.41 per share. In May 2023, the Board declared a regular quarterly dividend of $0.41 per common share, payable on May 25, 2023 to shareholders of record on May 18, 2023. See Note 9 of the Notes to Consolidated Financial Statements for additional information about our capital management actions. Basel III We are subject to Basel III capital requirements that include certain minimum regulatory capital ratios. At March 31, 2023, we exceeded all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. See the “Supervision and Regulation” section and Note 15 of our 2022 Form 10-K for more information about our compliance with the Basel III capital requirements. The following schedule presents our capital amounts, capital ratios, and other selected performance ratios. CAPITAL AMOUNTS AND RATIOS (Dollar amounts in millions) March 31, 2023 December 31, 2022 March 31, 2022 Basel III risk-based capital amounts: Common equity tier 1 capital $ 6,582 $ 6,481 $ 6,166 Tier 1 risk-based 7,022 6,921 6,605 Total risk-based 8,232 8,077 7,677 Risk-weighted assets 66,274 66,111 61,427 Basel III risk-based capital ratios: Common equity tier 1 capital ratio 9.9 % 9.8 % 10.0 % Tier 1 risk-based ratio 10.6 10.5 10.8 Total risk-based ratio 12.4 12.2 12.5 Tier 1 leverage ratio 7.8 7.7 7.3 Other ratios: Average equity to average assets (three months ended) 5.6 % 5.4 % 7.8 % Return on average common equity (three months ended) 17.4 25.4 11.8 Return on average tangible common equity (three months ended) 1 12.3 16.9 12.9 Tangible equity ratio 1 7.8 7.6 7.2 Tangible common equity ratio 1 7.3 7.1 6.8 1 See “ Non-GAAP Financial Measures ” on page 36 for more information regarding these ratios. 35 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NON-GAAP FINANCIAL MEASURES This Form 10-Q presents non-GAAP financial measures, in addition to GAAP financial measures. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results and provide a meaningful basis for period-to-period comparisons. We use these non-GAAP financial measures to assess our performance and financial position. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by our management and the financial services industry. Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar financial measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under GAAP. Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets and their related amortization and AOCI. We excluded the effect of AOCI to align with its impact on certain incentive compensation plans that utilize return on tangible common equity as a performance metric. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a business more consistently, whether acquired or developed internally. RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Three Months Ended (Dollar amounts in millions) March 31, 2023 December 31, 2022 March 31, 2022 Net earnings applicable to common shareholders (GAAP) (a) $ 198 $ 277 $ 195 Adjustment, net of t Amortization of core deposit and other intangibles 1 — — Net earnings applicable to common shareholders, net of tax (a) $ 199 $ 277 $ 195 Average common equity (GAAP) $ 4,614 $ 4,330 $ 6,700 Average goodwill and intangibles (1,064) (1,036) (1,015) Average accumulated other comprehensive loss (income) 3,030 3,192 452 Average tangible common equity (non-GAAP) (b) $ 6,580 $ 6,486 $ 6,137 Number of days in quarter (c) 90 92 90 Number of days in year (d) 365 365 365 Return on average tangible common equity (non-GAAP) (a/b/c)*d 12.3 % 16.9 % 12.9 % 36 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) March 31, 2023 December 31, 2022 March 31, 2022 Total shareholders’ equity (GAAP) $ 5,184 $ 4,893 $ 6,294 Goodwill and intangibles (1,063) (1,065) (1,015) Accumulated other comprehensive loss (income) 2,920 3,112 1,346 Tangible equity (non-GAAP) (a) 7,041 6,940 6,625 Preferred stock (440) (440) (440) Tangible common equity (non-GAAP) (b) $ 6,601 $ 6,500 $ 6,185 Total assets (GAAP) $ 88,573 $ 89,545 $ 91,126 Goodwill and intangibles (1,063) (1,065) (1,015) Accumulated other comprehensive loss (income) 2,920 3,112 1,346 Tangible assets (non-GAAP) (c) $ 90,430 $ 91,592 $ 91,457 Common shares outstanding (in thousands) (d) 148,100 148,664 151,348 Tangible equity ratio (non-GAAP) (a/c) 7.8 % 7.6 % 7.2 % Tangible common equity ratio (non-GAAP) (b/c) 7.3 % 7.1 % 6.8 % Tangible book value per common share (non-GAAP) (b/d) $ 44.57 $ 43.72 $ 40.87 Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allow for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how we are managing our expenses. Adjusted pre-provision net revenue enables management and others to assess our ability to generate capital. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. 37 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) Three Months Ended Year Ended (Dollar amounts in millions) March 31, 2023 December 31, 2022 March 31, 2022 December 31, 2022 Noninterest expense (GAAP) (a) $ 512 $ 471 $ 464 $ 1,878 Adjustments: Severance costs 1 — — 1 Other real estate expense, net — — 1 1 Amortization of core deposit and other intangibles 2 — — 1 Pension termination-related (income) expense 1 — — — — SBIC investment success fee accrual 2 — (1) (1) (1) Total adjustments (b) 3 (1) — 2 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 509 $ 472 $ 464 $ 1,876 Net interest income (GAAP) (d) $ 679 $ 720 $ 544 $ 2,520 Fully taxable-equivalent adjustments (e) 9 10 8 37 Taxable-equivalent net interest income (non-GAAP) (d+e)=f 688 730 552 2,557 Noninterest income (GAAP) g 160 153 142 632 Combined income (non-GAAP) (f+g)=(h) 848 883 694 3,189 Adjustments: Fair value and nonhedge derivative gains (3) (4) 6 16 Securities gains (losses), net 2 1 (5) (17) (15) Total adjustments (i) (2) (9) (11) 1 Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 850 $ 892 $ 705 $ 3,188 Pre-provision net revenue (non-GAAP) (h)-(a) $ 336 $ 412 $ 230 $ 1,311 Adjusted PPNR (non-GAAP) (j)-(c) 341 420 241 1,312 Efficiency ratio (non-GAAP) (c/j) 59.9 % 52.9 % 65.8 % 58.8 % 1 Represents a valuation adjustment related to the termination of our defined benefit pension plan. 2 The success fee accrual is associated with the gains and losses from our SBIC investments, which are excluded from the efficiency ratio through securities gains (losses), net. 38 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 1. FINANCIAL STATEMENTS (Unaudited) CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) March 31, 2023 December 31, 2022 (Unaudited) ASSETS Cash and due from banks $ 607 $ 657 Money market investments: Interest-bearing deposits 2,727 1,340 Federal funds sold and securities purchased under agreements to resell 688 2,426 Investment securiti Held-to-maturity, at amortized cost ($ 11,210 and $ 11,239 at fair value ) 10,961 11,126 Available-for-sale, at fair value 11,594 11,915 Trading, at fair value 12 465 Total investment securities 22,567 23,506 Loans held for sale 5 8 Loans and leases, net of unearned income and fees 56,331 55,653 Less allowance for loan and lease losses 618 575 Loans held for investment, net of allowance 55,713 55,078 Other noninterest-bearing investments 1,169 1,130 Premises, equipment and software, net 1,411 1,408 Goodwill and intangibles 1,063 1,065 Other real estate owned 6 3 Other assets 2,617 2,924 Total assets $ 88,573 $ 89,545 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 30,974 $ 35,777 Interest-bearin Savings and money market 30,897 33,566 Time 7,337 2,309 Total deposits 69,208 71,652 Federal funds and other short-term borrowings 12,124 10,417 Long-term debt 663 651 Reserve for unfunded lending commitments 60 61 Other liabilities 1,334 1,871 Total liabilities 83,389 84,652 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 440 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 148,100 and 148,664 shares) and additional paid-in capital 1,715 1,754 Retained earnings 5,949 5,811 Accumulated other comprehensive income (loss) ( 2,920 ) ( 3,112 ) Total shareholders’ equity 5,184 4,893 Total liabilities and shareholders’ equity $ 88,573 $ 89,545 See accompanying notes to consolidated financial statements. 39 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Unaudited) Three Months Ended March 31, (In millions, except shares and per share amounts) 2023 2022 Interest income: Interest and fees on loans $ 726 $ 437 Interest on money market investments 57 6 Interest on securities 137 112 Total interest income 920 555 Interest expense: Interest on deposits 82 6 Interest on short- and long-term borrowings 159 5 Total interest expense 241 11 Net interest income 679 544 Provision for credit loss Provision for loan and lease losses 46 ( 29 ) Provision for unfunded lending commitments ( 1 ) ( 4 ) Total provision for credit losses 45 ( 33 ) Net interest income after provision for credit losses 634 577 Noninterest income: Commercial account fees 43 41 Card fees 24 25 Retail and business banking fees 16 20 Loan-related fees and income 21 22 Capital markets fees 17 15 Wealth management fees 15 14 Other customer-related fees 15 14 Customer-related noninterest income 151 151 Fair value and nonhedge derivative income ( 3 ) 6 Dividends and other income (loss) 11 2 Securities gains (losses), net 1 ( 17 ) Total noninterest income 160 142 Noninterest expense: Salaries and employee benefits 339 312 Technology, telecom, and information processing 55 52 Occupancy and equipment, net 40 38 Professional and legal services 13 14 Marketing and business development 12 8 Deposit insurance and regulatory expense 18 10 Credit-related expense 6 7 Other real estate expense, net — 1 Other 29 22 Total noninterest expense 512 464 Income before income taxes 282 255 Income taxes 78 52 Net income 204 203 Preferred stock dividends ( 6 ) ( 8 ) Net earnings applicable to common shareholders $ 198 $ 195 Weighted average common shares outstanding during the perio Basic shares (in thousands) 148,015 151,285 Diluted shares (in thousands) 148,038 151,687 Net earnings per common sh Basic $ 1.33 $ 1.27 Diluted 1.33 1.27 See accompanying notes to consolidated financial statements. 40 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Unaudited) Three Months Ended March 31, (In millions) 2023 2022 Net income for the period $ 204 $ 203 Other comprehensive income (loss), net of t Net unrealized holding gains (losses) on investment securities 126 ( 1,121 ) Net unrealized holding gains (losses) on derivative instruments 29 ( 135 ) Reclassification adjustment for decrease (increase) in interest income recognized in earnings on derivative instruments 37 ( 10 ) Total other comprehensive income (loss), net of tax 192 ( 1,266 ) Comprehensive income (loss) $ 396 $ ( 1,063 ) See accompanying notes to consolidated financial statements. CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited) (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2022 $ 440 148,664 $ — $ 1,754 $ 5,811 $ ( 3,112 ) $ 4,893 Net income for the period 204 204 Other comprehensive income, net of tax 192 192 Cumulative effect adjustment, due to adoption of ASU 2022-02, net of tax 2 2 Bank common stock repurchased ( 953 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 389 11 11 Dividends on preferred stock ( 6 ) ( 6 ) Dividends on common stock, $ 0.41 per share ( 61 ) ( 61 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at March 31, 2023 $ 440 148,100 $ — $ 1,715 $ 5,949 $ ( 2,920 ) $ 5,184 Balance at December 31, 2021 $ 440 151,625 $ — $ 1,928 $ 5,175 $ ( 80 ) $ 7,463 Net income for the period 203 203 Other comprehensive loss, net of tax ( 1,266 ) ( 1,266 ) Bank common stock repurchased ( 778 ) ( 51 ) ( 51 ) Net activity under employee plans and related tax benefits 501 12 12 Dividends on preferred stock ( 8 ) ( 8 ) Dividends on common stock, $ 0.38 per share ( 58 ) ( 58 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at March 31, 2022 $ 440 151,348 $ — $ 1,889 $ 5,311 $ ( 1,346 ) $ 6,294 41 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In millions) Three Months Ended March 31, 2023 2022 CASH FLOWS FROM OPERATING ACTIVITIES Net income for the period $ 204 $ 203 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses 45 ( 33 ) Depreciation and amortization 36 19 Share-based compensation 17 17 Deferred income tax expense 6 39 Net decrease (increase) in trading securities 77 ( 10 ) Net decrease in loans held for sale 7 29 Change in other liabilities ( 529 ) 127 Change in other assets 362 ( 116 ) Other, net ( 4 ) 13 Net cash provided by operating activities 221 288 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease in money market investments 727 4,979 Proceeds from maturities and paydowns of investment securities held-to-maturity 237 20 Purchases of investment securities held-to-maturity ( 10 ) ( 17 ) Proceeds from sales, maturities, and paydowns of investment securities available-for-sale 583 1,018 Purchases of investment securities available-for-sale ( 138 ) ( 4,673 ) Net change in loans and leases ( 738 ) ( 355 ) Purchases and sales of other noninterest-bearing investments ( 37 ) 8 Purchases of premises and equipment ( 31 ) ( 53 ) Other, net ( 2 ) 4 Net cash provided by investing activities 591 931 CASH FLOWS FROM FINANCING ACTIVITIES Net decrease in deposits ( 2,445 ) ( 439 ) Net change in short-term funds borrowed 1,707 ( 264 ) Redemption of long-term debt — ( 290 ) Proceeds from the issuance of common stock 2 6 Dividends paid on common and preferred stock ( 69 ) ( 66 ) Bank common stock repurchased ( 50 ) ( 51 ) Other, net ( 7 ) ( 10 ) Net cash used in financing activities ( 862 ) ( 1,114 ) Net increase (decrease) in cash and due from banks ( 50 ) 105 Cash and due from banks at beginning of period 657 595 Cash and due from banks at end of period $ 607 $ 700 Cash paid for interest $ 224 $ 11 Net refunds received for income taxes — ( 1 ) Noncash activiti Loans held for investment reclassified to loans held for sale, net 47 34 See accompanying notes to consolidated financial statements. 42 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) March 31, 2023 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Zions Bancorporation, National Association and its majority-owned subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). The results of operations for the three months ended March 31, 2023 and 2022 are not necessarily indicative of the results that may be expected in future periods. In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. For further information, refer to the consolidated financial statements and accompanying footnotes included in our 2022 Form 10-K. We evaluated events that occurred between March 31, 2023 and the date the accompanying financial statements were issued, and determined that there were no material events that would require adjustments to our consolidated financial statements or significant disclosure in the accompanying Notes. As referenced in Note 6 of the Notes to Consolidated Financial Statements, an additional $ 9.4 billion of loans were pledged as collateral for potential borrowings in April 2023. Zions Bancorporation, N.A. is a commercial bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These include Zions Bank, in Utah, Idaho, and Wyoming; California Bank & Trust (“CB&T”); Amegy Bank (“Amegy”), in Texas; National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”), in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under the name The Commerce Bank of Oregon in Oregon. 43 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 2. RECENT ACCOUNTING PRONOUNCEMENTS Standard Description Date of adoption Effect on the financial statements or other significant matters Standards not yet adopted by the Bank ASU 2023-02, Investments—Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Tax Credit Structures Using the Proportional Amortization Method (a consensus of the Emerging Issues Task Force) This Accounting Standards Update (“ASU”) expands the optional use of the proportional amortization method (“PAM”), previously limited to investments in low-income housing tax credit (“LIHTC”) structures, to any eligible equity investments made primarily for the purpose of receiving income tax credit and other tax benefits when certain criteria are met. PAM results in the cost of the investment being amortized in proportion to the income tax credits and other income tax benefits received, with the amortization of the investment and the income tax credits being presented net in the income statement as a component of income tax expense (benefit). This ASU allows for an accounting policy election to apply PAM on a tax-credit-program-by-tax-credit-program basis. The ASU also includes additional disclosure requirements about equity investments accounted for using PAM. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 We do not currently have any additional equity investments that are eligible for PAM under the provisions of this ASU. We will continue to evaluate its use for new investments. The overall effect of the guidance is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. ASU 2022-03, Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions This ASU clarifies that contractual restrictions prohibiting the sale of an equity security are not considered part of the unit of account of the equity security, and therefore, are not considered in measuring fair value. The amendments clarify that an entity cannot recognize and measure a contractual sale restriction as a separate unit of account. The amendments in this ASU also require additional qualitative and quantitative disclosures for equity securities subject to contractual sale restrictions. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 The requirements of this ASU are consistent with our current treatment of equity securities subject to contractual sale restrictions and are not expected to impact the fair value measurements of these securities. We are evaluating supplementary disclosure requirements and additional data needed to meet these requirements. The overall effect of this standard is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. Standards adopted by the Bank during the period ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures This ASU eliminates the recognition and measurement requirements for troubled debt restructurings (“TDRs”) for creditors that have adopted ASC 326 (“CECL”), and eliminates certain TDR disclosures while requiring enhanced disclosures about loan modifications for borrowers experiencing financial difficulty. The new standard also requires public companies to present current period gross charge-offs (on a current year-to-date basis for interim-period disclosures) by year of origination in their vintage disclosures. Periods beginning after December 15, 2022 We adopted this ASU on January 1, 2023. It did not have a material impact on our financial statements. 44 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 3. FAIR VALUE Fair Value Measurements Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. For more information about our valuation methodologies for assets and liabilities measured at fair value and the fair value hierarchy, see Note 3 of our 2022 Form 10-K. Quantitative Disclosure by Fair Value Hierarchy Assets and liabilities measured at fair value by class on a recurring basis are summarized as follows: (In millions) March 31, 2023 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 511 $ 9,612 $ — $ 10,123 Municipal securities 1,447 1,447 Other debt securities 24 24 Total available-for-sale 511 11,083 — 11,594 Trading securities 12 12 Other noninterest-bearing investments: Bank-owned life insurance 547 547 Private equity investments 1 3 82 85 Other assets: Agriculture loan servicing and interest-only strips 18 18 Deferred compensation plan assets 109 109 Derivatives 369 369 Total assets $ 623 $ 12,011 $ 100 $ 12,734 LIABILITIES Securities sold, not yet purchased $ 281 $ — $ — $ 281 Other liabiliti Derivatives 353 353 Total liabilities $ 281 $ 353 $ — $ 634 1 The Level 1 private equity investments (“PEIs”) relate to the portion of our Small Business Investment Company (“SBIC”) investments that are publicly traded. 45 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) December 31, 2022 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 393 $ 9,815 $ — $ 10,208 Municipal securities 1,634 1,634 Other debt securities 73 73 Total available-for-sale 393 11,522 — 11,915 Trading securities 395 70 465 Other noninterest-bearing investments: Bank-owned life insurance 546 546 Private equity investments 1 4 81 85 Other assets: Agriculture loan servicing and interest-only strips 14 14 Deferred compensation plan assets 114 114 Derivatives 386 386 Total assets $ 906 $ 12,524 $ 95 $ 13,525 LIABILITIES Securities sold, not yet purchased $ 187 $ — $ — $ 187 Other liabiliti Derivatives 451 451 Total liabilities $ 187 $ 451 $ — $ 638 1 The Level 1 PEIs relate to the portion of our SBIC investments that are publicly traded. Level 3 Valuations Our Level 3 holdings include PEIs, agriculture loan servicing, and interest-only strips. For additional information regarding our Level 3 financial instruments, including the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2022 Form 10-K. Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments Three Months Ended March 31, 2023 March 31, 2022 (In millions) Private equity investments Ag loan servicing & interest-only strips Private equity investments Ag loan servicing & interest-only strips Balance at beginning of period $ 81 $ 14 $ 66 $ 12 Unrealized securities gains (losses), net — — 5 — Other noninterest income (expense) — 4 — — Purchases 1 — 6 — Cost of investments sold — — ( 3 ) — Transfers out 1 — — — — Balance at end of period $ 82 $ 18 $ 74 $ 12 1 Represents the transfer of SBIC investments out of Level 3 and into Level 1 because they are publicly traded. 46 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The rollforward of Level 3 instruments includes the following realized gains and losses recognized in securities gains (losses) on the consolidated statement of income for the periods present (In millions) Three Months Ended March 31, 2023 March 31, 2022 Securities gains (losses), net $ — $ ( 2 ) Nonrecurring Fair Value Measurements Certain assets and liabilities may be recorded at fair value on a nonrecurring basis, including impaired loans that have been measured based on the fair value of the underlying collateral, other real estate owned (“OREO”), and equity investments without readily determinable fair values. Nonrecurring fair value adjustments generally include changes in value resulting from observable price changes for equity investments without readily determinable fair values, write-downs of individual assets, or the application of lower of cost or fair value accounting. At March 31, 2023, and December 31, 2022, we had insignificant amounts of assets or liabilities that had fair value changes measured on a nonrecurring basis. For additional information regarding the measurement of fair value for impaired loans, collateral-dependent loans, and OREO, see Note 3 of our 2022 Form 10-K. Fair Value of Certain Financial Instruments The following schedule presents the carrying values and estimated fair values of certain financial instruments: March 31, 2023 December 31, 2022 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: Held-to-maturity investment securities $ 10,961 $ 11,210 2 $ 11,126 $ 11,239 2 Loans and leases (including loans held for sale), net of allowance 55,718 53,226 3 55,086 53,093 3 Financial liabiliti Time deposits 7,337 7,319 2 2,309 2,269 2 Long-term debt 663 577 2 651 635 2 The schedule above does not include certain financial instruments that are recorded at fair value on a recurring basis, as well as certain financial assets and liabilities for which the carrying value approximates fair value. For additional information regarding the financial instruments within the scope of this disclosure, and the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2022 Form 10-K. 47 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 4. OFFSETTING ASSETS AND LIABILITIES The following schedules present gross and net information for selected financial instruments on the balance sheet. March 31, 2023 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 688 $ — $ 688 $ — $ — $ 688 Derivatives (included in other assets) 369 — 369 ( 23 ) ( 326 ) 20 Total assets $ 1,057 $ — $ 1,057 $ ( 23 ) $ ( 326 ) $ 708 Liabiliti Federal funds and other short-term borrowings $ 12,124 $ — $ 12,124 $ — $ — $ 12,124 Derivatives (included in other liabilities) 353 — 353 ( 23 ) — 330 Total liabilities $ 12,477 $ — $ 12,477 $ ( 23 ) $ — $ 12,454 December 31, 2022 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 2,451 $ ( 25 ) $ 2,426 $ — $ — $ 2,426 Derivatives (included in other assets) 386 — 386 ( 10 ) ( 367 ) 9 Total assets $ 2,837 $ ( 25 ) $ 2,812 $ ( 10 ) $ ( 367 ) $ 2,435 Liabiliti Federal funds and other short-term borrowings $ 10,442 $ ( 25 ) $ 10,417 $ — $ — $ 10,417 Derivatives (included in other liabilities) 451 — 451 ( 10 ) — 441 Total liabilities $ 10,893 $ ( 25 ) $ 10,868 $ ( 10 ) $ — $ 10,858 Security repurchase and reverse repurchase agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 5. INVESTMENTS Investment Securities Investment securities are classified as held-to-maturity (“HTM”), available-for-sale (“AFS”), or trading. HTM securities, which management has the intent and ability to hold until maturity, are carried at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. When a security is transferred from AFS to HTM, the difference between its amortized cost basis and fair value at the date of transfer is amortized as a yield adjustment through interest income, and the fair value at the date of transfer results in a discount to the amortized cost basis of the HTM securities. The amortization of the unrealized losses reported in accumulated other comprehensive income (“AOCI”) will offset the effect of the accretion of the discount in interest income that is created by the transfer. 48 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES AFS securities are carried at fair value, and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to AOCI, net of related taxes. Trading securities are carried at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 65 million and $ 75 million at March 31, 2023 and December 31, 2022, respectively. These receivables are presented on the consolidated balance sheet in “Other assets.” See Notes 3 and 5 of our 2022 Form 10-K for more information regarding our process to estimate the fair value and accounting for our investment securities, respectively. The following schedule summarizes the amortized cost and estimated fair values of our HTM and AFS securiti March 31, 2023 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 98 $ — $ 6 $ 92 Agency guaranteed mortgage-backed securities 1 10,471 281 2 10,750 Municipal securities 392 — 24 368 Total held-to-maturity 10,961 281 32 11,210 Available-for-sale U.S. Treasury securities 656 — 145 511 U.S. Government agencies and corporatio Agency securities 753 — 37 716 Agency guaranteed mortgage-backed securities 9,423 — 1,203 8,220 Small Business Administration loan-backed securities 701 1 26 676 Municipal securities 1,517 — 70 1,447 Other debt securities 25 — 1 24 Total available-for-sale 13,075 1 1,482 11,594 Total HTM and AFS investment securities $ 24,036 $ 282 $ 1,514 $ 22,804 December 31, 2022 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 100 $ — $ 7 $ 93 Agency guaranteed mortgage-backed securities 1 10,621 165 14 10,772 Municipal securities 405 — 31 374 Total held-to-maturity 11,126 165 52 11,239 Available-for-sale U.S. Treasury securities 557 — 164 393 U.S. Government agencies and corporatio Agency securities 782 — 46 736 Agency guaranteed mortgage-backed securities 9,652 — 1,285 8,367 Small Business Administration loan-backed securities 740 1 29 712 Municipal securities 1,732 1 99 1,634 Other debt securities 75 — 2 73 Total available-for-sale 13,538 2 1,625 11,915 Total HTM and AFS investment securities $ 24,664 $ 167 $ 1,677 $ 23,154 1 During the fourth quarter of 2022, we transferred approximately $ 10.7 billion fair value ($ 13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category to reflect our intent for these securities. The transfer of these securities from AFS to HTM at fair value resulted in a discount to the amortized cost basis of the HTM securities equivalent to the $ 2.4 billion ($ 1.8 billion after-tax) of unrealized losses in AOCI. The amortization of the unrealized losses will offset the effect of the accretion of the discount created by the transfer. 49 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Maturities The following schedule shows the amortized cost and weighted average yields of debt securities by contractual maturity of principal payments at March 31, 2023. Actual principal payments and maturities may differ from contractual or expected principal payments and maturities because borrowers have the right to call or prepay obligations with or without call or prepayment penalties. March 31, 2023 Total debt securities Due in one year or less Due after one year through five years Due after five years through ten years Due after ten years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 98 3.51 % $ — — % $ — — % $ — — % $ 98 3.51 % Agency guaranteed mortgage-backed securities 10,471 1.84 — — — — 48 2.00 10,423 1.84 Municipal securities 1 392 3.17 34 3.36 135 3.06 180 3.31 43 2.80 Total held-to-maturity securities 10,961 1.90 34 3.36 135 3.06 228 3.04 10,564 1.86 Available-for-sale U.S. Treasury securities 656 2.43 99 4.56 — — — — 557 2.05 U.S. Government agencies and corporatio Agency securities 753 2.63 18 5.22 313 2.23 224 2.54 198 3.12 Agency guaranteed mortgage-backed securities 9,423 1.96 24 4.32 268 1.55 1,559 2.06 7,572 1.94 Small Business Administration loan-backed securities 701 4.80 — — 39 5.31 151 4.14 511 4.96 Municipal securities 1 1,517 2.19 119 2.49 517 2.62 680 1.86 201 2.05 Other debt securities 25 8.27 — — — — 10 9.50 15 7.45 Total available-for-sale securities 13,075 2.21 260 3.63 1,137 2.35 2,624 2.20 9,054 2.16 Total HTM and AFS investment securities $ 24,036 2.07 % $ 294 3.60 % $ 1,272 2.43 % $ 2,852 2.26 % $ 19,618 2.00 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis. The following schedule summarizes the amount of gross unrealized losses for AFS securities and the estimated fair value by length of time the securities have been in an unrealized loss position. 50 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES March 31, 2023 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ — $ — $ 145 $ 412 $ 145 $ 412 U.S. Government agencies and corporatio Agency securities 11 216 26 500 37 716 Agency guaranteed mortgage-backed securities 58 1,118 1,145 7,074 1,203 8,192 Small Business Administration loan-backed securities 6 102 20 494 26 596 Municipal securities 4 509 66 873 70 1,382 Other — — 1 14 1 14 Total available-for-sale investment securities $ 79 $ 1,945 $ 1,403 $ 9,367 $ 1,482 $ 11,312 December 31, 2022 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ 94 $ 308 $ 70 $ 85 $ 164 $ 393 U.S. Government agencies and corporatio Agency securities 39 634 7 102 46 736 Agency guaranteed mortgage-backed securities 447 4,322 838 4,042 1,285 8,364 Small Business Administration loan-backed securities 8 101 21 524 29 625 Municipal securities 63 1,295 36 256 99 1,551 Other 2 13 — — 2 13 Total available-for-sale investment securities $ 653 $ 6,673 $ 972 $ 5,009 $ 1,625 $ 11,682 At March 31, 2023 and December 31, 2022, approximately 3,240 and 3,562 AFS investment securities were in an unrealized loss position, respectively. Impairment We review investment securities quarterly on an individual security basis for the presence of impairment. For additional information on our policy and impairment evaluation process for investment securities, see Note 5 of our 2022 Form 10-K. AFS Impairment We did not recognize any impairment on our AFS investment securities portfolio during the first three months of 2023. Unrealized losses primarily relate to changes in interest rates subsequent to purchase and are not attributable to credit; as such, absent any future sales, we would expect to receive the full principal value at maturity. At March 31, 2023, we had not initiated any sales of AFS securities, nor did we have an intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not that we would be required to sell such securities before recovery of their amortized cost basis. 51 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES HTM Impairment For HTM securities, the allowance for credit losses (“ACL”) is assessed consistent with the approach described in Note 6 for loans and leases carried at amortized cost. The ACL on HTM securities was less than $ 1 million at March 31, 2023. All HTM securities were risk-graded as “ Pass ” in terms of credit quality, and none were past due at March 31, 2023. Securities Gains and Losses Recognized in Income The following schedule summarizes securities gains and losses recognized in the income statement. Three Months Ended March 31, 2023 2022 (In millions) Gross gains Gross losses Gross gains Gross losses Available-for-sale $ 1 $ 1 $ — $ — Trading 3 3 — — Other noninterest-bearing investments 4 3 3 20 Total gains 8 7 3 20 Net gains (losses) 1 $ 1 $ ( 17 ) 1 Net gains (losses) were recognized in securities gains (losses) in the income statement. The following schedule presents interest income by security type. Three Months Ended March 31, 2023 2022 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 60 $ 1 $ 61 $ 2 $ 1 $ 3 Available-for-sale 69 6 75 96 8 104 Trading 1 — 1 — 5 5 Total securities $ 130 $ 7 $ 137 $ 98 $ 14 $ 112 52 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific loan class: (In millions) March 31, 2023 December 31, 2022 Loans held for sale $ 5 $ 8 Commerci Commercial and industrial 1 $ 16,500 $ 16,377 Leasing 385 386 Owner-occupied 9,317 9,371 Municipal 4,374 4,361 Total commercial 30,576 30,495 Commercial real estate: Construction and land development 2,313 2,513 Term 10,585 10,226 Total commercial real estate 12,898 12,739 Consume Home equity credit line 3,276 3,377 1-4 family residential 7,692 7,286 Construction and other consumer real estate 1,299 1,161 Bankcard and other revolving plans 459 471 Other 131 124 Total consumer 12,857 12,419 Total loans and leases $ 56,331 $ 55,653 1 Commercial and industrial loan balances include Paycheck Protection Program (“PPP”) loans of $ 159 million and $ 197 million for the respective periods presented. Loans and leases are measured and presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 43 million and $ 49 million at March 31, 2023 and December 31, 2022, respectively. Amortized cost basis does not include accrued interest receivables of $ 254 million and $ 247 million at March 31, 2023 and December 31, 2022, respectively. These receivables are presented in the Consolidated Balance Sheet within the “ Other assets ” line item. Municipal loans generally include loans to state and local governments (“municipalities”) with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 226 million at March 31, 2023 and $ 262 million at December 31, 2022. Loans with a carrying value of $ 30.2 billion at March 31, 2023 and $ 27.6 billion at December 31, 2022 have been pledged at the Federal Reserve (“FRB”) and the Federal Home Loan Bank (“FHLB”) of Des Moines as collateral for current and potential borrowings. In April 2023, an additional $ 9.4 billion of loans were pledged as collateral for potential borrowings. We sold loans totaling $ 89 million for the three months ended March 31, 2023, and $ 336 million for the three months ended March 31, 2022, that were classified as loans held for sale. Loans classified as loans held for sale primarily consist of conforming residential mortgages and the guaranteed portion of Small Business Administration (“SBA”) loans that are primarily sold to U.S. government agencies or participated to third parties. Occasionally, we have continuing involvement in the sold loans in the form of servicing rights or guarantees. Amounts added to loans held for sale during these same periods were $ 86 million for the three months ended March 31, 2023, and $ 297 53 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES million for the three months ended March 31, 2022, respectively. See Note 5 of the Notes to Consolidated Financial Statements for further information regarding guaranteed securities. The principal balance of sold loans for which we retain servicing was $ 3.4 billion at March 31, 2023, and $ 3.5 billion at December 31, 2022. Income from loans sold, excluding servicing, was $ 5 million for the three months ended March 31, 2023, and $ 6 million for the three months ended March 31, 2022, respectively. Allowance for Credit Losses The allowance for credit losses (“ACL”), which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. For additional information regarding our policies and methodologies used to estimate the ACL, see Note 6 of our 2022 Form 10-K. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is estimated consistent with the approach for loans carried at amortized cost. See Note 5 of our 2022 Form 10-K for further discussion of our methodology used to estimate the ACL on AFS and HTM debt securities. Changes in the ACL are summarized as follows: Three Months Ended March 31, 2023 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at December 31, 2022 $ 300 $ 156 $ 119 $ 575 Adjustment for change in accounting standard — ( 4 ) 1 ( 3 ) Balance at beginning of period 300 152 120 572 Provision for loan losses 10 8 28 46 Gross loan and lease charge-offs 3 — 4 7 Recoveries 6 — 1 7 Net loan and lease charge-offs (recoveries) ( 3 ) — 3 — Balance at end of period $ 313 $ 160 $ 145 $ 618 Reserve for unfunded lending commitments Balance at beginning of period $ 16 $ 33 $ 12 $ 61 Provision for unfunded lending commitments 3 ( 5 ) 1 ( 1 ) Balance at end of period $ 19 $ 28 $ 13 $ 60 Total allowance for credit losses at end of period Allowance for loan losses $ 313 $ 160 $ 145 $ 618 Reserve for unfunded lending commitments 19 28 13 60 Total allowance for credit losses $ 332 $ 188 $ 158 $ 678 54 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Three Months Ended March 31, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 311 $ 107 $ 95 $ 513 Provision for loan losses ( 24 ) ( 5 ) — ( 29 ) Gross loan and lease charge-offs 13 — 4 17 Recoveries 8 — 3 11 Net loan and lease charge-offs (recoveries) 5 — 1 6 Balance at end of period $ 282 $ 102 $ 94 $ 478 Reserve for unfunded lending commitments Balance at beginning of period $ 19 $ 11 $ 10 $ 40 Provision for unfunded lending commitments ( 5 ) 1 — ( 4 ) Balance at end of period $ 14 $ 12 $ 10 $ 36 Total allowance for credit losses at end of period Allowance for loan losses $ 282 $ 102 $ 94 $ 478 Reserve for unfunded lending commitments 14 12 10 36 Total allowance for credit losses $ 296 $ 114 $ 104 $ 514 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement, (2) the loan, if secured, is well-secured, (3) the borrower has paid according to the contractual terms for a minimum of six months, and (4) an analysis of the borrower indicates a reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of nonaccrual loans is summarized as follows: March 31, 2023 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 8 $ 69 $ 77 $ 45 Owner-occupied 20 13 33 1 Total commercial 28 82 110 46 Commercial real estate: Term 4 12 16 3 Total commercial real estate 4 12 16 3 Consume Home equity credit line — 11 11 3 1-4 family residential 5 29 34 5 Total consumer loans 5 40 45 8 Total $ 37 $ 134 $ 171 $ 57 55 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 8 $ 55 $ 63 $ 27 Owner-occupied 13 11 24 1 Total commercial 21 66 87 28 Commercial real estate: Term — 14 14 2 Total commercial real estate — 14 14 2 Consume Home equity credit line 1 10 11 2 1-4 family residential 9 28 37 3 Bankcard and other revolving plans — — — — Total consumer loans 10 38 48 5 Total $ 31 $ 118 $ 149 $ 35 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. When the collectibility of the amortized cost basis for a nonaccrual loan is no longer in doubt, then interest payments may be recognized in interest income on a cash basis. For the three months ended March 31, 2023 and 2022, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. The amount of accrued interest receivables reversed from interest income during the periods presented is summarized by loan portfolio segment as follows: Three Months Ended March 31, (In millions) 2023 2022 Commercial $ 2 $ 4 Commercial real estate 1 — Consumer — — Total $ 3 $ 4 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as bankcard and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. 56 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Past due loans (accruing and nonaccruing) are summarized as follows: March 31, 2023 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 16,436 $ 53 $ 11 $ 64 $ 16,500 $ 1 $ 64 Leasing 385 — — — 385 — 1 Owner-occupied 9,305 9 3 12 9,317 — 28 Municipal 4,374 — — — 4,374 — — Total commercial 30,500 62 14 76 30,576 1 93 Commercial real estate: Construction and land development 2,308 5 — 5 2,313 — — Term 10,582 1 2 3 10,585 — 14 Total commercial real estate 12,890 6 2 8 12,898 — 14 Consume Home equity credit line 3,265 8 3 11 3,276 — 5 1-4 family residential 7,665 14 13 27 7,692 — 14 Construction and other consumer real estate 1,299 — — — 1,299 — — Bankcard and other revolving plans 455 3 1 4 459 1 — Other 130 1 — 1 131 — — Total consumer loans 12,814 26 17 43 12,857 1 19 Total $ 56,204 $ 94 $ 33 $ 127 $ 56,331 $ 2 $ 126 December 31, 2022 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 16,331 $ 24 $ 22 $ 46 $ 16,377 $ 4 $ 45 Leasing 386 — — — 386 — — Owner-occupied 9,344 20 7 27 9,371 1 15 Municipal 4,361 — — — 4,361 — — Total commercial 30,422 44 29 73 30,495 5 60 Commercial real estate: Construction and land development 2,511 2 — 2 2,513 — — Term 10,179 37 10 47 10,226 — 4 Total commercial real estate 12,690 39 10 49 12,739 — 4 Consume Home equity credit line 3,369 5 3 8 3,377 — 6 1-4 family residential 7,258 9 19 28 7,286 — 16 Construction and other consumer real estate 1,161 — — — 1,161 — — Bankcard and other revolving plans 467 3 1 4 471 1 — Other 124 — — — 124 — — Total consumer loans 12,379 17 23 40 12,419 1 22 Total $ 55,491 $ 100 $ 62 $ 162 $ 55,653 $ 6 $ 86 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is still not expected. 57 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk-grading systems, which vary based on the size and type of credit risk exposure. The internal risk grades assigned to loans follow our definition of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. • Pass – A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention – A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard – A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful – A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were no loans classified as Doubtful at March 31, 2023 and December 31, 2022. For consumer loans and for commercial and CRE loans with commitments greater than $ 1 million, we generally assign internal risk grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The following schedule presents the amortized cost basis of loans and leases categorized by year of origination and by credit quality classification as monitored by management. The schedule also summarizes the current period gross charge-offs by year of origination. 58 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES March 31, 2023 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2023 2022 2021 2020 2019 Prior Total Commerci Commercial and industrial Pass $ 678 $ 3,181 $ 1,689 $ 899 $ 751 $ 577 $ 8,050 $ 186 $ 16,011 Special Mention — 3 3 6 39 2 63 — 116 Accruing Substandard 4 27 6 13 87 67 90 2 296 Nonaccrual — 1 8 5 10 2 47 4 77 Total commercial and industrial 682 3,212 1,706 923 887 648 8,250 192 16,500 Gross charge-offs — — — — — 1 2 — 3 Leasing Pass 25 155 64 42 61 34 — — 381 Special Mention — — — — — — — — — Accruing Substandard — — — — — 4 — — 4 Nonaccrual — — — — — — — — — Total leasing 25 155 64 42 61 38 — — 385 Gross charge-offs — — — — — — — — — Owner-occupied Pass 390 2,079 2,182 1,098 808 2,227 165 48 8,997 Special Mention 1 4 20 3 8 18 — — 54 Accruing Substandard 4 28 44 31 18 104 4 — 233 Nonaccrual — — 2 14 3 12 2 — 33 Total owner-occupied 395 2,111 2,248 1,146 837 2,361 171 48 9,317 Gross charge-offs — — — — — — — — — Municipal Pass 129 1,187 1,203 799 418 591 9 — 4,336 Special Mention — 32 6 — — — — — 38 Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total municipal 129 1,219 1,209 799 418 591 9 — 4,374 Gross charge-offs — — — — — — — — — Total commercial 1,231 6,697 5,227 2,910 2,203 3,638 8,430 240 30,576 Total commercial gross charge-offs — — — — — 1 2 — 3 Commercial real estate: Construction and land development Pass 115 616 607 219 39 3 571 105 2,275 Special Mention — 5 — — — — — 5 Accruing Substandard — 10 1 — 22 — — — 33 Nonaccrual — — — — — — — — — Total construction and land development 115 626 613 219 61 3 571 105 2,313 Gross charge-offs — — — — — — — — — Term Pass 714 2,723 2,002 1,697 1,026 1,777 191 175 10,305 Special Mention 19 17 — 41 — 5 — — 82 Accruing Substandard 13 44 9 46 26 42 2 — 182 Nonaccrual — — — — 4 12 — — 16 Total term 746 2,784 2,011 1,784 1,056 1,836 193 175 10,585 Gross charge-offs — — — — — — — — — Total commercial real estate 861 3,410 2,624 2,003 1,117 1,839 764 280 12,898 Total commercial real estate gross charge-offs — — — — — — — — — 59 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES March 31, 2023 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2023 2022 2021 2020 2019 Prior Total Consume Home equity credit line Pass — — — — — — 3,167 95 3,262 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 3 — 3 Nonaccrual — — — — — — 9 2 11 Total home equity credit line — — — — — — 3,179 97 3,276 Gross charge-offs — — — — — — — — — 1-4 family residential Pass 381 1,916 1,594 1,034 628 2,103 — — 7,656 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — 2 2 2 5 23 — — 34 Total 1-4 family residential 381 1,918 1,596 1,036 633 2,128 — — 7,692 Gross charge-offs — — — — — 2 — — 2 Construction and other consumer real estate Pass 22 775 440 35 18 9 — — 1,299 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 22 775 440 35 18 9 — — 1,299 Gross charge-offs — — — — — — — — — Bankcard and other revolving plans Pass — — — — — — 455 1 456 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 2 1 3 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 457 2 459 Gross charge-offs — — — — — — 2 — 2 Other consumer Pass 30 54 27 9 7 4 — — 131 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 30 54 27 9 7 4 — — 131 Gross charge-offs — — — — — — — — — Total consumer 433 2,747 2,063 1,080 658 2,141 3,636 99 12,857 Total consumer gross charge-offs — — — — — 2 2 — 4 Total loans $ 2,525 $ 12,854 $ 9,914 $ 5,993 $ 3,978 $ 7,618 $ 12,830 $ 619 $ 56,331 Total gross charge-offs $ — $ — $ — $ — $ — $ 3 $ 4 $ — $ 7 60 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total Commerci Commercial and industrial Pass $ 3,363 $ 1,874 $ 979 $ 876 $ 293 $ 264 $ 8,054 $ 182 $ 15,885 Special Mention 1 2 10 52 1 2 50 — 118 Accruing Substandard 26 7 17 78 30 67 84 2 311 Nonaccrual — 8 5 11 1 2 32 4 63 Total commercial and industrial 3,390 1,891 1,011 1,017 325 335 8,220 188 16,377 Leasing Pass 160 71 47 66 18 19 — — 381 Special Mention — — — — — — — — — Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 160 71 47 66 18 24 — — 386 Owner-occupied Pass 2,157 2,285 1,143 874 654 1,679 187 74 9,053 Special Mention 1 15 5 8 3 16 1 — 49 Accruing Substandard 16 33 48 20 55 64 9 — 245 Nonaccrual 1 1 2 4 5 10 1 — 24 Total owner-occupied 2,175 2,334 1,198 906 717 1,769 198 74 9,371 Municipal Pass 1,230 1,220 816 441 168 437 8 — 4,320 Special Mention 32 6 — — — — — — 38 Accruing Substandard — — — — — 3 — — 3 Nonaccrual — — — — — — — — — Total municipal 1,262 1,226 816 441 168 440 8 — 4,361 Total commercial 6,987 5,522 3,072 2,430 1,228 2,568 8,426 262 30,495 Commercial real estate: Construction and land development Pass 548 671 455 81 2 2 617 96 2,472 Special Mention 1 1 — — — — — — 2 Accruing Substandard 17 — — 22 — — — — 39 Nonaccrual — — — — — — — — — Total construction and land development 566 672 455 103 2 2 617 96 2,513 Term Pass 2,861 2,107 1,686 1,012 666 1,229 276 112 9,949 Special Mention 39 21 11 — 4 1 — — 76 Accruing Substandard 42 2 34 21 53 35 — — 187 Nonaccrual — — — 4 1 9 — — 14 Total term 2,942 2,130 1,731 1,037 724 1,274 276 112 10,226 Total commercial real estate 3,508 2,802 2,186 1,140 726 1,276 893 208 12,739 61 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total Consume Home equity credit line Pass — — — — — — 3,265 98 3,363 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 3 — 3 Nonaccrual — — — — — — 8 3 11 Total home equity credit line — — — — — — 3,276 101 3,377 1-4 family residential Pass 1,913 1,503 1,024 638 381 1,788 — — 7,247 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — 2 2 4 3 26 — — 37 Total 1-4 family residential 1,913 1,505 1,026 642 384 1,816 — — 7,286 Construction and other consumer real estate Pass 583 485 64 19 5 5 — — 1,161 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 583 485 64 19 5 5 — — 1,161 Bankcard and other revolving plans Pass — — — — — — 468 2 470 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 469 2 471 Other consumer Pass 68 30 12 8 4 2 — — 124 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 68 30 12 8 4 2 — — 124 Total consumer 2,564 2,020 1,102 669 393 1,823 3,745 103 12,419 Total loans $ 13,059 $ 10,344 $ 6,360 $ 4,239 $ 2,347 $ 5,667 $ 13,064 $ 573 $ 55,653 Loan Modifications On January 1, 2023, we adopted ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures, which eliminated the recognition and measurement of troubled debt restructurings (“TDRs”) and their related disclosures. As a result, we no longer separately measure an allowance for credit losses for TDRs, relying instead on our credit loss estimation models. The adoption of this guidance had no material impact on our financial statements. ASU 2022-02 requires enhanced disclosures for loan modifications to borrowers experiencing financial difficulty. Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications may also occur when the borrower experiences financial difficulty and needs 62 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES temporary or permanent relief from the original contractual terms of the loan. For loans that have been modified with a borrower experiencing financial difficulty, we use the same credit loss estimation methods that we use for the rest of the loan portfolio. These methods incorporate the post-modification loan terms, as well as defaults and charge-offs associated with historical modified loans. All nonaccruing loans more than $1 million are evaluated individually, regardless of modification. We consider many factors in determining whether to agree to a loan modification and we seek a solution that will both minimize potential loss to us and attempt to help the borrower. We evaluate borrowers’ current and forecasted future cash flows, their ability and willingness to make current contractual or proposed modified payments, the value of the underlying collateral (if applicable), the possibility of obtaining additional security or guarantees, and the potential costs related to a repossession or foreclosure and the subsequent sale of the collateral. A modified loan on nonaccrual will remain on nonaccrual status until the borrower has proven the ability to perform under the modified structure for a minimum of six months, and there is evidence that such payments can and are likely to continue as agreed. Performance prior to the modification, or significant events that coincide with the modification, are included in assessing whether the borrower can meet the new terms and may result in the loan being returned to accrual at the time of modification or after a shorter performance period. If the borrower’s ability to meet the revised payment schedule is uncertain, the loan remains classified as a nonaccrual loan. The amortized cost of loans to borrowers experiencing financial difficulty that were modified during the period, by loan class and modification type, is summarized in the following schedu March 31, 2023 Amortized cost associated with the following modification typ (In millions) Interest rate reduction Maturity or term extension Multiple modification types 1 Total 2 Percentage of total loans 3 Commerci Commercial and industrial $ — $ 36 $ — $ 36 0.2 % Owner-occupied 4 6 — 10 0.1 Total commercial 4 42 — 46 0.2 Commercial real estate: Term — 49 — 49 0.5 Total commercial real estate — 49 — 49 0.4 Consume 1-4 family residential — — 1 1 — Bankcard and other revolving plans — 1 — 1 0.2 Total consumer loans — 1 1 2 — Total $ 4 $ 92 $ 1 $ 97 0.2 % 1 Includes modifications that resulted from a combination of interest rate reduction, maturity or term extension, principal forgiveness, and payment deferral modifications. 2 Unfunded lending commitments related to loans modified to borrowers experiencing financial difficulty totaled $ 8 million at March 31, 2023. 3 Amounts less than 0.05% are rounded to zero. 63 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The financial impact of loan modifications to borrowers experiencing financial difficulty during the three months ended March 31, 2023, is summarized in the following schedu Three Months Ended March 31, 2023 (In millions) Weighted-average interest rate reduction (in percentage points) Weighted-average term extension (in months) Commerci Commercial and industrial — % 10 Owner-occupied 4.4 5 Total commercial 4.4 9 Commercial real estate: Construction and land development — 6 Term — 9 Total commercial real estate — 9 Consume 1 1-4 family residential 1.3 110 Bankcard and other revolving plans — 65 Total consumer loans 1.3 84 Total weighted average financial impact 4.0 % 10 1 Primarily relates to one loan within each consumer loan class. Loan modifications to borrowers experiencing financial difficulty during the three months ended March 31, 2023, did not result in principal forgiveness for any class of loans. The following schedule presents the aging of loans to borrowers experiencing financial difficulty that were modified on or after January 1, 2023 (the date we adopted ASU 2022-02) through March 31, 2023, presented by portfolio segment and loan class. March 31, 2023 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Commerci Commercial and industrial $ 20 $ 16 $ — $ 16 $ 36 Owner-occupied 10 — — — 10 Total commercial 30 16 — 16 46 Commercial real estate: Term 49 — — — 49 Total commercial real estate 49 — — — 49 Consume 1-4 family residential — 1 — 1 1 Bankcard and other revolving plans 1 — — — 1 Total consumer loans 1 1 — 1 2 Total $ 80 $ 17 $ — $ 17 $ 97 Troubled Debt Restructuring Disclosures Prior to Our Adoption of ASU 2022-02 Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are considered TDRs. For further discussion of our policies and processes regarding TDRs, see Note 6 of our 2022 Form 10-K. 64 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Information on TDRs, including the amortized cost on an accruing and nonaccruing basis by loan class and modification type is summarized in the following schedul December 31, 2022 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 1 $ 12 $ — $ — $ 9 $ 28 $ 50 Owner-occupied — 1 — 2 13 12 28 Municipal — — — — — — — Total commercial 1 13 — 2 22 40 78 Commercial real estate: Construction and land development — — — — — 8 8 Term 1 27 — 27 28 1 84 Total commercial real estate 1 27 — 27 28 9 92 Consume Home equity credit line — 1 4 — — 1 6 1-4 family residential 2 1 2 — 1 15 21 Total consumer loans 2 2 6 — 1 16 27 Total accruing 4 42 6 29 51 65 197 Nonaccruing Commerci Commercial and industrial — — — 3 9 3 15 Owner-occupied 4 — — — — 4 8 Total commercial 4 — — 3 9 7 23 Commercial real estate: Term — 10 — — — — 10 Total commercial real estate — 10 — — — — 10 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 1 2 4 Total consumer loans — 1 1 — 1 2 5 Total nonaccruing 4 11 1 3 10 9 38 Total $ 8 $ 53 $ 7 $ 32 $ 61 $ 74 $ 235 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. Unfunded lending commitments on TDRs totaled $ 7 million at December 31, 2022. The total amortized cost of all TDRs in which interest rates were modified below market was $63 million at December 31, 2022. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the year ended December 31, 2022 was not significant. 65 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. The amortized cost of TDRs that had a payment default during the year ended December 31, 2022, which were still in default at period end, and were within 12 months or less of being modified as TDRs was approximately $ 10 million. Collateral-Dependent Loans When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. Select information on loans for which the borrower is experiencing financial difficulties and repayment is expected to be provided substantially through the operation or sale of the underlying collateral, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: March 31, 2023 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Owner-occupied $ 12 Hospital 30 % Commercial real estate: Term 5 Hotel, Multi-family 64 % Total $ 17 December 31, 2022 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Owner-occupied $ 2 Land, Warehouse 29 % Commercial real estate: Term 1 Multi-family 55 % Consume Home equity credit line 1 Single family residential 13 % 1-4 family residential 3 Single family residential 41 % Total $ 7 1 The fair value is based on the most recent appraisal or other collateral evaluation . Foreclosed Residential Real Estate At March 31, 2023 and December 31, 2022, we did no t have any foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure was $ 5 million and $ 10 million for the same periods, respectively. 66 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives and Accounting Our primary objective for using derivatives is to manage interest rate risk. We use derivatives to stabilize forecasted interest income from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities. We also assist clients with their risk management needs through the use of derivatives. For a more detailed discussion of the use of and accounting policies regarding derivative instruments, see Note 7 of our 2022 Form 10-K. Fair Value Hedges of Liabilities – At March 31, 2023, we had one receive-fixed interest rate swap with a notional amount of $ 500 million designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converts the interest on our fixed-rate debt to floating. Changes in the fair value of derivatives designated as fair value hedges of debt were offset by changes in the fair value of the hedged debt instruments as shown in the schedules below. Fair Value Hedges of Assets – At March 31, 2023, we had pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 1.2 billion designated as fair value hedges of certain AFS securities. These swaps effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. Changes in fair value of derivatives designated as fair value hedges of fixed-rate AFS securities were offset by changes in the value of the hedged securities, as shown in the schedules below. Cash Flow Hedges – At March 31, 2023, we had receive-fixed interest rate swaps with an aggregate notional amount of $ 4.4 billion designated as cash flow hedges of pools of floating-rate commercial loans. During the first quarter of 2023, swaps designated as cash flow hedges with an aggregate notional amount of $ 300 million matured. Additionally, during the first quarter of 2023, we terminated cash flow hedging relationships with an aggregate notional amount of $ 2.9 billion. At March 31, 2023, there was $ 153 million of losses deferred in AOCI related to the terminated cash flow hedges that is expected to be fully amortized by October 2027. Changes in the fair value of qualifying cash flow hedges during the quarter were recorded in AOCI as shown in the schedule below. The amounts deferred in AOCI are reclassified into earnings in the periods in which the hedged interest receipts occur (i.e., when the hedged forecasted transactions affect earnings). Collateral and Credit Risk Exposure to credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred as a result of counterparty nonperformance. For a more detailed discussion of collateral and credit-risk-related to our derivative contracts, see Note 7 of our 2022 Form 10-K. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position at a given balance sheet date. Certain of these derivative contracts contain credit-risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit-risk-related feature were triggered, such as a downgrade of our credit rating. In past situations, not all counterparties have demanded that additional collateral be pledged when provided for by the contractual terms. At March 31, 2023, the fair value of our derivative liabilities was $ 353 million, for which we were required to pledge cash collateral of less than $ 1 million in the normal course of business. If our credit rating were downgraded one notch by either Standard & Poor’s (“S&P”) or Moody’s at March 31, 2023, there would likely be no additional collateral required to be pledged. 67 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Derivative Amounts Certain information with respect to notional amounts and recorded gross fair values at March 31, 2023 and December 31, 2022, and the related gain (loss) of derivative instruments is summarized as follows: March 31, 2023 December 31, 2022 Notional amount Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Receive-fixed interest rate swaps $ 4,433 $ — $ — $ 7,633 $ — $ 1 Fair value hed Debt hed Receive-fixed interest rate swaps 500 — — 500 — — Asset hed Pay-fixed interest rate swaps 1,227 69 — 1,228 84 — Total derivatives designated as hedging instruments 6,160 69 — 9,361 84 1 Derivatives not designated as hedging instruments: Customer interest rate derivatives 1 13,804 295 349 13,670 296 443 Other interest rate derivatives 2,417 1 — 862 — — Foreign exchange derivatives 258 4 4 605 6 7 Total derivatives not designated as hedging instruments 16,479 300 353 15,137 302 450 Total derivatives $ 22,639 $ 369 $ 353 $ 24,498 $ 386 $ 451 1 Customer interest rate derivatives include a net credit valuation adjustment (“CVA”) of $ 9 million, reducing the fair value of the liability at March 31, 2023, and $ 13 million, reducing the fair value of the liability at December 31, 2022. The amount of derivative gains (losses) from cash flow and fair value hedges that was deferred in other comprehensive income (“OCI”) or recognized in earnings for the three months ended March 31, 2023 and 2022 is shown in the schedules below. Three Months Ended March 31, 2023 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — Interest rate swaps 38 ( 49 ) — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 4 Basis amortization on terminated hedges 2, 3 — — — Fair value hedges of assets: Pay-fixed interest rate swaps — — 6 Basis amortization on terminated hedges 3 — — — Total derivatives designated as hedging instruments $ 38 $ ( 49 ) $ 10 68 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Three Months Ended March 31, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 2 $ — Interest rate swaps ( 178 ) 12 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 2 Basis amortization on terminated hedges 2 — — 1 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2 — — — Total derivatives designated as hedging instruments $ ( 178 ) $ 14 $ 2 1 For the 12 months following March 31, 2023, we estimate that $ 156 million of losses will be reclassified from AOCI into interest income, compared with an estimate of $ 205 million of losses as of March 31, 2022. 2 There was no remaining cumulative unamortized basis adjustment for terminated or redesignated fair value hedges of debt at March 31, 2023 and March 31, 2022. There was $ 10 million and $ 7 million of cumulative unamortized basis adjustments from terminated or redesignated fair value hedges of assets at March 31, 2023 and March 31, 2022, respectively. The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) Three Months Ended March 31, 2023 Three Months Ended March 31, 2022 Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives $ 1 $ 13 Other interest rate derivatives 1 1 Foreign exchange derivatives 7 6 Total derivatives not designated as hedging instruments $ 9 $ 20 The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Three Months Ended March 31, 2023 Three Months Ended March 31, 2022 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ 12 $ ( 12 ) $ — $ ( 32 ) $ 32 $ — Assets: Pay-fixed interest rate swaps 1, 2 40 ( 40 ) — 53 ( 53 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt and fixed-rate AFS securities. Gains and losses were recorded in net interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. 69 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) 1 Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged item (In millions) March 31, 2023 December 31, 2022 March 31, 2023 December 31, 2022 March 31, 2023 December 31, 2022 Long-term fixed-rate debt $ ( 500 ) $ ( 500 ) $ ( 447 ) $ ( 435 ) $ 53 $ 65 Fixed-rate AFS securities 1,227 1228 1,001 962 ( 227 ) ( 266 ) 1 Carrying amounts exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 8 . LEASES We have operating and finance leases for branches, corporate offices, and data centers. At March 31, 2023, we had 412 branches, of which 277 are owned and 135 are leased. We lease our headquarters in Salt Lake City, Utah. The remaining maturities of our lease commitments range from the year 2023 to 2062 , and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “ Other assets ,” and “ Premises, equipment and software, net ,” respectively. The corresponding liabilities for those leases are presented in “ Other liabilities ,” and “ Long-term debt .” For more information about our lease policies, see Note 8 of our 2022 Form 10-K. The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate. (Dollar amounts in millions) March 31, 2023 December 31, 2022 Operating leases ROU assets, net of amortization $ 174 $ 173 Lease liabilities 199 198 Finance leases ROU assets, net of amortization 3 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.6 8.4 Finance leases 17.1 17.4 Weighted average discount rate Operating leases 3.0 % 2.9 % Finance leases 3.1 % 3.1 % Additional information related to lease expense is presented in the following schedule. Three Months Ended March 31, (In millions) 2023 2022 Lease expense: Operating lease expense $ 11 $ 12 Other expenses associated with operating leases 1 15 12 Total lease expense $ 26 $ 24 Related cash disbursements from operating leases $ 12 $ 12 1 Other expenses primarily relate to property taxes and building and property maintenance. 70 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the total contractual undiscounted lease payments for operating lease liabilities by expected due date for each of the next five years. (In millions) Total undiscounted lease payments 2023 1 $ 35 2024 39 2025 31 2026 26 2027 17 Thereafter 85 Total $ 233 1 Contractual maturities for the nine months remaining in 2023. We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 3 million for both the first quarter of 2023 and 2022. We originated equipment leases, considered to be sales-type leases or direct financing leases, totaling $ 385 million and $ 386 million at March 31, 2023 and December 31, 2022, respectively. We recorded income of $ 4 million a nd $ 3 million on these leases for the first three months of 2023 and 2022, respectively. 9. LONG-TERM DEBT AND SHAREHOLDERS’ EQUITY Long-Term Debt The long-term debt carrying values in the following schedule represent the par value of the debt, adjusted for any unamortized premium or discount, unamortized debt issuance costs, and basis adjustments for interest rate swaps designated as fair value hedges. LONG-TERM DEBT (In millions) March 31, 2023 December 31, 2022 Subordinated notes 1 $ 531 $ 519 Senior notes 128 128 Finance lease obligations 4 4 Total $ 663 $ 651 1 The change in the subordinated notes balance is primarily due to a fair value hedge accounting adjustment. See also Note 7. Shareholders' Equity Our common stock is traded on the National Association of Securities Dealers Automated Quotations (“NASDAQ”) Global Select Market. At March 31, 2023, there were 148.1 million shares of $ 0.001 par value common stock outstanding. Common stock and additional paid-in capital decreased $ 39 million, or 2 %, to $ 1.7 billion at March 31, 2023, from December 31, 2022, primarily due to common stock repurchases. During the first three months of 2023, we repurchased 0.9 million common shares outstanding for $ 50 million at an average price of $ 52.82 per share. AOCI was $ 2.9 billion at March 31, 2023, and reflects the decline in the fair value of fixed-rate available-for-sale securities as a result of changes in interest rates. The following schedule summarizes the changes in AOCI by component. 71 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) Net unrealized gains/(losses) on investment securities Net unrealized gains/(losses) on derivatives and other Pension and post-retirement Total Three Months Ended March 31, 2023 Balance at December 31, 2022 $ ( 2,800 ) $ ( 311 ) $ ( 1 ) $ ( 3,112 ) OCI before reclassifications, net of tax 126 29 — 155 Amounts reclassified from AOCI, net of tax — 37 — 37 Other comprehensive income 126 66 — 192 Balance at March 31, 2023 $ ( 2,674 ) $ ( 245 ) $ ( 1 ) $ ( 2,920 ) Income tax expense included in OCI $ 41 $ 22 $ — $ 63 Three Months Ended March 31, 2022 Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) OCI (loss) before reclassifications, net of tax ( 1,121 ) ( 135 ) — ( 1,256 ) Amounts reclassified from AOCI, net of tax — ( 10 ) — ( 10 ) Other comprehensive loss ( 1,121 ) ( 145 ) — ( 1,266 ) Balance at March 31, 2022 $ ( 1,199 ) $ ( 145 ) $ ( 2 ) $ ( 1,346 ) Income tax benefit included in OCI (loss) $ ( 363 ) $ ( 47 ) $ — $ ( 410 ) Amounts reclassified from AOCI 1 Statement of income (SI) (In millions) Three Months Ended March 31, Details about AOCI components 2023 2022 Affected line item Net unrealized gains (losses) on derivative instruments $ ( 49 ) $ 14 SI Interest and fees on loans L Income tax expense (benefit) ( 12 ) 4 Amounts reclassified from AOCI $ ( 37 ) $ 10 1 Positive reclassification amounts indicate increases to earnings in the income statement. 10. COMMITMENTS, GUARANTEES, AND CONTINGENT LIABILITIES Commitments and Guarantees The following schedule presents the contractual amounts related to off-balance sheet financial instruments used to meet the financing needs of our customers. (In millions) March 31, 2023 December 31, 2022 Unfunded lending commitments 1 $ 29,907 $ 29,628 Standby letters of cr Financial 633 667 Performance 169 184 Commercial letters of credit 14 11 Mortgage-backed security purchase agreements 2 47 23 Total unfunded commitments $ 30,770 $ 30,513 1 Net of participations. 2 Represents agreements with Farmer Mac to purchase securities backed by certain agricultural mortgage loans. For more information about these commitments and guarantees including their terms and collateral requirements, see Note 16 of our 2022 Form 10-K. 72 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Legal Matters We are involved in various legal proceedings, which may include litigation in court and arbitral proceedings, as well as investigations, examinations, and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. At March 31, 2023, we were subject to the following material litigation or governmental inquiri • Two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the Bank who filed for bankruptcy protection in 2017. The cases are in early phases, with initial motion practice and discovery underway in the Lifescan case. Trial has not been scheduled in either case. • Five civil class action cases have been filed against us by the same plaintiffs’ attorney, seeking to hold the Bank liable for practices relating to, and disclosures in, its deposit agreement pertaining to fees. Four of the five cases have been dismissed, and the following case remains pending and is in early phases of litigati Sipple v. Zions Bancorporation, N.A., brought against us in the District Court of Clark County, Nevada in February 2021 with respect to foreign transaction fees. • Two class action lawsuits, Evans v. CB&T, and Gregory, et. al. v. Zions Bancorporation , were settled in principle in 2022. The settlement in the Evans case was completed in December 2022 and did not have a significant financial impact on the Bank. The parties to the Gregory case sought and obtained final court approval of the settlement on April 24, 2023, with payment to occur in June 2023. This settlement is not expected to have a significant financial impact on the Bank. At least quarterly, we review outstanding and new legal matters, utilizing then available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at March 31, 2023, we estimated that the aggregate range of reasonably possible losses for those matters to be from zero to approximately $ 5 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions 73 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments and actual outcomes will differ from our estimates. These differences may be material. 11. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which represented approximately 80 % of our total revenue in the first quarter of 2023. Only noninterest income is considered to be revenue from contracts with customers in scope of ASC 606. For more information about our revenue recognition from contracts, see Note 17 of our 2022 Form 10-K. Disaggregation of Revenue The schedule below presents net revenue by our operating business segments for the three months ended March 31, 2023 and 2022. 74 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 14 $ 15 $ 7 $ 7 $ 14 $ 11 Card fees 13 13 5 5 8 8 Retail and business banking fees 5 6 3 3 3 4 Capital markets fees — — — — — — Wealth management fees 6 6 1 1 4 4 Other customer-related fees 2 2 1 1 2 1 Total noninterest income from contracts with customers (ASC 606) 40 42 17 17 31 28 Other noninterest income (non-ASC 606 customer-related) 7 4 5 6 8 9 Total customer-related noninterest income 47 46 22 23 39 37 Other noncustomer-related noninterest income 3 — 2 1 2 — Total noninterest income 50 46 24 24 41 37 Net interest income 185 157 160 129 124 112 Total net revenue $ 235 $ 203 $ 184 $ 153 $ 165 $ 149 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 2 $ 2 $ 3 $ 3 $ 2 $ 2 Card fees 4 4 4 3 2 2 Retail and business banking fees 2 2 3 3 1 1 Capital markets fees — — — — — — Wealth management fees 1 1 1 1 — — Other customer-related fees — — — — 1 1 Total noninterest income from contracts with customers (ASC 606) 9 9 11 10 6 6 Other noninterest income (non-ASC 606 customer-related) 1 1 — 2 1 2 Total customer-related noninterest income 10 10 11 12 7 8 Other noncustomer-related noninterest income — 1 — — — — Total noninterest income 10 11 11 12 7 8 Net interest income 64 51 51 37 41 33 Total net revenue $ 74 $ 62 $ 62 $ 49 $ 48 $ 41 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 1 $ 1 $ — $ — $ 43 $ 41 Card fees 1 — ( 1 ) 1 36 36 Retail and business banking fees — — ( 1 ) — 16 19 Capital markets fees — — 1 1 1 1 Wealth management fees — — — — 13 13 Other customer-related fees — — 9 9 15 14 Total noninterest income from contracts with customers (ASC 606) 2 1 8 11 124 124 Other noninterest income (non-ASC 606 customer-related) — — 5 3 27 27 Total customer-related noninterest income 2 1 13 14 151 151 Other noncustomer-related noninterest income — — 2 ( 11 ) 9 ( 9 ) Total noninterest income 2 1 15 3 160 142 Net interest income 16 14 38 11 679 544 Total net revenue $ 18 $ 15 $ 53 $ 14 $ 839 $ 686 Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is generally not significant. 75 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 12. INCOME TAXES The effective income tax rate was 27.7 % for the first quarter of 2023, compared with 20.4 % for the first quarter of 2022. The tax rates during both periods were reduced by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the non-deductibility of Federal Deposit Insurance Corporation (“FDIC”) premiums, certain executive compensation plans, and other fringe benefits. The tax rate for the first quarter of 2023 was higher relative to the same prior year period, primarily as a result of a discrete item that affected the reserve for uncertain tax positions during the current quarter. Discrete items accounted for a four percentage point increase to the effective tax rate during the first quarter of 2023, compared with a two percentage point decrease in the prior year quarter. At both March 31, 2023 and December 31, 2022, we had a net deferred tax asset (“DTA”) totaling $ 1.1 billion. On the consolidated balance sheet, the net DTA is included in “Other assets.” We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more-likely-than-not criteria that such assets will be realized. This evaluation includes, but is not limited to, the followin • Future reversals of existing deferred tax liabilities (“DTLs”) — These DTLs have a reversal pattern generally consistent with DTAs, and are used to realize the DTAs. • Tax planning strategies — We have considered prudent and feasible tax planning strategies that we would implement to preserve the value of the DTAs, if necessary. • Future projected taxable income — We expect future taxable income will offset the reversal of remaining net DTAs. Based on this evaluation, we concluded that a valuation allowance was not required at both March 31, 2023 and December 31, 2022. 13. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: Three Months Ended March 31, (In millions, except shares and per share amounts) 2023 2022 Basic: Net income $ 204 $ 203 Less common and preferred dividends 67 66 Undistributed earnings 137 137 Less undistributed earnings applicable to nonvested shares 1 1 Undistributed earnings applicable to common shares 136 136 Distributed earnings applicable to common shares 61 57 Total earnings applicable to common shares $ 197 $ 193 Weighted average common shares outstanding (in thousands) 148,015 151,285 Net earnings per common share $ 1.33 $ 1.27 Dilut Total earnings applicable to common shares $ 197 $ 193 Weighted average common shares outstanding (in thousands) 148,015 151,285 Dilutive effect of stock options (in thousands) 23 402 Weighted average diluted common shares outstanding (in thousands) 148,038 151,687 Net earnings per common share $ 1.33 $ 1.27 76 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per sh Three Months Ended March 31, (In thousands) 2023 2022 Restricted stock and restricted stock units 1,334 1,339 Stock options 1,230 109 14. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, California Bank & Trust, Amegy Bank, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. Our affiliate banks are supported by an enterprise operating segment (referred to as the “Other” segment) that provides governance and risk management, allocates capital, establishes strategic objectives, and includes centralized technology, back-office functions, and certain lines of business not operated through our affiliate banks. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal funds transfer pricing (“FTP”) allocation process to report results of operations for business segments. This process is subject to change and refinement over time. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. At March 31, 2023, Zions Bank operated 95 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. CB&T operated 77 branches in California. Amegy operated 75 branches in Texas. NBAZ operated 56 branches in Arizona. NSB operated 46 branches in Nevada. Vectra operated 33 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. 77 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the three months ended March 31, 2023 and 2022: Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 185 $ 157 $ 160 $ 129 $ 124 $ 112 Provision for credit losses 24 ( 2 ) — 6 11 ( 27 ) Net interest income after provision for credit losses 161 159 160 123 113 139 Noninterest income 50 46 24 24 41 37 Noninterest expense 135 123 92 84 98 86 Income (loss) before income taxes $ 76 $ 82 $ 92 $ 63 $ 56 $ 90 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 13,978 $ 12,817 $ 14,016 $ 12,845 $ 12,844 $ 11,795 Total average deposits 20,953 26,120 14,644 16,468 13,287 16,413 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 64 $ 51 $ 51 $ 37 $ 41 $ 33 Provision for credit losses ( 1 ) ( 4 ) 4 ( 3 ) 3 ( 4 ) Net interest income after provision for credit losses 65 55 47 40 38 37 Noninterest income 10 11 11 12 7 8 Noninterest expense 47 40 41 37 33 30 Income (loss) before income taxes $ 28 $ 26 $ 17 $ 15 $ 12 $ 15 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 5,150 $ 4,774 $ 3,327 $ 2,817 $ 3,983 $ 3,398 Total average deposits 7,179 7,953 6,972 7,437 3,707 4,298 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 16 $ 14 $ 38 $ 11 $ 679 $ 544 Provision for credit losses 2 — 2 1 45 ( 33 ) Net interest income after provision for credit losses 14 14 36 10 634 577 Noninterest income 2 1 15 3 160 142 Noninterest expense 6 6 60 58 512 464 Income (loss) before income taxes $ 10 $ 9 $ ( 9 ) $ ( 45 ) $ 282 $ 255 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,711 $ 1,591 $ 1,144 $ 896 $ 56,153 $ 50,933 Total average deposits 1,383 1,581 2,031 1,335 70,156 81,605 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Our most significant risks include interest rate and market risk, which are closely monitored by management as previously discussed. For more information regarding interest rate and market risk, see the “Interest Rate and Market Risk Management” section in this Form 10-Q. 78 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 4. CONTROLS AND PROCEDURES Our management, including our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures at March 31, 2023. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at March 31, 2023. There were no changes in our internal control over financial reporting during the first quarter of 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The information contained in Note 10 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 1A. RISK FACTORS We amend the following two risk factors discussed in Part I, Item 1A. Risk Factors in our 2022 Form 10-K: Changes in levels and sources of liquidity and capital, including the resulting effects of recent events in the banking industry, may limit our operations and potential growth. Our primary source of liquidity is deposits from our customers, which may be impacted by market-related forces such as increased competition for these deposits and a variety of other factors. Deposits across the banking industry have been declining in recent quarters in large part due to the increased interest rate environment following the collapse of Silicon Valley Bank and Signature Bank. We, like many other banks, experienced some deposit outflows as customers spread deposits among several different banks to maximize their amount of FDIC insurance, moved deposits to banks deemed “too big to fail,” or removed deposits from the U.S. financial system entirely. Customers with uninsured deposits may be more likely to withdraw funds, particularly if there is negative news surrounding us or perceived risks regarding our safety and soundness. If we are unable to continue to fund assets through customer bank deposits or access funding sources on favorable terms, or if we suffer an increase in borrowing costs or otherwise fail to manage liquidity effectively, our liquidity, operating margins, financial condition and results of operations may be materially and adversely affected. The Federal Reserve's tightened monetary policy may contribute to a decline in the value of our fixed-rate loans and investment securities that are pledged as collateral to support short-term borrowings, and other economic conditions may also affect our liquidity and efforts to manage associated risks. The FHLB system and Federal Reserve have been, and continue to be, a significant source of additional liquidity and funding. Changes in FHLB funding programs could adversely affect our liquidity and management of associated risks. Problems encountered by other financial institutions could adversely affect financial markets generally and have indirect adverse effects on us. The soundness and stability of many financial institutions may be closely interrelated as a result of credit, trading, clearing, or other relationships between the institutions. As a result, concerns about, or a default or threatened default by, one institution could lead to significant market-wide liquidity and credit problems, losses or defaults by other institutions. This is sometimes referred to as “systemic risk” and may adversely affect financial intermediaries, such as clearing agencies, clearing houses, banks, securities firms, and exchanges, with which we interact on a daily basis, and therefore, could adversely affect us. This phenomenon has been evident in the recent events affecting the banking industry, as financial institutions, like us, have been impacted by concerns regarding the soundness or creditworthiness of other financial institutions. This has caused substantial and cascading disruption within the financial markets, increased expenses, and adversely impacted the market price and volatility of our common stock. 79 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following risk factor supplements the risk factors discussed in Part I, Item 1A. Risk Factors in our 2022 Form 10-K: The debt ceiling political battle in Washington D.C. may introduce additional volatility in the U.S. economy including capital and credit markets and the banking industry in particular. The U.S. government is expected to hit its debt ceiling in June 2023, and currently, the Biden administration and the Republican-controlled House of Representatives are at a stalemate. Protracted negotiations concerning the debt ceiling, the government’s failure or expected failure to raise the ceiling, or the possibility of a government shutdown, including the risk of a U.S. credit rating downgrade or default, may introduce additional volatility in the U.S. economy, including capital and credit markets and the banking industry in particular. This may cause disruptions in the financial markets, impact interest rates, and result in other potential unforeseen consequences. In such an event, our liquidity, operating margins, financial condition and results of operations may be materially and adversely affected. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS The following schedule summarizes our share repurchases for the first quarter of 2023: SHARE REPURCHASES Period Total number of shares repurchased 1 Average price paid per share Total number of shares purchased as part of publicly announced plans or programs January 338 $ 51.63 — February 952,742 52.82 946,644 March — — — First quarter 2023 953,080 52.82 946,644 1 Includes common shares acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options under provisions of an employee share-based compensation plan . 80 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 6. EXHIBITS a. Exhibits Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 10.1 Zions Bancorporation 2023-2025 Value Sharing Plan (filed herewith). 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in Inline XBRL (i) the Consolidated Balance Sheets as of March 31, 2023 and December 31, 2022, (ii) the Consolidated Statements of Income for the three months ended March 31, 2023 and March 31, 2022, (iii) the Consolidated Statements of Comprehensive Income for the three months ended March 31, 2023 and March 31, 2022, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the three months ended March 31, 2023 and March 31, 2022, (v) the Consolidated Statements of Cash Flows for the three months ended March 31, 2023 and March 31, 2022, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Quarterly Report on Form 10-Q, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. 81 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZIONS BANCORPORATION, NATIONAL ASSOCIATION /s/ Harris H. Simmons Harris H. Simmons, Chairman and Chief Executive Officer /s/ Paul E. Burdiss Paul E. Burdiss, Executive Vice President and Chief Financial Officer Date: May 5, 2023 82 |
Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) 38 Consolidated Balance Sheets 38 Consolidated Statements of Income 39 Consolidated Statements of Comprehensive Income (Loss) 40 Consolidated Statements of Changes in Shareholders’ Equity 40 Consolidated Statements of Cash Flows 42 Notes to Consolidated Financial Statements 43 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 4 Item 3. Quantitative and Qualitative Disclosures About Market Risk 83 Item 4. Controls and Procedures 84 PART II. OTHER INFORMATION Item 1. Legal Proceedings 84 Item 1A. Risk Factors 84 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 85 Item 6. Exhibits 85 Signatures 86 2 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses IPO Initial Public Offering AFS Available-for-Sale LIBOR London Interbank Offered Rate ALLL Allowance for Loan and Lease Losses LIHTC Low-income Housing Tax Credit Amegy Amegy Bank, a division of Zions Bancorporation, National Association Municipalities State and Local Governments AOCI Accumulated Other Comprehensive Income or Loss NAICS North American Industry Classification System ASC Accounting Standards Codification NASDAQ National Association of Securities Dealers Automated Quotations ASU Accounting Standards Update NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association BOLI Bank-Owned Life Insurance NIM Net Interest Margin bps Basis Points NM Not Meaningful BTFP Bank Term Funding Program NSB Nevada State Bank, a division of Zions Bancorporation, National Association CB&T California Bank & Trust, a division of Zions Bancorporation, National Association OCC Office of the Comptroller of the Currency CECL Current Expected Credit Loss OCI Other Comprehensive Income or Loss CLTV Combined Loan-to-Value Ratio OREO Other Real Estate Owned CRE Commercial Real Estate PAM Proportional Amortization Method CVA Credit Valuation Adjustment PEI Private Equity Investment DTA Deferred Tax Asset PPNR Pre-provision Net Revenue DTL Deferred Tax Liability PPP Paycheck Protection Program EaR Earnings at Risk ROU Right-of-Use EPS Earnings per Share RULC Reserve for Unfunded Lending Commitments EVE Economic Value of Equity S&P Standard & Poor's FASB Financial Accounting Standards Board SBA U.S. Small Business Administration FDIC Federal Deposit Insurance Corporation SBIC Small Business Investment Company FHLB Federal Home Loan Bank SEC Securities and Exchange Commission FICO Fair Isaac Corporation SOFR Secured Overnight Financing Rate FRB Federal Reserve Board TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association FTP Funds Transfer Pricing TDR Troubled Debt Restructuring GAAP Generally Accepted Accounting Principles U.S. United States GCF General Collateral Funding Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association HECL Home Equity Credit Line Zions Bank Zions Bank, a division of Zions Bancorporation, National Association HTM Held-to-Maturity 3 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES PART I. FINANCIAL INFORMATION ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING INFORMATION This quarterly report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • Statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • Statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. Forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although the following list is not comprehensive, important factors that may cause material differences inclu • The quality and composition of our loan and securities portfolios and the quality and composition of our deposits; • Changes in general industry, political and economic conditions, including continued elevated inflation, economic slowdown or recession, or other economic disruptions; changes in interest and reference rates which could adversely affect our revenue and expenses, the value of assets and obligations, and the availability and cost of capital and liquidity; deterioration in economic conditions that may result in increased loan and leases losses; • Securities and capital markets behavior, including volatility and changes in market liquidity and our ability to raise capital; • The impact of bank failures or adverse developments at other banks on general investor sentiment regarding the stability and liquidity of banks; adverse media and other expressions of negative public opinion whether directed at us, other banks, the banking industry generally, or otherwise that may adversely affect our reputation and that of the banking industry; • The possibility that our recorded goodwill could become impaired, which may have an adverse impact on our earnings; • Our ability to recruit and retain talent, including increased competition for qualified candidates as a result of expanded remote-work opportunities and increased compensation expenses; • Competitive pressures and other factors that may affect aspects of our business, such as pricing and demand for our products and services, including the impact of digital commerce and artificial intelligence; • Our ability to complete projects and initiatives and execute on our strategic plans, manage our risks, and achieve our business objectives; • Our ability to provide adequate oversight of our suppliers or prevent inadequate performance by third parties upon whom we rely for the delivery of various products and services; • Our ability to develop and maintain technology, information security systems and controls designed to guard against fraud, cybersecurity, and privacy risks; 4 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES • Changes and uncertainties in applicable laws, and fiscal, monetary, regulatory, trade, and tax policies, and actions taken by governments, agencies, central banks, and similar organizations, including increases in bank fees, insurance assessments, capital standards, and other regulatory requirements; • The effects of pandemics and other health emergencies that may affect our business, employees, customers, and communities; • The effects of wars and geopolitical conflicts, and other local, national, or international disasters, crises, or conflicts that may occur in the future; • Natural disasters that may impact our and our customer's operations and business; and • Governmental and social responses to environmental, social, and governance issues, including those with respect to climate change. We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any forward-looking statements to reflect future events or developments. RECENT DEVELOPMENTS Beginning in the first quarter of 2023 and continuing into the second quarter, the banking industry, particularly regional banks, experienced weakness in bank valuations and a significant withdrawal of predominately uninsured deposits. As a result, several regional banks were closed and placed into receivership with the Federal Deposit Insurance Corporation (“FDIC”). The root causes of the bank closures generally related to weaknesses in liquidity risk, interest rate risk, and capital management. During the second quarter of 2023, we managed the associated risks through the following actio • Generated deposit growth through a combination of competitive interest rates and expanded utilization of reciprocal and brokered deposit programs; • Increased total available liquidity sources, which far exceed our level of uninsured deposits; • Actively managed our interest rate and market risk exposures through a rebalancing of our accounting hedges for both fixed-rate available-for-sale (“AFS”) securities and variable-rate commercial loans; and • Further strengthened our regulatory capital position through increased retained earnings. RESULTS OF OPERATIONS Comparisons noted below are calculated for the current quarter compared with the same prior-year period unless otherwise specified. Growth rates of 100% or more are considered not meaningful (“NM”) as they generally reflect a low starting point. Executive Summary Our financial results in the second quarter of 2023 reflected solid sequential customer deposit growth and continued strong credit quality. Diluted earnings per share (“EPS”) was $1.11, compared with $1.29 in the second quarter of 2022, as an increase in noninterest income was offset by higher noninterest expense and provision for credit losses. Net interest income remained relatively stable at $591 million, compared with the prior year quarter, as higher earning asset yields were offset by an increase in interest paid on deposits and short-term borrowings. Net interest income was also impacted by a reduction in interest-earning assets and a significant increase in interest-bearing liabilities. The net interest margin (“NIM”) was 2.92%, compared with 2.87%. The provision for credit losses was $46 million, compared with a $41 million provision in the prior year period, reflecting deterioration in economic forecasts. Total customer-related noninterest income increased $8 million, or 5%, compared with the prior year period. The increase was driven primarily by improved commercial account activity, including treasury management fees, as well as loan syndication, swaps, and other capital markets income. Total noninterest income increased $17 million, or 10%, primarily due to a $13 million gain on the sale of a bank-owned property. 5 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Total noninterest expense increased $44 million, or 9%, relative to the prior year quarter, driven largely by an increase in salaries and benefits expense of $17 million, or 6%, primarily due to $13 million in severance expense during the current quarter. Our efficiency ratio was 62.5%, compared with 60.7%, as growth in adjusted noninterest expense outpaced growth in adjusted taxable-equivalent revenue. Average interest-earning assets decreased $1.5 billion, or 2%, from the prior year quarter, driven by declines of $4.5 billion and $2.0 billion in average securities and average money market investments, respectively, and partially offset by an increase of $4.9 billion in average loans and leases. Average interest-bearing liabilities increased $11.2 billion, or 27%, from the prior year quarter, driven by increases of $7.5 billion and $3.7 billion in average short-term borrowings and average federal funds purchased and security repurchase agreements, respectively. Total loans and leases increased $4.5 billion, or 9%, to $56.9 billion. The increase was primarily in the consumer 1-4 family residential mortgage, commercial and industrial, commercial real estate term, and consumer construction loan portfolios. Nonperforming assets decreased $37 million, or 18%, and classified loans decreased $241 million, or 24%. Net loan and lease charge-offs totaled $13 million, compared with $9 million, in the prior year quarter. Total deposits decreased $4.7 billion, or 6%, from the prior year quarter, mainly due to decreases in larger-balance and more rate-sensitive deposits during the first quarter of 2023. Total deposits increased $5.1 billion, or 7%, from March 31, 2023, due to increases of $3.1 billion and $2.0 billion in brokered and customer deposits, respectively. At June 30, 2023, total customer deposits included approximately $3.4 billion from reciprocal placement products. Borrowed funds, consisting primarily of secured borrowings from the Federal Home Loan Bank (“FHLB”), increased $4.4 billion from the prior year quarter in response to loan growth and the decline in noninterest-bearing deposits. Second Quarter 2023 Financial Performance Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency Ratio Net earnings applicable to common shareholders decreased from the second quarter of 2022, primarily due to an increase in noninterest expense, driven largely by severance and higher FDIC insurance costs. This increase was partially offset by growth in noninterest income. The decrease from the first quarter of 2023 reflected a decrease in interest-earning assets, an increase in interest-bearing liabilities, and an increase in associated funding costs. Diluted earnings per share declined from the second quarter of 2022 primarily as a result of decreased net earnings applicable to common shareholders. Adjusted pre-provision net revenue (“PPNR”) decreased from the second quarter of 2022, primarily due to higher adjusted noninterest expense, which was driven largely by higher FDIC insurance costs. This increase was largely offset by higher adjusted taxable-equivalent revenue. The efficiency ratio increased from the prior year quarter, as growth in adjusted noninterest expense exceeded growth in adjusted taxable-equivalent revenue. 6 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Net Interest Income and Net Interest Margin NET INTEREST INCOME AND NET INTEREST MARGIN Three Months Ended June 30, Amount change Percent change Six Months Ended June 30, Amount change Percent change (Dollar amounts in millions) 2023 2022 2023 2022 Interest and fees on loans 1 $ 791 $ 468 $ 323 69 % $ 1,517 $ 905 $ 612 68 % Interest on money market investments 48 12 36 NM 105 18 87 NM Interest on securities 138 128 10 8 275 240 35 15 Total interest income 977 608 369 61 1,897 1,163 734 63 Interest on deposits 220 7 213 NM 302 13 289 NM Interest on short- and long-term borrowings 166 8 158 NM 325 13 312 NM Total interest expense 386 15 371 NM 627 26 601 NM Net interest income $ 591 $ 593 $ (2) — % $ 1,270 $ 1,137 $ 133 12 % Average interest-earning assets $ 82,500 $ 84,041 $ (1,541) (2) % $ 83,161 $ 85,061 $ (1,900) (2) % Average interest-bearing liabilities $ 52,453 $ 41,234 $ 11,219 27 % $ 50,742 $ 41,683 $ 9,059 22 % bps bps Yield on interest-earning assets 2 4.81 % 2.94 % 187 4.65 % 2.80 % 185 Rate paid on total deposits and interest-bearing liabilities 2 1.88 % 0.07 % 181 1.54 % 0.06 % 148 Cost of total deposits 2 1.27 % 0.03 % 124 0.87 % 0.03 % 84 Net interest margin 2 2.92 % 2.87 % 5 3.13 % 2.73 % 40 1 Includes interest income recoveries of $2 million and $4 million for the three months ended, and $4 million and $6 million for the six months ended June 30, 2023, and 2022, respectively. 2 Rates are calculated using amounts in thousands; taxable-equivalent rates are used where applicable. Net interest income accounted for approximately 76% of our net revenue (net interest income plus noninterest income) for the current quarter and remained relatively stable compared with the prior year quarter, as higher earning asset yields were offset by an increase in interest paid on deposits and short-term borrowings. Net interest income was also impacted by a reduction in interest-earning assets and a significant increase in interest-bearing liabilities. Average interest-earning assets decreased $1.5 billion, or 2%, from the prior year quarter, driven by declines of $4.5 billion and $2.0 billion in average securities and average money market investments, respectively, and was partially offset by an increase of $4.9 billion in average loans and leases. The decline in average securities was primarily due to payments and maturities. Average interest-bearing liabilities increased $11.2 billion, or 27%, from the prior year quarter, driven by increases of $7.5 billion and $3.7 billion in average short-term borrowings and average federal funds purchased and security repurchase agreements, respectively. The increase in borrowed funds helped to balance loan growth and the decline in noninterest-bearing deposits. The NIM was 2.92%, compared with 2.87%. The yield on average interest-earning assets was 4.81% in the second quarter of 2023, an increase of 187 basis points (“bps”), reflecting higher interest rates and a favorable mix change from money market investments to loans. The yield on average loans increased 198 basis points to 5.65%, and the yield on average securities increased 59 basis points to 2.56%. The yield on average securities benefited from a decrease in the market value of AFS securities due to rising interest rates. The rate paid on average interest-bearing liabilities increased to 2.95%, compared with 0.14%, reflecting the higher interest rate environment, competitive pricing, and increased borrowed funds. 7 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Average loans and leases increased $4.9 billion, or 9%, to $56.7 billion, mainly due to growth in average consumer and commercial loans. The yield on total loans increased 198 basis points to 5.65%, reflecting the higher interest rate environment. Average securities decreased $4.5 billion, or 17%, to $22.0 billion, primarily due to approximately $3.6 billion in principal reductions. During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the held-to-maturity (“HTM”) category to reflect our intent for these securities. 8 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Average deposits decreased $11.2 billion, or 14%, to $69.7 billion at an average cost of 1.27%, from $80.9 billion at an average cost of 0.03% in the second quarter of 2022. Average noninterest-bearing deposits as a percentage of total deposits were 43%, compared with 51% during the same prior year period. The decrease in average deposits was driven by a decline in average noninterest-bearing deposits as interest rates increased. In recent years, particularly during the COVID-19 pandemic, we experienced a significant influx of deposits, which was impacted by considerable fiscal and monetary policy decisions. During the prior year, with the withdrawal of stimulus by the federal government, our deposits began to decline to more normalized levels. This trend accelerated with prominent bank failures during the first quarter of 2023 and abated during the second quarter of 2023, with period-end deposits increasing meaningfully from March 31, 2023 to June 30, 2023. Total deposits have remained above pre-pandemic (December 31, 2019) levels during 2023. Average borrowed funds, consisting primarily of secured borrowings from the FHLB, increased $11.2 billion from the prior year quarter in response to loan growth and the decline in noninterest-bearing deposits. For more information on our investments securities portfolio and borrowed funds and how we manage liquidity risk, refer to the “Investment Securities Portfolio” section on page 16 and the “Liquidity Risk Management” section on page 31. For further discussion of the effects of market rates on net interest income and how we manage interest rate risk, refer to the “Interest Rate and Market Risk Management” section on page 27. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 9 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED AVERAGE BALANCE SHEETS, YIELDS AND RATES (Unaudited) Three Months Ended June 30, 2023 Three Months Ended June 30, 2022 (Dollar amounts in millions) Average balance Amount of interest 1 Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 2,899 $ 37 5.08 % $ 3,113 $ 5 0.66 % Federal funds sold and securities purchased under agreements to resell 784 11 5.65 2,542 7 1.13 Total money market investments 3,683 48 5.20 5,655 12 0.87 Securiti Held-to-maturity 10,833 60 2.24 485 4 2.96 Available-for-sale 2 11,180 80 2.85 25,722 123 1.91 Trading 52 1 4.78 357 4 5.07 Total securities 22,065 141 2.56 26,564 131 1.97 Loans held for sale 73 1 7.08 38 — 0.72 Loans and leases Commercial 30,650 417 5.46 28,952 275 3.81 Commercial real estate 12,933 225 6.97 12,098 112 3.69 Consumer 13,096 156 4.80 10,734 87 3.24 Total loans and leases 56,679 798 5.65 51,784 474 3.67 Total interest-earning assets 82,500 988 4.81 84,041 617 2.94 Cash and due from banks 653 617 Allowance for credit losses on loans and debt securities (619) (480) Goodwill and intangibles 1,063 1,015 Other assets 5,524 4,712 Total assets $ 89,121 $ 89,905 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 30,325 $ 113 1.49 % $ 38,325 $ 6 0.06 % Time 9,494 107 4.55 1,488 1 0.24 Total interest-bearing deposits 39,819 220 2.22 39,813 7 0.07 Borrowed funds: Federal funds and security repurchase agreements 4,423 57 5.11 737 1 0.70 Other short-term borrowings 7,575 100 5.28 6 — — Long-term debt 636 9 5.97 678 7 3.79 Total borrowed funds 12,634 166 5.26 1,421 8 2.17 Total interest-bearing liabilities 52,453 386 2.95 41,234 15 0.14 Noninterest-bearing demand deposits 29,830 41,074 Other liabilities 1,580 1,575 Total liabilities 83,863 83,883 Shareholders’ equity: Preferred equity 440 440 Common equity 4,818 5,582 Total shareholders’ equity 5,258 6,022 Total liabilities and shareholders’ equity $ 89,121 $ 89,905 Spread on average interest-bearing funds 1.86 % 2.80 % Net impact of noninterest-bearing sources of funds 1.06 % 0.07 % Net interest margin $ 602 2.92 % $ 602 2.87 % Me total cost of deposits 1.27 % 0.03 % Me total deposits and interest-bearing liabilities $ 82,283 386 1.88 % $ 82,308 15 0.07 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. 2 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 10 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2023 Six Months Ended June 30, 2022 (Dollar amounts in millions) Average balance Amount of interest 1 Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 2,771 $ 68 4.98 % $ 4,914 $ 8 0.34 % Federal funds sold and securities purchased under agreements to resell 1,428 37 5.19 2,422 10 0.84 Total money market investments 4,199 105 5.05 7,336 18 0.50 Securiti Held-to-maturity 10,928 122 2.26 462 7 3.04 Available-for-sale 2 11,500 156 2.73 25,485 229 1.81 Trading 78 1 2.14 370 9 4.91 Total securities 22,506 279 2.50 26,317 245 1.88 Loans held for sale 39 1 6.67 48 — 1.44 Loans and leases Commercial 30,664 798 5.25 28,725 535 3.76 Commercial real estate 12,904 434 6.78 12,134 213 3.53 Consumer 12,849 300 4.71 10,501 169 3.24 Total loans and leases 56,417 1,532 5.48 51,360 917 3.60 Total interest-earning assets 83,161 1,917 4.65 85,061 1,180 2.80 Cash and due from banks 598 621 Allowance for credit losses on loans and debt securities (597) (497) Goodwill and intangibles 1,064 1,015 Other assets 5,574 4,463 Total assets $ 89,800 $ 90,663 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 31,585 $ 175 1.12 % $ 38,726 $ 11 0.05 % Time 6,232 127 4.11 1,538 2 0.25 Total interest-bearing deposits 37,817 302 1.61 40,264 13 0.06 Borrowed funds: Federal funds and security repurchase agreements 5,015 121 4.85 661 1 0.43 Other short-term borrowings 7,266 184 5.09 8 — — Long-term debt 644 20 6.42 750 12 3.17 Total borrowed funds 12,925 325 5.07 1,419 13 1.88 Total interest-bearing liabilities 50,742 627 2.49 41,683 26 0.12 Noninterest-bearing demand deposits 32,084 40,980 Other liabilities 1,817 1,422 Total liabilities 84,643 84,085 Shareholders’ equity: Preferred equity 440 440 Common equity 4,717 6,138 Total shareholders’ equity 5,157 6,578 Total liabilities and shareholders’ equity $ 89,800 $ 90,663 Spread on average interest-bearing funds 2.16 % 2.68 % Net impact of noninterest-bearing sources of funds 0.97 % 0.05 % Net interest margin $ 1,290 3.13 % $ 1,154 2.73 % Me total cost of deposits 0.87 % 0.03 % Me total deposits and interest-bearing liabilities $ 82,826 627 1.54 % $ 82,663 26 0.06 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. 2 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 11 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans and is recorded in investment securities on the consolidated balance sheet. The provision for credit losses, which is the combination of both the provision for loan and lease losses and the provision for unfunded lending commitments, was $46 million, compared with $41 million in the second quarter of 2022. The ACL was $711 million at June 30, 2023, compared with $546 million at June 30, 2022. The increase in the ACL was primarily due to deterioration in economic forecasts. The ratio of ACL to total loans and leases was 1.25% and 1.04% at June 30, 2023 and 2022, respectively. The provision for securities losses was less than $1 million during the second quarter of 2023 and 2022. 12 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The bar chart above illustrates the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic forecasts and current economic conditions, which increased the ACL by $149 million from the prior year quarter. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, increased the ACL by $3 million, reflecting relatively stable credit quality. Nonperforming assets decreased $37 million, or 18%, and classified loans decreased $241 million, or 24%. Net loan and lease charge-offs totaled $13 million, or 0.09% annualized of average loans, compared with net charge-offs of $9 million, or 0.07% annualized of average loans in the prior year quarter. The fourth bar represents loan portfolio changes, driven primarily by loan growth, as well as changes in portfolio mix, the aging of the portfolio, and other risk factors; all of which resulted in a $13 million increase in the ACL. See “Credit Risk Management” on page 20 and Note 6 in our 2022 Form 10-K for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue earned from products and services that generally have no associated interest rate or yield and is classified as either customer-related or noncustomer-related. Customer-related noninterest income excludes items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income increased $17 million, or 10%, relative to the prior year. Noninterest income accounted for approximately 24% and 22% of our net revenue during the second quarter of 2023 and 2022, respectively. The following schedule presents a comparison of the major components of noninterest income. NONINTEREST INCOME Three Months Ended June 30, Amount change Percent change Six Months Ended June 30, Amount change Percent change (Dollar amounts in millions) 2023 2022 2023 2022 Commercial account fees $ 45 $ 37 $ 8 22 % $ 88 $ 78 $ 10 13 % Card fees 25 25 — — 49 50 (1) (2) Retail and business banking fees 16 20 (4) (20) 32 40 (8) (20) Loan-related fees and income 19 21 (2) (10) 40 43 (3) (7) Capital markets fees 27 21 6 29 44 36 8 22 Wealth management fees 14 13 1 8 29 27 2 7 Other customer-related fees 16 17 (1) (6) 31 31 — — Customer-related noninterest income 162 154 8 5 313 305 8 3 Fair value and nonhedge derivative income 1 10 (9) (90) (2) 16 (18) NM Dividends and other income (loss) 26 7 19 NM 37 9 28 NM Securities gains (losses), net — 1 (1) NM 1 (16) 17 NM Noncustomer-related noninterest income 27 18 9 50 36 9 27 NM Total noninterest income $ 189 $ 172 $ 17 10 % $ 349 $ 314 $ 35 11 % Customer-related Noninterest Income Total customer-related noninterest income increased $8 million, or 5%, compared with the prior year period. The increase was driven primarily by improved commercial account activity, including treasury management fees, as well as loan syndication, swaps, and other capital markets income. Retail and business banking fees decreased largely as a result of a change in our overdraft and non-sufficient funds practices effected during the third quarter of 2022. 13 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Noncustomer-related Noninterest Income Total noncustomer-related noninterest income increased $9 million from the prior year quarter. Dividends and other income increased $19 million, primarily due to a $13 million gain on the sale of a bank-owned property, as well as an increase in dividends on FHLB stock. These increases were offset by a $9 million decrease in fair value and nonhedge derivative income, primarily due to a $10 million credit valuation adjustment (“CVA”) gain in the prior year period. Noninterest Expense The following schedule presents a comparison of the major components of noninterest expense. NONINTEREST EXPENSE Three Months Ended June 30, Amount change Percent change Six Months Ended June 30, Amount change Percent change (Dollar amounts in millions) 2023 2022 2023 2022 Salaries and employee benefits $ 324 $ 307 $ 17 6 % $ 663 $ 619 $ 44 7 % Technology, telecom, and information processing 58 53 5 9 113 105 8 8 Occupancy and equipment, net 40 36 4 11 80 74 6 8 Professional and legal services 16 14 2 14 29 28 1 4 Marketing and business development 13 9 4 44 25 17 8 47 Deposit insurance and regulatory expense 22 13 9 69 40 23 17 74 Credit-related expense 7 7 — — 13 14 (1) (7) Other real estate expense, net — — — NM — 1 (1) NM Other 28 25 3 12 57 47 10 21 Total noninterest expense $ 508 $ 464 $ 44 9 % $ 1,020 $ 928 $ 92 10 % Adjusted noninterest expense 1 $ 494 $ 463 $ 31 7 % $ 1,003 $ 927 $ 76 8 % 1 For information on non-GAAP financial measures, see “Non-GAAP Financial Measures” on page 35. Total noninterest expense increased $44 million, or 9%, relative to the prior year quarter. Salaries and benefits expense increased $17 million, or 6%, primarily due to $13 million in severance expense during the current quarter, reflecting our commitment to manage expenses. Deposit insurance and regulatory expense increased $9 million, or 69%, driven largely by an increased FDIC insurance base rate beginning in 2023 and changes in balance sheet composition. In May 2023, the FDIC issued a Notice of Proposed Rulemaking, which would implement a special assessment to recover the cost associated with protecting uninsured depositors following the closures of Silicon Valley Bank and Signature Bank. Using an assessment base equal to the estimated amount of uninsured deposits at December 31, 2022, the FDIC proposed to collect the special assessment at an annual rate of approximately 12.5 bps over eight quarterly periods, beginning the first quarter of 2024. As proposed, we estimate the total impact of the special assessment on our deposit insurance and regulatory expense would be approximately $80 million. At June 30, 2023, we had not accrued for any portion of this estimated amount. The ultimate impact and timing of expense recognition will depend on the final rule, which is not expected until late 2023. Technology, telecom, and information processing expense increased $5 million, or 9%, primarily due to increases in application software, maintenance, and related amortization expenses. The efficiency ratio was 62.5%, compared with 60.7%, as growth in adjusted noninterest expense outpaced growth in adjusted taxable-equivalent revenue. For information on non-GAAP financial measures, see page 35. Technology Spend Technology spend represents expenditures associated with technology-related investments, operations, systems, and infrastructure, and includes current period expenses reported on our consolidated statement of income, and capitalized investments, net of related amortization and depreciation, reported on our consolidated balance sheet. Technology spend is reported as a combination of the followin 14 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES • Technology, telecom, and information processing expense — includes expenses related to application software licensing and maintenance, related amortization, telecommunications, and data processing; • Other technology-related expense — includes related noncapitalized salaries and employee benefits, occupancy and equipment, and professional and legal services; and • Technology investments — includes capitalized technology infrastructure equipment, hardware, and purchased or internally developed software, less related amortization or depreciation. The following schedule presents the composition of our technology spen TECHNOLOGY SPEND Three Months Ended June 30, Amount change Percent change Six Months Ended June 30, Amount change Percent change (In millions) 2023 2022 2023 2022 Technology, telecom, and information processing expense $ 58 $ 53 $ 5 9 % $ 113 $ 105 $ 8 8 % Other technology-related expense 56 51 5 10 110 100 10 10 Technology investments 23 22 1 5 49 44 5 11 L related amortization and depreciation (16) (13) (3) 23 (30) (27) (3) 11 Total technology spend $ 121 $ 113 $ 8 7 % $ 242 $ 222 $ 20 9 % Total technology spend increased $8 million relative to the prior year quarter, largely due to technology-related compensation, investments in application resiliency, and increases in application software and maintenance expense. Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods presented. INCOME TAXES Three Months Ended June 30, Six Months Ended June 30, (Dollar amounts in millions) 2023 2022 2023 2022 Income before income taxes $ 226 $ 260 $ 508 $ 515 Income tax expense 51 57 129 109 Effective tax rate 22.6 % 21.9 % 25.4 % 21.2 % The effective tax rate was 22.6% and 21.9% for the three months ended June 30, 2023 and 2022, respectively. See Note 12 of the Notes to Consolidated Financial Statements for more information about the factors that impacted the income tax rates, as well as information about deferred income tax assets and liabilities, and valuation allowances. Preferred Stock Dividends Preferred stock dividends totaled $9 million and $8 million for the second quarter of 2023 and 2022, respectively. BALANCE SHEET ANALYSIS Interest-Earning Assets Interest-earning assets have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see the Consolidated Average Balance Sheet on page 10. 15 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Investment Securities Portfolio We invest in securities to actively manage liquidity and interest rate risk and to generate interest income. We primarily own securities that can readily provide us with cash and liquidity through secured borrowing agreements without the need to sell the securities. We also manage the duration extension risk of our investment securities portfolio. At June 30, 2023, the estimated duration of our securities portfolio decreased to 3.7 years, compared with 4.1 years at December 31, 2022, and 3.9 years at June 30, 2022, primarily due to the addition of certain portfolio layer method fair value hedges. See Note 7 for more information on these fair value hedges. This duration helps to manage the inherent interest rate mismatch between loans and deposits, as fixed-rate term investments facilitate the balancing of asset and liability durations, as well as protect the economic value of shareholders' equity. For information about our borrowing capacity associated with the investment securities portfolio and how we manage our liquidity risk, refer to the “Liquidity Risk Management” section on page 31. See also Note 3 and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. The following schedule presents the major components of our investment securities portfolio. INVESTMENT SECURITIES PORTFOLIO June 30, 2023 December 31, 2022 (In millions) Par Value Amortized cost Fair value Par Value Amortized cost Fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 96 $ 96 $ 90 $ 100 $ 100 $ 93 Agency guaranteed mortgage-backed securities 1 12,456 10,289 10,335 12,921 10,621 10,772 Municipal securities 368 368 343 404 405 374 Total held-to-maturity 12,920 10,753 10,768 13,425 11,126 11,239 Available-for-sale U.S. Treasury securities 565 565 475 555 557 393 U.S. Government agencies and corporatio Agency securities 724 717 677 790 782 736 Agency guaranteed mortgage-backed securities 8,913 8,991 7,647 9,566 9,652 8,367 Small Business Administration loan-backed securities 604 646 619 691 740 712 Municipal securities 1,350 1,480 1,391 1,571 1,732 1,634 Other debt securities 25 25 23 75 75 73 Total available-for-sale 12,181 12,424 10,832 13,248 13,538 11,915 Total HTM and AFS investment securities $ 25,101 $ 23,177 $ 21,600 $ 26,673 $ 24,664 $ 23,154 1 During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category. The transfer of these securities from AFS to HTM at fair value resulted in a discount to the amortized cost basis of the HTM securities equivalent to the $2.4 billion ($1.8 billion after tax) of unrealized losses in AOCI attributable to these securities. The amortization of the unrealized losses will offset the effect of the accretion of the discount created by the transfer. At June 30, 2023, the unamortized discount on the HTM securities totaled approximately $2.2 billion ($1.7 billion after tax). The amortized cost of total HTM and AFS investment securities decreased $1.5 billion, or 6%, from December 31, 2022, primarily due to payments and maturities. Approximately 8% of the total HTM and AFS investment securities were floating-rate instruments at both June 30, 2023 and December 31, 2022, respectively. Additionally, at June 30, 2023, we have $3.6 billion of pay-fixed swaps held as fair value hedges against fixed-rate AFS securities that effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. At June 30, 2023, the AFS investment securities portfolio included approximately $243 million of net premium that was distributed across the various security categories. Total taxable-equivalent premium amortization for these investment securities was $22 million for the second quarter of 2023, compared with $27 million for the same prior year period. 16 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES In addition to HTM and AFS securities, we also have a trading securities portfolio that totaled $32 million at June 30, 2023, compared with $465 million at December 31, 2022. The prior year-end amount included $395 million of money market mutual sweep accounts. Beginning in the first quarter of 2023, related sweep balances were presented in “Money market investments” on the consolidated balance sheet. Refer to the “Interest Rate Risk Management” section on page 27, the “Capital Management” section on page 33, and Note 5 of the Notes to Consolidated Financial Statements for more discussion regarding our investment securities portfolio, swaps, and related unrealized gains and losses. Municipal Investments and Extensions of Credit We support our communities by providing products and services to state and local governments (“municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. Our municipal lending products generally include loans in which the debt service is repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. The following schedule summarizes our total investments and extensions of credit to municipaliti MUNICIPAL INVESTMENTS AND EXTENSIONS OF CREDIT (In millions) June 30, 2023 December 31, 2022 Loans and leases $ 4,354 $ 4,361 Held-to-maturity securities 368 405 Available-for-sale securities 1,391 1,634 Trading securities 32 71 Unfunded lending commitments 361 406 Total $ 6,506 $ 6,877 Our municipal loans and securities are primarily associated with municipalities located within our geographic footprint. The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. At June 30, 2023, we had no municipal loans on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At June 30, 2023, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. Loan and Lease Portfolio We provide a wide range of lending products to commercial customers, generally small- and medium-sized businesses. We also provide various retail lending products and services to consumers and small businesses. The following schedule presents the composition of our loan and lease portfolio. 17 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES LOAN AND LEASE PORTFOLIO June 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 16,622 29.2 % $ 16,377 29.4 % Leasing 388 0.7 386 0.7 Owner-occupied 9,328 16.4 9,371 16.8 Municipal 4,354 7.6 4,361 7.8 Total commercial 30,692 53.9 30,495 54.8 Commercial real estate: Construction and land development 2,498 4.4 2,513 4.5 Term 10,406 18.3 10,226 18.4 Total commercial real estate 12,904 22.7 12,739 22.9 Consume Home equity credit line 3,291 5.8 3,377 6.1 1-4 family residential 7,980 14.0 7,286 13.1 Construction and other consumer real estate 1,434 2.5 1,161 2.1 Bankcard and other revolving plans 466 0.8 471 0.8 Other 150 0.3 124 0.2 Total consumer 13,321 23.4 12,419 22.3 Total loans and leases $ 56,917 100.0 % $ 55,653 100.0 % At June 30, 2023 and December 31, 2022, the ratio of loans and leases to total assets was 65% and 62%, respectively. The largest loan category was commercial and industrial loans, which constituted 29% of our total loan portfolio at both time periods. During the first six months of 2023, the loan and lease portfolio increased $1.3 billion, or 2%, to $56.9 billion at June 30, 2023, primarily due to growth of $0.7 billion in consumer 1-4 family residential mortgage loans, driven mainly from an increased demand for adjustable-rate mortgages. Other Noninterest-Bearing Investments Other noninterest-bearing investments are equity investments that are held primarily for capital appreciation, dividends, or for certain regulatory requirements. The following schedule summarizes our related investments. OTHER NONINTEREST-BEARING INVESTMENTS (Dollar amounts in millions) June 30, 2023 December 31, 2022 Amount change Percent change Bank-owned life insurance $ 549 $ 546 $ 3 1 % Federal Home Loan Bank stock 111 294 (183) (62) Federal Reserve stock 65 68 (3) (4) Farmer Mac stock 21 19 2 11 SBIC investments 177 172 5 3 Other 33 31 2 6 Total other noninterest-bearing investments $ 956 $ 1,130 $ (174) (15) % Total other noninterest-bearing investments decreased $174 million, or 15%, during the first six months of 2023, primarily due to a $183 million decrease in FHLB stock. We are required to invest approximately 4% of our FHLB borrowings in FHLB stock to maintain our borrowing capacity. The decrease in FHLB stock was driven by declines in FHLB borrowings during the second quarter of 2023 in response to an increase in total deposits. 18 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Premises, Equipment, and Software We are in the final phase of a three-phase project to replace our core loan and deposit banking systems. This final phase includes the replacement of our deposit banking systems through multiple affiliate bank conversions, the first of which was completed in the second quarter of 2023. We expect to complete the remaining affiliate bank conversions in 2024. The following schedule summarizes the capitalized costs associated with our core system replacement project, which are depreciated using a useful life of ten years. CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT June 30, 2023 (In millions) Phase 1 Phase 2 Phase 3 Total Total amount of capitalized costs, less accumulated depreciation $ 25 $ 50 $ 221 $ 296 Deposits Deposits are our primary funding source. In recent years, particularly during the COVID-19 pandemic, we experienced a significant influx of deposits, which was impacted by considerable fiscal and monetary policy decisions. During the prior year, with the withdrawal of stimulus by the federal government, our deposits began to decline to more normalized levels. This trend accelerated with prominent bank failures during the first quarter of 2023 and abated during the second quarter of 2023, with period-end deposits increasing meaningfully from March 31, 2023 to June 30, 2023. Total deposits have remained above pre-pandemic (December 31, 2019) levels during 2023. The following schedule presents the composition of our deposit portfolio. DEPOSIT PORTFOLIO June 30, 2023 March 31, 2023 December 31, 2022 December 31, 2019 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Amount % of total deposits Amount % of total deposits Deposits by type Noninterest-bearing demand $ 28,670 38.6 % $ 30,974 44.8 % $ 35,777 49.9 % $ 23,576 41.3 % Interest-bearin Savings and money market 33,303 44.8 30,826 44.5 33,474 46.7 28,249 49.5 Time 3,897 5.2 2,024 2.9 1,484 2.1 2,451 4.3 Brokered 8,453 11.4 5,384 7.8 917 1.3 2,809 4.9 Total deposits $ 74,323 100.0 % $ 69,208 100.0 % $ 71,652 100.0 % $ 57,085 100.0 % Deposit-related metrics Estimated amount of insured deposits $ 43,911 59 % $ 37,846 55 % $ 34,018 47 % $ 28,802 50 % Estimated amount of uninsured deposits $ 30,412 41 % $ 31,362 45 % $ 37,634 53 % $ 28,283 50 % Estimated amount of collateralized deposits 1 $ 2,679 3.6 % $ 2,708 3.9 % $ 2,861 4.0 % $ 1,928 3.4 % Loan-to-deposit ratio 77 % 81 % 78 % 85 % 1 Includes both insured and uninsured deposits. 19 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Total deposits increased $5.1 billion, or 7%, from March 31, 2023, and $2.7 billion, or 4%, from December 31, 2022. These increases were primarily due to significant growth in brokered and customer deposits, and partially offset by a decline in noninterest-bearing deposits as interest rates have risen. At June 30, 2023, total customer deposits included approximately $3.4 billion from reciprocal placement products where we distributed our customers’ deposits in a placement network to increase their FDIC insurance and in return we received a matching amount of deposits from other network banks. At June 30, 2023, the estimated total amount of uninsured deposits was $30.4 billion, or 41%, of total deposits, compared with $31.4 billion, or 45%, and $37.6 billion, or 53%, of total deposits at March 31, 2023 and December 31, 2022, respectively. Our loan-to-deposit ratio was 77%, compared with 81% and 78% for the same time periods. See “Liquidity Risk Management” on page 31 for additional information on liquidity and borrowed funds. RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We employ various strategies to prudently manage the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cybersecurity risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by various management committees including the Enterprise Risk Management Committee. For a more comprehensive discussion of these risks, see “Risk Factors” in our 2022 Form 10-K. Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. Credit policies, credit risk management, and credit examination functions inform and support the oversight of credit risk. Our credit policies emphasize strong underwriting standards and early detection of potential problem credits in order to develop and implement action plans on a timely basis to mitigate potential losses. These formal credit policies and procedures provide us with a framework for consistent underwriting and a basis for sound credit decisions at the local banking affiliate level. Our overall credit risk management strategy includes diversification of our loan portfolio. Our business activity is conducted primarily within the geographic footprint of our banking affiliates. We strive to avoid the risk of undue concentrations of credit in any particular industry, collateral type, location, or with any individual customer or counterparty. We have actively managed the credit risk in our commercial real estate (“CRE”) portfolio for more than a decade, having reduced CRE loans to 23% of total loans, compared with 33% in late 2008. For a more comprehensive discussion of our credit risk management, see “Credit Risk Management” in our 2022 Form 10-K. U.S. Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by United States (“U.S.”) government agencies, such as the Small Business Administration (“SBA”), Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At June 30, 2023, $593 million of related loans were guaranteed, primarily by the SBA, and included $125 million of Paycheck Protection Program (“PPP”) loans. The following schedule presents the composition of U.S. government agency guaranteed loans. U.S. GOVERNMENT AGENCY GUARANTEED LOANS (Dollar amounts in millions) June 30, 2023 Percent guaranteed December 31, 2022 Percent guaranteed Commercial $ 703 81 % $ 753 83 % Commercial real estate 24 79 21 76 Consumer 5 100 5 100 Total loans $ 732 81 % $ 779 83 % 20 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. COMMERCIAL LENDING BY INDUSTRY GROUP 1 June 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Real estate, rental, and leasing $ 2,923 9.5 % $ 2,802 9.2 % Retail trade 2,842 9.3 2,751 9.0 Finance and insurance 2,634 8.6 2,992 9.8 Healthcare and social assistance 2,495 8.1 2,373 7.8 Public Administration 2,376 7.7 2,366 7.8 Manufacturing 2,319 7.5 2,387 7.8 Wholesale trade 1,918 6.3 1,880 6.2 Utilities 2 1,590 5.2 1,418 4.6 Transportation and warehousing 1,501 4.9 1,464 4.8 Mining, quarrying, and oil and gas extraction 1,326 4.3 1,349 4.4 Educational services 1,286 4.2 1,302 4.3 Construction 1,276 4.2 1,355 4.4 Hospitality and food services 1,186 3.9 1,238 4.1 Other Services (except Public Administration) 1,066 3.5 1,041 3.4 Professional, scientific, and technical services 1,032 3.3 995 3.3 Other 3 2,922 9.5 2,782 9.1 Total $ 30,692 100.0 % $ 30,495 100.0 % 1 Industry groups are determined by North American Industry Classification System (“NAICS”) codes. 2 Includes primarily utilities, power, and renewable energy. 3 No other industry group exceeds 3.1%. Commercial Real Estate Loans At June 30, 2023 and December 31, 2022, our CRE loan portfolio totaled $12.9 billion and $12.7 billion, respectively, representing approximately 23% of the total loan portfolio for both periods. The majority of our CRE loans are secured by real estate primarily located within our geographic footprint. The following schedule presents the geographic distribution of our CRE loan portfolio based on the location of the primary collateral. COMMERCIAL REAL ESTATE LENDING BY COLLATERAL LOCATION June 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Arizona $ 1,656 13 % $ 1,521 12 % California 3,772 29 3,805 30 Colorado 639 5 637 5 Nevada 1,030 8 910 7 Texas 2,211 17 2,139 17 Utah/Idaho 2,202 17 2,397 19 Washington/Oregon 912 7 899 7 Other 482 4 431 3 Total CRE $ 12,904 100 % $ 12,739 100 % Approximately 23% of the total CRE loan portfolio is scheduled to mature in the next 12 months. Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and non-recourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with 21 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES one- to five-year extension options or roll-to-perm options that often result in term debt. At June 30, 2023, approximately 85% of our CRE loan portfolio was variable-rate, and approximately 20% of these variable-rate loans were swapped to a fixed rate. Underwriting on commercial properties is primarily based on the economic viability of the project with significant consideration given to the creditworthiness and experience of the sponsor. We generally require that the owner’s equity be injected prior to any advances. Re-margining requirements (required equity infusions upon a decline in value or cash flow of the collateral) are often included in the loan agreement along with guarantees of the sponsor. For a more comprehensive discussion of CRE loans and our underwriting, see the “Commercial Real Estate Loans” section in our 2022 Form 10-K. The following schedule provides information regarding lending exposures to certain collateral types in our CRE loan portfolio. COMMERCIAL REAL ESTATE LENDING BY COLLATERAL TYPE June 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Commercial property Multi-family $ 3,324 25.7 % $ 3,068 24.1 % Industrial 2,828 21.9 2,509 19.7 Office 2,157 16.7 2,281 17.9 Retail 1,447 11.2 1,529 12.0 Hospitality 695 5.4 695 5.4 Land 247 1.9 276 2.2 Other 1 1,673 13.0 1,728 13.5 Residential property 2 Single family 289 2.3 340 2.7 Land 73 0.6 75 0.6 Condo/Townhome 28 0.2 13 0.1 Other 1 143 1.1 225 1.8 Total $ 12,904 100.0 % $ 12,739 100.0 % 1 Included in the total amount of the “Other” category was approximately $246 million and $301 million of unsecured loans at June 30, 2023 and December 31, 2022, respectively. 2 Residential property collateral type consists primarily of loans provided to commercial homebuilders for land, lot, and single-family housing developments. Our CRE portfolio is diversified across geography and collateral type, with the largest concentration in multi-family. We provide additional analysis of our office CRE portfolio below in view of increased investor interest in that collateral type in recent periods. Office CRE loan portfolio At June 30, 2023 and December 31, 2022, our office CRE loan portfolio totaled $2.2 billion and $2.3 billion, representing 17% and 18% of the total CRE loan portfolio, respectively. The following schedule presents the composition of our office CRE loan portfolio and other related credit quality metrics. 22 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES OFFICE CRE LOAN PORTFOLIO (Dollar amounts in millions) June 30, 2023 December 31, 2022 Office CRE Construction and land development $ 193 $ 208 Term 1,964 2,073 Total office CRE $ 2,157 $ 2,281 Credit quality metrics Criticized loan ratio 6.4 % 7.2 % Classified loan ratio 4.8 % 5.8 % Nonaccrual loan ratio — % — % Delinquency ratio — % 1.5 % Net charge-offs, annualized — % — % Allowance for credit losses $ 38 $ 31 Ratio of allowance for credit losses to office CRE loans, at period end 1.76 % 1.36 % The following schedules present our office CRE loan portfolio by collateral location for the periods presented. OFFICE CRE LOAN PORTFOLIO BY COLLATERAL LOCATION (Dollar amounts in millions) June 30, 2023 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total Office CRE Construction and land development $ — $ 87 $ — $ 1 $ 7 $ 34 $ 64 $ — $ 193 Term 289 449 93 93 182 587 240 31 1,964 Total Office CRE $ 289 $ 536 $ 93 $ 94 $ 189 $ 621 $ 304 $ 31 $ 2,157 % of total 13.4 % 24.9 % 4.3 % 4.4 % 8.8 % 28.8 % 14.0 % 1.4 % 100.0 % (Dollar amounts in millions) December 31, 2022 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total Office CRE Construction and land development $ 8 $ 79 $ — $ 2 $ — $ 18 $ 101 $ — $ 208 Term 295 525 97 99 217 613 195 32 2,073 Total Office CRE $ 303 $ 604 $ 97 $ 101 $ 217 $ 631 $ 296 $ 32 $ 2,281 % of total 13.1 % 27.0 % 4.3 % 4.3 % 9.6 % 26.8 % 13.5 % 1.4 % 100.0 % 1 No other geography exceeds $18 million at both June 30, 2023 and December 31, 2022. Consumer Loans We originate first-lien residential home mortgages considered to be of prime quality. We generally hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. Our 1-4 family residential mortgage loan portfolio increased $694 million, or 10%, to $8.0 billion at June 30, 2023, compared with $7.3 billion at December 31, 2022, primarily due to an increased demand for adjustable-rate mortgages, which we have retained as part of our overall interest rate risk management strategy. We also originate home equity credit lines (“HECLs”). At June 30, 2023 and December 31, 2022, our HECL portfolio totaled $3.3 billion and $3.4 billion, respectively. Approximately 41% and 44% of our HECLs are secured by first liens for the same time periods. 23 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At June 30, 2023, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with a Fair Isaac Corporation (“FICO”) credit score greater than 700. Approximately 90% of our HECL portfolio is still in the draw period, and about 19% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is minimal. The ratio of HECL net charge-offs (recoveries) for the trailing twelve months to average balances at June 30, 2023 and December 31, 2022 was (0.03)% for both periods. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of the HECL portfolio. Nonperforming Assets Nonperforming assets include nonaccrual loans and other real estate owned (“OREO”) or foreclosed properties. The following schedule presents our nonperforming assets. NONPERFORMING ASSETS (Dollar amounts in millions) June 30, 2023 December 31, 2022 Nonaccrual loans 1 $ 162 $ 149 Other real estate owned 2 2 — Total nonperforming assets $ 164 $ 149 Ratio of nonperforming assets to net loans and leases 1 and other real estate owned 2 0.29 % 0.27 % Accruing loans past due 90 days or more $ 7 $ 6 Ratio of accruing loans past due 90 days or more to loans and leases 1 0.01 % 0.01 % Nonaccrual loans 1 and accruing loans past due 90 days or more $ 169 $ 155 Ratio of nonperforming assets 1 and accruing loans past due 90 days or more to loans and leases 1 and other real estate owned 2 0.30 % 0.28 % Nonaccrual loans 1 current as to principal and interest payments 70.4 % 57.7 % 1 Includes loans held for sale. 2 Does not include banking premises held for sale. Nonperforming assets as a percentage of loans and leases and OREO increased to 0.29% at June 30, 2023, compared with 0.27% at December 31, 2022. Total nonaccrual loans at June 30, 2023 increased to $162 million from $149 million at December 31, 2022, primarily due to increases in commercial and industrial and owner-occupied nonaccrual loans. See Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. Loan Modifications Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. On January 1, 2023, we adopted Accounting Standards Update (“ASU”) 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures, which eliminated the recognition and measurement of troubled debt restructurings (“TDRs”) and their related disclosures. ASU 2022-02 requires enhanced disclosures for loan modifications to borrowers experiencing financial difficulty. At June 30, 2023, loans that have been modified to accommodate a borrower experiencing financial difficulties totaled $148 million. If a modified loan is on nonaccrual and performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified 24 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the modification is taken into account to determine whether a loan should be returned to accrual status. ACCRUING AND NONACCRUING MODIFIED LOANS TO BORROWERS EXPERIENCING FINANCIAL DIFFICULTY (In millions) June 30, 2023 Modified loans – accruing $ 137 Modified loans – nonaccruing 11 Total $ 148 For additional information regarding loan modifications to borrowers experiencing financial difficulty, including information related to TDRs prior to our adoption of ASU 2022-02, see Note 6 of the Notes to Consolidated Financial Statements. Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. The RULC, a reserve for potential losses associated with off-balance sheet commitments, remained stable during the first six months of 2023. The reserve is separately recorded on the consolidated balance sheet in “Other liabilities,” and any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” The following schedule presents the changes in and allocation of the ACL. 25 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SUMMARY OF CREDIT LOSS EXPERIENCE (Dollar amounts in millions) Six Months Ended June 30, 2023 Twelve Months Ended December 31, 2022 Six Months Ended June 30, 2022 Loans and leases outstanding $ 56,917 $ 55,653 $ 52,370 Average loans and leases outstandin Commercial 30,664 29,225 28,725 Commercial real estate 12,904 12,251 12,134 Consumer 12,849 11,122 10,501 Total average loans and leases outstanding $ 56,417 $ 52,598 $ 51,360 Allowance for loan and lease loss Balance at beginning of period 1 $ 572 $ 513 $ 513 Provision for loan losses 92 101 10 Charge-offs: Commercial 23 72 28 Commercial real estate — — — Consumer 6 10 7 Total 29 82 35 Recoveri Commercial 12 32 15 Commercial real estate — — — Consumer 4 11 5 Total 16 43 20 Net loan and lease charge-offs 13 39 15 Balance at end of period $ 651 $ 575 $ 508 Reserve for unfunded lending commitments: Balance at beginning of period $ 61 $ 40 $ 40 Provision for unfunded lending commitments (1) 21 (2) Balance at end of period $ 60 $ 61 $ 38 Total allowance for credit loss Allowance for loan and lease losses $ 651 $ 575 $ 508 Reserve for unfunded lending commitments 60 61 38 Total allowance for credit losses $ 711 $ 636 $ 546 Ratio of allowance for credit losses to net loans and leases, at period end 1.25 % 1.14 % 1.04 % Ratio of allowance for credit losses to nonaccrual loans, at period end 439 % 427 % 280 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, at period end 421 % 410 % 272 % Ratio of total net charge-offs to average loans and leases 2 0.05 % 0.07 % 0.06 % Ratio of commercial net charge-offs to average commercial loans 2 0.07 % 0.14 % 0.09 % Ratio of commercial real estate net charge-offs to average commercial real estate loans 2 — % — % — % Ratio of consumer net charge-offs to average consumer loans 2 0.03 % (0.01) % 0.04 % 1 The beginning balance for the six months ended June 30, 2023 for the allowance for loan losses does not agree to the ending balance at December 31, 2022 because of the adoption of the new accounting standard related to loan modifications to borrowers experiencing financial difficulties. 2 Ratios are annualized for the periods presented except for the period representing the full twelve months. The total ACL increased to $711 million, from $636 million, during the first six months of 2023, primarily due to deterioration in economic forecasts. See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. 26 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. Because we engage in transactions involving various financial products, we are exposed to both interest rate risk and market risk. For a more comprehensive discussion of our interest rate and market risk management, see the “Interest Rate and Market Risk Management” section in our 2022 Form 10-K. Interest Rate Risk We strive to position the Bank for interest rate changes and manage the balance sheet sensitivity to reduce the volatility of both net interest income and economic value of equity. We generally have granular deposit funding. Much of this funding has an indeterminate life with no maturity and can be withdrawn at any time. Because most deposits come from household and business accounts, their duration is generally longer than the duration of our loan portfolio. As such, we are naturally “asset-sensitive” — meaning that our assets are expected to reprice faster or more significantly than our liabilities. In previous interest rate environments, we have added (1) interest rate swaps to synthetically increase the duration of the loan portfolio, (2) longer-duration securities, and (3) longer-duration loans to reduce the asset sensitivity to a level where an increase in interest rates of 100 bps would continue to result in a positive change in net interest income, and a decline in interest rates would be more muted. Additionally, we have pay-fixed interest rate swaps to adjust the duration of the investment securities portfolio. Asset sensitivity measures depend upon the assumptions we use for deposit runoff and repricing behavior. As interest rates rise, we expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. Our models are particularly sensitive to the assumption about the rate of such migration. We also assume a correlation, referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-bearing checking accounts are assumed to have a lower correlation. With the recent prominent bank failures during the first half of 2023, customer deposit behavior deviated from modeled behaviors, with the latter being informed using data reflecting an extended period of relatively low interest rates. As such, in addition to our historical-based assumptions, we have included adjusted deposit assumptions into our interest risk rate management, which increase the deposit beta for interest-bearing products and increase the percentage of non-interest bearing deposits that migrate to interest-bearing products. The following schedule presents deposit duration assumptions using both historical-based deposit behavior as well as the adjusted assumptions discussed previously. DEPOSIT ASSUMPTIONS June 30, 2023 December 31, 2022 Historical-based assumptions Adjusted assumptions Historical-based assumptions Product Effective duration (unchanged) Effective duration (+200 bps) Effective duration (unchanged) Effective duration (+200 bps) Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 3.9% 3.7% 2.9% 2.7% 3.6% 3.5% Money market 2.2% 2.1% 1.5% 1.3% 2.3% 2.0% Savings and interest-bearing checking 2.9% 2.6% 2.0% 1.6% 3.1% 2.8% 27 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES As more rate-sensitive deposits have runoff, the effective duration of the deposits under the historical-based assumptions has lengthened due to the remaining deposits that are assumed to be less rate sensitive. Conversely, the effective duration of the deposits under the adjusted assumptions has shortened considerably due to faster deposit repricing. As noted previously, we utilize derivatives to manage interest rate risk. The following schedule presents derivatives that are designated in qualifying hedging relationships at June 30, 2023. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each category of cash flow and fair value hedge. Fair value hedges of assets include $2.5 billion in notional of hedges of AFS securities designated under the portfolio layer method that were added during the second quarter of 2023. See Note 7 of the Notes to Consolidated Financial Statements for additional information regarding the impact of these hedging relationships on interest income and expense. DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2023 2024 2025 3Q25 - 2Q26 3Q26 - 2Q27 (Dollar amounts in millions) Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Cash flow hedges Cash flow hedges of assets 1,2 Average outstanding notional $ 2,550 $ 2,250 $ 1,817 $ 1,483 $ 1,050 $ 550 $ 350 $ 350 $ 221 $ 100 Weighted-average fixed-rate received 2.37 % 2.24 % 2.05 % 1.96 % 1.82 % 1.96 % 2.34 % 2.34 % 1.94 % 1.65 % Cash flow hedges of liabilities 3 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — Weighted-average fixed-rate paid 3.67 % 3.67 % 3.67 % 3.67 % 3.67 % 3.67 % 3.67 % 3.67 % — % — % 2023 4 2024 2025 2026 2027 2028 2029 2030 2031 2032 Fair value hedges Fair value hedges of assets 4 Average outstanding notional $ 3,172 $ 3,444 $ 3,558 $ 3,562 $ 3,558 $ 1,928 $ 1,049 $ 1,044 $ 1,037 $ 1,001 Weighted-average fixed-rate paid 3.16 % 3.06 % 3.03 % 3.02 % 3.03 % 2.28 % 1.84 % 1.83 % 1.83 % 1.83 % Fair value hedges of liabilities 5 Average outstanding notional $ — $ — $ — $ — $ — $ — $ — $ — $ — $ — Weighted-average fixed-rate received — % — % — % — % — % — % — % — % — % — % 1 Cash flow hedges consist of receive-fixed swaps hedging pools of floating-rate loans. 2 Cash flow hedges of assets fully matures in February 2027. Amounts for 2027 have not been prorated to reflect this hedge maturing during the period. 3 Cash flow hedges of liabilities fully matures in May of 2025. 4 Fair value hedges of assets consist of pay-fixed interest rate swaps hedging AFS fixed-rate securities. 5 Fair value hedges of debt consist of receive-fixed swaps hedging fixed-rate debt. The sole fair value hedge of debt was terminated during the second quarter of 2023. Incorporating the historical-based and adjusted deposit assumptions and the impact of derivatives in qualifying hedging relationships previously discussed, the following schedule presents earnings at risk (“EaR”), or the percentage change in 12-month forward-looking net interest income, and our estimated percentage change in economic value of equity (“EVE”). Both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. 28 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY June 30, 2023 December 31, 2022 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Historical-based assumptio Earnings at Risk (EaR) (5.8) % — % 5.9 % 11.8 % 17.7 % (2.4) % — % 2.4 % 4.8 % 7.1 % Economic Value of Equity (EVE) (0.1) % — % 1.9 % 3.5 % 4.8 % 2.0 % — % (1.1) % (2.3) % (3.7) % Adjusted assumptio Earnings at Risk (EaR) (1.3) % — % 1.4 % 2.9 % 4.4 % Economic Value of Equity (EVE) 4.8 % — % (4.1) % (8.6) % (12.9) % 1 Assumes rates cannot go below zero in the negative rate shift. Under the historical-based assumptions, the asset sensitivity, as measured by EaR, increased during the second quarter of 2023, primarily due an increase in pay-fixed interest rate swap notional, partially offset by deposit migration from low beta products to high beta products. Under the adjusted deposit assumptions, asset sensitivity decreased significantly due to faster deposit repricing. For interest-bearing deposits with indeterminate maturities, the weighted average modeled beta is 32% under the historical-based assumptions, and 55% under the adjusted assumptions. The EaR analysis focuses on parallel rate shocks across the term structure of benchmark interest rates. In a non-parallel rate scenario where the overnight rate increases 200 bps, but the ten-year rate increases only 30 bps, the increase in EaR is modeled under the historical-based assumptions to be approximately two-thirds of the change associated with the parallel +200 bps rate change. EaR has inherent limitations in describing expected changes in net interest income in rapidly changing interest rate environments due to a lag in asset and liability repricing behavior. As such, we expect net interest income to change due to “latent” and “emergent” interest rate sensitivity. Unlike EaR, which measures net interest income over 12 months, latent and emergent interest rate sensitivity explains changes in current quarter net interest income, compared with expected net interest income in the same quarter one year forward. Latent interest rate sensitivity refers to future changes in net interest income based upon past rate movements that have yet to be fully recognized in revenue but will be recognized over the near term. We expect latent sensitivity to reduce net interest income by approximately 4% in the second quarter of 2024, compared with the second quarter of 2023. Emergent interest rate sensitivity refers to future changes in net interest income based upon future interest rate movements and is measured from the latent level of net interest income. If interest rates rise consistent with the forward curve at June 30, 2023, we expect emergent sensitivity to increase net interest income by approximately 1% from the latent sensitivity level, for a cumulative 3% reduction in net interest income. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At June 30, 2023, $25.8 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. For these variable-rate loans, we have executed $2.9 billion of cash flow hedges by receiving fixed rates on interest rate swaps. At June 30, 2023, we also had $3.6 billion of variable-rate consumer loans scheduled to reprice in the next six months. The impact on asset sensitivity from commercial or consumer loans with floors has become insignificant as rates have risen. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. 29 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES LIBOR Transition London Interbank Offered Rate (“LIBOR”) has been phased out globally, and banks were required to migrate to alternative reference rates by June 30, 2023. We implemented processes, procedures, and systems to mitigate contract risk. New originations, and any modifications or renewals of LIBOR-based contracts, contained fallback language to facilitate transition to an alternative reference rate. Additionally, under the Adjustable Interest Rate (LIBOR) Act of 2022, the Federal Reserve Board (“FRB”) identified benchmark replacement rates for LIBOR contracts lacking fallback provisions with a clearly defined or practical replacement benchmark rate. At June 30, 2023, we have remediated substantially all our LIBOR exposure through fallback language, replacement indices, or reliance upon the provisions under the LIBOR Act. Market Risk – Fixed Income We are exposed to market risk through changes in fair value. This includes market risk for trading securities and for interest rate swaps used to hedge interest rate risk. We underwrite municipal and corporate securities. We also trade municipal, agency, and treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in accumulated other comprehensive income (loss) (“AOCI”) for each financial reporting period. During the second quarter of 2023, the $32 million after-tax increase in AOCI loss related to investment securities was driven largely by declines in the fair value of the AFS securities primarily due to changes in benchmark interest rates. For more discussion regarding investment securities and AOCI, see the “Capital Management” section on page 33. See also Note 5 of the Notes to Consolidated Financial Statements for further information regarding the accounting for investment securities. Our noninterest-bearing deposits are more valuable in a rising interest rate environment, creating meaningful economic value that is not fully reflected on our balance sheet since deposits and related intangible assets are not recorded at fair value for accounting purposes. Market Risk – Equity Investments Through our equity investment activities, we own equity securities that are publicly traded. In addition, we own equity securities in governmental entities and companies, e.g., FRB and the FHLB, that are not publicly traded. Equity investments may be accounted for at cost less impairment and adjusted for observable price changes, fair value, the equity method, or full consolidation methods of accounting, depending on our ownership position and degree of influence over the investees’ business. Regardless of the accounting method, the values of our investments are subject to fluctuation. Because the fair value of these securities may fall below the cost at which we acquired them, we are exposed to the possibility of loss. Equity investments in private and public companies are evaluated, monitored, and approved by members of management in our Equity Investments Committee and Securities Valuation Committee. We hold both direct and indirect investments in predominantly pre-public companies, primarily through various Small Business Investment Company (“SBIC”) venture capital funds as a strategy to provide beneficial financing, growth, and expansion opportunities to diverse businesses generally in communities within our geographic footprint. Our equity exposure to these investments was approximately $177 million and $172 million at June 30, 2023 and December 31, 2022, respectively. On occasion, some of the companies within our SBIC investment may issue an initial public offering (“IPO”). In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce additional market risk. See Note 3 of the Notes to Consolidated Financial Statements for additional information regarding the valuation of our SBIC investments. 30 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Liquidity Risk Management Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. We manage our liquidity to provide funds for our customers’ credit needs, our anticipated financial and contractual obligations, and other corporate activities. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as loans and investment securities. Our investment securities are primarily held as a source of contingent liquidity. We primarily own securities that can readily provide us with cash and liquidity through secured borrowing agreements with securities pledged as collateral. We maintain and regularly test a contingency funding plan to identify sources and uses of liquidity. Additionally, we have a Board-approved liquidity policy that requires us to monitor and maintain adequate liquidity, diversify funding positions, and anticipate future funding needs. In accordance with this policy, we monitor our liquidity positions by conducting various stress tests and evaluating certain liquid asset measurements, such as a 30-day liquidity coverage ratio. We perform regular liquidity stress tests and assess our portfolio of highly liquid assets (sufficient to cover 30-day funding needs under stress scenarios). These stress tests include projections of funding maturities, uses of funds, and assumptions of deposit runoff. These assumptions consider the size of deposit account, operational nature of deposits, type of depositor, and concentrations of funding sources including large depositors and aggregate levels of uncollateralized deposits exceeding insured levels. Concentrated funding sources are given large runoff factors up to 100% in projecting stressed funding needs. Our liquidity stress testing considers multiple timeframes ranging from overnight to 12 months. Our liquidity policy requires us to maintain sufficient on-balance sheet liquidity in the form of FRB reserve balance and other highly liquid assets to meet stressed outflow assumptions. We have a dedicated funding desk that monitors real-time inflows and outflows of our FRB account, and we have tools, including ready access to repo markets and FHLB advances, to manage intraday liquidity. FHLB borrowings are “open-term,” allowing us the ability to retain or return funds based on our liquidity needs. We pledge a large portion of our highly liquid investment securities portfolio through the General Collateral Funding (“GCF”) repo program. Through this program, high-quality collateral is pledged, and program participants exchange funds anonymously, which allows for near instant access to funding during market hours. Additionally, we have pledged collateral to the FRB’s primary credit facility (or discount window) and the Bank Term Funding Program (“BTFP”), which provide additional contingent funding sources outside the normal operating hours of the FHLB and the GCF program. The BTFP offers loans of up to one year in length to eligible depository institutions pledging U.S. Treasuries, agency debt and government mortgage-backed securities, and other qualifying assets as collateral. Unlike other funding sources, borrowing capacity under the BTFP is based on the par value, not the fair value, of collateral. Advances can be requested under the program through mid-March 2024. For more information on our liquidity risk management practices, see “Liquidity Risk Management” in our 2022 Form 10-K. For the first six months of 2023, the primary sources of cash came from a decrease in investment securities, a decrease in money market investments, and net cash provided by operating activities. Uses of cash during the same period included primarily a decrease in short-term borrowings, an increase in loans and leases, and dividends paid on common and preferred stock. Cash payments for interest reflected in operating expenses were $546 million and $31 million for the first six months of 2023 and 2022, respectively. The FHLB and FRB have been, and continue to be, a significant source of back-up liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and FRB stock to maintain our borrowing capacity. At June 30, 2023, our total investment in FHLB and FRB stock was $111 million and $65 million, respectively, compared with $294 million and $68 million at December 31, 2022. 31 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At June 30, 2023, loans with a carrying value of $24.5 billion and $15.3 billion, compared with $23.7 billion and $3.9 billion at December 31, 2022, were pledged at the FHLB and FRB, respectively, as collateral for current and potential borrowings. At June 30, 2023 and December 31, 2022, investment securities with a carrying value of $21.1 billion and $13.5 billion, respectively, were pledged as collateral for potential borrowings. For the same time periods, these pledges included $9.9 billion and $8.3 billion for available use through the GCF repo program, $7.1 billion and $1.0 billion to the FRB, and $4.1 billion and $4.2 billion to secure collateralized public and trust deposits, advances, and for other purposes. A large portion of these pledged assets are unencumbered, but are pledged to provide immediate access to contingency sources of funds. The following schedule presents our total available liquidity including unused collateralized borrowing capacity. AVAILABLE LIQUIDITY June 30, 2023 December 31, 2022 (In billions) FHLB FRB GCF BTFP Total FHLB FRB GCF BTFP Total Total borrowing capacity $ 17.1 $ 13.6 $ 10.0 $ 7.1 $ 47.8 $ 16.6 $ 4.0 $ 8.4 $ — $ 29.0 Borrowings outstanding 2.6 — 2.0 — 4.6 7.2 — 2.7 — 9.9 Remaining capacity, at period end $ 14.5 $ 13.6 $ 8.0 $ 7.1 $ 43.2 $ 9.4 $ 4.0 $ 5.7 $ — $ 19.1 Cash and due from banks 0.7 0.7 Interest-bearing deposits 1 1.5 1.3 Total available liquidity $ 45.4 $ 21.1 Ratio of available liquidity to uninsured deposits 149 % 56 % 1 Represents funds deposited by the Bank primarily at the Federal Reserve Bank. At June 30, 2023 and December 31, 2022, our total available liquidity was $45.4 billion, compared with $21.1 billion, respectively. At June 30, 2023, we had sources of liquidity which exceeded our uninsured deposits without the need to sell any investment securities. General financial market and economic conditions also impact our access to, and cost of, external financing. Access to funding markets is also directly affected by the credit ratings we receive from various rating agencies. The ratings not only influence the costs associated with borrowings, but can also influence the sources of the borrowings. All of the credit rating agencies rate our debt at an investment-grade level. During the second quarter of 2023, as a result of broader uncertainty in the banking industry, Standard & Poor's (“S&P”) changed their outlook on our long-term deposit and issuer ratings to “Negative” from “Stable.” Additionally, Moody's downgraded our long-term issuer rating to Baa2 from Baa1, our short-term debt rating to P2 from P1, and changed their outlook on our long-term deposit and issuer ratings to “Stable” from “Ratings under review.” The following schedule presents our current credit ratings. CREDIT RATINGS as of July 31, 2023: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Negative BBB+ BBB NR Fitch Stable BBB+ BBB F1 Moody's Stable Baa2 NR P2 We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market 32 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. Capital Management A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. We seek to (1) maintain sufficient capital to support the current needs and growth of our businesses, and (2) fulfill responsibilities to depositors and bondholders while managing capital distributions to shareholders through dividends and repurchases of common stock. We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the FRB. The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as Board and Office of the Comptroller of the Currency (“OCC”) approval. Shares may be repurchased occasionally in the open market or through privately negotiated transactions. For a more comprehensive discussion of our capital risk management, see “Capital Management” in our 2022 Form 10-K. SHAREHOLDERS' EQUITY (Dollar amounts in millions) June 30, 2023 December 31, 2022 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 440 $ — — % Common stock and additional paid-in capital 1,722 1,754 (32) (2) Retained earnings 6,051 5,811 240 4 Accumulated other comprehensive loss (2,930) (3,112) 182 6 Total shareholders' equity $ 5,283 $ 4,893 $ 390 8 % Total shareholders’ equity increased $390 million, or 8%, to $5.3 billion at June 30, 2023, compared with $4.9 billion at December 31, 2022. Common stock and additional paid-in capital decreased $32 million, primarily due to common stock repurchases during the first quarter of 2023. As the macroeconomic environment remained uncertain, we did not repurchase common shares during the second quarter of 2023, nor do we expect to repurchase common shares during the third quarter of 2023. AOCI was a $2.9 billion loss at June 30, 2023, and, for the first six months of 2023, reflected (1) a $9 million decline in the fair value of fixed-rate AFS securities as a result of higher interest rates, offset by a $103 million increase in amortization of the discount on the securities transferred from AFS to HTM during the fourth quarter of 2022, and (2) an $88 million increase in unrealized holding gains and other adjustments associated with derivative instruments. Absent any sales or credit impairment of the AFS securities, the unrealized losses will not be recognized in earnings. We do not intend to sell any securities with unrealized losses. Although changes in AOCI are reflected in shareholders’ equity, they are excluded from regulatory capital, and therefore do not impact our regulatory ratios. For more discussion on our investment securities portfolio and related unrealized gains and losses, see Note 5 of the Notes to Consolidated Financial Statements. 33 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CAPITAL DISTRIBUTIONS Three Months Ended June 30, Six Months Ended June 30, (In millions, except share data) 2023 2022 2023 2022 Capital distributio Preferred dividends paid $ 9 $ 8 $ 15 $ 16 Total capital distributed to preferred shareholders 9 8 15 16 Common dividends paid 61 58 122 116 Bank common stock repurchased 1 — 50 50 101 Total capital distributed to common shareholders 61 108 172 217 Total capital distributed to preferred and common shareholders $ 70 $ 116 $ 187 $ 233 Weighted average diluted common shares outstanding (in thousands) 147,696 150,838 147,865 151,264 Common shares outstanding, at period end (in thousands) 148,144 150,471 148,144 150,471 1 Includes amounts related to the common shares acquired from our publicly announced plans and those acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. Pursuant to the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. At June 30, 2023, we had $1.7 billion of retained net profits available for distribution. During the second quarter of 2023, we paid dividends on preferred stock of $9 million and dividends on common stock of $61 million, or $0.41 per share. In July 2023, the Board declared a regular quarterly dividend of $0.41 per common share, payable on August 24, 2023 to shareholders of record on August 17, 2023. See Note 9 of the Notes to Consolidated Financial Statements for additional information about our capital management actions. Basel III We are subject to Basel III capital requirements that include certain minimum regulatory capital ratios. At June 30, 2023, we exceeded all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. See the “Supervision and Regulation” section and Note 15 of our 2022 Form 10-K for more information about our compliance with the Basel III capital requirements. The following schedule presents our capital amounts, capital ratios, and other selected performance ratios. 34 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CAPITAL AMOUNTS AND RATIOS (Dollar amounts in millions) June 30, 2023 December 31, 2022 June 30, 2022 Basel III risk-based capital amounts: Common equity tier 1 capital $ 6,692 $ 6,481 $ 6,257 Tier 1 risk-based 7,131 6,921 6,697 Total risk-based 8,378 8,077 7,784 Risk-weighted assets 66,917 66,111 63,424 Basel III risk-based capital ratios: Common equity tier 1 capital ratio 10.0 % 9.8 % 9.9 % Tier 1 risk-based ratio 10.7 10.5 10.6 Total risk-based ratio 12.5 12.2 12.3 Tier 1 leverage ratio 8.0 7.7 7.4 Other ratios: Average equity to average assets (three months ended) 5.9 % 5.4 % 6.7 % Return on average common equity (three months ended) 13.8 25.4 14.0 Return on average tangible common equity (three months ended) 1 10.0 16.9 12.5 Tangible equity ratio 1 8.0 7.6 7.6 Tangible common equity ratio 1 7.5 7.1 7.1 1 See “ Non-GAAP Financial Measures ” on page 35 for more information regarding these ratios. NON-GAAP FINANCIAL MEASURES This Form 10-Q presents non-GAAP financial measures, in addition to GAAP financial measures. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results and provide a meaningful basis for period-to-period comparisons. We use these non-GAAP financial measures to assess our performance and financial position. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by our management and the financial services industry. Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar financial measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under GAAP. Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets and their related amortization and AOCI. We excluded the effect of AOCI to align with its impact on certain incentive compensation plans that utilize return on tangible common equity as a performance metric. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a business more consistently, whether acquired or developed internally. 35 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Three Months Ended (Dollar amounts in millions) June 30, 2023 March 31, 2023 June 30, 2022 Net earnings applicable to common shareholders (GAAP) (a) $ 166 $ 198 $ 195 Adjustment, net of t Amortization of core deposit and other intangibles 1 1 — Net earnings applicable to common shareholders, net of tax (a) $ 167 $ 199 $ 195 Average common equity (GAAP) $ 4,818 $ 4,614 $ 5,582 Average goodwill and intangibles (1,063) (1,064) (1,015) Average accumulated other comprehensive loss (income) 2,931 3,030 1,702 Average tangible common equity (non-GAAP) (b) $ 6,686 $ 6,580 $ 6,269 Number of days in quarter (c) 91 90 91 Number of days in year (d) 365 365 365 Return on average tangible common equity (non-GAAP) (a/b/c)*d 10.0 % 12.3 % 12.5 % TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) June 30, 2023 March 31, 2023 June 30, 2022 Total shareholders’ equity (GAAP) $ 5,283 $ 5,184 $ 5,632 Goodwill and intangibles (1,062) (1,063) (1,015) Accumulated other comprehensive loss (income) 2,930 2,920 2,100 Tangible equity (non-GAAP) (a) 7,151 7,041 6,717 Preferred stock (440) (440) (440) Tangible common equity (non-GAAP) (b) $ 6,711 $ 6,601 $ 6,277 Total assets (GAAP) $ 87,230 $ 88,573 $ 87,784 Goodwill and intangibles (1,062) (1,063) (1,015) Accumulated other comprehensive loss (income) 2,930 2,920 2,100 Tangible assets (non-GAAP) (c) $ 89,098 $ 90,430 $ 88,869 Common shares outstanding (in thousands) (d) 148,144 148,100 150,471 Tangible equity ratio (non-GAAP) (a/c) 8.0 % 7.8 % 7.6 % Tangible common equity ratio (non-GAAP) (b/c) 7.5 % 7.3 % 7.1 % Tangible book value per common share (non-GAAP) (b/d) $ 45.30 $ 44.57 $ 41.72 Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allows for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how we are managing our expenses. Adjusted pre-provision net revenue enables management and others to assess our ability to generate capital. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. 36 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) Three Months Ended Six Months Ended Year Ended (Dollar amounts in millions) June 30, 2023 March 31, 2023 June 30, 2022 June 30, 2023 June 30, 2022 December 31, 2022 Noninterest expense (GAAP) (a) $ 508 $ 512 $ 464 $ 1,020 $ 928 $ 1,878 Adjustments: Severance costs 13 1 1 14 1 1 Other real estate expense, net — — — — 1 1 Amortization of core deposit and other intangibles 1 2 — 3 — 1 SBIC investment success fee accrual 1 — — — — (1) (1) Total adjustments (b) 14 3 1 17 1 2 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 494 $ 509 $ 463 $ 1,003 $ 927 $ 1,876 Net interest income (GAAP) (d) $ 591 $ 679 $ 593 $ 1,270 $ 1,137 $ 2,520 Fully taxable-equivalent adjustments (e) 11 9 9 20 17 37 Taxable-equivalent net interest income (non-GAAP) (d+e)=f 602 688 602 1,290 1,154 2,557 Noninterest income (GAAP) g 189 160 172 349 314 632 Combined income (non-GAAP) (f+g)=(h) 791 848 774 1,639 1,468 3,189 Adjustments: Fair value and nonhedge derivative gains 1 (3) 10 (2) 16 16 Securities gains (losses), net 1 — 1 1 1 (16) (15) Total adjustments 2 (i) 1 (2) 11 (1) — 1 Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 790 $ 850 $ 763 $ 1,640 $ 1,468 $ 3,188 Pre-provision net revenue (non-GAAP) (h)-(a) $ 283 $ 336 $ 310 $ 619 $ 540 $ 1,311 Adjusted PPNR (non-GAAP) (j)-(c) 296 341 300 637 541 1,312 Efficiency ratio (non-GAAP) (c/j) 62.5 % 59.9 % 60.7 % 61.2 % 63.1 % 58.8 % 1 The success fee accrual is associated with the gains and losses from our SBIC investments, which are excluded from the efficiency ratio through securities gains (losses), net. 2 Excluding the $13 million gain on sale of bank-owned premises recorded in dividends and other income, the efficiency ratio for the three months and six months ended June 30, 2023 would have been 63.6% and 61.6%, respectively. 37 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 1. FINANCIAL STATEMENTS (Unaudited) CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) June 30, 2023 December 31, 2022 (Unaudited) ASSETS Cash and due from banks $ 701 $ 657 Money market investments: Interest-bearing deposits 1,531 1,340 Federal funds sold and securities purchased under agreements to resell 781 2,426 Investment securiti Held-to-maturity, at amortized cost (fair val $ 10,768 and $ 11,239 ) 10,753 11,126 Available-for-sale, at fair value 10,832 11,915 Trading, at fair value 32 465 Total investment securities 21,617 23,506 Loans held for sale 36 8 Loans and leases, net of unearned income and fees 56,917 55,653 Less allowance for loan and lease losses 651 575 Loans held for investment, net of allowance 56,266 55,078 Other noninterest-bearing investments 956 1,130 Premises, equipment and software, net 1,414 1,408 Goodwill and intangibles 1,062 1,065 Other real estate owned 3 3 Other assets 2,863 2,924 Total assets $ 87,230 $ 89,545 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 28,670 $ 35,777 Interest-bearin Savings and money market 33,394 33,566 Time 12,259 2,309 Total deposits 74,323 71,652 Federal funds and other short-term borrowings 5,513 10,417 Long-term debt 538 651 Reserve for unfunded lending commitments 60 61 Other liabilities 1,513 1,871 Total liabilities 81,947 84,652 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 440 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 148,144 and 148,664 shares) and additional paid-in capital 1,722 1,754 Retained earnings 6,051 5,811 Accumulated other comprehensive income (loss) ( 2,930 ) ( 3,112 ) Total shareholders’ equity 5,283 4,893 Total liabilities and shareholders’ equity $ 87,230 $ 89,545 See accompanying notes to consolidated financial statements. 38 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Unaudited) Three Months Ended June 30, Six Months Ended June 30, (In millions, except shares and per share amounts) 2023 2022 2023 2022 Interest income: Interest and fees on loans $ 791 $ 468 $ 1,517 $ 905 Interest on money market investments 48 12 105 18 Interest on securities 138 128 275 240 Total interest income 977 608 1,897 1,163 Interest expense: Interest on deposits 220 7 302 13 Interest on short- and long-term borrowings 166 8 325 13 Total interest expense 386 15 627 26 Net interest income 591 593 1,270 1,137 Provision for credit loss Provision for loan and lease losses 46 39 92 10 Provision for unfunded lending commitments — 2 ( 1 ) ( 2 ) Total provision for credit losses 46 41 91 8 Net interest income after provision for credit losses 545 552 1,179 1,129 Noninterest income: Commercial account fees 45 37 88 78 Card fees 25 25 49 50 Retail and business banking fees 16 20 32 40 Loan-related fees and income 19 21 40 43 Capital markets fees 27 21 44 36 Wealth management fees 14 13 29 27 Other customer-related fees 16 17 31 31 Customer-related noninterest income 162 154 313 305 Fair value and nonhedge derivative income 1 10 ( 2 ) 16 Dividends and other income (loss) 26 7 37 9 Securities gains (losses), net — 1 1 ( 16 ) Total noninterest income 189 172 349 314 Noninterest expense: Salaries and employee benefits 324 307 663 619 Technology, telecom, and information processing 58 53 113 105 Occupancy and equipment, net 40 36 80 74 Professional and legal services 16 14 29 28 Marketing and business development 13 9 25 17 Deposit insurance and regulatory expense 22 13 40 23 Credit-related expense 7 7 13 14 Other real estate expense, net — — — 1 Other 28 25 57 47 Total noninterest expense 508 464 1,020 928 Income before income taxes 226 260 508 515 Income taxes 51 57 129 109 Net income 175 203 379 406 Preferred stock dividends ( 9 ) ( 8 ) ( 15 ) ( 16 ) Net earnings applicable to common shareholders $ 166 $ 195 $ 364 $ 390 Weighted average common shares outstanding during the perio Basic shares (in thousands) 147,692 150,635 147,852 150,958 Diluted shares (in thousands) 147,696 150,838 147,865 151,264 Net earnings per common sh Basic $ 1.11 $ 1.29 $ 2.44 $ 2.56 Diluted 1.11 1.29 2.44 2.56 See accompanying notes to consolidated financial statements. 39 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Unaudited) Three Months Ended June 30, Six Months Ended June 30, (In millions) 2023 2022 2023 2022 Net income for the period $ 175 $ 203 $ 379 $ 406 Other comprehensive income (loss), net of t Net unrealized holding gains (losses) on investment securities 1 ( 32 ) ( 698 ) 94 ( 1,820 ) Net unrealized losses on other noninterest-bearing investments — ( 1 ) — ( 1 ) Net unrealized holding gains (losses) on derivative instruments ( 8 ) ( 50 ) 21 ( 184 ) Reclassification adjustment for decrease (increase) in interest income recognized in earnings on derivative instruments 30 ( 5 ) 67 ( 15 ) Total other comprehensive income (loss), net of tax ( 10 ) ( 754 ) 182 ( 2,020 ) Comprehensive income (loss) $ 165 $ ( 551 ) $ 561 $ ( 1,614 ) See accompanying notes to consolidated financial statements. 1 For the three and six months ended June 30, 2023, the amounts include $ 86 million and $ 9 million related to the decline in the fair value of fixed-rate AFS securities as a result of higher interest rates, offset by $ 54 million and $ 103 million in amortization of the discount on the securities transferred from AFS to HTM during the fourth quarter of 2022, respectively. CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited) (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at March 31, 2023 $ 440 148,100 $ — $ 1,715 $ 5,949 $ ( 2,920 ) $ 5,184 Net income for the period 175 175 Other comprehensive loss, net of tax ( 10 ) ( 10 ) Net activity under employee plans and related tax benefits 44 7 7 Dividends on preferred stock ( 9 ) ( 9 ) Dividends on common stock, $ 0.41 per share ( 61 ) ( 61 ) Change in deferred compensation ( 3 ) ( 3 ) Balance at June 30, 2023 $ 440 148,144 $ — $ 1,722 $ 6,051 $ ( 2,930 ) $ 5,283 Balance at March 31, 2022 $ 440 151,348 $ — $ 1,889 $ 5,311 $ ( 1,346 ) $ 6,294 Net income for the period 203 203 Other comprehensive loss, net of tax ( 754 ) ( 754 ) Bank common stock repurchased ( 936 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 59 6 6 Dividends on preferred stock ( 8 ) ( 8 ) Dividends on common stock, $ 0.38 per share ( 58 ) ( 58 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at June 30, 2022 $ 440 150,471 $ — $ 1,845 $ 5,447 $ ( 2,100 ) $ 5,632 40 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2022 $ 440 148,664 $ — $ 1,754 $ 5,811 $ ( 3,112 ) $ 4,893 Net income for the period 379 379 Other comprehensive income, net of tax 182 182 Cumulative effect adjustment, due to adoption of ASU 2022-02, net of tax 2 2 Bank common stock repurchased ( 953 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 433 18 18 Dividends on preferred stock ( 15 ) ( 15 ) Dividends on common stock, $ 0.82 per share ( 122 ) ( 122 ) Change in deferred compensation ( 4 ) ( 4 ) Balance at June 30, 2023 $ 440 148,144 $ — $ 1,722 $ 6,051 $ ( 2,930 ) $ 5,283 Balance at December 31, 2021 $ 440 151,625 $ — $ 1,928 $ 5,175 $ ( 80 ) $ 7,463 Net income for the period 406 406 Other comprehensive loss, net of tax ( 2,020 ) ( 2,020 ) Bank common stock repurchased ( 1,714 ) ( 101 ) ( 101 ) Net activity under employee plans and related tax benefits 560 18 18 Dividends on preferred stock ( 16 ) ( 16 ) Dividends on common stock, $ 0.76 per share ( 116 ) ( 116 ) Change in deferred compensation ( 2 ) ( 2 ) Balance at June 30, 2022 $ 440 150,471 $ — $ 1,845 $ 5,447 $ ( 2,100 ) $ 5,632 41 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In millions) Six Months Ended June 30, 2023 2022 CASH FLOWS FROM OPERATING ACTIVITIES Net income for the period $ 379 $ 406 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses 91 8 Depreciation and amortization 72 45 Share-based compensation 24 22 Deferred income tax expense (benefit) ( 13 ) 29 Net decrease in trading securities 433 67 Net decrease (increase) in loans held for sale ( 25 ) 42 Change in other liabilities ( 363 ) 389 Change in other assets 164 ( 205 ) Other, net 57 1 Net cash provided by operating activities 819 804 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease in money market investments 1,454 8,895 Proceeds from maturities and paydowns of investment securities held-to-maturity 526 48 Purchases of investment securities held-to-maturity ( 21 ) ( 220 ) Proceeds from sales, maturities, and paydowns of investment securities available-for-sale 1,328 1,915 Purchases of investment securities available-for-sale ( 301 ) ( 5,773 ) Net change in loans and leases ( 1,311 ) ( 1,476 ) Purchases and sales of other noninterest-bearing investments 176 ( 1 ) Purchases of premises and equipment ( 53 ) ( 102 ) Other, net ( 18 ) 11 Net cash provided by investing activities 1,780 3,297 CASH FLOWS FROM FINANCING ACTIVITIES Net increase (decrease) in deposits 2,671 ( 3,728 ) Net change in short-term borrowed funds ( 4,904 ) 115 Redemption of long-term debt ( 128 ) ( 290 ) Proceeds from the issuance of common stock 2 8 Dividends paid on common and preferred stock ( 138 ) ( 130 ) Bank common stock repurchased ( 50 ) ( 101 ) Other, net ( 8 ) ( 11 ) Net cash used in financing activities ( 2,555 ) ( 4,137 ) Net increase (decrease) in cash and due from banks 44 ( 36 ) Cash and due from banks at beginning of period 657 595 Cash and due from banks at end of period $ 701 $ 559 Cash paid for interest $ 546 $ 31 Net cash paid for income taxes 231 4 Noncash activiti Loans held for investment reclassified to loans held for sale, net 49 61 See accompanying notes to consolidated financial statements. 42 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) June 30, 2023 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Zions Bancorporation, National Association and its majority-owned subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). The results of operations for the three and six months ended June 30, 2023 and 2022 are not necessarily indicative of the results that may be expected in future periods. In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. For further information, refer to the consolidated financial statements and accompanying footnotes included in our 2022 Form 10-K. We evaluated events that occurred between June 30, 2023 and the date the accompanying financial statements were issued, and determined that there were no material events that would require adjustments to our consolidated financial statements or significant disclosure in the accompanying Notes. As referenced in Note 7 of the Notes to Consolidated Financial Statements, we entered into additional pay-fixed swaps with an aggregate notional amount of $ 1 billion that were designated as fair value hedges of a defined portfolio of fixed-rate commercial loans in July 2023. Zions Bancorporation, N.A. is a commercial bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These include Zions Bank, in Utah, Idaho, and Wyoming; California Bank & Trust (“CB&T”); Amegy Bank (“Amegy”), in Texas; National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”), in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under the name The Commerce Bank of Oregon in Oregon. 43 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 2. RECENT ACCOUNTING PRONOUNCEMENTS Standard Description Date of adoption Effect on the financial statements or other significant matters Standards not yet adopted by the Bank ASU 2023-02, Investments—Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Tax Credit Structures Using the Proportional Amortization Method (a consensus of the Emerging Issues Task Force) This Accounting Standards Update (“ASU”) expands the optional use of the proportional amortization method (“PAM”), previously limited to investments in low-income housing tax credit (“LIHTC”) structures, to any eligible equity investments made primarily for the purpose of receiving income tax credit and other tax benefits when certain criteria are met. PAM results in the cost of the investment being amortized in proportion to the income tax credits and other income tax benefits received, with the amortization of the investment and the income tax credits being presented net in the income statement as a component of income tax expense (benefit). This ASU allows for an accounting policy election to apply PAM on a tax-credit-program-by-tax-credit-program basis. The ASU also includes additional disclosure requirements about equity investments accounted for using PAM. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 We do not currently have any additional equity investments that are eligible for PAM under the provisions of this ASU. We will continue to evaluate its use for new investments. The overall effect of the guidance is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. ASU 2022-03, Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions This ASU clarifies that contractual restrictions prohibiting the sale of an equity security are not considered part of the unit of account of the equity security, and therefore, are not considered in measuring fair value. The amendments clarify that an entity cannot recognize and measure a contractual sale restriction as a separate unit of account. The amendments in this ASU also require additional qualitative and quantitative disclosures for equity securities subject to contractual sale restrictions. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 The requirements of this ASU are consistent with our current treatment of equity securities subject to contractual sale restrictions and are not expected to impact the fair value measurements of these securities. We are evaluating supplementary disclosure requirements and additional data needed to meet these requirements. The overall effect of this standard is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. Standards adopted by the Bank ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures This ASU eliminated the recognition and measurement requirements for troubled debt restructurings (“TDRs”) for creditors that have adopted ASC 326 (“CECL”), eliminated certain TDR disclosures, and required enhanced disclosures about loan modifications for borrowers experiencing financial difficulty. The new standard also required public companies to present current period gross charge-offs (on a current year-to-date basis for interim-period disclosures) by year of origination in their vintage disclosures. Periods beginning after December 15, 2022 We adopted this ASU on a modified retrospective basis on January 1, 2023. It did not have a material impact on our financial statements. 44 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 3. FAIR VALUE Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. For more information about our valuation methodologies for assets and liabilities measured at fair value and the fair value hierarchy, see Note 3 of our 2022 Form 10-K. Fair Value Hierarchy The following schedule presents assets and liabilities measured at fair value on a recurring basis: (In millions) June 30, 2023 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies, and corporations $ 475 $ 8,943 $ — $ 9,418 Municipal securities 1,391 1,391 Other debt securities 23 23 Total available-for-sale 475 10,357 — 10,832 Trading securities 32 32 Other noninterest-bearing investments: Bank-owned life insurance 549 549 Private equity investments 1 3 84 87 Other assets: Agriculture loan servicing and interest-only strips 17 17 Loans held for sale 20 20 Deferred compensation plan assets 114 114 Derivatives 491 491 Total assets $ 592 $ 11,449 $ 101 $ 12,142 LIABILITIES Securities sold, not yet purchased $ 347 $ — $ — $ 347 Other liabiliti Derivatives 409 409 Total liabilities $ 347 $ 409 $ — $ 756 1 The Level 1 private equity investments (“PEIs”) relate to the portion of our Small Business Investment Company (“SBIC”) investments that are publicly traded. 45 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) December 31, 2022 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies, and corporations $ 393 $ 9,815 $ — $ 10,208 Municipal securities 1,634 1,634 Other debt securities 73 73 Total available-for-sale 393 11,522 — 11,915 Trading securities 395 70 465 Other noninterest-bearing investments: Bank-owned life insurance 546 546 Private equity investments 1 4 81 85 Other assets: Agriculture loan servicing and interest-only strips 14 14 Deferred compensation plan assets 114 114 Derivatives 386 386 Total assets $ 906 $ 12,524 $ 95 $ 13,525 LIABILITIES Securities sold, not yet purchased $ 187 $ — $ — $ 187 Other liabiliti Derivatives 451 451 Total liabilities $ 187 $ 451 $ — $ 638 1 The Level 1 PEIs relate to the portion of our SBIC investments that are publicly traded. Level 3 Valuations Our Level 3 financial instruments include PEIs, agriculture loan servicing, and interest-only strips. For additional information regarding our Level 3 financial instruments, including the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2022 Form 10-K. Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments Three Months Ended Six Months Ended June 30, 2023 June 30, 2022 June 30, 2023 June 30, 2022 (In millions) Private equity investments Ag loan servicing & interest-only strips Private equity investments Ag loan servicing & interest-only strips Private equity investments Ag loan servicing & interest-only strips Private equity investments Ag loan servicing & interest-only strips Balance at beginning of period $ 82 $ 18 $ 74 $ 12 $ 81 $ 14 $ 66 $ 12 Unrealized securities gains (losses), net ( 3 ) — — — ( 3 ) — 5 — Other noninterest income (expense) — ( 1 ) — — — 3 — — Purchases 5 — 3 — 6 — 9 — Cost of investments sold — — — — — — ( 3 ) — Transfers out 1 — — — — — — — — Balance at end of period $ 84 $ 17 $ 77 $ 12 $ 84 $ 17 $ 77 $ 12 1 Represents the transfer of SBIC investments out of Level 3 and into Level 1 because they are publicly traded. 46 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The rollforward of Level 3 instruments includes the following realized gains and losses recognized in securities gains (losses) on the consolidated statement of income for the periods present (In millions) Three Months Ended Six Months Ended June 30, 2023 June 30, 2022 June 30, 2023 June 30, 2022 Securities gains (losses), net $ — $ — $ — $ ( 2 ) Nonrecurring Fair Value Measurements Certain assets and liabilities may be measured at fair value on a nonrecurring basis, including impaired loans that have been measured based on the fair value of the underlying collateral, other real estate owned (“OREO”), and equity investments without readily determinable fair values. Nonrecurring fair value adjustments generally include changes in value resulting from observable price changes for equity investments without readily determinable fair values, write-downs of individual assets, or the application of lower of cost or fair value accounting. At June 30, 2023, we had $ 10 million of collateral-dependent loans classified in Level 2, and we recognized $ 4 million of losses from fair value changes related to these loans. At December 31, 2022, we had an insignificant amount of assets or liabilities that had fair value changes measured on a nonrecurring basis. For additional information regarding the measurement of fair value for impaired loans, collateral-dependent loans, and OREO, see Note 3 of our 2022 Form 10-K. Fair Value of Certain Financial Instruments The following schedule presents the carrying values and estimated fair values of certain financial instruments: June 30, 2023 December 31, 2022 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: Held-to-maturity investment securities $ 10,753 $ 10,768 2 $ 11,126 $ 11,239 2 Loans and leases (including loans held for sale), net of allowance 56,302 53,885 3 55,086 53,093 3 Financial liabiliti Time deposits 12,259 12,187 2 2,309 2,269 2 Long-term debt 538 460 2 651 635 2 The previous schedule does not include certain financial instruments that are recorded at fair value on a recurring basis, as well as certain financial assets and liabilities for which the carrying value approximates fair value. For additional information regarding the financial instruments within the scope of this disclosure, and the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2022 Form 10-K. Fair Value Option for Certain Loans Held for Sale During the second quarter of 2023, we elected the fair value option for certain commercial real estate loans that are intended for sale or securitization and are hedged with derivative instruments. Electing the fair value option reduces the accounting volatility that would otherwise result from the asymmetry created by accounting for the loans held for sale at the lower of cost or fair value and the derivatives at fair value without the complexity of applying hedge accounting. These loans are presented in “Loans held for sale” on the consolidated balance sheet, and associated gains and losses are presented in “Capital markets fees” on the consolidated statement of income. These commercial real estate loans measured at fair value are generally classified in Level 2 in the fair value hierarchy because their pricing is based on observable market inputs. At June 30, 2023, we had $ 19.8 million of loans measured at fair value ($ 20.0 million par value). For the second quarter of 2023, we recognized approximately $ 2 million of net gains from fair value changes of loans carried at fair value and the associated derivatives. 47 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 4. OFFSETTING ASSETS AND LIABILITIES The following schedules present gross and net information for selected financial instruments on the balance sheet. June 30, 2023 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 868 $ ( 87 ) $ 781 $ — $ — $ 781 Derivatives (included in other assets) 491 — 491 ( 9 ) ( 470 ) 12 Total assets $ 1,359 $ ( 87 ) $ 1,272 $ ( 9 ) $ ( 470 ) $ 793 Liabiliti Federal funds and other short-term borrowings $ 5,600 $ ( 87 ) $ 5,513 $ — $ — $ 5,513 Derivatives (included in other liabilities) 409 — 409 ( 9 ) ( 1 ) 399 Total liabilities $ 6,009 $ ( 87 ) $ 5,922 $ ( 9 ) $ ( 1 ) $ 5,912 December 31, 2022 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 2,451 $ ( 25 ) $ 2,426 $ — $ — $ 2,426 Derivatives (included in other assets) 386 — 386 ( 10 ) ( 367 ) 9 Total assets $ 2,837 $ ( 25 ) $ 2,812 $ ( 10 ) $ ( 367 ) $ 2,435 Liabiliti Federal funds and other short-term borrowings $ 10,442 $ ( 25 ) $ 10,417 $ — $ — $ 10,417 Derivatives (included in other liabilities) 451 — 451 ( 10 ) — 441 Total liabilities $ 10,893 $ ( 25 ) $ 10,868 $ ( 10 ) $ — $ 10,858 Security repurchase and reverse repurchase agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 5. INVESTMENTS Investment Securities Investment securities are classified as held-to-maturity (“HTM”), available-for-sale (“AFS”), or trading. HTM securities, which management has the intent and ability to hold until maturity, are measured at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. When a security is transferred from AFS to HTM, the difference between its amortized cost basis and fair value at the date of transfer is amortized as a yield adjustment through interest income, and the fair value at the date of transfer results in a discount to the amortized cost basis of the HTM securities. The amortization of the unrealized losses reported in accumulated other comprehensive income (“AOCI”) will offset the effect of the accretion of the discount in interest income that is created by the transfer. 48 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES AFS securities are measured at fair value, and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to AOCI, net of related taxes. Trading securities are measured at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 67 million and $ 75 million at June 30, 2023 and December 31, 2022, respectively. These receivables are presented on the consolidated balance sheet in “Other assets.” See Notes 3 and 5 of our 2022 Form 10-K for more information regarding our process to estimate the fair value and accounting for our investment securities, respectively. The following schedule presents the amortized cost and estimated fair values of our HTM and AFS securiti June 30, 2023 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 96 $ — $ 6 $ 90 Agency guaranteed mortgage-backed securities 1 10,289 116 70 10,335 Municipal securities 368 — 25 343 Total held-to-maturity 10,753 116 101 10,768 Available-for-sale U.S. Treasury securities 565 — 90 475 U.S. Government agencies and corporatio Agency securities 717 — 40 677 Agency guaranteed mortgage-backed securities 8,991 — 1,344 7,647 Small Business Administration loan-backed securities 646 — 27 619 Municipal securities 1,480 — 89 1,391 Other debt securities 25 — 2 23 Total available-for-sale 12,424 — 1,592 10,832 Total HTM and AFS investment securities $ 23,177 $ 116 $ 1,693 $ 21,600 December 31, 2022 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 100 $ — $ 7 $ 93 Agency guaranteed mortgage-backed securities 1 10,621 165 14 10,772 Municipal securities 405 — 31 374 Total held-to-maturity 11,126 165 52 11,239 Available-for-sale U.S. Treasury securities 557 — 164 393 U.S. Government agencies and corporatio Agency securities 782 — 46 736 Agency guaranteed mortgage-backed securities 9,652 — 1,285 8,367 Small Business Administration loan-backed securities 740 1 29 712 Municipal securities 1,732 1 99 1,634 Other debt securities 75 — 2 73 Total available-for-sale 13,538 2 1,625 11,915 Total HTM and AFS investment securities $ 24,664 $ 167 $ 1,677 $ 23,154 1 During the fourth quarter of 2022, we transferred approximately $ 10.7 billion fair value ($ 13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category to reflect our intent for these securities. The transfer of these securities from AFS to HTM at fair value resulted in a discount to the amortized cost basis of the HTM securities equivalent to the $ 2.4 billion ($ 1.8 billion after tax) of unrealized losses in AOCI. The amortization of the unrealized losses will offset the effect of the accretion of the discount created by the transfer. At June 30, 2023, the unamortized discount on the HTM securities totaled approximately $ 2.2 billion ($ 1.7 billion after tax). 49 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Maturities The following schedule presents the amortized cost and weighted average yields of debt securities by contractual maturity of principal payments at June 30, 2023. This schedule does not reflect the duration of the portfolio, which would incorporate amortization, expected prepayments, interest rate resets, and fair value hedges. June 30, 2023 Total debt securities Due in one year or less Due after one year through five years Due after five years through ten years Due after ten years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 96 3.54 % $ — — % $ — — % $ — — % $ 96 3.54 % Agency guaranteed mortgage-backed securities 10,289 1.84 — — — — 46 2.02 10,243 1.84 Municipal securities 1 368 3.15 27 2.77 135 2.98 168 3.33 38 3.19 Total held-to-maturity securities 10,753 1.90 27 2.77 135 2.98 214 3.05 10,377 1.86 Available-for-sale U.S. Treasury securities 565 3.12 164 5.01 — — — — 401 2.35 U.S. Government agencies and corporatio Agency securities 717 2.65 114 1.07 191 3.13 218 2.63 194 3.12 Agency guaranteed mortgage-backed securities 8,991 1.99 21 4.38 233 1.56 1,502 2.09 7,235 1.97 Small Business Administration loan-backed securities 646 5.22 — — 33 5.84 146 4.30 467 5.46 Municipal securities 1 1,480 2.18 122 2.40 500 2.62 678 1.84 180 2.08 Other debt securities 25 8.53 — — — — 10 9.50 15 7.88 Total available-for-sale securities 12,424 2.28 421 3.15 957 2.58 2,554 2.22 8,492 2.22 Total HTM and AFS investment securities $ 23,177 2.10 % $ 448 3.13 % $ 1,092 2.63 % $ 2,768 2.29 % $ 18,869 2.02 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis. 50 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents gross unrealized losses for AFS securities and the estimated fair value by length of time the securities have been in an unrealized loss position. June 30, 2023 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ — $ 55 $ 90 $ 311 $ 90 $ 366 U.S. Government agencies and corporatio Agency securities 2 33 38 617 40 650 Agency guaranteed mortgage-backed securities 83 482 1,261 7,140 1,344 7,622 Small Business Administration loan-backed securities — 21 27 525 27 546 Municipal securities 7 495 82 871 89 1,366 Other — — 2 13 2 13 Total available-for-sale investment securities $ 92 $ 1,086 $ 1,500 $ 9,477 $ 1,592 $ 10,563 December 31, 2022 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ 94 $ 308 $ 70 $ 85 $ 164 $ 393 U.S. Government agencies and corporatio Agency securities 39 634 7 102 46 736 Agency guaranteed mortgage-backed securities 447 4,322 838 4,042 1,285 8,364 Small Business Administration loan-backed securities 8 101 21 524 29 625 Municipal securities 63 1,295 36 256 99 1,551 Other 2 13 — — 2 13 Total available-for-sale investment securities $ 653 $ 6,673 $ 972 $ 5,009 $ 1,625 $ 11,682 At June 30, 2023 and December 31, 2022, approximately 3,219 and 3,562 AFS investment securities were in an unrealized loss position, respectively. Impairment On a quarterly basis, we review our investment securities portfolio for the presence of impairment on an individual security basis. For additional information on our policy and impairment evaluation process for investment securities, see Note 5 of our 2022 Form 10-K. AFS Impairment We did not recognize any impairment on our AFS investment securities portfolio during the first six months of 2023. Unrealized losses primarily relate to changes in interest rates subsequent to purchase and are not attributable to credit; as such, absent any future sales, we would expect to receive the full principal value at maturity. At June 30, 2023, we had not initiated any sales of AFS securities, nor did we have an intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not that we would be required to sell such securities before recovery of their amortized cost basis. HTM Impairment For HTM securities, the allowance for credit losses (“ACL”) is assessed consistent with the approach described in Note 6 for loans and leases measured at amortized cost. At June 30, 2023, the ACL on HTM securities was less than $ 1 million, all HTM securities were risk-graded as “ Pass ” in terms of credit quality, and none were considered past due. 51 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Securities Gains and Losses Recognized in Income The following schedule presents securities gains and losses recognized in the consolidated income statement. Three Months Ended June 30, Six Months Ended June 30, 2023 2022 2023 2022 (In millions) Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Available-for-sale $ 71 $ 71 $ — $ — $ 72 $ 73 $ — $ — Trading 7 7 — — 10 9 — — Other noninterest-bearing investments 10 10 1 — 13 12 5 21 Total gains 88 88 1 — 95 94 5 21 Net gains (losses) 1 $ — $ 1 $ 1 $ ( 16 ) 1 Net gains (losses) were recognized in securities gains (losses) in the income statement. The following schedule presents interest income by security type. Three Months Ended June 30, 2023 2022 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 59 $ 1 $ 60 $ 3 $ 1 $ 4 Available-for-sale 69 8 77 109 11 120 Trading — 1 1 — 4 4 Total securities $ 128 $ 10 $ 138 $ 112 $ 16 $ 128 Six Months Ended June 30, 2023 2022 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 120 $ 2 $ 122 $ 5 $ 2 $ 7 Available-for-sale 138 14 152 205 19 224 Trading — 1 1 — 9 9 Total securities $ 258 $ 17 $ 275 $ 210 $ 30 $ 240 52 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific loan class: (In millions) June 30, 2023 December 31, 2022 Loans held for sale $ 36 $ 8 Commerci Commercial and industrial 1 $ 16,622 $ 16,377 Leasing 388 386 Owner-occupied 9,328 9,371 Municipal 4,354 4,361 Total commercial 30,692 30,495 Commercial real estate: Construction and land development 2,498 2,513 Term 10,406 10,226 Total commercial real estate 12,904 12,739 Consume Home equity credit line 3,291 3,377 1-4 family residential 7,980 7,286 Construction and other consumer real estate 1,434 1,161 Bankcard and other revolving plans 466 471 Other 150 124 Total consumer 13,321 12,419 Total loans and leases $ 56,917 $ 55,653 1 Commercial and industrial loan balances include Paycheck Protection Program (“PPP”) loans of $ 126 million and $ 197 million for the respective periods presented. Loans and leases are measured and presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 38 million and $ 49 million at June 30, 2023 and December 31, 2022, respectively. Amortized cost basis does not include accrued interest receivables of $ 263 million and $ 247 million at June 30, 2023 and December 31, 2022, respectively. These receivables are presented in the consolidated balance sheet within the “ Other assets ” line item. Municipal loans generally include loans to state and local governments (“municipalities”) with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 229 million at June 30, 2023 and $ 262 million at December 31, 2022. Loans with a carrying value of $ 39.8 billion at June 30, 2023 and $ 27.6 billion at December 31, 2022 have been pledged at the Federal Reserve (“FRB”) and the Federal Home Loan Bank (“FHLB”) of Des Moines as collateral for current and potential borrowings. At the time of origination, we determine the classification of loans as either held for investment or held for sale. Loans held for sale are measured at fair value or the lower of cost or fair value and primarily consist of (1) commercial real estate loans that are sold into securitization entities, and (2) conforming residential mortgages that are generally sold to U.S. government agencies. The following schedule presents loans added to, or sold from, the held for sale category during the periods presented. 53 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Three Months Ended June 30, Six Months Ended June 30, (In millions) 2023 2022 2023 2022 Loans added to held for sale $ 220 $ 190 $ 306 $ 487 Loans sold from held for sale 188 187 277 523 Occasionally, we have continuing involvement in the sold loans in the form of servicing rights or guarantees. The principal balance of sold loans for which we retain servicing was $ 3.4 billion and $ 3.5 billion at June 30, 2023 and December 31, 2022, respectively. Income from sold loans, excluding servicing, was $ 2 million and $ 7 million for the three and six months ended June 30, 2023, and $ 4 million and $ 10 million for the three and six months ended June 30, 2022, respectively. Allowance for Credit Losses The allowance for credit losses (“ACL”), which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. For additional information regarding our policies and methodologies used to estimate the ACL, see Note 6 of our 2022 Form 10-K. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is estimated consistent with the approach for loans measured at amortized cost. See Note 5 of our 2022 Form 10-K for further discussion of our methodology used to estimate the ACL on AFS and HTM debt securities. Changes in the ACL are summarized as follows: Three Months Ended June 30, 2023 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 313 $ 160 $ 145 $ 618 Provision for loan losses 24 21 1 46 Gross loan and lease charge-offs 20 — 2 22 Recoveries 6 — 3 9 Net loan and lease charge-offs (recoveries) 14 — ( 1 ) 13 Balance at end of period $ 323 $ 181 $ 147 $ 651 Reserve for unfunded lending commitments Balance at beginning of period $ 19 $ 28 $ 13 $ 60 Provision for unfunded lending commitments 1 1 ( 2 ) — Balance at end of period $ 20 $ 29 $ 11 $ 60 Total allowance for credit losses at end of period Allowance for loan losses $ 323 $ 181 $ 147 $ 651 Reserve for unfunded lending commitments 20 29 11 60 Total allowance for credit losses $ 343 $ 210 $ 158 $ 711 54 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2023 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at December 31, 2022 $ 300 $ 156 $ 119 $ 575 Adjustment for change in accounting standard — ( 4 ) 1 ( 3 ) Balance at beginning of period $ 300 $ 152 $ 120 $ 572 Provision for loan losses 34 29 29 92 Gross loan and lease charge-offs 23 — 6 29 Recoveries 12 — 4 16 Net loan and lease charge-offs (recoveries) 11 — 2 13 Balance at end of period $ 323 $ 181 $ 147 $ 651 Reserve for unfunded lending commitments Balance at beginning of period $ 16 $ 33 $ 12 $ 61 Provision for unfunded lending commitments 4 ( 4 ) ( 1 ) ( 1 ) Balance at end of period $ 20 $ 29 $ 11 $ 60 Total allowance for credit losses at end of period Allowance for loan losses $ 323 $ 181 $ 147 $ 651 Reserve for unfunded lending commitments 20 29 11 60 Total allowance for credit losses $ 343 $ 210 $ 158 $ 711 Three Months Ended June 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 282 $ 102 $ 94 $ 478 Provision for loan losses 12 12 15 39 Gross loan and lease charge-offs 15 — 3 18 Recoveries 7 — 2 9 Net loan and lease charge-offs (recoveries) 8 — 1 9 Balance at end of period $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments Balance at beginning of period $ 14 $ 12 $ 10 $ 36 Provision for unfunded lending commitments ( 1 ) 3 — 2 Balance at end of period $ 13 $ 15 $ 10 $ 38 Total allowance for credit losses at end of period Allowance for loan losses $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments 13 15 10 38 Total allowance for credit losses $ 299 $ 129 $ 118 $ 546 55 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 311 $ 107 $ 95 $ 513 Provision for loan losses ( 12 ) 7 15 10 Gross loan and lease charge-offs 28 — 7 35 Recoveries 15 — 5 20 Net loan and lease charge-offs (recoveries) 13 — 2 15 Balance at end of period $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments Balance at beginning of period $ 19 $ 11 $ 10 $ 40 Provision for unfunded lending commitments ( 6 ) 4 — ( 2 ) Balance at end of period $ 13 $ 15 $ 10 $ 38 Total allowance for credit losses at end of period Allowance for loan losses $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments 13 15 10 38 Total allowance for credit losses $ 299 $ 129 $ 118 $ 546 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement, (2) the loan, if secured, is well-secured, (3) the borrower has paid according to the contractual terms for a minimum of six months, and (4) an analysis of the borrower indicates a reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of nonaccrual loans is summarized as follows: June 30, 2023 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 11 $ 60 $ 71 $ 33 Owner-occupied 20 9 29 1 Total commercial 31 69 100 34 Commercial real estate: Term 7 6 13 1 Total commercial real estate 7 6 13 1 Consume Home equity credit line — 12 12 3 1-4 family residential 2 35 37 5 Total consumer loans 2 47 49 8 Total $ 40 $ 122 $ 162 $ 43 56 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 8 $ 55 $ 63 $ 27 Owner-occupied 13 11 24 1 Total commercial 21 66 87 28 Commercial real estate: Term — 14 14 2 Total commercial real estate — 14 14 2 Consume Home equity credit line 1 10 11 2 1-4 family residential 9 28 37 3 Total consumer loans 10 38 48 5 Total $ 31 $ 118 $ 149 $ 35 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. When the collectability of the amortized cost basis for a nonaccrual loan is no longer in doubt, then interest payments may be recognized in interest income on a cash basis. For the three and six months ended June 30, 2023 and 2022, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. The amount of accrued interest receivables reversed from interest income during the periods presented is summarized by loan portfolio segment as follows: Three Months Ended June 30, Six Months Ended June 30, (In millions) 2023 2022 2023 2022 Commercial $ 3 $ 4 $ 5 $ 8 Commercial real estate — — — — Consumer 1 — 1 — Total $ 4 $ 4 $ 6 $ 8 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as bankcard and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. 57 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Past due loans (accruing and nonaccruing) are summarized as follows: June 30, 2023 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 16,594 $ 18 $ 10 $ 28 $ 16,622 $ 3 $ 57 Leasing 388 — — — 388 — — Owner-occupied 9,320 5 3 8 9,328 — 24 Municipal 4,347 7 — 7 4,354 — — Total commercial 30,649 30 13 43 30,692 3 81 Commercial real estate: Construction and land development 2,497 1 — 1 2,498 — — Term 10,385 18 3 21 10,406 3 13 Total commercial real estate 12,882 19 3 22 12,904 3 13 Consume Home equity credit line 3,275 12 4 16 3,291 — 6 1-4 family residential 7,950 10 20 30 7,980 — 14 Construction and other consumer real estate 1,434 — — — 1,434 — — Bankcard and other revolving plans 463 2 1 3 466 1 — Other 149 1 — 1 150 — — Total consumer loans 13,271 25 25 50 13,321 1 20 Total $ 56,802 $ 74 $ 41 $ 115 $ 56,917 $ 7 $ 114 December 31, 2022 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 16,331 $ 24 $ 22 $ 46 $ 16,377 $ 4 $ 45 Leasing 386 — — — 386 — — Owner-occupied 9,344 20 7 27 9,371 1 15 Municipal 4,361 — — — 4,361 — — Total commercial 30,422 44 29 73 30,495 5 60 Commercial real estate: Construction and land development 2,511 2 — 2 2,513 — — Term 10,179 37 10 47 10,226 — 4 Total commercial real estate 12,690 39 10 49 12,739 — 4 Consume Home equity credit line 3,369 5 3 8 3,377 — 6 1-4 family residential 7,258 9 19 28 7,286 — 16 Construction and other consumer real estate 1,161 — — — 1,161 — — Bankcard and other revolving plans 467 3 1 4 471 1 — Other 124 — — — 124 — — Total consumer loans 12,379 17 23 40 12,419 1 22 Total $ 55,491 $ 100 $ 62 $ 162 $ 55,653 $ 6 $ 86 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is still not expected. 58 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk-grading systems, which vary based on the size and type of credit risk exposure. The internal risk grades assigned to loans follow our definition of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. • Pass – A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention – A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard – A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful – A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were no loans classified as Doubtful at June 30, 2023 and December 31, 2022. For consumer loans and for commercial and commercial real estate (“CRE”) loans with commitments greater than $ 1 million, we generally assign internal risk grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The following schedule presents the amortized cost basis of loans and leases categorized by year of origination and by credit quality classification as monitored by management. The schedule also summarizes the current period gross charge-offs by year of origination. 59 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES June 30, 2023 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2023 2022 2021 2020 2019 Prior Total Commerci Commercial and industrial Pass $ 1,442 $ 2,955 $ 1,550 $ 758 $ 600 $ 703 $ 8,039 $ 177 $ 16,224 Special Mention 1 3 7 5 1 49 88 1 155 Accruing Substandard 1 37 3 3 33 28 65 2 172 Nonaccrual 5 5 2 2 1 1 52 3 71 Total commercial and industrial 1,449 3,000 1,562 768 635 781 8,244 183 16,622 Gross charge-offs — 6 5 — — — 7 2 20 Leasing Pass 53 146 58 38 54 31 — — 380 Special Mention — 1 1 — — — — — 2 Accruing Substandard — 2 — — — 4 — — 6 Nonaccrual — — — — — — — — — Total leasing 53 149 59 38 54 35 — — 388 Gross charge-offs — — — — — — — — — Owner-occupied Pass 662 2,027 2,077 1,058 761 2,128 199 48 8,960 Special Mention 2 5 66 3 17 13 2 — 108 Accruing Substandard 5 32 51 20 17 102 4 — 231 Nonaccrual 1 — 1 12 3 11 1 — 29 Total owner-occupied 670 2,064 2,195 1,093 798 2,254 206 48 9,328 Gross charge-offs — — — — — — — — — Municipal Pass 250 1,188 1,194 688 407 575 4 — 4,306 Special Mention — 38 — — — — — — 38 Accruing Substandard — — 6 3 1 — — — 10 Nonaccrual — — — — — — — — — Total municipal 250 1,226 1,200 691 408 575 4 — 4,354 Gross charge-offs — — — — — — — — — Total commercial 2,422 6,439 5,016 2,590 1,895 3,645 8,454 231 30,692 Total commercial gross charge-offs — 6 5 — — — 7 2 20 Commercial real estate: Construction and land development Pass 182 667 667 270 36 3 490 118 2,433 Special Mention 5 — — 12 — — 15 — 32 Accruing Substandard — 10 1 — 22 — — — 33 Nonaccrual — — — — — — — — — Total construction and land development 187 677 668 282 58 3 505 118 2,498 Gross charge-offs — — — — — — — — — Term Pass 876 2,704 1,888 1,673 969 1,639 219 173 10,141 Special Mention 23 17 1 41 2 9 — — 93 Accruing Substandard 30 23 1 37 27 41 — — 159 Nonaccrual — — — — 4 9 — — 13 Total term 929 2,744 1,890 1,751 1,002 1,698 219 173 10,406 Gross charge-offs — — — — — — — — — Total commercial real estate 1,116 3,421 2,558 2,033 1,060 1,701 724 291 12,904 Total commercial real estate gross charge-offs — — — — — — — — — 60 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES June 30, 2023 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2023 2022 2021 2020 2019 Prior Total Consume Home equity credit line Pass — — — — — — 3,184 93 3,277 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 10 2 12 Total home equity credit line — — — — — — 3,196 95 3,291 Gross charge-offs — — — — — — — — — 1-4 family residential Pass 651 1,970 1,664 1,011 620 2,025 — — 7,941 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — — 2 3 4 28 — — 37 Total 1-4 family residential 651 1,970 1,666 1,014 624 2,055 — — 7,980 Gross charge-offs — — — — — — — — — Construction and other consumer real estate Pass 74 940 372 27 12 9 — — 1,434 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 74 940 372 27 12 9 — — 1,434 Gross charge-offs — — — — — — — — — Bankcard and other revolving plans Pass — — — — — — 462 2 464 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 464 2 466 Gross charge-offs — — — — — — 2 — 2 Other consumer Pass 61 48 24 8 6 3 — — 150 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 61 48 24 8 6 3 — — 150 Gross charge-offs — — — — — — — — — Total consumer 786 2,958 2,062 1,049 642 2,067 3,660 97 13,321 Total consumer gross charge-offs — — — — — — 2 — 2 Total loans $ 4,324 $ 12,818 $ 9,636 $ 5,672 $ 3,597 $ 7,413 $ 12,838 $ 619 $ 56,917 Total gross charge-offs $ — $ 6 $ 5 $ — $ — $ — $ 9 $ 2 $ 22 61 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total Commerci Commercial and industrial Pass $ 3,363 $ 1,874 $ 979 $ 876 $ 293 $ 264 $ 8,054 $ 182 $ 15,885 Special Mention 1 2 10 52 1 2 50 — 118 Accruing Substandard 26 7 17 78 30 67 84 2 311 Nonaccrual — 8 5 11 1 2 32 4 63 Total commercial and industrial 3,390 1,891 1,011 1,017 325 335 8,220 188 16,377 Leasing Pass 160 71 47 66 18 19 — — 381 Special Mention — — — — — — — — — Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 160 71 47 66 18 24 — — 386 Owner-occupied Pass 2,157 2,285 1,143 874 654 1,679 187 74 9,053 Special Mention 1 15 5 8 3 16 1 — 49 Accruing Substandard 16 33 48 20 55 64 9 — 245 Nonaccrual 1 1 2 4 5 10 1 — 24 Total owner-occupied 2,175 2,334 1,198 906 717 1,769 198 74 9,371 Municipal Pass 1,230 1,220 816 441 168 437 8 — 4,320 Special Mention 32 6 — — — — — — 38 Accruing Substandard — — — — — 3 — — 3 Nonaccrual — — — — — — — — — Total municipal 1,262 1,226 816 441 168 440 8 — 4,361 Total commercial 6,987 5,522 3,072 2,430 1,228 2,568 8,426 262 30,495 Commercial real estate: Construction and land development Pass 548 671 455 81 2 2 617 96 2,472 Special Mention 1 1 — — — — — — 2 Accruing Substandard 17 — — 22 — — — — 39 Nonaccrual — — — — — — — — — Total construction and land development 566 672 455 103 2 2 617 96 2,513 Term Pass 2,861 2,107 1,686 1,012 666 1,229 276 112 9,949 Special Mention 39 21 11 — 4 1 — — 76 Accruing Substandard 42 2 34 21 53 35 — — 187 Nonaccrual — — — 4 1 9 — — 14 Total term 2,942 2,130 1,731 1,037 724 1,274 276 112 10,226 Total commercial real estate 3,508 2,802 2,186 1,140 726 1,276 893 208 12,739 62 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total Consume Home equity credit line Pass — — — — — — 3,265 98 3,363 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 3 — 3 Nonaccrual — — — — — — 8 3 11 Total home equity credit line — — — — — — 3,276 101 3,377 1-4 family residential Pass 1,913 1,503 1,024 638 381 1,788 — — 7,247 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — 2 2 4 3 26 — — 37 Total 1-4 family residential 1,913 1,505 1,026 642 384 1,816 — — 7,286 Construction and other consumer real estate Pass 583 485 64 19 5 5 — — 1,161 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 583 485 64 19 5 5 — — 1,161 Bankcard and other revolving plans Pass — — — — — — 468 2 470 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 469 2 471 Other consumer Pass 68 30 12 8 4 2 — — 124 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 68 30 12 8 4 2 — — 124 Total consumer 2,564 2,020 1,102 669 393 1,823 3,745 103 12,419 Total loans $ 13,059 $ 10,344 $ 6,360 $ 4,239 $ 2,347 $ 5,667 $ 13,064 $ 573 $ 55,653 Loan Modifications On January 1, 2023, we adopted ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures, which eliminated the recognition and measurement of troubled debt restructurings (“TDRs”) and their related disclosures. As a result, we no longer separately measure an allowance for credit losses for TDRs, relying instead on our credit loss estimation models. The adoption of this guidance did not have a material impact on our financial statements. ASU 2022-02 requires enhanced disclosures for loan modifications to borrowers experiencing financial difficulty. Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications may also occur when the borrower experiences financial difficulty and needs 63 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES temporary or permanent relief from the original contractual terms of the loan. For loans that have been modified with a borrower experiencing financial difficulty, we use the same credit loss estimation methods that we use for the rest of the loan portfolio. These methods incorporate the post-modification loan terms, as well as defaults and charge-offs associated with historical modified loans. All nonaccruing loans more than $1 million are evaluated individually, regardless of modification. We consider many factors in determining whether to agree to a loan modification and we seek a solution that will both minimize potential loss to us and attempt to help the borrower. We evaluate borrowers’ current and forecasted future cash flows, their ability and willingness to make current contractual or proposed modified payments, the value of the underlying collateral (if applicable), the possibility of obtaining additional security or guarantees, and the potential costs related to a repossession or foreclosure and the subsequent sale of the collateral. A modified loan on nonaccrual will generally remain on nonaccrual until the borrower has proven the ability to perform under the modified structure for a minimum of six months, and there is evidence that such payments can and are likely to continue as agreed. Performance prior to the modification, or significant events that coincide with the modification, are included in assessing whether the borrower can meet the new terms and may result in the loan being returned to accrual at the time of modification or after a shorter performance period. If the borrower’s ability to meet the revised payment schedule is uncertain, the loan remains on nonaccrual. There were no loans to borrowers experiencing financial difficulty that had a payment default during the three and six months ended June 30, 2023, which were still in default at period end, and were within 12 months or less of being modified. The amortized cost of loans to borrowers experiencing financial difficulty that were modified during the period, by loan class and modification type, is summarized in the following schedu Three Months Ended June 30, 2023 Amortized cost associated with the following modification typ (In millions) Interest rate reduction Maturity or term extension Principal forgiveness Multiple modification types 1 Total 2 Percentage of total loans 3 Commerci Commercial and industrial $ 1 $ 27 $ — $ — $ 28 0.2 % Owner-occupied — 20 — — 20 0.2 Total commercial 1 47 — — 48 0.2 Commercial real estate: Construction and land development — 18 — — 18 0.7 Term — 34 — — 34 0.3 Total commercial real estate — 52 — — 52 0.4 Consume 1-4 family residential — — 1 1 2 — Bankcard and other revolving plans — 1 — — 1 0.2 Total consumer loans — 1 1 1 3 — Total $ 1 $ 100 $ 1 $ 1 $ 103 0.2 % 64 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2023 Amortized cost associated with the following modification typ (In millions) Interest rate reduction Maturity or term extension Principal forgiveness Multiple modification types 1 Total 2 Percentage of total loans 3 Commerci Commercial and industrial $ 1 $ 42 $ — $ — $ 43 0.3 % Owner-occupied 4 22 — — 26 0.3 Total commercial 5 64 — — 69 0.2 Commercial real estate: Construction and land development — 18 — — 18 0.7 Term — 58 — — 58 0.6 Total commercial real estate — 76 — — 76 0.6 Consume 1-4 family residential — — 1 1 2 — Bankcard and other revolving plans — 1 — — 1 0.2 Total consumer loans — 1 1 1 3 — Total $ 5 $ 141 $ 1 $ 1 $ 148 0.3 % 1 Includes modifications that resulted from a combination of interest rate reduction, maturity or term extension, principal forgiveness, and payment deferral modifications. 2 Unfunded lending commitments related to loans modified to borrowers experiencing financial difficulty totaled $ 10 million at June 30, 2023. 3 Amounts less than 0.05% are rounded to zero. The financial impact of loan modifications to borrowers experiencing financial difficulty during the three and six months ended June 30, 2023, is summarized in the following schedu Three Months Ended June 30, 2023 Six Months Ended June 30, 2023 (In millions) Weighted-average interest rate reduction (in percentage points) Weighted-average term extension (in months) Weighted-average interest rate reduction (in percentage points) Weighted-average term extension (in months) Commerci Commercial and industrial 1.0 % 8 1.0 % 9 Owner-occupied — 7 4.4 7 Total commercial 1.0 8 3.7 8 Commercial real estate: Construction and land development — 6 — 6 Term — 18 — 17 Total commercial real estate — 14 — 15 Consume 1 1-4 family residential 1.3 110 1.3 110 Bankcard and other revolving plans — 65 — 61 Total consumer loans 1.3 87 1.3 87 Total weighted average financial impact 1.1 % 12 3.4 % 13 1 Primarily relates to one loan within each consumer loan class. 65 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Loan modifications to borrowers experiencing financial difficulty during the three and six months ended June 30, 2023, resulted in $ 1 million of principal forgiveness for the total loan portfolio for both periods. The following schedule presents the aging of loans to borrowers experiencing financial difficulty that were modified on or after January 1, 2023 (the date we adopted ASU 2022-02) through June 30, 2023, presented by portfolio segment and loan class. June 30, 2023 (In millions) Current 30-89 days past due 90+ days past due Total past due Total amortized cost of loans Commerci Commercial and industrial $ 40 $ 3 $ — $ 3 $ 43 Owner-occupied 25 — 1 1 26 Total commercial 65 3 1 4 69 Commercial real estate: Construction and land development 18 — — — 18 Term 58 — — — 58 Total commercial real estate 76 — — — 76 Consume 1-4 family residential 2 — — — 2 Bankcard and other revolving plans 1 — — — 1 Total consumer loans 3 — — — 3 Total $ 144 $ 3 $ 1 $ 4 $ 148 Troubled Debt Restructuring Disclosures Prior to Our Adoption of ASU 2022-02 Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are considered TDRs. For further discussion of our policies and processes regarding TDRs, see Note 6 of our 2022 Form 10-K. 66 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Information on TDRs, including the amortized cost on an accruing and nonaccruing basis by loan class and modification type is summarized in the following schedul December 31, 2022 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 1 $ 12 $ — $ — $ 9 $ 28 $ 50 Owner-occupied — 1 — 2 13 12 28 Municipal — — — — — — — Total commercial 1 13 — 2 22 40 78 Commercial real estate: Construction and land development — — — — — 8 8 Term 1 27 — 27 28 1 84 Total commercial real estate 1 27 — 27 28 9 92 Consume Home equity credit line — 1 4 — — 1 6 1-4 family residential 2 1 2 — 1 15 21 Total consumer loans 2 2 6 — 1 16 27 Total accruing 4 42 6 29 51 65 197 Nonaccruing Commerci Commercial and industrial — — — 3 9 3 15 Owner-occupied 4 — — — — 4 8 Total commercial 4 — — 3 9 7 23 Commercial real estate: Term — 10 — — — — 10 Total commercial real estate — 10 — — — — 10 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 1 2 4 Total consumer loans — 1 1 — 1 2 5 Total nonaccruing 4 11 1 3 10 9 38 Total $ 8 $ 53 $ 7 $ 32 $ 61 $ 74 $ 235 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. Unfunded lending commitments related to TDRs totaled $ 7 million at December 31, 2022. The total amortized cost of all TDRs in which interest rates were modified below market was $ 63 million at December 31, 2022. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the year ended December 31, 2022 was not significant. 67 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. The amortized cost of TDRs that had a payment default during the year ended December 31, 2022, which were still in default at period end, and were within 12 months or less of being modified as TDRs was approximately $ 10 million. Collateral-Dependent Loans When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on (1) the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, (2) the observable market price of the loan, or (3) the fair value of the loan’s underlying collateral. Select information on loans for which the borrower is experiencing financial difficulties and repayment is expected to be provided substantially through the operation or sale of the underlying collateral, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: June 30, 2023 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 10 Accounts Receivable 81 % Owner-occupied 12 Hospital 29 % Commercial real estate: Term 3 Hotel, Multi-family 89 % Total $ 25 December 31, 2022 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Owner-occupied $ 2 Land, Warehouse 29 % Commercial real estate: Term 1 Multi-family 55 % Consume Home equity credit line 1 Single family residential 13 % 1-4 family residential 3 Single family residential 41 % Total $ 7 1 The fair value is based on the most recent appraisal or other collateral evaluation . Foreclosed Residential Real Estate At June 30, 2023 and December 31, 2022, we did no t have any foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that were in the process of foreclosure was $ 8 million and $ 10 million for the same periods, respectively. 68 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives and Accounting Our primary objective for using derivatives is to manage interest rate risk. We use derivatives to stabilize forecasted interest income from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities. We also assist clients with their risk management needs through the use of derivatives. Cash receipts and payments from derivatives designated in qualifying hedging relationships are classified in the same category as the cash flows from the items being hedged in the statement of cash flows, and cash flows from undesignated derivatives are classified as operating activities. For a more detailed discussion of the use of and accounting policies regarding derivative instruments, see Note 7 of our 2022 Form 10-K. Fair Value Hedges of Liabilities – During the second quarter of 2023, we terminated our remaining receive-fixed interest rate swap with a notional amount of $ 500 million that had been designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converted the interest on our fixed-rate debt to floating until it was terminated. Prior to termination, changes in the fair value of derivatives designated as fair value hedges of debt were offset by changes in the fair value of the hedged debt instruments as shown in the schedules on the following pages. The unamortized hedge basis adjustments resulting from the terminated hedging relationship will be amortized over the remaining life of the fixed-rate debt. Fair Value Hedges of Assets – During the second quarter of 2023, we entered into new fair value hedges of a defined portfolio of AFS securities using pay-fixed, receive-floating swaps with an aggregate notional amount of $ 2.5 billion that are designated as hedges under the portfolio layer method described in ASU 2022-01, Derivatives and Hedging (Topic 815): Fair Value Hedging—Portfolio Layer Method. In July 2023, we entered into additional pay-fixed swaps with an aggregate notional amount of $ 1 billion that were designated as fair value hedges of a defined portfolio of fixed-rate commercial loans. At June 30, 2023, we also had pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 1.1 billion designated as fair value hedges of specifically identified AFS securities. Fair value hedges of fixed-rate AFS securities effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. Changes in fair value of derivatives designated as fair value hedges of fixed-rate AFS securities were largely offset by changes in the value of the hedged securities, as shown in the schedules on the following pages. Cash Flow Hedges – At June 30, 2023, we had receive-fixed interest rate swaps with an aggregate notional amount of $ 2.9 billion designated as cash flow hedges of pools of floating-rate commercial loans. During the second quarter of 2023, we terminated cash flow hedging relationships with an aggregate notional amount of $ 2.8 billion. At June 30, 2023, there was $ 222 million of losses deferred in AOCI related to terminated cash flow hedges that are expected to be fully amortized by October 2027. Changes in the fair value of qualifying cash flow hedges during the quarter were recorded in AOCI as shown in the schedule below. The amounts deferred in AOCI are reclassified into earnings in the periods in which the hedged interest receipts occur (i.e., when the hedged forecasted transactions affect earnings). Collateral and Credit Risk Exposure to credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred as a result of counterparty nonperformance. For more information on how we incorporate counterparty credit risk in derivative valuations, see Note 3 of our 2022 Form 10-K. For additional discussion of collateral and the associated credit risk related to our derivative contracts, see Note 7 of our 2022 Form 10-K. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position at a given balance sheet date. Certain of these derivative contracts contain credit risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit risk-related feature were triggered, such as a downgrade of our credit rating. In past situations, not all counterparties have demanded that additional collateral be pledged when provided for by the contractual terms. At June 30, 2023, the fair value of our derivative liabilities was $ 409 million, for which we were required to pledge 69 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES cash collateral of $ 2 million in the normal course of business. If our credit rating were downgraded one notch by either Standard & Poor’s (“S&P”) or Moody’s at June 30, 2023, there would likely be no additional collateral required to be pledged. Derivative Amounts The following schedule presents information regarding notional amounts and recorded gross fair values at June 30, 2023 and December 31, 2022, and the related gain (loss) of derivative instruments. June 30, 2023 December 31, 2022 Notional amount 1 Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Receive-fixed interest rate swaps $ 2,850 $ — $ — $ 7,633 $ — $ 1 Cash flow hedges of floating-rate liabiliti Pay-fixed interest rate swaps 500 — — — — — Fair value hed Debt hed Receive-fixed interest rate swaps — — — 500 — — Asset hed Pay-fixed interest rate swaps 3,572 80 — 1,228 84 — Total derivatives designated as hedging instruments 6,922 80 — 9,361 84 1 Derivatives not designated as hedging instruments: Customer interest rate derivatives 2 13,726 406 407 13,670 296 443 Other interest rate derivatives 3,576 2 — 862 — — Foreign exchange derivatives 216 2 2 605 6 7 Purchased credit derivatives 18 1 — — — — Total derivatives not designated as hedging instruments 17,536 411 409 15,137 302 450 Total derivatives $ 24,458 $ 491 $ 409 $ 24,498 $ 386 $ 451 1 Centrally cleared swaps originally indexed to London Interbank Offered Rate (“LIBOR”) were divided into short-dated, LIBOR-indexed spot starting swaps and forward starting Secured Overnight Financing Rate (“SOFR”) swaps when the clearing houses transitioned to SOFR. The LIBOR-indexed swaps will fully mature in the third quarter of 2023. The notional amounts above reflect the economic substance of our derivatives and do not include the duplicate notional amounts during the transition period. 2 Customer interest rate derivatives include both customer-facing derivative as well as offsetting derivatives facing other dealer banks. The fair value of these derivatives include a net credit valuation adjustment (“CVA”) of $ 10 million, reducing the fair value of the liability at June 30, 2023, and $ 13 million, reducing the fair value of the liability at December 31, 2022. The amount of derivative gains (losses) from cash flow and fair value hedges that were deferred in other comprehensive income (“OCI”) or recognized in earnings for the three and six months ended June 30, 2023 and 2022 is presented in the schedules below. 70 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Three Months Ended June 30, 2023 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — Received-fixed interest rate swaps ( 21 ) ( 41 ) — Cash flow hedges of floating-rate liabiliti Pay-fixed interest rate swaps 11 1 — Fair value hed Debt hed Receive-fixed interest rate swaps — — ( 8 ) Basis amortization on terminated hedges 2 — ( 1 ) Asset hed Pay-Fixed interest rate swaps — — 9 Basis amortization on terminated asset hedges 3 — — — Total derivatives designated as hedging instruments $ ( 10 ) $ ( 40 ) $ — Six Months Ended June 30, 2023 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — Received-fixed interest rate swaps 17 ( 90 ) — Cash flow hedges of floating-rate liabiliti Pay-fixed interest rate swaps 11 1 — Fair value hed Debt hed Receive-fixed interest rate swaps — — ( 5 ) Basis amortization on terminated debt hedges 2 — — ( 1 ) Asset hed Pay-fixed interest rate swaps — — 16 Basis amortization on terminated asset hedges 3 — — — Total derivatives designated as hedging instruments $ 28 $ ( 89 ) $ 10 Three Months Ended June 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — Interest rate swaps ( 66 ) 6 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 1 Basis amortization on terminated hedges 2 — — — Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2 — — — Total derivatives designated as hedging instruments $ ( 66 ) $ 6 $ — 71 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 2 $ — Interest rate swaps ( 244 ) 17 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 3 Basis amortization on terminated hedges 2, 3 — — 1 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 2 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 244 ) $ 19 $ 2 1 For the 12 months following June 30, 2023, we estimate that $ 106 million of losses will be reclassified from AOCI into interest income, compared with an estimate of $ 94 million of losses at June 30, 2022. 2 At June 30, 2023, the total cumulative unamortized basis adjustment for terminated fair value hedges of debt was $ 50 million. We did no t have any cumulative unamortized basis adjustment for terminated hedges of debt at June 30, 2022. We had $ 3 million and $ 7 million of cumulative unamortized basis adjustments from terminated fair value hedges of assets at June 30, 2023 and 2022, respectively. The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) Three Months Ended June 30, 2023 Six Months Ended June 30, 2023 Three Months Ended June 30, 2022 Six Months Ended June 30, 2022 Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives $ 10 $ 11 $ 17 $ 30 Other interest rate derivatives 3 3 ( 1 ) — Foreign exchange derivatives 7 15 8 14 Purchased credit derivatives $ ( 1 ) $ ( 1 ) $ — $ — Total derivatives not designated as hedging instruments $ 19 $ 28 $ 24 $ 44 The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Three Months Ended June 30, 2023 Three Months Ended June 30, 2022 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ 2 $ ( 2 ) $ — $ ( 18 ) $ 18 $ — Assets: Pay-fixed interest rate swaps 1, 2 66 ( 67 ) ( 1 ) 97 ( 97 ) — 72 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Gain/(loss) recorded in income Six Months Ended June 30, 2023 Six Months Ended June 30, 2022 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ 14 $ ( 14 ) $ — $ ( 50 ) $ 50 $ — Assets: Pay-fixed interest rate swaps 1, 2 26 ( 27 ) ( 1 ) 150 ( 150 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt and fixed-rate AFS securities. Gains and losses were recorded in net interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) 1 Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged item (In millions) June 30, 2023 December 31, 2022 June 30, 2023 December 31, 2022 June 30, 2023 December 31, 2022 Long-term fixed-rate debt 2 $ — $ ( 500 ) $ — $ ( 435 ) $ — $ 65 Fixed-rate assets 3 11,129 1,228 10,898 962 ( 231 ) ( 266 ) 1 Carrying amounts exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 2 We terminated the remaining fair value hedge of debt during the second quarter of 2023. The remaining hedge basis adjustments will be amortized over the life of the associated debt. 3 These amounts include the amortized cost basis of defined portfolios of AFS securities used to designate hedging relationships in which the hedged item is the stated amount of assets in the defined portfolio anticipated to be outstanding for the designated hedged period. At June 30, 2023, the amortized cost basis of the defined portfolios used in these hedging relationships was $ 10.1 billion; the cumulative basis adjustment associated with these hedging relationships was $ 36.8 million; and the notional amounts of the designated hedging instruments were $ 2.5 billion. 8 . LEASES We have operating and finance leases for branches, corporate offices, and data centers. At June 30, 2023, we had 412 branches, of which 277 are owned and 135 are leased. We lease our headquarters in Salt Lake City, Utah. The remaining maturities of our lease commitments range from the year 2023 to 2062 , and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “ Other assets ,” and “ Premises, equipment and software, net ,” respectively. The corresponding liabilities for those leases are presented in “ Other liabilities ,” and “ Long-term debt .” For more information about our lease policies, see Note 8 of our 2022 Form 10-K. 73 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate. (Dollar amounts in millions) June 30, 2023 December 31, 2022 Operating leases ROU assets, net of amortization $ 170 $ 173 Lease liabilities 195 198 Finance leases ROU assets, net of amortization 3 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.6 8.4 Finance leases 16.9 17.4 Weighted average discount rate Operating leases 3.1 % 2.9 % Finance leases 3.1 % 3.1 % Additional information related to lease expense is presented in the following schedule. Three Months Ended June 30, Six Months Ended June 30, (In millions) 2023 2022 2023 2022 Lease expense: Operating lease expense $ 11 $ 12 $ 22 $ 24 Other expenses associated with operating leases 1 16 12 30 24 Total lease expense $ 27 $ 24 $ 52 $ 48 Related cash disbursements from operating leases $ 12 $ 12 $ 24 $ 25 1 Other expenses primarily include property taxes and building and property maintenance. The following schedule presents the total contractual undiscounted lease payments for operating lease liabilities by expected due date for each of the next five years. (In millions) Total undiscounted lease payments 2023 1 $ 24 2024 40 2025 32 2026 27 2027 18 Thereafter 87 Total $ 228 1 Contractual maturities for the six months remaining in 2023. We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 4 million and $ 3 million for the second quarter of 2023 and 2022, respectively, and $ 8 million and $ 7 million for the first six months of 2023 and 2022, respectively. We originated equipment leases, considered to be sales-type leases or direct financing leases, totaling $ 388 million and $ 386 million at June 30, 2023 and December 31, 2022, respectively. We recorded income of $ 4 million a nd $ 3 million on these leases for the second quarter of 2023 and 2022, respectively, and $ 8 million and $ 6 million for the first six months of 2023 and 2022, respectively. 74 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 9. LONG-TERM DEBT AND SHAREHOLDERS’ EQUITY Long-Term Debt The long-term debt carrying values presented in the consolidated balance sheet represent the par value of the debt, adjusted for any unamortized premium or discount, unamortized debt issuance costs, and basis adjustments for interest rate swaps designated as fair value hedges. The following schedule presents the components of our long-term debt. LONG-TERM DEBT (In millions) June 30, 2023 December 31, 2022 Subordinated notes 1 $ 534 $ 519 Senior notes — 128 Finance lease obligations 4 4 Total $ 538 $ 651 1 The change in the subordinated notes balance is primarily due to a fair value hedge accounting adjustment. See also Note 7. The decrease in long-term debt was primarily due to the redemption of $ 128 million, 4.50 % matured senior notes during the second quarter of 2023. Shareholders' Equity Our common stock is traded on the National Association of Securities Dealers Automated Quotations (“NASDAQ”) Global Select Market. At June 30, 2023, there were 148.1 million shares of $ 0.001 par value common stock outstanding. Common stock and additional paid-in capital decreased $ 32 million, or 2 %, to $ 1.7 billion at June 30, 2023, from December 31, 2022, primarily due to common stock repurchases during the first quarter of 2023. As the macroeconomic environment remained uncertain, we did not repurchase common shares during the second quarter of 2023, nor do we expect to repurchase common shares during the third quarter of 2023. AOCI was a $ 2.9 billion loss at June 30, 2023. The following schedule presents the changes in AOCI by component. (In millions) Net unrealized gains/(losses) on investment securities Net unrealized gains/(losses) on derivatives and other Pension and post-retirement Total Six Months Ended June 30, 2023 Balance at December 31, 2022 $ ( 2,800 ) $ ( 311 ) $ ( 1 ) $ ( 3,112 ) OCI before reclassifications, net of tax 1 94 21 — 115 Amounts reclassified from AOCI, net of tax — 67 — 67 Other comprehensive income 94 88 — 182 Balance at June 30, 2023 $ ( 2,706 ) $ ( 223 ) $ ( 1 ) $ ( 2,930 ) Income tax expense included in OCI $ 31 $ 28 $ — $ 59 Six Months Ended June 30, 2022 Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) OCI (loss) before reclassifications, net of tax ( 1,820 ) ( 185 ) — ( 2,005 ) Amounts reclassified from AOCI, net of tax — ( 15 ) — ( 15 ) Other comprehensive loss ( 1,820 ) ( 200 ) — ( 2,020 ) Balance at June 30, 2022 $ ( 1,898 ) $ ( 200 ) $ ( 2 ) $ ( 2,100 ) Income tax benefit included in OCI (loss) $ ( 590 ) $ ( 65 ) $ — $ ( 655 ) 1 For the six months ended June 30, 2023, the OCI related to net unrealized gains/(losses) on investment securities reflected a $ 9 million decline in the fair value of fixed-rate AFS securities as a result of higher interest rates, offset by a $ 103 million increase in amortization of the discount on the securities transferred from AFS to HTM during the fourth quarter of 2022. 75 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Amounts reclassified from AOCI 1 Statement of income (SI) (In millions) Three Months Ended June 30, Six Months Ended June 30, Details about AOCI components 2023 2022 2023 2022 Affected line item Net unrealized gains (losses) on derivative instruments $ ( 40 ) $ 6 $ ( 89 ) $ 20 SI Interest and fees on loans L Income tax expense (benefit) ( 10 ) 2 ( 22 ) 5 Amounts reclassified from AOCI $ ( 30 ) $ 4 $ ( 67 ) $ 15 1 Positive reclassification amounts indicate increases to earnings in the income statement. 10. COMMITMENTS, GUARANTEES, AND CONTINGENT LIABILITIES Commitments and Guarantees The following schedule presents the contractual amounts related to off-balance sheet financial instruments used to meet the financing needs of our customers. (In millions) June 30, 2023 December 31, 2022 Unfunded lending commitments 1 $ 29,731 $ 29,628 Standby letters of cr Financial 579 667 Performance 178 184 Commercial letters of credit 36 11 Mortgage-backed security purchase agreements 2 51 23 Total unfunded commitments $ 30,575 $ 30,513 1 Net of participations. 2 Represents agreements with Farmer Mac to purchase securities backed by certain agricultural mortgage loans. For more information about these commitments and guarantees including their terms and collateral requirements, see Note 16 of our 2022 Form 10-K. Legal Matters We are involved in various legal proceedings, which may include litigation in court and arbitral proceedings, as well as investigations, examinations, and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. At June 30, 2023, we were subject to the following material litigation or governmental inquiri • Two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the Bank who filed for bankruptcy protection in 2017. The cases are in discovery phases. Trial has not been scheduled in either case. 76 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES • Sipple v. Zions Bancorporation, N.A., brought against us in the District Court of Clark County, Nevada in February 2021 with respect to foreign transaction fees. This case is in the early discovery phase and trial has not been scheduled. At least quarterly, we review outstanding and new legal matters, utilizing then available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at June 30, 2023, we estimated that the aggregate range of reasonably possible losses for those matters to be from zero to approximately $ 5 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments and actual outcomes will differ from our estimates. These differences may be material. 11. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which represented approximately 80 % of our total revenue in the second quarter of 2023. Only noninterest income is considered to be revenue from contracts with customers in scope of ASC 606. For more information about our revenue recognition from contracts, see Note 17 of our 2022 Form 10-K. 77 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Disaggregation of Revenue The schedule below presents net revenue by our operating business segments for the three months ended June 30, 2023 and 2022. Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 14 $ 12 $ 8 $ 7 $ 14 $ 11 Card fees 13 14 5 5 8 8 Retail and business banking fees 5 6 3 3 4 4 Capital markets fees — — — — — — Wealth management fees 6 6 1 1 4 4 Other customer-related fees 2 2 2 2 2 2 Total noninterest income from contracts with customers (ASC 606) 40 40 19 18 32 29 Other noninterest income (non-ASC 606 customer-related) 6 6 14 8 8 13 Total customer-related noninterest income 46 46 33 26 40 42 Other noncustomer-related noninterest income 3 3 2 1 15 — Total noninterest income 49 49 35 27 55 42 Net interest income 178 170 152 142 116 120 Total net revenue $ 227 $ 219 $ 187 $ 169 $ 171 $ 162 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 2 $ 2 $ 3 $ 2 $ 2 $ 2 Card fees 4 4 4 4 2 2 Retail and business banking fees 2 2 3 3 1 1 Capital markets fees — — — — — — Wealth management fees 1 1 1 1 1 — Other customer-related fees — — — — 1 1 Total noninterest income from contracts with customers (ASC 606) 9 9 11 10 7 6 Other noninterest income (non-ASC 606 customer-related) 1 1 — 2 — 2 Total customer-related noninterest income 10 10 11 12 7 8 Other noncustomer-related noninterest income 1 1 — — — — Total noninterest income 11 11 11 12 7 8 Net interest income 64 55 49 39 38 35 Total net revenue $ 75 $ 66 $ 60 $ 51 $ 45 $ 43 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 1 $ 1 $ 1 $ — $ 45 $ 37 Card fees 1 1 — ( 2 ) 37 36 Retail and business banking fees — — ( 2 ) 1 16 20 Capital markets fees — — 1 1 1 1 Wealth management fees — — — — 14 13 Other customer-related fees — — 8 9 15 16 Total noninterest income from contracts with customers (ASC 606) 2 2 8 9 128 123 Other noninterest income (non-ASC 606 customer-related) — — 5 ( 1 ) 34 31 Total customer-related noninterest income 2 2 13 8 162 154 Other noncustomer-related noninterest income — — 6 13 27 18 Total noninterest income 2 2 19 21 189 172 Net interest income 15 15 ( 21 ) 17 591 593 Total net revenue $ 17 $ 17 $ ( 2 ) $ 38 $ 780 $ 765 78 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The schedule below presents net revenue by our operating business segments for the six months ended June 30, 2023 and 2022. Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 28 $ 27 $ 15 $ 14 $ 28 $ 22 Card fees 26 27 10 10 16 16 Retail and business banking fees 9 12 6 6 7 8 Capital markets fees — — — — — — Wealth management fees 12 11 2 2 8 8 Other customer-related fees 4 4 4 3 3 3 Total noninterest income from contracts with customers (ASC 606) 79 81 37 35 62 57 Other noninterest income (non-ASC 606 customer-related) 13 11 19 14 17 22 Total customer-related noninterest income 92 92 56 49 79 79 Other noncustomer-related noninterest income 7 3 3 2 17 — Total noninterest income 99 95 59 51 96 79 Net interest income 363 326 311 271 240 232 Total net revenue $ 462 $ 421 $ 370 $ 322 $ 336 $ 311 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 5 $ 4 $ 7 $ 6 $ 3 $ 4 Card fees 7 7 8 7 4 4 Retail and business banking fees 4 5 5 6 2 2 Capital markets fees — — — — — — Wealth management fees 2 2 3 2 1 1 Other customer-related fees 1 1 — — 2 1 Total noninterest income from contracts with customers (ASC 606) 19 19 23 21 12 12 Other noninterest income (non-ASC 606 customer-related) 1 3 — 4 1 4 Total customer-related noninterest income 20 22 23 25 13 16 Other noncustomer-related noninterest income 1 1 — — — — Total noninterest income 21 23 23 25 13 16 Net interest income 129 106 99 77 79 68 Total net revenue $ 150 $ 129 $ 122 $ 102 $ 92 $ 84 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 1 $ 1 $ 1 $ — $ 88 $ 78 Card fees 1 1 — — 72 72 Retail and business banking fees — — ( 1 ) 1 32 40 Capital markets fees — — 2 2 2 2 Wealth management fees — — ( 1 ) — 27 26 Other customer-related fees 1 — 15 18 30 30 Total noninterest income from contracts with customers (ASC 606) 3 2 16 21 251 248 Other noninterest income (non-ASC 606 customer-related) — 1 11 ( 2 ) 62 57 Total customer-related noninterest income 3 3 27 19 313 305 Other noncustomer-related noninterest income — — 8 3 36 9 Total noninterest income 3 3 35 22 349 314 Other real estate owned gain from sale — — — — — — Net interest income 31 28 18 29 1,270 1,137 Total net revenue $ 34 $ 31 $ 53 $ 51 $ 1,619 $ 1,451 79 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is generally not significant. 12. INCOME TAXES The effective income tax rate was 22.6 % for the second quarter of 2023, compared with 21.9 % for the second quarter of 2022. The effective tax rates for the first six months of 2023 and 2022 were 25.4 % and 21.2 %, respectively. The tax rates during both periods were reduced by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the non-deductibility of Federal Deposit Insurance Corporation (“FDIC”) premiums, certain executive compensation plans, and other fringe benefits. The tax rate for the first six months of 2023 was higher relative to the same prior year period, primarily as a result of a discrete item that affected the reserve for uncertain tax positions during the first quarter of 2023 . At both June 30, 2023 and December 31, 2022, we had a net deferred tax asset (“DTA”) totaling $ 1.1 billion. On the consolidated balance sheet, the net DTA is included in “Other assets.” We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more-likely-than-not criteria that such assets will be realized. This evaluation includes, but is not limited to, the followin • Future reversals of existing deferred tax liabilities (“DTLs”) — These DTLs have a reversal pattern generally consistent with DTAs and are used to realize the DTAs. • Tax planning strategies — We have considered prudent and feasible tax planning strategies that we would implement to preserve the value of the DTAs, if necessary. • Future projected taxable income — We expect future taxable income will offset the reversal of remaining net DTAs. Based on this evaluation, we concluded that a valuation allowance was not required at both June 30, 2023 and December 31, 2022. 80 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 13. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: Three Months Ended June 30, Six Months Ended June 30, (In millions, except shares and per share amounts) 2023 2022 2023 2022 Basic: Net income $ 175 $ 203 $ 379 $ 406 Less common and preferred dividends 70 66 138 132 Undistributed earnings 105 137 241 274 Less undistributed earnings applicable to nonvested shares 1 1 2 2 Undistributed earnings applicable to common shares 104 136 239 272 Distributed earnings applicable to common shares 61 57 121 115 Total earnings applicable to common shares $ 165 $ 193 $ 360 $ 387 Weighted average common shares outstanding (in thousands) 147,692 150,635 147,852 150,958 Net earnings per common share $ 1.11 $ 1.29 $ 2.44 $ 2.56 Dilut Total earnings applicable to common shares $ 165 $ 193 $ 360 $ 387 Weighted average common shares outstanding (in thousands) 147,692 150,635 147,852 150,958 Dilutive effect of stock options (in thousands) 4 203 13 306 Weighted average diluted common shares outstanding (in thousands) 147,696 150,838 147,865 151,264 Net earnings per common share $ 1.11 $ 1.29 $ 2.44 $ 2.56 The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per sh Three Months Ended June 30, Six Months Ended June 30, (In thousands) 2023 2022 2023 2022 Restricted stock and restricted stock units 1,421 1,251 1,378 1,289 Stock options 1,449 200 1,381 155 14. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, California Bank & Trust, Amegy Bank, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. Our affiliate banks are supported by an enterprise operating segment (referred to as the “Other” segment) that provides governance and risk management, allocates capital, establishes strategic objectives, and includes centralized technology, back-office functions, and certain lines of business not operated through our affiliate banks. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal funds transfer pricing (“FTP”) allocation process to report results of operations for business segments. This process is subject to change and refinement over time. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. At June 30, 2023, Zions Bank operated 95 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. CB&T operated 77 branches in California. Amegy operated 75 branches in Texas. NBAZ operated 56 branches in 81 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Arizona. NSB operated 46 branches in Nevada. Vectra operated 33 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. The following schedule presents selected operating segment information for the three months ended June 30, 2023 and 2022: Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 178 $ 170 $ 152 $ 142 $ 116 $ 120 Provision for credit losses 7 1 15 16 12 5 Net interest income after provision for credit losses 171 169 137 126 104 115 Noninterest income 49 49 35 27 55 42 Noninterest expense 138 125 94 84 100 88 Income (loss) before income taxes $ 82 $ 93 $ 78 $ 69 $ 59 $ 69 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 14,250 $ 13,120 $ 14,152 $ 12,895 $ 12,880 $ 11,934 Total average deposits 19,191 25,035 13,333 16,663 11,873 16,253 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 64 $ 55 $ 49 $ 39 $ 38 $ 35 Provision for credit losses 4 6 7 3 2 10 Net interest income after provision for credit losses 60 49 42 36 36 25 Noninterest income 11 11 11 12 7 8 Noninterest expense 45 42 42 37 34 30 Income (loss) before income taxes $ 26 $ 18 $ 11 $ 11 $ 9 $ 3 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 5,243 $ 4,888 $ 3,427 $ 2,914 $ 3,998 $ 3,527 Total average deposits 6,873 8,447 6,630 7,546 3,271 4,189 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 15 $ 15 $ ( 21 ) $ 17 $ 591 $ 593 Provision for credit losses — 1 ( 1 ) ( 1 ) 46 41 Net interest income after provision for credit losses 15 14 ( 20 ) 18 545 552 Noninterest income 2 2 19 21 189 172 Noninterest expense 6 6 49 52 508 464 Income (loss) before income taxes $ 11 $ 10 $ ( 50 ) $ ( 13 ) $ 226 $ 260 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,689 $ 1,579 $ 1,040 $ 927 $ 56,679 $ 51,784 Total average deposits 1,099 1,547 7,379 1,207 69,649 80,887 82 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the six months ended June 30, 2023 and 2022: Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 363 $ 326 $ 311 $ 271 $ 240 $ 232 Provision for credit losses 31 — 15 22 23 ( 22 ) Net interest income after provision for credit losses 332 326 296 249 217 254 Noninterest income 99 95 59 51 96 79 Noninterest expense 273 248 186 168 198 175 Income (loss) before income taxes $ 158 $ 173 $ 169 $ 132 $ 115 $ 158 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 14,115 $ 12,969 $ 14,084 $ 12,870 $ 12,862 $ 11,865 Total average deposits 20,067 25,574 13,985 16,566 12,576 16,333 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 129 $ 106 $ 99 $ 77 $ 79 $ 68 Provision for credit losses 4 2 11 — 6 6 Net interest income after provision for credit losses 125 104 88 77 73 62 Noninterest income 21 23 23 25 13 16 Noninterest expense 92 82 82 74 67 59 Income (loss) before income taxes $ 54 $ 45 $ 29 $ 28 $ 19 $ 19 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 5,197 $ 4,831 $ 3,377 $ 2,866 $ 3,990 $ 3,463 Total average deposits 7,025 8,201 6,800 7,492 3,488 4,243 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 31 $ 28 $ 18 $ 29 $ 1,270 $ 1,137 Provision for credit losses 2 1 ( 1 ) ( 1 ) 91 8 Net interest income after provision for credit losses 29 27 19 30 1,179 1,129 Noninterest income 3 3 35 22 349 314 Noninterest expense 13 12 109 110 1,020 928 Income (loss) before income taxes $ 19 $ 18 $ ( 55 ) $ ( 58 ) $ 508 $ 515 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,700 $ 1,585 $ 1,092 $ 911 $ 56,417 $ 51,360 Total average deposits 1,240 1,564 4,720 1,271 69,901 81,244 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Our most significant risks include interest rate and market risk, which are closely monitored by management as previously discussed. For more information regarding interest rate and market risk, see the “Interest Rate and Market Risk Management” section in this Form 10-Q. 83 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 4. CONTROLS AND PROCEDURES Our management, including our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures at June 30, 2023. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at June 30, 2023. There were no changes in our internal control over financial reporting during the second quarter of 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The information contained in Note 10 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 1A. RISK FACTORS We amend the following two risk factors discussed in Part I, Item 1A. Risk Factors in our 2022 Form 10-K: Changes in levels and sources of liquidity and capital, including the resulting effects of recent events in the banking industry, may limit our operations and potential growth. Our primary source of liquidity is deposits from our customers, which may be impacted by market-related forces such as increased competition for these deposits and a variety of other factors. Deposits across the banking industry have been fluctuating in recent quarters in large part due to the increased interest rate environment and prominent bank failures. We, like many other banks, experienced some deposit outflows as customers spread deposits among several different banks to maximize their amount of FDIC insurance, moved deposits to institutions offering higher rates or banks deemed “too big to fail,” or removed deposits from the U.S. financial system entirely. Although our deposit levels have stabilized during the most recent quarter, our cost of funds has increased, and the potential for greater volatility remains, particularly if there is negative news surrounding us or perceived risks regarding our safety and soundness. If we are unable to continue to fund assets through customer bank deposits or access funding sources on favorable terms, or if we suffer an increase in borrowing costs or FDIC insurance assessments, or otherwise fail to manage liquidity effectively, our liquidity, operating margins, financial condition, and results of operations may be materially and adversely affected. The Federal Reserve's tightened monetary policy may contribute to a decline in the value of our fixed-rate loans and investment securities that are pledged as collateral to support short-term borrowings, and other economic conditions may also affect our liquidity and efforts to manage associated risks. The FHLB system and Federal Reserve have been, and continue to be, a significant source of additional liquidity and funding. Changes in FHLB funding programs could adversely affect our liquidity and management of associated risks. Problems encountered by other financial institutions could adversely affect financial markets generally and have indirect adverse effects on us. The soundness and stability of many financial institutions may be closely interrelated as a result of credit, trading, clearing, or other relationships between the institutions. As a result, concerns about, or a default or threatened default by, one institution could lead to significant market-wide liquidity and credit problems, losses, or defaults by other institutions. This is sometimes referred to as “systemic risk” and may adversely affect financial intermediaries, such as clearing agencies, clearing houses, banks, securities firms, and exchanges, with which we interact on a daily basis, and therefore, could adversely affect us. This phenomenon has been evident in the recent events affecting the banking industry, as financial institutions, like us, have been impacted by concerns regarding the soundness or creditworthiness of other financial institutions. This has caused substantial and cascading disruption within the financial markets, increased expenses, and adversely impacted the market price and volatility of our common stock. 84 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS None. ITEM 6. EXHIBITS a. Exhibits Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in Inline XBRL (i) the Consolidated Balance Sheets as of June 30, 2023 and December 31, 2022, (ii) the Consolidated Statements of Income for the three months ended June 30, 2023 and June 30, 2022 and the six months ended June 30, 2023 and June 30, 2022, (iii) the Consolidated Statements of Comprehensive Income for the three months ended June 30, 2023 and June 30, 2022 and the six months ended June 30, 2023 and June 30, 2022, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the three months ended June 30, 2023 and June 30, 2022 and the six months ended June 30, 2023 and June 30, 2022, (v) the Consolidated Statements of Cash Flows for the six months ended June 30, 2023 and June 30, 2022, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Quarterly Report on Form 10-Q, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. 85 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZIONS BANCORPORATION, NATIONAL ASSOCIATION /s/ Harris H. Simmons Harris H. Simmons, Chairman and Chief Executive Officer /s/ Paul E. Burdiss Paul E. Burdiss, Executive Vice President and Chief Financial Officer Date: August 4, 2023 86 |
Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) 39 Consolidated Balance Sheets 39 Consolidated Statements of Income 40 Consolidated Statements of Comprehensive Income (Loss) 41 Consolidated Statements of Changes in Shareholders’ Equity 41 Consolidated Statements of Cash Flows 43 Notes to Consolidated Financial Statements 44 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 4 Item 3. Quantitative and Qualitative Disclosures About Market Risk 84 Item 4. Controls and Procedures 85 PART II. OTHER INFORMATION Item 1. Legal Proceedings 85 Item 1A. Risk Factors 85 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 86 Item 5. Other Information 86 Item 6. Exhibits 87 Signatures 88 2 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses HECL Home Equity Credit Line AFS Available-for-Sale HTM Held-to-Maturity ALLL Allowance for Loan and Lease Losses IPO Initial Public Offering Amegy Amegy Bank, a division of Zions Bancorporation, National Association LIHTC Low-income Housing Tax Credit AOCI Accumulated Other Comprehensive Income or Loss Municipalities State and Local Governments ASC Accounting Standards Codification NAICS North American Industry Classification System ASU Accounting Standards Update NASDAQ National Association of Securities Dealers Automated Quotations BOLI Bank-Owned Life Insurance NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association bps Basis Points NIM Net Interest Margin BTFP Bank Term Funding Program NM Not Meaningful CB&T California Bank & Trust, a division of Zions Bancorporation, National Association NSB Nevada State Bank, a division of Zions Bancorporation, National Association CECL Current Expected Credit Loss OCC Office of the Comptroller of the Currency CLTV Combined Loan-to-Value Ratio OCI Other Comprehensive Income or Loss CRE Commercial Real Estate OREO Other Real Estate Owned CVA Credit Valuation Adjustment PAM Proportional Amortization Method DTA Deferred Tax Asset PEI Private Equity Investment DTL Deferred Tax Liability PPNR Pre-provision Net Revenue EaR Earnings at Risk PPP Paycheck Protection Program EPS Earnings per Share ROU Right-of-Use EVE Economic Value of Equity RULC Reserve for Unfunded Lending Commitments FASB Financial Accounting Standards Board S&P Standard & Poor's FDIC Federal Deposit Insurance Corporation SBA U.S. Small Business Administration FHLB Federal Home Loan Bank SBIC Small Business Investment Company FICO Fair Isaac Corporation TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association FRB Federal Reserve Board TDR Troubled Debt Restructuring FTP Funds Transfer Pricing U.S. United States GAAP Generally Accepted Accounting Principles Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association GCF General Collateral Funding Zions Bank Zions Bank, a division of Zions Bancorporation, National Association 3 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES PART I. FINANCIAL INFORMATION ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING INFORMATION This quarterly report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • Statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • Statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. Forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although the following list is not comprehensive, important factors that may cause material differences inclu • The quality and composition of our loan and securities portfolios and the quality and composition of our deposits; • Changes and uncertainties in applicable laws, and fiscal, monetary, regulatory, trade, and tax policies, and actions taken by governments, agencies, central banks, and similar organizations, including increases in bank fees, insurance assessments, capital standards, and other regulatory requirements; • Protracted congressional negotiations and political stalemates regarding government funding and other issues that increase the possibility of government shutdowns or other economic disruptions; • Changes in general industry, political and economic conditions, including continued elevated inflation, economic slowdown or recession, or other economic challenges; changes in interest and reference rates which could adversely affect our revenue and expenses, the value of assets and obligations, and the availability and cost of capital and liquidity; deterioration in economic conditions that may result in increased loan and leases losses; • Securities and capital markets behavior, including volatility and changes in market liquidity and our ability to raise capital; • The impact of bank failures or adverse developments at other banks on general investor sentiment regarding the stability and liquidity of banks; • The possibility that our recorded goodwill could become impaired, which may have an adverse impact on our earnings and capital; • Competitive pressures and other factors that may affect aspects of our business, such as pricing and demand for our products and services, our ability to recruit and retain talent, and the impact of digital commerce, artificial intelligence, and other innovations affecting the banking industry; • Our ability to complete projects and initiatives and execute on our strategic plans, manage our risks, control compensation and other expenses, and achieve our business objectives; • Our ability to provide adequate oversight of our suppliers or prevent inadequate performance by third parties upon whom we rely for the delivery of various products and services; 4 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES • Our ability to develop and maintain technology, information security systems and controls designed to guard against fraud, cybersecurity, and privacy risks; • Adverse media and other expressions of negative public opinion whether directed at us, other banks, the banking industry, or otherwise that may adversely affect our reputation and that of the banking industry generally; • The effects of pandemics and other health emergencies that may affect our business, employees, customers, and communities; • The effects of wars and geopolitical conflicts, such as the ongoing conflict between Russia and Ukraine and the escalating events in the Middle East, and other local, national, or international disasters, crises, or conflicts that may occur in the future; • Natural disasters that may impact our and our customer's operations and business; and • Governmental and social responses to environmental, social, and governance issues, including those with respect to climate change. We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any forward-looking statements to reflect future events or developments. KEY STRATEGIC ACTIONS During the first nine months of 2023, the banking industry experienced significant changes in market conditions, including a higher interest rate environment and fluctuations in deposit levels. As a result, we continued to manage the associated risks through the following strategic actio • Generated customer deposit growth through a combination of competitive interest rates and expanded utilization of reciprocal deposit programs, including the recapture of off-balance sheet deposits; • Actively managed the balance sheet through a mix change toward higher-yielding loans, while reducing the size of our lower-yielding securities and money market positions; • Increased total available liquidity sources, which far exceed our level of uninsured deposits; • Actively managed our interest rate and market risk exposures through a rebalancing of our accounting hedges for both available-for-sale (“AFS”) securities and commercial loans; • Remained committed to controlling expenses, including personnel management, while continuing to invest in technology; • Maintained strong credit performance, including low net charge-offs; and • Further strengthened our regulatory capital position through increased retained earnings. RESULTS OF OPERATIONS Comparisons noted below are calculated for the current quarter compared with the same prior year period unless otherwise specified. Growth rates of 100% or more are considered not meaningful (“NM”) as they generally reflect a low starting point. Executive Summary Our financial results in the third quarter of 2023 reflected sequential growth in customer deposits and a stabilization of the net interest margin (“NIM”). Diluted earnings per share (“EPS”) was $1.13, compared with $1.40 in the third quarter of 2022, as lower revenue and higher noninterest expense was partially offset by a lower provision for credit losses. Net interest income decreased $78 million, or 12%, compared with the prior year quarter, as higher earning asset yields were offset by higher funding costs. Net interest income was also impacted by a reduction in interest-earning 5 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES assets and an increase in interest-bearing liabilities. The NIM was 2.93%, compared with 3.24%, and was up from 2.92% in the second quarter of 2023. The provision for credit losses was $41 million, compared with a $71 million provision in the prior year period, due to changes in economic forecasts and lower net charge-offs. Total customer-related noninterest income remained relatively stable at $157 million, compared with the prior year period. A $5 million increase in loan-related fees, primarily due to a $4 million gain on the sale of certain mortgage servicing assets, and a $3 million increase in commercial account fees, driven primarily by increased treasury management sweep income, was partially offset by a $7 million decrease in capital market fees, largely due to reduced swap and loan syndication fees. Total noninterest income increased $15 million, or 9%, primarily due to a valuation loss recognized on one of our equity investments in the prior year period, as well as an increase in dividends on Federal Home Loan Bank (“FHLB”) stock in the current period. Total noninterest expense increased $17 million, or 4%, relative to the prior year quarter, driven largely by a $9 million increase in technology, telecom, and information processing expense, primarily due to increases in application software expenses. Deposit insurance and regulatory expense increased $7 million, driven largely by an increased Federal Deposit Insurance Corporation (“FDIC”) insurance base rate beginning in 2023 and changes in balance sheet composition. Our efficiency ratio was 64.4%, compared with 57.6%, primarily due to a decline in adjusted taxable-equivalent revenue. Average interest-earning assets decreased $1.8 billion, or 2%, from the prior year quarter, driven by declines of $4.5 billion and $1.3 billion in average securities and average money market investments, respectively, and partially offset by an increase of $4.0 billion in average loans and leases. Average interest-bearing liabilities increased $10.9 billion, or 26%, from the prior year quarter, driven by increases of $9.9 billion and $1.3 billion in average interest-bearing deposits and average other short-term borrowings, respectively. Total loans and leases increased $3.0 billion, or 6%, to $56.9 billion from the prior year quarter. Consumer loans increased $1.8 billion, primarily in the 1-4 family residential and consumer construction loan portfolios. Commercial real estate (“CRE”) loans increased $0.8 billion, primarily in the multi-family and industrial construction loan portfolios. Increased funding of construction lending commitments and conversion-to-term loans contributed to growth in these portfolios. Net loan and lease charge-offs totaled $14 million, compared with $27 million in the prior year quarter, and classified loans decreased $196 million, or 20%. Nonperforming assets increased to $219 million, or 0.38% of loans and leases, compared with $151 million, or 0.28% of loans and leases, in the prior year quarter, primarily due to two suburban office commercial real estate loans in the Southern California market totaling $46 million. Total deposits decreased $0.6 billion, or 1%, from the prior year quarter, due to the $12.4 billion reduction in noninterest-bearing demand deposits, which was largely offset by an $11.8 billion increase in interest-bearing deposits, as the higher interest rate environment influenced the movement of customer balances into interest-bearing products. Total customer deposits (excluding brokered deposits) increased $3.0 billion, or 5%, from June 30, 2023. At September 30, 2023 and June 30, 2023, total customer deposits included approximately $6.4 billion and $3.4 billion, respectively, of reciprocal placement products. Total borrowed funds, consisting primarily of secured borrowings, decreased $1.1 billion from the prior year quarter, largely due to reduced funding needs as a result of the decrease in interest-earning assets. 6 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Third Quarter 2023 Financial Performance Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency Ratio Net earnings applicable to common shareholders decreased from the third quarter of 2022, as lower net revenue and higher noninterest expense, driven largely by application software expenses and higher FDIC insurance costs, was partially offset by a lower provision for credit losses. Diluted earnings per share declined from the third quarter of 2022 primarily as a result of decreased net earnings applicable to common shareholders. Adjusted pre-provision net revenue (“PPNR”) decreased from the third quarter of 2022, primarily due to lower adjusted taxable-equivalent revenue and increased adjusted noninterest expense. The efficiency ratio increased from the prior year quarter, primarily due to a decline in adjusted taxable-equivalent revenue. Net Interest Income and Net Interest Margin NET INTEREST INCOME AND NET INTEREST MARGIN Three Months Ended September 30, Amount change Percent change Nine Months Ended September 30, Amount change Percent change (Dollar amounts in millions) 2023 2022 2023 2022 Interest and fees on loans 1 $ 831 $ 551 $ 280 51 % $ 2,348 $ 1,456 $ 892 61 % Interest on money market investments 35 24 11 46 140 42 98 NM Interest on securities 144 132 12 9 419 372 47 13 Total interest income 1,010 707 303 43 2,907 1,870 1,037 55 Interest on deposits 366 19 347 NM 668 32 636 NM Interest on short- and long-term borrowings 59 25 34 NM 384 38 346 NM Total interest expense 425 44 381 NM 1,052 70 982 NM Net interest income $ 585 $ 663 $ (78) (12) % $ 1,855 $ 1,800 $ 55 3 % Average interest-earning assets $ 80,678 $ 82,474 $ (1,796) (2) % $ 82,325 $ 84,189 $ (1,864) (2) % Average interest-bearing liabilities $ 52,312 $ 41,398 $ 10,914 26 % $ 51,271 $ 41,586 $ 9,685 23 % bps bps Yield on interest-earning assets 2 5.02 % 3.45 % 157 4.77 % 3.01 % 176 Rate paid on total deposits and interest-bearing liabilities 2 2.10 % 0.22 % 188 1.75 % 0.12 % 163 Cost of total deposits 2 1.92 % 0.10 % 182 1.24 % 0.05 % 119 Net interest margin 2 2.93 % 3.24 % (31) 3.06 % 2.90 % 16 1 Includes interest income recoveries of $1 million and $2 million for the three months ended, and $5 million and $8 million for the nine months ended September 30, 2023, and 2022, respectively. 2 Rates are calculated using amounts in thousands; taxable-equivalent rates are used where applicable. 7 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Net interest income accounted for approximately 76% of our net revenue (net interest income plus noninterest income) for the current quarter and decreased $78 million, or 12%, relative to the prior year quarter, as higher earning asset yields were offset by higher funding costs. Net interest income was also impacted by a reduction in interest-earning assets and an increase in interest-bearing liabilities. Average interest-earning assets decreased $1.8 billion, or 2%, from the prior year quarter, driven by declines of $4.5 billion and $1.3 billion in average securities and average money market investments, respectively, and was partially offset by an increase of $4.0 billion in average loans and leases. The decline in average securities was primarily due to principal reductions. Average interest-bearing liabilities increased $10.9 billion, or 26%, from the prior year quarter, driven by increases of $9.9 billion and $1.3 billion in average interest-bearing deposits and average other short-term borrowings, respectively. The NIM was 2.93%, compared with 3.24%, and was up from 2.92% in the second quarter of 2023. The yield on average interest-earning assets was 5.02% in the third quarter of 2023, an increase of 157 basis points (“bps”), reflecting higher interest rates and a favorable mix change to higher yielding assets. The yield on average loans and leases increased 167 basis points to 5.84%, and the yield on average securities increased 63 basis points to 2.73%. The yield on average securities benefited from a decrease in the market value of AFS securities due to rising interest rates. The rate paid on average interest-bearing liabilities increased to 3.22%, compared with 0.43%, reflecting the higher interest rate environment. Average loans and leases increased $4.0 billion, or 8%, to $57.0 billion, mainly due to growth in average consumer and commercial loans. The yield on total loans and leases was 5.84% for the third quarter of 2023, compared with 4.17% for the prior year quarter, reflecting the higher interest rate environment. Average securities decreased $4.5 billion, or 17%, to $21.2 billion, primarily due to approximately $2.8 billion in principal reductions. During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the held-to-maturity (“HTM”) category to reflect our intent for these securities. 8 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Average deposits decreased $1.8 billion, or 2%, to $75.7 billion at an average cost of 1.92%, from $77.5 billion at an average cost of 0.10% in the third quarter of 2022, driven by the decrease in noninterest-bearing deposits as interest rates increased. Average noninterest-bearing deposits as a percentage of total deposits were 37%, compared with 51% during the same prior year period. Average borrowed funds, consisting primarily of secured borrowings, increased $0.9 billion from the prior year quarter, largely in response to average loan growth and the decline in total average deposits. For more information on our investment securities portfolio and borrowed funds and how we manage liquidity risk, refer to the “Investment Securities Portfolio” section on page 16 and the “Liquidity Risk Management” section on page 31. For further discussion of the effects of market rates on net interest income and how we manage interest rate risk, refer to the “Interest Rate and Market Risk Management” section on page 28. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 9 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED AVERAGE BALANCE SHEETS, YIELDS AND RATES (Unaudited) Three Months Ended September 30, 2023 Three Months Ended September 30, 2022 (Dollar amounts in millions) Average balance Amount of interest 1 Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 1,539 $ 21 5.52 % $ 1,233 $ 7 2.19 % Federal funds sold and securities purchased under agreements to resell 874 14 6.13 2,511 17 2.66 Total money market investments 2,413 35 5.74 3,744 24 2.51 Securiti Held-to-maturity 10,625 59 2.21 560 4 2.88 Available-for-sale 2 10,606 87 3.24 24,892 129 2.05 Trading 20 — 4.65 288 3 4.57 Total securities 21,251 146 2.73 25,740 136 2.10 Loans held for sale 46 1 4.89 37 1 5.33 Loans and leases Commercial 30,535 438 5.69 29,380 308 4.16 Commercial real estate 13,016 234 7.14 12,182 145 4.73 Consumer 13,417 167 4.92 11,391 103 3.61 Total loans and leases 56,968 839 5.84 52,953 556 4.17 Total interest-earning assets 80,678 1,021 5.02 82,474 717 3.45 Cash and due from banks 712 604 Allowance for credit losses on loans and debt securities (651) (515) Goodwill and intangibles 1,061 1,021 Other assets 5,523 4,923 Total assets $ 87,323 $ 88,507 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 35,346 $ 215 2.42 % $ 36,399 $ 18 0.20 % Time 12,424 151 4.81 1,441 1 0.32 Total interest-bearing deposits 47,770 366 3.04 37,840 19 0.20 Borrowed funds: Federal funds and security repurchase agreements 1,770 24 5.31 2,000 11 2.20 Other short-term borrowings 2,233 27 4.95 885 6 2.61 Long-term debt 539 8 5.37 673 8 4.83 Total borrowed funds 4,542 59 5.14 3,558 25 2.80 Total interest-bearing liabilities 52,312 425 3.22 41,398 44 0.43 Noninterest-bearing demand deposits 27,873 39,623 Other liabilities 1,760 1,743 Total liabilities 81,945 82,764 Shareholders’ equity: Preferred equity 440 440 Common equity 4,938 5,303 Total shareholders’ equity 5,378 5,743 Total liabilities and shareholders’ equity $ 87,323 $ 88,507 Spread on average interest-bearing funds 1.80 % 3.02 % Net impact of noninterest-bearing sources of funds 1.13 % 0.22 % Net interest margin $ 596 2.93 % $ 673 3.24 % Me total cost of deposits 1.92 % 0.10 % Me total deposits and interest-bearing liabilities $ 80,185 425 2.10 % $ 81,021 44 0.22 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. 2 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 10 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2023 Nine Months Ended September 30, 2022 (Dollar amounts in millions) Average balance Amount of interest 1 Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 2,356 $ 90 5.10 % $ 3,674 $ 15 0.55 % Federal funds sold and securities purchased under agreements to resell 1,242 50 5.41 2,451 27 1.47 Total money market investments 3,598 140 5.21 6,125 42 0.92 Securiti Held-to-maturity 10,826 181 2.24 495 11 2.98 Available-for-sale 2 11,199 243 2.89 25,285 358 1.89 Trading 58 1 2.43 343 12 4.81 Total securities 22,083 425 2.57 26,123 381 1.95 Loans held for sale 41 2 6.00 44 1 2.55 Loans and leases Commercial 30,620 1,236 5.40 28,945 843 3.89 Commercial real estate 12,942 668 6.90 12,151 358 3.93 Consumer 13,041 467 4.78 10,801 272 3.37 Total loans and leases 56,603 2,371 5.60 51,897 1,473 3.79 Total interest-earning assets 82,325 2,938 4.77 84,189 1,897 3.01 Cash and due from banks 636 615 Allowance for credit losses on loans and debt securities (615) (503) Goodwill and intangibles 1,063 1,017 Other assets 5,556 4,618 Total assets $ 88,965 $ 89,936 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 32,852 $ 390 1.59 % $ 37,942 $ 29 0.10 % Time 8,319 278 4.46 1,505 3 0.27 Total interest-bearing deposits 41,171 668 2.17 39,447 32 0.11 Borrowed funds: Federal funds and security repurchase agreements 3,921 145 4.92 1,112 12 1.50 Other short-term borrowings 5,570 211 5.07 303 6 2.56 Long-term debt 609 28 6.10 724 20 3.69 Total borrowed funds 10,100 384 5.08 2,139 38 2.39 Total interest-bearing liabilities 51,271 1,052 2.74 41,586 70 0.23 Noninterest-bearing demand deposits 30,665 40,523 Other liabilities 1,798 1,530 Total liabilities 83,734 83,639 Shareholders’ equity: Preferred equity 440 440 Common equity 4,791 5,857 Total shareholders’ equity 5,231 6,297 Total liabilities and shareholders’ equity $ 88,965 $ 89,936 Spread on average interest-bearing funds 2.03 % 2.78 % Net impact of noninterest-bearing sources of funds 1.03 % 0.12 % Net interest margin $ 1,886 3.06 % $ 1,827 2.90 % Me total cost of deposits 1.24 % 0.05 % Me total deposits and interest-bearing liabilities $ 81,936 1,052 1.75 % $ 82,109 70 0.12 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. 2 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 11 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans and is recorded in investment securities on the consolidated balance sheet. The provision for credit losses, which is the combination of both the provision for loan and lease losses and the provision for unfunded lending commitments, was $41 million, compared with $71 million in the third quarter of 2022. The ACL was $738 million at September 30, 2023, compared with $590 million at September 30, 2022. The increase in the ACL was primarily due to deterioration in economic forecasts. The ratio of ACL to total loans and leases was 1.30% and 1.09% at September 30, 2023 and 2022, respectively. The provision for securities losses was less than $1 million during the third quarter of 2023 and 2022. 12 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The bar chart above illustrates the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic forecasts and current economic conditions, which increased the ACL by $88 million from the prior year quarter. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, increased the ACL by $7 million, reflecting relatively stable credit quality. Net loan and lease charge-offs totaled $14 million, or 0.10% annualized of average loans during the third quarter of 2023, compared with net charge-offs of $27 million, or 0.20% annualized of average loans during the prior year quarter. Classified loans decreased $196 million, or 20%. Nonperforming assets increased to $219 million, or 0.38% of loans and leases, compared with $151 million, or 0.28% of loans and leases, in the prior year quarter, primarily due to two suburban office commercial real estate loans in the Southern California market totaling $46 million. The fourth bar represents loan portfolio changes, driven primarily by portfolio-specific risks and loan growth, as well as changes in portfolio mix, the aging of the portfolio, portfolio-specific concerns, and other risk factors; all of which resulted in a $53 million increase in the ACL. See “Credit Risk Management” on page 21 and Note 6 in our 2022 Form 10-K for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue earned from products and services that generally have no associated interest rate or yield and is classified as either customer-related or noncustomer-related. Customer-related noninterest income excludes items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income increased $15 million, or 9%, relative to the prior year. Noninterest income accounted for approximately 24% and 20% of our net revenue during the third quarter of 2023 and 2022, respectively. The following schedule presents a comparison of the major components of noninterest income. NONINTEREST INCOME Three Months Ended September 30, Amount change Percent change Nine Months Ended September 30, Amount change Percent change (Dollar amounts in millions) 2023 2022 2023 2022 Commercial account fees $ 43 $ 40 $ 3 8 % $ 131 $ 118 $ 13 11 % Card fees 26 27 (1) (4) 75 77 (2) (3) Retail and business banking fees 17 17 — — 49 57 (8) (14) Loan-related fees and income 23 18 5 28 63 61 2 3 Capital markets fees 18 25 (7) (28) 62 61 1 2 Wealth management fees 15 14 1 7 44 41 3 7 Other customer-related fees 15 15 — — 46 46 — — Customer-related noninterest income 157 156 1 1 470 461 9 2 Fair value and nonhedge derivative income 7 4 3 75 5 20 (15) (75) Dividends and other income (loss) 12 (1) 13 NM 49 8 41 NM Securities gains (losses), net 4 6 (2) (33) 5 (10) 15 NM Noncustomer-related noninterest income 23 9 14 NM 59 18 41 NM Total noninterest income $ 180 $ 165 $ 15 9 % $ 529 $ 479 $ 50 10 % Customer-related Noninterest Income Total customer-related noninterest income remained relatively stable at $157 million, compared with the prior year period. Loan-related fees and income increased $5 million, primarily due to a $4 million gain on the sale of certain mortgage servicing assets. Commercial account fees increased $3 million, driven primarily by increased treasury management sweep income. These increases were partially offset by a $7 million decrease in capital market fees, largely due to reduced swap and loan syndication fees. 13 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Noncustomer-related Noninterest Income Total noncustomer-related noninterest income increased $14 million from the prior year quarter. Dividends and other income increased $13 million, due to a valuation loss recognized on one of our equity investments in the prior year period, as well as an increase in dividends on FHLB stock in the current period. Noninterest Expense The following schedule presents a comparison of the major components of noninterest expense. NONINTEREST EXPENSE Three Months Ended September 30, Amount change Percent change Nine Months Ended September 30, Amount change Percent change (Dollar amounts in millions) 2023 2022 2023 2022 Salaries and employee benefits $ 311 $ 312 $ (1) — % $ 974 $ 931 $ 43 5 % Technology, telecom, and information processing 62 53 9 17 175 158 17 11 Occupancy and equipment, net 42 38 4 11 122 112 10 9 Professional and legal services 16 14 2 14 45 42 3 7 Marketing and business development 10 11 (1) (9) 35 28 7 25 Deposit insurance and regulatory expense 20 13 7 54 60 36 24 67 Credit-related expense 6 8 (2) (25) 19 22 (3) (14) Other real estate expense, net — — — NM — 1 (1) NM Other 29 30 (1) (3) 86 77 9 12 Total noninterest expense $ 496 $ 479 $ 17 4 % $ 1,516 $ 1,407 $ 109 8 % Total noninterest expense increased $17 million, or 4%, relative to the prior year quarter. Technology, telecom, and information processing expense increased $9 million, primarily due to increases in application software, license, maintenance, and related software amortization expenses. Deposit insurance and regulatory expense increased $7 million, driven largely by an increased FDIC insurance base rate beginning in 2023 and changes in balance sheet composition. FDIC Special Assessment In May 2023, the FDIC issued a Notice of Proposed Rulemaking, which would implement a special assessment to recover the cost associated with protecting uninsured depositors following the closures of Silicon Valley Bank and Signature Bank. Using an assessment base equal to the estimated amount of uninsured deposits at December 31, 2022, the FDIC proposed to collect the special assessment at an annual rate of approximately 12.5 bps over eight quarterly periods, beginning with the first quarter of 2024. The ultimate impact and timing of expense recognition will depend on the final rule. As proposed, we estimate the total impact of the special assessment on our deposit insurance and regulatory expense would be approximately $80 million, which is expected to be recognized upon the rule's final issuance. The efficiency ratio was 64.4%, compared with 57.6%, primarily due to a decline in adjusted taxable-equivalent revenue. For information on non-GAAP financial measures, see page 37. 14 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Technology Spend Technology spend represents expenditures associated with technology-related investments, operations, systems, and infrastructure, and includes current period expenses reported on our consolidated statement of income, and capitalized investments, net of related amortization and depreciation, reported on our consolidated balance sheet. Technology spend is reported as a combination of the followin • Technology, telecom, and information processing expense — includes expenses related to application software licensing and maintenance, related amortization, telecommunications, and data processing; • Other technology-related expense — includes related noncapitalized salaries and employee benefits, occupancy and equipment, and professional and legal services; and • Technology investments — includes capitalized technology infrastructure equipment, hardware, and purchased or internally developed software, less related amortization or depreciation. The following schedule presents the composition of our technology spen TECHNOLOGY SPEND Three Months Ended September 30, Amount change Percent change Nine Months Ended September 30, Amount change Percent change (Dollar amounts in millions) 2023 2022 2023 2022 Technology, telecom, and information processing expense $ 62 $ 53 $ 9 17 % $ 175 $ 158 $ 17 11 % Other technology-related expense 59 52 7 13 169 152 17 11 Technology investments 22 21 1 5 71 65 6 9 L related amortization and depreciation (21) (14) (7) 50 (51) (41) (10) 24 Total technology spend $ 122 $ 112 $ 10 9 % $ 364 $ 334 $ 30 9 % Total technology spend increased $10 million relative to the prior year quarter, largely due to increases in application software, maintenance, and related software amortization expenses associated with our core loan and deposit banking system replacement project, as well as higher technology-related compensation and investments in resiliency. Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods presented. INCOME TAXES Three Months Ended September 30, Nine Months Ended September 30, (Dollar amounts in millions) 2023 2022 2023 2022 Income before income taxes $ 228 $ 278 $ 736 $ 793 Income tax expense 53 61 182 170 Effective tax rate 23.2 % 21.9 % 24.7 % 21.4 % The effective tax rate was 23.2% and 21.9% for the three months ended September 30, 2023 and 2022, respectively. See Note 12 of the Notes to Consolidated Financial Statements for more information about the factors that impacted the income tax rates, as well as information about deferred income tax assets and liabilities. Preferred Stock Dividends Preferred stock dividends totaled $7 million and $6 million for the third quarter of 2023 and 2022, respectively. 15 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES BALANCE SHEET ANALYSIS Interest-Earning Assets Interest-earning assets have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see the Consolidated Average Balance Sheet on page 10. Investment Securities Portfolio We invest in securities to actively manage liquidity and interest rate risk and to generate interest income. We primarily own securities that can readily provide us cash and liquidity through secured borrowing agreements without the need to sell the securities. We also manage the duration of our investment securities portfolio to help balance the inherent interest rate mismatch between loans and deposits, and to protect the economic value of shareholders' equity. At September 30, 2023, the estimated duration of our securities portfolio decreased to 3.5 percent, compared with 4.1 percent at December 31, 2022, and 3.9 percent at September 30, 2022, primarily due to the addition of fair value hedges of fixed-rate securities during the second quarter of 2023. For information about our borrowing capacity associated with the investment securities portfolio and how we manage our liquidity risk, refer to the “Liquidity Risk Management” section on page 31. See also Note 3 and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. The following schedule presents the major components of our investment securities portfolio. INVESTMENT SECURITIES PORTFOLIO September 30, 2023 December 31, 2022 (In millions) Par Value Amortized cost Fair value Par Value Amortized cost Fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 94 $ 94 $ 86 $ 100 $ 100 $ 93 Agency guaranteed mortgage-backed securities 1 12,201 10,106 9,637 12,921 10,621 10,772 Municipal securities 359 359 326 404 405 374 Total held-to-maturity 12,654 10,559 10,049 13,425 11,126 11,239 Available-for-sale U.S. Treasury securities 585 585 460 555 557 393 U.S. Government agencies and corporatio Agency securities 698 692 645 790 782 736 Agency guaranteed mortgage-backed securities 8,664 8,739 7,144 9,566 9,652 8,367 Small Business Administration loan-backed securities 568 606 578 691 740 712 Municipal securities 1,309 1,431 1,297 1,571 1,732 1,634 Other debt securities 25 25 24 75 75 73 Total available-for-sale 11,849 12,078 10,148 13,248 13,538 11,915 Total HTM and AFS investment securities $ 24,503 $ 22,637 $ 20,197 $ 26,673 $ 24,664 $ 23,154 1 During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category. The transfer of these securities from AFS to HTM at fair value resulted in a discount to the amortized cost basis of the HTM securities equivalent to the $2.4 billion ($1.8 billion after tax) of unrealized losses in AOCI attributable to these securities. The amortization of the unrealized losses will offset the effect of the accretion of the discount created by the transfer. At September 30, 2023, the unamortized discount on the HTM securities totaled approximately $2.2 billion ($1.6 billion after tax). The amortized cost of total HTM and AFS investment securities decreased $2.0 billion, or 8%, from December 31, 2022, primarily due to principal reductions. Approximately 8% of the total HTM and AFS investment securities 16 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES were floating-rate instruments at both September 30, 2023 and December 31, 2022, respectively. Additionally, at September 30, 2023, we have $3.6 billion of pay-fixed swaps held as fair value hedges against fixed-rate AFS securities that effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. At September 30, 2023, the AFS investment securities portfolio included approximately $229 million of net premium that was distributed across the various security categories. Total taxable-equivalent premium amortization for these investment securities was $20 million for the third quarter of 2023, compared with $27 million for the same prior year period. In addition to HTM and AFS securities, we also have a trading securities portfolio, comprised of municipal securities, that totaled $31 million at September 30, 2023, compared with $465 million at December 31, 2022. The prior year-end amount also included $395 million of exposures to money market mutual funds. Beginning in the first quarter of 2023, related balances were presented in “Money market investments” on the consolidated balance sheet. Refer to the “Interest Rate Risk Management” section on page 28, the “Capital Management” section on page 34, and Note 5 of the Notes to Consolidated Financial Statements for more discussion regarding our investment securities portfolio, swaps, and related unrealized gains and losses. Municipal Investments and Extensions of Credit We support our communities by providing products and services to state and local governments (“municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. Our municipal lending products generally include loans in which the debt service is repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. The following schedule summarizes our total investments and extensions of credit to municipaliti MUNICIPAL INVESTMENTS AND EXTENSIONS OF CREDIT (In millions) September 30, 2023 December 31, 2022 Loans and leases $ 4,221 $ 4,361 Held-to-maturity securities 359 405 Available-for-sale securities 1,297 1,634 Trading securities 31 71 Unfunded lending commitments 282 406 Total $ 6,190 $ 6,877 Our municipal loans and securities are primarily associated with municipalities located within our geographic footprint. The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. At September 30, 2023, we had no municipal loans on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At September 30, 2023, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. 17 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Loan and Lease Portfolio We provide a wide range of lending products to commercial customers, generally small- and medium-sized businesses. We also provide various retail lending products and services to consumers and small businesses. The following schedule presents the composition of our loan and lease portfolio. LOAN AND LEASE PORTFOLIO September 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 16,341 28.7 % $ 16,377 29.4 % Leasing 373 0.7 386 0.7 Owner-occupied 9,273 16.3 9,371 16.9 Municipal 4,221 7.4 4,361 7.8 Total commercial 30,208 53.1 30,495 54.8 Commercial real estate: Construction and land development 2,575 4.5 2,513 4.5 Term 10,565 18.6 10,226 18.4 Total commercial real estate 13,140 23.1 12,739 22.9 Consume Home equity credit line 3,313 5.8 3,377 6.1 1-4 family residential 8,116 14.3 7,286 13.1 Construction and other consumer real estate 1,510 2.7 1,161 2.1 Bankcard and other revolving plans 475 0.8 471 0.8 Other 131 0.2 124 0.2 Total consumer 13,545 23.8 12,419 22.3 Total loans and leases $ 56,893 100.0 % $ 55,653 100.0 % At September 30, 2023 and December 31, 2022, the ratio of loans and leases to total assets was 65% and 62%, respectively. The largest loan category was commercial and industrial loans, which constituted 29% of our total loan portfolio at both time periods. During the first nine months of 2023, the loan and lease portfolio increased $1.2 billion, or 2%, to $56.9 billion at September 30, 2023. Consumer loans increased $1.1 billion, primarily in the 1-4 family residential and consumer construction loan portfolios, and commercial real estate loans increased $0.4 billion, primarily in the multi-family and industrial term loan portfolios. Increased funding of construction lending commitments and conversion-to-term loans contributed to growth in these portfolios. 18 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Other Noninterest-Bearing Investments Other noninterest-bearing investments are equity investments that are held primarily for capital appreciation, dividends, or for certain regulatory requirements. The following schedule summarizes our related investments. OTHER NONINTEREST-BEARING INVESTMENTS (Dollar amounts in millions) September 30, 2023 December 31, 2022 Amount change Percent change Bank-owned life insurance $ 551 $ 546 $ 5 1 % Federal Home Loan Bank stock 71 294 (223) (76) Federal Reserve stock 65 68 (3) (4) Farmer Mac stock 23 19 4 21 SBIC investments 185 172 13 8 Other 34 31 3 10 Total other noninterest-bearing investments $ 929 $ 1,130 $ (201) (18) % Total other noninterest-bearing investments decreased $201 million, or 18%, during the first nine months of 2023, primarily due to a $223 million decrease in FHLB stock. We are required to invest approximately 4% of our FHLB borrowings in FHLB stock to maintain our borrowing capacity. The decrease in FHLB stock was primarily due to declines in FHLB borrowings since the first quarter of 2023, which was largely due to reduced funding needs as a result of the decrease in interest-earning assets and the increase in interest-bearing deposits. In 2007, we received 460,153 non-transferable Class B shares of Visa, Inc. in connection with a restructuring and public offering by Visa U.S.A. As a member of Visa U.S.A., we received the Class B shares based on our interest in Visa U.S.A. and did not pay anything to acquire the shares. On September 13, 2023, Visa, Inc. announced its intent to engage with common stockholders on a potential proposal that would result in the release of certain transfer restrictions on a portion of Visa Class B common stock. If approved by a majority of Class A, B, and C common stockholders, the proposal would provide us the option to convert up to 50% of our Class B shares to freely transferable Visa Class A common shares. The per share closing price of a Visa Class A common share was $230.01 at September 30, 2023. In light of uncertainties associated with certain ongoing litigation matters involving Visa and the timing and outcome of the aforementioned proposal, the ultimate impact of this gain contingency is unknown. Premises, Equipment, and Software We are in the final phase of a three-phase project to replace our core loan and deposit banking systems. This final phase includes the replacement of our deposit banking systems through multiple affiliate bank conversions, the first of which was completed in the second quarter of 2023. We expect to complete substantially all of the remaining affiliate bank conversions in 2024. The following schedule summarizes the capitalized costs associated with our core system replacement project, which are depreciated using a useful life of ten years. CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT September 30, 2023 (In millions) Phase 1 Phase 2 Phase 3 Total Total amount of capitalized costs, less accumulated depreciation $ 24 $ 47 $ 224 $ 295 19 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Deposits Deposits are our primary funding source. The following schedule presents the composition of our deposit portfolio. DEPOSIT PORTFOLIO September 30, 2023 June 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Amount % of total deposits Deposits by type Noninterest-bearing demand $ 26,733 35.5 % $ 28,670 38.6 % $ 35,777 49.9 % Interest-bearin Savings and money market 37,026 49.1 33,303 44.8 33,474 46.7 Time 5,089 6.7 3,897 5.2 1,484 2.1 Brokered 6,551 8.7 8,453 11.4 917 1.3 Total deposits $ 75,399 100.0 % $ 74,323 100.0 % $ 71,652 100.0 % Deposit-related metrics Estimated amount of insured deposits $ 44,176 59 % $ 43,911 59 % $ 34,018 47 % Estimated amount of uninsured deposits $ 31,223 41 % $ 30,412 41 % $ 37,634 53 % Estimated amount of collateralized deposits 1 $ 2,915 4 % $ 2,679 4 % $ 2,861 4 % Loan-to-deposit ratio 75% 77% 78% 1 Includes both insured and uninsured deposits. Total deposits increased $1.1 billion, or 1%, from June 30, 2023, and $3.7 billion, or 5%, from December 31, 2022. Customer deposits (excluding brokered deposits) increased $3.0 billion, or 5%, from June 30, 2023. This growth, resulting from both existing and new customers, is primarily due to an increase in interest-bearing deposits, as the higher interest rate environment influenced the movement of customer balances into interest-bearing products. Our noninterest-bearing deposits are generally more valuable in a rising interest rate environment, creating meaningful economic value that is not fully reflected on our balance sheet since core deposits and related intangible assets are not recorded at fair value for accounting purposes. At September 30, 2023 and June 30, 2023, total customer deposits included approximately $6.4 billion and $3.4 billion, respectively, of reciprocal placement products, where we distributed our customers’ deposits in a placement network to increase their FDIC insurance and in return we received a matching amount of deposits from other network banks. At September 30, 2023, the estimated total amount of uninsured deposits was $31.2 billion, or 41%, of total deposits, compared with $30.4 billion, or 41%, and $37.6 billion, or 53%, of total deposits at June 30, 2023 and December 31, 2022, respectively. Our loan-to-deposit ratio was 75%, compared with 77% and 78% for the same respective time periods. See “Liquidity Risk Management” on page 31 for additional information on liquidity, including the ratio of available liquidity to uninsured deposits. RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We employ various strategies to prudently manage the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cybersecurity risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by various management committees including the Enterprise Risk Management Committee. For a more comprehensive discussion of these risks, see “Risk Factors” in our 2022 Form 10-K. 20 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. Credit policies, credit risk management, and credit examination functions inform and support the oversight of credit risk. Our credit policies emphasize strong underwriting standards and early detection of potential problem credits in order to develop and implement action plans on a timely basis to mitigate potential losses. These formal credit policies and procedures provide us with a framework for consistent underwriting and a basis for sound credit decisions at the local banking affiliate level. Our overall credit risk management strategy includes diversification of our loan portfolio. Our business activity is conducted primarily within the geographic footprint of our banking affiliates. We strive to avoid the risk of undue concentrations of credit in any particular industry, collateral type, location, or with any individual customer or counterparty. We have actively managed the credit risk in our commercial real estate portfolio for more than a decade, having reduced CRE loans to 23% of total loans, compared with 33% in late 2008. For a more comprehensive discussion of our credit risk management, see “Credit Risk Management” in our 2022 Form 10-K. U.S. Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by United States (“U.S.”) government agencies, such as the Small Business Administration (“SBA”), Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At September 30, 2023, $574 million of related loans were guaranteed, primarily by the SBA, and included $106 million of Paycheck Protection Program (“PPP”) loans. The following schedule presents the composition of U.S. government agency guaranteed loans. U.S. GOVERNMENT AGENCY GUARANTEED LOANS (Dollar amounts in millions) September 30, 2023 Percent guaranteed December 31, 2022 Percent guaranteed Commercial $ 680 81 % $ 753 83 % Commercial real estate 24 79 21 76 Consumer 5 100 5 100 Total loans $ 709 81 % $ 779 83 % 21 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. COMMERCIAL LENDING BY INDUSTRY GROUP 1 September 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Real estate, rental and leasing $ 3,007 10.0 % $ 2,802 9.2 % Retail trade 2,829 9.4 2,751 9.0 Finance and insurance 2,739 9.1 2,992 9.8 Healthcare and social assistance 2,518 8.3 2,373 7.8 Public Administration 2,217 7.3 2,366 7.8 Manufacturing 2,193 7.3 2,387 7.8 Wholesale trade 1,891 6.3 1,880 6.2 Utilities 2 1,550 5.1 1,418 4.6 Transportation and warehousing 1,480 4.9 1,464 4.8 Educational services 1,297 4.3 1,302 4.3 Construction 1,253 4.1 1,355 4.4 Hospitality and food services 1,198 4.0 1,238 4.1 Mining, quarrying, and oil and gas extraction 1,162 3.8 1,349 4.4 Other Services (except Public Administration) 1,061 3.5 1,041 3.4 Professional, scientific, and technical services 1,005 3.3 995 3.3 Other 3 2,808 9.3 2,782 9.1 Total $ 30,208 100.0 % $ 30,495 100.0 % 1 Industry groups are determined by North American Industry Classification System (“NAICS”) codes. 2 Includes primarily utilities, power, and renewable energy. 3 No other industry group exceeds 3.1%. Commercial Real Estate Loans At September 30, 2023 and December 31, 2022, our CRE loan portfolio totaled $13.1 billion and $12.7 billion, respectively, representing 23% of the total loan portfolio for both periods. The majority of our CRE loans are secured by real estate primarily located within our geographic footprint. The following schedule presents the geographic distribution of our CRE loan portfolio based on the location of the primary collateral. COMMERCIAL REAL ESTATE LENDING BY COLLATERAL LOCATION September 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Arizona $ 1,696 12.9 % $ 1,521 11.9 % California 3,824 29.1 3,805 29.9 Colorado 668 5.1 637 5.0 Nevada 1,031 7.9 910 7.1 Texas 2,252 17.1 2,139 16.8 Utah/Idaho 2,262 17.2 2,397 18.8 Washington/Oregon 947 7.2 899 7.1 Other 460 3.5 431 3.4 Total CRE $ 13,140 100.0 % $ 12,739 100.0 % Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and non-recourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with 22 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES one- to five-year extension options or roll-to-perm options that often result in term loans. At September 30, 2023, approximately 85% of our CRE loan portfolio was variable-rate, and approximately 24% of these variable-rate loans were swapped to a fixed rate. Underwriting on commercial properties is primarily based on the economic viability of the project with significant consideration given to the creditworthiness and experience of the sponsor. We generally require that the owner’s equity be injected prior to any advances. Re-margining requirements (required equity infusions upon a decline in value or cash flow of the collateral) are often included in the loan agreement along with guarantees of the sponsor. For a more comprehensive discussion of CRE loans and our underwriting, see the “Commercial Real Estate Loans” section in our 2022 Form 10-K. The following schedule presents our CRE loan portfolio by collateral type. COMMERCIAL REAL ESTATE LENDING BY COLLATERAL TYPE September 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Commercial property Multi-family $ 3,563 27.1 % $ 3,068 24.1 % Industrial 2,905 22.1 2,509 19.7 Office 2,100 15.9 2,281 17.9 Retail 1,467 11.2 1,529 12.0 Hospitality 696 5.3 695 5.4 Land 221 1.7 276 2.2 Other 1 1,696 12.9 1,728 13.5 Residential property 2 Single family 258 2.0 340 2.7 Land 76 0.6 75 0.6 Condo/Townhome 31 0.2 13 0.1 Other 1 127 1.0 225 1.8 Total $ 13,140 100.0 % $ 12,739 100.0 % 1 Included in the total amount of the “Other” categories was approximately $241 million and $301 million of unsecured loans at September 30, 2023 and December 31, 2022, respectively. 2 Residential property collateral type consists primarily of loans provided to commercial homebuilders for land, lot, and single-family housing developments. Our CRE portfolio is diversified across geography and collateral type, with the largest concentration in multi-family. We provide additional analysis of our office CRE portfolio below in view of increased investor interest in that collateral type in recent periods. 23 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Office CRE loan portfolio At September 30, 2023 and December 31, 2022, our office CRE loan portfolio totaled $2.1 billion and $2.3 billion, representing 16% and 18% of the total CRE loan portfolio, respectively. Approximately 30% of the office CRE loan portfolio is scheduled to mature in the next 12 months. The following schedule presents the composition of our office CRE loan portfolio and other related credit quality metrics. OFFICE CRE LOAN PORTFOLIO (Dollar amounts in millions) September 30, 2023 December 31, 2022 Office CRE Construction and land development $ 174 $ 208 Term 1,926 2,073 Total office CRE $ 2,100 $ 2,281 Credit quality metrics Criticized loan ratio 9.9 % 7.2 % Classified loan ratio 5.5 % 5.8 % Nonaccrual loan ratio 2.3 % — % Delinquency ratio 1.3 % 1.5 % Net charge-offs, annualized 0.1 % — % Ratio of allowance for credit losses to office CRE loans, at period end 3.57 % 1.36 % The following schedules present our office CRE loan portfolio by collateral location for the periods presented. OFFICE CRE LOAN PORTFOLIO BY COLLATERAL LOCATION (Dollar amounts in millions) September 30, 2023 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total Office CRE Construction and land development $ — $ 65 $ — $ 2 $ 15 $ 22 $ 70 $ — $ 174 Term 288 428 90 87 180 594 229 30 1,926 Total Office CRE $ 288 $ 493 $ 90 $ 89 $ 195 $ 616 $ 299 $ 30 $ 2,100 % of total 13.7 % 23.5 % 4.3 % 4.3 % 9.3 % 29.3 % 14.2 % 1.4 % 100.0 % (Dollar amounts in millions) December 31, 2022 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total Office CRE Construction and land development $ 8 $ 79 $ — $ 2 $ — $ 18 $ 101 $ — $ 208 Term 295 525 97 99 217 613 195 32 2,073 Total Office CRE $ 303 $ 604 $ 97 $ 101 $ 217 $ 631 $ 296 $ 32 $ 2,281 % of total 13.1 % 27.0 % 4.3 % 4.3 % 9.6 % 26.8 % 13.5 % 1.4 % 100.0 % 1 No other geography exceeds $17 million and $18 million at September 30, 2023 and December 31, 2022, respectively. Consumer Loans We originate first-lien residential home mortgages considered to be of prime quality. We generally hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. 24 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES During the first nine months of 2023, consumer loans increased $1.1 billion, primarily in the 1-4 family residential and consumer construction loan portfolios. Increased funding of construction lending commitments and conversion-to-term loans contributed to growth in these portfolios. We also originate home equity credit lines (“HECLs”). At September 30, 2023 and December 31, 2022, our HECL portfolio totaled $3.3 billion and $3.4 billion, respectively. Approximately 40% and 44% of our HECLs are secured by first liens for the same respective time periods. At September 30, 2023, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with a Fair Isaac Corporation (“FICO”) credit score greater than 700. Approximately 90% of our HECL portfolio is still in the draw period, and about 18% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is low, given the rate shock analysis performed at origination. The ratio of HECL net charge-offs (recoveries) for the trailing twelve months to average balances at September 30, 2023 and December 31, 2022, was 0.05% and (0.03)%, respectively. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of the HECL portfolio. Nonperforming Assets Nonperforming assets include nonaccrual loans and other real estate owned (“OREO”) or foreclosed properties. The following schedule presents our nonperforming assets. NONPERFORMING ASSETS (Dollar amounts in millions) September 30, 2023 December 31, 2022 Nonaccrual loans 1 $ 216 $ 149 Other real estate owned 2 3 — Total nonperforming assets $ 219 $ 149 Ratio of nonperforming assets to net loans and leases 1 and other real estate owned 2 0.38 % 0.27 % Accruing loans past due 90 days or more $ 16 $ 6 Ratio of accruing loans past due 90 days or more to loans and leases 1 0.03 % 0.01 % Nonaccrual loans 1 and accruing loans past due 90 days or more $ 232 $ 155 Ratio of nonperforming assets 1 and accruing loans past due 90 days or more to loans and leases 1 and other real estate owned 2 0.41 % 0.28 % Nonaccrual loans 1 current as to principal and interest payments 62.2 % 57.7 % 1 Includes loans held for sale. 2 Does not include banking premises held for sale. Nonperforming assets as a percentage of loans and leases and OREO increased to 0.38% at September 30, 2023, compared with 0.27% at December 31, 2022. Total nonaccrual loans at September 30, 2023 increased to $216 million from $149 million at December 31, 2022, primarily due to two suburban office commercial real estate loans in the Southern California market totaling $46 million. See Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. 25 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Loan Modifications Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. On January 1, 2023, we adopted Accounting Standards Update (“ASU”) 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures, which eliminated the recognition and measurement of troubled debt restructurings (“TDRs”) and their related disclosures. ASU 2022-02 requires enhanced disclosures for loan modifications to borrowers experiencing financial difficulty. For the first nine months of 2023, loans that have been modified to accommodate a borrower experiencing financial difficulties totaled $243 million. If a modified loan is on nonaccrual and performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the modification is taken into account to determine whether a loan should be returned to accrual status. ACCRUING AND NONACCRUING MODIFIED LOANS TO BORROWERS EXPERIENCING FINANCIAL DIFFICULTY (In millions) September 30, 2023 Modified loans – accruing $ 232 Modified loans – nonaccruing 11 Total $ 243 For additional information regarding loan modifications to borrowers experiencing financial difficulty, including information related to TDRs prior to our adoption of ASU 2022-02, see Note 6 of the Notes to Consolidated Financial Statements. Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. The RULC is a reserve for potential losses associated with off-balance sheet commitments and is separately recorded on the consolidated balance sheet in “Other liabilities.” Any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” 26 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the changes in and allocation of the ACL. SUMMARY OF CREDIT LOSS EXPERIENCE (Dollar amounts in millions) Nine Months Ended September 30, 2023 Twelve Months Ended December 31, 2022 Nine Months Ended September 30, 2022 Loans and leases outstanding $ 56,893 $ 55,653 $ 53,918 Average loans and leases outstandin Commercial 30,620 29,225 28,945 Commercial real estate 12,942 12,251 12,151 Consumer 13,041 11,122 10,801 Total average loans and leases outstanding $ 56,603 $ 52,598 $ 51,897 Allowance for loan and lease loss Balance at beginning of period 1 $ 572 $ 513 $ 513 Provision for loan losses 136 101 70 Charge-offs: Commercial 35 72 65 Commercial real estate 3 — — Consumer 11 10 8 Total 49 82 73 Recoveri Commercial 17 32 21 Commercial real estate — — — Consumer 5 11 10 Total 22 43 31 Net loan and lease charge-offs 27 39 42 Balance at end of period $ 681 $ 575 $ 541 Reserve for unfunded lending commitments: Balance at beginning of period $ 61 $ 40 $ 40 Provision for unfunded lending commitments (4) 21 9 Balance at end of period $ 57 $ 61 $ 49 Total allowance for credit loss Allowance for loan and lease losses $ 681 $ 575 $ 541 Reserve for unfunded lending commitments 57 61 49 Total allowance for credit losses $ 738 $ 636 $ 590 Ratio of allowance for credit losses to net loans and leases, at period end 1.30 % 1.14 % 1.09 % Ratio of allowance for credit losses to nonaccrual loans, at period end 371 % 427 % 391 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, at period end 343 % 410 % 345 % Ratio of total net charge-offs to average loans and leases 2 0.06 % 0.07 % 0.11 % Ratio of commercial net charge-offs to average commercial loans 2 0.08 % 0.14 % 0.20 % Ratio of commercial real estate net charge-offs to average commercial real estate loans 2 0.03 % — % — % Ratio of consumer net charge-offs to average consumer loans 2 0.06 % (0.01) % (0.02) % 1 The beginning balance for the nine months ended September 30, 2023 for the allowance for loan losses does not agree to the ending balance at December 31, 2022 because of the adoption of the new accounting standard related to loan modifications to borrowers experiencing financial difficulties. 2 Ratios are annualized for the periods presented except for the period representing the full twelve months. The total ACL increased to $738 million, from $636 million, during the first nine months of 2023, primarily due to deterioration in economic forecasts. See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. 27 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. Because we engage in transactions involving various financial products, we are exposed to both interest rate risk and market risk. For a more comprehensive discussion of our interest rate and market risk management, see the “Interest Rate and Market Risk Management” section in our 2022 Form 10-K. Interest Rate Risk We strive to position the Bank for interest rate changes and manage the balance sheet sensitivity to reduce the volatility of both net interest income and economic value of equity (“EVE”). With the recent prominent bank failures during the first half of 2023, customer deposit behavior deviated from modeled behaviors, with the latter being informed using data reflecting an extended period of relatively low interest rates. As such, in addition to our historical-based assumptions, we have included adjusted deposit assumptions into our interest risk rate management, which increase the deposit beta for interest-bearing products and increase the percentage of non-interest bearing deposits that migrate to interest-bearing products. While we seek to comply with our interest rate risk limits under both sets of assumptions, management believes the adjusted deposit assumptions are more likely to reflect future behavior of deposits. We generally have granular deposit funding, and much of this funding has an indeterminate life with no maturity, and can be withdrawn at any time. Because most deposits come from household and business accounts, their duration is generally longer than the duration of our loan portfolio. As such, we are naturally “asset-sensitive” — meaning that our assets are expected to reprice faster or more significantly than our liabilities. We regularly use interest rate swaps, investment in fixed-rate securities, and funding strategies to manage our interest rate risk. These strategies collectively have muted the expected sensitivity of net interest income to changes in interest rates. Asset sensitivity measures depend upon the assumptions we use for deposit runoff and repricing behavior. As interest rates rise, we expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. Our models are particularly sensitive to the assumption about the rate of such migration. We also assume a correlation, referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-bearing checking accounts are assumed to have a lower correlation. The following schedule presents deposit duration assumptions using both historical-based deposit behavior as well as the adjusted deposit assumptions discussed previously. DEPOSIT ASSUMPTIONS September 30, 2023 December 31, 2022 Historical-based assumptions Adjusted assumptions Historical-based assumptions Product Effective duration (unchanged) Effective duration (+200 bps) Effective duration (unchanged) Effective duration (+200 bps) Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 4.2% 3.8% 3.1% 2.9% 3.6% 3.5% Money market 2.2% 2.1% 1.5% 1.3% 2.3% 2.0% Savings and interest-bearing checking 2.4% 2.0% 1.6% 1.1% 3.1% 2.8% 28 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES As more rate-sensitive deposits have runoff, the effective duration of the deposits under the historical-based assumptions has lengthened due to the remaining deposits that are assumed to be less rate sensitive. Conversely, the effective duration of the deposits under the adjusted assumptions has shortened considerably due to faster deposit repricing. As noted previously, we utilize derivatives to manage interest rate risk. The following schedule presents derivatives that are designated in qualifying hedging relationships at September 30, 2023. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each category of cash flow and fair value hedge. Fair value hedges of assets include $2.5 billion in notional of hedges of AFS securities designated under the portfolio layer method that were added during the second quarter of 2023. See Note 7 of the Notes to Consolidated Financial Statements for additional information regarding the impact of these hedging relationships on interest income and expense. DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2023 2024 2025 3Q25 - 2Q26 3Q26 - 2Q27 (Dollar amounts in millions) Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Cash flow hedges Cash flow hedges of assets 1,2 Average outstanding notional $ 2,250 $ 1,817 $ 1,483 $ 1,050 $ 550 $ 350 $ 350 $ 350 $ 111 $ 100 Weighted-average fixed-rate received 2.24 % 2.05 % 1.96 % 1.82 % 1.96 % 2.34 % 2.34 % 2.34 % 1.66 % 1.65 % Cash flow hedges of liabilities 3 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — $ — Weighted-average fixed-rate paid 3.67 % 3.67 % 3.67 % 3.67 % 3.67 % 3.67 % 3.67 % — % — % — % 2024 2025 2026 2027 2028 2029 2030 2031 2032 2033 Fair value hedges Fair value hedges of assets 4 Average outstanding notional $ 4,171 $ 4,444 $ 4,558 $ 4,562 $ 4,558 $ 2,428 $ 1,049 $ 1,044 $ 1,037 $ 1,001 Weighted-average fixed-rate paid 3.33 % 3.24 % 3.21 % 3.21 % 3.21 % 2.47 % 1.84 % 1.83 % 1.83 % 1.83 % 1 Cash flow hedges consist of receive-fixed swaps hedging pools of floating-rate loans. 2 Cash flow hedges of assets fully matures in October 2027. Amounts for 2027 have not been prorated to reflect this hedge maturing during the period. 3 Cash flow hedges of liabilities fully matures in May 2025. 4 Fair value hedges of assets consist of pay-fixed interest rate swaps hedging AFS fixed-rate securities. Incorporating the historical-based and adjusted deposit assumptions and the impact of derivatives in qualifying hedging relationships previously discussed, the following schedule presents earnings at risk (“EaR”), or the percentage change in 12-month forward-looking net interest income, and our estimated percentage change in EVE. Both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. These measures highlight the sensitivity to changes in interest rates across various scenarios; the outcomes are not intended to be forecasts of expected net interest income. 29 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY September 30, 2023 December 31, 2022 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Historical-based assumptio Earnings at Risk (EaR) (4.4) % — % 4.4 % 8.9 % 13.3 % (2.4) % — % 2.4 % 4.8 % 7.1 % Economic Value of Equity (EVE) (0.8) % — % 1.8 % 3.5 % 5.0 % 2.0 % — % (1.1) % (2.3) % (3.7) % Adjusted assumptio Earnings at Risk (EaR) (0.7) % — % 0.6 % 1.4 % 2.0 % Economic Value of Equity (EVE) 4.4 % — % (4.9) % (9.7) % (14.1) % 1 Assumes rates cannot go below zero in the negative rate shift. Under the historical-based assumptions, the asset sensitivity, as measured by EaR, increased during the third quarter of 2023, primarily due an increase in pay-fixed interest rate swap notional, partially offset by deposit migration from low beta products to high beta products. Under the adjusted deposit assumptions, asset sensitivity decreased significantly due to faster deposit repricing. Both assumptions result in interest rate risk being within policy limits; management believes the adjusted deposit assumptions are more likely to reflect future behavior of deposits. For interest-bearing deposits with indeterminate maturities, the weighted average modeled beta is 42% under the historical-based assumptions, and 62% under the adjusted assumptions. The EaR analysis focuses on parallel rate shocks across the term structure of benchmark interest rates. In a non-parallel rate scenario where shorter-term rates increase slightly, but the ten-year rate increases by 200 bps, the increase in EaR as modeled under the historical-based assumptions would be approximately 50 percent larger than the change associated with the parallel +200 bps rate change. EaR has inherent limitations in describing expected changes in net interest income in rapidly changing interest rate environments due to a lag in asset and liability repricing behavior. As such, we expect net interest income to change due to “latent” and “emergent” interest rate sensitivity. Unlike EaR, which measures net interest income over 12 months, latent and emergent interest rate sensitivity explains changes in current quarter net interest income, compared with expected net interest income in the same quarter one year forward. Latent interest rate sensitivity refers to future changes in net interest income based upon past rate movements that have yet to be fully recognized in revenue but will be recognized over the near term. We expect latent sensitivity to reduce net interest income by approximately 2% in the third quarter of 2024, compared with the third quarter of 2023. Emergent interest rate sensitivity refers to future changes in net interest income based upon future interest rate movements and is measured from the latent level of net interest income. If interest rates rise consistent with the forward curve at September 30, 2023, we expect emergent sensitivity to decrease net interest income by an insignificant amount from the latent sensitivity level, for a cumulative 2% reduction in net interest income. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At September 30, 2023, $24.3 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. For these variable-rate loans, we have executed $2.6 billion of cash flow hedges by receiving fixed rates on interest rate swaps. At September 30, 2023, we also had $3.5 billion of variable-rate consumer loans scheduled to reprice in the next six months. The impact on asset sensitivity from commercial or consumer loans with floors has become insignificant as rates have risen. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. 30 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Market Risk – Fixed Income We are exposed to market risk through changes in fair value. This includes market risk for trading securities and for interest rate swaps used to hedge interest rate risk. We underwrite municipal and corporate securities. We also trade municipal, agency, and treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in accumulated other comprehensive income (loss) (“AOCI”) for each financial reporting period. During the third quarter of 2023, the $105 million after-tax increase in AOCI loss related to investment securities was driven largely by declines in the fair value of the AFS securities primarily due to increases in benchmark interest rates. For more discussion regarding investment securities and AOCI, see the “Capital Management” section on page 34. See also Note 5 of the Notes to Consolidated Financial Statements for further information regarding the accounting for investment securities. Market Risk – Equity Investments Through our equity investment activities, we own equity securities that are publicly traded. In addition, we own equity securities in governmental entities and companies, e.g., Federal Reserve Board (“FRB”) and the FHLB, that are not publicly traded. Equity investments may be accounted for at cost less impairment and adjusted for observable price changes, fair value, the equity method, or proportional or full consolidation methods of accounting, depending on our ownership position and degree of influence over the investees’ business. Regardless of the accounting method, the values of our investments are subject to fluctuation. Because the fair value of these securities may fall below the cost at which we acquired them, we are exposed to the possibility of loss. Equity investments in private and public companies are evaluated, monitored, and approved by members of management in our Equity Investments Committee and Securities Valuation Committee. We hold both direct and indirect investments in predominantly pre-public companies, primarily through various Small Business Investment Company (“SBIC”) venture capital funds as a strategy to provide beneficial financing, growth, and expansion opportunities to diverse businesses generally in communities within our geographic footprint. Our equity exposure to these investments was approximately $185 million and $172 million at September 30, 2023 and December 31, 2022, respectively. On occasion, some of the companies within our SBIC investment may issue an initial public offering (“IPO”). In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce additional market risk. See Note 3 of the Notes to Consolidated Financial Statements for additional information regarding the valuation of our SBIC investments. Liquidity Risk Management Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. We manage our liquidity to provide funds for our customers’ credit needs, our anticipated financial and contractual obligations, and other corporate activities. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as loans and investment securities. Our investment securities are primarily held as a source of contingent liquidity. We generally own securities that can readily provide us with cash and liquidity through secured borrowing agreements with securities pledged as collateral. We maintain and regularly test a contingency funding plan to identify sources and uses of liquidity. Additionally, we have a Board-approved liquidity policy that requires us to monitor and maintain adequate liquidity, diversify funding positions, and anticipate future funding needs. In accordance with this policy, we monitor our liquidity positions by conducting various stress tests and evaluating certain liquid asset measurements, such as a 30-day liquidity coverage ratio. We perform regular liquidity stress tests and assess our portfolio of highly liquid assets (sufficient to cover 30-day funding needs under stress scenarios). These stress tests include projections of funding maturities, uses of funds, and assumptions of deposit runoff. The assumptions consider the size of deposit account, operational nature of deposits, type of depositor, and concentrations of funding sources including large depositors and aggregate levels of 31 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES uncollateralized deposits exceeding insured levels. Concentrated funding sources are given large runoff factors up to 100% in projecting stressed funding needs. Our liquidity stress testing considers multiple timeframes ranging from overnight to 12 months. Our liquidity policy requires us to maintain sufficient on-balance sheet liquidity in the form of FRB reserve balance and other highly liquid assets to meet stressed outflow assumptions. We have a dedicated funding desk that monitors real-time inflows and outflows of our FRB account, and we have tools, including ready access to repo markets and FHLB advances, to manage intraday liquidity. FHLB borrowings are “open-term,” allowing us the ability to retain or return funds based on our liquidity needs. We pledge a large portion of our highly liquid investment securities portfolio through the General Collateral Funding (“GCF”) repo program. Through this program, high-quality collateral is pledged, and program participants exchange funds anonymously, which allows for near instant access to funding during market hours. Additionally, we have pledged collateral to the FRB’s primary credit facility (or discount window) and the Bank Term Funding Program (“BTFP”), which provide additional contingent funding sources outside the normal operating hours of the FHLB and the GCF program. The BTFP offers loans of up to one year in length to eligible depository institutions pledging U.S. Treasuries, agency debt and government mortgage-backed securities, and other qualifying assets as collateral. Unlike other funding sources, borrowing capacity under the BTFP is based on the par value, not the fair value, of collateral. Advances can be requested under the program through mid-March 2024. For more information on our liquidity risk management practices, see “Liquidity Risk Management” in our 2022 Form 10-K. For the first nine months of 2023, the primary sources of cash came from an increase in deposits, a decrease in investment securities, and net cash provided by operating activities. Uses of cash during the same period primarily included a decrease in short-term borrowings, an increase in loans and leases, and dividends paid on common and preferred stock. Cash payments for interest reflected in operating expenses were $913 million and $63 million for the first nine months of 2023 and 2022, respectively. The FHLB and FRB have been, and continue to be, a significant source of back-up liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and FRB stock to maintain our borrowing capacity. At September 30, 2023, our total investment in FHLB and FRB stock was $71 million and $65 million, respectively, compared with $294 million and $68 million at December 31, 2022. At September 30, 2023, loans with a carrying value of $24.7 billion and $12.5 billion, compared with $23.7 billion and $3.9 billion at December 31, 2022, were pledged at the FHLB and FRB, respectively, as collateral for current and potential borrowings. At September 30, 2023 and December 31, 2022, investment securities with a carrying value of $20.3 billion and $13.5 billion, respectively, were pledged as collateral for potential borrowings. For the same time periods, these pledges included $9.6 billion and $8.3 billion for available use through the GCF repo program, $6.6 billion and $1.0 billion to the FRB, and $4.1 billion and $4.2 billion to secure collateralized public and trust deposits, advances, and for other purposes. 32 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES A large portion of these pledged assets are unencumbered, but are pledged to provide immediate access to contingency sources of funds. The following schedule presents our total available liquidity including unused collateralized borrowing capacity. AVAILABLE LIQUIDITY September 30, 2023 December 31, 2022 (Dollar amounts in billions) FHLB FRB GCF BTFP Total FHLB FRB GCF BTFP Total Total borrowing capacity $ 16.6 $ 11.0 $ 9.3 $ 6.9 $ 43.8 $ 16.6 $ 4.0 $ 8.4 $ — $ 29.0 Borrowings outstanding 1.6 — 1.0 — 2.6 7.2 — 2.7 — 9.9 Remaining capacity, at period end $ 15.0 $ 11.0 $ 8.3 $ 6.9 $ 41.2 $ 9.4 $ 4.0 $ 5.7 $ — $ 19.1 Cash and due from banks 0.7 0.7 Interest-bearing deposits 1 1.7 1.3 Total available liquidity $ 43.6 $ 21.1 Ratio of available liquidity to uninsured deposits 140 % 56 % 1 Represents funds deposited by the Bank primarily at the Federal Reserve Bank. At September 30, 2023 and December 31, 2022, our total available liquidity was $43.6 billion, compared with $21.1 billion, respectively. At September 30, 2023, we had sources of liquidity which exceeded our uninsured deposits without the need to sell any investment securities. General financial market and economic conditions impact our access to, and cost of, external financing. Access to funding markets is also directly affected by the credit ratings we receive from various rating agencies. The ratings not only influence the costs associated with borrowings, but can also influence the sources of the borrowings. All of the credit rating agencies rate our debt at an investment-grade level. The following schedule presents our current credit ratings. CREDIT RATINGS as of October 31, 2023: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Negative BBB+ BBB NR Fitch Stable BBB+ BBB F2 Moody's Stable Baa2 NR P2 Various uncertainties in the banking industry during the first nine months of 2023 resulted in ratings pressure for a number of banks, including Zions. As a result, the credit rating agencies took the following actions related to our issuer, debt, and deposit rati • In April 2023, Moody's downgraded our long-term issuer rating to Baa2 from Baa1, our short-term debt rating to P2 from P1, and changed their outlook on our long-term deposit and issuer ratings to “Stable” from “Ratings under review.” • In May 2023, Standard & Poor's (“S&P”) changed their outlook on our long-term deposit and issuer ratings to “Negative” from “Stable.” • In October 2023, Fitch downgraded our short-term debt rating to F2 from F1. We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. 33 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Capital Management A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. We seek to (1) maintain sufficient capital to support the current needs and growth of our businesses, and (2) fulfill responsibilities to depositors and bondholders while managing capital distributions to shareholders through dividends and repurchases of common stock. We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the FRB. The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as Board and Office of the Comptroller of the Currency (“OCC”) approval. Shares may be repurchased occasionally in the open market or through privately negotiated transactions. For a more comprehensive discussion of our capital risk management, see “Capital Management” in our 2022 Form 10-K. SHAREHOLDERS' EQUITY (Dollar amounts in millions) September 30, 2023 December 31, 2022 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 440 $ — — % Common stock and additional paid-in capital 1,726 1,754 (28) (2) Retained earnings 6,157 5,811 346 6 Accumulated other comprehensive loss (3,008) (3,112) 104 3 Total shareholders' equity $ 5,315 $ 4,893 $ 422 9 % Total shareholders’ equity increased $422 million, or 9%, to $5.3 billion at September 30, 2023, compared with $4.9 billion at December 31, 2022. Common stock and additional paid-in capital decreased $28 million, primarily due to common stock repurchases during the first quarter of 2023. As the macroeconomic environment remained uncertain, we did not repurchase common shares during the second or third quarters of 2023, nor do we expect to repurchase common shares during the fourth quarter of 2023. AOCI was a $3.0 billion loss at September 30, 2023, and, for the first nine months of 2023, reflected (1) a $169 million decline in the fair value of fixed-rate AFS securities as a result of higher interest rates, primarily offset by $158 million in unrealized loss amortization associated with the securities transferred from AFS to HTM during the fourth quarter of 2022, and (2) a $114 million increase in unrealized gains and other adjustments associated with derivative instruments used for risk management purposes. Absent any sales or credit impairment of the AFS securities, the unrealized losses will not be recognized in earnings. We do not intend to sell any securities with unrealized losses. Although changes in AOCI are reflected in shareholders’ equity, they are excluded from regulatory capital, and therefore do not impact our regulatory ratios. For more discussion on our investment securities portfolio and related unrealized gains and losses, see Note 5 of the Notes to Consolidated Financial Statements. 34 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CAPITAL DISTRIBUTIONS Three Months Ended September 30, Nine Months Ended September 30, (In millions, except share data) 2023 2022 2023 2022 Capital distributio Preferred dividends paid $ 7 $ 6 $ 22 $ 22 Total capital distributed to preferred shareholders 7 6 22 22 Common dividends paid 61 62 184 178 Bank common stock repurchased 1 — 50 50 151 Total capital distributed to common shareholders 61 112 234 329 Total capital distributed to preferred and common shareholders $ 68 $ 118 $ 256 $ 351 Weighted average diluted common shares outstanding (in thousands) 147,653 149,792 147,794 150,766 Common shares outstanding, at period end (in thousands) 148,146 149,611 148,146 149,611 1 Includes amounts related to the common shares acquired from our publicly announced plans and those acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. Pursuant to the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. At September 30, 2023, we had $1.9 billion of retained net profits available for distribution. During the third quarter of 2023, we paid dividends on preferred stock of $7 million and dividends on common stock of $61 million, or $0.41 per share. In October 2023, the Board declared a regular quarterly dividend of $0.41 per common share, payable on November 16, 2023 to shareholders of record on November 9, 2023. See Note 9 of the Notes to Consolidated Financial Statements for additional information about our capital management actions. Basel III We are subject to Basel III capital requirements that include certain minimum regulatory capital ratios. At September 30, 2023, we exceeded all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. See the “Supervision and Regulation” section and Note 15 of our 2022 Form 10-K for more information about our compliance with the Basel III capital requirements. The following schedule presents our capital amounts, capital ratios, and other selected performance ratios. 35 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CAPITAL AMOUNTS AND RATIOS (Dollar amounts in millions) September 30, 2023 December 31, 2022 September 30, 2022 Basel III risk-based capital amounts: Common equity tier 1 capital $ 6,803 $ 6,481 $ 6,342 Tier 1 risk-based 7,242 6,921 6,781 Total risk-based 8,500 8,077 7,887 Risk-weighted assets 66,615 66,111 65,985 Basel III risk-based capital ratios: Common equity tier 1 capital ratio 10.2 % 9.8 % 9.6 % Tier 1 risk-based ratio 10.9 10.5 10.3 Total risk-based ratio 12.8 12.2 12.0 Tier 1 leverage ratio 8.3 7.7 7.5 Other ratios: Average equity to average assets (three months ended) 6.2 % 5.4 % 6.5 % Return on average common equity (three months ended) 13.5 25.4 15.8 Return on average tangible common equity (three months ended) 1 17.3 33.4 19.6 Tangible equity ratio 1 4.9 4.3 4.2 Tangible common equity ratio 1 4.4 3.8 3.7 1 See “Non-GAAP Financial Measures” on page 37 for more information regarding these ratios. On July 27, 2023, bank regulators issued a proposal to implement the Basel Committee on Banking Supervision’s finalization of the post-crisis bank regulatory capital reforms. The proposal provides for a July 1, 2025 effective date, subject to a three-year phase-in period for certain aspects of the proposal. Bank regulators recently extended the comment period for the proposal to January 16, 2024. The proposal, commonly referred to as Basel III “Endgame,” would significantly revise the capital requirements applicable to large banking organizations, defined as those with total assets of $100 billion or more. At September 30, 2023, we had $87.3 billion in total assets and do not currently qualify as a large banking organization. We are evaluating the potential future impact of the proposal, as we expect it is more likely than not we would become subject to this proposal over the next few years. Under the proposal, at such time we were to increase our total assets to $100 billion or more, we would, among other things, be required to (1) include unrealized gains and losses on AFS debt securities in regulatory capital, (2) hold capital for operational risk and market risk, and (3) calculate risk-based capital ratios under both the standardized approach and the expanded risk-based approach. On August 29, 2023, bank regulators issued a proposal that would expand a long-term debt requirement to all banks with total assets of $100 billion or more. The proposed rule would require these banks to have a minimum outstanding amount of eligible long-term debt that is the greater of (i) 6% of total risk-weighted assets; (ii) 2.5% of total leverage exposure, and (iii) 3.5% of average total assets. In the event we were to increase our total assets to $100 billion or more, we would have a three-year implementation period to issue debt and meet the other requirements under the proposal. At September 30, 2023, if enacted as proposed, the estimated amount of incremental debt we would be required to issue would be approximately $3.5 billion over the three year phase-in period. Additionally, on August 29, 2023, the FDIC issued a proposal that revises the requirements for resolution planning (“living wills”) for banks in two asset categories. Under the proposal, banks with total assets of $100 billion or more would be required to submit more detailed living wills, while banks with total assets between $50 billion and $100 billion would submit more limited information filings, in each case filed biennially beginning in 2025. 36 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NON-GAAP FINANCIAL MEASURES This Form 10-Q presents non-GAAP financial measures, in addition to GAAP financial measures. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results and provide a meaningful basis for period-to-period comparisons. We use these non-GAAP financial measures to assess our performance and financial position. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by our management and the financial services industry. Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar financial measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under generally accepted accounting principles (“GAAP”). Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets and their related amortization. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a business more consistently, whether acquired or developed internally. RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Three Months Ended (Dollar amounts in millions) September 30, 2023 June 30, 2023 September 30, 2022 Net earnings applicable to common shareholders (GAAP) $ 168 $ 166 $ 211 Adjustment, net of t Amortization of core deposit and other intangibles 1 1 1 Net earnings applicable to common shareholders, net of tax (a) $ 169 $ 167 $ 212 Average common equity (GAAP) $ 4,938 $ 4,818 $ 5,303 Average goodwill and intangibles (1,061) (1,063) (1,021) Average tangible common equity (non-GAAP) (b) $ 3,877 $ 3,755 $ 4,282 Number of days in quarter (c) 92 91 92 Number of days in year (d) 365 365 365 Return on average tangible common equity (non-GAAP) 1 (a/b/c)*d 17.3 % 17.8 % 19.6 % 1 Excluding the effect of AOCI from average tangible common equity would result in associated returns of 9.9%, 10.0%, and 13.2% for the periods presented, respectively. TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) September 30, 2023 June 30, 2023 September 30, 2022 Total shareholders’ equity (GAAP) $ 5,315 $ 5,283 $ 4,696 Goodwill and intangibles (1,060) (1,062) (1,034) Tangible equity (non-GAAP) (a) 4,255 4,221 3,662 Preferred stock (440) (440) (440) Tangible common equity (non-GAAP) (b) $ 3,815 $ 3,781 $ 3,222 Total assets (GAAP) $ 87,269 $ 87,230 $ 88,474 Goodwill and intangibles (1,060) (1,062) (1,034) Tangible assets (non-GAAP) (c) $ 86,209 $ 86,168 $ 87,440 Common shares outstanding (in thousands) (d) 148,146 148,144 149,611 Tangible equity ratio (non-GAAP) (a/c) 4.9 % 4.9 % 4.2 % Tangible common equity ratio (non-GAAP) (b/c) 4.4 % 4.4 % 3.7 % Tangible book value per common share (non-GAAP) (b/d) $ 25.75 $ 25.52 $ 21.54 37 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allows for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how we are managing our expenses. Adjusted pre-provision net revenue enables management and others to assess our ability to generate capital. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) Three Months Ended Nine Months Ended Year Ended (Dollar amounts in millions) September 30, 2023 June 30, 2023 September 30, 2022 September 30, 2023 September 30, 2022 December 31, 2022 Noninterest expense (GAAP) (a) $ 496 $ 508 $ 479 $ 1,516 $ 1,407 $ 1,878 Adjustments: Severance costs — 13 — 14 1 1 Other real estate expense, net — — — — 1 1 Amortization of core deposit and other intangibles 2 1 1 5 1 1 Restructuring costs 1 — — 1 — — SBIC investment success fee accrual 1 — — 1 — — (1) Total adjustments (b) 3 14 2 20 3 2 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 493 $ 494 $ 477 $ 1,496 $ 1,404 $ 1,876 Net interest income (GAAP) (d) $ 585 $ 591 $ 663 $ 1,855 $ 1,800 $ 2,520 Fully taxable-equivalent adjustments (e) 11 11 10 31 27 37 Taxable-equivalent net interest income (non-GAAP) (d+e)=f 596 602 673 1,886 1,827 2,557 Noninterest income (GAAP) g 180 189 165 529 479 632 Combined income (non-GAAP) (f+g)=(h) 776 791 838 2,415 2,306 3,189 Adjustments: Fair value and nonhedge derivative gains 7 1 4 5 20 16 Securities gains (losses), net 1 4 — 6 5 (10) (15) Total adjustments 2 (i) 11 1 10 10 10 1 Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 765 $ 790 $ 828 $ 2,405 $ 2,296 $ 3,188 Pre-provision net revenue (non-GAAP) (h)-(a) $ 280 $ 283 $ 359 $ 899 $ 899 $ 1,311 Adjusted PPNR (non-GAAP) (j)-(c) 272 296 351 909 892 1,312 Efficiency ratio (non-GAAP) 2 (c/j) 64.4 % 62.5 % 57.6 % 62.2 % 61.1 % 58.8 % 1 The success fee accrual is associated with the gains and losses from our SBIC investments, which are excluded from the efficiency ratio through securities gains (losses), net. 2 Excluding the $13 million gain on sale of bank-owned premises recorded in dividends and other income, the efficiency ratio for the three months ended June 30, 2023 would have been 63.6%. 38 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 1. FINANCIAL STATEMENTS (Unaudited) CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) September 30, 2023 December 31, 2022 (Unaudited) ASSETS Cash and due from banks $ 700 $ 657 Money market investments: Interest-bearing deposits 1,704 1,340 Federal funds sold and securities purchased under agreements to resell 1,427 2,426 Investment securiti Held-to-maturity, at amortized cost (fair val $ 10,049 and $ 11,239 ) 10,559 11,126 Available-for-sale, at fair value 10,148 11,915 Trading, at fair value 31 465 Total investment securities 20,738 23,506 Loans held for sale 41 8 Loans and leases, net of unearned income and fees 56,893 55,653 Less allowance for loan and lease losses 681 575 Loans held for investment, net of allowance 56,212 55,078 Other noninterest-bearing investments 929 1,130 Premises, equipment and software, net 1,410 1,408 Goodwill and intangibles 1,060 1,065 Other real estate owned 7 3 Other assets 3,041 2,924 Total assets $ 87,269 $ 89,545 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 26,733 $ 35,777 Interest-bearin Savings and money market 37,090 33,566 Time 11,576 2,309 Total deposits 75,399 71,652 Federal funds and other short-term borrowings 4,346 10,417 Long-term debt 540 651 Reserve for unfunded lending commitments 57 61 Other liabilities 1,612 1,871 Total liabilities 81,954 84,652 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 440 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 148,146 and 148,664 shares) and additional paid-in capital 1,726 1,754 Retained earnings 6,157 5,811 Accumulated other comprehensive income (loss) ( 3,008 ) ( 3,112 ) Total shareholders’ equity 5,315 4,893 Total liabilities and shareholders’ equity $ 87,269 $ 89,545 See accompanying notes to consolidated financial statements. 39 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Unaudited) Three Months Ended September 30, Nine Months Ended September 30, (In millions, except shares and per share amounts) 2023 2022 2023 2022 Interest income: Interest and fees on loans $ 831 $ 551 $ 2,348 $ 1,456 Interest on money market investments 35 24 140 42 Interest on securities 144 132 419 372 Total interest income 1,010 707 2,907 1,870 Interest expense: Interest on deposits 366 19 668 32 Interest on short- and long-term borrowings 59 25 384 38 Total interest expense 425 44 1,052 70 Net interest income 585 663 1,855 1,800 Provision for credit loss Provision for loan and lease losses 44 60 136 70 Provision for unfunded lending commitments ( 3 ) 11 ( 4 ) 9 Total provision for credit losses 41 71 132 79 Net interest income after provision for credit losses 544 592 1,723 1,721 Noninterest income: Commercial account fees 43 40 131 118 Card fees 26 27 75 77 Retail and business banking fees 17 17 49 57 Loan-related fees and income 23 18 63 61 Capital markets fees 18 25 62 61 Wealth management fees 15 14 44 41 Other customer-related fees 15 15 46 46 Customer-related noninterest income 157 156 470 461 Fair value and nonhedge derivative income 7 4 5 20 Dividends and other income (loss) 12 ( 1 ) 49 8 Securities gains (losses), net 4 6 5 ( 10 ) Total noninterest income 180 165 529 479 Noninterest expense: Salaries and employee benefits 311 312 974 931 Technology, telecom, and information processing 62 53 175 158 Occupancy and equipment, net 42 38 122 112 Professional and legal services 16 14 45 42 Marketing and business development 10 11 35 28 Deposit insurance and regulatory expense 20 13 60 36 Credit-related expense 6 8 19 22 Other real estate expense, net — — — 1 Other 29 30 86 77 Total noninterest expense 496 479 1,516 1,407 Income before income taxes 228 278 736 793 Income taxes 53 61 182 170 Net income 175 217 554 623 Preferred stock dividends ( 7 ) ( 6 ) ( 22 ) ( 22 ) Net earnings applicable to common shareholders $ 168 $ 211 $ 532 $ 601 Weighted average common shares outstanding during the perio Basic shares (in thousands) 147,648 149,628 147,784 150,510 Diluted shares (in thousands) 147,653 149,792 147,794 150,766 Net earnings per common sh Basic $ 1.13 $ 1.40 $ 3.57 $ 3.96 Diluted 1.13 1.40 3.57 3.96 See accompanying notes to consolidated financial statements. 40 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Unaudited) Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2023 2022 2023 2022 Net income for the period $ 175 $ 217 $ 554 $ 623 Other comprehensive income (loss), net of t Net unrealized holding losses on investment securities 1 ( 105 ) ( 909 ) ( 11 ) ( 2,729 ) Net unrealized gains (losses) on other noninterest-bearing investments 1 ( 1 ) 1 ( 2 ) Net unrealized holding gains (losses) on derivative instruments ( 6 ) ( 138 ) 15 ( 322 ) Reclassification adjustment for decrease (increase) in interest income recognized in earnings on derivative instruments 32 8 99 ( 7 ) Total other comprehensive income (loss), net of tax ( 78 ) ( 1,040 ) 104 ( 3,060 ) Comprehensive income (loss) $ 97 $ ( 823 ) $ 658 $ ( 2,437 ) See accompanying notes to consolidated financial statements. 1 For the three and nine months ended September 30, 2023, the amounts include $ 160 million and $ 169 million related to the decline in the fair value of fixed-rate AFS securities as a result of higher interest rates, offset by $ 55 million and $ 158 million in unrealized loss amortization associated with the securities transferred from AFS to HTM during the fourth quarter of 2022, respectively. CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited) (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at June 30, 2023 $ 440 148,144 $ — $ 1,722 $ 6,051 $ ( 2,930 ) $ 5,283 Net income for the period 175 175 Other comprehensive loss, net of tax ( 78 ) ( 78 ) Net activity under employee plans and related tax benefits 2 4 4 Dividends on preferred stock ( 7 ) ( 7 ) Dividends on common stock, $ 0.41 per share ( 61 ) ( 61 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at September 30, 2023 $ 440 148,146 $ — $ 1,726 $ 6,157 $ ( 3,008 ) $ 5,315 Balance at June 30, 2022 $ 440 150,471 $ — $ 1,845 $ 5,447 $ ( 2,100 ) $ 5,632 Net income for the period 217 217 Other comprehensive loss, net of tax ( 1,040 ) ( 1,040 ) Bank common stock repurchased ( 888 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 28 4 4 Dividends on preferred stock ( 6 ) ( 6 ) Dividends on common stock, $ 0.41 per share ( 61 ) ( 61 ) Balance at September 30, 2022 $ 440 149,611 $ — $ 1,799 $ 5,597 $ ( 3,140 ) $ 4,696 41 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2022 $ 440 148,664 $ — $ 1,754 $ 5,811 $ ( 3,112 ) $ 4,893 Net income for the period 554 554 Other comprehensive income, net of tax 104 104 Cumulative effect adjustment, due to adoption of ASU 2022-02, net of tax 2 2 Bank common stock repurchased ( 953 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 435 22 22 Dividends on preferred stock ( 22 ) ( 22 ) Dividends on common stock, $ 1.23 per share ( 184 ) ( 184 ) Change in deferred compensation ( 4 ) ( 4 ) Balance at September 30, 2023 $ 440 148,146 $ — $ 1,726 $ 6,157 $ ( 3,008 ) $ 5,315 Balance at December 31, 2021 $ 440 151,625 $ — $ 1,928 $ 5,175 $ ( 80 ) $ 7,463 Net income for the period 623 623 Other comprehensive loss, net of tax ( 3,060 ) ( 3,060 ) Bank common stock repurchased ( 2,602 ) ( 151 ) ( 151 ) Net activity under employee plans and related tax benefits 588 22 22 Dividends on preferred stock ( 22 ) ( 22 ) Dividends on common stock, $ 1.17 per share ( 178 ) ( 178 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at September 30, 2022 $ 440 149,611 $ — $ 1,799 $ 5,597 $ ( 3,140 ) $ 4,696 See accompanying notes to consolidated financial statements. 42 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In millions) Nine Months Ended September 30, 2023 2022 CASH FLOWS FROM OPERATING ACTIVITIES Net income for the period $ 554 $ 623 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses 132 79 Depreciation and amortization 108 79 Share-based compensation 28 25 Deferred income tax expense 21 15 Net decrease (increase) in trading securities 434 ( 154 ) Net decrease (increase) in loans held for sale ( 10 ) 51 Change in other liabilities ( 260 ) 745 Change in other assets 74 ( 467 ) Other, net 49 ( 20 ) Net cash provided by operating activities 1,130 976 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease in money market investments 636 8,328 Proceeds from maturities and paydowns of investment securities held-to-maturity 811 250 Purchases of investment securities held-to-maturity ( 40 ) ( 232 ) Proceeds from sales, maturities, and paydowns of investment securities available-for-sale 1,846 2,743 Purchases of investment securities available-for-sale ( 484 ) ( 5,829 ) Net change in loans and leases ( 1,241 ) ( 3,026 ) Purchases and sales of other noninterest-bearing investments 207 ( 147 ) Purchases of premises and equipment ( 84 ) ( 154 ) Other, net ( 19 ) 21 Net cash provided by investing activities 1,632 1,954 CASH FLOWS FROM FINANCING ACTIVITIES Net increase (decrease) in deposits 3,747 ( 6,794 ) Net change in short-term borrowed funds ( 6,071 ) 4,461 Redemption of long-term debt ( 128 ) ( 290 ) Proceeds from the issuance of common stock 2 8 Dividends paid on common and preferred stock ( 211 ) ( 200 ) Bank common stock repurchased ( 50 ) ( 151 ) Other, net ( 8 ) ( 10 ) Net cash used in financing activities ( 2,719 ) ( 2,976 ) Net increase (decrease) in cash and due from banks 43 ( 46 ) Cash and due from banks at beginning of period 657 595 Cash and due from banks at end of period $ 700 $ 549 Cash paid for interest $ 913 $ 63 Net cash paid for income taxes 233 5 Noncash activiti Loans held for investment reclassified to loans held for sale, net 67 100 See accompanying notes to consolidated financial statements. 43 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) September 30, 2023 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Zions Bancorporation, National Association and its majority-owned subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). The results of operations for the three and nine months ended September 30, 2023 and 2022 are not necessarily indicative of the results that may be expected in future periods. In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying Notes. Actual results could differ from those estimates. For further information, refer to the consolidated financial statements and accompanying footnotes included in our 2022 Form 10-K. We evaluated events that occurred between September 30, 2023 and the date the accompanying financial statements were issued, and determined that there were no material events that would require adjustments to our consolidated financial statements or significant disclosure in the accompanying Notes. Zions Bancorporation, N.A. is a commercial bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These include Zions Bank, in Utah, Idaho, and Wyoming; California Bank & Trust (“CB&T”); Amegy Bank (“Amegy”), in Texas; National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”), in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under the name The Commerce Bank of Oregon in Oregon. 44 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 2. RECENT ACCOUNTING PRONOUNCEMENTS Standard Description Date of adoption Effect on the financial statements or other significant matters Standards not yet adopted by the Bank ASU 2023-02, Investments—Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Tax Credit Structures Using the Proportional Amortization Method (a consensus of the Emerging Issues Task Force) This Accounting Standards Update (“ASU”) expands the optional use of the proportional amortization method (“PAM”), previously limited to investments in low-income housing tax credit (“LIHTC”) structures, to any eligible equity investments made primarily for the purpose of receiving income tax credit and other tax benefits when certain criteria are met. PAM results in the cost of the investment being amortized in proportion to the income tax credits and other income tax benefits received, with the amortization of the investment and the income tax credits being presented net in the income statement as a component of income tax expense (benefit). This ASU allows for an accounting policy election to apply PAM on a tax-credit-program-by-tax-credit-program basis. The ASU also includes additional disclosure requirements about equity investments accounted for using PAM. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 We do not currently have any additional equity investments that are eligible for PAM under the provisions of this ASU. We will continue to evaluate its use for new investments. The overall effect of the guidance is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. ASU 2022-03, Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions This ASU clarifies that contractual restrictions prohibiting the sale of an equity security are not considered part of the unit of account of the equity security, and therefore, are not considered in measuring fair value. The amendments clarify that an entity cannot recognize and measure a contractual sale restriction as a separate unit of account. The amendments in this ASU also require additional qualitative and quantitative disclosures for equity securities subject to contractual sale restrictions. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 The requirements of this ASU are consistent with our current treatment of equity securities subject to contractual sale restrictions and are not expected to impact the fair value measurements of these securities. We are evaluating supplementary disclosure requirements and additional data needed to meet these requirements. The overall effect of this standard is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. Standards adopted by the Bank ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures This ASU eliminated the recognition and measurement requirements for troubled debt restructurings (“TDRs”) for creditors that have adopted ASC 326 (“CECL”), eliminated certain TDR disclosures, and required enhanced disclosures about loan modifications for borrowers experiencing financial difficulty. The new standard also required public companies to present current period gross charge-offs (on a current year-to-date basis for interim-period disclosures) by year of origination in their vintage disclosures. Periods beginning after December 15, 2022 We adopted this ASU on a modified retrospective basis on January 1, 2023. It did not have a material impact on our financial statements. 45 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 3. FAIR VALUE Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. For more information about our valuation methodologies for assets and liabilities measured at fair value and the fair value hierarchy, see Note 3 of our 2022 Form 10-K. Fair Value Hierarchy The following schedule presents assets and liabilities measured at fair value on a recurring basis: (In millions) September 30, 2023 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies, and corporations $ 460 $ 8,367 $ — $ 8,827 Municipal securities 1,297 1,297 Other debt securities 24 24 Total available-for-sale 460 9,688 — 10,148 Trading securities 31 31 Other noninterest-bearing investments: Bank-owned life insurance 551 551 Private equity investments 1 3 89 92 Other assets: Agriculture loan servicing 17 17 Deferred compensation plan assets 116 116 Derivatives 628 628 Total assets $ 579 $ 10,898 $ 106 $ 11,583 LIABILITIES Securities sold, not yet purchased $ 34 $ — $ — $ 34 Other liabiliti Derivatives 512 512 Total liabilities $ 34 $ 512 $ — $ 546 1 The Level 1 private equity investments (“PEIs”) relate to the portion of our Small Business Investment Company (“SBIC”) investments that are publicly traded. 46 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) December 31, 2022 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies, and corporations $ 393 $ 9,815 $ — $ 10,208 Municipal securities 1,634 1,634 Other debt securities 73 73 Total available-for-sale 393 11,522 — 11,915 Trading securities 395 70 465 Other noninterest-bearing investments: Bank-owned life insurance 546 546 Private equity investments 1 4 81 85 Other assets: Agriculture loan servicing 14 14 Deferred compensation plan assets 114 114 Derivatives 386 386 Total assets $ 906 $ 12,524 $ 95 $ 13,525 LIABILITIES Securities sold, not yet purchased $ 187 $ — $ — $ 187 Other liabiliti Derivatives 451 451 Total liabilities $ 187 $ 451 $ — $ 638 1 The Level 1 PEIs relate to the portion of our SBIC investments that are publicly traded. Level 3 Valuations Our Level 3 financial instruments include PEIs and agriculture loan servicing. For additional information regarding our Level 3 financial instruments, including the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2022 Form 10-K. Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments Three Months Ended Nine Months Ended September 30, 2023 September 30, 2022 September 30, 2023 September 30, 2022 (In millions) Private equity investments Ag loan servicing Private equity investments Ag loan servicing Private equity investments Ag loan servicing Private equity investments Ag loan servicing Balance at beginning of period $ 84 $ 17 $ 77 $ 12 $ 81 $ 14 $ 66 $ 12 Unrealized securities gains (losses), net 2 — 2 — ( 1 ) — 7 — Other noninterest income (expense) — — — — — 4 — — Purchases 3 — 2 — 9 ( 1 ) 11 — Cost of investments sold — — — — — — ( 3 ) — Transfers out 1 — — — — — — — — Balance at end of period $ 89 $ 17 $ 81 $ 12 $ 89 $ 17 $ 81 $ 12 1 Represents the transfer of SBIC investments out of Level 3 and into Level 1 because they are publicly traded. 47 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The rollforward of Level 3 instruments includes the following realized gains and losses recognized in securities gains (losses) on the consolidated statement of income for the periods present (In millions) Three Months Ended Nine Months Ended September 30, 2023 September 30, 2022 September 30, 2023 September 30, 2022 Securities gains (losses), net $ — $ — $ — $ ( 2 ) Nonrecurring Fair Value Measurements Certain assets and liabilities may be measured at fair value on a nonrecurring basis, including impaired loans that have been measured based on the fair value of the underlying collateral, other real estate owned (“OREO”), and equity investments without readily determinable fair values. Nonrecurring fair value adjustments generally include changes in value resulting from observable price changes for equity investments without readily determinable fair values, write-downs of individual assets, or the application of lower of cost or fair value accounting. At September 30, 2023, we had $ 1 million of collateral-dependent loans classified in Level 2, and we recognized $ 2 million of losses from fair value changes related to these loans. At December 31, 2022, we had an insignificant amount of assets or liabilities that had fair value changes measured on a nonrecurring basis. For additional information regarding the measurement of fair value for impaired loans, collateral-dependent loans, and OREO, see Note 3 of our 2022 Form 10-K. Fair Value of Certain Financial Instruments The following schedule presents the carrying values and estimated fair values of certain financial instruments: September 30, 2023 December 31, 2022 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: Held-to-maturity investment securities $ 10,559 $ 10,049 2 $ 11,126 $ 11,239 2 Loans and leases (including loans held for sale), net of allowance 56,253 53,372 3 55,086 53,093 3 Financial liabiliti Time deposits 11,576 11,519 2 2,309 2,269 2 Long-term debt 540 475 2 651 635 2 The previous schedule does not include certain financial instruments that are recorded at fair value on a recurring basis, as well as certain financial assets and liabilities for which the carrying value approximates fair value. For additional information regarding the financial instruments within the scope of this disclosure, and the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2022 Form 10-K. 48 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 4. OFFSETTING ASSETS AND LIABILITIES The following schedules present gross and net information for selected financial instruments on the balance sheet. September 30, 2023 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 1,427 $ — $ 1,427 $ — $ — $ 1,427 Derivatives (included in other assets) 628 — 628 ( 2 ) ( 621 ) 5 Total assets $ 2,055 $ — $ 2,055 $ ( 2 ) $ ( 621 ) $ 1,432 Liabiliti Federal funds and other short-term borrowings $ 4,346 $ — $ 4,346 $ — $ — $ 4,346 Derivatives (included in other liabilities) 512 — 512 ( 2 ) ( 1 ) 509 Total liabilities $ 4,858 $ — $ 4,858 $ ( 2 ) $ ( 1 ) $ 4,855 December 31, 2022 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 2,451 $ ( 25 ) $ 2,426 $ — $ — $ 2,426 Derivatives (included in other assets) 386 — 386 ( 10 ) ( 367 ) 9 Total assets $ 2,837 $ ( 25 ) $ 2,812 $ ( 10 ) $ ( 367 ) $ 2,435 Liabiliti Federal funds and other short-term borrowings $ 10,442 $ ( 25 ) $ 10,417 $ — $ — $ 10,417 Derivatives (included in other liabilities) 451 — 451 ( 10 ) — 441 Total liabilities $ 10,893 $ ( 25 ) $ 10,868 $ ( 10 ) $ — $ 10,858 Security repurchase and reverse repurchase agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 5. INVESTMENTS Investment Securities Investment securities are classified as held-to-maturity (“HTM”), available-for-sale (“AFS”), or trading. HTM securities, which management has the intent and ability to hold until maturity, are measured at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. When a security is transferred from AFS to HTM, the difference between its amortized cost basis and fair value at the date of transfer is amortized as a yield adjustment through interest income, and the fair value at the date of transfer results in either a premium or discount to the amortized cost basis of the HTM securities. The amortization of unrealized losses reported in accumulated other comprehensive income (“AOCI”) will offset the effect of the amortization of the premium or discount in interest income that is created by the transfer. 49 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES AFS securities are measured at fair value, and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to AOCI, net of related taxes. Trading securities are measured at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 60 million and $ 75 million at September 30, 2023 and December 31, 2022, respectively. These receivables are presented on the consolidated balance sheet in “Other assets.” See Notes 3 and 5 of our 2022 Form 10-K for more information regarding our process to estimate the fair value and accounting for our investment securities, respectively. During the fourth quarter of 2022, we transferred approximately $ 10.7 billion fair value ($ 13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category. The transfer of these securities from AFS to HTM at fair value resulted in a discount to the amortized cost basis of the HTM securities equivalent to the $ 2.4 billion ($ 1.8 billion after tax) of unrealized losses in AOCI attributable to these securities. The amortization of the unrealized losses will offset the effect of the accretion of the discount created by the transfer. At September 30, 2023, the unamortized discount on the HTM securities totaled approximately $ 2.2 billion ($ 1.6 billion after tax). The following schedule presents the amortized cost and estimated fair values of our HTM and AFS securiti September 30, 2023 (In millions) Amortized cost Gross unrealized gains 1 Gross unrealized losses Estimated fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 94 $ — $ 8 $ 86 Agency guaranteed mortgage-backed securities 10,106 — 469 9,637 Municipal securities 359 — 33 326 Total held-to-maturity 10,559 — 510 10,049 Available-for-sale U.S. Treasury securities 585 — 125 460 U.S. Government agencies and corporatio Agency securities 692 — 47 645 Agency guaranteed mortgage-backed securities 8,739 — 1,595 7,144 Small Business Administration loan-backed securities 606 — 28 578 Municipal securities 1,431 — 134 1,297 Other debt securities 25 — 1 24 Total available-for-sale 12,078 — 1,930 10,148 Total HTM and AFS investment securities $ 22,637 $ — $ 2,440 $ 20,197 1 Gross unrealized gains for the respective security categories were individually less than $ 1 million. December 31, 2022 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 100 $ — $ 7 $ 93 Agency guaranteed mortgage-backed securities 10,621 165 14 10,772 Municipal securities 405 — 31 374 Total held-to-maturity 11,126 165 52 11,239 Available-for-sale U.S. Treasury securities 557 — 164 393 U.S. Government agencies and corporatio Agency securities 782 — 46 736 Agency guaranteed mortgage-backed securities 9,652 — 1,285 8,367 Small Business Administration loan-backed securities 740 1 29 712 Municipal securities 1,732 1 99 1,634 Other debt securities 75 — 2 73 Total available-for-sale 13,538 2 1,625 11,915 Total HTM and AFS investment securities $ 24,664 $ 167 $ 1,677 $ 23,154 50 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Maturities The following schedule presents the amortized cost and weighted average yields of debt securities by contractual maturity of principal payments at September 30, 2023. This schedule does not reflect the duration of the portfolio, which would incorporate amortization, expected prepayments, interest rate resets, and fair value hedges; the effects of which result in measured durations shorter than contractual maturities. September 30, 2023 Total debt securities Due in one year or less Due after one year through five years Due after five years through ten years Due after ten years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 94 3.54 % $ — — % $ — — % $ — — % $ 94 3.54 % Agency guaranteed mortgage-backed securities 10,106 1.85 — — — — 46 1.95 10,060 1.85 Municipal securities 1 359 3.17 26 2.77 129 2.96 169 3.40 35 3.10 Total held-to-maturity securities 10,559 1.91 26 2.77 129 2.96 215 3.09 10,189 1.87 Available-for-sale U.S. Treasury securities 585 3.28 184 5.31 — — — — 401 2.35 U.S. Government agencies and corporatio Agency securities 692 2.66 111 0.95 184 3.13 210 2.70 187 3.15 Agency guaranteed mortgage-backed securities 8,739 2.01 4 3.09 199 1.57 1,459 2.12 7,077 2.00 Small Business Administration loan-backed securities 606 5.37 1 3.96 28 6.08 141 4.35 436 5.66 Municipal securities 1 1,431 2.18 125 2.50 469 2.61 698 1.84 139 2.10 Other debt securities 25 8.74 — — — — 10 9.50 15 8.23 Total available-for-sale securities 12,078 2.31 425 3.32 880 2.59 2,518 2.24 8,255 2.25 Total HTM and AFS investment securities $ 22,637 2.12 % $ 451 3.29 % $ 1,009 2.64 % $ 2,733 2.31 % $ 18,444 2.04 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis. 51 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents gross unrealized losses for AFS securities and the estimated fair value by length of time the securities have been in an unrealized loss position. September 30, 2023 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ — $ — $ 125 $ 276 $ 125 $ 276 U.S. Government agencies and corporatio Agency securities — 1 47 621 47 622 Agency guaranteed mortgage-backed securities 89 305 1,506 6,779 1,595 7,084 Small Business Administration loan-backed securities — 24 28 490 28 514 Municipal securities 6 229 128 1,050 134 1,279 Other — — 1 14 1 14 Total available-for-sale investment securities $ 95 $ 559 $ 1,835 $ 9,230 $ 1,930 $ 9,789 December 31, 2022 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ 94 $ 308 $ 70 $ 85 $ 164 $ 393 U.S. Government agencies and corporatio Agency securities 39 634 7 102 46 736 Agency guaranteed mortgage-backed securities 447 4,322 838 4,042 1,285 8,364 Small Business Administration loan-backed securities 8 101 21 524 29 625 Municipal securities 63 1,295 36 256 99 1,551 Other 2 13 — — 2 13 Total available-for-sale investment securities $ 653 $ 6,673 $ 972 $ 5,009 $ 1,625 $ 11,682 At September 30, 2023 and December 31, 2022, approximately 3,129 and 3,562 AFS investment securities were in an unrealized loss position, respectively. Impairment On a quarterly basis, we review our investment securities portfolio for the presence of impairment on an individual security basis. For additional information on our policy and impairment evaluation process for investment securities, see Note 5 of our 2022 Form 10-K. AFS Impairment We did not recognize any impairment on our AFS investment securities portfolio during the first nine months of 2023. Unrealized losses primarily relate to changes in interest rates subsequent to purchase and are not attributable to credit; as such, absent any future sales, we would expect to receive the full principal value at maturity. At September 30, 2023, we had not initiated any sales of AFS securities, nor did we have an intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not that we would be required to sell such securities before recovery of their amortized cost basis. HTM Impairment For HTM securities, the allowance for credit losses (“ACL”) is assessed consistent with the approach described in Note 6 for loans and leases measured at amortized cost. At September 30, 2023, the ACL on HTM securities was less than $ 1 million, all HTM securities were risk-graded as “ Pass ” in terms of credit quality, and none were considered past due. 52 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Securities Gains and Losses Recognized in Income The following schedule presents securities gains and losses recognized in the consolidated income statement. Three Months Ended September 30, Nine Months Ended September 30, 2023 2022 2023 2022 (In millions) Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Available-for-sale $ — $ — $ — $ — $ 72 $ 73 $ — $ — Trading 1 1 — — 11 10 — — Other noninterest-bearing investments 6 2 6 — 19 14 10 20 Total gains 7 3 6 — 102 97 10 20 Net gains (losses) 1 $ 4 $ 6 $ 5 $ ( 10 ) 1 Net gains (losses) were recognized in securities gains (losses) in the income statement. The following schedule presents interest income by security type. Three Months Ended September 30, 2023 2022 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 58 $ 1 $ 59 $ 2 $ 1 $ 3 Available-for-sale 76 9 85 115 11 126 Trading — — — — 3 3 Total securities $ 134 $ 10 $ 144 $ 117 $ 15 $ 132 Nine Months Ended September 30, 2023 2022 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 178 $ 3 $ 181 $ 7 $ 3 $ 10 Available-for-sale 214 23 237 320 30 350 Trading — 1 1 — 12 12 Total securities $ 392 $ 27 $ 419 $ 327 $ 45 $ 372 53 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific loan class: (In millions) September 30, 2023 December 31, 2022 Loans held for sale $ 41 $ 8 Commerci Commercial and industrial 1 $ 16,341 $ 16,377 Leasing 373 386 Owner-occupied 9,273 9,371 Municipal 4,221 4,361 Total commercial 30,208 30,495 Commercial real estate: Construction and land development 2,575 2,513 Term 10,565 10,226 Total commercial real estate 13,140 12,739 Consume Home equity credit line 3,313 3,377 1-4 family residential 8,116 7,286 Construction and other consumer real estate 1,510 1,161 Bankcard and other revolving plans 475 471 Other 131 124 Total consumer 13,545 12,419 Total loans and leases $ 56,893 $ 55,653 1 Commercial and industrial loan balances include Paycheck Protection Program (“PPP”) loans of $ 106 million and $ 197 million for the respective periods presented. Loans and leases are measured and presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 34 million and $ 49 million at September 30, 2023 and December 31, 2022, respectively. Amortized cost basis does not include accrued interest receivables of $ 290 million and $ 247 million at September 30, 2023 and December 31, 2022, respectively. These receivables are presented in the consolidated balance sheet within the “ Other assets ” line item. Municipal loans generally include loans to state and local governments (“municipalities”) with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 205 million at September 30, 2023 and $ 262 million at December 31, 2022. Loans with a carrying value of $ 37.2 billion at September 30, 2023 and $ 27.6 billion at December 31, 2022 have been pledged at the Federal Reserve (“FRB”) and the Federal Home Loan Bank (“FHLB”) of Des Moines as collateral for current and potential borrowings. At the time of origination, we determine the classification of loans as either held for investment or held for sale. Loans held for sale are measured at fair value or the lower of cost or fair value and primarily consist of (1) commercial real estate (“CRE”) loans that are sold into securitization entities, and (2) conforming residential mortgages that are generally sold to U.S. government agencies. The following schedule presents loans added to, or sold from, the held for sale category during the periods presented. 54 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2023 2022 2023 2022 Loans added to held for sale $ 183 $ 96 $ 489 $ 583 Loans sold from held for sale 204 112 480 635 Occasionally, we have continuing involvement in the sold loans in the form of servicing rights or guarantees. The principal balance of sold loans for which we retain servicing was $ 3.4 billion and $ 3.5 billion at September 30, 2023 and December 31, 2022, respectively. During the third quarter of 2023, we sold the servicing rights related to $ 3.0 billion of mortgage loans, but retained sub-servicing through October 2023. Income from sold loans, excluding servicing, was $ 8 million and $ 15 million for the three and nine months ended September 30, 2023, and $ 2 million and $ 12 million for the three and nine months ended September 30, 2022, respectively. The increase in income from sold loans during the third quarter of 2023 was primarily due to a $ 4 million gain on the sale of certain mortgage servicing rights. Allowance for Credit Losses The allowance for credit losses (“ACL”), which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. For additional information regarding our policies and methodologies used to estimate the ACL, see Note 6 of our 2022 Form 10-K. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is estimated consistent with the approach for loans measured at amortized cost. See Note 5 of our 2022 Form 10-K for further discussion of our methodology used to estimate the ACL on AFS and HTM debt securities. Changes in the ACL are summarized as follows: Three Months Ended September 30, 2023 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 323 $ 181 $ 147 $ 651 Provision for loan losses 3 44 ( 3 ) 44 Gross loan and lease charge-offs 12 3 5 20 Recoveries 5 — 1 6 Net loan and lease charge-offs (recoveries) 7 3 4 14 Balance at end of period $ 319 $ 222 $ 140 $ 681 Reserve for unfunded lending commitments Balance at beginning of period $ 20 $ 29 $ 11 $ 60 Provision for unfunded lending commitments 1 ( 1 ) ( 3 ) ( 3 ) Balance at end of period $ 21 $ 28 $ 8 $ 57 Total allowance for credit losses at end of period Allowance for loan losses $ 319 $ 222 $ 140 $ 681 Reserve for unfunded lending commitments 21 28 8 57 Total allowance for credit losses $ 340 $ 250 $ 148 $ 738 55 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2023 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at December 31, 2022 $ 300 $ 156 $ 119 $ 575 Adjustment for change in accounting standard — ( 4 ) 1 ( 3 ) Balance at beginning of period $ 300 $ 152 $ 120 $ 572 Provision for loan losses 37 73 26 136 Gross loan and lease charge-offs 35 3 11 49 Recoveries 17 — 5 22 Net loan and lease charge-offs (recoveries) 18 3 6 27 Balance at end of period $ 319 $ 222 $ 140 $ 681 Reserve for unfunded lending commitments Balance at beginning of period $ 16 $ 33 $ 12 $ 61 Provision for unfunded lending commitments 5 ( 5 ) ( 4 ) ( 4 ) Balance at end of period $ 21 $ 28 $ 8 $ 57 Total allowance for credit losses at end of period Allowance for loan losses $ 319 $ 222 $ 140 $ 681 Reserve for unfunded lending commitments 21 28 8 57 Total allowance for credit losses $ 340 $ 250 $ 148 $ 738 Three Months Ended September 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 286 $ 114 $ 108 $ 508 Provision for loan losses 41 17 2 60 Gross loan and lease charge-offs 37 — 1 38 Recoveries 6 — 5 11 Net loan and lease charge-offs (recoveries) 31 — ( 4 ) 27 Balance at end of period $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments Balance at beginning of period $ 13 $ 15 $ 10 $ 38 Provision for unfunded lending commitments 3 7 1 11 Balance at end of period $ 16 $ 22 $ 11 $ 49 Total allowance for credit losses at end of period Allowance for loan losses $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments 16 22 11 49 Total allowance for credit losses $ 312 $ 153 $ 125 $ 590 56 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 311 $ 107 $ 95 $ 513 Provision for loan losses 29 24 17 70 Gross loan and lease charge-offs 65 — 8 73 Recoveries 21 — 10 31 Net loan and lease charge-offs (recoveries) 44 — ( 2 ) 42 Balance at end of period $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments Balance at beginning of period $ 19 $ 11 $ 10 $ 40 Provision for unfunded lending commitments ( 3 ) 11 1 9 Balance at end of period $ 16 $ 22 $ 11 $ 49 Total allowance for credit losses at end of period Allowance for loan losses $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments 16 22 11 49 Total allowance for credit losses $ 312 $ 153 $ 125 $ 590 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement, (2) the loan, if secured, is well-secured, (3) the borrower has paid according to the contractual terms for a minimum of six months, and (4) an analysis of the borrower indicates a reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of nonaccrual loans is summarized as follows: September 30, 2023 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Loans held for sale $ 17 $ — $ 17 $ — Commerci Commercial and industrial $ 9 $ 50 $ 59 $ 16 Owner-occupied 18 9 27 1 Total commercial 27 59 86 17 Commercial real estate: Construction and land development 22 — 22 — Term 30 10 40 3 Total commercial real estate 52 10 62 3 Consume Home equity credit line 1 15 16 7 1-4 family residential 5 30 35 6 Total consumer loans 6 45 51 13 Total $ 85 $ 114 $ 199 $ 33 57 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 8 $ 55 $ 63 $ 27 Owner-occupied 13 11 24 1 Total commercial 21 66 87 28 Commercial real estate: Term — 14 14 2 Total commercial real estate — 14 14 2 Consume Home equity credit line 1 10 11 2 1-4 family residential 9 28 37 3 Total consumer loans 10 38 48 5 Total $ 31 $ 118 $ 149 $ 35 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. When the collectability of the amortized cost basis for a nonaccrual loan is no longer in doubt, then interest payments may be recognized in interest income on a cash basis. For the three and nine months ended September 30, 2023 and 2022, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. The amount of accrued interest receivables reversed from interest income during the periods presented is summarized by loan portfolio segment as follows: Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2023 2022 2023 2022 Commercial $ 2 $ 3 $ 7 $ 11 Commercial real estate 2 1 2 1 Consumer — — 1 — Total $ 4 $ 4 $ 10 $ 12 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as bankcard and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. 58 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Past due loans (accruing and nonaccruing) are summarized as follows: September 30, 2023 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 16,282 $ 45 $ 14 $ 59 $ 16,341 $ 3 $ 40 Leasing 373 — — — 373 — — Owner-occupied 9,254 6 13 19 9,273 11 24 Municipal 4,214 7 — 7 4,221 — — Total commercial 30,123 58 27 85 30,208 14 64 Commercial real estate: Construction and land development 2,568 5 2 7 2,575 — 21 Term 10,521 42 2 44 10,565 1 12 Total commercial real estate 13,089 47 4 51 13,140 1 33 Consume Home equity credit line 3,300 7 6 13 3,313 — 8 1-4 family residential 8,085 11 20 31 8,116 — 12 Construction and other consumer real estate 1,510 — — — 1,510 — — Bankcard and other revolving plans 472 2 1 3 475 1 — Other 130 1 — 1 131 — — Total consumer loans 13,497 21 27 48 13,545 1 20 Total $ 56,709 $ 126 $ 58 $ 184 $ 56,893 $ 16 $ 117 December 31, 2022 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 16,331 $ 24 $ 22 $ 46 $ 16,377 $ 4 $ 45 Leasing 386 — — — 386 — — Owner-occupied 9,344 20 7 27 9,371 1 15 Municipal 4,361 — — — 4,361 — — Total commercial 30,422 44 29 73 30,495 5 60 Commercial real estate: Construction and land development 2,511 2 — 2 2,513 — — Term 10,179 37 10 47 10,226 — 4 Total commercial real estate 12,690 39 10 49 12,739 — 4 Consume Home equity credit line 3,369 5 3 8 3,377 — 6 1-4 family residential 7,258 9 19 28 7,286 — 16 Construction and other consumer real estate 1,161 — — — 1,161 — — Bankcard and other revolving plans 467 3 1 4 471 1 — Other 124 — — — 124 — — Total consumer loans 12,379 17 23 40 12,419 1 22 Total $ 55,491 $ 100 $ 62 $ 162 $ 55,653 $ 6 $ 86 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is not expected. 59 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk-grading systems, which vary based on the size and type of credit risk exposure. The internal risk grades assigned to loans follow our definition of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. • Pass – A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention – A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard – A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful – A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were no loans classified as Doubtful at September 30, 2023 and December 31, 2022. For consumer loans and for CRE loans with commitments greater than $ 1 million, we generally assign internal risk grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The following schedule presents the amortized cost basis of loans and leases categorized by year of origination and by credit quality classification as monitored by management. The schedule also summarizes the current period gross charge-offs by year of origination. 60 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES September 30, 2023 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2023 2022 2021 2020 2019 Prior Total Commerci Commercial and industrial Pass $ 1,955 $ 2,775 $ 1,402 $ 681 $ 552 $ 639 $ 7,727 $ 177 $ 15,908 Special Mention 4 12 13 6 1 47 90 1 174 Accruing Substandard 2 64 7 2 19 8 96 2 200 Nonaccrual 4 5 2 2 11 2 31 2 59 Total commercial and industrial 1,965 2,856 1,424 691 583 696 7,944 182 16,341 Gross charge-offs 1 4 — — — — 7 — 12 Leasing Pass 62 140 52 35 50 32 — — 371 Special Mention — — — — — — — — — Accruing Substandard — 2 — — — — — — 2 Nonaccrual — — — — — — — — — Total leasing 62 142 52 35 50 32 — — 373 Gross charge-offs — — — — — — — — — Owner-occupied Pass 835 2,006 2,031 1,029 738 2,041 199 53 8,932 Special Mention 3 8 60 4 17 14 2 — 108 Accruing Substandard 4 39 41 18 18 81 5 — 206 Nonaccrual 1 — 1 12 3 10 — — 27 Total owner-occupied 843 2,053 2,133 1,063 776 2,146 206 53 9,273 Gross charge-offs — — — — — — — — — Municipal Pass 320 1,067 1,174 657 395 548 4 — 4,165 Special Mention 7 31 — — — — — — 38 Accruing Substandard — 7 6 3 1 1 — — 18 Nonaccrual — — — — — — — — — Total municipal 327 1,105 1,180 660 396 549 4 — 4,221 Gross charge-offs — — — — — — — — — Total commercial 3,197 6,156 4,789 2,449 1,805 3,423 8,154 235 30,208 Total commercial gross charge-offs 1 4 — — — — 7 — 12 Commercial real estate: Construction and land development Pass 431 787 469 171 8 5 465 121 2,457 Special Mention 6 — 52 — — — 11 — 69 Accruing Substandard — 10 — 17 — — — — 27 Nonaccrual — — — — 21 — 1 — 22 Total construction and land development 437 797 521 188 29 5 477 121 2,575 Gross charge-offs — — — — 1 — — — 1 Term Pass 1,303 2,511 1,975 1,569 854 1,569 235 165 10,181 Special Mention 55 56 12 42 46 8 4 — 223 Accruing Substandard 59 18 3 12 5 24 — — 121 Nonaccrual — 26 — — 3 11 — — 40 Total term 1,417 2,611 1,990 1,623 908 1,612 239 165 10,565 Gross charge-offs — 2 — — — — — — 2 Total commercial real estate 1,854 3,408 2,511 1,811 937 1,617 716 286 13,140 Total commercial real estate gross charge-offs — 2 — — 1 — — — 3 61 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES September 30, 2023 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2023 2022 2021 2020 2019 Prior Total Consume Home equity credit line Pass — — — — — — 3,195 97 3,292 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 5 — 5 Nonaccrual — — — — — — 14 2 16 Total home equity credit line — — — — — — 3,214 99 3,313 Gross charge-offs — — — — — — 3 — 3 1-4 family residential Pass 722 2,083 1,719 1,002 605 1,948 — — 8,079 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — 2 2 3 3 25 — — 35 Total 1-4 family residential 722 2,085 1,721 1,005 608 1,975 — — 8,116 Gross charge-offs — — — — — — — — — Construction and other consumer real estate Pass 140 1,016 314 22 10 7 — — 1,509 Special Mention — — — — — — — — — Accruing Substandard — — — — — 1 — — 1 Nonaccrual — — — — — — — — — Total construction and other consumer real estate 140 1,016 314 22 10 8 — — 1,510 Gross charge-offs — — — — — — — — — Bankcard and other revolving plans Pass — — — — — — 471 2 473 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 473 2 475 Gross charge-offs — — — — — — 2 — 2 Other consumer Pass 54 42 20 7 5 3 — — 131 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 54 42 20 7 5 3 — — 131 Gross charge-offs — — — — — — — — — Total consumer 916 3,143 2,055 1,034 623 1,986 3,687 101 13,545 Total consumer gross charge-offs — — — — — — 5 — 5 Total loans $ 5,967 $ 12,707 $ 9,355 $ 5,294 $ 3,365 $ 7,026 $ 12,557 $ 622 $ 56,893 Total gross charge-offs $ 1 $ 6 $ — $ — $ 1 $ — $ 12 $ — $ 20 62 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total Commerci Commercial and industrial Pass $ 3,363 $ 1,874 $ 979 $ 876 $ 293 $ 264 $ 8,054 $ 182 $ 15,885 Special Mention 1 2 10 52 1 2 50 — 118 Accruing Substandard 26 7 17 78 30 67 84 2 311 Nonaccrual — 8 5 11 1 2 32 4 63 Total commercial and industrial 3,390 1,891 1,011 1,017 325 335 8,220 188 16,377 Leasing Pass 160 71 47 66 18 19 — — 381 Special Mention — — — — — — — — — Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 160 71 47 66 18 24 — — 386 Owner-occupied Pass 2,157 2,285 1,143 874 654 1,679 187 74 9,053 Special Mention 1 15 5 8 3 16 1 — 49 Accruing Substandard 16 33 48 20 55 64 9 — 245 Nonaccrual 1 1 2 4 5 10 1 — 24 Total owner-occupied 2,175 2,334 1,198 906 717 1,769 198 74 9,371 Municipal Pass 1,230 1,220 816 441 168 437 8 — 4,320 Special Mention 32 6 — — — — — — 38 Accruing Substandard — — — — — 3 — — 3 Nonaccrual — — — — — — — — — Total municipal 1,262 1,226 816 441 168 440 8 — 4,361 Total commercial 6,987 5,522 3,072 2,430 1,228 2,568 8,426 262 30,495 Commercial real estate: Construction and land development Pass 548 671 455 81 2 2 617 96 2,472 Special Mention 1 1 — — — — — — 2 Accruing Substandard 17 — — 22 — — — — 39 Nonaccrual — — — — — — — — — Total construction and land development 566 672 455 103 2 2 617 96 2,513 Term Pass 2,861 2,107 1,686 1,012 666 1,229 276 112 9,949 Special Mention 39 21 11 — 4 1 — — 76 Accruing Substandard 42 2 34 21 53 35 — — 187 Nonaccrual — — — 4 1 9 — — 14 Total term 2,942 2,130 1,731 1,037 724 1,274 276 112 10,226 Total commercial real estate 3,508 2,802 2,186 1,140 726 1,276 893 208 12,739 63 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total Consume Home equity credit line Pass — — — — — — 3,265 98 3,363 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 3 — 3 Nonaccrual — — — — — — 8 3 11 Total home equity credit line — — — — — — 3,276 101 3,377 1-4 family residential Pass 1,913 1,503 1,024 638 381 1,788 — — 7,247 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — 2 2 4 3 26 — — 37 Total 1-4 family residential 1,913 1,505 1,026 642 384 1,816 — — 7,286 Construction and other consumer real estate Pass 583 485 64 19 5 5 — — 1,161 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 583 485 64 19 5 5 — — 1,161 Bankcard and other revolving plans Pass — — — — — — 468 2 470 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 469 2 471 Other consumer Pass 68 30 12 8 4 2 — — 124 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 68 30 12 8 4 2 — — 124 Total consumer 2,564 2,020 1,102 669 393 1,823 3,745 103 12,419 Total loans $ 13,059 $ 10,344 $ 6,360 $ 4,239 $ 2,347 $ 5,667 $ 13,064 $ 573 $ 55,653 Loan Modifications On January 1, 2023, we adopted ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures, which eliminated the recognition and measurement of troubled debt restructurings (“TDRs”) and their related disclosures. As a result, we no longer separately measure an allowance for credit losses for TDRs, relying instead on our credit loss estimation models. The adoption of this guidance did not have a material impact on our financial statements. ASU 2022-02 requires enhanced disclosures for loan modifications to borrowers experiencing financial difficulty. Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. For loans that have been modified with a borrower experiencing financial difficulty, we use the same credit loss estimation methods that we use for the 64 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES rest of the loan portfolio. These methods incorporate the post-modification loan terms, as well as defaults and charge-offs associated with historical modified loans. All nonaccruing loans more than $1 million are evaluated individually, regardless of modification. We consider many factors in determining whether to agree to a loan modification and we seek a solution that will both minimize potential loss to us and attempt to help the borrower. We evaluate borrowers’ current and forecasted future cash flows, their ability and willingness to make current contractual or proposed modified payments, the value of the underlying collateral (if applicable), the possibility of obtaining additional security or guarantees, and the potential costs related to a repossession or foreclosure and the subsequent sale of the collateral. A modified loan on nonaccrual will generally remain on nonaccrual until the borrower has proven the ability to perform under the modified structure for a minimum of six months, and there is evidence that such payments can and are likely to continue as agreed. Performance prior to the modification, or significant events that coincide with the modification, are included in assessing whether the borrower can meet the new terms and may result in the loan being returned to accrual at the time of modification or after a shorter performance period. If the borrower’s ability to meet the revised payment schedule is uncertain, the loan remains on nonaccrual. There were less than $ 1 million of loans to borrowers experiencing financial difficulty that had a payment default during the three and nine months ended September 30, 2023, which were still in default at period end, and were within 12 months or less of being modified. The amortized cost of loans to borrowers experiencing financial difficulty that were modified during the period, by loan class and modification type, is summarized in the following schedu Three Months Ended September 30, 2023 Amortized cost associated with the following modification typ Interest rate reduction Maturity or term extension Principal forgiveness Payment deferral Multiple modification types 1 Total 2 Percentage of total loans 3 Commerci Commercial and industrial $ — $ 35 $ — $ 1 $ — $ 36 0.2 % Owner-occupied — 3 — — — 3 — Total commercial — 38 — 1 — 39 0.1 Commercial real estate: Construction and land development — — — — — — — Term — 83 — — — 83 0.8 Total commercial real estate — 83 — — — 83 0.6 Consume 1-4 family residential — — — — 1 1 — Bankcard and other revolving plans — — — — — — — Total consumer loans — — — — 1 1 — Total $ — $ 121 $ — $ 1 $ 1 $ 123 0.2 % 65 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2023 Amortized cost associated with the following modification typ (Dollar amounts in millions) Interest rate reduction Maturity or term extension Principal forgiveness Payment deferral Multiple modification types 1 Total 2 Percentage of total loans 3 Commerci Commercial and industrial $ — $ 63 $ — $ 1 $ — $ 64 0.4 % Owner-occupied 4 8 — — — 12 0.1 Total commercial 4 71 — 1 — 76 0.3 Commercial real estate: Construction and land development — 23 — — — 23 0.9 Term — 141 — — — 141 1.3 Total commercial real estate — 164 — — — 164 1.2 Consume 1-4 family residential — — 1 — 1 2 — Bankcard and other revolving plans — 1 — — — 1 0.2 Total consumer loans — 1 1 — 1 3 — Total $ 4 $ 236 $ 1 $ 1 $ 1 $ 243 0.4 % 1 Includes modifications that resulted from a combination of interest rate reduction, maturity or term extension, principal forgiveness, and payment deferral modifications. 2 Unfunded lending commitments related to loans modified to borrowers experiencing financial difficulty totaled $ 10 million at September 30, 2023. 3 Amounts less than 0.05% are rounded to zero. The financial impact of loan modifications to borrowers experiencing financial difficulty during the three and nine months ended September 30, 2023, is summarized in the following schedu Three Months Ended September 30, 2023 Nine Months Ended September 30, 2023 Weighted-average term extension (in months) Weighted-average interest rate reduction (in percentage points) Weighted-average term extension (in months) Commerci Commercial and industrial 16 — % 12 Owner-occupied 2 4.4 13 Total commercial 14 4.4 12 Commercial real estate: Construction and land development 0 — 5 Term 21 — 17 Total commercial real estate 21 — 16 Consume 1 1-4 family residential 217 — 153 Bankcard and other revolving plans 0 — 63 Total consumer loans 217 — 117 Total weighted average financial impact 19 4.4 % 16 1 Primarily relates to a small number of loans within each consumer loan class. 66 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Loan modifications to borrowers experiencing financial difficulty during the three and nine months ended September 30, 2023, resulted in less than $ 1 million of principal forgiveness for the total loan portfolio for both periods. The following schedule presents the aging of loans to borrowers experiencing financial difficulty that were modified on or after January 1, 2023 (the date we adopted ASU 2022-02) through September 30, 2023, presented by portfolio segment and loan class. September 30, 2023 (In millions) Current 30-89 days past due 90+ days past due Total past due Total amortized cost of loans Commerci Commercial and industrial $ 64 $ — $ — $ — $ 64 Owner-occupied 9 3 — 3 12 Total commercial 73 3 — 3 76 Commercial real estate: Construction and land development 23 — — — 23 Term 128 13 — 13 141 Total commercial real estate 151 13 — 13 164 Consume 1-4 family residential 2 — — — 2 Bankcard and other revolving plans 1 — — — 1 Total consumer loans 3 — — — 3 Total $ 227 $ 16 $ — $ 16 $ 243 Troubled Debt Restructuring Disclosures Prior to Our Adoption of ASU 2022-02 Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are considered TDRs. For further discussion of our policies and processes regarding TDRs, see Note 6 of our 2022 Form 10-K. 67 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Information on TDRs, including the amortized cost on an accruing and nonaccruing basis by loan class and modification type is summarized in the following schedul December 31, 2022 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 1 $ 12 $ — $ — $ 9 $ 28 $ 50 Owner-occupied — 1 — 2 13 12 28 Municipal — — — — — — — Total commercial 1 13 — 2 22 40 78 Commercial real estate: Construction and land development — — — — — 8 8 Term 1 27 — 27 28 1 84 Total commercial real estate 1 27 — 27 28 9 92 Consume Home equity credit line — 1 4 — — 1 6 1-4 family residential 2 1 2 — 1 15 21 Total consumer loans 2 2 6 — 1 16 27 Total accruing 4 42 6 29 51 65 197 Nonaccruing Commerci Commercial and industrial — — — 3 9 3 15 Owner-occupied 4 — — — — 4 8 Total commercial 4 — — 3 9 7 23 Commercial real estate: Term — 10 — — — — 10 Total commercial real estate — 10 — — — — 10 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 1 2 4 Total consumer loans — 1 1 — 1 2 5 Total nonaccruing 4 11 1 3 10 9 38 Total $ 8 $ 53 $ 7 $ 32 $ 61 $ 74 $ 235 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. Unfunded lending commitments related to TDRs totaled $ 7 million at December 31, 2022. The total amortized cost of all TDRs in which interest rates were modified below market was $ 63 million at December 31, 2022. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the year ended December 31, 2022 was not significant. On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. 68 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amortized cost of TDRs that had a payment default during the year ended December 31, 2022, which were still in default at period end, and were within 12 months or less of being modified as TDRs was approximately $ 10 million. Collateral-Dependent Loans When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on (1) the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, (2) the observable market price of the loan, or (3) the fair value of the loan’s underlying collateral. Select information on loans for which the borrower is experiencing financial difficulties and repayment is expected to be provided substantially through the operation or sale of the underlying collateral, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: September 30, 2023 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 3 Accounts receivable, Inventory 25 % Owner-occupied 12 Hospital 29 % Total commercial 15 Commercial real estate: Construction and land development 1 Land 56 % Term 4 Hotel, Office building 57 % Total commercial real estate 5 Total $ 20 December 31, 2022 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Owner-occupied $ 2 Land, Warehouse 29 % Commercial real estate: Term 1 Multi-family 55 % Consume Home equity credit line 1 Single family residential 13 % 1-4 family residential 3 Single family residential 41 % Total $ 7 1 The fair value is based on the most recent appraisal or other collateral evaluation . Foreclosed Residential Real Estate At September 30, 2023 and December 31, 2022, we did no t have any foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that were in the process of foreclosure was $ 11 million and $ 10 million for the same periods, respectively. 69 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives and Accounting Our primary objective for using derivatives is to manage interest rate risk. We use derivatives to stabilize forecasted interest income from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities. We also assist clients with their risk management needs through the use of derivatives. Cash receipts and payments from derivatives designated in qualifying hedging relationships are classified in the same category as the cash flows from the items being hedged in the statement of cash flows, and cash flows from undesignated derivatives are classified as operating activities. For a more detailed discussion of the use of and accounting policies regarding derivative instruments, see Note 7 of our 2022 Form 10-K. Fair Value Hedges of Liabilities – During the second quarter of 2023, we terminated our remaining receive-fixed interest rate swap with a notional amount of $ 500 million that had been designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converted the interest on our fixed-rate debt to floating until it was terminated. Prior to termination, changes in the fair value of derivatives designated as fair value hedges of debt were offset by changes in the fair value of the hedged debt instruments as shown in the schedules on the following pages. The unamortized hedge basis adjustments resulting from the terminated hedging relationship will be amortized over the remaining life of the fixed-rate debt. Fair Value Hedges of Assets – During the third quarter of 2023, we entered into new hedges of a defined portfolio of fixed-rate commercial loans using pay-fixed, receive-floating swaps with an aggregate notional amount of $ 1.0 billion that were designated as fair value hedges under the portfolio layer method described in ASU 2022-01, Derivatives and Hedging (Topic 815): Fair Value Hedging—Portfolio Layer Method . At September 30, 2023, we also had pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 1.1 billion designated as fair value hedges of specifically identified AFS securities. Fair value hedges of fixed-rate assets effectively convert the fixed interest income to a floating rate on the hedged portion of the assets. Changes in fair value of derivatives designated as fair value hedges of fixed-rate financial assets were largely offset by changes in the value of the hedged assets, as shown in the schedules on the following pages. We had an additional $ 2.5 billion in aggregate notional amount of pay-fixed swaps designated under the portfolio layer method as fair value hedges of a defined portfolio of fixed-rate AFS securities. Cash Flow Hedges – At September 30, 2023, we had receive-fixed interest rate swaps with an aggregate notional amount of $ 2.6 billion designated as cash flow hedges of pools of floating-rate commercial loans. At September 30, 2023, there was $ 201 million of losses deferred in AOCI related to terminated cash flow hedges that are expected to be fully amortized by October 2027. Additionally, at September 30, 2023, we had one pay-fixed interest rate swap with a notional amount of $ 500 million designated as a cash flow hedge of the variability in the interest payments on certain FHLB advances. Changes in the fair value of qualifying cash flow hedges during the quarter were recorded in AOCI as shown in the schedule below. The amounts deferred in AOCI are reclassified into earnings in the periods in which the hedged interest receipts or payments occur (i.e., when the hedged forecasted transactions affect earnings). Collateral and Credit Risk Exposure to credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred as a result of counterparty nonperformance. For more information on how we incorporate counterparty credit risk in derivative valuations, see Note 3 of our 2022 Form 10-K. For additional discussion of collateral and the associated credit risk related to our derivative contracts, see Note 7 of our 2022 Form 10-K. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position at a given balance sheet date. Certain of these derivative contracts contain credit risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit risk-related feature were triggered, such as a downgrade of our credit rating. In past situations, counterparties 70 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES have not generally demanded that additional collateral be pledged when provided for by the contractual terms. At September 30, 2023, the fair value of our derivative liabilities was $ 512 million, for which we were required to pledge cash collateral of $ 1 million in the normal course of business. If our credit rating were downgraded one notch by either Standard & Poor’s (“S&P”) or Moody’s at September 30, 2023, there would likely be no additional collateral required to be pledged. Derivative Amounts The following schedule presents information regarding notional amounts and recorded gross fair values at September 30, 2023 and December 31, 2022, and the related gain (loss) of derivative instruments. September 30, 2023 December 31, 2022 Notional amount 1 Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Receive-fixed interest rate swaps $ 2,550 $ — $ — $ 7,633 $ — $ 1 Cash flow hedges of floating-rate liabiliti Pay-fixed interest rate swaps 500 — — — — — Fair value hed Debt hed Receive-fixed interest rate swaps — — — 500 — — Asset hed Pay-fixed interest rate swaps 4,571 108 — 1,228 84 — Total derivatives designated as hedging instruments 7,621 108 — 9,361 84 1 Derivatives not designated as hedging instruments: Customer interest rate derivatives 1 13,835 515 510 13,670 296 443 Other interest rate derivatives 985 2 — 862 — — Foreign exchange derivatives 234 3 2 605 6 7 Purchased credit derivatives — — — — — — Total derivatives not designated as hedging instruments 15,054 520 512 15,137 302 450 Total derivatives $ 22,675 $ 628 $ 512 $ 24,498 $ 386 $ 451 1 Customer interest rate derivatives include both customer-facing derivative as well as offsetting derivatives facing other dealer banks. The fair value of these derivatives include a net credit valuation adjustment (“CVA”) of $ 17 million, reducing the fair value of the liability at September 30, 2023, and $ 13 million, reducing the fair value of the liability at December 31, 2022. The amount of derivative gains (losses) from cash flow and fair value hedges that were deferred in other comprehensive income (“OCI”) or recognized in earnings for the three and nine months ended September 30, 2023 and 2022 is presented in the schedules below. Three Months Ended September 30, 2023 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness/AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — $ — Received-fixed interest rate swaps 7 ( 41 ) — — Cash flow hedges of floating-rate liabiliti Pay-fixed interest rate swaps ( 3 ) 2 — — Fair value hed — Debt hed Receive-fixed interest rate swaps — — — — Basis amortization on terminated hedges 2 — — ( 2 ) — Asset hed Pay-fixed interest rate swaps — — 20 ( 1 ) Basis amortization on terminated asset hedges 3 — — — — Total derivatives designated as hedging instruments $ 4 $ ( 39 ) $ 18 $ ( 1 ) 71 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2023 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness/AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — $ — Received-fixed interest rate swaps 24 ( 131 ) — — Cash flow hedges of floating-rate liabiliti Pay-fixed interest rate swaps 8 3 — — Fair value hed Debt hed Receive-fixed interest rate swaps — — ( 5 ) — Basis amortization on terminated debt hedges 2 — — ( 3 ) — Asset hed Pay-fixed interest rate swaps — — 36 ( 1 ) Basis amortization on terminated asset hedges 3 — — — — Total derivatives designated as hedging instruments $ 32 $ ( 128 ) $ 28 $ ( 1 ) Three Months Ended September 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness/AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — $ — Interest rate swaps ( 183 ) ( 11 ) — — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — ( 1 ) — Basis amortization on terminated hedges 2 — — — — Fair value hedges of assets: Pay-fixed interest rate swaps — — 1 — Basis amortization on terminated hedges 2 — — — — Total derivatives designated as hedging instruments $ ( 183 ) $ ( 11 ) $ — $ — Nine Months Ended September 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness/AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 2 $ — $ — Interest rate swaps ( 427 ) 7 — $ — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 2 — Basis amortization on terminated hedges 2, 3 — — 1 — Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) $ — Basis amortization on terminated hedges 2, 3 — — — $ — Total derivatives designated as hedging instruments $ ( 427 ) $ 9 $ 2 $ — 1 For the 12 months following September 30, 2023, we estimate that $ 133 million of losses will be reclassified from AOCI into interest income, compared with an estimate of $ 173 million of losses at September 30, 2022. 2 At September 30, 2023, the total cumulative unamortized basis adjustment for terminated fair value hedges of debt was $ 48 million. We did no t have any cumulative unamortized basis adjustment for terminated hedges of debt at September 30, 2022. We had $ 3 million and $ 10 million of cumulative unamortized basis adjustments from terminated fair value hedges of assets at September 30, 2023 and 2022, respectively. 72 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) Three Months Ended September 30, 2023 Nine Months Ended September 30, 2023 Three Months Ended September 30, 2022 Nine Months Ended September 30, 2022 Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives $ 11 $ 22 $ 11 $ 42 Other interest rate derivatives 1 4 — — Foreign exchange derivatives 8 22 8 21 Purchased credit derivatives — ( 1 ) — — Total derivatives not designated as hedging instruments $ 20 $ 47 $ 19 $ 63 The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Three Months Ended September 30, 2023 Three Months Ended September 30, 2022 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ — $ — $ — $ ( 25 ) $ 25 $ — Assets: Pay-fixed interest rate swaps 1, 2 144 ( 145 ) ( 1 ) 67 ( 67 ) — Gain/(loss) recorded in income Nine Months Ended September 30, 2023 Nine Months Ended September 30, 2022 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ 14 $ ( 14 ) $ — $ ( 75 ) $ 75 $ — Assets: Pay-fixed interest rate swaps 1, 2 171 ( 172 ) ( 1 ) 217 ( 217 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt, fixed-rate AFS securities, and fixed-rate commercial loans. Gains and losses were recorded in net interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) 1 Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged item (In millions) September 30, 2023 December 31, 2022 September 30, 2023 December 31, 2022 September 30, 2023 December 31, 2022 Long-term fixed-rate debt 2 $ — $ ( 500 ) $ — $ ( 435 ) $ — $ 65 Fixed-rate assets 3 12,550 1,228 12,176 962 ( 374 ) ( 266 ) 1 Carrying amounts exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 2 We terminated the remaining fair value hedge of debt during the second quarter of 2023. The remaining hedge basis adjustments will be amortized over the life of the associated debt. 3 These amounts include the amortized cost basis of defined portfolios of AFS securities and commercial loans used to designate hedging relationships in which the hedged item is the stated amount of assets in the defined portfolio anticipated to be outstanding for the designated hedged period. At September 30, 2023, the amortized cost basis of the defined portfolios used in these hedging relationships was $ 11.5 billion; the cumulative basis adjustment associated with these hedging relationships was $ 103.9 million; and the notional amounts of the designated hedging instruments were $ 3.5 billion. 73 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 8 . LEASES We have operating and finance leases for branches, corporate offices, and data centers. At September 30, 2023, we had 409 branches, of which 277 are owned and 132 are leased. We lease our headquarters in Salt Lake City, Utah. The remaining maturities of our lease commitments range from the year 2023 to 2062 , and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “ Other assets ,” and “ Premises, equipment and software, net ,” respectively. The corresponding liabilities for those leases are presented in “ Other liabilities ,” and “ Long-term debt .” For more information about our lease policies, see Note 8 of our 2022 Form 10-K. The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate. (Dollar amounts in millions) September 30, 2023 December 31, 2022 Operating leases ROU assets, net of amortization $ 170 $ 173 Lease liabilities 197 198 Finance leases ROU assets, net of amortization 3 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.4 8.4 Finance leases 16.7 17.4 Weighted average discount rate Operating leases 3.2 % 2.9 % Finance leases 3.1 % 3.1 % Additional information related to lease expense is presented in the following schedule. Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2023 2022 2023 2022 Lease expense: Operating lease expense $ 11 $ 11 $ 32 $ 35 Other expenses associated with operating leases 1 16 13 46 38 Total lease expense $ 27 $ 24 $ 78 $ 73 Related cash disbursements from operating leases $ 11 $ 12 $ 36 $ 37 1 Other expenses primarily include property taxes and building and property maintenance. The following schedule presents the total contractual undiscounted lease payments for operating lease liabilities by expected due date for each of the next five years. (In millions) Total undiscounted lease payments 2023 1 $ 12 2024 43 2025 34 2026 29 2027 21 Thereafter 91 Total $ 230 1 Contractual maturities for the three months remaining in 2023. 74 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 3 million for both the third quarter of 2023 and 2022, and $ 11 million and $ 10 million for the first nine months of 2023 and 2022, respectively. We originated equipment leases, considered to be sales-type leases or direct financing leases, totaling $ 374 million and $ 386 million at September 30, 2023 and December 31, 2022, respectively. We recorded income of $ 4 million a nd $ 3 million on these leases for the third quarter of 2023 and 2022, respectively, and $ 12 million and $ 9 million for the first nine months of 2023 and 2022, respectively. 9. LONG-TERM DEBT AND SHAREHOLDERS’ EQUITY Long-Term Debt The long-term debt carrying values presented in the consolidated balance sheet represent the par value of the debt, adjusted for any unamortized premium or discount, unamortized debt issuance costs, and basis adjustments for interest rate swaps designated as fair value hedges. The following schedule presents the components of our long-term debt. LONG-TERM DEBT (In millions) September 30, 2023 December 31, 2022 Subordinated notes 1 $ 536 $ 519 Senior notes — 128 Finance lease obligations 4 4 Total $ 540 $ 651 1 The change in the subordinated notes balance is primarily due to a fair value hedge accounting adjustment. See also Note 7. The decrease in long-term debt was primarily due to the redemption of $ 128 million, 4.50 % matured senior notes during the second quarter of 2023. Shareholders' Equity Our common stock is traded on the National Association of Securities Dealers Automated Quotations (“NASDAQ”) Global Select Market. At September 30, 2023, there were 148.1 million shares of $ 0.001 par value common stock outstanding. Common stock and additional paid-in capital decreased $ 28 million, or 2 %, to $ 1.7 billion at September 30, 2023, from December 31, 2022, primarily due to common stock repurchases during the first quarter of 2023. As the macroeconomic environment remained uncertain, we did not repurchase common shares during the second or third quarters of 2023, nor do we expect to repurchase common shares during the fourth quarter of 2023. AOCI was a $ 3.0 billion loss at September 30, 2023. The following schedule presents the changes in AOCI by major component. 75 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) Net unrealized gains/(losses) on investment securities Net unrealized gains/(losses) on derivatives and other Pension and post-retirement Total Nine Months Ended September 30, 2023 Balance at December 31, 2022 $ ( 2,800 ) $ ( 311 ) $ ( 1 ) $ ( 3,112 ) OCI (loss) before reclassifications, net of tax 1 ( 11 ) 16 — 5 Amounts reclassified from AOCI, net of tax — 99 — 99 Other comprehensive income (loss) ( 11 ) 115 — 104 Balance at September 30, 2023 $ ( 2,811 ) $ ( 196 ) $ ( 1 ) $ ( 3,008 ) Income tax expense (benefit) included in OCI (loss) $ ( 4 ) $ 38 $ — $ 34 Nine Months Ended September 30, 2022 Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) OCI (loss) before reclassifications, net of tax ( 2,729 ) ( 324 ) — ( 3,053 ) Amounts reclassified from AOCI, net of tax — ( 7 ) — ( 7 ) Other comprehensive loss ( 2,729 ) ( 331 ) — ( 3,060 ) Balance at September 30, 2022 $ ( 2,807 ) $ ( 331 ) $ ( 2 ) $ ( 3,140 ) Income tax benefit included in OCI (loss) $ ( 884 ) $ ( 107 ) $ — $ ( 991 ) 1 For the nine months ended September 30, 2023, the amounts include $ 169 million related to the decline in the fair value of fixed-rate AFS securities as a result of higher interest rates, offset by $ 158 million in unrealized loss amortization associated with the securities transferred from AFS to HTM during the fourth quarter of 2022, respectively. Amounts reclassified from AOCI 1 Statement of income (SI) (In millions) Three Months Ended September 30, Nine Months Ended September 30, Details about AOCI components 2023 2022 2023 2022 Affected line item Net unrealized gains (losses) on derivative instruments $ ( 42 ) $ ( 11 ) $ ( 131 ) $ 9 SI Interest and fees on loans L Income tax expense (benefit) ( 10 ) ( 3 ) ( 32 ) 2 Amounts reclassified from AOCI $ ( 32 ) $ ( 8 ) $ ( 99 ) $ 7 1 Positive reclassification amounts indicate increases to earnings in the income statement. 10. COMMITMENTS, GUARANTEES, AND CONTINGENT LIABILITIES Commitments and Guarantees The following schedule presents the contractual amounts related to off-balance sheet financial instruments used to meet the financing needs of our customers. (In millions) September 30, 2023 December 31, 2022 Unfunded lending commitments 1 $ 29,693 $ 29,628 Standby letters of cr Financial 549 667 Performance 180 184 Commercial letters of credit 20 11 Mortgage-backed security purchase agreements 2 59 23 Total unfunded commitments $ 30,501 $ 30,513 1 Net of participations. 2 Represents agreements with Farmer Mac to purchase securities backed by certain agricultural mortgage loans. For more information about these commitments and guarantees including their terms and collateral requirements, see Note 16 of our 2022 Form 10-K. 76 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Legal Matters We are involved in various legal proceedings or governmental inquiries, which may include litigation in court and arbitral proceedings, as well as investigations, examinations, and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations, and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. At September 30, 2023, we were subject to the following material litigati • Two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the Bank who filed for bankruptcy protection in 2017. The cases are in discovery phases. Trial has not been scheduled in either case. • Sipple v. Zions Bancorporation, N.A., brought against us in the District Court of Clark County, Nevada in February 2021 with respect to foreign transaction fees. This case is in the discovery phase and trial has been scheduled for late spring 2024. At least quarterly, we review outstanding and new legal matters, utilizing then available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at September 30, 2023, we estimated that the aggregate range of reasonably possible losses for those matters to be from zero to approximately $ 5 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant 77 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments and actual outcomes will differ from our estimates. These differences may be material. 11. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which represented approximately 82 % of our total revenue in the third quarter of 2023. Only noninterest income is considered to be revenue from contracts with customers in scope of ASC 606. For more information about our revenue recognition from contracts, see Note 17 of our 2022 Form 10-K. 78 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Disaggregation of Revenue The schedule below presents net revenue by our operating business segments for the three months ended September 30, 2023 and 2022. Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 14 $ 13 $ 8 $ 7 $ 14 $ 12 Card fees 13 14 5 5 8 8 Retail and business banking fees 5 5 3 3 3 4 Capital markets fees — — — — — — Wealth management fees 7 5 1 1 4 4 Other customer-related fees 2 2 2 2 2 2 Total noninterest income from contracts with customers (ASC 606) 41 39 19 18 31 30 Other noninterest income (non-ASC 606 customer-related) 6 4 7 9 12 11 Total customer-related noninterest income 47 43 26 27 43 41 Other noncustomer-related noninterest income 2 1 2 1 3 — Total noninterest income 49 44 28 28 46 41 Net interest income 167 197 143 154 107 137 Total net revenue $ 216 $ 241 $ 171 $ 182 $ 153 $ 178 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 2 $ 2 $ 3 $ 3 $ 2 $ 2 Card fees 4 4 4 4 3 2 Retail and business banking fees 2 2 3 3 1 1 Capital markets fees — — — — — — Wealth management fees 1 1 1 1 — — Other customer-related fees — — — — 1 1 Total noninterest income from contracts with customers (ASC 606) 9 9 11 11 7 6 Other noninterest income (non-ASC 606 customer-related) 1 2 1 1 1 2 Total customer-related noninterest income 10 11 12 12 8 8 Other noncustomer-related noninterest income — 1 — — — — Total noninterest income 10 12 12 12 8 8 Net interest income 66 64 46 50 36 41 Total net revenue $ 76 $ 76 $ 58 $ 62 $ 44 $ 49 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 1 $ 1 $ ( 1 ) $ — $ 43 $ 40 Card fees 1 — ( 1 ) 1 37 38 Retail and business banking fees — — — ( 1 ) 17 17 Capital markets fees — — 1 1 1 1 Wealth management fees — — — — 14 12 Other customer-related fees — — 7 8 14 15 Total noninterest income from contracts with customers (ASC 606) 2 1 6 9 126 123 Other noninterest income (non-ASC 606 customer-related) — 1 3 3 31 33 Total customer-related noninterest income 2 2 9 12 157 156 Other noncustomer-related noninterest income — — 16 6 23 9 Total noninterest income 2 2 25 18 180 165 Net interest income 15 17 5 3 585 663 Total net revenue $ 17 $ 19 $ 30 $ 21 $ 765 $ 828 79 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The schedule below presents net revenue by our operating business segments for the nine months ended September 30, 2023 and 2022. Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 42 $ 40 $ 24 $ 21 $ 42 $ 33 Card fees 39 41 15 15 24 24 Retail and business banking fees 14 17 8 10 10 12 Capital markets fees — — — — — — Wealth management fees 19 17 3 3 13 12 Other customer-related fees 6 6 6 4 5 5 Total noninterest income from contracts with customers (ASC 606) 120 121 56 53 94 86 Other noninterest income (non-ASC 606 customer-related) 19 15 26 23 29 33 Total customer-related noninterest income 139 136 82 76 123 119 Other noncustomer-related noninterest income 9 3 5 3 20 — Total noninterest income 148 139 87 79 143 119 Net interest income 530 523 454 425 346 369 Total net revenue $ 678 $ 662 $ 541 $ 504 $ 489 $ 488 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 7 $ 7 $ 9 $ 8 $ 5 $ 6 Card fees 11 11 12 11 7 7 Retail and business banking fees 6 7 7 8 3 3 Capital markets fees — — — — — — Wealth management fees 3 2 4 4 1 1 Other customer-related fees 1 1 1 1 3 2 Total noninterest income from contracts with customers (ASC 606) 28 28 33 32 19 19 Other noninterest income (non-ASC 606 customer-related) 2 4 1 5 2 5 Total customer-related noninterest income 30 32 34 37 21 24 Other noncustomer-related noninterest income 1 2 — — — — Total noninterest income 31 34 34 37 21 24 Net interest income 194 170 145 126 115 109 Total net revenue $ 225 $ 204 $ 179 $ 163 $ 136 $ 133 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 2 $ 1 $ — $ 2 $ 131 $ 118 Card fees 1 1 1 — 110 110 Retail and business banking fees — — 1 ( 1 ) 49 56 Capital markets fees — — 2 3 2 3 Wealth management fees — — ( 2 ) — 41 39 Other customer-related fees 1 1 22 25 45 45 Total noninterest income from contracts with customers (ASC 606) 4 3 24 29 378 371 Other noninterest income (non-ASC 606 customer-related) 1 2 12 3 92 90 Total customer-related noninterest income 5 5 36 32 470 461 Other noncustomer-related noninterest income — — 24 10 59 18 Total noninterest income 5 5 60 42 529 479 Net interest income 46 46 25 32 1,855 1,800 Total net revenue $ 51 $ 51 $ 85 $ 74 $ 2,384 $ 2,279 80 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is generally not significant. 12. INCOME TAXES The effective income tax rate was 23.2 % for the third quarter of 2023, compared with 21.9 % for the third quarter of 2022. The effective tax rates for the first nine months of 2023 and 2022 were 24.7 % and 21.4 %, respectively. The tax rates during both periods were reduced by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the non-deductibility of Federal Deposit Insurance Corporation (“FDIC”) premiums, certain executive compensation plans, and other fringe benefits. The tax rate for the first nine months of 2023 was higher relative to the same prior year period, primarily as a result of a discrete item that affected the reserve for uncertain tax positions during the first quarter of 2023 . At both September 30, 2023 and December 31, 2022, we had a net deferred tax asset (“DTA”) totaling $ 1.1 billion. On the consolidated balance sheet, the net DTA is included in “Other assets.” We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more-likely-than-not criteria that such assets will be realized. This evaluation includes, but is not limited to, the followin • Future reversals of existing deferred tax liabilities (“DTLs”) — These DTLs have a reversal pattern generally consistent with DTAs and are used to realize the DTAs. • Tax planning strategies — We have considered prudent and feasible tax planning strategies that we would implement to preserve the value of the DTAs, if necessary. • Future projected taxable income — We expect future taxable income will offset the reversal of remaining net DTAs. Based on this evaluation, we concluded that a valuation allowance was not required at both September 30, 2023 and December 31, 2022. 13. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: Three Months Ended September 30, Nine Months Ended September 30, (In millions, except shares and per share amounts) 2023 2022 2023 2022 Basic: Net income $ 175 $ 217 $ 554 $ 623 Less common and preferred dividends 68 68 206 199 Undistributed earnings 107 149 348 424 Less undistributed earnings applicable to nonvested shares 1 1 3 4 Undistributed earnings applicable to common shares 106 148 345 420 Distributed earnings applicable to common shares 61 61 182 176 Total earnings applicable to common shares $ 167 $ 209 $ 527 $ 596 Weighted average common shares outstanding (in thousands) 147,648 149,628 147,784 150,510 Net earnings per common share $ 1.13 $ 1.40 $ 3.57 $ 3.96 Dilut Total earnings applicable to common shares $ 167 $ 209 $ 527 $ 596 Weighted average common shares outstanding (in thousands) 147,648 149,628 147,784 150,510 Dilutive effect of stock options (in thousands) 5 164 10 256 Weighted average diluted common shares outstanding (in thousands) 147,653 149,792 147,794 150,766 Net earnings per common share $ 1.13 $ 1.40 $ 3.57 $ 3.96 81 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per sh Three Months Ended September 30, Nine Months Ended September 30, (In thousands) 2023 2022 2023 2022 Restricted stock and restricted stock units 1,398 1,245 1,385 1,274 Stock options 1,441 305 1,401 170 14. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, California Bank & Trust, Amegy Bank, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. Our affiliate banks are supported by an enterprise operating segment (referred to as the “Other” segment) that provides governance and risk management, allocates capital, establishes strategic objectives, and includes centralized technology, back-office functions, and certain lines of business not operated through our affiliate banks. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal funds transfer pricing (“FTP”) allocation process to report results of operations for business segments. This process is subject to change and refinement over time. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. At September 30, 2023, Zions Bank operated 95 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. CB&T operated 75 branches in California. Amegy operated 75 branches in Texas. NBAZ operated 56 branches in Arizona. NSB operated 45 branches in Nevada. Vectra operated 33 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. 82 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the three months ended September 30, 2023 and 2022: Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 167 $ 197 $ 143 $ 154 $ 107 $ 137 Provision for credit losses 1 35 24 19 7 15 Net interest income after provision for credit losses 166 162 119 135 100 122 Noninterest income 49 44 28 28 46 41 Noninterest expense 130 125 91 86 93 90 Income (loss) before income taxes $ 85 $ 81 $ 56 $ 77 $ 53 $ 73 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 14,382 $ 13,448 $ 14,195 $ 13,100 $ 12,892 $ 12,176 Total average deposits 20,041 23,634 14,335 16,096 13,997 15,531 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 66 $ 64 $ 46 $ 50 $ 36 $ 41 Provision for credit losses 3 — 7 1 ( 1 ) 2 Net interest income after provision for credit losses 63 64 39 49 37 39 Noninterest income 10 12 12 12 8 8 Noninterest expense 44 44 40 39 32 31 Income (loss) before income taxes $ 29 $ 32 $ 11 $ 22 $ 13 $ 16 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 5,364 $ 4,913 $ 3,420 $ 3,052 $ 4,011 $ 3,722 Total average deposits 7,002 8,090 7,059 7,479 3,463 4,100 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 15 $ 17 $ 5 $ 3 $ 585 $ 663 Provision for credit losses 2 — ( 2 ) ( 1 ) 41 71 Net interest income after provision for credit losses 13 17 7 4 544 592 Noninterest income 2 2 25 18 180 165 Noninterest expense 6 6 60 58 496 479 Income (loss) before income taxes $ 9 $ 13 $ ( 28 ) $ ( 36 ) $ 228 $ 278 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,697 $ 1,633 $ 1,007 $ 909 $ 56,968 $ 52,953 Total average deposits 1,138 1,585 8,608 948 75,643 77,463 83 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the nine months ended September 30, 2023 and 2022: Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 530 $ 523 $ 454 $ 425 $ 346 $ 369 Provision for credit losses 32 35 39 40 30 ( 7 ) Net interest income after provision for credit losses 498 488 415 385 316 376 Noninterest income 148 139 87 79 143 119 Noninterest expense 403 373 277 254 291 264 Income (loss) before income taxes $ 243 $ 254 $ 225 $ 210 $ 168 $ 231 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 14,205 $ 13,130 $ 14,122 $ 12,948 $ 12,872 $ 11,970 Total average deposits 20,058 24,920 14,103 16,407 13,055 16,062 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 194 $ 170 $ 145 $ 126 $ 115 $ 109 Provision for credit losses 7 2 18 1 5 8 Net interest income after provision for credit losses 187 168 127 125 110 101 Noninterest income 31 34 34 37 21 24 Noninterest expense 136 125 123 113 99 90 Income (loss) before income taxes $ 82 $ 77 $ 38 $ 49 $ 32 $ 35 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 5,253 $ 4,859 $ 3,392 $ 2,929 $ 3,997 $ 3,550 Total average deposits 7,018 8,164 6,887 7,487 3,479 4,195 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 46 $ 46 $ 25 $ 32 $ 1,855 $ 1,800 Provision for credit losses 4 — ( 3 ) — 132 79 Net interest income after provision for credit losses 42 46 28 32 1,723 1,721 Noninterest income 5 5 60 42 529 479 Noninterest expense 18 18 169 170 1,516 1,407 Income (loss) before income taxes $ 29 $ 33 $ ( 81 ) $ ( 96 ) $ 736 $ 793 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,699 $ 1,601 $ 1,063 $ 910 $ 56,603 $ 51,897 Total average deposits 1,206 1,571 6,030 1,164 71,836 79,970 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Our most significant risks include interest rate and market risk, which are closely monitored by management as previously discussed. For more information regarding interest rate and market risk, see the “Interest Rate and Market Risk Management” section in this Form 10-Q. 84 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 4. CONTROLS AND PROCEDURES Our management, including our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures at September 30, 2023. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at September 30, 2023. There were no changes in our internal control over financial reporting during the third quarter of 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The information contained in Note 10 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 1A. RISK FACTORS We amend the following risk factors as discussed in Part I, Item 1A. Risk Factors in our 2022 Form 10-K and as previously amended and supplemented in Part II, Item 1A. Risk Factors in our 2023 Form 10-Qs: Changes in levels and sources of liquidity and capital, including the resulting effects of recent events in the banking industry, may limit our operations and potential growth. Our primary source of liquidity is deposits from our customers, which may be impacted by market-related forces such as increased competition for these deposits and a variety of other factors. Deposits across the banking industry have been fluctuating in recent quarters in large part due to the increased interest rate environment and prominent bank failures. We, like many other banks, experienced deposit outflows as customers spread deposits among several different banks to maximize their amount of FDIC insurance, moved deposits to institutions offering higher rates or banks deemed “too big to fail,” or removed deposits from the U.S. financial system entirely. Although our deposit levels have stabilized during recent quarters, our cost of funds has increased, and the potential for greater volatility remains, particularly if there is more negative news surrounding the banking industry or perceived risks regarding bank safety and soundness. Our costs will also increase as a result of the FDIC’s special assessment to recover the costs associated with protecting uninsured depositors following the bank closures that occurred earlier in 2023. If we are unable to continue to fund assets through customer bank deposits or access other funding sources on favorable terms, or if we suffer continued increases in borrowing costs or FDIC insurance assessments, or otherwise fail to manage liquidity effectively, our liquidity, operating margins, financial condition, and results of operations may be materially and adversely affected. The Federal Reserve's tightened monetary policy may contribute to a decline in the value of our fixed-rate loans and investment securities that are pledged as collateral to support short-term borrowings, and other economic conditions may also affect our liquidity and efforts to manage associated risks. The FHLB system and Federal Reserve have been, and continue to be, a significant source of additional liquidity and funding. Changes in FHLB funding programs could adversely affect our liquidity and management of associated risks. Problems encountered by other financial institutions could adversely affect financial markets generally and have indirect adverse effects on us. The soundness and stability of many financial institutions may be closely interrelated as a result of credit, trading, clearing, or other relationships between the institutions. As a result, concerns about, or a default or threatened default by, one institution could lead to significant market-wide liquidity and credit problems, losses, or defaults by other institutions. This is sometimes referred to as “systemic risk” and may adversely affect financial intermediaries, such as clearing agencies, clearing houses, banks, securities firms, and exchanges, with which we interact on a daily basis, and therefore, could adversely affect us. This phenomenon has been evident in the recent events affecting the banking industry, as financial institutions, like us, have been impacted by concerns regarding the soundness or creditworthiness of other financial institutions or reports of the risk of systemic deterioration in asset classes, such 85 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES as commercial real estate. This has caused substantial and cascading disruption within the financial markets, increased expenses, and adversely impacted the market price and volatility of our common stock. The Russian invasion of Ukraine, the escalating conflict in the Middle East, other geopolitical conflicts, and retaliatory measures imposed by the U.S. and other countries, including the responses to such measures, may cause significant disruptions to domestic and foreign economies and markets. The Russia/Ukraine war and the rapidly escalating conflict in the Middle East, along with other geopolitical conflicts, have created new risks for global markets, trade, economic conditions, cybersecurity, and similar concerns. For example, these conflicts could affect the availability and price of commodities and products, adversely affecting supply chains and increasing inflationary pressures; the value of currencies, interest rates, and other components of financial markets; and lead to increased risks of events such as cyberattacks that could result in severe costs and disruptions to governmental entities and companies and their operations. The impact of these conflicts and retaliatory measures is continually evolving and cannot be predicted with certainty. It is likely that these conflicts will continue to affect the global political order and global and domestic markets for a substantial period of time, regardless of when these conflicts end. While these events have not materially interrupted our operations, these or future developments resulting from these conflicts, such as cyberattacks on the U.S., the Bank, our customers, or our suppliers, could make it difficult to conduct business. Protracted congressional negotiations and political stalemates in Washington D.C. regarding government funding and other issues may introduce additional volatility in the U.S. economy including capital and credit markets and the banking industry in particular. The current continuing resolution that provides short-term appropriations to fund the U.S. government expires on November 17, 2023. Democrat and Republican lawmakers are at a stalemate and efforts to pass spending bills for long-term government funding have been complicated, increasing the risk of a government shutdown. Any such shutdown may result in further U.S. credit rating downgrades or defaults, and may introduce additional volatility in the U.S. economy, including capital and credit markets and the banking industry in particular; cause disruptions in the financial markets; impact interest rates; and result in other potential unforeseen consequences. In any such event, the Bank’s liquidity, operating margins, financial condition, and results of operations may be materially and adversely affected. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS None. ITEM 5. OTHER INFORMATION None of our directors or officers have adopted , modified, or terminated a Rule 10b5-1(c) trading arrangement during the quarter ended September 30, 2023. Our directors and officers participate in certain of our benefits plans such as our Omnibus Incentive Plan and Payshelter 401(k) and Employee Stock Ownership Plan, and may from time to time make elections to have shares withheld to cover withholding taxes or pay the exercise price of options granted thereunder, which elections may be designed to satisfy the affirmative defense conditions of Rule 10b5-1 under the Exchange Act or may constitute non-Rule 10b5-1 trading arrangements as defined in Item 408(c) of Regulation S-K. 86 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 6. EXHIBITS a. Exhibits Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in Inline XBRL (i) the Consolidated Balance Sheets as of September 30, 2023 and December 31, 2022, (ii) the Consolidated Statements of Income for the three months ended September 30, 2023 and September 30, 2022 and the nine months ended September 30, 2023 and September 30, 2022, (iii) the Consolidated Statements of Comprehensive Income for the three months ended September 30, 2023 and September 30, 2022 and the nine months ended September 30, 2023 and September 30, 2022, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the three months ended September 30, 2023 and September 30, 2022 and the nine months ended September 30, 2023 and September 30, 2022, (v) the Consolidated Statements of Cash Flows for the nine months ended September 30, 2023 and September 30, 2022, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Quarterly Report on Form 10-Q, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. 87 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZIONS BANCORPORATION, NATIONAL ASSOCIATION /s/ Harris H. Simmons Harris H. Simmons, Chairman and Chief Executive Officer /s/ Paul E. Burdiss Paul E. Burdiss, Executive Vice President and Chief Financial Officer Date: November 3, 2023 88 |
Washington, D.C. 20549 FORM 10-K (Mark One) ☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31 , 2021 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to __________ COMMISSION FILE NUMBER 001-12307 ZIONS BANCORPORATION, NATIONAL ASSOCIATION (Exact name of registrant as specified in its charter) United States of America 87-0189025 (State or other jurisdiction of incorporation or organization) (IRS Employer Identification Number) One South Main Salt Lake City, Utah 84133-1109 (Address of principal executive offices) (Zip Code) Registrant’s telephone number, including area co ( 801 ) 844-7637 Securities registered pursuant to Section 12(b) of the Ac Title of Each Class Trading Symbols Name of Each Exchange on Which Registered Common Stock, par value $0.001 ZION The NASDAQ Stock Market LLC Depositary Shares each representing a 1/40th ownership interest in a share o Series A Floating-Rate Non-Cumulative Perpetual Preferred Stock ZIONP The NASDAQ Stock Market LLC Series G Fixed/Floating-Rate Non-Cumulative Perpetual Preferred Stock ZIONO The NASDAQ Stock Market LLC 6.95% Fixed-to-Floating Rate Subordinated Notes due September 15, 2028 ZIONL The NASDAQ Stock Market LLC Securities registered pursuant to Section 12(g) of the Ac None. Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☒ No ¨ Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨ No ☒ Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No ¨ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ý No ¨ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ý Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨ Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ý Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No ý Aggregate Market Value of Common Stock Held by Non-affiliates at June 30, 2021 $ 8,437,915,233 Number of Common Shares Outstanding at February 7, 2022 151,574,325 shares Documents Incorporated by Referen Part III: Items 10-14 — Proxy Statement for the 2022 Annual Meeting of Shareholders to be held April 29, 2022. 1 ZIONS BANCORPORATION, NATIONAL ASSOCIATION TABLE OF CONTENTS PART I Item 1. Business 4 Item 1A. Risk Factors 12 Item 1B. Unresolved Staff Comments 20 Item 2. Properties 20 Item 3. Legal Proceedings 21 Item 4. Mine Safety Disclosures 21 PART II Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 21 Item 6. Reserved 22 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 22 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 72 Item 8. Financial Statements and Supplementary Data 72 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 141 Item 9A. Controls and Procedures 141 Item 9B. Other Information 141 Item 9C. Disclosure Regarding Foreign Jurisdictions that Prevent Inspections 142 PART III Item 10. Directors, Executive Officers and Corporate Governance 142 Item 11. Executive Compensation 142 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 142 Item 13. Certain Relationships and Related Transactions, and Director Independence 142 Item 14. Principal Account ant Fees and Services 142 PART IV Item 15. Exhibits and Financial Statement Schedules 142 Item 16. Form 10-K Summary 147 Signatures 148 2 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses Fintech Financial Technology Company AFS Available-for-Sale FRB Federal Reserve Board ALCO Asset/Liability Committee FTP Funds Transfer Pricing ALLL Allowance for Loan and Lease Losses GAAP Generally Accepted Accounting Principles Amegy Amegy Bank, a division of Zions Bancorporation, National Association HECL Home Equity Credit Line AMERIBOR American Interbank Offered Rate HTM Held-to-Maturity AOCI Accumulated Other Comprehensive Income IMG International Manufacturing Group ASC Accounting Standards Codification IPO Initial Public Offering ASU Accounting Standards Update IRS Internal Revenue Service ATM Automated Teller Machine ISDA International Swaps and Derivative Association BOLI Bank-Owned Life Insurance KBW Keefe, Bruyette & Woods, Inc. bps Basis Points KRX KBW REgional Bank Index BSBY Bloomberg Short-Term Bank Yield LIBOR London Interbank Offered Rate CB&T California Bank & Trust, a division of Zions Bancorporation, National Association MD&A Management’s Discussion and Analysis CCAR Comprehensive Capital Analysis and Review Municipalities State and Local Governments CCPA California Consumer Privacy Act of 2018 NASDAQ National Association of Securities Dealers Automated Quotations CECL Current Expected Credit Loss NAV Net Asset Value CET1 Common Equity Tier 1 (Basel III) NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association CFPB Consumer Financial Protection Bureau NIM Net Interest Margin CLTV Combined Loan-to-Value Ratio NM Not Meaningful CMC Capital Management Committee NSB Nevada State Bank, a division of Zions Bancorporation, National Association CMT Constant Maturity Treasury OCC Office of the Comptroller of the Currency COSO Committee of Sponsoring Organizations of the Treadway Commission OCI Other Comprehensive Income CPRA California Privacy Rights Act OREO Other Real Estate Owned CRA Community Reinvestment Act PCAOB Public Company Accounting Oversight Board CRE Commercial Real Estate PEI Private Equity Investment CSA Credit Support Annex PPNR Pre-provision Net Revenue CSV Cash Surrender Value PPP Paycheck Protection Program CVA Credit Valuation Adjustment ROC Risk Oversight Committee Dodd-Frank Act Dodd-Frank Wall Street Reform and Consumer Protection Act ROU Right-of-Use DTA Deferred Tax Asset RULC Reserve for Unfunded Lending Commitments DTL Deferred Tax Liability S&P Standard and Poor's EaR Earnings at Risk SBA U.S. Small Business Administration EPS Earnings per Share SBIC Small Business Investment Company ERM Enterprise Risk Management SEC Securities and Exchange Commission ERMC Enterprise Risk Management Committee SOFR Secured Overnight Financing Rate ESG Environmental, Social, and Governance TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association EVE Economic Value of Equity at Risk TDR Troubled Debt Restructuring FAMC Federal Agricultural Mortgage Corporation, or “Farmer Mac” Tier 1 Common Equity Tier 1 (Basel III) and Additional Tier 1 Capital FASB Financial Accounting Standards Board U.S. United States FDIC Federal Deposit Insurance Corporation Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association FDICIA Federal Deposit Insurance Corporation Improvement Act VIE Variable Interest Entity FHLB Federal Home Loan Bank Zions Bank Zions Bank, a division of Zions Bancorporation, National Association FINRA Financial Industry Regulatory Authority 3 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION PART I FORWARD-LOOKING INFORMATION This annual report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. These forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although this list is not comprehensive, important factors that may cause material differences include changes in general industry and economic conditions, including inflation; changes and uncertainties in legislation and fiscal, monetary, regulatory, trade and tax policies; changes in interest and reference rates; the quality and composition of our loan and securities portfolios; our ability to recruit and retain talent, including increased competition for qualified candidates as a result of expanded remote-work opportunities and increased compensation expenses; competitive pressures and other factors that may affect aspects of our business, such as pricing, demand for our products and services; our ability to execute our strategic plans, manage our risks, and achieve our business objectives; our ability to develop and maintain information security systems and controls designed to guard against fraud, cyber, and privacy risks; the effects of the COVID-19 pandemic (including variants) and associated actions such as shutdowns, vaccine mandates, testing requirements, and protests that may affect our business, employees, and communities; other national or international crises or conflicts that may occur in the future; and governmental and social responses to environmental issues and climate change. We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any of the forward-looking statements included herein to reflect future events or developments. ITEM 1. BUSINESS DESCRIPTION OF BUSINESS Zions Bancorporation, National Association (“Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) is a bank headquartered in Salt Lake City, Utah with annual net revenue (net interest income and noninterest income) of $2.9 billion in 2021, and total assets of $93 billion at December 31, 2021. We provide a wide range of banking products and related services, primarily in the states of Arizona, California, Colorado, Idaho, Nevada, New Mexico, Oregon, Texas, Utah, Washington, and Wyoming. We have more than one million customers, served by our 418 branches at year-end 2021. We had 9,685 full-time equivalent employees at December 31, 2021. At year end, we had a strong capital position, with a Common Equity Tier 1 (“CET1”) capital to total risk-weighted assets ratio of 10.2%, which is considered well capitalized under regulatory definitions. We conduct our operations primarily through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These affiliate banks comprise our primary business segments as referred to throughout this document. We emphasize local authority, responsibility, and pricing; and customization of certain products (as applicable) designed to maximize customer 4 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION satisfaction and strengthen community relations. For further information about our segments, see “Business Segment Results” on page 40 in Management's Discussion and Analysis (“MD&A”) and Note 22 of the Notes to Consolidated Financial Statements. We focus on serving our customers and communities. Our experienced bankers develop long-lasting relationships with our customers by providing competitive products and award-winning service. Building and sustaining these relationships is essential to understanding and meeting our customers’ needs. PRODUCTS AND SERVICES Some of the products and services we provide inclu • Commercial business banking. We serve a wide range of commercial customers, small- and medium-sized businesses, and large corporations, supported by our high-quality treasury, cash management, and digital banking products and services. Specialties within our commercial business banking inclu ◦ Municipal and public finance services ◦ Merchant and payment processing services ◦ Corporate cards ◦ Capital markets, syndication, and foreign exchange services ◦ Term real estate lending ◦ Construction and land development lending • Retail banking. We have a strong retail banking business in several of our markets, with competitive products and top-quality online and mobile offerings, focused on serving consumers and small businesses. Our retail banking products and services inclu ◦ Residential mortgages ◦ Home equity lines of credit ◦ Personal lines of credit and installment consumer loans ◦ Depository account services ◦ Consumer cards ◦ Personal trust services • Wealth management and private client banking. We offer various wealth management solutions to customers, which is one of the fastest growing segments of our company. Our planning-driven offerings combined with high-touch service and sophisticated asset management capabilities have resulted in substantial growth in assets under management. We also offer advanced business succession and estate planning services to our most complex business customers, helping prepare them for important transitions. COMPETITION We operate in a highly competitive environment. Our most direct competition for loans, deposits, and other banking services such as mortgage banking, merchant services, and payment processing comes from other commercial banks, credit unions, and financial technology companies. Some of these financial institutions do not have a physical presence in our market footprint, but solicit business via the internet and other means. We also compete with finance companies, mutual fund companies, insurance companies, brokerage firms, securities dealers, investment banking companies, financial technology companies (“fintech”), other nontraditional lending and banking companies, and a variety of other types of companies. Some of our competitors may have fewer regulatory constraints, and some have lower cost structures or tax burdens. Our key differentiators include the quality of service delivered, our local community knowledge, convenience of office locations, online banking functionality and other delivery methods, a wide range of products and services 5 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION offered, and the overall relationship with our clients. We strive to compete effectively in all of these areas to remain successful. SUPERVISION AND REGULATION This section describes the material elements of selected laws and regulations applicable to us. The descriptions are not intended to be complete and are qualified in their entirety by reference to the full text of the statutes and regulations described. The banking and financial services business in which we engage is highly regulated. Such regulation is intended to improve the stability of banking and financial companies and to protect the interests of customers and taxpayers. These regulations are not generally intended to protect the interests of our shareholders or creditors. Banking laws and regulations have given financial regulators expanded powers over many aspects of the financial services industry, which have reduced, and may continue to reduce, returns earned by shareholders. Furthermore, changes in applicable laws or regulations, and in their application by regulatory agencies cannot be predicted and may have a material effect on our business and results. General We are subject to the provisions of the National Bank Act and other statutes governing national banks, as well as the rules and regulations of the Office of the Comptroller of the Currency (“OCC”), the Consumer Financial Protection Bureau (“CFPB”), and the Federal Deposit Insurance Corporation (“FDIC”). We are also subject to examination and supervision by the OCC and examination by the CFPB in respect of federal consumer financial regulations. We, as well as some of our subsidiaries, are also subject to regulation by other federal and state agencies. These regulatory agencies may exert considerable influence over our activities through their supervisory and examination roles. Our brokerage and investment advisory subsidiaries are regulated by the Securities and Exchange Commission (“SEC”), Financial Industry Regulatory Authority (“FINRA”), and state securities regulators. The National Bank Act Our corporate affairs are governed by the National Bank Act, and related regulations are administered by the OCC. With respect to securities matters, we are not subject to the Securities Act, but are subject to OCC regulations governing securities offerings. Our common stock and certain other securities are registered under the Exchange Act, which vests the OCC with the power to administer and enforce certain sections of the Exchange Act applicable to national banks, though we continue to make filings required by the Exchange Act with the SEC as a voluntary filer. These statutory and regulatory frameworks are not as well-developed as the corporate and securities law frameworks applicable to many other publicly held corporations. The National Bank Act provides that under certain circumstances the common stock of a national bank is assessable, i.e., holders may be subject to a levy for more funds if so determined by the OCC. The OCC has confirmed that under the applicable provisions of the National Bank Act, assessability is limited to the par value of a national bank’s stock. Our common stock has a par value of $0.001. In addition, according to the OCC, it has not exercised its authority to levy assessments since 1933 and views the assessability authority as a mechanism for addressing capital deficiency that has long been overtaken by developments in statute and regulation, including robust capital standards, prompt corrective action requirements, and supervisory and enforcement authorities requiring an institution to maintain capital at a particular level. Capital Standards – Basel Framework At December 31, 2021, we met all capital adequacy requirements under the Basel III capital rules, which include certain risk-based capital and leverage ratio requirements prescribed by the OCC. The Basel III capital rules define the components of capital and risk weights, where applicable, and other factors affecting the numerator and denominator in banking institutions’ regulatory capital ratios. Under the Basel III capital rules, the minimum capital ratio requirements are as follows: • 4.5% CET1 to risk-weighted assets; • 6.0% Tier 1 capital (i.e., CET1 plus Additional Tier 1) to risk-weighted assets; 6 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION • 8.0% Total capital (i.e., Tier 1 plus Tier 2) to risk-weighted assets; and • 4.0% Tier 1 capital to average consolidated assets (known as the “Tier 1 leverage ratio”). The Basel III capital rules also require us to maintain a 2.5% “capital conservation buffer” designed to absorb losses during periods of economic stress, composed entirely of CET1, and in excess of the minimum risk-weighted asset ratios, effectively resulting in minimum ratios of (1) CET1 to risk-weighted assets of at least 7.0%, (2) Tier 1 capital to risk-weighted assets of at least 8.5%, and (3) Total capital to risk-weighted assets of at least 10.5%. Financial institutions with a ratio of CET1 to risk-weighted assets above the minimum, but below the capital conservation buffer, face constraints on dividends, equity repurchases, and compensation based on the amount of the shortfall. The severity of the constraint depends on the amount of the shortfall and the institution’s “eligible retained income,” which is defined as four quarters of trailing net income, net of distributions and associated tax effects not already reflected in net income. Capital Planning and Stress Testing We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions. Our 2021 internal stress test included hypothetical scenarios that reflected the ongoing economic impact of the COVID-19 pandemic. The results of the stress test indicated that we would maintain regulatory capital ratios at levels adequate for our risk profile throughout the nine-quarter horizon for the hypothetical stress test. Regulations promulgated under the Dodd-Frank Act require many banks to adhere to an annual Comprehensive Capital Analysis and Review (“CCAR”) process and stress testing administered by the Federal Reserve Board (“FRB”). We are not regulated by the FRB and therefore are not subject to this process. However, we use the FRB's CCAR process, including published economic scenarios, to inform our stress testing activities. Liquidity Our liquidity profile remained very strong during 2021. We manage liquidity in accordance with the Basel III liquidity requirements, and we utilize internal liquidity stress tests as our primary tool for establishing and managing liquidity guidelines including, but not limited to, holdings of investment securities and other liquid assets, maintaining levels of readily available contingency funding, concentrations of funding sources, and the maturity profile of liabilities. Financial Privacy and Cyber Security The federal banking regulators have enacted rules that limit the ability of banks and other financial institutions to disclose nonpublic information about consumers to unaffiliated third parties, including provisions of the Gramm-Leach-Bliley Act, which require financial institutions to disclose privacy policies to consumers and, in some circumstances, allow consumers to prevent disclosure of certain personal information to an unaffiliated third party. These regulations affect how consumer information is transmitted through diversified financial companies and conveyed to outside vendors. In addition, consumers may also prevent disclosure of certain information among affiliated companies that is assembled or used to determine eligibility for a product or service, such as that shown on consumer credit reports and asset and income information from applications. Consumers also have the option to direct banks and other financial institutions not to share information about transactions and experiences with affiliated companies for the purpose of marketing products or services. Federal law makes it a criminal offense, except in limited circumstances, to obtain or attempt to obtain customer information of a financial nature by fraudulent or deceptive means. State regulators have been increasingly active in implementing privacy and cybersecurity standards and regulations. Recently, several states have enacted regulations requiring certain financial institutions to implement cybersecurity programs and have provided detailed requirements with respect to these programs, including data encryption requirements. Many states have also recently implemented or modified their data breach notification and data privacy requirements. In June 2018, the California legislature passed the California Consumer Privacy Act of 2018 (the “CCPA”), which took effect on January 1, 2020 and which was further amended in November 2020 by the California Privacy Rights Act (the “CPRA”). The CCPA, as amended, covers businesses that obtain or access 7 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION personal information on California residents, grants them enhanced privacy rights and control over their personal information, and imposes significant requirements on covered companies with respect to individual data privacy rights. Some of the rights afforded to California residents also extend to California employees, though the CPRA amendments now exempt certain employee information and employer usage from some of the CPRA provisions until at least January 1, 2023. Other states have implemented, or are considering, similar privacy laws. We expect this trend of state-level activity to continue and are continually monitoring developments in the states in which we operate. Data and cybersecurity laws and regulations are evolving rapidly, remain a focus of state and federal regulators, are likely to be the subject of future rule making, and will continue to have a significant impact on our risk management practices. Prompt Corrective Action The Federal Deposit Insurance Corporation Improvement Act (“FDICIA”) requires each federal banking agency to take prompt corrective action to resolve identified problems of insured depository institutions, including, but not limited to, those that fall below one or more prescribed minimum capital ratios. Pursuant to FDICIA, the FDIC promulgated regulations defining the following five categories in which an insured depository institution will be placed, based on the level of its capital ratios: well-capitalized, adequately capitalized, under-capitalized, significantly under-capitalized, and critically under-capitalized. Under the prompt corrective action provisions of FDICIA as modified by the Basel III capital rules, an insured depository institution will generally be classified as well-capitalized if it has a CET1 ratio of at least 6.5%, a Tier 1 risk-based capital ratio of at least 8%, a total risk-based capital ratio of at least 10%, and a Tier 1 leverage ratio of at least 5%. An insured depository institution will generally be classified as under-capitalized if it has a CET1 ratio less than 4.5%, a Tier 1 risk-based capital ratio less than 6%, a total risk-based capital ratio less than 8%, and a Tier 1 leverage ratio less than 4%. At December 31, 2021, our capital ratios exceeded those required for an institution to be considered well capitalized under these regulations. An institution that is classified as well-capitalized, adequately capitalized, or under-capitalized, may be treated as though it were in the next lower capital category if the appropriate federal banking agency, after notice and opportunity for hearing, determines that an unsafe or unsound condition or an unsafe or unsound practice warrants such treatment. At each successive lower capital category, an insured depository institution is subject to more restrictions and prohibitions, including restrictions on growth, interest rates paid on deposits, the acceptance of brokered deposits, and restrictions or prohibitions on the payment of dividends. Furthermore, if a bank is classified in one of the under-capitalized categories, it is required to submit a capital restoration plan to the federal bank regulator add back some language taken out. Other Regulations We are subject to a wide range of other requirements and restrictions contained in both federal and state laws. These regulations include, but are not limited to, the followin • Limitations on dividends payable to shareholders. Our ability to pay dividends on both our common and preferred stock is subject to regulatory restrictions. See Note 15 of the Notes to Consolidated Financial Statements for additional information. • Safety and soundness standards prescribed in the FDICIA, including standards related to internal controls, information systems, internal audit, loan documentation, credit underwriting, interest rate exposure, asset growth and compensation, as well as other operational and management standards deemed appropriate by the federal banking agencies. • Requirements for approval of acquisitions and restrictions on other activities. The National Bank Act requires regulatory and shareholder approval of all mergers between a national bank and another national or state bank and do not allow for the direct merger into a national bank of a unaffiliated nonbank. See discussion under “Risk Factors.” Other laws and regulations governing national banks contain similar provisions concerning acquisitions and activities. 8 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION • Limits on interchange fees imposed under the Dodd-Frank Act, including a set of rules requiring that interchange transaction fees for electronic debit transactions be reasonable and proportional to certain costs associated with processing the transactions. • Limitations on the dollar amount of loans made to a borrower and its affiliates. • Limitations on transactions with affiliates. • Restrictions on the nature and amount of any investments and ability to underwrite certain securities. • Requirements for opening of branches. • A number of federal and state consumer protection laws, including fair lending and truth in lending requirements, to provide equal access to credit and to protect consumers in credit transactions. In addition, as a bank with $10 billion or more in assets, we are subject to examination and primary enforcement authority with respect to consumer financial laws by the CFPB, which has broad rule making, supervisory and enforcement powers under various federal consumer financial protection laws. • Community Reinvestment Act (“CRA”) requirements. The CRA requires banks to help serve the credit needs in their communities, including providing credit to low- and moderate-income individuals. If we fail to adequately serve our communities, penalties may be imposed including denials of applications to add branches, relocate, add subsidiaries and affiliates, and merge with or purchase other financial institutions. • Requirements regarding the time, manner, and form of compensation given to key executives and other personnel receiving incentive compensation. These restrictions include documentation and governance, deferral, risk-balancing, and clawback requirements. Any deficiencies in compensation practices may be incorporated into supervisory ratings, which can affect our ability to make acquisitions or engage in certain other activities, or could result in regulatory enforcement actions. • Anti-money laundering regulations. The Bank Secrecy Act, Title III of the Uniting and Strengthening of America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (“USA Patriot Act”), and other federal laws require financial institutions to assist United States (“U.S.”) government agencies in detecting and preventing money laundering and other illegal acts by maintaining policies, procedures and controls designed to detect and report money laundering, terrorist financing, and other suspicious activity. We are subject to the Sarbanes-Oxley Act of 2002, certain provisions of the Dodd-Frank Act, and other federal and state laws and regulations which address, among other issues, corporate governance, auditing and accounting, and enhanced and timely disclosure of corporate information. The National Association of Securities Dealers Automated Quotations (“NASDAQ”) market has also enacted corporate governance rules, including director diversity standards, which are intended to allow shareholders and investors to more easily and efficiently monitor the performance of companies and the independence, diversity, and effectiveness of their directors. Environmental, social, and governance (“ESG”) standards and concerns continue to evolve and have become more prominent in recent years. We are closely monitoring developments in standards published by ESG interest groups and organizations, as well as proposed regulatory initiatives and expectations relating to ESG issues. Although we believe the way we do business has been and is consistent with many of these standards and expectations, our ongoing monitoring enables us to enhance our business practices by incorporating ESG recommendations that we believe will benefit our investors, customers, employees, and communities. We publish a Corporate Responsibility Report that provides a summary of how we address ESG issues. The report is available on our website. Our Board of Directors (“Board”) has overseen management’s establishment of a comprehensive system of corporate governance and risk management practices. This system includes frameworks, policies, and guidelines such as Corporate Governance Guidelines; a Code of Business Conduct and Ethics for Employees; a Directors Code of Conduct; a Risk Management Framework; a Related Party Transaction Policy; Stock Ownership and Retention Guidelines; a Compensation Clawback Policy; an Insider Trading Policy, including provisions prohibiting hedging and placing restrictions on the pledging of bank stock by insiders; and charters for the Executive, Audit, Risk Oversight, Compensation, and Nominating and Corporate Governance Committees. More information on our 9 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION corporate governance practices is available on our website at zionsbancorporation.com. Our website is not part of this Form 10-K. HUMAN CAPITAL MANAGEMENT We are proud of our employees who bring their unique, diverse talents to work each day. We are committed to identifying, recognizing, and creating fulfilling opportunities for our employees, and rewarding them for their contributions to our success. The COVID-19 pandemic continued to have a significant impact on how we work and the work we perform. Since the beginning of the pandemic in 2020, we successfully transitioned approximately 70% of our employees to working remotely. We implemented additional programs to promote mental health and wellness, as well as policies and procedures to keep our employees safe, including work-from-home arrangements, elevated cleaning standards of our facilities, required masking, and we strongly encourage our employees to be fully vaccinated. We continue to monitor and adjust our policies and procedures to keep our people safe. As the pandemic subsides and vaccination rates increase, we look forward to returning to our offices in-person more regularly. We believe that in-person exchange of ideas and viewpoints, in both formal and informal settings, improves productivity and supports a strong corporate culture. The number of full-time equivalent employees at December 31, 2021 totaled 9,685, and remained relatively flat from the prior year period. The following schedule presents certain demographic attributes of our employees at December 31, 2021. Schedule 1 Women People of Color Disabled Veterans Employee Roles Management 51 % 27 % 11 % 3 % Non-management 60 % 38 % 12 % 2 % Overall 58 % 35 % 12 % 3 % The following objectives and initiatives are integral to our human capital management efforts: Cultivating a diverse, equitable, and inclusive environment for our employees, our customers, and the communities in which we operate We believe in an environment where people are respected and valued, regardless of their differences. We also believe that our performance is stronger when we are able to draw upon the talents and experience of a diverse team of employees. We use analytics, recruiting outreach efforts, and manager training to reach a diverse, qualified group of potential applicants to secure and retain a high-performing workforce drawn from all segments of society. To identify qualified candidates, our recruiting team partners with community organizations, schools, and governmental entities that support marginalized and underserved communities in our footprint. Our 2021 Corporate Responsibility Report highlights several achievements in this area. For example, in our 2021 Banker Development Program that attracts and advances undergraduates and early-career professionals, 53% of participants were women and 38% were people of color. Of the participants in our 2021 college internship program, 30% were women and 28% were people of color. We have instituted enterprise-wide and affiliate diversity, equity, and inclusion councils; employee business forums; regional inclusion champions; mental health initiatives; and a broad range of employee and community events. Throughout the organization, employee business resource groups foster a sense of community and enable greater connectivity and support among employees through forum meetings and discussions, which are open to all 10 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION employees and offer networking and initiatives that support our commitment to diversity, both internally and externally. Attracting, developing, and retaining talent for long-term success We are committed to attracting, developing, and retaining the most qualified individuals who reflect the diversity of the markets in which we operate, to helping our employees grow in their careers, and to actively building a pipeline of talent for future leadership opportunities. As we attract and hire talent, we proactively consider the demand for competencies that will be needed within the workforce of the future. We offer more than 2,000 virtual, in-person, and pre-recorded or self-paced learning options for employees to create tailored learning plans for personal and professional development. In 2021, we hosted more than 900 training experiences to support employees, build new skills, or to assist in career advancement. We offer new manager programs, tuition reimbursement, education sponsorship opportunities, job shadowing, coaching, and formal mentoring programs. Of the participants in our 2021 mentor program, 53% were women and 25% were people of color. Our talent development program and individual development plans focus on education, experience, and exposure to help create well-rounded and successful employees. We are also mindful of the increasing competition for talent in the current labor market. Our overall 2021 turnover rates and time-to-fill for vacancies were comparable to the annual rates we experienced prior to the pandemic. We continue to analyze relevant metrics related to employee recruiting and turnover, which has and will continue to impact wages and flexible work arrangements. Recognizing, engaging, and rewarding our employees We support a culture of integrity, engagement, and achievement through comprehensive rewards and recognition. Our programs are designed to enhance the employee experience, drive retention, promote recognition, and reward high performance. We provide meaningful upside opportunities for those who take accountability for business objectives that help us deliver superior results while reducing risk. We routinely assess pay equity among employees across our organization by analyzing potential disparities in pay based on gender, minority status, and other factors. These actions help us compensate employees fairly. During 2021, we enlisted the services of an independent third party that found after adjusting for relevant variables such as education, experience, performance, and geography, women are paid, on average, approximately 99% of what men are paid, and people of color are paid approximately 98% of what white employees are paid. Our employees provide regular feedback through enterprise outreach and engagement forums, which include quarterly leadership calls, biannual employee opinion surveys, and targeted focus groups. These forums for employee input continue to help strengthen working relationships with managers, improve clarity of organizational purpose and goals, and reinforce our Guiding Principles and Code of Business Conduct and Ethics. We value work-life balance and strive to create a work environment that supports our employees with mental, physical, social, and financial wellness. Some of our key benefits include the followin • Corporate match for our 401(k) plan of 4.5% of an employee’s salary and incentive compensation; • Annual profit-sharing contributions; • Health care plan options including behavioral health, wellness, and autism spectrum disorder services; • Preventive prescription drug coverage not subject to deductibles; • Paid parental program allowing time off for mothers, fathers, and domestic partners; • Adoption assistance program; and • Paid time off for various community service activities and other volunteer opportunities. 11 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ITEM 1A. RISK FACTORS We generate revenue and grow our businesses by taking prudent and appropriately priced risks. These risks are outlined in our Risk Management Framework. Our Board has established an Audit Committee, a Compensation Committee, a Risk Oversight Committee (“ROC”), and appointed an Enterprise Risk Management Committee (“ERMC”) to oversee and implement the Risk Management Framework. The ERMC is comprised of senior management and is chaired by the Chief Risk Officer. Our largest risk exposure has traditionally come from the acceptance of credit risk inherent in extensions of credit to customers. In addition to credit risk, these committees also monitor the following risk areas: market and interest rate risk; liquidity risk; strategic and business risk; operational risk; technology risk; cyber risk; capital/financial reporting risk; legal/compliance risk (including regulatory risk); and reputational risk, as outlined in our risk taxonomy. We have developed policies, procedures, and controls designed to address these risks, but there can be no certainty that our actions will be effective to prevent or limit the effects of these risks on our business or performance. Although not comprehensive, risk factors that are material to us are described below. Credit Risk Credit quality has adversely affected us in the past and may adversely affect us in the future. Credit risk is one of our most significant risks. A decline in the strength of the U.S. economy in general or the local economies in which we conduct operations could result in, among other things, deterioration in credit quality and/or reduced demand for credit, including a resultant adverse effect on the income from our loan and investment portfolios, an increase in charge-offs, and an increase in the allowance for credit losses (“ACL”). We have concentrations of risk in our loan portfolio, including loans secured by real estate, oil and gas-related lending, and leveraged and enterprise value lending, which may have unique risk characteristics that may adversely affect our results. Concentration or counterparty risk could adversely affect us. Concentration risk across our loan and investment securities portfolios could pose significant additional credit risk to us due to similar exposures between the two asset types. Counterparty risk arising from derivative or securities financing transactions could also pose additional credit risk. We engage in commercial real estate (“CRE”) term and construction and land acquisition and development lending, primarily in our Western states footprint. We also have a concentration in oil and gas-related lending, primarily in Texas, as well as concentrations in leveraged and enterprise value lending across our entire footprint. These concentrations are subject to specific risks, including governmental and social responses to environmental issues and climate change, volatility, and potential significant and prolonged declines in collateral values and activity levels. We may have other unidentified concentrated or correlated risks in our loan portfolio. Our business is highly correlated to local economic conditions in a specific geographic region of the U.S. We provide a wide range of banking products and related services through our local management teams and unique brands in Arizona, California, Colorado, Idaho, Nevada, New Mexico, Oregon, Texas, Utah, Washington, and Wyoming. At December 31, 2021, loan balances associated with our banking operations in Utah/Idaho, Texas, and California comprised 77% of the commercial lending portfolio, 73% of the CRE lending portfolio, and 71% of the consumer lending portfolio. As a result of this geographic concentration, our financial performance depends largely upon economic conditions in these market areas. Accordingly, deterioration in economic conditions, such as that caused by climate change or natural disasters, may specifically affect these states, and could result in higher credit losses and significantly affect our consolidated operations and financial results. For information about how we manage credit risk, see “Credit Risk Management” on page 48 in MD&A. 12 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Market and Interest Rate Risk We could be negatively affected by adverse economic conditions. Adverse economic conditions negatively affect our business, including our loan and investment portfolios, capital levels, results of operations, and financial condition. Prolonged periods of slow growth, significant inflationary pressures, volatility and disruption in financial markets, continued uncertainties and disruptions arising from the COVID-19 pandemic (including the emergence of new variants), and other adverse economic conditions could lead to lower demand for loans, higher credit losses, and lower fee income, among other effects. Failure to effectively manage our interest rate risk could adversely affect our results. Net interest income is the largest component of our revenue. Interest rate risk is managed by the Asset Liability Management Committee. Factors beyond our control can significantly influence the interest rate environment and increase our risk. These factors include changes in the prevailing interest rate environment, competitive pricing pressures for our loans and deposits, adverse shifts in the mix of deposits and other funding sources, and volatile market interest rates resulting from general economic conditions and the policies of governmental and regulatory agencies, in particular the FRB. As interest rates on earning assets decline, our cost of funds may not decline commensurately. Conversely, rising rates may result in our cost of funds increasing more than expected. Some components of our balance sheet are very sensitive to rising and falling rates. Interest rates on our financial instruments are subject to change based on developments related to LIBOR, which could adversely impact our revenue, expenses, and value of those financial instruments. The London Interbank Offered Rate (“LIBOR”) is being phased out globally, and U.S. banking regulators instructed banks to cease entering into new lending arrangements using LIBOR no later than December 31, 2021, and migrate to alternative reference rates no later than June 2023. The adoption of alternative reference rates continues to evolve in the marketplace. The market transition away from LIBOR is complex and could have a range of adverse effects on our business, financial condition, and results of operations. In particular, any such transition coul • adversely affect the interest rates paid or received on, and the value of, our floating-rate obligations, loans, deposits, derivatives, and other financial instruments indexed to LIBOR, or other securities or financial arrangements given LIBOR’s dominant role in determining market interest rates globally; • require consent from counterparties regarding the amendment of certain outstanding contracts indexed to LIBOR; • result in disputes, litigation or other actions with counterparties regarding the interpretation and enforceability of certain fallback language in financial instruments; and • require the transition to, or development of, appropriate systems and analytics to effectively transition our risk management processes from LIBOR-based products to those based on the applicable alternative pricing benchmarks. The manner and impact of this transition, as well as the effect of these developments on our funding costs, loan and investment portfolios, asset-liability management, and business, is uncertain. For information about how we manage the transition from LIBOR, interest rate risk, and market risk, see “Interest Rate and Market Risk Management” on page 57 in MD&A. Liquidity Risk We and the holders of our securities could be adversely affected by unfavorable rating actions from rating agencies. Our ability to access the capital markets is important to our overall funding profile. This access is affected by the ratings assigned to us by rating agencies. The rates we pay on our securities are also influenced by, among other things, the credit ratings that we and our securities receive from recognized rating agencies. Ratings downgrades to 13 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION us or our securities could increase our costs or otherwise have a negative effect on our liquidity position, financial condition or the market prices of our securities. Changes in sources of liquidity and capital and liquidity requirements may limit our operations and potential growth. Our primary source of liquidity is deposits from our customers, which may be impacted by market-related forces and a variety of other events. Liquidity requirements and sources are also subject to comprehensive supervision by the OCC and the FDIC. For information about how we manage liquidity risk, see “Liquidity Risk Management” on page 62 in MD&A. Strategic and Business Risk Problems encountered by other financial institutions could adversely affect financial markets generally and have indirect adverse effects on us. The soundness and stability of many financial institutions may be closely interrelated as a result of credit, trading, clearing, or other relationships between the institutions. As a result, concerns about, or a default or threatened default by, one institution could lead to significant market-wide liquidity and credit problems, losses or defaults by other institutions. This is sometimes referred to as “systemic risk” and may adversely affect financial intermediaries, such as clearing agencies, clearing houses, banks, securities firms, and exchanges, with which we interact on a daily basis, and therefore, could adversely affect us. We may not be able to hire or retain qualified personnel or effectively promote our corporate culture, and recruiting and compensation costs may increase as a result of changes in the workplace, marketplace, economy, and regulatory environment. Our ability to execute our strategy, provide services, and remain competitive may suffer if we are unable to recruit or retain qualified people, or if the costs of employee compensation and benefits increase substantially. Bank regulatory agencies have published regulations and guidance that limit the manner and amount of compensation that banking organizations provide to employees. These regulations and guidance may adversely affect our ability to attract and retain key personnel. Some of these limitations may not apply to institutions with which we compete for talent, in particular, as we are more frequently competing for personnel with financial technology providers and other entities that may not have the same limitations on compensation as we do. If we were to suffer such adverse effects with respect to our employees, our business, financial condition and results of operations could be adversely or materially affected. Our ability to retain talent may also be adversely affected by changes in the economy and workforce trends, priorities, migration, modes of delivery and other considerations, such as the increased ability of employees to work from anywhere in many industries. This growth in remote work and other changing priorities and benefits has led to an increase in compensation and related expenses and workplace challenges, such as fewer opportunities for face-to-face interactions, training and mentoring new employees, promoting a cohesive corporate culture, and increased competition for experienced labor, especially in high-demand and highly-skilled categories. Inflationary pressures have also increased our compensation costs and are likely to continue to do so in the future. We have made, and are continuing to make, significant changes that include, among other things, organizational restructurings, efficiency initiatives, and replacement or upgrades of technology systems to improve our control environment and operating efficiency. The ultimate success and completion of these changes, and their effects on us, may vary significantly from initial planning, which could materially adversely affect us. Over the last several years, we have completed numerous improvement projects, including the merger of our bank holding company into the Bank; combining the legal charters of our seven affiliate banks into one; consolidating 15 loan operations sites into two; replacing our core loan systems; upgrading our accounting systems; installing a credit origination work flow system; streamlining our small business and retail lending, mortgage, wealth management and foreign exchange businesses; and investing in data quality and information security. 14 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Ongoing investments continue in a variety of strategic projects designed to improve our products and services and to simplify how we do business. These projects include the replacement of our core deposit systems, the development of a collection of customer-facing digital capabilities such as improved online and mobile banking applications and services, and the enhancement of the online treasury management portal for our business customers. These initiatives and other changes continue to be implemented and are in various stages of completion. By their very nature, projections of duration, cost, expected savings, expected efficiencies, and related items are subject to change and significant variability. There can be no certainty that we will achieve the expected benefits or other intended results associated with these projects. Operational Risk Catastrophic events including, but not limited to, hurricanes, tornadoes, earthquakes, fires, floods, prolonged drought, and pandemics may adversely affect us and the general economy, financial and capital markets, and specific industries. The occurrence of pandemics, natural disasters, and other catastrophic events could adversely affect our operations. We have significant operations and number of customers in Utah, Texas, California, and other regions where natural and other disasters have and are likely to continue to occur. These regions are known for being vulnerable to natural disasters and other risks, such as hurricanes, tornadoes, earthquakes, fires, floods, prolonged droughts, and other weather-related events, which may become more frequent and intense. These types of catastrophic events at times have disrupted the local economy, our business and customers, and have posed physical risks to our property. In addition, catastrophic events occurring in other regions of the world may have an impact on us and our customers. A significant catastrophic event could materially and adversely affect our operations and financial results. Our operations could be disrupted by the effects of our new and ongoing projects and initiatives. We may encounter significant operational disruption arising from our numerous projects and initiatives. These may include significant time delays, cost overruns, loss of key people, technological problems, and processing failures. We may also experience operational disruptions due to capacity constraints, service level failures and inadequate performance, the level of concentration, replacement costs, and other risks arising from our dependence on third-party vendors. Any or all of these issues could result in disruptions to our systems, processes, control environment, procedures, and employees. The ultimate effect of any significant disruption to our business could subject us to additional regulatory scrutiny or expose us to civil litigation and possible financial liability, any of which could materially affect us, including our control environment, operating efficiency, and results of operations. We could be adversely affected by failure in our internal controls. Because of their inherent limitations, internal controls over financial reporting may not prevent or detect misstatements. A failure in our internal controls could have a significant negative impact not only on our earnings, but also on the perception that customers, regulators, and investors may have of us and adversely affect our business and our stock price. We could be adversely affected by internal and external fraud schemes. Attempts to commit fraud by both internal and external actors are becoming increasingly more sophisticated and may go undetected by the systems and procedures we have in place to monitor our operations. We have suffered losses in the past as a result of these schemes and will not be able to identify, prevent, or otherwise mitigate all instances of fraud in the future that have the potential to result in material losses. We use models in the management of the Bank. There is risk that these models are inaccurate in various ways, which can cause us to make suboptimal decisions. We rely on models in the management of the Bank. For example, we use models to inform our estimate of the allowance for credit losses, to manage interest rate and liquidity risk, to project stress losses in various segments of our loan and investment portfolios, and to project net revenue under stress. Models are inherently imperfect for a number of reasons and cannot perfectly predict outcomes. Management decisions based in part on such models, therefore, may be suboptimal. 15 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION We outsource various operations to third-party vendors which could adversely impact our business and operational performance. We rely on various vendors to perform operational activities to conduct our business. Although there are benefits in entering into these relationships, there are risks associated with such activities. Our operational controls and third-party management programs may not provide adequate oversight and control, and inadequate performance by third parties can adversely affect our ability to deliver products and services to our customers and conduct our business. Replacing or finding alternatives for vendors who do not perform adequately can be difficult and costly, and may also adversely impact our customers and other operations, particularly when circumstances require us to make changes under tight time constraints. Many of our vendors have experienced adverse effects upon operations, supply chains, personnel, and businesses arising from COVID-19 and other events, all of which can impact our operations as well. For information about how we manage operational risk, see “Operational, Technology, and Cyber Risk Management” on page 65 in MD&A. Technology Risk We could be adversely affected by our ability to develop, adopt, and implement technology advancements. Our ability to remain competitive is increasingly dependent upon our ability to maintain critical technological capabilities, and to identify and develop new, value-added products for existing and future customers. These technological competitive pressures arise from both traditional banking and non-traditional sources. Larger banks may have greater resources and economies of scale attendant to maintaining existing capabilities and developing digital and other technologies. Fintechs and other technology platform companies continue to emerge and compete with traditional financial institutions across a wide variety of products and services. The expansion of blockchain technologies and the potential creation and adoption of central bank digital currencies present similar risks. Our failure to remain technologically competitive could impede our time to market and reduce customer satisfaction, product accessibility, and relevance. We could be adversely impacted by system vulnerabilities, failures, or outages impacting operations and customer services such as online and mobile banking. We rely on hundreds of information technology systems that work together in supporting internal operations and customer services. Vulnerabilities in, or a failure or outage of, one or many of these systems could impact the ability to perform internal operations and provide services to customers such as online banking, mobile banking, remote deposit capture, and other services dependent on system processing. These risks increase as systems and software approach the end of their useful life or require more frequent updates and modifications. We cannot guarantee that such occurrences will not have a significant operational or customer impact. For information regarding risks associated with the replacement or upgrades of our core technology systems, see “Strategic and Business Risk” on page 14 in Risk Factors. For information about how we manage technology risk, see “Operational, Technology, and Cyber Risk Management” on page 65 in MD&A. Cyber Risk We are subject to a variety of system failure and cyber security risks that could adversely affect our business and financial performance. We rely heavily on communications and information systems to conduct our business. We, our customers, and other financial institutions with which we interact, are subject to ongoing, continuous attempts to penetrate key systems by individual hackers, organized criminals, and in some cases, state-sponsored organizations. Information security risks for large financial institutions have increased significantly in recent years, in part because of the proliferation of new technologies and internet connections (e.g., Internet of Things, the internet, and mobile banking to conduct financial transactions) and the increased sophistication and activities of organized crime, hackers, terrorists, nation-states, activists, and other external third parties. 16 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Third parties, including vendors and suppliers, also present operational and information security risks to us, including security breaches or failures of their own systems. In incidents involving third parties, we may not be informed timely of any effect on our services or our data, or be able to participate in any investigation, notification, or remediation that occurs as a result. Any such incidents may have a material adverse effect upon our operations, reputation, customers, and services. The possibility of third-party or employee error, failure to follow security procedures, or malfeasance also presents these risks. As cyber threats continue to evolve, we will be required to expend significant additional resources to continue to modify or enhance our layers of defense or to investigate or remediate any information security vulnerabilities. We, and our third-party vendors, have experienced security breaches due to cyberattacks in the past that have not had material impact to our data, customers, or operations, but there can be no assurance that any such failure, interruption, or significant security breach will not occur in the future, or, if any future occurrences will be adequately addressed . It is impossible to determine the severity or potential effects of these events with any certainty, but any such breach could result in material adverse consequences for us and our customers. System enhancements and updates may also create risks associated with implementing new systems and integrating them with existing ones. Due to the complexity and interconnectedness of information technology systems, the process of enhancing our layers of defense can itself create a risk of systems disruptions and security issues. In addition, addressing certain information security vulnerabilities, such as hardware-based vulnerabilities, may affect the performance of our information technology systems. The ability of our hardware and software providers to deliver patches and updates to mitigate vulnerabilities and our ability to implement them in a timely manner can introduce additional risks, particularly when a vulnerability is being actively exploited by threat actors. The occurrence of any failure, interruption or security breach of our information systems could damage our reputation, result in a loss of customer business, subject us to additional regulatory scrutiny, or expose us to civil litigation and possible financial liability. For information about how we manage cyber risk, see “Operational, Technology, and Cyber Risk Management” on page 65 in MD&A. Capital/Financial Reporting Risk Internal stress testing and capital management, as well as provisions of the National Bank Act and OCC regulations, may limit our ability to increase dividends, repurchase shares of our stock, and access the capital markets. We are required to submit stress tests to the OCC because we have assets in excess of $10 billion, and we continue to utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions. The stress testing and other applicable regulatory requirements may, among other things, require us to increase our capital levels, limit our dividends or other capital distributions to shareholders, modify our business strategies, or decrease our exposure to various asset classes. Under the National Bank Act and OCC regulations, certain capital transactions, including share repurchases, are subject to the approval of the OCC. These requirements may limit our ability to respond to and take advantage of market developments. Economic and other circumstances may require us to raise capital at times or in amounts that are unfavorable to us. We must maintain certain risk-based and leverage capital ratios, as required by our banking regulators, which can change depending upon general economic conditions, as well as the particular conditions, risk profiles, and our growth plans. Compliance with capital requirements may limit our ability to expand and has required, and may require, us to raise additional capital. These uncertainties and risks, including those created by legislative and regulatory uncertainties, may increase our cost of capital and other financing costs. 17 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION We could be adversely affected by accounting, financial reporting, and regulatory compliance risk. We are exposed to accounting, financial reporting, and regulatory compliance risk. We use a number of complex financial products and services for our own capital, funding, investment and risk management needs, and also provide them to our customers. Estimates, judgments, and interpretations of complex and changing accounting and regulatory policies are required in order to provide and account for these products and services. Changes in our accounting policies or in accounting standards could materially affect how we report our financial results and conditions. The level of regulatory compliance oversight continues to be heightened. Therefore, identification, interpretation, and implementation of complex and changing accounting standards, as well as compliance with regulatory requirements, pose an ongoing risk. The value of our goodwill may decline in the future. At December 31, 2021, we had $1 billion of goodwill that was allocated to Amegy Bank (“Amegy”), California Bank & Trust (“CB&T”) and Zions Bank. If the fair value of a reporting unit is determined to be less than its carrying value, we may have to take a charge related to the impairment of our goodwill. Such a charge could result from, among other factors, a significant decline in our expected future cash flows or a sustained decline in the price of our common stock. For information about how we manage capital, see “Capital Management” on page 66 in MD&A. Legal/Compliance Risk Laws and regulations applicable to us and the financial services industry impose significant limitations on our business activities and subject us to increased regulation and additional costs. We, and the entire financial services industry, have incurred, and will continue to incur, substantial costs related to personnel, systems, consulting, and other activities in order to comply with banking regulations. See “Supervision and Regulation” on page 6 for further information about the regulations applicable to us and the financial services industry generally. Regulators, the U.S. Congress, state legislatures, and other governing or consultative bodies continue to enact rules, laws, and policies to regulate the financial services industry and public companies, including laws that are designed to promote, protect, or penalize certain activities or industries and their access to financial services. We are, and may in the future become, subject to these laws by offering our products and services to certain industries or in certain locations. The nature of these laws and regulations and their effect on our future business and performance cannot be predicted. There can be no assurance that any or all of these regulatory changes or actions will ultimately be enacted. However, if enacted, some of these proposals could adversely affect us by, among other thi impacting after-tax returns earned by financial services firms in general; limiting our ability to grow; increasing FDIC insurance assessments, taxes or fees on our funding or activities; limiting the range of products and services that we could offer; and requiring us to raise capital at inopportune times. Political developments may also result in substantial changes in tax, international trade, immigration, and other policies. The extent and timing of any such changes are uncertain, as are the potential direct and indirect impacts, whether beneficial or adverse. Regulations and laws may be modified or repealed, and new legislation may be enacted that will affect us and our subsidiaries. The ultimate impact of these proposals cannot be predicted as it is unclear which, if any, may be enacted. We could be adversely affected by legal and governmental proceedings. We are subject to risks associated with legal claims, litigation, and regulatory and other government proceedings. Our exposure to these proceedings has increased and may further increase as a result of stresses on customers, counterparties, and others arising from the past or current economic environments, more frequent claims and actions resulting from fraud schemes perpetrated by or involving our customers, new regulations promulgated under recently enacted statutes, the creation of new examination and enforcement bodies, and enforcement and legal 18 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION actions against banking organizations. Any such matters may result in material adverse consequences to our results of operations, financial condition or ability to conduct our business, including adverse judgments, settlements, fines, penalties (e.g., civil money penalties under applicable banking laws), injunctions, restrictions on our business activities, or other relief. Our involvement in any such matters, even if the matters are ultimately determined in our favor, could also cause significant harm to our reputation and divert management attention from the operation of our business. In general, the amounts paid by financial institutions in settlement of proceedings or investigations, have been increasing dramatically. This has affected and will continue to adversely affect our ability to obtain insurance coverage for certain claims and significantly increase our deductibles and premiums associated with the coverage. In addition, any enforcement matters could impact our supervisory and CRA ratings, which may restrict or limit our activities. The corporate and securities laws applicable to us are not as well-developed as those applicable to a state-chartered corporation, which may impact our ability to effect corporate transactions in an efficient and optimal manner. Our corporate affairs are governed by the National Bank Act, and related regulations are administered by the OCC. As to securities laws, the OCC maintains its own securities offering framework applicable to national banks and their securities offerings, and our compliance with the Exchange Act is governed and enforced by the OCC. State corporate codes, including that of Utah, are widely recognized, updated by legislative action from time-to-time, and are often based on and influenced by model statutes. The federal securities law regime established by the Securities Act and the Exchange Act and the SEC’s extensive and well-developed framework thereunder are widely used by public companies. The OCC statutory and regulatory frameworks have been used by publicly-traded banking organizations relatively rarely and are not as well-developed as the corporate and securities law frameworks applicable to other public corporations. While certain specific risks associated with operating under these frameworks are described below, unless and until these frameworks are further developed and established over time, the uncertainty of how these frameworks might apply to any given corporate or securities matters may prevent us from effecting transactions in an efficient and optimal manner or perhaps at all. Differences between the National Bank Act and state law requirements regarding mergers could hinder our ability to execute acquisitions as efficiently and advantageously as bank holding companies or other financial institutions. Unlike state corporate law, the National Bank Act requires shareholder approval of all mergers between a national bank and another national or state bank and does not allow for exceptions in the case of various “minor” mergers, such as a parent company’s merger with a subsidiary or an acquirer’s merger with an unaffiliated entity in which the shares issued by the acquirer do not exceed a designated percentage. The National Bank Act and related regulations may also complicate the structuring of certain nonbank acquisitions. These differences could adversely affect the ability of the Bank and other banks registered under the National Bank Act to efficiently consummate acquisition transactions. In addition, such differences could make us less competitive as a potential acquirer in certain circumstances given that our acquisition proposal may be conditioned on shareholder approval while our competitors’ proposals will not have such a condition. We are subject to restrictions on permissible activities that would limit the types of business we may conduct and that may make acquisitions of other financial companies more challenging. Under applicable laws and regulations, bank holding companies and banks are generally limited to business activities and investments that are related to banking or are financial in nature. The range of permissible financial activities is set forth in the Gramm-Leach-Bliley Act and is more limited for banks than for bank holding company organizations. The differences relate mainly to insurance underwriting (but not insurance agency activities) and merchant banking (but not broker-dealer and investment advisory activities). The fact that we do not have a bank holding company could make future acquisitions of financial institutions with such operations more challenging. 19 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Reputational Risk We are presented with various reputational risk issues that could stem from operational, regulatory, compliance, and legal risks. Any of the aforementioned risks may give rise to adverse publicity and other expressions of negative public opinion, increased regulatory scrutiny, and damaged relationships among other reputational risks. Other Risk Our business, financial condition, liquidity and results of operations have been, and will likely continue to be, adversely affected by the COVID-19 pandemic. The COVID-19 pandemic created economic, financial, and social disruptions that have adversely affected, and are likely to continue to adversely affect, our business, financial condition, and results of operations, including the direct and indirect impact on our employees, customers, communities, counterparties, service providers, other market participants, and actions taken by governmental authorities and other third parties in response to the pandemic. The pandemic is likely to continue to affect consumer confidence and business activity generally, including loan demand, deposit levels, and the market for other financial products or services. Disruptions in supply chains have in some instances adversely affected our ability to procure equipment and materials for our employees and facilities in a timely fashion and may increase our costs for the same. Pressures on the cost and availability of labor have also negatively affected us and many of our customers. These disruptions are likely to continue as the pandemic evolves. The extent to which the COVID-19 pandemic will negatively affect our businesses, financial condition, liquidity, and results of operations will depend on future developments that are highly uncertain and cannot be predicted. Uncertainties arising from evolving political and governmental responses to the pandemic, such as vaccine and testing mandates and other workplace policies and requirements, will also continue to impact our business and results, particularly as more of our employees return to our physical locations. The long-term effects of the pandemic and the increasing interest in remote-work environments may reduce our need for physical office space while negatively impacting our ability to sell or sublease any excess space or selling and lease termination expenses associated with our leased and owned properties. ESG-related developments could lead or require us to restrict or modify some of our business activities. ESG expectations of investors and regulators could, over time, lead us to restrict or modify some of our business practices. In addition, our business practices could be adversely affected by laws and regulations enacted or promulgated by federal, state, and local governments that relate to environmental and social issues. For example, in 2021 and 2022, certain states passed or considered passing laws prohibiting financial institutions from restricting the services that they provide to certain types of businesses if the institutions also conduct business with governmental entities in such states. Depending on how these laws are worded and implemented, they could adversely affect our ability to manage risk. ITEM 1B. UNRESOLVED STAFF COMMENTS There are no unresolved written comments that were received from the SEC’s or OCC’s staff 180 days or more before the end of our fiscal year relating to our periodic or current reports filed under the Securities Exchange Act of 1934. ITEM 2. PROPERTIES At December 31, 2021, we operated 418 branches, of which 274 are owned and 144 are leased. We also lease our headquarters in Salt Lake City, Utah. The annual rentals under long-term leases for leased premises are determined under various formulas and factors, including operating costs, maintenance, and taxes. For additional information regarding leases and rental payments, see Note 8 of the Notes to Consolidated Financial Statements. 20 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ITEM 3. LEGAL PROCEEDINGS The information contained in Note 16 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 4. MINE SAFETY DISCLOSURES None. PART II ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES PREFERRED STOCK We have 4.4 million authorized shares of preferred stock without par value and with a liquidation preference of $1,000 per share. As of December 31, 2021, 66,139, 138,391, 98,555, and 136,368 of preferred shares series A, G, I, and J respectively, are outstanding. See Note 14 of the Notes to Consolidated Financial Statements for further information regarding our preferred stock. COMMON STOCK Market Information Our common stock is traded on the NASDAQ Global Select Market under the symbol “ZION.” The last reported sale price of the common stock on NASDAQ was $71.65 per share on February 7, 2022. Equity Capital and Dividends As of February 7, 2022, there were 3,699 holders of record of our common stock. In January 2022, our Board declared a dividend of $0.38 per common share payable on February 24, 2022 to shareholders of record on February 17, 2022. Common Stock Warrants During the second quarter of 2020, 29.2 million common stock warrants (NASDAQ: ZIONW) expired out-of-the-money. Each common stock warrant was convertible into 1.10 shares at an exercise price of $33.31. Share Repurchases During 2021, we repurchased 13.5 million common shares outstanding for $800 million at an average price of $59.27 per share, which was equivalent to 8.2% of common stock outstanding as of the prior year-end. During 2020, we repurchased 1.7 million common shares outstanding for $75 million at an average price of $45.02. In February 2022, we repurchased 107,559 common shares outstanding for $7.5 million at an average price of $69.73. The following schedule summarizes our share repurchases for the fourth quarter of 2021: Fourth Quarter of 2021 Share Repurchases Period Total number of shares repurchased 1 Average price paid per share October 114,006 $ 63.56 November 4,887,699 $ 65.06 December — — Fourth quarter total 5,001,705 $ 65.03 1 Includes common shares acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. 21 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Performance Graph The following stock performance graph compares the five-year cumulative total return of our common stock with the Standard and Poor’s (“S&P”) 500 Index and the Keefe, Bruyette & Woods, Inc. (“KBW”) Regional Bank Index (“KRX”). The KRX is a modified market capitalization-weighted regional bank and thrift stock index developed and published by KBW, a nationally recognized brokerage and investment banking firm specializing in bank stocks. The index is composed of 50 geographically diverse stocks representing regional banks or thrifts. The stock performance graph is based upon an initial investment of $100 on December 31, 2016 and assumes reinvestment of dividends. PERFORMANCE GRAPH FOR ZIONS BANCORPORATION, N.A. INDEXED COMPARISON OF 5-YEAR CUMULATIVE TOTAL RETURN 2016 2017 2018 2019 2020 2021 Zions Bancorporation, N.A. 100.0 119.3 97.5 127.8 111.0 165.4 KRX Regional Bank Index 100.0 101.8 84.0 104.1 95.0 129.8 S&P 500 100.0 121.8 116.5 153.1 181.3 233.3 SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS The information contained in Item 12 of this Form 10-K is incorporated by reference herein. ITEM 6. [RESERVED] ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS MANAGEMENT’S DISCUSSION AND ANALYSIS GAAP to NON-GAAP RECONCILIATIONS This Form 10-K presents non-GAAP financial measures, in addition to Generally Accepted Accounting Principles (“GAAP”) financial measures, to provide investors with additional information. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results as they provide a basis for period-to-period and company-to-company comparisons. We use these non-GAAP financial measures to assess our performance, financial position, and for presentations of our performance to investors. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by management. 22 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under GAAP. Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a company more consistently, whether acquired or developed internally. Schedule 2 RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Year Ended December 31, (Dollar amounts in millions) 2021 2020 2019 Net earnings applicable to common shareholders (a) $ 1,100 $ 505 $ 782 Average common equity (GAAP) $ 7,371 $ 7,050 $ 6,965 Average goodwill and intangibles (1,015) (1,015) (1,014) Average tangible common equity (non-GAAP) (b) $ 6,356 $ 6,035 $ 5,951 Return on average tangible common equity (non-GAAP) (a/b) 17.3 % 8.4 % 13.1 % Schedule 3 TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) December 31, 2021 2020 2019 Total shareholders’ equity (GAAP) $ 7,463 $ 7,886 $ 7,353 Goodwill and intangibles (1,015) (1,016) (1,014) Tangible equity (non-GAAP) (a) 6,448 6,870 6,339 Preferred stock (440) (566) (566) Tangible common equity (non-GAAP) (b) $ 6,008 $ 6,304 $ 5,773 Total assets (GAAP) $ 93,200 $ 81,479 $ 69,172 Goodwill and intangibles (1,015) (1,016) (1,014) Tangible assets (non-GAAP) (c) $ 92,185 $ 80,463 $ 68,158 Common shares outstanding (thousands) (d) 151,625 164,090 165,057 Tangible equity ratio (non-GAAP) (a/c) 7.0 % 8.5 % 9.3 % Tangible common equity ratio (non-GAAP) (b/c) 6.5 % 7.8 % 8.5 % Tangible book value per common share (non-GAAP) (b/d) $39.62 $38.42 $34.98 Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. The methodology for determining the efficiency ratio may differ among companies. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allow for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how well we are managing our expenses; adjusted pre-provision net revenue (“PPNR”) enables management and others to assess our ability to generate capital to cover credit losses through a credit cycle. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. 23 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Schedule 4 EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) (Dollar amounts in millions) 2021 2020 2019 Noninterest expense (GAAP) (a) $ 1,741 $ 1,704 $ 1,742 Adjustments: Severance costs 1 1 25 Other real estate expense, net — 1 (3) Amortization of core deposit and other intangibles 1 — 1 Restructuring costs — 1 15 Pension termination-related expense 1 (5) 28 — SBIC investment success fee accrual 2 7 — — Total adjustments (b) 4 31 38 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 1,737 $ 1,673 $ 1,704 Net interest income (GAAP) (d) $ 2,208 $ 2,216 $ 2,272 Fully taxable-equivalent adjustments (e) 32 28 26 Taxable-equivalent net interest income (non-GAAP) (d+e)=(f) 2,240 2,244 2,298 Noninterest income (GAAP) (g) 703 574 562 Combined income (non-GAAP) (f+g)=(h) 2,943 2,818 2,860 Adjustments: Fair value and nonhedge derivative gain/(loss) 14 (6) (9) Securities gains, net 71 7 3 Total adjustments (i) 85 1 (6) Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 2,858 $ 2,817 $ 2,866 Pre-provision net revenue (non-GAAP) (h)-(a) $ 1,202 $ 1,114 $ 1,118 Adjusted pre-provision net revenue (non-GAAP) (j-c) 1,121 1,144 1,162 Efficiency ratio (non-GAAP) (c/j) 60.8 % 59.4 % 59.5 % 1 Represents the expense incurred to terminate our defined benefit pension plan during the second quarter of 2020, and a subsequent refund received during the first quarter of 2021. 2 The success fee accrual is associated with the gains/(losses) from our SBIC investments. The gains/(losses) related to these investments are excluded from the efficiency ratio through securities gains, net. 24 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Key Corporate Objectives We conduct our operations through seven separately managed affiliates, each with its own local branding and management team. We focus our efforts and resources to maintain a competitive advantage and to achieve our desired growth objectives. In particular, we are strategically focused on four growth areas: small businesses, mid-sized commercial businesses, affluent customers, and capital markets. The graphic below illustrates these key corporate objectives. We strive to achieve balanced growth of customers, PPNR, and earnings per share (“EPS”). Our incentive compensation plans are designed to support our growth objectives, as disclosed in our proxy statements. To facilitate the achievement of these objectives, we invest in the following five key areas, referred to as “strategic enablers”: • Risk Management — we invest in enhanced risk management practices to ensure prudent risk taking and appropriate oversight. • People and Empowerment — we invest in training our employees and providing them the tools and resources to build their capabilities, while promoting a diverse, inclusive, and equitable culture. • Technology — we invest in technologies that will make us more efficient and enable us to remain competitive while helping to insulate us from the risks of bank-disrupting technology companies. • Operational Excellence — we invest in and support ongoing improvements in how we safely and securely deliver value to our customers. • Data and Analytics — we invest in advanced enterprise data and analytics to support local execution and prudent decision-making. 25 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION RESULTS OF OPERATIONS Navigating Through the Ongoing Pandemic The COVID-19 pandemic continued to impact our operations throughout 2021, though its effects varied compared with the prior year. • During 2020, credit concerns were high given the significant uncertainty of the depth and duration of the pandemic and the related shut-downs, which resulted in a significant increase in the allowance for credit losses. However, with strong government stimulus and the development of vaccines and treatments, consumer and business spending rebounded in 2021. As such, credit concerns abated significantly during 2021, resulting in significant releases of the credit loss reserves we added in 2020. • Since the beginning of the pandemic, we funded $10.2 billion of Paycheck Protection Program (“PPP”) loans ($2.9 billion in 2021 and $7.3 billion in 2020) for approximately 77,000 customers, positively impacting loan balances and interest income. We ranked as the 10th largest originator of PPP loans by dollar volume of all the participating financial institutions, as disclosed by the U.S. Small Business Administration (“SBA”). In 2021, we continued to strengthen our relationships with more than 20,000 new-to-bank PPP customers, which resulted in additional revenue generating services. Total interest income from PPP loans during 2021 was $235 million, of which $138 million was related to accelerated recognition of net unamortized deferred fees on $6.5 billion of PPP loans forgiven by the SBA. • Demand for loans softened considerably in 2020 as a result of increased uncertainty and reduced economic activity. Loan attrition continued in 2021, but reversed course during the latter half of the year. Excluding PPP, loan growth in the fourth quarter of 2021 was robust, reflecting one of our strongest growth rates in recent years. • As with the prior year, we assisted our employees in adapting to a work-from-home environment, where applicable, to help limit the spread of COVID-19, by modifying operating hours, limiting lobby visits, and requiring masks, to help keep our employees and communities safe. • The domestic money supply, as measured by the Federal Reserve, increased significantly in 2021. This increase, together with our ongoing efforts to deepen relationships with customers, positively affected our deposit growth. • As 2021 progressed, we experienced elevated turnover rates in some of our entry-level jobs and found it increasingly difficult to fill employment vacancies, a challenge faced by many companies. In response, we have adjusted both cash and non-cash compensation and benefits to stem the turnover, which has generally normalized. Our Financial Performance This section and other sections provide information about our recent financial performance. For information about our results of operations for 2020 compared with 2019, see the respective sections in MD&A included in our 2020 Form 10-K. 26 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency ratio Net earnings applicable to common shareholders increased from 2020, primarily due to a significant decrease in our reserves for credit losses and broad-based improvement in noninterest income year-over-year. Diluted earnings per share increased from 2020 as a result of increased net earnings and a 5.4 million decrease in average diluted shares, primarily due to share repurchases. Adjusted PPNR decreased from 2020, primarily due to the increase in other noninterest expense, driven by increases in salaries and benefits and professional and legal expenses, partially offset by increases in customer-related noninterest income. The efficiency ratio increased from the prior year, primarily as growth in adjusted noninterest expense outpaced growth in adjusted taxable-equivalent revenue. Relative to 2020, our financial performance for 2021 refle • Stable net interest income, driven largely by significant increases in average interest-earning assets. Growth in these assets contributed to compression in the net interest margin (“NIM”), given an increased concentration in lower-yielding assets, and the low interest rate environment. • Significant growth of $11.1 billion, or 16%, in average interest-earning assets, and an increase of $12.6 billion, or 20%, in average total deposits. This deposit growth funded increases of $8.0 billion and $4.2 billion in average money market investments and average investment securities, respectively. We actively managed our balance sheet in view of the low interest rate environment, and evaluated opportunities to deploy excess liquidity into short-to-medium duration assets. We balanced competing objectives of increasing income, maintaining asset sensitivity to benefit from rising rates, maintaining sufficient liquidity for changes in deposit trends, and supporting loan growth. • A $129 million, or 22%, increase in total noninterest income. Increases in customer-related fees were primarily due to improved customer transaction volume, new client activity, and deepening of existing client relationships, specifically resulting in the growth of card, commercial account, and wealth management fees. Increases in noncustomer-related revenue were driven largely by net securities gains related to our Small Business Investment Company (“SBIC”) investment portfolio. • An increase of $37 million, or 2%, in noninterest expense, arising from inflationary and competitive labor pressures on wages and higher profit sharing expense, as well as increases in professional and legal services expenses, mainly due to various technology-related and other outsourced services associated with ongoing investments in our core technology systems. • Strong credit performance. Net loan and lease charge-offs were $6 million, or 0.01% of average loans (ex-PPP), in 2021, compared with net charge-offs of $105 million, or 0.22% of average loans (ex-PPP), in the prior year. The provision for credit losses was a negative $276 million in 2021, compared with a positive $414 million in 2020, reflecting improvements in economic forecasts, loan portfolio changes, and strong credit quality. • A decrease of $2.6 billion, or 5%, in total loans and leases, due to the forgiveness of PPP loans and a decline in 1-4 family residential mortgage loans. Excluding PPP loans, total loans and leases increased $1.1 billion, or 2%, reflecting improving loan growth trends during the second half of 2021. 27 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The result of the items discussed above yielded a 118% increase in net earnings applicable to common shareholders and a 125% increase in earnings per diluted share from the prior year. The following schedule presents additional selected financial highlights. Prior period amounts have been reclassified to conform with the current period presentation, where applicable. Schedule 5 SELECTED FINANCIAL HIGHLIGHTS 1 (Dollar amounts in millions, except per share amounts) 2021/2020 Change 2021 2020 2019 2018 2017 For the Year Net interest income — % $ 2,208 $ 2,216 $ 2,272 $ 2,230 $ 2,065 Noninterest income +22 % 703 574 562 552 544 Total net revenue +4 % 2,911 2,790 2,834 2,782 2,609 Provision for credit losses NM (276) 414 39 (40) 17 Noninterest expense +2 % 1,741 1,704 1,742 1,679 1,656 Pre-provision net revenue +8 % 1,202 1,114 1,118 1,125 988 Net income +109 % 1,129 539 816 884 592 Net earnings applicable to common shareholders +118 % 1,100 505 782 850 550 Per Common Share Net earnings – diluted +125 % 6.79 3.02 4.16 4.08 2.60 Tangible book value at year-end +3 % 39.62 38.42 34.98 31.97 30.87 Market price – end +45 % 63.16 43.44 51.92 40.74 50.83 Market price – high +30 % 68.25 52.48 52.08 59.19 52.20 Market price – low +79 % 42.12 23.58 39.11 38.08 38.43 At Year-End Assets +14 % 93,200 81,479 69,172 68,746 66,288 Loans and leases, net of unearned income and fees -5 % 50,851 53,476 48,709 46,714 44,780 Deposits +19 % 82,789 69,653 57,085 54,101 52,621 Common equity -4 % 7,023 7,320 6,787 7,012 7,113 Performance Ratios Return on average assets 1.29% 0.71% 1.17% 1.33% 0.91% Return on average common equity 14.9% 7.2% 11.2% 12.1% 7.7% Return on average tangible common equity 17.3% 8.4% 13.1% 14.2% 9.0% Net interest margin 2.72% 3.15% 3.54% 3.61% 3.45% Net charge-offs to average loans and leases (ex-PPP) 0.01% 0.22% 0.08% (0.04)% 0.17% Total allowance for credit losses to loans and leases outstanding (ex-PPP) 1.13% 1.74% 1.14% 1.18% 1.29% Capital Ratios at Year-End Common equity tier 1 capital 10.2% 10.8% 10.2% 11.7% 12.1% Tier 1 leverage 7.2% 8.3% 9.2% 10.3% 10.5% Tangible common equity 6.5% 7.8% 8.5% 8.9% 9.3% Other Selected Information Weighted average diluted common shares outstanding (in thousands) -3 % 160,234 165,613 186,504 206,501 209,653 Bank common shares repurchased (in thousands) +710 % 13,497 1,666 23,505 12,943 7,009 Dividends declared +6 % 1.44 1.36 1.28 1.04 0.44 Common dividend payout ratio 2 21.1% 44.6% 29.0% 23.8% 16.2% Capital distributed as a percentage of net earnings applicable to common shareholders 3 94% 59% 170% 103% 74% Efficiency ratio 60.8% 59.4% 59.5% 59.6% 62.3% 1 This table includes certain non-GAAP measures. See “GAAP to Non-GAAP Reconciliations” on page 22 for more information. 2 The common dividend payout ratio is equal to common dividends paid divided by net earnings applicable to common shareholders. 3 This ratio is the common dividends paid plus share repurchases for the year, divided by net earnings applicable to common shareholders. 28 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Net Interest Income and Net Interest Margin Net interest income is the difference between interest earned on interest-earning assets and interest paid on interest-bearing liabilities and is approximately 76% of our net revenue (net interest income plus noninterest income) for the year. The NIM is derived from both the amount of interest-earning assets and interest-bearing liabilities and their respective yields and rates. Schedule 6 NET INTEREST INCOME AND NET INTEREST MARGIN Amount change Percent change Amount change Percent change (Dollar amounts in millions) 2021 2020 2019 Interest and fees on loans $ 1,935 $ (115) (6) % $ 2,050 $ (239) (10) % $ 2,289 Interest on money market investments 21 7 50 14 (18) (56) 32 Interest on securities 311 7 2 304 (58) (16) 362 Total interest income 2,267 (101) (4) 2,368 (315) (12) 2,683 Interest on deposits 30 (75) (71) 105 (149) (59) 254 Interest on short- and long-term borrowings 29 (18) (38) 47 (110) (70) 157 Total interest expense 59 (93) (61) 152 (259) (63) 411 Net interest income $ 2,208 $ (8) — % $ 2,216 $ (56) (2) % $ 2,272 Average interest-earning assets $ 82,267 $ 11,108 16 % $ 71,159 $ 6,217 10 % $ 64,942 Average interest-bearing liabilities 40,750 2,512 7 % 38,238 563 1 % 37,675 bps bps Yield on interest-earning assets 1 2.79 % (58) 3.37 % (80) 4.17 % Rate paid on total deposits and interest-bearing liabilities 1 0.07 % (15) 0.22 % (45) 0.67 % Cost of total deposits 1 0.04 % (13) 0.17 % (29) 0.46 % Net interest margin 1 2.72 % (43) 3.15 % (39) 3.54 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. Net interest income remained relatively stable at $2.2 billion in 2021, relative to the prior year, and was driven largely by a significant increase in average interest-earning assets. Growth in these assets had a dilutive effect on the NIM, given an increased concentration in lower-yielding assets and the low interest rate environment. Average interest-earning assets increased $11.1 billion, or 16%, driven by growth in average money market investments and investment securities. These increases were partially offset by declines in consumer mortgage loans. Average money market investments, including short-term deposits held at the Federal Reserve, increased to 13.4% of average interest-earning assets, compared with 4.3%. Average securities increased to 23.3% of average interest-earning assets, compared with 21.1%, as we have actively deployed excess liquidity into short-to-medium duration assets. The NIM was 2.72%, compared with 3.15%. The yield on average interest-earning assets was 2.79% in 2021, a decrease of 58 basis points (“bps”). The yield on total loans decreased 13 bps to 3.76%, compared with 3.89%. Excluding PPP loans, the yield on loans decreased 33 bps. The yield on securities decreased 42 bps, primarily due to lower yields on re-investment of principal payments and other purchases throughout 2021. 29 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Average loans and leases decreased $1.0 billion, or 2%, from $53.0 billion in 2020, primarily due to a decrease in 1-4 family residential mortgage loans. The decline in our mortgage loan portfolio is partly due to the low interest rate environment and refinancing activity. We generally originate residential mortgage loans and sell them to government-sponsored entities as part of our interest rate risk management efforts to limit our balance sheet exposure to long-term assets. Since early 2020, we provided assistance to many small businesses through the SBA PPP and originated a total of $10.2 billion in PPP loans. During 2021 and 2020, PPP loans totaling $6.5 billion and $1.3 billion, respectively, were forgiven by the SBA. The yield on these loans was 5.16% and 3.22% for 2021 and 2020, respectively, and was positively impacted by accelerated amortization of deferred fees on paid off or forgiven PPP loans of $138 million and $26 million. At December 31, 2021 and 2020, the remaining unamortized net origination fees on these loans totaled $45 million and $102 million, respectively. Average total deposits increased $12.6 billion to $76.3 billion at an average cost of 0.04% in 2021, from $63.7 billion at an average cost of 0.17% in 2020. Average interest-bearing liabilities increased $2.5 billion, or 7%, and the average rate paid on interest-bearing liabilities decreased 26 bps to 0.14%. The rate paid on total deposits and interest-bearing liabilities was 0.07%, a significant decrease from 0.22% during 2020, which was primarily due to low interest-bearing deposit rates and strong noninterest-bearing deposit growth. 30 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Average available-for-sale (“AFS”) securities balances increased $4.2 billion, or 29%, in 2021, from $14.2 billion in 2020, mainly due to an increase in our mortgage-backed securities portfolio. Average borrowed funds decreased $1.4 billion in 2021, with average short-term borrowings decreasing $1.1 billion, and average long-term borrowings decreasing $0.3 billion. The average rate paid on short-term borrowings decreased 45 bps; the rate paid on long-term debt decreased 9 bps from the prior year, primarily due to senior debt that matured during 2021. We continued to rely less on borrowed funds due to strong deposit growth during the year. Refer to the “Interest Rate and Market Risk Management” section on page 57 for more information on how we manage interest rate risk, and the “Liquidity Risk Management” section beginning on page 62 for more information on how we manage liquidity risk. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 31 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Schedule 7 - AVERAGE BALANCE SHEETS, YIELDS, AND RATES 2021 2020 (Dollar amounts in millions) Average balance Amount of interest Average rate 1 Average balance Amount of interest Average rate 1 ASSETS Money market investments: Interest-bearing deposits $ 8,917 $ 12 0.14 % $ 965 $ 5 0.49 % Federal funds sold and security resell agreements 2,129 9 0.40 2,089 9 0.44 Total money market investments 11,046 21 0.19 3,054 14 0.46 Securiti Held-to-maturity 562 17 2.97 618 22 3.54 Available-for-sale 18,365 292 1.59 14,208 284 2.00 Trading account 246 11 4.43 167 7 4.36 Total securities 2 19,173 320 1.67 14,993 313 2.09 Loans held for sale 65 1 2.35 96 4 3.89 Loans and leases 3 Commercial - excluding PPP loans 25,014 950 3.80 25,193 1,036 4.11 Commercial - PPP loans 4,566 235 5.16 4,534 146 3.22 Commercial real estate 12,136 418 3.44 11,854 458 3.87 Consumer 10,267 354 3.44 11,435 425 3.71 Total loans and leases 51,983 1,957 3.76 53,016 2,065 3.89 Total interest-earning assets 82,267 2,299 2.79 71,159 2,396 3.37 Cash and due from banks 605 619 Allowance for credit losses on loans and debt securities (612) (733) Goodwill and intangibles 1,015 1,015 Other assets 4,122 3,997 Total assets $ 87,397 $ 76,057 LIABILITIES AND SHAREHOLDERS' EQUITY Interest-bearing deposits: Saving and money market $ 36,717 $ 21 0.06 % $ 31,100 $ 60 0.19 % Time 2,020 9 0.41 3,706 45 1.22 Total interest-bearing deposits 38,737 30 0.08 34,806 105 0.30 Borrowed funds: Federal funds purchased and other short-term borrowings 802 1 0.07 1,888 10 0.52 Long-term debt 1,211 28 2.36 1,544 37 2.45 Total borrowed funds 2,013 29 1.45 3,432 47 1.39 Total interest-bearing liabilities 40,750 59 0.14 38,238 152 0.40 Noninterest-bearing demand deposits 37,520 28,883 Other liabilities 1,259 1,320 Total liabilities 79,529 68,441 Shareholders’ equity: Preferred equity 497 566 Common equity 7,371 7,050 Total shareholders’ equity 7,868 7,616 Total liabilities and shareholders’ equity $ 87,397 $ 76,057 Spread on average interest-bearing funds 2.65 2.97 Net impact of noninterest-bearing sources of funds 0.07 0.18 Net interest margin $ 2,240 2.72 $ 2,244 3.15 Me Total loans and leases, excluding PPP loans 47,417 1,722 3.63 48,482 1,919 3.96 Me Total cost of deposits 0.04 0.17 Me Total deposits and interest-bearing liabilities 78,270 59 0.07 67,121 152 0.22 1 Rates are calculated using amounts in thousands and tax rates of 21% for 2021, 2020, 2019 and 2018, and 35% for 2017. The taxable-equivalent rates used are the rates that were applicable at the time of each respective reporting period. 2 Interest on total securities included $118 million and $111 million of taxable-equivalent premium amortization for 2021 and 2020, respectively. 3 Net of unearned income and fees, net of related costs. Loans include nonaccrual and restructured loans. 32 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 2019 2018 2017 Average balance Amount of interest Average rate 1 Average balance Amount of interest Average rate 1 Average balance Amount of interest Average rate 1 $ 717 $ 16 2.23 % $ 758 $ 15 1.90 % $ 1,105 $ 12 1.06 % 629 16 2.61 602 14 2.39 434 7 1.65 1,346 32 2.41 1,360 29 2.12 1,539 19 1.23 706 26 3.69 781 28 3.56 776 31 3.95 14,389 340 2.36 14,712 328 2.23 14,907 313 2.10 147 6 4.45 109 4 3.97 64 2 3.75 15,242 372 2.45 15,602 360 2.31 15,747 346 2.20 89 3 2.90 53 2 4.63 87 3 3.56 24,990 1,215 4.86 23,333 1,118 4.79 22,116 964 4.36 — — — — — — — — — 11,675 597 5.11 11,079 549 4.95 11,184 504 4.50 11,600 490 4.22 11,013 445 4.04 10,201 391 3.84 48,265 2,302 4.77 45,425 2,112 4.65 43,501 1,859 4.27 64,942 2,709 4.17 62,440 2,503 4.01 60,874 2,227 3.65 610 549 786 (501) (495) (548) 1,014 1,015 1,019 3,506 3,060 2,985 $ 69,571 $ 66,569 $ 65,116 $ 26,852 $ 160 0.60 % $ 25,480 $ 81 0.32 % $ 25,453 $ 39 0.15 % 4,868 94 1.94 3,876 54 1.38 2,966 20 0.69 31,720 254 0.80 29,356 135 0.46 28,419 59 0.21 4,719 111 2.36 4,562 88 1.93 4,096 44 1.05 1,236 46 3.69 535 28 5.21 417 24 5.79 5,955 157 2.64 5,097 116 2.27 4,513 68 1.49 37,675 411 1.09 34,453 251 0.73 32,932 127 0.38 23,361 23,827 23,781 1,004 699 624 62,040 58,979 57,337 566 566 631 6,965 7,024 7,148 7,531 7,590 7,779 $ 69,571 $ 66,569 $ 65,116 3.08 3.28 3.27 0.46 0.33 0.18 $ 2,298 3.54 $ 2,252 3.61 $ 2,100 3.45 48,265 2,302 4.77 45,425 2,112 4.65 43,501 1,859 4.27 0.46 0.25 0.11 61,036 411 0.67 58,280 251 0.78 56,713 127 0.40 33 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents year-to-year changes in net interest income on a fully taxable-equivalent basis for the years indicated. For purposes of calculating the yields in this schedule, the average loan balances also include the principal amounts of nonaccrual and restructured loans. Interest payments received on nonaccrual loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. In addition, interest on restructured loans is generally accrued at modified rates. In the analysis of taxable-equivalent net interest income changes due to volume and rate, changes are allocated to volume with the following exceptio when volume and rate both increase, the variance is allocated proportionately to both volume and rate; when the rate increases and volume decreases, the variance is allocated to rate. Schedule 8 ANALYSIS OF TAXABLE-EQUIVALENT NET INTEREST INCOME CHANGES DUE TO VOLUME AND RATE 2021 over 2020 2020 over 2019 Changes due to Total changes Changes due to Total changes (In millions) Volume Rate 1 Volume Rate 1 INTEREST-EARNING ASSETS Money market investments: Interest-bearing deposits $ 11 $ (4) $ 7 $ 1 $ (12) $ (11) Federal funds sold and security resell agreements 1 (1) — 6 (13) (7) Total money market investments 12 (5) 7 7 (25) (18) Securiti Held-to-maturity (1) (4) (5) (3) (1) (4) Available-for-sale 66 (58) 8 (4) (52) (56) Trading account 4 — 4 1 — 1 Total securities 69 (62) 7 (6) (53) (59) Loans held for sale (1) (2) (3) (1) 2 1 Loans and leases 2 Commercial - excluding SBA PPP loans (7) (79) (86) 9 (188) (179) Commercial - SBA PPP loans 1 88 89 — 146 146 Commercial real estate 10 (50) (40) 6 (145) (139) Consumer (39) (32) (71) (5) (60) (65) Total loans and leases (35) (73) (108) 10 (247) (237) Total interest-earning assets 45 (142) (97) 10 (323) (313) INTEREST-BEARING LIABILITIES Interest-bearing deposits: Saving and money market 2 (41) (39) 9 (109) (100) Time (6) (30) (36) (14) (35) (49) Total interest-bearing deposits (4) (71) (75) (5) (144) (149) Borrowed funds: Federal funds purchased and other short-term borrowings — (9) (9) (15) (86) (101) Long-term debt (8) (1) (9) 7 (16) (9) Total borrowed funds (8) (10) (18) (8) (102) (110) Total interest-bearing liabilities (12) (81) (93) (13) (246) (259) Change in taxable-equivalent net interest income $ 57 $ (61) $ (4) $ 23 $ (77) $ (54) 1 Taxable-equivalent rates used where applicable. 2 Net of unearned income and fees, net of related costs. Loans include nonaccrual and restructured loans. 34 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans. On January 1, 2020, we adopted Accounting Standards Update (“ASU”) 2016-13, Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, and its subsequent updates, often referred to as the Current Expected Credit Loss (“CECL”) model. Upon adoption of this ASU, we recorded the full amount of the ACL for loans and leases of $526 million, resulting in an after-tax increase to retained earnings of $20 million. The impact of the adoption of CECL for our securities portfolio was less than $1 million. As a result of the CECL accounting standard, the ACL is subject to economic forecasts that may change materially from period to period. The provision for credit losses, which is the combination of both the provision for loan losses and the provision for unfunded lending commitments, was a negative $276 million in 2021, compared with a positive $414 million in 2020. The ACL decreased $282 million to $553 million at December 31, 2021. The ratio of ACL to net loans and leases (ex-PPP) at December 31, 2021 and 2020 was 1.13% and 1.74%, respectively. The provision for security losses was less than $1 million during 2021 and 2020. 35 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The ACL was $553 million at December 31, 2021, compared with $835 million at December 31, 2020. The bar chart above shows the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic forecasts and current economic conditions, which decreased the ACL by $220 million from the prior year due to improvements in both realized economic results and economic forecasts, compared with the economic stress caused by the COVID-19 pandemic in the prior year, and was partially offset by the expected impact of the resurgence of COVID-19 cases resulting from the Omicron variant. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, decreased the ACL by $25 million, indicating significant improvements in credit quality. Net loan and lease charge-offs were $6 million, or 0.01% of average loans (ex-PPP) in 2021, compared with $105 million, or 0.22% of average loans (ex-PPP) in the prior year, reflecting strong credit performance. The fourth bar represents loan portfolio changes, driven by changes in portfolio mix, the aging of the portfolio, and other risk factors; all of which resulted in a $37 million reduction in the ACL. See Note 6 of the Notes to Consolidated Financial Statements for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue we earn from products and services that generally have no associated interest rate or yield and is classified as either customer-related fees or noncustomer-related revenue. Customer-related fees exclude items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income increased $129 million, or 22%, in 2021. Noninterest income accounted for 24% and 21% of net revenue during 2021 and 2020, respectively. The following schedule presents a comparison of the major components of noninterest income. 36 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Schedule 9 NONINTEREST INCOME (Dollar amounts in millions) 2021 Amount change Percent change 2020 Amount change Percent change 2019 Commercial account fees $ 134 $ 9 7 % $ 125 $ 4 3 % $ 121 Card fees 95 13 16 82 (10) (11) 92 Retail and business banking fees 74 6 9 68 (10) (13) 78 Loan-related fees and income 95 (14) (13) 109 34 45 75 Capital markets and foreign exchange fees 73 (4) (5) 77 (1) (1) 78 Wealth management fees 1 50 6 14 44 4 10 40 Other customer-related fees 54 10 23 44 3 7 41 Total customer-related fees 575 26 5 % 549 24 5 % 525 Fair value and nonhedge derivative income (loss) 14 20 NM (6) 3 (33) (9) Dividends and other income 43 19 79 24 (19) (44) 43 Securities gains (losses), net 71 64 NM 7 4 NM 3 Total noncustomer-related revenue 128 103 NM 25 (12) (32) 37 Total noninterest income $ 703 $ 129 22 % $ 574 $ 12 2 % $ 562 1 Wealth management fees for 2020 and 2019 included certain retirement service-related fees of $3 million in both periods. Beginning in 2021, those fees, which totaled $4 million, were reported in other customer-related fees. Customer-related Fees Customer-related fee income growth is a result of our focus on our key corporate objectives. By providing high-quality treasury management products, wealth management advisory services, and capital market solutions, we seek to deepen existing relationships with our commercial and small business customers. Total customer-related fees increased $26 million, or 5%, in 2021, largely driven by improved customer transaction volume and new client activity during the year, compared with the more-stressed economic activity impacted by the COVID-19 pandemic in the prior year. Key drivers impacting customer-related fees inclu • Card fees increased $13 million, or 16%, in 2021, due to increased economic activity and transaction volume. Commercial account fees increased $9 million or 7%, for similar reasons. • Wealth management fee income increased $6 million, or 14%, resulting from continued growth in assets and further adoption of wealth and advisory services from our customer base. Consequently, our assets under management increased $2.3 billion, or 26%, to $11.0 billion at December 31, 2021, which included meaningful increases in net new assets. • Loan-related fees and income decreased $14 million or 13%, in 2021, primarily due to a decline in mortgage banking income, particularly lower margins on loan sales. • Capital markets and foreign exchange income decreased $4 million, or 5%, primarily due to reduced interest rate swap sales. During the prior year, as a result of the low interest rate environment, many commercial customers purchased interest rate swaps from us to effectively fix the interest rate on their variable-rate loans. The decrease was partially offset by an increase in loan syndication fees. Noncustomer-related Revenue Total noncustomer-related revenue increased $103 million in 2021, primarily due to a $64 million increase in net securities gains and losses, which was largely driven by net gains related to our SBIC investment portfolio. During the fourth quarter of 2021, we recognized a $31 million realized gain resulting from the sale of one of our SBIC investments. During 2021, we also recognized a net $23 million unrealized gain related to our investment in Recursion Pharmaceuticals, Inc., which completed an initial public offering (“IPO”) in the second quarter of 2021. 37 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Fair value and nonhedge derivative income increased $20 million, due to recognized net gains related to credit valuation adjustments (“CVA”) on client-related interest rate swaps, compared with net CVA losses in the prior year period. The CVA may fluctuate from period to period based on the credit quality of our clients and changes in interest rates, which impact the value of, and our credit exposure to, the client-related interest rate swaps. Dividends and other income increased $19 million, or 79%, primarily due to a $12 million gain on sale of certain bank-owned facilities during 2021. These sales related to the consolidation of a substantial portion of our technology and operations facilities in advance of occupying our new Corporate Technology Center, which is expected to be completed in mid-2022. Noninterest Expense The following schedule presents a comparison of the major components of noninterest expense. Schedule 10 NONINTEREST EXPENSE (Dollar amounts in millions) 2021 Amount change Percent change 2020 Amount change Percent change 2019 Salaries and employee benefits $ 1,127 $ 40 4 % $ 1,087 $ (54) (5) % $ 1,141 Occupancy, net 131 1 1 130 (3) (2) 133 Furniture, equipment and software, net 128 1 1 127 (8) (6) 135 Other real estate expense, net — (1) NM 1 4 NM (3) Credit-related expense 26 4 18 22 2 10 20 Professional and legal services 68 16 31 52 5 11 47 Advertising 19 — — 19 — — 19 FDIC premiums 25 — — 25 — — 25 Other 217 (24) (10) 241 16 7 225 Total noninterest expense $ 1,741 $ 37 2 % $ 1,704 $ (38) (2) % $ 1,742 Adjusted noninterest expense $ 1,737 $ 64 4 % $ 1,673 $ (31) (2) % $ 1,704 Noninterest expense increased $37 million, or 2%, in 2021, relative to the prior year, primarily due to salaries and benefits expense, which represented the largest component, or 65% and 64%, of total noninterest expense during the same time periods, respectively. The following schedule presents detail of the major segments of salaries and employee benefits expense. Schedule 11 SALARIES AND EMPLOYEE BENEFITS (Dollar amounts in millions) 2021 Amount/quantity change Percent change 2020 Amount/quantity change Percent change 2019 Salaries and bonuses $ 935 $ 17 2 % $ 918 $ (35) (4) % $ 953 Employee benefits: Employee health and insurance 83 (3) (3) 86 3 4 83 Retirement and profit sharing 57 18 46 39 (10) (20) 49 Payroll taxes and other fringe benefits 52 8 18 44 (12) (21) 56 Total benefits 192 23 14 169 (19) (10) 188 Total salaries and employee benefits $ 1,127 $ 40 4 % $ 1,087 $ (54) (5) % $ 1,141 Full-time equivalent employees at December 31, 9,685 7 — % 9,678 (510) (5) % 10,188 Salaries and benefits expense increased $40 million, or 4%, primarily due to inflationary and competitive labor pressures on wages and higher profit sharing expense as a result of improved profitability. We had 9,685 full-time equivalent employees at December 31, 2021, which remained relatively flat when compared with the prior year. We believe that inflation and the competitive labor market may continue to impact our salaries and benefits expense. 38 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Professional and legal services expense increased $16 million, or 31%, mainly due to various technology-related and other outsourced services related to our ongoing investment in our core technology systems. Other noninterest expense decreased $24 million, or 10%, primarily due to higher expenses in the prior year, including a $30 million charitable contribution (compared with $10 million in 2021) and a $28 million pension termination-related expense in 2020. The decrease in expense was partially offset by an increase of $14 million in software licenses and maintenance and a $7 million increase in success fee accruals associated with net gains on our SBIC investments in 2021. Adjusted noninterest expense increased $64 million, or 4%, primarily due to the increases in noninterest expense previously discussed. The efficiency ratio was 60.8%, compared with 59.4%. For information on non-GAAP financial measures, including differences between noninterest expense and adjusted noninterest expense, see page 22. Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods presented. Schedule 12 INCOME TAXES (Dollar amounts in millions) 2021 2020 2019 Income before income taxes $ 1,446 $ 672 $ 1,053 Income tax expense 317 133 237 Effective tax rate 21.9 % 19.8 % 22.5 % The income tax rates for the tax years presented above were reduced by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the nondeductibility of FDIC premiums, certain executive compensation, and other fringe benefits. The tax rate for 2020 was also reduced as a result of the proportional increase in nontaxable items and tax credits relative to pretax book income, as compared with 2021 and 2019. Our investments in technology initiatives, low-income housing, and municipal securities during 2021, 2020, and 2019, generated tax credits and nontaxable income that benefited the tax rate for each respective year. We had a net deferred tax asset (“DTA”) of $96 million at December 31, 2021, compared with a net deferred tax liability (“DTL”) of $3 million at December 31, 2020. The increase to a DTA from a DTL resulted primarily from an increase in unrealized losses in accumulated other comprehensive income (“AOCI”) associated with investment securities and the capitalization of expenses related to intangible assets, and was partially offset by significant negative provisions for credit losses during 2021. We had no valuation allowance at December 31, 2021. See Note 20 of the Notes to Consolidated Financial Statements for more information about the factors that impacted our effective tax rate, significant components of our DTAs and DTLs, and our assessment of any potential additional valuation allowances. Preferred Stock Dividends Preferred stock dividends totaled $29 million in 2021, and $34 million in both 2020 and 2019. The decrease in preferred dividends was due to the redemption of the outstanding shares of our Series H preferred stock during the second quarter of 2021. See further details in Note 14 of the Notes to Consolidated Financial Statements. 39 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION BUSINESS SEGMENT RESULTS We manage our operations through seven affiliate banks located in different geographic markets, each with its own local branding and management team. These affiliate banks comprise our primary business segments and inclu Zions Bank, Amegy Bank (“Amegy”), California Bank & Trust (“CB&T”), National Bank of Arizona (“NBAZ”), Nevada State Bank (“NSB”), Vectra Bank Colorado (“Vectra”), and The Commerce Bank of Washington (“TCBW”). In maintaining alignment with our key corporate objectives, we emphasize local authority, responsibility, and pricing, with customization of certain products (as applicable) to maximize customer satisfaction and strengthen community relations. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal Funds Transfer Pricing (“FTP”) allocation process to report results of operations for business segments. This process is continually refined. Where applicable, prior period amounts have been revised to reflect the impact of these changes had they been instituted for the periods presented. See Note 22 of the Notes to Consolidated Financial Statements for more information on our FTP allocations, the Other segment, and more performance information including net interest income, noninterest income, and noninterest expense by segment. The following schedule summarizes selected financial information of our business segments. Ratios are calculated based on amounts in thousands. Schedule 13 SELECTED SEGMENT INFORMATION (Dollar amounts in millions) Zions Bank Amegy CB&T 2021 2020 2019 2021 2020 2019 2021 2020 2019 KEY FINANCIAL INFORMATION Total average loans $ 13,198 $ 13,845 $ 13,109 $ 12,189 $ 13,114 $ 12,235 $ 12,892 $ 12,366 $ 10,763 Total average deposits 23,588 18,370 15,561 15,496 12,970 11,627 15,796 13,763 11,522 Income before income taxes 381 295 346 363 178 274 406 182 277 CREDIT QUALITY Provision for credit losses $ (26) $ 67 $ 18 $ (96) $ 111 $ 9 $ (78) $ 120 $ 7 Net loan and lease charge-offs — 27 9 2 49 19 — 15 10 Ratio of net charge-offs to average loans and leases — % 0.20 % 0.07 % 0.02 % 0.37 % 0.16 % — % 0.12 % 0.09 % Allowance for credit losses $ 142 $ 167 $ 134 $ 128 $ 210 $ 155 $ 90 $ 158 $ 64 Ratio of allowance for credit losses to net loans and leases, at year-end 1.08 % 1.21 % 1.02 % 1.05 % 1.60 % 1.27 % 0.70 % 1.28 % 0.59 % Nonperforming lending-related assets $ 89 $ 97 $ 85 $ 90 $ 131 $ 60 $ 41 $ 56 $ 49 Ratio of nonperforming lending-related assets to net loans and leases and other real estate owned 0.69 % 0.70 % 0.65 % 0.77 % 1.03 % 0.49 % 0.32 % 0.43 % 0.45 % Accruing loans past due 90 days or more $ 3 $ 7 $ 2 $ 1 $ — $ 2 $ 3 $ 4 $ 5 Ratio of accruing loans past due 90 days or more to net loans and leases 0.02 % 0.05 % 0.09 % 0.01 % — % 0.01 % 0.02 % 0.03 % 0.09 % (Dollar amounts in millions) NBAZ NSB Vectra TCBW 2021 2020 2019 2021 2020 2019 2021 2020 2019 2021 2020 2019 KEY FINANCIAL INFORMATION Total average loans $ 4,849 $ 5,099 $ 4,774 $ 3,015 $ 3,102 $ 2,630 $ 3,414 $ 3,401 $ 3,109 $ 1,569 $ 1,460 $ 1,194 Total average deposits 7,288 5,771 5,002 6,691 5,427 4,512 4,386 3,637 2,853 1,537 1,256 1,094 Income before income taxes 127 75 107 90 11 47 67 24 50 42 28 37 CREDIT QUALITY Provision for credit losses $ (27) $ 35 $ 2 $ (35) $ 37 $ (1) $ (12) $ 34 $ 3 $ (3) $ 7 $ (1) Net loan and lease charge-offs (1) 1 — 1 (1) (3) — 14 2 1 — — Ratio of net charge-offs to average loans and leases (0.02) % 0.02 % — % 0.03 % (0.03) % (0.11) % — % 0.41 % 0.06 % 0.06 % — % — % Allowance for credit losses $ 38 $ 60 $ 32 $ 26 $ 59 $ 14 $ 37 $ 47 $ 27 $ 8 $ 11 $ 7 Ratio of allowance for credit losses to net loans and leases, at year-end 0.78% 1.18% 0.68% 0.86% 1.90% 0.53% 1.08% 1.38% 0.87% 0.51% 0.75% 0.59% Nonperforming lending-related assets $ 11 $ 17 $ 14 $ 24 $ 40 $ 27 $ 18 $ 19 $ 11 $ 1 $ 8 $ 4 Ratio of nonperforming lending-related assets to net loans and leases and other real estate owned 0.24% 0.34% 0.29% 0.85% 1.24% 1.00% 0.53% 0.56% 0.35% 0.06% 0.52% 0.33% Accruing loans past due 90 days or more $ 1 $ — $ — $ — $ — $ — $ — $ 1 $ 1 $ — $ — $ — Ratio of accruing loans past due 90 days or more to net loans and leases 0.02% —% 0.02% —% —% —% —% 0.03% —% —% —% —% Zions Bank Zions Bank is headquartered in Salt Lake City, Utah, and conducts operations in Utah, Idaho, and Wyoming. If it were a separately chartered bank, it would be the second largest full-service commercial bank in Utah and the seventh largest in Idaho, as measured by domestic deposits in these states. Zions Bank’s income before income taxes increased $86 million, or 29%, during 2021. The increase was primarily due to a $93 million decrease in the provision for credit losses, and a $27 million increase in noninterest income, partially offset by an $18 million increase in noninterest expense. The loan portfolio decreased $981 million during 2021, which consisted of decreases of $897 million and $108 million in commercial and CRE loans, respectively, partially offset by an increase of $24 million in consumer loans. The ratio of ACL to net loans and leases decreased to 1.08% at December 31, 2021, compared with 1.21%. Nonperforming lending-related assets decreased $8 million, or 8%, from the prior year. Deposits increased 25% in 2021. Amegy Bank Amegy Bank is headquartered in Houston, Texas. If it were a separately chartered bank, it would be the ninth largest full-service commercial bank in Texas as measured by domestic deposits in the state. Amegy’s income before income taxes increased $185 million, or 104%, during 2021. The increase was primarily due to a $207 million decrease in the provision for credit losses, and an $8 million increase in noninterest income, partially offset by an $8 million increase in noninterest expense. The loan portfolio decreased $998 million during 2021, which consisted of decreases of $471 million, $427 million, and $100 million, in commercial, consumer, and CRE loans, respectively. The ratio of ACL to net loans and leases decreased to 1.05% at December 31, 2021, 40 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION compared with 1.60%. Nonperforming lending-related assets decreased $41 million, or 31%, from the prior year. Deposits increased 18% in 2021. California Bank & Trust California Bank & Trust is headquartered in San Diego, California. If it were a separately chartered bank, it would be the 17 th largest full-service commercial bank in California as measured by domestic deposits in the state. CB&T’s income before income taxes increased $224 million, or 123%, during 2021. The increase was primarily due to a $198 million decrease in the provision for credit losses, and a $7 million increase in noninterest income, partially offset by a $6 million increase in noninterest expense. The loan portfolio increased $22 million during 2021, which consisted of increases of $242 million and $10 million in CRE and consumer loans, respectively, and a decrease of $230 million in commercial loans. The ratio of ACL to net loans and leases decreased to 0.70% at December 31, 2021, compared with 1.28%. Nonperforming lending-related assets decreased $15 million, or 27%, from the prior year. Deposits increased 11% in 2021. National Bank of Arizona National Bank of Arizona is headquartered in Phoenix, Arizona. If it were a separately chartered bank, it would be the fifth largest full-service commercial bank in Arizona as measured by domestic deposits in the state. NBAZ’s income before income taxes increased $52 million, or 69%, during 2021. The increase was primarily due to a $62 million decrease in the provision for credit losses, and a $5 million increase in noninterest income, partially offset by an increase of $4 million in noninterest expense. The loan portfolio decreased $438 million during 2021, which consisted of decreases of $291 million, $104 million, and $43 million, in commercial, consumer, and CRE loans, respectively. The ratio of ACL to net loans and leases decreased to 0.78% at December 31, 2021, compared with 1.18%. Nonperforming lending-related assets decreased $6 million, or 35%, from the prior year. Deposits increased 26% in 2021. Nevada State Bank Nevada State Bank is headquartered in Las Vegas, Nevada. If it were a separately chartered bank, it would be the sixth largest full-service commercial bank in Nevada as measured by domestic deposits in the state. NSB’s income before income taxes increased $79 million, or 718%, during 2021. The increase was primarily due to a $72 million decrease in the provision for credit losses, and an increase of $7 million in noninterest income, partially offset by an increase of $1 million in noninterest expense. The loan portfolio decreased $415 million during 2021, which consisted of decreases of $394 million and $59 million in commercial and consumer loans, respectively, partially offset by an increase of $38 million in CRE loans. The ratio of ACL to net loans and leases decreased to 0.86% at December 31, 2021, compared with 1.90%. Nonperforming lending-related assets decreased $16 million, or 40%, from the prior year. Deposits increased 27% in 2021. On February 11, 2022, NSB announced that it has entered into an agreement to purchase three Northern Nevada branches and their associated deposit, credit card, and loan accounts. In addition to the three branches, the purchase includes approximately $480 million in deposits and $110 million in commercial and consumer loans. The transaction is expected to be completed by the third quarter of 2022, subject to customary closing conditions and regulatory approval. Vectra Bank Colorado Vectra Bank Colorado is headquartered in Denver, Colorado. If it were a separately chartered bank, it would be the tenth largest full-service commercial bank in Colorado as measured by domestic deposits in the state. Vectra’s income before income taxes increased $43 million, or 179%, during 2021. The increase was primarily due to a $46 million decrease in the provision for credit losses, and an increase of $1 million in noninterest income, partially offset by a $5 million increase in noninterest expense. The loan portfolio decreased $15 million during 2021, which consisted of decreases of $42 million and $18 million in consumer and CRE loans, respectively, 41 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION partially offset by an increase of $45 million in commercial loans. The ratio of ACL to net loans and leases decreased to 1.08% at December 31, 2021, compared with 1.38%. Nonperforming lending-related assets decreased $1 million, or 5%, from the prior year. Deposits increased 10% in 2021. The Commerce Bank of Washington The Commerce Bank of Washington is headquartered in Seattle, Washington, and operates in Washington under The Commerce Bank of Washington name and in Portland, Oregon, under The Commerce Bank of Oregon name. Its business strategy focuses primarily on serving the financial needs of commercial businesses, including professional services firms. If it were a separately chartered bank, it would be the 24 th largest full-service commercial bank in Washington and the 35 th largest in Oregon, as measured by domestic deposits in these states. TCBW’s income before income taxes increased $14 million, or 50%, during 2021. The increase was primarily due to a $10 million decrease in the provision for credit losses. The loan portfolio increased $71 million during 2021, which consisted of increases of $84 million and $12 million in CRE and commercial loans, respectively, partially offset by a decrease of $25 million in consumer loans. The ratio of ACL to net loans and leases decreased to 0.51% at December 31, 2021, compared with 0.75%. Nonperforming lending-related assets decreased $7 million, or 88%, from the prior year. Deposits increased 20% in 2021. BALANCE SHEET ANALYSIS Interest-earning Assets Interest-earning assets are assets that have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see Schedule 7 on page 32. AVERAGE OUTSTANDING LOANS AND DEPOSITS (at December 31) Investment Securities Portfolio We invest in securities to generate interest income and to actively manage liquidity, interest rate, and credit risk. Refer to the “Liquidity Risk Management” section on page 62 for additional information about how we manage our liquidity risk. The following schedule presents the components of our investment securities portfolio. See Note 3 42 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. Schedule 14 INVESTMENT SECURITIES PORTFOLIO December 31, 2021 December 31, 2020 (In millions) Par Value Amortized cost Fair value Par Value Amortized cost Fair value Held-to-maturity Municipal securities $ 441 $ 441 $ 443 $ 636 $ 636 $ 640 Available-for-sale U.S. Treasury securities 155 155 134 205 205 192 U.S. Government agencies and corporatio Agency securities 833 833 845 1,051 1,051 1,091 Agency guaranteed mortgage-backed securities 20,340 20,549 20,387 11,259 11,439 11,693 Small Business Administration loan-backed securities 867 938 912 1,103 1,195 1,160 Municipal securities 1,489 1,652 1,694 1,237 1,352 1,420 Other debt securities 75 75 76 175 175 175 Total available-for-sale 23,759 24,202 24,048 15,030 15,417 15,731 Total HTM and AFS investment securities $ 24,200 $ 24,643 $ 24,491 $ 15,666 $ 16,053 $ 16,371 The amortized cost of investment securities increased 54% from the prior year, and approximately 11% of the total investment securities are floating rate at December 31, 2021, compared with 23% at December 31, 2020. The investment securities portfolio includes $443 million of net premium that is distributed across various asset classes. Total premium amortization for our investment securities was $110 million in 2021, compared with $105 million in 2020. At December 31, 2021, based on the GAAP fair value hierarchy, 0.6% and 99.4% of the AFS securities portfolio was valued at Level 1 and Level 2, respectively, compared with 1.2% and 98.8% at December 31, 2020. None of the AFS securities portfolio was valued at Level 3 for either period. See Note 3 of the Notes to Consolidated Financial Statements for further discussion of fair value accounting. Exposure to Municipalities We provide products and services to state and local governments (referred to collectively as “municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. Schedule 15 summarizes our exposure to state and local municipaliti Schedule 15 MUNICIPALITIES December 31, (In millions) 2021 2020 Loans and leases $ 3,659 $ 2,951 Held-to-maturity – municipal securities 441 636 Available-for-sale – municipal securities 1,694 1,420 Trading account – municipal securities 355 149 Unfunded lending commitments 280 359 Total direct exposure to municipalities $ 6,429 $ 5,515 43 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. Our municipal loans and securities primarily relate to municipalities located within our geographic footprint. At December 31, 2021, no municipal loans were on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At December 31, 2021, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. Loan and Lease Portfolio At December 31, 2021 and 2020, the ratio of loans and leases to total assets was 55% and 66%, respectively. The largest loan category was commercial and industrial loans, which constituted 27% and 25% of our total loan portfolio for the same time periods. Schedule 16 presents our outstanding loan portfolio by type and contractual maturity. This schedule also reflects the repricing characteristics of these loans. In a small number of cases, we have hedged the repricing characteristics of our variable-rate loans as more fully described in “Interest Rate Risk” on page 60. Schedule 16 LOAN AND LEASE PORTFOLIO BY TYPE AND MATURITY December 31, 2021 December 31, (In millions) One year or less One year through five years Five years through fifteen years Over fifteen years Total 2020 2019 2018 2017 Commerci Commercial and industrial $ 3,675 $ 8,085 $ 2,060 $ 47 $ 13,867 $ 13,444 $ 14,760 $ 14,513 $ 14,003 PPP — 1,855 — — 1,855 5,572 — — — Leasing 326 1 — — 327 320 334 327 364 Owner-occupied 443 1,376 5,382 1,532 8,733 8,185 7,901 7,661 7,288 Municipal 215 530 2,073 840 3,658 2,951 2,393 1,661 1,271 Total commercial 4,659 11,847 9,515 2,419 28,440 30,472 25,388 24,162 22,926 Commercial real estate: Construction and land development 789 1,828 75 65 2,757 2,345 2,211 2,186 2,021 Term 1,581 4,921 2,818 121 9,441 9,759 9,344 8,939 9,103 Total commercial real estate 2,370 6,749 2,893 186 12,198 12,104 11,555 11,125 11,124 Consume Home equity credit line 11 19 83 2,903 3,016 2,745 2,917 2,937 2,777 1-4 family residential 40 34 230 5,746 6,050 6,969 7,568 7,176 6,662 Construction and other consumer real estate 2 10 15 611 638 630 624 643 597 Bankcard and other revolving plans 329 67 — — 396 432 502 491 509 Other 13 73 27 — 113 124 155 180 185 Total consumer 395 203 355 9,260 10,213 10,900 11,766 11,427 10,730 Total net loans and leases $ 7,424 $ 18,799 $ 12,763 $ 11,865 $ 50,851 $ 53,476 $ 48,709 $ 46,714 $ 44,780 Loans maturin With fixed interest rates $ 2,146 $ 4,275 $ 5,865 $ 1,328 $ 13,614 With variable interest rates 5,278 14,524 6,898 10,537 37,237 Total $ 7,424 $ 18,799 $ 12,763 $ 11,865 $ 50,851 44 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The loan and lease portfolio decreased $2.6 billion from December 31, 2020, primarily due to the forgiveness of PPP loans. Excluding PPP loans, commercial loans increased $1.7 billion, driven largely by increases in municipal loans, owner-occupied loans, and commercial and industrial loans of $0.7 billion, $0.5 billion and $0.4 billion, respectively. Commercial real estate construction and land development loans increased $0.4 billion, while term commercial real estate loans decreased $0.3 billion. Consumer loans decreased $0.7 billion, primarily due to a $0.9 billion decline in 1-4 family residential mortgage loans, partially offset by a $0.3 billion increase in home equity credit lines (“HECL”). Other Noninterest-bearing Investments Other noninterest-bearing investments are equity investments that do not generally provide interest income, but are held primarily for capital appreciation, dividends, or for certain regulatory requirements. Schedule 17 summarizes our related investments: Schedule 17 OTHER NONINTEREST-BEARING INVESTMENTS December 31, Amount change Percent change (Dollar amounts in millions) 2021 2020 Bank-owned life insurance $ 537 $ 532 $ 5 1 % Federal Home Loan Bank stock 11 11 — — Federal Reserve stock 81 98 (17) (17) Farmer Mac stock 19 28 (9) (32) SBIC investments 179 135 44 33 Other 24 13 11 85 Total other noninterest-bearing investments $ 851 $ 817 $ 34 4 % Total other noninterest-bearing investments increased $34 million, or 4%, during 2021, primarily due a net $23 million unrealized gain related to our investment in Recursion Pharmaceuticals, Inc., which completed an IPO in the second quarter of 2021. Premises, Equipment, and Software Net premises, equipment, and software increased $110 million, or 9.1%, during 2021, primarily due to capitalized construction costs related to the completion of our new Corporate Technology Center. During 2020, we announced the construction of a 400,000 square-foot technology campus in Midvale, Utah. The campus is expected to be completed in mid-2022 and will be our primary technology and operations center, accommodating more than 2,000 employees. The new campus will allow us to achieve significant efficiencies by eliminating a number of smaller facilities totaling 520,000 square feet and reducing related occupancy costs by more than 20%. During 2021, we sold a substantial portion of our smaller technology and operations facilities, resulting in net gains on sale of $12 million. In 2020, we announced the construction of a new corporate center for Vectra in Denver, Colorado. The 127,000 square-foot, nine-story, mixed-use building is scheduled to open in late-2022. We are also in the final phase of a three-phase project to replace our core loan and deposit banking systems, and are on track to convert our deposit servicing system by 2023. Capitalized costs associated with the core system replacement project generally carry a useful life of ten years, and are summarized in the following schedule. Schedule 18 CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT December 31, 2021 (In millions) Phase 1 Phase 2 Phase 3 Total Total capitalized costs, less accumulated depreciation $ 38 $ 64 $ 154 $ 256 45 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Deposits Deposits are our primary funding source. The following schedule presents our deposits by category and percentage of total deposits: Schedule 19 DEPOSITS December 31, 2021 December 31, 2020 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Noninterest-bearing demand $ 41,053 49.6 % $ 32,494 46.7 % Interest-bearin Savings and money market 40,114 48.4 34,571 49.6 Time 1,622 2.0 2,588 3.7 Total deposits $ 82,789 100.0 % $ 69,653 100.0 % Total deposits increased $13.1 billion, or 19%, in 2021, primarily due to an $8.6 billion increase in noninterest-bearing deposits. When combined, savings and money market deposits and noninterest-bearing deposits comprised 98% and 96% of total deposits at December 31, 2021 and 2020, respectively. Total deposits included $0.4 billion and $1.3 billion of brokered deposits for the same time periods. Total U.S. time deposits that exceed the current FDIC insurance limit of $250,000 were $563 million and $547 million at December 31, 2021 and 2020, respectively. The estimated total amount of uninsured deposits, including related interest accrued and unpaid, was $49 billion and $38 billion at December 31, 2021 and 2020, respectively. See Notes 12 and 13 of the Notes to Consolidated Financial Statements and “Liquidity Risk Management” on page 62 for additional information on funding and borrowed funds. RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We utilize the three lines of defense approach to risk management with responsibilities for each line of defense defined in our Risk Management Framework. The first line of defense represents units and functions throughout the Bank engaged in activities related to revenue generation, expense reduction, operational support, and technology services. These units and functions are accountable for owning and managing the risks associated with these activities. The second line of defense represents functions responsible for independently assessing and overseeing risk management activities. The third line of defense is our internal audit function that provides independent assessment of the effectiveness of the first and second lines of defense. In support of management's efforts, the Board has established certain committees to oversee our risk management processes. The Audit Committee oversees financial reporting risk, and the Risk Oversight Committee (“ROC”) oversees the other risk management processes. The ROC meets on a regular basis to monitor and review Enterprise Risk Management (“ERM”) activities. As required by its charter, the ROC provides oversight for various ERM activities and approves ERM policies and activities as detailed in the ROC charter. We employ various strategies to reduce the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cyber risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by various management committees of which the Enterprise Risk Management Committee is the focal point. 46 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. The Board, through the ROC, is responsible for approving the overall credit policies relating to the management of credit risk. The ROC also oversees and monitors adherence to key credit policies and the credit risk appetite as defined in the Risk Management Framework. The Board has delegated responsibility for managing credit risk and approving changes to credit policies to the Chief Credit Officer, who chairs the Credit Risk Committee. Credit policies, credit risk management, and credit examination functions inform and support the oversight of credit risk. Our credit policies emphasize strong underwriting standards and early detection of potential problem credits in order to develop and implement action plans on a timely basis to mitigate potential losses. These formal credit policies and procedures provide us with a framework for consistent underwriting and a basis for sound credit decisions at the local banking affiliate level. Our credit policies and practices are also designed to help manage potential risks, including those arising from environmental issues. Environmental risk related to our lending practices is primarily covered in our environmental credit policy and by our environmental subject matter experts and manager. The extent of environmental due diligence performed by our environmental risk team is based on the risks identified at each property and the loan amount. The extension of credit to certain borrowers, or those connected with certain activities, may be restricted or require escalated approval, by policy, because of various environmental risks. Our credit risk management function is separate from the lending function and strengthens control over, and the independent evaluation of, credit activities. In addition, we have a well-defined set of standards for evaluating our loan portfolio, and we utilize a comprehensive loan risk-grading system to determine the risk potential in the portfolio. The internal credit examination department, which is independent of the lending function, periodically conducts examinations of our lending departments and credit activities. These examinations are designed to review credit quality, adequacy of documentation, appropriate loan risk-grading administration, and compliance with credit policies. Credit examinations related to the ACL are reported to both the Audit Committee and the ROC. Our overall credit risk management strategy includes diversification of our loan portfolio. Our business activity is conducted primarily within the geographic footprint of our banking affiliates. We seek to avoid the risk of undue concentrations of credit in any particular industry, collateral type, location, or with any individual customer or counterparty. We have certain significant concentrations, including CRE and oil and gas-related lending. We have adopted and adhere to concentration limits on leveraged lending, municipal lending, oil and gas-related lending, and various types of CRE lending, particularly construction and land development lending. Concentration limits are regularly monitored and revised as necessary. 47 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Schedule 20 presents the composition of our loan and lease portfolio. Schedule 20 LOAN AND LEASE PORTFOLIO December 31, 2021 December 31, 2020 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 13,867 27.3 % $ 13,444 25.1 % PPP 1,855 3.6 5,572 10.5 Leasing 327 0.6 320 0.6 Owner-occupied 8,733 17.2 8,185 15.3 Municipal 3,658 7.2 2,951 5.5 Total commercial 28,440 55.9 30,472 57.0 Commercial real estate: Construction and land development 2,757 5.4 2,345 4.4 Term 9,441 18.6 9,759 18.2 Total commercial real estate 12,198 24.0 12,104 22.6 Consume Home equity credit line 3,016 5.9 2,745 5.2 1-4 family residential 6,050 11.9 6,969 13.0 Construction and other consumer real estate 638 1.3 630 1.2 Bankcard and other revolving plans 396 0.8 432 0.8 Other 113 0.2 124 0.2 Total consumer 10,213 20.1 10,900 20.4 Total net loans and leases $ 50,851 100.0 % $ 53,476 100.0 % Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by U.S. government agencies, such as the SBA, Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At December 31, 2021, $2.3 billion of these loans were guaranteed, primarily by the SBA. The following schedule presents the composition of U.S. government agency guaranteed loans and includes $1.9 billion of the previously mentioned PPP loans. Schedule 21 U.S. GOVERNMENT AGENCY GUARANTEES (Dollar amounts in millions) December 31, 2021 Percent guaranteed December 31, 2020 Percent guaranteed Commercial $ 2,410 95 % $ 6,116 98 % Commercial real estate 22 73 18 72 Consumer 5 100 5 100 Total loans $ 2,437 94 % $ 6,139 98 % 48 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. Schedule 22 COMMERCIAL LENDING BY INDUSTRY GROUP 1 December 31, 2021 December 31, 2020 (Dollar amounts in millions) Amount Percent Amount Percent Real estate, rental and leasing $ 2,536 8.9 % $ 2,408 7.9 % Retail trade 2,412 8.5 2,736 9.0 Manufacturing 2,374 8.3 2,480 8.1 Healthcare and social assistance 2,349 8.2 2,686 8.8 Finance and insurance 2,303 8.1 2,115 6.9 Public Administration 1,959 6.9 1,512 5.0 Wholesale trade 1,701 6.0 1,735 5.7 Construction 1,456 5.1 2,001 6.6 Utilities 2 1,446 5.1 1,507 4.9 Hospitality and food services 1,353 4.8 1,545 5.1 Transportation and warehousing 1,273 4.5 1,526 5.0 Other Services (except Public Administration) 1,213 4.2 1,207 4.0 Mining, quarrying, and oil and gas extraction 1,185 4.2 1,236 4.1 Educational services 1,163 4.1 1,181 3.9 Professional, scientific, and technical services 1,084 3.8 1,598 5.2 Other 3 2,633 9.3 2,999 9.8 Total $ 28,440 100.0 % $ 30,472 100.0 % 1 Industry groups are determined by North American Industry Classification System (NAICS) codes. 2 Includes primarily utilities, power, and renewable energy. 3 No other industry group individually exceeds 2.7%. 49 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Commercial Real Estate Loans The following schedule presents credit quality information for our CRE loan portfolio segmented by real estate category and collateral location. Schedule 23 COMMERCIAL REAL ESTATE PORTFOLIO BY LOAN TYPE AND COLLATERAL LOCATION (Dollar amounts in millions) Collateral Location Loan type As of date Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington/Oregon Other 1 Total % of total CRE Commercial term Balance outstanding 12/31/2021 $ 1,038 $ 3,331 $ 508 $ 653 $ 1,606 $ 1,408 $ 444 $ 453 $ 9,441 77.4 % % of loan type 11.0 % 35.3 % 5.4 % 6.9 % 17.0 % 14.9 % 4.7 % 4.8 % 100.0 % Delinquency rat 2 30-89 days 12/31/2021 — % 0.2 % 0.2 % — % — % 0.1 % — % — % 0.1 % 12/31/2020 0.7 % 1.1 % — % — % 0.7 % — % — % 0.2 % 0.6 % ≥ 90 days 12/31/2021 — % 0.1 % — % — % 0.2 % — % — % — % 0.1 % 12/31/2020 0.1 % 0.2 % — % — % — % 0.2 % — % 0.2 % 0.1 % Accruing loans past due 90 days or more 12/31/2021 $ — $ — $ — $ — $ — $ — $ — $ — $ — 12/31/2020 — 4 — — — — — — 4 Nonaccrual loans 12/31/2021 — 3 — — 17 — — — 20 12/31/2020 1 5 — — 18 6 — 1 31 Commercial construction and land development 3 Balance outstanding 12/31/2021 $ 242 $ 405 $ 94 $ 107 $ 475 $ 543 $ 181 $ 40 $ 2,087 17.1 % % of loan type 11.6 % 19.4 % 4.5 % 5.1 % 22.8 % 26.0 % 8.7 % 1.9 % 100.0 % Delinquency rat 2 30-89 days 12/31/2021 — % — % — % — % — % — % 13.2 % — % 0.9 % 12/31/2020 — % — % — % — % — % — % — % — % — % ≥ 90 days 12/31/2021 — % — % — % — % — % — % — % — % — % 12/31/2020 — % — % — % — % — % — % 3.9 % — % 0.2 % Accruing loans past due 90 days or more 12/31/2021 $ — $ — $ — $ — $ — $ — $ — $ — $ — 12/31/2020 — — — — — — 4 — 4 Residential construction and land development 3 Balance outstanding 12/31/2021 $ 82 $ 167 $ 44 $ 2 $ 162 $ 167 $ 9 $ 37 $ 670 5.5 % % of loan type 12.3 % 25.0 % 6.6 % 0.2 % 24.2 % 24.9 % 1.3 % 5.5 % 100.0 % Total construction and land development 12/31/2021 $ 324 $ 572 $ 138 $ 109 $ 637 $ 710 $ 190 $ 77 $ 2,757 Total commercial real estate 12/31/2021 $ 1,362 $ 3,903 $ 646 $ 762 $ 2,243 $ 2,118 $ 634 $ 530 $ 12,198 100.0 % 1 No other geography exceeds $65 million for all three loan types. 2 Delinquency rates include nonaccrual loans. 3 At December 31, 2021 and 2020, there was no meaningful nonaccrual activity for commercial construction and land development loans, nor delinquency or nonaccrual activity for residential construction and land development loans. At December 31, 2021, our CRE construction and land development and term loan portfolios represented approximately 24% of the total loan portfolio. The majority of our CRE loans are secured by real estate, which is primarily located within our geographic footprint. Approximately 19% of the CRE loan portfolio matures in the next 12 months. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with one- to five-year extension options or roll-to-perm options that often result in term debt. Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and nonrecourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. 50 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Approximately $160 million, or 6%, of the commercial construction and land development portfolio at December 31, 2021 consists of acquisition and development loans. Most of these acquisition and development loans are secured by specific retail, apartment, office, or other projects. Underwriting on commercial properties is primarily based on the economic viability of the project with significant consideration given to the creditworthiness and experience of the sponsor. We generally require that the owner’s equity be injected prior to bank advances. Re-margining requirements (required equity infusions upon a decline in value or cash flow of the collateral) are often included in the loan agreement along with guarantees of the sponsor. Consideration of projected cash flows is critical when underwriting commercial properties, as these cash flows ultimately support a project’s debt service. Therefore, in most projects (with the exception of multi-family and hospitality construction projects), we require substantial pre-leasing or leasing in our underwriting, and we generally require a minimum projected stabilized debt service coverage ratio of 1.20 or higher, depending on the project asset class. Within the residential construction and development sector, many of the requirements previously mentioned, such as creditworthiness and experience of the developer, up-front injection of the developer’s equity, principal curtailment requirements, and the viability of the project are also important in underwriting a residential development loan. Consideration is also given to the expected market acceptance of the product, location, strength of the developer, and the ability of the developer to stay within budget. Progress inspections by qualified independent inspectors are routinely performed before disbursements are made. Real estate appraisals are ordered in accordance with regulatory guidelines and are validated independently of the loan officer and the borrower, generally by our internal appraisal review function, which is staffed by licensed appraisers. In some cases, reports from automated valuation services are used or internal evaluations are performed. A new appraisal or evaluation is required when a loan deteriorates to a certain level of credit weakness. Advance rates will vary based on the viability of the project and the creditworthiness of the sponsor, but our guidelines generally limit advances to 50% for raw land, 65% for land development, 65% for finished commercial lots, 75% for finished residential lots, 80% for pre-sold homes, 75% for models and homes not under contract, and 75% for commercial properties. Exceptions may be granted on a case-by-case basis. Loan agreements require regular financial information on the project and the sponsor in addition to lease schedules, rent rolls and, on construction projects, independent progress inspection reports. The receipt of this financial information is monitored, and calculations are made to determine adherence to the covenants set forth in the loan agreement. The existence of a guarantee that improves the likelihood of repayment is taken into consideration when evaluating CRE loans for expected losses. If the support of the guarantor is quantifiable and documented, it is included in the potential cash flows and liquidity available for debt repayment, and our expected loss methodology takes this repayment source into consideration. In general, we obtain and consider updated financial information for the guarantor as part of our determination to extend credit. The quality and frequency of financial reporting collected and analyzed varies depending on the contractual requirements for reporting, the size of the transaction, and the strength of the guarantor. Complete underwriting of the guarantor includes, but is not limited to, an analysis of the guarantor’s current financial statements, tax returns, leverage, liquidity (brokerage) confirmations, global cash flow, global debt service coverage, and contingent liabilities. The assessment also includes a qualitative analysis of the guarantor’s willingness to perform in the event of a problem and demonstrated history of performing in similar situations. A qualitative assessment is performed on a case-by-case basis to evaluate the guarantor’s experience, performance track record, reputation, and willingness to work with us. We also utilize market information sources, rating, and scoring services in our assessment. This qualitative analysis, coupled with a documented quantitative ability to 51 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION support the loan, may result in a higher-quality internal loan grade, which may ultimately reduce the level of allowance we estimate. In the event of default, we pursue any and all appropriate potential sources of repayment, which may come from multiple sources, including the guarantee. A number of factors are considered when deciding whether or not to pursue a guarantor, including, but not limited to, the value and liquidity of other sources of repayment (collateral), the financial strength and liquidity of the guarantor, possible statutory limitations (e.g., single action rule on real estate) and the overall cost of pursuing a guarantee compared with the ultimate amount we may be able to recover. Consumer Loans We generally originate first-lien residential home mortgages considered to be of prime quality. We typically hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. We also originate home equity credit lines (“HECL”). At December 31, 2021 and 2020, our HECL portfolio totaled $3.0 billion and $2.7 billion, respectively. The following schedule presents the composition of our HECL portfolio by lien status. Schedule 24 HECL PORTFOLIO BY LIEN STATUS December 31, (In millions) 2021 2020 Secured by first liens $ 1,503 $ 1,354 Secured by second (or junior) liens 1,513 1,391 Total $ 3,016 $ 2,745 At December 31, 2021, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral-value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with high credit scores. Approximately 90% of our HECL portfolio is still in the draw period, and approximately 19% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is minimal. The ratio of HECL net charge-offs for the trailing twelve months to average balances at December 31, 2021 and 2020 was (0.01)% for both periods. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of the HECL portfolio. Nonperforming Assets Nonperforming assets as a percentage of loans and leases and other real estate owned (“OREO”) decreased to 0.53% at December 31, 2021, compared with 0.69% at December 31, 2020. Total nonaccrual loans at December 31, 2021 decreased to $271 million from $367 million, reflecting credit quality improvements across most of our loan portfolios. The balance of nonaccrual loans can decrease due to paydowns, charge-offs, and the return of loans to accrual status under certain conditions. If a nonaccrual loan is refinanced or restructured, the new note is immediately placed on nonaccrual. If a restructured loan performs under the new terms for at least a period of six months, the loan can be considered for return to accrual status. See “Restructured Loans” and Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. 52 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents our nonperforming assets: Schedule 25 NONPERFORMING ASSETS (Dollar amounts in millions) December 31, 2021 2020 2019 2018 2017 Nonaccrual loa Loans held for sale $ — $ — $ — $ 6 $ 12 Commerci Commercial and industrial 124 140 110 82 195 PPP 3 — — — — Leasing — — — 2 8 Owner-occupied 57 76 65 67 90 Municipal — — — 1 1 Commercial real estate: Construction and land development — — — — 4 Term 20 31 16 38 36 Consume Real estate 66 119 52 55 68 Other 1 1 — 1 — Nonaccrual loans 271 367 243 252 414 Other real estate owned 1 : Commerci Commercial properties 1 4 5 2 3 Developed land — — 1 — — Land — — 1 — — Residenti 1-4 family — — 1 2 1 Other real estate owned 1 4 8 4 4 Total nonperforming assets $ 272 $ 371 $ 251 $ 256 $ 418 Accruing loans past due 90 days or mo Commerci $ 7 $ 2 $ 9 $ 7 $ 17 Commercial real estate — 8 — 1 2 Consumer 1 2 1 2 3 Total $ 8 $ 12 $ 10 $ 10 $ 22 Ratio of nonaccrual loans to net loans and leases 2 0.53 % 0.69 % 0.50 % 0.54 % 0.92 % Ratio of nonperforming assets to net loans and leases 2 and other real estate owned 0.53 % 0.69 % 0.51 % 0.55 % 0.93 % Ratio of accruing loans past due 90 days or more to net loans and leases 2 0.02 % 0.02 % 0.02 % 0.02 % 0.05 % 1 Does not include banking premises held for sale. 2 Includes loans held for sale. Troubled Debt Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are classified as troubled debt restructurings (“TDRs”). TDRs totaled $326 million at December 31, 2021, compared with $311 million at December 31, 2020. Modifications that qualified for applicable accounting and regulatory exemptions for borrowers experiencing financial difficulties exclusively related to the COVID-19 pandemic were not classified and reported as TDRs. 53 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION If the restructured loan performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the restructuring is taken into account to determine whether a loan is returned to accrual status. Schedule 26 ACCRUING AND NONACCRUING TROUBLED DEBT RESTRUCTURED LOANS December 31, (In millions) 2021 2020 2019 2018 2017 Restructured loans – accruing $ 221 $ 198 $ 78 $ 112 $ 139 Restructured loans – nonaccruing 105 113 75 90 87 Total $ 326 $ 311 $ 153 $ 202 $ 226 In the periods following the calendar year in which a loan was restructured, a loan may no longer be reported as a TDR if it is on accrual, is in compliance with its modified terms, and yields a market rate (as determined and documented at the time of the modification or restructure). See Note 6 of the Notes to Consolidated Financial Statements for additional information regarding TDRs. Schedule 27 TROUBLED DEBT RESTRUCTURED LOANS ROLLFORWARD (In millions) 2021 2020 Balance at beginning of year $ 311 $ 153 New identified troubled debt restructuring and principal increases 235 270 Payments and payoffs (117) (51) Charge-offs (3) (49) No longer reported as troubled debt restructuring (86) (2) Sales and other (14) (10) Balance at end of year $ 326 $ 311 Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. The following schedule shows the changes in the allowance for credit losses and a summary of credit loss experien 54 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Schedule 28 SUMMARY OF CREDIT LOSS EXPERIENCE (Dollar amounts in millions) 2021 2020 2019 2018 2017 Loans and leases outstanding, on December 31, $ 50,851 $ 53,476 $ 48,709 $ 46,714 $ 44,780 Average loans and leases outstandin Commercial - excluding PPP loans 25,014 25,193 24,990 23,333 22,116 Commercial - PPP loans 4,566 4,534 — — — Commercial real estate 12,136 11,854 11,675 11,079 11,184 Consumer 10,267 11,435 11,600 11,013 10,201 Total average loans and leases outstanding $ 51,983 $ 53,016 $ 48,265 $ 45,425 $ 43,501 Allowance for loan and lease loss Balance at beginning of year 1 $ 777 $ 497 $ 495 $ 518 $ 567 Provision for loan losses (258) 385 37 (39) 24 Charge-offs: Commercial 35 113 57 46 118 Commercial real estate — 1 4 5 9 Consumer 13 14 17 18 17 Total 48 128 78 69 144 Recoveri Commercial 29 14 25 68 46 Commercial real estate 3 — 6 9 14 Consumer 10 9 10 8 11 Total 42 23 41 85 71 Net loan and lease charge-offs 6 105 37 (16) 73 Balance at end of year $ 513 $ 777 $ 495 $ 495 $ 518 Reserve for unfunded lending commitments: Balance at beginning of year 1 $ 58 $ 29 $ 57 $ 58 $ 65 Provision for unfunded lending commitments (18) 29 2 (1) (7) Balance at end of year $ 40 $ 58 $ 59 $ 57 $ 58 Total allowance for credit loss Allowance for loan and lease losses $ 513 $ 777 $ 495 $ 495 $ 518 Reserve for unfunded lending commitments 40 58 59 57 58 Total allowance for credit losses $ 553 $ 835 $ 554 $ 552 $ 576 Ratio of allowance for credit losses to net loans and leases, on December 31, 2 1.09 % 1.56 % 1.14 % 1.18 % 1.29 % Ratio of allowance for credit losses to nonaccrual loans, on December 31, 171 % 228 % 228 % 224 % 143 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, on December 31, 166 % 220 % 219 % 216 % 136 % Ratio of total net charge-offs to average total loans and leases 3 0.01 % 0.20 % 0.08 % (0.04) % 0.17 % Ratio of commercial net charge-offs to average commercial loans 0.02 % 0.33 % 0.13 % (0.09) % 0.33 % Ratio of commercial real estate net charge-offs to average commercial real estate loans (0.02) % 0.01 % (0.02) % (0.04) % (0.04) % Ratio of consumer net charge-offs to average consumer loans 0.03 % 0.04 % 0.06 % 0.09 % 0.06 % 1 Beginning balances at January 1, 2020 for the allowance for loan and lease losses and reserve for unfunded lending commitments do not agree to their respective ending balances at December 31, 2019 because of the adoption of the CECL accounting standard. 2 The ratio of allowance for credit losses to net loans and leases (ex-PPP loans), at December 31, 2021 and 2020 was 1.13% and 1.74%, respectively. 3 The ratio of total net charge-offs to average loans and leases (ex-PPP loans), at December 31, 2021 and 2020 was 0.01% and 0.22%, respectively. 55 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Schedule 29 ALLOCATION OF THE ALLOWANCE FOR CREDIT LOSSES December 31, 2021 2020 2019 2018 2017 (Dollar amounts in millions) % of total loans Allocation of ACL % of total loans Allocation of ACL % of total loans Allocation of ACL % of total loans Allocation of ACL % of total loans Allocation of ACL Loan segment Commercial 59.7 % $ 330 57.0 % $ 494 52.1 % $ 380 51.7 % $ 371 51.2 % $ 419 Commercial real estate 21.3 118 22.6 191 23.7 121 23.8 127 24.8 113 Consumer 19.0 105 20.4 150 24.2 53 24.5 54 24.0 44 Total 100.0 % $ 553 100.0 % $ 835 100.0 % $ 554 100.0 % $ 552 100.0 % $ 576 The total ACL decreased $282 million during 2021, primarily due to improvements in economic forecasts and credit quality, compared with the economic stress caused by the COVID-19 pandemic in the prior year period. Due to the adoption of the CECL standard in 2020, the ACL is not comparable to periods presented prior to that time. The RULC represents a reserve for potential losses associated with off-balance sheet loan commitments and standby letters of credit, and decreased $18 million during 2021. The reserve is separately recorded on the consolidated balance sheet in “Other liabilities,” and any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. As a financial institution that engages in transactions involving various financial products, we are exposed to both interest rate risk and market risk. Our Board approves the overall policies relating to the management of our financial risk, including interest rate and market risk management. The Board has delegated the responsibility of managing our interest rate and market risk to the Asset/Liability Committee (“ALCO”), which consists of members of management. ALCO establishes and periodically revises policy limits and reviews with the ROC the limits and limit exceptions reported by management. Interest Rate Risk Interest rate risk is one of the most significant risks to which we are regularly exposed. We strive to position the Bank for interest rate changes and manage the balance sheet sensitivity to reduce net interest income volatility. We generally have granular, stable deposit funding. Much of this funding has an indeterminate life with no maturity and can be withdrawn at any time. However, because most deposits come from household and business accounts, their duration is generally long, compared with the short duration of our loan portfolio. As such, we are naturally “asset-sensitive” — meaning that our assets are expected to reprice faster or more significantly than our liabilities. In previous interest rate environments, we have added (1) interest rate swaps to synthetically increase the duration of the loan portfolio, (2) longer-duration securities, and (3) longer-duration loans to reduce the asset sensitivity to a level where an increase in interest rates of 100 basis points would result in only a slightly positive change in net interest income. During the COVID-19 pandemic with short-term interest rates at or near zero, we judged the risk-reward profile to be in favor of allowing the balance sheet to become significantly more asset-sensitive. We increased our investment securities portfolio during 2021 and added interest rate swaps in part to prevent the Bank from becoming even more asset-sensitive. 56 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Asset sensitivity to rising rates is dependent upon assumptions we use for deposit runoff and repricing behavior. As rapid growth in new deposits has led to more uncertainty in future behavior, these assumptions have become more significant. Average total deposits increased 20% from the prior year, and a significant portion of the deposits were invested in money market investments, resulting in increased asset sensitivity to rising rates. We are less asset-sensitive to declining rates than rising rates due to the limited amount of compression that could occur between the spread of the cost of deposits and the yield on money market investments. The following schedule presents derivatives utilized in our asset-liability management activities that are designated in qualifying hedging relationships at December 31, 2021. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each category of cash flow and fair value hedge. Schedule 30 DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2022 2023 2024 2025 (Dollar amounts in millions) First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter Cash flow hedges Cash flow asset hedges 1 Average outstanding notional $ 3,312 $ 2,878 $ 3,683 $ 4,416 $ 4,350 $ 4,183 $ 4,183 $ 4,183 $ 3,725 $ 2,242 Weighted-average fixed-rate received 1.80 % 1.36 % 1.26 % 1.24 % 1.20 % 1.16 % 1.16 % 1.16 % 1.05 % 1.08 % 2022 2023 2024 2025 2026 2027 2028 2029 2030 2031 Fair value hedges Fair value debt hedges 2 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — Weighted-average fixed-rate received 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % — % — % Fair value asset hedges 3 Average outstanding notional $ 479 $ 479 $ 478 $ 478 $ 478 $ 477 $ 475 $ 474 $ 473 $ 470 Weighted-average fixed-rate paid 1.16 % 1.16 % 1.16 % 1.16 % 1.16 % 1.16 % 1.16 % 1.16 % 1.16 % 1.16 % 1 Cash flow hedges consist of receive-fixed swaps hedging pools of floating-rate loans. Increases in the average outstanding notional are due to forward-starting interest rate swaps. 2 Fair value debt hedges consist of receive-fixed swaps hedging fixed-rate debt. The $500 million fair value debt hedge matures at the end of July 2029. 3 Fair value assets hedges consist of pay-fixed swaps hedging AFS fixed-rate securities. Interest Rate Risk Measurement We monitor interest rate risk through the use of two complementary measurement methods: net interest income simulation, or Earnings at Risk (“EaR”), and Economic Value of Equity at Risk (“EVE”). EaR measures the expected change in near-term (one year) net interest income in response to changes in interest rates. EVE measures the expected changes in the fair value of equity in response to changes in interest rates. EaR is an estimate of the change in total net interest income that would be recognized under different interest rate environments over a one-year period. This simulated impact to net interest income due to a change in rates uses as its base a modeled net interest income that is not necessarily the same as the most recent year’s reported net interest income. Rather, EaR employs estimated net interest income under an unchanged interest rate scenario as the basis for comparison. The EaR process then simulates changes to the base net interest income under several interest rate scenarios, including parallel and nonparallel interest rate shifts across the yield curve, taking into account deposit repricing assumptions and estimates of the possible exercise of embedded options within the portfolio (e.g., a borrower’s ability to refinance a loan under a lower-rate environment). The EaR model does not contemplate 57 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION changes in fee income that are amortized into interest income (e.g., premiums, discounts, origination points and costs, etc.). EVE is calculated as the fair value of all assets minus the fair value of liabilities. We measure changes in the dollar amount of EVE for parallel shifts in interest rates. Due to embedded optionality and asymmetric rate risk, changes in EVE can be useful in quantifying risks not apparent for small rate changes. Examples of such risks may include out-of-the-money interest rate caps (or limits) on loans, which have little effect under small rate movements but may become important if large rate changes were to occur, or substantial prepayment deceleration for low-rate mortgages in a higher-rate environment. Estimating the impact on net interest income and EVE requires that we assess a number of variables and make various assumptions in managing our exposure to changes in interest rates. The assessments address deposit withdrawals and deposit product migration (e.g., customers moving money from checking accounts to certificates of deposit), competitive pricing (e.g., existing loans and deposits are assumed to roll into new loans and deposits at similar spreads relative to benchmark interest rates), loan and security prepayments, and the effects of other embedded options. As a result of uncertainty about the maturity and repricing characteristics of both deposits and loans, we also calculate the sensitivity of EaR and EVE results to key assumptions. As previously noted, most of our liabilities are comprised of indeterminate maturity and managed-rate deposits, such as checking, savings, and money market accounts, and therefore, the modeled results are highly sensitive to the assumptions used for these deposits and to prepayment assumptions used for assets with prepayment options. We use historical regression analysis as a guide for setting such assumptions; however, due to the current low-interest-rate environment, which has little historical precedent, estimated deposit behavior may not reflect actual future results. Additionally, competition for funding in the marketplace may produce changes to deposit pricing on interest-bearing accounts that are greater or less than changes in benchmark interest rates or the federal funds rate. Under most rising interest rate scenarios, we would expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. The models are particularly sensitive to the assumption about the rate of such migration. In addition, we assume a correlation, often referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-on-checking accounts are assumed to have a lower correlation. Actual results may differ materially due to factors including the shape of the yield curve, competitive pricing, money supply, our credit worthiness, and so forth; however, we use our historical experience as well as industry data to inform our assumptions. The migration and correlation assumptions previously discussed result in deposit durations presented in the following schedu Schedule 31 DEPOSIT ASSUMPTIONS December 31, 2021 December 31, 2020 Product Effective duration (unchanged) Effective duration (+200 bps) Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 3.6 % 2.8 % 4.6 % 3.0 % Money market 1.7 % 1.7 % 3.4 % 1.4 % Savings and interest-bearing 2.4 % 2.2 % 3.0 % 2.2 % With interest rates forecast to rise more, the effective duration of deposits has shortened due to higher expected runoff and/or migration to more rate sensitive deposit products. 58 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Incorporating the assumptions previously discussed, the following schedule presents EaR, or percentage change in net interest income, and our estimated percentage change in EVE; both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. Schedule 32 INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY December 31, 2021 December 31, 2020 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Earnings at Risk (EaR) (5.2) % — % 11.2 % 22.7 % 33.6 % (2.9) % — % 9.2 % 18.0 % 26.4 % Economic Value of Equity (EVE) 20.9 % — % 0.8 % (0.5) % (1.2) % 13.0 % — % 12.0 % 14.4 % 16.1 % 1 Assumes rates cannot go below zero in the negative rate shift. For non-maturity, interest-bearing deposits, the weighted average modeled beta is 26%. If the weighted average deposit beta were to increase 11%, the EaR in the +100 bps rate shock would change from 11.2% to 9.0%. The asset sensitivity, as measured by EaR, increased in 2021, primarily due to growth in demand deposits and money market investments. The EaR analysis focuses on parallel rate shocks across the term structure of rates. The yield curve typically does not move in a parallel manner. If we consider a steepener rate ramp where the short-term rate declines to zero but the ten-year rate moves to +200 bps, the increase in EaR is 59.5% less over 24 months compared with the parallel +200 bps rate ramp. In the -100 bps rate shock, the EVE would increase due to the fact that we cap the value of our indeterminate deposits at their par value, or equivalently we assume no premium would be required to dispose of these liabilities given that depositors could be repaid at par. Since our assets increase in value as rates fall and the majority of our liabilities are indeterminate deposits, EVE increases disproportionately. The changes in EVE measures from December 31, 2020 are primarily driven by the behavior of the deposit models. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At December 31, 2021, $22 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. Of these variable-rate loans, approximately 98% are tied to either the prime rate, LIBOR, or AMERIBOR. For these variable-rate loans, we have executed $3.1 billion of cash flow hedges by receiving fixed rates on interest rate swaps. Additionally, asset sensitivity is reduced due to $6 billion of variable-rate commercial and CRE loans being priced at floored rates at December 31, 2021, which were above the “index plus spread” rate by an average of 54 bps. At December 31, 2021, we also had $3 billion of variable-rate consumer loans scheduled to reprice in the next six months, and approximately $1 billion were priced at floored rates, which were above the “index plus spread” rate by an average of 31 bps. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. LIBOR Exposure LIBOR is being phased out globally, and U.S. banking regulators instructed banks to cease entering into new lending arrangements using LIBOR no later than December 31, 2021, and migrate to alternative reference rates no later than June 2023. To facilitate the transition process, we instituted an enterprise-wide program to identify, assess, and monitor risks associated with the expected discontinuance or unavailability of LIBOR, which includes active engagement with industry working groups and regulators. This program also includes active involvement of senior management with regular engagement from the Enterprise Risk Management Committee, and seeks to minimize client and internal business operational impacts, while providing reporting transparency, consistency, and a central governance model that aligns with Financial Accounting Standards Board (“FASB”), Internal Revenue Service (“IRS”), and other regulatory guidance. 59 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION We have implemented processes, procedures, and systems to ensure contract risk is sufficiently mitigated. New originations, and any modifications or renewals of LIBOR-based contracts, contain fallback language to ensure transition to an alternative reference rate. For our contracts that referenced LIBOR and had a duration beyond December 31, 2021, all fallback provisions and variations were identified and classified based upon those provisions. During 2021, we originated more non-LIBOR referenced loans than LIBOR referenced loans, and by the end of the year, we had discontinued substantially all new originations referencing LIBOR. We have a significant number of assets and liabilities that reference LIBOR. At December 31, 2021, we had approximately $33 billion in loans (mainly commercial loans), unfunded lending commitments, and securities referencing LIBOR. The amount of borrowed funds referencing LIBOR at December 31, 2021 was less than $1 billion. These amounts exclude derivative assets and liabilities on the consolidated balance sheet. At December 31, 2021, the notional amount of our LIBOR-referenced interest rate derivative contracts was more than $18 billion, of which more than $14 billion related to contracts with central counterparty clearinghouses. The adoption of alternative reference rates continues to evolve in the marketplace. We are positioned to support our customers’ needs by accommodating multiple alternative reference rates, including the Constant Maturity Treasury rate (“CMT”), the Federal Home Loan Bank (“FHLB”) rate, the American Interbank Offered Rate (“AMERIBOR”), the Secured Overnight Financing Rate (“SOFR”), and the Bloomberg Short Term Bank Yield Index (“BSBY”). During 2022, customers will be prompted to either voluntarily modify their contracts and migrate to a reference rate other than LIBOR no later than June 2023, or be subject to the fallback provisions in their contracts. Voluntary modifications are expected to qualify for the available Tax Safe-Harbor provisions as allowed by IRS guidance. We expect that customers who voluntarily migrate to an alternative reference rate will do so by the end of year 2022, and we expect the remaining customers to move to an alternative rate index in accordance with the relevant fallback provisions in their contracts prior to June of 2023. For more information on the transition from LIBOR, see Risk Factors on page 13. Market Risk — Fixed Income We underwrite municipal and corporate securities. We also trade municipal, agency, and U.S. Treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. At December 31, 2021 and 2020, we had $372 million and $266 million of trading assets, and $254 million and $61 million of securities sold, not yet purchased, respectively. We are exposed to market risk through changes in fair value. This includes market risk for interest rate swaps used to hedge interest rate risk. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in AOCI for each financial reporting period. During 2021, the after-tax change in AOCI attributable to AFS securities decreased $336 million, due largely to changes in the interest rate environment, compared with a $229 million increase in the same prior year period. Market Risk — Equity Investments Through our equity investment activities, we own equity securities that are publicly traded. In addition, we own equity securities in governmental entities and companies, e.g., Federal Reserve Bank and the FHLB, that are not publicly traded. Equity investments may be accounted for at cost, fair value, the equity method, or full consolidation methods of accounting, depending on our ownership position and degree of influence over the investees’ affairs. Regardless of the accounting method, the value of our investment is subject to fluctuation. Because the fair value of these securities may fall below the cost at which we acquired them, we are exposed to the possibility of loss. Equity investments in private and public companies are approved, monitored, and evaluated by our Equity Investments Committee consisting of members of management. 60 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION We hold both direct and indirect investments in predominantly pre-public companies, primarily through various SBIC venture capital funds. Our equity exposure to these investments was approximately $179 million and $135 million at December 31, 2021 and 2020, respectively. On occasion, some of the companies within our SBIC investments may issue an IPO. In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce additional market risk. During 2021, we recognized a $31 million realized gain resulting from the sale of one of our SBIC investments, and a net $23 million unrealized gain related to our investment in Recursion Pharmaceuticals, Inc., which completed an IPO in the second quarter of 2021. See Note 3 of the Notes to Consolidated Financial Statements for additional information regarding the valuation of our SBIC investments. Liquidity Risk Management Overview Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as marketable loans and investment securities. Since liquidity risk is closely linked to both credit risk and market risk, many of the previously described risk control mechanisms also apply to the monitoring and management of liquidity risk. We manage our liquidity to provide adequate funds for our customers’ credit needs, capital plan actions, anticipated financial and contractual obligations, which include withdrawals by depositors, debt and capital service requirements, and lease obligations. Overseeing liquidity management is the responsibility of ALCO, which implements a Board-approved corporate Liquidity Policy. This policy addresses monitoring and maintaining adequate liquidity, diversifying funding positions, and anticipating future funding needs. The policy also includes liquidity ratio guidelines, such as a 30-day liquidity coverage ratio, that are used to monitor our liquidity positions as well as our various stress test and liquid asset measurements. We perform liquidity stress tests and assess our portfolio of highly liquid assets (sufficient to cover 30-day funding needs under stress scenarios). At December 31, 2021, our investment securities portfolio of $24.9 billion and cash and money market investments of $13.0 billion collectively comprised 41% of total assets. Our Treasury group, under the direction of the Corporate Treasurer, manages our liquidity and funding, with oversight by ALCO. The Treasurer is responsible for recommending changes to existing funding plans and our policies related to liquidity and funding. These recommendations are submitted for approval to ALCO, and changes to the policies are also approved by the ERMC and the Board. We have adopted policy limits that govern liquidity risk. The policy requires us to maintain a buffer of highly liquid assets sufficient to cover cash outflows in the event of a severe liquidity crisis. We complied with this policy throughout 2021. Liquidity Regulation We perform liquidity stress tests and assess our portfolio of highly liquid assets (sufficient to cover 30-day funding needs under the stress scenarios) even though we are no longer subject to the enhanced prudential standards for liquidity management (Reg. YY). In addition, we exceed the regulatory requirements that mandate a buffer of securities and other liquid assets to cover 70% of 30-day cash outflows under the assumptions mandated therein, although we are no longer subject to the regulations of the Final LCR Rule. Liquidity Management Actions Our consolidated cash, interest-bearing deposits held as investments, and security resell agreements were $12.9 billion at December 31, 2021, compared with $7.3 billion at December 31, 2020. During 2021, the primary sources of cash came from significant increases in deposits, redemptions and sales of investment securities, and net cash provided by operating activities. Uses of cash during the same period included primarily increases in investment securities and money market investments, repurchases of our common stock, and a decrease in short-term borrowings. Total deposits were $82.8 billion at December 31, 2021, compared with $69.7 billion at December 31, 2020. The $13.1 billion increase during 2021 was a result of an $8.6 billion and $5.5 billion increase in noninterest-bearing 61 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION demand deposits and savings and money market deposits, respectively, partially offset by a $1.0 billion decrease in time deposits. An increase in the money supply contributed meaningfully to overall deposit growth. Our core deposits, consisting of noninterest-bearing demand deposits, savings and money market deposits, and time deposits under $250,000, were $81.9 billion at December 31, 2021, compared with $68.2 billion at December 31, 2020. At December 31, 2021, maturities of our long-term senior and subordinated debt ranged from March 2022 to October 2029. During 2021, we redeemed $281 million of senior debt which matured and was not replaced with a new debt issuance. In February 2022, we redeemed $290 million of the 4-year, 3.35% senior notes on the contractual call date one month prior to final maturity. Our cash payments for interest, reflected in operating expenses, decreased to $81 million during 2021, from $195 million during 2020, primarily due to lower interest rates paid on deposits and borrowed funds and a decreased balance of fed funds and other short-term borrowings. Additionally, we paid approximately $263 million of dividends on preferred and common stock during 2021, compared with $259 million during 2020. Dividends paid per common share were $1.44 in 2021, compared with $1.36 in 2020. In January 2022, the Board approved a quarterly common dividend of $0.38 per share. General financial market and economic conditions impact our access to, and cost of, external financing. Access to funding markets is also directly affected by the credit ratings received from various rating agencies. The ratings not only influence the costs associated with borrowings, but can also influence the sources of the borrowings. All of the credit rating agencies rate our debt at an investment-grade level, and they recently improved their outloo Kroll from Stable to Positive, Fitch and S&P from Negative to Stable, and Moody’s from Stable to Review for Upgrade. Our credit ratings and outlooks are presented in the following schedule. Schedule 33 CREDIT RATINGS as of January 31, 2022: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Stable BBB+ BBB NR Fitch Stable BBB+ BBB F1 Moody's Review for Upgrade Baa2 NR NR The FHLB system and Federal Reserve Banks have been, and continue to be, a significant source of additional liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and Federal Reserve stock to maintain our borrowing capacity. At December 31, 2021, our total investment in FHLB and Federal Reserve stock was $11 million and $81 million, respectively, compared with $11 million and $98 million at December 31, 2020. The amount available for additional FHLB and Federal Reserve borrowings was approximately $18.3 billion at December 31, 2021, compared with $17.1 billion at December 31, 2020. Loans with a carrying value of approximately $26.8 billion at December 31, 2021 have been pledged at the FHLB of Des Moines and the Federal Reserve as collateral for current and potential borrowings, compared with $24.7 billion at December 31, 2020. At both December 31, 2021 and 2020, we had no FHLB or Federal Reserve borrowings outstanding. Our AFS investment securities are primarily held as a source of contingent liquidity. We target securities that can be easily turned into cash through sale or repurchase agreements and whose value remains relatively stable during market disruptions. We manage our short-term funding needs through secured borrowing with the securities pledged as collateral. Our AFS securities balances increased $8.3 billion during 2021. 62 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Our loan-to-total deposit ratio was 61% at December 31, 2021, compared with 77% at December 31, 2020, reflecting higher deposit growth in 2021. With deposit growth driving our increase in funding, liquidity considerations are highly dependent on the future behavior of deposit growth. By primarily deploying excess funds in liquid securities and money market investments, we retain the ability to address changes to our funding or liquidity profile. Borrowed funds (both short- and long-term) decreased by $993 million during 2021, as deposit growth exceeded loan demand. We used deposit funding to increase money market investments and investment securities, which increased $5.6 billion and $8.2 billion, respectively, during 2021. We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. Contractual Obligations The following schedule summarizes our contractual obligations at December 31, 2021. Schedule 34 CONTRACTUAL OBLIGATIONS (In millions) One year or less Over one year through three years Over three years through five years Over five years Indeterminable maturity 1 Total Deposits $ 1,304 $ 241 $ 76 $ 1 $ 81,167 $ 82,789 Net unfunded lending commitments 7,349 8,143 2,796 7,509 — 25,797 Standby letters of cr Financial 274 232 86 5 — 597 Performance 159 62 24 — — 245 Commercial letters of credit 14 8 — — — 22 Commitments to make venture and other noninterest-bearing investments 2 — — — — 54 54 Federal funds and other short-term borrowings 903 — — — — 903 Long-term debt 3 290 128 — 586 — 1,004 Operating leases 48 78 45 81 — 252 Total contractual obligations $ 10,341 $ 8,892 $ 3,027 $ 8,182 $ 81,221 $ 111,663 1 Indeterminable maturity deposits include noninterest-bearing demand, savings, and money market deposits. 2 Commitments to make venture and other noninterest-bearing investments do not have defined maturity dates. They are due upon demand and may be drawn immediately. Therefore, these commitments are shown as having indeterminable maturities. 3 The values presented do not reflect the associated hedges. In addition to the commitments specifically noted in the schedule above, we enter into a number of contractual commitments in the ordinary course of business. These include software licensing and maintenance, telecommunications services, facilities maintenance and equipment servicing, supplies purchasing, and other goods and services used in the operation of our business. Some of these contracts are renewable or cancellable annually or in shorter time intervals. To secure favorable pricing concessions, we may also commit to contracts that may extend several years. We enter into derivative contracts under which we are required either to receive or pay cash, depending on changes in interest rates. These contracts are measured at fair value on the balance sheet, reflecting the net present value of the expected future cash receipts and payments based on market interest rates. See Note 7 of the Notes to Consolidated Financial Statements for further information on derivative contracts. 63 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Operational, Technology, and Cyber Risk Management Operational Risk Operational risk is the risk to current or anticipated earnings or capital arising from inadequate or failed internal processes or systems, human errors or misconduct, or adverse external events. ERM assists employees, management, and the Board with assessing, measuring, managing, and monitoring this risk in accordance with our Risk Management Framework. We have documented control self-assessments related to financial reporting under the 2013 framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) and the FDICIA. We have instituted a number of measures to manage our operational risk, including, but not limited t (1) transactional documentation requirements; (2) systems and procedures to monitor transactions and positions; (3) systems and procedures to detect and mitigate attempts to commit fraud, penetrate our systems or telecommunications, access customer data, or deny normal access to those systems to our legitimate customers; (4) regulatory compliance reviews; and (5) periodic reviews by our Compliance Risk Management, Internal Audit, and Credit Examination departments. Reconciliation procedures have been established to ensure that data processing systems consistently and accurately capture critical data. In addition, the Data Governance department provides additional oversight of data integrity and data availability. Further, we maintain disaster recovery and business continuity plans for operational support in the event of natural or other disasters. We also mitigate certain operational risks through the purchase of insurance, including errors and omissions and professional liability insurance. We continually strive to improve our operational risk management, including enhancement of risk identification, risk and control self-assessments, business process mappings, regular tests of controls, and anti-fraud measures, which are reported on a regular basis to enterprise management committees. The Operational Risk Committee reports directly to the ROC. Key measures have been established in line with our Risk Management Framework to increase oversight by ERM and Operational Risk Management through the strengthening of new initiative reviews and enhancements to enterprise supply chain and vendor risk management. We also continue to enhance and strengthen the Enterprise Business Continuity program, Enterprise Security program, and Enterprise Incident Management reporting. Significant enhancements have also been made to governance, technology, and reporting, including the establishment of Policy and Committee Governance programs; the implementation of a governance, risk, and control system to manage and integrate business processes, risks, controls, assessments, and control testing; and the creation of an Enterprise Risk Profile and Operational Risk Profile. In addition, our Enterprise Exam Management department has standardized our response and reporting, and increased our effectiveness and efficiencies with regulatory examination, communications and issues management. Technology Risk Technology risk is the risk of adverse impact to business operations and customers due to reduced or denied availability or inadequate value delivery caused by technology-related assets, infrastructure, strategy or processes. We make significant investments to enhance our technology capabilities and to mitigate the risk from outdated and unsupported technologies (technical debt). This includes updating core banking systems, as well as introducing new digital customer-facing capabilities. Technology projects, initiatives, and operations are governed by a change management framework that assesses the activities and risk within our business processes to limit disruption and resource constraints. New, expanded, or modified products and services, as well as new lines of business, change initiative status, and other risks are regularly reviewed and approved by the Change, Initiatives, and Technology Committee. This Committee includes, among other senior executives, the CEO, CFO, COO and CRO. Initiative risk and change impact from the framework are reported to the ROC. Technology governance is also in place at the operational level within our Enterprise and Technology Operations (ETO) division to help ensure safety, soundness, operational resiliency, and compliance with our cybersecurity requirements. ETO management teams participate in enterprise architecture review boards and technology risk 64 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION councils to address such issues as enterprise standards compliance and strategic alignment, cyber vulnerability management, end-of-life, audit, risk and compliance issue management, and asset management. Thresholds are defined to escalate risks in these areas to the attention of the ROC and ERMC committees as appropriate. Cyber Risk Cyber risk is the risk of adverse impacts to the confidentiality, integrity and availability of data owned, stored or processed by the Bank. The number and sophistication of attempts to disrupt or penetrate our systems, and those of our suppliers — sometimes referred to as hacking, cyber fraud, cyberattacks, or other similar names — continues to grow. To combat the ever-increasing sophistication of cyberattacks, we are continually improving methods for detecting and preventing attacks. We have implemented policies and procedures, developed specific training for our employees, and have elevated our oversight and internal reporting to the Board and relevant committees. Further, we regularly engage independent third-party cyber experts to test for vulnerabilities in our environment. We also conduct our own internal simulations and tabletop exercises as well as participate in financial sector-specific exercises. We have engaged consultants at both the strategic level and at the technology implementation level to assist us in better managing this critical risk. Cyber defense and improving our resiliency against cybersecurity threats remain a key focus at all levels of management, and of our Board. CAPITAL MANAGEMENT Overview The Board is responsible for approving the policies associated with capital management. The Board has delegated responsibility of managing our capital risk to the Capital Management Committee (“CMC”), which is chaired by the Chief Financial Officer, consists of members of management, and whose primary responsibility is to recommend and administer the approved capital policies that govern our capital management. Other major CMC responsibilities inclu • Setting overall capital targets within the Board-approved Capital Policy, monitoring performance compared with our Capital Policy limits, and recommending changes to capital including dividends, common stock issuances and repurchases, subordinated debt, and changes in major strategies to maintain ourselves at well-capitalized levels; • Maintaining an adequate capital cushion to withstand adverse stress events while continuing to meet the borrowing needs of our customers, and to provide reasonable assurance of continued access to wholesale funding, consistent with fiduciary responsibilities to depositors and bondholders; and • Reviewing our agency ratings. A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. We have fundamental financial objectives and policies to consistently improve risk-adjusted returns on our shareholders’ capital, including (1) maintaining sufficient capital to support the current needs and growth of our businesses, and (2) fulfilling responsibilities to depositors and bondholders while managing capital distributions to shareholders through dividends and repurchases of common stock. Under the National Bank Act and OCC regulations, certain capital transactions are subject to the approval of the OCC. We continue to utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the FRB. The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as Board and OCC approval. Shares may be repurchased occasionally in the open market or through privately negotiated transactions. 65 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Schedule 35 SHAREHOLDERS' EQUITY (Dollar amounts in millions) December 31, 2021 December 31, 2020 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 566 $ (126) (22) % Common stock and additional paid-in capital 1,928 2,686 (758) (28) Retained earnings 5,175 4,309 866 20 Accumulated other comprehensive income (80) 325 (405) NM Total shareholders' equity $ 7,463 $ 7,886 $ (423) (5) % Total shareholders’ equity decreased $423 million, or 5% to $7.5 billion at December 31, 2021. An $866 million increase in retained earnings was offset by significant decreases in common stock and additional paid-in capital, AOCI, and preferred stock. Common stock and additional paid-in capital decreased $758 million, primarily due to common stock repurchases. AOCI decreased $405 million, primarily due to decreases in the fair value of available-for-sale securities as a result of changes in interest rates. Preferred stock decreased $126 million due to the redemption of the outstanding shares of our 5.75% Series H Non-Cumulative Perpetual Preferred Stock at par value during the second quarter of 2021. Capital Management Actions Weighted average diluted shares outstanding decreased 5.4 million in 2021, primarily due to common stock repurchases. During 2021, we repurchased 13.5 million common shares outstanding for $800 million, which is equivalent to 8.2% of common stock outstanding as of December 31, 2020. In January 2022, the Board approved a plan to repurchase up to $50 million of common shares outstanding during the first quarter of 2022. In February 2022, we repurchased 107,559 common shares outstanding for $7.5 million at an average price of $69.73. Schedule 36 CAPITAL DISTRIBUTIONS (In millions, except share data) 2021 2020 Capital distributio Preferred dividends paid $ 29 $ 34 Bank preferred stock redeemed 126 — Total capital distributed to preferred shareholders 155 34 Common dividends paid 232 225 Bank common stock repurchased 800 75 Total capital distributed to common shareholders 1,032 300 Total capital distributed to preferred and common shareholders $ 1,187 $ 334 Common shares outstanding, at year-end (in thousands) 159,913 163,737 Weighted average diluted common shares outstanding (in thousands) 160,234 165,613 Under the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. As of January 1, 2022, we had $1.1 billion of retained net profits available for distribution. The common stock dividend was $0.38 per share during the second half of 2021, compared with $0.34 during the first half of the year and the prior year. We paid common dividends of $232 million in 2021, compared with $225 million in 2020. In January 2022, the Board declared a quarterly dividend of $0.38 per common share payable on 66 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION February 24, 2022, to shareholders of record on February 17, 2022. We also paid dividends on preferred stock of $29 million in 2021, compared with $34 million in 2020. CECL We elected to phase-in the regulatory capital effects of the adoption of CECL, as allowed by federal bank agencies, and as described in Note 15 of the Notes to Consolidated Financial Statements. On December 31, 2021, the two-year deferral period for any adverse effect from CECL on regulatory capital expired. The application of these provisions had no impact on our CET1, Tier 1 risk-based, Total risk-based capital, and Tier 1 leverage capital ratios at December 31, 2021, and therefore, will not have any phase-in impact to our capital ratios over the next three years. Basel III We are subject to Basel III capital requirements to maintain adequate levels of capital as measured by several regulatory capital ratios. At December 31, 2021, we met all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. The following schedule presents our capital and other performance ratios. The Supervision and Regulation section on page 6 and Note 15 of the Notes to Consolidated Financial Statements contain more information about Basel III capital requirements. Schedule 37 CAPITAL RATIOS December 31, 2021 December 31, 2020 December 31, 2019 Tangible common equity ratio 1 6.5 % 7.8 % 8.5 % Tangible equity ratio 1 7.0 % 8.5 % 9.3 % Average equity to average assets 9.0 % 10.0 % 10.8 % Basel III risk-based capital ratios: Common equity tier 1 capital 10.2 % 10.8 % 10.2 % Tier 1 leverage 7.2 % 8.3 % 9.2 % Tier 1 risk-based 10.9 % 11.8 % 11.2 % Total risk-based 12.8 % 14.1 % 13.2 % Return on average common equity 14.9 % 7.2 % 11.2 % Return on average tangible common equity 1 17.3 % 8.4 % 13.1 % 1 See “GAAP to Non-GAAP Reconciliations” on page 22 for more information regarding these ratios. At December 31, 2021, Basel III regulatory tier 1 risk-based capital and total risk-based capital was $6.5 billion and $7.7 billion, respectively, compared with $6.6 billion and $7.9 billion, respectively, at December 31, 2020. Our Tier 1 leverage ratio declined to 7.2% from 8.3%, and has become more relevant in our capital adequacy assessments. Deployment of deposit-driven balance sheet growth into lower risk-weighted assets during the year has resulted in a modest reduction in our risk-weighted regulatory capital ratios, and a larger reduction in the Tier 1 leverage ratio, as the denominator for this ratio is not adjusted for risk. CRITICAL ACCOUNTING POLICIES AND SIGNIFICANT ESTIMATES Note 1 of the Notes to Consolidated Financial Statements contains a summary of our significant accounting policies. Described below are certain significant accounting policies that we consider critical to our financial statements. These critical accounting policies were selected because the amounts affected by them are significant to the financial statements. Any changes to these amounts, including changes in estimates, may also be significant to the financial statements. We believe that an understanding of these policies, along with the related estimates we are required to make in recording our financial transactions, is important to have a complete picture of our financial 67 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION condition. In addition, in arriving at these estimates, we are required to make complex and subjective judgments, many of which include a high degree of uncertainty. The following discussion of these critical accounting policies includes the significant estimates related to these policies. We have discussed each of these accounting policies and related estimates with the Audit Committee of the Board. We have included, where applicable in this document, sensitivity schedules and other examples to demonstrate the impact of the changes in estimates made for various financial transactions. The sensitivities in these schedules and examples are hypothetical and should be viewed with caution. Changes in estimates are based on variations in assumptions and are not subject to simple extrapolation, as the relationship of the change in the assumption to the change in the amount of the estimate may not be linear. In addition, the effect of a variation in one assumption is likely to cause changes in other assumptions, which could potentially magnify or counteract the sensitivities. Allowance for Credit Losses The ACL includes the ALLL and the RULC and represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. The ACL for our securities portfolio is estimated separately from loans. On January 1, 2020, we adopted ASU 2016-13, or CECL. Upon adoption of the ASU, we recorded the full amount of the ACL for loans and leases of $526 million, resulting in an after-tax increase to retained earnings of $20 million. The impact of the adoption of CECL for our securities portfolio was less than $1 million. The CECL allowance is calculated based on quantitative models and management qualitative judgment based on many factors over the life of loan. The primary assumptions of the CECL quantitative model are the economic forecast, the length of the reasonable and supportable forecast period, the length of the reversion period, prepayment rates, and the credit quality of the portfolio. As a result of the CECL accounting standard, the ACL may change significantly each period because, under the CECL methodology, the ACL is subject to economic forecasts that may change materially from period to period. Although we believe that our methodology for determining an appropriate level for the ACL adequately addresses the various components that could potentially result in credit losses, the processes and their elements include features that may be susceptible to significant change. Any unfavorable differences between the actual outcome of credit-related events and our estimates could require an additional provision for credit losses. For example, if the ACL was evaluated on the baseline economic scenario rather than probability weighting four scenarios, the quantitatively determined amount of the ACL at December 31, 2021 would decrease by approximately $82 million. Additionally, if the probability of default risk grade for all pass-graded loans was immediately downgraded one grade on our internal risk-grading scale, the quantitatively determined amount of the ACL at December 31, 2021 would increase by approximately $40 million. These sensitivity analyses are hypothetical and have been provided only to indicate the potential impact that changes in economic forecasts and changes in risk grades may have on the ACL estimate. See Note 6 of the Notes to Consolidated Financial Statements for more information on the processes and methodologies used to estimate the ACL. Fair Value Estimates We measure many of our assets and liabilities at fair value. Fair value is the price that could be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. To increase consistency and comparability in fair value measurements, GAAP has established a three-level hierarchy to prioritize the valuation inputs among (1) observable inputs that reflect quoted prices in active markets, (2) inputs other than quoted prices with observable market data, and (3) unobservable data such as our own data or single dealer nonbinding pricing quotes. When observable market prices are not available, fair value is estimated using modeling techniques such as discounted cash flow analysis. These modeling techniques use assumptions that market participants would consider in pricing the asset or the liability, including assumptions about the risk inherent in a particular valuation technique, 68 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION the effect of a restriction on the sale or use of an asset, the life of the asset and applicable growth rate, the risk of nonperformance, and other related assumptions. The selection and weighting of the various fair value techniques may result in a fair value higher or lower than the carrying value of the item being valued. Considerable judgment may be involved in determining the amount that is most representative of fair value. For assets and liabilities measured at fair value, our policy is to maximize the use of observable inputs, when available, and minimize the use of unobservable inputs when developing fair value measurements. In certain cases, when market observable inputs for model-based valuation techniques may not be readily available, we are required to make judgments about the assumptions market participants would use in estimating the fair value of the financial instrument. The models used to determine fair value adjustments are regularly evaluated by management for relevance under current facts and circumstances. Changes in market conditions may reduce the availability of quoted prices or observable data. For example, reduced liquidity in the capital markets or changes in secondary market activities could result in observable market inputs becoming unavailable. When market data is not available, we use valuation techniques requiring more management judgment to estimate the appropriate fair value. Fair value is used on a recurring basis for certain assets and liabilities in which fair value is the primary measure of accounting. Fair value is used on a nonrecurring basis to measure certain assets or liabilities (including loans held for sale and OREO) for impairment or for disclosure purposes in accordance with current accounting guidance. Impairment analysis also relates to long-lived assets, goodwill, and core deposit and other intangible assets. An impairment loss is recognized if the carrying amount of the asset is not likely to be recoverable and exceeds its fair value. In determining the fair value, management uses models and applies the techniques and assumptions previously described. AFS securities are valued using several methodologies, which depend on the nature of the security, availability of current market information, and other factors. AFS securities in an unrealized loss position are formally reviewed on a quarterly basis for the presence of impairment. If we have an intent to sell an identified security, or it is more likely than not we will be required to sell the security before recovery of its amortized cost basis, we first recognize an identified impairment. If we do not have the intent to sell a security, and it is more likely than not that we will not be required to sell a security prior to recovery of its amortized cost basis, then we determine whether there is any impairment attributable to credit-related factors. Notes 1, 3 , 5, 7, and 10 of the Notes to Consolidated Financial Statements and the “Investment Securities Portfolio” on page 43 contain further information regarding the use of fair value estimates. Goodwill Goodwill is recorded at fair value in the financial statements of a reporting unit at the time of its acquisition and is subsequently evaluated at least annually for impairment in accordance with current accounting guidance. We perform this annual test at the beginning of the fourth quarter, or more often if events or circumstances indicate that the carrying value of any of our reporting units, inclusive of goodwill, is less than fair value. The goodwill impairment test for a given reporting unit compares its fair value with its carrying value. If the carrying amount, inclusive of goodwill, is more likely than not to exceed its fair value, additional quantitative analysis must be performed to determine the amount, if any, of goodwill impairment. Our reporting units with goodwill are Amegy, CB&T, and Zions Bank. To determine the fair value of a reporting unit, we historically have used a combination of up to three separate quantitative methods: comparable publicly-traded commercial banks in the Western and Southwestern states (“Market Value”); where applicable, comparable acquisitions of commercial banks in the Western and 69 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Southwestern states (“Transaction Value”); and the discounted present value of management’s estimates of future cash flows. Critical assumptions that are used as part of these calculations may inclu • Selection of comparable publicly-traded companies based on location, size, and business focus and composition; • Selection of market comparable acquisition transactions, if available, based on location, size, business focus and composition, and date of the transaction; • The discount rate, which is based on our estimate of the cost of equity capital; • The projections of future earnings and cash flows of the reporting unit; • The relative weight given to the valuations derived by the three methods described; and • The control premium associated with reporting units. We apply a control premium in the Market Value approach to determine the reporting units’ equity values. Control premiums represent the ability of a controlling shareholder to change how we are managed and can cause the fair value of a reporting unit as a whole to exceed its market capitalization. Based on a review of historical bank acquisition transactions within our geographic footprint, and a comparison of the target banks’ market values 30 days prior to the announced transaction to the deal value, we have determined that up to a 25% control premium for the reporting units is appropriate. Since estimates are an integral part of the impairment test computations, changes in these estimates could have a significant impact on our reporting units' fair value and the goodwill impairment amount, if any. Estimates include economic conditions, which impact the assumptions related to interest and growth rates, loss rates, and imputed cost of equity capital. The fair value estimates for each reporting unit incorporate current economic and market conditions, including Federal Reserve monetary policy expectations and the impact of legislative and regulatory changes. Additional factors that may significantly affect the estimates include, among others, competitive forces, customer behaviors and attrition, loan losses, changes in growth trends, cost structures and technology, changes in equity market values and merger and acquisition valuations, and changes in industry conditions. Weakening in the economic environment, a decline in the performance of the reporting units, or other factors could cause the fair value of one or more of the reporting units to fall below carrying value, resulting in a goodwill impairment charge. Additionally, new legislative or regulatory changes not anticipated in management’s expectations may cause the fair value of one or more of the reporting units to fall below the carrying value, resulting in a goodwill impairment charge. Any impairment charge would not affect our regulatory capital ratios, tangible common equity ratio, or liquidity position. During the fourth quarter of 2021, we performed our annual goodwill impairment evaluation, effective October 1, 2021. We concluded that none of our reporting units were impaired. During the fourth quarter of 2020, we performed a full quantitative analysis and determined that the fair values of Zions Bank, CB&T, and Amegy exceeded their carrying values by 44%, 28%, and 12%, respectively. As part of the quantitative analysis, we also performed a hypothetical sensitivity analysis on the discount rate assumption to evaluate the impact of an adverse change to this assumption. If the discount rate applied to future earnings was increased by 100 bps, the fair values of Zions Bank, CB&T, and Amegy, would exceed their carrying values by 39%, 24%, and 9%, respectively. RECENT ACCOUNTING PRONOUNCEMENTS AND DEVELOPMENTS Note 2 of the Notes to Consolidated Financial Statements discusses recently issued accounting pronouncements that we will be required to adopt. Also described is our expectation of the impact these new accounting pronouncements will have, to the extent they are material, on our financial condition, results of operations, or liquidity. 70 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Information required by this Item is included in “Interest Rate and Market Risk Management” in MD&A, beginning on page 57 and is hereby incorporated by reference. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA REPORT ON MANAGEMENT’S ASSESSMENT OF INTERNAL CONTROL OVER FINANCIAL REPORTING The management of Zions Bancorporation, N.A is responsible for establishing and maintaining adequate internal control over financial reporting as defined by Exchange Act Rules 13a-15 and 15d-15. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Although any system of internal control can be compromised by human error or intentional circumvention of required procedures, we believe our system provides reasonable assurance that financial transactions are recorded and reported properly, providing an adequate basis for reliable financial statements. Our management has used the criteria established in Internal Control – Integrated Framework (2013 framework) issued by the COSO to evaluate the effectiveness of our internal control over financial reporting. Our management has assessed the effectiveness of our internal control over financial reporting as of December 31, 2021, and has concluded that such internal control over financial reporting is effective. There are no material weaknesses in our internal control over financial reporting that have been identified by our management. Ernst & Young LLP, an independent registered public accounting firm, has audited our consolidated financial statements for the year ended December 31, 2021, and has also issued an attestation report, which is included herein, on internal control over financial reporting in accordance with the standards of the Public Company Accounting Oversight Board (“PCAOB”). 71 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION REPORTS OF ERNST & YOUNG LLP, INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM (PCAOB ID: 42 ) REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING To the Shareholders and the Board of Directors of Zions Bancorporation, National Association Opinion on Internal Control Over Financial Reporting We have audited Zions Bancorporation, National Association’s (“the Bank” ) internal control over financial reporting as of December 31, 2021, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (“the COSO criteria”). In our opinion, the Bank maintained, in all material respects, effective internal control over financial reporting as of December 31, 2021, based on the COSO criteria. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the 2021 consolidated financial statements of the Bank, and our report dated February 24, 2022 expressed an unqualified opinion thereon. Basis for Opinion The Bank’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Report on Management’s Assessment of Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Bank’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Bank in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. Definition and Limitations of Internal Control Over Financial Reporting A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. /s/ Ernst & Young LLP Salt Lake City, Utah February 24, 2022 72 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION REPORT ON CONSOLIDATED FINANCIAL STATEMENTS To the Shareholders and the Board of Directors of Zions Bancorporation, National Association Opinion on the Financial Statements We have audited the accompanying consolidated balance sheets of Zions Bancorporation, National Association (“the Bank”) as of December 31, 2021 and 2020, the related consolidated statements of income, comprehensive income, changes in shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2021, and the related notes (collectively referred to as the “ consolidated financial statements ” ). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Bank at December 31, 2021 and 2020, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2021, in conformity with U.S. generally accepted accounting principles. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) ( “PCAOB” ), the Bank’s internal control over financial reporting as of December 31, 2021, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework), and our report dated February 24, 2022 expressed an unqualified opinion thereon. Adoption of ASU 2016-13 As discussed in Note 1 to the consolidated financial statements, the Bank changed its method of accounting for credit losses in 2020 due to the adoption of ASU 2016-13, Financial Instruments-Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments . Basis for Opinion These financial statements are the responsibility of the Bank’s management. Our responsibility is to express an opinion on the Bank’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Bank in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion. Critical Audit Matter The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and tha (1) relates to accounts or disclosures that are material to the financial statements, and (2) involved our especially challenging, subjective or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the account and the disclosures to which it relates. 73 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Allowance for loan and lease losses Description of the Matter The Bank’s loan and lease portfolio and the associated allowance for loan and lease losses (ALLL), were $50.9 billion and $513 million as of December 31, 2021, respectively. The provision for loan and lease losses was $(258) million for the year ended December 31, 2021. The ALLL represented the Bank’s estimate of current expected credit losses over the contractual remaining life of the loan and lease portfolio as of the consolidated balance sheet date. Management’s ALLL estimate includes quantitative calculations based on the statistical analysis of historical loss experience dependent on weighted economic scenarios and other loan-level characteristics forecasted over a reasonable period, losses estimated using historical loss experience for periods outside the reasonable economic forecast period (collectively the quantitative portion), supplemented with qualitative adjustments that bring the ALLL to the level management deemed appropriate based on factors that are not fully considered in the quantitative analysis. The statistical analysis of historical loss experience was derived from credit loss models used to determine the quantitative portion of the ALLL. Judgment was required by management to determine the weightings of the economic scenarios and the magnitude of the impact of the qualitative adjustments to the ALLL. Auditing management’s estimate of the ALLL is complex due to the judgment used to weight the economic scenarios and the judgment involved in determining the magnitude of the impact of the various risk factors used to derive the qualitative adjustments to the ALLL. How We Addressed the Matter in Our Audit We obtained an understanding, evaluated the design and tested the operating effectiveness of controls that address the risk of material misstatement in determining the weightings of the economic scenarios and in determining the impact of the qualitative adjustments to the ALLL at the Bank. We tested controls over the Bank’s ALLL governance process, model development and model risk management as it relates to the credit loss models used in the ALLL process. Such testing included testing controls over model governance, controls over data input into the models, and controls over model calculation accuracy and observing key management meetings where weightings of the economic scenarios and the magnitude of qualitative adjustments are reviewed and approved. To test the reasonableness of the weightings of the economic scenarios, our procedures consisted of obtaining an understanding of the forecasted economic scenarios used, including agreeing the economic scenarios to third party published data and economic scenarios developed from market information as well as evaluating management’s methodology, including the economic scenario weighting process. We also performed analytical procedures and sensitivity analyses on the weightings of the economic scenarios and searched for and evaluated information that corroborated or contradicted these weightings. Regarding the completeness of qualitative adjustments identified and incorporated into measuring the ALLL, we evaluated the potential impact of imprecision in the credit loss models and emerging risks related to changes in the environment impacting specific portfolio segments and portfolio characteristics. We also evaluated and tested internal and external data used in the qualitative adjustments by agreeing significant inputs and underlying data to internal and external sources. Further, we compared the resulting ALLL to peer bank data. We assessed whether the total amount of the ALLL estimate was consistent with the Bank’s historical loss information, credit quality statistics, and publicly observable indicators of macroeconomic financial conditions and whether the total ALLL amount was reflective of current expected losses in the loan and lease portfolio as of the consolidated balance sheet date. /s/ Ernst & Young LLP We have served as the Bank’s auditor since 2000. Salt Lake City, Utah February 24, 2022 74 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) December 31, 2021 2020 ASSETS Cash and due from banks $ 595 $ 543 Money market investments: Interest-bearing deposits 10,283 1,074 Federal funds sold and security resell agreements 2,133 5,765 Investment securiti Held-to-maturity, at amortized cost (fair value $ 443 and $ 640 ) 441 636 Available-for-sale, at fair value 24,048 15,731 Trading account, at fair value 372 266 Total investment securities 24,861 16,633 Loans held for sale 83 81 Loans and leases, net of unearned income and fees 50,851 53,476 Less allowance for loan and lease losses 513 777 Loans, net of allowance 50,338 52,699 Other noninterest-bearing investments 851 817 Premises, equipment and software, net 1,319 1,209 Goodwill and intangibles 1,015 1,016 Other real estate owned 8 4 Other assets 1,714 1,638 Total assets $ 93,200 $ 81,479 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 41,053 $ 32,494 Interest-bearin Savings and money market 40,114 34,571 Time 1,622 2,588 Total deposits 82,789 69,653 Federal funds and other short-term borrowings 903 1,572 Long-term debt 1,012 1,336 Reserve for unfunded lending commitments 40 58 Other liabilities 993 974 Total liabilities 85,737 73,593 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 566 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 151,625 and 164,090 shares and additional paid-in capital) 1,928 2,686 Retained earnings 5,175 4,309 Accumulated other comprehensive income ( 80 ) 325 Total shareholders’ equity 7,463 7,886 Total liabilities and shareholders’ equity $ 93,200 $ 81,479 See accompanying notes to consolidated financial statements. 75 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF INCOME (In millions, except shares and per share amounts) Year Ended December 31, 2021 2020 2019 Interest income: Interest and fees on loans $ 1,935 $ 2,050 $ 2,289 Interest on money market investments 21 14 32 Interest on securities 311 304 362 Total interest income 2,267 2,368 2,683 Interest expense: Interest on deposits 30 105 254 Interest on short- and long-term borrowings 29 47 157 Total interest expense 59 152 411 Net interest income 2,208 2,216 2,272 Provision for credit loss Provision for loan losses ( 258 ) 385 37 Provision for unfunded lending commitments ( 18 ) 29 2 Total provision for credit losses ( 276 ) 414 39 Net interest income after provision for credit losses 2,484 1,802 2,233 Noninterest income: Commercial account fees 134 125 121 Card fees 95 82 92 Retail and business banking fees 74 68 78 Loan-related fees and income 95 109 75 Capital markets and foreign exchange fees 73 77 78 Wealth management fees 50 44 40 Other customer-related fees 54 44 41 Customer-related fees 575 549 525 Fair value and nonhedge derivative income (loss) 14 ( 6 ) ( 9 ) Dividends and other income 43 24 43 Securities gains, net 71 7 3 Total noninterest income 703 574 562 Noninterest expense: Salaries and employee benefits 1,127 1,087 1,141 Occupancy, net 131 130 133 Furniture, equipment and software, net 128 127 135 Other real estate expense, net — 1 ( 3 ) Credit-related expense 26 22 20 Professional and legal services 68 52 47 Advertising 19 19 19 FDIC premiums 25 25 25 Other 217 241 225 Total noninterest expense 1,741 1,704 1,742 Income before income taxes 1,446 672 1,053 Income taxes 317 133 237 Net income 1,129 539 816 Preferred stock dividends ( 29 ) ( 34 ) ( 34 ) Net earnings applicable to common shareholders $ 1,100 $ 505 $ 782 Weighted average common shares outstanding during the y Basic shares (in thousands) 159,913 163,737 175,984 Diluted shares (in thousands) 160,234 165,613 186,504 Net earnings per common sh Basic $ 6.80 $ 3.06 $ 4.41 Diluted 6.79 3.02 4.16 See accompanying notes to consolidated financial statements. 76 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (In millions) Year Ended December 31, 2021 2020 2019 Net income $ 1,129 $ 539 $ 816 Other comprehensive income (loss), net of t Net unrealized holding gains (losses) on investment securities ( 336 ) 229 257 Net unrealized gains (losses) on other noninterest-bearing investments 3 1 ( 9 ) Net unrealized holding gains (losses) on derivative instruments ( 26 ) 76 33 Reclassification adjustment for decrease (increase) in interest income recognized in earnings on derivative instruments ( 46 ) ( 36 ) 5 Pension and post-retirement — 12 7 Other comprehensive income (loss), net of tax ( 405 ) 282 293 Comprehensive income $ 724 $ 821 $ 1,109 See accompanying notes to consolidated financial statements. 77 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2018 $ 566 187,554 $ — $ 3,806 $ 3,456 $ ( 250 ) $ 7,578 Net income 816 816 Cumulative effect adjustment, adoption of ASU 2017-08, Premium Amortization on Purchased Callable Debt Securities ( 3 ) ( 3 ) Other comprehensive income, net of tax 293 293 Bank common stock repurchased ( 23,531 ) ( 1,102 ) ( 1,102 ) Net shares issued from stock warrant exercises 8 Net activity under employee plans and related tax benefits 1,026 31 31 Dividends on preferred stock ( 34 ) ( 34 ) Dividends on common stock, $ 1.28 per share ( 226 ) ( 226 ) Balance at December 31, 2019 566 165,057 — 2,735 4,009 43 7,353 Net income 539 539 Cumulative effect adjustment, adoption of ASU 2016-13, Credit Loss Measurement of Credit Losses on Financial Instruments 20 20 Other comprehensive income, net of tax 282 282 Bank common stock repurchased ( 1,686 ) ( 76 ) ( 76 ) Net shares issued from stock warrant exercises 1 Net activity under employee plans and related tax benefits 718 27 27 Dividends on preferred stock ( 34 ) ( 34 ) Dividends on common stock, $ 1.36 per share ( 225 ) ( 225 ) Balance at December 31, 2020 566 164,090 — 2,686 4,309 325 7,886 Net income 1,129 1,129 Other comprehensive loss, net of tax ( 405 ) ( 405 ) Bank common stock repurchased ( 13,521 ) ( 800 ) ( 800 ) Preferred stock redemption ( 126 ) 3 ( 3 ) ( 126 ) Net activity under employee plans and related tax benefits 1,056 39 39 Dividends on preferred stock ( 29 ) ( 29 ) Dividends on common stock, $ 1.44 per share ( 232 ) ( 232 ) Change in deferred compensation 1 1 Balance at December 31, 2021 $ 440 151,625 $ — $ 1,928 $ 5,175 $ ( 80 ) $ 7,463 See accompanying notes to consolidated financial statements. 78 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF CASH FLOWS (In millions) Year Ended December 31, 2021 2020 2019 CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 1,129 $ 539 $ 816 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses ( 276 ) 414 39 Depreciation and amortization ( 14 ) 86 188 Share-based compensation 28 26 27 Deferred income tax expense (benefit) 32 ( 58 ) ( 2 ) Net decrease (increase) in trading securities ( 107 ) ( 83 ) ( 76 ) Net decrease (increase) in loans held for sale 14 ( 10 ) ( 84 ) Change in other liabilities 13 57 ( 14 ) Change in other assets ( 78 ) ( 223 ) ( 179 ) Other, net ( 112 ) ( 29 ) ( 18 ) Net cash provided by operating activities 629 719 697 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease (increase) in money market investments ( 5,577 ) ( 5,611 ) 852 Proceeds from maturities and paydowns of investment securities held-to-maturity 457 386 391 Purchases of investment securities held-to-maturity ( 262 ) ( 430 ) ( 209 ) Proceeds from sales, maturities, and paydowns of investment securities available-for-sale 4,748 4,339 3,105 Purchases of investment securities available-for-sale ( 13,647 ) ( 6,151 ) ( 1,864 ) Net change in loans and leases 2,814 ( 4,687 ) ( 1,957 ) Purchases and sales of other noninterest-bearing investments 63 79 172 Purchases of premises and equipment ( 206 ) ( 171 ) ( 117 ) Other, net 31 42 2 Net cash provided by (used in) investing activities ( 11,579 ) ( 12,204 ) 375 CASH FLOWS FROM FINANCING ACTIVITIES Net increase in deposits 13,136 12,568 2,984 Net change in short-term funds borrowed ( 669 ) ( 481 ) ( 3,600 ) Cash paid for preferred stock redemptions ( 126 ) — — Repayments of long-term debt ( 286 ) ( 429 ) — Proceeds from the issuance of long-term debt — — 992 Bank common stock repurchased ( 800 ) ( 76 ) ( 1,102 ) Proceeds from the issuance of common stock 21 8 14 Dividends paid on common and preferred stock ( 261 ) ( 259 ) ( 260 ) Other, net ( 13 ) ( 8 ) ( 9 ) Net cash provided by (used in) financing activities 11,002 11,323 ( 981 ) Net increase (decrease) in cash and due from banks 52 ( 162 ) 91 Cash and due from banks at beginning of year 543 705 614 Cash and due from banks at end of year $ 595 $ 543 $ 705 Cash paid for interest $ 81 $ 195 $ 401 Net cash paid for income taxes 442 169 233 Noncash activities are summarized as follows: Loans held for investment transferred to other real estate owned 25 4 12 Loans held for investment reclassified to loans held for sale, net 120 ( 11 ) 85 See accompanying notes to consolidated financial statements. 79 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ZIONS BANCORPORATION, N.A. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2021 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Business Zions Bancorporation, National Association (“Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) is a bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed affiliat Zions Bank in Utah, Idaho, and Wyoming; California Bank & Trust (“CB&T”); Amegy Bank (“Amegy”) in Texas; National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”) in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under The Commerce Bank of Oregon in Oregon. Basis of Financial Statement Presentation and Principles of Consolidation The consolidated financial statements include our accounts and those of our majority-owned, consolidated subsidiaries. Unconsolidated investments where we have the ability to exercise significant influence over the operating and financial policies of the respective investee are accounted for using the equity method of accounting. All significant intercompany accounts and transactions have been eliminated in consolidation. Assets held in an agency or fiduciary capacity are not included in the consolidated financial statements. The consolidated financial statements have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) and prevailing practices within the financial services industry. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. Prior year amounts have been reclassified to conform with the current year presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. We evaluated events that occurred between December 31, 2021 and the date the accompanying financial statements were issued, and there were no material events that would require recognition in the consolidated financial statements or disclosure in the accompanying Notes. As referenced in Note 13 of the “Notes to Consolidated Financial Statements,” we redeemed the 3.35 % senior notes on February 4, 2022. Variable Interest Entities A variable interest entity (“VIE”) is consolidated when we are the primary beneficiary of the VIE. Current accounting guidance requires continuous analysis to determine the primary beneficiary of a VIE. At the commencement of our involvement, and periodically thereafter, we consider our consolidation conclusions for all entities with which we are involved. At December 31, 2021, and 2020, we had no VIEs that have been consolidated in our financial statements. Statement of Cash Flows For purposes of presentation in the consolidated statements of cash flows, “cash and cash equivalents” are defined as those amounts included in cash and due from banks in the consolidated balance sheets. Fair Value Estimates We measure many of our assets and liabilities on a fair value basis. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. To improve consistency and comparability in fair value measurements, GAAP has established a hierarchy to prioritize the 80 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION valuation inputs among three levels. We prioritize quoted prices in active markets and minimize reliance on unobservable inputs when possible. When observable market prices are not available, fair value is estimated using modeling techniques requiring professional judgment to estimate the appropriate fair value. These valuation techniques use assumptions that market participants would consider in pricing the asset or the liability, including the effect of a restriction on the sale or use of an asset, the life of the asset and applicable growth rate, the risk of nonperformance, and other related assumptions. Changes in market conditions may reduce the availability of quoted prices or observable data. See Note 3 of the “Notes to Consolidated Financial Statements” for further information regarding the use of fair value estimates. Security Resell Agreements Security resell agreements represent overnight and term agreements with the majority maturing within 30 days. These agreements are generally treated as collateralized financing transactions and are carried at amounts at which the securities were acquired plus accrued interest. Either we, or in some instances third parties on our behalf, take possession of the underlying securities. The fair value of such securities is monitored throughout the contract term to ensure that asset values remain sufficient to protect against counterparty default. We are permitted by contract to sell or repledge certain securities that we accept as collateral for security resell agreements. If sold, our obligation to return the collateral is recorded as “securities sold, not yet purchased” and included as a liability in “Federal funds and other short-term borrowings.” At December 31, 2021, and 2020, we held $ 2.0 billion and $ 5.7 billion of securities for which we were permitted by contract to sell or repledge, respectively. Security resell agreements averaged $ 2.1 billion during both 2021 and 2020, and the maximum amount outstanding at any month-end during those same time periods was $ 3.6 billion and $ 6.4 billion, respectively. Investment Securities We classify our investment securities according to their purpose and holding period. Gains or losses on the sale of securities are recognized using the specific identification method and recorded in noninterest income. Held-to-maturity (“HTM”) debt securities are carried at amortized cost with purchase discounts or premiums accreted or amortized into interest income over the contractual life of the security. We have the intent and ability to hold such securities until maturity. For HTM securities, the ACL is assessed consistent with the approach described in Note 6 for loans carried at amortized cost. Available-for-sale (“AFS”) securities are measured at fair value and generally consist of debt securities held for investment. Unrealized gains and losses of AFS securities, after applicable taxes, are recorded as a component of other comprehensive income (“OCI”). AFS securities in an unrealized loss position are formally reviewed on a quarterly basis for the presence of impairment. If we have an intent to sell an identified security, or it is more likely than not we will be required to sell the security before recovery of its amortized cost basis, we recognize an identified impairment. If we have the intent and ability to hold the securities, they are analyzed to determine whether there is any impairment attributable to credit-related factors. If a credit impairment is determined to exist, then we measure the amount of credit loss and recognize an allowance for the credit loss. The process, methodology, and factors considered to evaluate securities for impairment are described further in Note 5. Trading securities are measured at fair value and consist of securities acquired for short-term appreciation or other trading purposes. Realized and unrealized gains and losses are recorded in trading income, which is included in “Capital markets and foreign exchange fees” line item in the income statement. See Note 3 for further information regarding the measurement of our investment securities at fair value. Leases All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “Other assets,” and “Premises, equipment and software, net,” respectively. The corresponding liabilities for those 81 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION leases are presented in “Other liabilities,” and “Long-term debt.” See Note 8 for further information regarding the accounting for leases. Loans Loans are reported at the principal amount outstanding, net of unearned income, unamortized purchase premiums and discounts, and net of deferred loan fees and costs, which are amortized into interest income over the life of the loan using the interest method. At the time of origination, we determine whether loans will be held for investment or held for sale. We may subsequently change our intent for a loan or group of loans and reclassify them appropriately. Loans held for sale are carried at the lower of aggregate cost or fair value. A valuation allowance is recorded when cost exceeds fair value based on reviews at the time of reclassification and periodically thereafter. Gains and losses are recorded in “Loan-related fees and income” in noninterest income based on the difference between sales proceeds and carrying value. We evaluate loans throughout their lives for signs of credit deterioration, which may impact the loan status, risk grading, and potentially impact the accounting for that loan. Loan status categories include past due as to contractual payments, accruing or nonaccruing, and restructured, including troubled debt restructurings (“TDRs”). Our accounting policies for loans and our estimation of the related allowance for credit losses (“ACL”) are described further in Note 6. In the ordinary course of business, we may syndicate portions of loans or transfer portions of loans under participation agreements to manage credit risk and our portfolio concentration. We evaluate the loan participations to determine if they meet the appropriate accounting guidance to qualify as sales. Certain purchased loans require separate accounting procedures that are also described in Note 6. Allowance for Credit Losses The ACL, which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. On January 1, 2020, we adopted Accounting Standards Update (“ASU”) 2016-13, Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, and its subsequent updates, often referred to as the Current Expected Credit Loss (“CECL”) model. CECL changed how the ACL is measured for loans and for additional financial assets, including HTM securities. The ACL for debt securities is estimated separately from loans. See Note 6 for further discussion of our estimation process for the ACL. Other Noninterest-bearing Investments These investments include private equity investments (“PEIs”), venture capital securities, securities acquired for various debt and regulatory requirements, bank-owned life insurance (“BOLI”), and certain other noninterest-bearing investments. See further discussion in Note 3. Certain PEIs and venture capital securities are accounted for under the equity method and some are reported at fair value. Changes in fair value and gains and losses from sales are recognized in the “Securities gains and losses, net” line item in noninterest income. We have elected to measure PEIs without readily determinable fair values at cost less impairment (if any), plus or minus observable price changes from an identical or similar investment of the same issuer, referred to as the “measurement alternative,” with such changes also recognized in noninterest income. Periodic reviews are conducted for impairment by comparing carrying values with estimates of fair value. BOLI is accounted for at fair value based on the cash surrender values (“CSVs”) of the general account insurance policies. A third-party service provides these values. 82 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Premises, Equipment, and Software Premises, equipment, and software are stated at cost, net of accumulated depreciation and amortization. Depreciation, computed primarily on the straight-line method, is charged to operations over the estimated useful lives of the properties, generally 25 to 40 years for buildings, three to 10 years for furniture and equipment, and three to 10 years for software, including capitalized costs related to our technology initiatives. Leasehold improvements are amortized over the terms of the respective leases (including any extension options that are reasonably certain to be exercised) or the estimated useful lives of the improvements, whichever is shorter. Premises, equipment, and software are evaluated for impairment on a periodic basis. Goodwill and Identifiable Intangible Assets Goodwill is recorded at fair value at the time of its acquisition and is subsequently evaluated for impairment annually, or more frequently if conditions warrant. Business Combinations Business combinations are accounted for under the acquisition method of accounting. Upon initially obtaining control, we recognize 100 % of all acquired assets and all assumed liabilities, regardless of the percentage owned. The assets and liabilities are recorded at their estimated fair values, with goodwill being recorded when such fair values are less than the cost of acquisition. Certain transaction and restructuring costs are expensed as incurred. Changes to estimated fair values from a business combination are recognized as an adjustment to goodwill over the measurement period, which cannot exceed one year from the acquisition date. Results of operations of acquired businesses are included in our statement of income from the date of acquisition. Other Real Estate Owned Other real estate owned (“OREO”) consists principally of commercial and residential real estate obtained in partial or total satisfaction of loan obligations. Amounts are recorded initially at fair value (less any selling costs) based on property appraisals at the time of transfer and subsequently at the lower of cost or fair value (less any selling costs). Derivative Instruments We use derivative instruments such as swaps and purchased and sold options as part of our overall interest rate risk management strategy. Derivatives are an important tool used in managing our overall asset and liability sensitivities to remain within management’s stated interest rate risk thresholds. Their use allows us to adjust and align our naturally occurring mix of fixed and floating-rate assets and liabilities to manage interest income volatility by synthetically converting variable-rate assets to fixed-rate, or synthetically converting fixed-rate funding instruments to floating rates. We also execute both interest rate and short-term foreign currency derivative instruments with our commercial banking customers to facilitate their risk management strategies. These derivatives are hedged by entering into offsetting derivatives with third parties such that we minimize our net risk exposure as a result of such transactions. We record all derivatives at fair value, and they are included on the consolidated balance sheet in “Other assets” or “Other liabilities.” The accounting for the change in value of a derivative depends on whether or not the transaction has been designated and qualifies for hedge accounting. Derivatives that are not designated as hedges are reported and measured at fair value through earnings. See Note 7 for more information. Derivatives Designated in Qualifying Hedging Relationships We apply hedge accounting to certain derivatives executed for risk management purposes, primarily interest rate risk. To qualify for hedge accounting, a derivative must be highly effective at reducing the risk associated with the exposure being hedged and the hedging relationship must be formally documented. We primarily use regression analysis to assess the effectiveness of each hedging relationship, unless the hedge qualifies for other methods of assessing effectiveness (e.g., shortcut or critical terms match), both at inception and on an ongoing basis. We designate derivatives as fair value and cash flow hedges for accounting purposes and these hedges can be a significant aspect of our overall interest risk sensitivity management. We may add additional hedging strategies over time. See Note 7 for more information regarding the accounting for derivatives designated as hedging instruments. 83 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Commitments and Letters of Credit In the ordinary course of business, we enter into loan commitments, commercial letters of credit, and standby letters of credit. Such financial instruments are recorded in the financial statements when they are funded. The credit risk associated with these commitments is evaluated in a manner similar to the ALLL. The RULC is presented separately on the consolidated balance sheet in “Other liabilities.” Revenue Recognition Noninterest income and revenue from contracts with customers are recognized when control of the promised goods or services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those goods or services. See Note 17 for further information regarding how we recognize revenue for contracts with customers. Share-based Compensation Share-based compensation generally includes grants of stock options, restricted stock, restricted stock units (“RSUs”), and other awards to employees and nonemployee directors. We recognize compensation expense in the statement of income based on the grant-date value of the associated share-based awards. See further discussion in Note 19. Income Taxes Deferred tax assets (“DTAs”) and liabilities (“DTLs”) are determined based on temporary differences between financial statement asset and liability amounts and their respective tax basis, and are measured using enacted tax laws and rates. The effect on DTAs and DTLs of a change in tax rates is recognized into income in the period that includes the enactment date. DTAs are recognized insofar that management deems it more likely than not that they will be realized. Unrecognized tax benefits for uncertain tax positions relate primarily to tax credits on technology initiatives. See Note 20 for further discussion of income taxes and unrecognized tax benefits for uncertain tax positions. Net Earnings Per Common Share Net earnings per common share is based on net earnings applicable to common shareholders, which is net of preferred stock dividends. Basic net earnings per common share is based on the weighted average outstanding common shares during each year. Unvested share-based awards with rights to receive nonforfeitable dividends are considered participating securities and are included in the computation of basic earnings per share. Diluted net earnings per common share is based on the weighted average outstanding common shares during each year, including common stock equivalents. Stock options, restricted stock, RSUs, and stock warrants are converted to common stock equivalents using the more dilutive of the treasury stock method or the two-class method. Diluted net earnings per common share excludes common stock equivalents whose effect is antidilutive. See further discussion in Note 21. 84 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 2. RECENT ACCOUNTING PRONOUNCEMENTS There have been no recent accounting pronouncements and developments that would significantly impact our financial statements or operations. 3. FAIR VALUE Fair Value Measurement Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. To measure fair value, a hierarchy has been established that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs. This hierarchy uses the following three levels of inputs to measure the fair value of assets and liabiliti Level 1 — Quoted prices in active markets for identical assets or liabilities that we have the ability to access; Level 2 — Observable inputs other than Level 1, including quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in less active markets, observable inputs other than quoted prices that are used in the valuation of an asset or liability, and inputs that are derived principally from or corroborated by observable market data by correlation or other means; and Level 3 — Unobservable inputs supported by little or no market activity for financial instruments whose value is determined by pricing models, discounted cash flow methodologies or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. The level in the fair value hierarchy within which the fair value measurement is classified is determined based on the lowest level input that is significant to the fair value measurement in its entirety. Market activity is presumed to be orderly in the absence of evidence of forced or disorderly sales. Applicable accounting guidance precludes the use of blockage factors or liquidity adjustments due to the quantity of securities held by an entity. We measure certain assets and liabilities at fair value on a recurring basis when fair value is the primary measure for accounting. Fair value is used on a nonrecurring basis to measure certain assets, such as the application of lower of cost or fair value accounting and the recognition of impairment on assets. Fair value is also used when providing required disclosures for certain financial instruments. Fair Value Policies and Procedures We have various policies, processes, and controls in place to ensure that fair values are reasonably developed, reviewed, and approved for use. These include a Securities Valuation Committee, comprised of executive management, that reviews and approves on a quarterly basis the key components of fair value measurements, including critical valuation assumptions for Level 3 measurements. A Model Risk Management Group conducts model validations, including internal models, and sets policies and procedures for revalidation, including the timing of revalidation. Third-party Service Providers We use a third-party pricing service to measure fair value for approximately 98 % of our AFS Level 2 securities. Fair value measurements for other AFS Level 2 securities generally use inputs corroborated by market data and include standard discounted cash flow analysis. For Level 2 securities, the third-party pricing service provides documentation on an ongoing basis that presents market data, including detailed pricing information and market reference data. The documentation includes benchmark yields, reported trades, broker-dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, and reference data, including information from the vendor trading platform. We review, test, and validate this information as appropriate. 85 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following describes the hierarchy designations, valuation methodologies and key inputs to measure fair value on a recurring basis for designated financial instruments: Available-for-Sale U.S. Treasury, Agencies and Corporations U.S. Treasury securities are measured under Level 1 using quoted market prices when available. U.S. agencies and corporations are measured under Level 2 for which observable market inputs were utilized in measuring fair value. Municipal Securities Municipal securities are measured under Level 2 using observable market inputs in measuring fair value. Other Debt Securities Other debt securities are measured using quoted prices for similar securities and are classified under Level 2. Trading Account Securities in the trading account are generally measured under Level 2. Held-to-Maturity HTM securities are carried at amortized cost, but are measured at fair value for disclosure purposes using a third-party pricing service or an internal model. The internal model utilizes observable market yields as inputs. Bank-owned Life Insurance BOLI is measured under Level 2 according to CSVs of the insurance policies. Nearly all policies are general account policies with CSVs based on our claims on the assets of the insurance companies. The insurance companies’ investments include predominantly fixed-income securities consisting of investment-grade corporate bonds and various types of mortgage instruments. Management regularly reviews its BOLI investment performance, including concentrations among insurance providers. Private Equity Investments PEIs carried at fair value on a recurring basis are generally measured under Level 3. On occasion, PEIs may become publicly traded and are measured under Level 1. The majority of these PEIs are held in our Small Business Investment Company (“SBIC”) and are early-stage venture investments. These investments are reviewed at least quarterly by the Securities Valuation Committee, and whenever a new round of financing occurs. Certain of these investments may be measured using multiples of operating performance. The Equity Investments Committee, consisting of executives familiar with the investments, reviews periodic financial information, including audited financial statements when available. Certain valuation analytics may be employed that include current and projected financial performance, recent financing activities, economic and market conditions, market comparable companies, market liquidity, sales restrictions, and other factors. A significant change in the expected performance of the individual investment would result in a change in the fair value measurement of the investment. Certain restrictions apply for the redemption of these investments. See additional discussions in Notes 5 and 16. Agriculture Loan Servicing We service agriculture loans approved and funded by Federal Agricultural Mortgage Corporation (“FAMC”), and provide this servicing under an agreement with FAMC for loans they own. The servicing assets are measured at fair value, which represents our projection of the present value of future cash flows measured under Level 3 using discounted cash flow methodologies. Interest-only Strips Interest-only strips are created as a by-product of securitizing U.S. Small Business Administration (“SBA”) loan pools. When the guaranteed portions of SBA 7(a) loans are pooled, interest-only strips may be created in the 86 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION pooling process. The asset’s fair value represents the present value of future cash flows measured under Level 3 using discounted cash flow methodologies. Deferred Compensation Plan Assets Invested assets in the deferred compensation plan consist of shares of registered investment companies. These mutual funds are valued under Level 1 at quoted market prices, which represents the net asset value (“NAV”) of shares held by the plan at the end of the period. Derivatives Derivatives are measured according to their classification as either exchange-traded or over-the-counter. Exchange-traded derivatives, including foreign currency exchange contracts, are generally measured under Level 1 because they are traded in active markets. Over-the-counter derivatives, consisting primarily of interest rate swaps and options, are generally measured under Level 2 as the related fair values are obtained from third-party services that utilize observable market inputs. Observable market inputs include yield curves, foreign exchange rates, commodity prices, option volatility, counterparty credit risk, and other related data. Valuations include credit valuation adjustments (“CVAs”) to reflect nonperformance risk for both us and our counterparties. CVAs are determined generally by applying a credit spread to the total expected exposure (net of any collateral) of the derivative. Securities Sold, Not Yet Purchased Securities sold, not yet purchased, included in “Federal funds and other short-term borrowings” on the balance sheet, are measured under Level 1 using quoted market prices. If market prices for identical securities are not available, quoted prices under Level 2 for similar securities are used. Quantitative Disclosure by Fair Value Hierarchy Assets and liabilities measured at fair value by class on a recurring basis are summarized as follows: (In millions) December 31, 2021 Level 1 Level 2 Level 3 Total ASSETS Investment securiti Available-for-s U.S. Treasury, agencies and corporations $ 134 $ 22,144 $ — $ 22,278 Municipal securities 1,694 1,694 Other debt securities 76 76 Total Available-for-sale 134 23,914 — 24,048 Trading account 14 358 372 Other noninterest-bearing investments: Bank-owned life insurance 537 537 Private equity investments 1 35 66 101 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 138 138 Derivativ Derivatives designated as hedges 10 10 Derivatives not designated as hedges 209 209 Total Assets $ 321 $ 25,028 $ 78 $ 25,427 LIABILITIES Securities sold, not yet purchased $ 254 $ — $ — $ 254 Other liabiliti Derivativ Derivatives not designated as hedges 51 51 Total Liabilities $ 254 $ 51 $ — $ 305 1 The level 1 PEIs relate to the portion of our SBIC investments that are now publicly traded. (In millions) December 31, 2020 Level 1 Level 2 Level 3 Total ASSETS Investment securiti Available-for-s U.S. Treasury, agencies and corporations $ 192 $ 13,944 $ — $ 14,136 Municipal securities 1,420 1,420 Other debt securities 175 175 Total Available-for-sale 192 15,539 — 15,731 Trading account 111 155 266 Other noninterest-bearing investments: Bank-owned life insurance 532 532 Private equity investments 80 80 Other assets: Agriculture loan servicing and interest-only strips 16 16 Deferred compensation plan assets 120 120 Derivativ Derivatives designated as hedges 3 3 Derivatives not designated as hedges 415 415 Total Assets $ 423 $ 16,644 $ 96 $ 17,163 LIABILITIES Securities sold, not yet purchased $ 61 $ — $ — $ 61 Other liabiliti Derivativ Derivatives not designated as hedges 38 38 Total Liabilities $ 61 $ 38 $ — $ 99 Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments December 31, 2021 December 31, 2020 (In millions) Private equity investments Ag loan servicing & interest-only strips Private equity investments Ag loan servicing & interest-only strips Balance at beginning of year $ 80 $ 16 $ 107 $ 18 Unrealized securities gains (losses), net 71 — ( 23 ) — Other noninterest income (expense) — ( 3 ) — ( 1 ) Purchases 17 — 10 — Cost of investments sold ( 24 ) — ( 14 ) — Redemptions and paydowns — ( 1 ) — ( 1 ) Transfers out 1 ( 78 ) — — — Balance at end of year $ 66 $ 12 $ 80 $ 16 1 Represents the transfer of SBIC investments out of Level 3 and into Level 1 because they are now publicly traded. The rollforward of Level 3 instruments includes the following realized gains and losses in the statement of income: (In millions) Year Ended December 31, 2021 2020 Securities gains (losses), net $ 31 $ 18 87 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Nonrecurring Fair Value Measurements Included in the balance sheet amounts are the following amounts of assets that had fair value changes measured on a nonrecurring basis: (In millions) Fair value at December 31, 2021 Gains (losses) from fair value changes Year Ended December 31, 2021 Level 1 Level 2 Level 3 Total Collateral-dependent loans $ — $ 2 $ — $ 2 $ ( 3 ) (In millions) Fair value at December 31, 2020 Gains (losses) from fair value changes Year Ended December 31, 2020 Level 1 Level 2 Level 3 Total Private equity investments $ — $ — $ 1 $ 1 $ ( 1 ) Collateral-dependent loans — 14 — 14 ( 14 ) Other real estate owned — 1 — 1 ( 2 ) Total $ — $ 15 $ 1 $ 16 $ ( 17 ) The previous fair values may not be current as of the dates indicated, but rather as of the most recent date the fair value change occurred. Accordingly, carrying values may not equal the current fair value. PEIs carried at cost were $ 18 million at December 31, 2021 and $ 8 million at December 31, 2020. Other noninterest-bearing investments carried at cost were $ 92 million and $ 109 million at December 31, 2021, and 2020, respectively, which were comprised of Federal Reserve and Federal Home Loan Bank (“FHLB”) stock. PEIs accounted for using the equity method were $ 83 million and $ 61 million at December 31, 2021, and 2020, respectively. Loans that are collateral dependent were measured at the lower of amortized cost or the fair value of the collateral. OREO was measured initially at fair value based on collateral appraisals at the time of transfer and subsequently at the lower of cost or fair value (less any selling costs). Measurement of fair value for collateral-dependent loans and OREO was based on third-party appraisals that utilize one or more valuation techniques (income, market and/or cost approaches). Any adjustments to calculated fair value were made based on recently completed and validated third-party appraisals, third-party appraisal services, automated valuation services, or our informed judgment. Automated valuation services may be used primarily for residential properties when values from any of the previous methods were not available within 90 days of the balance sheet date. These services use models based on market, economic, and demographic values. Fair Value of Certain Financial Instruments Following is a summary of the carrying values and estimated fair values of certain financial instruments: December 31, 2021 December 31, 2020 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: Held-to-maturity investment securities $ 441 $ 443 2 $ 636 $ 640 2 Loans and leases (including loans held for sale), net of allowance 50,421 50,619 3 52,780 53,221 3 Financial liabiliti Time deposits 1,622 1,624 2 2,588 2,603 2 Long-term debt 1,012 1,034 2 1,336 1,346 2 This summary excludes financial assets and liabilities for which carrying value approximates fair value and financial instruments that are recorded at fair value on a recurring basis. Financial instruments for which carrying values approximate fair value include cash and due from banks, money market investments, demand, savings and money market deposits, federal funds purchased and other short-term borrowings, and security repurchase agreements. The estimated fair value of demand, savings and money market deposits is the amount payable on 88 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION demand at the reporting date. Carrying value is used because the accounts have no stated maturity and the customer has the ability to withdraw funds immediately. Time and foreign deposits, and any other short-term borrowings, are measured at fair value by discounting future cash flows using the London Interbank Offered Rate (“LIBOR”) yield curve to the given maturity dates. Long-term debt is measured at fair value based on actual market trades (i.e., an asset value) when available, or discounting cash flows to maturity using the LIBOR yield curve adjusted for credit spreads. For loans measured at amortized cost, fair value is estimated for disclosure purposes by discounting future cash flows using the applicable yield curve adjusted by a factor that is derived from analyzing recent loan originations and combined with a liquidity premium inherent in the loan. These future cash flows are then reduced by the estimated life-of-the-loan aggregate credit losses in the loan portfolio (i.e., the allowance for loan and lease losses under the CECL model). The methods used to measure fair value for HTM securities was previously described. These fair value disclosures represent our best estimates based on relevant market information. Fair value estimates are based on judgments regarding current economic conditions, future expected loss experience, risk characteristics of the various instruments, and other factors. These estimates are subjective in nature, involve uncertainties and matters of significant judgment, and cannot be determined with precision. Changes in these methodologies and assumptions would significantly affect the estimates. 4. OFFSETTING ASSETS AND LIABILITIES Gross and net information for selected financial instruments in the balance sheet is as follows: December 31, 2021 (In millions) Gross amounts not offset in the balance sheet Description Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 2,133 $ — $ 2,133 $ — $ — $ 2,133 Derivatives (included in other assets) 219 — 219 ( 16 ) ( 7 ) 196 Total assets $ 2,352 $ — $ 2,352 $ ( 16 ) $ ( 7 ) $ 2,329 Liabiliti Federal funds and other short-term borrowings $ 903 $ — $ 903 $ — $ — $ 903 Derivatives (included in other liabilities) 51 — 51 ( 16 ) ( 1 ) 34 Total liabilities $ 954 $ — $ 954 $ ( 16 ) $ ( 1 ) $ 937 89 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION December 31, 2020 (In millions) Gross amounts not offset in the balance sheet Description Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 6,457 $ ( 692 ) $ 5,765 $ — $ — $ 5,765 Derivatives (included in other assets) 418 — 418 ( 4 ) ( 3 ) 411 Total assets $ 6,875 $ ( 692 ) $ 6,183 $ ( 4 ) $ ( 3 ) $ 6,176 Liabiliti Federal funds and other short-term borrowings $ 2,264 $ ( 692 ) $ 1,572 $ — $ — $ 1,572 Derivatives (included in other liabilities) 38 — 38 ( 4 ) ( 26 ) 8 Total liabilities $ 2,302 $ ( 692 ) $ 1,610 $ ( 4 ) $ ( 26 ) $ 1,580 Security repurchase and reverse repurchase (“resell”) agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 5. INVESTMENTS Investment Securities Investment securities are classified as HTM, AFS, or trading. HTM securities, which management has the intent and ability to hold until maturity, are carried at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. AFS securities are carried at fair value and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to accumulated other comprehensive income (“AOCI”), net of related taxes. Trading securities are carried at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 65 million and $ 54 million at December 31, 2021, and 2020, respectively. These receivables are presented on the consolidated balance sheet in “Other assets.” The purchase premiums for callable debt securities classified as HTM or AFS are amortized into interest income at an effective yield to the earliest call date. The purchase premiums and discounts for all other HTM and AFS securities are recognized in interest income over the contractual life of the security using the effective yield method. As principal prepayments are received on securities, a proportionate amount of the related premium or discount is recognized in income so that the effective yield on the remaining portion of the security continues unchanged. Note 3 discusses the process to estimate fair value for investment securities. December 31, 2021 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 441 $ 4 $ 2 $ 443 Available-for-sale U.S. Treasury securities 155 — 21 134 U.S. Government agencies and corporatio Agency securities 833 13 1 845 Agency guaranteed mortgage-backed securities 20,549 108 270 20,387 Small Business Administration loan-backed securities 938 2 28 912 Municipal securities 1,652 46 4 1,694 Other debt securities 75 1 — 76 Total available-for-sale 24,202 170 324 24,048 Total HTM and AFS investment securities $ 24,643 $ 174 $ 326 $ 24,491 December 31, 2020 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 636 $ 5 $ 1 $ 640 Available-for-sale U.S. Treasury securities 205 — 13 192 U.S. Government agencies and corporatio Agency securities 1,051 40 — 1,091 Agency guaranteed mortgage-backed securities 11,439 262 8 11,693 Small Business Administration loan-backed securities 1,195 — 35 1,160 Municipal securities 1,352 68 — 1,420 Other debt securities 175 — — 175 Total available-for-sale 15,417 370 56 15,731 Total HTM and AFS investment securities $ 16,053 $ 375 $ 57 $ 16,371 Maturities The following schedule shows the amortized cost and weighted average yields of investment debt securities by contractual maturity of principal payments at December 31, 2021. Actual principal payments may differ from contractual or expected principal payments because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. 90 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION December 31, 2021 Total debt investment securities Due in one year or less Due after one year through five years Due after five years through 10 years Due after 10 years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity Municipal securities 1 $ 441 3.14 % $ 29 2.71 % $ 131 3.53 % $ 170 2.81 % $ 111 3.30 % Available-for-sale U.S. Treasury securities 155 1.28 — — — — — — 155 1.28 U.S. Government agencies and corporatio Agency securities 833 2.06 — — 327 1.32 284 2.41 222 2.71 Agency guaranteed mortgage-backed securities 20,549 1.61 — — 396 1.36 1,381 1.56 18,772 1.62 Small Business Administration loan-backed securities 938 1.30 — — 51 1.33 113 1.55 774 1.26 Municipal securities 1 1,652 2.36 111 2.08 687 2.56 490 2.08 364 2.46 Other debt securities 75 2.16 — — — — 60 1.99 15 2.83 Total available-for-sale securities 24,202 1.67 111 2.08 1,461 1.91 2,328 1.78 20,302 1.63 Total HTM and AFS investment securities $ 24,643 1.69 % $ 140 2.21 % $ 1,592 2.05 % $ 2,498 1.85 % $ 20,413 1.64 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis using a tax rate of 21%. The following schedule summarizes the amount of gross unrealized losses for debt securities and the estimated fair value by length of time the securities have been in an unrealized loss positi December 31, 2021 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 1 $ 88 $ 1 $ 68 $ 2 $ 156 Available-for-sale U.S. Treasury securities — — 21 134 21 134 U.S. Government agencies and corporatio Agency securities 1 121 — 1 1 122 Agency guaranteed mortgage-backed securities 231 13,574 39 942 270 14,516 Small Business Administration loan-backed securities — 27 28 749 28 776 Municipal securities 4 327 — 8 4 335 Other — — — — — — Total available-for-sale 236 14,049 88 1,834 324 15,883 Total HTM and AFS investment securities $ 237 $ 14,137 $ 89 $ 1,902 $ 326 $ 16,039 91 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION December 31, 2020 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 1 $ 96 $ — $ 12 $ 1 $ 108 Available-for-sale U.S. Treasury securities 13 142 — — 13 142 U.S. Government agencies and corporatio Agency securities — 6 — 2 — 8 Agency guaranteed mortgage-backed securities 7 1,197 1 179 8 1,376 Small Business Administration loan-backed securities — 15 35 1,068 35 1,083 Municipal securities — 19 — — — 19 Other — 150 — — — 150 Total available-for-sale 20 1,529 36 1,249 56 2,778 Total HTM and AFS investment securities $ 21 $ 1,625 $ 36 $ 1,261 $ 57 $ 2,886 Approximately 137 and 119 HTM and 1,302 and 549 AFS investment securities were in an unrealized loss position at December 31, 2021, and 2020, respectively. Impairment Ongoing Policy We review investment securities quarterly on an individual basis for the presence of impairment. For AFS securities, when the fair value of a debt security is less than its amortized cost basis at the balance sheet date, we assess whether impairment is present. When determining if the fair value of an investment is less than the amortized cost basis, we have elected to exclude accrued interest from the amortized cost basis of the investment. If we have an intent to sell an identified security, or it is more likely than not we will be required to sell the security before recovery of its amortized cost basis, we recognize an impairment. If we have the intent and ability to hold the securities, we determine whether there is any impairment attributable to credit-related factors. We analyze certain factors, primarily internal and external credit ratings, to determine if the decline in fair value below the amortized cost basis has resulted from a credit loss or other factors. If a credit impairment is determined to exist, then we measure the amount of credit loss and recognize an allowance for the credit loss. In measuring the credit loss, we generally compare the present value of cash flows expected to be collected from the security to the amortized cost basis of the security. These cash flows are credit adjusted using, among other things, assumptions for default probability and loss severity. Certain other unobservable inputs, such as prepayment rate assumptions, are also utilized. In addition, certain internal models may be utilized. To determine the credit-related portion of impairment, we use the security-specific effective interest rate when estimating the present value of cash flows. If the present value of cash flows is less than the amortized cost basis of the security, then this amount is recorded as an allowance for credit loss, limited to the amount that the fair value is less than the amortized cost basis (i.e., the credit impairment cannot result in the security being carried at an amount lower than its fair value). The assumptions used to estimate the expected cash flows depend on the particular asset class, structure and credit rating of the security. Declines in fair value that are not recorded in the allowance are recorded in other comprehensive income, net of applicable taxes. AFS Impairment Conclusions We did not recognize any impairment on our AFS investment securities portfolio during 2021 or 2020. Unrealized losses relate to changes in interest rates subsequent to purchase and are not attributable to credit. At December 31, 2021, we had not initiated any sales of AFS securities, nor did we have an intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not we would be required to sell such securities before recovery of their amortized cost basis. 92 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION HTM Impairment Conclusions For HTM securities, the ACL is assessed consistent with the approach described in Note 6 for loans and leases carried at amortized cost. The ACL on HTM securities was less than $ 1 million at December 31, 2021. All HTM securities were risk-graded as “pass” in terms of credit quality and none were past due at December 31, 2021. The amortized cost basis of HTM securities categorized by year acquired and risk classification as monitored by management is summarized in the following schedu December 31, 2021 Amortized cost basis by year acquired (In millions) 2021 2020 2019 2018 2017 Prior Total Securities Held-to-maturity $ 102 $ 124 $ 10 $ — $ 8 $ 197 $ 441 Securities Gains and Losses Recognized in Income The following schedule summarizes gains and losses recognized in the income statemen 2021 2020 2019 (In millions) Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Other noninterest-bearing investments $ 119 $ 48 $ 27 $ 20 $ 20 $ 17 Net gains 1 $ 71 $ 7 $ 3 1 Net gains were recognized in securities gains in the income statement. The following schedule presents interest income by security type: (In millions) 2021 2020 2019 Taxable Nontaxable Total Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 10 $ 5 $ 15 $ 10 $ 10 $ 20 $ 9 $ 13 $ 22 Available-for-sale 256 29 285 252 25 277 308 25 333 Trading — 11 11 — 7 7 1 6 7 Total securities $ 266 $ 45 $ 311 $ 262 $ 42 $ 304 $ 318 $ 44 $ 362 Investment securities with a carrying value of approximately $ 3.1 billion and $ 2.3 billion at December 31, 2021, and 2020, respectively, were pledged to secure public and trust deposits, advances, and for other purposes as required by law. Securities are also pledged as collateral for security repurchase agreements. 93 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific class: December 31, (In millions) 2021 2020 Loans held for sale $ 83 $ 81 Commerci Commercial and industrial $ 13,867 $ 13,444 PPP 1,855 5,572 Leasing 327 320 Owner-occupied 8,733 8,185 Municipal 3,658 2,951 Total commercial 28,440 30,472 Commercial real estate: Construction and land development 2,757 2,345 Term 9,441 9,759 Total commercial real estate 12,198 12,104 Consume Home equity credit line 3,016 2,745 1-4 family residential 6,050 6,969 Construction and other consumer real estate 638 630 Bankcard and other revolving plans 396 432 Other 113 124 Total consumer 10,213 10,900 Total loans and leases $ 50,851 $ 53,476 Loans and leases are measured and presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 83 million and $ 149 million at December 31, 2021, and December 31, 2020, respectively. Amortized cost basis does not include accrued interest receivables of $ 161 million and $ 200 million at December 31, 2021, and December 31, 2020, respectively. These receivables are presented on the consolidated balance sheet in “Other assets.” Municipal loans generally include loans to municipalities with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 160 million at December 31, 2021 and $ 156 million at December 31, 2020. Loans with a carrying value of approximately $ 26.8 billion at December 31, 2021, and $ 24.7 billion at December 31, 2020, have been pledged at the Federal Reserve and the FHLB of Des Moines as collateral for current and potential borrowings. We sold loans totaling $ 1.7 billion in 2021, $ 1.8 billion in 2020, and $ 0.9 billion in 2019, that were classified as loans held for sale. The sold loans were derecognized from the balance sheet. Loans classified as loans held for sale primarily consist of conforming residential mortgages and the guaranteed portion of SBA loans. The loans are mainly sold to U.S. government agencies or participated to third-party participants. At times, we have continuing involvement in the transferred loans in the form of servicing rights or guarantees to the respective issuer. Amounts added to loans held for sale during these same periods were $ 1.7 billion, $ 1.8 billion, and $ 0.9 billion, respectively. See Note 5 for further information regarding guaranteed securities. 94 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The principal balance of sold loans for which we retain servicing was approximately $ 3.3 billion at December 31, 2021, and $ 2.7 billion at December 31, 2020. Income from loans sold, excluding servicing, was $ 34 million in 2021, $ 54 million in 2020, and $ 18 million in 2019. Allowance for Credit Losses The ACL, which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is assessed consistent with the approach for loans carried at amortized cost. See Note 5 for further discussion on our assessment of expected credit losses on AFS securities and disclosures related to AFS and HTM securities. The ACL reflects our best estimate of credit losses and is calculated using the loan's amortized cost basis (principal balance, net of unamortized premiums, discounts, and deferred fees and costs). We do not estimate the ACL for accrued interest receivables because we reverse or write-off uncollectible accrued interest receivable balances in a timely manner, generally within one month. The methodologies we use to estimate the ACL depend upon the type of loan, the age and contractual term of the loan, expected payments (both contractual and assumed prepayments), credit quality indicators, economic forecasts, and the evaluation method (whether individually or collectively evaluated). Loan extensions or renewals are not considered in the ACL unless they are included in the original or modified loan contract and are not unconditionally cancellable, or we reasonably expect a related modification to result in a TDR. Losses are charged to the ACL when recognized. Generally, commercial and commercial real estate (“CRE”) loans are charged off or charged down when they are determined to be uncollectible in whole or in part, or when 180 days past due, unless the loan is well-secured and in process of collection. Consumer loans are either charged off or charged down to net realizable value no later than the month in which they become 180 days past due. Closed-end consumer loans that are not secured by residential real estate are either charged off or charged down to net realizable value no later than the month in which they become 120 days past due. We establish the amount of the ACL by analyzing the portfolio at least quarterly, and we adjust the provision for loan losses and unfunded lending commitments to ensure the ACL is at an appropriate level at the balance sheet date. The ACL is determined based on our review of loans that have similar risk characteristics, which are evaluated on a collective basis, as well as loans that do not have similar risk characteristics, which are evaluated on an individual basis. For commercial and CRE loans with commitments greater than $ 1 million, we assign internal risk grades using a comprehensive loan grading system based on financial and statistical models, individual credit analysis, and loan officer experience and judgment. The credit quality indicators described subsequently are based on this grading system. Estimated credit losses on all loan segments, including consumer and small commercial and CRE loans with commitments less than or equal to $ 1 million that are evaluated on a collective basis, are derived from statistical analyses of our historical default and loss experience since January 2008. We estimate current expected credit losses for each loan, which includes considerations of historical credit loss experience, current conditions, and reasonable and supportable forecasts about the future. We use the following two types of credit loss estimation mod • Econometric loss models, which rely on statistical analyses of our historical loss experience dependent upon economic factors and other loan-level characteristics. Statistically relevant economic factors vary depending upon the type of loan, but include variables such as unemployment, real estate price indices, energy prices, GDP, etc. The results derived using alternative economic scenarios are weighted to produce the credit loss estimate from these models. • Loss models that are based on our long-term average historical credit loss experience since 2008, which rely on statistical analyses of our historical loss experience dependent upon loan-level characteristics. 95 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Credit loss estimates for the first 12 months of a loan’s remaining life are derived using economic loss models. Over a subsequent 12-month reversion period, we blend the estimated credit losses from the two models on a straight-line basis. For the remaining life of the loan, the estimated credit losses are derived from the long-term average historical credit loss models. For loans that do not share risk characteristics with other loans, we estimate lifetime expected credit losses on an individual basis. These include nonaccrual loans with a balance greater than $ 1 million; TDR loans, including TDRs that subsequently default; a loan no longer reported as a TDR; or a loan where we reasonably expect it to become a TDR. When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on either the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. When we base the specific reserve on the fair value of the loan’s underlying collateral, we generally charge off the portion of the balance that is greater than fair value. For these loans, subsequent to the charge-off, if the fair value of the loan’s underlying collateral increases according to an updated appraisal, we hold a negative reserve up to the lesser of the amount of the charge-off or the updated fair value. The methodologies described previously generally rely on historical loss information to help determine our quantitative portion of the ACL. However, we also consider other qualitative and environmental factors related to current conditions and reasonable and supportable forecasts that may indicate current expected credit losses may differ from the historical information reflected in our quantitative models. Thus, after applying historical loss experience, as described above, we review the quantitative portion of ACL for each segment using qualitative criteria, and we use those criteria to determine our qualitative estimate. We monitor various risk factors that influence our judgment regarding the level of the ACL across the portfolio segments. These factors primarily inclu • Actual and expected changes in international, national, regional, and local economic and business conditions and developments; • The volume and severity of past due loans, the volume of nonaccrual loans, and the volume and severity of adversely classified or graded loans; • Lending policies and procedures, including changes in underwriting standards and practices for collection, charge-off, and recovery; • The experience, ability, and depth of lending management and other relevant staff; • The nature and volume of the portfolio; • The quality of the credit review function; • The existence, growth, and effect of any concentration of credit; • The effect of other external factors such as regulatory, legal, and technological environments; fiscal and monetary actions; competition; and events such as natural disasters and pandemics. The magnitude of the impact of these factors on our qualitative assessment of the ACL changes from quarter to quarter according to changes made by management in its assessment of these factors, the extent these factors are already reflected in quantitative loss estimates, and the extent changes in these factors diverge from one to another. We also consider the uncertainty and imprecision inherent in the estimation process when evaluating the ACL. Off-balance Sheet Credit Exposures As previously mentioned, we estimate current expected credit losses for off-balance sheet loan commitments, including letters of credit that are not unconditionally cancelable. This estimate uses the same procedures and methodologies described previously for loans and is calculated by taking the difference between the estimated current expected credit loss and the funded balance, if greater than zero. 96 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Changes in the Allowance for Credit Losses Changes in the ACL are summarized as follows: December 31, 2021 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan and lease losses Balance at beginning of year $ 464 $ 171 $ 142 $ 777 Provision for loan losses ( 147 ) ( 67 ) ( 44 ) ( 258 ) Gross loan and lease charge-offs 35 — 13 48 Recoveries 29 3 10 42 Net loan and lease charge-offs (recoveries) 6 ( 3 ) 3 6 Balance at end of year $ 311 $ 107 $ 95 $ 513 Reserve for unfunded lending commitments Balance at beginning of year $ 30 $ 20 $ 8 $ 58 Provision for unfunded lending commitments ( 11 ) ( 9 ) 2 ( 18 ) Balance at end of year $ 19 $ 11 $ 10 $ 40 Total allowance for credit losses Allowance for loan and lease losses $ 311 $ 107 $ 95 $ 513 Reserve for unfunded lending commitments 19 11 10 40 Total allowance for credit losses $ 330 $ 118 $ 105 $ 553 December 31, 2020 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan and lease losses Balance at beginning of year $ 282 $ 69 $ 146 $ 497 Provision for loan losses 281 103 1 385 Gross loan and lease charge-offs 113 1 14 128 Recoveries 14 — 9 23 Net loan and lease charge-offs (recoveries) 99 1 5 105 Balance at end of year $ 464 $ 171 $ 142 $ 777 Reserve for unfunded lending commitments Balance at beginning of year $ 11 $ 12 $ 6 $ 29 Provision for unfunded lending commitments 19 8 2 29 Balance at end of year $ 30 $ 20 $ 8 $ 58 Total allowance for credit losses Allowance for loan and lease losses $ 464 $ 171 $ 142 $ 777 Reserve for unfunded lending commitments 30 20 8 58 Total allowance for credit losses $ 494 $ 191 $ 150 $ 835 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement; (2) the loan, if secured, is well-secured; (3) the borrower has paid 97 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION according to the contractual terms for a minimum of six months; and (4) an analysis of the borrower indicates a reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of loans on nonaccrual status is summarized as follows: December 31, 2021 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 30 $ 94 $ 124 $ 34 PPP 2 1 3 — Owner-occupied 37 20 57 3 Total commercial 69 115 184 37 Commercial real estate: Term 6 14 20 3 Total commercial real estate 6 14 20 3 Consume Home equity credit line 4 10 14 2 1-4 family residential 9 43 52 5 Bankcard and other revolving plans — 1 1 1 Total consumer loans 13 54 67 8 Total $ 88 $ 183 $ 271 $ 48 December 31, 2020 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 73 $ 67 $ 140 $ 22 Owner-occupied 38 38 76 4 Total commercial 111 105 216 26 Commercial real estate: Term 12 19 31 3 Total commercial real estate 12 19 31 3 Consume Home equity credit line 2 14 16 3 1-4 family residential 14 89 103 9 Bankcard and other revolving plans — 1 1 1 Total consumer loans 16 104 120 13 Total $ 139 $ 228 $ 367 $ 42 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed or written off from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. For the 2021 and 2020, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. 98 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The amount of accrued interest receivables written off by reversing interest income during the period is summarized by loan portfolio segment as follows: (In millions) Year Ended December 31, 2021 Year Ended December 31, 2020 Commercial $ 15 $ 16 Commercial real estate 2 2 Consumer — 1 Total $ 17 $ 19 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as charge-card plans and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. Past-due loans (accruing and nonaccruing) are summarized as follows: December 31, 2021 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 13,822 $ 17 $ 28 $ 45 $ 13,867 $ 2 $ 91 PPP 1,813 35 7 42 1,855 5 — Leasing 327 — — — 327 — — Owner-occupied 8,712 7 14 21 8,733 — 42 Municipal 3,658 — — — 3,658 — — Total commercial 28,332 59 49 108 28,440 7 133 Commercial real estate: Construction and land development 2,757 — — — 2,757 — — Term 9,426 10 5 15 9,441 — 15 Total commercial real estate 12,183 10 5 15 12,198 — 15 Consume Home equity credit line 3,008 4 4 8 3,016 — 10 1-4 family residential 6,018 6 26 32 6,050 — 24 Construction and other consumer real estate 638 — — — 638 — Bankcard and other revolving plans 393 2 1 3 396 1 — Other 112 1 — 1 113 — — Total consumer loans 10,169 13 31 44 10,213 1 34 Total $ 50,684 $ 82 $ 85 $ 167 $ 50,851 $ 8 $ 182 December 31, 2020 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 13,388 $ 26 $ 30 $ 56 $ 13,444 $ 2 $ 109 PPP 5,572 — — — 5,572 — — Leasing 320 — — — 320 — 1 Owner-occupied 8,129 34 22 56 8,185 — 48 Municipal 2,951 — — — 2,951 — — Total commercial 30,360 60 52 112 30,472 2 158 Commercial real estate: Construction and land development 2,341 — 4 4 2,345 4 — Term 9,692 57 10 67 9,759 4 13 Total commercial real estate 12,033 57 14 71 12,104 8 13 Consume Home equity credit line 2,733 8 4 12 2,745 — 9 1-4 family residential 6,891 12 66 78 6,969 — 33 Construction and other consumer real estate 630 — — — 630 — Bankcard and other revolving plans 428 2 2 4 432 2 1 Other 123 1 — 1 124 — — Total consumer loans 10,805 23 72 95 10,900 2 43 Total $ 53,198 $ 140 $ 138 $ 278 $ 53,476 $ 12 $ 214 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is not expected. Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk-grading systems, which vary based on the size and type of credit risk exposure. The internal risk grades assigned to loans follow our definitions of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. Definitions of Pass, Special Mention, Substandard, and Doubtful are summarized as follows: • Pass — A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention — A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard — A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful — A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were no loans classified as Doubtful at December 31, 2021, compared with $ 4 million at December 31, 2020. We generally assign internal risk grades to commercial and CRE loans with commitments greater than $ 1 million based on financial and statistical models, individual credit analysis, and loan officer experience and judgment. For 99 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION these larger loans, we assign one of multiple grades within the Pass classification or one of the following four gr Special Mention, Substandard, Doubtful, and Loss. Loss indicates that the outstanding balance has been charged off. We confirm our internal risk grades quarterly, or as soon as we identify information that affects the credit risk of the loan. For consumer loans and for commercial and CRE loans with commitments less than or equal to $ 1 million, we generally assign internal risk grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The amortized cost basis of loans and leases categorized by year of origination and by credit quality classifications as monitored by management are summarized as follows: December 31, 2021 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2017 Prior Total loans Commerci Commercial and industrial Pass $ 2,561 $ 1,309 $ 1,179 $ 748 $ 354 $ 239 $ 6,594 $ 121 $ 13,105 Special Mention 4 17 9 12 1 3 128 1 175 Accruing Substandard 28 22 99 53 31 65 162 3 463 Nonaccrual 14 10 6 3 1 21 51 18 124 Total commercial and industrial 2,607 1,358 1,293 816 387 328 6,935 143 13,867 PPP Pass 1,317 535 — — — — — — 1,852 Nonaccrual — 3 — — — — — — 3 Total PPP 1,317 538 — — — — — — 1,855 Leasing Pass 46 74 70 64 42 19 — — 315 Special Mention — 1 4 1 1 — — — 7 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 46 75 74 65 43 24 — — 327 Owner-occupied Pass 2,420 1,366 1,028 868 695 1,663 177 69 8,286 Special Mention 10 13 19 32 18 50 3 3 148 Accruing Substandard 14 24 41 47 24 79 13 — 242 Nonaccrual — 4 14 9 9 20 1 — 57 Total owner-occupied 2,444 1,407 1,102 956 746 1,812 194 72 8,733 Municipal Pass 1,303 963 553 250 327 220 3 — 3,619 Special Mention — — — — — 25 — — 25 Accruing Substandard — 9 — — — 5 — — 14 Nonaccrual — — — — — — — — — Total municipal 1,303 972 553 250 327 250 3 — 3,658 Total commercial 7,717 4,350 3,022 2,087 1,503 2,414 7,132 215 28,440 Commercial real estate: Construction and land development Pass 640 736 515 94 24 2 650 64 2,725 Special Mention — — 1 — — — — — 1 Accruing Substandard — 3 28 — — — — — 31 Nonaccrual — — — — — — — — — Total construction and land development 640 739 544 94 24 2 650 64 2,757 Term Pass 2,407 1,765 1,491 1,066 529 1,401 239 179 9,077 Special Mention 22 39 10 17 8 25 — 4 125 Accruing Substandard 9 9 44 77 14 64 — 2 219 Nonaccrual — 1 5 1 — 13 — — 20 Total term 2,438 1,814 1,550 1,161 551 1,503 239 185 9,441 Total commercial real estate 3,078 2,553 2,094 1,255 575 1,505 889 249 12,198 100 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION December 31, 2021 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2017 Prior Total loans Consume Home equity credit line Pass — — — — — — 2,903 96 2,999 Special Mention — — — — — — 1 — 1 Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 7 7 14 Total home equity credit line — — — — — — 2,913 103 3,016 1-4 family residential Pass 1,391 1,021 728 484 681 1,691 — — 5,996 Special Mention — — — — — — — — — Accruing Substandard — — 1 — — 1 — — 2 Nonaccrual — 3 3 3 9 34 — — 52 Total 1-4 family residential 1,391 1,024 732 487 690 1,726 — — 6,050 Construction and other consumer real estate Pass 295 232 73 27 4 7 — — 638 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 295 232 73 27 4 7 — — 638 Bankcard and other revolving plans Pass — — — — — — 391 3 394 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — 1 — 1 Total bankcard and other revolving plans — — — — — — 393 3 396 Other consumer Pass 58 23 17 9 4 2 — — 113 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 58 23 17 9 4 2 — — 113 Total consumer 1,744 1,279 822 523 698 1,735 3,306 106 10,213 Total loans $ 12,539 $ 8,182 $ 5,938 $ 3,865 $ 2,776 $ 5,654 $ 11,327 $ 570 $ 50,851 101 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION December 31, 2020 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2020 2019 2018 2017 2016 Prior Total loans Commerci Commercial and industrial Pass $ 2,585 $ 2,743 $ 1,903 $ 829 $ 296 $ 228 $ 3,298 $ 109 $ 11,991 Special Mention 79 152 183 98 4 43 110 1 670 Accruing Substandard 123 157 129 44 26 17 141 6 643 Nonaccrual 57 2 10 8 2 15 36 10 140 Total commercial and industrial 2,844 3,054 2,225 979 328 303 3,585 126 13,444 PPP Pass 5,572 — — — — — — — 5,572 Total PPP 5,572 — — — — — — — 5,572 Leasing Pass 87 121 44 34 14 5 — — 305 Special Mention 1 — 2 1 — 6 — — 10 Accruing Substandard 2 1 1 1 — — — — 5 Nonaccrual — — — — — — — — — Total leasing 90 122 47 36 14 11 — — 320 Owner-occupied Pass 1,588 1,205 1,167 895 585 1,806 161 11 7,418 Special Mention 72 65 60 60 51 41 9 3 361 Accruing Substandard 28 64 61 37 35 98 6 1 330 Nonaccrual 8 11 15 11 6 23 2 — 76 Total owner-occupied 1,696 1,345 1,303 1,003 677 1,968 178 15 8,185 Municipal Pass 1,031 827 359 419 68 227 3 — 2,934 Special Mention — — — — — 8 — — 8 Accruing Substandard — — — — — 9 — — 9 Nonaccrual — — — — — — — — — Total municipal 1,031 827 359 419 68 244 3 — 2,951 Total commercial 11,233 5,348 3,934 2,437 1,087 2,526 3,766 141 30,472 Commercial real estate: Construction and land development Pass 558 933 267 41 1 6 423 3 2,232 Special Mention 24 43 11 — — — 5 — 83 Accruing Substandard — 30 — — — — — — 30 Nonaccrual — — — — — — — — — Total construction and land development 582 1,006 278 41 1 6 428 3 2,345 Term Pass 2,524 1,858 1,639 761 778 1,291 73 20 8,944 Special Mention 110 89 177 42 23 85 — 5 531 Accruing Substandard 41 34 96 30 18 34 — — 253 Nonaccrual 3 5 — 2 1 20 — — 31 Total term 2,678 1,986 1,912 835 820 1,430 73 25 9,759 Total commercial real estate 3,260 2,992 2,190 876 821 1,436 501 28 12,104 102 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION December 31, 2020 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2020 2019 2018 2017 2016 Prior Total loans Consume Home equity credit line Pass — — — — — — 2,606 115 2,721 Special Mention — — — — — — 2 — 2 Accruing Substandard — — — — — — 6 — 6 Nonaccrual — — — — — — 11 5 16 Total home equity credit line — — — — — — 2,625 120 2,745 1-4 family residential Pass 1,185 1,017 833 1,081 1,174 1,570 — — 6,860 Special Mention — — — — — 2 — — 2 Accruing Substandard — — 1 — 2 1 — — 4 Nonaccrual 2 12 7 19 15 48 — — 103 Total 1-4 family residential 1,187 1,029 841 1,100 1,191 1,621 — — 6,969 Construction and other consumer real estate Pass 200 296 106 16 1 11 — — 630 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 200 296 106 16 1 11 — — 630 Bankcard and other revolving plans Pass — — — — — — 426 2 428 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 3 — 3 Nonaccrual — — — — — — — 1 1 Total bankcard and other revolving plans — — — — — — 429 3 432 Other consumer Pass 51 35 22 10 4 2 — — 124 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 51 35 22 10 4 2 — — 124 Total consumer 1,438 1,360 969 1,126 1,196 1,634 3,054 123 10,900 Total loans $ 15,931 $ 9,700 $ 7,093 $ 4,439 $ 3,104 $ 5,596 $ 7,321 $ 292 $ 53,476 Modified and Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are considered TDRs. We consider many factors in determining whether to agree to a loan modification involving concessions, and we seek a solution that will both minimize potential loss to us and attempt to help the borrower. We evaluate 103 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION borrowers’ current and forecasted future cash flows, their ability and willingness to make current contractual or proposed modified payments, the value of the underlying collateral (if applicable), the possibility of obtaining additional security or guarantees, and the potential costs related to a repossession or foreclosure and the subsequent sale of the collateral. TDRs are classified as either accrual or nonaccrual loans. A loan on nonaccrual and restructured as a TDR will remain on nonaccrual status until the borrower has proven the ability to perform under the modified structure for a minimum of six months, and there is evidence that such payments can and are likely to continue as agreed. Performance prior to the restructuring, or significant events that coincide with the restructuring, are included in assessing whether the borrower can meet the new terms and may result in the loan being returned to accrual at the time of restructuring or after a shorter performance period. If the borrower’s ability to meet the revised payment schedule is uncertain, the loan remains classified as a nonaccrual loan. A TDR loan that specifies an interest rate that, at the time of the restructuring, is greater than or equal to the rate we are willing to accept for a new loan with comparable risk may not be reported as a TDR in the calendar years subsequent to the restructuring if it is in compliance with its modified terms. Consistent with recent accounting and regulatory guidance, loan modifications provided to borrowers experiencing financial difficulties exclusively related to the COVID-19 pandemic, in which we provide certain short-term modifications or payment deferrals, are not classified as TDRs. The TDRs disclosed subsequently do not include these loan modifications. Other loan modifications above and beyond these short-term modifications or payment deferrals were assessed for TDR classification. 104 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Information on TDRs, including the amortized cost on an accruing and nonaccruing basis by loan class and modification type is summarized in the following schedul December 31, 2021 Recorded investment resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 19 $ 1 $ — $ — $ 4 $ 7 $ 31 Owner-occupied 5 4 — 8 14 12 43 Municipal — 10 — — — — 10 Total commercial 24 15 — 8 18 19 84 Commercial real estate: Term 1 29 — 27 41 8 106 Total commercial real estate 1 29 — 27 41 8 106 Consume Home equity credit line — 1 5 — — 2 8 1-4 family residential 5 1 2 — 1 14 23 Total consumer loans 5 2 7 — 1 16 31 Total accruing $ 30 $ 46 $ 7 $ 35 $ 60 $ 43 $ 221 Nonaccruing Commerci Commercial and industrial $ 1 $ 4 $ — $ 2 $ 8 $ 49 $ 64 Owner-occupied 5 — — 2 — 13 20 Total commercial 6 4 — 4 8 62 84 Commercial real estate: Term — — — 11 2 3 16 Total commercial real estate — — — 11 2 3 16 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 3 — 4 Total consumer loans — 1 1 — 3 — 5 Total nonaccruing 6 5 1 15 13 65 105 Total $ 36 $ 51 $ 8 $ 50 $ 73 $ 108 $ 326 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of any of the previous modification types. December 31, 2020 Recorded investment resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ — $ — $ — $ — $ 3 $ 4 $ 7 Owner-occupied 5 1 — 4 4 8 22 Total commercial 5 1 — 4 7 12 29 Commercial real estate: Term 1 — — 16 94 23 134 Total commercial real estate 1 — — 16 94 23 134 Consume Home equity credit line — 1 7 — — 2 10 1-4 family residential 4 1 3 — 2 15 25 Total consumer loans 4 2 10 — 2 17 35 Total accruing $ 10 $ 3 $ 10 $ 20 $ 103 $ 52 $ 198 Nonaccruing Commerci Commercial and industrial $ — $ — $ — $ 3 $ 10 $ 52 $ 65 Owner-occupied 5 — — 3 — 10 18 Total commercial 5 — — 6 10 62 83 Commercial real estate: Term 2 — — 13 3 2 20 Total commercial real estate 2 — — 13 3 2 20 Consume Home equity credit line — — 2 — — — 2 1-4 family residential 1 1 — — — 6 8 Total consumer loans 1 1 2 — — 6 10 Total nonaccruing 8 1 2 19 13 70 113 Total $ 18 $ 4 $ 12 $ 39 $ 116 $ 122 $ 311 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of any of the previous modification types. Unfunded lending commitments on TDRs amounted to approximately $ 10 million at December 31, 2021, and $ 3 million at December 31, 2020. The total recorded investment of all TDRs in which interest rates were modified below market was $ 100 million at December 31, 2021, and $ 76 million at December 31, 2020. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the years ended December 31, 2021 and 2020 was not significant. On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. 105 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The amortized cost of accruing and nonaccruing TDRs that had a payment default during the year ended December 31, 2021 and December 31, 2020, which were still in default at period end, and were within 12 months or less of being modified as TDRs was approximately $ 3 million for both periods. Collateral-dependent Loans As previously mentioned, when a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. Select information on loans for which the repayment is expected to be provided substantially through the operation or sale of the underlying collateral and the borrower is experiencing financial difficulties, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: December 31, 2021 (In millions) Amortized Cost Major Types of Collateral Weighted Average LTV 1 Commerci Commercial and industrial $ 27 Corporate assets, Single family residential 55 % Owner-occupied 11 Office building 40 % Commercial real estate: Term 2 Multi-family, Retail 28 % Consume Home equity credit line 5 Single family residential 45 % 1-4 family residential 2 Single family residential 35 % Total $ 47 December 31, 2020 (In millions) Amortized Cost Major Types of Collateral Weighted Average LTV 1 Commerci Commercial and industrial $ 20 Single family residential, Agriculture 55 % Owner-occupied 10 Office Building 47 % Commercial real estate: Term 12 Multi-family, Hotel/Motel, Retail 58 % Consume Home equity credit line 3 Single family residential 34 % 1-4 family residential 2 Single family residential 60 % Total $ 47 1 The fair value is based on the most recent appraisal or other collateral evaluation. Foreclosed Residential Real Estate At December 31, 2021, and December 31, 2020, we had no foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure was $ 10 million for both periods. 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives for Using Derivatives Our primary objective for using derivatives is to manage risks, primarily interest rate risk. We use derivatives to manage volatility in interest income, interest expense, earnings, and capital by adjusting our interest rate sensitivity to minimize the impact of fluctuations in interest rates. Derivatives are used to stabilize forecasted interest income 106 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities as we consider advisable. We also assist clients with their risk management needs through the use of derivatives. Derivatives Related to Interest Rate Risk Management — When we use derivatives as hedges, either for economic or accounting purposes, it is done only to manage identified risks. We apply hedge accounting to certain derivatives executed for risk management purposes as subsequently described in more detail. However, we do not apply hedge accounting to all the derivatives involved in our risk management activities. Derivatives not designated as accounting hedges are not speculative and are used to economically manage our exposure to interest rate movements, including offsetting customer-facing derivatives. These derivatives either do not require the use of hedge accounting for their economic impact to be accurately reflected in our financial statements or they do not meet the strict hedge accounting requirements. Derivatives Related to Customers — We provide certain borrowers access to over-the-counter interest rate derivatives, which we generally offset with interest rate derivatives executed with other dealers or central clearing houses. Other interest rate derivatives that we provide to customers, or use for our own purposes, include mortgage rate locks and forward sale loan commitments. We also provide commercial clients with short-term foreign currency spot trades or forward contracts with maturities that are typically 90 days or less. These trades are also largely offset by foreign currency trades with closely matching terms executed with other dealer counterparties or central clearing houses. Accounting for Derivatives We record all derivatives at fair value, and they are presented on the consolidated balance sheet in “Other assets” or “Other liabilities,” regardless of the accounting designation of each derivative. We enter into International Swaps and Derivatives Association, Inc. (“ISDA”) master netting agreements, or similar agreements, with substantially all derivative counterparties. Where legally enforceable, these master netting agreements give us, in the event of default or the triggering of other specified contingent events by the counterparty, the right to use cash or liquidate securities held as collateral and to offset receivables and payables with the same counterparty. For purposes of the Consolidated Balance Sheet, we do not offset derivative assets and liabilities and cash collateral held with the same counterparty where it has a legally enforceable master netting agreement and reports all derivatives on a gross fair value basis. Note 3 discusses the process to estimate fair value for derivatives. The accounting for changes in the fair value of derivatives depends on the intended use of the derivative and the resulting accounting designation. Derivatives used to hedge the exposure to changes in the fair value of assets, liabilities, or firm commitments attributable to interest rates or other eligible risks, are considered fair value hedges. Derivatives used to hedge the exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges. Changes in the fair value of derivatives that are not part of designated fair value or cash flow hedging relationships are recorded in current period earnings. Fair Value Hedges — We generally use interest rate swaps designated as fair value hedges to hedge changes in the fair value of fixed-rate assets and liabilities for specific risks (e.g., interest rate risk resulting from changes in a benchmark interest rate). We use both received-fixed, pay-floating and pay-fixed, receive floating interest rate swaps to effectively convert the fixed-rate assets and liabilities to floating rates. In qualifying fair value hedges, changes in value of the derivative hedging instrument are recognized in current period earnings in the same line item affected by the hedged item. Similarly, the periodic changes in value of the hedged item, for the risk being hedged, are recognized in current period earnings, thereby offsetting all, or a significant majority, of the change in the value of the derivative hedging instrument. Interest accruals on both the derivative hedging instrument and the hedged item are recorded in the same line item, effectively converting the designated fixed-rate assets or liabilities to a floating-rate. Generally, the designated risk being hedged in all of our fair value hedges is the change in fair value of the LIBOR (or alternative rate) benchmark swap rate component of the contractual coupon cash flows of the fixed-rate assets or liabilities. The swaps are structured to match the critical terms of the hedged items, maximizing the economic (and accounting) effectiveness of the hedging relationships and resulting in the expectation that the swaps will be highly effective as a hedging instrument. All interest rate swaps designated as fair value hedges were highly effective and met all other requirements to remain designated and part of qualifying hedge accounting relationships as of the balance sheet date. 107 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Fair Value Hedges of Liabilities — At December 31, 2021, we had one receive-fixed interest rate swap with a notional amount of $ 500 million designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converts the interest on our fixed-rate debt to floating. During 2020, we terminated $ 1 billion of swaps (i.e., two $ 500 million swaps with maturities in August 2021 and February 2022) that were designated as fair value hedges of our fixed-rate debt. As a result, the cumulative basis adjustment on the debt at the time of the terminations (which was equal to the fair value of the swaps at the termination date) will be amortized as an adjustment to interest expense through the maturity of the debt, thereby reducing the effective interest rate. During 2021, $ 10 million of the outstanding unamortized debt basis adjustment was amortized. We have $ 1 million of unamortized debt basis adjustments from previously designated fair value hedges remaining. Fair Value Hedges of Assets — During the third quarter of 2020, we began hedging certain newly acquired fixed-rate AFS securities using pay-fixed, receive-floating interest rate swaps, effectively converting the fixed interest income to a floating-rate on the hedged portion of the securities. Subsequently, two of these hedges were slightly restructured to better match the terms of the hedged securities, which required these hedges to be redesignated. Changes in the fair value of the hedged securities prior to the redesignations were recognized in the amortized cost basis of the securities and, similar to the terminated debt hedges noted above, the unamortized basis adjustments will be amortized to interest income through the originally designated maturity of the hedging relationships. Both hedges were designated as hedges of 30-year U.S. Treasury securities and hedged for the full life of the securities. We have $ 7 million of cumulative unamortized basis adjustments from these previous fair value hedging relationships, which will continue to be amortized as an adjustment to interest income through the end of 2050, thereby increasing the effective interest rate recognized on these securities. As of December 31, 2021, we had qualifying fair value hedging relationships of fixed-rate AFS securities being hedged by pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 479 million. Cash Flow Hedges — For derivatives designated and qualifying as cash flow hedges, ineffectiveness is not measured or separately disclosed. Rather, as long as the hedging relationship continues to qualify for hedge accounting, the entire change in the fair value of the hedging instrument is recorded in OCI and recognized in earnings as the hedged transaction affects earnings. Derivative amounts affecting earnings are recognized consistent with the classification of the hedged item. We may use interest rate swaps, options, or a combination of options in our cash flow hedging strategy to eliminate or reduce the variable cash flows associated primarily with interest receipts on floating-rate commercial loans due to changes in any separately identifiable and reliably measurable contractual interest rate index. As of December 31, 2021, we had receive-fixed interest rate swaps with an aggregate notional amount of $ 6.9 billion designated as cash flow hedges of the variability of interest receipts on floating-rate commercial loans due to changes in the LIBOR swap rate. As of December 31, 2021, we had less than $ 1 million of net deferred gains in OCI from active and terminated cash flow hedges. Amounts deferred in AOCI from cash flow hedges are expected to be fully reclassified to interest income by the third quarter of 2027. Hedge Effectiveness — We assess the effectiveness of each hedging relationship by comparing the changes in fair value or cash flows on the derivative hedging instrument with the changes in fair value or cash flows on the designated hedged item or transactions for the risk being hedged. If a hedging relationship ceases to qualify for hedge accounting, the relationship is discontinued and future changes in the fair value of the derivative instrument are recognized in current period earnings. For a discontinued or terminated fair value hedging relationship, all remaining basis adjustments to the carrying amount of the hedged item are amortized to interest income or expense over the remaining life of the hedged item consistent with the amortization of other discounts or premiums. Previous balances deferred in AOCI from discontinued or terminated cash flow hedges are reclassified to interest income or expense as the hedged transactions affect earnings or over the originally specified term of the hedging relationship. Collateral and Credit Risk Exposure to credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred during 2021 as a result of counterparty nonperformance. Financial institutions that are well-capitalized are the counterparties for those derivatives entered into for asset-liability management and 108 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION used to offset derivatives sold to our customers. We reduce our counterparty exposure for derivative contracts by centrally clearing all eligible derivatives. For those derivatives that are not centrally cleared, the counterparties are typically financial institutions or our customers. For those that are financial institutions, as noted above, we manage our credit exposure through the use of a Credit Support Annex (“CSA”) to an ISDA master agreement with each counterparty. Eligible collateral types are documented by the CSA and controlled under our general credit policies. Collateral balances are typically monitored on a daily basis. A valuation haircut policy reflects the fact that collateral may fall in value between the date the collateral is called and the date of liquidation or enforcement. As of December 31, 2021, all of our collateral held as credit risk mitigation under a CSA is cash. We offer interest rate swaps to our customers to assist them in managing their exposure to changing interest rates. Upon issuance, all of these customer swaps are immediately offset through closely matching derivative contracts to minimize our interest rate risk exposure resulting from such transactions. We manage the credit risk associated with customer nonperformance through loan underwriting that includes a credit risk exposure formula for the swap, the same collateral and guarantee protection applicable to the loan and credit approvals, limits, and monitoring procedures. Fee income from customer swaps is included in other service charges, commissions and fees. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position. Certain derivative contracts contain credit-risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit-risk-related feature were triggered, such as a downgrade of our credit rating. However, in past situations, not all counterparties have demanded that additional collateral be pledged when provided for by the contractual terms. At December 31, 2021, the fair value of our derivative liabilities was $ 51 million, for which we were required to pledge cash collateral of approximately $ 69 million in the normal course of business. If our credit rating were downgraded one notch by either Standard & Poor’s (“S&P”) or Moody’s at December 31, 2021, there would likely be $ 1 million additional collateral required to be pledged. As a result of the Dodd-Frank Act, all newly eligible derivatives entered into are cleared through a central clearinghouse. Derivatives that are centrally cleared do not have credit-risk-related features that require additional collateral if our credit rating were downgraded. 109 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Derivative Amounts Certain information with respect to notional amounts and recorded gross fair values at December 31, 2021, and 2020, and the related gain (loss) of derivative instruments for the years then ended is summarized as follows: December 31, 2021 December 31, 2020 Notional amount Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Purchased interest rate floors $ — $ — $ — $ — $ — $ — Receive-fixed interest rate swaps 6,883 — — 3,150 — — Fair value hed Debt hed Receive-fixed interest rate swaps 500 — — 500 — — Asset hed Pay-fixed interest rate swaps 479 10 — 383 3 — Total derivatives designated as hedging instruments 7,862 10 — 4,033 3 — Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives 1 6,587 192 36 5,986 390 2 Offsetting interest rate derivatives 2 6,587 38 197 5,986 3 409 Other interest rate derivatives 1,286 6 1 1,649 20 3 Foreign exchange derivatives 288 3 2 223 4 4 Total derivatives not designated as hedging instruments 14,748 239 236 13,844 417 418 Total derivatives $ 22,610 $ 249 $ 236 $ 17,877 $ 420 $ 418 1 Customer-facing interest rate derivatives include a net CVA of $ 3 million and $ 18 million, reducing the fair value amount at December 31, 2021, and December 31, 2020, respectively. These adjustments are required to reflect both our nonperformance risk and that of the respective counterparty. 2 The fair value amounts for these derivatives do not include the settlement amounts for those trades that are centrally cleared. Once the settlement amounts with the clearing houses are included the derivative fair values would be the followin December 31, 2021 December 31, 2020 (In millions) Other assets Other liabilities Other assets Other liabilities Offsetting interest rate derivatives $ 8 $ 12 $ 1 $ 29 The amount of derivative gains (losses) from cash flow and fair value hedges that was deferred in OCI or recognized in earnings for year ended December 31, 2021 and 2020 is shown in the schedules below. Year Ended December 31, 2021 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Excluded components deferred in AOCI (amortization approach) Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness / AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ 11 $ — $ — Interest rate swaps ( 34 ) — 51 — — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — — 8 — Basis amortization on terminated hedges 2, 3 — — — 10 — Fair value hedges of assets: Pay-fixed interest rate swaps — — — ( 3 ) — Basis amortization on terminated hedges 2, 3 — — — — — Total derivatives designated as hedging instruments $ ( 34 ) $ — $ 62 $ 15 $ — 110 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Year Ended December 31, 2020 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Excluded components deferred in AOCI (amortization approach) Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness / AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ 11 $ — $ — Interest rate swaps 101 — 36 — — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — — 6 — Basis amortization on terminated hedges 2, 3 — — — 13 — Fair value hedges of assets: Pay-fixed interest rate swaps — — — ( 1 ) — Basis amortization on terminated hedges 2, 3 — — — — — Total derivatives designated as hedging instruments $ 101 $ — $ 47 $ 18 $ — Note: These schedules are not intended to present at any given time our long/short position with respect to our derivative contracts. 1 For the 12 months following December 31, 2021, we estimate that $ 32 million of net gains will be reclassified from AOCI into interest income, compared with an estimate of $ 61 million as of December 31, 2020. 2 Adjustment to interest expense resulting from the amortization of the debt basis adjustment on fixed-rate debt previously hedged by terminated receive-fixed interest rate. 3 The cumulative unamortized basis adjustment from previously terminated or redesignated fair value hedges as of December 31, 2021, is $ 1 million and $ 7 million of terminated fair value debt and asset hedges, respectively, compared with $ 12 million and $ 7 million as of December 31, 2020. The amortization of the cumulative unamortized basis adjustment from asset hedges is not shown in the schedules because it is not significant. The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) 2021 2020 Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives $ ( 124 ) $ 324 Offsetting interest rate derivatives 158 ( 300 ) Other interest rate derivatives ( 12 ) 8 Foreign exchange derivatives 27 21 Total derivatives not designated as hedging instruments $ 49 $ 53 111 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Twelve Months Ended December 31, 2021 Twelve Months Ended December 31, 2020 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1,2 $ ( 30 ) $ 30 $ — $ 63 $ ( 63 ) $ — Assets: Pay-fixed interest rate swaps 1,2 23 ( 23 ) — 28 ( 28 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt and fixed-rate AFS securities. Gains and losses were recorded in interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged assets/(liabilities) (In millions) 2021 2020 2021 2020 2021 2020 Long-term fixed-rate debt 1,2 $ ( 500 ) $ ( 500 ) $ ( 507 ) $ ( 537 ) $ ( 7 ) $ ( 37 ) Fixed-rate AFS securities 1,2 479 383 435 362 ( 44 ) ( 21 ) 1 Carrying amounts displayed above exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 8. LEASES We have operating and finance leases for branches, corporate offices, and data centers. Our equipment leases are not significant. At December 31, 2021, we had 418 branches, of which 274 are owned and 144 are leased. We lease our headquarters in Salt Lake City, Utah, and other office or data centers are either owned or leased. The remaining maturities of our lease commitments range from the year 2022 to 2063, and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “ Other assets ,” and “ Premises, equipment and software, net ,” respectively. The corresponding liabilities for those leases are presented in “ Other liabilities ,” and “ Long-term debt .” ROU assets and related lease liabilities reflect the present value of the future minimum lease payments over the lease term at commencement date. Because most of our leases do not provide an implicit rate, we use our secured incremental borrowing rate that is commensurate with the lease term when calculating the present value of future payments. The ROU asset also reflects any lease prepayments, initial direct costs, incurred amortization, and certain nonlease components, such as maintenance, utilities or tax payments. Our lease terms may include options to extend or terminate the lease, and the lease term incorporates these when it is reasonably certain that we will exercise these options. The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate: 112 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION December 31, (Dollar amounts in millions) 2021 2020 Operating leases ROU assets, net of amortization $ 195 $ 213 Lease liabilities 222 240 Financing leases ROU assets, net of amortization 4 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.5 8.9 Finance leases 18.3 19.2 Weighted average discount rate Operating leases 2.8 % 2.9 % Finance leases 3.1 % 3.1 % Additional information related to lease expense is presented be Year Ended December 31, (In millions) 2021 2020 2019 Lease expense: Operating lease expense $ 47 $ 49 $ 48 Other expenses associated with operating leases 1 50 49 53 Total lease expense $ 97 $ 98 101 Related cash disbursements from operating leases $ 50 $ 51 $ 50 1 Other expenses primarily relate to property taxes and building and property maintenance. ROU assets related to new leases totaled $ 1 million and $ 9 million at December 31, 2021 and 2020, respectively. Total contractual undiscounted lease payments for operating lease liabilities are summarized in the following schedule by expected due date: (In millions) Total undiscounted lease payments 2022 $ 49 2023 44 2024 35 2025 25 2026 21 Thereafter 82 Total $ 256 We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 13 million for the year ended 2021, and $ 12 million for both the years ending 2020 and 2019, respectively. We originated equipment leases, considered to be sales-type leases or direct-financing leases, totaling $ 327 million and $ 320 million at December 31, 2021 and 2020, respectively. We recorded income of $ 11 million, $ 13 million, and $ 14 million for the years ending 2021, 2020, and 2019, respectively. 113 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 9. PREMISES, EQUIPMENT, AND SOFTWARE Net premises, equipment, and software are summarized as follows: (In millions) December 31, 2021 2020 Land $ 265 $ 257 Buildings 868 802 Furniture and equipment 378 420 Leasehold improvements 168 165 Software 664 581 Total premises, equipment, and software 1 2,343 2,225 Less accumulated depreciation and amortization 1,024 1,016 Net book value $ 1,319 $ 1,209 1 The totals for 2021 and 2020 include $ 348 million and $ 213 million, respectively, of costs that have been capitalized but are not yet depreciating because the respective assets have not been placed in service. 10. GOODWILL AND OTHER INTANGIBLE ASSETS Goodwill is recorded at fair value at the time of its acquisition and is subsequently evaluated for impairment annually as of October 1 st , or more frequently if events or circumstances indicate that impairment may exist. Based on the annual impairment tests conducted during 2021 and 2020, there was no goodwill impairment present in any of our operating segments. The following schedule presents the carrying amount of goodwill for our business segments with goodwil Carrying amount of goodwill (In millions) December 31, 2021 December 31, 2020 Amegy $ 615 $ 615 CB&T 379 379 Zions Bank 20 20 Total goodwill $ 1,014 $ 1,014 Core deposits and other intangible assets, net of related accumulated amortization, totaled $ 1 million and $ 2 million at December 31, 2021 and 2020, respectively. 11. DEPOSITS The following schedule presents our deposits by category: December 31, (Dollar amounts in millions) 2021 2020 Noninterest-bearing demand $ 41,053 $ 32,494 Interest-bearin Savings and money market 40,114 34,571 Time 1,622 2,588 Total deposits $ 82,789 $ 69,653 114 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION At December 31, 2021, the scheduled maturities of all time deposits were as follows: (In millions) Amount 2022 $ 1,304 2023 179 2024 62 2025 40 2026 36 Thereafter 1 Total $ 1,622 The contractual maturities of time deposits with a denomination of $100,000 or more were as follows: (In millions) December 31, 2021 Three months or less $ 308 After three months through six months 179 After six months through twelve months 340 After twelve months 159 Total $ 986 Nonbrokered time deposits under the current Federal Deposit Insurance Corporation (“FDIC”) insurance limit of $250,000 were $ 1.0 billion and $ 2.0 billion at December 31, 2021 and 2020, respectively. Deposit overdrafts reclassified as loan balances were $ 8 million and $ 9 million at December 31, 2021 and 2020 , respectively. 12. SHORT-TERM BORROWINGS Selected information for FHLB advances and other short-term borrowings is as follows: (Dollar amounts in millions) 2021 2020 Federal Home Loan Bank advances Average amount outstanding $ — $ 206 Average rate — % 1.11 % Highest month-end balance $ — $ 2,200 Year-end balance — — Average rate on outstanding advances at year-end — % — % Other short-term borrowings, year-end balances Federal funds purchased $ 421 $ 1,105 Security repurchase agreements 228 406 Securities sold, not yet purchased 254 61 Federal funds purchased and other short-term borrowings $ 903 $ 1,572 We may borrow from the FHLB under lines of credit that are secured by blanket pledge arrangements. We maintained unencumbered collateral with carrying amounts adjusted for the types of collateral pledged, equal to at least 100 % of the outstanding advances. At December 31, 2021, the amount available for FHLB advances was approximately $ 15.1 billion . We may also borrow from the Federal Reserve based on the amount of collateral pledged. At December 31, 2021, the amount available for Federal Reserve borrowings was approximately $ 3.2 billion . Federal funds purchased and security repurchase agreements generally mature in less than 30 days. We execute overnight repurchase agreements with sweep accounts in conjunction with a master repurchase agreement. When this occurs, securities under our control are pledged and interest is paid on the collected balance of the customers’ accounts. For the nonsweep overnight and term repurchase agreements, securities are transferred to the applicable counterparty. The counterparty, in certain instances, is contractually entitled to sell or repledge securities accepted as collateral. Of the total security repurchase agreements at December 31, 2021, $ 180 million were overnight and $ 48 million were term. 115 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 13. LONG-TERM DEBT Long-term debt is summarized as follows: December 31, (In millions) 2021 2020 Subordinated notes $ 590 $ 619 Senior notes 418 713 Finance lease obligations 4 4 Total $ 1,012 $ 1,336 The preceding carrying values represent the par value of the debt adjusted for any unamortized premium or discount, unamortized debt issuance costs, and fair value hedge basis adjustments. The decrease in outstanding senior debt from the prior year was primarily due to the maturity of $ 281 million of 3 -year, 3.50 % senior notes during the third quarter of 2021. During 2020, we terminated two receive-fixed interest rate swaps designated as hedges on senior notes, resulting in one outstanding receive-fixed interest rate swap designated as a hedge on a $ 500 million subordinated note with an interest rate of 3.25 % at December 31, 2021. The outstanding swap constitutes a qualifying fair value hedging relationship. The terminated interest rate swaps adjusted the carrying value of the debt and this adjustment will be amortized into earnings until the original maturity date of the debt (see the subsequent Senior Notes schedule). For more information on derivatives designated as qualifying hedges, see Note 7 - Derivative Instruments and Hedging Activities. Subordinated Notes The following schedule presents key aspects of our subordinated notes outstanding at December 31, 2021: (Dollar amounts in millions) Subordinated notes Coupon rate Balance Par amount Maturity 6.95 % $ 88 $ 88 September 2028 3.25 % 502 500 October 2029 Total $ 590 $ 588 The 6.95 % subordinated notes are unsecured, with interest payable quarterly; the earliest redemption date for these notes is September 15, 2023, after which the interest rate changes to an annual floating rate equal to 3mL+3.89% . The 3.25 % subordinated notes are unsecured, interest is payable semi-annually, and the earliest redemption date is July 29, 2029. Senior Notes The following schedule presents key aspects of our issued senior notes outstanding at December 31, 2021: (Dollar amounts in millions) Senior notes Coupon rate Balance Par amount Maturity 4.50 % $ 127 $ 128 June 2023 3.35 % 291 290 March 2022 Total $ 418 $ 418 The senior notes are unsecured, with interest payable semi-annually. They were issued under a shelf registration filed with the Securities and Exchange Commission (“SEC”). The notes are not generally redeemable prior to maturity. In February 2022, we redeemed $ 290 million of the 4-year , 3.35 % senior notes on the contractual call date one month prior to final maturity. 116 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Maturities of Long-term Debt The scheduled maturity of our long-term debt is presented in the following schedu (In millions) Amount 2022 $ 290 2023 128 2024 — 2025 — 2026 — Thereafter 586 Total $ 1,004 The amounts presented in the previous schedule do not include basis adjustments related to terminated or active fair value hedges. 14. SHAREHOLDERS’ EQUITY Preferred Stock We have 4.4 million authorized shares of preferred stock without par value and with a liquidation preference of $ 1,000 per share, or $ 25 per depositary share. Except for Series I and J, all preferred shares were issued in the form of depositary shares, with each depositary share representing a 1/40 th ownership interest in a share of the preferred stock. All preferred shares are registered with the SEC. In addition, Series A and G preferred stock are listed and traded on the National Association of Securities Dealers Automated Quotations (“NASDAQ”) Global Select Market. In general, preferred shareholders may receive asset distributions before common shareholders; however, preferred shareholders have only limited voting rights. Preferred stock dividends reduce earnings applicable to common shareholders and are paid on the 15th day of the months indicated in the following schedule. Dividends are approved by the Board. Redemption of the preferred stock is at our option after the expiration of any applicable redemption restrictions and the redemption amount is computed at the per share liquidation preference plus any declared but unpaid dividends. Redemptions are subject to certain regulatory provisions and maintaining well-capitalized minimum requirements. During the second quarter of 2021, we redeemed the outstanding shares of our 5.75 % Series H Non-Cumulative Perpetual Preferred Stock at par value, resulting in a $ 126 million decrease of preferred stock. There were no additional fees or premium paid associated with the redemption. 117 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule summarizes key aspects of our preferred stoc Shares at December 31, 2021 (Dollar amounts in millions) Carrying value at December 31, Authorized Outstanding Dividends payable Earliest redemption date Rate following earliest redemption date Dividends payable after rate change 2021 2020 (thousands) (thousands) Rate (when applicable) Series A $ 67 $ 67 140,000 66,139 > of 4.0% or 3mL+0.52% Qtrly Mar, Jun, Sep, Dec Dec 15, 2011 Series G 138 138 200,000 138,391 6.3 % Qtrly Mar, Jun, Sep, Dec Mar 15, 2023 annual float-ing rate = 3mL+4.24% Series H — 126 — — 5.75 % Qtrly Mar, Jun, Sep, Dec Jun 15, 2019 Series I 99 99 300,893 98,555 5.8 % Semi-annually Jun, Dec Jun 15, 2023 annual float-ing rate = 3mL+3.8% Qtrly Mar, Jun, Sep, Dec Series J 136 136 195,152 136,368 7.2 % Semi-annually Mar, Sep Sep 15, 2023 annual float-ing rate = 3mL+4.44% Qtrly Mar, Jun, Sep, Dec Total $ 440 $ 566 Common Stock Our common stock is traded on the NASDAQ Global Select Market. At December 31, 2021, there were 151.6 million shares of $ 0.001 par common stock outstanding. The balance of common stock and additional paid-in-capital was $ 1.9 billion at December 31, 2021, and decreased $ 758 million , or 28 % , from December 31, 2020 primarily as a result of common stock repurchases. During 2021, we repurchased 13.5 million shares of common shares outstanding with a fair value of $ 800 million at an average price of $ 59.27 per share. During 2020, we repurchased 1.7 million shares of common shares outstanding with a fair value of $ 75 million at an average price of $ 45.02 per share. In February 2022, we repurchased 107,559 common shares outstanding with a fair value of $ 7.5 million at an average price of $ 69.73 . Common Stock Warrants During the second quarter of 2020, 29.2 million common stock warrants (NASDAQ: ZIONW) expired out-of-the-money. Each common stock warrant was convertible into 1.10 shares at an exercise price of $ 33.31 . 118 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Accumulated Other Comprehensive Income Accumulated other comprehensive income decreased $ 405 million to a loss of $ 80 million at December 31, 2021, primarily due to decreases in the fair value of AFS securities as a result of changes in interest rates. Changes in AOCI by component are as follows: (In millions) Net unrealized gains (losses) on investment securities Net unrealized gains (losses) on derivatives and other Pension and post-retirement Total 2021 Balance at December 31, 2020 $ 258 $ 69 $ ( 2 ) $ 325 Other comprehensive loss before reclassifications, net of tax ( 336 ) ( 23 ) — ( 359 ) Amounts reclassified from AOCI, net of tax — ( 46 ) — ( 46 ) Other comprehensive loss ( 336 ) ( 69 ) — ( 405 ) Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) Income tax benefit included in other comprehensive loss $ ( 109 ) $ ( 22 ) $ — $ ( 131 ) 2020 Balance at December 31, 2019 $ 29 $ 28 $ ( 14 ) $ 43 Other comprehensive income (loss) before reclassifications, net of tax 229 77 ( 9 ) 297 Amounts reclassified from AOCI, net of tax — ( 36 ) 21 ( 15 ) Other comprehensive income 229 41 12 282 Balance at December 31, 2020 $ 258 $ 69 $ ( 2 ) $ 325 Income tax expense included in other comprehensive income $ 74 $ 13 $ 4 $ 91 Statement of Income (SI) (In millions) Amounts reclassified from AOCI 1 Details about AOCI components 2021 2020 2019 Affected line item Net unrealized gains (losses) on derivative instruments $ 61 $ 47 $ ( 4 ) SI Interest and fees on loans Income tax expense (benefit) 15 11 ( 1 ) $ 46 $ 36 $ ( 3 ) Amortization of net actuarial loss 2 $ — $ ( 28 ) $ ( 2 ) SI Other noninterest expense Income tax benefit — ( 7 ) ( 1 ) $ — $ ( 21 ) $ ( 1 ) 1 Positive reclassification amounts indicate increases to earnings in the statement of income. 2 There was no amortization of net actuarial loss in 2021 due to the termination of pension plan in 2020. Deferred Compensation Deferred compensation consists of invested assets, including our common stock, which are held in rabbi trusts for certain employees and directors. The cost of the common stock was approximately $ 13 million at both December 31, 2021 and 2020. We consolidate the rabbi trust assets and liabilities and include them in “Other assets” and “Other liabilities” on the consolidated balance sheet. At December 31, 2021 and 2020, total invested assets were approximately $ 138 million and $ 120 million, and total obligations were approximately $ 151 million and $ 133 million, respectively. 15. REGULATORY MATTERS We are subject to various regulatory capital requirements administered by federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory — and possibly additional discretionary — actions by regulators that, if undertaken, could have a direct material effect on our financial statements. Under capital 119 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION adequacy guidelines and the regulatory framework for prompt corrective action, we must meet specific capital guidelines that involve quantitative measures of our assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. Required capital levels are also subject to judgmental review by regulators. At December 31, 2021 and 2020, we met all capital adequacy requirements under the Basel III capital rules. Quantitative measures established by regulation to ensure capital adequacy require us to maintain minimum amounts and ratios of Total and Tier 1 capital (as defined in the regulations) to risk-weighted assets, and of Tier 1 capital to average assets. “Well-capitalized” levels are also published as a guideline to evaluate capital positions. At December 31, 2021 and 2020, all our capital ratios exceeded the “well-capitalized” levels under the regulatory framework for prompt corrective action. Dividends declared by us may not exceed specified criteria unless otherwise approved by the appropriate federal regulators. When determining dividends, we consider current and historical earning levels, retained earnings, and risk-based and other regulatory capital requirements and limitations. Our internal stress tests seek to comprehensively measure all risks to which the institution is exposed, including credit, liquidity, market, operating and other risks, the losses that could result from those risk exposures under adverse scenarios, and the institution’s resulting capital levels. These stress tests have both a qualitative and a quantitative component. The qualitative component evaluates the robustness of our risk identification, stress risk modeling, policies, capital planning, governance processes, and other components of a Capital Adequacy Process. The quantitative process subjects our balance sheet and other risk characteristics to stress testing by using our own models. Our capital amounts and ratios under Basel III at December 31, 2021 and 2020 are as follows: (Dollar amounts in millions) December 31, 2021 To be well-capitalized Amount Ratio Amount Ratio Basel III Regulatory Capital Amounts and Ratios Total capital (to risk-weighted assets) $ 7,652 12.8 % $ 5,960 10.0 % Tier 1 capital (to risk-weighted assets) 6,508 10.9 4,768 8.0 Common equity tier 1 capital (to risk-weighted assets) 6,068 10.2 3,874 6.5 Tier 1 capital (to average assets) - leverage ratio 6,508 7.2 4,546 5.0 December 31, 2020 To be well-capitalized (Dollar amounts in millions) Amount Ratio Amount Ratio Basel III Regulatory Capital Amounts and Ratios Total capital (to risk-weighted assets) $ 7,862 14.1 % $ 5,587 10.0 % Tier 1 capital (to risk-weighted assets) 6,579 11.8 4,469 8.0 Common equity tier 1 capital (to risk-weighted assets) 6,013 10.8 3,631 6.5 Tier 1 capital (to average assets) - leverage ratio 6,579 8.3 3,944 5.0 The Basel III capital rules require us to maintain a 2.5% “capital conservation buffer” designed to absorb losses during periods of economic stress, composed entirely of Common Equity Tier 1 (“CET1”), on top of the minimum risk-weighted asset ratios, effectively resulting in minimum ratios of (1) CET1 to risk-weighted assets of at least 7.0%, (2) Tier 1 capital to risk-weighted assets of at least 8.5%, and (3) Total capital to risk-weighted assets of at least 10.5%. Financial institutions with a ratio of CET1 to risk-weighted assets above the minimum, but below the capital conservation buffer will face constraints on dividends, equity repurchases, and compensation based on the amount of the shortfall. Our internal triggers and limits under actual conditions and baseline projections are more restrictive than the capital conservation buffer requirements. 120 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION A final rule adopted by the federal banking agencies in February 2019 provides banking organizations with the option to phase in, over a three-year period, the adverse day-one regulatory capital effects of the adoption of CECL. On March 27, 2020, the federal banking agencies issued an interim final rule that gave banking organizations that implemented CECL before the end of 2020 the option to reduce for two years a portion of CECL’s adverse effect on regulatory capital. This is in addition to the three-year transition period already in place, resulting in an optional five-year transition. We adopted the provisions of this guidance beginning with the first quarter 2020 financial statements. On December 31, 2021, the two-year deferral period for any adverse effect from CECL on regulatory capital expired. The application of these provisions had no impact on our CET1, Tier 1 risk-based, Total risk-based capital, and Tier 1 leverage capital ratios at December 31, 2021, and therefore, will not have any phase-in impact to our capital ratios over the next three years. The schedule below presents our capital ratios in comparison to minimum capital ratios and capital ratios in excess of minimum capital requirements plus minimum capital conservation buffer requirements. December 31, 2021 Capital ratio Minimum capital requirement Capital conservation buffer ratio Capital ratio in excess of minimum capital ratio plus capital conservation buffer requirement Total capital (to risk-weighted assets) 12.8 % 8.0 % 2.5 % 2.3 % Tier 1 capital (to risk-weighted assets) 10.9 6.0 2.5 2.4 Common equity tier 1 capital (to risk-weighted assets) 10.2 4.5 2.5 3.2 16. COMMITMENTS, GUARANTEES, CONTINGENT LIABILITIES, AND RELATED PARTIES Commitments and Guarantees We use certain financial instruments, including derivative instruments, in the normal course of business to meet the financing needs of our customers, to reduce our own exposure to fluctuations in interest rates, and to make a market in U.S. government, agency, corporate, and municipal securities. These financial instruments involve, to varying degrees, elements of credit, liquidity, and interest rate risk in excess of the amounts recognized in the balance sheet. See Notes 3 and 7 for more information on derivative instruments. Contractual amounts related to off-balance sheet financial instruments used to meet the financing needs of our customers are as follows: December 31, (In millions) 2021 2020 Unfunded lending commitments 1 $ 25,797 $ 24,217 Standby letters of cr Financial 597 531 Performance 245 167 Commercial letters of credit 22 34 Total unfunded commitments $ 26,661 $ 24,949 1 Net of participations. Loan commitments are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require the payment of a fee. The amount of collateral obtained, if deemed necessary by us upon extension of credit, is based on our initial credit evaluation of the counterparty. Types of collateral vary, but may include accounts receivable, inventory, property, plant and equipment, and income-producing properties. While making loan commitments creates credit risk, a significant portion of such commitments is expected to expire without being drawn upon. At December 31, 2021, there were $ 7.3 billion of commitments scheduled to expire in 2022. We use the same credit policies and procedures in making loan commitments and conditional obligations as 121 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION we do for on-balance sheet instruments. These policies and procedures include credit approvals, limits, and ongoing monitoring. We issue standby and commercial letters of credit as conditional commitments generally to guarantee the performance of a customer to a third party. The guarantees are primarily issued to support public and private borrowing arrangements, including commercial paper, bond financing, and similar transactions. Standby letters of credit include remaining commitments of $ 433 million expiring in 2022 and $ 409 million expiring thereafter through 2030. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending credit to customers. We generally hold marketable securities and cash equivalents as collateral when necessary. At December 31, 2021, we had recorded $ 4 million as a liability for these guarantees, which consisted of $ 2 million attributable to the RULC and $ 2 million of deferred commitment fees. Certain mortgage loans sold have limited recourse provisions for periods ranging from three months to one year. The amount of losses resulting from the exercise of these provisions has not been significant. At December 31, 2021 and 2020, the regulatory risk-weighted values assigned to all off-balance sheet financial instruments and derivative instruments described herein were $ 9.0 billion and $ 8.5 billion, respectively. Contingent Liabilities and Legal Matters We are subject to litigation in court and arbitral proceedings, as well as proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. At December 31, 2021, we were subject to the following material litigation or governmental inquiri • a civil suit, JTS Communities, Inc. et. al v. CB&T, Jun Enkoji and Dawn Satow , brought against us in the Superior Court for Sacramento County, California in June 2017. In this case four investors in our former customer, International Manufacturing Group (“IMG”), seek to hold us liable for losses arising from their investments in that company, alleging that we conspired with and knowingly assisted IMG and its principal in furtherance of an alleged Ponzi scheme. Currently, trial is scheduled for June 2022. • a civil class action lawsuit, Evans v. CB&T , brought against us in the United States District Court for the Eastern District of California in May 2017. This case was filed on behalf of a class of up to 50 investors in IMG and seeks to hold us liable for losses of class members arising from their investments in IMG, alleging that we conspired with and knowingly assisted IMG and its principal in furtherance of an alleged Ponzi scheme. In December 2017, the District Court dismissed all claims against the Bank. In January 2018, the plaintiff filed an appeal with the Court of Appeals for the Ninth Circuit. The appeal was heard in early April 2019 with the Court of Appeals reversing the trial court’s dismissal. This case is in the post-pleading phase and trial will not occur for a substantial period of time. • two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the 122 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Bank who filed for bankruptcy protection in 2017. The cases are in early phases, with initial motion practice and discovery underway in the Lifescan case. Trial has not been scheduled in either case. • a civil class action lawsuit, Gregory, et. al. v. Zions Bancorporation , brought against us in the United States District Court for Utah in January 2019. This case was filed on behalf of investors in Rust Rare Coin, Inc., alleging that we aided and abetted a Ponzi scheme fraud perpetrated by Rust Rare Coin, a Zions Bank customer. The case follows civil actions and the establishment of a receivership for Rust Rare Coin by The Commodities Futures Trading Commission and the Utah Division of Securities in November 2018, as well as a separate suit brought by the SEC against Rust Rare Coin and its principal, Gaylen Rust. During the third quarter of 2020, the Court granted our motion to dismiss the plaintiffs' claims in part, dismissing claims relating to fraud and fiduciary duty, but allowing a claim for aiding and abetting conversion to proceed. On January 14, 2022, the parties notified the court they reached a settlement in principle, and the court set a deadline of February 28, 2022 for submission of the settlement agreement for its preliminary approval of the agreement and notification of the putative class. There can be no assurance that the proposed settlement will result in a definitive agreement, that the conditions to the settlement will be met, or the settlement will be approved by the court. If completed, the proposed settlement would have a nominal impact on the Bank. At least quarterly, we review outstanding and new legal matters, utilizing available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at December 31, 2021, we estimated that the aggregate range of reasonably possible losses for those matters to be from $ 0 million to $ 40 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments and actual outcomes will differ from our estimates. These differences may be material. 123 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Related Party Transactions We have no material related party transactions requiring disclosure. In the ordinary course of business, we extend credit to related parties, including executive officers, directors, principal shareholders, and their associates and related interests. These related party loans are made in compliance with applicable banking regulations. 17. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which was approximately 76 % of our total revenue in 2021. Noninterest income and revenue from contracts with customers is recognized when control of the promised goods or services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those goods or services. We recognize the incremental cost of obtaining a contract as an expense, when incurred, if the amortization period of the asset that we would have recognized is one year or less. For performance obligations satisfied over time, if we have a right to consideration from a customer in an amount that corresponds directly with the value to the customer of our performance completed to date, we will generally recognize revenue in the amount to which we have a right to invoice. We do not generally disclose information about our remaining performance obligations for those performance obligations that have an original expected duration of one year or less, or where we recognize revenue in the amount to which we have a right to invoice. The following is a description of revenue from contracts with custome Commercial Account Fees Commercial account fee income is comprised of account analysis fees, merchant fees, and payroll services income. Revenue is recognized as the services are rendered or upon completion of services. Card Fees Our card fee income includes interchange income from credit and debit cards, net fees earned from processing card transactions for merchants, and automated teller machine (“ATM”) services. Card income is recognized as earned. Reward program costs are recorded when the rewards are earned by the customer and presented as a reduction to interchange income. Retail and Business Banking Fees Retail and business banking fees typically consist of fees charged for providing customers with deposit services. These fees are primarily comprised of insufficient funds fees, noncustomer ATM charges, and other various fees on deposit accounts. Service charges on deposit accounts include fees earned in lieu of compensating balances, and fees earned for performing cash management services and other deposit account services. Service charges on deposit accounts in this revenue category are recognized over the period in which the related service is provided. Treasury Management fees are billed monthly based on services rendered for the month. Capital Markets and Foreign Exchange Fees Capital markets and foreign exchange fees primarily consist of mutual fund distribution fees, municipal advisory services, customer swap fees, loan syndication fees, and foreign exchange services provided to customers. Revenue is recognized as the services are rendered or upon completion of services. Wealth Management Fees Wealth management fees are primarily comprised of wealth management commissions, but also are made up of other products such as portfolio services and advisory services. Revenue is recognized as the services are rendered or upon completion of services. Financial planning and estate services typically have performance obligations that are greater than 12 months, although the amount of future performance obligations are not significant. 124 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Other Customer-related Fees Other customer-related fees consist of miscellaneous income streams, including personal and corporate trust income, as well as claims and inventory management services for certain customers. Revenue is recognized as the services are rendered or upon completion of services. Disaggregation of Revenue The schedule below presents noninterest income and net revenue by operating business segments. Prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Zions Bank Amegy CB&T (In millions) 2021 2020 2019 2021 2020 2019 2021 2020 2019 Commercial account fees $ 45 $ 42 $ 41 $ 38 $ 37 $ 34 $ 25 $ 22 $ 23 Card fees 58 49 51 29 24 28 17 14 16 Retail and business banking fees 23 21 23 15 15 17 12 11 13 Capital markets and foreign exchange fees — ( 1 ) — 2 5 6 — — — Wealth management fees 21 17 16 13 10 8 5 4 4 Other customer-related fees 7 8 3 6 7 5 4 5 2 Total noninterest income from contracts with customers (ASC 606) 154 136 134 103 98 98 63 56 58 Other noninterest income (Non-ASC 606 customer related) 21 23 12 36 34 40 34 36 28 Total customer-related fees 175 159 146 139 132 138 97 92 86 Other noninterest income (noncustomer-related) 10 ( 1 ) 1 2 1 — 5 3 2 Total noninterest income 185 158 147 141 133 138 102 95 88 Other real estate owned gain from sale — — 3 — — — — 1 — Net interest income 634 650 688 463 485 489 537 512 512 Total income less interest expense $ 819 $ 808 $ 838 $ 604 $ 618 $ 627 $ 639 $ 608 $ 600 NBAZ NSB Vectra (In millions) 2021 2020 2019 2021 2020 2019 2021 2020 2019 Commercial account fees $ 7 $ 7 $ 7 $ 9 $ 8 $ 8 $ 7 $ 6 $ 6 Card fees 11 10 11 12 10 12 6 5 6 Retail and business banking fees 9 8 8 10 9 11 4 4 5 Capital markets and foreign exchange fees — — — — — — — — — Wealth management fees 3 2 2 4 3 3 2 1 2 Other customer-related fees 1 1 1 1 1 1 2 3 — Total noninterest income from contracts with customers (ASC 606) 31 28 29 36 31 35 21 19 19 Other noninterest income (Non-ASC 606 customer related) 13 12 12 14 12 8 12 13 7 Total customer-related fees 44 40 41 50 43 43 33 32 26 Other noninterest income (noncustomer-related) 2 1 1 — — — — — — Total noninterest income 46 41 42 50 43 43 33 32 26 Other real estate owned gain from sale — — — — — 1 — — — Net interest income 205 216 223 147 146 148 136 135 135 Total income less interest expense $ 251 $ 257 $ 265 $ 197 $ 189 $ 192 $ 169 $ 167 $ 161 TCBW Other Consolidated Bank (In millions) 2021 2020 2019 2021 2020 2019 2021 2020 2019 Commercial account fees $ 2 $ 1 $ 2 $ 1 $ 2 $ — $ 134 $ 125 $ 121 Card fees 1 1 1 1 — 2 135 113 127 Retail and business banking fees — — — — — 1 73 68 78 Capital markets and foreign exchange fees — — — 7 8 7 9 12 13 Wealth management fees — — 1 ( 2 ) 1 ( 2 ) 46 38 34 Other customer-related fees 1 1 — 30 20 29 52 46 41 Total noninterest income from contracts with customers (ASC 606) 4 3 4 37 31 37 449 402 414 Other noninterest income (Non-ASC 606 customer related) 2 2 1 ( 6 ) 15 3 126 147 111 Total customer-related fees 6 5 5 31 46 40 575 549 525 Other noninterest income (noncustomer-related) — — — 109 21 33 128 25 37 Total noninterest income 6 5 5 140 67 73 703 574 562 Other real estate owned gain from sale — — — — — — — 1 4 Net interest income 54 52 53 32 20 24 2,208 2,216 2,272 Total income less interest expense $ 60 $ 57 $ 58 $ 172 $ 87 $ 97 $ 2,911 $ 2,791 $ 2,838 Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is typically insignificant. 18. RETIREMENT PLANS Defined Benefit Plans Pension Plan — In June 2020, we terminated our pension plan and incurred a one-time $ 28 million expense, which was recognized in other noninterest expense. Supplemental Retirement Plans — These unfunded, nonqualified plans are for certain current and former employees. Each year, our contributions to these plans are made in amounts sufficient to meet benefit payments to plan participants. Our liability for these plans was $ 4 million and $ 5 million at December 31, 2021, and 2020, respectively. Post-retirement Plan — This unfunded health care and life insurance plan provides post-retirement benefits to certain former full-time employees who meet minimum age and service requirements. Our contribution toward the retiree medical premium has been permanently frozen at an amount that does not increase in any future year. Each year, our contributions to the plan are made in amounts sufficient to meet the portion of the premiums that are our responsibility. 125 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents the change in benefit obligation, change in fair value of plan assets, and funded status, of the plans and amounts recognized in the balance sheet at the measurement date of December 31: Pension Supplemental Retirement Post-retirement (In millions) 2021 2020 2021 2020 2021 2020 Change in benefit obligati Benefit obligation at beginning of year $ — $ 140 $ 8 $ 8 $ 1 $ 1 Interest cost — 1 — — — — Actuarial loss — 13 — 1 — — Annuity purchase — ( 97 ) — — — — Benefits paid — ( 57 ) ( 1 ) ( 1 ) — — Benefit obligation at end of year — — 7 8 1 1 Change in fair value of plan assets: Fair value of plan assets at beginning of year — 171 — — — — Actual return on plan assets — 4 — — — — Employer contributions — ( 21 ) 1 1 — — Annuity purchase — ( 97 ) — — — — Benefits paid — ( 57 ) ( 1 ) ( 1 ) — — Fair value of plan assets at end of year — — — — — — Funded status $ — $ — $ ( 7 ) $ ( 8 ) $ ( 1 ) $ ( 1 ) Amounts recognized in balance she Asset (liability) for pension/postretirement benefits $ — $ — $ ( 7 ) $ ( 8 ) $ ( 1 ) $ ( 1 ) Accumulated other comprehensive income (loss) — — ( 2 ) ( 3 ) — — The pension asset and liability for supplemental retirement and post-retirement benefits are included in “Other assets” and “Other liabilities,” respectively, on the consolidated balance sheet. The accumulated benefit obligation is the same as the benefit obligation shown in the preceding schedule. The following schedule presents the components of the net periodic benefit cost (benefit) for the pension plan. There was no periodic cost (benefit) for the supplemental retirement or post-retirement plans during the same time periods. Pension (In millions) 2021 2020 2019 Interest cost $ — $ 1 $ 5 Expected return on plan assets — ( 2 ) ( 9 ) Amortization of net actuarial loss — — — Settlement loss — 28 1 Net periodic benefit cost $ — $ 27 $ ( 3 ) Defined Contribution Plan We offer a 401(k) and employee stock ownership plan under which employees select from several investment alternatives. Employees can contribute up to 80 % of their earnings subject to the annual maximum allowed contribution. We match 100 % of the first 3 % of employee contributions and 50 % of the next 3 % of employee contributions. Matching contributions to participants amounted to $ 32 million, $ 31 million, and $ 33 million in 2021 , 2020, and 2019 respectively. The 401(k) plan also has a noncontributory profit-sharing feature which is discretionary and may range from 0 % to 3.5 % of eligible compensation based upon our return on average common equity for the year. The profit-sharing expense was $ 24 million, $ 7 million, and $ 16 million in 2021 , 2020 , and 2019, respectively. The profit-sharing contribution to participants consisted of shares of our common stock purchased in the open market. 126 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 19. SHARE-BASED COMPENSATION We have a share-based compensation incentive plan which allows us to grant stock options, restricted stock, RSUs, and other awards to employees and nonemployee directors. Total shares authorized under the plan were 9,000,000 at December 31, 2021, of which 1,889,694 were available for future grants. All share-based payments to employees, including grants of employee stock options, are recognized in the income statement based on their grant date values with consideration of service and performance vesting requirements. The value of an equity award is estimated on the grant date using a fair value-based model without regard to service or performance vesting conditions, but does consider post-vesting restrictions. We classify all share-based awards as equity instruments. Compensation expense is included in salaries and employee benefits in the statement of income, with the corresponding increase included in additional paid-in capital. We account for forfeitures of share-based compensation awards as they occur. Substantially all awards of stock options, restricted stock, and RSUs have graded vesting that is recognized on a straight-line basis over the vesting period. Compensation expense and the related tax benefit for all share-based awards were as follows: (In millions) 2021 2020 2019 Compensation expense $ 28 $ 26 $ 27 Reduction of income tax expense 11 8 11 We reduced share-based compensation expense by $ 2 million during 2021, and by $ 1 million during both 2020 and 2019, as a result of using a valuation model to estimate a liquidity discount on RSUs with post-vesting restrictions. As of December 31, 2021, compensation expense not yet recognized for nonvested share-based awards was approximately $ 28 million, which is expected to be recognized over a weighted average period of 2.4 years. Stock Options Stock options granted to employees generally vest at the rate of one third each year and expire seven years after the date of grant. For all stock options granted in 2021, 2020, and 2019, we used the Black-Scholes option pricing model to estimate the grant date value of stock options in determining compensation expense. The following summarizes the weighted average value at grant date and the significant assumptions used in applying the Black-Scholes model for options grant 2021 2020 2019 Weighted average value for options granted $ 7.86 $ 8.18 $ 10.30 Weighted average assumptions us Expected dividend yield 2.5 % 3.0 % 2.5 % Expected volatility 25.0 % 27.0 % 26.0 % Risk-free interest rate 0.47 % 1.38 % 2.52 % Expected life (in years) 5.0 5.0 5.0 The assumptions for expected dividend yield, expected volatility, and expected life reflect management’s judgment and include consideration of historical experience. Expected volatility is based in part on historical volatility. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant for periods corresponding with the expected life of the option. 127 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following summarizes our stock option activity for the three years ended December 31, 2021: Number of shares Weighted average exercise price Balance at December 31, 2018 2,004,598 $ 29.85 Granted 256,818 50.80 Exercised ( 569,808 ) 24.61 Expired ( 4,330 ) 22.37 Forfeited ( 10,500 ) 43.13 Balance at December 31, 2019 1,676,778 34.77 Granted 320,913 45.61 Exercised ( 285,954 ) 26.48 Expired ( 22,685 ) 30.17 Forfeited ( 5,395 ) 51.34 Balance at December 31, 2020 1,683,657 38.26 Granted 345,636 48.65 Exercised ( 686,894 ) 31.08 Expired ( 7,910 ) 42.16 Forfeited ( 6,345 ) 48.04 Balance at December 31, 2021 1,328,144 44.60 Outstanding stock options exercisable as o December 31, 2021 693,883 $ 41.54 December 31, 2020 1,137,596 33.42 December 31, 2019 1,239,821 28.95 We issue new authorized common shares for the exercise of stock options. The total intrinsic value of stock options exercised was approximately $ 16 million in 2021, $ 3 million in 2020, and $ 13 million in 2019. Cash received from the exercise of stock options was $ 20 million in 2021, $ 7 million in 2020, and $ 13 million in 2019. Additional selected information on stock options at December 31, 2021 follows: Outstanding stock options Exercisable stock options Exercise price range Number of shares Weighted average exercise price Weighted average remaining contractual life (years) Number of shares Weighted average exercise price $ 4.15 to $ 19.99 5,223 $ 6.41 1 0 5,223 $ 6.41 $ 20.00 to $ 24.99 124,427 20.99 1.1 124,427 20.99 $ 25.00 to $ 29.99 89,283 29.02 0.4 88,831 29.02 $ 40.00 to $ 44.99 117,972 43.92 2.1 116,817 43.93 $ 45 .00 to $ 49.99 633,124 47.27 5.6 80,518 45.66 $ 50.00 to $ 55.68 358,115 52.75 3.5 278,067 53.20 1,328,144 44.60 1 3.9 693,883 41.54 1 The weighted average remaining contractual life excludes 5,223 stock options without a fixed expiration date that were assumed with the Amegy acquisition. They expire between the date of termination and one year from the date of termination, depending upon certain circumstances. The aggregate intrinsic value of outstanding stock options at December 31, 2021 and 2020 was $ 25 million and $ 14 million, respectively, while the aggregate intrinsic value of exercisable options was $ 15 million and $ 14 million at the same respective dates. For exercisable options, the weighted average remaining contractual life was 2.6 years and 2.2 years at December 31, 2021 and 2020, respectively, excluding the stock options previously noted without a fixed expiration date. At December 31, 2021, 632,759 stock options with a weighted average exercise price of $ 47.95 , a weighted average remaining life of 5.4 years, and an aggregate intrinsic value of $ 10 million , were expected to vest. 128 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Restricted Stock and Restricted Stock Units Restricted stock is common stock with certain restrictions that relate to trading and the possibility of forfeiture. Generally, restricted stock vests over four years . Holders of restricted stock have full voting rights and receive dividend equivalents during the vesting period. In addition, holders of restricted stock can make an election to be subject to income tax on the grant date rather than the vesting date. RSUs represent rights to one share of common stock for each unit and generally vest over four years . Holders of RSUs receive dividend equivalents during the vesting period, but do not have voting rights. Compensation expense is determined based on the number of restricted shares or RSUs granted and the market price of our common stock at the issue date. During 2021, 2020, and 2019, we granted 16,938 , 28,992 , and 19,116 RSUs, respectively, to nonemployee directors. The RSUs vested immediately upon grant. The following summarizes our restricted stock activity for the three years ended December 31, 2021: Number of shares Weighted average fair value Nonvested restricted shares at December 31, 2018 45,686 $ 33.78 Issued 24,994 42.83 Vested ( 20,223 ) 30.69 Nonvested restricted shares at December 31, 2019 50,457 39.50 Issued 27,798 45.65 Vested ( 20,859 ) 34.77 Nonvested restricted shares at December 31, 2020 57,396 44.20 Issued 26,083 39.16 Vested ( 18,663 ) 43.89 Nonvested restricted shares at December 31, 2021 64,816 42.26 The following summarizes our RSU activity for the three years ended December 31, 2021: Number of restricted stock units Weighted average fair value Restricted stock units at December 31, 2018 1,400,699 $ 37.65 Granted 536,489 47.85 Vested ( 614,968 ) 33.74 Forfeited ( 28,150 ) 44.69 Restricted stock units at December 31, 2019 1,294,070 43.59 Granted 586,302 42.75 Vested ( 593,375 ) 37.56 Forfeited ( 44,676 ) 47.78 Restricted stock units at December 31, 2020 1,242,321 46.31 Granted 578,056 47.02 Vested ( 505,690 ) 46.51 Forfeited ( 40,604 ) 47.97 Restricted stock units at December 31, 2021 1,274,083 46.49 The total value at grant date of restricted stock and RSUs vested during the year was $ 24 million in 2021, $ 23 million in 2020, and $ 21 million in 2019. At December 31, 2021, 64,816 shares of restricted stock and 847,876 RSUs were expected to vest with an aggregate intrinsic value of $ 4 million and $ 54 million , respectively. 129 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 20. INCOME TAXES The following schedule presents the major components of our income tax expense: (In millions) 2021 2020 2019 Feder Current $ 230 $ 153 $ 195 Deferred 27 ( 47 ) ( 1 ) Total Federal 257 106 194 State: Current 55 38 44 Deferred 5 ( 11 ) ( 1 ) Total State 60 27 43 Total income tax expense $ 317 $ 133 $ 237 Income tax expense computed at the statutory federal income tax rate of 21% reconciles to actual income tax expense as follows: (In millions) 2021 2020 2019 Income tax expense at statutory federal rate $ 304 $ 141 $ 221 State income taxes including credits, net 48 21 34 Other nondeductible expenses 8 8 13 Nontaxable income ( 36 ) ( 32 ) ( 28 ) Share-based compensation ( 3 ) ( 1 ) ( 4 ) Tax credits and other taxes ( 4 ) ( 4 ) 1 Total income tax expense $ 317 $ 133 $ 237 On the consolidated balance sheet, the net DTA is included in “Other assets,” and the net DTL is included in “Other liabilities.” The tax effects of temporary differences that give rise to significant portions of DTAs and DTLs are presented be (In millions) December 31, 2021 2020 Gross deferred tax assets: Book loan loss deduction in excess of tax $ 136 $ 205 Pension and postretirement 1 1 Deferred compensation 77 71 Security investments and derivative fair value adjustments 26 — Lease liabilities 55 59 Capitalization of intangible assets 40 — Other 44 35 Total deferred tax assets before valuation allowance 379 371 Valuation allowance — — Total deferred tax assets 379 371 Gross deferred tax liabiliti Premises and equipment, due to differences in depreciation ( 88 ) ( 81 ) Federal Home Loan Bank stock dividends ( 2 ) ( 2 ) Leasing operations ( 44 ) ( 55 ) Prepaid expenses ( 8 ) ( 6 ) Prepaid pension reserves ( 6 ) ( 6 ) Mortgage servicing ( 10 ) ( 8 ) Security investments and derivative fair value adjustments — ( 102 ) Deferred loan costs ( 30 ) ( 32 ) ROU assets ( 49 ) ( 53 ) Qualified opportunity fund deferred gains ( 26 ) ( 11 ) Equity investments ( 20 ) ( 18 ) Total deferred tax liabilities ( 283 ) ( 374 ) Net deferred tax assets (liabilities) $ 96 $ ( 3 ) 130 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION There was no valuation allowance at December 31, 2021 or December 31, 2020. We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more likely than not criteria that such assets will be realized. This evaluation includes, but is not limited t (1) available carryback potential to prior tax years; (2) potential future reversals of existing deferred tax liabilities, which historically have a reversal pattern generally consistent with DTAs; (3) potential tax planning strategies; and (4) future projected taxable income. Based on this evaluation, we concluded that a valuation allowance was not required at December 31, 2021. At December 31, 2021, the tax effect of remaining net operating loss and tax credit carryforward was less than $ 1 million, expiring through 2039. We have a liability for unrecognized tax benefits relating to uncertain tax positions for tax credits on technology initiatives. The following schedule presents a rollforward of gross unrecognized tax benefits: (In millions) 2021 2020 2019 Balance at beginning of year $ 11 $ 14 $ 8 Tax positions related to current y Additions 2 2 2 Tax positions related to prior yea Additions 1 — 4 Reductions — ( 5 ) — Balance at end of year $ 14 $ 11 $ 14 At both December 31, 2021 and 2020, the liability for unrecognized tax benefits included approximately $ 12 million and $ 10 million, respectively (net of the federal tax benefit on state issues) that, if recognized, would affect the effective tax rate. The amount of gross unrecognized tax benefits related to tax credits on technology initiatives that may increase or decrease during the 12 months subsequent to December 31, 2021 is dependent on the timing and outcome of various ongoing federal and state examinations. For tax years not currently under examination, the gross unrecognized tax benefits on technology initiatives may decrease by approximately $ 2 million. Interest and penalties related to unrecognized tax benefits are included in income tax expense in the statement of income. At both December 31, 2021 and 2020, accrued interest and penalties recognized in the balance sheet, net of any federal and state tax benefits, totaled approximately $ 1 million. We file income tax returns in U.S. federal and various state jurisdictions, and we are no longer subject to income tax examinations for years prior to 2013 for federal and certain state returns. 131 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 21. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: (In millions, except shares and per share amounts) 2021 2020 2019 Basic: Net income $ 1,129 $ 539 $ 816 Less common and preferred dividends 261 259 260 Less impact from redemption of preferred stock 3 — — Undistributed earnings 865 280 556 Less undistributed earnings applicable to nonvested shares 7 2 4 Undistributed earnings applicable to common shares 858 278 552 Distributed earnings applicable to common shares 230 223 224 Total earnings applicable to common shares $ 1,088 $ 501 $ 776 Weighted average common shares outstanding (in thousands) 159,913 163,737 175,984 Net earnings per common share $ 6.80 $ 3.06 $ 4.41 Dilut Total earnings applicable to common shares $ 1,088 $ 501 $ 776 Weighted average common shares outstanding (in thousands) 159,913 163,737 175,984 Dilutive effect of common stock warrants (in thousands) — 1,641 9,926 Dilutive effect of stock options (in thousands) 321 235 594 Weighted average diluted common shares outstanding (in thousands) 160,234 165,613 186,504 Net earnings per common share $ 6.79 $ 3.02 $ 4.16 The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per share. (In thousands) 2021 2020 2019 Restricted stock and restricted stock units $ 1,374 $ 1,338 $ 1,390 Stock options 74 889 460 22. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, Amegy Bank, California Bank & Trust, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. The operating segment identified as “ Other” includes certain nonbank financial service subsidiaries, centralized back-office functions, and eliminations of transactions between segments. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal FTP allocation system and process to report results of operations for business segments, which is continually refined. In the third quarter of 2019, we made changes to the FTP process to more accurately reflect the cost of funds for loans. Additionally, in the third quarter of 2020, we began allocating the net interest income associated with our Treasury department to the business segments. Historically, this amount was presented in the “Other” segment. Prior period amounts have been revised to reflect the impact of these changes had they been instituted for the periods presented. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. 132 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION At December 31, 2021, Zions Bank operated 96 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. Amegy operated 75 branches in Texas. CB&T operated 83 branches in California. NBAZ operated 56 branches in Arizona. NSB operated 44 branches in Nevada. Vectra operated 34 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. The following schedule presents selected operating segment informati (In millions) Zions Bank Amegy CB&T 2021 2020 2019 2021 2020 2019 2021 2020 2019 SELECTED INCOME STATEMENT DATA Net interest income $ 634 $ 650 $ 688 $ 463 $ 485 $ 489 $ 537 $ 512 $ 512 Provision for credit losses ( 26 ) 67 18 ( 96 ) 111 9 ( 78 ) 120 7 Net interest income after provision for credit losses 660 583 670 559 374 480 615 392 505 Noninterest income 185 158 147 141 133 138 102 95 88 Noninterest expense 464 446 471 337 329 344 311 305 316 Income before income taxes $ 381 $ 295 $ 346 $ 363 $ 178 $ 274 $ 406 $ 182 $ 277 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 13,198 $ 13,845 $ 13,109 $ 12,189 $ 13,114 $ 12,235 $ 12,892 $ 12,366 $ 10,763 Total average deposits 23,588 18,370 15,561 15,496 12,970 11,627 15,796 13,763 11,522 (In millions) NBAZ NSB Vectra 2021 2020 2019 2021 2020 2019 2021 2020 2019 SELECTED INCOME STATEMENT DATA Net interest income $ 205 $ 216 $ 223 $ 147 $ 146 $ 148 $ 136 $ 135 $ 135 Provision for credit losses ( 27 ) 35 2 ( 35 ) 37 ( 1 ) ( 12 ) 34 3 Net interest income after provision for credit losses 232 181 221 182 109 149 148 101 132 Noninterest income 46 41 42 50 43 43 33 32 26 Noninterest expense 151 147 156 142 141 145 114 109 108 Income before income taxes $ 127 $ 75 $ 107 $ 90 $ 11 $ 47 $ 67 $ 24 $ 50 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 4,849 $ 5,099 $ 4,774 $ 3,015 $ 3,102 $ 2,630 $ 3,414 $ 3,401 $ 3,109 Total average deposits 7,288 5,771 5,002 6,691 5,427 4,512 4,386 3,637 2,853 (In millions) TCBW Other Consolidated Bank 2021 2020 2019 2021 2020 2019 2021 2020 2019 SELECTED INCOME STATEMENT DATA Net interest income $ 54 $ 52 $ 53 $ 32 $ 20 $ 24 $ 2,208 $ 2,216 $ 2,272 Provision for credit losses ( 3 ) 7 ( 1 ) 1 3 2 ( 276 ) 414 39 Net interest income after provision for credit losses 57 45 54 31 17 22 2,484 1,802 2,233 Noninterest income 6 5 5 140 67 73 703 574 562 Noninterest expense 21 22 22 201 205 180 1,741 1,704 1,742 Income (loss) before income taxes $ 42 $ 28 $ 37 $ ( 30 ) $ ( 121 ) $ ( 85 ) $ 1,446 $ 672 $ 1,053 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,569 $ 1,460 $ 1,194 $ 857 $ 629 $ 451 $ 51,983 $ 53,016 $ 48,265 Total average deposits 1,537 1,256 1,094 1,475 2,495 2,910 76,257 63,689 55,081 133 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION 23. QUARTERLY FINANCIAL INFORMATION (UNAUDITED) Quarterly financial information for 2021 and 2020 is presented below. Prior period amounts have been reclassified to conform with the current year presentation, where applicable. These reclassifications did not affect net income. See related discussion in Note 1. (In millions, except per share amounts) Fourth Quarter Third Quarter Second Quarter First Quarter 2021 Gross interest income $ 566 $ 569 $ 570 $ 562 Net interest income 553 555 555 545 Provision for credit losses 25 ( 46 ) ( 123 ) ( 132 ) Noninterest income 190 139 205 169 Noninterest expense 449 429 428 435 Income before income taxes 269 311 455 411 Net income 213 240 354 322 Preferred stock dividends 6 6 9 8 Net earnings applicable to common shareholders 207 234 345 314 Net earnings per common sh Basic 1.34 1.45 2.08 1.90 Diluted 1.34 1.45 2.08 1.90 2020 Gross interest income $ 571 $ 581 $ 595 $ 622 Net interest income 550 555 563 548 Provision for credit losses ( 67 ) 55 168 258 Noninterest income 166 157 117 134 Noninterest expense 424 442 430 408 Income before income taxes 359 215 82 16 Net income 284 175 66 14 Preferred stock dividends 9 8 9 8 Net earnings applicable to common shareholders 275 167 57 6 Net earnings per common sh Basic 1.66 1.01 0.34 0.04 Diluted 1.66 1.01 0.34 0.04 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. ITEM 9A. CONTROLS AND PROCEDURES Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures as of December 31, 2021. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of December 31, 2021. There were no changes in our internal control over financial reporting during the fourth quarter of 2021 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. See “Report on Management’s Assessment of Internal Control over Financial Reporting” included in Item 8 on page 72 for management’s report on the adequacy of internal control over financial reporting. Also see “Report on Internal Control over Financial Reporting” issued by Ernst & Young LLP included in Item 8 on page 73. ITEM 9B. OTHER INFORMATION None. 134 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ITEM 9C. DISCLOSURE REGARDING FOREIGN JURISDICTIONS THAT PREVENT INSPECTIONS None. PART III ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, AND CORPORATE GOVERNANCE Incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 11. EXECUTIVE COMPENSATION Incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS Equity Compensation Plan Information The following schedule provides information as of December 31, 2021 with respect to the shares of our common stock that may be issued under existing equity compensation plans. (a) (b) (c) Plan category 1 Number of securities to be issued upon exercise of outstanding options, warrants and rights Weighted average exercise price of outstanding options, warrants and rights Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a)) Equity compensation plan approved by security holde Zions Bancorporation, N.A. 2015 Omnibus Incentive Plan 1,322,921 $ 44.75 1,889,694 1 Column (a) excludes 64,816 shares of unvested restricted stock, and 1,274,083 RSUs (each unit representing the right to one share of common stock). The schedule also excludes 5,223 shares of common stock issuable upon the exercise of stock options, with a weighted average exercise price of $6.41, granted under plans assumed in mergers that are outstanding. Other information required by Item 12 is incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE Incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES Incorporated by reference from our Proxy Statement to be subsequently filed. PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES a. (1) Financial statements — The following consolidated financial statements of Zions Bancorporation, N.A. are filed as part of this Form 10-K under Item 8, Financial Statements and Supplementary Da Consolidated balance sheets — December 31, 2021 and 2020 Consolidated statements of income — Years ended December 31, 2021, 2020 and 2019 Consolidated statements of comprehensive income — Years ended December 31, 2021, 2020 and 2019 135 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Consolidated statements of changes in shareholders ’ equity — Years ended December 31, 2021, 2020 and 2019 Consolidated statements of cash flows — Years ended December 31, 2021, 2020 and 2019 Notes to consolidated financial statements — December 31, 2021 (2) Financial statement schedules — All financial statement schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions, the required information is contained elsewhere in the Form 10-K, or the schedules are inapplicable and have therefore been omitted. (3) List of Exhibits: Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 4.1 Description of Securities of Zions Bancorporation, National Association, as of December 31, 2021 (filed herewith). 10. 1 Zions Bancorporation 2017-2019 Value Sharing Plan, incorporated by reference to Exhibit 10.2 of Form 10-Q for the quarter ended June 30, 2017. * 10. 2 Zions Bancorporation 2018-2020 Value Sharing Plan, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended June 30, 2018. * 10. 3 Zions Bancorporation 2017 Management Incentive Compensation Plan, incorporated by reference to Appendix I of our Proxy Statement dated April 14, 2016. * 10.4 Zions Bancorporation Third Restated and Revised Deferred Compensation Plan, incorporated by reference to Exhibit 10.5 of Form 10-K for the year ended December 31, 2018. * 10.5 Zions Bancorporation Fourth Restated Deferred Compensation Plan for Directors, incorporated by reference to Exhibit 10.6 of Form 10-K for the year ended December 31, 2018. * 10. 6 Amendment to the Zions Bancorporation Fourth Restated Deferred Compensation Plan for Directors, incorporated by reference to Exhibit 10.8 of Form 10-K for the year ended December 31, 2015. * 10.7 Amegy Bancorporation, Inc. Fifth Amended and Restated Non-Employee Directors Deferred Fee Plan (Frozen upon merger with Zions Bancorporation in 2005), incorporated by reference to Exhibit 10.8 of Form 10-K for the year ended December 31, 2018. * 10.8 Zions Bancorporation Executive Management Pension Plan, incorporated by reference to Exhibit 10.8 of Form 10-K for the year ended December 31, 2020. * 10.9 Zions Bancorporation First Restated Excess Benefit Plan, incorporated by reference to Exhibit 10.9 of Form 10-K for the year ended December 31, 2020. * 10.1 0 Amegy Bancorporation 2004 (formerly Southwest Bancorporation of Texas, Inc.) Omnibus Incentive Plan, incorporated by reference to Exhibit 10.38 of Form 10-K for the year ended December 31, 2015. * 136 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Exhibit Number Description 10.1 1 Trust Agreement establishing the Zions Bancorporation Deferred Compensation Plan Trust by and between Zions Bancorporation and Cigna Bank & Trust Company, FSB effective October 1, 2002, incorporated by reference to Exhibit 10.12 of Form 10-K for the year ended December 31, 2018. * 10.12 Amendment to the Trust Agreement Establishing the Zions Bancorporation Deferred Compensation Plans Trust, effective September 1, 2006, incorporated by reference to Exhibit 10.13 of Form 10-K for the year ended December 31, 2018. * 10.1 3 Amendment to the Trust Agreement establishing the Zions Bancorporation Deferred Compensation Plan Trust by and between Zions Bancorporation and Cigna Bank & Trust Company, FSB substituting Prudential Bank & Trust, FSB as the trustee, incorporated by reference to Exhibit 10.12 of Form 10-K for the year ended December 31, 2016. * 10.14 Zions Bancorporation Deferred Compensation Plans Master Trust between Zions Bancorporation and Fidelity Management Trust Company, effective September 1, 2006, incorporated by reference to Exhibit 10.15 of Form 10-K for the year ended December 31, 2018. * 10.15 Revised schedule C to Zions Bancorporation Deferred Compensation Plans Master Trust between Zions Bancorporation and Fidelity Management Trust Company, effective September 13, 2006, incorporated by reference to Exhibit 10.16 of Form 10-K for the year ended December 31, 2018. * 10.1 6 Third Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, dated June 13, 2012, incorporated by reference to Exhibit 10.17 of Form 10-K for the year ended December 31, 2017. * 10.17 Fifth Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, incorporated by reference to Exhibit 10.18 of Form 10-K for the year ended December 31, 2018. * 10.18 Sixth Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, dated August 17, 2015, incorporated by reference to Exhibit 10.18 of Form 10-K for the year ended December 31, 2020. * 10. 19 Seventh Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, effective September 30, 2018, incorporated by reference to Exhibit 10.2 of Form 10-Q for the quarter ended September 30, 2018. * 10. 20 Second Amendment to the Zions Bancorporation Pension Plan, dated July 17, 2017, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended June 30, 2017. * 10.2 1 Third Amendment to the Zions Bancorporation Pension Plan, dated October 30, 2017, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended September 30, 2018. * 10.2 2 Sixth Amendment to the Zions Bancorporation Pension Plan, dated June 25, 2020, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended June 30, 2020. * 10.23 Zions Bancorporation Restated Pension Plan effective January 1, 2009, including amendments adopted through December 31, 2013, incorporated by reference to Exhibit 10.2 of Form 10-Q for the quarter ended June 30, 2018. * 10.24 First Amendment to the Zions Bancorporation Restated Pension Plan, effective October 1, 2018, dated October 29, 2018, incorporated by reference to Exhibit 10.24 of Form 10-K for the year ended December 31, 2018. * 137 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Exhibit Number Description 10.2 5 Second Amendment to the Zions Bancorporation Restated Pension Plan, effective December 31, 2018, dated December 31, 2018, incorporated by reference to Exhibit 10.25 of Form 10-K for the year ended December 31, 2018. * 10.26 Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, Restated and Amended effective January 1, 2007, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended June 30, 2018. * 10.27 Second Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated December 31, 2018, effective January 1, 2019, incorporated by reference to Exhibit 10.27 of Form 10-K for the year ended December 31, 2018. * 10.28 Third Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated June 27, 2019, effective September 30, 2018, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended June 30, 2019. * 10.29 Fourth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated September 11, 2020, effective January 1, 2020, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended September 30, 2020. * 10.30 Fifth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated September 11, 2020, effective January 1, 2020, incorporated by reference to Exhibit 10.2 of Form 10-Q for the quarter ended September 30, 2020. * 10.31 Sixth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated September 11, 2020, effective October 1, 2020, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended September 30, 2020. * 10.32 Seventh Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated December 23, 2020, effective January 1, 2021, incorporated by reference to Exhibit 10.32 of Form 10-K for the year ended December 31, 2020. * 10.33 Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated July 3, 2006, incorporated by reference to Exhibit 10.28 of Form 10-K for the year ended December 31, 2018. * 10.34 First Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 5, 2010, incorporated by reference to Exhibit 10.25 of Form 10-K for the year ended December 31, 2015. * 10.35 Second Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 5, 2010, incorporated by reference to Exhibit 10.26 of Form 10-K for the year ended December 31, 2015. * 10.36 Third Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 30, 2010, incorporated by reference to Exhibit 10.27 of Form 10-K for the year ended December 31, 2015. * 10.37 Fourth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated October 1, 2014, incorporated by reference to Exhibit 10.37 of Form 10-K for the year ended December 31, 2020. * 138 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Exhibit Number Description 10.38 Fifth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated October 1, 2014, incorporated by reference to Exhibit 10.38 of Form 10-K for the year ended December 31, 2020. * 10.39 Sixth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated August 17, 2015, incorporated by reference to Exhibit 10.39 of Form 10-K for the year ended December 31, 2020. * 10.40 Seventh Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 27, 2016, incorporated by reference to Exhibit 10.31 of Form 10-K for the year ended December 31, 2016. * 10.41 Eighth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective September 30, 2018, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended September 30, 2018. * 10.42 Ninth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective October 27, 2020, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended June 30, 2021. * 10.4 3 Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.42 of Form 10-K for the year ended December 31, 2020. * 10.4 4 Form of Restricted Stock Award Agreement subject to holding requirement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.43 of Form 10-K for the year ended December 31, 2020. * 10.4 5 Form of Standard Restricted Stock Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.44 of Form 10-K for the year ended December 31, 2020. * 10.4 6 Form of Standard Restricted Stock Unit Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.45 of Form 10-K for the year ended December 31, 2020. * 10.4 7 Form of Restricted Stock Unit Agreement subject to holding requirement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.46 of Form 10-K for the year ended December 31, 2020. * 10.4 8 Form of Standard Stock Option Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.47 of Form 10-K for the year ended December 31, 2020. * 10.4 9 Form of Standard Directors Stock Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.48 of Form 10-K for the year ended December 31, 2020. * 10. 50 Form of Change in Control Agreement between the Bank and Certain Executive Officers, incorporated by reference to Exhibit 10.49 of Form 10-K for the year ended December 31, 2020. * 10. 51 Form of Change in Control Agreement between the Bank and Dallas E. Haun, dated May 23, 2008, incorporated by reference to Exhibit 10.50 of Form 10-K for the year ended December 31, 2020. * 139 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Exhibit Number Description 21 List of Subsidiaries of Zions Bancorporation, National Association (filed herewith). 23 Consent of Independent Registered Public Accounting Firm (filed herewith). 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in inline XBRL: (i) the Consolidated Balance Sheets as of December 31, 2021 and December 31, 2020, (ii) the Consolidated Statements of Income for the years ended December 31, 2021, December 31, 2020, and December 31, 2019, (iii) the Consolidated Statements of Comprehensive Income for the years ended December 31, 2021, December 31, 2020, and December 31, 2019, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the years ended December 31, 2021, December 31, 2020, and December 31, 2019, (v) the Consolidated Statements of Cash Flows for the years ended December 31, 2021, December 31, 2020, and December 31, 2019, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Form 10-K, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. ITEM 16. FORM 10-K SUMMARY Not applicable. 140 Table of Con tents ZIONS BANCORPORATION, NATIONAL ASSOCIATION SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. February 24, 2022 ZIONS BANCORPORATION, NATIONAL ASSOCIATION By /s/ Harris H. Simmons HARRIS H. SIMMONS, Chairman and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the date indicated. February 24, 2022 /s/ Harris H. Simmons /s/ Paul E. Burdiss HARRIS H. SIMMONS, Director, Chairman and Chief Executive Officer (Principal Executive Officer) PAUL E. BURDISS, Executive Vice President and Chief Financial Officer (Principal Financial Officer) /s/ R. Ryan Richards /s/ Maria Contreras-Sweet R. RYAN RICHARDS, Controller (Principal Accounting Officer) MARIA CONTRERAS-SWEET, Director /s/ Gary L. Crittenden /s/ Suren K. Gupta GARY L. CRITTENDEN, Director SUREN K. GUPTA, Director /s/ Claire A. Huang /s/ Vivian S. Lee CLAIRE A. HUANG, Director VIVIAN S. LEE, Director /s/ Scott J. McLean /s/ Edward F. Murphy SCOTT J. MCLEAN, Director EDWARD F. MURPHY, Director /s/ Stephen D. Quinn /s/ Aaron B. Skonnard STEPHEN D. QUINN, Director AARON B. SKONNARD, Director /s/ Barbara A. Yastine BARBARA A. YASTINE, Director 141 |
Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) 35 Consolidated Balance Sheets 35 Consolidated Statements of Income 36 Consolidated Statements of Comprehensive Income (Loss) 37 Consolidated Statements of Changes in Shareholders’ Equity 37 Consolidated Statements of Cash Flows 38 Notes to Consolidated Financial Statements 39 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 4 Item 3. Quantitative and Qualitative Disclosures About Market Risk 74 Item 4. Controls and Procedures 74 PART II. OTHER INFORMATION Item 1. Legal Proceedings 75 Item 1A. Risk Factors 75 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 75 Item 6. Exhibits 76 Signatures 77 2 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses IMG International Manufacturing Group AFS Available-for-Sale IPO Initial Public Offering ALLL Allowance for Loan and Lease Losses IRS Internal Revenue Service Amegy Amegy Bank, a division of Zions Bancorporation, National Association LIBOR London Interbank Offered Rate AMERIBOR American Interbank Offered Rate Municipalities State and Local Governments AOCI Accumulated Other Comprehensive Income NAICS North American Industry Classification System ASC Accounting Standards Codification NASDAQ National Association of Securities Dealers Automated Quotations ASU Accounting Standards Update NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association BOLI Bank-Owned Life Insurance NIM Net Interest Margin bps Basis Points NM Not Meaningful BSBY Bloomberg Short-Term Bank Yield NSB Nevada State Bank, a division of Zions Bancorporation, National Association CB&T California Bank & Trust, a division of Zions Bancorporation, National Association OCC Office of the Comptroller of the Currency CCPA California Consumer Privacy Act of 2018 OCI Other Comprehensive Income CECL Current Expected Credit Loss OREO Other Real Estate Owned CLTV Combined Loan-to-Value Ratio PEI Private Equity Investment CMT Constant Maturity Treasury PPNR Pre-provision Net Revenue CRE Commercial Real Estate PPP Paycheck Protection Program CVA Credit Valuation Adjustment ROU Right-of-Use DTA Deferred Tax Asset RULC Reserve for Unfunded Lending Commitments EaR Earnings at Risk S&P Standard and Poor's EPS Earnings per Share SBA U.S. Small Business Administration EVE Economic Value of Equity SBIC Small Business Investment Company FASB Financial Accounting Standards Board SEC Securities and Exchange Commission FDIC Federal Deposit Insurance Corporation SOFR Secured Overnight Financing Rate FHLB Federal Home Loan Bank TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association FRB Federal Reserve Board TDR Troubled Debt Restructuring FTP Funds Transfer Pricing U.K. United Kingdom GAAP Generally Accepted Accounting Principles U.S. United States HECL Home Equity Credit Line Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association HTM Held-to-Maturity Zions Bank Zions Bank, a division of Zions Bancorporation, National Association 3 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION PART I. FINANCIAL INFORMATION ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING INFORMATION This quarterly report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. These forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although this list is not comprehensive, important factors that may cause material differences include changes in general industry and economic conditions, including inflation; changes and uncertainties in legislation and fiscal, monetary, regulatory, trade, and tax policies; changes in interest and reference rates; the quality and composition of our loan and securities portfolios; our ability to recruit and retain talent, including increased competition for qualified candidates as a result of expanded remote-work opportunities and increased compensation expenses; competitive pressures and other factors that may affect aspects of our business, such as pricing, demand for our products and services; our ability to execute our strategic plans, manage our risks, and achieve our business objectives; our ability to develop and maintain information security systems and controls designed to guard against fraud, cyber, and privacy risks; the effects of the COVID-19 pandemic (including variants) and associated actions that may affect our business, employees, and communities; other local, national, or international disasters, crises, or conflicts that may occur in the future; and governmental and social responses to environmental issues and climate change. These factors, risks, and uncertainties, among others, are discussed in our 2021 Form 10-K and subsequent filings with the Securities and Exchange Commission (“SEC”). We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any of the forward-looking statements included herein to reflect future events or developments. GAAP to NON-GAAP RECONCILIATIONS This Form 10-Q presents non-GAAP financial measures, in addition to generally accepted accounting principles (“GAAP”) financial measures, to provide investors with additional information. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results and to provide a meaningful base for period-to-period and company-to-company comparisons. We use these non-GAAP financial measures to assess our performance, financial position, and for presentations of our performance to investors. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by our management and the financial services industry. 4 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar financial measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under GAAP. Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets and their related amortization. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a business more consistently, whether acquired or developed internally. RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Three Months Ended (Dollar amounts in millions) March 31, 2022 December 31, 2021 March 31, 2021 Net earnings applicable to common shareholders, net of tax (a) $ 195 $ 207 $ 314 Average common equity (GAAP) $ 6,700 $ 7,146 $ 7,333 Average goodwill and intangibles (1,015) (1,015) (1,016) Average tangible common equity (non-GAAP) (b) $ 5,685 $ 6,131 $ 6,317 Number of days in quarter (c) 90 92 90 Number of days in year (d) 365 365 365 Return on average tangible common equity (non-GAAP) (a/b/c)*d 13.9 % 13.4 % 20.2 % TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) March 31, 2022 December 31, 2021 March 31, 2021 Total shareholders’ equity (GAAP) $ 6,294 $ 7,463 $ 7,933 Goodwill and intangibles (1,015) (1,015) (1,016) Tangible equity (non-GAAP) (a) 5,279 6,448 6,917 Preferred stock (440) (440) (566) Tangible common equity (non-GAAP) (b) $ 4,839 $ 6,008 $ 6,351 Total assets (GAAP) $ 91,126 $ 93,200 $ 85,121 Goodwill and intangibles (1,015) (1,015) (1,016) Tangible assets (non-GAAP) (c) $ 90,111 $ 92,185 $ 84,105 Common shares outstanding (thousands) (d) 151,348 151,625 163,800 Tangible equity ratio (non-GAAP) (a/c) 5.9 % 7.0 % 8.2 % Tangible common equity ratio (non-GAAP) (b/c) 5.4 % 6.5 % 7.6 % Tangible book value per common share (non-GAAP) (b/d) $ 31.97 $ 39.62 $ 38.77 5 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. The methodology of determining the efficiency ratio may differ among companies. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allow for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how well we are managing our expenses; adjusted pre-provision net revenue (“PPNR”) enables management and others to assess our ability to generate capital. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) Three Months Ended Year Ended (Dollar amounts in millions) March 31, 2022 December 31, 2021 March 31, 2021 December 31, 2021 Noninterest expense (GAAP) (a) $ 464 $ 449 $ 435 $ 1,741 Adjustments: Severance costs — — — 1 Other real estate expense, net 1 — — — Amortization of core deposit and other intangibles — 1 — 1 Pension termination-related (income) expense 1 — — (5) (5) SBIC investment success fee accrual 2 (1) 2 — 7 Total adjustments (b) — 3 (5) 4 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 464 $ 446 $ 440 $ 1,737 Net interest income (GAAP) (d) $ 544 $ 553 $ 545 $ 2,208 Fully taxable-equivalent adjustments (e) 8 10 8 32 Taxable-equivalent net interest income (non-GAAP) (d+e)=f 552 563 553 2,240 Noninterest income (GAAP) g 142 190 169 703 Combined income (non-GAAP) (f+g)=(h) 694 753 722 2,943 Adjustments: Fair value and nonhedge derivative gain (loss) 6 (1) 18 14 Securities gains (losses), net 2 (17) 20 11 71 Total adjustments (i) (11) 19 29 85 Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 705 $ 734 $ 693 $ 2,858 Pre-provision net revenue (non-GAAP) (h)-(a) $ 230 $ 304 $ 287 $ 1,202 Adjusted PPNR (non-GAAP) (j)-(c) 241 288 253 1,121 Efficiency ratio (non-GAAP) 3 (c/j) 65.8 % 60.8 % 63.5 % 60.8 % 1 Represents a valuation adjustment related to the termination of our defined benefit pension plan. 2 The success fee accrual is associated with the gains/(losses) from our SBIC investments. The gains/(losses) related to these investments are excluded from the efficiency ratio through securities gains, net. 3 Results for the first quarter of 2022 benefited from a one-time adjustment of approximately $6 million in commercial account fees. Excluding the $6 million adjustment, the efficiency ratio for the first quarter of 2022 would have been 66.4%. 6 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Comparisons noted below are calculated for the current quarter versus the same prior-year period unless otherwise specified. Growth rates of 100% or more are considered not meaningful (“NM”) as they generally reflect a low starting point. RESULTS OF OPERATIONS Executive Summary Our financial results in the first quarter of 2022 reflected strong non-PPP loan growth, solid credit performance, and improving customer-related noninterest income. Diluted earnings per share (“EPS”) decreased to $1.27, compared with $1.90 in the first quarter of 2021. Net interest income remained relatively stable at $544 million, as significant growth of $7.8 billion in average interest-earning assets was partially offset by net interest margin (“NIM”) compression arising from an increased concentration in cash and securities and the low interest rate environment. The NIM was 2.60% in the first quarter of 2022, compared with 2.86%. Our results benefited from a negative $33 million provision for credit losses, reflecting improvements in economic forecasts and strong credit quality. This compares with a negative $132 million provision for credit losses in the first quarter of 2021. Net loan and lease charge-offs were $6 million, or 0.05% of average loans (ex-PPP), compared with net charge-offs of $8 million, or 0.07% of average loans (ex-PPP), in the prior year quarter. Total customer-related noninterest income increased $18 million, or 14%, primarily due to improved card, retail and business banking, and wealth management activity. Total noninterest income decreased $27 million, or 16%, largely due to $17 million of negative mark-to-market adjustments during the quarter primarily relating to our Small Business Investment Company (“SBIC”) investment in Recursion Pharmaceuticals, Inc. Total noninterest expense increased $29 million, or 7%. The increase was largely driven by a $24 million increase in salaries and benefits expense, which was impacted by (1) inflationary and competitive labor market pressures on wages and (2) increases in incentive compensation accruals arising from improvements in anticipated full-year profitability. Our efficiency ratio was 65.8%, compared with 63.5% for the first quarter of 2021. The growth in average interest-earning assets was driven by a $9.4 billion increase in average available-for-sale (“AFS”) investment securities and a $1.2 billion increase in average money market investments. Over the past year, we actively deployed excess liquidity into medium-duration assets, as we sought to balance competing objectives of increasing current income, maintaining asset sensitivity to benefit from rising rates, and maintaining sufficient liquidity for loan growth and changes in deposit trends. Excluding Paycheck Protection Program (“PPP”) loans, total loans and leases increased $3.2 billion, or 7%, to $50.2 billion. The increases were primarily in the commercial and industrial, commercial owner-occupied, municipal, and home equity credit line portfolios. Total loans and leases decreased $2.2 billion, or 4%, from the prior year quarter, primarily due to the forgiveness of PPP loans and a decline in 1-4 family residential mortgage loans. Total deposits increased $8.5 billion, or 12%, from the prior year quarter, primarily due to a $6.1 billion increase in noninterest-bearing deposits. 7 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION First Quarter 2022 Financial Performance Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency Ratio Net earnings applicable to common shareholders decreased from the first quarter of 2021. The prior year quarter benefited from a negative $132 million provision for credit losses, compared with negative $33 million in the first quarter of 2022. Diluted earnings per share declined from the first quarter of 2021 as a result of decreased net earnings, the effect of which was partially offset by a 12.2 million decrease in average diluted shares, primarily due to share repurchases. Adjusted PPNR decreased $12 million from the first quarter of 2021, primarily due to the increase in adjusted noninterest expense, driven by increases in salaries and benefits expense, partially offset by increases in customer-related fee income. The efficiency ratio increased from the prior year quarter, primarily as growth in adjusted noninterest expense due to the increase in salaries and benefits expense exceeded growth in adjusted revenue. Net Interest Income and Net Interest Margin Net interest income is the difference between interest earned on interest-earning assets and interest paid on interest-bearing liabilities, and was approximately 79% of our net revenue (net interest income plus noninterest income) for the quarter. The net interest margin is derived from both the amount of interest-earning assets and interest-bearing liabilities and their respective yields and rates. NET INTEREST INCOME AND NET INTEREST MARGIN Three Months Ended March 31, Amount change Percent change (Dollar amounts in millions) 2022 2021 Interest and fees on loans $ 437 $ 488 $ (51) (10) % Interest on money market investments 6 3 3 NM Interest on securities 112 71 41 58 Total interest income 555 562 (7) (1) Interest on deposits 6 9 (3) (33) Interest on short- and long-term borrowings 5 8 (3) (38) Total interest expense 11 17 (6) (35) Net interest income $ 544 $ 545 $ (1) — % Average interest-earning assets $ 86,093 $ 78,294 $ 7,799 10 % Average interest-bearing liabilities $ 42,136 $ 40,157 $ 1,979 5 % bps Yield on interest-earning assets 1 2.65 % 2.95 % (30) Rate paid on total deposits and interest-bearing liabilities 1 0.06 % 0.09 % (3) Cost of total deposits 1 0.03 % 0.05 % (2) Net interest margin 1 2.60 % 2.86 % (26) 1 Rates are calculated using amounts in thousands; taxable-equivalent rates are used where applicable. 8 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Net interest income remained relatively stable at $544 million during the first quarter of 2022, as significant growth in average interest-earning assets was partially offset by NIM compression arising from an increased concentration in cash and securities and the low interest rate environment. Average interest-earning assets increased $7.8 billion, or 10%, driven by growth of $9.4 billion in AFS securities, $2.3 billion in commercial loans (ex-PPP), and $1.2 billion in money market investments. These increases were partially offset by a $4.7 billion decline in average PPP loans. Average securities increased to 30% of average interest-earning assets, compared with 21%, as we actively deployed excess liquidity into medium duration assets. The NIM was 2.60%, compared with 2.86%. The yield on average interest-earning assets was 2.65% in the first quarter of 2022, a decrease of 30 basis points (“bps”), primarily due to a decrease in the yield on loans. The average rate paid on interest-bearing liabilities decreased 6 bps to 0.11%. Average loans and leases (ex-PPP) increased $1.9 billion, or 4%, primarily in the commercial and industrial loan portfolio. Total average loans and leases decreased $2.8 billion, or 5%, from $53.7 billion in the first quarter of 2021, primarily due to the forgiveness of PPP loans and a decrease in 1-4 family residential mortgage loans. The decline in our mortgage loan portfolio is partly due to refinancing activity. We generally originate residential mortgage loans and sell them to government-sponsored entities as part of our interest rate risk management efforts to limit our balance sheet exposure to long-term assets. The yield on total loans decreased 21 basis points to 3.52%. The yield on non-PPP loans decreased 26 basis points, primarily driven by (1) lower yields on loans originated during the past year, compared with yields on loans maturing and amortizing during the same period, and (2) promotional rates on commercial owner-occupied loans and home equity credit lines. During the first quarter of 2022 and 2021, PPP loans totaling $0.8 billion and $1.6 billion, respectively, were forgiven by the Small Business Administration (“SBA”). PPP loans contributed $24 million and $60 million in interest income during the same time periods. The yield on these loans was 6.64% and 3.98% for the first quarter of 2022 and 2021, respectively, and was positively impacted by accelerated amortization of deferred fees on paid off or forgiven PPP loans. At March 31, 2022 and 2021, the remaining unamortized net deferred fees on these loans totaled $24 million and $168 million, respectively. Average total deposits increased $10.2 billion to $81.6 billion at an average cost of 0.03%, from $71.4 billion at an average cost of 0.05% in the first quarter of 2021. Average interest-bearing liabilities increased $2.0 billion, or 5%. 9 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The rate paid on total deposits and interest-bearing liabilities was 0.06%, a decrease from 0.09% during the first quarter of 2021, which was primarily due to low interest-bearing deposit rates and strong noninterest-bearing deposit growth. Average AFS securities balances increased $9.3 billion, or 59%, from $15.9 billion, mainly due to an increase in our mortgage-backed securities portfolio. The yield on securities remained relatively stable at 1.78%. Average borrowed funds decreased $1.0 billion, or 42%, from $2.4 billion, with both average short-term borrowings and average long-term borrowings decreasing $0.5 billion. The average rate paid on short-term borrowings remained stable at 0.08%, while the rate paid on long-term debt increased 36 bps from the prior year quarter, primarily due to lower-yielding senior debt that was redeemed or matured over the past few quarters. The decrease in overall borrowed funds continues to reflect strong deposit growth. For further discussion of the effects of market rates on net interest income and how we manage interest rate risk, refer to the “Interest Rate and Market Risk Management” section on page 27. For more information on how we manage liquidity risk, refer to the “Liquidity Risk Management” section on page 31. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 10 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED AVERAGE BALANCE SHEETS, YIELDS AND RATES (Unaudited) Three Months Ended March 31, 2022 Three Months Ended March 31, 2021 (Dollar amounts in millions) Average balance Amount of interest Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 6,735 $ 3 0.19 % $ 4,592 $ 1 0.11 % Federal funds sold and security resell agreements 2,300 3 0.52 3,199 2 0.24 Total money market investments 9,035 6 0.27 7,791 3 0.16 Securiti Held-to-maturity 438 3 3.12 663 5 2.98 Available-for-sale 25,246 106 1.71 15,876 66 1.69 Trading account 384 5 4.76 231 2 3.96 Total securities 2 26,068 114 1.78 16,770 73 1.77 Loans held for sale 57 — 1.92 68 — 2.81 Loans and leases 3 Commercial - excluding PPP loans 27,037 236 3.54 24,732 234 3.83 Commercial - PPP loans 1,459 24 6.64 6,135 60 3.98 Commercial real estate 12,171 101 3.37 12,133 105 3.50 Consumer 10,266 82 3.23 10,665 95 3.59 Total loans and leases 50,933 443 3.52 53,665 494 3.73 Total interest-earning assets 86,093 563 2.65 78,294 570 2.95 Cash and due from banks 625 614 Allowance for credit losses on loans and debt securities (515) (774) Goodwill and intangibles 1,015 1,016 Other assets 4,211 3,930 Total assets $ 91,429 $ 83,080 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 39,132 $ 5 0.05 % $ 35,232 $ 6 0.07 % Time 1,587 1 0.26 2,491 3 0.55 Total interest-bearing deposits 40,719 6 0.06 37,723 9 0.10 Borrowed funds: Federal funds purchased and other short-term borrowings 594 — 0.08 1,110 — 0.07 Long-term debt 823 5 2.66 1,324 8 2.30 Total borrowed funds 1,417 5 1.58 2,434 8 1.28 Total interest-bearing liabilities 42,136 11 0.11 40,157 17 0.17 Noninterest-bearing demand deposits 40,886 33,723 Other liabilities 1,267 1,301 Total liabilities 84,289 75,181 Shareholders’ equity: Preferred equity 440 566 Common equity 6,700 7,333 Total shareholders’ equity 7,140 7,899 Total liabilities and shareholders’ equity $ 91,429 $ 83,080 Spread on average interest-bearing funds 2.54 % 2.78 % Net impact of noninterest-bearing sources of funds 0.06 % 0.08 % Net interest margin $ 552 2.60 % $ 553 2.86 % Me total loans and leases, excluding PPP loans $ 49,474 419 3.43 % $ 47,530 434 3.69 % Me total cost of deposits 0.03 % 0.05 % Me total deposits and interest-bearing liabilities 83,022 11 0.06 % 73,880 17 0.09 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. The taxable-equivalent rates used are the rates that were applicable at the time of each respective reporting period. 2 Interest on total securities includes $28 million and $30 million of taxable-equivalent premium amortization for the first quarters of 2022 and 2021, respectively. 3 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 11 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans. The provision for credit losses, which is the combination of both the provision for loan and lease losses and the provision for unfunded lending commitments, was negative $33 million, compared with negative $132 million in the first quarter of 2021. The ACL was $514 million at March 31, 2022, compared with $695 million at March 31, 2021. The ratio of ACL to net loans and leases (ex-PPP) was 1.02% and 1.48% at March 31, 2022 and 2021, respectively. The provision for securities losses was less than $1 million during the first quarter of 2022 and 2021. 12 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The total ACL was $514 million at March 31, 2022, compared with $695 million at March 31, 2021. The bar chart above illustrates the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic forecasts and current economic conditions, which decreased the ACL by $141 million from the prior year quarter due to improvements in both realized economic results and forecasts, partially offset by economic uncertainty caused by inflation, supply chain disruptions, and the conflict in Eastern Europe. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, decreased the ACL by $16 million, indicating improvements in credit quality. Net charge-offs were $6 million, or 0.05% annualized of average loans (ex-PPP), in the first quarter of 2022, compared with net charge-offs of $8 million, or 0.07% annualized of average loans (ex-PPP), in the prior year quarter. The fourth bar represents loan portfolio changes, driven by changes in portfolio mix, the aging of the portfolio, and other risk factors; all of which resulted in a $24 million reduction in the ACL. See “Credit Risk Management” on page 20 and Note 6 of the Notes to Consolidated Financial Statements in our 2021 Form 10-K for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue we earn from products and services that generally have no associated interest rate or yield and is classified as either customer-related or noncustomer-related. Customer-related noninterest income excludes items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income decreased $27 million, or 16%, from $169 million during the prior year quarter. Noninterest income accounted for 21% and 24% of net revenue during the first quarter of 2022 and 2021, respectively. The following schedule presents a comparison of the major components of noninterest income. 13 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION NONINTEREST INCOME Three Months Ended March 31, Amount change Percent change (Dollar amounts in millions) 2022 2021 Commercial account fees $ 41 $ 32 $ 9 28 % Card fees 25 21 4 19 Retail and business banking fees 20 17 3 18 Loan-related fees and income 22 25 (3) (12) Capital markets and foreign exchange fees 15 15 — — Wealth management fees 14 12 2 17 Other customer-related fees 14 11 3 27 Customer-related noninterest income 151 133 18 14 Fair value and nonhedge derivative income 6 18 (12) (67) Dividends and other income 2 7 (5) (71) Securities gains (losses), net (17) 11 (28) NM Noncustomer-related noninterest income (9) 36 (45) NM Total noninterest income $ 142 $ 169 $ (27) (16) % Customer-related Total customer-related noninterest income increased $18 million, or 14%, mainly due to increased card, retail and business banking, and wealth management activity, partially offset by a decrease in loan-related fees and income. Results for the first quarter of 2022 benefited from a one-time adjustment of approximately $6 million in commercial account fees. Retail and business banking fees include overdraft and non-sufficient funds fees. Beginning in the third quarter of 2022, we expect to reduce the rate and frequency with which such fees are assessed, specifically to consumer accounts. Relative to current activity levels, we expect this will reduce our customer-related noninterest income by approximately $5 million per quarter. Noncustomer-related Total noncustomer-related noninterest income decreased $45 million, relative to the prior year quarter. Net securities gains and losses decreased $28 million, due to $17 million of negative mark-to-market adjustments primarily related to our SBIC investment in Recursion Pharmaceuticals, Inc., and an $11 million gain on the sale of Farmer Mac Class C stock recognized during the prior year period. Fair value and nonhedge derivative income decreased $12 million from the prior year period. We recognized a $6 million gain during the quarter related to a credit valuation adjustment (“CVA”) on client-related interest rate swaps, compared with an $18 million CVA gain in the prior year period. The CVA may fluctuate from period-to-period based on the credit quality of our clients and changes in interest rates, which impacts the value of, and our credit exposure to, the client-related interest rate swaps. Noninterest Expense During the first quarter of 2022, we made certain financial reporting reclassifications to noninterest expense in our Consolidated Statements of Income, primarily to improve the presentation and disclosure of certain expenses related to our ongoing technology initiatives and investments and to provide a more relevant presentation of our business and operations. Other expense line items were also impacted by these reclassifications, which were adopted retrospectively to January 1, 2020. 14 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents a comparison of the major components of noninterest expense. NONINTEREST EXPENSE Three Months Ended March 31, Amount change Percent change (Dollar amounts in millions) 2022 2021 Salaries and employee benefits $ 312 $ 288 $ 24 8 % Technology, telecom, and information processing 52 49 3 6 Occupancy and equipment, net 38 39 (1) (3) Professional and legal services 14 21 (7) (33) Marketing and business development 8 7 1 14 Deposit insurance and regulatory expense 10 10 — — Credit-related expense 7 6 1 17 Other real estate expense, net 1 — 1 NM Other 22 15 7 47 Total noninterest expense $ 464 $ 435 $ 29 7 % Adjusted noninterest expense 1 $ 464 $ 440 $ 24 5 % 1 For information on non-GAAP financial measures, see “GAAP to Non-GAAP Reconciliations” on page 4. Total noninterest expense increased $29 million, or 7%, relative to the prior year quarter. Salaries and benefits expense increased $24 million, or 8%, due to (1) the impact of inflationary and competitive labor market pressures on wages, (2) increases in commissions, (3) increases in incentive compensation accruals arising from improvements in anticipated full-year profitability, and (4) declines in deferred salaries primarily associated with PPP loans originated in the prior year period. Other noninterest expense increased $7 million, or 47%, primarily due to lower expenses in the prior year period, which benefited from a $5 million valuation adjustment related to the termination of our defined benefit pension plan. Professional and legal services expense decreased $7 million, or 33%, due to third-party assistance associated with PPP loan forgiveness as well as various technology-related and other outsourced services incurred in the prior year period. Adjusted noninterest expense increased $24 million, or 5%, to $464 million, compared with $440 million for the prior year period, driven primarily by the increase in salaries and benefits expense described previously. The efficiency ratio was 65.8%, compared with 63.5%. Given the seasonality associated with employee benefits, the efficiency ratio is generally elevated in the first quarter of the year. This effect was more pronounced in the first quarter of 2022 due to the aforementioned increases in incentive compensation accruals arising from improvements in anticipated full-year profitability. For information on non-GAAP financial measures, including differences between noninterest expense and adjusted noninterest expense, see page 4. Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods present INCOME TAXES Three Months Ended March 31, (Dollar amounts in millions) 2022 2021 Income before income taxes $ 255 $ 411 Income tax expense 52 89 Effective tax rate 20.4 % 21.7 % See Note 12 of the Notes to Consolidated Financial Statements for more information about the factors that influenced the income tax rates as well as information about deferred income tax assets and liabilities. 15 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Preferred Stock Dividends Preferred stock dividends totaled $8 million for both the first quarter of 2022 and 2021. Technology Spend As the banking industry continues to move toward information technology-based products and services, we recognize there are disparate ways of discussing expenditures associated with technology-related investments and operations. We generally describe these expenditures as total technology spend, which includes current period expenses reported on our consolidated statement of income, and capitalized investments, net of related amortization and depreciation, reported on our consolidated balance sheet. We believe these disclosures provide more relevant presentation and discussion regarding our technology-related investments and operations. The following schedule provides information related to our technology spen TECHNOLOGY SPEND Three Months Ended March 31, (In millions) 2022 2021 Technology, telecom, and information processing expense $ 52 $ 49 Other technology-related expenses 49 44 Technology investments 22 28 L related amortization and depreciation (14) (13) Total technology spend $ 109 $ 108 Total technology spend represents expenditures for technology systems and infrastructure and is reported as a combination of the followin • Technology, telecom, and information processing expense — includes expenses related to application software licensing and maintenance, related amortization, telecommunications, and data processing; • Other technology-related expenses — includes related noncapitalized salaries and employee benefits, occupancy and equipment, and professional and legal services; and • Technology investments — includes capitalized technology infrastructure equipment, hardware, and purchased or internally developed software, less related amortization or depreciation. BALANCE SHEET ANALYSIS Interest-Earning Assets Interest-earning assets are assets that have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see the Consolidated Average Balance Sheet on page 11. Investment Securities Portfolio We invest in securities to generate interest income and to actively manage liquidity, interest rate, and credit risk. Refer to the “Liquidity Risk Management” section on page 31 for additional information about how we manage our liquidity risk. See Note 3 and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. 16 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents the components of our investment securities portfolio. INVESTMENT SECURITIES PORTFOLIO March 31, 2022 December 31, 2021 (In millions) Par value Amortized cost Estimated fair value Par value Amortized cost Estimated fair value Held-to-maturity Municipal securities $ 438 $ 439 $ 414 $ 441 $ 441 $ 443 Available-for-sale U.S. Treasury securities 555 557 503 155 155 134 U.S. Government agencies and corporatio Agency securities 802 802 792 833 833 845 Agency guaranteed mortgage-backed securities 23,441 23,626 22,082 20,340 20,549 20,387 Small Business Administration loan-backed securities 884 950 925 867 938 912 Municipal securities 1,645 1,828 1,768 1,489 1,652 1,694 Other debt securities 75 75 75 75 75 76 Total available-for-sale 27,402 27,838 26,145 23,759 24,202 24,048 Total HTM and AFS investment securities $ 27,840 $ 28,277 $ 26,559 $ 24,200 $ 24,643 $ 24,491 The amortized cost of total held-to-maturity (“HTM”) and AFS investment securities increased $3.6 billion, or 15%, from December 31, 2021. Approximately 9% and 11% of the total HTM and AFS investment securities portfolio were floating rate at March 31, 2022 and December 31, 2021, respectively. The investment securities portfolio includes $437 million of net premium that is distributed across various asset classes. Total premium amortization for our investment securities was $26 million for the first quarter of 2022, compared with $28 million for the same prior year period. Refer to the “Capital Management” section on page 32 and Note 5 of the Notes to Consolidated Financial Statements for more discussion on our investment securities portfolio and related unrealized gains/losses. At March 31, 2022, based on the GAAP fair value hierarchy, 1.9% and 98.1% of the $26.1 billion AFS securities portfolio was valued at Level 1 and Level 2, respectively, compared with 0.6% and 99.4% at December 31, 2021. None of the AFS securities portfolio was valued at Level 3 for either period. See Note 3 of the Notes to Consolidated Financial Statements for further discussion of fair value accounting. Municipalities We provide products and services to state and local governments (referred to collectively as “municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. The following schedule summarizes our exposure to state and local municipaliti EXPOSURE TO MUNICIPALITIES (In millions) March 31, 2022 December 31, 2021 Loans and leases $ 3,944 $ 3,658 Held-to-maturity – municipal securities 439 441 Available-for-sale – municipal securities 1,768 1,694 Trading account – municipal securities 364 355 Unfunded lending commitments 341 280 Total direct exposure to municipalities $ 6,856 $ 6,428 The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. Our municipal loans and securities primarily relate to municipalities located within our geographic footprint. 17 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION At March 31, 2022, no municipal loans were on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At March 31, 2022, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. Loan and Lease Portfolio At March 31, 2022 and December 31, 2021, the ratio of loans and leases to total assets was 56% and 55%, respectively. The largest loan category was commercial and industrial loans, which constituted 28% and 27% of our total loan portfolio for the same periods. The following schedule presents our loans and leases according to major portfolio segment, specific loan class, and percentage of total loa LOAN AND LEASE PORTFOLIO March 31, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 14,356 28.0 % $ 13,867 27.3 % PPP 1,081 2.1 1,855 3.6 Leasing 318 0.6 327 0.6 Owner-occupied 9,026 17.6 8,733 17.2 Municipal 3,944 7.7 3,658 7.2 Total commercial 28,725 56.0 28,440 55.9 Commercial real estate: Construction and land development 2,769 5.4 2,757 5.4 Term 9,325 18.2 9,441 18.6 Total commercial real estate 12,094 23.6 12,198 24.0 Consume Home equity credit line 3,089 6.0 3,016 5.9 1-4 family residential 6,122 12.0 6,050 11.9 Construction and other consumer real estate 692 1.4 638 1.3 Bankcard and other revolving plans 410 0.8 396 0.8 Other 110 0.2 113 0.2 Total consumer 10,423 20.4 10,213 20.1 Total net loans and leases $ 51,242 100.0 % $ 50,851 100.0 % The loan and lease portfolio increased $391 million from December 31, 2021. Excluding PPP loans, commercial loans increased $1.1 billion, or 4%, driven largely by increases in commercial and industrial loans, owner-occupied loans, and municipal loans of $489 million, $293 million, and $286 million, respectively. Consumer loans increased $210 million, primarily due to increases in home equity credit lines, 1-4 family residential loans, and construction and other consumer real estate loans. 18 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Other Noninterest-Bearing Investments Other noninterest-bearing investments are equity investments that are held primarily for capital appreciation, dividends, or for certain regulatory requirements. The following schedule summarizes our related investments: OTHER NONINTEREST-BEARING INVESTMENTS (Dollar amounts in millions) March 31, 2022 December 31, 2021 Amount change Percent change Bank-owned life insurance $ 538 $ 537 $ 1 — % Federal Home Loan Bank stock 11 11 — — Federal Reserve stock 71 81 (10) (12) Farmer Mac stock 19 19 — — SBIC investments 165 179 (14) (8) Other 25 24 1 4 Total other noninterest-bearing investments $ 829 $ 851 $ (22) (3) % Total other noninterest-bearing investments decreased $22 million, or 3%, during the first three months of 2022, primarily due to a $14 million decrease in the value of our SBIC investments. This decrease was driven largely by $17 million of negative mark-to-market adjustments primarily related to our investment in Recursion Pharmaceuticals, Inc. Premises, Equipment, and Software Net premises, equipment, and software increased $27 million, or 2%, from December 31, 2021, primarily due to capitalized costs related to the construction of a new corporate technology center in Midvale, Utah and a new corporate center for Vectra in Denver, Colorado. Both facilities are expected to be completed in mid- to late-2022. We are also in the final phase of a three-phase project to replace our core loan and deposit banking systems, and are on track to convert our deposit servicing system in 2023. Capitalized costs associated with the core system replacement project generally carry a useful life of ten years, and are summarized in the following schedule. CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT March 31, 2022 (In millions) Phase 1 Phase 2 Phase 3 Total Total amount of capitalized costs, less accumulated depreciation $ 36 $ 62 $ 166 $ 264 Deposits Deposits are a primary funding source. The following schedule presents our deposits by category and percentage of total deposits: DEPOSITS March 31, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Noninterest-bearing demand $ 41,937 50.9 % $ 41,053 49.6 % Interest-bearin Savings and money market 38,864 47.2 40,114 48.4 Time 1,550 1.9 1,622 2.0 Total deposits $ 82,351 100.0 % $ 82,789 100.0 % Total deposits decreased $0.4 billion, or 1%, from December 31, 2021, primarily due to a $1.3 billion decrease in interest-bearing deposits, partially offset by a $0.9 billion increase in noninterest-bearing deposits. Total deposits included $377 million and $381 million of brokered deposits for March 31, 2022 and December 31, 2021, 19 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION respectively. See “Liquidity Risk Management” on page 31 for additional information on funding and borrowed funds. Total U.S. time deposits that exceed the current Federal Deposit Insurance Corporation (“FDIC”) insurance limit of $250,000 were $526 million and $563 million at March 31, 2022 and December 31, 2021, respectively. The estimated total amount of uninsured deposits, including related interest accrued and unpaid, was $48 billion and $49 billion at March 31, 2022 and December 31, 2021, respectively. RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We employ various strategies to reduce the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cyber risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by the various management committees of which the Enterprise Risk Management Committee is the focal point. For a more comprehensive discussion of these risks, see “Risk Factors” in our 2021 Form 10-K. Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. For a more comprehensive discussion of our credit risk management, see “Credit Risk Management” in our 2021 Form 10-K. U.S. Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by U.S. government agencies, such as the SBA, Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At March 31, 2022, $1.5 billion of related loans were guaranteed, primarily by the SBA, and include $1.1 billion of PPP loans. The following schedule presents the composition of U.S. government agency guaranteed loans. U.S. GOVERNMENT AGENCY GUARANTEED LOANS (Dollar amounts in millions) March 31, 2022 Percent guaranteed December 31, 2021 Percent guaranteed Commercial $ 1,630 92 % $ 2,410 95 % Commercial real estate 22 73 22 73 Consumer 4 100 5 100 Total loans $ 1,656 92 % $ 2,437 94 % 20 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. COMMERCIAL LENDING BY INDUSTRY GROUP 1 March 31, 2022 December 31, 2021 (Dollar amounts in millions) Amount Percent Amount Percent Retail trade $ 2,604 9.1 % $ 2,412 8.5 % Real estate, rental and leasing 2,550 8.9 2,536 8.9 Finance and insurance 2,407 8.4 2,303 8.1 Manufacturing 2,369 8.2 2,374 8.3 Healthcare and social assistance 2,362 8.2 2,349 8.2 Public Administration 2,203 7.7 1,959 6.9 Wholesale trade 1,777 6.2 1,701 6.0 Utilities 2 1,462 5.1 1,446 5.1 Construction 1,404 4.9 1,456 5.1 Hospitality and food services 1,262 4.4 1,353 4.8 Transportation and warehousing 1,229 4.3 1,273 4.5 Other Services (except Public Administration) 1,190 4.1 1,213 4.2 Educational services 1,155 4.0 1,163 4.1 Mining, quarrying, and oil and gas extraction 1,141 4.0 1,185 4.2 Professional, scientific, and technical services 1,059 3.7 1,084 3.8 Other 3 2,551 8.8 2,633 9.3 Total $ 28,725 100.0 % $ 28,440 100.0 % 1 Industry groups are determined by North American Industry Classification System (NAICS) codes. 2 Includes primarily utilities, power, and renewable energy. 3 No other industry group exceeds 2.6%. 21 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Commercial Real Estate Loans The following schedule presents credit quality information for our commercial real estate (“CRE”) loan portfolio segmented by real estate category and collateral location. COMMERCIAL REAL ESTATE PORTFOLIO BY LOAN TYPE AND COLLATERAL LOCATION (Dollar amounts in millions) Collateral Location Loan type As of date Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total % of total CRE Commercial term Balance outstanding 3/31/2022 $ 1,109 $ 3,069 $ 479 $ 675 $ 1,601 $ 1,544 $ 492 $ 356 $ 9,325 77.1 % % of loan type 11.9 % 32.9 % 5.1 % 7.2 % 17.2 % 16.6 % 5.3 % 3.8 % 100.0 % Delinquency rates 2 : 30-89 days 3/31/2022 — % — % — % — % — % — % — % — % — % 12/31/2021 — % 0.2 % 0.2 % — % — % 0.1 % — % — % 0.1 % ≥ 90 days 3/31/2022 — % — % — % — % 0.2 % — % — % 0.3 % — % 12/31/2021 — % 0.1 % — % — % 0.2 % — % — % — % 0.1 % Accruing loans past due 90 days or more 3/31/2022 $ — $ — $ — $ — $ — $ — $ — $ 1 $ 1 12/31/2021 — — — — — — — — — Nonaccrual loans 3/31/2022 $ — $ 4 $ — $ — $ 16 $ — $ — $ — $ 20 12/31/2021 — 3 — — 17 — — — 20 Commercial construction and land development Balance outstanding 3/31/2022 $ 224 $ 456 $ 108 $ 119 $ 463 $ 518 $ 174 $ 42 $ 2,104 17.4 % % of loan type 10.7 % 21.7 % 5.2 % 5.7 % 21.9 % 24.6 % 8.3 % 1.9 % 100.0 % Delinquency rates 2 : 30-89 days 3/31/2022 — % 0.2 % — % — % — % — % — % — % — % 12/31/2021 — % — % — % — % — % — % 13.2 % — % 0.9 % Residential construction and land development 3 Balance outstanding 3/31/2022 $ 55 $ 146 $ 34 $ 3 $ 199 $ 181 $ 9 $ 38 $ 665 5.5 % % of loan type 8.3 % 21.9 % 5.2 % 0.4 % 30.0 % 27.2 % 1.3 % 5.7 % 100.0 % Total construction and land development 3/31/2022 $ 279 $ 602 $ 142 $ 122 $ 662 $ 699 $ 183 $ 80 $ 2,769 Total commercial real estate 3/31/2022 $ 1,388 $ 3,671 $ 621 $ 797 $ 2,263 $ 2,243 $ 675 $ 436 $ 12,094 100.0 % 1 No other geography exceeds $62 million for all three loan types. 2 Delinquency rates include nonaccrual loans. 3 At March 31, 2022 and December 31, 2021, there was no meaningful delinquency or nonaccrual activity for residential construction and land development loans. At March 31, 2022, our CRE construction and land development and term loan portfolios represented approximately 24% of the total loan portfolio. The majority of our CRE loans are secured by real estate, which is primarily located within our geographic footprint. Approximately 21% of the CRE loan portfolio matures in the next 12 months. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with one- to five-year extension options or roll-to-perm options that often result in term debt. Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and non-recourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. Approximately $176 million, or 6%, of the commercial construction and land development portfolio at March 31, 2022 consists of acquisition and development loans. Most of these land acquisition and development loans are secured by specific retail, apartment, office, or other projects. For a more comprehensive discussion of CRE loans, see the “Commercial Real Estate Loans” section in our 2021 Form 10-K. 22 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Consumer Loans We generally originate first-lien residential home mortgages considered to be of prime quality. We generally hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. We also originate home equity credit lines (“HECL”). At March 31, 2022 and December 31, 2021, our HECL portfolio totaled $3.1 billion and $3.0 billion, respectively. The following schedule presents the composition of our HECL portfolio by lien status. HECL PORTFOLIO BY LIEN STATUS (In millions) March 31, 2022 December 31, 2021 Secured by first liens $ 1,497 $ 1,503 Secured by second (or junior) liens 1,592 1,513 Total $ 3,089 $ 3,016 At March 31, 2022, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with high credit scores. Approximately 91% of our HECL portfolio is still in the draw period, and approximately 18% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is minimal. The ratio of HECL net charge-offs for the trailing twelve months to average balances at March 31, 2022 and December 31, 2021 was 0.00% and (0.01)%, respectively. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of the HECL portfolio. Nonperforming Assets Nonperforming assets as a percentage of loans and leases and other real estate owned (“OREO”) decreased to 0.49% at March 31, 2022, compared with 0.53% at December 31, 2021. Total nonaccrual loans at March 31, 2022 decreased to $252 million from $271 million at December 31, 2021, reflecting credit quality improvements across most of our loan portfolios. The balance of nonaccrual loans can decrease due to paydowns, charge-offs, and the return of loans to accrual status under certain conditions. If a nonaccrual loan is refinanced or restructured, the new note is immediately placed on nonaccrual. If a restructured loan performs under the new terms for at least a period of six months, the loan can be considered for return to accrual status. See “Restructured Loans” and Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. 23 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents our nonperforming assets: NONPERFORMING ASSETS (Dollar amounts in millions) March 31, 2022 December 31, 2021 Nonaccrual loans 1 $ 252 $ 271 Other real estate owned 2 — 1 Total nonperforming assets $ 252 $ 272 Ratio of nonperforming assets to net loans and leases 1 and other real estate owned 2 0.49 % 0.53 % Accruing loans past due 90 days or more $ 3 $ 8 Ratio of accruing loans past due 90 days or more to loans and leases 1 0.01 % 0.02 % Nonaccrual loans and accruing loans past due 90 days or more $ 255 $ 279 Ratio of nonperforming assets 1 and accruing loans past due 90 days or more to loans and leases 1 and other real estate owned 2 0.50 % 0.55 % Accruing loans past due 30-89 days 3 $ 93 $ 70 Nonaccrual loans 1 current as to principal and interest payments 70.2 % 67.2 % 1 Includes loans held for sale. 2 Does not include banking premises held for sale. 3 Includes $26 million and $35 million of PPP loans at March 31, 2022 and December 31, 2021, respectively, which we expect will be paid in full by either the borrower or the SBA. Troubled Debt Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are classified as troubled debt restructurings (“TDRs”). TDRs totaled $316 million at March 31, 2022, compared with $326 million at December 31, 2021. Modifications that qualified for applicable accounting and regulatory exemption for borrowers experiencing financial difficulties exclusively related to the COVID-19 pandemic were not classified and reported as TDRs. If the restructured loan performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the restructuring is taken into account to determine whether a loan should be returned to accrual status. ACCRUING AND NONACCRUING TROUBLED DEBT RESTRUCTURED LOANS (In millions) March 31, 2022 December 31, 2021 Restructured loans – accruing $ 216 $ 221 Restructured loans – nonaccruing 100 105 Total $ 316 $ 326 In the periods following the calendar year in which a loan was restructured, a loan may no longer be reported as a TDR if it is on accrual, is in compliance with its modified terms, and yields a market rate (as determined and documented at the time of the modification or restructure). See Note 6 of the Notes to Consolidated Financial Statements for additional information regarding TDRs. 24 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION TROUBLED DEBT RESTRUCTURED LOANS ROLLFORWARD Three Months Ended March 31, (In millions) 2022 2021 Balance at beginning of period $ 326 $ 311 New identified TDRs and principal increases 12 120 Payments and payoffs (20) (14) Charge-offs (1) (2) No longer reported as TDRs — — Sales and other (1) (1) Balance at end of period $ 316 $ 414 Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. 25 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule shows the changes in the ACL and a summary of credit loss experien SUMMARY OF CREDIT LOSS EXPERIENCE (Dollar amounts in millions) Three Months Ended March 31, 2022 Twelve Months Ended December 31, 2021 Three Months Ended March 31, 2021 Loans and leases outstanding $ 51,242 $ 50,851 $ 53,472 Average loans and leases outstandin Commercial - excluding PPP loans 27,037 25,014 24,732 Commercial - PPP loans 1,459 4,566 6,135 Commercial real estate 12,171 12,136 12,133 Consumer 10,266 10,267 10,665 Total average loans and leases outstanding $ 50,933 $ 51,983 $ 53,665 Allowance for loan and lease loss Balance at beginning of period $ 513 $ 777 $ 777 Provision for loan losses (29) (258) (123) Charge-offs: Commercial 13 35 18 Commercial real estate — — — Consumer 4 13 3 Total 17 48 21 Recoveri Commercial 8 29 10 Commercial real estate — 3 — Consumer 3 10 3 Total 11 42 13 Net loan and lease charge-offs 6 6 8 Balance at end of period $ 478 $ 513 $ 646 Reserve for unfunded lending commitments: Balance at beginning of period $ 40 $ 58 $ 58 Provision for unfunded lending commitments (4) (18) (9) Balance at end of period $ 36 $ 40 $ 49 Total allowance for credit loss Allowance for loan and lease losses $ 478 $ 513 $ 646 Reserve for unfunded lending commitments 36 40 49 Total allowance for credit losses $ 514 $ 553 $ 695 Ratio of allowance for credit losses to net loans and leases, at period end 1 1.00 % 1.09 % 1.30 % Ratio of allowance for credit losses to nonaccrual loans, at period end 204 % 204 % 215 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, at period end 202 % 198 % 209 % Ratio of total net charge-offs to average loans and leases 2, 3 0.05 % 0.01 % 0.06 % Ratio of commercial net charge-offs to average commercial loans 3 0.07 % 0.02 % 0.10 % Ratio of commercial real estate net charge-offs to average commercial real estate loans 3 — % (0.02) % — % Ratio of consumer net charge-offs to average consumer loans 3 0.04 % 0.03 % — % 1 The ratio of allowance for credit losses to net loans and leases (excluding PPP loans) was 1.02% at March 31, 2022, 1.13% at December 31, 2021, and 1.48% at March 31, 2021. 2 The annualized ratio of net charge-offs to average loans and leases (excluding PPP loans) was 0.05% at March 31, 2022, 0.01% at December 31, 2021, and 0.07% at March 31, 2021. 3 Ratios are annualized for the periods presented except for the period representing the full twelve months. 26 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The total ACL decreased to $514 million during the first three months of 2022, primarily due to improvements in economic forecasts and overall credit quality, partially offset by economic uncertainty caused by inflation, supply chain disruptions, and the conflict in Eastern Europe. The RULC represents a reserve for potential losses associated with off-balance sheet commitments and standby letters of credit, and decreased $4 million during the first quarter of 2022. The reserve is separately recorded on the consolidated balance sheet in “Other liabilities,” and any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. As a financial institution that engages in transactions involving various financial products, we are exposed to both interest rate risk and market risk. For a more comprehensive discussion of our interest rate and market risk management, see “Interest Rate and Market Risk Management” in our 2021 Form 10-K. Interest Rate Risk Average total deposits increased $10.2 billion, or 14%, from March 31, 2021, and a significant portion of the deposits were invested in fixed-rate AFS securities, resulting in decreased asset sensitivity to rising rates. The lower asset sensitivity to rising rates is dependent upon the assumptions we used for deposit runoff and repricing behavior, which is more uncertain given the higher level of new deposits. We are less asset-sensitive to declining rates than rising rates due to the limited amount that the spread between the cost of deposits and the yield on money market investments could compress. The following schedule presents derivatives utilized in our asset-liability management activities that are designated in qualifying hedging relationships at March 31, 2022. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each category of cash flow and fair value hedge. See Note 7 of the Notes to Consolidated Financial Statements for additional information regarding the impact of these hedging relationships on interest income and expense. 27 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2022 2023 2024 2Q24 - 1Q25 2Q25 - 1Q26 (Dollar amounts in millions) Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Cash flow hedges Cash flow asset hedges 1 Average outstanding notional $ 3,378 $ 4,183 $ 4,916 $ 4,850 $ 4,683 $ 4,383 $ 4,383 $ 4,250 $ 3,604 $ 2,150 Weighted-average fixed-rate received 1.33 % 1.30 % 1.31 % 1.31 % 1.29 % 1.18 % 1.18 % 1.14 % 1.08 % 1.14 % 2022 4 2023 2024 2025 2026 2027 2028 2029 2030 2031 Fair value hedges Fair value debt hedges 2 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — Weighted-average fixed-rate received 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % — % — % Fair value asset hedges 3 Average outstanding notional $ 590 $ 589 $ 863 $ 978 $ 985 $ 983 $ 981 $ 978 $ 976 $ 972 Weighted-average fixed-rate paid 1.32 % 1.32 % 1.50 % 1.56 % 1.57 % 1.57 % 1.57 % 1.57 % 1.57 % 1.57 % 1 Cash flow hedges consist of receive-fixed swaps hedging pools of floating-rate loans. Increases in the average outstanding notional are due to forward-starting interest rate swaps. 2 Fair value debt hedges consist of receive-fixed swaps hedging fixed-rate debt. The $500 million fair value debt hedge matures at the end of July 2029. 3 Fair value assets hedges consist of pay-fixed swaps hedging AFS fixed-rate securities. Increases in average outstanding notional are due to forward-starting interest rate swaps. 4 Represents the remaining three quarters of 2022. Under most rising interest rate environments, we expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. Our models are particularly sensitive to the assumption about the rate of such migration. In addition, we assume a correlation, often referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-on-checking accounts are assumed to have a lower correlation. Actual results may differ materially due to factors including the shape of the yield curve, competitive pricing, money supply, our credit worthiness, and so forth; however, we use our historical experience as well as industry data to inform our assumptions. The migration and correlation assumptions previously discussed result in deposit durations presented in the following schedu DEPOSIT ASSUMPTIONS March 31, 2022 Product Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 2.8 % 2.9 % Money market 1.8 % 1.8 % Savings and interest-on-checking 2.6 % 2.4 % With interest rates forecast to rise more, the effective duration of deposits has shortened due to higher expected runoff and/or migration to more rate-sensitive deposit products. Incorporating the assumptions previously discussed, the following schedule presents earnings at risk (“EaR”), or percentage change in net interest income, and our estimated percentage change in economic value of equity 28 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION (“EVE”); both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY March 31, 2022 December 31, 2021 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Earnings at Risk (EaR) (4.8) % — % 7.9 % 15.9 % 23.7 % (5.2) % — % 11.2 % 22.7 % 33.6 % Economic Value of Equity (EVE) 8.7 % — % (3.4) % (5.5) % (7.0) % 20.9 % — % 0.8 % (0.5) % (1.2) % 1 Assumes rates cannot go below zero in the negative rate shift. For interest-bearing deposits with indeterminate maturity, the weighted average modeled beta is 26%. If the weighted average deposit beta were to increase to 37%, the EaR in the +100 bps rate shock would change from 7.9% to 6.0%. The asset sensitivity, as measured by EaR, decreased during the first quarter of 2022, primarily due to (1) an increase in fixed-rate investment securities and receive-fixed interest rate swaps, (2) model tuning, and (3) a higher level of “base-case” net interest income, which reduced the percentage change for the same modeled dollar change in net interest income. Our base-case net interest income simulation for the first quarter of 2023 indicates a 15% increase in net interest income, compared with the results for the first quarter of 2022 (ex-PPP). This base-case simulation assumes a static balance sheet and an unchanged interest rate curve at March 31, 2022. The modeled increase is notably larger than it was at December 31, 2021, primarily due to active balance sheet management during the first quarter of 2022, as well as a steeper yield curve at March 31, 2022, when compared with December 31, 2021. We disclose asset sensitivity to parallel rate shocks, but interest rates rarely change in a parallel fashion. During the first quarter of 2022, medium- to long-term rates moved significantly, whereas short-term rate movements were muted. Net interest income in the base-case simulation benefited from longer-term rate increases, and if short-term rates increase as implied by forward rates, we anticipate corresponding increases in net interest income from the base case. As described previously, the EaR analysis focuses on parallel rate shocks across the term structure of benchmark interest rates. In a non-parallel rate scenario where the overnight rate increases 200 bps, but the ten-year rate increases only 30 bps, the increase in EaR is modeled to be approximately two-thirds of the change associated with the parallel +200 bps rate change. In the -100 bps rate shock, our models indicate that EVE would increase because we cap the value of our indeterminate deposits at their par value, or equivalently, we assume no premium would be required to dispose of these liabilities because depositors could be repaid at par. Since our assets increase in value as rates fall, and the majority of our liabilities are indeterminate deposits, EVE would increase disproportionately. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At March 31, 2022, $23 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. Of these variable-rate loans, approximately 99% are tied to either the prime rate, London Interbank Offered Rate (“LIBOR”), Secured Overnight Financing Rate (“SOFR”), or American Interbank Offered Rate (“AMERIBOR”). For these variable-rate loans, we have executed $3.3 billion of cash flow hedges by receiving fixed rates on interest rate swaps. Additionally, asset sensitivity is reduced due to $5 billion of variable-rate commercial and CRE loans being priced at floored rates at March 31, 2022, which were above the “index plus spread” rate by an average of 42 bps. At March 31, 2022, we also had $3 billion of variable-rate consumer loans scheduled to reprice in the next six months, and approximately $1 billion were priced at floored 29 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION rates, which were above the “index plus spread” rate by an average of 29 bps. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. LIBOR Exposure LIBOR is being phased out globally, and U.S. banking regulators instructed banks to cease entering into new lending arrangements using LIBOR no later than December 31, 2021, and migrate to alternative reference rates no later than June 2023. To facilitate the transition process, we instituted an enterprise-wide program to identify, assess, and monitor risks associated with the expected discontinuance or unavailability of LIBOR, which includes active engagement with industry working groups and regulators. This program also includes active involvement of senior management with regular engagement from the Enterprise Risk Management Committee, and seeks to minimize client and internal business operational impacts, while providing reporting transparency, consistency, and a central governance model that aligns with accounting and regulatory guidance. We have implemented processes, procedures, and systems to ensure contract risk is sufficiently mitigated. New originations, and any modifications or renewals of LIBOR-based contracts, contain fallback language to facilitate transition to an alternative reference rate. For our contracts that referenced LIBOR and had a duration beyond December 31, 2021, all fallback provisions and variations were identified and classified based upon those provisions. By the end of 2021, we had discontinued substantially all new originations referencing LIBOR. We have a significant number of assets and liabilities that reference LIBOR. At March 31, 2022, we had approximately $30 billion in loans (mainly commercial loans), unfunded lending commitments, and securities referencing LIBOR. The amount of borrowed funds referencing LIBOR at March 31, 2022 was less than $1 billion. These amounts exclude derivative assets and liabilities on the consolidated balance sheet. At March 31, 2022, the notional amount of our LIBOR-referenced interest rate derivative contracts was more than $13 billion, of which more than $12 billion related to contracts with central counterparty clearinghouses. The adoption of alternative reference rates continues to evolve in the marketplace. We are positioned to support our customers’ needs by accommodating multiple alternative reference rates, including the Constant Maturity Treasury rate (“CMT”), the Federal Home Loan Bank (“FHLB”) rate, AMERIBOR, SOFR, and the Bloomberg Short Term Bank Yield Index (“BSBY”). During the first quarter of 2022, we began to prompt our customers to either voluntarily modify their contracts and migrate to a reference rate other than LIBOR no later than June 2023, or be subject to the fallback provisions in their contracts. Voluntary modifications are expected to qualify for the available Tax Safe-Harbor provisions as allowed by Internal Revenue Service (“IRS”) guidance. We expect that customers who voluntarily migrate to an alternative reference rate will do so by the end of this year, and we expect the remaining customers to move to an alternative rate index in accordance with the relevant fallback provisions in their contracts prior to June 2023. For more information on the transition from LIBOR, see Risk Factors in our 2021 Form 10-K. Market Risk – Fixed Income We underwrite municipal and corporate securities. We also trade municipal, agency, and treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. At March 31, 2022, we had $382 million of trading assets and $101 million of securities sold, not yet purchased, compared with $372 million and $254 million at December 31, 2021, respectively. We are exposed to market risk through changes in fair value. This includes market risk for interest rate swaps used to hedge interest rate risk. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in accumulated other comprehensive income (“AOCI”) for each financial reporting period. During the first quarter of 2022, the after-tax change in AOCI attributable to AFS securities decreased by $1.1 billion, due largely to changes in the interest rate environment, compared with a $164 million decrease in the prior year period. 30 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Market Risk – Equity Investments We hold both direct and indirect investments in predominantly pre-public companies, primarily through various SBIC venture capital funds as a strategy to provide beneficial financing, growth, and expansion opportunities to diverse businesses generally in communities within our geographic footprint. Our equity exposure to these investments was $165 million and $179 million at March 31, 2022 and December 31, 2021, respectively. On occasion, some of the companies within our SBIC investment may issue an initial public offering (“IPO”). In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce additional market risk. See Note 3 of our 2021 Form 10-K for additional information regarding the valuation of our SBIC investments. Liquidity Risk Management Overview Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as marketable loans and investment securities. For a more comprehensive discussion of our liquidity risk management, see “Liquidity Risk Management” in our 2021 Form 10-K. Strong deposit growth over the past year has contributed to a solid overall liquidity position. At March 31, 2022, our investment securities portfolio of $27.0 billion and cash and money market investments of $8.1 billion, collectively comprised 39% of total assets, compared with $24.9 billion of investment securities, and $13.0 billion of cash and money market investments, collectively comprising 41% of total assets at December 31, 2021. Given our investment securities portfolio is predominantly comprised of securities for which a strong repurchase market exists, we believe we can readily convert securities to cash to support loan growth through repurchase agreements rather than sales. Liquidity Management Actions During the first quarter of 2022, the primary sources of cash came from a significant decrease in money market investments, and net cash provided by operating activities. Uses of cash during the quarter included primarily an increase in investment securities, redemption of long-term debt, and a decrease in short-term borrowings. Cash payments for interest, reflected in operating expenses, were $11 million and $22 million for the first three months of 2022 and 2021, respectively. Total deposits were $82.4 billion at March 31, 2022, compared with $82.8 billion at December 31, 2021. The decrease in deposits was primarily due to a $1.3 billion decrease in savings and money market deposits, partially offset by a $0.9 billion increase in noninterest-bearing demand deposits. Our core deposits, consisting of noninterest-bearing demand deposits, savings and money market deposits, and time deposits under $250,000, were $81.5 billion at March 31, 2022, compared with $81.9 billion at December 31, 2021. At March 31, 2022, our loan to total deposit ratio remained relatively stable at 62%, compared with 61% at December 31, 2021. 31 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Our credit ratings are presented in the following schedu CREDIT RATINGS as of April 30, 2022: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Stable BBB+ BBB NR Fitch Stable BBB+ BBB F1 Moody's Stable Baa1 NR NR The FHLB system and Federal Reserve Banks have been, and continue to be, a significant source of back-up liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against their eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and Federal Reserve stock to maintain our borrowing capacity. At March 31, 2022, our total investment in FHLB and Federal Reserve stock was $11 million and $71 million, respectively, compared with $11 million and $81 million at December 31, 2021. The amount available for additional FHLB and Federal Reserve borrowings was $18.6 billion at March 31, 2022, compared with $18.3 billion at December 31, 2021. Loans with a carrying value of approximately $26.8 billion at both March 31, 2022 and December 31, 2021, were pledged at the FHLB and the Federal Reserve as collateral for potential borrowings. At both March 31, 2022 and December 31, 2021, we had no FHLB or Federal Reserve borrowings outstanding. Our AFS investment securities are primarily held as a source of contingent liquidity. We target securities that can be easily turned into cash through repurchase agreements or sales, and whose liquidity value remains relatively stable during market disruptions. We manage our short-term funding needs through secured borrowing with the securities pledged as collateral. During the first quarter of 2022, our AFS securities balances increased $2.1 billion. Total borrowed funds decreased $588 million during the first quarter of 2022, primarily due to the redemption of $290 million of the 4-year, 3.35% senior notes. The decrease in overall borrowed funds continues to reflect strong deposit growth. We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. Capital Management Overview A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. Our capital management objectives inclu (1) consistently improving risk-adjusted returns on our shareholders' capital and appropriately managing capital distributions, (2) maintaining sufficient capital to support the current needs and growth of our businesses, and (3) fulfilling responsibilities to depositors and bondholders. We continue to utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the Federal Reserve Board (“FRB”). The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as Board and Office of the Comptroller of the Currency (“OCC”) approval. Shares may be repurchased occasionally in the open market or through privately 32 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION negotiated transactions. For a more comprehensive discussion of our capital risk management, see “Capital Management” in our 2021 Form 10-K. SHAREHOLDERS' EQUITY (In millions, except share data) March 31, 2022 December 31, 2021 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 440 $ — — % Common stock and additional paid-in capital 1,889 1,928 (39) (2) Retained earnings 5,311 5,175 136 3 Accumulated other comprehensive income (loss) (1,346) (80) (1,266) NM Total shareholders' equity $ 6,294 $ 7,463 $ (1,169) (16) % Total shareholders’ equity decreased $1.2 billion, or 16%, to $6.3 billion at March 31, 2022, compared with $7.5 billion at December 31, 2021. Common stock and additional paid-in capital decreased $39 million, primarily due to common stock repurchases. AOCI decreased to a loss of $1.3 billion, primarily due to decreases in the fair value of fixed-rate AFS securities as a result of changes in interest rates. These unrealized losses will not be recognized unless we sell the securities. We have not initiated any sales of AFS securities, nor do we currently intend to sell any identified securities with unrealized losses. Additionally, changes in AOCI do not impact our regulatory capital ratios. Refer to Note 5 of the Notes to Consolidated Financial Statements for more discussion on our investment securities portfolio and their unrealized gains/losses. Weighted average diluted shares outstanding decreased 12.2 million from the same prior year period, primarily due to common stock repurchases. During the first quarter of 2022, we repurchased 0.8 million common shares outstanding for $50 million. In April 2022, the Board approved a plan to repurchase up to $50 million of common shares outstanding during the second quarter of 2022. CAPITAL DISTRIBUTIONS (In millions, except share data) March 31, 2022 March 31, 2021 Capital distributio Preferred dividends paid $ 8 $ 8 Bank preferred stock redeemed — — Total capital distributed to preferred shareholders 8 8 Common dividends paid 58 56 Bank common stock repurchased 1 51 50 Total capital distributed to common shareholders 109 106 Total capital distributed to preferred and common shareholders $ 117 $ 114 Weighted average diluted common shares outstanding (in thousands) 151,687 163,887 Common shares outstanding, at period end (in thousands) 151,348 163,800 1 Includes amounts related to the common shares acquired from our publicly announced plans and those acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. Under the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. At March 31, 2022, we had $1.3 billion of retained net profits available for distribution. 33 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION We paid common dividends of $58 million, or $0.38 per share, during the first quarter of 2022. In April 2022, the Board declared a regular quarterly dividend of $0.38 per common share, payable on May 26, 2022, to shareholders of record on May 19, 2022. We also paid dividends on preferred stock of $8 million during the first quarter of 2022. See Note 9 for additional information about our capital management actions. Basel III We are subject to Basel III capital requirements to maintain adequate levels of capital as measured by several regulatory capital ratios. At March 31, 2022, we met all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. The following schedule presents our capital and other performance ratios. CAPITAL RATIOS March 31, 2022 December 31, 2021 March 31, 2021 Tangible common equity ratio 1 5.4 % 6.5 % 7.6 % Tangible equity ratio 1 5.9 7.0 8.2 Average equity to average assets (three months ended) 7.8 8.3 9.5 Basel III risk-based capital ratios: Common equity tier 1 capital 10.0 10.2 11.2 Tier 1 leverage 7.3 7.2 8.3 Tier 1 risk-based 10.8 10.9 12.2 Total risk-based 12.5 12.8 14.5 Return on average common equity (three months ended) 11.8 11.5 17.4 Return on average tangible common equity (three months ended) 1 13.9 13.4 20.2 1 See “GAAP to Non-GAAP Reconciliations” on page 4 for more information regarding these ratios. Our regulatory tier 1 risk-based capital and total risk-based capital was $6.6 billion and $7.7 billion at March 31, 2022, compared with $6.5 billion and $7.7 billion, respectively, at December 31, 2021. See the “Supervision and Regulation” section and Note 15 of the Notes to Consolidated Financial Statements of our 2021 Form 10-K for more information about our compliance with the Basel III capital requirements. Deposit-driven balance sheet growth over the past year has resulted in a modest reduction in our risk-weighted regulatory capital ratios, and a larger reduction in our Tier 1 leverage ratio, as the denominator for this ratio is not adjusted for risk. As a result, our Tier 1 leverage ratio declined to 7.3% at March 31, 2022, from 8.3% at March 31, 2021. 34 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ITEM 1. FINANCIAL STATEMENTS (Unaudited) CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) March 31, 2022 December 31, 2021 (Unaudited) ASSETS Cash and due from banks $ 700 $ 595 Money market investments: Interest-bearing deposits 5,093 10,283 Federal funds sold and security resell agreements 2,345 2,133 Investment securiti Held-to-maturity, at amortized cost (included $ 414 and $ 443 at fair value ) 439 441 Available-for-sale, at fair value 26,145 24,048 Trading account, at fair value 382 372 Total securities 26,966 24,861 Loans held for sale 43 83 Loans and leases, net of unearned income and fees 51,242 50,851 Less allowance for loan and lease losses 478 513 Loans held for investment, net of allowance 50,764 50,338 Other noninterest-bearing investments 829 851 Premises, equipment and software, net 1,346 1,319 Goodwill and intangibles 1,015 1,015 Other real estate owned 4 8 Other assets 2,021 1,714 Total assets $ 91,126 $ 93,200 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 41,937 $ 41,053 Interest-bearin Savings and money market 38,864 40,114 Time 1,550 1,622 Total deposits 82,351 82,789 Federal funds purchased and other short-term borrowings 638 903 Long-term debt 689 1,012 Reserve for unfunded lending commitments 36 40 Other liabilities 1,118 993 Total liabilities 84,832 85,737 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 440 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 151,348 and 151,625 shares) and additional paid-in capital 1,889 1,928 Retained earnings 5,311 5,175 Accumulated other comprehensive income (loss) ( 1,346 ) ( 80 ) Total shareholders’ equity 6,294 7,463 Total liabilities and shareholders’ equity $ 91,126 $ 93,200 See accompanying notes to consolidated financial statements. 35 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF INCOME (Unaudited) Three Months Ended March 31, (In millions, except shares and per share amounts) 2022 2021 Interest income: Interest and fees on loans $ 437 $ 488 Interest on money market investments 6 3 Interest on securities 112 71 Total interest income 555 562 Interest expense: Interest on deposits 6 9 Interest on short- and long-term borrowings 5 8 Total interest expense 11 17 Net interest income 544 545 Provision for credit loss Provision for loan and lease losses ( 29 ) ( 123 ) Provision for unfunded lending commitments ( 4 ) ( 9 ) Total provision for credit losses ( 33 ) ( 132 ) Net interest income after provision for credit losses 577 677 Noninterest income: Commercial account fees 41 32 Card fees 25 21 Retail and business banking fees 20 17 Loan-related fees and income 22 25 Capital markets and foreign exchange fees 15 15 Wealth management fees 14 12 Other customer-related fees 14 11 Customer-related noninterest income 151 133 Fair value and nonhedge derivative gain 6 18 Dividends and other investment income 2 7 Securities gains (losses), net ( 17 ) 11 Total noninterest income 142 169 Noninterest expense: Salaries and employee benefits 312 288 Technology, telecom, and information processing 52 49 Occupancy and equipment, net 38 39 Professional and legal services 14 21 Marketing and business development 8 7 Deposit insurance and regulatory expense 10 10 Credit-related expense 7 6 Other real estate expense, net 1 — Other 22 15 Total noninterest expense 464 435 Income before income taxes 255 411 Income taxes 52 89 Net income 203 322 Preferred stock dividends ( 8 ) ( 8 ) Net earnings applicable to common shareholders $ 195 $ 314 Weighted average common shares outstanding during the perio Basic shares (in thousands) 151,285 163,551 Diluted shares (in thousands) 151,687 163,887 Net earnings per common sh Basic $ 1.27 $ 1.90 Diluted 1.27 1.90 See accompanying notes to consolidated financial statements. 36 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Unaudited) Three Months Ended March 31, (In millions) 2022 2021 Net income for the period $ 203 $ 322 Other comprehensive income (loss), net of t Net unrealized holding losses on investment securities ( 1,121 ) ( 164 ) Net unrealized gains on other noninterest-bearing investments — 2 Net unrealized holding losses on derivative instruments ( 135 ) ( 4 ) Reclassification adjustment for increase in interest income recognized in earnings on derivative instruments ( 10 ) ( 11 ) Other comprehensive loss ( 1,266 ) ( 177 ) Comprehensive income (loss) $ ( 1,063 ) $ 145 See accompanying notes to consolidated financial statements. CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited) (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2021 $ 440 151,625 $ — $ 1,928 $ 5,175 $ ( 80 ) $ 7,463 Net income for the period 203 203 Other comprehensive loss, net of tax ( 1,266 ) ( 1,266 ) Bank common stock repurchased ( 778 ) ( 51 ) ( 51 ) Net activity under employee plans and related tax benefits 501 12 12 Dividends on preferred stock ( 8 ) ( 8 ) Dividends on common stock, $ 0.38 per share ( 58 ) ( 58 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at March 31, 2022 $ 440 151,348 $ — $ 1,889 $ 5,311 $ ( 1,346 ) $ 6,294 Balance at December 31, 2020 $ 566 164,090 $ — $ 2,686 $ 4,309 $ 325 $ 7,886 Net income for the period 322 322 Other comprehensive loss, net of tax ( 177 ) ( 177 ) Bank common stock repurchased ( 1,012 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 722 17 17 Dividends on preferred stock ( 8 ) ( 8 ) Dividends on common stock, $ 0.34 per share ( 57 ) ( 57 ) Balance at March 31, 2021 $ 566 163,800 $ — $ 2,653 $ 4,566 $ 148 $ 7,933 See accompanying notes to consolidated financial statements. 37 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In millions) Three Months Ended March 31, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES Net income for the period $ 203 $ 322 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses ( 33 ) ( 132 ) Depreciation and amortization 19 ( 3 ) Share-based compensation 17 14 Deferred income tax expense 39 70 Net decrease (increase) in trading securities ( 10 ) 76 Net decrease (increase) in loans held for sale 29 ( 3 ) Change in other liabilities 127 ( 54 ) Change in other assets ( 116 ) 212 Other, net 13 ( 18 ) Net cash provided by operating activities 288 484 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease (increase) in money market investments 4,979 ( 2,903 ) Proceeds from maturities and paydowns of investment securities held-to-maturity 20 167 Purchases of investment securities held-to-maturity ( 17 ) ( 114 ) Proceeds from sales, maturities and paydowns of investment securities available-for-sale 1,018 1,370 Purchases of investment securities available-for-sale ( 4,673 ) ( 2,546 ) Net change in loans and leases ( 355 ) 56 Purchases and sales of other noninterest-bearing investments 8 12 Purchases of premises and equipment ( 53 ) ( 53 ) Other, net 4 13 Net cash provided by (used in) investing activities 931 ( 3,998 ) CASH FLOWS FROM FINANCING ACTIVITIES Net increase (decrease) in deposits ( 439 ) 4,200 Net change in short-term funds borrowed ( 264 ) ( 540 ) Redemption of long-term debt ( 290 ) — Proceeds from the issuance of common stock 6 11 Dividends paid on common and preferred stock ( 66 ) ( 66 ) Bank common stock repurchased ( 51 ) ( 50 ) Other, net ( 10 ) ( 8 ) Net cash provided by (used in) financing activities ( 1,114 ) 3,547 Net increase in cash and due from banks 105 33 Cash and due from banks at beginning of period 595 543 Cash and due from banks at end of period $ 700 $ 576 Cash paid for interest $ 11 $ 22 Net refunds received for income taxes ( 1 ) — Noncash activities are summarized as follows: Loans held for investment transferred to other real estate owned — 1 Loans held for investment reclassified to loans held for sale, net 34 ( 7 ) See accompanying notes to consolidated financial statements. 38 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) March 31, 2022 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Zions Bancorporation, National Association and its majority-owned subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). The results of operations for the three months ended March 31, 2022 and 2021 are not necessarily indicative of the results that may be expected in future periods. In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. For further information, refer to the consolidated financial statements and accompanying footnotes included in our 2021 Form 10-K. Certain prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Effective for the first quarter of 2022, we made certain financial reporting changes and reclassifications to noninterest expense in our Consolidated Statements of Income. These financial reporting changes were made primarily to improve the presentation and disclosure of certain expenses related to our ongoing technology initiatives. Other noninterest expense line items were impacted by these changes and reclassifications. These changes and reclassifications (1) were adopted retrospectively to January 1, 2020, (2) reflect changes only to noninterest expense in the Consolidated Statements of Income, and (3) do not impact net income, net interest income, or noninterest income. Zions Bancorporation, N.A. is a commercial bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These include Zions Bank, in Utah, Idaho, and Wyoming; Amegy Bank (“Amegy”), in Texas; California Bank & Trust (“CB&T”); National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”), in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under the name The Commerce Bank of Oregon in Oregon. 39 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 2. RECENT ACCOUNTING PRONOUNCEMENTS Standard Description Date of adoption Effect on the financial statements or other significant matters Standards not yet adopted by the Bank ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures This accounting standards update (“ASU”) eliminates the recognition and measurement guidance on troubled debt restructurings (“TDRs”) for creditors that have adopted ASC 326 (“CECL”), and eliminates certain existing TDR disclosures while requiring enhanced disclosures about loan modifications for borrowers experiencing financial difficulty. The new guidance also requires public companies to present current-period gross write-offs (on a current year-to-date basis for interim-period disclosures) by year of origination in their vintage disclosures. The new guidance is effective for calendar year-end public companies beginning January 1, 2023, with early adoption permitted. Periods beginning after December 15, 2022 We have established an implementation team to ensure that the necessary data is captured in order to comply with the new disclosure requirements. The overall effect of the guidance is not expected to have a material impact on our financial statements. We do not plan to early adopt this new guidance. 40 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 3. FAIR VALUE Fair Value Measurements Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. For more information about our valuation methodologies for assets and liabilities measured at fair value and the fair value hierarchy, see Note 3 of our 2021 Form 10-K. Quantitative Disclosure by Fair Value Hierarchy Assets and liabilities measured at fair value by class on a recurring basis are summarized as follows: (In millions) March 31, 2022 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 503 $ 23,799 $ — $ 24,302 Municipal securities 1,768 1,768 Other debt securities 75 75 Total available-for-sale 503 25,642 — 26,145 Trading account 15 367 382 Other noninterest-bearing investments: Bank-owned life insurance 538 538 Private equity investments 1 13 74 87 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 131 131 Derivativ Derivatives designated as hedges 29 29 Derivatives not designated as hedges 90 90 Total assets $ 662 $ 26,666 $ 86 $ 27,414 LIABILITIES Securities sold, not yet purchased $ 101 $ — $ — $ 101 Other liabiliti Derivativ Derivatives not designated as hedges 179 179 Total liabilities $ 101 $ 179 $ — $ 280 1 The Level 1 private equity investments (“PEIs”) relate to the portion of our Small Business Investment Company (“SBIC”) investments that are now publicly traded. 41 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) December 31, 2021 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 134 $ 22,144 $ — $ 22,278 Municipal securities 1,694 1,694 Other debt securities 76 76 Total available-for-sale 134 23,914 — 24,048 Trading account 14 358 372 Other noninterest-bearing investments: Bank-owned life insurance 537 537 Private equity investments 1 35 66 101 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 138 138 Derivativ Derivatives designated as hedges 10 10 Derivatives not designated as hedges 209 209 Total assets $ 321 $ 25,028 $ 78 $ 25,427 LIABILITIES Securities sold, not yet purchased $ 254 $ — $ — $ 254 Other liabiliti Derivativ Derivatives not designated as hedges 51 51 Total liabilities $ 254 $ 51 $ — $ 305 1 The Level 1 private equity investments (“PEIs”) relate to the portion of our Small Business Investment Company (“SBIC”) investments that are now publicly traded. Level 3 Valuations Our Level 3 holdings include PEIs, agriculture loan servicing, and interest-only strips. For additional information regarding our Level 3 financial instruments, including the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2021 Form 10-K. Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments Three Months Ended March 31, 2022 March 31, 2021 (In millions) Private equity investments Ag loan servicing & interest only strips Private equity investments Ag loan servicing & interest only strips Balance at beginning of period $ 66 $ 12 $ 80 $ 16 Unrealized securities gains (losses), net 5 — 1 — Other noninterest income (expense) — — — ( 1 ) Purchases 6 — 4 — Cost of investments sold ( 3 ) — ( 2 ) — Balance at end of period $ 74 $ 12 $ 83 $ 15 42 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES During the three months ended March 31, 2022 and 2021, there were no transfers of assets or liabilities recorded at fair value on a recurring basis into or out of Level 3 fair value measurements. The rollforward Level 3 instruments includes the following realized gains and losses recognized in securities gains (losses) on the consolidated statement of income for the periods present (In millions) Three Months Ended March 31, 2022 March 31, 2021 Securities gains (losses), net $ ( 2 ) $ ( 1 ) Nonrecurring Fair Value Measurements Certain assets and liabilities may be recorded at fair value on a nonrecurring basis, including impaired loans that have been measured based on the fair value of the underlying collateral, other real estate owned (“OREO”), and nonmarketable equity securities. Nonrecurring fair value adjustments typically involve write-downs of individual assets or the application of lower of cost or fair value accounting. At March 31, 2022, we had no assets or liabilities that had fair value changes measured on a nonrecurring basis. At December 31, 2021, we had $ 2 million of collateral-dependent loans valued as level 2 measurements, and recognized $ 3 million of losses from fair value changes related to these loans. The previous fair values may not be current as of the dates indicated, but rather as of the most recent date the fair value change occurred. For additional information regarding the measurement of fair value for impaired loans, collateral-dependent loans, and OREO, see Note 3 of our 2021 Form 10-K. Fair Value of Certain Financial Instruments The f ollowing schedule summarizes of the carrying values and estimated fair values of certain financial instruments: March 31, 2022 December 31, 2021 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: HTM investment securities $ 439 $ 414 2 $ 441 $ 443 2 Loans and leases (including loans held for sale), net of allowance 50,807 49,837 3 50,421 50,619 3 Financial liabiliti Time deposits 1,550 1,538 2 1,622 1,624 2 Long-term debt 689 699 2 1,012 1,034 2 This summary excludes financial assets and liabilities for which carrying value approximates fair value and financial instruments that are recorded at fair value on a recurring basis. For additional information regarding the financial instruments within the scope of this disclosure, and the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2021 Form 10-K. 43 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 4. OFFSETTING ASSETS AND LIABILITIES Gross and net information for selected financial instruments in the balance sheet is as follows: March 31, 2022 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 2,345 $ — $ 2,345 $ — $ — $ 2,345 Derivatives (included in other assets) 119 — 119 ( 8 ) ( 65 ) 46 Total assets $ 2,464 $ — $ 2,464 $ ( 8 ) $ ( 65 ) $ 2,391 Liabiliti Federal funds purchased and other short-term borrowings $ 638 $ — $ 638 $ — $ — $ 638 Derivatives (included in other liabilities) 179 — 179 ( 8 ) — 171 Total liabilities $ 817 $ — $ 817 $ ( 8 ) $ — $ 809 December 31, 2021 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 2,133 $ — $ 2,133 $ — $ — $ 2,133 Derivatives (included in other assets) 219 — 219 ( 16 ) ( 7 ) 196 Total assets $ 2,352 $ — $ 2,352 $ ( 16 ) $ ( 7 ) $ 2,329 Liabiliti Federal funds purchased and other short-term borrowings $ 903 $ — $ 903 $ — $ — $ 903 Derivatives (included in other liabilities) 51 — 51 ( 16 ) ( 1 ) 34 Total liabilities $ 954 $ — $ 954 $ ( 16 ) $ ( 1 ) $ 937 Security repurchase and reverse repurchase (“resell”) agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 5. INVESTMENTS Investment Securities Investment securities are classified as held-to-maturity (“HTM”), available-for sale (“AFS”), or trading. HTM securities, which management has the intent and ability to hold until maturity, are carried at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. AFS securities are carried at fair value and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to accumulated other comprehensive income (“AOCI”), net of related taxes. Trading securities are carried at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 71 million and $ 65 million at March 31, 2022 and December 31, 2021, respectively. These receivables are presented on the consolidated balance sheet in “Other 44 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES assets.” See Note 5 of our 2021 Form 10-K for more information related to our accounting for investment securities, and see Note 3 of our 2021 Form 10-K for description of our process to estimate fair value for investment securities. The following schedule summarizes the amortized cost and estimated fair values of our HTM and AFS securiti March 31, 2022 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 439 $ — $ 25 $ 414 Available-for-sale U.S. Treasury securities 557 — 54 503 U.S. Government agencies and corporatio Agency securities 802 — 10 792 Agency guaranteed mortgage-backed securities 23,626 9 1,553 22,082 Small Business Administration loan-backed securities 950 2 27 925 Municipal securities 1,828 6 66 1,768 Other debt securities 75 — — 75 Total available-for-sale 27,838 17 1,710 26,145 Total HTM and AFS investment securities $ 28,277 $ 17 $ 1,735 $ 26,559 December 31, 2021 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 441 $ 4 $ 2 $ 443 Available-for-sale U.S. Treasury securities 155 — 21 134 U.S. Government agencies and corporatio Agency securities 833 13 1 845 Agency guaranteed mortgage-backed securities 20,549 108 270 20,387 Small Business Administration loan-backed securities 938 2 28 912 Municipal securities 1,652 46 4 1,694 Other debt securities 75 1 — 76 Total available-for-sale 24,202 170 324 24,048 Total HTM and AFS investment securities $ 24,643 $ 174 $ 326 $ 24,491 Maturities The following schedule shows the amortized cost and weighted average yields of debt securities by contractual maturity of principal payments at March 31, 2022. Actual principal payments may differ from contractual or expected principal payments because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. 45 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES March 31, 2022 Total debt securities Due in one year or less Due after one year through five years Due after five years through ten years Due after ten years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity Municipal securities 1 $ 439 3.02 % $ 29 2.71 % $ 139 3.19 % $ 176 2.71 % $ 95 3.41 % Available-for-sale U.S. Treasury securities 557 2.05 — — — — — — 557 2.05 U.S. Government agencies and corporatio Agency securities 802 2.06 31 0.84 317 1.50 292 2.37 162 2.83 Agency guaranteed mortgage-backed securities 23,626 1.70 — — 442 1.49 1,824 1.84 21,360 1.69 Small Business Administration loan-backed securities 950 1.38 — — 47 1.30 184 2.18 719 1.18 Municipal securities 1 1,828 2.37 106 2.18 683 2.59 638 2.10 401 2.47 Other debt securities 75 2.17 — — — — 60 1.99 15 2.91 Total available-for-sale securities 27,838 1.75 137 1.88 1,489 1.99 2,998 1.97 23,214 1.70 Total HTM and AFS investment securities $ 28,277 1.77 % $ 166 2.02 % $ 1,628 2.09 % $ 3,174 2.01 % $ 23,309 1.71 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis. The following schedule summarizes the amount of gross unrealized losses for debt securities and the estimated fair value by length of time the securities have been in an unrealized loss positi March 31, 2022 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 12 $ 224 $ 13 $ 92 $ 25 $ 316 Available-for-sale U.S. Treasury securities 15 386 39 117 54 503 U.S. Government agencies and corporatio Agency securities 10 660 — — 10 660 Agency guaranteed mortgage-backed securities 1,152 17,185 401 3,874 1,553 21,059 Small Business Administration loan-backed securities — 27 27 693 27 720 Municipal securities 55 1,067 11 89 66 1,156 Other — 15 — — — 15 Total available-for-sale 1,232 19,340 478 4,773 1,710 24,113 Total HTM and AFS investment securities $ 1,244 $ 19,564 $ 491 $ 4,865 $ 1,735 $ 24,429 46 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 1 $ 88 $ 1 $ 68 $ 2 $ 156 Available-for-sale U.S. Treasury securities — — 21 134 21 134 U.S. Government agencies and corporatio Agency securities 1 121 — 1 1 122 Agency guaranteed mortgage-backed securities 231 13,574 39 942 270 14,516 Small Business Administration loan-backed securities — 27 28 749 28 776 Municipal securities 4 327 — 8 4 335 Other — — — — — — Total available-for-sale 236 14,049 88 1,834 324 15,883 Total HTM and AFS investment securities $ 237 $ 14,137 $ 89 $ 1,902 $ 326 $ 16,039 Approximately 455 and 137 HTM and 3,059 and 1,302 AFS investment securities were in an unrealized loss position at March 31, 2022, and December 31, 2021, respectively. Impairment We review investment securities quarterly on an individual security basis for the presence of impairment. For additional information on our policy and impairment evaluation process for investment securities, see Note 5 of our 2021 Form 10-K. AFS Impairment We did not recognize any impairment on our AFS investment securities portfolio during the first three months of 2022. Unrealized losses primarily relate to changes in interest rates subsequent to purchase and are not attributable to credit. At March 31, 2022, we had not initiated any sales of AFS securities, nor did we have an intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not that we would be required to sell such securities before recovery of their amortized cost basis. HTM Impairment For HTM securities, the allowance for credit losses (“ACL”) is assessed consistent with the approach described in Note 6 for loans and leases carried at amortized cost. The ACL on HTM securities was less than $ 1 million at March 31, 2022. All HTM securities were risk-graded as "Pass" in terms of credit quality and none were past due at March 31, 2022. The amortized cost basis of HTM securities categorized by year acquired is summarized in the following schedu March 31, 2022 Amortized cost basis by year acquired (In millions) 2022 2021 2020 2019 2018 Prior Total Securities Held-to-maturity $ 17 $ 101 $ 122 $ 10 $ — $ 189 $ 439 47 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Securities Gains and Losses Recognized in Income The following schedule summarizes securities gains and losses recognized in the income statemen Three Months Ended March 31, 2022 2021 (In millions) Gross gains Gross losses Gross gains Gross losses Other noninterest-bearing investments $ 3 $ 20 $ 14 $ 3 Net gains (losses) 1 $ ( 17 ) $ 11 1 Net gains (losses) were recognized in securities gains (losses) in the income statement. The following schedule presents interest income by security type: Three Months Ended March 31, 2022 2021 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 2 $ 1 $ 3 $ 3 $ 2 $ 5 Available-for-sale 96 8 104 57 7 64 Trading — 5 5 — 2 2 Total securities $ 98 $ 14 $ 112 $ 60 $ 11 $ 71 A t March 31, 2022 and December 31, 2021, investment securities with a carrying value of approximately $ 3.0 billion and $ 3.1 billion, respectively, were pledged to secure public and trust deposits, advances, and for other purposes as required by law. Securities are also pledged as collateral for security repurchase agreements. 48 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific loan class: (In millions) March 31, 2022 December 31, 2021 Loans held for sale $ 43 $ 83 Commerci Commercial and industrial $ 14,356 $ 13,867 PPP 1,081 1,855 Leasing 318 327 Owner-occupied 9,026 8,733 Municipal 3,944 3,658 Total commercial 28,725 28,440 Commercial real estate: Construction and land development 2,769 2,757 Term 9,325 9,441 Total commercial real estate 12,094 12,198 Consume Home equity credit line 3,089 3,016 1-4 family residential 6,122 6,050 Construction and other consumer real estate 692 638 Bankcard and other revolving plans 410 396 Other 110 113 Total consumer 10,423 10,213 Total loans and leases $ 51,242 $ 50,851 Loans and leases are presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 59 million and $ 83 million at March 31, 2022 and December 31, 2021, respectively. Amortized cost basis does not include accrued interest receivables of $ 157 million and $ 161 million at March 31, 2022 and December 31, 2021, respectively. These receivables are presented in the Consolidated Balance Sheet within the “Other assets” line item. Municipal loans generally include loans to state and local governments (“municipalities”) with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 176 million at March 31, 2022 and $ 160 million at December 31, 2021. Loans with a carrying value of $ 26.8 billion at both March 31, 2022 and December 31, 2021 have been pledged at the Federal Reserve and the Federal Home Loan Bank (“FHLB”) of Des Moines as collateral for potential borrowings. We sold loans totaling $ 336 million for the three months ended March 31, 2022, and $ 423 million for the three months ended March 31, 2021, that were classified as loans held for sale. The sold loans were derecognized from the balance sheet. Loans classified as loans held for sale primarily consist of conforming residential mortgages and the guaranteed portion of Small Business Administration (“SBA”) loans that are primarily sold to U.S. government agencies or participated to third parties. They do not consist of loans from the SBA's Paycheck Protection Program (“PPP”). At times, we have continuing involvement in the sold loans in the form of servicing rights or guarantees. Amounts added to loans held for sale during these same periods were $ 297 million and $ 426 million, respectively. See Note 5 for further information regarding guaranteed securities. 49 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The principal balance of sold loans for which we retain servicing was approximately $ 3.5 billion at March 31, 2022, and $ 3.3 billion at December 31, 2021. Income from loans sold, excluding servicing, was $ 6 million and $ 11 million for the three months ended March 31, 2022, and 2021, respectively. Allowance for Credit Losses The allowance for credit losses (“ACL”), which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. For additional information regarding our policies and methodologies used to estimate the ACL, see Note 6 of our 2021 Form 10-K. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is estimated consistent with the approach for loans carried at amortized cost. See Note 5 for further discussion of our estimate of expected credit losses on AFS securities and disclosures related to AFS and HTM securities. Changes in the ACL are summarized as follows: Three Months Ended March 31, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 311 $ 107 $ 95 $ 513 Provision for loan losses ( 24 ) ( 5 ) — ( 29 ) Gross loan and lease charge-offs 13 — 4 17 Recoveries 8 — 3 11 Net loan and lease charge-offs (recoveries) 5 — 1 6 Balance at end of period $ 282 $ 102 $ 94 $ 478 Reserve for unfunded lending commitments Balance at beginning of period $ 19 $ 11 $ 10 $ 40 Provision for unfunded lending commitments ( 5 ) 1 — ( 4 ) Balance at end of period $ 14 $ 12 $ 10 $ 36 Total allowance for credit losses at end of period Allowance for loan losses $ 282 $ 102 $ 94 $ 478 Reserve for unfunded lending commitments 14 12 10 36 Total allowance for credit losses $ 296 $ 114 $ 104 $ 514 50 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Three Months Ended March 31, 2021 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 464 $ 171 $ 142 $ 777 Provision for loan losses ( 94 ) ( 19 ) ( 10 ) ( 123 ) Gross loan and lease charge-offs 18 — 3 21 Recoveries 10 — 3 13 Net loan and lease charge-offs (recoveries) 8 — — 8 Balance at end of period $ 362 $ 152 $ 132 $ 646 Reserve for unfunded lending commitments Balance at beginning of period $ 30 $ 20 $ 8 $ 58 Provision for unfunded lending commitments ( 6 ) ( 3 ) — ( 9 ) Balance at end of period $ 24 $ 17 $ 8 $ 49 Total allowance for credit losses at end of period Allowance for loan losses $ 362 $ 152 $ 132 $ 646 Reserve for unfunded lending commitments 24 17 8 49 Total allowance for credit losses $ 386 $ 169 $ 140 $ 695 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement, (2) the loan, if secured, is well-secured, (3) the borrower has paid according to the contractual terms for a minimum of six months, and (4) an analysis of the borrower indicates a reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of loans on nonaccrual status is summarized as follows: March 31, 2022 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 20 $ 92 $ 112 $ 38 PPP — 2 2 — Owner-occupied 33 20 53 2 Total commercial 53 114 167 40 Commercial real estate: Term 5 15 20 3 Total commercial real estate 5 15 20 3 Consume Home equity credit line 4 9 13 1 1-4 family residential 8 43 51 5 Bankcard and other revolving plans — 1 1 1 Total consumer loans 12 53 65 7 Total $ 70 $ 182 $ 252 $ 50 51 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 30 $ 94 $ 124 $ 34 PPP 2 1 3 — Owner-occupied 37 20 57 3 Total commercial 69 115 184 37 Commercial real estate: Term 6 14 20 3 Total commercial real estate 6 14 20 3 Consume Home equity credit line 4 10 14 2 1-4 family residential 9 43 52 5 Bankcard and other revolving plans — 1 1 1 Total consumer loans 13 54 67 8 Total $ 88 $ 183 $ 271 $ 48 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed or written-off from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. For the three months ended March 31, 2022 and 2021, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. The amount of accrued interest receivables written-off by reversing interest income during the period is summarized by loan portfolio segment as follows: Three Months Ended March 31, (In millions) 2022 2021 Commercial $ 4 $ 3 Commercial real estate — 1 Consumer — — Total $ 4 $ 4 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as bankcard and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. 52 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Past due loans (accruing and nonaccruing) are summarized as follows: March 31, 2022 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 14,285 $ 49 $ 22 $ 71 $ 14,356 $ 1 $ 89 PPP 1,053 26 2 28 1,081 — — Leasing 317 1 — 1 318 — — Owner-occupied 9,001 13 12 25 9,026 — 40 Municipal 3,944 — — — 3,944 — — Total commercial 28,600 89 36 125 28,725 1 129 Commercial real estate: Construction and land development 2,769 — — — 2,769 — — Term 9,320 1 4 5 9,325 1 17 Total commercial real estate 12,089 1 4 5 12,094 1 17 Consume Home equity credit line 3,083 3 3 6 3,089 — 10 1-4 family residential 6,090 11 21 32 6,122 — 21 Construction and other consumer real estate 692 — — — 692 — — Bankcard and other revolving plans 408 1 1 2 410 1 — Other 109 1 — 1 110 — — Total consumer loans 10,382 16 25 41 10,423 1 31 Total $ 51,071 $ 106 $ 65 $ 171 $ 51,242 $ 3 $ 177 December 31, 2021 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 13,822 $ 17 $ 28 $ 45 $ 13,867 $ 2 $ 91 PPP 1,813 35 7 42 1,855 5 — Leasing 327 — — — 327 — — Owner-occupied 8,712 7 14 21 8,733 — 42 Municipal 3,658 — — — 3,658 — — Total commercial 28,332 59 49 108 28,440 7 133 Commercial real estate: Construction and land development 2,757 — — — 2,757 — — Term 9,426 10 5 15 9,441 — 15 Total commercial real estate 12,183 10 5 15 12,198 — 15 Consume Home equity credit line 3,008 4 4 8 3,016 — 10 1-4 family residential 6,018 6 26 32 6,050 — 24 Construction and other consumer real estate 638 — — — 638 — — Bankcard and other revolving plans 393 2 1 3 396 1 — Other 112 1 — 1 113 — — Total consumer loans 10,169 13 31 44 10,213 1 34 Total $ 50,684 $ 82 $ 85 $ 167 $ 50,851 $ 8 $ 182 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is still not expected. 53 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk-grading systems, which vary based on the size and type of credit risk exposure. The internal risk grades assigned to loans follow our definition of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. • Pass – A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention – A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard – A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful – A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were no loans classified as Doubtful at both March 31, 2022 and December 31, 2021. We generally assign internal risk grades to commercial and commercial real estate (“CRE”) loans with commitments greater than $ 1 million based on financial and statistical models, individual credit analysis, and loan officer experience and judgment. For these larger loans, we assign one of multiple risk grades within the Pass classification or one of the risk classifications described previously. We confirm our internal risk grades quarterly, or as soon as we identify information that affects the credit risk of the loan. For consumer loans and for commercial and CRE loans with commitments less than or equal to $ 1 million, we generally assign internal risk grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The amortized cost basis of loans and leases categorized by year of origination and by credit quality classifications as monitored by management are summarized as follows. 54 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES March 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Commerci Commercial and industrial Pass $ 669 $ 2,455 $ 1,257 $ 1,095 $ 700 $ 452 $ 6,851 $ 158 $ 13,637 Special Mention — 5 13 4 13 45 97 1 178 Accruing Substandard — 30 21 115 44 87 124 8 429 Nonaccrual — 13 9 6 1 19 49 15 112 Total commercial and industrial 669 2,503 1,300 1,220 758 603 7,121 182 14,356 PPP Pass — 778 301 — — — — — 1,079 Nonaccrual — — 2 — — — — — 2 Total PPP — 778 303 — — — — — 1,081 Leasing Pass 2 55 70 64 60 55 — — 306 Special Mention — — — 5 1 1 — — 7 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 2 55 70 69 61 61 — — 318 Owner-occupied Pass 602 2,447 1,311 1,013 810 2,183 193 70 8,629 Special Mention — 8 12 20 22 65 3 3 133 Accruing Substandard 5 6 28 29 47 91 5 — 211 Nonaccrual — — 2 13 9 25 4 — 53 Total owner-occupied 607 2,461 1,353 1,075 888 2,364 205 73 9,026 Municipal Pass 428 1,279 939 529 208 527 4 — 3,914 Special Mention — — — — — 25 — — 25 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total municipal 428 1,279 939 529 208 557 4 — 3,944 Total commercial 1,706 7,076 3,965 2,893 1,915 3,585 7,330 255 28,725 Commercial real estate: Construction and land development Pass 75 695 811 386 61 27 674 36 2,765 Special Mention — — — 1 — — — — 1 Accruing Substandard — — 3 — — — — — 3 Nonaccrual — — — — — — — — — Total construction and land development 75 695 814 387 61 27 674 36 2,769 Term Pass 627 2,297 1,604 1,297 994 1,795 189 215 9,018 Special Mention — 22 — — — 15 — 1 38 Accruing Substandard 8 9 39 43 95 55 — — 249 Nonaccrual — — 1 5 1 13 — — 20 Total term 635 2,328 1,644 1,345 1,090 1,878 189 216 9,325 Total commercial real estate 710 3,023 2,458 1,732 1,151 1,905 863 252 12,094 55 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES March 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Consume Home equity credit line Pass — — — — — — 2,982 91 3,073 Special Mention — — — — — — 1 — 1 Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 7 6 13 Total home equity credit line — — — — — — 2,992 97 3,089 1-4 family residential Pass 470 1,384 982 677 428 2,128 — — 6,069 Special Mention — — — — — — — — — Accruing Substandard — — — 1 — 1 — — 2 Nonaccrual — 1 3 4 2 41 — — 51 Total 1-4 family residential 470 1,385 985 682 430 2,170 — — 6,122 Construction and other consumer real estate Pass 55 382 186 43 18 8 — — 692 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 55 382 186 43 18 8 — — 692 Bankcard and other revolving plans Pass — — — — — — 401 6 407 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 1 — 1 Total bankcard and other revolving plans — — — — — — 404 6 410 Other consumer Pass 20 45 19 14 7 5 — — 110 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 20 45 19 14 7 5 — — 110 Total consumer 545 1,812 1,190 739 455 2,183 3,396 103 10,423 Total loans $ 2,961 $ 11,911 $ 7,613 $ 5,364 $ 3,521 $ 7,673 $ 11,589 $ 610 $ 51,242 56 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2016 Prior Total loans Commerci Commercial and industrial Pass $ 2,561 $ 1,309 $ 1,179 $ 748 $ 354 $ 239 $ 6,594 $ 121 $ 13,105 Special Mention 4 17 9 12 1 3 128 1 175 Accruing Substandard 28 22 99 53 31 65 162 3 463 Nonaccrual 14 10 6 3 1 21 51 18 124 Total commercial and industrial 2,607 1,358 1,293 816 387 328 6,935 143 13,867 PPP Pass 1,317 535 — — — — — — 1,852 Nonaccrual — 3 — — — — — — 3 Total PPP 1,317 538 — — — — — — 1,855 Leasing Pass 46 74 70 64 42 19 — — 315 Special Mention — 1 4 1 1 — — — 7 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 46 75 74 65 43 24 — — 327 Owner-occupied Pass 2,420 1,366 1,028 868 695 1,663 177 69 8,286 Special Mention 10 13 19 32 18 50 3 3 148 Accruing Substandard 14 24 41 47 24 79 13 — 242 Nonaccrual — 4 14 9 9 20 1 — 57 Total owner-occupied 2,444 1,407 1,102 956 746 1,812 194 72 8,733 Municipal Pass 1,303 963 553 250 327 220 3 — 3,619 Special Mention — — — — — 25 — — 25 Accruing Substandard — 9 — — — 5 — — 14 Nonaccrual — — — — — — — — — Total municipal 1,303 972 553 250 327 250 3 — 3,658 Total commercial 7,717 4,350 3,022 2,087 1,503 2,414 7,132 215 28,440 Commercial real estate: Construction and land development Pass 640 736 515 94 24 2 650 64 2,725 Special Mention — — 1 — — — — — 1 Accruing Substandard — 3 28 — — — — — 31 Nonaccrual — — — — — — — — — Total construction and land development 640 739 544 94 24 2 650 64 2,757 Term Pass 2,407 1,765 1,491 1,066 529 1,401 239 179 9,077 Special Mention 22 39 10 17 8 25 — 4 125 Accruing Substandard 9 9 44 77 14 64 — 2 219 Nonaccrual — 1 5 1 — 13 — — 20 Total term 2,438 1,814 1,550 1,161 551 1,503 239 185 9,441 Total commercial real estate 3,078 2,553 2,094 1,255 575 1,505 889 249 12,198 57 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2016 Prior Total loans Consume Home equity credit line Pass — — — — — — 2,903 96 2,999 Special Mention — — — — — — 1 — 1 Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 7 7 14 Total home equity credit line — — — — — — 2,913 103 3,016 1-4 family residential Pass 1,391 1,021 728 484 681 1,691 — — 5,996 Special Mention — — — — — — — — — Accruing Substandard — — 1 — — 1 — — 2 Nonaccrual — 3 3 3 9 34 — — 52 Total 1-4 family residential 1,391 1,024 732 487 690 1,726 — — 6,050 Construction and other consumer real estate Pass 295 232 73 27 4 7 — — 638 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 295 232 73 27 4 7 — — 638 Bankcard and other revolving plans Pass — — — — — — 391 3 394 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — 1 — 1 Total bankcard and other revolving plans — — — — — — 393 3 396 Other consumer Pass 58 23 17 9 4 2 — — 113 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 58 23 17 9 4 2 — — 113 Total consumer 1,744 1,279 822 523 698 1,735 3,306 106 10,213 Total loans $ 12,539 $ 8,182 $ 5,938 $ 3,865 $ 2,776 $ 5,654 $ 11,327 $ 570 $ 50,851 Modified and Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are considered troubled debt restructurings (“TDRs”). For further discussion of our policies and processes regarding TDRs, see Note 6 of our 2021 Form 10-K. 58 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Information on TDRs, including the amortized cost on an accruing and nonaccruing basis by loan class and modification type is summarized in the following schedul March 31, 2022 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 19 $ 10 $ — $ — $ 4 $ 4 $ 37 Owner-occupied 1 4 — 9 14 9 37 Municipal — 10 — — — — 10 Total commercial 20 24 — 9 18 13 84 Commercial real estate: Term 1 29 — 27 41 8 106 Total commercial real estate 1 29 — 27 41 8 106 Consume Home equity credit line — — 5 — — 2 7 1-4 family residential 3 1 2 — 1 12 19 Total consumer loans 3 1 7 — 1 14 26 Total accruing 24 54 7 36 60 35 216 Nonaccruing Commerci Commercial and industrial 1 3 — 11 7 36 58 Owner-occupied 9 — — — — 12 21 Total commercial 10 3 — 11 7 48 79 Commercial real estate: Term — — — 11 2 3 16 Total commercial real estate — — — 11 2 3 16 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — — 3 4 Total consumer loans — 1 1 — — 3 5 Total nonaccruing 10 4 1 22 9 54 100 Total $ 34 $ 58 $ 8 $ 58 $ 69 $ 89 $ 316 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. 59 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 19 $ 1 $ — $ — $ 4 $ 7 $ 31 Owner-occupied 5 4 — 8 14 12 43 Municipal — 10 — — — — 10 Total commercial 24 15 — 8 18 19 84 Commercial real estate: Term 1 29 — 27 41 8 106 Total commercial real estate 1 29 — 27 41 8 106 Consume Home equity credit line — 1 5 — — 2 8 1-4 family residential 5 1 2 — 1 14 23 Total consumer loans 5 2 7 — 1 16 31 Total accruing 30 46 7 35 60 43 221 Nonaccruing Commerci Commercial and industrial 1 4 — 2 8 49 64 Owner-occupied 5 — — 2 — 13 20 Total commercial 6 4 — 4 8 62 84 Commercial real estate: Term — — — 11 2 3 16 Total commercial real estate — — — 11 2 3 16 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 3 — 4 Total consumer loans — 1 1 — 3 — 5 Total nonaccruing 6 5 1 15 13 65 105 Total $ 36 $ 51 $ 8 $ 50 $ 73 $ 108 $ 326 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. Unfunded lending commitments on TDRs totaled $ 4 million and $ 10 million at March 31, 2022 and December 31, 2021, respectively. The total amortized cost of all TDRs in which interest rates were modified below market was $ 92 million at March 31, 2022 and $ 100 million at December 31, 2021. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the three months ended March 31, 2022 and 2021 was not significant. On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. 60 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Collateral-Dependent Loans As discussed previously, when a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. Select information on loans for which the repayment is expected to be provided substantially through the operation or sale of the underlying collateral and the borrower is experiencing financial difficulties, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: March 31, 2022 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 8 Single family residential 39 % Owner-occupied 8 Office building 40 % Commercial real estate: Term 2 Multi-family 37 % Consume Home equity credit line 4 Single family residential 35 % 1-4 family residential 2 Single family residential 38 % Total $ 24 December 31, 2021 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 27 Corporate assets, Single family residential 55 % Owner-occupied 11 Office Building 40 % Commercial real estate: Term 2 Multi-family, Retail 28 % Consume Home equity credit line 5 Single family residential 45 % 1-4 family residential 2 Single family residential 35 % Total $ 47 1 The fair value is based on the most recent appraisal or other collateral evaluation. Foreclosed Residential Real Estate At March 31, 2022 and December 31, 2021, we did no t have any foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure was $ 13 million and $ 10 million for the same periods, respectively. 61 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives and Accounting Our primary objective for using derivatives is to manage risks, primarily interest rate risk. We use derivatives to manage volatility in interest income, interest expense, earnings, and capital by adjusting our interest rate sensitivity to minimize the impact of fluctuations in interest rates. Derivatives are used to stabilize forecasted interest income from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities as we consider advisable. We also assist clients with their risk management needs through the use of derivatives. For a more detailed discussion of the use of and accounting policies regarding derivative instruments, see Note 7 of our 2021 Form 10-K. Fair Value Hedges of Liabilities – At March 31, 2022, we had one receive-fixed interest rate swap with a notional amount of $ 500 million designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converts the interest on our fixed-rate debt to floating. During the first quarter of 2022, derivatives designated as fair value hedges of debt decreased in value by $ 7 million which was offset by changes in the fair value of the hedged debt instruments as shown in the schedules below. During the first quarter of 2022, we fully amortized the remaining $ 1 million of cumulative unamortized debt basis adjustments related to previously terminated fair value hedges of debt. Fair Value Hedges of Assets – At March 31, 2022, we had pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 990 million designated as fair value hedges of certain AFS securities. These swaps effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. During the first quarter of 2022, derivatives designated as fair value hedges of fixed-rate AFS securities increased in value by $ 52 million, which was offset by changes in value of the hedged securities, as shown in the schedules below. We had $ 7 million of unamortized basis adjustments to AFS securities from previously designated fair value hedges. Cash Flow Hedges – At March 31, 2022, we had $ 6 billion notional amount of receive-fixed interest rate swaps designated as cash flow hedges of pools of floating-rate commercial loans. Also during the quarter, our cash flow hedge portfolio decreased in value by $ 192 million, which was recorded in AOCI. The amounts deferred in AOCI are reclassified into earnings in the periods in which the hedged interest receipts occur (i.e., when the hedged forecasted transactions affect earnings). Collateral and Credit Risk Exposure to credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred as a result of counterparty nonperformance. For a more detailed discussion of collateral and credit risk related to our derivative contracts, see Note 7 of our 2021 Form 10-K. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position at a given balance sheet date. Certain of these derivative contracts contain credit-risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit-risk-related feature were triggered, such as a downgrade of our credit rating. However, in past situations, not all counterparties have demanded that additional collateral be pledged when provided for by the contractual terms. At March 31, 2022, the fair value of our derivative liabilities was $ 179 million, for which we were required to pledge cash collateral of $ 118 million in the normal course of business. If our credit rating were downgraded one notch by either Standard & Poor’s (“S&P”) or Moody’s at March 31, 2022, there would likely be $ 1 million of additional collateral required to be pledged. 62 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Derivative Amounts Certain information with respect to notional amounts and recorded gross fair values at March 31, 2022 and December 31, 2021, and the related gain (loss) of derivative instruments is summarized as follows: March 31, 2022 December 31, 2021 Notional amount Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Receive-fixed interest rate swaps $ 6,041 $ — $ — $ 6,883 $ — $ — Fair value hed Debt hed Receive-fixed interest rate swaps 500 — — 500 — — Asset hed Pay-fixed interest rate swaps 990 29 — 479 10 — Total derivatives designated as hedging instruments 7,531 29 — 7,862 10 — Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives 1 6,604 41 170 6,587 192 36 Offsetting interest rate derivatives 2 6,604 175 43 6,587 38 197 Other interest rate derivatives 1,067 6 1 1,286 6 1 Foreign exchange derivatives 380 4 3 288 3 2 Total derivatives not designated as hedging instruments 14,655 226 217 14,748 239 236 Total derivatives $ 22,186 $ 255 $ 217 $ 22,610 $ 249 $ 236 1 Customer-facing interest rate derivatives include a net credit valuation adjustment (“CVA”) of $ 3 million, reducing the fair value of the liability at March 31, 2022, and $ 3 million, reducing the fair value of the asset at December 31, 2021. These adjustments are required to reflect both our nonperformance risk and that of the respective counterparty. 2 The fair value amounts for these derivatives do not include the settlement amounts for those trades that are centrally cleared. Once the settlement amounts with the clearing houses are included the derivative fair values would be the followin March 31, 2022 December 31, 2021 (In millions) Other assets Other liabilities Other assets Other liabilities Offsetting interest rate derivatives $ 39 $ 5 $ 8 $ 12 The amount of derivative gains (losses) from cash flow and fair value hedges that was deferred in other comprehensive income (“OCI”) or recognized in earnings for the three months ended March 31, 2022 and 2021 is shown in the schedules below. Three Months Ended March 31, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Excluded components deferred in AOCI (amortization approach) Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness/AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ 2 $ — $ — Interest rate swaps ( 178 ) — 12 — — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — — 2 — Basis amortization on terminated hedges 2, 3 — — — 1 — Fair value hedges of assets: Pay-fixed interest rate swaps — — — ( 1 ) — Basis amortization on terminated hedges 2, 3 — — — — — Total derivatives designated as hedging instruments $ ( 178 ) $ — $ 14 $ 2 $ — 63 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Three Months Ended March 31, 2021 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Excluded components deferred in AOCI (amortization approach) Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness/AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ 3 $ — $ — Interest rate swaps ( 5 ) — 12 — — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — — 2 — Basis amortization on terminated hedges 2, 3 — — — 3 — Fair value hedges of assets: Pay-fixed interest rate swaps — — — ( 1 ) — Basis amortization on terminated hedges 2, 3 — — — — — Total derivatives designated as hedging instruments $ ( 5 ) $ — $ 15 $ 4 $ — 1 For the 12 months following March 31, 2022, we estimate that $ 26 million of losses will be reclassified from AOCI into interest income, compared with an estimate of $ 57 million of gains as of March 31, 2021. 2 Adjustment to interest expense resulting from the amortization of the debt basis adjustment on fixed-rate debt previously hedged by terminated receive-fixed interest rate. 3 The cumulative unamortized basis adjustment from previously terminated or redesignated fair value hedges at March 31, 2022 is $ 0 and $ 7 million of terminated fair value debt and asset hedges, respectively, compared with $ 9 million and $ 7 million as of March 31, 2021. The remaining basis adjustment for terminated fair value debt hedges was fully amortized during the first quarter of 2022. The amortization of the cumulative unamortized basis adjustment from asset hedges is not shown in the schedules because it is not significant. The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) Three Months Ended March 31, 2022 Three Months Ended March 31, 2021 Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives $ ( 268 ) $ ( 182 ) Offsetting interest rate derivatives 281 206 Other interest rate derivatives 1 ( 4 ) Foreign exchange derivatives 6 5 Total derivatives not designated as hedging instruments $ 20 $ 25 The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Three Months Ended March 31, 2022 Three Months Ended March 31, 2021 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ ( 32 ) $ 32 $ — $ ( 35 ) $ 35 $ — Assets: Pay-fixed interest rate swaps 1, 2 53 ( 53 ) — 48 ( 48 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt and fixed-rate AFS securities. Gains and losses were recorded in net interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. 64 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) 1 Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged item (In millions) March 31, 2022 December 31, 2021 March 31, 2022 December 31, 2021 March 31, 2022 December 31, 2021 Long-term fixed-rate debt $ ( 500 ) $ ( 500 ) $ ( 474 ) $ ( 507 ) $ 26 $ ( 7 ) Fixed-rate AFS securities 990 479 894 435 ( 96 ) ( 44 ) 1 Carrying amounts displayed above exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 8 . LEASES We have operating and finance leases for branches, corporate offices, and data centers. We do not have significant equipment leases. At March 31, 2022, we had 416 branches, of which 273 are owned and 143 are leased. We lease our headquarters in Salt Lake City, Utah. The remaining maturities of our lease commitments range from the year 2022 to 2062, and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “Other assets,” and “Premises, equipment and software, net,” respectively. The corresponding liabilities for those leases are presented in “Other liabilities,” and “Long-term debt.” For more information about our lease policies, see Note 8 of our 2021 Form 10-K. The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate: (Dollar amounts in millions) March 31, 2022 December 31, 2021 Operating leases ROU assets, net of amortization $ 188 $ 195 Lease liabilities 215 222 Financing leases ROU assets, net of amortization 4 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.5 8.5 Finance leases 18.1 18.3 Weighted average discount rate Operating leases 2.8 % 2.8 % Finance leases 3.1 % 3.1 % Additional information related to lease expense is presented be Three Months Ended March 31, (In millions) 2022 2021 Lease expense: Operating lease expense $ 12 $ 12 Other expenses associated with operating leases 1 12 12 Total lease expense $ 24 $ 24 Related cash disbursements from operating leases $ 12 $ 12 1 Other expenses primarily relate to property taxes and building and property maintenance. 65 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ROU assets related to new leases totaled $ 1 million at both March 31, 2022 and December 31, 2021. Total contractual undiscounted lease payments for operating lease liabilities are summarized in the following schedule by expected due date: (In millions) Total undiscounted lease payments 2022 1 $ 37 2023 45 2024 36 2025 26 2026 21 Thereafter 83 Total $ 248 1 Contractual maturities for the nine months remaining in 2022. We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 3 million for both the first quarter of 2022 and 2021. We originated equipment leases, considered to be sales-type leases or direct financing leases, totaling $ 318 million and $ 327 million at March 31, 2022 and December 31, 2021, respectively. We recorded income of $ 3 million on these leases for both the first quarter of 2022 and 2021. 9. LONG-TERM DEBT AND SHAREHOLDERS’ EQUITY Long-Term Debt The long-term debt carrying values in the following schedule represent the par value of the debt, adjusted for any unamortized premium or discount, unamortized debt issuance costs, and basis adjustments for interest rate swaps designated as fair value hedges. LONG-TERM DEBT (In millions) March 31, 2022 December 31, 2021 Amount change Percent change Subordinated notes $ 557 $ 590 $ ( 33 ) ( 6 ) % Senior notes 128 418 ( 290 ) ( 69 ) Finance lease obligations 4 4 — — Total $ 689 $ 1,012 $ ( 323 ) ( 32 ) % The decrease in long-term debt was primarily due to the redemption of $ 290 million of the 4-year, 3.35 % senior notes during the first quarter of 2022. Common Stock Our common stock is traded on the National Association of Securities Dealers Automated Quotations (“NASDAQ”) Global Select Market. At March 31, 2022, there were 151.3 million shares of $ 0.001 par value common stock outstanding. Common stock and additional paid-in capital totaled $ 1.9 billion at March 31, 2022, which decreased $ 39 million, or 2 %, from December 31, 2021, primarily due to common stock repurchases. During the first three months of 2022, we repurchased 0.8 million common shares outstanding for $ 50 million at an average price of $ 65.31 per share. 66 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Accumulated Other Comprehensive Income (Loss) Accumulated other comprehensive income (loss) decreased to a loss of $ 1.3 billion at March 31, 2022, primarily due to decreases in the fair value of fixed-rate available-for-sale securities as a result of changes in interest rates. Changes in AOCI by component are as follows: (In millions) Net unrealized gains (losses) on investment securities Net unrealized gains (losses) on derivatives and other Pension and post-retirement Total Three Months Ended March 31, 2022 Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) OCI (loss) before reclassifications, net of tax ( 1,121 ) ( 135 ) — ( 1,256 ) Amounts reclassified from AOCI, net of tax — ( 10 ) — ( 10 ) Other comprehensive loss ( 1,121 ) ( 145 ) — ( 1,266 ) Balance at March 31, 2022 $ ( 1,199 ) $ ( 145 ) $ ( 2 ) $ ( 1,346 ) Income tax benefit included in OCI (loss) $ ( 363 ) $ ( 47 ) $ — $ ( 410 ) Three Months Ended March 31, 2021 Balance at December 31, 2020 $ 258 $ 69 $ ( 2 ) $ 325 OCI (loss) before reclassifications, net of tax ( 165 ) ( 1 ) — ( 166 ) Amounts reclassified from AOCI, net of tax — ( 11 ) — ( 11 ) Other comprehensive income (loss) ( 165 ) ( 12 ) — ( 177 ) Balance at March 31, 2021 $ 93 $ 57 $ ( 2 ) $ 148 Income tax benefit included in OCI (loss) $ ( 53 ) $ ( 4 ) $ — $ ( 57 ) Amounts reclassified from AOCI 1 Statement of income (SI) (In millions) Three Months Ended March 31, Details about AOCI components 2022 2021 Affected line item Net unrealized gains on derivative instruments $ 14 $ 15 SI Interest and fees on loans Income tax expense 4 4 Amounts reclassified from AOCI $ 10 $ 11 1 Positive reclassification amounts indicate increases to earnings in the income statement. 10. COMMITMENTS, GUARANTEES, AND CONTINGENT LIABILITIES Commitments and Guarantees Off-balance sheet financial obligations used to meet the financing needs of our customers include the followin (In millions) March 31, 2022 December 31, 2021 Unfunded lending commitments 1 $ 26,391 $ 25,797 Standby letters of cr Financial 589 597 Performance 255 245 Commercial letters of credit 18 22 Total unfunded commitments $ 27,253 $ 26,661 1 Net of participations. 67 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Our 2021 Form 10-K contains further information about these commitments and guarantees including their terms and collateral requirements. At March 31, 2022, the liability for the guarantees associated with the standby letters of credit was $ 4 million, which consisted of $ 2 million attributable to the RULC, and $ 2 million of deferred commitment fees. Legal Matters We are subject to litigation in court and arbitral proceedings, as well as proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. At March 31, 2022, we were subject to the following material litigation or governmental inquiri • a civil suit, JTS Communities, Inc. et. al v. CB&T, Jun Enkoji and Dawn Satow , brought against us in the Superior Court for Sacramento County, California in June 2017. In this case four investors in our former customer, International Manufacturing Group (“IMG”) seek to hold us liable for losses arising from their investments in that company, alleging that we conspired with and knowingly assisted IMG and its principal in furtherance of an alleged Ponzi scheme. In March 2022, the parties participated in mediation, which resulted in a binding settlement agreement. Our insurers are responsible for the payment of the settlement amount under applicable policies. The settlement is not expected to have a significant financial impact on the Bank. • a civil class action lawsuit, Evans v. CB&T , brought against us in the United States District Court for the Eastern District of California in May 2017. This case was filed on behalf of a class of up to 50 investors in IMG and seeks to hold us liable for losses of class members arising from their investments in IMG, alleging that we conspired with and knowingly assisted IMG and its principal in furtherance of an alleged Ponzi scheme. In December 2017, the District Court dismissed all claims against the Bank. In January 2018, the plaintiff filed an appeal with the Court of Appeals for the Ninth Circuit. The appeal was heard in early April 2019 with the Court of Appeals reversing the trial court’s dismissal. In March 2022, the parties participated in mediation and an agreement was reached in principle. Our insurers are responsible for the payment of the settlement amount under applicable policies. The settlement agreement will be submitted to the court for its preliminary approval of the agreement and notification of the putative class. There can be no assurance that the proposed settlement will result in a definitive agreement, that the conditions to the settlement will be met or the settlement will be approved by the court. If completed, the proposed settlement is not expected to have a significant financial impact on the Bank. • two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the Bank who filed for bankruptcy protection in 2017. The cases are in early phases, with initial motion practice and discovery underway in the Lifescan case. Trial has not been scheduled in either case. • a civil class action lawsuit, Gregory, et. al. v. Zions Bancorporation , brought against us in the United States District Court for Utah in January 2019. This case was filed on behalf of investors in Rust Rare Coin, Inc., alleging that we aided and abetted a Ponzi scheme fraud perpetrated by Rust Rare Coin, a Zions Bank customer. 68 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The case follows civil actions and the establishment of a receivership for Rust Rare Coin by The Commodities Futures Trading Commission and the Utah Division of Securities in November 2018, as well as a separate suit brought by the Securities and Exchange Commission (“SEC”) against Rust Rare Coin and its principal, Gaylen Rust. During the third quarter of 2020, the Court granted our motion to dismiss the plaintiffs' claims in part, dismissing claims relating to fraud and fiduciary duty, but allowing a claim for aiding and abetting conversion to proceed. On January 14, 2022, the parties notified the court they reached a settlement in principle and the parties are preparing to submit a proposed settlement agreement for the court’s preliminary approval of the agreement and notification of the putative class. There can be no assurance that the proposed settlement will result in a definitive agreement, that the conditions to the settlement will be met or the settlement will be approved by the court. If completed, the proposed settlement is not expected to have a significant financial impact on the Bank. • Five civil class action cases have been filed against us by the same plaintiffs’ attorney, seeking to hold the Bank liable for practices relating to, and disclosures in, its deposit agreement pertaining to fees. Sipple v. Zions Bancorporation, N.A. was brought against us in the District Court of Clark County, Nevada in February 2021 with respect to foreign transaction fees. The following four cases pertain to insufficient fund fees and have similar or overlapping claims: Ward v. Zions Bancorporation, N.A. was brought against us in federal court in the District of Arizona in May 2021; this case was dismissed by the court in February 2022, but the plaintiff has appealed. Thornton v. Zions Bancorporation, N.A. was brought against us in federal court in the District of Utah in June 2021; the attorney bringing this case took action to dismiss this case in February 2022. Christensen v. Zions Bancorporation, N.A. was brought against us in California state court in November 2021 and removed to federal court in the Southern District of California in January 2022. Covell v. Zions Bancorporation, N.A. was brought against us in federal court in the Southern District of California in April 2022. These cases are all in early phases of litigation. At least quarterly, we review outstanding and new legal matters, utilizing then available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at March 31, 2022, we estimated that the aggregate range of reasonably possible losses for those matters to be from $ 0 million to roughly $ 10 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and 69 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments and actual outcomes will differ from our estimates. These differences may be material. 11. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which was approximately 79 % of our total revenue in the first quarter of 2022. Only noninterest income is considered to be revenue from contracts with customers in scope of ASC 606. For more information about our revenue recognition from contracts, see Note 17 of our 2021 Form 10-K. Disaggregation of Revenue The schedule below presents noninterest income and net revenue by our operating business segments for the three months ended March 31, 2022 and 2021. Certain prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Zions Bank Amegy CB&T (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 15 $ 11 $ 11 $ 10 $ 7 $ 6 Card fees 13 13 8 6 5 4 Retail and business banking fees 6 5 4 4 3 3 Capital markets and foreign exchange fees — — — — — — Wealth management fees 6 5 4 3 1 1 Other customer-related fees 2 1 1 1 1 1 Total noninterest income from contracts with customers (ASC 606) 42 35 28 24 17 15 Other noninterest income (non-ASC 606 customer-related) 4 5 9 8 6 8 Total customer-related noninterest income 46 40 37 32 23 23 Other noncustomer-related noninterest income — ( 1 ) — — 1 1 Total noninterest income 46 39 37 32 24 24 Other real estate owned gain from sale — — — — — — Net interest income 157 157 112 116 129 131 Total income less interest expense $ 203 $ 196 $ 149 $ 148 $ 153 $ 155 70 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 2 $ 2 $ 3 $ 2 $ 2 $ 2 Card fees 4 2 3 3 2 1 Retail and business banking fees 2 2 3 3 1 1 Capital markets and foreign exchange fees — — — — — — Wealth management fees 1 1 1 1 — — Other customer-related fees — — — — 1 1 Total noninterest income from contracts with customers (ASC 606) 9 7 10 9 6 5 Other noninterest income (non-ASC 606 customer-related) 1 4 2 4 2 3 Total customer-related noninterest income 10 11 12 13 8 8 Other noncustomer-related noninterest income 1 — — — — — Total noninterest income 11 11 12 13 8 8 Other real estate owned gain from sale — — — — — — Net interest income 51 52 37 37 33 34 Total income less interest expense $ 62 $ 63 $ 49 $ 50 $ 41 $ 42 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 1 $ 1 $ — $ ( 2 ) $ 41 $ 32 Card fees — — 1 — 36 29 Retail and business banking fees — — — ( 1 ) 19 17 Capital markets and foreign exchange fees — — 1 2 1 2 Wealth management fees — — — — 13 11 Other customer-related fees — — 9 7 14 11 Total noninterest income from contracts with customers (ASC 606) 1 1 11 6 124 102 Other noninterest income (non-ASC 606 customer-related) — — 3 ( 1 ) 27 31 Total customer-related noninterest income 1 1 14 5 151 133 Other noncustomer-related noninterest income — — ( 11 ) 36 ( 9 ) 36 Total noninterest income 1 1 3 41 142 169 Other real estate owned gain from sale — — — — — — Net interest income 14 13 11 5 544 545 Total income less interest expense $ 15 $ 14 $ 14 $ 46 $ 686 $ 714 Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is typically not significant. 12. INCOME TAXES The effective income tax rate was 20.4 % for the first quarter of 2022, compared with 21.7 % for the first quarter of 2021. These rates were reduced by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the non-deductibility of Federal Deposit Insurance Corporation (“FDIC”) premiums, certain executive compensation plans, and other fringe benefits. The tax rate for the first quarter 2022 was lower than the tax rate for the same prior year period, primarily as a result of the proportional increase in nontaxable items and tax credits relative to pretax book income. At March 31, 2022, we had a net deferred tax asset (“DTA”) totaling $ 467 million, compared with $ 96 million at December 31, 2021. On the consolidated balance sheet, the net DTA is included in “Other assets.” The increase in the net DTA was driven largely by the increase in unrealized losses in AOCI associated with investment securities and derivative instruments, and was partially offset by the negative provision for credit losses and a decrease in deferred compensation. 71 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES There was no valuation allowance at March 31, 2022 or December 31, 2021. We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more-likely-than-not criteria that such assets will be realized. This evaluation includes, but is not limited to, (1) available carryback potential to prior tax years; (2) potential future reversals of existing deferred tax liabilities, which historically have a reversal pattern generally consistent with DTAs; (3) potential tax planning strategies; and (4) future projected taxable income. Based on this evaluation, we concluded that a valuation allowance was not required at March 31, 2022. 13. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: Three Months Ended March 31, (In millions, except shares and per share amounts) 2022 2021 Basic: Net income $ 203 $ 322 Less common and preferred dividends 66 64 Undistributed earnings 137 258 Less undistributed earnings applicable to nonvested shares 1 2 Undistributed earnings applicable to common shares 136 256 Distributed earnings applicable to common shares 57 56 Total earnings applicable to common shares $ 193 $ 312 Weighted average common shares outstanding (in thousands) 151,285 163,551 Net earnings per common share $ 1.27 $ 1.90 Dilut Total earnings applicable to common shares $ 193 $ 312 Weighted average common shares outstanding (in thousands) 151,285 163,551 Dilutive effect of stock options (in thousands) 402 336 Weighted average diluted common shares outstanding (in thousands) 151,687 163,887 Net earnings per common share $ 1.27 $ 1.90 The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per sh Three Months Ended March 31, (In thousands) 2022 2021 Restricted stock and restricted stock units 1,339 1,414 Stock options 109 377 14. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, Amegy Bank, California Bank & Trust, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. The operating segment identified as “Other” includes certain non-bank financial service subsidiaries, centralized back-office functions, and eliminations of transactions between segments. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an 72 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES internal funds transfer pricing (“FTP”) allocation system and process to report results of operations for business segments, which is continually refined. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. At March 31, 2022, Zions Bank operated 96 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. Amegy operated 75 branches in Texas. CB&T operated 82 branches in California. NBAZ operated 56 branches in Arizona. NSB operated 43 branches in Nevada. Vectra operated 34 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. 73 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the three months ended March 31, 2022 and 2021: Zions Bank Amegy CB&T (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 157 $ 157 $ 112 $ 116 $ 129 $ 131 Provision for credit losses ( 2 ) ( 11 ) ( 27 ) ( 53 ) 6 ( 37 ) Net interest income after provision for credit losses 159 168 139 169 123 168 Noninterest income 46 39 37 32 24 24 Noninterest expense 123 117 86 85 84 80 Income (loss) before income taxes $ 82 $ 90 $ 90 $ 116 $ 63 $ 112 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 12,817 $ 13,730 $ 11,795 $ 12,704 $ 12,845 $ 13,051 Total average deposits 26,120 21,711 16,413 14,243 16,468 15,183 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 51 $ 52 $ 37 $ 37 $ 33 $ 34 Provision for credit losses ( 4 ) ( 10 ) ( 3 ) ( 18 ) ( 4 ) — Net interest income after provision for credit losses 55 62 40 55 37 34 Noninterest income 11 11 12 13 8 8 Noninterest expense 40 38 37 36 30 28 Income (loss) before income taxes $ 26 $ 35 $ 15 $ 32 $ 15 $ 14 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 4,774 $ 5,108 $ 2,817 $ 3,247 $ 3,398 $ 3,451 Total average deposits 7,953 6,544 7,437 6,069 4,298 4,279 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 14 $ 13 $ 11 $ 5 $ 544 $ 545 Provision for credit losses — ( 3 ) 1 — ( 33 ) ( 132 ) Net interest income after provision for credit losses 14 16 10 5 577 677 Noninterest income 1 1 3 41 142 169 Noninterest expense 6 6 58 45 464 435 Income (loss) before income taxes $ 9 $ 11 $ ( 45 ) $ 1 $ 255 $ 411 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,591 $ 1,573 $ 896 $ 801 $ 50,933 $ 53,665 Total average deposits 1,581 1,398 1,335 2,019 81,605 71,446 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Interest rate and market risks are among the most significant risks regularly undertaken by us, and they are closely monitored as previously discussed. A discussion regarding our management of interest rate and market risk is included in the section entitled “Interest Rate and Market Risk Management” in this Form 10-Q. ITEM 4. CONTROLS AND PROCEDURES Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures at March 31, 2022. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at March 31, 2022. There were no changes in our internal control over financial reporting during the first quarter of 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 74 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The information contained in Note 10 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 1A. RISK FACTORS The following risk factor supplements the risk factors disclosed in our 2021 Form 10-K. The Russian invasion of Ukraine and the retaliatory measures imposed by the U.S., U.K., European Union and other countries and the responses of Russia to such measures have caused significant disruptions to domestic and foreign economies. The Russia and Ukraine conflict has created new risks for global markets, trade, economic conditions, cybersecurity, and similar concerns. For example, the conflict could affect the availability and price of commodities and products, adversely affecting supply chains and increasing inflationary pressures; the value of currencies, interest rates and other components of financial markets; and, if the conflict escalates, cyberattacks that could result in severe costs and disruptions to governmental entities and companies and their operations. The impact of the conflict and retaliatory measures is continually evolving and cannot be predicted with certainty. It is likely that the conflict will continue to affect the global political order and global and domestic markets for a substantial period of time, regardless of when the conflict itself ends. While these events have not materially interrupted our operations, these or future developments resulting from the Russia and Ukraine conflict, such as cyberattacks on the U.S., us, our customers, or our vendors, could make it difficult to conduct business activities for us, our customers, or our vendors. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS The following schedule summarizes our share repurchases for the first quarter of 2022: SHARE REPURCHASES Period Total number of shares repurchased 1 Average price paid per share Total number of shares purchased as part of publicly announced plans or programs January 1,742 $ 68.82 — February 116,693 70.03 107,559 March 659,813 64.59 658,022 First quarter 778,248 65.42 765,581 1 Includes common shares acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options under provisions of an employee share-based compensation plan. 75 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 6. EXHIBITS a. Exhibits Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in Inline XBRL (i) the Consolidated Balance Sheets as of March 31, 2022 and December 31, 2021, (ii) the Consolidated Statements of Income for the three months ended March 31, 2022 and March 31, 2021, (iii) the Consolidated Statements of Comprehensive Income for the three months ended March 31, 2022 and March 31, 2021, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the three months ended March 31, 2022 and March 31, 2021, (v) the Consolidated Statements of Cash Flows for the three months ended March 31, 2022 and March 31, 2021, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Quarterly Report on Form 10-Q, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. 76 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZIONS BANCORPORATION, NATIONAL ASSOCIATION /s/ Harris H. Simmons Harris H. Simmons, Chairman and Chief Executive Officer /s/ Paul E. Burdiss Paul E. Burdiss, Executive Vice President and Chief Financial Officer Date: May 6, 2022 77 |
Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) 36 Consolidated Balance Sheets 36 Consolidated Statements of Income 37 Consolidated Statements of Comprehensive Income (Loss) 38 Consolidated Statements of Changes in Shareholders’ Equity 38 Consolidated Statements of Cash Flows 40 Notes to Consolidated Financial Statements 41 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 4 Item 3. Quantitative and Qualitative Disclosures About Market Risk 80 Item 4. Controls and Procedures 81 PART II. OTHER INFORMATION Item 1. Legal Proceedings 81 Item 1A. Risk Factors 81 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 82 Item 6. Exhibits 83 Signatures 84 2 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses IPO Initial Public Offering AFS Available-for-Sale IRS Internal Revenue Service ALLL Allowance for Loan and Lease Losses LIBOR London Interbank Offered Rate Amegy Amegy Bank, a division of Zions Bancorporation, National Association Municipalities State and Local Governments AMERIBOR American Interbank Offered Rate NAICS North American Industry Classification System AOCI Accumulated Other Comprehensive Income NASDAQ National Association of Securities Dealers Automated Quotations ASC Accounting Standards Codification NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association ASU Accounting Standards Update NIM Net Interest Margin BOLI Bank-Owned Life Insurance NM Not Meaningful bps Basis Points NSB Nevada State Bank, a division of Zions Bancorporation, National Association BSBY Bloomberg Short-Term Bank Yield OCC Office of the Comptroller of the Currency CB&T California Bank & Trust, a division of Zions Bancorporation, National Association OCI Other Comprehensive Income CECL Current Expected Credit Loss OREO Other Real Estate Owned CLTV Combined Loan-to-Value Ratio PEI Private Equity Investment CMT Constant Maturity Treasury PPNR Pre-provision Net Revenue CRE Commercial Real Estate PPP Paycheck Protection Program CVA Credit Valuation Adjustment ROU Right-of-Use DTA Deferred Tax Asset RULC Reserve for Unfunded Lending Commitments EaR Earnings at Risk S&P Standard & Poor's EPS Earnings per Share SBA U.S. Small Business Administration EVE Economic Value of Equity SBIC Small Business Investment Company FASB Financial Accounting Standards Board SEC Securities and Exchange Commission FDIC Federal Deposit Insurance Corporation SOFR Secured Overnight Financing Rate FHLB Federal Home Loan Bank TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association FRB Federal Reserve Board TDR Troubled Debt Restructuring FTP Funds Transfer Pricing U.K. United Kingdom GAAP Generally Accepted Accounting Principles U.S. United States HECL Home Equity Credit Line Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association HTM Held-to-Maturity Zions Bank Zions Bank, a division of Zions Bancorporation, National Association IMG International Manufacturing Group 3 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION PART I. FINANCIAL INFORMATION ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING INFORMATION This quarterly report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. These forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although this list is not comprehensive, important factors that may cause material differences include changes in general industry and economic conditions, including inflation; changes and uncertainties in legislation and fiscal, monetary, regulatory, trade, and tax policies; changes in interest and reference rates; the quality and composition of our loan and securities portfolios; our ability to recruit and retain talent, including increased competition for qualified candidates as a result of expanded remote-work opportunities and increased compensation expenses; competitive pressures and other factors that may affect aspects of our business, such as pricing, demand for our products and services; our ability to execute our strategic plans, manage our risks, and achieve our business objectives; our ability to develop and maintain information security systems and controls designed to guard against fraud, cyber, and privacy risks; the effects of the COVID-19 pandemic (including variants) and associated actions that may affect our business, employees, and communities; the effects of the ongoing conflict in Eastern Europe and other local, national, or international disasters, crises, or conflicts that may occur in the future; and governmental and social responses to environmental issues and climate change. These factors, risks, and uncertainties, among others, are discussed in our 2021 Form 10-K and subsequent filings with the Securities and Exchange Commission (“SEC”). We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any of the forward-looking statements included herein to reflect future events or developments. GAAP to NON-GAAP RECONCILIATIONS This Form 10-Q presents non-GAAP financial measures, in addition to generally accepted accounting principles (“GAAP”) financial measures, to provide investors with additional information. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results and provide a meaningful base for period-to-period and company-to-company comparisons. We use these non-GAAP financial measures to assess our performance, financial position, and for presentations of our performance to investors. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by our management and the financial services industry. 4 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar financial measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under GAAP. Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets and their related amortization. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a business more consistently, whether acquired or developed internally. RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Three Months Ended (Dollar amounts in millions) June 30, 2022 March 31, 2022 June 30, 2021 Net earnings applicable to common shareholders, net of tax (a) $ 195 $ 195 $ 345 Average common equity (GAAP) $ 5,582 $ 6,700 $ 7,436 Average goodwill and intangibles (1,015) (1,015) (1,015) Average tangible common equity (non-GAAP) (b) $ 4,567 $ 5,685 $ 6,421 Number of days in quarter (c) 91 90 91 Number of days in year (d) 365 365 365 Return on average tangible common equity (non-GAAP) (a/b/c)*d 17.1 % 13.9 % 21.6 % TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) June 30, 2022 March 31, 2022 June 30, 2021 Total shareholders’ equity (GAAP) $ 5,632 $ 6,294 $ 8,033 Goodwill and intangibles (1,015) (1,015) (1,015) Tangible equity (non-GAAP) (a) 4,617 5,279 7,018 Preferred stock (440) (440) (440) Tangible common equity (non-GAAP) (b) $ 4,177 $ 4,839 $ 6,578 Total assets (GAAP) $ 87,784 $ 91,126 $ 87,208 Goodwill and intangibles (1,015) (1,015) (1,015) Tangible assets (non-GAAP) (c) $ 86,769 $ 90,111 $ 86,193 Common shares outstanding (thousands) (d) 150,471 151,348 162,248 Tangible equity ratio (non-GAAP) (a/c) 5.3 % 5.9 % 8.1 % Tangible common equity ratio (non-GAAP) (b/c) 4.8 % 5.4 % 7.6 % Tangible book value per common share (non-GAAP) (b/d) $ 27.76 $ 31.97 $ 40.54 5 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. The methodology of determining the efficiency ratio may differ among companies. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allow for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how we are managing our expenses; adjusted pre-provision net revenue (“PPNR”) enables management and others to assess our ability to generate capital. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) Three Months Ended Six Months Ended Year Ended (Dollar amounts in millions) June 30, 2022 March 31, 2022 June 30, 2021 June 30, 2022 June 30, 2021 December 31, 2021 Noninterest expense (GAAP) (a) $ 464 $ 464 $ 428 $ 928 $ 863 $ 1,741 Adjustments: Severance costs 1 — — 1 — 1 Other real estate expense, net — 1 — 1 — — Amortization of core deposit and other intangibles — — — — — 1 Pension termination-related (income) expense 1 — — — — (5) (5) SBIC investment success fee accrual 2 — (1) 9 (1) 9 7 Total adjustments (b) 1 — 9 1 4 4 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 463 $ 464 $ 419 $ 927 $ 859 $ 1,737 Net interest income (GAAP) (d) $ 593 $ 544 $ 555 $ 1,137 $ 1,100 $ 2,208 Fully taxable-equivalent adjustments (e) 9 8 7 17 15 32 Taxable-equivalent net interest income (non-GAAP) (d+e)=f 602 552 562 1,154 1,115 2,240 Noninterest income (GAAP) g 172 142 205 314 374 703 Combined income (non-GAAP) (f+g)=(h) 774 694 767 1,468 1,489 2,943 Adjustments: Fair value and nonhedge derivative gain (loss) 10 6 (5) 16 13 14 Securities gains (losses), net 2 1 (17) 63 (16) 74 71 Total adjustments (i) 11 (11) 58 — 87 85 Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 763 $ 705 $ 709 $ 1,468 $ 1,402 $ 2,858 Pre-provision net revenue (non-GAAP) (h)-(a) $ 310 $ 230 $ 339 $ 540 $ 626 $ 1,202 Adjusted PPNR (non-GAAP) (j)-(c) 300 241 290 541 543 1,121 Efficiency ratio (non-GAAP) 3 (c/j) 60.7 % 65.8 % 59.1 % 63.1 % 61.3 % 60.8 % 1 Represents a valuation adjustment related to the termination of our defined benefit pension plan. 2 The success fee accrual is associated with the gains/(losses) from our SBIC investments, which are excluded from the efficiency ratio through securities gains (losses), net. 3 Results for the first quarter of 2022 benefited from a one-time adjustment of approximately $6 million in commercial account fees. Excluding the $6 million adjustment, the efficiency ratio for the first quarter of 2022 would have been 66.4% . 6 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Comparisons noted below are calculated for the current quarter compared with the same prior-year period unless otherwise specified. Growth rates of 100% or more are considered not meaningful (“NM”) as they generally reflect a low starting point. RESULTS OF OPERATIONS Executive Summary Our financial results in the second quarter of 2022 reflected strong loan growth, solid credit performance, and increasing revenue, partially offset by a significant reduction in Paycheck Protection Program (“PPP”) revenue. Diluted earnings per share (“EPS”) decreased to $1.29, compared with $2.08 in the second quarter of 2021, as the prior year quarter benefited from a large negative provision for credit losses and a significant unrealized gain related to our Small Business Investment Company (“SBIC”) investment portfolio. Net interest income increased $38 million, or 7%, to $593 million, primarily due to a $3.1 billion increase in average interest-earning assets, a favorable change in earning-asset composition, and a higher interest rate environment. The net interest margin (“NIM”) was 2.87%, compared with 2.79% in the second quarter of 2021. The provision for credit losses was $41 million, compared with a $(123) million provision in the prior year period, reflecting changes in economic forecasts and loan growth. Net loan and lease charge-offs were $9 million, or 0.07% of average loans (ex-PPP), compared with net recoveries of $2 million, or (0.02)% of average loans (ex-PPP), in the prior year quarter. Total customer-related noninterest income increased $15 million, or 11%, driven by increased customer activity across most fee categories, notably capital markets and foreign exchange fees, other customer-related fees, and commercial account fees. Total noninterest income decreased $33 million, or 16%, primarily due to a $63 million unrealized gain during the prior year period relating to our SBIC investment in Recursion Pharmaceuticals, Inc. Total noninterest expense increased $36 million, or 8%. The increase was largely driven by a $35 million increase in salaries and benefits expense, which was impacted by increased incentive compensation accruals arising from improvements in anticipated full-year profitability, inflationary and competitive labor market pressures on wages and benefits, and increased headcount. Our efficiency ratio was 60.7%, compared with 59.1%. The growth in average interest-earning assets was driven by an $8.7 billion increase in average available-for-sale (“AFS”) investment securities and a $3.6 billion increase in average commercial loans (non-PPP) as we actively deployed excess liquidity. These increases were partially offset by declines in average PPP loans and average money market investments. Excluding PPP loans, total loans and leases increased $4.9 billion, or 10%, to $51.8 billion. The increases were primarily in the commercial and industrial, owner-occupied, municipal, and home equity credit line (“HECL”) portfolios. Total loans and leases increased $1.0 billion, or 2%, from the prior year quarter. Total deposits increased $3.0 billion, or 4%, from the prior year quarter, primarily due to a $2.2 billion increase in noninterest-bearing deposits. At June 30, 2022, total deposits decreased $3.3 billion from the previous quarter, primarily due to deposit attrition driven by a limited number of customers with deposit balances greater than $50 million. Our loan-to-deposit ratio was 66%, compared with 62% in the prior quarter. 7 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Second Quarter 2022 Financial Performance Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency Ratio Net earnings applicable to common shareholders decreased from the second quarter of 2021. The prior year quarter benefited from a ($123) million provision for credit losses, compared with $41 million in the second quarter of 2022. Diluted earnings per share declined from the second quarter of 2021 as a result of decreased net earnings, the effect of which was partially offset by a 12.2 million decrease in weighted average diluted shares, primarily due to share repurchases. Adjusted PPNR increased $10 million from the second quarter of 2021, primarily due to growth in customer-related noninterest income. This increase was partially offset by higher adjusted noninterest expense, driven by an increase in salaries and benefits expense. The efficiency ratio increased from the prior year quarter, primarily as growth in adjusted noninterest expense exceeded growth in adjusted revenue. Net Interest Income and Net Interest Margin NET INTEREST INCOME AND NET INTEREST MARGIN Three Months Ended June 30, Amount change Percent change (Dollar amounts in millions) 2022 2021 Interest and fees on loans 1 $ 468 $ 492 $ (24) (5) % Interest on money market investments 12 4 8 NM Interest on securities 128 74 54 73 Total interest income 608 570 38 7 Interest on deposits 7 7 — — Interest on short- and long-term borrowings 8 8 — — Total interest expense 15 15 — — Net interest income $ 593 $ 555 $ 38 7 % Average interest-earning assets $ 84,041 $ 80,916 $ 3,125 4 % Average interest-bearing liabilities $ 41,234 $ 40,232 $ 1,002 2 % bps Yield on interest-earning assets 2 2.94 % 2.86 % 8 Rate paid on total deposits and interest-bearing liabilities 2 0.07 % 0.08 % (1) Cost of total deposits 2 0.03 % 0.04 % (1) Net interest margin 2 2.87 % 2.79 % 8 1 Includes interest income recoveries of $4 million and $2 million for the three months ended June 30, 2022, and 2021, respectively. 2 Rates are calculated using amounts in thousands; taxable-equivalent rates are used where applicable. 8 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Net interest income accounted for approximately 78% of our net revenue (net interest income plus noninterest income) for the quarter, and increased $38 million, or 7%, to $593 million, primarily due to growth in average interest-earning assets, a favorable change in earning-asset composition, and a higher interest rate environment. Average interest-earning assets increased $3.1 billion, or 4%, driven by growth of $8.7 billion in AFS securities and $3.6 billion in commercial loans (ex-PPP). These increases were partially offset by a $5.1 billion decline in average PPP loans and $4.6 billion decrease in average money market investments. Average securities increased to 32% of average interest-earning assets, compared with 22%, as we actively deployed excess liquidity. The NIM was 2.87%, compared with 2.79%. The yield on average interest-earning assets was 2.94% in the second quarter of 2022, an increase of eight basis points (“bps”), primarily due to an increase in the yield on securities. The average rate paid on interest-bearing liabilities remained relatively stable at 0.14%. Excluding PPP loans, average loans and leases increased $4.2 billion, or 9%, primarily in the commercial and industrial, owner-occupied, municipal, and home equity credit line portfolios. Total average loans and leases decreased $1.0 billion, or 2%, to $51.8 billion, primarily due to the forgiveness of PPP loans. The yield on total loans decreased 10 basis points to 3.67%. The yield on non-PPP loans decreased six basis points, due to lower yields on new originations during the past year arising, in part, from promotional rates on commercial owner-occupied loans and home equity credit lines that we utilized to deploy excess liquidity. During the second quarter of 2022 and 2021, PPP loans totaling $0.6 billion and $2.3 billion, respectively, were forgiven by the Small Business Administration (“SBA”). PPP loans contributed $15 million and $68 million in interest income during the same time periods. The yield on PPP loans was 7.45% and 4.56% for the respective periods, and was positively impacted by accelerated amortization of deferred fees on paid off or forgiven PPP loans. At June 30, 2022 and 2021, the remaining unamortized net deferred fees on PPP loans totaled $11 million and $137 million, respectively. Average total deposits increased $6.3 billion, or 8%, to $80.9 billion at an average cost of 0.03%, from $74.6 billion at an average cost of 0.04% in the second quarter of 2021. Average interest-bearing liabilities increased $1.0 billion, or 2%. The rate paid on total deposits and interest-bearing liabilities remained relatively stable at 0.07%. 9 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Average AFS securities balances increased $8.7 billion, or 51%, to $25.7 billion, mainly due to an increase in our mortgage-backed securities portfolio. The yield on securities increased 26 basis points to 1.97%, largely due to higher interest rates. We expect our securities portfolio to decline modestly over the near term. Average borrowed funds decreased $0.7 billion, or 34%, to $1.4 billion, mainly due to a decrease in average long-term debt. The average rate paid on total borrowed funds increased 74 bps from the prior year quarter, primarily due to lower-yielding senior debt that was redeemed or matured over the past year. The growth of deposits has allowed us to reduce borrowed funds. For further discussion of the effects of market rates on net interest income and how we manage interest rate risk, refer to the “Interest Rate and Market Risk Management” section on page 28. For more information on how we manage liquidity risk, refer to the “Liquidity Risk Management” section on page 32. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 10 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED AVERAGE BALANCE SHEETS, YIELDS AND RATES (Unaudited) Three Months Ended June 30, 2022 Three Months Ended June 30, 2021 (Dollar amounts in millions) Average balance Amount of interest Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 3,113 $ 5 0.66 % $ 8,848 $ 2 0.11 % Federal funds sold and security resell agreements 2,542 7 1.13 1,405 2 0.51 Total money market investments 5,655 12 0.87 10,253 4 0.17 Securiti Held-to-maturity 485 4 2.96 579 4 2.91 Available-for-sale 25,722 123 1.91 17,041 69 1.63 Trading account 357 4 5.07 211 3 4.43 Total securities 2 26,564 131 1.97 17,831 76 1.71 Loans held for sale 38 — 0.72 62 1 2.50 Loans and leases 3 Commercial – excluding PPP loans 28,151 260 3.71 24,560 236 3.85 Commercial – PPP loans 801 15 7.45 5,945 68 4.56 Commercial real estate 12,098 112 3.69 12,037 103 3.46 Consumer 10,734 87 3.24 10,228 89 3.51 Total loans and leases 51,784 474 3.67 52,770 496 3.77 Total interest-earning assets 84,041 617 2.94 80,916 577 2.86 Cash and due from banks 617 579 Allowance for credit losses on loans and debt securities (480) (647) Goodwill and intangibles 1,015 1,015 Other assets 4,712 4,094 Total assets $ 89,905 $ 85,957 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 38,325 $ 6 0.06 % $ 35,987 $ 5 0.06 % Time 1,488 1 0.24 2,108 2 0.42 Total interest-bearing deposits 39,813 7 0.07 38,095 7 0.08 Borrowed funds: Federal funds purchased and other short-term borrowings 743 1 0.70 834 1 0.06 Long-term debt 678 7 3.79 1,303 7 2.31 Total borrowed funds 1,421 8 2.17 2,137 8 1.43 Total interest-bearing liabilities 41,234 15 0.14 40,232 15 0.15 Noninterest-bearing demand deposits 41,074 36,545 Other liabilities 1,575 1,200 Total liabilities 83,883 77,977 Shareholders’ equity: Preferred equity 440 544 Common equity 5,582 7,436 Total shareholders’ equity 6,022 7,980 Total liabilities and shareholders’ equity $ 89,905 $ 85,957 Spread on average interest-bearing funds 2.80 % 2.71 % Net impact of noninterest-bearing sources of funds 0.07 % 0.08 % Net interest margin $ 602 2.87 % $ 562 2.79 % Me total loans and leases, excluding PPP loans $ 50,983 459 3.61 % $ 46,825 428 3.67 % Me total cost of deposits 0.03 % 0.04 % Me total deposits and interest-bearing liabilities 82,308 15 0.07 % 76,777 15 0.08 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. The taxable-equivalent rates used are the rates that were applicable at the time of each respective reporting period. 2 Interest on total securities includes $27 million and $29 million of taxable-equivalent premium amortization for the second quarters of 2022 and 2021, respectively. 3 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 11 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Six Months Ended June 30, 2022 Six Months Ended June 30, 2021 (Dollar amounts in millions) Average balance Amount of interest 1 Average yield/rate Average balance Amount of interest 1 Average yield/rate ASSETS Money market investments $ 7,336 $ 18 0.50 % $ 9,029 $ 7 0.17 % Securiti Held-to-maturity 462 7 3.04 620 9 2.95 Available-for-sale 25,485 229 1.81 16,462 135 1.66 Trading account 370 9 4.91 221 5 4.18 Total securities 2 26,317 245 1.88 17,303 149 1.74 Loans held for sale 48 — 1.44 65 1 2.66 Loans and leases 3 Commercial – excluding PPP loans 27,597 496 3.63 24,646 470 3.84 Commercial – PPP loans 1,128 39 6.93 6,039 128 4.26 Commercial real estate 12,134 213 3.53 12,085 208 3.48 Consumer 10,501 169 3.24 10,445 184 3.55 Total loans and leases 51,360 917 3.60 53,215 990 3.75 Total interest-earning assets 85,061 1,180 2.80 79,612 1,147 2.90 Cash and due from banks 621 597 Allowance for loan losses (497) (710) Goodwill and intangibles 1,015 1,015 Other assets 4,463 4,012 Total assets $ 90,663 $ 84,526 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 38,726 $ 11 0.05 % $ 35,611 $ 11 0.06 % Time 1,538 2 0.25 2,299 5 0.49 Total interest-bearing deposits 40,264 13 0.06 37,910 16 0.09 Borrowed funds: Federal funds purchased and other short-term borrowings 669 1 0.42 971 1 0.06 Long-term debt 750 12 3.17 1,314 15 2.31 Total borrowed funds 1,419 13 1.88 2,285 16 1.35 Total interest-bearing liabilities 41,683 26 0.12 40,195 32 0.16 Noninterest-bearing demand deposits 40,980 35,142 Other liabilities 1,422 1,249 Total liabilities 84,085 76,586 Shareholders’ equity: Preferred equity 440 555 Common equity 6,138 7,385 Total shareholders’ equity 6,578 7,940 Total liabilities and shareholders’ equity $ 90,663 $ 84,526 Spread on average interest-bearing funds 2.68 % 2.74 % Net impact of noninterest-bearing sources of funds 0.05 % 0.08 % Net interest margin $ 1,154 2.73 % $ 1,115 2.82 % Me total loans and leases, excluding PPP loans $ 50,232 878 3.52 % $ 47,176 862 3.68 % Me total interest-earning assets, excluding PPP loans 83,933 1,141 2.74 % 73,573 1,019 2.79 % Me total cost of deposits 0.03 % 0.05 % Me total deposits and interest-bearing liabilities 82,663 26 0.06 % 75,337 32 0.08 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. The taxable-equivalent rates used are the rates that were applicable at the time of each respective reporting period. 2 Interest on total securities includes $55 million and $59 million of taxable-equivalent premium amortization for the first six months of 2022 and 2021, respectively. 3 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 12 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans. The provision for credit losses, which is the combination of both the provision for loan and lease losses and the provision for unfunded lending commitments, was $41 million, compared with $(123) million in the second quarter of 2021. The ACL was $546 million at June 30, 2022, compared with $574 million at June 30, 2021. The ACL increased $32 million from the previous quarter, primarily due to the increased probability of a recession and loan growth. The ACL is informed by our view of economic forecasts, which have changed over the first six months of 2022. The ratio of ACL to net loans and leases (ex-PPP) was 1.05% and 1.22% at June 30, 2022 and 2021, respectively. The provision for securities losses was less than $1 million during the second quarter of 2022 and 2021. 13 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The bar chart above illustrates the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic forecasts and current economic conditions, which decreased the ACL by $16 million from the prior year quarter. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, decreased the ACL by $15 million, indicating improvements in overall credit quality. Net loan and lease charge-offs were $9 million, or 0.07% annualized of average loans (ex-PPP), in the second quarter of 2022, compared with net recoveries of $2 million, or 0.02% annualized of average loans (ex-PPP), in the prior year quarter. The fourth bar represents loan portfolio changes, driven by loan growth (ex-PPP), changes in portfolio mix, the aging of the portfolio, and other risk factors; all of which resulted in a $3 million increase in the ACL. See “Credit Risk Management” on page 21 and Note 6 in our 2021 Form 10-K for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue we earn from products and services that generally have no associated interest rate or yield and is classified as either customer-related or noncustomer-related. Customer-related noninterest income excludes items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income decreased $33 million, or 16%, from $205 million during the prior year quarter. Noninterest income accounted for 22% and 27% of net revenue during the second quarter of 2022 and 2021, respectively. The following schedule presents a comparison of the major components of noninterest income. 14 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION NONINTEREST INCOME Three Months Ended June 30, Amount change Percent change Six Months Ended June 30, Amount change Percent change (Dollar amounts in millions) 2022 2021 2022 2021 Commercial account fees $ 37 $ 34 $ 3 9 % $ 78 $ 66 $ 12 18 % Card fees 25 24 1 4 50 45 5 11 Retail and business banking fees 20 18 2 11 40 35 5 14 Loan-related fees and income 21 21 — — 43 46 (3) (7) Capital markets and foreign exchange fees 21 17 4 24 36 32 4 13 Wealth management fees 13 12 1 8 27 24 3 13 Other customer-related fees 17 13 4 31 31 24 7 29 Customer-related noninterest income 154 139 15 11 305 272 33 12 Fair value and nonhedge derivative income 10 (5) 15 NM 16 13 3 23 Dividends and other income 7 8 (1) (13) 9 15 (6) (40) Securities gains (losses), net 1 63 (62) (98) (16) 74 (90) NM Noncustomer-related noninterest income 18 66 (48) (73) 9 102 (93) (91) Total noninterest income $ 172 $ 205 $ (33) (16) % $ 314 $ 374 $ (60) (16) % Customer-related Total customer-related noninterest income increased $15 million, or 11%, from the prior year quarter, mainly due to increased customer transaction activity across most fee categories, notably capital markets and foreign exchange fees, other customer-related fees, and commercial account fees. Retail and business banking fees include overdraft and non-sufficient funds fees. Beginning in the third quarter of 2022, we expect to reduce the rate and frequency with which such fees are assessed. Relative to current activity levels, we expect this will reduce our customer-related noninterest income by approximately $5 million per quarter. Noncustomer-related Total noncustomer-related noninterest income decreased $48 million, relative to the prior year quarter. Net securities gains and losses decreased $62 million, mainly due to a large unrealized gain during the prior year period related to the initial public offering (“IPO”) of our SBIC investment in Recursion Pharmaceuticals, Inc. Fair value and nonhedge derivative income increased $15 million from the prior year period. We recognized a $10 million gain during the quarter related to a credit valuation adjustment (“CVA”) on client-related interest rate swaps, compared with a $5 million CVA loss in the prior year period. 15 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Noninterest Expense The following schedule presents a comparison of the major components of noninterest expense. NONINTEREST EXPENSE Three Months Ended June 30, Amount change Percent change Six Months Ended June 30, Amount change Percent change (Dollar amounts in millions) 2022 2021 2022 2021 Salaries and employee benefits $ 307 $ 272 $ 35 13 % $ 619 $ 560 $ 59 11 % Technology, telecom, and information processing 53 49 4 8 105 98 7 7 Occupancy and equipment, net 36 39 (3) (8) 74 78 (4) (5) Professional and legal services 14 18 (4) (22) 28 39 (11) (28) Marketing and business development 9 7 2 29 17 14 3 21 Deposit insurance and regulatory expense 13 7 6 86 23 17 6 35 Credit-related expense 7 6 1 17 14 12 2 17 Other real estate expense, net — — — NM 1 — 1 NM Other 25 30 (5) (17) 47 45 2 4 Total noninterest expense $ 464 $ 428 $ 36 8 % $ 928 $ 863 $ 65 8 % Adjusted noninterest expense 1 $ 463 $ 419 $ 44 11 % $ 927 $ 859 $ 68 8 % 1 For information on non-GAAP financial measures, see “GAAP to Non-GAAP Reconciliations” on page 4. Total noninterest expense increased $36 million, or 8%, relative to the prior year quarter. Salaries and benefits expense increased $35 million, or 13%, due to increased incentive compensation accruals arising from improvements in anticipated full-year profitability, inflationary and competitive labor market pressures on wages and benefits, and increased headcount. Deposit insurance and regulatory expense increased $6 million, driven by a higher Federal Deposit Insurance Corporation (“FDIC”) insurance assessment as a result of changes in balance sheet composition. Other noninterest expense decreased $5 million, or 17%, primarily due to the success fee accrual in the prior year period related to the IPO of our SBIC investment in Recursion Pharmaceuticals, Inc. Professional and legal services expense decreased $4 million, or 22%, due to reduced third-party assistance associated with PPP loan forgiveness and various other technology-related and outsourced services. The efficiency ratio was 60.7%, compared with 59.1%. For information on non-GAAP financial measures, including differences between noninterest expense and adjusted noninterest expense, see page 4. Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods present INCOME TAXES Three Months Ended June 30, Six Months Ended June 30, (Dollar amounts in millions) 2022 2021 2022 2021 Income before income taxes $ 260 $ 455 $ 515 $ 866 Income tax expense 57 101 109 190 Effective tax rate 21.9 % 22.2 % 21.2 % 21.9 % See Note 12 of the Notes to Consolidated Financial Statements for more information about the factors that influenced the income tax rates as well as information about deferred income tax assets and liabilities. 16 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Preferred Stock Dividends Preferred stock dividends totaled $8 million and $9 million for the second quarter of 2022 and 2021, respectively. Technology Spend As the banking industry continues to move toward information technology-based products and services, we recognize there are disparate ways of discussing expenditures associated with technology-related investments and operations. We generally describe these expenditures as total technology spend, which includes current period expenses reported on our consolidated statement of income, and capitalized investments, net of related amortization and depreciation, reported on our consolidated balance sheet. We believe these disclosures provide more relevant presentation and discussion regarding our technology-related investments and operations. The following schedule provides information related to our technology spen TECHNOLOGY SPEND Three Months Ended June 30, Six Months Ended June 30, (In millions) 2022 2021 2022 2021 Technology, telecom, and information processing expense $ 53 $ 49 $ 105 $ 98 Other technology-related expense 51 48 100 92 Technology investments 22 24 44 52 L related amortization and depreciation (13) (14) (27) (27) Total technology spend $ 113 $ 107 $ 222 $ 215 Total technology spend increased $6 million, or 6%, from the second quarter of 2021, primarily due to increases in application software licensing and maintenance expense. Total technology spend represents expenditures for technology systems and infrastructure and is reported as a combination of the followin • Technology, telecom, and information processing expense — includes expenses related to application software licensing and maintenance, related amortization, telecommunications, and data processing; • Other technology-related expenses — includes related noncapitalized salaries and employee benefits, occupancy and equipment, and professional and legal services; and • Technology investments — includes capitalized technology infrastructure equipment, hardware, and purchased or internally developed software, less related amortization or depreciation. BALANCE SHEET ANALYSIS Interest-Earning Assets Interest-earning assets are assets that have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see the Consolidated Average Balance Sheet on page 11. Investment Securities Portfolio We invest in securities to generate interest income and to actively manage liquidity, interest rate, and credit risk. Refer to the “Liquidity Risk Management” section on page 32 for additional information about how we manage our liquidity risk. See Note 3 and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. 17 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule presents the components of our investment securities portfolio. INVESTMENT SECURITIES PORTFOLIO June 30, 2022 December 31, 2021 (In millions) Par value Amortized cost Estimated fair value Par value Amortized cost Estimated fair value Held-to-maturity Municipal securities $ 614 $ 614 $ 578 $ 441 $ 441 $ 443 Available-for-sale U.S. Treasury securities 555 557 442 155 155 134 U.S. Government agencies and corporatio Agency securities 908 899 877 833 833 845 Agency guaranteed mortgage-backed securities 23,601 23,768 21,311 20,340 20,549 20,387 Small Business Administration loan-backed securities 818 878 856 867 938 912 Municipal securities 1,658 1,835 1,737 1,489 1,652 1,694 Other debt securities 75 75 74 75 75 76 Total available-for-sale 27,615 28,012 25,297 23,759 24,202 24,048 Total HTM and AFS investment securities $ 28,229 $ 28,626 $ 25,875 $ 24,200 $ 24,643 $ 24,491 The amortized cost of total held-to-maturity (“HTM”) and AFS investment securities increased $4.0 billion, or 16%, from December 31, 2021. Approximately 8% and 11% of the total HTM and AFS investment securities portfolio were floating rate at June 30, 2022 and December 31, 2021, respectively. At June 30, 2022, the investment securities portfolio includes $397 million of net premium that is distributed across various asset classes. Total premium amortization for our investment securities was $25 million for the second quarter of 2022, compared with $27 million for the same prior year period. Refer to the “Capital Management” section on page 33 and Note 5 of the Notes to Consolidated Financial Statements for more discussion on our investment securities portfolio and related unrealized gains/losses. At June 30, 2022, based on the GAAP fair value hierarchy, 1.7% and 98.3% of the $25.3 billion AFS securities portfolio was valued at Level 1 and Level 2, respectively, compared with 0.6% and 99.4% at December 31, 2021. None of the AFS securities portfolio was valued at Level 3 for either period. See Note 3 of the Notes to Consolidated Financial Statements for further discussion of fair value accounting. Municipalities We provide products and services to state and local governments (referred to collectively as “municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. The following schedule summarizes our exposure to state and local municipaliti EXPOSURE TO MUNICIPALITIES (In millions) June 30, 2022 December 31, 2021 Loans and leases $ 4,113 $ 3,658 Held-to-maturity – municipal securities 614 441 Available-for-sale – municipal securities 1,737 1,694 Trading account – municipal securities 287 355 Unfunded lending commitments 285 280 Total direct exposure to municipalities $ 7,036 $ 6,428 The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. Our municipal loans and securities primarily relate to municipalities located within our geographic footprint. 18 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION At June 30, 2022, no municipal loans were on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At June 30, 2022, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. Loan and Lease Portfolio At June 30, 2022 and December 31, 2021, the ratio of loans and leases to total assets was 60% and 55%, respectively. The largest loan category was commercial and industrial loans, which constituted 29% and 27% of our total loan portfolio for the same periods. The following schedule presents our loans and leases according to major portfolio segment, specific loan class, and percentage of total loa LOAN AND LEASE PORTFOLIO June 30, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 14,989 28.6 % $ 13,867 27.3 % PPP 534 1.0 1,855 3.6 Leasing 339 0.6 327 0.6 Owner-occupied 9,208 17.6 8,733 17.2 Municipal 4,113 7.9 3,658 7.2 Total commercial 29,183 55.7 28,440 55.9 Commercial real estate: Construction and land development 2,659 5.1 2,757 5.4 Term 9,477 18.1 9,441 18.6 Total commercial real estate 12,136 23.2 12,198 24.0 Consume Home equity credit line 3,266 6.2 3,016 5.9 1-4 family residential 6,423 12.3 6,050 11.9 Construction and other consumer real estate 787 1.5 638 1.3 Bankcard and other revolving plans 448 0.9 396 0.8 Other 127 0.2 113 0.2 Total consumer 11,051 21.1 10,213 20.1 Total net loans and leases $ 52,370 100.0 % $ 50,851 100.0 % The loan and lease portfolio increased $1.5 billion from December 31, 2021. Excluding PPP loans, commercial loans increased $2.1 billion, or 8%, driven largely by increases in commercial and industrial loans, owner-occupied loans, and municipal loans of $1.1 billion, $475 million, and $455 million, respectively. Consumer loans increased $838 million, primarily due to increases in 1-4 family residential loans, home equity credit lines, and construction and other consumer real estate loans. 19 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Other Noninterest-Bearing Investments Other noninterest-bearing investments are equity investments that are held primarily for capital appreciation, dividends, or for certain regulatory requirements. The following schedule summarizes our related investments: OTHER NONINTEREST-BEARING INVESTMENTS (Dollar amounts in millions) June 30, 2022 December 31, 2021 Amount change Percent change Bank-owned life insurance $ 541 $ 537 $ 4 1 % Federal Home Loan Bank stock 11 11 — — Federal Reserve stock 70 81 (11) (14) Farmer Mac stock 18 19 (1) (5) SBIC investments 165 179 (14) (8) Other 35 24 11 46 Total other noninterest-bearing investments $ 840 $ 851 $ (11) (1) % Total other noninterest-bearing investments decreased $11 million, or 1%, during the first six months of 2022, primarily due to a $14 million decrease in the value of our SBIC investments. This decrease was driven largely by negative mark-to-market adjustments associated with our investment in Recursion Pharmaceuticals, Inc. This investment will continue to be marked-to-market until the SBIC fund manager divests of the shares. Premises, Equipment, and Software Net premises, equipment, and software increased $53 million, or 4%, from December 31, 2021, primarily due to capitalized costs related to the construction of a new corporate technology center in Midvale, Utah, which was completed in July 2022, and a new corporate center for Vectra in Denver, Colorado, which is expected to be completed in the fourth quarter of 2022. These new facilities will allow us to achieve efficiencies by eliminating a number of smaller facilities and by reducing related occupancy costs. We are also in the final phase of a three-phase project to replace our core loan and deposit banking systems, and are on track to convert our deposit servicing system in 2023. Capitalized costs associated with the core system replacement project generally carry a useful life of ten years, and are summarized in the following schedule. CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT June 30, 2022 (In millions) Phase 1 Phase 2 Phase 3 Total Total amount of capitalized costs, less accumulated depreciation $ 34 $ 59 $ 178 $ 271 Deposits Deposits are a primary funding source. The following schedule presents our deposits by category and percentage of total deposits: DEPOSITS June 30, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Noninterest-bearing demand $ 40,289 51.0 % $ 41,053 49.6 % Interest-bearin Savings and money market 37,346 47.2 40,114 48.4 Time 1,426 1.8 1,622 2.0 Total deposits $ 79,061 100.0 % $ 82,789 100.0 % 20 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Total deposits decreased $3.7 billion, or 5%, from December 31, 2021, primarily due to a $3.0 billion decrease in interest-bearing deposits, and a $0.8 billion decrease in noninterest-bearing deposits. Total deposits included $373 million and $381 million of brokered deposits at June 30, 2022 and December 31, 2021, respectively. See “Liquidity Risk Management” on page 32 for additional information on funding and borrowed funds. Total United States (“U.S.”) time deposits that exceed the current FDIC insurance limit of $250,000 were $430 million and $563 million at June 30, 2022 and December 31, 2021, respectively. The estimated total amount of uninsured deposits, including related interest accrued and unpaid, was $45 billion and $49 billion at June 30, 2022 and December 31, 2021, respectively. RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We employ various strategies to reduce the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cyber risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by the various management committees of which the Enterprise Risk Management Committee is the focal point. For a more comprehensive discussion of these risks, see “Risk Factors” in our 2021 Form 10-K. Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. For a more comprehensive discussion of our credit risk management, see “Credit Risk Management” in our 2021 Form 10-K. U.S. Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by U.S. government agencies, such as the SBA, Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At June 30, 2022, $965 million of related loans were guaranteed, primarily by the SBA, and include $534 million of PPP loans. The following schedule presents the composition of U.S. government agency guaranteed loans. U.S. GOVERNMENT AGENCY GUARANTEED LOANS (Dollar amounts in millions) June 30, 2022 Percent guaranteed December 31, 2021 Percent guaranteed Commercial $ 1,071 89 % $ 2,410 95 % Commercial real estate 17 76 22 73 Consumer 4 100 5 100 Total loans $ 1,092 88 % $ 2,437 94 % 21 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. COMMERCIAL LENDING BY INDUSTRY GROUP 1 June 30, 2022 December 31, 2021 (Dollar amounts in millions) Amount Percent Amount Percent Real estate, rental and leasing $ 2,716 9.3 % $ 2,536 8.9 % Finance and insurance 2,673 9.2 2,303 8.1 Retail trade 2,629 9.0 2,412 8.5 Healthcare and social assistance 2,356 8.1 2,349 8.2 Manufacturing 2,342 8.0 2,374 8.3 Public Administration 2,218 7.6 1,959 6.9 Wholesale trade 1,857 6.4 1,701 6.0 Utilities 2 1,461 5.0 1,446 5.1 Construction 1,364 4.7 1,456 5.1 Hospitality and food services 1,210 4.1 1,353 4.8 Educational services 1,194 4.1 1,163 4.1 Mining, quarrying, and oil and gas extraction 1,186 4.1 1,185 4.2 Transportation and warehousing 1,156 4.0 1,273 4.5 Other services (except Public Administration) 1,149 3.9 1,213 4.2 Professional, scientific, and technical services 1,035 3.5 1,084 3.8 Other 3 2,637 9.0 2,633 9.3 Total $ 29,183 100.0 % $ 28,440 100.0 % 1 Industry groups are determined by North American Industry Classification System (“NAICS”) codes. 2 Includes primarily utilities, power, and renewable energy. 3 No other industry group exceeds 2.7%. Commercial Real Estate Loans The following schedules present credit quality information for our commercial real estate (“CRE”) loan portfolio segmented by real estate category and collateral location. 22 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION COMMERCIAL REAL ESTATE PORTFOLIO BY LOAN TYPE AND COLLATERAL LOCATION (Dollar amounts in millions) June 30, 2022 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total % of total CRE Commercial term Balance outstanding $ 1,045 $ 3,110 $ 438 $ 664 $ 1,728 $ 1,597 $ 567 $ 328 $ 9,477 78.1 % % of loan type 11.0 % 32.8 % 4.6 % 7.0 % 18.2 % 16.9 % 6.0 % 3.5 % 100.0 % Delinquency rates 2 : 30-89 days — % 1.4 % — % — % — % 0.1 % — % — % 0.5 % ≥ 90 days — % — % — % — % 0.3 % — % 0.5 % 0.3 % 0.1 % Accruing loans past due 90 days or more $ — $ — $ — $ — $ — $ — $ 3 $ — $ 3 Nonaccrual loans $ — $ 4 $ — $ — $ 15 $ — $ — $ 1 $ 20 Commercial construction and land development Balance outstanding $ 266 $ 457 $ 94 $ 82 $ 289 $ 506 $ 200 $ 46 $ 1,940 16.0 % % of loan type 13.7 % 23.6 % 4.8 % 4.2 % 14.9 % 26.1 % 10.3 % 2.4 % 100.0 % Delinquency rates 2 : 30-89 days — % — % 24.4 % — % — % — % — % — % 1.2 % ≥ 90 days — % — % — % — % — % — % — % — % — % Residential construction and land development 3 Balance outstanding $ 75 $ 121 $ 51 $ 3 $ 219 $ 199 $ 9 $ 42 $ 719 5.9 % % of loan type 10.5 % 16.8 % 7.2 % 0.4 % 30.4 % 27.6 % 1.2 % 5.9 % 100.0 % Total construction and land development $ 341 $ 578 $ 145 $ 85 $ 508 $ 705 $ 209 $ 88 $ 2,659 Total CRE $ 1,386 $ 3,688 $ 583 $ 749 $ 2,236 $ 2,302 $ 776 $ 416 $ 12,136 100.0 % (Dollar amounts in millions) December 31, 2021 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total % of total CRE Commercial term Balance outstanding $ 1,038 $ 3,331 $ 508 $ 653 $ 1,606 $ 1,408 $ 444 $ 453 $ 9,441 77.4 % % of loan type 11.0 % 35.3 % 5.4 % 6.9 % 17.0 % 14.9 % 4.7 % 4.8 % 100.0 % Delinquency rates 2 : 30-89 days — % 0.2 % 0.2 % — % — % 0.1 % — % — % 0.1 % ≥ 90 days — % 0.1 % — % — % 0.2 % — % — % — % 0.1 % Accruing loans past due 90 days or more $ — $ — $ — $ — $ — $ — $ — $ — $ — Nonaccrual loans $ — $ 3 $ — $ — $ 17 $ — $ — $ — $ 20 Commercial construction and land development Balance outstanding $ 242 $ 405 $ 94 $ 107 $ 475 $ 543 $ 181 $ 40 $ 2,087 17.1 % % of loan type 11.6 % 19.4 % 4.5 % 5.1 % 22.8 % 26.0 % 8.7 % 1.9 % 100.0 % Delinquency rates 2 : 30-89 days — % — % — % — % — % — % 13.2 % — % 0.9 % ≥ 90 days — % — % — % — % — % — % — % — % — % Residential construction and land development 3 Balance outstanding $ 82 $ 167 $ 44 $ 2 $ 162 $ 167 $ 9 $ 37 $ 670 5.5 % % of loan type 12.3 % 25.0 % 6.6 % 0.2 % 24.2 % 24.9 % 1.3 % 5.5 % 100.0 % Total construction and land development $ 324 $ 572 $ 138 $ 109 $ 637 $ 710 $ 190 $ 77 $ 2,757 Total CRE $ 1,362 $ 3,903 $ 646 $ 762 $ 2,243 $ 2,118 $ 634 $ 530 $ 12,198 100.0 % 1 No other geography exceeds $61 million and $65 million for all three loan types at June 30, 2022 and December 31, 2021, respectively. 2 Delinquency rates include nonaccrual loans. 3 At June 30, 2022 and December 31, 2021, there was no meaningful delinquency or nonaccrual activity for residential construction and land development loans. 23 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION At June 30, 2022, our CRE construction and land development and term loan portfolios represented approximately 23% of the total loan portfolio. The majority of our CRE loans are secured by real estate, which is primarily located within our geographic footprint. Approximately 19% of the CRE loan portfolio matures in the next 12 months. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with one- to five-year extension options or roll-to-perm options that often result in term debt. Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and non-recourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. Approximately $198 million, or 7%, of the commercial construction and land development portfolio at June 30, 2022 consists of acquisition and development loans. Most of these land acquisition and development loans are secured by specific retail, apartment, office, or other projects. For a more comprehensive discussion of CRE loans, see the “Commercial Real Estate Loans” section in our 2021 Form 10-K. Consumer Loans We originate first-lien residential home mortgages considered to be of prime quality. We generally hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. We also originate home equity credit lines. At June 30, 2022 and December 31, 2021, our HECL portfolio totaled $3.3 billion and $3.0 billion, respectively. The following schedule presents the composition of our HECL portfolio by lien status. HECL PORTFOLIO BY LIEN STATUS (In millions) June 30, 2022 December 31, 2021 Secured by first liens $ 1,549 $ 1,503 Secured by second (or junior) liens 1,717 1,513 Total $ 3,266 $ 3,016 At June 30, 2022, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with high credit scores. Approximately 91% of our HECL portfolio is still in the draw period, and approximately 17% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is minimal. The ratio of HECL net charge-offs for the trailing twelve months to average balances at June 30, 2022 and December 31, 2021 was 0.00% and (0.01)%, respectively. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of the HECL portfolio. Nonperforming Assets Nonperforming assets as a percentage of loans and leases and other real estate owned (“OREO”) decreased to 0.38% at June 30, 2022, compared with 0.53% at December 31, 2021. Total nonaccrual loans at June 30, 2022 decreased to $201 million from $271 million at December 31, 2021, reflecting credit quality improvements across most of our loan portfolios. 24 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The balance of nonaccrual loans can decrease due to paydowns, charge-offs, and the return of loans to accrual status under certain conditions. If a nonaccrual loan is refinanced or restructured, the new note is immediately placed on nonaccrual. If a restructured loan performs under the new terms for a period of at least six months, the loan can be considered for return to accrual status. See “Restructured Loans” and Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. The following schedule presents our nonperforming assets: NONPERFORMING ASSETS (Dollar amounts in millions) June 30, 2022 December 31, 2021 Nonaccrual loans 1 $ 201 $ 271 Other real estate owned 2 — 1 Total nonperforming assets $ 201 $ 272 Ratio of nonperforming assets to net loans and leases 1 and other real estate owned 2 0.38 % 0.53 % Accruing loans past due 90 days or more $ 6 $ 8 Ratio of accruing loans past due 90 days or more to loans and leases 1 0.01 % 0.02 % Nonaccrual loans 1 and accruing loans past due 90 days or more $ 207 $ 279 Ratio of nonperforming assets 1 and accruing loans past due 90 days or more to loans and leases 1 and other real estate owned 2 0.39 % 0.55 % Accruing loans past due 30-89 days 3 $ 123 $ 70 Nonaccrual loans 1 current as to principal and interest payments 68.7 % 70.2 % 1 Includes loans held for sale. 2 Does not include banking premises held for sale. 3 Includes $7 million and $35 million of PPP loans at June 30, 2022 and December 31, 2021, respectively, which we expect will be paid in full by either the borrower or the SBA. Troubled Debt Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are classified as troubled debt restructurings (“TDRs”). At June 30, 2022 and December 31, 2021, TDRs totaled $275 million and $326 million, respectively. Modifications that qualified for applicable accounting and regulatory exemption for borrowers experiencing financial difficulties exclusively related to the COVID-19 pandemic were not classified and reported as TDRs. If the restructured loan performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the restructuring is taken into account to determine whether a loan should be returned to accrual status. ACCRUING AND NONACCRUING TROUBLED DEBT RESTRUCTURED LOANS (In millions) June 30, 2022 December 31, 2021 Restructured loans – accruing $ 214 $ 221 Restructured loans – nonaccruing 61 105 Total $ 275 $ 326 25 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION In the periods following the calendar year in which a loan was restructured, a loan may no longer be reported as a TDR if it is accruing, is in compliance with its modified terms, and yields a market rate (as determined and documented at the time of the modification or restructure). See Note 6 of the Notes to Consolidated Financial Statements for additional information regarding TDRs. TROUBLED DEBT RESTRUCTURED LOANS ROLLFORWARD Three Months Ended June 30, Six Months Ended June 30, (In millions) 2022 2021 2022 2021 Balance at beginning of period $ 316 $ 414 $ 326 $ 311 New identified TDRs and principal increases 15 63 27 183 Payments and payoffs (42) (17) (62) (31) Charge-offs (1) (1) (2) (3) No longer reported as TDRs (3) — (3) — Sales and other (10) (1) (11) (2) Balance at end of period $ 275 $ 458 $ 275 $ 458 Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. 26 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The following schedule shows the changes in the ACL and a summary of credit loss experien SUMMARY OF CREDIT LOSS EXPERIENCE (Dollar amounts in millions) Six Months Ended June 30, 2022 Twelve Months Ended December 31, 2021 Six Months Ended June 30, 2021 Loans and leases outstanding $ 52,370 $ 50,851 $ 51,398 Average loans and leases outstandin Commercial – excluding PPP loans 27,597 25,014 24,646 Commercial – PPP loans 1,128 4,566 6,039 Commercial real estate 12,134 12,136 12,085 Consumer 10,501 10,267 10,445 Total average loans and leases outstanding $ 51,360 $ 51,983 $ 53,215 Allowance for loan and lease loss Balance at beginning of period $ 513 $ 777 $ 777 Provision for loan losses 10 (258) (236) Charge-offs: Commercial 28 35 23 Commercial real estate — — — Consumer 7 13 6 Total 35 48 29 Recoveri Commercial 15 29 17 Commercial real estate — 3 — Consumer 5 10 6 Total 20 42 23 Net loan and lease charge-offs 15 6 6 Balance at end of period $ 508 $ 513 $ 535 Reserve for unfunded lending commitments: Balance at beginning of period $ 40 $ 58 $ 58 Provision for unfunded lending commitments (2) (18) (19) Balance at end of period $ 38 $ 40 $ 39 Total allowance for credit loss Allowance for loan and lease losses $ 508 $ 513 $ 535 Reserve for unfunded lending commitments 38 40 39 Total allowance for credit losses $ 546 $ 553 $ 574 Ratio of allowance for credit losses to net loans and leases, at period end 1 1.04 % 1.09 % 1.12 % Ratio of allowance for credit losses to nonaccrual loans, at period end 280 % 204 % 188 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, at period end 272 % 198 % 184 % Ratio of total net charge-offs to average loans and leases 2, 3 0.06 % 0.01 % 0.02 % Ratio of commercial net charge-offs to average commercial loans 3 0.09 % 0.02 % 0.04 % Ratio of commercial real estate net charge-offs to average commercial real estate loans 3 — % (0.02) % — % Ratio of consumer net charge-offs to average consumer loans 3 0.04 % 0.03 % — % 1 The ratio of allowance for credit losses to net loans and leases (excluding PPP loans) was 1.05% at June 30, 2022, 1.13% at December 31, 2021, and 1.22% at June 30, 2021. 2 The annualized ratio of net charge-offs to average loans and leases (excluding PPP loans) was 0.06% at June 30, 2022, 0.01% at December 31, 2021, and 0.03% at June 30, 2021. 3 Ratios are annualized for the periods presented except for the period representing the full twelve months. 27 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The total ACL decreased to $546 million, from $553 million, during the first six months of 2022, primarily due changes in economic forecasts and improvements in overall credit quality. The RULC represents a reserve for potential losses associated with off-balance sheet commitments and standby letters of credit, and decreased $2 million during the first six months of 2022. The reserve is separately recorded on the consolidated balance sheet in “Other liabilities,” and any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. Because we engage in transactions involving various financial products, we are exposed to both interest rate risk and market risk. For a more comprehensive discussion of our interest rate and market risk management, see the “Interest Rate and Market Risk Management” section in our 2021 Form 10-K. Interest Rate Risk Average total deposits increased $6.2 billion, or 8%, from June 30, 2021, and a significant portion of the deposits were invested in fixed-rate, medium-duration AFS securities. The investment in these securities relative to short-duration money market funds resulted in higher earning-asset yields, increased net interest income, and decreased asset sensitivity to rising rates. Asset sensitivity measures depend upon the assumptions we use for deposit runoff and repricing behavior, which is more uncertain given the higher level of new deposits. As interest rates rise, we expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. Our models are particularly sensitive to the assumption about the rate of such migration. We also assume a correlation, referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-bearing checking accounts are assumed to have a lower correlation. We anticipate that changes in deposit rates will lag changes in reference rates. Our modeled cost of total deposits for June 2023 is approximately 0.38% without the effect of additional Federal Reserve rate hikes. Additional rate hikes would be expected to result in further increases to the cost of total deposits. Actual results may differ materially due to various factors, including the shape of the yield curve, competitive pricing, money supply, our credit worthiness, etc. We use our historical experience as well as industry data to inform our assumptions. The migration and correlation assumptions previously discussed result in deposit durations presented in the following schedu DEPOSIT ASSUMPTIONS June 30, 2022 Product Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 2.7 % 2.9 % Money market 1.8 % 1.6 % Savings and interest-bearing checking 2.5 % 2.2 % 28 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION With interest rates forecast to rise more, the effective duration of deposits has shortened due to higher than expected runoff and migration to more rate-sensitive deposit products. Additionally, we utilize derivatives to manage interest rate risk. The following schedule presents derivatives that are designated in qualifying hedging relationships at June 30, 2022. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each category of cash flow and fair value hedge. See Note 7 of the Notes to Consolidated Financial Statements for additional information regarding the impact of these hedging relationships on interest income and expense. DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2022 2023 2024 3Q24 - 2Q25 3Q25 - 2Q26 (Dollar amounts in millions) Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Cash flow hedges Cash flow asset hedges 1 Average outstanding notional $ 6,033 $ 6,766 $ 6,700 $ 6,233 $ 5,933 $ 5,633 $ 5,200 $ 4,866 $ 3,633 $ 1,971 Weighted-average fixed-rate received 1.54 % 1.65 % 1.72 % 1.70 % 1.66 % 1.56 % 1.44 % 1.38 % 1.26 % 1.23 % 2022 4 2023 2024 2025 2026 2027 2028 2029 2030 2031 Fair value hedges Fair value debt hedges 2, 4 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — Weighted-average fixed-rate received 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % — % — % Fair value asset hedges 3, 5 Average outstanding notional $ 828 $ 827 $ 1,099 $ 1,212 $ 1,217 $ 1,213 $ 1,208 $ 1,203 $ 1,198 $ 1,192 Weighted-average fixed-rate paid 1.65 % 1.65 % 1.71 % 7.74 % 1.74 % 1.74 % 1.73 % 1.73 % 1.73 % 1.73 % 1 Cash flow hedges consist of receive-fixed swaps hedging pools of floating-rate loans. Increases in the average outstanding notional are due to forward-starting interest rate swaps. 2 Fair value debt hedges consist of receive-fixed swaps hedging fixed-rate debt. The $500 million fair value debt hedge matures at the end of July 2029. 3 Fair value assets hedges consist of pay-fixed swaps hedging AFS fixed-rate securities. Increases in average outstanding notional are due to forward-starting interest rate swaps. 4 Represents the remaining two quarters of 2022. Incorporating the deposit assumptions and the impact of derivatives in qualifying hedging relationships previously discussed, the following schedule presents earnings at risk (“EaR”), or the percentage change in 12-month forward looking net interest income, and our estimated percentage change in economic value of equity (“EVE”). Both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY June 30, 2022 December 31, 2021 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Earnings at Risk (EaR) (5.8) % — % 5.6 % 11.0 % 16.4 % (5.2) % — % 11.2 % 22.7 % 33.6 % Economic Value of Equity (EVE) 5.9 % — % (3.1) % (5.3) % (7.3) % 20.9 % — % 0.8 % (0.5) % (1.2) % 1 Assumes rates cannot go below zero in the negative rate shift. 29 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The asset sensitivity, as measured by EaR, decreased during the second quarter of 2022, primarily due to (1) deposit runoff, (2) an increase in receive fixed-rate swap notionals, and (3) a higher level of “base-case” net interest income, which reduced the percentage change for the same modeled dollar change in net interest income. For interest-bearing deposits with indeterminate maturity, the weighted average modeled beta is 27%. If the weighted average deposit beta were to increase to 40%, the EaR in the +100 bps rate shock would change from 5.6% to 3.9%. The EaR analysis focuses on parallel rate shocks across the term structure of benchmark interest rates. In a non-parallel rate scenario where the overnight rate increases 200 bps, but the ten-year rate increases only 30 bps, the increase in EaR is modeled to be approximately two-thirds of the change associated with the parallel +200 bps rate change. We recognize that EaR has inherent limitations in describing expected changes in net interest income in rapidly changing interest rate environments due to a lag in asset and liability repricing behavior. As such, we expect net interest income to change due to “latent” and “emergent” interest rate sensitivity. Unlike EaR, which measures net interest income over 12 months, latent and emergent interest rate sensitivity explains changes in current quarter net interest income (ex-PPP), compared with expected net interest income in the same quarter one year forward. Latent interest rate sensitivity refers to future changes in net interest income based upon past rate movements that have yet to be fully recognized in revenue, but will be recognized over the near term. We expect latent sensitivity to add approximately 15% to net interest income in second quarter of 2023, compared with the second quarter of 2022 (ex-PPP). Emergent interest rate sensitivity refers to future changes in net interest income based upon future interest rate movements and is measured from the latent level of net interest income. If interest rates rise consistent with the forward curve at June 30, 2022, we expect emergent sensitivity to add approximately 8% to the latent sensitivity level of net interest income. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At June 30, 2022, $23.5 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. Of these variable-rate loans, approximately 95% are tied to either the prime rate, London Interbank Offered Rate (“LIBOR”), Secured Overnight Financing Rate (“SOFR”), or American Interbank Offered Rate (“AMERIBOR”). For these variable-rate loans, we have executed $6.5 billion of cash flow hedges by receiving fixed rates on interest rate swaps. Additionally, asset sensitivity is reduced due to $0.4 billion of variable-rate commercial and CRE loans being priced at floored rates at June 30, 2022, which were above the “index plus spread” rate by an average of 22 bps. At June 30, 2022, we also had $3.4 billion of variable-rate consumer loans scheduled to reprice in the next six months, and $0.1 billion were priced at floored rates, which were above the “index plus spread” rate by an average of 6 bps. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. LIBOR Exposure LIBOR is being phased out globally, and U.S. banking regulators instructed banks to cease entering into new lending arrangements using LIBOR no later than December 31, 2021, and migrate to alternative reference rates no later than June 2023. To facilitate the transition process, we instituted an enterprise-wide program to identify, assess, and monitor risks associated with the expected discontinuance or unavailability of LIBOR, which includes active engagement with industry working groups and regulators. This program also includes active involvement of senior management with regular engagement from the Enterprise Risk Management Committee, and seeks to minimize client and internal business operational impacts, while providing reporting transparency, consistency, and a central governance model that aligns with accounting and regulatory guidance. 30 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION We have implemented processes, procedures, and systems to ensure contract risk is sufficiently mitigated. New originations, and any modifications or renewals of LIBOR-based contracts, contain fallback language to facilitate transition to an alternative reference rate. For our contracts that referenced LIBOR and had a duration beyond June 2023, all fallback provisions and variations were identified and classified based upon those provisions. By the end of 2021, we had discontinued substantially all new originations and any renewals or modifications referencing LIBOR. We have a significant number of assets and liabilities that reference LIBOR. At June 30, 2022, we had $24.9 billion in loans (mainly commercial loans), unfunded lending commitments, and securities referencing LIBOR. The amount of borrowed funds referencing LIBOR at June 30, 2022 was less than $1 billion. These amounts exclude derivative assets and liabilities on the consolidated balance sheet. At June 30, 2022, the notional amount of our LIBOR-referenced interest rate derivative contracts was $11.0 billion, of which nearly all related to contracts with central counterparty clearinghouses. The adoption of alternative reference rates continues to evolve in the marketplace. We are positioned to support our customers’ needs by accommodating multiple alternative reference rates, including the Constant Maturity Treasury rate (“CMT”), the Federal Home Loan Bank (“FHLB”) rate, AMERIBOR, SOFR, and the Bloomberg Short Term Bank Yield Index (“BSBY”). During the first quarter of 2022, we began to prompt our customers to either voluntarily modify their contracts and migrate to a reference rate other than LIBOR no later than June 2023, or be subject to the fallback provisions in their contracts. Voluntary modifications are expected to qualify for the available Tax Safe-Harbor provisions as allowed by Internal Revenue Service (“IRS”) guidance. We expect that customers who voluntarily migrate to an alternative reference rate will do so by the end of this year, and we expect the remaining customers to move to an alternative rate index in accordance with the relevant fallback provisions in their contracts prior to June 2023. For more information on the transition from LIBOR, see Risk Factors in our 2021 Form 10-K. Market Risk – Fixed Income We underwrite municipal and corporate securities. We also trade municipal, agency, and treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. At June 30, 2022, we had $304 million of trading assets and $222 million of securities sold, not yet purchased, compared with $372 million and $254 million at December 31, 2021, respectively. We are exposed to market risk through changes in fair value. This includes market risk for interest rate swaps used to hedge interest rate risk. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in accumulated other comprehensive income (“AOCI”) for each financial reporting period. During the second quarter of 2022, the after-tax change in AOCI attributable to AFS securities decreased $698 million, due largely to changes in the interest rate environment, compared with a $34 million increase in the prior year period. Market Risk – Equity Investments We hold both direct and indirect investments in predominantly pre-public companies, primarily through various SBIC venture capital funds as a strategy to provide beneficial financing, growth, and expansion opportunities to diverse businesses generally in communities within our geographic footprint. Our equity exposure to these investments was $165 million and $179 million at June 30, 2022 and December 31, 2021, respectively. On occasion, some of the companies within our SBIC investment may issue an IPO. In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce additional market risk. See Note 3 of our 2021 Form 10-K for additional information regarding the valuation of our SBIC investments. 31 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION Liquidity Risk Management Overview Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as marketable loans and investment securities. For a more comprehensive discussion of our liquidity risk management, see “Liquidity Risk Management” in our 2021 Form 10-K. Strong deposit growth over the past year has contributed to a solid overall liquidity position. At June 30, 2022, our investment securities portfolio of $26.2 billion and cash and money market investments of $4.1 billion, collectively comprised 35% of total assets, compared with $24.9 billion of investment securities, and $13.0 billion of cash and money market investments, collectively comprising 41% of total assets at December 31, 2021. Given that our investment securities portfolio is predominantly comprised of securities for which a strong repurchase market exists, we believe we can readily convert securities to cash to support loan growth through repurchase agreements rather than sales. Liquidity Management Actions For the first six months of 2022, the primary sources of cash came from a significant decrease in money market investments and net cash provided by operating activities. Uses of cash during the same period included primarily an increase in investment securities, an increase in loans and leases, and redemption of long-term debt. Cash payments for interest, reflected in operating expenses, were $31 million and $43 million for the first six months of 2022 and 2021, respectively. Total deposits were $79.1 billion at June 30, 2022, compared with $82.8 billion at December 31, 2021. The decrease in deposits was primarily due to a $2.8 billion decrease in savings and money market deposits, and a $0.8 billion decrease in noninterest-bearing demand deposits. Our core deposits, consisting of noninterest-bearing demand deposits, savings and money market deposits, and time deposits under $250,000, were $78.3 billion at June 30, 2022, compared with $81.9 billion at December 31, 2021. At June 30, 2022, our loan-to-deposit ratio was 66%, compared with 61% at December 31, 2021. General financial market and economic conditions impact our access to, and cost of, external financing. Access to funding markets is also directly affected by the credit ratings received from various rating agencies. Our credit ratings are presented in the following schedu CREDIT RATINGS as of July 31, 2022: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Stable BBB+ BBB NR Fitch Stable BBB+ BBB F1 Moody's Stable Baa1 NR NR The FHLB system and Federal Reserve Banks have been, and continue to be, a significant source of back-up liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against their eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and Federal Reserve stock to maintain our borrowing capacity. At June 30, 2022, our total investment in FHLB and Federal Reserve stock was $11 million and $70 million, respectively, compared with $11 million and $81 million at December 31, 2021. 32 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION The amount available for additional FHLB and Federal Reserve borrowings was $19.0 billion at June 30, 2022, compared with $18.3 billion at December 31, 2021. Loans with a carrying value of $27.0 billion and $26.8 billion at June 30, 2022 and December 31, 2021, respectively, were pledged at the FHLB and the Federal Reserve as collateral for potential borrowings. At both June 30, 2022 and December 31, 2021, we had no FHLB or Federal Reserve borrowings outstanding. Our AFS investment securities are primarily held as a source of contingent liquidity. We target securities that can be easily turned into cash through repurchase agreements or sales, and whose liquidity value remains relatively stable during market disruptions. We manage our short-term funding needs through secured borrowing with securities pledged as collateral. During the first six months of 2022, our AFS securities balances increased $1.2 billion. Total borrowed funds decreased $226 million during the first six months of 2022, primarily due to the redemption of $290 million of the 4-year, 3.35% senior notes. The growth of deposits has allowed us to reduce borrowed funds. We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. Capital Management Overview A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. Our capital management objectives inclu (1) consistently improving risk-adjusted returns on our shareholders' capital and appropriately managing capital distributions, (2) maintaining sufficient capital to support the current needs and growth of our businesses, and (3) fulfilling responsibilities to depositors and bondholders. We continue to utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the Federal Reserve Board (“FRB”). The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as our Board of Directors (“Board”) and Office of the Comptroller of the Currency (“OCC”) approval. Shares may be repurchased occasionally in the open market or through privately negotiated transactions. For a more comprehensive discussion of our capital risk management, see “Capital Management” in our 2021 Form 10-K. SHAREHOLDERS' EQUITY (Dollar amounts in millions) June 30, 2022 December 31, 2021 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 440 $ — — % Common stock and additional paid-in capital 1,845 1,928 (83) (4) Retained earnings 5,447 5,175 272 5 Accumulated other comprehensive income (loss) (2,100) (80) (2,020) NM Total shareholders' equity $ 5,632 $ 7,463 $ (1,831) (25) % Total shareholders’ equity decreased $1.8 billion, or 25%, to $5.6 billion at June 30, 2022, compared with $7.5 billion at December 31, 2021. Common stock and additional paid-in capital decreased $83 million, primarily due to common stock repurchases. 33 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AOCI decreased $2.0 billion, primarily due to decreases in the fair value of fixed-rate AFS securities as a result of changes in interest rates. Absent any sales or credit impairment of these securities, the unrealized losses will revert back to par over the remaining life of the securities. We have not initiated any sales of AFS securities, nor do we currently intend to sell any identified securities with unrealized losses. Additionally, changes in AOCI do not impact our regulatory capital ratios. Refer to Note 5 of the Notes to Consolidated Financial Statements for more discussion on our investment securities portfolio and their unrealized gains/losses. Common shares outstanding decreased 1.2 million during the first six months of 2022, primarily due to common stock repurchases. During the second quarter of 2022, we repurchased 0.9 million common shares outstanding for $50 million. In July 2022, the Board approved a plan to repurchase up to $50 million of common shares outstanding during the third quarter of 2022. CAPITAL DISTRIBUTIONS Three Months Ended June 30, Six Months Ended June 30, (In millions, except share data) 2022 2021 2022 2021 Capital distributio Preferred dividends paid $ 8 $ 9 $ 16 $ 17 Bank preferred stock redeemed — 126 — 126 Total capital distributed to preferred shareholders 8 135 16 143 Common dividends paid 58 56 116 112 Bank common stock repurchased 1 50 101 101 151 Total capital distributed to common shareholders 108 157 217 263 Total capital distributed to preferred and common shareholders $ 116 $ 292 $ 233 $ 406 Weighted average diluted common shares outstanding (in thousands) 150,838 163,054 151,264 163,468 Common shares outstanding, at period end (in thousands) 150,471 162,248 150,471 162,248 1 Includes amounts related to the common shares acquired from our publicly announced plans and those acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. Under the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. At June 30, 2022, we had $1.4 billion of retained net profits available for distribution. We paid common dividends of $58 million, or $0.38 per share, during the second quarter of 2022. In July 2022, the Board declared a regular quarterly dividend of $0.41 per common share, payable on August 25, 2022, to shareholders of record on August 18, 2022. We also paid dividends on preferred stock of $8 million during the second quarter of 2022. See Note 9 of the Notes to Consolidated Financial Statements for additional information about our capital management actions. Basel III We are subject to Basel III capital requirements to maintain adequate levels of capital as measured by several regulatory capital ratios. At June 30, 2022, we met all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. The following schedule presents our capital and other performance ratios. 34 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CAPITAL RATIOS June 30, 2022 December 31, 2021 June 30, 2021 Tangible common equity ratio 1 4.8 % 6.5 % 7.6 % Tangible equity ratio 1 5.3 7.0 8.1 Average equity to average assets (three months ended) 6.7 8.3 9.3 Basel III risk-based capital ratios: Common equity tier 1 capital 9.9 10.2 11.3 Tier 1 leverage 7.4 7.2 8.0 Tier 1 risk-based 10.6 10.9 12.1 Total risk-based 12.3 12.8 14.2 Return on average common equity (three months ended) 14.0 11.5 18.6 Return on average tangible common equity (three months ended) 1 17.1 13.4 21.6 1 See “GAAP to Non-GAAP Reconciliations” on page 4 for more information regarding these ratios. Our regulatory tier 1 risk-based capital and total risk-based capital was $6.7 billion and $7.8 billion at June 30, 2022, compared with $6.5 billion and $7.7 billion, respectively, at December 31, 2021. See the “Supervision and Regulation” section and Note 15 of our 2021 Form 10-K for more information about our compliance with the Basel III capital requirements. 35 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION ITEM 1. FINANCIAL STATEMENTS (Unaudited) CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) June 30, 2022 December 31, 2021 (Unaudited) ASSETS Cash and due from banks $ 559 $ 595 Money market investments: Interest-bearing deposits 1,249 10,283 Federal funds sold and security resell agreements 2,273 2,133 Investment securiti Held-to-maturity, at amortized cost (included $ 578 and $ 443 at fair value ) 614 441 Available-for-sale, at fair value 25,297 24,048 Trading account, at fair value 304 372 Total securities 26,215 24,861 Loans held for sale 42 83 Loans and leases, net of unearned income and fees 52,370 50,851 Less allowance for loan and lease losses 508 513 Loans held for investment, net of allowance 51,862 50,338 Other noninterest-bearing investments 840 851 Premises, equipment and software, net 1,372 1,319 Goodwill and intangibles 1,015 1,015 Other real estate owned — 8 Other assets 2,357 1,714 Total assets $ 87,784 $ 93,200 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 40,289 $ 41,053 Interest-bearin Savings and money market 37,346 40,114 Time 1,426 1,622 Total deposits 79,061 82,789 Federal funds purchased and other short-term borrowings 1,018 903 Long-term debt 671 1,012 Reserve for unfunded lending commitments 38 40 Other liabilities 1,364 993 Total liabilities 82,152 85,737 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 440 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 150,471 and 151,625 shares) and additional paid-in capital 1,845 1,928 Retained earnings 5,447 5,175 Accumulated other comprehensive income (loss) ( 2,100 ) ( 80 ) Total shareholders’ equity 5,632 7,463 Total liabilities and shareholders’ equity $ 87,784 $ 93,200 See accompanying notes to consolidated financial statements. 36 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF INCOME (Unaudited) Three Months Ended June 30, Six Months Ended June 30, (In millions, except shares and per share amounts) 2022 2021 2022 2021 Interest income: Interest and fees on loans $ 468 $ 492 $ 905 $ 980 Interest on money market investments 12 4 18 7 Interest on securities 128 74 240 145 Total interest income 608 570 1,163 1,132 Interest expense: Interest on deposits 7 7 13 16 Interest on short- and long-term borrowings 8 8 13 16 Total interest expense 15 15 26 32 Net interest income 593 555 1,137 1,100 Provision for credit loss Provision for loan and lease losses 39 ( 113 ) 10 ( 236 ) Provision for unfunded lending commitments 2 ( 10 ) ( 2 ) ( 19 ) Total provision for credit losses 41 ( 123 ) 8 ( 255 ) Net interest income after provision for credit losses 552 678 1,129 1,355 Noninterest income: Commercial account fees 37 34 78 66 Card fees 25 24 50 45 Retail and business banking fees 20 18 40 35 Loan-related fees and income 21 21 43 46 Capital markets and foreign exchange fees 21 17 36 32 Wealth management fees 13 12 27 24 Other customer-related fees 17 13 31 24 Customer-related noninterest income 154 139 305 272 Fair value and nonhedge derivative gain (loss) 10 ( 5 ) 16 13 Dividends and other investment income 7 8 9 15 Securities gains (losses), net 1 63 ( 16 ) 74 Total noninterest income 172 205 314 374 Noninterest expense: Salaries and employee benefits 307 272 619 560 Technology, telecom, and information processing 53 49 105 98 Occupancy and equipment, net 36 39 74 78 Professional and legal services 14 18 28 39 Marketing and business development 9 7 17 14 Deposit insurance and regulatory expense 13 7 23 17 Credit-related expense 7 6 14 12 Other real estate expense, net — — 1 — Other 25 30 47 45 Total noninterest expense 464 428 928 863 Income before income taxes 260 455 515 866 Income taxes 57 101 109 190 Net income 203 354 406 676 Preferred stock dividends ( 8 ) ( 9 ) ( 16 ) ( 17 ) Net earnings applicable to common shareholders $ 195 $ 345 $ 390 $ 659 Weighted average common shares outstanding during the perio Basic shares (in thousands) 150,635 162,742 150,958 163,144 Diluted shares (in thousands) 150,838 163,054 151,264 163,468 Net earnings per common sh Basic $ 1.29 $ 2.08 $ 2.56 $ 3.98 Diluted 1.29 2.08 2.56 3.98 See accompanying notes to consolidated financial statements. 37 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Unaudited) Three Months Ended June 30, Six Months Ended June 30, (In millions) 2022 2021 2022 2021 Net income for the period $ 203 $ 354 $ 406 $ 676 Other comprehensive income (loss), net of t Net unrealized holding gains (losses) on investment securities ( 698 ) 34 ( 1,820 ) ( 130 ) Net unrealized gains (losses) on other noninterest-bearing investments ( 1 ) 1 ( 1 ) 3 Net unrealized holding gains (losses) on derivative instruments ( 50 ) 3 ( 184 ) — Reclassification adjustment for increase in interest income recognized in earnings on derivative instruments ( 5 ) ( 11 ) ( 15 ) ( 23 ) Other comprehensive income (loss) ( 754 ) 27 ( 2,020 ) ( 150 ) Comprehensive income (loss) $ ( 551 ) $ 381 $ ( 1,614 ) $ 526 See accompanying notes to consolidated financial statements. CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited) (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at March 31, 2022 $ 440 151,348 $ — $ 1,889 $ 5,311 $ ( 1,346 ) $ 6,294 Net income for the period 203 203 Other comprehensive loss, net of tax ( 754 ) ( 754 ) Bank common stock repurchased ( 936 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 59 6 6 Dividends on preferred stock ( 8 ) ( 8 ) Dividends on common stock, $ 0.38 per share ( 58 ) ( 58 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at June 30, 2022 $ 440 150,471 $ — $ 1,845 $ 5,447 $ ( 2,100 ) $ 5,632 Balance at March 31, 2021 $ 566 163,800 $ — $ 2,653 $ 4,566 $ 148 $ 7,933 Net income for the period 354 354 Other comprehensive income, net of tax 27 27 Preferred stock redemption ( 126 ) 3 ( 3 ) ( 126 ) Bank common stock repurchased ( 1,735 ) ( 101 ) ( 101 ) Net activity under employee plans and related tax benefits 183 10 10 Dividends on preferred stock ( 9 ) ( 9 ) Dividends on common stock, $ 0.34 per share ( 56 ) ( 56 ) Change in deferred compensation 1 1 Balance at June 30, 2021 $ 440 162,248 $ — $ 2,565 $ 4,853 $ 175 $ 8,033 See accompanying notes to consolidated financial statements. 38 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2021 $ 440 151,625 $ — $ 1,928 $ 5,175 $ ( 80 ) $ 7,463 Net income for the period 406 406 Other comprehensive loss, net of tax ( 2,020 ) ( 2,020 ) Bank common stock repurchased ( 1,714 ) ( 101 ) ( 101 ) Net activity under employee plans and related tax benefits 560 18 18 Dividends on preferred stock ( 16 ) ( 16 ) Dividends on common stock, $ 0.76 per share ( 116 ) ( 116 ) Change in deferred compensation ( 2 ) ( 2 ) Balance at June 30, 2022 $ 440 150,471 $ — $ 1,845 $ 5,447 $ ( 2,100 ) $ 5,632 Balance at December 31, 2020 $ 566 164,090 $ — $ 2,686 $ 4,309 $ 325 $ 7,886 Net income for the period 676 676 Other comprehensive loss, net of tax ( 150 ) ( 150 ) Preferred stock redemption ( 126 ) 3 ( 3 ) ( 126 ) Bank common stock repurchased ( 2,747 ) ( 151 ) ( 151 ) Net activity under employee plans and related tax benefits 905 27 27 Dividends on preferred stock ( 17 ) ( 17 ) Dividends on common stock, $ 0.68 per share ( 113 ) ( 113 ) Change in deferred compensation 1 1 Balance at June 30, 2021 $ 440 162,248 $ — $ 2,565 $ 4,853 $ 175 $ 8,033 39 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In millions) Six Months Ended June 30, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES Net income for the period $ 406 $ 676 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses 8 ( 255 ) Depreciation and amortization 45 ( 11 ) Share-based compensation 22 19 Deferred income tax expense 29 108 Net decrease in trading securities 67 85 Net decrease in loans held for sale 42 6 Change in other liabilities 389 ( 1 ) Change in other assets ( 205 ) ( 259 ) Other, net 1 ( 85 ) Net cash provided by operating activities 804 283 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease (increase) in money market investments 8,895 ( 4,961 ) Proceeds from maturities and paydowns of investment securities held-to-maturity 48 272 Purchases of investment securities held-to-maturity ( 220 ) ( 256 ) Proceeds from sales, maturities and paydowns of investment securities available-for-sale 1,915 2,485 Purchases of investment securities available-for-sale ( 5,773 ) ( 5,170 ) Net change in loans and leases ( 1,476 ) 2,177 Purchases and sales of other noninterest-bearing investments ( 1 ) 4 Purchases of premises and equipment ( 102 ) ( 84 ) Other, net 11 10 Net cash provided by (used in) investing activities 3,297 ( 5,523 ) CASH FLOWS FROM FINANCING ACTIVITIES Net (decrease) increase in deposits ( 3,728 ) 6,452 Net change in short-term funds borrowed 115 ( 831 ) Cash paid for preferred stock redemption — ( 126 ) Redemption of long-term debt ( 290 ) — Proceeds from the issuance of common stock 8 16 Dividends paid on common and preferred stock ( 130 ) ( 129 ) Bank common stock repurchased ( 101 ) ( 151 ) Other, net ( 11 ) ( 9 ) Net cash (used in) provided by financing activities ( 4,137 ) 5,222 Net decrease in cash and due from banks ( 36 ) ( 18 ) Cash and due from banks at beginning of period 595 543 Cash and due from banks at end of period $ 559 $ 525 Cash paid for interest $ 31 $ 43 Net cash paid for income taxes 4 427 Noncash activities are summarized as follows: Loans held for investment transferred to other real estate owned — 1 Loans held for investment reclassified to loans held for sale, net 61 27 See accompanying notes to consolidated financial statements. 40 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) June 30, 2022 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Zions Bancorporation, National Association and its majority-owned subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). The results of operations for the six months ended June 30, 2022 and 2021 are not necessarily indicative of the results that may be expected in future periods. In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. For further information, refer to the consolidated financial statements and accompanying footnotes included in our 2021 Form 10-K. Certain prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Effective for the first quarter of 2022, we made certain financial reporting changes and reclassifications to noninterest expense in our Consolidated Statements of Income. These financial reporting changes were made primarily to improve the presentation and disclosure of certain expenses related to our ongoing technology initiatives. Other noninterest expense line items were impacted by these changes and reclassifications. These changes and reclassifications (1) were adopted retrospectively to January 1, 2020, (2) reflect changes only to noninterest expense in the Consolidated Statements of Income, and (3) do not impact net income, net interest income, or noninterest income. We evaluated events that occurred between June 30, 2022 and the date the accompanying financial statements were issued, and determined that there were no material events that would require adjustments to our consolidated financial statements or disclosure in the accompanying Notes. As referenced in Note 14 of the Notes to Consolidated Financial Statements, we purchased three Northern Nevada branches and their associated deposit, credit card, and loan accounts in July 2022. Zions Bancorporation, N.A. is a commercial bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These include Zions Bank, in Utah, Idaho, and Wyoming; California Bank & Trust (“CB&T”); Amegy Bank (“Amegy”), in Texas; National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”), in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under the name The Commerce Bank of Oregon in Oregon. 41 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 2. RECENT ACCOUNTING PRONOUNCEMENTS Standard Description Date of adoption Effect on the financial statements or other significant matters Standards not yet adopted by the Bank ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures This accounting standards update (“ASU”) eliminates the recognition and measurement guidance on troubled debt restructurings (“TDRs”) for creditors that have adopted ASC 326 (“CECL”), and eliminates certain existing TDR disclosures while requiring enhanced disclosures about loan modifications for borrowers experiencing financial difficulty. The new guidance also requires public companies to present current-period gross write-offs (on a current year-to-date basis for interim-period disclosures) by year of origination in their vintage disclosures. The new guidance is effective for calendar year-end public companies beginning January 1, 2023, with early adoption permitted. Periods beginning after December 15, 2022 We have established an implementation team to ensure that the necessary data is captured in order to comply with the new disclosure requirements. The overall effect of the guidance is not expected to have a material impact on our financial statements. We do not plan to early adopt this new guidance. ASU 2022-03, Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions This ASU clarifies that contractual restrictions prohibiting the sale of an equity security are not considered part of the unit of account of the equity security, and therefore, are not considered in measuring fair value. The amendments also clarify that an entity cannot recognize and measure a contractual sale restriction as a separate unit of account. The amendments in this ASU also require additional qualitative and quantitative disclosures for equity securities subject to contractual sale restrictions. The new guidance is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 The guidance in this ASU is consistent with our current treatment of equity securities subject to contractual sale restrictions and is not expected to impact the fair value measurements of these securities. We are evaluating supplementary disclosure requirements and additional data needed to meet these requirements. The overall effect of the guidance is not expected to have a material impact on our financial statements. We do not plan to early adopt this new guidance. 42 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 3. FAIR VALUE Fair Value Measurements Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. For more information about our valuation methodologies for assets and liabilities measured at fair value and the fair value hierarchy, see Note 3 of our 2021 Form 10-K. Quantitative Disclosure by Fair Value Hierarchy Assets and liabilities measured at fair value by class on a recurring basis are summarized as follows: (In millions) June 30, 2022 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 442 $ 23,044 $ — $ 23,486 Municipal securities 1,737 1,737 Other debt securities 74 74 Total available-for-sale 442 24,855 — 25,297 Trading account 14 290 304 Other noninterest-bearing investments: Bank-owned life insurance 541 541 Private equity investments 1 9 77 86 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 117 117 Derivativ Derivatives designated as hedges 58 58 Derivatives not designated as hedges 94 94 Total assets $ 582 $ 25,838 $ 89 $ 26,509 LIABILITIES Securities sold, not yet purchased $ 222 $ — $ — $ 222 Other liabiliti Derivativ Derivatives designated as hedges 2 2 Derivatives not designated as hedges 293 293 Total liabilities $ 222 $ 295 $ — $ 517 1 The Level 1 private equity investments (“PEIs”) relate to the portion of our Small Business Investment Company (“SBIC”) investments that are now publicly traded. 43 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) December 31, 2021 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 134 $ 22,144 $ — $ 22,278 Municipal securities 1,694 1,694 Other debt securities 76 76 Total available-for-sale 134 23,914 — 24,048 Trading account 14 358 372 Other noninterest-bearing investments: Bank-owned life insurance 537 537 Private equity investments 1 35 66 101 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 138 138 Derivativ Derivatives designated as hedges 10 10 Derivatives not designated as hedges 209 209 Total assets $ 321 $ 25,028 $ 78 $ 25,427 LIABILITIES Securities sold, not yet purchased $ 254 $ — $ — $ 254 Other liabiliti Derivativ Derivatives not designated as hedges 51 51 Total liabilities $ 254 $ 51 $ — $ 305 1 The Level 1 PEIs relate to the portion of our SBIC investments that are now publicly traded. Level 3 Valuations Our Level 3 holdings include PEIs, agriculture loan servicing, and interest-only strips. For additional information regarding our Level 3 financial instruments, including the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2021 Form 10-K. Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments Three Months Ended Six Months Ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 (In millions) Private equity investments Ag loan servicing & interest only strips Private equity investments Ag loan servicing & interest only strips Private equity investments Ag loan servicing & interest only strips Private equity investments Ag loan servicing & interest only strips Balance at beginning of period $ 74 $ 12 $ 83 $ 15 $ 66 $ 12 $ 80 $ 16 Unrealized securities gains (losses), net — — 68 — 5 — 69 — Other noninterest income (expense) — — — — — — — ( 1 ) Purchases 3 — 2 — 9 — 6 — Cost of investments sold — — ( 4 ) — ( 3 ) — ( 6 ) — Transfers out 1 — — ( 77 ) — — — ( 77 ) — Balance at end of period $ 77 $ 12 $ 72 $ 15 $ 77 $ 12 $ 72 $ 15 1 Represents the transfer of SBIC investments out of Level 3 and into Level 1 because they are now publicly traded. 44 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The rollforward of Level 3 instruments includes the following realized gains and losses recognized in securities gains (losses) on the consolidated statement of income for the periods present (In millions) Three Months Ended Six Months Ended June 30, 2022 June 30, 2021 June 30, 2022 June 30, 2021 Securities gains (losses), net $ — $ ( 4 ) $ ( 2 ) $ ( 5 ) Nonrecurring Fair Value Measurements Certain assets and liabilities may be recorded at fair value on a nonrecurring basis, including impaired loans that have been measured based on the fair value of the underlying collateral, other real estate owned (“OREO”), and nonmarketable equity securities. Nonrecurring fair value adjustments typically involve write-downs of individual assets or the application of lower of cost or fair value accounting. At June 30, 2022, we had no assets or liabilities that had fair value changes measured on a nonrecurring basis. At December 31, 2021, we had $ 2 million of collateral-dependent loans valued as Level 2 measurements, and we recognized $ 3 million of losses from fair value changes related to these loans. The previous fair values may not be current as of the dates indicated, but rather as of the most recent date the fair value change occurred. For additional information regarding the measurement of fair value for impaired loans, collateral-dependent loans, and OREO, see Note 3 of our 2021 Form 10-K. Fair Value of Certain Financial Instruments The following schedule summarizes the carrying values and estimated fair values of certain financial instruments: June 30, 2022 December 31, 2021 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: HTM investment securities $ 614 $ 578 2 $ 441 $ 443 2 Loans and leases (including loans held for sale), net of allowance 51,904 50,184 3 50,421 50,619 3 Financial liabiliti Time deposits 1,426 1,401 2 1,622 1,624 2 Long-term debt 671 660 2 1,012 1,034 2 This summary excludes financial assets and liabilities for which carrying value approximates fair value and financial instruments that are recorded at fair value on a recurring basis. For additional information regarding the financial instruments within the scope of this disclosure, and the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2021 Form 10-K. 45 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 4. OFFSETTING ASSETS AND LIABILITIES Gross and net information for selected financial instruments in the balance sheet is as follows: June 30, 2022 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 2,273 $ — $ 2,273 $ — $ — $ 2,273 Derivatives (included in other assets) 152 — 152 ( 9 ) ( 40 ) 103 Total assets $ 2,425 $ — $ 2,425 $ ( 9 ) $ ( 40 ) $ 2,376 Liabiliti Federal funds purchased and other short-term borrowings $ 1,018 $ — $ 1,018 $ — $ — $ 1,018 Derivatives (included in other liabilities) 295 — 295 ( 9 ) — 286 Total liabilities $ 1,313 $ — $ 1,313 $ ( 9 ) $ — $ 1,304 December 31, 2021 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 2,133 $ — $ 2,133 $ — $ — $ 2,133 Derivatives (included in other assets) 219 — 219 ( 16 ) ( 7 ) 196 Total assets $ 2,352 $ — $ 2,352 $ ( 16 ) $ ( 7 ) $ 2,329 Liabiliti Federal funds purchased and other short-term borrowings $ 903 $ — $ 903 $ — $ — $ 903 Derivatives (included in other liabilities) 51 — 51 ( 16 ) ( 1 ) 34 Total liabilities $ 954 $ — $ 954 $ ( 16 ) $ ( 1 ) $ 937 Security repurchase and reverse repurchase (“resell”) agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 5. INVESTMENTS Investment Securities Investment securities are classified as held-to-maturity (“HTM”), available-for-sale (“AFS”), or trading. HTM securities, which management has the intent and ability to hold until maturity, are carried at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. AFS securities are carried at fair value, and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to accumulated other comprehensive income (“AOCI”), net of related taxes. Trading securities are carried at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 80 million and $ 65 million at June 30, 2022 and December 31, 2021, respectively. These receivables are presented on the consolidated balance sheet in “Other 46 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES assets.” See Note 5 of our 2021 Form 10-K for more information related to our accounting for investment securities, and see Note 3 of our 2021 Form 10-K for description of our process to estimate fair value for investment securities. The following schedule summarizes the amortized cost and estimated fair values of our HTM and AFS securiti June 30, 2022 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 614 $ — $ 36 $ 578 Available-for-sale U.S. Treasury securities 557 — 115 442 U.S. Government agencies and corporatio Agency securities 899 — 22 877 Agency guaranteed mortgage-backed securities 23,768 2 2,459 21,311 Small Business Administration loan-backed securities 878 2 24 856 Municipal securities 1,835 3 101 1,737 Other debt securities 75 — 1 74 Total available-for-sale 28,012 7 2,722 25,297 Total HTM and AFS investment securities $ 28,626 $ 7 $ 2,758 $ 25,875 December 31, 2021 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 441 $ 4 $ 2 $ 443 Available-for-sale U.S. Treasury securities 155 — 21 134 U.S. Government agencies and corporatio Agency securities 833 13 1 845 Agency guaranteed mortgage-backed securities 20,549 108 270 20,387 Small Business Administration loan-backed securities 938 2 28 912 Municipal securities 1,652 46 4 1,694 Other debt securities 75 1 — 76 Total available-for-sale 24,202 170 324 24,048 Total HTM and AFS investment securities $ 24,643 $ 174 $ 326 $ 24,491 Maturities The following schedule shows the amortized cost and weighted average yields of debt securities by contractual maturity of principal payments at June 30, 2022. Actual principal payments may differ from contractual or expected principal payments because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. 47 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES June 30, 2022 Total debt securities Due in one year or less Due after one year through five years Due after five years through ten years Due after ten years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity Municipal securities 1 $ 614 2.84 % $ 227 2.53 % $ 137 3.19 % $ 190 3.03 % $ 60 2.59 % Available-for-sale U.S. Treasury securities 557 2.05 — — — — — — 557 2.05 U.S. Government agencies and corporatio Agency securities 899 2.33 31 0.84 340 1.92 285 2.39 243 3.03 Agency guaranteed mortgage-backed securities 23,768 1.79 — — 391 1.50 1,810 1.93 21,567 1.78 Small Business Administration loan-backed securities 878 1.50 — — 48 1.51 166 2.41 664 1.27 Municipal securities 1 1,835 2.40 108 2.07 670 2.61 694 2.18 363 2.55 Other debt securities 75 2.82 — — — — 60 2.61 15 3.67 Total available-for-sale securities 28,012 1.84 139 1.79 1,449 2.11 3,015 2.07 23,409 1.80 Total HTM and AFS investment securities $ 28,626 1.86 % $ 366 2.25 % $ 1,586 2.20 % $ 3,205 2.13 % $ 23,469 1.80 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis. The following schedule summarizes the amount of gross unrealized losses for debt securities and the estimated fair value by length of time the securities have been in an unrealized loss positi June 30, 2022 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 14 $ 327 $ 22 $ 96 $ 36 $ 423 Available-for-sale U.S. Treasury securities 60 341 55 101 115 442 U.S. Government agencies and corporatio Agency securities 17 729 5 96 22 825 Agency guaranteed mortgage-backed securities 1,827 17,069 632 3,886 2,459 20,955 Small Business Administration loan-backed securities 1 84 23 637 24 721 Municipal securities 86 1,189 15 84 101 1,273 Other 1 14 — — 1 14 Total available-for-sale 1,992 19,426 730 4,804 2,722 24,230 Total HTM and AFS investment securities $ 2,006 $ 19,753 $ 752 $ 4,900 $ 2,758 $ 24,653 48 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 1 $ 88 $ 1 $ 68 $ 2 $ 156 Available-for-sale U.S. Treasury securities — — 21 134 21 134 U.S. Government agencies and corporatio Agency securities 1 121 — 1 1 122 Agency guaranteed mortgage-backed securities 231 13,574 39 942 270 14,516 Small Business Administration loan-backed securities — 27 28 749 28 776 Municipal securities 4 327 — 8 4 335 Other — — — — — — Total available-for-sale 236 14,049 88 1,834 324 15,883 Total HTM and AFS investment securities $ 237 $ 14,137 $ 89 $ 1,902 $ 326 $ 16,039 Approximately 488 and 137 HTM and 3,528 and 1,302 AFS investment securities were in an unrealized loss position at June 30, 2022, and December 31, 2021, respectively. Impairment We review investment securities quarterly on an individual security basis for the presence of impairment. For additional information on our policy and impairment evaluation process for investment securities, see Note 5 of our 2021 Form 10-K. AFS Impairment We did not recognize any impairment on our AFS investment securities portfolio during the first six months of 2022. Unrealized losses primarily relate to changes in interest rates subsequent to purchase and are not attributable to credit. At June 30, 2022, we had not initiated any sales of AFS securities, nor did we have an intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not that we would be required to sell such securities before recovery of their amortized cost basis. HTM Impairment For HTM securities, the allowance for credit losses (“ACL”) is assessed consistent with the approach described in Note 6 for loans and leases carried at amortized cost. The ACL on HTM securities was less than $ 1 million at June 30, 2022. All HTM securities were risk-graded as “ Pass ” in terms of credit quality and none were past due at June 30, 2022. The amortized cost basis of HTM securities categorized by year acquired is summarized in the following schedu June 30, 2022 Amortized cost basis by year acquired (In millions) 2022 2021 2020 2019 2018 Prior Total Securities Held-to-maturity $ 220 $ 87 $ 117 $ 9 $ — $ 181 $ 614 49 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Securities Gains and Losses Recognized in Income The following schedule summarizes securities gains and losses recognized in the income statemen Three Months Ended June 30, Six Months Ended June 30, 2022 2021 2022 2021 (In millions) Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Other noninterest-bearing investments $ 1 $ — $ 66 $ 3 $ 5 $ 21 $ 80 $ 6 Net gains (losses) 1 $ 1 $ 63 $ ( 16 ) $ 74 1 Net gains (losses) were recognized in securities gains (losses) in the income statement. The following schedule presents interest income by security type: Three Months Ended June 30, 2022 2021 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 3 $ 1 $ 4 $ 2 $ 1 $ 3 Available-for-sale 109 11 120 61 7 68 Trading — 4 4 — 3 3 Total securities $ 112 $ 16 $ 128 $ 63 $ 11 $ 74 Six Months Ended June 30, 2022 2021 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 5 $ 2 $ 7 $ 5 $ 3 $ 8 Available-for-sale 205 19 224 118 14 132 Trading — 9 9 — 5 5 Total $ 210 $ 30 $ 240 $ 123 $ 22 $ 145 At June 30, 2022 and December 31, 2021, investment securities with a carrying value of $ 3.2 billion and $ 3.1 billion, respectively, were pledged to secure public and trust deposits, advances, and for other purposes as required by law. Securities are also pledged as collateral for security repurchase agreements. 50 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific loan class: (In millions) June 30, 2022 December 31, 2021 Loans held for sale $ 42 $ 83 Commerci Commercial and industrial $ 14,989 $ 13,867 PPP 534 1,855 Leasing 339 327 Owner-occupied 9,208 8,733 Municipal 4,113 3,658 Total commercial 29,183 28,440 Commercial real estate: Construction and land development 2,659 2,757 Term 9,477 9,441 Total commercial real estate 12,136 12,198 Consume Home equity credit line 3,266 3,016 1-4 family residential 6,423 6,050 Construction and other consumer real estate 787 638 Bankcard and other revolving plans 448 396 Other 127 113 Total consumer 11,051 10,213 Total loans and leases $ 52,370 $ 50,851 Loans and leases are presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 45 million and $ 83 million at June 30, 2022 and December 31, 2021, respectively. Amortized cost basis does not include accrued interest receivables of $ 163 million and $ 161 million at June 30, 2022 and December 31, 2021, respectively. These receivables are presented in the Consolidated Balance Sheet within the “Other assets” line item. Municipal loans generally include loans to state and local governments (“municipalities”) with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 198 million at June 30, 2022 and $ 160 million at December 31, 2021. Loans with a carrying value of $ 27.0 billion at June 30, 2022 and $ 26.8 billion at December 31, 2021 have been pledged at the Federal Reserve and the Federal Home Loan Bank (“FHLB”) of Des Moines as collateral for potential borrowings. We sold loans totaling $ 187 million and $ 523 million for the three and six months ended June 30, 2022, and $ 436 million and $ 859 million for the three and six months ended June 30, 2021, that were classified as loans held for sale. The sold loans were derecognized from the balance sheet. Loans classified as loans held for sale primarily consist of conforming residential mortgages and the guaranteed portion of Small Business Administration (“SBA”) loans that are primarily sold to U.S. government agencies or participated to third parties. They do not include loans from the SBA's Paycheck Protection Program (“PPP”). At times, we have continuing involvement in the sold loans in the form of servicing rights or guarantees. Amounts added to loans held for sale during these same periods were $ 190 million and $ 487 million for the three and six months ended June 30, 2022, and $ 428 million and $ 855 million 51 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES for the three and six months ended June 30, 2021, respectively. See Note 5 for further information regarding guaranteed securities. The principal balance of sold loans for which we retain servicing was $ 3.5 billion at June 30, 2022, and $ 3.3 billion at December 31, 2021. Income from loans sold, excluding servicing, was $ 4 million and $ 10 million for the three and six months ended June 30, 2022, and $ 7 million and $ 18 million for the three and six months ended June 30, 2021, respectively. Allowance for Credit Losses The allowance for credit losses (“ACL”), which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. For additional information regarding our policies and methodologies used to estimate the ACL, see Note 6 of our 2021 Form 10-K. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is estimated consistent with the approach for loans carried at amortized cost. See Note 5 of our 2021 Form 10-K for further discussion of our methodology used to estimate the ACL on AFS and HTM debt securities. Changes in the ACL are summarized as follows: Three Months Ended June 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 282 $ 102 $ 94 $ 478 Provision for loan losses 12 12 15 39 Gross loan and lease charge-offs 15 — 3 18 Recoveries 7 — 2 9 Net loan and lease charge-offs (recoveries) 8 — 1 9 Balance at end of period $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments Balance at beginning of period $ 14 $ 12 $ 10 $ 36 Provision for unfunded lending commitments ( 1 ) 3 — 2 Balance at end of period $ 13 $ 15 $ 10 $ 38 Total allowance for credit losses at end of period Allowance for loan losses $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments 13 15 10 38 Total allowance for credit losses $ 299 $ 129 $ 118 $ 546 52 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 311 $ 107 $ 95 $ 513 Provision for loan losses ( 12 ) 7 15 10 Gross loan and lease charge-offs 28 — 7 35 Recoveries 15 — 5 20 Net loan and lease charge-offs (recoveries) 13 — 2 15 Balance at end of period $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments Balance at beginning of period $ 19 $ 11 $ 10 $ 40 Provision for unfunded lending commitments ( 6 ) 4 — ( 2 ) Balance at end of period $ 13 $ 15 $ 10 $ 38 Total allowance for credit losses at end of period Allowance for loan losses $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments 13 15 10 38 Total allowance for credit losses $ 299 $ 129 $ 118 $ 546 Three Months Ended June 30, 2021 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 362 $ 152 $ 132 $ 646 Provision for loan losses ( 43 ) ( 41 ) ( 29 ) ( 113 ) Gross loan and lease charge-offs 5 — 3 8 Recoveries 7 — 3 10 Net loan and lease charge-offs (recoveries) ( 2 ) — — ( 2 ) Balance at end of period $ 321 $ 111 $ 103 $ 535 Reserve for unfunded lending commitments Balance at beginning of period $ 24 $ 17 $ 8 $ 49 Provision for unfunded lending commitments ( 3 ) ( 7 ) — ( 10 ) Balance at end of period $ 21 $ 10 $ 8 $ 39 Total allowance for credit losses at end of period Allowance for loan losses $ 321 $ 111 $ 103 $ 535 Reserve for unfunded lending commitments 21 10 8 39 Total allowance for credit losses $ 342 $ 121 $ 111 $ 574 53 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2021 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 464 $ 171 $ 142 $ 777 Provision for loan losses ( 137 ) ( 60 ) ( 39 ) ( 236 ) Gross loan and lease charge-offs 23 — 6 29 Recoveries 17 — 6 23 Net loan and lease charge-offs (recoveries) 6 — — 6 Balance at end of period $ 321 $ 111 $ 103 $ 535 Reserve for unfunded lending commitments Balance at beginning of period $ 30 $ 20 $ 8 $ 58 Provision for unfunded lending commitments ( 9 ) ( 10 ) — ( 19 ) Balance at end of period $ 21 $ 10 $ 8 $ 39 Total allowance for credit losses at end of period Allowance for loan losses $ 321 $ 111 $ 103 $ 535 Reserve for unfunded lending commitments 21 10 8 39 Total allowance for credit losses $ 342 $ 121 $ 111 $ 574 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement, (2) the loan, if secured, is well-secured, (3) the borrower has paid according to the contractual terms for a minimum of six months, and (4) an analysis of the borrower indicates a reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of loans on nonaccrual status is summarized as follows: June 30, 2022 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Loans held for sale $ 5 $ 1 $ 6 $ — Commerci Commercial and industrial $ 12 $ 74 $ 86 $ 29 PPP — 1 1 — Owner-occupied 25 15 40 1 Total commercial 37 90 127 30 Commercial real estate: Term 1 19 20 3 Total commercial real estate 1 19 20 3 Consume Home equity credit line 1 9 10 2 1-4 family residential 9 29 38 4 Bankcard and other revolving plans — — — — Total consumer loans 10 38 48 6 Total $ 48 $ 147 $ 195 $ 39 54 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 30 $ 94 $ 124 $ 34 PPP 2 1 3 — Owner-occupied 37 20 57 3 Total commercial 69 115 184 37 Commercial real estate: Term 6 14 20 3 Total commercial real estate 6 14 20 3 Consume Home equity credit line 4 10 14 2 1-4 family residential 9 43 52 5 Bankcard and other revolving plans — 1 1 1 Total consumer loans 13 54 67 8 Total $ 88 $ 183 $ 271 $ 48 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed or written off from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. For the six months ended June 30, 2022 and 2021, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. The amount of accrued interest receivables written off by reversing interest income during the period is summarized by loan portfolio segment as follows: Three Months Ended June 30, Six Months Ended June 30, (In millions) 2022 2021 2022 2021 Commercial $ 4 $ 4 $ 8 $ 7 Commercial real estate — 1 — 1 Consumer — — — — Total $ 4 $ 5 $ 8 $ 8 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as bankcard and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. 55 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Past due loans (accruing and nonaccruing) are summarized as follows: June 30, 2022 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 14,937 $ 31 $ 21 $ 52 $ 14,989 $ — $ 64 PPP 526 7 1 8 534 — — Leasing 339 — — — 339 — — Owner-occupied 9,191 10 7 17 9,208 2 33 Municipal 4,113 — — — 4,113 — — Total commercial 29,106 48 29 77 29,183 2 97 Commercial real estate: Construction and land development 2,636 23 — 23 2,659 — — Term 9,423 45 9 54 9,477 3 15 Total commercial real estate 12,059 68 9 77 12,136 3 15 Consume Home equity credit line 3,260 4 2 6 3,266 — 6 1-4 family residential 6,399 6 18 24 6,423 — 19 Construction and other consumer real estate 787 — — — 787 — — Bankcard and other revolving plans 446 1 1 2 448 1 — Other 126 1 — 1 127 — — Total consumer loans 11,018 12 21 33 11,051 1 25 Total $ 52,183 $ 128 $ 59 $ 187 $ 52,370 $ 6 $ 137 December 31, 2021 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 13,822 $ 17 $ 28 $ 45 $ 13,867 $ 2 $ 91 PPP 1,813 35 7 42 1,855 5 — Leasing 327 — — — 327 — — Owner-occupied 8,712 7 14 21 8,733 — 42 Municipal 3,658 — — — 3,658 — — Total commercial 28,332 59 49 108 28,440 7 133 Commercial real estate: Construction and land development 2,757 — — — 2,757 — — Term 9,426 10 5 15 9,441 — 15 Total commercial real estate 12,183 10 5 15 12,198 — 15 Consume Home equity credit line 3,008 4 4 8 3,016 — 10 1-4 family residential 6,018 6 26 32 6,050 — 24 Construction and other consumer real estate 638 — — — 638 — — Bankcard and other revolving plans 393 2 1 3 396 1 — Other 112 1 — 1 113 — — Total consumer loans 10,169 13 31 44 10,213 1 34 Total $ 50,684 $ 82 $ 85 $ 167 $ 50,851 $ 8 $ 182 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is still not expected. 56 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk grading systems, which vary based on the size and type of credit risk exposure. The internal risk grades assigned to loans follow our definition of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. • Pass – A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention – A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard – A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful – A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were $ 1 million of loans classified as Doubtful at June 30, 2022, compared with none at December 31, 2021. We generally assign internal risk grades to commercial and commercial real estate (“CRE”) loans with commitments greater than $ 1 million, based on financial and statistical models, individual credit analysis, and loan officer experience and judgment. For these larger loans, we assign one of multiple risk grades within the Pass classification or one of the risk classifications described previously. We confirm our internal risk grades quarterly, or as soon as we identify information that affects the credit risk of the loan. For consumer loans and for commercial and CRE loans with commitments less than or equal to $ 1 million, we generally assign internal risk grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The amortized cost basis of loans and leases categorized by year of origination and by credit quality classifications as monitored by management are summarized as follows. 57 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES June 30, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Commerci Commercial and industrial Pass $ 1,522 $ 2,234 $ 1,116 $ 955 $ 627 $ 409 $ 7,267 $ 181 $ 14,311 Special Mention — 21 15 3 6 44 137 — 226 Accruing Substandard 13 21 18 107 42 75 87 3 366 Nonaccrual 1 12 3 4 1 15 47 3 86 Total commercial and industrial 1,536 2,288 1,152 1,069 676 543 7,538 187 14,989 PPP Pass — 341 192 — — — — — 533 Nonaccrual — — 1 — — — — — 1 Total PPP — 341 193 — — — — — 534 Leasing Pass 14 85 66 57 55 50 — — 327 Special Mention — — — 5 1 1 — — 7 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 14 85 66 62 56 56 — — 339 Owner-occupied Pass 1,242 2,396 1,212 969 750 2,027 164 86 8,846 Special Mention 1 6 12 15 19 24 — 1 78 Accruing Substandard 8 12 43 33 62 80 6 — 244 Nonaccrual — — 3 7 6 20 4 — 40 Total owner-occupied 1,251 2,414 1,270 1,024 837 2,151 174 87 9,208 Municipal Pass 736 1,263 904 498 174 522 5 — 4,102 Special Mention — — — 8 — — — — 8 Accruing Substandard — — — — — 3 — — 3 Nonaccrual — — — — — — — — — Total municipal 736 1,263 904 506 174 525 5 — 4,113 Total commercial 3,537 6,391 3,585 2,661 1,743 3,275 7,717 274 29,183 Commercial real estate: Construction and land development Pass 188 702 721 213 2 2 720 45 2,593 Special Mention 1 1 — 22 — 24 — — 48 Accruing Substandard 9 — — 9 — — — — 18 Nonaccrual — — — — — — — — — Total construction and land development 198 703 721 244 2 26 720 45 2,659 Term Pass 1,472 2,160 1,587 1,253 937 1,429 224 161 9,223 Special Mention — 22 — 16 3 8 — — 49 Accruing Substandard 48 4 36 22 37 38 — — 185 Nonaccrual — — 1 4 1 14 — — 20 Total term 1,520 2,186 1,624 1,295 978 1,489 224 161 9,477 Total commercial real estate 1,718 2,889 2,345 1,539 980 1,515 944 206 12,136 58 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES June 30, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Consume Home equity credit line Pass — — — — — — 3,156 98 3,254 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 7 3 10 Total home equity credit line — — — — — — 3,165 101 3,266 1-4 family residential Pass 989 1,394 985 652 401 1,960 — — 6,381 Special Mention — — — — — — — — — Accruing Substandard — — — 2 — 2 — — 4 Nonaccrual — 1 3 2 1 31 — — 38 Total 1-4 family residential 989 1,395 988 656 402 1,993 — — 6,423 Construction and other consumer real estate Pass 167 443 130 31 9 7 — — 787 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 167 443 130 31 9 7 — — 787 Bankcard and other revolving plans Pass — — — — — — 444 3 447 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 445 3 448 Other consumer Pass 49 40 16 12 6 4 — — 127 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 49 40 16 12 6 4 — — 127 Total consumer 1,205 1,878 1,134 699 417 2,004 3,610 104 11,051 Total loans $ 6,460 $ 11,158 $ 7,064 $ 4,899 $ 3,140 $ 6,794 $ 12,271 $ 584 $ 52,370 59 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2016 Prior Total loans Commerci Commercial and industrial Pass $ 2,561 $ 1,309 $ 1,179 $ 748 $ 354 $ 239 $ 6,594 $ 121 $ 13,105 Special Mention 4 17 9 12 1 3 128 1 175 Accruing Substandard 28 22 99 53 31 65 162 3 463 Nonaccrual 14 10 6 3 1 21 51 18 124 Total commercial and industrial 2,607 1,358 1,293 816 387 328 6,935 143 13,867 PPP Pass 1,317 535 — — — — — — 1,852 Nonaccrual — 3 — — — — — — 3 Total PPP 1,317 538 — — — — — — 1,855 Leasing Pass 46 74 70 64 42 19 — — 315 Special Mention — 1 4 1 1 — — — 7 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 46 75 74 65 43 24 — — 327 Owner-occupied Pass 2,420 1,366 1,028 868 695 1,663 177 69 8,286 Special Mention 10 13 19 32 18 50 3 3 148 Accruing Substandard 14 24 41 47 24 79 13 — 242 Nonaccrual — 4 14 9 9 20 1 — 57 Total owner-occupied 2,444 1,407 1,102 956 746 1,812 194 72 8,733 Municipal Pass 1,303 963 553 250 327 220 3 — 3,619 Special Mention — — — — — 25 — — 25 Accruing Substandard — 9 — — — 5 — — 14 Nonaccrual — — — — — — — — — Total municipal 1,303 972 553 250 327 250 3 — 3,658 Total commercial 7,717 4,350 3,022 2,087 1,503 2,414 7,132 215 28,440 Commercial real estate: Construction and land development Pass 640 736 515 94 24 2 650 64 2,725 Special Mention — — 1 — — — — — 1 Accruing Substandard — 3 28 — — — — — 31 Nonaccrual — — — — — — — — — Total construction and land development 640 739 544 94 24 2 650 64 2,757 Term Pass 2,407 1,765 1,491 1,066 529 1,401 239 179 9,077 Special Mention 22 39 10 17 8 25 — 4 125 Accruing Substandard 9 9 44 77 14 64 — 2 219 Nonaccrual — 1 5 1 — 13 — — 20 Total term 2,438 1,814 1,550 1,161 551 1,503 239 185 9,441 Total commercial real estate 3,078 2,553 2,094 1,255 575 1,505 889 249 12,198 60 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2016 Prior Total loans Consume Home equity credit line Pass — — — — — — 2,903 96 2,999 Special Mention — — — — — — 1 — 1 Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 7 7 14 Total home equity credit line — — — — — — 2,913 103 3,016 1-4 family residential Pass 1,391 1,021 728 484 681 1,691 — — 5,996 Special Mention — — — — — — — — — Accruing Substandard — — 1 — — 1 — — 2 Nonaccrual — 3 3 3 9 34 — — 52 Total 1-4 family residential 1,391 1,024 732 487 690 1,726 — — 6,050 Construction and other consumer real estate Pass 295 232 73 27 4 7 — — 638 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 295 232 73 27 4 7 — — 638 Bankcard and other revolving plans Pass — — — — — — 391 3 394 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — 1 — 1 Total bankcard and other revolving plans — — — — — — 393 3 396 Other consumer Pass 58 23 17 9 4 2 — — 113 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 58 23 17 9 4 2 — — 113 Total consumer 1,744 1,279 822 523 698 1,735 3,306 106 10,213 Total loans $ 12,539 $ 8,182 $ 5,938 $ 3,865 $ 2,776 $ 5,654 $ 11,327 $ 570 $ 50,851 Modified and Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are considered troubled debt restructurings (“TDRs”). For further discussion of our policies and processes regarding TDRs, see Note 6 of our 2021 Form 10-K. 61 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Information on TDRs, including the amortized cost on an accruing and nonaccruing basis by loan class and modification type is summarized in the following schedul June 30, 2022 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 15 $ 10 $ — $ — $ 1 $ 31 $ 57 Owner-occupied — 5 — 9 14 9 37 Municipal — 8 — — — — 8 Total commercial 15 23 — 9 15 40 102 Commercial real estate: Term 1 27 — 27 29 1 85 Total commercial real estate 1 27 — 27 29 1 85 Consume Home equity credit line — 1 5 — — 1 7 1-4 family residential 3 — 2 — 1 14 20 Total consumer loans 3 1 7 — 1 15 27 Total accruing 19 51 7 36 45 56 214 Nonaccruing Commerci Commercial and industrial 1 3 — 10 3 6 23 Owner-occupied 9 — — — — 8 17 Total commercial 10 3 — 10 3 14 40 Commercial real estate: Term — — — 11 — 4 15 Total commercial real estate — — — 11 — 4 15 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 1 — — 3 5 Total consumer loans — 1 2 — — 3 6 Total nonaccruing 10 4 2 21 3 21 61 Total $ 29 $ 55 $ 9 $ 57 $ 48 $ 77 $ 275 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. 62 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 19 $ 1 $ — $ — $ 4 $ 7 $ 31 Owner-occupied 5 4 — 8 14 12 43 Municipal — 10 — — — — 10 Total commercial 24 15 — 8 18 19 84 Commercial real estate: Term 1 29 — 27 41 8 106 Total commercial real estate 1 29 — 27 41 8 106 Consume Home equity credit line — 1 5 — — 2 8 1-4 family residential 5 1 2 — 1 14 23 Total consumer loans 5 2 7 — 1 16 31 Total accruing 30 46 7 35 60 43 221 Nonaccruing Commerci Commercial and industrial 1 4 — 2 8 49 64 Owner-occupied 5 — — 2 — 13 20 Total commercial 6 4 — 4 8 62 84 Commercial real estate: Term — — — 11 2 3 16 Total commercial real estate — — — 11 2 3 16 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 3 — 4 Total consumer loans — 1 1 — 3 — 5 Total nonaccruing 6 5 1 15 13 65 105 Total $ 36 $ 51 $ 8 $ 50 $ 73 $ 108 $ 326 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. Unfunded lending commitments on TDRs totaled $ 11 million and $ 10 million at June 30, 2022 and December 31, 2021, respectively. The total amortized cost of all TDRs in which interest rates were modified below market was $ 87 million at June 30, 2022 and $ 100 million at December 31, 2021. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the three and six months ended June 30, 2022 and 2021 was not significant. On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. 63 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Collateral-Dependent Loans When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. Select information on loans for which the repayment is expected to be provided substantially through the operation or sale of the underlying collateral and the borrower is experiencing financial difficulties, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: June 30, 2022 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 1 Corporate assets 14 % Owner-occupied 2 Land 38 % Commercial real estate: Term 2 Multi-family 32 % Consume Home equity credit line 2 Single family residential 15 % 1-4 family residential 1 Single family residential 36 % Total $ 8 December 31, 2021 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 27 Corporate assets, Single family residential 55 % Owner-occupied 11 Office Building 40 % Commercial real estate: Term 2 Multi-family, Retail 28 % Consume Home equity credit line 5 Single family residential 45 % 1-4 family residential 2 Single family residential 35 % Total $ 47 1 The fair value is based on the most recent appraisal or other collateral evaluation . Foreclosed Residential Real Estate At June 30, 2022 and December 31, 2021, we did no t have any foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure was $ 14 million and $ 10 million for the same periods, respectively. 64 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives and Accounting Our primary objective for using derivatives is to manage risks, primarily interest rate risk. We use derivatives to manage volatility in interest income, interest expense, earnings, and capital by adjusting our interest rate sensitivity to minimize the impact of fluctuations in interest rates. Derivatives are used to stabilize forecasted interest income from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities as we consider advisable. We also assist clients with their risk management needs through the use of derivatives. For a more detailed discussion of the use of and accounting policies regarding derivative instruments, see Note 7 of our 2021 Form 10-K. Fair Value Hedges of Liabilities – At June 30, 2022, we had one receive-fixed interest rate swap with a notional amount of $ 500 million designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converts the interest on our fixed-rate debt to floating. During the second quarter of 2022, derivatives designated as fair value hedges of debt decreased in value by $ 18 million, which was offset by changes in the fair value of the hedged debt instruments as shown in the schedules below. We had no cumulative unamortized debt basis adjustments related to previously terminated fair value hedges of debt at June 30, 2022. Fair Value Hedges of Assets – At June 30, 2022, we had pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 1.2 billion designated as fair value hedges of certain AFS securities. These swaps effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. During the second quarter of 2022, derivatives designated as fair value hedges of fixed-rate AFS securities increased in value by $ 97 million, which was offset by changes in value of the hedged securities, as shown in the schedules below. We had $ 7 million of unamortized basis adjustments to AFS securities from previously designated fair value hedges. Cash Flow Hedges – At June 30, 2022, we had $ 6.8 billion notional amount of receive-fixed interest rate swaps designated as cash flow hedges of pools of floating-rate commercial loans. Also during the quarter, our cash flow hedge portfolio decreased in value by $ 72 million, which was recorded in AOCI. The amounts deferred in AOCI are reclassified into earnings in the periods in which the hedged interest receipts occur (i.e., when the hedged forecasted transactions affect earnings). Collateral and Credit Risk Exposure to credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred as a result of counterparty nonperformance. For a more detailed discussion of collateral and credit risk related to our derivative contracts, see Note 7 of our 2021 Form 10-K. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position at a given balance sheet date. Certain of these derivative contracts contain credit-risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit-risk-related feature were triggered, such as a downgrade of our credit rating. However, in past situations, not all counterparties have demanded that additional collateral be pledged when provided for by the contractual terms. At June 30, 2022, the fair value of our derivative liabilities was $ 295 million, for which we were required to pledge cash collateral of $ 133 million in the normal course of business. If our credit rating were downgraded one notch by either Standard & Poor’s (“S&P”) or Moody’s at June 30, 2022, there would likely be less than $ 1 million of additional collateral required to be pledged. 65 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Derivative Amounts Certain information with respect to notional amounts and recorded gross fair values at June 30, 2022 and December 31, 2021, and the related gain (loss) of derivative instruments is summarized as follows: June 30, 2022 December 31, 2021 Notional amount Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Receive-fixed interest rate swaps $ 6,833 $ — $ 2 $ 6,883 $ — $ — Fair value hed Debt hed Receive-fixed interest rate swaps 500 — — 500 — — Asset hed Pay-fixed interest rate swaps 1,229 58 — 479 10 — Total derivatives designated as hedging instruments 8,562 58 2 7,862 10 — Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives 1 6,609 14 284 6,587 192 36 Offsetting interest rate derivatives 2 6,609 298 14 6,587 38 197 Other interest rate derivatives 883 1 — 1,286 6 1 Foreign exchange derivatives 392 4 3 288 3 2 Total derivatives not designated as hedging instruments 14,493 317 301 14,748 239 236 Total derivatives $ 23,055 $ 375 $ 303 $ 22,610 $ 249 $ 236 1 Customer-facing interest rate derivatives include a net credit valuation adjustment (“CVA”) of $ 13 million, reducing the fair value of the liability at June 30, 2022, and $ 3 million, reducing the fair value of the asset at December 31, 2021. These adjustments are required to reflect both our nonperformance risk and that of the respective counterparties. 2 The fair value amounts for these derivatives do not include the settlement amounts for those trades that are centrally cleared. Once the settlement amounts with the clearing houses are included, the total derivative fair values would be the followin June 30, 2022 December 31, 2021 (In millions) Other assets Other liabilities Other assets Other liabilities Offsetting interest rate derivatives $ 75 $ 6 $ 8 $ 12 The amount of derivative gains (losses) from cash flow and fair value hedges that was deferred in other comprehensive income (“OCI”) or recognized in earnings for the six months ended June 30, 2022 and 2021 is shown in the schedules below. Three Months Ended June 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — Interest rate swaps ( 66 ) 6 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 1 Basis amortization on terminated hedges 2, 3 — — — Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 66 ) $ 6 $ — 66 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 2 $ — Interest rate swaps ( 244 ) 17 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 3 Basis amortization on terminated hedges 2, 3 — — 1 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 2 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 244 ) $ 19 $ 2 Three Months Ended June 30, 2021 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 2 $ — Interest rate swaps ( 4 ) 13 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 2 Basis amortization on terminated hedges 2, 3 — — 3 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 4 ) $ 15 $ 4 67 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2021 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 6 $ — Interest rate swaps ( 9 ) 25 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 4 Basis amortization on terminated hedges 2, 3 — — 6 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 9 ) $ 31 $ 9 1 For the 12 months following June 30, 2022, we estimate that $ 94 million of losses will be reclassified from AOCI into interest income, compared with an estimate of $ 48 million of gains as of June 30, 2021. 2 Adjustment to interest expense resulting from the amortization of the debt basis adjustment on fixed-rate debt previously hedged by terminated receive-fixed interest rate. 3 There was no cumulative unamortized basis adjustment from previously terminated or redesignated fair value debt hedges and $ 7 million of terminated fair value asset hedges at June 30, 2022, compared with $ 5 million and $ 7 million as of June 30, 2021, respectively. The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) Three Months Ended June 30, 2022 Six Months Ended June 30, 2022 Three Months Ended June 30, 2021 Six Months Ended June 30, 2021 Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives $ ( 143 ) $ ( 411 ) $ 87 $ ( 95 ) Offsetting interest rate derivatives 160 441 ( 89 ) 117 Other interest rate derivatives ( 1 ) — ( 6 ) ( 10 ) Foreign exchange derivatives 8 14 6 11 Total derivatives not designated as hedging instruments $ 24 $ 44 $ ( 2 ) $ 23 The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Three Months Ended June 30, 2022 Three Months Ended June 30, 2021 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ ( 18 ) $ 18 $ — $ 12 $ ( 12 ) $ — Assets: Pay-fixed interest rate swaps 1, 2 97 ( 97 ) — ( 25 ) 25 — 68 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Gain/(loss) recorded in income Six Months Ended June 30, 2022 Six Months Ended June 30, 2021 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ ( 50 ) $ 50 $ — $ ( 23 ) $ 23 $ — Assets: Pay-fixed interest rate swaps 1, 2 150 ( 150 ) — 23 ( 23 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt and fixed-rate AFS securities. Gains and losses were recorded in net interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) 1 Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged item (In millions) June 30, 2022 December 31, 2021 June 30, 2022 December 31, 2021 June 30, 2022 December 31, 2021 Long-term fixed-rate debt $ ( 500 ) $ ( 500 ) $ ( 482 ) $ ( 507 ) $ 18 $ ( 7 ) Fixed-rate AFS securities 1,229 479 1,132 435 ( 97 ) ( 44 ) 1 Carrying amounts displayed above exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 8 . LEASES We have operating and finance leases for branches, corporate offices, and data centers. At June 30, 2022, we had 413 branches, of which 273 are owned and 140 are leased. We lease our headquarters in Salt Lake City, Utah. The remaining maturities of our lease commitments range from the year 2022 to 2062 , and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “ Other assets ,” and “ Premises, equipment and software, net ,” respectively. The corresponding liabilities for those leases are presented in “ Other liabilities ,” and “ Long-term debt .” For more information about our lease policies, see Note 8 of our 2021 Form 10-K. The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate: (Dollar amounts in millions) June 30, 2022 December 31, 2021 Operating leases ROU assets, net of amortization $ 183 $ 195 Lease liabilities 209 222 Financing leases ROU assets, net of amortization 4 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.5 8.5 Finance leases 17.8 18.3 Weighted average discount rate Operating leases 2.8 % 2.8 % Finance leases 3.1 % 3.1 % 69 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Additional information related to lease expense is presented be Three Months Ended June 30, Six Months Ended June 30, (In millions) 2022 2021 2022 2021 Lease expense: Operating lease expense $ 12 $ 12 $ 24 $ 24 Other expenses associated with operating leases 1 12 12 24 25 Total lease expense $ 24 $ 24 $ 48 $ 49 Related cash disbursements from operating leases $ 12 $ 12 $ 25 $ 25 1 Other expenses primarily relate to property taxes and building and property maintenance. ROU assets related to new leases totaled $ 1 million at both June 30, 2022 and December 31, 2021. Total contractual undiscounted lease payments for operating lease liabilities are summarized in the following schedule by expected due date: (In millions) Total undiscounted lease payments 2022 1 $ 24 2023 46 2024 37 2025 27 2026 22 Thereafter 86 Total $ 242 1 Contractual maturities for the six months remaining in 2022. We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 3 million for both the second quarter of 2022 and 2021, and $ 7 million for both the first six months of 2022 and 2021. We originated equipment leases, considered to be sales-type leases or direct financing leases, totaling $ 339 million and $ 327 million at June 30, 2022 and December 31, 2021, respectively. We recorded income of $ 3 million on these leases for both the second quarter of 2022 and 2021, and $ 6 million for both the first six months of 2022 and 2021. 9. LONG-TERM DEBT AND SHAREHOLDERS’ EQUITY Long-Term Debt The long-term debt carrying values in the following schedule represent the par value of the debt, adjusted for any unamortized premium or discount, unamortized debt issuance costs, and basis adjustments for interest rate swaps designated as fair value hedges. LONG-TERM DEBT (In millions) June 30, 2022 December 31, 2021 Amount change Percent change Subordinated notes $ 540 $ 590 $ ( 50 ) ( 8 ) % Senior notes 127 418 ( 291 ) ( 70 ) Finance lease obligations 4 4 — — Total $ 671 $ 1,012 $ ( 341 ) ( 34 ) % The decrease in long-term debt was primarily due to the redemption of $ 290 million of the 4-year , 3.35 % senior notes during the first quarter of 2022. 70 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Common Stock Our common stock is traded on the National Association of Securities Dealers Automated Quotations (“NASDAQ”) Global Select Market. At June 30, 2022, there were 150.5 million shares of $ 0.001 par value common stock outstanding. Common stock and additional paid-in capital totaled $ 1.8 billion at June 30, 2022, which decreased $ 83 million, or 4 %, from December 31, 2021, primarily due to common stock repurchases. During the first six months of 2022, we repurchased 1.7 million common shares outstanding for $ 100 million at an average price of $ 58.82 per share. Accumulated Other Comprehensive Income (Loss) Accumulated other comprehensive income (loss) decreased to a loss of $ 2.1 billion at June 30, 2022, primarily due to decreases in the fair value of fixed-rate available-for-sale securities as a result of changes in interest rates. Changes in AOCI by component are as follows: (In millions) Net unrealized gains/(losses) on investment securities Net unrealized gains/(losses) on derivatives and other Pension and post-retirement Total Six Months Ended June 30, 2022 Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) OCI (loss) before reclassifications, net of tax ( 1,820 ) ( 185 ) — ( 2,005 ) Amounts reclassified from AOCI, net of tax — ( 15 ) — ( 15 ) Other comprehensive loss ( 1,820 ) ( 200 ) — ( 2,020 ) Balance at June 30, 2022 $ ( 1,898 ) $ ( 200 ) $ ( 2 ) $ ( 2,100 ) Income tax benefit included in OCI (loss) $ ( 590 ) $ ( 65 ) $ — $ ( 655 ) Six Months Ended June 30, 2021 Balance at December 31, 2020 $ 258 $ 69 $ ( 2 ) $ 325 OCI (loss) before reclassifications, net of tax ( 130 ) 3 — ( 127 ) Amounts reclassified from AOCI, net of tax — ( 23 ) — ( 23 ) Other comprehensive income (loss) ( 130 ) ( 20 ) — ( 150 ) Balance at June 30, 2021 $ 128 $ 49 $ ( 2 ) $ 175 Income tax benefit included in OCI (loss) $ ( 42 ) $ ( 6 ) $ — $ ( 48 ) Amounts reclassified from AOCI 1 Statement of income (SI) (In millions) Three Months Ended June 30, Six Months Ended June 30, Details about AOCI components 2022 2021 2022 2021 Affected line item Net unrealized gains on derivative instruments $ 6 $ 15 $ 20 $ 31 SI Interest and fees on loans Income tax expense 2 4 5 8 Amounts reclassified from AOCI $ 4 $ 11 $ 15 $ 23 1 Positive reclassification amounts indicate increases to earnings in the income statement. 71 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 10. COMMITMENTS, GUARANTEES, AND CONTINGENT LIABILITIES Commitments and Guarantees Off-balance sheet financial obligations used to meet the financing needs of our customers include the followin (In millions) June 30, 2022 December 31, 2021 Unfunded lending commitments 1 $ 27,211 $ 25,797 Standby letters of cr Financial 581 597 Performance 199 245 Commercial letters of credit 17 22 Total unfunded commitments $ 28,008 $ 26,661 1 Net of participations. Our 2021 Form 10-K contains further information about these commitments and guarantees including their terms and collateral requirements. At June 30, 2022, the liability for the guarantees associated with the standby letters of credit was $ 4 million , which consisted of $ 1 million attributable to the RULC, and $ 3 million of deferred commitment fees. Legal Matters We are subject to litigation in court and arbitral proceedings, as well as proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. In the second quarter of 2022, we were subject to the following material litigation or governmental inquiri • a civil suit, JTS Communities, Inc. et. al v. CB&T, Jun Enkoji and Dawn Satow , brought against us in the Superior Court for Sacramento County, California in June 2017. In this case four investors in our former customer, International Manufacturing Group (“IMG”) seek to hold us liable for losses arising from their investments in that company, alleging that we conspired with and knowingly assisted IMG and its principal in furtherance of an alleged Ponzi scheme. In March 2022, the parties participated in mediation, which resulted in a binding settlement agreement. Our insurers paid the settlement amount under applicable policies. The case was dismissed in May 2022. The settlement did not have a significant financial impact on the Bank. • a civil class action lawsuit, Evans v. CB&T , brought against us in the United States District Court for the Eastern District of California in May 2017. This case was filed on behalf of a class of up to 50 investors in IMG and seeks to hold us liable for losses of class members arising from their investments in IMG, alleging that we conspired with and knowingly assisted IMG and its principal in furtherance of an alleged Ponzi scheme. In December 2017, the District Court dismissed all claims against the Bank. In January 2018, the plaintiff filed an appeal with the Court of Appeals for the Ninth Circuit. The appeal was heard in early April 2019 with the Court of Appeals reversing the trial court’s dismissal. In March 2022, the parties participated in mediation and an agreement was reached in principle. Our insurers are responsible for the payment of the settlement amount under applicable policies. The settlement agreement has been submitted to the court for its preliminary approval of the agreement and notification of the putative class. There can be no assurance that the proposed settlement 72 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES will result in a definitive agreement, that the conditions to the settlement will be met or the settlement will be approved by the court. If completed, the proposed settlement is not expected to have a significant financial impact on the Bank. • two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the Bank who filed for bankruptcy protection in 2017. The cases are in early phases, with initial motion practice and discovery underway in the Lifescan case. Trial has not been scheduled in either case. • a civil class action lawsuit, Gregory, et. al. v. Zions Bancorporation , brought against us in the United States District Court for Utah in January 2019. This case was filed on behalf of investors in Rust Rare Coin, Inc., alleging that we aided and abetted a Ponzi scheme fraud perpetrated by Rust Rare Coin, a Zions Bank customer. The case follows civil actions and the establishment of a receivership for Rust Rare Coin by The Commodities Futures Trading Commission and the Utah Division of Securities in November 2018, as well as a separate suit brought by the Securities and Exchange Commission (“SEC”) against Rust Rare Coin and its principal, Gaylen Rust. During the third quarter of 2020, the Court granted our motion to dismiss the plaintiffs' claims in part, dismissing claims relating to fraud and fiduciary duty, but allowing a claim for aiding and abetting conversion to proceed. On January 14, 2022, the parties notified the court they reached a settlement in principle and the parties are preparing to submit a proposed settlement agreement for the court’s preliminary approval of the agreement and notification of the putative class. There can be no assurance that the proposed settlement will result in a definitive agreement, that the conditions to the settlement will be met or the settlement will be approved by the court. If completed, the proposed settlement is not expected to have a significant financial impact on the Bank. • Five civil class action cases have been filed against us by the same plaintiffs’ attorney, seeking to hold the Bank liable for practices relating to, and disclosures in, its deposit agreement pertaining to fees. Three of the five cases have been dismissed, and two remain pending. Sipple v. Zions Bancorporation, N.A. was brought against us in the District Court of Clark County, Nevada in February 2021 with respect to foreign transaction fees. The following four cases pertain to insufficient fund fees and have similar or overlapping claims: Ward v. Zions Bancorporation , N.A. was brought against us in federal court in the District of Arizona in May 2021 and was dismissed by the court in February 2022. Subsequently, the plaintiff dismissed his appeal of the court’s dismissal of the case. Thornton v. Zions Bancorporation, N.A. was brought against us in federal court in the District of Utah in June 2021 and was dismissed by plaintiff in February 2022. C hristensen v. Zions Bancorporation, N.A. was brought against us in California state court in November 2021 and removed to federal court in the Southern District of California in January 2022. Covell v. Zions Bancorporation, N.A. was brought against us in federal court in the Southern District of California in April 2022, and was dismissed by plaintiff in May 2022. The two remaining cases, Sipple and Christensen, are in early phases of litigation. At least quarterly, we review outstanding and new legal matters, utilizing then available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at June 30, 2022, we estimated that the aggregate range of reasonably possible losses for those matters to be from $ 0 million to roughly $ 10 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are 73 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments and actual outcomes will differ from our estimates. These differences may be material. 11. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which was approximately 76 % of our total revenue in the second quarter of 2022. Only noninterest income is considered to be revenue from contracts with customers in scope of ASC 606. For more information about our revenue recognition from contracts, see Note 17 of our 2021 Form 10-K. 74 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Disaggregation of Revenue The schedule below presents net revenue by our operating business segments for the three months ended June 30, 2022 and 2021. Certain prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 12 $ 11 $ 7 $ 6 $ 11 $ 10 Card fees 14 15 5 4 8 7 Retail and business banking fees 6 6 3 3 4 4 Capital markets and foreign exchange fees — — — — — — Wealth management fees 6 5 1 1 4 3 Other customer-related fees 2 2 2 1 2 1 Total noninterest income from contracts with customers (ASC 606) 40 39 18 15 29 25 Other noninterest income (non-ASC 606 customer-related) 6 7 8 9 13 9 Total customer-related noninterest income 46 46 26 24 42 34 Other noncustomer-related noninterest income 3 — 1 1 — 1 Total noninterest income 49 46 27 25 42 35 Net interest income 170 158 142 133 120 116 Total net revenue $ 219 $ 204 $ 169 $ 158 $ 162 $ 151 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 2 $ 2 $ 2 $ 2 $ 2 $ 2 Card fees 4 3 4 3 2 1 Retail and business banking fees 2 2 3 3 1 1 Capital markets and foreign exchange fees — — — — — — Wealth management fees 1 1 1 1 — — Other customer-related fees — — — — 1 1 Total noninterest income from contracts with customers (ASC 606) 9 8 10 9 6 5 Other noninterest income (non-ASC 606 customer-related) 1 2 2 3 2 3 Total customer-related noninterest income 10 10 12 12 8 8 Other noncustomer-related noninterest income 1 1 — — — — Total noninterest income 11 11 12 12 8 8 Net interest income 55 53 39 37 35 35 Total net revenue $ 66 $ 64 $ 51 $ 49 $ 43 $ 43 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 1 $ 1 $ — $ — $ 37 $ 34 Card fees 1 — ( 2 ) — 36 33 Retail and business banking fees — — 1 ( 1 ) 20 18 Capital markets and foreign exchange fees — — 1 2 1 2 Wealth management fees — — — — 13 11 Other customer-related fees — — 9 8 16 13 Total noninterest income from contracts with customers (ASC 606) 2 1 9 9 123 111 Other noninterest income (non-ASC 606 customer-related) — 1 ( 1 ) ( 6 ) 31 28 Total customer-related noninterest income 2 2 8 3 154 139 Other noncustomer-related noninterest income — — 13 63 18 66 Total noninterest income 2 2 21 66 172 205 Net interest income 15 14 17 9 593 555 Total net revenue $ 17 $ 16 $ 38 $ 75 $ 765 $ 760 75 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the noninterest income and net revenue by operating segments for the six months ended June 30, 2022 and 2021: Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 27 $ 22 $ 14 $ 12 $ 22 $ 20 Card fees 27 27 10 8 16 13 Retail and business banking fees 12 10 6 6 8 8 Capital markets and foreign exchange fees — — — — — — Wealth management fees 11 10 2 2 8 6 Other customer-related fees 4 4 3 2 3 3 Total noninterest income from contracts with customers (ASC 606) 81 73 35 30 57 50 Other noninterest income (non-ASC 606 customer-related) 11 12 14 17 22 16 Total customer-related noninterest income 92 85 49 47 79 66 Other noncustomer-related noninterest income 3 — 2 2 — 1 Total noninterest income 95 85 51 49 79 67 Net interest income 326 315 271 263 232 231 Total net revenue $ 421 $ 400 $ 322 $ 312 $ 311 $ 298 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 4 $ 4 $ 6 $ 4 $ 4 $ 3 Card fees 7 5 7 6 4 3 Retail and business banking fees 5 4 6 5 2 2 Capital markets and foreign exchange fees — — — — — — Wealth management fees 2 1 2 2 1 1 Other customer-related fees 1 1 — — 1 1 Total noninterest income from contracts with customers (ASC 606) 19 15 21 17 12 10 Other noninterest income (non-ASC 606 customer-related) 3 6 4 8 4 6 Total customer-related noninterest income 22 21 25 25 16 16 Other noncustomer-related noninterest income 1 1 — — — — Total noninterest income 23 22 25 25 16 16 Net interest income 106 105 77 73 68 68 Total net revenue $ 129 $ 127 $ 102 $ 98 $ 84 $ 84 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 1 $ 1 $ — $ — $ 78 $ 66 Card fees 1 1 — — 72 63 Retail and business banking fees — — 1 — 40 35 Capital markets and foreign exchange fees — — 2 3 2 3 Wealth management fees — — — — 26 22 Other customer-related fees — — 18 13 30 24 Total noninterest income from contracts with customers (ASC 606) 2 2 21 16 248 213 Other noninterest income (non-ASC 606 customer-related) 1 1 ( 2 ) ( 7 ) 57 59 Total customer-related noninterest income 3 3 19 9 305 272 Other noncustomer-related noninterest income — — 3 98 9 102 Total noninterest income 3 3 22 107 314 374 Net interest income 28 27 29 18 1,137 1,100 Total net revenue $ 31 $ 30 $ 51 $ 125 $ 1,451 $ 1,474 76 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is typically not significant. 12. INCOME TAXES The effective income tax rate was 21.9 % for the second quarter of 2022, compared with 22.2 % for the same prior year period. The effective tax rates for the first six months of 2022 and 2021 were 21.2 % and 21.9 %, respectively. These rates were reduced by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the non-deductibility of Federal Deposit Insurance Corporation (“FDIC”) premiums, certain executive compensation plans, and other fringe benefits. The tax rate for 2022 was lower than the tax rate for the same prior year period, primarily as a result of the proportional increase in nontaxable items and tax credits relative to pretax book income. At June 30, 2022, we had a net deferred tax asset (“DTA”) totaling $ 722 million, compared with $ 96 million at December 31, 2021. On the consolidated balance sheet, the net DTA is included in “Other assets.” The increase in the net DTA was driven largely by the increase in unrealized losses in AOCI associated with investment securities and derivative instruments. There was no valuation allowance at June 30, 2022 or December 31, 2021. We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more-likely-than-not criteria that such assets will be realized. This evaluation includes, but is not limited to (1) available carryback potential to prior tax years; (2) potential future reversals of existing deferred tax liabilities, which historically have a reversal pattern generally consistent with DTAs; (3) potential tax planning strategies; and (4) future projected taxable income. Based on this evaluation, we concluded that a valuation allowance was not required at June 30, 2022. 13. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: Three Months Ended June 30, Six Months Ended June 30, (In millions, except shares and per share amounts) 2022 2021 2022 2021 Basic: Net income $ 203 $ 354 $ 406 $ 676 Less common and preferred dividends 66 65 132 129 Less impact from redemption of preferred stock — 3 — 3 Undistributed earnings 137 286 274 544 Less undistributed earnings applicable to nonvested shares 1 2 2 5 Undistributed earnings applicable to common shares 136 284 272 539 Distributed earnings applicable to common shares 57 56 115 111 Total earnings applicable to common shares $ 193 $ 340 $ 387 $ 650 Weighted average common shares outstanding (in thousands) 150,635 162,742 150,958 163,144 Net earnings per common share $ 1.29 $ 2.08 $ 2.56 $ 3.98 Dilut Total earnings applicable to common shares $ 193 $ 340 $ 387 $ 650 Weighted average common shares outstanding (in thousands) 150,635 162,742 150,958 163,144 Dilutive effect of stock options (in thousands) 203 312 306 324 Weighted average diluted common shares outstanding (in thousands) 150,838 163,054 151,264 163,468 Net earnings per common share $ 1.29 $ 2.08 $ 2.56 $ 3.98 77 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per sh Three Months Ended June 30, Six Months Ended June 30, (In thousands) 2022 2021 2022 2021 Restricted stock and restricted stock units 1,251 1,374 1,289 1,394 Stock options 200 7 155 234 14. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, California Bank & Trust, Amegy Bank, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. The operating segment identified as “Other” includes certain non-bank financial service subsidiaries, centralized back-office functions, and eliminations of transactions between segments. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal funds transfer pricing (“FTP”) allocation system and process to report results of operations for business segments, which is continually refined. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. At June 30, 2022, Zions Bank operated 95 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. CB&T operated 80 branches in California. Amegy operated 75 branches in Texas. NBAZ operated 56 branches in Arizona. NSB operated 43 branches in Nevada. Vectra operated 34 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. In July 2022, NSB completed the purchase of three Northern Nevada branches and their associated deposit, credit card, and loan accounts. The purchase included approximately $ 430 million in deposits and $ 95 million in commercial and consumer loans. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. 78 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the three months ended June 30, 2022 and 2021: Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 170 $ 158 $ 142 $ 133 $ 120 $ 116 Provision for credit losses 1 ( 8 ) 16 ( 32 ) 5 ( 45 ) Net interest income after provision for credit losses 169 166 126 165 115 161 Noninterest income 49 46 27 25 42 35 Noninterest expense 125 113 84 76 88 84 Income (loss) before income taxes $ 93 $ 99 $ 69 $ 114 $ 69 $ 112 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 13,120 $ 13,248 $ 12,895 $ 13,053 $ 11,934 $ 12,452 Total average deposits 25,035 22,862 16,663 15,602 16,253 15,350 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 55 $ 53 $ 39 $ 37 $ 35 $ 35 Provision for credit losses 6 ( 14 ) 3 ( 12 ) 10 ( 11 ) Net interest income after provision for credit losses 49 67 36 49 25 46 Noninterest income 11 11 12 12 8 8 Noninterest expense 42 37 37 36 30 29 Income (loss) before income taxes $ 18 $ 41 $ 11 $ 25 $ 3 $ 25 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 4,888 $ 4,950 $ 2,914 $ 3,120 $ 3,527 $ 3,476 Total average deposits 8,447 7,036 7,546 6,552 4,189 4,388 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 15 $ 14 $ 17 $ 9 $ 593 $ 555 Provision for credit losses 1 ( 1 ) ( 1 ) — 41 ( 123 ) Net interest income after provision for credit losses 14 15 18 9 552 678 Noninterest income 2 2 21 66 172 205 Noninterest expense 6 5 52 48 464 428 Income (loss) before income taxes $ 10 $ 12 $ ( 13 ) $ 27 $ 260 $ 455 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,579 $ 1,606 $ 927 $ 865 $ 51,784 $ 52,770 Total average deposits 1,547 1,500 1,207 1,350 80,887 74,640 79 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the six months ended June 30, 2022 and 2021: Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 326 $ 315 $ 271 $ 263 $ 232 $ 231 Provision for credit losses — ( 19 ) 22 ( 69 ) ( 22 ) ( 98 ) Net interest income after provision for credit losses 326 334 249 332 254 329 Noninterest income 95 85 51 49 79 67 Noninterest expense 248 231 168 156 175 169 Income (loss) before income taxes $ 173 $ 188 $ 132 $ 225 $ 158 $ 227 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 12,969 $ 13,488 $ 12,870 $ 13,052 $ 11,865 $ 12,577 Total average deposits 25,574 22,289 16,566 15,393 16,333 14,800 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 106 $ 105 $ 77 $ 73 $ 68 $ 68 Provision for credit losses 2 ( 24 ) — ( 30 ) 6 ( 11 ) Net interest income after provision for credit losses 104 129 77 103 62 79 Noninterest income 23 22 25 25 16 16 Noninterest expense 82 75 74 72 59 57 Income (loss) before income taxes $ 45 $ 76 $ 28 $ 56 $ 19 $ 38 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 4,831 $ 5,029 $ 2,866 $ 3,183 $ 3,463 $ 3,463 Total average deposits 8,201 6,791 7,492 6,312 4,243 4,334 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 28 $ 27 $ 29 $ 18 $ 1,137 $ 1,100 Provision for credit losses 1 ( 3 ) ( 1 ) ( 1 ) 8 ( 255 ) Net interest income after provision for credit losses 27 30 30 19 1,129 1,355 Noninterest income 3 3 22 107 314 374 Noninterest expense 12 11 110 92 928 863 Income (loss) before income taxes $ 18 $ 22 $ ( 58 ) $ 34 $ 515 $ 866 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,585 $ 1,590 $ 911 $ 833 $ 51,360 $ 53,215 Total average deposits 1,564 1,449 1,271 1,684 81,244 73,052 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Interest rate and market risks are among the most significant risks regularly undertaken by us, and they are closely monitored as previously discussed. A discussion regarding our management of interest rate and market risk is included in the section entitled “Interest Rate and Market Risk Management” in this Form 10-Q. 80 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 4. CONTROLS AND PROCEDURES Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures at June 30, 2022. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at June 30, 2022. There were no changes in our internal control over financial reporting during the second quarter of 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The information contained in Note 10 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 1A. RISK FACTORS The following risk factors supplement the risk factors disclosed in our 2021 Form 10-K. We could be negatively affected by adverse economic conditions Adverse economic conditions pose significant risks to our business, including our loan and investment portfolios, capital levels, results of operations, and financial condition. Recent indicators of a slowing economy including two consecutive quarters of negative GDP growth, rising interest rates, increased volatility in the financial markets, and uncertainty related to inflationary pressures, including related changes in monetary policies and actions, can increase these risks and lead to lower demand for loans, higher credit losses, decreased values for our investment securities, and lower fee income, among other negative effects. The Russian invasion of Ukraine and the retaliatory measures imposed by the U.S., U.K., European Union and other countries and the responses of Russia to such measures have caused significant disruptions to domestic and foreign economies. The Russia and Ukraine conflict has created new risks for global markets, trade, economic conditions, cybersecurity, and similar concerns. For example, the conflict could affect the availability and price of commodities and products, adversely affecting supply chains and increasing inflationary pressures; the value of currencies, interest rates and other components of financial markets; and, if the conflict escalates, cyberattacks that could result in severe costs and disruptions to governmental entities and companies and their operations. The impact of the conflict and retaliatory measures is continually evolving and cannot be predicted with certainty. It is likely that the conflict will continue to affect the global political order and global and domestic markets for a substantial period of time, regardless of when the conflict itself ends. While these events have not materially interrupted our operations, these or future developments resulting from the Russia and Ukraine conflict, such as cyberattacks on the U.S., us, our customers, or our vendors, could make it difficult to conduct business activities for us, our customers, or our vendors. 81 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS The following schedule summarizes our share repurchases for the second quarter of 2022: SHARE REPURCHASES Period Total number of shares repurchased 1 Average price paid per share Total number of shares purchased as part of publicly announced plans or programs April 4,775 $ 58.01 — May 840,107 53.41 839,531 June 91,374 56.51 91,374 Second quarter 936,256 53.73 930,905 1 Includes common shares acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options under provisions of an employee share-based compensation plan . 82 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 6. EXHIBITS a. Exhibits Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 10.1 Zions Bancorporation 2020-2022 Value Sharing Plan (filed herewith). 10.2 Zions Bancorporation 2021-2023 Value Sharing Plan (filed herewith). 10.3 Zions Bancorporation 2021-2023 Value Sharing Plan with conditional incentives (filed herewith). 10.4 Zions Bancorporation 2022-2024 Value Sharing Plan (filed herewith). 10.5 Ninth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective October 1, 2019 (filed herewith). 10.6 Eleventh Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective November 1, 2020 (filed herewith). 10.7 Twelfth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective April 1, 2022 (filed herewith). 10.8 Form of Standard Restricted Stock Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan (filed herewith). 10.9 Form of Restricted Stock Award Agreement subject to holding requirement, Zions Bancorporation 2022 Omnibus Incentive Plan (filed herewith). 10.1 0 Form of Standard Restricted Stock Unit Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan (filed herewith). 10.11 Form of Restricted Stock Unit Award Agreement subject to holding requirement, Zions Bancorporation 2022 Omnibus Incentive Plan (filed herewith). 10.12 Form of Standard Stock Option Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan (filed herewith). 10.13 Form of Standard Directors Stock Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan (filed herewith). 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in Inline XBRL (i) the Consolidated Balance Sheets as of June 30, 2022 and December 31, 2021, (ii) the Consolidated Statements of Income for the three months ended June 30, 2022 and June 30, 2021 and the six months ended June 30, 2022 and June 30, 2021, (iii) the Consolidated Statements of Comprehensive Income for the three months ended June 30, 2022 and June 30, 2021 and the six months ended June 30, 2022 and June 30, 2021, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the three months ended June 30, 2022 and June 30, 2021 and the six months ended June 30, 2022 and June 30, 2021, (v) the Consolidated Statements of Cash Flows for the six months ended June 30, 2022 and June 30, 2021, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Quarterly Report on Form 10-Q, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. 83 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZIONS BANCORPORATION, NATIONAL ASSOCIATION /s/ Harris H. Simmons Harris H. Simmons, Chairman and Chief Executive Officer /s/ Paul E. Burdiss Paul E. Burdiss, Executive Vice President and Chief Financial Officer Date: August 4, 2022 84 |
Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) 36 Consolidated Balance Sheets 36 Consolidated Statements of Income 37 Consolidated Statements of Comprehensive Income (Loss) 38 Consolidated Statements of Changes in Shareholders’ Equity 38 Consolidated Statements of Cash Flows 40 Notes to Consolidated Financial Statements 41 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 4 Item 3. Quantitative and Qualitative Disclosures About Market Risk 79 Item 4. Controls and Procedures 80 PART II. OTHER INFORMATION Item 1. Legal Proceedings 80 Item 1A. Risk Factors 80 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 81 Item 6. Exhibits 81 Signatures 82 2 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses IPO Initial Public Offering AFS Available-for-Sale IRS Internal Revenue Service ALLL Allowance for Loan and Lease Losses LIBOR London Interbank Offered Rate Amegy Amegy Bank, a division of Zions Bancorporation, National Association Municipalities State and Local Governments AMERIBOR American Interbank Offered Rate NAICS North American Industry Classification System AOCI Accumulated Other Comprehensive Income NASDAQ National Association of Securities Dealers Automated Quotations ASC Accounting Standards Codification NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association ASU Accounting Standards Update NIM Net Interest Margin BOLI Bank-Owned Life Insurance NM Not Meaningful bps Basis Points NSB Nevada State Bank, a division of Zions Bancorporation, National Association BSBY Bloomberg Short-Term Bank Yield OCC Office of the Comptroller of the Currency CB&T California Bank & Trust, a division of Zions Bancorporation, National Association OCI Other Comprehensive Income CECL Current Expected Credit Loss OREO Other Real Estate Owned CLTV Combined Loan-to-Value Ratio PEI Private Equity Investment CMT Constant Maturity Treasury PPNR Pre-provision Net Revenue CRE Commercial Real Estate PPP Paycheck Protection Program CVA Credit Valuation Adjustment ROU Right-of-Use DTA Deferred Tax Asset RULC Reserve for Unfunded Lending Commitments EaR Earnings at Risk S&P Standard & Poor's EPS Earnings per Share SBA U.S. Small Business Administration EVE Economic Value of Equity SBIC Small Business Investment Company FASB Financial Accounting Standards Board SEC Securities and Exchange Commission FDIC Federal Deposit Insurance Corporation SOFR Secured Overnight Financing Rate FHLB Federal Home Loan Bank TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association FRB Federal Reserve Board TDR Troubled Debt Restructuring FTP Funds Transfer Pricing U.K. United Kingdom GAAP Generally Accepted Accounting Principles U.S. United States HECL Home Equity Credit Line Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association HTM Held-to-Maturity Zions Bank Zions Bank, a division of Zions Bancorporation, National Association 3 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES PART I. FINANCIAL INFORMATION ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING INFORMATION This quarterly report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. These forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although this list is not comprehensive, important factors that may cause material differences include changes in general industry and economic conditions, including inflation, economic slowdown or other economic disruption; securities and capital markets behavior, including volatility and changes in market liquidity; changes and uncertainties in legislation and fiscal, monetary, regulatory, trade, and tax policies; changes in interest and reference rates; the quality and composition of our loan and securities portfolios; our ability to recruit and retain talent, including increased competition for qualified candidates as a result of expanded remote-work opportunities and increased compensation expenses; competitive pressures and other factors that may affect aspects of our business, such as pricing and demand for our products and services; our ability to execute our strategic plans, manage our risks, and achieve our business objectives; our ability to develop and maintain information security systems and controls designed to guard against fraud, cyber, and privacy risks; the effects of the COVID-19 pandemic (including variants) and associated actions that may affect our business, employees, and communities; the effects of the ongoing conflict in Eastern Europe and other local, national, or international disasters, crises, or conflicts that may occur in the future; and governmental and social responses to environmental issues and climate change. These factors, risks, and uncertainties, among others, are discussed in our 2021 Form 10-K and subsequent filings with the Securities and Exchange Commission (“SEC”). We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any of the forward-looking statements included herein to reflect future events or developments. 4 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Comparisons noted below are calculated for the current quarter compared with the same prior-year period unless otherwise specified. Growth rates of 100% or more are considered not meaningful (“NM”) as they generally reflect a low starting point. RESULTS OF OPERATIONS Executive Summary Our financial results in the third quarter of 2022 reflected strong revenue growth, which was offset by increases in the provision for credit losses and noninterest expense. Diluted earnings per share (“EPS”) decreased to $1.40, compared with $1.45 in the third quarter of 2021. Notwithstanding a $57 million decrease in interest income from Paycheck Protection Program (“PPP”) loans, net interest income increased $108 million, or 19%, to $663 million, primarily due to a higher interest rate environment and a favorable change in the composition of interest-earning assets. The net interest margin (“NIM”) was 3.24%, compared with 2.68%. Nonperforming assets decreased $173 million, and classified loans decreased $432 million. Net loan and lease charge-offs were $27 million, or 0.21% of average loans (ex-PPP), compared with net recoveries of $1 million, or 0.01% of average loans (ex-PPP), in the prior year quarter. Despite improvements in most of our credit quality metrics, the provision for credit losses was $71 million, compared with a $(46) million provision in the prior year period, reflecting loan growth and changes in economic scenarios. Total customer-related noninterest income increased $5 million, or 3%, driven by increases in capital markets and foreign exchange fees, commercial account fees, card fees, and wealth management fees, partially offset by decreases in loan-related fees and retail and business banking fees. Total noninterest income increased $26 million, or 19%, primarily due to unrealized losses recorded during the prior year period related to our Small Business Investment Company (“SBIC”) investment in Recursion Pharmaceuticals, Inc. Total noninterest expense increased $50 million, or 12%. The increase was driven largely by a $27 million increase in salaries and benefits expense, which was impacted by inflationary and competitive labor market pressures on wages and benefits, increased headcount, and increased incentive compensation accruals arising from improvements in anticipated full-year profitability. Our efficiency ratio was 57.6%, compared with 59.8%, as growth in net revenue outpaced growth in noninterest expense. Average interest-earning assets decreased $0.7 billion, or 1%, from the prior year quarter, driven by declines in average money market investments and PPP loans, the effects of which were largely offset by growth in average available-for-sale (“AFS”) investment securities and average loans and leases (ex-PPP). Excluding PPP loans, total loans and leases increased $6.0 billion, or 13%. The increases were primarily in the commercial and industrial, owner-occupied, municipal, consumer 1-4 family residential mortgage, and home equity credit line (“HECL”) portfolios. Total deposits decreased $1.9 billion, or 2%, primarily due to a $1.7 billion, or 4%, decrease mainly related to more rate-sensitive larger-balance deposits. Total deposits at September 30, 2022 included approximately $400 million of deposit balances acquired from the purchase of three Northern Nevada branches during the third quarter of 2022. Our loan-to-deposit ratio was 71%, compared with 65% in the prior year quarter, which continues to afford us flexibility in managing our funding costs. 5 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Third Quarter 2022 Financial Performance Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency Ratio Net earnings applicable to common shareholders decreased from the third quarter of 2021, primarily due to a $117 million unfavorable change in the provision for credit losses. Diluted earnings per share declined from the third quarter of 2021 as a result of decreased net earnings, the effect of which was partially offset by a 10.7 million decrease in weighted average diluted shares, primarily due to share repurchases. Adjusted pre-provision net revenue (“PPNR”) increased $61 million from the third quarter of 2021, primarily due to growth in adjusted net revenue, driven largely by an increase in net interest income. This increase was partially offset by higher adjusted noninterest expense. The efficiency ratio improved from the prior year quarter, as growth in adjusted revenue outpaced growth in adjusted noninterest expense, resulting in positive operating leverage. Net Interest Income and Net Interest Margin NET INTEREST INCOME AND NET INTEREST MARGIN Three Months Ended September 30, Amount change Percent change (Dollar amounts in millions) 2022 2021 Interest and fees on loans 1 $ 551 $ 484 $ 67 14 % Interest on money market investments 24 7 17 NM Interest on securities 132 78 54 69 Total interest income 707 569 138 24 Interest on deposits 19 7 12 NM Interest on short- and long-term borrowings 25 7 18 NM Total interest expense 44 14 30 NM Net interest income $ 663 $ 555 $ 108 19 % Average interest-earning assets $ 82,474 $ 83,189 $ (715) (1) % Average interest-bearing liabilities $ 41,398 $ 40,925 $ 473 1 % bps Yield on interest-earning assets 2 3.45 % 2.75 % 70 Rate paid on total deposits and interest-bearing liabilities 2 0.22 % 0.07 % 15 Cost of total deposits 2 0.10 % 0.03 % 7 Net interest margin 2 3.24 % 2.68 % 56 1 Includes interest income recoveries of $2 million and $1 million for the three months ended September 30, 2022, and 2021, respectively. 2 Rates are calculated using amounts in thousands; taxable-equivalent rates are used where applicable. 6 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Net interest income accounted for approximately 80% of our net revenue (net interest income plus noninterest income) for the quarter. Notwithstanding a $57 million decrease in interest income from PPP loans, net interest income increased $108 million, or 19%, primarily due to a higher interest rate environment and a favorable change in the composition of interest-earning assets. Average interest-earning assets decreased $0.7 billion, or 1%, from the prior year quarter, driven by declines of $9.0 billion and $3.4 billion in average money market investments and average PPP loans, respectively. These decreases were largely offset by increases of $6.2 billion and $5.5 billion in average securities and average loans and leases (ex-PPP), respectively. The NIM was 3.24%, compared with 2.68%. The yield on average interest-earning assets was 3.45% in the third quarter of 2022, an increase of 70 basis points (“bps”), reflecting a change in the mix of interest-earning assets from money market investments to securities and loans. The yield also benefited from a decrease in the market value of AFS securities due to rising interest rates. The average rate paid on interest-bearing liabilities increased to 0.43%, compared with 0.13%, reflecting the higher interest rate environment and increased short-term borrowings. Total average loans and leases increased $2.1 billion, or 4%, to $53.0 billion, and were partially offset by decreases in PPP loans, primarily due to forgiveness of these loans by the Small Business Administration (“SBA”). The yield on total loans increased 35 basis points to 4.17%, reflecting the higher interest rate environment. Excluding PPP loans, average loans and leases increased $5.5 billion, or 12%, primarily in the commercial and industrial, owner-occupied, municipal, 1-4 family residential mortgage, and home equity credit line portfolios. The yield on non-PPP loans increased 57 basis points to 4.16%. During the third quarter of 2022 and 2021, PPP loans totaling $0.2 billion and $1.5 billion, respectively, were forgiven by the SBA. PPP loans contributed $6 million and $63 million in interest income during the same time periods. The yield on PPP loans was 6.28% and 6.66% for the respective periods, and was positively impacted by accelerated amortization of deferred fees on paid off or forgiven PPP loans. At September 30, 2022 and 2021, the remaining unamortized net deferred fees on PPP loans totaled $5 million and $83 million, respectively. Average total deposits increased $0.1 billion to $77.5 billion at an average cost of 0.10%, from $77.4 billion at an average cost of 0.03% in the third quarter of 2021. The rate paid on total deposits and interest-bearing liabilities was 0.22%, compared with 0.07%. Average noninterest-bearing deposits as a percentage of total deposits were 51%, up 7 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES slightly from the same prior year period. Our funding costs were well controlled, reflecting the granularity of our deposit base and the extent of our noninterest-bearing deposits. Average AFS securities balances increased $6.1 billion, or 32%, to $24.9 billion, primarily due to an increase in our agency guaranteed mortgage-backed securities portfolio. Average borrowed funds increased $1.8 billion, driven by increases in short-term borrowings as a result of loan growth and declines in interest-bearing deposits. These increases were partially offset by a decrease in long-term debt, primarily due to the redemption and maturity of senior notes during the past year. For further discussion of the effects of market rates on net interest income and how we manage interest rate risk, refer to the “Interest Rate and Market Risk Management” section on page 28. For more information on how we manage liquidity risk, refer to the “Liquidity Risk Management” section on page 32. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 8 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED AVERAGE BALANCE SHEETS, YIELDS AND RATES (Unaudited) Three Months Ended September 30, 2022 Three Months Ended September 30, 2021 (Dollar amounts in millions) Average balance Amount of interest Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 1,233 $ 7 2.19 % $ 10,977 $ 5 0.15 % Federal funds sold and security resell agreements 2,511 17 2.66 1,739 2 0.50 Total money market investments 3,744 24 2.51 12,716 7 0.20 Securiti Held-to-maturity 560 4 2.88 557 4 2.87 Available-for-sale 2 24,892 129 2.05 18,814 74 1.56 Trading account 288 3 4.57 199 2 4.41 Total securities 3 25,740 136 2.10 19,570 80 1.63 Loans held for sale 37 1 5.33 52 — 3.03 Loans and leases 4 Commercial – excluding PPP loans 28,972 302 4.13 24,854 235 3.76 Commercial – PPP loans 408 6 6.28 3,795 63 6.66 Commercial real estate 12,182 145 4.73 12,144 105 3.42 Consumer 11,391 103 3.61 10,058 86 3.38 Total loans and leases 52,953 556 4.17 50,851 489 3.82 Total interest-earning assets 82,474 717 3.45 83,189 576 2.75 Cash and due from banks 604 597 Allowance for credit losses on loans and debt securities (515) (536) Goodwill and intangibles 1,021 1,015 Other assets 4,923 4,291 Total assets $ 88,507 $ 88,556 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 36,399 $ 18 0.20 % $ 37,262 $ 5 0.05 % Time 1,441 1 0.32 1,829 2 0.32 Total interest-bearing deposits 37,840 19 0.20 39,091 7 0.07 Borrowed funds: Federal funds purchased and other short-term borrowings 2,885 17 2.33 630 — 0.08 Long-term debt 673 8 4.83 1,204 7 2.34 Total borrowed funds 3,558 25 2.80 1,834 7 1.56 Total interest-bearing liabilities 41,398 44 0.43 40,925 14 0.13 Noninterest-bearing demand deposits 39,623 38,320 Other liabilities 1,743 1,302 Total liabilities 82,764 80,547 Shareholders’ equity: Preferred equity 440 440 Common equity 5,303 7,569 Total shareholders’ equity 5,743 8,009 Total liabilities and shareholders’ equity $ 88,507 $ 88,556 Spread on average interest-bearing funds 3.02 % 2.62 % Net impact of noninterest-bearing sources of funds 0.22 % 0.06 % Net interest margin $ 673 3.24 % $ 562 2.68 % Me total loans and leases, excluding PPP loans $ 52,545 550 4.16 % $ 47,056 426 3.59 % Me total cost of deposits 0.10 % 0.03 % Me total deposits and interest-bearing liabilities 81,021 44 0.22 % 79,245 14 0.07 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. The taxable-equivalent rates used are the rates that were applicable at the time of each respective reporting period. 2 The fair value of AFS securities at September 30, 2022, and September 30, 2021, was $23.2 billion and $20.5 billion, respectively. In addition to other factors, the yield on AFS securities was positively impacted by the decline in fair value. 3 Interest on total securities includes $27 million and $29 million of taxable-equivalent premium amortization for the third quarter of 2022 and 2021, respectively. 4 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 9 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2022 Nine Months Ended September 30, 2021 (Dollar amounts in millions) Average balance Amount of interest 1 Average yield/rate Average balance Amount of interest 1 Average yield/rate ASSETS Money market investments: Interest-bearing deposits $ 3,674 $ 15 0.55 % $ 8,162 $ 8 0.13 % Federal funds sold and security resell agreements 2,451 27 1.47 2,109 6 0.37 Total money market investments 6,125 42 0.92 10,271 14 0.18 Securiti Held-to-maturity 495 11 2.98 599 13 2.92 Available-for-sale 2 25,285 358 1.89 17,255 209 1.62 Trading account 343 12 4.81 213 7 4.25 Total securities 3 26,123 381 1.95 18,067 229 1.70 Loans held for sale 44 1 2.55 61 1 2.77 Loans and leases 4 Commercial – excluding PPP loans 28,060 798 3.80 24,716 705 3.81 Commercial – PPP loans 885 45 6.83 5,283 191 4.84 Commercial real estate 12,151 358 3.93 12,104 313 3.46 Consumer 10,801 272 3.37 10,315 270 3.50 Total loans and leases 51,897 1,473 3.79 52,418 1,479 3.77 Total interest-earning assets 84,189 1,897 3.01 80,817 1,723 2.85 Cash and due from banks 615 597 Allowance for loan losses (503) (651) Goodwill and intangibles 1,017 1,015 Other assets 4,618 4,106 Total assets $ 89,936 $ 85,884 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 37,942 $ 29 0.10 % $ 36,168 $ 16 0.06 % Time 1,505 3 0.27 2,140 7 0.44 Total interest-bearing deposits 39,447 32 0.11 38,308 23 0.08 Borrowed funds: Federal funds purchased and other short-term borrowings 1,415 18 1.73 856 1 0.07 Long-term debt 724 20 3.69 1,277 22 2.32 Total borrowed funds 2,139 38 2.39 2,133 23 1.41 Total interest-bearing liabilities 41,586 70 0.23 40,441 46 0.15 Noninterest-bearing demand deposits 40,523 36,213 Other liabilities 1,530 1,267 Total liabilities 83,639 77,921 Shareholders’ equity: Preferred equity 440 516 Common equity 5,857 7,447 Total shareholders’ equity 6,297 7,963 Total liabilities and shareholders’ equity $ 89,936 $ 85,884 Spread on average interest-bearing funds 2.78 % 2.70 % Net impact of noninterest-bearing sources of funds 0.12 % 0.08 % Net interest margin $ 1,827 2.90 % $ 1,677 2.78 % Me total loans and leases, excluding PPP loans $ 51,012 1,428 3.74 % $ 47,135 1,288 3.65 % Me total cost of deposits 0.05 % 0.04 % Me total deposits and interest-bearing liabilities 82,109 70 0.12 % 76,654 46 0.15 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. The taxable-equivalent rates used are the rates that were applicable at the time of each respective reporting period. 2 The fair value of AFS securities at September 30, 2022, and September 30, 2021, was $23.2 billion and $20.5 billion, respectively. In addition to other factors, the yield on AFS securities was positively impacted by the decline in fair value. 3 Interest on total securities includes $82 million and $87 million of taxable-equivalent premium amortization for the first nine months of 2022 and 2021, respectively. 4 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 10 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans. The provision for credit losses, which is the combination of both the provision for loan and lease losses and the provision for unfunded lending commitments, was $71 million, compared with $(46) million in the third quarter of 2021. The ACL was $590 million at September 30, 2022, compared with $529 million at September 30, 2021. The increase in the ACL was primarily due to growth in the loan portfolio, as well as changes in economic scenarios, which were driven by the increased probability of a recession, the effects of which were partially offset by improvements in credit quality. The ratio of ACL to net loans and leases (ex-PPP) was 1.10% and 1.11% at September 30, 2022 and 2021, respectively. The provision for securities losses was less than $1 million during the third quarter of 2022 and 2021. 11 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The bar chart above illustrates the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic scenarios and current economic conditions, which increased the ACL by $11 million from the prior year quarter. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, decreased the ACL by $9 million, indicating improvements in overall credit quality. Nonperforming assets decreased $173 million, or 53%, and classified loans decreased $432 million, or 31%. Net loan and lease charge-offs were $27 million, or 0.21% annualized of average loans (ex-PPP), in the third quarter of 2022, compared with net recoveries of $1 million, or 0.01% annualized of average loans (ex-PPP), in the prior year quarter. The fourth bar represents loan portfolio changes, driven primarily by loan growth, as well as changes in portfolio mix, the aging of the portfolio, and other risk factors; all of which resulted in a $59 million increase in the ACL. See “Credit Risk Management” on page 21 and Note 6 in our 2021 Form 10-K for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue we earn from products and services that generally have no associated interest rate or yield and is classified as either customer-related or noncustomer-related. Customer-related noninterest income excludes items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income increased $26 million, or 19%. Noninterest income accounted for approximately 20% of our net revenue during both the third quarter of 2022 and 2021. The following schedule presents a comparison of the major components of noninterest income. 12 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NONINTEREST INCOME Three Months Ended September 30, Amount change Percent change Nine Months Ended September 30, Amount change Percent change (Dollar amounts in millions) 2022 2021 2022 2021 Commercial account fees $ 40 $ 34 $ 6 18 % $ 118 $ 100 $ 18 18 % Card fees 27 25 2 8 77 70 7 10 Retail and business banking fees 17 20 (3) (15) 57 55 2 4 Loan-related fees and income 18 27 (9) (33) 61 73 (12) (16) Capital markets and foreign exchange fees 25 17 8 47 61 49 12 24 Wealth management fees 14 13 1 8 41 37 4 11 Other customer-related fees 15 15 — — 46 39 7 18 Customer-related noninterest income 156 151 5 3 461 423 38 9 Fair value and nonhedge derivative income 4 2 2 NM 20 15 5 33 Dividends and other income (loss) (1) 9 (10) NM 8 24 (16) (67) Securities gains (losses), net 6 (23) 29 NM (10) 51 (61) NM Noncustomer-related noninterest income 9 (12) 21 NM 18 90 (72) (80) Total noninterest income $ 165 $ 139 $ 26 19 % $ 479 $ 513 $ (34) (7) % Customer-related Total customer-related noninterest income increased $5 million, or 3%, from the prior year quarter, driven by increases in capital markets and foreign exchange fees, commercial account fees, card fees, and wealth management fees. Capital markets and foreign exchange fees benefited from improved customer swap, foreign exchange, and syndication activity. These increases were partially offset by a decrease in loan-related fees, primarily due to an increased proportion of our 1-4 family residential mortgage production being retained versus sold, and a decrease in retail and business banking fees. The latter decrease was due largely to previously disclosed changes in our overdraft and non-sufficient funds practices, including the rate and frequency with which we assess related fees. These changes were effected early in the third quarter of 2022. Noncustomer-related Total noncustomer-related noninterest income increased $21 million, relative to the prior year quarter. Net securities gains increased $29 million, due largely to unrealized losses recorded during the prior year period related to our SBIC investment in Recursion Pharmaceuticals, Inc. Dividends and other income (loss) decreased $10 million from the prior year period, primarily due to a $6 million valuation loss recognized on one of our equity investments in the current period. 13 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Noninterest Expense The following schedule presents a comparison of the major components of noninterest expense. NONINTEREST EXPENSE Three Months Ended September 30, Amount change Percent change Nine Months Ended September 30, Amount change Percent change (Dollar amounts in millions) 2022 2021 2022 2021 Salaries and employee benefits $ 312 $ 285 $ 27 9 % $ 931 $ 845 $ 86 10 % Technology, telecom, and information processing 53 50 3 6 158 148 10 7 Occupancy and equipment, net 38 37 1 3 112 115 (3) (3) Professional and legal services 14 17 (3) (18) 42 56 (14) (25) Marketing and business development 11 9 2 22 28 22 6 27 Deposit insurance and regulatory expense 13 8 5 63 36 25 11 44 Credit-related expense 8 7 1 14 22 19 3 16 Other real estate expense, net — — — NM 1 — 1 NM Other 30 16 14 88 77 62 15 24 Total noninterest expense $ 479 $ 429 $ 50 12 % $ 1,407 $ 1,292 $ 115 9 % Adjusted noninterest expense 1 $ 477 $ 432 $ 45 10 % $ 1,404 $ 1,291 $ 113 9 % 1 For information on non-GAAP financial measures, see “Non-GAAP Financial Measures” on page 33. Total noninterest expense increased $50 million, or 12%, relative to the prior year quarter. Salaries and benefits expense increased $27 million, or 9%, due to the impact of inflationary and competitive labor market pressures on wages and benefits, increased headcount, and increased incentive compensation accruals arising from improvements in anticipated full-year profitability. Other noninterest expense increased $14 million, primarily due to the reversal of a success fee accrual in the prior year period related to our SBIC investment in Recursion Pharmaceuticals, Inc., as well as increased travel and certain other expenses incurred during the current period. Deposit insurance and regulatory expense increased $5 million, driven largely by a higher Federal Deposit Insurance Corporation (“FDIC”) insurance assessment resulting from changes in the balance sheet composition. Professional and legal services expense decreased $3 million, or 18%, due to third-party assistance associated with PPP loan forgiveness and other technology-related and outsourced services utilized in the prior year period. The efficiency ratio was 57.6%, compared with 59.8%, as growth in net revenue outpaced growth in noninterest expense. For information on non-GAAP financial measures, including differences between noninterest expense and adjusted noninterest expense, see page 33. Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods present INCOME TAXES Three Months Ended September 30, Nine Months Ended September 30, (Dollar amounts in millions) 2022 2021 2022 2021 Income before income taxes $ 278 $ 311 $ 793 $ 1,177 Income tax expense 61 71 170 261 Effective tax rate 21.9 % 22.8 % 21.4 % 22.2 % See Note 12 of the Notes to Consolidated Financial Statements for more information about the factors that influenced the income tax rates as well as information about deferred income tax assets and liabilities. 14 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Preferred Stock Dividends Preferred stock dividends totaled $6 million for both the third quarter of 2022 and 2021. Technology Spend As the banking industry continues to move toward information technology-based products and services, we recognize there are disparate ways of discussing expenditures associated with technology-related investments and operations. We generally describe these expenditures as total technology spend, which includes current period expenses reported on our consolidated statement of income, and capitalized investments, net of related amortization and depreciation, reported on our consolidated balance sheet. We believe these disclosures provide more relevant presentation and discussion regarding our technology-related investments and operations. Total technology spend represents expenditures for technology systems and infrastructure and is reported as a combination of the followin • Technology, telecom, and information processing expense — includes expenses related to application software licensing and maintenance, related amortization, telecommunications, and data processing; • Other technology-related expenses — includes related noncapitalized salaries and employee benefits, occupancy and equipment, and professional and legal services; and • Technology investments — includes capitalized technology infrastructure equipment, hardware, and purchased or internally developed software, less related amortization or depreciation. The following schedule provides information related to our technology spen TECHNOLOGY SPEND Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2022 2021 2022 2021 Technology, telecom, and information processing expense $ 53 $ 50 $ 158 $ 148 Other technology-related expense 52 48 152 140 Technology investments 21 28 65 80 L related amortization and depreciation (14) (13) (41) (40) Total technology spend $ 112 $ 113 $ 334 $ 328 Total technology spend remained relatively flat compared with the prior year period, as increases in related expenses were offset by reduced technology investments. BALANCE SHEET ANALYSIS Interest-Earning Assets Interest-earning assets are assets that have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see the Consolidated Average Balance Sheet on page 11. Investment Securities Portfolio We invest in securities to generate interest income and to actively manage liquidity, interest rate, and credit risk. Refer to the “Liquidity Risk Management” section on page 32 for additional information about how we manage our liquidity risk. See Note 3 and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. 15 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the components of our investment securities portfolio. INVESTMENT SECURITIES PORTFOLIO September 30, 2022 December 31, 2021 (In millions) Par value Amortized cost Estimated fair value Par value Amortized cost Estimated fair value Held-to-maturity Municipal securities $ 423 $ 423 $ 379 $ 441 $ 441 $ 443 Available-for-sale U.S. Treasury securities 555 557 394 155 155 134 U.S. Government agencies and corporatio Agency securities 859 851 807 833 833 845 Agency guaranteed mortgage-backed securities 23,002 23,162 19,566 20,340 20,549 20,387 Small Business Administration loan-backed securities 740 793 766 867 938 912 Municipal securities 1,611 1,780 1,626 1,489 1,652 1,694 Other debt securities 75 75 74 75 75 76 Total available-for-sale 26,842 27,218 23,233 23,759 24,202 24,048 Total HTM and AFS investment securities $ 27,265 $ 27,641 $ 23,612 $ 24,200 $ 24,643 $ 24,491 The amortized cost of total held-to-maturity (“HTM”) and AFS investment securities increased $3.0 billion, or 12%, from December 31, 2021. Approximately 8% and 11% of the total HTM and AFS investment securities portfolio were floating rate at September 30, 2022 and December 31, 2021, respectively. At September 30, 2022, the investment securities portfolio includes $376 million of net premium that is distributed across the various asset classes. Total taxable-equivalent premium amortization for our investment securities was $27 million for the third quarter of 2022, compared with $29 million for the same prior year period. In addition to HTM and AFS securities, we also have a Trading securities portfolio of $526 million and $372 million, at September 30, 2022 and December 31, 2021, respectively, which is comprised primarily of municipal securities and money market sweep transactions for customers. Refer to the “Capital Management” section on page 33 and Note 5 of the Notes to Consolidated Financial Statements for more discussion regarding our investment securities portfolio and related unrealized gains and losses. In October 2022, we transferred approximately $9.0 billion amortized cost ($7.2 billion fair value) of pass-through mortgage-backed AFS securities to the HTM category to reflect our new intent for these securities. Municipalities We provide products and services to state and local governments (referred to collectively as “municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. The following schedule summarizes our exposure to state and local municipaliti EXPOSURE TO MUNICIPALITIES (In millions) September 30, 2022 December 31, 2021 Loans and leases $ 4,224 $ 3,658 Held-to-maturity securities 423 441 Available-for-sale securities 1,626 1,694 Trading account securities 302 355 Unfunded lending commitments 337 280 Total direct exposure to municipalities $ 6,912 $ 6,428 The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. Our municipal loans and securities primarily relate to municipalities located within our geographic footprint. 16 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At September 30, 2022, no municipal loans were on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At September 30, 2022, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. Loan and Lease Portfolio At September 30, 2022 and December 31, 2021, the ratio of loans and leases to total assets was 61% and 55%, respectively. The largest loan category was commercial and industrial loans, which constituted 29% and 27% of our total loan portfolio for the same periods. The following schedule presents our loans and leases according to major portfolio segment, specific loan class, and percentage of total loa LOAN AND LEASE PORTFOLIO September 30, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 15,656 29.0 % $ 13,867 27.3 % PPP 306 0.6 1,855 3.6 Leasing 347 0.7 327 0.6 Owner-occupied 9,279 17.2 8,733 17.2 Municipal 4,224 7.8 3,658 7.2 Total commercial 29,812 55.3 28,440 55.9 Commercial real estate: Construction and land development 2,800 5.2 2,757 5.4 Term 9,556 17.7 9,441 18.6 Total commercial real estate 12,356 22.9 12,198 24.0 Consume Home equity credit line 3,331 6.2 3,016 5.9 1-4 family residential 6,852 12.7 6,050 11.9 Construction and other consumer real estate 973 1.8 638 1.3 Bankcard and other revolving plans 471 0.9 396 0.8 Other 123 0.2 113 0.2 Total consumer 11,750 21.8 10,213 20.1 Total net loans and leases $ 53,918 100.0 % $ 50,851 100.0 % The loan and lease portfolio increased $3.1 billion from December 31, 2021. Excluding PPP loans, commercial loans increased $2.9 billion, or 11%, driven largely by increases in commercial and industrial loans, municipal loans, and owner-occupied loans of $1.8 billion, $566 million, and $546 million, respectively. Consumer loans increased $1.5 billion, primarily due to increases in 1-4 family residential loans, construction and other consumer real estate loans, and home equity credit lines of $802 million, $335 million, and $315 million, respectively. 17 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Other Noninterest-Bearing Investments Other noninterest-bearing investments are equity investments that are held primarily for capital appreciation, dividends, or for certain regulatory requirements. The following schedule summarizes our related investments: OTHER NONINTEREST-BEARING INVESTMENTS (Dollar amounts in millions) September 30, 2022 December 31, 2021 Amount change Percent change Bank-owned life insurance $ 543 $ 537 $ 6 1 % Federal Home Loan Bank stock 151 11 140 NM Federal Reserve stock 69 81 (12) (15) Farmer Mac stock 19 19 — — SBIC investments 169 179 (10) (6) Other 32 24 8 33 Total other noninterest-bearing investments $ 983 $ 851 $ 132 16 % Total other noninterest-bearing investments increased $132 million, or 16%, during the first nine months of 2022, primarily due to a $140 million increase in Federal Home Loan Bank (“FHLB”) stock. This increase was driven largely by increases in FHLB short-term borrowings during the third quarter of 2022 as a result of loan growth and declines in interest-bearing deposits. Premises, Equipment, and Software Net premises, equipment, and software increased $69 million, or 5%, from December 31, 2021, primarily due to capitalized costs related to the construction of a new corporate technology center in Midvale, Utah, which was completed in July 2022, and a new corporate center for Vectra Bank Colorado (“Vectra”) in Denver, Colorado, which is expected to be completed in the fourth quarter of 2022. We are also in the final phase of a three-phase project to replace our core loan and deposit banking systems, and are on track to convert our deposit servicing system in 2023. Capitalized costs associated with the core system replacement project generally carry a useful life of ten years, and are summarized in the following schedule. CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT September 30, 2022 (In millions) Phase 1 Phase 2 Phase 3 Total Total amount of capitalized costs, less accumulated depreciation $ 32 $ 57 $ 190 $ 279 Deposits Deposits are a primary funding source. The following schedule presents our deposits by category and percentage of total deposits: DEPOSITS September 30, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Noninterest-bearing demand $ 39,133 51.5 % $ 41,053 49.6 % Interest-bearin Savings and money market 35,389 46.6 40,114 48.4 Time 1,473 1.9 1,622 2.0 Total deposits $ 75,995 100.0 % $ 82,789 100.0 % Total deposits decreased $6.8 billion, or 8%, from December 31, 2021, primarily due to a $4.9 billion decrease in interest-bearing deposits, and a $1.9 billion decrease in noninterest-bearing deposits. Total deposits included $166 18 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES million and $381 million of brokered deposits at September 30, 2022 and December 31, 2021, respectively. Additionally, total deposits at September 30, 2022 included approximately $400 million of deposit balances acquired from the purchase of three Northern Nevada branches during the third quarter of 2022. See “Liquidity Risk Management” on page 32 for additional information on funding and borrowed funds. Total time deposits that exceed the current FDIC insurance limit of $250,000 were $420 million and $563 million at September 30, 2022 and December 31, 2021, respectively. The estimated total amount of uninsured deposits, including related interest accrued and unpaid, was $44 billion and $49 billion at September 30, 2022 and December 31, 2021, respectively. RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We employ various strategies to reduce the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cyber risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by the various management committees of which the Enterprise Risk Management Committee is the focal point. For a more comprehensive discussion of these risks, see “Risk Factors” in our 2021 Form 10-K. Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. For a more comprehensive discussion of our credit risk management, see “Credit Risk Management” in our 2021 Form 10-K. U.S. Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by United States (“U.S.”) government agencies, such as the SBA, Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At September 30, 2022, $740 million of related loans were guaranteed, primarily by the SBA, and included $306 million of PPP loans. The following schedule presents the composition of U.S. government agency guaranteed loans. U.S. GOVERNMENT AGENCY GUARANTEED LOANS (Dollar amounts in millions) September 30, 2022 Percent guaranteed December 31, 2021 Percent guaranteed Commercial $ 844 86 % $ 2,410 95 % Commercial real estate 18 72 22 73 Consumer 4 100 5 100 Total loans $ 866 85 % $ 2,437 94 % 19 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. COMMERCIAL LENDING BY INDUSTRY GROUP 1 September 30, 2022 December 31, 2021 (Dollar amounts in millions) Amount Percent Amount Percent Finance and insurance $ 2,853 9.6 % $ 2,303 8.1 % Real estate, rental and leasing 2,703 9.1 2,536 8.9 Retail trade 2,663 8.9 2,412 8.5 Manufacturing 2,414 8.1 2,374 8.3 Healthcare and social assistance 2,374 8.0 2,349 8.2 Public Administration 2,254 7.5 1,959 6.9 Wholesale trade 1,908 6.4 1,701 6.0 Transportation and warehousing 1,387 4.6 1,273 4.5 Construction 1,339 4.5 1,456 5.1 Utilities 2 1,331 4.5 1,446 5.1 Educational services 1,310 4.4 1,163 4.1 Hospitality and food services 1,243 4.2 1,353 4.8 Mining, quarrying, and oil and gas extraction 1,237 4.1 1,185 4.2 Other Services (except Public Administration) 1,075 3.6 1,213 4.2 Professional, scientific, and technical services 972 3.3 1,084 3.8 Other 3 2,749 9.2 2,633 9.3 Total $ 29,812 100.0 % $ 28,440 100.0 % 1 Industry groups are determined by North American Industry Classification System (“NAICS”) codes. 2 Includes primarily utilities, power, and renewable energy. 3 No other industry group exceeds 2.9%. Commercial Real Estate Loans The following schedules present credit quality information for our commercial real estate (“CRE”) loan portfolio segmented by real estate category and collateral location. 20 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES COMMERCIAL REAL ESTATE PORTFOLIO BY LOAN TYPE AND COLLATERAL LOCATION (Dollar amounts in millions) September 30, 2022 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total % of total CRE Commercial term Balance outstanding $ 1,092 $ 3,147 $ 490 $ 685 $ 1,561 $ 1,600 $ 627 $ 354 $ 9,556 77.3 % % of loan type 11.4 % 32.9 % 5.1 % 7.2 % 16.3 % 16.8 % 6.6 % 3.7 % 100.0 % Delinquency rates 2 : 30-89 days — % 0.1 % 0.4 % — % 0.1 % — % — % — % 0.1 % ≥ 90 days — % — % — % — % 1.0 % — % — % — % 0.2 % Nonaccrual loans $ — $ 3 $ — $ — $ 15 $ — $ — $ 1 $ 19 Commercial construction and land development Balance outstanding $ 226 $ 460 $ 62 $ 79 $ 373 $ 584 $ 252 $ 55 $ 2,091 16.9 % % of loan type 10.8 % 22.0 % 3.0 % 3.8 % 17.9 % 27.9 % 12.0 % 2.6 % 100.0 % Delinquency rates 2 : 30-89 days — % — % — % — % — % — % — % — % — % ≥ 90 days — % — % — % — % — % — % — % — % — % Residential construction and land development 3 Balance outstanding $ 64 $ 136 $ 46 $ 1 $ 206 $ 204 $ 9 $ 43 $ 709 5.8 % % of loan type 9.0 % 19.1 % 6.5 % 0.2 % 29.0 % 28.8 % 1.3 % 6.1 % 100.0 % Total construction and land development $ 290 $ 596 $ 108 $ 80 $ 579 $ 788 $ 261 $ 98 $ 2,800 Total CRE $ 1,382 $ 3,743 $ 598 $ 765 $ 2,140 $ 2,388 $ 888 $ 452 $ 12,356 100.0 % (Dollar amounts in millions) December 31, 2021 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total % of total CRE Commercial term Balance outstanding $ 1,038 $ 3,331 $ 508 $ 653 $ 1,606 $ 1,408 $ 444 $ 453 $ 9,441 77.4 % % of loan type 11.0 % 35.3 % 5.4 % 6.9 % 17.0 % 14.9 % 4.7 % 4.8 % 100.0 % Delinquency rates 2 : 30-89 days — % 0.2 % 0.2 % — % — % 0.1 % — % — % 0.1 % ≥ 90 days — % 0.1 % — % — % 0.2 % — % — % — % 0.1 % Nonaccrual loans $ — $ 3 $ — $ — $ 17 $ — $ — $ — $ 20 Commercial construction and land development Balance outstanding $ 242 $ 405 $ 94 $ 107 $ 475 $ 543 $ 181 $ 40 $ 2,087 17.1 % % of loan type 11.6 % 19.4 % 4.5 % 5.1 % 22.8 % 26.0 % 8.7 % 1.9 % 100.0 % Delinquency rates 2 : 30-89 days — % — % — % — % — % — % 13.2 % — % 0.9 % ≥ 90 days — % — % — % — % — % — % — % — % — % Residential construction and land development 3 Balance outstanding $ 82 $ 167 $ 44 $ 2 $ 162 $ 167 $ 9 $ 37 $ 670 5.5 % % of loan type 12.3 % 25.0 % 6.6 % 0.2 % 24.2 % 24.9 % 1.3 % 5.5 % 100.0 % Total construction and land development $ 324 $ 572 $ 138 $ 109 $ 637 $ 710 $ 190 $ 77 $ 2,757 Total CRE $ 1,362 $ 3,903 $ 646 $ 762 $ 2,243 $ 2,118 $ 634 $ 530 $ 12,198 100.0 % 1 No other geography exceeds $66 million and $65 million for all three loan types at September 30, 2022 and December 31, 2021, respectively. 2 Delinquency rates include nonaccrual loans. 3 At September 30, 2022 and December 31, 2021, there was no meaningful delinquency or nonaccrual activity for residential construction and land development loans. 21 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At September 30, 2022 and December 31, 2021, our CRE construction and land development and term loan portfolios represented approximately 23% and 24% of the total loan portfolio, respectively. The majority of our CRE loans are secured by real estate, which is primarily located within our geographic footprint. At September 30, 2022, approximately 21% of the CRE loan portfolio matures in the next 12 months. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with one- to five-year extension options or roll-to-perm options that often result in term debt. Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and non-recourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. At September 30, 2022 and December 31, 2021, approximately $257 million, or 9%, and $160 million, or 6%, of the commercial construction and land development portfolio consisted of land acquisition and development loans, respectively. Most of these loans are secured by specific retail, apartment, office, or other projects. For a more comprehensive discussion of CRE loans, see the “Commercial Real Estate Loans” section in our 2021 Form 10-K. Consumer Loans We originate first-lien residential home mortgages considered to be of prime quality. We generally hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. We also originate home equity credit lines. At September 30, 2022 and December 31, 2021, our HECL portfolio totaled $3.3 billion and $3.0 billion, respectively. The following schedule presents the composition of our HECL portfolio by lien status. HECL PORTFOLIO BY LIEN STATUS (In millions) September 30, 2022 December 31, 2021 Secured by first liens $ 1,517 $ 1,503 Secured by second (or junior) liens 1,814 1,513 Total $ 3,331 $ 3,016 At September 30, 2022, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with high credit scores. Approximately 91% of our HECL portfolio is still in the draw period, and about 19% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is minimal. The ratio of HECL net charge-offs (recoveries) for the trailing twelve months to average balances at September 30, 2022 and December 31, 2021 was (0.03)% and (0.01)%, respectively. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of the HECL portfolio. Nonperforming Assets Nonperforming assets as a percentage of loans and leases and other real estate owned (“OREO”) decreased to 0.28% at September 30, 2022, compared with 0.53% at December 31, 2021. Total nonaccrual loans at September 30, 2022 decreased to $151 million from $271 million at December 31, 2021, reflecting credit quality improvements across most of our loan portfolios. 22 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The balance of nonaccrual loans can decrease due to paydowns, charge-offs, and the return of loans to accrual status under certain conditions. If a nonaccrual loan is refinanced or restructured, the new note is immediately placed on nonaccrual. If a restructured loan performs under the new terms for a period of at least six months, the loan can be considered for return to accrual status. See “Restructured Loans” and Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. The following schedule presents our nonperforming assets: NONPERFORMING ASSETS (Dollar amounts in millions) September 30, 2022 December 31, 2021 Nonaccrual loans 1 $ 151 $ 271 Other real estate owned 2 — 1 Total nonperforming assets $ 151 $ 272 Ratio of nonperforming assets to net loans and leases 1 and other real estate owned 2 0.28 % 0.53 % Accruing loans past due 90 days or more $ 20 $ 8 Ratio of accruing loans past due 90 days or more to loans and leases 1 0.04 % 0.02 % Nonaccrual loans 1 and accruing loans past due 90 days or more $ 171 $ 279 Ratio of nonperforming assets 1 and accruing loans past due 90 days or more to loans and leases 1 and other real estate owned 2 0.32 % 0.55 % Accruing loans past due 30-89 days 3 $ 84 $ 70 Nonaccrual loans 1 current as to principal and interest payments 57.6 % 67.2 % 1 Includes loans held for sale. 2 Does not include banking premises held for sale. 3 Includes $31 million and $35 million of PPP loans at September 30, 2022 and December 31, 2021, respectively, which we expect will be paid in full by either the borrower or the SBA. Troubled Debt Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are classified as troubled debt restructurings (“TDRs”). At September 30, 2022 and December 31, 2021, TDRs totaled $245 million and $326 million, respectively. Modifications that qualified for applicable accounting and regulatory exemption for borrowers experiencing financial difficulties exclusively related to the COVID-19 pandemic were not classified and reported as TDRs. If the restructured loan performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the restructuring is taken into account to determine whether a loan should be returned to accrual status. ACCRUING AND NONACCRUING TROUBLED DEBT RESTRUCTURED LOANS (In millions) September 30, 2022 December 31, 2021 Restructured loans – accruing $ 206 $ 221 Restructured loans – nonaccruing 39 105 Total $ 245 $ 326 23 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES In the periods following the calendar year in which a loan was restructured, a loan may no longer be reported as a TDR if it is accruing, is in compliance with its modified terms, and yields a market rate (as determined and documented at the time of the modification or restructure). See Note 6 of the Notes to Consolidated Financial Statements for additional information regarding TDRs. TROUBLED DEBT RESTRUCTURED LOANS ROLLFORWARD Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2022 2021 2022 2021 Balance at beginning of period $ 275 $ 458 $ 326 $ 311 New identified TDRs and principal increases 15 17 42 200 Payments and payoffs (41) (33) (103) (64) Charge-offs (3) — (5) (3) No longer reported as TDRs — (86) (3) (86) Sales and other (1) (4) (12) (6) Balance at end of period $ 245 $ 352 $ 245 $ 352 Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. 24 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule shows the changes in the ACL and a summary of credit loss experien SUMMARY OF CREDIT LOSS EXPERIENCE (Dollar amounts in millions) Nine Months Ended September 30, 2022 Twelve Months Ended December 31, 2021 Nine Months Ended September 30, 2021 Loans and leases outstanding $ 53,918 $ 50,851 $ 50,678 Average loans and leases outstandin Commercial – excluding PPP loans 28,060 25,014 24,716 Commercial – PPP loans 885 4,566 5,283 Commercial real estate 12,151 12,136 12,104 Consumer 10,801 10,267 10,315 Total average loans and leases outstanding $ 51,897 $ 51,983 $ 52,418 Allowance for loan and lease loss Balance at beginning of period $ 513 $ 777 $ 777 Provision for loan losses 70 (258) (281) Charge-offs: Commercial 65 35 27 Commercial real estate — — — Consumer 8 13 10 Total 73 48 37 Recoveri Commercial 21 29 24 Commercial real estate — 3 — Consumer 10 10 8 Total 31 42 32 Net loan and lease charge-offs 42 6 5 Balance at end of period $ 541 $ 513 $ 491 Reserve for unfunded lending commitments: Balance at beginning of period $ 40 $ 58 $ 58 Provision for unfunded lending commitments 9 (18) (20) Balance at end of period $ 49 $ 40 $ 38 Total allowance for credit loss Allowance for loan and lease losses $ 541 $ 513 $ 491 Reserve for unfunded lending commitments 49 40 38 Total allowance for credit losses $ 590 $ 553 $ 529 Ratio of allowance for credit losses to net loans and leases, at period end 1 1.09 % 1.09 % 1.04 % Ratio of allowance for credit losses to nonaccrual loans, at period end 391 % 204 % 164 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, at period end 345 % 198 % 162 % Ratio of total net charge-offs to average loans and leases 2, 3 0.11 % 0.01 % 0.01 % Ratio of commercial net charge-offs to average commercial loans 3 0.20 % 0.02 % 0.01 % Ratio of commercial real estate net charge-offs to average commercial real estate loans 3 — % (0.02) % — % Ratio of consumer net charge-offs to average consumer loans 3 (0.02) % 0.03 % 0.03 % 1 The ratio of allowance for credit losses to net loans and leases (excluding PPP loans) was 1.10% at September 30, 2022, 1.13% at December 31, 2021, and 1.11% at September 30, 2021. 2 The annualized ratio of net charge-offs to average loans and leases (excluding PPP loans) was 0.11% at September 30, 2022, 0.01% at December 31, 2021, and 0.01% at September 30, 2021. 3 Ratios are annualized for the periods presented except for the period representing the full twelve months. 25 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The total ACL increased to $590 million, from $553 million, during the first nine months of 2022, primarily due to growth in the loan portfolio, as well as changes in economic scenarios, which were driven by the increased probability of a recession, the effects of which were partially offset by improvements in credit quality. The RULC represents a reserve for potential losses associated with off-balance sheet commitments and increased $9 million during the first nine months of 2022. The reserve is separately recorded on the consolidated balance sheet in “Other liabilities,” and any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. Because we engage in transactions involving various financial products, we are exposed to both interest rate risk and market risk. For a more comprehensive discussion of our interest rate and market risk management, see the “Interest Rate and Market Risk Management” section in our 2021 Form 10-K. Interest Rate Risk Average total deposits remained relatively flat at $77.5 billion, compared with the prior year period. During 2021, deposits increased and were primarily invested in fixed-rate, medium-duration AFS securities. The investment in these securities relative to short-duration money market funds resulted in higher earning-asset yields, increased net interest income, and decreased asset sensitivity to rising rates. Asset sensitivity measures depend upon the assumptions we use for deposit runoff and repricing behavior. As interest rates rise, we expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. Our models are particularly sensitive to the assumption about the rate of such migration. We also assume a correlation, referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-bearing checking accounts are assumed to have a lower correlation. We anticipate that changes in deposit rates will lag changes in reference rates. Our modeled cost of total deposits for September 2023 is approximately 0.63% without the effect of additional Federal Reserve rate hikes. Additional rate hikes would be expected to result in further increases to the cost of total deposits. Actual results may differ materially due to various factors, including the shape of the yield curve, competitive pricing, money supply, our credit worthiness, etc. We use our historical experience as well as industry data to inform our assumptions. The migration and correlation assumptions previously discussed result in deposit durations presented in the following schedu DEPOSIT ASSUMPTIONS September 30, 2022 Product Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 3.2 % 3.0 % Money market 1.8 % 1.6 % Savings and interest-bearing checking 2.6 % 2.4 % 26 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES As the more rate sensitive deposits have runoff, the effective duration of deposits has lengthened due to remaining deposits assumed to be stickier and less rate sensitive. Additionally, we utilize derivatives to manage interest rate risk. The following schedule presents derivatives that are designated in qualifying hedging relationships at September 30, 2022. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each category of cash flow and fair value hedge. See Note 7 of the Notes to Consolidated Financial Statements for additional information regarding the impact of these hedging relationships on interest income and expense. DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2022 2023 2024 4Q24 - 3Q25 3Q25 - 2Q26 (Dollar amounts in millions) Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Cash flow hedges Cash flow asset hedges 1 Average outstanding notional $ 7,336 $ 7,300 $ 6,833 $ 6,533 $ 6,233 $ 5,800 $ 5,466 $ 5,033 $ 3,737 $ 2,221 Weighted-average fixed-rate received 1.77 % 1.84 % 1.83 % 1.79 % 1.71 % 1.61 % 1.57 % 1.50 % 1.57 % 1.68 % 2022 4 2023 2024 2025 2026 2027 2028 2029 2030 2031 Fair value hedges Fair value debt hedges 2 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — Weighted-average fixed-rate received 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % — % — % Fair value asset hedges 3 Average outstanding notional $ 828 $ 827 $ 1,099 $ 1,212 $ 1,217 $ 1,213 $ 1,208 $ 1,203 $ 1,198 $ 1,192 Weighted-average fixed-rate paid 1.65 % 1.65 % 1.71 % 1.74 % 1.74 % 1.74 % 1.73 % 1.73 % 1.73 % 1.73 % 1 Cash flow hedges consist of receive-fixed swaps hedging pools of floating rates loans. 2 Fair value debt hedges consist of receive-fixed swaps hedging fixed-rate debt. The $500 million fair value debt hedge matures at the end of July 2029. Amounts for 2029 have not been prorated to reflect this hedge maturing during the year. 3 Fair value assets hedges consist of pay-fixed swaps hedging AFS fixed-rate securities. Increases in average outstanding notional are due to forward-starting interest rate swaps. 4 Represents the fourth quarter of 2022. Incorporating the deposit assumptions and the impact of derivatives in qualifying hedging relationships previously discussed, the following schedule presents earnings at risk (“EaR”), or the percentage change in 12-month forward looking net interest income, and our estimated percentage change in economic value of equity (“EVE”). Both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY September 30, 2022 December 31, 2021 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Earnings at Risk (EaR) (4.2) % — % 4.1 % 8.2 % 12.2 % (5.2) % — % 11.2 % 22.7 % 33.6 % Economic Value of Equity (EVE) 4.0 % — % (2.0) % (4.1) % (6.1) % 20.9 % — % 0.8 % (0.5) % (1.2) % 1 Assumes rates cannot go below zero in the negative rate shift. 27 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The asset sensitivity, as measured by EaR, decreased during the third quarter of 2022, primarily due to (1) deposit runoff, (2) an increase in receive-fixed-rate swap notional, and (3) a higher level of “base-case” net interest income, which reduced the percentage change for the same modeled dollar change in net interest income. For interest-bearing deposits with indeterminate maturity, the weighted average modeled beta is 26%. If the weighted average deposit beta were to increase to 36%, the EaR in the +100 bps rate shock would change from 4.1% to 3.0%. The EaR analysis focuses on parallel rate shocks across the term structure of benchmark interest rates. In a non-parallel rate scenario where the overnight rate increases 200 bps, but the ten-year rate increases only 30 bps, the increase in EaR is modeled to be approximately two-thirds of the change associated with the parallel +200 bps rate change. We recognize that EaR has inherent limitations in describing expected changes in net interest income in rapidly changing interest rate environments due to a lag in asset and liability repricing behavior. As such, we expect net interest income to change due to “latent” and “emergent” interest rate sensitivity. Unlike EaR, which measures net interest income over 12 months, latent and emergent interest rate sensitivity explains changes in current quarter net interest income (ex-PPP), compared with expected net interest income in the same quarter one year forward. Latent interest rate sensitivity refers to future changes in net interest income based upon past rate movements that have yet to be fully recognized in revenue, but will be recognized over the near term. We expect latent sensitivity to add approximately 10% to net interest income in the third quarter of 2023, compared with the third quarter of 2022 (ex-PPP). Emergent interest rate sensitivity refers to future changes in net interest income based upon future interest rate movements and is measured from the latent level of net interest income. If interest rates rise consistent with the forward curve at September 30, 2022, we expect emergent sensitivity to add approximately 4% to the latent sensitivity level of net interest income. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At September 30, 2022, $24.3 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. Of these variable-rate loans, approximately 97% are tied to either the prime rate, London Interbank Offered Rate (“LIBOR”), Secured Overnight Financing Rate (“SOFR”), American Interbank Offered Rate (“AMERIBOR”), or Bloomberg Short-term Bank Yield (“BSBY”). For these variable-rate loans, we have executed $7.1 billion of cash flow hedges by receiving fixed rates on interest rate swaps. At September 30, 2022, we also had $3.5 billion of variable-rate consumer loans scheduled to reprice in the next six months. The impact on asset sensitivity from commercial or consumer loans with floors has become insignificant as rates have risen. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. LIBOR Exposure LIBOR is being phased out globally, and U.S. banking regulators instructed banks to cease entering into new lending arrangements using LIBOR no later than December 31, 2021, and migrate to alternative reference rates no later than June 2023. To facilitate the transition process, we instituted an enterprise-wide program to identify, assess, and monitor risks associated with the expected discontinuance or unavailability of LIBOR, which includes active engagement with industry working groups and regulators. This program also includes active involvement of senior management with regular engagement from the Enterprise Risk Management Committee, and seeks to minimize client and internal business operational impacts, while providing reporting transparency, consistency, and a central governance model that aligns with accounting and regulatory guidance. 28 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES We have implemented processes, procedures, and systems to ensure contract risk is sufficiently mitigated. New originations, and any modifications or renewals of LIBOR-based contracts, contain fallback language to facilitate transition to an alternative reference rate. For our contracts that referenced LIBOR and had a duration beyond June 2023, all fallback provisions and variations were identified and classified based upon those provisions. By the end of 2021, we had discontinued substantially all new originations and any renewals or modifications referencing LIBOR. We have a significant number of assets and liabilities that reference LIBOR. At September 30, 2022, we had $20.3 billion in loans (mainly commercial loans), unfunded lending commitments, and securities referencing LIBOR. The amount of borrowed funds referencing LIBOR at September 30, 2022 was less than $1 billion. These amounts exclude derivative assets and liabilities on the consolidated balance sheet. At September 30, 2022, the notional amount of our LIBOR-referenced interest rate derivative contracts was $10.0 billion, of which nearly all related to contracts with central counterparty clearinghouses. The adoption of alternative reference rates continues to evolve in the marketplace. We are positioned to support our customers’ needs by accommodating multiple alternative reference rates, including the Constant Maturity Treasury (“CMT”) rate, the FHLB rate, AMERIBOR, SOFR, and BSBY. During the first quarter of 2022, we began to prompt our customers to voluntarily modify their contracts and migrate to a reference rate other than LIBOR. Voluntary modifications are expected to qualify for the available Tax Safe-Harbor provisions as allowed by Internal Revenue Service (“IRS”) guidance. We expect that customers who voluntarily migrate to an alternative reference rate will do so by the end of this year, and we expect the remaining customers to move to an alternative rate index in accordance with the relevant fallback provisions in their contracts prior to June 2023. For more information on the transition from LIBOR, see Risk Factors in our 2021 Form 10-K. Market Risk – Fixed Income We underwrite municipal and corporate securities. We also trade municipal, agency, and treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. At September 30, 2022, we had $526 million of trading assets and $34 million of securities sold, not yet purchased, compared with $372 million and $254 million at December 31, 2021, respectively. We are exposed to market risk through changes in fair value. This includes market risk for interest rate swaps used to hedge interest rate risk. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in accumulated other comprehensive income (“AOCI”) for each financial reporting period. The after-tax change in AOCI attributable to AFS securities decreased $909 million and $2.7 billion for the three and nine months ended September 30, 2022, respectively, due largely to increased interest rates. Refer to Note 5 of the Notes to Consolidated Financial Statements for more discussion regarding our investment securities portfolio and related unrealized gains and losses. As discussed in the Net Interest Income and NIM section above, our deposit costs are well controlled, reflecting the granularity of our deposit base and the extent of our noninterest-bearing deposits. This funding advantage is more pronounced in a rising interest rate environment, creating meaningful economic value that is not fully reflected on our balance sheet since deposits and related intangible assets are not recorded at fair value for accounting purposes. Market Risk – Equity Investments We hold both direct and indirect investments in predominantly pre-public companies, primarily through various SBIC venture capital funds as a strategy to provide beneficial financing, growth, and expansion opportunities to diverse businesses generally in communities within our geographic footprint. Our equity exposure to these investments was $169 million and $179 million at September 30, 2022 and December 31, 2021, respectively. On occasion, some of the companies within our SBIC investment may issue an initial public offering (“IPO”). In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce 29 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES additional market risk. See Note 3 of our 2021 Form 10-K for additional information regarding the valuation of our SBIC investments. Liquidity Risk Management Overview Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as marketable loans and investment securities. For a more comprehensive discussion of our liquidity risk management, see “Liquidity Risk Management” in our 2021 Form 10-K. Our AFS investment securities are primarily held as a source of contingent liquidity. We target securities that can be readily turned into cash through repurchase agreements or sales. We manage our short-term funding needs through secured borrowing with securities pledged as collateral. At September 30, 2022, our investment securities portfolio of $24.2 billion and cash and money market investments of $4.6 billion, collectively comprised 33% of total assets, compared with $24.9 billion of investment securities, and $13.0 billion of cash and money market investments, collectively comprising 41% of total assets at December 31, 2021. Liquidity Management Actions For the first nine months of 2022, the primary sources of cash came from a decrease in money market investments, an increase in short-term funds borrowed, and net cash provided by operating activities. Uses of cash during the same period included primarily an increase in investment securities, an increase in loans and leases, and redemption of long-term debt. Cash payments for interest were $63 million and $61 million for the first nine months of 2022 and 2021, respectively. Total deposits were $76.0 billion at September 30, 2022, compared with $82.8 billion at December 31, 2021. The decrease in deposits was primarily due to a $4.7 billion decrease in savings and money market deposits, and a $1.9 billion decrease in noninterest-bearing demand deposits. Our core deposits, consisting of noninterest-bearing demand deposits, savings and money market deposits, and time deposits under $250,000, were $75.5 billion at September 30, 2022, compared with $81.9 billion at December 31, 2021. At September 30, 2022, our loan-to-deposit ratio was 71%, compared with 61% at December 31, 2021. General financial market and economic conditions impact our access to, and cost of, external financing. Access to funding markets is also directly affected by the credit ratings received from various rating agencies. Our credit ratings are presented in the following schedu CREDIT RATINGS as of October 31, 2022: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Stable BBB+ BBB NR Fitch Stable BBB+ BBB F1 Moody's Stable Baa1 NR NR The FHLB system and Federal Reserve Banks have been, and continue to be, a significant source of back-up liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against their eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and Federal Reserve stock to maintain our borrowing capacity. At September 30, 2022, our total investment in FHLB and Federal Reserve stock was $151 million and $69 million, respectively, compared with $11 million and $81 million at December 31, 2021. 30 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amount available for additional FHLB and Federal Reserve borrowings was $15.9 billion at September 30, 2022, compared with $18.3 billion at December 31, 2021. Loans with a carrying value of $27.6 billion and $26.8 billion at September 30, 2022 and December 31, 2021, respectively, were pledged at the FHLB and the Federal Reserve as collateral for current and potential borrowings. At September 30, 2022 we had $3.5 billion of short-term FHLB borrowings outstanding and no Federal Reserve borrowings outstanding. At December 31, 2021, we had no FHLB or Federal Reserve borrowings outstanding. Total borrowed funds increased $4.1 billion during the first nine months of 2022, driven by increases in short-term borrowings as a result of loan growth and declines in interest-bearing deposits. These increases were partially offset by a decrease in long-term debt primarily due to the redemption of senior notes during the first quarter of 2022. We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. Capital Management Overview A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. Our capital management objectives inclu (1) consistently improving risk-adjusted returns on our shareholders' capital and appropriately managing capital distributions, (2) maintaining sufficient capital to support the current needs and growth of our businesses, and (3) fulfilling responsibilities to depositors and bondholders. We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the Federal Reserve Board (“FRB”). The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as our Board of Directors (“Board”) and Office of the Comptroller of the Currency (“OCC”) approval. Shares may be repurchased occasionally in the open market or through privately negotiated transactions. For a more comprehensive discussion of our capital risk management, see “Capital Management” in our 2021 Form 10-K. SHAREHOLDERS' EQUITY (Dollar amounts in millions) September 30, 2022 December 31, 2021 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 440 $ — — % Common stock and additional paid-in capital 1,799 1,928 (129) (7) Retained earnings 5,597 5,175 422 8 Accumulated other comprehensive income (loss) (3,140) (80) (3,060) NM Total shareholders' equity $ 4,696 $ 7,463 $ (2,767) (37) % Total shareholders’ equity decreased $2.8 billion, or 37%, to $4.7 billion at September 30, 2022, compared with $7.5 billion at December 31, 2021. Common stock and additional paid-in capital decreased $129 million, primarily due to common stock repurchases. AOCI decreased $3.1 billion, primarily due to decreases in the fair value of fixed-rate available-for-sale securities as a result of changes in interest rates. Absent any sales or credit impairment of these securities, the unrealized losses will not be recognized in earnings. We do not intend to sell any securities with unrealized losses. Additionally, changes in AOCI do not impact our regulatory capital ratios. Refer to Note 5 of the Notes to Consolidated Financial Statements for more discussion on our investment securities portfolio and related unrealized gains and losses. 31 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Common shares outstanding decreased 2.0 million during the first nine months of 2022, primarily due to common stock repurchases. During the third quarter of 2022, we repurchased 0.9 million common shares outstanding for $50 million. In October 2022, the Board approved a plan to repurchase up to $50 million of common shares outstanding during the fourth quarter of 2022. CAPITAL DISTRIBUTIONS Three Months Ended September 30, Nine Months Ended September 30, (In millions, except share data) 2022 2021 2022 2021 Capital distributio Preferred dividends paid $ 6 $ 6 $ 22 $ 23 Bank preferred stock redeemed — — — 126 Total capital distributed to preferred shareholders 6 6 22 149 Common dividends paid 62 62 178 174 Bank common stock repurchased 1 50 325 151 475 Total capital distributed to common shareholders 112 387 329 649 Total capital distributed to preferred and common shareholders $ 118 $ 393 $ 351 $ 798 Weighted average diluted common shares outstanding (in thousands) 149,792 160,480 150,766 162,460 Common shares outstanding, at period end (in thousands) 149,611 156,530 149,611 156,530 1 Includes amounts related to the common shares acquired from our publicly announced plans and those acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. Under the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. At September 30, 2022, we had $1.6 billion of retained net profits available for distribution. During the third quarter of 2022, we paid dividends on preferred stock of $6 million and dividends on common stock of $62 million, or $0.41 per share. In October 2022, the Board declared a regular quarterly dividend of $0.41 per common share, payable on November 17, 2022, to shareholders of record on November 10, 2022. See Note 9 of the Notes to Consolidated Financial Statements for additional information about our capital management actions. Basel III We are subject to Basel III capital requirements to maintain adequate levels of capital as measured by several regulatory capital ratios. At September 30, 2022, we exceeded all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. The following schedule presents our capital and other performance ratios. 32 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CAPITAL RATIOS September 30, 2022 December 31, 2021 September 30, 2021 Tangible common equity ratio 1 3.7 % 6.5 % 7.2 % Tangible equity ratio 1 4.2 7.0 7.7 Average equity to average assets (three months ended) 6.5 8.3 9.0 Basel III risk-based capital ratios: Common equity tier 1 capital 9.6 10.2 10.9 Tier 1 leverage 7.5 7.2 7.6 Tier 1 risk-based 10.3 10.9 11.6 Total risk-based 12.0 12.8 13.6 Return on average common equity (three months ended) 15.8 11.5 12.3 Return on average tangible common equity (three months ended) 1 19.5 13.4 14.2 1 See “ Non-GAAP Financial Measures ” on page 33 for more information regarding these ratios. Our regulatory tier 1 risk-based capital and total risk-based capital was $6.8 billion and $7.9 billion at September 30, 2022, compared with $6.5 billion and $7.7 billion, respectively, at December 31, 2021. See the “Supervision and Regulation” section and Note 15 of our 2021 Form 10-K for more information about our compliance with the Basel III capital requirements. NON-GAAP FINANCIAL MEASURES This Form 10-Q presents non-GAAP financial measures, in addition to generally accepted accounting principles (“GAAP”) financial measures, to provide investors with additional information. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results and provide a meaningful basis for period-to-period comparisons. We use these non-GAAP financial measures to assess our performance, financial position, and for presentations of our performance to investors. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by our management and the financial services industry. Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar financial measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under GAAP. Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets and their related amortization. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a business more consistently, whether acquired or developed internally. 33 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Three Months Ended (Dollar amounts in millions) September 30, 2022 June 30, 2022 September 30, 2021 Net earnings applicable to common shareholders, net of tax (a) $ 211 $ 195 $ 234 Average common equity (GAAP) $ 5,303 $ 5,582 $ 7,569 Average goodwill and intangibles (1,021) (1,015) (1,015) Average tangible common equity (non-GAAP) (b) $ 4,282 $ 4,567 $ 6,554 Number of days in quarter (c) 92 91 92 Number of days in year (d) 365 365 365 Return on average tangible common equity (non-GAAP) (a/b/c)*d 19.5 % 17.1 % 14.2 % TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) September 30, 2022 June 30, 2022 September 30, 2021 Total shareholders’ equity (GAAP) $ 4,696 $ 5,632 $ 7,774 Goodwill and intangibles (1,034) (1,015) (1,015) Tangible equity (non-GAAP) (a) 3,662 4,617 6,759 Preferred stock (440) (440) (440) Tangible common equity (non-GAAP) (b) $ 3,222 $ 4,177 $ 6,319 Total assets (GAAP) $ 88,474 $ 87,784 $ 88,306 Goodwill and intangibles (1,034) (1,015) (1,015) Tangible assets (non-GAAP) (c) $ 87,440 $ 86,769 $ 87,291 Common shares outstanding (thousands) (d) 149,611 150,471 156,530 Tangible equity ratio (non-GAAP) (a/c) 4.2 % 5.3 % 7.7 % Tangible common equity ratio (non-GAAP) (b/c) 3.7 % 4.8 % 7.2 % Tangible book value per common share (non-GAAP) (b/d) $ 21.54 $ 27.76 $ 40.37 34 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allow for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how we are managing our expenses; adjusted pre-provision net revenue enables management and others to assess our ability to generate capital. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) Three Months Ended Nine Months Ended Year Ended (Dollar amounts in millions) September 30, 2022 June 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021 December 31, 2021 Noninterest expense (GAAP) (a) $ 479 $ 464 $ 429 $ 1,407 $ 1,292 $ 1,741 Adjustments: Severance costs — 1 1 1 1 1 Other real estate expense, net — — — 1 — — Amortization of core deposit and other intangibles 1 — — 1 — 1 Pension termination-related (income) expense 1 — — — — (5) (5) SBIC investment success fee accrual 2 1 — (4) — 5 7 Total adjustments (b) 2 1 (3) 3 1 4 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 477 $ 463 $ 432 $ 1,404 $ 1,291 $ 1,737 Net interest income (GAAP) (d) $ 663 $ 593 $ 555 $ 1,800 $ 1,655 $ 2,208 Fully taxable-equivalent adjustments (e) 10 9 7 27 22 32 Taxable-equivalent net interest income (non-GAAP) (d+e)=f 673 602 562 1,827 1,677 2,240 Noninterest income (GAAP) g 165 172 139 479 513 703 Combined income (non-GAAP) (f+g)=(h) 838 774 701 2,306 2,190 2,943 Adjustments: Fair value and nonhedge derivative gains 4 10 2 20 15 14 Securities gains (losses), net 2 6 1 (23) (10) 51 71 Total adjustments 3 (i) 10 11 (21) 10 66 85 Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 828 $ 763 $ 722 $ 2,296 $ 2,124 $ 2,858 Pre-provision net revenue (non-GAAP) (h)-(a) $ 359 $ 310 $ 272 $ 899 $ 898 $ 1,202 Adjusted PPNR (non-GAAP) (j)-(c) 351 300 290 892 833 1,121 Efficiency ratio (non-GAAP) (c/j) 57.6 % 60.7 % 59.8 % 61.1 % 60.8 % 60.8 % 1 Represents a valuation adjustment related to the termination of our defined benefit pension plan. 2 The success fee accrual is associated with the gains/(losses) from our SBIC investments, which are excluded from the efficiency ratio through securities gains (losses), net. 3 Excluding the $6 million equity investment valuation loss recorded in dividends and other income, the efficiency ratio for the three and nine months ended September 30, 2022 would have been 57.2% and 61.0%, respectively. 35 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 1. FINANCIAL STATEMENTS (Unaudited) CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) September 30, 2022 December 31, 2021 (Unaudited) ASSETS Cash and due from banks $ 549 $ 595 Money market investments: Interest-bearing deposits 1,291 10,283 Federal funds sold and security resell agreements 2,797 2,133 Investment securiti Held-to-maturity, at amortized cost (included $ 379 and $ 443 at fair value ) 423 441 Available-for-sale, at fair value 23,233 24,048 Trading account, at fair value 526 372 Total securities 24,182 24,861 Loans held for sale 25 83 Loans and leases, net of unearned income and fees 53,918 50,851 Less allowance for loan and lease losses 541 513 Loans held for investment, net of allowance 53,377 50,338 Other noninterest-bearing investments 983 851 Premises, equipment and software, net 1,388 1,319 Goodwill and intangibles 1,034 1,015 Other real estate owned 3 8 Other assets 2,845 1,714 Total assets $ 88,474 $ 93,200 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 39,133 $ 41,053 Interest-bearin Savings and money market 35,389 40,114 Time 1,473 1,622 Total deposits 75,995 82,789 Federal funds purchased and other short-term borrowings 5,363 903 Long-term debt 647 1,012 Reserve for unfunded lending commitments 49 40 Other liabilities 1,724 993 Total liabilities 83,778 85,737 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 440 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 149,611 and 151,625 shares) and additional paid-in capital 1,799 1,928 Retained earnings 5,597 5,175 Accumulated other comprehensive income (loss) ( 3,140 ) ( 80 ) Total shareholders’ equity 4,696 7,463 Total liabilities and shareholders’ equity $ 88,474 $ 93,200 See accompanying notes to consolidated financial statements. 36 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Unaudited) Three Months Ended September 30, Nine Months Ended September 30, (In millions, except shares and per share amounts) 2022 2021 2022 2021 Interest income: Interest and fees on loans $ 551 $ 484 $ 1,456 $ 1,464 Interest on money market investments 24 7 42 14 Interest on securities 132 78 372 223 Total interest income 707 569 1,870 1,701 Interest expense: Interest on deposits 19 7 32 23 Interest on short- and long-term borrowings 25 7 38 23 Total interest expense 44 14 70 46 Net interest income 663 555 1,800 1,655 Provision for credit loss Provision for loan and lease losses 60 ( 45 ) 70 ( 281 ) Provision for unfunded lending commitments 11 ( 1 ) 9 ( 20 ) Total provision for credit losses 71 ( 46 ) 79 ( 301 ) Net interest income after provision for credit losses 592 601 1,721 1,956 Noninterest income: Commercial account fees 40 34 118 100 Card fees 27 25 77 70 Retail and business banking fees 17 20 57 55 Loan-related fees and income 18 27 61 73 Capital markets and foreign exchange fees 25 17 61 49 Wealth management fees 14 13 41 37 Other customer-related fees 15 15 46 39 Customer-related noninterest income 156 151 461 423 Fair value and nonhedge derivative income 4 2 20 15 Dividends and other income (loss) ( 1 ) 9 8 24 Securities gains (losses), net 6 ( 23 ) ( 10 ) 51 Total noninterest income 165 139 479 513 Noninterest expense: Salaries and employee benefits 312 285 931 845 Technology, telecom, and information processing 53 50 158 148 Occupancy and equipment, net 38 37 112 115 Professional and legal services 14 17 42 56 Marketing and business development 11 9 28 22 Deposit insurance and regulatory expense 13 8 36 25 Credit-related expense 8 7 22 19 Other real estate expense, net — — 1 — Other 30 16 77 62 Total noninterest expense 479 429 1,407 1,292 Income before income taxes 278 311 793 1,177 Income taxes 61 71 170 261 Net income 217 240 623 916 Preferred stock dividends ( 6 ) ( 6 ) ( 22 ) ( 23 ) Net earnings applicable to common shareholders $ 211 $ 234 $ 601 $ 893 Weighted average common shares outstanding during the perio Basic shares (in thousands) 149,628 160,221 150,510 162,159 Diluted shares (in thousands) 149,792 160,480 150,766 162,460 Net earnings per common sh Basic $ 1.40 $ 1.45 $ 3.96 $ 5.44 Diluted 1.40 1.45 3.96 5.43 See accompanying notes to consolidated financial statements. 37 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Unaudited) Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2022 2021 2022 2021 Net income for the period $ 217 $ 240 $ 623 $ 916 Other comprehensive income (loss), net of t Net unrealized holding losses on investment securities ( 909 ) ( 95 ) ( 2,729 ) ( 225 ) Net unrealized gains (losses) on other noninterest-bearing investments ( 1 ) — ( 2 ) 3 Net unrealized holding losses on derivative instruments ( 138 ) ( 4 ) ( 322 ) ( 4 ) Reclassification adjustment for decrease (increase) in interest income recognized in earnings on derivative instruments 8 ( 12 ) ( 7 ) ( 35 ) Other comprehensive income (loss) ( 1,040 ) ( 111 ) ( 3,060 ) ( 261 ) Comprehensive income (loss) $ ( 823 ) $ 129 $ ( 2,437 ) $ 655 See accompanying notes to consolidated financial statements. CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited) (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at June 30, 2022 $ 440 150,471 $ — $ 1,845 $ 5,447 $ ( 2,100 ) $ 5,632 Net income for the period 217 217 Other comprehensive loss, net of tax ( 1,040 ) ( 1,040 ) Bank common stock repurchased ( 888 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 28 4 4 Dividends on preferred stock ( 6 ) ( 6 ) Dividends on common stock, $ 0.41 per share ( 61 ) ( 61 ) Balance at September 30, 2022 $ 440 149,611 $ — $ 1,799 $ 5,597 $ ( 3,140 ) $ 4,696 Balance at June 30, 2021 $ 440 162,248 $ — $ 2,565 $ 4,853 $ 175 $ 8,033 Net income for the period 240 240 Other comprehensive loss, net of tax ( 111 ) ( 111 ) Bank common stock repurchased ( 5,772 ) ( 325 ) ( 325 ) Net activity under employee plans and related tax benefits 54 5 5 Dividends on preferred stock ( 6 ) ( 6 ) Dividends on common stock, $ 0.38 per share ( 62 ) ( 62 ) Balance at September 30, 2021 $ 440 156,530 $ — $ 2,245 $ 5,025 $ 64 $ 7,774 38 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2021 $ 440 151,625 $ — $ 1,928 $ 5,175 $ ( 80 ) $ 7,463 Net income for the period 623 623 Other comprehensive loss, net of tax ( 3,060 ) ( 3,060 ) Bank common stock repurchased ( 2,602 ) ( 151 ) ( 151 ) Net activity under employee plans and related tax benefits 588 22 22 Dividends on preferred stock ( 22 ) ( 22 ) Dividends on common stock, $ 1.17 per share ( 178 ) ( 178 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at September 30, 2022 $ 440 149,611 $ — $ 1,799 $ 5,597 $ ( 3,140 ) $ 4,696 Balance at December 31, 2020 $ 566 164,090 $ — $ 2,686 $ 4,309 $ 325 $ 7,886 Net income for the period 916 916 Other comprehensive loss, net of tax ( 261 ) ( 261 ) Preferred stock redemption ( 126 ) 3 ( 3 ) ( 126 ) Bank common stock repurchased ( 8,519 ) ( 475 ) ( 475 ) Net activity under employee plans and related tax benefits 959 31 31 Dividends on preferred stock ( 23 ) ( 23 ) Dividends on common stock, $ 1.06 per share ( 174 ) ( 174 ) Balance at September 30, 2021 $ 440 156,530 $ — $ 2,245 $ 5,025 $ 64 $ 7,774 See accompanying notes to consolidated financial statements. 39 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In millions) Nine Months Ended September 30, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES Net income for the period $ 623 $ 916 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses 79 ( 301 ) Depreciation and amortization 79 ( 22 ) Share-based compensation 25 23 Deferred income tax expense 15 108 Net increase in trading securities ( 154 ) ( 39 ) Net decrease in loans held for sale 51 13 Change in other liabilities 745 14 Change in other assets ( 467 ) ( 177 ) Other, net ( 20 ) ( 72 ) Net cash provided by operating activities 976 463 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease (increase) in money market investments 8,328 ( 4,461 ) Proceeds from maturities and paydowns of investment securities held-to-maturity 250 433 Purchases of investment securities held-to-maturity ( 232 ) ( 256 ) Proceeds from sales, maturities and paydowns of investment securities available-for-sale 2,743 3,611 Purchases of investment securities available-for-sale ( 5,829 ) ( 8,730 ) Net change in loans and leases ( 3,026 ) 2,957 Purchases and sales of other noninterest-bearing investments ( 147 ) 18 Purchases of premises and equipment ( 154 ) ( 153 ) Other, net 21 8 Net cash provided by (used in) investing activities 1,954 ( 6,573 ) CASH FLOWS FROM FINANCING ACTIVITIES Net (decrease) increase in deposits ( 6,794 ) 8,230 Net change in short-term funds borrowed 4,461 ( 993 ) Cash paid for preferred stock redemption — ( 126 ) Redemption of long-term debt ( 290 ) ( 281 ) Proceeds from the issuance of common stock 8 17 Dividends paid on common and preferred stock ( 200 ) ( 199 ) Bank common stock repurchased ( 151 ) ( 475 ) Other, net ( 10 ) ( 9 ) Net cash (used in) provided by financing activities ( 2,976 ) 6,164 Net decrease in cash and due from banks ( 46 ) 54 Cash and due from banks at beginning of period 595 543 Cash and due from banks at end of period $ 549 $ 597 Cash paid for interest $ 63 $ 61 Net cash paid for income taxes 5 442 Noncash activities are summarized as follows: Loans held for investment transferred to other real estate owned — 22 Loans held for investment reclassified to loans held for sale, net 100 55 See accompanying notes to consolidated financial statements. 40 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) September 30, 2022 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Zions Bancorporation, National Association and its majority-owned subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). The results of operations for the nine months ended September 30, 2022 and 2021 are not necessarily indicative of the results that may be expected in future periods. In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. For further information, refer to the consolidated financial statements and accompanying footnotes included in our 2021 Form 10-K. Certain prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Effective for the first quarter of 2022, we made certain financial reporting changes and reclassifications to noninterest expense in our Consolidated Statements of Income. These financial reporting changes were made primarily to improve the presentation and disclosure of certain expenses related to our ongoing technology initiatives. Other noninterest expense line items were impacted by these changes and reclassifications. These changes and reclassifications (1) were adopted retrospectively to January 1, 2020, (2) reflect changes only to noninterest expense in the Consolidated Statements of Income, and (3) do not impact net income, net interest income, or noninterest income. We evaluated events that occurred between September 30, 2022 and the date the accompanying financial statements were issued, and determined that there were no material events that would require adjustments to our consolidated financial statements or significant disclosure in the accompanying Notes. As referenced in Note 5 of the Notes to Consolidated Financial Statements, we transferred pass-through mortgage-backed available-for-sale (“AFS”) securities to the held-to-maturity (“HTM”) category to reflect our new intent for these securities in October 2022. Zions Bancorporation, N.A. is a commercial bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These include Zions Bank, in Utah, Idaho, and Wyoming; California Bank & Trust (“CB&T”); Amegy Bank (“Amegy”), in Texas; National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”), in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under the name The Commerce Bank of Oregon in Oregon. 41 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 2. RECENT ACCOUNTING PRONOUNCEMENTS Standard Description Date of adoption Effect on the financial statements or other significant matters Standards not yet adopted by the Bank ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures This accounting standards update (“ASU”) eliminates the recognition and measurement guidance on troubled debt restructurings (“TDRs”) for creditors that have adopted ASC 326 (“CECL”), and eliminates certain existing TDR disclosures while requiring enhanced disclosures about loan modifications for borrowers experiencing financial difficulty. The new standard also requires public companies to present current-period gross write-offs (on a current year-to-date basis for interim-period disclosures) by year of origination in their vintage disclosures. The new standard is effective for calendar year-end public companies beginning January 1, 2023, with early adoption permitted. Periods beginning after December 15, 2022 We have established an implementation team to ensure that the necessary data is captured in order to comply with the new disclosure requirements. The overall effect of this standard is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. ASU 2022-03, Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions This ASU clarifies that contractual restrictions prohibiting the sale of an equity security are not considered part of the unit of account of the equity security, and therefore, are not considered in measuring fair value. The amendments clarify that an entity cannot recognize and measure a contractual sale restriction as a separate unit of account. The amendments in this ASU also require additional qualitative and quantitative disclosures for equity securities subject to contractual sale restrictions. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 The requirements of this ASU are consistent with our current treatment of equity securities subject to contractual sale restrictions and are not expected to impact the fair value measurements of these securities. We are evaluating supplementary disclosure requirements and additional data needed to meet these requirements. The overall effect of this standard is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. 42 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 3. FAIR VALUE Fair Value Measurements Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. For more information about our valuation methodologies for assets and liabilities measured at fair value and the fair value hierarchy, see Note 3 of our 2021 Form 10-K. Quantitative Disclosure by Fair Value Hierarchy Assets and liabilities measured at fair value by class on a recurring basis are summarized as follows: (In millions) September 30, 2022 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 394 $ 21,139 $ — $ 21,533 Municipal securities 1,626 1,626 Other debt securities 74 74 Total available-for-sale 394 22,839 — 23,233 Trading account 221 305 526 Other noninterest-bearing investments: Bank-owned life insurance 543 543 Private equity investments 1 5 81 86 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 118 118 Derivativ Derivatives designated as hedges 83 83 Derivatives not designated as hedges 212 212 Total assets $ 738 $ 23,982 $ 93 $ 24,813 LIABILITIES Securities sold, not yet purchased $ 34 $ — $ — $ 34 Other liabiliti Derivativ Derivatives designated as hedges 2 2 Derivatives not designated as hedges 489 489 Total liabilities $ 34 $ 491 $ — $ 525 1 The Level 1 private equity investments (“PEIs”) relate to the portion of our Small Business Investment Company (“SBIC”) investments that are now publicly traded. 43 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) December 31, 2021 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 134 $ 22,144 $ — $ 22,278 Municipal securities 1,694 1,694 Other debt securities 76 76 Total available-for-sale 134 23,914 — 24,048 Trading account 14 358 372 Other noninterest-bearing investments: Bank-owned life insurance 537 537 Private equity investments 1 35 66 101 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 138 138 Derivativ Derivatives designated as hedges 10 10 Derivatives not designated as hedges 209 209 Total assets $ 321 $ 25,028 $ 78 $ 25,427 LIABILITIES Securities sold, not yet purchased $ 254 $ — $ — $ 254 Other liabiliti Derivativ Derivatives not designated as hedges 51 51 Total liabilities $ 254 $ 51 $ — $ 305 1 The Level 1 PEIs relate to the portion of our SBIC investments that are now publicly traded. Level 3 Valuations Our Level 3 holdings include PEIs, agriculture loan servicing, and interest-only strips. For additional information regarding our Level 3 financial instruments, including the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2021 Form 10-K. Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments Three Months Ended Nine Months Ended September 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021 (In millions) Private equity investments Ag loan servicing & interest only strips Private equity investments Ag loan servicing & interest only strips Private equity investments Ag loan servicing & interest only strips Private equity investments Ag loan servicing & interest only strips Balance at beginning of period $ 77 $ 12 $ 72 $ 15 $ 66 $ 12 $ 80 $ 16 Unrealized securities gains (losses), net 2 — 10 — 7 — 79 — Other noninterest income (expense) — — — ( 1 ) — — — ( 2 ) Purchases 2 — 4 — 11 — 10 — Cost of investments sold — — ( 13 ) — ( 3 ) — ( 19 ) — Transfers out 1 — — ( 1 ) — — — ( 78 ) — Balance at end of period $ 81 $ 12 $ 72 $ 14 $ 81 $ 12 $ 72 $ 14 1 Represents the transfer of SBIC investments out of Level 3 and into Level 1 because they are now publicly traded. 44 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The rollforward of Level 3 instruments includes the following realized gains and losses recognized in securities gains (losses) on the consolidated statement of income for the periods present (In millions) Three Months Ended Nine Months Ended September 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021 Securities gains (losses), net $ — $ ( 6 ) $ ( 2 ) $ ( 11 ) Nonrecurring Fair Value Measurements Certain assets and liabilities may be recorded at fair value on a nonrecurring basis, including impaired loans that have been measured based on the fair value of the underlying collateral, other real estate owned (“OREO”), and nonmarketable equity securities. Nonrecurring fair value adjustments typically involve write-downs of individual assets or the application of lower of cost or fair value accounting. At September 30, 2022, we had no assets or liabilities that had fair value changes measured on a nonrecurring basis. At December 31, 2021, we had $ 2 million of collateral-dependent loans valued as Level 2 measurements, and we recognized $ 3 million of losses from fair value changes related to these loans. The previous fair values may not be current as of the dates indicated, but rather as of the most recent date the fair value change occurred. For additional information regarding the measurement of fair value for impaired loans, collateral-dependent loans, and OREO, see Note 3 of our 2021 Form 10-K. Fair Value of Certain Financial Instruments The following schedule summarizes the carrying values and estimated fair values of certain financial instruments: September 30, 2022 December 31, 2021 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: Held-to-maturity investment securities $ 423 $ 379 2 $ 441 $ 443 2 Loans and leases (including loans held for sale), net of allowance 53,402 51,735 3 50,421 50,619 3 Financial liabiliti Time deposits 1,473 1,433 2 1,622 1,624 2 Other short-term borrowings 3,500 3,500 2 — — 2 Long-term debt 647 628 2 1,012 1,034 2 This summary excludes financial assets and liabilities for which carrying value approximates fair value and financial instruments that are recorded at fair value on a recurring basis. For additional information regarding the financial instruments within the scope of this disclosure, and the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2021 Form 10-K. 45 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 4. OFFSETTING ASSETS AND LIABILITIES Gross and net information for selected financial instruments in the balance sheet is as follows: September 30, 2022 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 2,797 $ — $ 2,797 $ — $ — $ 2,797 Derivatives (included in other assets) 295 — 295 ( 10 ) ( 159 ) 126 Total assets $ 3,092 $ — $ 3,092 $ ( 10 ) $ ( 159 ) $ 2,923 Liabiliti Federal funds purchased and other short-term borrowings $ 5,363 $ — $ 5,363 $ — $ — $ 5,363 Derivatives (included in other liabilities) 491 — 491 ( 10 ) — 481 Total liabilities $ 5,854 $ — $ 5,854 $ ( 10 ) $ — $ 5,844 December 31, 2021 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and security resell agreements $ 2,133 $ — $ 2,133 $ — $ — $ 2,133 Derivatives (included in other assets) 219 — 219 ( 16 ) ( 7 ) 196 Total assets $ 2,352 $ — $ 2,352 $ ( 16 ) $ ( 7 ) $ 2,329 Liabiliti Federal funds purchased and other short-term borrowings $ 903 $ — $ 903 $ — $ — $ 903 Derivatives (included in other liabilities) 51 — 51 ( 16 ) ( 1 ) 34 Total liabilities $ 954 $ — $ 954 $ ( 16 ) $ ( 1 ) $ 937 Security repurchase and reverse repurchase (“resell”) agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 5. INVESTMENTS Investment Securities Investment securities are classified as HTM, AFS, or trading. HTM securities, which management has the intent and ability to hold until maturity, are carried at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. AFS securities are carried at fair value, and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to accumulated other comprehensive income (“AOCI”), net of related taxes. Trading securities are carried at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 76 million and $ 65 million at September 30, 2022 and December 31, 2021, respectively. These receivables are presented on the consolidated balance sheet in “Other assets.” 46 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES In October 2022, we transferred approximately $ 9.0 billion amortized cost ($ 7.2 billion fair value) of pass-through mortgage-backed AFS securities to the HTM category to reflect our new intent for these securities. See Note 5 of our 2021 Form 10-K for more information regarding our accounting for investment securities, and see Note 3 of our 2021 Form 10-K for description of our process to estimate fair value for investment securities. The following schedule summarizes the amortized cost and estimated fair values of our HTM and AFS securiti September 30, 2022 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities 1 $ 423 $ — $ 44 $ 379 Available-for-sale U.S. Treasury securities 557 — 163 394 U.S. Government agencies and corporatio Agency securities 851 — 44 807 Agency guaranteed mortgage-backed securities 1 23,162 — 3,596 19,566 Small Business Administration loan-backed securities 793 1 28 766 Municipal securities 1 1,780 — 154 1,626 Other debt securities 1 75 — 1 74 Total available-for-sale 27,218 1 3,986 23,233 Total HTM and AFS investment securities $ 27,641 $ 1 $ 4,030 $ 23,612 1 Gross unrealized gains for these security categories were less than $ 1 million. December 31, 2021 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 441 $ 4 $ 2 $ 443 Available-for-sale U.S. Treasury securities 155 — 21 134 U.S. Government agencies and corporatio Agency securities 833 13 1 845 Agency guaranteed mortgage-backed securities 20,549 108 270 20,387 Small Business Administration loan-backed securities 938 2 28 912 Municipal securities 1,652 46 4 1,694 Other debt securities 75 1 — 76 Total available-for-sale 24,202 170 324 24,048 Total HTM and AFS investment securities $ 24,643 $ 174 $ 326 $ 24,491 Maturities The following schedule shows the amortized cost and weighted average yields of debt securities by contractual maturity of principal payments at September 30, 2022. Actual principal payments may differ from contractual or expected principal payments because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. 47 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES September 30, 2022 Total debt securities Due in one year or less Due after one year through five years Due after five years through ten years Due after ten years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity Municipal securities 1 $ 423 3.11 % $ 46 3.65 % $ 132 3.20 % $ 185 3.08 % $ 60 2.59 % Available-for-sale U.S. Treasury securities 557 2.05 — — — — — — 557 2.05 U.S. Government agencies and corporatio Agency securities 851 2.40 31 0.84 371 2.08 239 2.48 210 3.09 Agency guaranteed mortgage-backed securities 23,162 1.82 — — 370 1.70 1,725 1.97 21,067 1.81 Small Business Administration loan-backed securities 793 2.58 — — 52 2.73 160 3.02 581 2.44 Municipal securities 1 1,780 2.42 112 2.18 650 2.67 710 2.17 308 2.56 Other debt securities 75 3.46 — — 50 1.79 10 9.52 15 4.98 Total available-for-sale securities 27,218 1.91 143 1.89 1,493 2.25 2,844 2.15 22,738 1.86 Total HTM and AFS investment securities $ 27,641 1.93 % $ 189 2.32 % $ 1,625 2.33 % $ 3,029 2.21 % $ 22,798 1.86 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis. The following schedule summarizes the amount of gross unrealized losses for debt securities and the estimated fair value by length of time the securities have been in an unrealized loss positi September 30, 2022 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 18 $ 260 $ 26 $ 96 $ 44 $ 356 Available-for-sale U.S. Treasury securities 95 306 68 88 163 394 U.S. Government agencies and corporatio Agency securities 37 712 7 95 44 807 Agency guaranteed mortgage-backed securities 1,865 12,129 1,731 7,429 3,596 19,558 Small Business Administration loan-backed securities 7 77 21 571 28 648 Municipal securities 106 1,375 48 230 154 1,605 Other 1 13 — — 1 13 Total available-for-sale 2,111 14,612 1,875 8,413 3,986 23,025 Total HTM and AFS investment securities $ 2,129 $ 14,872 $ 1,901 $ 8,509 $ 4,030 $ 23,381 48 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 1 $ 88 $ 1 $ 68 $ 2 $ 156 Available-for-sale U.S. Treasury securities — — 21 134 21 134 U.S. Government agencies and corporatio Agency securities 1 121 — 1 1 122 Agency guaranteed mortgage-backed securities 231 13,574 39 942 270 14,516 Small Business Administration loan-backed securities — 27 28 749 28 776 Municipal securities 4 327 — 8 4 335 Other — — — — — — Total available-for-sale 236 14,049 88 1,834 324 15,883 Total HTM and AFS investment securities $ 237 $ 14,137 $ 89 $ 1,902 $ 326 $ 16,039 Approximately 550 and 137 HTM and 4,236 and 1,302 AFS investment securities were in an unrealized loss position at September 30, 2022, and December 31, 2021, respectively. Impairment We review investment securities quarterly on an individual security basis for the presence of impairment. For additional information on our policy and impairment evaluation process for investment securities, see Note 5 of our 2021 Form 10-K. AFS Impairment We did not recognize any impairment on our AFS investment securities portfolio during the first nine months of 2022. Unrealized losses primarily relate to changes in interest rates subsequent to purchase and are not attributable to credit. At September 30, 2022, we had not initiated any sales of AFS securities, nor did we have an intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not that we would be required to sell such securities before recovery of their amortized cost basis. HTM Impairment For HTM securities, the allowance for credit losses (“ACL”) is assessed consistent with the approach described in Note 6 for loans and leases carried at amortized cost. The ACL on HTM securities was less than $ 1 million at September 30, 2022. All HTM securities were risk-graded as “ Pass ” in terms of credit quality and none were past due at September 30, 2022. The amortized cost basis of HTM securities categorized by year acquired is summarized in the following schedu September 30, 2022 Amortized cost basis by year acquired (In millions) 2022 2021 2020 2019 2018 Prior Total Securities Held-to-maturity investment securities $ 38 $ 87 $ 117 $ 8 $ — $ 173 $ 423 49 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Securities Gains and Losses Recognized in Income The following schedule summarizes securities gains and losses recognized in the income statemen Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 2022 2021 (In millions) Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Other noninterest-bearing investments $ 6 $ — $ 6 $ 29 $ 10 $ 20 $ 86 $ 35 Net gains (losses) 1 $ 6 $ ( 23 ) $ ( 10 ) $ 51 1 Net gains (losses) were recognized in securities gains (losses) in the income statement. The following schedule presents interest income by security type: Three Months Ended September 30, 2022 2021 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 2 $ 1 $ 3 $ 3 $ 1 $ 4 Available-for-sale 115 11 126 64 8 72 Trading — 3 3 — 2 2 Total securities $ 117 $ 15 $ 132 $ 67 $ 11 $ 78 Nine Months Ended September 30, 2022 2021 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 7 $ 3 $ 10 $ 8 $ 4 $ 12 Available-for-sale 320 30 350 182 22 204 Trading — 12 12 — 7 7 Total securities $ 327 $ 45 $ 372 $ 190 $ 33 $ 223 At September 30, 2022 and December 31, 2021, investment securities with a carrying value of $ 4.6 billion and $ 3.1 billion, respectively, were pledged to secure public and trust deposits, advances, and for other purposes as required by law. Securities are also pledged as collateral for security repurchase agreements. 50 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific loan class: (In millions) September 30, 2022 December 31, 2021 Loans held for sale $ 25 $ 83 Commerci Commercial and industrial $ 15,656 $ 13,867 PPP 306 1,855 Leasing 347 327 Owner-occupied 9,279 8,733 Municipal 4,224 3,658 Total commercial 29,812 28,440 Commercial real estate: Construction and land development 2,800 2,757 Term 9,556 9,441 Total commercial real estate 12,356 12,198 Consume Home equity credit line 3,331 3,016 1-4 family residential 6,852 6,050 Construction and other consumer real estate 973 638 Bankcard and other revolving plans 471 396 Other 123 113 Total consumer 11,750 10,213 Total loans and leases $ 53,918 $ 50,851 Loans and leases are presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 44 million and $ 83 million at September 30, 2022 and December 31, 2021, respectively. Amortized cost basis does not include accrued interest receivables of $ 196 million and $ 161 million at September 30, 2022 and December 31, 2021, respectively. These receivables are presented in the Consolidated Balance Sheet within the “Other assets” line item. Municipal loans generally include loans to state and local governments (“municipalities”) with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 257 million at September 30, 2022 and $ 160 million at December 31, 2021. Loans with a carrying value of $ 27.6 billion at September 30, 2022 and $ 26.8 billion at December 31, 2021 have been pledged at the Federal Reserve and the Federal Home Loan Bank (“FHLB”) of Des Moines as collateral for potential borrowings. We sold loans totaling $ 112 million and $ 635 million for the three and nine months ended September 30, 2022, and $ 0.4 billion and $ 1.2 billion for the three and nine months ended September 30, 2021, that were classified as loans held for sale. The sold loans were derecognized from the balance sheet. Loans classified as loans held for sale primarily consist of conforming residential mortgages and the guaranteed portion of Small Business Administration (“SBA”) loans that are primarily sold to U.S. government agencies or participated to third parties. They do not include loans from the SBA's Paycheck Protection Program (“PPP”). At times, we have continuing involvement in the sold loans in the form of servicing rights or guarantees. Amounts added to loans held for sale during these same periods were $ 96 million and $ 583 million for the three and nine months ended September 30, 2022, and $ 0.4 51 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES billion and $ 1.2 billion for the three and nine months ended September 30, 2021, respectively. See Note 5 of the Notes to Consolidated Financial Statements for further information regarding guaranteed securities. The principal balance of sold loans for which we retain servicing was $ 3.5 billion at September 30, 2022, and $ 3.3 billion at December 31, 2021. Income from loans sold, excluding servicing, was $ 2 million and $ 12 million for the three and nine months ended September 30, 2022, and $ 12 million and $ 30 million for the three and nine months ended September 30, 2021, respectively. Allowance for Credit Losses The allowance for credit losses (“ACL”), which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. For additional information regarding our policies and methodologies used to estimate the ACL, see Note 6 of our 2021 Form 10-K. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is estimated consistent with the approach for loans carried at amortized cost. See Note 5 of our 2021 Form 10-K for further discussion of our methodology used to estimate the ACL on AFS and HTM debt securities. Changes in the ACL are summarized as follows: Three Months Ended September 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 286 $ 114 $ 108 $ 508 Provision for loan losses 41 17 2 60 Gross loan and lease charge-offs 37 — 1 38 Recoveries 6 — 5 11 Net loan and lease charge-offs (recoveries) 31 — ( 4 ) 27 Balance at end of period $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments Balance at beginning of period $ 13 $ 15 $ 10 $ 38 Provision for unfunded lending commitments 3 7 1 11 Balance at end of period $ 16 $ 22 $ 11 $ 49 Total allowance for credit losses at end of period Allowance for loan losses $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments 16 22 11 49 Total allowance for credit losses $ 312 $ 153 $ 125 $ 590 52 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 311 $ 107 $ 95 $ 513 Provision for loan losses 29 24 17 70 Gross loan and lease charge-offs 65 — 8 73 Recoveries 21 — 10 31 Net loan and lease charge-offs (recoveries) 44 — ( 2 ) 42 Balance at end of period $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments Balance at beginning of period $ 19 $ 11 $ 10 $ 40 Provision for unfunded lending commitments ( 3 ) 11 1 9 Balance at end of period $ 16 $ 22 $ 11 $ 49 Total allowance for credit losses at end of period Allowance for loan losses $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments 16 22 11 49 Total allowance for credit losses $ 312 $ 153 $ 125 $ 590 Three Months Ended September 30, 2021 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 321 $ 111 $ 103 $ 535 Provision for loan losses ( 25 ) ( 10 ) ( 10 ) ( 45 ) Gross loan and lease charge-offs 4 — 4 8 Recoveries 7 — 2 9 Net loan and lease charge-offs (recoveries) ( 3 ) — 2 ( 1 ) Balance at end of period $ 299 $ 101 $ 91 $ 491 Reserve for unfunded lending commitments Balance at beginning of period $ 21 $ 10 $ 8 $ 39 Provision for unfunded lending commitments ( 2 ) — 1 ( 1 ) Balance at end of period $ 19 $ 10 $ 9 $ 38 Total allowance for credit losses at end of period Allowance for loan losses $ 299 $ 101 $ 91 $ 491 Reserve for unfunded lending commitments 19 10 9 38 Total allowance for credit losses $ 318 $ 111 $ 100 $ 529 53 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2021 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 464 $ 171 $ 142 $ 777 Provision for loan losses ( 162 ) ( 70 ) ( 49 ) ( 281 ) Gross loan and lease charge-offs 27 — 10 37 Recoveries 24 — 8 32 Net loan and lease charge-offs (recoveries) 3 — 2 5 Balance at end of period $ 299 $ 101 $ 91 $ 491 Reserve for unfunded lending commitments Balance at beginning of period $ 30 $ 20 $ 8 $ 58 Provision for unfunded lending commitments ( 11 ) ( 10 ) 1 ( 20 ) Balance at end of period $ 19 $ 10 $ 9 $ 38 Total allowance for credit losses at end of period Allowance for loan losses $ 299 $ 101 $ 91 $ 491 Reserve for unfunded lending commitments 19 10 9 38 Total allowance for credit losses $ 318 $ 111 $ 100 $ 529 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement, (2) the loan, if secured, is well-secured, (3) the borrower has paid according to the contractual terms for a minimum of six months, and (4) an analysis of the borrower indicates a reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of nonaccrual loans is summarized as follows: September 30, 2022 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 10 $ 42 $ 52 $ 19 PPP 5 — 5 — Owner-occupied 19 9 28 1 Total commercial 34 51 85 20 Commercial real estate: Term — 20 20 8 Total commercial real estate — 20 20 8 Consume Home equity credit line 1 9 10 1 1-4 family residential 7 29 36 4 Bankcard and other revolving plans — — — — Total consumer loans 8 38 46 5 Total $ 42 $ 109 $ 151 $ 33 54 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 30 $ 94 $ 124 $ 34 PPP 2 1 3 — Owner-occupied 37 20 57 3 Total commercial 69 115 184 37 Commercial real estate: Term 6 14 20 3 Total commercial real estate 6 14 20 3 Consume Home equity credit line 4 10 14 2 1-4 family residential 9 43 52 5 Bankcard and other revolving plans — 1 1 1 Total consumer loans 13 54 67 8 Total $ 88 $ 183 $ 271 $ 48 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. For the three and nine months ended September 30, 2022 and 2021, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. The amount of accrued interest receivables reversed from interest income during the periods presented is summarized by loan portfolio segment as follows: Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2022 2021 2022 2021 Commercial $ 3 $ 3 $ 11 $ 11 Commercial real estate 1 1 1 1 Consumer — — — — Total $ 4 $ 4 $ 12 $ 12 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as bankcard and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. 55 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Past due loans (accruing and nonaccruing) are summarized as follows: September 30, 2022 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 15,597 $ 26 $ 33 $ 59 $ 15,656 $ 17 $ 36 PPP 268 31 7 38 306 2 — Leasing 347 — — — 347 — — Owner-occupied 9,264 10 5 15 9,279 — 21 Municipal 4,223 1 — 1 4,224 — — Total commercial 29,699 68 45 113 29,812 19 57 Commercial real estate: Construction and land development 2,800 — — — 2,800 — — Term 9,536 5 15 20 9,556 — 5 Total commercial real estate 12,336 5 15 20 12,356 — 5 Consume Home equity credit line 3,323 7 1 8 3,331 — 6 1-4 family residential 6,829 7 16 23 6,852 — 19 Construction and other consumer real estate 973 — — — 973 — — Bankcard and other revolving plans 468 3 — 3 471 1 — Other 122 1 — 1 123 — — Total consumer loans 11,715 18 17 35 11,750 1 25 Total $ 53,750 $ 91 $ 77 $ 168 $ 53,918 $ 20 $ 87 December 31, 2021 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 13,822 $ 17 $ 28 $ 45 $ 13,867 $ 2 $ 91 PPP 1,813 35 7 42 1,855 5 — Leasing 327 — — — 327 — — Owner-occupied 8,712 7 14 21 8,733 — 42 Municipal 3,658 — — — 3,658 — — Total commercial 28,332 59 49 108 28,440 7 133 Commercial real estate: Construction and land development 2,757 — — — 2,757 — — Term 9,426 10 5 15 9,441 — 15 Total commercial real estate 12,183 10 5 15 12,198 — 15 Consume Home equity credit line 3,008 4 4 8 3,016 — 10 1-4 family residential 6,018 6 26 32 6,050 — 24 Construction and other consumer real estate 638 — — — 638 — — Bankcard and other revolving plans 393 2 1 3 396 1 — Other 112 1 — 1 113 — — Total consumer loans 10,169 13 31 44 10,213 1 34 Total $ 50,684 $ 82 $ 85 $ 167 $ 50,851 $ 8 $ 182 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is still not expected. 56 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk grading systems, which vary based on the size and type of credit risk exposure. The internal risk grades assigned to loans follow our definition of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. • Pass – A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention – A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard – A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful – A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were $ 1 million of loans classified as Doubtful at September 30, 2022, compared with none at December 31, 2021. We generally assign internal risk grades to commercial and commercial real estate (“CRE”) loans with commitments greater than $ 1 million, based on financial and statistical models, individual credit analysis, and loan officer experience and judgment. For these larger loans, we assign one of multiple risk grades within the Pass classification or one of the risk classifications described previously. We confirm our internal risk grades quarterly, or as soon as we identify information that affects the credit risk of the loan. For consumer loans and for commercial and CRE loans with commitments less than or equal to $ 1 million, we generally assign internal risk grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The amortized cost basis of loans and leases categorized by year of origination and by credit quality classifications as monitored by management are summarized as follows. 57 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES September 30, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Commerci Commercial and industrial Pass $ 2,640 $ 2,004 $ 941 $ 788 $ 535 $ 364 $ 7,626 $ 182 $ 15,080 Special Mention 19 2 11 11 1 42 88 — 174 Accruing Substandard 13 14 17 101 40 71 92 2 350 Nonaccrual 1 1 2 1 1 3 39 4 52 Total commercial and industrial 2,673 2,021 971 901 577 480 7,845 188 15,656 PPP Pass — 154 147 — — — — — 301 Nonaccrual — — 5 — — — — — 5 Total PPP — 154 152 — — — — — 306 Leasing Pass 97 76 50 74 22 23 — — 342 Special Mention — — — — — — — — — Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 97 76 50 74 22 28 — — 347 Owner-occupied Pass 1,778 2,346 1,173 909 675 1,827 162 85 8,955 Special Mention 3 8 8 11 7 18 1 — 56 Accruing Substandard 15 17 45 32 56 67 8 — 240 Nonaccrual — 1 2 4 5 15 1 — 28 Total owner-occupied 1,796 2,372 1,228 956 743 1,927 172 85 9,279 Municipal Pass 1,027 1,224 848 472 167 469 6 — 4,213 Special Mention — — — 8 — — — — 8 Accruing Substandard — — — — — 3 — — 3 Nonaccrual — — — — — — — — — Total municipal 1,027 1,224 848 480 167 472 6 — 4,224 Total commercial 5,593 5,847 3,249 2,411 1,509 2,907 8,023 273 29,812 Commercial real estate: Construction and land development Pass 375 814 621 128 2 2 706 85 2,733 Special Mention 1 1 — — — 25 — — 27 Accruing Substandard 17 1 — 22 — — — — 40 Nonaccrual — — — — — — — — — Total construction and land development 393 816 621 150 2 27 706 85 2,800 Term Pass 2,170 1,987 1,661 1,022 810 1,316 239 120 9,325 Special Mention — 21 — — 3 3 — — 27 Accruing Substandard 51 4 35 23 37 34 — — 184 Nonaccrual — — 2 4 1 13 — — 20 Total term 2,221 2,012 1,698 1,049 851 1,366 239 120 9,556 Total commercial real estate 2,614 2,828 2,319 1,199 853 1,393 945 205 12,356 58 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES September 30, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Consume Home equity credit line Pass — — — — — — 3,222 97 3,319 Special Mention — — — — — — 1 — 1 Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — 8 2 10 Total home equity credit line — — — — — — 3,232 99 3,331 1-4 family residential Pass 1,461 1,451 1,010 648 393 1,851 — — 6,814 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — 1 3 3 1 28 — — 36 Total 1-4 family residential 1,461 1,452 1,013 651 394 1,881 — — 6,852 Construction and other consumer real estate Pass 357 483 95 22 9 7 — — 973 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 357 483 95 22 9 7 — — 973 Bankcard and other revolving plans Pass — — — — — — 468 2 470 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 469 2 471 Other consumer Pass 58 34 13 10 5 3 — — 123 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 58 34 13 10 5 3 — — 123 Total consumer 1,876 1,969 1,121 683 408 1,891 3,701 101 11,750 Total loans $ 10,083 $ 10,644 $ 6,689 $ 4,293 $ 2,770 $ 6,191 $ 12,669 $ 579 $ 53,918 59 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2016 Prior Total loans Commerci Commercial and industrial Pass $ 2,561 $ 1,309 $ 1,179 $ 748 $ 354 $ 239 $ 6,594 $ 121 $ 13,105 Special Mention 4 17 9 12 1 3 128 1 175 Accruing Substandard 28 22 99 53 31 65 162 3 463 Nonaccrual 14 10 6 3 1 21 51 18 124 Total commercial and industrial 2,607 1,358 1,293 816 387 328 6,935 143 13,867 PPP Pass 1,317 535 — — — — — — 1,852 Nonaccrual — 3 — — — — — — 3 Total PPP 1,317 538 — — — — — — 1,855 Leasing Pass 46 74 70 64 42 19 — — 315 Special Mention — 1 4 1 1 — — — 7 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 46 75 74 65 43 24 — — 327 Owner-occupied Pass 2,420 1,366 1,028 868 695 1,663 177 69 8,286 Special Mention 10 13 19 32 18 50 3 3 148 Accruing Substandard 14 24 41 47 24 79 13 — 242 Nonaccrual — 4 14 9 9 20 1 — 57 Total owner-occupied 2,444 1,407 1,102 956 746 1,812 194 72 8,733 Municipal Pass 1,303 963 553 250 327 220 3 — 3,619 Special Mention — — — — — 25 — — 25 Accruing Substandard — 9 — — — 5 — — 14 Nonaccrual — — — — — — — — — Total municipal 1,303 972 553 250 327 250 3 — 3,658 Total commercial 7,717 4,350 3,022 2,087 1,503 2,414 7,132 215 28,440 Commercial real estate: Construction and land development Pass 640 736 515 94 24 2 650 64 2,725 Special Mention — — 1 — — — — — 1 Accruing Substandard — 3 28 — — — — — 31 Nonaccrual — — — — — — — — — Total construction and land development 640 739 544 94 24 2 650 64 2,757 Term Pass 2,407 1,765 1,491 1,066 529 1,401 239 179 9,077 Special Mention 22 39 10 17 8 25 — 4 125 Accruing Substandard 9 9 44 77 14 64 — 2 219 Nonaccrual — 1 5 1 — 13 — — 20 Total term 2,438 1,814 1,550 1,161 551 1,503 239 185 9,441 Total commercial real estate 3,078 2,553 2,094 1,255 575 1,505 889 249 12,198 60 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2016 Prior Total loans Consume Home equity credit line Pass — — — — — — 2,903 96 2,999 Special Mention — — — — — — 1 — 1 Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 7 7 14 Total home equity credit line — — — — — — 2,913 103 3,016 1-4 family residential Pass 1,391 1,021 728 484 681 1,691 — — 5,996 Special Mention — — — — — — — — — Accruing Substandard — — 1 — — 1 — — 2 Nonaccrual — 3 3 3 9 34 — — 52 Total 1-4 family residential 1,391 1,024 732 487 690 1,726 — — 6,050 Construction and other consumer real estate Pass 295 232 73 27 4 7 — — 638 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 295 232 73 27 4 7 — — 638 Bankcard and other revolving plans Pass — — — — — — 391 3 394 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — 1 — 1 Total bankcard and other revolving plans — — — — — — 393 3 396 Other consumer Pass 58 23 17 9 4 2 — — 113 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 58 23 17 9 4 2 — — 113 Total consumer 1,744 1,279 822 523 698 1,735 3,306 106 10,213 Total loans $ 12,539 $ 8,182 $ 5,938 $ 3,865 $ 2,776 $ 5,654 $ 11,327 $ 570 $ 50,851 Modified and Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are considered TDRs. For further discussion of our policies and processes regarding TDRs, see Note 6 of our 2021 Form 10-K. 61 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Information on TDRs, including the amortized cost on an accruing and nonaccruing basis by loan class and modification type is summarized in the following schedul September 30, 2022 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 1 $ 9 $ — $ — $ 9 $ 30 $ 49 Owner-occupied 1 6 — 8 13 12 40 Municipal — 8 — — — — 8 Total commercial 2 23 — 8 22 42 97 Commercial real estate: Term 1 27 — 27 28 1 84 Total commercial real estate 1 27 — 27 28 1 84 Consume Home equity credit line — 1 5 — — 1 7 1-4 family residential 2 1 2 — — 13 18 Total consumer loans 2 2 7 — — 14 25 Total accruing 5 52 7 35 50 57 206 Nonaccruing Commerci Commercial and industrial 1 — — — 6 2 9 Owner-occupied 4 — — — — 4 8 Total commercial 5 — — — 6 6 17 Commercial real estate: Term — — — 11 — 4 15 Total commercial real estate — — — 11 — 4 15 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 1 4 6 Total consumer loans — 1 1 — 1 4 7 Total nonaccruing 5 1 1 11 7 14 39 Total $ 10 $ 53 $ 8 $ 46 $ 57 $ 71 $ 245 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. 62 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 19 $ 1 $ — $ — $ 4 $ 7 $ 31 Owner-occupied 5 4 — 8 14 12 43 Municipal — 10 — — — — 10 Total commercial 24 15 — 8 18 19 84 Commercial real estate: Term 1 29 — 27 41 8 106 Total commercial real estate 1 29 — 27 41 8 106 Consume Home equity credit line — 1 5 — — 2 8 1-4 family residential 5 1 2 — 1 14 23 Total consumer loans 5 2 7 — 1 16 31 Total accruing 30 46 7 35 60 43 221 Nonaccruing Commerci Commercial and industrial 1 4 — 2 8 49 64 Owner-occupied 5 — — 2 — 13 20 Total commercial 6 4 — 4 8 62 84 Commercial real estate: Term — — — 11 2 3 16 Total commercial real estate — — — 11 2 3 16 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 3 — 4 Total consumer loans — 1 1 — 3 — 5 Total nonaccruing 6 5 1 15 13 65 105 Total $ 36 $ 51 $ 8 $ 50 $ 73 $ 108 $ 326 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. Unfunded lending commitments on TDRs totaled $ 6 million and $ 10 million at September 30, 2022 and December 31, 2021, respectively. The total amortized cost of all TDRs in which interest rates were modified below market was $ 60 million at September 30, 2022 and $ 100 million at December 31, 2021. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the three and nine months ended September 30, 2022 and 2021 was not significant. On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. 63 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amortized cost of TDRs that had a payment default during the three and nine months ended September 30, 2022, which were still in default at period end, and were within 12 months or less of being modified as TDRs was approximately $ 13 million for both periods, and $ 2 million and $ 5 million for the three and nine months ended September 30, 2021, respectively. Collateral-Dependent Loans When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. Select information on loans for which the borrower is experiencing financial difficulties and repayment is expected to be provided substantially through the operation or sale of the underlying collateral, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: September 30, 2022 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 1 Corporate assets 8 % Owner-occupied 2 Land, Warehouse 39 % Commercial real estate: Term 3 Multi-family 80 % Consume Home equity credit line 1 Single family residential 14 % 1-4 family residential 2 Single family residential 37 % Total $ 9 December 31, 2021 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 27 Corporate assets, Single family residential 55 % Owner-occupied 11 Office building 40 % Commercial real estate: Term 2 Multi-family, Retail 28 % Consume Home equity credit line 5 Single family residential 45 % 1-4 family residential 2 Single family residential 35 % Total $ 47 1 The fair value is based on the most recent appraisal or other collateral evaluation . Foreclosed Residential Real Estate At September 30, 2022 and December 31, 2021, we did no t have any foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure was $ 11 million and $ 10 million for the same periods, respectively. 64 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives and Accounting Our primary objective for using derivatives is to manage risks, primarily interest rate risk. We use derivatives to manage volatility in interest income, interest expense, earnings, and capital by adjusting our interest rate sensitivity to minimize the impact of fluctuations in interest rates. Derivatives are used to stabilize forecasted interest income from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities as we consider advisable. We also assist clients with their risk management needs through the use of derivatives. For a more detailed discussion of the use of and accounting policies regarding derivative instruments, see Note 7 of our 2021 Form 10-K. Fair Value Hedges of Liabilities – At September 30, 2022, we had one receive-fixed interest rate swap with a notional amount of $ 500 million designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converts the interest on our fixed-rate debt to floating. During the third quarter of 2022, derivatives designated as fair value hedges of debt decreased in value by $ 25 million, which was offset by changes in the fair value of the hedged debt instruments as shown in the schedules below. We had no cumulative unamortized debt basis adjustments related to previously terminated fair value hedges of debt at September 30, 2022. Fair Value Hedges of Assets – At September 30, 2022, we had pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 1.2 billion designated as fair value hedges of certain AFS securities. These swaps effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. During the third quarter of 2022, derivatives designated as fair value hedges of fixed-rate AFS securities increased in value by $ 67 million, which was offset by changes in value of the hedged securities, as shown in the schedules below. At September 30, 2022, we had $ 10 million of unamortized basis adjustments to AFS securities from previously designated fair value hedges. Cash Flow Hedges – At September 30, 2022, we had $ 7.4 billion notional amount of receive-fixed interest rate swaps designated as cash flow hedges of pools of floating-rate commercial loans. During the quarter, our cash flow hedge portfolio decreased in value by $ 172 million, which was recorded in AOCI. The amounts deferred in AOCI are reclassified into earnings in the periods in which the hedged interest receipts occur (i.e., when the hedged forecasted transactions affect earnings). Collateral and Credit Risk Exposure to credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred as a result of counterparty nonperformance. For a more detailed discussion of collateral and credit risk related to our derivative contracts, see Note 7 of our 2021 Form 10-K. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position at a given balance sheet date. Certain of these derivative contracts contain credit-risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit-risk-related feature were triggered, such as a downgrade of our credit rating. However, in past situations, not all counterparties have demanded that additional collateral be pledged when provided for by the contractual terms. At September 30, 2022, the fair value of our derivative liabilities was $ 491 million, for which we were required to pledge cash collateral of $ 143 million in the normal course of business. If our credit rating were downgraded one notch by either Standard & Poor’s (“S&P”) or Moody’s at September 30, 2022, there would likely be less than $ 1 million of additional collateral required to be pledged. 65 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Derivative Amounts Certain information with respect to notional amounts and recorded gross fair values at September 30, 2022 and December 31, 2021, and the related gain (loss) of derivative instruments is summarized as follows: September 30, 2022 December 31, 2021 Notional amount Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Receive-fixed interest rate swaps $ 7,433 $ — $ 2 $ 6,883 $ — $ — Fair value hed Debt hed Receive-fixed interest rate swaps 500 — — 500 — — Asset hed Pay-fixed interest rate swaps 1,228 83 — 479 10 — Total derivatives designated as hedging instruments 9,161 83 2 7,862 10 — Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives 1 6,931 1 483 6,587 192 36 Offsetting interest rate derivatives 2 6,931 501 1 6,587 38 197 Other interest rate derivatives 905 1 — 1,286 6 1 Foreign exchange derivatives 432 6 5 288 3 2 Total derivatives not designated as hedging instruments 15,199 509 489 14,748 239 236 Total derivatives $ 24,360 $ 592 $ 491 $ 22,610 $ 249 $ 236 1 Customer-facing interest rate derivatives include a net credit valuation adjustment (“CVA”) of $ 17 million, reducing the fair value of the liability at September 30, 2022, and $ 3 million, reducing the fair value of the asset at December 31, 2021. These adjustments are required to reflect both our nonperformance risk and that of the respective counterparties. 2 The fair value amounts for these derivatives do not include the settlement amounts for those trades that are centrally cleared. Once the settlement amounts with the clearing houses are included, the total derivative fair values would be the followin September 30, 2022 December 31, 2021 (In millions) Other assets Other liabilities Other assets Other liabilities Offsetting interest rate derivatives $ 204 $ 1 $ 8 $ 12 The amount of derivative gains (losses) from cash flow and fair value hedges that was deferred in other comprehensive income (“OCI”) or recognized in earnings for the nine months ended September 30, 2022 and 2021 is shown in the schedules below. Three Months Ended September 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — Interest rate swaps ( 183 ) ( 11 ) — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2, 3 — — — Fair value hedges of assets: Pay-fixed interest rate swaps — — 1 Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 183 ) $ ( 11 ) $ — 66 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 2 $ — Interest rate swaps ( 427 ) 7 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 2 Basis amortization on terminated hedges 2, 3 — — 1 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 427 ) $ 9 $ 2 Three Months Ended September 30, 2021 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 3 $ — Interest rate swaps 4 13 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 2 Basis amortization on terminated hedges 2, 3 — — 3 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ 4 $ 16 $ 4 67 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2021 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 8 $ — Interest rate swaps ( 5 ) 38 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 6 Basis amortization on terminated hedges 2, 3 — — 9 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 2 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 5 ) $ 46 $ 13 1 For the 12 months following September 30, 2022, we estimate that $ 173 million of losses will be reclassified from AOCI into interest income, compared with an estimate of $ 42 million of gains as of September 30, 2021. 2 Adjustment to interest expense resulting from the amortization of the debt basis adjustment on fixed-rate debt previously hedged by terminated receive-fixed interest rate. 3 There was no cumulative unamortized basis adjustment from previously terminated or redesignated fair value debt hedges and $ 10 million of terminated fair value asset hedges at September 30, 2022, compared with $ 2 million and $ 7 million as of September 30, 2021, respectively. The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) Three Months Ended September 30, 2022 Nine Months Ended September 30, 2022 Three Months Ended September 30, 2021 Nine Months Ended September 30, 2021 Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives $ ( 227 ) $ ( 638 ) $ ( 5 ) $ ( 100 ) Offsetting interest rate derivatives 238 680 12 129 Other interest rate derivatives — — 3 ( 7 ) Foreign exchange derivatives 8 21 6 17 Total derivatives not designated as hedging instruments $ 19 $ 63 $ 16 $ 39 The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Three Months Ended September 30, 2022 Three Months Ended September 30, 2021 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ ( 25 ) $ 25 $ — $ ( 4 ) $ 4 $ — Assets: Pay-fixed interest rate swaps 1, 2 67 ( 67 ) — 4 ( 4 ) — 68 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Gain/(loss) recorded in income Nine Months Ended September 30, 2022 Nine Months Ended September 30, 2021 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ ( 75 ) $ 75 $ — $ ( 27 ) $ 27 $ — Assets: Pay-fixed interest rate swaps 1, 2 217 ( 217 ) — 27 ( 27 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt and fixed-rate AFS securities. Gains and losses were recorded in net interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) 1 Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged item (In millions) September 30, 2022 December 31, 2021 September 30, 2022 December 31, 2021 September 30, 2022 December 31, 2021 Long-term fixed-rate debt $ ( 500 ) $ ( 500 ) $ ( 432 ) $ ( 507 ) $ 68 $ ( 7 ) Fixed-rate AFS securities 1,228 479 969 435 ( 260 ) ( 44 ) 1 Carrying amounts displayed above exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 8 . LEASES We have operating and finance leases for branches, corporate offices, and data centers. At September 30, 2022, we had 416 branches, of which 275 are owned and 141 are leased. We lease our headquarters in Salt Lake City, Utah. The remaining maturities of our lease commitments range from the year 2022 to 2062 , and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “ Other assets ,” and “ Premises, equipment and software, net ,” respectively. The corresponding liabilities for those leases are presented in “ Other liabilities ,” and “ Long-term debt .” For more information about our lease policies, see Note 8 of our 2021 Form 10-K. The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate: (Dollar amounts in millions) September 30, 2022 December 31, 2021 Operating leases ROU assets, net of amortization $ 183 $ 195 Lease liabilities 209 222 Financing leases ROU assets, net of amortization 4 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.5 8.5 Finance leases 17.6 18.3 Weighted average discount rate Operating leases 2.8 % 2.8 % Finance leases 3.1 % 3.1 % 69 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Additional information related to lease expense is presented be Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2022 2021 2022 2021 Lease expense: Operating lease expense $ 11 $ 12 $ 35 $ 35 Other expenses associated with operating leases 1 13 12 38 37 Total lease expense $ 24 $ 24 $ 73 $ 72 Related cash disbursements from operating leases $ 12 $ 13 $ 37 $ 38 1 Other expenses primarily relate to property taxes and building and property maintenance. ROU assets related to new leases totaled $ 5 million at September 30, 2022 and $ 1 million at December 31, 2021. Total contractual undiscounted lease payments for operating lease liabilities are summarized in the following schedule by expected due date: (In millions) Total undiscounted lease payments 2022 1 $ 13 2023 47 2024 38 2025 28 2026 24 Thereafter 92 Total $ 242 1 Contractual maturities for the three months remaining in 2022. We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 3 million for both the third quarter of 2022 and 2021, and $ 10 million for both the first nine months of 2022 and 2021. We originated equipment leases, considered to be sales-type leases or direct financing leases, totaling $ 347 million and $ 327 million at September 30, 2022 and December 31, 2021, respectively. We recorded income of $ 3 million on these leases for both the third quarter of 2022 and 2021, and $ 9 million for both the first nine months of 2022 and 2021. 9. LONG-TERM DEBT AND SHAREHOLDERS’ EQUITY Long-Term Debt The long-term debt carrying values in the following schedule represent the par value of the debt, adjusted for any unamortized premium or discount, unamortized debt issuance costs, and basis adjustments for interest rate swaps designated as fair value hedges. LONG-TERM DEBT (In millions) September 30, 2022 December 31, 2021 Amount change Percent change Subordinated notes $ 515 $ 590 $ ( 75 ) ( 13 ) % Senior notes 128 418 ( 290 ) ( 69 ) Finance lease obligations 4 4 — — Total $ 647 $ 1,012 $ ( 365 ) ( 36 ) % The decrease in long-term debt was primarily due to the redemption of $ 290 million of the 4-year , 3.35 % senior notes during the first quarter of 2022. 70 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Shareholders' Equity Our common stock is traded on the National Association of Securities Dealers Automated Quotations (“NASDAQ”) Global Select Market. At September 30, 2022, there were 149.6 million shares of $ 0.001 par value common stock outstanding. Common stock and additional paid-in capital totaled $ 1.8 billion at September 30, 2022, which decreased $ 129 million, or 7 %, from December 31, 2021, primarily due to common stock repurchases. During the first nine months of 2022, we repurchased 2.6 million common shares outstanding for $ 150 million at an average price of $ 58.04 per share. Accumulated other comprehensive income decreased to a loss of $ 3.1 billion at September 30, 2022, primarily due to decreases in the fair value of fixed-rate available-for-sale securities as a result of changes in interest rates. Changes in AOCI by component are as follows: (In millions) Net unrealized gains/(losses) on investment securities Net unrealized gains/(losses) on derivatives and other Pension and post-retirement Total Nine Months Ended September 30, 2022 Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) OCI (loss) before reclassifications, net of tax ( 2,729 ) ( 324 ) — ( 3,053 ) Amounts reclassified from AOCI, net of tax — ( 7 ) — ( 7 ) Other comprehensive income (loss) ( 2,729 ) ( 331 ) — ( 3,060 ) Balance at September 30, 2022 $ ( 2,807 ) $ ( 331 ) $ ( 2 ) $ ( 3,140 ) Income tax benefit included in OCI (loss) $ ( 884 ) $ ( 107 ) $ — $ ( 991 ) Nine Months Ended September 30, 2021 Balance at December 31, 2020 $ 258 $ 69 $ ( 2 ) $ 325 OCI (loss) before reclassifications, net of tax ( 225 ) ( 1 ) — ( 226 ) Amounts reclassified from AOCI, net of tax — ( 35 ) — ( 35 ) Other comprehensive income (loss) ( 225 ) ( 36 ) — ( 261 ) Balance at September 30, 2021 $ 33 $ 33 $ ( 2 ) $ 64 Income tax benefit included in OCI (loss) $ ( 73 ) $ ( 12 ) $ — $ ( 85 ) Amounts reclassified from AOCI 1 Statement of income (SI) (In millions) Three Months Ended September 30, Nine Months Ended September 30, Details about AOCI components 2022 2021 2022 2021 Affected line item Net unrealized gains (losses) on derivative instruments $ ( 11 ) $ 16 $ 9 $ 46 SI Interest and fees on loans Income tax expense (benefit) ( 3 ) 4 2 11 Amounts reclassified from AOCI $ ( 8 ) $ 12 $ 7 $ 35 1 Positive reclassification amounts indicate increases to earnings in the income statement. 71 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 10. COMMITMENTS, GUARANTEES, AND CONTINGENT LIABILITIES Commitments and Guarantees Off-balance sheet financial obligations used to meet the financing needs of our customers include the followin (In millions) September 30, 2022 December 31, 2021 Unfunded lending commitments 1 $ 28,959 $ 25,797 Standby letters of cr Financial 586 597 Performance 186 245 Commercial letters of credit 12 22 Total unfunded commitments $ 29,743 $ 26,661 1 Net of participations. Our 2021 Form 10-K contains further information about these commitments and guarantees including their terms and collateral requirements. Legal Matters We are subject to litigation in court and arbitral proceedings, as well as investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. In the third quarter of 2022, we were subject to the following material litigation or governmental inquiri • two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the Bank who filed for bankruptcy protection in 2017. The cases are in early phases, with initial motion practice and discovery underway in the Lifescan case. Trial has not been scheduled in either case. • Five civil class action cases have been filed against us by the same plaintiffs’ attorney, seeking to hold the Bank liable for practices relating to, and disclosures in, its deposit agreement pertaining to fees. Three of the five cases have been dismissed, and the following two cases remain pending and are in early phases of litigati Sipple v. Zions Bancorporation, N.A. was brought against us in the District Court of Clark County, Nevada in February 2021 with respect to foreign transaction fees. C hristensen v. Zions Bancorporation, N.A. was brought against us in California state court in November 2021 and removed to federal court in the Southern District of California in January 2022. • In addition, two class action lawsuits, Evans v. CB&T, and Gregory, et. al. v. Zions Bancorporation , were settled in principle earlier in 2022. The parties to those cases are undertaking the procedural and administrative actions, including court approvals of the settlements, necessary to complete the settlements. There can be no assurance that the proposed settlements will receive court approvals or that the conditions to settlements will be met. If completed, these settlements are not expected to have a significant financial impact on the Bank. 72 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At least quarterly, we review outstanding and new legal matters, utilizing then available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at September 30, 2022, we estimated that the aggregate range of reasonably possible losses for those matters to be from $ 0 million to roughly $ 10 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments and actual outcomes will differ from our estimates. These differences may be material. 11. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which was approximately 78 % of our total revenue in the third quarter of 2022. Only noninterest income is considered to be revenue from contracts with customers in scope of ASC 606. For more information about our revenue recognition from contracts, see Note 17 of our 2021 Form 10-K. 73 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Disaggregation of Revenue The schedule below presents net revenue by our operating business segments for the three months ended September 30, 2022 and 2021. Certain prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 13 $ 12 $ 7 $ 7 $ 12 $ 10 Card fees 14 15 5 4 8 8 Retail and business banking fees 5 6 3 3 4 4 Capital markets and foreign exchange fees — — — — — — Wealth management fees 5 5 1 2 4 3 Other customer-related fees 2 2 2 1 2 2 Total noninterest income from contracts with customers (ASC 606) 39 40 18 17 30 27 Other noninterest income (non-ASC 606 customer-related) 4 4 9 6 11 10 Total customer-related noninterest income 43 44 27 23 41 37 Other noncustomer-related noninterest income 1 ( 1 ) 1 2 — — Total noninterest income 44 43 28 25 41 37 Net interest income 197 161 154 135 137 117 Total net revenue $ 241 $ 204 $ 182 $ 160 $ 178 $ 154 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 2 $ 2 $ 3 $ 3 $ 2 $ 2 Card fees 4 3 4 3 2 2 Retail and business banking fees 2 2 3 3 1 1 Capital markets and foreign exchange fees — — — — — — Wealth management fees 1 1 1 1 — — Other customer-related fees — — — — 1 1 Total noninterest income from contracts with customers (ASC 606) 9 8 11 10 6 6 Other noninterest income (non-ASC 606 customer-related) 2 4 1 3 2 2 Total customer-related noninterest income 11 12 12 13 8 8 Other noncustomer-related noninterest income 1 1 — — — — Total noninterest income 12 13 12 13 8 8 Net interest income 64 50 50 38 41 34 Total net revenue $ 76 $ 63 $ 62 $ 51 $ 49 $ 42 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 1 $ 1 $ — $ ( 3 ) $ 40 $ 34 Card fees — — 1 — 38 35 Retail and business banking fees — — ( 1 ) 1 17 20 Capital markets and foreign exchange fees — — 1 1 1 1 Wealth management fees — — — — 12 12 Other customer-related fees — — 8 8 15 14 Total noninterest income from contracts with customers (ASC 606) 1 1 9 7 123 116 Other noninterest income (non-ASC 606 customer-related) 1 — 3 6 33 35 Total customer-related noninterest income 2 1 12 13 156 151 Other noncustomer-related noninterest income — — 6 ( 14 ) 9 ( 12 ) Total noninterest income 2 1 18 ( 1 ) 165 139 Net interest income 17 12 3 8 663 555 Total net revenue $ 19 $ 13 $ 21 $ 7 $ 828 $ 694 74 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the noninterest income and net revenue by operating segments for the nine months ended September 30, 2022 and 2021: Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 40 $ 34 $ 21 $ 19 $ 33 $ 30 Card fees 41 42 15 12 24 21 Retail and business banking fees 17 17 10 9 12 11 Capital markets and foreign exchange fees — — — — — — Wealth management fees 17 15 3 3 12 9 Other customer-related fees 6 5 4 3 5 5 Total noninterest income from contracts with customers (ASC 606) 121 113 53 46 86 76 Other noninterest income (non-ASC 606 customer-related) 15 16 23 24 33 27 Total customer-related noninterest income 136 129 76 70 119 103 Other noncustomer-related noninterest income 3 ( 1 ) 3 4 — 1 Total noninterest income 139 128 79 74 119 104 Net interest income 523 476 425 398 369 348 Total net revenue $ 662 $ 604 $ 504 $ 472 $ 488 $ 452 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 7 $ 5 $ 8 $ 7 $ 6 $ 5 Card fees 11 8 11 9 7 5 Retail and business banking fees 7 7 8 8 3 3 Capital markets and foreign exchange fees — — — — — — Wealth management fees 2 2 4 3 1 1 Other customer-related fees 1 1 1 — 2 2 Total noninterest income from contracts with customers (ASC 606) 28 23 32 27 19 16 Other noninterest income (non-ASC 606 customer-related) 4 10 5 11 5 8 Total customer-related noninterest income 32 33 37 38 24 24 Other noncustomer-related noninterest income 2 2 — — — — Total noninterest income 34 35 37 38 24 24 Net interest income 170 154 126 111 109 102 Total net revenue $ 204 $ 189 $ 163 $ 149 $ 133 $ 126 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 Commercial account fees $ 1 $ 1 $ 2 $ ( 1 ) $ 118 $ 100 Card fees 1 1 — — 110 98 Retail and business banking fees — — ( 1 ) — 56 55 Capital markets and foreign exchange fees — — 3 4 3 4 Wealth management fees — — — 1 39 34 Other customer-related fees 1 1 25 21 45 38 Total noninterest income from contracts with customers (ASC 606) 3 3 29 25 371 329 Other noninterest income (non-ASC 606 customer-related) 2 1 3 ( 3 ) 90 94 Total customer-related noninterest income 5 4 32 22 461 423 Other noncustomer-related noninterest income — — 10 84 18 90 Total noninterest income 5 4 42 106 479 513 Net interest income 46 40 32 26 1,800 1,655 Total net revenue $ 51 $ 44 $ 74 $ 132 $ 2,279 $ 2,168 75 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is typically not significant. 12. INCOME TAXES The effective income tax rate was 21.9 % for the third quarter of 2022, compared with 22.8 % for the same prior year period. The effective tax rates for the first nine months of 2022 and 2021 were 21.4 % and 22.2 %, respectively. These rates were reduced by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the non-deductibility of Federal Deposit Insurance Corporation (“FDIC”) premiums, certain executive compensation plans, and other fringe benefits. The tax rate for 2022 was lower than the tax rate for the same prior year period, primarily as a result of the proportional increase in nontaxable items and tax credits relative to pre-tax book income. At September 30, 2022, we had a net deferred tax asset (“DTA”) totaling $ 1.1 billion , compared with $ 96 million at December 31, 2021. On the consolidated balance sheet, the net DTA is included in “Other assets.” The increase in the net DTA was driven largely by the increase in unrealized losses in AOCI associated with investment securities and derivative instruments. There was no valuation allowance at September 30, 2022 or December 31, 2021. We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more-likely-than-not criteria that such assets will be realized. This evaluation includes, but is not limited to (1) available carryback potential to prior tax years; (2) potential future reversals of existing deferred tax liabilities, which historically have a reversal pattern generally consistent with DTAs; (3) potential tax planning strategies; and (4) future projected taxable income. Based on this evaluation, we concluded that a valuation allowance was not required at September 30, 2022. 13. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: Three Months Ended September 30, Nine Months Ended September 30, (In millions, except shares and per share amounts) 2022 2021 2022 2021 Basic: Net income $ 217 $ 240 $ 623 $ 916 Less common and preferred dividends 68 68 199 197 Less impact from redemption of preferred stock — — — 3 Undistributed earnings 149 172 424 716 Less undistributed earnings applicable to nonvested shares 1 1 4 6 Undistributed earnings applicable to common shares 148 171 420 710 Distributed earnings applicable to common shares 61 61 176 172 Total earnings applicable to common shares $ 209 $ 232 $ 596 $ 882 Weighted average common shares outstanding (in thousands) 149,628 160,221 150,510 162,159 Net earnings per common share $ 1.40 $ 1.45 $ 3.96 $ 5.44 Dilut Total earnings applicable to common shares $ 209 $ 232 $ 596 $ 882 Weighted average common shares outstanding (in thousands) 149,628 160,221 150,510 162,159 Dilutive effect of stock options (in thousands) 164 259 256 301 Weighted average diluted common shares outstanding (in thousands) 149,792 160,480 150,766 162,460 Net earnings per common share $ 1.40 $ 1.45 $ 3.96 $ 5.43 76 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per sh Three Months Ended September 30, Nine Months Ended September 30, (In thousands) 2022 2021 2022 2021 Restricted stock and restricted stock units 1,245 1,358 1,274 1,382 Stock options 305 294 170 227 14. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, California Bank & Trust, Amegy Bank, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. The operating segment identified as “Other” includes certain non-bank financial service subsidiaries, centralized back-office functions, and eliminations of transactions between segments. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal funds transfer pricing (“FTP”) allocation system and process to report results of operations for business segments, which is continually refined. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. At September 30, 2022, Zions Bank operated 95 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. CB&T operated 80 branches in California. Amegy operated 75 branches in Texas. NBAZ operated 56 branches in Arizona. NSB operated 46 branches in Nevada. Vectra operated 34 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. In July 2022, NSB completed the purchase of three Northern Nevada branches and their associated deposit, credit card, and loan accounts. We acquired approximately $ 430 million in deposits and $ 95 million in commercial and consumer loans at the time of the purchase. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. 77 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the three months ended September 30, 2022 and 2021: Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 197 $ 161 $ 154 $ 135 $ 137 $ 117 Provision for credit losses 35 ( 10 ) 19 ( 12 ) 15 ( 10 ) Net interest income after provision for credit losses 162 171 135 147 122 127 Noninterest income 44 43 28 25 41 37 Noninterest expense 125 115 86 77 90 83 Income (loss) before income taxes $ 81 $ 99 $ 77 $ 95 $ 73 $ 81 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 13,448 $ 12,985 $ 13,100 $ 12,672 $ 12,176 $ 11,865 Total average deposits 23,634 24,399 16,096 15,900 15,531 15,925 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 64 $ 50 $ 50 $ 38 $ 41 $ 34 Provision for credit losses — ( 5 ) 1 ( 5 ) 2 ( 4 ) Net interest income after provision for credit losses 64 55 49 43 39 38 Noninterest income 12 13 12 13 8 8 Noninterest expense 44 38 39 34 31 28 Income (loss) before income taxes $ 32 $ 30 $ 22 $ 22 $ 16 $ 18 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 4,913 $ 4,689 $ 3,052 $ 2,892 $ 3,722 $ 3,339 Total average deposits 8,090 7,259 7,479 6,870 4,100 4,362 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 17 $ 12 $ 3 $ 8 $ 663 $ 555 Provision for credit losses — 1 ( 1 ) ( 1 ) 71 ( 46 ) Net interest income after provision for credit losses 17 11 4 9 592 601 Noninterest income 2 1 18 ( 1 ) 165 139 Noninterest expense 6 5 58 49 479 429 Income (loss) before income taxes $ 13 $ 7 $ ( 36 ) $ ( 41 ) $ 278 $ 311 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,633 $ 1,542 $ 909 $ 867 $ 52,953 $ 50,851 Total average deposits 1,585 1,552 948 1,144 77,463 77,411 78 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the nine months ended September 30, 2022 and 2021: Zions Bank CB&T Amegy (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 523 $ 476 $ 425 $ 398 $ 369 $ 348 Provision for credit losses 35 ( 29 ) 40 ( 81 ) ( 7 ) ( 108 ) Net interest income after provision for credit losses 488 505 385 479 376 456 Noninterest income 139 128 79 74 119 104 Noninterest expense 373 346 254 233 264 251 Income (loss) before income taxes $ 254 $ 287 $ 210 $ 320 $ 231 $ 309 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 13,130 $ 13,318 $ 12,948 $ 12,924 $ 11,970 $ 12,337 Total average deposits 24,920 23,001 16,407 15,564 16,062 15,179 NBAZ NSB Vectra (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 170 $ 154 $ 126 $ 111 $ 109 $ 102 Provision for credit losses 2 ( 29 ) 1 ( 35 ) 8 ( 15 ) Net interest income after provision for credit losses 168 183 125 146 101 117 Noninterest income 34 35 37 38 24 24 Noninterest expense 125 112 113 106 90 85 Income (loss) before income taxes $ 77 $ 106 $ 49 $ 78 $ 35 $ 56 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 4,859 $ 4,914 $ 2,929 $ 3,085 $ 3,550 $ 3,422 Total average deposits 8,164 6,949 7,487 6,500 4,195 4,344 TCBW Other Consolidated Bank (In millions) 2022 2021 2022 2021 2022 2021 SELECTED INCOME STATEMENT DATA Net interest income $ 46 $ 40 $ 32 $ 26 $ 1,800 $ 1,655 Provision for credit losses — ( 3 ) — ( 1 ) 79 ( 301 ) Net interest income after provision for credit losses 46 43 32 27 1,721 1,956 Noninterest income 5 4 42 106 479 513 Noninterest expense 18 16 170 143 1,407 1,292 Income (loss) before income taxes $ 33 $ 31 $ ( 96 ) $ ( 10 ) $ 793 $ 1,177 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,601 $ 1,573 $ 910 $ 845 $ 51,897 $ 52,418 Total average deposits 1,571 1,484 1,164 1,500 79,970 74,521 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Interest rate and market risks are among the most significant risks regularly undertaken by us, and they are closely monitored as previously discussed. A discussion regarding our management of interest rate and market risk is included in the section entitled “Interest Rate and Market Risk Management” in this Form 10-Q. 79 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 4. CONTROLS AND PROCEDURES Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures at September 30, 2022. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at September 30, 2022. There were no changes in our internal control over financial reporting during the third quarter of 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The information contained in Note 10 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 1A. RISK FACTORS The following risk factors supplement the risk factors disclosed in our 2021 Form 10-K. We could be negatively affected by adverse economic conditions Adverse economic conditions pose significant risks to our business, including our loan and investment portfolios, capital levels, results of operations, and financial condition. Increasing indicators of a slowing economy including negative GDP growth, rising interest rates, increased volatility in the financial markets, and uncertainty related to inflationary pressures, including related changes in monetary policies and actions, can increase these risks and lead to lower demand for loans, higher credit losses, decreased values for our investment securities, and lower fee income, among other negative effects. The Russian invasion of Ukraine and the retaliatory measures imposed by the U.S., U.K., European Union, and other countries, and the responses of Russia to such measures, have caused significant disruptions to domestic and foreign economies. The Russia and Ukraine conflict has created new risks for global markets, trade, economic conditions, cybersecurity, and similar concerns. For example, the conflict could affect the availability and price of commodities and products, adversely affecting supply chains and increasing inflationary pressures; the value of currencies, interest rates, and other components of financial markets; and lead to increased risks of events such as cyberattacks that could result in severe costs and disruptions to governmental entities and companies and their operations. The impact of the conflict and retaliatory measures is continually evolving and cannot be predicted with certainty. It is likely that the conflict will continue to affect the global political order and global and domestic markets for a substantial period of time, regardless of when the conflict itself ends. While these events have not materially interrupted our operations, these or future developments resulting from the Russia and Ukraine conflict, such as cyberattacks on the U.S., us, our customers, or our suppliers, could make it difficult to conduct business activities for us, our customers, or our vendors. 80 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS The following schedule summarizes our share repurchases for the third quarter of 2022: SHARE REPURCHASES Period Total number of shares repurchased 1 Average price paid per share Total number of shares purchased as part of publicly announced plans or programs July — $ — — August 888,092 56.30 888,092 September — — — Third quarter 888,092 56.30 888,092 1 Includes common shares acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options under provisions of an employee share-based compensation plan . ITEM 6. EXHIBITS a. Exhibits Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 10.1 Ninth Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, effective April 1, 2022 (filed herewith). 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in Inline XBRL (i) the Consolidated Balance Sheets as of September 30, 2022 and December 31, 2021, (ii) the Consolidated Statements of Income for the three months ended September 30, 2022 and September 30, 2021 and the nine months ended September 30, 2022 and September 30, 2021, (iii) the Consolidated Statements of Comprehensive Income for the three months ended September 30, 2022 and September 30, 2021 and the nine months ended September 30, 2022 and September 30, 2021, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the three months ended September 30, 2022 and September 30, 2021 and the nine months ended September 30, 2022 and September 30, 2021, (v) the Consolidated Statements of Cash Flows for the nine months ended September 30, 2022 and September 30, 2021, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Quarterly Report on Form 10-Q, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. 81 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZIONS BANCORPORATION, NATIONAL ASSOCIATION /s/ Harris H. Simmons Harris H. Simmons, Chairman and Chief Executive Officer /s/ Paul E. Burdiss Paul E. Burdiss, Executive Vice President and Chief Financial Officer Date: November 3, 2022 82 |
ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses FINRA Financial Industry Regulatory Authority AFS Available-for-Sale Fintech Financial Technology Company ALCO Asset/Liability Committee FRB Federal Reserve Board ALLL Allowance for Loan and Lease Losses FTP Funds Transfer Pricing Amegy Amegy Bank, a division of Zions Bancorporation, National Association GAAP Generally Accepted Accounting Principles AMERIBOR American Interbank Offered Rate HECL Home Equity Credit Line AOCI Accumulated Other Comprehensive Income HTM Held-to-Maturity ASC Accounting Standards Codification IPO Initial Public Offering ASU Accounting Standards Update IRS Internal Revenue Service ATM Automated Teller Machine ISDA International Swaps and Derivative Association BOLI Bank-Owned Life Insurance KBW Keefe, Bruyette & Woods, Inc. bps Basis Points KRX KBW Regional Bank Index BSBY Bloomberg Short-Term Bank Yield LIBOR London Interbank Offered Rate CB&T California Bank & Trust, a division of Zions Bancorporation, National Association MD&A Management’s Discussion and Analysis CCAR Comprehensive Capital Analysis and Review Municipalities State and Local Governments CECL Current Expected Credit Loss NASDAQ National Association of Securities Dealers Automated Quotations CET1 Common Equity Tier 1 (Basel III) NAV Net Asset Value CFPB Consumer Financial Protection Bureau NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association CLTV Combined Loan-to-Value Ratio NIM Net Interest Margin CMC Capital Management Committee NM Not Meaningful CMT Constant Maturity Treasury NSB Nevada State Bank, a division of Zions Bancorporation, National Association COSO Committee of Sponsoring Organizations of the Treadway Commission OCC Office of the Comptroller of the Currency CRA Community Reinvestment Act OCI Other Comprehensive Income CRE Commercial Real Estate OREO Other Real Estate Owned CSA Credit Support Annex PCAOB Public Company Accounting Oversight Board CSV Cash Surrender Value PEI Private Equity Investment CVA Credit Valuation Adjustment PPNR Pre-provision Net Revenue Dodd-Frank Act Dodd-Frank Wall Street Reform and Consumer Protection Act PPP Paycheck Protection Program DTA Deferred Tax Asset ROC Risk Oversight Committee DTL Deferred Tax Liability ROU Right-of-Use EaR Earnings at Risk RULC Reserve for Unfunded Lending Commitments EPS Earnings per Share S&P Standard and Poor's ERM Enterprise Risk Management SBA U.S. Small Business Administration ERMC Enterprise Risk Management Committee SBIC Small Business Investment Company ESG Environmental, Social, and Governance SEC Securities and Exchange Commission ETO Enterprise and Technology Operations SOFR Secured Overnight Financing Rate EVE Economic Value of Equity at Risk TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association FAMC Federal Agricultural Mortgage Corporation, or “Farmer Mac” TDR Troubled Debt Restructuring FASB Financial Accounting Standards Board U.S. United States FCA Financial Conduct Authority USD United States Dollar FDIC Federal Deposit Insurance Corporation Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association FDICIA Federal Deposit Insurance Corporation Improvement Act VIE Variable Interest Entity FHLB Federal Home Loan Bank Zions Bank Zions Bank, a division of Zions Bancorporation, National Association 3 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES PART I FORWARD-LOOKING INFORMATION This annual report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. These forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although this list is not comprehensive, important factors that may cause material differences include the quality and composition of our loan and securities portfolios; changes in general industry and economic conditions, including inflation, economic slowdown, or other economic disruptions; changes in interest and reference rates; securities and capital markets behavior, including volatility and changes in market liquidity and our ability to raise capital; our ability to recruit and retain talent, including increased competition for qualified candidates as a result of expanded remote-work opportunities and increased compensation expenses; competitive pressures and other factors that may affect aspects of our business, such as pricing and demand for our products and services; our ability to complete projects and initiatives and execute on our strategic plans, manage our risks, and achieve our business objectives; our ability to provide adequate oversight of our suppliers or prevent inadequate performance by third parties upon whom we rely for the delivery of various products and services; our ability to develop and maintain technology, information security systems and controls designed to guard against fraud, cybersecurity, and privacy risks; changes and uncertainties in applicable laws, and fiscal, monetary, regulatory, trade, and tax policies; adverse media and other expressions of negative public opinion that may adversely affect our reputation and that of the banking industry generally; the effects of pandemics and other health emergencies, including the lingering effects of the COVID-19 pandemic that may affect our business, employees, customers, and communities, such as ongoing effects on availability and cost of labor; the effects of wars and geopolitical conflicts, and other local, national, or international disasters, crises, or conflicts that may occur in the future; natural disasters that may impact our and our customer's operations and business; and governmental and social responses to environmental, social, and governance issues, including those with respect to climate change. We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any of the forward-looking statements included herein to reflect future events or developments. ITEM 1. BUSINESS DESCRIPTION OF BUSINESS Zions Bancorporation, National Association (“Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) is a bank headquartered in Salt Lake City, Utah with annual net revenue (net interest income and noninterest income) of $3.2 billion in 2022, and total assets of approximately $90 billion at December 31, 2022. We provide a wide range of banking products and related services, primarily in the states of Arizona, California, Colorado, Idaho, Nevada, New Mexico, Oregon, Texas, Utah, Washington, and Wyoming. We had more than one million customers at year- 4 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES end 2022, served by 416 branches and various online, mobile, and digital offerings. We had 9,989 full-time equivalent employees at December 31, 2022. We conduct our operations primarily through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These affiliate banks comprise our primary business segments as referred to throughout this document. We emphasize local authority, responsibility, pricing, and customization of certain products that are designed to maximize customer satisfaction and strengthen community relations. Our affiliate banks are supported by an enterprise operating segment (referred to as the “Other” segment) that provides governance and risk management, allocates capital, establishes strategic objectives, and includes centralized technology, back-office functions, and certain lines of business not operated through our affiliate banks. For further information about our segments, see “Business Segment Results” on page 38 in Management's Discussion and Analysis (“MD&A”) and Note 22 of the Notes to Consolidated Financial Statements. We focus on serving our customers and communities. Our experienced bankers develop long-lasting relationships with our customers by providing competitive products and award-winning service. Building and sustaining these relationships is essential to understanding and meeting our customers’ needs. PRODUCTS AND SERVICES Some of the products and services we provide inclu • Commercial and small business banking. We serve a wide range of commercial customers, generally small- and medium-sized businesses. Products and services within our commercial business banking inclu ◦ Commercial and industrial lending and leasing ◦ Municipal and public finance services ◦ Cash management services ◦ Commercial card and merchant processing services ◦ Capital markets, syndication, and foreign exchange services • Commercial real estate lending. We provide lending products secured by commercial real estate to borrowers that inclu ◦ Owner-occupied, construction and land development, and term financing ◦ Residential development financing • Retail banking. We have a strong retail banking business with quality products and highly competitive online and mobile offerings. Our retail banking products and services inclu ◦ Residential mortgages ◦ Home equity lines of credit ◦ Personal lines of credit and installment consumer loans ◦ Depository account services ◦ Consumer cards ◦ Personal trust services • Wealth management. We offer various wealth management solutions to customers. Our planning-driven offerings, combined with high-touch service and sophisticated asset management capabilities, have resulted in continued growth in assets under management. Additional offerings to our wealth management customers inclu ◦ Investment management services ◦ Fiduciary and estate services ◦ Advanced business succession and estate planning services 5 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES COMPETITION We operate in a highly competitive environment. Our most direct competition for loans, deposits, and other banking services comes from other commercial banks, credit unions, and financial technology companies (“fintechs”). Some of these financial institutions do not have a physical presence in our market footprint, but solicit business via the internet and other means. We also compete with finance companies, mutual fund companies, insurance companies, brokerage firms, securities dealers, investment banking companies, other nontraditional lending and banking companies, and a variety of other types of companies. Some of our competitors may have fewer regulatory constraints, and some have lower cost structures or tax burdens. Our key differentiators include the quality of service delivered, our local community knowledge, convenience of branch and office locations, mobile and online banking functionality and other delivery methods, a wide range of products and services offered, and the overall relationship with our customers. We strive to compete effectively in all of these areas to remain successful. SUPERVISION AND REGULATION The banking and financial services business in which we engage is highly regulated. Such regulation is intended to promote the stability of banking and financial companies and to protect the interests of customers, depositors, and communities. In some cases, these regulations may not be aligned with, or intended to protect, the interests of our shareholders or creditors. Banking laws and regulations have given financial regulators expanded powers over many aspects of the financial services industry, which have reduced, and may continue to reduce, returns earned by shareholders. Furthermore, changes in applicable laws or regulations, and in their application by regulatory agencies cannot be predicted and may have a material effect on our business and results. General We are subject to the provisions of the National Bank Act and other statutes governing national banks, as well as the rules and regulations of the Office of the Comptroller of the Currency (“OCC”), the Consumer Financial Protection Bureau (“CFPB”), and the Federal Deposit Insurance Corporation (“FDIC”). We, as well as some of our subsidiaries, are also subject to regulation by other federal and state agencies. These regulatory agencies may exert considerable influence over our activities through their supervisory and examination roles. Our brokerage and investment advisory subsidiaries are regulated by the Securities and Exchange Commission (“SEC”), Financial Industry Regulatory Authority (“FINRA”), and state securities regulators. The National Bank Act Our corporate affairs are governed by the National Bank Act, and related regulations are administered by the OCC. With respect to securities matters, we are not subject to the Securities Act, but are subject to OCC regulations governing securities offerings. Our common stock and certain other securities are registered under the Exchange Act, which vests the OCC with the power to administer and enforce certain sections of the Exchange Act applicable to national banks, though we continue to make filings required by the Exchange Act with the SEC as a voluntary filer. These statutory and regulatory frameworks are not as well-developed as the corporate and securities law frameworks applicable to many other publicly held companies. The National Bank Act provides that under certain circumstances the common stock of a national bank is assessable, i.e., holders may be subject to a levy for more funds if so determined by the OCC. The OCC has confirmed that under the applicable provisions of the National Bank Act, assessability is limited to the par value of a national bank’s stock. Our common stock has a par value of $0.001. In addition, according to the OCC, it has not exercised its authority to levy assessments since 1933 and views the assessability authority as a mechanism for addressing capital deficiency that has long been overtaken by developments in statute and regulation, including supervisory and enforcement authorities requiring an institution to maintain capital at a particular level. Capital Standards – Basel Framework At December 31, 2022, we exceeded all capital adequacy requirements under the Basel III capital rules, which include certain risk-based capital and leverage ratio requirements prescribed by the OCC. The Basel III capital rules 6 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES define the components of capital and other factors, such as risk weights, affecting banking institutions’ regulatory capital ratios. The Basel III capital rules require us to maintain certain minimum capital ratios, as well as a 2.5% “capital conservation buffer,” which is designed to absorb losses during periods of economic stress, composed entirely of common equity Tier 1 (“CET1”), and in excess of the minimum risk-based capital ratios. The following schedule presents minimum capital ratio and capital conservation buffer requirements, compared with our capital ratios at December 31, 2022. Schedule 1 MINIMUM CAPITAL RATIO AND CAPITAL CONSERVATION BUFFER REQUIREMENTS December 31, 2022 Minimum capital requirement Capital conservation buffer Minimum capital ratio requirement with capital conservation buffer Current capital ratio CET1 to risk-weighted assets 4.5 % 2.5 % 7.0 % 9.8 % Tier 1 capital (i.e., CET1 plus additional Tier 1 capital) to risk-weighted assets 6.0 2.5 8.5 10.5 Total capital (i.e., Tier 1 capital plus Tier 2 capital) to risk-weighted assets 8.0 2.5 10.5 12.2 Tier 1 capital to average consolidated assets (known as the “Tier 1 leverage ratio”) 4.0 N/A 4.0 7.7 Financial institutions with a ratio of CET1 to risk-weighted assets above the minimum, but below the capital conservation buffer, face constraints on dividends, equity repurchases, and compensation based on the amount of the shortfall. The severity of the constraint depends on the amount of the shortfall and the institution’s “eligible retained income,” which is defined as four quarters of trailing net income, net of distributions and associated tax effects not already reflected in net income. For information about our capital ratios, see “Capital Management” on page 65 in MD&A. Capital Planning and Stress Testing We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions. Our recent internal stress test included hypothetical scenarios that reflected (1) high inflation, (2) increased losses on commercial loans due to inflation and supply chain disruptions, (3) declining commercial property values, (4) increased losses on consumer loans due to falling home prices, (5) rising unemployment, and (6) other current economic, financial, and social disruptions. The results of our stress test indicated that we would maintain capital ratios in excess of regulatory minimum and capital conservation buffer requirements throughout the nine-quarter horizon for the hypothetical stress test. Regulations promulgated under the Dodd-Frank Act require many banks to adhere to an annual Comprehensive Capital Analysis and Review (“CCAR”) process and stress testing administered by the Federal Reserve Board (“FRB”). We are not regulated by the FRB and therefore are not subject to this process. However, we use the FRB’s CCAR process, including published economic scenarios, to inform our stress testing activities. Liquidity We manage liquidity in accordance with Basel III liquidity requirements, and we utilize internal liquidity stress tests as our primary tool for establishing and managing liquidity guidelines including, but not limited to, holdings of investment securities and other liquid assets, levels of readily available contingency funding, concentrations of funding sources, and the maturity profile of liabilities. During the recent pandemic, our liquidity profile benefited from a significant influx of deposits, which was impacted by certain fiscal and monetary policy decisions. In 2022, with the withdrawal of such measures by the federal government, our deposit levels decreased; however, our liquidity profile remained above regulatory and internal Bank limits. We continue to actively manage our deposit base and associated deposit costs in response to the rising interest rate environment. 7 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Financial Privacy and Cybersecurity The federal banking regulators have enacted rules that limit the ability of banks and other financial institutions to disclose nonpublic information about consumers to unaffiliated third parties, including provisions of the Gramm-Leach-Bliley Act, which require financial institutions to disclose privacy policies to consumers and, in some circumstances, allow consumers to prevent disclosure of certain personal information to an unaffiliated third party. These regulations affect how consumer information is transmitted through diversified financial companies and conveyed to outside vendors. In addition, consumers may also prevent disclosure of certain information among affiliated companies that is assembled or used to determine eligibility for a product or service, such as that shown on consumer credit reports and asset and income information from applications. Consumers also have the option to direct banks and other financial institutions not to share information about transactions and experiences with affiliated companies for the purpose of marketing products or services. Federal law makes it a criminal offense, except in limited circumstances, to obtain or attempt to obtain customer information of a financial nature by fraudulent or deceptive means. State regulators have been increasingly active in implementing privacy and cybersecurity standards and regulations. During the past several years, a growing number of states, including those in which we conduct business, have enacted, or are considering enacting, regulations granting consumers enhanced privacy rights and control over personal information, establishing or modifying data breach notification requirements, and requiring certain financial institutions to implement detailed and prescriptive cybersecurity programs. Data and cybersecurity laws and regulations are evolving rapidly and remain a focus of state and federal regulators. For example, in 2022, the SEC proposed new cybersecurity disclosure rules for public companies. If the proposed rules are adopted, they may require changes in the way such companies disclose material cybersecurity events. These evolving laws and rules will continue to have an impact on our risk management practices. Prompt Corrective Action The Federal Deposit Insurance Corporation Improvement Act (“FDICIA”) requires each federal banking agency to take prompt corrective action to resolve identified problems of insured depository institutions, including, but not limited to, those that fall below one or more prescribed minimum capital ratios. Pursuant to FDICIA, the FDIC promulgated regulations defining the following five categories in which an insured depository institution will be placed, based on the level of its capital ratios: well-capitalized, adequately capitalized, under-capitalized, significantly under-capitalized, and critically under-capitalized. Under the prompt corrective action provisions of FDICIA as modified by the Basel III capital rules, an insured depository institution will generally be classified as well-capitalized if it has a CET1 ratio of at least 6.5%, a Tier 1 risk-based capital ratio of at least 8%, a total risk-based capital ratio of at least 10%, and a Tier 1 leverage ratio of at least 5%. An insured depository institution will generally be classified as under-capitalized if it has a CET1 ratio less than 4.5%, a Tier 1 risk-based capital ratio less than 6%, a total risk-based capital ratio less than 8%, and a Tier 1 leverage ratio less than 4%. An institution that is classified as well-capitalized, adequately capitalized, or under-capitalized, may be treated as though it were in the next lower capital category if the appropriate federal banking agency, after notice and opportunity for hearing, determines that an unsafe or unsound condition or an unsafe or unsound practice warrants such treatment. At each successive lower capital category, an insured depository institution is subject to more restrictions and prohibitions, including restrictions on growth, interest rates paid on deposits, the acceptance of brokered deposits, and restrictions or prohibitions on the payment of dividends. Furthermore, if a bank is classified in one of the under-capitalized categories, it is required to submit a capital restoration plan to the federal banking regulator. 8 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Other Regulations We are subject to a wide range of other requirements and restrictions contained in both federal and state laws. These regulations include, but are not limited to, the followin • Limitations on dividends payable to shareholders. Our ability to pay dividends on both our common and preferred stock is subject to regulatory restrictions. See Note 15 of the Notes to Consolidated Financial Statements for additional information. • Safety and soundness standards prescribed in the FDICIA, including standards related to internal controls, information systems, internal audit, loan documentation, credit underwriting, interest rate exposure, asset growth and compensation, as well as other operational and management standards deemed appropriate by the federal banking agencies. • Requirements for approval of acquisitions and restrictions on other activities. The National Bank Act requires regulatory and shareholder approval of all mergers between a national bank and another national or state bank and does not allow for the direct merger into a national bank of an unaffiliated nonbank. See discussion under “Risk Factors.” Other laws and regulations governing national banks contain similar provisions concerning acquisitions and activities. • Limits on interchange fees imposed under the Dodd-Frank Act, including a set of rules requiring that interchange transaction fees for electronic debit transactions be reasonable and proportional to certain costs associated with processing the transactions. • Limitations on the dollar amount of loans made to a borrower and its affiliates. • Limitations on transactions with affiliates. • Restrictions on the nature and amount of any investments and ability to underwrite certain types of securities (e.g., common equity). • Requirements for opening and closing of branches. • A number of federal and state consumer protection laws, including fair lending and truth in lending requirements, to provide equal access to credit and to protect consumers in credit transactions. In addition, as a bank with $10 billion or more in assets, we are subject to examination and primary enforcement authority with respect to consumer financial laws by the CFPB, which has broad rule making, supervisory and enforcement powers under various federal consumer financial protection laws. • Community Reinvestment Act (“CRA”) requirements. The CRA requires banks to help serve the credit needs in their communities, including providing credit to low- and moderate-income individuals. If we fail to adequately serve our communities, penalties may be imposed including denials of applications to add branches, relocate, add subsidiaries and affiliates, and merge with or purchase other financial institutions. • Requirements regarding the time, manner, and form of compensation given to key executives and other personnel receiving incentive compensation, including requirements related to the SEC’s 2022 rule on pay versus performance disclosures. These restrictions include documentation and governance, deferral, risk-balancing, and clawback requirements. Any deficiencies in compensation practices may be incorporated into supervisory ratings, which can affect our ability to make acquisitions or engage in certain other activities, or could result in regulatory enforcement actions. • Anti-money laundering regulations. The Bank Secrecy Act, Title III of the Uniting and Strengthening of America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (“USA Patriot Act”), and other federal laws require financial institutions to assist United States (“U.S.”) government agencies in detecting and preventing money laundering and other illegal acts by maintaining policies, procedures and controls designed to detect and report money laundering, terrorist financing, and other suspicious activity. We are also subject to the Sarbanes-Oxley Act of 2002, certain provisions of the Dodd-Frank Act, and other federal and state laws and regulations which address, among other issues, corporate governance, auditing and accounting, internal controls over financial reporting, and enhanced and timely disclosure of corporate information. 9 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Environmental, social, and governance (“ESG”) standards and related concerns, including those related to global climate change, continue to evolve and have become more prominent in recent years. We are closely monitoring developments in standards published by ESG interest groups and organizations, as well as proposed regulatory initiatives and expectations relating to ESG issues. Although we believe the way we do business has been and is consistent with many of these standards and expectations, our ongoing monitoring enables us to enhance our business practices by incorporating ESG recommendations that we believe will benefit our investors, customers, employees, and communities. In addition to proposed and evolving rulemaking by federal regulators, such as the SEC’s 2022 proposed rule on climate-related disclosures, many states have adopted, or are considering, laws that address ESG issues. These laws may include provisions that conflict with other state and federal regulations and may increase our costs or limit our ability to conduct business in certain jurisdictions. We publish an annual Corporate Responsibility Report that provides a summary of how we address ESG issues. The report is available on our website. Corporate Governance Our Board of Directors (“Board”) has overseen management’s establishment of a comprehensive system of corporate governance and risk management practices. This system includes frameworks, policies, and guidelines such as the followin • Corporate Governance Guidelines; • A Code of Business Conduct and Ethics for Employees; • A Director's Code of Conduct; • A Risk Management Framework; • A Related Party Transaction Policy; • A Compensation Clawback Policy; • Stock Ownership and Retention Guidelines; • An Insider Trading Policy, including provisions prohibiting hedging and placing restrictions on the pledging of bank stock by insiders; and • Charters for our Executive, Audit, Risk Oversight, Compensation, and Nominating and Corporate Governance Committees. More information on our corporate governance practices is available on our website at zionsbancorporation.com. Our website is not part of this Form 10-K. HUMAN CAPITAL MANAGEMENT We are proud of our employees who bring their unique, diverse talents to work each day. We are committed to identifying, recognizing, and creating fulfilling opportunities for our employees, and rewarding them for their contributions to our success. The recent COVID-19 pandemic had a significant impact on how and where we work. We were successful in transitioning most of our employees to working remotely, and as the pandemic subsided and related treatments improved, we returned to more in-person collaboration while supporting certain flexible and remote work arrangements. We believe that in-person exchange of ideas and viewpoints, in both formal and informal settings, improves productivity and supports a strong corporate culture. During 2022, we continued to enhance certain benefits for our employees to adapt to the changing practices of the labor market. Recent changes include more flexibility with paid time off, more options with health care plans, and greater access to mental health benefits. We had 9,989 full-time equivalent employees December 31, 2022. The following schedule presents certain demographic attributes of our employees. 10 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 2 December 31, 2022 Women People of Color Disabled Veterans Employee Roles Management 52% 28% 12% 2% Non-management 61% 39% 12% 2% Overall 59% 37% 12% 2% The following objectives and initiatives are integral to our human capital management efforts: Cultivating a diverse, equitable, and inclusive environment for our employees, our customers, and the communities in which we operate We believe in an environment where people are respected and valued, and where individual and cultural differences are embraced. We also believe that our performance is stronger when we are able to draw upon the talents and experience of a diverse team of employees. We use analytics, recruiting outreach efforts, and manager training to reach a diverse, qualified group of potential applicants to secure a high-performing workforce drawn from all segments of society. To identify qualified candidates, our recruiting team partners with community organizations, schools, and governmental entities that support marginalized and underserved communities in our footprint. Our annual Corporate Responsibility Report, which is published on our website, highlights several achievements in this area, such as our Banker Development Program, which attracts and advances undergraduates and early career professionals. We have instituted enterprise-wide and affiliate diversity, equity, and inclusion councils; employee business forums; regional inclusion champions; mental health initiatives; and a broad range of employee and community events. Throughout the organization, employee business resource groups foster a sense of community and enable greater connectivity and support among employees through forum meetings and discussions, which are open to all employees and offer networking and initiatives that support our commitment to diversity, both internally and externally. Attracting, developing, and retaining talent for long-term success We are committed to (1) attracting, developing, and retaining the most qualified individuals who reflect the diversity of the available workforce and markets in which we operate, (2) helping our employees grow in their careers, and (3) actively building a pipeline of talent for future leadership opportunities. As we attract and hire talent, we proactively consider the demand for competencies that will be needed within the workforce of the future. We offer more than 2,000 virtual, in-person, expert-led, and pre-recorded or self-paced learning options for employees to create custom learning plans for personal and professional development. In 2022, we hosted more than 1,000 training experiences to support employees, build new skills, or to assist in career advancement. We offer new manager programs, tuition reimbursement, education sponsorship opportunities, job shadowing, coaching, and formal mentoring programs. Our talent development program and individual development plans focus on education, experience, and exposure to help create well-rounded and successful employees. We are also mindful of the increasing competition for talent in the labor market. We experienced greater challenges in the recent past in filling certain job openings relative to when labor market conditions were more balanced, but we began to see improvement in 2022. We continue to analyze relevant metrics related to employee recruiting and turnover, which has and will continue to impact wages and flexible work arrangements. Recognizing, engaging, and rewarding our employees Our comprehensive rewards and recognition programs are designed to reward high performance, improve retention, and enhance the employee experience through recognition and growth opportunities. We provide meaningful upside 11 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES opportunities for those who take accountability for business objectives that help us deliver superior results while reducing risk. We routinely assess pay equity among employees across our organization by analyzing potential disparities in pay based on gender, minority status, and other factors. These actions help us compensate employees fairly. On a biennial basis, we enlist the services of an independent third party to review our pay equity. Results of the most recent review revealed that after adjusting for relevant variables such as education, experience, performance, and geography, there were no meaningful differences in pay levels among men, women, and people of color. We remain committed to fair and equitable compensation for all our employees. Our employees provide regular feedback through enterprise outreach and engagement forums, which include quarterly leadership calls, biannual employee opinion surveys, and targeted focus groups. These forums for employee input continue to help strengthen working relationships with managers, improve clarity of organizational purpose and goals, and reinforce our Guiding Principles and Code of Business Conduct and Ethics. We value work-life balance and strive to create a work environment that supports our employees with mental, physical, social, and financial wellness. Some of our key benefits include the followin • Corporate match for our 401(k) plan of 4.5% of an employee’s salary and incentive compensation; • Annual profit-sharing contributions; • Health care plan options including behavioral health, wellness, and autism spectrum disorder services; • Expanded mental health coverage, including coaching and clinical therapy sessions; • Preventive prescription drug coverage not subject to deductibles; • Paid parental leave program; • Adoption assistance program; and • Paid time off for various community service activities and other volunteer opportunities. ITEM 1A. RISK FACTORS We generate revenue and grow our businesses by taking prudent and appropriately priced and managed risks. These risks are outlined in our Risk Management Framework. Our Board has established an Audit Committee, a Compensation Committee, a Risk Oversight Committee (“ROC”), and appointed an Enterprise Risk Management Committee (“ERMC”) to oversee and implement the Risk Management Framework. The ERMC is comprised of senior management and is chaired by the Chief Risk Officer. These committees monitor the following risk areas: credit risk, interest rate and market risk; liquidity risk; strategic and business risk; operational risk; technology risk; cybersecurity risk; capital/financial reporting risk; legal/compliance risk (including regulatory risk); and reputational risk, as outlined in our risk taxonomy. We have developed policies, procedures, and controls designed to address these risks, but there can be no certainty that our actions will be effective to prevent or limit the effects of these risks on our business or performance. Although not comprehensive, risk factors that are material to us are described below. CREDIT RISK Credit quality has adversely affected us in the past and may adversely affect us in the future. Credit risk is one of our most significant risks. Rising interest rates, increased market volatility, or a decline in the strength of the U.S. economy in general or the local economies in which we conduct operations could result in, among other things, deterioration in credit quality and reduced demand for credit, including a resultant adverse effect on the income from our loan and investment portfolios, an increase in charge-offs, and an increase in the allowance for credit losses (“ACL”). 12 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES We have concentration of risk from counterparties and risk in our loan portfolio, including, but not limited to, loans secured by real estate, oil and gas-related lending, and leveraged and enterprise value lending, which may have unique risk characteristics that may adversely affect our results. Concentrations of risk from counterparties could adversely affect us, and risk across our loan and investment securities portfolios could pose significant additional credit risk to us due to similar exposures between the two asset types. Counterparty risk arising from derivative or securities financing transactions could also pose additional credit risk. We engage in commercial real estate (“CRE”) term and construction lending, primarily in our Western states footprint. We also engage in oil and gas-related lending, primarily in Texas, and we provide leveraged and enterprise value loans across our entire footprint. These loan types may be subject to specific risks, including governmental and social responses to environmental issues and climate change, volatility, and potential significant and prolonged declines in collateral-values and activity levels. We may have other unidentified risks in our loan portfolio. Our business is highly correlated to local economic conditions in a specific geographic region of the U.S. We provide a wide range of banking products and related services through our local management teams and unique brands in Arizona, California, Colorado, Idaho, Nevada, New Mexico, Oregon, Texas, Utah, Washington, and Wyoming. At December 31, 2022, loan balances associated with our banking operations in Utah/Idaho, Texas, and California comprised 77%, 71%, and 70% of the commercial, CRE, and consumer lending portfolios, respectively. As a result of this geographic concentration, our financial performance depends largely upon economic conditions in these market areas. Accordingly, deterioration in economic conditions, such as that caused by climate change or natural disasters, may specifically affect these states, and could result in higher credit losses and significantly affect our consolidated operations and financial results. For information about our lending exposure to various industries and how we manage credit risk, see “Credit Risk Management” on page 49 in MD&A. INTEREST RATE AND MARKET RISK We could be negatively affected by adverse economic conditions. Adverse economic conditions pose significant risks to our business, including our loan and investment portfolios, capital levels, results of operations, and financial condition. A slowing economy and uncertainty related to inflationary pressures, including related changes in monetary policies and actions, rising interest rates, and decreased values of our fixed-rate assets, can increase these risks and lead to lower demand for loans, higher credit losses, and lower fee income, among other negative effects. Failure to effectively manage our interest rate risk could adversely affect our results. Net interest income is the largest component of our revenue. Interest rate risk is managed by our Asset Liability Management Committee. Factors beyond our control can significantly influence the interest rate environment and increase our risk. These factors include changes in the prevailing interest rate environment, competitive pricing pressures for our loans and deposits, adverse shifts in the mix of deposits and other funding sources, and volatile market interest rates resulting from general economic conditions and the policies of governmental and regulatory agencies, in particular the FRB. Most components of our balance sheet are sensitive to rising and falling rates, and mismatches in rate sensitivity between assets and liabilities may result in unanticipated changes in both asset and liability values and related income and expense. Interest rates on our financial instruments are subject to change based on developments related to LIBOR, which could adversely impact our revenue, expenses, and value of those financial instruments. The London Interbank Offered Rate (“LIBOR”) is being phased out globally, and banks are required to migrate to alternative reference rates no later than June 2023. The market transition away from LIBOR could have a range of adverse effects on our business, financial condition, and results of operations. In particular, the transition could (1) adversely affect the interest rates paid or received on, and the value of, our floating-rate obligations, loans, deposits, 13 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES derivatives, and other financial instruments indexed to LIBOR; and (2) result in disputes, litigation or other actions with counterparties regarding the interpretation and enforceability of certain fallback language in financial instruments. For information about how we manage the transition from LIBOR, interest rate risk, and market risk, see “Interest Rate and Market Risk Management” on page 56 in MD&A. LIQUIDITY RISK Changes in levels and sources of liquidity and capital and liquidity requirements may limit our operations and potential growth. Our primary source of liquidity is deposits from our customers, which may be impacted by market-related forces such as increased competition for these deposits and a variety of other factors. The Federal Reserve's tightened monetary policy may contribute to a decline in the value of our fixed-rate loans and investment securities that are pledged as collateral to support short-term borrowings, and other economic conditions may also affect our liquidity and efforts to manage associated risks. The Federal Home Loan Bank (“FHLB”) system and Federal Reserve have been, and continue to be, a significant source of additional liquidity and funding. Changes in FHLB funding programs could adversely affect our liquidity and management of associated risks. We and the holders of our securities could be adversely affected by unfavorable rating actions from rating agencies. We access capital markets to augment our funding. This access is affected by the ratings assigned to us by rating agencies. The rates we pay on our securities are also influenced by, among other things, the credit ratings that we and our securities receive from recognized rating agencies. Ratings downgrades to us or our securities could increase our costs or otherwise have a negative effect on our liquidity position, financial condition, or the market prices of our securities. For information about how we manage liquidity risk, see “Liquidity Risk Management” on page 60 in MD&A. STRATEGIC AND BUSINESS RISK Problems encountered by other financial institutions could adversely affect financial markets generally and have indirect adverse effects on us. The soundness and stability of many financial institutions may be closely interrelated as a result of credit, trading, clearing, or other relationships between the institutions. As a result, concerns about, or a default or threatened default by, one institution could lead to significant market-wide liquidity and credit problems, losses or defaults by other institutions. This is sometimes referred to as “systemic risk” and may adversely affect financial intermediaries, such as clearing agencies, clearing houses, banks, securities firms, and exchanges, with which we interact on a daily basis, and therefore, could adversely affect us. We may not be able to hire or retain qualified personnel or effectively promote our corporate culture, and recruiting and compensation costs may increase as a result of changes in the workplace, marketplace, economy, and regulatory environment. Our ability to execute our strategy, provide services, and remain competitive may suffer if we are unable to recruit or retain qualified people, or if the costs of employee compensation and benefits increase substantially. Bank regulatory agencies have published regulations and guidance that limit the manner and amount of compensation that banking organizations provide to employees. These regulations and guidance may adversely affect our ability to attract and retain key personnel. Some of these limitations may not apply to institutions with which we compete for talent, in particular, as we are more frequently competing for personnel with financial technology providers and other entities that may not have the same limitations on compensation as we do. If we were to suffer such adverse effects with respect to our employees, our business, financial condition and results of operations could be adversely or materially affected. 14 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Our ability to retain talent may also be adversely affected by changes in the economy and workforce trends, priorities, migration, modes of delivery and other considerations, such as the increased ability of employees to work from anywhere in many industries. This growth in remote work and other changing priorities and benefits has led to an increase in compensation and related expenses and workplace challenges, such as fewer opportunities for face-to-face interactions, training and mentoring new employees, promoting a cohesive corporate culture, and increased competition for experienced labor, especially in high-demand and highly skilled categories. Inflationary pressures have also increased our compensation costs and are likely to continue to do so in the future. We have made, and are continuing to make, significant changes that include, among other things, organizational restructurings, efficiency initiatives, and replacement or upgrades of technology systems to improve our control environment and operating efficiency. The ultimate success and completion of these changes, and their effects on us, may vary significantly from intended results, which could materially adversely affect us. We continue to invest in a variety of strategic projects designed to improve our products and services and to simplify how we do business. These initiatives and other significant changes continue to be implemented and are in various stages of completion. By their very nature, projections of duration, cost, expected savings, expected efficiencies, and related items are subject to change and significant variability. There can be no certainty that we will achieve the expected benefits or other intended results associated with these projects. OPERATIONAL RISK Our operations could be disrupted by the effects of our new and ongoing projects and initiatives. We may encounter significant operational disruption arising from our numerous projects and initiatives. These may include significant time delays, cost overruns, loss of key people, technological problems, and processing failures. We may also experience operational disruptions due to capacity constraints, service level failures and inadequate performance, the level of concentration, and certain replacement costs. Any or all of these issues could result in disruptions to our systems, processes, control environment, procedures, employees, and customers. The ultimate effect of any significant disruption to our business could subject us to additional regulatory scrutiny or expose us to civil litigation and possible financial liability, any of which could materially affect us, including our control environment, operating efficiency, and results of operations. We could be adversely affected by failure in our internal controls. Because of their inherent limitations, our internal controls may not prevent or detect the risk of misstatements in our financial statements, or capital arising from inadequate or failed internal processes or systems, human errors or misconduct, or other adverse external events. A failure in our internal controls could have a significant negative impact not only on our earnings, but also on the perception that customers, regulators, and investors may have of us and adversely affect our business and our stock price. We could be adversely affected by internal and external fraud schemes. Attempts to commit fraud both internally and externally are becoming increasingly more sophisticated and may increase in an adverse economic environment. These attempts may go undetected by the systems and procedures that we have in place to monitor our operations. We have experienced losses in the past as a result of these schemes and may not be able to identify, prevent, or otherwise mitigate all instances of fraud in the future that have the potential to result in material losses. Climate-related and other catastrophic events including, but not limited to, hurricanes, tornadoes, earthquakes, fires, floods, prolonged drought, and pandemics may adversely affect us, our customers, and the general economy, financial and capital markets, and specific industries. The occurrence of pandemics, natural disasters, and other climate-related or catastrophic events could materially and adversely affect our operations and financial results. We have significant operations and customers in Utah, Texas, California, and other regions where natural and other disasters have occurred, and are likely to continue to occur. These regions are known for being vulnerable to natural disasters and other risks, such as hurricanes, tornadoes, earthquakes, fires, floods, prolonged droughts, and other weather-related events, some of which may be exacerbated by global climate change and become more frequent and intense. These types of catastrophic events at 15 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES times have disrupted the local economy, our business and customers, and have posed physical risks to our property. In addition, catastrophic events occurring in other regions of the world may have an impact on us and our customers. We use models in the management of the Bank. There is risk that these models are inaccurate in various ways, which can cause us to make suboptimal decisions. We rely on models in the management of the Bank. For example, we use models to inform our estimate of the allowance for credit losses, to manage interest rate and liquidity risk, to project stress losses in various segments of our loan and investment portfolios, and to project net revenue under stress. Models are inherently imperfect and cannot perfectly predict outcomes. Management decisions based in part on such models, therefore, may be suboptimal. We outsource various operations to third-party vendors, which could adversely impact our business and operational performance. We rely on various vendors to perform operational activities to conduct our business. Although there are benefits in entering into these relationships, there are risks associated with such activities. Our operational controls and third-party management programs may not provide adequate oversight and control, and inadequate performance by third parties can adversely affect our ability to deliver products and services to our customers and conduct our business. Replacing or finding alternatives for vendors who do not perform adequately can be difficult and costly, and may also adversely impact our customers and other operations, particularly when circumstances require us to make changes under tight time constraints. Many of our vendors have experienced adverse effects upon operations, supply chains, personnel, and businesses arising from inflationary pressures, wars and geopolitical conflicts, COVID-19, and other events, all of which can impact our operations as well. For information about how we manage operational risk, see “Operational, Technology, and Cybersecurity Risk Management” on page 63 in MD&A. TECHNOLOGY RISK We could be adversely affected by our ability to develop, adopt, and implement technology advancements. Our ability to remain competitive is increasingly dependent upon our ability to maintain critical technological capabilities, and to identify and develop new, value-added products for existing and future customers. These technological competitive pressures arise from both traditional banking and non-traditional sources. Larger banks may have greater resources and economies of scale attendant to maintaining existing capabilities and developing digital and other technologies. Fintechs and other technology platform companies continue to emerge and compete with traditional financial institutions across a wide variety of products and services. The expansion of blockchain technologies and the potential creation and adoption of central bank digital currencies present similar risks. Our failure to remain technologically competitive could impede our time to market and reduce customer satisfaction, product accessibility, and relevance. We could be adversely impacted by system vulnerabilities, failures, or outages impacting operations and customer services such as online and mobile banking. We rely on various information technology systems that work together in supporting internal operations and customer services. Vulnerabilities in, or a failure or outage of, one or many of these systems could impact the ability to perform internal operations and provide services to customers, such as online banking, mobile banking, remote deposit capture, treasury and payment services, and other services dependent on system processing. These risks increase as systems and software approach the end of their useful life or require more frequent updates and modifications. We cannot guarantee that such occurrences will not have a significant operational or customer impact. For information regarding risks associated with the replacement or upgrades of our core technology systems, see “Strategic and Business Risk” on page 14 in Risk Factors. For information about how we manage technology risk, see “Operational, Technology, and Cybersecurity Risk Management” on page 63 in MD&A. 16 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CYBERSECURITY RISK We are subject to a variety of information system failure and cybersecurity risks that could adversely affect our business and financial performance. We rely heavily on communications and information systems to conduct our business. We, our customers, and other financial institutions with which we interact, are subject to ongoing, continuous attempts to penetrate key systems by individual hackers, organized criminals, and in some cases, state-sponsored organizations. Information security risks for large financial institutions have increased significantly in recent years, in part because of the proliferation of new technologies, internet connections, and the increased sophistication and activities of organized crime, hackers, terrorists, nation-states, activists, and other external third parties. Third parties, including vendors and suppliers, also present operational and information security risks to us, including security breaches or failures of their own systems. In incidents involving third parties, we may not be informed promptly of any effect on our services or our data, or be able to participate in any investigation, notification, or remediation that occurs as a result. Any such incidents may have a material adverse effect upon our operations, reputation, customers, and services. The possibility of third-party or employee error, failure to follow security procedures, or malfeasance also presents these risks. As cybersecurity threats continue to evolve, we will be required to expend significant additional resources to continue to modify or enhance our layers of defense or to investigate or remediate any information security vulnerabilities. We, and our third-party vendors, have experienced security breaches due to cyberattacks in the past that have not had material impact to our data, customers, or operations, but there can be no assurance that any such failure, interruption, or significant security breach will not occur in the future, or, if any future occurrences will be adequately addressed . It is impossible to determine the severity or potential effects of these events with any certainty, but any such breach could result in material adverse consequences for us and our customers. System enhancements and updates may also create risks associated with implementing new systems and integrating them with existing ones. Due to the complexity and interconnectedness of information technology systems, the process of enhancing our layers of defense can itself create a risk of systems disruptions and security issues. In addition, addressing certain information security vulnerabilities, such as hardware-based vulnerabilities, may affect the performance of our information technology systems. The ability of our hardware and software providers to deliver patches and updates to mitigate vulnerabilities and our ability to implement them in a timely manner can introduce additional risks, particularly when a vulnerability is being actively exploited by threat actors. The occurrence of any failure, interruption or security breach of our information systems could damage our reputation, result in a loss of customer business, subject us to additional regulatory scrutiny, or expose us to civil litigation and possible financial liability. For information about how we manage cybersecurity risk, see “Operational, Technology, and Cybersecurity Risk Management” on page 63 in MD&A. CAPITAL/FINANCIAL REPORTING RISK Internal stress testing and capital management, as well as provisions of the National Bank Act and OCC regulations, may limit our ability to increase dividends, repurchase shares of our stock, and access the capital markets. We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions. The stress testing and other applicable regulatory requirements may, among other things, require us to increase our capital levels, limit our dividends or other capital distributions to shareholders, modify our business strategies, or decrease our exposure to various asset classes. Under the National Bank Act and OCC regulations, certain capital transactions, including share repurchases, are subject to the approval of the OCC. These requirements may limit our ability to respond to and take advantage of market developments. 17 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Economic and other circumstances may require us to raise capital at times or in amounts that are unfavorable to us. We maintain certain risk-based and leverage capital ratios, as required by our banking regulators, which can change depending upon general economic conditions, as well as the particular conditions, risk profiles, and our growth plans. Compliance with capital requirements may limit our ability to expand and has required, and may require, us to raise additional capital. These uncertainties and risks, including those created by legislative and regulatory uncertainties, may increase our cost of capital and other financing costs. We could be adversely affected by accounting, financial reporting, and regulatory compliance risk. We are exposed to accounting, financial reporting, and regulatory compliance risk. Significant estimates, judgments, and interpretations of complex and changing accounting and regulatory policies are required to properly account for the products and services we provide to our customers. Changes in our accounting policies or accounting standards could materially affect how we report our financial results and conditions. The level of regulatory compliance oversight continues to be heightened. Identification, interpretation, and implementation of complex and changing accounting standards, as well as compliance with regulatory requirements, pose an ongoing risk. The value of our goodwill may decline in the future. If the fair value of a reporting unit is determined to be less than its carrying value, we may have to take a charge related to the impairment of our goodwill. Such a charge could result from, among other factors, weakening in the economic environment, a decline in the performance of the reporting unit, or new legislative or regulatory changes not anticipated in management’s expectations. We may not be able to fully realize our deferred tax assets, which could adversely affect our operating results and financial performance. At December 31, 2022, we had a net deferred tax asset of $1.1 billion. The accounting treatment for realization of deferred tax assets is complex and requires judgment. Our ability to fully realize our deferred tax asset could be reduced in the future if our estimates of future taxable income from our operations, future reversals of existing deferred tax liabilities, or tax planning strategies do not support the realization of our deferred tax asset. Changes in applicable tax laws, regulations, macroeconomic conditions, or market conditions may adversely affect our financial results, and there can be no assurance that we will be able to fully realize our deferred tax assets. For information about how we manage capital, see “Capital Management” on page 65 in MD&A. LEGAL/COMPLIANCE RISK Laws and regulations applicable to us and the financial services industry impose significant limitations on our business activities and subject us to increased regulation and additional costs. We, and the entire financial services industry, have incurred, and will continue to incur, substantial costs related to personnel, systems, consulting, and other activities in order to comply with banking regulations. See “Supervision and Regulation” on page 6 for further information about the regulations applicable to us and the financial services industry generally. Regulators, the U.S. Congress, state legislatures, and other governing or consultative bodies continue to enact rules, laws, and policies to regulate the financial services industry and public companies, including laws that are designed to promote, protect, or penalize certain activities or industries and their access to financial services. We are, and may in the future become, subject to these laws by offering our products and services to certain industries or in certain locations. The nature of these laws and regulations and their effect on our future business and performance cannot be predicted. There can be no assurance that any or all of these regulatory changes or actions will ultimately be enacted. However, if enacted, some of these proposals could adversely affect us by, among other thi impacting after-tax returns earned by financial services firms in general; limiting our ability to grow; increasing FDIC insurance 18 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES assessments, taxes or fees on our funding or activities; limiting the range of products and services that we could offer; and requiring us to raise capital at inopportune times. Political developments may also result in substantial changes in tax, international trade, immigration, and other policies. The extent and timing of any such changes are uncertain, as are the potential direct and indirect impacts, whether beneficial or adverse. Regulations and laws may be modified or repealed, and new legislation may be enacted that will affect us and our subsidiaries. The ultimate impact of these proposals cannot be predicted as it is unclear which, if any, may be enacted. We could be adversely affected by legal and governmental proceedings. We are subject to risks associated with legal claims, litigation, and regulatory and other government proceedings. Our exposure to these proceedings has increased and may further increase as a result of stresses on customers, counterparties, and others arising from the past or current economic environments, more frequent claims and actions resulting from fraud schemes perpetrated by or involving our customers, new regulations promulgated under recently enacted statutes, the creation of new examination and enforcement bodies, and enforcement and legal actions against banking organizations. Any such matters may result in material adverse consequences to our results of operations, financial condition or ability to conduct our business, including adverse judgments, settlements, fines, penalties (e.g., civil money penalties under applicable banking laws), injunctions, restrictions on our business activities, or other relief. We maintain insurance coverage to mitigate the financial risk of defense costs, settlements, and awards, but the coverage is subject to deductibles and limits of coverage. Our involvement in any such matters, even if the matters are ultimately determined in our favor, could also cause significant harm to our reputation and divert management attention from the operation of our business. In general, the amounts paid by financial institutions in settlement of proceedings or investigations, have been increasing dramatically. This has affected and will continue to adversely affect (1) our ability to obtain insurance coverage for certain claims, (2) our deductible levels, and (3) the cost of premiums associated with our coverage. Consequently, our financial results are subject to greater risk of adverse outcomes from legal claims. Due to the difficulty in predicting the timing of, and damages or penalties associated with, the resolution of legal claims, it is possible that adverse financial impacts from litigation could occur sporadically and could be significant. In addition, any enforcement matters could impact our supervisory and CRA ratings, which may restrict or limit our activities. The corporate and securities laws applicable to us are not as well-developed as those applicable to a state-chartered corporation, which may impact our ability to effect corporate transactions in an efficient and optimal manner. Our corporate affairs are governed by the National Bank Act, and related regulations are administered by the OCC. As to securities laws, the OCC maintains its own securities offering framework applicable to national banks and their securities offerings, and our compliance with the Exchange Act is governed and enforced by the OCC. State corporate codes, including that of Utah, are widely recognized, updated by legislative action from time-to-time, and may be based on and influenced by model statutes. The federal securities law regime established by the Securities Act and the Exchange Act and the SEC’s extensive and well-developed framework thereunder are widely used by public companies. The OCC’s statutory and regulatory frameworks have been used by publicly traded banking organizations relatively rarely and are not as well-developed as the corporate and securities law frameworks applicable to other public corporations. While certain specific risks associated with operating under these frameworks are described below, unless and until these frameworks are further developed and established over time, the uncertainty of how these frameworks might apply to any given corporate or securities matters may prevent us from effecting transactions in an efficient and optimal manner or perhaps at all. 19 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Differences between the National Bank Act and state law requirements regarding mergers could hinder our ability to execute acquisitions as efficiently and advantageously as bank holding companies or other financial institutions. Unlike state corporate law, the National Bank Act requires shareholder approval of all mergers between a national bank and another national or state bank and does not allow for exceptions in the case of various “minor” mergers, such as a parent company’s merger with a subsidiary or an acquirer’s merger with an unaffiliated entity in which the shares issued by the acquirer do not exceed a designated percentage. The National Bank Act and related regulations may also complicate the structuring of certain nonbank acquisitions. These differences could adversely affect the ability of the Bank and other banks registered under the National Bank Act to efficiently consummate acquisition transactions. In addition, such differences could make us less competitive as a potential acquirer in certain circumstances given that our acquisition proposal may be conditioned on shareholder approval while our competitors’ proposals will not have such a condition. We are subject to restrictions on permissible activities that would limit the types of business we may conduct and that may make acquisitions of other financial companies more challenging. Under applicable laws and regulations, bank holding companies and banks are generally limited to business activities and investments that are related to banking or are financial in nature. The range of permissible financial activities is set forth in the Gramm-Leach-Bliley Act and is more limited for banks than for bank holding company organizations. The differences relate mainly to insurance underwriting (but not insurance agency activities) and merchant banking (but not broker-dealer and investment advisory activities). The fact that we do not have a bank holding company could make future acquisitions of financial institutions with such operations more challenging. REPUTATIONAL RISK We are presented with various reputational risk issues that could stem from operational, regulatory, compliance, and legal risks. Any of the aforementioned risks may give rise to adverse publicity and other expressions of negative public opinion, increased regulatory scrutiny, and damaged relationships among other reputational risks. OTHER RISKS The Russian invasion of Ukraine and other geopolitical conflicts, and retaliatory measures imposed by the U.S. and other countries, including the responses to such measures, may cause significant disruptions to domestic and foreign economies and markets. The Russia/Ukraine war and other geopolitical conflicts have created new risks for global markets, trade, economic conditions, cybersecurity, and similar concerns. For example, these conflicts could affect the availability and price of commodities and products, adversely affecting supply chains and increasing inflationary pressures; the value of currencies, interest rates, and other components of financial markets; and lead to increased risks of events such as cyberattacks that could result in severe costs and disruptions to governmental entities and companies and their operations. The impact of these conflicts and retaliatory measures is continually evolving and cannot be predicted with certainty. It is likely that these conflicts will continue to affect the global political order and global and domestic markets for a substantial period of time, regardless of when these conflicts end. While these events have not materially interrupted our operations, these or future developments resulting from these conflicts, such as cyberattacks on the U.S., the Bank, our customers, or our suppliers, could make it difficult to conduct business activities for us, our customers, or our vendors. Our business, financial condition, liquidity and results of operations have been, and will likely continue to be, adversely affected by the COVID-19 pandemic. The COVID-19 pandemic created economic, financial, and social disruptions that have adversely affected, and are likely to continue to adversely affect, our business, financial condition, credit exposure, and results of operations, including the direct and indirect impact on our employees, customers, communities, counterparties, service 20 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES providers, other market participants, and actions taken by governmental authorities and other third parties in response to the pandemic. The pandemic and its aftermath are likely to continue to affect consumer confidence and business activity generally, including loan demand, deposit levels, and the market for other financial products or services. Disruptions in supply chains have in some instances adversely affected our ability to procure equipment and materials for our employees and facilities in a timely fashion and may increase our costs for the same. These supply chain disruptions have in some instances adversely affected our vendors and their service level agreements to us and our subsequent delivery to customers. Pressures on the cost and availability of labor have also negatively affected us and many of our customers. The effects of these disruptions are likely to continue for the near term. Additionally, the long-term effects of the pandemic, including the increased interest in remote-work environments, may reduce our need for physical office space while negatively impacting our ability to sell or sublease any excess space. ESG-related risk developments could lead or require us to restrict or modify some of our business activities. ESG expectations of investors and regulators could, over time, lead us to restrict or modify some of our business practices. In addition, our business practices could be adversely affected by laws and regulations enacted or promulgated by federal, state, and local governments that relate to environmental and social issues. For example, in 2021 and 2022, certain states passed, or considered passing, laws prohibiting financial institutions from restricting the services that they provide to certain types of businesses if the institutions also conduct business with governmental entities in such states. Depending on how these laws are worded and implemented, they could adversely affect our ability to manage risk. These laws and rules related to ESG issues may include provisions that conflict with other state and federal regulations and may increase our costs or limit our ability to conduct business in certain jurisdictions. Heightened regulatory and social focus on climate change may place additional requirements on public companies, including financial institutions, regarding the measurement, management, and disclosure of climate-related risks and associated lending and investment activities. This may result in higher regulatory, compliance, credit, and reputational risks and costs. In addition, the transition to a lower-carbon economy could subject us to risks through our customers' exposure to volatility in commodity prices and the market for carbon-related products and services. ITEM 1B. UNRESOLVED STAFF COMMENTS There are no unresolved written comments that were received from the SEC’s or OCC’s staff 180 days or more before the end of our fiscal year relating to our periodic or current reports filed under the Securities Exchange Act of 1934. ITEM 2. PROPERTIES At December 31, 2022, we operated 416 branches, of which 277 are owned and 139 are leased. We also lease our headquarters in Salt Lake City, Utah. The annual rentals under long-term leases for leased premises are determined under various formulas and factors, including operating costs, maintenance, and taxes. For additional information regarding leases and rental payments, see Note 8 of the Notes to Consolidated Financial Statements. ITEM 3. LEGAL PROCEEDINGS The information contained in Note 16 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 4. MINE SAFETY DISCLOSURES None. 21 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES PART II ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES PREFERRED STOCK We have 4.4 million authorized shares of preferred stock without par value and with a liquidation preference of $1,000 per share. As of December 31, 2022, 66,139, 138,390, 98,555, and 136,368 of preferred shares series A, G, I, and J respectively, are outstanding. See Note 14 of the Notes to Consolidated Financial Statements for further information regarding our preferred stock. COMMON STOCK Market Information Our common stock is traded on the NASDAQ Global Select Market under the symbol “ZION.” The reported sale price of the common stock on NASDAQ was $54.10 per share on February 6, 2023. Equity Capital and Dividends As of February 6, 2023, there were 3,602 shareholders of record of our common stock. In January 2023, our Board declared a dividend of $0.41 per common share payable on February 23, 2023 to shareholders of record on February 16, 2023. Share Repurchases During 2022, the Board approved plans to repurchase up to $200 million of common shares outstanding. As part of these plans, we repurchased 3.6 million common shares outstanding for $200 million at an average price of $56.13 per share. During 2021, we repurchased 13.5 million common shares outstanding for $800 million at an average price of $59.27 per share. In January 2023, the Board approved a plan to repurchase up to $50 million of common shares outstanding during the first quarter of 2023. In February 2023, we repurchased 946,644 common shares outstanding for $50 million at an average price of $52.82. For further information regarding our common stock activity, see the Consolidated Statement of Changes in Shareholders' Equity on page 80. The following schedule summarizes our share repurchases for the year ended December 31, 2022: Schedule 3 2022 Share Repurchases Period Total number of shares purchased 1 Average price paid per share Shares purchased as part of publicly announced plans First quarter 778,248 $ 65.42 765,581 Second quarter 936,256 53.73 930,905 Third quarter 888,092 56.30 888,092 October — — November 978,491 51.11 978,281 December — — Fourth quarter total 978,491 51.11 978,281 Total 2022 3,581,087 $ 56.19 3,562,859 1 Includes common shares acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. 22 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Performance Graph The following stock performance graph compares the five-year cumulative total return of our common stock with the Standard and Poor’s (“S&P”) 500 Index and the Keefe, Bruyette & Woods, Inc. (“KBW”) Regional Bank Index (“KRX”). The KRX is a modified market capitalization-weighted regional bank and thrift stock index developed and published by KBW, a nationally recognized brokerage and investment banking firm specializing in bank stocks. The index is composed of 50 geographically diverse stocks representing regional banks or thrifts. The stock performance graph is based upon an initial investment of $100 on December 31, 2017 and assumes reinvestment of dividends. PERFORMANCE GRAPH FOR ZIONS BANCORPORATION, N.A. INDEXED COMPARISON OF 5-YEAR CUMULATIVE TOTAL RETURN 2017 2018 2019 2020 2021 2022 Zions Bancorporation, N.A. 100.0 81.7 107.1 93.0 138.7 104.0 KRX Regional Bank Index 100.0 82.5 102.2 93.3 127.5 118.7 S&P 500 100.0 95.6 125.7 148.8 191.5 156.8 SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS The information contained in Item 12 of this Form 10-K is incorporated by reference herein. ITEM 6. [RESERVED] 23 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Key Corporate Objectives We conduct our operations through seven separately managed affiliates, each with its own local branding and management team. Our affiliate banks are supported by an enterprise operating segment (referred to as the “Other” segment) that provides governance and risk management, allocates capital, establishes strategic objectives, and includes centralized technology, back-office functions, and certain lines of business not operated through our affiliate banks. We focus our efforts and resources to achieve our strategic growth and profitability objectives. This includes providing high-quality products and services and deepening relationships with our commercial, small business, and retail customers. Serving as a trusted partner for our small business and commercial customers and supporting their operational needs affords us a major source of relatively stable, low-cost deposits. We strive to achieve balanced growth of customers, pre-provision net revenue (“PPNR”), earnings per share (“EPS”), profitability, and shareholder returns. As depicted in the graphic below, we focus on four strategic growth areas: small businesses, commercial businesses, affluent customers, and capital markets. To facilitate the achievement of our growth and profitability objectives, we invest in the following five key areas, referred to as “strategic enablers”: • People and Empowerment — we invest in training our employees and providing them the tools and resources to build their capabilities, while promoting a diverse, inclusive, and equitable culture. • Technology — we invest in technologies that will make us more efficient and enable us to remain competitive while helping to insulate us from the risks of bank-disrupting technology companies. • Operational Excellence — we invest in and support ongoing improvements in how we safely and securely deliver value to our customers. • Risk Management — we invest in enhanced risk management practices to ensure prudent risk-taking and appropriate oversight. 24 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES • Data and Analytics — we invest in advanced enterprise data and analytics to support local execution and prudent decision making. RESULTS OF OPERATIONS Our Financial Performance This section and other sections provide information about our recent financial performance. For information about our results of operations for 2021 compared with 2020, see the respective sections in MD&A included in our 2021 Form 10-K. Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency ratio Net earnings applicable to common shareholders decreased from 2021, primarily due to an increase in the provision for credit losses. Diluted earnings per share decreased from 2021 as a result of decreased net earnings, the effect of which was partially offset by a 10.0 million decrease in weighted average diluted shares, primarily due to share repurchases. Adjusted PPNR increased from 2021, primarily due to growth in adjusted net revenue, driven largely by an increase in net interest income. This increase was partially offset by higher adjusted noninterest expense. The efficiency ratio improved from the prior year, as growth in adjusted revenue outpaced growth in adjusted noninterest expense, resulting in positive operating leverage. O ur financial performance for 2022 relative to the prior year reflect • Strong net revenue growth, offset by increases in provision for credit losses and noninterest expense. • Net interest income increased $312 million, or 14%, notwithstanding a $188 million decrease in interest income from U.S. Small Business Administration (“SBA”) Paycheck Protection Program (“PPP”) loans. The increase was primarily due to a higher interest rate environment and a favorable change in the composition of interest-earning assets. • The net interest margin (“NIM”) was 3.06%, compared with 2.72%, reflecting higher yields on interest-earning assets and favorable funding costs associated with our noninterest-bearing deposits. • Solid credit performance, as nonperforming assets decreased $123 million, or 45%, and classified loans decreased $307 million, or 25%. Net loan and lease charge-offs were $39 million, or 0.08% of average loans (ex-PPP) in 2022, compared with net charge-offs of $6 million, or 0.01% of average loans (ex-PPP), in 2021. Despite improvements in credit quality, the provision for credit losses was $122 million in 2022, compared with $(276) million in 2021, reflecting loan growth and deterioration in economic scenarios used for estimating future losses. • A $39 million, or 7%, increase in customer-related noninterest income, primarily due to increases in commercial account fees, capital markets and foreign exchange fees, and card fees, partially offset by decreases in loan-related fees and retail and business banking fees. Decreases in noncustomer-related 25 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES noninterest income were due largely to prior year securities gains in our Small Business Investment Company (“SBIC”) investment portfolio and gains on the sale of certain bank-owned facilities. • An increase of $137 million, or 8%, in noninterest expense, primarily due to an increase in salaries and benefits expense, which was impacted by inflationary and competitive labor market pressures on wages and benefits, increased incentive compensation accruals arising from improvements in full-year profitability, and increased headcount. • An increase of $1.4 billion, or 2%, in average interest-earning assets, driven by growth in average securities and average loans and leases (ex-PPP), largely offset by declines in average money market investments and PPP loans. • Strong growth of $4.8 billion, or 9%, in total loans and leases, driven largely by increases in the commercial and industrial, consumer 1-4 family residential mortgage, commercial real estate term, and municipal loan portfolios. • Total deposits decreased $11.1 billion, or 13%, primarily due to decreases in larger-balance and more rate-sensitive, nonoperating deposits. Our loan-to-deposit ratio was 78%, compared with 61% at the prior year- end, which continues to afford us flexibility in managing our funding costs. The following schedule presents additional selected financial highlights. Prior period amounts have been reclassified to conform with the current period presentation, where applicable. 26 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 4 SELECTED FINANCIAL HIGHLIGHTS (Dollar amounts in millions, except per share amounts) 2022/2021 Change 2022 2021 2020 2019 2018 For the Year Net interest income +14 % $ 2,520 $ 2,208 $ 2,216 $ 2,272 $ 2,230 Noninterest income -10 % 632 703 574 562 552 Total net revenue +8 % 3,152 2,911 2,790 2,834 2,782 Provision for credit losses NM 122 (276) 414 39 (40) Noninterest expense +8 % 1,878 1,741 1,704 1,742 1,679 Pre-provision net revenue 1 +9 % 1,311 1,202 1,114 1,118 1,125 Net income -20 % 907 1,129 539 816 884 Net earnings applicable to common shareholders -20 % 878 1,100 505 782 850 Per Common Share Net earnings – diluted -15 % 5.79 6.79 3.02 4.16 4.08 Tangible book value at year-end 1 +9 % 43.72 40.15 36.44 34.72 33.31 Market price – end -22 % 49.16 63.16 43.44 51.92 40.74 Market price – high +11 % 75.44 68.25 52.48 52.08 59.19 Market price – low +7 % 45.21 42.12 23.58 39.11 38.08 At Year-End Assets -4 % 89,545 93,200 81,479 69,172 68,746 Loans and leases, net of unearned income and fees +9 % 55,653 50,851 53,476 48,709 46,714 Deposits -13 % 71,652 82,789 69,653 57,085 54,101 Common equity -37 % 4,453 7,023 7,320 6,787 7,012 Performance Ratios Return on average assets 1.01% 1.29% 0.71% 1.17% 1.33% Return on average common equity 16.0% 14.9% 7.2% 11.2% 12.1% Return on average tangible common equity 1 13.9% 17.8% 8.8% 13.3% 14.9% Net interest margin 3.06% 2.72% 3.15% 3.54% 3.61% Net charge-offs to average loans and leases (ex-PPP) 0.08% 0.01% 0.22% 0.08% (0.04)% Total allowance for credit losses to loans and leases outstanding (ex-PPP) 1.15% 1.13% 1.74% 1.14% 1.18% Capital Ratios at Year-End Common equity tier 1 capital 9.8% 10.2% 10.8% 10.2% 11.7% Tier 1 leverage 7.7% 7.2% 8.3% 9.2% 10.3% Tangible common equity 1 7.1% 6.6% 7.5% 8.4% 9.2% Other Selected Information Weighted average diluted common shares outstanding (in thousands) -6 % 150,271 160,234 165,613 186,504 206,501 Bank common shares repurchased (in thousands) -74 % 3,563 13,497 1,666 23,505 12,943 Dividends declared +10 % $ 1.58 $ 1.44 $ 1.36 $ 1.28 $ 1.04 Common dividend payout ratio 2 27.3% 21.1% 44.6% 29.0% 23.8% Capital distributed as a percentage of net earnings applicable to common shareholders 3 50% 94% 59% 170% 103% Efficiency ratio 58.8% 60.8% 59.4% 59.5% 59.6% 1 See “Non-GAAP Financial Measures” on page 70 for more information. 2 The common dividend payout ratio is equal to common dividends paid divided by net earnings applicable to common shareholders. 3 This ratio is the common dividends paid plus share repurchases for the year, divided by net earnings applicable to common shareholders . 27 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Net Interest Income and Net Interest Margin Net interest income is the difference between interest earned on interest-earning assets and interest paid on interest-bearing liabilities, and represented approximately 80% of our net revenue (net interest income plus noninterest income) for the year. The NIM is calculated as net interest income as a percent of interest-earning assets. Schedule 5 NET INTEREST INCOME AND NET INTEREST MARGIN Amount change Percent change Amount change Percent change (Dollar amounts in millions) 2022 2021 2020 Interest and fees on loans $ 2,112 $ 177 9 % $ 1,935 $ (115) (6) % $ 2,050 Interest on money market investments 81 60 NM 21 7 50 14 Interest on securities 512 201 65 311 7 2 304 Total interest income 2,705 438 19 2,267 (101) (4) 2,368 Interest on deposits 70 40 NM 30 (75) (71) 105 Interest on short- and long-term borrowings 115 86 NM 29 (18) (38) 47 Total interest expense 185 126 NM 59 (93) (61) 152 Net interest income $ 2,520 $ 312 14 % $ 2,208 $ (8) — % $ 2,216 Average interest-earning assets $ 83,638 $ 1,371 2 % $ 82,267 $ 11,108 16 % $ 71,159 Average interest-bearing liabilities 42,138 1,388 3 % 40,750 2,512 7 % 38,238 bps bps Yield on interest-earning assets 1 3.28 % 49 2.79 % (58) 3.37 % Rate paid on total deposits and interest-bearing liabilities 1 0.23 % 16 0.07 % (15) 0.22 % Cost of total deposits 1 0.09 % 5 0.04 % (13) 0.17 % Net interest margin 1 3.06 % 34 2.72 % (43) 3.15 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. Net interest income increased $312 million, or 14%, in 2022, relative to the prior year, despite a $188 million decrease in interest income from PPP loans. The increase was driven largely by a higher interest rate environment and a favorable change in the composition of interest-earning assets. Average interest-earning assets increased $1.4 billion, or 2%, primarily due to increases of $6.3 billion and $4.5 billion in average securities and average loans and leases (ex-PPP), respectively. These increases were largely offset by decreases of $5.5 billion and $3.8 billion in average money market investments and average PPP loans, respectively. Average securities increased to 30.4% of average interest-earning assets, compared with 23.3%. The NIM was 3.06%, compared with 2.72%. The yield on average interest-earning assets was 3.28% in 2022, an increase of 49 basis points (“bps”), reflecting the higher interest rate environment and a change in the mix of interest-earning assets from money market investments to securities and loans. The yield on total loans increased 30 bps to 4.06%, and the yield on securities increased 39 bps to 2.06%. The yield on securities benefited from a decrease in the market value of available-for-sale (“AFS”) securities due to rising interest rates. 28 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Average loans and leases increased $0.6 billion, or 1%, to $52.6 billion. Excluding PPP loans, average loans and leases increased $4.5 billion, or 9%, to $51.9 billion, primarily in the commercial and industrial, consumer 1-4 family residential mortgage, commercial real estate term, and municipal loan portfolios. During 2022 and 2021, PPP loans totaling approximately $1.5 billion and $6.5 billion, respectively, were forgiven by the SBA. PPP loans contributed $47 million and $235 million in interest income during the same time periods. The yield on PPP loans was 6.53% and 5.16% for the respective periods, and was positively impacted by accelerated amortization of deferred fees on paid off or forgiven PPP loans of $31 million and $138 million. At December 31, 2022 and 2021, the remaining unamortized net deferred fees on PPP loans totaled $2 million and $45 million, respectively. Average deposits increased $2.2 billion, or 3%, during 2022, and period-end deposits decreased $11.1 billion, or 13%, compared with the prior year period. The average cost of deposits was 0.09% in 2022, compared with 0.04% in 2021. The rate paid on total deposits and interest-bearing liabilities was 0.23%, compared with 0.07%, reflecting the higher interest rate environment and increased short-term borrowings. Average noninterest-bearing deposits as a percentage of average deposits were 51%, up from 49% for the prior year. Our funding costs remained well controlled, reflecting the granularity of our deposit base and the extent of our noninterest-bearing deposits. 29 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Average AFS securities balances increased $4.8 billion, or 26%, to $23.2 billion in 2022, mainly due to an increase in our agency guaranteed mortgage-backed securities portfolio. During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the held-to-maturity (“HTM”) category to reflect our intent for these securities. Average borrowed funds increased $1.5 billion, or 74%, to $3.5 billion in 2022, driven by increases in short-term borrowings as a result of significant loan growth and declines in total deposits. These increases were partially offset by a decrease in long-term debt, primarily due to the redemption and maturity of senior notes during 2022 and 2021. For further discussion of the effects of market rates on net interest income and how we manage interest rate risk, refer to the “Interest Rate and Market Risk Management” section on page 13. For more information on how we manage liquidity risk, refer to the “Liquidity Risk Management” section on page 14. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 30 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 6 - AVERAGE BALANCE SHEETS, YIELDS, AND RATES Year Ended December 31, 2022 2021 2020 (In millions) Average balance Interest Yield/ Rate 1 Average balance Interest Yield/ Rate 1 Average balance Interest Yield/ Rate 1 ASSETS Money market investments: Interest-bearing deposits $ 3,066 $ 27 0.87 % $ 8,917 $ 12 0.14 % $ 965 $ 5 0.49 % Federal funds sold and securities purchased under agreements to resell 2,482 54 2.16 2,129 9 0.40 2,089 9 0.44 Total money market investments 5,548 81 1.45 11,046 21 0.19 3,054 14 0.46 Securiti Held-to-maturity 1,999 47 2.36 562 17 2.97 618 22 3.54 Available-for-sale 23,132 461 1.99 18,365 292 1.59 14,208 284 2.00 Trading account 322 16 4.79 246 11 4.43 167 7 4.36 Total securities 25,453 524 2.06 19,173 320 1.67 14,993 313 2.09 Loans held for sale 39 1 2.57 65 1 2.35 96 4 3.89 Loans and leas 2 Commercial - excluding PPP loans 28,500 1,147 4.02 25,014 950 3.80 25,193 1,036 4.11 Commercial - PPP loans 725 47 6.53 4,566 235 5.16 4,534 146 3.22 Commercial real estate 12,251 544 4.44 12,136 418 3.44 11,854 458 3.87 Consumer 11,122 398 3.58 10,267 354 3.44 11,435 425 3.71 Total loans and leases 52,598 2,136 4.06 51,983 1,957 3.76 53,016 2,065 3.89 Total interest-earning assets 83,638 2,742 3.28 82,267 2,299 2.79 71,159 2,396 3.37 Cash and due from banks 621 605 619 Allowance for credit losses on loans and debt securities (514) (612) (733) Goodwill and intangibles 1,022 1,015 1,015 Other assets 4,908 4,122 3,997 Total assets $ 89,675 $ 87,397 $ 76,057 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 37,045 $ 61 0.16 $ 36,717 $ 21 0.06 $ 31,100 $ 60 0.19 Time 1,594 9 0.58 2,020 9 0.41 3,706 45 1.22 Total interest-bearing deposits 38,639 70 0.18 38,737 30 0.08 34,806 105 0.30 Borrowed funds: Federal funds purchased and security repurchase agreements 1,531 38 2.49 797 1 0.07 1,680 8 0.45 Other short-term borrowings 1,263 46 3.65 5 — 0.04 208 2 1.09 Long-term debt 705 31 4.28 1,211 28 2.36 1,544 37 2.45 Total borrowed funds 3,499 115 3.27 2,013 29 1.45 3,432 47 1.39 Total interest-bearing funds 42,138 185 0.44 40,750 59 0.14 38,238 152 0.40 Noninterest-bearing demand deposits 39,890 37,520 28,883 Other liabilities 1,735 1,259 1,320 Total liabilities 83,763 79,529 68,441 Shareholders’ equity: Preferred equity 440 497 566 Common equity 5,472 7,371 7,050 Total shareholders’ equity 5,912 7,868 7,616 Total liabilities and shareholders’ equity $ 89,675 $ 87,397 $ 76,057 Spread on average interest-bearing funds 2.84 % 2.65 % 2.97 % Impact of net noninterest-bearing sources of funds 0.22 % 0.07 % 0.18 % Net interest margin $ 2,557 3.06 % $ 2,240 2.72 % $ 2,244 3.15 % Me total loans and leases, excluding PPP loans 51,873 2,089 4.03 % 47,417 1,722 3.63 % 48,482 1,919 3.89 % Me total cost of deposits 0.09 % 0.04 % 0.17 % Me total deposits and interest-bearing liabilities 82,028 185 0.23 % 78,270 59 0.07 % 67,121 152 0.22 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. 2 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. Loans include nonaccrual and restructured loans. 31 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents year-over-year changes in net interest income on a fully taxable-equivalent basis for the years indicated. For purposes of calculating the yields in this schedule, the average loan balances also include the principal amounts of nonaccrual and restructured loans. Interest payments received on nonaccrual loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. In addition, interest on restructured loans is generally accrued at modified rates. In the analysis of taxable-equivalent net interest income changes due to volume and rate, changes are allocated to volume with the following exceptio when volume and rate both increase, the variance is allocated proportionately to both volume and rate; when the rate increases and volume decreases, the variance is allocated to rate. Schedule 7 ANALYSIS OF TAXABLE-EQUIVALENT NET INTEREST INCOME CHANGES DUE TO VOLUME AND RATE 2022 over 2021 2021 over 2020 Changes due to Total changes Changes due to Total changes (In millions) Volume Rate 1 Volume Rate 1 INTEREST-EARNING ASSETS Money market investments: Interest-bearing deposits $ (8) $ 23 $ 15 $ 11 $ (4) $ 7 Federal funds sold and securities purchased under agreements to resell 1 44 45 1 (1) — Total money market investments (7) 67 60 12 (5) 7 Securiti Held-to-maturity 34 (4) 30 (1) (4) (5) Available-for-sale 86 83 169 66 (58) 8 Trading account 4 1 5 4 — 4 Total securities 124 80 204 69 (62) 7 Loans held for sale — — — (1) (2) (3) Loans and leases 2 Commercial - excluding SBA PPP loans 139 58 197 (7) (79) (86) Commercial - SBA PPP loans (198) 10 (188) 1 88 89 Commercial real estate 3 123 126 10 (50) (40) Consumer 30 14 44 (39) (32) (71) Total loans and leases (26) 205 179 (35) (73) (108) Total interest-earning assets 91 352 443 45 (142) (97) INTEREST-BEARING LIABILITIES Interest-bearing deposits: Saving and money market 1 39 40 2 (41) (39) Time (2) 2 — (6) (30) (36) Total interest-bearing deposits (1) 41 40 (4) (71) (75) Borrowed funds: Federal funds purchased and security repurchase agreements — 37 37 — (7) (7) Other short-term borrowings 34 12 46 — (2) (2) Long-term debt (11) 14 3 (8) (1) (9) Total borrowed funds 23 63 86 (8) (10) (18) Total interest-bearing liabilities 22 104 126 (12) (81) (93) Change in taxable-equivalent net interest income $ 69 $ 248 $ 317 $ 57 $ (61) $ (4) 1 Taxable-equivalent rates used where applicable. 2 Net of unearned income and fees, net of related costs. Loans include nonaccrual and restructured loans. 32 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans and is recorded in investment securities on the consolidated balance sheet. The provision for credit losses, which is the combination of both the provision for loan and lease losses and the provision for unfunded lending commitments, was $122 million in 2022, compared with $(276) million in 2021. The ACL was $636 million at December 31, 2022, compared with $553 million at December 31, 2021. The increase in the ACL was primarily due to loan growth and deterioration in economic scenarios, partially offset by improvements in credit quality. The ratio of ACL to net loans and leases (ex-PPP) was 1.15% and 1.13% at December 31, 2022 and 2021, respectively. The provision for securities losses was less than $1 million during 2022 and 2021. 33 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The bar chart above illustrates the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic scenarios and current economic conditions, which increased the ACL by $45 million from the prior year period. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, decreased the ACL by $6 million, indicating improvements in overall credit quality. Nonperforming assets decreased $123 million, or 45%, and classified loans decreased $307 million, or 25%. Net loan and lease charge-offs were $39 million, or 0.08% annualized of average loans (ex-PPP), in 2022, compared with $6 million, or 0.01% annualized of average loans (ex-PPP), in 2021. The fourth bar represents loan portfolio changes, driven primarily by loan growth, as well as changes in portfolio mix, the aging of the portfolio, and other risk factors, all of which resulted in a $44 million increase in the ACL. See Note 6 of the Notes to Consolidated Financial Statements for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue we earn from products and services that generally have no associated interest rate or yield and is classified as either customer-related or noncustomer-related. Customer-related noninterest income excludes items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income decreased $71 million, or 10%, in 2022, relative to the prior year. Noninterest income accounted for 20% and 24% of net revenue during 2022 and 2021, respectively. The following schedule presents a comparison of the major components of noninterest income. 34 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 8 NONINTEREST INCOME (Dollar amounts in millions) 2022 Amount change Percent change 2021 Amount change Percent change 2020 Commercial account fees $ 159 $ 22 16 % $ 137 $ 5 4 % $ 132 Card fees 104 9 9 95 13 16 82 Retail and business banking fees 73 (1) (1) 74 6 9 68 Loan-related fees and income 80 (15) (16) 95 (14) (13) 109 Capital markets and foreign exchange fees 83 13 19 70 — — 70 Wealth management fees 1 55 5 10 50 6 14 44 Other customer-related fees 60 6 11 54 10 23 44 Customer-related noninterest income 614 39 7 % 575 26 5 % 549 Fair value and nonhedge derivative income (loss) 16 2 14 14 20 NM (6) Dividends and other income 17 (26) (60) 43 19 79 24 Securities gains (losses), net (15) (86) NM 71 64 NM 7 Noncustomer-related noninterest income 18 (110) NM 128 103 NM 25 Total noninterest income $ 632 $ (71) (10) % $ 703 $ 129 22 % $ 574 1 Wealth management fees for 2020 included certain retirement service-related fees of $3 million. Beginning in 2021, those fees, which totaled $4 million, were reported in other customer-related noninterest income. Customer-related Noninterest Income Customer-related noninterest income growth reflects our focus on our key corporate objectives. We continue to deepen existing relationships with our commercial, small business, and retail customers by providing high-quality treasury management products, capital market solutions, wealth management advisory services, and depository account services. Total customer-related noninterest income increased $39 million, or 7%, in 2022, largely driven by improved customer transaction volume and activity during the year. Key drivers impacting customer-related revenue includ • Commercial account fees increased $22 million or 16%, driven by increases in account analysis, treasury management, and merchant fees. Commercial account fees also benefited from a one-time adjustment of approximately $6 million during the first quarter of 2022. • Capital markets and foreign exchange fees increased $13 million, or 19%, primarily due to improved customer swap, loan syndication, and foreign exchange activity. • Card fees increased $9 million, or 9%, due to increased commercial and business bankcard interchange fees. • Other customer-related fee income increased $6 million, or 11%, due to growth in corporate trust fees, reflecting new business growth. • Wealth management fee income increased $5 million, or 10%, reflecting growth in assets and ongoing adoption of wealth and advisory services from our customer base. Our assets under management increased $1.2 billion, or 11%, to $12.2 billion at December 31, 2022, despite declines in market valuations. • Loan-related fees decreased $15 million or 16%, in 2022, primarily due to an increased proportion of our 1-4 family residential mortgage production being retained versus sold. During 2022, we experienced a strong increase in demand for adjustable-rate mortgages, which we generally retain on our balance sheet. • Retail and business banking fees decreased $1 million, primarily due to changes in our overdraft and non-sufficient funds practices, which were effected early in the third quarter of 2022. The impact of these changes on customer-related noninterest income is expected to be ongoing. Noncustomer-related Noninterest Income Total noncustomer-related noninterest income decreased $110 million in 2022. Net securities gains and losses decreased $86 million, due largely to net gains recorded during the prior year related to our SBIC investment 35 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES portfolio. Dividends and other income declined $26 million, primarily due to a valuation loss recognized on one of our equity investments during the third quarter of 2022, as well as gains on the sale of certain bank-owned facilities during the prior year. These sales resulted from the consolidation of some of our technology and operations facilities in advance of occupying our new corporate technology center in July 2022. Noninterest Expense The following schedule presents a comparison of the major components of noninterest expense. Schedule 9 NONINTEREST EXPENSE (Dollar amounts in millions) 2022 Amount change Percent change 2021 Amount change Percent change 2020 Salaries and employee benefits $ 1,235 $ 108 10 % $ 1,127 $ 40 4 % $ 1,087 Technology, telecom, and information processing 209 10 5 199 7 4 192 Occupancy and equipment, net 152 (1) (1) 153 2 1 151 Professional and legal services 57 (15) (21) 72 15 26 57 Marketing and business development 39 (4) (9) 43 (18) (30) 61 Deposit insurance and regulatory expense 50 16 47 34 1 3 33 Credit-related expense 30 4 15 26 4 18 22 Other real estate expense, net 1 1 NM — (1) NM 1 Other 105 18 21 87 (13) (13) 100 Total noninterest expense $ 1,878 $ 137 8 % $ 1,741 $ 37 2 % $ 1,704 Adjusted noninterest expense $ 1,876 $ 139 8 % $ 1,737 $ 64 4 % $ 1,673 Noninterest expense increased $137 million, or 8%, in 2022, relative to the prior year, primarily due to salaries and benefits expense, which represented the largest component of total noninterest expense during 2022 and 2021. The following schedule presents the major segments of salaries and employee benefits expense. Schedule 10 SALARIES AND EMPLOYEE BENEFITS (Dollar amounts in millions) 2022 Amount/quantity change Percent change 2021 Amount/quantity change Percent change 2020 Salaries and bonuses $ 1,028 $ 93 10 % $ 935 $ 17 2 % $ 918 Employee benefits: Employee health and insurance 93 10 12 83 (3) (3) 86 Retirement and profit sharing 52 (5) (9) 57 18 46 39 Payroll taxes and other fringe benefits 62 10 19 52 8 18 44 Total benefits 207 15 8 192 23 14 169 Total salaries and employee benefits $ 1,235 $ 108 10 % $ 1,127 $ 40 4 % $ 1,087 Full-time equivalent employees at December 31, 9,989 304 3 % 9,685 7 — % 9,678 Total salaries and benefits expense increased $108 million, or 10%, primarily due to the ongoing impact of inflationary and competitive labor market pressures on wages and benefits, increased incentive compensation accruals arising from improvements in full-year profitability, and increased headcount. We had 9,989 full-time equivalent employees at December 31, 2022, an increase of approximately 3% relative to the prior year. Other noninterest expense increased $18 million, primarily due to a negative valuation adjustment in the prior year related to the termination of our defined benefit pension plan, as well as increased travel and various other expenses incurred during the current year. Deposit insurance and regulatory expense increased $16 million, driven largely by a higher FDIC insurance assessment resulting from changes in our balance sheet composition. 36 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Technology, telecom, and information processing expense increased $10 million, mainly due to increased software licensing and maintenance expense, reflecting our ongoing investments in strategic technology initiatives designed to improve our products and services and to simplify how we do business. Professional and legal services expense decreased $15 million, due to third-party assistance associated with PPP loan forgiveness and other technology-related and outsourced services utilized in the prior year. The efficiency ratio was 58.8%, compared with 60.8%, as growth in net revenue significantly outpaced growth in noninterest expense. For information on non-GAAP financial measures, including differences between noninterest expense and adjusted noninterest expense, see page 70. Technology Spend As the banking industry continues to move toward information technology-based products and services, we recognize there are disparate ways of discussing expenditures associated with technology-related investments and operations. We generally describe these expenditures as total technology spend, which includes current period expenses reported on our consolidated statement of income, and capitalized investments, net of related amortization and depreciation, reported on our consolidated balance sheet. We believe these disclosures provide more relevant presentation and discussion regarding our technology-related investments and operations. Total technology spend represents expenditures for technology systems and infrastructure and is reported as a combination of the followin • Technology, telecom, and information processing expense — includes expenses related to application software licensing and maintenance, related amortization, telecommunications, and data processing; • Other technology-related expenses — includes related noncapitalized salaries and employee benefits, occupancy and equipment, and professional and legal services; and • Technology investments — includes capitalized technology infrastructure equipment, hardware, and purchased or internally developed software, less related amortization or depreciation. The following schedule presents information related to our technology spend. Schedule 11 TECHNOLOGY SPEND December 31 (In millions) 2022 2021 Technology, telecom, and information processing expense $ 209 $ 199 Other technology-related expense 206 190 Technology investments 90 100 L related amortization and depreciation (54) (54) Total technology spend $ 451 $ 435 Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods presented. Schedule 12 INCOME TAXES (Dollar amounts in millions) 2022 2021 2020 Income before income taxes $ 1,152 $ 1,446 $ 672 Income tax expense 245 317 133 Effective tax rate 21.3 % 21.9 % 19.8 % The effective tax rates for the periods presented above were decreased by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the nondeductibility of 37 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES FDIC premiums, certain executive compensation, and other fringe benefits. The effective tax rate for 2020 was further reduced by the proportional increase in nontaxable items and tax credits relative to a lower pretax book income, compared with 2021 and 2022. Additionally, investments in technology initiatives, low-income housing, and municipal securities during 2022, 2021, and 2020, generated tax credits and nontaxable income that benefited the effective tax rate for each respective year. We had a net deferred tax asset (“DTA”) of $1.1 billion at December 31, 2022, compared with $0.1 billion at December 31, 2021. The increase in the net DTA was driven largely by the increase in unrealized losses in accumulated other comprehensive income (“AOCI”) associated with investment securities and derivative instruments, the capitalization of certain expenses for tax purposes, and the provision for credit losses during 2022. We had no valuation allowance at December 31, 2022. See Note 20 of the Notes to Consolidated Financial Statements for more information about the factors that impacted our effective tax rate, significant components of our DTAs and deferred tax liabilities (“DTLs”), including our assessment regarding valuation allowances, and unrecognized tax benefits for uncertain tax positions. Preferred Stock Dividends Preferred stock dividends totaled $29 million in 2022 and 2021, and $34 million in 2020. The decrease in preferred dividends was due to the redemption of the outstanding shares of our Series H preferred stock during the second quarter of 2021. See further details in Note 14 of the Notes to Consolidated Financial Statements. Business Segment Results We manage our operations through seven affiliate banks located in different geographic markets, each with its own local branding and management team. These affiliate banks comprise our primary business segments and inclu Zions Bank, California Bank & Trust (“CB&T”), Amegy Bank (“Amegy”), National Bank of Arizona (“NBAZ”), Nevada State Bank (“NSB”), Vectra Bank Colorado (“Vectra”), and The Commerce Bank of Washington (“TCBW”). We emphasize local authority, responsibility, and pricing, with customization of certain products (as applicable) to maximize customer satisfaction and strengthen community relations. Our affiliate banks are supported by an enterprise operating segment (referred to as the “Other” segment) that provides governance and risk management, allocates capital, establishes strategic objectives, and includes centralized technology, back-office functions, and certain lines of business not operated through our affiliate banks. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal funds transfer pricing (“FTP”) allocation process to report results of operations for business segments. This process is subject to change and refinement over time. Where applicable, prior period amounts have been revised to reflect the impact of these changes had they been instituted for the periods presented. For more performance information related to our business segments, including the Other segment, see Note 22 of the Notes to Consolidated Financial Statements. The following schedule summarizes selected financial information of our business segments. Ratios are calculated based on amounts in thousands. 38 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 13 SELECTED SEGMENT INFORMATION (Dollar amounts in millions) Zions Bank CB&T Amegy 2022 2021 2020 2022 2021 2020 2022 2021 2020 KEY FINANCIAL INFORMATION Total average loans $ 13,277 $ 13,198 $ 13,845 $ 13,129 $ 12,892 $ 12,366 $ 12,110 $ 12,189 $ 13,114 Total average deposits 24,317 23,588 18,370 16,160 15,796 13,763 15,735 15,496 12,970 Income before income taxes 387 380 295 314 405 182 311 362 178 CREDIT QUALITY Provision for credit losses $ 43 $ (26) $ 67 $ 49 $ (78) $ 120 $ 5 $ (96) $ 111 Net loan and lease charge-offs (recoveries) 29 — 27 3 — 15 3 2 49 Ratio of net charge-offs to average loans and leases 0.22 % — % 0.20 % 0.02 % — % 0.12 % 0.02 % 0.02 % 0.37 % Allowance for credit losses $ 155 $ 142 $ 167 $ 122 $ 90 $ 158 $ 122 $ 128 $ 210 Ratio of allowance for credit losses to net loans and leases, at year-end 1.17 % 1.08 % 1.21 % 0.93 % 0.70 % 1.28 % 1.01 % 1.05 % 1.60 % Nonperforming assets $ 36 $ 84 $ 97 $ 25 $ 41 $ 56 $ 59 $ 90 $ 131 Ratio of nonperforming assets to net loans and leases and other real estate owned 0.26 % 0.65 % 0.70 % 0.18 % 0.32 % 0.43 % 0.46 % 0.77 % 1.03 % (Dollar amounts in millions) NBAZ NSB Vectra TCBW 2022 2021 2020 2022 2021 2020 2022 2021 2020 2022 2021 2020 KEY FINANCIAL INFORMATION Total average loans $ 4,911 $ 4,849 $ 5,099 $ 2,987 $ 3,015 $ 3,102 $ 3,632 $ 3,414 $ 3,401 $ 1,630 $ 1,569 $ 1,460 Total average deposits 8,035 7,288 5,771 7,436 6,691 5,427 4,109 4,386 3,637 1,571 1,537 1,256 Income before income taxes 111 126 75 76 89 11 55 67 24 45 41 28 CREDIT QUALITY Provision for credit losses $ 11 $ (27) $ 35 $ 4 $ (35) $ 37 $ 9 $ (12) $ 34 $ 1 $ (3) $ 7 Net loan and lease charge-offs (recoveries) (1) (1) 1 (2) 1 (1) 9 — 14 — 1 — Ratio of net charge-offs to average loans and leases (0.02) % (0.02) % 0.02 % (0.07) % 0.03 % (0.03) % 0.25 % — % 0.41 % — % 0.06 % — % Allowance for credit losses $ 40 $ 38 $ 60 $ 27 $ 26 $ 59 $ 36 $ 37 $ 47 $ 9 $ 8 $ 11 Ratio of allowance for credit losses to net loans and leases, at year-end 0.81% 0.79% 1.18% 0.90% 0.86% 1.90% 0.99% 1.08% 1.38% 0.55% 0.51% 0.75% Nonperforming assets $ 6 $ 11 $ 17 $ 9 $ 24 $ 40 $ 14 $ 18 $ 19 $ — $ 1 $ 8 Ratio of nonperforming assets to net loans and leases and other real estate owned 0.12% 0.24% 0.34% 0.27% 0.85% 1.24% 0.36% 0.53% 0.56% —% 0.06% 0.52% Zions Bank Zions Bank is headquartered in Salt Lake City, Utah, and conducts operations in Utah, Idaho, and Wyoming. If it were a separately chartered bank, it would be the second largest full-service commercial bank in Utah and the sixth largest in Idaho, as measured by domestic deposits in these states. Zions Bank’s income before income taxes increased $7 million, or 2%, during 2022. The increase was due to a $108 million increase in net interest income, partially offset by a $69 million increase in the provision for credit losses, a $31 million increase in noninterest expense, and a $1 million decrease in noninterest income. The loan portfolio 39 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES increased $1.1 billion during 2022, including increases of $655 million, $369 million, and $68 million, in consumer, commercial, and CRE loans, respectively. The ratio of ACL to net loans and leases increased to 1.17% at December 31, 2022, compared with 1.08%. Nonperforming assets decreased $48 million, or 57%, from the prior year. Deposits decreased 19% in 2022. California Bank & Trust California Bank & Trust is headquartered in San Diego, California. If it were a separately chartered bank, it would be the 17 th largest full-service commercial bank in California as measured by domestic deposits in the state. CB&T’s income before income taxes decreased $91 million, or 22%, during 2022. The decrease was due to a $127 million increase in the provision for credit losses, and a $29 million increase in noninterest expense, partially offset by a $59 million increase in net interest income and a $6 million increase in noninterest income. The loan portfolio increased $937 million during 2022, including increases of $492 million, $361 million, and $84 million, in consumer, commercial, and CRE loans, respectively. The ratio of ACL to net loans and leases increased to 0.93% at December 31, 2022, compared with 0.70%. Nonperforming assets decreased $16 million, or 39%, from the prior year. Deposits decreased 10% in 2022. Amegy Bank Amegy Bank is headquartered in Houston, Texas. If it were a separately chartered bank, it would be the ninth largest full-service commercial bank in Texas as measured by domestic deposits in the state. Amegy’s income before income taxes decreased $51 million, or 14%, during 2022. The decrease was due to a $101 million increase in the provision for credit losses, and an $18 million increase in noninterest expense, partially offset by a $51 million increase in net interest income and a $17 million increase in noninterest income. The loan portfolio increased $1.0 billion during 2022, including increases of $759 million and $322 million in commercial and consumer loans, respectively, and a decrease of $46 million in CRE loans. The ratio of ACL to net loans and leases decreased to 1.01% at December 31, 2022, compared with 1.05%. Nonperforming assets decreased $31 million, or 34%, from the prior year. Deposits decreased 14% in 2022. National Bank of Arizona National Bank of Arizona is headquartered in Phoenix, Arizona. If it were a separately chartered bank, it would be the fifth largest full-service commercial bank in Arizona as measured by domestic deposits in the state. NBAZ’s income before income taxes decreased $15 million, or 12%, during 2022. The decrease was due to a $38 million increase in the provision for credit losses, and a $16 million increase in noninterest expense, partially offset by a $37 million increase in net interest income and a $2 million increase in noninterest income. The loan portfolio increased $484 million during 2022, including increases of $188 million, $170 million, and $126 million, in consumer, commercial, and CRE loans, respectively. The ratio of ACL to net loans and leases increased to 0.81% at December 31, 2022, compared with 0.79%. Nonperforming assets decreased $5 million, or 45%, from the prior year. Deposits decreased 8% in 2022. Nevada State Bank Nevada State Bank is headquartered in Las Vegas, Nevada. If it were a separately chartered bank, it would be the fifth largest full-service commercial bank in Nevada as measured by domestic deposits in the state. NSB’s income before income taxes decreased $13 million, or 15%, during 2022. The decrease was due to a $39 million increase in the provision for credit losses, a $9 million increase in noninterest expense, and a $2 million decrease in noninterest income, partially offset by a $37 million increase in net interest income. The loan portfolio increased $467 million during 2022, including increases of $285 million, $93 million, and $89 million, in consumer, commercial, and CRE loans, respectively. The ratio of ACL to net loans and leases increased to 0.90% at December 31, 2022, compared with 0.86%. Nonperforming assets decreased $15 million, or 63%, from the prior year. Deposits decreased 5% in 2022. 40 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES In July 2022, NSB purchased three Northern Nevada City National Bank branches and their associated deposit, credit card, and loan accounts. In addition to the three branches, the purchase included approximately $430 million in deposits and $95 million in commercial and consumer loans. Vectra Bank Colorado Vectra Bank Colorado is headquartered in Denver, Colorado. If it were a separately chartered bank, it would be the twelfth largest full-service commercial bank in Colorado as measured by domestic deposits in the state. Vectra’s income before income taxes decreased $12 million, or 18%, during 2022. The decrease was due to a $21 million increase in the provision for credit losses, a $6 million increase in noninterest expense, and a $2 million decrease in noninterest income, partially offset by a $17 million increase in net interest income. The loan portfolio increased $533 million during 2022, including increases of $275 million, $131 million, and $127 million, in consumer, CRE, and commercial loans, respectively. The ratio of ACL to net loans and leases decreased to 0.99% at December 31, 2022, compared with 1.08%. Nonperforming assets decreased $4 million, or 22%, from the prior year. Deposits decreased 17% in 2022. The Commerce Bank of Washington The Commerce Bank of Washington is headquartered in Seattle, Washington, and operates in Washington under The Commerce Bank of Washington name and in Portland, Oregon, under The Commerce Bank of Oregon name. If it were a separately chartered bank, it would be the 22 nd largest full-service commercial bank in Washington and the 35 th largest in Oregon, as measured by domestic deposits in these states. TCBW’s income before income taxes increased $4 million, or 10%, during 2022. The increase was due to a $10 million increase in net interest income, and a $1 million increase in noninterest income, partially offset by a $4 million increase in the provision for credit losses, and a $3 million increase in noninterest expense. The loan portfolio increased $153 million during 2022, including increases of $89 million and $83 million in CRE and commercial loans, respectively, partially offset by a decrease of $19 million in consumer loans. The ratio of ACL to net loans and leases increased to 0.55% at December 31, 2022, compared with 0.51%. Nonperforming assets decreased $1 million from the prior year. Deposits decreased 10% in 2022. BALANCE SHEET ANALYSIS Interest-earning Assets Interest-earning assets are assets that have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see Schedule 6 on page 31. 41 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES AVERAGE OUTSTANDING LOANS AND DEPOSITS (at December 31) Investment Securities Portfolio We invest in securities to generate interest income and to actively manage liquidity and interest rate risk. Refer to the “Liquidity Risk Management” section on page 60 for additional information about how we manage our liquidity risk. See Note 3 and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. The following schedule presents the components of our investment securities portfolio. 42 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 14 INVESTMENT SECURITIES PORTFOLIO December 31, 2022 December 31, 2021 (In millions) Par Value Amortized cost Fair value Par Value Amortized cost Fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 100 $ 100 $ 93 $ — $ — $ — Agency guaranteed mortgage-backed securities 1 12,921 10,621 10,772 — — — Municipal securities 404 405 374 441 441 443 Total held-to-maturity 13,425 11,126 11,239 441 441 443 Available-for-sale U.S. Treasury securities 555 557 393 155 155 134 U.S. Government agencies and corporatio Agency securities 790 782 736 833 833 845 Agency guaranteed mortgage-backed securities 9,566 9,652 8,367 20,340 20,549 20,387 Small Business Administration loan-backed securities 691 740 712 867 938 912 Municipal securities 1,571 1,732 1,634 1,489 1,652 1,694 Other debt securities 75 75 73 75 75 76 Total available-for-sale 13,248 13,538 11,915 23,759 24,202 24,048 Total HTM and AFS investment securities $ 26,673 $ 24,664 $ 23,154 $ 24,200 $ 24,643 $ 24,491 1 During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category to reflect our intent for these securities. The amortized cost basis of these securities does not include $2.4 billion of unrealized losses in AOCI that is amortized over the life of the securities. The amortization of the unrealized losses reported in AOCI will offset the effect of the accretion of the discount in interest income that is created by adjusting the amortized cost basis to the securities' fair value on the date of the transfer. The amortized cost of total HTM and AFS investment securities increased $21 million during 2022. Approximately 8% and 11% of the total HTM and AFS investment securities portfolio had a variable-rate at December 31, 2022 and December 31, 2021, respectively. At December 31, 2022, the AFS investment securities portfolio included approximately $290 million of net premium that was distributed across various security types. Total taxable-equivalent premium amortization for these investment securities was $103 million in 2022, compared with $118 million in 2021. In addition to HTM and AFS securities, we also have a Trading securities portfolio of $465 million and $372 million, at December 31, 2022 and December 31, 2021, respectively, which is comprised primarily of municipal securities and money market sweep transactions for customers. Refer to the “Capital Management” section on page 65 and Note 5 of the Notes to Consolidated Financial Statements for more discussion regarding our investment securities portfolio and related unrealized gains and losses. Municipal Investments and Extensions of Credit We support our communities by providing products and services to state and local governments (“municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. Our municipal lending products generally include loans in which the debt service is repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. 43 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule summarizes our total investments and extensions of credit to municipaliti Schedule 15 MUNICIPAL INVESTMENTS AND EXTENSIONS OF CREDIT December 31, (In millions) 2022 2021 Loans and leases $ 4,361 $ 3,658 Held-to-maturity – municipal securities 405 441 Available-for-sale – municipal securities 1,634 1,694 Trading account – municipal securities 71 355 Unfunded lending commitments 406 280 Total $ 6,877 $ 6,428 Our municipal loans and securities are primarily associated with municipalities located within our geographic footprint. The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. At December 31, 2022, no municipal loans were on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At December 31, 2022, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. Loan and Lease Portfolio We focus on serving and creating value for our customers and communities by helping them achieve their potential, optimize their daily operations, create economic opportunities for them, and grow their business. We do this by providing a wide range of lending products to commercial customers, generally small- and medium-sized businesses. We also provide various retail lending products and services to consumers and small businesses. The following schedule presents the composition of our loan and lease portfolio. 44 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 16 LOAN AND LEASE PORTFOLIO December 31, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 16,180 29.1 % $ 13,867 27.3 % PPP 197 0.4 1,855 3.6 Leasing 386 0.7 327 0.6 Owner-occupied 9,371 16.8 8,733 17.2 Municipal 4,361 7.8 3,658 7.2 Total commercial 30,495 54.8 28,440 55.9 Commercial real estate: Construction and land development 2,513 4.5 2,757 5.4 Term 10,226 18.4 9,441 18.6 Total commercial real estate 12,739 22.9 12,198 24.0 Consume Home equity credit line 3,377 6.1 3,016 5.9 1-4 family residential 7,286 13.1 6,050 11.9 Construction and other consumer real estate 1,161 2.1 638 1.3 Bankcard and other revolving plans 471 0.8 396 0.8 Other 124 0.2 113 0.2 Total consumer 12,419 22.3 10,213 20.1 Total loans and leases $ 55,653 100.0 % $ 50,851 100.0 % Our loan and lease portfolio grew significantly during 2022. At December 31, 2022 and 2021, the ratio of loans and leases to total assets was 62% and 55%, respectively. The largest loan category was commercial and industrial loans, which constituted 29% and 27% of our total loan portfolio for the same time periods. The loan and lease portfolio increased $4.8 billion, or 9%, to $55.7 billion at December 31, 2022. Excluding PPP loans, total loans and leases increased $6.5 billion, or 13%, to $55.5 billion. Loan growth was driven largely by increases of $2.3 billion in commercial and industrial loans, $1.2 billion in consumer 1-4 family residential mortgage loans, $0.8 billion in commercial real estate term loans, and $0.7 billion in municipal loans. The following schedule presents the contractual maturity distribution of our loan and lease portfolio. 45 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 17 LOAN AND LEASE PORTFOLIO BY CONTRACTUAL MATURITY December 31, 2022 (In millions) One year or less One year through five years Five years through fifteen years Over fifteen years Total Commerci Commercial and industrial $ 9,019 $ 5,232 $ 1,897 $ 32 $ 16,180 PPP — 197 — — 197 Leasing 20 258 108 — 386 Owner-occupied 476 1,426 5,851 1,618 9,371 Municipal 407 524 2,521 909 4,361 Total commercial 9,922 7,637 10,377 2,559 30,495 Commercial real estate: Construction and land development 1,202 1,232 28 51 2,513 Term 2,148 5,259 2,673 146 10,226 Total commercial real estate 3,350 6,491 2,701 197 12,739 Consume Home equity credit line 101 16 242 3,018 3,377 1-4 family residential 50 36 183 7,017 7,286 Construction and other consumer real estate 1 1 19 1,140 1,161 Bankcard and other revolving plans 337 134 — — 471 Other 11 73 40 — 124 Total consumer 500 260 484 11,175 12,419 Total loans and leases $ 13,772 $ 14,388 $ 13,562 $ 13,931 $ 55,653 Our loans and leases have predetermined (fixed) or variable interest rates. The following schedule presents the interest rate composition of our loan and lease portfolio with a contractual maturity date over one year. For more information on our interest rate risk management, see “Interest Rate Risk” on page 56. 46 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 18 LOAN AND LEASE PORTFOLIO WITH CONTRACTUAL MATURITIES OVER ONE YEAR BY INTEREST RATE TYPE December 31, 2022 Loans with contractual maturities over one year (In millions) Predetermined (fixed) interest rates Variable interest rates Total Commerci Commercial and industrial $ 2,419 $ 4,742 $ 7,161 PPP 197 — 197 Leasing 366 — 366 Owner-occupied 3,345 5,550 8,895 Municipal 3,293 661 3,954 Total commercial 9,620 10,953 20,573 Commercial real estate: Construction and land development 67 1,244 1,311 Term 1,662 6,416 8,078 Total commercial real estate 1,729 7,660 9,389 Consume Home equity credit line 190 3,086 3,276 1-4 family residential 538 6,698 7,236 Construction and other consumer real estate — 1,160 1,160 Bankcard and other revolving plans 3 131 134 Other 111 2 113 Total consumer 842 11,077 11,919 Total loans and leases $ 12,191 $ 29,690 $ 41,881 Other Noninterest-bearing Investments Other noninterest-bearing investments are equity investments that are held primarily for capital appreciation, dividends, or for certain regulatory requirements. The following schedule summarizes our related investments: Schedule 19 OTHER NONINTEREST-BEARING INVESTMENTS December 31, Amount change Percent change (Dollar amounts in millions) 2022 2021 Bank-owned life insurance $ 546 $ 537 $ 9 2 % Federal Home Loan Bank stock 294 11 283 NM Federal Reserve stock 68 81 (13) (16) Farmer Mac stock 19 19 — — SBIC investments 172 179 (7) (4) Other 31 24 7 29 Total other noninterest-bearing investments $ 1,130 $ 851 $ 279 33 % Total other noninterest-bearing investments increased $279 million, or 33%, primarily due to a $283 million increase in FHLB stock. We are required to invest 4% of our FHLB borrowings in FHLB stock to maintain our borrowing capacity. The increase in FHLB stock was driven largely by increases in FHLB short-term borrowings during 2022 as a result of loan growth and declines in interest-bearing deposits. 47 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Premises, Equipment, and Software Net premises, equipment, and software increased $89 million, or 7%, primarily due to capitalized costs related to the construction of a new corporate technology center in Midvale, Utah, which was completed in July 2022, and a new corporate center for Vectra in Denver, Colorado, which was completed in January 2023. We are also in the final phase of a three-phase project to replace our core loan and deposit banking systems, and are on track to convert our deposit servicing system in 2023. Capitalized costs associated with the core system replacement project are generally amortized over ten years, and are summarized in the following schedule. Schedule 20 CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT December 31, 2022 (In millions) Phase 1 Phase 2 Phase 3 Total Total amount of capitalized costs, less accumulated amortization $ 30 $ 55 $ 201 $ 286 Deposits Deposits are our primary funding source. In recent years, we benefited from a significant influx of deposits, which was impacted by considerable fiscal and monetary policy decisions. Our strong liquidity position at the beginning of 2022 afforded us the ability to prioritize the quality of deposits over quantity. During 2022, with the withdrawal of stimulus by the federal government, our deposits declined to more normalized levels and remained above regulatory and internal Bank limits. The following schedule presents our deposits by category and percentage of total deposits. Schedule 21 DEPOSITS December 31, 2022 December 31, 2021 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Noninterest-bearing demand $ 35,777 49.9 % $ 41,053 49.6 % Interest-bearin Savings and money market 33,566 46.9 40,114 48.4 Time 2,309 3.2 1,622 2.0 Total deposits $ 71,652 100.0 % $ 82,789 100.0 % Total deposits decreased $11.1 billion, or 13%, in 2022, primarily due to decreases in larger-balance and more rate-sensitive, nonoperating deposits. Interest-bearing deposits decreased $5.9 billion, or 14%, and noninterest-bearing deposits decreased $5.3 billion, or 13%. Total deposits included $0.9 billion and $0.4 billion of brokered deposits for the same time periods. Total deposits at December 31, 2022 also included approximately $347 million in deposits associated with the purchase of three Northern Nevada City National Bank branches by NSB in July 2022. Our deposit costs remained well controlled, reflecting the granularity of our deposit base and the extent of our noninterest-bearing deposits. We continue to actively manage our deposit base and associated deposit costs in response to the rising interest rate environment. We expect our deposit costs to increase over the near term in view of increased competition for low-cost funding sources. Nevertheless, we expect our overall cost of funds to remain low relative to our peers. See Notes 12 and 13 of the Notes to Consolidated Financial Statements and “Liquidity Risk Management” on page 60 for additional information on funding and borrowed funds. Total time deposits that exceed the current FDIC insurance limit of $250,000 totaled $527 million and $563 million at December 31, 2022 and December 31, 2021, respectively. The estimated total amount of uninsured deposits, including related interest accrued and unpaid, was $38 billion and $49 billion at December 31, 2022 and December 31, 2021, respectively. 48 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We utilize the three lines of defense approach to risk management with responsibilities for each line of defense defined in our Risk Management Framework. The first line of defense represents units and functions throughout the Bank engaged in activities related to revenue generation, expense reduction, operational support, and technology services. These units and functions are accountable for owning and managing the risks associated with these activities. The second line of defense represents functions responsible for independently assessing and overseeing risk management activities. The third line of defense is our internal audit function that provides independent assessment of the effectiveness of the first and second lines of defense. In support of management’s efforts, the Board has established certain committees to oversee our risk management processes. The Audit Committee oversees financial reporting risk, and the ROC oversees the other risk management processes. The ROC meets on a regular basis to monitor and review Enterprise Risk Management (“ERM”) activities. As required by its charter, the ROC provides oversight for various ERM activities and approves ERM policies and activities as detailed in the ROC charter. We employ various strategies to reduce the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cybersecurity risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by various management committees of which the Enterprise Risk Management Committee is the focal point. Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. The Board, through the ROC, is responsible for approving the overall credit policies relating to the management of credit risk. The ROC also oversees and monitors adherence to key credit policies and the credit risk appetite as defined in the Risk Management Framework. The Board has delegated responsibility for managing credit risk and approving changes to credit policies to the Chief Credit Officer, who chairs the Credit Risk Committee. Credit policies, credit risk management, and credit examination functions inform and support the oversight of credit risk. Our credit policies emphasize strong underwriting standards and early detection of potential problem credits in order to develop and implement action plans on a timely basis to mitigate potential losses. These formal credit policies and procedures provide us with a framework for consistent underwriting and a basis for sound credit decisions at the local banking affiliate level. Policies include standards for sensitivity and scenario analyses that assess the resilience of the borrower, including the borrower’s ability to service the loan in a rising interest rate environment. Our credit policies and practices are also designed to help manage potential risks, including those arising from environmental issues. Environmental risk related to our lending practices is primarily covered in our environmental credit policy and by our environmental subject matter experts and management. The extent of environmental due diligence performed by our environmental risk team is based on the risks identified at each property and the loan amount. The extension of credit to certain borrowers, or those connected with certain activities, may be restricted or require escalated approval, by policy, because of various environmental risks. Our credit risk management function is separate from the lending function and strengthens control over, and the independent evaluation of, credit activities. In addition, we have a well-defined set of standards for evaluating our loan portfolio, and we utilize a comprehensive loan risk-grading system to determine the risk potential in the portfolio. The internal credit examination department, which is independent of the lending function, periodically conducts examinations of our lending departments and credit activities. These examinations are designed to review credit 49 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES quality, adequacy of documentation, appropriate loan risk-grading administration, and compliance with credit policies. Credit examinations related to the ACL are reported to both the Audit Committee and the ROC. Our overall credit risk management strategy includes diversification of our loan portfolio. Our business activity is conducted primarily within the geographic footprint of our banking affiliates. We strive to avoid the risk of undue concentrations of credit in any particular industry, collateral type, location, or with any individual customer or counterparty. We have adopted and adhere to concentration limits on certain commercial industries, including leveraged lending, municipal lending, oil and gas-related lending, and various types of CRE lending, particularly construction and land development lending. Concentration limits are regularly monitored and revised as necessary. Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by U.S. government agencies, such as the SBA, Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At December 31, 2022, approximately $649 million of these loans were guaranteed, primarily by the SBA. The following schedule presents the composition of U.S. government agency guaranteed loans. Schedule 22 U.S. GOVERNMENT AGENCY GUARANTEES (Dollar amounts in millions) December 31, 2022 Percent guaranteed December 31, 2021 Percent guaranteed Commercial $ 753 83 % $ 2,410 95 % Commercial real estate 21 76 22 73 Consumer 5 100 5 100 Total loans $ 779 83 % $ 2,437 94 % Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. Schedule 23 COMMERCIAL LENDING BY INDUSTRY GROUP 1 December 31, 2022 December 31, 2021 (Dollar amounts in millions) Amount Percent Amount Percent Finance and insurance $ 2,992 9.8 % $ 2,303 8.1 % Real estate, rental and leasing 2,802 9.2 2,536 8.9 Retail trade 2,751 9.0 2,412 8.5 Manufacturing 2,387 7.8 2,374 8.3 Healthcare and social assistance 2,373 7.8 2,349 8.2 Public Administration 2,366 7.8 1,959 6.9 Wholesale trade 1,880 6.2 1,701 6.0 Transportation and warehousing 1,464 4.8 1,273 4.5 Utilities 2 1,418 4.6 1,446 5.1 Construction 1,355 4.4 1,456 5.1 Mining, quarrying, and oil and gas extraction 1,349 4.4 1,185 4.2 Educational services 1,302 4.3 1,163 4.1 Hospitality and food services 1,238 4.1 1,353 4.8 Other Services (except Public Administration) 1,041 3.4 1,213 4.2 Professional, scientific, and technical services 995 3.3 1,084 3.8 Other 3 2,782 9.1 2,633 9.3 Total $ 30,495 100.0 % $ 28,440 100.0 % 1 Industry groups are determined by North American Industry Classification System (NAICS) codes. 2 Includes primarily utilities, power, and renewable energy. 3 At December 31, 2022, no other industry group individually exceeded 2.9%. 50 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Commercial Real Estate Loans At December 31, 2022 and 2021, our CRE loan portfolio totaled $12.7 billion and $12.2 billion, representing approximately 23% and 24% of the total loan portfolio, respectively. The majority of our CRE loans are secured by real estate, which is primarily located within our geographic footprint. At December 31, 2022, approximately 26% of the CRE loan portfolio matures in one year or less. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with one- to five-year extension options or roll-to-perm options that often result in term debt. Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and non-recourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. The following schedule provides information regarding lending exposures to certain collateral types in our commercial real estate lending portfolio. Schedule 24 COMMERCIAL REAL ESTATE LENDING BY COLLATERAL TYPE December 31, 2022 December 31, 2021 (Dollar amounts in millions) Amount Percent Amount Percent Commercial property Multi-family $ 3,068 24.1 % $ 2,835 23.2 % Industrial 2,509 19.7 1,997 16.4 Office 2,281 17.9 2,372 19.5 Retail 1,529 12.0 1,594 13.1 Hospitality 695 5.4 689 5.6 Land 276 2.2 249 2.0 Other 1 1,728 13.5 1,792 14.7 Residential property Single family 340 2.7 380 3.1 Land 75 0.6 33 0.3 Condo/Townhome 13 0.1 10 0.1 Other 1 225 1.8 247 2.0 Total $ 12,739 100.0 % $ 12,198 100.0 % 1 Included in the total amount of the “Other” category was approximately $301 million and $440 million of unsecured loans at December 31, 2022 and 2021, respectively. Underwriting on commercial properties is primarily based on the economic viability of the project with significant consideration given to the creditworthiness and experience of the sponsor. We generally require that the owner’s equity be injected prior to any advances. Re-margining requirements (required equity infusions upon a decline in value or cash flow of the collateral) are often included in the loan agreement along with guarantees of the sponsor. Within the residential construction and development sector, many of the requirements previously mentioned, such as creditworthiness and experience of the developer, up-front injection of the developer’s equity, principal curtailment requirements, and the viability of the project are also important in underwriting a residential development loan. Consideration is given to the expected market acceptance of the product, location, strength of the developer, and the ability of the developer to stay within budget. Progress inspections by qualified independent inspectors are routinely performed before disbursing loan funds. Advance rates will vary based on the collateral, viability of the project, and the creditworthiness of the sponsor, with exceptions granted on a case-by-case basis. Real estate appraisals are performed in accordance with regulatory guidelines and are validated independently of the loan officer and the borrower, generally by our internal appraisal review team. In some cases, reports from automated valuation services are used or internal evaluations are performed. A new appraisal or evaluation is required when a loan deteriorates to a certain level of credit weakness. 51 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Loan agreements require regular financial information on the project and the sponsor in addition to lease schedules, rent rolls and, on construction projects, independent progress inspection reports. We monitor this financial information to ensure adherence to covenants set forth in the loan agreement. The existence of a guarantee that improves the likelihood of repayment is taken into consideration when evaluating CRE loans for expected losses. If guarantor support is quantifiable and documented, it is considered in the potential cash flows and liquidity available for debt repayment. Our expected loss methodology also considers these sources of repayment. In general, we obtain and evaluate updated financial information for the guarantor as part of our determination to extend credit. The quality and frequency of financial reporting collected and analyzed varies depending on the contractual requirements for reporting, the size of the transaction, and the strength of the guarantor. In the event of default, we pursue any and all available sources of repayment, including from collateral and guarantors. A number of factors are considered when deciding whether to pursue a guarantor, including, but not limited to, the value and liquidity of other sources of repayment (collateral), the financial strength and liquidity of the guarantor, possible statutory limitations, and the overall cost of pursuing a guarantee versus the amount we are likely to recover. Consumer Loans Residential Mortgages We originate first-lien residential home mortgages considered to be of prime quality. We generally hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. Our 1-4 family residential mortgage loan portfolio increased $1.2 billion, or 20%, to $7.3 billion at December 31, 2022, primarily due to an increased demand for variable-rate mortgages, which we have retained as part of our overall interest rate risk management strategy. Home Equity Credit Lines We also originate home equity credit lines (“HECL”). At December 31, 2022 and 2021, the outstanding balance of our HECL portfolio totaled $3.4 billion and $3.0 billion, respectively. The following schedule presents the composition of our HECL portfolio by lien status. Schedule 25 HECL PORTFOLIO BY LIEN STATUS December 31 (In millions) 2022 2021 Secured by first liens $ 1,474 $ 1,503 Secured by second (or junior) liens 1,903 1,513 Total $ 3,377 $ 3,016 At December 31, 2022, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral-value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with high credit scores. Approximately 91% of our HECL portfolio is still in the draw period, and about 18% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is minimal. The ratio of HECL net recoveries for the trailing twelve months to average balances at December 31, 2022 and 2021 was 0.03% and 0.01%, respectively. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of our 1-4 family residential mortgage portfolio and our HECL portfolio. 52 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nonperforming Assets Nonperforming assets include nonaccrual loans and other real estate owned (“OREO”) or foreclosed properties. Nonperforming assets as a percentage of loans and leases and OREO decreased to 0.27% at December 31, 2022, compared with 0.53% at December 31, 2021. Total nonaccrual loans at December 31, 2022 decreased to $149 million from $271 million, reflecting strong credit quality improvements across most of our loan portfolios. The balance of nonaccrual loans can decrease due to paydowns, charge-offs, and the return of loans to accrual status under certain conditions. If a nonaccrual loan is refinanced or restructured, the new note is immediately placed on nonaccrual. If a restructured loan performs under the new terms for at least a period of six months, the loan can be considered for return to accrual status. See “Restructured Loans” and Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. The following schedule presents our nonperforming assets and accruing loans past due 90 days or more. Schedule 26 NONPERFORMING ASSETS (Dollar amounts in millions) December 31, 2022 2021 2020 2019 2018 Nonaccrual loa Loans held for sale $ — $ — $ — $ — $ 6 Commerci Commercial and industrial 56 124 140 110 82 PPP 7 3 — — — Leasing — — — — 2 Owner-occupied 24 57 76 65 67 Municipal — — — — 1 Commercial real estate: Term 14 20 31 16 38 Consume Real estate 48 66 119 52 55 Other — 1 1 — 1 Nonaccrual loans 149 271 367 243 252 Other real estate owned 1 : Commerci Commercial properties — 1 4 5 2 Developed land — — — 1 — Land — — — 1 — Residenti 1-4 family — — — 1 2 Other real estate owned — 1 4 8 4 Total nonperforming assets $ 149 $ 272 $ 371 $ 251 $ 256 Accruing loans past due 90 days or mo Commerci $ 5 $ 7 $ 2 $ 9 $ 7 Commercial real estate — — 8 — 1 Consumer 1 1 2 1 2 Total $ 6 $ 8 $ 12 $ 10 $ 10 Ratio of nonaccrual loans to net loans and leases 2 0.27 % 0.53 % 0.69 % 0.50 % 0.54 % Ratio of nonperforming assets to net loans and leases 2 and other real estate owned 0.27 % 0.53 % 0.69 % 0.51 % 0.55 % Ratio of accruing loans past due 90 days or more to net loans and leases 2 0.01 % 0.02 % 0.02 % 0.02 % 0.02 % 1 Does not include banking premises held for sale. 2 Includes loans held for sale. 53 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Troubled Debt Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are classified as troubled debt restructurings (“TDRs”). At December 31, 2022 and 2021, TDRs totaled $235 million and $326 million, respectively. Modifications that qualified for applicable accounting and regulatory exemptions for borrowers experiencing financial difficulties exclusively related to the COVID-19 pandemic were not classified and reported as TDRs. If the restructured loan performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the restructuring is taken into account to determine whether a loan is returned to accrual status. Schedule 27 ACCRUING AND NONACCRUING TROUBLED DEBT RESTRUCTURED LOANS December 31, (In millions) 2022 2021 2020 2019 2018 Restructured loans – accruing $ 197 $ 221 $ 198 $ 78 $ 112 Restructured loans – nonaccruing 38 105 113 75 90 Total $ 235 $ 326 $ 311 $ 153 $ 202 In the periods following the calendar year in which a loan was restructured, a loan may no longer be reported as a TDR if it is accruing, is in compliance with its modified terms, and yields a market rate (as determined and documented at the time of the modification or restructure). See Note 6 of the Notes to Consolidated Financial Statements for additional information regarding TDRs. Schedule 28 TROUBLED DEBT RESTRUCTURED LOANS ROLLFORWARD (In millions) 2022 2021 Balance at beginning of year $ 326 $ 311 New identified troubled debt restructuring and principal increases 68 235 Payments and payoffs (131) (117) Charge-offs (9) (3) No longer reported as troubled debt restructuring (3) (86) Sales and other (16) (14) Balance at end of year $ 235 $ 326 Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. The following schedules present the changes in and allocation of the ACL: 54 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 29 CHANGES IN THE ALLOWANCE FOR CREDIT LOSSES (Dollar amounts in millions) 2022 2021 2020 2019 2018 Loans and leases outstanding, on December 31, $ 55,653 $ 50,851 $ 53,476 $ 48,709 $ 46,714 Average loans and leases outstandin Commercial - excluding PPP loans 28,500 25,014 25,193 24,990 23,333 Commercial - PPP loans 725 4,566 4,534 — — Commercial real estate 12,251 12,136 11,854 11,675 11,079 Consumer 11,122 10,267 11,435 11,600 11,013 Total average loans and leases outstanding $ 52,598 $ 51,983 $ 53,016 $ 48,265 $ 45,425 Allowance for loan and lease loss Balance at beginning of year 1 $ 513 $ 777 $ 497 $ 495 $ 518 Provision for loan losses 101 (258) 385 37 (39) Charge-offs: Commercial 72 35 113 57 46 Commercial real estate — — 1 4 5 Consumer 10 13 14 17 18 Total 82 48 128 78 69 Recoveri Commercial 32 29 14 25 68 Commercial real estate — 3 — 6 9 Consumer 11 10 9 10 8 Total 43 42 23 41 85 Net loan and lease charge-offs 39 6 105 37 (16) Balance at end of year $ 575 $ 513 $ 777 $ 495 $ 495 Reserve for unfunded lending commitments: Balance at beginning of year 1 $ 40 $ 58 $ 29 $ 57 $ 58 Provision for unfunded lending commitments 21 (18) 29 2 (1) Balance at end of year $ 61 $ 40 $ 58 $ 59 $ 57 Total allowance for credit loss Allowance for loan and lease losses $ 575 $ 513 $ 777 $ 495 $ 495 Reserve for unfunded lending commitments 61 40 58 59 57 Total allowance for credit losses $ 636 $ 553 $ 835 $ 554 $ 552 Ratio of allowance for credit losses to net loans and leases, on December 31, 2 1.14 % 1.09 % 1.56 % 1.14 % 1.18 % Ratio of allowance for credit losses to nonaccrual loans, on December 31, 427 % 204 % 228 % 228 % 224 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, on December 31, 410 % 198 % 220 % 220 % 216 % Ratio of total net charge-offs to average total loans and leases 3 0.07 % 0.01 % 0.20 % 0.08 % (0.04) % Ratio of commercial net charge-offs to average commercial loans 0.14 % 0.02 % 0.33 % 0.13 % (0.09) % Ratio of commercial real estate net charge-offs to average commercial real estate loans 0.00 % (0.02) % 0.01 % (0.02) % (0.04) % Ratio of consumer net charge-offs to average consumer loans (0.01) % 0.03 % 0.04 % 0.06 % 0.09 % 1 Beginning balances at January 1, 2020 for the allowance for loan and lease losses and reserve for unfunded lending commitments do not agree to their respective ending balances at December 31, 2019 because of the adoption of the CECL accounting standard. 2 The ratio of allowance for credit losses to net loans and leases (ex-PPP loans), at December 31, 2022 and 2021 was 1.15% and 1.13%, respectively. 3 The ratio of total net charge-offs to average loans and leases (ex-PPP loans), at December 31, 2022 and 2021 was 0.08% and 0.01%, respectively. 55 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 30 ALLOCATION OF THE ALLOWANCE FOR CREDIT LOSSES December 31, 2022 2021 2020 2019 2018 (Dollar amounts in millions) % of total loans Allocation of ACL % of total loans Allocation of ACL % of total loans Allocation of ACL % of total loans Allocation of ACL % of total loans Allocation of ACL Loan segment Commercial 54.8 % $ 316 55.9 % $ 330 57.0 % $ 494 52.1 % $ 380 51.7 % $ 371 Commercial real estate 22.9 189 24.0 118 22.6 191 23.7 121 23.8 127 Consumer 22.3 131 20.1 105 20.4 150 24.2 53 24.5 54 Total 100.0 % $ 636 100.0 % $ 553 100.0 % $ 835 100.0 % $ 554 100.0 % $ 552 The total ACL increased $83 million during 2022, primarily due to loan growth and deterioration in economic scenarios, partially offset by improvements in credit quality. Due to the adoption of the current expected credit loss (“CECL”) standard in 2020, the ACL is not comparable to periods presented prior to that time. The RULC, which represents a reserve for potential losses associated with off-balance sheet loan commitments, increased $21 million during 2022. The reserve is separately recorded on the consolidated balance sheet in “Other liabilities,” and any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. Because we engage in transactions involving various financial products, we are exposed to both interest rate risk and market risk. Our Board approves the overall policies relating to the management of our financial risk, including interest rate and market risk management. The Board has delegated the responsibility of managing our interest rate and market risk to the Asset/Liability Committee (“ALCO”), which consists of members of management. ALCO establishes and periodically revises policy limits and reviews with the ROC the limits and limit exceptions reported by management. Interest Rate Risk Interest rate risk is one of the most significant risks to which we are regularly exposed. We strive to position the Bank for interest rate changes and manage the balance sheet sensitivity to reduce net interest income volatility. We generally have granular, stable deposit funding. Much of this funding has an indeterminate life with no maturity and can be withdrawn at any time. However, because most deposits come from household and business accounts, their duration is generally long, compared with the short duration of our loan portfolio. As such, we are naturally “asset-sensitive” — meaning that our assets are expected to reprice faster or more significantly than our liabilities. In previous interest rate environments, we have added (1) interest rate swaps to synthetically increase the duration of the loan portfolio, (2) longer-duration securities, and (3) longer-duration loans to reduce the asset sensitivity to a level where an increase in interest rates of 100 bps would result in a positive change in net interest income. Asset sensitivity measures depend upon assumptions we use for deposit runoff and repricing behavior. As interest rates rise, we expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. Our models are particularly sensitive to the assumption about the rate of such migration. 56 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES We also assume a correlation, referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-bearing checking accounts are assumed to have a lower correlation. We anticipate that changes in deposit rates will lag changes in reference rates. Our modeled cost of total deposits for December 2023 is approximately 0.80% without the effect of additional Federal Reserve rate hikes. Additional rate hikes would be expected to result in further increases to the cost of total deposits. Actual results may differ materially due to various factors, including the shape of the yield curve, competitive pricing, money supply, our credit worthiness, etc. We use our historical experience as well as industry data to inform our assumptions. The migration and correlation assumptions previously discussed result in deposit durations presented in the following schedu Schedule 31 DEPOSIT ASSUMPTIONS December 31, 2022 December 31, 2021 Product Effective duration (unchanged) Effective duration (+200 bps) Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 3.6 % 3.5 % 3.6 % 2.8 % Money market 2.3 % 2.0 % 1.7 % 1.7 % Savings and interest-bearing 3.1 % 2.8 % 2.4 % 2.2 % As the more rate-sensitive deposits have runoff, the effective duration of deposits has lengthened due to remaining deposits that are assumed to be less rate sensitive. Additionally, we utilize derivatives to manage interest rate risk. The following schedule presents derivatives that are designated in qualifying hedging relationships at December 31, 2022. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each category of cash flow and fair value hedge. See Note 7 of the Notes to Consolidated Financial Statements for additional information regarding the impact of these hedging relationships on interest income and expense. 57 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 32 DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2023 2024 2025 2026 (Dollar amounts in millions) First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter Cash flow hedges Cash flow asset hedges 1 Average outstanding notional $ 7,500 $ 7,033 $ 6,733 $ 6,433 $ 6,000 $ 5,666 $ 5,233 $ 4,733 $ 3,488 $ 2,033 Weighted-average fixed-rate received 1.76 % 1.75 % 1.71 % 1.63 % 1.53 % 1.48 % 1.41 % 1.37 % 1.48 % 1.40 % 2023 2024 2025 2026 2027 2028 2029 2030 2031 2032 Fair value hedges Fair value debt hedges 2 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — $ — Weighted-average fixed-rate received 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % — % — % — % Fair value asset hedges 3 Average outstanding notional $ 827 $ 1,099 $ 1,212 $ 1,217 $ 1,213 $ 1,208 $ 1,203 $ 1,198 $ 1,192 $ 1,156 Weighted-average fixed-rate paid 1.65 % 1.71 % 1.74 % 1.74 % 1.74 % 1.73 % 1.73 % 1.73 % 1.73 % 1.73 % 1.72 % 1 Cash flow asset hedges consist of receive-fixed swaps hedging pools of floating-rate loans. 2 Fair value debt hedges consist of receive-fixed swaps hedging fixed-rate debt. The $500 million fair value debt hedge matures at the end of July 2029. 3 Fair value asset hedges consist of pay-fixed swaps hedging fixed-rate AFS securities. Increasing notional amounts are due to forward starting swaps. Incorporating the deposit assumptions and the impact of derivatives in qualifying hedging relationships previously discussed, the following schedule presents earnings at risk (“EaR”), or the percentage change in 12-month forward-looking net interest income, and our estimated percentage change in economic value of equity (“EVE”). Both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. Schedule 33 INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY December 31, 2022 December 31, 2021 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Earnings at Risk (EaR) (2.4) % — % 2.4 % 4.8 % 7.1 % (5.2) % — % 11.2 % 22.7 % 33.6 % Economic Value of Equity (EVE) 2.0 % — % (1.1) % (2.3) % (3.7) % 20.9 % — % 0.8 % (0.5) % (1.2) % 1 Assumes rates cannot go below zero in the negative rate shift. The asset sensitivity, as measured by EaR, decreased during 2022, primarily due to (1) deposit runoff, (2) an increase in receive-fixed-rate swap notional, (3) an increase in the amount of fixed-rate securities, and (4) a higher level of “base-case” net interest income, which reduced the percentage change for the same modeled dollar change in net interest income. For interest-bearing deposits with indeterminate maturity, the weighted average modeled beta is 26%. If the weighted average deposit beta were to increase to 35%, the EaR in the +100 bps rate shock would change from 2.4% to 1.3%. 58 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The EaR analysis focuses on parallel rate shocks across the term structure of benchmark interest rates. In a non-parallel rate scenario where the overnight rate increases 200 bps, but the ten-year rate increases only 30 bps, the increase in EaR is modeled to be approximately two-thirds of the change associated with the parallel +200 bps rate change. EaR has inherent limitations in describing expected changes in net interest income in rapidly changing interest rate environments due to a lag in asset and liability repricing behavior. As such, we expect net interest income to change due to “latent” and “emergent” interest rate sensitivity. Unlike EaR, which measures net interest income over 12 months, latent and emergent interest rate sensitivity explains changes in current quarter net interest income (ex-PPP), compared with expected net interest income in the same quarter one year forward. Latent interest rate sensitivity refers to future changes in net interest income based upon past rate movements that have yet to be fully recognized in revenue, but will be recognized over the near term. We expect latent sensitivity to reduce net interest income by approximately 1% at December 31, 2023, compared with December 31, 2022 (ex-PPP). Emergent interest rate sensitivity refers to future changes in net interest income based upon future interest rate movements and is measured from the latent level of net interest income. If interest rates rise consistent with the forward curve at December 31, 2022, we expect emergent sensitivity to reduce net interest income by approximately 1% from the latent sensitivity level, for a cumulative 2% reduction in net interest income. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At December 31, 2022, $25.2 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. Of these variable-rate loans, approximately 98% are tied to either the prime rate, London Interbank Offered Rate (“LIBOR”), Secured Overnight Financing Rate (“SOFR”), American Interbank Offered Rate (“AMERIBOR”), or Bloomberg Short-term Bank Yield (“BSBY”). For these variable-rate loans, we have executed $7.3 billion of cash flow hedges by receiving fixed rates on interest rate swaps. At December 31, 2022, we also had $3.6 billion of variable-rate consumer loans scheduled to reprice in the next six months. The impact on asset sensitivity from commercial or consumer loans with floors has become insignificant as rates have risen. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. LIBOR Transition LIBOR is being phased out globally, and banks are required to migrate to alternative reference rates no later than June 2023. To facilitate the transition process, we instituted an orderly enterprise-wide program to identify, assess, and monitor risks associated with the expected discontinuance or unavailability of LIBOR. This program included active engagement or involvement of senior management, the Enterprise Risk Management Committee, industry working groups, and our regulators. We have implemented processes, procedures, and systems to ensure contract risk is sufficiently mitigated. New originations, and any modifications or renewals of LIBOR-based contracts, contain fallback language to facilitate transition to an alternative reference rate. For our contracts that referenced LIBOR and had a duration beyond June 2023, all fallback provisions and variations were identified and classified based upon those provisions. At December 31, 2022, we had approximately $14.2 billion in loans (mainly commercial loans), unfunded lending commitments, and securities referencing LIBOR. The amount of borrowed funds referencing LIBOR at December 31, 2022 was less than $1 billion. These amounts exclude derivative assets and liabilities on the consolidated balance sheet. At December 31, 2022, the notional amount of our LIBOR-referenced interest rate derivative contracts was $8.4 billion, of which nearly all related to contracts with central counterparty clearinghouses. We support our customers’ needs by accommodating various alternative reference rates, including the Constant Maturity Treasury (“CMT”) rate, the FHLB rate, SOFR, BSBY, the prime rate, and AMERIBOR. During 2022, a significant number of customers voluntarily migrated to an alternative reference rate. We expect the remaining 59 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES customers will move to an alternative rate index in accordance with the relevant fallback provisions in their contracts prior to June 2023. Under the Adjustable Interest Rate (LIBOR) Act of 2022, the Federal Reserve identified benchmark replacement rates for LIBOR contracts lacking fallback provisions with a clearly defined or practical replacement benchmark rate. Where applicable, these replacement rates will be used. For more information on the transition from LIBOR, see related risk factors on page 13. Market Risk — Fixed Income We underwrite municipal and corporate securities. We also trade municipal, agency, and U.S. Treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. At December 31, 2022 and 2021, we had $465 million and $372 million of trading assets, and $187 million and $254 million of securities sold, not yet purchased, respectively. We are exposed to market risk through changes in fair value. This includes market risk for interest rate swaps used to hedge interest rate risk. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in AOCI for each financial reporting period. During 2022, the after-tax change in AOCI attributable to AFS securities decreased $2.7 billion, compared with a $336 million decrease during 2021, due largely to increases in benchmark interest rates. See Note 5 of the Notes to Consolidated Financial Statements for further information regarding the accounting for investment securities. As discussed in the Net Interest Income and NIM section above, our deposit costs remained well controlled, reflecting the granularity of our deposit base and the extent of our noninterest-bearing deposits. This funding advantage is more pronounced in a rising interest rate environment, creating meaningful economic value that is not fully reflected on our balance sheet since deposits and related intangible assets are not recorded at fair value for accounting purposes. Market Risk — Equity Investments Through our equity investment activities, we own equity securities that are publicly traded. In addition, we own equity securities in governmental entities and companies, e.g., Federal Reserve Bank and the FHLB, that are not publicly traded. Equity investments may be accounted for at cost less impairment and adjusted for observable price changes, fair value, the equity method, or full consolidation methods of accounting, depending on our ownership position and degree of influence over the investees’ business. Regardless of the accounting method, the value of our investment is subject to fluctuation. Because the fair value of these securities may fall below the cost at which we acquired them, we are exposed to the possibility of loss. Equity investments in private and public companies are evaluated, monitored, and approved by members of management in our Equity Investments Committee and Securities Valuation Committee. We hold both direct and indirect investments in predominantly pre-public companies, primarily through various SBIC venture capital funds as a strategy to provide beneficial financing, growth, and expansion opportunities to diverse businesses generally in communities within our geographic footprint. Our equity exposure to these investments was approximately $172 million and $179 million at December 31, 2022 and 2021, respectively. On occasion, some of the companies within our SBIC investments may issue an initial public offering (“IPO”). In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce additional market risk. See Note 3 of the Notes to Consolidated Financial Statements for additional information regarding the valuation of our SBIC investments. Liquidity Risk Management Overview Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as marketable loans and investment securities. 60 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Since liquidity risk is closely linked to both credit risk and market risk, many of the previously described risk control mechanisms also apply to the monitoring and management of liquidity risk. We manage our liquidity to provide adequate funds for our customers’ credit needs, capital plan actions, anticipated financial and contractual obligations, which include withdrawals by depositors, debt and capital service requirements, and lease obligations. Overseeing liquidity management is the responsibility of ALCO, which implements a Board-approved corporate Liquidity Policy. This policy addresses monitoring and maintaining adequate liquidity, diversifying funding positions, and anticipating future funding needs. The policy also includes liquidity ratio guidelines, such as a 30-day liquidity coverage ratio, that are used to monitor our liquidity positions as well as our various stress test and liquid asset measurements. We perform liquidity stress tests and assess our portfolio of highly liquid assets (sufficient to cover 30-day funding needs under stress scenarios). Our AFS investment securities are primarily held as a source of contingent liquidity. We target securities that can be readily turned into cash through repurchase agreements or sales. We manage our short-term funding needs through secured borrowing with securities pledged as collateral. At December 31, 2022, our investment securities portfolio of $23.5 billion and cash and money market investments of $4.4 billion, collectively comprised 31% of total assets. Our Treasury group, under the direction of the Corporate Treasurer, manages our liquidity and funding, with oversight by ALCO. The Treasurer is responsible for recommending changes to existing funding plans and our policies related to liquidity and funding. These recommendations are submitted for approval to ALCO, and changes to the policies are also approved by the ERMC and the Board. We have adopted policy limits that govern liquidity risk. The policy requires us to maintain a buffer of highly liquid assets sufficient to cover cash outflows in the event of a severe liquidity crisis. We complied with this policy throughout 2022. Liquidity Regulation We perform liquidity stress tests and assess our portfolio of highly liquid assets (sufficient to cover 30-day funding needs under the stress scenarios) even though we are no longer subject to the enhanced prudential standards for liquidity management (Reg. YY). In addition, we exceed the regulatory requirements that mandate a buffer of securities and other liquid assets to cover 70% of 30-day cash outflows under the assumptions mandated therein, although we are no longer subject to the regulations of the Final LCR Rule. Liquidity Management Actions Our consolidated cash, interest-bearing deposits held as investments, federal funds sold, and securities purchased under agreements to resell totaled $4.4 billion at December 31, 2022, compared with $13.0 billion at December 31, 2021. During 2022, the primary sources of cash came from an increase in short-term funds borrowed, a decrease in money market investments, and net cash provided by operating activities. Uses of cash during the same period included primarily an increase in loans and leases, an increase in investment securities, and the redemption of long-term debt. Total deposits were $71.7 billion at December 31, 2022, compared with $82.8 billion at December 31, 2021. The $11.1 billion decrease during 2022 was a result of a $5.3 billion and $6.5 billion decrease in noninterest-bearing demand deposits and savings and money market deposits, respectively, partially offset by a $0.7 billion increase in time deposits. Our core deposits, consisting of noninterest-bearing demand deposits, savings and money market deposits, and time deposits under $250,000, were $70.3 billion at December 31, 2022, compared with $81.9 billion at December 31, 2021. At December 31, 2022, maturities of our long-term senior and subordinated debt ranged from June 2023 to October 2029. In February 2022, we redeemed $290 million of the 4-year, 3.35% senior notes. Our cash payments for interest, reflected in operating expenses, increased to $160 million during 2022, from $81 million during 2021, primarily due to higher interest rates paid on deposits and borrowed funds and an increased balance of fed funds and other short-term borrowings. Additionally, we paid approximately $269 million of dividends on preferred and common stock during 2022, compared with $263 million during 2021. Dividends paid 61 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES per common share were $1.58 in 2022, compared with $1.44 in 2021. In January 2023, the Board approved a quarterly common dividend of $0.41 per share. General financial market and economic conditions impact our access to, and cost of, external financing. Access to funding markets is also directly affected by the credit ratings received from various rating agencies. The ratings not only influence the costs associated with borrowings, but can also influence the sources of the borrowings. All of the credit rating agencies rate our debt at an investment-grade level. During 2022, Moody’s improved its credit rating and upgraded its outlook. The following schedule presents our credit ratings. Schedule 34 CREDIT RATINGS as of January 31, 2023: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Stable BBB+ BBB NR Fitch Stable BBB+ BBB F1 Moody's Stable Baa1 NR NR The FHLB system and Federal Reserve Banks have been, and continue to be, a significant source of additional liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and Federal Reserve stock to maintain our borrowing capacity. At December 31, 2022, our total investment in FHLB and Federal Reserve stock was $294 million and $68 million, respectively, compared with $11 million and $81 million at December 31, 2021. The amount available for additional FHLB and Federal Reserve borrowings was approximately $13.4 billion at December 31, 2022, compared with $18.3 billion at December 31, 2021. Loans with a carrying value of approximately $27.6 billion at December 31, 2022 have been pledged at the FHLB of Des Moines and the Federal Reserve as collateral for current and potential borrowings, compared with $26.8 billion at December 31, 2021. At December 31, 2022, we had $7.1 billion of short-term FHLB borrowings outstanding and no Federal Reserve borrowings outstanding, compared with no FHLB or Federal Reserve borrowings outstanding at December 31, 2021. Total borrowed funds increased by $9.2 billion during 2022, driven by increases in short-term borrowings as a result of loan growth and declines in interest-bearing deposits. These increases were partially offset by a decrease in long-term debt, primarily due to the redemption of senior notes during the first quarter of 2022. We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. 62 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Contractual Obligations The following schedule summarizes our contractual obligations at December 31, 2022. Schedule 35 CONTRACTUAL OBLIGATIONS (In millions) One year or less Over one year through three years Over three years through five years Over five years Indeterminable maturity 1 Total Deposits $ 2,038 $ 209 $ 61 $ 1 $ 69,343 $ 71,652 Unfunded lending commitments 7,654 9,217 2,949 9,808 — 29,628 Standby letters of cr Financial 667 — — — — 667 Performance 184 — — — — 184 Commercial letters of credit 11 — — — — 11 Mortgage-backed security purchase agreements 2 23 — — — — 23 Commitments to make venture and other noninterest-bearing investments 3 — — — — 77 77 Federal funds and other short-term borrowings 10,417 — — — — 10,417 Long-term debt 4 128 — — 587 — 715 Operating leases 47 67 39 73 — 226 Total contractual obligations $ 21,169 $ 9,493 $ 3,049 $ 10,469 $ 69,420 $ 113,600 1 Indeterminable maturity deposits include noninterest-bearing demand, savings, and money market deposits. 2 Represents agreements with Farmer Mac to purchase securities backed by certain agricultural mortgage loans. 3 Commitments to make venture and other noninterest-bearing investments do not have defined maturity dates. They are due upon demand and may be drawn immediately. Therefore, these commitments are shown as having indeterminable maturities. 4 The values presented do not reflect the associated hedges. In addition to the commitments specifically noted in the schedule above, we enter into a number of contractual commitments in the ordinary course of business. These include software licensing and maintenance, telecommunications services, facilities maintenance and equipment servicing, supplies purchasing, and other goods and services used in the operation of our business. Some of these contracts are renewable or cancellable annually or in shorter time intervals. To secure favorable pricing concessions, we may also commit to contracts that may extend several years. We enter into derivative contracts under which we are required either to receive or pay cash, depending on changes in interest rates. These contracts are measured at fair value on the balance sheet, reflecting the net present value of the expected future cash receipts and payments based on market interest rates. See Note 7 of the Notes to Consolidated Financial Statements for further information on derivative contracts. Operational, Technology, and Cybersecurity Risk Management Operational Risk Management Operational risk is the risk to current or anticipated earnings or capital arising from inadequate or failed internal processes or systems, human errors or misconduct, or adverse external events. ERM assists employees, management, and the Board with assessing, measuring, managing, and monitoring this risk in accordance with our Risk Management Framework. For example, we have documented control self-assessments related to financial reporting under the 2013 framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) and the FDICIA. We have instituted a number of measures to manage our operational risk, including, but not limited t (1) transactional documentation requirements; (2) systems and procedures to monitor transactions and positions; (3) systems and procedures to detect and mitigate attempts to commit fraud, penetrate our systems or telecommunications, access customer data, or deny normal access to those systems to our legitimate customers; (4) 63 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES regulatory compliance reviews; and (5) periodic reviews by our Compliance Risk Management, Internal Audit, Operational Risk Management, and Credit Examination departments. Reconciliation procedures have been established to ensure that data processing systems consistently and accurately capture critical data. In addition, the Data Governance department provides additional oversight of data integrity and data availability. Further, we maintain disaster recovery and business continuity plans for operational support in the event of natural or other disasters. We also mitigate certain operational risks through the purchase of insurance, including errors and omissions and professional liability insurance. We continually strive to improve our operational risk management, including enhancement of risk identification, risk and control self-assessments, business process mappings, regular tests of controls, and anti-fraud measures, which are reported on a regular basis to enterprise management committees. The Operational Risk Committee reports directly to the ROC. Key measures have been established in line with our Risk Management Framework to increase oversight by ERM and Operational Risk Management through the strengthening of new initiative reviews and enhancements to enterprise supply chain and vendor risk management. We also continue to enhance and strengthen the Enterprise Business Continuity program, Enterprise Security program, and Enterprise Incident Management reporting. Significant enhancements have also been made to governance, technology, and reporting, including the establishment of Policy and Committee Governance programs; the implementation of a governance, risk, and control system to manage and integrate business processes, risks, controls, assessments, and control testing; and the creation of an Enterprise Risk Profile and Operational Risk Profile. In addition, our Enterprise Exam Management department has standardized our response and reporting, and increased our effectiveness and efficiencies with regulatory examination, communications and issues management. Technology Risk Management Technology risk is the risk of adverse impact to business operations and customers due to reduced or denied availability or inadequate value delivery caused by technology-related assets, infrastructure, strategy or processes. We make significant investments to enhance our technology capabilities and to mitigate the risk from outdated and unsupported technologies (technical debt). This includes updating core banking systems, as well as introducing new digital customer-facing capabilities. Technology projects, initiatives, and operations are governed by a change management framework that assesses the activities and risk within our business processes to limit disruption and resource constraints. New, expanded, or modified products and services, as well as new lines of business, change initiative status, and other risks are regularly reviewed and approved by the Change, Initiatives, and Technology Committee. This Committee includes, among other senior executives, the Chief Executive Officer, Chief Financial Officer, Chief Operating Officer, Chief Information Officer, and Chief Risk Officer. Initiative risk and change impact from the framework are reported to the ROC. Technology governance is also in place at the operational level within our Enterprise and Technology Operations (“ETO”) division to help ensure safety, soundness, operational resiliency, and compliance with our technology and cybersecurity policy requirements. ETO management teams participate in enterprise architecture review boards and technology risk councils to address such issues as enterprise standards compliance and strategic alignment, cybersecurity vulnerability management, end-of-life, audit, risk and compliance issue management, and asset management. Thresholds are defined to escalate risks in these areas to the attention of the ROC and ERMC committees as appropriate. Cybersecurity Risk Management Cybersecurity risk is the risk of adverse impacts to the confidentiality, integrity and availability of data owned, stored or processed by the Bank. The number and sophistication of attempts to disrupt or penetrate our systems, and those of our suppliers — sometimes referred to as hacking, cybersecurity fraud, cyberattacks, or other similar names — continues to grow. To combat the ever-increasing sophistication of cyberattacks, we are continually improving methods for detecting and preventing attacks. We have implemented policies and procedures, benchmarked to industry, regulatory, and cybersecurity frameworks (e.g., National Institute of Standards and Technology), developed specific training for our employees, monitored threats through our Cybersecurity Operations Center, and 64 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES have elevated our oversight and internal reporting to the Board and relevant committees. Further, we regularly engage independent third-party cybersecurity experts to test for vulnerabilities in our environment. We also conduct our own internal simulations and tabletop exercises as well as participate in financial sector-specific exercises. We have engaged consultants at both the strategic level and at the technology implementation level to assist us in better managing this critical risk. Cybersecurity defense and improving our resiliency against cybersecurity threats remain a key focus of our Board and all levels of management. Capital Management Overview The Board is responsible for approving the policies associated with capital management. The Board has delegated responsibility of managing our capital risk to the Capital Management Committee (“CMC”), which is chaired by the Chief Financial Officer, consists of members of management, and whose primary responsibility is to recommend and administer the approved capital policies that govern our capital management. Other major CMC responsibilities inclu • Setting overall capital targets within the Board-approved Capital Policy, monitoring performance compared with our Capital Policy limits, and recommending changes to capital including dividends, common stock issuances and repurchases, subordinated debt, and changes in major strategies to maintain ourselves at well-capitalized levels; • Maintaining an adequate capital cushion to withstand adverse stress events while continuing to meet the borrowing needs of our customers, and to provide reasonable assurance of continued access to wholesale funding, consistent with fiduciary responsibilities to depositors and bondholders; and • Reviewing our agency ratings. A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. We have fundamental financial objectives and policies to consistently improve risk-adjusted returns on our shareholders’ capital, including (1) maintaining sufficient capital to support the current needs and growth of our businesses, and (2) fulfilling responsibilities to depositors and bondholders while managing capital distributions to shareholders through dividends and repurchases of common stock. We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the FRB. The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as Board and OCC approval. Shares may be repurchased occasionally in the open market or through privately negotiated transactions. Schedule 36 SHAREHOLDERS' EQUITY (Dollar amounts in millions) December 31, 2022 December 31, 2021 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 440 $ — — % Common stock and additional paid-in capital 1,754 1,928 (174) (9) Retained earnings 5,811 5,175 636 12 Accumulated other comprehensive income (3,112) (80) (3,032) NM Total shareholders' equity $ 4,893 $ 7,463 $ (2,570) (34) % Total shareholders’ equity decreased $2.6 billion, or 34% to $4.9 billion at December 31, 2022. A $636 million increase in retained earnings was offset by significant decreases in AOCI and common stock and additional paid-in capital. 65 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES AOCI decreased $3.0 billion, primarily due to the decline in the fair value of fixed-rate AFS securities as a result of increases in benchmark interest rates. Absent any sales or credit impairment of these securities, the unrealized losses will not be recognized in earnings. We do not intend to sell any securities with unrealized losses. Although changes in AOCI are reflected in shareholders’ equity, they are excluded from regulatory capital, and therefore do not impact our regulatory ratios. We have excluded the impact of AOCI from certain non-GAAP financial measures, such as tangible common equity and related measures. See “Non-GAAP Financial Measures” on page 70 for further information. Refer also to Note 5 of the Notes to Consolidated Financial Statements for more discussion on our investment securities portfolio and related unrealized gains and losses. Common stock and additional paid-in capital decreased $174 million, primarily due to common stock repurchases. Capital Management Actions Common shares outstanding decreased 3.0 million in 2022, due to common stock repurchases. During 2022, we repurchased 3.6 million common shares outstanding for $200 million, compared with 13.5 million common shares repurchased for $800 million during 2021. In January 2023, the Board approved a plan to repurchase up to $50 million of common shares outstanding during the first quarter of 2023. In February 2023, we repurchased 946,644 common shares outstanding for $50 million at an average price of $52.82. Schedule 37 CAPITAL DISTRIBUTIONS (In millions, except share data) 2022 2021 Capital distributio Preferred dividends paid $ 29 $ 29 Bank preferred stock redeemed — 126 Total capital distributed to preferred shareholders 29 155 Common dividends paid 240 232 Bank common stock repurchased 1 202 800 Total capital distributed to common shareholders 442 1,032 Total capital distributed to preferred and common shareholders $ 471 $ 1,187 Weighted average diluted common shares outstanding (in thousands) 150,271 160,234 Common shares outstanding, at year-end (in thousands) 148,664 151,625 1 Includes amounts related to the common shares acquired from our publicly announced plans and those acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. Under the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. As of January 1, 2023, we had $1.8 billion of retained net profits available for distribution. We paid dividends on preferred stock of $29 million in both 2022 and 2021. The common stock dividend was $0.41 per share during the second half of 2022, compared with $0.38 during the first half of 2022. We paid common dividends of $240 million in 2022, compared with $232 million in 2021. In January 2023, the Board declared a quarterly dividend of $0.41 per common share payable on February 23, 2023, to shareholders of record on February 16, 2023. Basel III We are subject to Basel III capital requirements to maintain adequate levels of capital as measured by several regulatory capital ratios. At December 31, 2022, we exceeded all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold 66 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. The following schedule presents our capital and other performance ratios. Schedule 38 CAPITAL RATIOS December 31, 2022 December 31, 2021 December 31, 2020 Average equity to average assets 6.6 % 9.0 % 10.0 % Return on average common equity 16.0 % 14.9 % 7.2 % Return on average tangible common equity 1 13.9 % 17.8 % 8.8 % Tangible equity ratio 1 7.6 % 7.1 % 8.2 % Tangible common equity ratio 1 7.1 % 6.6 % 7.5 % Basel III risk-based capital ratios: Common equity tier 1 capital 9.8 % 10.2 % 10.8 % Tier 1 risk-based 10.5 % 10.9 % 11.8 % Total risk-based 12.2 % 12.8 % 14.1 % Tier 1 leverage 7.7 % 7.2 % 8.3 % 1 See “Non-GAAP Financial Measures” on page 70 for more information regarding these ratios. Our regulatory Tier 1 risk-based capital and total risk-based capital were $6.9 billion and $8.1 billion at December 31, 2022, compared with $6.5 billion and $7.7 billion, respectively, at December 31, 2021. See the “Supervision and Regulation” section on page 6 and Note 15 of the Notes to Consolidated Financial Statements for more information about Basel III capital requirements. CRITICAL ACCOUNTING POLICIES AND SIGNIFICANT ESTIMATES Note 1 of the Notes to Consolidated Financial Statements contains a summary of our significant accounting policies. Certain accounting policies that we consider critical are described below because their related balances and estimates are significant to the financial statements. Any changes to these amounts, including changes in estimates, may also be significant to the financial statements. We believe that an understanding of these policies, along with the related estimates we are required to make in recording our financial transactions, is important to have a complete picture of our financial condition. Additionally, in making these estimates, we are required to make complex and subjective judgments, many of which include a high degree of uncertainty. We discuss these critical accounting policies and related estimates below. We have included, where applicable in this document, sensitivity schedules and other examples to demonstrate the impact of the changes in estimates made for various financial transactions. The sensitivities in these schedules and examples are hypothetical and should be viewed with caution. Changes in estimates are based on variations in assumptions and are not subject to simple extrapolation, as the relationship of the change in the assumption to the change in the amount of the estimate may not be linear. In addition, the effect of a variation in one assumption is likely to cause changes in other assumptions, which could potentially magnify or counteract the sensitivities. Allowance for Credit Losses The ACL includes the ALLL and the RULC and represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. The ACL for our AFS and HTM debt securities portfolio is estimated separately from loans and is not reflected separately on the consolidated balance sheet due to immateriality. The ACL for debt securities was less than $1 million at both December 31, 2022 and 2021. 67 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The ACL may change significantly each period because the ACL is subject to economic forecasts that may change materially from period to period. Although we believe that our methodology for determining an appropriate level for the ACL adequately addresses the various components that could potentially result in credit losses, the processes and their elements include features that may be susceptible to significant change. Any unfavorable differences between the actual outcome of credit-related events and our estimates could require an additional provision for credit losses. The ACL is calculated based on quantitative models and management’s qualitative judgment based on many factors over the life of loan. The primary assumptions of the quantitative model are the economic forecast, the length of the reasonable and supportable forecast period, the length of the reversion period, prepayment rates, and the credit quality of the portfolio. The quantitative ACL estimate is a probability-weighted amount based on losses under multiple economic scenarios that reflect optimistic, baseline, and stressed economic conditions. Management uses qualitative judgment to adjust standard probability weights to more closely reflect management’s assessments of current conditions and reasonable and supportable forecasts. If the ACL was evaluated on the baseline economic scenario rather than probability weighting multiple scenarios, the quantitatively determined amount of the ACL at December 31, 2022 would decrease by approximately $86 million. Additionally, if the probability of default risk-grade for all pass-graded loans was immediately downgraded one grade on our internal risk-grading scale, the quantitatively determined amount of the ACL at December 31, 2022 would increase by approximately $52 million. These sensitivity analyses are hypothetical and have been provided only to indicate the potential impact that changes in economic forecasts and changes in risk-grades may have on the ACL estimate. See Note 6 of the Notes to Consolidated Financial Statements for more information on the processes and methodologies used to estimate the ACL. Fair Value Estimates We measure certain of our assets and liabilities at fair value. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. To increase consistency and comparability in fair value measurements, generally accepted accounting principles (“GAAP”) has established a three-level hierarchy to prioritize the valuation inputs among (1) observable inputs that reflect quoted prices in active markets, (2) inputs other than quoted prices with observable market data, and (3) unobservable data such as our own data. When observable market prices are not available, fair value is estimated using modeling techniques such as discounted cash flow analysis. These modeling techniques use assumptions that market participants would consider in pricing the asset or the liability. The selection and weighting of the various fair value techniques may result in a fair value higher or lower than the carrying value of the item being valued. Considerable judgment may be involved in determining the amount that is most representative of fair value. For assets and liabilities measured at fair value, our policy is to maximize the use of observable inputs, when available, and minimize the use of unobservable inputs when developing fair value measurements. In certain cases, when market observable inputs for model-based valuation techniques may not be readily available, we are required to make judgments about the assumptions market participants would use in estimating the fair value of the financial instrument. The models used to determine fair value adjustments are regularly evaluated by management for relevance under current facts and circumstances. Changes in market conditions may reduce the availability of quoted prices or observable data. For example, reduced liquidity in the capital markets or changes in secondary market activities could result in observable market inputs becoming unavailable. When market data is not available, we use valuation techniques requiring more management judgment to estimate the appropriate fair value. 68 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Fair value is used on a recurring basis for certain assets and liabilities in which fair value is the primary measure of accounting. Fair value is used on a nonrecurring basis to measure certain assets or liabilities (including loans held for sale and OREO) for impairment or for disclosure purposes in accordance with current accounting guidance. Impairment analysis also relates to long-lived assets, goodwill, and core deposit and other intangible assets. An impairment loss is recognized if the carrying amount of the asset is not likely to be recoverable and exceeds its fair value. In determining the fair value, management uses models and applies the techniques and assumptions previously described. AFS securities are valued using several methodologies, which depend on the nature of the security, availability of current market information, and other factors. AFS securities in an unrealized loss position are formally reviewed on a quarterly basis for the presence of credit impairment. If we have the intent to sell an identified security, or it is more likely than not we will be required to sell the security before recovery of its amortized cost basis, we first recognize an identified impairment. If we do not have the intent to sell a security, and it is more likely than not that we will not be required to sell a security prior to recovery of its amortized cost basis, then we determine whether there is any impairment attributable to credit-related factors. Credit-related impairment is recognized as an allowance. Full or partial write-offs of an AFS security are recorded in the period in which the security is deemed to be uncollectible. While certain of our assets and liabilities are measured at fair value, such as our AFS securities, the majority of our assets and liabilities are not adjusted for changes in fair value. This asymmetrical accounting creates volatility in AOCI and equity. Notes 1, 3 , 5, 7, and 10 of the Notes to Consolidated Financial Statements and the “Investment Securities Portfolio” on page 42 contain further information regarding the use of fair value estimates. Goodwill Goodwill is recorded at fair value in the financial statements of a reporting unit at the time of its acquisition and is subsequently evaluated at least annually for impairment in accordance with current accounting standards. We perform an evaluation during the fourth quarter of each year, or more frequently if events or circumstances indicate that the carrying value of any of our reporting units, inclusive of goodwill, is less than fair value. We may elect to perform a qualitative analysis to determine if it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If the carrying amount is more likely than not to exceed its fair value, additional quantitative analysis is performed to determine the amount of goodwill impairment. If the fair value is less than the carrying value, an impairment is recorded for the difference. Goodwill impairment does not impact our regulatory capital ratios or tangible common equity ratio. To determine the fair value of a reporting unit, we use (1) a market method that incorporates comparable publicly traded commercial banks along with data related to recent comparable merger and acquisition activity, and (2) an income method that consists of a discounted present value of management’s estimates of future cash flows. Critical assumptions used as part of these methods generally inclu • Selection of comparable publicly traded companies based on location, size, and business focus and composition; • Selection of market comparable acquisition transactions, if available, based on location, size, business focus and composition, and date of the transaction; • The discount rate, which is based on our estimate of the cost of equity capital; • The projections of future earnings and cash flows of the reporting unit; • The relative weight given to the valuations derived by the two methods described previously; and • The control premium associated with reporting units. Since estimates are an integral part of the impairment test calculations, changes in these estimates could have a significant impact on our reporting units’ fair value and the goodwill impairment amount, if any. Estimates include 69 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES economic conditions, which impact the assumptions related to interest and growth rates, loss rates, and imputed cost of equity capital. Additional factors that may significantly affect the estimates include, among others, competitive forces, customer behaviors and attrition, loan losses, changes in growth trends, cost structures and technology, changes in equity market values and merger and acquisition valuations, and changes in industry conditions. During the fourth quarter of 2022, we performed our annual goodwill impairment evaluation, effective October 1, 2022. Based on our evaluation, we determined that none of our reporting units were impaired. RECENT ACCOUNTING PRONOUNCEMENTS AND DEVELOPMENTS Note 2 of the Notes to Consolidated Financial Statements discusses recently issued accounting pronouncements that we are, or will be, required to adopt. Also described is our expectation of the impact these new accounting pronouncements will have, to the extent they are material, on our financial condition or results of operations. NON-GAAP FINANCIAL MEASURES This Form 10-K presents non-GAAP financial measures, in addition to GAAP financial measures. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results and provide a meaningful basis for period-to-period comparisons. We use these non-GAAP financial measures to assess our performance and financial position. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by our management and the financial services industry. Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar financial measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under GAAP. Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets and their related amortization and accumulated other comprehensive income or loss. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a business more consistently, whether acquired or developed internally. Schedule 39 RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Year Ended December 31, (Dollar amounts in millions) 2022 2021 2020 Net earnings applicable to common shareholders (GAAP) $ 878 $ 1,100 $ 505 Adjustments, net of t Amortization of core deposit and other intangibles 1 1 — Net earnings applicable to common shareholders, net of tax (a) $ 879 $ 1,101 $ 505 Average common equity (GAAP) $ 5,472 $ 7,371 $ 7,050 Average goodwill and intangibles (1,022) (1,015) (1,015) Average accumulated other comprehensive loss (income), net of tax 1,863 (164) (270) Average tangible common equity (non-GAAP) (b) $ 6,313 $ 6,192 $ 5,765 Return on average tangible common equity (non-GAAP) (a/b) 13.9 % 17.8 % 8.8 % 70 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 40 TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) December 31, 2022 2021 2020 Total shareholders’ equity (GAAP) $ 4,893 $ 7,463 $ 7,886 Goodwill and intangibles (1,065) (1,015) (1,016) Accumulated other comprehensive loss (income), net of tax 3,112 80 (325) Tangible equity (non-GAAP) (a) 6,940 6,528 6,545 Preferred stock (440) (440) (566) Tangible common equity (non-GAAP) (b) $ 6,500 $ 6,088 $ 5,979 Total assets (GAAP) $ 89,545 $ 93,200 $ 81,479 Goodwill and intangibles (1,065) (1,015) (1,016) Accumulated other comprehensive loss (income), net of tax $ 3,112 $ 80 $ (325) Tangible assets (non-GAAP) (c) $ 91,592 $ 92,265 $ 80,138 Common shares outstanding (in thousands) (d) 148,664 151,625 164,090 Tangible equity ratio (non-GAAP) (a/c) 7.6 % 7.1 % 8.2 % Tangible common equity ratio (non-GAAP) (b/c) 7.1 % 6.6 % 7.5 % Tangible book value per common share (non-GAAP) (b/d) $43.72 $40.15 $36.44 Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allow for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how we are managing our expenses. Adjusted pre-provision net revenue enables management and others to assess our ability to generate capital. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. 71 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Schedule 41 EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) (Dollar amounts in millions) 2022 2021 2020 Noninterest expense (GAAP) (a) $ 1,878 $ 1,741 $ 1,704 Adjustments: Severance costs 1 1 1 Other real estate expense, net 1 — 1 Amortization of core deposit and other intangibles 1 1 — Restructuring costs — — 1 Pension termination-related expense (income) 1 — (5) 28 SBIC investment success fee accrual 2 (1) 7 — Total adjustments (b) 2 4 31 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 1,876 $ 1,737 $ 1,673 Net interest income (GAAP) (d) $ 2,520 $ 2,208 $ 2,216 Fully taxable-equivalent adjustments (e) 37 32 28 Taxable-equivalent net interest income (non-GAAP) (d+e)=(f) 2,557 2,240 2,244 Noninterest income (GAAP) (g) 632 703 574 Combined income (non-GAAP) (f+g)=(h) 3,189 2,943 2,818 Adjustments: Fair value and nonhedge derivative gain (loss) 16 14 (6) Securities gains, net (15) 71 7 Total adjustments (i) 1 85 1 Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 3,188 $ 2,858 $ 2,817 Pre-provision net revenue (non-GAAP) (h)-(a) $ 1,311 $ 1,202 $ 1,114 Adjusted pre-provision net revenue (non-GAAP) (j-c) 1,312 1,121 1,144 Efficiency ratio (non-GAAP) (c/j) 58.8 % 60.8 % 59.4 % 1 Represents the expense incurred and a subsequent valuation adjustment related to termination of our defined benefit pension plan. 2 The success fee accrual is associated with the gains/(losses) from our SBIC investments. The gains/(losses) related to these investments are excluded from the efficiency ratio through securities gains (losses), net. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Information required by this Item is included in “Interest Rate and Market Risk Management” in MD&A beginning on page 56, and is hereby incorporated by reference. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 72 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES REPORT ON MANAGEMENT’S ASSESSMENT OF INTERNAL CONTROL OVER FINANCIAL REPORTING The management of Zions Bancorporation, N.A is responsible for establishing and maintaining adequate internal control over financial reporting as defined by Exchange Act Rules 13a-15 and 15d-15. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Although any system of internal control can be compromised by human error or intentional circumvention of required procedures, we believe our system provides reasonable assurance that financial transactions are recorded and reported properly, providing an adequate basis for reliable financial statements. Our management has used the criteria established in Internal Control – Integrated Framework (2013 framework) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) to evaluate the effectiveness of our internal control over financial reporting. Our management has assessed the effectiveness of our internal control over financial reporting as of December 31, 2022, and has concluded that such internal control over financial reporting is effective. There are no material weaknesses in our internal control over financial reporting that have been identified by our management. Ernst & Young LLP, an independent registered public accounting firm, has audited our consolidated financial statements for the year ended December 31, 2022, and has also issued an attestation report, which is included herein, on internal control over financial reporting in accordance with the standards of the Public Company Accounting Oversight Board (“PCAOB”). 73 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES REPORTS OF ERNST & YOUNG LLP, INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM (PCAOB ID: 42 ) REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING To the Shareholders and the Board of Directors of Zions Bancorporation, National Association Opinion on Internal Control Over Financial Reporting We have audited Zions Bancorporation, National Association’s (“the Bank” ) internal control over financial reporting as of December 31, 2022 , based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (“the COSO criteria”). In our opinion, the Bank maintained, in all material respects, effective internal control over financial reporting as of December 31, 2022 , based on the COSO criteria. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the 2022 consolidated financial statements of the Bank and our report dated February 23, 2023, expressed an unqualified opinion thereon. Basis for Opinion The Bank’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Report on Management’s Assessment of Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Bank’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Bank in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. Definition and Limitations of Internal Control Over Financial Reporting A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. /s/ Ernst & Young LLP Salt Lake City, Utah February 23, 2023 74 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES REPORT ON CONSOLIDATED FINANCIAL STATEMENTS To the Shareholders and the Board of Directors of Zions Bancorporation, National Association Opinion on the Financial Statements We have audited the accompanying consolidated balance sheets of Zions Bancorporation, National Association (“the Bank”) as of December 31, 2022 and 2021, the related consolidated statements of income, comprehensive income (loss), changes in shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2022, and the related notes (collectively referred to as the “ consolidated financial statements ” ). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Bank at December 31, 2022 and 2021, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2022, in conformity with U.S. generally accepted accounting principles. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) ( “PCAOB” ), the Bank’s internal control over financial reporting as of December 31, 2022, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework), and our report dated February 23, 2023 expressed an unqualified opinion thereon. Basis for Opinion These financial statements are the responsibility of the Bank’s management. Our responsibility is to express an opinion on the Bank’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Bank in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion. Critical Audit Matter The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and tha (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the account and the disclosures to which it relates. 75 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Allowance for loan and lease losses Description of the Matter The Bank’s loan and lease portfolio and the associated allowance for loan and lease losses (ALLL), were $55.7 billion and $575 million as of December 31, 2022, respectively. The provision for loan and lease losses was $101 million for the year ended December 31, 2022. As discussed in Note 1 and 6 to the consolidated financial statements, the ALLL represented the Bank’s estimate of current expected credit losses over the contractual remaining life of the loan and lease portfolio as of the consolidated balance sheet date. Management’s ALLL estimate includes quantitative calculations based on the statistical analysis of historical loss experience dependent on weighted economic scenarios and other loan-level characteristics forecasted over a reasonable period, losses estimated using historical loss experience for periods outside the reasonable economic forecast period (collectively the quantitative portion), supplemented with qualitative adjustments that bring the ALLL to the level management deemed appropriate based on factors that are not fully considered in the quantitative analysis. The statistical analysis of historical loss experience was derived from credit loss models used to determine the quantitative portion of the ALLL. Judgment was required by management to determine the weightings of the economic scenarios and the magnitude of the impact of the qualitative adjustments to the ALLL. Auditing management’s estimate of the ALLL is complex due to the judgment used to weigh the economic scenarios and the judgment involved in determining the magnitude of the impact of the various risk factors used to derive the qualitative adjustments to the ALLL. How We Addressed the Matter in Our Audit We obtained an understanding, evaluated the design and tested the operating effectiveness of controls that address the risk of material misstatement in determining the weightings of the economic scenarios and in determining the impact of the qualitative adjustments to the ALLL. We tested controls over the Bank’s ALLL governance process, model development and model risk management as it relates to the credit loss models used in the ALLL process. Such testing included testing controls over model governance, controls over data input into the models, and controls over model calculation accuracy and observing key management meetings where weightings of the economic scenarios and the magnitude of qualitative adjustments are reviewed and approved. To test the reasonableness of the weightings of the economic scenarios, our procedures consisted of obtaining an understanding of the forecasted economic scenarios used, including agreeing the economic scenarios to third party published data and economic scenarios developed from market information as well as evaluating management’s methodology, including the economic scenario weighting process. We also performed analytical procedures and sensitivity analyses on the weightings of the economic scenarios and searched for and evaluated information that corroborated or contradicted these weightings. Regarding the completeness of qualitative adjustments identified and incorporated into measuring the ALLL, we evaluated the potential impact of imprecision in the credit loss models and emerging risks related to changes in the economic environment impacting the Bank's loan and lease portfolio. We also evaluated and tested internal and external data used in the qualitative adjustments by agreeing significant inputs and underlying data to internal and external sources. Further, we assessed whether the total amount of the ALLL estimate was consistent with the Bank’s historical loss information, peer bank information, credit quality statistics, subsequent events and transactions, and publicly observable indicators of macroeconomic financial conditions and whether the total ALLL amount was reflective of current expected losses in the loan and lease portfolio as of the consolidated balance sheet date. /s/ Ernst & Young LLP We have served as the Bank’s auditor since 2000. Salt Lake City, Utah February 23, 2023 76 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) December 31, 2022 2021 ASSETS Cash and due from banks $ 657 $ 595 Money market investments: Interest-bearing deposits 1,340 10,283 Federal funds sold and securities purchased under agreements to resell 2,426 2,133 Investment securiti Held-to-maturity, at amortized cost (fair value $ 11,239 and $ 443 ) 11,126 441 Available-for-sale, at fair value 11,915 24,048 Trading account, at fair value 465 372 Total investment securities 23,506 24,861 Loans held for sale 8 83 Loans and leases, net of unearned income and fees 55,653 50,851 Less allowance for loan and lease losses 575 513 Loans, net of allowance 55,078 50,338 Other noninterest-bearing investments 1,130 851 Premises, equipment and software, net 1,408 1,319 Goodwill and intangibles 1,065 1,015 Other real estate owned 3 8 Other assets 2,924 1,714 Total assets $ 89,545 $ 93,200 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 35,777 $ 41,053 Interest-bearin Savings and money market 33,566 40,114 Time 2,309 1,622 Total deposits 71,652 82,789 Federal funds and other short-term borrowings 10,417 903 Long-term debt 651 1,012 Reserve for unfunded lending commitments 61 40 Other liabilities 1,871 993 Total liabilities 84,652 85,737 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 440 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 148,664 and 151,625 shares and additional paid-in capital) 1,754 1,928 Retained earnings 5,811 5,175 Accumulated other comprehensive income ( 3,112 ) ( 80 ) Total shareholders’ equity 4,893 7,463 Total liabilities and shareholders’ equity $ 89,545 $ 93,200 See accompanying notes to consolidated financial statements. 77 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF INCOME (In millions, except shares and per share amounts) Year Ended December 31, 2022 2021 2020 Interest income: Interest and fees on loans $ 2,112 $ 1,935 $ 2,050 Interest on money market investments 81 21 14 Interest on securities 512 311 304 Total interest income 2,705 2,267 2,368 Interest expense: Interest on deposits 70 30 105 Interest on short- and long-term borrowings 115 29 47 Total interest expense 185 59 152 Net interest income 2,520 2,208 2,216 Provision for credit loss Provision for loan losses 101 ( 258 ) 385 Provision for unfunded lending commitments 21 ( 18 ) 29 Total provision for credit losses 122 ( 276 ) 414 Net interest income after provision for credit losses 2,398 2,484 1,802 Noninterest income: Commercial account fees 159 137 132 Card fees 104 95 82 Retail and business banking fees 73 74 68 Loan-related fees and income 80 95 109 Capital markets and foreign exchange fees 83 70 70 Wealth management fees 55 50 44 Other customer-related fees 60 54 44 Customer-related noninterest income 614 575 549 Fair value and nonhedge derivative income (loss) 16 14 ( 6 ) Dividends and other income 17 43 24 Securities gains (losses), net ( 15 ) 71 7 Total noninterest income 632 703 574 Noninterest expense: Salaries and employee benefits 1,235 1,127 1,087 Technology, telecom, and information processing 209 199 192 Occupancy and equipment, net 152 153 151 Professional and legal services 57 72 57 Marketing and business development 39 43 61 Deposit insurance and regulatory expense 50 34 33 Credit-related expense 30 26 22 Other real estate expense, net 1 — 1 Other 105 87 100 Total noninterest expense 1,878 1,741 1,704 Income before income taxes 1,152 1,446 672 Income taxes 245 317 133 Net income 907 1,129 539 Preferred stock dividends ( 29 ) ( 29 ) ( 34 ) Net earnings applicable to common shareholders $ 878 $ 1,100 $ 505 Weighted average common shares outstanding during the y Basic shares (in thousands) 150,064 159,913 163,737 Diluted shares (in thousands) 150,271 160,234 165,613 Net earnings per common sh Basic $ 5.80 $ 6.80 $ 3.06 Diluted 5.79 6.79 3.02 See accompanying notes to consolidated financial statements. 78 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (In millions) Year Ended December 31, 2022 2021 2020 Net income $ 907 $ 1,129 $ 539 Other comprehensive income (loss), net of t Net unrealized holding gains (losses) on investment securities ( 2,722 ) ( 336 ) 229 Net unrealized gains (losses) on other noninterest-bearing investments ( 2 ) 3 1 Net unrealized holding gains (losses) on derivative instruments ( 330 ) ( 26 ) 76 Reclassification adjustment for decrease (increase) in interest income recognized in earnings on derivative instruments 21 ( 46 ) ( 36 ) Pension and post-retirement 1 — 12 Other comprehensive income (loss), net of tax ( 3,032 ) ( 405 ) 282 Comprehensive income (loss) $ ( 2,125 ) $ 724 $ 821 See accompanying notes to consolidated financial statements. 79 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2019 $ 566 165,057 $ — $ 2,735 $ 4,009 $ 43 $ 7,353 Net income 539 539 Cumulative effect adjustment, adoption of ASU 2016-13, Credit Loss Measurement of Credit Losses on Financial Instruments 20 20 Other comprehensive income, net of tax 282 282 Bank common stock repurchased ( 1,686 ) ( 76 ) ( 76 ) Net shares issued from stock warrant exercises 1 Net activity under employee plans and related tax benefits 718 27 27 Dividends on preferred stock ( 34 ) ( 34 ) Dividends on common stock, $ 1.36 per share ( 225 ) ( 225 ) Balance at December 31, 2020 566 164,090 — 2,686 4,309 325 7,886 Net income 1,129 1,129 Other comprehensive loss, net of tax ( 405 ) ( 405 ) Bank common stock repurchased ( 13,521 ) ( 800 ) ( 800 ) Preferred stock redemption ( 126 ) 3 ( 3 ) ( 126 ) Net activity under employee plans and related tax benefits 1,056 39 39 Dividends on preferred stock ( 29 ) ( 29 ) Dividends on common stock, $ 1.44 per share ( 232 ) ( 232 ) Change in deferred compensation 1 1 Balance at December 31, 2021 440 151,625 — 1,928 5,175 ( 80 ) 7,463 Net income 907 907 Other comprehensive loss, net of tax ( 3,032 ) ( 3,032 ) Bank common stock repurchased ( 3,581 ) ( 202 ) ( 202 ) Net activity under employee plans and related tax benefits 620 28 28 Dividends on preferred stock ( 29 ) ( 29 ) Dividends on common stock, $ 1.58 per share ( 240 ) ( 240 ) Change in deferred compensation ( 2 ) ( 2 ) Balance at December 31, 2022 $ 440 148,664 $ — $ 1,754 $ 5,811 $ ( 3,112 ) $ 4,893 See accompanying notes to consolidated financial statements. 80 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ZIONS BANCORPORATION, NATIONAL ASSOCIATION CONSOLIDATED STATEMENTS OF CASH FLOWS (In millions) Year Ended December 31, 2022 2021 2020 CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 907 $ 1,129 $ 539 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses 122 ( 276 ) 414 Depreciation and amortization 110 ( 14 ) 86 Share-based compensation 30 28 26 Deferred income tax expense (benefit) ( 43 ) 32 ( 58 ) Net increase in trading securities ( 93 ) ( 107 ) ( 83 ) Net decrease (increase) in loans held for sale 48 14 ( 10 ) Change in other liabilities 892 13 57 Change in other assets ( 457 ) ( 78 ) ( 223 ) Other, net ( 46 ) ( 112 ) ( 29 ) Net cash provided by operating activities 1,470 629 719 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease (increase) in money market investments 8,650 ( 5,577 ) ( 5,611 ) Proceeds from maturities and paydowns of investment securities held-to-maturity 445 457 386 Purchases of investment securities held-to-maturity ( 399 ) ( 262 ) ( 430 ) Proceeds from sales, maturities, and paydowns of investment securities available-for-sale 3,309 4,748 4,339 Purchases of investment securities available-for-sale ( 5,829 ) ( 13,647 ) ( 6,151 ) Net change in loans and leases ( 4,628 ) 2,814 ( 4,687 ) Purchases and sales of other noninterest-bearing investments ( 298 ) 63 79 Purchases of premises and equipment ( 190 ) ( 206 ) ( 171 ) Acquisition of Nevada branches, net of cash acquired 318 — — Other, net 27 31 42 Net cash provided by (used in) investing activities 1,405 ( 11,579 ) ( 12,204 ) CASH FLOWS FROM FINANCING ACTIVITIES Net (decrease) increase in deposits ( 11,567 ) 13,136 12,568 Net change in short-term funds borrowed 9,514 ( 669 ) ( 481 ) Cash paid for preferred stock redemption — ( 126 ) — Redemption of long-term debt ( 290 ) ( 286 ) ( 429 ) Bank common stock repurchased ( 202 ) ( 800 ) ( 76 ) Proceeds from the issuance of common stock 9 21 8 Dividends paid on common and preferred stock ( 269 ) ( 261 ) ( 259 ) Other, net ( 8 ) ( 13 ) ( 8 ) Net cash provided by (used in) financing activities ( 2,813 ) 11,002 11,323 Net increase (decrease) in cash and due from banks 62 52 ( 162 ) Cash and due from banks at beginning of year 595 543 705 Cash and due from banks at end of year $ 657 $ 595 $ 543 Cash paid for interest $ 160 $ 81 $ 195 Net cash paid for income taxes 21 442 169 Noncash activiti Loans held for investment transferred to other real estate owned — 25 4 Loans held for investment reclassified to loans held for sale, net 114 120 ( 11 ) Investment securities available-for-sale transferred to held-to-maturity, at amortized cost (fair value $ 10,691 ) 13,097 — — Deposits acquired in purchase of Nevada branches 430 — — Loans acquired in purchase of Nevada branches, net 95 — — See accompanying notes to consolidated financial statements. 81 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ZIONS BANCORPORATION, N.A. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS December 31, 2022 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Business Zions Bancorporation, National Association (“Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) is a bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed affiliat Zions Bank in Utah, Idaho, and Wyoming; California Bank & Trust (“CB&T”); Amegy Bank (“Amegy”) in Texas; National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”) in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under The Commerce Bank of Oregon in Oregon. Basis of Financial Statement Presentation and Principles of Consolidation The consolidated financial statements include our accounts and those of our majority-owned, consolidated subsidiaries. Unconsolidated investments where we have the ability to exercise significant influence over the operating and financial policies of the respective investee are accounted for using the equity method of accounting. All intercompany accounts and transactions have been eliminated in consolidation. Assets held in an agency or fiduciary capacity are not included in the consolidated financial statements. The consolidated financial statements have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) and prevailing practices within the financial services industry. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. Prior year amounts have been reclassified to conform with the current year presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Effective for the first quarter of 2022, we made certain financial reporting changes and reclassifications to noninterest expense in our Consolidated Statements of Income. These financial reporting changes were made primarily to improve the presentation and disclosure of certain expenses related to our ongoing technology initiatives. Other noninterest expense line items were impacted by these changes and reclassifications. These changes and reclassifications (1) were adopted retrospectively to January 1, 2020, (2) reflect changes only to noninterest expense in the Consolidated Statements of Income, and (3) do not impact net income, net interest income, or noninterest income. Subsequent Events We evaluated events that occurred between December 31, 2022 and the date the accompanying financial statements were issued, and determined that there were no material events that would require adjustments to our consolidated financial statements or significant disclosure in the accompanying Notes. Variable Interest Entities A variable interest entity (“VIE”) is consolidated when we are the primary beneficiary of the VIE. Current accounting guidance requires continuous analysis to determine the primary beneficiary of a VIE. At the commencement of our involvement, and periodically thereafter, we consider our consolidation conclusions for all entities with which we are involved. At December 31, 2022, and 2021, we had no VIEs that have been consolidated in our financial statements. 82 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Statement of Cash Flows For purposes of presentation in the consolidated statements of cash flows, “cash and cash equivalents” are defined as those amounts included in cash and due from banks in the consolidated balance sheets. Fair Value Estimates We measure many of our assets and liabilities on a fair value basis. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. To improve consistency and comparability in fair value measurements, GAAP has established a hierarchy to prioritize the valuation inputs among three levels. We prioritize quoted prices in active markets and minimize reliance on unobservable inputs when possible. When observable market prices are not available, fair value is estimated using modeling techniques requiring professional judgment to estimate the appropriate fair value. These valuation techniques use assumptions that market participants would consider in pricing the asset or the liability. Changes in market conditions may reduce the availability of quoted prices or observable data. See Note 3 for further information regarding the use of fair value estimates. Securities Purchased Under Agreements to Resell Securities purchased under agreements to resell represent overnight and term agreements with the majority maturing within 30 days. These agreements are generally treated as collateralized financing transactions and are carried at amounts at which the securities were acquired plus accrued interest. Either we, or in some instances third parties on our behalf, take possession of the underlying securities. The fair value of such securities is monitored throughout the contract term to ensure that asset values remain sufficient to protect against counterparty default. We are permitted by contract to sell or repledge certain securities that we accept as collateral for securities purchased under agreements to resell. If sold, our obligation to return the collateral is recorded as “securities sold, not yet purchased” and included as a liability in “Federal funds and other short-term borrowings.” At December 31, 2022, and 2021, we held $ 2.3 billion and $ 2.0 billion of securities for which we were permitted by contract to sell or repledge, respectively. Securities purchased under agreements to resell averaged $ 2.4 billion and $ 2.1 billion during 2022 and 2021, and the maximum amount outstanding at any month-end during those same time periods was $ 2.7 billion and $ 3.6 billion, respectively. Investment Securities We classify our investment securities according to their purpose and holding period. Gains or losses on the sale of securities are recognized using the specific identification method and recorded in noninterest income. Held-to-maturity (“HTM”) debt securities are carried at amortized cost with purchase discounts or premiums accreted or amortized into interest income over the contractual life of the security. We have the intent and ability to hold such securities until maturity. For HTM securities, the allowance for credit losses (“ACL”) is assessed consistent with the approach described in Note 6 for loans carried at amortized cost. Available-for-sale (“AFS”) securities are measured at fair value and generally consist of debt securities held for investment. Unrealized gains and losses of AFS securities, after applicable taxes, are recorded as a component of other comprehensive income (“OCI”). AFS securities in an unrealized loss position are formally reviewed on a quarterly basis for the presence of credit impairment. If we have the intent to sell an identified security, or it is more likely than not we will be required to sell the security before recovery of its amortized cost basis, we write the amortized cost down to the security's fair value at the reporting date through earnings. If we have the intent and ability to hold the securities, they are analyzed to determine whether any impairment was attributable to credit-related factors. If a credit impairment is determined to exist, then we measure the amount of credit loss and recognize an allowance for the credit loss. The process, methodology, and factors considered to evaluate securities for impairment are described further in Note 5. Transfers of debt securities into the HTM category from the AFS category are made at fair value at the transfer date. Any unrealized holding gains or losses at the transfer date are retained in other comprehensive income (loss) and in the carrying value of the HTM securities. Such amounts are amortized over the remaining life of the security. 83 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Trading securities are measured at fair value and consist of securities generally held for only a short period of time. Realized and unrealized gains and losses are recorded in trading income, which is included in “Capital markets and foreign exchange fees” line item in the income statement. See Note 3 for further information regarding the measurement of our investment securities at fair value. Leases All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “Other assets,” and “Premises, equipment and software, net,” respectively. The corresponding liabilities for those leases are presented in “Other liabilities,” and “Long-term debt.” See Note 8 for further information regarding the accounting for leases. Loans Loans are reported at their amortized cost basis, which includes the principal amount outstanding, net of unamortized purchase premiums, discounts, and deferred loan fees and costs, which are amortized into interest income over the life of the loan using the interest method. At the time of origination, we determine whether loans will be held for investment or held for sale. We may subsequently change our intent for a loan or group of loans and reclassify them accordingly. Loans held for sale are carried at the lower of aggregate cost or fair value. A valuation allowance is recorded when cost exceeds fair value based on reviews at the time of reclassification and periodically thereafter. Gains and losses are recorded in “Loan-related fees and income” in noninterest income based on the difference between sales proceeds and carrying value. We evaluate loans throughout their lives for signs of credit deterioration, which may impact the loan status, risk- grading, and potentially impact the accounting for that loan. Loan status categories include past due as to contractual payments, accruing or nonaccruing, and restructured, including troubled debt restructurings (“TDRs”), which will no longer be designated after the adoption of ASU 2022-02, Financial Instruments--Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures , beginning January 1, 2023 as discussed in Note 2. Our accounting policies for loans and our estimation of the related ACL are described further in Note 6. In the ordinary course of business, we may syndicate portions of loans or transfer portions of loans under participation agreements to manage credit risk and our portfolio concentration. We evaluate the loan participations to determine if they meet the appropriate accounting guidance to qualify as sales. Certain purchased loans require separate accounting procedures that are also described in Note 6. Allowance for Credit Losses The ACL, which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. The ACL for debt securities is estimated separately from loans. See Note 6 for further discussion of our estimation process for the ACL. Other Noninterest-bearing Investments These investments include private equity investments (“PEIs”), venture capital securities, securities acquired for various debt and regulatory requirements, bank-owned life insurance (“BOLI”), and certain other noninterest-bearing investments. See further discussion in Note 3. Certain PEIs and venture capital securities are accounted for under the equity method when we are able to exercise significant influence over the operating and financial policies of the investee. Equity investments in PEIs that do not give us significant influence are reported at fair value, unless there is not a readily determinable fair value. We have elected to measure PEIs without readily determinable fair values at cost less impairment (if any), plus or minus observable price changes from an identical or similar investment of the same issuer, referred to as the “measurement alternative.” 84 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Periodic reviews are conducted for impairment by comparing carrying values with estimates of fair value. Changes in fair value, impairment losses, and gains and losses from sales are recognized in the “Securities gains and losses, net” line item in noninterest income. BOLI is accounted for at fair value based on the cash surrender values (“CSVs”) of the general account insurance policies. Premises, Equipment, and Software Premises, equipment, and software are reported at cost, net of accumulated depreciation and amortization. Depreciation, computed primarily on the straight-line method, is charged to operations over the estimated useful lives of the properties, generally 25 to 40 years for buildings, three to 10 years for furniture and equipment, and three to 10 years for software, including capitalized costs related to our technology initiatives. Leasehold improvements are amortized over the terms of the respective leases (including any extension options that are reasonably certain to be exercised) or the estimated useful lives of the improvements, whichever is shorter. Premises, equipment, and software are evaluated for impairment on a periodic basis. Goodwill and Intangible Assets Goodwill is recorded at fair value at the time of its acquisition and is subsequently evaluated for impairment annually, or more frequently if conditions warrant. Business Combinations Business combinations are accounted for under the acquisition method of accounting. Upon initially obtaining control, we recognize 100 % of all acquired assets and all assumed liabilities, regardless of the percentage owned. The assets and liabilities are recorded at their estimated fair values, with goodwill being recorded when such fair values are less than the cost of acquisition. Certain transaction and restructuring costs are expensed as incurred. Changes to estimated fair values from a business combination are recognized as an adjustment to goodwill over the measurement period, which cannot exceed one year from the acquisition date. Results of operations of acquired businesses are included in our statement of income from the date of acquisition. Other Real Estate Owned Other real estate owned (“OREO”) consists primarily of commercial and residential real estate acquired in partial or total satisfaction of loan obligations. Amounts are recorded initially at fair value (less estimated selling costs) based on recent property appraisals at the time of transfer and subsequently at the lower of cost or fair value (less estimated selling costs). Derivative Instruments We use derivative instruments such as swaps and purchased and sold options as an important tool used in managing our overall asset and liability sensitivities to remain within our stated interest rate risk thresholds. Their use allows us to adjust and align our mix of fixed- and floating-rate assets and liabilities to manage interest income volatility by synthetically converting variable-rate assets to fixed-rate, or synthetically converting fixed-rate funding instruments to floating rates. We also execute both interest rate and short-term foreign currency derivative instruments with our commercial banking customers to facilitate their risk management objectives. These derivatives are hedged by entering into offsetting derivatives with third parties such that we minimize our net risk exposure as a result of such transactions. We record all derivatives at fair value, and they are included on the consolidated balance sheet in “Other assets” or “Other liabilities.” The accounting for the change in value of a derivative depends on whether or not the transaction has been designated and qualifies for hedge accounting. Derivatives that are not designated as hedges are reported and measured at fair value through earnings. See Note 7 for more information. 85 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Derivatives Designated in Qualifying Hedging Relationships We apply hedge accounting to certain derivatives executed for risk management purposes, primarily interest rate risk. To qualify for hedge accounting, a derivative must be highly effective at reducing the risk associated with the exposure being hedged and the hedging relationship must be formally documented. We primarily use regression analysis to assess the effectiveness of each hedging relationship, unless the hedge qualifies for other methods of assessing effectiveness (e.g., shortcut or critical terms match), both at inception and on an ongoing basis. We designate derivatives as fair value and cash flow hedges for accounting purposes. See Note 7 for more information regarding the accounting for derivatives designated as hedging instruments. Commitments and Letters of Credit In the ordinary course of business, we enter into loan commitments, commercial letters of credit, and standby letters of credit. Such financial instruments are recorded in the financial statements when they are funded. The credit risk associated with these commitments is evaluated in a manner similar to the ALLL. The RULC is presented separately on the consolidated balance sheet in “Other liabilities.” Revenue Recognition Revenue from contracts with customers is recognized when control of the promised goods or services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those goods or services. See Note 17 for further information regarding how we recognize revenue for contracts with customers. Share-based Compensation Share-based compensation generally includes grants of stock options, restricted stock, restricted stock units (“RSUs”), and other awards to employees and nonemployee directors. We recognize compensation expense in the statement of income based on the grant-date value of the associated share-based awards. See further discussion in Note 19. Income Taxes Deferred tax assets (“DTAs”) and deferred tax liabilities (“DTLs”) are determined based on temporary differences between financial statement asset and liability amounts and their respective tax basis, and are measured using enacted tax laws and rates. The effect of a change in tax rates on DTAs and DTLs is recognized into income in the period that includes the enactment date. DTAs are recognized insofar that management deems it more likely than not that they will be realized. Unrecognized tax benefits for uncertain tax positions primarily relate to tax credits on technology initiatives. See Note 20 for more information about the factors that impacted our effective tax rate, significant components of our DTAs and DTLs, including our assessment regarding valuation allowances and unrecognized tax benefits for uncertain tax positions. Net Earnings Per Common Share Net earnings per common share is based on net earnings applicable to common shareholders, which is net of preferred stock dividends. Basic net earnings per common share is based on the weighted average outstanding common shares during each year. Unvested share-based awards with rights to receive nonforfeitable dividends are considered participating securities and are included in the computation of basic earnings per share. Diluted net earnings per common share is based on the weighted average outstanding common shares during each year, including common stock equivalents. Stock options, restricted stock, RSUs, and stock warrants are converted to common stock equivalents using the more dilutive of the treasury stock method or the two-class method. Diluted net earnings per common share excludes common stock equivalents whose effect is antidilutive. See further discussion in Note 21. 86 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 2. RECENT ACCOUNTING PRONOUNCEMENTS Standard Description Date of adoption Effect on the financial statements or other significant matters Standards not yet adopted by the Bank as of December 31, 2022 ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures This accounting standards update (“ASU”) eliminates the recognition and measurement guidance on troubled debt restructurings for creditors that have adopted ASC 326 (“CECL”), and eliminates certain existing TDR disclosures while requiring enhanced disclosures about loan modifications for borrowers experiencing financial difficulty. The new standard also requires public companies to present gross write-offs (on a year-to-date basis for interim-period disclosures) by year of origination in their vintage disclosures. The new standard is effective for calendar year-end public companies beginning January 1, 2023, with early adoption permitted. Periods beginning after December 15, 2022 We have implemented processes to capture necessary data in order to comply with the new disclosure requirements. The overall effect of this standard is not expected to have a material impact on our financial statements. We adopted the guidance in the new standard on January 1, 2023. ASU 2022-03, Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions This ASU clarifies that contractual restrictions prohibiting the sale of an equity security are not considered part of the unit of account of the equity security, and therefore, are not considered in measuring fair value. The amendments clarify that an entity cannot recognize and measure a contractual sale restriction as a separate unit of account. The amendments in this ASU also require additional qualitative and quantitative disclosures for equity securities subject to contractual sale restrictions. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 The requirements of this ASU are consistent with our current treatment of equity securities subject to contractual sale restrictions and are not expected to impact the fair value measurements of these securities. We are evaluating supplementary disclosure requirements and additional data needed to meet these requirements. The overall effect of this standard is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. 87 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Standard Description Date of adoption Effect on the financial statements or other significant matters Standards adopted by the Bank in 2022 ASU 2022-06, Reference Rate Reform (Topic 848): Deferral of The Sunset Date of Topic 848 As part of reference rate reform, the London Interbank Offered Rate (“LIBOR”) is expected to be discontinued and be replaced by observable or transaction-based alternative reference rates. ASC 848, Reference Rate Reform , provided temporary optional expedients and exceptions tha (1) modify the accounting requirements for contract modifications for contracts that reference LIBOR, (2) provide for a one-time election to sell or transfer to AFS or trading certain qualifying HTM debt securities, and (3) provide various optional expedients for hedging relationships affected by reference rate reform. These practical expedients were originally set to expire on December 31, 2022. In March 2021, the Financial Conduct Authority (“FCA”) extended the cessation date of most common tenors of United States Dollar (“USD”) LIBOR to June 30, 2023, beyond the original sunset date of ASC 848. ASU 2022-06 extends the original sunset date of the practical expedients detailed in ASC 848 to December 31, 2024. December 31, 2022 We adopted ASC 848 on April 1, 2020. As of December 31, 2022, we had transitioned a significant portion of our legacy LIBOR-based contracts to alternative reference rates. The extension of the sunset date in ASC 848 will facilitate the transition of the remaining contracts away from LIBOR, but is not expected to have a material impact on the Bank. The amendments in ASU 2022-06 became effective upon issuance of the Update. 3. FAIR VALUE Fair Value Measurement Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. To measure fair value, a hierarchy has been established that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs. This hierarchy uses the following three levels of inputs to measure the fair value of assets and liabiliti Level 1 — Quoted prices in active markets for identical assets or liabilities that we have the ability to access; Level 2 — Observable inputs other than Level 1, including quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in less active markets, observable inputs other than quoted prices that are used in the valuation of an asset or liability, and inputs that are derived principally from or corroborated by observable market data by correlation or other means; and Level 3 — Unobservable inputs supported by little or no market activity for financial instruments whose value is determined by pricing models, discounted cash flow methodologies or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. The level in the fair value hierarchy within which the fair value measurement is classified is determined based on the lowest level input that is significant to the fair value measurement in its entirety. Market activity is presumed to be orderly in the absence of evidence of forced or disorderly sales. Applicable accounting guidance precludes the use of blockage factors or liquidity adjustments due to the quantity of securities held by an entity. We measure certain assets and liabilities at fair value on a recurring basis when fair value is the primary measure for accounting. Fair value is used on a nonrecurring basis to measure certain assets, such as the application of lower of 88 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES cost or fair value accounting and the recognition of impairment on assets. Fair value is also used when providing required disclosures for certain financial instruments. Fair Value Policies and Procedures We have various policies, processes, and controls in place to ensure that fair values are reasonably developed, reviewed, and approved for use. These include a Securities Valuation Committee, comprised of executive management, that reviews and approves on a quarterly basis the key components of fair value measurements, including critical valuation assumptions for Level 3 measurements. Our Model Risk Management Group conducts model validations, including internal models, and sets policies and procedures for revalidation, including the timing of revalidation. Third-party Service Providers We use a third-party pricing service to measure fair value for substantially all of our Level 2 AFS securities. Fair value measurements for other Level 2 AFS securities generally use inputs corroborated by market data and include standard discounted cash flow analysis. For Level 2 securities, the third-party pricing service provides documentation on an ongoing basis that presents market data, including detailed pricing information and market reference data. The documentation includes benchmark yields, reported trades, broker-dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, and reference data, including information from the vendor trading platform. We review, test, and validate this information on a regular basis. The following describes the hierarchy designations, valuation methodologies and key inputs to measure fair value on a recurring basis for designated financial instruments: Available-for-Sale • U.S. Treasury, Agencies and Corporations — U.S. Treasury securities measured using quoted market prices are classified in Level 1. U.S. agency and corporate securities measured using observable market inputs are classified in Level 2. • Municipal Securities — Municipal securities are measured using observable market inputs and are classified in Level 2. • Other Debt Securities — Other debt securities are measured using quoted prices for similar securities and are classified in Level 2. Trading Trading securities are measured using observable market inputs and are classified in Level 1 and Level 2. Bank-owned Life Insurance BOLI is measured according to the cash surrender value (“CSV”) of the insurance policies. Nearly all policies are general account policies with CSVs based on our claims on the assets of the insurance companies. The insurance companies’ investments include predominantly fixed-income securities consisting of investment-grade corporate bonds and various types of mortgage instruments. Management regularly reviews its BOLI investment performance, including concentrations among insurance providers and classifies BOLI balances in Level 2. Private Equity Investments PEIs carried at fair value on a recurring basis are generally classified in Level 3 because related measurements include unobservable inputs. Key assumptions and considerations include current and projected financial performance, recent financing activities, economic and market conditions, market comparable companies, market liquidity, and other factors. The majority of these PEIs are held in our Small Business Investment Company (“SBIC”) and are early-stage venture investments. These investments are reviewed at least quarterly by the Securities Valuation Committee and whenever a new round of financing occurs. Certain of these investments may be measured using multiples of operating performance. The Equity Investments Committee reviews periodic 89 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES financial information for these investments, including audited financial statements when available. On occasion, PEIs may become publicly traded and are measured in Level 1. Certain restrictions apply for the redemption of these investments. See additional discussions in Note 5. Agriculture Loan Servicing We service agriculture loans approved and funded by Federal Agricultural Mortgage Corporation (“FAMC”), and provide this servicing under an agreement with FAMC for the loans it owns. The servicing assets are measured at fair value, which represents our projection of the present value of future cash flows. Because related measurements include unobservable inputs, these assets are classified in Level 3. Interest-only Strips Interest-only strips are created as a by-product of securitizing U.S. Small Business Administration (“SBA”) loan pools. When the guaranteed portions of SBA 7(a) loans are pooled, interest-only strips may be created in the pooling process. The asset’s fair value is measured using discounted cash flow methodologies that incorporate unobservable inputs, and therefore are classified in Level 3. Deferred Compensation Plan Assets Invested assets in the deferred compensation plan consist of shares of registered investment companies. These mutual funds are valued using quoted market prices, which represents the net asset value (“NAV”) of shares held by the plan at the end of the period. As such, these assets are classified in Level 1. Derivatives Exchange-traded derivatives, including foreign currency exchange contracts, are generally classified in Level 1 because they are traded in active markets. Over-the-counter derivatives, consisting primarily of interest rate swaps and options, are generally classified in Level 2 as the related fair values are obtained from third-party services that utilize observable market inputs. Observable market inputs include yield curves, foreign exchange rates, commodity prices, option volatility, counterparty credit risk, and other related data. Valuations include credit valuation adjustments (“CVAs”) to reflect nonperformance risk for both us and our counterparties. CVAs are determined generally by applying a credit spread to the total expected exposure (net of any collateral) of the derivative. Securities Sold, Not Yet Purchased Securities sold, not yet purchased, included in “Federal funds and other short-term borrowings” on the consolidated balance sheet, are measured using quoted market prices and are generally classified in Level 1. If market prices for identical securities are not available, quoted prices for similar securities are used with the related balances classified in Level 2. 90 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Quantitative Disclosure by Fair Value Hierarchy Assets and liabilities measured at fair value by class on a recurring basis are summarized as follows: (In millions) December 31, 2022 Level 1 Level 2 Level 3 Total ASSETS Investment securiti Available-for-s U.S. Treasury, agencies and corporations $ 393 $ 9,815 $ — $ 10,208 Municipal securities 1,634 1,634 Other debt securities 73 73 Total Available-for-sale 393 11,522 — 11,915 Trading account 395 70 465 Other noninterest-bearing investments: Bank-owned life insurance 546 546 Private equity investments 1 4 81 85 Other assets: Agriculture loan servicing and interest-only strips 14 14 Deferred compensation plan assets 114 114 Derivatives 386 386 Total Assets $ 906 $ 12,524 $ 95 $ 13,525 LIABILITIES Securities sold, not yet purchased $ 187 $ — $ — $ 187 Other liabiliti Derivatives 451 451 Total Liabilities $ 187 $ 451 $ — $ 638 1 The level 1 PEIs relate to the portion of our SBIC investments that are now publicly traded. (In millions) December 31, 2021 Level 1 Level 2 Level 3 Total ASSETS Investment securiti Available-for-s U.S. Treasury, agencies and corporations $ 134 $ 22,144 $ — $ 22,278 Municipal securities 1,694 1,694 Other debt securities 76 76 Total Available-for-sale 134 23,914 — 24,048 Trading account 14 358 372 Other noninterest-bearing investments: Bank-owned life insurance 537 537 Private equity investments 35 66 101 Other assets: Agriculture loan servicing and interest-only strips 12 12 Deferred compensation plan assets 138 138 Derivatives 219 219 Total Assets $ 321 $ 25,028 $ 78 $ 25,427 LIABILITIES Securities sold, not yet purchased $ 254 $ — $ — $ 254 Other liabiliti Derivatives 51 51 Total Liabilities $ 254 $ 51 $ — $ 305 91 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments December 31, 2022 December 31, 2021 (In millions) Private equity investments Ag loan servicing & interest-only strips Private equity investments Ag loan servicing & interest-only strips Balance at beginning of year $ 66 $ 12 $ 80 $ 16 Unrealized securities gains (losses), net 3 — 71 — Other noninterest income (expense) — 2 — ( 3 ) Purchases 16 — 17 — Cost of investments sold ( 3 ) — ( 24 ) — Redemptions and paydowns — — — ( 1 ) Transfers out 1 ( 1 ) — ( 78 ) — Balance at end of year $ 81 $ 14 $ 66 $ 12 1 Represents the transfer of SBIC investments out of Level 3 and into Level 1 because they are now publicly traded. The rollforward of Level 3 instruments includes the following realized gains and losses recognized in securities gains (losses) on the consolidated statement of income for the periods present (In millions) Year Ended December 31, 2022 2021 Securities gains (losses), net $ ( 2 ) $ 31 Nonrecurring Fair Value Measurements Certain assets and liabilities may be recorded at fair value on a nonrecurring basis, including impaired loans that have been measured based on the fair value of the underlying collateral, OREO, and equity investments without readily determinable fair values. Nonrecurring fair value adjustments generally include changes in value resulting from observable price changes for equity investments without readily determinable fair values, write-downs of individual assets, or the application of lower of cost or fair value accounting. At December 31, 2022, we had an insignificant amount of assets or liabilities that had fair value changes measured on a nonrecurring basis. Loans that are collateral dependent were measured at the lower of amortized cost or the fair value of the collateral. OREO was measured initially at fair value based on collateral appraisals at the time of transfer and subsequently at the lower of cost or fair value (less any selling costs). Measurement of fair value for collateral-dependent loans and OREO was based on third-party appraisals that utilize one or more valuation techniques (income, market and/or cost approaches). Any adjustments to calculated fair value were made based on recently completed and validated third-party appraisals, third-party appraisal services, automated valuation services, or our informed judgment. Automated valuation services may be used primarily for residential properties when values from any of the previous methods were not available within 90 days of the balance sheet date. These services use models based on market, economic, and demographic values. 92 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Fair Value of Certain Financial Instruments The following schedule presents the carrying values and estimated fair values of certain financial instruments: December 31, 2022 December 31, 2021 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: Held-to-maturity investment securities $ 11,126 $ 11,239 2 $ 441 $ 443 2 Loans and leases (including loans held for sale), net of allowance 55,086 53,093 3 50,421 50,619 3 Financial liabiliti Time deposits 2,309 2,269 2 1,622 1,624 2 Long-term debt 651 635 2 1,012 1,034 2 The schedule above does not include certain financial instruments that are recorded at fair value on a recurring basis, as well as certain financial assets and liabilities for which the carrying value approximates fair value, such as cash and due from banks; money market investments; demand, savings, and money market deposits; federal funds purchased and other short-term borrowings; and security repurchase agreements. The estimated fair value of demand, savings and money market deposits is the amount payable on demand at the reporting date. Carrying value is used because the accounts have no stated maturity, and the customer has the ability to withdraw funds immediately. Time and foreign deposits are measured at fair value by discounting future cash flows using the applicable yield curve to the given maturity dates. Long-term debt is measured at fair value based on actual market trades (i.e., an asset value) when available, or discounting cash flows to maturity using the applicable yield curve adjusted for credit spreads. For loans measured at amortized cost, fair value is estimated for disclosure purposes by discounting future cash flows using the applicable yield curve adjusted by a factor that is derived from analyzing recent loan originations and combined with a liquidity premium inherent in the loan. These future cash flows are then reduced by the estimated life-of-the-loan aggregate credit losses in the loan portfolio (i.e., the allowance for loan and lease losses under the CECL model). The methods used to measure fair value for HTM securities was previously described. These fair value disclosures represent our best estimates based on relevant market information. Fair value estimates are based on judgments regarding current economic conditions, future expected loss experience, risk characteristics of the various instruments, and other factors. These estimates are subjective in nature, involve uncertainties and matters of significant judgment, and cannot be determined with precision. Changes in these methodologies and assumptions would significantly affect the estimates. 93 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 4. OFFSETTING ASSETS AND LIABILITIES Gross and net information for selected financial instruments in the balance sheet is as follows: December 31, 2022 (In millions) Gross amounts not offset in the balance sheet Description Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 2,451 $ ( 25 ) $ 2,426 $ — $ — $ 2,426 Derivatives (included in Other assets ) 386 — 386 ( 10 ) ( 367 ) 9 Total assets $ 2,837 $ ( 25 ) $ 2,812 $ ( 10 ) $ ( 367 ) $ 2,435 Liabiliti Federal funds and other short-term borrowings $ 10,442 $ ( 25 ) $ 10,417 $ — $ — $ 10,417 Derivatives (included in Other liabilities ) 451 — 451 ( 10 ) — 441 Total liabilities $ 10,893 $ ( 25 ) $ 10,868 $ ( 10 ) $ — $ 10,858 December 31, 2021 (In millions) Gross amounts not offset in the balance sheet Description Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 2,133 $ — $ 2,133 $ — $ — $ 2,133 Derivatives (included in Other assets ) 219 — 219 ( 16 ) ( 7 ) 196 Total assets $ 2,352 $ — $ 2,352 $ ( 16 ) $ ( 7 ) $ 2,329 Liabiliti Federal funds and other short-term borrowings $ 903 $ — $ 903 $ — $ — $ 903 Derivatives (included in Other liabilities ) 51 — 51 ( 16 ) ( 1 ) 34 Total liabilities $ 954 $ — $ 954 $ ( 16 ) $ ( 1 ) $ 937 Security repurchase and reverse repurchase agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 94 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 5. INVESTMENTS Investment Securities Investment securities are classified as HTM, AFS, or trading. HTM securities, which management has the intent and ability to hold until maturity, are carried at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. When a security is transferred from AFS to HTM, the difference between its amortized cost basis and fair value at the date of transfer is amortized as a yield adjustment through interest income, and the fair value at the date of transfer, adjusted for subsequent amortization, becomes the security’s amortized cost basis. The amortization of the unrealized losses reported in accumulated other comprehensive income (“AOCI”) will offset the effect of the accretion of the discount in interest income that is created by adjusting the amortized cost basis to the securities’ fair value on the date of the transfer. AFS securities are carried at fair value, and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to AOCI, net of related taxes. Trading securities are carried at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 75 million and $ 65 million at December 31, 2022, and 2021, respectively. These receivables are presented on the consolidated balance sheet in “Other assets.” The purchase premiums for callable debt securities classified as HTM or AFS are amortized into interest income at an effective yield to the earliest call date. The purchase premiums and discounts for all other HTM and AFS securities are recognized in interest income over the contractual life of the security using the effective yield method. As principal prepayments are received on securities, a proportionate amount of the related premium or discount is recognized in income so that the effective yield on the remaining portion of the security continues unchanged. See Note 3 for more information about the process to estimate fair value for investment securities. December 31, 2022 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 100 $ — $ 7 $ 93 Agency guaranteed mortgage-backed securities 1 10,621 165 14 10,772 Municipal securities 405 — 31 374 Total held-to-maturity 11,126 165 52 11,239 Available-for-sale U.S. Treasury securities 557 — 164 393 U.S. Government agencies and corporatio Agency securities 782 — 46 736 Agency guaranteed mortgage-backed securities 9,652 — 1,285 8,367 Small Business Administration loan-backed securities 740 1 29 712 Municipal securities 1,732 1 99 1,634 Other debt securities 75 — 2 73 Total available-for-sale 13,538 2 1,625 11,915 Total HTM and AFS investment securities $ 24,664 $ 167 $ 1,677 $ 23,154 1 During the fourth quarter of 2022, we transferred approximately $ 10.7 billion fair value ($ 13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category to reflect our intent for these securities. The amortized cost basis of these securities does not include $ 2.4 billion of unrealized losses in AOCI that is amortized over the life of the securities. The amortization of the unrealized losses reported in AOCI will offset the effect of the accretion of the discount in interest income that is created by adjusting the amortized cost basis to the securities ’ fair value on the date of the transfer. 95 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity Municipal securities $ 441 $ 4 $ 2 $ 443 Available-for-sale U.S. Treasury securities 155 — 21 134 U.S. Government agencies and corporatio Agency securities 833 13 1 845 Agency guaranteed mortgage-backed securities 20,549 108 270 20,387 Small Business Administration loan-backed securities 938 2 28 912 Municipal securities 1,652 46 4 1,694 Other debt securities 75 1 — 76 Total available-for-sale 24,202 170 324 24,048 Total HTM and AFS investment securities $ 24,643 $ 174 $ 326 $ 24,491 Maturities The following schedule shows the amortized cost and weighted average yields of debt securities by contractual maturity of principal payments at December 31, 2022. Actual principal payments may differ from contractual or expected principal payments because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. 96 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Total debt securities Due in one year or less Due after one year through five years Due after five years through 10 years Due after 10 years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 100 3.50 % $ — — % $ — — % $ — — % $ 100 3.50 % Agency guaranteed mortgage-backed securities 10,621 1.84 — — — — 49 2.02 10,572 1.84 Municipal securities 1 405 3.05 33 3.32 130 3.13 183 3.09 59 2.61 Total held-to-maturity securities 11,126 1.90 33 3.32 130 3.13 232 2.86 10,731 1.86 Available-for-sale U.S. Treasury securities 557 2.05 — — — — — — 557 2.05 U.S. Government agencies and corporatio Agency securities 782 2.61 — — 345 2.40 230 2.49 207 3.10 Agency guaranteed mortgage-backed securities 9,652 1.92 25 4.27 305 1.53 1,625 2.03 7,697 1.91 Small Business Administration loan-backed securities 740 3.83 — — 43 4.22 154 3.66 543 3.84 Municipal securities 1 1,732 2.24 112 2.29 643 2.73 706 1.90 271 1.94 Other debt securities 75 5.39 — — 50 4.25 10 9.52 15 6.44 Total available-for-sale securities 13,538 2.13 137 2.65 1,386 2.48 2,725 2.15 9,290 2.06 Total HTM and AFS investment securities $ 24,664 2.16 % $ 170 2.78 % $ 1,516 2.54 % $ 2,957 2.21 % $ 20,021 2.06 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis. The following schedule summarizes the amount of gross unrealized losses for debt securities and the estimated fair value by length of time the securities have been in an unrealized loss positi December 31, 2022 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ 94 $ 308 $ 70 $ 85 $ 164 $ 393 U.S. Government agencies and corporatio Agency securities 39 634 7 102 46 736 Agency guaranteed mortgage-backed securities 447 4,322 838 4,042 1,285 8,364 Small Business Administration loan-backed securities 8 101 21 524 29 625 Municipal securities 63 1,295 36 256 99 1,551 Other 2 13 — — 2 13 Total available-for-sale investment securities $ 653 $ 6,673 $ 972 $ 5,009 $ 1,625 $ 11,682 97 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ — $ — $ 21 $ 134 $ 21 $ 134 U.S. Government agencies and corporatio Agency securities 1 121 — 1 1 122 Agency guaranteed mortgage-backed securities 231 13,574 39 942 270 14,516 Small Business Administration loan-backed securities — 27 28 749 28 776 Municipal securities 4 327 — 8 4 335 Other — — — — — — Total available-for-sale investment securities $ 236 $ 14,049 $ 88 $ 1,834 $ 324 $ 15,883 Approximately 3,562 and 1,302 AFS investment securities were in an unrealized loss position at December 31, 2022, and 2021, respectively. Impairment Ongoing Policy We review investment securities quarterly on an individual basis for the presence of impairment. For AFS securities, when the fair value of a debt security is less than its amortized cost basis at the balance sheet date, we assess for the presence of credit impairment. When determining if the fair value of an investment is less than the amortized cost basis, we have elected to exclude accrued interest from the amortized cost basis of the investment. If we have the intent to sell an identified security, or if it is more likely than not we will be required to sell the security before recovery of its amortized cost basis, we write the amortized cost down to the security’s fair value at the reporting date through earnings. If we have the intent and ability to hold the securities, we determine whether there is any impairment attributable to credit-related factors. We analyze certain factors, primarily internal and external credit ratings, to determine if the decline in fair value below the amortized cost basis has resulted from a credit loss or other factors. If a credit impairment is determined to exist, then we measure the amount of credit loss and recognize an allowance for the credit loss. In measuring the credit loss, we generally compare the present value of cash flows expected to be collected from the security to the amortized cost basis of the security. These cash flows are credit adjusted using, among other things, assumptions for default probability and loss severity. Certain other inputs, such as prepayment rate assumptions, are also utilized. In addition, certain internal models may be utilized. To determine the credit-related portion of impairment, we use the security-specific effective interest rate when estimating the present value of cash flows. If the present value of cash flows is less than the amortized cost basis of the security, then this amount is recorded as an allowance for credit loss, limited to the amount that the fair value is less than the amortized cost basis (i.e., the credit impairment cannot result in the security being carried at an amount lower than its fair value). The assumptions used to estimate the expected cash flows depend on the particular asset class, structure, and credit rating of the security. Declines in fair value that are not recorded in the allowance are recorded in other comprehensive income, net of applicable taxes. AFS Impairment We did not recognize any credit impairment on our AFS investment securities portfolio during 2022 or 2021. Unrealized losses relate primarily to changes in interest rates subsequent to purchase and are not attributable to credit. At December 31, 2022, we had not initiated any sales of AFS securities, nor did we have the intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not we would be required to sell such securities before recovery of their amortized cost basis. 98 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES HTM Impairment For HTM securities, the ACL is assessed consistent with the approach described in Note 6 for loans and leases carried at amortized cost. The ACL on HTM securities was less than $ 1 million at December 31, 2022. All HTM securities were risk-graded as “pass” in terms of credit quality, and none were past due at December 31, 2022. The following schedule presents the amortized cost basis of HTM securities categorized by year acquir December 31, 2022 Amortized cost basis by year acquired (In millions) 2022 2021 2020 2019 2018 Prior Total Securities Held-to-maturity $ 2,386 $ 7,222 $ 1,121 $ 81 $ 72 $ 244 $ 11,126 Securities Gains and Losses Recognized in Income The following schedule summarizes securities gains and losses recognized in the income statemen 2022 2021 2020 (In millions) Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Other noninterest-bearing investments $ 11 $ 26 $ 119 $ 48 $ 27 $ 20 Net gains (losses) 1 $ ( 15 ) $ 71 $ 7 1 Net gains (losses) were recognized in securities gains (losses) in the income statement. The following schedule presents interest income by security type: (In millions) 2022 2021 2020 Taxable Nontaxable Total Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 42 $ 4 $ 46 $ 10 $ 5 $ 15 $ 10 $ 10 $ 20 Available-for-sale 411 40 451 256 29 285 252 25 277 Trading — 15 15 — 11 11 — 7 7 Total securities $ 453 $ 59 $ 512 $ 266 $ 45 $ 311 $ 262 $ 42 $ 304 Investment securities with a carrying value of $ 7.1 billion and $ 3.1 billion at December 31, 2022, and 2021, respectively, were pledged to secure public and trust deposits, advances, and for other purposes as required by law. Securities are also pledged as collateral for security repurchase agreements. 99 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific class: December 31, (In millions) 2022 2021 Loans held for sale $ 8 $ 83 Commerci Commercial and industrial $ 16,180 $ 13,867 PPP 197 1,855 Leasing 386 327 Owner-occupied 9,371 8,733 Municipal 4,361 3,658 Total commercial 30,495 28,440 Commercial real estate: Construction and land development 2,513 2,757 Term 10,226 9,441 Total commercial real estate 12,739 12,198 Consume Home equity credit line 3,377 3,016 1-4 family residential 7,286 6,050 Construction and other consumer real estate 1,161 638 Bankcard and other revolving plans 471 396 Other 124 113 Total consumer 12,419 10,213 Total loans and leases $ 55,653 $ 50,851 Loans and leases are measured and presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 49 million and $ 83 million at December 31, 2022, and December 31, 2021, respectively. Amortized cost basis does not include accrued interest receivables of $ 247 million and $ 161 million at December 31, 2022, and December 31, 2021, respectively. These receivables are presented on the consolidated balance sheet within the “ Other assets ” line item. Municipal loans generally include loans to state and local governments (“municipalities”) with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 262 million at December 31, 2022 and $ 160 million at December 31, 2021. Loans with a carrying value of approximately $ 27.6 billion at December 31, 2022, and $ 26.8 billion at December 31, 2021, have been pledged at the Federal Reserve and the Federal Home Loan Bank (“FHLB”) of Des Moines as collateral for current and potential borrowings. We sold loans totaling $ 0.7 billion in 2022, $ 1.7 billion in 2021, and $ 1.8 billion in 2020, that were classified as loans held for sale. Loans classified as loans held for sale primarily consist of conforming residential mortgages and the guaranteed portion of SBA loans that are primarily sold to U.S. government agencies or participated to third-parties. They do not include loans from the SBA’s Paycheck Protection Program (“PPP”). Occasionally, we have continuing involvement in the sold loans in the form of servicing rights or guarantees. Amounts added to loans held for sale during these same periods were $ 0.7 billion, $ 1.7 billion, and $ 1.8 billion, respectively. See Note 5 for further information regarding guaranteed securities. 100 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The principal balance of sold loans for which we have retained servicing was approximately $ 3.5 billion at December 31, 2022, and $ 3.3 billion at December 31, 2021. Income from loans sold, excluding servicing, was $ 14 million in 2022, $ 34 million in 2021, and $ 54 million in 2020. Allowance for Credit Losses The ACL, which consists of the ALLL and the RULC, represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is assessed consistent with the approach for loans carried at amortized cost. See Note 5 for further discussion on our assessment of expected credit losses on AFS securities and disclosures related to AFS and HTM securities. The ACL reflects our best estimate of credit losses and is calculated using the loan’s amortized cost basis (principal balance, net of unamortized premiums, discounts, and deferred fees and costs). We do not estimate the ACL for accrued interest receivables because we reverse or write-off uncollectible accrued interest receivable balances in a timely manner, generally within one month. The methodologies we use to estimate the ACL depend upon the type of loan, the age and contractual term of the loan, expected payments (both contractual and assumed prepayments), credit quality indicators, economic forecasts, and the evaluation method (whether individually or collectively evaluated). Loan extensions or renewals are not considered in the ACL unless they are included in the original or modified loan contract and are not unconditionally cancellable, or we reasonably expect a related modification to result in a TDR. Losses are charged to the ACL when recognized. Generally, commercial and commercial real estate (“CRE”) loans are charged off or charged down when they are determined to be uncollectible in whole or in part, or when 180 days past due, unless the loan is well-secured and in process of collection. Consumer loans are either charged off or charged down to net realizable value no later than the month in which they become 180 days past due. Closed-end consumer loans that are not secured by residential real estate are either charged off or charged down to net realizable value no later than the month in which they become 120 days past due. We establish the amount of the ACL by analyzing the portfolio at least quarterly, and we adjust the provision for loan losses and unfunded lending commitments to ensure the ACL is at an appropriate level at the balance sheet date. The ACL is determined based on our review of loans that have similar risk characteristics, which are evaluated on a collective basis, as well as loans that do not have similar risk characteristics, which are evaluated on an individual basis. For commercial and CRE loans with commitments greater than $ 1 million, we assign internal risk grades using a comprehensive loan grading system based on financial and statistical models, individual credit analysis, and loan officer experience and judgment. The credit quality indicators described subsequently are based on this grading system. Estimated credit losses on all loan segments, including consumer and small commercial and CRE loans with commitments less than or equal to $ 1 million that are evaluated on a collective basis, are derived from statistical analyses of our historical default and loss experience since January 2008. We estimate current expected credit losses for each loan, which includes considerations of historical credit loss experience, current conditions, and reasonable and supportable forecasts about the future. We use the following two types of credit loss estimation mod • Econometric loss models, which rely on statistical analyses of our historical loss experience dependent upon economic factors and other loan-level characteristics. Statistically relevant economic factors vary depending upon the type of loan, but include variables such as unemployment, real estate price indices, energy prices, GDP, etc. The models use multiple economic scenarios that reflect optimistic, baseline, and stressed economic conditions. The results derived using these economic scenarios are probability-weighted to produce the credit loss estimate. • Loss models that are based on our long-term average historical credit loss experience since 2008, which rely on statistical analyses of our historical loss experience dependent upon loan-level characteristics. 101 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit loss estimates for the first 12 months of a loan’s remaining life are derived using econometric loss models. Over a subsequent 12-month reversion period, we blend the estimated credit losses from the two models on a straight-line basis. For the remaining life of the loan, the estimated credit losses are derived from the long-term average historical credit loss models. For loans that do not share risk characteristics with other loans, we estimate lifetime expected credit losses on an individual basis. These include nonaccrual loans with a balance greater than $ 1 million; TDR loans, including TDRs that subsequently default; a loan no longer reported as a TDR; or a loan where we reasonably expect it to become a TDR. When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on either the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. When we base the specific reserve on the fair value of the loan’s underlying collateral, we generally charge-off the portion of the balance that is greater than fair value. For these loans, subsequent to the charge-off, if the fair value of the loan’s underlying collateral increases according to an updated appraisal, we establish a negative reserve up to the lesser of the amount of the charge-off or the updated fair value. The methodologies described previously generally rely on historical loss information to help determine our quantitative portion of the ACL. However, we also consider other qualitative and environmental factors related to current conditions and reasonable and supportable forecasts that may indicate current expected credit losses may differ from the historical information reflected in our quantitative models. Thus, after applying historical loss experience, as described above, we review the quantitative portion of ACL for each segment using qualitative criteria, and we use those criteria to determine our qualitative estimate. We monitor various risk factors that influence our judgment regarding the level of the ACL across the portfolio segments. These factors primarily inclu • Actual and expected changes in international, national, regional, and local economic and business conditions and developments; • The volume and severity of past due loans, the volume of nonaccrual loans, and the volume and severity of adversely classified or graded loans; • Lending policies and procedures, including changes in underwriting standards and practices for collection, charge-off, and recovery; • The experience, ability, and depth of lending management and other relevant staff; • The nature and volume of the portfolio; • The quality of the credit review function; • The existence, growth, and effect of any concentration of credit; • The effect of other external factors such as regulatory, legal, and technological environments; fiscal and monetary actions; competition; and events such as natural disasters and pandemics. The magnitude of the impact of these factors on our qualitative assessment of the ACL changes from quarter to quarter according to changes made by management in its assessment of these factors, the extent these factors are already reflected in quantitative loss estimates, and the extent changes in these factors diverge from one to another. Management may adjust the probability weights mentioned previously to reflect management’s assessments of current conditions and reasonable and supportable forecasts. We also consider the uncertainty and imprecision inherent in the estimation process when evaluating the ACL. Off-balance Sheet Credit Exposures As previously mentioned, we estimate current expected credit losses for off-balance sheet loan commitments, including letters of credit that are not unconditionally cancellable. This estimate uses the same procedures and methodologies described previously for loans and is calculated by taking the difference between the estimated current expected credit loss and the funded balance, if greater than zero. 102 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Changes in the Allowance for Credit Losses Changes in the ACL are summarized as follows: December 31, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan and lease losses Balance at beginning of year $ 311 $ 107 $ 95 $ 513 Provision for loan losses 29 49 23 101 Gross loan and lease charge-offs 72 — 10 82 Recoveries 32 — 11 43 Net loan and lease charge-offs (recoveries) 40 — ( 1 ) 39 Balance at end of year $ 300 $ 156 $ 119 $ 575 Reserve for unfunded lending commitments Balance at beginning of year $ 19 $ 11 $ 10 $ 40 Provision for unfunded lending commitments ( 3 ) 22 2 21 Balance at end of year $ 16 $ 33 $ 12 $ 61 Total allowance for credit losses Allowance for loan and lease losses $ 300 $ 156 $ 119 $ 575 Reserve for unfunded lending commitments 16 33 12 61 Total allowance for credit losses $ 316 $ 189 $ 131 $ 636 December 31, 2021 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan and lease losses Balance at beginning of year $ 464 $ 171 $ 142 $ 777 Provision for loan losses ( 147 ) ( 67 ) ( 44 ) ( 258 ) Gross loan and lease charge-offs 35 — 13 48 Recoveries 29 3 10 42 Net loan and lease charge-offs (recoveries) 6 ( 3 ) 3 6 Balance at end of year $ 311 $ 107 $ 95 $ 513 Reserve for unfunded lending commitments Balance at beginning of year $ 30 $ 20 $ 8 $ 58 Provision for unfunded lending commitments ( 11 ) ( 9 ) 2 ( 18 ) Balance at end of year $ 19 $ 11 $ 10 $ 40 Total allowance for credit losses Allowance for loan and lease losses $ 311 $ 107 $ 95 $ 513 Reserve for unfunded lending commitments 19 11 10 40 Total allowance for credit losses $ 330 $ 118 $ 105 $ 553 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral-value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement; (2) the loan, if secured, is well-secured; (3) the borrower has paid according to the contractual terms for a minimum of six months; and (4) an analysis of the borrower indicates a 103 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of loans on nonaccrual status is summarized as follows: December 31, 2022 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 4 $ 52 $ 56 $ 26 PPP 4 3 7 1 Owner-occupied 13 11 24 1 Total commercial 21 66 87 28 Commercial real estate: Term — 14 14 2 Total commercial real estate — 14 14 2 Consume Home equity credit line 1 10 11 2 1-4 family residential 9 28 37 3 Total consumer loans 10 38 48 5 Total $ 31 $ 118 $ 149 $ 35 December 31, 2021 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 30 $ 94 $ 124 $ 34 SBA PPP 2 1 3 — Owner-occupied 37 20 57 3 Total commercial 69 115 184 37 Commercial real estate: Term 6 14 20 3 Total commercial real estate 6 14 20 3 Consume Home equity credit line 4 10 14 2 1-4 family residential 9 43 52 5 Bankcard and other revolving plans — 1 1 1 Total consumer loans 13 54 67 8 Total $ 88 $ 183 $ 271 $ 48 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. When the collectibility of the amortized cost basis for a nonaccrual loan is no longer in doubt, then interest payments may be recognized in interest income on a cash basis. For 2022 and 2021, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. 104 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amount of accrued interest receivables reversed from interest income during the periods presented is summarized by loan portfolio segment as follows: Twelve Months Ended December 31, (In millions) 2022 2021 2020 Commercial $ 12 $ 15 $ 16 Commercial real estate 1 2 2 Consumer — — 1 Total $ 13 $ 17 $ 19 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as bankcard and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. Past-due loans (accruing and nonaccruing) are summarized as follows: December 31, 2022 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 16,148 $ 18 $ 14 $ 32 $ 16,180 $ 2 $ 44 PPP 183 6 8 14 197 2 1 Leasing 386 — — — 386 — — Owner-occupied 9,344 20 7 27 9,371 1 15 Municipal 4,361 — — — 4,361 — — Total commercial 30,422 44 29 73 30,495 5 60 Commercial real estate: Construction and land development 2,511 2 — 2 2,513 — — Term 10,179 37 10 47 10,226 — 4 Total commercial real estate 12,690 39 10 49 12,739 — 4 Consume Home equity credit line 3,369 5 3 8 3,377 — 6 1-4 family residential 7,258 9 19 28 7,286 — 16 Construction and other consumer real estate 1,161 — — — 1,161 — Bankcard and other revolving plans 467 3 1 4 471 1 — Other 124 — — — 124 — — Total consumer loans 12,379 17 23 40 12,419 1 22 Total $ 55,491 $ 100 $ 62 $ 162 $ 55,653 $ 6 $ 86 105 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 13,822 $ 17 $ 28 $ 45 $ 13,867 $ 2 $ 91 PPP 1,813 35 7 42 1,855 5 — Leasing 327 — — — 327 — — Owner-occupied 8,712 7 14 21 8,733 — 42 Municipal 3,658 — — — 3,658 — — Total commercial 28,332 59 49 108 28,440 7 133 Commercial real estate: Construction and land development 2,757 — — — 2,757 — — Term 9,426 10 5 15 9,441 — 15 Total commercial real estate 12,183 10 5 15 12,198 — 15 Consume Home equity credit line 3,008 4 4 8 3,016 — 10 1-4 family residential 6,018 6 26 32 6,050 — 24 Construction and other consumer real estate 638 — — — 638 — — Bankcard and other revolving plans 393 2 1 3 396 1 — Other 112 1 — 1 113 — — Total consumer loans 10,169 13 31 44 10,213 1 34 Total $ 50,684 $ 82 $ 85 $ 167 $ 50,851 $ 8 $ 182 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is not expected. Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk-grading systems, which vary based on the size and type of credit risk exposure. The internal risk-grades assigned to loans follow our definitions of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. Definitions of Pass, Special Mention, Substandard, and Doubtful are summarized as follows: • Pass — A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention — A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard — A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful — A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were no loans classified as Doubtful at both December 31, 2022, and December 31, 2021. 106 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES For commercial and CRE loans with commitments greater than $ 1 million, we assign one of multiple grades within the Pass classification or one of the risk classifications described previously. We confirm our internal risk-grades quarterly, or as soon as we identify information that affects the credit risk of the loan. For consumer loans and for commercial and CRE loans with commitments less than or equal to $ 1 million, we generally assign internal risk-grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The amortized cost basis of loans and leases categorized by year of origination and by credit quality classifications as monitored by management are summarized as follows: 107 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Commerci Commercial and industrial Pass $ 3,363 $ 1,799 $ 864 $ 876 $ 293 $ 264 $ 8,054 $ 182 $ 15,695 Special Mention 1 2 10 52 1 2 50 — 118 Accruing Substandard 26 7 17 78 30 67 84 2 311 Nonaccrual — 6 — 11 1 2 32 4 56 Total commercial and industrial 3,390 1,814 891 1,017 325 335 8,220 188 16,180 PPP Pass — 75 115 — — — — — 190 Nonaccrual — 2 5 — — — — — 7 Total PPP — 77 120 — — — — — 197 Leasing Pass 160 71 47 66 18 19 — — 381 Special Mention — — — — — — — — — Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 160 71 47 66 18 24 — — 386 Owner-occupied Pass 2,157 2,285 1,143 874 654 1,679 187 74 9,053 Special Mention 1 15 5 8 3 16 1 — 49 Accruing Substandard 16 33 48 20 55 64 9 — 245 Nonaccrual 1 1 2 4 5 10 1 — 24 Total owner-occupied 2,175 2,334 1,198 906 717 1,769 198 74 9,371 Municipal Pass 1,230 1,220 816 441 168 437 8 — 4,320 Special Mention 32 6 — — — — — — 38 Accruing Substandard — — — — — 3 — — 3 Nonaccrual — — — — — — — — — Total municipal 1,262 1,226 816 441 168 440 8 — 4,361 Total commercial 6,987 5,522 3,072 2,430 1,228 2,568 8,426 262 30,495 Commercial real estate: Construction and land development Pass 548 671 455 81 2 2 617 96 2,472 Special Mention 1 1 — — — — — — 2 Accruing Substandard 17 — — 22 — — — — 39 Nonaccrual — — — — — — — — — Total construction and land development 566 672 455 103 2 2 617 96 2,513 Term Pass 2,861 2,107 1,686 1,012 666 1,229 276 112 9,949 Special Mention 39 21 11 — 4 1 — — 76 Accruing Substandard 42 2 34 21 53 35 — — 187 Nonaccrual — — — 4 1 9 — — 14 Total term 2,942 2,130 1,731 1,037 724 1,274 276 112 10,226 Total commercial real estate 3,508 2,802 2,186 1,140 726 1,276 893 208 12,739 108 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total loans Consume Home equity credit line Pass — — — — — — 3,265 98 3,363 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 3 — 3 Nonaccrual — — — — — — 8 3 11 Total home equity credit line — — — — — — 3,276 101 3,377 1-4 family residential Pass 1,913 1,503 1,024 638 381 1,788 — — 7,247 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — 2 2 4 3 26 — — 37 Total 1-4 family residential 1,913 1,505 1,026 642 384 1,816 — — 7,286 Construction and other consumer real estate Pass 583 485 64 19 5 5 — — 1,161 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 583 485 64 19 5 5 — — 1,161 Bankcard and other revolving plans Pass — — — — — — 468 2 470 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 469 2 471 Other consumer Pass 68 30 12 8 4 2 — — 124 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 68 30 12 8 4 2 — — 124 Total consumer 2,564 2,020 1,102 669 393 1,823 3,745 103 12,419 Total loans $ 13,059 $ 10,344 $ 6,360 $ 4,239 $ 2,347 $ 5,667 $ 13,064 $ 573 $ 55,653 109 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2017 Prior Total loans Commerci Commercial and industrial Pass $ 2,561 $ 1,309 $ 1,179 $ 748 $ 354 $ 239 $ 6,594 $ 121 $ 13,105 Special Mention 4 17 9 12 1 3 128 1 175 Accruing Substandard 28 22 99 53 31 65 162 3 463 Nonaccrual 14 10 6 3 1 21 51 18 124 Total commercial and industrial 2,607 1,358 1,293 816 387 328 6,935 143 13,867 PPP Pass 1,317 535 — — — — — — 1,852 Nonaccrual — 3 — — — — — — 3 Total PPP 1,317 538 — — — — — — 1,855 Leasing Pass 46 74 70 64 42 19 — — 315 Special Mention — 1 4 1 1 — — — 7 Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 46 75 74 65 43 24 — — 327 Owner-occupied Pass 2,420 1,366 1,028 868 695 1,663 177 69 8,286 Special Mention 10 13 19 32 18 50 3 3 148 Accruing Substandard 14 24 41 47 24 79 13 — 242 Nonaccrual — 4 14 9 9 20 1 — 57 Total owner-occupied 2,444 1,407 1,102 956 746 1,812 194 72 8,733 Municipal Pass 1,303 963 553 250 327 220 3 — 3,619 Special Mention — — — — — 25 — — 25 Accruing Substandard — 9 — — — 5 — — 14 Nonaccrual — — — — — — — — — Total municipal 1,303 972 553 250 327 250 3 — 3,658 Total commercial 7,717 4,350 3,022 2,087 1,503 2,414 7,132 215 28,440 Commercial real estate: Construction and land development Pass 640 736 515 94 24 2 650 64 2,725 Special Mention — — 1 — — — — — 1 Accruing Substandard — 3 28 — — — — — 31 Nonaccrual — — — — — — — — — Total construction and land development 640 739 544 94 24 2 650 64 2,757 Term Pass 2,407 1,765 1,491 1,066 529 1,401 239 179 9,077 Special Mention 22 39 10 17 8 25 — 4 125 Accruing Substandard 9 9 44 77 14 64 — 2 219 Nonaccrual — 1 5 1 — 13 — — 20 Total term 2,438 1,814 1,550 1,161 551 1,503 239 185 9,441 Total commercial real estate 3,078 2,553 2,094 1,255 575 1,505 889 249 12,198 110 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Term Loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2021 2020 2019 2018 2017 Prior Total loans Consume Home equity credit line Pass — — — — — — 2,903 96 2,999 Special Mention — — — — — — 1 — 1 Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 7 7 14 Total home equity credit line — — — — — — 2,913 103 3,016 1-4 family residential Pass 1,391 1,021 728 484 681 1,691 — — 5,996 Special Mention — — — — — — — — — Accruing Substandard — — 1 — — 1 — — 2 Nonaccrual — 3 3 3 9 34 — — 52 Total 1-4 family residential 1,391 1,024 732 487 690 1,726 — — 6,050 Construction and other consumer real estate Pass 295 232 73 27 4 7 — — 638 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 295 232 73 27 4 7 — — 638 Bankcard and other revolving plans Pass — — — — — — 391 3 394 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — 1 — 1 Total bankcard and other revolving plans — — — — — — 393 3 396 Other consumer Pass 58 23 17 9 4 2 — — 113 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 58 23 17 9 4 2 — — 113 Total consumer 1,744 1,279 822 523 698 1,735 3,306 106 10,213 Total loans $ 12,539 $ 8,182 $ 5,938 $ 3,865 $ 2,776 $ 5,654 $ 11,327 $ 570 $ 50,851 Modified and Restructured Loans Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are reported as TDRs. We consider many factors in determining whether to agree to a loan modification involving concessions, and we seek a solution that will both minimize potential loss to us and attempt to help the borrower. We evaluate 111 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES borrowers’ current and forecasted future cash flows, their ability and willingness to make current contractual or proposed modified payments, the value of the underlying collateral (if applicable), the possibility of obtaining additional security or guarantees, and the potential costs related to a repossession or foreclosure and the subsequent sale of the collateral. TDRs are classified as either accrual or nonaccrual loans. A loan on nonaccrual and restructured as a TDR will remain on nonaccrual status until the borrower has proven the ability to perform under the modified structure for a minimum of six months, and there is evidence that such payments can and are likely to continue as agreed. Performance prior to the restructuring, or significant events that coincide with the restructuring, are included in assessing whether the borrower can meet the new terms and may result in the loan being returned to accrual at the time of restructuring or after a shorter performance period. If the borrower’s ability to meet the revised payment schedule is uncertain, the loan remains classified as a nonaccrual loan. A TDR loan that specifies an interest rate that, at the time of the restructuring, is greater than or equal to the rate we are willing to accept for a new loan with comparable risk may not be reported as a TDR in the calendar years subsequent to the restructuring if it is in compliance with its modified terms. Loan modifications provided to borrowers experiencing financial difficulties exclusively related to the COVID-19 pandemic, in which we provide certain short-term modifications or payment deferrals, are not classified as TDRs. The TDRs disclosed subsequently do not include these loan modifications. Other loan modifications above and beyond these short-term modifications or payment deferrals were assessed for TDR classification. 112 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Information on TDRs, including their amortized cost on an accruing and nonaccruing basis by loan class, and by modification type, is summarized in the following schedul December 31, 2022 Amortized cost basis resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 1 $ 12 $ — $ — $ 9 $ 28 $ 50 Owner-occupied — 1 — 2 13 12 28 Municipal — — — — — — — Total commercial 1 13 — 2 22 40 78 Commercial real estate: Construction and land development — — — — — 8 8 Term 1 27 — 27 28 1 84 Total commercial real estate 1 27 — 27 28 9 92 Consume Home equity credit line — 1 4 — — 1 6 1-4 family residential 2 1 2 — 1 15 21 Total consumer loans 2 2 6 — 1 16 27 Total accruing $ 4 $ 42 $ 6 $ 29 $ 51 $ 65 $ 197 Nonaccruing Commerci Commercial and industrial $ — $ — $ — $ 3 $ 9 $ 3 $ 15 Owner-occupied 4 — — — — 4 8 Total commercial 4 — — 3 9 7 23 Commercial real estate: Term — 10 — — — — 10 Total commercial real estate — 10 — — — — 10 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 1 2 4 Total consumer loans — 1 1 — 1 2 5 Total nonaccruing 4 11 1 3 10 9 38 Total $ 8 $ 53 $ 7 $ 32 $ 61 $ 74 $ 235 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of any of the previous modification types. 113 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2021 Amortized cost basis resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 19 $ 1 $ — $ — $ 4 $ 7 $ 31 Owner-occupied 5 4 — 8 14 12 43 Municipal — 10 — — — — 10 Total commercial 24 15 — 8 18 19 84 Commercial real estate: Term 1 29 — 27 41 8 106 Total commercial real estate 1 29 — 27 41 8 106 Consume Home equity credit line — 1 5 — — 2 8 1-4 family residential 5 1 2 — 1 14 23 Total consumer loans 5 2 7 — 1 16 31 Total accruing $ 30 $ 46 $ 7 $ 35 $ 60 $ 43 $ 221 Nonaccruing Commerci Commercial and industrial $ 1 $ 4 $ — $ 2 $ 8 $ 49 $ 64 Owner-occupied 5 — — 2 — 13 20 Total commercial 6 4 — 4 8 62 84 Commercial real estate: Term — — — 11 2 3 16 Total commercial real estate — — — 11 2 3 16 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 3 — 4 Total consumer loans — 1 1 — 3 — 5 Total nonaccruing 6 5 1 15 13 65 105 Total $ 36 $ 51 $ 8 $ 50 $ 73 $ 108 $ 326 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of any of the previous modification types. Unfunded lending commitments on TDRs totaled $ 7 million and $ 10 million at December 31, 2022 and December 31, 2021, respectively. The total amortized cost of all TDRs in which interest rates were modified below market was $ 63 million at December 31, 2022, and $ 100 million at December 31, 2021. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the years ended December 31, 2022 and 2021 was not significant. On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. 114 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amortized cost of accruing and nonaccruing TDRs that had a payment default during the year ended December 31, 2022 and December 31, 2021, which were still in default at period end, and were within 12 months or less of being modified as TDRs was approximately $ 10 million and $ 3 million, respectively. Collateral-dependent Loans When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. Select information on loans for which the repayment is expected to be provided substantially through the operation or sale of the underlying collateral and the borrower is experiencing financial difficulties, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: December 31, 2022 (In millions) Amortized Cost Major Types of Collateral Weighted Average LTV 1 Commerci Owner-occupied $ 2 Land, Warehouse 29 % Commercial real estate: Term 1 Multi-family 55 % Consume Home equity credit line 1 Single family residential 13 % 1-4 family residential 3 Single family residential 41 % Total $ 7 December 31, 2021 (In millions) Amortized Cost Major Types of Collateral Weighted Average LTV 1 Commerci Commercial and industrial $ 27 Corporate assets, Single family residential 55 % Owner-occupied 11 Office building 40 % Commercial real estate: Term 2 Multi-family, Retail 28 % Consume Home equity credit line 5 Single family residential 45 % 1-4 family residential 2 Single family residential 35 % Total $ 47 1 The fair value is based on the most recent appraisal or other collateral evaluation. Foreclosed Residential Real Estate At December 31, 2022, and December 31, 2021, we did not have any foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure was $ 10 million for both periods. 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives for Using Derivatives Our primary objective for using derivatives is to manage risks, primarily interest rate risk. We use derivatives to manage volatility in interest income, interest expense, earnings, and capital by adjusting our interest rate sensitivity to minimize the impact of fluctuations in interest rates. Derivatives are used to stabilize forecasted interest income from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities as we consider advisable. We also assist customers with their risk management needs through the use of derivatives. 115 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Derivatives Related to Interest Rate Risk Management — When we use derivatives as hedges, either for economic or accounting purposes, it is done only to manage identified risks. We apply hedge accounting to certain derivatives executed for risk management purposes. However, we do not apply hedge accounting to all the derivatives involved in our risk management activities. Derivatives not designated as accounting hedges are not speculative and are used to economically manage our exposure to interest rate movements, including offsetting customer-facing derivatives. These derivatives either do not require the use of hedge accounting for their economic impact to be appropriately reflected in our financial statements or they do not meet the strict hedge accounting requirements. Derivatives Related to Customers — We provide certain borrowers access to over-the-counter interest rate derivatives, which we generally offset with interest rate derivatives executed with dealers or central clearing houses. Other interest rate derivatives that we provide to customers, or use for our own purposes, include mortgage rate locks and forward sale loan commitments. We also provide commercial customers with short-term foreign currency spot trades or forward contracts with maturities that are typically 90 days or less. These trades are also largely offset by foreign currency trades with closely matching terms executed with other dealer counterparties or central clearing houses. Accounting for Derivatives We record all derivatives at fair value, and they are presented on the consolidated balance sheet in “Other assets” or “Other liabilities,” regardless of the accounting designation of each derivative. We enter into International Swaps and Derivatives Association, Inc. (“ISDA”) master netting agreements, or similar agreements, with substantially all derivative counterparties. Where legally enforceable, these master netting agreements give us, in the event of default or the triggering of other specified contingent events by the counterparty, the right to use cash or liquidate securities held as collateral and to offset receivables and payables with the same counterparty. For purposes of the Consolidated Balance Sheet, we report all derivatives on a gross fair value basis (i.e., we do not offset derivative assets and liabilities and cash collateral held with the same counterparty where we have a legally enforceable master netting agreement). Note 3 discusses the process to estimate fair value for derivatives. The accounting for changes in the fair value of derivatives depends on the intended use of the derivative and the resulting accounting designation. Derivatives used to hedge the exposure to changes in the fair value of assets, liabilities, or firm commitments attributable to interest rates or other eligible risks, are considered fair value hedges. Derivatives used to hedge the exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges. Changes in the fair value of derivatives that are not part of designated fair value or cash flow hedging relationships are recorded in current period earnings. Fair Value Hedges — We generally use interest rate swaps designated as fair value hedges to hedge changes in the fair value of fixed-rate assets and liabilities for specific risks (e.g., interest rate risk resulting from changes in a benchmark interest rate). We use both pay-fixed, receive-floating and received-fixed, pay-floating interest rate swaps to effectively convert the fixed-rate assets and liabilities to floating rates. In qualifying fair value hedges, changes in value of the derivative hedging instrument are recognized in current period earnings in the same line item affected by the hedged item. Similarly, the periodic changes in value of the hedged item, for the risk being hedged, are recognized in current period earnings, thereby offsetting all, or a significant majority, of the change in the value of the derivative hedging instrument. Interest accruals on both the derivative hedging instrument and the hedged item are recorded in the same line item, effectively converting the designated fixed-rate assets or liabilities to a floating rate. Generally, the designated risk being hedged in all of our fair value hedges is the change in fair value of the LIBOR (or alternative rate) benchmark swap rate component of the contractual coupon cash flows of the fixed-rate assets or liabilities. The swaps are structured to match the critical terms of the hedged items, maximizing the economic (and accounting) effectiveness of the hedging relationships and resulting in the expectation that the swaps will be highly effective as a hedging instrument. All interest rate swaps designated as fair value hedges were highly effective and met all other requirements to remain designated and part of qualifying hedge accounting relationships as of the balance sheet date. Fair Value Hedges of Liabilities — At December 31, 2022, we had one receive-fixed interest rate swap with a notional amount of $ 500 million designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converts the interest on our fixed-rate debt to floating. During 2022, 116 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES approximately $ 1 million of unamortized debt basis adjustments related to previously terminated fair value hedges of debt was amortized as a decrease to interest expense. We have no remaining unamortized debt basis adjustments from previously designated fair value hedges remaining. Fair Value Hedges of Assets — We hedge certain newly acquired fixed-rate AFS securities using pay-fixed, receive-floating interest rate swaps, effectively converting the fixed coupon to a floating-rate on the hedged portion of the securities. We have $ 10 million of cumulative unamortized basis adjustments from previous fair value hedging relationships, which will continue to be amortized as an adjustment to interest income through the end of 2050, thereby increasing the effective interest rate recognized on these securities. At December 31, 2022, we had qualifying fair value hedging relationships of fixed-rate AFS securities being hedged by pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 1.2 billion (inclusive of forward starting swaps). Cash Flow Hedges — For derivatives designated and qualifying as cash flow hedges, as long as the hedging relationship continues to qualify for hedge accounting, the entire change in the fair value of the hedging instrument is recorded in OCI and recognized in earnings as the hedged transaction affects earnings. Ineffectiveness is not measured or separately disclosed. Derivative amounts affecting earnings are recognized in the same line item as the hedged transactions. We may use interest rate swaps, options, or a combination of options in our cash flow hedging strategy to eliminate or reduce the variability of interest receipts on floating-rate commercial loans due to changes in any separately identifiable and reliably measurable contractual interest rate index. At December 31, 2022, we had receive-fixed interest rate swaps with an aggregate notional amount of $ 7.6 billion designated as cash flow hedges of the variability of interest receipts on floating-rate commercial loans due to changes in the LIBOR swap rate. At December 31, 2022, we have $ 410 million of net deferred losses in AOCI from active cash flow hedges. There were no amounts deferred in AOCI for terminated cash flow hedges as of December 31, 2022. Amounts deferred in AOCI from cash flow hedges are expected to be fully reclassified to interest income by the third quarter of 2027. Hedge Effectiveness — We assess the effectiveness of each hedging relationship by comparing the changes in fair value or cash flows on the derivative hedging instrument with the changes in fair value or cash flows on the designated hedged item or transactions for the risk being hedged. If a hedging relationship ceases to qualify for hedge accounting, the relationship is discontinued and future changes in the fair value of the derivative instrument are recognized in current period earnings. For a discontinued or terminated fair value hedging relationship, all remaining basis adjustments to the carrying amount of the hedged item are amortized to interest income or expense over the remaining life of the hedged item consistent with the amortization of other discounts or premiums. Previous balances deferred in AOCI from discontinued or terminated cash flow hedges are reclassified to interest income or expense as the hedged transactions affect earnings or over the originally specified term of the hedging relationship. Collateral and Credit Risk Credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred during 2022 as a result of counterparty nonperformance. We reduce our counterparty exposure for derivative contracts by centrally clearing all eligible derivatives and by executing dealer-facing derivative transactions with well-capitalized financial institutions. For those derivatives that are not centrally cleared, the counterparties are typically financial institutions or our customers. For those that are financial institutions, as noted above, we manage our credit exposure through the use of a Credit Support Annex (“CSA”) to an ISDA master agreement with each counterparty. Eligible collateral types are documented by the CSA and controlled under our general credit policies. Collateral balances are typically monitored on a daily basis. A valuation haircut policy reflects the fact that collateral may fall in value between the date the collateral is called and the date of liquidation or enforcement. At December 31, 2022, all of our collateral held as credit risk mitigation under a CSA was cash. We offer interest rate swaps to our customers to assist them in managing their exposure to changing interest rates. Upon issuance, all of these customer swaps are immediately offset through closely matching derivative contracts to 117 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES minimize our interest rate risk exposure resulting from such transactions. Fee income from customer swaps is recorded in “Capital markets and foreign exchange fees” on the consolidated statement of income. We manage the credit risk associated with customer nonperformance through additional underwriting that includes modeling the credit risk exposure for the swap, shared collateral and guarantee protection applicable to the loan and credit approvals, limits, and monitoring procedures. We measure counterparty credit risk through the calculation of a CVA that captures the value of both the nonperformance risk that we have to our customers and that they have to us. Periodic changes in the net CVA are recorded in current period earnings in “Fair value and nonhedge derivative income or loss” on the consolidated statement of income. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position. Certain derivative contracts contain credit-risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit-risk-related feature were triggered, such as a downgrade of our credit rating. However, in past situations, not all counterparties have demanded that additional collateral be pledged when provided for by the contractual terms. At December 31, 2022, the fair value of our derivative liabilities was $ 451 million, for which we were required to pledge cash collateral of approximately $ 152 million in the normal course of business. If our credit rating were downgraded one notch by either Standard and Poor’s (“S&P”) or Moody’s at December 31, 2022, there would likely be no additional collateral required to be pledged. Derivatives that are centrally cleared do not have credit-risk-related features that require additional collateral if our credit rating were downgraded. Derivative Amounts The following schedule presents derivative notional amounts and recorded gross fair values at December 31, 2022 and 2021. December 31, 2022 December 31, 2021 Notional amount Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Purchased interest rate floors $ — $ — $ — $ — $ — $ — Receive-fixed interest rate swaps 7,633 — 1 6,883 — — Fair value hed Debt hed Receive-fixed interest rate swaps 500 — — 500 — — Asset hed Pay-fixed interest rate swaps 1 1,228 84 — 479 10 — Total derivatives designated as hedging instruments 9,361 84 1 7,862 10 — Derivatives not designated as hedging instruments: Customer interest rate derivatives 2 13,670 296 443 13,174 200 48 Other interest rate derivatives 862 — — 1,286 6 1 Foreign exchange derivatives 605 6 7 288 3 2 Total derivatives not designated as hedging instruments 15,137 302 450 14,748 209 51 Total derivatives $ 24,498 $ 386 $ 451 $ 22,610 $ 219 $ 51 1 The notional amount includes forward starting swaps that are not yet effective. 2 Customer interest rate derivatives include both customer-facing derivatives and the offsetting, dealer-facing derivatives. Customer interest rate derivatives include a net CVA of $ 13 million and $ 3 million, reducing the fair value amount at December 31, 2022, and December 31, 2021, respectively. These adjustments are required to reflect both our nonperformance risk and that of the respective counterparty. 118 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amount of derivative gains (losses) from cash flow and fair value hedges that was deferred in OCI or recognized in earnings for year ended December 31, 2022 and 2021 is shown in the schedules below. Year Ended December 31, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Excluded components deferred in AOCI (amortization approach) Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness / AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ 2 $ — $ — Interest rate swaps ( 437 ) — ( 29 ) — — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — — ( 1 ) — Basis amortization on terminated hedges 2, 3 — — — 1 — Fair value hedges of assets: Pay-fixed interest rate swaps — — — 4 ( 1 ) Basis amortization on terminated hedges 2, 3 — — — — — Total derivatives designated as hedging instruments $ ( 437 ) $ — $ ( 27 ) $ 4 $ ( 1 ) Year Ended December 31, 2021 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Excluded components deferred in AOCI (amortization approach) Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness / AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ 11 $ — $ — Interest rate swaps ( 34 ) — 51 — — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — — 8 — Basis amortization on terminated hedges 2, 3 — — — 10 — Fair value hedges of assets: Pay-fixed interest rate swaps — — — ( 3 ) — Basis amortization on terminated hedges 2, 3 — — — — — Total derivatives designated as hedging instruments $ ( 34 ) $ — $ 62 $ 15 $ — Note: These schedules are not intended to present at any given time our long/short position with respect to our derivative contracts. 1 For the 12 months following December 31, 2022, we estimate that $ 205 million of net losses will be reclassified from AOCI into interest income, compared with an estimate of $ 32 million at December 31, 2021. 2 Adjustment to interest income or expense resulting from the amortization of the basis adjustment from previously terminated hedging relationships. 3 The cumulative unamortized basis adjustment from previously terminated or redesignated fair value hedges at December 31, 2022 was zero and $ 10 million of terminated fair value debt and asset hedges, respectively, compared with $ 1 million and $ 7 million at December 31, 2021. The amortization of the cumulative unamortized basis adjustment from asset hedges is not shown in the schedules because it is not significant. 119 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) 2022 2021 Derivatives not designated as hedging instruments: Customer interest rate derivatives $ 43 $ 34 Other interest rate derivatives — ( 12 ) Foreign exchange derivatives 29 27 Total derivatives not designated as hedging instruments $ 72 $ 49 The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Twelve Months Ended December 31, 2022 Twelve Months Ended December 31, 2021 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1,2 $ ( 79 ) $ 79 $ — $ ( 30 ) $ 30 $ — Assets: Pay-fixed interest rate swaps 1,2 224 ( 225 ) ( 1 ) 23 ( 23 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt and fixed-rate AFS securities. Gains and losses were recorded in interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged assets/(liabilities) (In millions) 2022 2021 2022 2021 2022 2021 Long-term fixed-rate debt 1,2 $ ( 500 ) $ ( 500 ) $ ( 435 ) $ ( 507 ) $ 65 $ ( 7 ) Fixed-rate AFS securities 1,2 1,228 479 962 435 ( 266 ) ( 44 ) 1 Carrying amounts displayed above exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 8. LEASES We have operating and finance leases for branches, corporate offices, and data centers. At December 31, 2022, we had 416 branches, of which 277 are owned and 139 are leased. We lease our headquarters in Salt Lake City, Utah. The remaining maturities of our lease commitments range from the year 2023 to 2062, and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding ROU asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “ Other assets ,” and “ Premises, equipment and software, net ,” respectively. The corresponding liabilities for those leases are presented in “ Other liabilities ,” and “ Long-term debt .” ROU assets and related lease liabilities reflect the present value of the future minimum lease payments over the lease term at commencement date. Because most of our leases do not provide an implicit rate, we use our secured incremental borrowing rate that is commensurate with the lease term when calculating the present value of future 120 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES payments. The ROU asset also reflects any lease prepayments, initial direct costs, amortization, and certain nonlease components, such as maintenance, utilities or tax payments. Our lease terms incorporate options to extend or terminate the lease when it is reasonably certain that we will exercise these options. The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate: December 31, (Dollar amounts in millions) 2022 2021 Operating leases ROU assets, net of amortization $ 173 $ 195 Lease liabilities 198 222 Finance leases ROU assets, net of amortization 4 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.4 8.5 Finance leases 17.4 18.3 Weighted average discount rate Operating leases 2.9 % 2.8 % Finance leases 3.1 % 3.1 % Additional information related to lease expense is presented be Year Ended December 31, (In millions) 2022 2021 2020 Lease expense: Operating lease expense $ 46 $ 47 $ 49 Other expenses associated with operating leases 1 51 50 49 Total lease expense $ 97 $ 97 98 Related cash disbursements for operating leases $ 50 $ 50 $ 51 1 Other expenses primarily relate to property taxes and building and property maintenance. ROU assets related to new leases totaled $ 7 million and $ 1 million at December 31, 2022 and 2021, respectively. The following schedule presents the total contractual undiscounted lease payments for operating lease liabilities by expected due date for each of the next five yea (In millions) Total undiscounted lease payments 2023 $ 47 2024 39 2025 29 2026 24 2027 15 Thereafter 75 Total $ 229 We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 14 million , $ 13 million, and $ 12 million during 2022, 2021, and 2020, respectively. 121 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES We originated equipment leases, considered to be sales-type leases or direct-financing leases, totaling $ 386 million and $ 327 million at December 31, 2022 and 2021, respectively. We recorded income of $ 12 million , $ 11 million, and $ 13 million on these leases during 2022, 2021, and 2020, respectively. 9. PREMISES, EQUIPMENT, AND SOFTWARE Net premises, equipment, and software are summarized as follows: (In millions) December 31, 2022 2021 Land $ 264 $ 265 Buildings 943 868 Furniture and equipment 346 378 Leasehold improvements 151 168 Software 730 664 Total premises, equipment, and software 1 2,434 2,343 Less accumulated depreciation and amortization 1,026 1,024 Net book value $ 1,408 $ 1,319 1 The totals for 2022 and 2021 include $ 298 million and $ 348 million, respectively, of costs that have been capitalized, but are not yet depreciating because the respective assets have not been placed in service. 10. GOODWILL AND OTHER INTANGIBLE ASSETS Goodwill is recorded at fair value at the time of its acquisition and is subsequently evaluated for impairment annually as of October 1, or more frequently if events or circumstances indicate that impairment may exist. Based on the annual impairment evaluation conducted in 2022 and 2021, there was no goodwill impairment present in any of our operating segments. The following schedule presents the carrying amount of goodwill for our business segments with goodwill, as well as the balance of our core deposits and other intangible assets, net of related accumulated amortizati December 31, (In millions) 2022 2021 Goodwil Amegy $ 615 $ 615 CB&T 379 379 Zions Bank 20 20 Nevada State Bank 13 — Total goodwill $ 1,027 $ 1,014 Core deposits and other intangibles, net of accumulated amortization 38 1 Total goodwill and intangibles $ 1,065 $ 1,015 The increase in goodwill is due to the NSB purchase of three Northern Nevada City National Bank branches and their associated deposit, credit card, and loan accounts in July 2022. The increase in other intangible assets was driven largely from an acquisition of intellectual property from one of our operating partners that offers compliance and other support services to pharmacies and healthcare providers. 122 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 11. DEPOSITS The following schedule presents our deposits by category: December 31, (Dollar amounts in millions) 2022 2021 Noninterest-bearing demand $ 35,777 $ 41,053 Interest-bearin Savings and money market 33,566 40,114 Time 2,309 1,622 Total deposits $ 71,652 $ 82,789 At December 31, 2022, the aggregate amount of all time deposits by maturity were as follows: (In millions) Amount 2023 $ 2,038 2024 145 2025 64 2026 36 2027 25 Thereafter 1 Total $ 2,309 The scheduled maturities of time deposits that exceed $250,000 were as follows: (In millions) December 31, 2022 Three months or less $ 106 After three months through six months 87 After six months through twelve months 263 After twelve months 71 Total $ 527 Nonbrokered time deposits that meet or do not exceed the current Federal Deposit Insurance Corporation (“FDIC”) insurance limit of $250,000 were $ 1.8 billion and $ 1.0 billion at December 31, 2022 and 2021, respectively. Deposit overdrafts reclassified as loan balances were $ 21 million and $ 8 million at December 31, 2022 and 2021 , respectively. 12. SHORT-TERM BORROWINGS The following schedule presents selected information for FHLB advances and other short-term borrowi (Dollar amounts in millions) 2022 2021 Federal Home Loan Bank advances Average amount outstanding $ 1,257 $ — Average rate 3.67 % — % Highest month-end balance $ 7,100 $ — Year-end balance 7,100 — Average rate on outstanding advances at year-end 4.43 % — % Other short-term borrowings, year-end balances Federal funds purchased $ 232 $ 421 Security repurchase agreements 2,898 228 Securities sold, not yet purchased 187 254 Total federal funds and other short-term borrowings $ 10,417 $ 903 123 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES We may borrow from the FHLB under lines of credit that are secured by blanket pledge arrangements. We maintain unencumbered collateral with carrying amounts adjusted for the types of collateral pledged, equal to at least 100 % of the outstanding advances. At December 31, 2022, the amount of collateral pledged and available for FHLB borrowings was approximately $ 9.4 billion . We may also borrow from the Federal Reserve based on the amount of collateral pledged. At December 31, 2022, the amount of collateral pledged and available for Federal Reserve borrowings was approximately $ 4.0 billion . Federal funds purchased and security repurchase agreements generally mature in less than 30 days. We execute overnight repurchase agreements with sweep accounts in conjunction with a master repurchase agreement. When this occurs, securities under our control are pledged and interest is paid on the collected balance of the customers’ accounts. For the nonsweep overnight and term repurchase agreements, securities are transferred to the applicable counterparty. In certain instances, the counterparty is contractually entitled to sell or repledge securities accepted as collateral. Of the total security repurchase agreements at December 31, 2022, nearly all were overnight term accounts. 13. LONG-TERM DEBT Long-term debt is summarized as follows: December 31, (In millions) 2022 2021 Subordinated notes $ 519 $ 590 Senior notes 128 418 Finance lease obligations 4 4 Total $ 651 $ 1,012 The carrying values presented above include the par value of the debt, adjusted for any unamortized premium or discount, unamortized debt issuance costs, and fair value hedge basis adjustments. The overall decrease in long-term debt from the prior year was primarily due to the redemption of $ 290 million of senior notes during the first quarter of 2022. During 2020, we terminated two receive-fixed interest rate swaps designated as hedges on senior notes, resulting in one outstanding receive-fixed interest rate swap designated as a hedge on a $ 500 million subordinated note with an interest rate of 3.25 % at December 31, 2022. The outstanding swap constitutes a qualifying fair value hedging relationship. The terminated interest rate swaps adjusted the carrying value of the notes and this adjustment is amortized into earnings until the original maturity date. See Note 7 for more information on derivatives designated as qualifying hedges. Subordinated Notes The following schedule presents our subordinated notes outstanding at December 31, 2022 : (Dollar amounts in millions) Subordinated notes Coupon rate Balance Par amount Maturity 6.95 % $ 88 $ 88 September 2028 3.25 % 431 500 October 2029 Total $ 519 $ 588 The 6.95 % subordinated notes are unsecured, with interest payable quarterly; the earliest redemption date for these notes is September 15, 2023, after which the interest rate changes to an annual floating rate equal to 3mL+ 3.89 %. The 3.25 % subordinated notes are unsecured, interest is payable semi-annually, and the earliest redemption date is July 29, 2029. 124 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Senior Notes The following schedule presents our senior notes outstanding at December 31, 2022 : (Dollar amounts in millions) Senior notes Coupon rate Balance Par amount Maturity 4.50 % $ 128 $ 128 June 2023 The senior notes are unsecured, with interest payable semi-annually. They were issued under a shelf registration filed with the Securities and Exchange Commission (“SEC”). In February 2022, we redeemed $ 290 million of the 4-year , 3.35 % senior notes on the contractual call date one month prior to final maturity. Maturities of Long-term Debt The following schedule presents our long-term debt by maturity for each of the next five yea (In millions) Amount 1 2023 $ 128 2024 — 2025 — 2026 — 2027 — Thereafter 587 Total $ 715 1 Does not include basis adjustments related to terminated or active fair value hedges. 14. SHAREHOLDERS’ EQUITY Preferred Stock We have 4.4 million authorized shares of preferred stock without par value and with a liquidation preference of $ 1,000 per share, or $ 25 per depositary share. Except for Series I and J, all preferred shares were issued in the form of depositary shares, with each depositary share representing a 1/40 th ownership interest in a share of the preferred stock. All preferred shares are registered with the SEC. In addition, Series A and G preferred shares are listed and traded on the NASDAQ Global Select Market. Preferred shareholders generally receive asset distributions before common shareholders; however, preferred shareholders have only limited voting rights. Preferred stock dividends reduce earnings applicable to common shareholders and are paid on the 15th day of the months indicated in the following schedule. Dividends are approved by the Board. The preferred shares are redeemable at our option after the expiration of any applicable redemption restrictions. The redemption amount is computed at the per share liquidation preference plus any declared but unpaid dividends. Redemptions are subject to certain regulatory provisions including satisfying well-capitalized minimum requirements. During the second quarter of 2021, we redeemed the outstanding shares of our 5.75 % Series H Non-Cumulative Perpetual Preferred Stock at par value, resulting in a $ 126 million decrease of preferred stock. There were no additional fees or premium paid associated with the redemption. 125 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule summarizes key aspects of our preferred stoc (Dollar amounts in millions) Carrying value at December 31, Shares at December 31, 2022 Dividends payable Earliest redemption date Rate following earliest redemption date Dividends payable after rate change 2022 2021 Authorized Outstanding Rate (when applicable) Series A $ 67 $ 67 140,000 66,139 > of 4.0 % or 3mL+ 0.52 % Qtrly Mar, Jun, Sep, Dec Dec 15, 2011 Series G 138 138 200,000 138,390 6.3 % Qtrly Mar, Jun, Sep, Dec Mar 15, 2023 annual float-ing rate = 3mL+ 4.24 % Series I 99 99 300,893 98,555 5.8 % Semi-annually Jun, Dec Jun 15, 2023 annual float-ing rate = 3mL+ 3.8 % Qtrly Mar, Jun, Sep, Dec Series J 136 136 195,152 136,368 7.2 % Semi-annually Mar, Sep Sep 15, 2023 annual float-ing rate = 3mL+ 4.44 % Qtrly Mar, Jun, Sep, Dec Total $ 440 $ 440 Common Stock Our common stock is traded on the NASDAQ Global Select Market. At December 31, 2022 , there were 148.7 million shares of $ 0.001 par common stock outstanding. The balance of common stock and additional paid-in-capital was $ 1.8 billion at December 31, 2022 , and decreased $ 174 million , or 9 % , primarily as a result of common stock repurchases. During 2022, we repurchased 3.6 million shares of common shares outstanding with a fair value of $ 200 million at an average price of $ 56.13 per share. During 2021, we repurchased 13.5 million shares of common shares outstanding with a fair value of $ 800 million at an average price of $ 59.27 per share. In February 2023, we repurchased 946,644 common shares outstanding for $ 50 million at an average price of $ 52.82 . Accumulated Other Comprehensive Income AOCI decreased $ 3.0 billion to a loss of $ 3.1 billion at December 31, 2022, primarily due to the decline in the fair value of AFS securities as a result of increases in benchmark interest rates. During the fourth quarter of 2022, we transferred approximately $ 10.7 billion fair value ($ 13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category to reflect our intent for these securities. The amortized cost basis of these securities does not include $ 2.4 billion of unrealized losses in AOCI that is amortized over the life of the securities. The amortization of the unrealized losses reported in AOCI will offset the effect of the accretion of the discount in interest income that is created by adjusting the amortized cost basis to the securities’ fair value on the date of the transfer. 126 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Changes in AOCI by component are as follows: (In millions) Net unrealized gains (losses) on investment securities Net unrealized gains (losses) on derivatives and other Pension and post-retirement Total 2022 Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) Other comprehensive loss before reclassifications, net of tax ( 2,722 ) ( 332 ) 1 ( 3,053 ) Amounts reclassified from AOCI, net of tax — 21 — 21 Other comprehensive loss ( 2,722 ) ( 311 ) 1 ( 3,032 ) Balance at December 31, 2022 $ ( 2,800 ) $ ( 311 ) $ ( 1 ) $ ( 3,112 ) Income tax benefit included in other comprehensive loss $ ( 888 ) $ ( 101 ) $ — $ ( 989 ) 2021 Balance at December 31, 2020 $ 258 $ 69 $ ( 2 ) $ 325 Other comprehensive loss before reclassifications, net of tax ( 336 ) ( 23 ) — ( 359 ) Amounts reclassified from AOCI, net of tax — ( 46 ) — ( 46 ) Other comprehensive loss ( 336 ) ( 69 ) — ( 405 ) Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) Income tax benefit included in other comprehensive loss $ ( 109 ) $ ( 22 ) $ — $ ( 131 ) Statement of Income (SI) (In millions) Amounts reclassified from AOCI 1 Details about AOCI components 2022 2021 2020 Affected line item Net unrealized gains (losses) on derivative instruments $ ( 27 ) $ 61 $ 47 SI Interest and fees on loans Income tax expense (benefit) ( 6 ) 15 11 $ ( 21 ) $ 46 $ 36 Amortization of net actuarial loss 2 $ — $ — $ ( 28 ) SI Other noninterest expense Income tax expense (benefit) — — ( 7 ) $ — $ — $ ( 21 ) 1 Positive reclassification amounts indicate increases to earnings in the statement of income. 2 There was no amortization of net actuarial loss in 2021 and 2022 due to the termination of pension plan in 2020. Deferred Compensation Deferred compensation consists of invested assets, including our common stock, which are held in rabbi trusts for certain employees and directors. The cost of our common stock was approximately $ 14 million and $ 13 million at December 31, 2022 and 2021, respectively. We consolidate the rabbi trust assets and liabilities and include them in “Other assets” and “Other liabilities” on the consolidated balance sheet. At December 31, 2022 and 2021, total invested assets were approximately $ 114 million and $ 138 million, and total obligations were approximately $ 128 million and $ 151 million, respectively. 15. REGULATORY MATTERS We are subject to various regulatory capital requirements administered by federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory — and possibly additional discretionary — actions by regulators that, if undertaken, could have a direct material effect on our financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, we must meet specific capital guidelines that involve quantitative measures of our assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. Required capital levels are also subject to judgmental review by regulators. At December 31, 2022 and 2021, we exceeded all capital adequacy requirements under the Basel III capital rules. 127 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Quantitative measures established by regulation to ensure capital adequacy require us to maintain minimum amounts and ratios of Total capital, Tier 1 capital (as defined in the regulations), and common equity Tier 1 (“CET1”) to risk-weighted assets, and Tier 1 capital to average assets (Tier 1 leverage ratio). “Well-capitalized” levels are also published as a guideline to evaluate capital positions. At December 31, 2022 and 2021, all of our capital ratios exceeded the “well-capitalized” levels under the regulatory framework for prompt corrective action. Dividends declared by us may not exceed specified criteria unless otherwise approved by our regulators. When determining dividends, we consider current and historical earning levels, retained earnings, and risk-based and other regulatory capital requirements and limitations. Our internal stress tests seek to comprehensively measure all risks to which we are exposed, the losses that could result from those risk exposures under adverse scenarios, and our resulting capital levels. These stress tests have both a qualitative and a quantitative component. The qualitative component evaluates our risk identification processes, stress risk modeling, policies, capital planning, governance processes, and other components of a capital adequacy process. The quantitative process subjects our balance sheet and other risk characteristics to stress testing by using our own models. Our capital amounts and ratios under Basel III at December 31, 2022 and 2021 are as follows: (Dollar amounts in millions) December 31, 2022 To be well-capitalized Amount Ratio Amount Ratio Basel III Regulatory Capital Amounts and Ratios Common equity tier 1 capital (to risk-weighted assets) $ 6,481 9.8 % $ 4,297 6.5 % Tier 1 capital (to risk-weighted assets) 6,921 10.5 5,289 8.0 Total capital (to risk-weighted assets) 8,077 12.2 6,611 10.0 Tier 1 leverage ratio 6,921 7.7 4,472 5.0 December 31, 2021 To be well-capitalized (Dollar amounts in millions) Amount Ratio Amount Ratio Basel III Regulatory Capital Amounts and Ratios Common equity tier 1 capital (to risk-weighted assets) $ 6,068 10.2 % $ 3,874 6.5 % Tier 1 capital (to risk-weighted assets) 6,508 10.9 4,768 8.0 Total capital (to risk-weighted assets) 7,652 12.8 5,960 10.0 Tier 1 leverage ratio 6,508 7.2 4,546 5.0 The Basel III capital rules require us to maintain certain minimum capital ratios, as well as a 2.5% “capital conservation buffer,” which is designed to absorb losses during periods of economic stress, composed entirely of CET1, and in excess of the minimum risk-based capital ratios. The following schedule presents the minimum capital ratios and capital conservation buffer requirements, compared with our capital ratios at December 31, 2022. December 31, 2022 Minimum capital requirement Capital conservation buffer Minimum capital ratio requirement with capital conservation buffer Current capital ratio CET1 to risk-weighted assets 4.5 % 2.5 % 7.0 % 9.8 % Tier 1 capital (i.e., CET1 plus additional Tier 1 capital) to risk-weighted assets 6.0 2.5 8.5 10.5 Total capital (i.e., Tier 1 capital plus Tier 2 capital) to risk-weighted assets 8.0 2.5 10.5 12.2 Financial institutions with a ratio of CET1 to risk-weighted assets above the minimum but below the capital conservation buffer may face constraints on dividends, equity repurchases, and compensation based on the amount of the shortfall. Our internal triggers and limits under actual conditions and baseline projections are more restrictive than the capital conservation buffer requirements. 128 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 16. COMMITMENTS, GUARANTEES, CONTINGENT LIABILITIES, AND RELATED PARTIES Commitments and Guarantees We use certain financial instruments, including derivative instruments, in the normal course of business to meet the financing needs of our customers, to reduce our own exposure to fluctuations in interest rates, and to make a market in U.S. government, agency, corporate, and municipal securities. These financial instruments involve, to varying degrees, elements of credit, liquidity, and interest rate risk in excess of the amounts recognized in the balance sheet. See Notes 3 and 7 for more information on derivative instruments. Contractual amounts related to off-balance sheet financial instruments used to meet the financing needs of our customers are as follows: December 31, (In millions) 2022 2021 Unfunded lending commitments 1 $ 29,628 $ 25,797 Standby letters of cr Financial 667 597 Performance 184 245 Commercial letters of credit 11 22 Mortgage-backed security purchase agreements 2 23 1 Total unfunded commitments $ 30,513 $ 26,662 1 Net of participations. 2 Represents agreements with Farmer Mac to purchase securities backed by certain agricultural mortgage loans. Loan commitments are agreements to lend to a customer subject to specified conditions. Commitments generally have fixed expiration dates or other termination clauses and may require the payment of a fee. The amount of collateral obtained, if deemed necessary by us upon extension of credit, is based on our initial credit evaluation of the counterparty. Types of collateral vary, but may include accounts receivable, inventory, property, plant and equipment, and income-producing properties. While making loan commitments creates credit risk, a significant portion of such commitments is expected to expire without being drawn upon. At December 31, 2022, we had $ 7.7 billion of commitments scheduled to expire in 2023. We use the same credit policies and procedures in making loan commitments and conditional obligations as we do for on-balance sheet instruments. These policies and procedures include credit approvals, limits, and ongoing monitoring. We issue standby and commercial letters of credit as conditional commitments generally to guarantee the performance of a customer to a third party. The guarantees are primarily issued to support public and private borrowing arrangements, including commercial paper, bond financing, and similar transactions. Standby letters of credit include commitments of $ 851 million expiring in 2023. The credit risk involved in issuing letters of credit is equivalent to the risk involved in extending credit to customers. We generally hold marketable securities and cash equivalents as collateral. Certain mortgage loans sold have limited recourse provisions for periods ranging from three months to one year . The amount of losses resulting from the exercise of these provisions has not been significant. Legal Matters We are subject to litigation in court and arbitral proceedings, as well as investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ 129 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. At December 31, 2022, we were subject to the following material litigation or governmental inquiri • Two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the Bank who filed for bankruptcy protection in 2017. The cases are in early phases, with initial motion practice and discovery underway in the Lifescan case. Trial has not been scheduled in either case. • Five civil class action cases have been filed against us by the same plaintiffs’ attorney, seeking to hold the Bank liable for practices relating to, and disclosures in, its deposit agreement pertaining to fees. Four of the five cases have been dismissed, and the following case remains pending and is in early phases of litigati Sipple v. Zions Bancorporation, N.A. , brought against us in the District Court of Clark County, Nevada in February 2021 with respect to foreign transaction fees. • In addition, two class action lawsuits, Evans v. CB&T, and Gregory, et. al. v. Zions Bancorporation , were settled in principle earlier in 2022. The settlement in the Evans case was completed in December 2022 and did not have a significant financial impact on the Bank. The parties to the Gregory case are undertaking the procedural and administrative actions, including court approvals of the settlement, necessary to complete the settlement. There can be no assurance that the proposed settlement will receive court approvals or that the conditions to settlement will be met. If completed, this settlement is not expected to have a significant financial impact on the Bank. At least quarterly, we review outstanding and new legal matters, utilizing then available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at December 31, 2022, we estimated that the aggregate range of reasonably possible losses for those matters to be from zero to approximately $ 5 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant 130 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments, and actual outcomes will differ from our estimates. These differences may be material. Related Party Transactions We have no material related party transactions requiring disclosure. In the ordinary course of business, we extend credit to related parties, including executive officers, directors, principal shareholders, and their associates and related interests. These related party loans are made in compliance with applicable banking regulations. 17. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which represented approximately 79 % of our total revenue in 2022. Noninterest income and revenue from contracts with customers is recognized when control of the promised goods or services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those goods or services. We recognize the incremental cost of obtaining a contract as an expense, when incurred, if the amortization period of the asset that we would have recognized is one year or less. For performance obligations satisfied over time, if we have a right to consideration from a customer in an amount that corresponds directly with the value to the customer of our performance completed to date, we will generally recognize revenue in the amount to which we have a right to invoice. We do not generally disclose information about our remaining performance obligations for those performance obligations that have an original expected duration of one year or less, or where we recognize revenue in the amount to which we have a right to invoice. The following is a description of revenue from contracts with custome Commercial Account Fees Commercial account fee income is comprised of account analysis fees, merchant fees, and payroll services income. Revenue is recognized as the services are rendered or upon completion of services. Card Fees Our card fee income includes interchange income from credit and debit cards, net fees earned from processing card transactions for merchants, and automated teller machine (“ATM”) services. Card income is recognized as earned. Reward program costs are recorded when the rewards are earned by the customer and presented as a reduction to interchange income. Retail and Business Banking Fees Retail and business banking fees typically consist of fees charged for providing customers with deposit services. These fees are primarily comprised of insufficient funds fees, noncustomer ATM charges, and other various fees on deposit accounts. Service charges on deposit accounts include fees earned in lieu of compensating balances, and fees earned for performing cash management services and other deposit account services. Service charges on deposit accounts in this revenue category are recognized over the period in which the related service is provided. Treasury Management fees are billed monthly based on services rendered for the month. 131 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Capital Markets and Foreign Exchange Fees Capital markets and foreign exchange fees primarily consist of municipal advisory services, customer swap fees, loan syndication fees, and foreign exchange services provided to customers. Revenue is recognized as the services are rendered or upon completion of services. Wealth Management Fees Wealth management fees are primarily comprised of wealth management commissions, but also are made up of other products such as portfolio services and advisory services. Revenue is recognized as the services are rendered or upon completion of services. Financial planning, fiduciary, and estate services typically have performance obligations that are greater than 12 months, although the amount of future performance obligations are not significant. Other Customer-related Fees Other customer-related fees generally consist of miscellaneous income sources, including fees associated with compliance and other support services to pharmacies and healthcare providers; corporate trust fees; other advisory and referral fees; and fees associated with claims and inventory management services for certain customers. Revenue is recognized as the services are rendered or upon completion of services. Disaggregation of Revenue The schedule below presents net revenue by our operating business segments. Certain prior period amounts have been reclassified to conform with the current period presentation, where applicable. These reclassifications did not affect net income or shareholders’ equity. Zions Bank CB&T Amegy (In millions) 2022 2021 2020 2022 2021 2020 2022 2021 2020 Commercial account fees $ 53 $ 46 $ 43 $ 28 $ 25 $ 23 $ 46 $ 40 $ 42 Card fees 55 58 50 20 17 13 33 29 24 Retail and business banking fees 22 22 21 12 12 11 16 15 15 Capital markets and foreign exchange fees — — ( 2 ) — — — — — — Wealth management fees 22 21 17 4 5 4 15 13 10 Other customer-related fees 8 7 7 6 4 5 7 6 7 Total noninterest income from contracts with customers (ASC 606) 160 154 136 70 63 56 117 103 98 Other noninterest income (non-ASC 606 customer-related) 19 21 23 34 34 36 40 36 34 Total customer-related noninterest income 179 175 159 104 97 92 157 139 132 Other noncustomer-related noninterest income 5 10 ( 1 ) 4 5 3 1 2 1 Total noninterest income 184 185 158 108 102 95 158 141 133 Other real estate owned gain from sale — — — — — 1 — — — Net interest income 741 633 650 595 536 512 513 462 485 Total net revenue $ 925 $ 818 $ 808 $ 703 $ 638 $ 608 $ 671 $ 603 $ 618 132 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NBAZ NSB Vectra (In millions) 2022 2021 2020 2022 2021 2020 2022 2021 2020 Commercial account fees $ 9 $ 7 $ 7 $ 11 $ 9 $ 8 $ 8 $ 7 $ 6 Card fees 15 11 10 15 12 10 9 6 5 Retail and business banking fees 9 9 8 10 10 9 4 4 4 Capital markets and foreign exchange fees — — — — — — — — — Wealth management fees 3 3 2 5 4 3 1 2 1 Other customer-related fees 2 1 1 1 1 1 3 2 3 Total noninterest income from contracts with customers (ASC 606) 38 31 28 42 36 31 25 21 19 Other noninterest income (non-ASC 606 customer-related) 8 13 12 6 14 12 6 12 13 Total customer-related noninterest income 46 44 40 48 50 43 31 33 32 Other noncustomer-related noninterest income 2 2 1 — — — — — — Total noninterest income 48 46 41 48 50 43 31 33 32 Other real estate owned gain from sale — — — — — — — — — Net interest income 241 204 216 183 146 146 153 136 135 Total net revenue $ 289 $ 250 $ 257 $ 231 $ 196 $ 189 $ 184 $ 169 $ 167 TCBW Other Consolidated Bank (In millions) 2022 2021 2020 2022 2021 2020 2022 2021 2020 Commercial account fees $ 2 $ 2 $ 1 $ 2 $ 1 $ 2 $ 159 $ 137 $ 132 Card fees 2 1 1 — 1 — 149 135 113 Retail and business banking fees — — — — 1 — 73 73 68 Capital markets and foreign exchange fees — — — 4 6 7 4 6 5 Wealth management fees — — — 1 ( 2 ) 1 51 46 38 Other customer-related fees 1 1 1 31 30 21 59 52 46 Total noninterest income from contracts with customers (ASC 606) 5 4 3 38 37 31 495 449 402 Other noninterest income (non-ASC 606 customer-related) 2 2 2 4 ( 6 ) 15 119 126 147 Total customer-related noninterest income 7 6 5 42 31 46 614 575 549 Other noncustomer-related noninterest income — — — 6 109 21 18 128 25 Total noninterest income 7 6 5 48 140 67 632 703 574 Other real estate owned gain from sale — — — — — — — — 1 Net interest income 63 53 52 31 38 20 2,520 2,208 2,216 Total net revenue $ 70 $ 59 $ 57 $ 79 $ 178 $ 87 $ 3,152 $ 2,911 $ 2,791 Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is generally not significant. 18. RETIREMENT PLANS Defined Benefit Plans Pension Plan — In June 2020, we terminated our pension plan and incurred a one-time $ 28 million expense, which was recognized in other noninterest expense. Supplemental Retirement Plans — These unfunded, nonqualified plans are for certain current and former employees. Each year, our contributions to these plans are made in amounts sufficient to meet benefit payments to 133 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES plan participants. Our liability for these plans totaled approximately $ 10 million and $ 12 million at December 31, 2022, and 2021, respectively. Post-retirement Plan — This unfunded health care and life insurance plan provides post-retirement benefits to certain former full-time employees who meet minimum age and service requirements. Our contribution toward the retiree medical premium has been permanently frozen at an amount that does not increase in any future year. Each year, our contributions to the plan are made in amounts sufficient to meet the portion of the premiums that are our responsibility. Our liability for this plan was less than $ 1 million at December 31, 2022 and 2021. The liability for supplemental retirement and post-retirement benefits is included in “Other liabilities” on the consolidated balance sheet. Defined Contribution Plan We offer a 401(k) and employee stock ownership plan under which employees select from several investment alternatives. Employees can contribute up to 80 % of their earnings subject to the annual maximum allowed contribution. We match 100 % of the first 3 % of employee contributions and 50 % of the next 3 % of employee contributions. Matching contributions to participants amounted to $ 33 million, $ 32 million, and $ 31 million in 2022 , 2021, and 2020 respectively. The 401(k) plan also has a noncontributory profit-sharing feature that is discretionary and may range from 0 % to 3.5 % of eligible compensation based upon our performance according to a formula approved annually by the Board. The profit-sharing expense was $ 19 million, $ 24 million, and $ 7 million in 2022 , 2021 , and 2020, respectively. The profit-sharing contribution to participants consisted of shares of our common stock purchased in the open market. 19. SHARE-BASED COMPENSATION We have a share-based compensation incentive plan that allows us to grant stock options, restricted stock, RSUs, and other awards to employees and nonemployee directors. Total shares authorized under the plan at December 31, 2022 were 4,300,000 , of which 3,683,780 were available for future grants. All share-based payments to employees, including grants of employee stock options, are recognized as compensation expense in the statement of income based on their grant date values with consideration of service and performance vesting requirements. The value of an equity award is estimated on the grant date using a fair value model without regard to service or performance vesting conditions, but does consider post-vesting restrictions. We classify all share-based awards as equity instruments. Compensation expense is included in salaries and employee benefits in the statement of income, and the corresponding equity effect is included in additional paid-in capital. We account for forfeitures of share-based compensation awards as they occur. Substantially all share-based awards of stock options, restricted stock, and RSUs have graded vesting that is recognized on a straight-line basis over the vesting period. The following schedule presents compensation expense and the related tax benefit for all share-based awards: (In millions) 2022 2021 2020 Compensation expense $ 30 $ 28 $ 26 Reduction of income tax expense 11 11 8 At December 31, 2022, compensation expense not yet recognized for nonvested share-based awards was approximately $ 31 million, which is expected to be recognized over a weighted average period of 2.4 years. Stock Options Stock options granted to employees generally vest at the rate of one third each year and expire seven years after the date of grant. For all stock options granted in 2022, 2021, and 2020, we used the Black-Scholes option pricing model to estimate the grant date value of stock options in determining compensation expense. The following 134 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES summarizes the weighted average value at grant date and the significant assumptions used in applying the Black-Scholes model for options grant 2022 2021 2020 Weighted average value for options granted $ 15.16 $ 7.86 $ 8.18 Weighted average assumptions us Expected dividend yield 2.3 % 2.5 % 3.0 % Expected volatility 27.0 % 25.0 % 27.0 % Risk-free interest rate 1.98 % 0.47 % 1.38 % Expected life (in years) 5.0 5.0 5.0 The assumptions for expected dividend yield, expected volatility, and expected life reflect management’s judgment and include consideration of historical experience. Expected volatility is based in part on historical volatility. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant for periods corresponding with the expected life of the option. The following summarizes our stock option activity for the three years ended December 31, 2022: Number of shares Weighted average exercise price Balance at December 31, 2019 1,676,778 $ 34.77 Granted 320,913 45.61 Exercised ( 285,954 ) 26.48 Expired ( 22,685 ) 30.17 Forfeited ( 5,395 ) 51.34 Balance at December 31, 2020 1,683,657 38.26 Granted 345,636 48.65 Exercised ( 686,894 ) 31.08 Expired ( 7,910 ) 42.16 Forfeited ( 6,345 ) 48.04 Balance at December 31, 2021 1,328,144 44.60 Granted 201,932 73.02 Exercised ( 256,004 ) 36.79 Expired ( 8,912 ) 37.58 Forfeited ( 2,794 ) 57.75 Balance at December 31, 2022 1,262,366 50.75 Outstanding stock options exercisable as o December 31, 2022 729,411 $ 46.02 December 31, 2021 693,883 41.54 December 31, 2020 1,137,596 33.42 We issue new authorized common shares for the exercise of stock options. The total intrinsic value of stock options exercised was approximately $ 7 million in 2022, $ 16 million in 2021, and $ 3 million in 2020. Cash received from the exercise of stock options was $ 8 million in 2022, $ 20 million in 2021, and $ 7 million in 2020. 135 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents additional selected information on stock options at December 31, 2022: Outstanding stock options Exercisable stock options Exercise price range Number of shares Weighted average exercise price Weighted average remaining contractual life (years) Number of shares Weighted average exercise price $ 4.15 to $ 19.99 5,223 $ 6.41 1 0 5,223 $ 6.41 $ 20.00 to $ 24.99 75,598 20.99 0.1 75,598 20.99 $ 25.00 to $ 29.99 452 29.12 4.8 226 29.12 $ 40.00 to $ 44.99 84,913 44.23 1.2 84,664 44.24 $ 45 .00 to $ 49.99 585,877 47.30 4.6 254,209 46.77 $ 50.00 to $ 59.99 311,062 52.67 2.6 309,491 52.67 $ 60.00 to $ 73.22 199,241 73.19 6.1 — — 1,262,366 50.75 1 3.8 729,411 46.02 1 The weighted average remaining contractual life excludes 5,223 stock options without a fixed expiration date that were assumed with the Amegy acquisition. They expire between the date of termination and one year from the date of termination, depending upon certain circumstances. The aggregate intrinsic value of outstanding stock options at December 31, 2022 and 2021 was $ 4 million and $ 25 million, respectively, while the aggregate intrinsic value of exercisable options was $ 3 million and $ 15 million at the same respective dates. For exercisable options, the weighted average remaining contractual life was 2.8 years and 2.6 years at December 31, 2022 and 2021, respectively, excluding the stock options previously noted without a fixed expiration date. At December 31, 2022, 532,955 stock options with a weighted average exercise price of $ 57.23 , a weighted average remaining life of 5.2 years, and an aggregate intrinsic value of $ 490 thousand , were expected to vest. Restricted Stock and Restricted Stock Units Restricted stock is common stock with certain restrictions that relate to trading and the possibility of forfeiture. Generally, restricted stock vests over four years . Holders of restricted stock have full voting rights and receive dividend equivalents during the vesting period. In addition, holders of restricted stock can make an election to be subject to income tax on the grant date rather than the vesting date. RSUs represent rights to one share of common stock for each unit and generally vest over four years . Holders of RSUs receive dividend equivalents during the vesting period, but do not have voting rights. Compensation expense is determined based on the number of restricted shares or RSUs granted and the market price of our common stock at the issue date. During 2022, 2021, and 2020, we granted 16,722 , 16,938 , and 28,992 RSUs, respectively, to nonemployee directors. The RSUs vested immediately upon grant. The following schedule summarizes our restricted stock activity for the three years ended December 31, 2022: Number of shares Weighted average fair value Nonvested restricted shares at December 31, 2019 50,457 $ 39.50 Issued 27,798 45.65 Vested ( 20,859 ) 34.77 Nonvested restricted shares at December 31, 2020 57,396 44.20 Issued 26,083 39.16 Vested ( 18,663 ) 43.89 Nonvested restricted shares at December 31, 2021 64,816 42.26 Issued 21,038 60.21 Vested ( 25,105 ) 42.66 Nonvested restricted shares at December 31, 2022 60,749 48.31 136 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule summarizes our RSU activity for the three years ended December 31, 2022: Number of restricted stock units Weighted average fair value Restricted stock units at December 31, 2019 1,294,070 $ 43.59 Granted 586,302 42.75 Vested ( 593,375 ) 37.56 Forfeited ( 44,676 ) 47.78 Restricted stock units at December 31, 2020 1,242,321 46.31 Granted 578,056 47.02 Vested ( 505,690 ) 46.51 Forfeited ( 40,604 ) 47.97 Restricted stock units at December 31, 2021 1,274,083 46.49 Granted 433,674 68.07 Vested ( 504,358 ) 47.83 Forfeited ( 34,306 ) 56.58 Restricted stock units at December 31, 2022 1,169,093 53.62 The total value at grant date of restricted stock and RSUs vested during the year was $ 25 million in 2022, $ 24 million in 2021, and $ 23 million in 2020. At December 31, 2022, 60,749 shares of restricted stock and 775,833 RSUs were expected to vest with an aggregate intrinsic value of $ 3 million and $ 38 million , respectively. 20. INCOME TAXES The following schedule presents the major components of our income tax expense: (In millions) 2022 2021 2020 Feder Current $ 236 $ 230 $ 153 Deferred ( 38 ) 27 ( 47 ) Total Federal 198 257 106 State: Current 52 55 38 Deferred ( 5 ) 5 ( 11 ) Total State 47 60 27 Total income tax expense $ 245 $ 317 $ 133 Income tax expense computed at the statutory federal income tax rate of 21% reconciles to actual income tax expense as follows: (In millions) 2022 2021 2020 Income tax expense at statutory federal rate $ 242 $ 304 $ 141 State income taxes including credits, net 38 48 21 Other nondeductible expenses 13 8 8 Nontaxable income ( 40 ) ( 36 ) ( 32 ) Share-based compensation ( 4 ) ( 3 ) ( 1 ) Tax credits and other taxes ( 4 ) ( 4 ) ( 4 ) Total income tax expense $ 245 $ 317 $ 133 137 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES On the consolidated balance sheet, the net DTA is included in “Other assets.” The tax effects of temporary differences that give rise to significant portions of DTAs and DTLs are presented be (In millions) December 31, 2022 2021 Gross deferred tax assets: Book loan loss deduction in excess of tax $ 157 $ 136 Pension and postretirement — 1 Deferred compensation 83 77 Security investments and derivative fair value adjustments 1,011 26 Lease liabilities 49 55 Capitalized costs 82 54 Other 29 30 Total deferred tax assets before valuation allowance 1,411 379 Valuation allowance — — Total deferred tax assets 1,411 379 Gross deferred tax liabiliti Premises and equipment, due to differences in depreciation ( 99 ) ( 88 ) Federal Home Loan Bank stock dividends ( 2 ) ( 2 ) Leasing operations ( 49 ) ( 44 ) Prepaid expenses ( 5 ) ( 8 ) Prepaid pension reserves ( 3 ) ( 6 ) Mortgage servicing ( 12 ) ( 10 ) Deferred loan costs ( 34 ) ( 30 ) ROU assets ( 44 ) ( 49 ) Qualified opportunity fund deferred gains ( 26 ) ( 26 ) Equity investments ( 9 ) ( 20 ) Total deferred tax liabilities ( 283 ) ( 283 ) Net deferred tax assets (liabilities) $ 1,128 $ 96 We have certain fixed-rate AFS securities whose fair value has declined due to increases in benchmark interest rates, resulting in large unrealized losses in the AFS portfolio and a significant DTA. The sale of these securities could result in significant realized losses, which would require future earnings to utilize the deferred tax assets. We have the ability and intent to hold these securities to recovery. We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more-likely-than-not criteria that such assets will be realized. This evaluation includes, but is not limited to, the followin • Future reversals of existing DTLs — These DTLs have a reversal pattern generally consistent with DTAs, and are used to realize the DTAs. • Tax planning strategies — We have considered prudent and feasible tax planning strategies that we would implement to preserve the value of the DTAs, if necessary. • Future projected taxable income — We expect future taxable income will offset the reversal of remaining net DTAs. Based on this evaluation, we concluded that a valuation allowance was not required at December 31, 2022 and 2021. At December 31, 2022, the tax effect of remaining net operating loss and tax credit carryforwards was less than $ 1 million, expiring through 2039. 138 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES We have a liability for unrecognized tax benefits relating to uncertain tax positions for tax credits on technology initiatives. The following schedule presents a rollforward of gross unrecognized tax benefits: (In millions) 2022 2021 2020 Balance at beginning of year $ 14 $ 11 $ 14 Tax positions related to current y Additions 2 2 2 Tax positions related to prior yea Additions — 1 — Reductions ( 1 ) — ( 5 ) Lapses in statutes of limitations ( 2 ) — — Balance at end of year $ 13 $ 14 $ 11 At both December 31, 2022 and 2021, the liability for unrecognized tax benefits included approximately $ 12 million (net of the federal tax benefit on state taxes) that, if recognized, would affect the effective tax rate. The amount of gross unrecognized tax benefits related to tax credits on technology initiatives that may increase or decrease during the 12 months subsequent to December 31, 2022 is dependent on the timing and outcome of various ongoing federal and state examinations. For tax years not currently under examination, the gross unrecognized tax benefits on technology initiatives may decrease by approximately $ 5 million. Interest and penalties related to unrecognized tax benefits are included in income tax expense in the statement of income. At both December 31, 2022 and 2021, accrued interest and penalties recognized in the balance sheet, net of any federal and state tax benefits, totaled approximately $ 1 million. We file income tax returns in U.S. federal and various state jurisdictions, and we are no longer subject to income tax examinations for years prior to 2013 for federal and certain state returns. 139 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 21. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: (In millions, except shares and per share amounts) 2022 2021 2020 Basic: Net income $ 907 $ 1,129 $ 539 Less common and preferred dividends 269 261 259 Less impact from redemption of preferred stock — 3 — Undistributed earnings 638 865 280 Less undistributed earnings applicable to nonvested shares 5 7 2 Undistributed earnings applicable to common shares 633 858 278 Distributed earnings applicable to common shares 237 230 223 Total earnings applicable to common shares $ 870 $ 1,088 $ 501 Weighted average common shares outstanding (in thousands) 150,064 159,913 163,737 Net earnings per common share $ 5.80 $ 6.80 $ 3.06 Dilut Total earnings applicable to common shares $ 870 $ 1,088 $ 501 Weighted average common shares outstanding (in thousands) 150,064 159,913 163,737 Dilutive effect of common stock warrants (in thousands) — — 1,641 Dilutive effect of stock options (in thousands) 207 321 235 Weighted average diluted common shares outstanding (in thousands) 150,271 160,234 165,613 Net earnings per common share $ 5.79 $ 6.79 $ 3.02 The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per share. (In thousands) 2022 2021 2020 Restricted stock and restricted stock units $ 1,265 $ 1,374 $ 1,338 Stock options 178 74 889 22. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, Amegy Bank, California Bank & Trust, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. Our affiliate banks are supported by an enterprise operating segment (referred to as the “Other” segment) that provides governance and risk management, allocates capital, establishes strategic objectives, and includes centralized technology, back-office functions, and certain lines of business not operated through our affiliate banks. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal funds transfer pricing (“FTP”) allocation process to report results of operations for business segments. This process is subject to change and refinement over time. In the third quarter of 2020, we began allocating the net interest income associated with our Treasury department to the business segments. Historically, this amount was presented in the “Other” segment. Prior period amounts have been revised to reflect the impact of these changes had they been instituted for the periods presented. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. 140 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At December 31, 2022, Zions Bank operated 95 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. CB&T operated 80 branches in California. Amegy operated 75 branches in Texas. NBAZ operated 56 branches in Arizona. NSB operated 46 branches in Nevada. Vectra operated 34 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. In July 2022, NSB completed the purchase of three Northern Nevada City National Bank branches and their associated deposit, credit card, and loan accounts. We acquired approximately $ 430 million in deposits and $ 95 million in commercial and consumer loans at the time of the purchase. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. 141 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment informati (In millions) Zions Bank CB&T Amegy 2022 2021 2020 2022 2021 2020 2022 2021 2020 SELECTED INCOME STATEMENT DATA Net interest income $ 741 $ 633 $ 650 $ 595 $ 536 $ 512 $ 513 $ 462 $ 485 Provision for credit losses 43 ( 26 ) 67 49 ( 78 ) 120 5 ( 96 ) 111 Net interest income after provision for credit losses 698 659 583 546 614 392 508 558 374 Noninterest income 184 185 158 108 102 95 158 141 133 Noninterest expense 495 464 446 340 311 305 355 337 329 Income (loss) before income taxes $ 387 $ 380 $ 295 $ 314 $ 405 $ 182 $ 311 $ 362 $ 178 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 13,277 $ 13,198 $ 13,845 $ 13,129 $ 12,892 $ 12,366 $ 12,110 $ 12,189 $ 13,114 Total average deposits 24,317 23,588 18,370 16,160 15,796 13,763 15,735 15,496 12,970 (In millions) NBAZ NSB Vectra 2022 2021 2020 2022 2021 2020 2022 2021 2020 SELECTED INCOME STATEMENT DATA Net interest income $ 241 $ 204 $ 216 $ 183 $ 146 $ 146 $ 153 $ 136 $ 135 Provision for credit losses 11 ( 27 ) 35 4 ( 35 ) 37 9 ( 12 ) 34 Net interest income after provision for credit losses 230 231 181 179 181 109 144 148 101 Noninterest income 48 46 41 48 50 43 31 33 32 Noninterest expense 167 151 147 151 142 141 120 114 109 Income (loss) before income taxes $ 111 $ 126 $ 75 $ 76 $ 89 $ 11 $ 55 $ 67 $ 24 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 4,911 $ 4,849 $ 5,099 $ 2,987 $ 3,015 $ 3,102 $ 3,632 $ 3,414 $ 3,401 Total average deposits 8,035 7,288 5,771 7,436 6,691 5,427 4,109 4,386 3,637 (In millions) TCBW Other Consolidated Bank 2022 2021 2020 2022 2021 2020 2022 2021 2020 SELECTED INCOME STATEMENT DATA Net interest income $ 63 $ 53 $ 52 $ 31 $ 38 $ 20 $ 2,520 $ 2,208 $ 2,216 Provision for credit losses 1 ( 3 ) 7 — 1 3 122 ( 276 ) 414 Net interest income after provision for credit losses 62 56 45 31 37 17 2,398 2,484 1,802 Noninterest income 7 6 5 48 140 67 632 703 574 Noninterest expense 24 21 22 226 201 205 1,878 1,741 1,704 Income (loss) before income taxes $ 45 $ 41 $ 28 $ ( 147 ) $ ( 24 ) $ ( 121 ) $ 1,152 $ 1,446 $ 672 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,630 $ 1,569 $ 1,460 $ 922 $ 857 $ 629 $ 52,598 $ 51,983 $ 53,016 Total average deposits 1,571 1,537 1,256 1,166 1,475 2,495 78,529 76,257 63,689 142 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 23. QUARTERLY FINANCIAL INFORMATION (UNAUDITED) Quarterly financial information for 2022 and 2021 is presented below. Prior period amounts have been reclassified to conform with the current year presentation, where applicable. These reclassifications did not affect net income. See related discussion in Note 1. (In millions, except per share amounts) Fourth Quarter Third Quarter Second Quarter First Quarter 2022 Total interest income $ 835 $ 707 $ 608 $ 555 Net interest income 720 663 593 544 Provision for credit losses 43 71 41 ( 33 ) Noninterest income 153 165 172 142 Noninterest expense 471 479 464 464 Income before income taxes 359 278 260 255 Net income 284 217 203 203 Preferred stock dividends 7 6 8 8 Net earnings applicable to common shareholders 277 211 195 195 Net earnings per common sh Basic 1.84 1.40 1.29 1.27 Diluted 1.84 1.40 1.29 1.27 2021 Total interest income $ 566 $ 569 $ 570 $ 562 Net interest income 553 555 555 545 Provision for credit losses 25 ( 46 ) ( 123 ) ( 132 ) Noninterest income 190 139 205 169 Noninterest expense 449 429 428 435 Income before income taxes 269 311 455 411 Net income 213 240 354 322 Preferred stock dividends 6 6 9 8 Net earnings applicable to common shareholders 207 234 345 314 Net earnings per common sh Basic 1.34 1.45 2.08 1.90 Diluted 1.34 1.45 2.08 1.90 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. ITEM 9A. CONTROLS AND PROCEDURES Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures as of December 31, 2022. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of December 31, 2022. There were no changes in our internal control over financial reporting during the fourth quarter of 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. See “Report on Management’s Assessment of Internal Control over Financial Reporting” included in Item 8 on page 73 for management’s report on the adequacy of internal control over financial reporting. Also see “Report on Internal Control over Financial Reporting” issued by Ernst & Young LLP included in Item 8 on page 74. ITEM 9B. OTHER INFORMATION None. 143 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 9C. DISCLOSURE REGARDING FOREIGN JURISDICTIONS THAT PREVENT INSPECTIONS None. PART III ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, AND CORPORATE GOVERNANCE Incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 11. EXECUTIVE COMPENSATION Incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS Equity Compensation Plan Information The following schedule provides information as of December 31, 2022 with respect to the shares of our common stock that may be issued under existing equity compensation plans. (a) (b) (c) Plan category 1 Number of securities to be issued upon exercise of outstanding options, warrants and rights Weighted average exercise price of outstanding options, warrants and rights Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a)) Equity compensation plan approved by security holde Zions Bancorporation, N.A. 2022 Omnibus Incentive Plan 1,257,143 $ 50.93 3,683,780 1 Column (a) excludes 60,749 shares of unvested restricted stock, and 1,169,093 RSUs (each unit representing the right to one share of common stock). The schedule also excludes 5,223 shares of common stock issuable upon the exercise of stock options, with a weighted average exercise price of $6.41, granted under plans assumed in mergers that are outstanding. Other information required by Item 12 is incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE Incorporated by reference from our Proxy Statement to be subsequently filed. ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES Incorporated by reference from our Proxy Statement to be subsequently filed. PART IV ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES a. (1) Financial statements — The following consolidated financial statements of Zions Bancorporation, N.A. are filed as part of this Form 10-K under Item 8, Financial Statements and Supplementary Da Consolidated balance sheets — December 31, 2022 and 2021 Consolidated statements of income — Years ended December 31, 2022, 2021, and 2020 Consolidated statements of comprehensive income — Years ended December 31, 2022, 2021, and 2020 144 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Consolidated statements of changes in shareholders ’ equity — Years ended December 31, 2022, 2021, and 2020 Consolidated statements of cash flows — Years ended December 31, 2022, 2021, and 2020 Notes to consolidated financial statements — December 31, 2022 (2) Financial statement schedules — All financial statement schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions, the required information is contained elsewhere in the Form 10-K, or the schedules are inapplicable and have therefore been omitted. (3) List of Exhibits: Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 4.1 Description of Securities of Zions Bancorporation, National Association, as of December 31, 2022 (filed herewith). 10.1 Zions Bancorporation 2020-2022 Value Sharing Plan, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended June 30, 2022. * 10.2 Zions Bancorporation 2021-2023 Value Sharing Plan, incorporated by reference to Exhibit 10.2 of Form 10-Q for the quarter ended June 30, 2022. * 10.3 Zions Bancorporation 2021-2023 Value Sharing Plan with conditional incentives, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended June 30, 2022. * 10.4 Zions Bancorporation 2022-2024 Value Sharing Plan, incorporated by reference to Exhibit 10.4 of Form 10-Q for the quarter ended June 30, 2022. * 10.5 Zions Bancorporation 2017 Management Incentive Compensation Plan, incorporated by reference to Appendix I of our Proxy Statement dated April 14, 2016. * 10.6 Zions Bancorporation Third Restated and Revised Deferred Compensation Plan, incorporated by reference to Exhibit 10.5 of Form 10-K for the year ended December 31, 2018. * 10.7 Zions Bancorporation Fourth Restated Deferred Compensation Plan for Directors, incorporated by reference to Exhibit 10.6 of Form 10-K for the year ended December 31, 2018. * 10.8 Amendment to the Zions Bancorporation Fourth Restated Deferred Compensation Plan for Directors, incorporated by reference to Exhibit 10.8 of Form 10-K for the year ended December 31, 2015. * 10.9 Amegy Bancorporation, Inc. Fifth Amended and Restated Non-Employee Directors Deferred Fee Plan (Frozen upon merger with Zions Bancorporation in 2005), incorporated by reference to Exhibit 10.8 of Form 10-K for the year ended December 31, 2018. * 10.10 Zions Bancorporation Executive Management Pension Plan, incorporated by reference to Exhibit 10.8 of Form 10-K for the year ended December 31, 2020. * 145 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Exhibit Number Description 10.11 Zions Bancorporation First Restated Excess Benefit Plan, incorporated by reference to Exhibit 10.9 of Form 10-K for the year ended December 31, 2020. * 10.12 Amegy Bancorporation 2004 (formerly Southwest Bancorporation of Texas, Inc.) Omnibus Incentive Plan, incorporated by reference to Exhibit 10.38 of Form 10-K for the year ended December 31, 2015. * 10.13 Trust Agreement establishing the Zions Bancorporation Deferred Compensation Plan Trust by and between Zions Bancorporation and Cigna Bank & Trust Company, FSB effective October 1, 2002, incorporated by reference to Exhibit 10.12 of Form 10-K for the year ended December 31, 2018. * 10.14 Amendment to the Trust Agreement Establishing the Zions Bancorporation Deferred Compensation Plans Trust, effective September 1, 2006, incorporated by reference to Exhibit 10.13 of Form 10-K for the year ended December 31, 2018. * 10.15 Amendment to the Trust Agreement establishing the Zions Bancorporation Deferred Compensation Plan Trust by and between Zions Bancorporation and Cigna Bank & Trust Company, FSB substituting Prudential Bank & Trust, FSB as the trustee, incorporated by reference to Exhibit 10.12 of Form 10-K for the year ended December 31, 2016. * 10.16 Zions Bancorporation Deferred Compensation Plans Master Trust between Zions Bancorporation and Fidelity Management Trust Company, effective September 1, 2006, incorporated by reference to Exhibit 10.15 of Form 10-K for the year ended December 31, 2018. * 10.17 Revised schedule C to Zions Bancorporation Deferred Compensation Plans Master Trust between Zions Bancorporation and Fidelity Management Trust Company, effective September 13, 2006, incorporated by reference to Exhibit 10.16 of Form 10-K for the year ended December 31, 2018. * 10.18 Third Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, dated June 13, 2012, incorporated by reference to Exhibit 10.17 of Form 10-K for the year ended December 31, 2017. * 10.19 Fifth Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, incorporated by reference to Exhibit 10.18 of Form 10-K for the year ended December 31, 2018. * 10.20 Sixth Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, dated August 17, 2015, incorporated by reference to Exhibit 10.18 of Form 10-K for the year ended December 31, 2020. * 10.21 Seventh Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, effective September 30, 2018, incorporated by reference to Exhibit 10.2 of Form 10-Q for the quarter ended September 30, 2018. * 10.22 Ninth Amendment to the Trust Agreement between Fidelity Management Trust Company and Zions Bancorporation for the Deferred Compensation Plans, effective April 1, 2022, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended September 30, 2022. * 10.23 Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, Restated and Amended effective January 1, 2007, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended June 30, 2018. * 146 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Exhibit Number Description 10.24 Second Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated December 31, 2018, effective January 1, 2019, incorporated by reference to Exhibit 10.27 of Form 10-K for the year ended December 31, 2018. * 10.25 Third Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated June 27, 2019, effective September 30, 2018, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended June 30, 2019. * 10.26 Fourth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated September 11, 2020, effective January 1, 2020, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended September 30, 2020. * 10.27 Fifth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated September 11, 2020, effective January 1, 2020, incorporated by reference to Exhibit 10.2 of Form 10-Q for the quarter ended September 30, 2020. * 10.28 Sixth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated September 11, 2020, effective October 1, 2020, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended September 30, 2020. * 10.29 Seventh Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated December 23, 2020, effective January 1, 2021, incorporated by reference to Exhibit 10.32 of Form 10-K for the year ended December 31, 2020. * 10.30 Eighth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan, dated December 20, 2022, effective January 1, 2023 (filed herewith). 10.31 Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated July 3, 2006, incorporated by reference to Exhibit 10.28 of Form 10-K for the year ended December 31, 2018. * 10.32 First Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 5, 2010, incorporated by reference to Exhibit 10.25 of Form 10-K for the year ended December 31, 2015. * 10.33 Second Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 5, 2010, incorporated by reference to Exhibit 10.26 of Form 10-K for the year ended December 31, 2015. * 10.34 Third Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 30, 2010, incorporated by reference to Exhibit 10.27 of Form 10-K for the year ended December 31, 2015. * 10.35 Fourth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated October 1, 2014, incorporated by reference to Exhibit 10.37 of Form 10-K for the year ended December 31, 2020. * 10.36 Fifth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated October 1, 2014, incorporated by reference to Exhibit 10.38 of Form 10-K for the year ended December 31, 2020. * 147 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Exhibit Number Description 10.37 Sixth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated August 17, 2015, incorporated by reference to Exhibit 10.39 of Form 10-K for the year ended December 31, 2020. * 10.38 Seventh Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, dated April 27, 2016, incorporated by reference to Exhibit 10.31 of Form 10-K for the year ended December 31, 2016. * 10.39 Eighth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective September 30, 2018, incorporated by reference to Exhibit 10.3 of Form 10-Q for the quarter ended September 30, 2018. * 10.40 Ninth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective October 27, 2020, incorporated by reference to Exhibit 10.1 of Form 10-Q for the quarter ended June 30, 2021. * 10.41 Tenth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective October 1, 2019, incorporated by reference to Exhibit 10.5 of Form 10-Q for the quarter ended June 30, 2022. * 10.42 Eleventh Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective November 1, 2020, incorporated by reference to Exhibit 10.6 of Form 10-Q for the quarter ended June 30, 2022. * 10.43 Twelfth Amendment to the Zions Bancorporation Payshelter 401(k) and Employee Stock Ownership Plan Trust Agreement between Zions Bancorporation and Fidelity Management Trust Company, effective April 1, 2022, incorporated by reference to Exhibit 10.7 of Form 10-Q for the quarter ended June 30, 2022. * 10.44 Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.42 of Form 10-K for the year ended December 31, 2020. * 10.45 Form of Restricted Stock Award Agreement subject to holding requirement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.43 of Form 10-K for the year ended December 31, 2020. * 10.46 Form of Standard Restricted Stock Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.44 of Form 10-K for the year ended December 31, 2020. * 10.47 Form of Standard Restricted Stock Unit Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.45 of Form 10-K for the year ended December 31, 2020. * 10.48 Form of Restricted Stock Unit Agreement subject to holding requirement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.46 of Form 10-K for the year ended December 31, 2020. * 10.49 Form of Standard Stock Option Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.47 of Form 10-K for the year ended December 31, 2020. * 148 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Exhibit Number Description 10.50 Form of Standard Directors Stock Award Agreement, Zions Bancorporation 2015 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.48 of Form 10-K for the year ended December 31, 2020. * 10.51 Zions Bancorporation 2022 Omnibus Incentive Plan, incorporated by reference to Appendix I of Schedule 14A, dated March 17, 2022. * 10.52 Form of Standard Restricted Stock Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.8 of Form 10-Q for the quarter ended June 30, 2022. * 10.53 Form of Restricted Stock Award Agreement subject to holding requirement, Zions Bancorporation 2022 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.9 of Form 10-Q for the quarter ended June 30, 2022. * 10.54 Form of Standard Restricted Stock Unit Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.10 of Form 10-Q for the quarter ended June 30, 2022. * 10.55 Form of Restricted Stock Unit Award Agreement subject to holding requirement, Zions Bancorporation 2022 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.11 of Form 10-Q for the quarter ended June 30, 2022. * 10.56 Form of Standard Stock Option Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.12 of Form 10-Q for the quarter ended June 30, 2022). * 10.57 Form of Standard Directors Stock Award Agreement, Zions Bancorporation 2022 Omnibus Incentive Plan, incorporated by reference to Exhibit 10.13 of Form 10-Q for the quarter ended June 30, 2022. * 10.58 Form of Change in Control Agreement between the Bank and Certain Executive Officers, incorporated by reference to Exhibit 10.49 of Form 10-K for the year ended December 31, 2020. * 10.59 Form of Change in Control Agreement between the Bank and Dallas E. Haun, dated May 23, 2008, incorporated by reference to Exhibit 10.50 of Form 10-K for the year ended December 31, 2020. * 21 List of Subsidiaries of Zions Bancorporation, National Association (filed herewith). 23 Consent of Independent Registered Public Accounting Firm (filed herewith). 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 149 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Exhibit Number Description 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in inline XBRL: (i) the Consolidated Balance Sheets as of December 31, 2022 and December 31, 2021, (ii) the Consolidated Statements of Income for the years ended December 31, 2022, December 31, 2021, and December 31, 2020, (iii) the Consolidated Statements of Comprehensive Income for the years ended December 31, 2022, December 31, 2021, and December 31, 2020, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the years ended December 31, 2022, December 31, 2021, and December 31, 2020, (v) the Consolidated Statements of Cash Flows for the years ended December 31, 2022, December 31, 2021, and December 31, 2020, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Form 10-K, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. ITEM 16. FORM 10-K SUMMARY Not applicable. 150 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. February 23, 2023 ZIONS BANCORPORATION, NATIONAL ASSOCIATION By /s/ Harris H. Simmons HARRIS H. SIMMONS, Chairman and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the date indicated. February 23, 2023 /s/ Harris H. Simmons /s/ Paul E. Burdiss HARRIS H. SIMMONS, Director, Chairman and Chief Executive Officer (Principal Executive Officer) PAUL E. BURDISS, Executive Vice President and Chief Financial Officer (Principal Financial Officer) /s/ R. Ryan Richards /s/ Maria Contreras-Sweet R. RYAN RICHARDS, Controller (Principal Accounting Officer) MARIA CONTRERAS-SWEET, Director /s/ Gary L. Crittenden /s/ Suren K. Gupta GARY L. CRITTENDEN, Director SUREN K. GUPTA, Director /s/ Claire A. Huang /s/ Vivian S. Lee CLAIRE A. HUANG, Director VIVIAN S. LEE, Director /s/ Scott J. McLean /s/ Edward F. Murphy SCOTT J. MCLEAN, Director EDWARD F. MURPHY, Director /s/ Stephen D. Quinn /s/ Aaron B. Skonnard STEPHEN D. QUINN, Director AARON B. SKONNARD, Director /s/ Barbara A. Yastine BARBARA A. YASTINE, Director 151 |
Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) 39 Consolidated Balance Sheets 39 Consolidated Statements of Income 40 Consolidated Statements of Comprehensive Income (Loss) 41 Consolidated Statements of Changes in Shareholders’ Equity 41 Consolidated Statements of Cash Flows 42 Notes to Consolidated Financial Statements 43 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 4 Item 3. Quantitative and Qualitative Disclosures About Market Risk 78 Item 4. Controls and Procedures 79 PART II. OTHER INFORMATION Item 1. Legal Proceedings 79 Item 1A. Risk Factors 79 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 80 Item 6. Exhibits 81 Signatures 82 2 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses HECL Home Equity Credit Line AFS Available-for-Sale HTM Held-to-Maturity ALLL Allowance for Loan and Lease Losses IPO Initial Public Offering Amegy Amegy Bank, a division of Zions Bancorporation, National Association LIHTC Low-income Housing Tax Credit AMERIBOR American Interbank Offered Rate LIBOR London Interbank Offered Rate AOCI Accumulated Other Comprehensive Income or Loss Municipalities State and Local Governments ASC Accounting Standards Codification NAICS North American Industry Classification System ASU Accounting Standards Update NASDAQ National Association of Securities Dealers Automated Quotations BOLI Bank-Owned Life Insurance NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association bps Basis Points NIM Net Interest Margin BSBY Bloomberg Short-Term Bank Yield NM Not Meaningful BTFP Bank Term Funding Program NSB Nevada State Bank, a division of Zions Bancorporation, National Association CB&T California Bank & Trust, a division of Zions Bancorporation, National Association OCC Office of the Comptroller of the Currency CECL Current Expected Credit Loss OCI Other Comprehensive Income or Loss CLTV Combined Loan-to-Value Ratio OREO Other Real Estate Owned CMT Constant Maturity Treasury PAM Proportional Amortization Method CRE Commercial Real Estate PEI Private Equity Investment CVA Credit Valuation Adjustment PPNR Pre-provision Net Revenue DTA Deferred Tax Asset PPP Paycheck Protection Program DTL Deferred Tax Liability ROU Right-of-Use EaR Earnings at Risk RULC Reserve for Unfunded Lending Commitments EPS Earnings per Share S&P Standard & Poor's EVE Economic Value of Equity SBA U.S. Small Business Administration FASB Financial Accounting Standards Board SBIC Small Business Investment Company FDIC Federal Deposit Insurance Corporation SEC Securities and Exchange Commission FHLB Federal Home Loan Bank SOFR Secured Overnight Financing Rate FICO Fair Isaac Corporation TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association FRB Federal Reserve Board TDR Troubled Debt Restructuring FTP Funds Transfer Pricing U.S. United States GAAP Generally Accepted Accounting Principles Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association GCF General Collateral Funding Zions Bank Zions Bank, a division of Zions Bancorporation, National Association 3 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES PART I. FINANCIAL INFORMATION ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING INFORMATION This quarterly report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • Statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • Statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. Forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although the following list is not comprehensive, important factors that may cause material differences inclu • The quality and composition of our loan and securities portfolios and the quality and composition of our deposits; • Changes in general industry, political and economic conditions, including continued high inflation, economic slowdown or recession, or other economic disruptions; changes in interest and reference rates which could adversely affect our revenue and expenses, the value of assets and obligations, and the availability and cost of capital and liquidity; deterioration in economic conditions that may result in increased loan and leases losses; • Securities and capital markets behavior, including volatility and changes in market liquidity and our ability to raise capital; • The impact of bank failures or adverse developments at other banks on general investor sentiment regarding the stability and liquidity of banks; • The possibility that our recorded goodwill could become impaired, which may have an adverse impact on our earnings; • Our ability to recruit and retain talent, including increased competition for qualified candidates as a result of expanded remote-work opportunities and increased compensation expenses; • Competitive pressures and other factors that may affect aspects of our business, such as pricing and demand for our products and services; • Our ability to complete projects and initiatives and execute on our strategic plans, manage our risks, and achieve our business objectives; • Our ability to provide adequate oversight of our suppliers or prevent inadequate performance by third parties upon whom we rely for the delivery of various products and services; • Our ability to develop and maintain technology, information security systems and controls designed to guard against fraud, cybersecurity, and privacy risks; • Changes and uncertainties in applicable laws, and fiscal, monetary, regulatory, trade, and tax policies, and actions taken by governments, agencies, central banks and similar organizations; adverse media and other expressions of negative public opinion whether directed at us, other banks, the banking industry generally or otherwise that may adversely affect our reputation and that of the banking industry generally; 4 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES • The effects of pandemics and other health emergencies, including the lingering effects of the COVID-19 pandemic that may affect our business, employees, customers, and communities, such as ongoing effects on availability and cost of labor; • The effects of wars and geopolitical conflicts, and other local, national, or international disasters, crises, or conflicts that may occur in the future; • Natural disasters that may impact our and our customer's operations and business; and • Governmental and social responses to environmental, social, and governance issues, including those with respect to climate change. We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any forward-looking statements to reflect future events or developments. RECENT DEVELOPMENTS As this quarterly report is filed, the Nasdaq Regional Banking Index is down about 30% year-to-date in 2023, reflecting broad weakness in bank valuations due in large part to several regional banks being closed and placed into receivership with the Federal Deposit Insurance Corporation (“FDIC”). The root causes of these closures appear to be centered on weaknesses in liquidity risk, interest rate risk, and capital management. Investor sentiment has also been adversely impacted by concerns about future losses in commercial real estate. In light of the current banking environment, below we have summarized key strategic actions that we employ (and have employed since the 2008 global financial crisis) to prudently manage the associated risks. Liquidity Risk We manage liquidity to provide necessary funds in varying circumstances. As a result, we have readily available sources of liquidity, including cash, interest-bearing funds held at the Federal Reserve, and advances and other borrowings against loans and highly-liquid investment securities, which all together exceed our level of uninsured deposits. An important source of our liquidity is an approximately $22 billion investment securities portfolio, comprised primarily of United States (“U.S.”) government mortgage-backed securities that can be readily pledged for future borrowings without effecting a sale. Interest Rate Risk We actively manage the volatility of net interest income and economic value of equity associated with changes in interest rates. Our investment securities portfolio, which has an estimated duration of 4.1 years, facilitates the balancing of the mismatch between our loan and deposit durations. Capital Management We maintain strong regulatory capital ratios, exceeding all capital adequacy and regulatory requirements for well-capitalized banks, and have current and projected earnings capacity to augment capital going forward. We regularly utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital and funding. Credit Risk We believe we have strong credit discipline, solid underwriting standards, and a well-diversified loan portfolio, all of which has resulted in very good credit quality for more than a decade. Specifically, we have actively managed the credit risk in our commercial real estate loan portfolio, reducing these loans to 23% of total loans, compared with 33% in late 2008. 5 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Comparisons noted below are calculated for the current quarter compared with the same prior-year period unless otherwise specified. Growth rates of 100% or more are considered not meaningful (“NM”) as they generally reflect a low starting point. RESULTS OF OPERATIONS Executive Summary Our financial results in the first quarter of 2023 reflected strong credit quality and revenue growth, which was partially offset by increases in the provision for credit losses and noninterest expense. Diluted earnings per share (“EPS”) was $1.33, compared with $1.27 in the first quarter of 2022. Net interest income increased $135 million, or 25%, to $679 million, primarily due to a higher interest rate environment and a favorable change in the mix of interest-earning assets. The net interest margin (“NIM”) was 3.33%, compared with 2.60%. Nonperforming assets decreased $79 million, or 31%, and classified loans decreased $236 million, or 21%. We had zero net loan and lease charge-offs, compared with net charge-offs of $6 million, in the prior year quarter. Despite improvements in most of our credit quality metrics, the provision for credit losses was $45 million, compared with a $(33) million provision in the prior year period, reflecting deterioration in economic forecasts and growth in the loan portfolio. Total customer-related noninterest income remained stable at $151 million, compared with the prior year period, driven by increases in commercial treasury management, foreign exchange, and capital markets syndication fees, offset by a decrease in retail and business banking fees. Total noninterest income increased $18 million, or 13%, primarily due to negative mark-to-market adjustments recorded during the prior year period related to our Small Business Investment Company (“SBIC”) investment portfolio. Total noninterest expense increased $48 million, or 10%. The increase was driven largely by a $27 million increase in salaries and benefits expense, which was impacted by ongoing inflationary and competitive labor market pressures on wages and benefits, increased headcount, and an additional business day during the current quarter. Our efficiency ratio was 59.9%, compared with 65.8%, as growth in adjusted taxable-equivalent revenue significantly outpaced growth in adjusted noninterest expense. Average interest-earning assets decreased $2.3 billion, or 3%, from the prior year quarter, driven by declines of $4.2 billion and $3.2 billion in average money market investments and average securities, respectively, and partially offset by an increase of $5.2 billion in average loans and leases. Total loans and leases increased $5.1 billion, or 10%, to $56.3 billion. The increases were primarily in the consumer 1-4 family residential mortgage, commercial real estate term, commercial and industrial, and consumer construction loan portfolios. Total deposits decreased $13.1 billion, or 16%, to $69.2 billion, from the prior year quarter, mainly due to declines in larger-balance and more rate-sensitive, nonoperating deposits during the prior year, which continued into the first quarter of 2023 due to market uncertainty and heightened sensitivity of large depositors in the wake of prominent bank failures. Our loan-to-deposit ratio was 81%, compared with 62% in the prior year quarter. Borrowed funds, consisting primarily of secured borrowings, increased $11.5 billion from the prior year quarter in response to declines in total deposits and loan growth. 6 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES First Quarter 2023 Financial Performance Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency Ratio Net earnings applicable to common shareholders increased from the first quarter of 2022, primarily due to an increase in net revenue, driven largely by the higher interest rate environment and change in the mix of interest-earning assets, partially offset by increases in the provision for credit losses and noninterest expense, as well as a higher effective tax rate. Diluted earnings per share improved from the first quarter of 2022 as a result of increased net earnings and a 3.6 million decrease in weighted average diluted shares, primarily due to share repurchases. Adjusted pre-provision net revenue (“PPNR”) increased $100 million from the first quarter of 2022, primarily due to growth in net interest income. This increase was partially offset by higher adjusted noninterest expense. The efficiency ratio improved from the prior year quarter, as growth in adjusted taxable-equivalent revenue significantly outpaced growth in adjusted noninterest expense, resulting in positive operating leverage. Net Interest Income and Net Interest Margin NET INTEREST INCOME AND NET INTEREST MARGIN Three Months Ended March 31, Amount change Percent change (Dollar amounts in millions) 2023 2022 Interest and fees on loans 1 $ 726 $ 437 $ 289 66 % Interest on money market investments 57 6 51 NM Interest on securities 137 112 25 22 Total interest income 920 555 365 66 Interest on deposits 82 6 76 NM Interest on short- and long-term borrowings 159 5 154 NM Total interest expense 241 11 230 NM Net interest income $ 679 $ 544 $ 135 25 % Average interest-earning assets $ 83,832 $ 86,093 $ (2,261) (3) % Average interest-bearing liabilities $ 49,012 $ 42,136 $ 6,876 16 % bps Yield on interest-earning assets 2 4.49 % 2.65 % 184 Rate paid on total deposits and interest-bearing liabilities 2 1.17 % 0.06 % 111 Cost of total deposits 2 0.47 % 0.03 % 44 Net interest margin 2 3.33 % 2.60 % 73 1 Includes interest income recoveries of $2 million for both the three months ended March 31, 2023, and 2022. 2 Rates are calculated using amounts in thousands; taxable-equivalent rates are used where applicable. 7 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Net interest income accounted for approximately 81% of our net revenue (net interest income plus noninterest income) for the quarter and increased $135 million, or 25%, relative to the prior year quarter. The increase was primarily due to the higher interest rate environment and a favorable change in the mix of interest-earning assets. Average interest-earning assets decreased $2.3 billion, or 3%, from the prior year quarter, driven by declines of $4.2 billion and $3.2 billion in average money market investments and average securities, respectively. A majority of the decrease in average securities was due to payments and maturities. These decreases were partially offset by an increase of $5.2 billion in average loans and leases. The NIM was 3.33%, compared with 2.60%. The yield on average interest-earning assets was 4.49% in the first quarter of 2023, an increase of 184 basis points (“bps”), reflecting higher interest rates and a favorable mix change from money market investments to loans. The yield also benefited from a decrease in the market value of available-for-sale (“AFS”) securities due to rising interest rates. The rate paid on average interest-bearing liabilities increased to 1.99%, compared with 0.11%, reflecting the higher interest rate environment and increased borrowings. We expect that the funding mix change toward the end of the first quarter of 2023, combined with the continued improvement in earning asset yields, will result in an estimated NIM of approximately 3.0% in the near term. Average loans and leases increased $5.2 billion, or 10%, to $56.1 billion, mainly due to growth in average consumer and commercial loans. The yield on total loans increased 178 basis points to 5.30%, reflecting the higher interest rate environment. Average deposits decreased $11.4 billion, or 14%, to $70.2 billion at an average cost of 0.47%, from $81.6 billion at an average cost of 0.03% in the first quarter of 2022. The rate paid on total deposits and interest-bearing liabilities was 1.17%, compared with 0.06%, reflecting the higher interest rate environment and increased short-term borrowings. Average noninterest-bearing deposits as a percentage of total deposits were 49%, compared with 50% during the same prior year period. 8 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Average AFS securities balances decreased $13.3 billion, or 53%, to $11.9 billion. During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the held-to-maturity (“HTM”) category to reflect our intent for these securities. Average borrowed funds, consisting primarily of secured borrowings, increased $11.8 billion from the prior year quarter in response to declines in total deposits and loan growth. For more information on our investments securities portfolio and borrowed funds and how we manage liquidity risk, refer to the “Investment Securities Portfolio” section on page 15 and the “Liquidity Risk Management” section on page 31. For further discussion of the effects of market rates on net interest income and how we manage interest rate risk, refer to the “Interest Rate and Market Risk Management” section on page 28. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 9 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED AVERAGE BALANCE SHEETS, YIELDS AND RATES (Unaudited) Three Months Ended March 31, 2023 Three Months Ended March 31, 2022 (Dollar amounts in millions) Average balance Amount of interest Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 2,724 $ 31 4.72 % $ 6,735 $ 3 0.19 % Federal funds sold and securities purchased under agreements to resell 2,081 26 5.02 2,300 3 0.52 Total money market investments 4,805 57 4.85 9,035 6 0.27 Securiti Held-to-maturity 11,024 62 2.28 438 3 3.12 Available-for-sale 2 11,824 76 2.62 25,246 106 1.71 Trading 21 — 4.01 384 5 4.76 Total securities 3 22,869 138 2.46 26,068 114 1.78 Loans held for sale 5 — 0.26 57 — 1.92 Loans and leases 4 Commercial 30,678 381 5.03 28,496 260 3.70 Commercial real estate 12,876 209 6.59 12,171 101 3.37 Consumer 12,599 144 4.62 10,266 82 3.23 Total loans and leases 56,153 734 5.30 50,933 443 3.52 Total interest-earning assets 83,832 929 4.49 86,093 563 2.65 Cash and due from banks 543 625 Allowance for credit losses on loans and debt securities (576) (515) Goodwill and intangibles 1,064 1,015 Other assets 5,624 4,211 Total assets $ 90,487 $ 91,429 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 32,859 $ 62 0.77 % $ 39,132 $ 5 0.05 % Time 2,934 20 2.68 1,587 1 0.26 Total interest-bearing deposits 35,793 82 0.92 40,719 6 0.06 Borrowed funds: Federal funds and security repurchase agreements 5,614 64 4.65 585 — 0.08 Other short-term borrowings 6,952 84 4.89 9 — — Long-term debt 653 11 6.85 823 5 2.66 Total borrowed funds 13,219 159 4.88 1,417 5 1.58 Total interest-bearing liabilities 49,012 241 1.99 42,136 11 0.11 Noninterest-bearing demand deposits 34,363 40,886 Other liabilities 2,058 1,267 Total liabilities 85,433 84,289 Shareholders’ equity: Preferred equity 440 440 Common equity 4,614 6,700 Total shareholders’ equity 5,054 7,140 Total liabilities and shareholders’ equity $ 90,487 $ 91,429 Spread on average interest-bearing funds 2.50 % 2.54 % Net impact of noninterest-bearing sources of funds 0.83 % 0.06 % Net interest margin $ 688 3.33 % $ 552 2.60 % Me total cost of deposits 0.47 % 0.03 % Me total deposits and interest-bearing liabilities 83,375 241 1.17 % 83,022 11 0.06 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. 2 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 10 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans and is recorded in investment securities on the consolidated balance sheet. The provision for credit losses, which is the combination of both the provision for loan and lease losses and the provision for unfunded lending commitments, was $45 million, compared with $(33) million in the first quarter of 2022. The ACL was $678 million at March 31, 2023, compared with $514 million at March 31, 2022. The increase in the ACL was primarily due to deterioration in economic forecasts and growth in the loan portfolio. The ratio of ACL to net loans and leases was 1.20% and 1.00% at March 31, 2023 and 2022, respectively. The provision for securities losses was less than $1 million during the first quarter of 2023 and 2022. 11 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The bar chart above illustrates the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic forecasts and current economic conditions, which increased the ACL by $114 million from the prior year quarter. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, increased the ACL by $6 million, reflecting relatively stable credit quality. Nonperforming assets decreased $79 million, or 31%, and classified loans decreased $236 million, or 21%. We had zero net loan and lease charge-offs, or 0.00% annualized of average loans, compared with net charge-offs of $6 million, or 0.05% annualized of average loans in the prior year quarter. The fourth bar represents loan portfolio changes, driven primarily by loan growth, as well as changes in portfolio mix, the aging of the portfolio, and other risk factors; all of which resulted in a $44 million increase in the ACL. See “Credit Risk Management” on page 20 and Note 6 in our 2022 Form 10-K for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue we earn from products and services that generally have no associated interest rate or yield and is classified as either customer-related or noncustomer-related. Customer-related noninterest income excludes items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income increased $18 million, or 13%, relative to the prior year. Noninterest income accounted for approximately 19% and 21% of our net revenue during the first quarter of 2023 and 2022, respectively. The following schedule presents a comparison of the major components of noninterest income. 12 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NONINTEREST INCOME Three Months Ended March 31, Amount change Percent change (Dollar amounts in millions) 2023 2022 Commercial account fees $ 43 $ 41 $ 2 5 % Card fees 24 25 (1) (4) Retail and business banking fees 16 20 (4) (20) Loan-related fees and income 21 22 (1) (5) Capital markets fees 17 15 2 13 Wealth management fees 15 14 1 7 Other customer-related fees 15 14 1 7 Customer-related noninterest income 151 151 — — Fair value and nonhedge derivative income (3) 6 (9) NM Dividends and other income (loss) 11 2 9 NM Securities gains (losses), net 1 (17) 18 NM Noncustomer-related noninterest income 9 (9) 18 NM Total noninterest income $ 160 $ 142 $ 18 13 % Customer-related Noninterest Income Total customer-related noninterest income remained stable at $151 million, compared with the prior year period. Increases in commercial treasury management, foreign exchange, and capital markets syndication fees were offset by a decrease in retail and business banking fees largely as a result of a change in our overdraft and non-sufficient funds practices effected during the third quarter of 2022. Noncustomer-related Noninterest Income Total noncustomer-related noninterest income increased $18 million from the prior year quarter. Net securities gains and losses increased $18 million, due largely to negative mark-to-market adjustments recorded during the prior year period related to our SBIC investment portfolio. Dividends and other income increased $9 million, primarily due to an increase in dividends on Federal Home Loan Bank (“FHLB”) stock. These increases were offset by a $9 million decrease in fair value and nonhedge derivative income, primarily due to a $3 million loss during the quarter related to a credit valuation adjustment (“CVA”) on client-related interest rate swaps, compared with a $6 million CVA gain in the prior year period. Noninterest Expense The following schedule presents a comparison of the major components of noninterest expense. NONINTEREST EXPENSE Three Months Ended March 31, Amount change Percent change (Dollar amounts in millions) 2023 2022 Salaries and employee benefits $ 339 $ 312 $ 27 9 % Technology, telecom, and information processing 55 52 3 6 Occupancy and equipment, net 40 38 2 5 Professional and legal services 13 14 (1) (7) Marketing and business development 12 8 4 50 Deposit insurance and regulatory expense 18 10 8 80 Credit-related expense 6 7 (1) (14) Other real estate expense, net — 1 (1) NM Other 29 22 7 32 Total noninterest expense $ 512 $ 464 $ 48 10 % Adjusted noninterest expense 1 $ 509 $ 464 $ 45 10 % 1 For information on non-GAAP financial measures, see “Non-GAAP Financial Measures” on page 36. 13 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Total noninterest expense increased $48 million, or 10%, relative to the prior year quarter. Salaries and benefits expense increased $27 million, or 9%, due to the ongoing impact of inflationary and competitive labor market pressures on wages and benefits, increased headcount, a decline in deferred salaries, and an additional business day during the current quarter. Deposit insurance and regulatory expense increased $8 million, driven largely by an increased base rate beginning in 2023 and a higher FDIC insurance assessment resulting from changes in balance sheet composition. Other noninterest expense increased $7 million, primarily due to increased travel, intangible amortization, and other expenses incurred during the current quarter. The efficiency ratio was 59.9%, compared with 65.8%, as growth in adjusted taxable-equivalent revenue significantly outpaced growth in adjusted noninterest expense. For information on non-GAAP financial measures, including differences between noninterest expense and adjusted noninterest expense, see page 36. Technology Spend Technology spend represents expenditures associated with technology-related investments, operations, systems, and infrastructure, and includes current period expenses reported on our consolidated statement of income, and capitalized investments, net of related amortization and depreciation, reported on our consolidated balance sheet. Technology spend is reported as a combination of the followin • Technology, telecom, and information processing expense — includes expenses related to application software licensing and maintenance, related amortization, telecommunications, and data processing; • Other technology-related expense — includes related noncapitalized salaries and employee benefits, occupancy and equipment, and professional and legal services; and • Technology investments — includes capitalized technology infrastructure equipment, hardware, and purchased or internally developed software, less related amortization or depreciation. The following schedule provides information related to our technology spen TECHNOLOGY SPEND Three Months Ended March 31, (In millions) 2023 2022 Technology, telecom, and information processing expense $ 55 $ 52 Other technology-related expense 54 49 Technology investments 26 22 L related amortization and depreciation (14) (14) Total technology spend $ 121 $ 109 Total technology spend increased $12 million relative to the prior year quarter, largely due to technology-related compensation and investments in application resiliency. Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods present INCOME TAXES Three Months Ended March 31, (Dollar amounts in millions) 2023 2022 Income before income taxes $ 282 $ 255 Income tax expense 78 52 Effective tax rate 27.7 % 20.4 % 14 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The effective tax rate was 27.7% at March 31, 2023, compared with 20.4% at March 31, 2022, primarily as a result of a discrete item that affected the reserve for uncertain tax positions during the current quarter. See Note 12 of the Notes to Consolidated Financial Statements for more information about the factors that influenced the income tax rates as well as information about deferred income tax assets and liabilities, and valuation allowances. Preferred Stock Dividends Preferred stock dividends totaled $6 million and $8 million for the first quarter of 2023 and 2022, respectively. BALANCE SHEET ANALYSIS Interest-Earning Assets Interest-earning assets are assets that have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see the Consolidated Average Balance Sheet on page 10. Investment Securities Portfolio We invest in securities to actively manage liquidity and interest rate risk and to generate interest income. We primarily own securities that can readily provide us cash and liquidity through secured borrowing agreements without the need to sell the securities. We also manage the duration extension risk of our investment securities portfolio. At March 31, 2023, the estimated duration of our securities portfolio remained unchanged at 4.1 years, compared with December 31, 2022. This duration helps to manage the inherent interest rate mismatch between loans and deposits, as fixed-rate term investments facilitate the balancing of asset and liability durations, as well as protect the expected economic value of shareholders' equity. For information about our borrowing capacity associated with the investment securities portfolio and how we manage our liquidity risk, refer to the “Liquidity Risk Management” section on page 31. See also Note 3 and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. 15 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the components of our investment securities portfolio. INVESTMENT SECURITIES PORTFOLIO March 31, 2023 December 31, 2022 (In millions) Par Value Amortized cost Fair value Par Value Amortized cost Fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 98 $ 98 $ 92 $ 100 $ 100 $ 93 Agency guaranteed mortgage-backed securities 1 12,707 10,471 10,750 12,921 10,621 10,772 Municipal securities 392 392 368 404 405 374 Total held-to-maturity 13,197 10,961 11,210 13,425 11,126 11,239 Available-for-sale U.S. Treasury securities 655 656 511 555 557 393 U.S. Government agencies and corporatio Agency securities 760 753 716 790 782 736 Agency guaranteed mortgage-backed securities 9,341 9,423 8,220 9,566 9,652 8,367 Small Business Administration loan-backed securities 655 701 676 691 740 712 Municipal securities 1,379 1,517 1,447 1,571 1,732 1,634 Other debt securities 25 25 24 75 75 73 Total available-for-sale 12,815 13,075 11,594 13,248 13,538 11,915 Total HTM and AFS investment securities $ 26,012 $ 24,036 $ 22,804 $ 26,673 $ 24,664 $ 23,154 1 During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category to reflect our intent for these securities. The transfer of these securities from AFS to HTM at fair value resulted in a discount to the amortized cost basis of the HTM securities equivalent to the $2.4 billion ($1.8 billion after-tax) of unrealized losses in AOCI. The amortization of the unrealized losses will offset the effect of the accretion of the discount created by the transfer. The amortized cost of total HTM and AFS investment securities decreased $0.6 billion, or 3%, from December 31, 2022, primarily due to payments and maturities. Approximately 8% of the total HTM and AFS investment securities portfolio were floating rate at both March 31, 2023 and December 31, 2022, respectively. Additionally, we have $1.2 billion of pay-fixed swaps held as fair value hedges against fixed-rate AFS securities that effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. At March 31, 2023, the AFS investment securities portfolio included approximately $260 million of net premium that was distributed across the various security categories. Total taxable-equivalent premium amortization for these investment securities was $26 million for the first quarter of 2023, compared with $28 million for the same prior year period. In addition to HTM and AFS securities, we also have a trading securities portfolio comprised of municipal securities that totaled $12 million at March 31, 2023, compared with $465 million at December 31, 2022. The prior quarter also included $395 million of money market mutual sweep accounts. Refer to the “Capital Management” section on page 34 and Note 5 of the Notes to Consolidated Financial Statements for more discussion regarding our investment securities portfolio and related unrealized gains and losses. Municipal Investments and Extensions of Credit We support our communities by providing products and services to state and local governments (“municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. Our municipal lending products generally include loans in which the debt service is repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. 16 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule summarizes our total investments and extensions of credit to municipaliti MUNICIPAL INVESTMENTS AND EXTENSIONS OF CREDIT (In millions) March 31, 2023 December 31, 2022 Loans and leases $ 4,374 $ 4,361 Held-to-maturity securities 392 405 Available-for-sale securities 1,447 1,634 Trading securities 12 71 Unfunded lending commitments 374 406 Total $ 6,599 $ 6,877 Our municipal loans and securities are primarily associated with municipalities located within our geographic footprint. The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. At March 31, 2023, no municipal loans were on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At March 31, 2023, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. Loan and Lease Portfolio We provide a wide range of lending products to commercial customers, generally small- and medium-sized businesses. We also provide various retail lending products and services to consumers and small businesses. The following schedule presents the composition of our loan and lease portfolio. LOAN AND LEASE PORTFOLIO March 31, 2023 December 31, 2022 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 16,500 29.3 % $ 16,377 29.4 % Leasing 385 0.7 386 0.7 Owner-occupied 9,317 16.5 9,371 16.8 Municipal 4,374 7.8 4,361 7.8 Total commercial 30,576 54.3 30,495 54.8 Commercial real estate: Construction and land development 2,313 4.1 2,513 4.5 Term 10,585 18.8 10,226 18.4 Total commercial real estate 12,898 22.9 12,739 22.9 Consume Home equity credit line 3,276 5.8 3,377 6.1 1-4 family residential 7,692 13.7 7,286 13.1 Construction and other consumer real estate 1,299 2.3 1,161 2.1 Bankcard and other revolving plans 459 0.8 471 0.8 Other 131 0.2 124 0.2 Total consumer 12,857 22.8 12,419 22.3 Total loans and leases $ 56,331 100.0 % $ 55,653 100.0 % 17 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At March 31, 2023 and December 31, 2022, the ratio of loans and leases to total assets was 64% and 62%, respectively. The largest loan category was commercial and industrial loans, which constituted 29% of our total loan portfolio at both time periods. The loan and lease portfolio increased $0.7 billion, or 1%, to $56.3 billion at March 31, 2023. Loan growth was driven largely by increases of $0.4 billion in consumer 1-4 family residential mortgage loans and $0.4 billion in commercial real estate term loans. Other Noninterest-Bearing Investments Other noninterest-bearing investments are equity investments that are held primarily for capital appreciation, dividends, or for certain regulatory requirements. The following schedule summarizes our related investments. OTHER NONINTEREST-BEARING INVESTMENTS (Dollar amounts in millions) March 31, 2023 December 31, 2022 Amount change Percent change Bank-owned life insurance $ 547 $ 546 $ 1 — % Federal Home Loan Bank stock 330 294 36 12 Federal Reserve stock 66 68 (2) (3) Farmer Mac stock 21 19 2 11 SBIC investments 174 172 2 1 Other 31 31 — — Total other noninterest-bearing investments $ 1,169 $ 1,130 $ 39 3 % Total other noninterest-bearing investments increased $39 million, or 3%, during the first three months of 2023, primarily due to a $36 million increase in FHLB stock. We are required to invest approximately 4% of our FHLB borrowings in FHLB stock to maintain our borrowing capacity. The increase was driven by increases in FHLB borrowings during the first quarter of 2023 in response to declines in total deposits and loan growth. Premises, Equipment, and Software We are in the final phase of a three-phase project to replace our core loan and deposit banking systems, and expect to convert our deposit servicing system in 2023. The following schedule summarizes the capitalized costs associated with our core system replacement project, which are depreciated using a useful life of ten years. CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT March 31, 2023 (In millions) Phase 1 Phase 2 Phase 3 Total Total amount of capitalized costs, less accumulated depreciation $ 28 $ 52 $ 212 $ 292 Deposits Deposits are our primary funding source. In recent years, particularly during the COVID-19 pandemic, we benefited from a significant influx of deposits, which was impacted by considerable fiscal and monetary policy decisions. During 2022, with the withdrawal of stimulus by the federal government, our deposits began to decline to more normalized levels. During the first quarter of 2023, with the failure of two prominent banks, this trend continued in response to market uncertainty, though total deposits remained above pre-pandemic (12/31/2019) levels. 18 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the composition of our deposit portfolio. DEPOSIT PORTFOLIO March 31, 2023 December 31, 2022 December 31, 2019 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Amount % of total deposits Deposits by type Noninterest-bearing demand $ 30,974 44.8 % $ 35,777 49.9 % $ 23,576 41.3 % Interest-bearin Savings and money market 30,826 44.5 33,474 46.7 28,249 49.5 Time 2,024 2.9 1,484 2.1 2,451 4.3 Brokered 5,384 7.8 917 1.3 2,809 4.9 Total deposits $ 69,208 100.0 % $ 71,652 100.0 % $ 57,085 100.0 % Deposit-related metrics Estimated amount of insured deposits $ 37,846 55 % $ 34,018 47 % $ 28,802 50 % Estimated amount of uninsured deposits $ 31,362 45 % $ 37,634 53 % $ 28,283 50 % Estimated amount of collateralized deposits $ 2,708 3.9 % $ 2,861 4.0 % $ 1,928 3.4 % Loan-to-deposit ratio 81 % 78 % 85 % Total deposits decreased $2.4 billion, or 3% to $69.2 billion at March 31, 2023 from December 31, 2022, primarily due to a $4.8 billion decrease in noninterest-bearing deposits and a $2.1 billion decrease in savings, money market, and time deposits (excluding brokered deposits). At March 31, 2023, the estimated total amount of uninsured deposits was $31.4 billion, or 45%, of total deposits, compared with $37.6 billion, or 53%, of total deposits at December 31, 2022. Our loan-to-deposit ratio was 81%, compared with 78% for the same time periods, reflecting a return to more normalized, pre-pandemic levels. The following schedule presents our deposits by customer segment. DEPOSITS BY CUSTOMER SEGMENT March 31, 2023 Amount (in millions) % of total deposits % insured % uninsured Average account size Commercial and CRE $ 36,577 52.9 % 33 % 67 % $ 187,000 Consumer 23,616 34.1 82 18 $ 32,000 Other 1 9,015 13.0 72 28 N/A Total deposits $ 69,208 100.0 % 45 55 1 Includes primarily brokered, trust, estate, and certain internal operational accounts. At March 31, 2023, we had no single depositor with uncollateralized deposits exceed 0.22% of total deposits, and the top 25 largest uncollateralized deposit accounts totaled 3.1% of total deposits. 19 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents our deposit balances by size. DEPOSITS BY SIZE March 31, 2023 December 31, 2022 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Amount change Percent change Deposit balance, at period end < $250,000 $ 24,258 35.0 % $ 23,911 33.4 % $ 347 1 % $250,000 < $500,000 8,067 11.6 8,339 11.6 (272) (3) $500,000 < $1 million 6,467 9.3 7,522 10.5 (1,055) (14) $1 million < $5 million 12,365 17.9 14,753 20.6 (2,388) (16) $5 million < $10 million 4,007 5.8 5,247 7.3 (1,240) (24) $10 million < $25 million 4,075 5.9 5,508 7.7 (1,433) (26) ≥ $25 million 3,428 5.0 4,401 6.1 (973) (22) Other 1 1,157 1.7 1,054 1.5 103 10 Total nonbrokered deposits 63,824 92.2 70,735 98.7 (6,911) (10) Brokered deposits 5,384 7.8 917 1.3 4,467 NM Total deposits $ 69,208 100.0 % $ 71,652 100.0 % $ (2,444) (3) % 1 Includes primarily certain internal operational accounts. Total nonbrokered deposits decreased $6.9 billion, or 10%, from December 31, 2022. A majority of the decrease related to larger balance accounts with relatively low transaction volume. This decrease was partially offset by a $4.5 billion increase in brokered deposits. See “Liquidity Risk Management” on page 31 for additional information on liquidity and borrowed funds. RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We employ various strategies to prudently manage the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cybersecurity risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by various management committees including the Enterprise Risk Management Committee. For a more comprehensive discussion of these risks, see “Risk Factors” in our 2022 Form 10-K. Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. Credit policies, credit risk management, and credit examination functions inform and support the oversight of credit risk. Our credit policies emphasize strong underwriting standards and early detection of potential problem credits in order to develop and implement action plans on a timely basis to mitigate potential losses. These formal credit policies and procedures provide us with a framework for consistent underwriting and a basis for sound credit decisions at the local banking affiliate level. Our overall credit risk management strategy includes diversification of our loan portfolio. Our business activity is conducted primarily within the geographic footprint of our banking affiliates. We strive to avoid the risk of undue concentrations of credit in any particular industry, collateral type, location, or with any individual customer or counterparty. We have actively managed the credit risk in our commercial real estate (“CRE”) portfolio for more than a decade, having reduced CRE loans to 23% of total loans, compared with 33% in late 2008. For a more comprehensive discussion of our credit risk management, see “Credit Risk Management” in our 2022 Form 10-K. 20 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES U.S. Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by U.S. government agencies, such as the Small Business Administration (“SBA”), Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At March 31, 2023, $622 million of related loans were guaranteed, primarily by the SBA, and included $157 million of Paycheck Protection Program (“PPP”) loans. The following schedule presents the composition of U.S. government agency guaranteed loans. U.S. GOVERNMENT AGENCY GUARANTEED LOANS (Dollar amounts in millions) March 31, 2023 Percent guaranteed December 31, 2022 Percent guaranteed Commercial $ 730 82 % $ 753 83 % Commercial real estate 24 79 21 76 Consumer 4 100 5 100 Total loans $ 758 82 % $ 779 83 % Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. COMMERCIAL LENDING BY INDUSTRY GROUP 1 March 31, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Real estate, rental and leasing $ 2,924 9.6 % $ 2,802 9.2 % Finance and insurance 2,837 9.3 2,992 9.8 Retail trade 2,801 9.2 2,751 9.0 Public Administration 2,389 7.8 2,366 7.8 Manufacturing 2,355 7.7 2,387 7.8 Healthcare and social assistance 2,337 7.6 2,373 7.8 Wholesale trade 1,871 6.1 1,880 6.2 Utilities 2 1,545 5.0 1,418 4.6 Transportation and warehousing 1,447 4.7 1,464 4.8 Mining, quarrying, and oil and gas extraction 1,362 4.5 1,349 4.4 Construction 1,322 4.3 1,355 4.4 Educational services 1,270 4.2 1,302 4.3 Hospitality and food services 1,197 3.9 1,238 4.1 Professional, scientific, and technical services 1,046 3.4 995 3.3 Other Services (except Public Administration) 1,039 3.4 1,041 3.4 Other 3 2,834 9.3 2,782 9.1 Total $ 30,576 100.0 % $ 30,495 100.0 % 1 Industry groups are determined by North American Industry Classification System (“NAICS”) codes. 2 Includes primarily utilities, power, and renewable energy. 3 No other industry group exceeds 3.1%. Commercial Real Estate Loans At March 31, 2023 and December 31, 2022, our CRE loan portfolio totaled $12.9 billion and $12.7 billion, respectively, representing approximately 23% of the total loan portfolio for both periods. The majority of our CRE loans are secured by real estate primarily located within our geographic footprint. The following schedule presents the geographic distribution of our CRE loan portfolio based on the location of the primary collateral. 21 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES COMMERCIAL REAL ESTATE LENDING BY COLLATERAL LOCATION March 31, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Arizona $ 1,588 12 % $ 1,521 12 % California 3,814 30 % 3,805 30 % Colorado 656 5 % 637 5 % Nevada 968 7 % 910 7 % Texas 2,157 17 % 2,139 17 % Utah/Idaho 2,309 18 % 2,397 19 % Washington/Oregon 914 7 % 899 7 % Other 492 4 % 431 3 % Total CRE $ 12,898 100 % $ 12,739 100 % Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and non-recourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with one- to five-year extension options or roll-to-perm options that often result in term debt. At March 31, 2023, approximately 85% of our CRE loan portfolio was variable-rate, and approximately 23% of these variable-rate loans were swapped to a fixed rate. Underwriting on commercial properties is primarily based on the economic viability of the project with significant consideration given to the creditworthiness and experience of the sponsor. We generally require that the owner’s equity be injected prior to any advances. Re-margining requirements (required equity infusions upon a decline in value or cash flow of the collateral) are often included in the loan agreement along with guarantees of the sponsor. For a more comprehensive discussion of CRE loans and our underwriting, see the “Commercial Real Estate Loans” section in our 2022 Form 10-K. The following schedule provides information regarding lending exposures to certain collateral types in our CRE loan portfolio. COMMERCIAL REAL ESTATE LENDING BY COLLATERAL TYPE March 31, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Commercial property Multi-family $ 3,197 24.8 % $ 3,068 24.1 % Industrial 2,720 21.1 2,509 19.7 Office 2,245 17.4 2,281 17.9 Retail 1,483 11.5 1,529 12.0 Hospitality 693 5.4 695 5.4 Land 202 1.6 276 2.2 Other 1 1,754 13.6 1,728 13.5 Residential property 2 Single family 328 2.5 340 2.7 Land 76 0.6 75 0.6 Condo/Townhome 12 0.1 13 0.1 Other 1 188 1.4 225 1.8 Total $ 12,898 100.0 % $ 12,739 100.0 % 1 Included in the total amount of the “Other” category was approximately $270 million and $301 million of unsecured loans at March 31, 2023 and December 31, 2022, respectively. 2 Residential property collateral type consists primarily of loans provided to commercial homebuilders for land, lot, and single-family housing developments. 22 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Our CRE portfolio is diversified across geography and collateral type, with the largest concentration in multi-family. We provide additional analysis of our office CRE portfolio below in view of increased investor interest in that collateral type in recent periods. Office CRE loan portfolio At March 31, 2023 and December 31, 2022, our office CRE loan portfolio totaled $2.2 billion and $2.3 billion, representing 17% and 18% of the total CRE loan portfolio, respectively. The following schedule presents the composition of our office CRE loan portfolio and other related credit quality metrics. OFFICE CRE LOAN PORTFOLIO (Dollar amounts in millions) March 31, 2023 December 31, 2022 Office CRE Construction and land development $ 172 $ 208 Term 2,073 2,073 Total office CRE $ 2,245 $ 2,281 Classified loans $ 112 $ 133 Allowance for credit losses 37 31 Ratio of allowance for credit losses to office CRE loans, at period end 1.65 % 1.36 % The following schedules present credit quality information for our office CRE loan portfolio by collateral location. OFFICE CRE LOAN PORTFOLIO BY COLLATERAL LOCATION (Dollar amounts in millions) March 31, 2023 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total Office CRE Construction and land development $ — $ 83 $ — $ 2 $ — $ 27 $ 60 $ — $ 172 Term 293 524 96 96 216 575 242 31 2,073 Total Office CRE $ 293 $ 607 $ 96 $ 98 $ 216 $ 602 $ 302 $ 31 $ 2,245 % of total 13.1 % 27.0 % 4.3 % 4.3 % 9.6 % 26.8 % 13.5 % 1.4 % 100.0 % Credit quality metrics: Delinquency rat 30-89 days — % — % — % — % — % — % — % — % — % ≥ 90 days — % — % — % — % — % — % — % — % — % Accruing loans past due 90 days or more $ — $ — $ — $ — $ — $ — $ — $ — $ — Nonaccrual loans $ — $ 1 $ — $ — $ — $ — $ — $ — $ 1 Net charge-offs $ — $ — $ — $ — $ — $ — $ — $ — $ — 23 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (Dollar amounts in millions) December 31, 2022 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total Office CRE Construction and land development $ 8 $ 79 $ — $ 2 $ — $ 18 $ 101 $ — $ 208 Term 295 525 97 99 217 613 195 32 2,073 Total Office CRE $ 303 $ 604 $ 97 $ 101 $ 217 $ 631 $ 296 $ 32 $ 2,281 % of total 13.1 % 27.0 % 4.3 % 4.3 % 9.6 % 26.8 % 13.5 % 1.4 % 100.0 % Credit quality metrics: Delinquency rat 30-89 days — % 5.8 % — % — % — % — % — % — % 1.5 % ≥ 90 days — % — % — % — % — % — % — % — % — % Accruing loans past due 90 days or more $ — $ — $ — $ — $ — $ — $ — $ — $ — Nonaccrual loans $ — $ 1 $ — $ — $ — $ — $ — $ — $ 1 Net charge-offs $ — $ — $ — $ — $ — $ — $ — $ — $ — 1 No other geography exceeds $18 million at both March 31, 2023 and December 31, 2022. 2 Delinquency rates include nonaccrual loans. Consumer Loans We originate first-lien residential home mortgages considered to be of prime quality. We generally hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. Our 1-4 family residential mortgage loan portfolio increased $406 million, or 6%, to $7.7 billion at March 31, 2023, compared with $7.3 billion at December 31, 2022, primarily due to an increased demand for adjustable-rate mortgages, which we have retained as part of our overall interest rate risk management strategy. We also originate home equity credit lines (“HECLs”). At March 31, 2023 and December 31, 2022, our HECL portfolio totaled $3.3 billion and $3.4 billion, respectively. The following schedule presents the composition of our HECL portfolio by lien status. HECL PORTFOLIO BY LIEN STATUS (In millions) March 31, 2023 December 31, 2022 Secured by first liens $ 1,375 $ 1,474 Secured by second (or junior) liens 1,901 1,903 Total $ 3,276 $ 3,377 At March 31, 2023, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with high Fair Isaac Corporation (“FICO”) credit scores. Approximately 90% of our HECL portfolio is still in the draw period, and about 19% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is minimal. The ratio of HECL net charge-offs (recoveries) for the trailing twelve months to average balances at March 31, 2023 and December 31, 2022 was (0.03)% for both periods. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of the HECL portfolio. 24 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nonperforming Assets Nonperforming assets include nonaccrual loans and other real estate owned (“OREO”) or foreclosed properties. Nonperforming assets as a percentage of loans and leases and OREO increased to 0.31% at March 31, 2023, compared with 0.27% at December 31, 2022. Total nonaccrual loans at March 31, 2023 increased to $171 million from $149 million at December 31, 2022, primarily in the commercial and industrial and owner-occupied loan portfolios. See Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. The following schedule presents our nonperforming assets: NONPERFORMING ASSETS (Dollar amounts in millions) March 31, 2023 December 31, 2022 Nonaccrual loans 1 $ 171 $ 149 Other real estate owned 2 2 — Total nonperforming assets $ 173 $ 149 Ratio of nonperforming assets to net loans and leases 1 and other real estate owned 2 0.31 % 0.27 % Accruing loans past due 90 days or more $ 2 $ 6 Ratio of accruing loans past due 90 days or more to loans and leases 1 — % 0.01 % Nonaccrual loans 1 and accruing loans past due 90 days or more $ 173 $ 155 Ratio of nonperforming assets 1 and accruing loans past due 90 days or more to loans and leases 1 and other real estate owned 2 0.31 % 0.28 % Accruing loans past due 30-89 days $ 79 $ 93 Nonaccrual loans 1 current as to principal and interest payments 73.7 % 57.7 % 1 Includes loans held for sale. 2 Does not include banking premises held for sale Loan Modifications Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. On January 1, 2023, we adopted Accounting Standards Update (“ASU”) 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures, which eliminated the recognition and measurement of troubled debt restructurings (“TDRs”) and their related disclosures. ASU 2022-02 requires enhanced disclosures for loan modifications to borrowers experiencing financial difficulty. At March 31, 2023, loans that have been modified to accommodate a borrower experiencing financial difficulties totaled $97 million. If the modified loan performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the modification is taken into account to determine whether a loan should be returned to accrual status. ACCRUING AND NONACCRUING MODIFIED LOANS TO BORROWERS EXPERIENCING FINANCIAL DIFFICULTY (In millions) March 31, 2023 Modified loans – accruing $ 96 Modified loans – nonaccruing 1 Total $ 97 25 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES For additional information regarding loan modifications to borrowers experiencing financial difficulty, including information related to TDRs prior to our adoption of ASU 2022-02, see Note 6 of the Notes to Consolidated Financial Statements. Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. The RULC, a reserve for potential losses associated with off-balance sheet commitments, decreased $1 million during the first three months of 2023. The reserve is separately recorded on the consolidated balance sheet in “Other liabilities,” and any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” The following schedule presents the changes in and allocation of the ACL. 26 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SUMMARY OF CREDIT LOSS EXPERIENCE (Dollar amounts in millions) Three Months Ended March 31, 2023 Twelve Months Ended December 31, 2022 Three Months Ended March 31, 2022 Loans and leases outstanding $ 56,331 $ 55,653 $ 51,242 Average loans and leases outstandin Commercial 30,678 29,225 28,496 Commercial real estate 12,876 12,251 12,171 Consumer 12,599 11,122 10,266 Total average loans and leases outstanding $ 56,153 $ 52,598 $ 50,933 Allowance for loan and lease loss Balance at beginning of period 1 $ 572 $ 513 $ 513 Provision for loan losses 46 101 (29) Charge-offs: Commercial 3 72 13 Commercial real estate — — — Consumer 4 10 4 Total 7 82 17 Recoveri Commercial 6 32 8 Commercial real estate — — — Consumer 1 11 3 Total 7 43 11 Net loan and lease charge-offs — 39 6 Balance at end of period $ 618 $ 575 $ 478 Reserve for unfunded lending commitments: Balance at beginning of period $ 61 $ 40 $ 40 Provision for unfunded lending commitments (1) 21 (4) Balance at end of period $ 60 $ 61 $ 36 Total allowance for credit loss Allowance for loan and lease losses $ 618 $ 575 $ 478 Reserve for unfunded lending commitments 60 61 36 Total allowance for credit losses $ 678 $ 636 $ 514 Ratio of allowance for credit losses to net loans and leases, at period end 1.20 % 1.14 % 1.00 % Ratio of allowance for credit losses to nonaccrual loans, at period end 396 % 427 % 204 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, at period end 392 % 410 % 202 % Ratio of total net charge-offs to average loans and leases 2 — % 0.07 % 0.05 % Ratio of commercial net charge-offs to average commercial loans 2 (0.04) % 0.14 % 0.07 % Ratio of commercial real estate net charge-offs to average commercial real estate loans 2 — % — % — % Ratio of consumer net charge-offs to average consumer loans 2 0.10 % (0.01) % 0.04 % 1 The beginning balance at March 31, 2023 for the allowance for loan losses does not agree to its respective ending balance at December 31, 2022 because of the adoption of the new accounting standard related to loan modifications to borrowers experiencing financial difficulties. 2 Ratios are annualized for the periods presented except for the period representing the full twelve months. The total ACL increased to $678 million, from $636 million, during the first three months of 2023, primarily due to deterioration in economic forecasts and growth in the loan portfolio. See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. 27 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. Because we engage in transactions involving various financial products, we are exposed to both interest rate risk and market risk. For a more comprehensive discussion of our interest rate and market risk management, see the “Interest Rate and Market Risk Management” section in our 2022 Form 10-K. Interest Rate Risk We strive to position the Bank for interest rate changes and manage the balance sheet sensitivity to reduce the volatility of both net interest income and economic value of equity. We generally have granular deposit funding. Much of this funding has an indeterminate life with no maturity and can be withdrawn at any time. Because most deposits come from household and business accounts, their duration is generally longer than the duration of our loan portfolio. As such, we are naturally “asset-sensitive” — meaning that our assets are expected to reprice faster or more significantly than our liabilities. In previous interest rate environments, we have added (1) interest rate swaps to synthetically increase the duration of the loan portfolio, (2) longer-duration securities, and (3) longer-duration loans to reduce the asset sensitivity to a level where an increase in interest rates of 100 bps would result in a positive change in net interest income. Asset sensitivity measures depend upon the assumptions we use for deposit runoff and repricing behavior. As interest rates rise, we expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. Our models are particularly sensitive to the assumption about the rate of such migration. We also assume a correlation, referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-bearing checking accounts are assumed to have a lower correlation. We anticipate that changes in deposit rates will lag changes in reference rates. Our modeled cost of total deposits for March 2024 is approximately 1.31% without the effect of any additional Federal Reserve (“FRB”) rate hikes. Additional rate hikes would be expected to result in further increases to the cost of total deposits. Actual results may differ materially due to various factors, including the shape of the yield curve, competitive pricing, money supply, our credit worthiness, etc. We use our historical experience as well as industry data to inform our assumptions. The migration and correlation assumptions previously discussed result in deposit durations presented in the following schedu DEPOSIT ASSUMPTIONS March 31, 2023 December 31, 2022 Product Effective duration (unchanged) Effective duration (+200 bps) Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 3.5 % 3.6 % 3.6 % 3.5 % Money market 2.5 % 2.2 % 2.3 % 2.0 % Savings and interest-bearing checking 3.2 % 2.7 % 3.1 % 2.8 % As the more rate-sensitive deposits have runoff, the effective duration of deposits has lengthened due to the remaining deposits that are assumed to be less rate sensitive. As noted previously, we utilize derivatives to manage interest rate risk. The following schedule presents derivatives that are designated in qualifying hedging relationships at March 31, 2023. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each 28 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES category of cash flow and fair value hedge. See Note 7 of the Notes to Consolidated Financial Statements for additional information regarding the impact of these hedging relationships on interest income and expense. DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2023 2024 2025 2Q25 - 1Q26 2Q26 - 1Q27 (Dollar amounts in millions) Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Cash flow hedges Cash flow asset hedges 1, 4 Average outstanding notional $ 4,433 $ 4,133 $ 3,833 $ 3,400 $ 3,066 $ 2,633 $ 2,133 $ 1,450 $ 558 $ 108 Weighted-average fixed-rate received 1.92 % 1.87 % 1.75 % 1.59 % 1.50 % 1.36 % 1.27 % 1.39 % 1.73 % 1.65 % 2023 4 2024 2025 2026 2027 2028 2029 2030 2031 2032 Fair value hedges Fair value debt hedges 2 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — $ — Weighted-average fixed-rate received 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % 1.70 % — % — % — % Fair value asset hedges 3 Average outstanding notional $ 827 $ 1,099 $ 1,212 $ 1,217 $ 1,213 $ 1,208 $ 1,203 $ 1,198 $ 1,192 $ 1,156 Weighted-average fixed-rate paid 1.65 % 1.71 % 1.74 % 1.74 % 1.74 % 1.73 % 1.73 % 1.73 % 1.73 % 1.72 % 1 Cash flow hedges consist of receive-fixed swaps hedging pools of floating-rate loans. 2 Fair value debt hedges consist of receive-fixed swaps hedging fixed-rate debt. The $500 million fair value debt hedge matures at the end of July 2029. Amounts for 2029 have not been prorated to reflect this hedge maturing during the year. 3 Fair value assets hedges consist of pay-fixed swaps hedging AFS fixed-rate securities. Increases in average outstanding notional amounts are due to forward-starting interest rate swaps. 4 The cash flow portfolio fully matures in February 2027. Amounts for 2027 have not been prorated to reflect this hedge maturing during the period. Incorporating the deposit assumptions and the impact of derivatives in qualifying hedging relationships previously discussed, the following schedule presents earnings at risk (“EaR”), or the percentage change in 12-month forward-looking net interest income, and our estimated percentage change in economic value of equity (“EVE”). Both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY March 31, 2023 December 31, 2022 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Earnings at Risk (EaR) (3.4) % — % 3.3 % 6.5 % 9.7 % (2.4) % — % 2.4 % 4.8 % 7.1 % Economic Value of Equity (EVE) 1.8 % — % (1.2) % (2.4) % (3.8) % 2.0 % — % (1.1) % (2.3) % (3.7) % 1 Assumes rates cannot go below zero in the negative rate shift. The asset sensitivity, as measured by EaR, increased during the first quarter of 2023, primarily due to a decrease in receive-fixed-rate swap notional, partially offset by deposit runoff. For interest-bearing deposits with indeterminate maturities, the weighted average modeled beta is 27%. If the weighted average deposit beta were to increase to 38%, the EaR in the +100 bps rate shock would change from 3.3% to 2.0%. 29 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The EaR analysis focuses on parallel rate shocks across the term structure of benchmark interest rates. In a non-parallel rate scenario where the overnight rate increases 200 bps, but the ten-year rate increases only 30 bps, the increase in EaR is modeled to be approximately two-thirds of the change associated with the parallel +200 bps rate change. EaR has inherent limitations in describing expected changes in net interest income in rapidly changing interest rate environments due to a lag in asset and liability repricing behavior. As such, we expect net interest income to change due to “latent” and “emergent” interest rate sensitivity. Unlike EaR, which measures net interest income over 12 months, latent and emergent interest rate sensitivity explains changes in current quarter net interest income, compared with expected net interest income in the same quarter one year forward. Latent interest rate sensitivity refers to future changes in net interest income based upon past rate movements that have yet to be fully recognized in revenue but will be recognized over the near term. We expect latent sensitivity to reduce net interest income by approximately 7% in the first quarter of 2024, compared with the first quarter of 2023. Emergent interest rate sensitivity refers to future changes in net interest income based upon future interest rate movements and is measured from the latent level of net interest income. If interest rates rise consistent with the forward curve at March 31, 2023, we expect emergent sensitivity to reduce net interest income by approximately 1% from the latent sensitivity level, for a cumulative 8% reduction in net interest income. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At March 31, 2023, $25.6 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. Of these variable-rate loans, approximately 96% are tied to either the prime rate, London Interbank Offered Rate (“LIBOR”), Secured Overnight Financing Rate (“SOFR”), American Interbank Offered Rate (“AMERIBOR”), or Bloomberg Short-term Bank Yield (“BSBY”). For these variable-rate loans, we have executed $4.4 billion of cash flow hedges by receiving fixed rates on interest rate swaps. At March 31, 2023, we also had $3.6 billion of variable-rate consumer loans scheduled to reprice in the next six months. The impact on asset sensitivity from commercial or consumer loans with floors has become insignificant as rates have risen. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. LIBOR Transition LIBOR is being phased out globally, and banks are required to migrate to alternative reference rates no later than June 2023. To facilitate the transition process, we instituted an orderly enterprise-wide program to identify, assess, and monitor risks associated with the expected discontinuance or unavailability of LIBOR. This program included active engagement or involvement of senior management, the Enterprise Risk Management Committee, industry working groups, and our regulators. We have implemented processes, procedures, and systems to ensure contract risk is sufficiently mitigated. New originations, and any modifications or renewals of LIBOR-based contracts, contain fallback language to facilitate transition to an alternative reference rate. For our contracts that referenced LIBOR and had a duration beyond June 2023, all fallback provisions and variations were identified and classified based upon those provisions. At March 31, 2023, we had approximately $10.5 billion in loans (mainly commercial loans), unfunded lending commitments, and securities referencing LIBOR. The amount of borrowed funds referencing LIBOR at March 31, 2023 was less than $1 billion. These amounts exclude derivative assets and liabilities on the consolidated balance sheet. At March 31, 2023, the notional amount of our LIBOR-referenced interest rate derivative contracts was $6.5 billion, of which nearly all related to contracts with central counterparty clearinghouses. We expect the swap central counterparty clearinghouses, LCH.Clearnet Limited and CME Clearing House, to transition all of our USD LIBOR swaps to SOFR during the second quarter of 2023. We support our customers’ needs by accommodating various alternative reference rates, including primarily the Constant Maturity Treasury (“CMT”) rate, the FHLB rate, SOFR, BSBY, and the prime rate. At March 31, 2023, as a result of our efforts, more than 70% of our loans referencing LIBOR have moved to an alternative rate index, and 30 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES a significant number of customers had voluntarily migrated to an alternative rate index. We expect that most of the remaining customers will move to an alternative rate index in accordance with the relevant fallback provisions in their contracts prior to June 2023. A limited number of customers will be notified of the activation of their fallback language prior to June 2023, with transition to an alternative rate index occurring upon their next scheduled rate reset subsequent to June 2023. Under the Adjustable Interest Rate (LIBOR) Act of 2022, the FRB identified benchmark replacement rates for LIBOR contracts lacking fallback provisions with a clearly defined or practical replacement benchmark rate. Where applicable, these replacement rates will be used. For more information on the transition from LIBOR, see Risk Factors in our 2022 Form 10-K. Market Risk – Fixed Income We underwrite municipal and corporate securities. We also trade municipal, agency, and treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. At March 31, 2023 and December 31, 2022, we had $12 million and $465 million of trading assets, and $281 million and $187 million of securities sold, not yet purchased, respectively. We are exposed to market risk through changes in fair value. This includes market risk for interest rate swaps used to hedge interest rate risk. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in accumulated other comprehensive income (“AOCI”) for each financial reporting period. The after-tax change in AOCI attributable to AFS securities increased $126 million for the three months ended March 31, 2023, due largely to increases in benchmark interest rates. See Note 5 of the Notes to Consolidated Financial Statements for further information regarding the accounting for investment securities. We believe our funding advantage is more pronounced in a rising interest rate environment, creating meaningful economic value that is not fully reflected on our balance sheet since deposits and related intangible assets are not recorded at fair value for accounting purposes. Market Risk – Equity Investments Through our equity investment activities, we own equity securities that are publicly traded. In addition, we own equity securities in governmental entities and companies, e.g., FRB and the FHLB, that are not publicly traded. Equity investments may be accounted for at cost less impairment and adjusted for observable price changes, fair value, the equity method, or full consolidation methods of accounting, depending on our ownership position and degree of influence over the investees’ business. Regardless of the accounting method, the values of our investments are subject to fluctuation. Because the fair value of these securities may fall below the cost at which we acquired them, we are exposed to the possibility of loss. Equity investments in private and public companies are evaluated, monitored, and approved by members of management in our Equity Investments Committee and Securities Valuation Committee. We hold both direct and indirect investments in predominantly pre-public companies, primarily through various SBIC venture capital funds as a strategy to provide beneficial financing, growth, and expansion opportunities to diverse businesses generally in communities within our geographic footprint. Our equity exposure to these investments was approximately $174 million and $172 million at March 31, 2023 and December 31, 2022, respectively. On occasion, some of the companies within our SBIC investment may issue an initial public offering (“IPO”). In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce additional market risk. See Note 3 of the Notes to Consolidated Financial Statements for additional information regarding the valuation of our SBIC investments. Liquidity Risk Management Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. We manage our 31 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES liquidity to provide funds for our customers’ credit needs, our anticipated financial and contractual obligations, and other corporate activities. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as loans and investment securities. Our investment securities are primarily held as a source of contingent liquidity. We primarily own securities that can readily provide us cash and liquidity through secured borrowing agreements with securities pledged as collateral. We maintain and regularly test a contingency funding plan to identify sources and uses of liquidity. Additionally, we have a Board-approved liquidity policy that requires us to monitor and maintain adequate liquidity, diversify funding positions, and anticipate future funding needs. In accordance with this policy, we monitor our liquidity positions by conducting various stress tests and evaluating certain liquid asset measurements, such as a 30-day liquidity coverage ratio. We perform regular liquidity stress tests and assess our portfolio of highly liquid assets (sufficient to cover 30-day funding needs under stress scenarios). These stress tests include projections of funding maturities, uses of funds, and assumptions of deposit runoff. These assumptions consider the size of deposit account, operational nature of deposits, type of depositor, and concentrations of funding sources including large depositors and aggregate levels of uncollateralized deposits exceeding insured levels. Concentrated funding sources are given large runoff factors up to 100% in projecting stressed funding needs. Our liquidity stress testing considers multiple timeframes ranging from overnight to 12 months. Our liquidity policy requires us to maintain sufficient on-balance sheet liquidity in the form of FRB reserve balance and other highly liquid assets to meet stressed outflow assumptions. We have a dedicated funding desk that monitors real-time inflows and outflows of our FRB account, and we have tools, including ready access to repo markets and FHLB advances, to manage intraday liquidity. FHLB borrowings are “open-term,” allowing us the ability to retain or return funds based on our liquidity needs. We pledge a large portion of our highly liquid investment securities portfolio through the General Collateral Funding (“GCF”) repo program. Through this program, high-quality collateral is pledged and program participants exchange funds anonymously, which allows for near instant access to funding during market hours. Additionally, we have pledged collateral to the FRB’s primary credit facility (or discount window) and the Bank Term Funding Program (“BTFP”), which provide additional contingent funding sources outside the normal operating hours of the FHLB and the GCF program. The BTFP offers loans of up to one year in length to eligible depository institutions pledging U.S. Treasuries, agency debt and government mortgage-backed securities, and other qualifying assets as collateral. Unlike other funding sources, borrowing capacity under the BTFP is based on the par value, not the fair value, of collateral. During the first quarter of 2023, we did not access the discount window or BTFP, except for an operational test of the BTFP consisting of a $1 million overnight advance. For more information on our liquidity risk management practices, see “Liquidity Risk Management” in our 2022 Form 10-K. For the first three months of 2023, the primary sources of cash came from an increase in short-term borrowings, a decrease in money market investments, a decrease in investment securities, and net cash provided by operating activities. Uses of cash during the same period included primarily an increase in loans and leases, dividends paid on common and preferred stock, and the repurchase of bank common stock. Cash payments for interest reflected in operating expenses were $224 million and $11 million for the first three months of 2023 and 2022, respectively. The FHLB and FRB have been, and continue to be, a significant source of back-up liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and FRB stock to maintain our borrowing capacity. At March 31, 2023, our total investment in FHLB and FRB stock was $330 million and $66 million, respectively, compared with $294 million and $68 million at December 31, 2022. At March 31, 2023, loans with a carrying value of $24.2 billion and $6.0 billion, compared with $23.7 billion and $3.9 billion at December 31, 2022, were pledged at the FHLB and FRB, respectively, as collateral for current and potential borrowings. In April 2023, an additional $9.4 billion of loans were pledged at the FRB as collateral for potential borrowings, resulting in additional borrowing capacity of approximately $7.8 billion. 32 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At March 31, 2023 and December 31, 2022, investment securities with a carrying value of $22.0 billion and $13.5 billion, respectively, were pledged as collateral for potential borrowings. For the same time periods, these pledges included $10.4 billion and $8.3 billion for available use through the GCF repo program, $7.6 billion and $1.0 billion to the FRB, and $4.0 billion and $4.2 billion to secure collateralized public and trust deposits, advances, and for other purposes. A large portion of these pledged assets are unencumbered, but are pledged to provide immediate access to contingency sources of funds. The following schedule presents our total available liquidity including unused collateralized borrowing capacity. AVAILABLE LIQUIDITY March 31, 2023 December 31, 2022 (In billions) FHLB FRB GCF BTFP Total FHLB FRB GCF BTFP Total Total borrowing capacity $ 16.4 $ 6.1 $ 10.6 $ 7.3 $ 40.4 $ 16.6 $ 4.0 $ 8.4 $ — $ 29.0 Borrowings outstanding 8.1 — 3.3 — 11.4 7.2 — 2.7 — 9.9 Remaining capacity, at period end $ 8.3 $ 6.1 $ 7.3 $ 7.3 $ 29.0 $ 9.4 $ 4.0 $ 5.7 $ — $ 19.1 Cash and due from banks 0.6 0.7 Interest-bearing deposits 1 2.7 1.3 Total available liquidity $ 32.3 $ 21.1 1 Represents funds deposited by the Bank primarily at the Federal Reserve Bank. At March 31, 2023 and December 31, 2022, our total available liquidity was $32.3 billion, compared with $21.1 billion, respectively. At March 31, 2023, we had sources of liquidity which exceeded our uninsured deposits without the need to sell any investment securities. General financial market and economic conditions also impact our access to, and cost of, external financing. Access to funding markets is also directly affected by the credit ratings we receive from various rating agencies. The ratings not only influence the costs associated with borrowings, but can also influence the sources of the borrowings. All of the credit rating agencies rate our debt at an investment-grade level. In April 2023, as a result of broader uncertainty in the banking industry, Moody's downgraded our long-term issuer rating to Baa2 from Baa1, our short-term debt rating to P2 from P1, and changed their outlook on our long-term deposit and issuer ratings to “stable” from “ratings under review.” The following schedule presents our current credit ratings. CREDIT RATINGS as of April 30, 2023: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Stable BBB+ BBB NR Fitch Stable BBB+ BBB F1 Moody's Stable Baa2 NR P2 We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. 33 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Capital Management A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. We have fundamental financial objectives and policies to consistently improve risk-adjusted returns on our shareholders’ capital, including (1) maintaining sufficient capital to support the current needs and growth of our businesses, and (2) fulfilling responsibilities to depositors and bondholders while managing capital distributions to shareholders through dividends and repurchases of common stock. We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the FRB. The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as Board and Office of the Comptroller of the Currency (“OCC”) approval. Shares may be repurchased occasionally in the open market or through privately negotiated transactions. For a more comprehensive discussion of our capital risk management, see “Capital Management” in our 2022 Form 10-K. SHAREHOLDERS' EQUITY (Dollar amounts in millions) March 31, 2023 December 31, 2022 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 440 $ — — % Common stock and additional paid-in capital 1,715 1,754 (39) (2) Retained earnings 5,949 5,811 138 2 Accumulated other comprehensive loss (2,920) (3,112) 192 6 Total shareholders' equity $ 5,184 $ 4,893 $ 291 6 % Total shareholders’ equity increased $291 million, or 6%, to $5.2 billion at March 31, 2023, compared with $4.9 billion at December 31, 2022. Common stock and additional paid-in capital decreased $39 million, primarily due to common stock repurchases. AOCI was $2.9 billion at March 31, 2023, and reflects the decline in the fair value of fixed-rate available-for-sale securities as a result of changes in interest rates. Absent any sales or credit impairment of these securities, the unrealized losses will not be recognized in earnings. We do not intend to sell any securities with unrealized losses. Although changes in AOCI are reflected in shareholders’ equity, they are excluded from regulatory capital, and therefore do not impact our regulatory ratios. We excluded the effect of AOCI to align with its impact on certain incentive compensation plans that utilize return on tangible common equity as a performance metric. See “Non-GAAP Financial Measures” on page 36 for further information. For more discussion on our investment securities portfolio and related unrealized gains and losses, see Note 5 of the Notes to Consolidated Financial Statements. Common shares outstanding decreased 0.6 million during the first three months of 2023, primarily due to common stock repurchases. During the first quarter of 2023, we repurchased 0.9 million common shares outstanding for $50 million. As the macroeconomic environment has become more uncertain, we do not expect to repurchase common shares during the second quarter of 2023. 34 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CAPITAL DISTRIBUTIONS Three Months Ended March 31, (In millions, except share data) 2023 2022 Capital distributio Preferred dividends paid $ 6 $ 8 Total capital distributed to preferred shareholders 6 8 Common dividends paid 61 58 Bank common stock repurchased 1 50 51 Total capital distributed to common shareholders 111 109 Total capital distributed to preferred and common shareholders $ 117 $ 117 Weighted average diluted common shares outstanding (in thousands) 148,038 151,687 Common shares outstanding, at period end (in thousands) 148,100 151,348 1 Includes amounts related to the common shares acquired from our publicly announced plans and those acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. Under the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. At March 31, 2023, we had $1.6 billion of retained net profits available for distribution. During the first quarter of 2023, we paid dividends on preferred stock of $6 million and dividends on common stock of $61 million, or $0.41 per share. In May 2023, the Board declared a regular quarterly dividend of $0.41 per common share, payable on May 25, 2023 to shareholders of record on May 18, 2023. See Note 9 of the Notes to Consolidated Financial Statements for additional information about our capital management actions. Basel III We are subject to Basel III capital requirements that include certain minimum regulatory capital ratios. At March 31, 2023, we exceeded all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. See the “Supervision and Regulation” section and Note 15 of our 2022 Form 10-K for more information about our compliance with the Basel III capital requirements. The following schedule presents our capital amounts, capital ratios, and other selected performance ratios. CAPITAL AMOUNTS AND RATIOS (Dollar amounts in millions) March 31, 2023 December 31, 2022 March 31, 2022 Basel III risk-based capital amounts: Common equity tier 1 capital $ 6,582 $ 6,481 $ 6,166 Tier 1 risk-based 7,022 6,921 6,605 Total risk-based 8,232 8,077 7,677 Risk-weighted assets 66,274 66,111 61,427 Basel III risk-based capital ratios: Common equity tier 1 capital ratio 9.9 % 9.8 % 10.0 % Tier 1 risk-based ratio 10.6 10.5 10.8 Total risk-based ratio 12.4 12.2 12.5 Tier 1 leverage ratio 7.8 7.7 7.3 Other ratios: Average equity to average assets (three months ended) 5.6 % 5.4 % 7.8 % Return on average common equity (three months ended) 17.4 25.4 11.8 Return on average tangible common equity (three months ended) 1 12.3 16.9 12.9 Tangible equity ratio 1 7.8 7.6 7.2 Tangible common equity ratio 1 7.3 7.1 6.8 1 See “ Non-GAAP Financial Measures ” on page 36 for more information regarding these ratios. 35 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NON-GAAP FINANCIAL MEASURES This Form 10-Q presents non-GAAP financial measures, in addition to GAAP financial measures. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results and provide a meaningful basis for period-to-period comparisons. We use these non-GAAP financial measures to assess our performance and financial position. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by our management and the financial services industry. Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar financial measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under GAAP. Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets and their related amortization and AOCI. We excluded the effect of AOCI to align with its impact on certain incentive compensation plans that utilize return on tangible common equity as a performance metric. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a business more consistently, whether acquired or developed internally. RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Three Months Ended (Dollar amounts in millions) March 31, 2023 December 31, 2022 March 31, 2022 Net earnings applicable to common shareholders (GAAP) (a) $ 198 $ 277 $ 195 Adjustment, net of t Amortization of core deposit and other intangibles 1 — — Net earnings applicable to common shareholders, net of tax (a) $ 199 $ 277 $ 195 Average common equity (GAAP) $ 4,614 $ 4,330 $ 6,700 Average goodwill and intangibles (1,064) (1,036) (1,015) Average accumulated other comprehensive loss (income) 3,030 3,192 452 Average tangible common equity (non-GAAP) (b) $ 6,580 $ 6,486 $ 6,137 Number of days in quarter (c) 90 92 90 Number of days in year (d) 365 365 365 Return on average tangible common equity (non-GAAP) (a/b/c)*d 12.3 % 16.9 % 12.9 % 36 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) March 31, 2023 December 31, 2022 March 31, 2022 Total shareholders’ equity (GAAP) $ 5,184 $ 4,893 $ 6,294 Goodwill and intangibles (1,063) (1,065) (1,015) Accumulated other comprehensive loss (income) 2,920 3,112 1,346 Tangible equity (non-GAAP) (a) 7,041 6,940 6,625 Preferred stock (440) (440) (440) Tangible common equity (non-GAAP) (b) $ 6,601 $ 6,500 $ 6,185 Total assets (GAAP) $ 88,573 $ 89,545 $ 91,126 Goodwill and intangibles (1,063) (1,065) (1,015) Accumulated other comprehensive loss (income) 2,920 3,112 1,346 Tangible assets (non-GAAP) (c) $ 90,430 $ 91,592 $ 91,457 Common shares outstanding (in thousands) (d) 148,100 148,664 151,348 Tangible equity ratio (non-GAAP) (a/c) 7.8 % 7.6 % 7.2 % Tangible common equity ratio (non-GAAP) (b/c) 7.3 % 7.1 % 6.8 % Tangible book value per common share (non-GAAP) (b/d) $ 44.57 $ 43.72 $ 40.87 Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allow for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how we are managing our expenses. Adjusted pre-provision net revenue enables management and others to assess our ability to generate capital. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. 37 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) Three Months Ended Year Ended (Dollar amounts in millions) March 31, 2023 December 31, 2022 March 31, 2022 December 31, 2022 Noninterest expense (GAAP) (a) $ 512 $ 471 $ 464 $ 1,878 Adjustments: Severance costs 1 — — 1 Other real estate expense, net — — 1 1 Amortization of core deposit and other intangibles 2 — — 1 Pension termination-related (income) expense 1 — — — — SBIC investment success fee accrual 2 — (1) (1) (1) Total adjustments (b) 3 (1) — 2 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 509 $ 472 $ 464 $ 1,876 Net interest income (GAAP) (d) $ 679 $ 720 $ 544 $ 2,520 Fully taxable-equivalent adjustments (e) 9 10 8 37 Taxable-equivalent net interest income (non-GAAP) (d+e)=f 688 730 552 2,557 Noninterest income (GAAP) g 160 153 142 632 Combined income (non-GAAP) (f+g)=(h) 848 883 694 3,189 Adjustments: Fair value and nonhedge derivative gains (3) (4) 6 16 Securities gains (losses), net 2 1 (5) (17) (15) Total adjustments (i) (2) (9) (11) 1 Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 850 $ 892 $ 705 $ 3,188 Pre-provision net revenue (non-GAAP) (h)-(a) $ 336 $ 412 $ 230 $ 1,311 Adjusted PPNR (non-GAAP) (j)-(c) 341 420 241 1,312 Efficiency ratio (non-GAAP) (c/j) 59.9 % 52.9 % 65.8 % 58.8 % 1 Represents a valuation adjustment related to the termination of our defined benefit pension plan. 2 The success fee accrual is associated with the gains and losses from our SBIC investments, which are excluded from the efficiency ratio through securities gains (losses), net. 38 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 1. FINANCIAL STATEMENTS (Unaudited) CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) March 31, 2023 December 31, 2022 (Unaudited) ASSETS Cash and due from banks $ 607 $ 657 Money market investments: Interest-bearing deposits 2,727 1,340 Federal funds sold and securities purchased under agreements to resell 688 2,426 Investment securiti Held-to-maturity, at amortized cost ($ 11,210 and $ 11,239 at fair value ) 10,961 11,126 Available-for-sale, at fair value 11,594 11,915 Trading, at fair value 12 465 Total investment securities 22,567 23,506 Loans held for sale 5 8 Loans and leases, net of unearned income and fees 56,331 55,653 Less allowance for loan and lease losses 618 575 Loans held for investment, net of allowance 55,713 55,078 Other noninterest-bearing investments 1,169 1,130 Premises, equipment and software, net 1,411 1,408 Goodwill and intangibles 1,063 1,065 Other real estate owned 6 3 Other assets 2,617 2,924 Total assets $ 88,573 $ 89,545 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 30,974 $ 35,777 Interest-bearin Savings and money market 30,897 33,566 Time 7,337 2,309 Total deposits 69,208 71,652 Federal funds and other short-term borrowings 12,124 10,417 Long-term debt 663 651 Reserve for unfunded lending commitments 60 61 Other liabilities 1,334 1,871 Total liabilities 83,389 84,652 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 440 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 148,100 and 148,664 shares) and additional paid-in capital 1,715 1,754 Retained earnings 5,949 5,811 Accumulated other comprehensive income (loss) ( 2,920 ) ( 3,112 ) Total shareholders’ equity 5,184 4,893 Total liabilities and shareholders’ equity $ 88,573 $ 89,545 See accompanying notes to consolidated financial statements. 39 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Unaudited) Three Months Ended March 31, (In millions, except shares and per share amounts) 2023 2022 Interest income: Interest and fees on loans $ 726 $ 437 Interest on money market investments 57 6 Interest on securities 137 112 Total interest income 920 555 Interest expense: Interest on deposits 82 6 Interest on short- and long-term borrowings 159 5 Total interest expense 241 11 Net interest income 679 544 Provision for credit loss Provision for loan and lease losses 46 ( 29 ) Provision for unfunded lending commitments ( 1 ) ( 4 ) Total provision for credit losses 45 ( 33 ) Net interest income after provision for credit losses 634 577 Noninterest income: Commercial account fees 43 41 Card fees 24 25 Retail and business banking fees 16 20 Loan-related fees and income 21 22 Capital markets fees 17 15 Wealth management fees 15 14 Other customer-related fees 15 14 Customer-related noninterest income 151 151 Fair value and nonhedge derivative income ( 3 ) 6 Dividends and other income (loss) 11 2 Securities gains (losses), net 1 ( 17 ) Total noninterest income 160 142 Noninterest expense: Salaries and employee benefits 339 312 Technology, telecom, and information processing 55 52 Occupancy and equipment, net 40 38 Professional and legal services 13 14 Marketing and business development 12 8 Deposit insurance and regulatory expense 18 10 Credit-related expense 6 7 Other real estate expense, net — 1 Other 29 22 Total noninterest expense 512 464 Income before income taxes 282 255 Income taxes 78 52 Net income 204 203 Preferred stock dividends ( 6 ) ( 8 ) Net earnings applicable to common shareholders $ 198 $ 195 Weighted average common shares outstanding during the perio Basic shares (in thousands) 148,015 151,285 Diluted shares (in thousands) 148,038 151,687 Net earnings per common sh Basic $ 1.33 $ 1.27 Diluted 1.33 1.27 See accompanying notes to consolidated financial statements. 40 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Unaudited) Three Months Ended March 31, (In millions) 2023 2022 Net income for the period $ 204 $ 203 Other comprehensive income (loss), net of t Net unrealized holding gains (losses) on investment securities 126 ( 1,121 ) Net unrealized holding gains (losses) on derivative instruments 29 ( 135 ) Reclassification adjustment for decrease (increase) in interest income recognized in earnings on derivative instruments 37 ( 10 ) Total other comprehensive income (loss), net of tax 192 ( 1,266 ) Comprehensive income (loss) $ 396 $ ( 1,063 ) See accompanying notes to consolidated financial statements. CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited) (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2022 $ 440 148,664 $ — $ 1,754 $ 5,811 $ ( 3,112 ) $ 4,893 Net income for the period 204 204 Other comprehensive income, net of tax 192 192 Cumulative effect adjustment, due to adoption of ASU 2022-02, net of tax 2 2 Bank common stock repurchased ( 953 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 389 11 11 Dividends on preferred stock ( 6 ) ( 6 ) Dividends on common stock, $ 0.41 per share ( 61 ) ( 61 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at March 31, 2023 $ 440 148,100 $ — $ 1,715 $ 5,949 $ ( 2,920 ) $ 5,184 Balance at December 31, 2021 $ 440 151,625 $ — $ 1,928 $ 5,175 $ ( 80 ) $ 7,463 Net income for the period 203 203 Other comprehensive loss, net of tax ( 1,266 ) ( 1,266 ) Bank common stock repurchased ( 778 ) ( 51 ) ( 51 ) Net activity under employee plans and related tax benefits 501 12 12 Dividends on preferred stock ( 8 ) ( 8 ) Dividends on common stock, $ 0.38 per share ( 58 ) ( 58 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at March 31, 2022 $ 440 151,348 $ — $ 1,889 $ 5,311 $ ( 1,346 ) $ 6,294 41 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In millions) Three Months Ended March 31, 2023 2022 CASH FLOWS FROM OPERATING ACTIVITIES Net income for the period $ 204 $ 203 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses 45 ( 33 ) Depreciation and amortization 36 19 Share-based compensation 17 17 Deferred income tax expense 6 39 Net decrease (increase) in trading securities 77 ( 10 ) Net decrease in loans held for sale 7 29 Change in other liabilities ( 529 ) 127 Change in other assets 362 ( 116 ) Other, net ( 4 ) 13 Net cash provided by operating activities 221 288 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease in money market investments 727 4,979 Proceeds from maturities and paydowns of investment securities held-to-maturity 237 20 Purchases of investment securities held-to-maturity ( 10 ) ( 17 ) Proceeds from sales, maturities, and paydowns of investment securities available-for-sale 583 1,018 Purchases of investment securities available-for-sale ( 138 ) ( 4,673 ) Net change in loans and leases ( 738 ) ( 355 ) Purchases and sales of other noninterest-bearing investments ( 37 ) 8 Purchases of premises and equipment ( 31 ) ( 53 ) Other, net ( 2 ) 4 Net cash provided by investing activities 591 931 CASH FLOWS FROM FINANCING ACTIVITIES Net decrease in deposits ( 2,445 ) ( 439 ) Net change in short-term funds borrowed 1,707 ( 264 ) Redemption of long-term debt — ( 290 ) Proceeds from the issuance of common stock 2 6 Dividends paid on common and preferred stock ( 69 ) ( 66 ) Bank common stock repurchased ( 50 ) ( 51 ) Other, net ( 7 ) ( 10 ) Net cash used in financing activities ( 862 ) ( 1,114 ) Net increase (decrease) in cash and due from banks ( 50 ) 105 Cash and due from banks at beginning of period 657 595 Cash and due from banks at end of period $ 607 $ 700 Cash paid for interest $ 224 $ 11 Net refunds received for income taxes — ( 1 ) Noncash activiti Loans held for investment reclassified to loans held for sale, net 47 34 See accompanying notes to consolidated financial statements. 42 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) March 31, 2023 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Zions Bancorporation, National Association and its majority-owned subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). The results of operations for the three months ended March 31, 2023 and 2022 are not necessarily indicative of the results that may be expected in future periods. In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. For further information, refer to the consolidated financial statements and accompanying footnotes included in our 2022 Form 10-K. We evaluated events that occurred between March 31, 2023 and the date the accompanying financial statements were issued, and determined that there were no material events that would require adjustments to our consolidated financial statements or significant disclosure in the accompanying Notes. As referenced in Note 6 of the Notes to Consolidated Financial Statements, an additional $ 9.4 billion of loans were pledged as collateral for potential borrowings in April 2023. Zions Bancorporation, N.A. is a commercial bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These include Zions Bank, in Utah, Idaho, and Wyoming; California Bank & Trust (“CB&T”); Amegy Bank (“Amegy”), in Texas; National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”), in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under the name The Commerce Bank of Oregon in Oregon. 43 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 2. RECENT ACCOUNTING PRONOUNCEMENTS Standard Description Date of adoption Effect on the financial statements or other significant matters Standards not yet adopted by the Bank ASU 2023-02, Investments—Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Tax Credit Structures Using the Proportional Amortization Method (a consensus of the Emerging Issues Task Force) This Accounting Standards Update (“ASU”) expands the optional use of the proportional amortization method (“PAM”), previously limited to investments in low-income housing tax credit (“LIHTC”) structures, to any eligible equity investments made primarily for the purpose of receiving income tax credit and other tax benefits when certain criteria are met. PAM results in the cost of the investment being amortized in proportion to the income tax credits and other income tax benefits received, with the amortization of the investment and the income tax credits being presented net in the income statement as a component of income tax expense (benefit). This ASU allows for an accounting policy election to apply PAM on a tax-credit-program-by-tax-credit-program basis. The ASU also includes additional disclosure requirements about equity investments accounted for using PAM. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 We do not currently have any additional equity investments that are eligible for PAM under the provisions of this ASU. We will continue to evaluate its use for new investments. The overall effect of the guidance is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. ASU 2022-03, Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions This ASU clarifies that contractual restrictions prohibiting the sale of an equity security are not considered part of the unit of account of the equity security, and therefore, are not considered in measuring fair value. The amendments clarify that an entity cannot recognize and measure a contractual sale restriction as a separate unit of account. The amendments in this ASU also require additional qualitative and quantitative disclosures for equity securities subject to contractual sale restrictions. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 The requirements of this ASU are consistent with our current treatment of equity securities subject to contractual sale restrictions and are not expected to impact the fair value measurements of these securities. We are evaluating supplementary disclosure requirements and additional data needed to meet these requirements. The overall effect of this standard is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. Standards adopted by the Bank during the period ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures This ASU eliminates the recognition and measurement requirements for troubled debt restructurings (“TDRs”) for creditors that have adopted ASC 326 (“CECL”), and eliminates certain TDR disclosures while requiring enhanced disclosures about loan modifications for borrowers experiencing financial difficulty. The new standard also requires public companies to present current period gross charge-offs (on a current year-to-date basis for interim-period disclosures) by year of origination in their vintage disclosures. Periods beginning after December 15, 2022 We adopted this ASU on January 1, 2023. It did not have a material impact on our financial statements. 44 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 3. FAIR VALUE Fair Value Measurements Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. For more information about our valuation methodologies for assets and liabilities measured at fair value and the fair value hierarchy, see Note 3 of our 2022 Form 10-K. Quantitative Disclosure by Fair Value Hierarchy Assets and liabilities measured at fair value by class on a recurring basis are summarized as follows: (In millions) March 31, 2023 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 511 $ 9,612 $ — $ 10,123 Municipal securities 1,447 1,447 Other debt securities 24 24 Total available-for-sale 511 11,083 — 11,594 Trading securities 12 12 Other noninterest-bearing investments: Bank-owned life insurance 547 547 Private equity investments 1 3 82 85 Other assets: Agriculture loan servicing and interest-only strips 18 18 Deferred compensation plan assets 109 109 Derivatives 369 369 Total assets $ 623 $ 12,011 $ 100 $ 12,734 LIABILITIES Securities sold, not yet purchased $ 281 $ — $ — $ 281 Other liabiliti Derivatives 353 353 Total liabilities $ 281 $ 353 $ — $ 634 1 The Level 1 private equity investments (“PEIs”) relate to the portion of our Small Business Investment Company (“SBIC”) investments that are publicly traded. 45 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) December 31, 2022 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies and corporations $ 393 $ 9,815 $ — $ 10,208 Municipal securities 1,634 1,634 Other debt securities 73 73 Total available-for-sale 393 11,522 — 11,915 Trading securities 395 70 465 Other noninterest-bearing investments: Bank-owned life insurance 546 546 Private equity investments 1 4 81 85 Other assets: Agriculture loan servicing and interest-only strips 14 14 Deferred compensation plan assets 114 114 Derivatives 386 386 Total assets $ 906 $ 12,524 $ 95 $ 13,525 LIABILITIES Securities sold, not yet purchased $ 187 $ — $ — $ 187 Other liabiliti Derivatives 451 451 Total liabilities $ 187 $ 451 $ — $ 638 1 The Level 1 PEIs relate to the portion of our SBIC investments that are publicly traded. Level 3 Valuations Our Level 3 holdings include PEIs, agriculture loan servicing, and interest-only strips. For additional information regarding our Level 3 financial instruments, including the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2022 Form 10-K. Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments Three Months Ended March 31, 2023 March 31, 2022 (In millions) Private equity investments Ag loan servicing & interest-only strips Private equity investments Ag loan servicing & interest-only strips Balance at beginning of period $ 81 $ 14 $ 66 $ 12 Unrealized securities gains (losses), net — — 5 — Other noninterest income (expense) — 4 — — Purchases 1 — 6 — Cost of investments sold — — ( 3 ) — Transfers out 1 — — — — Balance at end of period $ 82 $ 18 $ 74 $ 12 1 Represents the transfer of SBIC investments out of Level 3 and into Level 1 because they are publicly traded. 46 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The rollforward of Level 3 instruments includes the following realized gains and losses recognized in securities gains (losses) on the consolidated statement of income for the periods present (In millions) Three Months Ended March 31, 2023 March 31, 2022 Securities gains (losses), net $ — $ ( 2 ) Nonrecurring Fair Value Measurements Certain assets and liabilities may be recorded at fair value on a nonrecurring basis, including impaired loans that have been measured based on the fair value of the underlying collateral, other real estate owned (“OREO”), and equity investments without readily determinable fair values. Nonrecurring fair value adjustments generally include changes in value resulting from observable price changes for equity investments without readily determinable fair values, write-downs of individual assets, or the application of lower of cost or fair value accounting. At March 31, 2023, and December 31, 2022, we had insignificant amounts of assets or liabilities that had fair value changes measured on a nonrecurring basis. For additional information regarding the measurement of fair value for impaired loans, collateral-dependent loans, and OREO, see Note 3 of our 2022 Form 10-K. Fair Value of Certain Financial Instruments The following schedule presents the carrying values and estimated fair values of certain financial instruments: March 31, 2023 December 31, 2022 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: Held-to-maturity investment securities $ 10,961 $ 11,210 2 $ 11,126 $ 11,239 2 Loans and leases (including loans held for sale), net of allowance 55,718 53,226 3 55,086 53,093 3 Financial liabiliti Time deposits 7,337 7,319 2 2,309 2,269 2 Long-term debt 663 577 2 651 635 2 The schedule above does not include certain financial instruments that are recorded at fair value on a recurring basis, as well as certain financial assets and liabilities for which the carrying value approximates fair value. For additional information regarding the financial instruments within the scope of this disclosure, and the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2022 Form 10-K. 47 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 4. OFFSETTING ASSETS AND LIABILITIES The following schedules present gross and net information for selected financial instruments on the balance sheet. March 31, 2023 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 688 $ — $ 688 $ — $ — $ 688 Derivatives (included in other assets) 369 — 369 ( 23 ) ( 326 ) 20 Total assets $ 1,057 $ — $ 1,057 $ ( 23 ) $ ( 326 ) $ 708 Liabiliti Federal funds and other short-term borrowings $ 12,124 $ — $ 12,124 $ — $ — $ 12,124 Derivatives (included in other liabilities) 353 — 353 ( 23 ) — 330 Total liabilities $ 12,477 $ — $ 12,477 $ ( 23 ) $ — $ 12,454 December 31, 2022 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 2,451 $ ( 25 ) $ 2,426 $ — $ — $ 2,426 Derivatives (included in other assets) 386 — 386 ( 10 ) ( 367 ) 9 Total assets $ 2,837 $ ( 25 ) $ 2,812 $ ( 10 ) $ ( 367 ) $ 2,435 Liabiliti Federal funds and other short-term borrowings $ 10,442 $ ( 25 ) $ 10,417 $ — $ — $ 10,417 Derivatives (included in other liabilities) 451 — 451 ( 10 ) — 441 Total liabilities $ 10,893 $ ( 25 ) $ 10,868 $ ( 10 ) $ — $ 10,858 Security repurchase and reverse repurchase agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 5. INVESTMENTS Investment Securities Investment securities are classified as held-to-maturity (“HTM”), available-for-sale (“AFS”), or trading. HTM securities, which management has the intent and ability to hold until maturity, are carried at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. When a security is transferred from AFS to HTM, the difference between its amortized cost basis and fair value at the date of transfer is amortized as a yield adjustment through interest income, and the fair value at the date of transfer results in a discount to the amortized cost basis of the HTM securities. The amortization of the unrealized losses reported in accumulated other comprehensive income (“AOCI”) will offset the effect of the accretion of the discount in interest income that is created by the transfer. 48 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES AFS securities are carried at fair value, and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to AOCI, net of related taxes. Trading securities are carried at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 65 million and $ 75 million at March 31, 2023 and December 31, 2022, respectively. These receivables are presented on the consolidated balance sheet in “Other assets.” See Notes 3 and 5 of our 2022 Form 10-K for more information regarding our process to estimate the fair value and accounting for our investment securities, respectively. The following schedule summarizes the amortized cost and estimated fair values of our HTM and AFS securiti March 31, 2023 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 98 $ — $ 6 $ 92 Agency guaranteed mortgage-backed securities 1 10,471 281 2 10,750 Municipal securities 392 — 24 368 Total held-to-maturity 10,961 281 32 11,210 Available-for-sale U.S. Treasury securities 656 — 145 511 U.S. Government agencies and corporatio Agency securities 753 — 37 716 Agency guaranteed mortgage-backed securities 9,423 — 1,203 8,220 Small Business Administration loan-backed securities 701 1 26 676 Municipal securities 1,517 — 70 1,447 Other debt securities 25 — 1 24 Total available-for-sale 13,075 1 1,482 11,594 Total HTM and AFS investment securities $ 24,036 $ 282 $ 1,514 $ 22,804 December 31, 2022 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 100 $ — $ 7 $ 93 Agency guaranteed mortgage-backed securities 1 10,621 165 14 10,772 Municipal securities 405 — 31 374 Total held-to-maturity 11,126 165 52 11,239 Available-for-sale U.S. Treasury securities 557 — 164 393 U.S. Government agencies and corporatio Agency securities 782 — 46 736 Agency guaranteed mortgage-backed securities 9,652 — 1,285 8,367 Small Business Administration loan-backed securities 740 1 29 712 Municipal securities 1,732 1 99 1,634 Other debt securities 75 — 2 73 Total available-for-sale 13,538 2 1,625 11,915 Total HTM and AFS investment securities $ 24,664 $ 167 $ 1,677 $ 23,154 1 During the fourth quarter of 2022, we transferred approximately $ 10.7 billion fair value ($ 13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category to reflect our intent for these securities. The transfer of these securities from AFS to HTM at fair value resulted in a discount to the amortized cost basis of the HTM securities equivalent to the $ 2.4 billion ($ 1.8 billion after-tax) of unrealized losses in AOCI. The amortization of the unrealized losses will offset the effect of the accretion of the discount created by the transfer. 49 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Maturities The following schedule shows the amortized cost and weighted average yields of debt securities by contractual maturity of principal payments at March 31, 2023. Actual principal payments and maturities may differ from contractual or expected principal payments and maturities because borrowers have the right to call or prepay obligations with or without call or prepayment penalties. March 31, 2023 Total debt securities Due in one year or less Due after one year through five years Due after five years through ten years Due after ten years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 98 3.51 % $ — — % $ — — % $ — — % $ 98 3.51 % Agency guaranteed mortgage-backed securities 10,471 1.84 — — — — 48 2.00 10,423 1.84 Municipal securities 1 392 3.17 34 3.36 135 3.06 180 3.31 43 2.80 Total held-to-maturity securities 10,961 1.90 34 3.36 135 3.06 228 3.04 10,564 1.86 Available-for-sale U.S. Treasury securities 656 2.43 99 4.56 — — — — 557 2.05 U.S. Government agencies and corporatio Agency securities 753 2.63 18 5.22 313 2.23 224 2.54 198 3.12 Agency guaranteed mortgage-backed securities 9,423 1.96 24 4.32 268 1.55 1,559 2.06 7,572 1.94 Small Business Administration loan-backed securities 701 4.80 — — 39 5.31 151 4.14 511 4.96 Municipal securities 1 1,517 2.19 119 2.49 517 2.62 680 1.86 201 2.05 Other debt securities 25 8.27 — — — — 10 9.50 15 7.45 Total available-for-sale securities 13,075 2.21 260 3.63 1,137 2.35 2,624 2.20 9,054 2.16 Total HTM and AFS investment securities $ 24,036 2.07 % $ 294 3.60 % $ 1,272 2.43 % $ 2,852 2.26 % $ 19,618 2.00 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis. The following schedule summarizes the amount of gross unrealized losses for AFS securities and the estimated fair value by length of time the securities have been in an unrealized loss position. 50 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES March 31, 2023 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ — $ — $ 145 $ 412 $ 145 $ 412 U.S. Government agencies and corporatio Agency securities 11 216 26 500 37 716 Agency guaranteed mortgage-backed securities 58 1,118 1,145 7,074 1,203 8,192 Small Business Administration loan-backed securities 6 102 20 494 26 596 Municipal securities 4 509 66 873 70 1,382 Other — — 1 14 1 14 Total available-for-sale investment securities $ 79 $ 1,945 $ 1,403 $ 9,367 $ 1,482 $ 11,312 December 31, 2022 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ 94 $ 308 $ 70 $ 85 $ 164 $ 393 U.S. Government agencies and corporatio Agency securities 39 634 7 102 46 736 Agency guaranteed mortgage-backed securities 447 4,322 838 4,042 1,285 8,364 Small Business Administration loan-backed securities 8 101 21 524 29 625 Municipal securities 63 1,295 36 256 99 1,551 Other 2 13 — — 2 13 Total available-for-sale investment securities $ 653 $ 6,673 $ 972 $ 5,009 $ 1,625 $ 11,682 At March 31, 2023 and December 31, 2022, approximately 3,240 and 3,562 AFS investment securities were in an unrealized loss position, respectively. Impairment We review investment securities quarterly on an individual security basis for the presence of impairment. For additional information on our policy and impairment evaluation process for investment securities, see Note 5 of our 2022 Form 10-K. AFS Impairment We did not recognize any impairment on our AFS investment securities portfolio during the first three months of 2023. Unrealized losses primarily relate to changes in interest rates subsequent to purchase and are not attributable to credit; as such, absent any future sales, we would expect to receive the full principal value at maturity. At March 31, 2023, we had not initiated any sales of AFS securities, nor did we have an intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not that we would be required to sell such securities before recovery of their amortized cost basis. 51 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES HTM Impairment For HTM securities, the allowance for credit losses (“ACL”) is assessed consistent with the approach described in Note 6 for loans and leases carried at amortized cost. The ACL on HTM securities was less than $ 1 million at March 31, 2023. All HTM securities were risk-graded as “ Pass ” in terms of credit quality, and none were past due at March 31, 2023. Securities Gains and Losses Recognized in Income The following schedule summarizes securities gains and losses recognized in the income statement. Three Months Ended March 31, 2023 2022 (In millions) Gross gains Gross losses Gross gains Gross losses Available-for-sale $ 1 $ 1 $ — $ — Trading 3 3 — — Other noninterest-bearing investments 4 3 3 20 Total gains 8 7 3 20 Net gains (losses) 1 $ 1 $ ( 17 ) 1 Net gains (losses) were recognized in securities gains (losses) in the income statement. The following schedule presents interest income by security type. Three Months Ended March 31, 2023 2022 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 60 $ 1 $ 61 $ 2 $ 1 $ 3 Available-for-sale 69 6 75 96 8 104 Trading 1 — 1 — 5 5 Total securities $ 130 $ 7 $ 137 $ 98 $ 14 $ 112 52 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific loan class: (In millions) March 31, 2023 December 31, 2022 Loans held for sale $ 5 $ 8 Commerci Commercial and industrial 1 $ 16,500 $ 16,377 Leasing 385 386 Owner-occupied 9,317 9,371 Municipal 4,374 4,361 Total commercial 30,576 30,495 Commercial real estate: Construction and land development 2,313 2,513 Term 10,585 10,226 Total commercial real estate 12,898 12,739 Consume Home equity credit line 3,276 3,377 1-4 family residential 7,692 7,286 Construction and other consumer real estate 1,299 1,161 Bankcard and other revolving plans 459 471 Other 131 124 Total consumer 12,857 12,419 Total loans and leases $ 56,331 $ 55,653 1 Commercial and industrial loan balances include Paycheck Protection Program (“PPP”) loans of $ 159 million and $ 197 million for the respective periods presented. Loans and leases are measured and presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 43 million and $ 49 million at March 31, 2023 and December 31, 2022, respectively. Amortized cost basis does not include accrued interest receivables of $ 254 million and $ 247 million at March 31, 2023 and December 31, 2022, respectively. These receivables are presented in the Consolidated Balance Sheet within the “ Other assets ” line item. Municipal loans generally include loans to state and local governments (“municipalities”) with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 226 million at March 31, 2023 and $ 262 million at December 31, 2022. Loans with a carrying value of $ 30.2 billion at March 31, 2023 and $ 27.6 billion at December 31, 2022 have been pledged at the Federal Reserve (“FRB”) and the Federal Home Loan Bank (“FHLB”) of Des Moines as collateral for current and potential borrowings. In April 2023, an additional $ 9.4 billion of loans were pledged as collateral for potential borrowings. We sold loans totaling $ 89 million for the three months ended March 31, 2023, and $ 336 million for the three months ended March 31, 2022, that were classified as loans held for sale. Loans classified as loans held for sale primarily consist of conforming residential mortgages and the guaranteed portion of Small Business Administration (“SBA”) loans that are primarily sold to U.S. government agencies or participated to third parties. Occasionally, we have continuing involvement in the sold loans in the form of servicing rights or guarantees. Amounts added to loans held for sale during these same periods were $ 86 million for the three months ended March 31, 2023, and $ 297 53 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES million for the three months ended March 31, 2022, respectively. See Note 5 of the Notes to Consolidated Financial Statements for further information regarding guaranteed securities. The principal balance of sold loans for which we retain servicing was $ 3.4 billion at March 31, 2023, and $ 3.5 billion at December 31, 2022. Income from loans sold, excluding servicing, was $ 5 million for the three months ended March 31, 2023, and $ 6 million for the three months ended March 31, 2022, respectively. Allowance for Credit Losses The allowance for credit losses (“ACL”), which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. For additional information regarding our policies and methodologies used to estimate the ACL, see Note 6 of our 2022 Form 10-K. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is estimated consistent with the approach for loans carried at amortized cost. See Note 5 of our 2022 Form 10-K for further discussion of our methodology used to estimate the ACL on AFS and HTM debt securities. Changes in the ACL are summarized as follows: Three Months Ended March 31, 2023 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at December 31, 2022 $ 300 $ 156 $ 119 $ 575 Adjustment for change in accounting standard — ( 4 ) 1 ( 3 ) Balance at beginning of period 300 152 120 572 Provision for loan losses 10 8 28 46 Gross loan and lease charge-offs 3 — 4 7 Recoveries 6 — 1 7 Net loan and lease charge-offs (recoveries) ( 3 ) — 3 — Balance at end of period $ 313 $ 160 $ 145 $ 618 Reserve for unfunded lending commitments Balance at beginning of period $ 16 $ 33 $ 12 $ 61 Provision for unfunded lending commitments 3 ( 5 ) 1 ( 1 ) Balance at end of period $ 19 $ 28 $ 13 $ 60 Total allowance for credit losses at end of period Allowance for loan losses $ 313 $ 160 $ 145 $ 618 Reserve for unfunded lending commitments 19 28 13 60 Total allowance for credit losses $ 332 $ 188 $ 158 $ 678 54 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Three Months Ended March 31, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 311 $ 107 $ 95 $ 513 Provision for loan losses ( 24 ) ( 5 ) — ( 29 ) Gross loan and lease charge-offs 13 — 4 17 Recoveries 8 — 3 11 Net loan and lease charge-offs (recoveries) 5 — 1 6 Balance at end of period $ 282 $ 102 $ 94 $ 478 Reserve for unfunded lending commitments Balance at beginning of period $ 19 $ 11 $ 10 $ 40 Provision for unfunded lending commitments ( 5 ) 1 — ( 4 ) Balance at end of period $ 14 $ 12 $ 10 $ 36 Total allowance for credit losses at end of period Allowance for loan losses $ 282 $ 102 $ 94 $ 478 Reserve for unfunded lending commitments 14 12 10 36 Total allowance for credit losses $ 296 $ 114 $ 104 $ 514 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement, (2) the loan, if secured, is well-secured, (3) the borrower has paid according to the contractual terms for a minimum of six months, and (4) an analysis of the borrower indicates a reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of nonaccrual loans is summarized as follows: March 31, 2023 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 8 $ 69 $ 77 $ 45 Owner-occupied 20 13 33 1 Total commercial 28 82 110 46 Commercial real estate: Term 4 12 16 3 Total commercial real estate 4 12 16 3 Consume Home equity credit line — 11 11 3 1-4 family residential 5 29 34 5 Total consumer loans 5 40 45 8 Total $ 37 $ 134 $ 171 $ 57 55 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 8 $ 55 $ 63 $ 27 Owner-occupied 13 11 24 1 Total commercial 21 66 87 28 Commercial real estate: Term — 14 14 2 Total commercial real estate — 14 14 2 Consume Home equity credit line 1 10 11 2 1-4 family residential 9 28 37 3 Bankcard and other revolving plans — — — — Total consumer loans 10 38 48 5 Total $ 31 $ 118 $ 149 $ 35 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. When the collectibility of the amortized cost basis for a nonaccrual loan is no longer in doubt, then interest payments may be recognized in interest income on a cash basis. For the three months ended March 31, 2023 and 2022, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. The amount of accrued interest receivables reversed from interest income during the periods presented is summarized by loan portfolio segment as follows: Three Months Ended March 31, (In millions) 2023 2022 Commercial $ 2 $ 4 Commercial real estate 1 — Consumer — — Total $ 3 $ 4 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as bankcard and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. 56 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Past due loans (accruing and nonaccruing) are summarized as follows: March 31, 2023 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 16,436 $ 53 $ 11 $ 64 $ 16,500 $ 1 $ 64 Leasing 385 — — — 385 — 1 Owner-occupied 9,305 9 3 12 9,317 — 28 Municipal 4,374 — — — 4,374 — — Total commercial 30,500 62 14 76 30,576 1 93 Commercial real estate: Construction and land development 2,308 5 — 5 2,313 — — Term 10,582 1 2 3 10,585 — 14 Total commercial real estate 12,890 6 2 8 12,898 — 14 Consume Home equity credit line 3,265 8 3 11 3,276 — 5 1-4 family residential 7,665 14 13 27 7,692 — 14 Construction and other consumer real estate 1,299 — — — 1,299 — — Bankcard and other revolving plans 455 3 1 4 459 1 — Other 130 1 — 1 131 — — Total consumer loans 12,814 26 17 43 12,857 1 19 Total $ 56,204 $ 94 $ 33 $ 127 $ 56,331 $ 2 $ 126 December 31, 2022 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 16,331 $ 24 $ 22 $ 46 $ 16,377 $ 4 $ 45 Leasing 386 — — — 386 — — Owner-occupied 9,344 20 7 27 9,371 1 15 Municipal 4,361 — — — 4,361 — — Total commercial 30,422 44 29 73 30,495 5 60 Commercial real estate: Construction and land development 2,511 2 — 2 2,513 — — Term 10,179 37 10 47 10,226 — 4 Total commercial real estate 12,690 39 10 49 12,739 — 4 Consume Home equity credit line 3,369 5 3 8 3,377 — 6 1-4 family residential 7,258 9 19 28 7,286 — 16 Construction and other consumer real estate 1,161 — — — 1,161 — — Bankcard and other revolving plans 467 3 1 4 471 1 — Other 124 — — — 124 — — Total consumer loans 12,379 17 23 40 12,419 1 22 Total $ 55,491 $ 100 $ 62 $ 162 $ 55,653 $ 6 $ 86 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is still not expected. 57 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk-grading systems, which vary based on the size and type of credit risk exposure. The internal risk grades assigned to loans follow our definition of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. • Pass – A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention – A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard – A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful – A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were no loans classified as Doubtful at March 31, 2023 and December 31, 2022. For consumer loans and for commercial and CRE loans with commitments greater than $ 1 million, we generally assign internal risk grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The following schedule presents the amortized cost basis of loans and leases categorized by year of origination and by credit quality classification as monitored by management. The schedule also summarizes the current period gross charge-offs by year of origination. 58 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES March 31, 2023 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2023 2022 2021 2020 2019 Prior Total Commerci Commercial and industrial Pass $ 678 $ 3,181 $ 1,689 $ 899 $ 751 $ 577 $ 8,050 $ 186 $ 16,011 Special Mention — 3 3 6 39 2 63 — 116 Accruing Substandard 4 27 6 13 87 67 90 2 296 Nonaccrual — 1 8 5 10 2 47 4 77 Total commercial and industrial 682 3,212 1,706 923 887 648 8,250 192 16,500 Gross charge-offs — — — — — 1 2 — 3 Leasing Pass 25 155 64 42 61 34 — — 381 Special Mention — — — — — — — — — Accruing Substandard — — — — — 4 — — 4 Nonaccrual — — — — — — — — — Total leasing 25 155 64 42 61 38 — — 385 Gross charge-offs — — — — — — — — — Owner-occupied Pass 390 2,079 2,182 1,098 808 2,227 165 48 8,997 Special Mention 1 4 20 3 8 18 — — 54 Accruing Substandard 4 28 44 31 18 104 4 — 233 Nonaccrual — — 2 14 3 12 2 — 33 Total owner-occupied 395 2,111 2,248 1,146 837 2,361 171 48 9,317 Gross charge-offs — — — — — — — — — Municipal Pass 129 1,187 1,203 799 418 591 9 — 4,336 Special Mention — 32 6 — — — — — 38 Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total municipal 129 1,219 1,209 799 418 591 9 — 4,374 Gross charge-offs — — — — — — — — — Total commercial 1,231 6,697 5,227 2,910 2,203 3,638 8,430 240 30,576 Total commercial gross charge-offs — — — — — 1 2 — 3 Commercial real estate: Construction and land development Pass 115 616 607 219 39 3 571 105 2,275 Special Mention — 5 — — — — — 5 Accruing Substandard — 10 1 — 22 — — — 33 Nonaccrual — — — — — — — — — Total construction and land development 115 626 613 219 61 3 571 105 2,313 Gross charge-offs — — — — — — — — — Term Pass 714 2,723 2,002 1,697 1,026 1,777 191 175 10,305 Special Mention 19 17 — 41 — 5 — — 82 Accruing Substandard 13 44 9 46 26 42 2 — 182 Nonaccrual — — — — 4 12 — — 16 Total term 746 2,784 2,011 1,784 1,056 1,836 193 175 10,585 Gross charge-offs — — — — — — — — — Total commercial real estate 861 3,410 2,624 2,003 1,117 1,839 764 280 12,898 Total commercial real estate gross charge-offs — — — — — — — — — 59 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES March 31, 2023 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2023 2022 2021 2020 2019 Prior Total Consume Home equity credit line Pass — — — — — — 3,167 95 3,262 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 3 — 3 Nonaccrual — — — — — — 9 2 11 Total home equity credit line — — — — — — 3,179 97 3,276 Gross charge-offs — — — — — — — — — 1-4 family residential Pass 381 1,916 1,594 1,034 628 2,103 — — 7,656 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — 2 2 2 5 23 — — 34 Total 1-4 family residential 381 1,918 1,596 1,036 633 2,128 — — 7,692 Gross charge-offs — — — — — 2 — — 2 Construction and other consumer real estate Pass 22 775 440 35 18 9 — — 1,299 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 22 775 440 35 18 9 — — 1,299 Gross charge-offs — — — — — — — — — Bankcard and other revolving plans Pass — — — — — — 455 1 456 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 2 1 3 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 457 2 459 Gross charge-offs — — — — — — 2 — 2 Other consumer Pass 30 54 27 9 7 4 — — 131 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 30 54 27 9 7 4 — — 131 Gross charge-offs — — — — — — — — — Total consumer 433 2,747 2,063 1,080 658 2,141 3,636 99 12,857 Total consumer gross charge-offs — — — — — 2 2 — 4 Total loans $ 2,525 $ 12,854 $ 9,914 $ 5,993 $ 3,978 $ 7,618 $ 12,830 $ 619 $ 56,331 Total gross charge-offs $ — $ — $ — $ — $ — $ 3 $ 4 $ — $ 7 60 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total Commerci Commercial and industrial Pass $ 3,363 $ 1,874 $ 979 $ 876 $ 293 $ 264 $ 8,054 $ 182 $ 15,885 Special Mention 1 2 10 52 1 2 50 — 118 Accruing Substandard 26 7 17 78 30 67 84 2 311 Nonaccrual — 8 5 11 1 2 32 4 63 Total commercial and industrial 3,390 1,891 1,011 1,017 325 335 8,220 188 16,377 Leasing Pass 160 71 47 66 18 19 — — 381 Special Mention — — — — — — — — — Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 160 71 47 66 18 24 — — 386 Owner-occupied Pass 2,157 2,285 1,143 874 654 1,679 187 74 9,053 Special Mention 1 15 5 8 3 16 1 — 49 Accruing Substandard 16 33 48 20 55 64 9 — 245 Nonaccrual 1 1 2 4 5 10 1 — 24 Total owner-occupied 2,175 2,334 1,198 906 717 1,769 198 74 9,371 Municipal Pass 1,230 1,220 816 441 168 437 8 — 4,320 Special Mention 32 6 — — — — — — 38 Accruing Substandard — — — — — 3 — — 3 Nonaccrual — — — — — — — — — Total municipal 1,262 1,226 816 441 168 440 8 — 4,361 Total commercial 6,987 5,522 3,072 2,430 1,228 2,568 8,426 262 30,495 Commercial real estate: Construction and land development Pass 548 671 455 81 2 2 617 96 2,472 Special Mention 1 1 — — — — — — 2 Accruing Substandard 17 — — 22 — — — — 39 Nonaccrual — — — — — — — — — Total construction and land development 566 672 455 103 2 2 617 96 2,513 Term Pass 2,861 2,107 1,686 1,012 666 1,229 276 112 9,949 Special Mention 39 21 11 — 4 1 — — 76 Accruing Substandard 42 2 34 21 53 35 — — 187 Nonaccrual — — — 4 1 9 — — 14 Total term 2,942 2,130 1,731 1,037 724 1,274 276 112 10,226 Total commercial real estate 3,508 2,802 2,186 1,140 726 1,276 893 208 12,739 61 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total Consume Home equity credit line Pass — — — — — — 3,265 98 3,363 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 3 — 3 Nonaccrual — — — — — — 8 3 11 Total home equity credit line — — — — — — 3,276 101 3,377 1-4 family residential Pass 1,913 1,503 1,024 638 381 1,788 — — 7,247 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — 2 2 4 3 26 — — 37 Total 1-4 family residential 1,913 1,505 1,026 642 384 1,816 — — 7,286 Construction and other consumer real estate Pass 583 485 64 19 5 5 — — 1,161 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 583 485 64 19 5 5 — — 1,161 Bankcard and other revolving plans Pass — — — — — — 468 2 470 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 469 2 471 Other consumer Pass 68 30 12 8 4 2 — — 124 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 68 30 12 8 4 2 — — 124 Total consumer 2,564 2,020 1,102 669 393 1,823 3,745 103 12,419 Total loans $ 13,059 $ 10,344 $ 6,360 $ 4,239 $ 2,347 $ 5,667 $ 13,064 $ 573 $ 55,653 Loan Modifications On January 1, 2023, we adopted ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures, which eliminated the recognition and measurement of troubled debt restructurings (“TDRs”) and their related disclosures. As a result, we no longer separately measure an allowance for credit losses for TDRs, relying instead on our credit loss estimation models. The adoption of this guidance had no material impact on our financial statements. ASU 2022-02 requires enhanced disclosures for loan modifications to borrowers experiencing financial difficulty. Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications may also occur when the borrower experiences financial difficulty and needs 62 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES temporary or permanent relief from the original contractual terms of the loan. For loans that have been modified with a borrower experiencing financial difficulty, we use the same credit loss estimation methods that we use for the rest of the loan portfolio. These methods incorporate the post-modification loan terms, as well as defaults and charge-offs associated with historical modified loans. All nonaccruing loans more than $1 million are evaluated individually, regardless of modification. We consider many factors in determining whether to agree to a loan modification and we seek a solution that will both minimize potential loss to us and attempt to help the borrower. We evaluate borrowers’ current and forecasted future cash flows, their ability and willingness to make current contractual or proposed modified payments, the value of the underlying collateral (if applicable), the possibility of obtaining additional security or guarantees, and the potential costs related to a repossession or foreclosure and the subsequent sale of the collateral. A modified loan on nonaccrual will remain on nonaccrual status until the borrower has proven the ability to perform under the modified structure for a minimum of six months, and there is evidence that such payments can and are likely to continue as agreed. Performance prior to the modification, or significant events that coincide with the modification, are included in assessing whether the borrower can meet the new terms and may result in the loan being returned to accrual at the time of modification or after a shorter performance period. If the borrower’s ability to meet the revised payment schedule is uncertain, the loan remains classified as a nonaccrual loan. The amortized cost of loans to borrowers experiencing financial difficulty that were modified during the period, by loan class and modification type, is summarized in the following schedu March 31, 2023 Amortized cost associated with the following modification typ (In millions) Interest rate reduction Maturity or term extension Multiple modification types 1 Total 2 Percentage of total loans 3 Commerci Commercial and industrial $ — $ 36 $ — $ 36 0.2 % Owner-occupied 4 6 — 10 0.1 Total commercial 4 42 — 46 0.2 Commercial real estate: Term — 49 — 49 0.5 Total commercial real estate — 49 — 49 0.4 Consume 1-4 family residential — — 1 1 — Bankcard and other revolving plans — 1 — 1 0.2 Total consumer loans — 1 1 2 — Total $ 4 $ 92 $ 1 $ 97 0.2 % 1 Includes modifications that resulted from a combination of interest rate reduction, maturity or term extension, principal forgiveness, and payment deferral modifications. 2 Unfunded lending commitments related to loans modified to borrowers experiencing financial difficulty totaled $ 8 million at March 31, 2023. 3 Amounts less than 0.05% are rounded to zero. 63 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The financial impact of loan modifications to borrowers experiencing financial difficulty during the three months ended March 31, 2023, is summarized in the following schedu Three Months Ended March 31, 2023 (In millions) Weighted-average interest rate reduction (in percentage points) Weighted-average term extension (in months) Commerci Commercial and industrial — % 10 Owner-occupied 4.4 5 Total commercial 4.4 9 Commercial real estate: Construction and land development — 6 Term — 9 Total commercial real estate — 9 Consume 1 1-4 family residential 1.3 110 Bankcard and other revolving plans — 65 Total consumer loans 1.3 84 Total weighted average financial impact 4.0 % 10 1 Primarily relates to one loan within each consumer loan class. Loan modifications to borrowers experiencing financial difficulty during the three months ended March 31, 2023, did not result in principal forgiveness for any class of loans. The following schedule presents the aging of loans to borrowers experiencing financial difficulty that were modified on or after January 1, 2023 (the date we adopted ASU 2022-02) through March 31, 2023, presented by portfolio segment and loan class. March 31, 2023 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Commerci Commercial and industrial $ 20 $ 16 $ — $ 16 $ 36 Owner-occupied 10 — — — 10 Total commercial 30 16 — 16 46 Commercial real estate: Term 49 — — — 49 Total commercial real estate 49 — — — 49 Consume 1-4 family residential — 1 — 1 1 Bankcard and other revolving plans 1 — — — 1 Total consumer loans 1 1 — 1 2 Total $ 80 $ 17 $ — $ 17 $ 97 Troubled Debt Restructuring Disclosures Prior to Our Adoption of ASU 2022-02 Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are considered TDRs. For further discussion of our policies and processes regarding TDRs, see Note 6 of our 2022 Form 10-K. 64 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Information on TDRs, including the amortized cost on an accruing and nonaccruing basis by loan class and modification type is summarized in the following schedul December 31, 2022 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 1 $ 12 $ — $ — $ 9 $ 28 $ 50 Owner-occupied — 1 — 2 13 12 28 Municipal — — — — — — — Total commercial 1 13 — 2 22 40 78 Commercial real estate: Construction and land development — — — — — 8 8 Term 1 27 — 27 28 1 84 Total commercial real estate 1 27 — 27 28 9 92 Consume Home equity credit line — 1 4 — — 1 6 1-4 family residential 2 1 2 — 1 15 21 Total consumer loans 2 2 6 — 1 16 27 Total accruing 4 42 6 29 51 65 197 Nonaccruing Commerci Commercial and industrial — — — 3 9 3 15 Owner-occupied 4 — — — — 4 8 Total commercial 4 — — 3 9 7 23 Commercial real estate: Term — 10 — — — — 10 Total commercial real estate — 10 — — — — 10 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 1 2 4 Total consumer loans — 1 1 — 1 2 5 Total nonaccruing 4 11 1 3 10 9 38 Total $ 8 $ 53 $ 7 $ 32 $ 61 $ 74 $ 235 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. Unfunded lending commitments on TDRs totaled $ 7 million at December 31, 2022. The total amortized cost of all TDRs in which interest rates were modified below market was $63 million at December 31, 2022. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the year ended December 31, 2022 was not significant. 65 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. The amortized cost of TDRs that had a payment default during the year ended December 31, 2022, which were still in default at period end, and were within 12 months or less of being modified as TDRs was approximately $ 10 million. Collateral-Dependent Loans When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, the observable market price of the loan, or the fair value of the loan’s underlying collateral. Select information on loans for which the borrower is experiencing financial difficulties and repayment is expected to be provided substantially through the operation or sale of the underlying collateral, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: March 31, 2023 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Owner-occupied $ 12 Hospital 30 % Commercial real estate: Term 5 Hotel, Multi-family 64 % Total $ 17 December 31, 2022 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Owner-occupied $ 2 Land, Warehouse 29 % Commercial real estate: Term 1 Multi-family 55 % Consume Home equity credit line 1 Single family residential 13 % 1-4 family residential 3 Single family residential 41 % Total $ 7 1 The fair value is based on the most recent appraisal or other collateral evaluation . Foreclosed Residential Real Estate At March 31, 2023 and December 31, 2022, we did no t have any foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure was $ 5 million and $ 10 million for the same periods, respectively. 66 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives and Accounting Our primary objective for using derivatives is to manage interest rate risk. We use derivatives to stabilize forecasted interest income from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities. We also assist clients with their risk management needs through the use of derivatives. For a more detailed discussion of the use of and accounting policies regarding derivative instruments, see Note 7 of our 2022 Form 10-K. Fair Value Hedges of Liabilities – At March 31, 2023, we had one receive-fixed interest rate swap with a notional amount of $ 500 million designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converts the interest on our fixed-rate debt to floating. Changes in the fair value of derivatives designated as fair value hedges of debt were offset by changes in the fair value of the hedged debt instruments as shown in the schedules below. Fair Value Hedges of Assets – At March 31, 2023, we had pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 1.2 billion designated as fair value hedges of certain AFS securities. These swaps effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. Changes in fair value of derivatives designated as fair value hedges of fixed-rate AFS securities were offset by changes in the value of the hedged securities, as shown in the schedules below. Cash Flow Hedges – At March 31, 2023, we had receive-fixed interest rate swaps with an aggregate notional amount of $ 4.4 billion designated as cash flow hedges of pools of floating-rate commercial loans. During the first quarter of 2023, swaps designated as cash flow hedges with an aggregate notional amount of $ 300 million matured. Additionally, during the first quarter of 2023, we terminated cash flow hedging relationships with an aggregate notional amount of $ 2.9 billion. At March 31, 2023, there was $ 153 million of losses deferred in AOCI related to the terminated cash flow hedges that is expected to be fully amortized by October 2027. Changes in the fair value of qualifying cash flow hedges during the quarter were recorded in AOCI as shown in the schedule below. The amounts deferred in AOCI are reclassified into earnings in the periods in which the hedged interest receipts occur (i.e., when the hedged forecasted transactions affect earnings). Collateral and Credit Risk Exposure to credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred as a result of counterparty nonperformance. For a more detailed discussion of collateral and credit-risk-related to our derivative contracts, see Note 7 of our 2022 Form 10-K. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position at a given balance sheet date. Certain of these derivative contracts contain credit-risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit-risk-related feature were triggered, such as a downgrade of our credit rating. In past situations, not all counterparties have demanded that additional collateral be pledged when provided for by the contractual terms. At March 31, 2023, the fair value of our derivative liabilities was $ 353 million, for which we were required to pledge cash collateral of less than $ 1 million in the normal course of business. If our credit rating were downgraded one notch by either Standard & Poor’s (“S&P”) or Moody’s at March 31, 2023, there would likely be no additional collateral required to be pledged. 67 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Derivative Amounts Certain information with respect to notional amounts and recorded gross fair values at March 31, 2023 and December 31, 2022, and the related gain (loss) of derivative instruments is summarized as follows: March 31, 2023 December 31, 2022 Notional amount Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Receive-fixed interest rate swaps $ 4,433 $ — $ — $ 7,633 $ — $ 1 Fair value hed Debt hed Receive-fixed interest rate swaps 500 — — 500 — — Asset hed Pay-fixed interest rate swaps 1,227 69 — 1,228 84 — Total derivatives designated as hedging instruments 6,160 69 — 9,361 84 1 Derivatives not designated as hedging instruments: Customer interest rate derivatives 1 13,804 295 349 13,670 296 443 Other interest rate derivatives 2,417 1 — 862 — — Foreign exchange derivatives 258 4 4 605 6 7 Total derivatives not designated as hedging instruments 16,479 300 353 15,137 302 450 Total derivatives $ 22,639 $ 369 $ 353 $ 24,498 $ 386 $ 451 1 Customer interest rate derivatives include a net credit valuation adjustment (“CVA”) of $ 9 million, reducing the fair value of the liability at March 31, 2023, and $ 13 million, reducing the fair value of the liability at December 31, 2022. The amount of derivative gains (losses) from cash flow and fair value hedges that was deferred in other comprehensive income (“OCI”) or recognized in earnings for the three months ended March 31, 2023 and 2022 is shown in the schedules below. Three Months Ended March 31, 2023 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — Interest rate swaps 38 ( 49 ) — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 4 Basis amortization on terminated hedges 2, 3 — — — Fair value hedges of assets: Pay-fixed interest rate swaps — — 6 Basis amortization on terminated hedges 3 — — — Total derivatives designated as hedging instruments $ 38 $ ( 49 ) $ 10 68 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Three Months Ended March 31, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 2 $ — Interest rate swaps ( 178 ) 12 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 2 Basis amortization on terminated hedges 2 — — 1 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2 — — — Total derivatives designated as hedging instruments $ ( 178 ) $ 14 $ 2 1 For the 12 months following March 31, 2023, we estimate that $ 156 million of losses will be reclassified from AOCI into interest income, compared with an estimate of $ 205 million of losses as of March 31, 2022. 2 There was no remaining cumulative unamortized basis adjustment for terminated or redesignated fair value hedges of debt at March 31, 2023 and March 31, 2022. There was $ 10 million and $ 7 million of cumulative unamortized basis adjustments from terminated or redesignated fair value hedges of assets at March 31, 2023 and March 31, 2022, respectively. The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) Three Months Ended March 31, 2023 Three Months Ended March 31, 2022 Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives $ 1 $ 13 Other interest rate derivatives 1 1 Foreign exchange derivatives 7 6 Total derivatives not designated as hedging instruments $ 9 $ 20 The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Three Months Ended March 31, 2023 Three Months Ended March 31, 2022 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ 12 $ ( 12 ) $ — $ ( 32 ) $ 32 $ — Assets: Pay-fixed interest rate swaps 1, 2 40 ( 40 ) — 53 ( 53 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt and fixed-rate AFS securities. Gains and losses were recorded in net interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. 69 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) 1 Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged item (In millions) March 31, 2023 December 31, 2022 March 31, 2023 December 31, 2022 March 31, 2023 December 31, 2022 Long-term fixed-rate debt $ ( 500 ) $ ( 500 ) $ ( 447 ) $ ( 435 ) $ 53 $ 65 Fixed-rate AFS securities 1,227 1228 1,001 962 ( 227 ) ( 266 ) 1 Carrying amounts exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 8 . LEASES We have operating and finance leases for branches, corporate offices, and data centers. At March 31, 2023, we had 412 branches, of which 277 are owned and 135 are leased. We lease our headquarters in Salt Lake City, Utah. The remaining maturities of our lease commitments range from the year 2023 to 2062 , and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “ Other assets ,” and “ Premises, equipment and software, net ,” respectively. The corresponding liabilities for those leases are presented in “ Other liabilities ,” and “ Long-term debt .” For more information about our lease policies, see Note 8 of our 2022 Form 10-K. The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate. (Dollar amounts in millions) March 31, 2023 December 31, 2022 Operating leases ROU assets, net of amortization $ 174 $ 173 Lease liabilities 199 198 Finance leases ROU assets, net of amortization 3 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.6 8.4 Finance leases 17.1 17.4 Weighted average discount rate Operating leases 3.0 % 2.9 % Finance leases 3.1 % 3.1 % Additional information related to lease expense is presented in the following schedule. Three Months Ended March 31, (In millions) 2023 2022 Lease expense: Operating lease expense $ 11 $ 12 Other expenses associated with operating leases 1 15 12 Total lease expense $ 26 $ 24 Related cash disbursements from operating leases $ 12 $ 12 1 Other expenses primarily relate to property taxes and building and property maintenance. 70 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the total contractual undiscounted lease payments for operating lease liabilities by expected due date for each of the next five years. (In millions) Total undiscounted lease payments 2023 1 $ 35 2024 39 2025 31 2026 26 2027 17 Thereafter 85 Total $ 233 1 Contractual maturities for the nine months remaining in 2023. We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 3 million for both the first quarter of 2023 and 2022. We originated equipment leases, considered to be sales-type leases or direct financing leases, totaling $ 385 million and $ 386 million at March 31, 2023 and December 31, 2022, respectively. We recorded income of $ 4 million a nd $ 3 million on these leases for the first three months of 2023 and 2022, respectively. 9. LONG-TERM DEBT AND SHAREHOLDERS’ EQUITY Long-Term Debt The long-term debt carrying values in the following schedule represent the par value of the debt, adjusted for any unamortized premium or discount, unamortized debt issuance costs, and basis adjustments for interest rate swaps designated as fair value hedges. LONG-TERM DEBT (In millions) March 31, 2023 December 31, 2022 Subordinated notes 1 $ 531 $ 519 Senior notes 128 128 Finance lease obligations 4 4 Total $ 663 $ 651 1 The change in the subordinated notes balance is primarily due to a fair value hedge accounting adjustment. See also Note 7. Shareholders' Equity Our common stock is traded on the National Association of Securities Dealers Automated Quotations (“NASDAQ”) Global Select Market. At March 31, 2023, there were 148.1 million shares of $ 0.001 par value common stock outstanding. Common stock and additional paid-in capital decreased $ 39 million, or 2 %, to $ 1.7 billion at March 31, 2023, from December 31, 2022, primarily due to common stock repurchases. During the first three months of 2023, we repurchased 0.9 million common shares outstanding for $ 50 million at an average price of $ 52.82 per share. AOCI was $ 2.9 billion at March 31, 2023, and reflects the decline in the fair value of fixed-rate available-for-sale securities as a result of changes in interest rates. The following schedule summarizes the changes in AOCI by component. 71 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) Net unrealized gains/(losses) on investment securities Net unrealized gains/(losses) on derivatives and other Pension and post-retirement Total Three Months Ended March 31, 2023 Balance at December 31, 2022 $ ( 2,800 ) $ ( 311 ) $ ( 1 ) $ ( 3,112 ) OCI before reclassifications, net of tax 126 29 — 155 Amounts reclassified from AOCI, net of tax — 37 — 37 Other comprehensive income 126 66 — 192 Balance at March 31, 2023 $ ( 2,674 ) $ ( 245 ) $ ( 1 ) $ ( 2,920 ) Income tax expense included in OCI $ 41 $ 22 $ — $ 63 Three Months Ended March 31, 2022 Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) OCI (loss) before reclassifications, net of tax ( 1,121 ) ( 135 ) — ( 1,256 ) Amounts reclassified from AOCI, net of tax — ( 10 ) — ( 10 ) Other comprehensive loss ( 1,121 ) ( 145 ) — ( 1,266 ) Balance at March 31, 2022 $ ( 1,199 ) $ ( 145 ) $ ( 2 ) $ ( 1,346 ) Income tax benefit included in OCI (loss) $ ( 363 ) $ ( 47 ) $ — $ ( 410 ) Amounts reclassified from AOCI 1 Statement of income (SI) (In millions) Three Months Ended March 31, Details about AOCI components 2023 2022 Affected line item Net unrealized gains (losses) on derivative instruments $ ( 49 ) $ 14 SI Interest and fees on loans L Income tax expense (benefit) ( 12 ) 4 Amounts reclassified from AOCI $ ( 37 ) $ 10 1 Positive reclassification amounts indicate increases to earnings in the income statement. 10. COMMITMENTS, GUARANTEES, AND CONTINGENT LIABILITIES Commitments and Guarantees The following schedule presents the contractual amounts related to off-balance sheet financial instruments used to meet the financing needs of our customers. (In millions) March 31, 2023 December 31, 2022 Unfunded lending commitments 1 $ 29,907 $ 29,628 Standby letters of cr Financial 633 667 Performance 169 184 Commercial letters of credit 14 11 Mortgage-backed security purchase agreements 2 47 23 Total unfunded commitments $ 30,770 $ 30,513 1 Net of participations. 2 Represents agreements with Farmer Mac to purchase securities backed by certain agricultural mortgage loans. For more information about these commitments and guarantees including their terms and collateral requirements, see Note 16 of our 2022 Form 10-K. 72 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Legal Matters We are involved in various legal proceedings, which may include litigation in court and arbitral proceedings, as well as investigations, examinations, and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. At March 31, 2023, we were subject to the following material litigation or governmental inquiri • Two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the Bank who filed for bankruptcy protection in 2017. The cases are in early phases, with initial motion practice and discovery underway in the Lifescan case. Trial has not been scheduled in either case. • Five civil class action cases have been filed against us by the same plaintiffs’ attorney, seeking to hold the Bank liable for practices relating to, and disclosures in, its deposit agreement pertaining to fees. Four of the five cases have been dismissed, and the following case remains pending and is in early phases of litigati Sipple v. Zions Bancorporation, N.A., brought against us in the District Court of Clark County, Nevada in February 2021 with respect to foreign transaction fees. • Two class action lawsuits, Evans v. CB&T, and Gregory, et. al. v. Zions Bancorporation , were settled in principle in 2022. The settlement in the Evans case was completed in December 2022 and did not have a significant financial impact on the Bank. The parties to the Gregory case sought and obtained final court approval of the settlement on April 24, 2023, with payment to occur in June 2023. This settlement is not expected to have a significant financial impact on the Bank. At least quarterly, we review outstanding and new legal matters, utilizing then available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at March 31, 2023, we estimated that the aggregate range of reasonably possible losses for those matters to be from zero to approximately $ 5 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions 73 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments and actual outcomes will differ from our estimates. These differences may be material. 11. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which represented approximately 80 % of our total revenue in the first quarter of 2023. Only noninterest income is considered to be revenue from contracts with customers in scope of ASC 606. For more information about our revenue recognition from contracts, see Note 17 of our 2022 Form 10-K. Disaggregation of Revenue The schedule below presents net revenue by our operating business segments for the three months ended March 31, 2023 and 2022. 74 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 14 $ 15 $ 7 $ 7 $ 14 $ 11 Card fees 13 13 5 5 8 8 Retail and business banking fees 5 6 3 3 3 4 Capital markets fees — — — — — — Wealth management fees 6 6 1 1 4 4 Other customer-related fees 2 2 1 1 2 1 Total noninterest income from contracts with customers (ASC 606) 40 42 17 17 31 28 Other noninterest income (non-ASC 606 customer-related) 7 4 5 6 8 9 Total customer-related noninterest income 47 46 22 23 39 37 Other noncustomer-related noninterest income 3 — 2 1 2 — Total noninterest income 50 46 24 24 41 37 Net interest income 185 157 160 129 124 112 Total net revenue $ 235 $ 203 $ 184 $ 153 $ 165 $ 149 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 2 $ 2 $ 3 $ 3 $ 2 $ 2 Card fees 4 4 4 3 2 2 Retail and business banking fees 2 2 3 3 1 1 Capital markets fees — — — — — — Wealth management fees 1 1 1 1 — — Other customer-related fees — — — — 1 1 Total noninterest income from contracts with customers (ASC 606) 9 9 11 10 6 6 Other noninterest income (non-ASC 606 customer-related) 1 1 — 2 1 2 Total customer-related noninterest income 10 10 11 12 7 8 Other noncustomer-related noninterest income — 1 — — — — Total noninterest income 10 11 11 12 7 8 Net interest income 64 51 51 37 41 33 Total net revenue $ 74 $ 62 $ 62 $ 49 $ 48 $ 41 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 1 $ 1 $ — $ — $ 43 $ 41 Card fees 1 — ( 1 ) 1 36 36 Retail and business banking fees — — ( 1 ) — 16 19 Capital markets fees — — 1 1 1 1 Wealth management fees — — — — 13 13 Other customer-related fees — — 9 9 15 14 Total noninterest income from contracts with customers (ASC 606) 2 1 8 11 124 124 Other noninterest income (non-ASC 606 customer-related) — — 5 3 27 27 Total customer-related noninterest income 2 1 13 14 151 151 Other noncustomer-related noninterest income — — 2 ( 11 ) 9 ( 9 ) Total noninterest income 2 1 15 3 160 142 Net interest income 16 14 38 11 679 544 Total net revenue $ 18 $ 15 $ 53 $ 14 $ 839 $ 686 Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is generally not significant. 75 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 12. INCOME TAXES The effective income tax rate was 27.7 % for the first quarter of 2023, compared with 20.4 % for the first quarter of 2022. The tax rates during both periods were reduced by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the non-deductibility of Federal Deposit Insurance Corporation (“FDIC”) premiums, certain executive compensation plans, and other fringe benefits. The tax rate for the first quarter of 2023 was higher relative to the same prior year period, primarily as a result of a discrete item that affected the reserve for uncertain tax positions during the current quarter. Discrete items accounted for a four percentage point increase to the effective tax rate during the first quarter of 2023, compared with a two percentage point decrease in the prior year quarter. At both March 31, 2023 and December 31, 2022, we had a net deferred tax asset (“DTA”) totaling $ 1.1 billion. On the consolidated balance sheet, the net DTA is included in “Other assets.” We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more-likely-than-not criteria that such assets will be realized. This evaluation includes, but is not limited to, the followin • Future reversals of existing deferred tax liabilities (“DTLs”) — These DTLs have a reversal pattern generally consistent with DTAs, and are used to realize the DTAs. • Tax planning strategies — We have considered prudent and feasible tax planning strategies that we would implement to preserve the value of the DTAs, if necessary. • Future projected taxable income — We expect future taxable income will offset the reversal of remaining net DTAs. Based on this evaluation, we concluded that a valuation allowance was not required at both March 31, 2023 and December 31, 2022. 13. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: Three Months Ended March 31, (In millions, except shares and per share amounts) 2023 2022 Basic: Net income $ 204 $ 203 Less common and preferred dividends 67 66 Undistributed earnings 137 137 Less undistributed earnings applicable to nonvested shares 1 1 Undistributed earnings applicable to common shares 136 136 Distributed earnings applicable to common shares 61 57 Total earnings applicable to common shares $ 197 $ 193 Weighted average common shares outstanding (in thousands) 148,015 151,285 Net earnings per common share $ 1.33 $ 1.27 Dilut Total earnings applicable to common shares $ 197 $ 193 Weighted average common shares outstanding (in thousands) 148,015 151,285 Dilutive effect of stock options (in thousands) 23 402 Weighted average diluted common shares outstanding (in thousands) 148,038 151,687 Net earnings per common share $ 1.33 $ 1.27 76 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per sh Three Months Ended March 31, (In thousands) 2023 2022 Restricted stock and restricted stock units 1,334 1,339 Stock options 1,230 109 14. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, California Bank & Trust, Amegy Bank, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. Our affiliate banks are supported by an enterprise operating segment (referred to as the “Other” segment) that provides governance and risk management, allocates capital, establishes strategic objectives, and includes centralized technology, back-office functions, and certain lines of business not operated through our affiliate banks. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal funds transfer pricing (“FTP”) allocation process to report results of operations for business segments. This process is subject to change and refinement over time. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. At March 31, 2023, Zions Bank operated 95 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. CB&T operated 77 branches in California. Amegy operated 75 branches in Texas. NBAZ operated 56 branches in Arizona. NSB operated 46 branches in Nevada. Vectra operated 33 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. 77 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the three months ended March 31, 2023 and 2022: Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 185 $ 157 $ 160 $ 129 $ 124 $ 112 Provision for credit losses 24 ( 2 ) — 6 11 ( 27 ) Net interest income after provision for credit losses 161 159 160 123 113 139 Noninterest income 50 46 24 24 41 37 Noninterest expense 135 123 92 84 98 86 Income (loss) before income taxes $ 76 $ 82 $ 92 $ 63 $ 56 $ 90 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 13,978 $ 12,817 $ 14,016 $ 12,845 $ 12,844 $ 11,795 Total average deposits 20,953 26,120 14,644 16,468 13,287 16,413 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 64 $ 51 $ 51 $ 37 $ 41 $ 33 Provision for credit losses ( 1 ) ( 4 ) 4 ( 3 ) 3 ( 4 ) Net interest income after provision for credit losses 65 55 47 40 38 37 Noninterest income 10 11 11 12 7 8 Noninterest expense 47 40 41 37 33 30 Income (loss) before income taxes $ 28 $ 26 $ 17 $ 15 $ 12 $ 15 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 5,150 $ 4,774 $ 3,327 $ 2,817 $ 3,983 $ 3,398 Total average deposits 7,179 7,953 6,972 7,437 3,707 4,298 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 16 $ 14 $ 38 $ 11 $ 679 $ 544 Provision for credit losses 2 — 2 1 45 ( 33 ) Net interest income after provision for credit losses 14 14 36 10 634 577 Noninterest income 2 1 15 3 160 142 Noninterest expense 6 6 60 58 512 464 Income (loss) before income taxes $ 10 $ 9 $ ( 9 ) $ ( 45 ) $ 282 $ 255 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,711 $ 1,591 $ 1,144 $ 896 $ 56,153 $ 50,933 Total average deposits 1,383 1,581 2,031 1,335 70,156 81,605 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Our most significant risks include interest rate and market risk, which are closely monitored by management as previously discussed. For more information regarding interest rate and market risk, see the “Interest Rate and Market Risk Management” section in this Form 10-Q. 78 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 4. CONTROLS AND PROCEDURES Our management, including our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures at March 31, 2023. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at March 31, 2023. There were no changes in our internal control over financial reporting during the first quarter of 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The information contained in Note 10 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 1A. RISK FACTORS We amend the following two risk factors discussed in Part I, Item 1A. Risk Factors in our 2022 Form 10-K: Changes in levels and sources of liquidity and capital, including the resulting effects of recent events in the banking industry, may limit our operations and potential growth. Our primary source of liquidity is deposits from our customers, which may be impacted by market-related forces such as increased competition for these deposits and a variety of other factors. Deposits across the banking industry have been declining in recent quarters in large part due to the increased interest rate environment following the collapse of Silicon Valley Bank and Signature Bank. We, like many other banks, experienced some deposit outflows as customers spread deposits among several different banks to maximize their amount of FDIC insurance, moved deposits to banks deemed “too big to fail,” or removed deposits from the U.S. financial system entirely. Customers with uninsured deposits may be more likely to withdraw funds, particularly if there is negative news surrounding us or perceived risks regarding our safety and soundness. If we are unable to continue to fund assets through customer bank deposits or access funding sources on favorable terms, or if we suffer an increase in borrowing costs or otherwise fail to manage liquidity effectively, our liquidity, operating margins, financial condition and results of operations may be materially and adversely affected. The Federal Reserve's tightened monetary policy may contribute to a decline in the value of our fixed-rate loans and investment securities that are pledged as collateral to support short-term borrowings, and other economic conditions may also affect our liquidity and efforts to manage associated risks. The FHLB system and Federal Reserve have been, and continue to be, a significant source of additional liquidity and funding. Changes in FHLB funding programs could adversely affect our liquidity and management of associated risks. Problems encountered by other financial institutions could adversely affect financial markets generally and have indirect adverse effects on us. The soundness and stability of many financial institutions may be closely interrelated as a result of credit, trading, clearing, or other relationships between the institutions. As a result, concerns about, or a default or threatened default by, one institution could lead to significant market-wide liquidity and credit problems, losses or defaults by other institutions. This is sometimes referred to as “systemic risk” and may adversely affect financial intermediaries, such as clearing agencies, clearing houses, banks, securities firms, and exchanges, with which we interact on a daily basis, and therefore, could adversely affect us. This phenomenon has been evident in the recent events affecting the banking industry, as financial institutions, like us, have been impacted by concerns regarding the soundness or creditworthiness of other financial institutions. This has caused substantial and cascading disruption within the financial markets, increased expenses, and adversely impacted the market price and volatility of our common stock. 79 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following risk factor supplements the risk factors discussed in Part I, Item 1A. Risk Factors in our 2022 Form 10-K: The debt ceiling political battle in Washington D.C. may introduce additional volatility in the U.S. economy including capital and credit markets and the banking industry in particular. The U.S. government is expected to hit its debt ceiling in June 2023, and currently, the Biden administration and the Republican-controlled House of Representatives are at a stalemate. Protracted negotiations concerning the debt ceiling, the government’s failure or expected failure to raise the ceiling, or the possibility of a government shutdown, including the risk of a U.S. credit rating downgrade or default, may introduce additional volatility in the U.S. economy, including capital and credit markets and the banking industry in particular. This may cause disruptions in the financial markets, impact interest rates, and result in other potential unforeseen consequences. In such an event, our liquidity, operating margins, financial condition and results of operations may be materially and adversely affected. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS The following schedule summarizes our share repurchases for the first quarter of 2023: SHARE REPURCHASES Period Total number of shares repurchased 1 Average price paid per share Total number of shares purchased as part of publicly announced plans or programs January 338 $ 51.63 — February 952,742 52.82 946,644 March — — — First quarter 2023 953,080 52.82 946,644 1 Includes common shares acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options under provisions of an employee share-based compensation plan . 80 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 6. EXHIBITS a. Exhibits Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 10.1 Zions Bancorporation 2023-2025 Value Sharing Plan (filed herewith). 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in Inline XBRL (i) the Consolidated Balance Sheets as of March 31, 2023 and December 31, 2022, (ii) the Consolidated Statements of Income for the three months ended March 31, 2023 and March 31, 2022, (iii) the Consolidated Statements of Comprehensive Income for the three months ended March 31, 2023 and March 31, 2022, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the three months ended March 31, 2023 and March 31, 2022, (v) the Consolidated Statements of Cash Flows for the three months ended March 31, 2023 and March 31, 2022, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Quarterly Report on Form 10-Q, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. 81 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZIONS BANCORPORATION, NATIONAL ASSOCIATION /s/ Harris H. Simmons Harris H. Simmons, Chairman and Chief Executive Officer /s/ Paul E. Burdiss Paul E. Burdiss, Executive Vice President and Chief Financial Officer Date: May 5, 2023 82 |
Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) 38 Consolidated Balance Sheets 38 Consolidated Statements of Income 39 Consolidated Statements of Comprehensive Income (Loss) 40 Consolidated Statements of Changes in Shareholders’ Equity 40 Consolidated Statements of Cash Flows 42 Notes to Consolidated Financial Statements 43 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 4 Item 3. Quantitative and Qualitative Disclosures About Market Risk 83 Item 4. Controls and Procedures 84 PART II. OTHER INFORMATION Item 1. Legal Proceedings 84 Item 1A. Risk Factors 84 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 85 Item 6. Exhibits 85 Signatures 86 2 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses IPO Initial Public Offering AFS Available-for-Sale LIBOR London Interbank Offered Rate ALLL Allowance for Loan and Lease Losses LIHTC Low-income Housing Tax Credit Amegy Amegy Bank, a division of Zions Bancorporation, National Association Municipalities State and Local Governments AOCI Accumulated Other Comprehensive Income or Loss NAICS North American Industry Classification System ASC Accounting Standards Codification NASDAQ National Association of Securities Dealers Automated Quotations ASU Accounting Standards Update NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association BOLI Bank-Owned Life Insurance NIM Net Interest Margin bps Basis Points NM Not Meaningful BTFP Bank Term Funding Program NSB Nevada State Bank, a division of Zions Bancorporation, National Association CB&T California Bank & Trust, a division of Zions Bancorporation, National Association OCC Office of the Comptroller of the Currency CECL Current Expected Credit Loss OCI Other Comprehensive Income or Loss CLTV Combined Loan-to-Value Ratio OREO Other Real Estate Owned CRE Commercial Real Estate PAM Proportional Amortization Method CVA Credit Valuation Adjustment PEI Private Equity Investment DTA Deferred Tax Asset PPNR Pre-provision Net Revenue DTL Deferred Tax Liability PPP Paycheck Protection Program EaR Earnings at Risk ROU Right-of-Use EPS Earnings per Share RULC Reserve for Unfunded Lending Commitments EVE Economic Value of Equity S&P Standard & Poor's FASB Financial Accounting Standards Board SBA U.S. Small Business Administration FDIC Federal Deposit Insurance Corporation SBIC Small Business Investment Company FHLB Federal Home Loan Bank SEC Securities and Exchange Commission FICO Fair Isaac Corporation SOFR Secured Overnight Financing Rate FRB Federal Reserve Board TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association FTP Funds Transfer Pricing TDR Troubled Debt Restructuring GAAP Generally Accepted Accounting Principles U.S. United States GCF General Collateral Funding Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association HECL Home Equity Credit Line Zions Bank Zions Bank, a division of Zions Bancorporation, National Association HTM Held-to-Maturity 3 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES PART I. FINANCIAL INFORMATION ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING INFORMATION This quarterly report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • Statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • Statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. Forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although the following list is not comprehensive, important factors that may cause material differences inclu • The quality and composition of our loan and securities portfolios and the quality and composition of our deposits; • Changes in general industry, political and economic conditions, including continued elevated inflation, economic slowdown or recession, or other economic disruptions; changes in interest and reference rates which could adversely affect our revenue and expenses, the value of assets and obligations, and the availability and cost of capital and liquidity; deterioration in economic conditions that may result in increased loan and leases losses; • Securities and capital markets behavior, including volatility and changes in market liquidity and our ability to raise capital; • The impact of bank failures or adverse developments at other banks on general investor sentiment regarding the stability and liquidity of banks; adverse media and other expressions of negative public opinion whether directed at us, other banks, the banking industry generally, or otherwise that may adversely affect our reputation and that of the banking industry; • The possibility that our recorded goodwill could become impaired, which may have an adverse impact on our earnings; • Our ability to recruit and retain talent, including increased competition for qualified candidates as a result of expanded remote-work opportunities and increased compensation expenses; • Competitive pressures and other factors that may affect aspects of our business, such as pricing and demand for our products and services, including the impact of digital commerce and artificial intelligence; • Our ability to complete projects and initiatives and execute on our strategic plans, manage our risks, and achieve our business objectives; • Our ability to provide adequate oversight of our suppliers or prevent inadequate performance by third parties upon whom we rely for the delivery of various products and services; • Our ability to develop and maintain technology, information security systems and controls designed to guard against fraud, cybersecurity, and privacy risks; 4 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES • Changes and uncertainties in applicable laws, and fiscal, monetary, regulatory, trade, and tax policies, and actions taken by governments, agencies, central banks, and similar organizations, including increases in bank fees, insurance assessments, capital standards, and other regulatory requirements; • The effects of pandemics and other health emergencies that may affect our business, employees, customers, and communities; • The effects of wars and geopolitical conflicts, and other local, national, or international disasters, crises, or conflicts that may occur in the future; • Natural disasters that may impact our and our customer's operations and business; and • Governmental and social responses to environmental, social, and governance issues, including those with respect to climate change. We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any forward-looking statements to reflect future events or developments. RECENT DEVELOPMENTS Beginning in the first quarter of 2023 and continuing into the second quarter, the banking industry, particularly regional banks, experienced weakness in bank valuations and a significant withdrawal of predominately uninsured deposits. As a result, several regional banks were closed and placed into receivership with the Federal Deposit Insurance Corporation (“FDIC”). The root causes of the bank closures generally related to weaknesses in liquidity risk, interest rate risk, and capital management. During the second quarter of 2023, we managed the associated risks through the following actio • Generated deposit growth through a combination of competitive interest rates and expanded utilization of reciprocal and brokered deposit programs; • Increased total available liquidity sources, which far exceed our level of uninsured deposits; • Actively managed our interest rate and market risk exposures through a rebalancing of our accounting hedges for both fixed-rate available-for-sale (“AFS”) securities and variable-rate commercial loans; and • Further strengthened our regulatory capital position through increased retained earnings. RESULTS OF OPERATIONS Comparisons noted below are calculated for the current quarter compared with the same prior-year period unless otherwise specified. Growth rates of 100% or more are considered not meaningful (“NM”) as they generally reflect a low starting point. Executive Summary Our financial results in the second quarter of 2023 reflected solid sequential customer deposit growth and continued strong credit quality. Diluted earnings per share (“EPS”) was $1.11, compared with $1.29 in the second quarter of 2022, as an increase in noninterest income was offset by higher noninterest expense and provision for credit losses. Net interest income remained relatively stable at $591 million, compared with the prior year quarter, as higher earning asset yields were offset by an increase in interest paid on deposits and short-term borrowings. Net interest income was also impacted by a reduction in interest-earning assets and a significant increase in interest-bearing liabilities. The net interest margin (“NIM”) was 2.92%, compared with 2.87%. The provision for credit losses was $46 million, compared with a $41 million provision in the prior year period, reflecting deterioration in economic forecasts. Total customer-related noninterest income increased $8 million, or 5%, compared with the prior year period. The increase was driven primarily by improved commercial account activity, including treasury management fees, as well as loan syndication, swaps, and other capital markets income. Total noninterest income increased $17 million, or 10%, primarily due to a $13 million gain on the sale of a bank-owned property. 5 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Total noninterest expense increased $44 million, or 9%, relative to the prior year quarter, driven largely by an increase in salaries and benefits expense of $17 million, or 6%, primarily due to $13 million in severance expense during the current quarter. Our efficiency ratio was 62.5%, compared with 60.7%, as growth in adjusted noninterest expense outpaced growth in adjusted taxable-equivalent revenue. Average interest-earning assets decreased $1.5 billion, or 2%, from the prior year quarter, driven by declines of $4.5 billion and $2.0 billion in average securities and average money market investments, respectively, and partially offset by an increase of $4.9 billion in average loans and leases. Average interest-bearing liabilities increased $11.2 billion, or 27%, from the prior year quarter, driven by increases of $7.5 billion and $3.7 billion in average short-term borrowings and average federal funds purchased and security repurchase agreements, respectively. Total loans and leases increased $4.5 billion, or 9%, to $56.9 billion. The increase was primarily in the consumer 1-4 family residential mortgage, commercial and industrial, commercial real estate term, and consumer construction loan portfolios. Nonperforming assets decreased $37 million, or 18%, and classified loans decreased $241 million, or 24%. Net loan and lease charge-offs totaled $13 million, compared with $9 million, in the prior year quarter. Total deposits decreased $4.7 billion, or 6%, from the prior year quarter, mainly due to decreases in larger-balance and more rate-sensitive deposits during the first quarter of 2023. Total deposits increased $5.1 billion, or 7%, from March 31, 2023, due to increases of $3.1 billion and $2.0 billion in brokered and customer deposits, respectively. At June 30, 2023, total customer deposits included approximately $3.4 billion from reciprocal placement products. Borrowed funds, consisting primarily of secured borrowings from the Federal Home Loan Bank (“FHLB”), increased $4.4 billion from the prior year quarter in response to loan growth and the decline in noninterest-bearing deposits. Second Quarter 2023 Financial Performance Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency Ratio Net earnings applicable to common shareholders decreased from the second quarter of 2022, primarily due to an increase in noninterest expense, driven largely by severance and higher FDIC insurance costs. This increase was partially offset by growth in noninterest income. The decrease from the first quarter of 2023 reflected a decrease in interest-earning assets, an increase in interest-bearing liabilities, and an increase in associated funding costs. Diluted earnings per share declined from the second quarter of 2022 primarily as a result of decreased net earnings applicable to common shareholders. Adjusted pre-provision net revenue (“PPNR”) decreased from the second quarter of 2022, primarily due to higher adjusted noninterest expense, which was driven largely by higher FDIC insurance costs. This increase was largely offset by higher adjusted taxable-equivalent revenue. The efficiency ratio increased from the prior year quarter, as growth in adjusted noninterest expense exceeded growth in adjusted taxable-equivalent revenue. 6 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Net Interest Income and Net Interest Margin NET INTEREST INCOME AND NET INTEREST MARGIN Three Months Ended June 30, Amount change Percent change Six Months Ended June 30, Amount change Percent change (Dollar amounts in millions) 2023 2022 2023 2022 Interest and fees on loans 1 $ 791 $ 468 $ 323 69 % $ 1,517 $ 905 $ 612 68 % Interest on money market investments 48 12 36 NM 105 18 87 NM Interest on securities 138 128 10 8 275 240 35 15 Total interest income 977 608 369 61 1,897 1,163 734 63 Interest on deposits 220 7 213 NM 302 13 289 NM Interest on short- and long-term borrowings 166 8 158 NM 325 13 312 NM Total interest expense 386 15 371 NM 627 26 601 NM Net interest income $ 591 $ 593 $ (2) — % $ 1,270 $ 1,137 $ 133 12 % Average interest-earning assets $ 82,500 $ 84,041 $ (1,541) (2) % $ 83,161 $ 85,061 $ (1,900) (2) % Average interest-bearing liabilities $ 52,453 $ 41,234 $ 11,219 27 % $ 50,742 $ 41,683 $ 9,059 22 % bps bps Yield on interest-earning assets 2 4.81 % 2.94 % 187 4.65 % 2.80 % 185 Rate paid on total deposits and interest-bearing liabilities 2 1.88 % 0.07 % 181 1.54 % 0.06 % 148 Cost of total deposits 2 1.27 % 0.03 % 124 0.87 % 0.03 % 84 Net interest margin 2 2.92 % 2.87 % 5 3.13 % 2.73 % 40 1 Includes interest income recoveries of $2 million and $4 million for the three months ended, and $4 million and $6 million for the six months ended June 30, 2023, and 2022, respectively. 2 Rates are calculated using amounts in thousands; taxable-equivalent rates are used where applicable. Net interest income accounted for approximately 76% of our net revenue (net interest income plus noninterest income) for the current quarter and remained relatively stable compared with the prior year quarter, as higher earning asset yields were offset by an increase in interest paid on deposits and short-term borrowings. Net interest income was also impacted by a reduction in interest-earning assets and a significant increase in interest-bearing liabilities. Average interest-earning assets decreased $1.5 billion, or 2%, from the prior year quarter, driven by declines of $4.5 billion and $2.0 billion in average securities and average money market investments, respectively, and was partially offset by an increase of $4.9 billion in average loans and leases. The decline in average securities was primarily due to payments and maturities. Average interest-bearing liabilities increased $11.2 billion, or 27%, from the prior year quarter, driven by increases of $7.5 billion and $3.7 billion in average short-term borrowings and average federal funds purchased and security repurchase agreements, respectively. The increase in borrowed funds helped to balance loan growth and the decline in noninterest-bearing deposits. The NIM was 2.92%, compared with 2.87%. The yield on average interest-earning assets was 4.81% in the second quarter of 2023, an increase of 187 basis points (“bps”), reflecting higher interest rates and a favorable mix change from money market investments to loans. The yield on average loans increased 198 basis points to 5.65%, and the yield on average securities increased 59 basis points to 2.56%. The yield on average securities benefited from a decrease in the market value of AFS securities due to rising interest rates. The rate paid on average interest-bearing liabilities increased to 2.95%, compared with 0.14%, reflecting the higher interest rate environment, competitive pricing, and increased borrowed funds. 7 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Average loans and leases increased $4.9 billion, or 9%, to $56.7 billion, mainly due to growth in average consumer and commercial loans. The yield on total loans increased 198 basis points to 5.65%, reflecting the higher interest rate environment. Average securities decreased $4.5 billion, or 17%, to $22.0 billion, primarily due to approximately $3.6 billion in principal reductions. During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the held-to-maturity (“HTM”) category to reflect our intent for these securities. 8 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Average deposits decreased $11.2 billion, or 14%, to $69.7 billion at an average cost of 1.27%, from $80.9 billion at an average cost of 0.03% in the second quarter of 2022. Average noninterest-bearing deposits as a percentage of total deposits were 43%, compared with 51% during the same prior year period. The decrease in average deposits was driven by a decline in average noninterest-bearing deposits as interest rates increased. In recent years, particularly during the COVID-19 pandemic, we experienced a significant influx of deposits, which was impacted by considerable fiscal and monetary policy decisions. During the prior year, with the withdrawal of stimulus by the federal government, our deposits began to decline to more normalized levels. This trend accelerated with prominent bank failures during the first quarter of 2023 and abated during the second quarter of 2023, with period-end deposits increasing meaningfully from March 31, 2023 to June 30, 2023. Total deposits have remained above pre-pandemic (December 31, 2019) levels during 2023. Average borrowed funds, consisting primarily of secured borrowings from the FHLB, increased $11.2 billion from the prior year quarter in response to loan growth and the decline in noninterest-bearing deposits. For more information on our investments securities portfolio and borrowed funds and how we manage liquidity risk, refer to the “Investment Securities Portfolio” section on page 16 and the “Liquidity Risk Management” section on page 31. For further discussion of the effects of market rates on net interest income and how we manage interest rate risk, refer to the “Interest Rate and Market Risk Management” section on page 27. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 9 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED AVERAGE BALANCE SHEETS, YIELDS AND RATES (Unaudited) Three Months Ended June 30, 2023 Three Months Ended June 30, 2022 (Dollar amounts in millions) Average balance Amount of interest 1 Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 2,899 $ 37 5.08 % $ 3,113 $ 5 0.66 % Federal funds sold and securities purchased under agreements to resell 784 11 5.65 2,542 7 1.13 Total money market investments 3,683 48 5.20 5,655 12 0.87 Securiti Held-to-maturity 10,833 60 2.24 485 4 2.96 Available-for-sale 2 11,180 80 2.85 25,722 123 1.91 Trading 52 1 4.78 357 4 5.07 Total securities 22,065 141 2.56 26,564 131 1.97 Loans held for sale 73 1 7.08 38 — 0.72 Loans and leases Commercial 30,650 417 5.46 28,952 275 3.81 Commercial real estate 12,933 225 6.97 12,098 112 3.69 Consumer 13,096 156 4.80 10,734 87 3.24 Total loans and leases 56,679 798 5.65 51,784 474 3.67 Total interest-earning assets 82,500 988 4.81 84,041 617 2.94 Cash and due from banks 653 617 Allowance for credit losses on loans and debt securities (619) (480) Goodwill and intangibles 1,063 1,015 Other assets 5,524 4,712 Total assets $ 89,121 $ 89,905 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 30,325 $ 113 1.49 % $ 38,325 $ 6 0.06 % Time 9,494 107 4.55 1,488 1 0.24 Total interest-bearing deposits 39,819 220 2.22 39,813 7 0.07 Borrowed funds: Federal funds and security repurchase agreements 4,423 57 5.11 737 1 0.70 Other short-term borrowings 7,575 100 5.28 6 — — Long-term debt 636 9 5.97 678 7 3.79 Total borrowed funds 12,634 166 5.26 1,421 8 2.17 Total interest-bearing liabilities 52,453 386 2.95 41,234 15 0.14 Noninterest-bearing demand deposits 29,830 41,074 Other liabilities 1,580 1,575 Total liabilities 83,863 83,883 Shareholders’ equity: Preferred equity 440 440 Common equity 4,818 5,582 Total shareholders’ equity 5,258 6,022 Total liabilities and shareholders’ equity $ 89,121 $ 89,905 Spread on average interest-bearing funds 1.86 % 2.80 % Net impact of noninterest-bearing sources of funds 1.06 % 0.07 % Net interest margin $ 602 2.92 % $ 602 2.87 % Me total cost of deposits 1.27 % 0.03 % Me total deposits and interest-bearing liabilities $ 82,283 386 1.88 % $ 82,308 15 0.07 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. 2 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 10 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2023 Six Months Ended June 30, 2022 (Dollar amounts in millions) Average balance Amount of interest 1 Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 2,771 $ 68 4.98 % $ 4,914 $ 8 0.34 % Federal funds sold and securities purchased under agreements to resell 1,428 37 5.19 2,422 10 0.84 Total money market investments 4,199 105 5.05 7,336 18 0.50 Securiti Held-to-maturity 10,928 122 2.26 462 7 3.04 Available-for-sale 2 11,500 156 2.73 25,485 229 1.81 Trading 78 1 2.14 370 9 4.91 Total securities 22,506 279 2.50 26,317 245 1.88 Loans held for sale 39 1 6.67 48 — 1.44 Loans and leases Commercial 30,664 798 5.25 28,725 535 3.76 Commercial real estate 12,904 434 6.78 12,134 213 3.53 Consumer 12,849 300 4.71 10,501 169 3.24 Total loans and leases 56,417 1,532 5.48 51,360 917 3.60 Total interest-earning assets 83,161 1,917 4.65 85,061 1,180 2.80 Cash and due from banks 598 621 Allowance for credit losses on loans and debt securities (597) (497) Goodwill and intangibles 1,064 1,015 Other assets 5,574 4,463 Total assets $ 89,800 $ 90,663 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 31,585 $ 175 1.12 % $ 38,726 $ 11 0.05 % Time 6,232 127 4.11 1,538 2 0.25 Total interest-bearing deposits 37,817 302 1.61 40,264 13 0.06 Borrowed funds: Federal funds and security repurchase agreements 5,015 121 4.85 661 1 0.43 Other short-term borrowings 7,266 184 5.09 8 — — Long-term debt 644 20 6.42 750 12 3.17 Total borrowed funds 12,925 325 5.07 1,419 13 1.88 Total interest-bearing liabilities 50,742 627 2.49 41,683 26 0.12 Noninterest-bearing demand deposits 32,084 40,980 Other liabilities 1,817 1,422 Total liabilities 84,643 84,085 Shareholders’ equity: Preferred equity 440 440 Common equity 4,717 6,138 Total shareholders’ equity 5,157 6,578 Total liabilities and shareholders’ equity $ 89,800 $ 90,663 Spread on average interest-bearing funds 2.16 % 2.68 % Net impact of noninterest-bearing sources of funds 0.97 % 0.05 % Net interest margin $ 1,290 3.13 % $ 1,154 2.73 % Me total cost of deposits 0.87 % 0.03 % Me total deposits and interest-bearing liabilities $ 82,826 627 1.54 % $ 82,663 26 0.06 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. 2 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 11 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans and is recorded in investment securities on the consolidated balance sheet. The provision for credit losses, which is the combination of both the provision for loan and lease losses and the provision for unfunded lending commitments, was $46 million, compared with $41 million in the second quarter of 2022. The ACL was $711 million at June 30, 2023, compared with $546 million at June 30, 2022. The increase in the ACL was primarily due to deterioration in economic forecasts. The ratio of ACL to total loans and leases was 1.25% and 1.04% at June 30, 2023 and 2022, respectively. The provision for securities losses was less than $1 million during the second quarter of 2023 and 2022. 12 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The bar chart above illustrates the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic forecasts and current economic conditions, which increased the ACL by $149 million from the prior year quarter. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, increased the ACL by $3 million, reflecting relatively stable credit quality. Nonperforming assets decreased $37 million, or 18%, and classified loans decreased $241 million, or 24%. Net loan and lease charge-offs totaled $13 million, or 0.09% annualized of average loans, compared with net charge-offs of $9 million, or 0.07% annualized of average loans in the prior year quarter. The fourth bar represents loan portfolio changes, driven primarily by loan growth, as well as changes in portfolio mix, the aging of the portfolio, and other risk factors; all of which resulted in a $13 million increase in the ACL. See “Credit Risk Management” on page 20 and Note 6 in our 2022 Form 10-K for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue earned from products and services that generally have no associated interest rate or yield and is classified as either customer-related or noncustomer-related. Customer-related noninterest income excludes items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income increased $17 million, or 10%, relative to the prior year. Noninterest income accounted for approximately 24% and 22% of our net revenue during the second quarter of 2023 and 2022, respectively. The following schedule presents a comparison of the major components of noninterest income. NONINTEREST INCOME Three Months Ended June 30, Amount change Percent change Six Months Ended June 30, Amount change Percent change (Dollar amounts in millions) 2023 2022 2023 2022 Commercial account fees $ 45 $ 37 $ 8 22 % $ 88 $ 78 $ 10 13 % Card fees 25 25 — — 49 50 (1) (2) Retail and business banking fees 16 20 (4) (20) 32 40 (8) (20) Loan-related fees and income 19 21 (2) (10) 40 43 (3) (7) Capital markets fees 27 21 6 29 44 36 8 22 Wealth management fees 14 13 1 8 29 27 2 7 Other customer-related fees 16 17 (1) (6) 31 31 — — Customer-related noninterest income 162 154 8 5 313 305 8 3 Fair value and nonhedge derivative income 1 10 (9) (90) (2) 16 (18) NM Dividends and other income (loss) 26 7 19 NM 37 9 28 NM Securities gains (losses), net — 1 (1) NM 1 (16) 17 NM Noncustomer-related noninterest income 27 18 9 50 36 9 27 NM Total noninterest income $ 189 $ 172 $ 17 10 % $ 349 $ 314 $ 35 11 % Customer-related Noninterest Income Total customer-related noninterest income increased $8 million, or 5%, compared with the prior year period. The increase was driven primarily by improved commercial account activity, including treasury management fees, as well as loan syndication, swaps, and other capital markets income. Retail and business banking fees decreased largely as a result of a change in our overdraft and non-sufficient funds practices effected during the third quarter of 2022. 13 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Noncustomer-related Noninterest Income Total noncustomer-related noninterest income increased $9 million from the prior year quarter. Dividends and other income increased $19 million, primarily due to a $13 million gain on the sale of a bank-owned property, as well as an increase in dividends on FHLB stock. These increases were offset by a $9 million decrease in fair value and nonhedge derivative income, primarily due to a $10 million credit valuation adjustment (“CVA”) gain in the prior year period. Noninterest Expense The following schedule presents a comparison of the major components of noninterest expense. NONINTEREST EXPENSE Three Months Ended June 30, Amount change Percent change Six Months Ended June 30, Amount change Percent change (Dollar amounts in millions) 2023 2022 2023 2022 Salaries and employee benefits $ 324 $ 307 $ 17 6 % $ 663 $ 619 $ 44 7 % Technology, telecom, and information processing 58 53 5 9 113 105 8 8 Occupancy and equipment, net 40 36 4 11 80 74 6 8 Professional and legal services 16 14 2 14 29 28 1 4 Marketing and business development 13 9 4 44 25 17 8 47 Deposit insurance and regulatory expense 22 13 9 69 40 23 17 74 Credit-related expense 7 7 — — 13 14 (1) (7) Other real estate expense, net — — — NM — 1 (1) NM Other 28 25 3 12 57 47 10 21 Total noninterest expense $ 508 $ 464 $ 44 9 % $ 1,020 $ 928 $ 92 10 % Adjusted noninterest expense 1 $ 494 $ 463 $ 31 7 % $ 1,003 $ 927 $ 76 8 % 1 For information on non-GAAP financial measures, see “Non-GAAP Financial Measures” on page 35. Total noninterest expense increased $44 million, or 9%, relative to the prior year quarter. Salaries and benefits expense increased $17 million, or 6%, primarily due to $13 million in severance expense during the current quarter, reflecting our commitment to manage expenses. Deposit insurance and regulatory expense increased $9 million, or 69%, driven largely by an increased FDIC insurance base rate beginning in 2023 and changes in balance sheet composition. In May 2023, the FDIC issued a Notice of Proposed Rulemaking, which would implement a special assessment to recover the cost associated with protecting uninsured depositors following the closures of Silicon Valley Bank and Signature Bank. Using an assessment base equal to the estimated amount of uninsured deposits at December 31, 2022, the FDIC proposed to collect the special assessment at an annual rate of approximately 12.5 bps over eight quarterly periods, beginning the first quarter of 2024. As proposed, we estimate the total impact of the special assessment on our deposit insurance and regulatory expense would be approximately $80 million. At June 30, 2023, we had not accrued for any portion of this estimated amount. The ultimate impact and timing of expense recognition will depend on the final rule, which is not expected until late 2023. Technology, telecom, and information processing expense increased $5 million, or 9%, primarily due to increases in application software, maintenance, and related amortization expenses. The efficiency ratio was 62.5%, compared with 60.7%, as growth in adjusted noninterest expense outpaced growth in adjusted taxable-equivalent revenue. For information on non-GAAP financial measures, see page 35. Technology Spend Technology spend represents expenditures associated with technology-related investments, operations, systems, and infrastructure, and includes current period expenses reported on our consolidated statement of income, and capitalized investments, net of related amortization and depreciation, reported on our consolidated balance sheet. Technology spend is reported as a combination of the followin 14 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES • Technology, telecom, and information processing expense — includes expenses related to application software licensing and maintenance, related amortization, telecommunications, and data processing; • Other technology-related expense — includes related noncapitalized salaries and employee benefits, occupancy and equipment, and professional and legal services; and • Technology investments — includes capitalized technology infrastructure equipment, hardware, and purchased or internally developed software, less related amortization or depreciation. The following schedule presents the composition of our technology spen TECHNOLOGY SPEND Three Months Ended June 30, Amount change Percent change Six Months Ended June 30, Amount change Percent change (In millions) 2023 2022 2023 2022 Technology, telecom, and information processing expense $ 58 $ 53 $ 5 9 % $ 113 $ 105 $ 8 8 % Other technology-related expense 56 51 5 10 110 100 10 10 Technology investments 23 22 1 5 49 44 5 11 L related amortization and depreciation (16) (13) (3) 23 (30) (27) (3) 11 Total technology spend $ 121 $ 113 $ 8 7 % $ 242 $ 222 $ 20 9 % Total technology spend increased $8 million relative to the prior year quarter, largely due to technology-related compensation, investments in application resiliency, and increases in application software and maintenance expense. Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods presented. INCOME TAXES Three Months Ended June 30, Six Months Ended June 30, (Dollar amounts in millions) 2023 2022 2023 2022 Income before income taxes $ 226 $ 260 $ 508 $ 515 Income tax expense 51 57 129 109 Effective tax rate 22.6 % 21.9 % 25.4 % 21.2 % The effective tax rate was 22.6% and 21.9% for the three months ended June 30, 2023 and 2022, respectively. See Note 12 of the Notes to Consolidated Financial Statements for more information about the factors that impacted the income tax rates, as well as information about deferred income tax assets and liabilities, and valuation allowances. Preferred Stock Dividends Preferred stock dividends totaled $9 million and $8 million for the second quarter of 2023 and 2022, respectively. BALANCE SHEET ANALYSIS Interest-Earning Assets Interest-earning assets have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see the Consolidated Average Balance Sheet on page 10. 15 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Investment Securities Portfolio We invest in securities to actively manage liquidity and interest rate risk and to generate interest income. We primarily own securities that can readily provide us with cash and liquidity through secured borrowing agreements without the need to sell the securities. We also manage the duration extension risk of our investment securities portfolio. At June 30, 2023, the estimated duration of our securities portfolio decreased to 3.7 years, compared with 4.1 years at December 31, 2022, and 3.9 years at June 30, 2022, primarily due to the addition of certain portfolio layer method fair value hedges. See Note 7 for more information on these fair value hedges. This duration helps to manage the inherent interest rate mismatch between loans and deposits, as fixed-rate term investments facilitate the balancing of asset and liability durations, as well as protect the economic value of shareholders' equity. For information about our borrowing capacity associated with the investment securities portfolio and how we manage our liquidity risk, refer to the “Liquidity Risk Management” section on page 31. See also Note 3 and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. The following schedule presents the major components of our investment securities portfolio. INVESTMENT SECURITIES PORTFOLIO June 30, 2023 December 31, 2022 (In millions) Par Value Amortized cost Fair value Par Value Amortized cost Fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 96 $ 96 $ 90 $ 100 $ 100 $ 93 Agency guaranteed mortgage-backed securities 1 12,456 10,289 10,335 12,921 10,621 10,772 Municipal securities 368 368 343 404 405 374 Total held-to-maturity 12,920 10,753 10,768 13,425 11,126 11,239 Available-for-sale U.S. Treasury securities 565 565 475 555 557 393 U.S. Government agencies and corporatio Agency securities 724 717 677 790 782 736 Agency guaranteed mortgage-backed securities 8,913 8,991 7,647 9,566 9,652 8,367 Small Business Administration loan-backed securities 604 646 619 691 740 712 Municipal securities 1,350 1,480 1,391 1,571 1,732 1,634 Other debt securities 25 25 23 75 75 73 Total available-for-sale 12,181 12,424 10,832 13,248 13,538 11,915 Total HTM and AFS investment securities $ 25,101 $ 23,177 $ 21,600 $ 26,673 $ 24,664 $ 23,154 1 During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category. The transfer of these securities from AFS to HTM at fair value resulted in a discount to the amortized cost basis of the HTM securities equivalent to the $2.4 billion ($1.8 billion after tax) of unrealized losses in AOCI attributable to these securities. The amortization of the unrealized losses will offset the effect of the accretion of the discount created by the transfer. At June 30, 2023, the unamortized discount on the HTM securities totaled approximately $2.2 billion ($1.7 billion after tax). The amortized cost of total HTM and AFS investment securities decreased $1.5 billion, or 6%, from December 31, 2022, primarily due to payments and maturities. Approximately 8% of the total HTM and AFS investment securities were floating-rate instruments at both June 30, 2023 and December 31, 2022, respectively. Additionally, at June 30, 2023, we have $3.6 billion of pay-fixed swaps held as fair value hedges against fixed-rate AFS securities that effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. At June 30, 2023, the AFS investment securities portfolio included approximately $243 million of net premium that was distributed across the various security categories. Total taxable-equivalent premium amortization for these investment securities was $22 million for the second quarter of 2023, compared with $27 million for the same prior year period. 16 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES In addition to HTM and AFS securities, we also have a trading securities portfolio that totaled $32 million at June 30, 2023, compared with $465 million at December 31, 2022. The prior year-end amount included $395 million of money market mutual sweep accounts. Beginning in the first quarter of 2023, related sweep balances were presented in “Money market investments” on the consolidated balance sheet. Refer to the “Interest Rate Risk Management” section on page 27, the “Capital Management” section on page 33, and Note 5 of the Notes to Consolidated Financial Statements for more discussion regarding our investment securities portfolio, swaps, and related unrealized gains and losses. Municipal Investments and Extensions of Credit We support our communities by providing products and services to state and local governments (“municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. Our municipal lending products generally include loans in which the debt service is repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. The following schedule summarizes our total investments and extensions of credit to municipaliti MUNICIPAL INVESTMENTS AND EXTENSIONS OF CREDIT (In millions) June 30, 2023 December 31, 2022 Loans and leases $ 4,354 $ 4,361 Held-to-maturity securities 368 405 Available-for-sale securities 1,391 1,634 Trading securities 32 71 Unfunded lending commitments 361 406 Total $ 6,506 $ 6,877 Our municipal loans and securities are primarily associated with municipalities located within our geographic footprint. The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. At June 30, 2023, we had no municipal loans on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At June 30, 2023, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. Loan and Lease Portfolio We provide a wide range of lending products to commercial customers, generally small- and medium-sized businesses. We also provide various retail lending products and services to consumers and small businesses. The following schedule presents the composition of our loan and lease portfolio. 17 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES LOAN AND LEASE PORTFOLIO June 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 16,622 29.2 % $ 16,377 29.4 % Leasing 388 0.7 386 0.7 Owner-occupied 9,328 16.4 9,371 16.8 Municipal 4,354 7.6 4,361 7.8 Total commercial 30,692 53.9 30,495 54.8 Commercial real estate: Construction and land development 2,498 4.4 2,513 4.5 Term 10,406 18.3 10,226 18.4 Total commercial real estate 12,904 22.7 12,739 22.9 Consume Home equity credit line 3,291 5.8 3,377 6.1 1-4 family residential 7,980 14.0 7,286 13.1 Construction and other consumer real estate 1,434 2.5 1,161 2.1 Bankcard and other revolving plans 466 0.8 471 0.8 Other 150 0.3 124 0.2 Total consumer 13,321 23.4 12,419 22.3 Total loans and leases $ 56,917 100.0 % $ 55,653 100.0 % At June 30, 2023 and December 31, 2022, the ratio of loans and leases to total assets was 65% and 62%, respectively. The largest loan category was commercial and industrial loans, which constituted 29% of our total loan portfolio at both time periods. During the first six months of 2023, the loan and lease portfolio increased $1.3 billion, or 2%, to $56.9 billion at June 30, 2023, primarily due to growth of $0.7 billion in consumer 1-4 family residential mortgage loans, driven mainly from an increased demand for adjustable-rate mortgages. Other Noninterest-Bearing Investments Other noninterest-bearing investments are equity investments that are held primarily for capital appreciation, dividends, or for certain regulatory requirements. The following schedule summarizes our related investments. OTHER NONINTEREST-BEARING INVESTMENTS (Dollar amounts in millions) June 30, 2023 December 31, 2022 Amount change Percent change Bank-owned life insurance $ 549 $ 546 $ 3 1 % Federal Home Loan Bank stock 111 294 (183) (62) Federal Reserve stock 65 68 (3) (4) Farmer Mac stock 21 19 2 11 SBIC investments 177 172 5 3 Other 33 31 2 6 Total other noninterest-bearing investments $ 956 $ 1,130 $ (174) (15) % Total other noninterest-bearing investments decreased $174 million, or 15%, during the first six months of 2023, primarily due to a $183 million decrease in FHLB stock. We are required to invest approximately 4% of our FHLB borrowings in FHLB stock to maintain our borrowing capacity. The decrease in FHLB stock was driven by declines in FHLB borrowings during the second quarter of 2023 in response to an increase in total deposits. 18 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Premises, Equipment, and Software We are in the final phase of a three-phase project to replace our core loan and deposit banking systems. This final phase includes the replacement of our deposit banking systems through multiple affiliate bank conversions, the first of which was completed in the second quarter of 2023. We expect to complete the remaining affiliate bank conversions in 2024. The following schedule summarizes the capitalized costs associated with our core system replacement project, which are depreciated using a useful life of ten years. CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT June 30, 2023 (In millions) Phase 1 Phase 2 Phase 3 Total Total amount of capitalized costs, less accumulated depreciation $ 25 $ 50 $ 221 $ 296 Deposits Deposits are our primary funding source. In recent years, particularly during the COVID-19 pandemic, we experienced a significant influx of deposits, which was impacted by considerable fiscal and monetary policy decisions. During the prior year, with the withdrawal of stimulus by the federal government, our deposits began to decline to more normalized levels. This trend accelerated with prominent bank failures during the first quarter of 2023 and abated during the second quarter of 2023, with period-end deposits increasing meaningfully from March 31, 2023 to June 30, 2023. Total deposits have remained above pre-pandemic (December 31, 2019) levels during 2023. The following schedule presents the composition of our deposit portfolio. DEPOSIT PORTFOLIO June 30, 2023 March 31, 2023 December 31, 2022 December 31, 2019 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Amount % of total deposits Amount % of total deposits Deposits by type Noninterest-bearing demand $ 28,670 38.6 % $ 30,974 44.8 % $ 35,777 49.9 % $ 23,576 41.3 % Interest-bearin Savings and money market 33,303 44.8 30,826 44.5 33,474 46.7 28,249 49.5 Time 3,897 5.2 2,024 2.9 1,484 2.1 2,451 4.3 Brokered 8,453 11.4 5,384 7.8 917 1.3 2,809 4.9 Total deposits $ 74,323 100.0 % $ 69,208 100.0 % $ 71,652 100.0 % $ 57,085 100.0 % Deposit-related metrics Estimated amount of insured deposits $ 43,911 59 % $ 37,846 55 % $ 34,018 47 % $ 28,802 50 % Estimated amount of uninsured deposits $ 30,412 41 % $ 31,362 45 % $ 37,634 53 % $ 28,283 50 % Estimated amount of collateralized deposits 1 $ 2,679 3.6 % $ 2,708 3.9 % $ 2,861 4.0 % $ 1,928 3.4 % Loan-to-deposit ratio 77 % 81 % 78 % 85 % 1 Includes both insured and uninsured deposits. 19 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Total deposits increased $5.1 billion, or 7%, from March 31, 2023, and $2.7 billion, or 4%, from December 31, 2022. These increases were primarily due to significant growth in brokered and customer deposits, and partially offset by a decline in noninterest-bearing deposits as interest rates have risen. At June 30, 2023, total customer deposits included approximately $3.4 billion from reciprocal placement products where we distributed our customers’ deposits in a placement network to increase their FDIC insurance and in return we received a matching amount of deposits from other network banks. At June 30, 2023, the estimated total amount of uninsured deposits was $30.4 billion, or 41%, of total deposits, compared with $31.4 billion, or 45%, and $37.6 billion, or 53%, of total deposits at March 31, 2023 and December 31, 2022, respectively. Our loan-to-deposit ratio was 77%, compared with 81% and 78% for the same time periods. See “Liquidity Risk Management” on page 31 for additional information on liquidity and borrowed funds. RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We employ various strategies to prudently manage the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cybersecurity risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by various management committees including the Enterprise Risk Management Committee. For a more comprehensive discussion of these risks, see “Risk Factors” in our 2022 Form 10-K. Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. Credit policies, credit risk management, and credit examination functions inform and support the oversight of credit risk. Our credit policies emphasize strong underwriting standards and early detection of potential problem credits in order to develop and implement action plans on a timely basis to mitigate potential losses. These formal credit policies and procedures provide us with a framework for consistent underwriting and a basis for sound credit decisions at the local banking affiliate level. Our overall credit risk management strategy includes diversification of our loan portfolio. Our business activity is conducted primarily within the geographic footprint of our banking affiliates. We strive to avoid the risk of undue concentrations of credit in any particular industry, collateral type, location, or with any individual customer or counterparty. We have actively managed the credit risk in our commercial real estate (“CRE”) portfolio for more than a decade, having reduced CRE loans to 23% of total loans, compared with 33% in late 2008. For a more comprehensive discussion of our credit risk management, see “Credit Risk Management” in our 2022 Form 10-K. U.S. Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by United States (“U.S.”) government agencies, such as the Small Business Administration (“SBA”), Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At June 30, 2023, $593 million of related loans were guaranteed, primarily by the SBA, and included $125 million of Paycheck Protection Program (“PPP”) loans. The following schedule presents the composition of U.S. government agency guaranteed loans. U.S. GOVERNMENT AGENCY GUARANTEED LOANS (Dollar amounts in millions) June 30, 2023 Percent guaranteed December 31, 2022 Percent guaranteed Commercial $ 703 81 % $ 753 83 % Commercial real estate 24 79 21 76 Consumer 5 100 5 100 Total loans $ 732 81 % $ 779 83 % 20 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. COMMERCIAL LENDING BY INDUSTRY GROUP 1 June 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Real estate, rental, and leasing $ 2,923 9.5 % $ 2,802 9.2 % Retail trade 2,842 9.3 2,751 9.0 Finance and insurance 2,634 8.6 2,992 9.8 Healthcare and social assistance 2,495 8.1 2,373 7.8 Public Administration 2,376 7.7 2,366 7.8 Manufacturing 2,319 7.5 2,387 7.8 Wholesale trade 1,918 6.3 1,880 6.2 Utilities 2 1,590 5.2 1,418 4.6 Transportation and warehousing 1,501 4.9 1,464 4.8 Mining, quarrying, and oil and gas extraction 1,326 4.3 1,349 4.4 Educational services 1,286 4.2 1,302 4.3 Construction 1,276 4.2 1,355 4.4 Hospitality and food services 1,186 3.9 1,238 4.1 Other Services (except Public Administration) 1,066 3.5 1,041 3.4 Professional, scientific, and technical services 1,032 3.3 995 3.3 Other 3 2,922 9.5 2,782 9.1 Total $ 30,692 100.0 % $ 30,495 100.0 % 1 Industry groups are determined by North American Industry Classification System (“NAICS”) codes. 2 Includes primarily utilities, power, and renewable energy. 3 No other industry group exceeds 3.1%. Commercial Real Estate Loans At June 30, 2023 and December 31, 2022, our CRE loan portfolio totaled $12.9 billion and $12.7 billion, respectively, representing approximately 23% of the total loan portfolio for both periods. The majority of our CRE loans are secured by real estate primarily located within our geographic footprint. The following schedule presents the geographic distribution of our CRE loan portfolio based on the location of the primary collateral. COMMERCIAL REAL ESTATE LENDING BY COLLATERAL LOCATION June 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Arizona $ 1,656 13 % $ 1,521 12 % California 3,772 29 3,805 30 Colorado 639 5 637 5 Nevada 1,030 8 910 7 Texas 2,211 17 2,139 17 Utah/Idaho 2,202 17 2,397 19 Washington/Oregon 912 7 899 7 Other 482 4 431 3 Total CRE $ 12,904 100 % $ 12,739 100 % Approximately 23% of the total CRE loan portfolio is scheduled to mature in the next 12 months. Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and non-recourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with 21 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES one- to five-year extension options or roll-to-perm options that often result in term debt. At June 30, 2023, approximately 85% of our CRE loan portfolio was variable-rate, and approximately 20% of these variable-rate loans were swapped to a fixed rate. Underwriting on commercial properties is primarily based on the economic viability of the project with significant consideration given to the creditworthiness and experience of the sponsor. We generally require that the owner’s equity be injected prior to any advances. Re-margining requirements (required equity infusions upon a decline in value or cash flow of the collateral) are often included in the loan agreement along with guarantees of the sponsor. For a more comprehensive discussion of CRE loans and our underwriting, see the “Commercial Real Estate Loans” section in our 2022 Form 10-K. The following schedule provides information regarding lending exposures to certain collateral types in our CRE loan portfolio. COMMERCIAL REAL ESTATE LENDING BY COLLATERAL TYPE June 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Commercial property Multi-family $ 3,324 25.7 % $ 3,068 24.1 % Industrial 2,828 21.9 2,509 19.7 Office 2,157 16.7 2,281 17.9 Retail 1,447 11.2 1,529 12.0 Hospitality 695 5.4 695 5.4 Land 247 1.9 276 2.2 Other 1 1,673 13.0 1,728 13.5 Residential property 2 Single family 289 2.3 340 2.7 Land 73 0.6 75 0.6 Condo/Townhome 28 0.2 13 0.1 Other 1 143 1.1 225 1.8 Total $ 12,904 100.0 % $ 12,739 100.0 % 1 Included in the total amount of the “Other” category was approximately $246 million and $301 million of unsecured loans at June 30, 2023 and December 31, 2022, respectively. 2 Residential property collateral type consists primarily of loans provided to commercial homebuilders for land, lot, and single-family housing developments. Our CRE portfolio is diversified across geography and collateral type, with the largest concentration in multi-family. We provide additional analysis of our office CRE portfolio below in view of increased investor interest in that collateral type in recent periods. Office CRE loan portfolio At June 30, 2023 and December 31, 2022, our office CRE loan portfolio totaled $2.2 billion and $2.3 billion, representing 17% and 18% of the total CRE loan portfolio, respectively. The following schedule presents the composition of our office CRE loan portfolio and other related credit quality metrics. 22 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES OFFICE CRE LOAN PORTFOLIO (Dollar amounts in millions) June 30, 2023 December 31, 2022 Office CRE Construction and land development $ 193 $ 208 Term 1,964 2,073 Total office CRE $ 2,157 $ 2,281 Credit quality metrics Criticized loan ratio 6.4 % 7.2 % Classified loan ratio 4.8 % 5.8 % Nonaccrual loan ratio — % — % Delinquency ratio — % 1.5 % Net charge-offs, annualized — % — % Allowance for credit losses $ 38 $ 31 Ratio of allowance for credit losses to office CRE loans, at period end 1.76 % 1.36 % The following schedules present our office CRE loan portfolio by collateral location for the periods presented. OFFICE CRE LOAN PORTFOLIO BY COLLATERAL LOCATION (Dollar amounts in millions) June 30, 2023 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total Office CRE Construction and land development $ — $ 87 $ — $ 1 $ 7 $ 34 $ 64 $ — $ 193 Term 289 449 93 93 182 587 240 31 1,964 Total Office CRE $ 289 $ 536 $ 93 $ 94 $ 189 $ 621 $ 304 $ 31 $ 2,157 % of total 13.4 % 24.9 % 4.3 % 4.4 % 8.8 % 28.8 % 14.0 % 1.4 % 100.0 % (Dollar amounts in millions) December 31, 2022 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total Office CRE Construction and land development $ 8 $ 79 $ — $ 2 $ — $ 18 $ 101 $ — $ 208 Term 295 525 97 99 217 613 195 32 2,073 Total Office CRE $ 303 $ 604 $ 97 $ 101 $ 217 $ 631 $ 296 $ 32 $ 2,281 % of total 13.1 % 27.0 % 4.3 % 4.3 % 9.6 % 26.8 % 13.5 % 1.4 % 100.0 % 1 No other geography exceeds $18 million at both June 30, 2023 and December 31, 2022. Consumer Loans We originate first-lien residential home mortgages considered to be of prime quality. We generally hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. Our 1-4 family residential mortgage loan portfolio increased $694 million, or 10%, to $8.0 billion at June 30, 2023, compared with $7.3 billion at December 31, 2022, primarily due to an increased demand for adjustable-rate mortgages, which we have retained as part of our overall interest rate risk management strategy. We also originate home equity credit lines (“HECLs”). At June 30, 2023 and December 31, 2022, our HECL portfolio totaled $3.3 billion and $3.4 billion, respectively. Approximately 41% and 44% of our HECLs are secured by first liens for the same time periods. 23 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At June 30, 2023, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with a Fair Isaac Corporation (“FICO”) credit score greater than 700. Approximately 90% of our HECL portfolio is still in the draw period, and about 19% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is minimal. The ratio of HECL net charge-offs (recoveries) for the trailing twelve months to average balances at June 30, 2023 and December 31, 2022 was (0.03)% for both periods. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of the HECL portfolio. Nonperforming Assets Nonperforming assets include nonaccrual loans and other real estate owned (“OREO”) or foreclosed properties. The following schedule presents our nonperforming assets. NONPERFORMING ASSETS (Dollar amounts in millions) June 30, 2023 December 31, 2022 Nonaccrual loans 1 $ 162 $ 149 Other real estate owned 2 2 — Total nonperforming assets $ 164 $ 149 Ratio of nonperforming assets to net loans and leases 1 and other real estate owned 2 0.29 % 0.27 % Accruing loans past due 90 days or more $ 7 $ 6 Ratio of accruing loans past due 90 days or more to loans and leases 1 0.01 % 0.01 % Nonaccrual loans 1 and accruing loans past due 90 days or more $ 169 $ 155 Ratio of nonperforming assets 1 and accruing loans past due 90 days or more to loans and leases 1 and other real estate owned 2 0.30 % 0.28 % Nonaccrual loans 1 current as to principal and interest payments 70.4 % 57.7 % 1 Includes loans held for sale. 2 Does not include banking premises held for sale. Nonperforming assets as a percentage of loans and leases and OREO increased to 0.29% at June 30, 2023, compared with 0.27% at December 31, 2022. Total nonaccrual loans at June 30, 2023 increased to $162 million from $149 million at December 31, 2022, primarily due to increases in commercial and industrial and owner-occupied nonaccrual loans. See Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. Loan Modifications Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. On January 1, 2023, we adopted Accounting Standards Update (“ASU”) 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures, which eliminated the recognition and measurement of troubled debt restructurings (“TDRs”) and their related disclosures. ASU 2022-02 requires enhanced disclosures for loan modifications to borrowers experiencing financial difficulty. At June 30, 2023, loans that have been modified to accommodate a borrower experiencing financial difficulties totaled $148 million. If a modified loan is on nonaccrual and performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified 24 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the modification is taken into account to determine whether a loan should be returned to accrual status. ACCRUING AND NONACCRUING MODIFIED LOANS TO BORROWERS EXPERIENCING FINANCIAL DIFFICULTY (In millions) June 30, 2023 Modified loans – accruing $ 137 Modified loans – nonaccruing 11 Total $ 148 For additional information regarding loan modifications to borrowers experiencing financial difficulty, including information related to TDRs prior to our adoption of ASU 2022-02, see Note 6 of the Notes to Consolidated Financial Statements. Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. The RULC, a reserve for potential losses associated with off-balance sheet commitments, remained stable during the first six months of 2023. The reserve is separately recorded on the consolidated balance sheet in “Other liabilities,” and any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” The following schedule presents the changes in and allocation of the ACL. 25 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SUMMARY OF CREDIT LOSS EXPERIENCE (Dollar amounts in millions) Six Months Ended June 30, 2023 Twelve Months Ended December 31, 2022 Six Months Ended June 30, 2022 Loans and leases outstanding $ 56,917 $ 55,653 $ 52,370 Average loans and leases outstandin Commercial 30,664 29,225 28,725 Commercial real estate 12,904 12,251 12,134 Consumer 12,849 11,122 10,501 Total average loans and leases outstanding $ 56,417 $ 52,598 $ 51,360 Allowance for loan and lease loss Balance at beginning of period 1 $ 572 $ 513 $ 513 Provision for loan losses 92 101 10 Charge-offs: Commercial 23 72 28 Commercial real estate — — — Consumer 6 10 7 Total 29 82 35 Recoveri Commercial 12 32 15 Commercial real estate — — — Consumer 4 11 5 Total 16 43 20 Net loan and lease charge-offs 13 39 15 Balance at end of period $ 651 $ 575 $ 508 Reserve for unfunded lending commitments: Balance at beginning of period $ 61 $ 40 $ 40 Provision for unfunded lending commitments (1) 21 (2) Balance at end of period $ 60 $ 61 $ 38 Total allowance for credit loss Allowance for loan and lease losses $ 651 $ 575 $ 508 Reserve for unfunded lending commitments 60 61 38 Total allowance for credit losses $ 711 $ 636 $ 546 Ratio of allowance for credit losses to net loans and leases, at period end 1.25 % 1.14 % 1.04 % Ratio of allowance for credit losses to nonaccrual loans, at period end 439 % 427 % 280 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, at period end 421 % 410 % 272 % Ratio of total net charge-offs to average loans and leases 2 0.05 % 0.07 % 0.06 % Ratio of commercial net charge-offs to average commercial loans 2 0.07 % 0.14 % 0.09 % Ratio of commercial real estate net charge-offs to average commercial real estate loans 2 — % — % — % Ratio of consumer net charge-offs to average consumer loans 2 0.03 % (0.01) % 0.04 % 1 The beginning balance for the six months ended June 30, 2023 for the allowance for loan losses does not agree to the ending balance at December 31, 2022 because of the adoption of the new accounting standard related to loan modifications to borrowers experiencing financial difficulties. 2 Ratios are annualized for the periods presented except for the period representing the full twelve months. The total ACL increased to $711 million, from $636 million, during the first six months of 2023, primarily due to deterioration in economic forecasts. See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. 26 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. Because we engage in transactions involving various financial products, we are exposed to both interest rate risk and market risk. For a more comprehensive discussion of our interest rate and market risk management, see the “Interest Rate and Market Risk Management” section in our 2022 Form 10-K. Interest Rate Risk We strive to position the Bank for interest rate changes and manage the balance sheet sensitivity to reduce the volatility of both net interest income and economic value of equity. We generally have granular deposit funding. Much of this funding has an indeterminate life with no maturity and can be withdrawn at any time. Because most deposits come from household and business accounts, their duration is generally longer than the duration of our loan portfolio. As such, we are naturally “asset-sensitive” — meaning that our assets are expected to reprice faster or more significantly than our liabilities. In previous interest rate environments, we have added (1) interest rate swaps to synthetically increase the duration of the loan portfolio, (2) longer-duration securities, and (3) longer-duration loans to reduce the asset sensitivity to a level where an increase in interest rates of 100 bps would continue to result in a positive change in net interest income, and a decline in interest rates would be more muted. Additionally, we have pay-fixed interest rate swaps to adjust the duration of the investment securities portfolio. Asset sensitivity measures depend upon the assumptions we use for deposit runoff and repricing behavior. As interest rates rise, we expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. Our models are particularly sensitive to the assumption about the rate of such migration. We also assume a correlation, referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-bearing checking accounts are assumed to have a lower correlation. With the recent prominent bank failures during the first half of 2023, customer deposit behavior deviated from modeled behaviors, with the latter being informed using data reflecting an extended period of relatively low interest rates. As such, in addition to our historical-based assumptions, we have included adjusted deposit assumptions into our interest risk rate management, which increase the deposit beta for interest-bearing products and increase the percentage of non-interest bearing deposits that migrate to interest-bearing products. The following schedule presents deposit duration assumptions using both historical-based deposit behavior as well as the adjusted assumptions discussed previously. DEPOSIT ASSUMPTIONS June 30, 2023 December 31, 2022 Historical-based assumptions Adjusted assumptions Historical-based assumptions Product Effective duration (unchanged) Effective duration (+200 bps) Effective duration (unchanged) Effective duration (+200 bps) Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 3.9% 3.7% 2.9% 2.7% 3.6% 3.5% Money market 2.2% 2.1% 1.5% 1.3% 2.3% 2.0% Savings and interest-bearing checking 2.9% 2.6% 2.0% 1.6% 3.1% 2.8% 27 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES As more rate-sensitive deposits have runoff, the effective duration of the deposits under the historical-based assumptions has lengthened due to the remaining deposits that are assumed to be less rate sensitive. Conversely, the effective duration of the deposits under the adjusted assumptions has shortened considerably due to faster deposit repricing. As noted previously, we utilize derivatives to manage interest rate risk. The following schedule presents derivatives that are designated in qualifying hedging relationships at June 30, 2023. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each category of cash flow and fair value hedge. Fair value hedges of assets include $2.5 billion in notional of hedges of AFS securities designated under the portfolio layer method that were added during the second quarter of 2023. See Note 7 of the Notes to Consolidated Financial Statements for additional information regarding the impact of these hedging relationships on interest income and expense. DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2023 2024 2025 3Q25 - 2Q26 3Q26 - 2Q27 (Dollar amounts in millions) Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Cash flow hedges Cash flow hedges of assets 1,2 Average outstanding notional $ 2,550 $ 2,250 $ 1,817 $ 1,483 $ 1,050 $ 550 $ 350 $ 350 $ 221 $ 100 Weighted-average fixed-rate received 2.37 % 2.24 % 2.05 % 1.96 % 1.82 % 1.96 % 2.34 % 2.34 % 1.94 % 1.65 % Cash flow hedges of liabilities 3 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — Weighted-average fixed-rate paid 3.67 % 3.67 % 3.67 % 3.67 % 3.67 % 3.67 % 3.67 % 3.67 % — % — % 2023 4 2024 2025 2026 2027 2028 2029 2030 2031 2032 Fair value hedges Fair value hedges of assets 4 Average outstanding notional $ 3,172 $ 3,444 $ 3,558 $ 3,562 $ 3,558 $ 1,928 $ 1,049 $ 1,044 $ 1,037 $ 1,001 Weighted-average fixed-rate paid 3.16 % 3.06 % 3.03 % 3.02 % 3.03 % 2.28 % 1.84 % 1.83 % 1.83 % 1.83 % Fair value hedges of liabilities 5 Average outstanding notional $ — $ — $ — $ — $ — $ — $ — $ — $ — $ — Weighted-average fixed-rate received — % — % — % — % — % — % — % — % — % — % 1 Cash flow hedges consist of receive-fixed swaps hedging pools of floating-rate loans. 2 Cash flow hedges of assets fully matures in February 2027. Amounts for 2027 have not been prorated to reflect this hedge maturing during the period. 3 Cash flow hedges of liabilities fully matures in May of 2025. 4 Fair value hedges of assets consist of pay-fixed interest rate swaps hedging AFS fixed-rate securities. 5 Fair value hedges of debt consist of receive-fixed swaps hedging fixed-rate debt. The sole fair value hedge of debt was terminated during the second quarter of 2023. Incorporating the historical-based and adjusted deposit assumptions and the impact of derivatives in qualifying hedging relationships previously discussed, the following schedule presents earnings at risk (“EaR”), or the percentage change in 12-month forward-looking net interest income, and our estimated percentage change in economic value of equity (“EVE”). Both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. 28 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY June 30, 2023 December 31, 2022 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Historical-based assumptio Earnings at Risk (EaR) (5.8) % — % 5.9 % 11.8 % 17.7 % (2.4) % — % 2.4 % 4.8 % 7.1 % Economic Value of Equity (EVE) (0.1) % — % 1.9 % 3.5 % 4.8 % 2.0 % — % (1.1) % (2.3) % (3.7) % Adjusted assumptio Earnings at Risk (EaR) (1.3) % — % 1.4 % 2.9 % 4.4 % Economic Value of Equity (EVE) 4.8 % — % (4.1) % (8.6) % (12.9) % 1 Assumes rates cannot go below zero in the negative rate shift. Under the historical-based assumptions, the asset sensitivity, as measured by EaR, increased during the second quarter of 2023, primarily due an increase in pay-fixed interest rate swap notional, partially offset by deposit migration from low beta products to high beta products. Under the adjusted deposit assumptions, asset sensitivity decreased significantly due to faster deposit repricing. For interest-bearing deposits with indeterminate maturities, the weighted average modeled beta is 32% under the historical-based assumptions, and 55% under the adjusted assumptions. The EaR analysis focuses on parallel rate shocks across the term structure of benchmark interest rates. In a non-parallel rate scenario where the overnight rate increases 200 bps, but the ten-year rate increases only 30 bps, the increase in EaR is modeled under the historical-based assumptions to be approximately two-thirds of the change associated with the parallel +200 bps rate change. EaR has inherent limitations in describing expected changes in net interest income in rapidly changing interest rate environments due to a lag in asset and liability repricing behavior. As such, we expect net interest income to change due to “latent” and “emergent” interest rate sensitivity. Unlike EaR, which measures net interest income over 12 months, latent and emergent interest rate sensitivity explains changes in current quarter net interest income, compared with expected net interest income in the same quarter one year forward. Latent interest rate sensitivity refers to future changes in net interest income based upon past rate movements that have yet to be fully recognized in revenue but will be recognized over the near term. We expect latent sensitivity to reduce net interest income by approximately 4% in the second quarter of 2024, compared with the second quarter of 2023. Emergent interest rate sensitivity refers to future changes in net interest income based upon future interest rate movements and is measured from the latent level of net interest income. If interest rates rise consistent with the forward curve at June 30, 2023, we expect emergent sensitivity to increase net interest income by approximately 1% from the latent sensitivity level, for a cumulative 3% reduction in net interest income. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At June 30, 2023, $25.8 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. For these variable-rate loans, we have executed $2.9 billion of cash flow hedges by receiving fixed rates on interest rate swaps. At June 30, 2023, we also had $3.6 billion of variable-rate consumer loans scheduled to reprice in the next six months. The impact on asset sensitivity from commercial or consumer loans with floors has become insignificant as rates have risen. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. 29 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES LIBOR Transition London Interbank Offered Rate (“LIBOR”) has been phased out globally, and banks were required to migrate to alternative reference rates by June 30, 2023. We implemented processes, procedures, and systems to mitigate contract risk. New originations, and any modifications or renewals of LIBOR-based contracts, contained fallback language to facilitate transition to an alternative reference rate. Additionally, under the Adjustable Interest Rate (LIBOR) Act of 2022, the Federal Reserve Board (“FRB”) identified benchmark replacement rates for LIBOR contracts lacking fallback provisions with a clearly defined or practical replacement benchmark rate. At June 30, 2023, we have remediated substantially all our LIBOR exposure through fallback language, replacement indices, or reliance upon the provisions under the LIBOR Act. Market Risk – Fixed Income We are exposed to market risk through changes in fair value. This includes market risk for trading securities and for interest rate swaps used to hedge interest rate risk. We underwrite municipal and corporate securities. We also trade municipal, agency, and treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in accumulated other comprehensive income (loss) (“AOCI”) for each financial reporting period. During the second quarter of 2023, the $32 million after-tax increase in AOCI loss related to investment securities was driven largely by declines in the fair value of the AFS securities primarily due to changes in benchmark interest rates. For more discussion regarding investment securities and AOCI, see the “Capital Management” section on page 33. See also Note 5 of the Notes to Consolidated Financial Statements for further information regarding the accounting for investment securities. Our noninterest-bearing deposits are more valuable in a rising interest rate environment, creating meaningful economic value that is not fully reflected on our balance sheet since deposits and related intangible assets are not recorded at fair value for accounting purposes. Market Risk – Equity Investments Through our equity investment activities, we own equity securities that are publicly traded. In addition, we own equity securities in governmental entities and companies, e.g., FRB and the FHLB, that are not publicly traded. Equity investments may be accounted for at cost less impairment and adjusted for observable price changes, fair value, the equity method, or full consolidation methods of accounting, depending on our ownership position and degree of influence over the investees’ business. Regardless of the accounting method, the values of our investments are subject to fluctuation. Because the fair value of these securities may fall below the cost at which we acquired them, we are exposed to the possibility of loss. Equity investments in private and public companies are evaluated, monitored, and approved by members of management in our Equity Investments Committee and Securities Valuation Committee. We hold both direct and indirect investments in predominantly pre-public companies, primarily through various Small Business Investment Company (“SBIC”) venture capital funds as a strategy to provide beneficial financing, growth, and expansion opportunities to diverse businesses generally in communities within our geographic footprint. Our equity exposure to these investments was approximately $177 million and $172 million at June 30, 2023 and December 31, 2022, respectively. On occasion, some of the companies within our SBIC investment may issue an initial public offering (“IPO”). In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce additional market risk. See Note 3 of the Notes to Consolidated Financial Statements for additional information regarding the valuation of our SBIC investments. 30 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Liquidity Risk Management Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. We manage our liquidity to provide funds for our customers’ credit needs, our anticipated financial and contractual obligations, and other corporate activities. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as loans and investment securities. Our investment securities are primarily held as a source of contingent liquidity. We primarily own securities that can readily provide us with cash and liquidity through secured borrowing agreements with securities pledged as collateral. We maintain and regularly test a contingency funding plan to identify sources and uses of liquidity. Additionally, we have a Board-approved liquidity policy that requires us to monitor and maintain adequate liquidity, diversify funding positions, and anticipate future funding needs. In accordance with this policy, we monitor our liquidity positions by conducting various stress tests and evaluating certain liquid asset measurements, such as a 30-day liquidity coverage ratio. We perform regular liquidity stress tests and assess our portfolio of highly liquid assets (sufficient to cover 30-day funding needs under stress scenarios). These stress tests include projections of funding maturities, uses of funds, and assumptions of deposit runoff. These assumptions consider the size of deposit account, operational nature of deposits, type of depositor, and concentrations of funding sources including large depositors and aggregate levels of uncollateralized deposits exceeding insured levels. Concentrated funding sources are given large runoff factors up to 100% in projecting stressed funding needs. Our liquidity stress testing considers multiple timeframes ranging from overnight to 12 months. Our liquidity policy requires us to maintain sufficient on-balance sheet liquidity in the form of FRB reserve balance and other highly liquid assets to meet stressed outflow assumptions. We have a dedicated funding desk that monitors real-time inflows and outflows of our FRB account, and we have tools, including ready access to repo markets and FHLB advances, to manage intraday liquidity. FHLB borrowings are “open-term,” allowing us the ability to retain or return funds based on our liquidity needs. We pledge a large portion of our highly liquid investment securities portfolio through the General Collateral Funding (“GCF”) repo program. Through this program, high-quality collateral is pledged, and program participants exchange funds anonymously, which allows for near instant access to funding during market hours. Additionally, we have pledged collateral to the FRB’s primary credit facility (or discount window) and the Bank Term Funding Program (“BTFP”), which provide additional contingent funding sources outside the normal operating hours of the FHLB and the GCF program. The BTFP offers loans of up to one year in length to eligible depository institutions pledging U.S. Treasuries, agency debt and government mortgage-backed securities, and other qualifying assets as collateral. Unlike other funding sources, borrowing capacity under the BTFP is based on the par value, not the fair value, of collateral. Advances can be requested under the program through mid-March 2024. For more information on our liquidity risk management practices, see “Liquidity Risk Management” in our 2022 Form 10-K. For the first six months of 2023, the primary sources of cash came from a decrease in investment securities, a decrease in money market investments, and net cash provided by operating activities. Uses of cash during the same period included primarily a decrease in short-term borrowings, an increase in loans and leases, and dividends paid on common and preferred stock. Cash payments for interest reflected in operating expenses were $546 million and $31 million for the first six months of 2023 and 2022, respectively. The FHLB and FRB have been, and continue to be, a significant source of back-up liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and FRB stock to maintain our borrowing capacity. At June 30, 2023, our total investment in FHLB and FRB stock was $111 million and $65 million, respectively, compared with $294 million and $68 million at December 31, 2022. 31 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES At June 30, 2023, loans with a carrying value of $24.5 billion and $15.3 billion, compared with $23.7 billion and $3.9 billion at December 31, 2022, were pledged at the FHLB and FRB, respectively, as collateral for current and potential borrowings. At June 30, 2023 and December 31, 2022, investment securities with a carrying value of $21.1 billion and $13.5 billion, respectively, were pledged as collateral for potential borrowings. For the same time periods, these pledges included $9.9 billion and $8.3 billion for available use through the GCF repo program, $7.1 billion and $1.0 billion to the FRB, and $4.1 billion and $4.2 billion to secure collateralized public and trust deposits, advances, and for other purposes. A large portion of these pledged assets are unencumbered, but are pledged to provide immediate access to contingency sources of funds. The following schedule presents our total available liquidity including unused collateralized borrowing capacity. AVAILABLE LIQUIDITY June 30, 2023 December 31, 2022 (In billions) FHLB FRB GCF BTFP Total FHLB FRB GCF BTFP Total Total borrowing capacity $ 17.1 $ 13.6 $ 10.0 $ 7.1 $ 47.8 $ 16.6 $ 4.0 $ 8.4 $ — $ 29.0 Borrowings outstanding 2.6 — 2.0 — 4.6 7.2 — 2.7 — 9.9 Remaining capacity, at period end $ 14.5 $ 13.6 $ 8.0 $ 7.1 $ 43.2 $ 9.4 $ 4.0 $ 5.7 $ — $ 19.1 Cash and due from banks 0.7 0.7 Interest-bearing deposits 1 1.5 1.3 Total available liquidity $ 45.4 $ 21.1 Ratio of available liquidity to uninsured deposits 149 % 56 % 1 Represents funds deposited by the Bank primarily at the Federal Reserve Bank. At June 30, 2023 and December 31, 2022, our total available liquidity was $45.4 billion, compared with $21.1 billion, respectively. At June 30, 2023, we had sources of liquidity which exceeded our uninsured deposits without the need to sell any investment securities. General financial market and economic conditions also impact our access to, and cost of, external financing. Access to funding markets is also directly affected by the credit ratings we receive from various rating agencies. The ratings not only influence the costs associated with borrowings, but can also influence the sources of the borrowings. All of the credit rating agencies rate our debt at an investment-grade level. During the second quarter of 2023, as a result of broader uncertainty in the banking industry, Standard & Poor's (“S&P”) changed their outlook on our long-term deposit and issuer ratings to “Negative” from “Stable.” Additionally, Moody's downgraded our long-term issuer rating to Baa2 from Baa1, our short-term debt rating to P2 from P1, and changed their outlook on our long-term deposit and issuer ratings to “Stable” from “Ratings under review.” The following schedule presents our current credit ratings. CREDIT RATINGS as of July 31, 2023: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Negative BBB+ BBB NR Fitch Stable BBB+ BBB F1 Moody's Stable Baa2 NR P2 We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market 32 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. Capital Management A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. We seek to (1) maintain sufficient capital to support the current needs and growth of our businesses, and (2) fulfill responsibilities to depositors and bondholders while managing capital distributions to shareholders through dividends and repurchases of common stock. We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the FRB. The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as Board and Office of the Comptroller of the Currency (“OCC”) approval. Shares may be repurchased occasionally in the open market or through privately negotiated transactions. For a more comprehensive discussion of our capital risk management, see “Capital Management” in our 2022 Form 10-K. SHAREHOLDERS' EQUITY (Dollar amounts in millions) June 30, 2023 December 31, 2022 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 440 $ — — % Common stock and additional paid-in capital 1,722 1,754 (32) (2) Retained earnings 6,051 5,811 240 4 Accumulated other comprehensive loss (2,930) (3,112) 182 6 Total shareholders' equity $ 5,283 $ 4,893 $ 390 8 % Total shareholders’ equity increased $390 million, or 8%, to $5.3 billion at June 30, 2023, compared with $4.9 billion at December 31, 2022. Common stock and additional paid-in capital decreased $32 million, primarily due to common stock repurchases during the first quarter of 2023. As the macroeconomic environment remained uncertain, we did not repurchase common shares during the second quarter of 2023, nor do we expect to repurchase common shares during the third quarter of 2023. AOCI was a $2.9 billion loss at June 30, 2023, and, for the first six months of 2023, reflected (1) a $9 million decline in the fair value of fixed-rate AFS securities as a result of higher interest rates, offset by a $103 million increase in amortization of the discount on the securities transferred from AFS to HTM during the fourth quarter of 2022, and (2) an $88 million increase in unrealized holding gains and other adjustments associated with derivative instruments. Absent any sales or credit impairment of the AFS securities, the unrealized losses will not be recognized in earnings. We do not intend to sell any securities with unrealized losses. Although changes in AOCI are reflected in shareholders’ equity, they are excluded from regulatory capital, and therefore do not impact our regulatory ratios. For more discussion on our investment securities portfolio and related unrealized gains and losses, see Note 5 of the Notes to Consolidated Financial Statements. 33 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CAPITAL DISTRIBUTIONS Three Months Ended June 30, Six Months Ended June 30, (In millions, except share data) 2023 2022 2023 2022 Capital distributio Preferred dividends paid $ 9 $ 8 $ 15 $ 16 Total capital distributed to preferred shareholders 9 8 15 16 Common dividends paid 61 58 122 116 Bank common stock repurchased 1 — 50 50 101 Total capital distributed to common shareholders 61 108 172 217 Total capital distributed to preferred and common shareholders $ 70 $ 116 $ 187 $ 233 Weighted average diluted common shares outstanding (in thousands) 147,696 150,838 147,865 151,264 Common shares outstanding, at period end (in thousands) 148,144 150,471 148,144 150,471 1 Includes amounts related to the common shares acquired from our publicly announced plans and those acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. Pursuant to the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. At June 30, 2023, we had $1.7 billion of retained net profits available for distribution. During the second quarter of 2023, we paid dividends on preferred stock of $9 million and dividends on common stock of $61 million, or $0.41 per share. In July 2023, the Board declared a regular quarterly dividend of $0.41 per common share, payable on August 24, 2023 to shareholders of record on August 17, 2023. See Note 9 of the Notes to Consolidated Financial Statements for additional information about our capital management actions. Basel III We are subject to Basel III capital requirements that include certain minimum regulatory capital ratios. At June 30, 2023, we exceeded all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. See the “Supervision and Regulation” section and Note 15 of our 2022 Form 10-K for more information about our compliance with the Basel III capital requirements. The following schedule presents our capital amounts, capital ratios, and other selected performance ratios. 34 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CAPITAL AMOUNTS AND RATIOS (Dollar amounts in millions) June 30, 2023 December 31, 2022 June 30, 2022 Basel III risk-based capital amounts: Common equity tier 1 capital $ 6,692 $ 6,481 $ 6,257 Tier 1 risk-based 7,131 6,921 6,697 Total risk-based 8,378 8,077 7,784 Risk-weighted assets 66,917 66,111 63,424 Basel III risk-based capital ratios: Common equity tier 1 capital ratio 10.0 % 9.8 % 9.9 % Tier 1 risk-based ratio 10.7 10.5 10.6 Total risk-based ratio 12.5 12.2 12.3 Tier 1 leverage ratio 8.0 7.7 7.4 Other ratios: Average equity to average assets (three months ended) 5.9 % 5.4 % 6.7 % Return on average common equity (three months ended) 13.8 25.4 14.0 Return on average tangible common equity (three months ended) 1 10.0 16.9 12.5 Tangible equity ratio 1 8.0 7.6 7.6 Tangible common equity ratio 1 7.5 7.1 7.1 1 See “ Non-GAAP Financial Measures ” on page 35 for more information regarding these ratios. NON-GAAP FINANCIAL MEASURES This Form 10-Q presents non-GAAP financial measures, in addition to GAAP financial measures. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results and provide a meaningful basis for period-to-period comparisons. We use these non-GAAP financial measures to assess our performance and financial position. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by our management and the financial services industry. Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar financial measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under GAAP. Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets and their related amortization and AOCI. We excluded the effect of AOCI to align with its impact on certain incentive compensation plans that utilize return on tangible common equity as a performance metric. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a business more consistently, whether acquired or developed internally. 35 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Three Months Ended (Dollar amounts in millions) June 30, 2023 March 31, 2023 June 30, 2022 Net earnings applicable to common shareholders (GAAP) (a) $ 166 $ 198 $ 195 Adjustment, net of t Amortization of core deposit and other intangibles 1 1 — Net earnings applicable to common shareholders, net of tax (a) $ 167 $ 199 $ 195 Average common equity (GAAP) $ 4,818 $ 4,614 $ 5,582 Average goodwill and intangibles (1,063) (1,064) (1,015) Average accumulated other comprehensive loss (income) 2,931 3,030 1,702 Average tangible common equity (non-GAAP) (b) $ 6,686 $ 6,580 $ 6,269 Number of days in quarter (c) 91 90 91 Number of days in year (d) 365 365 365 Return on average tangible common equity (non-GAAP) (a/b/c)*d 10.0 % 12.3 % 12.5 % TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) June 30, 2023 March 31, 2023 June 30, 2022 Total shareholders’ equity (GAAP) $ 5,283 $ 5,184 $ 5,632 Goodwill and intangibles (1,062) (1,063) (1,015) Accumulated other comprehensive loss (income) 2,930 2,920 2,100 Tangible equity (non-GAAP) (a) 7,151 7,041 6,717 Preferred stock (440) (440) (440) Tangible common equity (non-GAAP) (b) $ 6,711 $ 6,601 $ 6,277 Total assets (GAAP) $ 87,230 $ 88,573 $ 87,784 Goodwill and intangibles (1,062) (1,063) (1,015) Accumulated other comprehensive loss (income) 2,930 2,920 2,100 Tangible assets (non-GAAP) (c) $ 89,098 $ 90,430 $ 88,869 Common shares outstanding (in thousands) (d) 148,144 148,100 150,471 Tangible equity ratio (non-GAAP) (a/c) 8.0 % 7.8 % 7.6 % Tangible common equity ratio (non-GAAP) (b/c) 7.5 % 7.3 % 7.1 % Tangible book value per common share (non-GAAP) (b/d) $ 45.30 $ 44.57 $ 41.72 Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allows for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how we are managing our expenses. Adjusted pre-provision net revenue enables management and others to assess our ability to generate capital. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. 36 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) Three Months Ended Six Months Ended Year Ended (Dollar amounts in millions) June 30, 2023 March 31, 2023 June 30, 2022 June 30, 2023 June 30, 2022 December 31, 2022 Noninterest expense (GAAP) (a) $ 508 $ 512 $ 464 $ 1,020 $ 928 $ 1,878 Adjustments: Severance costs 13 1 1 14 1 1 Other real estate expense, net — — — — 1 1 Amortization of core deposit and other intangibles 1 2 — 3 — 1 SBIC investment success fee accrual 1 — — — — (1) (1) Total adjustments (b) 14 3 1 17 1 2 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 494 $ 509 $ 463 $ 1,003 $ 927 $ 1,876 Net interest income (GAAP) (d) $ 591 $ 679 $ 593 $ 1,270 $ 1,137 $ 2,520 Fully taxable-equivalent adjustments (e) 11 9 9 20 17 37 Taxable-equivalent net interest income (non-GAAP) (d+e)=f 602 688 602 1,290 1,154 2,557 Noninterest income (GAAP) g 189 160 172 349 314 632 Combined income (non-GAAP) (f+g)=(h) 791 848 774 1,639 1,468 3,189 Adjustments: Fair value and nonhedge derivative gains 1 (3) 10 (2) 16 16 Securities gains (losses), net 1 — 1 1 1 (16) (15) Total adjustments 2 (i) 1 (2) 11 (1) — 1 Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 790 $ 850 $ 763 $ 1,640 $ 1,468 $ 3,188 Pre-provision net revenue (non-GAAP) (h)-(a) $ 283 $ 336 $ 310 $ 619 $ 540 $ 1,311 Adjusted PPNR (non-GAAP) (j)-(c) 296 341 300 637 541 1,312 Efficiency ratio (non-GAAP) (c/j) 62.5 % 59.9 % 60.7 % 61.2 % 63.1 % 58.8 % 1 The success fee accrual is associated with the gains and losses from our SBIC investments, which are excluded from the efficiency ratio through securities gains (losses), net. 2 Excluding the $13 million gain on sale of bank-owned premises recorded in dividends and other income, the efficiency ratio for the three months and six months ended June 30, 2023 would have been 63.6% and 61.6%, respectively. 37 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 1. FINANCIAL STATEMENTS (Unaudited) CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) June 30, 2023 December 31, 2022 (Unaudited) ASSETS Cash and due from banks $ 701 $ 657 Money market investments: Interest-bearing deposits 1,531 1,340 Federal funds sold and securities purchased under agreements to resell 781 2,426 Investment securiti Held-to-maturity, at amortized cost (fair val $ 10,768 and $ 11,239 ) 10,753 11,126 Available-for-sale, at fair value 10,832 11,915 Trading, at fair value 32 465 Total investment securities 21,617 23,506 Loans held for sale 36 8 Loans and leases, net of unearned income and fees 56,917 55,653 Less allowance for loan and lease losses 651 575 Loans held for investment, net of allowance 56,266 55,078 Other noninterest-bearing investments 956 1,130 Premises, equipment and software, net 1,414 1,408 Goodwill and intangibles 1,062 1,065 Other real estate owned 3 3 Other assets 2,863 2,924 Total assets $ 87,230 $ 89,545 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 28,670 $ 35,777 Interest-bearin Savings and money market 33,394 33,566 Time 12,259 2,309 Total deposits 74,323 71,652 Federal funds and other short-term borrowings 5,513 10,417 Long-term debt 538 651 Reserve for unfunded lending commitments 60 61 Other liabilities 1,513 1,871 Total liabilities 81,947 84,652 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 440 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 148,144 and 148,664 shares) and additional paid-in capital 1,722 1,754 Retained earnings 6,051 5,811 Accumulated other comprehensive income (loss) ( 2,930 ) ( 3,112 ) Total shareholders’ equity 5,283 4,893 Total liabilities and shareholders’ equity $ 87,230 $ 89,545 See accompanying notes to consolidated financial statements. 38 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Unaudited) Three Months Ended June 30, Six Months Ended June 30, (In millions, except shares and per share amounts) 2023 2022 2023 2022 Interest income: Interest and fees on loans $ 791 $ 468 $ 1,517 $ 905 Interest on money market investments 48 12 105 18 Interest on securities 138 128 275 240 Total interest income 977 608 1,897 1,163 Interest expense: Interest on deposits 220 7 302 13 Interest on short- and long-term borrowings 166 8 325 13 Total interest expense 386 15 627 26 Net interest income 591 593 1,270 1,137 Provision for credit loss Provision for loan and lease losses 46 39 92 10 Provision for unfunded lending commitments — 2 ( 1 ) ( 2 ) Total provision for credit losses 46 41 91 8 Net interest income after provision for credit losses 545 552 1,179 1,129 Noninterest income: Commercial account fees 45 37 88 78 Card fees 25 25 49 50 Retail and business banking fees 16 20 32 40 Loan-related fees and income 19 21 40 43 Capital markets fees 27 21 44 36 Wealth management fees 14 13 29 27 Other customer-related fees 16 17 31 31 Customer-related noninterest income 162 154 313 305 Fair value and nonhedge derivative income 1 10 ( 2 ) 16 Dividends and other income (loss) 26 7 37 9 Securities gains (losses), net — 1 1 ( 16 ) Total noninterest income 189 172 349 314 Noninterest expense: Salaries and employee benefits 324 307 663 619 Technology, telecom, and information processing 58 53 113 105 Occupancy and equipment, net 40 36 80 74 Professional and legal services 16 14 29 28 Marketing and business development 13 9 25 17 Deposit insurance and regulatory expense 22 13 40 23 Credit-related expense 7 7 13 14 Other real estate expense, net — — — 1 Other 28 25 57 47 Total noninterest expense 508 464 1,020 928 Income before income taxes 226 260 508 515 Income taxes 51 57 129 109 Net income 175 203 379 406 Preferred stock dividends ( 9 ) ( 8 ) ( 15 ) ( 16 ) Net earnings applicable to common shareholders $ 166 $ 195 $ 364 $ 390 Weighted average common shares outstanding during the perio Basic shares (in thousands) 147,692 150,635 147,852 150,958 Diluted shares (in thousands) 147,696 150,838 147,865 151,264 Net earnings per common sh Basic $ 1.11 $ 1.29 $ 2.44 $ 2.56 Diluted 1.11 1.29 2.44 2.56 See accompanying notes to consolidated financial statements. 39 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Unaudited) Three Months Ended June 30, Six Months Ended June 30, (In millions) 2023 2022 2023 2022 Net income for the period $ 175 $ 203 $ 379 $ 406 Other comprehensive income (loss), net of t Net unrealized holding gains (losses) on investment securities 1 ( 32 ) ( 698 ) 94 ( 1,820 ) Net unrealized losses on other noninterest-bearing investments — ( 1 ) — ( 1 ) Net unrealized holding gains (losses) on derivative instruments ( 8 ) ( 50 ) 21 ( 184 ) Reclassification adjustment for decrease (increase) in interest income recognized in earnings on derivative instruments 30 ( 5 ) 67 ( 15 ) Total other comprehensive income (loss), net of tax ( 10 ) ( 754 ) 182 ( 2,020 ) Comprehensive income (loss) $ 165 $ ( 551 ) $ 561 $ ( 1,614 ) See accompanying notes to consolidated financial statements. 1 For the three and six months ended June 30, 2023, the amounts include $ 86 million and $ 9 million related to the decline in the fair value of fixed-rate AFS securities as a result of higher interest rates, offset by $ 54 million and $ 103 million in amortization of the discount on the securities transferred from AFS to HTM during the fourth quarter of 2022, respectively. CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited) (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at March 31, 2023 $ 440 148,100 $ — $ 1,715 $ 5,949 $ ( 2,920 ) $ 5,184 Net income for the period 175 175 Other comprehensive loss, net of tax ( 10 ) ( 10 ) Net activity under employee plans and related tax benefits 44 7 7 Dividends on preferred stock ( 9 ) ( 9 ) Dividends on common stock, $ 0.41 per share ( 61 ) ( 61 ) Change in deferred compensation ( 3 ) ( 3 ) Balance at June 30, 2023 $ 440 148,144 $ — $ 1,722 $ 6,051 $ ( 2,930 ) $ 5,283 Balance at March 31, 2022 $ 440 151,348 $ — $ 1,889 $ 5,311 $ ( 1,346 ) $ 6,294 Net income for the period 203 203 Other comprehensive loss, net of tax ( 754 ) ( 754 ) Bank common stock repurchased ( 936 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 59 6 6 Dividends on preferred stock ( 8 ) ( 8 ) Dividends on common stock, $ 0.38 per share ( 58 ) ( 58 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at June 30, 2022 $ 440 150,471 $ — $ 1,845 $ 5,447 $ ( 2,100 ) $ 5,632 40 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2022 $ 440 148,664 $ — $ 1,754 $ 5,811 $ ( 3,112 ) $ 4,893 Net income for the period 379 379 Other comprehensive income, net of tax 182 182 Cumulative effect adjustment, due to adoption of ASU 2022-02, net of tax 2 2 Bank common stock repurchased ( 953 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 433 18 18 Dividends on preferred stock ( 15 ) ( 15 ) Dividends on common stock, $ 0.82 per share ( 122 ) ( 122 ) Change in deferred compensation ( 4 ) ( 4 ) Balance at June 30, 2023 $ 440 148,144 $ — $ 1,722 $ 6,051 $ ( 2,930 ) $ 5,283 Balance at December 31, 2021 $ 440 151,625 $ — $ 1,928 $ 5,175 $ ( 80 ) $ 7,463 Net income for the period 406 406 Other comprehensive loss, net of tax ( 2,020 ) ( 2,020 ) Bank common stock repurchased ( 1,714 ) ( 101 ) ( 101 ) Net activity under employee plans and related tax benefits 560 18 18 Dividends on preferred stock ( 16 ) ( 16 ) Dividends on common stock, $ 0.76 per share ( 116 ) ( 116 ) Change in deferred compensation ( 2 ) ( 2 ) Balance at June 30, 2022 $ 440 150,471 $ — $ 1,845 $ 5,447 $ ( 2,100 ) $ 5,632 41 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In millions) Six Months Ended June 30, 2023 2022 CASH FLOWS FROM OPERATING ACTIVITIES Net income for the period $ 379 $ 406 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses 91 8 Depreciation and amortization 72 45 Share-based compensation 24 22 Deferred income tax expense (benefit) ( 13 ) 29 Net decrease in trading securities 433 67 Net decrease (increase) in loans held for sale ( 25 ) 42 Change in other liabilities ( 363 ) 389 Change in other assets 164 ( 205 ) Other, net 57 1 Net cash provided by operating activities 819 804 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease in money market investments 1,454 8,895 Proceeds from maturities and paydowns of investment securities held-to-maturity 526 48 Purchases of investment securities held-to-maturity ( 21 ) ( 220 ) Proceeds from sales, maturities, and paydowns of investment securities available-for-sale 1,328 1,915 Purchases of investment securities available-for-sale ( 301 ) ( 5,773 ) Net change in loans and leases ( 1,311 ) ( 1,476 ) Purchases and sales of other noninterest-bearing investments 176 ( 1 ) Purchases of premises and equipment ( 53 ) ( 102 ) Other, net ( 18 ) 11 Net cash provided by investing activities 1,780 3,297 CASH FLOWS FROM FINANCING ACTIVITIES Net increase (decrease) in deposits 2,671 ( 3,728 ) Net change in short-term borrowed funds ( 4,904 ) 115 Redemption of long-term debt ( 128 ) ( 290 ) Proceeds from the issuance of common stock 2 8 Dividends paid on common and preferred stock ( 138 ) ( 130 ) Bank common stock repurchased ( 50 ) ( 101 ) Other, net ( 8 ) ( 11 ) Net cash used in financing activities ( 2,555 ) ( 4,137 ) Net increase (decrease) in cash and due from banks 44 ( 36 ) Cash and due from banks at beginning of period 657 595 Cash and due from banks at end of period $ 701 $ 559 Cash paid for interest $ 546 $ 31 Net cash paid for income taxes 231 4 Noncash activiti Loans held for investment reclassified to loans held for sale, net 49 61 See accompanying notes to consolidated financial statements. 42 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) June 30, 2023 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Zions Bancorporation, National Association and its majority-owned subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). The results of operations for the three and six months ended June 30, 2023 and 2022 are not necessarily indicative of the results that may be expected in future periods. In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. For further information, refer to the consolidated financial statements and accompanying footnotes included in our 2022 Form 10-K. We evaluated events that occurred between June 30, 2023 and the date the accompanying financial statements were issued, and determined that there were no material events that would require adjustments to our consolidated financial statements or significant disclosure in the accompanying Notes. As referenced in Note 7 of the Notes to Consolidated Financial Statements, we entered into additional pay-fixed swaps with an aggregate notional amount of $ 1 billion that were designated as fair value hedges of a defined portfolio of fixed-rate commercial loans in July 2023. Zions Bancorporation, N.A. is a commercial bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These include Zions Bank, in Utah, Idaho, and Wyoming; California Bank & Trust (“CB&T”); Amegy Bank (“Amegy”), in Texas; National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”), in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under the name The Commerce Bank of Oregon in Oregon. 43 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 2. RECENT ACCOUNTING PRONOUNCEMENTS Standard Description Date of adoption Effect on the financial statements or other significant matters Standards not yet adopted by the Bank ASU 2023-02, Investments—Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Tax Credit Structures Using the Proportional Amortization Method (a consensus of the Emerging Issues Task Force) This Accounting Standards Update (“ASU”) expands the optional use of the proportional amortization method (“PAM”), previously limited to investments in low-income housing tax credit (“LIHTC”) structures, to any eligible equity investments made primarily for the purpose of receiving income tax credit and other tax benefits when certain criteria are met. PAM results in the cost of the investment being amortized in proportion to the income tax credits and other income tax benefits received, with the amortization of the investment and the income tax credits being presented net in the income statement as a component of income tax expense (benefit). This ASU allows for an accounting policy election to apply PAM on a tax-credit-program-by-tax-credit-program basis. The ASU also includes additional disclosure requirements about equity investments accounted for using PAM. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 We do not currently have any additional equity investments that are eligible for PAM under the provisions of this ASU. We will continue to evaluate its use for new investments. The overall effect of the guidance is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. ASU 2022-03, Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions This ASU clarifies that contractual restrictions prohibiting the sale of an equity security are not considered part of the unit of account of the equity security, and therefore, are not considered in measuring fair value. The amendments clarify that an entity cannot recognize and measure a contractual sale restriction as a separate unit of account. The amendments in this ASU also require additional qualitative and quantitative disclosures for equity securities subject to contractual sale restrictions. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 The requirements of this ASU are consistent with our current treatment of equity securities subject to contractual sale restrictions and are not expected to impact the fair value measurements of these securities. We are evaluating supplementary disclosure requirements and additional data needed to meet these requirements. The overall effect of this standard is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. Standards adopted by the Bank ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures This ASU eliminated the recognition and measurement requirements for troubled debt restructurings (“TDRs”) for creditors that have adopted ASC 326 (“CECL”), eliminated certain TDR disclosures, and required enhanced disclosures about loan modifications for borrowers experiencing financial difficulty. The new standard also required public companies to present current period gross charge-offs (on a current year-to-date basis for interim-period disclosures) by year of origination in their vintage disclosures. Periods beginning after December 15, 2022 We adopted this ASU on a modified retrospective basis on January 1, 2023. It did not have a material impact on our financial statements. 44 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 3. FAIR VALUE Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. For more information about our valuation methodologies for assets and liabilities measured at fair value and the fair value hierarchy, see Note 3 of our 2022 Form 10-K. Fair Value Hierarchy The following schedule presents assets and liabilities measured at fair value on a recurring basis: (In millions) June 30, 2023 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies, and corporations $ 475 $ 8,943 $ — $ 9,418 Municipal securities 1,391 1,391 Other debt securities 23 23 Total available-for-sale 475 10,357 — 10,832 Trading securities 32 32 Other noninterest-bearing investments: Bank-owned life insurance 549 549 Private equity investments 1 3 84 87 Other assets: Agriculture loan servicing and interest-only strips 17 17 Loans held for sale 20 20 Deferred compensation plan assets 114 114 Derivatives 491 491 Total assets $ 592 $ 11,449 $ 101 $ 12,142 LIABILITIES Securities sold, not yet purchased $ 347 $ — $ — $ 347 Other liabiliti Derivatives 409 409 Total liabilities $ 347 $ 409 $ — $ 756 1 The Level 1 private equity investments (“PEIs”) relate to the portion of our Small Business Investment Company (“SBIC”) investments that are publicly traded. 45 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) December 31, 2022 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies, and corporations $ 393 $ 9,815 $ — $ 10,208 Municipal securities 1,634 1,634 Other debt securities 73 73 Total available-for-sale 393 11,522 — 11,915 Trading securities 395 70 465 Other noninterest-bearing investments: Bank-owned life insurance 546 546 Private equity investments 1 4 81 85 Other assets: Agriculture loan servicing and interest-only strips 14 14 Deferred compensation plan assets 114 114 Derivatives 386 386 Total assets $ 906 $ 12,524 $ 95 $ 13,525 LIABILITIES Securities sold, not yet purchased $ 187 $ — $ — $ 187 Other liabiliti Derivatives 451 451 Total liabilities $ 187 $ 451 $ — $ 638 1 The Level 1 PEIs relate to the portion of our SBIC investments that are publicly traded. Level 3 Valuations Our Level 3 financial instruments include PEIs, agriculture loan servicing, and interest-only strips. For additional information regarding our Level 3 financial instruments, including the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2022 Form 10-K. Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments Three Months Ended Six Months Ended June 30, 2023 June 30, 2022 June 30, 2023 June 30, 2022 (In millions) Private equity investments Ag loan servicing & interest-only strips Private equity investments Ag loan servicing & interest-only strips Private equity investments Ag loan servicing & interest-only strips Private equity investments Ag loan servicing & interest-only strips Balance at beginning of period $ 82 $ 18 $ 74 $ 12 $ 81 $ 14 $ 66 $ 12 Unrealized securities gains (losses), net ( 3 ) — — — ( 3 ) — 5 — Other noninterest income (expense) — ( 1 ) — — — 3 — — Purchases 5 — 3 — 6 — 9 — Cost of investments sold — — — — — — ( 3 ) — Transfers out 1 — — — — — — — — Balance at end of period $ 84 $ 17 $ 77 $ 12 $ 84 $ 17 $ 77 $ 12 1 Represents the transfer of SBIC investments out of Level 3 and into Level 1 because they are publicly traded. 46 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The rollforward of Level 3 instruments includes the following realized gains and losses recognized in securities gains (losses) on the consolidated statement of income for the periods present (In millions) Three Months Ended Six Months Ended June 30, 2023 June 30, 2022 June 30, 2023 June 30, 2022 Securities gains (losses), net $ — $ — $ — $ ( 2 ) Nonrecurring Fair Value Measurements Certain assets and liabilities may be measured at fair value on a nonrecurring basis, including impaired loans that have been measured based on the fair value of the underlying collateral, other real estate owned (“OREO”), and equity investments without readily determinable fair values. Nonrecurring fair value adjustments generally include changes in value resulting from observable price changes for equity investments without readily determinable fair values, write-downs of individual assets, or the application of lower of cost or fair value accounting. At June 30, 2023, we had $ 10 million of collateral-dependent loans classified in Level 2, and we recognized $ 4 million of losses from fair value changes related to these loans. At December 31, 2022, we had an insignificant amount of assets or liabilities that had fair value changes measured on a nonrecurring basis. For additional information regarding the measurement of fair value for impaired loans, collateral-dependent loans, and OREO, see Note 3 of our 2022 Form 10-K. Fair Value of Certain Financial Instruments The following schedule presents the carrying values and estimated fair values of certain financial instruments: June 30, 2023 December 31, 2022 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: Held-to-maturity investment securities $ 10,753 $ 10,768 2 $ 11,126 $ 11,239 2 Loans and leases (including loans held for sale), net of allowance 56,302 53,885 3 55,086 53,093 3 Financial liabiliti Time deposits 12,259 12,187 2 2,309 2,269 2 Long-term debt 538 460 2 651 635 2 The previous schedule does not include certain financial instruments that are recorded at fair value on a recurring basis, as well as certain financial assets and liabilities for which the carrying value approximates fair value. For additional information regarding the financial instruments within the scope of this disclosure, and the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2022 Form 10-K. Fair Value Option for Certain Loans Held for Sale During the second quarter of 2023, we elected the fair value option for certain commercial real estate loans that are intended for sale or securitization and are hedged with derivative instruments. Electing the fair value option reduces the accounting volatility that would otherwise result from the asymmetry created by accounting for the loans held for sale at the lower of cost or fair value and the derivatives at fair value without the complexity of applying hedge accounting. These loans are presented in “Loans held for sale” on the consolidated balance sheet, and associated gains and losses are presented in “Capital markets fees” on the consolidated statement of income. These commercial real estate loans measured at fair value are generally classified in Level 2 in the fair value hierarchy because their pricing is based on observable market inputs. At June 30, 2023, we had $ 19.8 million of loans measured at fair value ($ 20.0 million par value). For the second quarter of 2023, we recognized approximately $ 2 million of net gains from fair value changes of loans carried at fair value and the associated derivatives. 47 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 4. OFFSETTING ASSETS AND LIABILITIES The following schedules present gross and net information for selected financial instruments on the balance sheet. June 30, 2023 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 868 $ ( 87 ) $ 781 $ — $ — $ 781 Derivatives (included in other assets) 491 — 491 ( 9 ) ( 470 ) 12 Total assets $ 1,359 $ ( 87 ) $ 1,272 $ ( 9 ) $ ( 470 ) $ 793 Liabiliti Federal funds and other short-term borrowings $ 5,600 $ ( 87 ) $ 5,513 $ — $ — $ 5,513 Derivatives (included in other liabilities) 409 — 409 ( 9 ) ( 1 ) 399 Total liabilities $ 6,009 $ ( 87 ) $ 5,922 $ ( 9 ) $ ( 1 ) $ 5,912 December 31, 2022 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 2,451 $ ( 25 ) $ 2,426 $ — $ — $ 2,426 Derivatives (included in other assets) 386 — 386 ( 10 ) ( 367 ) 9 Total assets $ 2,837 $ ( 25 ) $ 2,812 $ ( 10 ) $ ( 367 ) $ 2,435 Liabiliti Federal funds and other short-term borrowings $ 10,442 $ ( 25 ) $ 10,417 $ — $ — $ 10,417 Derivatives (included in other liabilities) 451 — 451 ( 10 ) — 441 Total liabilities $ 10,893 $ ( 25 ) $ 10,868 $ ( 10 ) $ — $ 10,858 Security repurchase and reverse repurchase agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 5. INVESTMENTS Investment Securities Investment securities are classified as held-to-maturity (“HTM”), available-for-sale (“AFS”), or trading. HTM securities, which management has the intent and ability to hold until maturity, are measured at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. When a security is transferred from AFS to HTM, the difference between its amortized cost basis and fair value at the date of transfer is amortized as a yield adjustment through interest income, and the fair value at the date of transfer results in a discount to the amortized cost basis of the HTM securities. The amortization of the unrealized losses reported in accumulated other comprehensive income (“AOCI”) will offset the effect of the accretion of the discount in interest income that is created by the transfer. 48 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES AFS securities are measured at fair value, and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to AOCI, net of related taxes. Trading securities are measured at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 67 million and $ 75 million at June 30, 2023 and December 31, 2022, respectively. These receivables are presented on the consolidated balance sheet in “Other assets.” See Notes 3 and 5 of our 2022 Form 10-K for more information regarding our process to estimate the fair value and accounting for our investment securities, respectively. The following schedule presents the amortized cost and estimated fair values of our HTM and AFS securiti June 30, 2023 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 96 $ — $ 6 $ 90 Agency guaranteed mortgage-backed securities 1 10,289 116 70 10,335 Municipal securities 368 — 25 343 Total held-to-maturity 10,753 116 101 10,768 Available-for-sale U.S. Treasury securities 565 — 90 475 U.S. Government agencies and corporatio Agency securities 717 — 40 677 Agency guaranteed mortgage-backed securities 8,991 — 1,344 7,647 Small Business Administration loan-backed securities 646 — 27 619 Municipal securities 1,480 — 89 1,391 Other debt securities 25 — 2 23 Total available-for-sale 12,424 — 1,592 10,832 Total HTM and AFS investment securities $ 23,177 $ 116 $ 1,693 $ 21,600 December 31, 2022 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 100 $ — $ 7 $ 93 Agency guaranteed mortgage-backed securities 1 10,621 165 14 10,772 Municipal securities 405 — 31 374 Total held-to-maturity 11,126 165 52 11,239 Available-for-sale U.S. Treasury securities 557 — 164 393 U.S. Government agencies and corporatio Agency securities 782 — 46 736 Agency guaranteed mortgage-backed securities 9,652 — 1,285 8,367 Small Business Administration loan-backed securities 740 1 29 712 Municipal securities 1,732 1 99 1,634 Other debt securities 75 — 2 73 Total available-for-sale 13,538 2 1,625 11,915 Total HTM and AFS investment securities $ 24,664 $ 167 $ 1,677 $ 23,154 1 During the fourth quarter of 2022, we transferred approximately $ 10.7 billion fair value ($ 13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category to reflect our intent for these securities. The transfer of these securities from AFS to HTM at fair value resulted in a discount to the amortized cost basis of the HTM securities equivalent to the $ 2.4 billion ($ 1.8 billion after tax) of unrealized losses in AOCI. The amortization of the unrealized losses will offset the effect of the accretion of the discount created by the transfer. At June 30, 2023, the unamortized discount on the HTM securities totaled approximately $ 2.2 billion ($ 1.7 billion after tax). 49 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Maturities The following schedule presents the amortized cost and weighted average yields of debt securities by contractual maturity of principal payments at June 30, 2023. This schedule does not reflect the duration of the portfolio, which would incorporate amortization, expected prepayments, interest rate resets, and fair value hedges. June 30, 2023 Total debt securities Due in one year or less Due after one year through five years Due after five years through ten years Due after ten years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 96 3.54 % $ — — % $ — — % $ — — % $ 96 3.54 % Agency guaranteed mortgage-backed securities 10,289 1.84 — — — — 46 2.02 10,243 1.84 Municipal securities 1 368 3.15 27 2.77 135 2.98 168 3.33 38 3.19 Total held-to-maturity securities 10,753 1.90 27 2.77 135 2.98 214 3.05 10,377 1.86 Available-for-sale U.S. Treasury securities 565 3.12 164 5.01 — — — — 401 2.35 U.S. Government agencies and corporatio Agency securities 717 2.65 114 1.07 191 3.13 218 2.63 194 3.12 Agency guaranteed mortgage-backed securities 8,991 1.99 21 4.38 233 1.56 1,502 2.09 7,235 1.97 Small Business Administration loan-backed securities 646 5.22 — — 33 5.84 146 4.30 467 5.46 Municipal securities 1 1,480 2.18 122 2.40 500 2.62 678 1.84 180 2.08 Other debt securities 25 8.53 — — — — 10 9.50 15 7.88 Total available-for-sale securities 12,424 2.28 421 3.15 957 2.58 2,554 2.22 8,492 2.22 Total HTM and AFS investment securities $ 23,177 2.10 % $ 448 3.13 % $ 1,092 2.63 % $ 2,768 2.29 % $ 18,869 2.02 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis. 50 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents gross unrealized losses for AFS securities and the estimated fair value by length of time the securities have been in an unrealized loss position. June 30, 2023 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ — $ 55 $ 90 $ 311 $ 90 $ 366 U.S. Government agencies and corporatio Agency securities 2 33 38 617 40 650 Agency guaranteed mortgage-backed securities 83 482 1,261 7,140 1,344 7,622 Small Business Administration loan-backed securities — 21 27 525 27 546 Municipal securities 7 495 82 871 89 1,366 Other — — 2 13 2 13 Total available-for-sale investment securities $ 92 $ 1,086 $ 1,500 $ 9,477 $ 1,592 $ 10,563 December 31, 2022 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ 94 $ 308 $ 70 $ 85 $ 164 $ 393 U.S. Government agencies and corporatio Agency securities 39 634 7 102 46 736 Agency guaranteed mortgage-backed securities 447 4,322 838 4,042 1,285 8,364 Small Business Administration loan-backed securities 8 101 21 524 29 625 Municipal securities 63 1,295 36 256 99 1,551 Other 2 13 — — 2 13 Total available-for-sale investment securities $ 653 $ 6,673 $ 972 $ 5,009 $ 1,625 $ 11,682 At June 30, 2023 and December 31, 2022, approximately 3,219 and 3,562 AFS investment securities were in an unrealized loss position, respectively. Impairment On a quarterly basis, we review our investment securities portfolio for the presence of impairment on an individual security basis. For additional information on our policy and impairment evaluation process for investment securities, see Note 5 of our 2022 Form 10-K. AFS Impairment We did not recognize any impairment on our AFS investment securities portfolio during the first six months of 2023. Unrealized losses primarily relate to changes in interest rates subsequent to purchase and are not attributable to credit; as such, absent any future sales, we would expect to receive the full principal value at maturity. At June 30, 2023, we had not initiated any sales of AFS securities, nor did we have an intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not that we would be required to sell such securities before recovery of their amortized cost basis. HTM Impairment For HTM securities, the allowance for credit losses (“ACL”) is assessed consistent with the approach described in Note 6 for loans and leases measured at amortized cost. At June 30, 2023, the ACL on HTM securities was less than $ 1 million, all HTM securities were risk-graded as “ Pass ” in terms of credit quality, and none were considered past due. 51 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Securities Gains and Losses Recognized in Income The following schedule presents securities gains and losses recognized in the consolidated income statement. Three Months Ended June 30, Six Months Ended June 30, 2023 2022 2023 2022 (In millions) Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Available-for-sale $ 71 $ 71 $ — $ — $ 72 $ 73 $ — $ — Trading 7 7 — — 10 9 — — Other noninterest-bearing investments 10 10 1 — 13 12 5 21 Total gains 88 88 1 — 95 94 5 21 Net gains (losses) 1 $ — $ 1 $ 1 $ ( 16 ) 1 Net gains (losses) were recognized in securities gains (losses) in the income statement. The following schedule presents interest income by security type. Three Months Ended June 30, 2023 2022 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 59 $ 1 $ 60 $ 3 $ 1 $ 4 Available-for-sale 69 8 77 109 11 120 Trading — 1 1 — 4 4 Total securities $ 128 $ 10 $ 138 $ 112 $ 16 $ 128 Six Months Ended June 30, 2023 2022 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 120 $ 2 $ 122 $ 5 $ 2 $ 7 Available-for-sale 138 14 152 205 19 224 Trading — 1 1 — 9 9 Total securities $ 258 $ 17 $ 275 $ 210 $ 30 $ 240 52 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific loan class: (In millions) June 30, 2023 December 31, 2022 Loans held for sale $ 36 $ 8 Commerci Commercial and industrial 1 $ 16,622 $ 16,377 Leasing 388 386 Owner-occupied 9,328 9,371 Municipal 4,354 4,361 Total commercial 30,692 30,495 Commercial real estate: Construction and land development 2,498 2,513 Term 10,406 10,226 Total commercial real estate 12,904 12,739 Consume Home equity credit line 3,291 3,377 1-4 family residential 7,980 7,286 Construction and other consumer real estate 1,434 1,161 Bankcard and other revolving plans 466 471 Other 150 124 Total consumer 13,321 12,419 Total loans and leases $ 56,917 $ 55,653 1 Commercial and industrial loan balances include Paycheck Protection Program (“PPP”) loans of $ 126 million and $ 197 million for the respective periods presented. Loans and leases are measured and presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 38 million and $ 49 million at June 30, 2023 and December 31, 2022, respectively. Amortized cost basis does not include accrued interest receivables of $ 263 million and $ 247 million at June 30, 2023 and December 31, 2022, respectively. These receivables are presented in the consolidated balance sheet within the “ Other assets ” line item. Municipal loans generally include loans to state and local governments (“municipalities”) with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 229 million at June 30, 2023 and $ 262 million at December 31, 2022. Loans with a carrying value of $ 39.8 billion at June 30, 2023 and $ 27.6 billion at December 31, 2022 have been pledged at the Federal Reserve (“FRB”) and the Federal Home Loan Bank (“FHLB”) of Des Moines as collateral for current and potential borrowings. At the time of origination, we determine the classification of loans as either held for investment or held for sale. Loans held for sale are measured at fair value or the lower of cost or fair value and primarily consist of (1) commercial real estate loans that are sold into securitization entities, and (2) conforming residential mortgages that are generally sold to U.S. government agencies. The following schedule presents loans added to, or sold from, the held for sale category during the periods presented. 53 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Three Months Ended June 30, Six Months Ended June 30, (In millions) 2023 2022 2023 2022 Loans added to held for sale $ 220 $ 190 $ 306 $ 487 Loans sold from held for sale 188 187 277 523 Occasionally, we have continuing involvement in the sold loans in the form of servicing rights or guarantees. The principal balance of sold loans for which we retain servicing was $ 3.4 billion and $ 3.5 billion at June 30, 2023 and December 31, 2022, respectively. Income from sold loans, excluding servicing, was $ 2 million and $ 7 million for the three and six months ended June 30, 2023, and $ 4 million and $ 10 million for the three and six months ended June 30, 2022, respectively. Allowance for Credit Losses The allowance for credit losses (“ACL”), which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. For additional information regarding our policies and methodologies used to estimate the ACL, see Note 6 of our 2022 Form 10-K. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is estimated consistent with the approach for loans measured at amortized cost. See Note 5 of our 2022 Form 10-K for further discussion of our methodology used to estimate the ACL on AFS and HTM debt securities. Changes in the ACL are summarized as follows: Three Months Ended June 30, 2023 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 313 $ 160 $ 145 $ 618 Provision for loan losses 24 21 1 46 Gross loan and lease charge-offs 20 — 2 22 Recoveries 6 — 3 9 Net loan and lease charge-offs (recoveries) 14 — ( 1 ) 13 Balance at end of period $ 323 $ 181 $ 147 $ 651 Reserve for unfunded lending commitments Balance at beginning of period $ 19 $ 28 $ 13 $ 60 Provision for unfunded lending commitments 1 1 ( 2 ) — Balance at end of period $ 20 $ 29 $ 11 $ 60 Total allowance for credit losses at end of period Allowance for loan losses $ 323 $ 181 $ 147 $ 651 Reserve for unfunded lending commitments 20 29 11 60 Total allowance for credit losses $ 343 $ 210 $ 158 $ 711 54 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2023 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at December 31, 2022 $ 300 $ 156 $ 119 $ 575 Adjustment for change in accounting standard — ( 4 ) 1 ( 3 ) Balance at beginning of period $ 300 $ 152 $ 120 $ 572 Provision for loan losses 34 29 29 92 Gross loan and lease charge-offs 23 — 6 29 Recoveries 12 — 4 16 Net loan and lease charge-offs (recoveries) 11 — 2 13 Balance at end of period $ 323 $ 181 $ 147 $ 651 Reserve for unfunded lending commitments Balance at beginning of period $ 16 $ 33 $ 12 $ 61 Provision for unfunded lending commitments 4 ( 4 ) ( 1 ) ( 1 ) Balance at end of period $ 20 $ 29 $ 11 $ 60 Total allowance for credit losses at end of period Allowance for loan losses $ 323 $ 181 $ 147 $ 651 Reserve for unfunded lending commitments 20 29 11 60 Total allowance for credit losses $ 343 $ 210 $ 158 $ 711 Three Months Ended June 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 282 $ 102 $ 94 $ 478 Provision for loan losses 12 12 15 39 Gross loan and lease charge-offs 15 — 3 18 Recoveries 7 — 2 9 Net loan and lease charge-offs (recoveries) 8 — 1 9 Balance at end of period $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments Balance at beginning of period $ 14 $ 12 $ 10 $ 36 Provision for unfunded lending commitments ( 1 ) 3 — 2 Balance at end of period $ 13 $ 15 $ 10 $ 38 Total allowance for credit losses at end of period Allowance for loan losses $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments 13 15 10 38 Total allowance for credit losses $ 299 $ 129 $ 118 $ 546 55 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 311 $ 107 $ 95 $ 513 Provision for loan losses ( 12 ) 7 15 10 Gross loan and lease charge-offs 28 — 7 35 Recoveries 15 — 5 20 Net loan and lease charge-offs (recoveries) 13 — 2 15 Balance at end of period $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments Balance at beginning of period $ 19 $ 11 $ 10 $ 40 Provision for unfunded lending commitments ( 6 ) 4 — ( 2 ) Balance at end of period $ 13 $ 15 $ 10 $ 38 Total allowance for credit losses at end of period Allowance for loan losses $ 286 $ 114 $ 108 $ 508 Reserve for unfunded lending commitments 13 15 10 38 Total allowance for credit losses $ 299 $ 129 $ 118 $ 546 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement, (2) the loan, if secured, is well-secured, (3) the borrower has paid according to the contractual terms for a minimum of six months, and (4) an analysis of the borrower indicates a reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of nonaccrual loans is summarized as follows: June 30, 2023 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 11 $ 60 $ 71 $ 33 Owner-occupied 20 9 29 1 Total commercial 31 69 100 34 Commercial real estate: Term 7 6 13 1 Total commercial real estate 7 6 13 1 Consume Home equity credit line — 12 12 3 1-4 family residential 2 35 37 5 Total consumer loans 2 47 49 8 Total $ 40 $ 122 $ 162 $ 43 56 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 8 $ 55 $ 63 $ 27 Owner-occupied 13 11 24 1 Total commercial 21 66 87 28 Commercial real estate: Term — 14 14 2 Total commercial real estate — 14 14 2 Consume Home equity credit line 1 10 11 2 1-4 family residential 9 28 37 3 Total consumer loans 10 38 48 5 Total $ 31 $ 118 $ 149 $ 35 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. When the collectability of the amortized cost basis for a nonaccrual loan is no longer in doubt, then interest payments may be recognized in interest income on a cash basis. For the three and six months ended June 30, 2023 and 2022, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. The amount of accrued interest receivables reversed from interest income during the periods presented is summarized by loan portfolio segment as follows: Three Months Ended June 30, Six Months Ended June 30, (In millions) 2023 2022 2023 2022 Commercial $ 3 $ 4 $ 5 $ 8 Commercial real estate — — — — Consumer 1 — 1 — Total $ 4 $ 4 $ 6 $ 8 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as bankcard and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. 57 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Past due loans (accruing and nonaccruing) are summarized as follows: June 30, 2023 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 16,594 $ 18 $ 10 $ 28 $ 16,622 $ 3 $ 57 Leasing 388 — — — 388 — — Owner-occupied 9,320 5 3 8 9,328 — 24 Municipal 4,347 7 — 7 4,354 — — Total commercial 30,649 30 13 43 30,692 3 81 Commercial real estate: Construction and land development 2,497 1 — 1 2,498 — — Term 10,385 18 3 21 10,406 3 13 Total commercial real estate 12,882 19 3 22 12,904 3 13 Consume Home equity credit line 3,275 12 4 16 3,291 — 6 1-4 family residential 7,950 10 20 30 7,980 — 14 Construction and other consumer real estate 1,434 — — — 1,434 — — Bankcard and other revolving plans 463 2 1 3 466 1 — Other 149 1 — 1 150 — — Total consumer loans 13,271 25 25 50 13,321 1 20 Total $ 56,802 $ 74 $ 41 $ 115 $ 56,917 $ 7 $ 114 December 31, 2022 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 16,331 $ 24 $ 22 $ 46 $ 16,377 $ 4 $ 45 Leasing 386 — — — 386 — — Owner-occupied 9,344 20 7 27 9,371 1 15 Municipal 4,361 — — — 4,361 — — Total commercial 30,422 44 29 73 30,495 5 60 Commercial real estate: Construction and land development 2,511 2 — 2 2,513 — — Term 10,179 37 10 47 10,226 — 4 Total commercial real estate 12,690 39 10 49 12,739 — 4 Consume Home equity credit line 3,369 5 3 8 3,377 — 6 1-4 family residential 7,258 9 19 28 7,286 — 16 Construction and other consumer real estate 1,161 — — — 1,161 — — Bankcard and other revolving plans 467 3 1 4 471 1 — Other 124 — — — 124 — — Total consumer loans 12,379 17 23 40 12,419 1 22 Total $ 55,491 $ 100 $ 62 $ 162 $ 55,653 $ 6 $ 86 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is still not expected. 58 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk-grading systems, which vary based on the size and type of credit risk exposure. The internal risk grades assigned to loans follow our definition of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. • Pass – A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention – A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard – A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful – A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were no loans classified as Doubtful at June 30, 2023 and December 31, 2022. For consumer loans and for commercial and commercial real estate (“CRE”) loans with commitments greater than $ 1 million, we generally assign internal risk grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The following schedule presents the amortized cost basis of loans and leases categorized by year of origination and by credit quality classification as monitored by management. The schedule also summarizes the current period gross charge-offs by year of origination. 59 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES June 30, 2023 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2023 2022 2021 2020 2019 Prior Total Commerci Commercial and industrial Pass $ 1,442 $ 2,955 $ 1,550 $ 758 $ 600 $ 703 $ 8,039 $ 177 $ 16,224 Special Mention 1 3 7 5 1 49 88 1 155 Accruing Substandard 1 37 3 3 33 28 65 2 172 Nonaccrual 5 5 2 2 1 1 52 3 71 Total commercial and industrial 1,449 3,000 1,562 768 635 781 8,244 183 16,622 Gross charge-offs — 6 5 — — — 7 2 20 Leasing Pass 53 146 58 38 54 31 — — 380 Special Mention — 1 1 — — — — — 2 Accruing Substandard — 2 — — — 4 — — 6 Nonaccrual — — — — — — — — — Total leasing 53 149 59 38 54 35 — — 388 Gross charge-offs — — — — — — — — — Owner-occupied Pass 662 2,027 2,077 1,058 761 2,128 199 48 8,960 Special Mention 2 5 66 3 17 13 2 — 108 Accruing Substandard 5 32 51 20 17 102 4 — 231 Nonaccrual 1 — 1 12 3 11 1 — 29 Total owner-occupied 670 2,064 2,195 1,093 798 2,254 206 48 9,328 Gross charge-offs — — — — — — — — — Municipal Pass 250 1,188 1,194 688 407 575 4 — 4,306 Special Mention — 38 — — — — — — 38 Accruing Substandard — — 6 3 1 — — — 10 Nonaccrual — — — — — — — — — Total municipal 250 1,226 1,200 691 408 575 4 — 4,354 Gross charge-offs — — — — — — — — — Total commercial 2,422 6,439 5,016 2,590 1,895 3,645 8,454 231 30,692 Total commercial gross charge-offs — 6 5 — — — 7 2 20 Commercial real estate: Construction and land development Pass 182 667 667 270 36 3 490 118 2,433 Special Mention 5 — — 12 — — 15 — 32 Accruing Substandard — 10 1 — 22 — — — 33 Nonaccrual — — — — — — — — — Total construction and land development 187 677 668 282 58 3 505 118 2,498 Gross charge-offs — — — — — — — — — Term Pass 876 2,704 1,888 1,673 969 1,639 219 173 10,141 Special Mention 23 17 1 41 2 9 — — 93 Accruing Substandard 30 23 1 37 27 41 — — 159 Nonaccrual — — — — 4 9 — — 13 Total term 929 2,744 1,890 1,751 1,002 1,698 219 173 10,406 Gross charge-offs — — — — — — — — — Total commercial real estate 1,116 3,421 2,558 2,033 1,060 1,701 724 291 12,904 Total commercial real estate gross charge-offs — — — — — — — — — 60 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES June 30, 2023 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2023 2022 2021 2020 2019 Prior Total Consume Home equity credit line Pass — — — — — — 3,184 93 3,277 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — 10 2 12 Total home equity credit line — — — — — — 3,196 95 3,291 Gross charge-offs — — — — — — — — — 1-4 family residential Pass 651 1,970 1,664 1,011 620 2,025 — — 7,941 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — — 2 3 4 28 — — 37 Total 1-4 family residential 651 1,970 1,666 1,014 624 2,055 — — 7,980 Gross charge-offs — — — — — — — — — Construction and other consumer real estate Pass 74 940 372 27 12 9 — — 1,434 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 74 940 372 27 12 9 — — 1,434 Gross charge-offs — — — — — — — — — Bankcard and other revolving plans Pass — — — — — — 462 2 464 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 464 2 466 Gross charge-offs — — — — — — 2 — 2 Other consumer Pass 61 48 24 8 6 3 — — 150 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 61 48 24 8 6 3 — — 150 Gross charge-offs — — — — — — — — — Total consumer 786 2,958 2,062 1,049 642 2,067 3,660 97 13,321 Total consumer gross charge-offs — — — — — — 2 — 2 Total loans $ 4,324 $ 12,818 $ 9,636 $ 5,672 $ 3,597 $ 7,413 $ 12,838 $ 619 $ 56,917 Total gross charge-offs $ — $ 6 $ 5 $ — $ — $ — $ 9 $ 2 $ 22 61 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total Commerci Commercial and industrial Pass $ 3,363 $ 1,874 $ 979 $ 876 $ 293 $ 264 $ 8,054 $ 182 $ 15,885 Special Mention 1 2 10 52 1 2 50 — 118 Accruing Substandard 26 7 17 78 30 67 84 2 311 Nonaccrual — 8 5 11 1 2 32 4 63 Total commercial and industrial 3,390 1,891 1,011 1,017 325 335 8,220 188 16,377 Leasing Pass 160 71 47 66 18 19 — — 381 Special Mention — — — — — — — — — Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 160 71 47 66 18 24 — — 386 Owner-occupied Pass 2,157 2,285 1,143 874 654 1,679 187 74 9,053 Special Mention 1 15 5 8 3 16 1 — 49 Accruing Substandard 16 33 48 20 55 64 9 — 245 Nonaccrual 1 1 2 4 5 10 1 — 24 Total owner-occupied 2,175 2,334 1,198 906 717 1,769 198 74 9,371 Municipal Pass 1,230 1,220 816 441 168 437 8 — 4,320 Special Mention 32 6 — — — — — — 38 Accruing Substandard — — — — — 3 — — 3 Nonaccrual — — — — — — — — — Total municipal 1,262 1,226 816 441 168 440 8 — 4,361 Total commercial 6,987 5,522 3,072 2,430 1,228 2,568 8,426 262 30,495 Commercial real estate: Construction and land development Pass 548 671 455 81 2 2 617 96 2,472 Special Mention 1 1 — — — — — — 2 Accruing Substandard 17 — — 22 — — — — 39 Nonaccrual — — — — — — — — — Total construction and land development 566 672 455 103 2 2 617 96 2,513 Term Pass 2,861 2,107 1,686 1,012 666 1,229 276 112 9,949 Special Mention 39 21 11 — 4 1 — — 76 Accruing Substandard 42 2 34 21 53 35 — — 187 Nonaccrual — — — 4 1 9 — — 14 Total term 2,942 2,130 1,731 1,037 724 1,274 276 112 10,226 Total commercial real estate 3,508 2,802 2,186 1,140 726 1,276 893 208 12,739 62 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total Consume Home equity credit line Pass — — — — — — 3,265 98 3,363 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 3 — 3 Nonaccrual — — — — — — 8 3 11 Total home equity credit line — — — — — — 3,276 101 3,377 1-4 family residential Pass 1,913 1,503 1,024 638 381 1,788 — — 7,247 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — 2 2 4 3 26 — — 37 Total 1-4 family residential 1,913 1,505 1,026 642 384 1,816 — — 7,286 Construction and other consumer real estate Pass 583 485 64 19 5 5 — — 1,161 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 583 485 64 19 5 5 — — 1,161 Bankcard and other revolving plans Pass — — — — — — 468 2 470 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 469 2 471 Other consumer Pass 68 30 12 8 4 2 — — 124 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 68 30 12 8 4 2 — — 124 Total consumer 2,564 2,020 1,102 669 393 1,823 3,745 103 12,419 Total loans $ 13,059 $ 10,344 $ 6,360 $ 4,239 $ 2,347 $ 5,667 $ 13,064 $ 573 $ 55,653 Loan Modifications On January 1, 2023, we adopted ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures, which eliminated the recognition and measurement of troubled debt restructurings (“TDRs”) and their related disclosures. As a result, we no longer separately measure an allowance for credit losses for TDRs, relying instead on our credit loss estimation models. The adoption of this guidance did not have a material impact on our financial statements. ASU 2022-02 requires enhanced disclosures for loan modifications to borrowers experiencing financial difficulty. Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications may also occur when the borrower experiences financial difficulty and needs 63 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES temporary or permanent relief from the original contractual terms of the loan. For loans that have been modified with a borrower experiencing financial difficulty, we use the same credit loss estimation methods that we use for the rest of the loan portfolio. These methods incorporate the post-modification loan terms, as well as defaults and charge-offs associated with historical modified loans. All nonaccruing loans more than $1 million are evaluated individually, regardless of modification. We consider many factors in determining whether to agree to a loan modification and we seek a solution that will both minimize potential loss to us and attempt to help the borrower. We evaluate borrowers’ current and forecasted future cash flows, their ability and willingness to make current contractual or proposed modified payments, the value of the underlying collateral (if applicable), the possibility of obtaining additional security or guarantees, and the potential costs related to a repossession or foreclosure and the subsequent sale of the collateral. A modified loan on nonaccrual will generally remain on nonaccrual until the borrower has proven the ability to perform under the modified structure for a minimum of six months, and there is evidence that such payments can and are likely to continue as agreed. Performance prior to the modification, or significant events that coincide with the modification, are included in assessing whether the borrower can meet the new terms and may result in the loan being returned to accrual at the time of modification or after a shorter performance period. If the borrower’s ability to meet the revised payment schedule is uncertain, the loan remains on nonaccrual. There were no loans to borrowers experiencing financial difficulty that had a payment default during the three and six months ended June 30, 2023, which were still in default at period end, and were within 12 months or less of being modified. The amortized cost of loans to borrowers experiencing financial difficulty that were modified during the period, by loan class and modification type, is summarized in the following schedu Three Months Ended June 30, 2023 Amortized cost associated with the following modification typ (In millions) Interest rate reduction Maturity or term extension Principal forgiveness Multiple modification types 1 Total 2 Percentage of total loans 3 Commerci Commercial and industrial $ 1 $ 27 $ — $ — $ 28 0.2 % Owner-occupied — 20 — — 20 0.2 Total commercial 1 47 — — 48 0.2 Commercial real estate: Construction and land development — 18 — — 18 0.7 Term — 34 — — 34 0.3 Total commercial real estate — 52 — — 52 0.4 Consume 1-4 family residential — — 1 1 2 — Bankcard and other revolving plans — 1 — — 1 0.2 Total consumer loans — 1 1 1 3 — Total $ 1 $ 100 $ 1 $ 1 $ 103 0.2 % 64 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2023 Amortized cost associated with the following modification typ (In millions) Interest rate reduction Maturity or term extension Principal forgiveness Multiple modification types 1 Total 2 Percentage of total loans 3 Commerci Commercial and industrial $ 1 $ 42 $ — $ — $ 43 0.3 % Owner-occupied 4 22 — — 26 0.3 Total commercial 5 64 — — 69 0.2 Commercial real estate: Construction and land development — 18 — — 18 0.7 Term — 58 — — 58 0.6 Total commercial real estate — 76 — — 76 0.6 Consume 1-4 family residential — — 1 1 2 — Bankcard and other revolving plans — 1 — — 1 0.2 Total consumer loans — 1 1 1 3 — Total $ 5 $ 141 $ 1 $ 1 $ 148 0.3 % 1 Includes modifications that resulted from a combination of interest rate reduction, maturity or term extension, principal forgiveness, and payment deferral modifications. 2 Unfunded lending commitments related to loans modified to borrowers experiencing financial difficulty totaled $ 10 million at June 30, 2023. 3 Amounts less than 0.05% are rounded to zero. The financial impact of loan modifications to borrowers experiencing financial difficulty during the three and six months ended June 30, 2023, is summarized in the following schedu Three Months Ended June 30, 2023 Six Months Ended June 30, 2023 (In millions) Weighted-average interest rate reduction (in percentage points) Weighted-average term extension (in months) Weighted-average interest rate reduction (in percentage points) Weighted-average term extension (in months) Commerci Commercial and industrial 1.0 % 8 1.0 % 9 Owner-occupied — 7 4.4 7 Total commercial 1.0 8 3.7 8 Commercial real estate: Construction and land development — 6 — 6 Term — 18 — 17 Total commercial real estate — 14 — 15 Consume 1 1-4 family residential 1.3 110 1.3 110 Bankcard and other revolving plans — 65 — 61 Total consumer loans 1.3 87 1.3 87 Total weighted average financial impact 1.1 % 12 3.4 % 13 1 Primarily relates to one loan within each consumer loan class. 65 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Loan modifications to borrowers experiencing financial difficulty during the three and six months ended June 30, 2023, resulted in $ 1 million of principal forgiveness for the total loan portfolio for both periods. The following schedule presents the aging of loans to borrowers experiencing financial difficulty that were modified on or after January 1, 2023 (the date we adopted ASU 2022-02) through June 30, 2023, presented by portfolio segment and loan class. June 30, 2023 (In millions) Current 30-89 days past due 90+ days past due Total past due Total amortized cost of loans Commerci Commercial and industrial $ 40 $ 3 $ — $ 3 $ 43 Owner-occupied 25 — 1 1 26 Total commercial 65 3 1 4 69 Commercial real estate: Construction and land development 18 — — — 18 Term 58 — — — 58 Total commercial real estate 76 — — — 76 Consume 1-4 family residential 2 — — — 2 Bankcard and other revolving plans 1 — — — 1 Total consumer loans 3 — — — 3 Total $ 144 $ 3 $ 1 $ 4 $ 148 Troubled Debt Restructuring Disclosures Prior to Our Adoption of ASU 2022-02 Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are considered TDRs. For further discussion of our policies and processes regarding TDRs, see Note 6 of our 2022 Form 10-K. 66 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Information on TDRs, including the amortized cost on an accruing and nonaccruing basis by loan class and modification type is summarized in the following schedul December 31, 2022 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 1 $ 12 $ — $ — $ 9 $ 28 $ 50 Owner-occupied — 1 — 2 13 12 28 Municipal — — — — — — — Total commercial 1 13 — 2 22 40 78 Commercial real estate: Construction and land development — — — — — 8 8 Term 1 27 — 27 28 1 84 Total commercial real estate 1 27 — 27 28 9 92 Consume Home equity credit line — 1 4 — — 1 6 1-4 family residential 2 1 2 — 1 15 21 Total consumer loans 2 2 6 — 1 16 27 Total accruing 4 42 6 29 51 65 197 Nonaccruing Commerci Commercial and industrial — — — 3 9 3 15 Owner-occupied 4 — — — — 4 8 Total commercial 4 — — 3 9 7 23 Commercial real estate: Term — 10 — — — — 10 Total commercial real estate — 10 — — — — 10 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 1 2 4 Total consumer loans — 1 1 — 1 2 5 Total nonaccruing 4 11 1 3 10 9 38 Total $ 8 $ 53 $ 7 $ 32 $ 61 $ 74 $ 235 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. Unfunded lending commitments related to TDRs totaled $ 7 million at December 31, 2022. The total amortized cost of all TDRs in which interest rates were modified below market was $ 63 million at December 31, 2022. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the year ended December 31, 2022 was not significant. 67 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. The amortized cost of TDRs that had a payment default during the year ended December 31, 2022, which were still in default at period end, and were within 12 months or less of being modified as TDRs was approximately $ 10 million. Collateral-Dependent Loans When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on (1) the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, (2) the observable market price of the loan, or (3) the fair value of the loan’s underlying collateral. Select information on loans for which the borrower is experiencing financial difficulties and repayment is expected to be provided substantially through the operation or sale of the underlying collateral, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: June 30, 2023 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 10 Accounts Receivable 81 % Owner-occupied 12 Hospital 29 % Commercial real estate: Term 3 Hotel, Multi-family 89 % Total $ 25 December 31, 2022 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Owner-occupied $ 2 Land, Warehouse 29 % Commercial real estate: Term 1 Multi-family 55 % Consume Home equity credit line 1 Single family residential 13 % 1-4 family residential 3 Single family residential 41 % Total $ 7 1 The fair value is based on the most recent appraisal or other collateral evaluation . Foreclosed Residential Real Estate At June 30, 2023 and December 31, 2022, we did no t have any foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that were in the process of foreclosure was $ 8 million and $ 10 million for the same periods, respectively. 68 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives and Accounting Our primary objective for using derivatives is to manage interest rate risk. We use derivatives to stabilize forecasted interest income from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities. We also assist clients with their risk management needs through the use of derivatives. Cash receipts and payments from derivatives designated in qualifying hedging relationships are classified in the same category as the cash flows from the items being hedged in the statement of cash flows, and cash flows from undesignated derivatives are classified as operating activities. For a more detailed discussion of the use of and accounting policies regarding derivative instruments, see Note 7 of our 2022 Form 10-K. Fair Value Hedges of Liabilities – During the second quarter of 2023, we terminated our remaining receive-fixed interest rate swap with a notional amount of $ 500 million that had been designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converted the interest on our fixed-rate debt to floating until it was terminated. Prior to termination, changes in the fair value of derivatives designated as fair value hedges of debt were offset by changes in the fair value of the hedged debt instruments as shown in the schedules on the following pages. The unamortized hedge basis adjustments resulting from the terminated hedging relationship will be amortized over the remaining life of the fixed-rate debt. Fair Value Hedges of Assets – During the second quarter of 2023, we entered into new fair value hedges of a defined portfolio of AFS securities using pay-fixed, receive-floating swaps with an aggregate notional amount of $ 2.5 billion that are designated as hedges under the portfolio layer method described in ASU 2022-01, Derivatives and Hedging (Topic 815): Fair Value Hedging—Portfolio Layer Method. In July 2023, we entered into additional pay-fixed swaps with an aggregate notional amount of $ 1 billion that were designated as fair value hedges of a defined portfolio of fixed-rate commercial loans. At June 30, 2023, we also had pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 1.1 billion designated as fair value hedges of specifically identified AFS securities. Fair value hedges of fixed-rate AFS securities effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. Changes in fair value of derivatives designated as fair value hedges of fixed-rate AFS securities were largely offset by changes in the value of the hedged securities, as shown in the schedules on the following pages. Cash Flow Hedges – At June 30, 2023, we had receive-fixed interest rate swaps with an aggregate notional amount of $ 2.9 billion designated as cash flow hedges of pools of floating-rate commercial loans. During the second quarter of 2023, we terminated cash flow hedging relationships with an aggregate notional amount of $ 2.8 billion. At June 30, 2023, there was $ 222 million of losses deferred in AOCI related to terminated cash flow hedges that are expected to be fully amortized by October 2027. Changes in the fair value of qualifying cash flow hedges during the quarter were recorded in AOCI as shown in the schedule below. The amounts deferred in AOCI are reclassified into earnings in the periods in which the hedged interest receipts occur (i.e., when the hedged forecasted transactions affect earnings). Collateral and Credit Risk Exposure to credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred as a result of counterparty nonperformance. For more information on how we incorporate counterparty credit risk in derivative valuations, see Note 3 of our 2022 Form 10-K. For additional discussion of collateral and the associated credit risk related to our derivative contracts, see Note 7 of our 2022 Form 10-K. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position at a given balance sheet date. Certain of these derivative contracts contain credit risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit risk-related feature were triggered, such as a downgrade of our credit rating. In past situations, not all counterparties have demanded that additional collateral be pledged when provided for by the contractual terms. At June 30, 2023, the fair value of our derivative liabilities was $ 409 million, for which we were required to pledge 69 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES cash collateral of $ 2 million in the normal course of business. If our credit rating were downgraded one notch by either Standard & Poor’s (“S&P”) or Moody’s at June 30, 2023, there would likely be no additional collateral required to be pledged. Derivative Amounts The following schedule presents information regarding notional amounts and recorded gross fair values at June 30, 2023 and December 31, 2022, and the related gain (loss) of derivative instruments. June 30, 2023 December 31, 2022 Notional amount 1 Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Receive-fixed interest rate swaps $ 2,850 $ — $ — $ 7,633 $ — $ 1 Cash flow hedges of floating-rate liabiliti Pay-fixed interest rate swaps 500 — — — — — Fair value hed Debt hed Receive-fixed interest rate swaps — — — 500 — — Asset hed Pay-fixed interest rate swaps 3,572 80 — 1,228 84 — Total derivatives designated as hedging instruments 6,922 80 — 9,361 84 1 Derivatives not designated as hedging instruments: Customer interest rate derivatives 2 13,726 406 407 13,670 296 443 Other interest rate derivatives 3,576 2 — 862 — — Foreign exchange derivatives 216 2 2 605 6 7 Purchased credit derivatives 18 1 — — — — Total derivatives not designated as hedging instruments 17,536 411 409 15,137 302 450 Total derivatives $ 24,458 $ 491 $ 409 $ 24,498 $ 386 $ 451 1 Centrally cleared swaps originally indexed to London Interbank Offered Rate (“LIBOR”) were divided into short-dated, LIBOR-indexed spot starting swaps and forward starting Secured Overnight Financing Rate (“SOFR”) swaps when the clearing houses transitioned to SOFR. The LIBOR-indexed swaps will fully mature in the third quarter of 2023. The notional amounts above reflect the economic substance of our derivatives and do not include the duplicate notional amounts during the transition period. 2 Customer interest rate derivatives include both customer-facing derivative as well as offsetting derivatives facing other dealer banks. The fair value of these derivatives include a net credit valuation adjustment (“CVA”) of $ 10 million, reducing the fair value of the liability at June 30, 2023, and $ 13 million, reducing the fair value of the liability at December 31, 2022. The amount of derivative gains (losses) from cash flow and fair value hedges that were deferred in other comprehensive income (“OCI”) or recognized in earnings for the three and six months ended June 30, 2023 and 2022 is presented in the schedules below. 70 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Three Months Ended June 30, 2023 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — Received-fixed interest rate swaps ( 21 ) ( 41 ) — Cash flow hedges of floating-rate liabiliti Pay-fixed interest rate swaps 11 1 — Fair value hed Debt hed Receive-fixed interest rate swaps — — ( 8 ) Basis amortization on terminated hedges 2 — ( 1 ) Asset hed Pay-Fixed interest rate swaps — — 9 Basis amortization on terminated asset hedges 3 — — — Total derivatives designated as hedging instruments $ ( 10 ) $ ( 40 ) $ — Six Months Ended June 30, 2023 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — Received-fixed interest rate swaps 17 ( 90 ) — Cash flow hedges of floating-rate liabiliti Pay-fixed interest rate swaps 11 1 — Fair value hed Debt hed Receive-fixed interest rate swaps — — ( 5 ) Basis amortization on terminated debt hedges 2 — — ( 1 ) Asset hed Pay-fixed interest rate swaps — — 16 Basis amortization on terminated asset hedges 3 — — — Total derivatives designated as hedging instruments $ 28 $ ( 89 ) $ 10 Three Months Ended June 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — Interest rate swaps ( 66 ) 6 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 1 Basis amortization on terminated hedges 2 — — — Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) Basis amortization on terminated hedges 2 — — — Total derivatives designated as hedging instruments $ ( 66 ) $ 6 $ — 71 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Six Months Ended June 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 2 $ — Interest rate swaps ( 244 ) 17 — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 3 Basis amortization on terminated hedges 2, 3 — — 1 Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 2 ) Basis amortization on terminated hedges 2, 3 — — — Total derivatives designated as hedging instruments $ ( 244 ) $ 19 $ 2 1 For the 12 months following June 30, 2023, we estimate that $ 106 million of losses will be reclassified from AOCI into interest income, compared with an estimate of $ 94 million of losses at June 30, 2022. 2 At June 30, 2023, the total cumulative unamortized basis adjustment for terminated fair value hedges of debt was $ 50 million. We did no t have any cumulative unamortized basis adjustment for terminated hedges of debt at June 30, 2022. We had $ 3 million and $ 7 million of cumulative unamortized basis adjustments from terminated fair value hedges of assets at June 30, 2023 and 2022, respectively. The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) Three Months Ended June 30, 2023 Six Months Ended June 30, 2023 Three Months Ended June 30, 2022 Six Months Ended June 30, 2022 Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives $ 10 $ 11 $ 17 $ 30 Other interest rate derivatives 3 3 ( 1 ) — Foreign exchange derivatives 7 15 8 14 Purchased credit derivatives $ ( 1 ) $ ( 1 ) $ — $ — Total derivatives not designated as hedging instruments $ 19 $ 28 $ 24 $ 44 The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Three Months Ended June 30, 2023 Three Months Ended June 30, 2022 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ 2 $ ( 2 ) $ — $ ( 18 ) $ 18 $ — Assets: Pay-fixed interest rate swaps 1, 2 66 ( 67 ) ( 1 ) 97 ( 97 ) — 72 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Gain/(loss) recorded in income Six Months Ended June 30, 2023 Six Months Ended June 30, 2022 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ 14 $ ( 14 ) $ — $ ( 50 ) $ 50 $ — Assets: Pay-fixed interest rate swaps 1, 2 26 ( 27 ) ( 1 ) 150 ( 150 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt and fixed-rate AFS securities. Gains and losses were recorded in net interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) 1 Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged item (In millions) June 30, 2023 December 31, 2022 June 30, 2023 December 31, 2022 June 30, 2023 December 31, 2022 Long-term fixed-rate debt 2 $ — $ ( 500 ) $ — $ ( 435 ) $ — $ 65 Fixed-rate assets 3 11,129 1,228 10,898 962 ( 231 ) ( 266 ) 1 Carrying amounts exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 2 We terminated the remaining fair value hedge of debt during the second quarter of 2023. The remaining hedge basis adjustments will be amortized over the life of the associated debt. 3 These amounts include the amortized cost basis of defined portfolios of AFS securities used to designate hedging relationships in which the hedged item is the stated amount of assets in the defined portfolio anticipated to be outstanding for the designated hedged period. At June 30, 2023, the amortized cost basis of the defined portfolios used in these hedging relationships was $ 10.1 billion; the cumulative basis adjustment associated with these hedging relationships was $ 36.8 million; and the notional amounts of the designated hedging instruments were $ 2.5 billion. 8 . LEASES We have operating and finance leases for branches, corporate offices, and data centers. At June 30, 2023, we had 412 branches, of which 277 are owned and 135 are leased. We lease our headquarters in Salt Lake City, Utah. The remaining maturities of our lease commitments range from the year 2023 to 2062 , and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “ Other assets ,” and “ Premises, equipment and software, net ,” respectively. The corresponding liabilities for those leases are presented in “ Other liabilities ,” and “ Long-term debt .” For more information about our lease policies, see Note 8 of our 2022 Form 10-K. 73 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate. (Dollar amounts in millions) June 30, 2023 December 31, 2022 Operating leases ROU assets, net of amortization $ 170 $ 173 Lease liabilities 195 198 Finance leases ROU assets, net of amortization 3 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.6 8.4 Finance leases 16.9 17.4 Weighted average discount rate Operating leases 3.1 % 2.9 % Finance leases 3.1 % 3.1 % Additional information related to lease expense is presented in the following schedule. Three Months Ended June 30, Six Months Ended June 30, (In millions) 2023 2022 2023 2022 Lease expense: Operating lease expense $ 11 $ 12 $ 22 $ 24 Other expenses associated with operating leases 1 16 12 30 24 Total lease expense $ 27 $ 24 $ 52 $ 48 Related cash disbursements from operating leases $ 12 $ 12 $ 24 $ 25 1 Other expenses primarily include property taxes and building and property maintenance. The following schedule presents the total contractual undiscounted lease payments for operating lease liabilities by expected due date for each of the next five years. (In millions) Total undiscounted lease payments 2023 1 $ 24 2024 40 2025 32 2026 27 2027 18 Thereafter 87 Total $ 228 1 Contractual maturities for the six months remaining in 2023. We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 4 million and $ 3 million for the second quarter of 2023 and 2022, respectively, and $ 8 million and $ 7 million for the first six months of 2023 and 2022, respectively. We originated equipment leases, considered to be sales-type leases or direct financing leases, totaling $ 388 million and $ 386 million at June 30, 2023 and December 31, 2022, respectively. We recorded income of $ 4 million a nd $ 3 million on these leases for the second quarter of 2023 and 2022, respectively, and $ 8 million and $ 6 million for the first six months of 2023 and 2022, respectively. 74 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 9. LONG-TERM DEBT AND SHAREHOLDERS’ EQUITY Long-Term Debt The long-term debt carrying values presented in the consolidated balance sheet represent the par value of the debt, adjusted for any unamortized premium or discount, unamortized debt issuance costs, and basis adjustments for interest rate swaps designated as fair value hedges. The following schedule presents the components of our long-term debt. LONG-TERM DEBT (In millions) June 30, 2023 December 31, 2022 Subordinated notes 1 $ 534 $ 519 Senior notes — 128 Finance lease obligations 4 4 Total $ 538 $ 651 1 The change in the subordinated notes balance is primarily due to a fair value hedge accounting adjustment. See also Note 7. The decrease in long-term debt was primarily due to the redemption of $ 128 million, 4.50 % matured senior notes during the second quarter of 2023. Shareholders' Equity Our common stock is traded on the National Association of Securities Dealers Automated Quotations (“NASDAQ”) Global Select Market. At June 30, 2023, there were 148.1 million shares of $ 0.001 par value common stock outstanding. Common stock and additional paid-in capital decreased $ 32 million, or 2 %, to $ 1.7 billion at June 30, 2023, from December 31, 2022, primarily due to common stock repurchases during the first quarter of 2023. As the macroeconomic environment remained uncertain, we did not repurchase common shares during the second quarter of 2023, nor do we expect to repurchase common shares during the third quarter of 2023. AOCI was a $ 2.9 billion loss at June 30, 2023. The following schedule presents the changes in AOCI by component. (In millions) Net unrealized gains/(losses) on investment securities Net unrealized gains/(losses) on derivatives and other Pension and post-retirement Total Six Months Ended June 30, 2023 Balance at December 31, 2022 $ ( 2,800 ) $ ( 311 ) $ ( 1 ) $ ( 3,112 ) OCI before reclassifications, net of tax 1 94 21 — 115 Amounts reclassified from AOCI, net of tax — 67 — 67 Other comprehensive income 94 88 — 182 Balance at June 30, 2023 $ ( 2,706 ) $ ( 223 ) $ ( 1 ) $ ( 2,930 ) Income tax expense included in OCI $ 31 $ 28 $ — $ 59 Six Months Ended June 30, 2022 Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) OCI (loss) before reclassifications, net of tax ( 1,820 ) ( 185 ) — ( 2,005 ) Amounts reclassified from AOCI, net of tax — ( 15 ) — ( 15 ) Other comprehensive loss ( 1,820 ) ( 200 ) — ( 2,020 ) Balance at June 30, 2022 $ ( 1,898 ) $ ( 200 ) $ ( 2 ) $ ( 2,100 ) Income tax benefit included in OCI (loss) $ ( 590 ) $ ( 65 ) $ — $ ( 655 ) 1 For the six months ended June 30, 2023, the OCI related to net unrealized gains/(losses) on investment securities reflected a $ 9 million decline in the fair value of fixed-rate AFS securities as a result of higher interest rates, offset by a $ 103 million increase in amortization of the discount on the securities transferred from AFS to HTM during the fourth quarter of 2022. 75 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Amounts reclassified from AOCI 1 Statement of income (SI) (In millions) Three Months Ended June 30, Six Months Ended June 30, Details about AOCI components 2023 2022 2023 2022 Affected line item Net unrealized gains (losses) on derivative instruments $ ( 40 ) $ 6 $ ( 89 ) $ 20 SI Interest and fees on loans L Income tax expense (benefit) ( 10 ) 2 ( 22 ) 5 Amounts reclassified from AOCI $ ( 30 ) $ 4 $ ( 67 ) $ 15 1 Positive reclassification amounts indicate increases to earnings in the income statement. 10. COMMITMENTS, GUARANTEES, AND CONTINGENT LIABILITIES Commitments and Guarantees The following schedule presents the contractual amounts related to off-balance sheet financial instruments used to meet the financing needs of our customers. (In millions) June 30, 2023 December 31, 2022 Unfunded lending commitments 1 $ 29,731 $ 29,628 Standby letters of cr Financial 579 667 Performance 178 184 Commercial letters of credit 36 11 Mortgage-backed security purchase agreements 2 51 23 Total unfunded commitments $ 30,575 $ 30,513 1 Net of participations. 2 Represents agreements with Farmer Mac to purchase securities backed by certain agricultural mortgage loans. For more information about these commitments and guarantees including their terms and collateral requirements, see Note 16 of our 2022 Form 10-K. Legal Matters We are involved in various legal proceedings, which may include litigation in court and arbitral proceedings, as well as investigations, examinations, and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. At June 30, 2023, we were subject to the following material litigation or governmental inquiri • Two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the Bank who filed for bankruptcy protection in 2017. The cases are in discovery phases. Trial has not been scheduled in either case. 76 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES • Sipple v. Zions Bancorporation, N.A., brought against us in the District Court of Clark County, Nevada in February 2021 with respect to foreign transaction fees. This case is in the early discovery phase and trial has not been scheduled. At least quarterly, we review outstanding and new legal matters, utilizing then available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at June 30, 2023, we estimated that the aggregate range of reasonably possible losses for those matters to be from zero to approximately $ 5 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments and actual outcomes will differ from our estimates. These differences may be material. 11. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which represented approximately 80 % of our total revenue in the second quarter of 2023. Only noninterest income is considered to be revenue from contracts with customers in scope of ASC 606. For more information about our revenue recognition from contracts, see Note 17 of our 2022 Form 10-K. 77 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Disaggregation of Revenue The schedule below presents net revenue by our operating business segments for the three months ended June 30, 2023 and 2022. Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 14 $ 12 $ 8 $ 7 $ 14 $ 11 Card fees 13 14 5 5 8 8 Retail and business banking fees 5 6 3 3 4 4 Capital markets fees — — — — — — Wealth management fees 6 6 1 1 4 4 Other customer-related fees 2 2 2 2 2 2 Total noninterest income from contracts with customers (ASC 606) 40 40 19 18 32 29 Other noninterest income (non-ASC 606 customer-related) 6 6 14 8 8 13 Total customer-related noninterest income 46 46 33 26 40 42 Other noncustomer-related noninterest income 3 3 2 1 15 — Total noninterest income 49 49 35 27 55 42 Net interest income 178 170 152 142 116 120 Total net revenue $ 227 $ 219 $ 187 $ 169 $ 171 $ 162 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 2 $ 2 $ 3 $ 2 $ 2 $ 2 Card fees 4 4 4 4 2 2 Retail and business banking fees 2 2 3 3 1 1 Capital markets fees — — — — — — Wealth management fees 1 1 1 1 1 — Other customer-related fees — — — — 1 1 Total noninterest income from contracts with customers (ASC 606) 9 9 11 10 7 6 Other noninterest income (non-ASC 606 customer-related) 1 1 — 2 — 2 Total customer-related noninterest income 10 10 11 12 7 8 Other noncustomer-related noninterest income 1 1 — — — — Total noninterest income 11 11 11 12 7 8 Net interest income 64 55 49 39 38 35 Total net revenue $ 75 $ 66 $ 60 $ 51 $ 45 $ 43 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 1 $ 1 $ 1 $ — $ 45 $ 37 Card fees 1 1 — ( 2 ) 37 36 Retail and business banking fees — — ( 2 ) 1 16 20 Capital markets fees — — 1 1 1 1 Wealth management fees — — — — 14 13 Other customer-related fees — — 8 9 15 16 Total noninterest income from contracts with customers (ASC 606) 2 2 8 9 128 123 Other noninterest income (non-ASC 606 customer-related) — — 5 ( 1 ) 34 31 Total customer-related noninterest income 2 2 13 8 162 154 Other noncustomer-related noninterest income — — 6 13 27 18 Total noninterest income 2 2 19 21 189 172 Net interest income 15 15 ( 21 ) 17 591 593 Total net revenue $ 17 $ 17 $ ( 2 ) $ 38 $ 780 $ 765 78 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The schedule below presents net revenue by our operating business segments for the six months ended June 30, 2023 and 2022. Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 28 $ 27 $ 15 $ 14 $ 28 $ 22 Card fees 26 27 10 10 16 16 Retail and business banking fees 9 12 6 6 7 8 Capital markets fees — — — — — — Wealth management fees 12 11 2 2 8 8 Other customer-related fees 4 4 4 3 3 3 Total noninterest income from contracts with customers (ASC 606) 79 81 37 35 62 57 Other noninterest income (non-ASC 606 customer-related) 13 11 19 14 17 22 Total customer-related noninterest income 92 92 56 49 79 79 Other noncustomer-related noninterest income 7 3 3 2 17 — Total noninterest income 99 95 59 51 96 79 Net interest income 363 326 311 271 240 232 Total net revenue $ 462 $ 421 $ 370 $ 322 $ 336 $ 311 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 5 $ 4 $ 7 $ 6 $ 3 $ 4 Card fees 7 7 8 7 4 4 Retail and business banking fees 4 5 5 6 2 2 Capital markets fees — — — — — — Wealth management fees 2 2 3 2 1 1 Other customer-related fees 1 1 — — 2 1 Total noninterest income from contracts with customers (ASC 606) 19 19 23 21 12 12 Other noninterest income (non-ASC 606 customer-related) 1 3 — 4 1 4 Total customer-related noninterest income 20 22 23 25 13 16 Other noncustomer-related noninterest income 1 1 — — — — Total noninterest income 21 23 23 25 13 16 Net interest income 129 106 99 77 79 68 Total net revenue $ 150 $ 129 $ 122 $ 102 $ 92 $ 84 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 1 $ 1 $ 1 $ — $ 88 $ 78 Card fees 1 1 — — 72 72 Retail and business banking fees — — ( 1 ) 1 32 40 Capital markets fees — — 2 2 2 2 Wealth management fees — — ( 1 ) — 27 26 Other customer-related fees 1 — 15 18 30 30 Total noninterest income from contracts with customers (ASC 606) 3 2 16 21 251 248 Other noninterest income (non-ASC 606 customer-related) — 1 11 ( 2 ) 62 57 Total customer-related noninterest income 3 3 27 19 313 305 Other noncustomer-related noninterest income — — 8 3 36 9 Total noninterest income 3 3 35 22 349 314 Other real estate owned gain from sale — — — — — — Net interest income 31 28 18 29 1,270 1,137 Total net revenue $ 34 $ 31 $ 53 $ 51 $ 1,619 $ 1,451 79 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is generally not significant. 12. INCOME TAXES The effective income tax rate was 22.6 % for the second quarter of 2023, compared with 21.9 % for the second quarter of 2022. The effective tax rates for the first six months of 2023 and 2022 were 25.4 % and 21.2 %, respectively. The tax rates during both periods were reduced by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the non-deductibility of Federal Deposit Insurance Corporation (“FDIC”) premiums, certain executive compensation plans, and other fringe benefits. The tax rate for the first six months of 2023 was higher relative to the same prior year period, primarily as a result of a discrete item that affected the reserve for uncertain tax positions during the first quarter of 2023 . At both June 30, 2023 and December 31, 2022, we had a net deferred tax asset (“DTA”) totaling $ 1.1 billion. On the consolidated balance sheet, the net DTA is included in “Other assets.” We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more-likely-than-not criteria that such assets will be realized. This evaluation includes, but is not limited to, the followin • Future reversals of existing deferred tax liabilities (“DTLs”) — These DTLs have a reversal pattern generally consistent with DTAs and are used to realize the DTAs. • Tax planning strategies — We have considered prudent and feasible tax planning strategies that we would implement to preserve the value of the DTAs, if necessary. • Future projected taxable income — We expect future taxable income will offset the reversal of remaining net DTAs. Based on this evaluation, we concluded that a valuation allowance was not required at both June 30, 2023 and December 31, 2022. 80 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 13. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: Three Months Ended June 30, Six Months Ended June 30, (In millions, except shares and per share amounts) 2023 2022 2023 2022 Basic: Net income $ 175 $ 203 $ 379 $ 406 Less common and preferred dividends 70 66 138 132 Undistributed earnings 105 137 241 274 Less undistributed earnings applicable to nonvested shares 1 1 2 2 Undistributed earnings applicable to common shares 104 136 239 272 Distributed earnings applicable to common shares 61 57 121 115 Total earnings applicable to common shares $ 165 $ 193 $ 360 $ 387 Weighted average common shares outstanding (in thousands) 147,692 150,635 147,852 150,958 Net earnings per common share $ 1.11 $ 1.29 $ 2.44 $ 2.56 Dilut Total earnings applicable to common shares $ 165 $ 193 $ 360 $ 387 Weighted average common shares outstanding (in thousands) 147,692 150,635 147,852 150,958 Dilutive effect of stock options (in thousands) 4 203 13 306 Weighted average diluted common shares outstanding (in thousands) 147,696 150,838 147,865 151,264 Net earnings per common share $ 1.11 $ 1.29 $ 2.44 $ 2.56 The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per sh Three Months Ended June 30, Six Months Ended June 30, (In thousands) 2023 2022 2023 2022 Restricted stock and restricted stock units 1,421 1,251 1,378 1,289 Stock options 1,449 200 1,381 155 14. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, California Bank & Trust, Amegy Bank, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. Our affiliate banks are supported by an enterprise operating segment (referred to as the “Other” segment) that provides governance and risk management, allocates capital, establishes strategic objectives, and includes centralized technology, back-office functions, and certain lines of business not operated through our affiliate banks. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal funds transfer pricing (“FTP”) allocation process to report results of operations for business segments. This process is subject to change and refinement over time. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. At June 30, 2023, Zions Bank operated 95 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. CB&T operated 77 branches in California. Amegy operated 75 branches in Texas. NBAZ operated 56 branches in 81 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Arizona. NSB operated 46 branches in Nevada. Vectra operated 33 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. The following schedule presents selected operating segment information for the three months ended June 30, 2023 and 2022: Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 178 $ 170 $ 152 $ 142 $ 116 $ 120 Provision for credit losses 7 1 15 16 12 5 Net interest income after provision for credit losses 171 169 137 126 104 115 Noninterest income 49 49 35 27 55 42 Noninterest expense 138 125 94 84 100 88 Income (loss) before income taxes $ 82 $ 93 $ 78 $ 69 $ 59 $ 69 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 14,250 $ 13,120 $ 14,152 $ 12,895 $ 12,880 $ 11,934 Total average deposits 19,191 25,035 13,333 16,663 11,873 16,253 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 64 $ 55 $ 49 $ 39 $ 38 $ 35 Provision for credit losses 4 6 7 3 2 10 Net interest income after provision for credit losses 60 49 42 36 36 25 Noninterest income 11 11 11 12 7 8 Noninterest expense 45 42 42 37 34 30 Income (loss) before income taxes $ 26 $ 18 $ 11 $ 11 $ 9 $ 3 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 5,243 $ 4,888 $ 3,427 $ 2,914 $ 3,998 $ 3,527 Total average deposits 6,873 8,447 6,630 7,546 3,271 4,189 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 15 $ 15 $ ( 21 ) $ 17 $ 591 $ 593 Provision for credit losses — 1 ( 1 ) ( 1 ) 46 41 Net interest income after provision for credit losses 15 14 ( 20 ) 18 545 552 Noninterest income 2 2 19 21 189 172 Noninterest expense 6 6 49 52 508 464 Income (loss) before income taxes $ 11 $ 10 $ ( 50 ) $ ( 13 ) $ 226 $ 260 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,689 $ 1,579 $ 1,040 $ 927 $ 56,679 $ 51,784 Total average deposits 1,099 1,547 7,379 1,207 69,649 80,887 82 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the six months ended June 30, 2023 and 2022: Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 363 $ 326 $ 311 $ 271 $ 240 $ 232 Provision for credit losses 31 — 15 22 23 ( 22 ) Net interest income after provision for credit losses 332 326 296 249 217 254 Noninterest income 99 95 59 51 96 79 Noninterest expense 273 248 186 168 198 175 Income (loss) before income taxes $ 158 $ 173 $ 169 $ 132 $ 115 $ 158 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 14,115 $ 12,969 $ 14,084 $ 12,870 $ 12,862 $ 11,865 Total average deposits 20,067 25,574 13,985 16,566 12,576 16,333 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 129 $ 106 $ 99 $ 77 $ 79 $ 68 Provision for credit losses 4 2 11 — 6 6 Net interest income after provision for credit losses 125 104 88 77 73 62 Noninterest income 21 23 23 25 13 16 Noninterest expense 92 82 82 74 67 59 Income (loss) before income taxes $ 54 $ 45 $ 29 $ 28 $ 19 $ 19 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 5,197 $ 4,831 $ 3,377 $ 2,866 $ 3,990 $ 3,463 Total average deposits 7,025 8,201 6,800 7,492 3,488 4,243 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 31 $ 28 $ 18 $ 29 $ 1,270 $ 1,137 Provision for credit losses 2 1 ( 1 ) ( 1 ) 91 8 Net interest income after provision for credit losses 29 27 19 30 1,179 1,129 Noninterest income 3 3 35 22 349 314 Noninterest expense 13 12 109 110 1,020 928 Income (loss) before income taxes $ 19 $ 18 $ ( 55 ) $ ( 58 ) $ 508 $ 515 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,700 $ 1,585 $ 1,092 $ 911 $ 56,417 $ 51,360 Total average deposits 1,240 1,564 4,720 1,271 69,901 81,244 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Our most significant risks include interest rate and market risk, which are closely monitored by management as previously discussed. For more information regarding interest rate and market risk, see the “Interest Rate and Market Risk Management” section in this Form 10-Q. 83 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 4. CONTROLS AND PROCEDURES Our management, including our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures at June 30, 2023. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at June 30, 2023. There were no changes in our internal control over financial reporting during the second quarter of 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The information contained in Note 10 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 1A. RISK FACTORS We amend the following two risk factors discussed in Part I, Item 1A. Risk Factors in our 2022 Form 10-K: Changes in levels and sources of liquidity and capital, including the resulting effects of recent events in the banking industry, may limit our operations and potential growth. Our primary source of liquidity is deposits from our customers, which may be impacted by market-related forces such as increased competition for these deposits and a variety of other factors. Deposits across the banking industry have been fluctuating in recent quarters in large part due to the increased interest rate environment and prominent bank failures. We, like many other banks, experienced some deposit outflows as customers spread deposits among several different banks to maximize their amount of FDIC insurance, moved deposits to institutions offering higher rates or banks deemed “too big to fail,” or removed deposits from the U.S. financial system entirely. Although our deposit levels have stabilized during the most recent quarter, our cost of funds has increased, and the potential for greater volatility remains, particularly if there is negative news surrounding us or perceived risks regarding our safety and soundness. If we are unable to continue to fund assets through customer bank deposits or access funding sources on favorable terms, or if we suffer an increase in borrowing costs or FDIC insurance assessments, or otherwise fail to manage liquidity effectively, our liquidity, operating margins, financial condition, and results of operations may be materially and adversely affected. The Federal Reserve's tightened monetary policy may contribute to a decline in the value of our fixed-rate loans and investment securities that are pledged as collateral to support short-term borrowings, and other economic conditions may also affect our liquidity and efforts to manage associated risks. The FHLB system and Federal Reserve have been, and continue to be, a significant source of additional liquidity and funding. Changes in FHLB funding programs could adversely affect our liquidity and management of associated risks. Problems encountered by other financial institutions could adversely affect financial markets generally and have indirect adverse effects on us. The soundness and stability of many financial institutions may be closely interrelated as a result of credit, trading, clearing, or other relationships between the institutions. As a result, concerns about, or a default or threatened default by, one institution could lead to significant market-wide liquidity and credit problems, losses, or defaults by other institutions. This is sometimes referred to as “systemic risk” and may adversely affect financial intermediaries, such as clearing agencies, clearing houses, banks, securities firms, and exchanges, with which we interact on a daily basis, and therefore, could adversely affect us. This phenomenon has been evident in the recent events affecting the banking industry, as financial institutions, like us, have been impacted by concerns regarding the soundness or creditworthiness of other financial institutions. This has caused substantial and cascading disruption within the financial markets, increased expenses, and adversely impacted the market price and volatility of our common stock. 84 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS None. ITEM 6. EXHIBITS a. Exhibits Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in Inline XBRL (i) the Consolidated Balance Sheets as of June 30, 2023 and December 31, 2022, (ii) the Consolidated Statements of Income for the three months ended June 30, 2023 and June 30, 2022 and the six months ended June 30, 2023 and June 30, 2022, (iii) the Consolidated Statements of Comprehensive Income for the three months ended June 30, 2023 and June 30, 2022 and the six months ended June 30, 2023 and June 30, 2022, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the three months ended June 30, 2023 and June 30, 2022 and the six months ended June 30, 2023 and June 30, 2022, (v) the Consolidated Statements of Cash Flows for the six months ended June 30, 2023 and June 30, 2022, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Quarterly Report on Form 10-Q, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. 85 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZIONS BANCORPORATION, NATIONAL ASSOCIATION /s/ Harris H. Simmons Harris H. Simmons, Chairman and Chief Executive Officer /s/ Paul E. Burdiss Paul E. Burdiss, Executive Vice President and Chief Financial Officer Date: August 4, 2023 86 |
Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) 39 Consolidated Balance Sheets 39 Consolidated Statements of Income 40 Consolidated Statements of Comprehensive Income (Loss) 41 Consolidated Statements of Changes in Shareholders’ Equity 41 Consolidated Statements of Cash Flows 43 Notes to Consolidated Financial Statements 44 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 4 Item 3. Quantitative and Qualitative Disclosures About Market Risk 84 Item 4. Controls and Procedures 85 PART II. OTHER INFORMATION Item 1. Legal Proceedings 85 Item 1A. Risk Factors 85 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 86 Item 5. Other Information 86 Item 6. Exhibits 87 Signatures 88 2 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES GLOSSARY OF ACRONYMS AND ABBREVIATIONS ACL Allowance for Credit Losses HECL Home Equity Credit Line AFS Available-for-Sale HTM Held-to-Maturity ALLL Allowance for Loan and Lease Losses IPO Initial Public Offering Amegy Amegy Bank, a division of Zions Bancorporation, National Association LIHTC Low-income Housing Tax Credit AOCI Accumulated Other Comprehensive Income or Loss Municipalities State and Local Governments ASC Accounting Standards Codification NAICS North American Industry Classification System ASU Accounting Standards Update NASDAQ National Association of Securities Dealers Automated Quotations BOLI Bank-Owned Life Insurance NBAZ National Bank of Arizona, a division of Zions Bancorporation, National Association bps Basis Points NIM Net Interest Margin BTFP Bank Term Funding Program NM Not Meaningful CB&T California Bank & Trust, a division of Zions Bancorporation, National Association NSB Nevada State Bank, a division of Zions Bancorporation, National Association CECL Current Expected Credit Loss OCC Office of the Comptroller of the Currency CLTV Combined Loan-to-Value Ratio OCI Other Comprehensive Income or Loss CRE Commercial Real Estate OREO Other Real Estate Owned CVA Credit Valuation Adjustment PAM Proportional Amortization Method DTA Deferred Tax Asset PEI Private Equity Investment DTL Deferred Tax Liability PPNR Pre-provision Net Revenue EaR Earnings at Risk PPP Paycheck Protection Program EPS Earnings per Share ROU Right-of-Use EVE Economic Value of Equity RULC Reserve for Unfunded Lending Commitments FASB Financial Accounting Standards Board S&P Standard & Poor's FDIC Federal Deposit Insurance Corporation SBA U.S. Small Business Administration FHLB Federal Home Loan Bank SBIC Small Business Investment Company FICO Fair Isaac Corporation TCBW The Commerce Bank of Washington, a division of Zions Bancorporation, National Association FRB Federal Reserve Board TDR Troubled Debt Restructuring FTP Funds Transfer Pricing U.S. United States GAAP Generally Accepted Accounting Principles Vectra Vectra Bank Colorado, a division of Zions Bancorporation, National Association GCF General Collateral Funding Zions Bank Zions Bank, a division of Zions Bancorporation, National Association 3 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES PART I. FINANCIAL INFORMATION ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING INFORMATION This quarterly report includes “forward-looking statements” as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and assumptions regarding future events or determinations, all of which are subject to known and unknown risks, uncertainties, and other factors that may cause our actual results, performance or achievements, industry trends, and results or regulatory outcomes to differ materially from those expressed or implied. Forward-looking statements include, among othe • Statements with respect to the beliefs, plans, objectives, goals, targets, commitments, designs, guidelines, expectations, anticipations, and future financial condition, results of operations and performance of Zions Bancorporation, National Association and its subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”); and • Statements preceded or followed by, or that include the words “may,” “might,” “can,” “continue,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “forecasts,” “expect,” “intend,” “target,” “commit,” “design,” “plan,” “projects,” “will,” and the negative thereof and similar words and expressions. Forward-looking statements are not guarantees, nor should they be relied upon as representing management’s views as of any subsequent date. Actual results and outcomes may differ materially from those presented. Although the following list is not comprehensive, important factors that may cause material differences inclu • The quality and composition of our loan and securities portfolios and the quality and composition of our deposits; • Changes and uncertainties in applicable laws, and fiscal, monetary, regulatory, trade, and tax policies, and actions taken by governments, agencies, central banks, and similar organizations, including increases in bank fees, insurance assessments, capital standards, and other regulatory requirements; • Protracted congressional negotiations and political stalemates regarding government funding and other issues that increase the possibility of government shutdowns or other economic disruptions; • Changes in general industry, political and economic conditions, including continued elevated inflation, economic slowdown or recession, or other economic challenges; changes in interest and reference rates which could adversely affect our revenue and expenses, the value of assets and obligations, and the availability and cost of capital and liquidity; deterioration in economic conditions that may result in increased loan and leases losses; • Securities and capital markets behavior, including volatility and changes in market liquidity and our ability to raise capital; • The impact of bank failures or adverse developments at other banks on general investor sentiment regarding the stability and liquidity of banks; • The possibility that our recorded goodwill could become impaired, which may have an adverse impact on our earnings and capital; • Competitive pressures and other factors that may affect aspects of our business, such as pricing and demand for our products and services, our ability to recruit and retain talent, and the impact of digital commerce, artificial intelligence, and other innovations affecting the banking industry; • Our ability to complete projects and initiatives and execute on our strategic plans, manage our risks, control compensation and other expenses, and achieve our business objectives; • Our ability to provide adequate oversight of our suppliers or prevent inadequate performance by third parties upon whom we rely for the delivery of various products and services; 4 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES • Our ability to develop and maintain technology, information security systems and controls designed to guard against fraud, cybersecurity, and privacy risks; • Adverse media and other expressions of negative public opinion whether directed at us, other banks, the banking industry, or otherwise that may adversely affect our reputation and that of the banking industry generally; • The effects of pandemics and other health emergencies that may affect our business, employees, customers, and communities; • The effects of wars and geopolitical conflicts, such as the ongoing conflict between Russia and Ukraine and the escalating events in the Middle East, and other local, national, or international disasters, crises, or conflicts that may occur in the future; • Natural disasters that may impact our and our customer's operations and business; and • Governmental and social responses to environmental, social, and governance issues, including those with respect to climate change. We caution against the undue reliance on forward-looking statements, which reflect our views only as of the date they are made. Except to the extent required by law, we specifically disclaim any obligation to update any factors or to publicly announce the revisions to any forward-looking statements to reflect future events or developments. KEY STRATEGIC ACTIONS During the first nine months of 2023, the banking industry experienced significant changes in market conditions, including a higher interest rate environment and fluctuations in deposit levels. As a result, we continued to manage the associated risks through the following strategic actio • Generated customer deposit growth through a combination of competitive interest rates and expanded utilization of reciprocal deposit programs, including the recapture of off-balance sheet deposits; • Actively managed the balance sheet through a mix change toward higher-yielding loans, while reducing the size of our lower-yielding securities and money market positions; • Increased total available liquidity sources, which far exceed our level of uninsured deposits; • Actively managed our interest rate and market risk exposures through a rebalancing of our accounting hedges for both available-for-sale (“AFS”) securities and commercial loans; • Remained committed to controlling expenses, including personnel management, while continuing to invest in technology; • Maintained strong credit performance, including low net charge-offs; and • Further strengthened our regulatory capital position through increased retained earnings. RESULTS OF OPERATIONS Comparisons noted below are calculated for the current quarter compared with the same prior year period unless otherwise specified. Growth rates of 100% or more are considered not meaningful (“NM”) as they generally reflect a low starting point. Executive Summary Our financial results in the third quarter of 2023 reflected sequential growth in customer deposits and a stabilization of the net interest margin (“NIM”). Diluted earnings per share (“EPS”) was $1.13, compared with $1.40 in the third quarter of 2022, as lower revenue and higher noninterest expense was partially offset by a lower provision for credit losses. Net interest income decreased $78 million, or 12%, compared with the prior year quarter, as higher earning asset yields were offset by higher funding costs. Net interest income was also impacted by a reduction in interest-earning 5 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES assets and an increase in interest-bearing liabilities. The NIM was 2.93%, compared with 3.24%, and was up from 2.92% in the second quarter of 2023. The provision for credit losses was $41 million, compared with a $71 million provision in the prior year period, due to changes in economic forecasts and lower net charge-offs. Total customer-related noninterest income remained relatively stable at $157 million, compared with the prior year period. A $5 million increase in loan-related fees, primarily due to a $4 million gain on the sale of certain mortgage servicing assets, and a $3 million increase in commercial account fees, driven primarily by increased treasury management sweep income, was partially offset by a $7 million decrease in capital market fees, largely due to reduced swap and loan syndication fees. Total noninterest income increased $15 million, or 9%, primarily due to a valuation loss recognized on one of our equity investments in the prior year period, as well as an increase in dividends on Federal Home Loan Bank (“FHLB”) stock in the current period. Total noninterest expense increased $17 million, or 4%, relative to the prior year quarter, driven largely by a $9 million increase in technology, telecom, and information processing expense, primarily due to increases in application software expenses. Deposit insurance and regulatory expense increased $7 million, driven largely by an increased Federal Deposit Insurance Corporation (“FDIC”) insurance base rate beginning in 2023 and changes in balance sheet composition. Our efficiency ratio was 64.4%, compared with 57.6%, primarily due to a decline in adjusted taxable-equivalent revenue. Average interest-earning assets decreased $1.8 billion, or 2%, from the prior year quarter, driven by declines of $4.5 billion and $1.3 billion in average securities and average money market investments, respectively, and partially offset by an increase of $4.0 billion in average loans and leases. Average interest-bearing liabilities increased $10.9 billion, or 26%, from the prior year quarter, driven by increases of $9.9 billion and $1.3 billion in average interest-bearing deposits and average other short-term borrowings, respectively. Total loans and leases increased $3.0 billion, or 6%, to $56.9 billion from the prior year quarter. Consumer loans increased $1.8 billion, primarily in the 1-4 family residential and consumer construction loan portfolios. Commercial real estate (“CRE”) loans increased $0.8 billion, primarily in the multi-family and industrial construction loan portfolios. Increased funding of construction lending commitments and conversion-to-term loans contributed to growth in these portfolios. Net loan and lease charge-offs totaled $14 million, compared with $27 million in the prior year quarter, and classified loans decreased $196 million, or 20%. Nonperforming assets increased to $219 million, or 0.38% of loans and leases, compared with $151 million, or 0.28% of loans and leases, in the prior year quarter, primarily due to two suburban office commercial real estate loans in the Southern California market totaling $46 million. Total deposits decreased $0.6 billion, or 1%, from the prior year quarter, due to the $12.4 billion reduction in noninterest-bearing demand deposits, which was largely offset by an $11.8 billion increase in interest-bearing deposits, as the higher interest rate environment influenced the movement of customer balances into interest-bearing products. Total customer deposits (excluding brokered deposits) increased $3.0 billion, or 5%, from June 30, 2023. At September 30, 2023 and June 30, 2023, total customer deposits included approximately $6.4 billion and $3.4 billion, respectively, of reciprocal placement products. Total borrowed funds, consisting primarily of secured borrowings, decreased $1.1 billion from the prior year quarter, largely due to reduced funding needs as a result of the decrease in interest-earning assets. 6 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Third Quarter 2023 Financial Performance Net Earnings Applicable to Common Shareholders (in millions) Diluted EPS Adjusted PPNR (in millions) Efficiency Ratio Net earnings applicable to common shareholders decreased from the third quarter of 2022, as lower net revenue and higher noninterest expense, driven largely by application software expenses and higher FDIC insurance costs, was partially offset by a lower provision for credit losses. Diluted earnings per share declined from the third quarter of 2022 primarily as a result of decreased net earnings applicable to common shareholders. Adjusted pre-provision net revenue (“PPNR”) decreased from the third quarter of 2022, primarily due to lower adjusted taxable-equivalent revenue and increased adjusted noninterest expense. The efficiency ratio increased from the prior year quarter, primarily due to a decline in adjusted taxable-equivalent revenue. Net Interest Income and Net Interest Margin NET INTEREST INCOME AND NET INTEREST MARGIN Three Months Ended September 30, Amount change Percent change Nine Months Ended September 30, Amount change Percent change (Dollar amounts in millions) 2023 2022 2023 2022 Interest and fees on loans 1 $ 831 $ 551 $ 280 51 % $ 2,348 $ 1,456 $ 892 61 % Interest on money market investments 35 24 11 46 140 42 98 NM Interest on securities 144 132 12 9 419 372 47 13 Total interest income 1,010 707 303 43 2,907 1,870 1,037 55 Interest on deposits 366 19 347 NM 668 32 636 NM Interest on short- and long-term borrowings 59 25 34 NM 384 38 346 NM Total interest expense 425 44 381 NM 1,052 70 982 NM Net interest income $ 585 $ 663 $ (78) (12) % $ 1,855 $ 1,800 $ 55 3 % Average interest-earning assets $ 80,678 $ 82,474 $ (1,796) (2) % $ 82,325 $ 84,189 $ (1,864) (2) % Average interest-bearing liabilities $ 52,312 $ 41,398 $ 10,914 26 % $ 51,271 $ 41,586 $ 9,685 23 % bps bps Yield on interest-earning assets 2 5.02 % 3.45 % 157 4.77 % 3.01 % 176 Rate paid on total deposits and interest-bearing liabilities 2 2.10 % 0.22 % 188 1.75 % 0.12 % 163 Cost of total deposits 2 1.92 % 0.10 % 182 1.24 % 0.05 % 119 Net interest margin 2 2.93 % 3.24 % (31) 3.06 % 2.90 % 16 1 Includes interest income recoveries of $1 million and $2 million for the three months ended, and $5 million and $8 million for the nine months ended September 30, 2023, and 2022, respectively. 2 Rates are calculated using amounts in thousands; taxable-equivalent rates are used where applicable. 7 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Net interest income accounted for approximately 76% of our net revenue (net interest income plus noninterest income) for the current quarter and decreased $78 million, or 12%, relative to the prior year quarter, as higher earning asset yields were offset by higher funding costs. Net interest income was also impacted by a reduction in interest-earning assets and an increase in interest-bearing liabilities. Average interest-earning assets decreased $1.8 billion, or 2%, from the prior year quarter, driven by declines of $4.5 billion and $1.3 billion in average securities and average money market investments, respectively, and was partially offset by an increase of $4.0 billion in average loans and leases. The decline in average securities was primarily due to principal reductions. Average interest-bearing liabilities increased $10.9 billion, or 26%, from the prior year quarter, driven by increases of $9.9 billion and $1.3 billion in average interest-bearing deposits and average other short-term borrowings, respectively. The NIM was 2.93%, compared with 3.24%, and was up from 2.92% in the second quarter of 2023. The yield on average interest-earning assets was 5.02% in the third quarter of 2023, an increase of 157 basis points (“bps”), reflecting higher interest rates and a favorable mix change to higher yielding assets. The yield on average loans and leases increased 167 basis points to 5.84%, and the yield on average securities increased 63 basis points to 2.73%. The yield on average securities benefited from a decrease in the market value of AFS securities due to rising interest rates. The rate paid on average interest-bearing liabilities increased to 3.22%, compared with 0.43%, reflecting the higher interest rate environment. Average loans and leases increased $4.0 billion, or 8%, to $57.0 billion, mainly due to growth in average consumer and commercial loans. The yield on total loans and leases was 5.84% for the third quarter of 2023, compared with 4.17% for the prior year quarter, reflecting the higher interest rate environment. Average securities decreased $4.5 billion, or 17%, to $21.2 billion, primarily due to approximately $2.8 billion in principal reductions. During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the held-to-maturity (“HTM”) category to reflect our intent for these securities. 8 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Average deposits decreased $1.8 billion, or 2%, to $75.7 billion at an average cost of 1.92%, from $77.5 billion at an average cost of 0.10% in the third quarter of 2022, driven by the decrease in noninterest-bearing deposits as interest rates increased. Average noninterest-bearing deposits as a percentage of total deposits were 37%, compared with 51% during the same prior year period. Average borrowed funds, consisting primarily of secured borrowings, increased $0.9 billion from the prior year quarter, largely in response to average loan growth and the decline in total average deposits. For more information on our investment securities portfolio and borrowed funds and how we manage liquidity risk, refer to the “Investment Securities Portfolio” section on page 16 and the “Liquidity Risk Management” section on page 31. For further discussion of the effects of market rates on net interest income and how we manage interest rate risk, refer to the “Interest Rate and Market Risk Management” section on page 28. The following schedule summarizes the average balances, the amount of interest earned or paid, and the applicable yields for interest-earning assets and the costs of interest-bearing liabilities. 9 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED AVERAGE BALANCE SHEETS, YIELDS AND RATES (Unaudited) Three Months Ended September 30, 2023 Three Months Ended September 30, 2022 (Dollar amounts in millions) Average balance Amount of interest 1 Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 1,539 $ 21 5.52 % $ 1,233 $ 7 2.19 % Federal funds sold and securities purchased under agreements to resell 874 14 6.13 2,511 17 2.66 Total money market investments 2,413 35 5.74 3,744 24 2.51 Securiti Held-to-maturity 10,625 59 2.21 560 4 2.88 Available-for-sale 2 10,606 87 3.24 24,892 129 2.05 Trading 20 — 4.65 288 3 4.57 Total securities 21,251 146 2.73 25,740 136 2.10 Loans held for sale 46 1 4.89 37 1 5.33 Loans and leases Commercial 30,535 438 5.69 29,380 308 4.16 Commercial real estate 13,016 234 7.14 12,182 145 4.73 Consumer 13,417 167 4.92 11,391 103 3.61 Total loans and leases 56,968 839 5.84 52,953 556 4.17 Total interest-earning assets 80,678 1,021 5.02 82,474 717 3.45 Cash and due from banks 712 604 Allowance for credit losses on loans and debt securities (651) (515) Goodwill and intangibles 1,061 1,021 Other assets 5,523 4,923 Total assets $ 87,323 $ 88,507 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 35,346 $ 215 2.42 % $ 36,399 $ 18 0.20 % Time 12,424 151 4.81 1,441 1 0.32 Total interest-bearing deposits 47,770 366 3.04 37,840 19 0.20 Borrowed funds: Federal funds and security repurchase agreements 1,770 24 5.31 2,000 11 2.20 Other short-term borrowings 2,233 27 4.95 885 6 2.61 Long-term debt 539 8 5.37 673 8 4.83 Total borrowed funds 4,542 59 5.14 3,558 25 2.80 Total interest-bearing liabilities 52,312 425 3.22 41,398 44 0.43 Noninterest-bearing demand deposits 27,873 39,623 Other liabilities 1,760 1,743 Total liabilities 81,945 82,764 Shareholders’ equity: Preferred equity 440 440 Common equity 4,938 5,303 Total shareholders’ equity 5,378 5,743 Total liabilities and shareholders’ equity $ 87,323 $ 88,507 Spread on average interest-bearing funds 1.80 % 3.02 % Net impact of noninterest-bearing sources of funds 1.13 % 0.22 % Net interest margin $ 596 2.93 % $ 673 3.24 % Me total cost of deposits 1.92 % 0.10 % Me total deposits and interest-bearing liabilities $ 80,185 425 2.10 % $ 81,021 44 0.22 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. 2 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 10 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2023 Nine Months Ended September 30, 2022 (Dollar amounts in millions) Average balance Amount of interest 1 Average yield/rate 1 Average balance Amount of interest 1 Average yield/rate 1 ASSETS Money market investments: Interest-bearing deposits $ 2,356 $ 90 5.10 % $ 3,674 $ 15 0.55 % Federal funds sold and securities purchased under agreements to resell 1,242 50 5.41 2,451 27 1.47 Total money market investments 3,598 140 5.21 6,125 42 0.92 Securiti Held-to-maturity 10,826 181 2.24 495 11 2.98 Available-for-sale 2 11,199 243 2.89 25,285 358 1.89 Trading 58 1 2.43 343 12 4.81 Total securities 22,083 425 2.57 26,123 381 1.95 Loans held for sale 41 2 6.00 44 1 2.55 Loans and leases Commercial 30,620 1,236 5.40 28,945 843 3.89 Commercial real estate 12,942 668 6.90 12,151 358 3.93 Consumer 13,041 467 4.78 10,801 272 3.37 Total loans and leases 56,603 2,371 5.60 51,897 1,473 3.79 Total interest-earning assets 82,325 2,938 4.77 84,189 1,897 3.01 Cash and due from banks 636 615 Allowance for credit losses on loans and debt securities (615) (503) Goodwill and intangibles 1,063 1,017 Other assets 5,556 4,618 Total assets $ 88,965 $ 89,936 LIABILITIES AND SHAREHOLDERS’ EQUITY Interest-bearing deposits: Savings and money market $ 32,852 $ 390 1.59 % $ 37,942 $ 29 0.10 % Time 8,319 278 4.46 1,505 3 0.27 Total interest-bearing deposits 41,171 668 2.17 39,447 32 0.11 Borrowed funds: Federal funds and security repurchase agreements 3,921 145 4.92 1,112 12 1.50 Other short-term borrowings 5,570 211 5.07 303 6 2.56 Long-term debt 609 28 6.10 724 20 3.69 Total borrowed funds 10,100 384 5.08 2,139 38 2.39 Total interest-bearing liabilities 51,271 1,052 2.74 41,586 70 0.23 Noninterest-bearing demand deposits 30,665 40,523 Other liabilities 1,798 1,530 Total liabilities 83,734 83,639 Shareholders’ equity: Preferred equity 440 440 Common equity 4,791 5,857 Total shareholders’ equity 5,231 6,297 Total liabilities and shareholders’ equity $ 88,965 $ 89,936 Spread on average interest-bearing funds 2.03 % 2.78 % Net impact of noninterest-bearing sources of funds 1.03 % 0.12 % Net interest margin $ 1,886 3.06 % $ 1,827 2.90 % Me total cost of deposits 1.24 % 0.05 % Me total deposits and interest-bearing liabilities $ 81,936 1,052 1.75 % $ 82,109 70 0.12 % 1 Rates are calculated using amounts in thousands and a tax rate of 21% for the periods presented. 2 Net of unamortized purchase premiums, discounts, and deferred loan fees and costs. 11 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Provision for Credit Losses The allowance for credit losses (“ACL”) is the combination of both the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”). The ALLL represents the estimated current expected credit losses related to the loan and lease portfolio as of the balance sheet date. The RULC represents the estimated reserve for current expected credit losses associated with off-balance sheet commitments. Changes in the ALLL and RULC, net of charge-offs and recoveries, are recorded as the provision for loan and lease losses and the provision for unfunded lending commitments, respectively, in the income statement. The ACL for debt securities is estimated separately from loans and is recorded in investment securities on the consolidated balance sheet. The provision for credit losses, which is the combination of both the provision for loan and lease losses and the provision for unfunded lending commitments, was $41 million, compared with $71 million in the third quarter of 2022. The ACL was $738 million at September 30, 2023, compared with $590 million at September 30, 2022. The increase in the ACL was primarily due to deterioration in economic forecasts. The ratio of ACL to total loans and leases was 1.30% and 1.09% at September 30, 2023 and 2022, respectively. The provision for securities losses was less than $1 million during the third quarter of 2023 and 2022. 12 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The bar chart above illustrates the broad categories of change in the ACL from the prior year period. The second bar represents changes in economic forecasts and current economic conditions, which increased the ACL by $88 million from the prior year quarter. The third bar represents changes in credit quality factors and includes risk-grade migration and specific reserves against loans, which, when combined, increased the ACL by $7 million, reflecting relatively stable credit quality. Net loan and lease charge-offs totaled $14 million, or 0.10% annualized of average loans during the third quarter of 2023, compared with net charge-offs of $27 million, or 0.20% annualized of average loans during the prior year quarter. Classified loans decreased $196 million, or 20%. Nonperforming assets increased to $219 million, or 0.38% of loans and leases, compared with $151 million, or 0.28% of loans and leases, in the prior year quarter, primarily due to two suburban office commercial real estate loans in the Southern California market totaling $46 million. The fourth bar represents loan portfolio changes, driven primarily by portfolio-specific risks and loan growth, as well as changes in portfolio mix, the aging of the portfolio, portfolio-specific concerns, and other risk factors; all of which resulted in a $53 million increase in the ACL. See “Credit Risk Management” on page 21 and Note 6 in our 2022 Form 10-K for more information on how we determine the appropriate level of the ALLL and the RULC. Noninterest Income Noninterest income represents revenue earned from products and services that generally have no associated interest rate or yield and is classified as either customer-related or noncustomer-related. Customer-related noninterest income excludes items such as securities gains and losses, dividends, insurance-related income, and mark-to-market adjustments on certain derivatives. Total noninterest income increased $15 million, or 9%, relative to the prior year. Noninterest income accounted for approximately 24% and 20% of our net revenue during the third quarter of 2023 and 2022, respectively. The following schedule presents a comparison of the major components of noninterest income. NONINTEREST INCOME Three Months Ended September 30, Amount change Percent change Nine Months Ended September 30, Amount change Percent change (Dollar amounts in millions) 2023 2022 2023 2022 Commercial account fees $ 43 $ 40 $ 3 8 % $ 131 $ 118 $ 13 11 % Card fees 26 27 (1) (4) 75 77 (2) (3) Retail and business banking fees 17 17 — — 49 57 (8) (14) Loan-related fees and income 23 18 5 28 63 61 2 3 Capital markets fees 18 25 (7) (28) 62 61 1 2 Wealth management fees 15 14 1 7 44 41 3 7 Other customer-related fees 15 15 — — 46 46 — — Customer-related noninterest income 157 156 1 1 470 461 9 2 Fair value and nonhedge derivative income 7 4 3 75 5 20 (15) (75) Dividends and other income (loss) 12 (1) 13 NM 49 8 41 NM Securities gains (losses), net 4 6 (2) (33) 5 (10) 15 NM Noncustomer-related noninterest income 23 9 14 NM 59 18 41 NM Total noninterest income $ 180 $ 165 $ 15 9 % $ 529 $ 479 $ 50 10 % Customer-related Noninterest Income Total customer-related noninterest income remained relatively stable at $157 million, compared with the prior year period. Loan-related fees and income increased $5 million, primarily due to a $4 million gain on the sale of certain mortgage servicing assets. Commercial account fees increased $3 million, driven primarily by increased treasury management sweep income. These increases were partially offset by a $7 million decrease in capital market fees, largely due to reduced swap and loan syndication fees. 13 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Noncustomer-related Noninterest Income Total noncustomer-related noninterest income increased $14 million from the prior year quarter. Dividends and other income increased $13 million, due to a valuation loss recognized on one of our equity investments in the prior year period, as well as an increase in dividends on FHLB stock in the current period. Noninterest Expense The following schedule presents a comparison of the major components of noninterest expense. NONINTEREST EXPENSE Three Months Ended September 30, Amount change Percent change Nine Months Ended September 30, Amount change Percent change (Dollar amounts in millions) 2023 2022 2023 2022 Salaries and employee benefits $ 311 $ 312 $ (1) — % $ 974 $ 931 $ 43 5 % Technology, telecom, and information processing 62 53 9 17 175 158 17 11 Occupancy and equipment, net 42 38 4 11 122 112 10 9 Professional and legal services 16 14 2 14 45 42 3 7 Marketing and business development 10 11 (1) (9) 35 28 7 25 Deposit insurance and regulatory expense 20 13 7 54 60 36 24 67 Credit-related expense 6 8 (2) (25) 19 22 (3) (14) Other real estate expense, net — — — NM — 1 (1) NM Other 29 30 (1) (3) 86 77 9 12 Total noninterest expense $ 496 $ 479 $ 17 4 % $ 1,516 $ 1,407 $ 109 8 % Total noninterest expense increased $17 million, or 4%, relative to the prior year quarter. Technology, telecom, and information processing expense increased $9 million, primarily due to increases in application software, license, maintenance, and related software amortization expenses. Deposit insurance and regulatory expense increased $7 million, driven largely by an increased FDIC insurance base rate beginning in 2023 and changes in balance sheet composition. FDIC Special Assessment In May 2023, the FDIC issued a Notice of Proposed Rulemaking, which would implement a special assessment to recover the cost associated with protecting uninsured depositors following the closures of Silicon Valley Bank and Signature Bank. Using an assessment base equal to the estimated amount of uninsured deposits at December 31, 2022, the FDIC proposed to collect the special assessment at an annual rate of approximately 12.5 bps over eight quarterly periods, beginning with the first quarter of 2024. The ultimate impact and timing of expense recognition will depend on the final rule. As proposed, we estimate the total impact of the special assessment on our deposit insurance and regulatory expense would be approximately $80 million, which is expected to be recognized upon the rule's final issuance. The efficiency ratio was 64.4%, compared with 57.6%, primarily due to a decline in adjusted taxable-equivalent revenue. For information on non-GAAP financial measures, see page 37. 14 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Technology Spend Technology spend represents expenditures associated with technology-related investments, operations, systems, and infrastructure, and includes current period expenses reported on our consolidated statement of income, and capitalized investments, net of related amortization and depreciation, reported on our consolidated balance sheet. Technology spend is reported as a combination of the followin • Technology, telecom, and information processing expense — includes expenses related to application software licensing and maintenance, related amortization, telecommunications, and data processing; • Other technology-related expense — includes related noncapitalized salaries and employee benefits, occupancy and equipment, and professional and legal services; and • Technology investments — includes capitalized technology infrastructure equipment, hardware, and purchased or internally developed software, less related amortization or depreciation. The following schedule presents the composition of our technology spen TECHNOLOGY SPEND Three Months Ended September 30, Amount change Percent change Nine Months Ended September 30, Amount change Percent change (Dollar amounts in millions) 2023 2022 2023 2022 Technology, telecom, and information processing expense $ 62 $ 53 $ 9 17 % $ 175 $ 158 $ 17 11 % Other technology-related expense 59 52 7 13 169 152 17 11 Technology investments 22 21 1 5 71 65 6 9 L related amortization and depreciation (21) (14) (7) 50 (51) (41) (10) 24 Total technology spend $ 122 $ 112 $ 10 9 % $ 364 $ 334 $ 30 9 % Total technology spend increased $10 million relative to the prior year quarter, largely due to increases in application software, maintenance, and related software amortization expenses associated with our core loan and deposit banking system replacement project, as well as higher technology-related compensation and investments in resiliency. Income Taxes The following schedule summarizes the income tax expense and effective tax rates for the periods presented. INCOME TAXES Three Months Ended September 30, Nine Months Ended September 30, (Dollar amounts in millions) 2023 2022 2023 2022 Income before income taxes $ 228 $ 278 $ 736 $ 793 Income tax expense 53 61 182 170 Effective tax rate 23.2 % 21.9 % 24.7 % 21.4 % The effective tax rate was 23.2% and 21.9% for the three months ended September 30, 2023 and 2022, respectively. See Note 12 of the Notes to Consolidated Financial Statements for more information about the factors that impacted the income tax rates, as well as information about deferred income tax assets and liabilities. Preferred Stock Dividends Preferred stock dividends totaled $7 million and $6 million for the third quarter of 2023 and 2022, respectively. 15 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES BALANCE SHEET ANALYSIS Interest-Earning Assets Interest-earning assets have associated interest rates or yields, and generally consist of money market investments, securities, loans, and leases. We strive to maintain a high level of interest-earning assets relative to total assets. For more information regarding the average balances, associated revenue generated, and the respective yields of our interest-earning assets, see the Consolidated Average Balance Sheet on page 10. Investment Securities Portfolio We invest in securities to actively manage liquidity and interest rate risk and to generate interest income. We primarily own securities that can readily provide us cash and liquidity through secured borrowing agreements without the need to sell the securities. We also manage the duration of our investment securities portfolio to help balance the inherent interest rate mismatch between loans and deposits, and to protect the economic value of shareholders' equity. At September 30, 2023, the estimated duration of our securities portfolio decreased to 3.5 percent, compared with 4.1 percent at December 31, 2022, and 3.9 percent at September 30, 2022, primarily due to the addition of fair value hedges of fixed-rate securities during the second quarter of 2023. For information about our borrowing capacity associated with the investment securities portfolio and how we manage our liquidity risk, refer to the “Liquidity Risk Management” section on page 31. See also Note 3 and Note 5 of the Notes to Consolidated Financial Statements for more information on fair value measurements and the accounting for our investment securities portfolio. The following schedule presents the major components of our investment securities portfolio. INVESTMENT SECURITIES PORTFOLIO September 30, 2023 December 31, 2022 (In millions) Par Value Amortized cost Fair value Par Value Amortized cost Fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 94 $ 94 $ 86 $ 100 $ 100 $ 93 Agency guaranteed mortgage-backed securities 1 12,201 10,106 9,637 12,921 10,621 10,772 Municipal securities 359 359 326 404 405 374 Total held-to-maturity 12,654 10,559 10,049 13,425 11,126 11,239 Available-for-sale U.S. Treasury securities 585 585 460 555 557 393 U.S. Government agencies and corporatio Agency securities 698 692 645 790 782 736 Agency guaranteed mortgage-backed securities 8,664 8,739 7,144 9,566 9,652 8,367 Small Business Administration loan-backed securities 568 606 578 691 740 712 Municipal securities 1,309 1,431 1,297 1,571 1,732 1,634 Other debt securities 25 25 24 75 75 73 Total available-for-sale 11,849 12,078 10,148 13,248 13,538 11,915 Total HTM and AFS investment securities $ 24,503 $ 22,637 $ 20,197 $ 26,673 $ 24,664 $ 23,154 1 During the fourth quarter of 2022, we transferred approximately $10.7 billion fair value ($13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category. The transfer of these securities from AFS to HTM at fair value resulted in a discount to the amortized cost basis of the HTM securities equivalent to the $2.4 billion ($1.8 billion after tax) of unrealized losses in AOCI attributable to these securities. The amortization of the unrealized losses will offset the effect of the accretion of the discount created by the transfer. At September 30, 2023, the unamortized discount on the HTM securities totaled approximately $2.2 billion ($1.6 billion after tax). The amortized cost of total HTM and AFS investment securities decreased $2.0 billion, or 8%, from December 31, 2022, primarily due to principal reductions. Approximately 8% of the total HTM and AFS investment securities 16 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES were floating-rate instruments at both September 30, 2023 and December 31, 2022, respectively. Additionally, at September 30, 2023, we have $3.6 billion of pay-fixed swaps held as fair value hedges against fixed-rate AFS securities that effectively convert the fixed interest income to a floating rate on the hedged portion of the securities. At September 30, 2023, the AFS investment securities portfolio included approximately $229 million of net premium that was distributed across the various security categories. Total taxable-equivalent premium amortization for these investment securities was $20 million for the third quarter of 2023, compared with $27 million for the same prior year period. In addition to HTM and AFS securities, we also have a trading securities portfolio, comprised of municipal securities, that totaled $31 million at September 30, 2023, compared with $465 million at December 31, 2022. The prior year-end amount also included $395 million of exposures to money market mutual funds. Beginning in the first quarter of 2023, related balances were presented in “Money market investments” on the consolidated balance sheet. Refer to the “Interest Rate Risk Management” section on page 28, the “Capital Management” section on page 34, and Note 5 of the Notes to Consolidated Financial Statements for more discussion regarding our investment securities portfolio, swaps, and related unrealized gains and losses. Municipal Investments and Extensions of Credit We support our communities by providing products and services to state and local governments (“municipalities”), including deposit services, loans, and investment banking services. We also invest in securities issued by municipalities. Our municipal lending products generally include loans in which the debt service is repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. The following schedule summarizes our total investments and extensions of credit to municipaliti MUNICIPAL INVESTMENTS AND EXTENSIONS OF CREDIT (In millions) September 30, 2023 December 31, 2022 Loans and leases $ 4,221 $ 4,361 Held-to-maturity securities 359 405 Available-for-sale securities 1,297 1,634 Trading securities 31 71 Unfunded lending commitments 282 406 Total $ 6,190 $ 6,877 Our municipal loans and securities are primarily associated with municipalities located within our geographic footprint. The municipal loan and lease portfolio is primarily secured by general obligations of municipal entities. Other types of collateral also include real estate, revenue pledges, or equipment. At September 30, 2023, we had no municipal loans on nonaccrual. Municipal securities are internally graded, similar to loans, using risk-grading systems which vary based on the size and type of credit risk exposure. The internal risk grades assigned to our municipal securities follow our definitions of Pass, Special Mention, and Substandard, which are consistent with published definitions of regulatory risk classifications. At September 30, 2023, all municipal securities were graded as Pass. See Notes 5 and 6 of the Notes to Consolidated Financial Statements for additional information about the credit quality of these municipal loans and securities. 17 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Loan and Lease Portfolio We provide a wide range of lending products to commercial customers, generally small- and medium-sized businesses. We also provide various retail lending products and services to consumers and small businesses. The following schedule presents the composition of our loan and lease portfolio. LOAN AND LEASE PORTFOLIO September 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount % of total loans Amount % of total loans Commerci Commercial and industrial $ 16,341 28.7 % $ 16,377 29.4 % Leasing 373 0.7 386 0.7 Owner-occupied 9,273 16.3 9,371 16.9 Municipal 4,221 7.4 4,361 7.8 Total commercial 30,208 53.1 30,495 54.8 Commercial real estate: Construction and land development 2,575 4.5 2,513 4.5 Term 10,565 18.6 10,226 18.4 Total commercial real estate 13,140 23.1 12,739 22.9 Consume Home equity credit line 3,313 5.8 3,377 6.1 1-4 family residential 8,116 14.3 7,286 13.1 Construction and other consumer real estate 1,510 2.7 1,161 2.1 Bankcard and other revolving plans 475 0.8 471 0.8 Other 131 0.2 124 0.2 Total consumer 13,545 23.8 12,419 22.3 Total loans and leases $ 56,893 100.0 % $ 55,653 100.0 % At September 30, 2023 and December 31, 2022, the ratio of loans and leases to total assets was 65% and 62%, respectively. The largest loan category was commercial and industrial loans, which constituted 29% of our total loan portfolio at both time periods. During the first nine months of 2023, the loan and lease portfolio increased $1.2 billion, or 2%, to $56.9 billion at September 30, 2023. Consumer loans increased $1.1 billion, primarily in the 1-4 family residential and consumer construction loan portfolios, and commercial real estate loans increased $0.4 billion, primarily in the multi-family and industrial term loan portfolios. Increased funding of construction lending commitments and conversion-to-term loans contributed to growth in these portfolios. 18 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Other Noninterest-Bearing Investments Other noninterest-bearing investments are equity investments that are held primarily for capital appreciation, dividends, or for certain regulatory requirements. The following schedule summarizes our related investments. OTHER NONINTEREST-BEARING INVESTMENTS (Dollar amounts in millions) September 30, 2023 December 31, 2022 Amount change Percent change Bank-owned life insurance $ 551 $ 546 $ 5 1 % Federal Home Loan Bank stock 71 294 (223) (76) Federal Reserve stock 65 68 (3) (4) Farmer Mac stock 23 19 4 21 SBIC investments 185 172 13 8 Other 34 31 3 10 Total other noninterest-bearing investments $ 929 $ 1,130 $ (201) (18) % Total other noninterest-bearing investments decreased $201 million, or 18%, during the first nine months of 2023, primarily due to a $223 million decrease in FHLB stock. We are required to invest approximately 4% of our FHLB borrowings in FHLB stock to maintain our borrowing capacity. The decrease in FHLB stock was primarily due to declines in FHLB borrowings since the first quarter of 2023, which was largely due to reduced funding needs as a result of the decrease in interest-earning assets and the increase in interest-bearing deposits. In 2007, we received 460,153 non-transferable Class B shares of Visa, Inc. in connection with a restructuring and public offering by Visa U.S.A. As a member of Visa U.S.A., we received the Class B shares based on our interest in Visa U.S.A. and did not pay anything to acquire the shares. On September 13, 2023, Visa, Inc. announced its intent to engage with common stockholders on a potential proposal that would result in the release of certain transfer restrictions on a portion of Visa Class B common stock. If approved by a majority of Class A, B, and C common stockholders, the proposal would provide us the option to convert up to 50% of our Class B shares to freely transferable Visa Class A common shares. The per share closing price of a Visa Class A common share was $230.01 at September 30, 2023. In light of uncertainties associated with certain ongoing litigation matters involving Visa and the timing and outcome of the aforementioned proposal, the ultimate impact of this gain contingency is unknown. Premises, Equipment, and Software We are in the final phase of a three-phase project to replace our core loan and deposit banking systems. This final phase includes the replacement of our deposit banking systems through multiple affiliate bank conversions, the first of which was completed in the second quarter of 2023. We expect to complete substantially all of the remaining affiliate bank conversions in 2024. The following schedule summarizes the capitalized costs associated with our core system replacement project, which are depreciated using a useful life of ten years. CAPITALIZED COSTS ASSOCIATED WITH THE CORE SYSTEM REPLACEMENT PROJECT September 30, 2023 (In millions) Phase 1 Phase 2 Phase 3 Total Total amount of capitalized costs, less accumulated depreciation $ 24 $ 47 $ 224 $ 295 19 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Deposits Deposits are our primary funding source. The following schedule presents the composition of our deposit portfolio. DEPOSIT PORTFOLIO September 30, 2023 June 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount % of total deposits Amount % of total deposits Amount % of total deposits Deposits by type Noninterest-bearing demand $ 26,733 35.5 % $ 28,670 38.6 % $ 35,777 49.9 % Interest-bearin Savings and money market 37,026 49.1 33,303 44.8 33,474 46.7 Time 5,089 6.7 3,897 5.2 1,484 2.1 Brokered 6,551 8.7 8,453 11.4 917 1.3 Total deposits $ 75,399 100.0 % $ 74,323 100.0 % $ 71,652 100.0 % Deposit-related metrics Estimated amount of insured deposits $ 44,176 59 % $ 43,911 59 % $ 34,018 47 % Estimated amount of uninsured deposits $ 31,223 41 % $ 30,412 41 % $ 37,634 53 % Estimated amount of collateralized deposits 1 $ 2,915 4 % $ 2,679 4 % $ 2,861 4 % Loan-to-deposit ratio 75% 77% 78% 1 Includes both insured and uninsured deposits. Total deposits increased $1.1 billion, or 1%, from June 30, 2023, and $3.7 billion, or 5%, from December 31, 2022. Customer deposits (excluding brokered deposits) increased $3.0 billion, or 5%, from June 30, 2023. This growth, resulting from both existing and new customers, is primarily due to an increase in interest-bearing deposits, as the higher interest rate environment influenced the movement of customer balances into interest-bearing products. Our noninterest-bearing deposits are generally more valuable in a rising interest rate environment, creating meaningful economic value that is not fully reflected on our balance sheet since core deposits and related intangible assets are not recorded at fair value for accounting purposes. At September 30, 2023 and June 30, 2023, total customer deposits included approximately $6.4 billion and $3.4 billion, respectively, of reciprocal placement products, where we distributed our customers’ deposits in a placement network to increase their FDIC insurance and in return we received a matching amount of deposits from other network banks. At September 30, 2023, the estimated total amount of uninsured deposits was $31.2 billion, or 41%, of total deposits, compared with $30.4 billion, or 41%, and $37.6 billion, or 53%, of total deposits at June 30, 2023 and December 31, 2022, respectively. Our loan-to-deposit ratio was 75%, compared with 77% and 78% for the same respective time periods. See “Liquidity Risk Management” on page 31 for additional information on liquidity, including the ratio of available liquidity to uninsured deposits. RISK MANAGEMENT Risk management is an integral part of our operations and is a key determinant of our overall performance. We employ various strategies to prudently manage the risks to which our operations are exposed, including credit risk, market and interest rate risk, liquidity risk, strategic and business risk, operational risk, technology risk, cybersecurity risk, capital/financial reporting risk, legal/compliance risk (including regulatory risk), and reputational risk. These risks are overseen by various management committees including the Enterprise Risk Management Committee. For a more comprehensive discussion of these risks, see “Risk Factors” in our 2022 Form 10-K. 20 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit Risk Management Credit risk is the possibility of loss from the failure of a borrower, guarantor, or another obligor to fully perform under the terms of a credit-related contract. Credit risk arises primarily from our lending activities, as well as from off-balance sheet credit instruments. Credit policies, credit risk management, and credit examination functions inform and support the oversight of credit risk. Our credit policies emphasize strong underwriting standards and early detection of potential problem credits in order to develop and implement action plans on a timely basis to mitigate potential losses. These formal credit policies and procedures provide us with a framework for consistent underwriting and a basis for sound credit decisions at the local banking affiliate level. Our overall credit risk management strategy includes diversification of our loan portfolio. Our business activity is conducted primarily within the geographic footprint of our banking affiliates. We strive to avoid the risk of undue concentrations of credit in any particular industry, collateral type, location, or with any individual customer or counterparty. We have actively managed the credit risk in our commercial real estate portfolio for more than a decade, having reduced CRE loans to 23% of total loans, compared with 33% in late 2008. For a more comprehensive discussion of our credit risk management, see “Credit Risk Management” in our 2022 Form 10-K. U.S. Government Agency Guaranteed Loans We participate in various guaranteed lending programs sponsored by United States (“U.S.”) government agencies, such as the Small Business Administration (“SBA”), Federal Housing Authority, U.S. Department of Veterans Affairs, Export-Import Bank of the U.S., and the U.S. Department of Agriculture. At September 30, 2023, $574 million of related loans were guaranteed, primarily by the SBA, and included $106 million of Paycheck Protection Program (“PPP”) loans. The following schedule presents the composition of U.S. government agency guaranteed loans. U.S. GOVERNMENT AGENCY GUARANTEED LOANS (Dollar amounts in millions) September 30, 2023 Percent guaranteed December 31, 2022 Percent guaranteed Commercial $ 680 81 % $ 753 83 % Commercial real estate 24 79 21 76 Consumer 5 100 5 100 Total loans $ 709 81 % $ 779 83 % 21 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Commercial Lending The following schedule provides information regarding lending exposures to certain industries in our commercial lending portfolio. COMMERCIAL LENDING BY INDUSTRY GROUP 1 September 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Real estate, rental and leasing $ 3,007 10.0 % $ 2,802 9.2 % Retail trade 2,829 9.4 2,751 9.0 Finance and insurance 2,739 9.1 2,992 9.8 Healthcare and social assistance 2,518 8.3 2,373 7.8 Public Administration 2,217 7.3 2,366 7.8 Manufacturing 2,193 7.3 2,387 7.8 Wholesale trade 1,891 6.3 1,880 6.2 Utilities 2 1,550 5.1 1,418 4.6 Transportation and warehousing 1,480 4.9 1,464 4.8 Educational services 1,297 4.3 1,302 4.3 Construction 1,253 4.1 1,355 4.4 Hospitality and food services 1,198 4.0 1,238 4.1 Mining, quarrying, and oil and gas extraction 1,162 3.8 1,349 4.4 Other Services (except Public Administration) 1,061 3.5 1,041 3.4 Professional, scientific, and technical services 1,005 3.3 995 3.3 Other 3 2,808 9.3 2,782 9.1 Total $ 30,208 100.0 % $ 30,495 100.0 % 1 Industry groups are determined by North American Industry Classification System (“NAICS”) codes. 2 Includes primarily utilities, power, and renewable energy. 3 No other industry group exceeds 3.1%. Commercial Real Estate Loans At September 30, 2023 and December 31, 2022, our CRE loan portfolio totaled $13.1 billion and $12.7 billion, respectively, representing 23% of the total loan portfolio for both periods. The majority of our CRE loans are secured by real estate primarily located within our geographic footprint. The following schedule presents the geographic distribution of our CRE loan portfolio based on the location of the primary collateral. COMMERCIAL REAL ESTATE LENDING BY COLLATERAL LOCATION September 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Arizona $ 1,696 12.9 % $ 1,521 11.9 % California 3,824 29.1 3,805 29.9 Colorado 668 5.1 637 5.0 Nevada 1,031 7.9 910 7.1 Texas 2,252 17.1 2,139 16.8 Utah/Idaho 2,262 17.2 2,397 18.8 Washington/Oregon 947 7.2 899 7.1 Other 460 3.5 431 3.4 Total CRE $ 13,140 100.0 % $ 12,739 100.0 % Term CRE loans generally mature within a three- to seven-year period and consist of full, partial, and non-recourse guarantee structures. Typical term CRE loan structures include annually tested operating covenants that require loan rebalancing based on minimum debt service coverage, debt yield, or loan-to-value tests. Construction and land development loans generally mature in 18 to 36 months and contain full or partial recourse guarantee structures with 22 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES one- to five-year extension options or roll-to-perm options that often result in term loans. At September 30, 2023, approximately 85% of our CRE loan portfolio was variable-rate, and approximately 24% of these variable-rate loans were swapped to a fixed rate. Underwriting on commercial properties is primarily based on the economic viability of the project with significant consideration given to the creditworthiness and experience of the sponsor. We generally require that the owner’s equity be injected prior to any advances. Re-margining requirements (required equity infusions upon a decline in value or cash flow of the collateral) are often included in the loan agreement along with guarantees of the sponsor. For a more comprehensive discussion of CRE loans and our underwriting, see the “Commercial Real Estate Loans” section in our 2022 Form 10-K. The following schedule presents our CRE loan portfolio by collateral type. COMMERCIAL REAL ESTATE LENDING BY COLLATERAL TYPE September 30, 2023 December 31, 2022 (Dollar amounts in millions) Amount Percent Amount Percent Commercial property Multi-family $ 3,563 27.1 % $ 3,068 24.1 % Industrial 2,905 22.1 2,509 19.7 Office 2,100 15.9 2,281 17.9 Retail 1,467 11.2 1,529 12.0 Hospitality 696 5.3 695 5.4 Land 221 1.7 276 2.2 Other 1 1,696 12.9 1,728 13.5 Residential property 2 Single family 258 2.0 340 2.7 Land 76 0.6 75 0.6 Condo/Townhome 31 0.2 13 0.1 Other 1 127 1.0 225 1.8 Total $ 13,140 100.0 % $ 12,739 100.0 % 1 Included in the total amount of the “Other” categories was approximately $241 million and $301 million of unsecured loans at September 30, 2023 and December 31, 2022, respectively. 2 Residential property collateral type consists primarily of loans provided to commercial homebuilders for land, lot, and single-family housing developments. Our CRE portfolio is diversified across geography and collateral type, with the largest concentration in multi-family. We provide additional analysis of our office CRE portfolio below in view of increased investor interest in that collateral type in recent periods. 23 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Office CRE loan portfolio At September 30, 2023 and December 31, 2022, our office CRE loan portfolio totaled $2.1 billion and $2.3 billion, representing 16% and 18% of the total CRE loan portfolio, respectively. Approximately 30% of the office CRE loan portfolio is scheduled to mature in the next 12 months. The following schedule presents the composition of our office CRE loan portfolio and other related credit quality metrics. OFFICE CRE LOAN PORTFOLIO (Dollar amounts in millions) September 30, 2023 December 31, 2022 Office CRE Construction and land development $ 174 $ 208 Term 1,926 2,073 Total office CRE $ 2,100 $ 2,281 Credit quality metrics Criticized loan ratio 9.9 % 7.2 % Classified loan ratio 5.5 % 5.8 % Nonaccrual loan ratio 2.3 % — % Delinquency ratio 1.3 % 1.5 % Net charge-offs, annualized 0.1 % — % Ratio of allowance for credit losses to office CRE loans, at period end 3.57 % 1.36 % The following schedules present our office CRE loan portfolio by collateral location for the periods presented. OFFICE CRE LOAN PORTFOLIO BY COLLATERAL LOCATION (Dollar amounts in millions) September 30, 2023 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total Office CRE Construction and land development $ — $ 65 $ — $ 2 $ 15 $ 22 $ 70 $ — $ 174 Term 288 428 90 87 180 594 229 30 1,926 Total Office CRE $ 288 $ 493 $ 90 $ 89 $ 195 $ 616 $ 299 $ 30 $ 2,100 % of total 13.7 % 23.5 % 4.3 % 4.3 % 9.3 % 29.3 % 14.2 % 1.4 % 100.0 % (Dollar amounts in millions) December 31, 2022 Collateral Location Loan type Arizona California Colorado Nevada Texas Utah/ Idaho Wash-ington Other 1 Total Office CRE Construction and land development $ 8 $ 79 $ — $ 2 $ — $ 18 $ 101 $ — $ 208 Term 295 525 97 99 217 613 195 32 2,073 Total Office CRE $ 303 $ 604 $ 97 $ 101 $ 217 $ 631 $ 296 $ 32 $ 2,281 % of total 13.1 % 27.0 % 4.3 % 4.3 % 9.6 % 26.8 % 13.5 % 1.4 % 100.0 % 1 No other geography exceeds $17 million and $18 million at September 30, 2023 and December 31, 2022, respectively. Consumer Loans We originate first-lien residential home mortgages considered to be of prime quality. We generally hold variable-rate loans in our portfolio and sell “conforming” fixed-rate loans to third parties, including Federal National Mortgage Association and Federal Home Loan Mortgage Corporation, for which we make representations and warranties that the loans meet certain underwriting and collateral documentation standards. 24 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES During the first nine months of 2023, consumer loans increased $1.1 billion, primarily in the 1-4 family residential and consumer construction loan portfolios. Increased funding of construction lending commitments and conversion-to-term loans contributed to growth in these portfolios. We also originate home equity credit lines (“HECLs”). At September 30, 2023 and December 31, 2022, our HECL portfolio totaled $3.3 billion and $3.4 billion, respectively. Approximately 40% and 44% of our HECLs are secured by first liens for the same respective time periods. At September 30, 2023, loans representing less than 1% of the outstanding balance in the HECL portfolio were estimated to have combined loan-to-value (“CLTV”) ratios above 100%. An estimated CLTV ratio is the ratio of our loan plus any prior lien amounts divided by the estimated current collateral value. At origination, underwriting standards for the HECL portfolio generally include a maximum 80% CLTV with a Fair Isaac Corporation (“FICO”) credit score greater than 700. Approximately 90% of our HECL portfolio is still in the draw period, and about 18% of those loans are scheduled to begin amortizing within the next five years. We believe the risk of loss and borrower default in the event of a loan becoming fully amortizing and the effect of significant interest rate changes is low, given the rate shock analysis performed at origination. The ratio of HECL net charge-offs (recoveries) for the trailing twelve months to average balances at September 30, 2023 and December 31, 2022, was 0.05% and (0.03)%, respectively. See Note 6 of the Notes to Consolidated Financial Statements for additional information on the credit quality of the HECL portfolio. Nonperforming Assets Nonperforming assets include nonaccrual loans and other real estate owned (“OREO”) or foreclosed properties. The following schedule presents our nonperforming assets. NONPERFORMING ASSETS (Dollar amounts in millions) September 30, 2023 December 31, 2022 Nonaccrual loans 1 $ 216 $ 149 Other real estate owned 2 3 — Total nonperforming assets $ 219 $ 149 Ratio of nonperforming assets to net loans and leases 1 and other real estate owned 2 0.38 % 0.27 % Accruing loans past due 90 days or more $ 16 $ 6 Ratio of accruing loans past due 90 days or more to loans and leases 1 0.03 % 0.01 % Nonaccrual loans 1 and accruing loans past due 90 days or more $ 232 $ 155 Ratio of nonperforming assets 1 and accruing loans past due 90 days or more to loans and leases 1 and other real estate owned 2 0.41 % 0.28 % Nonaccrual loans 1 current as to principal and interest payments 62.2 % 57.7 % 1 Includes loans held for sale. 2 Does not include banking premises held for sale. Nonperforming assets as a percentage of loans and leases and OREO increased to 0.38% at September 30, 2023, compared with 0.27% at December 31, 2022. Total nonaccrual loans at September 30, 2023 increased to $216 million from $149 million at December 31, 2022, primarily due to two suburban office commercial real estate loans in the Southern California market totaling $46 million. See Note 6 of the Notes to Consolidated Financial Statements for more information on nonaccrual loans. 25 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Loan Modifications Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. On January 1, 2023, we adopted Accounting Standards Update (“ASU”) 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures, which eliminated the recognition and measurement of troubled debt restructurings (“TDRs”) and their related disclosures. ASU 2022-02 requires enhanced disclosures for loan modifications to borrowers experiencing financial difficulty. For the first nine months of 2023, loans that have been modified to accommodate a borrower experiencing financial difficulties totaled $243 million. If a modified loan is on nonaccrual and performs for at least six months according to the modified terms, and an analysis of the customer’s financial condition indicates that we are reasonably assured of repayment of the modified principal and interest, the loan may be returned to accrual status. The borrower’s payment performance prior to and following the modification is taken into account to determine whether a loan should be returned to accrual status. ACCRUING AND NONACCRUING MODIFIED LOANS TO BORROWERS EXPERIENCING FINANCIAL DIFFICULTY (In millions) September 30, 2023 Modified loans – accruing $ 232 Modified loans – nonaccruing 11 Total $ 243 For additional information regarding loan modifications to borrowers experiencing financial difficulty, including information related to TDRs prior to our adoption of ASU 2022-02, see Note 6 of the Notes to Consolidated Financial Statements. Allowance for Credit Losses The ACL includes the ALLL and the RULC. The ACL represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. To determine the adequacy of the allowance, our loan and lease portfolio is segmented based on loan type. The RULC is a reserve for potential losses associated with off-balance sheet commitments and is separately recorded on the consolidated balance sheet in “Other liabilities.” Any related increases or decreases in the reserve are recorded on the consolidated income statement in “Provision for unfunded lending commitments.” 26 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the changes in and allocation of the ACL. SUMMARY OF CREDIT LOSS EXPERIENCE (Dollar amounts in millions) Nine Months Ended September 30, 2023 Twelve Months Ended December 31, 2022 Nine Months Ended September 30, 2022 Loans and leases outstanding $ 56,893 $ 55,653 $ 53,918 Average loans and leases outstandin Commercial 30,620 29,225 28,945 Commercial real estate 12,942 12,251 12,151 Consumer 13,041 11,122 10,801 Total average loans and leases outstanding $ 56,603 $ 52,598 $ 51,897 Allowance for loan and lease loss Balance at beginning of period 1 $ 572 $ 513 $ 513 Provision for loan losses 136 101 70 Charge-offs: Commercial 35 72 65 Commercial real estate 3 — — Consumer 11 10 8 Total 49 82 73 Recoveri Commercial 17 32 21 Commercial real estate — — — Consumer 5 11 10 Total 22 43 31 Net loan and lease charge-offs 27 39 42 Balance at end of period $ 681 $ 575 $ 541 Reserve for unfunded lending commitments: Balance at beginning of period $ 61 $ 40 $ 40 Provision for unfunded lending commitments (4) 21 9 Balance at end of period $ 57 $ 61 $ 49 Total allowance for credit loss Allowance for loan and lease losses $ 681 $ 575 $ 541 Reserve for unfunded lending commitments 57 61 49 Total allowance for credit losses $ 738 $ 636 $ 590 Ratio of allowance for credit losses to net loans and leases, at period end 1.30 % 1.14 % 1.09 % Ratio of allowance for credit losses to nonaccrual loans, at period end 371 % 427 % 391 % Ratio of allowance for credit losses to nonaccrual loans and accruing loans past due 90 days or more, at period end 343 % 410 % 345 % Ratio of total net charge-offs to average loans and leases 2 0.06 % 0.07 % 0.11 % Ratio of commercial net charge-offs to average commercial loans 2 0.08 % 0.14 % 0.20 % Ratio of commercial real estate net charge-offs to average commercial real estate loans 2 0.03 % — % — % Ratio of consumer net charge-offs to average consumer loans 2 0.06 % (0.01) % (0.02) % 1 The beginning balance for the nine months ended September 30, 2023 for the allowance for loan losses does not agree to the ending balance at December 31, 2022 because of the adoption of the new accounting standard related to loan modifications to borrowers experiencing financial difficulties. 2 Ratios are annualized for the periods presented except for the period representing the full twelve months. The total ACL increased to $738 million, from $636 million, during the first nine months of 2023, primarily due to deterioration in economic forecasts. See Note 6 of the Notes to Consolidated Financial Statements for additional information related to the ACL and credit trends experienced in each portfolio segment. 27 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Interest Rate and Market Risk Management Interest rate risk is the potential for reduced net interest income and other rate-sensitive income resulting from adverse changes in the level of interest rates. Market risk is the potential for loss arising from adverse changes in the fair value of fixed-income securities, equity securities, other earning assets, and derivative financial instruments as a result of changes in interest rates or other factors. Because we engage in transactions involving various financial products, we are exposed to both interest rate risk and market risk. For a more comprehensive discussion of our interest rate and market risk management, see the “Interest Rate and Market Risk Management” section in our 2022 Form 10-K. Interest Rate Risk We strive to position the Bank for interest rate changes and manage the balance sheet sensitivity to reduce the volatility of both net interest income and economic value of equity (“EVE”). With the recent prominent bank failures during the first half of 2023, customer deposit behavior deviated from modeled behaviors, with the latter being informed using data reflecting an extended period of relatively low interest rates. As such, in addition to our historical-based assumptions, we have included adjusted deposit assumptions into our interest risk rate management, which increase the deposit beta for interest-bearing products and increase the percentage of non-interest bearing deposits that migrate to interest-bearing products. While we seek to comply with our interest rate risk limits under both sets of assumptions, management believes the adjusted deposit assumptions are more likely to reflect future behavior of deposits. We generally have granular deposit funding, and much of this funding has an indeterminate life with no maturity, and can be withdrawn at any time. Because most deposits come from household and business accounts, their duration is generally longer than the duration of our loan portfolio. As such, we are naturally “asset-sensitive” — meaning that our assets are expected to reprice faster or more significantly than our liabilities. We regularly use interest rate swaps, investment in fixed-rate securities, and funding strategies to manage our interest rate risk. These strategies collectively have muted the expected sensitivity of net interest income to changes in interest rates. Asset sensitivity measures depend upon the assumptions we use for deposit runoff and repricing behavior. As interest rates rise, we expect some customers to move balances from demand deposits to interest-bearing accounts such as money market, savings, or certificates of deposit. Our models are particularly sensitive to the assumption about the rate of such migration. We also assume a correlation, referred to as a “deposit beta,” with respect to interest-bearing deposits, wherein the rates paid to customers change at a different pace when compared with changes in average benchmark interest rates. Generally, certificates of deposit are assumed to have a high correlation, while interest-bearing checking accounts are assumed to have a lower correlation. The following schedule presents deposit duration assumptions using both historical-based deposit behavior as well as the adjusted deposit assumptions discussed previously. DEPOSIT ASSUMPTIONS September 30, 2023 December 31, 2022 Historical-based assumptions Adjusted assumptions Historical-based assumptions Product Effective duration (unchanged) Effective duration (+200 bps) Effective duration (unchanged) Effective duration (+200 bps) Effective duration (unchanged) Effective duration (+200 bps) Demand deposits 4.2% 3.8% 3.1% 2.9% 3.6% 3.5% Money market 2.2% 2.1% 1.5% 1.3% 2.3% 2.0% Savings and interest-bearing checking 2.4% 2.0% 1.6% 1.1% 3.1% 2.8% 28 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES As more rate-sensitive deposits have runoff, the effective duration of the deposits under the historical-based assumptions has lengthened due to the remaining deposits that are assumed to be less rate sensitive. Conversely, the effective duration of the deposits under the adjusted assumptions has shortened considerably due to faster deposit repricing. As noted previously, we utilize derivatives to manage interest rate risk. The following schedule presents derivatives that are designated in qualifying hedging relationships at September 30, 2023. Included are the average outstanding derivative notional amounts for each period presented and the weighted average fixed-rate paid or received for each category of cash flow and fair value hedge. Fair value hedges of assets include $2.5 billion in notional of hedges of AFS securities designated under the portfolio layer method that were added during the second quarter of 2023. See Note 7 of the Notes to Consolidated Financial Statements for additional information regarding the impact of these hedging relationships on interest income and expense. DERIVATIVES DESIGNATED IN QUALIFYING HEDGING RELATIONSHIPS 2023 2024 2025 3Q25 - 2Q26 3Q26 - 2Q27 (Dollar amounts in millions) Fourth Quarter First Quarter Second Quarter Third Quarter Fourth Quarter First Quarter Second Quarter Third Quarter Cash flow hedges Cash flow hedges of assets 1,2 Average outstanding notional $ 2,250 $ 1,817 $ 1,483 $ 1,050 $ 550 $ 350 $ 350 $ 350 $ 111 $ 100 Weighted-average fixed-rate received 2.24 % 2.05 % 1.96 % 1.82 % 1.96 % 2.34 % 2.34 % 2.34 % 1.66 % 1.65 % Cash flow hedges of liabilities 3 Average outstanding notional $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ 500 $ — $ — $ — Weighted-average fixed-rate paid 3.67 % 3.67 % 3.67 % 3.67 % 3.67 % 3.67 % 3.67 % — % — % — % 2024 2025 2026 2027 2028 2029 2030 2031 2032 2033 Fair value hedges Fair value hedges of assets 4 Average outstanding notional $ 4,171 $ 4,444 $ 4,558 $ 4,562 $ 4,558 $ 2,428 $ 1,049 $ 1,044 $ 1,037 $ 1,001 Weighted-average fixed-rate paid 3.33 % 3.24 % 3.21 % 3.21 % 3.21 % 2.47 % 1.84 % 1.83 % 1.83 % 1.83 % 1 Cash flow hedges consist of receive-fixed swaps hedging pools of floating-rate loans. 2 Cash flow hedges of assets fully matures in October 2027. Amounts for 2027 have not been prorated to reflect this hedge maturing during the period. 3 Cash flow hedges of liabilities fully matures in May 2025. 4 Fair value hedges of assets consist of pay-fixed interest rate swaps hedging AFS fixed-rate securities. Incorporating the historical-based and adjusted deposit assumptions and the impact of derivatives in qualifying hedging relationships previously discussed, the following schedule presents earnings at risk (“EaR”), or the percentage change in 12-month forward-looking net interest income, and our estimated percentage change in EVE. Both EaR and EVE are based on a static balance sheet size under parallel interest rate changes ranging from -100 bps to +300 bps. These measures highlight the sensitivity to changes in interest rates across various scenarios; the outcomes are not intended to be forecasts of expected net interest income. 29 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES INCOME SIMULATION – CHANGE IN NET INTEREST INCOME AND CHANGE IN ECONOMIC VALUE OF EQUITY September 30, 2023 December 31, 2022 Parallel shift in rates (in bps) 1 Parallel shift in rates (in bps) 1 Repricing scenario -100 0 +100 +200 +300 -100 0 +100 +200 +300 Historical-based assumptio Earnings at Risk (EaR) (4.4) % — % 4.4 % 8.9 % 13.3 % (2.4) % — % 2.4 % 4.8 % 7.1 % Economic Value of Equity (EVE) (0.8) % — % 1.8 % 3.5 % 5.0 % 2.0 % — % (1.1) % (2.3) % (3.7) % Adjusted assumptio Earnings at Risk (EaR) (0.7) % — % 0.6 % 1.4 % 2.0 % Economic Value of Equity (EVE) 4.4 % — % (4.9) % (9.7) % (14.1) % 1 Assumes rates cannot go below zero in the negative rate shift. Under the historical-based assumptions, the asset sensitivity, as measured by EaR, increased during the third quarter of 2023, primarily due an increase in pay-fixed interest rate swap notional, partially offset by deposit migration from low beta products to high beta products. Under the adjusted deposit assumptions, asset sensitivity decreased significantly due to faster deposit repricing. Both assumptions result in interest rate risk being within policy limits; management believes the adjusted deposit assumptions are more likely to reflect future behavior of deposits. For interest-bearing deposits with indeterminate maturities, the weighted average modeled beta is 42% under the historical-based assumptions, and 62% under the adjusted assumptions. The EaR analysis focuses on parallel rate shocks across the term structure of benchmark interest rates. In a non-parallel rate scenario where shorter-term rates increase slightly, but the ten-year rate increases by 200 bps, the increase in EaR as modeled under the historical-based assumptions would be approximately 50 percent larger than the change associated with the parallel +200 bps rate change. EaR has inherent limitations in describing expected changes in net interest income in rapidly changing interest rate environments due to a lag in asset and liability repricing behavior. As such, we expect net interest income to change due to “latent” and “emergent” interest rate sensitivity. Unlike EaR, which measures net interest income over 12 months, latent and emergent interest rate sensitivity explains changes in current quarter net interest income, compared with expected net interest income in the same quarter one year forward. Latent interest rate sensitivity refers to future changes in net interest income based upon past rate movements that have yet to be fully recognized in revenue but will be recognized over the near term. We expect latent sensitivity to reduce net interest income by approximately 2% in the third quarter of 2024, compared with the third quarter of 2023. Emergent interest rate sensitivity refers to future changes in net interest income based upon future interest rate movements and is measured from the latent level of net interest income. If interest rates rise consistent with the forward curve at September 30, 2023, we expect emergent sensitivity to decrease net interest income by an insignificant amount from the latent sensitivity level, for a cumulative 2% reduction in net interest income. Our focus on business banking also plays a significant role in determining the nature of our asset-liability management posture. At September 30, 2023, $24.3 billion of our commercial lending and CRE loan balances were scheduled to reprice in the next six months. For these variable-rate loans, we have executed $2.6 billion of cash flow hedges by receiving fixed rates on interest rate swaps. At September 30, 2023, we also had $3.5 billion of variable-rate consumer loans scheduled to reprice in the next six months. The impact on asset sensitivity from commercial or consumer loans with floors has become insignificant as rates have risen. See Notes 3 and 7 of the Notes to Consolidated Financial Statements for additional information regarding derivative instruments. 30 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Market Risk – Fixed Income We are exposed to market risk through changes in fair value. This includes market risk for trading securities and for interest rate swaps used to hedge interest rate risk. We underwrite municipal and corporate securities. We also trade municipal, agency, and treasury securities. This underwriting and trading activity exposes us to a risk of loss arising from adverse changes in the prices of these fixed-income securities. Changes in the fair value of AFS securities and in interest rate swaps that qualify as cash flow hedges are included in accumulated other comprehensive income (loss) (“AOCI”) for each financial reporting period. During the third quarter of 2023, the $105 million after-tax increase in AOCI loss related to investment securities was driven largely by declines in the fair value of the AFS securities primarily due to increases in benchmark interest rates. For more discussion regarding investment securities and AOCI, see the “Capital Management” section on page 34. See also Note 5 of the Notes to Consolidated Financial Statements for further information regarding the accounting for investment securities. Market Risk – Equity Investments Through our equity investment activities, we own equity securities that are publicly traded. In addition, we own equity securities in governmental entities and companies, e.g., Federal Reserve Board (“FRB”) and the FHLB, that are not publicly traded. Equity investments may be accounted for at cost less impairment and adjusted for observable price changes, fair value, the equity method, or proportional or full consolidation methods of accounting, depending on our ownership position and degree of influence over the investees’ business. Regardless of the accounting method, the values of our investments are subject to fluctuation. Because the fair value of these securities may fall below the cost at which we acquired them, we are exposed to the possibility of loss. Equity investments in private and public companies are evaluated, monitored, and approved by members of management in our Equity Investments Committee and Securities Valuation Committee. We hold both direct and indirect investments in predominantly pre-public companies, primarily through various Small Business Investment Company (“SBIC”) venture capital funds as a strategy to provide beneficial financing, growth, and expansion opportunities to diverse businesses generally in communities within our geographic footprint. Our equity exposure to these investments was approximately $185 million and $172 million at September 30, 2023 and December 31, 2022, respectively. On occasion, some of the companies within our SBIC investment may issue an initial public offering (“IPO”). In this case, the fund is generally subject to a lockout period before liquidating the investment, which can introduce additional market risk. See Note 3 of the Notes to Consolidated Financial Statements for additional information regarding the valuation of our SBIC investments. Liquidity Risk Management Liquidity refers to our ability to meet our cash, contractual, and collateral obligations, and to manage both expected and unexpected cash flows without adversely impacting our operations or financial strength. We manage our liquidity to provide funds for our customers’ credit needs, our anticipated financial and contractual obligations, and other corporate activities. Sources of liquidity include deposits, borrowings, equity, and unencumbered assets, such as loans and investment securities. Our investment securities are primarily held as a source of contingent liquidity. We generally own securities that can readily provide us with cash and liquidity through secured borrowing agreements with securities pledged as collateral. We maintain and regularly test a contingency funding plan to identify sources and uses of liquidity. Additionally, we have a Board-approved liquidity policy that requires us to monitor and maintain adequate liquidity, diversify funding positions, and anticipate future funding needs. In accordance with this policy, we monitor our liquidity positions by conducting various stress tests and evaluating certain liquid asset measurements, such as a 30-day liquidity coverage ratio. We perform regular liquidity stress tests and assess our portfolio of highly liquid assets (sufficient to cover 30-day funding needs under stress scenarios). These stress tests include projections of funding maturities, uses of funds, and assumptions of deposit runoff. The assumptions consider the size of deposit account, operational nature of deposits, type of depositor, and concentrations of funding sources including large depositors and aggregate levels of 31 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES uncollateralized deposits exceeding insured levels. Concentrated funding sources are given large runoff factors up to 100% in projecting stressed funding needs. Our liquidity stress testing considers multiple timeframes ranging from overnight to 12 months. Our liquidity policy requires us to maintain sufficient on-balance sheet liquidity in the form of FRB reserve balance and other highly liquid assets to meet stressed outflow assumptions. We have a dedicated funding desk that monitors real-time inflows and outflows of our FRB account, and we have tools, including ready access to repo markets and FHLB advances, to manage intraday liquidity. FHLB borrowings are “open-term,” allowing us the ability to retain or return funds based on our liquidity needs. We pledge a large portion of our highly liquid investment securities portfolio through the General Collateral Funding (“GCF”) repo program. Through this program, high-quality collateral is pledged, and program participants exchange funds anonymously, which allows for near instant access to funding during market hours. Additionally, we have pledged collateral to the FRB’s primary credit facility (or discount window) and the Bank Term Funding Program (“BTFP”), which provide additional contingent funding sources outside the normal operating hours of the FHLB and the GCF program. The BTFP offers loans of up to one year in length to eligible depository institutions pledging U.S. Treasuries, agency debt and government mortgage-backed securities, and other qualifying assets as collateral. Unlike other funding sources, borrowing capacity under the BTFP is based on the par value, not the fair value, of collateral. Advances can be requested under the program through mid-March 2024. For more information on our liquidity risk management practices, see “Liquidity Risk Management” in our 2022 Form 10-K. For the first nine months of 2023, the primary sources of cash came from an increase in deposits, a decrease in investment securities, and net cash provided by operating activities. Uses of cash during the same period primarily included a decrease in short-term borrowings, an increase in loans and leases, and dividends paid on common and preferred stock. Cash payments for interest reflected in operating expenses were $913 million and $63 million for the first nine months of 2023 and 2022, respectively. The FHLB and FRB have been, and continue to be, a significant source of back-up liquidity and funding. We are a member of the FHLB of Des Moines, which allows member banks to borrow against eligible loans and securities to satisfy liquidity and funding requirements. We are required to invest in FHLB and FRB stock to maintain our borrowing capacity. At September 30, 2023, our total investment in FHLB and FRB stock was $71 million and $65 million, respectively, compared with $294 million and $68 million at December 31, 2022. At September 30, 2023, loans with a carrying value of $24.7 billion and $12.5 billion, compared with $23.7 billion and $3.9 billion at December 31, 2022, were pledged at the FHLB and FRB, respectively, as collateral for current and potential borrowings. At September 30, 2023 and December 31, 2022, investment securities with a carrying value of $20.3 billion and $13.5 billion, respectively, were pledged as collateral for potential borrowings. For the same time periods, these pledges included $9.6 billion and $8.3 billion for available use through the GCF repo program, $6.6 billion and $1.0 billion to the FRB, and $4.1 billion and $4.2 billion to secure collateralized public and trust deposits, advances, and for other purposes. 32 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES A large portion of these pledged assets are unencumbered, but are pledged to provide immediate access to contingency sources of funds. The following schedule presents our total available liquidity including unused collateralized borrowing capacity. AVAILABLE LIQUIDITY September 30, 2023 December 31, 2022 (Dollar amounts in billions) FHLB FRB GCF BTFP Total FHLB FRB GCF BTFP Total Total borrowing capacity $ 16.6 $ 11.0 $ 9.3 $ 6.9 $ 43.8 $ 16.6 $ 4.0 $ 8.4 $ — $ 29.0 Borrowings outstanding 1.6 — 1.0 — 2.6 7.2 — 2.7 — 9.9 Remaining capacity, at period end $ 15.0 $ 11.0 $ 8.3 $ 6.9 $ 41.2 $ 9.4 $ 4.0 $ 5.7 $ — $ 19.1 Cash and due from banks 0.7 0.7 Interest-bearing deposits 1 1.7 1.3 Total available liquidity $ 43.6 $ 21.1 Ratio of available liquidity to uninsured deposits 140 % 56 % 1 Represents funds deposited by the Bank primarily at the Federal Reserve Bank. At September 30, 2023 and December 31, 2022, our total available liquidity was $43.6 billion, compared with $21.1 billion, respectively. At September 30, 2023, we had sources of liquidity which exceeded our uninsured deposits without the need to sell any investment securities. General financial market and economic conditions impact our access to, and cost of, external financing. Access to funding markets is also directly affected by the credit ratings we receive from various rating agencies. The ratings not only influence the costs associated with borrowings, but can also influence the sources of the borrowings. All of the credit rating agencies rate our debt at an investment-grade level. The following schedule presents our current credit ratings. CREDIT RATINGS as of October 31, 2023: Rating agency Outlook Long-term issuer/senior debt rating Subordinated debt rating Short-term debt rating Kroll Positive A- BBB+ K2 S&P Negative BBB+ BBB NR Fitch Stable BBB+ BBB F2 Moody's Stable Baa2 NR P2 Various uncertainties in the banking industry during the first nine months of 2023 resulted in ratings pressure for a number of banks, including Zions. As a result, the credit rating agencies took the following actions related to our issuer, debt, and deposit rati • In April 2023, Moody's downgraded our long-term issuer rating to Baa2 from Baa1, our short-term debt rating to P2 from P1, and changed their outlook on our long-term deposit and issuer ratings to “Stable” from “Ratings under review.” • In May 2023, Standard & Poor's (“S&P”) changed their outlook on our long-term deposit and issuer ratings to “Negative” from “Stable.” • In October 2023, Fitch downgraded our short-term debt rating to F2 from F1. We may, from time to time, issue additional preferred stock, senior or subordinated notes, or other forms of capital or debt instruments, depending on our capital, funding, asset-liability management, or other needs as market conditions warrant. These additional issuances may be subject to required regulatory approvals. We believe that our sources of available liquidity are adequate to meet all reasonably foreseeable short- and intermediate-term demands. 33 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Capital Management A strong capital position is vital to the achievement of our key corporate objectives, our continued profitability, and to promoting depositor and investor confidence. We seek to (1) maintain sufficient capital to support the current needs and growth of our businesses, and (2) fulfill responsibilities to depositors and bondholders while managing capital distributions to shareholders through dividends and repurchases of common stock. We utilize stress testing as an important mechanism to inform our decisions on the appropriate level of capital, based upon actual and hypothetically stressed economic conditions, which are comparable in severity to the scenarios published by the FRB. The timing and amount of capital actions are subject to various factors, including our financial performance, business needs, prevailing and anticipated economic conditions, and the results of our internal stress testing, as well as Board and Office of the Comptroller of the Currency (“OCC”) approval. Shares may be repurchased occasionally in the open market or through privately negotiated transactions. For a more comprehensive discussion of our capital risk management, see “Capital Management” in our 2022 Form 10-K. SHAREHOLDERS' EQUITY (Dollar amounts in millions) September 30, 2023 December 31, 2022 Amount change Percent change Shareholders’ equity: Preferred stock $ 440 $ 440 $ — — % Common stock and additional paid-in capital 1,726 1,754 (28) (2) Retained earnings 6,157 5,811 346 6 Accumulated other comprehensive loss (3,008) (3,112) 104 3 Total shareholders' equity $ 5,315 $ 4,893 $ 422 9 % Total shareholders’ equity increased $422 million, or 9%, to $5.3 billion at September 30, 2023, compared with $4.9 billion at December 31, 2022. Common stock and additional paid-in capital decreased $28 million, primarily due to common stock repurchases during the first quarter of 2023. As the macroeconomic environment remained uncertain, we did not repurchase common shares during the second or third quarters of 2023, nor do we expect to repurchase common shares during the fourth quarter of 2023. AOCI was a $3.0 billion loss at September 30, 2023, and, for the first nine months of 2023, reflected (1) a $169 million decline in the fair value of fixed-rate AFS securities as a result of higher interest rates, primarily offset by $158 million in unrealized loss amortization associated with the securities transferred from AFS to HTM during the fourth quarter of 2022, and (2) a $114 million increase in unrealized gains and other adjustments associated with derivative instruments used for risk management purposes. Absent any sales or credit impairment of the AFS securities, the unrealized losses will not be recognized in earnings. We do not intend to sell any securities with unrealized losses. Although changes in AOCI are reflected in shareholders’ equity, they are excluded from regulatory capital, and therefore do not impact our regulatory ratios. For more discussion on our investment securities portfolio and related unrealized gains and losses, see Note 5 of the Notes to Consolidated Financial Statements. 34 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CAPITAL DISTRIBUTIONS Three Months Ended September 30, Nine Months Ended September 30, (In millions, except share data) 2023 2022 2023 2022 Capital distributio Preferred dividends paid $ 7 $ 6 $ 22 $ 22 Total capital distributed to preferred shareholders 7 6 22 22 Common dividends paid 61 62 184 178 Bank common stock repurchased 1 — 50 50 151 Total capital distributed to common shareholders 61 112 234 329 Total capital distributed to preferred and common shareholders $ 68 $ 118 $ 256 $ 351 Weighted average diluted common shares outstanding (in thousands) 147,653 149,792 147,794 150,766 Common shares outstanding, at period end (in thousands) 148,146 149,611 148,146 149,611 1 Includes amounts related to the common shares acquired from our publicly announced plans and those acquired in connection with our stock compensation plan. Shares were acquired from employees to pay for their payroll taxes and stock option exercise cost upon the exercise of stock options. Pursuant to the OCC’s “Earnings Limitation Rule,” our dividend payments are restricted to an amount equal to the sum of the total of (1) our net income for that year, and (2) retained earnings for the preceding two years, unless the OCC approves the declaration and payment of dividends in excess of such amount. At September 30, 2023, we had $1.9 billion of retained net profits available for distribution. During the third quarter of 2023, we paid dividends on preferred stock of $7 million and dividends on common stock of $61 million, or $0.41 per share. In October 2023, the Board declared a regular quarterly dividend of $0.41 per common share, payable on November 16, 2023 to shareholders of record on November 9, 2023. See Note 9 of the Notes to Consolidated Financial Statements for additional information about our capital management actions. Basel III We are subject to Basel III capital requirements that include certain minimum regulatory capital ratios. At September 30, 2023, we exceeded all capital adequacy requirements under the Basel III capital rules. Based on our internal stress testing and other assessments of capital adequacy, we believe we hold capital sufficiently in excess of internal and regulatory requirements for well-capitalized banks. See the “Supervision and Regulation” section and Note 15 of our 2022 Form 10-K for more information about our compliance with the Basel III capital requirements. The following schedule presents our capital amounts, capital ratios, and other selected performance ratios. 35 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CAPITAL AMOUNTS AND RATIOS (Dollar amounts in millions) September 30, 2023 December 31, 2022 September 30, 2022 Basel III risk-based capital amounts: Common equity tier 1 capital $ 6,803 $ 6,481 $ 6,342 Tier 1 risk-based 7,242 6,921 6,781 Total risk-based 8,500 8,077 7,887 Risk-weighted assets 66,615 66,111 65,985 Basel III risk-based capital ratios: Common equity tier 1 capital ratio 10.2 % 9.8 % 9.6 % Tier 1 risk-based ratio 10.9 10.5 10.3 Total risk-based ratio 12.8 12.2 12.0 Tier 1 leverage ratio 8.3 7.7 7.5 Other ratios: Average equity to average assets (three months ended) 6.2 % 5.4 % 6.5 % Return on average common equity (three months ended) 13.5 25.4 15.8 Return on average tangible common equity (three months ended) 1 17.3 33.4 19.6 Tangible equity ratio 1 4.9 4.3 4.2 Tangible common equity ratio 1 4.4 3.8 3.7 1 See “Non-GAAP Financial Measures” on page 37 for more information regarding these ratios. On July 27, 2023, bank regulators issued a proposal to implement the Basel Committee on Banking Supervision’s finalization of the post-crisis bank regulatory capital reforms. The proposal provides for a July 1, 2025 effective date, subject to a three-year phase-in period for certain aspects of the proposal. Bank regulators recently extended the comment period for the proposal to January 16, 2024. The proposal, commonly referred to as Basel III “Endgame,” would significantly revise the capital requirements applicable to large banking organizations, defined as those with total assets of $100 billion or more. At September 30, 2023, we had $87.3 billion in total assets and do not currently qualify as a large banking organization. We are evaluating the potential future impact of the proposal, as we expect it is more likely than not we would become subject to this proposal over the next few years. Under the proposal, at such time we were to increase our total assets to $100 billion or more, we would, among other things, be required to (1) include unrealized gains and losses on AFS debt securities in regulatory capital, (2) hold capital for operational risk and market risk, and (3) calculate risk-based capital ratios under both the standardized approach and the expanded risk-based approach. On August 29, 2023, bank regulators issued a proposal that would expand a long-term debt requirement to all banks with total assets of $100 billion or more. The proposed rule would require these banks to have a minimum outstanding amount of eligible long-term debt that is the greater of (i) 6% of total risk-weighted assets; (ii) 2.5% of total leverage exposure, and (iii) 3.5% of average total assets. In the event we were to increase our total assets to $100 billion or more, we would have a three-year implementation period to issue debt and meet the other requirements under the proposal. At September 30, 2023, if enacted as proposed, the estimated amount of incremental debt we would be required to issue would be approximately $3.5 billion over the three year phase-in period. Additionally, on August 29, 2023, the FDIC issued a proposal that revises the requirements for resolution planning (“living wills”) for banks in two asset categories. Under the proposal, banks with total assets of $100 billion or more would be required to submit more detailed living wills, while banks with total assets between $50 billion and $100 billion would submit more limited information filings, in each case filed biennially beginning in 2025. 36 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NON-GAAP FINANCIAL MEASURES This Form 10-Q presents non-GAAP financial measures, in addition to GAAP financial measures. The adjustments to reconcile from the applicable GAAP financial measures to the non-GAAP financial measures are presented in the following schedules. We consider these adjustments to be relevant to ongoing operating results and provide a meaningful basis for period-to-period comparisons. We use these non-GAAP financial measures to assess our performance and financial position. We believe that presenting these non-GAAP financial measures permits investors to assess our performance on the same basis as that applied by our management and the financial services industry. Non-GAAP financial measures have inherent limitations and are not necessarily comparable to similar financial measures that may be presented by other financial services companies. Although non-GAAP financial measures are frequently used by stakeholders to evaluate a company, they have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of results reported under generally accepted accounting principles (“GAAP”). Tangible Common Equity and Related Measures Tangible common equity and related measures are non-GAAP measures that exclude the impact of intangible assets and their related amortization. We believe these non-GAAP measures provide useful information about our use of shareholders’ equity and provide a basis for evaluating the performance of a business more consistently, whether acquired or developed internally. RETURN ON AVERAGE TANGIBLE COMMON EQUITY (NON-GAAP) Three Months Ended (Dollar amounts in millions) September 30, 2023 June 30, 2023 September 30, 2022 Net earnings applicable to common shareholders (GAAP) $ 168 $ 166 $ 211 Adjustment, net of t Amortization of core deposit and other intangibles 1 1 1 Net earnings applicable to common shareholders, net of tax (a) $ 169 $ 167 $ 212 Average common equity (GAAP) $ 4,938 $ 4,818 $ 5,303 Average goodwill and intangibles (1,061) (1,063) (1,021) Average tangible common equity (non-GAAP) (b) $ 3,877 $ 3,755 $ 4,282 Number of days in quarter (c) 92 91 92 Number of days in year (d) 365 365 365 Return on average tangible common equity (non-GAAP) 1 (a/b/c)*d 17.3 % 17.8 % 19.6 % 1 Excluding the effect of AOCI from average tangible common equity would result in associated returns of 9.9%, 10.0%, and 13.2% for the periods presented, respectively. TANGIBLE EQUITY RATIO, TANGIBLE COMMON EQUITY RATIO, AND TANGIBLE BOOK VALUE PER COMMON SHARE (ALL NON-GAAP MEASURES) (Dollar amounts in millions, except per share amounts) September 30, 2023 June 30, 2023 September 30, 2022 Total shareholders’ equity (GAAP) $ 5,315 $ 5,283 $ 4,696 Goodwill and intangibles (1,060) (1,062) (1,034) Tangible equity (non-GAAP) (a) 4,255 4,221 3,662 Preferred stock (440) (440) (440) Tangible common equity (non-GAAP) (b) $ 3,815 $ 3,781 $ 3,222 Total assets (GAAP) $ 87,269 $ 87,230 $ 88,474 Goodwill and intangibles (1,060) (1,062) (1,034) Tangible assets (non-GAAP) (c) $ 86,209 $ 86,168 $ 87,440 Common shares outstanding (in thousands) (d) 148,146 148,144 149,611 Tangible equity ratio (non-GAAP) (a/c) 4.9 % 4.9 % 4.2 % Tangible common equity ratio (non-GAAP) (b/c) 4.4 % 4.4 % 3.7 % Tangible book value per common share (non-GAAP) (b/d) $ 25.75 $ 25.52 $ 21.54 37 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Efficiency Ratio and Adjusted Pre-Provision Net Revenue The efficiency ratio is a measure of operating expense relative to revenue. We believe the efficiency ratio provides useful information regarding the cost of generating revenue. We make adjustments to exclude certain items that are not generally expected to recur frequently, as identified in the subsequent schedule, which we believe allows for more consistent comparability across periods. Adjusted noninterest expense provides a measure as to how we are managing our expenses. Adjusted pre-provision net revenue enables management and others to assess our ability to generate capital. Taxable-equivalent net interest income allows us to assess the comparability of revenue arising from both taxable and tax-exempt sources. EFFICIENCY RATIO (NON-GAAP) AND ADJUSTED PRE-PROVISION NET REVENUE (NON-GAAP) Three Months Ended Nine Months Ended Year Ended (Dollar amounts in millions) September 30, 2023 June 30, 2023 September 30, 2022 September 30, 2023 September 30, 2022 December 31, 2022 Noninterest expense (GAAP) (a) $ 496 $ 508 $ 479 $ 1,516 $ 1,407 $ 1,878 Adjustments: Severance costs — 13 — 14 1 1 Other real estate expense, net — — — — 1 1 Amortization of core deposit and other intangibles 2 1 1 5 1 1 Restructuring costs 1 — — 1 — — SBIC investment success fee accrual 1 — — 1 — — (1) Total adjustments (b) 3 14 2 20 3 2 Adjusted noninterest expense (non-GAAP) (a-b)=(c) $ 493 $ 494 $ 477 $ 1,496 $ 1,404 $ 1,876 Net interest income (GAAP) (d) $ 585 $ 591 $ 663 $ 1,855 $ 1,800 $ 2,520 Fully taxable-equivalent adjustments (e) 11 11 10 31 27 37 Taxable-equivalent net interest income (non-GAAP) (d+e)=f 596 602 673 1,886 1,827 2,557 Noninterest income (GAAP) g 180 189 165 529 479 632 Combined income (non-GAAP) (f+g)=(h) 776 791 838 2,415 2,306 3,189 Adjustments: Fair value and nonhedge derivative gains 7 1 4 5 20 16 Securities gains (losses), net 1 4 — 6 5 (10) (15) Total adjustments 2 (i) 11 1 10 10 10 1 Adjusted taxable-equivalent revenue (non-GAAP) (h-i)=(j) $ 765 $ 790 $ 828 $ 2,405 $ 2,296 $ 3,188 Pre-provision net revenue (non-GAAP) (h)-(a) $ 280 $ 283 $ 359 $ 899 $ 899 $ 1,311 Adjusted PPNR (non-GAAP) (j)-(c) 272 296 351 909 892 1,312 Efficiency ratio (non-GAAP) 2 (c/j) 64.4 % 62.5 % 57.6 % 62.2 % 61.1 % 58.8 % 1 The success fee accrual is associated with the gains and losses from our SBIC investments, which are excluded from the efficiency ratio through securities gains (losses), net. 2 Excluding the $13 million gain on sale of bank-owned premises recorded in dividends and other income, the efficiency ratio for the three months ended June 30, 2023 would have been 63.6%. 38 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 1. FINANCIAL STATEMENTS (Unaudited) CONSOLIDATED BALANCE SHEETS (In millions, shares in thousands) September 30, 2023 December 31, 2022 (Unaudited) ASSETS Cash and due from banks $ 700 $ 657 Money market investments: Interest-bearing deposits 1,704 1,340 Federal funds sold and securities purchased under agreements to resell 1,427 2,426 Investment securiti Held-to-maturity, at amortized cost (fair val $ 10,049 and $ 11,239 ) 10,559 11,126 Available-for-sale, at fair value 10,148 11,915 Trading, at fair value 31 465 Total investment securities 20,738 23,506 Loans held for sale 41 8 Loans and leases, net of unearned income and fees 56,893 55,653 Less allowance for loan and lease losses 681 575 Loans held for investment, net of allowance 56,212 55,078 Other noninterest-bearing investments 929 1,130 Premises, equipment and software, net 1,410 1,408 Goodwill and intangibles 1,060 1,065 Other real estate owned 7 3 Other assets 3,041 2,924 Total assets $ 87,269 $ 89,545 LIABILITIES AND SHAREHOLDERS’ EQUITY Deposits: Noninterest-bearing demand $ 26,733 $ 35,777 Interest-bearin Savings and money market 37,090 33,566 Time 11,576 2,309 Total deposits 75,399 71,652 Federal funds and other short-term borrowings 4,346 10,417 Long-term debt 540 651 Reserve for unfunded lending commitments 57 61 Other liabilities 1,612 1,871 Total liabilities 81,954 84,652 Shareholders’ equity: Preferred stock, without par value; authorized 4,400 shares 440 440 Common stock ($ 0.001 par value; authorized 350,000 shares; issued and outstanding 148,146 and 148,664 shares) and additional paid-in capital 1,726 1,754 Retained earnings 6,157 5,811 Accumulated other comprehensive income (loss) ( 3,008 ) ( 3,112 ) Total shareholders’ equity 5,315 4,893 Total liabilities and shareholders’ equity $ 87,269 $ 89,545 See accompanying notes to consolidated financial statements. 39 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (Unaudited) Three Months Ended September 30, Nine Months Ended September 30, (In millions, except shares and per share amounts) 2023 2022 2023 2022 Interest income: Interest and fees on loans $ 831 $ 551 $ 2,348 $ 1,456 Interest on money market investments 35 24 140 42 Interest on securities 144 132 419 372 Total interest income 1,010 707 2,907 1,870 Interest expense: Interest on deposits 366 19 668 32 Interest on short- and long-term borrowings 59 25 384 38 Total interest expense 425 44 1,052 70 Net interest income 585 663 1,855 1,800 Provision for credit loss Provision for loan and lease losses 44 60 136 70 Provision for unfunded lending commitments ( 3 ) 11 ( 4 ) 9 Total provision for credit losses 41 71 132 79 Net interest income after provision for credit losses 544 592 1,723 1,721 Noninterest income: Commercial account fees 43 40 131 118 Card fees 26 27 75 77 Retail and business banking fees 17 17 49 57 Loan-related fees and income 23 18 63 61 Capital markets fees 18 25 62 61 Wealth management fees 15 14 44 41 Other customer-related fees 15 15 46 46 Customer-related noninterest income 157 156 470 461 Fair value and nonhedge derivative income 7 4 5 20 Dividends and other income (loss) 12 ( 1 ) 49 8 Securities gains (losses), net 4 6 5 ( 10 ) Total noninterest income 180 165 529 479 Noninterest expense: Salaries and employee benefits 311 312 974 931 Technology, telecom, and information processing 62 53 175 158 Occupancy and equipment, net 42 38 122 112 Professional and legal services 16 14 45 42 Marketing and business development 10 11 35 28 Deposit insurance and regulatory expense 20 13 60 36 Credit-related expense 6 8 19 22 Other real estate expense, net — — — 1 Other 29 30 86 77 Total noninterest expense 496 479 1,516 1,407 Income before income taxes 228 278 736 793 Income taxes 53 61 182 170 Net income 175 217 554 623 Preferred stock dividends ( 7 ) ( 6 ) ( 22 ) ( 22 ) Net earnings applicable to common shareholders $ 168 $ 211 $ 532 $ 601 Weighted average common shares outstanding during the perio Basic shares (in thousands) 147,648 149,628 147,784 150,510 Diluted shares (in thousands) 147,653 149,792 147,794 150,766 Net earnings per common sh Basic $ 1.13 $ 1.40 $ 3.57 $ 3.96 Diluted 1.13 1.40 3.57 3.96 See accompanying notes to consolidated financial statements. 40 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (Unaudited) Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2023 2022 2023 2022 Net income for the period $ 175 $ 217 $ 554 $ 623 Other comprehensive income (loss), net of t Net unrealized holding losses on investment securities 1 ( 105 ) ( 909 ) ( 11 ) ( 2,729 ) Net unrealized gains (losses) on other noninterest-bearing investments 1 ( 1 ) 1 ( 2 ) Net unrealized holding gains (losses) on derivative instruments ( 6 ) ( 138 ) 15 ( 322 ) Reclassification adjustment for decrease (increase) in interest income recognized in earnings on derivative instruments 32 8 99 ( 7 ) Total other comprehensive income (loss), net of tax ( 78 ) ( 1,040 ) 104 ( 3,060 ) Comprehensive income (loss) $ 97 $ ( 823 ) $ 658 $ ( 2,437 ) See accompanying notes to consolidated financial statements. 1 For the three and nine months ended September 30, 2023, the amounts include $ 160 million and $ 169 million related to the decline in the fair value of fixed-rate AFS securities as a result of higher interest rates, offset by $ 55 million and $ 158 million in unrealized loss amortization associated with the securities transferred from AFS to HTM during the fourth quarter of 2022, respectively. CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited) (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at June 30, 2023 $ 440 148,144 $ — $ 1,722 $ 6,051 $ ( 2,930 ) $ 5,283 Net income for the period 175 175 Other comprehensive loss, net of tax ( 78 ) ( 78 ) Net activity under employee plans and related tax benefits 2 4 4 Dividends on preferred stock ( 7 ) ( 7 ) Dividends on common stock, $ 0.41 per share ( 61 ) ( 61 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at September 30, 2023 $ 440 148,146 $ — $ 1,726 $ 6,157 $ ( 3,008 ) $ 5,315 Balance at June 30, 2022 $ 440 150,471 $ — $ 1,845 $ 5,447 $ ( 2,100 ) $ 5,632 Net income for the period 217 217 Other comprehensive loss, net of tax ( 1,040 ) ( 1,040 ) Bank common stock repurchased ( 888 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 28 4 4 Dividends on preferred stock ( 6 ) ( 6 ) Dividends on common stock, $ 0.41 per share ( 61 ) ( 61 ) Balance at September 30, 2022 $ 440 149,611 $ — $ 1,799 $ 5,597 $ ( 3,140 ) $ 4,696 41 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions, except shares and per share amounts) Preferred stock Common stock Accumulated paid-in capital Retained earnings Accumulated other comprehensive income (loss) Total shareholders’ equity Shares (in thousands) Amount Balance at December 31, 2022 $ 440 148,664 $ — $ 1,754 $ 5,811 $ ( 3,112 ) $ 4,893 Net income for the period 554 554 Other comprehensive income, net of tax 104 104 Cumulative effect adjustment, due to adoption of ASU 2022-02, net of tax 2 2 Bank common stock repurchased ( 953 ) ( 50 ) ( 50 ) Net activity under employee plans and related tax benefits 435 22 22 Dividends on preferred stock ( 22 ) ( 22 ) Dividends on common stock, $ 1.23 per share ( 184 ) ( 184 ) Change in deferred compensation ( 4 ) ( 4 ) Balance at September 30, 2023 $ 440 148,146 $ — $ 1,726 $ 6,157 $ ( 3,008 ) $ 5,315 Balance at December 31, 2021 $ 440 151,625 $ — $ 1,928 $ 5,175 $ ( 80 ) $ 7,463 Net income for the period 623 623 Other comprehensive loss, net of tax ( 3,060 ) ( 3,060 ) Bank common stock repurchased ( 2,602 ) ( 151 ) ( 151 ) Net activity under employee plans and related tax benefits 588 22 22 Dividends on preferred stock ( 22 ) ( 22 ) Dividends on common stock, $ 1.17 per share ( 178 ) ( 178 ) Change in deferred compensation ( 1 ) ( 1 ) Balance at September 30, 2022 $ 440 149,611 $ — $ 1,799 $ 5,597 $ ( 3,140 ) $ 4,696 See accompanying notes to consolidated financial statements. 42 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In millions) Nine Months Ended September 30, 2023 2022 CASH FLOWS FROM OPERATING ACTIVITIES Net income for the period $ 554 $ 623 Adjustments to reconcile net income to net cash provided by operating activiti Provision for credit losses 132 79 Depreciation and amortization 108 79 Share-based compensation 28 25 Deferred income tax expense 21 15 Net decrease (increase) in trading securities 434 ( 154 ) Net decrease (increase) in loans held for sale ( 10 ) 51 Change in other liabilities ( 260 ) 745 Change in other assets 74 ( 467 ) Other, net 49 ( 20 ) Net cash provided by operating activities 1,130 976 CASH FLOWS FROM INVESTING ACTIVITIES Net decrease in money market investments 636 8,328 Proceeds from maturities and paydowns of investment securities held-to-maturity 811 250 Purchases of investment securities held-to-maturity ( 40 ) ( 232 ) Proceeds from sales, maturities, and paydowns of investment securities available-for-sale 1,846 2,743 Purchases of investment securities available-for-sale ( 484 ) ( 5,829 ) Net change in loans and leases ( 1,241 ) ( 3,026 ) Purchases and sales of other noninterest-bearing investments 207 ( 147 ) Purchases of premises and equipment ( 84 ) ( 154 ) Other, net ( 19 ) 21 Net cash provided by investing activities 1,632 1,954 CASH FLOWS FROM FINANCING ACTIVITIES Net increase (decrease) in deposits 3,747 ( 6,794 ) Net change in short-term borrowed funds ( 6,071 ) 4,461 Redemption of long-term debt ( 128 ) ( 290 ) Proceeds from the issuance of common stock 2 8 Dividends paid on common and preferred stock ( 211 ) ( 200 ) Bank common stock repurchased ( 50 ) ( 151 ) Other, net ( 8 ) ( 10 ) Net cash used in financing activities ( 2,719 ) ( 2,976 ) Net increase (decrease) in cash and due from banks 43 ( 46 ) Cash and due from banks at beginning of period 657 595 Cash and due from banks at end of period $ 700 $ 549 Cash paid for interest $ 913 $ 63 Net cash paid for income taxes 233 5 Noncash activiti Loans held for investment reclassified to loans held for sale, net 67 100 See accompanying notes to consolidated financial statements. 43 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) September 30, 2023 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Zions Bancorporation, National Association and its majority-owned subsidiaries (collectively “Zions Bancorporation, N.A.,” “the Bank,” “we,” “our,” “us”) have been prepared in accordance with United States (“U.S.”) generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. References to GAAP, including standards promulgated by the Financial Accounting Standards Board (“FASB”), are made according to sections of the Accounting Standards Codification (“ASC”). The results of operations for the three and nine months ended September 30, 2023 and 2022 are not necessarily indicative of the results that may be expected in future periods. In preparing the consolidated financial statements, we are required to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying Notes. Actual results could differ from those estimates. For further information, refer to the consolidated financial statements and accompanying footnotes included in our 2022 Form 10-K. We evaluated events that occurred between September 30, 2023 and the date the accompanying financial statements were issued, and determined that there were no material events that would require adjustments to our consolidated financial statements or significant disclosure in the accompanying Notes. Zions Bancorporation, N.A. is a commercial bank headquartered in Salt Lake City, Utah. We provide a wide range of banking products and related services in 11 Western and Southwestern states through seven separately managed bank divisions, which we refer to as “affiliates,” or “affiliate banks,” each with its own local branding and management team. These include Zions Bank, in Utah, Idaho, and Wyoming; California Bank & Trust (“CB&T”); Amegy Bank (“Amegy”), in Texas; National Bank of Arizona (“NBAZ”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”), in Colorado and New Mexico; and The Commerce Bank of Washington (“TCBW”) which operates under that name in Washington and under the name The Commerce Bank of Oregon in Oregon. 44 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 2. RECENT ACCOUNTING PRONOUNCEMENTS Standard Description Date of adoption Effect on the financial statements or other significant matters Standards not yet adopted by the Bank ASU 2023-02, Investments—Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Tax Credit Structures Using the Proportional Amortization Method (a consensus of the Emerging Issues Task Force) This Accounting Standards Update (“ASU”) expands the optional use of the proportional amortization method (“PAM”), previously limited to investments in low-income housing tax credit (“LIHTC”) structures, to any eligible equity investments made primarily for the purpose of receiving income tax credit and other tax benefits when certain criteria are met. PAM results in the cost of the investment being amortized in proportion to the income tax credits and other income tax benefits received, with the amortization of the investment and the income tax credits being presented net in the income statement as a component of income tax expense (benefit). This ASU allows for an accounting policy election to apply PAM on a tax-credit-program-by-tax-credit-program basis. The ASU also includes additional disclosure requirements about equity investments accounted for using PAM. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 We do not currently have any additional equity investments that are eligible for PAM under the provisions of this ASU. We will continue to evaluate its use for new investments. The overall effect of the guidance is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. ASU 2022-03, Fair Value Measurement (Topic 820): Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions This ASU clarifies that contractual restrictions prohibiting the sale of an equity security are not considered part of the unit of account of the equity security, and therefore, are not considered in measuring fair value. The amendments clarify that an entity cannot recognize and measure a contractual sale restriction as a separate unit of account. The amendments in this ASU also require additional qualitative and quantitative disclosures for equity securities subject to contractual sale restrictions. The new standard is effective for calendar year-end public companies beginning January 1, 2024, with early adoption permitted. Periods beginning after December 15, 2023 The requirements of this ASU are consistent with our current treatment of equity securities subject to contractual sale restrictions and are not expected to impact the fair value measurements of these securities. We are evaluating supplementary disclosure requirements and additional data needed to meet these requirements. The overall effect of this standard is not expected to have a material impact on our financial statements. We do not plan to early adopt this new standard. Standards adopted by the Bank ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures This ASU eliminated the recognition and measurement requirements for troubled debt restructurings (“TDRs”) for creditors that have adopted ASC 326 (“CECL”), eliminated certain TDR disclosures, and required enhanced disclosures about loan modifications for borrowers experiencing financial difficulty. The new standard also required public companies to present current period gross charge-offs (on a current year-to-date basis for interim-period disclosures) by year of origination in their vintage disclosures. Periods beginning after December 15, 2022 We adopted this ASU on a modified retrospective basis on January 1, 2023. It did not have a material impact on our financial statements. 45 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 3. FAIR VALUE Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. For more information about our valuation methodologies for assets and liabilities measured at fair value and the fair value hierarchy, see Note 3 of our 2022 Form 10-K. Fair Value Hierarchy The following schedule presents assets and liabilities measured at fair value on a recurring basis: (In millions) September 30, 2023 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies, and corporations $ 460 $ 8,367 $ — $ 8,827 Municipal securities 1,297 1,297 Other debt securities 24 24 Total available-for-sale 460 9,688 — 10,148 Trading securities 31 31 Other noninterest-bearing investments: Bank-owned life insurance 551 551 Private equity investments 1 3 89 92 Other assets: Agriculture loan servicing 17 17 Deferred compensation plan assets 116 116 Derivatives 628 628 Total assets $ 579 $ 10,898 $ 106 $ 11,583 LIABILITIES Securities sold, not yet purchased $ 34 $ — $ — $ 34 Other liabiliti Derivatives 512 512 Total liabilities $ 34 $ 512 $ — $ 546 1 The Level 1 private equity investments (“PEIs”) relate to the portion of our Small Business Investment Company (“SBIC”) investments that are publicly traded. 46 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) December 31, 2022 Level 1 Level 2 Level 3 Total ASSETS Available-for-sale securiti U.S. Treasury, agencies, and corporations $ 393 $ 9,815 $ — $ 10,208 Municipal securities 1,634 1,634 Other debt securities 73 73 Total available-for-sale 393 11,522 — 11,915 Trading securities 395 70 465 Other noninterest-bearing investments: Bank-owned life insurance 546 546 Private equity investments 1 4 81 85 Other assets: Agriculture loan servicing 14 14 Deferred compensation plan assets 114 114 Derivatives 386 386 Total assets $ 906 $ 12,524 $ 95 $ 13,525 LIABILITIES Securities sold, not yet purchased $ 187 $ — $ — $ 187 Other liabiliti Derivatives 451 451 Total liabilities $ 187 $ 451 $ — $ 638 1 The Level 1 PEIs relate to the portion of our SBIC investments that are publicly traded. Level 3 Valuations Our Level 3 financial instruments include PEIs and agriculture loan servicing. For additional information regarding our Level 3 financial instruments, including the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2022 Form 10-K. Rollforward of Level 3 Fair Value Measurements The following schedule presents a rollforward of assets and liabilities that are measured at fair value on a recurring basis using Level 3 inputs: Level 3 Instruments Three Months Ended Nine Months Ended September 30, 2023 September 30, 2022 September 30, 2023 September 30, 2022 (In millions) Private equity investments Ag loan servicing Private equity investments Ag loan servicing Private equity investments Ag loan servicing Private equity investments Ag loan servicing Balance at beginning of period $ 84 $ 17 $ 77 $ 12 $ 81 $ 14 $ 66 $ 12 Unrealized securities gains (losses), net 2 — 2 — ( 1 ) — 7 — Other noninterest income (expense) — — — — — 4 — — Purchases 3 — 2 — 9 ( 1 ) 11 — Cost of investments sold — — — — — — ( 3 ) — Transfers out 1 — — — — — — — — Balance at end of period $ 89 $ 17 $ 81 $ 12 $ 89 $ 17 $ 81 $ 12 1 Represents the transfer of SBIC investments out of Level 3 and into Level 1 because they are publicly traded. 47 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The rollforward of Level 3 instruments includes the following realized gains and losses recognized in securities gains (losses) on the consolidated statement of income for the periods present (In millions) Three Months Ended Nine Months Ended September 30, 2023 September 30, 2022 September 30, 2023 September 30, 2022 Securities gains (losses), net $ — $ — $ — $ ( 2 ) Nonrecurring Fair Value Measurements Certain assets and liabilities may be measured at fair value on a nonrecurring basis, including impaired loans that have been measured based on the fair value of the underlying collateral, other real estate owned (“OREO”), and equity investments without readily determinable fair values. Nonrecurring fair value adjustments generally include changes in value resulting from observable price changes for equity investments without readily determinable fair values, write-downs of individual assets, or the application of lower of cost or fair value accounting. At September 30, 2023, we had $ 1 million of collateral-dependent loans classified in Level 2, and we recognized $ 2 million of losses from fair value changes related to these loans. At December 31, 2022, we had an insignificant amount of assets or liabilities that had fair value changes measured on a nonrecurring basis. For additional information regarding the measurement of fair value for impaired loans, collateral-dependent loans, and OREO, see Note 3 of our 2022 Form 10-K. Fair Value of Certain Financial Instruments The following schedule presents the carrying values and estimated fair values of certain financial instruments: September 30, 2023 December 31, 2022 (In millions) Carrying value Fair value Level Carrying value Fair value Level Financial assets: Held-to-maturity investment securities $ 10,559 $ 10,049 2 $ 11,126 $ 11,239 2 Loans and leases (including loans held for sale), net of allowance 56,253 53,372 3 55,086 53,093 3 Financial liabiliti Time deposits 11,576 11,519 2 2,309 2,269 2 Long-term debt 540 475 2 651 635 2 The previous schedule does not include certain financial instruments that are recorded at fair value on a recurring basis, as well as certain financial assets and liabilities for which the carrying value approximates fair value. For additional information regarding the financial instruments within the scope of this disclosure, and the methods and significant assumptions used to estimate their fair value, see Note 3 of our 2022 Form 10-K. 48 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 4. OFFSETTING ASSETS AND LIABILITIES The following schedules present gross and net information for selected financial instruments on the balance sheet. September 30, 2023 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 1,427 $ — $ 1,427 $ — $ — $ 1,427 Derivatives (included in other assets) 628 — 628 ( 2 ) ( 621 ) 5 Total assets $ 2,055 $ — $ 2,055 $ ( 2 ) $ ( 621 ) $ 1,432 Liabiliti Federal funds and other short-term borrowings $ 4,346 $ — $ 4,346 $ — $ — $ 4,346 Derivatives (included in other liabilities) 512 — 512 ( 2 ) ( 1 ) 509 Total liabilities $ 4,858 $ — $ 4,858 $ ( 2 ) $ ( 1 ) $ 4,855 December 31, 2022 Gross amounts not offset in the balance sheet (In millions) Gross amounts recognized Gross amounts offset in the balance sheet Net amounts presented in the balance sheet Financial instruments Cash collateral received/pledged Net amount Assets: Federal funds sold and securities purchased under agreements to resell $ 2,451 $ ( 25 ) $ 2,426 $ — $ — $ 2,426 Derivatives (included in other assets) 386 — 386 ( 10 ) ( 367 ) 9 Total assets $ 2,837 $ ( 25 ) $ 2,812 $ ( 10 ) $ ( 367 ) $ 2,435 Liabiliti Federal funds and other short-term borrowings $ 10,442 $ ( 25 ) $ 10,417 $ — $ — $ 10,417 Derivatives (included in other liabilities) 451 — 451 ( 10 ) — 441 Total liabilities $ 10,893 $ ( 25 ) $ 10,868 $ ( 10 ) $ — $ 10,858 Security repurchase and reverse repurchase agreements are offset, when applicable, in the balance sheet according to master netting agreements. Security repurchase agreements are included with “Federal funds and other short-term borrowings.” Derivative instruments may be offset under their master netting agreements; however, for accounting purposes, we present these items on a gross basis in our balance sheet. See Note 7 for further information regarding derivative instruments. 5. INVESTMENTS Investment Securities Investment securities are classified as held-to-maturity (“HTM”), available-for-sale (“AFS”), or trading. HTM securities, which management has the intent and ability to hold until maturity, are measured at amortized cost. The amortized cost amounts represent the original cost of the investments, adjusted for related amortization or accretion of any purchase premiums or discounts, and for any impairment losses, including credit-related impairment. When a security is transferred from AFS to HTM, the difference between its amortized cost basis and fair value at the date of transfer is amortized as a yield adjustment through interest income, and the fair value at the date of transfer results in either a premium or discount to the amortized cost basis of the HTM securities. The amortization of unrealized losses reported in accumulated other comprehensive income (“AOCI”) will offset the effect of the amortization of the premium or discount in interest income that is created by the transfer. 49 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES AFS securities are measured at fair value, and changes in fair value (unrealized gains and losses) are reported as net increases or decreases to AOCI, net of related taxes. Trading securities are measured at fair value with gains and losses recognized in current period earnings. The carrying values of our securities do not include accrued interest receivables of $ 60 million and $ 75 million at September 30, 2023 and December 31, 2022, respectively. These receivables are presented on the consolidated balance sheet in “Other assets.” See Notes 3 and 5 of our 2022 Form 10-K for more information regarding our process to estimate the fair value and accounting for our investment securities, respectively. During the fourth quarter of 2022, we transferred approximately $ 10.7 billion fair value ($ 13.1 billion amortized cost) of mortgage-backed AFS securities to the HTM category. The transfer of these securities from AFS to HTM at fair value resulted in a discount to the amortized cost basis of the HTM securities equivalent to the $ 2.4 billion ($ 1.8 billion after tax) of unrealized losses in AOCI attributable to these securities. The amortization of the unrealized losses will offset the effect of the accretion of the discount created by the transfer. At September 30, 2023, the unamortized discount on the HTM securities totaled approximately $ 2.2 billion ($ 1.6 billion after tax). The following schedule presents the amortized cost and estimated fair values of our HTM and AFS securiti September 30, 2023 (In millions) Amortized cost Gross unrealized gains 1 Gross unrealized losses Estimated fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 94 $ — $ 8 $ 86 Agency guaranteed mortgage-backed securities 10,106 — 469 9,637 Municipal securities 359 — 33 326 Total held-to-maturity 10,559 — 510 10,049 Available-for-sale U.S. Treasury securities 585 — 125 460 U.S. Government agencies and corporatio Agency securities 692 — 47 645 Agency guaranteed mortgage-backed securities 8,739 — 1,595 7,144 Small Business Administration loan-backed securities 606 — 28 578 Municipal securities 1,431 — 134 1,297 Other debt securities 25 — 1 24 Total available-for-sale 12,078 — 1,930 10,148 Total HTM and AFS investment securities $ 22,637 $ — $ 2,440 $ 20,197 1 Gross unrealized gains for the respective security categories were individually less than $ 1 million. December 31, 2022 (In millions) Amortized cost Gross unrealized gains Gross unrealized losses Estimated fair value Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 100 $ — $ 7 $ 93 Agency guaranteed mortgage-backed securities 10,621 165 14 10,772 Municipal securities 405 — 31 374 Total held-to-maturity 11,126 165 52 11,239 Available-for-sale U.S. Treasury securities 557 — 164 393 U.S. Government agencies and corporatio Agency securities 782 — 46 736 Agency guaranteed mortgage-backed securities 9,652 — 1,285 8,367 Small Business Administration loan-backed securities 740 1 29 712 Municipal securities 1,732 1 99 1,634 Other debt securities 75 — 2 73 Total available-for-sale 13,538 2 1,625 11,915 Total HTM and AFS investment securities $ 24,664 $ 167 $ 1,677 $ 23,154 50 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Maturities The following schedule presents the amortized cost and weighted average yields of debt securities by contractual maturity of principal payments at September 30, 2023. This schedule does not reflect the duration of the portfolio, which would incorporate amortization, expected prepayments, interest rate resets, and fair value hedges; the effects of which result in measured durations shorter than contractual maturities. September 30, 2023 Total debt securities Due in one year or less Due after one year through five years Due after five years through ten years Due after ten years (Dollar amounts in millions) Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Amortized cost Average yield Held-to-maturity U.S. Government agencies and corporatio Agency securities $ 94 3.54 % $ — — % $ — — % $ — — % $ 94 3.54 % Agency guaranteed mortgage-backed securities 10,106 1.85 — — — — 46 1.95 10,060 1.85 Municipal securities 1 359 3.17 26 2.77 129 2.96 169 3.40 35 3.10 Total held-to-maturity securities 10,559 1.91 26 2.77 129 2.96 215 3.09 10,189 1.87 Available-for-sale U.S. Treasury securities 585 3.28 184 5.31 — — — — 401 2.35 U.S. Government agencies and corporatio Agency securities 692 2.66 111 0.95 184 3.13 210 2.70 187 3.15 Agency guaranteed mortgage-backed securities 8,739 2.01 4 3.09 199 1.57 1,459 2.12 7,077 2.00 Small Business Administration loan-backed securities 606 5.37 1 3.96 28 6.08 141 4.35 436 5.66 Municipal securities 1 1,431 2.18 125 2.50 469 2.61 698 1.84 139 2.10 Other debt securities 25 8.74 — — — — 10 9.50 15 8.23 Total available-for-sale securities 12,078 2.31 425 3.32 880 2.59 2,518 2.24 8,255 2.25 Total HTM and AFS investment securities $ 22,637 2.12 % $ 451 3.29 % $ 1,009 2.64 % $ 2,733 2.31 % $ 18,444 2.04 % 1 The yields on tax-exempt securities are calculated on a tax-equivalent basis. 51 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents gross unrealized losses for AFS securities and the estimated fair value by length of time the securities have been in an unrealized loss position. September 30, 2023 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ — $ — $ 125 $ 276 $ 125 $ 276 U.S. Government agencies and corporatio Agency securities — 1 47 621 47 622 Agency guaranteed mortgage-backed securities 89 305 1,506 6,779 1,595 7,084 Small Business Administration loan-backed securities — 24 28 490 28 514 Municipal securities 6 229 128 1,050 134 1,279 Other — — 1 14 1 14 Total available-for-sale investment securities $ 95 $ 559 $ 1,835 $ 9,230 $ 1,930 $ 9,789 December 31, 2022 Less than 12 months 12 months or more Total (In millions) Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Gross unrealized losses Estimated fair value Available-for-sale U.S. Treasury securities $ 94 $ 308 $ 70 $ 85 $ 164 $ 393 U.S. Government agencies and corporatio Agency securities 39 634 7 102 46 736 Agency guaranteed mortgage-backed securities 447 4,322 838 4,042 1,285 8,364 Small Business Administration loan-backed securities 8 101 21 524 29 625 Municipal securities 63 1,295 36 256 99 1,551 Other 2 13 — — 2 13 Total available-for-sale investment securities $ 653 $ 6,673 $ 972 $ 5,009 $ 1,625 $ 11,682 At September 30, 2023 and December 31, 2022, approximately 3,129 and 3,562 AFS investment securities were in an unrealized loss position, respectively. Impairment On a quarterly basis, we review our investment securities portfolio for the presence of impairment on an individual security basis. For additional information on our policy and impairment evaluation process for investment securities, see Note 5 of our 2022 Form 10-K. AFS Impairment We did not recognize any impairment on our AFS investment securities portfolio during the first nine months of 2023. Unrealized losses primarily relate to changes in interest rates subsequent to purchase and are not attributable to credit; as such, absent any future sales, we would expect to receive the full principal value at maturity. At September 30, 2023, we had not initiated any sales of AFS securities, nor did we have an intent to sell any identified securities with unrealized losses. We do not believe it is more likely than not that we would be required to sell such securities before recovery of their amortized cost basis. HTM Impairment For HTM securities, the allowance for credit losses (“ACL”) is assessed consistent with the approach described in Note 6 for loans and leases measured at amortized cost. At September 30, 2023, the ACL on HTM securities was less than $ 1 million, all HTM securities were risk-graded as “ Pass ” in terms of credit quality, and none were considered past due. 52 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Securities Gains and Losses Recognized in Income The following schedule presents securities gains and losses recognized in the consolidated income statement. Three Months Ended September 30, Nine Months Ended September 30, 2023 2022 2023 2022 (In millions) Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Gross gains Gross losses Available-for-sale $ — $ — $ — $ — $ 72 $ 73 $ — $ — Trading 1 1 — — 11 10 — — Other noninterest-bearing investments 6 2 6 — 19 14 10 20 Total gains 7 3 6 — 102 97 10 20 Net gains (losses) 1 $ 4 $ 6 $ 5 $ ( 10 ) 1 Net gains (losses) were recognized in securities gains (losses) in the income statement. The following schedule presents interest income by security type. Three Months Ended September 30, 2023 2022 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 58 $ 1 $ 59 $ 2 $ 1 $ 3 Available-for-sale 76 9 85 115 11 126 Trading — — — — 3 3 Total securities $ 134 $ 10 $ 144 $ 117 $ 15 $ 132 Nine Months Ended September 30, 2023 2022 (In millions) Taxable Nontaxable Total Taxable Nontaxable Total Investment securiti Held-to-maturity $ 178 $ 3 $ 181 $ 7 $ 3 $ 10 Available-for-sale 214 23 237 320 30 350 Trading — 1 1 — 12 12 Total securities $ 392 $ 27 $ 419 $ 327 $ 45 $ 372 53 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 6. LOANS, LEASES, AND ALLOWANCE FOR CREDIT LOSSES Loans, Leases, and Loans Held for Sale Loans and leases are summarized as follows according to major portfolio segment and specific loan class: (In millions) September 30, 2023 December 31, 2022 Loans held for sale $ 41 $ 8 Commerci Commercial and industrial 1 $ 16,341 $ 16,377 Leasing 373 386 Owner-occupied 9,273 9,371 Municipal 4,221 4,361 Total commercial 30,208 30,495 Commercial real estate: Construction and land development 2,575 2,513 Term 10,565 10,226 Total commercial real estate 13,140 12,739 Consume Home equity credit line 3,313 3,377 1-4 family residential 8,116 7,286 Construction and other consumer real estate 1,510 1,161 Bankcard and other revolving plans 475 471 Other 131 124 Total consumer 13,545 12,419 Total loans and leases $ 56,893 $ 55,653 1 Commercial and industrial loan balances include Paycheck Protection Program (“PPP”) loans of $ 106 million and $ 197 million for the respective periods presented. Loans and leases are measured and presented at their amortized cost basis, which includes net unamortized purchase premiums, discounts, and deferred loan fees and costs totaling $ 34 million and $ 49 million at September 30, 2023 and December 31, 2022, respectively. Amortized cost basis does not include accrued interest receivables of $ 290 million and $ 247 million at September 30, 2023 and December 31, 2022, respectively. These receivables are presented in the consolidated balance sheet within the “ Other assets ” line item. Municipal loans generally include loans to state and local governments (“municipalities”) with the debt service being repaid from general funds or pledged revenues of the municipal entity, or to private commercial entities or 501(c)(3) not-for-profit entities utilizing a pass-through municipal entity to achieve favorable tax treatment. Land acquisition and development loans included in the construction and land development loan portfolio were $ 205 million at September 30, 2023 and $ 262 million at December 31, 2022. Loans with a carrying value of $ 37.2 billion at September 30, 2023 and $ 27.6 billion at December 31, 2022 have been pledged at the Federal Reserve (“FRB”) and the Federal Home Loan Bank (“FHLB”) of Des Moines as collateral for current and potential borrowings. At the time of origination, we determine the classification of loans as either held for investment or held for sale. Loans held for sale are measured at fair value or the lower of cost or fair value and primarily consist of (1) commercial real estate (“CRE”) loans that are sold into securitization entities, and (2) conforming residential mortgages that are generally sold to U.S. government agencies. The following schedule presents loans added to, or sold from, the held for sale category during the periods presented. 54 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2023 2022 2023 2022 Loans added to held for sale $ 183 $ 96 $ 489 $ 583 Loans sold from held for sale 204 112 480 635 Occasionally, we have continuing involvement in the sold loans in the form of servicing rights or guarantees. The principal balance of sold loans for which we retain servicing was $ 3.4 billion and $ 3.5 billion at September 30, 2023 and December 31, 2022, respectively. During the third quarter of 2023, we sold the servicing rights related to $ 3.0 billion of mortgage loans, but retained sub-servicing through October 2023. Income from sold loans, excluding servicing, was $ 8 million and $ 15 million for the three and nine months ended September 30, 2023, and $ 2 million and $ 12 million for the three and nine months ended September 30, 2022, respectively. The increase in income from sold loans during the third quarter of 2023 was primarily due to a $ 4 million gain on the sale of certain mortgage servicing rights. Allowance for Credit Losses The allowance for credit losses (“ACL”), which consists of the allowance for loan and lease losses (“ALLL”) and the reserve for unfunded lending commitments (“RULC”), represents our estimate of current expected credit losses related to the loan and lease portfolio and unfunded lending commitments as of the balance sheet date. For additional information regarding our policies and methodologies used to estimate the ACL, see Note 6 of our 2022 Form 10-K. The ACL for AFS and HTM debt securities is estimated separately from loans. For HTM securities, the ACL is estimated consistent with the approach for loans measured at amortized cost. See Note 5 of our 2022 Form 10-K for further discussion of our methodology used to estimate the ACL on AFS and HTM debt securities. Changes in the ACL are summarized as follows: Three Months Ended September 30, 2023 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 323 $ 181 $ 147 $ 651 Provision for loan losses 3 44 ( 3 ) 44 Gross loan and lease charge-offs 12 3 5 20 Recoveries 5 — 1 6 Net loan and lease charge-offs (recoveries) 7 3 4 14 Balance at end of period $ 319 $ 222 $ 140 $ 681 Reserve for unfunded lending commitments Balance at beginning of period $ 20 $ 29 $ 11 $ 60 Provision for unfunded lending commitments 1 ( 1 ) ( 3 ) ( 3 ) Balance at end of period $ 21 $ 28 $ 8 $ 57 Total allowance for credit losses at end of period Allowance for loan losses $ 319 $ 222 $ 140 $ 681 Reserve for unfunded lending commitments 21 28 8 57 Total allowance for credit losses $ 340 $ 250 $ 148 $ 738 55 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2023 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at December 31, 2022 $ 300 $ 156 $ 119 $ 575 Adjustment for change in accounting standard — ( 4 ) 1 ( 3 ) Balance at beginning of period $ 300 $ 152 $ 120 $ 572 Provision for loan losses 37 73 26 136 Gross loan and lease charge-offs 35 3 11 49 Recoveries 17 — 5 22 Net loan and lease charge-offs (recoveries) 18 3 6 27 Balance at end of period $ 319 $ 222 $ 140 $ 681 Reserve for unfunded lending commitments Balance at beginning of period $ 16 $ 33 $ 12 $ 61 Provision for unfunded lending commitments 5 ( 5 ) ( 4 ) ( 4 ) Balance at end of period $ 21 $ 28 $ 8 $ 57 Total allowance for credit losses at end of period Allowance for loan losses $ 319 $ 222 $ 140 $ 681 Reserve for unfunded lending commitments 21 28 8 57 Total allowance for credit losses $ 340 $ 250 $ 148 $ 738 Three Months Ended September 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 286 $ 114 $ 108 $ 508 Provision for loan losses 41 17 2 60 Gross loan and lease charge-offs 37 — 1 38 Recoveries 6 — 5 11 Net loan and lease charge-offs (recoveries) 31 — ( 4 ) 27 Balance at end of period $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments Balance at beginning of period $ 13 $ 15 $ 10 $ 38 Provision for unfunded lending commitments 3 7 1 11 Balance at end of period $ 16 $ 22 $ 11 $ 49 Total allowance for credit losses at end of period Allowance for loan losses $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments 16 22 11 49 Total allowance for credit losses $ 312 $ 153 $ 125 $ 590 56 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2022 (In millions) Commercial Commercial real estate Consumer Total Allowance for loan losses Balance at beginning of period $ 311 $ 107 $ 95 $ 513 Provision for loan losses 29 24 17 70 Gross loan and lease charge-offs 65 — 8 73 Recoveries 21 — 10 31 Net loan and lease charge-offs (recoveries) 44 — ( 2 ) 42 Balance at end of period $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments Balance at beginning of period $ 19 $ 11 $ 10 $ 40 Provision for unfunded lending commitments ( 3 ) 11 1 9 Balance at end of period $ 16 $ 22 $ 11 $ 49 Total allowance for credit losses at end of period Allowance for loan losses $ 296 $ 131 $ 114 $ 541 Reserve for unfunded lending commitments 16 22 11 49 Total allowance for credit losses $ 312 $ 153 $ 125 $ 590 Nonaccrual Loans Loans are generally placed on nonaccrual status when payment in full of principal and interest is not expected, or the loan is 90 days or more past due as to principal or interest, unless the loan is both well-secured and in the process of collection. Factors we consider in determining whether a loan is placed on nonaccrual include delinquency status, collateral value, borrower or guarantor financial statement information, bankruptcy status, and other information which would indicate that the full and timely collection of interest and principal is uncertain. A nonaccrual loan may be returned to accrual status when (1) all delinquent interest and principal become current in accordance with the terms of the loan agreement, (2) the loan, if secured, is well-secured, (3) the borrower has paid according to the contractual terms for a minimum of six months, and (4) an analysis of the borrower indicates a reasonable assurance of the borrower's ability and willingness to maintain payments. The amortized cost basis of nonaccrual loans is summarized as follows: September 30, 2023 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Loans held for sale $ 17 $ — $ 17 $ — Commerci Commercial and industrial $ 9 $ 50 $ 59 $ 16 Owner-occupied 18 9 27 1 Total commercial 27 59 86 17 Commercial real estate: Construction and land development 22 — 22 — Term 30 10 40 3 Total commercial real estate 52 10 62 3 Consume Home equity credit line 1 15 16 7 1-4 family residential 5 30 35 6 Total consumer loans 6 45 51 13 Total $ 85 $ 114 $ 199 $ 33 57 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Amortized cost basis Total amortized cost basis (In millions) with no allowance with allowance Related allowance Commerci Commercial and industrial $ 8 $ 55 $ 63 $ 27 Owner-occupied 13 11 24 1 Total commercial 21 66 87 28 Commercial real estate: Term — 14 14 2 Total commercial real estate — 14 14 2 Consume Home equity credit line 1 10 11 2 1-4 family residential 9 28 37 3 Total consumer loans 10 38 48 5 Total $ 31 $ 118 $ 149 $ 35 For accruing loans, interest is accrued and interest payments are recognized into interest income according to the contractual loan agreement. For nonaccruing loans, the accrual of interest is discontinued, any uncollected or accrued interest is reversed from interest income in a timely manner (generally within one month), and any payments received on these loans are not recognized into interest income, but are applied as a reduction to the principal outstanding. When the collectability of the amortized cost basis for a nonaccrual loan is no longer in doubt, then interest payments may be recognized in interest income on a cash basis. For the three and nine months ended September 30, 2023 and 2022, there was no interest income recognized on a cash basis during the period the loans were on nonaccrual. The amount of accrued interest receivables reversed from interest income during the periods presented is summarized by loan portfolio segment as follows: Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2023 2022 2023 2022 Commercial $ 2 $ 3 $ 7 $ 11 Commercial real estate 2 1 2 1 Consumer — — 1 — Total $ 4 $ 4 $ 10 $ 12 Past Due Loans Closed-end loans with payments scheduled monthly are reported as past due when the borrower is in arrears for two or more monthly payments. Similarly, open-end credits, such as bankcard and other revolving credit plans, are reported as past due when the minimum payment has not been made for two or more billing cycles. Other multi-payment obligations (i.e., quarterly, semi-annual, etc.), single payment, and demand notes, are reported as past due when either principal or interest is due and unpaid for a period of 30 days or more. 58 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Past due loans (accruing and nonaccruing) are summarized as follows: September 30, 2023 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 16,282 $ 45 $ 14 $ 59 $ 16,341 $ 3 $ 40 Leasing 373 — — — 373 — — Owner-occupied 9,254 6 13 19 9,273 11 24 Municipal 4,214 7 — 7 4,221 — — Total commercial 30,123 58 27 85 30,208 14 64 Commercial real estate: Construction and land development 2,568 5 2 7 2,575 — 21 Term 10,521 42 2 44 10,565 1 12 Total commercial real estate 13,089 47 4 51 13,140 1 33 Consume Home equity credit line 3,300 7 6 13 3,313 — 8 1-4 family residential 8,085 11 20 31 8,116 — 12 Construction and other consumer real estate 1,510 — — — 1,510 — — Bankcard and other revolving plans 472 2 1 3 475 1 — Other 130 1 — 1 131 — — Total consumer loans 13,497 21 27 48 13,545 1 20 Total $ 56,709 $ 126 $ 58 $ 184 $ 56,893 $ 16 $ 117 December 31, 2022 (In millions) Current 30-89 days past due 90+ days past due Total past due Total loans Accruing loans 90+ days past due Nonaccrual loans that are current 1 Commerci Commercial and industrial $ 16,331 $ 24 $ 22 $ 46 $ 16,377 $ 4 $ 45 Leasing 386 — — — 386 — — Owner-occupied 9,344 20 7 27 9,371 1 15 Municipal 4,361 — — — 4,361 — — Total commercial 30,422 44 29 73 30,495 5 60 Commercial real estate: Construction and land development 2,511 2 — 2 2,513 — — Term 10,179 37 10 47 10,226 — 4 Total commercial real estate 12,690 39 10 49 12,739 — 4 Consume Home equity credit line 3,369 5 3 8 3,377 — 6 1-4 family residential 7,258 9 19 28 7,286 — 16 Construction and other consumer real estate 1,161 — — — 1,161 — — Bankcard and other revolving plans 467 3 1 4 471 1 — Other 124 — — — 124 — — Total consumer loans 12,379 17 23 40 12,419 1 22 Total $ 55,491 $ 100 $ 62 $ 162 $ 55,653 $ 6 $ 86 1 Represents nonaccrual loans that are not past due more than 30 days; however, full payment of principal and interest is not expected. 59 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Credit Quality Indicators In addition to the nonaccrual and past due criteria, we also analyze loans using loan risk-grading systems, which vary based on the size and type of credit risk exposure. The internal risk grades assigned to loans follow our definition of Pass, Special Mention, Substandard, and Doubtful, which are consistent with published definitions of regulatory risk classifications. • Pass – A Pass asset is higher-quality and does not fit any of the other categories described below. The likelihood of loss is considered low. • Special Mention – A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in our credit position at some future date. • Substandard – A Substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Assets so classified have well-defined weaknesses and are characterized by the distinct possibility that we may sustain some loss if deficiencies are not corrected. • Doubtful – A Doubtful asset has all the weaknesses inherent in a Substandard asset with the added characteristics that the weaknesses make collection or liquidation in full highly questionable and improbable. There were no loans classified as Doubtful at September 30, 2023 and December 31, 2022. For consumer loans and for CRE loans with commitments greater than $ 1 million, we generally assign internal risk grades similar to those described previously based on automated rules that depend on refreshed credit scores, payment performance, and other risk indicators. These are generally assigned either a Pass, Special Mention, or Substandard grade, and are reviewed as we identify information that might warrant a grade change. The following schedule presents the amortized cost basis of loans and leases categorized by year of origination and by credit quality classification as monitored by management. The schedule also summarizes the current period gross charge-offs by year of origination. 60 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES September 30, 2023 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2023 2022 2021 2020 2019 Prior Total Commerci Commercial and industrial Pass $ 1,955 $ 2,775 $ 1,402 $ 681 $ 552 $ 639 $ 7,727 $ 177 $ 15,908 Special Mention 4 12 13 6 1 47 90 1 174 Accruing Substandard 2 64 7 2 19 8 96 2 200 Nonaccrual 4 5 2 2 11 2 31 2 59 Total commercial and industrial 1,965 2,856 1,424 691 583 696 7,944 182 16,341 Gross charge-offs 1 4 — — — — 7 — 12 Leasing Pass 62 140 52 35 50 32 — — 371 Special Mention — — — — — — — — — Accruing Substandard — 2 — — — — — — 2 Nonaccrual — — — — — — — — — Total leasing 62 142 52 35 50 32 — — 373 Gross charge-offs — — — — — — — — — Owner-occupied Pass 835 2,006 2,031 1,029 738 2,041 199 53 8,932 Special Mention 3 8 60 4 17 14 2 — 108 Accruing Substandard 4 39 41 18 18 81 5 — 206 Nonaccrual 1 — 1 12 3 10 — — 27 Total owner-occupied 843 2,053 2,133 1,063 776 2,146 206 53 9,273 Gross charge-offs — — — — — — — — — Municipal Pass 320 1,067 1,174 657 395 548 4 — 4,165 Special Mention 7 31 — — — — — — 38 Accruing Substandard — 7 6 3 1 1 — — 18 Nonaccrual — — — — — — — — — Total municipal 327 1,105 1,180 660 396 549 4 — 4,221 Gross charge-offs — — — — — — — — — Total commercial 3,197 6,156 4,789 2,449 1,805 3,423 8,154 235 30,208 Total commercial gross charge-offs 1 4 — — — — 7 — 12 Commercial real estate: Construction and land development Pass 431 787 469 171 8 5 465 121 2,457 Special Mention 6 — 52 — — — 11 — 69 Accruing Substandard — 10 — 17 — — — — 27 Nonaccrual — — — — 21 — 1 — 22 Total construction and land development 437 797 521 188 29 5 477 121 2,575 Gross charge-offs — — — — 1 — — — 1 Term Pass 1,303 2,511 1,975 1,569 854 1,569 235 165 10,181 Special Mention 55 56 12 42 46 8 4 — 223 Accruing Substandard 59 18 3 12 5 24 — — 121 Nonaccrual — 26 — — 3 11 — — 40 Total term 1,417 2,611 1,990 1,623 908 1,612 239 165 10,565 Gross charge-offs — 2 — — — — — — 2 Total commercial real estate 1,854 3,408 2,511 1,811 937 1,617 716 286 13,140 Total commercial real estate gross charge-offs — 2 — — 1 — — — 3 61 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES September 30, 2023 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2023 2022 2021 2020 2019 Prior Total Consume Home equity credit line Pass — — — — — — 3,195 97 3,292 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 5 — 5 Nonaccrual — — — — — — 14 2 16 Total home equity credit line — — — — — — 3,214 99 3,313 Gross charge-offs — — — — — — 3 — 3 1-4 family residential Pass 722 2,083 1,719 1,002 605 1,948 — — 8,079 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — 2 2 3 3 25 — — 35 Total 1-4 family residential 722 2,085 1,721 1,005 608 1,975 — — 8,116 Gross charge-offs — — — — — — — — — Construction and other consumer real estate Pass 140 1,016 314 22 10 7 — — 1,509 Special Mention — — — — — — — — — Accruing Substandard — — — — — 1 — — 1 Nonaccrual — — — — — — — — — Total construction and other consumer real estate 140 1,016 314 22 10 8 — — 1,510 Gross charge-offs — — — — — — — — — Bankcard and other revolving plans Pass — — — — — — 471 2 473 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 2 — 2 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 473 2 475 Gross charge-offs — — — — — — 2 — 2 Other consumer Pass 54 42 20 7 5 3 — — 131 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 54 42 20 7 5 3 — — 131 Gross charge-offs — — — — — — — — — Total consumer 916 3,143 2,055 1,034 623 1,986 3,687 101 13,545 Total consumer gross charge-offs — — — — — — 5 — 5 Total loans $ 5,967 $ 12,707 $ 9,355 $ 5,294 $ 3,365 $ 7,026 $ 12,557 $ 622 $ 56,893 Total gross charge-offs $ 1 $ 6 $ — $ — $ 1 $ — $ 12 $ — $ 20 62 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total Commerci Commercial and industrial Pass $ 3,363 $ 1,874 $ 979 $ 876 $ 293 $ 264 $ 8,054 $ 182 $ 15,885 Special Mention 1 2 10 52 1 2 50 — 118 Accruing Substandard 26 7 17 78 30 67 84 2 311 Nonaccrual — 8 5 11 1 2 32 4 63 Total commercial and industrial 3,390 1,891 1,011 1,017 325 335 8,220 188 16,377 Leasing Pass 160 71 47 66 18 19 — — 381 Special Mention — — — — — — — — — Accruing Substandard — — — — — 5 — — 5 Nonaccrual — — — — — — — — — Total leasing 160 71 47 66 18 24 — — 386 Owner-occupied Pass 2,157 2,285 1,143 874 654 1,679 187 74 9,053 Special Mention 1 15 5 8 3 16 1 — 49 Accruing Substandard 16 33 48 20 55 64 9 — 245 Nonaccrual 1 1 2 4 5 10 1 — 24 Total owner-occupied 2,175 2,334 1,198 906 717 1,769 198 74 9,371 Municipal Pass 1,230 1,220 816 441 168 437 8 — 4,320 Special Mention 32 6 — — — — — — 38 Accruing Substandard — — — — — 3 — — 3 Nonaccrual — — — — — — — — — Total municipal 1,262 1,226 816 441 168 440 8 — 4,361 Total commercial 6,987 5,522 3,072 2,430 1,228 2,568 8,426 262 30,495 Commercial real estate: Construction and land development Pass 548 671 455 81 2 2 617 96 2,472 Special Mention 1 1 — — — — — — 2 Accruing Substandard 17 — — 22 — — — — 39 Nonaccrual — — — — — — — — — Total construction and land development 566 672 455 103 2 2 617 96 2,513 Term Pass 2,861 2,107 1,686 1,012 666 1,229 276 112 9,949 Special Mention 39 21 11 — 4 1 — — 76 Accruing Substandard 42 2 34 21 53 35 — — 187 Nonaccrual — — — 4 1 9 — — 14 Total term 2,942 2,130 1,731 1,037 724 1,274 276 112 10,226 Total commercial real estate 3,508 2,802 2,186 1,140 726 1,276 893 208 12,739 63 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES December 31, 2022 Term loans Revolving loans amortized cost basis Revolving loans converted to term loans amortized cost basis Amortized cost basis by year of origination (In millions) 2022 2021 2020 2019 2018 Prior Total Consume Home equity credit line Pass — — — — — — 3,265 98 3,363 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 3 — 3 Nonaccrual — — — — — — 8 3 11 Total home equity credit line — — — — — — 3,276 101 3,377 1-4 family residential Pass 1,913 1,503 1,024 638 381 1,788 — — 7,247 Special Mention — — — — — — — — — Accruing Substandard — — — — — 2 — — 2 Nonaccrual — 2 2 4 3 26 — — 37 Total 1-4 family residential 1,913 1,505 1,026 642 384 1,816 — — 7,286 Construction and other consumer real estate Pass 583 485 64 19 5 5 — — 1,161 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total construction and other consumer real estate 583 485 64 19 5 5 — — 1,161 Bankcard and other revolving plans Pass — — — — — — 468 2 470 Special Mention — — — — — — — — — Accruing Substandard — — — — — — 1 — 1 Nonaccrual — — — — — — — — — Total bankcard and other revolving plans — — — — — — 469 2 471 Other consumer Pass 68 30 12 8 4 2 — — 124 Special Mention — — — — — — — — — Accruing Substandard — — — — — — — — — Nonaccrual — — — — — — — — — Total other consumer 68 30 12 8 4 2 — — 124 Total consumer 2,564 2,020 1,102 669 393 1,823 3,745 103 12,419 Total loans $ 13,059 $ 10,344 $ 6,360 $ 4,239 $ 2,347 $ 5,667 $ 13,064 $ 573 $ 55,653 Loan Modifications On January 1, 2023, we adopted ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures, which eliminated the recognition and measurement of troubled debt restructurings (“TDRs”) and their related disclosures. As a result, we no longer separately measure an allowance for credit losses for TDRs, relying instead on our credit loss estimation models. The adoption of this guidance did not have a material impact on our financial statements. ASU 2022-02 requires enhanced disclosures for loan modifications to borrowers experiencing financial difficulty. Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. For loans that have been modified with a borrower experiencing financial difficulty, we use the same credit loss estimation methods that we use for the 64 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES rest of the loan portfolio. These methods incorporate the post-modification loan terms, as well as defaults and charge-offs associated with historical modified loans. All nonaccruing loans more than $1 million are evaluated individually, regardless of modification. We consider many factors in determining whether to agree to a loan modification and we seek a solution that will both minimize potential loss to us and attempt to help the borrower. We evaluate borrowers’ current and forecasted future cash flows, their ability and willingness to make current contractual or proposed modified payments, the value of the underlying collateral (if applicable), the possibility of obtaining additional security or guarantees, and the potential costs related to a repossession or foreclosure and the subsequent sale of the collateral. A modified loan on nonaccrual will generally remain on nonaccrual until the borrower has proven the ability to perform under the modified structure for a minimum of six months, and there is evidence that such payments can and are likely to continue as agreed. Performance prior to the modification, or significant events that coincide with the modification, are included in assessing whether the borrower can meet the new terms and may result in the loan being returned to accrual at the time of modification or after a shorter performance period. If the borrower’s ability to meet the revised payment schedule is uncertain, the loan remains on nonaccrual. There were less than $ 1 million of loans to borrowers experiencing financial difficulty that had a payment default during the three and nine months ended September 30, 2023, which were still in default at period end, and were within 12 months or less of being modified. The amortized cost of loans to borrowers experiencing financial difficulty that were modified during the period, by loan class and modification type, is summarized in the following schedu Three Months Ended September 30, 2023 Amortized cost associated with the following modification typ Interest rate reduction Maturity or term extension Principal forgiveness Payment deferral Multiple modification types 1 Total 2 Percentage of total loans 3 Commerci Commercial and industrial $ — $ 35 $ — $ 1 $ — $ 36 0.2 % Owner-occupied — 3 — — — 3 — Total commercial — 38 — 1 — 39 0.1 Commercial real estate: Construction and land development — — — — — — — Term — 83 — — — 83 0.8 Total commercial real estate — 83 — — — 83 0.6 Consume 1-4 family residential — — — — 1 1 — Bankcard and other revolving plans — — — — — — — Total consumer loans — — — — 1 1 — Total $ — $ 121 $ — $ 1 $ 1 $ 123 0.2 % 65 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2023 Amortized cost associated with the following modification typ (Dollar amounts in millions) Interest rate reduction Maturity or term extension Principal forgiveness Payment deferral Multiple modification types 1 Total 2 Percentage of total loans 3 Commerci Commercial and industrial $ — $ 63 $ — $ 1 $ — $ 64 0.4 % Owner-occupied 4 8 — — — 12 0.1 Total commercial 4 71 — 1 — 76 0.3 Commercial real estate: Construction and land development — 23 — — — 23 0.9 Term — 141 — — — 141 1.3 Total commercial real estate — 164 — — — 164 1.2 Consume 1-4 family residential — — 1 — 1 2 — Bankcard and other revolving plans — 1 — — — 1 0.2 Total consumer loans — 1 1 — 1 3 — Total $ 4 $ 236 $ 1 $ 1 $ 1 $ 243 0.4 % 1 Includes modifications that resulted from a combination of interest rate reduction, maturity or term extension, principal forgiveness, and payment deferral modifications. 2 Unfunded lending commitments related to loans modified to borrowers experiencing financial difficulty totaled $ 10 million at September 30, 2023. 3 Amounts less than 0.05% are rounded to zero. The financial impact of loan modifications to borrowers experiencing financial difficulty during the three and nine months ended September 30, 2023, is summarized in the following schedu Three Months Ended September 30, 2023 Nine Months Ended September 30, 2023 Weighted-average term extension (in months) Weighted-average interest rate reduction (in percentage points) Weighted-average term extension (in months) Commerci Commercial and industrial 16 — % 12 Owner-occupied 2 4.4 13 Total commercial 14 4.4 12 Commercial real estate: Construction and land development 0 — 5 Term 21 — 17 Total commercial real estate 21 — 16 Consume 1 1-4 family residential 217 — 153 Bankcard and other revolving plans 0 — 63 Total consumer loans 217 — 117 Total weighted average financial impact 19 4.4 % 16 1 Primarily relates to a small number of loans within each consumer loan class. 66 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Loan modifications to borrowers experiencing financial difficulty during the three and nine months ended September 30, 2023, resulted in less than $ 1 million of principal forgiveness for the total loan portfolio for both periods. The following schedule presents the aging of loans to borrowers experiencing financial difficulty that were modified on or after January 1, 2023 (the date we adopted ASU 2022-02) through September 30, 2023, presented by portfolio segment and loan class. September 30, 2023 (In millions) Current 30-89 days past due 90+ days past due Total past due Total amortized cost of loans Commerci Commercial and industrial $ 64 $ — $ — $ — $ 64 Owner-occupied 9 3 — 3 12 Total commercial 73 3 — 3 76 Commercial real estate: Construction and land development 23 — — — 23 Term 128 13 — 13 141 Total commercial real estate 151 13 — 13 164 Consume 1-4 family residential 2 — — — 2 Bankcard and other revolving plans 1 — — — 1 Total consumer loans 3 — — — 3 Total $ 227 $ 16 $ — $ 16 $ 243 Troubled Debt Restructuring Disclosures Prior to Our Adoption of ASU 2022-02 Loans may be modified in the normal course of business for competitive reasons or to strengthen our collateral position. Loan modifications and restructurings may also occur when the borrower experiences financial difficulty and needs temporary or permanent relief from the original contractual terms of the loan. Loans that have been modified to accommodate a borrower who is experiencing financial difficulties, and for which we have granted a concession that we would not otherwise consider, are considered TDRs. For further discussion of our policies and processes regarding TDRs, see Note 6 of our 2022 Form 10-K. 67 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Information on TDRs, including the amortized cost on an accruing and nonaccruing basis by loan class and modification type is summarized in the following schedul December 31, 2022 Amortized cost resulting from the following modification typ (In millions) Interest rate below market Maturity or term extension Principal forgiveness Payment deferral Other 1 Multiple modification types 2 Total Accruing Commerci Commercial and industrial $ 1 $ 12 $ — $ — $ 9 $ 28 $ 50 Owner-occupied — 1 — 2 13 12 28 Municipal — — — — — — — Total commercial 1 13 — 2 22 40 78 Commercial real estate: Construction and land development — — — — — 8 8 Term 1 27 — 27 28 1 84 Total commercial real estate 1 27 — 27 28 9 92 Consume Home equity credit line — 1 4 — — 1 6 1-4 family residential 2 1 2 — 1 15 21 Total consumer loans 2 2 6 — 1 16 27 Total accruing 4 42 6 29 51 65 197 Nonaccruing Commerci Commercial and industrial — — — 3 9 3 15 Owner-occupied 4 — — — — 4 8 Total commercial 4 — — 3 9 7 23 Commercial real estate: Term — 10 — — — — 10 Total commercial real estate — 10 — — — — 10 Consume Home equity credit line — — 1 — — — 1 1-4 family residential — 1 — — 1 2 4 Total consumer loans — 1 1 — 1 2 5 Total nonaccruing 4 11 1 3 10 9 38 Total $ 8 $ 53 $ 7 $ 32 $ 61 $ 74 $ 235 1 Includes TDRs that resulted from other modification types including, but not limited to, a legal judgment awarded on different terms, a bankruptcy plan confirmed on different terms, a settlement that includes the delivery of collateral in exchange for debt reduction, etc. 2 Includes TDRs that resulted from a combination of the previous modification types reflected in the schedule. Unfunded lending commitments related to TDRs totaled $ 7 million at December 31, 2022. The total amortized cost of all TDRs in which interest rates were modified below market was $ 63 million at December 31, 2022. These loans are included in the previous schedule in the columns for interest rate below market and multiple modification types. The net financial impact on interest income due to interest rate modifications below market for accruing TDRs for the year ended December 31, 2022 was not significant. On an ongoing basis, we monitor the performance of all TDRs according to their restructured terms. Subsequent payment default is defined in terms of delinquency, when principal or interest payments are past due 90 days or more for commercial loans, or 60 days or more for consumer loans. 68 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amortized cost of TDRs that had a payment default during the year ended December 31, 2022, which were still in default at period end, and were within 12 months or less of being modified as TDRs was approximately $ 10 million. Collateral-Dependent Loans When a loan is individually evaluated for expected credit losses, we estimate a specific reserve for the loan based on (1) the projected present value of the loan’s future cash flows discounted at the loan’s effective interest rate, (2) the observable market price of the loan, or (3) the fair value of the loan’s underlying collateral. Select information on loans for which the borrower is experiencing financial difficulties and repayment is expected to be provided substantially through the operation or sale of the underlying collateral, including the type of collateral and the extent to which the collateral secures the loans, is summarized as follows: September 30, 2023 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Commercial and industrial $ 3 Accounts receivable, Inventory 25 % Owner-occupied 12 Hospital 29 % Total commercial 15 Commercial real estate: Construction and land development 1 Land 56 % Term 4 Hotel, Office building 57 % Total commercial real estate 5 Total $ 20 December 31, 2022 (Dollar amounts in millions) Amortized cost Major types of collateral Weighted average LTV 1 Commerci Owner-occupied $ 2 Land, Warehouse 29 % Commercial real estate: Term 1 Multi-family 55 % Consume Home equity credit line 1 Single family residential 13 % 1-4 family residential 3 Single family residential 41 % Total $ 7 1 The fair value is based on the most recent appraisal or other collateral evaluation . Foreclosed Residential Real Estate At September 30, 2023 and December 31, 2022, we did no t have any foreclosed residential real estate property. The amortized cost basis of consumer mortgage loans collateralized by residential real estate property that were in the process of foreclosure was $ 11 million and $ 10 million for the same periods, respectively. 69 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Objectives and Accounting Our primary objective for using derivatives is to manage interest rate risk. We use derivatives to stabilize forecasted interest income from variable-rate assets and to modify the coupon or the duration of fixed-rate financial assets or liabilities. We also assist clients with their risk management needs through the use of derivatives. Cash receipts and payments from derivatives designated in qualifying hedging relationships are classified in the same category as the cash flows from the items being hedged in the statement of cash flows, and cash flows from undesignated derivatives are classified as operating activities. For a more detailed discussion of the use of and accounting policies regarding derivative instruments, see Note 7 of our 2022 Form 10-K. Fair Value Hedges of Liabilities – During the second quarter of 2023, we terminated our remaining receive-fixed interest rate swap with a notional amount of $ 500 million that had been designated in a qualifying fair value hedge relationship of fixed-rate debt. The receive-fixed interest rate swap effectively converted the interest on our fixed-rate debt to floating until it was terminated. Prior to termination, changes in the fair value of derivatives designated as fair value hedges of debt were offset by changes in the fair value of the hedged debt instruments as shown in the schedules on the following pages. The unamortized hedge basis adjustments resulting from the terminated hedging relationship will be amortized over the remaining life of the fixed-rate debt. Fair Value Hedges of Assets – During the third quarter of 2023, we entered into new hedges of a defined portfolio of fixed-rate commercial loans using pay-fixed, receive-floating swaps with an aggregate notional amount of $ 1.0 billion that were designated as fair value hedges under the portfolio layer method described in ASU 2022-01, Derivatives and Hedging (Topic 815): Fair Value Hedging—Portfolio Layer Method . At September 30, 2023, we also had pay-fixed, receive-floating interest rate swaps with an aggregate notional amount of $ 1.1 billion designated as fair value hedges of specifically identified AFS securities. Fair value hedges of fixed-rate assets effectively convert the fixed interest income to a floating rate on the hedged portion of the assets. Changes in fair value of derivatives designated as fair value hedges of fixed-rate financial assets were largely offset by changes in the value of the hedged assets, as shown in the schedules on the following pages. We had an additional $ 2.5 billion in aggregate notional amount of pay-fixed swaps designated under the portfolio layer method as fair value hedges of a defined portfolio of fixed-rate AFS securities. Cash Flow Hedges – At September 30, 2023, we had receive-fixed interest rate swaps with an aggregate notional amount of $ 2.6 billion designated as cash flow hedges of pools of floating-rate commercial loans. At September 30, 2023, there was $ 201 million of losses deferred in AOCI related to terminated cash flow hedges that are expected to be fully amortized by October 2027. Additionally, at September 30, 2023, we had one pay-fixed interest rate swap with a notional amount of $ 500 million designated as a cash flow hedge of the variability in the interest payments on certain FHLB advances. Changes in the fair value of qualifying cash flow hedges during the quarter were recorded in AOCI as shown in the schedule below. The amounts deferred in AOCI are reclassified into earnings in the periods in which the hedged interest receipts or payments occur (i.e., when the hedged forecasted transactions affect earnings). Collateral and Credit Risk Exposure to credit risk arises from the possibility of nonperformance by counterparties. No significant losses on derivative instruments have occurred as a result of counterparty nonperformance. For more information on how we incorporate counterparty credit risk in derivative valuations, see Note 3 of our 2022 Form 10-K. For additional discussion of collateral and the associated credit risk related to our derivative contracts, see Note 7 of our 2022 Form 10-K. Our derivative contracts require us to pledge collateral for derivatives that are in a net liability position at a given balance sheet date. Certain of these derivative contracts contain credit risk-related contingent features that include the requirement to maintain a minimum debt credit rating. We may be required to pledge additional collateral if a credit risk-related feature were triggered, such as a downgrade of our credit rating. In past situations, counterparties 70 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES have not generally demanded that additional collateral be pledged when provided for by the contractual terms. At September 30, 2023, the fair value of our derivative liabilities was $ 512 million, for which we were required to pledge cash collateral of $ 1 million in the normal course of business. If our credit rating were downgraded one notch by either Standard & Poor’s (“S&P”) or Moody’s at September 30, 2023, there would likely be no additional collateral required to be pledged. Derivative Amounts The following schedule presents information regarding notional amounts and recorded gross fair values at September 30, 2023 and December 31, 2022, and the related gain (loss) of derivative instruments. September 30, 2023 December 31, 2022 Notional amount 1 Fair value Notional amount Fair value (In millions) Other assets Other liabilities Other assets Other liabilities Derivatives designated as hedging instruments: Cash flow hedges of floating-rate assets: Receive-fixed interest rate swaps $ 2,550 $ — $ — $ 7,633 $ — $ 1 Cash flow hedges of floating-rate liabiliti Pay-fixed interest rate swaps 500 — — — — — Fair value hed Debt hed Receive-fixed interest rate swaps — — — 500 — — Asset hed Pay-fixed interest rate swaps 4,571 108 — 1,228 84 — Total derivatives designated as hedging instruments 7,621 108 — 9,361 84 1 Derivatives not designated as hedging instruments: Customer interest rate derivatives 1 13,835 515 510 13,670 296 443 Other interest rate derivatives 985 2 — 862 — — Foreign exchange derivatives 234 3 2 605 6 7 Purchased credit derivatives — — — — — — Total derivatives not designated as hedging instruments 15,054 520 512 15,137 302 450 Total derivatives $ 22,675 $ 628 $ 512 $ 24,498 $ 386 $ 451 1 Customer interest rate derivatives include both customer-facing derivative as well as offsetting derivatives facing other dealer banks. The fair value of these derivatives include a net credit valuation adjustment (“CVA”) of $ 17 million, reducing the fair value of the liability at September 30, 2023, and $ 13 million, reducing the fair value of the liability at December 31, 2022. The amount of derivative gains (losses) from cash flow and fair value hedges that were deferred in other comprehensive income (“OCI”) or recognized in earnings for the three and nine months ended September 30, 2023 and 2022 is presented in the schedules below. Three Months Ended September 30, 2023 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness/AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — $ — Received-fixed interest rate swaps 7 ( 41 ) — — Cash flow hedges of floating-rate liabiliti Pay-fixed interest rate swaps ( 3 ) 2 — — Fair value hed — Debt hed Receive-fixed interest rate swaps — — — — Basis amortization on terminated hedges 2 — — ( 2 ) — Asset hed Pay-fixed interest rate swaps — — 20 ( 1 ) Basis amortization on terminated asset hedges 3 — — — — Total derivatives designated as hedging instruments $ 4 $ ( 39 ) $ 18 $ ( 1 ) 71 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Nine Months Ended September 30, 2023 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness/AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — $ — Received-fixed interest rate swaps 24 ( 131 ) — — Cash flow hedges of floating-rate liabiliti Pay-fixed interest rate swaps 8 3 — — Fair value hed Debt hed Receive-fixed interest rate swaps — — ( 5 ) — Basis amortization on terminated debt hedges 2 — — ( 3 ) — Asset hed Pay-fixed interest rate swaps — — 36 ( 1 ) Basis amortization on terminated asset hedges 3 — — — — Total derivatives designated as hedging instruments $ 32 $ ( 128 ) $ 28 $ ( 1 ) Three Months Ended September 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness/AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ — $ — $ — Interest rate swaps ( 183 ) ( 11 ) — — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — ( 1 ) — Basis amortization on terminated hedges 2 — — — — Fair value hedges of assets: Pay-fixed interest rate swaps — — 1 — Basis amortization on terminated hedges 2 — — — — Total derivatives designated as hedging instruments $ ( 183 ) $ ( 11 ) $ — $ — Nine Months Ended September 30, 2022 (In millions) Effective portion of derivative gain/(loss) deferred in AOCI Amount of gain/(loss) reclassified from AOCI into income Interest on fair value hedges Hedge ineffectiveness/AOCI reclass due to missed forecast Cash flow hedges of floating-rate assets: 1 Purchased interest rate floors $ — $ 2 $ — $ — Interest rate swaps ( 427 ) 7 — $ — Fair value hedges of liabiliti Receive-fixed interest rate swaps — — 2 — Basis amortization on terminated hedges 2, 3 — — 1 — Fair value hedges of assets: Pay-fixed interest rate swaps — — ( 1 ) $ — Basis amortization on terminated hedges 2, 3 — — — $ — Total derivatives designated as hedging instruments $ ( 427 ) $ 9 $ 2 $ — 1 For the 12 months following September 30, 2023, we estimate that $ 133 million of losses will be reclassified from AOCI into interest income, compared with an estimate of $ 173 million of losses at September 30, 2022. 2 At September 30, 2023, the total cumulative unamortized basis adjustment for terminated fair value hedges of debt was $ 48 million. We did no t have any cumulative unamortized basis adjustment for terminated hedges of debt at September 30, 2022. We had $ 3 million and $ 10 million of cumulative unamortized basis adjustments from terminated fair value hedges of assets at September 30, 2023 and 2022, respectively. 72 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The amount of gains (losses) recognized from derivatives not designated as accounting hedges is summarized as follows: Other Noninterest Income/(Expense) (In millions) Three Months Ended September 30, 2023 Nine Months Ended September 30, 2023 Three Months Ended September 30, 2022 Nine Months Ended September 30, 2022 Derivatives not designated as hedging instruments: Customer-facing interest rate derivatives $ 11 $ 22 $ 11 $ 42 Other interest rate derivatives 1 4 — — Foreign exchange derivatives 8 22 8 21 Purchased credit derivatives — ( 1 ) — — Total derivatives not designated as hedging instruments $ 20 $ 47 $ 19 $ 63 The following schedule presents derivatives used in fair value hedge accounting relationships, as well as pre-tax gains/(losses) recorded on such derivatives and the related hedged items for the periods presented. Gain/(loss) recorded in income Three Months Ended September 30, 2023 Three Months Ended September 30, 2022 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ — $ — $ — $ ( 25 ) $ 25 $ — Assets: Pay-fixed interest rate swaps 1, 2 144 ( 145 ) ( 1 ) 67 ( 67 ) — Gain/(loss) recorded in income Nine Months Ended September 30, 2023 Nine Months Ended September 30, 2022 (In millions) Derivatives 2 Hedged items Total income statement impact Derivatives 2 Hedged items Total income statement impact Deb Receive-fixed interest rate swaps 1, 2 $ 14 $ ( 14 ) $ — $ ( 75 ) $ 75 $ — Assets: Pay-fixed interest rate swaps 1, 2 171 ( 172 ) ( 1 ) 217 ( 217 ) — 1 Consists of hedges of benchmark interest rate risk of fixed-rate long-term debt, fixed-rate AFS securities, and fixed-rate commercial loans. Gains and losses were recorded in net interest expense or income consistent with the hedged items. 2 The income/expense for derivatives does not reflect interest income/expense from periodic accruals and payments to be consistent with the presentation of the gains/(losses) on the hedged items. The following schedule provides information regarding basis adjustments for hedged items. Par value of hedged assets/(liabilities) Carrying amount of the hedged assets/(liabilities) 1 Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged item (In millions) September 30, 2023 December 31, 2022 September 30, 2023 December 31, 2022 September 30, 2023 December 31, 2022 Long-term fixed-rate debt 2 $ — $ ( 500 ) $ — $ ( 435 ) $ — $ 65 Fixed-rate assets 3 12,550 1,228 12,176 962 ( 374 ) ( 266 ) 1 Carrying amounts exclude (1) issuance and purchase discounts or premiums, (2) unamortized issuance and acquisition costs, and (3) amounts related to terminated fair value hedges. 2 We terminated the remaining fair value hedge of debt during the second quarter of 2023. The remaining hedge basis adjustments will be amortized over the life of the associated debt. 3 These amounts include the amortized cost basis of defined portfolios of AFS securities and commercial loans used to designate hedging relationships in which the hedged item is the stated amount of assets in the defined portfolio anticipated to be outstanding for the designated hedged period. At September 30, 2023, the amortized cost basis of the defined portfolios used in these hedging relationships was $ 11.5 billion; the cumulative basis adjustment associated with these hedging relationships was $ 103.9 million; and the notional amounts of the designated hedging instruments were $ 3.5 billion. 73 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES 8 . LEASES We have operating and finance leases for branches, corporate offices, and data centers. At September 30, 2023, we had 409 branches, of which 277 are owned and 132 are leased. We lease our headquarters in Salt Lake City, Utah. The remaining maturities of our lease commitments range from the year 2023 to 2062 , and some lease arrangements include options to extend or terminate the leases. All leases with lease terms greater than twelve months are reported as a lease liability with a corresponding right-of-use (“ROU”) asset. We present ROU assets for operating leases and finance leases on the consolidated balance sheet in “ Other assets ,” and “ Premises, equipment and software, net ,” respectively. The corresponding liabilities for those leases are presented in “ Other liabilities ,” and “ Long-term debt .” For more information about our lease policies, see Note 8 of our 2022 Form 10-K. The following schedule presents ROU assets and lease liabilities with associated weighted average remaining life and discount rate. (Dollar amounts in millions) September 30, 2023 December 31, 2022 Operating leases ROU assets, net of amortization $ 170 $ 173 Lease liabilities 197 198 Finance leases ROU assets, net of amortization 3 4 Lease liabilities 4 4 Weighted average remaining lease term (years) Operating leases 8.4 8.4 Finance leases 16.7 17.4 Weighted average discount rate Operating leases 3.2 % 2.9 % Finance leases 3.1 % 3.1 % Additional information related to lease expense is presented in the following schedule. Three Months Ended September 30, Nine Months Ended September 30, (In millions) 2023 2022 2023 2022 Lease expense: Operating lease expense $ 11 $ 11 $ 32 $ 35 Other expenses associated with operating leases 1 16 13 46 38 Total lease expense $ 27 $ 24 $ 78 $ 73 Related cash disbursements from operating leases $ 11 $ 12 $ 36 $ 37 1 Other expenses primarily include property taxes and building and property maintenance. The following schedule presents the total contractual undiscounted lease payments for operating lease liabilities by expected due date for each of the next five years. (In millions) Total undiscounted lease payments 2023 1 $ 12 2024 43 2025 34 2026 29 2027 21 Thereafter 91 Total $ 230 1 Contractual maturities for the three months remaining in 2023. 74 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES We enter into certain lease agreements where we are the lessor of real estate. Real estate leases are made from bank-owned and subleased property to generate cash flow from the property, including from leasing vacant suites in which we occupy portions of the building. Operating lease income was $ 3 million for both the third quarter of 2023 and 2022, and $ 11 million and $ 10 million for the first nine months of 2023 and 2022, respectively. We originated equipment leases, considered to be sales-type leases or direct financing leases, totaling $ 374 million and $ 386 million at September 30, 2023 and December 31, 2022, respectively. We recorded income of $ 4 million a nd $ 3 million on these leases for the third quarter of 2023 and 2022, respectively, and $ 12 million and $ 9 million for the first nine months of 2023 and 2022, respectively. 9. LONG-TERM DEBT AND SHAREHOLDERS’ EQUITY Long-Term Debt The long-term debt carrying values presented in the consolidated balance sheet represent the par value of the debt, adjusted for any unamortized premium or discount, unamortized debt issuance costs, and basis adjustments for interest rate swaps designated as fair value hedges. The following schedule presents the components of our long-term debt. LONG-TERM DEBT (In millions) September 30, 2023 December 31, 2022 Subordinated notes 1 $ 536 $ 519 Senior notes — 128 Finance lease obligations 4 4 Total $ 540 $ 651 1 The change in the subordinated notes balance is primarily due to a fair value hedge accounting adjustment. See also Note 7. The decrease in long-term debt was primarily due to the redemption of $ 128 million, 4.50 % matured senior notes during the second quarter of 2023. Shareholders' Equity Our common stock is traded on the National Association of Securities Dealers Automated Quotations (“NASDAQ”) Global Select Market. At September 30, 2023, there were 148.1 million shares of $ 0.001 par value common stock outstanding. Common stock and additional paid-in capital decreased $ 28 million, or 2 %, to $ 1.7 billion at September 30, 2023, from December 31, 2022, primarily due to common stock repurchases during the first quarter of 2023. As the macroeconomic environment remained uncertain, we did not repurchase common shares during the second or third quarters of 2023, nor do we expect to repurchase common shares during the fourth quarter of 2023. AOCI was a $ 3.0 billion loss at September 30, 2023. The following schedule presents the changes in AOCI by major component. 75 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES (In millions) Net unrealized gains/(losses) on investment securities Net unrealized gains/(losses) on derivatives and other Pension and post-retirement Total Nine Months Ended September 30, 2023 Balance at December 31, 2022 $ ( 2,800 ) $ ( 311 ) $ ( 1 ) $ ( 3,112 ) OCI (loss) before reclassifications, net of tax 1 ( 11 ) 16 — 5 Amounts reclassified from AOCI, net of tax — 99 — 99 Other comprehensive income (loss) ( 11 ) 115 — 104 Balance at September 30, 2023 $ ( 2,811 ) $ ( 196 ) $ ( 1 ) $ ( 3,008 ) Income tax expense (benefit) included in OCI (loss) $ ( 4 ) $ 38 $ — $ 34 Nine Months Ended September 30, 2022 Balance at December 31, 2021 $ ( 78 ) $ — $ ( 2 ) $ ( 80 ) OCI (loss) before reclassifications, net of tax ( 2,729 ) ( 324 ) — ( 3,053 ) Amounts reclassified from AOCI, net of tax — ( 7 ) — ( 7 ) Other comprehensive loss ( 2,729 ) ( 331 ) — ( 3,060 ) Balance at September 30, 2022 $ ( 2,807 ) $ ( 331 ) $ ( 2 ) $ ( 3,140 ) Income tax benefit included in OCI (loss) $ ( 884 ) $ ( 107 ) $ — $ ( 991 ) 1 For the nine months ended September 30, 2023, the amounts include $ 169 million related to the decline in the fair value of fixed-rate AFS securities as a result of higher interest rates, offset by $ 158 million in unrealized loss amortization associated with the securities transferred from AFS to HTM during the fourth quarter of 2022, respectively. Amounts reclassified from AOCI 1 Statement of income (SI) (In millions) Three Months Ended September 30, Nine Months Ended September 30, Details about AOCI components 2023 2022 2023 2022 Affected line item Net unrealized gains (losses) on derivative instruments $ ( 42 ) $ ( 11 ) $ ( 131 ) $ 9 SI Interest and fees on loans L Income tax expense (benefit) ( 10 ) ( 3 ) ( 32 ) 2 Amounts reclassified from AOCI $ ( 32 ) $ ( 8 ) $ ( 99 ) $ 7 1 Positive reclassification amounts indicate increases to earnings in the income statement. 10. COMMITMENTS, GUARANTEES, AND CONTINGENT LIABILITIES Commitments and Guarantees The following schedule presents the contractual amounts related to off-balance sheet financial instruments used to meet the financing needs of our customers. (In millions) September 30, 2023 December 31, 2022 Unfunded lending commitments 1 $ 29,693 $ 29,628 Standby letters of cr Financial 549 667 Performance 180 184 Commercial letters of credit 20 11 Mortgage-backed security purchase agreements 2 59 23 Total unfunded commitments $ 30,501 $ 30,513 1 Net of participations. 2 Represents agreements with Farmer Mac to purchase securities backed by certain agricultural mortgage loans. For more information about these commitments and guarantees including their terms and collateral requirements, see Note 16 of our 2022 Form 10-K. 76 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Legal Matters We are involved in various legal proceedings or governmental inquiries, which may include litigation in court and arbitral proceedings, as well as investigations, examinations, and other actions brought or considered by governmental and self-regulatory agencies. Litigation may relate to lending, deposit and other customer relationships, vendor and contractual issues, employee matters, intellectual property matters, personal injuries and torts, regulatory and legal compliance, and other matters. While most matters relate to individual claims, we are also subject to putative class action claims and similar broader claims. Proceedings, investigations, examinations, and other actions brought or considered by governmental and self-regulatory agencies may relate to our banking, investment advisory, trust, securities, and other products and services; our customers’ involvement in money laundering, fraud, securities violations and other illicit activities or our policies and practices relating to such customer activities; and our compliance with the broad range of banking, securities and other laws and regulations applicable to us. At any given time, we may be in the process of responding to subpoenas, requests for documents, data and testimony relating to such matters and engaging in discussions to resolve the matters. At September 30, 2023, we were subject to the following material litigati • Two civil cases, Lifescan Inc. and Johnson & Johnson Health Care Services v. Jeffrey Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in December 2017, and Roche Diagnostics and Roche Diabetes Care Inc. v. Jeffrey C. Smith, et. al. , brought against us in the United States District Court for the District of New Jersey in March 2019. In these cases, certain manufacturers and distributors of medical products seek to hold us liable for allegedly fraudulent practices of a borrower of the Bank who filed for bankruptcy protection in 2017. The cases are in discovery phases. Trial has not been scheduled in either case. • Sipple v. Zions Bancorporation, N.A., brought against us in the District Court of Clark County, Nevada in February 2021 with respect to foreign transaction fees. This case is in the discovery phase and trial has been scheduled for late spring 2024. At least quarterly, we review outstanding and new legal matters, utilizing then available information. In accordance with applicable accounting guidance, if we determine that a loss from a matter is probable and the amount of the loss can be reasonably estimated, we establish an accrual for the loss. In the absence of such a determination, no accrual is made. Once established, accruals are adjusted to reflect developments relating to the matters. In our review, we also assess whether we can determine the range of reasonably possible losses for significant matters in which we are unable to determine that the likelihood of a loss is remote. Because of the difficulty of predicting the outcome of legal matters, discussed subsequently, we are able to meaningfully estimate such a range only for a limited number of matters. Based on information available at September 30, 2023, we estimated that the aggregate range of reasonably possible losses for those matters to be from zero to approximately $ 5 million in excess of amounts accrued. The matters underlying the estimated range will change from time to time, and actual results may vary significantly from this estimate. Those matters for which a meaningful estimate is not possible are not included within this estimated range and, therefore, this estimated range does not represent our maximum loss exposure. Based on our current knowledge, we believe that our current estimated liability for litigation and other legal actions and claims, reflected in our accruals and determined in accordance with applicable accounting guidance, is adequate and that liabilities in excess of the amounts currently accrued, if any, arising from litigation and other legal actions and claims for which an estimate as previously described is possible, will not have a material impact on our financial condition, results of operations, or cash flows. However, in light of the significant uncertainties involved in these matters, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to our financial condition, results of operations, or cash flows for any given reporting period. Any estimate or determination relating to the future resolution of litigation, arbitration, governmental or self-regulatory examinations, investigations or actions or similar matters is inherently uncertain and involves significant 77 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES judgment. This is particularly true in the early stages of a legal matter, when legal issues and facts have not been well articulated, reviewed, analyzed, and vetted through discovery, preparation for trial or hearings, substantive and productive mediation or settlement discussions, or other actions. It is also particularly true with respect to class action and similar claims involving multiple defendants, matters with complex procedural requirements or substantive issues or novel legal theories, and examinations, investigations and other actions conducted or brought by governmental and self-regulatory agencies, in which the normal adjudicative process is not applicable. Accordingly, we usually are unable to determine whether a favorable or unfavorable outcome is remote, reasonably likely, or probable, or to estimate the amount or range of a probable or reasonably likely loss, until relatively late in the course of a legal matter, sometimes not until a number of years have elapsed. Accordingly, our judgments and estimates relating to claims will change from time to time in light of developments and actual outcomes will differ from our estimates. These differences may be material. 11. REVENUE RECOGNITION We derive our revenue primarily from interest income on loans and securities, which represented approximately 82 % of our total revenue in the third quarter of 2023. Only noninterest income is considered to be revenue from contracts with customers in scope of ASC 606. For more information about our revenue recognition from contracts, see Note 17 of our 2022 Form 10-K. 78 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Disaggregation of Revenue The schedule below presents net revenue by our operating business segments for the three months ended September 30, 2023 and 2022. Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 14 $ 13 $ 8 $ 7 $ 14 $ 12 Card fees 13 14 5 5 8 8 Retail and business banking fees 5 5 3 3 3 4 Capital markets fees — — — — — — Wealth management fees 7 5 1 1 4 4 Other customer-related fees 2 2 2 2 2 2 Total noninterest income from contracts with customers (ASC 606) 41 39 19 18 31 30 Other noninterest income (non-ASC 606 customer-related) 6 4 7 9 12 11 Total customer-related noninterest income 47 43 26 27 43 41 Other noncustomer-related noninterest income 2 1 2 1 3 — Total noninterest income 49 44 28 28 46 41 Net interest income 167 197 143 154 107 137 Total net revenue $ 216 $ 241 $ 171 $ 182 $ 153 $ 178 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 2 $ 2 $ 3 $ 3 $ 2 $ 2 Card fees 4 4 4 4 3 2 Retail and business banking fees 2 2 3 3 1 1 Capital markets fees — — — — — — Wealth management fees 1 1 1 1 — — Other customer-related fees — — — — 1 1 Total noninterest income from contracts with customers (ASC 606) 9 9 11 11 7 6 Other noninterest income (non-ASC 606 customer-related) 1 2 1 1 1 2 Total customer-related noninterest income 10 11 12 12 8 8 Other noncustomer-related noninterest income — 1 — — — — Total noninterest income 10 12 12 12 8 8 Net interest income 66 64 46 50 36 41 Total net revenue $ 76 $ 76 $ 58 $ 62 $ 44 $ 49 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 1 $ 1 $ ( 1 ) $ — $ 43 $ 40 Card fees 1 — ( 1 ) 1 37 38 Retail and business banking fees — — — ( 1 ) 17 17 Capital markets fees — — 1 1 1 1 Wealth management fees — — — — 14 12 Other customer-related fees — — 7 8 14 15 Total noninterest income from contracts with customers (ASC 606) 2 1 6 9 126 123 Other noninterest income (non-ASC 606 customer-related) — 1 3 3 31 33 Total customer-related noninterest income 2 2 9 12 157 156 Other noncustomer-related noninterest income — — 16 6 23 9 Total noninterest income 2 2 25 18 180 165 Net interest income 15 17 5 3 585 663 Total net revenue $ 17 $ 19 $ 30 $ 21 $ 765 $ 828 79 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The schedule below presents net revenue by our operating business segments for the nine months ended September 30, 2023 and 2022. Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 42 $ 40 $ 24 $ 21 $ 42 $ 33 Card fees 39 41 15 15 24 24 Retail and business banking fees 14 17 8 10 10 12 Capital markets fees — — — — — — Wealth management fees 19 17 3 3 13 12 Other customer-related fees 6 6 6 4 5 5 Total noninterest income from contracts with customers (ASC 606) 120 121 56 53 94 86 Other noninterest income (non-ASC 606 customer-related) 19 15 26 23 29 33 Total customer-related noninterest income 139 136 82 76 123 119 Other noncustomer-related noninterest income 9 3 5 3 20 — Total noninterest income 148 139 87 79 143 119 Net interest income 530 523 454 425 346 369 Total net revenue $ 678 $ 662 $ 541 $ 504 $ 489 $ 488 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 7 $ 7 $ 9 $ 8 $ 5 $ 6 Card fees 11 11 12 11 7 7 Retail and business banking fees 6 7 7 8 3 3 Capital markets fees — — — — — — Wealth management fees 3 2 4 4 1 1 Other customer-related fees 1 1 1 1 3 2 Total noninterest income from contracts with customers (ASC 606) 28 28 33 32 19 19 Other noninterest income (non-ASC 606 customer-related) 2 4 1 5 2 5 Total customer-related noninterest income 30 32 34 37 21 24 Other noncustomer-related noninterest income 1 2 — — — — Total noninterest income 31 34 34 37 21 24 Net interest income 194 170 145 126 115 109 Total net revenue $ 225 $ 204 $ 179 $ 163 $ 136 $ 133 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 Commercial account fees $ 2 $ 1 $ — $ 2 $ 131 $ 118 Card fees 1 1 1 — 110 110 Retail and business banking fees — — 1 ( 1 ) 49 56 Capital markets fees — — 2 3 2 3 Wealth management fees — — ( 2 ) — 41 39 Other customer-related fees 1 1 22 25 45 45 Total noninterest income from contracts with customers (ASC 606) 4 3 24 29 378 371 Other noninterest income (non-ASC 606 customer-related) 1 2 12 3 92 90 Total customer-related noninterest income 5 5 36 32 470 461 Other noncustomer-related noninterest income — — 24 10 59 18 Total noninterest income 5 5 60 42 529 479 Net interest income 46 46 25 32 1,855 1,800 Total net revenue $ 51 $ 51 $ 85 $ 74 $ 2,384 $ 2,279 80 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES Revenue from contracts with customers did not generate significant contract assets and liabilities. Contract receivables are included in “Other assets” on the consolidated balance sheet. Payment terms vary by services offered, and the timing between completion of performance obligations and payment is generally not significant. 12. INCOME TAXES The effective income tax rate was 23.2 % for the third quarter of 2023, compared with 21.9 % for the third quarter of 2022. The effective tax rates for the first nine months of 2023 and 2022 were 24.7 % and 21.4 %, respectively. The tax rates during both periods were reduced by nontaxable municipal interest income and nontaxable income from certain bank-owned life insurance (“BOLI”), and were increased by the non-deductibility of Federal Deposit Insurance Corporation (“FDIC”) premiums, certain executive compensation plans, and other fringe benefits. The tax rate for the first nine months of 2023 was higher relative to the same prior year period, primarily as a result of a discrete item that affected the reserve for uncertain tax positions during the first quarter of 2023 . At both September 30, 2023 and December 31, 2022, we had a net deferred tax asset (“DTA”) totaling $ 1.1 billion. On the consolidated balance sheet, the net DTA is included in “Other assets.” We evaluate DTAs on a regular basis to determine whether a valuation allowance is required. In conducting this evaluation, we consider all available evidence, both positive and negative, based on the more-likely-than-not criteria that such assets will be realized. This evaluation includes, but is not limited to, the followin • Future reversals of existing deferred tax liabilities (“DTLs”) — These DTLs have a reversal pattern generally consistent with DTAs and are used to realize the DTAs. • Tax planning strategies — We have considered prudent and feasible tax planning strategies that we would implement to preserve the value of the DTAs, if necessary. • Future projected taxable income — We expect future taxable income will offset the reversal of remaining net DTAs. Based on this evaluation, we concluded that a valuation allowance was not required at both September 30, 2023 and December 31, 2022. 13. NET EARNINGS PER COMMON SHARE Basic and diluted net earnings per common share based on the weighted average outstanding shares are summarized as follows: Three Months Ended September 30, Nine Months Ended September 30, (In millions, except shares and per share amounts) 2023 2022 2023 2022 Basic: Net income $ 175 $ 217 $ 554 $ 623 Less common and preferred dividends 68 68 206 199 Undistributed earnings 107 149 348 424 Less undistributed earnings applicable to nonvested shares 1 1 3 4 Undistributed earnings applicable to common shares 106 148 345 420 Distributed earnings applicable to common shares 61 61 182 176 Total earnings applicable to common shares $ 167 $ 209 $ 527 $ 596 Weighted average common shares outstanding (in thousands) 147,648 149,628 147,784 150,510 Net earnings per common share $ 1.13 $ 1.40 $ 3.57 $ 3.96 Dilut Total earnings applicable to common shares $ 167 $ 209 $ 527 $ 596 Weighted average common shares outstanding (in thousands) 147,648 149,628 147,784 150,510 Dilutive effect of stock options (in thousands) 5 164 10 256 Weighted average diluted common shares outstanding (in thousands) 147,653 149,792 147,794 150,766 Net earnings per common share $ 1.13 $ 1.40 $ 3.57 $ 3.96 81 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents the weighted average stock awards that were anti-dilutive and not included in the calculation of diluted earnings per sh Three Months Ended September 30, Nine Months Ended September 30, (In thousands) 2023 2022 2023 2022 Restricted stock and restricted stock units 1,398 1,245 1,385 1,274 Stock options 1,441 305 1,401 170 14. OPERATING SEGMENT INFORMATION We manage our operations with a primary focus on geographic area. We conduct our operations primarily through seven separately managed affiliate banks, each with its own local branding and management team, including Zions Bank, California Bank & Trust, Amegy Bank, National Bank of Arizona, Nevada State Bank, Vectra Bank Colorado, and The Commerce Bank of Washington. These affiliate banks comprise our primary business segments. Performance assessment and resource allocation are based upon this geographic structure. Our affiliate banks are supported by an enterprise operating segment (referred to as the “Other” segment) that provides governance and risk management, allocates capital, establishes strategic objectives, and includes centralized technology, back-office functions, and certain lines of business not operated through our affiliate banks. We allocate the cost of centrally provided services to the business segments based upon estimated or actual usage of those services. We also allocate capital based on the risk-weighted assets held at each business segment. We use an internal funds transfer pricing (“FTP”) allocation process to report results of operations for business segments. This process is subject to change and refinement over time. Total average loans and deposits presented for the business segments include insignificant intercompany amounts between business segments and may also include deposits with the “Other” segment. At September 30, 2023, Zions Bank operated 95 branches in Utah, 25 branches in Idaho, and one branch in Wyoming. CB&T operated 75 branches in California. Amegy operated 75 branches in Texas. NBAZ operated 56 branches in Arizona. NSB operated 45 branches in Nevada. Vectra operated 33 branches in Colorado and one branch in New Mexico. TCBW operated two branches in Washington and one branch in Oregon. Transactions between business segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. The following schedule presents average loans, average deposits, and income before income taxes because we use these metrics when evaluating performance and making decisions pertaining to the business segments. The condensed statement of income identifies the components of income and expense which affect the operating amounts presented in the “Other” segment. 82 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the three months ended September 30, 2023 and 2022: Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 167 $ 197 $ 143 $ 154 $ 107 $ 137 Provision for credit losses 1 35 24 19 7 15 Net interest income after provision for credit losses 166 162 119 135 100 122 Noninterest income 49 44 28 28 46 41 Noninterest expense 130 125 91 86 93 90 Income (loss) before income taxes $ 85 $ 81 $ 56 $ 77 $ 53 $ 73 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 14,382 $ 13,448 $ 14,195 $ 13,100 $ 12,892 $ 12,176 Total average deposits 20,041 23,634 14,335 16,096 13,997 15,531 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 66 $ 64 $ 46 $ 50 $ 36 $ 41 Provision for credit losses 3 — 7 1 ( 1 ) 2 Net interest income after provision for credit losses 63 64 39 49 37 39 Noninterest income 10 12 12 12 8 8 Noninterest expense 44 44 40 39 32 31 Income (loss) before income taxes $ 29 $ 32 $ 11 $ 22 $ 13 $ 16 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 5,364 $ 4,913 $ 3,420 $ 3,052 $ 4,011 $ 3,722 Total average deposits 7,002 8,090 7,059 7,479 3,463 4,100 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 15 $ 17 $ 5 $ 3 $ 585 $ 663 Provision for credit losses 2 — ( 2 ) ( 1 ) 41 71 Net interest income after provision for credit losses 13 17 7 4 544 592 Noninterest income 2 2 25 18 180 165 Noninterest expense 6 6 60 58 496 479 Income (loss) before income taxes $ 9 $ 13 $ ( 28 ) $ ( 36 ) $ 228 $ 278 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,697 $ 1,633 $ 1,007 $ 909 $ 56,968 $ 52,953 Total average deposits 1,138 1,585 8,608 948 75,643 77,463 83 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES The following schedule presents selected operating segment information for the nine months ended September 30, 2023 and 2022: Zions Bank CB&T Amegy (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 530 $ 523 $ 454 $ 425 $ 346 $ 369 Provision for credit losses 32 35 39 40 30 ( 7 ) Net interest income after provision for credit losses 498 488 415 385 316 376 Noninterest income 148 139 87 79 143 119 Noninterest expense 403 373 277 254 291 264 Income (loss) before income taxes $ 243 $ 254 $ 225 $ 210 $ 168 $ 231 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 14,205 $ 13,130 $ 14,122 $ 12,948 $ 12,872 $ 11,970 Total average deposits 20,058 24,920 14,103 16,407 13,055 16,062 NBAZ NSB Vectra (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 194 $ 170 $ 145 $ 126 $ 115 $ 109 Provision for credit losses 7 2 18 1 5 8 Net interest income after provision for credit losses 187 168 127 125 110 101 Noninterest income 31 34 34 37 21 24 Noninterest expense 136 125 123 113 99 90 Income (loss) before income taxes $ 82 $ 77 $ 38 $ 49 $ 32 $ 35 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 5,253 $ 4,859 $ 3,392 $ 2,929 $ 3,997 $ 3,550 Total average deposits 7,018 8,164 6,887 7,487 3,479 4,195 TCBW Other Consolidated Bank (In millions) 2023 2022 2023 2022 2023 2022 SELECTED INCOME STATEMENT DATA Net interest income $ 46 $ 46 $ 25 $ 32 $ 1,855 $ 1,800 Provision for credit losses 4 — ( 3 ) — 132 79 Net interest income after provision for credit losses 42 46 28 32 1,723 1,721 Noninterest income 5 5 60 42 529 479 Noninterest expense 18 18 169 170 1,516 1,407 Income (loss) before income taxes $ 29 $ 33 $ ( 81 ) $ ( 96 ) $ 736 $ 793 SELECTED AVERAGE BALANCE SHEET DATA Total average loans $ 1,699 $ 1,601 $ 1,063 $ 910 $ 56,603 $ 51,897 Total average deposits 1,206 1,571 6,030 1,164 71,836 79,970 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Our most significant risks include interest rate and market risk, which are closely monitored by management as previously discussed. For more information regarding interest rate and market risk, see the “Interest Rate and Market Risk Management” section in this Form 10-Q. 84 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 4. CONTROLS AND PROCEDURES Our management, including our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures at September 30, 2023. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at September 30, 2023. There were no changes in our internal control over financial reporting during the third quarter of 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The information contained in Note 10 of the Notes to Consolidated Financial Statements is incorporated by reference herein. ITEM 1A. RISK FACTORS We amend the following risk factors as discussed in Part I, Item 1A. Risk Factors in our 2022 Form 10-K and as previously amended and supplemented in Part II, Item 1A. Risk Factors in our 2023 Form 10-Qs: Changes in levels and sources of liquidity and capital, including the resulting effects of recent events in the banking industry, may limit our operations and potential growth. Our primary source of liquidity is deposits from our customers, which may be impacted by market-related forces such as increased competition for these deposits and a variety of other factors. Deposits across the banking industry have been fluctuating in recent quarters in large part due to the increased interest rate environment and prominent bank failures. We, like many other banks, experienced deposit outflows as customers spread deposits among several different banks to maximize their amount of FDIC insurance, moved deposits to institutions offering higher rates or banks deemed “too big to fail,” or removed deposits from the U.S. financial system entirely. Although our deposit levels have stabilized during recent quarters, our cost of funds has increased, and the potential for greater volatility remains, particularly if there is more negative news surrounding the banking industry or perceived risks regarding bank safety and soundness. Our costs will also increase as a result of the FDIC’s special assessment to recover the costs associated with protecting uninsured depositors following the bank closures that occurred earlier in 2023. If we are unable to continue to fund assets through customer bank deposits or access other funding sources on favorable terms, or if we suffer continued increases in borrowing costs or FDIC insurance assessments, or otherwise fail to manage liquidity effectively, our liquidity, operating margins, financial condition, and results of operations may be materially and adversely affected. The Federal Reserve's tightened monetary policy may contribute to a decline in the value of our fixed-rate loans and investment securities that are pledged as collateral to support short-term borrowings, and other economic conditions may also affect our liquidity and efforts to manage associated risks. The FHLB system and Federal Reserve have been, and continue to be, a significant source of additional liquidity and funding. Changes in FHLB funding programs could adversely affect our liquidity and management of associated risks. Problems encountered by other financial institutions could adversely affect financial markets generally and have indirect adverse effects on us. The soundness and stability of many financial institutions may be closely interrelated as a result of credit, trading, clearing, or other relationships between the institutions. As a result, concerns about, or a default or threatened default by, one institution could lead to significant market-wide liquidity and credit problems, losses, or defaults by other institutions. This is sometimes referred to as “systemic risk” and may adversely affect financial intermediaries, such as clearing agencies, clearing houses, banks, securities firms, and exchanges, with which we interact on a daily basis, and therefore, could adversely affect us. This phenomenon has been evident in the recent events affecting the banking industry, as financial institutions, like us, have been impacted by concerns regarding the soundness or creditworthiness of other financial institutions or reports of the risk of systemic deterioration in asset classes, such 85 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES as commercial real estate. This has caused substantial and cascading disruption within the financial markets, increased expenses, and adversely impacted the market price and volatility of our common stock. The Russian invasion of Ukraine, the escalating conflict in the Middle East, other geopolitical conflicts, and retaliatory measures imposed by the U.S. and other countries, including the responses to such measures, may cause significant disruptions to domestic and foreign economies and markets. The Russia/Ukraine war and the rapidly escalating conflict in the Middle East, along with other geopolitical conflicts, have created new risks for global markets, trade, economic conditions, cybersecurity, and similar concerns. For example, these conflicts could affect the availability and price of commodities and products, adversely affecting supply chains and increasing inflationary pressures; the value of currencies, interest rates, and other components of financial markets; and lead to increased risks of events such as cyberattacks that could result in severe costs and disruptions to governmental entities and companies and their operations. The impact of these conflicts and retaliatory measures is continually evolving and cannot be predicted with certainty. It is likely that these conflicts will continue to affect the global political order and global and domestic markets for a substantial period of time, regardless of when these conflicts end. While these events have not materially interrupted our operations, these or future developments resulting from these conflicts, such as cyberattacks on the U.S., the Bank, our customers, or our suppliers, could make it difficult to conduct business. Protracted congressional negotiations and political stalemates in Washington D.C. regarding government funding and other issues may introduce additional volatility in the U.S. economy including capital and credit markets and the banking industry in particular. The current continuing resolution that provides short-term appropriations to fund the U.S. government expires on November 17, 2023. Democrat and Republican lawmakers are at a stalemate and efforts to pass spending bills for long-term government funding have been complicated, increasing the risk of a government shutdown. Any such shutdown may result in further U.S. credit rating downgrades or defaults, and may introduce additional volatility in the U.S. economy, including capital and credit markets and the banking industry in particular; cause disruptions in the financial markets; impact interest rates; and result in other potential unforeseen consequences. In any such event, the Bank’s liquidity, operating margins, financial condition, and results of operations may be materially and adversely affected. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS None. ITEM 5. OTHER INFORMATION None of our directors or officers have adopted , modified, or terminated a Rule 10b5-1(c) trading arrangement during the quarter ended September 30, 2023. Our directors and officers participate in certain of our benefits plans such as our Omnibus Incentive Plan and Payshelter 401(k) and Employee Stock Ownership Plan, and may from time to time make elections to have shares withheld to cover withholding taxes or pay the exercise price of options granted thereunder, which elections may be designed to satisfy the affirmative defense conditions of Rule 10b5-1 under the Exchange Act or may constitute non-Rule 10b5-1 trading arrangements as defined in Item 408(c) of Regulation S-K. 86 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES ITEM 6. EXHIBITS a. Exhibits Exhibit Number Description 3.1 Second Amended and Restated Articles of Association of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.1 of Form 8-K filed on October 2, 2018. * 3.2 Second Amended and Restated Bylaws of Zions Bancorporation, National Association, incorporated by reference to Exhibit 3.2 of Form 8-K filed on April 4, 2019. * 31.1 Certification by Chief Executive Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 31.2 Certification by Chief Financial Officer required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934 (filed herewith). 32 Certification by Chief Executive Officer and Chief Financial Officer required by Sections 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934 (15 U.S.C. 78m) and 18 U.S.C. Section 1350 (furnished herewith). 101 Pursuant to Rules 405 and 406 of Regulation S-T, the following information is formatted in Inline XBRL (i) the Consolidated Balance Sheets as of September 30, 2023 and December 31, 2022, (ii) the Consolidated Statements of Income for the three months ended September 30, 2023 and September 30, 2022 and the nine months ended September 30, 2023 and September 30, 2022, (iii) the Consolidated Statements of Comprehensive Income for the three months ended September 30, 2023 and September 30, 2022 and the nine months ended September 30, 2023 and September 30, 2022, (iv) the Consolidated Statements of Changes in Shareholders’ Equity for the three months ended September 30, 2023 and September 30, 2022 and the nine months ended September 30, 2023 and September 30, 2022, (v) the Consolidated Statements of Cash Flows for the nine months ended September 30, 2023 and September 30, 2022, and (vi) the Notes to Consolidated Financial Statements (filed herewith). 104 The cover page from this Quarterly Report on Form 10-Q, formatted as Inline XBRL. * Incorporated by reference Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, copies of certain instruments defining the rights of holders of long-term debt are not filed. We agree to furnish a copy thereof to the Securities and Exchange Commission and the Office of the Comptroller of the Currency upon request. 87 Table of Contents ZIONS BANCORPORATION, NATIONAL ASSOCIATION AND SUBSIDIARIES SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZIONS BANCORPORATION, NATIONAL ASSOCIATION /s/ Harris H. Simmons Harris H. Simmons, Chairman and Chief Executive Officer /s/ Paul E. Burdiss Paul E. Burdiss, Executive Vice President and Chief Financial Officer Date: November 3, 2023 88 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, DC 20549 FORM 10-K ☒ ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31 , 2021 OR ☐ TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _______ to _______ Commission File Number 001-33038 Alaunos Therapeutics, Inc. (Exact Name of Registrant as Specified in Its Charter) Delaware 84-1475642 (State or Other Jurisdiction of Incorporation or Organization) (IRS Employer Identification No.) 8030 El Rio Street Houston , TX 77054 (Address of Principal Executive Offices) (Zip Code) ( 346 ) 355-4099 (Registrant’s Telephone Number, Including Area Code) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name of each exchange on which registered Common Stock TCRT The Nasdaq Stock Market LLC Securities registered pursuant to Section 12(g) of the Ac None Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☐ No ☑ Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes ☐ No ☑ Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☑ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☑ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer,” “accelerate filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one): Large Accelerated Filer ☐ Accelerated Filer ☐ Non- Accelerated Filer ☑ Smaller Reporting Company ☑ Emerging Growth Company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ☐ No ☑ The aggregate market value of the registrant’s common stock held by non-affiliates was $ 543,706,424 as of June 30, 2021 (the last business day of the registrant’s most recently completed second fiscal quarter), based on a total of 205,949,403 shares of common stock held by non-affiliates and a closing price of $2.64 as reported on the Nasdaq Global Select on June 30, 2021. For purposes of this computation, all officers, directors, and 10% beneficial owners of the registrant are deemed to be affiliates. Such determination should not be deemed to be an admission that such officers, directors or 10% beneficial owners are, in fact, affiliates of the registrant. As of March 21, 2022, there were 216,127,443 shares of the registrant’s common stock, $0.001 par value per share, outstanding. 1 Table of Contents Alaunos Therapeutics, Inc. ANNUAL REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 31, 2021 TAB LE OF CO NTENTS Page PART I Item 1. Business 6 Item 1A. Risk Factors 23 Item 1B. Unresolved Staff Comments 50 Item 2. Properties 50 Item 3. Legal Proceedings 51 Item 4. Mine Safety Disclosures 51 PART II Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 52 Item 6. [Reserved] 52 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 53 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 62 Item 8. Financial Statements and Supplementary Data 62 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures 63 Item 9A. Controls and Procedures 63 Item 9B. Other Information 64 Item 9C Disclosure Regarding Foreign Jurisdictions that Prevent Inspections 64 PART III Item 10. Directors, Executive Officers and Corporate Governance 65 Item 11. Executive Compensation 70 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 78 Item 13. Certain Relationships and Related Transactions, and Director Independence 80 Item 14. Principal Accountant Fees and Services 84 PART IV Item 15. Exhibits and Financial Statement Schedules 85 Item 16. Form 10-K Summary 88 Signatures 89 Financial Statements F- 1 2 Table of Contents Special Note Regarding Forward-Looking Statements This Annual Report on Form 10-K, or Annual Report, contains forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995, as amended. Forward-looking statements are all statements contained in this Annual Report that are not historical fact, and in some cases can be identified by terms such as: “anticipate,” “believe,” “estimate,” “expect,” “forecast,” “intend,” “may,” “plan,” “project,” “target,” “will” and other words and terms of similar meaning. These statements are based on management’s current beliefs and assumptions and on information currently available to management. These statements involve risks, uncertainties and other factors that may cause actual results, levels of activity, performance or achievements to be materially different from the information expressed or implied by these forward-looking statements. Although we believe that the expectations reflected in such forward-looking statements are reasonable, we caution you that these statements are based on a combination of facts and factors currently known by us and our projections of the future, about which we cannot be certain. Forward-looking statements in this Annual Report include, but are not limited to, statements ab • our ability to raise substantial additional capital to fund our planned operations and repay our existing indebtedness; • estimates regarding our expenses, use of cash, timing of future cash needs and anticipated capital requirements; • the development of our product candidates, including statements regarding the initiation, timing, progress and results of our preclinical studies, clinical trials and research and development programs; • our ability to advance our product candidates through various stages of development, especially through pivotal safety and efficacy trials; • the risk that final trial data may not support interim analysis of the viability of our product candidates; • our expectation regarding the safety and efficacy of our product candidates; • the timing, scope or likelihood of regulatory filings and approvals from the U.S. Food and Drug Administration, or FDA, or equivalent foreign regulatory agencies for our product candidates and for which indications; • our ability to license additional intellectual property relating to our product candidates from third parties and to comply with our existing license agreements; • our ability to enter into partnerships or strategic collaboration agreements and our ability to achieve the results and potential benefits contemplated from relationships with collaborators; • our ability to maintain and establish collaborations and licenses; • our expectation of developments and projections relating to competition from other pharmaceutical and biotechnology companies or our industry; • our estimates regarding the potential market opportunity for our product candidates; • the anticipated rate and degree of commercial scope and potential, as well as market acceptance of our product candidates for any indication, if approved; • the anticipated amount, timing and accounting of contract liability (formerly deferred revenue), milestones and other payments under licensing, collaboration or acquisition agreements, research and development costs and other expenses; • our intellectual property position, including the strength and enforceability of our intellectual property rights; • our ability to attract and retain qualified employees and key personnel; • our expectations regarding the impact of the COVID-19 pandemic, including the expected duration of disruption to key clinical trial activities, limitations on travel, quarantine and social distancing protocols, diversion of healthcare resources away from the conduct of or clinical trials, and other immediate and long-term impact and effect on our business and operations. Any forward-looking statements in this Annual Report on Form 10-K reflect our current views with respect to future events or to our future financial performance and involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by these forward-looking statements. Factors that may cause actual results to differ materially from current expectations include, among other things, those described under Part I, Item 1A, “Risk Factors” and elsewhere in this Annual Report on Form 10-K. Given these uncertainties, you should not place undue reliance on these forward-looking statements. Except as required by law, we assume no obligation to update or revise these forward-looking statements for any reason, even if new information becomes available in the future. 3 Table of Contents Unless the context requires otherwise, references in this Annual Report to “Alaunos,” the “Company,” “we,” “us,” “our,” “Ziopharm Oncology, Inc.,” or “Ziopharm” refer to Alaunos Therapeutics, Inc., and its subsidiaries. We own or have rights to trademarks, service marks and trade names that we use in connection with the operation of our business, including our corporate name, logos and website names. We own the trademarks Alaunos™, Ziopharm® and hunTR™ as well as the graphic trademark found on our website. Other trademarks, service marks and trade names appearing in this Annual Report on Form 10-K are the property of their respective owners. Solely for convenience, some of the trademarks, service marks and trade names referred to in this Annual Report on Form 10-K are listed without the ® and ™ symbols, but we will assert, to the fullest extent under applicable law, our rights to our trademarks, service marks and trade names. 4 Table of Contents SUMMARY OF SELECTED RISKS ASSOCIATED WITH OUR BUSINESS Our business faces significant risks and uncertainties. If any of the following risks are realized, our business, financial condition and results of operations could be materially and adversely affected. You should carefully review and consider the full discussion of our risk factors in the section titled “Risk Factors” in Part I, Item 1A of this Annual Report. Some of the more significant risks include the followin • We will require substantial additional financial resources to continue ongoing development of our product candidates and pursue our business objectives; if we are unable to obtain these additional resources when needed, we may be forced to delay or discontinue our planned operations, including clinical testing of our product candidates. • Our plans to develop and commercialize non-viral adoptive cellular therapies based on T-cell receptor, or TCR, therapies can be considered as new approaches to cancer treatment, the successful development of which is subject to significant challenges. • Our current product candidates are based on novel technologies and are supported by limited clinical data and we cannot assure you that our current and planned clinical trials will produce data that supports regulatory approval of one or more of these product candidates. • We will need to attract, recruit and hire qualified personnel and we will continue to rely on key scientific and medical advisors, and their knowledge of our business and technical expertise would be difficult to replace. • Our existing indebtedness, together with our other financial obligations and contractual commitments, could adversely affect our financial condition and restrict our future operations. For instance, if we fail to achieve certain clinical milestones or equity raise requirements we will be required to deposit a significant amount of cash into an account to be held as collateral. • If we are unable to obtain the necessary United States or worldwide regulatory approvals to commercialize any product candidate, our business will suffer. • Our product candidates are in various stages of clinical trials, which are very expensive and time-consuming. We cannot be certain when we will be able to submit a Biologics License Application, or BLA, to the FDA and any failure or delay in completing clinical trials for our product candidates could harm our business. • Our cell-based and gene therapy immuno-oncology product candidates rely on the availability of reagents, specialized equipment, and other specialty materials and infrastructure, which may not be available to us on acceptable terms or at all. For some of these reagents, equipment, and materials, we rely or may rely on sole source vendors or a limited number of vendors, which could impair our ability to manufacture and supply our products. • If we are unable either to create sales, marketing and distribution capabilities or enter into agreements with third parties to perform these functions, we will be unable to commercialize our product candidates successfully. • Our immuno-oncology product candidates may face competition in the future from biosimilars. • If we or our licensors fail to adequately protect or enforce our intellectual property rights or secure rights to patents of others, the value of our intellectual property rights would diminish and our ability to successfully commercialize our products may be impaired. • Our stock price has been, and may continue to be, volatile. • We previously identified a material weakness in our internal control over financial reporting for the quarter ended June 30, 2021, which we believe has been fully remediated. If we have inadequately remediated this material weakness, or we otherwise fail to develop, implement and maintain an effective system of internal controls in future periods, our ability to report our financial condition or results of operations could be adversely affected and may result in material misstatements of our financial statements or could have a material adverse effect on our business and trading price of our securities. • Our business, operations and clinical development plans and timelines could be adversely affected by the effects of health epidemics, including the COVID-19 pandemic, on the manufacturing, clinical trial and other business activities performed by us or by third parties with whom we conduct business, including our clinical research organizations, or CROs, shippers and others. 5 Table of Contents PART I Item 1. Business Overview We are a clinical-stage oncology-focused cell therapy company developing adoptive TCR engineered T-cell therapies, or TCR-T, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. We are leveraging our novel cancer mutation hotspot TCR library and our proprietary, non-viral Sleeping Beauty genetic engineering technology to design and manufacture patient-specific cell therapies that target neoantigens arising from common tumor-related mutations in key oncogenic genes, including KRAS , TP53 and EGFR . In collaboration with The University of Texas MD Anderson Cancer Center, or MD Anderson, we are currently enrolling patients for a Phase 1/2 clinical trial evaluating ten TCRs reactive to mutated KRAS , TP53 and EGFR from our TCR library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers, which we refer to as our TCR-T Library Phase 1/2 Trial. We anticipate treating our first patient in this trial in the second quarter of 2022 and reporting interim data in the second half of 2022. In the United States, solid tumors represent approximately 90% of new cancer diagnoses. Approximately 1.9 million people are expected to be diagnosed with cancer in the United States in 2022 and approximately 609,000 people are expected to die from cancer in the United States in 2022. Some of the cancers we are targeting in our TCR-T Library Phase 1/2 Trial are expected to be among the most prevalent cancers diagnosed in the United States in 2022. In 2022, it is estimated that 236,740 people will be diagnosed with lung and bronchus cancer, 151,030 will be diagnosed with colorectal cancer, 65,950 people will be diagnosed with endometrial cancer, 62,210 people will be diagnosed with pancreatic cancer, 19,880 people will be diagnosed with ovarian cancer and approximately 7,400 people will be diagnosed with bile duct cancer. Mutations of the KRAS , TP53 and EGFR genes are commonly expressed across a wide variety of cancers. The table below sets forth our multiple solid tumor pipeline programs. Our TCR-T program targeting solid tumors consists o • TCR Library : We have built a TCR library that targets shared hotspot mutations known to be one of the key causes of cancer. These are non-inherited mutations. We have in-licensed from the National Cancer Institute, or the NCI, multiple TCRs derived from third parties that are reactive to mutated KRAS , TP53 and EGFR . Our TCR library currently consists of ten TCRs targeting six solid tumor indications. • Sleeping Beauty Genetic Engineering Technology : Our proprietary non-viral genetic engineering technology utilizes a particular enzyme referred to as a transposase to cut and paste donor DNA referred to as a transposon into chromosomes of a T cell using a process called transposition. • hunTR ™ ( hu man n eoantigen T cell R eceptor) Discovery Engine : Our robust and innovative TCR discovery engine enables us to rapidly identify new TCRs to add to our ever-expanding TCR library. Using our hunTR discovery engine, we are able to analyze thousands of single T cells simultaneously using state-of-the-art bioinformatics and next generation sequencing. We aim to maximize the breadth of our TCR library by evaluating both helper and killer T cells. The ability to continue discovering new TCRs has the potential to expand the applicable patient population for our ongoing and future clinical trials. We believe our TCR-T program has several potential advantages over other cell therapy approaches for solid tumors, including CAR-T and tumor-infiltrating lymphocytes, or TIL. As compared to CAR-T, these potential advantages include that our TCR-T program targets intracellular and extracellular neoantigens whereas CAR-T only targets extracellular antigens. As compared to TIL, these potential advantages include that our TCR-T program has defined target specificity from the genetic engineering employed in manufacturing whereas in TIL there is no further genetic engineering employed. 6 Table of Contents Background on TCRs Our strategy is to target the hallmark of genomic instability in cancer with TCRs. Genes in cancer cells can lead to the production of proteins, which are then processed by the cell into protein fragments known as peptides. These peptides are presented to T cells by a specialized set of molecules on the cancer cell surface called the human leukocyte antigen, or HLA, system. When peptide presentation occurs, and it results in T cell activation through the TCR, the peptides are known as antigens. When these immunogenic peptides are derived from proteins which are in turn expressed from genes that are mutated only in tumor cells (for example, within the cancer genome and not encoded in the germline), they are known as neoantigens. Tumor cells presenting neoantigens via HLA are targets for T cells. T cells can recognize and kill neoantigen-presenting cancer cells. This approach is different from CARs, which directly recognize antigens, such as CD19, such as on the surface of malignant B cells, without the need for presentation by HLA. In general, the immune system avoids targeting the body’s own healthy cells principally through processes known as immune tolerance by which T cells do not respond to HLA containing peptides from normal proteins. The recognition by the TCR of a peptide presented by the HLA system is a vital immune mechanism that allows the body both to respond against foreign threats, including cancer, as well as to avoid targeting the body’s own healthy cells. Tumors utilize a variety of strategies to evade and suppress the host immune system. This often renders T cells residing within the tumor, referred to as TILs, ineffective and, despite expressing tumor-specific TCRs, unable to recycle their effector functions to kill tumors. To overcome immune suppression, healthier T cells are likely needed, such as those found in the peripheral blood. However, these circulating T cells do not typically express tumor-specific TCRs in adequate numbers. Neoantigens are encoded by tumor-specific mutated genes that are often unique to each patient. Targeting these neoantigens requires TCRs that are generated on a patient-by-patient basis. During cancer initiation and progression, tumor cells acquire mutations in naturally occurring genes that are responsible for transformation, known as driver mutations. Some of these driver mutations occur in common places called hotspots and are a class of mutations shared between tumor types and between individuals. Since driver mutations can be anticipated, it is possible to prepare TCRs in advance of a patient’s need and form a library of banked TCRs. Our Approach to Targeting Neoantigens We believe that to be successful in treating solid tumors, genetically modified T cells targeting one or more neoantigens will likely need to address the fact that (1) among a population of patients, not all tumors express the targeted neoantigen, referred to as inter-tumor heterogeneity, and (2) within a single patient, not all tumor cells express the targeted antigen, referred to as intra-tumor heterogeneity. Inter-tumor heterogeneity limits the number of recipients that are eligible to receive a treatment and intra-tumor heterogeneity creates the risk of antigen-escape variants, increasing the likelihood of cancer relapse. As a result, we believe companies developing T cell therapies targeting neoantigens must address both inter- and intra-tumor heterogeneity. We genetically modify peripheral blood-derived T cells to express TCRs with specificity to tumor-derived antigens, especially neoantigens, and propagate them to sufficient numbers prior to administration. We aim to overcome the key challenges of targeting neoantigens by using DNA plasmids to reprogram T cells to express introduced TCRs on a patient-by-patient basis. This is designed to help address tumor heterogeneity. Our TCR-T cells contain multiple different subsets of T cells, including effector and memory T cells. The effector T cells are associated with immediate anti-tumor activity. Memory T cells have greater growth potential relative to the effector T cells. Some of our TCR-T cells are T memory stem cells, which have been described to have the largest capacity for growth and renewal relative to other T-cell populations. 7 Table of Contents Our Process The diagram below illustrates our manufacturing process for our current product candidates. Our Library TCR-T approach focuses on what we believe to be the most critical and prevalent tumor-specific targets in cancer. These target mutations, called hotspots, are prevalent in genes including KRAS, TP53 and EGFR, which can be found in non-small cell lung, colorectal, endometrial, pancreatic, ovarian, and bile duct cancers in several different HLA alleles. These driver genes play a key role in regulating cell division, maturation and death, and mutations in these genes have been observed to play a critical role in the development of certain cancers. The advantage of our Library TCR-T approach is that subsets of patients with solid tumors may be rapidly treated by screening them for targeted neoantigens (e.g., KRAS , TP53 and EGFR ), identifying patient HLA, and matching these results to the TCRs in the library. Patients with a variety of different cancers (e.g., non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers) can be screened for a match to our growing TCR library through tumor sequencing and identification of the patient’s tumor mutation and HLA typing. Once a match to our TCR library is confirmed, a portion of the patient’s white blood cells is collected through a peripheral blood leukapheresis and sent to our own cGMP manufacturing facility in Houston, Texas. Once the desired pre-manufactured TCR transposon is selected from our TCR library, we utilize our proprietary non-viral Sleeping Beauty genetic engineering technology to modify the patient’s T cells (both CD4+ and CD8+). We use T cells from peripheral blood, which have a younger and healthier phenotype relative to tumor-resident T cells, to generate our TCR-T cells. Given the product phenotype, we believe these modified TCR-T cells will persist in the recipient following infusion. We have observed in preclinical studies that genetic engineering of T cells by our Sleeping Beauty technology resulted in the rapid and stable expression of the introduced neoantigen-specific TCR. The genetically modified T cells expressing high levels of the TCR are expanded to produce the patient-specific, or autologous, TCR-T cell product. The product candidate is then harvested from the manufacturing process, transferred to the hospital facility, and infused in the patient. Benefits of Our Sleeping Beauty Genetic Engineering Technology Our Sleeping Beauty genetic engineering technology provides several benefits, including those described below. • Scalability and Reduction in Complexity . The Sleeping Beauty technology is a straightforward means to manufacture a large number of autologous T-cell products. The technology requires only the synthesis of DNA plasmids as the starting material for genetic engineering of the T cells. In contrast, traditional viral gene transfer is more complex and requires specialized manufacturing of each viral vector(s) of interest. Production of the viral vector starts with the generation of plasmid DNA with the transgene of interest. This plasmid is then introduced into a packaging cell line and viruses are secreted into the media over a couple of days. This process is inherently more complex to scale with the numbers of cells and associated media required relative to Sleeping Beauty, which only requires the plasmid DNA. Genetic modification of the patient cells using the Sleeping Beauty technology is accomplished through electroporation with the DNA plasmids and subsequent culture, selection and growth of the T cells to large numbers using traditional manufacturing techniques. This simple process can be scaled through addition of manufacturing lines. • Customizable Therapies . We believe our Sleeping Beauty platform provides us with the ability to manufacture more customizable therapies. The platform enables a library of TCRs to be assembled and used in cells to recognize diverse mutations within shared neoantigens and address a multitude of HLA types. We believe this can enable both our current Library TCR-T approach against shared cancer targets as well as personalized TCR therapies against unique, and potentially multiple, personal neoantigens. • Potential Clinical Benefits . We believe the anti-tumor immune response generated by our TCR-T cells has the potential to last as long as the TCR-T cells persist and proliferate following the recognition of the neoantigen on the tumor cell surface. This may lead to durable and progressively greater clinical regression in patients. In CAR-T cell products generated in human cells, Sleeping Beauty transposons have been observed to integrate in a close-to-random distribution at thymine-adenine, or TA, dinucleotide sites, which increases the likelihood 8 Table of Contents of insertion in a genomic safe harbor, thereby making them less likely to cause off-target effects when compared to other transposons and viral gene delivery methods. We also believe that including membrane-bound interleukin-15, or mbIL-15, in TCR-T cells can provide additional benefits. In particular, we have observed that T cells modified to express mbIL-15 as well as a TCR show increased potential for stemness corresponding with an ability to persist longer after infusion. • Technology can accommodate large transgene size . Plasmids manufactured using our Sleeping Beauty technology have a sufficiently large payload size which allows for genetic engineering of both the TCR as well as insertion of a gene encoding for the expression of cytokines, including IL-15. This facilitates uniformly high co-expression of both the TCR and cytokine on a single integrated gene. Pre-Clinical and Clinical Development Pre-clinical Development of our TCR-T Product Candidates We have independently evaluated all licensed TCRs using our Sleeping Beauty technology. Candidate TCRs for clinical translation were selected based on conventional in vitro immunological measurements. We have presented these data at the 2021 American Association for Cancer Research (AACR) and Society for Immunotherapy of Cancer (SITC) annual meetings. We selected the TCRs based on their ability to express on the T cell surface and then specifically recognize the mutated target without also targeting healthy cells. For those TCRs that are destined for killer T cells, our pre-clinical data suggested that TCR-T cells can kill the appropriate tumor cell lines expressing the target neoantigen. In our pre-clinical studies we observed TCR-T cells killed significantly more tumor cells when matched with the corresponding HLA and neoantigen relative to mismatched tumor cells and relative to mismatched T cells not expressing the relevant neoantigen-specific TCR. Selected library TCRs have also been co-expressed with mbIL-15 on T cells. This was accomplished with the transfer of a single transposon to deliver three independent genes (TCRalpha, TCRbeta, mbIL-15) to the T cell. We optimized the orientation order of the three genes and the growth conditions specific for the generation of mbIL-15 TCR-T cells. Using similar standard immunologic readouts described above, the mbIL-15 TCR-T cells were observed to display a similar specificity and potency profile to conventional TCR-T cells. We observed increased in vitro survival of mbIL-15 TCR-T cells in the absence of all added support relative to TCR-T cells, especially in the T memory stem cell populations. We have filed an international patent application around this technology and are working towards presenting preclinical data from this program at a major scientific conference in 2022 and filing a related Investigational New Drug Application, or IND, in 2023. TCR-T Library Phase 1/2 Clinical Trial In February 2021, we received FDA clearance for our company-sponsored IND to initiate a Phase 1/2 open-label, dose-escalation trial which is initially being conducted at MD Anderson. In January 2022, after screening patients, we opened enrollment in our TCR-T Library Phase 1/2 Trial and expect to enroll up to 180 adults. We will only enroll patients who have a matched HLA and hotspot mutation that is targeted by one of the TCRs from our TCR library, who have progressive or recurrent solid tumors and who have failed at least one prior line of standard therapy. The trial will evaluate our ten library TCRs targeting neoantigens arising from KRAS , TP53 and EGFR mutations in patients across a broad range of solid tumors that include non-small cell lung, colorectal, endometrial, pancreatic, ovarian, and bile duct cancers, all in a single trial. We anticipate using our hunTR discovery engine to add new TCRs to our library and clinical program as they are qualified by our laboratory. The patients will be enrolled in cohorts according to their cancer and at three separate dose levels. The Phase 1 primary endpoint is to define dose limiting toxicity or the recommended maximum tolerated dose for a subsequent clinical trial. The primary endpoints for the Phase 2 portion of the trial are to determine the objective response rate and otherwise evaluate safety and tolerability. We are also monitoring TCR-T cell persistence and multiple conventional immune monitoring assays in the clinical trial to evaluate this phenomenon in patients. We expect to dose the first patient in the second quarter of 2022 and to provide an interim data update in the second half of 2022. IL-12 Program As we announced in May 2021, we are winding down our existing Controlled IL-12 clinical program for the treatment of recurrent glioblastoma multiforme. We are actively seeking a partner for continued development of this program. Manufacturing In an effort to control costs, and given our internal expertise, we made the strategic decision to focus the manufacturing of our TCR-T cell product candidates in our own facility rather than utilize a third-party contract manufacturer. During 2021, we completed the construction, commissioning and validation of our cGMP facility in Houston, Texas. The facility is staffed by Alaunos personnel and is fully operational for manufacturing TCR T-cells genetically modified with our Sleeping Beauty gene transfer platform for our early-stage clinical trials. We continue to rely on third parties for the production of the DNA plasmids used in manufacturing our product candidates. Our Library TCR-T approach allows us to streamline the T cell manufacturing process by pre-manufacturing DNA plasmids corresponding to each of our qualified library TCRs. These TCRs are then utilized in the manufacturing for the patient-specific, autologous TCR-T product candidates. Our in-house TCR-T manufacturing facility also allows us to integrate our research and development capabilities, potentially reducing the time from discovery to treating patients in a clinical trial. This integration is designed to minimize delays and reduce risks that can be encountered in drug development, including the failure of third parties to successfully produce the desired product, long technology transfer periods and long lead times for orders. 9 Table of Contents We seek continuous improvement in our manufacturing and release workflow through process and analytical development. Our processes will continue to be optimized to increase efficiencies, incorporate new technologies and reduce time to treatment for the patient. Intellectual Property Our goal is to obtain, maintain, and enforce patent and trade secret protection for our product candidates, formulations, processes, methods, and other proprietary technologies. We strive to preserve our trade secrets and other confidential information and to operate without infringing the proprietary rights of other parties. Our policy is to actively seek the strongest possible intellectual property protection for our technology and product candidates through a combination of license agreements and owned patents, both in the United States and abroad. Owned Patents As of December 31, 2021, we have four families of pending patent applications that cover our TCR-T library, products, and processes. We do not currently own any granted patents. Patent terms extend for varying periods according to the date of patent filing or grant and the legal patent terms in the various countries where patent protection is obtained. The actual protection offering by a patent, which can vary from country to country, depends on the type of patent, the scope of its coverage, the issued claims and the availability of legal remedies in the country. Pursuant to the Drug Price Competition and Patent Term Restoration Act of 1984, referred to as the Hatch-Waxman Amendments, some of our patents, under certain conditions, may be eligible for limited patent term extension for a period of up to five years as compensation for patent term lost during drug development and the FDA regulatory review process. However, this extension period cannot be extended beyond 14 years from the drug’s approval date. The patent term restoration period is generally one-half the period of time elapsed between the effective date of an IND application or the issue date of the patent, whichever is later. The submission date of a New Drug Application, or NDA, plus the period of time between the submission date of the NDA or the issue date of the patent, whichever is later, and FDA approval. The United States Patent and Trademark Office, or USPTO, in consultation with the FDA, reviews and approves applications for any patent term extension or restoration. We intend to seek the benefits of this statute, but there can be no assurance that we will be able to obtain any such benefits. We also depend upon the skills, knowledge, and experience of our scientific and technical employees, as well as those of our advisors, consultants, and other contractors, none of which may be patentable. To help protect unpatentable proprietary know-how, and for inventions for which patents may be difficult to enforce, we currently rely, and in the future, will continue to rely, on trade secret protection and confidentiality agreements to protect our interests. To this end, we generally require employees, consultants, advisors and other contractors to enter into confidentiality agreements that prohibit the disclosure of confidential information and, where applicable, require disclosure and assignment to us of the ideas, developments, discoveries and inventions important to our business. Our patent position and proprietary rights are subject to certain risks and uncertainties. Please read the “ Risk Related to Our Intellectual Property ” section for further information about certain risks and uncertainties that may affect our patent position and proprietary rights. License Agreements Exclusive License Agreement with PGEN Therapeutics On October 5, 2018, we entered into an exclusive license agreement, or License Agreement, with PGEN Therapeutics, or PGEN, a wholly owned subsidiary of Precigen Inc., or Precigen, which was formerly known as Intrexon Corporation. As between us and PGEN, the terms of the License Agreement replace and supersede the terms o (a) that certain Exclusive Channel Partner Agreement by and between us and Precigen, dated January 6, 2011, as amended by the First Amendment to Exclusive Channel Partner Agreement effective September 13, 2011, the Second Amendment to the Exclusive Channel Partner Agreement effective March 27, 2015, and the Third Amendment to Exclusive Channel Partner Agreement effective June 29, 2016, which was subsequently assigned by Precigen to PGEN; (b) certain rights and obligations pursuant to that certain License and Collaboration Agreement effective March 27, 2015 between us, Precigen and ARES TRADING S.A., or Ares Trading, a subsidiary of Merck KGaA, or Merck, as assigned by Precigen to PGEN, or the Ares Trading Agreement; (c) that certain License Agreement between us, Precigen, and MD Anderson, with an effective date of January 13, 2015, or the MD Anderson License, which was subsequently assigned by Precigen and assumed by PGEN effective as of January 1, 2018; and (d) that certain research and development agreement between us, Precigen and MD Anderson with an effective date of August 17, 2015, or the 2015 R&D Agreement, and any amendments or statements of work thereto. Pursuant to the terms of the License Agreement, we have exclusive, worldwide rights to research, develop and commercialize (i) TCR products designed for neoantigens for the treatment of cancer, (ii) products utilizing Precigen’s RheoSwitch® gene switch, or RTS, for the treatment of cancer, referred to as IL-12 Products and (iii) CAR products directed to (A) CD19 for the treatment of cancer, referred to as CD19 Products, and (B) BCMA for the treatment of cancer, subject to certain obligations to pursue such target under the Ares Trading Agreement. Under the License Agreement, we also have exclusive, worldwide rights for certain patents relating to the Sleeping Beauty technology to research, develop and commercialize TCR products for both neoantigens and shared antigens for the treatment of cancer, referred to as TCR Products. We are solely responsible for all aspects of the research, development and commercialization of the exclusively licensed products for the treatment of cancer. We are required to use commercially reasonable efforts, as defined in the License Agreement, to develop and commercialize IL-12 products, CD19 products and TCR Products. 10 Table of Contents In consideration of the licenses and other rights granted by PGEN, we will pay PGEN an annual license fee of $100,000 and we have agreed to reimburse PGEN for certain historical costs of the licensed programs up to $1.0 million, which was fully paid during the year ending December 31, 2019. We will make milestone payments totaling up to an additional $52.5 million for each exclusively licensed program upon the initiation of later stage clinical trials and upon the approval of exclusively licensed products in various jurisdictions. In addition, we will pay PGEN tiered royalties ranging from low-single digit to high-single digit on the net sales derived from the sales of any approved IL-12 products and CAR products. We will also pay PGEN royalties ranging from low-single digit to mid-single digit on the net sales derived from the sales of any approved TCR products, up to a maximum royalty amount of $100.0 million in the aggregate. We will also pay PGEN twenty percent of any sublicensing income received by us relating to the licensed products. We are responsible for all development costs associated with each of the licensed products. PGEN will pay us royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of PGEN’s CAR products, up to a maximum royalty amount of $100.0 million. In consideration of our entry into the License Agreement, PGEN forfeited and returned to us all shares of our Series 1 preferred stock. The transaction represented a capital transaction between related parties and the settlement was accounted for during the year ended December 31, 2018. In October 2020, we entered into an amendment to the License Agreement relating to the transfer of certain materials and PGEN’s obligations to provide transition assistance relating to the IL-12 products. License Agreement and 2015 Research and Development Agreement-The University of Texas MD Anderson Cancer Center On January 13, 2015, we, together with Precigen, entered into the MD Anderson License with MD Anderson (which Precigen subsequently assigned to PGEN). Pursuant to the MD Anderson License, we, together with PGEN, hold an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR T-cell therapies, non-viral gene transfer systems, genetic modification and/or propagation of immune cells and other cellular therapy approaches, Natural Killer, or NK Cells, and TCRs, arising from the laboratory of Laurence Cooper, M.D., Ph.D. Dr. Cooper served as our Chief Executive Officer from May 2015 until February 2021 and was formerly a tenured professor of pediatrics at MD Anderson. On August 17, 2015, the Company, Precigen and MD Anderson entered into the 2015 R&D Agreement to formalize the scope and process for the transfer by MD Anderson, pursuant to the terms of the MD Anderson License, of certain existing research programs and related technology rights, as well as the terms and conditions for future collaborative research and development of new and ongoing research programs. The rights and obligations of Precigen under the 2015 R&D Agreement were assigned to us pursuant to the Fourth Amendment to the 2015 R&D Agreement which was entered into on September 19, 2019 (the “Fourth Amendment”) with an effective date of October 5, 2018. The activities under the 2015 R&D Agreement are directed by a joint steering committee comprised of two members from our company and one member from MD Anderson. As provided under the MD Anderson License, we provided funding for research and development activities in support of the research programs under the 2015 R&D Agreement for a period of three years and in an amount of no less than $15.0 million and no greater than $20.0 million per year. On November 14, 2017, we entered into an amendment to the 2015 R&D Agreement extending its term until April 15, 2021 and on October 22, 2019, we entered into another amendment to the 2015 R&D Agreement extending its term until December 31, 2026. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder, or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term of the MD Anderson License, we, together with Precigen, shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After ten years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if we and Precigen are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if we and Precigen are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by us and Precigen, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both us and Precigen and may be terminated by the mutual written agreement of us, Precigen, and MD Anderson. In connection with the execution of the 2019 R&D Agreement described below, on October 22, 2019, we amended the 2015 R&D Agreement to extend the term of the 2015 R&D Agreement until December 31, 2026 and to allow cash resources on hand at MD Anderson under the 2015 R&D Agreement to be used for development costs under the 2019 R&D Agreement. 2019 Research and Development Agreement-The University of Texas MD Anderson Cancer Center On October 22, 2019, we entered into the 2019 Research and Development Agreement, or the 2019 R&D Agreement, with MD Anderson pursuant to which the parties agreed to collaborate with respect to the TCR program. Under the 2019 R&D Agreement, the parties will, among 11 Table of Contents other things, collaborate on programs to expand our TCR library and conduct clinical trials. The activities under the 2019 R&D Agreement are directed by a joint steering committee comprised of two members from our company and one member from MD Anderson. We will own all inventions and intellectual property developed under the 2019 R&D Agreement and we will retain all rights to intellectual property for oncology products manufactured using non-viral gene transfer technologies under the 2019 R&D Agreement, including our Sleeping Beauty technology. We have granted MD Anderson an exclusive license for such intellectual property outside the field of oncology and to develop and commercialize TCR products manufactured using viral gene transfer technologies, and a non-exclusive license for TCR products manufactured using viral-based technologies. Under the 2019 R&D Agreement, we agreed, beginning on January 1, 2021, to reimburse MD Anderson up to a total of $20 million for development costs under the 2019 R&D Agreement, after the funds from the 2015 R&D Agreement are exhausted. In addition, we will pay MD Anderson royalties on net sales of its TCR products at rates in the low single digits. We are required to make performance-based payments upon the successful completion of clinical and regulatory benchmarks relating to its TCR products. The aggregate potential benchmark payments are $36.5 million, of which only $3.0 million will be due prior to the first marketing approval of our TCR products. The royalty rates and benchmark payments owed to MD Anderson may be reduced upon the occurrence of certain events. We also agreed to sell our TCR products to MD Anderson at preferential prices and will sell our TCR products in Texas exclusively to MD Anderson for a limited period of time following the first commercial sale of our TCR products. For the year ended December 31, 2021, we incurred expenses of $0.5 million related to this agreement. The 2019 R&D Agreement will terminate on December 31, 2026 and either party may terminate the 2019 R&D Agreement following written notice of a material breach. The 2019 R&D Agreement also contains customary provisions related to indemnification obligations, confidentiality and other matters. In connection with the execution of the 2019 R&D Agreement, on October 22, 2019, we issued MD Anderson a warrant to purchase 3,333,333 shares of our common stock, which is referred to as the MD Anderson Warrant. The MD Anderson Warrant has an initial exercise price of $0.001 per share, expires on December 31, 2026 and vests upon the occurrence of certain clinical milestones. As of December 31, 2021, none of the milestones have been met. The MD Anderson Warrant and the shares of our common stock to be issued upon exercise of the MD Anderson Warrant have not been registered under the Securities Act of 1933, as amended, and may not be offered or sold in the United States absent registration or an applicable exemption from registration requirements. License Agreement with the NCI On May 28, 2019, we entered into a patent license agreement, or the Patent License, with the NCI. Pursuant to the Patent License, we hold an exclusive, worldwide license to certain intellectual property to develop and commercialize patient-derived (autologous), peripheral blood T-cell therapy products engineered by transposon-mediated gene transfer to express TCRs reactive to mutated KRAS , TP53 and EGFR neoantigens. In addition, pursuant to the Patent License, we hold an exclusive, worldwide license to certain intellectual property for manufacturing technologies to develop and commercialize autologous, peripheral blood T-cell therapy products engineered by non-viral gene transfer to express TCRs, as well as a non-exclusive, worldwide license to certain additional manufacturing technologies. On May 29, 2019, January 8, 2020, September 28, 2020, April 16, 2021, May 4, 2021, and August 13, 2021 we amended the Patent License to expand our TCR library to include additional TCRs reactive to mutated KRAS and TP53 neoantigens licensed from the NCI. Pursuant to the terms of the Patent License, we are required to pay the NCI a cash payment in the aggregate amount of $1.5 million payable in $0.5 million installments within sixty days, six-months, and the twelve-month anniversary of the effective date of the agreement for the Patent License. We also reimbursed the NCI for past patent expenses in the aggregate amount of approximately $46,000. Under the amendment to the patent license signed in January 2020, we agreed to pay the NCI a cash payment of $600,000 within sixty days of the amendment and under the amendment to the patent license signed in September 2020, we agreed to pay the NCI a cash payment of $411,000 within sixty days of the amendment. The terms of the Patent License also require us to pay the NCI minimum annual royalties in the amount of $0.3 million, which amount will be reduced to $0.1 million once the aggregate minimum annual royalties paid by us equals $1.5 million. We are also required to make performance-based payments upon successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $4.3 million, of which aggregate payments of $3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $0.1 million will be due upon the initiation of our first sponsored Phase 1 clinical trial of a licensed product or licensed process in the field of use licensed under the Patent License. In addition, we are required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $250.0 million to $1.0 billion. The aggregate potential amount of these benchmark payments is $12.0 million. We must also pay the NCI royalties on net sales of products covered by the Patent License at rates in the low to mid-single digits depending upon the technology included in a licensed product. To the extent we enter into a sublicensing agreement relating to a licensed product, we are required to pay the NCI a percentage of all consideration received from a sublicensee, which percentage will decrease based on the stage of development of the licensed product at the time of the sublicense. 12 Table of Contents The Patent License will expire upon expiration of the last patent contained in the licensed patent rights, unless terminated earlier. The NCI may terminate or modify the Patent License in the event of a material breach, including if we do not meet certain milestones by certain dates, or upon certain insolvency events that remain uncured following the date that is 90 days following written notice of such breach or insolvency event. We may terminate the Patent License, or any portion thereof, in our sole discretion at any time upon 60 days’ written notice to the NCI. In addition, the NCI has the right t (i) require us to sublicense the rights to the product candidates covered by the Patent License upon certain conditions, including if we are not reasonably satisfying required health and safety needs and (ii) terminate or modify the Patent License, including if we are not satisfying requirements for public use as specified by federal regulations. Cooperative Research and Development Agreement with the NCI On January 9, 2017, we entered into a Cooperative Research and Development Agreement, or CRADA, with the NCI. The purpose of this collaboration was to advance a personalized TCR-T approach for the treatment of solid tumors. Using our Sleeping Beauty technology, NCI would analyze a patient’s own cancer cells, identify their unique neoantigens and TCRs reactive against those neoantigens and then use our Sleeping Beauty technology to transpose one or more TCRs into T cells for re-infusion. Research conducted under the CRADA will be at the direction of Steven A. Rosenberg, M.D., Ph.D., Chief of the Surgery Branch at the NCI, in collaboration with our researchers and PGEN researchers. We are responsible for providing NCI with the test materials necessary for them to conduct their studies, and eventually, clinical trials pursuant to the CRADA. Inventions, data and materials discovered or produced in connection with performance of the research plan under the CRADA will remain the sole property of the party who produced the discovery. The parties will jointly own all inventions jointly discovered under the research plan. The owner of any invention under the CRADA will make the decision to file a patent covering the invention, or in the case of a jointly owned invention, we will have the first opportunity to file a patent covering the invention. If we fail to provide timely notice of our decision to NCI or decide not to file a patent covering the joint invention, NCI has the right to make the filing. For any invention solely owned by NCI or jointly made by NCI and us for which a patent application was filed, the U.S. Public Health service grants us an exclusive option to elect an exclusive or non-exclusive commercialization license. For inventions owned solely by NCI or jointly owned by NCI and us, which are licensed according to the terms described above, we agreed to grant to the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world. We are also required to grant the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world for any of our solely owned inventions. The agreement may be terminated by any of the parties upon 60 days prior written consent. The NCI has a cleared IND that would permit them to begin this trial. To our knowledge, the trial has not yet enrolled due to matters internal to the NCI and unrelated to our technology. The progress and timeline for this trial, including the timeline for dosing patients, are under control of the NCI. In February 2019, we extended the CRADA with the NCI until January 9, 2022, committing an additional $5.0 million to this program. During the year ended December 31, 2020, we made payments of $2.5 million and during the year ended December 31, 2021, we paid $1.25 million, pursuant to the CRADA. For the third and fourth quarters of 2021, we were not required to make payments towards the program as agreed with the NCI. In March 2022, we entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. TCR-T Platform Licenses In January 2015, we in-licensed from MD Anderson a technology portfolio that includes intellectual property directed to certain non-viral Sleeping Beauty technologies as well as TCR-T cell therapy and bioprocessing technology. Under the terms of the agreement, we have an exclusive license to certain of the intellectual property technology, a co-exclusive license to certain of the intellectual property technology and a non-exclusive license to certain of the intellectual property technology. Our rights to the MD Anderson intellectual property flow to us via our agreement with PGEN. In May 2019, we in-licensed from NCI a patent portfolio that includes intellectual property related to our TCR-T cell library. Under the terms of the agreement, we hold an exclusive, worldwide license to certain intellectual property to develop, manufacture and commercialize patient-derived (autologous), peripheral blood T-cell therapy products engineered by transposon-mediated gene transfer to express TCRs reactive to mutated KRAS , TP53 and EGFR neoantigens. In addition, we hold an exclusive, worldwide license to certain intellectual property for manufacturing technologies to develop and commercialize autologous, peripheral blood T-cell therapy products engineered by non-viral gene transfer to express certain TCRs, as well as a non-exclusive, worldwide license to certain additional manufacturing technologies. Governmental Regulation and Product Approval As a biopharmaceutical company, we are subject to extensive regulation. Our genetically engineered T-cell product candidates are regulated as biologics. With this classification, commercial production of our products will need to occur in registered and licensed facilities in compliance with current Good Manufacturing Practices, or cGMPs, for biologics. 13 Table of Contents Human immunotherapy products are a new category of therapeutics. The FDA categorizes human cell- or tissue-based products as either minimally manipulated or more than minimally manipulated and has determined that more than minimally manipulated products require clinical trials to demonstrate product safety and efficacy and the submission of a BLA, for marketing authorization. Government authorities in the United States (at the federal, state and local level) and in other countries and jurisdictions, extensively regulate, among other things, the research, development, preclinical and clinical testing, manufacturing, quality control, labeling, packaging, storage, record-keeping, promotion, advertising, sale, distribution, post-approval monitoring and reporting, marketing and export and import of biopharmaceutical products such as those we are developing. Our product candidates must be approved by the FDA before they may be legally marketed in the United States and by the appropriate foreign regulatory agency before they may be legally marketed in foreign countries. Generally, our activities in other countries will be subject to regulation that is similar in nature and scope as that imposed in the United States, although there can be important differences. The process for obtaining regulatory marketing approvals and the subsequent compliance with applicable federal, state, local and foreign statutes and regulations require the expenditure of substantial time and financial resources. U.S. Product Development Process In the United States, the FDA regulates biological products under the Public Health Service Act, or PHSA, and the Federal Food, Drug and Cosmetic Act, or FDCA, and implementing regulations. Products are also subject to other federal, state and local statutes and regulations. The process of obtaining regulatory approvals and the subsequent compliance with appropriate federal, state, local and foreign statutes and regulations require the expenditure of substantial time and financial resources. Failure to comply with the applicable United States requirements at any time during the product development process, approval process or after approval, may subject an applicant to administrative or judicial sanctions. FDA sanctions could include, among other actions, refusal to approve pending applications, withdrawal of an approval, a clinical hold, warning letters and similar public notice of alleged non-compliance with laws, product recalls or withdrawals from the market, product seizures, total or partial suspension of production or distribution, fines, refusals of government contracts, restitution, disgorgement of profits, or civil or criminal penalties. Any agency or judicial enforcement action could have a material adverse effect on us. The process required by the FDA before a biological product may be approved for marketing in the United States generally involves the followin • completion of preclinical laboratory tests and animal studies according to Good Laboratory Practices, or GLPs, and applicable requirements for the humane use of laboratory animals or other applicable regulations; • submission to the FDA of an IND, which must become effective before human clinical trials may begin; • performance of adequate and well-controlled human clinical trials according to the FDA’s regulations commonly referred to as Good Clinical Practices, or GCPs, and any additional requirements for the protection of human research subjects and their health information, to establish the safety and efficacy of the proposed biological product for its intended use; • preparation and submission to the FDA of a BLA, for marketing approval that includes substantive evidence of safety, purity, and potency from results of nonclinical testing and clinical trials; • satisfactory completion of one or more FDA inspections of the manufacturing facility or facilities where the biological product is produced to assess compliance with cGMP to assure that the facilities, methods and controls used in product manufacture are adequate to preserve the biological product’s identity, strength, quality and purity and, if applicable, the FDA’s current Good Tissue Practices, or GTPs, for the use of human cellular and tissue products; • potential FDA audit of the nonclinical study and clinical trial sites that generated the data in support of the BLA; • payment of user fees for FDA review of the BLA; and • FDA acceptance, review and approval, or licensure, of the BLA, which might include review by an advisory committee, a panel typically consisting of independent clinicians and other experts who provide recommendations as to whether the application should be approved and under what conditions. Before testing any biological product candidate, including our product candidates, in humans, the product candidate must undergo rigorous preclinical testing. Preclinical tests, also referred to as nonclinical studies, include laboratory evaluations as well as in vitro and animal studies to assess the potential safety and efficacy of the product candidate. The clinical trial sponsor must submit an IND to the FDA before clinical testing can begin in the United States. An IND must contain the results of the preclinical tests, manufacturing information, analytical data, any available clinical data or literature, a proposed clinical protocol, an investigator’s brochure, a sample informed consent form, and other materials. Clinical trial protocols detail, among other things, the objectives of the clinical trial, dosing procedures, subject selection and exclusion criteria, and the parameters to be used to monitor subject safety, including stopping rules that assure a clinical trial will be stopped if certain adverse events should occur. Each protocol and any amendments to the protocol must be submitted to the FDA as part of the IND. Some preclinical testing, such as toxicity studies, may continue even after the IND is submitted. The IND automatically becomes effective 30 days after receipt by the FDA, unless the FDA raises concerns or questions regarding the proposed clinical trials or places the trial on a clinical hold within that 30-day time period. In such a case, the IND sponsor and the FDA must 14 Table of Contents resolve any outstanding concerns before the clinical trial can begin. The FDA may also impose clinical holds on a biological product candidate at any time before or during clinical trials due to safety concerns or non-compliance. If the FDA imposes a clinical hold, trials may not recommence without FDA authorization and then only under terms authorized by the FDA. Further, each clinical trial must be reviewed and approved by an independent institutional review board, or IRB, at or servicing each institution at which the clinical trial will be conducted. An IRB is charged with protecting the welfare and rights of trial participants and considers such items as whether the risks to individuals participating in the clinical trials are minimized and are reasonable in relation to anticipated benefits. The IRB also approves the form and content of the informed consent that must be signed by each clinical trial subject or his or her legal representative and must monitor the clinical trial until completed. Clinical trials involving recombinant or synthetic nucleic acid molecules also must be reviewed by an institutional biosafety committee, or IBC, a local institutional committee that reviews and oversees basic and clinical research conducted at that institution. The IBC assesses the safety of the research and identifies any potential risk to public health or the environment. Clinical trials involve the administration of the biological product candidate to healthy volunteers or patients under the supervision of qualified investigators, generally physicians not employed by or under the trial sponsor’s control. Clinical trials must be conducted and monitored in accordance with the FDA’s regulations comprising the GCP requirements. Human clinical trials are typically conducted in three sequential phases that may overlap or be combin • Phase 1 . The biological product is initially introduced into healthy human subjects and tested for safety. In the case of some products for severe or life-threatening diseases, especially when the product may be too inherently toxic to ethically administer to healthy volunteers, the initial human testing is often conducted in patients with the target disease or condition. • Phase 2 . The biological product is evaluated in a limited patient population to identify possible adverse effects and safety risks, to preliminarily evaluate the efficacy of the product for specific targeted diseases and to determine dosage tolerance, optimal dosage and dosing schedule. • Phase 3 . Clinical trials are undertaken to further evaluate dosage, clinical efficacy, potency, and safety in an expanded patient population, generally at geographically dispersed clinical trial sites. These clinical trials are intended to generate enough data to statistically evaluate the efficacy and safety of the product for approval, to establish the overall risk to benefit profile of the product and to provide an adequate basis for product labeling. Phase 1, Phase 2, and Phase 3 clinical trials may not be completed successfully within any specified period, if at all. Post-approval clinical trials, sometimes referred to as Phase 4 clinical trials, may be conducted after initial marketing approval. These clinical trials are used to gain additional experience from the treatment of patients in the intended therapeutic indication, particularly for long-term safety follow-up. During all phases of clinical development, regulatory agencies require extensive monitoring and auditing of all clinical activities, clinical data, and clinical trial investigators. Annual progress reports detailing the results of the clinical trials must be submitted to the FDA. Written IND safety reports must be promptly submitted to the FDA, the NIH and the investigators for serious and unexpected adverse events, any findings from other studies, tests in laboratory animals or in vitro testing that suggest a significant risk for human patients, or any clinically important increase in the rate of a serious suspected adverse reaction over that listed in the protocol or investigator brochure. The sponsor must submit an IND safety report within 15 calendar days after the sponsor determines that the information qualifies for reporting. The sponsor also must notify the FDA of any unexpected fatal or life-threatening suspected adverse reaction within seven calendar days after the sponsor’s initial receipt of the information. The FDA or the sponsor or its data safety monitoring board, an independent group of experts that evaluates study data for safety and makes recommendations concerning continuation, modification, or termination of clinical trials, may suspend or terminate a clinical trial at any time on various grounds, including a finding that the research patients are being exposed to an unacceptable health risk, including risks inferred from other unrelated immunotherapy trials. Similarly, an IRB can suspend or terminate approval of a clinical trial at its institution if the clinical trial is not being conducted in accordance with the IRB’s requirements or if the biological product has been associated with unexpected serious harm to patients. Concurrently with clinical trials, companies usually complete additional nonclinical studies and must also develop additional information about the physical characteristics of the biological product as well as finalize a process for manufacturing the product in commercial quantities in accordance with cGMP requirements. To help reduce the risk of the introduction of adventitious agents with use of biological products, the PHSA emphasizes the importance of manufacturing control for products whose attributes cannot be precisely defined. The manufacturing process must be capable of consistently producing quality batches of the product candidate and, among other things, the sponsor must develop methods for testing the identity, strength, quality, potency and purity of the final biological product. Additionally, appropriate packaging must be selected and tested, and stability studies must be conducted to demonstrate that the biological product candidate does not undergo unacceptable deterioration over its shelf life. The FDA has a fast track designation program that is intended to expedite or facilitate the process for reviewing new drug or biologic products that meet certain criteria. Specifically, new drugs or biologics are eligible for fast track designation if they are intended to treat a serious or life-threatening disease or condition and demonstrate the potential to address unmet medical needs for the disease or condition. Unique to a fast 15 Table of Contents track product, the FDA may consider for review sections of the BLA on a rolling basis before the complete application is submitted, if the sponsor provides a schedule for the submission of the sections of the BLA, the FDA agrees to accept sections of the BLA and determines that the schedule is acceptable, and the sponsor pays any required user fees upon submission of the first section of the BLA. After the completion of clinical trials of a biological product, FDA approval of a BLA must be obtained before commercial marketing of the biological product. The BLA must include results of product development, laboratory and animal studies, human trials, information on the manufacture and composition of the product, proposed labeling and other relevant information. Under the Prescription Drug User Fee Act, or PDUFA, as amended, each BLA must be accompanied by a significant user fee. The FDA adjusts the PDUFA user fees on an annual basis. PDUFA also imposes an annual program fee for approved biological products. Fee waivers or reductions are available in certain circumstances, including a waiver of the application fee for the first application filed by a small business. Additionally, no user fees are assessed on BLAs for products designated as orphan drugs, unless the product also includes a non-orphan indication. Within 60 days following submission of the application, the FDA reviews a BLA submitted to determine if it is substantially complete before the agency accepts it for filing. The FDA may refuse to file any BLA that it deems incomplete or not properly reviewable at the time of submission and may request additional information. In this event, the BLA must be resubmitted with the additional information. The resubmitted application also is subject to review before the FDA accepts it for filing. Once the submission is accepted for filing, the FDA begins an in-depth substantive review of the BLA. The FDA reviews the BLA to determine, among other things, whether the proposed product is safe, potent, and/or effective for its intended use, and has an acceptable purity profile, and whether the product is being manufactured in accordance with cGMP to assure and preserve the product’s identity, safety, strength, quality, potency and purity. The FDA may refer applications for novel biological products or biological products that present difficult questions of safety or efficacy to an advisory committee, typically a panel that includes clinicians and other experts, for review, evaluation and a recommendation as to whether the application should be approved and under what conditions. The FDA is not bound by the recommendations of an advisory committee, but it considers such recommendations carefully when making decisions. During the biological product approval process, the FDA also will determine whether a Risk Evaluation and Mitigation Strategy, or REMS, is necessary to ensure that the benefits of the product outweigh its risks and to assure the safe use of the biological product, which could include medication guides, physician communication plans, or elements to assure safe use, such as restricted distribution methods, patient registries and other risk minimization tools. FDA determines the requirement for a REMS, as well as the specific REMS provisions, on a case-by-case basis. If the FDA concludes a REMS is needed, the sponsor of the BLA must submit a proposed REMS. The FDA will not approve a BLA without a REMS, if required. Before approving a BLA, the FDA will inspect the facilities at which the product is manufactured. The FDA will not approve the product unless it determines that the manufacturing processes and facilities are in compliance with cGMP requirements and adequate to assure consistent production of the product within required specifications. For immunotherapy products, the FDA also will not approve the product if the manufacturer is not in compliance with the GTPs, to the extent applicable. These are FDA regulations and guidance documents that govern the methods used in, and the facilities and controls used for, the manufacture of human cells, tissues, and cellular and tissue-based products, or HCT/Ps, which are human cells or tissue intended for implantation, transplant, infusion, or transfer into a human recipient. The primary intent of the GTP requirements is to ensure that cell and tissue-based products are manufactured in a manner designed to prevent the introduction, transmission and spread of communicable disease. FDA GTP regulations also require tissue establishments to register and list their HCT/Ps with the FDA and, when applicable, to evaluate donors through screening and testing. Additionally, before approving a BLA, the FDA will typically inspect one or more clinical sites to assure that the clinical trials were conducted in compliance with IND trial requirements and GCP requirements. Notwithstanding the submission of relevant data and information, the FDA may ultimately decide that the BLA does not satisfy its regulatory criteria for approval. If the agency decides not to approve the BLA in its present form, the FDA will issue a Complete Response Letter, which generally outlines the specific deficiencies in the BLA identified by the FDA and may require additional clinical or other data or impose other conditions that must be met in order to secure final approval of the application. The deficiencies identified may be minor, for example, requiring labeling changes, or major, for example, requiring additional clinical trials. Even with the submission of additional information, the FDA may ultimately decide that the application does not satisfy the regulatory criteria for approval. If a Complete Response Letter is issued, the applicant may either resubmit the BLA, addressing all of the deficiencies identified in the letter, or withdraw the application. The FDA may require that certain contraindications, warnings or precautions be included in the product labeling, or otherwise limit the scope of any approval. In addition, the FDA may require post marketing clinical trials, sometimes referred to as Phase 4 clinical trials, designed to further assess a biological product’s safety and effectiveness, and testing and surveillance programs to monitor the safety of approved products that have been commercialized. After approval, many types of changes to the approved product, such as adding new indications, manufacturing changes and additional labeling claims, are subject to further testing requirements and FDA review and approval. In addition, under the Pediatric Research Equity Act, or PREA, a BLA or supplement to a BLA must contain data to assess the safety and effectiveness of the product for the claimed indications in all relevant pediatric subpopulations and to support dosing and administration for each pediatric subpopulation for which the product is safe and effective. The FDA may grant deferrals for submission of data or full or partial waivers. Post-Approval Requirements 16 Table of Contents Any products for which we receive FDA approvals are subject to continuing regulation by the FDA, including, among other things, record-keeping requirements, reporting of adverse experiences with the product, providing the FDA with updated safety and efficacy information, product sampling and distribution requirements, and complying with FDA promotion and advertising requirements. In addition, quality control and manufacturing procedures must continue to conform to applicable manufacturing requirements after approval to ensure the long-term stability of the product. We rely, and expect to continue to rely, on third parties for the production of clinical and commercial quantities of our products in accordance with cGMP regulations. cGMP regulations require among other things, quality control and quality assurance as well as the corresponding maintenance of records and documentation and the obligation to investigate and correct any deviations from cGMP. Manufacturers and other entities involved in the manufacture and distribution of approved products are required to register their establishments with the FDA and certain state agencies, and are subject to periodic unannounced inspections by the FDA and certain state agencies for compliance with cGMP and other laws. Accordingly, manufacturers must continue to expend time, money, and effort in the area of production and quality control to maintain cGMP compliance. Discovery of problems with a product after approval may result in restrictions on a product, manufacturer, or holder of an approved BLA, including, among other things, recall or withdrawal of the product from the market. The FDA also may require post-marketing testing, known as Phase 4 testing, and surveillance to monitor the effects of an approved product. Discovery of previously unknown problems with a product, including adverse events of unanticipated severity or frequency, with manufacturing processes, or the failure to comply with applicable FDA requirements can have negative consequences, including adverse publicity, judicial or administrative enforcement, complete withdrawal from the market, product recalls, warning letters from the FDA, mandated corrective advertising or communications with doctors, product seizure or detention, injunctions, and civil or criminal penalties, among others. Newly discovered or developed safety or effectiveness data may require changes to a product’s approved labeling, including the addition of new warnings and contraindications, and also may require the implementation of other risk management measures. Also, new government requirements, including those resulting from new legislation, may be established, or the FDA’s policies may change, which could delay or prevent regulatory approval of our products under development. Moreover, the FDA strictly regulates marketing, labeling, advertising and promotion of products. Drugs may be promoted only for the approved indications and in accordance with the provisions of the approved label, although physicians, in the practice of medicine, may prescribe approved drugs for unapproved indications. However, companies may share truthful and not misleading information that is otherwise consistent with the labeling. The FDA and other agencies actively enforce the laws and regulations prohibiting the promotion of off-label uses, and a company that is found to have improperly promoted off-label uses may be subject to significant liability. U.S. Marketing Exclusivity The Biologics Price Competition and Innovation Act, or BPCIA, amended the PHSA to authorize the FDA to approve similar versions of innovative biologics, commonly known as biosimilars. Biosimilars are approved pursuant to an abbreviated pathway whereby applicants need not submit the full slate of preclinical and clinical data, and approval is based in part on the FDA’s findings of safety, purity, and potency for the original biologic (i.e., the reference product). Reference products are eligible to receive 12 years of exclusivity from the time of first licensure of the product, which prevents the FDA from approving any biosimilars to the reference product through the abbreviated pathway, but does not prevent approval of BLAs that are accompanied by a full data package and that do not rely on the reference product. A biosimilar may be approved if the product is highly similar to the reference product notwithstanding minor differences in clinically inactive components and there are no clinically meaningful differences with the reference product in terms of the safety, purity, and potency. Pediatric exclusivity is another type of regulatory market exclusivity in the United States. Pediatric exclusivity, if granted, adds six months to existing exclusivity periods and patent terms. This six-month exclusivity, which runs from the end of other exclusivity protection or patent term, may be granted based on the voluntary completion of a pediatric trial in accordance with an FDA-issued “Written Request” for such a trial. Orphan Drug Designation Under the Orphan Drug Act, the FDA may grant orphan designation to a drug or biologic intended to treat a rare disease or condition, which is a disease or condition that affects fewer than 200,000 individuals in the United States or, if it affects more than 200,000 individuals in the United States, there is no reasonable expectation that the cost of developing and making a drug or biologic product available in the United States for this type of disease or condition will be recovered from sales of the product. Orphan designation must be requested before submitting a marketing application. After the FDA grants orphan designation, the identity of the therapeutic agent and its potential orphan use are disclosed publicly by the FDA. Orphan designation does not convey any advantage in or shorten the duration of the regulatory review and approval process. If a product that has orphan designation subsequently receives the first FDA approval for the disease or condition for which it has such designation, the product is entitled to orphan product exclusivity, which means that the FDA may not approve any other applications to market the same drug or biological product for the same indication for seven years, except in limited circumstances, such as a showing of clinical superiority to the product with orphan exclusivity or inability to manufacture the product in sufficient quantities. The designation of such drug also entitles a party to financial incentives such as opportunities for grant funding towards clinical trial costs, tax advantages and user fee waivers. Competitors, however, may receive approval of different products for the indication for which the orphan product has exclusivity or 17 Table of Contents obtain approval for the same product but for a different indication for which the orphan product has exclusivity. Orphan exclusivity also could block the approval of one of our products for seven years if a competitor obtains approval of the same product as defined by the FDA or if our product candidate is determined to be contained within the competitor’s product for the same indication or disease. If an orphan designated product receives marketing approval for an indication broader than what is designated, it may not be entitled to orphan exclusivity. Orphan drug status in the European Union, or EU, has similar but not identical benefits in that jurisdiction. Coverage, Pricing and Reimbursement Significant uncertainty exists as to the coverage and reimbursement status of any product candidates for which we obtain regulatory approval. In the United States and markets in other countries, sales of any products for which we receive regulatory approval for commercial sale will depend, in significant part, on the extent to which third-party payors provide coverage, and establish adequate reimbursement levels for such products. In the United States, third-party payors include federal and state healthcare programs, private managed care providers, health insurers and other organizations. The process for determining whether a third-party payor will provide coverage for a product may be separate from the process for setting the price of a product or for establishing the reimbursement rate that such a payor will pay for the product. Third-party payors may limit coverage to specific products on an approved list, also known as a formulary, which might not include all of the FDA-approved products for a particular indication. In addition, in the United States, no uniform policy of coverage and reimbursement for drug products exists among third-party payors. Therefore, coverage and reimbursement for drug products can differ significantly from payor to payor. Third-party payors are increasingly challenging the price, examining the medical necessity of and reviewing the cost-effectiveness of medical products, therapies and services, in addition to questioning their safety and efficacy. Reimbursement may impact the demand for, and/or the price of, any product candidate which obtains marketing approval. Even if coverage and reimbursement is obtained for a given product candidate by a third-party payor, the resulting reimbursement payment rates may not be adequate or may require co-payments that patients find unacceptably high. Patients who are prescribed medications for the treatment of their conditions, and their prescribing physicians, generally rely on third-party payors to reimburse all or part of the costs associated with those medications. Patients are unlikely to use a product, and physicians may be less likely to prescribe a product, unless coverage is provided and reimbursement is adequate to cover all or a significant portion of the cost of the product. Therefore, coverage and adequate reimbursement is critical to new drug product acceptance. The downward pressure on health care costs in general, particularly prescription drugs and biologics, has become very intense. Governments have shown significant interest in implementing cost-containment programs, including price controls, restrictions on reimbursement and requirements for substitution of generic products. As a result, increasingly high barriers are being erected to the entry of new products. The marketability of any product candidates for which we receive regulatory approval for commercial sale may suffer if the government and third-party payors fail to provide favorable coverage and adequate reimbursement. In addition, emphasis on managed care in the United States has increased and we expect will continue to increase the pressure on healthcare pricing. Coverage policies and third-party reimbursement rates may change at any time. Even if favorable coverage and reimbursement status is attained for one or more products for which we receive regulatory approval, less favorable coverage policies and reimbursement rates may be implemented in the future. Health Care Laws Governing Interactions with Healthcare Providers Healthcare providers, and third-party payors in the United States play a primary role in the recommendation and prescription of drug products. Arrangements with healthcare providers, third-party payors and customers can expose pharmaceutical manufactures to broadly applicable fraud and abuse and other healthcare laws, including false claims, privacy and security, price reporting, and physician sunshine laws or regulations. Some of our pre-commercial activities are subject to some of these laws. The applicable federal, state and foreign healthcare laws and regulations laws that may affect a pharmaceutical manufacture’s ability to operate include, but are not limited t • The federal Anti-Kickback Statute, which regulates our business activities, including our marketing practices, educational programs, pricing policies, and relationships with healthcare providers or other entities, by prohibiting, among other things, soliciting, receiving, offering or paying remuneration, directly or indirectly, to induce, or in return for, either the referral of an individual or the purchase or recommendation of an item or service reimbursable under a federal healthcare program, such as the Medicare and Medicaid programs; • Federal civil and criminal false claims laws, including the False Claims Act which permits a private individual acting as a “whistleblower” to bring actions on behalf of the federal government alleging violations of the False Claims Act, and civil monetary penalty laws, which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid, or other third-party payors that are false or fraudulent; • The federal Health Insurance Portability and Accountability Act of 1996, or HIPAA, which created new federal civil and criminal statutes that prohibit, among other things, executing a scheme to defraud any healthcare benefit program or making false statements relating to healthcare matters; • HIPAA, as amended by the Health Information Technology for Economic and Clinical Health Act of 2009, or HITECH, and their implementing regulations, which imposes certain requirements relating to the privacy, security and transmission of individually identifiable health information on entities and individuals subject to the law including certain healthcare providers, health plans, and 18 Table of Contents healthcare clearinghouses, known as covered entities, as well as individuals and entities that perform services for them which involve the use, or disclosure of, individually identifiable health information, known as business associates as well as their covered subcontractors; • Requirements to report annually to the Centers for Medicare & Medicaid Services, or CMS, certain financial arrangements with physicians and teaching hospitals, as defined in the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act, or collectively the ACA, and its implementing regulations, including reporting any “transfer of value” made or distributed to physicians (defined to include doctors, dentists, optometrists, podiatrists and chiropractors) and teaching hospitals, and reporting any ownership and investment interests held by physicians and their immediate family members and applicable group purchasing organizations during the preceding calendar year. Beginning in 2022, applicable manufacturers also will be required to report such information regarding its payments and other transfers of value to physician assistants, nurse practitioners, clinical nurse specialists, anesthesiologist assistants, certified registered nurse anesthetists and certified nurse midwives during the previous year; and • State and foreign law equivalents of each of the above federal laws, such as anti-kickback and false claims laws which may apply to items or services reimbursed by any third-party payor, including commercial insurers; state laws that require pharmaceutical companies to comply with the industry’s voluntary compliance guidelines and the applicable compliance guidance promulgated by the federal government that otherwise restricts certain payments that may be made to healthcare providers and entities; state laws that require drug manufacturers to report information related to payments and other transfer of value to physicians and other healthcare providers and entities; state laws that require the reporting of information related to drug pricing; state and local laws that require the registration of pharmaceutical sales representatives; and state and foreign laws governing the privacy and security of health information in certain circumstances, many of which differ from each other in significant ways and often are not preempted by HIPAA, thus complicating compliance efforts. Efforts to ensure that business arrangements comply with applicable healthcare laws involve substantial costs. It is possible that governmental and enforcement authorities will conclude that a pharmaceutical manufacturer’s business practices do not comply with current or future statutes, regulations or case law interpreting applicable fraud and abuse or other healthcare laws and regulations. If any such actions are instituted against a pharmaceutical manufacturer, and it is not successful in defending itself or asserting its rights, it may be subject to the imposition of significant civil, criminal and administrative penalties, damages, disgorgement, monetary fines, imprisonment, possible exclusion from participation in Medicare, Medicaid and other federal healthcare programs, contractual damages, reputational harm, diminished profits and future earnings, and curtailment of operations, as well as additional reporting obligations and oversight if subject to a corporate integrity agreement or other agreement to resolve allegations of non-compliance with these laws. In addition, the approval and commercialization of drug products outside the United States may also subject a pharmaceutical manufacturer to foreign equivalents of the healthcare laws mentioned above, among other foreign laws. Healthcare Reform Efforts A primary trend in the United States healthcare industry and elsewhere is cost containment. Over the last several years, there have been federal and state proposals and legislation enacted regarding the pricing of pharmaceutical and biopharmaceutical products, limiting coverage and reimbursement for drugs and other medical products, and making changes to healthcare financing and the delivery of care in the United States. In March 2010, the ACA was enacted, which includes measures that have significantly changed healthcare financing by both governmental and private insurers. The provisions of the ACA of importance to the pharmaceutical and biotechnology industry are, among others, the followin • created an annual, nondeductible fee on any entity that manufactures or imports certain branded prescription drug agents or biologic agents, which is apportioned among these entities according to their market share in certain government healthcare programs; • increased the rebates a manufacturer must pay under the Medicaid Drug Rebate Program to 23.1% and 13% of the average manufacturer price for branded and generic drugs, respectively; • created a new Medicare Part D coverage gap discount program, in which manufacturers must now agree to offer 70% point-of-sale discounts to negotiated prices of applicable brand drugs to eligible beneficiaries during their coverage gap period, as a condition for the manufacturer’s outpatient drugs to be covered under Medicare Part D; • extended manufacturers’ Medicaid rebate liability to covered drugs dispensed to individuals who are enrolled in Medicaid managed care organizations, unless the drug is subject to discounts under the 340B drug discount program; • created a new methodology by which rebates owed by manufacturers under the Medicaid Drug Rebate Program are calculated for drugs that are inhaled, infused, instilled, implanted or injected; • expanded eligibility criteria for Medicaid programs by, among other things, allowing states to offer Medicaid coverage to additional individuals and by adding new mandatory eligibility categories for certain individuals with income at or below 133% of the federal poverty level, thereby potentially increasing manufacturers’ Medicaid rebate liability; • expanded the entities eligible for discounts under the Public Health Service pharmaceutical pricing program; • created a new requirement to annually report drug samples that certain manufacturers and authorized distributors provide to physicians; 19 Table of Contents • expanded healthcare fraud and abuse laws, including the False Claims Act and the federal Anti-Kickback Statute, new government investigative powers, and enhanced penalties for noncompliance; • created new requirements under the federal Physician Payments Sunshine Act for drug manufacturers to annually report information related to payments and other transfers of value made to physicians and teaching hospitals as well as ownership or investment interests held by physicians and their immediate family members; • created a Patient-Centered Outcomes Research Institute to oversee, identify priorities in, and conduct comparative clinical effectiveness research, along with funding for such research; • established a Center for Medicare & Medicaid Innovation at CMS to test innovative payment and service delivery models to lower Medicare and Medicaid spending, potentially including prescription drug spending; and • created a licensure framework for follow on biologic products. There have been executive, legal and political challenges to certain aspects of the ACA. For example, President Trump signed several executive orders and other directives designed to delay, circumvent or loosen certain requirements mandated by the ACA. Concurrently, Congress considered legislation to repeal or repeal and replace all or part of the ACA. While Congress has not passed repeal legislation, several bills affecting the implementation of certain taxes under the ACA have been signed into law. The Tax Cuts and Jobs Act of 2017, or Tax Act, included a provision which repealed, effective January 1, 2019, the tax-based shared responsibility payment imposed by the ACA on certain individuals who fail to maintain qualifying health coverage for all or part of a year that is commonly referred to as the “individual mandate.” Further, the 2020 federal spending package permanently eliminated, effective January 1, 2020, the ACA-mandated “Cadillac” tax on high-cost employer-sponsored health coverage and medical device tax and, effective January 1, 2021, also eliminated the health insurer tax. The Bipartisan Budget Act of 2018, or the BBA, among other things, amended the ACA, effective January 1, 2019, to increase from 50 percent to 70 percent the point-of-sale discount that is owed by pharmaceutical manufacturers who participate in Medicare Part D and to close the coverage gap in most Medicare drug plans, commonly referred to as the “donut hole.” On December 14, 2018, a Texas U.S. District Court Judge ruled that ACA is unconstitutional in its entirety because the “individual mandate” was repealed by Congress as part of the Tax Act. Additionally, on December 18, 2019, the United States Court of Appeals for the 5th Circuit upheld the District Court ruling that the individual mandate was unconstitutional and remanded the case back to the District Court to determine whether the remaining provisions of the ACA are invalid as well. The United States Supreme Court is currently reviewing this case, but it is unknown when a decision will be reached. Although the United States Supreme Court has not yet ruled on the constitutionality of the ACA, on January 28, 2021, President Biden issued an executive order to initiate a special enrollment period from February 15, 2021 through May 15, 2021 for purposes of obtaining health insurance coverage through the ACA marketplace. The executive order also instructs certain governmental agencies to review and reconsider their existing policies and rules that limit access to healthcare, including among others, reexamining Medicaid demonstration projects and waiver programs that include work requirements, and policies that create unnecessary barriers to obtaining access to health insurance coverage through Medicaid or the ACA. It is unclear how the Supreme Court ruling, other such litigation, and the healthcare reform measures of the Biden administration will impact the ACA and our business. In addition, other federal health reform measures have been proposed and adopted in the United States since the ACA was enacted. For example, as a result of the Budget Control Act of 2011, providers are subject to Medicare payment reductions of 2% per fiscal year, which went into effect on April 1, 2013 and, due to subsequent legislative amendments to the statute, including the BBA, will remain in effect through 2030 unless additional Congressional action is taken. However, COVID-19 relief support legislation suspended the 2% Medicare sequester from May 1, 2020 through March 31, 2021. Further, the American Taxpayer Relief Act of 2012 reduced Medicare payments to several providers and increased the statute of limitations period for the government to recover overpayments from providers from three to five years. The Medicare Access and CHIP Reauthorization Act of 2015 also introduced a quality payment program under which certain individual Medicare providers will be subject to certain incentives or penalties based on new program quality standards. In November 2019, CMS issued a final rule finalizing the changes to the Medicare Quality Payment Program. Further, there has been heightened governmental scrutiny in the United States of pharmaceutical pricing practices in light of the rising cost of prescription drugs and biologics. Such scrutiny has resulted in several recent Congressional inquiries and proposed and enacted federal and state legislation designed to, among other things, bring more transparency to product pricing, review the relationship between pricing and manufacturer patient programs, and reform government program reimbursement methodologies for products. At the federal level, the Trump administration used several means to propose or implement drug pricing reform, including through federal budget proposals, executive orders and policy initiatives. For example, on July 24, 2020 and September 13, 2020, the Trump administration announced several executive orders related to prescription drug pricing that attempt to implement several of the administration’s proposals. The FDA also released a final rule, effective November 30, 2020, implementing a portion of the importation executive order providing guidance for states to build and submit importation plans for drugs from Canada. Further, on November 20, 2020, the U.S. Department of Health and Human Services, or HHS, finalized a regulation removing safe harbor protection for price reductions from pharmaceutical manufacturers to plan sponsors under Part D, either directly or through pharmacy benefit managers, unless the price reduction is required by law. The implementation of the rule has been delayed by the Biden administration from January 1, 2022 to January 1, 2023 in response to ongoing litigation. The rule also creates a new safe harbor for price reductions reflected at the point-of-sale, as well as a new safe harbor for certain fixed fee arrangements between pharmacy benefit managers and manufacturers, the implementation of which have also been delayed pending review by the Biden administration until 20 Table of Contents March 22, 2021. On November 20, 2020, CMS issued an interim final rule implementing President Trump’s Most Favored Nation executive order, which would tie Medicare Part B payments for certain physician-administered drugs to the lowest price paid in other economically advanced countries, effective January 1, 2021. On December 28, 2020, the United States District Court in Northern California issued a nationwide preliminary injunction against implementation of the interim final rule. However, it is unclear whether the Biden administration will work to reverse these measures or pursue similar policy initiatives. At the state level, legislatures have increasingly enacted legislation and implemented regulations designed to control pharmaceutical and biological product pricing, including price or patient reimbursement constraints, discounts, restrictions on certain product access and marketing cost disclosure and transparency measures, and, in some cases, designed to encourage importation from other countries and bulk purchasing. In addition, regional healthcare authorities and individual hospitals are increasingly using bidding procedures to determine what pharmaceutical products and which suppliers will be included in their prescription drug and other healthcare programs. U.S. Foreign Corrupt Practices Act, U.K. Bribery Act and Other Laws The Foreign Corrupt Practices Act, or the FCPA, prohibits any United States individual or business from paying, offering, or authorizing payment or offering of anything of value, directly or indirectly, to any foreign official, political party or candidate for the purpose of influencing any act or decision of the foreign entity in order to assist the individual or business in obtaining or retaining business. The FCPA also obligates companies whose securities are listed in the United States to comply with accounting provisions requiring the company to maintain books and records that accurately and fairly reflect all transactions of the corporation, including international subsidiaries, and to devise and maintain an adequate system of internal accounting controls for international operations. Activities that violate the FCPA, even if they occur wholly outside the United States, can result in criminal and civil fines, imprisonment, disgorgement, oversight, and debarment from government contracts. Our operations are also subject to non-United States anti-corruption laws such as the U.K. Bribery Act 2010, or the Bribery Act. As with the FCPA, these laws generally prohibit us and our employees and intermediaries from authorizing, promising, offering, or providing, directly or indirectly, improper or prohibited payments, or anything else of value, to government officials or other persons to obtain or retain business or gain some other business advantage. Under the Bribery Act, we may also be liable for failing to prevent a person associated with us from committing a bribery offense. We are also subject to other laws and regulations governing our international operations, including regulations administered by the governments of the United Kingdom and the United States and authorities in the EU, including applicable export control regulations, economic sanctions and embargoes on certain countries and persons, anti-money laundering laws, import and customs requirements and currency exchange regulations, collectively referred to as trade control laws. Failure to comply with the Bribery Act, the FCPA and other anti-corruption laws and trade control laws could subject us to criminal and civil penalties, disgorgement and other sanctions and remedial measures, and legal expenses. Competition We believe our novel hunTR discovery engine has a demonstrated ability to identify proprietary TCRs allowing us to further expand and advance our pipeline with multiple solid tumor programs under development. In addition, our non-viral transposon method of expressing TCRs, Sleeping Beauty, is less complex relative to many of our competitors’ viral approaches. Finally, our TCR-T Phase 1/2 Library Trial is designed to allow us to treat patients quickly and efficiently in many different indications with a tumor mutation and HLA matching one of the TCRs in our library, which we believe gives us a distinct competitive advantage. However, the development and commercialization for new products to treat cancer, including the indications we are pursuing, is highly competitive and considerable competition exists from major pharmaceutical, biotechnology and specialty cancer companies. Many of these companies have more experience in preclinical and clinical development, manufacturing, regulatory, and global commercialization. Given the rapidly advancing and changing science and technologies in the industry, they may compete with us in hiring personnel, setting up clinical study sites, recruiting patients for clinical trials, and procuring technologies and licenses complementary to, or required for our programs. We are also competing with academic institutions, governmental agencies, and private organizations that are conducting research in the field of cancer. Our TCR-T cell therapies targeting solid tumors face significant competition from multiple companies, and their collaborators, in the TCR and CAR technology space. We face competition from several companies, including Achilles Therapeutics, Adaptimmune Therapeutics in collaboration with GlaxoSmithKline, Affini-T Therapeutics, ArsenalBio, bluebird bio, BioNTech, Bristol-Myers Squibb, Immatics, Iovance Biotherapeutics, Lion TCR, Lyell Immunopharma, Medigene, Nurix Therapeutics, Neogene Therapeutics, NexImmune, PACT Pharma, Precigen, Tactiva Therapeutics, Takara Bio, TCR2 Therapeutics, T-knife Therapeutics, Tmunity Therapeutics, TScan Therapeutics, Turnstone Biologics, Zelluna Immunotherapy and others. Many of these companies are either investigating TCR-T cells against germline antigens or are utilizing tumor infiltrating lymphocytes (TIL). Some are pursuing CAR-T cells for solid tumors. In contrast, we are focused on developing TCR-T cell products against neoantigens arising from somatic mutations in solid tumors. Companies in the T-cell therapy segment that have target discovery platforms like ours include Adaptive Therapeutics, Affini-T Therapeutics, Immatics, Enara Bio, T-knife Therapeutic, TScan Therapeutics and 3T Biosciences. Several companies, including Advaxis, Amgen, BioNTech, Geneos Therapeutics, and Gritstone Oncology, are pursuing vaccine platforms to target neoantigens for solid tumors. Other companies are 21 Table of Contents developing non-viral gene therapies, including Poseida Therapeutics and several companies developing CRISPR technology, including Crispr Therapeutics. Several companies are pursuing the development of allogeneic CAR-T therapies, including Allogene Therapeutics, Atara Biotherapeutics, Precision Biosciences, and Servier (in collaboration with Cellectis) which may compete with our product candidates. We also face competition from companies developing therapies using cells other than T cells such as Athenex, Fate Therapeutics, ImmunityBio, IN8bio, Nkarta and Takeda Pharmaceutical. Other competitors are developing T cells with cytokines such as Fate Therapeutics and Obsidian Therapeutics. Finally, we also face competition from non cell-based treatments offered by other companies such as Amgen, AstraZeneca, Bristol-Myers Squibb, Incyte, Merck, and Roche. We face competition on a broader spectrum of the oncology market that is more common, cost-effective, and reimbursable such as surgery, radiation, and other drug therapies like chemotherapy, hormone therapy, biologic therapy such as monoclonal and bispecific antibodies, or a combination of any of these therapies. If any of our TCR-T therapies are approved, they may not be as competitive as other therapies, to the extent they are used in combinations with these therapies. Insurers and other third-party payors may also encourage use of certain products, thus, gaining market acceptance or market share for any of our TCR-T therapies could pose difficulties. Finally, standard of care could evolve or change throughout the clinical development of our product candidates. Moreover, if our competitors develop and market a drug that is safer, more effective with fewer side effects, easier to administer, or less expensive, we could see a less favorable market opportunity for our TCR-T therapy candidates. Our competition may also receive FDA or other regulatory approval for their products more quickly than we do, which could give them a first mover advantage and a strong market position before we are able to commercialize our products. If approved, key competitive factors that may affect the success of our TCR-T candidates are likely their efficacy, safety, ease of administering, price, and reimbursement from insurance or government. Employees and Human Capital Resources As of March 15, 2022, we had 41 full-time employees and no part-time employees, 33 of whom were engaged in research and development activities, and 8 of whom were engaged in administration. None of our employees are subject to a collective bargaining agreement and we believe our relations with our employees are good. Our human capital resources objectives include identifying, recruiting, retaining, incentivizing and integrating our existing and additional employees. We recruit the best people for the position regardless of gender, ethnicity or other protected traits and it is our policy to fully comply with all laws applicable to discrimination in the workplace. Our diversity, equity and inclusion principles are also reflected in our employee training and policies. The principal purposes of our equity incentive plans are to attract, retain and motivate selected employees, consultants and directors through the granting of stock-based compensation awards and cash-based performance bonus awards. Corporate Information We originally incorporated in Colorado in September 1998 (under the name Net Escapes, Inc.) and later changed our name to “EasyWeb, Inc.” in February 1999. We re-incorporated in Delaware on May 16, 2005 under the same name. On September 13, 2005, we completed a “reverse” acquisition of privately held Ziopharm, Inc., a Delaware corporation. To effect this transaction, we caused ZIO Acquisition Corp., our wholly-owned subsidiary, to merge with and into Ziopharm, Inc., with Ziopharm, Inc. surviving as our wholly owned subsidiary. Following the merger, we caused Ziopharm, Inc. to merge with and into us and we changed our name to “Ziopharm Oncology, Inc.” As a result, Ziopharm, Inc. became the registrant with the Securities and Exchange Commission, or the SEC, and the historical financial statements of Ziopharm, Inc. became our historical financial statements. On January 25, 2022, we filed a Certificate of Amendment to our Amended and Restated Certificate of Incorporation with the Delaware Secretary of State to change our name to Alaunos Therapeutics, Inc. Our principal executive offices are located at 8080 El Rio Street, Houston, Texas 77054, and our telephone number is (346) 355-4099. Available Information Our website address is www.alaunos.com. Our website and information included in or linked to our website are not part of this Annual Report on Form 10-K. We file reports with the SEC, which we make available on our website free of charge. These reports include annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to such reports, each of which is provided on our website as soon as reasonably practicable after we electronically file such materials with or furnish them to the SEC. In addition, the SEC maintains a website (www.sec.gov) that contains reports, proxy and information statements, and other information regarding issuers, like us, that file electronically with the SEC. 22 Table of Contents Item 1A. Risk Factors An investment in our common stock is very risky. In addition to the other information in this Annual Report on Form 10-K, you should carefully consider the following risk factors in evaluating us and our business. If any of the events described in the following risk factors were to occur, our business, financial condition, results of operation and future growth prospects would likely be materially and adversely affected. In that event, the trading price of our common stock could decline, and you could lose all or a part of your investment in our common stock. Therefore, we urge you to carefully review this entire report and consider the risk factors discussed below. Moreover, the risks described below are not the only ones that we face. Additional risks not presently known to us or that we currently deem immaterial may also affect our business, financial condition, operating results or prospects. The impact of COVID-19 may also exacerbate other risks discussed in this filing, any of which could have a material effect on us. This situation is changing rapidly and additional impacts may arise. Additional risks that we currently do not know about, or that we currently believe to be immaterial, may also impair our business. Certain statements below are forward-looking statements. See “Special Note Regarding Forward-Looking Statements” in this Annual Report. RISKS RELATED TO OUR BUSINESS We will require substantial additional financial resources to continue ongoing development of our product candidates and pursue our business objectives; if we are unable to obtain these additional resources when needed, we may be forced to delay or discontinue our planned operations, including clinical testing of our product candidates. We have not generated significant revenue and have incurred significant net losses in each year since our inception. For the year ended December 31, 2021, we had a net loss of $78.8 million, and, as of December 31, 2021, our accumulated deficit since inception in 2003 was $842.9 million. We expect our operating expenditures and net losses to increase significantly in connection with our ongoing clinical trial and our internal research and development capabilities. Further development of our product candidates will require substantial increases in our expenses as we: • continue to undertake clinical trials for product candidates; • scale-up and scale-out the manufacturing of our TCR-T product candidates; • seek regulatory approvals for product candidates; • work with regulatory authorities to identify and address program-related inquiries; • implement additional internal systems and infrastructure; and • hire additional personnel, including highly-skilled and experienced scientific staff. As of December 31, 2021, we have approximately $76.1 million of cash and cash equivalents. Given our current development plans and cash management efforts, we anticipate cash resources will be sufficient to fund operations into the second quarter of 2023, and we have no committed sources of additional capital at this time. The forecast of cash resources is forward-looking information that involves risks and uncertainties, and our actual cash requirements may vary materially from our current expectations for a number of other factors that may include, but are not limited to, changes in the focus and direction of our development programs, slower and/or faster than expected progress of our research and development efforts, changes in governmental regulation, competitive and technical advances, rising costs associated with the development of our product candidates, our ability to secure partnering arrangements, and costs of filing, prosecuting, defending and enforcing our intellectual property rights. The COVID-19 pandemic continues to evolve and has already resulted in a significant disruption of global financial markets. If the disruption persists and deepens, we could experience an inability to access additional capital, which could in the future negatively affect our operations. If we exhaust our capital reserves more quickly than anticipated, regardless of the reason, and we are unable to obtain additional financing on terms acceptable to us or at all, we may be required to delay, limit, reduce or terminate our product development or future commercialization efforts or grant rights to develop and market product candidates that we would otherwise prefer to develop and market ourselves. We need to raise additional capital to fund our operations. The manner in which we raise any additional funds may affect the value of your investment in our common stock. Until such time, if ever, as we can generate substantial revenue, we expect to finance our cash needs through a combination of equity offerings, debt financings and license and collaboration agreements. We do not have any committed external source of funds. The unpredictability of the capital markets may severely hinder our ability to raise capital within the time periods needed or on terms we consider acceptable, if at all. In particular, a decline in the market price of our common stock could make it more difficult for us to sell equity or equity-related securities in the future at a time and price that we deem appropriate. Moreover, if we fail to advance one or more of our current product candidates into early or later-stage clinical trials, successfully commercialize one or more of our product candidates, or acquire new product candidates for development, we may have difficulty attracting investors that might otherwise be a source of additional financing. On August 6, 2021, we entered into a Loan and Security Agreement with Silicon Valley Bank, or SVB, and affiliates of SVB, or the Loan and Security Agreement. The Loan and Security Agreement provided for an initial term loan of $25.0 million funded at the closing, with an 23 Table of Contents additional tranche of $25.0 million available if certain funding and clinical milestones were met by August 31, 2022, or the SVB Facility. In connection with the initial borrowing, we also issued warrants to SVB and certain of its affiliates for the purchase of up to 432,844 shares of our common stock, in the aggregate, at an exercise price of $2.22 per share. The Loan and Security Agreement was subsequently amended, effective December 28, 2021, to, among other things, eliminate the additional tranche so that the $25.0 million we have drawn down is the full amount available under the SVB Facility. As a result, we do not have any other borrowings available under the SVB Facility. In connection with entering into the amendment to the Loan and Security Agreement we also amended and restated the warrants. These amended and restated warrants provide for the purchase of up to 649,615 shares of our common stock, in the aggregate, at an exercise price of $1.16 per share. To the extent that we raise additional capital by issuing equity securities, our existing stockholders’ ownership will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect the rights of our common stockholders. Debt financing and preferred equity financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, creating liens, making capital expenditures or declaring dividends. Furthermore, the ongoing impact of COVID-19 and geopolitical instability, including the recent military conflict between Russian and Ukraine, on global financial markets could make the terms of any available financing less attractive to use and more dilutive to our existing shareholders. If we raise additional funds through collaborations, strategic alliances or marketing, distribution or licensing arrangements with third parties, we may have to relinquish valuable rights to our technologies, future revenue streams, research programs or product candidates or grant licenses on terms that may not be favorable to us. We have incurred indebtedness that could adversely affect our business and place restrictions on our operating and financial flexibility. The amended Loan and Security Agreement contains customary affirmative and negative covenants and events of default applicable to us and any subsidiaries. The affirmative covenants require us (and us to cause our subsidiaries, if any) to maintain governmental approvals, deliver certain financial reports, maintain insurance coverage, and protect material intellectual property, among other things. The negative covenants restrict our and our subsidiaries’ ability to, among other things, transfer collateral, change our business, engage in mergers or acquisitions, incur additional indebtedness, pay cash dividends or make other distributions, make investments, create liens, sell assets and make any payment on subordinated debt. The restrictive covenants of the Loan and Security Agreement could cause us to be unable to pursue business opportunities that we or our stockholders may consider beneficial, including entering into certain licensing arrangements, maintaining flexible cash management arrangements and engaging in certain change in control transactions, among others. Our debt combined with our other financial obligations and contractual commitments could have significant adverse consequences for our business, includin • Requiring us to dedicate a substantial portion of cash flows to payment on our debt, which would reduce available funds for further research and development; • Increasing the amount of interest that we must pay on debt with variable interest rates, if market rates of interest increase; • Subjecting us to restrictive covenants that reduce our ability to take certain corporate actions, acquire companies, products or technology, or obtain further debt financing; and • Requiring us to pledge our non-intellectual property assets as collateral, which could limit our ability to obtain additional debt financing. We intend to satisfy our debt service obligations with our existing cash and cash equivalents and any additional amounts we may raise through future debt and equity financings. Our ability to make payments due under the SVB Facility depends on our future performance, which is subject to economic, financial, competitive conditions and other factors beyond our control. We may not have sufficient funds or may be unable to arrange for additional financing to pay the amounts due under our existing debt. In addition, a failure to comply with certain equity raise and clinical milestone requirements in the amended Loan and Security Agreement could result in us having to deposit unrestricted and unencumbered cash equal to 50% of the principal amount of the SVB Facility then outstanding and an amount equal to 5.75% of the original principal amount in a cash collateral account with SVB. Failure to pay any amount due under the SVB Facility, to comply with covenants under the amended Loan and Security Agreement, or the occurrence of an event that would reasonably be expected to have a material adverse effect on our business, operations, or condition (financial or otherwise), would result in an event of default. The occurrence and continuation of an event of default could cause interest to be charged at the rate that is otherwise applicable plus 3.00% (unless SVB elects to impose a smaller increase) and would provide SVB with the right to accelerate all obligations under the SVB Facility and exercise remedies against us and the collateral securing the SVB Facility and other obligations under the amended Loan and Security Agreement, including foreclosure against assets securing the SVB Facility. In addition, the covenants under the amended Loan and Security Agreement and the pledge of substantially all of our assets, excluding our intellectual property (which is subject to a negative pledge under the amended Loan and Security Agreement), as collateral on the loan may limit our ability to obtain additional debt financing. We identified a material weakness in our internal control as of June 30, 2021, which has been remediated as of December 31, 2021. We may identify additional material weaknesses in the future or otherwise fail to maintain an effective system of internal controls, which may result in material misstatements of our financial statements or could have a material adverse effect on our business and trading price of our securities. 24 Table of Contents We are subject to the reporting requirements of the Securities Exchange Act of 1934, as amended, the Sarbanes-Oxley Act of 2002 and the rules and regulations of the Nasdaq Global Select Market. Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002, we are required to perform system and process evaluation and testing of our internal control over financial reporting to allow our management to report on the effectiveness of our internal control over financial reporting. We may also be required to have our independent registered public accounting firm issue an opinion on the effectiveness of our internal control over financial reporting on an annual basis. In connection with the review of our financial statements as of and for the quarter ended June 30, 2021, we identified a material weakness in our internal control over financial reporting. A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of our financial statements will not be prevented or detected on a timely basis. Our identified material weakness existing in our financial reporting process relates to the lack of sufficient accounting resources to execute certain controls related to the reconciliation and review of accounts in a timely manner. Following the identification of the material weakness in our internal controls over financial reporting as of June 30, 2021, we prepared a remediation action plan and implemented that plan to improve the controls related to the reconciliation and review of accounts in a timely manner. We enhanced and revised the design of related existing internal controls, implemented incremental controls over our financial statement close process and hired new accounting staff. During the fourth quarter of 2021, we successfully completed the testing necessary to conclude that the material weakness has been remediated. The material weakness had no impact on any amounts reported in the financial statement for the fiscal year ended December 31, 2021 or for any previous period. Although the material weakness has been remediated, we cannot assure you that any measures we have taken or may take in the future will be sufficient to avoid potential future material weaknesses. We also previously had a material weakness identified for the year ended December 31, 2019, which was fully remediated as of December 31, 2020. If we are unable to successfully remediate any future material weakness and maintain effective internal controls, we may not have adequate, accurate or timely financial information, and we may be unable to meet our reporting obligations as a public company, including the requirements of the Sarbanes-Oxley Act, we may be unable to accurately report our financial results in future periods, or report them within the timeframes required by the requirements of the SEC, Nasdaq or the Sarbanes-Oxley Act. Failure to comply with the Sarbanes-Oxley Act, when and as applicable, could also potentially subject us to sanctions or investigations by the SEC or other regulatory authorities. Any failure to maintain or implement required new or improved controls, or any difficulties we encounter in their implementation, could result in the identification of additional material weaknesses or significant deficiencies, cause us to fail to meet our reporting obligations or result in material misstatements in our financial statements. Furthermore, if we cannot provide reliable financial reports or prevent fraud, our business and results of operations could be harmed and investors could lose confidence in our reported financial information. Our plans to develop and commercialize non-viral adoptive TCR-T cell therapies can be considered a new approach to cancer treatment, the successful development of which is subject to significant challenges. We intend to employ technologies such as the technology licensed from MD Anderson pursuant to the MD Anderson License described above, from PGEN, pursuant to the License Agreement, and from NCI, pursuant to the Patent License described above, to pursue the development and commercialization of non-viral cellular therapies based on T-cells and TCRs, targeting solid tumor malignancy. Because this is a new approach to cancer immunotherapy and cancer treatment generally, developing and commercializing product candidates subjects us to a number of challenges, includin • obtaining regulatory approval from the FDA and other regulatory authorities that have very limited experience with the commercial development of genetically modified T-cell therapies for cancer; • designing and conducting our clinical trials using this new approach or selecting the appropriate TCRs in a way that may lead to optimal results; • identifying and manufacturing appropriate TCRs from either the patient or third parties that can be administered to a patient; • developing and deploying consistent and reliable processes for engineering a patient’s and/or donor’s T-cells ex vivo and infusing the T cells back into the patient; • conditioning patients with chemotherapy in conjunction with delivering each of the potential products, which may increase the risk of adverse side effects of the potential products; • educating medical personnel regarding the potential side effect profile of each of the potential products, such as the potential adverse side effects related to cytokine release; • addressing any competing technological and market developments; • developing processes for the safe administration of these potential products, including long-term follow-up for all patients who receive the potential products; • sourcing additional clinical and, if approved, commercial supplies for the materials used to manufacture and process the potential products; 25 Table of Contents • developing a manufacturing process with a cost of goods that allows for an attractive return on investment; • establishing sales and marketing capabilities after obtaining any regulatory approval to gain market acceptance; • developing therapies for types of cancers beyond those addressed by the current potential products; • maintaining and defending the intellectual property rights relating to any products we develop; and • not infringing the intellectual property rights, in particular, the patent rights, of third parties, including competitors, such as those developing T-cell therapies. We cannot assure you that we will be able to successfully address these challenges, which could prevent us from achieving our research, development and commercialization goals. Our current product candidates are based on novel technologies and are supported by limited clinical data and we cannot assure you that our current and planned clinical trials will produce data that supports regulatory approval of one or more of these product candidates. Our genetically modified TCR-T cell product candidates are supported by limited clinical data, all of which has been generated through trials conducted by MD Anderson and the NCI, not by us. We have assumed control of the overall clinical and regulatory development of our TCR-T cell product candidates, and any failure to obtain, or delays in obtaining, sponsorship of new INDs, or in filing INDs sponsored by us for these or any other product candidates we determine to advance could negatively affect the timing of our potential future clinical trials. Such an impact on timing could increase research and development costs and could delay or prevent obtaining regulatory approval for our product candidates, either of which could have a material adverse effect on our business. We began enrolling patients in our TCR-T Library Phase 1/2 Trial in January 2022. Further, we did not control the design or conduct of the previous trials. It is possible that the FDA will not accept these previous trials as providing adequate support for future clinical trials, whether controlled by us or third parties, for any of one or more reasons, including the safety, purity and potency of the product candidate, the degree of product characterization, elements of the design or execution of the previous trials or safety concerns or other trial results. We may also be subject to liabilities arising from any treatment-related injuries or adverse effects in patients enrolled in these previous trials. As a result, we may be subject to unforeseen third-party claims and delays in our potential future clinical trials. We may also be required to repeat in whole or in part clinical trials previously conducted by MD Anderson or other entities, which will be expensive and delay the submission and licensure or other regulatory approvals with respect to any of our product candidates. Moreover, there are a number of regulatory requirements that we must continue to satisfy as we conduct our clinical trials of TCR-T cell product candidates in the United States. The criteria these regulators use to determine the safety and efficacy of a product candidate vary substantially according to the type, complexity, novelty and intended use and market of the potential products and change frequently. Satisfaction of these requirements will entail substantial time, effort and financial resources. To date, the FDA has approved only a few adoptive cell therapies for commercialization. Because adoptive cell therapies are relatively new and our product candidates employ novel gene expression and cell technologies, regulatory agencies may lack experience in evaluating product candidates like our Library TCR-T product candidates. This novelty may heighten regulatory scrutiny of our therapies or lengthen the regulatory review process, including the time it takes for the FDA to review our IND applications if and when submitted, increase our development costs and delay or prevent commercialization of our product candidates. These factors make it difficult to determine how long it will take or how much it will cost to obtain regulatory approvals for our product candidates. Any time, effort and financial resources we expend on our clinical product candidates and other early-stage product development programs, which are ultimately not successful may adversely affect our business. We report interim data on certain of our clinical trials and we cannot assure you that interim data will be predictive of either future interim results or final study results. In addition, the results ultimately obtained from our preclinical studies or other earlier clinical trials for our product candidates may not be predictive of future results. As part of our business, we provide updates related to the development of our product candidates, which may include updates related to interim clinical trial data. We anticipate that our clinical trials will involve small patient populations and because of the small sample size, the interim results of these, and all, clinical trials may be subject to substantial variability and may not be indicative of either future interim results or final results. We commenced enrollment in our TCR-T Library Phase 1/2 Trial in January 2022. We do not know at this stage whether patient response data from this trial will be favorable, and initial success in clinical trials may not be indicative of results obtained when such trials are completed. Our product candidates may fail to show the desired safety and efficacy in clinical development, and we cannot assure you that the results of any future trials will demonstrate the value and efficacy of our product candidates. Even if our clinical trials are completed as planned, we cannot be certain that their results will support approval of our product candidates. There are no approved engineered TCR-T cell immunotherapies for solid tumors. We believe our product candidates may be effective against solid tumors and plan to develop product candidates for use in solid tumors. We cannot guarantee that our product candidates will be able to access the solid tumor or show any functionality in the solid tumor microenvironment. The cellular environment in which solid tumor cells thrive is generally hostile to T cells due to factors such as the presence of immunosuppressive cells, humoral factors and limited access to 26 Table of Contents nutrients. In addition, the safety profile of our product candidates may differ in a solid tumor setting. If we are unable to make our product candidates function in solid tumors, our development plans and business will be significantly harmed. Preliminary data also remain subject to audit and verification procedures that may result in the final data being materially different from the preliminary data we previously announced. Negative differences between preliminary or interim data and final data could materially adversely affect the prospects of any product candidate that is impacted by such data updates. In addition, the results of any preclinical studies for our product candidates may not be predictive of the results of clinical trials. For example, preclinical models as applied to cell therapy in oncology do not adequately represent the clinical setting, and thus cannot predict clinical activity nor all potential risks. We will need to attract, recruit and hire qualified personnel and we will continue to rely on key scientific and medical advisors, and their knowledge of our business and technical expertise would be difficult to replace. In 2021, we experienced transitions in our senior management culminating in the appointment of Kevin S. Boyle, Sr. as Chief Executive Officer and a member of the board of directors in August 2021 and the hiring of Michael Wong as our Vice President, Finance in September 2021 and his appointment as principal accounting officer in November 2021. In November 2021, we hired Melinda Lackey as our Senior Vice President, Legal. Management transition is often difficult and inherently causes some loss of institutional knowledge and creates potential uncertainty in strategy execution. In addition, we may not be able to attract or retain qualified management and commercial, scientific and clinical personnel due to the intense competition for qualified personnel among biotechnology, pharmaceutical and other businesses. If we are not able to attract and retain necessary personnel to accomplish our business objectives, we may experience constraints that will significantly impede the achievement of our development objectives, our ability to raise additional capital and our ability to implement our business strategy. We are highly dependent on our principal scientific, regulatory and medical advisors. The loss of any of our key personnel, could result in delays in product development, loss of key personnel or partnerships and diversion of management resources, which could adversely affect our operating results. We do not carry “key person” life insurance policies on any of our officers or key employees. We face substantial competition from other biopharmaceutical companies, which may result in others discovering, developing or commercializing products before, or more successfully than, we do. Our TCR-T cell therapies targeting solid tumors face significant competition from multiple companies, and their collaborators, in the TCR and CAR technology space. We face competition from several companies, including Achilles Therapeutics, Adaptimmune Therapeutics in collaboration with GlaxoSmithKline, Affini-T Therapeutics, ArsenalBio, bluebird bio, BioNTech, Bristol-Myers Squibb, Immatics, Iovance Biotherapeutics, Lion TCR, Lyell Immunopharma, Medigene, Nurix Therapeutics, Neogene Therapeutics, NexImmune, PACT Pharma, Precigen, Tactiva Therapeutics, Takara Bio, TCR 2 Therapeutics, T-knife Therapeutics, Tmunity Therapeutics, TScan Therapeutics, Turnstone Biologics, Zelluna Immunotherapy and others. Many of these companies are either investigating TCR-T cells against germline antigens or are utilizing tumor infiltrating lymphocytes. Some are pursuing CAR-T cells for solid tumors. In contrast, we are focused on developing TCR-T cell products against neoantigens arising from somatic mutations in solid tumors. Companies in the T-cell therapy segment that have target discovery platforms like ours include Adaptive Therapeutics, Affini-T Therapeutics, Immatics, Enara Bio, T-knife Therapeutics, TScan Therapeutics and 3T Biosciences. Several companies, including Advaxis, Amgen, BioNTech, Geneos Therapeutics, and Gritstone Oncology, are pursuing vaccine platforms to target neoantigens for solid tumors. Other companies are developing non-viral gene therapies, including Poseida Therapeutics and several companies developing CRISPR technology, including Crispr Therapeutics. Several companies are pursuing the development of allogeneic CAR-T therapies, including Allogene Therapeutics, Atara Biotherapeutics, Precision Biosciences, and Servier (in collaboration with Cellectis), which may compete with our product candidates. We also face competition from companies developing therapies using cells other than T cells such as Athenex, Fate Therapeutics ImmunityBio, IN8bio, Nkarta, and Takeda Pharmaceutical. Other competitors are developing T cells with cytokines such as Fate Therapeutics and Obsidian Therapeutics. Finally, we also face competition from non- cell-based treatments offered by other companies such as Amgen, AstraZeneca, Bristol-Myers Squibb, Incyte, Merck, and Roche. Additionally, our ability to pursue partnerships relating to our IL-12 and CAR-T programs may be impacted by substantial competition from these and other biopharmaceutical companies. Even if we obtain regulatory approval of potential TCR products, we may not be the first to market and that may affect the price or demand for our potential products. Existing or future competing products may provide greater therapeutic convenience or clinical or other benefits for a specific indication, or fewer side effects, than our potential products or may offer comparable performance at a lower cost. Additionally, the availability and price of our competitors’ products could limit the demand and the price we are able to charge for our potential products thereby reducing or eliminating our commercial opportunity. We may not be able to implement our business plan if the acceptance of our potential products is inhibited by price competition or the reluctance of physicians to switch from existing methods of treatment to our potential products, or if physicians switch to other new drug or biologic products or choose to reserve our potential products. Additionally, a competitor could obtain orphan product exclusivity from the FDA with respect to such competitor’s product. If such competitor product is determined to 27 Table of Contents be the same product as one of our potential products, that may prevent us from obtaining approval from the FDA for such potential products for the same indication for seven years, except in limited circumstances. If our potential products fail to capture and maintain market share, we may not achieve sufficient product revenues and our business will suffer. We compete against fully integrated pharmaceutical companies and smaller companies that are collaborating with larger pharmaceutical companies, academic institutions, government agencies and other public and private research organizations. Many of these competitors have products already approved or in development. In addition, many of these competitors, either alone or together with their collaborative partners, operate larger research and development programs or have substantially greater financial resources than we do, as well as significantly greater experience in: • developing drugs and biopharmaceuticals; • undertaking preclinical testing and human clinical trials; • obtaining FDA and other regulatory approvals of drugs and biopharmaceuticals; • formulating and manufacturing drugs and biopharmaceuticals; and • launching, marketing and selling drugs and biopharmaceuticals. Our ability to compete may be affected in many cases by insurers or other third-party payors seeking to encourage the use of generic products. Any termination of our licenses with PGEN, MD Anderson or the National Cancer Institute or our research and development agreements with MD Anderson and the National Cancer Institute could result in the loss of significant rights and could harm our ability to develop and commercialize our product candidates. We are dependent on patents, know-how, and proprietary technology that are licensed from others, particularly MD Anderson, PGEN, and the NCI, as well as the contributions by MD Anderson under our research and development agreements. Any termination of these licenses or research and development agreements could result in the loss of significant rights and could harm our ability to commercialize our product candidates. Disputes may also arise between us and these licensors regarding intellectual property subject to a license agreement, including those relating t • the scope of rights granted under the applicable license agreement and other interpretation-related issues; • whether and the extent to which our technology and processes, and the technology and processes of PGEN, MD Anderson, the NCI and our other licensors, infringe intellectual property of the licensor that is not subject to the applicable license agreement; • our right to sublicense patent and other rights to third parties pursuant to our relationships with our licensors and partners; • whether we are complying with our diligence obligations with respect to the use of the licensed technology in relation to our development and commercialization of our potential products under the MD Anderson License, the License Agreement with PGEN and our patent license agreement with the NCI; • whether or not our partners are complying with all of their obligations to support our programs under licenses and research and development agreements; and • the allocation of ownership of inventions and know-how resulting from the joint creation or use of intellectual property by our licensors and by us. If disputes over intellectual property that we have licensed prevent or impair our ability to maintain our current licensing arrangements, particularly with MD Anderson, PGEN and the NCI, on acceptable terms, we may be unable to successfully develop and commercialize the affected potential products. We are generally also subject to all of the same risks with respect to protection of intellectual property that we license as we are for intellectual property that we own. If we or our licensors fail to adequately protect this intellectual property, our ability to commercialize potential products under our applicable licenses could suffer. There is a substantial amount of litigation involving patents and other intellectual property rights in the biotechnology and pharmaceutical industries, as well as administrative proceedings for challenging patents, including interference, derivation, and reexamination proceedings before the USPTO, or oppositions and other comparable proceedings in foreign jurisdictions. Recently, due to changes in U.S. law referred to as patent reform, new procedures including inter partes review and post-grant review have been implemented, which adds uncertainty to the possibility of challenge to our or our licensors’ patents in the future. We may not be able to retain the rights licensed to us and PGEN by MD Anderson or the rights licensed to us by the National Cancer Institute to technologies relating to TCR-T cell therapies and other related technologies. Under the MD Anderson License, we, together with PGEN, received an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR-T cell and TCR-T cell therapies as well as either co-exclusive or non-exclusive licenses under certain related technologies. These proprietary methods and technologies, along with others within PGEN’s technology suite and licensed to us by PGEN, may help realize the promise of genetically modified TCR-T cell therapies by controlling cell 28 Table of Contents expansion and activation in the body, minimizing off-target and unwanted on-target effects and toxicity while maximizing therapeutic efficacy. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term, we and PGEN shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After 10 years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if we and PGEN are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if we and PGEN are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by us or PGEN, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both us or PGEN and may be terminated by the mutual written agreement of us, PGEN and MD Anderson. Under the Patent License, we received an exclusive, worldwide license to certain intellectual property and patents from NCI for TCRs we can introduce into T cells using transposon-based genetic engineering. These T cells may be used in our TCR-T Library Phase 1/2 Clinical Trial or in subsequent clinical trials, if initiated. The term of the Patent License shall expire with the last of the licensed patents. The NCI could terminate or modify the Patent License if it believes we have materially breached, by failing to meet the defined milestones by the required dates, or upon certain insolvency events that are not cured within the 90-day time limit once we are notified of such alleged breach. The Patent License is also subject to certain public use requirements wherein the NCI could require us to sublicense certain product candidates or terminate or modify the Patent License if we do not meet these public use requirements. The Patent License could also be terminated by the NCI if we are unable to pay the required benchmark payments or the annual minimum royalty payments. There can be no assurance that we will be able to successfully perform under the MD Anderson License or the Patent License and if the MD Anderson License or the Patent License is terminated it may prevent us from achieving our business objectives. We are partly reliant on the National Cancer Institute for research and development and early clinical testing of certain of our product candidates. A portion of our research and development is being conducted by the NCI under the CRADA entered into in January 2017 and which was amended in March 2018, February 2019 and March 2022. Under the CRADA, the NCI, with Dr. Steven A. Rosenberg as the principal investigator, is responsible for conducting a clinical trial using the Sleeping Beauty system to express TCRs for the treatment of solid tumors. We have limited control over the nature or timing of the NCI’s clinical trial and limited visibility into their day-to-day activities, including with respect to how they are providing and administering T-cell therapy. For example, the research we are funding constitutes only a small portion of the NCI’s overall research. Additionally, other research being conducted by Dr. Rosenberg may at times receive higher priority than research on our program. Further, in response to the COVID-19 pandemic, the NCI has taken precautionary measures that have delayed the enrollment of the personalized TCR-T clinical trial using the Sleeping Beauty system to express TCRs for the treatment of solid tumors. In addition, enrollment in this clinical trial has been temporarily suspended due to issues internal to NCI and unrelated to our technology. The progress and timeline, including the timeline for dosing patients, for this trial are under the control of the NCI. The CRADA expired by its terms on January 9, 2022. In March 2022, we entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. We may not be able to commercialize any products, generate significant revenues, or attain profitability. To date, none of our product candidates have been approved for commercial sale in any country. The process to develop, obtain regulatory approval for, and commercialize potential product candidates is long, complex and costly. Unless and until we receive approval from the FDA and/or other foreign regulatory authorities for our product candidates, we cannot sell our products and will not have product revenues. Even if we obtain regulatory approval for one or more of our product candidates, if we are unable to successfully commercialize our products, we may not be able to generate sufficient revenues to achieve or maintain profitability or to continue our business without raising significant additional capital, which may not be available. Our failure to achieve or maintain profitability could negatively impact the trading price of our common stock. Our operating history makes it difficult to evaluate our business and prospects. We have not previously completed any pivotal clinical trials, submitted a BLA or demonstrated an ability to perform the functions necessary for the successful commercialization of any product candidates. The successful commercialization of any product candidates will require us to perform a variety of functions, includin • Continuing to undertake preclinical development and clinical trials; • Participating in regulatory approval processes; • Formulating and manufacturing products; and 29 Table of Contents • Conducting sales and marketing activities. Our operations have been limited to organizing and staffing our company, acquiring, developing and securing our proprietary product candidates and undertaking preclinical and clinical trials of our product candidates. These operations provide a limited basis for you to assess our ability to commercialize our product candidates and the advisability of investing in our securities. We may not be successful in establishing development and commercialization collaborations, which failure could adversely affect, and potentially prohibit, our ability to develop our product candidates. Developing biopharmaceutical products and complementary technologies, conducting clinical trials, obtaining marketing approval, establishing manufacturing capabilities and marketing approved products is expensive, and therefore, we anticipate exploring collaborations with third parties that have alternative technologies, more resources and more experience than we do. In situations where we enter into a development and commercial collaboration arrangement for a product candidate or complementary technology, we may also seek to establish additional collaborations for development and commercialization in territories outside of those addressed by the first collaboration arrangement for such product candidate or technology. There are a limited number of potential partners, and we expect to face competition in seeking appropriate partners. If we are unable to enter into any development and commercial collaborations and/or sales and marketing arrangements on reasonable and acceptable terms, if at all, we may be unable to successfully develop and seek regulatory approval for our product candidates and/or effectively market and sell future approved products, if any, in some or all of the territories outside of the United States where it may otherwise be valuable to do so. We may not be able to successfully manage our growth as we expand our development and regulatory capabilities, which could disrupt our operations. As we advance our product candidates to the point of, and through, clinical trials, we will need to expand our development, regulatory, manufacturing, marketing and sales capabilities or contract with third parties to provide for these capabilities. Our future financial performance and our ability to commercialize our product candidates and to compete effectively will depend, in part, on our ability to manage any future growth effectively. To manage this growth, we must expand our facilities, augment our operational, financial and management systems and hire and train additional qualified personnel with expertise in preclinical and clinical research and testing, manufacturing, government regulation and eventually sales and marketing. Competition for qualified individuals is intense among numerous biopharmaceutical companies, universities, and other research institutions and we cannot be certain that our search will be successful. If we are unable to manage our growth effectively, including attracting and retaining qualified personnel, our business may be harmed. Restructuring activities could disrupt our business and effect our results of operations. In addition, we may not achieve anticipated benefits and saving from such restructuring activities . In September 2021, we announced a restructuring enabling us to focus on and enhance our TCR program. We eliminated approximately 60 positions, representing more than 50% of our workforce. The restructuring resulted in the loss of institutional knowledge and expertise and the reallocation of and combination of certain roles and responsibilities across the organization, all of which could adversely affect our operations. Further, the restructuring and possible additional cost-containment measures may yield unintended consequences, such as attrition beyond our intended workforce reduction and reduced employee morale. In addition, we may not achieve anticipated benefits from the restructuring. Due to our limited resources, we may not be able to effectively manage our operations or retain qualified personnel, which may result in weaknesses to our infrastructure and operations, risks that we may be unable to comply with legal and regulatory requirements, and loss of employees and reduced productivity among remaining employees. For example, the workforce reduction may negatively impact our clinical, manufacturing and regulatory functions, which would have a negative impact on our ability to successfully develop and, ultimately, commercialize our product candidates. If our management is unable to successfully manage this transition and restructuring activities, our expenses may be more than expected and we may be unable to implement our business strategy. As a result, our future financial performance and our ability to commercialize our product candidates successfully would be negatively affected. Our business will subject us to the risk of liability claims associated with the use of hazardous materials and chemicals. Our contract research and development activities may involve the controlled use of hazardous materials and chemicals. Although we believe that our safety procedures for using, storing, handling and disposing of these materials comply with federal, state and local laws and regulations, we cannot completely eliminate the risk of accidental injury or contamination from these materials. In the event of such an accident, we could be held liable for any resulting damages, and any liability could have a materially adverse effect on our business, financial condition, and results of operations. In addition, the federal, state and local laws and regulations governing the use, manufacture, storage, handling and disposal of hazardous or radioactive materials and waste products may require our contractors to incur substantial compliance costs that could materially adversely affect our business, financial condition and results of operations. We may incur substantial liabilities and may be required to limit commercialization of our products in response to product liability lawsuits. The testing and marketing of medical products entail an inherent risk of product liability, and we will face an even greater risk if we commercially sell any medicines that we may develop. If we cannot successfully defend ourselves against product liability claims, we may 30 Table of Contents incur substantial liabilities or be required to limit commercialization of our products, if approved. Even a successful defense would require significant financial and management resources. Regardless of the merit or eventual outcome, liability claims may result in: • Decreased demand for our product candidates; • Injury to our reputation; • Withdrawal of clinical trial participants; • Initiation of investigations by regulators; • Withdrawal of prior governmental approvals; • Costs of related litigation; • Substantial monetary awards to patients; • Product recalls; • Loss of revenue; • The inability to commercialize our product candidates; and • A decline in our share price. Although we currently carry clinical trial insurance and product liability insurance which we believe to be reasonable, it may not be adequate to cover all liability that we may incur. An inability to renew our policies or to obtain sufficient insurance at an acceptable cost could prevent or inhibit the commercialization of pharmaceutical products that we develop, alone or with collaborators. Business disruptions could seriously harm our future revenue and financial condition and increase our costs and expenses. Our operations, and those of our clinical investigators, contractors and consultants, are based primarily in Houston, Texas. These operations could be subject to power shortages, telecommunications failures, water shortages, hurricanes, floods, earthquakes, fires, extreme weather conditions, medical epidemics and other natural or man-made disasters or business interruptions, for which we maintain customary insurance policies that we believe are appropriate. The occurrence of any of these business disruptions could seriously harm our operations and financial condition and increase our costs and expenses. Our ability to manufacture clinical supplies of our product candidates could be disrupted if our own operations or those of our suppliers are affected by a man-made or natural disaster or other business interruption. We may have limited recourse against third parties if the non-compliance is due to factors outside of the manufacturer’s control. We may be unable to find appropriate partners to continue the development of the product candidates we de-prioritized in 2021 which may prevent us from ever deriving meaningful revenue from them. In 2021, we elected to prioritize our Library TCR-T program and significantly reduced our activities in connection with our Controlled IL-12 and CAR-T programs to preserve our capital resources. The decision to significantly reduce activities for our Controlled IL-12 and CAR-T programs may negatively impact the potential for these programs, which could have a material adverse effect on our business. We are actively exploring partnership opportunities for our Controlled IL-12 and CAR-T programs to support their continued development. If we are unable to identify an appropriate strategic partner or to negotiate and consummate a license or sale agreement with such a partner, it will be difficult to advance the development of these two programs, increasing the likelihood that we may be unable to derive any meaningful revenue from these assets. We have also mutually agreed with TriArm Therapeutics Ltd., or TriArm, to dissolve the Eden BioCell joint venture. Our business, operations and clinical development plans and timelines could be adversely affected by the effects of health epidemics, including the COVID-19 pandemic, on the manufacturing, clinical trial and other business activities performed by us or by third parties with whom we conduct business, including our contract manufacturers, CROs, shippers and others. Our business could be adversely affected by health epidemics wherever we have clinical trial sites or other business operations. In addition, health epidemics could cause significant disruption in our manufacturing operations or the operations of third-party manufacturers, CROs and other third parties upon whom we rely or may rely on in the future. We depend on a worldwide supply chain to manufacture products used in our preclinical studies and clinical trials. Quarantines, shelter-in-place and similar government orders, or the expectation that such orders, shutdowns or other restrictions could occur, whether related to COVID-19 or other infectious diseases, could impact personnel at our own manufacturing facilities or third-party manufacturing facilities in the United States and other countries, or the availability or cost of materials, which could disrupt our supply chain. If our relationships with our suppliers or other vendors are terminated or scaled back as a result of the COVID-19 pandemic or other health epidemics, we may not be able to enter into arrangements with alternative suppliers or vendors or do so on commercially reasonable terms or in 31 Table of Contents a timely manner. Switching or adding additional suppliers or vendors involves substantial cost and requires management’s time and focus. In addition, there is a natural transition period when a new supplier or vendor commences work. As a result, delays may occur, which could adversely impact our ability to meet our desired clinical development and any future commercialization timelines. Although we carefully manage our relationships with our suppliers and vendors, there can be no assurance that we will not encounter challenges or delays in the future or that these delays or challenges will not harm our business. In addition, our preclinical studies and our ongoing TCR-T Library Phase 1/2 Trial at MD Anderson have been and may continue to be affected by the COVID-19 pandemic. Clinical site initiation, patient enrollment and activities that require visits to clinical sites, including data monitoring, have been and may continue to be delayed due to prioritization of hospital resources toward the COVID-19 pandemic or concerns among patients about participating in clinical trials during a pandemic. Some patients may have difficulty following certain aspects of clinical trial protocols if quarantines impede patient movement or interrupt healthcare services. Similarly, if we are unable to successfully recruit and retain patients, principal investigators, and site staff who, as healthcare providers, may have heightened exposure to COVID-19 or experience additional restrictions by their institutions, city, or state, our clinical trial operations could be adversely impacted. The global COVID-19 pandemic continues to evolve rapidly. The ultimate impact of the COVID-19 pandemic or a similar epidemic is highly uncertain and subject to change. We may experience a material impact on our operations, and we continue to monitor the COVID-19 situation closely. RISKS RELATED TO THE CLINICAL TESTING, GOVERNMENT REGULATION AND MANUFACTURING OF OUR PRODUCT CANDIDATES If we encounter difficulties enrolling patients in our clinical trials, our clinical development activities could be delayed or otherwise adversely affected. We may experience difficulties in patient enrollment in our clinical trials, including our ongoing TCR-T Library Phase 1/2 Trial, for a variety of reasons, including impacts that have resulted or may result from the COVID-19 pandemic. The timely completion of clinical trials in accordance with their protocols depends on, among other things, our ability to enroll a sufficient number of patients who remain in the clinical trial until its conclusion. The enrollment of patients depends on many factors, includin • The patient eligibility criteria defined in the clinical trial protocol; • The size of the patient population required for analysis of the clinical trial’s primary endpoints; • The proximity of patients to clinical trial sites; • The design of the clinical trial; • Our ability to recruit and retain clinical trial investigators with the appropriate competencies and experience; • Our ability to obtain and maintain patient consents; • Reporting of the preliminary results of any of our clinical trials; and • The risk that patients enrolled in clinical trials will drop out of the clinical trials before the manufacturing and infusion of our product candidates or clinical trial completion. Our clinical trials will compete with other clinical trials for product candidates that are in the same therapeutic areas as our product candidates, and this competition will reduce the number and types of patients available to us because some of our potential patients may instead opt to enroll in a clinical trial being conducted by one of our competitors. In addition, patients may be unwilling to participate in our studies because of negative publicity from adverse events in the biotechnology industry or for other reasons. Since the number of qualified clinical investigators is limited, we expect to conduct some of our clinical trials at the same clinical trial sites that some of our competitors use, which will reduce the number of patients who are available for our clinical trials at such clinical trial sites. Moreover, because our product candidates represent a departure from more commonly used methods for cancer treatment, potential patients and their doctors may be inclined to use conventional therapies, such as chemotherapy and hematopoietic stem cell transplantation, rather than enroll patients in any future clinical trial. Additionally, because some of our clinical trials are in patients with relapsed/refractory cancer, the patients are typically in the late stages of their disease and may experience disease progression independent from our product candidates, making them unevaluable for purposes of the clinical trial and requiring additional patient enrollment. Delays in completing patient enrollment may result in increased costs or may affect the timing or outcome of our ongoing and planned clinical trials, which could prevent completion or commencement of these clinical trials and adversely affect our ability to advance the development of our product candidates. Our product candidates are subject to extensive regulation and compliance, which is costly and time consuming, and such regulation may cause unanticipated delays or prevent the receipt of the required approvals to commercialize our product candidates. 32 Table of Contents The clinical development, manufacturing, labeling, packaging, storage, record-keeping, advertising, promotion, import, export, marketing, distribution and adverse event reporting, including the submission of safety and other information, of our product candidates are subject to extensive regulation by the FDA in the United States and by comparable foreign regulatory authorities in foreign markets. The process of obtaining regulatory approval is expensive, often takes many years following the commencement of clinical trials. Approval policies or regulations may change, and the FDA has substantial discretion in the drug approval process, including the ability to delay, limit or deny approval of a product candidate for many reasons. Regulatory approval is never guaranteed. Prior to obtaining approval to commercialize a product candidate in the United States or abroad, we or our collaborators must demonstrate with substantial evidence from adequate and well-controlled clinical trials, and to the satisfaction of the FDA or comparable foreign regulatory authorities, that such product candidates are safe and effective, or with respect to a biological product candidate, safe, pure and potent, for their intended uses. The FDA or comparable foreign regulatory authorities can delay, limit or deny approval of a product candidate for many reasons, includin • Such authorities may disagree with the design or implementation of our or our current or future collaborators’ clinical trials; • Negative or ambiguous results from our clinical trials or results may not meet the level of statistical significance required by the FDA or comparable foreign regulatory agencies for approval; • Serious and unexpected drug-related side effects may be experienced by participants in our clinical trials or by individuals using drugs or biologics similar to our therapeutic product candidates; • Such authorities may not accept clinical data from trials which are conducted at clinical facilities or in countries where the standard of care is potentially different from that of the United States; • We, or any of our current or future collaborators, may be unable to demonstrate that a product candidate is safe and effective, and that the therapeutic product candidate’s clinical and other benefits outweigh its safety risks; • We may be unable to demonstrate to the satisfaction of such authorities that our companion diagnostics are suitable to identify appropriate patient populations; • Such authorities may disagree with our interpretation of data from preclinical studies or clinical trials; • Such authorities may not agree that the data collected from clinical trials of our product candidates are acceptable or sufficient to support the submission of a BLA, NDA, premarket approval, or PMA, or other submission or to obtain regulatory approval in the United States or elsewhere, and such authorities may impose requirements for additional preclinical studies or clinical trials; • Such authorities may disagree regarding the formulation, labeling and/or the specifications of our product candidates; • Approval may be granted only for indications that are significantly more limited than what we apply for and/or with other significant restrictions on distribution and use; • Such authorities may find deficiencies in the manufacturing processes, test procedures and specifications or facilities of our third-party manufacturers with which we or any of our current or future collaborators contract for clinical and commercial supplies; • Regulations and approval policies of such authorities may significantly change in a manner rendering our or any of our potential future collaborators’ clinical data insufficient for approval; or • Such authorities may not accept a submission due to, among other reasons, the content or formatting of the submission. This lengthy approval process, as well as the unpredictability of the results of clinical trials, may result in our failing to obtain regulatory approval to market any of our product candidates, which would significantly harm our business, results of operations and prospects. In addition, even if we obtain approval of our product candidates, regulatory authorities may approve any of our product candidates for fewer or more limited indications than we request, may impose significant limitations in the form of narrow indications, warnings, or a Risk Evaluation and Mitigation Strategy, or REMS. Events raising questions about the safety of certain marketed biopharmaceuticals may result in increased cautiousness by the FDA and comparable foreign regulatory authorities in reviewing new drugs or biologics based on safety, efficacy or other regulatory considerations and may result in significant delays in obtaining regulatory approvals. Any delay in obtaining, or inability to obtain, applicable regulatory approvals would prevent us or any of our potential future collaborators from commercializing our product candidates. We are very early in our development efforts. Our most advanced product candidates are only in an early-stage clinical trial, which is very expensive and time-consuming. We cannot be certain when we will be able to submit a BLA to the FDA and any failure or delay in completing clinical trials for our product candidates could harm our business. Our product candidates are in various stages of development and require extensive clinical testing. Our most advanced product candidates are in our TCR-T Library Phase 1/2 Trial, which is currently enrolling. Human clinical trials are very expensive and difficult to design, initiate and 33 Table of Contents implement, in part because they are subject to rigorous regulatory requirements. Notwithstanding our current clinical trial plans for each of our existing product candidates, which we estimate will take several years to complete, we may not be able to commence additional trials or see results from these trials within our anticipated timelines. Failure can occur at any stage of a clinical trial, and we can encounter problems that cause us to delay the start of, abandon or repeat clinical trials. Some factors which may lead to a delay in the commencement or completion of our clinical trials inclu requests for additional nonclinical data from regulators, unforeseen safety issues, dosing issues, lack of effectiveness during clinical trials, difficulty recruiting or monitoring patients, difficulty manufacturing clinical products, among other factors. As they enter later stages of development, our product candidates generally will become subject to more stringent regulatory requirements, including the FDA’s requirements for chemistry, manufacturing and controls for product candidates entering Phase 3 clinical trials. There is no guarantee the FDA will allow us to commence Phase 3 clinical trials for product candidates studied in earlier clinical trials. If the FDA does not allow our product candidates to enter later stage clinical trials or requires changes to the formulation or manufacture of our product candidates before commencing Phase 3 clinical trials, our ability to further develop, or seek approval for, such product candidates may be materially impacted. As such, we cannot predict with any certainty if or when we might submit a BLA for regulatory approval of our product candidates or whether such a BLA will be accepted. Because we do not anticipate generating revenues unless and until we submit one or more BLAs and thereafter obtain requisite FDA approvals, the timing of our BLA submissions and FDA determinations regarding approval thereof will directly affect if and when we are able to generate revenues. Our product candidates may cause undesirable side effects or have other properties that could delay or prevent their regulatory approval, limit the commercial profile of an approved label or result in significant negative consequences following any potential marketing approval. As with many pharmaceutical and biological products, treatment with our product candidates may produce undesirable side effects or adverse reactions or events, including potential adverse side effects related to cytokine release. If our product candidates or similar products or product candidates under development by third parties demonstrate unacceptable adverse events, we may be required to halt or delay further clinical development of our product candidates. The FDA or other foreign regulatory authorities could order us to cease further development of or deny approval of our product candidates for any or all targeted indications. If a serious adverse event was to occur in our TCR-T Library Phase 1/2 Trial, the FDA may place a hold on the clinical trial. The product-related side effects could affect patient recruitment or the ability of enrolled patients to complete the trial or result in potential product liability claims. In addition, these side effects may not be appropriately or timely recognized or managed by the treating medical staff, particularly outside of the institutions that collaborate with us, as toxicities resulting from our novel technologies may not be normally encountered in the general patient population and by medical personnel. We expect to have to train medical personnel using our product candidates to understand their side effect profiles, both for our planned clinical trials and upon any commercialization of any product candidates. Inadequate training in recognizing or managing the potential side effects of our product candidates could result in adverse effects to patients, including death. Additionally, if one or more of our product candidates receives marketing approval, and we or others later identify undesirable side effects caused by such products, including during any long-term follow-up observation period recommended or required for patients who receive treatment using our products candidates, a number of potentially significant negative consequences could result, includin • regulatory authorities may withdraw approvals of such product; • regulatory authorities may require additional warnings on the product’s label; • we may be required to create a risk evaluation and mitigation strategy plan, which could include a medication guide outlining the risks of such side effects for distribution to patients, a communication plan for healthcare providers and/or other elements to assure safe use; • we could be sued and held liable for harm caused to patients; and • our reputation may suffer. Any of the foregoing could prevent us from achieving or maintaining market acceptance of the particular product candidate, if approved. Furthermore, any of these occurrences may harm our business, financial condition and prospects significantly. Our cell-based therapy immuno-oncology product candidates rely on the availability of reagents, specialized equipment and other specialty materials and infrastructure, which may not be available to us on acceptable terms or at all. For some of these reagents, equipment and materials, we rely or may rely on sole source vendors or a limited number of vendors, which could impair our ability to manufacture and supply our products. Manufacturing our product candidates will require many reagents, which are substances used in our manufacturing processes to bring about chemical or biological reactions, and other specialty materials and equipment, some of which are manufactured or supplied by small companies with limited resources and experience to support commercial biologics production. We currently depend on a limited number of vendors for certain materials and equipment used in the manufacture of our product candidates, including the DNA plasmids used, which are used as the vector to insert our TCRs into human T cells. Some of these suppliers may not have the capacity to support commercial products manufactured under current good manufacturing practices by biopharmaceutical firms or may otherwise be ill-equipped to support our needs. We also do not 34 Table of Contents have supply contracts with many of these suppliers and may not be able to obtain supply contracts with them on acceptable terms or at all. Accordingly, we may experience delays in receiving key materials and equipment to support clinical or commercial manufacturing. For some of these reagents, equipment, infrastructure, and materials, we rely and may in the future rely on sole source vendors or a limited number of vendors. An inability to continue to source product from any of these suppliers, which could be due to regulatory actions or requirements affecting the supplier, adverse financial or other strategic developments experienced by a supplier, labor disputes or shortages, unexpected demands, or quality issues, could adversely affect our ability to satisfy demand for our product candidates, which could adversely and materially affect our product sales and operating results or our ability to conduct clinical trials, either of which could significantly harm our business. In addition, some of the reagents and products used by us, including in our clinical trials, may be stored at a single vendor. The loss of materials located at a single vendor, or the failure of such a vendor to manufacture clinical product in accordance with our specifications, would impact our ability to conduct ongoing or planned clinical trials and continue the development of our products. Further, manufacturing replacement material may be expensive and require a significant amount of time, which may further impact our clinical programs. As we continue to develop and scale our manufacturing process, we expect that we will need to obtain additional rights to and supplies of certain materials and equipment to be used as part of that process. We may not be able to maintain rights to such materials on commercially reasonable terms, or at all, and if we are unable to alter our process in a commercially viable manner to avoid the use of such materials or find a suitable substitute, it would have a material adverse effect on our business. Even if we are able to alter our process so as to use other materials or equipment, such a change may lead to a delay in our clinical development and/or commercialization plans. If such a change occurs for a product candidate that is already in clinical trials, the change may require us to perform both ex vivo comparability studies and to collect additional data from patients prior to undertaking more advanced clinical trials. Because we are dependent, at least in part, upon clinical research institutions and other CROs for clinical testing and/or for research and development activities, the results of our clinical trials and such research activities are, to a certain extent, beyond our control. We materially rely upon independent investigators and collaborators, such as universities and medical institutions, to conduct our clinical trials under agreements with us. In addition, we hire CROs to help us manage clinical trials, collect data and analyze clinical samples. These collaborators are not our employees, and we cannot control the amount or timing of resources that they devote to our programs. These investigators may not assign as great a priority to our programs or pursue them as diligently as we would if we were undertaking such programs ourselves. If outside collaborators fail to devote sufficient time and resources to our product development programs, or if their performance is substandard, the approval of our FDA applications, if any, and our introduction of new products, if any, will be delayed. These institutions may also have, or implement in the future, policies and procedures that limit their ability to advance our programs. These collaborators may also have relationships with other commercial entities, some of whom may compete with us. If our collaborators assist our competitors to our detriment, our competitive position would be harmed. We have limited experience producing and supplying our product candidates. We may be unable to consistently manufacture our product candidates to the necessary specifications or in quantities necessary to treat patients in our clinical trials. We have limited experience in biopharmaceutical manufacturing. We recently began manufacturing our product candidates at our in-house cGMP manufacturing facility at our leased headquarters in Houston, Texas. Our ability to manufacture our product candidates depends on our finding and retaining personnel with the appropriate background and training to staff and operate the facility on a daily basis. Should we be unable to find or retain these individuals, we may need to train additional personnel to fill the needed roles or engage with external contractors. There are a small number of individuals with experience in cell therapy and the competition for these individuals is high. Specifically, the operation of a cell-therapy manufacturing facility is a complex endeavor requiring knowledgeable individuals who have successful previous experience in cleanroom environments. Cell therapy facilities, like other biological agent manufacturing facilities, require appropriate commissioning and validation activities to demonstrate that they operate as designed. Additionally, each manufacturing process must be proven through the performance of process validation runs to guarantee that the facility, personnel, equipment, and process work as designed. While we have developed our own manufacturing processes using an in-house team, there is timing risk associated with increased in-house product manufacture. The manufacture of our product candidates is complex and requires significant expertise and capital investment, including the development of advanced manufacturing techniques and process controls. Manufacturers of cell therapy products often encounter difficulties in production, particularly in scaling out and validating initial production and ensuring the absence of contamination. These include difficulties with production costs and yields, quality control, including stability of the product, quality assurance testing, operator error, shortages of qualified personnel, as well as compliance with strictly enforced federal, state and foreign regulations. Furthermore, if contaminants are discovered in our supply of product candidates or in our manufacturing facilities, the manufacturing facilities may need to be closed for an extended period to investigate and remedy the contamination. It is possible that stability or other issues relating to the manufacture of our product candidates could occur in the future. Our product candidates currently are and will continue to be manufactured on a patient-by-patient basis. Delays in manufacturing could adversely impact the treatment of each patient and may discourage participation in our current or future clinical trials. We have not yet 35 Table of Contents manufactured our clinical trial product candidates on a large scale and may not be able to achieve large scale clinical trial or commercial manufacturing and processing on our own to satisfy expected clinical trial or commercial demands for any of our product candidates. While we believe that our current manufacturing and processing approaches are appropriate to support our early-stage clinical product development, we have limited experience in managing the T cell engineering process, and our processes may be more difficult or more expensive than anticipated. The manufacturing processes employed by us may not result in product candidates that will be safe and effective. If we are unable to manufacture sufficient number of TCR-T cells for our product candidates, our development efforts would be delayed, which would adversely affect our business and prospects. Our manufacturing operations will be subject to review and oversight by the FDA upon commencement of the manufacturing of our product candidates for our TCR-T Library Phase 1/2 Trial. We will be subject to ongoing periodic unannounced inspection by the FDA, the Drug Enforcement Administration and corresponding state agencies to ensure strict compliance with current good manufacturing practices, or cGMP, and other government regulations. Our license to manufacture product candidates will be subject to continued regulatory review. We do not yet have sufficient information to reliably estimate the cost of commercial manufacturing and processing of our product candidates. The actual cost to manufacture and process our product candidates could materially and adversely affect the commercial viability of our product candidates. As a result, we may never be able to develop a commercially viable product. We also may fail to manage the logistics of collecting and shipping patient material to our manufacturing site and shipping the product candidate back to the patient. Logistical and shipment delays and problems, whether or not caused by us or our vendors, could prevent or delay the delivery of product candidates to patients. In addition, it is possible that we could experience manufacturing difficulties in the future due to resource constraints or because of labor disputes. If we were to encounter any of these difficulties, our ability to provide our product candidates to patients could be materially adversely affected. We may have difficulty validating our manufacturing process as we manufacture our product candidates from an increasingly diverse patient population for our clinical trials. During our development of the manufacturing process, our TCR-T cell product candidates have demonstrated consistency from lot to lot and from donor to donor. However, our sample size is small and the starting material used during our development work came from healthy donors. Once we have experience with working with white blood cells taken from our patient population, we may encounter unforeseen difficulties due to starting with material from donors who are not healthy, including challenges inherent in harvesting white blood cells from unhealthy patients. Although we believe our current manufacturing process is scalable for our clinical trials, and if our any of our product candidates are approved or commercialized, we may encounter challenges in validating our process due to the heterogeneity of the product starting material. However, we anticipate that during the early phases of our clinical trials we will be able to adapt our process to account for these differences resulting in a more robust process. We cannot guarantee that any other issues relating to the heterogeneity of the starting material will not impact our ability to commercially manufacturing our product candidates. The gene transfer vectors from our Sleeping Beauty system used to manufacture our product candidates may incorrectly modify the genetic material of a patient’s T cells, potentially triggering the development of a new cancer or other adverse events. Our TCR-T cells are manufactured using our Sleeping Beauty system, a non-viral vector to insert genetic information encoding the TCR construct into the patient’s T cells. The TCR construct is then primarily integrated at thymine-adenine, or TA, dinucleotide sites throughout the patient’s genome and, once expressed as protein, is transported to the surface of the patient’s T cells. Because the gene transfer vector modifies the genetic information of the T cell, there is a theoretical risk that modification will occur in the wrong place in the T cell’s genetic code, leading to vector-related insertional oncogenesis, and causing the T cell to become cancerous. If the cancerous T cell is then administered to the patient, the cancerous T cell could trigger the development of a new cancer in the patient. We use non-viral vectors to insert genetic information into T cells, which we believe have a lower risk of insertional oncogenesis as opposed to viral vectors. However, the risk of insertional oncogenesis remains a concern for gene therapy, and we cannot assure that it will not occur in any of our ongoing or planned clinical trials. There is also the potential risk of delayed adverse events following exposure to gene therapy products due to persistent biological activity of the genetic material or other components of the vectors used to carry the genetic material. Although we use non-viral vectors, the FDA has stated that lentiviral vectors possess characteristics that may pose high risks of delayed adverse events. If any such adverse events occur from our non-viral vector, further advancement of our preclinical studies or clinical trials could be halted or delayed, which would have a material adverse effect on our business and operations. Any product candidate for which we obtain marketing approval could be subject to post-marketing restrictions or withdrawal from the market and we may be subject to penalties if we fail to comply with regulatory requirements or if we experience unanticipated problems with our products, when and if any of them are approved. Any product candidate for which we obtain marketing approval, along with the manufacturing processes, post-approval clinical data, labeling, advertising and promotional activities for such product, will be subject to continual requirements of and review by the FDA and other 36 Table of Contents regulatory authorities. These requirements include, among other things, submissions of safety and other post-marketing information and reports, registration and listing requirements, cGMP requirements relating to manufacturing, quality control, quality assurance and corresponding maintenance of records and documents, requirements regarding the distribution of samples to physicians and recordkeeping. Even if marketing approval of a product candidate is granted, the approval may be subject to limitations on the indicated uses for which the product may be marketed or to the conditions of approval, including the requirement to implement a REMS, which could include requirements for a restricted distribution system. If any of our product candidates receives marketing approval, the accompanying label may limit the approved uses, which could limit sales of the product. The FDA may also impose requirements for costly post-marketing studies or clinical trials and surveillance to monitor the safety or efficacy of our approved products. The FDA closely regulates the post-approval marketing and promotion of products to ensure that they are marketed only for the approved indications and in accordance with the provisions of the approved labeling. However, companies may share truthful and not misleading information that is otherwise consistent with the labeling. The FDA imposes stringent restrictions on manufacturers’ communications regarding off-label use and if we market our products outside of their approved indications, we may be subject to enforcement action for off-label marketing. Violations of the Federal Food, Drug and Cosmetic Act relating to the promotion of prescription drugs may lead to investigations alleging violations of federal and state health care fraud and abuse laws, as well as state consumer protection laws. In addition, later discovery of previously unknown adverse events or other problems with our products, manufacturers or manufacturing processes, or failure to comply with regulatory requirements, may yield various results, includin • Litigation involving patients taking our product; • Restrictions on such products, manufacturers or manufacturing processes; • Restrictions on the labeling or marketing of a product; • Restrictions on product distribution or use; • Requirements to conduct post-marketing studies or clinical trials; • Warning letters; • Withdrawal of the products from the market; • Refusal to approve pending applications or supplements to approved applications that we submit; • Recall of products; • Fines, restitution or disgorgement of profits or revenues; • Suspension or withdrawal of marketing approvals; • Damage to relationships with existing and potential collaborators; • Unfavorable press coverage and damage to our reputation; • Refusal to permit the import or export of our products; • Product seizure; and • Injunctions or the imposition of civil or criminal penalties. Noncompliance with requirements regarding safety monitoring or pharmacovigilance can also result in significant financial penalties. Similarly, failure to comply with U.S. and foreign regulatory requirements regarding the development of products for pediatric populations and the protection of personal health information can also lead to significant penalties and sanctions. RISKS RELATED TO OUR ABILITY TO COMMERCIALIZE OUR PRODUCT CANDIDATES If we are unable to obtain the necessary U.S. or worldwide regulatory approvals to commercialize any product candidate, our business will suffer. We may not be able to obtain the approvals necessary to commercialize our product candidates, or any product candidate that we may acquire or develop in the future for commercial sale. We will need FDA approval to commercialize our product candidates in the United States and approvals from regulatory authorities in foreign jurisdictions equivalent to the FDA to commercialize our product candidates in those jurisdictions. In order to obtain FDA approval of any product candidate, we must submit to the FDA a BLA demonstrating that the product candidate is safe for humans and effective for its intended use. This demonstration requires significant research and animal tests, which are referred to as preclinical studies, as well as human tests, which are referred to as clinical trials. Satisfaction of the FDA’s regulatory requirements typically takes many years, depending upon the type, complexity and novelty of the product candidate, and will require substantial resources for research, development and testing. We cannot predict whether our research, development, and clinical approaches will 37 Table of Contents result in products that the FDA will consider safe for humans and effective for their intended uses. The FDA has substantial discretion in the approval process and may require us to conduct additional preclinical and clinical testing or to perform post-marketing studies. The approval process may also be delayed by changes in government regulation, future legislation or administrative action or changes in FDA policy that occur prior to or during our regulatory review. Delays in obtaining regulatory approvals may: • Delay commercialization of, and our ability to derive product revenues from, our product candidates; • Impose costly procedures on us; and • Diminish any competitive advantages that we may otherwise enjoy. Even if we comply with all FDA requests, the FDA may ultimately reject one or more of our BLAs. We cannot be sure that we will ever obtain regulatory approval for any of our product candidates. Failure to obtain FDA approval for our product candidates will severely undermine our business by leaving us without a marketable product, and therefore without any potential revenue source, until another product candidate can be developed. There is no guarantee that we will ever be able to develop or acquire another product candidate or that we will obtain FDA approval if we are able to do so. In foreign jurisdictions, we similarly must receive approval from applicable regulatory authorities before we can commercialize any of our product candidates. Foreign regulatory approval processes generally include all of the risks associated with the FDA approval procedures described above. If we are unable either to create sales, marketing and distribution capabilities or enter into agreements with third parties to perform these functions, we will be unable to commercialize our product candidates successfully. We currently have no marketing, sales, or distribution capabilities. If, and when we become reasonably certain that we will be able to commercialize our current or future product candidates, we anticipate allocating resources to the marketing, sales and distribution of our proposed products in North America and in certain other countries; however, we cannot assure that we will be able to market, sell, and distribute our products successfully. Our future success also may depend, in part, on our ability to enter into and maintain collaborative relationships for such capabilities and to encourage the collaborator’s strategic interest in the products under development, and such collaborator’s ability to successfully market and sell any such products. Although we intend to pursue certain collaborative arrangements regarding the sale and marketing of certain of our product candidates, there are no assurances that we will be able to establish or maintain collaborative arrangements or, if we are able to do so, whether we would be able to conduct our own sales efforts. There can also be no assurance that we will be able to establish or maintain relationships with third-party collaborators or develop in-house sales and distribution capabilities. To the extent that we depend on third parties for marketing and distribution, any revenues we receive will depend upon the efforts of such third parties, and there can be no assurance that such efforts will be successful. In addition, there can also be no assurance that we will be able to market and sell our product candidates in the United States or overseas. If we are not able to partner with a third party and are not successful in recruiting sales and marketing personnel or in building a sales and marketing infrastructure, we will have difficulty commercializing our product candidates, which would harm our business. If we rely on pharmaceutical or biotechnology companies with established distribution systems to market our products, we will need to establish and maintain partnership arrangements, and we may not be able to enter into these arrangements on acceptable terms or at all. To the extent that we enter into co-promotion or other arrangements, any revenues we receive will depend upon the efforts of third parties that may not be successful and that will be only partially in our control. If physicians and patients do not accept and use our product candidates, once approved, our ability to generate revenue from sales of our products will be materially impaired. Even if the FDA and/or foreign equivalents thereof approve our product candidates, physicians and patients may not accept and use them. The use of engineered T cells as potential cancer treatments is a relatively recent development and may not become broadly accepted by physicians, patients, hospitals, cancer treatment centers, third-party payors and others in the medical community. Acceptance and use of our products will depend upon a number of factors includin • The clinical indications for which our product candidates are approved; • Perceptions by members of the healthcare community, including physicians, about the safety and effectiveness of our products; • The prevalence and severity of any side effects; • Pharmacological benefit and cost-effectiveness of our products relative to competing products; • Relative convenience and ease of administration, including as compared to alternative treatments and competitive therapies; • Availability of coverage and adequate reimbursement for our products from government or other third-party payors; • Effectiveness of marketing and distribution efforts by us and our licensees and distributors, if any; and 38 Table of Contents • The price at which we sell our products. Because we expect sales of our current product candidates, if approved, to generate substantially all of our product revenues for the foreseeable future, the failure of a product to find market acceptance would harm our business and could require us to seek additional financing in order to fund the development of future product candidates. Even if our products achieve market acceptance, we may not be able to maintain that market acceptance over time if new products or technologies are introduced that are more favorably received than our products, are more cost effective or render our products obsolete. Our ability to generate product revenues will be diminished if our products do not obtain coverage and adequate reimbursement from payors. Our ability to commercialize our product candidates, if approved, alone or with collaborators, will depend in part on the extent to which coverage and reimbursement will be available from third-party payors, including government and health administration authorities, private health maintenance organizations and health insurers and other payors. Patients who are prescribed medicine for the treatment of their conditions generally rely on third-party payors to reimburse all or part of the costs associated with their prescription drugs. Sufficient coverage and adequate reimbursement from third-party payors are critical to new product acceptance. Coverage decisions may depend upon clinical and economic standards that disfavor new drug products when more established or lower cost therapeutic alternatives are already available or subsequently become available. It is difficult to predict the coverage and reimbursement decisions that will be made by third-party payors for novel gene and cell therapy products such as ours. Even if we obtain coverage for our product candidates, the resulting reimbursement payment rates might not be adequate or may require co-payments that patients find unacceptably high. Patients are unlikely to use our product candidates unless coverage is provided, and reimbursement is adequate to cover a significant portion of the cost of our product candidates. In addition, the market for our product candidates for which we may receive regulatory approval will depend significantly on access to third-party payors’ drug formularies or lists of medications for which third-party payors provide coverage and reimbursement, which might not include all of the FDA-approved drugs for a particular indication. The industry competition to be included in such formularies often leads to downward pricing pressures on pharmaceutical companies. Also, third-party payors may refuse to include a particular branded drug in their formularies or otherwise restrict patient access to a branded drug when a less costly generic equivalent or other alternative is available. Third-party payors, whether foreign or domestic, or governmental or commercial, are developing increasingly sophisticated methods of controlling healthcare costs. In addition, in the United States, no uniform policy of coverage and reimbursement for drug products exists among third-party payors. Therefore, coverage and reimbursement for drug products can differ significantly from payor to payor. As a result, the coverage determination process is often a time-consuming and costly process that requires us to provide scientific and clinical support for the use of our products to each payor separately, with no assurance that approval will be obtained. If we are unable to obtain coverage of and adequate payment levels for our product candidates from third-party payors, physicians may limit how much or under what circumstances they will prescribe or administer our products and patients may decline to purchase them. This in turn could affect our ability to successfully commercialize our products and impact our profitability, results of operations, financial condition, and future success. In addition, in many foreign countries, particularly the countries of the EU, the pricing of prescription drugs is subject to government control. In some non-U.S. jurisdictions, the proposed pricing for a drug must be approved before it may be lawfully marketed. The requirements governing drug pricing vary widely from country to country. For example, the EU provides options for its member states to restrict the range of medicinal products for which their national health insurance systems provide reimbursement and to control the prices of medicinal products for human use. A member state may approve a specific price for the medicinal product or it may instead adopt a system of direct or indirect controls on the profitability of the company placing the medicinal product on the market. We may face competition for our product candidates from lower-priced products in foreign countries that have placed price controls on pharmaceutical products. In addition, there may be importation of foreign products that compete with our own products, which could negatively impact our profitability. The market opportunities for our product candidates may be limited to those patients who are ineligible for or have failed prior treatments and may be small. Cancer therapies are sometimes characterized as first line, second line or third line, and the FDA often approves new therapies initially only for third line use. When cancer is detected early enough, first line therapy is sometimes adequate to cure the cancer or prolong life without a cure. Whenever first line therapy, usually chemotherapy, hormone therapy, surgery, or a combination of these, proves unsuccessful, second line therapy may be administered. Second line therapies often consist of more chemotherapy, radiation, antibody drugs, tumor targeted small molecules, or a combination of these. Third line therapies can include bone marrow transplantation, antibody and small molecule targeted therapies, more invasive forms of surgery and new technologies. We expect to initially seek approval of our product candidates as a third line therapy for patients who have failed other approved treatments. Subsequently, for those products that prove to be sufficiently beneficial, if any, we would expect to seek approval as a second line therapy and potentially as a first line therapy, but there is no guarantee that our product candidates, even if approved, would be approved for second line or first line therapy. In addition, we may have to conduct additional clinical trials prior to gaining approval for second line or first line therapy. Our projections of both the number of people who have the cancers we are targeting, as well as the subset of people with these cancers in a position to receive therapy and who have the potential to benefit from treatment with our product candidates, are based on our beliefs and 39 Table of Contents estimates. These estimates have been derived from a variety of sources, including scientific literature, surveys of clinics, patient foundations or market research and may prove to be incorrect. Further, new studies may change the estimated incidence or prevalence of these cancers. The number of patients may turn out to be lower than expected. Additionally, the potentially addressable patient population for our product candidates may be limited or may not be amenable to treatment with our product candidates. Our market opportunities may also be limited by competitor treatments that may enter the market. Healthcare legislative reform measures may have a material adverse effect on our business and results of operations. In both the United States and certain foreign jurisdictions, there have been a number of legislative and regulatory enactments in recent years that change the healthcare system in ways that could impact our future ability to sell our product candidates profitably. Furthermore, there have been and continue to be a number of initiatives at the federal and state level that seek to reduce healthcare costs. Most significantly, in March 2010, President Obama signed into law the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act, or collectively the ACA, which included measures that have significantly changed the way healthcare is financed by both governmental and private insurers. Among the provisions of the ACA of importance to the pharmaceutical industry are the followin • Created an annual, nondeductible fee on any entity that manufactures or imports certain branded prescription drugs and biologic agents, apportioned among these entities according to their market share in certain government healthcare programs; • Increased the statutory minimum rebates a manufacturer must pay under the Medicaid Drug Rebate Program to 23.1% and 13% of the average manufacturer price for most branded and generic drugs, respectively; • Created a new Medicare Part D coverage gap discount program, in which manufacturers must now agree to offer 70% point-of-sale discounts off negotiated prices of applicable brand drugs to eligible beneficiaries during their coverage gap period, as a condition for the manufacturer’s outpatient drugs to be covered under Medicare Part D; • Extended manufacturers’ Medicaid rebate liability to covered drugs dispensed to individuals who are enrolled in Medicaid managed care organizations; • Created new methodologies by which rebates owed by manufacturers under the Medicaid Drug Rebate Program are calculated for drugs that are inhaled, infused, instilled, implanted or injected, and for drugs that are line extensions; • Expanded eligibility criteria for Medicaid programs by, among other things, allowing states to offer Medicaid coverage to additional individuals with income at or below 133% of the Federal Poverty Level, thereby potentially increasing both the volume of sales and manufacturers’ Medicaid rebate liability; • Expanded the entities eligible for discounts under the Public Health Service pharmaceutical pricing program; • Created a new requirement to annually report drug samples that certain manufacturers and authorized distributors provide to physicians; • Expanded healthcare fraud and abuse laws, including the False Claims Act and the federal Anti-Kickback Statute, new government investigative powers, and enhanced penalties for noncompliance; • Created a licensure framework for follow-on biologic products; • Created new requirements under the federal Physician Payments Sunshine Act for certain drug manufacturers to annually report information related to payments and other transfers of value made to physicians, as defined by such law, and teaching hospitals as well as ownership or investment interests held by physicians and their immediate family members; • Created a Patient-Centered Outcomes Research Institute to oversee, identify priorities in, and conduct comparative clinical effectiveness research, along with funding for such research; and • Established a Center for Medicare & Medicaid Innovation at the Centers for Medicare & Medicaid Services, or CMS, to test innovative payment and service delivery models to lower Medicare and Medicaid spending, potentially including prescription drug spending. There have been executive, legal and political challenges to certain aspects of the ACA. For example, President Trump signed several executive orders and other directives designed to delay, circumvent or loosen certain requirements mandated by the ACA. Concurrently, Congress considered legislation to repeal or repeal and replace all or part of the ACA. While Congress has not passed comprehensive repeal legislation, several bills affecting the implementation of certain taxes under the ACA have been signed into law. In December 2017, Congress repealed the tax penalty, effective January 1, 2019, for an individual’s failure to maintain ACA-mandated health insurance as part of the Tax Cuts and Jobs Act of 2017, or the Tax Act. On June 17, 2021, the U.S. Supreme Court dismissed a challenge on procedural grounds that argued that ACA is unconstitutional in its entirety because the “individual mandate” was repealed by Congress. Thus, the ACA will remain in effect in its current form. Further, prior to the U.S. Supreme Court ruling on January 28, 2021, President Biden issued an executive order that initiated a 40 Table of Contents special enrollment period for purposes of obtaining health care coverage through the ACA marketplace, which began on February 21, 2021 and remained open through August 15, 2021. The executive order also instructed certain governmental agencies to review and reconsider their existing policies and rules that limit access to healthcare, including among others, reexamining Medicaid demonstration projects and waiver programs that include work requirements, and policies that create unnecessary barriers to obtaining access to health insurance coverage through Medicaid or the ACA. It is possible that the ACA will be subject to judicial or Congressional challenges in the future. It is unclear how any such challenges and the healthcare reform measures of the Biden administration will impact ACA and our business. The ultimate content, timing or effect of any healthcare reform measures on the U.S. healthcare industry is unclear. Further, there has been increasing legislative and enforcement interest in the United States with respect to specialty drug pricing practices. As a result, there have been several U.S. Congressional inquiries and proposed and enacted federal and state legislation designed to, among other things, bring more transparency to drug pricing, review the relationship between pricing and manufacturer patient programs and reform government program reimbursement methodologies for drugs. At the federal level, the Trump administration used several means to propose or implement drug pricing reform, including through federal budget proposals, executive orders and policy initiatives. For example, on July 24, 2020 and September 13, 2020, the Trump administration announced several executive orders related to prescription drug pricing that attempt to implement several of the administration’s proposals. The FDA also released a final rule, effective November 30, 2020, implementing a portion of the importation executive order providing guidance for states to build and submit importation plans for drugs from Canada. Further, on November 20, 2020, HHS, finalized a regulation removing safe harbor protection for price reductions from pharmaceutical manufacturers to plan sponsors under Medicare Part D, either directly or through pharmacy benefit managers, unless the price reduction is required by law. The implementation of the rule has been delayed by the Biden administration from January 1, 2022 to January 1, 2023 in response to ongoing litigation. The rule also creates a new safe harbor for price reductions reflected at the point-of-sale, as well as a new safe harbor for certain fixed fee arrangements between pharmacy benefit managers and manufacturers, the implementation of which have also been delayed until January 2023. On November 20, 2020, CMS issued an interim final rule implementing President Trump’s Most Favored Nation, or MFN, executive order, which would tie Medicare Part B payments for certain physician-administered drugs to the lowest price paid in other economically advanced countries, effective January 1, 2021. As a result of litigation, challenging the MFN model on August 10, 2021, CMS published a proposed rule that seeks to rescind the MFN model interim rule. In addition, on March 11, 2021, President Biden signed the American Rescue Plan Act of 2021 into law, which eliminates the statutory Medicaid drug rebate price cap, currently set at 100% of a drug's average manufacturer price for single source and innovator multiple source products, beginning on January 1, 2024. Further, in July 2021, the Biden Administration released an executive order that included multiple provisions aimed at prescription drugs. In response to Biden's executive order, on September 9, 2021, HHS released a Comprehensive Plan for Addressing High Drug Prices that outlines principles for drug price reform. The plan sets out a variety of potential legislative policies that Congress could pursue as well as potential administrative actions by HHS. No legislative or administrative actions have been finalized to implement these principles. In addition, Congress is considering drug pricing as part of the budget reconciliation process. Individual states in the United States also have increasingly passed legislation and implemented regulations designed to control pharmaceutical product pricing, including price or patient reimbursement constraints, discounts, restrictions on certain product access and marketing cost disclosure and transparency measures, and, in some cases, designed to encourage importation from other countries and bulk purchasing. It is possible that additional governmental action is taken in response to the COVID-19 pandemic. We expect that healthcare reform measures that may be adopted in the future may result in more rigorous coverage criteria and in additional downward pressure on the price that we may receive for any approved product. Any reduction in reimbursement from Medicare or other government programs may result in a similar reduction in payments from private payors. The implementation of cost containment measures or other healthcare reforms may prevent us from being able to generate revenue, attain profitability or, if we receive regulatory approval, commercialize our products. If we fail to comply with federal and state healthcare laws, including fraud and abuse and health information privacy and security laws, we could face substantial penalties and our business, results of operations, financial condition and prospects could be adversely affected. As a pharmaceutical company, even though we do not and will not control referrals of healthcare services or bill directly to Medicare, Medicaid or other third-party payors, certain federal and state healthcare laws and regulations pertaining to fraud and abuse and patients’ rights are and will be applicable to our business. For example, we could be subject to healthcare fraud and abuse and patient privacy regulation by both the federal government and the states in which we conduct our business. The laws that may affect our ability to operate include, among othe • The federal Anti-Kickback Statute, which regulates our business activities, including our clinical research and relationships with healthcare providers or other entities as well as our future marketing practices, educational programs and pricing policies, and by prohibiting, among other things, soliciting, receiving, offering or paying remuneration, directly or indirectly, to induce, or in return for, either the referral of an individual or the purchase or recommendation of an item or service reimbursable under a federal healthcare program, such as the Medicare and Medicaid programs; • Federal civil and criminal false claims laws, including the False Claims Act, which permits a private individual acting as a “whistleblower” to bring actions on behalf of the federal government alleging violations of the False Claims Act, and civil monetary 41 Table of Contents penalty laws, which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid or other third-party payors that are false or fraudulent; • HIPAA, which created new federal civil and criminal statutes that prohibit, among other things, executing a scheme to defraud any healthcare benefit program or making false statements relating to healthcare matters; • HITECH, and its implementing regulations, which impose certain requirements relating to the privacy, security and transmission of individually identifiable health information on entities and individuals subject to the law including certain healthcare providers, health plans, and healthcare clearinghouses, known as covered entities, as well as individuals and entities that perform services for them which involve the use, or disclosure of, individually identifiable health information, known as business associates and their subcontractors that use, disclose or otherwise process individually identifiable health information; • Requirements under the Physician Payments Sunshine Act to report annually to CMS certain financial arrangements with physicians (defined to include doctors, dentists, optometrists, podiatrists and chiropractors) and teaching hospitals, as defined in the ACA and its implementing regulations, including reporting any “transfer of value” made or distributed to teaching hospitals, and physicians, as defined by such law and reporting any ownership and investment interests held by physicians and their immediate family members and applicable group purchasing organizations during the preceding calendar year, which will be expanded beginning in 2022, to require applicable manufacturers to report such information regarding its payments and other transfers of value made to physician assistants, nurse practitioners, clinical nurse specialists, anesthesiologist assistants, certified registered nurse anesthetists and certified nurse midwives during the previous year; and • State and foreign law equivalents of each of the above federal laws, such as anti-kickback and false claims laws which may apply to items or services reimbursed by any third-party payor, including commercial insurers; state laws that require pharmaceutical companies to comply with the industry’s voluntary compliance guidelines and the applicable compliance guidance promulgated by the federal government that otherwise restricts certain payments that may be made to healthcare providers and entities; state laws that require drug manufacturers to report information related to payments and other transfer of value to physicians and other healthcare providers and entities; state laws that require the reporting of information related to drug pricing; state and local laws that require the registration of pharmaceutical sales representatives; and state and foreign laws governing the privacy and security of health information in certain circumstances, many of which differ from each other in significant ways and often are not preempted by HIPAA, thus complicating compliance efforts. Because of the breadth of these laws and the narrowness of the statutory exceptions and safe harbors available, it is possible that some of our business activities, including our consulting agreements with physicians, some of whom receive stock or stock options as compensation for their services, could be subject to challenge under one or more of such laws. In addition, recent health care reform legislation has further strengthened these laws. For example, the ACA, among other things, amended the intent requirement of the federal Anti-Kickback Statute and certain criminal healthcare fraud statutes. A person or entity no longer needs to have actual knowledge of this statute or specific intent to violate it. Moreover, the ACA provides that the government may assert that a claim including items or services resulting from a violation of the federal Anti-Kickback Statute constitutes a false or fraudulent claim for purposes of the False Claims Act. To the extent that any of our product candidates is ultimately sold in a foreign country, we may be subject to similar foreign laws and regulations. Efforts to ensure that our business arrangements comply with applicable healthcare laws involve substantial costs. It is possible that governmental and enforcement authorities will conclude that our business practices do not comply with current or future statutes, regulations or case law interpreting applicable fraud and abuse or other healthcare laws and regulations. If any such actions are instituted against us, and we are not successful in defending ourselves or asserting our rights, we may be subject to significant penalties, including administrative, civil and criminal penalties, damages, fines, exclusion from participation in United States federal or state health care programs, such as Medicare and Medicaid, disgorgement, imprisonment, integrity oversight and reporting obligations, and the curtailment or restructuring of our operations any of which could materially adversely affect our ability to operate our business and our financial results. Although compliance programs can mitigate the risk of investigation and prosecution for violations of these laws, the risks cannot be entirely eliminated. Any action against us for violation of these laws, even if we successfully defend against it, could cause us to incur significant legal expenses and divert our management’s attention from the operation of our business. Moreover, achieving and sustaining compliance with applicable federal and state privacy, security and fraud laws may prove costly. Our immuno-oncology product candidates may face competition in the future from biosimilars and/or new technologies. The Biologics Price Competition and Innovation Act of 2009, or BPCIA, provides an abbreviated pathway for the approval of follow-on biological products. Under the BPCIA, an application for a biosimilar product cannot be approved by the FDA until 12 years after the original branded product was approved under a BLA. However, there is a risk that the U.S. Congress could amend the BPCIA to significantly shorten this exclusivity period, potentially creating the opportunity for generic competition sooner than anticipated. Further, this data exclusivity does not prevent another company from developing a product that is highly similar to the original branded product, generating its own data and seeking approval. Data exclusivity only assures that another company cannot rely upon the data within the innovator’s application to support the biosimilar product’s approval. 42 Table of Contents We rely significantly on information technology and any failure, inadequacy, interruption or security lapse of that technology or loss of data, including any cyber security incidents, could compromise sensitive information related to our business, prevent us from accessing critical information or expose us to liability which could harm our ability to operate our business effectively and adversely affect our business and reputation. In the ordinary course of our business, we, our contract research organizations and other third parties on which we rely collect and store sensitive data, including legally protected patient health information, personally identifiable information about our employees, intellectual property, and proprietary business information. We manage and maintain our applications and data utilizing on-site systems. These applications and data encompass a wide variety of business-critical information including research and development information and business and financial information. The secure processing, storage, maintenance and transmission of this critical information is vital to our operations and business strategy. Despite the implementation of security measures, our internal computer systems and those of third parties with which we contract are vulnerable to damage from cyber-attacks, computer viruses, breaches, unauthorized access, interruptions due to employee error or malfeasance or other disruptions, or damage from natural disasters, terrorism, war and telecommunication and electrical failures. In addition, due to the COVID-19 pandemic, we have enabled many of our employees to work remotely, which may make us more vulnerable to cyberattacks. Any such event could compromise our networks and the information stored there could be accessed by unauthorized parties, publicly disclosed, lost or stolen. Although we have measures in place that are designed to detect and respond to such security incidents and breaches of privacy and security mandates, we cannot guarantee that those measures will be successful in preventing any such security incident. Any such access, disclosure or other loss of information could result in legal claims or proceedings, liability under laws that protect the privacy of personal information, government enforcement actions and regulatory penalties. Unauthorized access, loss or dissemination could also disrupt our operations, including our ability to conduct research, development and commercialization activities, process and prepare Company financial information, manage various general and administrative aspects of our business and damage our reputation, in addition to possibly requiring substantial expenditures of resources to remedy, any of which could adversely affect our business. The loss of clinical trial data could result in delays in our regulatory approval efforts and significantly increase our costs to recover or reproduce the data. In addition, there can be no assurance that we will promptly detect any such disruption or security breach, if at all. If the technology supporting our hunTR discovery engine were to experience a cyber-incident resulting in the disclosure or theft of our proprietary screening software or library of TCRs our business may be materially and negatively impacted. While we are not aware of any such material system failure, accident or security breach to date, to the extent that any disruption or security breach were to result in a loss of, or damage to, our data or applications, or inappropriate disclosure of confidential or proprietary information, we could incur liability and our research, development and commercialization efforts could be delayed. RISKS RELATED TO OUR INTELLECTUAL PROPERTY If we or our licensors fail to adequately protect or enforce our intellectual property rights or secure rights to patents of others, the value of our intellectual property rights would diminish and our ability to successfully commercialize our products may be impaired. Our success, competitive position, and future revenues will depend in part on our ability and the abilities of our licensors to obtain and maintain patent protection for our products, methods, processes and other technologies, to preserve confidential information, including trade secrets, to prevent third parties from infringing our proprietary rights, and to operate without infringing the proprietary rights of third parties. To date, we have exclusive rights in the field of cancer treatment to certain U.S. and foreign intellectual property with respect to certain cell therapy and related technologies from MD Anderson and NCI, as well as with respect to the PGEN technology, including Sleeping Beauty . Under the MD Anderson License, future patent applications require the agreement of each of MD Anderson, PGEN and us, and MD Anderson has the right to control the preparation, filing, and prosecution of such patent applications unless the parties agree that we or PGEN instead may control such activities. Although under the agreement MD Anderson has agreed to review and incorporate any reasonable comments that we or PGEN may have regarding licensed patents and patent applications, we cannot guarantee that our comments will be solicited or followed. Under the patent license agreement with the NCI for certain TCRs, the NCI is responsible for the preparation, filing, prosecution, and maintenance of patent applications and patents licensed to us. Although under the agreement, the NCI is required to consult with us in the preparation, filing, prosecution, and maintenance of all its patent applications and patents licensed to us, we cannot guarantee that our comments will be solicited or followed. Under our License Agreement with PGEN, PGEN has the right, but not the obligation, to prepare, file, prosecute, and maintain the patents and patent applications licensed to us and shall bear all related costs incurred by it in regard to those actions. PGEN is required to consult with us and keep us reasonably informed of the status of the patents and patent applications licensed to us, and to confer with us prior to submitting any related filings and correspondence. Although under the agreement PGEN has agreed to consider in good faith and consult with us regarding any comments we may have regarding these patents and patent applications, we cannot guarantee that our comments will be solicited or followed. Without direct control of the in-licensed patents and patent applications, we are dependent on MD Anderson, the NCI or PGEN, as applicable, to keep us advised of prosecution, particularly in foreign jurisdictions where prosecution information may not be publicly available. We anticipate that we, MD Anderson, the NCI and PGEN will file additional patent applications both in the United States and in other jurisdictions. However, we cannot predict or guarantee for either our in-licensed patent portfolios or for Alaunos’ patent portfoli • When, if at all, any patents will be granted on such applications; 43 Table of Contents • The scope of protection that any patents, if obtained, will afford us against competitors; • That third parties will not find ways to invalidate and/or circumvent our patents, if obtained; • That others will not obtain patents claiming subject matter related to or relevant to our product candidates; or • That we will not need to initiate litigation and/or administrative proceedings that may be costly whether we win or lose. The patent prosecution process is expensive and time-consuming, and we may not be able to file and prosecute all necessary or desirable patent applications at a reasonable cost, in a timely manner or at all. It is also possible that we will fail to identify patentable aspects of our research and development output before it is too late to obtain patent protection. Moreover, in some circumstances, we do not have the right to control the preparation, filing and prosecution of patent applications, or to maintain the patents, covering technology that we license from third parties. We may also require the cooperation of our licensors in order to enforce the licensed patent rights, and such cooperation may not be provided. Therefore, these patents and applications may not be prosecuted and enforced in a manner consistent with the best interests of our business. The patent position of biotechnology and pharmaceutical companies generally is highly uncertain, involves complex legal and factual questions and has in recent years been the subject of much litigation. In addition, the laws of other jurisdictions may not protect our rights to the same extent as the laws of the United States. For example, methods of therapeutic treatment, which are patent-eligible in the United States, may not be claimed in many other jurisdictions; some patent offices (such as the European Patent Office) may permit the redrafting of method of treatment claims into a "medical use" format that is patent-eligible, while other patent offices (such as the Indian Patent Office) may not accept any redrafted claiming format for such claims. Changes in patent laws or in interpretations of patent laws in the United States and other jurisdictions may diminish the value of our intellectual property or narrow the scope of our patent protection. In September 2011, the Leahy-Smith America Invents Act, or the Leahy-Smith Act, was signed into law, resulting in a number of significant changes to United States patent law. These changes include provisions that affect the way patent applications are prosecuted and may also affect patent litigation. In addition, the United States Supreme Court has ruled on several patent cases in recent years, narrowing the scope of patent protection available in certain circumstances or weakening the rights of patent owners in certain situations. This combination of events has created uncertainty with respect to the value of patents, once obtained, and with regard to our ability to obtain patents in the future. As the USPTO continues to implement the Leahy-Smith Act, and as the federal courts have the opportunity to interpret the Leahy-Smith Act, the laws and regulations governing patents, and the rules regarding patent procurement could change in unpredictable ways that would weaken our ability to obtain new patents or to enforce our existing patents and patents that we might obtain in the future. Certain technologies utilized in our research and development programs are already in the public domain. Moreover, a number of our competitors have developed technologies, or filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and may cover or conflict with our owned or licensed patent applications, technologies or product candidates. Such conflicts could limit the scope of the patents, if any, that we may be able to obtain. Because patent applications in the United States and many foreign jurisdictions are typically not published until 18 months after filing, or in some cases at all, and because publications of discoveries in the scientific literature lag behind actual discoveries per se, neither we nor our licensors can be certain that others have not filed patent applications for technology used by us or covered by our pending patent applications. We cannot know with certainty whether we were the first to make and file for the inventions claimed in our owned patent portfolio, or whether our licensors were the first to make and file for the inventions claimed in our in-licensed patent portfolio. As a result, the issuance, scope, validity, enforceability and commercial value of our patent rights are highly uncertain. Our pending and future patent applications may not result in the issuance of patents that protect our technology or products, in whole or in part, or that effectively prevent others from commercializing competitive technologies and products. In addition, our own earlier filed patents and applications or those of MD Anderson, NCI or PGEN may limit the scope of later patents we obtain, if any. If third parties file or have filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and that cover or conflict with our owned or licensed patent applications, technologies or product candidates, we may be required to challenge such protection, terminate or modify our programs impacted by such protection, or obtain licenses from such third parties, which might not be available on acceptable terms, or at all. Even if our owned and licensed patent applications were to be issued as patents, they may not issue in a form that would provide us with any meaningful protection, prevent competitors from competing with us or otherwise provide us with any competitive advantage. Our competitors may be able to circumvent our owned or licensed patents by developing similar or alternative technologies or products in a non-infringing manner. The issuance of a patent is not conclusive as to its inventorship, scope, validity or enforceability, and our owned and licensed patents may be challenged in the courts or patent offices in the United States and abroad. Such challenges may result in loss of exclusivity due to our patents being narrowed, invalidated or held unenforceable, which could limit our ability to stop others from using or commercializing similar or identical technology and products, or limit the duration of the patent protection of our technology and products. Given the amount of time required for the development, testing and regulatory review of new product candidates, patents protecting such candidates might expire before or even after such candidates are commercialized. As a result, our owned and licensed patent portfolio may not provide us with sufficient rights to exclude others from commercializing products similar or identical to ours. 44 Table of Contents If we are unable to protect the confidentiality of our confidential information, our business and competitive position would be harmed. Our success also depends upon the skills, knowledge, and experience of our scientific and technical personnel, our consultants and advisors, as well as our licensors and contractors. To help protect our proprietary know-how and our inventions for which patents may be unobtainable or difficult to obtain, and to maintain our competitive position, we rely on trade secret protection and confidentiality agreements. To this end, it is our general policy to require our employees, consultants, advisors, and contractors to enter into agreements that prohibit the disclosure of confidential information and, where applicable, require disclosure and assignment to us of the ideas, developments, discoveries, and inventions important to our business. These agreements may not provide adequate protection for our trade secrets, know-how, confidential information or other proprietary information in the event of any unauthorized use or disclosure or the lawful development by others of such information. Moreover, we may not be able to obtain adequate remedies for any breaches of these agreements. Our trade secrets or other confidential information may also be obtained by third parties by other means, such as breaches of our physical or computer security systems. Enforcing a claim that a party illegally disclosed or misappropriated a trade secret or other confidential information is difficult, expensive and time-consuming, and the outcome is unpredictable. In addition, some courts inside and outside the United States are less willing or unwilling to protect trade secrets. If any of our trade secrets or other confidential information were to be lawfully obtained or independently developed by competitors, we would have no right to prevent them, or those to whom they communicate it, from using that technology or information to compete with us. If any of our trade secrets, know-how or other proprietary information is disclosed, the value of our trade secrets, know-how and other proprietary rights would be significantly impaired and our business and competitive position would suffer. Third-party claims of intellectual property infringement would require us to spend significant time and money and could prevent us from developing or commercializing our products. In order to protect or enforce patent rights, we may initiate patent infringement litigation against third parties. Similarly, we may be sued by others for patent infringement. We also may become subject to pre- and post-grant proceedings conducted in the USPTO, including interferences, derivations, post-grant review, inter partes review, or reexamination. In other jurisdictions, our patent estate may be subject to pre- and post-grant opposition, nullity, revocation proceedings, and the like. Asserting and defending against intellectual property actions are costly and divert technical and management personnel away from their normal responsibilities. Our commercial success depends upon our ability, and the ability of our collaborators, to develop, manufacture, market and sell our product candidates without infringing the proprietary rights of third parties. There is considerable intellectual property litigation in the biotechnology and pharmaceutical industries. While no such litigation has been brought against us and we have not been held by any court to have infringed a third party’s intellectual property rights, we cannot guarantee that our products or use of our products do not infringe or will not be asserted to infringe third-party patents. It is also possible that we have failed to identify relevant third-party patents or applications, or that as-yet unpublished third-party patent applications will later result in the grant of patents relevant to our business. Another possibility is for a third-party patent or patent application to first contain claims not relevant to our business but then to be reissued or amended in such a way that it does become relevant. Our research, development and commercialization activities, as well as any product candidates or products resulting from these activities, may infringe or be asserted to infringe patents or patent applications under which we do not hold licenses or other rights. Owning a patent does not confer on the patentee the right to practice the claimed invention and does not protect the patentee from being sued for infringement of another owner’s patent. Our patent position cannot and does not provide any assurance that we are not infringing or will not be asserted to infringe the patent rights of another. The patent landscape in the field of immuno-oncology is particularly complex. We are aware of numerous United States and foreign patents and pending patent applications of third parties directed to compositions, methods of use and methods of manufacture of immuno-oncology products. In addition, there may be patents and patent applications in the field of which we are not aware. The technology we license from MD Anderson, NCI and PGEN is early-stage technology, and we are in the process of designing and developing products using this technology. Although we will seek to avoid pursuing the development of products that may infringe any third-party patent claims that we believe to be valid and enforceable, we may fail to do so. Moreover, given the breadth and number of claims in patents and pending patent applications in the field of immuno-oncology and the complexities and uncertainties associated with them, third parties may allege that we are infringing patent claims even if we do not believe such claims have merit. If a claim for patent infringement is asserted, there can be no assurance that the resolution of the claim would permit us to continue marketing the relevant product on commercially reasonable terms, if at all. We may not have sufficient resources to bring these actions to a successful conclusion. If we do not successfully defend any infringement actions to which we become a party or if we are unable to have any asserted third-party patents declared invalid or unenforceable, we may have to pay substantial monetary damages, which can be tripled if the infringement is deemed willful, and/or we may be required to discontinue or significantly delay commercialization and development of the affected products. Any legal action against us or our collaborators claiming damages and seeking to enjoin developmental or marketing activities relating to affected products could, in addition to subjecting us to potential liability for damages, require us or our collaborators to obtain licenses to continue to develop, manufacture, or market the affected products. Such licenses may not be available to us on commercially reasonable terms, or at all. 45 Table of Contents An adverse determination in a proceeding involving our owned or licensed intellectual property may allow entry in the market of substitutes, including biosimilar or generic substitutes, for our products. Obtaining and maintaining our patent protection depends on compliance with various procedural, document submission, fee payment and other requirements imposed by governmental patent agencies, and our patent protection could be reduced or eliminated for noncompliance with these requirements. Annuities and other similar fees must be paid to the respective patent authority to maintain patents (or patents and patent applications) in most jurisdictions worldwide. Further, patent authorities in jurisdictions worldwide require compliance with a number of procedural, documentary, fee payment and other similar provisions during the patent application process. While an inadvertent lapse can in many cases be cured by payment of a late fee or by other means in accordance with the applicable rules, there are situations in which noncompliance can result in abandonment or lapse of the patent or patent application, resulting in partial or complete loss of patent rights in the relevant jurisdiction. Noncompliance events that could result in abandonment or lapse of a patent or patent application include, but are not limited to, failure to respond to official actions within prescribed time limits, non-payment of fees, and failure to submit documents with the necessary formal requirements such as notarization and legalization. In such an event, our competitors might be able to enter the market, which would have a material adverse effect on our business. We license rights to products and technology that are important to our business, and we expect to enter into additional licenses in the future. For instance, we have in-licensed patents and patent applications under our MD Anderson License, our license agreement with the NCI, and our license agreement with PGEN. Under these agreements, we are subject to a range of obligations pertaining to commercialization and development, sublicensing, royalty, patent prosecution and maintenance, and insurance. Any failure by us to obtain a needed license, comply with any of these obligations or any other breach by us of our license agreements could give the licensor the right to terminate the license in whole, terminate the exclusive nature of the license or bring a claim against us for damages. Any such termination or claim could have a material adverse effect on our financial condition, results of operations, liquidity or business. Even if we contest any such termination or claim and are ultimately successful, such dispute could lead to delays in the development or commercialization of potential products and result in time-consuming and expensive litigation or arbitration. On termination we may be required to license to the licensor any related intellectual property that we developed. In addition, in certain cases, the rights licensed to us are rights of a third party licensed to our licensor. In such instances, if our licensors do not comply with their obligations under such licenses, our rights under our license agreements with our licensor may be adversely affected. In addition, the licensing or acquisition of third-party intellectual property rights is a highly competitive area, and a number of more established companies are also pursuing strategies to license or acquire third party intellectual property rights that we may consider attractive or necessary. These established companies may have a competitive advantage over us due to their size, capital resources and greater clinical development and commercialization capabilities. In addition, companies that perceive us to be a competitor may be unwilling to assign or license rights to us. We also may be unable to license or acquire third party intellectual property rights on terms that would allow us to make an appropriate return on our investment or at all. If we are unable to successfully obtain rights to required third party intellectual property rights or maintain the existing intellectual property rights we have, we may have to abandon development of the relevant program or product candidate, which could have a material adverse effect on our business, financial condition, results of operations, and prospects. We may be subject to claims by third parties asserting that our employees or we have misappropriated their intellectual property or claiming ownership of what we regard as our own intellectual property. Many of our employees were previously employed at universities or at other biotechnology or pharmaceutical companies, including our competitors or potential competitors. Although we try to ensure that our employees do not use the proprietary information or know-how of others in their work for us, we may be subject to claims that these employees or we have used or disclosed intellectual property, including trade secrets or other proprietary information, of any such employee’s former employer. Litigation may be necessary to defend against these claims. In addition, while it is our policy to require our employees and contractors who may be involved in the development of intellectual property to execute agreements assigning such intellectual property to us, we may be unsuccessful in executing such an agreement with each party who in fact develops intellectual property that we regard as our own. Our and their assignment agreements may not be self-executing or may be breached, and we may be forced to bring claims against third parties, or defend claims they may bring against us, to determine the ownership of what we regard as our intellectual property. If we fail in prosecuting or defending any such claims, in addition to paying monetary damages, we may lose valuable intellectual property rights or personnel. Even if we are successful in prosecuting or defending against such claims, litigation could result in substantial costs and be a distraction to management. OTHER RISKS RELATED TO OUR COMPANY Our stock price has been, and may continue to be, volatile. 46 Table of Contents The market price for our common stock is volatile and may fluctuate significantly in response to a number of factors, most of which we cannot control, includin • Price and volume fluctuations in the overall stock market; • Changes in operating results and performance and stock market valuations of other biopharmaceutical companies generally, or those that develop and commercialize cancer drugs in particular; • Market conditions or trends in our industry or the economy as a whole; • Preclinical studies or clinical trial results; • the commencement, enrollment or results of the planned clinical trials of our product candidates or any future clinical trials we may conduct, or changes in the development status of our product candidates; • Public concern as to the safety of drugs developed by us or others; • The financial or operational projections we may provide to the public, any changes in these projections or our failure to meet these projections; • Comments by securities analysts or changes in financial estimates or ratings by any securities analysts who follow our common stock, our failure to meet these estimates or failure of those analysts to initiate or maintain coverage of our common stock; • The public’s response to press releases or other public announcements by us or third parties, including our filings with the SEC, as well as announcements of the status of development of our products, announcements of technological innovations or new therapeutic products by us or our competitors, announcements regarding collaborative agreements and other announcements relating to product development, litigation and intellectual property impacting us or our business; • Government regulation; • FDA determinations on the approval of a product candidate BLA submission; • The sustainability of an active trading market for our common stock; • Future sales of our common stock by us, our executive officers, directors and significant stockholders; • Announcements of mergers or acquisition transactions; • Our inclusion or deletion from certain stock indices; • Developments in patent or other proprietary rights; • Changes in reimbursement policies; • Announcements of medical innovations or new products by our competitors; • Announcements of changes in our senior management or directors; • General economic, industry, political and market conditions, including, but not limited to, the ongoing impact of the COVID-19 pandemic; • Other events or factors, including those resulting from war, incidents of terrorism, natural disasters, pandemics or responses to these events; and • Changes in accounting principles. In addition, the stock market in general and our stock in particular from time to time experiences significant price and volume fluctuations unrelated to the operating performance of particular companies, including in connection with the ongoing COVID-19 pandemic, which has resulted in decreased stock prices for many companies notwithstanding the lack of a fundamental change in their underlying business models or prospects. Public debt and equity markets, and in particular the Nasdaq Global Select Market, have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many biopharmaceutical companies. Stock prices of many biopharmaceutical companies have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. In the past, stockholders have instituted securities class action litigation following periods of market volatility. If we were involved in securities litigation, we could incur substantial costs and our resources, and the attention of management could be diverted from our business. If we fail to satisfy applicable listing standards, our common stock may be delisted from the Nasdaq Global Select Market. Delisting could prevent us from maintaining an active, liquid and orderly trading market. 47 Table of Contents Our ability to publicly or privately sell equity securities and the liquidity of our common stock could be adversely affected if we are delisted from The Nasdaq Global Select Market or if we are unable to transfer our listing to another stock market. On March 17, 2022, we were notified by The Nasdaq Stock Market LLC, or Nasdaq, that we were in breach of Listing Rule 5450(a)(1), or the Minimum Bid Price Rule, for continued listing on The Nasdaq Global Select Market because the minimum bid price of our listed securities for 30 consecutive business days had been less than $1 per share. In accordance with Nasdaq Listing Rule 5810(c)(3)(A), or the Compliance Period Rule, we have been provided a period of 180 calendar days, or until September 13, 2022, or the Compliance Date, to regain compliance with the Bid Price Requirement. If, at any time before the Compliance Date, the bid price for our common stock closes at $1.00 or more for a minimum of 10 consecutive business days as required under the Compliance Period Rule, Nasdaq will provide us written notification that we have regained compliance with the Bid Price Requirement, unless Nasdaq exercises its discretion to extend this ten-day period. During this 180-day period, we would anticipate reviewing our options to regain compliance with the minimum bid requirements, including conducting a reverse stock split. On March 21, 2022, the closing price of our common stock was $0.73 per share. If we are unable to continue to meet the requirements for listing on the Nasdaq Global Select Market we may apply to Nasdaq to list our common stock on the Nasdaq Capital Markets which may also provide us up to an additional 180 days to regain compliance with the Minimum Bid Price Rule. Nasdaq would have to accept our application to list on the Nasdaq Capital Market and we would need to show our compliance with the other listing standards and provide Nasdaq written notice of our intention to cure the bid price deficiency. Should Nasdaq determine that we are not eligible to list on the Nasdaq Capital Market or we elect not to submit an application to transfer to the Nasdaq Capital Market we will receive written notice that our common stock will be delisted, at which point we will have the opportunity to appeal that decision. If our common stock is delisted by Nasdaq, it could lead to a number of negative implications, including an adverse effect on the price of our common stock, deterring broker-dealers from making a market in or otherwise seeking or generating interest in our common stock, increased volatility in our common stock, reduced liquidity in our common stock, the loss of federal preemption of state securities laws and greater difficulty in obtaining financing. Delisting could also cause a loss of confidence of our customers, collaborators, vendors, suppliers and employees, which could harm our business and future prospects. If our common stock is delisted by Nasdaq, the price of our common stock may decline, and although our common stock may be eligible to trade on the OTC Bulletin Board, another over-the-counter quotation system, or on the pink sheets, an investor may find it more difficult to dispose of their common stock or obtain accurate quotations as to the market value of our common stock. Further, if we are delisted, we would incur additional costs under state blue sky laws in connection with any sales of our securities. These requirements could severely limit the market liquidity of our common stock and the ability of our shareholders to sell our common stock in the secondary market. Anti-takeover provisions in our charter documents and under Delaware law may make an acquisition of us, which may be beneficial to our stockholders, more difficult. Provisions of our amended and restated certificate of incorporation and bylaws, as well as provisions of Delaware law, could make it more difficult for a third party to acquire us, even if doing so would benefit our stockholders. These provisions authorize the issuance of “blank check” preferred stock that could be issued by our board of directors to increase the number of outstanding shares and hinder a takeover attempt, and limit who may call a special meeting of stockholders. In addition, Section 203 of the Delaware General Corporation Law, or Section 203, generally prohibits a publicly held Delaware corporation from engaging in a business combination with a party that owns at least 15% of its common stock unless the business combination is approved by our board of directors before the person acquires the 15% ownership stake or later by its board of directors and two-thirds of its stockholders. Section 203 could have the effect of delaying, deferring or preventing a change in control that our stockholders might consider to be in their best interests. Our amended and restated bylaws provide that the Court of Chancery of the State of Delaware will be the exclusive forum for substantially all disputes between us and our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees. Our bylaws provide that, unless we consent in writing to the selection of an alternative forum, the Court of Chancery of the State of Delaware is the exclusive forum for (i) any derivative action or proceeding brought on our behalf; (ii) any action asserting a claim of breach of a fiduciary duty owed by any of our directors, officers or other employees to us or our stockholders; (iii) any action asserting a claim against us or any of our directors, officers or other employees arising pursuant to any provision of the Delaware General Corporation Law, our amended and restated certificate of incorporation or our amended and restated bylaws; (iv) any claim or cause of action seeking to interpret, apply, enforce or determine the validity of the amended and restated certificate of incorporation or our bylaws; (v) any claim or cause of action as to which the General Corporation Law confers jurisdiction on the Court of Chancery of the State of Delaware; or (vi) any action asserting a claim against us or any of our directors, officers or other employees governed by the internal affairs doctrine. These provisions would not apply to suits brought to enforce a duty or liability created by the Exchange Act. Furthermore, Section 22 of the Securities Act creates concurrent jurisdiction for federal and state courts over all such Securities Act actions. Accordingly, both state and federal courts have jurisdiction to entertain such claims. These exclusive forum provisions may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers, or other employees, which may discourage lawsuits against us and our directors, officers and other employees. If a 48 Table of Contents court were to find either exclusive-forum provision to be inapplicable or unenforceable in an action, we may incur further significant additional costs associated with resolving the dispute in other jurisdictions, all of which could seriously harm our business. Because we do not expect to pay dividends, you will not realize any income from an investment in our common stock unless and until you sell your shares at a profit. We have never paid dividends on our common stock, and we do not anticipate that we will pay any dividends for the foreseeable future. Accordingly, any return on an investment in us will be realized, if at all, only when you sell shares of our common stock. Our ability to use net operating loss carryforwards and research tax credits to reduce future tax payments may be limited or restricted. We have generated significant net operating loss carryforwards, or NOLs, and research and development tax credits, or R&D credits, as a result of our incurrence of losses and our conduct of research activities since inception. We generally are able to carry NOLs and R&D credits forward to reduce our tax liability in future years. However, our ability to utilize the NOLs and R&D credits is subject to the rules of Sections 382 and 383 of the Internal Revenue Code of 1986, as amended, or the Code, respectively. Those sections generally restrict the use of NOLs and R&D credits after an “ownership change.” An ownership change occurs if, among other things, the stockholders (or specified groups of stockholders) who own or have owned, directly or indirectly, 5% or more of a corporation’s common stock or are otherwise treated as 5% stockholders under Section 382 of the Code and the U.S. Treasury Department regulations promulgated thereunder increase their aggregate percentage ownership of that corporation’s stock by more than 50 percentage points over the lowest percentage of the stock owned by these stockholders over the applicable testing period. In the event of an ownership change, Section 382 of the Code imposes an annual limitation on the amount of taxable income a corporation may offset with NOL carry forwards and Section 383 of the Code imposes an annual limitation on the amount of tax a corporation may offset with business credit (including R&D credits) carryforwards. We may have experienced an “ownership change” within the meaning of Section 382 of the Code in the past and there can be no assurance that we will not experience additional ownership changes in the future. As a result, our NOLs and business credits (including R&D credits) may be subject to limitations, and we may be required to pay taxes earlier and in larger amounts than would be the case if our NOLs or R&D credits were freely usable. If securities and/or industry analysts fail to continue publishing research about our business, if they change their recommendations adversely or if our results of operations do not meet their expectations, our stock price and trading volume could decline. The trading market for our common stock will be influenced by the research and reports that industry or securities analysts publish about us or our business. If one or more of these analysts cease coverage of our Company or fail to publish reports on us regularly, we could lose visibility in the financial markets, which in turn could cause our stock price or trading volume to decline. In addition, it is likely that in some future period our operating results will be below the expectations of securities analysts or investors. If one or more of the analysts who cover us downgrade our stock, or if our results of operations do not meet their expectations, our stock price could decline. Our business could be negatively affected as a result of the actions of activist stockholders. In 2021, we were engaged in a consent solicitation led by WaterMill Asset Management Corp., or WaterMill, where three new directors were added to our board of directors. We could experience other stockholder activism in the future, including another consent solicitation or a proxy contest. Activist shareholders may advocate for certain governance and strategic changes at our company. In the event of stockholder activism, particularly with respect to matters which our board of directors, in exercising their fiduciary duties, disagree with or have determined not to pursue, our business could be adversely affected because responding to actions by activist stockholders can be costly and time-consuming, disrupting our operations and diverting the attention of management, and perceived uncertainties as to our future direction may result in the loss of potential business opportunities and may make it more difficult to attract and retain qualified personnel, business partners, and customers. In addition, if faced with a consent solicitation or proxy contest, we may not be able to respond successfully to the contest or dispute, which would be disruptive to our business. If individuals are elected to our board of directors with a differing agenda, our ability to effectively and timely implement our strategic plan and create additional value for our stockholders may be adversely affected. The exercise of outstanding warrants, and issuance of equity awards may have a dilutive effect on our stock, and negatively impact the price of our common stock. As of December 31, 2021, we had 22,922,342 warrants outstanding at a weighted average exercise price of $5.62 per share. We are able to grant stock options, restricted stock, restricted stock units, stock appreciation rights, bonus stocks, and performance awards under our 2012 Equity Incentive Plan, or the 2020 Equity Incentive Plan. Under the 2020 Equity Incentive Plan, 7,818,679 shares were issuable upon the exercise of outstanding options at a weighted average exercise price of $2.46 per share. Our principal stockholders, executive officers and directors have substantial control over the Company, which may prevent you and other stockholders from influencing significant corporate decisions and may harm the market price of our common stock. 49 Table of Contents As of December 31, 2021, our executive officers, directors and holders of five percent or more of our outstanding common stock beneficially owned, in the aggregate, 41.6% of our outstanding common stock. These stockholders may have interests that conflict with our other stockholders and, if acting together, have the ability to influence the outcome of matters submitted to our stockholders for approval, including the election and removal of directors and any merger, consolidation or sale of all or substantially all of our assets. Accordingly, this concentration of ownership may harm the market price of our common stock • Delaying, deferring or preventing a change in control; • Impeding a merger, consolidation, takeover or other business combination involving us; or • Discouraging a potential acquirer from making a tender offer or otherwise attempting to obtain control of us. In addition, this significant concentration of stock ownership may adversely affect the trading price of our common stock should investors perceive disadvantages in owning shares of common stock in a company that has such concentrated ownership. Changes to corporate tax legislation, including the Tax Cuts and Jobs Act, signed into law in 2017, could adversely affect our business and financial condition. The Tax Act contains significant changes to corporate taxation, including reduction of the corporate tax rate from a top marginal rate of 35% to a flat rate of 21%, limitation of the tax deduction for interest expense to 30% of adjusted earnings (except for certain small businesses), limitation of the deduction for NOLs to 80% of current year taxable income and elimination of NOL carrybacks, one time taxation of offshore earnings at reduced rates regardless of whether they are repatriated, elimination of U.S. tax on foreign earnings (subject to certain important exceptions), immediate deductions for certain new investments instead of deductions for depreciation expense over time and modifying or repealing many business deductions and credits. The Coronavirus Aid, Relief, and Economic Security Act, or CARES Act, enacted in 2020, modified certain of these tax changes, and enacted other tax changes applicable to corporations. Notwithstanding the reduction in the corporate income tax rate, the overall impact of the Tax Act and the CARES Act is uncertain and our business and financial condition could be adversely affected. In addition, it is uncertain if and to what extent various states will conform to the Tax Act or the CARES Act. Currently, bills introduced in Congress, including the Build Back Better Act, contain additional changes to the taxation of corporations, which could adversely affect our business and financial condition. The impact of the Tax Act, the CARES Act and any other tax legislation on holders of our common stock is also uncertain and could be adverse. We urge our stockholders to consult with their legal and tax advisors with respect to this legislation and the potential tax consequences of investing in or holding our common stock. We are a “smaller reporting company,” and the reduced disclosure requirements applicable to smaller reporting companies may make our common stock less attractive to investors. We are considered a “smaller reporting company” under Rule 12b-2 of the Exchange Act. We are therefore entitled to rely on certain reduced disclosure requirements, such as an exemption from providing selected financial data and executive compensation information. These exemptions and reduced disclosures in our SEC filings due to our status as a smaller reporting company also mean our auditors are not required to review our internal control over financial reporting and may make it harder for investors to analyze our results of operations and financial prospects. We cannot predict if investors will find our common stock less attractive because we may rely on these exemptions. If some investors find our common stock less attractive as a result, there may be a less active trading market for our common stock and our common stock prices may be more volatile. We will remain a smaller reporting company until our public float exceeds $250 million if our annual revenues are $100 million or more, or until our public float exceeds $700 million if our annual revenues are less than $100 million. Item 1B. Unresolved Staff Comments None. Item 2. Properties Our corporate office is located at 8030 El Rio Street, Houston, Texas 77054. Our Houston offices are leased pursuant to the 2019 Lease and the 2020 Lease, as described below and comprise a total of approximately 32,148 square feet. In December 2021, we made the decision to close our former corporate office in Boston, Massachusetts. We are still party to the Boston lease but are seeking an acceptable sublessee to become a subtenant and/or assume our obligations under the lease. In October 2019, we entered into an agreement with MD Anderson to lease laboratory and office space on MD Anderson’s campus, or, as amended, the 2019 Lease. We use this location to house our laboratory, cGMP clinical manufacturing facilities and office space on MD Anderson’s campus. The 2019 Lease expires in February 2027. The monthly rent expense of the 2019 Lease with MD Anderson was being deducted from our prepayment at MD Anderson until the third quarter of 2021, since which time we pay MD Anderson monthly. In December 2020, we entered into a second agreement with MD Anderson to lease additional space on MD Anderson’s campus, or, as amended, the 2020 Lease. The 2020 Lease expires in April 2028 and may be extended for one additional five-year term at our election. See Note 8 to the accompanying financial statements for further details. 50 Table of Contents We believe that our existing facilities are adequate to meet our current needs. Item 3. Legal Proceedings In the ordinary course of business, we may periodically become subject to legal proceedings and claims arising in connection with ongoing business activities. The results of litigation and claims cannot be predicted with certainty, and unfavorable resolutions are possible and could materially affect our results of operations, cash flows or financial position. In addition, regardless of the outcome, litigation could have an adverse impact on us because of defense costs, diversion of management resources and other factors. We do not have any pending litigation that, separately or in the aggregate, would, in the opinion of management, have a material adverse effect on our results of operations, financial condition or cash flows. Item 4. Mine Safety Disclosures Not applicable. 51 Table of Contents PART II Item 5. Market for Registrant’s Common Equity, Related Stockholders Matters and Issuer Purchases of Equity Securities Market for Common Stock Our common stock trades on the Nasdaq Global Select Market under the symbol “TCRT.” Record Holders As of March 15, 2022, we had approximately 246 holders of record of our common stock, one of which was Cede & Co., a nominee for Depository Trust Company, or DTC. Shares of common stock that are held by financial institutions as nominees for beneficial owners or in “street name” are deposited into participant accounts at DTC and are considered to be held of record by Cede & Co. as one stockholder. Dividends We have never declared or paid a cash dividend on our common stock and do not anticipate paying any cash dividends in the foreseeable future. Unregistered Sales of Securities Except as previously disclosed in Current Reports on Form 8-K (File No. 001-33038) that we filed with the SEC on August 12, 2021 and January 4, 2022, we did not sell or issue any equity securities during the twelve months ended December 31, 2021 that were not registered under the Securities Act. Item 6. [Reserved] 52 Table of Contents Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our financial statements and related notes appearing elsewhere in this Annual Report on Form 10-K. In addition to historical financial information, the following discussion contains forward-looking statements that reflect our plans, estimates and beliefs. Our actual results could differ materially from those contained in or implied by any forward-looking statements. Factors that could cause or contribute to these differences include those under “Risk Factors” included in Part I, Item 1A and under “Special Note Regarding Forward-Looking Statements” or in other parts of this Annual Report on Form 10-K. Overview We are a clinical-stage oncology-focused cell therapy company developing adoptive TCR-T, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. We are leveraging our novel cancer mutation hotspot TCR library and our proprietary, non-viral Sleeping Beauty gene transfer platform to design and manufacture patient-specific cell therapies that target neoantigens arising from common tumor-related mutations in key oncogenic genes, including KRAS , TP53 , and EGFR . In collaboration with MD Anderson, we are currently enrolling patients for a Phase 1/2 clinical trial evaluating ten TCRs reactive to mutated KRAS, TP53 , and EGFR from our TCR library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian, and bile duct, which we refer to as our TCR-T Library Phase 1/2 Trial. We anticipate treating our first patient in this trial in the second quarter of 2022 and reporting interim data in the second half of 2022. As of December 31, 2021, we have approximately $76.1 million of cash and cash equivalents. Given our current development plans, we anticipate our cash resources will be sufficient to fund our operations into the second quarter of 2023, and we have no committed sources of additional capital at this time. See "Liquidity and Capital Resources." Our amended and restated certificate of incorporation authorizes us to issue 350,000,000 shares of common stock. As of December 31, 2021, there were 216,127,443 shares of common stock outstanding and an additional 33,620,711 shares of common stock reserved for issuance pursuant to outstanding stock options and warrants. We may need additional shares for business and financial purposes in the future. We have not generated any product revenue and have incurred significant net losses in each year since our inception. For the year ended December 31, 2021, we had a net loss of $78.8 million, and through December 31, 2021, we have incurred approximately $842.9 million of accumulated deficit since our inception in 2003. We expect to continue to incur significant operating expenditures and net losses. Further development of our product candidates will likely require substantial increases in our expenses as we: • continue to undertake clinical trials for product candidates; • seek regulatory approvals for product candidates; • work with regulatory authorities to identify and address program-related inquiries; • implement additional internal systems and infrastructure; • hire additional personnel; and • scale-up and scale-out the manufacturing of our product candidates. We continue to seek additional financial resources to fund the further development of our product candidates. If we are unable to obtain sufficient additional capital, one or more of these programs could be delayed, and we may be unable to continue our operations at planned levels and be forced to reduce our operations. Because of the numerous risks and uncertainties associated with product development, we are unable to predict the timing or amount of increased expenses or when or if we will be able to achieve or maintain profitability. Recent Developments On September 27, 2021, we announced a restructuring designed to enable us to focus on and advance our TCR program. As a result of the restructuring, approximately 60 positions were eliminated, and we anticipate that the cost savings associated with the restructuring will extend our cash runway. Given our current development plans and cash management efforts, we anticipate cash resources will be sufficient to fund operations into the second quarter of 2023. The ongoing COVID-19 global pandemic has presented a significant health and economic challenge around the world and may affect our employees, partners and business operations. The full extent to which the COVID-19 pandemic will directly or indirectly impact our business, results of operations and financial condition will depend on future developments that are highly uncertain and cannot be accurately predicted. Supply chain disruptions caused by the pandemic may negatively impact productivity, disrupt our business and delay our clinical programs and timelines. The severity of negative impacts will depend, in part, on the length and magnitude of the disruptions. These and perhaps more severe 53 Table of Contents disruptions in our operations could negatively impact our business, operating results and financial condition. We continue to work with our partners to mitigate the impact the COVID-19 pandemic is having on our business. Financial Overview Collaboration Revenue We recognize research and development funding revenue over the estimated period of performance. To date we have not generated product revenue. Unless and until we receive approval from the FDA and/or other regulatory authorities for our product candidates, we cannot sell our products and will not have product revenue. Research and Development Expenses Our research and development expenses consist primarily of salaries and related expenses for personnel, costs of contract manufacturing services, costs of facilities, reagents, and equipment, fees paid to professional service providers in conjunction with our clinical trials, fees paid to contract research organizations in conjunction with clinical trials, fees paid to contract research organizations in conjunction with costs of materials used in research and development, consulting, license and milestone payments and sponsored research fees paid to third parties. We have not accumulated and tracked our internal historical research and development costs or our personnel and personnel-related costs on a program-by-program basis. Our employee and infrastructure resources are allocated across several projects, and many of our costs are directed to broadly applicable research endeavors. As a result, we cannot state the costs incurred for each of our oncology programs on a program-by-program basis. We do track our accumulated costs by program for costs incurred by outside vendors conducting research for our named clinical candidates. For the year ended December 31, 2021, our clinical stage projects included our TCR-T Library Phase 1/2 Trial evaluating TCRs from our library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian, and bile duct cancers; a Phase 2 clinical trial of Ad-RTS-hIL-12 with veledimex in combination with cemiplimab-rwlc in progressive glioblastoma; a Phase 1/2 clinical trial of Ad-RTS-hIL-12 with veledimex for the treatment of pediatric brain tumors; a Phase 1 clinical trial with Ad-RTS-IL-12 plus veledimex in progressive glioblastoma; and a Phase 1 clinical trial infusing our second generation CD19-specific CAR-T cells in patients with advanced lymphoid malignancies. Since December 31, 2021, we have significantly reduced spending on all programs other than our TCR-T Library Phase 1/2 Trial. Costs incurred by outside vendors conducting research for our named clinical candidates during the year ended December 31, 2021 and through inception are as follows: Year ended Since Inception, Through (in millions) December 31, 2021 December 31, 2021 Direct external expenses by program: TCR-T Library Phase 1/2 Trial $ 15.4 $ 15.4 Ad-RTS-hIL-12 with veledimex in combination with cemiplimab-rwlc $ 1.5 $ 7.9 Ad-RTS-hIL-12 with veledimex for the treatment of pediatric brain tumors $ 0.2 $ 2.7 Ad-RTS-IL-12 plus veledimex in progressive glioblastoma $ 0.3 $ 14.9 CD19-specific CAR+ T cells in patients with advanced lymphoid malignancies $ 0.1 $ 6.2 Our future research and development expenses in support of our current and future programs will be subject to numerous uncertainties in timing and cost to completion. We test potential products in numerous preclinical studies for safety, toxicology and efficacy. We may conduct multiple clinical trials for each product. As we obtain results from trials, we may elect to discontinue or delay clinical trials for certain products in order to focus our resources on more promising products or indications. Completion of clinical trials may take several years or more, and the length of time generally varies substantially according to the type, complexity, novelty and intended use of a product. It is not unusual for preclinical and clinical development of each of these types of products to require the expenditure of substantial resources. The duration and the cost of clinical trials may vary significantly over the life of a project as a result of differences arising during clinical development, including, among others, the followin • The number of clinical sites included in the trials; • The length of time required to enroll suitable patients; • The number of patients that ultimately participate in the trials; • The length of time and cost to develop and optimize manufacturing processes; • The cost to manufacture the clinical products for patients; • The duration of patient follow-up to ensure the absence of long-term product-related adverse events; and 54 Table of Contents • The efficacy and safety profile of the product. As a result of the uncertainties discussed above, we are unable to determine the duration and completion costs of our programs or when and to what extent we will receive cash inflows from the commercialization and sale of a product. Our inability to complete our programs in a timely manner or our failure to enter into appropriate collaborative agreements could significantly increase our capital requirements and could adversely impact our liquidity. These uncertainties could force us to seek additional, external sources of financing from time-to-time in order to continue with our product development strategy. Our inability to raise additional capital, or to do so on terms reasonably acceptable to us, would jeopardize the future success of our business. General and Administrative Expenses General and administrative expenses consist primarily of salaries, benefits and stock-based compensation, consulting and professional fees, including patent related costs, general corporate costs and facility costs not otherwise included in research and development expenses or cost of product revenue. Other Income (Expense) Other income (expense) consists primarily of interest expense associated with our Loan and Security Agreement. Results of Operations for the Fiscal Years ended December 31, 2021 and 2020 For the Year Ended December 31, 2021 2020 Collaboration revenue $ 398 $ — Operating expens Research and development 49,643 52,696 General and administrative 27,564 27,665 Property and equipment and right-of-use assets impairment 740 - Total operating expenses 77,947 80,361 Loss from operations (77,549 ) (80,361 ) Other income (expense), net (1,202 ) 385 Net loss $ (78,751 ) $ (79,976 ) Net loss applicable to common stockholders $ (78,751 ) $ (79,976 ) Collaboration Revenue Collaboration revenue during the years ended December 31, 2021 and 2020 were as follows: Year ended December 31, 2021 2020 Change ($ in thousands) Collaboration revenue $ 398 $ — $ 398 100 % Collaboration revenue during the year ended December 31, 2021 was $0.4 million compared to $0 during the year ended December 31, 2020. The increase was due to $0.4 million we recognized in the current year from a collaboration agreement. Research and Development Expenses Research and development expenses during the years ended December 31, 2021 and 2020 were as follows: Year ended December 31, 2021 2020 Change ($ in thousands) Research and development $ 49,643 $ 52,696 $ (3,053 ) (6 )% Research and development expenses for the year ended December 31, 2021 decreased by $3.1 million, or 6%, when compared to the year ended December 31, 2020 primarily due to a decrease in program-related costs of $9.2 million as a result of the winding down of our IL-12 and CAR-T programs. The decrease was partially offset by an increase of $4.3 million in employee related expenses, including a $2.2 million 55 Table of Contents severance charge related to our strategic restructuring event in the third quarter of 2021, and a $1.8 million increase in facilities and other related expenses primarily related to our expanded facilities in Houston. General and Administrative Expenses General and administrative expenses during the years ended December 31, 2021 and 2020 were as follows: Year ended December 31, 2021 2020 Change ($ in thousands) General and administrative $ 27,564 $ 27,665 $ (101 ) (0 )% General and administrative expenses for the year ended December 31, 2021 decreased by $0.1 million as compared to the year ended December 31, 2020, primarily due to a decrease in professional services of $4.4 million, partially offset by a $4.3 million increase in employee related expenses, including a $1.3 million severance charge related to our strategic restructuring event in the third quarter of 2021 and other severance-related charges incurred during 2021. Impairments Impairments during the years ended December 31, 2021 and 2020 were as follows: Year ended December 31, 2021 2020 Change ($ in thousands) Property and equipment and right-of-use assets impairment $ 740 $ — $ 740 100 % Impairments during the year ended December 31, 2021 were $0.7 million compared to $0 during the year ended December 31, 2020. The increase was due to a change in the intended use of our Boston office, resulting in an impairment charge of $0.6 million to the right-of-use asset and $0.1 million to leasehold improvements and other assets associated with the office. Other Income (Expense) Other income (expense) during the years ended December 31, 2021 and 2020 was as follows: Year ended December 31, 2021 2020 Change ($ in thousands) Interest expense, net $ (1,182 ) $ - $ (1,182 ) (100 )% Other income (expense), net (20 ) 385 (405 ) (105 )% Total $ (1,202 ) $ 385 $ (1,587 ) (412 )% Total other income (expense), net for the year ended December 31, 2021 increased by $1.6 million as compared to the year ended December 31, 2020 due to $1.2 million of interest expense associated with our Loan and Security Agreement, as defined below, and a reduction in other income of $0.4 million. Liquidity and Capital Resources Sources of Liquidity We have not generated any revenue from product sales. Since inception, we have incurred net losses and negative cash flows from our operations. To date, we have financed our operations primarily through public offerings of our common stock, private placements of our convertible equity securities, term debt and collaborations. Through December 31, 2021, we have received an aggregate of $714.1 million from issuances of equity and $25.0 million from our Loan and Security Agreement, as defined below. Loan and Security Agreement On August 6, 2021, we entered into the Loan and Security Agreement. The Loan and Security Agreement provided for an initial term loan of $25.0 million funded at the closing, with an additional tranche of $25.0 million available if certain funding and clinical milestones were met by August 31, 2022. On December 28, 2021, we entered into a First Amendment, or the Amendment, to the Loan and Security Agreement, or the Amended Loan and Security Agreement. 56 Table of Contents Under the terms of the Amended Loan and Security Agreement, the SVB Facility was modified to eliminate the additional $25.0 million tranche, which remained unfunded, leaving only the initial $25.0 million as the full amount available under the SVB Facility. The SVB Facility bears interest at a floating rate per annum on the outstanding loans, payable monthly, at the greater of (a) 7.75% and (b) the current published U.S. prime rate, plus a margin of 4.5%. The Amended Loan and Security Agreement provides for an interest-only period which extends through August 31, 2022, as compared to March 31, 2022 in the Loan and Security Agreement, and may be automatically extended through August 31, 2023, if, on or prior to August 31, 2022, SVB receives evidence, satisfactory to it, confirming that we have (i) received at least $50.0 million in net cash proceeds from the sale of our equity securities after the date of the Amended Loan and Security Agreement, on terms and conditions acceptable to SVB, and (ii) achieved positive data in the first cohort of the TCR-T Library Phase 1/2 Trial endorsed by an independent safety monitoring committee as a safe dose to proceed (together, the “Amended Milestones”). After the interest-only payment period, aggregate outstanding borrowings are repayable in twelve consecutive, equal monthly installments of principal plus accrued interest. All outstanding principal and accrued and unpaid interest under the SVB Facility and all other outstanding obligations under the Amended Loan and Security Agreement are due and payable on August 1, 2023; however, if we achieve the Amended Milestones on or prior to August 31, 2022, then the maturity will be automatically extended to August 1, 2024. In addition to the payment of the outstanding principal plus accrued interest due, we will also owe SVB a final payment fee equal to 5.75% of the original principal amounts borrowed. We are permitted to make up to two prepayments, each payment of at least $5.0 million, subject to the prepayment premium of the SVB Facility. Such prepayment premium would be 3.00% of the principal amount of the SVB Facility if prepaid prior to the first anniversary of the effective date, 2.00% of the principal amount of the SVB Facility if prepaid on or after the first anniversary of the effective date but prior to the second anniversary of the effective date and 1.00% of the principal amount of the SVB Facility if prepaid on or after the second anniversary of the effective date but prior to maturity date. No amount that has been repaid may be reborrowed. The Loan and Security Agreement required us to cash collateralize half of the sum of the outstanding principal amount of the term loans, plus an amount equal to 5.75% of the original principal amount of any portion of the SVB Facility actually extended, if we failed to achieve to a certain fundraising milestone on or prior to December 31, 2021. The Amended Loan and Security Agreement revised our cash collateralization obligation to require us to cash collateralize half of the sum of only the then-outstanding principal amount of the SVB Facility, plus an amount equal to 5.75% of the original principal amount of the SVB Facility if we do not achieve the Amended Milestones on or prior to August 31, 2022. In the event a cash collateralization were to occur, so long as no event of default has occurred and, after subtracting the eighth scheduled payment of principal and interest on the SVB Facility, the sum of the aggregate of outstanding principal and accrued and unpaid interest, plus the final payment, is equal to or less than $9,770,933, then, within ten business days of the date of receipt of the eighth scheduled payment of principal and interest on the SVB Facility, SVB will release $2.5 million from the collateral account, so long as the balance in the collateral account after the release would equal or exceed $10.0 million. If no event of default has occurred and, after subtracting the tenth scheduled payment of principal and interest on the SVB Facility, the sum of the aggregate of outstanding principal and accrued and unpaid interest, plus the final payment, is equal to or less than $5,604,167, then, within ten business days of the date of receipt of the tenth scheduled payment of principal and interest on the SVB Facility, SVB will release a further $4.0 million from the collateral account, so long as the balance in the collateral account after the release would equal or exceed $6.0 million. The SVB Facility and related obligations under the Amended Loan and Security Agreement are secured by substantially all of our properties, rights and assets, except for its intellectual property (which is subject to a negative pledge under the Amended Loan and Security Agreement). In addition, the Amended Loan and Security Agreement contains customary representations, warranties, events of default and covenants. In connection with our entry into the Loan and Security Agreement, we issued to SVB warrants to purchase (i) up to 432,844 shares of our common stock, par value $0.001 per share, in the aggregate, and (ii) up to an additional 432,842 shares of Common Stock, in the aggregate, in the event we achieve certain clinical milestones, in each case at an exercise price per share of $2.22. In connection with the entry into the Amendment, we amended and restated the warrants issued to SVB. As amended and restated, the warrants are for up to 649,615 shares of our common stock, in the aggregate, at an exercise price per share of $1.16, or the SVB Warrants. The SVB Warrants expire on August 6, 2031. February 2020 Public Offering On February 5, 2020, we issued and sold 27,826,086 shares of our common stock at an offering price to the public of $3.25 per share, for aggregate net proceeds of approximately $84.8 million after deducting underwriting discounts and offering expenses paid by us. The offering was made pursuant to our effective registration statement on Form S-3ASR (File No. 333-232283) previously filed with the SEC, and a prospectus supplement thereunder. On March 10, 2020, the underwriters exercised their option to purchase an additional 1,284,025 shares. The net proceeds were approximately $3.9 million after deducting underwriting discounts and offering expenses paid by us. 57 Table of Contents At-the-Market Facility In June 2019, we entered into an Open Market Sale Agreement, or Sales Agreement, with Jefferies LLC as a sale agent pursuant to which we may offer and sell, from time to time through Jefferies, shares of our common stock having an aggregate offering value of up to $100.0 million. Shares will be sold pursuant to our effective registration statement on Form S-3ASR (File No. 333-232283), as previously filed with the SEC. Subject to the terms of the Sales Agreement, we are able to determine, at our sole discretion, the timing and number of shares to be sold under this at-the-market, or ATM, facility. The compensation to Jefferies for sales of our common stock pursuant to the Sales Agreement will be an amount equal to 3% of the gross proceeds of any shares of common stock sold under the sales agreement. During the year ended December 31, 2020, we issued and sold an aggregate of 2,814,673 shares for aggregate net proceeds of approximately $13.0 million after deducting underwriting discounts and offering expenses payable by us. We did not sell any shares of our common stock under the ATM facility during the year ended December 31, 2021. Cash Flows The following table summarizes our net increase (decrease) in cash and cash equivalents for the years ended December 31, 2021 and 2020: Year ended December 31, 2021 2020 ($ in thousands) Net cash provided by (used in): Operating activities $ (61,468 ) $ (57,013 ) Investing activities (3,323 ) (9,778 ) Financing activities 25,776 102,119 Net increase (decrease) in cash and cash equivalents $ (39,015 ) $ 35,328 Cash flows from operating activities represent the cash receipts and disbursements related to all of our activities other than investing and financing activities. Operating cash flow is derived by adjusting our net loss • Non-cash operating items such as depreciation and amortization, stock-based compensation, inducement warrant expense, and warrants for common stock issued; and • Changes in operating assets and liabilities which reflect timing differences between the receipt and payment of cash associated with transactions and when they are recognized in results of operations. Net cash used in operating activities for the year ended December 31, 2021 was $61.5 million, as compared to $57.0 million for the year ended December 31, 2020. The net cash used in operating activities for the year ended December 31, 2021 was primarily a result of our net loss of $78.8 million, adjusted for $14.5 million of non-cash items such as depreciation and stock-based compensation, and a decrease in accrued expenses of $10.5 million, offset by a decrease in receivables of $3.6 million, a decrease in prepaid expenses and other assets of $9.2 million, and an increase in accounts payable of $0.3 million. The net cash used in operating activities for the year ended December 31, 2020 was primarily a result of our net loss of $80.0 million, an increase in receivables of $1.3 million, an increase in other noncurrent assets of $0.6 million, partially offset by a decrease in prepaid expenses and other current assets of $11.6 million primarily related to the use of funds at MD Anderson and an increase in accounts payable and accrued expenses of $5.3 million. Net cash used in investing activities was $3.3 million for the year ended December 31, 2021 as compared to $9.8 million for the year ended December 31, 2020. The $6.5 million decrease in net cash used in investing activities for the year ended December 31, 2021 compared to the year ended December 31, 2020 was primarily a result of the decision to use available cash to expand our internal cell therapy capabilities in our Houston, Texas facilities during 2020. Net cash provided by financing activities was $25.8 million for the year ended December 31, 2021 compared to $102.1 million for the year ended December 31, 2020. The $25.8 million provided by financing activities during the year ended December 31, 2021 related primarily to proceeds from our $25.0 million SVB Facility and the proceeds from the exercise of stock options equal to $1.0 million. Net cash provided by financing activities was $102.1 million for the year ended December 31, 2020, was primarily a result of net proceeds of $88.7 million from the issuance of common stock in our follow-on public offering and $13.0 million from the issuance of common stock under our ATM facility. Operating Capital and Capital Expenditure Requirements We anticipate that losses will continue for the foreseeable future. As of December 31, 2021, our accumulated deficit was approximately $842.9 million. Our actual cash requirements may vary materially from those planned because of a number of factors, includin • changes in the focus, direction and pace of our development programs; • the effect of competing technologies and market developments; 58 Table of Contents • the scope, progress, timing, costs and results of our TCR-T Library Phase 1/2 Trial for the treatment of certain solid tumors and costs associated with the development of our product candidates; • our headcount growth as we rebuild our workforce with a focus on our TCR program and scale our manufacturing capabilities; • our ability to secure partnering arrangements; and • costs of filing, prosecuting, defending and enforcing any patent claims and any other intellectual property rights, or other developments. As of December 31, 2021, we had approximately $76.1 million of cash and cash equivalents. Given our current development plans, we anticipate our cash resources will be sufficient to fund our operations into the second quarter of 2023. In order to continue our operations beyond our forecasted runway we will need to raise additional capital, and we have no committed sources of additional capital at this time. The forecast of cash resources is forward-looking information that involves risks and uncertainties, and the actual amount of our expenses could vary materially and adversely as a result of a number of factors. We have based our estimates on assumptions that may prove to be wrong, and our expenses could prove to be significantly higher than we currently anticipate. Management does not know whether additional financing will be on terms favorable or acceptable to us when needed, if at all. If adequate additional funds are not available when required, or if we are unsuccessful in entering into partnership agreements for further development of our product candidates, management may need to curtail its development efforts and planned operations. Working capital as of December 31, 2021 was $62.8 million, consisting of $78.8 million in current assets and $16.0 million in current liabilities. Working capital as of December 31, 2020 was $112.2 million, consisting of $130.6 million in current assets and $18.4 million in current liabilities. Operating Leases Our commitments for operating leases relate to laboratory and office space in Houston, Texas and office space in Boston, Massachusetts. On December 21, 2015 and April 15, 2016, we renewed the sublease for our office space in Boston through August 31, 2021. On April 22, 2021, we extended our lease for a portion of office space currently held at our office in Boston. The renewal of the portion of our office space was originally set to expire on August 31, 2021 but was extended through August 31, 2026. On March 12, 2019, we entered into a lease agreement for office space in Houston at MD Anderson through April 2021. On October 15, 2019, we entered into another lease agreement for additional office and laboratory space in Houston through February 2027. On April 7, 2020, we entered into amendments to our existing lease to lease additional office and laboratory space in Houston through February 2027. In June and September 2020, we entered into short-term leases in Houston for additional office and laboratory space. On December 15, 2020, we entered into a second lease in Houston with MD Anderson which provided us additional office and laboratory space through April 2028. Refer to Note 8, Leases , for details on the future funding requirements related to our leases. Royalty and License Fees On May 28, 2019, we entered into the Patent License with the NCI. The terms of the Patent License require us to pay the NCI minimum annual royalties in the amount of $0.3 million, which will be reduced to $0.1 million once the aggregate minimum annual royalties paid by us equals $1.5 million. We have made royalty payments to the NCI in accordance with the patent license agreement. Refer to Note 9, Commitments and Contingencies , for further details. Pursuant to the Patent License, we are also required to make performance-based payments contingent upon the successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $4.3 million, of which aggregate payments of $3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $0.1 million will be due upon the initiation of our first sponsored Phase 1 clinical trial of a licensed product or licensed process in the field of use licensed under the Patent License. In addition, we are required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $250.0 million to $1.0 billion. The aggregate potential amount of these benchmark payments is $12.0 million. No payments were made during the years ended December 31, 2021 and 2020. On October 5, 2018, we entered into the License Agreement with PGEN. Under the License Agreement, we are obligated to pay PGEN an annual licensing fee of $0.1 million expected to be paid through the term of the agreement and we have also agreed to reimburse certain historical costs of PGEN up to $1.0 million. For the years ended December 31, 2021 and 2020, we have made licensing fee payments in accordance with the terms of the agreement. Pursuant to the terms of the License Agreement, we are responsible for contingent milestone payments totaling up to an additional $52.5 million for each exclusively licensed program upon the initiation of later stage clinical trials and upon the approval of exclusively licensed 59 Table of Contents products in various jurisdictions. In addition, we will pay PGEN tiered royalties ranging from low-single digit to high-single digit on the net sales derived from the sales of any approved IL-12 products and CAR products. We will also pay PGEN royalties ranging from low-single digit to mid-single digit on the net sales derived from the sales of any approved TCR products, up to a maximum royalty amount of $100.0 million in the aggregate. We will also pay PGEN twenty percent of any sublicensing income received by us relating to the licensed products. We are responsible for all development costs associated with each of the licensed products. PGEN will pay us royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of PGEN’s CAR products, up to a maximum royalty amount of $100.0 million. Critical Accounting Policies and Significant Estimates Our Management’s Discussion and Analysis of our financial condition and results of operations is based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements as well as the reported expenses during the reporting periods. We evaluate our estimates and judgments on an ongoing basis. Actual results may differ materially from these estimates under different assumptions or conditions. We believe the following are our more significant estimates and judgments used in the preparation of our financial statements: • Clinical trial expenses and other research and development expenses; • Collaboration agreements; • Fair value measurements of stock-based compensation; and • Income taxes. Research and Development Costs / Clinical Trial Expenses As part of the process of preparing our financial statements, we are required to estimate our accrued research and development expenses. This process involves reviewing open contracts and purchase orders, communicating with our personnel to identify services that have been performed on our behalf and estimating the level of service performed and the associated costs incurred for the services when we have not yet been invoiced or otherwise notified of the actual costs. The majority of our service providers invoice us in arrears for services performed, on a predetermined schedule or when contractual milestones are met; however, a few require advanced payments. We make estimates of our accrued expenses as of each balance sheet date in our financial statements based on facts and circumstances known to us at that time. Examples of estimated accrued research and development expenses include fees paid t • CROs in connection with performing research services on our behalf and clinical trials; • investigative sites or other providers in connection with clinical trials; • vendors in connection with preclinical and clinical development activities; and • vendors related to product manufacturing, development, and distribution of preclinical and clinical supplies. We base our expenses related to preclinical studies and clinical trials on our estimates of the services received and efforts expended pursuant to quotes and contracts with multiple CROs that conduct and manage clinical trials on our behalf. The financial terms of these agreements are subject to negotiation, vary from contract to contract and may result in uneven payment flows. There may be instances in which payments made to our vendors will exceed the level of services provided and result in a prepayment of the clinical expense. Payments under some of these contracts depend on factors such as the completion of clinical trial milestones. In accruing service fees, we estimate the time period over which services will be performed, enrollment of patients, number of sites activated and the level of effort to be expended in each period. Although we do not expect our estimates to be materially different from amounts actually incurred, our understanding of the status and timing of services performed relative to the actual status and timing of services performed may vary and may result in changes to our previous estimates, which we considered reasonably reliable at the time. To date, we have not made any material adjustments to our prior estimates of accrued research and development expenses. Revenue Recognition from Collaboration Agreements We primarily generate revenue through collaboration arrangements with strategic partners for the development and commercialization of product candidates. Commencing January 1, 2018, we recognized revenue in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 606, Revenue from Contracts with Customers (“ASC 606”) , which replaced ASC 605, Multiple Element Arrangements , as used in historical years. The core principle of ASC 606 is that an entity should recognize revenue to depict the transfer of promised goods and/or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods and/or services. To determine the appropriate amount of revenue to be recognized for arrangements that 60 Table of Contents we determine are within the scope of ASC 606, we perform the following steps: (i) identify the contract(s) with the customer, (ii) identify the performance obligations in the contract, (iii) determine the transaction price, (iv) allocate the transaction price to the performance obligations in the contract and (v) recognize revenue when (or as) each performance obligation is satisfied. We recognize collaboration revenue under certain of our license or collaboration agreements that are within the scope of ASC 606. Our contracts with customers typically include promises related to licenses to intellectual property, research and development services and options to purchase additional goods and/or services. If the license to our intellectual property is determined to be distinct from the other performance obligations identified in the arrangement, we recognize revenue from non-refundable, up-front fees allocated to the license when the license is transferred to the licensee and the licensee is able to use and benefit from the license. For licenses that are bundled with other promises, we utilize judgment to assess the nature of the combined performance obligation to determine whether the combined performance obligation is satisfied over time or at a point in time and, if over time, the appropriate method of measuring progress for purposes of recognizing revenue from non-refundable, up-front fees. Contracts that include an option to acquire additional goods and/or services are evaluated to determine if such option provides a material right to the customer that it would not have received without entering into the contract. If so, the option is accounted for as a separate performance obligation. If not, the option is considered a marketing offer which would be accounted for as a separate contract upon the customer’s election. The terms of our arrangements with customers typically include the payment of one or more of the followin(i) non-refundable, up-front payment, (ii) development, regulatory and commercial milestone payments, (iii) future options and (iv) royalties on net sales of licensed products. Accordingly, the transaction price is generally comprised of a fixed fee due at contract inception and variable consideration in the form of milestone payments due upon the achievement of specified events and tiered royalties earned when customers recognize net sales of licensed products. We measure the transaction price based on the amount of consideration to which we expect to be entitled in exchange for transferring the promised goods and/or services to the customer. We utilize the most likely amount method to estimate the amount of variable consideration, to predict the amount of consideration to which we will be entitled for our one open contract. Amounts of variable consideration are included in the transaction price to the extent that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the variable consideration is subsequently resolved. At the inception of each arrangement that includes development and regulatory milestone payments, we evaluate whether the associated event is considered probable of achievement and estimate the amount to be included in the transaction price using the most likely amount method. Milestone payments that are not within the control of us or the licensee, such as those dependent upon receipt of regulatory approval, are not considered to be probable of achievement until the triggering event occurs. At the end of each reporting period, we reevaluate the probability of achievement of each milestone and any related constraint, and if necessary, adjust our estimate of the overall transaction price. Any such adjustments are recorded on a cumulative catch-up basis, which would affect revenue and net loss in the period of adjustment. For arrangements that include sales-based royalties, including milestone payments based upon the achievement of a certain level of product sales, we recognize revenue upon the later o (i) when the related sales occur or (ii) when the performance obligation to which some or all of the payment has been allocated has been satisfied (or partially satisfied). To date, we have not recognized any development, regulatory or commercial milestones or royalty revenue resulting from any of our collaboration arrangements. Consideration that would be received for optional goods and/or services is excluded from the transaction price at contract inception. We allocate the transaction price to each performance obligation identified in the contract on a relative standalone selling price basis. However, certain components of variable consideration are allocated specifically to one or more particular performance obligations in a contract to the extent both of the following criteria are (i) the terms of the payment relate specifically to the efforts to satisfy the performance obligation or transfer the distinct good or service and (ii) allocating the variable amount of consideration entirely to the performance obligation or the distinct good or service is consistent with the allocation objective of the standard whereby the amount allocated depicts the amount of consideration to which the entity expects to be entitled in exchange for transferring the promised goods or services. We develop assumptions that require the use of judgment to determine the standalone selling price for each performance obligation identified in each contract. The key assumptions utilized in determining the standalone selling price for each performance obligation may include forecasted revenue, development timelines, estimated research and development costs, discount rates, likelihood of exercise and probabilities of technical and regulatory success. Revenue is recognized based on the amount of the transaction price that is allocated to each respective performance obligation when or as the performance obligation is satisfied by transferring a promised good and/or service to the customer. For performance obligations that are satisfied over time, we recognize revenue by measuring the progress toward complete satisfaction of the performance obligation using a single method of measuring progress which depicts the performance in transferring control of the associated goods and/or services to the customer. We use input methods to measure the progress toward the complete satisfaction of performance obligations satisfied over time. We evaluate the measure of progress each reporting period and, if necessary, adjust the measure of performance and related revenue recognition. Any such adjustments are recorded on a cumulative catch-up basis, which would affect revenue and net loss in the period of adjustment. Accounting for Stock-Based Compensation Stock-based compensation cost is measured at the grant date, based on the estimated fair value of the award, and is recognized as expense over the employee’s requisite service period. Stock-based compensation expense is based on the number of awards ultimately expected to vest and is 61 Table of Contents reduced for forfeitures as they occur. Consistent with prior years, the Company uses the Black-Scholes option pricing model which requires estimates of the expected term option holders will retain their options before exercising them and the estimated volatility of the Company’s common stock price over the expected term. We review our valuation assumptions periodically and, as a result, we may change our valuation assumptions used to value share-based awards granted in future periods. Such changes may lead to a significant change in the expense we recognize in connection with share-based payments. Our assumptions are estimated as follows: • The fair market value of our common stock is considered the quoted market price on NASDAQ. • The expected volatility is based on the historical stock volatility of our common stock over a sufficient period of time equal to the expected term of the options. • The expected term represents the period that our stock options are expected to be outstanding. • The risk-free interest rate is based on the yields of U.S. Treasury securities with maturities commensurate with the expected term of the award. • We have not paid dividends on our common stock nor do we expect to pay dividends in the foreseeable future. Income Taxes In preparing our financial statements, we estimate our income tax liability in each of the jurisdictions in which we operate by estimating our actual current tax expense together with assessing temporary differences resulting from differing treatment of items for tax and financial reporting purposes. These differences result in deferred tax assets and liabilities, which, prior to the consideration for the need for a valuation allowance, are included on the balance sheet. Significant management judgment is required in assessing the realizability of our deferred tax assets. In performing this assessment, we consider whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. In making this determination, under the applicable financial accounting standards, we are allowed to consider the scheduled reversal of deferred tax liabilities, projected future taxable income, and the effects of tax planning strategies. Our estimates of future taxable income include, among other items, our estimates of future income tax deductions related to the exercise of stock options. In the event that actual results differ from our estimates, we adjust our estimates in future periods and we may need to establish a valuation allowance, which could materially impact our financial position and results of operations. We account for uncertain tax positions using a “more-likely-than-not” threshold for recognizing and resolving uncertain tax positions. The evaluation of uncertain tax positions is based on factors that include, but are not limited to, changes in tax law, the measurement of tax positions taken or expected to be taken in tax returns, the effective settlement of matters subject to audit, new audit activity and changes in facts or circumstances related to a tax position. We evaluate uncertain tax positions on an annual basis and adjust the level of the liability to reflect any subsequent changes in the relevant facts surrounding the uncertain positions. Our liabilities for uncertain tax positions can be relieved only if the contingency becomes legally extinguished through either payment to the taxing authority or the expiration of the statute of limitations, the recognition of the benefits associated with the position meet the “more-likely-than-not” threshold or the liability becomes effectively settled through the examination process. We consider matters to be effectively settled once the taxing authority has completed all of its required or expected examination procedures, including all appeals and administrative reviews; we have no plans to appeal or litigate any aspect of the tax position; and we believe that it is highly unlikely that the taxing authority would examine or re-examine the related tax position. We also accrue for potential interest and penalties, related to unrecognized tax benefits in income tax expense. Recent Accounting Pronouncements For a discussion of new accounting standards, please read Note 3 to the accompanying financial statements, Summary of Significant Accounting Principles included in this report. Item 7A. Quantitative and Qualitative Disclosures About Market Risk As a smaller reporting company, as defined by Rule 12b-2 of the Exchange Act, we are not required to provide the information under this item. Item 8. Financial Statements and Supplementary Data The information required by this Item 8 is contained on pages F-1 through F-28 of this Annual Report and is incorporated herein by reference. 62 Table of Contents Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures None. Item 9A. Controls and Procedures Evaluation of Disclosure Controls and Procedures. Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we have evaluated the effectiveness of our disclosure controls and procedures, as such term is defined under Rule 13a-15(e) or 15d-15(e) promulgated under the Exchange Act, as of December 31, 2021. Based on that evaluation, our principal executive officer and principal financial officer has concluded that as of December 31, 2021, our disclosure controls and procedures were effective as described below under “ Management’s Report on Internal Control over Financial Reporting .” Remediation of Material Weakness In connection with the review of our financial statements as of and for the quarter ended June 30, 2021, we identified a material weakness in our internal control over financial reporting. A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of our financial statements will not be prevented or detected on a timely basis. Our identified material weakness existing in our financial reporting process relates to the lack of sufficient accounting resources to execute certain controls related to the reconciliation and review of accounts in a timely manner. Following the identification of the material weakness in our internal controls over financial reporting as of June 30, 2021, we prepared a remediation action plan and implemented that plan to improve the controls related to the reconciliation and review of accounts in a timely manner. We enhanced and revised the design of related existing internal controls, implemented incremental controls over our financial statement close process and hired new accounting staff. During the fourth quarter of 2021, we successfully completed the testing necessary to conclude that the material weakness has been remediated. The material weakness had no impact on any amounts reported in the financial statement for the fiscal year ended December 31, 2021 or for any previous period. Management’s Report on Internal Control over Financial Reporting Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is defined in Rules 13(a)-15(f) and 15(d)-15(f) promulgated under the Exchange Act as a process designed by, or under the supervision of, our principal executive officer, principal financial officer, and principal accounting officer and effected by our board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles and includes those policies and procedures tha • Pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of our assets; • Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and • Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on the financial statements. Under the supervision and with the participation of management, including our principal executive officer, principal financial officer, and principal accounting officer, we assessed our internal control over financial reporting as of December 31, 2021, based on criteria for effective internal control over financial reporting established in Internal Control - Integrated Framework (2013), issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Our management’s assessment of the effectiveness of our internal control over financial reporting included testing and evaluating the design and operating effectiveness of our internal controls. In management’s opinion, we have maintained effective internal control over financial reporting as of December 31, 2021, based on the criteria discussed above. Inherent Limitations on Internal Controls Our management, including our principal executive officer, principal financial officer, and principal accounting officer, does not expect that our disclosure controls and procedures or our internal controls will prevent all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected. These inherent limitations include the realities that judgements in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by individual acts of some persons, by collusion of two or more people, or by management override of the control. The design of any system of controls also is 63 Table of Contents based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. Changes in Internal Controls over Financial Reporting Other than the changes described above, there were no changes in our internal control over financial reporting (as defined in Rule 13(a)-15(f) of the Exchange Act) that occurred during the fiscal year ended December 31, 2021 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. Item 9B. Other Information Departure of Directors or Certain Officers; Election of Directors; Appointment of Certain Officers; Compensatory Arrangements of Certain Officers. On March 28, 2022, Dr. Baffa notified us of his decision to resign from his position as our Chief Medical Officer, effective March 31, 2022, in order to pursue other opportunities. In connection with Dr. Baffa’s resignation, we entered into a letter agreement, or the Baffa Separation Agreement, to govern the terms of his separation. Under the Baffa Separation Agreement, subject to its due execution, in exchange for a release of claims and certain post-employment covenants, Dr. Baffa is entitled to receive a $155,000 lump sum cash payment and we have waived our right to recover half of his $160,000 sign-on bonus which we would otherwise be entitled to since he is departing after the first anniversary but before the second anniversary of his employment start date. Regardless of whether or not Dr. Baffa executes the Baffa Separation Agreement, we will continue paying Dr. Baffa’s COBRA premiums for four months following the separation date. The Baffa Separation Agreement supersedes all prior agreements between the parties. In addition, the Baffa Separation Agreement includes confidentiality and intellectual property provisions which continue after Dr. Baffa’s departure. Dr. Baffa has seven business days following execution in which he may rescind his resignation and revoke the Baffa Separation Agreement. The Baffa Separation Agreement will become effective upon the expiration of the seven business day revocation period. Item 9C. Disclosure Regarding Foreign Jurisdictions that Prevent Inspections None. 64 Table of Contents PART III Item 10. Directors, Executive Officers and Corporate Governance Current Directors, Director Nominees And Executive Officers Our Board of Directors Set forth below are the names and certain information about each of our directors as of March 15, 2022. The information presented includes each director’s age, principal occupation and business experience for the past five years and the names of other public companies of which he or she has served as a director during the past five years. In addition, the table contains information about the specific and particular experience, qualifications, attributes or skills of each current director and each nominee for director at the annual meeting that led the corporate governance and nominating committee to believe that such current director was appropriate for nomination at a previous annual meeting of stockholders and, in the case of each nominee for director at the annual meeting, that such nominee should serve on our board of directors following election at the annual meeting. Each of our directors serves for a one-year term until re-elected at our next annual meeting. Name Positions and Offices Held Director Since Age Christopher Bowden M.D. Director 2019 60 Kevin S. Boyle, Sr. Chief Executive Officer and Director 2021 48 James Huang Executive Chair 2020 56 Robert W. Postma Director 2021 68 Mary Thistle Director 2020 62 Jaime Vieser Director 2020 52 Holger Weis Director 2020 59 Christopher Bowden, M.D. Director Dr. Bowden, an oncology drug development executive with more than 20 years of leadership experience including the approval of several cancer medicines, has served as a member of our board of directors since October 2019. He was the Chief Medical Officer of Agios Pharmaceuticals from May 2014 to September 2021. Previously, Dr. Bowden was Vice President Product Development Oncology, at Genentech for eight years. From 2003 to 2006, he was the Executive Director for EMEA regions for Bristol-Myers Squibb. Earlier, Dr. Bowden held positions of increasing responsibility in oncology clinical development, at Pharmacia Corporation and Janssen Pharmaceutical. Prior to industry, Dr. Bowden was on the oncology faculty at the University of Virginia Health Science Center. From September 2017 to October 2020, Dr. Bowden served as a member of the board of directors of miRagen Therapeutics, Inc., a publicly traded biopharmaceutical company discovering and developing proprietary RNA-targeted therapies with a specific focus on microRNAs. Dr. Bowden received his M.D. from Hahnemann University School of Medicine followed by internal medicine training at Roger Williams Medical Center and the Providence VA Medical Center, Rhode Island. He completed his medical oncology fellowship at the National Cancer Institute Medicine Branch. Dr. Bowden is board certified in internal medicine and medical oncology. Our board of directors believes that Dr. Bowden’s extensive background in drug development and leadership experience at several leading life science and pharmaceutical companies qualifies him to serve on the board of directors. Kevin S. Boyle, Sr. Director Kevin S. Boyle, Sr., was appointed our Chief Executive Officer and a member of our board of directors in August 2021. Mr. Boyle has over 20 years of experience in leading businesses in competitive and transformative situations and has a strong track record of delivering shareholder value. He is also an accomplished capital markets professional with strong banking relationships cultivated by raising over $2.0 billion in equity and debt capital over his career. Prior to joining the Company, Mr. Boyle served in various roles at Kuur Therapeutics, Inc. (formerly known as Cell Medica Ltd.). Mr. Boyle first served as Kuur’s chief financial officer from February 2018 until January 2020. From January 2020 until May 2021, Mr. Boyle served as Kuur’s chief executive officer where he led the company through a successful transformation, culminating in a $185 million acquisition in May 2021 by Athenex, Inc. (NASDAQ: ATNX). Following the acquisition, Athenex engaged Mr. Boyle as a consultant to assist in the integration of Kuur. Prior to joining Kuur, Mr. Boyle served as the chief financial officer of FloWorks International, LLC, Sigma3 Integrated Reservoir Solutions, Recover Care, and SPT Inc. Mr. Boyle graduated with a B.S. from Carnegie Mellon University and a J.D. from the University of Pennsylvania Carey Law School. Our board of directors believes that Mr. Boyle’s prior experience as a chief executive officer in the life sciences industry and significant fundraising experience qualifies him to serve on the board of directors. 65 Table of Contents James Huang Director Mr. Huang has served as a member of our board of directors since July 2020, our Chair from January 2021 until February 2021, and our Executive Chair since February 2021. Mr. Huang joined Kleiner Perkins Caufield & Byers China, or KPCB China, as a managing partner in 2011 and focuses on the firm’s life sciences practice. Prior to joining KPCB China, Mr. Huang was a managing partner at Vivo Ventures, a venture capital firm specializing in life sciences investments. Before joining Vivo in 2007, Mr. Huang was president of Anesiva, a biopharmaceutical company focused on pain-management treatments. During his 20-year career in the pharmaceutical and biotech industry, he also held senior roles in business development, sales, marketing and R&D with Tularik Inc. (acquired by Amgen), GlaxoSmithKline LLC, Bristol-Myers Squibb and ALZA Corp. (acquired by Johnson & Johnson). Mr. Huang is also founding and managing partner of Panacea Venture, a global venture fund focusing on investments in innovative and transformative early and growth stage healthcare and life science companies. Mr. Huang is Chairman of the board at Kindstar Global (Beijing) Technology, Inc., Windtree Therapeutics, Inc., JHL Biotech, Inc., Tactiva Therapeutics, LLC, and Chime Biologics Limited and Director at CASI Pharmaceuticals Inc. and XW Laboratories Inc. Mr. Huang received an M.B.A. from the Stanford Graduate School of Business and a B.S. degree in chemical engineering from the University of California, Berkeley. Our board of directors believes that Mr. Huang’s extensive experience in life science investments and serving on the boards of directors of a number of life sciences and pharmaceutical companies qualifies him to serve on the board of directors. Robert W. Postma Director Mr. Postma has served as a member of our board of directors since February 2021. Mr. Postma has also served as the president of WaterMill Asset Management Corp. (“WaterMill”), a company which he founded in July 1999. WaterMill actively trades in municipal bonds and equities, using the funds of Mr. Postma. Mr. Postma has over 44 years of trading experience and received a B.A. in Business and Economics from Lafayette College. Our board of directors believes that Mr. Postma’s management and trading experience allows Mr. Postma to provide financial guidance to us and qualifies him to serve on the board of directors. Mary Thistle Director Ms. Thistle has served as a member of our board of directors since November 2020. Ms. Thistle has served as Special Advisor to the Bill & Melinda Gates Medical Research Institute, a non-profit biotech organization, since October 2020, and was its Chief of Staff from January 2018 until October 2020. Prior to then, she held senior leadership positions at Dimension Therapeutics, Inc., a gene therapy company, including serving as its Chief Operating Officer from 2016 to 2017 and Chief Business Officer from 2015 to 2016. Prior to joining Dimension Therapeutics, Inc., she spent six years at Cubist Pharmaceuticals, Inc., a biopharmaceutical company, where she held various leadership positions, including serving as its Senior Vice President, Business Development from 2014 to 2015, Vice President, Business Development from 2012 to 2013 and Senior Director, Business Development from 2009 to 2012. Prior to then, she held various positions at ViaCell, Inc. and PerkinElmer Inc. Ms. Thistle serves as a member of the boards of directors of Homology Medicines, Inc. (NASDAQ: FIXX), Entrada Therapeutics, Inc. (NASDAQ: TRDA) and the board of directors of private companies, Enterome SA and Cocoon Biotech Inc. Ms. Thistle holds a B.S. in Accounting from the University of Massachusetts, Boston. Our board of directors believes that Ms. Thistle’s perspective, financial expertise, business development and leadership experience at several biopharmaceutical companies provides her with the qualifications and skills to serve on the board of directors. Jaime Vieser Director Mr. Vieser has served as a member of our board of directors since December 2020. Mr. Vieser currently manages Brushwood LLC, a private investment firm. From 2010-2017, he was a Managing Partner and co-principal of Castle Hill Asset Management LLC, a $2.7 billion asset manager and hedge fund focusing on high yield and distressed debt. Prior to founding Castle Hill, Mr. Vieser was responsible for Deutsche Bank’s High Yield Sales and Trading Group in London from 1998 to 2008. Mr. Vieser originally joined Bankers Trust in New York in 1994 and worked in the Investment Banking/Leveraged Finance division. Mr. Vieser graduated from the University of Michigan with a degree in Economics and from the Cox School of Business at Southern Methodist University with a Master’s in Business Administration. Our board of directors believes that Mr. Vieser’s financial expertise and investment experience allows Mr. Vieser to provide business to us and qualifies him to serve on the board of directors. 66 Table of Contents Holger Weis Director Mr. Weis has served as a member of our board of directors since December 2020. Mr. Weis continues to serve as the principal of Weis Advisors, Inc., a company that provides consulting services to life science companies, since founding the company in April 2018. Prior to that, he served in a number of roles at DemeRx, Inc., a clinical stage pharmaceutical company developing non-addictive treatments for drug addiction, including serving as Chief Operating Officer and Chief Financial Officer from December 2011 to July 2017, and also as President from September 2014 to July 2017, and as a Consultant from July 2017 to April 2018. Earlier in his career, Mr. Weis served as the Chief Financial Officer of EnSA Holdings, LLC, a company that focuses on environmentally sustainable agriculture techniques and technologies for the production of rice, from August 2010 to November 2011. From 2006 to 2010, he served as the Vice President & Chief Financial Officer, Secretary and Treasurer of NovaVision, Inc., a therapeutic and diagnostic vision restoration company. Prior to that, he served as the Chief Financial Officer & Treasurer of GMP Companies, Inc., a company that develops and commercializes pharmaceutical, medical device and diagnostic technologies, from 2000 to 2005. Mr. Weis served as a Senior Manager at Ernst & Young, a multinational professional services company, from 1986 to 2000. Mr. Weis has co-authored a number of scientific papers and presentations and is an inventor on a number of patents and patent applications. Mr. Weis also serves on the board of directors of Jupiter NeuroSciences, Inc. Mr. Weis received a Bachelor of Business Administration in Accounting from the University of Georgia and is a Certified Public Accountant. Our board of directors believes that Mr. Weis’s management and industry experience, as well as his financial expertise, qualify him to serve on the board of directors. Agreement to Appoint a Director Mr. Postma, Mr. Vieser and Mr. Weis were all nominated for election as directors at our last annual meeting pursuant to a certain settlement agreement we entered into with WaterMill and Mr. Postma. See Item 13 “ Certain Relationships and Related Transactions, and Director Independence—Certain Related-Party Transaction—WaterMill Settlement Agreement ” for more information. 67 Table of Contents Our Executive Officers The following table sets forth certain information concerning our executive officers as of March 15, 2021. Name Position(s) Age Kevin S. Boyle, Sr. Chief Executive Officer and Director 48 Michael Wong Vice President, Finance 42 Raffaele Baffa, M.D., Ph.D. Chief Medical Officer 61 Eleanor de Groot, Ph.D. Executive Vice President, Operations 53 Melinda Lackey Senior Vice President, Legal 45 Kevin S. Boyle, Sr. Chief Executive Officer and Director Mr. Boyle’s biography is included above under the section titled “Our Board of Directors.” Michael Wong Vice President, Finance Michael Wong was appointed to be our Vice President, Finance in September 2021. Mr. Wong has more than 17 years of experience leading teams and has had numerous management roles on complex finance projects. Previously, from February 2019 to September 2021, Mr. Wong was Director, Technical Accounting at McDermott International, Ltd., where he also served as Interim Head, Audit Services. Prior to joining McDermott, Mr. Wong was an Audit Senior Manager at Ernst & Young LLP. Mr. Wong was most recently based in Houston, but also spent 14 years, from 2005 to 2019, with Ernst & Young in both the London, U.K. and Toronto, Canada offices. Mr. Wong is a licensed CPA in Texas and Canada and has a Bachelor of Commerce from Queen’s University, Canada. Raffaele Baffa, M.D., Ph.D. Chief Medical Officer Dr. Baffa has served as our Chief Medical Officer since November 2020. Prior to joining us, Dr. Baffa served as the chief medical officer of Medisix Therapeutics, an immune engineering company developing novel cellular therapies to address T cell malignancies, from March 2020 to November 2020. From September 2018 until March 2020, Dr. Baffa served as the chief medical officer of Servier Pharmaceuticals. Prior to that, Dr. Baffa was Vice President and Therapeutic Area Head of Oncology, Global Clinical Development for Shire from February 2018 to September 2018 before its acquisition by Servier. Dr. Baffa has also held industry leadership positions as Executive Director, Early Oncology Development and Clinical Research at Pfizer from May 2015 to February 2018 and at Sanofi, where he was Head of Translational Sciences – External Science & Innovation, Global Biotherapeutics from November 2013 to May 2015 and Senior Director – Translational and Experimental Medicine, Early Development, Oncology from November 2010 to October 2013. Dr. Baffa earned an M.D. from University of Padova, School of Medicine, and a Ph.D. from University of Parma, both in Italy. As an associate professor at the Kimmel Cancer Center, Thomas Jefferson University in Philadelphia, he also served as Director of Urology Research and as Co-Director of the Genito-Urinary Cancer Program. Dr. Baffa has authored more than 100 peer-reviewed articles, invited articles and book chapters. Eleanor de Groot, Ph.D. Executive Vice President, Operations Dr. de Groot has served as our Executive Vice President, Operations since September 2021. She previously served as our Executive Vice President, GM Cell Therapy beginning in January 2019 and oversaw our TCR-T cell therapy platform, including the collaboration with MD Anderson. She initially joined us in July 2015 as our Senior Vice President, Program Management and Business Development. Prior to joining us, Dr. de Groot was Vice President of Technical Operations and Project Planning and Management at Helsinn Therapeutics US, Inc. While at Helsinn and its predecessor companies, Sapphire Therapeutics and Rejuvenon Corporation, Dr. de Groot held multiple roles of increasing responsibility, leading technical operations, in particular chemistry, manufacturing, and controls development for its drug candidates from preclinical through Phase III, from April 2002 to July 2015. Prior to Helsinn, Dr. de Groot was a staff engineer at Guilford Pharmaceuticals (now Eisai) and a process engineer at Shell Chemical Company. She earned Ph.D. and M.S. degrees in chemical engineering from Stanford University in 1995 and 1991, respectively, and a B.S. in chemical engineering from Massachusetts Institute of Technology in 1990. Dr. de Groot received an M.B.A. degree from Rice University in 2014. Melinda Lackey, Senior Vice President, Legal Ms. Lackey joined as our Senior Vice President, Legal in November 2021. She previously served as Counsel for Hogan Lovells from August 2021 until November 2021, where she supported life sciences companies at all stages with a focus on licensing and intellectual property. Ms. Lackey previously served as legal counsel Kuur Therapeutics, Inc. (and after its acquisition by Athenex, Inc., Athenex) from June 2018 until August 2021. Before industry, Ms. Lackey practiced law for 10 years focusing on intellectual property strategy and patent litigation from March 2008 until June 2018. Ms. Lackey has a J.D. from University of Houston Law Center (2007) and graduated from Texas Tech Health Sciences Center with an M.S. in medical microbiology and immunology (2003), focusing on molecular biology and immunology and a B.S. in Microbiology from Texas Tech University (1998). 68 Table of Contents There are no family relationships among any of our directors, director nominees or executive officers. None of our executive officers is related by blood, marriage or adoption to any of our directors, director nominees or executive officers. Delinquent Section 16(A) Reports Section 16(a) of the Exchange Act requires our directors and executive officers, and persons who own more than 10% of a registered class of our equity securities, to file with the SEC reports of beneficial ownership and reports of changes in beneficial ownership in our securities. Based solely on a review of such reports filed electronically with the SEC, we believe that during 2021, all Section 16(a) filings applicable to our directors, officers, and 10% stockholders were filed on a timely basis, except as described in this section. One Form 3 that was filed by Michael Wong in connection with his appointment as an officer of our Company was not filed on a timely basis. One Form 3 that was filed by Raffaele Baffa in connection with his appointment as an officer of our Company was not filed on a timely basis. Due to an administrative oversight, a Form 4 reporting grants of restricted stock and options to purchase our common stock awarded to Christopher Bowden, James Huang, Robert W. Postma, Mary Thistle, Jaime Vieser, Holger Weis and Kevin Buchi on March 4, 2021, were not filed until May 6, 2021. Code of Ethics and Business Conduct Our board of directors has adopted a Code of Ethics and Business Conduct which is applicable to all officers, directors and employees. The Code of Ethics and Business Conduct is intended to be designed to deter wrongdoing and promote honest and ethical behavior, full, fair, timely, accurate and understandable disclosure, compliance with applicable laws, rules and regulations, and prompt internal reporting of violations of this code. In addition to provisions that are applicable to officers, directors and employees generally, the Code of Ethics and Business Conduct contains provisions that are specifically applicable to our principal executive officer, principal financial officer and other senior financial officer(s). The Code of Ethics and Business Conduct is available on our website at www.alaunos.com and a copy may be obtained without charge upon written request to our legal department at our principal executive offices at 8030 El Rio Street, Houston, Texas 77054. Our website and its contents are not incorporated into this annual report. Audit Committee We have a separately designated standing audit committee. The current members of the committee are Mary Thistle, Jaime Vieser and Holger Weis. Each member of the audit committee is an “independent director,” as such term is defined in Nasdaq Rule 5605(a)(2) and meets the criteria for independence set forth in Rule 10A-3(b)(1) under the Exchange Act. The board of directors has also determined that each of the audit committee members is able to read and understand fundamental financial statements and that at least one member of the audit committee has past employment experience in finance or accounting. The board of directors has determined that at least one member of the audit committee, Holger Weis, is an “audit committee financial expert,” as that term is defined in Item 407(d)(5)(ii) of Regulation S-K promulgated under the Exchange Act. 69 Table of Contents Item 11. Executive Compensation Executive Compensation Table Summary Compensation Table The following table sets forth information regarding compensation awarded to or earned by our named executive officers. Name of Principal Position Year Salary ($) Bonus ($) Stock Awards ($)(1) Option Awards ($)(1) All Other Compensation ($) Total ($) Kevin S. Boyle, Sr. (2) 2021 200,000 147,500 1,435,000 2,790,638 315 (3) 4,573,753 Chief Executive Officer Heidi Hagen (4) 2021 287,500 (5) 200,000 387,900 1,795,770 40,254 (6) 2,711,424 Former Interim Chief Executive Officer 2020 — — — — — — Laurence James Neil Cooper (7) 2021 158,677 143,250 — — 1,229,203 (8) 1,531,130 Former Chief Executive Officer 2020 573,000 917,000 (9) 722,857 703,855 91,210 (10) 3,007,922 Jill Buck (11) 2021 270,375 375,000 (12) 135,765 668,729 423,874 (13) 1,873,742 Former EVP, GM Gene Therapy 2020 356,416 119,952 12,315 (14) 488,684 Eleanor de Groot (15) 2021 382,667 480,875 (16) 219,056 1,078,991 12,428 (17) 2,174,017 EVP, Operations 2020 357,000 119,952 226,077 220,055 12,028 (18) 935,112 Raffaele Baffa 2021 465,000 302,875 (19) 252,419 — 13,976 (20) 1,034,270 Chief Medical Officer 2020 58,125 19,637 546,000 884,750 5,072 (21) 1,673,584 (1) These amounts have been calculated in accordance with ASC Topic 718. Pursuant to SEC rules, the amounts shown exclude the impact of estimated forfeitures related to service-based vesting conditions. For a discussion of the assumptions relating to our valuations of these restricted stock awards and stock options, please see Note 3 to the financial statements included in this Annual Report on Form 10-K. These amounts reflect our accounting expense for these restricted stock awards and stock options and do not correspond to the actual value that may be recognized by our named executive officer. (2) Mr. Boyle joined as our Chief Executive Officer in August 2021. (3) Represents the dollar value of group term life insurance premiums we paid for the benefit of Mr. Boyle during 2021. We did not contribute to Mr. Boyle’s 401(k) plan account pursuant to our matching program in 2021. (4) Ms. Hagen resigned as our interim Chief Executive Officer in August 2021. (5) $19,447 represents the amount we paid Ms. Hagen for her services as a member of our board of directors in 2021, and the remaining amount represents $287,500 in salary while serving as interim Chief Executive Officer. (6) Of such amount, (i) $448 represents the dollar value of group term life insurance premiums we paid for the benefit of Ms. Hagen during 2021 and (ii) $20,359 represents accrued vacation paid at departure. We did not contribute to Ms. Hagen’s 401(k) plan account pursuant to our matching program in 2021. (7) Dr. Cooper resigned as our Chief Executive Officer, effective February 25, 2021 and left his position as a scientific advisor employee on April 9, 2021, at which time he became a consultant to us. (8) Of such amount, (i) $774 represents the dollar value of group term life insurance premiums we paid for the benefit of Dr. Cooper during 2021, (ii) $11,600 represents the amount we contributed to Dr. Cooper’s 401(k) plan account pursuant to our matching program, (iii) $44,625 represents accrued vacation paid at departure, (iv) $859,500 represents how much we paid Dr. Cooper in severance related to his resignation from his position as Chief Executive Officer and (v) $26,204 represents taxable perquisites for housing expenses, and (vi) $286,500 represents consulting fees paid to Dr. Cooper during 2021. (9) Represents a fully vested restricted stock award with a grant value of $917,000 awarded to Dr. Cooper in connection with his separation. See the section titled “ Narrative to the Summary Compensation Table— Employment and Change in Control Agreements— Separation Agreement and Consulting Agreement with Laurence James Neil Cooper, M.D., Ph.D.” for additional information. (10) Of such amount, (i) $1,548 represents the dollar value of group term life insurance premiums we paid for the benefit of Dr. Cooper during 2020, (ii) $78,462 represents taxable perquisites, including $77,848 for housing expenses and $614 for commuting expenses and (iii) $11,200 represents the amount we contributed to Dr. Cooper’s 401(k) plan account pursuant to our matching program. (11) Ms. Buck ceased being our Executive Vice President, GM Gene Therapy, effective September 15, 2021. (12) Ms. Buck was paid $375,000 pursuant to her November 23, 2020 retention agreement under which she was paid the first two tranches which equaled 75% of her annual base compensation. (13) Of such amount, (i) $383 represents the dollar value of group term life insurance premiums we paid for the benefit of Ms. Buck during 2021, (ii) $11,600 represents the amount we contributed to Ms. Buck’s 401(k) plan account pursuant to our matching program, (iii) $26,891 represents accrued vacation paid at departure and (iv) $385,000 represents how much we paid Ms. Buck in severance related to her resignation from her position as Executive Vice President, GM Gene Therapy. (14) Of such amount, (i) $540 represents the dollar value of group term life insurance premiums we paid for the benefit of Ms. Buck during 2020, (ii) $11,400 represents the amount we contributed to Ms. Buck’s 401(k) plan account pursuant to our matching program, and (iii) $375 represents the amount paid for Ms. Buck’s consulting services. (15) Dr. de Groot was promoted from Executive Vice President, GM Cell Therapy, to Executive Vice President, Operations, effective August 30, 2021. 70 Table of Contents (16) Of such amount, Dr. de Groot was paid $375,000 pursuant to her November 23, 2020 retention agreement under which she was paid the first two tranches which equaled 75% of her annual base compensation. (17) Of such amount, (i) $828 represents the dollar value of group term life insurance premiums we paid for the benefit of Dr. de Groot during 2021 and (ii) $11,600 represents the amount we contributed to Dr. de Groot’s 401(k) plan account pursuant to our matching program. (18) Of such amount, (i) $828 represents the dollar value of group term life insurance premiums we paid for the benefit of Dr. de Groot during 2020 and (ii) $11,200 represents the amount we contributed to Dr. de Groot’s 401(k) plan account pursuant to our matching program. (19) Of such amount, Dr. Baffa was paid $175,000 pursuant to his November 23, 2020 retention agreement under which he was paid the first two tranches which equaled 75% of his annual base compensation. (20) Of such amount, (i) $2,376 represents the dollar value of group term life insurance premiums we paid for the benefit of Dr. Baffa during 2021 and (ii) $11,600 represents the amount we contributed to Dr. Baffa’s 401(k) plan account pursuant to our matching program. (21) Of such amount, (i) $297 represents the dollar value of group term life insurance premiums we paid for the benefit of Dr. Baffa during 2020 and (ii) $4,775 represents the amount we contributed to Dr. Baffa’s 401(k) plan account pursuant to our matching program. Narrative to Summary Compensation Table We use base salaries to recognize the experience, skills, knowledge and responsibilities required of all our employees, including our named executive officers. Base salaries are reviewed annually, typically in connection with our annual performance review process, and adjusted from time to time to realign salaries with market levels after taking into account individual responsibilities, performance and experience. Formal bonus plan goals were not set for 2021 because our CEO was not hired until August 2021. 2021 bonuses were paid out between 69% and 100% of target based on the Committee’s assessment of performance. Our employment arrangements with our named executive officers provide that the executive may be eligible to earn an annual performance bonus of up to a target percentage of the executive’s base salary, as described further below under the section titled “Employment and Change in Control Agreements.” In 2021, Mr. Boyle was granted an option to purchase 2,625,000 shares of our common stock, which option has an exercise price of $1.64 per share, and 875,000 shares of restricted common stock in connection with his appointment as our Chief Executive Officer. The new hire award was intended as an inducement for Mr. Boyle to join the Company. Executive Retention In the fourth quarter of 2020, our board of directors, following the recommendation of the compensation committee, granted certain of our named executive officers, including Drs. Baffa and de Groot and Ms. Buck, each a cash retention award, a portion of which was contingent upon achievement of certain patient dosing milestones in our TCR-T program. Dr. de Groot and Ms. Buck were each provided an award for $500,000, with 40% of the award payable if such individual remains employed with us on April 1, 2021, 35% of the retention award payable if such individual remains employed with us on September 1, 2021, and 25% of the retention award payable if such individual remains employed with us on December 1, 2021. Dr. Baffa was provided an award for $250,000, with 40% of the award payable if Dr. Baffa remains employed with us on April 1, 2021, 30% of the award payable if Dr. Baffa remains employed with us on September 1, 2021, and 30% of the award payable if Dr. Baffa remains employed with us on December 1, 2021. The final payment of the awards for each of Drs. Baffa and de Groot was contingent upon achievement of certain patient dosing milestones in our TCR-T program which were not achieved and therefore not paid. Dr. de Groot and Ms. Buck each received an amount equal to $375,000 and Dr. Baffa received $175,000. Ms. Buck was not employed with us on December 1, 2021 and so was not paid the third tranche of the retention award program. Employment and Change in Control Agreements We have the following employment agreements in place with our named executive officers. Employment Agreement with Kevin S. Boyle, Sr. Mr. Boyle has served as our Chief Executive Officer since August 2021 pursuant to an employment agreement entered into in August 2021. Mr. Boyle has an at-will employment relationship with us. Base Salary. Mr. Boyle’s annual base salary in 2021 was $600,000, pro-rated based on the number of days worked. Under his employment agreement, Mr. Boyle’s annual base salary is subject to review by the board of directors or the compensation committee at least annually. Annual Performance Bonus; Sign-on Bonus. Under his employment agreement, Mr. Boyle is eligible to receive an annual bonus based on his performance as determined by the board of directors or the compensation committee. The target amount of the annual performance bonus is 60% of his base salary, with the actual amount to be received determined by the board of directors or the compensation committee. Mr. Boyle also received a one-time sign-on bonus of $50,000, referred to as the Boyle Signing Bonus; provided that, in the event that his employment is terminated for cause or he resigns without good reason (as defined in the employment agreement) on or prior to August 30, 2022, Mr. Boyle shall be required to repay the Boyle Signing Bonus in full, subject to certain deductions and withholding obligations. 71 Table of Contents Equity Incentive Grants. In connection with his appointment as our Chief Executive Officer and pursuant to his employment agreement, effective as of August 24, 2021, the board of directors granted to Mr. Boyle an option to purchase 2,625,000 shares of our common stock, which option has an exercise price of $1.64 per share and the Company issued Mr. Boyle 875,000 shares of restricted common stock. Mr. Boyle is also eligible to receive equity awards as determined by the board of directors in its sole discretion. Severance Provisions. If (i) we terminate Mr. Boyle for a reason other than death, disability or “Cause” (as that term is defined in his employment agreement), or (ii) Mr. Boyle resigns for “Good Reason” (as that term is defined in his employment agreement), Mr. Boyle will be entitled to receive a severance payment equal to the sum of (x) his then-current base salary and (y) the target amount of his annual performance bonus for the calendar year in which such termination occurs, which is hereinafter referred to as the Boyle Severance Payment Amount, payment of a one-time severance bonus in an amount equal to a pro-rata portion of the target amount of his annual performance bonus for the calendar year in which such termination occurs, plus payment of our portion of the contributions for medical and dental insurance coverage for twelve months, subject to Mr. Boyle’s execution and delivery of a general release in favor of the Company. Mr. Boyle will also receive accelerated vesting of his equity incentive awards through, with respect to time-based equity incentive awards, the next twelve-month period immediately following the effective date of his termination and, with respect to performance-based equity incentive awards, the next applicable performance period immediately following the effective date of his termination. The accelerated time-based equity awards will be deemed fully exercisable or non-forfeitable, as applicable, as of the later of the termination date or the effective date of the separation agreement. Any vested equity incentive awards held by Mr. Boyle shall remain exercisable until the earlier of (x) the date that is three years following the termination of his employment and (y) the expiration of the applicable term of the award. In the case of either (i) a termination by us for a reason other than death, disability or “Cause,” or (ii) a resignation for “Good Reason,” in each case that occurs within 90 days prior to and in connection with a “Change of Control” (as that term is defined in his employment agreement), or within 18 months after the occurrence of a “Change of Control,” then, Mr. Boyle will be entitled to receive a lump sum payment in an amount equal to the product of the Boyle Severance Payment Amount multiplied by two, payment of a one-time severance bonus in an amount equal to a pro-rata portion of the target amount of his annual performance bonus for the calendar year in which such termination occurs, payment of the Company’s portion of the contributions for health insurance coverage for eighteen months. In addition, all unvested time-based stock options and unvested awards of restricted stock held by Mr. Boyle will be accelerated and deemed to have vested as of the later of the termination date and the effective date of the separation. In addition, all performance-based equity awards will vest as if the applicable target performance goals were achieved as of the later of (x) the termination date and (y) the effective date of the separation. Additionally, all outstanding equity awards held by Mr. Boyle will remain exercisable until the earlier of (v) the date that is three years following the termination of employment and (w) the expiration of the applicable option term. Non-competition and Non-solicitation. Mr. Boyle has entered into an invention, non-disclosure and non-competition agreement, which provides that he will not compete with us or solicit our clients or customers for a year after the termination or cessation of his employment with us, and further provides that he will not solicit our employees for one year after the termination or cessation of his employment with us. Employment Agreement with Eleanor de Groot, Ph.D. Dr. de Groot has served as our Executive Vice President, Cell Therapy since January 1, 2019, and previously as our SVP, Program Management & Business Development from July 13, 2015 to December 31, 2018. In April 2019, we entered into an employment agreement with Dr. de Groot, which was amended in November 2020. Dr. de Groot has an at-will employment relationship with us. Base Salary. In 2021, Dr. de Groot received a base salary of $385,000. Under her employment agreement, Dr. de Groot’s annual base salary is subject to review by the board of directors or the compensation committee at least annually. Annual Performance Bonus. Under her employment agreement, Dr.de Groot is eligible to receive an annual bonus based on her performance as determined by the board of directors or the compensation committee. The target amount of the annual performance bonus is 40% of her base salary, with the actual amount to be received determined by the board of directors or the compensation committee. Equity Incentive Grants. Dr. de Groot is eligible to receive equity awards as determined by the board of directors in its sole discretion from time to time. Severance Provisions. If (i) we terminate Dr. de Groot for a reason other than death, disability or “Cause” (as that term is defined in her employment agreement), or (ii) Dr. de Groot resigns for “Good Reason” (as that term is defined in her employment agreement), Dr. de Groot will be entitled to receive a severance payment equal to twelve months of her then-current base salary, plus payment of our portion of the contributions for medical and dental insurance coverage for twelve months, subject to Dr. de Groot’s execution and delivery of a general release in favor of the Company. In the case of either (i) a termination by us for a reason other than death, disability or “Cause,” or (ii) a resignation for “Good Reason,” in each case that occurs within 90 days prior to and in connection with a “Change in Control” (as that term is defined in her employment agreement), or within 18 months after the occurrence of a “Change in Control,” the, in addition to the foregoing severance provisions, all unvested stock options and unvested awards of restricted stock held by Dr. de Groot at the time that such termination 72 Table of Contents occurs will be accelerated and deemed to have vested as of her employment termination date, and Dr. de Groot will be entitled to full target amount of her annual performance bonus for the calendar year in which such termination occurs. Non-competition and Non-solicitation. Dr. de Groot has entered into an invention, non-disclosure and non-competition agreement, which provides that she will not compete with us or solicit our clients or customers for a year after the termination or cessation of her employment with us, and further provides that she will not solicit our employees for one year after the termination or cessation of her employment with us . Employment Agreement with Raffaele Baffa, M.D., Ph.D. Dr. Baffa has served as our Chief Medical Officer since November of 2020 pursuant to an employment agreement Baffa entered into in September 2020, which we subsequently amended in November 2020. Dr. Baffa has an at-will employment relationship with us. Base Salary. Dr. Baffa’s annual base salary in 2021 was $465,000. Under his employment agreement, Dr. Baffa’s annual base salary is subject to review by the board of directors or the compensation committee at least annually. Annual Performance Bonus. Under his employment agreement, Dr. Baffa is eligible to receive an annual bonus based on his performance as determined by the board of directors or the compensation committee. The target amount of the annual performance bonus is 40% of his base salary, with the actual amount to be received determined by the board of directors or the compensation committee. Equity Incentive Grants. Dr. Baffa is also eligible to receive equity awards as determined by the board of directors in its sole discretion from time to time. Severance Provisions. If (i) we terminate Dr. Baffa for a reason other than death, disability or “Cause” (as that term is defined in his employment agreement), or (ii) Dr. Baffa resigns for “Good Reason” (as that term is defined in his employment agreement), Dr. Baffa will be entitled to receive a severance payment equal to twelve months of his then-current base salary, plus payment of our portion of the contributions for medical and dental insurance coverage for twelve months, subject to Dr. Baffa’s execution and delivery of a general release in favor of the Company. In the case of either (i) a termination by us for a reason other than death, disability or “Cause,” or (ii) a resignation for “Good Reason,” in each case that occurs within 90 days prior to and in connection with a “Change of Control” (as that term is defined in his employment agreement), or within 18 months after the occurrence of a “Change of Control,” then, in addition to the foregoing severance provisions, all unvested stock options and unvested awards of restricted stock held by Dr. Baffa at the time that such termination occurs will be accelerated and deemed to have vested as of his employment termination date, and Dr. Baffa will be entitled to full target amount of his annual performance bonus for the calendar year in which such termination occurs. Non-competition and Non-solicitation. Dr. Baffa has entered into an invention, non-disclosure, non-solicitation and non-competition agreement, which provides that he will not compete with us or solicit our clients or customers for a year after the termination or cessation of his employment with us, and further provides that he will not solicit our employees for one year after the termination or cessation of his employment with us. Employment Agreement with Laurence James Neil Cooper, M.D., Ph.D. Dr. Cooper served as our Chief Executive Officer from May 2015 until February 2021, at which point Dr. Cooper served as a scientific advisor employee of the Company. As a scientific advisor employee, Dr. Cooper continued receiving his base salary and remained eligible for our employee benefit programs pursuant to the terms of his employment agreement. On April 5, 2021, we entered into a separation agreement with Dr. Cooper, or the Cooper Separation Agreement, providing for his cessation of employment effective April 9, 2021 and a consulting agreement, or the Cooper Consulting Agreement, providing his continued consulting thereafter. For a description of the material terms of the Cooper Separation Agreement and the Cooper Consulting Agreement see below under “ Consulting Agreement with Laurence James Neil Cooper, M.D., Ph.D. ” Below is a summary of the material terms of Dr. Cooper’s employment agreement in place during 2021 when he served as our Chief Executive Officer. Base Salary. In 2021, Dr. Cooper received a base salary of $573,000. Under his employment agreement, his base salary was subject to review by the board of directors or the compensation committee at least annually. Annual Performance Bonus. Under his employment agreement, Dr. Cooper was eligible to receive an annual bonus based on his performance as determined by the board of directors or the compensation committee. The target amount of the annual performance bonus was 200% of his base salary, with the actual amount to be received determined by the board of directors or the compensation committee. Equity Incentive Grants. Dr. Cooper was eligible under his employment agreement to receive equity awards as determined by the board of directors in its discretion from time to time. Under certain circumstances, the vesting of Dr. Cooper’s equity awards could have been accelerated in the event of a change in control or if Dr. Cooper’s employment with us is terminated. 73 Table of Contents Expense Reimbursement. Under his employment agreement, Dr. Cooper was eligible for reimbursement of normal, usual and necessary expenses incurred by him in furtherance of our business and affairs, including reasonable travel and entertainment expenses and the ordinary and necessary expenses incurred in connection with his commute. Non-competition and Non-solicitation. Dr. Cooper has entered into an invention, non-disclosure and non-competition agreement, which provides that he will not compete with us or solicit our clients or customers for a year after the termination or cessation of his employment with us, and further provides that he will not solicit our employees for one year after the termination or cessation of his employment with us. Separation Agreement and Consulting Agreement with Laurence James Neil Cooper, M.D., Ph.D. On April 5, 2021, we entered into the Cooper Separation Agreement, and the Cooper Consulting Agreement. Under the Cooper Separation Agreement, in exchange for a release of claims and certain post-employment covenants and in lieu of any severance benefits under his employment agreement, Dr. Cooper is entitled to receive continuing payments of his base salary and COBRA premiums for a period of 18 months, a cash payment of $143,250, representing a pro-rata target amount of his annual performance bonus for 2021, a fully-vested restricted stock award with a grant value of $917,000, which represented Dr. Cooper’s 2020 annual bonus, and certain limited reimbursements for legal fees and housing. Dr. Cooper is not entitled to any equity acceleration in connection with his separation, however his equity awards are eligible to continue to vest pursuant to their terms based on his consulting services to us. The board of directors determined these severance benefits were appropriate to provide Dr. Cooper, considering the severance benefits provided under the terms of his employment agreement and his contributions to our Company. The term of the Cooper Consulting Agreement commenced on Dr. Cooper’s employment separation and continues for up to three years, subject to earlier termination by either Dr. Cooper or the Company, provided that if Dr. Cooper terminates the agreement within the first year of the term, our sole remedy will be the right to cause Dr. Cooper to reimburse us certain of his cash severance described in the Separation Agreement. If we terminate the Cooper Consulting Agreement before the first anniversary of the effective date without cause (as defined in the Cooper Consulting Agreement) or Dr. Cooper terminates the agreement within the first year for good reason (as defined in the Cooper Consulting Agreement), the non-competition and non-solicitation provisions described above will be deemed waived by us. Unless the Cooper Consulting Agreement is terminated by us with cause or by Dr. Cooper before the first anniversary of the effective date and without good reason, all unvested restricted stock or options will immediately vest as of the effective date of the termination. Under the Cooper Consulting Agreement, Dr. Cooper may earn consulting fees in amounts of up to $573,000 for the first year and $300,000 for each of the following two years and is also eligible for reimbursement of reasonable out-of-pocket business expenses. In addition, the Cooper Consulting Agreement includes confidentiality and intellectual property provisions. Dr. Cooper received $286,500 in fees under the Cooper Consulting Agreement in 2021. Employment Agreement with Heidi Hagen On February 24, 2021, the board of directors appointed Heidi Hagen as our Interim Chief Executive Officer, effective February 25, 2021. Effective February 25, 2021, we entered into an employment agreement with Ms. Hagen, governing the terms of her employment as our Interim Chief Executive Officer. The majority of the equity value was provided as stock options to require an increase in the stock price and to allow the timeframe required for the long-term price improvement as a reflection of the long drug development cycle from discovery to commercial product. Ms. Hagen stepped down as Interim Chief Executive Officer on August 30, 2021 in connection with Mr. Boyle’s employment as our Chief Executive officer. Base Salary; Sign on Bonus. Ms. Hagen’s employment agreement provided for an annual base salary of $575,000, pro-rated for service, and a one-time sign-on bonus of $50,000. Performance Bonus. While Ms. Hagen was entitled to receive certain performance bonuses if she remained employed as our Interim Chief Executive Officer after September 1, 2021, these were not paid as a result of the appointment of Mr. Boyle as our new Chief Executive Officer effective August 31, 2021. Ms. Hagen received a bonus in the amount of $150,000. Equity Incentive Grants. In connection with her appointment as our Interim Chief Executive Officer and pursuant to her employment agreement, on March 4, 2021, the board of directors granted Ms. Hagen 90,000 restricted shares of our common stock, which were scheduled to vest on the one-year anniversary of the date of grant, subject to Ms. Hagen’s continued employment with us through such vesting date. In addition, pursuant to her employment agreement, on March 4, 2021, the board of directors granted to Ms. Hagen an option to purchase 675,000 shares of our common stock, which option has an exercise price of $4.31 per share. The option was scheduled to vest in twelve equal monthly installments over the term of one year, subject to Ms. Hagen’s continued employment with us through each such vesting date. Ms. Hagen’s employment agreement provided that if Ms. Hagen’s employment terminates either because a replacement, full-time chief executive officer has been hired, or because we terminate her employment without “Cause” (as defined in her employment agreement), then upon termination of her employment, Ms. Hagen’s shares of restricted stock shall vest in full, and any unvested portion of Ms. Hagen’s option grant shall vest in full and become exercisable immediately. Upon Ms. Hagen’s resignation as the Company’s Interim Chief Executive Officer on August 29, 2021, Ms. Hagen’s 90,000 restricted stock and option grant of 675,000 shares vested in full. 74 Table of Contents Severance Provisions. Ms. Hagen’s employment agreement provided that if she was terminated by us for any reason other than death, disability or Cause, then we would be obligated to pay to Ms. Hagen her base salary through the date of termination, any accrued vacation, and any expense reimbursement amounts for expenses incurred through the date of termination. If, within 30 days after the effective date of termination, Ms. Hagen executes a written general release, she will also be entitled to receive continuing payments of her base salary for a period of four months. In addition, unless her employment is terminated for Cause, we may be required to pay 100% of applicable COBRA premiums for Ms. Hagen for up to 12 months. Employment Agreement with Jill Buck Ms. Buck most recently served as our Executive Vice President, GM Gene Therapy, joining Alaunos in September 2015, and being promoted to Executive Vice President, Strategy and Operations in early 2021. Ms. Buck left the Company on September 15, 2021. Ms. Buck entered into an employment agreement dated April 23, 2019, which we subsequently amended in November 2020, as Executive Vice President, GM Gene Therapy. Ms. Buck had an at-will employment relationship with us. Base Salary. In 2021, Ms. Buck received a base salary of $385,000. Under her employment agreement, Ms. Buck’s annual base salary was subject to review by the board of directors or the compensation committee at least annually. Annual Performance Bonus. Under her employment agreement, Ms. Buck was eligible to receive an annual bonus based on her performance as determined by the board of directors or the compensation committee. The target amount of the annual performance bonus is 40% of her base salary, with the actual amount to be received determined by the board of directors or the compensation committee. Equity Incentive Grants. Ms. Buck was eligible to receive equity awards as determined by the board of directors in its sole discretion from time to time. Severance Provisions. Ms. Buck’s employment agreement provided that if (i) we terminated Ms. Buck for a reason other than death, disability or “Cause” (as that term is defined in her employment agreement), or (ii) Ms. Buck resigned for “Good Reason” (as that term is defined in her employment agreement), Ms. Buck was entitled to receive a severance payment equal to twelve months of her then-current base salary, plus payment of our portion of the contributions for medical and dental insurance coverage for twelve months, subject to Ms. Buck’s execution and delivery of a general release in favor of the Company. In the case of either (i) a termination by us for a reason other than death, disability or “Cause,” or (ii) a resignation for “Good Reason,” in each case that occurs within 90 days prior to and in connection with a “Change in Control” (as that term is defined in her employment agreement), or within 18 months after the occurrence of a “Change in Control,” all unvested stock options and unvested awards of restricted stock held by Ms. Buck at the time that such termination occurs would have been accelerated and deemed to have vested as of her employment termination date, and Ms. Buck would have been entitled to full target amount of her annual performance bonus for the calendar year in which such termination occurs. In connection with her departure, Ms. Buck received $385,000, pursuant to the terms of her separation agreement. Non-competition and Non-solicitation. Ms. Buck has entered into an invention, non-disclosure and non-competition agreement, which provided that she would not compete with us or solicit our clients or customers for a year after the termination or cessation of her employment with us, and further provides that she would not solicit our employees for one year after the termination or cessation of her employment with us . Health and Benefits All of our full-time employees and certain of our part-time employees are eligible to participate in our health and welfare benefit plans, including our medical, dental, life and long-term disability insurance plans. Our health and welfare benefit plans do not discriminate in scope, terms or operation in favor of our executive officers. 401(k) Plan Our employees, including our named executive officers, are eligible to participate in our 401(k) plan. Our 401(k) plan is intended to qualify as a tax qualified plan under Section 401 of the Internal Revenue Code of 1986, as amended (the “Code”). Our 401(k) plan provides that each participant may contribute a portion of his or her pretax compensation, up to a statutory limit, which for most employees was $19,500 in 2021, with an additional “catch up” contribution of up to $6,500 permitted for employees age 50 and older, to the 401(k) plan. Employee contributions are held and invested by the 401(k) plan’s trustee. In 2021, we matched employee contributions at a rate of 100% up to 4% of an employee’s base salary contributed to the plan. We believe that this benefit is consistent with the practices of our peer companies, and therefore helps us to recruit and retain key talent at a minimal cost to us. 75 Table of Contents Outstanding Equity Awards at 2021 Fiscal Year-End The following table sets forth information regarding option awards and restricted stock awards held as of December 31, 2021 by our named executive officers. Option Awards Stock Awards Name Number of Securities Underlying Unexercised Options Option Exercise Price ($/Sh)(1) Option Expiration Date Shares or Units of Stock That Have Not Vested Exercisable (#) Unexercisable (#) Number (#) Market Value ($)(2) Laurence James Neil Cooper 487,171 2.24 1/6/2029 176,133 88,067 (3) 4.21 1/29/2030 57,233 (4) 62,384 Heidi Hagen 93,922 — (5) 5.22 2/2/2022 675,000 — 4.31 2/2/2022 Kevin S. Boyle, Sr. 164,062 2,460,938 (6) 1.64 8/29/2031 875,000 (7) 953,750 Eleanor de Groot 100,000 — 11.53 7/13/2025 172,671 — 2.24 1/6/2029 55,067 27,533 (8) 4.21 1/29/2030 95,297 285,891 (9) 4.31 3/4/2031 17,900 (10) 19,511 38,119 (11) 41,550 Raffaele Baffa 125,000 375,000 (12) 6/30/2022 150,000 (13) 163,500 53,764 (14) 58,603 Jill Buck — — — — — — (1) Each stock option was granted with an exercise price equal to the fair market value of our common stock on the grant date. (2) Market values are calculated based on the closing market price of our common stock as reported on the Nasdaq Global Select Market on December 31, 2021, which was $1.09 per share. (3) Vests with respect to 22,017 shares on March 31, 2022, June 30, 2022, and December 31, 2022, and with respect to 22,016 on September 30, 2022. (4) Vests with respect to 57,233 shares on December 31, 2022. (5) Options expired on February 2, 2022. (6) Vests with respect to 164,063 shares on February 28, 2022, August 30, 2022, February 28, 2023, August 30, 2023, February 28, 2024, August 30, 2024, February 28, 2025, and August 30, 2025 and with respect to 164,062 shares on May 30, 2022, November 30, 2022, May 30, 2023, November 30, 2023, May 30, 2024, November 30, 2024, and May 30, 2025. (7) Such shares are subject to transfer and forfeiture restrictions that lapse with respect to 218,750 shares on each of August 30, 2022, August 30, 2023, August 30, 2024, and August 30, 2025. (8) Vests with respect to 6,883 shares on each of March 31, 2022, June 30, 2022, and December 31, 2022 and with respect to 6,884 shares on September 30, 2022. (9) Vests with respect to 23,824 shares on each of March 31, 2022, June 30, 2022, September 30, 2022, March 31, 2023, June 30, 2023, September 30, 2023, March 31, 2024, June 30, 2024, and September 30, 2024 and with respect to 23,825 shares on December 31, 2022, December 31, 2023, and December 31, 2024. (10) Such shares are subject to transfer and forfeiture restrictions that lapse with respect to 17,900 shares on December 31, 2022. (11) Such shares are subject to transfer and forfeiture restrictions that lapse with respect to 12,706 shares on December 31, 2022, December 31, 2023 and December 31, 2024. (12) Vests with respect to 31,250 shares on February 16, 2022. The remaining unvested shares will be forfeited on March 31, 2022 and vested options will expire on June 30, 2022. (13) Such shares will be forfeited on March 31, 2022. (14) Such shares will be forfeited on March 31, 2022. Payments Upon Separation Severance and Change in Control Benefits We have agreements with each of our named executive officers providing them with severance benefits, including double trigger cash and equity severance for termination in connection with a change-in-control, as further described in “ Employment and Change in Control Agreements ” above. The amounts and terms and conditions of these severance rights reflect the negotiations between each of our named executive officers and us at the time these documents were entered into, the benefits provided by our peer companies to similarly situated executives at the time they were negotiated, as well as our desire for internal pay equity among our executive officers. We believe that these 76 Table of Contents existing arrangements are consistent with market practices and are critical to attracting and retaining high quality executives. We also believe the involuntary termination benefits allow our executives to focus on normal business operations rather than worrying about how business decisions that may be in our best interest will impact their own financial security. We do not provide golden parachute excise tax gross ups. Director Compensation Table The following table sets forth information regarding the compensation earned for service on our board of directors by our non-employee directors during the year ended December 31, 2021. We reimburse members of our board of directors for reasonable travel and out-of-pocket expenses incurred in connection with attending board of directors and committee meetings. Name Fees Earned or Paid in Cash ($) Option Awards (1) ($) Stock Awards (1) ($) Total ($) Christopher Bowden 64,725 86,697 17,960 169,382 James Huang 88,788 173,394 35,915 298,097 Robert W. Postma (2) 61,236 465,208 10,775 537,219 Mary Thistle 76,175 517,226 21,550 614,951 Jaime Vieser 63,217 499,887 17,960 581,064 Holger Weis 75,325 499,867 17,960 593,152 Heidi Hagen (3) 19,446 — — 19,446 Kevin Buchi (4) 27,028 86,697 17,960 131,685 (1) The amounts reported in the “Option Awards” and “Stock Awards” columns represent compensation expense recognized for financial statement purposes under ASC Topic 718. In the case of each of our directors, the option award and/or stock award was granted on March 4, 2021. For a discussion of the assumptions relating to our valuations of these stock options, please see Note 13 to the financial statements included in elsewhere in this Annual Report on Form 10-K. These costs reflect our accounting expense for these stock options and do not correspond to the actual value that may be recognized by the directors. (2) Mr. Postma was appointed to the board of directors effective February 4, 2021. (3) Ms. Hagen left the board of directors effective February 24, 2021, rejoined the board of directors effective August 30, 2021, and finally resigned from the board of directors effective November 2, 2021. (4) Mr. Buchi resigned from the board of directors effective May 19, 2021. Non-Employee Director Compensation In 2021, each of our non-employee directors was compensated as described be • an annual cash retainer fee of $50,000 for service on the board of directors; and • additional annual cash retainer fees for board committee service as follows: Chair Member Audit Committee $ 20,000 $ 12,000 Compensation Committee 15,000 9,000 Corporate Governance and Nominating Committee 10,000 6,000 The executive chair of our board of directors also receives further annualized cash compensation of $40,000. All cash retainers were paid on a quarterly basis in arrears to non-employee directors who continue to serve as members of the board of directors on the last business day of each calendar quarter. In 2021, the non-employee director equity compensation program was modified to provide an annual equity award for 75,000 options and 10,000 RSUs to be granted on the date of each of our annual shareholder meetings (our prior practice was to grant annual awards in December each year, with the last annual award under our historical director compensation program made in December 2019). The executive chair also receives an additional 75,000 annual options and an additional 10,000 annual RSUs to recognize his leadership and workload. The annual options vest in equal monthly installments over one year and the annual RSUs vest in full on the earlier of one-year from grant or the next annual shareholder meeting. The foregoing grants to non-employee directors joining our Board of Directors other than at an annual stockholder meeting will be prorated for the number of months remaining until our next annual stockholder meeting. In addition, in connection with a director’s initial election of the board of directors, he or she receives options to purchase 150,000 shares of our comment stock on the date of each new non-employee director’s appointment to our board of directors. The directors who received this award in 2021 included Ms. Thistle, Mr. Postma, Mr. Weis and Mr. Vieser. One-thirty-sixths of the shares underlying these awards will vest in equal monthly installments commencing, in the case of Ms. Thistle on December 15, 2021, in the case of Mr. Postma on March 4, 2021 and in the 77 Table of Contents case of Mr. Weis and Mr. Vieser, on January 15, 2021. We also granted to all of our directors awards of options and restricted stock to reflect the stub period between January and May 2021, when the date of our annual meeting would become the new grant date of director awards. We agreed to provide directors an award equal to an annual grant of 75,000 options and 10,000 shares of restricted stock. These annual amounts were prorated to only cover the 5 months between January and May, and further pro-rated for those who spent less time on the board. In the case of Ms. Thistle, we provided her an award assuming six months of service, to recognize that she had not yet received any awards since her joining the board in November 2020. Each director was entitled elect to receive their equity grant in the form of restricted shares of our common stock, options to purchase shares of our common stock, or half restricted stock units and half options. As set forth in its written charter, the compensation committee annually reviews director compensation practices in consultation with our compensation consultant and recommends any changes for adoption by the full board of directors. As such, the director compensation described above is subject to change at the discretion of the board of directors. Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters Securities Authorized for Issuance under Equity Compensation Plans Our 2012 Equity Incentive Plan, or the 2012 Plan and our 2020 Equity Incentive Plan, or the 2020 Plan, are our only equity compensation plans approved by our stockholders. The following table sets forth certain information as of December 31, 2021 with respect to the 2012 Plan and 2020 Pl Number of Securities to be Issued Upon Exercise of Outstanding Options Weighted- Average Exercise Price of Outstanding Options Number of Securities Remaining Available for Future Issuance Under Equity Compensation Plans (Excluding Securities Reflected in Column (A)) Plan Category (A) (B) (C) Equity compensation plans approved by stockholde 2012 Stock Option Plan 2,847,190 $ 3.99 — 2020 Equity Incentive Plan 7,818,679 $ 2.46 14,247,679 Tot 10,665,869 $ 2.87 14,247,679 Equity compensation plans not approved by stockholde Inducement Awards 32,500 $ 4.59 — Tot 32,500 $ 4.59 — Security Ownership of Certain Beneficial Owners and Management The following table sets forth certain information with respect to the beneficial ownership of common stock as of March 15 • each person, or group of affiliated persons, who is known by us to be the beneficial owner of greater than five percent of our outstanding common stock; • each of our directors and director nominees; • each of our named executive officers named in the “Executive Compensation - Executive Compensation Table” section above; and • all of our directors and executive officers as a group. Beneficial ownership is determined in accordance with the rules of the SEC. These rules generally attribute beneficial ownership of securities to persons who possess sole or shared voting power or investment power with respect to those securities, or have the right to acquire such powers within 60 days. Common stock subject to options that are currently exercisable or exercisable within 60 days of March 15 are deemed to be outstanding and beneficially owned by the person holding the options. These shares, however, are not deemed outstanding for the purposes of computing the percentage ownership of any other person. Except as otherwise indicated, all persons listed below have sole voting and investment power with respect to the shares beneficially owned by them, subject to applicable community property laws. Percentage 78 Table of Contents ownership calculations are based on 216,127,443 shares outstanding as of March 15, 2022. Except as otherwise noted below, the addresses for persons listed in the table is c/o Alaunos Therapeutics, Inc., 8030 El Rio Street, Houston, Texas 77054. Number of Shares Beneficially Owned Percentage of Common Stock Beneficially Owned (%) Name of Beneficial Owner Shares % 5% Stockholde MSD Credit Opportunity Master Fund, L.P. (1) 22,101,509 9.9% The Vanguard Group (2) 11,633,700 5.4% BlackRock, Inc. (3) 16,764,972 7.8% Discovery Capital Management (4) 13,346,493 6.2% Level One Parties (5) 24,178,873 11.2% State Street Corporation (6) 13,318,734 6.2% Named Executive Officers and Directo Kevin S. Boyle, Sr. (7) 1,213,125 * Heidi Hagen (8) 145,889 * Laurence James Neil Cooper (9) 2,752,338 1.3% Eleanor de Groot (10) 690,848 * Raffaele Baffa (11) 436,895 * Jill Buck (12) 127,214 * Christopher Bowden (13) 180,010 * James Huang (14) 170,833 * Robert W. Postma (15) 6,483,664 3% Mary Thistle (16) 113,333 * Jaime Vieser (17) 1,128,237 * Holger Weis (18) 239,523 * All executive officers and directors as a group (12 persons) 13,681,909 6.2% *Represents ownership of less than one percent. (1) Based in part on a Schedule 13G/A filed with the SEC on February 14, 2020 by MSD Partners, L.P., or MSD Partners. MSD Partners has shared voting power with respect to 15,151,516 shares of our common stock, and may be deemed to beneficially own 15,151,516 shares of our common stock. MSD Partners is the investment manager of, and may be deemed to beneficially own securities beneficially owned by, MSD Credit Opportunity Master Fund, L.P. MSD Partners (GP), LLC (“MSD GP”) is the general partner of, and may be deemed to beneficially own securities beneficially owned by, MSD Partners. Each of Glenn R. Fuhrman, John C. Phelan and Marc R. Lisker is a manager of, and may be deemed to beneficially own securities beneficially owned by, MSD GP. The 22,101,509 shares includes 6,949,993 out of the 7,575,758 shares of common stock issuable upon the full exercise of a warrant, which is the number of shares issuable upon exercise as limited by the Beneficial Ownership Limitation (as defined below) as of March 15, 2022. Such warrant is only exercisable to the extent that the holder thereof, together with its affiliates, would beneficially own no more than 9.99% of the outstanding shares of our common stock after giving effect to such exercise (the “Beneficial Ownership Limitation”). As a result of the Beneficial Ownership Limitation, the number of shares that may be issued to the holder upon exercise of the warrant may change depending upon changes in the outstanding shares of our common stock. Upon 61 days’ prior notice to the Company, the holder may increase, decrease or terminate the Beneficial Ownership Limitation. The address of MSD Credit Opportunity Master Fund, L.P. is c/o Maples Corporate Services Limited, P.O. Box 309, Ugland House, Grand Cayman, KY1-1104, Cayman Islands. (2) Based solely on a Schedule 13G/A filed with the SEC on February 10, 2022 by The Vanguard Group, or Vanguard. Vanguard is the beneficial owner of 11,633,700 shares and has shared voting power with respect to 395,047 shares, sole dispositive power with respect to 11,076,829 shares and shared dispositive power with respect to 556,871 shares. Aggregate beneficial ownership reported by Vanguard includes beneficial ownership of its subsidiaries, Vanguard Asset Management, Limited, Vanguard Fiduciary Trust Company, Vanguard Global Advisors, LLC, Vanguard Group (Ireland) Limited, Vanguard Investments Australia Ltd, Vanguard Investments Canada Inc., Vanguard Investments Hong Kong Limited and Vanguard Investments UK, Limited. The address of Vanguard is 100 Vanguard Blvd., Malvern, PA 19355. (3) Based solely on a Schedule 13G/A filed with the SEC on February 3, 2022 by Blackrock, Inc., or BlackRock. BlackRock, as a parent holding company, is the beneficial owner of 16,764,972 shares and has sole voting power with respect to 16,427,610 shares and sole dispositive power with respect to 16,764,972 shares. Aggregate beneficial ownership reported by BlackRock is on a consolidated basis and includes beneficial ownership of its subsidiaries, BlackRock Life Limited, Aperio Group, LLC, BlackRock Advisors, LLC, BlackRock (Netherlands) B.V., BlackRock Institutional Trust Company, National Association, BlackRock Asset Management Ireland Limited, BlackRock Financial Management, Inc., BlackRock Japan Co., Ltd., BlackRock Asset Management Schweiz AG, BlackRock Investment Management, LLC, BlackRock Investment Management (UK) Limited, BlackRock Asset Management Canada Limited, 79 Table of Contents BlackRock Investment Management (Australia) Limited, BlackRock Fund Advisors and BlackRock Fund Managers Ltd. The address of BlackRock. is 55 East 52nd Street, New York, New York 10055. (4) Based solely on a Schedule 13G filed with the SEC on February 14, 2022 by Discovery Capital Management, LLC, or Discovery. Discovery is the beneficial owner of 13,346,493 shares and has shared voting power with respect to 13,346,493 shares and shared dispositive power with respect to 13,346,493 shares. Robert K. Citrone, the control person of Discovery, may be deemed to exercise voting and/or dispositive power over the shares held for the account of Discovery. Aggregate beneficial ownership reported by Discovery includes beneficial ownership of Discovery Global Opportunity Master Fund, Ltd., a Cayman Islands limited company. The address of Discovery is 20 Marshall Street, Suite 310, South Norwalk, CT 06854. (5) Based solely on a Schedule 13G jointly filed with the SEC on February 11, 2022 by Robert D. Hardie, Mollie G. Hardie and Level One Partners, LLC (collectively, the “Level One Parties”). The Level One Parties beneficially own 24,178,873 shares. Robert D. Hardie is the beneficial owner of 10,226,937, and has shared voting and dispositive power with respect to 7,406,823 shares, and sole dispositive and voting power with respect 2,860,114. Molly G. Hardie is the beneficial owner of 7,675,213, and has shared voting and dispositive power with respect to 7,276,723 shares, and sole dispositive and voting power with respect 398,490. Level One Partners, LLC is the beneficial owner of 6,236,723 shares, and has shared voting and dispositive power with respect to all 6,236,723 shares. The address of the Level One Parties is 210 Ridge McIntire Road, Suite 350, Charlottesville, Virginia 22903. (6) Based solely on a Schedule 13G filed with the SEC on February 11, 2022 by State Street Corporation. State Street Corporation is the beneficial owner of 13,318,734 shares and has shared voting power with respect to 12,875,132 shares and shared dispositive power with respect to 13,318,734 shares. Aggregate beneficial ownership reported by State Street Corporation includes beneficial ownership of its subsidiaries, SSGA Funds Management, Inc., State Street Global Advisors Limited, State Street Global Advisors, Australia, Limited, State Street Global Advisors Europe Limited, and State Street Global Advisors Trust Company. The address of State Greet Corporation is State Street Financial Center, 1 Lincoln Street, Boston, MA 02111. (7) Consists of (i) 885,000 shares of common stock held by Mr. Boyle and (ii) 328,125 shares of common stock issuable upon the exercise of options exercisable within 60 days of March 15, 2022. (8) To the best of our knowledge, consists of (i) 145,889 shares of common stock held by Ms. Hagen. (9) To the best of our knowledge, consists of (i) 2,067,017 shares of common stock held by Dr. Cooper and (ii) 685,321 shares of common stock issuable upon the exercise of options exercisable within 60 days of March 15, 2022. (10) Consists of (i) 237,106 shares of common stock held by Dr. de Groot and (ii) 453,742 shares of common stock issuable upon the exercise of options exercisable within 60 days of March 15, 2022. (11) Consists of (i) 280,645 shares of common stock held by Dr. Baffa and (ii) 156,250 shares of common stock issuable upon the exercise of options exercisable within 60 days of March 15, 2022. (12) To the best of our knowledge, consists of 127,214 shares of common stock held by Ms. Buck. (13) Consists of (i) 4,167 shares of common stock held by Mr. Bowden and (ii) 175,843 shares of common stock issuable upon the exercise of options exercisable within 60 days of March 15, 2022. (14) Consists of (i) 108,333 shares of common stock held by Mr. Huang and (ii) 62,500 shares of common stock issuable upon the exercise of options exercisable within 60 days of March 15, 2022. (15) Consists of (i) 1,201,870 shares of common stock held by Mr. Postma, (ii) 4,250,000 shares of common stock held by Water Mill Asset Management Corp., where Mr. Postma serves as the principal, (iii) 3,574 shares of common stock held by the IRA of Mr. Postma’s spouse, (iv) 946,970 shares of common stock issuable upon the exercise of warrants exercisable within 60 days of March 15, 2022 and (v) 81,250 shares of common stock issuable upon the exercise of options exercisable within 60 days of March 15, 2022. (16) Consists of (i) 5,000 shares of common stock held by Ms. Thistle and (ii) 108,333 shares of common stock issuable upon the exercise of options exercisable within 60 days of March 15, 2022. (17) Consists of (i) 705,321 shares of common stock held by Mr. Vieser, (ii) 325,000 shares of common stock held in Uniform Transfer to Minors Act accounts by Mr. Vieser’s children, and (iii) 97,916 shares of common stock issuable upon the exercise of options exercisable within 60 days of March 15, 2022. (18) Consists of (i) 120,167 shares of common stock held by Mr. Weis, (ii) 19,000 shares of common stock held by Mr. Weis’ spouse, (iii) 2,440 shares of common stock held by Mr. Weis’ children, and (iv) 97,916 shares of common stock issuable upon the exercise of options exercisable within 60 days of March 15, 2022. Item 13. Certain Relationships and Related Transactions, and Director Independence The following discussion relates to certain transactions that involve both the Company and one of our executive officers, directors, director nominees or five-percent stockholders, or any member of their immediate family, each of whom we refer to as a “related party.” For purposes of this discussion, a “related-party transaction” is a transaction, arrangement or relationship: • in which we participate; • that involves an amount in excess of $120,000; and • in which a related party has a direct or indirect material interest. 80 Table of Contents Related-Person Transaction Policy We have a related person transaction policy that sets forth our procedures for the identification, review, consideration and approval or ratification of related person transactions. For purposes of our policy only, a related person transaction is a transaction, arrangement or relationship, or any series of similar transactions, arrangements or relationships, in which we and any related person, directly or indirectly, are, were or will be participants in which the amount involved will or may reasonably be expected to exceed $120,000 in any calendar year. Transactions involving compensation for services provided to us as an employee or director are not covered by this policy. A related person is any person who is, or at any time since the beginning of the Company’s last fiscal year was, an executive officer, director, or nominee to become a director of the Company or a beneficial owner of more than 5% of any class of our voting securities, including any of such persons’ immediate family members and any entity that such persons owned, controlled, held a control position in or held a 5% or greater beneficial ownership interest in. Under the policy, if a transaction has been identified as a related person transaction, including any transaction that was not a related person transaction when originally consummated or any transaction that was not initially identified as a related person transaction prior to consummation, our management must present information regarding the related person transaction to our audit committee, or, if audit committee approval would be inappropriate, to another independent body of our board of directors, for review, consideration and approval or ratification. The presentation must include a description of, among other things, the material facts, the interests, direct and indirect, of the related persons, the benefits to us of the transaction and whether the transaction is on terms that are comparable to the terms available to or from, as the case may be, an unrelated third party or to or from employees generally. Under the policy, we will collect information that we deem reasonably necessary from each director, executive officer and, to the extent feasible, significant stockholder to enable us to identify any existing or potential related person transactions and to effectuate the terms of the policy. In considering related person transactions, our audit committee, or other independent body of our board of directors, will take into account the relevant available facts and circumstances including, but not limited t the risks, costs and benefits to us; the impact on a director’s independence in the event that the related person is a director, immediate family member of a director or an entity with which a director is affiliated; the availability of other sources for comparable services or products; and the terms available to or from, as the case may be, unrelated third parties or to or from employees generally. The policy requires that, in determining whether to approve, ratify or reject a related person transaction, our audit committee, or other independent body of our board of directors, must consider, in light of known circumstances, whether the transaction is in, or is not inconsistent with, our best interests and those of our stockholders, as our audit committee, or other independent body of our board of directors, determines in the good faith exercise of its discretion. Certain Related-Party Transactions Except as described below, there have been no transactions since January 1, 2021 in which we have been a participant in which the amount involved exceeded or will exceed $120,000, and in which any of our directors, executive officers or holders of more than 5% of our common stock, or any members of their immediate family, had or will have a direct or indirect material interest, other than compensation arrangements which are described elsewhere in this filing under the sections titled “— Executive Compensation ” and “— Director Compensation .” Collaboration with PGEN and MD Anderson On January 13, 2015, the Company, together with Precigen, entered into the MD Anderson License with MD Anderson (which Precigen subsequently assigned to PGEN). Pursuant to the MD Anderson License, the company, together with PGEN, hold an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR T-cell therapies, non-viral gene transfer systems, genetic modification and/or propagation of immune cells and other cellular therapy approaches, Natural Killer, or NK Cells, and TCRs, arising from the laboratory of Laurence Cooper, M.D., Ph.D., who served as the Company’s Chief Executive Officer from May 2015 to February 2021 and was formerly a tenured professor of pediatrics at MD Anderson. In partial consideration for entering into the MD Anderson License, the Company issued MD Anderson an aggregate of 11,722,163 shares of common stock for which the Company incurred a $67.3 million charge recorded in 2015. During the year ended December 31, 2021, the Company made payments of $0.1 million to MD Anderson compared to $0 during the year ended December 31, 2020. The net balance of cash resources on hand at MD Anderson available to offset expenses and future costs for the year ended December 31, 2021 was $0 and for the year ended December 31, 2020 was $8.1 million, which is included in other current assets on the Company’s balance sheet. WaterMill Settlement Agreement On February 4, 2021, we entered into an agreement, or the Settlement Agreement, with WaterMill and Robert W. Postma (collectively, the “WaterMill Parties”). Pursuant to the Settlement Agreement, we increased the size of our board of directors from eight to nine directors and appointed Mr. Postma to fill the newly created directorship. 81 Table of Contents The Settlement Agreement included certain customary standstill restrictions applicable from February 4, 2021 until the date that was the earlier of (i) January 1, 2022 and (ii) thirty (30) calendar days prior to the nomination deadline for our 2022 annual meeting of stockholders, or the Standstill Period. During the Standstill Period, the WaterMill Parties were, among other things, restricted from engaging in any solicitation of proxies or written consents with respect to the election or removal of directors or, with certain exceptions, any other matter or proposal, or acquiring voting stock that would result in the WaterMill Parties having beneficial ownership of more than 9.9% of our outstanding voting stock. Under the Settlement Agreement, we agreed that during the Standstill Period, we would nominate each of Mr. Postma, Jaime Vieser and Holger Weis for election at any stockholder meeting at which directors are to be elected and will recommend, support and solicit proxies for the election of each of Messrs. Postma, Vieser and Weis. The Settlement Agreement also provided that at any meeting of our stockholders held prior to the expiration of the Standstill Period, the WaterMill Parties would vote all of their shares of our securities in accordance with the recommendation of our board of directors, with respect to the election, removal and/or replacement of directors. The WaterMill Parties retained the right to vote in their sole discretion with respect to any other publicly announced proposal not made in breach of the Settlement Agreement. Further, pursuant to the Settlement Agreement, we agreed to reimburse the WaterMill Parties for up to $400,000 of their reasonable out-of-pocket fees and expenses out of a total of approximately $650,000 in fees and expenses actually incurred by the WaterMill Parties in connection with (i) the WaterMill Parties’ solicitation of written consents from our stockholders to vote in favor of certain proposals, as set forth in the definitive consent statement filed by the WaterMill Parties on October 30, 2020, and (ii) the negotiation, execution and effectuation of the Settlement Agreement. As of February 19, 2021, we have fully reimbursed the WaterMill Parties an aggregate amount of $400,000. During the year ended December 31, 2021, we received $250,000 in insurance recoveries associated with legal expenses incurred on this matter. Joint Venture with TriArm Therapeutics Ltd. On December 18, 2018, we launched Eden BioCell, a joint venture with TriArm, to lead the commercialization of our Sleeping Beauty -generated CAR-T therapies in the People’s Republic of China (including Macau and Hong Kong), Taiwan and Korea. Under our agreements with TriArm, we licensed to Eden BioCell the rights in Greater China for its third-generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen. Eden BioCell is owned equally by us and TriArm and the parties share decision-making authority. TriArm agreed to contribute up to $10.0 million to Eden BioCell and has committed up to an additional $25.0 million to this joint venture. TriArm also manages all clinical development in the territory pursuant to a Master Services Agreement between TriArm and Eden BioCell. In March 2021 and as announced by the Company in April 2021, Eden BioCell began treating patients in a clinical trial with the Company’s investigational CD19 RPM CAR-T cell therapy, under the IND cleared by the Taiwan FDA in December. In September 2021, it was mutually agreed between the parties to dissolve the joint venture. The dissolution of the joint venture and the related entity is in progress. James Huang, who became a director of our Company in July 2020, and was appointed Chair of our board of directors in January 2021 and then Executive Chair of our board of directors in February 2021, was the founder and serves as managing partner of Panacea Venture, which is an investor in TriArm. Mr. Huang also serves as a member of Eden BioCell’s board of directors. Collaboration with Vineti Inc. On July 9, 2020, the Company entered into a master service agreement and statement of work with Vineti, Inc., or Vineti. Pursuant to the agreements, Vineti is developing a software platform to coordinate and orchestrate the order, cell collection and manufacturing process for the Company’s TCR-T clinical programs. Heidi Hagen, who became a director of the Company in June 2019 and resigned November 2, 2021 and served as the Company's Interim Chief Executive Officer on February 25, 2021 through her resignation on August 30, 2021, is a co-founder and former officer, of Vineti. The Company recorded expenses of approximately $0.4 million during the year ended December 31, 2021 and $29,000 during the year ended December 31, 2020, for services performed by Vineti. Indemnification Agreements We have entered into an indemnification agreement with each of our directors. These indemnification agreements and our charter and our bylaws indemnify each of our directors and officers to the fullest extent permitted by the Delaware General Corporation Law. Independence of the Board of Directors Our board of directors has undertaken a review of the independence of our directors and considered whether any director has a relationship that, in the opinion of the board of directors, would interfere with the exercise of independent judgment in carrying out the responsibilities of a member of our board of directors. Based upon information requested from and provided by each director concerning such director’s background, employment and affiliations, including family relationships, the board of directors has determined that all of our directors, other than Mr. Boyle and Mr. Huang are “independent directors,” as such term is defined in Nasdaq Rule 5605(a)(2). In making these determinations, 82 Table of Contents our board of directors considered the current and prior relationships that each non-employee director has with our company and all other facts and circumstances that our board of directors deemed relevant in determining their independence, including the beneficial ownership of our capital stock by each non-employee director. Board Committees The board of directors has established three standing committe an audit committee, a compensation committee and a corporate governance and nominating committee. Each committee operates under a charter that has been approved by the board of directors. Current copies of each committee’s charter are posted on the “Investors—Corporate Governance” section of our website, www.alaunos.com . Our website and its contents are not incorporated into this Annual Report on Form 10-K. The current members of the committees are as follows: Audit Compensation Nominating Christopher Bowden, M.D. X X Robert W. Postma X X* Mary Thistle X X Jaime Vieser X X Holger Weis X* X* * Committee Chairperson Audit Committee The current members of the audit committee are Mr. Holger Weis, who serves as the committee’s Chair, Ms. Mary Thistle and Mr. Jaime Vieser. As set forth in the audit committee charter, the primary responsibility of the audit committee is to oversee our financial reporting processes and internal control system on behalf of the board of directors. In that regard, the audit committee is responsible for, among other things, the appointment, compensation, retention and oversight of the work performed by the independent registered public accounting firm employed by us. Each member of the audit committee is an “independent director,” as such term is defined in Nasdaq Rule 5605(a)(2) and meets the criteria for independence set forth in Rule 10A-3(b)(1) under the Exchange Act. The board of directors has also determined that each of the audit committee members is able to read and understand fundamental financial statements and that at least one member of the audit committee has past employment experience in finance or accounting. The board of directors has determined that at least one member of the audit committee, Holger Weis, is an “audit committee financial expert,” as that term is defined in Item 407(d)(5)(ii) of Regulation S-K promulgated under the Exchange Act. The audit committee held seven meetings during 2021. Compensation Committee The current members of the compensation committee are Ms. Thistle, who serves as the committee’s Chair, Dr. Christopher Bowden, Mr. Postma and Mr. Weis. As set forth in the compensation committee charter, the compensation committee reviews our compensation policies and practices and makes recommendations to the board of directors in connection with all compensation matters affecting our executive officers. Each member of the compensation committee is an “independent director,” as such term is defined in Nasdaq Rule 5605(a)(2) and meets the criteria for independence set forth in Rule 10A-3(b)(1) under the Exchange Act. The compensation committee held ten meetings during 2021. Corporate Governance and Nominating Committee The current members of the corporate governance and nominating committee are Mr. Robert W. Postma, who serves as the committee’s Chair, Dr. Christopher Bowden and Mr. Jaime Vieser. As set forth in the corporate governance and nominating committee charter, the primary responsibility of the corporate governance and nominating committee is to consider and make recommendations to the board of directors concerning the appropriate size, function and needs of the board of directors and its committees. In that regard, the corporate governance and nominating committee is, among other things, responsible for establishing criteria for membership on board of directors, recruiting and recommending candidates to fill newly created or vacant positions on the board of directors and reviewing any candidates recommended by stockholders. In addition, the corporate governance and nominating committee evaluates and assesses the performance of the board of directors as a whole and its committees. 83 Table of Contents Each member of the corporate governance and nominating committee is an “independent director,” as such term is defined in Nasdaq Rule 5605(a)(2), and meets the criteria for independence set forth in Rule 10A-3(b)(1) under the Exchange Act. The corporate governance and nominating committee held two meetings during 2021. Item 14. Principal Accountant Fees and Services Principal Accountant Fees and Services The following table presents the aggregate fees billed by RSM US LLP for the years ended December 31, 2021 and 2020. Fee Category 2021 2020 Audit Fees (1) $ 325,960 $ 375,203 Audit-Related Fees — — Tax Fees — — All Other Fees — — Total Fees $ 325,960 $ 375,203 (1) Represents fees billed for professional services provided to us in connection with the annual audit of our financial statements, the review of our quarterly condensed financial statements, the audit of the effectiveness of our internal controls over financial reporting pursuant to Section 404 of the Sarbanes-Oxley Act of 2002 (2020 only), as well as audit services that are normally provided by an independent registered public accounting firm in connection with statutory and regulatory filings or engagements for those fiscal years, such as statutory audits, and administrative fees and out-of-pocket costs. Other than as discussed above, we did not incur any fees of RSM US LLP for audit-related, tax or other services in 2021 or 2020. All fees described above were pre-approved by the audit committee. Pre-Approval Policy and Procedures The audit committee has adopted a policy and procedures for the pre-approval of audit and non-audit services rendered by our independent registered public accounting firm, RSM US LLP. The policy generally authorizes pre-approval by the audit committee of specified services in the defined categories of audit services, audit-related services and tax services up to specified amounts. Pre-approval may also be given as part of the audit committee’s approval of the scope of the engagement of the independent registered public accounting firm or on an individual, explicit, case-by-case basis before the independent registered public accounting firm is engaged to provide each service. The pre-approval of services may be delegated to one or more of the audit committee’s members, but the decision must be reported to the full audit committee at its next scheduled meeting. 84 Table of Contents PART IV Item 15. Exhibits, Financial Statement Schedules (1) Financial Statements: The Financial Statements required to be filed by Item 8 of this Annual Report, and filed in this Item 15, are as follows: Page Report of Independent Accounting Firm F- 1 Balance Sheets as of December 31, 2021 and 2020 F- 3 Statements of Operations for the Years Ended December 31, 2021 and 2020 F- 4 Statements of Changes Stockholders’ Equity for the Years Ended December 31, 2021 and 2020 F- 5 Statements of Cash Flows for the Years Ended December 31, 2021 and 2020 F- 6 Notes to Financial Statements F- 7 (2) Financial Statement Schedul Schedules are omitted because they are not applicable, or are not required, or because the information is included in the financial statements and notes thereto. (3) Exhibits: Exhibit No. Description of Document 2.1 Agreement and Plan of Merger among the Registrant (formerly “EasyWeb, Inc.”), ZIO Acquisition Corp. and ZIOPHARM, Inc., dated August 3, 2005 (incorporated by reference to Exhibit 10.1 to the Registrant’s Form 8-K, SEC File No. 000-32353, filed August 9, 2005). 3.1* Amended and Restated Certificate of Incorporation, and all amendments thereto. 3.2 Certificate of Merger dated September 13, 2005, relating to the merger of ZIO Acquisition Corp. with and into ZIOPHARM, Inc. (incorporated by reference to Exhibit 3.1 to the Registrant’s Form 8-K, SEC File No. 000-32353, filed September 19, 2005). 3.3 Certificate of Ownership of the Registrant (formerly “EasyWeb, Inc.”) dated as of September 14, 2005, relating the merger of ZIOPHARM, Inc. with and into the Registrant, and changing the Registrant’s corporate name from EasyWeb, Inc. to ZIOPHARM Oncology, Inc. (incorporated by reference to Exhibit 3.2 to the Registrant’s Form 8-K, SEC File No. 000-32353, filed September 19, 2005). 3.4 Amended and Restated Certificate of Designation, Preferences and Rights of Series 1 Preferred Stock, as filed with the Delaware Secretary of State on July 1, 2016 (incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K/A, SEC File No. 001-33038, filed July 1, 2016). 3.5 Amended and Restated Bylaws of the Registrant, dated as of September 21, 2020 (incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed September 22, 2020). 4.1 Specimen common stock certificate (incorporated by reference to Exhibit 4.1 to the Registrant’s Registration Statement on Form SB-2, SEC File No. 333-129020, filed October 14, 2005). 4.2 Form of Option for the Purchase of Shares of common stock dated August 30, 2004 and issued to The University of Texas M. D. Anderson Cancer Center (incorporated by reference to Exhibit 4.6 to the Registrant’s Annual Report on Form 10-KSB, SEC File No. 000-32353, filed March 20, 2006). 4.3 Schedule identifying Material Terms of Options for the Purchase of Shares of Common Stock (incorporated by reference to Exhibit 4.7 to the Registrant’s Annual Report on Form 10-KSB, SEC File No. 000-32353, filed March 20, 2006). 4.4 Form of Warrant to Purchase Common Stock (incorporated by reference to Exhibit 4.1 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038 filed November 13, 2018). 4.5# Warrant to Purchase Common Stock issued to The University of Texas M. D. Anderson Cancer Center (incorporated by reference to Exhibit 4.7 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 2, 2020). 4.6* Form of Warrant to Purchase Shares of Common Stock issued to SVB and certain of its Affiliates, dated December 28, 2021. 4.7* Description of Securities Registered Pursuant to Section 12 of the Securities Exchange Act of 1934, as amended. 10.3+ ZIOPHARM Oncology, Inc. 2012 Equity Incentive Plan, as amended (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038 filed September 24, 2018). 10.4+ Form of Restricted Stock Agreement Granted Under the ZIOPHARM Oncology, Inc. 2012 Equity Incentive Plan (incorporated by reference to Exhibit 10.2 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038 filed June 26, 2012). 10.5+ Form of Option Agreement Granted Under the ZIOPHARM Oncology, Inc. 2012 Equity Incentive Plan (incorporated by reference to Exhibit 10.3 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038 filed June 26, 2012). 85 Table of Contents 10.7+ Form of Inducement Award Grant Notice and Inducement Award Grant Agreement (incorporated by reference to Exhibit 99.3 to the Registrant’s Registration Statement on Form S-8, SEC File No. 333-238090, filed May 8, 2020). 10.8+ ZIOPHARM Oncology, Inc. 2020 Equity Incentive Plan (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038 filed July 1, 2020). 10.9+ Form of Restricted Stock Agreement Granted Under the ZIOPHARM Oncology, Inc. 2020 Equity Incentive Plan (incorporated by reference to Exhibit 10.9 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021 ). 10.10+ Form of Stock Option Agreement Granted Under the ZIOPHARM Oncology, Inc. 2020 Equity Incentive Plan (incorporated by reference to Exhibit 10.10 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021 ). 10.11+ Form of Indemnity Agreement for directors and executive officers (incorporated by reference to Exhibit 99.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed January 31, 2013). 10.12+ Employment Agreement by and between the Registrant and Laurence James Neil Cooper, M.D., Ph.D. dated as of May 5, 2015 (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed May 7, 2015). 10.13+ Separation Agreement, dated April 5, 2021, by and between the Registrant and Dr. Laurence Cooper (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed April 9, 2021) 10.14+ Consulting Agreement, dated April 5, 2021, by and between the Registrant and Dr. Laurence Cooper (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed April 9, 2021). 10.15+ Employment Agreement, dated February 25, 2021, by and between the Registrant and Heidi Hagen (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed March 2, 2021). 10.16+ Employment Agreement, dated August 24, 2021, by and between the Registrant and Kevin S. Boyle Sr. (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed August 30, 2021). 10.17*+ Employment Agreement, dated April 23, 2019, by and between the Registrant and Jill Buck. 10.18*+ Amendment to Employment Agreement, dated November 23, 2020, by and between the Registrant and Jill Buck. 10.19*+ Employment Agreement, dated April 23, 2019, by and between the Registrant and Eleanor de Groot. 10.20*+ Amendment to Employment Agreement, dated November 23, 2020, by and between the Registrant and Eleanor de Groot. 10.21*+ Employment Agreement, dated September 30, 2020, by and between the Registrant and Raffaele Baffa. 10.22*+ Amendment to Employment Agreement, dated November 23, 2020, by and between the Registrant and Raffaele Baffa. 10.23# Form of Retention Bonus Agreement (incorporated by reference to Exhibit 10.20 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021). 10.24# License Agreement by and among the Registrant, Intrexon Corporation and The University of Texas System Board of Regents on behalf of The University of Texas M.D. Anderson Cancer Center dated as of January 13, 2015 (incorporated by reference to Exhibit 10.5 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed January 28, 2015). 10.25† Exclusive License Agreement by and between the Registrant, Precigen, Inc. and Intrexon Corporation, dated October 5, 2018 (incorporated by reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q, SEC File No. 001-33038, filed November 9, 2018). 10.26# Amendment No. 1 to the Exclusive License Agreement by and between the Registrant and PGEN Therapeutics, Inc. (formerly known as Precigen, Inc.), dated October 15, 2020 (incorporated by reference to Exhibit 10.2 to the Registrant’s Quarterly Report on Form 10-Q SEC File No. 001-33038, filed November 5, 2020). 10.27† License and Collaboration Agreement by and among the Registrant, Intrexon Corporation and Ares Trading S.A. dated as of March 27, 2015 (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed April 2, 2015). 10.28# Research and Development Agreement by and among the Registrant, Intrexon Corporation and The University of Texas M.D. Anderson Cancer Center dated as of August 17, 2015 (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed August 21, 2015). 10.29 First Amendment to the Research and Development Agreement by and among the Registrant, Intrexon Corporation and The University of Texas M.D. Anderson Cancer Center dated as of August 30, 2016 (incorporated by reference to Exhibit 10.21 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 5, 2019). 10.30 Second Amendment to the Research and Development Agreement by and among the Registrant, Intrexon Corporation and The University of Texas M.D. Anderson Cancer Center dated as of January 17, 2017 (incorporated by reference to Exhibit 10.21 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 5, 2019). 10.31 Third Amendment to the Research and Development Agreement by and among the Registrant, Intrexon Corporation and The University of Texas M.D. Anderson Cancer Center dated as of November 14, 2017 (incorporated by reference to Exhibit 10.23 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 5, 2019). 10.32 Fourth Amendment to Research and Development Agreement, dated September 19, 2019 by and among the Registrant, The University of Texas MD Anderson Cancer Center and Precigen, Inc. (incorporated by reference to Exhibit 10.7 to the Registrant’s Quarterly Report on Form 10-Q, SEC File No. 001-33038, filed November 7, 2019). 86 Table of Contents 10.33# Fifth Amendment to Research and Development Agreement, dated October 22, 2019 by and among the Registrant and The University of Texas MD Anderson Cancer Center (incorporated by reference to Exhibit 10.20 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 2, 2020). 10.34# 2019 Research and Development Agreement, dated October 22, 2019, by and between the Registrant and The University of Texas MD Anderson Cancer Center (incorporated by reference to Exhibit 10.21 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 2, 2020). 10.35# Patent License Agreement, dated as of May 28, 2019, by and between the Registrant and the National Cancer Institute (incorporated by reference to Exhibit 10.3 to the Registrant’s Quarterly Report on Form 10-Q, SEC File No. 001-33038, filed August 8, 2019). 10.36# First Amendment to Patent License Agreement, dated as of January 8, 2020, by and between the Registrant and the National Cancer Institute (incorporated by reference to Exhibit 10.23 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 2, 2020). 10.37# Second Amendment to Patent License Agreement, dated as of September 28, 2020, by and between the Registrant and the National Cancer Institute (incorporated by reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q, SEC File No. 000-33038, filed November 5, 2020). 10.38*# Third Amendment to Patent License Agreement, dated as of April 16, 2021, by and between the Registrant and the National Cancer Institute. 10.39*# Fourth Amendment to Patent License Agreement, dated as of May 4, 2021, by and between the Registrant and the National Cancer Institute. 10.40*# Fifth Amendment to Patent License Agreement, dated as of August 13, 2021, by and between the Registrant and the National Cancer Institute. 10.41# Cooperative Research and Development Agreement, dated January 9, 2017, by and among the Registrant, the National Cancer Institute, and Intrexon Corporation (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038, filed September 26, 2019). 10.42 First Amendment to the Cooperative Research and Development Agreement, dated March 23, 2018, by and among the Registrant, National Cancer Institute, Intrexon Corporation and Precigen, Inc. (incorporated by reference to Exhibit 10.2 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038, filed September 26, 2019). 10.43# Second Amendment to the Cooperative Research and Development Agreement, dated February 1, 2019, by and among the National Cancer Institute, the Registrant and Precigen, Inc. (incorporated by reference to Exhibit 10.3 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038, filed September 26, 2019). 10.44* Third Amendment to the Cooperative Research and Development Agreement, dated March 15, 2022, by and among the National Cancer Institute and the Registrant. 10.45 Lease Agreement, dated as of October 15, 2019, by and between the Registrant and The University of Texas System Board of Regents on behalf of The University of Texas M.D. Anderson Cancer Center (incorporated by reference to Exhibit 10.39 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021). 10.46 First Amendment, dated as of April 7, 2020, to the Lease Agreement, dated as of October 15, 2019, by and between the Registrant and The University of Texas System Board of Regents on behalf of The University of Texas M.D. Anderson Cancer Center (incorporated by reference to Exhibit 10.40 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021). 10.47 Second Amendment, dated as of April 7, 2020, to the Lease Agreement, dated as of October 15, 2019, by and between the Registrant and The University of Texas System Board of Regents on behalf of The University of Texas M.D. Anderson Cancer Center (incorporated by reference to Exhibit 10.41 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021). 10.48 Third Amendment, dated as of December 15, 2020, to the Lease Agreement, dated as of October 15, 2019, by and between the Registrant and The University of Texas System Board of Regents on behalf of The University of Texas M.D. Anderson Cancer Center (incorporated by reference to Exhibit 10.42 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021). 10.49 Lease Agreement dated as of December 15, 2020, by and between the Registrant and The University of Texas System Board of Regents on behalf of The University of Texas M.D. Anderson Cancer Center (incorporated by reference to Exhibit 10.43 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021). 10.50 Agreement dated February 4, 2021, by and among the Registrant, WaterMill Asset Management Corp. and Robert W. Postma (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed February 5, 2021). 10.51 Loan and Security Agreement by and among the Registrant, the lenders party thereto and Silicon Valley Bank, as administrative agent and collateral agent, dated August 6, 2021 (incorporated by reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q, SEC File No. 001-33038, filed November 8, 2021). 87 Table of Contents 10.52* First Amendment to the Loan and Security Agreement by and among the Registrant, the lenders party thereto and Silicon Valley Bank, as administrative agent and collateral agent, dated December 28, 2021. 10.53* Separation Agreement, dated March 28, 2022, by and between the Registrant and Dr. Raffaele Baffa. 21.1* Subsidiaries of the Registrant. 23.1* Consent of Independent Registered Public Accounting Firm 24.1* Power of Attorney (incorporated by reference to the signature page of this Annual Report on Form 10-K). 31.1* Certification of Principal Executive Officer pursuant to Exchange Act Rule 13a-14(a) or 15(d)-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1** Certification of Principal Executive Officer and Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 101.INS* Inline XBRL Instance Document 101.SCH* Inline XBRL Taxonomy Extension Schema Document 101.CAL* Inline XBRL Taxonomy Extension Calculation Linkbase Document 101.DEF* Inline XBRL Taxonomy Extension Definition Linkbase Document 101.LAB* Inline XBRL Taxonomy Extension Label Linkbase Document 101.PRE* Inline XBRL Taxonomy Extension Presentation Linkbase Document 104* Cover Page Interactive Data File-the cover page interactive data is embedded within the Inline XBRL document or included within the Exhibit 101 attachments * Filed herewith. ** Furnished herewith. + Indicates management contract or compensatory plan. † Confidential treatment has been granted by the Securities and Exchange Commission as to certain portions of this document. # Portions of this document (indicated by “[***]”) have been omitted because they are not material and would likely cause competitive harm to Alaunos Therapeutics, Inc. if disclosed. Item 16. Form 10-K Summary None. 88 Table of Contents SIGN ATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ALAUNOS THERAPEUTICS, INC. Date: March 30, 2022 By: /s/Kevin S. Boyle, Sr. Kevin S. Boyle, Sr. Chief Executive Officer and Director (Principal Executive Officer and Principal Financial Officer) Date: March 30, 2022 By: /s/Michael Wong Michael Wong Vice President, Finance (Principal Accounting Officer) KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Kevin S. Boyle, Sr. and Michael Wong, jointly and severally, as his or her true and lawful attorneys-in-fact and agents, with full power of substitution and resubstitution, for him or her, and in his or her name, place and stead, in any and all capacities, to sign any and all amendments to this report, and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents full power and authority to do and perform each and every act and thing requisite or necessary to be done in and about the premises hereby ratifying and confirming all that said attorneys-in-fact and agents, or his substitute or substitutes, may lawfully do or cause to be done by virtue hereof. Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Signature Title Date /s/ Kevin S. Boyle, Sr. Kevin S. Boyle, Sr. Chief Executive Officer and Director (Principal Executive Officer and Principal Financial Officer) March 30, 2022 /s/ Michael Wong Michael Wong Vice President, Finance (Principal Accounting Officer) March 30, 2022 /s/ Christopher Bowden Christopher Bowden Director March 30, 2022 /s/James Huang James Huang Director March 30, 2022 /s/ Robert W. Postma Robert W. Postma Director March 30, 2022 /s/ Mary Thistle Mary Thistle Director March 30, 2022 /s/ Jaime Vieser Jaime Vieser Director March 30, 2022 /s/ Holger Weis Holger Weis Director March 30, 2022 89 Table of Contents Alaunos Therapeutics, Inc. INDEX TO FINANCIAL STATEMENTS Page Report of Independent Registered Public Accounting Firm ( RSM US LLP ; Boston, MA ; PCAOB ID: 49 ) F- 1 Balance Sheets as of December 31, 2021 and 2020 F- 3 Statements of Operations for the Years Ended December 31, 2021 and 2020 F- 4 Statements of Changes in Stockholders’ Equity for the Years Ended December 31, 2021 and 2020 F- 5 Statements of Cash Flows for the Years Ended December 31, 2021 and 2020 F- 6 Notes to Financial Statements F- 7 Table of Contents REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Stockholders and the Board of Directors of Alaunos Therapeutics, Inc. Opinion on the Financial Statements We have audited the accompanying balance sheets of Alaunos Therapeutics, Inc. and its subsidiaries (collectively, the Company) as of December 31, 2021 and 2020, the related statements of operations, stockholders’ equity and cash flows for the years then ended, and the related notes to the financial statements (collectively, the financial statements). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2021 and 2020, and the results of its operations and its cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America. Basis for Opinion These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits, we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion. Critical Audit Matters The critical audit matters communicated below are matters arising from the current period audit of the financial statements that were communicated or required to be communicated to the audit committee and tha (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate. Description of the Matter As discussed in Note 3 to the financial statements, the Company accrues costs for clinical trials and preclinical studies based upon estimates of costs incurred through the balance sheet date that have yet to be invoiced by the contract research organizations, clinical study sites, laboratories, consultants, or other vendors. This process involves reviewing open contracts and purchase orders, communicating with its personnel to identify services that have been performed on its behalf and estimating the level of service performed and the associated costs incurred for the services when the Company has not yet been invoiced or otherwise notified of the actual costs. The Company's accrual for clinical trial and preclinical study expenses totaled $2.0 million at December 31, 2021 as disclosed in Note 6. We identified the accruals for clinical trial and preclinical study expenses to be a critical audit matter because auditing the Company’s accruals for clinical trial and preclinical study expenses is complex due to the fact that information necessary to estimate the expense is accumulated from multiple sources. In addition, in certain circumstances, the determination of the nature and level of services that have been received during the reporting period requires judgment because the timing and pattern of vendor invoicing may not correspond to the level of services provided and there may be delays in invoicing from clinical study sites and other vendors. How We Addressed the Matter in our Audit Our audit procedures to test the accruals for clinical trial and preclinical studies expenses included, among othe • We tested the accuracy and completeness of the underlying data used in the estimates and evaluated the reasonableness of assumptions used by management. • We inspected certain contracts with third parties and reviewed information received by the Company to test proper recording of costs incurred to date. • We corroborated the progress of research and development activities through discussion with the Company’s research and development personnel, specifically those who oversee the projects. • We performed analytical procedures over fluctuations in accruals by clinical trial and preclinical studies or other significant work orders throughout the year and inspected subsequent invoices received from third parties to assess the impact to the accrual. F- 1 Table of Contents /s/ RSM US LLP We have served as the Company's auditor since 2010. Boston, Massachusetts March 30, 2022 F- 2 Table of Contents A launos Therapeutics, Inc. BALANCE SHEETS (in thousands, except share and per share data) December 31, December 31, 2021 2020 ASSETS: Current assets: Cash and cash equivalents $ 76,054 $ 115,069 Receivables 1,111 4,665 Prepaid expenses and other current assets 1,666 10,855 Total current assets 78,831 130,589 Property and equipment, net 10,941 10,231 Right-of-use asset 4,420 4,650 Deposits 42 130 Other non-current assets 631 745 Total assets $ 94,865 $ 146,345 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable $ 1,368 $ 960 Current portion of long-term debt 7,868 — Accrued expenses 6,076 16,589 Lease liability - current portion 729 819 Total current liabilities 16,041 18,368 Long-term debt 16,250 — Lease liability - non-current portion 4,518 3,995 Total liabilities $ 36,809 $ 22,363 Commitments and contingencies (Note 9) Stockholders' equity Common stock $ 0.001 par value; 350,000,000 shares authorized, 216,127,443 shares issued and outstanding at December 31, 2021 and 250,000,000 shares authorized, 214,591,906 shares issued and outstanding at December 31, 2020 216 215 Additional paid-in capital 900,693 887,868 Accumulated deficit ( 842,852 ) ( 764,101 ) Total stockholders' equity 58,057 123,982 Total liabilities and stockholders' equity $ 94,865 $ 146,345 The accompanying notes are an integral part of these financial statements. F- 3 Table of Contents A launos Therapeutics, Inc. STATEMENTS OF OPERATIONS (in thousands, except share and per share data) For the Year Ended December 31, 2021 2020 Collaboration revenue $ 398 $ — Operating expens Research and development 49,643 52,696 General and administrative 27,564 27,665 Property and equipment and right-of-use asset impairment 740 - Total operating expenses 77,947 80,361 Loss from operations ( 77,549 ) ( 80,361 ) Other income (expense), net ( 1,202 ) 385 Net loss $ ( 78,751 ) $ ( 79,976 ) Net loss applicable to common stockholders $ ( 78,751 ) $ ( 79,976 ) Basic and diluted net loss per share $ ( 0.37 ) $ ( 0.38 ) Weighted average number of common shares outstanding used to compute basic and diluted net loss per share 214,399,074 209,636,456 The accompanying notes are an integral part of these financial statements. F- 4 Table of Contents A launos Therapeutics, Inc. STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (in thousands, except share and per share data) Common Stock Additional Paid in Capital Deficit Accumulated During the Development Stage Total Stockholders' Equity Shares Amount Balance at December 31, 2019 181,803,320 $ 182 $ 778,953 $ ( 684,125 ) $ 95,010 Stock-based compensation - - 6,829 - 6,829 Exercise of employee stock options 252,799 - 442 - 442 Restricted stock awards 805,900 1 ( 1 ) - - Cancelled restricted common stock ( 194,897 ) - - - - Issuance of common stock in connection with a public offering, net of commissions and expenses of $ 5,900 29,110,111 29 88,632 - 88,661 Issuance of common stock in connection with an at the market offering, net of commissions and expenses of $ 400 2,814,673 3 13,013 - 13,016 Net loss - - - ( 79,976 ) ( 79,976 ) Balance at December 31, 2020 214,591,906 $ 215 $ 887,868 $ ( 764,101 ) $ 123,982 Stock-based compensation - - 10,774 - $ 10,774 Exercise of employee stock options 363,109 - 1,036 - $ 1,036 Common stock issuance 5,991 - - - $ - Restricted stock awards 1,601,224 1 ( 1 ) - $ - Cancelled restricted common stock ( 434,787 ) - - - $ - Issuance of warrants - - 1,016 - $ 1,016 Net loss - - - ( 78,751 ) $ ( 78,751 ) Balance at December 31, 2021 216,127,443 $ 216 $ 900,693 $ ( 842,852 ) $ 58,057 The accompanying notes are an integral part of these financial statements. F- 5 Table of Contents A launos Therapeutics, Inc. STATEMENTS OF CASH FLOWS (in thousands) For the Twelve Months Ended December 31, 2021 2020 Cash flows from operating activiti Net loss $ ( 78,751 ) $ ( 79,976 ) Adjustments to reconcile net loss to net cash used in operating activiti Depreciation 2,597 1,128 Property and equipment and right-of-use asset impairment 740 — Amortization of financing costs 383 — Stock-based compensation 10,774 6,829 (Increase) decrease in: Receivables 3,555 ( 1,335 ) Prepaid expenses and other current assets 9,189 11,566 Right-of-use asset ( 352 ) ( 2,378 ) Other noncurrent assets 201 ( 635 ) Increase (decrease) in: Accounts payable 274 54 Accrued expenses ( 10,512 ) 5,272 Lease liabilities 434 2,462 Net cash used in operating activities ( 61,468 ) ( 57,013 ) Cash flows from investing activiti Purchases of property and equipment ( 3,323 ) ( 9,778 ) Net cash used in investing activities ( 3,323 ) ( 9,778 ) Cash flows from financing activiti Proceeds from long-term debt 25,000 — Payment of debt issuance costs ( 260 ) — Proceeds from the exercise of stock options 1,036 442 Issuance of common stock in connection with a public offering, net — 88,661 Issuance of common stock in connection with at the market offerings, net — 13,016 Net cash provided by financing activities 25,776 102,119 Net increase (decrease) in cash and cash equivalents ( 39,015 ) 35,328 Cash and cash equivalents, beginning of period 115,069 79,741 Cash and cash equivalents, end of period $ 76,054 $ 115,069 Supplementary disclosure of cash flow informati Cash paid for interest $ 630 $ — Amounts included in accrued expenses and accounts payable related to property and equipment $ 134 $ 471 Supplementary disclosure of noncash investing and financing activities Warrants issued with long-term debt $ 1,016 $ — The accompanying notes are an integral part of these financial statements. F- 6 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS 1. Organization Alaunos Therapeutics, Inc., which is referred to herein as “Alaunos,” or the “Company,” is a clinical-stage oncology-focused cell therapy company developing adoptive TCR therapies, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. On January 25, 2022, the Company changed its corporate name from Ziopharm Oncology, Inc. to Alaunos Therapeutics, Inc. The Company is leveraging its proprietary, non-viral Sleeping Beauty gene transfer platform and its novel cancer mutation hotspot TCR library to design and manufacture personalized cell therapies that target neoantigens arising from common tumor-related mutations in key oncogenic genes, including KRAS, TP53, and EGFR. The Company’s operations to date have consisted primarily of conducting research and development and raising capital to fund those efforts. In May 2021, the Company announced that it will be winding down its existing Controlled IL-12 clinical program for the treatment of recurrent glioblastoma multiforme. The Company will continue to seek a partner for this program and has also begun exploring potential synergies between this technology and its cell therapy programs. Costs incurred during the year ended December 31, 2021 under the program wind-down have not been material. The Company has operated at a loss since its inception in 2003 and has no recurring revenue from operations. The Company anticipates that losses will continue for the foreseeable future. As of December 31, 2021, the Company had approximately $ 76.1 million of cash and cash equivalents. The Company’s accumulated deficit at December 31, 2021 was approximately $ 842.9 million. Given its current development plans and cash management efforts, the Company anticipates cash resources will be sufficient to fund operations into the second quarter of 2023. The Company’s ability to continue operations after its current cash resources are exhausted depends on its ability to obtain additional financing or to achieve profitable operations, as to which no assurances can be given. Cash requirements may vary materially from those now planned because of changes in the Company’s focus and direction of its research and development programs, competitive and technical advances, patent developments, regulatory changes or other developments. If adequate additional funds are not available when required, or if the Company is unsuccessful in entering into partnership agreements for further development of its product candidates, management may need to curtail its development efforts and planned operations to conserve cash. The Company’s amended and restated certificate of incorporation authorizes it to issue 350,000,000 shares of common stock. As of December 31, 2021, there were 216,127,443 shares of common stock outstanding and an additional 33,620,711 shares of common stock reserved for issuance pursuant to outstanding stock options and warrants. F- 7 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS 2. Financings 2021 Loan and Security Agreement On August 6, 2021, the Company entered into a Loan and Security Agreement with Silicon Valley Bank and affiliates of Silicon Valley Bank (collectively, "SVB") (the "Loan and Security Agreement"). The Loan and Security Agreement provided for an initial term loan of $ 25.0 million funded at the closing ("Term A Tranche"), with an additional tranche of $ 25.0 million available if certain funding and clinical milestones were met by August 31, 2022 ("Term B Tranche"). Effective December 28, 2021, the Company, entered into a First Amendment (the “Amendment”) to the Loan and Security Agreement (the "Amended Loan and Security Agreement"). The Amended Loan and Security Agreement extends the interest-only period through August 31, 2022, and provides for an automatic extension through August 31, 2023, if certain funding and clinical milestones are met by August 31, 2022 (the “Amended Milestones”). The Amendment eliminated the Term B Tranche, which remained unfunded, leaving only the Term A Tranche (the "SVB Facility"). Under the Amended Loan and Security Agreement, the SVB Facility will mature on August 1, 2023; however, if the Company achieves the Amended Milestones on or prior to August 31, 2022, then the maturity will automatically extend to August 1, 2024. Please refer to Note 4, Debt, for further discussion of the Loan and Security Agreement and the Amended Loan and Security Agreement. February 2020 Public Offering On February 5, 2020, the Company issued and sold 27,826,086 shares of its common stock at an offering price to the public of $ 3.25 per share, for aggregate net proceeds of approximately $ 84.8 million after deducting underwriting discounts and offering expenses paid by the Company. The offering was made pursuant to the Company's effective registration statement on Form S-3ASR (File No. 333-232283) previously filed with the Securities and Exchange Commission (the “SEC”) and a prospectus supplement thereunder. On March 10, 2020, the underwriters exercised their option to purchase an additional 1,284,025 shares. The net proceeds were approximately $ 3.9 million after deducting underwriting discounts and offering expenses paid by us. At-the-Market Offering Program In June 2019, the Company entered into an Open Market Sale Agreement (the "Sales Agreement") with Jefferies, pursuant to which the Company may offer and sell, from time to time through Jefferies, shares of its common stock having an aggregate offering price of up to $ 100.0 million. Shares will be sold pursuant to the Company’s effective registration statement on Form S-3ASR (File No. 333-232283), as previously filed with the SEC. There were no sales under the Sales Agreement during the year ended December 31, 2021. D uring the year ended December 31, 2020, the Company issued and sold an aggregate of 2,814,673 shares for aggregate net proceeds of approximately $ 13.0 million after deducting underwriting discounts and offering expenses payable by us. 3. Summary of Significant Accounting Policies Basis of Presentation The accompanying financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP. Use of Estimates The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Although the Company regularly assesses these estimates, actual results could differ from those estimates. Changes in estimates are recorded in the period in which they become known. The Company’s most significant estimates and judgments used in the preparation of the financial statements F- 8 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS • Clinical trial expenses and other research and development expenses; • Collaboration agreements; • Fair value measurements of stock-based compensation; and • Income taxes. Impact of COVID-19 Pandemic With the ongoing COVID-19 pandemic, the Company has implemented business continuity plans designed to address and mitigate the impact of the COVID-19 pandemic on its business and operations. The Company continues to evaluate the impact of the COVID-19 global pandemic on patients, healthcare providers and its employees, as well as its operations and the operations of its business partners and healthcare communities. In response to the COVID-19 pandemic, the Company has implemented policies at its locations to mitigate the risk of exposure to COVID-19 by its personnel, including restrictions on the number of staff in any given research and development laboratory and a work-from-home policy applicable to the majority of its personnel. The extent to which the COVID-19 pandemic impacts the Company’s business, clinical development and regulatory efforts and the value of its common stock, will depend on future developments that are highly uncertain and cannot be predicted with confidence at this time, such as the ultimate duration of the pandemic, travel restrictions, quarantines, social distancing and business closure requirements, and the effectiveness of actions taken globally to contain and treat the disease. The global economic slowdown, the overall disruption of global healthcare systems and the other risks and uncertainties associated with the COVID-19 pandemic could have a material adverse effect on the Company’s business, financial condition, results of operations and growth prospects. Subsequent Events The Company evaluated all events and transactions that occurred after the balance sheet date through the date of the Annual Report. The Company did not have any material subsequent events that impacted its financial statements or disclosures. Organizational Changes On February 25, 2021, the Company announced that Heidi Hagen, formerly the Lead Independent Director, was appointed Interim Chief Executive Officer, replacing Laurence Cooper, M.D., Ph.D. Ms. Hagen also remained a member of the board of directors. Dr. Cooper also stepped down from his seat on the board of directors and has continued to support the Company’s research and development, or “R&D,” programs as a consultant. On August 22, 2021, the board of directors appointed Kevin S. Boyle, Sr., as Chief Executive Officer of the Company, effective August 30, 2021. Effective upon Mr. Boyle's employment, Ms. Hagen resigned as the Company's Interim Chief Executive Officer but continued to serve as a member of the board of directors. Ms. Hagen resigned as member of the board of directors effective November 2, 2021. On November 4, 2021, the Company provided written notice of termination of the consulting agreement by and between the Company and Danforth Advisors, LLC, a financial consultancy firm specializing in working with life sciences companies (the “Cunningham Consulting Agreement”). Pursuant to the terms of the Cunningham Consulting Agreement, Tim Cunningham, the Company’s interim Chief Financial Officer and principal financial officer, provided services to the Company. Cash and Cash Equivalents Cash equivalents consist primarily of demand deposit accounts, certificates of deposit and deposits in short-term U.S. treasury money market mutual funds. Cash equivalents are stated at cost, which approximates fair market value. Concentrations of Credit Risk Financial instruments which potentially subject the Company to concentrations of credit risk consist principally of cash and cash equivalents. The Company maintains cash accounts in commercial banks, which may, at times, exceed federally insured limits. The Company has not experienced any losses in such accounts. The Company believes it is not exposed to any significant credit risk on cash and cash equivalents. Property and Equipment F- 9 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS Property and equipment are stated at cost, less accumulated depreciation and amortization. Expenditures for maintenance and repairs are charged to expense while the costs of significant improvements are capitalized. Depreciation and amortization is calculated on a straight-line basis using the following periods, which represent the estimated useful lives of the assets: ● Office and computer equipment 3 years ● Software 3 years ● Laboratory equipment 5 years ● Leasehold improvements Life of the lease Costs, including certain design, construction and installation costs related to assets that are under construction and are in the process of being readied for their intended use, are recorded as construction in progress and are not depreciated until such time as the subject asset is placed in service. Repairs and maintenance that do not extend the useful life of the asset are expensed as incurred. Upon sale, retirement, or other disposition of these assets, the costs and related accumulated depreciation are removed from the respective accounts and any gain or loss on the disposition is included on its Statements of Operations. Long-Lived Assets Assessments of long-lived assets and the remaining useful lives of such long-lived assets are reviewed for impairment whenever a triggering event occurs or changes in circumstances indicate that the carrying amount of the assets may not be recoverable. An asset, or group of assets, are considered to be impaired when the undiscounted estimated net cash flows expected to be generated by the asset, or group of assets, are less than its carrying amount. The impairment recognized is the amount by which the carrying amount exceeds the fair market value of the impaired asset, or group of assets, based on the present value of the expected future cash flows associated with the use of the asset. Operating Segments Operating segments are identified as components of an enterprise about which separate discrete financial information is available for evaluation by the chief operating decision maker, the Company’s chief operating decision maker, in making decisions regarding resource allocation and assessing performance. The Company views its operations and manages its business in one operating segment and does not track expenses on a program-by-program basis. Warrants The Company assesses whether warrants issued require accounting as derivatives. The Company determined that the warrants were (1) indexed to the Company’s own stock and (2) classified in stockholders’ equity in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 815, Derivatives and Hedging . As such, the Company has concluded the warrants meet the scope exception for determining whether the instruments require accounting as derivatives and should be classified in stockholders’ equity. Fair Value Measurements The Company has certain financial assets and liabilities recorded at fair value which have been classified as Level 1, 2 or 3 within the fair value hierarchy as described in the accounting standards for fair value measurements. • Level 1—Quoted prices in active markets for identical assets or liabilities. • Level 2—Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. • Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Assets and liabilities measured at fair value on a recurring and nonrecurring basis as of December 31, 2021 and 2020 are as follows: F- 10 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of December 31, 2021 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 75,222 $ 75,222 $ — $ — ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of December 31, 2020 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 75,990 $ 75,990 $ — $ — The cash equivalents represent demand deposit accounts and deposits in a short-term United States treasury money market mutual fund quoted in an active market and classified as a Level 1 asset. Fair value of non-financial instruments The Company evaluates its assets for impairment whenever events or changes in circumstances indicate that indicators of impairment exist. In those evaluations, the Company compares estimated future undiscounted cash flows generated by each asset (or asset group) to the carrying value of the asset (or asset group) to determine if an impairment charge is required. If the undiscounted cash flows test fails, the Company estimates the fair value of the asset (or asset group) to determine the impairment. During 2021, following the Company's strategic restructuring and further cost reduction initiatives, the Company determined that changes in the intended use of its Boston office represented an indicator of impairment, resulting in an impairment charge of $ 0.6 million to the right-of-use asset. In addition, the Company impaired approximately $ 0.1 million of leasehold improvements and various other assets associated with its decision to close the Company's Boston office. Refer to Note 8 for further details. Revenue Recognition from Collaboration Agreements Revenue for the year ended December 31, 2021 consisted of $0.4 million and for the year ended December 31, 2020 consisted of $ 0 . For the year ended December 31, 2021, the Company recognized revenue through its Collaboration Agreement with Solasia Pharma K.K. due to the achievement of a milestone, as further described in Note 9, Commitments and Contingencies. The Company primarily generates revenue through collaboration arrangements with strategic partners for the development and commercialization of product candidates. The Company recognizes revenue in accordance with ASC 606, Revenue from Contracts with Customers (“ASC 606”). The core principle of ASC 606 is that an entity should recognize revenue to depict the transfer of promised goods and/or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods and/or services. To determine the appropriate amount of revenue to be recognized for arrangements that the Company determines are within the scope of ASC 606, the Company performs the following steps: (i) identify the contract(s) with the customer, (ii) identify the performance obligations in the contract, (iii) determine the transaction price, (iv) allocate the transaction price to the performance obligations in the contract and (v) recognize revenue when (or as) each performance obligation is satisfied. The Company recognizes collaboration revenue under certain of the Company’s license or collaboration agreements that are within the scope of ASC 606. The Company’s contracts with customers typically include promises related to licenses to intellectual property, research and development services and options to purchase additional goods and/or services. If the license to the Company’s intellectual property is determined to be distinct from the other performance obligations identified in the arrangement, the Company recognizes revenue from non-refundable, up-front fees allocated to the license when the license is transferred to the licensee and the licensee is able to use and benefit from the license. For licenses that are bundled with other promises, the Company utilizes judgement to assess the nature of the combined performance obligation to determine whether the combined performance obligation is satisfied over time or at a point in time and, if over time, the appropriate method of measuring progress for purposes of recognizing revenue from non-refundable, up-front fees. F- 11 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS Contracts that include an option to acquire additional goods and/or services are evaluated to determine if such option provides a material right to the customer that it would not have received without entering into the contract. If so, the option is accounted for as a separate performance obligation. If not, the option is considered a marketing offer which would be accounted for as a separate contract upon the customer’s election. The terms of the Company’s arrangements with customers typically include the payment of one or more of the followin(i) non-refundable, up-front payment, (ii) development, regulatory and commercial milestone payments, (iii) future options and (iv) royalties on net sales of licensed products. Accordingly, the transaction price is generally comprised of a fixed fee due at contract inception and variable consideration in the form of milestone payments due upon the achievement of specified events and tiered royalties earned when customers recognize net sales of licensed products. The Company measures the transaction price based on the amount of consideration to which it expects to be entitled in exchange for transferring the promised goods and/or services to the customer. The Company utilizes the most likely amount method to estimate the amount of variable consideration, to predict the amount of consideration to which it will be entitled. Amounts of variable consideration are included in the transaction price to the extent that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the variable consideration is subsequently resolved. At the inception of each arrangement that includes development and regulatory milestone payments, the Company evaluates whether the associated event is considered probable of achievement and estimates the amount to be included in the transaction price using the most likely amount method. Milestone payments that are not within the control of the Company or the licensee, such as those dependent upon receipt of regulatory approval, are not considered to be probable of achievement until the triggering event occurs. At the end of each reporting period, the Company reevaluates the probability of achievement of each milestone and any related constraint, and if necessary, adjusts its estimate of the overall transaction price. Any such adjustments are recorded on a cumulative catch-up basis, which would affect revenue and net loss in the period of adjustment. For arrangements that include sales-based royalties, including milestone payments based upon the achievement of a certain level of product sales, the Company recognizes revenue upon the later o (i) when the related sales occur or (ii) when the performance obligation to which some or all of the payment has been allocated has been satisfied (or partially satisfied). Consideration that would be received for optional goods and/or services is excluded from the transaction price at contract inception. The Company allocates the transaction price to each performance obligation identified in the contract on a relative standalone selling price basis. However, certain components of variable consideration are allocated specifically to one or more particular performance obligations in a contract to the extent both of the following criteria are (i) the terms of the payment relate specifically to the efforts to satisfy the performance obligation or transfer the distinct good or service and (ii) allocating the variable amount of consideration entirely to the performance obligation or the distinct good or service is consistent with the allocation objective of the standard whereby the amount allocated depicts the amount of consideration to which the entity expects to be entitled in exchange for transferring the promised goods or services. The Company develops assumptions that require the use of judgment to determine the standalone selling price for each performance obligation identified in each contract. The key assumptions utilized in determining the standalone selling price for each performance obligation may include forecasted revenue, development timelines, estimated research and development costs, discount rates, likelihood of exercise and probabilities of technical and regulatory success. Revenue is recognized based on the amount of the transaction price that is allocated to each respective performance obligation when or as the performance obligation is satisfied by transferring a promised good and/or service to the customer. For performance obligations that are satisfied over time, the Company recognizes revenue by measuring the progress toward complete satisfaction of the performance obligation using a single method of measuring progress which depicts the performance in transferring control of the associated goods and/or services to the customer. The Company uses input methods to measure the progress toward the complete satisfaction of performance obligations satisfied over time. The Company evaluates the measure of progress each reporting period and, if necessary, adjusts the measure of performance and related revenue recognition. Any such adjustments are recorded on a cumulative catch-up basis, which would affect revenue and net loss in the period of adjustment. Research and Development Costs As part of the process of preparing the Company's financial statements, the Company is required to estimate its accrued research and development expenses. This process involves reviewing open contracts and purchase orders, communicating with its personnel to identify services that have been performed on its behalf and estimating the level of service performed and the associated costs incurred for the services when the Company has not yet been invoiced or otherwise notified of the actual costs. The majority of the Company's service providers invoice the Company in arrears for services performed, on a predetermined schedule or when contractual milestones are met; however, a few require advanced payments. The Company makes estimates of its accrued expenses as of each balance sheet date in its financial statements based on facts and circumstances known to it at that time. Examples of estimated accrued research and development expenses include fees paid t • clinical research organizations, or CROs, in connection with performing research services on its behalf and clinical trials, F- 12 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS • investigative sites or other providers in connection with clinical trials, • vendors in connection with preclinical and clinical development activities, and • vendors related to product manufacturing, development, and distribution of preclinical and clinical supplies. The Company bases its expenses related to preclinical studies and clinical trials on its estimates of the services received and efforts expended pursuant to quotes and contracts with multiple CROs that conduct and manage clinical trials on its behalf. The financial terms of these agreements are subject to negotiation, vary from contract to contract and may result in uneven payment flows. There may be instances in which payments made to the Company's vendors will exceed the level of services provided and result in a prepayment of the clinical expense. Payments under some of these contracts depend on factors such as the completion of clinical trial milestones. In accruing service fees, the Company estimates the time period over which services will be performed, enrollment of patients, number of sites activated and the level of effort to be expended in each period. If the actual timing of the performance of services or the level of effort varies from its estimate, the Company adjusts the accrual or amount of prepaid expense accordingly. Although the Company does not expect its estimates to be materially different from amounts actually incurred, its understanding of the status and timing of services performed relative to the actual status and timing of services performed may vary and may result in it reporting amounts that are too high or too low in any particular period. To date, the Company has not made any material adjustments to its prior estimates of accrued research and development expenses. Income Taxes Income taxes are accounted for under the liability method. Deferred tax assets and liabilities are recognized for the estimated future tax consequences of temporary differences between the financial statement carrying amounts and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the year in which the temporary differences are expected to be recovered or settled. The Company evaluates the realizability of its deferred tax assets and establishes a valuation allowance when it is more likely than not that all or a portion of deferred tax assets will not be realized. The Company accounts for uncertain tax positions using a “more-likely-than-not” threshold for recognizing and resolving uncertain tax positions. The evaluation of uncertain tax positions is based on factors including, but not limited to, changes in tax law, the measurement of tax positions taken or expected to be taken in tax returns, the effective settlement of matters subject to audit, new audit activity and changes in facts or circumstances related to a tax position. The Company evaluates this tax position on an annual basis. The Company also accrues for potential interest and penalties, related to unrecognized tax benefits in income tax expense (Note 12). Accounting for Stock-Based Compensation Stock-based compensation cost is measured at the grant date, based on the estimated fair value of the award, and is recognized as expense over the employee’s requisite service period. Stock-based compensation expense is based on the number of awards ultimately expected to vest and is reduced for forfeitures as they occur. Consistent with prior years, the Company uses the Black-Scholes option pricing model which requires estimates of the expected term option holders will retain their options before exercising them and the estimated volatility of the Company’s common stock price over the expected term. The Company recognizes the full impact of its share-based employee payment plans in the statements of operations for each of the years ended December 31, 2021 and 2020 and did not capitalize any such costs on the balance sheets. The Company recognized $ 7.4 million of compensation expense related to stock options for the year ended December 31, 2021 and $ 4.3 million of compensation expense related to stock options for the year ended December 31, 2020. The Company recognized $ 3.4 million of compensation expense, related to restricted stock for the year ended December 31, 2021 and $ 2.5 million for the year ended December 31, 2020 (Note 13). The total compensation expense relating to vesting of stock options and restricted stock awards for the year ended December 31, 2021 was $ 10.8 million and $ 6.8 million for the year ended December 31, 2020. The following table presents share-based compensation expense included in the Company’s Statements of Operatio Year ended December 31, ($ in thousands) 2021 2020 Research and development $ 2,598 $ 2,098 General and administrative 8,176 4,731 Share based employee compensation expense 10,774 6,829 F- 13 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS The fair value of each stock option is estimated at the date of grant using the Black-Scholes option pricing model. The estimated weighted-average fair value of stock options granted to employees in 2021 was approximately $ 2.62 per share and was approximately $ 2.15 per share for the year ended December 31, 2020. Assumptions regarding volatility, expected term, dividend yield and risk-free interest rate are required for the Black-Scholes model. The volatility assumption is based on the Company’s historical experience. The risk-free interest rate is based on a U.S. treasury note with a maturity similar to the option award’s expected life. The expected life represents the average period of time that options granted are expected to be outstanding. The Company calculated expected term using the simplified method described in SEC Staff Accounting Bulletin, or SAB, No. 107 and No. 110 as it continues to meet the requirements promulgated in SAB No. 110. The assumptions for volatility, expected life, dividend yield and risk-free interest rate are presented in the table be 2021 2020 Risk-free interest rate 0.50 - 1.36 % 0.36 - 1.68 % Expected life in years 5.50 - 6.25 5.75 - 6.25 Expected volatility 72.53 - 74.80 % 71.11 - 74.41 % Expected dividend yield - - Net Loss per Share Basic net loss per common share is computed by dividing net loss applicable to common stockholders by the weighted average number of shares of common stock outstanding for the period. Diluted net loss per share is computed using the weighted-average number of shares of common stock outstanding during the period, plus the dilutive effect of outstanding options and warrants, using the treasury stock method and the average market price of the Company’s common stock during the applicable period, unless their effect on net loss per share is antidilutive. The effect of computing diluted net loss per common share was antidilutive for any potentially issuable shares of common stock from the conversion of stock options, unvested restricted stock and warrants and, as such, have been excluded from the calculation. The computation of basic and diluted net loss per share consists of the followin For the Year Ended December 31, 2021 2020 Net loss $ ( 78,751 ) $ ( 79,976 ) Weighted-average common shares outstanding, basic and diluted 214,399,074 209,636,456 Net loss per share, basic and diluted $ ( 0.37 ) $ ( 0.38 ) Certain shares related to some of the Company’s outstanding common stock options, unvested restricted stock and warrants have not been included in the computation of diluted net loss per share for the years ended December 31, 2021 and 2020 as the result would be antidilutive. Such potential common shares on December 31, 2021 and 2020 consist of the followin December 31, 2021 2020 Stock options 10,665,869 6,832,386 Inducement stock options 32,500 588,333 Unvested restricted stock 1,198,580 786,280 Warrants 22,922,342 22,272,727 34,819,291 30,479,726 New Accounting Pronouncements In December 2019, the FASB issued ASU 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes , which is intended to simplify various aspects related to accounting for income taxes. ASU 2019-12 removes certain exceptions to the general principles in ASC 740 and also clarifies and amends existing guidance to improve consistent application. The Company adopted this standard effective January 1, 2021, with no material impact upon adoptio n. 4. Debt The carrying values of the Company's debt obligation were as follows: F- 14 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS December 31, ($ in thousands) 2021 Loan and Security Agreement $ 25,209 Unamortized discount on Loan and Security Agreement ( 1,091 ) Total debt 24,118 L current portion of long-term debt ( 7,868 ) Long-term debt $ 16,250 On August 6, 2021, the Company entered into a Loan and Security Agreement with SVB, or the Loan and Security Agreement. The Loan and Security Agreement provided for an initial term loan of $ 25.0 million funded at the closing, with an additional tranche of $ 25.0 million available if certain funding and clinical milestones were met by August 31, 2022. On December 28, 2021, the Company entered into a First Amendment, (the “Amendment”) to the Loan and Security Agreement (the “Amended Loan and Security Agreement”). Under the terms of the Amended Loan and Security Agreement, the SVB Facility was modified to eliminate the additional $25.0 million tranche, which remained unfunded, leaving only the initial $25.0 million as the full amount available under the SVB Facility. The SVB Facility bears interest at a floating rate per annum on outstanding loans, payable monthly, at the greater of (a) 7.75 % and (b) the current published U.S. prime rate, plus a margin of 4.5 % . As of December 31, 2021, interest on the outstanding loans was 7.75 %. The Amended Loan and Security Agreement provides for an interest-only period which extends through August 31, 2022 and may be automatically extended through August 31, 2023 if, on or prior to August 31, 2022, SVB receives evidence satisfactory to it, confirming that the Company has (i) received at least $ 50.0 million in net cash proceeds from the sale of the Company’s equity securities after the date of the Amended Loan and Security Agreement, on terms and conditions acceptable to SVB, and (ii) achieved positive data in the first cohort of the Library TCR-T Trial endorsed by an independent safety monitoring committee as a safe dose to proceed (together, the “Amended Milestones”). After the interest-only payment period, aggregate outstanding borrowings are payable in twelve consecutive, equal monthly installments of principal plus accrued interest. All outstanding principal and accrued and unpaid interest under the SVB Facility and all other outstanding obligations under the Amended Loan and Security Agreement are due and payable on August 1, 2023 ; however, if the Company achieves the Amended Milestones on or prior to August 31, 2022, then the maturity will be automatically extended to August 1, 2024 . In addition to the payment of the outstanding principal plus accrued interest due, the Company will also owe SVB 5.75 % of the original principal amounts borrowed as a final payment. We are permitted to make up to two prepayments, subject to the prepayment premium, of the SVB Facility, each payment of at least $ 5.0 million. Such prepayment premium would be 3.00 % of the principal amount of the SVB Facility if prepaid prior to the first anniversary of the effective date, 2.00 % of the principal amount of the SVB Facility if prepaid on or after the first anniversary of the effective date but prior to the second anniversary of the effective date and 1.00 % of the principal amount of the SVB Facility if prepaid on or after the second anniversary of the effective date but prior to the maturity date. No amount that has been repaid may be reborrowed. The Loan and Security Agreement required the Company to cash collateralize half of the sum of the outstanding principal amount of the term loans, plus an amount equal to 5.75 % of the original principal amount of any portion of the SVB Facility actually extended, if the Company failed to achieve certain fundraising milestones on or prior to December 31, 2021. The Amended Loan and Security Agreement revised the Company's cash collateralization obligation to require the Company to cash collateralize half of the sum of only the then-outstanding principal amount of the SVB Facility, plus an amount equal to 5.75 % of the original principal amount of the SVB Facility if the Company does not achieve the Amended Milestones on or prior to August 31, 2022. In the event a cash collateralization were to occur, so long as no event of default has occurred and, after subtracting the eighth scheduled payment of principal and interest on the SVB Facility, the sum of the aggregate of outstanding principal and accrued and unpaid interest, plus the final payment, is equal to or less than $ 9,770,933 , then, within ten business days of the date of receipt of the eighth scheduled payment of principal and interest on the SVB Facility, SVB will release $ 2.5 million from the collateral account, so long as the balance in the collateral account after the release would equal or exceed $ 10.0 million. If no event of default has occurred and, after subtracting the tenth scheduled payment of principal and interest on the SVB Facility, the sum of the aggregate of outstanding principal and accrued and unpaid interest, plus the final payment, is equal to or less than $ 5,604,167 , then, within ten business days of the date of receipt of the tenth scheduled payment of principal and interest on the SVB Facility, SVB will release a further $ 4.0 million from the collateral account, so long as the balance in the collateral account after the release would equal or exceed $ 6.0 million. The SVB Facility and related obligations under the Amended Loan and Security Agreement are secured by substantially all of the Company’s properties, rights and assets, except for its intellectual property (which is subject to a negative pledge under the Amended Loan and Security Agreement). In addition, the Amended Loan and Security Agreement contains customary representations, warranties, events of default and covenants. F- 15 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS In connection with its entry into the Loan and Security Agreement, the Company issued to SVB warrants to purchase (i) up to 432,844 shares of the Company’s common stock, par value $ 0.001 per share in the aggregate, and (ii) up to an additional 432,842 shares of common stock, in the aggregate, in the event the Company achieves certain clinical milestones, in each case at an exercise price per share of $ 2.22 . In connection with the entry into the Amendment, the Company amended and restated the warrants issued to SVB. As amended and restated, the warrants are for up to 649,615 shares of the Company's common stock, in the aggregate, at an exercise price per share of $ 1.16 , or the SVB Warrants. The SVB Warrants expire on August 6, 2031 . The issuance costs for the Loan and Security Agreement, including the Amended Loan and Security Agreement, were approximately $ 1.2 million and primarily related to the warrants issued to SVB, which will be amortized into interest expense over the period to August 1, 2023 . Interest expense, including the amortization of issuance costs, was $ 1.2 million for the year ended December 31, 2021. The fair value of the Amended Loan and Security Agreement as of December 31, 2021 approximates its face value due to proximity to the transaction. 5. Property and Equipment, net Property and equipment, net, consists of the followin December 31, ($ in thousands) 2021 2020 Office and computer equipment $ 2,534 $ 869 Software 1,236 1,153 Leasehold improvements 9,474 7,457 Laboratory equipment 5,110 5,401 Construction-in-progress — 313 18,354 15,193 L accumulated depreciation ( 7,413 ) ( 4,962 ) Property and equipment, net $ 10,941 $ 10,231 Depreciation expense charged to the statement of operations for the year ended December 31, 2021 was $ 2.6 million and was $ 1.1 million for the year ended December 31, 2020. During the year ended December 31, 2021, the Company impaired property and equipment by $ 0.1 million. Refer to Note 3, Summary of Significant Accounting Policies , for further details. 6. Accrued Expenses Accrued expenses consist of the followin ($ in thousands) 2021 2020 Clinical $ 1,677 $ 4,450 Employee compensation 1,695 3,298 Professional services 825 3,993 Preclinical services 363 749 Manufacturing services 1,056 3,159 Accrued vacation 227 725 Payroll taxes and benefits — 16 Other consulting services 66 199 Other 167 — $ 6,076 $ 16,589 F- 16 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS 7. Related Party Transactions Collaboration with PGEN and MD Anderson On January 13, 2015, the Company, together with Precigen, entered into the MD Anderson License with MD Anderson (which Precigen subsequently assigned to PGEN). Pursuant to the MD Anderson License, the company, together with PGEN, hold an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR T-cell therapies, non-viral gene transfer systems, genetic modification and/or propagation of immune cells and other cellular therapy approaches, Natural Killer, or NK Cells, and TCRs, arising from the laboratory of Laurence Cooper, M.D., Ph.D., who served as the Company’s Chief Executive Officer from May 2015 to February 2021 and was formerly a tenured professor of pediatrics at MD Anderson. In partial consideration for entering into the MD Anderson License, the Company issued MD Anderson an aggregate of 11,722,163 shares of common stock for which the Company incurred a $ 67.3 million charge recorded in 2015. During the year ended December 31, 2021, the Company made payments of $ 0.1 million to MD Anderson compared to $ 0 during the year ended December 31, 2020. The net balance of cash resources on hand at MD Anderson available to offset expenses and future costs for the year ended December 31, 2021 was $ 0 and for the year ended December 31, 2020 was $ 8.1 million, which is included in other current assets on the Company’s balance sheet. Collaboration with Vineti Inc. On July 9, 2020, the Company entered into a master service agreement and statement of work with Vineti, Inc., ("Vineti"). Pursuant to the agreements, Vineti is developing a software platform to coordinate and orchestrate the order, cell collection and manufacturing process for the Company’s T-cell therapy, or TCR-T, clinical programs. Heidi Hagen, who became a director of the Company in June 2019 and resigned November 2, 2021 and the Company's Interim Chief Executive Officer on February 25, 2021 and resigned on August 30, 2021, is a co-founder and former officer, of Vineti. During the year ended December 31, 2021, the Company recorded expenses of approximately $ 0.4 million and during the year ended December 31, 2020, the Company recorded expenses of approximately $ 29,000 , for services performed by Vineti. WaterMill Settlement Agreement On February 4, 2021, the Company entered into an agreement, or the Settlement Agreement, with WaterMill Asset Management Corp. and Robert W. Postma (collectively, the "WaterMill Parties"). Pursuant to the Settlement Agreement, the Company increased the size of its board of directors from eight to nine directors and appointed Mr. Postma to fill the newly created directorship. In accordance with the Settlement Agreement, we agreed to reimburse the WaterMill Parties for up to $400,000 of their reasonable out-of-pocket expenses out of a total of approximately $ 650,000 in fees and expenses actually incurred by the WaterMill Parties in connection with (i) the WaterMill Parties' solicitation of written consents from our stockholders to vote in favor of certain proposals, as set forth in the definitive consent statement filed by the WaterMill Parties on October 30, 2020, and (ii) the negotiation, execution, and effectuation of the Settlement Agreement. As of February 19, 2021, we have fully reimbursed the WaterMill Parties an aggregate amount of $ 400,000 . Joint Venture with TriArm Therapeutics/Eden BioCell On December 18, 2018, the Company and TriArm Therapeutics, Ltd. (“TriArm”) launched Eden BioCell, Ltd. (“Eden BioCell”) as a joint venture to lead commercialization of the Company’s Sleeping Beauty -generated CAR-T therapies in the People’s Republic of China (including Macau and Hong Kong), Taiwan and Korea. The Company licensed to Eden BioCell the rights in Greater China for its third-generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen. Eden BioCell is owned equally by the Company and TriArm and the parties share decision-making authority. TriArm has contributed $ 10.0 million to Eden BioCell and has committed up to an additional $ 25.0 million to this joint venture. TriArm also manages all clinical development in the territory pursuant to a Master Services Agreement between TriArm and Eden BioCell. James Huang, who became a director of the Company in July 2020, Chairman of the board of directors in January 2021, and Executive Chairman in February 2021, was the founder and serves as managing partner of Panacea Venture, which is an investor in TriArm. Mr. Huang also serves as a member of Eden BioCell’s board of directors. For the years ended December 31, 2021 and 2020, Eden BioCell incurred a net loss and the Company continues to have no commitment to fund its operations. In September 2021, TriArm and Alaunos mutually agreed to dissolve the Eden BioCell joint venture. Refer to Note 15, Joint Venture , for further details. F- 17 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS 8. Leases Operating Leases In June 2012, the Company entered into a master lease for the Company’s office in Boston, Massachusetts, which was originally set to expire in August 2016 , but renewed through August 31, 2021. On April 22, 2021, the Company extended its lease for a portion of office space currently held at the Company's office space in Boston. The renewal of the portion of the Company's office space was originally set to expire on August 31, 2021, but has now been extended through August 31, 2026 . As of December 31, 2021, and December 31, 2020, a total security deposit of $ 0.1 million is included in deposits on the Company’s balance sheet. In December 2021, the Company made the decision to move its operations away from its former corporate office in Boston. As described in Note 3, Summary of Significant Accounting Policies, the Company's change in the intended use of the Boston office represented an indicator of impairment. We determined the aggregate carrying value of the asset group (approximately $ 1.4 million) was in excess of the aggregate estimated fair value and recorded an impairment charge of $ 0.6 million to the right-of-use asset and approximately $ 0.1 million to associated property and equipment. The fair value was determined based on the amount and timing of estimated net future cash flows, discounted at a risk-adjusted rate of 10 %. The Boston office has been fully vacated as of December 31, 2021. On January 30, 2018, the Company entered into a lease agreement for office space in Houston, Texas at MD Anderson. Under the terms of the Houston lease agreement, the Company leased approximately 210 square feet and was required to make rental payments at an average monthly rate of approximately $ 1,000 . This lease was terminated effective March 31, 2020. On March 12, 2019, the Company entered into a lease agreement for office and lab space in Houston, Texas at MD Anderson through April 2021 . Under the terms of the lease agreement, the Company leases approximately 1,038 square feet and was required to make rental payments at an average monthly rate of approximately $ 2,000 through April 2021. On October 15, 2019, the Company entered into a lease agreement for additional office and laboratory space in Houston through February 2027 . Under the terms of the lease, the Company leases from MD Anderson, approximately 8,443 square feet and is initially required to make rental payments of approximately $ 17,000 per month through February 2027, subject to an annual base rent increase of approximately 3.0 % throughout the term. Effective April 7, 2020, the Company leased an additional 5,594 square feet from MD Anderson. The Company is initially required to make rental payments of approximately $ 12,000 per month through February 2027 , subject to an annual base rent increase of approximately 3.0 % throughout the term. On December 15, 2020, we entered into a second agreement with MD Anderson to lease additional space on MD Anderson’s campus (the “2020 Lease”). As of December 31, 2021, the Company has approximately 32,148 square feet under lease from MD Anderson. The Company is initially required to make rental payments of approximately $ 37,000 per month through April 2028, subject to an annual base rent increase of approximately 3.0 % throughout the term beginning in April 2023. The 2020 Lease may be extended for one additional five-year term at our election. The components of lease expense were as follows: Year Ended December 31, ($ in thousands) 2021 2020 Operating lease cost $ 1,394 $ 1,054 Total lease cost $ 1,394 $ 1,054 Weighted-average remaining lease term (years) 5.58 6.19 Weighted-average discount rate 8.00 % 8.00 % Cash paid for amounts included in the measurement of the lease liabilities were $ 1.3 million for the year-ended December 31, 2021. The Company recognized new operating lease assets obtained in exchange for operating lease liabilities of $ 1.4 million for the year-ended December 31, 2021. As of December 31, 2021, the maturities of the Company’s operating lease liabilities were as follows (in thousands): F- 18 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS Maturity of Lease Liabilities Operating Leases 2022 1,102 2023 1,132 2024 1,166 2025 1,201 2026 1,121 Thereafter 752 Total lease payments 6,474 L imputed interest ( 1,227 ) Present value of lease payments $ 5,247 9. Commitments and Contingencies License Agreements Exclusive License Agreement with PGEN Therapeutics On October 5, 2018, the Company entered into an exclusive license agreement, or License Agreement, with PGEN Therapeutics, or PGEN, a wholly owned subsidiary of Precigen Inc., or Precigen, which was formerly known as Intrexon Corporation. As between the Company and PGEN, the terms of the License Agreement replaced and superseded the terms o (a) that certain Exclusive Channel Partner Agreement by and between the Company and Precigen, dated January 6, 2011, as amended by the First Amendment to Exclusive Channel Partner Agreement effective September 13, 2011, the Second Amendment to the Exclusive Channel Partner Agreement effective March 27, 2015, and the Third Amendment to Exclusive Channel Partner Agreement effective June 29, 2016, which was subsequently assigned by Precigen to PGEN; (b) certain rights and obligations pursuant to that certain License and Collaboration Agreement effective March 27, 2015 between the Company, Precigen and ARES TRADING S.A., or Ares Trading, a subsidiary of Merck KGaA, or Merck, as assigned by Precigen to PGEN, or the Ares Trading Agreement; (c) that certain License Agreement between the Company, Precigen, and MD Anderson, with an effective date of January 13, 2015, or the MD Anderson License, which was subsequently assigned by Precigen and assumed by PGEN effective as of January 1, 2018; and (d) that certain research and development agreement between the Company, Precigen and MD Anderson with an effective date of August 17, 2015, or the 2015 R&D Agreement, and any amendments or statements of work thereto. Pursuant to the terms of the License Agreement, the Company has exclusive, worldwide rights to research, develop and commercialize (i) TCR products designed for neoantigens for the treatment of cancer, (ii) products utilizing Precigen’s RheoSwitch® gene switch, or RTS, for the treatment of cancer, referred to as IL-12 Products and (iii) CAR products directed to (A) CD19 for the treatment of cancer, referred to as CD19 Products, and (B) BCMA for the treatment of cancer, subject to certain obligations to pursue such target under the Ares Trading Agreement. Under the License Agreement, the Company also has exclusive, worldwide rights for certain patents relating to the Sleeping Beauty technology to research, develop and commercialize TCR products for both neoantigens and shared antigens for the treatment of cancer, referred to as TCR Products. The Company is solely responsible for all aspects of the research, development and commercialization of the exclusively licensed products for the treatment of cancer. The Company is required to use commercially reasonable efforts, as defined in the License Agreement, to develop and commercialize IL-12 products, CD19 products and TCR Products. In consideration of the licenses and other rights granted by PGEN, the Company will pay PGEN an annual license fee of $ 100,000 and the Company has agreed to reimburse PGEN for certain historical costs of the licensed programs up to $ 1.0 million, which was fully paid during the year ended December 31, 2019. The Company will make milestone payments totaling up to an additional $ 52.5 million for each exclusively licensed program upon the initiation of later stage clinical trials and upon the approval of exclusively licensed products in various jurisdictions. In addition, the Company will pay PGEN tiered royalties ranging from low-single digit to high-single digit on the net sales derived from the sales of any approved IL-12 products and CAR products. The Company will also pay PGEN royalties ranging from low-single digit to mid-single digit on the net sales derived from the sales of any approved TCR products, up to a maximum royalty amount of $ 100.0 million in the aggregate. The Company will also pay PGEN twenty percent of any sublicensing income received by us relating to the licensed products. The Company is responsible for all development costs associated with each of the licensed products. PGEN will pay the Company royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of PGEN’s CAR products, up to a maximum royalty amount of $ 100.0 million. F- 19 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS In consideration of the Company's entry into the License Agreement, Precigen has forfeited and returned to the Company all shares of the Company's Series 1 preferred stock held by or payable to Precigen. The transaction represented a capital transaction between related parties and the date of settlement was accounted for during the License Agreement year ended December 31, 2018. In October 2020, the Company entered into an amendment to the License Agreement relating to the transfer of certain materials and PGEN’s obligations to provide transition assistance relating to the IL-12 products. License Agreement and 2015 Research and Development Agreement —The University of Texas MD Anderson Cancer Center On January 13, 2015, the Company, together with Precigen, entered into the MD Anderson License with MD Anderson (which Precigen subsequently assigned to PGEN). Pursuant to the MD Anderson License, the Company, together with PGEN, holds an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR T-cell therapies, non-viral gene transfer systems, genetic modification and/or propagation of immune cells and other cellular therapy approaches, Natural Killer, or NK Cells, and TCRs, arising from the laboratory of Laurence Cooper, M.D., Ph.D., who served as the Company’s Chief Executive Officer from May 2015 until February 2021 and was formerly a tenured professor of pediatrics at MD Anderson. On August 17, 2015, the Company, Precigen and MD Anderson entered into the 2015 R&D Agreement, to formalize the scope and process for the transfer by MD Anderson, pursuant to the terms of the MD Anderson License, of certain existing research programs and related technology rights, as well as the terms and conditions for future collaborative research and development of new and ongoing research programs. The rights and obligations of Precigen under the 2015 R&D Agreement were assigned to the Company pursuant to the Fourth Amendment to 2015 R&D Agreement which was entered into on September 19, 2019 (the “Fourth Amendment”) with an effective date of October 5, 2018. The activities under the 2015 R&D Agreement are directed by a joint steering committee comprised of two members from the Company and one member from MD Anderson. As provided under the MD Anderson License, the Company provided funding for research and development activities in support of the research programs under the 2015 R&D Agreement for a period of three years and in an amount of no less than $ 15.0 million and no greater than $ 20.0 million per year. On November 14, 2017, the Company entered into an amendment to the 2015 R&D Agreement, extending its term until April 15, 2021 and on October 22, 2019, the Company entered into another amendment to the 2015 R&D Agreement, extending its term until December 31, 2026. During the year ended December 31, 2021, the Company made payments of $ 0.1 million to MD Anderson compared to $ 0 during the year ended December 31, 2020. The net balance of cash resources on hand at MD Anderson available to offset expenses and future costs for the year ended December 31, 2021 was $ 0 and for the year ended December 31, 2020 was $ 8.1 million, which is included in other current assets on the Company’s balance sheet. For the year ended December 31, 2021, we recognized $ 8.1 million in expenses related to the 2015 R&D Agreement and for the year ended December 31, 2020, we recognized $ 12.2 million in expenses related to the 2015 R&D Agreement. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder, or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term of the MD Anderson License, the Company, together with Precigen, shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After ten years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if the Company and Precigen are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if the Company and Precigen are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by the Company and Precigen, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both the Company and Precigen and may be terminated by the mutual written agreement of the Company, PGEN, and MD Anderson. In connection with the execution of the 2019 R&D Agreement described below, on October 22, 2019, the Company amended the 2015 R&D Agreement to extend the term of the 2015 R&D Agreement until December 31, 2026 and to allow cash resources on hand at MD Anderson under the 2015 R&D Agreement to be used for development costs under the 2019 R&D Agreement. 2019 Research and Development Agreement—The University of Texas MD Anderson Cancer Center F- 20 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS On October 22, 2019, we entered into the 2019 Research and Development Agreement, or the 2019 R&D Agreement, with MD Anderson, pursuant to which the parties agreed to collaborate with respect to the TCR program. Under the 2019 R&D Agreement, the parties will, among other things, collaborate on programs to expand our TCR library and conduct clinical trials. The activities under the 2019 R&D Agreement are directed by a joint steering committee comprised of two members from our company and one member from MD Anderson. We will own all inventions and intellectual property developed under the 2019 R&D Agreement and we will retain all rights to intellectual property for oncology products manufactured using non-viral gene transfer technologies under the 2019 R&D Agreement, including our Sleeping Beauty technology. We have granted MD Anderson an exclusive license for such intellectual property outside the field of oncology and to develop and commercialize TCR products manufactured using viral gene transfer technologies, and a non-exclusive license for TCR products manufactured using viral-based technologies. Under the 2019 R&D Agreement, we agreed, beginning on January 1, 2021, to reimburse MD Anderson up to a total of $ 20 million for development costs under the 2019 R&D Agreement, after the funds from the 2015 R&D Agreement are exhausted. In addition, we will pay MD Anderson royalties on net sales of its TCR products at rates in the low single digits. We are required to make performance-based payments upon the successful completion of clinical and regulatory benchmarks relating to its TCR products. The aggregate potential benchmark payments are $ 36.5 million, of which only $ 3.0 million will be due prior to the first marketing approval of our TCR products. The royalty rates and benchmark payments owed to MD Anderson may be reduced upon the occurrence of certain events. We also agreed to sell our TCR products to MD Anderson at preferential prices and will sell our TCR products in Texas exclusively to MD Anderson for a limited period of time following the first commercial sale of our TCR products. For the year ended December 31, 2021, the Company incurred expenses of $ 0.5 million related to this agreement compared to $ 0 for the year ended December 31, 2020. The 2019 R&D Agreement will terminate on December 31, 2026 and either party may terminate the 2019 R&D Agreement following written notice of a material breach. The 2019 R&D Agreement also contains customary provisions related to indemnification obligations, confidentiality and other matters. In connection with the execution of the 2019 R&D Agreement, on October 22, 2019, the Company issued MD Anderson a warrant to purchase 3,333,333 shares of the Company's common stock, which is referred to as the MD Anderson Warrant. The MD Anderson Warrant has an initial exercise price of $ 0.00 1 per share, expires on December 31, 2026 , and vests upon the occurrence of certain clinical milestones. As of December 31, 2021, none of the milestones have been met. The MD Anderson Warrant and the shares of the Company's common stock to be issued upon exercise of the MD Anderson Warrant have not been registered under the Securities Act of 1933, as amended, and may not be offered or sold in the United States absent registration or an applicable exemption from registration requirements. License Agreement with the NCI On May 28, 2019, we entered into a patent license agreement, or the Patent License, with the National Cancer Institute, or NCI. Pursuant to the Patent License, we hold an exclusive, worldwide license to certain intellectual property to develop and commercialize patient-derived (autologous), peripheral blood T-cell therapy products engineered by transposon-mediated gene transfer to express TCRs reactive to mutated KRAS, TP53 and EGFR neoantigens. In addition, pursuant to the Patent License, we hold an exclusive, worldwide license to certain intellectual property for manufacturing technologies to develop and commercialize autologous, peripheral blood T-cell therapy products engineered by non-viral gene transfer to express TCRs, as well as a non-exclusive, worldwide license to certain additional manufacturing technologies. On May 29, 2019, January 8, 2020, September 28, 2020, April 16, 2021, May 4, 2021, and August 13, 2021 we amended the Patent License to expand our TCR library to include additional TCRs reactive to mutated KRAS and TP53 neoantigens licensed from the NCI. Pursuant to the terms of the Patent License, we are required to pay the NCI a cash payment in the aggregate amount of $ 1.5 million payable in $ 0.5 million installments within sixty days, six-months, and the twelve-month anniversary of the effective date of the agreement for the Patent License. We also reimbursed the NCI for past patent expenses in the aggregate amount of approximately $ 46,000 . Under the amendment to the patent license signed in January 2020, we agreed to pay the NCI a cash payment of $ 600,000 within sixty days of the amendment and under the amendment to the patent license signed in September 2020, we agreed to pay the NCI a cash payment of $ 411,000 within sixty days of the amendment. The terms of the Patent License also require us to pay the NCI minimum annual royalties in the amount of $ 0.3 million, which amount will be reduced to $ 0.1 million once the aggregate minimum annual royalties paid by us equals $ 1.5 million. F- 21 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS We are also required to make performance-based payments upon successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $ 4.3 million, of which aggregate payments of $ 3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $ 0.1 million will be due upon the initiation of our first sponsored Phase 1 clinical trial of a licensed product or licensed process in the field of use licensed under the Patent License . In addition, we are required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $ 250.0 million to $ 1.0 billion. The aggregate potential amount of these benchmark payments is $ 12.0 million. We must also pay the NCI royalties on net sales of products covered by the Patent License at rates in the low to mid-single digits depending upon the technology included in a licensed product. To the extent we enter into a sublicensing agreement relating to a licensed product, we are required to pay the NCI a percentage of all consideration received from a sublicensee, which percentage will decrease based on the stage of development of the licensed product at the time of the sublicense. The Patent License will expire upon expiration of the last patent contained in the licensed patent rights, unless terminated earlier. The NCI may terminate or modify the Patent License in the event of a material breach, including if we do not meet certain milestones by certain dates, or upon certain insolvency events that remain uncured following the date that is 90 days following written notice of such breach or insolvency event. We may terminate the Patent License, or any portion thereof, in our sole discretion at any time upon 60 days’ written notice to the NCI. In addition, the NCI has the right t (i) require us to sublicense the rights to the product candidates covered by the Patent License upon certain conditions, including if we are not reasonably satisfying required health and safety needs and (ii) terminate or modify the Patent License, including if we are not satisfying requirements for public use as specified by federal regulations. For the year ended December 31, 2021 we expensed and made payments of $ 0.5 million and for the year ended December 31, 2020 we expensed and made payments of $ 1.5 million. Cooperative Research and Development Agreement (CRADA) with the NCI On January 9, 2017, we entered into a Cooperative Research and Development Agreement (the “CRADA”) with the NCI. The purpose of this collaboration was to advance a personalized TCR-T approach for the treatment of solid tumors. Using our Sleeping Beauty technology, NCI would analyze a patient’s own cancer cells, identify their unique neoantigens and TCRs reactive against those neoantigens and then use our Sleeping Beauty technology to transpose one or more TCRs into T cells for re-infusion. Research conducted under the CRADA will be at the direction of Steven A. Rosenberg, M.D., Ph.D., Chief of the Surgery Branch at the NCI, in collaboration with our researchers and PGEN researchers. We are responsible for providing NCI with the test materials necessary for them to conduct their studies, and eventually, clinical trials pursuant to the CRADA. Inventions, data and materials discovered or produced in connection with performance of the research plan under the CRADA will remain the sole property of the party who produced the discovery. The parties will jointly own all inventions jointly discovered under the research plan. The owner of any invention under the CRADA will make the decision to file a patent covering the invention, or in the case of a jointly owned invention, we will have the first opportunity to file a patent covering the invention. If we fail to provide timely notice of our decision to NCI or decide not to file a patent covering the joint invention, NCI has the right to make the filing. For any invention solely owned by NCI or jointly made by NCI and us for which a patent application was filed, the U.S. Public Health service grants us an exclusive option to elect an exclusive or non-exclusive commercialization license. For inventions owned solely by NCI or jointly owned by NCI and us, which are licensed according to the terms described above, we agreed to grant to the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world. We are also required to grant the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world for any of our solely owned inventions. The agreement may be terminated by any of the parties upon 60 days prior written consent. The NCI has a cleared IND that would permit them to begin this trial. To our knowledge, the trial has not yet enrolled due to matters internal to the NCI and unrelated to our technology. The progress and timeline for this trial, including the timeline for dosing patients, are under control of the NCI. In February 2019, we extended the CRADA with the NCI until January 9, 2022, committing an additional $ 5.0 million to this program. During the year ended December 31, 2021 we made payments of $ 1.25 million and during the year ended December 31, 2020 we made payments of $ 2.5 million, pursuant to the CRADA. For the third and fourth quarters of 2021, we were not required to make payments towards the program F- 22 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS as agreed with the NCI. In March 2022, we entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. Patent and Technology License Agreement—The University of Texas MD Anderson Cancer Center and the Texas A&M University System On August 24, 2004, the Company entered into a patent and technology license agreement with MD Anderson and the Texas A&M University System, which the Company refers to, collectively, as the Licensors. Under this agreement, the Company was granted an exclusive, worldwide license to rights (including rights to U.S. and foreign patent and patent applications and related improvements and know-how) for the manufacture and commercialization of two classes of organic arsenicals (water- and lipid-based) for human and animal use. The class of water-based organic arsenicals includes darinaparsin. Under the terms of the agreement, the Company may be required to make additional payments to the Licensors upon achievement of certain other milestones in varying amounts which, on a cumulative basis could total up to an additional $ 4.5 million. In addition, the Licensors are entitled to receive single digit percentage royalty payments on sales from a licensed product and will also be entitled to receive a portion of any fees that the Company may receive from a possible sublicense under certain circumstances. During the year ended December 31, 2021, the Company paid fees under the terms of the license agreement of $ 0.1 million. No amounts were accrued or paid during the year ended December 31, 2020. Collaboration Agreement with Solasia Pharma K.K. On March 7, 2011, the Company entered into a License and Collaboration Agreement with Solasia Pharma K. K. ("Solasia"), which was amended on July 31, 2014 to include an exclusive worldwide license. Pursuant to the License and Collaboration Agreement, the Company granted Solasia an exclusive license to develop and commercialize darinaparsin in both intravenous and oral forms and related organic arsenic molecules, in all indications for human use. As consideration for the license, the Company is eligible to receive from Solasia development- and sales-based milestones, a royalty on net sales of darinaparsin, once commercialized, and a percentage of any sublicense revenue generated by Solasia. Solasia will be responsible for all costs related to the development, manufacturing and commercialization of darinaparsin. The Company’s Licensors, as defined in the agreement, will receive a portion of all milestone and royalty payments made by Solasia to the Company in accordance with the terms of the license agreement with the Licensors. During the year ended December 31, 2021, the Company recorded $ 0.4 million of collaboration revenue under the collaboration agreement with Solasia in accordance with variable consideration guidance within ASC Topic 606, Revenue from Contracts with Customers . The collaboration revenue for the year ended December 31, 2021 related to a milestone event, which was met by Solasia related to a submission of approval application in Japan. No amounts were recorded or received during the year ended December 31, 2020. 10. Warrants In connection with the Company’s November 2018 private placement which provided net proceeds of approximately $ 47.1 million, the Company issued warrants to purchase an aggregate of 18,939,394 shares of common stock which became exercisable six months after the closing of the private placement (the "November 2018 Warrants"). The November 2018 Warrants had an exercise price of $ 3.01 per share and have a five-year term. The relative fair value of the November 2018 Warrants was estimated at $ 18.4 million using a Black-Scholes model with the following assumptio expected volatility of 71 %, risk free interest rate of 2.99 %, expected life of five years and no dividends. The Company assessed whether the November 2018 Warrants require accounting as derivatives. The Company determined that the November 2018 Warrants were (1) indexed to the Company’s own stock and (2) classified in stockholders’ equity in accordance with FASB Accounting Standards Codification (“ASC”) Topic 815, Derivatives and Hedging . As such, the Company has concluded the November 2018 Warrants meet the scope exception for determining whether the instruments require accounting as derivatives and should be classified in stockholders’ equity. On July 26, 2019 and September 12, 2019, the Company entered into agreements with existing investors whereby the investors exercised the November 2018 Warrants for an aggregate of 17,803,031 shares of common stock, at an exercise price of $ 3.01 per share. Proceeds from the warrant exercise, after deducting placement agent fees and other related expenses of $ 1.1 million were approximately $ 52.5 million. F- 23 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS The Company issued participating investors new warrants to purchase up to 17,803,031 additional shares of common stock (the "2019 Warrants") as consideration for the warrant holders to exercise their November 2018 Warrants. The 2019 Warrants will expire on the fifth anniversary of the initial exercise date and have an exercise price of $ 7.00 . The 2019 Warrants were valued using a Black-Scholes valuation model and resulted in a $ 60.8 million non-cash charge in the Company’s statement of operations in 2019. On October 22, 2019, the Company entered into the 2019 Agreement with MD Anderson. In connection with the execution of the 2019 Agreement, the Company issued MD Anderson a warrant to purchase 3,333,333 shares of common stock (the "MD Anderson Warrant"). The MD Anderson Warrant has an initial exercise price of $ 0.001 per share and grant date fair value of $ 14.5 million. The MD Anderson Warrant expires on December 31, 2026 and vests upon the occurrence of certain clinical milestones. The Company will recognize expense on the MD Anderson Warrant in the same manner as if the Company paid cash for services to be rendered. For the years ended December 31, 2021 and 2020, the Company did not recognize any expense related to the warrant as no work on the clinical milestones has begun. On August 6, 2021, the Company entered into the Loan and Security Agreement with SVB. Refer to Note 4 - Debt . In connection with the Loan and Security Agreement, the Company issued SVB warrants to purchase 432,844 shares of common stock with an exercise price of $ 2.22 per share. The warrants have a ten-year life and are fully vested upon issuance. The fair value of the warrants was estimated at $ 0.8 million using a Black-Scholes model with the following assumptio expected volatility of 79 %, risk free interest rate of 1.31 %, expected life of ten years and no dividends. On December 28, 2021, the Company entered into the Amendment, as described in Note 4, Debt, where the original warrants issued to SVB were amended and restated. As amended and restated, the warrants are for up to 649,615 shares of common stock, in the aggregate, at an exercise price per share of $ 1.16 . The amended and restated warrants expire on August 6, 2031 and are fully vested upon issuance. Using a Black-Scholes model with an expected volatility of 81 %, risk free interest rate of 1.49 %, expected life of 10 years and no dividends, the Company recorded a $ 0.2 million increase in the fair value of the warrants due to the modification of the warrants. 11. Restructuring On September 27, 2021, in order to lower its existing cost structure in connection with the realignment of its business strategy, the Company announced a strategic reduction in force and notified approximately 60 full-time employees of its intention to terminate their services on or, in most cases, before November 30, 2021. Certain of the notified employees had employment agreements that provided for enhanced severance benefits. The severance benefits, apart from certain continuing Company-paid health care benefits for up to twelve months, were paid in 2021. The Company expensed the following costs associated with termination benefit payments resulting from the strategic reduction in for December 31, ($ in thousands) 2021 Research and development $ 2,368 General and administrative 1,289 Total severance expense $ 3,657 12. Income Taxes There is no provision for income taxes because the Company has incurred operating losses since inception. The reported amounts of income tax expense for the years ended December 31, 2021 and 2020 differ from the amounts that would result from applying domestic federal statutory F- 24 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS tax rates to pretax losses primarily because of the changes in the valuation allowance. Significant components of the Company’s deferred tax assets at December 31, 2021 and 2020 are as follows: December 31, (in thousands) 2021 2020 Deferred tax assets: Net operating loss carryforwards $ 164,486 $ 147,004 Start-up and organizational costs 21,705 25,909 Research and development credit carryforwards 39,817 37,183 Stock compensation 706 1,478 Capitalized acquisition costs 2,946 3,691 Lease liability 1,278 1,225 Depreciation 102 71 Other 156 135 231,196 216,696 Less valuation allowance ( 230,119 ) ( 215,513 ) Total deferred tax assets 1,077 1,183 Right-of-use asset ( 1,077 ) ( 1,183 ) Total deferred tax liabilities $ ( 1,077 ) $ ( 1,183 ) Net deferred taxes $ — $ — Deferred income taxes reflect the net tax effects of temporary differences between the carrying amount of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. At December 31, 2021, the Company has aggregate net operating loss carryforwards for federal tax purposes of approximately $ 639 million, of which approximately $ 342 million expires at various dates through December 31, 2037 and approximately $ 297 million can be carried forward indefinitely. The Company also has approximately $ 480 million of state net operating loss carryforwards available to offset future state taxable income, expiring at various dates through 2041. Additionally, the Company has approximately $ 40 million of federal and state research and development credits at December 31, 2021, expiring in varying amounts through 2041 , which may be available to reduce future taxes. The Company has provided a valuation allowance for the full amount of these net deferred tax assets since it is more likely than not that these future benefits will not be realized. However, these deferred tax assets may be available to offset future income tax liabilities and expenses. The valuation allowance increased by $ 14.6 million in 2021 due primarily to net operating loss carryforwards and the increase in research and development credits. Income taxes using the federal statutory income tax rate differ from the Company’s effective tax rate primarily due to non-deductible expenses related to the Company’s issuance of warrants along with the change in the valuation allowance on deferred tax assets. A reconciliation of income tax expense (benefit) at the statutory federal income tax rate and income taxes as reflected in the financial statements is as follows: Year Ended December 31, (in thousands) 2021 2020 Federal income tax at statutory rates 21 % 21 % State income tax, net of federal tax benefit 1 % 3 % Research and development credits 2 % 3 % Stock compensation - 1 % - 1 % Sec. 162(m) - 2 % 0 % Federal/state rate change - 2 % - 2 % Change in valuation allowance - 19 % - 24 % Effective tax rate 0 % 0 % The Company adopted ASC 740, Accounting for Uncertain Tax Positions on January 1, 2007 (“ASC 740”). ASC 740 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with FASB Statement No. 109, “Accounting for Income Taxes.” ASC 740 prescribes a recognition threshold and measurement of a tax position taken or expected to be taken in a tax return. F- 25 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS The Company did not establish any additional reserves for uncertain tax liabilities upon adoption of ASC 740. There were no adjustments to its uncertain tax positions in the years ended December 31, 2021 and 2020. The Company has not recognized any interest and penalties in the statement of operations because of the Company’s net operating losses and tax credits that are available to be carried forward. When necessary, the Company will account for interest and penalties related to uncertain tax positions as part of its provision for federal and state income taxes. The Company does not expect the amounts of unrecognized benefits will change significantly within the next twelve months. The Company is currently open to audit under the statute of limitations by the Internal Revenue Service and state jurisdictions for the years ended December 31, 1999 through 2021. On March 27, 2020, the United States enacted the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act into law which was an emergency economic stimulus package in response to the COVID-19 pandemic and its impact on the economy, public health, state and local governments, individuals and businesses. The Company has considered the legislation surrounding the impact of the CARES Act and the potential effects it may have on the Company. Some of the more significant provisions under the CARES Act include five-year carryback of net operating losses (Section 2303), Refundable AMT credit (Section 2305), relaxation of the limitation of adjusted taxable income (ATI) as determined under IRC Section 163(j) from 30 % to 50 % (Section 2306), and changes to qualified bonus improvement property (QIP) tax life and bonus depreciation eligibility allowing for a 15 -year tax useful life an eligibility for 100 % bonus depreciation (Section 2307). Due to the Company’s history of US taxable losses, and use of MACRS and/or straight-line depreciation for tax purposes, there is no impact to the tax provision as a result of the enactment of the CARES Act. As of December 31, 2020, the Company has analyzed the provisions of the CARES Act and has recorded no income tax benefit or expense related to it. 13. Stock Option Plan The Company adopted the 2012 Equity Incentive Plan (the “2012 Plan”) in May 2012. Including subsequent increases, the Company had reserved 14,000,000 shares for issuance. On December 31, 2021, there are 2,847,190 shares reserved for issuance and no shares available for future grant. The Company adopted the 2020 Equity Incentive Plan (the “2020 Plan”) in June 2020. The Company reserved 21,000,000 shares for issuance plus a carryover of 1,066,275 shares from the 2012 Plan for a total of 22,066,275 shares. In addition, returning shares from the 2012 Plan are available for issuance under the 2020 Plan. As of December 31, 2021, 5,750,000 shares were registered, 7,818,679 shares reserved for issuance and 30,564 shares available for future grant. As of December 31, 2021 the Company had outstanding options to its employees to purchase up to 9,208,236 shares of the Company’s common stock, to its directors to purchase up to 1,397,633 shares of the Company’s common stock, as well as options to consultants in connection with services rendered to purchase up to 60,000 shares of the Company’s common stock. Stock options to employees generally vest ratably in either quarterly or annual installments over three or four years, commencing on the first anniversary of the grant date and have contractual terms of ten years. Stock options to directors generally vest ratably over one or two years and have contractual terms of ten years. Stock options are valued using the Black-Scholes option pricing model and compensation is recognized based on such fair value over the period of vesting on a straight-line basis. Proceeds from the option exercises during the year ended December 31, 2021 amounted to $ 1.0 million and during the year ended December 31, 2020 amounted to $ 0.4 million. The intrinsic value of these options amounted to $ 0.8 million for the year ended December 31, 2021 and $ 0.3 million for the year ended December 31, 2020. F- 26 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS Stock option activity under the Company's stock options plans for the years ending December 31, 2021 and 2020 were as follows: (in thousands, except share and per share data) Number of Shares Weighted- Average Exercise Price Weighted- Average Contractual Term (Years) Aggregate Intrinsic Value Outstanding, December 31, 2019 5,842,879 3.21 Granted 2,222,368 3.39 Exercised ( 338,333 ) 2.01 Cancelled ( 886,195 ) 4.22 Outstanding, December 31, 2020 6,840,719 3.81 Granted 9,380,438 2.62 Exercised ( 363,109 ) 2.86 Cancelled ( 5,192,179 ) 3.65 Outstanding, December 31, 2021 10,665,869 $ 2.87 8.67 $ — Options exercisable, December 31, 2021 4,410,312 $ 3.85 7.53 $ — Options exercisable, December 31, 2020 3,596,315 $ 4.17 6.90 $ 598 Options available for future grant at December 31, 2021 30,564 The Company granted 400,000 inducement stock options on July 22, 2019 with exercise prices of $ 5.60 , 65,000 on August 19, 2019 with exercise prices of $ 5.18 , and 65,000 on November 21, 2019 with exercise prices of $ 4.59 . The options vest ratably, over four years, commencing with one quarter on the first anniversary of the grant date and then quarterly thereafter. The options have a contractual term of ten years. These options were granted outside of the 2012 Plan and therefore, are not included in the table above. The grant date fair values were $ 1.5 million for the July 22, 2019 options, $ 231,000 for the August 19, 2019 options, and $ 193,000 for the November 21, 2019 options. As of December 31, 2021, 32,500 options are outstanding from all inducement stock options. On December 31, 2021, total unrecognized compensation costs related to non-vested stock options outstanding amounted to $ 8.1 million. The cost is expected to be recognized over a weighted-average period of 2.1 years. Restricted Stock For the year ended December 31, 2021 the Company issued 1,601,224 shares of restricted stock and 805,900 in the year ended December 31, 2020 to employees and directors. A summary of the status of restricted stock as of December 31, 2021 and 2020 is as follows: Number of Shares Weighted-Average Grant Date Fair Value Non-vested, December 31, 2019 939,636 2.93 Granted 805,900 3.75 Vested ( 764,359 ) 3.51 Cancelled ( 194,897 ) 3.44 Non-vested, December 31, 2020 786,280 3.08 Granted 1,601,224 2.60 Vested ( 754,137 ) 3.40 Cancelled ( 434,787 ) 3.45 Non-vested, December 31, 2021 1,198,580 $ 2.10 As of December 31, 2021, there was $ 2.1 million of total unrecognized stock-based compensation expense related to non-vested restricted stock arrangements. The expense is expected to be recognized over a weighted-average period of 2.15 years. 14. Employee Benefit Plan The Company sponsors a qualified 401(k) retirement plan under which employees are allowed to contribute certain percentages of their pay, up to the maximum allowed under Section 401(k) of the IRC, or the 401(k) Plan. The Company may make contributions to the 401(k) Plan at its F- 27 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS discretion. The Company contributed approximately $ 0.7 million to the 401(k) Plan during the year ended December 31, 2021 and $ 0.5 million during the year ended December 31, 2020. 15. Joint Venture On December 18, 2018, the Company entered into a Framework Agreement with TriArm whereby the parties will launch Eden BioCell, to lead clinical development and commercialization of certain Sleeping Beauty -generated CAR-T therapies as set forth in a separate license agreement. On January 3, 2019, Eden BioCell was incorporated in Hong Kong as a private company. Eden BioCell, the Company and TriArm entered into a Share Subscription Agreement on January 23, 2019, where the Company and TriArm agreed to contribute certain intellectual property, services and cash (only with respect to TriArm) to Eden BioCell to subscribe for a certain number of newly issued ordinary shares in the share capital of Eden BioCell. On the closing date, upon the issuance and subscription of the shares, in respect of the aforementioned consideration, 10,000,000 ordinary shares were issued to the Company and 10,000,000 ordinary shares were issued to TriArm. The closing of the transaction occurred on July 5, 2019. The Framework Agreement and Share Subscription Agreements were each respectively amended to be effective as of this date. Upon consummation of the joint venture, Eden BioCell and the Company also entered into a license agreement, pursuant to which the Company licensed the rights to Eden BioCell for third generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen for the territory of China (including Macau and Hong Kong), Taiwan and Korea. Eden BioCell will be responsible for certain milestone and royalty payments to related to the Company’s license agreements with MD Anderson and PGEN. TriArm entered into a Master Services Agreement with Eden BioCell and contributed $ 10.0 million of cash on the closing date. TriArm also committed to contribute an additional $ 25.0 million to Eden BioCell over time through the achievement of specified milestones. TriArm and the Company each received a 50 % equity interest in the joint venture in exchange for their contributions to Eden BioCell. As of July 5, 2019, as a result of the design and purpose of Eden BioCell, the Company determined that Eden BioCell was considered a variable interest entity, or VIE, and concluded that it is not the primary beneficiary of the VIE as it did not have the power to direct the activities of the VIE that most significantly impact its performance. Rather, the Company accounts for the equity interest in Eden BioCell under the equity method of accounting as it has the ability to exercise significant influence over the operations of Eden BioCell. The Company determined that Eden BioCell was not a customer, and therefore, accounted for the transaction as the transfer of nonfinancial assets to be recognized at their fair value on the contribution date. The fair value of the intellectual property contributed to Eden BioCell had a de minimis value due to the early stage of the technology and the likelihood of clinical success. Due to the de minimis fair value of the intellectual property contributed, the Company did not record a gain or loss on this transaction and recognized no value for its equity-method investment. In March 2021, Eden BioCell began treating patients in a clinical trial with the Company’s investigational CD19 RPM CAR-T cell therapy, under the IND cleared by the Taiwan FDA in December. Two patients have now been treated in this trial. The lead investigator at National Taiwan University in Taipei, has reported no serious adverse safety events in either of these patients. Laboratory results continue to support, as previously published, that non-viral Sleeping Beauty gene transfer is effective in genetically modifying autologous T-cells. Patients were infused two days after gene transfer, thus shortening the turnaround time and demonstrating an advantage over viral methods. Based on laboratory data from the first two patients generated between March and May 2021, the TriArm/Eden team concluded, in concert with the investigator and the Company, that further process development work is required. In September 2021, TriArm and the Company mutually agreed to dissolve the joint venture. For the years ended December 31, 2021 and 2020, Eden BioCell incurred a net loss. The Company continues to have no commitment to fund its operations. F- 28 |
Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements (unaudited) 2 Balance Sheets as of March 31, 2022 (unaudited) and December 31, 2021 2 Statements of Operations for the Periods Ended March 31, 2022 and 2021 (unaudited) 3 Statements of Changes in Stockholders’ Equity for the Periods Ended March 31, 2022 and 2021 (unaudited) 4 Statements of Cash Flows for the Periods Ended March 31, 2022 and 2021 (unaudited) 5 Notes to Unaudited Financial Statements (unaudited) 6 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 17 Item 3. Quantitative and Qualitative Disclosures about Market Risk 23 Item 4. Controls and Procedures 23 PART II. OTHER INFORMATION Item 1. Legal Proceedings 25 Item 1A. Risk Factors 25 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 58 Item 3. Defaults Upon Senior Securities 58 Item 4. Mine Safety Disclosures 58 Item 5. Other Information 58 Item 6. Exhibits 59 1 PART I—FINANCIAL INFORMATION Item 1. Financial Statements Alaunos Therapeutics, Inc. BALANCE SHEETS (unaudited) (in thousands, except share and per share data) March 31, December 31, 2022 2021 ASSETS: Current assets: Cash and cash equivalents $ 68,255 $ 76,054 Receivables — 1,111 Prepaid expenses and other current assets 1,517 1,666 Total current assets 69,772 78,831 Property and equipment, net 10,311 10,941 Right-of-use asset 4,240 4,420 Deposits 42 42 Other non-current assets 626 631 Total assets $ 84,991 $ 94,865 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable $ 605 $ 1,368 Current portion of long-term debt 13,993 7,868 Accrued expenses 5,891 6,076 Lease liability - current portion 745 729 Total current liabilities 21,234 16,041 Long-term debt 10,323 16,250 Lease liability - non-current portion 4,312 4,518 Total liabilities $ 35,869 $ 36,809 Commitments and contingencies (Note 8) Stockholders' equity Common stock $ 0.001 par value; 350,000,000 shares authorized, 215,950,561 shares issued and outstanding at March 31, 2022 and 350,000,000 shares authorized, 216,127,443 shares issued and outstanding at December 31, 2021 216 216 Additional paid-in capital 901,546 900,693 Accumulated deficit ( 852,640 ) ( 842,852 ) Total stockholders' equity 49,122 58,057 Total liabilities and stockholders' equity $ 84,991 $ 94,865 The accompanying notes are an integral part of these financial statements. 2 Alaunos Therapeutics, Inc. STATEMENTS OF OPERATIONS (unaudited) (in thousands, except share and per share data) For the Three Months Ended March 31, 2022 2021 Operating expens Research and development 5,580 13,336 General and administrative 3,505 8,227 Total operating expenses 9,085 21,563 Loss from operations ( 9,085 ) ( 21,563 ) Other income (expense), net ( 703 ) 9 Net loss $ ( 9,788 ) $ ( 21,554 ) Net loss applicable to common stockholders $ ( 9,788 ) $ ( 21,554 ) Basic and diluted net loss per share $ ( 0.05 ) $ ( 0.10 ) Weighted average number of common shares outstanding used to compute basic and diluted net loss per share 214,946,569 213,954,665 The accompanying notes are an integral part of these financial statements. 3 Alaunos Therapeutics, Inc. STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (unaudited) (in thousands, except share and per share data) Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at December 31, 2020 214,591,906 $ 215 $ 887,868 $ ( 764,101 ) $ 123,982 Stock-based compensation — — 2,197 — 2,197 Exercise of employee stock options 352,442 — 1,016 — 1,016 Restricted stock awards 313,326 — — — — Net loss — — ( 21,554 ) ( 21,554 ) Balance at March 31, 2021 215,257,674 $ 215 $ 891,081 $ ( 785,655 ) $ 105,641 Balance at December 31, 2021 216,127,443 $ 216 $ 900,693 $ ( 842,852 ) $ 58,057 Stock-based compensation — — 853 — 853 Cancelled restricted common stock ( 176,882 ) — — — — Net loss — — — ( 9,788 ) ( 9,788 ) Balance at March 31, 2022 215,950,561 216 901,546 ( 852,640 ) 49,122 The accompanying notes are an integral part of these financial statements. 4 Alaunos Therapeutics, Inc. STATEMENTS OF CASH FLOWS (unaudited) (in thousands) For the Three Months Ended March 31, 2022 2021 Cash flows from operating activiti Net loss $ ( 9,788 ) $ ( 21,554 ) Adjustments to reconcile net loss to net cash used in operating activiti Depreciation 689 540 Amortization of financing costs 198 — Stock-based compensation 853 2,197 (Increase) decrease in: Receivables 1,111 ( 340 ) Prepaid expenses and other current assets 149 3,207 Right-of-use asset 180 292 Other noncurrent assets 5 559 Increase (decrease) in: Accounts payable ( 763 ) 2,654 Accrued expenses ( 214 ) ( 2,684 ) Lease liabilities ( 190 ) ( 184 ) Net cash used in operating activities ( 7,770 ) ( 15,313 ) Cash flows from investing activiti Purchases of property and equipment ( 29 ) ( 717 ) Net cash used in investing activities ( 29 ) ( 717 ) Cash flows from financing activiti Proceeds from the exercise of stock options — 1,017 Net cash provided by financing activities — 1,017 Net decrease in cash and cash equivalents ( 7,799 ) ( 15,013 ) Cash and cash equivalents, beginning of period 76,054 115,069 Cash and cash equivalents, end of period $ 68,255 $ 100,056 Supplementary disclosure of cash flow informati Cash paid for interest $ 484 $ — Amounts included in accrued expenses and accounts payable related to property and equipment $ 29 $ 682 The accompanying notes are an integral part of these financial statements. 5 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) 1. Organization Overview Alaunos Therapeutics, Inc., which is referred to herein as “Alaunos,” or the “Company,” is a clinical-stage oncology-focused cell therapy company developing adoptive TCR-T cell therapies, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. On January 25, 2022, the Company changed its corporate name from ZIOPHARM Oncology, Inc. to Alaunos Therapeutics, Inc. The Company is leveraging its proprietary, non-viral Sleeping Beauty gene transfer platform and its cancer hotspot mutation TCR library to design and manufacture personalized cell therapies that target neoantigens arising from shared tumor-specific mutations in key oncogenic genes, including KRAS, TP53, and EGFR. The Company’s operations to date have consisted primarily of conducting research and development and raising capital to fund those efforts. In May 2021, the Company announced that it will be winding down its existing Controlled IL-12 clinical program. The Company continues to seek a partner for this program. The accompanying financial statements have been prepared on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities and commitments in the normal course of business. The Company follows the guidance of Accounting Standards Codification ("ASC") Topic 205-40, Presentation of Financial Statements - Going Concern, in order to determine whether there is substantial doubt about its ability to continue as a going concern for one year after the date its financial statements are issued. The Company has operated at a loss since its inception in 2003 and has no recurring revenue from operations. The Company anticipates that losses will continue for the foreseeable future. As of March 31, 2022, the Company had approximately $ 68.3 million of cash and cash equivalents. The Company’s accumulated deficit at March 31, 2022 was approximately $ 852.6 million. Given its current development plans and cash management efforts, the Company anticipates cash resources will be sufficient to fund operations into the second quarter of 2023. The Company’s ability to continue operations after its current cash resources are exhausted depends on its ability to obtain additional financing or to achieve profitable operations, as to which no assurances can be given. Cash requirements may vary materially from those now planned because of changes in the Company’s focus and direction of its research and development programs, competitive and technical advances, patent developments, regulatory changes or other developments. If adequate additional funds are not available when required, management may need to curtail its development efforts and planned operations to conserve cash. Based on the current cash forecast, management has determined that the Company's present capital resources will not be sufficient to fund its planned operations for at least one year from the issuance date of the financial statements, which raises substantial doubt as to the Company's ability to continue as a going concern. This forecast of cash resource is forward-looking information that involves risks and uncertainties, and the actual amount of expenses could vary materially and adversely as a result of a number of factors. As of March 31, 2022, there were 215,950,561 shares of common stock outstanding and an additional 33,891,996 shares of common stock reserved for issuance pursuant to outstanding stock options and warrants. Basis of Presentation The accompanying unaudited interim financial statements have been prepared in accordance with the instructions to Form 10-Q pursuant to the rules and regulations of the Securities and Exchange Commission, or the SEC. Certain information and note disclosures required by generally accepted accounting principles in the United States, or GAAP, have been condensed or omitted pursuant to such rules and regulations. It is management’s opinion that the accompanying unaudited interim financial statements reflect all adjustments (which are normal and recurring) that are necessary for a fair presentation of the financial position of the Company and its results of operations and cash flows for the periods presented. The unaudited interim financial statements should be read in conjunction with the audited financial statements and the notes thereto for the year ended December 31, 2021, included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2021 filed with the SEC on March 30, 2022, or the Annual Report. The results disclosed in the statements of operations for the three months ended March 31, 2022 are not necessarily indicative of the results to be expected for the full fiscal year 2022. Use of Estimates The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Although the Company regularly assesses 6 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) these estimates, actual results could differ from those estimates. Changes in estimates are recorded in the period in which they become known. The Company’s most significant estimates and judgments used in the preparation of its financial statements • Clinical trial expenses and other research and development expenses; • Collaboration agreements; • Fair value measurements of stock-based compensation; and • Income taxes. Impact of COVID-19 Pandemic With the ongoing COVID-19 pandemic, the Company has implemented business continuity plans designed to address and mitigate the impact of the COVID-19 pandemic on its business and operations. The Company continues to evaluate the impact of the COVID-19 global pandemic on patients, healthcare providers and its employees, as well as its operations and the operations of its business partners and healthcare communities. In response to the COVID-19 pandemic, the Company has implemented policies at its locations to mitigate the risk of exposure to COVID-19 by its personnel. The extent to which the COVID-19 pandemic impacts the Company’s business, clinical development and regulatory efforts and the value of its common stock, will depend on future developments that are highly uncertain and cannot be predicted with confidence at this time, such as the ultimate duration of the pandemic, travel restrictions, quarantines, social distancing and business closure requirements, the result of vaccination efforts and the effectiveness of any other actions taken globally to contain and treat the disease. The global economic slowdown, the overall disruption of global healthcare systems and the other risks and uncertainties associated with the COVID-19 pandemic could have a material adverse effect on the Company’s business, financial condition, results of operations and growth prospects. 2. Financings 2021 Loan and Security Agreement On August 6, 2021, the Company entered into a Loan and Security Agreement with Silicon Valley Bank and affiliates of Silicon Valley Bank (collectively, "SVB") (the "Loan and Security Agreement"). The Loan and Security Agreement provided for an initial term loan of $ 25.0 million funded at the closing ("Term A Tranche"), with an additional tranche of $ 25.0 million available if certain funding and clinical milestones were met by August 31, 2022 ("Term B Tranche"). Effective December 28, 2021, the Company, entered into a First Amendment (the “Amendment”) to the Loan and Security Agreement (as so amended, the "Amended Loan and Security Agreement"). The Amended Loan and Security Agreement extends the interest-only period through August 31, 2022, and provides for an automatic extension through August 31, 2023, if the Amended Milestones (as defined below) are met by August 31, 2022. The Amendment eliminated the Term B Tranche, which remained unfunded, leaving only the Term A Tranche (the "SVB Facility"). Under the Amended Loan and Security Agreement, the SVB Facility will mature on August 1, 2023; however, if the Company achieves the Amended Milestones on or prior to August 31, 2022, then the maturity will automatically extend to August 1, 2024. Please refer to Note 4 - Debt, for further discussion of the Loan and Security Agreement and the Amended Loan and Security Agreement. 3. Summary of Significant Accounting Policies The Company’s significant accounting policies were identified in the Company’s Annual Report. There have been no material changes in those policies since the filing of its Annual Report. 4. Debt The carrying values of the Company's debt obligation were as follows: 7 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) March 31, ($ in thousands) 2022 Loan and Security Agreement $ 25,314 Unamortized discount on Loan and Security Agreement ( 998 ) Total debt 24,316 L current portion of long-term debt ( 13,993 ) Long-term debt $ 10,323 As of March 31, 2022, the SVB Facility was fully drawn in the amount of $ 25.0 million. The SVB Facility bears interest at a floating rate per annum on outstanding loans, payable monthly, at the greater of (a) 7.75 % and (b) the current published U.S. prime rate, plus a margin of 4.5 % . As of March 31, 2022, interest on the outstanding loans was 8.00 %. The Amended Loan and Security Agreement provides for an interest-only period which extends through August 31, 2022 and may be automatically extended through August 31, 2023 if, on or prior to August 31, 2022, SVB receives evidence satisfactory to it, confirming that the Company has (i) received at least $ 50.0 million in net cash proceeds from the sale of the Company’s equity securities after the date of the Amended Loan and Security Agreement, on terms and conditions acceptable to SVB, and (ii) achieved positive data in the first cohort of the Library TCR-T Trial endorsed by an independent safety monitoring committee as a safe dose to proceed (together, the “Amended Milestones”). After the interest-only payment period, aggregate outstanding borrowings are payable in twelve consecutive, equal monthly installments of principal plus accrued interest. All outstanding principal and accrued and unpaid interest under the SVB Facility and all other outstanding obligations under the Amended Loan and Security Agreement are due and payable on August 1, 2023 ; however, if the Company achieves the Amended Milestones on or prior to August 31, 2022, then the maturity will be automatically extended to August 1, 2024 . In addition to the payment of the outstanding principal plus accrued interest due, the Company will also owe SVB 5.75 % of the original principal amounts borrowed as a final payment (the "Final Payment"). The Company is permitted to make up to two prepayments, subject to the prepayment premium, of the SVB Facility, each payment of at least $ 5.0 million. Such prepayment premium would be 3.00 % of the principal amount of the SVB Facility if prepaid prior to the first anniversary of the effective date, 2.00 % of the principal amount of the SVB Facility if prepaid on or after the first anniversary of the effective date but prior to the second anniversary of the effective date and 1.00 % of the principal amount of the SVB Facility if prepaid on or after the second anniversary of the effective date but prior to the maturity date. No amount that has been repaid may be reborrowed. The Amended Loan and Security Agreement requires the Company to cash collateralize half of the sum of the then-outstanding principal amount of the SVB Facility, plus an amount equal to 5.75 % of the original principal amount of the SVB Facility if the Company does not achieve the Amended Milestones on or prior to August 31, 2022. In the event a cash collateralization were to occur, so long as no event of default has occurred, $ 2.5 million will be released from the collateral account following the eighth scheduled payment of principal and interest, and a further $ 4.0 million will be released following the tenth scheduled payment of principal and interest on the SVB Facility, in each case, so long as (i) after subtracting such scheduled payment, the sum of (a) the aggregate outstanding principal, (b) accrued and unpaid interest and (c) the Final Payment is less than $ 9,770,933 and $ 5,604,167 , respectively and (ii) the balance in the collateral account after the release would equal or exceed $ 10.0 million and $ 6.0 million, respectively. The SVB Facility and related obligations under the Amended Loan and Security Agreement are secured by substantially all of the Company’s properties, rights and assets, except for its intellectual property (which is subject to a negative pledge under the Amended Loan and Security Agreement). In addition, the Amended Loan and Security Agreement contains customary representations, warranties, events of default and covenants. In connection with its entry into the Loan and Security Agreement, the Company issued to SVB warrants to purchase (i) up to 432,844 shares of the Company’s common stock, in the aggregate, and (ii) up to an additional 432,842 shares of common stock, in the aggregate, in the event the Company achieves certain clinical milestones, in each case at an exercise price per share of $ 2.22 . In connection with its entry into the Amendment, the Company amended and restated the warrants issued to SVB. As amended and restated, the warrants are for up to 649,615 shares of the Company's common stock, in the aggregate, at an exercise price per share of $ 1.16 , or the SVB Warrants. The SVB Warrants expire on August 6, 2031 . The issuance costs for the Loan and Security Agreement, including the Amended Loan and Security Agreement, were approximately $ 1.2 million and primarily related to the SVB warrants, which will be amortized into interest expense over the period to August 1, 2023 . Interest expense was $ 0.7 million for the three months ended March 31, 2022. The fair value of the Amended Loan and Security Agreement as of March 31, 2022 approximates its face value due to proximity to the transaction. 8 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) 5. Fair Value Measurements The Company has certain financial assets and liabilities recorded at fair value which have been classified as Level 1, 2 or 3 within the fair value hierarchy as described in the accounting standards for fair value measurements. • Level 1—Quoted prices in active markets for identical assets or liabilities. • Level 2—Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. • Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Assets and liabilities measured at fair value on a recurring and nonrecurring basis as of March 31, 2022 and 2021 are as follows: ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of March 31, 2022 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 67,255 $ 67,255 ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of December 31, 2021 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 75,222 $ 75,222 $ — $ — The cash equivalents represent demand deposit accounts and deposits in a short-term United States treasury money market mutual fund quoted in an active market and classified as a Level 1 asset. 6. Net loss per share Basic net loss per share is computed by dividing net loss by the weighted average number of shares of common stock outstanding for the period. The Company’s potentially dilutive shares, which include outstanding common stock options, inducement stock options, unvested restricted stock and warrants, have not been included in the computation of diluted net loss per share for any of the periods presented as the result would be anti-dilutive. Such potentially dilutive shares of common stock consisted of the following as of March 31, 2022 and 2021, respectiv March 31, 2022 2021 Common stock options $ 10,969,654 $ 10,738,378 Inducement stock options — 463,333 Unvested restricted stock 993,879 1,074,606 Warrants 22,922,342 22,272,727 $ 34,885,875 $ 34,549,044 7. Related Party Transactions Collaboration with Vineti Inc. On July 9, 2020, the Company entered into a master service agreement and statement of work with Vineti, Inc., ("Vineti"). Pursuant to the agreements, Vineti has been developing a software platform to coordinate and orchestrate the order, cell collection and manufacturing process for the Company’s T-cell therapy, or TCR-T, clinical programs. Heidi Hagen, who became a director of the Company in June 2019 and resigned November 2, 2021 and the Company's Interim Chief Executive Officer on February 25, 2021 and resigned on August 30, 2021, is a co-founder and former officer, of Vineti. During the three months ended March 31, 2022, the Company recorded no expenses for Vineti, compared to $ 0.2 million of expenses for the three months ended March 31, 2021. 9 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) WaterMill Settlement Agreement On February 4, 2021, the Company entered into an agreement, or the Settlement Agreement, with WaterMill Asset Management Corp. and Robert W. Postma (collectively, the "WaterMill Parties"). Pursuant to the Settlement Agreement, the Company increased the size of its board of directors from eight to nine directors and appointed Mr. Postma to fill the newly created directorship. In accordance with the Settlement Agreement, the Company agreed to reimburse the WaterMill Parties for up to $ 0.4 million of their reasonable out-of-pocket expenses out of a total of approximately $ 0.7 million in fees and expenses actually incurred by the WaterMill Parties in connection with (i) the WaterMill Parties' solicitation of written consents from the Company's stockholders to vote in favor of certain proposals, as set forth in the definitive consent statement filed by the WaterMill Parties on October 30, 2020, and (ii) the negotiation, execution, and effectuation of the Settlement Agreement. As of February 19, 2021, the Company has fully reimbursed the WaterMill Parties an aggregate amount of $ 0.4 million. Joint Venture with TriArm Therapeutics/Eden BioCell On December 18, 2018, the Company and TriArm Therapeutics, Ltd. (“TriArm”) launched Eden BioCell, Ltd. (“Eden BioCell”) as a joint venture to lead commercialization of the Company’s Sleeping Beauty -generated CAR-T therapies in the People’s Republic of China (including Macau and Hong Kong), Taiwan and Korea. The Company licensed to Eden BioCell the rights in Greater China for its third-generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen. Eden BioCell is owned equally by the Company and TriArm and the parties share decision-making authority. TriArm has contributed $ 10.0 million to Eden BioCell and has committed up to an additional $ 25.0 million to this joint venture. TriArm also manages all clinical development in the territory pursuant to a Master Services Agreement between TriArm and Eden BioCell. James Huang was the founder and serves as managing partner of Panacea Venture, which is an investor in TriArm. Mr. Huang is the Chair of the Company's board of directors and has been a director since July 2020. He also serves as a member of Eden BioCell’s board of directors. For the three months ended March 31, 2022, Eden BioCell incurred a net loss and the Company continues to have no commitment to fund its operations. In September 2021, TriArm and Alaunos mutually agreed to dissolve the Eden BioCell joint venture. Refer to Note 11 - Joint Venture , for further details. 8. Commitments and Contingencies License Agreements Exclusive License Agreement with PGEN Therapeutics On October 5, 2018, the Company entered into an exclusive license agreement, or License Agreement, with PGEN Therapeutics, or PGEN, a wholly owned subsidiary of Precigen Inc., or Precigen, which was formerly known as Intrexon Corporation. Pursuant to the terms of the License Agreement, the Company has exclusive, worldwide rights to research, develop and commercialize (i) TCR products designed for neoantigens for the treatment of cancer, (ii) products utilizing Precigen’s RheoSwitch® gene switch, or RTS, for the treatment of cancer, referred to as IL-12 Products and (iii) CAR products directed to (A) CD19 for the treatment of cancer, referred to as CD19 Products, and (B) BCMA for the treatment of cancer, subject to certain obligations to pursue such target under the Ares Trading Agreement. Under the License Agreement, the Company also has exclusive, worldwide rights for certain patents relating to the Sleeping Beauty technology to research, develop and commercialize TCR products for both neoantigens and shared antigens for the treatment of cancer, referred to as TCR Products. The Company is solely responsible for all aspects of the research, development and commercialization of the exclusively licensed products for the treatment of cancer. The Company is required to use commercially reasonable efforts, as defined in the License Agreement, to develop and commercialize IL-12 products, CD19 products, BCMA products and TCR Products. In consideration of the licenses and other rights granted by PGEN, the Company will pay PGEN an annual license fee of $ 0.1 million and the Company has agreed to reimburse PGEN for certain historical costs of the licensed programs up to $ 1.0 million, which was fully paid during the year ended December 31, 2019. The Company will make milestone payments totaling up to an additional $ 52.5 million for each exclusively licensed program upon the initiation of later stage clinical trials and upon the approval of exclusively licensed products in various jurisdictions. In addition, the Company will pay PGEN tiered royalties ranging from low-single digit to high-single digit on the net sales derived from the sales of any approved IL-12 products and CAR products. The Company will also pay PGEN royalties ranging from low-single digit to mid-single digit on the net sales derived from the sales of any approved TCR products, up to a maximum royalty amount of $ 100.0 million in the aggregate. The Company will also pay PGEN twenty percent of any sublicensing 10 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) income received by us relating to the licensed products. The Company is responsible for all development costs associated with each of the licensed products. PGEN will pay the Company royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of PGEN’s CAR products, up to a maximum royalty amount of $ 100.0 million. In October 2020, the Company entered into an amendment to the License Agreement relating to the transfer of certain materials and PGEN’s obligations to provide transition assistance relating to the IL-12 products. License Agreement and 2015 Research and Development Agreement —The University of Texas MD Anderson Cancer Center On January 13, 2015, the Company, together with Precigen, entered into the MD Anderson License with MD Anderson (which Precigen subsequently assigned to PGEN). Pursuant to the MD Anderson License, the Company, together with PGEN, holds an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR T-cell therapies, non-viral gene transfer systems, genetic modification and/or propagation of immune cells and other cellular therapy approaches, Natural Killer, or NK Cells, and TCRs, arising from the laboratory of Laurence Cooper, M.D., Ph.D., who served as the Company’s Chief Executive Officer from May 2015 until February 2021 and was formerly a tenured professor of pediatrics at MD Anderson. On August 17, 2015, the Company, Precigen and MD Anderson entered into the 2015 R&D Agreement, to formalize the scope and process for the transfer by MD Anderson, pursuant to the terms of the MD Anderson License, of certain existing research programs and related technology rights, as well as the terms and conditions for future collaborative research and development of new and ongoing research programs. The rights and obligations of Precigen under the 2015 R&D Agreement were assigned to the Company pursuant to the Fourth Amendment to 2015 R&D Agreement which was entered into on September 19, 2019 (the “Fourth Amendment”) with an effective date of October 5, 2018. The activities under the 2015 R&D Agreement are directed by a joint steering committee comprised of two members from the Company and one member from MD Anderson. As provided under the MD Anderson License, the Company provided funding for research and development activities in support of the research programs under the 2015 R&D Agreement for a period of three years and in an amount of no less than $ 15.0 million and no greater than $ 20.0 million per year. On November 14, 2017, the Company entered into an amendment to the 2015 R&D Agreement, extending its term until April 15, 2021. In connection with the execution of the 2019 R&D Agreement described below, on October 22, 2019, the Company amended the 2015 R&D Agreement to extend the term of the 2015 R&D Agreement until December 31, 2026 and to allow cash resources on hand at MD Anderson under the 2015 R&D Agreement to be used for development costs under the 2019 R&D Agreement. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder, or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term of the MD Anderson License, the Company, together with Precigen, shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After ten years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if the Company and Precigen are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if the Company and Precigen are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by the Company and Precigen, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both the Company and Precigen and may be terminated by the mutual written agreement of the Company, PGEN, and MD Anderson. 2019 Research and Development Agreement—The University of Texas MD Anderson Cancer Center On October 22, 2019, the Company entered into the 2019 Research and Development Agreement, or the 2019 R&D Agreement, with MD Anderson, pursuant to which the parties agreed to collaborate with respect to the TCR program. Under the 2019 R&D Agreement, the parties will, among other things, collaborate on programs to expand the Company's TCR library and conduct clinical trials. The activities under the 2019 R&D Agreement are directed by a joint steering committee comprised of two members from the Company and one member from MD Anderson. The Company will own all inventions and intellectual property developed under the 2019 R&D Agreement and the Company will retain all rights to intellectual property for oncology products manufactured using non-viral gene transfer technologies under the 2019 R&D Agreement, including the Company's Sleeping Beauty technology. The Company has granted MD Anderson an exclusive license for such intellectual property outside the field of oncology and to develop and commercialize TCR products manufactured 11 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) using viral gene transfer technologies limited to autologous products if used for cancer treatment or prevention, and a non-exclusive license for allogenic anti-tumor TCR products manufactured using viral-based technologies. Under the 2019 R&D Agreement, the Company agreed, beginning on January 1, 2021, to reimburse MD Anderson up to a total of $ 20.0 million for development costs under the 2019 R&D Agreement, after the funds from the 2015 R&D Agreement are exhausted. In addition, the Company will pay MD Anderson royalties on net sales of its TCR products at rates in the low single digits. The Company is required to make performance-based payments upon the successful completion of clinical and regulatory benchmarks relating to its TCR products. The aggregate potential benchmark payments are $ 36.5 million, of which only $ 3.0 million will be due prior to the first marketing approval of the Company's TCR products. The royalty rates and benchmark payments owed to MD Anderson may be reduced upon the occurrence of certain events. The Company also agreed to sell its TCR products to MD Anderson at preferential prices and will sell the Company's TCR products in Texas exclusively to MD Anderson for a limited period of time following the first commercial sale of the Company's TCR products. For the three months ended March 31, 2022, the Company incurred expenses of $ 0.4 million related to this agreement compared to $ 0 for the three months ended March 31, 2021. The 2019 R&D Agreement will terminate on December 31, 2026 and either party may terminate the 2019 R&D Agreement following written notice of a material breach. The 2019 R&D Agreement also contains customary provisions related to indemnification obligations, confidentiality and other matters. In connection with the execution of the 2019 R&D Agreement, on October 22, 2019, the Company issued MD Anderson a warrant to purchase 3,333,333 shares of the Company's common stock, which is referred to as the MD Anderson Warrant. Please refer to Note 10 - Warrants, for further discussion of the MD Anderson Warrant. The MD Anderson Warrant has an initial exercise price of $ 0.001 per share, expires on December 31, 2026 , and vests upon the occurrence of certain clinical milestones. As of December 31, 2021, none of the milestones have been met. License Agreement with the NCI On May 28, 2019, the Company entered into a patent license agreement, or the Patent License, with the National Cancer Institute, or NCI. Pursuant to the Patent License, the Company holds an exclusive, worldwide license to certain intellectual property to develop and commercialize patient-derived (autologous), peripheral blood T-cell therapy products engineered by transposon-mediated gene transfer to express TCRs reactive to mutated KRAS, TP53 and EGFR neoantigens. In addition, pursuant to the Patent License, the Company holds an exclusive, worldwide license to certain intellectual property for manufacturing technologies to develop and commercialize autologous, peripheral blood T-cell therapy products engineered by non-viral gene transfer to express TCRs, as well as a non-exclusive, worldwide license to certain additional manufacturing technologies. On May 29, 2019, January 8, 2020, September 28, 2020, April 16, 2021, May 4, 2021, and August 13, 2021 the Company amended the Patent License to expand its TCR library to include additional TCRs reactive to mutated KRAS and TP53 neoantigens licensed from the NCI. The terms of the Patent License require the Company to pay the NCI minimum annual royalties in the amount of $ 0.3 million, which amount will be reduced to $ 0.1 million once the aggregate minimum annual royalties paid by the Company equals $ 1.5 million. The Company is also required to make performance-based payments upon successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $ 4.3 million, of which aggregate payments of $ 3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $ 0.1 million will be due upon the initiation of the Company's first sponsored Phase 1 clinical trial of a licensed product or licensed process in the field of use licensed under the Patent License. In addition, the Company is required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $ 250.0 million to $ 1.0 billion. The aggregate potential amount of these benchmark payments is $ 12.0 million. The Company must also pay the NCI royalties on net sales of products covered by the Patent License at rates in the low to mid-single digits depending upon the technology included in a licensed product. To the extent the Company enters into a sublicensing agreement relating to a licensed product, the Company is required to pay the NCI a percentage of all consideration received from a sublicensee, which percentage will decrease based on the stage of development of the licensed product at the time of the sublicense. The Patent License will expire upon expiration of the last patent contained in the licensed patent rights, unless terminated earlier. The NCI may terminate or modify the Patent License in the event of a material breach, including if the Company does not meet certain milestones by certain dates, or upon certain insolvency events that remain uncured following the date that is 90 days following written notice of such breach or insolvency event. The Company may terminate the Patent License, or any portion thereof, in the Company's sole discretion at any time upon 60 days’ written notice to the NCI. In addition, the NCI has the right t (i) require the Company to sublicense the rights to the product candidates covered by the Patent License upon certain conditions, including if the Company is not 12 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) reasonably satisfying required health and safety needs and (ii) terminate or modify the Patent License, including if the Company is not satisfying requirements for public use as specified by federal regulations. For the three months ended March 31, 2022 and March 31, 2021, the Company recognized $ 0.3 million in license payments to the NCI under this agreement. Cooperative Research and Development Agreement (CRADA) with the NCI On January 9, 2017, the Company entered into a Cooperative Research and Development Agreement (the “CRADA”) with the NCI. The purpose of this collaboration was to advance a personalized TCR-T approach for the treatment of solid tumors. Using the Company's Sleeping Beauty technology, NCI would analyze a patient’s own cancer cells, identify their unique neoantigens and TCRs reactive against those neoantigens and then use the Company's Sleeping Beauty technology to transpose one or more TCRs into T cells for re-infusion. Research conducted under the CRADA will be at the direction of Steven A. Rosenberg, M.D., Ph.D., Chief of the Surgery Branch at the NCI, in collaboration with the Company's researchers. The Company is responsible for providing NCI with the test materials necessary for them to conduct their studies, and eventually, clinical trials pursuant to the CRADA. Inventions, data and materials discovered or produced in connection with performance of the research plan under the CRADA will remain the sole property of the party who produced the discovery. The parties will jointly own all inventions jointly discovered under the research plan. The owner of any invention under the CRADA will make the decision to file a patent covering the invention, or in the case of a jointly owned invention, the Company will have the first opportunity to file a patent covering the invention. If the Company fails to provide timely notice of its decision to NCI or decide not to file a patent covering the joint invention, NCI has the right to make the filing. For any invention solely owned by NCI or jointly made by NCI and the Company for which a patent application was filed, the U.S. Public Health service grants the Company an exclusive option to elect an exclusive or non-exclusive commercialization license. For inventions owned solely by NCI or jointly owned by NCI and the Company, which are licensed according to the terms described above, the Company agreed to grant to the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world. The Company is also required to grant the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world for any of the Company's solely owned inventions. The agreement may be terminated by any of the parties upon 60 days prior written consent. The NCI has a cleared Investigational New Drug Application, or IND, that would permit them to begin this trial. To the Company's knowledge, the trial has not yet enrolled due to matters internal to the NCI and unrelated to the Company's technology. The progress and timeline for this trial, including the timeline for dosing patients, are under control of the NCI. In February 2019, the Company extended the CRADA with the NCI until January 9, 2022, committing an additional $ 5.0 million to this program. In March 2022, the Company entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. The Company did no t record expenses under the CRADA for the three months ended March 31, 2022, as compared to $ 0.6 million for the three months ended March 31, 2021. Patent and Technology License Agreement—The University of Texas MD Anderson Cancer Center and the Texas A&M University System On August 24, 2004, the Company entered into a patent and technology license agreement with MD Anderson and the Texas A&M University System, which the Company refers to, collectively, as the Licensors. Under this agreement, the Company was granted an exclusive, worldwide license to rights (including rights to U.S. and foreign patent and patent applications and related improvements and know-how) for the manufacture and commercialization of two classes of organic arsenicals (water- and lipid-based) for human and animal use. The class of water-based organic arsenicals includes darinaparsin. Under the terms of the agreement, the Company may be required to make additional payments to the Licensors upon achievement of certain other milestones in varying amounts which, on a cumulative basis could total up to an additional $ 4.5 million. In addition, the Licensors are entitled to receive single digit percentage royalty payments on sales from a licensed product and will also be entitled to receive a portion of any fees that the Company may receive from a possible sublicense under certain circumstances. During the three months ended March 31, 2022 and March 31, 2021, no amounts were expensed or paid under the terms of the agreement. Collaboration Agreement with Solasia Pharma K.K. On March 7, 2011, the Company entered into a License and Collaboration Agreement with Solasia Pharma K. K. ("Solasia"), which was amended on July 31, 2014 to include an exclusive worldwide license. Pursuant to the License and Collaboration Agreement, the 13 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) Company granted Solasia an exclusive license to develop and commercialize darinaparsin in both intravenous and oral forms and related organic arsenic molecules, in all indications for human use. As consideration for the license, the Company is eligible to receive from Solasia development- and sales-based milestones, a royalty on net sales of darinaparsin, once commercialized, and a percentage of any sublicense revenue generated by Solasia. Solasia will be responsible for all costs related to the development, manufacturing and commercialization of darinaparsin. The Company’s Licensors, as defined in the agreement, will receive a portion of all milestone and royalty payments made by Solasia to the Company in accordance with the terms of the license agreement with the Licensors. During the three months ended March 31, 2022 and March 31, 2021, the Company did no t record collaboration revenue under the collaboration agreement with Solasia. 9. Stock-Based Compensation The Company recognized stock-based compensation expense on all employee and non-employee awards as follows: For the Three Months Ended March 31, (in thousands) 2022 2021 Research and development 315 733 General and administrative 538 1,464 Stock-based compensation expense $ 853 $ 2,197 The Company granted an aggregate of 2,690,000 stock options during the three months ended March 31, 2022, with a weighted-average grant date fair value of $ 0.47 per share. The Company granted an aggregate of 4,314,438 stock options during the three months ended March 31, 2021, with a weighted-average grant date fair value of $ 2.43 per share. For the three months ended March 31, 2022 and 2021, the fair value of stock options was estimated on the date of grant using a Black-Scholes option valuation model with the following assumptio For the Three Months Ended March 31, 2022 2021 Risk-free interest rate 1.63 – 2.43 % 0.09 – 1.05 % Expected life in years 6.25 5.50 - 6.25 Expected volatility 74.49 - 76.27 % 72.92 - 74.20 % Expected dividend yield — % — % 2. Stock option activity under the Company’s stock option plans for the three months ended March 31, 2022 is as follows: (in thousands, except share and per share data) Number of Shares Weighted- Average Exercise Price Weighted- Average Contractual Term (Years) Aggregate Intrinsic Value Outstanding, December 31, 2021 10,665,869 $ 2.87 Granted 2,690,000 0.69 Cancelled ( 2,386,216 ) 3.68 Outstanding, March 31, 2022 10,969,653 $ 2.16 9.02 $ — Options exercisable, March 31, 2022 3,394,055 $ 3.35 7.86 $ — Options exercisable, December 31, 2021 4,410,312 $ 3.85 7.53 $ — Options available for future grant 15,242,103 At March 31, 2022, total unrecognized compensation costs related to unvested stock options outstanding amounted to $ 7.5 million. The cost is expected to be recognized over a weighted-average period of 2.08 years. A summary of the status of unvested restricted stock for the three months ended March 31, 2022 is as follows: 14 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) Number of Shares Weighted-Average Grant Date Fair Value Unvested, December 31, 2021 1,198,580 $ 2.10 Vested ( 27,819 ) 3.16 Cancelled ( 176,882 ) 2.79 Unvested, March 31, 2022 993,879 $ 1.95 At March 31, 2022, total unrecognized compensation costs related to unvested restricted stock outstanding amounted to $ 1.5 million. The cost is expected to be recognized over a weighted-average period of 2.15 years. 10. Warrants In connection with the Company’s November 2018 private placement which provided net proceeds of approximately $ 47.1 million, the Company issued warrants to purchase an aggregate of 18,939,394 shares of common stock which became exercisable six months after the closing of the private placement (the "November 2018 Warrants"). The November 2018 Warrants had an exercise price of $ 3.01 per share and have a five-year term. The fair value of the November 2018 Warrants was estimated at $ 18.4 million using a Black-Scholes model with the following assumptio expected volatility of 71 %, risk free interest rate of 2.99 %, expected life of five years and no dividends. On July 26, 2019 and September 12, 2019, the Company entered into agreements with existing investors whereby the investors exercised the November 2018 Warrants for an aggregate of 17,803,031 shares of common stock, at an exercise price of $ 3.01 per share. Proceeds from the warrant exercise, after deducting placement agent fees and other related expenses of $ 1.1 million were approximately $ 52.5 million. The Company issued participating investors new warrants to purchase up to 17,803,031 additional shares of common stock (the "2019 Warrants") as consideration for the warrant holders to exercise their November 2018 Warrants. The 2019 Warrants will expire on the fifth anniversary of the initial exercise date and have an exercise price of $ 7.00 . The 2019 Warrants were valued using a Black-Scholes valuation model and resulted in a $ 60.8 million non-cash charge in the Company’s statement of operations in 2019. On October 22, 2019, the Company entered into the 2019 R&D Agreement with MD Anderson. In connection with the execution of the 2019 R&D Agreement, the Company issued the MD Anderson Warrant to purchase 3,333,333 shares of common stock. The MD Anderson Warrant has an initial exercise price of $ 0.001 per share and grant date fair value of $ 14.5 million. The MD Anderson Warrant expires on December 31, 2026 and vests upon the occurrence of certain clinical milestones. The Company will recognize expense on the MD Anderson Warrant in the same manner as if the Company paid cash for services to be rendered. For the three months ended March 31, 2022 and March 31, 2021, the Company did not recognize any expense related to the MD Anderson Warrant as no clinical milestones had been achieved. On August 6, 2021, the Company entered into the Loan and Security Agreement with SVB. Refer to Note 4 - Debt . In connection with the Loan and Security Agreement, the Company issued SVB warrants to purchase 432,844 shares of common stock with an exercise price of $2.22 per share. The warrants have a ten-year life and are fully vested upon issuance. The fair value of the warrants was estimated at $ 0.8 million using a Black-Scholes model with the following assumptio expected volatility of 79 %, risk free interest rate of 1.31 %, expected life of ten years and no dividends. On December 28, 2021, the Company entered into the Amendment, as described in Note 4 - Debt, in connection with which, the original warrants issued to SVB were amended and restated. As amended and restated, the warrants are for up to 649,615 shares of common stock, in the aggregate, at an exercise price per share of $1.16 . The amended and restated warrants expire on August 6, 2031 and were fully vested upon issuance. Using a Black-Scholes model with an expected volatility of 81 %, risk free interest rate of 1.49 %, expected life of 10 years and no dividends, the Company recorded a $ 0.2 million increase in the fair value of the warrants due to the modification of the warrants. The Company assessed whether the warrants require accounting as derivatives. The Company determined that the warrants were (1) indexed to the Company’s own stock and (2) classified in stockholders’ equity in accordance with FASB Accounting Standards Codification (“ASC”) Topic 815, Derivatives and Hedging . As such, the Company has concluded the warrants meet the scope exception for determining whether the instruments require accounting as derivatives and should be classified in stockholders’ equity. 11. Joint Venture On December 18, 2018, the Company entered into a Framework Agreement with TriArm whereby the parties will launch Eden BioCell, to lead clinical development and commercialization of certain Sleeping Beauty -generated CAR-T therapies as set forth in a separate license agreement. 15 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) On January 3, 2019, Eden BioCell was incorporated in Hong Kong as a private company. Eden BioCell, the Company and TriArm entered into a Share Subscription Agreement on January 23, 2019, where the Company and TriArm agreed to contribute certain intellectual property, services and cash (only with respect to TriArm) to Eden BioCell to subscribe for a certain number of newly issued ordinary shares in the share capital of Eden BioCell. The closing of the transaction occurred on July 5, 2019. The Framework Agreement and Share Subscription Agreements were each respectively amended to be effective as of this date. Upon consummation of the joint venture, Eden BioCell and the Company also entered into a license agreement, pursuant to which the Company licensed the rights to Eden BioCell for third generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen for the territory of China (including Macau and Hong Kong), Taiwan and Korea. TriArm and the Company each received a 50 % equity interest in the joint venture in exchange for their contributions to Eden BioCell. The Company determined that Eden BioCell was considered a variable interest entity, or VIE, and concluded that it is not the primary beneficiary of the VIE as it did not have the power to direct the activities of the VIE. As a result, the Company accounts for the equity interest in Eden BioCell under the equity method of accounting as it has the ability to exercise significant influence. In March 2021, Eden BioCell began treating patients in a clinical trial with the Company’s investigational CD19 RPM CAR-T cell therapy, under the IND cleared by the Taiwan FDA in December 2020. In the first half of 2021, two patients were treated in this trial. The lead investigator at National Taiwan University in Taipei, has reported no serious adverse safety events in either of these patients. Laboratory results continue to support, as previously published, that non-viral Sleeping Beauty gene transfer is effective in genetically modifying autologous T-cells. Patients were infused two days after gene transfer, thus shortening the turnaround time and demonstrating an advantage over viral methods. Based on laboratory data from the first two patients generated between March and May 2021, the TriArm/Eden team concluded, in concert with the investigator and the Company, that further process development work is required. In September 2021, TriArm and the Company mutually agreed to dissolve the joint venture. For the three months ended March 31, 2022 and 2021, Eden BioCell incurred a net loss. The Company continues to have no commitment to fund its operations. 12. Subsequent Events The Company has evaluated subsequent events from the balance sheet date through the date on which these financial statements were issued. The Company did not have any material subsequent events that impacted its financial statements or disclosures. 16 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following information should be read in conjunction with our unaudited condensed financial statements and the notes thereto included in this Quarterly Report on Form 10-Q and the audited financial information and the notes thereto included in our Annual Report on Form 10-K, which was filed with the Securities and Exchange Commission, or the SEC, on March 30, 2022, or the Annual Report. Except for the historical information contained herein, the matters discussed in this Quarterly Report on Form 10-Q may be deemed to be forward-looking statements that involve risks and uncertainties. We make such forward-looking statements pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and other federal securities laws. In this Quarterly Report on Form 10-Q, words such as “may,” “expect,” “anticipate,” “estimate,” “intend,” “plan,” and similar expressions (as well as other words or expressions referencing future events, conditions or circumstances) are intended to identify forward-looking statements. Our actual results and the timing of certain events may differ materially from the results discussed, projected, anticipated, or indicated in any forward-looking statements. We caution you that forward-looking statements are not guarantees of future performance and that our actual results of operations, financial condition and liquidity, and the development of the industry in which we operate may differ materially from the forward-looking statements contained in this Quarterly Report. In addition, even if our results of operations, financial condition and liquidity, and the development of the industry in which we operate are consistent with the forward-looking statements contained in this Quarterly Report, they may not be predictive of results or developments in future periods. The following information and any forward-looking statements should be considered in light of factors discussed elsewhere in this Quarterly Report on Form 10-Q, including those risks identified under Part II, Item 1A. Risk Factors. We caution readers not to place undue reliance on any forward-looking statements made by us, which speak only as of the date they are made. We disclaim any obligation, except as specifically required by law and the rules of the SEC, to publicly update or revise any such statements to reflect any change in our expectations or in events, conditions or circumstances on which any such statements may be based, or that may affect the likelihood that actual results will differ from those set forth in the forward-looking statements. Overview We are a clinical-stage oncology-focused cell therapy company developing adoptive TCR-T cell therapy, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. We are leveraging our cancer hotspot mutation TCR library and our proprietary, non-viral Sleeping Beauty gene transfer platform to design and manufacture patient-specific cell therapies that target neoantigens arising from shared tumor-specific mutations in key oncogenic genes, including KRAS , TP53 , and EGFR . In collaboration with the MD Anderson Cancer Center, or MD Anderson, we are currently enrolling patients for a Phase 1/2 clinical trial evaluating ten TCRs reactive to mutated KRAS, TP53 , and EGFR from our TCR library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian, and bile duct, which we refer to as our TCR-T Library Phase 1/2 Trial. On May 2, 2022, we announced that we treated our first patient in this trial; we anticipate reporting interim data in the second half of 2022. We have not generated any product revenue and have incurred significant net losses in each year since our inception. For the three months ended March 31, 2022, we had a net loss of $9.8 million, and as of March 31, 2022, we have incurred approximately $852.6 million of accumulated deficit since our inception in 2003. We expect to continue to incur significant operating expenditures and net losses. Further development of our product candidates will likely require substantial increases in our expenses as we: • continue to undertake clinical trials for product candidates; • seek regulatory approvals for product candidates; • work with regulatory authorities to identify and address program-related inquiries; • implement additional internal systems and infrastructure; • hire additional personnel; and • scale-up the formulation and manufacturing of our product candidates. We continue to seek additional financial resources to fund the further development of our product candidates. If we are unable to obtain sufficient additional capital, one or more of these programs could be delayed, and we may be unable to continue our operations at planned levels and be forced to reduce our operations. Because of the numerous risks and uncertainties associated with product development, we are unable to predict the timing or amount of increased expenses or when or if we will be able to achieve or maintain profitability. 17 Recent Developments On September 27, 2021, we announced a restructuring designed to enable us to focus on and advance our TCR program. As a result of the restructuring, approximately 60 positions were eliminated, and we were able to extend our anticipated cash runway. Given our current development plans and cash management efforts, we anticipate cash resources will be sufficient to fund operations into the second quarter of 2023. The ongoing COVID-19 global pandemic has presented a significant health and economic challenge around the world and may affect our employees, partners and business operations. The full extent to which the COVID-19 pandemic will directly or indirectly impact our business, results of operations and financial condition will depend on future developments that are highly uncertain and cannot be accurately predicted. Supply chain disruptions caused by the pandemic may negatively impact productivity, disrupt our business and delay our clinical programs and timelines. The severity of negative impacts will depend, in part, on the length and magnitude of the disruptions. These and perhaps more severe disruptions in our operations could negatively impact our business, operating results and financial condition. We continue to work with our partners to mitigate the impact the COVID-19 pandemic is having on our business. On May 2, 2022, we announced dosing of the first patient in our TCR-T Library Phase 1/2 trial being conducted at MD Anderson. The TCR-T cell product was successfully manufactured in Alaunos’ cGMP facility in Houston, Texas. We continue to enroll patients in the trial at dose levels according to the clinical protocol. We expect to present interim data at an appropriate scientific or medical conference in the second half of 2022. On May 16, 2022, we presented preclinical data in poster M-234 on Stem-cell memory TCR-T cells targeting hotspot EGFR , KRAS and TP53 neoantigens generated through co-expression of membrane-bound Interleukin-15, or mbIL-15, at the 25th Annual Meeting of the American Society of Gene and Cell Therapy. Our mbIL-15 program is designed to augment the function of TCR-T cells by co-expression of a proprietary potentially more potent mbIL-15. In this preclinical study, we observed that mbIL-15 TCR-T cells specifically targeted and killed tumors expressing matching neoantigen and HLAs with negligible off-target effects. Importantly, mbIL-15 seems to enhance the survival and persistence of TCR-T cells cultured in the absence of exogenous cytokine support. The persisting mbIL-15 TCR-T cells were observed to exhibit a preponderance of long-lived T stem-cell memory cells that were capable to giving rise to effector T cell subsets upon in vitro restimulation. These preclinical observations suggest that our proprietary mbIL-15 technology has the potential to establish long-lived tumor-specific TCR-T cells that may have the potential to survive in circulation and in the suppressive tumor microenvironment. Financial Overview Collaboration Revenue We recognize research and development funding revenue over the estimated period of performance. To date we have not generated product revenue. Unless and until we receive approval from the FDA and/or other regulatory authorities for our product candidates, we cannot sell our products and will not have product revenue. Research and Development Expenses Our research and development expenses consist primarily of salaries and related expenses for personnel, costs of contract manufacturing services, costs of facilities, reagents, and equipment, fees paid to professional service providers in conjunction with our clinical trials, fees paid to contract research organizations in conjunction with clinical trials, fees paid to contract research organizations in conjunction with costs of materials used in research and development, consulting, license and milestone payments and sponsored research fees paid to third parties. Our future research and development expenses in support of our current and future programs will be subject to numerous uncertainties in timing and cost to completion. We test potential products in numerous preclinical studies for safety, toxicology and efficacy. We may conduct multiple clinical trials for each product. As we obtain results from trials, we may elect to discontinue or delay clinical trials for certain products in order to focus our resources on more promising products or indications. Completion of clinical trials may take several years or more, and the length of time generally varies substantially according to the type, complexity, novelty and intended use of a product. It is not unusual for preclinical and clinical development of each of these types of products to require the expenditure of substantial resources. The duration and the cost of clinical trials may vary significantly over the life of a project as a result of differences arising during clinical development, including, among others, the followin • The number of clinical sites included in the trials; • The length of time required to enroll suitable patients; • The number of patients that ultimately participate in the trials; • The length of time and cost to develop and optimize manufacturing processes; 18 • The cost to manufacture the clinical products for patients; • The duration of patient follow-up to ensure the absence of long-term product-related adverse events; and • The efficacy and safety profile of the product. As a result of the uncertainties discussed above, we are unable to determine the duration and completion costs of our programs or when and to what extent we will receive cash inflows from the commercialization and sale of a product. Our inability to complete our programs in a timely manner or our failure to enter into appropriate collaborative agreements could significantly increase our capital requirements and could adversely impact our liquidity. These uncertainties could force us to reduce or eliminate our activities in one or more of our programs or seek additional, external sources of financing from time-to-time in order to continue with our product development strategy. Our inability to raise additional capital, or to do so on terms reasonably acceptable to us, would jeopardize the future success of our business. General and Administrative Expenses General and administrative expenses consist primarily of salaries, benefits and stock-based compensation, consulting and professional fees, including patent related costs, general corporate costs and facility costs not otherwise included in research and development expenses or cost of product revenue. Other Income (Expense) Other income (expense) consists primarily of interest expense associated with our Amended Loan and Security Agreement, as defined below. Overview of Results of Operations Three Months Ended March 31, 2022 Compared to Three Months Ended March 31, 2021 Research and Development Expenses Research and development expenses during the three months ended March 31, 2022 and 2021 were as follows: Three Months Ended March 31, 2022 2021 Change ($ in thousands) Research and development expenses $ 5,580 $ 13,336 $ (7,756 ) (58 )% Research and development expenses for the three months ended March 31, 2022 decreased by $7.8 million, or 58%, when compared to the three months ended March 31, 2021 primarily due to a decrease in program-related costs of $2.8 million as a result of the winding down of our IL-12 and CAR-T programs, a $4.7 million decrease in employee related expenses due to our reduced headcount following our restructuring in the third quarter of 2021, and a $0.3 million decrease in consulting expenses due to a decreased reliance on consultants. For the three months ended March 31, 2022, our clinical stage projects included our TCR-T Library Phase 1/2 trial evaluating TCRs from our library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian, and bile duct cancers. General and administrative expenses General and administrative expenses during the three months ended March 31, 2022 and 2021 were as follows: Three Months Ended March 31, 2022 2021 Change ($ in thousands) General and administrative expenses $ 3,505 $ 8,227 $ (4,722 ) (57 )% General and administrative expenses for the three months ended March 31, 2022 decreased by $4.7 million as compared to the three months ended March 31, 2021, primarily due to a $3.6 million decrease in employee related expenses due to our reduced headcount following our restructuring in the third quarter of 2021, a $0.8 million decrease in consulting and professional services expenses due to lower legal costs and a decreased use of consultants, and a $0.2 million decrease in facilities and other expenses . 19 Other income (expense), net Other income (expense), net during the three months ended March 31, 2022 and 2021 was as follows: Three Months Ended March 31, 2022 2021 Change ($ in thousands) Interest expense $ (683 ) $ — $ (683 ) 100 % Other income (expense), net (20 ) 9 (29 ) (322 )% Total $ (703 ) $ 9 $ (712 ) (7911 )% Other expense, net for the three months ended March 31, 2022 increased by $0.7 million as compared to the three months ended March 31, 2021, primarily due to $0.7 million of interest expense associated with our Amended Loan and Security Agreement, as defined below. Liquidity and Capital Resources Sources of Liquidity We have not generated any revenue from product sales. Since inception, we have incurred net losses and negative cash flows from our operations. To date, we have financed our operations primarily through public offerings of our common stock, private placements of our convertible equity securities, term debt and collaborations. Through March 31, 2022, we have received an aggregate of $714.1 million from issuances of equity and $25.0 million from our Amended Loan and Security Agreement, as defined below. We follow the guidance of Accounting Standards Codification ("ASC") Topic 205-40, Presentation of Financial Statements - Going Concern, in order to determine whether there is substantial doubt about our ability to continue as a going concern for one year after the date our financial statements are issued. Given our current development plans and cash management efforts, we anticipate that our cash resources will be sufficient to fund operations into the second quarter of 2023. Our ability to continue operations after our current cash resources are exhausted depends on our ability to obtain additional financing, as to which no assurances can be given. Cash requirements may vary materially from those now planned because of changes in our focus and direction of our research and development programs, competitive and technical advances, patent developments, regulatory changes or other developments. If adequate additional funds are not available when required, management may need to curtail its development efforts and planned operations to conserve cash. Based on the current cash forecast, management has determined that our present capital resources will not be sufficient to fund our planned operations for at least one year from the issuance date of the financial statements, which raises substantial doubt as to our ability to continue as a going concern. This forecast of cash resources and planned operations is forward-looking information that involves risks and uncertainties, and the actual amount of expenses could vary materially and adversely as a result of a number of factors. 2021 Loan and Security Agreement On August 6, 2021, we entered into a Loan and Security Agreement with Silicon Valley Bank and affiliates of Silicon Valley Bank (collectively, "SVB") (the "Loan and Security Agreement"). The Loan and Security Agreement provided for an initial term loan of $25.0 million funded at the closing ("Term A Tranche"), with an additional tranche of $25.0 million available if certain funding and clinical milestones were met by August 31, 2022 ("Term B Tranche"). Effective December 28, 2021, we entered into a First Amendment (the "Amendment") to the Loan and Security Agreement (as so amended, the "Amended Loan and Security Agreement"). The Amended Loan and Security Agreement extends the interest-only period through August 31, 2022, and provides for an automatic extension through August 31, 2023, if the Amended Milestones (as defined below) are met by August 31, 2022. The Amendment eliminated the Term B Tranche, which remained unfunded, leaving only the Term A Tranche (the "SVB Facility"). Under the Amended Loan and Security Agreement, the SVB Facility will mature on August 1, 2023; however, if we achieve the Amended Milestones on or prior to August 31, 2022, then the maturity will automatically extend to August 1, 2024. As of March 31, 2022, the SVB Facility was fully drawn in the amount of $25.0 million. The SVB Facility bears interest at a floating rate per annum on the outstanding loans, payable monthly, at the greater of (a) 7.75% and (b) the current published U.S. prime rate, plus a margin of 4.5%. The Amended Loan and Security Agreement provides for an interest-only period which extends through August 31, 2022, as compared to March 31, 2022 in the Loan and Security Agreement, and may be automatically extended through August 31, 2023, if, on or prior to August 31, 2022, SVB receives evidence, satisfactory to it, confirming that we have (i) received at least $50.0 million in net cash proceeds from the sale of our equity securities after the date of the Amended Loan and Security Agreement, on terms and 20 conditions acceptable to SVB, and (ii) achieved positive data in the first cohort of the TCR-T Library Phase 1/2 Trial endorsed by an independent safety monitoring committee as a safe dose to proceed (together, the “Amended Milestones”). After the interest-only payment period, aggregate outstanding borrowings are repayable in twelve consecutive, equal monthly installments of principal plus accrued interest. All outstanding principal and accrued and unpaid interest under the SVB Facility and all other outstanding obligations under the Amended Loan and Security Agreement are due and payable on August 1, 2023; however, if we achieve the Amended Milestones on or prior to August 31, 2022, then the maturity will be automatically extended to August 1, 2024. In addition to the payment of the outstanding principal plus accrued interest due, we will also owe SVB 5.75% of the original principal amounts borrowed as a final payment (the "Final Payment"). We are permitted to make up to two prepayments, each payment of at least $5.0 million, subject to the prepayment premium of the SVB Facility. Such prepayment premium would be 3.00% of the principal amount of the SVB Facility if prepaid prior to the first anniversary of the effective date, 2.00% of the principal amount of the SVB Facility if prepaid on or after the first anniversary of the effective date but prior to the second anniversary of the effective date and 1.00% of the principal amount of the SVB Facility if prepaid on or after the second anniversary of the effective date but prior to maturity date. No amount that has been repaid may be reborrowed. The Amended Loan and Security Agreement requires us to cash collateralize half of the sum of the then-outstanding principal amount of the SVB Facility, plus an amount equal to 5.75% of the original principal amount of the SVB Facility if we do not achieve the Amended Milestones on or prior to August 31, 2022. In the event a cash collateralization were to occur, so long as no event of default has occurred, $2.5 million will be released from the collateral account following the eighth scheduled payment of principal and interest, and a further $4.0 million will be released following the tenth scheduled payment of principal and interest on the SVB facility, in each case, so long as (i) after subtracting such scheduled payment, the sum of (a) the aggregate outstanding principal, (b) accrued and unpaid interest and (c) the Final Payment is less than $9,770,933 and $5,604,167, respectively and (ii) the balance in the collateral account after the release would equal or exceed $10.0 million and $6.0 million, respectively. The SVB Facility and related obligations under the Amended Loan and Security Agreement are secured by substantially all of our properties, rights and assets, except for its intellectual property (which is subject to a negative pledge under the Amended Loan and Security Agreement). In addition, the Amended Loan and Security Agreement contains customary representations, warranties, events of default and covenants. In connection with our entry into the Loan and Security Agreement, we issued to SVB warrants to purchase (i) up to 432,844 shares of our common stock, in the aggregate, and (ii) up to an additional 432,842 shares of Common Stock, in the aggregate, in the event we achieve certain clinical milestones, in each case at an exercise price per share of $2.22. In connection with our entry into the Amendment, we amended and restated the warrants issued to SVB. As amended and restated, the warrants are for up to 649,615 shares of our common stock, in the aggregate, at an exercise price per share of $1.16, or the SVB Warrants. The SVB Warrants expire on August 6, 2031. The issuance costs for the Loan and Security Agreement, including the Amended Loan and Security Agreement, were approximately $1.2 million and primarily related to the SVB Warrants, which will be amortized into interest expense over the period to August 1, 2023. Interest expense was $0.7 million for the three months ended March 31, 2022. The fair value of the Amended Loan and Security Agreement as of March 31, 2022 approximates its face value due to proximity to the transaction. Cash Flows The following table summarizes our net decrease in cash and cash equivalents for the three months ended March 31, 2022 and 2021: Three Months Ended March 31, 2022 2021 ($ in thousands) Net cash provided by (used in): Operating activities $ (7,770 ) $ (15,313 ) Investing activities (29 ) (717 ) Financing activities — 1,017 Net decrease in cash and cash equivalents $ (7,799 ) $ (15,013 ) Cash flows from operating activities represent the cash receipts and disbursements related to all of our activities other than investing and financing activities. Operating activities is derived by adjusting our net loss • Non-cash operating items such as depreciation and stock-based compensation; and • Changes in operating assets and liabilities which reflect timing differences between the receipt and payment of cash associated with transactions and when they are recognized in results of operations. 21 Net cash used in operating activities for the three months ended March 31, 2022 was $7.8 million, as compared to net cash used in operating activities of $15.3 million for the three months ended March 31, 2021. The net cash used in operating activities for the three months ended March 31, 2022 was primarily due to our net loss of $9.8 million, adjusted for $1.7 million of non-cash items such as depreciation and stock-based compensation, and a decrease in accounts payable of $0.8 million and a $0.2 million decrease in accrued expenses, offset by a decrease in receivables of $1.1 million due to cash receipts and a decrease to prepaid expenses and other assets of $0.2 million. Net cash used in investing activities was $29 thousand for the three months ended March 31, 2022, compared to $0.7 million for the three months ended March 31, 2021. The decrease of $0.7 million in net cash used in investing activities was primarily a result of the decision to use available cash to expand our internal cell therapy capabilities in our Houston, Texas facilities during the first quarter of 2021. There were no financing activities for the three months ended March 31, 2022. Net cash provided by financing activities during the three months ended March 31, 2021 was $1.0 million, related primarily to proceeds from the exercise of stock options. Operating Capital and Capital Expenditure Requirements We anticipate that losses will continue for the foreseeable future. As of March 31, 2022, our accumulated deficit was approximately $852.6 million. Our actual cash requirements may vary materially from those planned because of a number of factors, includin • changes in the focus, direction and pace of our development programs; • the effect of competing technologies and market developments; • the scope, progress, timing, costs and results of our TCR-T Library Phase 1/2 Trial for the treatment of certain solid tumors and costs associated with the development of our product candidates; • our headcount growth focused on our TCR program and scaling our manufacturing capabilities; • our ability to secure partnering arrangements; and • costs of filing, prosecuting, defending and enforcing any patent claims and any other intellectual property rights, or other developments. As of March 31, 2022, we had approximately $68.3 million of cash and cash equivalents. Given our current development plans, we anticipate our cash resources will be sufficient to fund our operations into the second quarter of 2023. In order to continue our operations beyond our forecasted runway we will need to raise additional capital, and we have no committed sources of additional capital at this time. The forecast of cash resources is forward-looking information that involves risks and uncertainties, and the actual amount of our expenses could vary materially and adversely as a result of a number of factors. We have based our estimates on assumptions that may prove to be wrong, and our expenses could prove to be significantly higher than we currently anticipate. Management does not know whether additional financing will be on terms favorable or acceptable to us when needed, if at all. If adequate additional funds are not available when required, management may need to curtail its development efforts and planned operations. Working capital as of March 31, 2022 was $48.6 million, consisting of $69.8 million in current assets and $21.2 million in current liabilities. Working capital as of December 31, 2021 was $62.8 million, consisting of $78.8 million in current assets and $16.0 million in current liabilities. Operating Leases Our commitments for operating leases relate to laboratory and office space in Houston, Texas and office space in Boston, Massachusetts. On December 21, 2015 and April 15, 2016, we renewed the sublease for our office space in Boston through August 31, 2021. On April 22, 2021, we extended our lease for a portion of office space currently held at our office in Boston. The renewal of the portion of our office space was originally set to expire on August 31, 2021 but was extended through August 31, 2026. On March 12, 2019, we entered into a lease agreement for office space in Houston at MD Anderson through April 2021. On October 15, 2019, we entered into another lease agreement for additional office and laboratory space in Houston through February 2027. On April 7, 2020, we entered into amendments to our existing lease to lease additional office and laboratory space in Houston through February 2027. In June and September 2020, we entered into short-term leases in Houston for additional office and laboratory space. On December 15, 2020, we entered into a second lease in Houston with MD Anderson which provided us additional office and laboratory space through April 2028. 22 Royalty and License Fees On May 28, 2019, we entered into a patent license agreement, or the Patent License, with the National Cancer Institute, or the NCI. The terms of the Patent License require us to pay the NCI minimum annual royalties in the amount of $0.3 million, which will be reduced to $0.1 million once the aggregate minimum annual royalties paid by us equals $1.5 million. For the three months ended March 31, 2022 and 2021, we recognized $0.3 million related to royalty payments under this agreement. As of March 31, 2022, we have paid a total of $0.8 million in minimum annual royalty payments under this agreement. Pursuant to the Patent License, we are also required to make performance-based payments contingent upon the successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $4.3 million, of which aggregate payments of $3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $0.1 million will be due upon the initiation of our first sponsored Phase 1 clinical trial of a licensed product or licensed process in the field of use licensed under the Patent License. In addition, we are required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $250.0 million to $1.0 billion. The aggregate potential amount of these benchmark payments is $12.0 million. No payments were made during the three months ended March 31, 2022 and March 31, 2021. On October 5, 2018, we entered into an exclusive license agreement, or the License Agreement, with PGEN Therapeutics, Inc., or PGEN, a wholly owned subsidiary of Precigen Inc., or Precigen. Under the License Agreement, we are obligated to pay PGEN an annual licensing fee of $0.1 million expected to be paid through the term of the agreement and we have also agreed to reimburse certain historical costs of PGEN up to $1.0 million. For the three months ended March 31, 2022 and March 31, 2021, we have made licensing fee payments in accordance with the terms of the agreement. Pursuant to the terms of the License Agreement, we are responsible for contingent milestone payments totaling up to an additional $52.5 million for each exclusively licensed program upon the initiation of later stage clinical trials and upon the approval of exclusively licensed products in various jurisdictions. In addition, we will pay PGEN tiered royalties ranging from low-single digit to high-single digit on the net sales derived from the sales of any approved IL-12 products and CAR products. We will also pay PGEN royalties ranging from low-single digit to mid-single digit on the net sales derived from the sales of any approved TCR products, up to a maximum royalty amount of $100.0 million in the aggregate. We will also pay PGEN twenty percent of any sublicensing income received by us relating to the licensed products. We are responsible for all development costs associated with each of the licensed products. PGEN will pay us royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of PGEN’s CAR products, up to a maximum royalty amount of $100.0 million. Critical Accounting Policies and Estimates In our Annual Report on Form 10-K for the year ended December 31, 2021, our most critical accounting policies and estimates upon which our financial status depends were identified as those relating to clinical trial expenses and other research and development expenses; collaboration agreements; fair value measurements for stock-based compensation; and income taxes. We reviewed our policies and determined that those policies remain our most critical accounting policies for the three months ended March 31, 2022. Item 3. Quantitative and Qualitative Disclosures about Market Risk. As a smaller reporting company, as defined by Rule 12b-2 under the Securities Exchange Act of 1934, as amended, or the Exchange Act, we are not required to provide the information under this item. Item 4. Controls and Procedures. Evaluation of Disclosure Controls and Procedures Our management, with the participation of our principal executive officer and principal accounting officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) or 15d-15(e) under the Exchange Act) as of March 31, 2022. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by the company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal accounting officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Our management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and our management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of our disclosure controls and procedures as of March 31, 2022, our principal executive officer and principal accounting officer concluded that, as of such date, our disclosure controls and procedures were effective at the reasonable assurance level. 23 Changes in Internal Control over Financial Reporting There were no changes in our internal control over financial reporting (as defined in Rule 13(a)-15(f) of the Exchange Act) that occurred during the three months ended March 31, 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 24 PART II—OTHER INFORMATION Item 1. Legal Proceedings In the ordinary course of business, we may periodically become subject to legal proceedings and claims arising in connection with ongoing business activities from time to time. The results of litigation and claims cannot be predicted with certainty, and unfavorable resolutions are possible and could materially affect our results of operations, cash flows or financial position. In addition, regardless of the outcome, litigation could have an adverse impact on us because of defense costs, diversion of management attention and resources and other factors. As of March 31, 2022, based on information readily available, there are no material matters that, in the opinion of management, are likely to result in a material adverse effect on our financial position, results of operations or cash flows. Item 1A. Risk Factors The following important factors could cause our actual business and financial results to differ materially from those contained in forward-looking statements made in this Quarterly Report on Form 10-Q or elsewhere by management from time to time. The risk factors in this Quarterly Report have been revised to incorporate changes to our risk factors from those included in our Annual Report. The risk factors set forth below with an asterisk (*) before the title are new risk factors or ones containing substantive changes from the risk factors previously disclosed in Item 1A of our Annual Report, as filed with the SEC. The market price of our common stock could decline if one or more of these risks or uncertainties actually occur, causing you to lose all or part of your investment. The impact of COVID-19 may also exacerbate other risks discussed in this filing, any of which could have a material effect on us. This situation is changing rapidly and additional impacts may arise. Additional risks that we currently do not know about, or that we currently believe to be immaterial, may also impair our business. Certain statements below are forward-looking statements. See “Special Note Regarding Forward-Looking Statements” in this Quarterly Report. RISKS RELATED TO OUR BUSINESS *We will require substantial additional financial resources to continue as a going concern and to continue ongoing development of our product candidates and pursue our business objectives; if we are unable to obtain these additional resources when needed, we may be forced to delay or discontinue our planned operations, including clinical testing of our product candidates. We have not generated significant revenue and have incurred significant net losses in each year since our inception. For the three months ended March 31, 2022, we had a net loss of $9.8 million, and, as of March 31, 2022, our accumulated deficit since inception in 2003 was $852.6 million. We expect our operating expenditures and net losses to increase significantly in connection with our ongoing clinical trial and our internal research and development capabilities. Further development of our product candidates will require substantial increases in our expenses as we: • continue to undertake clinical trials for product candidates; • scale-up and scale-out the manufacturing of our TCR-T product candidates; • seek regulatory approvals for product candidates; • work with regulatory authorities to identify and address program-related inquiries; • implement additional internal systems and infrastructure; and • hire additional personnel, including highly-skilled and experienced scientific staff. As of March 31, 2022, we have approximately $68.3 million of cash and cash equivalents. Given our current development plans and cash management efforts, we anticipate cash resources will be sufficient to fund operations into the second quarter of 2023, and we have no committed sources of additional capital at this time. We follow the guidance of Accounting Standards Codification ("ASC") Topic 205-40, Presentation of Financial Statements - Going Concern , in order to determine whether there is substantial doubt about our ability to continue as a going concern for one year after the date our financial statements are issued. Based on the current cash forecast, management has determined that our present capital resources will not be sufficient to fund our planned operations for at least one year from the issuance date of the financial statements, which raises substantial doubt as to our ability to continue as a going concern. The forecast of cash resources is forward-looking information that involves risks and uncertainties, and our actual cash requirements may vary materially from our current expectations for a number of other factors that may include, but are not limited to, changes in the focus and direction of our development programs, slower and/or faster than expected progress of our research and development 25 efforts, changes in governmental regulation, competitive and technical advances, rising costs associated with the development of our product candidates, our ability to secure partnering arrangements, and costs of filing, prosecuting, defending and enforcing our intellectual property rights. The COVID-19 pandemic continues to evolve and has already resulted in a significant disruption of global financial markets. If the disruption persists and deepens, we could experience an inability to access additional capital, which could in the future negatively affect our operations. If we exhaust our capital reserves more quickly than anticipated, regardless of the reason, and we are unable to obtain additional financing on terms acceptable to us or at all, we may be required to delay, limit, reduce or terminate our product development or future commercialization efforts or grant rights to develop and market product candidates that we would otherwise prefer to develop and market ourselves. We need to raise additional capital to fund our operations. The manner in which we raise any additional funds may affect the value of your investment in our common stock. Until such time, if ever, as we can generate substantial revenue, we expect to finance our cash needs through a combination of equity offerings, debt financings and license and collaboration agreements. We do not have any committed external source of funds. The unpredictability of the capital markets may severely hinder our ability to raise capital within the time periods needed or on terms we consider acceptable, if at all. In particular, a decline in the market price of our common stock could make it more difficult for us to sell equity or equity-related securities in the future at a time and price that we deem appropriate. Moreover, if we fail to advance one or more of our current product candidates into early or later-stage clinical trials, successfully commercialize one or more of our product candidates, or acquire new product candidates for development, we may have difficulty attracting investors that might otherwise be a source of additional financing. On August 6, 2021, we entered into the Loan and Security Agreement with SVB. The Loan and Security Agreement provided for an initial term loan of $25.0 million funded at the closing, with an additional tranche of $25.0 million available if certain funding and clinical milestones were met by August 31, 2022. In connection with the initial borrowing, we also issued warrants to SVB and certain of its affiliates for the purchase of up to 432,844 shares of our common stock, in the aggregate, at an exercise price of $2.22 per share. The Loan and Security Agreement was subsequently amended, effective December 28, 2021, to, among other things, eliminate the additional tranche so that the $25.0 million we have drawn down is the full amount available under the SVB Facility. As a result, we do not have any other borrowings available under the SVB Facility. In connection with entering into the Amendment we also amended and restated the warrants. These amended and restated warrants provide for the purchase of up to 649,615 shares of our common stock, in the aggregate, at an exercise price of $1.16 per share. To the extent that we raise additional capital by issuing equity securities, our existing stockholders’ ownership will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect the rights of our common stockholders. Debt financing and preferred equity financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, creating liens, making capital expenditures or declaring dividends. Furthermore, the ongoing impact of COVID-19 and geopolitical instability, including the recent military conflict between Russia and Ukraine, on global financial markets could make the terms of any available financing less attractive to use and more dilutive to our existing shareholders. If we raise additional funds through collaborations, strategic alliances or marketing, distribution or licensing arrangements with third parties, we may have to relinquish valuable rights to our technologies, future revenue streams, research programs or product candidates or grant licenses on terms that may not be favorable to us. We have incurred indebtedness that could adversely affect our business and place restrictions on our operating and financial flexibility. The Amended Loan and Security Agreement contains customary affirmative and negative covenants and events of default applicable to us and any subsidiaries. The affirmative covenants require us (and us to cause our subsidiaries, if any) to maintain governmental approvals, deliver certain financial reports, maintain insurance coverage, and protect material intellectual property, among other things. The negative covenants restrict our and our subsidiaries’ ability to, among other things, transfer collateral, change our business, engage in mergers or acquisitions, incur additional indebtedness, pay cash dividends or make other distributions, make investments, create liens, sell assets and make any payment on subordinated debt. The restrictive covenants of the Amended Loan and Security Agreement could cause us to be unable to pursue business opportunities that we or our stockholders may consider beneficial, including entering into certain licensing arrangements, maintaining flexible cash management arrangements and engaging in certain change in control transactions, among others. 26 Our debt combined with our other financial obligations and contractual commitments could have significant adverse consequences for our business, includin • Requiring us to dedicate a substantial portion of cash flows to payment on our debt, which would reduce available funds for further research and development; • Increasing the amount of interest that we must pay on debt with variable interest rates, if market rates of interest increase; • Subjecting us to restrictive covenants that reduce our ability to take certain corporate actions, acquire companies, products or technology, or obtain further debt financing; and • Requiring us to pledge our non-intellectual property assets as collateral, which could limit our ability to obtain additional debt financing. We intend to satisfy our debt service obligations with our existing cash and cash equivalents and any additional amounts we may raise through future debt and equity financings. Our ability to make payments due under the SVB Facility depends on our future performance, which is subject to economic, financial, competitive conditions and other factors beyond our control. We may not have sufficient funds or may be unable to arrange for additional financing to pay the amounts due under our existing debt. In addition, a failure to comply with certain equity raise and clinical milestone requirements in the Amended Loan and Security Agreement could result in us having to deposit unrestricted and unencumbered cash equal to 50% of the principal amount of the SVB Facility then outstanding and an amount equal to 5.75% of the original principal amount in a cash collateral account with SVB. Failure to pay any amount due under the SVB Facility, to comply with covenants under the Amended Loan and Security Agreement, or the occurrence of an event that would reasonably be expected to have a material adverse effect on our business, operations, or condition (financial or otherwise), would result in an event of default. The occurrence and continuation of an event of default could cause interest to be charged at the rate that is otherwise applicable plus 3.00% (unless SVB elects to impose a smaller increase) and would provide SVB with the right to accelerate all obligations under the SVB Facility and exercise remedies against us and the collateral securing the SVB Facility and other obligations under the Amended Loan and Security Agreement, including foreclosure against assets securing the SVB Facility. In addition, the covenants under the Amended Loan and Security Agreement and the pledge of substantially all of our assets, excluding our intellectual property (which is subject to a negative pledge under the Amended Loan and Security Agreement), as collateral on the loan may limit our ability to obtain additional debt financing. *We have previously identified material weaknesses in our internal control, all of which have been remediated. We may identify additional material weaknesses in the future or otherwise fail to maintain an effective system of internal controls, which may result in material misstatements of our financial statements or could have a material adverse effect on our business and trading price of our securities. We are subject to the reporting requirements of the Exchange Act, the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, and the rules and regulations of the Nasdaq Global Select Market. Pursuant to Section 404 of the Sarbanes-Oxley Act, we are required to perform system and process evaluation and testing of our internal control over financial reporting to allow our management to report on the effectiveness of our internal control over financial reporting. We may also be required to have our independent registered public accounting firm issue an opinion on the effectiveness of our internal control over financial reporting on an annual basis. We have identified material weaknesses in our internal control over financial reporting in the past. A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of our financial statements will not be prevented or detected on a timely basis. Although the material weaknesses identified in the past have been remediated, we cannot assure you that any measures we have taken or may take in the future will be sufficient to avoid potential future material weaknesses. If we are unable to successfully remediate any future material weakness and maintain effective internal controls, we may not have adequate, accurate or timely financial information, and we may be unable to meet our reporting obligations as a public company, including the requirements of the Sarbanes-Oxley Act, we may be unable to accurately report our financial results in future periods, or report them within the timeframes required by the requirements of the SEC, Nasdaq or the Sarbanes-Oxley Act. Failure to comply with the Sarbanes-Oxley Act, when and as applicable, could also potentially subject us to sanctions or investigations by the SEC or other regulatory authorities. Any failure to maintain or implement required new or improved controls, or any difficulties we encounter in their implementation, could result in the identification of additional material weaknesses or significant deficiencies, cause us to fail to meet our reporting obligations or result 27 in material misstatements in our financial statements. Furthermore, if we cannot provide reliable financial reports or prevent fraud, our business and results of operations could be harmed and investors could lose confidence in our reported financial information. Our plans to develop and commercialize non-viral adoptive TCR-T cell therapies can be considered a new approach to cancer treatment, the successful development of which is subject to significant challenges. We intend to employ technologies such as the technology licensed from MD Anderson pursuant to that certain license agreement between us, Precigen, and MD Anderson, with an effective date of January 13, 2015, or the MD Anderson License, which was subsequently assigned by Precigen and assumed by PGEN effective as of January 1, 2018, from PGEN, pursuant to the License Agreement, and from NCI, pursuant to the Patent License described above, to pursue the development and commercialization of non-viral cellular therapies based on T-cells and TCRs, targeting solid tumor malignancy. Because this is a new approach to cancer immunotherapy and cancer treatment generally, developing and commercializing product candidates subjects us to a number of challenges, includin • obtaining regulatory approval from the FDA and other regulatory authorities that have very limited experience with the commercial development of genetically modified T-cell therapies for cancer; • designing and conducting our clinical trials using this new approach or selecting the appropriate TCRs in a way that may lead to optimal results; • identifying and manufacturing appropriate TCRs from either the patient or third parties that can be administered to a patient; • developing and deploying consistent and reliable processes for engineering a patient’s and/or donor’s T-cells ex vivo and infusing the T cells back into the patient; • conditioning patients with chemotherapy in conjunction with delivering each of the potential products, which may increase the risk of adverse side effects of the potential products; • educating medical personnel regarding the potential side effect profile of each of the potential products, such as the potential adverse side effects related to cytokine release; • addressing any competing technological and market developments; • developing processes for the safe administration of these potential products, including long-term follow-up for all patients who receive the potential products; • sourcing additional clinical and, if approved, commercial supplies for the materials used to manufacture and process the potential products; • developing a manufacturing process with a cost of goods that allows for an attractive return on investment; • establishing sales and marketing capabilities after obtaining any regulatory approval to gain market acceptance; • developing therapies for types of cancers beyond those addressed by the current potential products; • maintaining and defending the intellectual property rights relating to any products we develop; and • not infringing the intellectual property rights, in particular, the patent rights, of third parties, including competitors, such as those developing T-cell therapies. We cannot assure you that we will be able to successfully address these challenges, which could prevent us from achieving our research, development and commercialization goals. Our current product candidates are based on novel technologies and are supported by limited clinical data and we cannot assure you that our current and planned clinical trials will produce data that supports regulatory approval of one or more of these product candidates. Our genetically modified TCR-T cell product candidates are supported by limited clinical data, all of which has been generated through trials conducted by MD Anderson and the NCI, not by us. We have assumed control of the overall clinical and regulatory development of our TCR-T cell product candidates, and any failure to obtain, or delays in obtaining, sponsorship of new INDs, or in 28 filing INDs sponsored by us for these or any other product candidates we determine to advance could negatively affect the timing of our potential future clinical trials. Such an impact on timing could increase research and development costs and could delay or prevent obtaining regulatory approval for our product candidates, either of which could have a material adverse effect on our business. We began enrolling patients in our TCR-T Library Phase 1/2 Trial in January 2022. Further, we did not control the design or conduct of the previous trials. It is possible that the FDA will not accept these previous trials as providing adequate support for future clinical trials, whether controlled by us or third parties, for any of one or more reasons, including the safety, purity and potency of the product candidate, the degree of product characterization, elements of the design or execution of the previous trials or safety concerns or other trial results. We may also be subject to liabilities arising from any treatment-related injuries or adverse effects in patients enrolled in these previous trials. As a result, we may be subject to unforeseen third-party claims and delays in our potential future clinical trials. We may also be required to repeat in whole or in part clinical trials previously conducted by MD Anderson or other entities, which will be expensive and delay the submission and licensure or other regulatory approvals with respect to any of our product candidates. Moreover, there are a number of regulatory requirements that we must continue to satisfy as we conduct our clinical trials of TCR-T cell product candidates in the United States. The criteria these regulators use to determine the safety and efficacy of a product candidate vary substantially according to the type, complexity, novelty and intended use and market of the potential products and change frequently. Satisfaction of these requirements will entail substantial time, effort and financial resources. To date, the FDA has approved only a few adoptive cell therapies for commercialization. Because adoptive cell therapies are relatively new and our product candidates employ novel gene expression and cell technologies, regulatory agencies may lack experience in evaluating product candidates like our Library TCR-T product candidates. This novelty may heighten regulatory scrutiny of our therapies or lengthen the regulatory review process, including the time it takes for the FDA to review our IND applications if and when submitted, increase our development costs and delay or prevent commercialization of our product candidates. These factors make it difficult to determine how long it will take or how much it will cost to obtain regulatory approvals for our product candidates. Any time, effort and financial resources we expend on our clinical product candidates and other early-stage product development programs, which are ultimately not successful may adversely affect our business. We report interim data on certain of our clinical trials and we cannot assure you that interim data will be predictive of either future interim results or final study results. In addition, the results ultimately obtained from our preclinical studies or other earlier clinical trials for our product candidates may not be predictive of future results. As part of our business, we provide updates related to the development of our product candidates, which may include updates related to interim clinical trial data. We anticipate that our clinical trials will involve small patient populations and because of the small sample size, the interim results of these, and all, clinical trials may be subject to substantial variability and may not be indicative of either future interim results or final results. We commenced enrollment in our TCR-T Library Phase 1/2 Trial in January 2022 and announced the treatment of the first patient in May 2022. We do not know at this stage whether patient response data from this trial will be favorable, and initial success in clinical trials may not be indicative of results obtained when such trials are completed. Our product candidates may fail to show the desired safety and efficacy in clinical development, and we cannot assure you that the results of any future trials will demonstrate the value and efficacy of our product candidates. Even if our clinical trials are completed as planned, we cannot be certain that their results will support approval of our product candidates. There are no approved engineered TCR-T cell immunotherapies for solid tumors. We believe our product candidates may be effective against solid tumors and plan to develop product candidates for use in solid tumors. We cannot guarantee that our product candidates will be able to access the solid tumor or show any functionality in the solid tumor microenvironment. The cellular environment in which solid tumor cells thrive is generally hostile to T cells due to factors such as the presence of immunosuppressive cells, humoral factors and limited access to nutrients. In addition, the safety profile of our product candidates may differ in a solid tumor setting. If we are unable to make our product candidates function in solid tumors, our development plans and business will be significantly harmed. Preliminary data also remain subject to audit and verification procedures that may result in the final data being materially different from the preliminary data we previously announced. Negative differences between preliminary or interim data and final data could materially adversely affect the prospects of any product candidate that is impacted by such data updates. 29 In addition, the results of any preclinical studies for our product candidates may not be predictive of the results of clinical trials. For example, preclinical models as applied to cell therapy in oncology do not adequately represent the clinical setting, and thus cannot predict clinical activity nor all potential risks. We will need to attract, recruit and retain qualified personnel and we will continue to rely on key scientific and medical advisors, and their knowledge of our business and technical expertise would be difficult to replace. In 2021, we experienced transitions in our senior management culminating in the appointment of Kevin S. Boyle, Sr. as Chief Executive Officer and a member of the board of directors in August 2021 and the hiring of Michael Wong as our Vice President, Finance in September 2021 and his appointment as principal accounting officer in November 2021. In November 2021, we hired Melinda Lackey as our Senior Vice President, Legal. Management transition is often difficult and inherently causes some loss of institutional knowledge and creates potential uncertainty in strategy execution. In addition, we may not be able to attract or retain qualified management and commercial, scientific and clinical personnel due to the intense competition for qualified personnel among biotechnology, pharmaceutical and other businesses. If we are not able to attract and retain necessary personnel to accomplish our business objectives, we may experience constraints that will significantly impede the achievement of our development objectives, our ability to raise additional capital and our ability to implement our business strategy. We are highly dependent on our principal scientific, regulatory and medical advisors. The loss of any of our key personnel, could result in delays in product development, loss of key personnel or partnerships and diversion of management resources, which could adversely affect our operating results. We do not carry “key person” life insurance policies on any of our officers or key employees. We face substantial competition from other biopharmaceutical companies, which may result in others discovering, developing or commercializing products before, or more successfully than, we do. Our TCR-T cell therapies targeting solid tumors face significant competition from multiple companies, and their collaborators, in the TCR and CAR technology space. We face competition from several companies, including Achilles Therapeutics, Adaptimmune Therapeutics in collaboration with GlaxoSmithKline, Affini-T Therapeutics, ArsenalBio, bluebird bio, BioNTech, Bristol-Myers Squibb, Immatics, Iovance Biotherapeutics, Lion TCR, Lyell Immunopharma, Medigene, Nurix Therapeutics, Neogene Therapeutics, NexImmune, PACT Pharma, Precigen, Tactiva Therapeutics, Takara Bio, TCR 2 Therapeutics, T-knife Therapeutics, Tmunity Therapeutics, TScan Therapeutics, Turnstone Biologics, Zelluna Immunotherapy and others. Many of these companies are either investigating TCR-T cells against germline antigens or are utilizing tumor infiltrating lymphocytes. Some are pursuing CAR-T cells for solid tumors. In contrast, we are focused on developing TCR-T cell products against neoantigens arising from somatic mutations in solid tumors. Companies in the T-cell therapy segment that have target discovery platforms like ours include Adaptive Therapeutics, Affini-T Therapeutics, Immatics, Enara Bio, T-knife Therapeutics, TScan Therapeutics and 3T Biosciences. Several companies, including Advaxis, Amgen, BioNTech, Geneos Therapeutics, and Gritstone, are pursuing vaccine platforms to target neoantigens for solid tumors. Other companies are developing non-viral gene therapies, including Poseida Therapeutics and several companies developing CRISPR technology, including Crispr Therapeutics. Several companies are pursuing the development of allogeneic CAR-T therapies, including Allogene Therapeutics, Atara Biotherapeutics, Precision Biosciences, and Servier Laboratories (in collaboration with Cellectis), which may compete with our product candidates. We also face competition from companies developing therapies using cells other than T cells such as Athenex, Fate Therapeutics, ImmunityBio, IN8bio, Nkarta Therapeutics, and Takeda Pharmaceutical. Other competitors are developing T cells with cytokines such as Fate Therapeutics and Obsidian Therapeutics. Finally, we also face competition from non- cell-based treatments offered by other companies such as Amgen, AstraZeneca, Bristol-Myers Squibb, Incyte, Merck, and Roche. Additionally, our ability to pursue partnerships relating to our IL-12 and CAR-T programs may be impacted by substantial competition from these and other biopharmaceutical companies. Even if we obtain regulatory approval of potential TCR products, we may not be the first to market and that may affect the price or demand for our potential products. Existing or future competing products may provide greater therapeutic convenience or clinical or other benefits for a specific indication, or fewer side effects, than our potential products or may offer comparable performance at a lower cost. Additionally, the availability and price of our competitors’ products could limit the demand and the price we are able to charge for our potential products thereby reducing or eliminating our commercial opportunity. We may not be able to implement our business plan if the acceptance of our potential products is inhibited by price competition or the reluctance of physicians to switch from existing methods of treatment to our potential products, or if physicians switch to other new drug or biologic products or choose to reserve our potential products. Additionally, a competitor could obtain orphan product exclusivity from the FDA with respect to such competitor’s product. If such competitor product is determined to be the same product as one of our potential products, that may 30 prevent us from obtaining approval from the FDA for such potential products for the same indication for seven years, except in limited circumstances. If our potential products fail to capture and maintain market share, we may not achieve sufficient product revenues and our business will suffer. We compete against fully integrated pharmaceutical companies and smaller companies that are collaborating with larger pharmaceutical companies, academic institutions, government agencies and other public and private research organizations. Many of these competitors have products already approved or in development. In addition, many of these competitors, either alone or together with their collaborative partners, operate larger research and development programs or have substantially greater financial resources than we do, as well as significantly greater experience in: • developing drugs and biopharmaceuticals; • undertaking preclinical testing and human clinical trials; • obtaining FDA and other regulatory approvals of drugs and biopharmaceuticals; • formulating and manufacturing drugs and biopharmaceuticals; and • launching, marketing and selling drugs and biopharmaceuticals. Our ability to compete may be affected in many cases by insurers or other third-party payors seeking to encourage the use of generic products. Any termination of our licenses with PGEN, MD Anderson or the National Cancer Institute or our research and development agreements with MD Anderson and the National Cancer Institute could result in the loss of significant rights and could harm our ability to develop and commercialize our product candidates. We are dependent on patents, know-how, and proprietary technology that are licensed from others, particularly MD Anderson, PGEN, and the NCI, as well as the contributions by MD Anderson under our research and development agreements. Any termination of these licenses or research and development agreements could result in the loss of significant rights and could harm our ability to commercialize our product candidates. Disputes may also arise between us and these licensors regarding intellectual property subject to a license agreement, including those relating t • the scope of rights granted under the applicable license agreement and other interpretation-related issues; • whether and the extent to which our technology and processes, and the technology and processes of PGEN, MD Anderson, the NCI and our other licensors, infringe intellectual property of the licensor that is not subject to the applicable license agreement; • our right to sublicense patent and other rights to third parties pursuant to our relationships with our licensors and partners; • whether we are complying with our diligence obligations with respect to the use of the licensed technology in relation to our development and commercialization of our potential products under the MD Anderson License, the License Agreement with PGEN and our patent license agreement with the NCI; • whether or not our partners are complying with all of their obligations to support our programs under licenses and research and development agreements; and • the allocation of ownership of inventions and know-how resulting from the joint creation or use of intellectual property by our licensors and by us. If disputes over intellectual property that we have licensed prevent or impair our ability to maintain our current licensing arrangements, particularly with MD Anderson, PGEN and the NCI, on acceptable terms, we may be unable to successfully develop and commercialize the affected potential products. We are generally also subject to all of the same risks with respect to protection of intellectual property that we license as we are for intellectual property that we own. If we or our licensors fail to adequately protect this intellectual property, our ability to commercialize potential products under our applicable licenses could suffer. There is a substantial amount of litigation involving patents and other intellectual property rights in the biotechnology and pharmaceutical industries, as well as administrative proceedings for challenging patents, including interference, derivation, and reexamination proceedings before the United States Patent and Trademark Office, or USPTO, or oppositions and other comparable proceedings in foreign jurisdictions. Recently, due to changes in U.S. law referred to as patent reform, new procedures including inter partes review 31 and post-grant review have been implemented, which adds uncertainty to the possibility of challenge to our or our licensors’ patents in the future. We may not be able to retain the rights licensed to us and PGEN by MD Anderson or the rights licensed to us by the National Cancer Institute to technologies relating to TCR-T cell therapies and other related technologies. Under the MD Anderson License, we, together with PGEN, received an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR-T cell and TCR-T cell therapies as well as either co-exclusive or non-exclusive licenses under certain related technologies. These proprietary methods and technologies, along with others within PGEN’s technology suite and licensed to us by PGEN, may help realize the promise of genetically modified TCR-T cell therapies by controlling cell expansion and activation in the body, minimizing off-target and unwanted on-target effects and toxicity while maximizing therapeutic efficacy. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term, we and PGEN shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After 10 years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if we and PGEN are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if we and PGEN are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by us or PGEN, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both us or PGEN and may be terminated by the mutual written agreement of us, PGEN and MD Anderson. Under the Patent License, we received an exclusive, worldwide license to certain intellectual property and patents from NCI for TCRs we can introduce into T cells using transposon-based genetic engineering. These T cells may be used in our TCR-T Library Phase 1/2 Clinical Trial or in subsequent clinical trials, if initiated. The term of the Patent License shall expire with the last of the licensed patents. The NCI could terminate or modify the Patent License if it believes we have materially breached, by failing to meet the defined milestones by the required dates, or upon certain insolvency events that are not cured within the 90-day time limit once we are notified of such alleged breach. The Patent License is also subject to certain public use requirements wherein the NCI could require us to sublicense certain product candidates or terminate or modify the Patent License if we do not meet these public use requirements. The Patent License could also be terminated by the NCI if we are unable to pay the required benchmark payments or the annual minimum royalty payments. There can be no assurance that we will be able to successfully perform under the MD Anderson License or the Patent License and if the MD Anderson License or the Patent License is terminated it may prevent us from achieving our business objectives. We are partly reliant on the National Cancer Institute for research and development and early clinical testing of certain of our product candidates. A portion of our research and development is being conducted by the NCI under the CRADA entered into in January 2017 and which was amended in March 2018, February 2019 and March 2022. Under the CRADA, the NCI, with Dr. Steven A. Rosenberg as the principal investigator, is responsible for conducting a clinical trial using the Sleeping Beauty system to express TCRs for the treatment of solid tumors. We have limited control over the nature or timing of the NCI’s clinical trial and limited visibility into their day-to-day activities, including with respect to how they are providing and administering T-cell therapy. For example, the research we are funding constitutes only a small portion of the NCI’s overall research. Additionally, other research being conducted by Dr. Rosenberg may at times receive higher priority than research on our program. Further, in response to the COVID-19 pandemic, the NCI has taken precautionary measures that have delayed the enrollment of the personalized TCR-T clinical trial using the Sleeping Beauty system to express TCRs for the treatment of solid tumors. In addition, enrollment in this clinical trial has been temporarily suspended due to issues internal to NCI and unrelated to our technology. The progress and timeline, including the timeline for dosing patients, for this trial are under the control of the NCI. The CRADA expired by its terms on January 9, 2022. In March 2022, we entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. 32 We may not be able to commercialize any products, generate significant revenues, or attain profitability. To date, none of our product candidates have been approved for commercial sale in any country. The process to develop, obtain regulatory approval for, and commercialize potential product candidates is long, complex and costly. Unless and until we receive approval from the FDA and/or other foreign regulatory authorities for our product candidates, we cannot sell our products and will not have product revenues. Even if we obtain regulatory approval for one or more of our product candidates, if we are unable to successfully commercialize our products, we may not be able to generate sufficient revenues to achieve or maintain profitability or to continue our business without raising significant additional capital, which may not be available. Our failure to achieve or maintain profitability could negatively impact the trading price of our common stock. Our operating history makes it difficult to evaluate our business and prospects. We have not previously completed any pivotal clinical trials, submitted a BLA or demonstrated an ability to perform the functions necessary for the successful commercialization of any product candidates. The successful commercialization of any product candidates will require us to perform a variety of functions, includin • Continuing to undertake preclinical development and clinical trials; • Participating in regulatory approval processes; • Formulating and manufacturing products; and • Conducting sales and marketing activities. Our operations have been limited to organizing and staffing our company, acquiring, developing and securing our proprietary product candidates and undertaking preclinical and clinical trials of our product candidates. These operations provide a limited basis for you to assess our ability to commercialize our product candidates and the advisability of investing in our securities. We may not be successful in establishing development and commercialization collaborations, which failure could adversely affect, and potentially prohibit, our ability to develop our product candidates. Developing biopharmaceutical products and complementary technologies, conducting clinical trials, obtaining marketing approval, establishing manufacturing capabilities and marketing approved products is expensive, and therefore, we anticipate exploring collaborations with third parties that have alternative technologies, more resources and more experience than we do. In situations where we enter into a development and commercial collaboration arrangement for a product candidate or complementary technology, we may also seek to establish additional collaborations for development and commercialization in territories outside of those addressed by the first collaboration arrangement for such product candidate or technology. There are a limited number of potential partners, and we expect to face competition in seeking appropriate partners. If we are unable to enter into any development and commercial collaborations and/or sales and marketing arrangements on reasonable and acceptable terms, if at all, we may be unable to successfully develop and seek regulatory approval for our product candidates and/or effectively market and sell future approved products, if any, in some or all of the territories outside of the United States where it may otherwise be valuable to do so. We may not be able to successfully manage our growth as we expand our development and regulatory capabilities, which could disrupt our operations. As we advance our product candidates to the point of, and through, clinical trials, we will need to expand our development, regulatory, manufacturing, marketing and sales capabilities or contract with third parties to provide for these capabilities. Our future financial performance and our ability to commercialize our product candidates and to compete effectively will depend, in part, on our ability to manage any future growth effectively. To manage this growth, we must expand our facilities, augment our operational, financial and management systems and hire and train additional qualified personnel with expertise in preclinical and clinical research and testing, manufacturing, government regulation and eventually sales and marketing. Competition for qualified individuals is intense among numerous biopharmaceutical companies, universities, and other research institutions and we cannot be certain that our search will be successful. If we are unable to manage our growth effectively, including attracting and retaining qualified personnel, our business may be harmed. 33 Restructuring activities could disrupt our business and effect our results of operations. In addition, we may not achieve anticipated benefits and saving from such restructuring activities . In September 2021, we announced a restructuring enabling us to focus on and enhance our TCR program. We eliminated approximately 60 positions, representing more than 50% of our workforce. The restructuring resulted in the loss of institutional knowledge and expertise and the reallocation of and combination of certain roles and responsibilities across the organization, all of which could adversely affect our operations. Further, the restructuring and possible additional cost-containment measures may yield unintended consequences, such as attrition beyond our intended workforce reduction and reduced employee morale. In addition, we may not achieve anticipated benefits from the restructuring. Due to our limited resources, we may not be able to effectively manage our operations or retain qualified personnel, which may result in weaknesses to our infrastructure and operations, risks that we may be unable to comply with legal and regulatory requirements, and loss of employees and reduced productivity among remaining employees. For example, the workforce reduction may negatively impact our clinical, manufacturing and regulatory functions, which would have a negative impact on our ability to successfully develop and, ultimately, commercialize our product candidates. If our management is unable to successfully manage this transition and restructuring activities, our expenses may be more than expected and we may be unable to implement our business strategy. As a result, our future financial performance and our ability to commercialize our product candidates successfully would be negatively affected. Our business will subject us to the risk of liability claims associated with the use of hazardous materials and chemicals. Our contract research and development activities may involve the controlled use of hazardous materials and chemicals. Although we believe that our safety procedures for using, storing, handling and disposing of these materials comply with federal, state and local laws and regulations, we cannot completely eliminate the risk of accidental injury or contamination from these materials. In the event of such an accident, we could be held liable for any resulting damages, and any liability could have a materially adverse effect on our business, financial condition, and results of operations. In addition, the federal, state and local laws and regulations governing the use, manufacture, storage, handling and disposal of hazardous or radioactive materials and waste products may require our contractors to incur substantial compliance costs that could materially adversely affect our business, financial condition and results of operations. We may incur substantial liabilities and may be required to limit commercialization of our products in response to product liability lawsuits. The testing and marketing of medical products entail an inherent risk of product liability, and we will face an even greater risk if we commercially sell any medicines that we may develop. If we cannot successfully defend ourselves against product liability claims, we may incur substantial liabilities or be required to limit commercialization of our products, if approved. Even a successful defense would require significant financial and management resources. Regardless of the merit or eventual outcome, liability claims may result in: • Decreased demand for our product candidates; • Injury to our reputation; • Withdrawal of clinical trial participants; • Initiation of investigations by regulators; • Withdrawal of prior governmental approvals; • Costs of related litigation; • Substantial monetary awards to patients; • Product recalls; • Loss of revenue; • The inability to commercialize our product candidates; and • A decline in our share price. 34 Although we currently carry clinical trial insurance and product liability insurance which we believe to be reasonable, it may not be adequate to cover all liability that we may incur. An inability to renew our policies or to obtain sufficient insurance at an acceptable cost could prevent or inhibit the commercialization of pharmaceutical products that we develop, alone or with collaborators. Business disruptions could seriously harm our future revenue and financial condition and increase our costs and expenses. Our operations, and those of our clinical investigators, contractors and consultants, are based primarily in Houston, Texas. These operations could be subject to power shortages, telecommunications failures, water shortages, hurricanes, floods, earthquakes, fires, extreme weather conditions, medical epidemics and other natural or man-made disasters or business interruptions, for which we maintain customary insurance policies that we believe are appropriate. The occurrence of any of these business disruptions could seriously harm our operations and financial condition and increase our costs and expenses. Our ability to manufacture clinical supplies of our product candidates could be disrupted if our own operations or those of our suppliers are affected by a man-made or natural disaster or other business interruption. We may have limited recourse against third parties if the non-compliance is due to factors outside of the manufacturer’s control. We may be unable to find appropriate partners to continue the development of the product candidates we de-prioritized in 2021 which may prevent us from ever deriving meaningful revenue from them. In 2021, we elected to prioritize our Library TCR-T program and significantly reduced our activities in connection with our Controlled IL-12 and CAR-T programs to preserve our capital resources. The decision to significantly reduce activities for our Controlled IL-12 and CAR-T programs may negatively impact the potential for these programs, which could have a material adverse effect on our business. We are actively exploring partnership opportunities for our Controlled IL-12 and CAR-T programs to support their continued development. If we are unable to identify an appropriate strategic partner or to negotiate and consummate a license or sale agreement with such a partner, it will be difficult to advance the development of these two programs, increasing the likelihood that we may be unable to derive any meaningful revenue from these assets. We have also mutually agreed with TriArm Therapeutics Ltd., or TriArm, to dissolve the Eden BioCell joint venture. Our business, operations and clinical development plans and timelines could be adversely affected by the effects of health epidemics, including the COVID-19 pandemic, on the manufacturing, clinical trial and other business activities performed by us or by third parties with whom we conduct business, including our contract manufacturers, CROs, shippers and others. Our business could be adversely affected by health epidemics wherever we have clinical trial sites or other business operations. In addition, health epidemics could cause significant disruption in our manufacturing operations or the operations of third-party manufacturers, CROs and other third parties upon whom we rely or may rely on in the future. We depend on a worldwide supply chain to manufacture products used in our preclinical studies and clinical trials. Quarantines, shelter-in-place and similar government orders, or the expectation that such orders, shutdowns or other restrictions could occur, whether related to COVID-19 or other infectious diseases, could impact personnel at our own manufacturing facilities or third-party manufacturing facilities in the United States and other countries, or the availability or cost of materials, which could disrupt our supply chain. If our relationships with our suppliers or other vendors are terminated or scaled back as a result of the COVID-19 pandemic or other health epidemics, we may not be able to enter into arrangements with alternative suppliers or vendors or do so on commercially reasonable terms or in a timely manner. Switching or adding additional suppliers or vendors involves substantial cost and requires management’s time and focus. In addition, there is a natural transition period when a new supplier or vendor commences work. As a result, delays may occur, which could adversely impact our ability to meet our desired clinical development and any future commercialization timelines. Although we carefully manage our relationships with our suppliers and vendors, there can be no assurance that we will not encounter challenges or delays in the future or that these delays or challenges will not harm our business. 35 In addition, our preclinical studies and our ongoing TCR-T Library Phase 1/2 Trial at MD Anderson have been and may continue to be affected by the COVID-19 pandemic. Clinical site initiation, patient enrollment and activities that require visits to clinical sites, including data monitoring, have been and may continue to be delayed due to prioritization of hospital resources toward the COVID-19 pandemic or concerns among patients about participating in clinical trials during a pandemic. Some patients may have difficulty following certain aspects of clinical trial protocols if quarantines impede patient movement or interrupt healthcare services. Similarly, if we are unable to successfully recruit and retain patients, principal investigators, and site staff who, as healthcare providers, may have heightened exposure to COVID-19 or experience additional restrictions by their institutions, city, or state, our clinical trial operations could be adversely impacted. The global COVID-19 pandemic continues to evolve rapidly. The ultimate impact of the COVID-19 pandemic or a similar epidemic is highly uncertain and subject to change. We may experience a material impact on our operations, and we continue to monitor the COVID-19 situation closely. RISKS RELATED TO THE CLINICAL TESTING, GOVERNMENT REGULATION AND MANUFACTURING OF OUR PRODUCT CANDIDATES If we encounter difficulties enrolling patients in our clinical trials, our clinical development activities could be delayed or otherwise adversely affected. We may experience difficulties in patient enrollment in our clinical trials, including our ongoing TCR-T Library Phase 1/2 Trial, for a variety of reasons, including impacts that have resulted or may result from the COVID-19 pandemic. The timely completion of clinical trials in accordance with their protocols depends on, among other things, our ability to enroll a sufficient number of patients who remain in the clinical trial until its conclusion. The enrollment of patients depends on many factors, includin • The patient eligibility criteria defined in the clinical trial protocol; • The size of the patient population required for analysis of the clinical trial’s primary endpoints; • The proximity of patients to clinical trial sites; • The design of the clinical trial; • Our ability to recruit and retain clinical trial investigators with the appropriate competencies and experience; • Our ability to obtain and maintain patient consents; • Reporting of the preliminary results of any of our clinical trials; and • The risk that patients enrolled in clinical trials will drop out of the clinical trials before the manufacturing and infusion of our product candidates or clinical trial completion. Our clinical trials will compete with other clinical trials for product candidates that are in the same therapeutic areas as our product candidates, and this competition will reduce the number and types of patients available to us because some of our potential patients may instead opt to enroll in a clinical trial being conducted by one of our competitors. In addition, patients may be unwilling to participate in our studies because of negative publicity from adverse events in the biotechnology industry or for other reasons. Since the number of qualified clinical investigators is limited, we expect to conduct some of our clinical trials at the same clinical trial sites that some of our competitors use, which will reduce the number of patients who are available for our clinical trials at such clinical trial sites. Moreover, because our product candidates represent a departure from more commonly used methods for cancer treatment, potential patients and their doctors may be inclined to use conventional therapies, such as chemotherapy and hematopoietic stem cell transplantation, rather than enroll patients in any future clinical trial. Additionally, because some of our clinical trials are in patients with relapsed/refractory cancer, the patients are typically in the late stages of their disease and may experience disease progression independent from our product candidates, making them unevaluable for purposes of the clinical trial and requiring additional patient enrollment. Delays in completing patient enrollment may result in increased costs or may affect the timing or outcome of our ongoing and planned clinical trials, which could prevent completion or commencement of these clinical trials and adversely affect our ability to advance the development of our product candidates. 36 Our product candidates are subject to extensive regulation and compliance, which is costly and time consuming, and such regulation may cause unanticipated delays or prevent the receipt of the required approvals to commercialize our product candidates. The clinical development, manufacturing, labeling, packaging, storage, record-keeping, advertising, promotion, import, export, marketing, distribution and adverse event reporting, including the submission of safety and other information, of our product candidates are subject to extensive regulation by the FDA in the United States and by comparable foreign regulatory authorities in foreign markets. The process of obtaining regulatory approval is expensive, often takes many years following the commencement of clinical trials. Approval policies or regulations may change, and the FDA has substantial discretion in the drug approval process, including the ability to delay, limit or deny approval of a product candidate for many reasons. Regulatory approval is never guaranteed. Prior to obtaining approval to commercialize a product candidate in the United States or abroad, we or our collaborators must demonstrate with substantial evidence from adequate and well-controlled clinical trials, and to the satisfaction of the FDA or comparable foreign regulatory authorities, that such product candidates are safe and effective, or with respect to a biological product candidate, safe, pure and potent, for their intended uses. The FDA or comparable foreign regulatory authorities can delay, limit or deny approval of a product candidate for many reasons, includin • Such authorities may disagree with the design or implementation of our or our current or future collaborators’ clinical trials; • Negative or ambiguous results from our clinical trials or results may not meet the level of statistical significance required by the FDA or comparable foreign regulatory agencies for approval; • Serious and unexpected drug-related side effects may be experienced by participants in our clinical trials or by individuals using drugs or biologics similar to our therapeutic product candidates; • Such authorities may not accept clinical data from trials which are conducted at clinical facilities or in countries where the standard of care is potentially different from that of the United States; • We, or any of our current or future collaborators, may be unable to demonstrate that a product candidate is safe and effective, and that the therapeutic product candidate’s clinical and other benefits outweigh its safety risks; • We may be unable to demonstrate to the satisfaction of such authorities that our companion diagnostics are suitable to identify appropriate patient populations; • Such authorities may disagree with our interpretation of data from preclinical studies or clinical trials; • Such authorities may not agree that the data collected from clinical trials of our product candidates are acceptable or sufficient to support the submission of a BLA, NDA, premarket approval, or PMA, or other submission or to obtain regulatory approval in the United States or elsewhere, and such authorities may impose requirements for additional preclinical studies or clinical trials; • Such authorities may disagree regarding the formulation, labeling and/or the specifications of our product candidates; • Approval may be granted only for indications that are significantly more limited than what we apply for and/or with other significant restrictions on distribution and use; • Such authorities may find deficiencies in the manufacturing processes, test procedures and specifications or facilities of our third-party manufacturers with which we or any of our current or future collaborators contract for clinical and commercial supplies; • Regulations and approval policies of such authorities may significantly change in a manner rendering our or any of our potential future collaborators’ clinical data insufficient for approval; or • Such authorities may not accept a submission due to, among other reasons, the content or formatting of the submission. 37 This lengthy approval process, as well as the unpredictability of the results of clinical trials, may result in our failing to obtain regulatory approval to market any of our product candidates, which would significantly harm our business, results of operations and prospects. In addition, even if we obtain approval of our product candidates, regulatory authorities may approve any of our product candidates for fewer or more limited indications than we request, may impose significant limitations in the form of narrow indications, warnings, or a Risk Evaluation and Mitigation Strategy, or REMS. Events raising questions about the safety of certain marketed biopharmaceuticals may result in increased cautiousness by the FDA and comparable foreign regulatory authorities in reviewing new drugs or biologics based on safety, efficacy or other regulatory considerations and may result in significant delays in obtaining regulatory approvals. Any delay in obtaining, or inability to obtain, applicable regulatory approvals would prevent us or any of our potential future collaborators from commercializing our product candidates. We are very early in our development efforts. Our most advanced product candidates are only in an early-stage clinical trial, which is very expensive and time-consuming. We cannot be certain when we will be able to submit a BLA to the FDA and any failure or delay in completing clinical trials for our product candidates could harm our business. Our product candidates are in various stages of development and require extensive clinical testing. Our most advanced product candidates are in our TCR-T Library Phase 1/2 Trial, which is currently enrolling patients. Human clinical trials are very expensive and difficult to design, initiate and implement, in part because they are subject to rigorous regulatory requirements. Notwithstanding our current clinical trial plans for each of our existing product candidates, which we estimate will take several years to complete, we may not be able to commence additional trials or see results from these trials within our anticipated timelines. Failure can occur at any stage of a clinical trial, and we can encounter problems that cause us to delay the start of, abandon or repeat clinical trials. Some factors which may lead to a delay in the commencement or completion of our clinical trials inclu requests for additional nonclinical data from regulators, unforeseen safety issues, dosing issues, lack of effectiveness during clinical trials, difficulty recruiting or monitoring patients, difficulty manufacturing clinical products, among other factors. As they enter later stages of development, our product candidates generally will become subject to more stringent regulatory requirements, including the FDA’s requirements for chemistry, manufacturing and controls for product candidates entering Phase 3 clinical trials. There is no guarantee the FDA will allow us to commence Phase 3 clinical trials for product candidates studied in earlier clinical trials. If the FDA does not allow our product candidates to enter later stage clinical trials or requires changes to the formulation or manufacture of our product candidates before commencing Phase 3 clinical trials, our ability to further develop, or seek approval for, such product candidates may be materially impacted. As such, we cannot predict with any certainty if or when we might submit a BLA for regulatory approval of our product candidates or whether such a BLA will be accepted. Because we do not anticipate generating revenues unless and until we submit one or more BLAs and thereafter obtain requisite FDA approvals, the timing of our BLA submissions and FDA determinations regarding approval thereof will directly affect if and when we are able to generate revenues. Our product candidates may cause undesirable side effects or have other properties that could delay or prevent their regulatory approval, limit the commercial profile of an approved label or result in significant negative consequences following any potential marketing approval. As with many pharmaceutical and biological products, treatment with our product candidates may produce undesirable side effects or adverse reactions or events, including potential adverse side effects related to cytokine release. If our product candidates or similar products or product candidates under development by third parties demonstrate unacceptable adverse events, we may be required to halt or delay further clinical development of our product candidates. The FDA or other foreign regulatory authorities could order us to cease further development of or deny approval of our product candidates for any or all targeted indications. If a serious adverse event was to occur in our TCR-T Library Phase 1/2 Trial, the FDA may place a hold on the clinical trial. The product-related side effects could affect patient recruitment or the ability of enrolled patients to complete the trial or result in potential product liability claims. In addition, these side effects may not be appropriately or timely recognized or managed by the treating medical staff, particularly outside of the institutions that collaborate with us, as toxicities resulting from our novel technologies may not be normally encountered in the general patient population and by medical personnel. We expect to have to train medical personnel using our product candidates to understand their side effect profiles, both for our planned clinical trials and upon any commercialization of any product candidates. Inadequate training in recognizing or managing the potential side effects of our 38 product candidates could result in adverse effects to patients, including death. Additionally, if one or more of our product candidates receives marketing approval, and we or others later identify undesirable side effects caused by such products, including during any long-term follow-up observation period recommended or required for patients who receive treatment using our products candidates, a number of potentially significant negative consequences could result, includin • regulatory authorities may withdraw approvals of such product; • regulatory authorities may require additional warnings on the product’s label; • we may be required to create a risk evaluation and mitigation strategy plan, which could include a medication guide outlining the risks of such side effects for distribution to patients, a communication plan for healthcare providers and/or other elements to assure safe use; • we could be sued and held liable for harm caused to patients; and • our reputation may suffer. Any of the foregoing could prevent us from achieving or maintaining market acceptance of the particular product candidate, if approved. Furthermore, any of these occurrences may harm our business, financial condition and prospects significantly. Our cell-based therapy immuno-oncology product candidates rely on the availability of reagents, specialized equipment and other specialty materials and infrastructure, which may not be available to us on acceptable terms or at all. For some of these reagents, equipment and materials, we rely or may rely on sole source vendors or a limited number of vendors, which could impair our ability to manufacture and supply our products. Manufacturing our product candidates will require many reagents, which are substances used in our manufacturing processes to bring about chemical or biological reactions, and other specialty materials and equipment, some of which are manufactured or supplied by small companies with limited resources and experience to support commercial biologics production. We currently depend on a limited number of vendors for certain materials and equipment used in the manufacture of our product candidates, including the DNA plasmids used, which are used as the vector to insert our TCRs into human T cells. Some of these suppliers may not have the capacity to support commercial products manufactured under current good manufacturing practices by biopharmaceutical firms or may otherwise be ill-equipped to support our needs. We also do not have supply contracts with many of these suppliers and may not be able to obtain supply contracts with them on acceptable terms or at all. Accordingly, we may experience delays in receiving key materials and equipment to support clinical or commercial manufacturing. For some of these reagents, equipment, infrastructure, and materials, we rely and may in the future rely on sole source vendors or a limited number of vendors. An inability to continue to source product from any of these suppliers, which could be due to regulatory actions or requirements affecting the supplier, adverse financial or other strategic developments experienced by a supplier, labor disputes or shortages, unexpected demands, or quality issues, could adversely affect our ability to satisfy demand for our product candidates, which could adversely and materially affect our product sales and operating results or our ability to conduct clinical trials, either of which could significantly harm our business. In addition, some of the reagents and products used by us, including in our clinical trials, may be stored at a single vendor. The loss of materials located at a single vendor, or the failure of such a vendor to manufacture clinical product in accordance with our specifications, would impact our ability to conduct ongoing or planned clinical trials and continue the development of our products. Further, manufacturing replacement material may be expensive and require a significant amount of time, which may further impact our clinical programs. As we continue to develop and scale our manufacturing process, we expect that we will need to obtain additional rights to and supplies of certain materials and equipment to be used as part of that process. We may not be able to maintain rights to such materials on commercially reasonable terms, or at all, and if we are unable to alter our process in a commercially viable manner to avoid the use of such materials or find a suitable substitute, it would have a material adverse effect on our business. Even if we are able to alter our process so as to use other materials or equipment, such a change may lead to a delay in our clinical development and/or commercialization plans. If such a change occurs for a product candidate that is already in clinical trials, the change may require us to perform both ex vivo comparability studies and to collect additional data from patients prior to undertaking more advanced clinical trials. 39 Because we are dependent, at least in part, upon clinical research institutions and other CROs for clinical testing and/or for research and development activities, the results of our clinical trials and such research activities are, to a certain extent, beyond our control. We materially rely upon independent investigators and collaborators, such as universities and medical institutions, to conduct our clinical trials under agreements with us. In addition, we hire CROs to help us manage clinical trials, collect data and analyze clinical samples. These collaborators are not our employees, and we cannot control the amount or timing of resources that they devote to our programs. These investigators may not assign as great a priority to our programs or pursue them as diligently as we would if we were undertaking such programs ourselves. If outside collaborators fail to devote sufficient time and resources to our product development programs, or if their performance is substandard, the approval of our FDA applications, if any, and our introduction of new products, if any, will be delayed. These institutions may also have, or implement in the future, policies and procedures that limit their ability to advance our programs. These collaborators may also have relationships with other commercial entities, some of whom may compete with us. If our collaborators assist our competitors to our detriment, our competitive position would be harmed. We have limited experience producing and supplying our product candidates. We may be unable to consistently manufacture our product candidates to the necessary specifications or in quantities necessary to treat patients in our clinical trials. We have limited experience in biopharmaceutical manufacturing. We recently began manufacturing our product candidates at our in-house cGMP manufacturing facility at our leased headquarters in Houston, Texas. Our ability to manufacture our product candidates depends on our finding and retaining personnel with the appropriate background and training to staff and operate the facility on a daily basis. Should we be unable to find or retain these individuals, we may need to train additional personnel to fill the needed roles or engage with external contractors. There are a small number of individuals with experience in cell therapy and the competition for these individuals is high. Specifically, the operation of a cell-therapy manufacturing facility is a complex endeavor requiring knowledgeable individuals who have successful previous experience in cleanroom environments. Cell therapy facilities, like other biological agent manufacturing facilities, require appropriate commissioning and validation activities to demonstrate that they operate as designed. Additionally, each manufacturing process must be proven through the performance of process validation runs to guarantee that the facility, personnel, equipment, and process work as designed. While we have developed our own manufacturing processes using an in-house team, there is timing risk associated with increased in-house product manufacture. The manufacture of our product candidates is complex and requires significant expertise and capital investment, including the development of advanced manufacturing techniques and process controls. Manufacturers of cell therapy products often encounter difficulties in production, particularly in scaling out and validating initial production and ensuring the absence of contamination. These include difficulties with production costs and yields, quality control, including stability of the product, quality assurance testing, operator error, shortages of qualified personnel, as well as compliance with strictly enforced federal, state and foreign regulations. Furthermore, if contaminants are discovered in our supply of product candidates or in our manufacturing facilities, the manufacturing facilities may need to be closed for an extended period to investigate and remedy the contamination. It is possible that stability or other issues relating to the manufacture of our product candidates could occur in the future. Our product candidates currently are and will continue to be manufactured on a patient-by-patient basis. Delays in manufacturing could adversely impact the treatment of each patient and may discourage participation in our current or future clinical trials. We have not yet manufactured our clinical trial product candidates on a large scale and may not be able to achieve large scale clinical trial or commercial manufacturing and processing on our own to satisfy expected clinical trial or commercial demands for any of our product candidates. While we believe that our current manufacturing and processing approaches are appropriate to support our early-stage clinical product development, we have limited experience in managing the T cell engineering process, and our processes may be more difficult or more expensive than anticipated. The manufacturing processes employed by us may not result in product candidates that will be safe and effective. If we are unable to manufacture sufficient number of TCR-T cells for our product candidates, our development efforts would be delayed, which would adversely affect our business and prospects. Our manufacturing operations will be subject to review and oversight by the FDA upon commencement of the manufacturing of our product candidates for our TCR-T Library Phase 1/2 Trial. We will be subject to ongoing periodic unannounced inspection by the FDA, the Drug Enforcement Administration and corresponding state agencies to ensure strict compliance with current good manufacturing practices, or cGMP, and other government regulations. Our license to manufacture product candidates will be subject to continued regulatory review. 40 We do not yet have sufficient information to reliably estimate the cost of commercial manufacturing and processing of our product candidates. The actual cost to manufacture and process our product candidates could materially and adversely affect the commercial viability of our product candidates. As a result, we may never be able to develop a commercially viable product. We also may fail to manage the logistics of collecting and shipping patient material to our manufacturing site and shipping the product candidate back to the patient. Logistical and shipment delays and problems, whether or not caused by us or our vendors, could prevent or delay the delivery of product candidates to patients. In addition, it is possible that we could experience manufacturing difficulties in the future due to resource constraints or because of labor disputes. If we were to encounter any of these difficulties, our ability to provide our product candidates to patients could be materially adversely affected. We may have difficulty validating our manufacturing process as we manufacture our product candidates from an increasingly diverse patient population for our clinical trials. During our development of the manufacturing process, our TCR-T cell product candidates have demonstrated consistency from lot to lot and from donor to donor. However, our sample size is small and the starting material used during our development work came from healthy donors. Once we have experience with working with white blood cells taken from our patient population, we may encounter unforeseen difficulties due to starting with material from donors who are not healthy, including challenges inherent in harvesting white blood cells from unhealthy patients. Although we believe our current manufacturing process is scalable for our clinical trials, and if our any of our product candidates are approved or commercialized, we may encounter challenges in validating our process due to the heterogeneity of the product starting material. However, we anticipate that during the early phases of our clinical trials we will be able to adapt our process to account for these differences resulting in a more robust process. We cannot guarantee that any other issues relating to the heterogeneity of the starting material will not impact our ability to commercially manufacturing our product candidates. The gene transfer vectors from our Sleeping Beauty system used to manufacture our product candidates may incorrectly modify the genetic material of a patient’s T cells, potentially triggering the development of a new cancer or other adverse events. Our TCR-T cells are manufactured using our Sleeping Beauty system, a non-viral vector to insert genetic information encoding the TCR construct into the patient’s T cells. The TCR construct is then primarily integrated at thymine-adenine, or TA, dinucleotide sites throughout the patient’s genome and, once expressed as protein, is transported to the surface of the patient’s T cells. Because the gene transfer vector modifies the genetic information of the T cell, there is a theoretical risk that modification will occur in the wrong place in the T cell’s genetic code, leading to vector-related insertional oncogenesis, and causing the T cell to become cancerous. If the cancerous T cell is then administered to the patient, the cancerous T cell could trigger the development of a new cancer in the patient. We use non-viral vectors to insert genetic information into T cells, which we believe have a lower risk of insertional oncogenesis as opposed to viral vectors. However, the risk of insertional oncogenesis remains a concern for gene therapy, and we cannot assure that it will not occur in any of our ongoing or planned clinical trials. There is also the potential risk of delayed adverse events following exposure to gene therapy products due to persistent biological activity of the genetic material or other components of the vectors used to carry the genetic material. Although we use non-viral vectors, the FDA has stated that lentiviral vectors possess characteristics that may pose high risks of delayed adverse events. If any such adverse events occur from our non-viral vector, further advancement of our preclinical studies or clinical trials could be halted or delayed, which would have a material adverse effect on our business and operations. Any product candidate for which we obtain marketing approval could be subject to post-marketing restrictions or withdrawal from the market and we may be subject to penalties if we fail to comply with regulatory requirements or if we experience unanticipated problems with our products, when and if any of them are approved. Any product candidate for which we obtain marketing approval, along with the manufacturing processes, post-approval clinical data, labeling, advertising and promotional activities for such product, will be subject to continual requirements of and review by the FDA and other regulatory authorities. These requirements include, among other things, submissions of safety and other post-marketing information and reports, registration and listing requirements, cGMP requirements relating to manufacturing, quality control, quality assurance and corresponding maintenance of records and documents, requirements regarding the distribution of samples to physicians and recordkeeping. Even if marketing approval of a product candidate is granted, the approval may be subject to limitations on the indicated uses for which the product may be marketed or to the conditions of approval, including the requirement to implement a 41 REMS, which could include requirements for a restricted distribution system. If any of our product candidates receives marketing approval, the accompanying label may limit the approved uses, which could limit sales of the product. The FDA may also impose requirements for costly post-marketing studies or clinical trials and surveillance to monitor the safety or efficacy of our approved products. The FDA closely regulates the post-approval marketing and promotion of products to ensure that they are marketed only for the approved indications and in accordance with the provisions of the approved labeling. However, companies may share truthful and not misleading information that is otherwise consistent with the labeling. The FDA imposes stringent restrictions on manufacturers’ communications regarding off-label use and if we market our products outside of their approved indications, we may be subject to enforcement action for off-label marketing. Violations of the Federal Food, Drug and Cosmetic Act relating to the promotion of prescription drugs may lead to investigations alleging violations of federal and state health care fraud and abuse laws, as well as state consumer protection laws. In addition, later discovery of previously unknown adverse events or other problems with our products, manufacturers or manufacturing processes, or failure to comply with regulatory requirements, may yield various results, includin • Litigation involving patients taking our product; • Restrictions on such products, manufacturers or manufacturing processes; • Restrictions on the labeling or marketing of a product; • Restrictions on product distribution or use; • Requirements to conduct post-marketing studies or clinical trials; • Warning letters; • Withdrawal of the products from the market; • Refusal to approve pending applications or supplements to approved applications that we submit; • Recall of products; • Fines, restitution or disgorgement of profits or revenues; • Suspension or withdrawal of marketing approvals; • Damage to relationships with existing and potential collaborators; • Unfavorable press coverage and damage to our reputation; • Refusal to permit the import or export of our products; • Product seizure; and • Injunctions or the imposition of civil or criminal penalties. Noncompliance with requirements regarding safety monitoring or pharmacovigilance can also result in significant financial penalties. Similarly, failure to comply with U.S. and foreign regulatory requirements regarding the development of products for pediatric populations and the protection of personal health information can also lead to significant penalties and sanctions. RISKS RELATED TO OUR ABILITY TO COMMERCIALIZE OUR PRODUCT CANDIDATES If we are unable to obtain the necessary U.S. or worldwide regulatory approvals to commercialize any product candidate, our business will suffer. We may not be able to obtain the approvals necessary to commercialize our product candidates, or any product candidate that we may acquire or develop in the future for commercial sale. We will need FDA approval to commercialize our product candidates in the United States and approvals from regulatory authorities in foreign jurisdictions equivalent to the FDA to commercialize our product candidates in those jurisdictions. In order to obtain FDA approval of any product candidate, we must submit to the FDA a BLA demonstrating that the product candidate is safe for humans and effective for its intended use. This demonstration requires significant research and animal tests, which are referred to as preclinical studies, as well as human tests, which are referred to as clinical trials. Satisfaction of the FDA’s regulatory requirements typically takes many years, depending upon the type, complexity and novelty of the 42 product candidate, and will require substantial resources for research, development and testing. We cannot predict whether our research, development, and clinical approaches will result in products that the FDA will consider safe for humans and effective for their intended uses. The FDA has substantial discretion in the approval process and may require us to conduct additional preclinical and clinical testing or to perform post-marketing studies. The approval process may also be delayed by changes in government regulation, future legislation or administrative action or changes in FDA policy that occur prior to or during our regulatory review. Delays in obtaining regulatory approvals may: • Delay commercialization of, and our ability to derive product revenues from, our product candidates; • Impose costly procedures on us; and • Diminish any competitive advantages that we may otherwise enjoy. Even if we comply with all FDA requests, the FDA may ultimately reject one or more of our BLAs. We cannot be sure that we will ever obtain regulatory approval for any of our product candidates. Failure to obtain FDA approval for our product candidates will severely undermine our business by leaving us without a marketable product, and therefore without any potential revenue source, until another product candidate can be developed. There is no guarantee that we will ever be able to develop or acquire another product candidate or that we will obtain FDA approval if we are able to do so. In foreign jurisdictions, we similarly must receive approval from applicable regulatory authorities before we can commercialize any of our product candidates. Foreign regulatory approval processes generally include all of the risks associated with the FDA approval procedures described above. If we are unable either to create sales, marketing and distribution capabilities or enter into agreements with third parties to perform these functions, we will be unable to commercialize our product candidates successfully. We currently have no marketing, sales, or distribution capabilities. If, and when we become reasonably certain that we will be able to commercialize our current or future product candidates, we anticipate allocating resources to the marketing, sales and distribution of our proposed products in North America and in certain other countries; however, we cannot assure that we will be able to market, sell, and distribute our products successfully. Our future success also may depend, in part, on our ability to enter into and maintain collaborative relationships for such capabilities and to encourage the collaborator’s strategic interest in the products under development, and such collaborator’s ability to successfully market and sell any such products. Although we intend to pursue certain collaborative arrangements regarding the sale and marketing of certain of our product candidates, there are no assurances that we will be able to establish or maintain collaborative arrangements or, if we are able to do so, whether we would be able to conduct our own sales efforts. There can also be no assurance that we will be able to establish or maintain relationships with third-party collaborators or develop in-house sales and distribution capabilities. To the extent that we depend on third parties for marketing and distribution, any revenues we receive will depend upon the efforts of such third parties, and there can be no assurance that such efforts will be successful. In addition, there can also be no assurance that we will be able to market and sell our product candidates in the United States or overseas. If we are not able to partner with a third party and are not successful in recruiting sales and marketing personnel or in building a sales and marketing infrastructure, we will have difficulty commercializing our product candidates, which would harm our business. If we rely on pharmaceutical or biotechnology companies with established distribution systems to market our products, we will need to establish and maintain partnership arrangements, and we may not be able to enter into these arrangements on acceptable terms or at all. To the extent that we enter into co-promotion or other arrangements, any revenues we receive will depend upon the efforts of third parties that may not be successful and that will be only partially in our control. If physicians and patients do not accept and use our product candidates, once approved, our ability to generate revenue from sales of our products will be materially impaired. Even if the FDA and/or foreign equivalents thereof approve our product candidates, physicians and patients may not accept and use them. The use of engineered T cells as potential cancer treatments is a relatively recent development and may not become broadly accepted by physicians, patients, hospitals, cancer treatment centers, third-party payors and others in the medical community. Acceptance and use of our products will depend upon a number of factors includin • The clinical indications for which our product candidates are approved; 43 • Perceptions by members of the healthcare community, including physicians, about the safety and effectiveness of our products; • The prevalence and severity of any side effects; • Pharmacological benefit and cost-effectiveness of our products relative to competing products; • Relative convenience and ease of administration, including as compared to alternative treatments and competitive therapies; • Availability of coverage and adequate reimbursement for our products from government or other third-party payors; • Effectiveness of marketing and distribution efforts by us and our licensees and distributors, if any; and • The price at which we sell our products. Because we expect sales of our current product candidates, if approved, to generate substantially all of our product revenues for the foreseeable future, the failure of a product to find market acceptance would harm our business and could require us to seek additional financing in order to fund the development of future product candidates. Even if our products achieve market acceptance, we may not be able to maintain that market acceptance over time if new products or technologies are introduced that are more favorably received than our products, are more cost effective or render our products obsolete. Our ability to generate product revenues will be diminished if our products do not obtain coverage and adequate reimbursement from payors. Our ability to commercialize our product candidates, if approved, alone or with collaborators, will depend in part on the extent to which coverage and reimbursement will be available from third-party payors, including government and health administration authorities, private health maintenance organizations and health insurers and other payors. Patients who are prescribed medicine for the treatment of their conditions generally rely on third-party payors to reimburse all or part of the costs associated with their prescription drugs. Sufficient coverage and adequate reimbursement from third-party payors are critical to new product acceptance. Coverage decisions may depend upon clinical and economic standards that disfavor new drug products when more established or lower cost therapeutic alternatives are already available or subsequently become available. It is difficult to predict the coverage and reimbursement decisions that will be made by third-party payors for novel gene and cell therapy products such as ours. Even if we obtain coverage for our product candidates, the resulting reimbursement payment rates might not be adequate or may require co-payments that patients find unacceptably high. Patients are unlikely to use our product candidates unless coverage is provided, and reimbursement is adequate to cover a significant portion of the cost of our product candidates. In addition, the market for our product candidates for which we may receive regulatory approval will depend significantly on access to third-party payors’ drug formularies or lists of medications for which third-party payors provide coverage and reimbursement, which might not include all of the FDA-approved drugs for a particular indication. The industry competition to be included in such formularies often leads to downward pricing pressures on pharmaceutical companies. Also, third-party payors may refuse to include a particular branded drug in their formularies or otherwise restrict patient access to a branded drug when a less costly generic equivalent or other alternative is available. Third-party payors, whether foreign or domestic, or governmental or commercial, are developing increasingly sophisticated methods of controlling healthcare costs. In addition, in the United States, no uniform policy of coverage and reimbursement for drug products exists among third-party payors. Therefore, coverage and reimbursement for drug products can differ significantly from payor to payor. As a result, the coverage determination process is often a time-consuming and costly process that requires us to provide scientific and clinical support for the use of our products to each payor separately, with no assurance that approval will be obtained. If we are unable to obtain coverage of and adequate payment levels for our product candidates from third-party payors, physicians may limit how much or under what circumstances they will prescribe or administer our products and patients may decline to purchase them. This in turn could affect our ability to successfully commercialize our products and impact our profitability, results of operations, financial condition, and future success. In addition, in many foreign countries, particularly the countries of the European Union, or EU, the pricing of prescription drugs is subject to government control. In some non-U.S. jurisdictions, the proposed pricing for a drug must be approved before it may be lawfully marketed. The requirements governing drug pricing vary widely from country to country. For example, the EU provides options for its member states to restrict the range of medicinal products for which their national health insurance systems provide reimbursement and to control the prices of medicinal products for human use. A member state may approve a specific price for the 44 medicinal product or it may instead adopt a system of direct or indirect controls on the profitability of the company placing the medicinal product on the market. We may face competition for our product candidates from lower-priced products in foreign countries that have placed price controls on pharmaceutical products. In addition, there may be importation of foreign products that compete with our own products, which could negatively impact our profitability. The market opportunities for our product candidates may be limited to those patients who are ineligible for or have failed prior treatments and may be small. Cancer therapies are sometimes characterized as first line, second line or third line, and the FDA often approves new therapies initially only for third line use. When cancer is detected early enough, first line therapy is sometimes adequate to cure the cancer or prolong life without a cure. Whenever first line therapy, usually chemotherapy, hormone therapy, surgery, or a combination of these, proves unsuccessful, second line therapy may be administered. Second line therapies often consist of more chemotherapy, radiation, antibody drugs, tumor targeted small molecules, or a combination of these. Third line therapies can include bone marrow transplantation, antibody and small molecule targeted therapies, more invasive forms of surgery and new technologies. We expect to initially seek approval of our product candidates as a third line therapy for patients who have failed other approved treatments. Subsequently, for those products that prove to be sufficiently beneficial, if any, we would expect to seek approval as a second line therapy and potentially as a first line therapy, but there is no guarantee that our product candidates, even if approved, would be approved for second line or first line therapy. In addition, we may have to conduct additional clinical trials prior to gaining approval for second line or first line therapy. Our projections of both the number of people who have the cancers we are targeting, as well as the subset of people with these cancers in a position to receive therapy and who have the potential to benefit from treatment with our product candidates, are based on our beliefs and estimates. These estimates have been derived from a variety of sources, including scientific literature, surveys of clinics, patient foundations or market research and may prove to be incorrect. Further, new studies may change the estimated incidence or prevalence of these cancers. The number of patients may turn out to be lower than expected. Additionally, the potentially addressable patient population for our product candidates may be limited or may not be amenable to treatment with our product candidates. Our market opportunities may also be limited by competitor treatments that may enter the market. Healthcare legislative reform measures may have a material adverse effect on our business and results of operations. In both the United States and certain foreign jurisdictions, there have been a number of legislative and regulatory enactments in recent years that change the healthcare system in ways that could impact our future ability to sell our product candidates profitably. Furthermore, there have been and continue to be a number of initiatives at the federal and state level that seek to reduce healthcare costs. Most significantly, in March 2010, President Obama signed into law the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act, or collectively the ACA, which included measures that have significantly changed the way healthcare is financed by both governmental and private insurers. Among the provisions of the ACA of importance to the pharmaceutical industry are the followin • Created an annual, nondeductible fee on any entity that manufactures or imports certain branded prescription drugs and biologic agents, apportioned among these entities according to their market share in certain government healthcare programs; • Increased the statutory minimum rebates a manufacturer must pay under the Medicaid Drug Rebate Program to 23.1% and 13% of the average manufacturer price for most branded and generic drugs, respectively; • Created a new Medicare Part D coverage gap discount program, in which manufacturers must now agree to offer 70% point-of-sale discounts off negotiated prices of applicable brand drugs to eligible beneficiaries during their coverage gap period, as a condition for the manufacturer’s outpatient drugs to be covered under Medicare Part D; • Extended manufacturers’ Medicaid rebate liability to covered drugs dispensed to individuals who are enrolled in Medicaid managed care organizations; • Created new methodologies by which rebates owed by manufacturers under the Medicaid Drug Rebate Program are calculated for drugs that are inhaled, infused, instilled, implanted or injected, and for drugs that are line extensions; 45 • Expanded eligibility criteria for Medicaid programs by, among other things, allowing states to offer Medicaid coverage to additional individuals with income at or below 133% of the Federal Poverty Level, thereby potentially increasing both the volume of sales and manufacturers’ Medicaid rebate liability; • Expanded the entities eligible for discounts under the Public Health Service pharmaceutical pricing program; • Created a new requirement to annually report drug samples that certain manufacturers and authorized distributors provide to physicians; • Expanded healthcare fraud and abuse laws, including the False Claims Act and the federal Anti-Kickback Statute, new government investigative powers, and enhanced penalties for noncompliance; • Created a licensure framework for follow-on biologic products; • Created new requirements under the federal Physician Payments Sunshine Act for certain drug manufacturers to annually report information related to payments and other transfers of value made to physicians, as defined by such law, and teaching hospitals as well as ownership or investment interests held by physicians and their immediate family members; • Created a Patient-Centered Outcomes Research Institute to oversee, identify priorities in, and conduct comparative clinical effectiveness research, along with funding for such research; and • Established a Center for Medicare & Medicaid Innovation at the Centers for Medicare & Medicaid Services, or CMS, to test innovative payment and service delivery models to lower Medicare and Medicaid spending, potentially including prescription drug spending. There have been executive, legal and political challenges to certain aspects of the ACA. For example, President Trump signed several executive orders and other directives designed to delay, circumvent or loosen certain requirements mandated by the ACA. Concurrently, Congress considered legislation to repeal or repeal and replace all or part of the ACA. While Congress has not passed comprehensive repeal legislation, several bills affecting the implementation of certain taxes under the ACA have been signed into law. In December 2017, Congress repealed the tax penalty, effective January 1, 2019, for an individual’s failure to maintain ACA-mandated health insurance as part of the Tax Cuts and Jobs Act of 2017, or the Tax Act. On June 17, 2021, the U.S. Supreme Court dismissed a challenge on procedural grounds that argued that ACA is unconstitutional in its entirety because the “individual mandate” was repealed by Congress. Thus, the ACA will remain in effect in its current form. Further, prior to the U.S. Supreme Court ruling on January 28, 2021, President Biden issued an executive order that initiated a special enrollment period for purposes of obtaining health care coverage through the ACA marketplace, which began on February 21, 2021 and remained open through August 15, 2021. The executive order also instructed certain governmental agencies to review and reconsider their existing policies and rules that limit access to healthcare, including among others, reexamining Medicaid demonstration projects and waiver programs that include work requirements, and policies that create unnecessary barriers to obtaining access to health insurance coverage through Medicaid or the ACA. It is possible that the ACA will be subject to judicial or Congressional challenges in the future. It is unclear how any such challenges and the healthcare reform measures of the Biden administration will impact ACA and our business. The ultimate content, timing or effect of any healthcare reform measures on the U.S. healthcare industry is unclear. Further, there has been increasing legislative and enforcement interest in the United States with respect to specialty drug pricing practices. As a result, there have been several U.S. Congressional inquiries and proposed and enacted federal and state legislation designed to, among other things, bring more transparency to drug pricing, review the relationship between pricing and manufacturer patient programs and reform government program reimbursement methodologies for drugs. At the federal level, the Trump administration used several means to propose or implement drug pricing reform, including through federal budget proposals, executive orders and policy initiatives. For example, on July 24, 2020 and September 13, 2020, the Trump administration announced several executive orders related to prescription drug pricing that attempt to implement several of the administration’s proposals. The FDA also released a final rule, effective November 30, 2020, implementing a portion of the importation executive order providing guidance for states to build and submit importation plans for drugs from Canada. Further, on November 20, 2020, the U.S. Department of Health and Human Services, or HHS, finalized a regulation removing safe harbor protection for price reductions from pharmaceutical manufacturers to plan sponsors under Medicare Part D, either directly or through pharmacy benefit managers, unless the price reduction is required by law. The implementation of the rule has been delayed by the Biden administration from January 1, 2022 to January 1, 2023 in response to ongoing litigation. The rule also creates a new safe harbor for price reductions reflected at the point-of-sale, as well as a new safe harbor for certain fixed fee arrangements between pharmacy benefit managers and manufacturers, 46 the implementation of which have also been delayed until January 2023. On November 20, 2020, CMS issued an interim final rule implementing President Trump’s Most Favored Nation, or MFN, executive order, which would tie Medicare Part B payments for certain physician-administered drugs to the lowest price paid in other economically advanced countries, effective January 1, 2021. As a result of litigation, challenging the MFN model on August 10, 2021, CMS published a proposed rule that seeks to rescind the MFN model interim rule. In addition, on March 11, 2021, President Biden signed the American Rescue Plan Act of 2021 into law, which eliminates the statutory Medicaid drug rebate price cap, currently set at 100% of a drug's average manufacturer price for single source and innovator multiple source products, beginning on January 1, 2024. Further, in July 2021, the Biden Administration released an executive order that included multiple provisions aimed at prescription drugs. In response to Biden's executive order, on September 9, 2021, HHS released a Comprehensive Plan for Addressing High Drug Prices that outlines principles for drug price reform. The plan sets out a variety of potential legislative policies that Congress could pursue as well as potential administrative actions by HHS. No legislative or administrative actions have been finalized to implement these principles. In addition, Congress is considering drug pricing as part of the budget reconciliation process. Individual states in the United States also have increasingly passed legislation and implemented regulations designed to control pharmaceutical product pricing, including price or patient reimbursement constraints, discounts, restrictions on certain product access and marketing cost disclosure and transparency measures, and, in some cases, designed to encourage importation from other countries and bulk purchasing. It is possible that additional governmental action is taken in response to the COVID-19 pandemic. We expect that healthcare reform measures that may be adopted in the future may result in more rigorous coverage criteria and in additional downward pressure on the price that we may receive for any approved product. Any reduction in reimbursement from Medicare or other government programs may result in a similar reduction in payments from private payors. The implementation of cost containment measures or other healthcare reforms may prevent us from being able to generate revenue, attain profitability or, if we receive regulatory approval, commercialize our products. If we fail to comply with federal and state healthcare laws, including fraud and abuse and health information privacy and security laws, we could face substantial penalties and our business, results of operations, financial condition and prospects could be adversely affected. As a pharmaceutical company, even though we do not and will not control referrals of healthcare services or bill directly to Medicare, Medicaid or other third-party payors, certain federal and state healthcare laws and regulations pertaining to fraud and abuse and patients’ rights are and will be applicable to our business. For example, we could be subject to healthcare fraud and abuse and patient privacy regulation by both the federal government and the states in which we conduct our business. The laws that may affect our ability to operate include, among othe • The federal Anti-Kickback Statute, which regulates our business activities, including our clinical research and relationships with healthcare providers or other entities as well as our future marketing practices, educational programs and pricing policies, and by prohibiting, among other things, soliciting, receiving, offering or paying remuneration, directly or indirectly, to induce, or in return for, either the referral of an individual or the purchase or recommendation of an item or service reimbursable under a federal healthcare program, such as the Medicare and Medicaid programs; • Federal civil and criminal false claims laws, including the False Claims Act, which permits a private individual acting as a “whistleblower” to bring actions on behalf of the federal government alleging violations of the False Claims Act, and civil monetary penalty laws, which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid or other third-party payors that are false or fraudulent; • The federal Health Insurance Portability and Accountability Act of 1996, or HIPAA, which created new federal civil and criminal statutes that prohibit, among other things, executing a scheme to defraud any healthcare benefit program or making false statements relating to healthcare matters; • The Health Information Technology for Economic and Clinical Health Act of 2009, or HITECH, and its implementing regulations, which impose certain requirements relating to the privacy, security and transmission of individually identifiable health information on entities and individuals subject to the law including certain healthcare providers, health plans, and healthcare clearinghouses, known as covered entities, as well as individuals and entities that perform services for them which involve the use, or disclosure of, individually identifiable health information, known as business associates and their subcontractors that use, disclose or otherwise process individually identifiable health information; • Requirements under the Physician Payments Sunshine Act to report annually to CMS certain financial arrangements with physicians (defined to include doctors, dentists, optometrists, podiatrists and chiropractors) and teaching hospitals, as defined in the ACA and its implementing regulations, including reporting any “transfer of value” made or distributed to teaching 47 hospitals, and physicians, as defined by such law and reporting any ownership and investment interests held by physicians and their immediate family members and applicable group purchasing organizations during the preceding calendar year, which will be expanded beginning in 2022, to require applicable manufacturers to report such information regarding its payments and other transfers of value made to physician assistants, nurse practitioners, clinical nurse specialists, anesthesiologist assistants, certified registered nurse anesthetists and certified nurse midwives during the previous year; and • State and foreign law equivalents of each of the above federal laws, such as anti-kickback and false claims laws which may apply to items or services reimbursed by any third-party payor, including commercial insurers; state laws that require pharmaceutical companies to comply with the industry’s voluntary compliance guidelines and the applicable compliance guidance promulgated by the federal government that otherwise restricts certain payments that may be made to healthcare providers and entities; state laws that require drug manufacturers to report information related to payments and other transfer of value to physicians and other healthcare providers and entities; state laws that require the reporting of information related to drug pricing; state and local laws that require the registration of pharmaceutical sales representatives; and state and foreign laws governing the privacy and security of health information in certain circumstances, many of which differ from each other in significant ways and often are not preempted by HIPAA, thus complicating compliance efforts. Because of the breadth of these laws and the narrowness of the statutory exceptions and safe harbors available, it is possible that some of our business activities, including our consulting agreements with physicians, some of whom receive stock or stock options as compensation for their services, could be subject to challenge under one or more of such laws. In addition, recent health care reform legislation has further strengthened these laws. For example, the ACA, among other things, amended the intent requirement of the federal Anti-Kickback Statute and certain criminal healthcare fraud statutes. A person or entity no longer needs to have actual knowledge of this statute or specific intent to violate it. Moreover, the ACA provides that the government may assert that a claim including items or services resulting from a violation of the federal Anti-Kickback Statute constitutes a false or fraudulent claim for purposes of the False Claims Act. To the extent that any of our product candidates is ultimately sold in a foreign country, we may be subject to similar foreign laws and regulations. Efforts to ensure that our business arrangements comply with applicable healthcare laws involve substantial costs. It is possible that governmental and enforcement authorities will conclude that our business practices do not comply with current or future statutes, regulations or case law interpreting applicable fraud and abuse or other healthcare laws and regulations. If any such actions are instituted against us, and we are not successful in defending ourselves or asserting our rights, we may be subject to significant penalties, including administrative, civil and criminal penalties, damages, fines, exclusion from participation in United States federal or state health care programs, such as Medicare and Medicaid, disgorgement, imprisonment, integrity oversight and reporting obligations, and the curtailment or restructuring of our operations any of which could materially adversely affect our ability to operate our business and our financial results. Although compliance programs can mitigate the risk of investigation and prosecution for violations of these laws, the risks cannot be entirely eliminated. Any action against us for violation of these laws, even if we successfully defend against it, could cause us to incur significant legal expenses and divert our management’s attention from the operation of our business. Moreover, achieving and sustaining compliance with applicable federal and state privacy, security and fraud laws may prove costly. Our immuno-oncology product candidates may face competition in the future from biosimilars and/or new technologies. The Biologics Price Competition and Innovation Act of 2009, or BPCIA, provides an abbreviated pathway for the approval of follow-on biological products. Under the BPCIA, an application for a biosimilar product cannot be approved by the FDA until 12 years after the original branded product was approved under a BLA. However, there is a risk that the U.S. Congress could amend the BPCIA to significantly shorten this exclusivity period, potentially creating the opportunity for generic competition sooner than anticipated. Further, this data exclusivity does not prevent another company from developing a product that is highly similar to the original branded product, generating its own data and seeking approval. Data exclusivity only assures that another company cannot rely upon the data within the innovator’s application to support the biosimilar product’s approval. We rely significantly on information technology and any failure, inadequacy, interruption or security lapse of that technology or loss of data, including any cyber security incidents, could compromise sensitive information related to our business, prevent us from accessing critical information or expose us to liability which could harm our ability to operate our business effectively and adversely affect our business and reputation. 48 In the ordinary course of our business, we, our contract research organizations and other third parties on which we rely collect and store sensitive data, including legally protected patient health information, personally identifiable information about our employees, intellectual property, and proprietary business information. We manage and maintain our applications and data utilizing on-site systems. These applications and data encompass a wide variety of business-critical information including research and development information and business and financial information. The secure processing, storage, maintenance and transmission of this critical information is vital to our operations and business strategy. Despite the implementation of security measures, our internal computer systems and those of third parties with which we contract are vulnerable to damage from cyber-attacks, computer viruses, breaches, unauthorized access, interruptions due to employee error or malfeasance or other disruptions, or damage from natural disasters, terrorism, war and telecommunication and electrical failures. In addition, due to the COVID-19 pandemic, we have enabled many of our employees to work remotely, which may make us more vulnerable to cyberattacks. Any such event could compromise our networks and the information stored there could be accessed by unauthorized parties, publicly disclosed, lost or stolen. Although we have measures in place that are designed to detect and respond to such security incidents and breaches of privacy and security mandates, we cannot guarantee that those measures will be successful in preventing any such security incident. Any such access, disclosure or other loss of information could result in legal claims or proceedings, liability under laws that protect the privacy of personal information, government enforcement actions and regulatory penalties. Unauthorized access, loss or dissemination could also disrupt our operations, including our ability to conduct research, development and commercialization activities, process and prepare Company financial information, manage various general and administrative aspects of our business and damage our reputation, in addition to possibly requiring substantial expenditures of resources to remedy, any of which could adversely affect our business. The loss of clinical trial data could result in delays in our regulatory approval efforts and significantly increase our costs to recover or reproduce the data. In addition, there can be no assurance that we will promptly detect any such disruption or security breach, if at all. If the technology supporting our hunTR discovery engine were to experience a cyber-incident resulting in the disclosure or theft of our proprietary screening software or library of TCRs, our business may be materially and negatively impacted. While we are not aware of any such material system failure, accident or security breach to date, to the extent that any disruption or security breach were to result in a loss of, or damage to, our data or applications, or inappropriate disclosure of confidential or proprietary information, we could incur liability and our research, development and commercialization efforts could be delayed. RISKS RELATED TO OUR INTELLECTUAL PROPERTY If we or our licensors fail to adequately protect or enforce our intellectual property rights or secure rights to patents of others, the value of our intellectual property rights would diminish and our ability to successfully commercialize our products may be impaired. Our success, competitive position, and future revenues will depend in part on our ability and the abilities of our licensors to obtain and maintain patent protection for our products, methods, processes and other technologies, to preserve confidential information, including trade secrets, to prevent third parties from infringing our proprietary rights, and to operate without infringing the proprietary rights of third parties. To date, we have exclusive rights in the field of cancer treatment to certain U.S. and foreign intellectual property with respect to certain cell therapy and related technologies from MD Anderson and NCI, as well as with respect to the PGEN technology, including Sleeping Beauty . Under the MD Anderson License, future patent applications require the agreement of each of MD Anderson, PGEN and us, and MD Anderson has the right to control the preparation, filing, and prosecution of such patent applications unless the parties agree that we or PGEN instead may control such activities. Although under the agreement MD Anderson has agreed to review and incorporate any reasonable comments that we or PGEN may have regarding licensed patents and patent applications, we cannot guarantee that our comments will be solicited or followed. Under the Patent License with the NCI for certain TCRs, the NCI is responsible for the preparation, filing, prosecution, and maintenance of patent applications and patents licensed to us. Although under the Patent License, the NCI is required to consult with us in the preparation, filing, prosecution, and maintenance of all its patent applications and patents licensed to us, we cannot guarantee that our comments will be solicited or followed. Under our License Agreement with PGEN, PGEN has the right, but not the obligation, to prepare, file, prosecute, and maintain the patents and patent applications licensed to us and shall bear all related costs incurred by it in regard to those actions. PGEN is required to consult with us and keep us reasonably informed of the status of the patents and patent applications licensed to us, and to confer with us prior to submitting any related filings and correspondence. Although under the License Agreement PGEN has agreed to consider in good faith 49 and consult with us regarding any comments we may have regarding these patents and patent applications, we cannot guarantee that our comments will be solicited or followed. Without direct control of the in-licensed patents and patent applications, we are dependent on MD Anderson, the NCI or PGEN, as applicable, to keep us advised of prosecution, particularly in foreign jurisdictions where prosecution information may not be publicly available. We anticipate that we, MD Anderson, the NCI and PGEN will file additional patent applications both in the United States and in other jurisdictions. However, we cannot predict or guarantee for either our in-licensed patent portfolios or for Alaunos’ patent portfoli • When, if at all, any patents will be granted on such applications; • The scope of protection that any patents, if obtained, will afford us against competitors; • That third parties will not find ways to invalidate and/or circumvent our patents, if obtained; • That others will not obtain patents claiming subject matter related to or relevant to our product candidates; or • That we will not need to initiate litigation and/or administrative proceedings that may be costly whether we win or lose. The patent prosecution process is expensive and time-consuming, and we may not be able to file and prosecute all necessary or desirable patent applications at a reasonable cost, in a timely manner or at all. It is also possible that we will fail to identify patentable aspects of our research and development output before it is too late to obtain patent protection. Moreover, in some circumstances, we do not have the right to control the preparation, filing and prosecution of patent applications, or to maintain the patents, covering technology that we license from third parties. We may also require the cooperation of our licensors in order to enforce the licensed patent rights, and such cooperation may not be provided. Therefore, these patents and applications may not be prosecuted and enforced in a manner consistent with the best interests of our business. The patent position of biotechnology and pharmaceutical companies generally is highly uncertain, involves complex legal and factual questions and has in recent years been the subject of much litigation. In addition, the laws of other jurisdictions may not protect our rights to the same extent as the laws of the United States. For example, methods of therapeutic treatment, which are patent-eligible in the United States, may not be claimed in many other jurisdictions; some patent offices (such as the European Patent Office) may permit the redrafting of method of treatment claims into a "medical use" format that is patent-eligible, while other patent offices (such as the Indian Patent Office) may not accept any redrafted claiming format for such claims. Changes in patent laws or in interpretations of patent laws in the United States and other jurisdictions may diminish the value of our intellectual property or narrow the scope of our patent protection. In September 2011, the Leahy-Smith America Invents Act, or the Leahy-Smith Act, was signed into law, resulting in a number of significant changes to United States patent law. These changes include provisions that affect the way patent applications are prosecuted and may also affect patent litigation. In addition, the United States Supreme Court has ruled on several patent cases in recent years, narrowing the scope of patent protection available in certain circumstances or weakening the rights of patent owners in certain situations. This combination of events has created uncertainty with respect to the value of patents, once obtained, and with regard to our ability to obtain patents in the future. As the USPTO continues to implement the Leahy-Smith Act, and as the federal courts have the opportunity to interpret the Leahy-Smith Act, the laws and regulations governing patents, and the rules regarding patent procurement could change in unpredictable ways that would weaken our ability to obtain new patents or to enforce our existing patents and patents that we might obtain in the future. Certain technologies utilized in our research and development programs are already in the public domain. Moreover, a number of our competitors have developed technologies, or filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and may cover or conflict with our owned or licensed patent applications, technologies or product candidates. Such conflicts could limit the scope of the patents, if any, that we may be able to obtain. Because patent applications in the United States and many foreign jurisdictions are typically not published until 18 months after filing, or in some cases at all, and because publications of discoveries in the scientific literature lag behind actual discoveries per se, neither we nor our licensors can be certain that others have not filed patent applications for technology used by us or covered by our pending patent applications. We cannot know with certainty whether we were the first to make and file for the inventions claimed in our owned patent portfolio, or whether our licensors were the first to make and file for the inventions claimed in our in-licensed patent portfolio. As a result, the issuance, scope, validity, enforceability and commercial value of our patent rights are highly uncertain. Our pending and future patent applications may not result in the issuance of patents that protect our technology or products, in whole or in part, or that effectively prevent others from commercializing competitive technologies and products. In addition, our own earlier filed patents and applications or those of MD Anderson, NCI or PGEN may limit the scope of later patents we obtain, if any. If third parties file or have 50 filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and that cover or conflict with our owned or licensed patent applications, technologies or product candidates, we may be required to challenge such protection, terminate or modify our programs impacted by such protection, or obtain licenses from such third parties, which might not be available on acceptable terms, or at all. Even if our owned and licensed patent applications were to be issued as patents, they may not issue in a form that would provide us with any meaningful protection, prevent competitors from competing with us or otherwise provide us with any competitive advantage. Our competitors may be able to circumvent our owned or licensed patents by developing similar or alternative technologies or products in a non-infringing manner. The issuance of a patent is not conclusive as to its inventorship, scope, validity or enforceability, and our owned and licensed patents may be challenged in the courts or patent offices in the United States and abroad. Such challenges may result in loss of exclusivity due to our patents being narrowed, invalidated or held unenforceable, which could limit our ability to stop others from using or commercializing similar or identical technology and products, or limit the duration of the patent protection of our technology and products. Given the amount of time required for the development, testing and regulatory review of new product candidates, patents protecting such candidates might expire before or even after such candidates are commercialized. As a result, our owned and licensed patent portfolio may not provide us with sufficient rights to exclude others from commercializing products similar or identical to ours. If we are unable to protect the confidentiality of our confidential information, our business and competitive position would be harmed. Our success also depends upon the skills, knowledge, and experience of our scientific and technical personnel, our consultants and advisors, as well as our licensors and contractors. To help protect our proprietary know-how and our inventions for which patents may be unobtainable or difficult to obtain, and to maintain our competitive position, we rely on trade secret protection and confidentiality agreements. To this end, it is our general policy to require our employees, consultants, advisors, and contractors to enter into agreements that prohibit the disclosure of confidential information and, where applicable, require disclosure and assignment to us of the ideas, developments, discoveries, and inventions important to our business. These agreements may not provide adequate protection for our trade secrets, know-how, confidential information or other proprietary information in the event of any unauthorized use or disclosure or the lawful development by others of such information. Moreover, we may not be able to obtain adequate remedies for any breaches of these agreements. Our trade secrets or other confidential information may also be obtained by third parties by other means, such as breaches of our physical or computer security systems. Enforcing a claim that a party illegally disclosed or misappropriated a trade secret or other confidential information is difficult, expensive and time-consuming, and the outcome is unpredictable. In addition, some courts inside and outside the United States are less willing or unwilling to protect trade secrets. If any of our trade secrets or other confidential information were to be lawfully obtained or independently developed by competitors, we would have no right to prevent them, or those to whom they communicate it, from using that technology or information to compete with us. If any of our trade secrets, know-how or other proprietary information is disclosed, the value of our trade secrets, know-how and other proprietary rights would be significantly impaired and our business and competitive position would suffer. Third-party claims of intellectual property infringement would require us to spend significant time and money and could prevent us from developing or commercializing our products. In order to protect or enforce patent rights, we may initiate patent infringement litigation against third parties. Similarly, we may be sued by others for patent infringement. We also may become subject to pre- and post-grant proceedings conducted in the USPTO, including interferences, derivations, post-grant review, inter partes review, or reexamination. In other jurisdictions, our patent estate may be subject to pre- and post-grant opposition, nullity, revocation proceedings, and the like. Asserting and defending against intellectual property actions are costly and divert technical and management personnel away from their normal responsibilities. Our commercial success depends upon our ability, and the ability of our collaborators, to develop, manufacture, market and sell our product candidates without infringing the proprietary rights of third parties. There is considerable intellectual property litigation in the biotechnology and pharmaceutical industries. While no such litigation has been brought against us and we have not been held by any court to have infringed a third party’s intellectual property rights, we cannot guarantee that our products or use of our products do not infringe or will not be asserted to infringe third-party patents. It is also possible that we have failed to identify relevant third-party patents or applications, or that as-yet unpublished third-party patent applications will later result in the grant of patents relevant to our business. Another possibility is for a third-party patent or patent application to first contain claims not relevant to our business but then to be reissued or amended in such a way that it does become relevant. 51 Our research, development and commercialization activities, as well as any product candidates or products resulting from these activities, may infringe or be asserted to infringe patents or patent applications under which we do not hold licenses or other rights. Owning a patent does not confer on the patentee the right to practice the claimed invention and does not protect the patentee from being sued for infringement of another owner’s patent. Our patent position cannot and does not provide any assurance that we are not infringing or will not be asserted to infringe the patent rights of another. The patent landscape in the field of immuno-oncology is particularly complex. We are aware of numerous United States and foreign patents and pending patent applications of third parties directed to compositions, methods of use and methods of manufacture of immuno-oncology products. In addition, there may be patents and patent applications in the field of which we are not aware. The technology we license from MD Anderson, NCI and PGEN is early-stage technology, and we are in the process of designing and developing products using this technology. Although we will seek to avoid pursuing the development of products that may infringe any third-party patent claims that we believe to be valid and enforceable, we may fail to do so. Moreover, given the breadth and number of claims in patents and pending patent applications in the field of immuno-oncology and the complexities and uncertainties associated with them, third parties may allege that we are infringing patent claims even if we do not believe such claims have merit. If a claim for patent infringement is asserted, there can be no assurance that the resolution of the claim would permit us to continue marketing the relevant product on commercially reasonable terms, if at all. We may not have sufficient resources to bring these actions to a successful conclusion. If we do not successfully defend any infringement actions to which we become a party or if we are unable to have any asserted third-party patents declared invalid or unenforceable, we may have to pay substantial monetary damages, which can be tripled if the infringement is deemed willful, and/or we may be required to discontinue or significantly delay commercialization and development of the affected products. Any legal action against us or our collaborators claiming damages and seeking to enjoin developmental or marketing activities relating to affected products could, in addition to subjecting us to potential liability for damages, require us or our collaborators to obtain licenses to continue to develop, manufacture, or market the affected products. Such licenses may not be available to us on commercially reasonable terms, or at all. An adverse determination in a proceeding involving our owned or licensed intellectual property may allow entry in the market of substitutes, including biosimilar or generic substitutes, for our products. Obtaining and maintaining our patent protection depends on compliance with various procedural, document submission, fee payment and other requirements imposed by governmental patent agencies, and our patent protection could be reduced or eliminated for noncompliance with these requirements. Annuities and other similar fees must be paid to the respective patent authority to maintain patents (or patents and patent applications) in most jurisdictions worldwide. Further, patent authorities in jurisdictions worldwide require compliance with a number of procedural, documentary, fee payment and other similar provisions during the patent application process. While an inadvertent lapse can in many cases be cured by payment of a late fee or by other means in accordance with the applicable rules, there are situations in which noncompliance can result in abandonment or lapse of the patent or patent application, resulting in partial or complete loss of patent rights in the relevant jurisdiction. Noncompliance events that could result in abandonment or lapse of a patent or patent application include, but are not limited to, failure to respond to official actions within prescribed time limits, non-payment of fees, and failure to submit documents with the necessary formal requirements such as notarization and legalization. In such an event, our competitors might be able to enter the market, which would have a material adverse effect on our business. We license rights to products and technology that are important to our business, and we expect to enter into additional licenses in the future. For instance, we have in-licensed patents and patent applications under our MD Anderson License, our license agreement with the NCI, and our license agreement with PGEN. Under these agreements, we are subject to a range of obligations pertaining to commercialization and development, sublicensing, royalty, patent prosecution and maintenance, and insurance. Any failure by us to obtain a needed license, comply with any of these obligations or any other breach by us of our license agreements could give the licensor the right to terminate the license in whole, terminate the exclusive nature of the license or bring a claim against us for damages. Any such termination or claim could have a material adverse effect on our financial condition, results of operations, liquidity or business. Even if we contest any such termination or claim and are ultimately successful, such dispute could lead to delays in the development or commercialization of potential products and result in time-consuming and expensive litigation or arbitration. On termination we may be required to license to the licensor any related intellectual property that we developed. 52 In addition, in certain cases, the rights licensed to us are rights of a third party licensed to our licensor. In such instances, if our licensors do not comply with their obligations under such licenses, our rights under our license agreements with our licensor may be adversely affected. In addition, the licensing or acquisition of third-party intellectual property rights is a highly competitive area, and a number of more established companies are also pursuing strategies to license or acquire third party intellectual property rights that we may consider attractive or necessary. These established companies may have a competitive advantage over us due to their size, capital resources and greater clinical development and commercialization capabilities. In addition, companies that perceive us to be a competitor may be unwilling to assign or license rights to us. We also may be unable to license or acquire third party intellectual property rights on terms that would allow us to make an appropriate return on our investment or at all. If we are unable to successfully obtain rights to required third party intellectual property rights or maintain the existing intellectual property rights we have, we may have to abandon development of the relevant program or product candidate, which could have a material adverse effect on our business, financial condition, results of operations, and prospects. We may be subject to claims by third parties asserting that our employees or we have misappropriated their intellectual property or claiming ownership of what we regard as our own intellectual property. Many of our employees were previously employed at universities or at other biotechnology or pharmaceutical companies, including our competitors or potential competitors. Although we try to ensure that our employees do not use the proprietary information or know-how of others in their work for us, we may be subject to claims that these employees or we have used or disclosed intellectual property, including trade secrets or other proprietary information, of any such employee’s former employer. Litigation may be necessary to defend against these claims. In addition, while it is our policy to require our employees and contractors who may be involved in the development of intellectual property to execute agreements assigning such intellectual property to us, we may be unsuccessful in executing such an agreement with each party who in fact develops intellectual property that we regard as our own. Our and their assignment agreements may not be self-executing or may be breached, and we may be forced to bring claims against third parties, or defend claims they may bring against us, to determine the ownership of what we regard as our intellectual property. If we fail in prosecuting or defending any such claims, in addition to paying monetary damages, we may lose valuable intellectual property rights or personnel. Even if we are successful in prosecuting or defending against such claims, litigation could result in substantial costs and be a distraction to management. OTHER RISKS RELATED TO OUR COMPANY Our stock price has been, and may continue to be, volatile. The market price for our common stock is volatile and may fluctuate significantly in response to a number of factors, most of which we cannot control, includin • Price and volume fluctuations in the overall stock market; • Changes in operating results and performance and stock market valuations of other biopharmaceutical companies generally, or those that develop and commercialize cancer drugs in particular; • Market conditions or trends in our industry or the economy as a whole; • Preclinical studies or clinical trial results; • the commencement, enrollment or results of the planned clinical trials of our product candidates or any future clinical trials we may conduct, or changes in the development status of our product candidates; • Public concern as to the safety of drugs developed by us or others; • The financial or operational projections we may provide to the public, any changes in these projections or our failure to meet these projections; 53 • Comments by securities analysts or changes in financial estimates or ratings by any securities analysts who follow our common stock, our failure to meet these estimates or failure of those analysts to initiate or maintain coverage of our common stock; • The public’s response to press releases or other public announcements by us or third parties, including our filings with the SEC, as well as announcements of the status of development of our products, announcements of technological innovations or new therapeutic products by us or our competitors, announcements regarding collaborative agreements and other announcements relating to product development, litigation and intellectual property impacting us or our business; • Government regulation; • FDA determinations on the approval of a product candidate BLA submission; • The sustainability of an active trading market for our common stock; • Future sales of our common stock by us, our executive officers, directors and significant stockholders; • Announcements of mergers or acquisition transactions; • Our inclusion or deletion from certain stock indices; • Developments in patent or other proprietary rights; • Changes in reimbursement policies; • Announcements of medical innovations or new products by our competitors; • Announcements of changes in our senior management or directors; • General economic, industry, political and market conditions, including, but not limited to, the ongoing impact of the COVID-19 pandemic; • Other events or factors, including those resulting from war, incidents of terrorism, natural disasters, pandemics or responses to these events; and • Changes in accounting principles. In addition, the stock market in general and our stock in particular from time to time experiences significant price and volume fluctuations unrelated to the operating performance of particular companies, including in connection with the ongoing COVID-19 pandemic, which has resulted in decreased stock prices for many companies notwithstanding the lack of a fundamental change in their underlying business models or prospects. Public debt and equity markets, and in particular the Nasdaq Global Select Market, have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many biopharmaceutical companies. Stock prices of many biopharmaceutical companies have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. In the past, stockholders have instituted securities class action litigation following periods of market volatility. If we were involved in securities litigation, we could incur substantial costs and our resources, and the attention of management could be diverted from our business. If we fail to satisfy applicable listing standards, our common stock may be delisted from the Nasdaq Global Select Market. Delisting could prevent us from maintaining an active, liquid and orderly trading market. Our ability to publicly or privately sell equity securities and the liquidity of our common stock could be adversely affected if we are delisted from The Nasdaq Global Select Market or if we are unable to transfer our listing to another stock market. On March 17, 2022, we were notified by The Nasdaq Stock Market LLC, or Nasdaq, that we were in breach of Listing Rule 5450(a)(1), or the Minimum Bid Price Rule, for continued listing on The Nasdaq Global Select Market because the minimum bid price of our listed securities for 30 consecutive business days had been less than $1 per share. In accordance with Nasdaq Listing Rule 5810(c)(3)(A), or the Compliance Period Rule, we have been provided a period of 180 calendar days, or until September 13, 2022, or the Compliance Date, to regain compliance with the Bid Price Requirement. If, at any time before the Compliance Date, the bid price for our common stock closes at $1.00 or more for a minimum of 10 consecutive business days as required under the Compliance Period Rule, Nasdaq will 54 provide us written notification that we have regained compliance with the Bid Price Requirement, unless Nasdaq exercises its discretion to extend this ten-day period. During this 180-day period, we would anticipate reviewing our options to regain compliance with the minimum bid requirements, including conducting a reverse stock split. On April 27, 2022, we filed a definitive proxy statement, which included a proposal to effect a reverse stock split, if needed in the discretion of our board of directors to regain compliance with the Minimum Bid Price Rule, at a ratio between the range of 1-for -5 and 1-for-15, inclusive. On May 11, 2022, the closing price of our common stock was $0.55 per share. If we are unable to continue to meet the requirements for listing on the Nasdaq Global Select Market we may apply to Nasdaq to list our common stock on the Nasdaq Capital Markets which may also provide us up to an additional 180 days to regain compliance with the Minimum Bid Price Rule. Nasdaq would have to accept our application to list on the Nasdaq Capital Market and we would need to show our compliance with the other listing standards and provide Nasdaq written notice of our intention to cure the bid price deficiency. Should Nasdaq determine that we are not eligible to list on the Nasdaq Capital Market or we elect not to submit an application to transfer to the Nasdaq Capital Market we will receive written notice that our common stock will be delisted, at which point we will have the opportunity to appeal that decision. If our common stock is delisted by Nasdaq, it could lead to a number of negative implications, including an adverse effect on the price of our common stock, deterring broker-dealers from making a market in or otherwise seeking or generating interest in our common stock, increased volatility in our common stock, reduced liquidity in our common stock, the loss of federal preemption of state securities laws and greater difficulty in obtaining financing. Delisting could also cause a loss of confidence of our customers, collaborators, vendors, suppliers and employees, which could harm our business and future prospects. If our common stock is delisted by Nasdaq, the price of our common stock may decline, and although our common stock may be eligible to trade on the OTC Bulletin Board, another over-the-counter quotation system, or on the pink sheets, an investor may find it more difficult to dispose of their common stock or obtain accurate quotations as to the market value of our common stock. Further, if we are delisted, we would incur additional costs under state blue sky laws in connection with any sales of our securities. These requirements could severely limit the market liquidity of our common stock and the ability of our shareholders to sell our common stock in the secondary market. *We may effect a reverse stock split of our common stock, but it may not result in the intended benefits. As described above, we are seeking approval from our stockholders to effect, if needed in the discretion of our board of directors, a reverse stock split of the issued and outstanding shares of our common stock, our treasury stock, and a proportionate reduction in the shares of our authorized common stock in order to regain compliance with the Nasdaq minimum bid price requirement. However, there can be no assurance that the reverse stock split will be approved by our stockholders. Further, there can be no assurance that the market price per new share of our common stock after the reverse stock split will remain unchanged or increase in proportion to the reduction in the number of old shares of our common stock outstanding before the reverse stock split. Other factors, such as our financial results, market conditions and the market perception of our business may adversely affect the market price of our common stock and there can be no assurance that a reverse stock split, if completed, will result in the intended benefits, that the market price of our common stock will increase in proportion to the reduction in the number of shares of our common stock outstanding before the reverse stock split or that the market price of our common stock will not decrease in the future. If the market price of our common stock does not increase the price per share of our common stock above Nasdaq’s minimum bid price threshold of $1.00 per share or if the market price of our common stock does not remain above Nasdaq’s minimum bid price threshold of $1.00 per share, our common stock may still be delisted from Nasdaq. *If we implement a reverse stock split, liquidity of our common stock may be adversely affected. If we do effect a reverse stock split, the liquidity of the shares of our common stock may be affected adversely by any such reverse stock split given the reduced number of shares of common stock that will be outstanding following the reverse stock split, especially if the market price of our common stock does not increase as a result of the reverse stock split. Following any reverse stock split, the resulting market price of our common stock may not attract new investors and may not satisfy the investing requirements of those investors. Although we believe a higher market price of our common stock may help generate greater or broader investor interest, there can be no assurance that the reverse stock split will result in a share price that will attract new investors, including institutional investors. In addition, there can be no assurance that the market price of our common stock will satisfy the investing requirements of those investors. As a result, the trading liquidity of our common stock may not necessarily improve. 55 Anti-takeover provisions in our charter documents and under Delaware law may make an acquisition of us, which may be beneficial to our stockholders, more difficult. Provisions of our amended and restated certificate of incorporation and bylaws, as well as provisions of Delaware law, could make it more difficult for a third party to acquire us, even if doing so would benefit our stockholders. These provisions authorize the issuance of “blank check” preferred stock that could be issued by our board of directors to increase the number of outstanding shares and hinder a takeover attempt, and limit who may call a special meeting of stockholders. In addition, Section 203 of the Delaware General Corporation Law, or Section 203, generally prohibits a publicly held Delaware corporation from engaging in a business combination with a party that owns at least 15% of its common stock unless the business combination is approved by our board of directors before the person acquires the 15% ownership stake or later by its board of directors and two-thirds of its stockholders. Section 203 could have the effect of delaying, deferring or preventing a change in control that our stockholders might consider to be in their best interests. Our amended and restated bylaws provide that the Court of Chancery of the State of Delaware will be the exclusive forum for substantially all disputes between us and our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees. Our bylaws provide that, unless we consent in writing to the selection of an alternative forum, the Court of Chancery of the State of Delaware is the exclusive forum for (i) any derivative action or proceeding brought on our behalf; (ii) any action asserting a claim of breach of a fiduciary duty owed by any of our directors, officers or other employees to us or our stockholders; (iii) any action asserting a claim against us or any of our directors, officers or other employees arising pursuant to any provision of the Delaware General Corporation Law, our amended and restated certificate of incorporation or our amended and restated bylaws; (iv) any claim or cause of action seeking to interpret, apply, enforce or determine the validity of the amended and restated certificate of incorporation or our bylaws; (v) any claim or cause of action as to which the General Corporation Law confers jurisdiction on the Court of Chancery of the State of Delaware; or (vi) any action asserting a claim against us or any of our directors, officers or other employees governed by the internal affairs doctrine. These provisions would not apply to suits brought to enforce a duty or liability created by the Exchange Act. Furthermore, Section 22 of the Securities Act creates concurrent jurisdiction for federal and state courts over all such Securities Act actions. Accordingly, both state and federal courts have jurisdiction to entertain such claims. These exclusive forum provisions may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers, or other employees, which may discourage lawsuits against us and our directors, officers and other employees. If a court were to find either exclusive-forum provision to be inapplicable or unenforceable in an action, we may incur further significant additional costs associated with resolving the dispute in other jurisdictions, all of which could seriously harm our business. Because we do not expect to pay dividends, you will not realize any income from an investment in our common stock unless and until you sell your shares at a profit. We have never paid dividends on our common stock, and we do not anticipate that we will pay any dividends for the foreseeable future. Accordingly, any return on an investment in us will be realized, if at all, only when you sell shares of our common stock. Our ability to use net operating loss carryforwards and research tax credits to reduce future tax payments may be limited or restricted. We have generated significant net operating loss carryforwards, or NOLs, and research and development tax credits, or R&D credits, as a result of our incurrence of losses and our conduct of research activities since inception. We generally are able to carry NOLs and R&D credits forward to reduce our tax liability in future years. However, our ability to utilize the NOLs and R&D credits is subject to the rules of Sections 382 and 383 of the Internal Revenue Code of 1986, as amended, or the Code, respectively. Those sections generally restrict the use of NOLs and R&D credits after an “ownership change.” An ownership change occurs if, among other things, the stockholders (or specified groups of stockholders) who own or have owned, directly or indirectly, 5% or more of a corporation’s common stock or are otherwise treated as 5% stockholders under Section 382 of the Code and the U.S. Treasury Department regulations promulgated thereunder increase their aggregate percentage ownership of that corporation’s stock by more than 50 percentage points over the lowest percentage of the stock owned by these stockholders over the applicable testing period. In the event of an ownership change, Section 382 of the Code imposes an annual limitation on the amount of taxable income a corporation may 56 offset with NOL carry forwards and Section 383 of the Code imposes an annual limitation on the amount of tax a corporation may offset with business credit (including R&D credits) carryforwards. We may have experienced an “ownership change” within the meaning of Section 382 of the Code in the past and there can be no assurance that we will not experience additional ownership changes in the future. As a result, our NOLs and business credits (including R&D credits) may be subject to limitations, and we may be required to pay taxes earlier and in larger amounts than would be the case if our NOLs or R&D credits were freely usable. If securities and/or industry analysts fail to continue publishing research about our business, if they change their recommendations adversely or if our results of operations do not meet their expectations, our stock price and trading volume could decline. The trading market for our common stock will be influenced by the research and reports that industry or securities analysts publish about us or our business. If one or more of these analysts cease coverage of our Company or fail to publish reports on us regularly, we could lose visibility in the financial markets, which in turn could cause our stock price or trading volume to decline. In addition, it is likely that in some future period our operating results will be below the expectations of securities analysts or investors. If one or more of the analysts who cover us downgrade our stock, or if our results of operations do not meet their expectations, our stock price could decline. Our business could be negatively affected as a result of the actions of activist stockholders. In 2021, we were engaged in a consent solicitation led by WaterMill Asset Management Corp., or WaterMill, where three new directors were added to our board of directors. We could experience other stockholder activism in the future, including another consent solicitation or a proxy contest. Activist shareholders may advocate for certain governance and strategic changes at our company. In the event of stockholder activism, particularly with respect to matters which our board of directors, in exercising their fiduciary duties, disagree with or have determined not to pursue, our business could be adversely affected because responding to actions by activist stockholders can be costly and time-consuming, disrupting our operations and diverting the attention of management, and perceived uncertainties as to our future direction may result in the loss of potential business opportunities and may make it more difficult to attract and retain qualified personnel, business partners, and customers. In addition, if faced with a consent solicitation or proxy contest, we may not be able to respond successfully to the contest or dispute, which would be disruptive to our business. If individuals are elected to our board of directors with a differing agenda, our ability to effectively and timely implement our strategic plan and create additional value for our stockholders may be adversely affected. *The exercise of outstanding warrants, and issuance of equity awards may have a dilutive effect on our stock, and negatively impact the price of our common stock. As of March 31, 2022, we had warrants for 22,922,342 shares of our common stock outstanding at a weighted average exercise price of $5.62 per share. We are able to grant stock options, restricted stock, restricted stock units, stock appreciation rights, bonus stocks, and performance awards under our 2012 Equity Incentive Plan, or the 2020 Equity Incentive Plan. Under these plans, 10,969,653 shares were issuable upon the exercise of outstanding options at a weighted average exercise price of $2.16 per share. *Our principal stockholders, executive officers and directors have substantial control over the Company, which may prevent you and other stockholders from influencing significant corporate decisions and may harm the market price of our common stock. As of March 31, 2022, our executive officers, directors and holders of five percent or more of our outstanding common stock beneficially owned, in the aggregate, 51.9% of our outstanding common stock. These stockholders may have interests that conflict with our other stockholders and, if acting together, have the ability to influence the outcome of matters submitted to our stockholders for approval, including the election and removal of directors and any merger, consolidation or sale of all or substantially all of our assets. Accordingly, this concentration of ownership may harm the market price of our common stock • Delaying, deferring or preventing a change in control; • Impeding a merger, consolidation, takeover or other business combination involving us; or • Discouraging a potential acquirer from making a tender offer or otherwise attempting to obtain control of us. 57 In addition, this significant concentration of stock ownership may adversely affect the trading price of our common stock should investors perceive disadvantages in owning shares of common stock in a company that has such concentrated ownership. Changes to corporate tax legislation, including the Tax Cuts and Jobs Act, signed into law in 2017, could adversely affect our business and financial condition. The Tax Act contains significant changes to corporate taxation, including reduction of the corporate tax rate from a top marginal rate of 35% to a flat rate of 21%, limitation of the tax deduction for interest expense to 30% of adjusted earnings (except for certain small businesses), limitation of the deduction for NOLs to 80% of current year taxable income and elimination of NOL carrybacks, one time taxation of offshore earnings at reduced rates regardless of whether they are repatriated, elimination of U.S. tax on foreign earnings (subject to certain important exceptions), immediate deductions for certain new investments instead of deductions for depreciation expense over time and modifying or repealing many business deductions and credits. The Coronavirus Aid, Relief, and Economic Security Act, or CARES Act, enacted in 2020, modified certain of these tax changes, and enacted other tax changes applicable to corporations. Notwithstanding the reduction in the corporate income tax rate, the overall impact of the Tax Act and the CARES Act is uncertain and our business and financial condition could be adversely affected. In addition, it is uncertain if and to what extent various states will conform to the Tax Act or the CARES Act. Currently, bills introduced in Congress, including the Build Back Better Act, contain additional changes to the taxation of corporations, which could adversely affect our business and financial condition. The impact of the Tax Act, the CARES Act and any other tax legislation on holders of our common stock is also uncertain and could be adverse. We urge our stockholders to consult with their legal and tax advisors with respect to this legislation and the potential tax consequences of investing in or holding our common stock. We are a “smaller reporting company,” and the reduced disclosure requirements applicable to smaller reporting companies may make our common stock less attractive to investors. We are considered a “smaller reporting company” under Rule 12b-2 of the Exchange Act. We are therefore entitled to rely on certain reduced disclosure requirements, such as an exemption from providing selected financial data and executive compensation information. These exemptions and reduced disclosures in our SEC filings due to our status as a smaller reporting company also mean our auditors are not required to review our internal control over financial reporting and may make it harder for investors to analyze our results of operations and financial prospects. We cannot predict if investors will find our common stock less attractive because we may rely on these exemptions. If some investors find our common stock less attractive as a result, there may be a less active trading market for our common stock and our common stock prices may be more volatile. We will remain a smaller reporting company until our public float exceeds $250 million if our annual revenues are $100 million or more, or until our public float exceeds $700 million if our annual revenues are less than $100 million. Item 2. Unregistered Sale of Equity Securities and Use of Proceeds None. Item 3. Defaults upon Senior Securities Not applicable. Item 4. Mine Safety Disclosures Not applicable. Item 5. Other Information Departure of Directors or Certain Officers; Election of Directors; Appointment of Certain Officers; Compensatory Arrangements of Certain Officers. On May 11, 2022, Dr. Eleanor de Groot notified us of her decision to resign from her position as our Executive Vice President, Operations, effective May 13, 2022, in order to pursue other opportunities. 58 Item 6. Exhibits Exhibit Number Description 3.1 Amended and Restated Certificate of Incorporation, and all amendments thereto (incorporated by reference to Exhibit 3.1 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 30, 2022). 3.3 Amended and Restated Certificate of Designation, Preferences and Rights of Series 1 preferred stock, as filed with the Delaware Secretary of State on July 1, 2016 (incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K/A, SEC File No. 001-33038, filed July 1, 2016). 31.1+ Certification of Principal Executive Officer pursuant to Exchange Act Rule 13a-14(a) or 15(d)-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1++ Certifications of Principal Executive Officer and Principal Accounting Officer pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 101.INS+ Inline XBRL Instance Document (the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document). 101.SCH+ Inline XBRL Taxonomy Extension Schema Document 101.CAL+ Inline XBRL Taxonomy Extension Calculation Linkbase Document 101.DEF+ Inline XBRL Taxonomy Definition Linkbase Document 101.LAB+ Inline XBRL Taxonomy Extension Label Linkbase Document 101.PRE+ Inline XBRL Taxonomy Extension Presentation Linkbase Document 104+ Cover Page Interactive Data File—the cover page interactive data is embedded within the Inline XBRL document or included within the Exhibit 101 attachments + Filed herewith. ++ This certification is deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the liability of that section, nor shall it be deemed incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, whether made before or after the date hereof, regardless of any general incorporation language in such filing. * Indicates a management contract or compensatory plan. 59 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ALAUNOS THERAPEUTICS, INC. By: /s/ Kevin S. Boyle, Sr. Kevin S. Boyle, Sr. Chief Executive Officer (On Behalf of the Registrant and as Principal Executive Officer and Principal Financial Officer) Dat May 16, 2022 By: /s/ Michael Wong Michael Wong Vice President, Finance (Principal Accounting Officer) Dat May 16, 2022 60 |
Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements (unaudited) 2 Balance Sheets as of June 30, 2022 (unaudited) and December 31, 2021 2 Statements of Operations for the three and six months ended June 30, 2022 and 2021 (unaudited) 3 Statements of Changes in Stockholders’ Equity for the three and six months ended June 30, 2022 and 2021 (unaudited) 4 Statements of Cash Flows for the six months ended June 30, 2022 and 2021 (unaudited) 6 Notes to Unaudited Financial Statements (unaudited) 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 19 Item 3. Quantitative and Qualitative Disclosures about Market Risk 26 Item 4. Controls and Procedures 26 PART II. OTHER INFORMATION Item 1. Legal Proceedings 27 Item 1A. Risk Factors 27 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 59 Item 3. Defaults Upon Senior Securities 59 Item 4. Mine Safety Disclosures 59 Item 5. Other Information 59 Item 6. Exhibits 60 1 PART I—FINANCIAL INFORMATION Item 1. Financial Statements Alaunos Therapeutics, Inc. BALANCE SHEETS (unaudited) (in thousands, except share and per share data) June 30, December 31, 2022 2021 ASSETS: Current assets: Cash and cash equivalents $ 60,011 $ 76,054 Receivables — 1,111 Prepaid expenses and other current assets 1,350 1,666 Total current assets 61,361 78,831 Property and equipment, net 9,671 10,941 Right-of-use asset 2,357 4,420 Deposits 42 42 Other non-current assets 500 631 Total assets $ 73,931 $ 94,865 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable $ 474 $ 1,368 Current portion of long-term debt 20,051 7,868 Accrued expenses 5,725 6,076 Lease liability, current 525 729 Total current liabilities 26,775 16,041 Long-term debt 4,472 16,250 Lease liability, non-current 2,476 4,518 Other non-current liabilities 28 — Total liabilities $ 33,751 $ 36,809 Commitments and contingencies (Note 9) Stockholders' equity Common stock $ 0.001 par value; 420,000,000 shares authorized, 216,174,542 shares issued and outstanding at June 30, 2022 and 350,000,000 shares authorized, 216,127,443 shares issued and outstanding at December 31, 2021 216 216 Additional paid-in capital 902,536 900,693 Accumulated deficit ( 862,572 ) ( 842,852 ) Total stockholders' equity 40,180 58,057 Total liabilities and stockholders' equity $ 73,931 $ 94,865 The accompanying notes are an integral part of these financial statements. 2 Alaunos Therapeutics, Inc. STATEMENTS OF OPERATIONS (unaudited) (in thousands, except share and per share data) For the Three Months Ended June 30, For the Six Months Ended June 30, 2022 2021 2022 2021 Operating expens Research and development 5,937 13,570 11,518 26,906 General and administrative 3,429 9,069 6,935 17,296 Gain on lease modification ( 133 ) — ( 133 ) — Total operating expenses 9,233 22,639 18,320 44,202 Loss from operations ( 9,233 ) ( 22,639 ) ( 18,320 ) ( 44,202 ) Interest expense ( 740 ) — ( 1,425 ) — Other income (expense), net 41 ( 31 ) 25 ( 22 ) Net loss $ ( 9,932 ) $ ( 22,670 ) $ ( 19,720 ) $ ( 44,224 ) Net loss applicable to common stockholders $ ( 9,932 ) $ ( 22,670 ) $ ( 19,720 ) $ ( 44,224 ) Basic and diluted net loss per share $ ( 0.05 ) $ ( 0.11 ) $ ( 0.09 ) $ ( 0.21 ) Weighted average common shares outstanding, basic and diluted 214,998,893 214,426,406 214,972,876 214,191,839 The accompanying notes are an integral part of these financial statements. 3 Alaunos Therapeutics, Inc. STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (unaudited) (in thousands, except share and per share data) For the Three Months Ended June 30, 2022 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at March 31, 2022 215,950,561 $ 216 $ 901,546 $ ( 852,640 ) $ 49,122 Stock-based compensation — — 990 — 990 Restricted stock awards 280,000 — — — — Cancelled restricted common stock ( 56,019 ) — — — — Net loss — — — ( 9,932 ) ( 9,932 ) Balance at June 30, 2022 216,174,542 $ 216 $ 902,536 $ ( 862,572 ) $ 40,180 The accompanying notes are an integral part of these financial statements. For the Six Months Ended June 30, 2022 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at December 31, 2021 216,127,443 $ 216 $ 900,693 $ ( 842,852 ) $ 58,057 Stock-based compensation — — 1,843 — 1,843 Restricted stock awards 280,000 — — — — Cancelled restricted common stock ( 232,901 ) — — — — Net loss — — — ( 19,720 ) ( 19,720 ) Balance at June 30, 2022 216,174,542 $ 216 $ 902,536 $ ( 862,572 ) $ 40,180 The accompanying notes are an integral part of these financial statements. 4 For the Three Months Ended June 30, 2021 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at March 31, 2021 215,257,674 $ 215 $ 891,081 $ ( 785,655 ) $ 105,641 Stock-based compensation — — 5,290 — 5,290 Exercise of employee stock options 10,667 — 20 — 20 Restricted stock awards 412,898 1 ( 1 ) — — Cancelled restricted common stock ( 122,091 ) — — — — Net loss — — — ( 22,670 ) ( 22,670 ) Balance at June 30, 2021 215,559,148 $ 216 $ 896,390 $ ( 808,325 ) $ 88,281 The accompanying notes are an integral part of these financial statements. For the Six Months Ended June 30, 2021 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at December 31, 2020 214,591,906 $ 215 $ 887,868 $ ( 764,101 ) $ 123,982 Stock-based compensation — — 7,486 — 7,486 Exercise of employee stock options 363,109 — 1,036 — 1,036 Restricted stock awards 726,224 1 — — 1 Cancelled restricted common stock ( 122,091 ) — — — — Net loss — — — ( 44,224 ) ( 44,224 ) Balance at June 30, 2021 215,559,148 $ 216 $ 896,390 $ ( 808,325 ) $ 88,281 The accompanying notes are an integral part of these financial statements. 5 Alaunos Therapeutics, Inc. STATEMENTS OF CASH FLOWS (unaudited) (in thousands) For the Six Months Ended June 30, 2022 2021 Cash flows from operating activiti Net loss $ ( 19,720 ) $ ( 44,224 ) Adjustments to reconcile net loss to net cash used in operating activiti Depreciation 1,374 1,219 Amortization of financing costs 405 — Stock-based compensation 1,843 7,486 Reduction in the carrying amount of right-of-use assets 2,196 ( 721 ) Gain on lease modification ( 133 ) — (Increase) decrease in: Receivables 1,111 ( 2,961 ) Prepaid expenses and other current assets 316 5,820 Other non-current assets 131 493 Increase (decrease) in: Accounts payable ( 894 ) 22 Accrued expenses ( 368 ) ( 4,742 ) Lease liabilities ( 2,246 ) 843 Other non-current liabilities 28 — Net cash used in operating activities ( 15,957 ) ( 36,765 ) Cash flows from investing activiti Purchases of property and equipment ( 86 ) ( 2,594 ) Net cash used in investing activities ( 86 ) ( 2,594 ) Cash flows from financing activiti Proceeds from the exercise of stock options — 1,036 Net cash provided by financing activities — 1,036 Net decrease in cash and cash equivalents ( 16,043 ) ( 38,323 ) Cash and cash equivalents, beginning of period 76,054 115,069 Cash and cash equivalents, end of period $ 60,011 $ 76,746 Supplementary disclosure of cash flow informati Cash paid for interest $ 1,002 $ — Amounts included in accrued expenses and accounts payable related to property and equipment $ 17 $ 258 The accompanying notes are an integral part of these financial statements. 6 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) 1. Organization Overview Alaunos Therapeutics, Inc., which is referred to herein as “Alaunos,” or the “Company,” is a clinical-stage oncology-focused cell therapy company developing adoptive TCR-T cell therapies, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. On January 25, 2022, the Company changed its corporate name from ZIOPHARM Oncology, Inc. to Alaunos Therapeutics, Inc. The Company is leveraging its proprietary, non-viral Sleeping Beauty gene transfer platform and its cancer hotspot mutation TCR library to design and manufacture personalized cell therapies that target neoantigens arising from shared tumor-specific mutations in key oncogenic genes, including KRAS, TP53 and EGFR. The Company’s operations to date have consisted primarily of conducting research and development and raising capital to fund those efforts. In May 2021, the Company announced that it will be winding down its existing Controlled IL-12 clinical program. The Company continues to seek a partner for this program. The accompanying financial statements have been prepared on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities and commitments in the normal course of business. The Company follows the guidance of Accounting Standards Codification ("ASC") Topic 205-40, Presentation of Financial Statements - Going Concern, in order to determine whether there is substantial doubt about its ability to continue as a going concern for one year after the date its financial statements are issued. The Company has operated at a loss since its inception in 2003 and has no recurring revenue from operations. The Company anticipates that losses will continue for the foreseeable future. As of June 30, 2022, the Company had approximately $ 60.0 million of cash and cash equivalents. The Company’s accumulated deficit at June 30, 2022 was approximately $ 862.6 million. Given its current development plans and cash management efforts, the Company anticipates cash resources will be sufficient to fund operations into the second quarter of 2023. The Company’s ability to continue operations after its current cash resources are exhausted depends on its ability to obtain additional financing or to achieve profitable operations, as to which no assurances can be given. Cash requirements may vary materially from those now planned because of changes in the Company’s focus and direction of its research and development programs, competitive and technical advances, patent developments, regulatory changes or other developments. If adequate additional funds are not available when required, management may need to curtail its development efforts and planned operations to conserve cash. Based on the current cash forecast, management has determined that the Company's present capital resources will not be sufficient to fund its planned operations for at least one year from the issuance date of the financial statements, which raises substantial doubt as to the Company's ability to continue as a going concern. This forecast of cash resources is forward-looking information that involves risks and uncertainties, and the actual amount of expenses could vary materially and adversely as a result of a number of factors. As of June 30, 2022, there were 216,174,542 shares of common stock outstanding and an additional 33,008,978 shares of common stock reserved for issuance pursuant to outstanding stock options and warrants. Basis of Presentation The accompanying unaudited interim financial statements have been prepared in accordance with the instructions to Form 10-Q pursuant to the rules and regulations of the Securities and Exchange Commission, or the SEC. Certain information and note disclosures required by generally accepted accounting principles in the United States, or GAAP, have been condensed or omitted pursuant to such rules and regulations. It is management’s opinion that the accompanying unaudited interim financial statements reflect all adjustments (which are normal and recurring) that are necessary for a fair presentation of the financial position of the Company and its results of operations and cash flows for the periods presented. The unaudited interim financial statements should be read in conjunction with the audited financial statements and the notes thereto for the year ended December 31, 2021, included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2021 filed with the SEC on March 30, 2022, or the Annual Report. The results disclosed in the statements of operations for the three and six months ended June 30, 2022 are not necessarily indicative of the results to be expected for the full fiscal year 2022. Use of Estimates The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Although the Company regularly assesses 7 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) these estimates, actual results could differ from those estimates. Changes in estimates are recorded in the period in which they become known. Impact of COVID-19 Pandemic With the ongoing COVID-19 pandemic, the Company has implemented business continuity plans designed to address and mitigate the impact of the COVID-19 pandemic on its business and operations. The Company continues to evaluate the impact of the COVID-19 global pandemic on patients, healthcare providers and its employees, as well as its operations and the operations of its business partners and healthcare communities. In response to the COVID-19 pandemic, the Company has implemented policies at its locations to mitigate the risk of exposure to COVID-19 by its personnel. The extent to which the COVID-19 pandemic impacts the Company’s business, clinical development and regulatory efforts and the value of its common stock, will depend on future developments that are highly uncertain and cannot be predicted with confidence at this time, such as the ultimate duration of the pandemic, travel restrictions, quarantines, social distancing and business closure requirements, the result of vaccination efforts and the effectiveness of any other actions taken globally to contain and treat the disease. The global economic slowdown, the overall disruption of global healthcare systems and the other risks and uncertainties associated with the COVID-19 pandemic could have a material adverse effect on the Company’s business, financial condition, results of operations and growth prospects. 2. Financings 2021 Loan and Security Agreement On August 6, 2021, the Company entered into a Loan and Security Agreement (the "Loan and Security Agreement") with Silicon Valley Bank and affiliates of Silicon Valley Bank (collectively, "SVB"). The Loan and Security Agreement provided for an initial term loan of $ 25.0 million funded at the closing (the "Term A Tranche"), with an additional tranche of $ 25.0 million available if certain funding and clinical milestones were met by August 31, 2022 (the "Term B Tranche"). Effective December 28, 2021, the Company, entered into a First Amendment (the “Amendment”) to the Loan and Security Agreement (as so amended, the "Amended Loan and Security Agreement"). The Amended Loan and Security Agreement extends the interest-only period through August 31, 2022 and provides for an automatic extension of the interest-only period through August 31, 2023, if the Amended Milestones (as defined below) are met by August 31, 2022. The Amendment eliminated the Term B Tranche, which remained unfunded, leaving only the Term A Tranche (the "SVB Facility"). Under the Amended Loan and Security Agreement, the SVB Facility will mature on August 1, 2023; however, if the Company achieves the Amended Milestones on or prior to August 31, 2022, then the maturity will automatically extend to August 1, 2024. Please refer to Note 4 - Debt, for further discussion of the Loan and Security Agreement and the Amended Loan and Security Agreement. 3. Summary of Significant Accounting Policies The Company’s significant accounting policies were identified in the Company’s Annual Report. There have been no material changes in those policies since the filing of its Annual Report. 4. Debt The carrying values of the Company's debt obligation were as follows: June 30, ($ in thousands) 2022 Loan and Security Agreement $ 25,423 Unamortized discount on Loan and Security Agreement ( 900 ) Total debt 24,523 L current portion of long-term debt ( 20,051 ) Long-term debt $ 4,472 As of June 30, 2022, the SVB Facility was fully drawn in the amount of $ 25.0 million. The SVB Facility bears interest at a floating rate per annum on outstanding loans, payable monthly, at the greater of (a) 7.75 % and (b) the current published U.S. prime rate, plus a margin of 4.5 % . As of June 30, 2022, interest on the outstanding loans was 9.25 %. The Amended Loan and Security Agreement 8 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) provides for an interest-only period which extends through August 31, 2022 and may be automatically extended through August 31, 2023 if, on or prior to August 31, 2022, SVB receives evidence satisfactory to it, confirming that the Company has (i) received at least $ 50.0 million in net cash proceeds from the sale of the Company’s equity securities after the date of the Amended Loan and Security Agreement, on terms acceptable to SVB, and (ii) achieved positive data in the first cohort of the Library TCR-T Trial endorsed by an independent safety monitoring committee as a safe dose to proceed (together, the “Amended Milestones”). After the interest-only payment period, aggregate outstanding borrowings are payable in twelve consecutive, equal monthly installments of principal plus accrued interest. All outstanding principal and accrued and unpaid interest under the SVB Facility and all other outstanding obligations under the Amended Loan and Security Agreement are due and payable on August 1, 2023 ; however, if the Company achieves the Amended Milestones on or prior to August 31, 2022, then the maturity will be automatically extended to August 1, 2024 . In addition to the payment of the outstanding principal plus accrued interest due, the Company will also owe SVB 5.75 % of the original principal amounts borrowed as a final payment (the "Final Payment"). The Company is permitted to make up to two prepayments, subject to a prepayment premium, of the SVB Facility, each such payment to be at least $ 5.0 million. Such prepayment premium would be 3.00 % of the principal amount of the SVB Facility if prepaid prior to the first anniversary of the effective date, 2.00 % of the principal amount of the SVB Facility if prepaid on or after the first anniversary of the effective date but prior to the second anniversary of the effective date and 1.00 % of the principal amount of the SVB Facility if prepaid on or after the second anniversary of the effective date but prior to the maturity date. No amount that has been repaid may be reborrowed. The Amended Loan and Security Agreement requires the Company to cash collateralize half of the sum of the then-outstanding principal amount of the SVB Facility, plus an amount equal to 5.75 % of the original principal amount of the SVB Facility if the Company does not achieve the Amended Milestones on or prior to August 31, 2022. In the event a cash collateralization were to occur, so long as no event of default has occurred, $ 2.5 million will be released from the collateral account following the eighth scheduled payment of principal and interest, and a further $ 4.0 million will be released following the tenth scheduled payment of principal and interest, in each case, so long as (i) after subtracting such scheduled payment, the sum of (a) the aggregate outstanding principal, (b) accrued and unpaid interest and (c) the Final Payment is less than $ 9,770,933 and $ 5,604,167 , respectively and (ii) the balance in the collateral account after the release would equal or exceed $ 10.0 million and $ 6.0 million, respectively. The SVB Facility and related obligations under the Amended Loan and Security Agreement are secured by substantially all of the Company’s properties, rights and assets, except for its intellectual property (which is subject to a negative pledge under the Amended Loan and Security Agreement). In addition, the Amended Loan and Security Agreement contains customary representations, warranties, events of default and covenants. In connection with its entry into the Loan and Security Agreement, the Company issued to SVB warrants to purchase (i) up to 432,844 shares of the Company’s common stock, in the aggregate, and (ii) up to an additional 432,842 shares of common stock, in the aggregate, in the event the Company achieves certain clinical milestones, in each case at an exercise price per share of $ 2.22 . In connection with its entry into the Amendment, the Company amended and restated the warrants issued to SVB. As amended and restated, the warrants are for up to 649,615 shares of the Company's common stock, in the aggregate, at an exercise price per share of $ 1.16 , or the SVB Warrants. The SVB Warrants expire on August 6, 2031 . The issuance costs for the Loan and Security Agreement, including the Amended Loan and Security Agreement, were approximately $ 1.2 million and primarily related to the SVB Warrants, which will be amortized into interest expense over the period to August 1, 2023 . Interest expense was $ 0.7 million for the three months ended June 30, 2022 and was $ 1.4 million for the six months ended June 30, 2022. The fair value of the Amended Loan and Security Agreement as of June 30, 2022 approximates its face value due to proximity to the transaction. 5. Fair Value Measurements The Company has certain financial assets and liabilities recorded at fair value which have been classified as Level 1, 2 or 3 within the fair value hierarchy as described in the accounting standards for fair value measurements. • Level 1—Quoted prices in active markets for identical assets or liabilities. • Level 2—Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. 9 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) • Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Assets and liabilities measured at fair value on a recurring and nonrecurring basis as of June 30, 2022 and December 31, 2021 are as follows: ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of June 30, 2022 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 59,011 $ 59,011 $ — $ — ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of December 31, 2021 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 75,222 $ 75,222 $ — $ — The cash equivalents represent demand deposit accounts and deposits in a short-term United States treasury money market mutual fund quoted in an active market and classified as a Level 1 asset. 6. Net loss per share Basic net loss per share is computed by dividing net loss by the weighted average number of shares of common stock outstanding for the period. The Company’s potentially dilutive shares, which include outstanding common stock options, inducement stock options, unvested restricted stock and warrants, have not been included in the computation of diluted net loss per share for any of the periods presented as the result would be anti-dilutive. Such potentially dilutive shares of common stock consisted of the following as of June 30, 2022 and 2021, respectiv June 30, 2022 2021 Common stock options 10,086,635 10,186,829 Inducement stock options - 463,333 Unvested restricted stock 1,159,688 1,065,175 Warrants 22,922,342 22,272,727 34,168,665 33,988,064 7. Related Party Transactions Collaboration with Vineti Inc. On July 9, 2020, the Company entered into a master service agreement and statement of work with Vineti, Inc. ("Vineti"). Pursuant to the agreement, Vineti has been developing a software platform to coordinate and orchestrate the order, cell collection and manufacturing process for the Company’s T-cell therapy, or TCR-T, clinical programs. Heidi Hagen, who became a director of the Company in June 2019 and resigned November 2, 2021 and the Company's Interim Chief Executive Officer on February 25, 2021 and resigned on August 30, 2021, is a co-founder and former officer of Vineti. During the three and six months ended June 30, 2022, the Company recorded no expenses for Vineti, compared to $ 0.1 million of expenses for the three and six months ended June 30, 2021. 10 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) WaterMill Settlement Agreement On February 4, 2021, the Company entered into an agreement, or the Settlement Agreement, with WaterMill Asset Management Corp. and Robert W. Postma (collectively, the "WaterMill Parties"). Pursuant to the Settlement Agreement, the Company increased the size of its board of directors from eight to nine directors and appointed Mr. Postma to fill the newly created directorship. In accordance with the Settlement Agreement, the Company agreed to reimburse the WaterMill Parties for up to $ 0.4 million of their reasonable out-of-pocket expenses out of a total of approximately $ 0.7 million in fees and expenses actually incurred by the WaterMill Parties in connection with (i) the WaterMill Parties' solicitation of written consents from the Company's stockholders to vote in favor of certain proposals, as set forth in the definitive consent statement filed by the WaterMill Parties on October 30, 2020, and (ii) the negotiation, execution, and effectuation of the Settlement Agreement. As of February 19, 2021, the Company has fully reimbursed the WaterMill Parties an aggregate amount of $ 0.4 million. Joint Venture with TriArm Therapeutics/Eden BioCell On December 18, 2018, the Company and TriArm Therapeutics, Ltd. (“TriArm”) launched Eden BioCell, Ltd. (“Eden BioCell”) as a joint venture to lead commercialization of the Company’s Sleeping Beauty -generated CAR-T therapies in the People’s Republic of China (including Macau and Hong Kong), Taiwan and Korea. The Company licensed to Eden BioCell the rights in Greater China for its third-generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen. Eden BioCell is owned equally by the Company and TriArm and the parties share decision-making authority. TriArm has contributed $ 10.0 million to Eden BioCell and has committed up to an additional $ 25.0 million to this joint venture. TriArm also manages all clinical development in the territory pursuant to a master services agreement between TriArm and Eden BioCell. James Huang was the founder and serves as managing partner of Panacea Venture, which is an investor in TriArm. Mr. Huang is the Chair of the Company's board of directors and has been a director since July 2020. He also serves as a member of Eden BioCell’s board of directors. For the three and six months ended June 30, 2022, Eden BioCell incurred a net loss and the Company continues to have no commitment to fund its operations. In September 2021, TriArm and Alaunos mutually agreed to dissolve the Eden BioCell joint venture. Refer to Note 12 - Joint Venture , for further details. 8. Leases In the second quarter of 2022, the Company modified its real estate lease agreement executed on December 15, 2020 with MD Anderson, which reduced the Company's leased space for 18,111 square feet to 3,228 square feet. As a result, the associated lease liability and right-of-use asset were remeasured to $ 0.4 million based on revised lease payments. A gain of $ 0.1 million was recorded on the lease modification during the three months ended June 30, 2022. 9. Commitments and Contingencies License Agreements Exclusive License Agreement with PGEN Therapeutics On October 5, 2018, the Company entered into an exclusive license agreement, or License Agreement, with PGEN Therapeutics, or PGEN, a wholly owned subsidiary of Precigen Inc., or Precigen, which was formerly known as Intrexon Corporation. Pursuant to the terms of the License Agreement, the Company has exclusive, worldwide rights to research, develop and commercialize (i) TCR products designed for neoantigens for the treatment of cancer, (ii) products utilizing Precigen’s RheoSwitch® gene switch, or RTS, for the treatment of cancer, referred to as IL-12 Products and (iii) CAR products directed to (A) CD19 for the treatment of cancer, referred to as CD19 Products, and (B) BCMA for the treatment of cancer, subject to certain obligations to pursue such target under the Ares Trading Agreement. Under the License Agreement, the Company also has exclusive, worldwide rights for certain patents relating to the Sleeping Beauty technology to research, develop and commercialize TCR products for both neoantigens and shared antigens for the treatment of cancer, referred to as TCR Products. The Company is solely responsible for all aspects of the research, development and commercialization of the exclusively licensed products for the treatment of cancer. The Company is required to use commercially reasonable efforts, as defined in the License Agreement, to develop and commercialize IL-12 products, CD19 products, BCMA products and TCR Products. In consideration of the licenses and other rights granted by PGEN, the Company will pay PGEN an annual license fee of $ 0.1 million and the Company has agreed to reimburse PGEN for certain historical costs of the licensed programs up to $ 1.0 million, which was fully paid during the year ended December 31, 2019. 11 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) The Company will make milestone payments totaling up to an additional $ 52.5 million for each exclusively licensed program upon the initiation of later stage clinical trials and upon the approval of exclusively licensed products in various jurisdictions. In addition, the Company will pay PGEN tiered royalties ranging from low-single digits to high-single digits on the net sales derived from the sale of any approved IL-12 products and CAR products. The Company will also pay PGEN royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of any approved TCR products, up to a maximum royalty amount of $ 100.0 million in the aggregate. The Company will also pay PGEN twenty percent of any sublicensing income received by us relating to the licensed products. The Company is responsible for all development costs associated with each of the licensed products. PGEN will pay the Company royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of PGEN’s CAR products, up to a maximum royalty amount of $ 100.0 million. In October 2020, the Company entered into an amendment to the License Agreement relating to the transfer of certain materials and PGEN’s obligations to provide transition assistance relating to the IL-12 products. License Agreement and 2015 Research and Development Agreement —The University of Texas MD Anderson Cancer Center On January 13, 2015, the Company, together with Precigen, entered into the MD Anderson License with MD Anderson (which Precigen subsequently assigned to PGEN). Pursuant to the MD Anderson License, the Company, together with PGEN, holds an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR T-cell therapies, non-viral gene transfer systems, genetic modification and/or propagation of immune cells and other cellular therapy approaches, Natural Killer, or NK Cells, and TCRs, arising from the laboratory of Laurence Cooper, M.D., Ph.D., who served as the Company’s Chief Executive Officer from May 2015 until February 2021 and was formerly a tenured professor of pediatrics at MD Anderson. On August 17, 2015, the Company, Precigen and MD Anderson entered into the 2015 R&D Agreement to formalize the scope and process for the transfer by MD Anderson, pursuant to the terms of the MD Anderson License, of certain existing research programs and related technology rights, as well as the terms and conditions for future collaborative research and development of new and ongoing research programs. The rights and obligations of Precigen under the 2015 R&D Agreement were assigned to the Company pursuant to the Fourth Amendment to 2015 R&D Agreement which was entered into on September 19, 2019 (the “Fourth Amendment”) with an effective date of October 5, 2018. The activities under the 2015 R&D Agreement are directed by a joint steering committee comprised of two members from the Company and one member from MD Anderson. As provided under the MD Anderson License, the Company provided funding for research and development activities in support of the research programs under the 2015 R&D Agreement for a period of three years and in an amount of no less than $ 15.0 million and no greater than $ 20.0 million per year. On November 14, 2017, the Company entered into an amendment to the 2015 R&D Agreement, extending its term until April 15, 2021. In connection with the execution of the 2019 R&D Agreement described below, on October 22, 2019, the Company amended the 2015 R&D Agreement to extend the term of the 2015 R&D Agreement until December 31, 2026 and to allow cash resources on hand at MD Anderson under the 2015 R&D Agreement to be used for development costs under the 2019 R&D Agreement. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder, or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term of the MD Anderson License, the Company, together with Precigen, shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After ten years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if the Company and Precigen are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if the Company and Precigen are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by the Company and Precigen, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both the Company and Precigen and may be terminated by the mutual written agreement of the Company, PGEN, and MD Anderson. 2019 Research and Development Agreement—The University of Texas MD Anderson Cancer Center On October 22, 2019, the Company entered into the 2019 Research and Development Agreement, or the 2019 R&D Agreement, with MD Anderson, pursuant to which the parties agreed to collaborate with respect to the TCR program. Under the 2019 R&D Agreement, the parties will, among other things, collaborate on programs to expand the Company's TCR library and conduct clinical trials. The 12 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) activities under the 2019 R&D Agreement are directed by a joint steering committee comprised of two members from the Company and one member from MD Anderson. The Company will own all inventions and intellectual property developed under the 2019 R&D Agreement and the Company will retain all rights to intellectual property for oncology products manufactured using non-viral gene transfer technologies under the 2019 R&D Agreement, including the Company's Sleeping Beauty technology. The Company has granted MD Anderson an exclusive license for such intellectual property outside the field of oncology and to develop and commercialize TCR products manufactured using viral gene transfer technologies limited to autologous products if used for cancer treatment or prevention, and a non-exclusive license for allogenic anti-tumor TCR products manufactured using viral-based technologies. Under the 2019 R&D Agreement, the Company agreed, beginning on January 1, 2021, to reimburse MD Anderson up to a total of $ 20.0 million for development costs under the 2019 R&D Agreement, after the funds from the 2015 R&D Agreement are exhausted. In addition, the Company will pay MD Anderson royalties on net sales of its TCR products. The Company is required to make performance-based payments upon the successful completion of clinical and regulatory benchmarks relating to its TCR products. The aggregate potential benchmark payments are $ 36.5 million, of which only $ 3.0 million will be due prior to the first marketing approval of the Company's TCR products. The royalty rates and benchmark payments owed to MD Anderson may be reduced upon the occurrence of certain events. The Company also agreed to sell its TCR products to MD Anderson at preferential prices and will sell the Company's TCR products in Texas exclusively to MD Anderson for a limited period of time following the first commercial sale of the Company's TCR products. For the three months ended June 30, 2022, the Company incurred expenses of $ 0.6 million from MD Anderson related to this agreement compared to $ 0 for the three months ended June 30, 2021. For the six months ended June 30, 2022, the Company incurred expenses of $ 1.0 million from MD Anderson related to this agreement compared to $ 0 for the six months ended June 30, 2021. The 2019 R&D Agreement will terminate on December 31, 2026 and either party may terminate the 2019 R&D Agreement following written notice of a material breach. The 2019 R&D Agreement also contains customary provisions related to indemnification obligations, confidentiality and other matters. In connection with the execution of the 2019 R&D Agreement, on October 22, 2019, the Company issued MD Anderson a warrant to purchase 3,333,333 shares of the Company's common stock, which is referred to as the MD Anderson Warrant. Please refer to Note 11 - Warrants , for further discussion of the MD Anderson Warrant. The MD Anderson Warrant has an initial exercise price of $ 0.001 per share, expires on December 31, 2026 , and vests upon the occurrence of certain clinical milestones. As of June 30, 2022, the milestones have not been met. License Agreement with the NCI On May 28, 2019, the Company entered into a patent license agreement, or the Patent License, with the National Cancer Institute, or the NCI. Pursuant to the Patent License, the Company holds an exclusive, worldwide license to certain intellectual property to develop and commercialize patient-derived (autologous), peripheral blood T-cell therapy products engineered by transposon-mediated gene transfer to express TCRs reactive to mutated KRAS, TP53 and EGFR neoantigens. In addition, pursuant to the Patent License, the Company holds an exclusive, worldwide license to certain intellectual property for manufacturing technologies to develop and commercialize autologous, peripheral blood T-cell therapy products engineered by non-viral gene transfer to express TCRs, as well as a non-exclusive, worldwide license to certain additional manufacturing technologies. On May 29, 2019, January 8, 2020, September 28, 2020, April 16, 2021, May 4, 2021, and August 13, 2021 the Company amended the Patent License to expand its TCR library to include additional TCRs reactive to mutated KRAS and TP53 neoantigens licensed from the NCI. The terms of the Patent License require the Company to pay the NCI minimum annual royalties in the amount of $ 0.3 million, which amount will be reduced to $ 0.1 million once the aggregate minimum annual royalties paid by the Company equals $ 1.5 million. The Company is also required to make performance-based payments upon successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $ 4.3 million, of which aggregate payments of $ 3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $ 0.1 million will be due upon the initiation of the Company's first sponsored Phase 1 clinical trial of a licensed product or licensed process in the field of use licensed under the Patent License. The Company paid the first benchmark payment during the three months ended June 30, 2022. In addition, the Company is required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $ 250.0 million to $ 1.0 billion. The aggregate potential amount of these benchmark payments is $ 12.0 million. The Company must also pay the NCI royalties on net sales of products covered by the Patent License at rates in the low to mid-single digits depending upon the technology included in a licensed product. To the extent the Company enters 13 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) into a sublicensing agreement relating to a licensed product, the Company is required to pay the NCI a percentage of all consideration received from a sublicensee, which percentage will decrease based on the stage of development of the licensed product at the time of the sublicense. The Patent License will expire upon expiration of the last patent contained in the licensed patent rights, unless terminated earlier. The NCI may terminate or modify the Patent License in the event of a material breach, including if the Company does not meet certain milestones by certain dates, or upon certain insolvency events that remain uncured following the date that is 90 days following written notice of such breach or insolvency event. The Company may terminate the Patent License, or any portion thereof, in the Company's sole discretion at any time upon 60 days’ written notice to the NCI. In addition, the NCI has the right t (i) require the Company to sublicense the rights to the product candidates covered by the Patent License upon certain conditions, including if the Company is not reasonably satisfying required health and safety needs and (ii) terminate or modify the Patent License, including if the Company is not satisfying requirements for public use as specified by federal regulations. For the three months ended June 30, 2022, the Company recognized $ 0.2 million in license payments to the NCI under this agreement, compared to $ 0.1 million for the three months ended June 30, 2021. For the six months ended June 30, 2022, the Company recognized $ 0.5 million in license payments to the NCI under this agreement, compared to $ 0.5 million for the six months ended June 30, 2021. Cooperative Research and Development Agreement (CRADA) with the NCI On January 9, 2017, the Company entered into a Cooperative Research and Development Agreement (the “CRADA”) with the NCI. The purpose of this collaboration was to advance a personalized TCR-T approach for the treatment of solid tumors. Using the Company's Sleeping Beauty technology, the NCI would analyze a patient’s own cancer cells, identify their unique neoantigens and TCRs reactive against those neoantigens and then use the Company's Sleeping Beauty technology to transpose one or more TCRs into T cells for re-infusion. Research conducted under the CRADA will be at the direction of Steven A. Rosenberg, M.D., Ph.D., Chief of the Surgery Branch at the NCI, in collaboration with the Company's researchers. The Company is responsible for providing the NCI with the test materials necessary for them to conduct their studies, and eventually, clinical trials pursuant to the CRADA. Inventions, data and materials discovered or produced in connection with performance of the research plan under the CRADA will remain the sole property of the party who produced the discovery. The parties will jointly own all inventions jointly discovered under the research plan. The owner of any invention under the CRADA will make the decision to file a patent covering the invention, or in the case of a jointly owned invention, the Company will have the first opportunity to file a patent covering the invention. If the Company fails to provide timely notice of its decision to the NCI or decide not to file a patent covering the joint invention, the NCI has the right to make the filing. For any invention solely owned by the NCI or jointly made by the NCI and the Company for which a patent application was filed, the U.S. Public Health service grants the Company an exclusive option to elect an exclusive or non-exclusive commercialization license. For inventions owned solely by the NCI or jointly owned by the NCI and the Company, which are licensed according to the terms described above, the Company agreed to grant to the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world. The Company is also required to grant the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world for any of the Company's solely owned inventions. The agreement may be terminated by any of the parties upon 60 days prior written consent. The NCI has a cleared Investigational New Drug Application, or IND, that would permit them to begin this trial. To the Company's knowledge, the trial has not yet enrolled due to matters internal to the NCI and unrelated to the Company's technology. The progress and timeline for this trial, including the timeline for dosing patients, are under control of the NCI. In February 2019, the Company extended the CRADA with the NCI until January 9, 2022, committing an additional $ 5.0 million to this program. In March 2022, the Company entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. In June 2022, the Company entered into the Fourth Amendment to the CRADA (the "CRADA Fourth Amendment") which, among other things, extended the term of the CRADA until January 9, 2025. In connection with the CRADA Fourth Amendment, the Company agreed to contribute $ 1.0 million per year, payable on a quarterly basis, beginning in the first quarter of 2023. The Company did no t record expenses under the CRADA for the three and six months ended June 30, 2022, as compared to $ 0.6 million for the three months ended June 30, 2021 and $ 1.3 million for the six months ended June 30, 2021. 14 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) Patent and Technology License Agreement—The University of Texas MD Anderson Cancer Center and the Texas A&M University System On August 24, 2004, the Company entered into a patent and technology license agreement with MD Anderson and the Texas A&M University System, which the Company refers to, collectively, as the Licensors. Under this agreement, the Company was granted an exclusive, worldwide license to rights (including rights to U.S. and foreign patent and patent applications and related improvements and know-how) for the manufacture and commercialization of two classes of organic arsenicals (water- and lipid-based) for human and animal use. The class of water-based organic arsenicals includes darinaparsin. Under the terms of the agreement, the Company may be required to make additional payments to the Licensors upon achievement of certain other milestones in varying amounts which, on a cumulative basis could total up to an additional $ 4.5 million. In addition, the Licensors are entitled to receive royalty payments on sales from a licensed product and will also be entitled to receive a portion of any fees that the Company may receive from a possible sublicense under certain circumstances. During the three and six months ended June 30, 2022 and June 30, 2021, no amounts were expensed or paid under the terms of the agreement. Collaboration Agreement with Solasia Pharma K.K. On March 7, 2011, the Company entered into a License and Collaboration Agreement with Solasia Pharma K. K. ("Solasia"), which was amended on July 31, 2014 to include an exclusive worldwide license and amended on October 14, 2021 to revise certain payment schedule details. Pursuant to the License and Collaboration Agreement, the Company granted Solasia an exclusive license to develop and commercialize darinaparsin in both intravenous and oral forms and related organic arsenic molecules, in all indications for human use. As consideration for the license, the Company is eligible to receive from Solasia development- and sales-based milestones, a royalty on net sales of darinaparsin, once commercialized, and a percentage of any sublicense revenue generated by Solasia. Solasia will be responsible for all costs related to the development, manufacturing and commercialization of darinaparsin. The Company’s licensors, as defined in the agreement, will receive a portion of all milestone and royalty payments made by Solasia to the Company in accordance with the terms of the license agreement with the licensors. During the three and six months ended June 30, 2022 and June 30, 2021, the Company did no t record collaboration revenue under the collaboration agreement with Solasia. 10. Stock-Based Compensation The Company recognized stock-based compensation expense on all employee and non-employee awards as follows: For the Three Months Ended June 30, For the Six Months Ended June 30, (in thousands) 2022 2021 2022 2021 Research and development 214 847 528 1,580 General and administrative 776 4,443 1,315 5,906 Stock-based compensation expense $ 990 $ 5,290 $ 1,844 $ 7,486 The Company granted an aggregate of 692,500 stock options during the three months ended June 30, 2022, with a weighted-average grant date fair value of $ 0.55 per share, and granted an aggregate of 3,382,500 stock options during the six months ended June 30, 2022, with a weighted-average grant date fair value of $ 0.48 per share. The Company granted an aggregate of 41,500 stock options during the three months ended June 30, 2021, with a weighted-average grant date fair value of $ 2.27 per share, and granted an aggregate of 4,395,438 stock options during the six months ended June 30, 2021, with a weighted-average grant date fair value of $ 2.44 per share. For the three and six months ended June 30, 2022 and 2021, the fair value of stock options was estimated on the date of grant using a Black-Scholes option valuation model with the following assumptio For the Three Months Ended June 30, For the Six Months Ended June 30, 2022 2021 2022 2021 Risk-free interest rate 2.83 – 3.54 % 1.15 % 1.63 – 3.54 % 0.09 – 1.15 % Expected life in years 5.27 - 6.25 6.25 5.27 - 6.25 5.50 - 6.25 Expected volatility 78.58 - 82.97 % 74.08 % 74.49 - 82.97 % 72.92 - 74.80 % Expected dividend yield — % — % — % — % 2. 15 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) Stock option activity under the Company’s stock option plans for the six months ended June 30, 2022 is as follows: (in thousands, except share and per share data) Number of Shares Weighted- Average Exercise Price Weighted- Average Contractual Term (Years) Aggregate Intrinsic Value Outstanding, December 31, 2021 10,665,869 $ 2.87 Granted 3,382,500 0.71 Cancelled ( 3,961,735 ) 3.33 Outstanding, June 30, 2022 10,086,635 $ 1.97 8.95 $ 1,611 Options exercisable, June 30, 2022 2,955,111 $ 3.28 7.87 $ 89 Options exercisable, December 31, 2021 4,410,312 $ 3.85 7.53 $ — Options available for future grant 15,780,200 At June 30, 2022, total unrecognized compensation costs related to unvested stock options outstanding amounted to $ 6.1 million. The cost is expected to be recognized over a weighted-average period of 1.95 years. A summary of the status of unvested restricted stock for the six months ended June 30, 2022 is as follows: Number of Shares Weighted-Average Grant Date Fair Value Unvested, December 31, 2021 1,198,580 $ 2.10 Granted 280,000 0.82 Vested ( 85,991 ) 3.87 Cancelled ( 232,901 ) 3.15 Unvested, June 30, 2022 1,159,688 $ 1.45 At June 30, 2022, total unrecognized compensation costs related to unvested restricted stock outstanding amounted to $ 1.4 million. The cost is expected to be recognized over a weighted-average period of 1.92 years. 11. Warrants In connection with the Company’s November 2018 private placement that provided net proceeds of approximately $ 47.1 million, the Company issued warrants to purchase an aggregate of 18,939,394 shares of common stock, which became exercisable six months after the closing of the private placement (the "November 2018 Warrants"). The November 2018 Warrants had an exercise price of $ 3.01 per share and have a five-year term. The fair value of the November 2018 Warrants was estimated at $ 18.4 million using a Black-Scholes model with the following assumptio expected volatility of 71 %, risk free interest rate of 2.99 %, expected life of five years and no dividends. On July 26, 2019 and September 12, 2019, the Company entered into agreements with existing investors whereby the investors exercised the November 2018 Warrants for an aggregate of 17,803,031 shares of common stock, at an exercise price of $ 3.01 per share. Proceeds from the warrant exercise after deducting placement agent fees and other related expenses of $ 1.1 million were approximately $ 52.5 million. The Company issued participating investors new warrants to purchase up to 17,803,031 additional shares of common stock (the "2019 Warrants") as consideration for the warrant holders to exercise their November 2018 Warrants. The 2019 Warrants will expire on the fifth anniversary of the initial exercise date and have an exercise price of $ 7.00 . The 2019 Warrants were valued using a Black-Scholes valuation model and resulted in a $ 60.8 million non-cash charge in the Company’s statement of operations in 2019. On October 22, 2019, the Company entered into the 2019 R&D Agreement with MD Anderson. In connection with the execution of the 2019 R&D Agreement, the Company issued the MD Anderson Warrant to purchase 3,333,333 shares of common stock. The MD Anderson Warrant has an initial exercise price of $ 0.001 per share and grant date fair value of $ 14.5 million. The MD Anderson Warrant expires on December 31, 2026 and vests upon the occurrence of certain clinical milestones. The Company will recognize expense on the MD Anderson Warrant in the same manner as if the Company paid cash for services to be rendered. For the three and six months ended June 30, 2022 and June 30, 2021, the Company did not recognize any expense related to the MD Anderson Warrant as the clinical milestones had not been achieved. 16 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) On August 6, 2021, the Company entered into the Loan and Security Agreement with SVB. Refer to Note 4 - Debt . In connection with the Loan and Security Agreement, the Company issued SVB warrants to purchase 432,844 shares of common stock with an exercise price of $2.22 per share. The warrants have a ten-year life and were fully vested upon issuance. The fair value of the warrants was estimated at $ 0.8 million using a Black-Scholes model with the following assumptio expected volatility of 79 %, risk free interest rate of 1.31 %, expected life of ten years and no dividends. On December 28, 2021, the Company entered into the Amendment, as described in Note 4 - Debt, in connection with which, the original warrants issued to SVB were amended and restated. As amended and restated, the SVB Warrants are for up to 649,615 shares of common stock, in the aggregate, at an exercise price per share of $1.16 . The SVB Warrants expire on August 6, 2031 and were fully vested upon issuance. Using a Black-Scholes model with an expected volatility of 81 %, risk free interest rate of 1.49 %, expected life of 10 years and no dividends, the Company recorded a $ 0.2 million increase in the fair value of the SVB Warrants due to the modification of the SVB Warrants. The Company assessed whether the SVB Warrants require accounting as derivatives. The Company determined that the SVB Warrants were (1) indexed to the Company’s own stock and (2) classified in stockholders’ equity in accordance with FASB Accounting Standards Codification (“ASC”) Topic 815, Derivatives and Hedging . As such, the Company has concluded the SVB Warrants meet the scope exception for determining whether the instruments require accounting as derivatives and should be classified in stockholders’ equity. 12. Joint Venture On December 18, 2018, the Company entered into a Framework Agreement with TriArm whereby the parties agreed to launch Eden BioCell, to lead clinical development and commercialization of certain Sleeping Beauty -generated CAR-T therapies as set forth in a separate license agreement. On January 3, 2019, Eden BioCell was incorporated in Hong Kong as a private company. Eden BioCell, the Company and TriArm entered into a Share Subscription Agreement on January 23, 2019, where the Company and TriArm agreed to contribute certain intellectual property, services and cash (only with respect to TriArm) to Eden BioCell to subscribe for a certain number of newly issued ordinary shares in the share capital of Eden BioCell. The closing of the transaction occurred on July 5, 2019. The Framework Agreement and Share Subscription Agreements were each respectively amended to be effective as of this date. Upon consummation of the joint venture, Eden BioCell and the Company also entered into a license agreement, pursuant to which the Company licensed the rights to Eden BioCell for third generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen for the territory of China (including Macau and Hong Kong), Taiwan and Korea. TriArm and the Company each received a 50 % equity interest in the joint venture in exchange for their contributions to Eden BioCell. The Company determined that Eden BioCell was considered a variable interest entity, or VIE, and concluded that it is not the primary beneficiary of the VIE as it did not have the power to direct the activities of the VIE. As a result, the Company accounts for the equity interest in Eden BioCell under the equity method of accounting as it has the ability to exercise significant influence. In March 2021, Eden BioCell began treating patients in a clinical trial with the Company’s investigational CD19 RPM CAR-T cell therapy, under the IND cleared by the Taiwan FDA in December 2020. In the first half of 2021, two patients were treated in this trial. The lead investigator at National Taiwan University in Taipei, has reported no serious adverse safety events in either of these patients. Laboratory results continue to support, as previously published, that non-viral Sleeping Beauty gene transfer is effective in genetically modifying autologous T-cells. Patients were infused two days after gene transfer, thus shortening the turnaround time and demonstrating an advantage over viral methods. Based on laboratory data from the first two patients generated between March and May 2021, the TriArm/Eden team concluded, in concert with the investigator and the Company, that further process development work is required. In September 2021, TriArm and the Company mutually agreed to dissolve the joint venture. For the three and six months ended June 30, 2022 and June 30, 2021, Eden BioCell incurred a net loss. The Company continues to have no commitment to fund its operations. 13. Subsequent Events On August 12, 2022, the Company entered into an Equity Distribution Agreement (the “Equity Distribution Agreement”) with Piper Sandler & Co. (“Piper Sandler”), pursuant to which the Company can offer and sell, from time to time at its sole discretion, shares of its common stock having an aggregate offering price of up to $ 50 million through Piper Sandler as its sales agent in an “at the market offering.” Piper Sandler will receive a commission of 3.0 % of the gross proceeds of any common stock sold under the Equity 17 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) Distribution Agreement. As of the date of this Quarterly Report on Form 10-Q, there have been no offers or sales of the Company’s common stock under the Equity Distribution Agreement. In connection with entering into the Equity Distribution Agreement, the Company concurrently terminated, effective August 12, 2022, the Open Market Sale Agreement with Jefferies LLC, dated June 21, 2019, governing its former "at the market offering" program. 18 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following information should be read in conjunction with our unaudited condensed financial statements and the notes thereto included in this Quarterly Report on Form 10-Q and the audited financial information and the notes thereto included in our Annual Report on Form 10-K, which was filed with the Securities and Exchange Commission, or the SEC, on March 30, 2022, or the Annual Report. Except for the historical information contained herein, the matters discussed in this Quarterly Report on Form 10-Q may be deemed to be forward-looking statements that involve risks and uncertainties. We make such forward-looking statements pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and other federal securities laws. In this Quarterly Report on Form 10-Q, words such as “may,” “expect,” “anticipate,” “estimate,” “intend,” “plan” and similar expressions (as well as other words or expressions referencing future events, conditions or circumstances) are intended to identify forward-looking statements. Our actual results and the timing of certain events may differ materially from the results discussed, projected, anticipated, or indicated in any forward-looking statements. We caution you that forward-looking statements are not guarantees of future performance and that our actual results of operations, financial condition and liquidity and the development of the industry in which we operate may differ materially from the forward-looking statements contained in this Quarterly Report. In addition, even if our results of operations, financial condition and liquidity and the development of the industry in which we operate are consistent with the forward-looking statements contained in this Quarterly Report, they may not be predictive of results or developments in future periods. The following information and any forward-looking statements should be considered in light of factors discussed elsewhere in this Quarterly Report on Form 10-Q, including those risks identified under Part II, Item 1A. Risk Factors. We caution readers not to place undue reliance on any forward-looking statements made by us, which speak only as of the date they are made. We disclaim any obligation, except as specifically required by law and the rules of the SEC, to publicly update or revise any such statements to reflect any change in our expectations or in events, conditions or circumstances on which any such statements may be based, or that may affect the likelihood that actual results will differ from those set forth in the forward-looking statements. Overview We are a clinical-stage oncology-focused cell therapy company developing adoptive TCR-T cell therapy, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. We are leveraging our cancer hotspot mutation TCR library and our proprietary, non-viral Sleeping Beauty gene transfer platform to design and manufacture patient-specific cell therapies that target neoantigens arising from shared tumor-specific mutations in key oncogenic genes, including KRAS , TP53 and EGFR . In collaboration with the MD Anderson Cancer Center, or MD Anderson, we are currently enrolling patients for a Phase 1/2 clinical trial evaluating ten TCRs reactive to mutated KRAS, TP53 and EGFR from our TCR library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers, which we refer to as our TCR-T Library Phase 1/2 Trial. On May 2, 2022, we announced that we treated our first patient in this trial; we anticipate reporting early data in the third quarter of 2022. We have not generated any product revenue and have incurred significant net losses in each year since our inception. For the six months ended June 30, 2022, we had a net loss of $19.7 million, and as of June 30, 2022, we have incurred approximately $862.6 million of accumulated deficit since our inception in 2003. We expect to continue to incur significant operating expenditures and net losses. Further development of our product candidates will likely require substantial increases in our expenses as we: • continue to undertake clinical trials for product candidates; • seek regulatory approvals for product candidates; • work with regulatory authorities to identify and address program-related inquiries; • implement additional internal systems and infrastructure; • hire additional personnel; and • scale-up the formulation and manufacturing of our product candidates. We continue to seek additional financial resources to fund the further development of our product candidates. If we are unable to obtain sufficient additional capital, one or more of these programs could be delayed, and we may be unable to continue our operations at planned levels and be forced to reduce our operations. Because of the numerous risks and uncertainties associated with product development, we are unable to predict the timing or amount of increased expenses or when or if we will be able to achieve or maintain profitability. 19 Recent Developments On May 2, 2022, we announced dosing of the first patient in our TCR-T Library Phase 1/2 trial being conducted at MD Anderson at dose level 1, or 5x10 9 . The patient has non-small cell lung cancer and was treated with TCR-T cells targeting a KRAS G12D mutation. Following a safety review by the safety review committee at MD Anderson, we are moving ahead at the second dose level of 4x10 10 TCR-T cells. We continue to enroll patients in the trial at dose levels according to the clinical protocol. We expect to present early data at an appropriate scientific or medical conference in the third quarter of 2022. The TCR-T cell product was successfully manufactured in Alaunos' state-of-the-art good manufacturing practice ("cGMP") facility in Houston, Texas. We are executing a multi-prong strategy to expand our manufacturing capabilities, including implementing standard operating procedures that allow for simultaneous production of multiple products, hiring additional staff to support multiple shifts and evaluating physical expansion of the cGMP footprint. On May 16, 2022, we presented preclinical data in poster M-234 on Stem-cell memory TCR-T cells targeting hotspot EGFR , KRAS and TP53 neoantigens generated through co-expression of membrane-bound Interleukin-15, or mbIL-15, at the 25th Annual Meeting of the American Society of Gene and Cell Therapy. Our mbIL-15 program is designed to augment the function of TCR-T cells by co-expression of a proprietary potentially more potent mbIL-15. In this preclinical study, we observed that mbIL-15 TCR-T cells specifically targeted and killed tumors expressing matching neoantigen and HLAs with negligible off-target effects. Importantly, mbIL-15 seems to enhance the survival and persistence of TCR-T cells cultured in the absence of exogenous cytokine support. The persisting mbIL-15 TCR-T cells were observed to exhibit a preponderance of long-lived T stem-cell memory cells that were capable to giving rise to effector T cell subsets upon in vitro restimulation. These preclinical observations suggest that our proprietary mbIL-15 technology has the potential to establish long-lived tumor-specific TCR-T cells that may have the potential to survive in circulation and in the suppressive tumor microenvironment. In June 2022, Solasia Pharma K. K. ("Solasia") announced that darinaparsin has been approved for relapsed or refractory Peripheral T-Cell Lymphoma by the Ministry of Health, Labor and Welfare in Japan. As a part of our license agreement with Solasia, we are eligible for sales-based milestones and a percentage of any sublicense revenue generated by Solasia. Solasia will continue to be responsible for all costs related manufacturing and commercialization. On June 24, 2022, we entered into the Fourth Amendment (the "CRADA Fourth Amendment") to a Cooperative Research and Development Agreement, dated January 9, 2017, by and among the National Cancer Institute and the Company, as amended (the "CRADA"). Under the CRADA, the National Cancer Institute will work to generate proof of concept utilizing our Sleeping Beauty platform for personalized TCR-T therapies. The CRADA Fourth Amendment, among other things, extended the term of the CRADA until January 9, 2025. In connection with the CRADA Fourth Amendment, we agreed to contribute $1.0 million per year, payable on a quarterly basis, beginning in the first quarter of 2023. We have continued advancing our hunTR discovery engine to discover new TCRs which may potentially be added to our TCR library. We are working to increase output and reduce screening costs and currently anticipate sharing data from the hunTR discovery engine in the fourth quarter of 2022. Financial Overview Collaboration Revenue We recognize research and development funding revenue over the estimated period of performance. To date we have not generated product revenue. Unless and until we receive approval from the FDA and/or other regulatory authorities for our product candidates, we cannot sell our products and will not have product revenue. Research and Development Expenses Our research and development expenses consist primarily of salaries and related expenses for personnel, costs of contract manufacturing services, costs of facilities, reagents, and equipment, fees paid to professional service providers in conjunction with our clinical trials, fees paid to contract research organizations in conjunction with clinical trials, fees paid to contract research organizations in conjunction with costs of materials used in research and development, consulting, license and milestone payments and sponsored research fees paid to third parties. Our future research and development expenses in support of our current and future programs will be subject to numerous uncertainties in timing and cost to completion. We test potential products in numerous preclinical studies for safety, toxicology and efficacy. We may conduct multiple clinical trials for each product. As we obtain results from trials, we may elect to discontinue or delay clinical trials for certain products in order to focus our resources on more promising products or indications. Completion of clinical trials may take several years or more, and the length of time generally varies substantially according to the type, complexity, novelty and 20 intended use of a product. It is not unusual for preclinical and clinical development of each of these types of products to require the expenditure of substantial resources. The duration and the cost of clinical trials may vary significantly over the life of a project as a result of differences arising during clinical development, including, among others, the followin • The number of clinical sites included in the trials; • The length of time required to enroll suitable patients; • The number of patients that ultimately participate in the trials; • The length of time and cost to develop and optimize manufacturing processes; • The cost to manufacture the clinical products for patients; • The duration of patient follow-up to ensure the absence of long-term product-related adverse events; and • The efficacy and safety profile of the product. As a result of the uncertainties discussed above, we are unable to determine the duration and completion costs of our programs or when and to what extent we will receive cash inflows from the commercialization and sale of a product. Our inability to complete our programs in a timely manner or our failure to enter into appropriate collaborative agreements could significantly increase our capital requirements and could adversely impact our liquidity. These uncertainties could force us to reduce or eliminate our activities in one or more of our programs or seek additional, external sources of financing from time-to-time in order to continue with our product development strategy. Our inability to raise additional capital, or to do so on terms reasonably acceptable to us, would jeopardize the future success of our business. General and Administrative Expenses General and administrative expenses consist primarily of salaries, benefits and stock-based compensation, consulting and professional fees, including patent related costs, general corporate costs and facility costs not otherwise included in research and development expenses or cost of product revenue. Other Income (Expense) Other income (expense) consists primarily of interest expense associated with our Amended Loan and Security Agreement, as defined below. Overview of Results of Operations Three and Six Months Ended June 30, 2022 Compared to Three and Six Months Ended June 30, 2021 Research and Development Expenses Research and development expenses during the three and six months ended June 30, 2022 and 2021 were as follows: Three Months Ended June 30, Six Months Ended June 30, 2022 2021 Change 2022 2021 Change ($ in thousands) Research and development expenses $ 5,937 $ 13,570 $ (7,633 ) (56 )% $ 11,518 $ 26,906 $ (15,388 ) (57 )% Research and development expenses for the three months ended June 30, 2022 decreased by $7.6 million when compared to the three months ended June 30, 2021 primarily due to a decrease in program-related costs of $2.0 million as a result of the winding down of our IL-12 and CAR-T programs, a $5.2 million decrease in employee related expenses due to our reduced headcount following our restructuring in the third quarter of 2021, and a $0.3 million decrease in consulting expenses due to reduced use of consultants. Research and development expenses for the six months ended June 30, 2022 decreased by $15.4 million when compared to the six months ended June 30, 2021 primarily due to a decrease in program-related costs of $4.9 million as a result of the winding down of our IL-12 and CAR-T programs, a $9.8 million decrease in employee related expenses due to our reduced headcount following our restructuring in the third quarter of 2021, and a $0.6 million decrease in consulting expenses due to reduced use of consultants. For the three and six months ended June 30, 2022, our clinical stage projects included our TCR-T Library Phase 1/2 trial evaluating TCRs from our library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers. 21 General and administrative expenses General and administrative expenses during the three and six months ended June 30, 2022 and 2021 were as follows: Three Months Ended June 30, Six Months Ended June 30, 2022 2021 Change 2022 2021 Change ($ in thousands) General and administrative expenses $ 3,429 $ 9,069 $ (5,640 ) (62 )% $ 6,935 $ 17,296 $ (10,361 ) (60 )% General and administrative expenses for the three months ended June 30, 2022 decreased by $5.6 million as compared to the three months ended June 30, 2021, primarily due to a $5.4 million decrease in employee related expenses due to our reduced headcount following our restructuring in the third quarter of 2021 and a $0.2 million decrease in consulting and professional services expenses due to lower legal costs and a decreased use of consultants. General and administrative expenses for the six months ended June 30, 2022 decreased by $10.4 million as compared to the six months ended June 30, 2021, primarily due to a $9.2 million decrease in employee related expenses due to our reduced headcount following our restructuring in the third quarter of 2021, a $1.0 million decrease in consulting and professional services expenses due to lower legal costs and a decreased use of consultants, and a $0.1 million decrease in facilities-related costs. Gain on lease modification Gains on lease modifications during the three and six months ended June 30, 2022 and 2021 were as follows: Three Months Ended June 30, Six Months Ended June 30, 2022 2021 Change 2022 2021 Change ($ in thousands) Gain on lease modification $ (133 ) $ — $ (133 ) 100 % $ (133 ) $ — $ (133 ) 100 % Gain on lease modification during the three and six months ended June 30, 2022 was $0.1 million compared to $0 during the three and six months ended June 30, 2021. As a result of a real estate lease modification during the second quarter of 2022, the associated lease liability and right-of-use asset were remeasured based on the revised lease payments, resulting in a gain of $0.1 million. Other income (expense), net Other income (expense), net during the three and six months ended June 30, 2022 and 2021 was as follows: Three Months Ended June 30, Six Months Ended June 30, 2022 2021 Change 2022 2021 Change ($ in thousands) Interest expense $ (740 ) $ — $ (740 ) 100 % $ (1,425 ) $ — $ (1,425 ) 100 % Other income (expense), net 41 (31 ) 72 (232 )% 25 (22 ) 47 (214 )% Total $ (699 ) $ (31 ) $ (668 ) 2155 % $ (1,400 ) $ (22 ) $ (1,378 ) 6264 % Other expense, net for the three months ended June 30, 2022 increased by $0.7 million as compared to the three months ended June 30, 2021, primarily due to $0.7 million of interest expense associated with our Amended Loan and Security Agreement, as defined below. Other expense, net for the six months ended June 30, 2022 increased by $1.4 million as compared to the six months ended June 30, 2021, primarily due to $1.4 million of interest expense associated with our Amended Loan and Security Agreement. Liquidity and Capital Resources Sources of Liquidity We have not generated any revenue from product sales. Since inception, we have incurred net losses and negative cash flows from our operations. To date, we have financed our operations primarily through public offerings of our common stock, private placements of our convertible equity securities, term debt and collaborations. Through June 30, 2022, we have received an aggregate of $714.1 million from issuances of equity and $25.0 million from our Amended Loan and Security Agreement, as defined below. 22 We follow the guidance of Accounting Standards Codification ("ASC") Topic 205-40, Presentation of Financial Statements - Going Concern , in order to determine whether there is substantial doubt about our ability to continue as a going concern for one year after the date our financial statements are issued. Given our current development plans and cash management efforts, we anticipate that our cash resources will be sufficient to fund operations into the second quarter of 2023. Our ability to continue operations after our current cash resources are exhausted depends on our ability to obtain additional financing, as to which no assurances can be given. Cash requirements may vary materially from those now planned because of changes in our focus and direction of our research and development programs, competitive and technical advances, patent developments, regulatory changes or other developments. If adequate additional funds are not available when required, management may need to curtail its development efforts and planned operations to conserve cash. Based on the current cash forecast, management has determined that our present capital resources will not be sufficient to fund our planned operations for at least one year from the issuance date of the financial statements, which raises substantial doubt as to our ability to continue as a going concern. This forecast of cash resources and planned operations is forward-looking information that involves risks and uncertainties, and the actual amount of expenses could vary materially and adversely as a result of a number of factors. 2022 Equity Distribution Agreement On August 12, 2022, we entered into an Equity Distribution Agreement (the “Equity Distribution Agreement”) with Piper Sandler & Co. (“Piper Sandler”), pursuant to which we can offer and sell, from time to time at our sole discretion, shares of our common stock having an aggregate offering price of up to $50 million through Piper Sandler as our sales agent in an “at the market offering.” Piper Sandler will receive a commission of 3.0% of the gross proceeds of any common stock sold under the Equity Distribution Agreement. As of the date of this Quarterly Report on Form 10-Q, there have been no offers or sales of our common stock under the Equity Distribution Agreement. In connection with entering into the Equity Distribution Agreement, we concurrently terminated, effective August 12, 2022, the Open Market Sale Agreement with Jefferies LLC, dated June 21, 2019, governing our former “at the market offering” program. 2021 Loan and Security Agreement On August 6, 2021, we entered into a Loan and Security Agreement (the "Loan and Security Agreement") with Silicon Valley Bank and affiliates of Silicon Valley Bank (collectively, "SVB"). The Loan and Security Agreement provided for an initial term loan of $25.0 million funded at the closing (the "Term A Tranche"), with an additional tranche of $25.0 million available if certain funding and clinical milestones were met by August 31, 2022 (the "Term B Tranche"). Effective December 28, 2021, we entered into a First Amendment (the "Amendment") to the Loan and Security Agreement (as so amended, the "Amended Loan and Security Agreement"). The Amended Loan and Security Agreement extends the interest-only period through August 31, 2022, and provides for an automatic extension of the interest-only period through August 31, 2023, if the Amended Milestones (as defined below) are met by August 31, 2022. The Amendment eliminated the Term B Tranche, which remained unfunded, leaving only the Term A Tranche (the "SVB Facility"). Under the Amended Loan and Security Agreement, the SVB Facility will mature on August 1, 2023; however, if we achieve the Amended Milestones on or prior to August 31, 2022, then the maturity will automatically extend to August 1, 2024. As of June 30, 2022, the SVB Facility was fully drawn in the amount of $25.0 million. The SVB Facility bears interest at a floating rate per annum on the outstanding loans, payable monthly, at the greater of (a) 7.75% and (b) the current published U.S. prime rate, plus a margin of 4.5%. The Amended Loan and Security Agreement provides for an interest-only period which extends through August 31, 2022, as compared to March 31, 2022 in the Loan and Security Agreement, and may be automatically extended through August 31, 2023, if, on or prior to August 31, 2022, SVB receives evidence, satisfactory to it, confirming that we have (i) received at least $50.0 million in net cash proceeds from the sale of our equity securities after the date of the Amended Loan and Security Agreement, on terms acceptable to SVB, and (ii) achieved positive data in the first cohort of the TCR-T Library Phase 1/2 Trial endorsed by an independent safety monitoring committee as a safe dose to proceed (together, the “Amended Milestones”). After the interest-only payment period, aggregate outstanding borrowings are repayable in twelve consecutive, equal monthly installments of principal plus accrued interest. All outstanding principal and accrued and unpaid interest under the SVB Facility and all other outstanding obligations under the Amended Loan and Security Agreement are due and payable on August 1, 2023; however, if we achieve the Amended Milestones on or prior to August 31, 2022, then the maturity will be automatically extended to August 1, 2024. In addition to the payment of the outstanding principal plus accrued interest due, we will also owe SVB 5.75% of the original principal amounts borrowed as a final payment (the "Final Payment"). We are permitted to make up to two prepayments, each such payment to be at least $5.0 million, subject to a prepayment premium of the SVB Facility. Such prepayment premium would be 3.00% of the principal amount of the SVB Facility if prepaid prior to the first anniversary of the effective date, 2.00% of the principal amount of the SVB Facility if prepaid on or after the first anniversary of the effective date but prior to the second anniversary of the effective date and 1.00% of the principal 23 amount of the SVB Facility if prepaid on or after the second anniversary of the effective date but prior to maturity date. No amount that has been repaid may be reborrowed. The Amended Loan and Security Agreement requires us to cash collateralize half of the sum of the then-outstanding principal amount of the SVB Facility, plus an amount equal to 5.75% of the original principal amount of the SVB Facility if we do not achieve the Amended Milestones on or prior to August 31, 2022. In the event a cash collateralization were to occur, so long as no event of default has occurred, $2.5 million will be released from the collateral account following the eighth scheduled payment of principal and interest, and a further $4.0 million will be released following the tenth scheduled payment of principal and interest, in each case, so long as (i) after subtracting such scheduled payment, the sum of (a) the aggregate outstanding principal, (b) accrued and unpaid interest and (c) the Final Payment is less than $9,770,933 and $5,604,167, respectively and (ii) the balance in the collateral account after the release would equal or exceed $10.0 million and $6.0 million, respectively. The SVB Facility and related obligations under the Amended Loan and Security Agreement are secured by substantially all of our properties, rights and assets, except for its intellectual property (which is subject to a negative pledge under the Amended Loan and Security Agreement). In addition, the Amended Loan and Security Agreement contains customary representations, warranties, events of default and covenants. In connection with our entry into the Loan and Security Agreement, we issued to SVB warrants to purchase (i) up to 432,844 shares of our common stock, in the aggregate, and (ii) up to an additional 432,842 shares of Common Stock, in the aggregate, in the event we achieve certain clinical milestones, in each case at an exercise price per share of $2.22. In connection with our entry into the Amendment, we amended and restated the warrants issued to SVB. As amended and restated, the warrants are for up to 649,615 shares of our common stock, in the aggregate, at an exercise price per share of $1.16, or the SVB Warrants. The SVB Warrants expire on August 6, 2031. The issuance costs for the Loan and Security Agreement, including the Amended Loan and Security Agreement, were approximately $1.2 million and primarily related to the SVB Warrants, which will be amortized into interest expense over the period to August 1, 2023. Interest expense was $0.7 million for the three months ended June 30, 2022 and was $1.4 million for the six months ended June 30, 2022. The fair value of the Amended Loan and Security Agreement as of June 30, 2022 approximates its face value due to proximity to the transaction. Cash Flows The following table summarizes our net decrease in cash and cash equivalents for the six months ended June 30, 2022 and 2021: Six Months Ended June 30, 2022 2021 ($ in thousands) Net cash provided by (used in): Operating activities $ (15,957 ) $ (36,765 ) Investing activities (86 ) (2,594 ) Financing activities — 1,036 Net decrease in cash and cash equivalents $ (16,043 ) $ (38,323 ) Cash flows from operating activities represent the cash receipts and disbursements related to all of our activities other than investing and financing activities. Operating activities is derived by adjusting our net loss • Non-cash operating items such as depreciation and stock-based compensation; and • Changes in operating assets and liabilities which reflect timing differences between the receipt and payment of cash associated with transactions and when they are recognized in results of operations. Net cash used in operating activities for the six months ended June 30, 2022 was $16.0 million, as compared to net cash used in operating activities of $36.8 million for the six months ended June 30, 2021. The net cash used in operating activities for the six months ended June 30, 2022 was primarily due to our net loss of $19.7 million, adjusted for $5.7 million of non-cash items such as depreciation and stock-based compensation, a $2.2 million decrease in lease liabilities, a decrease in accounts payable of $0.9 million and a $0.4 million decrease in accrued expenses, offset by a decrease in receivables of $1.1 million and a decrease to prepaid expenses and other assets of $0.4 million. Net cash used in investing activities was $0.1 million for the six months ended June 30, 2022, compared to $2.6 million for the six months ended June 30, 2021. The decrease was primarily a result of the decision to use available cash to expand our internal cell therapy capabilities in our Houston, Texas facilities during the first half of 2021. There were no financing activities for the six months ended June 30, 2022. Net cash provided by financing activities during the six months ended June 30, 2021 was $1.0 million, related primarily to proceeds from the exercise of stock options. 24 Operating Capital and Capital Expenditure Requirements We anticipate that losses will continue for the foreseeable future. As of June 30, 2022, our accumulated deficit was approximately $862.6 million. Our actual cash requirements may vary materially from those planned because of a number of factors, includin • changes in the focus, direction and pace of our development programs; • the effect of competing technologies and market developments; • the scope, progress, timing, costs and results of our TCR-T Library Phase 1/2 Trial for the treatment of certain solid tumors and costs associated with the development of our product candidates; • our headcount growth focused on our TCR program and scaling our manufacturing capabilities; • our ability to secure partnering arrangements; and • costs of filing, prosecuting, defending and enforcing any patent claims and any other intellectual property rights, or other developments. As of June 30, 2022, we had approximately $60.0 million of cash and cash equivalents. Given our current development plans, we anticipate our cash resources will be sufficient to fund our operations into the second quarter of 2023. In order to continue our operations beyond our forecasted runway, we will need to raise additional capital, and we have no committed sources of additional capital at this time. The forecast of cash resources is forward-looking information that involves risks and uncertainties, and the actual amount of our expenses could vary materially and adversely as a result of a number of factors. We have based our estimates on assumptions that may prove to be wrong, and our expenses could prove to be significantly higher than we currently anticipate. Management does not know whether additional financing will be on terms favorable or acceptable to us when needed, if at all. If adequate additional funds are not available when required, management may need to curtail its development efforts and planned operations. Working capital as of June 30, 2022 was $34.6 million, consisting of $61.4 million in current assets and $26.8 million in current liabilities. Working capital as of December 31, 2021 was $62.8 million, consisting of $78.8 million in current assets and $16.0 million in current liabilities. Operating Leases Our commitments for operating leases relate to laboratory and office space in Houston, Texas and office space in Boston, Massachusetts. On December 21, 2015 and April 15, 2016, we renewed the sublease for our office space in Boston through August 31, 2021. On April 22, 2021, we extended our lease for a portion of office space currently held at our office in Boston. The renewal of the portion of our office space was originally set to expire on August 31, 2021 but was extended through August 31, 2026. On March 12, 2019, we entered into a lease agreement for office space in Houston at MD Anderson through April 2021. On October 15, 2019, we entered into another lease agreement for additional office and laboratory space in Houston through February 2027. On April 7, 2020, we entered into amendments to our existing lease to lease additional office and laboratory space in Houston through February 2027. In June and September 2020, we entered into short-term leases in Houston for additional office and laboratory space. On December 15, 2020, we entered into a second lease in Houston with MD Anderson which provided us additional office and laboratory space through April 2028. In the second quarter of 2022, the Company modified its real estate lease agreement executed on December 15, 2020 with MD Anderson. The modification reduced the Company's leased space from 18,111 square feet to 3,228 square feet. As a result, the associated lease liability and right-of-use asset were remeasured to $0.4 million based on revised lease payments. A gain of $0.1 million was also recorded on the lease modification. Royalty and License Fees On May 28, 2019, we entered into a patent license agreement, or the Patent License, with the National Cancer Institute, or the NCI. The terms of the Patent License require us to pay the NCI minimum annual royalties in the amount of $0.3 million, which will be reduced to $0.1 million once the aggregate minimum annual royalties paid by us equals $1.5 million. For the three and six months ended June 30, 2022 and 2021, we recognized $0.3 million related to royalty payments under this agreement. As of June 30, 2022, we have paid a total of $0.8 million in minimum annual royalty payments under this agreement. Pursuant to the Patent License, we are also required to make performance-based payments contingent upon the successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $4.3 million, of which aggregate payments of $3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $0.1 million will be due upon the initiation of our first sponsored Phase 1 clinical trial of a licensed product or licensed process in the field of use licensed under the Patent License. In 25 addition, we are required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $250.0 million to $1.0 billion. The aggregate potential amount of these benchmark payments is $12.0 million. A payment totaling $0.1 million was made during the three and six months ended June 30, 2022 related to the first benchmark payment, as compared to $0 during the three and six months ended June 30, 2021. On October 5, 2018, we entered into an exclusive license agreement, or the License Agreement, with PGEN Therapeutics, Inc., or PGEN, a wholly owned subsidiary of Precigen Inc., or Precigen. Under the License Agreement, we are obligated to pay PGEN an annual licensing fee of $0.1 million expected to be paid through the term of the agreement and we have also agreed to reimburse certain historical costs of PGEN up to $1.0 million. For the three and six months ended June 30, 2022 and June 30, 2021, we have made licensing fee payments in accordance with the terms of the agreement. Pursuant to the terms of the License Agreement, we are responsible for contingent milestone payments totaling up to an additional $52.5 million for each exclusively licensed program upon the initiation of later stage clinical trials and upon the approval of exclusively licensed products in various jurisdictions. In addition, we will pay PGEN tiered royalties ranging from low-single digits to high-single digits on the net sales derived from the sale of any approved IL-12 products and CAR products. We will also pay PGEN royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of any approved TCR products, up to a maximum royalty amount of $100.0 million in the aggregate. We will also pay PGEN twenty percent of any sublicensing income received by us relating to the licensed products. We are responsible for all development costs associated with each of the licensed products. PGEN will pay us royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of PGEN’s CAR products, up to a maximum royalty amount of $100.0 million. Critical Accounting Policies and Estimates In our Annual Report on Form 10-K for the year ended December 31, 2021, our most critical accounting policies and estimates upon which our financial status depends were identified as those relating to clinical trial expenses and other research and development expenses; collaboration agreements; fair value measurements for stock-based compensation; and income taxes. We reviewed our policies and determined that those policies remain our most critical accounting policies for the three and six months ended June 30, 2022. Item 3. Quantitative and Qualitative Disclosures about Market Risk. As a smaller reporting company, as defined by Rule 12b-2 under the Securities Exchange Act of 1934, as amended, or the Exchange Act, we are not required to provide the information under this item. Item 4. Controls and Procedures. Evaluation of Disclosure Controls and Procedures Our management, with the participation of our principal executive officer and principal accounting officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) or 15d-15(e) under the Exchange Act) as of June 30, 2022. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by the company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal accounting officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Our management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and our management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of our disclosure controls and procedures as of June 30, 2022, our principal executive officer and principal accounting officer concluded that, as of such date, our disclosure controls and procedures were effective at the reasonable assurance level. Changes in Internal Control over Financial Reporting There were no changes in our internal control over financial reporting (as defined in Rule 13(a)-15(f) of the Exchange Act) that occurred during the quarter ended June 30, 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 26 PART II—OTHER INFORMATION Item 1. Legal Proceedings In the ordinary course of business, we may periodically become subject to legal proceedings and claims arising in connection with ongoing business activities from time to time. The results of litigation and claims cannot be predicted with certainty, and unfavorable resolutions are possible and could materially affect our results of operations, cash flows or financial position. In addition, regardless of the outcome, litigation could have an adverse impact on us because of defense costs, diversion of management attention and resources and other factors. As of June 30, 2022, based on information readily available, there are no material matters that, in the opinion of management, are likely to result in a material adverse effect on our financial position, results of operations or cash flows. Item 1A. Risk Factors The following important factors could cause our actual business and financial results to differ materially from those contained in forward-looking statements made in this Quarterly Report on Form 10-Q or elsewhere by management from time to time. The risk factors in this Quarterly Report have been revised to incorporate changes to our risk factors from those included in our Annual Report. The risk factors set forth below with an asterisk (*) before the title are new risk factors or ones containing substantive changes from the risk factors previously disclosed in Item 1A of our Annual Report, as filed with the SEC. The market price of our common stock could decline if one or more of these risks or uncertainties actually occur, causing you to lose all or part of your investment. The impact of COVID-19 may also exacerbate other risks discussed in this filing, any of which could have a material effect on us. This situation is changing rapidly and additional impacts may arise. Additional risks that we currently do not know about, or that we currently believe to be immaterial, may also impair our business. Certain statements below are forward-looking statements. See “Special Note Regarding Forward-Looking Statements” in this Quarterly Report. RISKS RELATED TO OUR BUSINESS *We will require substantial additional financial resources to continue as a going concern and to continue ongoing development of our product candidates and pursue our business objectives; if we are unable to obtain these additional resources when needed, we may be forced to delay or discontinue our planned operations, including clinical testing of our product candidates. We have not generated significant revenue and have incurred significant net losses in each year since our inception. For the six months ended June 30, 2022, we had a net loss of $19.7 million, and, as of June 30, 2022, our accumulated deficit since inception in 2003 was $862.6 million. We expect our operating expenditures and net losses to increase significantly in connection with our ongoing clinical trial and our internal research and development capabilities. Further development of our product candidates will require substantial increases in our expenses as we: • continue to undertake clinical trials for product candidates; • scale-up and scale-out the manufacturing of our TCR-T product candidates; • seek regulatory approvals for product candidates; • work with regulatory authorities to identify and address program-related inquiries; • implement additional internal systems and infrastructure; and • hire additional personnel, including highly-skilled and experienced scientific staff. As of June 30, 2022, we have approximately $60.0 million of cash and cash equivalents. Given our current development plans and cash management efforts, we anticipate cash resources will be sufficient to fund operations into the second quarter of 2023, and we have no committed sources of additional capital at this time. We follow the guidance of Accounting Standards Codification ("ASC") Topic 205-40, Presentation of Financial Statements - Going Concern, in order to determine whether there is substantial doubt about our ability to continue as a going concern for one year after the date our financial statements are issued. Based on the current cash forecast, management has determined that our present capital resources will not be sufficient to fund our planned operations for at least one year from the issuance date of the financial statements, which raises substantial doubt as to our ability to continue as a going concern. The forecast of cash resources is forward-looking information that involves risks and uncertainties, and our actual cash requirements may vary materially from our current expectations for a number of other factors that may include, but are not limited to, changes in the focus and direction of our development programs, slower and/or faster than expected progress of our research and development 27 efforts, changes in governmental regulation, competitive and technical advances, rising costs associated with the development of our product candidates, our ability to secure partnering arrangements, and costs of filing, prosecuting, defending and enforcing our intellectual property rights. The COVID-19 pandemic continues to evolve and has already resulted in a significant disruption of global financial markets. If the disruption persists and deepens, we could experience an inability to access additional capital, which could in the future negatively affect our operations. If we exhaust our capital reserves more quickly than anticipated, regardless of the reason, and we are unable to obtain additional financing on terms acceptable to us or at all, we may be required to delay, limit, reduce or terminate our product development or future commercialization efforts or grant rights to develop and market product candidates that we would otherwise prefer to develop and market ourselves. We need to raise additional capital to fund our operations. The manner in which we raise any additional funds may affect the value of your investment in our common stock. Until such time, if ever, as we can generate substantial revenue, we expect to finance our cash needs through a combination of equity offerings, debt financings and license and collaboration agreements. We do not have any committed external source of funds. The unpredictability of the capital markets may severely hinder our ability to raise capital within the time periods needed or on terms we consider acceptable, if at all. In particular, a decline in the market price of our common stock could make it more difficult for us to sell equity or equity-related securities in the future at a time and price that we deem appropriate. Moreover, if we fail to advance one or more of our current product candidates into early or later-stage clinical trials, successfully commercialize one or more of our product candidates, or acquire new product candidates for development, we may have difficulty attracting investors that might otherwise be a source of additional financing. On August 6, 2021, we entered into the Loan and Security Agreement with SVB. The Loan and Security Agreement provided for an initial term loan of $25.0 million funded at the closing, with an additional tranche of $25.0 million available if certain funding and clinical milestones were met by August 31, 2022. In connection with the initial borrowing, we also issued warrants to SVB and certain of its affiliates for the purchase of up to 432,844 shares of our common stock, in the aggregate, at an exercise price of $2.22 per share. The Loan and Security Agreement was subsequently amended, effective December 28, 2021, to, among other things, eliminate the additional tranche so that the $25.0 million we have drawn down is the full amount available under the SVB Facility. As a result, we do not have any other borrowings available under the SVB Facility. In connection with entering into the Amendment we also amended and restated the warrants. These amended and restated warrants provide for the purchase of up to 649,615 shares of our common stock, in the aggregate, at an exercise price of $1.16 per share. To the extent that we raise additional capital by issuing equity securities, our existing stockholders’ ownership will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect the rights of our common stockholders. Debt financing and preferred equity financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, creating liens, making capital expenditures or declaring dividends. Furthermore, the ongoing impact of COVID-19 and geopolitical instability, including the military conflict between Russia and Ukraine, on global financial markets could make the terms of any available financing less attractive to use and more dilutive to our existing shareholders. If we raise additional funds through collaborations, strategic alliances or marketing, distribution or licensing arrangements with third parties, we may have to relinquish valuable rights to our technologies, future revenue streams, research programs or product candidates or grant licenses on terms that may not be favorable to us. We have incurred indebtedness that could adversely affect our business and place restrictions on our operating and financial flexibility. The Amended Loan and Security Agreement contains customary affirmative and negative covenants and events of default applicable to us and any subsidiaries. The affirmative covenants require us (and us to cause our subsidiaries, if any) to maintain governmental approvals, deliver certain financial reports, maintain insurance coverage, and protect material intellectual property, among other things. The negative covenants restrict our and our subsidiaries’ ability to, among other things, transfer collateral, change our business, engage in mergers or acquisitions, incur additional indebtedness, pay cash dividends or make other distributions, make investments, create liens, sell assets and make any payment on subordinated debt. The restrictive covenants of the Amended Loan and Security Agreement could cause us to be unable to pursue business opportunities that we or our stockholders may consider beneficial, including entering into certain licensing arrangements, maintaining flexible cash management arrangements and engaging in certain change in control transactions, among others. 28 Our debt combined with our other financial obligations and contractual commitments could have significant adverse consequences for our business, includin • Requiring us to dedicate a substantial portion of cash flows to payment on our debt, which would reduce available funds for further research and development; • Increasing the amount of interest that we must pay on debt with variable interest rates, if market rates of interest increase; • Subjecting us to restrictive covenants that reduce our ability to take certain corporate actions, acquire companies, products or technology, or obtain further debt financing; and • Requiring us to pledge our non-intellectual property assets as collateral, which could limit our ability to obtain additional debt financing. We intend to satisfy our debt service obligations with our existing cash and cash equivalents and any additional amounts we may raise through future debt and equity financings. Our ability to make payments due under the SVB Facility depends on our future performance, which is subject to economic, financial, competitive conditions and other factors beyond our control. We may not have sufficient funds or may be unable to arrange for additional financing to pay the amounts due under our existing debt. In addition, a failure to comply with certain equity raise and clinical milestone requirements in the Amended Loan and Security Agreement could result in us having to deposit unrestricted and unencumbered cash equal to 50% of the principal amount of the SVB Facility then outstanding and an amount equal to 5.75% of the original principal amount in a cash collateral account with SVB. Failure to pay any amount due under the SVB Facility, to comply with covenants under the Amended Loan and Security Agreement, or the occurrence of an event that would reasonably be expected to have a material adverse effect on our business, operations, or condition (financial or otherwise), would result in an event of default. The occurrence and continuation of an event of default could cause interest to be charged at the rate that is otherwise applicable plus 3.00% (unless SVB elects to impose a smaller increase) and would provide SVB with the right to accelerate all obligations under the SVB Facility and exercise remedies against us and the collateral securing the SVB Facility and other obligations under the Amended Loan and Security Agreement, including foreclosure against assets securing the SVB Facility. In addition, the covenants under the Amended Loan and Security Agreement and the pledge of substantially all of our assets, excluding our intellectual property (which is subject to a negative pledge under the Amended Loan and Security Agreement), as collateral on the loan may limit our ability to obtain additional debt financing. *We have previously identified material weaknesses in our internal control, all of which have been remediated. We may identify additional material weaknesses in the future or otherwise fail to maintain an effective system of internal controls, which may result in material misstatements of our financial statements or could have a material adverse effect on our business and trading price of our securities. We are subject to the reporting requirements of the Exchange Act, the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, and the rules and regulations of the Nasdaq Global Select Market. Pursuant to Section 404 of the Sarbanes-Oxley Act, we are required to perform system and process evaluation and testing of our internal control over financial reporting to allow our management to report on the effectiveness of our internal control over financial reporting. We may also be required to have our independent registered public accounting firm issue an opinion on the effectiveness of our internal control over financial reporting on an annual basis. We have identified material weaknesses in our internal control over financial reporting in the past. A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of our financial statements will not be prevented or detected on a timely basis. Although the material weaknesses identified in the past have been remediated, we cannot assure you that any measures we have taken or may take in the future will be sufficient to avoid potential future material weaknesses. If we are unable to successfully remediate any future material weakness and maintain effective internal controls, we may not have adequate, accurate or timely financial information, and we may be unable to meet our reporting obligations as a public company, including the requirements of the Sarbanes-Oxley Act, we may be unable to accurately report our financial results in future periods, or report them within the timeframes required by the requirements of the SEC, Nasdaq or the Sarbanes-Oxley Act. Failure to comply with the Sarbanes-Oxley Act, when and as applicable, could also potentially subject us to sanctions or investigations by the SEC or other regulatory authorities. Any failure to maintain or implement required new or improved controls, or any difficulties we encounter in their implementation, could result in the identification of additional material weaknesses or significant deficiencies, cause us to fail to meet our reporting obligations or result 29 in material misstatements in our financial statements. Furthermore, if we cannot provide reliable financial reports or prevent fraud, our business and results of operations could be harmed and investors could lose confidence in our reported financial information. Our plans to develop and commercialize non-viral adoptive TCR-T cell therapies can be considered a new approach to cancer treatment, the successful development of which is subject to significant challenges. We intend to employ technologies such as the technology licensed from MD Anderson pursuant to that certain license agreement between us, Precigen, and MD Anderson, with an effective date of January 13, 2015, or the MD Anderson License, which was subsequently assigned by Precigen and assumed by PGEN effective as of January 1, 2018, from PGEN, pursuant to the License Agreement, and from NCI, pursuant to the Patent License described above, to pursue the development and commercialization of non-viral cellular therapies based on T-cells and TCRs, targeting solid tumor malignancy. Because this is a new approach to cancer immunotherapy and cancer treatment generally, developing and commercializing product candidates subjects us to a number of challenges, includin • obtaining regulatory approval from the FDA and other regulatory authorities that have very limited experience with the commercial development of genetically modified T-cell therapies for cancer; • designing and conducting our clinical trials using this new approach or selecting the appropriate TCRs in a way that may lead to optimal results; • identifying and manufacturing appropriate TCRs from either the patient or third parties that can be administered to a patient; • developing and deploying consistent and reliable processes for engineering a patient’s and/or donor’s T-cells ex vivo and infusing the T cells back into the patient; • conditioning patients with chemotherapy in conjunction with delivering each of the potential products, which may increase the risk of adverse side effects of the potential products; • educating medical personnel regarding the potential side effect profile of each of the potential products, such as the potential adverse side effects related to cytokine release; • addressing any competing technological and market developments; • developing processes for the safe administration of these potential products, including long-term follow-up for all patients who receive the potential products; • sourcing additional clinical and, if approved, commercial supplies for the materials used to manufacture and process the potential products; • developing a manufacturing process with a cost of goods that allows for an attractive return on investment; • establishing sales and marketing capabilities after obtaining any regulatory approval to gain market acceptance; • developing therapies for types of cancers beyond those addressed by the current potential products; • maintaining and defending the intellectual property rights relating to any products we develop; and • not infringing the intellectual property rights, in particular, the patent rights, of third parties, including competitors, such as those developing T-cell therapies. We cannot assure you that we will be able to successfully address these challenges, which could prevent us from achieving our research, development and commercialization goals. Our current product candidates are based on novel technologies and are supported by limited clinical data and we cannot assure you that our current and planned clinical trials will produce data that supports regulatory approval of one or more of these product candidates. Our genetically modified TCR-T cell product candidates are supported by limited clinical data, all of which has been generated through trials conducted by MD Anderson and the NCI, not by us. We have assumed control of the overall clinical and regulatory development of our TCR-T cell product candidates, and any failure to obtain, or delays in obtaining, sponsorship of new INDs, or in 30 filing INDs sponsored by us for these or any other product candidates we determine to advance could negatively affect the timing of our potential future clinical trials. Such an impact on timing could increase research and development costs and could delay or prevent obtaining regulatory approval for our product candidates, either of which could have a material adverse effect on our business. We began enrolling patients in our TCR-T Library Phase 1/2 Trial in January 2022. Further, we did not control the design or conduct of the previous trials. It is possible that the FDA will not accept these previous trials as providing adequate support for future clinical trials, whether controlled by us or third parties, for any of one or more reasons, including the safety, purity and potency of the product candidate, the degree of product characterization, elements of the design or execution of the previous trials or safety concerns or other trial results. We may also be subject to liabilities arising from any treatment-related injuries or adverse effects in patients enrolled in these previous trials. As a result, we may be subject to unforeseen third-party claims and delays in our potential future clinical trials. We may also be required to repeat in whole or in part clinical trials previously conducted by MD Anderson or other entities, which will be expensive and delay the submission and licensure or other regulatory approvals with respect to any of our product candidates. Moreover, there are a number of regulatory requirements that we must continue to satisfy as we conduct our clinical trials of TCR-T cell product candidates in the United States. The criteria these regulators use to determine the safety and efficacy of a product candidate vary substantially according to the type, complexity, novelty and intended use and market of the potential products and change frequently. Satisfaction of these requirements will entail substantial time, effort and financial resources. To date, the FDA has approved only a few adoptive cell therapies for commercialization. Because adoptive cell therapies are relatively new and our product candidates employ novel gene expression and cell technologies, regulatory agencies may lack experience in evaluating product candidates like our Library TCR-T product candidates. This novelty may heighten regulatory scrutiny of our therapies or lengthen the regulatory review process, including the time it takes for the FDA to review our IND applications if and when submitted, increase our development costs and delay or prevent commercialization of our product candidates. These factors make it difficult to determine how long it will take or how much it will cost to obtain regulatory approvals for our product candidates. Any time, effort and financial resources we expend on our clinical product candidates and other early-stage product development programs, which are ultimately not successful may adversely affect our business. *We report interim data on certain of our clinical trials and we cannot assure you that interim data will be predictive of either future interim results or final study results. In addition, the results ultimately obtained from our preclinical studies or other earlier clinical trials for our product candidates may not be predictive of future results. As part of our business, we provide updates related to the development of our product candidates, which may include updates related to interim clinical trial data. We anticipate that our clinical trials will involve small patient populations and because of the small sample size, the interim results of these, and all, clinical trials may be subject to substantial variability and may not be indicative of either future interim results or final results. We commenced enrollment in our TCR-T Library Phase 1/2 Trial in January 2022 and announced the treatment of the first patient in May 2022. We do not know at this stage whether patient response data from this trial will be favorable, and initial success in clinical trials may not be indicative of results obtained when such trials are completed. Our product candidates may fail to show the desired safety and efficacy in clinical development, and we cannot assure you that the results of any future trials will demonstrate the value and efficacy of our product candidates. Even if our clinical trials are completed as planned, we cannot be certain that their results will support approval of our product candidates. There are no approved engineered TCR-T cell immunotherapies for solid tumors. We believe our product candidates may be effective against solid tumors and plan to develop product candidates for use in solid tumors. We cannot guarantee that our product candidates will be able to access the solid tumor or show any functionality in the solid tumor microenvironment. The cellular environment in which solid tumor cells thrive is generally hostile to T cells due to factors such as the presence of immunosuppressive cells, humoral factors and limited access to nutrients. In addition, the safety profile of our product candidates may differ in a solid tumor setting. If we are unable to make our product candidates function in solid tumors, our development plans and business will be significantly harmed. Preliminary data also remain subject to audit and verification procedures that may result in the final data being materially different from the preliminary data we previously announced. Negative differences between preliminary or interim data and final data could materially adversely affect the prospects of any product candidate that is impacted by such data updates. 31 In addition, the results of any preclinical studies for our product candidates may not be predictive of the results of clinical trials. For example, preclinical models as applied to cell therapy in oncology do not adequately represent the clinical setting, and thus cannot predict clinical activity nor all potential risks. We will need to attract, recruit and retain qualified personnel and we will continue to rely on key scientific and medical advisors, and their knowledge of our business and technical expertise would be difficult to replace. In 2021, we experienced transitions in our senior management culminating in the appointment of Kevin S. Boyle, Sr. as Chief Executive Officer and a member of the board of directors in August 2021 and the hiring of Michael Wong as our Vice President, Finance in September 2021 and his appointment as principal accounting officer in November 2021. In November 2021, we hired Melinda Lackey as our Senior Vice President, Legal. Management transition is often difficult and inherently causes some loss of institutional knowledge and creates potential uncertainty in strategy execution. In addition, we may not be able to attract or retain qualified management and commercial, scientific and clinical personnel due to the intense competition for qualified personnel among biotechnology, pharmaceutical and other businesses. If we are not able to attract and retain necessary personnel to accomplish our business objectives, we may experience constraints that will significantly impede the achievement of our development objectives, our ability to raise additional capital and our ability to implement our business strategy. We are highly dependent on our principal scientific, regulatory and medical advisors. The loss of any of our key personnel, could result in delays in product development, loss of key personnel or partnerships and diversion of management resources, which could adversely affect our operating results. We do not carry “key person” life insurance policies on any of our officers or key employees. *We face substantial competition from other biopharmaceutical companies, which may result in others discovering, developing or commercializing products before, or more successfully than, we do. Our TCR-T cell therapies targeting solid tumors face significant competition from multiple companies, and their collaborators, in the TCR and CAR technology space. We face competition from several companies, including Achilles Therapeutics, Annoca, Adaptimmune Therapeutics in collaboration with GlaxoSmithKline, Affini-T Therapeutics, ArsenalBio, BioNTech, bluebird bio, Bristol-Myers Squibb, Immatics, Iovance Biotherapeutics, Lion TCR, Lyell Immunopharma, Medigene, Nurix Therapeutics, Neogene Therapeutics, NexImmune, PACT Pharma, Precigen, Tactiva Therapeutics, Takara Bio, TCR 2 Therapeutics, T-Cure BioScience, T-knife Therapeutics, Tmunity Therapeutics, Triumvira Immunologics, TScan Therapeutics, Turnstone Biologics, Zelluna Immunotherapy and others. Many of these companies are either investigating TCR-T cells against germline antigens or are utilizing tumor infiltrating lymphocytes. Some are pursuing CAR-T cells for solid tumors. In contrast, we are focused on developing TCR-T cell products against neoantigens arising from somatic mutations in solid tumors. Companies in the T-cell therapy segment that have target discovery platforms like ours include Adaptive Therapeutics, Affini-T Therapeutics, Immatics, Enara Bio, T-knife Therapeutics, TScan Therapeutics and 3T Biosciences. Several companies, including Advaxis, Amgen, BioNTech, Geneos Therapeutics, and Gritstone, are pursuing vaccine platforms to target neoantigens for solid tumors. Other companies are developing non-viral gene therapies, including Poseida Therapeutics and several companies developing CRISPR technology, including Crispr Therapeutics. Several companies are pursuing the development of allogeneic CAR-T therapies, including Allogene Therapeutics, Atara Biotherapeutics, Precision Biosciences, and Servier Laboratories (in collaboration with Cellectis), which may compete with our product candidates. We also face competition from companies developing therapies using cells other than T cells such as Athenex, Fate Therapeutics, ImmunityBio, IN8bio, Nkarta Therapeutics, and Takeda Pharmaceutical. Other competitors are developing T cells with cytokines such as Fate Therapeutics and Obsidian Therapeutics. Finally, we also face competition from non- cell-based treatments offered by other companies such as Amgen, AstraZeneca, Bristol-Myers Squibb, Incyte, Merck, and Roche. Additionally, our ability to pursue partnerships relating to our IL-12 and CAR-T programs may be impacted by substantial competition from these and other biopharmaceutical companies. Even if we obtain regulatory approval of potential TCR products, we may not be the first to market and that may affect the price or demand for our potential products. Existing or future competing products may provide greater therapeutic convenience or clinical or other benefits for a specific indication, or fewer side effects, than our potential products or may offer comparable performance at a lower cost. Additionally, the availability and price of our competitors’ products could limit the demand and the price we are able to charge for our potential products thereby reducing or eliminating our commercial opportunity. We may not be able to implement our business plan if the acceptance of our potential products is inhibited by price competition or the reluctance of physicians to switch from existing methods of treatment to our potential products, or if physicians switch to other new drug or biologic products or choose to reserve our potential products. Additionally, a competitor could obtain orphan product exclusivity from the FDA with respect to such competitor’s product. If such competitor product is determined to be the same product as one of our potential products, that may 32 prevent us from obtaining approval from the FDA for such potential products for the same indication for seven years, except in limited circumstances. If our potential products fail to capture and maintain market share, we may not achieve sufficient product revenues and our business will suffer. We compete against fully integrated pharmaceutical companies and smaller companies that are collaborating with larger pharmaceutical companies, academic institutions, government agencies and other public and private research organizations. Many of these competitors have products already approved or in development. In addition, many of these competitors, either alone or together with their collaborative partners, operate larger research and development programs or have substantially greater financial resources than we do, as well as significantly greater experience in: • developing drugs and biopharmaceuticals; • undertaking preclinical testing and human clinical trials; • obtaining FDA and other regulatory approvals of drugs and biopharmaceuticals; • formulating and manufacturing drugs and biopharmaceuticals; and • launching, marketing and selling drugs and biopharmaceuticals. Our ability to compete may be affected in many cases by insurers or other third-party payors seeking to encourage the use of generic products. Any termination of our licenses with PGEN, MD Anderson or the National Cancer Institute or our research and development agreements with MD Anderson and the National Cancer Institute could result in the loss of significant rights and could harm our ability to develop and commercialize our product candidates. We are dependent on patents, know-how, and proprietary technology that are licensed from others, particularly MD Anderson, PGEN, and the NCI, as well as the contributions by MD Anderson under our research and development agreements. Any termination of these licenses or research and development agreements could result in the loss of significant rights and could harm our ability to commercialize our product candidates. Disputes may also arise between us and these licensors regarding intellectual property subject to a license agreement, including those relating t • the scope of rights granted under the applicable license agreement and other interpretation-related issues; • whether and the extent to which our technology and processes, and the technology and processes of PGEN, MD Anderson, the NCI and our other licensors, infringe intellectual property of the licensor that is not subject to the applicable license agreement; • our right to sublicense patent and other rights to third parties pursuant to our relationships with our licensors and partners; • whether we are complying with our diligence obligations with respect to the use of the licensed technology in relation to our development and commercialization of our potential products under the MD Anderson License, the License Agreement with PGEN and our patent license agreement with the NCI; • whether or not our partners are complying with all of their obligations to support our programs under licenses and research and development agreements; and • the allocation of ownership of inventions and know-how resulting from the joint creation or use of intellectual property by our licensors and by us. If disputes over intellectual property that we have licensed prevent or impair our ability to maintain our current licensing arrangements, particularly with MD Anderson, PGEN and the NCI, on acceptable terms, we may be unable to successfully develop and commercialize the affected potential products. We are generally also subject to all of the same risks with respect to protection of intellectual property that we license as we are for intellectual property that we own. If we or our licensors fail to adequately protect this intellectual property, our ability to commercialize potential products under our applicable licenses could suffer. There is a substantial amount of litigation involving patents and other intellectual property rights in the biotechnology and pharmaceutical industries, as well as administrative proceedings for challenging patents, including interference, derivation, and reexamination proceedings before the United States Patent and Trademark Office, or USPTO, or oppositions and other comparable proceedings in foreign jurisdictions. Recently, due to changes in U.S. law referred to as patent reform, new procedures including inter partes review 33 and post-grant review have been implemented, which adds uncertainty to the possibility of challenge to our or our licensors’ patents in the future. We may not be able to retain the rights licensed to us and PGEN by MD Anderson or the rights licensed to us by the National Cancer Institute to technologies relating to TCR-T cell therapies and other related technologies. Under the MD Anderson License, we, together with PGEN, received an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR-T cell and TCR-T cell therapies as well as either co-exclusive or non-exclusive licenses under certain related technologies. These proprietary methods and technologies, along with others within PGEN’s technology suite and licensed to us by PGEN, may help realize the promise of genetically modified TCR-T cell therapies by controlling cell expansion and activation in the body, minimizing off-target and unwanted on-target effects and toxicity while maximizing therapeutic efficacy. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term, we and PGEN shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After 10 years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if we and PGEN are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if we and PGEN are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by us or PGEN, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both us or PGEN and may be terminated by the mutual written agreement of us, PGEN and MD Anderson. Under the Patent License, we received an exclusive, worldwide license to certain intellectual property and patents from NCI for TCRs we can introduce into T cells using transposon-based genetic engineering. These T cells may be used in our TCR-T Library Phase 1/2 Clinical Trial or in subsequent clinical trials, if initiated. The term of the Patent License shall expire with the last of the licensed patents. The NCI could terminate or modify the Patent License if it believes we have materially breached, by failing to meet the defined milestones by the required dates, or upon certain insolvency events that are not cured within the 90-day time limit once we are notified of such alleged breach. The Patent License is also subject to certain public use requirements wherein the NCI could require us to sublicense certain product candidates or terminate or modify the Patent License if we do not meet these public use requirements. The Patent License could also be terminated by the NCI if we are unable to pay the required benchmark payments or the annual minimum royalty payments. There can be no assurance that we will be able to successfully perform under the MD Anderson License or the Patent License and if the MD Anderson License or the Patent License is terminated it may prevent us from achieving our business objectives. *We are partly reliant on the National Cancer Institute for research and development and early clinical testing of certain of our product candidates. A portion of our research and development is being conducted by the NCI under the CRADA entered into in January 2017 and which was amended in March 2018, February 2019, March 2022 and June 2022. Under the CRADA, the NCI, with Dr. Steven A. Rosenberg as the principal investigator, is responsible for conducting a clinical trial using the Sleeping Beauty system to express TCRs for the treatment of solid tumors. We have limited control over the nature or timing of the NCI’s clinical trial and limited visibility into their day-to-day activities, including with respect to how they are providing and administering T-cell therapy. For example, the research we are funding constitutes only a small portion of the NCI’s overall research. Additionally, other research being conducted by Dr. Rosenberg may at times receive higher priority than research on our program. Further, in response to the COVID-19 pandemic, the NCI has taken precautionary measures that have delayed the enrollment of the personalized TCR-T clinical trial using the Sleeping Beauty system to express TCRs for the treatment of solid tumors. The progress and timeline, including the timeline for dosing patients, for this trial are under the control of the NCI. The CRADA expired by its terms on January 9, 2022. In March 2022, we entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. In June 2022, we entered into the Fourth Amendment to the CRADA (the "CRADA Fourth Amendment") which, among other things, extended the term of the CRADA 34 until January 9, 2025. In connection with the CRADA Fourth Amendment, the Company agreed to contribute $1.0 million per year, payable on a quarterly basis, beginning in the first quarter of 2023. We may not be able to commercialize any products, generate significant revenues, or attain profitability. To date, none of our product candidates have been approved for commercial sale in any country. The process to develop, obtain regulatory approval for, and commercialize potential product candidates is long, complex and costly. Unless and until we receive approval from the FDA and/or other foreign regulatory authorities for our product candidates, we cannot sell our products and will not have product revenues. Even if we obtain regulatory approval for one or more of our product candidates, if we are unable to successfully commercialize our products, we may not be able to generate sufficient revenues to achieve or maintain profitability or to continue our business without raising significant additional capital, which may not be available. Our failure to achieve or maintain profitability could negatively impact the trading price of our common stock. Our operating history makes it difficult to evaluate our business and prospects. We have not previously completed any pivotal clinical trials, submitted a BLA or demonstrated an ability to perform the functions necessary for the successful commercialization of any product candidates. The successful commercialization of any product candidates will require us to perform a variety of functions, includin • Continuing to undertake preclinical development and clinical trials; • Participating in regulatory approval processes; • Formulating and manufacturing products; and • Conducting sales and marketing activities. Our operations have been limited to organizing and staffing our company, acquiring, developing and securing our proprietary product candidates and undertaking preclinical and clinical trials of our product candidates. These operations provide a limited basis for you to assess our ability to commercialize our product candidates and the advisability of investing in our securities. We may not be successful in establishing development and commercialization collaborations, which failure could adversely affect, and potentially prohibit, our ability to develop our product candidates. Developing biopharmaceutical products and complementary technologies, conducting clinical trials, obtaining marketing approval, establishing manufacturing capabilities and marketing approved products is expensive, and therefore, we anticipate exploring collaborations with third parties that have alternative technologies, more resources and more experience than we do. In situations where we enter into a development and commercial collaboration arrangement for a product candidate or complementary technology, we may also seek to establish additional collaborations for development and commercialization in territories outside of those addressed by the first collaboration arrangement for such product candidate or technology. There are a limited number of potential partners, and we expect to face competition in seeking appropriate partners. If we are unable to enter into any development and commercial collaborations and/or sales and marketing arrangements on reasonable and acceptable terms, if at all, we may be unable to successfully develop and seek regulatory approval for our product candidates and/or effectively market and sell future approved products, if any, in some or all of the territories outside of the United States where it may otherwise be valuable to do so. We may not be able to successfully manage our growth as we expand our development and regulatory capabilities, which could disrupt our operations. As we advance our product candidates to the point of, and through, clinical trials, we will need to expand our development, regulatory, manufacturing, marketing and sales capabilities or contract with third parties to provide for these capabilities. Our future financial performance and our ability to commercialize our product candidates and to compete effectively will depend, in part, on our ability to manage any future growth effectively. To manage this growth, we must expand our facilities, augment our operational, financial and management systems and hire and train additional qualified personnel with expertise in preclinical and clinical research and testing, manufacturing, government regulation and eventually sales and marketing. Competition for qualified individuals is intense among numerous biopharmaceutical companies, universities, and other research institutions and we cannot be certain that our search will be successful. If we are unable to manage our growth effectively, including attracting and retaining qualified personnel, our business may be harmed. 35 Restructuring activities could disrupt our business and effect our results of operations. In addition, we may not achieve anticipated benefits and saving from such restructuring activities . In September 2021, we announced a restructuring enabling us to focus on and enhance our TCR program. We eliminated approximately 60 positions, representing more than 50% of our workforce. The restructuring resulted in the loss of institutional knowledge and expertise and the reallocation of and combination of certain roles and responsibilities across the organization, all of which could adversely affect our operations. Further, the restructuring and possible additional cost-containment measures may yield unintended consequences, such as attrition beyond our intended workforce reduction and reduced employee morale. In addition, we may not achieve anticipated benefits from the restructuring. Due to our limited resources, we may not be able to effectively manage our operations or retain qualified personnel, which may result in weaknesses to our infrastructure and operations, risks that we may be unable to comply with legal and regulatory requirements, and loss of employees and reduced productivity among remaining employees. For example, the workforce reduction may negatively impact our clinical, manufacturing and regulatory functions, which would have a negative impact on our ability to successfully develop and, ultimately, commercialize our product candidates. If our management is unable to successfully manage this transition and restructuring activities, our expenses may be more than expected and we may be unable to implement our business strategy. As a result, our future financial performance and our ability to commercialize our product candidates successfully would be negatively affected. Our business will subject us to the risk of liability claims associated with the use of hazardous materials and chemicals. Our contract research and development activities may involve the controlled use of hazardous materials and chemicals. Although we believe that our safety procedures for using, storing, handling and disposing of these materials comply with federal, state and local laws and regulations, we cannot completely eliminate the risk of accidental injury or contamination from these materials. In the event of such an accident, we could be held liable for any resulting damages, and any liability could have a materially adverse effect on our business, financial condition, and results of operations. In addition, the federal, state and local laws and regulations governing the use, manufacture, storage, handling and disposal of hazardous or radioactive materials and waste products may require our contractors to incur substantial compliance costs that could materially adversely affect our business, financial condition and results of operations. We may incur substantial liabilities and may be required to limit commercialization of our products in response to product liability lawsuits. The testing and marketing of medical products entail an inherent risk of product liability, and we will face an even greater risk if we commercially sell any medicines that we may develop. If we cannot successfully defend ourselves against product liability claims, we may incur substantial liabilities or be required to limit commercialization of our products, if approved. Even a successful defense would require significant financial and management resources. Regardless of the merit or eventual outcome, liability claims may result in: • Decreased demand for our product candidates; • Injury to our reputation; • Withdrawal of clinical trial participants; • Initiation of investigations by regulators; • Withdrawal of prior governmental approvals; • Costs of related litigation; • Substantial monetary awards to patients; • Product recalls; • Loss of revenue; • The inability to commercialize our product candidates; and • A decline in our share price. 36 Although we currently carry clinical trial insurance and product liability insurance which we believe to be reasonable, it may not be adequate to cover all liability that we may incur. An inability to renew our policies or to obtain sufficient insurance at an acceptable cost could prevent or inhibit the commercialization of pharmaceutical products that we develop, alone or with collaborators. Business disruptions could seriously harm our future revenue and financial condition and increase our costs and expenses. Our operations, and those of our clinical investigators, contractors and consultants, are based primarily in Houston, Texas. These operations could be subject to power shortages, telecommunications failures, water shortages, hurricanes, floods, earthquakes, fires, extreme weather conditions, medical epidemics and other natural or man-made disasters or business interruptions, for which we maintain customary insurance policies that we believe are appropriate. The occurrence of any of these business disruptions could seriously harm our operations and financial condition and increase our costs and expenses. Our ability to manufacture clinical supplies of our product candidates could be disrupted if our own operations or those of our suppliers are affected by a man-made or natural disaster or other business interruption. We may have limited recourse against third parties if the non-compliance is due to factors outside of the manufacturer’s control. We may be unable to find appropriate partners to continue the development of the product candidates we de-prioritized in 2021 which may prevent us from ever deriving meaningful revenue from them. In 2021, we elected to prioritize our Library TCR-T program and significantly reduced our activities in connection with our Controlled IL-12 and CAR-T programs to preserve our capital resources. The decision to significantly reduce activities for our Controlled IL-12 and CAR-T programs may negatively impact the potential for these programs, which could have a material adverse effect on our business. We are actively exploring partnership opportunities for our Controlled IL-12 and CAR-T programs to support their continued development. If we are unable to identify an appropriate strategic partner or to negotiate and consummate a license or sale agreement with such a partner, it will be difficult to advance the development of these two programs, increasing the likelihood that we may be unable to derive any meaningful revenue from these assets. We have also mutually agreed with TriArm Therapeutics Ltd., or TriArm, to dissolve the Eden BioCell joint venture. Our business, operations and clinical development plans and timelines could be adversely affected by the effects of health epidemics, including the COVID-19 pandemic, on the manufacturing, clinical trial and other business activities performed by us or by third parties with whom we conduct business, including our contract manufacturers, CROs, shippers and others. Our business could be adversely affected by health epidemics wherever we have clinical trial sites or other business operations. In addition, health epidemics could cause significant disruption in our manufacturing operations or the operations of third-party manufacturers, CROs and other third parties upon whom we rely or may rely on in the future. We depend on a worldwide supply chain to manufacture products used in our preclinical studies and clinical trials. Quarantines, shelter-in-place and similar government orders, or the expectation that such orders, shutdowns or other restrictions could occur, whether related to COVID-19 or other infectious diseases, could impact personnel at our own manufacturing facilities or third-party manufacturing facilities in the United States and other countries, or the availability or cost of materials, which could disrupt our supply chain. If our relationships with our suppliers or other vendors are terminated or scaled back as a result of the COVID-19 pandemic or other health epidemics, we may not be able to enter into arrangements with alternative suppliers or vendors or do so on commercially reasonable terms or in a timely manner. Switching or adding additional suppliers or vendors involves substantial cost and requires management’s time and focus. In addition, there is a natural transition period when a new supplier or vendor commences work. As a result, delays may occur, which could adversely impact our ability to meet our desired clinical development and any future commercialization timelines. Although we carefully manage our relationships with our suppliers and vendors, there can be no assurance that we will not encounter challenges or delays in the future or that these delays or challenges will not harm our business. 37 In addition, our preclinical studies and our ongoing TCR-T Library Phase 1/2 Trial at MD Anderson have been and may continue to be affected by the COVID-19 pandemic. Clinical site initiation, patient enrollment and activities that require visits to clinical sites, including data monitoring, have been and may continue to be delayed due to prioritization of hospital resources toward the COVID-19 pandemic or concerns among patients about participating in clinical trials during a pandemic. Some patients may have difficulty following certain aspects of clinical trial protocols if quarantines impede patient movement or interrupt healthcare services. Similarly, if we are unable to successfully recruit and retain patients, principal investigators, and site staff who, as healthcare providers, may have heightened exposure to COVID-19 or experience additional restrictions by their institutions, city, or state, our clinical trial operations could be adversely impacted. The global COVID-19 pandemic continues to evolve rapidly. The ultimate impact of the COVID-19 pandemic or a similar epidemic is highly uncertain and subject to change. We may experience a material impact on our operations, and we continue to monitor the COVID-19 situation closely. RISKS RELATED TO THE CLINICAL TESTING, GOVERNMENT REGULATION AND MANUFACTURING OF OUR PRODUCT CANDIDATES If we encounter difficulties enrolling patients in our clinical trials, our clinical development activities could be delayed or otherwise adversely affected. We may experience difficulties in patient enrollment in our clinical trials, including our ongoing TCR-T Library Phase 1/2 Trial, for a variety of reasons, including impacts that have resulted or may result from the COVID-19 pandemic. The timely completion of clinical trials in accordance with their protocols depends on, among other things, our ability to enroll a sufficient number of patients who remain in the clinical trial until its conclusion. The enrollment of patients depends on many factors, includin • The patient eligibility criteria defined in the clinical trial protocol; • The size of the patient population required for analysis of the clinical trial’s primary endpoints; • The proximity of patients to clinical trial sites; • The design of the clinical trial; • Our ability to recruit and retain clinical trial investigators with the appropriate competencies and experience; • Our ability to obtain and maintain patient consents; • Reporting of the preliminary results of any of our clinical trials; and • The risk that patients enrolled in clinical trials will drop out of the clinical trials before the manufacturing and infusion of our product candidates or clinical trial completion. Our clinical trials will compete with other clinical trials for product candidates that are in the same therapeutic areas as our product candidates, and this competition will reduce the number and types of patients available to us because some of our potential patients may instead opt to enroll in a clinical trial being conducted by one of our competitors. In addition, patients may be unwilling to participate in our studies because of negative publicity from adverse events in the biotechnology industry or for other reasons. Since the number of qualified clinical investigators is limited, we expect to conduct some of our clinical trials at the same clinical trial sites that some of our competitors use, which will reduce the number of patients who are available for our clinical trials at such clinical trial sites. Moreover, because our product candidates represent a departure from more commonly used methods for cancer treatment, potential patients and their doctors may be inclined to use conventional therapies, such as chemotherapy and hematopoietic stem cell transplantation, rather than enroll patients in any future clinical trial. Additionally, because some of our clinical trials are in patients with relapsed/refractory cancer, the patients are typically in the late stages of their disease and may experience disease progression independent from our product candidates, making them unevaluable for purposes of the clinical trial and requiring additional patient enrollment. Delays in completing patient enrollment may result in increased costs or may affect the timing or outcome of our ongoing and planned clinical trials, which could prevent completion or commencement of these clinical trials and adversely affect our ability to advance the development of our product candidates. 38 Our product candidates are subject to extensive regulation and compliance, which is costly and time consuming, and such regulation may cause unanticipated delays or prevent the receipt of the required approvals to commercialize our product candidates. The clinical development, manufacturing, labeling, packaging, storage, record-keeping, advertising, promotion, import, export, marketing, distribution and adverse event reporting, including the submission of safety and other information, of our product candidates are subject to extensive regulation by the FDA in the United States and by comparable foreign regulatory authorities in foreign markets. The process of obtaining regulatory approval is expensive, often takes many years following the commencement of clinical trials. Approval policies or regulations may change, and the FDA has substantial discretion in the drug approval process, including the ability to delay, limit or deny approval of a product candidate for many reasons. Regulatory approval is never guaranteed. Prior to obtaining approval to commercialize a product candidate in the United States or abroad, we or our collaborators must demonstrate with substantial evidence from adequate and well-controlled clinical trials, and to the satisfaction of the FDA or comparable foreign regulatory authorities, that such product candidates are safe and effective, or with respect to a biological product candidate, safe, pure and potent, for their intended uses. The FDA or comparable foreign regulatory authorities can delay, limit or deny approval of a product candidate for many reasons, includin • Such authorities may disagree with the design or implementation of our or our current or future collaborators’ clinical trials; • Negative or ambiguous results from our clinical trials or results may not meet the level of statistical significance required by the FDA or comparable foreign regulatory agencies for approval; • Serious and unexpected drug-related side effects may be experienced by participants in our clinical trials or by individuals using drugs or biologics similar to our therapeutic product candidates; • Such authorities may not accept clinical data from trials which are conducted at clinical facilities or in countries where the standard of care is potentially different from that of the United States; • We, or any of our current or future collaborators, may be unable to demonstrate that a product candidate is safe and effective, and that the therapeutic product candidate’s clinical and other benefits outweigh its safety risks; • We may be unable to demonstrate to the satisfaction of such authorities that our companion diagnostics are suitable to identify appropriate patient populations; • Such authorities may disagree with our interpretation of data from preclinical studies or clinical trials; • Such authorities may not agree that the data collected from clinical trials of our product candidates are acceptable or sufficient to support the submission of a BLA, NDA, premarket approval, or PMA, or other submission or to obtain regulatory approval in the United States or elsewhere, and such authorities may impose requirements for additional preclinical studies or clinical trials; • Such authorities may disagree regarding the formulation, labeling and/or the specifications of our product candidates; • Approval may be granted only for indications that are significantly more limited than what we apply for and/or with other significant restrictions on distribution and use; • Such authorities may find deficiencies in the manufacturing processes, test procedures and specifications or facilities of our third-party manufacturers with which we or any of our current or future collaborators contract for clinical and commercial supplies; • Regulations and approval policies of such authorities may significantly change in a manner rendering our or any of our potential future collaborators’ clinical data insufficient for approval; or • Such authorities may not accept a submission due to, among other reasons, the content or formatting of the submission. 39 This lengthy approval process, as well as the unpredictability of the results of clinical trials, may result in our failing to obtain regulatory approval to market any of our product candidates, which would significantly harm our business, results of operations and prospects. In addition, even if we obtain approval of our product candidates, regulatory authorities may approve any of our product candidates for fewer or more limited indications than we request, may impose significant limitations in the form of narrow indications, warnings, or a Risk Evaluation and Mitigation Strategy, or REMS. Events raising questions about the safety of certain marketed biopharmaceuticals may result in increased cautiousness by the FDA and comparable foreign regulatory authorities in reviewing new drugs or biologics based on safety, efficacy or other regulatory considerations and may result in significant delays in obtaining regulatory approvals. Any delay in obtaining, or inability to obtain, applicable regulatory approvals would prevent us or any of our potential future collaborators from commercializing our product candidates. We are very early in our development efforts. Our most advanced product candidates are only in an early-stage clinical trial, which is very expensive and time-consuming. We cannot be certain when we will be able to submit a BLA to the FDA and any failure or delay in completing clinical trials for our product candidates could harm our business. Our product candidates are in various stages of development and require extensive clinical testing. Our most advanced product candidates are in our TCR-T Library Phase 1/2 Trial, which is currently enrolling patients. Human clinical trials are very expensive and difficult to design, initiate and implement, in part because they are subject to rigorous regulatory requirements. Notwithstanding our current clinical trial plans for each of our existing product candidates, which we estimate will take several years to complete, we may not be able to commence additional trials or see results from these trials within our anticipated timelines. Failure can occur at any stage of a clinical trial, and we can encounter problems that cause us to delay the start of, abandon or repeat clinical trials. Some factors which may lead to a delay in the commencement or completion of our clinical trials inclu requests for additional nonclinical data from regulators, unforeseen safety issues, dosing issues, lack of effectiveness during clinical trials, difficulty recruiting or monitoring patients, difficulty manufacturing clinical products, among other factors. As they enter later stages of development, our product candidates generally will become subject to more stringent regulatory requirements, including the FDA’s requirements for chemistry, manufacturing and controls for product candidates entering Phase 3 clinical trials. There is no guarantee the FDA will allow us to commence Phase 3 clinical trials for product candidates studied in earlier clinical trials. If the FDA does not allow our product candidates to enter later stage clinical trials or requires changes to the formulation or manufacture of our product candidates before commencing Phase 3 clinical trials, our ability to further develop, or seek approval for, such product candidates may be materially impacted. As such, we cannot predict with any certainty if or when we might submit a BLA for regulatory approval of our product candidates or whether such a BLA will be accepted. Because we do not anticipate generating revenues unless and until we submit one or more BLAs and thereafter obtain requisite FDA approvals, the timing of our BLA submissions and FDA determinations regarding approval thereof will directly affect if and when we are able to generate revenues. Our product candidates may cause undesirable side effects or have other properties that could delay or prevent their regulatory approval, limit the commercial profile of an approved label or result in significant negative consequences following any potential marketing approval. As with many pharmaceutical and biological products, treatment with our product candidates may produce undesirable side effects or adverse reactions or events, including potential adverse side effects related to cytokine release. If our product candidates or similar products or product candidates under development by third parties demonstrate unacceptable adverse events, we may be required to halt or delay further clinical development of our product candidates. The FDA or other foreign regulatory authorities could order us to cease further development of or deny approval of our product candidates for any or all targeted indications. If a serious adverse event was to occur in our TCR-T Library Phase 1/2 Trial, the FDA may place a hold on the clinical trial. The product-related side effects could affect patient recruitment or the ability of enrolled patients to complete the trial or result in potential product liability claims. In addition, these side effects may not be appropriately or timely recognized or managed by the treating medical staff, particularly outside of the institutions that collaborate with us, as toxicities resulting from our novel technologies may not be normally encountered in the general patient population and by medical personnel. We expect to have to train medical personnel using our product candidates to understand their side effect profiles, both for our planned clinical trials and upon any commercialization of any product candidates. Inadequate training in recognizing or managing the potential side effects of our 40 product candidates could result in adverse effects to patients, including death. Additionally, if one or more of our product candidates receives marketing approval, and we or others later identify undesirable side effects caused by such products, including during any long-term follow-up observation period recommended or required for patients who receive treatment using our products candidates, a number of potentially significant negative consequences could result, includin • regulatory authorities may withdraw approvals of such product; • regulatory authorities may require additional warnings on the product’s label; • we may be required to create a risk evaluation and mitigation strategy plan, which could include a medication guide outlining the risks of such side effects for distribution to patients, a communication plan for healthcare providers and/or other elements to assure safe use; • we could be sued and held liable for harm caused to patients; and • our reputation may suffer. Any of the foregoing could prevent us from achieving or maintaining market acceptance of the particular product candidate, if approved. Furthermore, any of these occurrences may harm our business, financial condition and prospects significantly. Our cell-based therapy immuno-oncology product candidates rely on the availability of reagents, specialized equipment and other specialty materials and infrastructure, which may not be available to us on acceptable terms or at all. For some of these reagents, equipment and materials, we rely or may rely on sole source vendors or a limited number of vendors, which could impair our ability to manufacture and supply our products. Manufacturing our product candidates will require many reagents, which are substances used in our manufacturing processes to bring about chemical or biological reactions, and other specialty materials and equipment, some of which are manufactured or supplied by small companies with limited resources and experience to support commercial biologics production. We currently depend on a limited number of vendors for certain materials and equipment used in the manufacture of our product candidates, including the DNA plasmids used, which are used as the vector to insert our TCRs into human T cells. Some of these suppliers may not have the capacity to support commercial products manufactured under current good manufacturing practices by biopharmaceutical firms or may otherwise be ill-equipped to support our needs. We also do not have supply contracts with many of these suppliers and may not be able to obtain supply contracts with them on acceptable terms or at all. Accordingly, we may experience delays in receiving key materials and equipment to support clinical or commercial manufacturing. For some of these reagents, equipment, infrastructure, and materials, we rely and may in the future rely on sole source vendors or a limited number of vendors. An inability to continue to source product from any of these suppliers, which could be due to regulatory actions or requirements affecting the supplier, adverse financial or other strategic developments experienced by a supplier, labor disputes or shortages, unexpected demands, or quality issues, could adversely affect our ability to satisfy demand for our product candidates, which could adversely and materially affect our product sales and operating results or our ability to conduct clinical trials, either of which could significantly harm our business. In addition, some of the reagents and products used by us, including in our clinical trials, may be stored at a single vendor. The loss of materials located at a single vendor, or the failure of such a vendor to manufacture clinical product in accordance with our specifications, would impact our ability to conduct ongoing or planned clinical trials and continue the development of our products. Further, manufacturing replacement material may be expensive and require a significant amount of time, which may further impact our clinical programs. As we continue to develop and scale our manufacturing process, we expect that we will need to obtain additional rights to and supplies of certain materials and equipment to be used as part of that process. We may not be able to maintain rights to such materials on commercially reasonable terms, or at all, and if we are unable to alter our process in a commercially viable manner to avoid the use of such materials or find a suitable substitute, it would have a material adverse effect on our business. Even if we are able to alter our process so as to use other materials or equipment, such a change may lead to a delay in our clinical development and/or commercialization plans. If such a change occurs for a product candidate that is already in clinical trials, the change may require us to perform both ex vivo comparability studies and to collect additional data from patients prior to undertaking more advanced clinical trials. 41 Because we are dependent, at least in part, upon clinical research institutions and other CROs for clinical testing and/or for research and development activities, the results of our clinical trials and such research activities are, to a certain extent, beyond our control. We materially rely upon independent investigators and collaborators, such as universities and medical institutions, to conduct our clinical trials under agreements with us. In addition, we hire CROs to help us manage clinical trials, collect data and analyze clinical samples. These collaborators are not our employees, and we cannot control the amount or timing of resources that they devote to our programs. These investigators may not assign as great a priority to our programs or pursue them as diligently as we would if we were undertaking such programs ourselves. If outside collaborators fail to devote sufficient time and resources to our product development programs, or if their performance is substandard, the approval of our FDA applications, if any, and our introduction of new products, if any, will be delayed. These institutions may also have, or implement in the future, policies and procedures that limit their ability to advance our programs. These collaborators may also have relationships with other commercial entities, some of whom may compete with us. If our collaborators assist our competitors to our detriment, our competitive position would be harmed. We have limited experience producing and supplying our product candidates. We may be unable to consistently manufacture our product candidates to the necessary specifications or in quantities necessary to treat patients in our clinical trials. We have limited experience in biopharmaceutical manufacturing. We recently began manufacturing our product candidates at our in-house cGMP manufacturing facility at our leased headquarters in Houston, Texas. Our ability to manufacture our product candidates depends on our finding and retaining personnel with the appropriate background and training to staff and operate the facility on a daily basis. Should we be unable to find or retain these individuals, we may need to train additional personnel to fill the needed roles or engage with external contractors. There are a small number of individuals with experience in cell therapy and the competition for these individuals is high. Specifically, the operation of a cell-therapy manufacturing facility is a complex endeavor requiring knowledgeable individuals who have successful previous experience in cleanroom environments. Cell therapy facilities, like other biological agent manufacturing facilities, require appropriate commissioning and validation activities to demonstrate that they operate as designed. Additionally, each manufacturing process must be proven through the performance of process validation runs to guarantee that the facility, personnel, equipment, and process work as designed. While we have developed our own manufacturing processes using an in-house team, there is timing risk associated with increased in-house product manufacture. The manufacture of our product candidates is complex and requires significant expertise and capital investment, including the development of advanced manufacturing techniques and process controls. Manufacturers of cell therapy products often encounter difficulties in production, particularly in scaling out and validating initial production and ensuring the absence of contamination. These include difficulties with production costs and yields, quality control, including stability of the product, quality assurance testing, operator error, shortages of qualified personnel, as well as compliance with strictly enforced federal, state and foreign regulations. Furthermore, if contaminants are discovered in our supply of product candidates or in our manufacturing facilities, the manufacturing facilities may need to be closed for an extended period to investigate and remedy the contamination. It is possible that stability or other issues relating to the manufacture of our product candidates could occur in the future. Our product candidates currently are and will continue to be manufactured on a patient-by-patient basis. Delays in manufacturing could adversely impact the treatment of each patient and may discourage participation in our current or future clinical trials. We have not yet manufactured our clinical trial product candidates on a large scale and may not be able to achieve large scale clinical trial or commercial manufacturing and processing on our own to satisfy expected clinical trial or commercial demands for any of our product candidates. While we believe that our current manufacturing and processing approaches are appropriate to support our early-stage clinical product development, we have limited experience in managing the T cell engineering process, and our processes may be more difficult or more expensive than anticipated. The manufacturing processes employed by us may not result in product candidates that will be safe and effective. If we are unable to manufacture sufficient number of TCR-T cells for our product candidates, our development efforts would be delayed, which would adversely affect our business and prospects. Our manufacturing operations will be subject to review and oversight by the FDA upon commencement of the manufacturing of our product candidates for our TCR-T Library Phase 1/2 Trial. We will be subject to ongoing periodic unannounced inspection by the FDA, the Drug Enforcement Administration and corresponding state agencies to ensure strict compliance with current good manufacturing practices, or cGMP, and other government regulations. Our license to manufacture product candidates will be subject to continued regulatory review. 42 We do not yet have sufficient information to reliably estimate the cost of commercial manufacturing and processing of our product candidates. The actual cost to manufacture and process our product candidates could materially and adversely affect the commercial viability of our product candidates. As a result, we may never be able to develop a commercially viable product. We also may fail to manage the logistics of collecting and shipping patient material to our manufacturing site and shipping the product candidate back to the patient. Logistical and shipment delays and problems, whether or not caused by us or our vendors, could prevent or delay the delivery of product candidates to patients. In addition, it is possible that we could experience manufacturing difficulties in the future due to resource constraints or because of labor disputes. If we were to encounter any of these difficulties, our ability to provide our product candidates to patients could be materially adversely affected. We may have difficulty validating our manufacturing process as we manufacture our product candidates from an increasingly diverse patient population for our clinical trials. During our development of the manufacturing process, our TCR-T cell product candidates have demonstrated consistency from lot to lot and from donor to donor. However, our sample size is small and the starting material used during our development work came from healthy donors. Once we have experience with working with white blood cells taken from our patient population, we may encounter unforeseen difficulties due to starting with material from donors who are not healthy, including challenges inherent in harvesting white blood cells from unhealthy patients. Although we believe our current manufacturing process is scalable for our clinical trials, and if our any of our product candidates are approved or commercialized, we may encounter challenges in validating our process due to the heterogeneity of the product starting material. However, we anticipate that during the early phases of our clinical trials we will be able to adapt our process to account for these differences resulting in a more robust process. We cannot guarantee that any other issues relating to the heterogeneity of the starting material will not impact our ability to commercially manufacturing our product candidates. The gene transfer vectors from our Sleeping Beauty system used to manufacture our product candidates may incorrectly modify the genetic material of a patient’s T cells, potentially triggering the development of a new cancer or other adverse events. Our TCR-T cells are manufactured using our Sleeping Beauty system, a non-viral vector to insert genetic information encoding the TCR construct into the patient’s T cells. The TCR construct is then primarily integrated at thymine-adenine, or TA, dinucleotide sites throughout the patient’s genome and, once expressed as protein, is transported to the surface of the patient’s T cells. Because the gene transfer vector modifies the genetic information of the T cell, there is a theoretical risk that modification will occur in the wrong place in the T cell’s genetic code, leading to vector-related insertional oncogenesis, and causing the T cell to become cancerous. If the cancerous T cell is then administered to the patient, the cancerous T cell could trigger the development of a new cancer in the patient. We use non-viral vectors to insert genetic information into T cells, which we believe have a lower risk of insertional oncogenesis as opposed to viral vectors. However, the risk of insertional oncogenesis remains a concern for gene therapy, and we cannot assure that it will not occur in any of our ongoing or planned clinical trials. There is also the potential risk of delayed adverse events following exposure to gene therapy products due to persistent biological activity of the genetic material or other components of the vectors used to carry the genetic material. Although we use non-viral vectors, the FDA has stated that lentiviral vectors possess characteristics that may pose high risks of delayed adverse events. If any such adverse events occur from our non-viral vector, further advancement of our preclinical studies or clinical trials could be halted or delayed, which would have a material adverse effect on our business and operations. Any product candidate for which we obtain marketing approval could be subject to post-marketing restrictions or withdrawal from the market and we may be subject to penalties if we fail to comply with regulatory requirements or if we experience unanticipated problems with our products, when and if any of them are approved. Any product candidate for which we obtain marketing approval, along with the manufacturing processes, post-approval clinical data, labeling, advertising and promotional activities for such product, will be subject to continual requirements of and review by the FDA and other regulatory authorities. These requirements include, among other things, submissions of safety and other post-marketing information and reports, registration and listing requirements, cGMP requirements relating to manufacturing, quality control, quality assurance and corresponding maintenance of records and documents, requirements regarding the distribution of samples to physicians and recordkeeping. Even if marketing approval of a product candidate is granted, the approval may be subject to limitations on the indicated uses for which the product may be marketed or to the conditions of approval, including the requirement to implement a 43 REMS, which could include requirements for a restricted distribution system. If any of our product candidates receives marketing approval, the accompanying label may limit the approved uses, which could limit sales of the product. The FDA may also impose requirements for costly post-marketing studies or clinical trials and surveillance to monitor the safety or efficacy of our approved products. The FDA closely regulates the post-approval marketing and promotion of products to ensure that they are marketed only for the approved indications and in accordance with the provisions of the approved labeling. However, companies may share truthful and not misleading information that is otherwise consistent with the labeling. The FDA imposes stringent restrictions on manufacturers’ communications regarding off-label use and if we market our products outside of their approved indications, we may be subject to enforcement action for off-label marketing. Violations of the Federal Food, Drug and Cosmetic Act relating to the promotion of prescription drugs may lead to investigations alleging violations of federal and state health care fraud and abuse laws, as well as state consumer protection laws. In addition, later discovery of previously unknown adverse events or other problems with our products, manufacturers or manufacturing processes, or failure to comply with regulatory requirements, may yield various results, includin • Litigation involving patients taking our product; • Restrictions on such products, manufacturers or manufacturing processes; • Restrictions on the labeling or marketing of a product; • Restrictions on product distribution or use; • Requirements to conduct post-marketing studies or clinical trials; • Warning letters; • Withdrawal of the products from the market; • Refusal to approve pending applications or supplements to approved applications that we submit; • Recall of products; • Fines, restitution or disgorgement of profits or revenues; • Suspension or withdrawal of marketing approvals; • Damage to relationships with existing and potential collaborators; • Unfavorable press coverage and damage to our reputation; • Refusal to permit the import or export of our products; • Product seizure; and • Injunctions or the imposition of civil or criminal penalties. Noncompliance with requirements regarding safety monitoring or pharmacovigilance can also result in significant financial penalties. Similarly, failure to comply with U.S. and foreign regulatory requirements regarding the development of products for pediatric populations and the protection of personal health information can also lead to significant penalties and sanctions. RISKS RELATED TO OUR ABILITY TO COMMERCIALIZE OUR PRODUCT CANDIDATES If we are unable to obtain the necessary U.S. or worldwide regulatory approvals to commercialize any product candidate, our business will suffer. We may not be able to obtain the approvals necessary to commercialize our product candidates, or any product candidate that we may acquire or develop in the future for commercial sale. We will need FDA approval to commercialize our product candidates in the United States and approvals from regulatory authorities in foreign jurisdictions equivalent to the FDA to commercialize our product candidates in those jurisdictions. In order to obtain FDA approval of any product candidate, we must submit to the FDA a BLA demonstrating that the product candidate is safe for humans and effective for its intended use. This demonstration requires significant research and animal tests, which are referred to as preclinical studies, as well as human tests, which are referred to as clinical trials. Satisfaction of the FDA’s regulatory requirements typically takes many years, depending upon the type, complexity and novelty of the 44 product candidate, and will require substantial resources for research, development and testing. We cannot predict whether our research, development, and clinical approaches will result in products that the FDA will consider safe for humans and effective for their intended uses. The FDA has substantial discretion in the approval process and may require us to conduct additional preclinical and clinical testing or to perform post-marketing studies. The approval process may also be delayed by changes in government regulation, future legislation or administrative action or changes in FDA policy that occur prior to or during our regulatory review. Delays in obtaining regulatory approvals may: • Delay commercialization of, and our ability to derive product revenues from, our product candidates; • Impose costly procedures on us; and • Diminish any competitive advantages that we may otherwise enjoy. Even if we comply with all FDA requests, the FDA may ultimately reject one or more of our BLAs. We cannot be sure that we will ever obtain regulatory approval for any of our product candidates. Failure to obtain FDA approval for our product candidates will severely undermine our business by leaving us without a marketable product, and therefore without any potential revenue source, until another product candidate can be developed. There is no guarantee that we will ever be able to develop or acquire another product candidate or that we will obtain FDA approval if we are able to do so. In foreign jurisdictions, we similarly must receive approval from applicable regulatory authorities before we can commercialize any of our product candidates. Foreign regulatory approval processes generally include all of the risks associated with the FDA approval procedures described above. If we are unable either to create sales, marketing and distribution capabilities or enter into agreements with third parties to perform these functions, we will be unable to commercialize our product candidates successfully. We currently have no marketing, sales, or distribution capabilities. If, and when we become reasonably certain that we will be able to commercialize our current or future product candidates, we anticipate allocating resources to the marketing, sales and distribution of our proposed products in North America and in certain other countries; however, we cannot assure that we will be able to market, sell, and distribute our products successfully. Our future success also may depend, in part, on our ability to enter into and maintain collaborative relationships for such capabilities and to encourage the collaborator’s strategic interest in the products under development, and such collaborator’s ability to successfully market and sell any such products. Although we intend to pursue certain collaborative arrangements regarding the sale and marketing of certain of our product candidates, there are no assurances that we will be able to establish or maintain collaborative arrangements or, if we are able to do so, whether we would be able to conduct our own sales efforts. There can also be no assurance that we will be able to establish or maintain relationships with third-party collaborators or develop in-house sales and distribution capabilities. To the extent that we depend on third parties for marketing and distribution, any revenues we receive will depend upon the efforts of such third parties, and there can be no assurance that such efforts will be successful. In addition, there can also be no assurance that we will be able to market and sell our product candidates in the United States or overseas. If we are not able to partner with a third party and are not successful in recruiting sales and marketing personnel or in building a sales and marketing infrastructure, we will have difficulty commercializing our product candidates, which would harm our business. If we rely on pharmaceutical or biotechnology companies with established distribution systems to market our products, we will need to establish and maintain partnership arrangements, and we may not be able to enter into these arrangements on acceptable terms or at all. To the extent that we enter into co-promotion or other arrangements, any revenues we receive will depend upon the efforts of third parties that may not be successful and that will be only partially in our control. If physicians and patients do not accept and use our product candidates, once approved, our ability to generate revenue from sales of our products will be materially impaired. Even if the FDA and/or foreign equivalents thereof approve our product candidates, physicians and patients may not accept and use them. The use of engineered T cells as potential cancer treatments is a relatively recent development and may not become broadly accepted by physicians, patients, hospitals, cancer treatment centers, third-party payors and others in the medical community. Acceptance and use of our products will depend upon a number of factors includin • The clinical indications for which our product candidates are approved; 45 • Perceptions by members of the healthcare community, including physicians, about the safety and effectiveness of our products; • The prevalence and severity of any side effects; • Pharmacological benefit and cost-effectiveness of our products relative to competing products; • Relative convenience and ease of administration, including as compared to alternative treatments and competitive therapies; • Availability of coverage and adequate reimbursement for our products from government or other third-party payors; • Effectiveness of marketing and distribution efforts by us and our licensees and distributors, if any; and • The price at which we sell our products. Because we expect sales of our current product candidates, if approved, to generate substantially all of our product revenues for the foreseeable future, the failure of a product to find market acceptance would harm our business and could require us to seek additional financing in order to fund the development of future product candidates. Even if our products achieve market acceptance, we may not be able to maintain that market acceptance over time if new products or technologies are introduced that are more favorably received than our products, are more cost effective or render our products obsolete. Our ability to generate product revenues will be diminished if our products do not obtain coverage and adequate reimbursement from payors. Our ability to commercialize our product candidates, if approved, alone or with collaborators, will depend in part on the extent to which coverage and reimbursement will be available from third-party payors, including government and health administration authorities, private health maintenance organizations and health insurers and other payors. Patients who are prescribed medicine for the treatment of their conditions generally rely on third-party payors to reimburse all or part of the costs associated with their prescription drugs. Sufficient coverage and adequate reimbursement from third-party payors are critical to new product acceptance. Coverage decisions may depend upon clinical and economic standards that disfavor new drug products when more established or lower cost therapeutic alternatives are already available or subsequently become available. It is difficult to predict the coverage and reimbursement decisions that will be made by third-party payors for novel gene and cell therapy products such as ours. Even if we obtain coverage for our product candidates, the resulting reimbursement payment rates might not be adequate or may require co-payments that patients find unacceptably high. Patients are unlikely to use our product candidates unless coverage is provided, and reimbursement is adequate to cover a significant portion of the cost of our product candidates. In addition, the market for our product candidates for which we may receive regulatory approval will depend significantly on access to third-party payors’ drug formularies or lists of medications for which third-party payors provide coverage and reimbursement, which might not include all of the FDA-approved drugs for a particular indication. The industry competition to be included in such formularies often leads to downward pricing pressures on pharmaceutical companies. Also, third-party payors may refuse to include a particular branded drug in their formularies or otherwise restrict patient access to a branded drug when a less costly generic equivalent or other alternative is available. Third-party payors, whether foreign or domestic, or governmental or commercial, are developing increasingly sophisticated methods of controlling healthcare costs. In addition, in the United States, no uniform policy of coverage and reimbursement for drug products exists among third-party payors. Therefore, coverage and reimbursement for drug products can differ significantly from payor to payor. As a result, the coverage determination process is often a time-consuming and costly process that requires us to provide scientific and clinical support for the use of our products to each payor separately, with no assurance that approval will be obtained. If we are unable to obtain coverage of and adequate payment levels for our product candidates from third-party payors, physicians may limit how much or under what circumstances they will prescribe or administer our products and patients may decline to purchase them. This in turn could affect our ability to successfully commercialize our products and impact our profitability, results of operations, financial condition, and future success. In addition, in many foreign countries, particularly the countries of the European Union, or EU, the pricing of prescription drugs is subject to government control. In some non-U.S. jurisdictions, the proposed pricing for a drug must be approved before it may be lawfully marketed. The requirements governing drug pricing vary widely from country to country. For example, the EU provides options for its member states to restrict the range of medicinal products for which their national health insurance systems provide reimbursement and to control the prices of medicinal products for human use. A member state may approve a specific price for the 46 medicinal product or it may instead adopt a system of direct or indirect controls on the profitability of the company placing the medicinal product on the market. We may face competition for our product candidates from lower-priced products in foreign countries that have placed price controls on pharmaceutical products. In addition, there may be importation of foreign products that compete with our own products, which could negatively impact our profitability. The market opportunities for our product candidates may be limited to those patients who are ineligible for or have failed prior treatments and may be small. Cancer therapies are sometimes characterized as first line, second line or third line, and the FDA often approves new therapies initially only for third line use. When cancer is detected early enough, first line therapy is sometimes adequate to cure the cancer or prolong life without a cure. Whenever first line therapy, usually chemotherapy, hormone therapy, surgery, or a combination of these, proves unsuccessful, second line therapy may be administered. Second line therapies often consist of more chemotherapy, radiation, antibody drugs, tumor targeted small molecules, or a combination of these. Third line therapies can include bone marrow transplantation, antibody and small molecule targeted therapies, more invasive forms of surgery and new technologies. We expect to initially seek approval of our product candidates as a third line therapy for patients who have failed other approved treatments. Subsequently, for those products that prove to be sufficiently beneficial, if any, we would expect to seek approval as a second line therapy and potentially as a first line therapy, but there is no guarantee that our product candidates, even if approved, would be approved for second line or first line therapy. In addition, we may have to conduct additional clinical trials prior to gaining approval for second line or first line therapy. Our projections of both the number of people who have the cancers we are targeting, as well as the subset of people with these cancers in a position to receive therapy and who have the potential to benefit from treatment with our product candidates, are based on our beliefs and estimates. These estimates have been derived from a variety of sources, including scientific literature, surveys of clinics, patient foundations or market research and may prove to be incorrect. Further, new studies may change the estimated incidence or prevalence of these cancers. The number of patients may turn out to be lower than expected. Additionally, the potentially addressable patient population for our product candidates may be limited or may not be amenable to treatment with our product candidates. Our market opportunities may also be limited by competitor treatments that may enter the market. Healthcare legislative reform measures may have a material adverse effect on our business and results of operations. In both the United States and certain foreign jurisdictions, there have been a number of legislative and regulatory enactments in recent years that change the healthcare system in ways that could impact our future ability to sell our product candidates profitably. Furthermore, there have been and continue to be a number of initiatives at the federal and state level that seek to reduce healthcare costs. Most significantly, in March 2010, President Obama signed into law the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act, or collectively the ACA, which included measures that have significantly changed the way healthcare is financed by both governmental and private insurers. Among the provisions of the ACA of importance to the pharmaceutical industry are the followin • Created an annual, nondeductible fee on any entity that manufactures or imports certain branded prescription drugs and biologic agents, apportioned among these entities according to their market share in certain government healthcare programs; • Increased the statutory minimum rebates a manufacturer must pay under the Medicaid Drug Rebate Program to 23.1% and 13% of the average manufacturer price for most branded and generic drugs, respectively; • Created a new Medicare Part D coverage gap discount program, in which manufacturers must now agree to offer 70% point-of-sale discounts off negotiated prices of applicable brand drugs to eligible beneficiaries during their coverage gap period, as a condition for the manufacturer’s outpatient drugs to be covered under Medicare Part D; • Extended manufacturers’ Medicaid rebate liability to covered drugs dispensed to individuals who are enrolled in Medicaid managed care organizations; • Created new methodologies by which rebates owed by manufacturers under the Medicaid Drug Rebate Program are calculated for drugs that are inhaled, infused, instilled, implanted or injected, and for drugs that are line extensions; 47 • Expanded eligibility criteria for Medicaid programs by, among other things, allowing states to offer Medicaid coverage to additional individuals with income at or below 133% of the Federal Poverty Level, thereby potentially increasing both the volume of sales and manufacturers’ Medicaid rebate liability; • Expanded the entities eligible for discounts under the Public Health Service pharmaceutical pricing program; • Created a new requirement to annually report drug samples that certain manufacturers and authorized distributors provide to physicians; • Expanded healthcare fraud and abuse laws, including the False Claims Act and the federal Anti-Kickback Statute, new government investigative powers, and enhanced penalties for noncompliance; • Created a licensure framework for follow-on biologic products; • Created new requirements under the federal Physician Payments Sunshine Act for certain drug manufacturers to annually report information related to payments and other transfers of value made to physicians, as defined by such law, and teaching hospitals as well as ownership or investment interests held by physicians and their immediate family members; • Created a Patient-Centered Outcomes Research Institute to oversee, identify priorities in, and conduct comparative clinical effectiveness research, along with funding for such research; and • Established a Center for Medicare & Medicaid Innovation at the Centers for Medicare & Medicaid Services, or CMS, to test innovative payment and service delivery models to lower Medicare and Medicaid spending, potentially including prescription drug spending. There have been executive, legal and political challenges to certain aspects of the ACA. For example, President Trump signed several executive orders and other directives designed to delay, circumvent or loosen certain requirements mandated by the ACA. Concurrently, Congress considered legislation to repeal or repeal and replace all or part of the ACA. While Congress has not passed comprehensive repeal legislation, several bills affecting the implementation of certain taxes under the ACA have been signed into law. In December 2017, Congress repealed the tax penalty, effective January 1, 2019, for an individual’s failure to maintain ACA-mandated health insurance as part of the Tax Cuts and Jobs Act of 2017, or the Tax Act. On June 17, 2021, the U.S. Supreme Court dismissed a challenge on procedural grounds that argued that ACA is unconstitutional in its entirety because the “individual mandate” was repealed by Congress. Thus, the ACA will remain in effect in its current form. Further, prior to the U.S. Supreme Court ruling on January 28, 2021, President Biden issued an executive order that initiated a special enrollment period for purposes of obtaining health care coverage through the ACA marketplace, which began on February 21, 2021 and remained open through August 15, 2021. The executive order also instructed certain governmental agencies to review and reconsider their existing policies and rules that limit access to healthcare, including among others, reexamining Medicaid demonstration projects and waiver programs that include work requirements, and policies that create unnecessary barriers to obtaining access to health insurance coverage through Medicaid or the ACA. It is possible that the ACA will be subject to judicial or Congressional challenges in the future. It is unclear how any such challenges and the healthcare reform measures of the Biden administration will impact ACA and our business. The ultimate content, timing or effect of any healthcare reform measures on the U.S. healthcare industry is unclear. Further, there has been increasing legislative and enforcement interest in the United States with respect to specialty drug pricing practices. As a result, there have been several U.S. Congressional inquiries and proposed and enacted federal and state legislation designed to, among other things, bring more transparency to drug pricing, review the relationship between pricing and manufacturer patient programs and reform government program reimbursement methodologies for drugs. At the federal level, the Trump administration used several means to propose or implement drug pricing reform, including through federal budget proposals, executive orders and policy initiatives. For example, on July 24, 2020 and September 13, 2020, the Trump administration announced several executive orders related to prescription drug pricing that attempt to implement several of the administration’s proposals. The FDA also released a final rule, effective November 30, 2020, implementing a portion of the importation executive order providing guidance for states to build and submit importation plans for drugs from Canada. Further, on November 20, 2020, the U.S. Department of Health and Human Services, or HHS, finalized a regulation removing safe harbor protection for price reductions from pharmaceutical manufacturers to plan sponsors under Medicare Part D, either directly or through pharmacy benefit managers, unless the price reduction is required by law. The implementation of the rule has been delayed by the Biden administration from January 1, 2022 to January 1, 2023 in response to ongoing litigation. The rule also creates a new safe harbor for price reductions reflected at the point-of-sale, as well as a new safe harbor for certain fixed fee arrangements between pharmacy benefit managers and manufacturers, 48 the implementation of which have also been delayed until January 2023. On November 20, 2020, CMS issued an interim final rule implementing President Trump’s Most Favored Nation, or MFN, executive order, which would tie Medicare Part B payments for certain physician-administered drugs to the lowest price paid in other economically advanced countries, effective January 1, 2021. As a result of litigation, challenging the MFN model on August 10, 2021, CMS published a proposed rule that seeks to rescind the MFN model interim rule. In addition, on March 11, 2021, President Biden signed the American Rescue Plan Act of 2021 into law, which eliminates the statutory Medicaid drug rebate price cap, currently set at 100% of a drug's average manufacturer price for single source and innovator multiple source products, beginning on January 1, 2024. Further, in July 2021, the Biden Administration released an executive order that included multiple provisions aimed at prescription drugs. In response to Biden's executive order, on September 9, 2021, HHS released a Comprehensive Plan for Addressing High Drug Prices that outlines principles for drug price reform. The plan sets out a variety of potential legislative policies that Congress could pursue as well as potential administrative actions by HHS. No legislative or administrative actions have been finalized to implement these principles. In addition, Congress is considering drug pricing as part of the budget reconciliation process. Individual states in the United States also have increasingly passed legislation and implemented regulations designed to control pharmaceutical product pricing, including price or patient reimbursement constraints, discounts, restrictions on certain product access and marketing cost disclosure and transparency measures, and, in some cases, designed to encourage importation from other countries and bulk purchasing. It is possible that additional governmental action is taken in response to the COVID-19 pandemic. We expect that healthcare reform measures that may be adopted in the future may result in more rigorous coverage criteria and in additional downward pressure on the price that we may receive for any approved product. Any reduction in reimbursement from Medicare or other government programs may result in a similar reduction in payments from private payors. The implementation of cost containment measures or other healthcare reforms may prevent us from being able to generate revenue, attain profitability or, if we receive regulatory approval, commercialize our products. If we fail to comply with federal and state healthcare laws, including fraud and abuse and health information privacy and security laws, we could face substantial penalties and our business, results of operations, financial condition and prospects could be adversely affected. As a pharmaceutical company, even though we do not and will not control referrals of healthcare services or bill directly to Medicare, Medicaid or other third-party payors, certain federal and state healthcare laws and regulations pertaining to fraud and abuse and patients’ rights are and will be applicable to our business. For example, we could be subject to healthcare fraud and abuse and patient privacy regulation by both the federal government and the states in which we conduct our business. The laws that may affect our ability to operate include, among othe • The federal Anti-Kickback Statute, which regulates our business activities, including our clinical research and relationships with healthcare providers or other entities as well as our future marketing practices, educational programs and pricing policies, and by prohibiting, among other things, soliciting, receiving, offering or paying remuneration, directly or indirectly, to induce, or in return for, either the referral of an individual or the purchase or recommendation of an item or service reimbursable under a federal healthcare program, such as the Medicare and Medicaid programs; • Federal civil and criminal false claims laws, including the False Claims Act, which permits a private individual acting as a “whistleblower” to bring actions on behalf of the federal government alleging violations of the False Claims Act, and civil monetary penalty laws, which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid or other third-party payors that are false or fraudulent; • The federal Health Insurance Portability and Accountability Act of 1996, or HIPAA, which created new federal civil and criminal statutes that prohibit, among other things, executing a scheme to defraud any healthcare benefit program or making false statements relating to healthcare matters; • The Health Information Technology for Economic and Clinical Health Act of 2009, or HITECH, and its implementing regulations, which impose certain requirements relating to the privacy, security and transmission of individually identifiable health information on entities and individuals subject to the law including certain healthcare providers, health plans, and healthcare clearinghouses, known as covered entities, as well as individuals and entities that perform services for them which involve the use, or disclosure of, individually identifiable health information, known as business associates and their subcontractors that use, disclose or otherwise process individually identifiable health information; • Requirements under the Physician Payments Sunshine Act to report annually to CMS certain financial arrangements with physicians (defined to include doctors, dentists, optometrists, podiatrists and chiropractors) and teaching hospitals, as defined in the ACA and its implementing regulations, including reporting any “transfer of value” made or distributed to teaching 49 hospitals, and physicians, as defined by such law and reporting any ownership and investment interests held by physicians and their immediate family members and applicable group purchasing organizations during the preceding calendar year, which will be expanded beginning in 2022, to require applicable manufacturers to report such information regarding its payments and other transfers of value made to physician assistants, nurse practitioners, clinical nurse specialists, anesthesiologist assistants, certified registered nurse anesthetists and certified nurse midwives during the previous year; and • State and foreign law equivalents of each of the above federal laws, such as anti-kickback and false claims laws which may apply to items or services reimbursed by any third-party payor, including commercial insurers; state laws that require pharmaceutical companies to comply with the industry’s voluntary compliance guidelines and the applicable compliance guidance promulgated by the federal government that otherwise restricts certain payments that may be made to healthcare providers and entities; state laws that require drug manufacturers to report information related to payments and other transfer of value to physicians and other healthcare providers and entities; state laws that require the reporting of information related to drug pricing; state and local laws that require the registration of pharmaceutical sales representatives; and state and foreign laws governing the privacy and security of health information in certain circumstances, many of which differ from each other in significant ways and often are not preempted by HIPAA, thus complicating compliance efforts. Because of the breadth of these laws and the narrowness of the statutory exceptions and safe harbors available, it is possible that some of our business activities, including our consulting agreements with physicians, some of whom receive stock or stock options as compensation for their services, could be subject to challenge under one or more of such laws. In addition, recent health care reform legislation has further strengthened these laws. For example, the ACA, among other things, amended the intent requirement of the federal Anti-Kickback Statute and certain criminal healthcare fraud statutes. A person or entity no longer needs to have actual knowledge of this statute or specific intent to violate it. Moreover, the ACA provides that the government may assert that a claim including items or services resulting from a violation of the federal Anti-Kickback Statute constitutes a false or fraudulent claim for purposes of the False Claims Act. To the extent that any of our product candidates is ultimately sold in a foreign country, we may be subject to similar foreign laws and regulations. Efforts to ensure that our business arrangements comply with applicable healthcare laws involve substantial costs. It is possible that governmental and enforcement authorities will conclude that our business practices do not comply with current or future statutes, regulations or case law interpreting applicable fraud and abuse or other healthcare laws and regulations. If any such actions are instituted against us, and we are not successful in defending ourselves or asserting our rights, we may be subject to significant penalties, including administrative, civil and criminal penalties, damages, fines, exclusion from participation in United States federal or state health care programs, such as Medicare and Medicaid, disgorgement, imprisonment, integrity oversight and reporting obligations, and the curtailment or restructuring of our operations any of which could materially adversely affect our ability to operate our business and our financial results. Although compliance programs can mitigate the risk of investigation and prosecution for violations of these laws, the risks cannot be entirely eliminated. Any action against us for violation of these laws, even if we successfully defend against it, could cause us to incur significant legal expenses and divert our management’s attention from the operation of our business. Moreover, achieving and sustaining compliance with applicable federal and state privacy, security and fraud laws may prove costly. Our immuno-oncology product candidates may face competition in the future from biosimilars and/or new technologies. The Biologics Price Competition and Innovation Act of 2009, or BPCIA, provides an abbreviated pathway for the approval of follow-on biological products. Under the BPCIA, an application for a biosimilar product cannot be approved by the FDA until 12 years after the original branded product was approved under a BLA. However, there is a risk that the U.S. Congress could amend the BPCIA to significantly shorten this exclusivity period, potentially creating the opportunity for generic competition sooner than anticipated. Further, this data exclusivity does not prevent another company from developing a product that is highly similar to the original branded product, generating its own data and seeking approval. Data exclusivity only assures that another company cannot rely upon the data within the innovator’s application to support the biosimilar product’s approval. We rely significantly on information technology and any failure, inadequacy, interruption or security lapse of that technology or loss of data, including any cyber security incidents, could compromise sensitive information related to our business, prevent us from accessing critical information or expose us to liability which could harm our ability to operate our business effectively and adversely affect our business and reputation. 50 In the ordinary course of our business, we, our contract research organizations and other third parties on which we rely collect and store sensitive data, including legally protected patient health information, personally identifiable information about our employees, intellectual property, and proprietary business information. We manage and maintain our applications and data utilizing on-site systems. These applications and data encompass a wide variety of business-critical information including research and development information and business and financial information. The secure processing, storage, maintenance and transmission of this critical information is vital to our operations and business strategy. Despite the implementation of security measures, our internal computer systems and those of third parties with which we contract are vulnerable to damage from cyber-attacks, computer viruses, breaches, unauthorized access, interruptions due to employee error or malfeasance or other disruptions, or damage from natural disasters, terrorism, war and telecommunication and electrical failures. In addition, due to the COVID-19 pandemic, we have enabled many of our employees to work remotely, which may make us more vulnerable to cyberattacks. Any such event could compromise our networks and the information stored there could be accessed by unauthorized parties, publicly disclosed, lost or stolen. Although we have measures in place that are designed to detect and respond to such security incidents and breaches of privacy and security mandates, we cannot guarantee that those measures will be successful in preventing any such security incident. Any such access, disclosure or other loss of information could result in legal claims or proceedings, liability under laws that protect the privacy of personal information, government enforcement actions and regulatory penalties. Unauthorized access, loss or dissemination could also disrupt our operations, including our ability to conduct research, development and commercialization activities, process and prepare Company financial information, manage various general and administrative aspects of our business and damage our reputation, in addition to possibly requiring substantial expenditures of resources to remedy, any of which could adversely affect our business. The loss of clinical trial data could result in delays in our regulatory approval efforts and significantly increase our costs to recover or reproduce the data. In addition, there can be no assurance that we will promptly detect any such disruption or security breach, if at all. If the technology supporting our hunTR discovery engine were to experience a cyber-incident resulting in the disclosure or theft of our proprietary screening software or library of TCRs, our business may be materially and negatively impacted. While we are not aware of any such material system failure, accident or security breach to date, to the extent that any disruption or security breach were to result in a loss of, or damage to, our data or applications, or inappropriate disclosure of confidential or proprietary information, we could incur liability and our research, development and commercialization efforts could be delayed. RISKS RELATED TO OUR INTELLECTUAL PROPERTY If we or our licensors fail to adequately protect or enforce our intellectual property rights or secure rights to patents of others, the value of our intellectual property rights would diminish and our ability to successfully commercialize our products may be impaired. Our success, competitive position, and future revenues will depend in part on our ability and the abilities of our licensors to obtain and maintain patent protection for our products, methods, processes and other technologies, to preserve confidential information, including trade secrets, to prevent third parties from infringing our proprietary rights, and to operate without infringing the proprietary rights of third parties. To date, we have exclusive rights in the field of cancer treatment to certain U.S. and foreign intellectual property with respect to certain cell therapy and related technologies from MD Anderson and NCI, as well as with respect to the PGEN technology, including Sleeping Beauty . Under the MD Anderson License, future patent applications require the agreement of each of MD Anderson, PGEN and us, and MD Anderson has the right to control the preparation, filing, and prosecution of such patent applications unless the parties agree that we or PGEN instead may control such activities. Although under the agreement MD Anderson has agreed to review and incorporate any reasonable comments that we or PGEN may have regarding licensed patents and patent applications, we cannot guarantee that our comments will be solicited or followed. Under the Patent License with the NCI for certain TCRs, the NCI is responsible for the preparation, filing, prosecution, and maintenance of patent applications and patents licensed to us. Although under the Patent License, the NCI is required to consult with us in the preparation, filing, prosecution, and maintenance of all its patent applications and patents licensed to us, we cannot guarantee that our comments will be solicited or followed. Under our License Agreement with PGEN, PGEN has the right, but not the obligation, to prepare, file, prosecute, and maintain the patents and patent applications licensed to us and shall bear all related costs incurred by it in regard to those actions. PGEN is required to consult with us and keep us reasonably informed of the status of the patents and patent applications licensed to us, and to confer with us prior to submitting any related filings and correspondence. Although under the License Agreement PGEN has agreed to consider in good faith 51 and consult with us regarding any comments we may have regarding these patents and patent applications, we cannot guarantee that our comments will be solicited or followed. Without direct control of the in-licensed patents and patent applications, we are dependent on MD Anderson, the NCI or PGEN, as applicable, to keep us advised of prosecution, particularly in foreign jurisdictions where prosecution information may not be publicly available. We anticipate that we, MD Anderson, the NCI and PGEN will file additional patent applications both in the United States and in other jurisdictions. However, we cannot predict or guarantee for either our in-licensed patent portfolios or for Alaunos’ patent portfoli • When, if at all, any patents will be granted on such applications; • The scope of protection that any patents, if obtained, will afford us against competitors; • That third parties will not find ways to invalidate and/or circumvent our patents, if obtained; • That others will not obtain patents claiming subject matter related to or relevant to our product candidates; or • That we will not need to initiate litigation and/or administrative proceedings that may be costly whether we win or lose. The patent prosecution process is expensive and time-consuming, and we may not be able to file and prosecute all necessary or desirable patent applications at a reasonable cost, in a timely manner or at all. It is also possible that we will fail to identify patentable aspects of our research and development output before it is too late to obtain patent protection. Moreover, in some circumstances, we do not have the right to control the preparation, filing and prosecution of patent applications, or to maintain the patents, covering technology that we license from third parties. We may also require the cooperation of our licensors in order to enforce the licensed patent rights, and such cooperation may not be provided. Therefore, these patents and applications may not be prosecuted and enforced in a manner consistent with the best interests of our business. The patent position of biotechnology and pharmaceutical companies generally is highly uncertain, involves complex legal and factual questions and has in recent years been the subject of much litigation. In addition, the laws of other jurisdictions may not protect our rights to the same extent as the laws of the United States. For example, methods of therapeutic treatment, which are patent-eligible in the United States, may not be claimed in many other jurisdictions; some patent offices (such as the European Patent Office) may permit the redrafting of method of treatment claims into a "medical use" format that is patent-eligible, while other patent offices (such as the Indian Patent Office) may not accept any redrafted claiming format for such claims. Changes in patent laws or in interpretations of patent laws in the United States and other jurisdictions may diminish the value of our intellectual property or narrow the scope of our patent protection. In September 2011, the Leahy-Smith America Invents Act, or the Leahy-Smith Act, was signed into law, resulting in a number of significant changes to United States patent law. These changes include provisions that affect the way patent applications are prosecuted and may also affect patent litigation. In addition, the United States Supreme Court has ruled on several patent cases in recent years, narrowing the scope of patent protection available in certain circumstances or weakening the rights of patent owners in certain situations. This combination of events has created uncertainty with respect to the value of patents, once obtained, and with regard to our ability to obtain patents in the future. As the USPTO continues to implement the Leahy-Smith Act, and as the federal courts have the opportunity to interpret the Leahy-Smith Act, the laws and regulations governing patents, and the rules regarding patent procurement could change in unpredictable ways that would weaken our ability to obtain new patents or to enforce our existing patents and patents that we might obtain in the future. Certain technologies utilized in our research and development programs are already in the public domain. Moreover, a number of our competitors have developed technologies, or filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and may cover or conflict with our owned or licensed patent applications, technologies or product candidates. Such conflicts could limit the scope of the patents, if any, that we may be able to obtain. Because patent applications in the United States and many foreign jurisdictions are typically not published until 18 months after filing, or in some cases at all, and because publications of discoveries in the scientific literature lag behind actual discoveries per se, neither we nor our licensors can be certain that others have not filed patent applications for technology used by us or covered by our pending patent applications. We cannot know with certainty whether we were the first to make and file for the inventions claimed in our owned patent portfolio, or whether our licensors were the first to make and file for the inventions claimed in our in-licensed patent portfolio. As a result, the issuance, scope, validity, enforceability and commercial value of our patent rights are highly uncertain. Our pending and future patent applications may not result in the issuance of patents that protect our technology or products, in whole or in part, or that effectively prevent others from commercializing competitive technologies and products. In addition, our own earlier filed patents and applications or those of MD Anderson, NCI or PGEN may limit the scope of later patents we obtain, if any. If third parties file or have 52 filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and that cover or conflict with our owned or licensed patent applications, technologies or product candidates, we may be required to challenge such protection, terminate or modify our programs impacted by such protection, or obtain licenses from such third parties, which might not be available on acceptable terms, or at all. Even if our owned and licensed patent applications were to be issued as patents, they may not issue in a form that would provide us with any meaningful protection, prevent competitors from competing with us or otherwise provide us with any competitive advantage. Our competitors may be able to circumvent our owned or licensed patents by developing similar or alternative technologies or products in a non-infringing manner. The issuance of a patent is not conclusive as to its inventorship, scope, validity or enforceability, and our owned and licensed patents may be challenged in the courts or patent offices in the United States and abroad. Such challenges may result in loss of exclusivity due to our patents being narrowed, invalidated or held unenforceable, which could limit our ability to stop others from using or commercializing similar or identical technology and products, or limit the duration of the patent protection of our technology and products. Given the amount of time required for the development, testing and regulatory review of new product candidates, patents protecting such candidates might expire before or even after such candidates are commercialized. As a result, our owned and licensed patent portfolio may not provide us with sufficient rights to exclude others from commercializing products similar or identical to ours. If we are unable to protect the confidentiality of our confidential information, our business and competitive position would be harmed. Our success also depends upon the skills, knowledge, and experience of our scientific and technical personnel, our consultants and advisors, as well as our licensors and contractors. To help protect our proprietary know-how and our inventions for which patents may be unobtainable or difficult to obtain, and to maintain our competitive position, we rely on trade secret protection and confidentiality agreements. To this end, it is our general policy to require our employees, consultants, advisors, and contractors to enter into agreements that prohibit the disclosure of confidential information and, where applicable, require disclosure and assignment to us of the ideas, developments, discoveries, and inventions important to our business. These agreements may not provide adequate protection for our trade secrets, know-how, confidential information or other proprietary information in the event of any unauthorized use or disclosure or the lawful development by others of such information. Moreover, we may not be able to obtain adequate remedies for any breaches of these agreements. Our trade secrets or other confidential information may also be obtained by third parties by other means, such as breaches of our physical or computer security systems. Enforcing a claim that a party illegally disclosed or misappropriated a trade secret or other confidential information is difficult, expensive and time-consuming, and the outcome is unpredictable. In addition, some courts inside and outside the United States are less willing or unwilling to protect trade secrets. If any of our trade secrets or other confidential information were to be lawfully obtained or independently developed by competitors, we would have no right to prevent them, or those to whom they communicate it, from using that technology or information to compete with us. If any of our trade secrets, know-how or other proprietary information is disclosed, the value of our trade secrets, know-how and other proprietary rights would be significantly impaired and our business and competitive position would suffer. Third-party claims of intellectual property infringement would require us to spend significant time and money and could prevent us from developing or commercializing our products. In order to protect or enforce patent rights, we may initiate patent infringement litigation against third parties. Similarly, we may be sued by others for patent infringement. We also may become subject to pre- and post-grant proceedings conducted in the USPTO, including interferences, derivations, post-grant review, inter partes review, or reexamination. In other jurisdictions, our patent estate may be subject to pre- and post-grant opposition, nullity, revocation proceedings, and the like. Asserting and defending against intellectual property actions are costly and divert technical and management personnel away from their normal responsibilities. Our commercial success depends upon our ability, and the ability of our collaborators, to develop, manufacture, market and sell our product candidates without infringing the proprietary rights of third parties. There is considerable intellectual property litigation in the biotechnology and pharmaceutical industries. While no such litigation has been brought against us and we have not been held by any court to have infringed a third party’s intellectual property rights, we cannot guarantee that our products or use of our products do not infringe or will not be asserted to infringe third-party patents. It is also possible that we have failed to identify relevant third-party patents or applications, or that as-yet unpublished third-party patent applications will later result in the grant of patents relevant to our business. Another possibility is for a third-party patent or patent application to first contain claims not relevant to our business but then to be reissued or amended in such a way that it does become relevant. 53 Our research, development and commercialization activities, as well as any product candidates or products resulting from these activities, may infringe or be asserted to infringe patents or patent applications under which we do not hold licenses or other rights. Owning a patent does not confer on the patentee the right to practice the claimed invention and does not protect the patentee from being sued for infringement of another owner’s patent. Our patent position cannot and does not provide any assurance that we are not infringing or will not be asserted to infringe the patent rights of another. The patent landscape in the field of immuno-oncology is particularly complex. We are aware of numerous United States and foreign patents and pending patent applications of third parties directed to compositions, methods of use and methods of manufacture of immuno-oncology products. In addition, there may be patents and patent applications in the field of which we are not aware. The technology we license from MD Anderson, NCI and PGEN is early-stage technology, and we are in the process of designing and developing products using this technology. Although we will seek to avoid pursuing the development of products that may infringe any third-party patent claims that we believe to be valid and enforceable, we may fail to do so. Moreover, given the breadth and number of claims in patents and pending patent applications in the field of immuno-oncology and the complexities and uncertainties associated with them, third parties may allege that we are infringing patent claims even if we do not believe such claims have merit. If a claim for patent infringement is asserted, there can be no assurance that the resolution of the claim would permit us to continue marketing the relevant product on commercially reasonable terms, if at all. We may not have sufficient resources to bring these actions to a successful conclusion. If we do not successfully defend any infringement actions to which we become a party or if we are unable to have any asserted third-party patents declared invalid or unenforceable, we may have to pay substantial monetary damages, which can be tripled if the infringement is deemed willful, and/or we may be required to discontinue or significantly delay commercialization and development of the affected products. Any legal action against us or our collaborators claiming damages and seeking to enjoin developmental or marketing activities relating to affected products could, in addition to subjecting us to potential liability for damages, require us or our collaborators to obtain licenses to continue to develop, manufacture, or market the affected products. Such licenses may not be available to us on commercially reasonable terms, or at all. An adverse determination in a proceeding involving our owned or licensed intellectual property may allow entry in the market of substitutes, including biosimilar or generic substitutes, for our products. Obtaining and maintaining our patent protection depends on compliance with various procedural, document submission, fee payment and other requirements imposed by governmental patent agencies, and our patent protection could be reduced or eliminated for noncompliance with these requirements. Annuities and other similar fees must be paid to the respective patent authority to maintain patents (or patents and patent applications) in most jurisdictions worldwide. Further, patent authorities in jurisdictions worldwide require compliance with a number of procedural, documentary, fee payment and other similar provisions during the patent application process. While an inadvertent lapse can in many cases be cured by payment of a late fee or by other means in accordance with the applicable rules, there are situations in which noncompliance can result in abandonment or lapse of the patent or patent application, resulting in partial or complete loss of patent rights in the relevant jurisdiction. Noncompliance events that could result in abandonment or lapse of a patent or patent application include, but are not limited to, failure to respond to official actions within prescribed time limits, non-payment of fees, and failure to submit documents with the necessary formal requirements such as notarization and legalization. In such an event, our competitors might be able to enter the market, which would have a material adverse effect on our business. We license rights to products and technology that are important to our business, and we expect to enter into additional licenses in the future. For instance, we have in-licensed patents and patent applications under our MD Anderson License, our license agreement with the NCI, and our license agreement with PGEN. Under these agreements, we are subject to a range of obligations pertaining to commercialization and development, sublicensing, royalty, patent prosecution and maintenance, and insurance. Any failure by us to obtain a needed license, comply with any of these obligations or any other breach by us of our license agreements could give the licensor the right to terminate the license in whole, terminate the exclusive nature of the license or bring a claim against us for damages. Any such termination or claim could have a material adverse effect on our financial condition, results of operations, liquidity or business. Even if we contest any such termination or claim and are ultimately successful, such dispute could lead to delays in the development or commercialization of potential products and result in time-consuming and expensive litigation or arbitration. On termination we may be required to license to the licensor any related intellectual property that we developed. 54 In addition, in certain cases, the rights licensed to us are rights of a third party licensed to our licensor. In such instances, if our licensors do not comply with their obligations under such licenses, our rights under our license agreements with our licensor may be adversely affected. In addition, the licensing or acquisition of third-party intellectual property rights is a highly competitive area, and a number of more established companies are also pursuing strategies to license or acquire third party intellectual property rights that we may consider attractive or necessary. These established companies may have a competitive advantage over us due to their size, capital resources and greater clinical development and commercialization capabilities. In addition, companies that perceive us to be a competitor may be unwilling to assign or license rights to us. We also may be unable to license or acquire third party intellectual property rights on terms that would allow us to make an appropriate return on our investment or at all. If we are unable to successfully obtain rights to required third party intellectual property rights or maintain the existing intellectual property rights we have, we may have to abandon development of the relevant program or product candidate, which could have a material adverse effect on our business, financial condition, results of operations, and prospects. We may be subject to claims by third parties asserting that our employees or we have misappropriated their intellectual property or claiming ownership of what we regard as our own intellectual property. Many of our employees were previously employed at universities or at other biotechnology or pharmaceutical companies, including our competitors or potential competitors. Although we try to ensure that our employees do not use the proprietary information or know-how of others in their work for us, we may be subject to claims that these employees or we have used or disclosed intellectual property, including trade secrets or other proprietary information, of any such employee’s former employer. Litigation may be necessary to defend against these claims. In addition, while it is our policy to require our employees and contractors who may be involved in the development of intellectual property to execute agreements assigning such intellectual property to us, we may be unsuccessful in executing such an agreement with each party who in fact develops intellectual property that we regard as our own. Our and their assignment agreements may not be self-executing or may be breached, and we may be forced to bring claims against third parties, or defend claims they may bring against us, to determine the ownership of what we regard as our intellectual property. If we fail in prosecuting or defending any such claims, in addition to paying monetary damages, we may lose valuable intellectual property rights or personnel. Even if we are successful in prosecuting or defending against such claims, litigation could result in substantial costs and be a distraction to management. OTHER RISKS RELATED TO OUR COMPANY Our stock price has been, and may continue to be, volatile. The market price for our common stock is volatile and may fluctuate significantly in response to a number of factors, most of which we cannot control, includin • Price and volume fluctuations in the overall stock market; • Changes in operating results and performance and stock market valuations of other biopharmaceutical companies generally, or those that develop and commercialize cancer drugs in particular; • Market conditions or trends in our industry or the economy as a whole; • Preclinical studies or clinical trial results; • the commencement, enrollment or results of the planned clinical trials of our product candidates or any future clinical trials we may conduct, or changes in the development status of our product candidates; • Public concern as to the safety of drugs developed by us or others; • The financial or operational projections we may provide to the public, any changes in these projections or our failure to meet these projections; 55 • Comments by securities analysts or changes in financial estimates or ratings by any securities analysts who follow our common stock, our failure to meet these estimates or failure of those analysts to initiate or maintain coverage of our common stock; • The public’s response to press releases or other public announcements by us or third parties, including our filings with the SEC, as well as announcements of the status of development of our products, announcements of technological innovations or new therapeutic products by us or our competitors, announcements regarding collaborative agreements and other announcements relating to product development, litigation and intellectual property impacting us or our business; • Government regulation; • FDA determinations on the approval of a product candidate BLA submission; • The sustainability of an active trading market for our common stock; • Future sales of our common stock by us, our executive officers, directors and significant stockholders; • Announcements of mergers or acquisition transactions; • Our inclusion or deletion from certain stock indices; • Developments in patent or other proprietary rights; • Changes in reimbursement policies; • Announcements of medical innovations or new products by our competitors; • Announcements of changes in our senior management or directors; • General economic, industry, political and market conditions, including, but not limited to, the ongoing impact of the COVID-19 pandemic; • Other events or factors, including those resulting from war, incidents of terrorism, natural disasters, pandemics or responses to these events; and • Changes in accounting principles. In addition, the stock market in general and our stock in particular from time to time experiences significant price and volume fluctuations unrelated to the operating performance of particular companies, including in connection with the ongoing COVID-19 pandemic, which has resulted in decreased stock prices for many companies notwithstanding the lack of a fundamental change in their underlying business models or prospects. Public debt and equity markets, and in particular the Nasdaq Global Select Market, have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many biopharmaceutical companies. Stock prices of many biopharmaceutical companies have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. In the past, stockholders have instituted securities class action litigation following periods of market volatility. If we were involved in securities litigation, we could incur substantial costs and our resources, and the attention of management could be diverted from our business. Anti-takeover provisions in our charter documents and under Delaware law may make an acquisition of us, which may be beneficial to our stockholders, more difficult. Provisions of our amended and restated certificate of incorporation and bylaws, as well as provisions of Delaware law, could make it more difficult for a third party to acquire us, even if doing so would benefit our stockholders. These provisions authorize the issuance of “blank check” preferred stock that could be issued by our board of directors to increase the number of outstanding shares and hinder a takeover attempt, and limit who may call a special meeting of stockholders. In addition, Section 203 of the Delaware General Corporation Law, or Section 203, generally prohibits a publicly held Delaware corporation from engaging in a business combination with a party that owns at least 15% of its common stock unless the business combination is approved by our board of directors before the person acquires the 15% ownership stake or later by its board of directors and two-thirds of its stockholders. Section 203 could 56 have the effect of delaying, deferring or preventing a change in control that our stockholders might consider to be in their best interests. Our amended and restated bylaws provide that the Court of Chancery of the State of Delaware will be the exclusive forum for substantially all disputes between us and our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees. Our bylaws provide that, unless we consent in writing to the selection of an alternative forum, the Court of Chancery of the State of Delaware is the exclusive forum for (i) any derivative action or proceeding brought on our behalf; (ii) any action asserting a claim of breach of a fiduciary duty owed by any of our directors, officers or other employees to us or our stockholders; (iii) any action asserting a claim against us or any of our directors, officers or other employees arising pursuant to any provision of the Delaware General Corporation Law, our amended and restated certificate of incorporation or our amended and restated bylaws; (iv) any claim or cause of action seeking to interpret, apply, enforce or determine the validity of the amended and restated certificate of incorporation or our bylaws; (v) any claim or cause of action as to which the General Corporation Law confers jurisdiction on the Court of Chancery of the State of Delaware; or (vi) any action asserting a claim against us or any of our directors, officers or other employees governed by the internal affairs doctrine. These provisions would not apply to suits brought to enforce a duty or liability created by the Exchange Act. Furthermore, Section 22 of the Securities Act creates concurrent jurisdiction for federal and state courts over all such Securities Act actions. Accordingly, both state and federal courts have jurisdiction to entertain such claims. These exclusive forum provisions may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers, or other employees, which may discourage lawsuits against us and our directors, officers and other employees. If a court were to find either exclusive-forum provision to be inapplicable or unenforceable in an action, we may incur further significant additional costs associated with resolving the dispute in other jurisdictions, all of which could seriously harm our business. Because we do not expect to pay dividends, you will not realize any income from an investment in our common stock unless and until you sell your shares at a profit. We have never paid dividends on our common stock, and we do not anticipate that we will pay any dividends for the foreseeable future. Accordingly, any return on an investment in us will be realized, if at all, only when you sell shares of our common stock. Our ability to use net operating loss carryforwards and research tax credits to reduce future tax payments may be limited or restricted. We have generated significant net operating loss carryforwards, or NOLs, and research and development tax credits, or R&D credits, as a result of our incurrence of losses and our conduct of research activities since inception. We generally are able to carry NOLs and R&D credits forward to reduce our tax liability in future years. However, our ability to utilize the NOLs and R&D credits is subject to the rules of Sections 382 and 383 of the Internal Revenue Code of 1986, as amended, or the Code, respectively. Those sections generally restrict the use of NOLs and R&D credits after an “ownership change.” An ownership change occurs if, among other things, the stockholders (or specified groups of stockholders) who own or have owned, directly or indirectly, 5% or more of a corporation’s common stock or are otherwise treated as 5% stockholders under Section 382 of the Code and the U.S. Treasury Department regulations promulgated thereunder increase their aggregate percentage ownership of that corporation’s stock by more than 50 percentage points over the lowest percentage of the stock owned by these stockholders over the applicable testing period. In the event of an ownership change, Section 382 of the Code imposes an annual limitation on the amount of taxable income a corporation may offset with NOL carry forwards and Section 383 of the Code imposes an annual limitation on the amount of tax a corporation may offset with business credit (including R&D credits) carryforwards. We may have experienced an “ownership change” within the meaning of Section 382 of the Code in the past and there can be no assurance that we will not experience additional ownership changes in the future. As a result, our NOLs and business credits (including R&D credits) may be subject to limitations, and we may be required to pay taxes earlier and in larger amounts than would be the case if our NOLs or R&D credits were freely usable. 57 If securities and/or industry analysts fail to continue publishing research about our business, if they change their recommendations adversely or if our results of operations do not meet their expectations, our stock price and trading volume could decline. The trading market for our common stock will be influenced by the research and reports that industry or securities analysts publish about us or our business. If one or more of these analysts cease coverage of our Company or fail to publish reports on us regularly, we could lose visibility in the financial markets, which in turn could cause our stock price or trading volume to decline. In addition, it is likely that in some future period our operating results will be below the expectations of securities analysts or investors. If one or more of the analysts who cover us downgrade our stock, or if our results of operations do not meet their expectations, our stock price could decline. Our business could be negatively affected as a result of the actions of activist stockholders. In 2021, we were engaged in a consent solicitation led by WaterMill Asset Management Corp., or WaterMill, where three new directors were added to our board of directors. We could experience other stockholder activism in the future, including another consent solicitation or a proxy contest. Activist shareholders may advocate for certain governance and strategic changes at our company. In the event of stockholder activism, particularly with respect to matters which our board of directors, in exercising their fiduciary duties, disagree with or have determined not to pursue, our business could be adversely affected because responding to actions by activist stockholders can be costly and time-consuming, disrupting our operations and diverting the attention of management, and perceived uncertainties as to our future direction may result in the loss of potential business opportunities and may make it more difficult to attract and retain qualified personnel, business partners, and customers. In addition, if faced with a consent solicitation or proxy contest, we may not be able to respond successfully to the contest or dispute, which would be disruptive to our business. If individuals are elected to our board of directors with a differing agenda, our ability to effectively and timely implement our strategic plan and create additional value for our stockholders may be adversely affected. *The exercise of outstanding warrants, and issuance of equity awards may have a dilutive effect on our stock, and negatively impact the price of our common stock. As of June 30, 2022, we had warrants for 22,922,342 shares of our common stock outstanding at a weighted average exercise price of $5.62 per share. We are able to grant stock options, restricted stock, restricted stock units, stock appreciation rights, bonus stocks, and performance awards under the 2020 Equity Incentive Plan. Under the 2020 Equity Incentive Plan and our 2012 Equity Incentive Plan, 10,086,635 shares were issuable upon the exercise of outstanding options at a weighted average exercise price of $1.97 per share. *Our principal stockholders, executive officers and directors have substantial control over the Company, which may prevent you and other stockholders from influencing significant corporate decisions and may harm the market price of our common stock. As of June 30, 2022, our executive officers, directors and holders of five percent or more of our outstanding common stock beneficially owned, in the aggregate, 44.1% of our outstanding common stock. These stockholders may have interests that conflict with our other stockholders and, if acting together, have the ability to influence the outcome of matters submitted to our stockholders for approval, including the election and removal of directors and any merger, consolidation or sale of all or substantially all of our assets. Accordingly, this concentration of ownership may harm the market price of our common stock • Delaying, deferring or preventing a change in control; • Impeding a merger, consolidation, takeover or other business combination involving us; or • Discouraging a potential acquirer from making a tender offer or otherwise attempting to obtain control of us. In addition, this significant concentration of stock ownership may adversely affect the trading price of our common stock should investors perceive disadvantages in owning shares of common stock in a company that has such concentrated ownership. Changes to corporate tax legislation, including the Tax Cuts and Jobs Act, signed into law in 2017, could adversely affect our business and financial condition. The Tax Act contains significant changes to corporate taxation, including reduction of the corporate tax rate from a top marginal rate of 35% to a flat rate of 21%, limitation of the tax deduction for interest expense to 30% of adjusted earnings (except for certain small businesses), limitation of the deduction for NOLs to 80% of current year taxable income and elimination of NOL carrybacks, one time 58 taxation of offshore earnings at reduced rates regardless of whether they are repatriated, elimination of U.S. tax on foreign earnings (subject to certain important exceptions), immediate deductions for certain new investments instead of deductions for depreciation expense over time and modifying or repealing many business deductions and credits. The Coronavirus Aid, Relief, and Economic Security Act, or CARES Act, enacted in 2020, modified certain of these tax changes, and enacted other tax changes applicable to corporations. Notwithstanding the reduction in the corporate income tax rate, the overall impact of the Tax Act and the CARES Act is uncertain and our business and financial condition could be adversely affected. In addition, it is uncertain if and to what extent various states will conform to the Tax Act or the CARES Act. Currently, bills introduced in Congress, including the Build Back Better Act, contain additional changes to the taxation of corporations, which could adversely affect our business and financial condition. The impact of the Tax Act, the CARES Act and any other tax legislation on holders of our common stock is also uncertain and could be adverse. We urge our stockholders to consult with their legal and tax advisors with respect to this legislation and the potential tax consequences of investing in or holding our common stock. We are a “smaller reporting company,” and the reduced disclosure requirements applicable to smaller reporting companies may make our common stock less attractive to investors. We are considered a “smaller reporting company” under Rule 12b-2 of the Exchange Act. We are therefore entitled to rely on certain reduced disclosure requirements, such as an exemption from providing selected financial data and executive compensation information. These exemptions and reduced disclosures in our SEC filings due to our status as a smaller reporting company also mean our auditors are not required to review our internal control over financial reporting and may make it harder for investors to analyze our results of operations and financial prospects. We cannot predict if investors will find our common stock less attractive because we may rely on these exemptions. If some investors find our common stock less attractive as a result, there may be a less active trading market for our common stock and our common stock prices may be more volatile. We will remain a smaller reporting company until our public float exceeds $250 million if our annual revenues are $100 million or more, or until our public float exceeds $700 million if our annual revenues are less than $100 million. Item 2. Unregistered Sale of Equity Securities and Use of Proceeds None. Item 3. Defaults upon Senior Securities Not applicable. Item 4. Mine Safety Disclosures Not applicable. Item 5. Other Information Amendments to the Registrant’s Code of Ethics, or Waiver of a Provision of the Code of Ethics Effective August 12, 2022, the Board adopted a revised Code of Ethics and Conduct (the “Revised Code”). The Revised Code applies to all employees, officers and directors of the Company. The Revised Code was adopted to reflect what the Company considers to be current best practices and policies for an operating company and to make certain technical, administrative and non-substantive amendments to the prior Code of Ethics and Conduct. The adoption of the Revised Code did not relate to or result in any waiver, explicit or implicit, of any provision of the prior Code of Ethics and Conduct. The above description of the Revised Code does not purport to be complete and is qualified in its entirety by reference to the full text of the Revised Code, a copy of which is filed as Exhibit 14.1 hereto and incorporated herein by reference. The Revised Code is also available on the Company’s investor relations website (ir.alaunos.com). The contents of the Company’s website are not incorporated by reference in this Quarterly Report on Form 10-Q or made a part hereof for any purpose. 59 Item 6. Exhibits Exhibit Number Description 3.1+ Amended and Restated Certificate of Incorporation of the Registrant, and all amendments thereto. 3.2 Amended and Restated Bylaws of the Registrant, dated as of September 21, 2020 (incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed September 22, 2020). 10.1+ Fourth Amendment to the Cooperative Research and Development Agreement, dated June 24, 2022, by and between the National Cancer Institute and the Registrant. 10.2+ Equity Distribution Agreement, dated August 12, 2022, by and between Piper Sandler & Co. and the Registrant. 14.1+ Code of Ethics and Conduct, as amended August 12, 2022. 31.1+ Certification of Principal Executive Officer pursuant to Exchange Act Rule 13a-14(a) or 15(d)-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1++ Certifications of Principal Executive Officer and Principal Accounting Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 101.INS+ Inline XBRL Instance Document (the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document). 101.SCH+ Inline XBRL Taxonomy Extension Schema Document 101.CAL+ Inline XBRL Taxonomy Extension Calculation Linkbase Document 101.DEF+ Inline XBRL Taxonomy Definition Linkbase Document 101.LAB+ Inline XBRL Taxonomy Extension Label Linkbase Document 101.PRE+ Inline XBRL Taxonomy Extension Presentation Linkbase Document 104+ Cover Page Interactive Data File—the cover page interactive data is embedded within the Inline XBRL document or included within the Exhibit 101 attachments + Filed herewith. ++ This certification is deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the liability of that section, nor shall it be deemed incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, whether made before or after the date hereof, regardless of any general incorporation language in such filing. 60 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ALAUNOS THERAPEUTICS, INC. By: /s/ Kevin S. Boyle, Sr. Kevin S. Boyle, Sr. Chief Executive Officer (On Behalf of the Registrant and as Principal Executive Officer and Principal Financial Officer) Dat August 15, 2022 By: /s/ Michael Wong Michael Wong Vice President, Finance (Principal Accounting Officer) Dat August 15, 2022 61 |
Page PART I. FINANCIAL INFORMATION Item 1. Financial Statements (unaudited) 2 Balance Sheets as of September 30, 2022 (unaudited) and December 31, 2021 2 Statements of Operations for the three and nine months ended September 30, 2022 and 2021 (unaudited) 3 Statements of Changes in Stockholders’ Equity for the three and nine months ended September 30, 2022 and 2021 (unaudited) 4 Statements of Cash Flows for the nine months ended September 30, 2022 and 2021 (unaudited) 6 Notes to Financial Statements (unaudited) 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 18 Item 3. Quantitative and Qualitative Disclosures about Market Risk 27 Item 4. Controls and Procedures 27 PART II. OTHER INFORMATION Item 1. Legal Proceedings 29 Item 1A. Risk Factors 29 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 58 Item 3. Defaults Upon Senior Securities 58 Item 4. Mine Safety Disclosures 58 Item 5. Other Information 58 Item 6. Exhibits 59 1 PART I—FINANCIAL INFORMATION Item 1. Financial Statements Alaunos Therapeutics, Inc. BALANCE SHEETS (unaudited) (in thousands, except share and per share data) September 30, December 31, 2022 2021 ASSETS: Current assets: Cash and cash equivalents $ 37,807 $ 76,054 Restricted cash 13,938 — Receivables 2,911 1,111 Prepaid expenses and other current assets 849 1,666 Total current assets 55,505 78,831 Property and equipment, net 9,050 10,941 Right-of-use asset 2,247 4,420 Deposits 42 42 Other non-current assets 500 631 Total assets $ 67,344 $ 94,865 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable $ 1,984 $ 1,368 Current portion of long-term debt 22,668 7,868 Accrued expenses 7,675 6,076 Lease liability, current 542 729 Total current liabilities 32,869 16,041 Long-term debt — 16,250 Lease liability, non-current 2,334 4,518 Other non-current liabilities 28 — Total liabilities $ 35,231 $ 36,809 Commitments and contingencies (Note 9) Stockholders' equity Common stock $ 0.001 par value; 420,000,000 shares authorized, 216,182,042 shares issued and outstanding at September 30, 2022 and 350,000,000 shares authorized, 216,127,443 shares issued and outstanding at December 31, 2021 216 216 Additional paid-in capital 903,365 900,693 Accumulated deficit ( 871,468 ) ( 842,852 ) Total stockholders' equity 32,113 58,057 Total liabilities and stockholders' equity $ 67,344 $ 94,865 The accompanying notes are an integral part of these financial statements. 2 Alaunos Therapeutics, Inc. STATEMENTS OF OPERATIONS (unaudited) (in thousands, except share and per share data) For the Three Months Ended September 30, For the Nine Months Ended September 30, 2022 2021 2022 2021 Collaboration revenue $ 2,911 $ 398 $ 2,911 $ 398 Operating expens Research and development 7,893 14,521 19,411 41,427 General and administrative 3,282 8,173 10,217 25,469 Gain on lease modification — — ( 133 ) — Total operating expenses 11,175 22,694 29,495 66,896 Loss from operations ( 8,264 ) ( 22,296 ) ( 26,584 ) ( 66,498 ) Other income (expense): Interest expense ( 841 ) ( 444 ) ( 2,266 ) ( 444 ) Other income (expense), net 254 7 279 ( 15 ) Other income (expense), net ( 587 ) ( 437 ) ( 1,987 ) ( 459 ) Net loss $ ( 8,851 ) $ ( 22,733 ) $ ( 28,571 ) $ ( 66,957 ) Basic and diluted net loss per share $ ( 0.04 ) $ ( 0.11 ) $ ( 0.13 ) $ ( 0.31 ) Weighted average common shares outstanding, basic and diluted 215,098,995 214,542,465 215,015,377 214,310,349 The accompanying notes are an integral part of these financial statements. 3 Alaunos Therapeutics, Inc. STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (unaudited) (in thousands, except share and per share data) For the Three Months Ended September 30, 2022 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at June 30, 2022 216,174,542 $ 216 $ 902,536 $ ( 862,572 ) $ 40,180 Stock-based compensation — — 808 — 808 Exercise of employee stock options 26,250 — 21 — 21 Repurchase of common stock ( 18,750 ) — — ( 45 ) ( 45 ) Net loss — — — ( 8,851 ) ( 8,851 ) Balance at September 30, 2022 216,182,042 $ 216 $ 903,365 $ ( 871,468 ) $ 32,113 The accompanying notes are an integral part of these financial statements. For the Nine Months Ended September 30, 2022 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at December 31, 2021 216,127,443 $ 216 $ 900,693 $ ( 842,852 ) $ 58,057 Stock-based compensation — — 2,651 — 2,651 Restricted stock awards 280,000 — — — — Cancelled restricted common stock ( 232,901 ) — — — — Exercise of employee stock options 26,250 — 21 — 21 Repurchase of common stock ( 18,750 ) — — ( 45 ) ( 45 ) Net loss — — — ( 28,571 ) ( 28,571 ) Balance at September 30, 2022 216,182,042 $ 216 $ 903,365 $ ( 871,468 ) $ 32,113 The accompanying notes are an integral part of these financial statements. 4 For the Three Months Ended September 30, 2021 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at June 30, 2021 215,559,148 $ 216 $ 896,390 $ ( 808,325 ) $ 88,281 Stock-based compensation — — 2,371 — 2,371 Restricted stock awards 875,000 — — — — Cancelled restricted common stock ( 288,344 ) — — — — Issuance of warrants — — 788 — 788 Net loss — — — ( 22,733 ) ( 22,733 ) Balance at September 30, 2021 216,145,804 $ 216 $ 899,549 $ ( 831,058 ) $ 68,707 The accompanying notes are an integral part of these financial statements. For the Nine Months Ended September 30, 2021 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at December 31, 2020 214,591,906 $ 215 $ 887,868 $ ( 764,101 ) $ 123,982 Stock-based compensation — — 9,857 — 9,857 Exercise of employee stock options 363,109 — 1,037 — 1,037 Restricted stock awards 1,601,224 1 ( 1 ) — — Cancelled restricted common stock ( 410,435 ) — — — — Issuance of warrants — — 788 — 788 Net loss — — — ( 66,957 ) ( 66,957 ) Balance at September 30, 2021 216,145,804 $ 216 $ 899,549 $ ( 831,058 ) $ 68,707 The accompanying notes are an integral part of these financial statements. 5 Alaunos Therapeutics, Inc. STATEMENTS OF CASH FLOWS (unaudited) (in thousands) For the Nine Months Ended September 30, 2022 2021 Cash flows from operating activiti Net loss $ ( 28,571 ) $ ( 66,957 ) Adjustments to reconcile net loss to net cash used in operating activiti Depreciation 2,065 1,892 Amortization of financing costs 634 148 Stock-based compensation 2,651 9,857 Decrease (increase) in the carrying amount of right-of-use assets 2,306 ( 529 ) Gain on lease modification ( 133 ) — (Increase) decrease in: Receivables ( 1,800 ) 3,155 Prepaid expenses and other current assets 817 7,646 Other non-current assets 131 508 Increase (decrease) in: Accounts payable 616 503 Accrued expenses 1,525 ( 3,169 ) Lease liabilities ( 2,371 ) 604 Other non-current liabilities 28 — Net cash used in operating activities ( 22,102 ) ( 46,342 ) Cash flows from investing activiti Purchases of property and equipment ( 100 ) ( 2,964 ) Net cash used in investing activities ( 100 ) ( 2,964 ) Cash flows from financing activiti Proceeds from long-term debt borrowing — 25,000 Debt issuance costs — ( 75 ) Proceeds from the exercise of stock options 21 1,037 Repurchase of common stock ( 45 ) — Repayment of long-term debt ( 2,083 ) — Net cash provided by (used in) financing activities ( 2,107 ) 25,962 Net decrease in cash, cash equivalents and restricted cash ( 24,309 ) ( 23,344 ) Cash, cash equivalents and restricted cash, beginning of period 76,054 115,069 Cash, cash equivalents and restricted cash, end of period $ 51,745 $ 91,725 Supplementary disclosure of cash flow informati Cash paid for interest $ 1,603 $ 136 Amounts included in accrued expenses and accounts payable related to property and equipment $ 74 $ 348 The accompanying notes are an integral part of these financial statements. 6 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) 1. Organization Overview Alaunos Therapeutics, Inc., which is referred to herein as “Alaunos,” or the “Company,” is a clinical-stage oncology-focused cell therapy company developing adoptive TCR-T cell therapies, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. On January 25, 2022, the Company changed its corporate name from ZIOPHARM Oncology, Inc. to Alaunos Therapeutics, Inc. The Company is leveraging its proprietary, non-viral Sleeping Beauty gene transfer platform and its cancer hotspot mutation TCR library to design and manufacture autologous cell therapies that target neoantigens arising from shared tumor-specific mutations in key oncogenic genes, including KRAS, TP53 and EGFR. The Company’s operations to date have consisted primarily of conducting research and development and raising capital to fund those efforts. In May 2021, the Company announced that it will be winding down its existing Controlled IL-12 clinical program. The Company continues to seek a partner for this program. The accompanying financial statements have been prepared on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities and commitments in the normal course of business. The Company follows the guidance of Accounting Standards Codification ("ASC") Topic 205-40, Presentation of Financial Statements - Going Concern, in order to determine whether there is substantial doubt about its ability to continue as a going concern for one year after the date its financial statements are issued. The Company has operated at a loss since its inception in 2003 and has no recurring revenue from operations. The Company anticipates that losses will continue for the foreseeable future. As of September 30, 2022, the Company had approximately $ 37.8 million of cash and cash equivalents and $ 13.9 million of restricted cash related to the Company's debt agreement (see Note 4). The Company’s accumulated deficit at September 30, 2022 was approximately $ 871.5 million. Given its current development plans and cash management efforts, the Company anticipates cash resources will be sufficient to fund operations into the second quarter of 2023. The Company’s ability to continue operations after its current cash resources are exhausted depends on its ability to obtain additional financing, as to which no assurances can be given. Cash requirements may vary materially from those now planned because of changes in the Company’s focus and direction of its research and development programs, competitive and technical advances, patent developments, regulatory changes or other developments. If adequate additional funds are not available when required, management may need to curtail its development efforts and planned operations to conserve cash. Based on the current cash forecast, management has determined that the Company's present capital resources will not be sufficient to fund its planned operations for at least one year from the issuance date of the financial statements, which raises substantial doubt as to the Company's ability to continue as a going concern. This forecast of cash resources is forward-looking information that involves risks and uncertainties, and the actual amount of expenses could vary materially and adversely as a result of a number of factors. As of September 30, 2022, there were 216,182,042 shares of common stock outstanding and an additional 33,545,557 shares of common stock reserved for issuance pursuant to outstanding stock options and warrants. Basis of Presentation The accompanying unaudited interim financial statements have been prepared in accordance with the instructions to Form 10-Q pursuant to the rules and regulations of the Securities and Exchange Commission, or the SEC. Certain information and note disclosures required by generally accepted accounting principles in the United States, or GAAP, have been condensed or omitted pursuant to such rules and regulations. It is management’s opinion that the accompanying unaudited interim financial statements reflect all adjustments (which are normal and recurring) that are necessary for a fair presentation of the financial position of the Company and its results of operations and cash flows for the periods presented. The unaudited interim financial statements should be read in conjunction with the audited financial statements and the notes thereto for the year ended December 31, 2021, included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2021 filed with the SEC on March 30, 2022, or the Annual Report. The results disclosed in the statements of operations for the three and nine months ended September 30, 2022 are not necessarily indicative of the results to be expected for the full fiscal year 2022. Use of Estimates The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial 7 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) statements and the reported amounts of revenues and expenses during the reporting period. Although the Company regularly assesses these estimates, actual results could differ from those estimates. Changes in estimates are recorded in the period in which they become known. 2. Financings 2021 Loan and Security Agreement On August 6, 2021, the Company entered into a Loan and Security Agreement (the "Loan and Security Agreement") with Silicon Valley Bank and affiliates of Silicon Valley Bank (collectively, "SVB"). The Loan and Security Agreement provided for an initial term loan of $ 25.0 million funded at the closing (the "Term A Tranche"), with an additional tranche of $ 25.0 million available if certain funding and clinical milestones were met by August 31, 2022 (the "Term B Tranche"). Effective December 28, 2021, the Company, entered into a First Amendment (the “Amendment”) to the Loan and Security Agreement (as so amended, the "Amended Loan and Security Agreement"). The Amended Loan and Security Agreement extended the interest-only period through August 31, 2022. The Amended Milestones (as defined below) were not met by the Company on or prior to August 31, 2022, and therefore, the interest-only period was not extended beyond August 31, 2022. The Amendment also eliminated the Term B Tranche, which remained unfunded, leaving only the Term A Tranche (the "SVB Facility"). Under the Amended Loan and Security Agreement, the SVB Facility will mature on August 1, 2023. Please refer to Note 4 - Debt, for further discussion of the Loan and Security Agreement and the Amended Loan and Security Agreement. 2022 Equity Distribution Agreement On August 12, 2022, the Company entered into an Equity Distribution Agreement (the "Equity Distribution Agreement") with Piper Sandler & Co. ("Piper Sandler"), pursuant to which the Company can offer and sell, from time to time at its sole discretion, shares of its common stock having an aggregate offering price of up to $ 50.0 million through Piper Sandler as its sales agent in an "at the market offering." Piper Sandler will receive a commission of 3.0 % of the gross proceeds of any common stock sold under the Equity Distribution Agreement. During the three and nine months ended September 30, 2022, there have been no sales of the Company's common stock under the Equity Distribution Agreement. 3. Summary of Significant Accounting Policies The Company’s significant accounting policies were identified in the Company’s Annual Report. There have been no material changes in those policies since the filing of its Annual Report. 4. Debt The carrying values of the Company's debt obligation were as follows: September 30, December 31, ($ in thousands) 2022 2021 Loan and Security Agreement $ 23,461 $ 25,209 Unamortized discount on Loan and Security Agreement ( 793 ) ( 1,091 ) Total debt $ 22,668 $ 24,118 As of September 30, 2022, the SVB Facility was fully drawn in the amount of $ 25.0 million. The SVB Facility bears interest at a floating rate per annum on outstanding loans, payable monthly, at the greater of (a) 7.75 % and (b) the current published U.S. prime rate, plus a margin of 4.5 % . As of September 30, 2022, interest on the outstanding loans was 10.75 %. The Amended Loan and Security Agreement provided for an interest-only period through August 31, 2022. On or prior to August 31, 2022, the Company had not (i) received at least $ 50.0 million in net cash proceeds from the sale of the Company’s equity securities after the date of the Amended Loan and Security Agreement, on terms acceptable to SVB, nor (ii) achieved positive data in the first cohort of the Library TCR-T Trial endorsed by an independent safety monitoring committee as a safe dose to proceed (together, the “Amended Milestones”), and, therefore, the interest-only period was not extended beyond August 31, 2022. Commencing on September 1, 2022, aggregate outstanding borrowings are payable in twelve consecutive, equal monthly installments of principal plus accrued interest. All outstanding obligations under the Amended Loan and Security Agreement are due and payable on August 1, 2023 . The Company will also owe SVB 5.75 % of the original principal amounts borrowed as a final payment (the "Final Payment"). The Company is 8 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) permitted to make up to two prepayments, subject to a prepayment premium of the amount being prepaid, ranging from 1.00 % to 2.00 %, of the SVB Facility, each such prepayment to be at least $ 5.0 million plus all accrued and unpaid interest on the portion being prepaid. As a result of not achieving the Amended Milestones on or prior to August 31, 2022, the Amended Loan and Security Agreement required the Company to cash collateralize half of the sum of the then-outstanding principal amount of the SVB Facility, plus an amount equal to 5.75 % of the original principal amount of the SVB Facility. As of September 30, 2022, the Company has collateralized $ 13.9 million, which is classified as restricted cash on the balance sheet. So long as no event of default has occurred and subject to certain other terms related to the remaining outstanding balance under the SVB Facility being satisfied, $ 2.5 million will be released from the collateral account following the eighth scheduled payment of principal and interest, and a further $ 4.0 million will be released following the tenth scheduled payment of principal and interest. The SVB Facility and related obligations under the Amended Loan and Security Agreement are secured by substantially all of the Company’s properties, rights and assets, except for its intellectual property (which is subject to a negative pledge under the Amended Loan and Security Agreement). In addition, the Amended Loan and Security Agreement contains customary representations, warranties, events of default and covenants. In connection with its entry into the Loan and Security Agreement, the Company issued to SVB warrants to purchase (i) up to 432,844 shares of the Company’s common stock, in the aggregate, and (ii) up to an additional 432,842 shares of common stock, in the aggregate, in the event the Company achieved certain clinical milestones, in each case at an exercise price per share of $ 2.22 . In connection with its entry into the Amendment, the Company amended and restated the warrants issued to SVB. As amended and restated, the warrants are for up to 649,615 shares of the Company's common stock, in the aggregate, at an exercise price per share of $ 1.16 , or the SVB Warrants. The SVB Warrants expire on August 6, 2031 . The issuance costs for the Loan and Security Agreement, including the Amended Loan and Security Agreement, were approximately $ 1.2 million and primarily related to the SVB Warrants, which will be amortized into interest expense over the period to August 1, 2023 . Interest expense was $ 0.8 million for the three months ended September 30, 2022 and was $ 2.3 million for the nine months ended September 30, 2022, compared to $ 0.4 million for the three and nine months ended September 30, 2021. The fair value of the Amended Loan and Security Agreement as of September 30, 2022 approximates its face value. 5. Fair Value Measurements The Company has certain financial assets and liabilities recorded at fair value which have been classified as Level 1, 2 or 3 within the fair value hierarchy as described in the accounting standards for fair value measurements. • Level 1—Quoted prices in active markets for identical assets or liabilities. • Level 2—Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. • Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Assets and liabilities measured at fair value on a recurring and nonrecurring basis as of September 30, 2022 and December 31, 2021 are as follows: ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of September 30, 2022 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 36,807 $ 36,807 $ — $ — ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of December 31, 2021 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 75,222 $ 75,222 $ — $ — 9 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) The cash equivalents represent demand deposit accounts and deposits in a short-term United States treasury money market mutual fund quoted in an active market and classified as a Level 1 asset. There have been no changes to the valuation methods during the nine months ended September 30, 2022. We had no financial assets or liabilities that were classified as Level 2 or Level 3 during the nine months ended September 30, 2022. 6. Net loss per share Basic net loss per share is computed by dividing net loss by the weighted average number of shares of common stock outstanding for the period. The Company’s potentially dilutive shares, which include outstanding common stock options, inducement stock options, unvested restricted stock and warrants, have not been included in the computation of diluted net loss per share for any of the periods presented as the result would be anti-dilutive. Such potentially dilutive shares of common stock consisted of the following as of September 30, 2022 and 2021, respectiv September 30, 2022 2021 Common stock options 10,623,215 11,072,894 Inducement stock options - 97,500 Unvested restricted stock 940,000 1,510,655 Warrants 22,922,342 22,705,571 34,485,557 35,386,620 7. Related Party Transactions Collaboration with Vineti Inc. On July 9, 2020, the Company entered into a master service agreement and statement of work with Vineti, Inc. ("Vineti"). Pursuant to the agreement, Vineti has been developing a software platform to coordinate and orchestrate the order, cell collection and manufacturing process for the Company’s T-cell therapy, or TCR-T, clinical programs. Heidi Hagen, who became a director of the Company in June 2019 and resigned November 2, 2021 and the Company's Interim Chief Executive Officer on February 25, 2021 and resigned on August 30, 2021, is a co-founder and former officer of Vineti. During the three and nine months ended September 30, 2022, the Company recorded no expenses for Vineti, compared to $ 0.1 million of expenses for the three months ended September 30, 2021 and $ 0.4 million for the nine months ended September 30, 2021. WaterMill Settlement Agreement On February 4, 2021, the Company entered into an agreement, or the Settlement Agreement, with WaterMill Asset Management Corp. and Robert W. Postma (collectively, the "WaterMill Parties"). Pursuant to the Settlement Agreement, the Company increased the size of its board of directors from eight to nine directors and appointed Mr. Postma to fill the newly created directorship. In accordance with the Settlement Agreement, the Company agreed to reimburse the WaterMill Parties for up to $ 0.4 million of their reasonable out-of-pocket expenses out of a total of approximately $ 0.7 million in fees and expenses actually incurred by the WaterMill Parties in connection with (i) the WaterMill Parties' solicitation of written consents from the Company's stockholders to vote in favor of certain proposals, as set forth in the definitive consent statement filed by the WaterMill Parties on October 30, 2020, and (ii) the negotiation, execution, and effectuation of the Settlement Agreement. As of February 19, 2021, the Company has fully reimbursed the WaterMill Parties an aggregate amount of $ 0.4 million. Joint Venture with TriArm Therapeutics/Eden BioCell On December 18, 2018, the Company and TriArm Therapeutics, Ltd. (“TriArm”) launched Eden BioCell, Ltd. (“Eden BioCell”) as a joint venture to lead commercialization of the Company’s Sleeping Beauty -generated CAR-T therapies in the People’s Republic of China (including Macau and Hong Kong), Taiwan and Korea. The Company licensed to Eden BioCell the rights in Greater China for its third-generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen. Eden BioCell is owned equally by the Company and TriArm and the parties share decision-making authority. TriArm has contributed $ 10.0 million to Eden BioCell and has committed up to an additional $ 25.0 million to this joint venture. TriArm also manages all clinical development in the territory pursuant to a master services agreement between TriArm and Eden BioCell. James Huang was the founder and serves as managing 10 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) partner of Panacea Venture, which is an investor in TriArm. Mr. Huang is the Chair of the Company's board of directors and has been a director since July 2020. He also serves as a member of Eden BioCell’s board of directors. For the three and nine months ended September 30, 2022, Eden BioCell incurred a net loss and the Company continues to have no commitment to fund its operations. In September 2021, TriArm and Alaunos mutually agreed to dissolve the Eden BioCell joint venture. Refer to Note 12 - Joint Venture , for further details. 8. Leases In April 2022, the Company modified its real estate lease agreement executed on December 15, 2020 with MD Anderson for office space in Houston, which reduced the Company's leased space from 18,111 square feet to 3,228 square feet. As a result, the associated lease liability and right-of-use asset were remeasured to $ 0.4 million based on revised lease payments. A gain of $ 0.1 million was recorded on the lease modification during the nine months ended September 30, 2022. In June 2022, the Company executed an agreement to sub-sublease 4,772 square feet of subleased office space in Boston. The term of the sub-sublease is from July 1, 2022 to June 30, 2025 and provides the sub-subtenant with an option to extend through to July 31, 2026 . For the three and nine months ended September 30, 2022, the Company recognized $ 44 thousand in lease income, which is classified within other income (expense), net in the statement of operations. 9. Commitments and Contingencies License Agreements Exclusive License Agreement with PGEN Therapeutics On October 5, 2018, the Company entered into an exclusive license agreement, or License Agreement, with PGEN Therapeutics, or PGEN, a wholly owned subsidiary of Precigen Inc., or Precigen, which was formerly known as Intrexon Corporation. Pursuant to the terms of the License Agreement, the Company has exclusive, worldwide rights to research, develop and commercialize (i) TCR products designed for neoantigens for the treatment of cancer, (ii) products utilizing Precigen’s RheoSwitch® gene switch, or RTS, for the treatment of cancer, referred to as IL-12 Products and (iii) CAR products directed to (A) CD19 for the treatment of cancer, referred to as CD19 Products, and (B) BCMA for the treatment of cancer, subject to certain obligations to pursue such target under the Ares Trading Agreement. Under the License Agreement, the Company also has exclusive, worldwide rights for certain patents relating to the Sleeping Beauty technology to research, develop and commercialize TCR products for both neoantigens and shared antigens for the treatment of cancer, referred to as TCR Products. The Company is solely responsible for all aspects of the research, development and commercialization of the exclusively licensed products for the treatment of cancer. The Company is required to use commercially reasonable efforts, as defined in the License Agreement, to develop and commercialize IL-12 products, CD19 products, BCMA products and TCR Products. In consideration of the licenses and other rights granted by PGEN, the Company will pay PGEN an annual license fee of $ 0.1 million and the Company has agreed to reimburse PGEN for certain historical costs of the licensed programs up to $ 1.0 million, which was fully paid during the year ended December 31, 2019. The Company will make milestone payments totaling up to an additional $ 52.5 million for each exclusively licensed program upon the initiation of later stage clinical trials and upon the approval of exclusively licensed products in various jurisdictions. In addition, the Company will pay PGEN tiered royalties ranging from low-single digits to high-single digits on the net sales derived from the sale of any approved IL-12 products and CAR products. The Company will also pay PGEN royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of any approved TCR products, up to a maximum royalty amount of $ 100.0 million in the aggregate. The Company will also pay PGEN twenty percent of any sublicensing income received by us relating to the licensed products. The Company is responsible for all development costs associated with each of the licensed products. PGEN will pay the Company royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of PGEN’s CAR products, up to a maximum royalty amount of $ 100.0 million. In October 2020, the Company entered into an amendment to the License Agreement relating to the transfer of certain materials and PGEN’s obligations to provide transition assistance relating to the IL-12 products. 11 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) License Agreement and 2015 Research and Development Agreement —The University of Texas MD Anderson Cancer Center On January 13, 2015 , the Company, together with Precigen, entered into the MD Anderson License with MD Anderson (which Precigen subsequently assigned to PGEN). Pursuant to the MD Anderson License, the Company, together with PGEN, holds an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR T-cell therapies, non-viral gene transfer systems, genetic modification and/or propagation of immune cells and other cellular therapy approaches, Natural Killer, or NK Cells, and TCRs, arising from the laboratory of Laurence Cooper, M.D., Ph.D., who served as the Company’s Chief Executive Officer from May 2015 until February 2021 and was formerly a tenured professor of pediatrics at MD Anderson. On August 17, 2015, the Company, Precigen and MD Anderson entered into the 2015 R&D Agreement to formalize the scope and process for the transfer by MD Anderson, pursuant to the terms of the MD Anderson License, of certain existing research programs and related technology rights, as well as the terms and conditions for future collaborative research and development of new and ongoing research programs. The rights and obligations of Precigen under the 2015 R&D Agreement were assigned to the Company pursuant to the Fourth Amendment to 2015 R&D Agreement which was entered into on September 19, 2019 (the “Fourth Amendment”) with an effective date of October 5, 2018. The activities under the 2015 R&D Agreement are directed by a joint steering committee comprised of two members from the Company and one member from MD Anderson. As provided under the MD Anderson License, the Company provided funding for research and development activities in support of the research programs under the 2015 R&D Agreement for a period of three years and in an amount of no less than $ 15.0 million and no greater than $ 20.0 million per year. On November 14, 2017, the Company entered into an amendment to the 2015 R&D Agreement, extending its term until April 15, 2021. In connection with the execution of the 2019 R&D Agreement described below, on October 22, 2019, the Company amended the 2015 R&D Agreement to extend the term of the 2015 R&D Agreement until December 31, 2026 and to allow cash resources on hand at MD Anderson under the 2015 R&D Agreement to be used for development costs under the 2019 R&D Agreement. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder, or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term of the MD Anderson License, the Company, together with Precigen, shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After ten years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if the Company and Precigen are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if the Company and Precigen are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by the Company and Precigen, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both the Company and Precigen and may be terminated by the mutual written agreement of the Company, PGEN, and MD Anderson. 2019 Research and Development Agreement—The University of Texas MD Anderson Cancer Center On October 22, 2019, the Company entered into the 2019 Research and Development Agreement, or the 2019 R&D Agreement, with MD Anderson, pursuant to which the parties agreed to collaborate with respect to the TCR program. Under the 2019 R&D Agreement, the parties will, among other things, collaborate on programs to expand the Company's TCR library and conduct clinical trials. The activities under the 2019 R&D Agreement are directed by a joint steering committee comprised of two members from the Company and one member from MD Anderson. The Company will own all inventions and intellectual property developed under the 2019 R&D Agreement and the Company will retain all rights to intellectual property for oncology products manufactured using non-viral gene transfer technologies under the 2019 R&D Agreement, including the Company's Sleeping Beauty technology. The Company has granted MD Anderson an exclusive license for such intellectual property outside the field of oncology and to develop and commercialize TCR products manufactured using viral gene transfer technologies limited to autologous products if used for cancer treatment or prevention, and a non-exclusive license for allogenic anti-tumor TCR products manufactured using viral-based technologies. Under the 2019 R&D Agreement, the Company agreed, beginning on January 1, 2021, to reimburse MD Anderson up to a total of $ 20.0 million for development costs under the 2019 R&D Agreement, after the funds from the 2015 R&D Agreement are exhausted. In addition, the Company will pay MD Anderson royalties on net sales of its TCR products. The Company is required to make performance-based payments upon the successful completion of clinical and regulatory benchmarks relating to its TCR products. The aggregate potential benchmark payments are $ 36.5 million, of which only $ 3.0 million will be due prior to the first marketing 12 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) approval of the Company's TCR products. The royalty rates and benchmark payments owed to MD Anderson may be reduced upon the occurrence of certain events. The Company also agreed to sell its TCR products to MD Anderson at preferential prices and will sell the Company's TCR products in Texas exclusively to MD Anderson for a limited period of time following the first commercial sale of the Company's TCR products. For the three months ended September 30, 2022, the Company incurred clinical expenses of $ 0.3 million from MD Anderson related to this agreement compared to $ 0 for the three months ended September 30, 2021. For the nine months ended September 30, 2022, the Company incurred clinical expenses of $ 0.7 million from MD Anderson related to this agreement compared to $ 0 for the nine months ended September 30, 2021. The 2019 R&D Agreement will terminate on December 31, 2026 and either party may terminate the 2019 R&D Agreement following written notice of a material breach. The 2019 R&D Agreement also contains customary provisions related to indemnification obligations, confidentiality and other matters. In connection with the execution of the 2019 R&D Agreement, on October 22, 2019, the Company issued MD Anderson a warrant to purchase 3,333,333 shares of the Company's common stock, which is referred to as the MD Anderson Warrant. Please refer to Note 11 - Warrants , for further discussion of the MD Anderson Warrant. The MD Anderson Warrant has an initial exercise price of $ 0.001 per share, expires on December 31, 2026 , and vests upon the occurrence of certain clinical milestones. As of September 30, 2022, the milestones have not been met. License Agreement with the NCI On May 28, 2019, the Company entered into a patent license agreement, or the Patent License, with the National Cancer Institute, or the NCI. Pursuant to the Patent License, the Company holds an exclusive, worldwide license to certain intellectual property to develop and commercialize patient-derived (autologous), peripheral blood T-cell therapy products engineered by transposon-mediated gene transfer to express TCRs reactive to mutated KRAS, TP53 and EGFR neoantigens. In addition, pursuant to the Patent License, the Company holds an exclusive, worldwide license to certain intellectual property for manufacturing technologies to develop and commercialize autologous, peripheral blood T-cell therapy products engineered by non-viral gene transfer to express TCRs, as well as a non-exclusive, worldwide license to certain additional manufacturing technologies. On May 29, 2019, January 8, 2020, September 28, 2020, April 16, 2021, May 4, 2021, and August 13, 2021 the Company amended the Patent License to expand its TCR library to include additional TCRs reactive to mutated KRAS and TP53 neoantigens licensed from the NCI. The terms of the Patent License require the Company to pay the NCI minimum annual royalties in the amount of $ 0.3 million, which amount will be reduced to $ 0.1 million once the aggregate minimum annual royalties paid by the Company equals $ 1.5 million. The Company is also required to make performance-based payments upon successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $ 4.3 million, of which aggregate payments of $ 3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $ 0.1 million was due upon the initiation of the Company's first sponsored Phase 1 clinical trial of a licensed product or licensed process in the field of use licensed under the Patent License. The Company paid the first benchmark payment during the nine months ended September 30, 2022. In addition, the Company is required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $ 250.0 million to $ 1.0 billion. The aggregate potential amount of these benchmark payments is $ 12.0 million. The Company must also pay the NCI royalties on net sales of products covered by the Patent License at rates in the low to mid-single digits depending upon the technology included in a licensed product. To the extent the Company enters into a sublicensing agreement relating to a licensed product, the Company is required to pay the NCI a percentage of all consideration received from a sublicensee, which percentage will decrease based on the stage of development of the licensed product at the time of the sublicense. The Patent License will expire upon expiration of the last patent contained in the licensed patent rights, unless terminated earlier. The NCI may terminate or modify the Patent License in the event of a material breach, including if the Company does not meet certain milestones by certain dates, or upon certain insolvency events that remain uncured following the date that is 90 days following written notice of such breach or insolvency event. The Company may terminate the Patent License, or any portion thereof, in the Company's sole discretion at any time upon 60 days’ written notice to the NCI. In addition, the NCI has the right t (i) require the Company to sublicense the rights to the product candidates covered by the Patent License upon certain conditions, including if the Company is not reasonably satisfying required health and safety needs and (ii) terminate or modify the Patent License, including if the Company is not satisfying requirements for public use as specified by federal regulations. For the three months ended September 30, 2022, the Company recognized $ 0.1 million in license payments to the NCI under this agreement, compared to $ 0.3 million for the three months ended September 30, 2021. For the nine months ended September 30, 2022, 13 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) the Company recognized $ 0.5 million in license payments to the NCI under this agreement, compared to $ 0.6 million for the nine months ended September 30, 2021. Cooperative Research and Development Agreement (CRADA) with the NCI On January 9, 2017, the Company entered into a Cooperative Research and Development Agreement (the “CRADA”) with the NCI. The purpose of this collaboration was to advance a personalized TCR-T approach for the treatment of solid tumors. Using the Company's Sleeping Beauty technology, the NCI would analyze a patient’s own cancer cells, identify their unique neoantigens and TCRs reactive against those neoantigens and then use the Company's Sleeping Beauty technology to transpose one or more TCRs into T cells for re-infusion. Research conducted under the CRADA will be at the direction of Steven A. Rosenberg, M.D., Ph.D., Chief of the Surgery Branch at the NCI, in collaboration with the Company's researchers. The Company is responsible for providing the NCI with the test materials necessary for them to conduct their studies, and eventually, clinical trials pursuant to the CRADA. Inventions, data and materials discovered or produced in connection with performance of the research plan under the CRADA will remain the sole property of the party who produced the discovery. The parties will jointly own all inventions jointly discovered under the research plan. The owner of any invention under the CRADA will make the decision to file a patent covering the invention, or in the case of a jointly owned invention, the Company will have the first opportunity to file a patent covering the invention. If the Company fails to provide timely notice of its decision to the NCI or decide not to file a patent covering the joint invention, the NCI has the right to make the filing. For any invention solely owned by the NCI or jointly made by the NCI and the Company for which a patent application was filed, the U.S. Public Health service grants the Company an exclusive option to elect an exclusive or non-exclusive commercialization license. For inventions owned solely by the NCI or jointly owned by the NCI and the Company, which are licensed according to the terms described above, the Company agreed to grant to the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world. The Company is also required to grant the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world for any of the Company's solely owned inventions. The agreement may be terminated by any of the parties upon 60 days prior written consent. The NCI has a cleared Investigational New Drug Application, or IND, that would permit them to begin this trial. To the Company's knowledge, the trial has not yet enrolled due to matters internal to the NCI and unrelated to the Company's technology. The progress and timeline for this trial, including the timeline for dosing patients, are under control of the NCI. In February 2019, the Company extended the CRADA with the NCI until January 9, 2022, committing an additional $ 5.0 million to this program. In March 2022, the Company entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. In June 2022, the Company entered into the Fourth Amendment to the CRADA (the "CRADA Fourth Amendment") which, among other things, extended the term of the CRADA until January 9, 2025. In connection with the CRADA Fourth Amendment, the Company agreed to contribute $ 1.0 million per year, payable on a quarterly basis, beginning in the first quarter of 2023. The Company did no t record expenses under the CRADA for the three and nine months ended September 30, 2022, as compared to $ 0 for the three months ended September 30, 2021 and $ 1.3 million for the nine months ended September 30, 2021. Patent and Technology License Agreement—The University of Texas MD Anderson Cancer Center and the Texas A&M University System On August 24, 2004, the Company entered into a patent and technology license agreement with MD Anderson and the Texas A&M University System, which the Company refers to, collectively, as the Licensors. Under this agreement, the Company was granted an exclusive, worldwide license to rights (including rights to U.S. and foreign patent and patent applications and related improvements and know-how) for the manufacture and commercialization of two classes of organic arsenicals (water- and lipid-based) for human and animal use. The class of water-based organic arsenicals includes darinaparsin. Under the terms of the agreement, the Company may be required to make additional payments to the Licensors upon achievement of certain milestones in varying amounts which, on a cumulative basis could total up to an additional $ 4.5 million. In addition, the Licensors are entitled to receive royalty payments on sales from a licensed product and will also be entitled to receive a portion of any fees that the Company may receive from a possible sublicense under certain circumstances. During the three and nine months ended September 30, 2022, $ 2.5 million was expensed as a one-time milestone payment under the terms of the agreement, compared to $ 0.1 million for the three and nine months ended September 30, 2021. During the three and nine months ended September 30, 2022 and 2021, the Company did no t incur royalty expenses on sales under this agreement. 14 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) Collaboration Agreement with Solasia Pharma K.K. On March 7, 2011, the Company entered into a License and Collaboration Agreement with Solasia Pharma K. K. ("Solasia"), which was amended on July 31, 2014 to include an exclusive worldwide license and amended on October 14, 2021 to revise certain payment schedule details (as so amended, the "Solasia License and Collaboration Agreement"). Pursuant to the Solasia License and Collaboration Agreement, the Company granted Solasia an exclusive license to develop and commercialize darinaparsin in both intravenous and oral forms and related organic arsenic molecules, in all indications for human use. As consideration for the license, the Company is eligible to receive from Solasia development- and sales-based milestones, a royalty on net sales of darinaparsin, once commercialized, and a percentage of any sublicense revenue generated by Solasia. Solasia will be responsible for all costs related to the development, manufacturing and commercialization of darinaparsin. The Company’s licensors, as defined in the Solasia License and Collaboration Agreement, will receive a portion of all milestone and royalty payments made by Solasia to the Company in accordance with the terms of the Solasia License and Collaboration Agreement with the licensors, as described above. In June 2022, Solasia announced that darinaparsin had been approved from relapsed or refractory Peripheral T-Cell Lymphoma by the Ministry of Health, Labor and Welfare in Japan. During the three and nine months ended September 30, 2022, the Company recorded $2.9 million of collaboration revenue under the Solasia License and Collaboration Agreement primarily related to Solasia's achievement of certain sales-based milestones in Japan. During the three and nine months ended September 30, 2021, the Company recorded $ 0.4 million of collaboration revenue under the Solasia License and Collaboration Agreement. During the three and nine months ended September 30, 2022 and 2021, the Company did no t record royalty revenues on net sales of darinaparsin under this agreement. 10. Stock-Based Compensation The Company recognized stock-based compensation expense on all employee and non-employee awards as follows: For the Three Months Ended September 30, For the Nine Months Ended September 30, (in thousands) 2022 2021 2022 2021 Research and development 145 535 673 2,115 General and administrative 663 1,836 1,978 7,742 Stock-based compensation expense $ 808 $ 2,371 $ 2,651 $ 9,857 The Company granted an aggregate of 1,275,000 stock options during the three months ended September 30, 2022, with a weighted-average grant date fair value of $ 1.52 per share, and granted an aggregate of 4,667,500 stock options during the nine months ended September 30, 2022, with a weighted-average grant date fair value of $ 0.67 per share. The Company granted an aggregate of 2,755,000 stock options during the three months ended September 30, 2021, with a weighted-average grant date fair value of $ 1.08 per share, and granted an aggregate of 7,150,438 stock options during the nine months ended September 30, 2021, with a weighted-average grant date fair value of $ 1.91 per share. For the three and nine months ended September 30, 2022 and 2021, the fair value of stock options was estimated on the date of grant using a Black-Scholes option valuation model with the following assumptio For the Three Months Ended September 30, For the Nine Months Ended September 30, 2022 2021 2022 2021 Risk-free interest rate 2.94 – 3.62 % 0.89 – 0.96 % 1.63 – 3.62 % 0.50 – 1.15 % Expected life in years 6.23 - 6.25 6.00 - 6.25 5.27 - 6.25 5.50 - 6.25 Expected volatility 82.43 - 85.89 % 72.53 - 72.84 % 74.49 - 85.89 % 72.53 - 74.80 % Expected dividend yield — % — % — % — % 2. Stock option activity under the Company’s stock option plans for the nine months ended September 30, 2022 is as follows: 15 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) (in thousands, except share and per share data) Number of Shares Weighted- Average Exercise Price Weighted- Average Contractual Term (Years) Aggregate Intrinsic Value Outstanding, December 31, 2021 10,665,869 $ 2.87 Granted 4,667,500 1.08 Exercised ( 26,250 ) 0.80 Cancelled ( 4,683,904 ) 3.40 Outstanding, September 30, 2022 10,623,215 $ 1.85 8.27 $ 3,572 Options exercisable, September 30, 2022 3,211,631 $ 2.69 7.01 $ 510 Options exercisable, December 31, 2021 4,410,312 $ 3.85 7.53 $ — Options available for future grant, September 30, 2022 15,245,494 At September 30, 2022, total unrecognized compensation costs related to unvested stock options outstanding amounted to $ 7.1 million. The cost is expected to be recognized over a weighted-average period of 2.01 years. A summary of the status of unvested restricted stock for the nine months ended September 30, 2022 is as follows: Number of Shares Weighted-Average Grant Date Fair Value Unvested, December 31, 2021 1,198,580 $ 2.10 Granted 280,000 0.82 Vested ( 305,679 ) 2.28 Cancelled ( 232,901 ) 3.15 Unvested, September 30, 2022 940,000 $ 1.41 At September 30, 2022, total unrecognized compensation costs related to unvested restricted stock outstanding amounted to $ 1.2 million. The cost is expected to be recognized over a weighted-average period of 1.83 years. 11. Warrants In connection with the Company’s November 2018 private placement that provided net proceeds of approximately $ 47.1 million, the Company issued warrants to purchase an aggregate of 18,939,394 shares of common stock, which became exercisable six months after the closing of the private placement (the "November 2018 Warrants"). The November 2018 Warrants had an exercise price of $ 3.01 per share and have a five-year term. The fair value of the November 2018 Warrants was estimated at $ 18.4 million using a Black-Scholes model with the following assumptio expected volatility of 71 %, risk free interest rate of 2.99 %, expected life of five years and no dividends. On July 26, 2019 and September 12, 2019, the Company entered into agreements with existing investors whereby the investors exercised the November 2018 Warrants for an aggregate of 17,803,031 shares of common stock, at an exercise price of $ 3.01 per share. Proceeds from the warrant exercise after deducting placement agent fees and other related expenses of $ 1.1 million were approximately $ 52.5 million. The Company issued participating investors new warrants to purchase up to 17,803,031 additional shares of common stock (the "2019 Warrants") as consideration for the warrant holders to exercise their November 2018 Warrants. The 2019 Warrants will expire on the fifth anniversary of the initial exercise date and have an exercise price of $ 7.00 . The 2019 Warrants were valued using a Black-Scholes valuation model and resulted in a $ 60.8 million non-cash charge in the Company’s statement of operations in 2019. On October 22, 2019, the Company entered into the 2019 R&D Agreement with MD Anderson. In connection with the execution of the 2019 R&D Agreement, the Company issued the MD Anderson Warrant to purchase 3,333,333 shares of common stock. The MD Anderson Warrant has an initial exercise price of $ 0.001 per share and grant date fair value of $ 14.5 million. The MD Anderson Warrant expires on December 31, 2026 and vests upon the occurrence of certain clinical milestones. The Company will recognize expense on the MD Anderson Warrant in the same manner as if the Company paid cash for services to be rendered. For the three and nine months ended September 30, 2022 and September 30, 2021, the Company did not recognize any expense related to the MD Anderson Warrant as the clinical milestones had not been achieved. On August 6, 2021, the Company entered into the Loan and Security Agreement with SVB. Refer to Note 4 - Debt . In connection with the Loan and Security Agreement, the Company issued SVB warrants to purchase 432,844 shares of common stock with an exercise 16 Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS (unaudited) price of $2.22 per share. The warrants have a ten-year life and were fully vested upon issuance. The fair value of the warrants was estimated at $ 0.8 million using a Black-Scholes model with the following assumptio expected volatility of 79 %, risk free interest rate of 1.31 %, expected life of ten years and no dividends. On December 28, 2021, the Company entered into the Amendment, as described in Note 4 - Debt, in connection with which, the original warrants issued to SVB were amended and restated. As amended and restated, the SVB Warrants are for up to 649,615 shares of common stock, in the aggregate, at an exercise price per share of $1.16 . The SVB Warrants expire on August 6, 2031 and were fully vested upon issuance. Using a Black-Scholes model with an expected volatility of 81 %, risk free interest rate of 1.49 %, expected life of 10 years and no dividends, the Company recorded a $ 0.2 million increase in the fair value of the SVB Warrants due to the modification of the SVB Warrants. The Company assessed whether the SVB Warrants require accounting as derivatives. The Company determined that the SVB Warrants were (1) indexed to the Company’s own stock and (2) classified in stockholders’ equity in accordance with FASB Accounting Standards Codification (“ASC”) Topic 815, Derivatives and Hedging . As such, the Company has concluded the SVB Warrants meet the scope exception for determining whether the instruments require accounting as derivatives and should be classified in stockholders’ equity. 12. Joint Venture On December 18, 2018, the Company entered into a Framework Agreement with TriArm whereby the parties agreed to launch Eden BioCell, to lead clinical development and commercialization of certain Sleeping Beauty -generated CAR-T therapies as set forth in a separate license agreement. On January 3, 2019, Eden BioCell was incorporated in Hong Kong as a private company. Eden BioCell, the Company and TriArm entered into a Share Subscription Agreement on January 23, 2019, where the Company and TriArm agreed to contribute certain intellectual property, services and cash (only with respect to TriArm) to Eden BioCell to subscribe for a certain number of newly issued ordinary shares in the share capital of Eden BioCell. The closing of the transaction occurred on July 5, 2019. The Framework Agreement and Share Subscription Agreements were each respectively amended to be effective as of this date. Upon consummation of the joint venture, Eden BioCell and the Company also entered into a license agreement, pursuant to which the Company licensed the rights to Eden BioCell for third generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen for the territory of China (including Macau and Hong Kong), Taiwan and Korea. TriArm and the Company each received a 50 % equity interest in the joint venture in exchange for their contributions to Eden BioCell. The Company determined that Eden BioCell was considered a variable interest entity, or VIE, and concluded that it is not the primary beneficiary of the VIE as it did not have the power to direct the activities of the VIE. As a result, the Company accounts for the equity interest in Eden BioCell under the equity method of accounting as it has the ability to exercise significant influence. In March 2021, Eden BioCell began treating patients in a clinical trial with the Company’s investigational CD19 RPM CAR-T cell therapy, under the IND cleared by the Taiwan FDA in December 2020. In the first half of 2021, two patients were treated in this trial. The lead investigator at National Taiwan University in Taipei, has reported no serious adverse safety events in either of these patients. Laboratory results continue to support, as previously published, that non-viral Sleeping Beauty gene transfer is effective in genetically modifying autologous T-cells. Patients were infused two days after gene transfer, thus shortening the turnaround time and demonstrating an advantage over viral methods. Based on laboratory data from the first two patients generated between March and May 2021, the TriArm/Eden team concluded, in concert with the investigator and the Company, that further process development work is required. In September 2021, TriArm and the Company mutually agreed to dissolve the joint venture. For the three and nine months ended September 30, 2022 and September 30, 2021, Eden BioCell incurred a net loss. The Company continues to have no commitment to fund its operations. 13. Subsequent Events The Company has evaluated subsequent events from the balance sheet date through the date on which these financial statements were issued. The Company did not have any material subsequent events that impacted its financial statements or disclosures. 17 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following information should be read in conjunction with our unaudited condensed financial statements and the notes thereto included in this Quarterly Report on Form 10-Q and the audited financial information and the notes thereto included in our Annual Report on Form 10-K, which was filed with the Securities and Exchange Commission, or the SEC, on March 30, 2022, or the Annual Report. Except for the historical information contained herein, the matters discussed in this Quarterly Report on Form 10-Q may be deemed to be forward-looking statements that involve risks and uncertainties. We make such forward-looking statements pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and other federal securities laws. In this Quarterly Report on Form 10-Q, words such as “may,” “expect,” “anticipate,” “estimate,” “intend,” “plan” and similar expressions (as well as other words or expressions referencing future events, conditions or circumstances) are intended to identify forward-looking statements. Our actual results and the timing of certain events may differ materially from the results discussed, projected, anticipated, or indicated in any forward-looking statements. We caution you that forward-looking statements are not guarantees of future performance and that our actual results of operations, financial condition and liquidity and the development of the industry in which we operate may differ materially from the forward-looking statements contained in this Quarterly Report. In addition, even if our results of operations, financial condition and liquidity and the development of the industry in which we operate are consistent with the forward-looking statements contained in this Quarterly Report, they may not be predictive of results or developments in future periods. The following information and any forward-looking statements should be considered in light of factors discussed elsewhere in this Quarterly Report on Form 10-Q, including those risks identified under Part II, Item 1A. Risk Factors. We caution readers not to place undue reliance on any forward-looking statements made by us, which speak only as of the date they are made. We disclaim any obligation, except as specifically required by law and the rules of the SEC, to publicly update or revise any such statements to reflect any change in our expectations or in events, conditions or circumstances on which any such statements may be based, or that may affect the likelihood that actual results will differ from those set forth in the forward-looking statements. Overview We are a clinical-stage oncology-focused cell therapy company developing adoptive TCR-T cell therapy, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. We are leveraging our cancer hotspot mutation TCR library and our proprietary, non-viral Sleeping Beauty gene transfer platform to design and manufacture patient-specific cell therapies that target neoantigens arising from shared tumor-specific mutations in key oncogenic genes, including KRAS , TP53 and EGFR . In collaboration with the MD Anderson Cancer Center, or MD Anderson, we are currently enrolling and treating patients for a Phase 1/2 clinical trial evaluating 10 TCRs reactive to mutated KRAS, TP53 and EGFR from our TCR library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers, which we refer to as our TCR-T Library Phase 1/2 Trial. We have not generated any product revenue and have incurred significant net losses in each year since our inception. For the nine months ended September 30, 2022, we had a net loss of $28.6 million, and as of September 30, 2022, we have incurred approximately $871.5 million of accumulated deficit since our inception in 2003. We expect to continue to incur significant operating expenditures and net losses. Further development of our product candidates will likely require substantial increases in our expenses as we: • continue to undertake clinical trials for product candidates; • seek regulatory approvals for product candidates; • work with regulatory authorities to identify and address program-related inquiries; • implement additional internal systems and infrastructure; • hire additional personnel; and • scale-up the formulation and manufacturing of our product candidates. We continue to seek additional financial resources to fund the further development of our product candidates. If we are unable to obtain sufficient additional capital, one or more of these programs could be delayed, and we may be unable to continue our operations at planned levels and be forced to reduce our operations. Because of the numerous risks and uncertainties associated with product development, we are unable to predict the timing or amount of increased expenses or when or if we will be able to achieve or maintain profitability. 18 Recent Developments TCR-T Library Phase 1/2 Trial We have seen encouraging early clinical safety, persistence and efficacy data in our first-in-human Sleeping Beauty TCR-T Library Phase 1/2 Trial that is actively enrolling patients with solid tumor cancers at MD Anderson Cancer Center. We presented information on the first two patients treated in September 2022 at the CRI-ENCI-AACR International Cancer Immunotherapy Conference, or CICON. We continue to perform translational assessments to assess the biological activity of our TCR-T cells in the first two patients. We believe that these data provide early clinical validation of the potential of Sleeping Beauty TCR-T cell therapy in high value indications with significant unmet need. Key takeaways from the clinical experience to date • Patients 1 and 2 demonstrated manageable safety profiles with no dose limiting toxicities (DLTs) or immune effector cell-associated neurotoxicity syndrome (ICANS); • Persistence of the TCR-T cells were evident in both patients. Patient 1 had persistence at 24 weeks with approximately 30% of the patient's total CD3+ T cells comprising TCR-T cells in peripheral blood after treatment with KRAS-G12D/HLA-A*11:01 mutation-specific TCR-T cells at dose level 1 (9x10 9 cells). Patient 2 had persistence at 12 weeks with approximately 20% of the patient's total CD3+ T cells comprising TCR-T cells in peripheral blood after treatment with TP53-R175H/HLA-A*02:01 mutation-specific TCR-T cells at dose level 2 (64x10 9 cells); • Demonstrating six month progression-free survival, Patient 1 had best overall response of objective, partial response with regression of greater than 50% of target lesions at 12 weeks post-cell therapy. Patient 2 had best overall response of stable disease at six weeks with 12 week progression-free survival. Progressive disease was observed in Patient 1 and Patient 2 at week 24 and week 12, respectively, and each patient subsequently went off study; • The targeted mutations, KRAS-G12D and TP53-R175H, were detected in progressing tumor biopsies suggesting no antigen loss; and • Tumor homing was observed in Patient 1 with infiltration of both CD4 and CD8 TCR-T cells six months post-TCR-T cell therapy. To our knowledge, achievement of an objective clinical response resulting from treatment with KRAS-G12D and HLA-A*11:01 specific TCR-T cells has not been reported until Patient 1 in our TCR-T Library Phase 1/2 Trial. Patient 1’s infusion product was high quality with 97.3% viability, 99.7% CD3+ purity and 95.2% TCR positivity. Patient 1’s target lesions were reduced compared to baseline by 46% at six weeks, 51% at 12 weeks and 46% at 24 weeks. At six months following treatment, an elective tumor biopsy of non-measurable disease in the right lung showed continued presence of tumor cells, KRAS-G12D mutation and HLA-A*11:01 allele which was corroborated by another elective scan at seven months. Patient 1 is now off study. Scans of Patient 1’s target lesions suggest the depth of the clinical response with evidence of durable and complete resolution of the right lower lobe target lesion (red circle) and non-measurable lymphogenic spread (orange circle) through week 24 (Image A) and reduction in the size of the three target lesions. Similar sustained reduction of the right upper lobe lesion (red circle) was observed through week 24 (Image B). The hilar lymph node (red circles) and non-measurable right lung disease (orange circle) appear to have reduced in size at week 24 compared to baseline measurements (Image C). Measurements of Patient 1's lesions are provided at Table D. (A) 19 (B) (C) (D) Patient 2's treatment was the first-in-human Sleeping Beauty TCR-T cell therapy targeting TP53 hotspot mutations and was well tolerated. The TCR-T cells demonstrated persistence and the patient showed signs of clinical efficacy. The same TCR used by the NCI to treat breast cancer, which resulted in a 6-month confirmed, objective partial response, was used to treat Patient 2. Patient 2 received highly pure TCR-T cells (92.5% viability, 99% CD3+ purity, and 92% TCR positivity). Reduction of target lesions by 15% from baseline was observed at six weeks post-infusion, but we observed 21.8% growth of lesions from the week six measurements and appearance of new liver and lung metastases at week 12 signaled progressive disease in Patient 2, who is now off study. Lesion measurement data for Patient 2 are available at Table E. We anticipate treating our next patient before the end of 2022 and presenting an update on our TCR-T Library Phase 1/2 Trial in 2023. 20 (E) We intend to file an IND amendment to incorporate cryopreserved TCR-T cells in our clinical protocol by the end of 2022. This process improvement will also shorten the manufacturing time from 30 days to 26 days. Our IND amendment will also include two new TCRs, expanding our clinical library and further increasing the addressable market. Three of these 10 TCRs already in our clinical library have been associated with confirmed partial responses in a clinical setting, giving us great confidence in the power of TCRs to treat solid tumors. We have also updated our standard operating procedures to allow for simultaneous manufacture of two product candidates in our cGMP suite. We have increased our existing manufacturing capacity to produce two products simultaneously. mbIL-15 Program We are continuing to advance our mbIL-15 program towards an IND filing in the second half of 2023 and believe that this program has the potential to increase the survival of TCR-T cells in the harsh tumor microenvironment and deepen clinical responses. Solasia License and Collaboration Agreement In June 2022, Solasia Pharma K. K. ("Solasia") announced that darinaparsin has been approved for relapsed or refractory Peripheral T-Cell Lymphoma by the Ministry of Health, Labor and Welfare in Japan. During the third quarter of 2022, the Company recorded $2.9 million of collaboration revenue under the Solasia License and Collaboration Agreement primarily related to Solasia's achievement of certain sales-based milestones in Japan. Under the terms of a patent and technology license agreement with MD Anderson and the Texas A&M University System, following Solasia's achievement of sales-based milestones, the Company also recorded a one-time $2.5 million expense during the third quarter of 2022 to MD Anderson. Financial Overview Collaboration Revenue We recognize research and development funding revenue over the estimated period of performance. To date we have not generated product revenue. Unless and until we receive approval from the FDA and/or other regulatory authorities for our product candidates, we cannot sell our products and will not have product revenue. Research and Development Expenses Our research and development expenses consist primarily of salaries and related expenses for personnel, costs of contract manufacturing services, costs of facilities, reagents, and equipment, fees paid to professional service providers in conjunction with our clinical trials, fees paid to contract research organizations in conjunction with clinical trials, fees paid to contract research organizations in conjunction with costs of materials used in research and development, consulting, license and milestone payments and sponsored research fees paid to third parties. Our future research and development expenses in support of our current and future programs will be subject to numerous uncertainties in timing and cost to completion. We test potential products in numerous preclinical studies for safety, toxicology and efficacy. We may conduct multiple clinical trials for each product. As we obtain results from trials, we may elect to discontinue or delay clinical trials for certain products in order to focus our resources on more promising products or indications. Completion of clinical trials may take several years or more, and the length of time generally varies substantially according to the type, complexity, novelty and 21 intended use of a product. It is not unusual for preclinical and clinical development of each of these types of products to require the expenditure of substantial resources. The duration and the cost of clinical trials may vary significantly over the life of a project as a result of differences arising during clinical development, including, among others, the followin • The number of clinical sites included in the trials; • The length of time required to enroll suitable patients; • The number of patients that ultimately participate in the trials; • The length of time and cost to develop and optimize manufacturing processes; • The cost to manufacture the clinical products for patients; • The duration of patient follow-up to ensure the absence of long-term product-related adverse events; and • The efficacy and safety profile of the product. As a result of the uncertainties discussed above, we are unable to determine the duration and completion costs of our programs or when and to what extent we will receive cash inflows from the commercialization and sale of a product. Our inability to complete our programs in a timely manner or our failure to enter into appropriate collaborative agreements could significantly increase our capital requirements and could adversely impact our liquidity. These uncertainties could force us to reduce or eliminate our activities in one or more of our programs or seek additional, external sources of financing from time-to-time in order to continue with our product development strategy. Our inability to raise additional capital, or to do so on terms reasonably acceptable to us, would jeopardize the future success of our business. General and Administrative Expenses General and administrative expenses consist primarily of salaries, benefits and stock-based compensation, consulting and professional fees, including patent related costs, general corporate costs and facility costs not otherwise included in research and development expenses or cost of product revenue. Other Income (Expense) Other income (expense) consists of interest expense associated with our Amended Loan and Security Agreement, as defined below, and sublease income, which started accruing on July 1, 2022. Overview of Results of Operations Three and Nine Months Ended September 30, 2022 Compared to Three and Nine Months Ended September 30, 2021 Collaboration Revenue Collaboration revenue during the three and nine months ended September 30, 2022 and 2021 was as follows: Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 Change 2022 2021 Change ($ in thousands) Collaboration revenue $ 2,911 $ 398 $ 2,513 631 % $ 2,911 $ 398 $ 2,513 631 % Collaboration revenue during the three and nine months ended September 30, 2022 was $2.9 million as compared to $0.4 million during the three and nine months ended September 30, 2021, due to revenue earned under the Solasia License and Collaboration Agreement. Research and Development Expenses Research and development expenses during the three and nine months ended September 30, 2022 and 2021 were as follows: Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 Change 2022 2021 Change ($ in thousands) Research and development expenses $ 7,893 $ 14,521 $ (6,628 ) (46 )% $ 19,411 $ 41,427 $ (22,016 ) (53 )% 22 Research and development expenses for the three months ended September 30, 2022 decreased by $6.6 million when compared to the three months ended September 30, 2021 primarily due to a decrease in program-related costs of $3.6 million, mainly related to the winding down of our IL-12 and CAR-T programs, a $4.9 million decrease in employee related expenses due to our reduced headcount, including a $2.2 million restructuring charge in the third quarter of 2021, following our strategic restructuring event, a $0.4 million decrease in consulting expenses due to reduced use of consultants and a $0.2 million decrease in facilities costs due to the partial termination of one of our leases. These decreases were partially offset by a one-time $2.5 million expense to MD Anderson under the terms of our patent and technology license agreement. Research and development expenses for the nine months ended September 30, 2022 decreased by $22.0 million when compared to the nine months ended September 30, 2021 primarily due to a decrease in program-related costs of $8.4 million, mainly related to the winding down of our IL-12 and CAR-T programs, a $14.7 million decrease in employee related expenses due to our reduced headcount, including a $2.2 million restructuring charge in the third quarter of 2021, following our strategic restructuring event, a $1.0 million decrease in consulting expenses due to reduced use of consultants and a $0.2 million decrease in facilities costs due to the partial termination of one of our leases. These decreases were partially offset by a one-time $2.5 million expense to MD Anderson under the terms of our patent and technology license agreement. For the three and nine months ended September 30, 2022, our clinical stage projects included our TCR-T Library Phase 1/2 Trial evaluating TCRs from our library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers. General and administrative expenses General and administrative expenses during the three and nine months ended September 30, 2022 and 2021 were as follows: Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 Change 2022 2021 Change ($ in thousands) General and administrative expenses $ 3,282 $ 8,173 $ (4,891 ) (60 )% $ 10,217 $ 25,469 $ (15,252 ) (60 )% General and administrative expenses for the three months ended September 30, 2022 decreased by $4.9 million as compared to the three months ended September 30, 2021, primarily due to a $3.2 million decrease in employee related expenses due to our reduced headcount, including a $1.3 million restructuring charge in the third quarter of 2021, following our strategic restructuring event and a $1.7 million decrease in consulting and professional services expenses due to lower legal costs and reduced use of consultants. General and administrative expenses for the nine months ended September 30, 2022 decreased by $15.3 million as compared to the nine months ended September 30, 2021, primarily due to a $12.4 million decrease in employee related expenses due to our reduced headcount, including a $1.3 million restructuring charge in the third quarter of 2021, following our strategic restructuring event, a $2.8 million decrease in consulting and professional services expenses due to lower legal costs and reduced use of consultants and a $0.2 million decrease in facilities-related costs due to the expiration of two of our leases during 2021. Gain on lease modification Gain on lease modifications during the three and nine months ended September 30, 2022 and 2021 was as follows: Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 Change 2022 2021 Change ($ in thousands) Gain on lease modification $ — $ — $ — —% $ (133 ) $ — $ (133 ) 100 % There was no gain on lease modification during the three months ended September 30, 2022 and 2021. Gain on lease modification during the nine months ended September 30, 2022 was $0.1 million as compared to $0 during the nine months ended September 30, 2021. As a result of a real estate lease modification during the second quarter of 2022, the associated lease liability and right-of-use asset were remeasured based on the revised lease payments, resulting in a gain of $0.1 million. 23 Other income (expense), net Other income (expense), net during the three and nine months ended September 30, 2022 and 2021 was as follows: Three Months Ended September 30, Nine Months Ended September 30, 2022 2021 Change 2022 2021 Change ($ in thousands) Interest expense $ (841 ) $ (444 ) $ (397 ) 89 % $ (2,266 ) $ (444 ) $ (1,822 ) 410 % Other income (expense), net 254 7 247 3529 % 279 (15 ) 294 (1960 )% Total $ (587 ) $ (437 ) $ (150 ) 34 % $ (1,987 ) $ (459 ) $ (1,528 ) 333 % Other income (expense), net for the three months ended September 30, 2022 increased by $0.2 million as compared to the three months ended September 30, 2021, primarily due to $0.4 million of interest expense associated with our Amended Loan and Security Agreement, partially offset by $0.2 million of interest income. Other income (expense), net for the nine months ended September 30, 2022 increased by $1.5 million as compared to the nine months ended September 30, 2021, primarily due to $1.8 million of interest expense associated with our Amended Loan and Security Agreement, partially offset by $0.3 million of interest income. Liquidity and Capital Resources Sources of Liquidity We have not generated any revenue from product sales. Since inception, we have incurred net losses and negative cash flows from our operations. To date, we have financed our operations primarily through public offerings of our common stock, private placements of our convertible equity securities, term debt and collaborations. Through September 30, 2022, we have received an aggregate of $714.1 million from issuances of equity and $25.0 million from our Amended Loan and Security Agreement. We follow the guidance of Accounting Standards Codification ("ASC") Topic 205-40, Presentation of Financial Statements - Going Concern , in order to determine whether there is substantial doubt about our ability to continue as a going concern for one year after the date our financial statements are issued. Given our current development plans and cash management efforts, we anticipate that our cash resources will be sufficient to fund operations into the second quarter of 2023. Our ability to continue operations after our current cash resources are exhausted depends on our ability to obtain additional financing, as to which no assurances can be given. Cash requirements may vary materially from those now planned because of changes in our focus and direction of our research and development programs, competitive and technical advances, patent developments, regulatory changes or other developments. If adequate additional funds are not available when required, management may need to curtail its development efforts and planned operations to conserve cash. Based on the current cash forecast, management has determined that our present capital resources will not be sufficient to fund our planned operations for at least one year from the issuance date of the financial statements, which raises substantial doubt as to our ability to continue as a going concern. This forecast of cash resources and planned operations is forward-looking information that involves risks and uncertainties, and the actual amount of expenses could vary materially and adversely as a result of a number of factors. 2022 Equity Distribution Agreement On August 12, 2022, we entered into an Equity Distribution Agreement (the “Equity Distribution Agreement”) with Piper Sandler & Co. (“Piper Sandler”), pursuant to which we can offer and sell, from time to time at our sole discretion, shares of our common stock having an aggregate offering price of up to $50 million through Piper Sandler as our sales agent in an “at the market offering.” Piper Sandler will receive a commission of 3.0% of the gross proceeds of any common stock sold under the Equity Distribution Agreement. During the three and nine months ended September 30, 2022, there were no sales of our common stock under the Equity Distribution Agreement. In connection with entering into the Equity Distribution Agreement, we concurrently terminated, effective August 12, 2022, the Open Market Sale Agreement, dated June 21, 2019, governing our former “at the market offering” program. 2021 Loan and Security Agreement On August 6, 2021, we entered into a Loan and Security Agreement (the "Loan and Security Agreement") with Silicon Valley Bank and affiliates of Silicon Valley Bank (collectively, "SVB"). The Loan and Security Agreement provided for an initial term loan of 24 $25.0 million funded at the closing (the "Term A Tranche"), with an additional tranche of $25.0 million available if certain funding and clinical milestones were met by August 31, 2022 (the "Term B Tranche"). Effective December 28, 2021, we entered into a First Amendment (the "Amendment") to the Loan and Security Agreement (as so amended, the "Amended Loan and Security Agreement"). As of September 30, 2022, the SVB Facility was fully drawn in the amount of $25.0 million. The SVB Facility bears interest at a floating rate per annum on the outstanding loans, payable monthly, at the greater of (a) 7.75% and (b) the current published U.S. prime rate, plus a margin of 4.5%. The Amended Loan and Security Agreement provided for an interest-only period which extended through August 31, 2022, as compared to March 31, 2022 in the Loan and Security Agreement. On or prior to August 31, 2022, we had not (i) received at least $50.0 million in net cash proceeds from the sale of our equity securities after the date of the Amended Loan and Security Agreement, on terms acceptable to SVB, nor (ii) achieved positive data in the first cohort of the TCR-T Library Phase 1/2 Trial endorsed by an independent safety monitoring committee as a safe dose to proceed (together, the “Amended Milestones”), and therefore, the interest-only period was not extended beyond August 31, 2022. Commencing on September 1, 2022, aggregate outstanding borrowings are repayable in twelve consecutive, equal monthly installments of principal plus accrued interest. All outstanding obligations under the Amended Loan and Security Agreement are due and payable on August 1, 2023. We will also owe SVB 5.75% of the original principal amounts borrowed as a final payment (the "Final Payment"). We are permitted to make up to two prepayments, subject to a prepayment premium of the amount being prepaid, ranging from 1.00% to 2.00%, of the SVB Facility, each such prepayment to be at least $5.0 million plus all accrued and unpaid interest on the portion being prepaid. As a result of not achieving the Amended Milestones on or prior to August 31, 2022, the Amended Loan and Security Agreement requires us to cash collateralize half of the sum of the then-outstanding principal amount of the SVB Facility, plus an amount equal to 5.75% of the original principal amount of the SVB Facility. As of September 30, 2022, we have collateralized $13.9 million, which is classified as restricted cash on the balance sheet. So long as no event of default has occurred and subject to certain other terms related to the remaining outstanding balance under the SVB Facility being satisfied, $2.5 million will be released from the collateral account following the eighth scheduled payment of principal and interest, and a further $4.0 million will be released following the tenth scheduled payment of principal and interest. The SVB Facility and related obligations under the Amended Loan and Security Agreement are secured by substantially all of our properties, rights and assets, except for its intellectual property (which is subject to a negative pledge under the Amended Loan and Security Agreement). In addition, the Amended Loan and Security Agreement contains customary representations, warranties, events of default and covenants. In connection with our entry into the Loan and Security Agreement, we issued to SVB warrants to purchase (i) up to 432,844 shares of our common stock, in the aggregate, and (ii) up to an additional 432,842 shares of Common Stock, in the aggregate, in the event we achieved certain clinical milestones, in each case at an exercise price per share of $2.22. In connection with our entry into the Amendment, we amended and restated the warrants issued to SVB. As amended and restated, the warrants are for up to 649,615 shares of our common stock, in the aggregate, at an exercise price per share of $1.16, or the SVB Warrants. The SVB Warrants expire on August 6, 2031. The issuance costs for the Loan and Security Agreement, including the Amended Loan and Security Agreement, were approximately $1.2 million and primarily related to the SVB Warrants, which will be amortized into interest expense over the period to August 1, 2023. Interest expense was $0.8 million for the three months ended September 30, 2022 and was $2.3 million for the nine months ended September 30, 2022. The fair value of the Amended Loan and Security Agreement as of September 30, 2022 approximates its face value. Cash Flows The following table summarizes our net decrease in cash and cash equivalents for the nine months ended September 30, 2022 and 2021: Nine Months Ended September 30, 2022 2021 ($ in thousands) Net cash provided by (used in): Operating activities $ (22,102 ) $ (46,342 ) Investing activities (100 ) (2,964 ) Financing activities (2,107 ) 25,962 Net decrease in cash and cash equivalents $ (24,309 ) $ (23,344 ) 25 Cash flows from operating activities represent the cash receipts and disbursements related to all of our activities other than investing and financing activities. Operating activities is derived by adjusting our net loss • Non-cash operating items such as depreciation and stock-based compensation; and • Changes in operating assets and liabilities which reflect timing differences between the receipt and payment of cash associated with transactions and when they are recognized in results of operations. Net cash used in operating activities for the nine months ended September 30, 2022 was $22.1 million, as compared to net cash used in operating activities of $46.3 million for the nine months ended September 30, 2021. The net cash used in operating activities for the nine months ended September 30, 2022 was primarily due to our net loss of $28.6 million, adjusted for $7.5 million of non-cash items such as depreciation, stock-based compensation and a decrease in the carrying amount of right-of-use lease assets, a $2.4 million decrease in lease liabilities, a $1.8 million increase in accounts receivable, offset by an increase in accounts payable of $0.6 million, a $1.5 million increase in accrued expenses, and a decrease to prepaid expenses and other assets of $0.9 million. Net cash used in investing activities was $0.1 million for the nine months ended September 30, 2022, compared to $3.0 million for the nine months ended September 30, 2021. The decrease was primarily a result of the decision to use available cash to expand our internal cell therapy capabilities in our Houston, Texas facilities during the first half of 2021. Net cash used in financing activities for the nine months ended September 30, 2022 was $2.1 million, primarily related to the repayment of long-term debt. Net cash provided by financing activities during the nine months ended September 30, 2021 was $26.0 million, related primarily to proceeds from the issuance of long-term debt and proceeds from the exercise of stock options. Operating Capital and Capital Expenditure Requirements We anticipate that losses will continue for the foreseeable future. As of September 30, 2022, our accumulated deficit was approximately $871.5 million. Our actual cash requirements may vary materially from those planned because of a number of factors, includin • changes in the focus, direction and pace of our development programs; • the effect of competing technologies and market developments; • the scope, progress, timing, costs and results of our TCR-T Library Phase 1/2 Trial for the treatment of certain solid tumors and costs associated with the development of our product candidates; • our headcount growth focused on our TCR program and scaling our manufacturing capabilities; • our ability to secure partnering arrangements; and • costs of filing, prosecuting, defending and enforcing any patent claims and any other intellectual property rights, or other developments. As of September 30, 2022, we had approximately $37.8 million of cash and cash equivalents and $13.9 million of restricted cash related to the Amended Loan and Security Agreement. Given our current development plans, we anticipate our cash resources will be sufficient to fund our operations into the second quarter of 2023. In order to continue our operations beyond our forecasted runway, we will need to raise additional capital, and we have no committed sources of additional capital at this time. The forecast of cash resources is forward-looking information that involves risks and uncertainties, and the actual amount of our expenses could vary materially and adversely as a result of a number of factors. We have based our estimates on assumptions that may prove to be wrong, and our expenses could prove to be significantly higher than we currently anticipate. Management does not know whether additional financing will be on terms favorable or acceptable to us when needed, if at all. If adequate additional funds are not available when required, management may need to curtail its development efforts and planned operations. Working capital, which excludes restricted cash, as of September 30, 2022 was $8.7 million, consisting of $41.6 million in current assets and $32.9 million in current liabilities. Working capital as of December 31, 2021 was $62.8 million, consisting of $78.8 million in current assets and $16.0 million in current liabilities. Operating Leases Our commitments for operating leases relate to laboratory and office space in Houston, Texas and office space in Boston, Massachusetts. On December 21, 2015 and April 15, 2016, we renewed the sublease for our office space in Boston through August 31, 2021. On April 22, 2021, we extended our sublease for a portion of office space at our office in Boston through August 31, 2026. On March 12, 2019, we entered into a lease agreement for office space in Houston at MD Anderson through April 2021. On October 15, 2019, we entered into another lease agreement for additional office and laboratory space in Houston through February 2027. On 26 April 7, 2020, we entered into amendments to our existing lease to lease additional office and laboratory space in Houston through February 2027. In June and September 2020, we entered into short-term leases in Houston for additional office and laboratory space. On December 15, 2020, we entered into a second lease in Houston with MD Anderson which provided us additional office and laboratory space through April 2028. In the second quarter of 2022, the Company modified its real estate lease agreement executed on December 15, 2020 with MD Anderson. The modification reduced the Company's leased space from 18,111 square feet to 3,228 square feet. As a result, the associated lease liability and right-of-use asset were remeasured to $0.4 million based on revised lease payments. A gain of $0.1 million was also recorded on the lease modification in the second quarter of 2022. Royalty and License Fees On May 28, 2019, we entered into a patent license agreement, or the Patent License, with the National Cancer Institute, or the NCI. The terms of the Patent License require us to pay the NCI minimum annual royalties in the amount of $0.3 million, which will be reduced to $0.1 million once the aggregate minimum annual royalties paid by us equals $1.5 million. For the three months ended September 30, 2022 and 2021, we recognized $0 related to royalty payments under this agreement, and we recognized $0.3 million in royalty payments under this agreement for the nine months ended September 30, 2022 and 2021. As of September 30, 2022, we have paid a total of $0.5 million in minimum annual royalty payments under this agreement. Pursuant to the Patent License, we are also required to make performance-based payments contingent upon the successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $4.3 million, of which aggregate payments of $3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $0.1 million was due upon the initiation of our first sponsored Phase 1 clinical trial of a licensed product or licensed process in the field of use licensed under the Patent License. In addition, we are required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $250.0 million to $1.0 billion. The aggregate potential amount of these benchmark payments is $12.0 million. Payments totaling $0 and $0.1 million were made during the three and nine months ended September 30, 2022 related to the first benchmark payment, as compared to $0 during the three and nine months ended September 30, 2021. On October 5, 2018, we entered into an exclusive license agreement, or the License Agreement, with PGEN Therapeutics, Inc., or PGEN, a wholly owned subsidiary of Precigen Inc., or Precigen. Under the License Agreement, we are obligated to pay PGEN an annual licensing fee of $0.1 million expected to be paid through the term of the License Agreement and we have also agreed to reimburse certain historical costs of PGEN up to $1.0 million. For the three and nine months ended September 30, 2022 and September 30, 2021, we have made licensing fee payments in accordance with the terms of the License Agreement. Pursuant to the terms of the License Agreement, we are responsible for contingent milestone payments totaling up to an additional $52.5 million for each exclusively licensed program upon the initiation of later stage clinical trials and upon the approval of exclusively licensed products in various jurisdictions. In addition, we will pay PGEN tiered royalties ranging from low-single digits to high-single digits on the net sales derived from the sale of any approved IL-12 products and CAR products. We will also pay PGEN royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of any approved TCR products, up to a maximum royalty amount of $100.0 million in the aggregate. We will also pay PGEN twenty percent of any sublicensing income received by us relating to the licensed products. We are responsible for all development costs associated with each of the licensed products. PGEN will pay us royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of PGEN’s CAR products, up to a maximum royalty amount of $100.0 million. Critical Accounting Policies and Estimates In our Annual Report on Form 10-K for the year ended December 31, 2021, our most critical accounting policies and estimates upon which our financial status depends were identified as those relating to clinical trial expenses and other research and development expenses; collaboration agreements; fair value measurements for stock-based compensation; and income taxes. We reviewed our policies and determined that those policies remain our most critical accounting policies for the three and nine months ended September 30, 2022. Item 3. Quantitative and Qualitative Disclosures about Market Risk. As a smaller reporting company, as defined by Rule 12b-2 under the Securities Exchange Act of 1934, as amended, or the Exchange Act, we are not required to provide the information under this item. Item 4. Controls and Procedures. Evaluation of Disclosure Controls and Procedures 27 Our management, with the participation of our principal executive officer and principal accounting officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) or 15d-15(e) under the Exchange Act) as of September 30, 2022. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by the company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal accounting officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Our management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and our management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of our disclosure controls and procedures as of September 30, 2022, our principal executive officer and principal accounting officer concluded that, as of such date, our disclosure controls and procedures were effective. Changes in Internal Control over Financial Reporting There were no changes in our internal control over financial reporting (as defined in Rule 13(a)-15(f) of the Exchange Act) that occurred during the quarter ended September 30, 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 28 PART II—OTHER INFORMATION Item 1. Legal Proceedings In the ordinary course of business, we may periodically become subject to legal proceedings and claims arising in connection with ongoing business activities from time to time. The results of litigation and claims cannot be predicted with certainty, and unfavorable resolutions are possible and could materially affect our results of operations, cash flows or financial position. In addition, regardless of the outcome, litigation could have an adverse impact on us because of defense costs, diversion of management attention and resources and other factors. As of September 30, 2022, based on information readily available, there are no material matters that, in the opinion of management, are likely to result in a material adverse effect on our financial position, results of operations or cash flows. Item 1A. Risk Factors The following important factors could cause our actual business and financial results to differ materially from those contained in forward-looking statements made in this Quarterly Report on Form 10-Q or elsewhere by management from time to time. The risk factors in this Quarterly Report have been revised to incorporate changes to our risk factors from those included in our Annual Report. The risk factors set forth below with an asterisk (*) before the title are new risk factors or ones containing substantive changes from the risk factors previously disclosed in Item 1A of our Annual Report, as filed with the SEC. The market price of our common stock could decline if one or more of these risks or uncertainties actually occur, causing you to lose all or part of your investment. This situation is changing rapidly and additional impacts may arise. Additional risks that we currently do not know about, or that we currently believe to be immaterial, may also impair our business. Certain statements below are forward-looking statements. See “Special Note Regarding Forward-Looking Statements” in this Quarterly Report. RISKS RELATED TO OUR BUSINESS *We will require substantial additional financial resources to continue as a going concern and to continue ongoing development of our product candidates and pursue our business objectives; if we are unable to obtain these additional resources when needed, we may be forced to delay or discontinue our planned operations, including clinical testing of our product candidates. We have not generated significant revenue and have incurred significant net losses in each year since our inception. For the nine months ended September 30, 2022, we had a net loss of $28.6 million, and, as of September 30, 2022, our accumulated deficit since inception in 2003 was $871.5 million. We expect our operating expenditures and net losses to increase significantly in connection with our ongoing clinical trial and our internal research and development capabilities. Further development of our product candidates will require substantial increases in our expenses as we: • continue to undertake clinical trials for product candidates; • scale-up and scale-out the manufacturing of our TCR-T product candidates; • seek regulatory approvals for product candidates; • work with regulatory authorities to identify and address program-related inquiries; • implement additional internal systems and infrastructure; and • hire additional personnel, including highly-skilled and experienced scientific staff. As of September 30, 2022, we have approximately $37.8 million of cash and cash equivalents and $13.9 million of restricted cash related to the Amended Loan and Security Agreement. Given our current development plans and cash management efforts, we anticipate cash resources will be sufficient to fund operations into the second quarter of 2023. We have no committed sources of additional capital at this time. We follow the guidance of Accounting Standards Codification ("ASC") Topic 205-40, Presentation of Financial Statements - Going Concern, in order to determine whether there is substantial doubt about our ability to continue as a going concern for one year after the date our financial statements are issued. Based on the current cash forecast, management has determined that our present capital resources will not be sufficient to fund our planned operations for at least one year from the issuance date of the financial statements, which raises substantial doubt as to our ability to continue as a going concern. The forecast of cash resources is forward-looking information that involves risks and uncertainties, and our actual cash requirements may vary materially from our current expectations for a number of other factors that may include, but are not limited to, changes in the focus and direction of our development programs, slower and/or faster than expected progress of our research and development efforts, changes in governmental regulation, competitive and technical advances, rising costs associated with the development of our product candidates, our ability to secure partnering arrangements, and costs of filing, prosecuting, defending and enforcing our intellectual property rights. Global political and economic events, including the COVID-19 pandemic and increased inflation, have already resulted in a significant disruption of global financial markets. If the disruption persists and deepens, we could experience an 29 inability to access additional capital or make the terms of any available financing less attractive, which could in the future negatively affect our operations. If we exhaust our capital reserves more quickly than anticipated, regardless of the reason, and we are unable to obtain additional financing on terms acceptable to us or at all, we may be required to delay, limit, reduce or terminate our product development or future commercialization efforts or grant rights to develop and market product candidates that we would otherwise prefer to develop and market ourselves. *We need to raise additional capital to fund our operations. The manner in which we raise any additional funds may affect the value of your investment in our common stock. Until such time, if ever, as we can generate substantial revenue, we expect to finance our cash needs through a combination of equity offerings, debt financings and license and collaboration agreements. We do not have any committed external source of funds. The unpredictability of the capital markets may severely hinder our ability to raise capital within the time periods needed or on terms we consider acceptable, if at all. In particular, a decline in the market price of our common stock could make it more difficult for us to sell equity or equity-related securities in the future at a time and price that we deem appropriate. Moreover, if we fail to advance one or more of our current product candidates into early or later-stage clinical trials, successfully commercialize one or more of our product candidates, or acquire new product candidates for development, we may have difficulty attracting investors that might otherwise be a source of additional financing. On August 6, 2021, we entered into the Loan and Security Agreement with SVB. The Loan and Security Agreement provided for an initial term loan of $25.0 million funded at the closing, with an additional tranche of $25.0 million available if certain funding and clinical milestones were met by August 31, 2022. In connection with the initial borrowing, we also issued warrants to SVB and certain of its affiliates for the purchase of up to 432,844 shares of our common stock, in the aggregate, at an exercise price of $2.22 per share. The Loan and Security Agreement was subsequently amended, effective December 28, 2021, to, among other things, eliminate the additional tranche so that the $25.0 million we have drawn down is the full amount available under the SVB Facility. As a result, we do not have any other borrowings available under the SVB Facility. In connection with entering into the Amendment we also amended and restated the warrants. These amended and restated warrants provide for the purchase of up to 649,615 shares of our common stock, in the aggregate, at an exercise price of $1.16 per share. The Amended Loan and Security Agreement also required us to cash collateralize half of the sum of the then-outstanding principal amount of the SVB Facility, plus an amount equal to 5.75% of the original principal amount of the SVB Facility in the event we failed to achieve the Amended Milestones. We did not achieve the Amended Milestones and as of September 30, 2022, are required to hold $13.9 million in a restricted cash collateral account with SVB. The collateralized cash represents a significant portion of our cash and cash equivalents that we are not able to access to fund our operations. To the extent that we raise additional capital by issuing equity securities, our existing stockholders’ ownership will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect the rights of our common stockholders. Debt financing and preferred equity financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, creating liens, making capital expenditures or declaring dividends. If we raise additional funds through collaborations, strategic alliances or marketing, distribution or licensing arrangements with third parties, we may have to relinquish valuable rights to our technologies, future revenue streams, research programs or product candidates or grant licenses on terms that may not be favorable to us. *We have incurred indebtedness that could adversely affect our business and place restrictions on our operating and financial flexibility. The Amended Loan and Security Agreement contains customary affirmative and negative covenants and events of default applicable to us and any subsidiaries. The affirmative covenants require us (and us to cause our subsidiaries, if any) to maintain governmental approvals, deliver certain financial reports, maintain insurance coverage, and protect material intellectual property, among other things. The negative covenants restrict our and our subsidiaries’ ability to, among other things, transfer collateral, change our business, engage in mergers or acquisitions, incur additional indebtedness, pay cash dividends or make other distributions, make investments, create liens, sell assets and make any payment on subordinated debt. The restrictive covenants of the Amended Loan and Security Agreement could cause us to be unable to pursue business opportunities that we or our stockholders may consider beneficial, including entering into certain licensing arrangements, maintaining flexible cash management arrangements and engaging in certain change in control transactions, among others. Our debt combined with our other financial obligations and contractual commitments could have significant adverse consequences for our business, includin • Requiring us to dedicate a substantial portion of cash flows to payment on our debt, which would reduce available funds for further research and development; • Increasing the amount of interest that we must pay on debt with variable interest rates, if market rates of interest increase; 30 • Subjecting us to restrictive covenants that reduce our ability to take certain corporate actions, acquire companies, products or technology, or obtain further debt financing; and • Requiring us to pledge our non-intellectual property assets as collateral, which could limit our ability to obtain additional debt financing. We intend to satisfy our debt service obligations with our existing cash and cash equivalents and any additional amounts we may raise through future debt and equity financings. Our ability to make payments due under the SVB Facility depends on our future performance, which is subject to economic, financial, competitive conditions and other factors beyond our control. We may not have sufficient funds or may be unable to arrange for additional financing to pay the amounts due under our existing debt. In addition, the Amended Loan and Security Agreement requires us to deposit unrestricted and unencumbered cash equal to 50% of the principal amount of the SVB Facility then outstanding and an amount equal to 5.75% of the original principal amount in a cash collateral account with SVB. As of September 30, 2022 we deposited $13.9 million in cash into the cash collateral account pursuant to the terms of the Amended Loan and Security Agreement. Failure to pay any amount due under the SVB Facility, to comply with covenants under the Amended Loan and Security Agreement, or the occurrence of an event that would reasonably be expected to have a material adverse effect on our business, operations, or condition (financial or otherwise), would result in an event of default. The occurrence and continuation of an event of default could cause interest to be charged at the rate that is otherwise applicable plus 3.00% (unless SVB elects to impose a smaller increase) and would provide SVB with the right to accelerate all obligations under the SVB Facility and exercise remedies against us and the collateral securing the SVB Facility and other obligations under the Amended Loan and Security Agreement, including foreclosure against assets securing the SVB Facility. In addition, the covenants under the Amended Loan and Security Agreement and the pledge of substantially all of our assets, excluding our intellectual property (which is subject to a negative pledge under the Amended Loan and Security Agreement), as collateral on the loan may limit our ability to obtain additional debt financing. *We have previously identified material weaknesses in our internal control, all of which have been remediated. We may identify additional material weaknesses in the future or otherwise fail to maintain an effective system of internal controls, which may result in material misstatements of our financial statements or could have a material adverse effect on our business and trading price of our securities. We are subject to the reporting requirements of the Exchange Act, the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, and the rules and regulations of the Nasdaq Global Select Market. Pursuant to Section 404 of the Sarbanes-Oxley Act, we are required to perform system and process evaluation and testing of our internal control over financial reporting to allow our management to report on the effectiveness of our internal control over financial reporting. We may also be required to have our independent registered public accounting firm issue an opinion on the effectiveness of our internal control over financial reporting on an annual basis. We have identified material weaknesses in our internal control over financial reporting in the past. A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of our financial statements will not be prevented or detected on a timely basis. Although the material weaknesses identified in the past have been remediated, we cannot assure you that any measures we have taken or may take in the future will be sufficient to avoid potential future material weaknesses. If we are unable to successfully remediate any future material weakness and maintain effective internal controls, we may not have adequate, accurate or timely financial information, and we may be unable to meet our reporting obligations as a public company, including the requirements of the Sarbanes-Oxley Act, we may be unable to accurately report our financial results in future periods, or report them within the timeframes required by the requirements of the SEC, Nasdaq or the Sarbanes-Oxley Act. Failure to comply with the Sarbanes-Oxley Act, when and as applicable, could also potentially subject us to sanctions or investigations by the SEC or other regulatory authorities. Any failure to maintain or implement required new or improved controls, or any difficulties we encounter in their implementation, could result in the identification of additional material weaknesses or significant deficiencies, cause us to fail to meet our reporting obligations or result in material misstatements in our financial statements. Furthermore, if we cannot provide reliable financial reports or prevent fraud, our business and results of operations could be harmed and investors could lose confidence in our reported financial information. Our plans to develop and commercialize non-viral adoptive TCR-T cell therapies can be considered a new approach to cancer treatment, the successful development of which is subject to significant challenges. We intend to employ technologies such as the technology licensed from MD Anderson pursuant to that certain license agreement between us, Precigen, and MD Anderson, with an effective date of January 13, 2015, or the MD Anderson License, which was subsequently assigned by Precigen and assumed by PGEN effective as of January 1, 2018, from PGEN, pursuant to the License Agreement, and from NCI, pursuant to the Patent License described above, to pursue the development and commercialization of non-viral cellular therapies based on T-cells and TCRs, targeting solid tumor malignancy. Because this is a new approach to cancer immunotherapy and cancer treatment generally, developing and commercializing product candidates subjects us to a number of challenges, includin 31 • obtaining regulatory approval from the FDA and other regulatory authorities that have very limited experience with the commercial development of genetically modified T-cell therapies for cancer; • designing and conducting our clinical trials using this new approach or selecting the appropriate TCRs in a way that may lead to optimal results; • identifying and manufacturing appropriate TCRs from either the patient or third parties that can be administered to a patient; • developing and deploying consistent and reliable processes for engineering a patient’s and/or donor’s T-cells ex vivo and infusing the T cells back into the patient; • conditioning patients with chemotherapy in conjunction with delivering each of the potential products, which may increase the risk of adverse side effects of the potential products; • educating medical personnel regarding the potential side effect profile of each of the potential products, such as the potential adverse side effects related to cytokine release; • addressing any competing technological and market developments; • developing processes for the safe administration of these potential products, including long-term follow-up for all patients who receive the potential products; • sourcing additional clinical and, if approved, commercial supplies for the materials used to manufacture and process the potential products; • developing a manufacturing process with a cost of goods that allows for an attractive return on investment; • establishing sales and marketing capabilities after obtaining any regulatory approval to gain market acceptance; • developing therapies for types of cancers beyond those addressed by the current potential products; • maintaining and defending the intellectual property rights relating to any products we develop; and • not infringing the intellectual property rights, in particular, the patent rights, of third parties, including competitors, such as those developing T-cell therapies. We cannot assure you that we will be able to successfully address these challenges, which could prevent us from achieving our research, development and commercialization goals. Our current product candidates are based on novel technologies and are supported by limited clinical data and we cannot assure you that our current and planned clinical trials will produce data that supports regulatory approval of one or more of these product candidates. Our genetically modified TCR-T cell product candidates are supported by limited clinical data, all of which has been generated through trials conducted by MD Anderson and the NCI, not by us. We have assumed control of the overall clinical and regulatory development of our TCR-T cell product candidates, and any failure to obtain, or delays in obtaining, sponsorship of new INDs, or in filing INDs sponsored by us for these or any other product candidates we determine to advance could negatively affect the timing of our potential future clinical trials. Such an impact on timing could increase research and development costs and could delay or prevent obtaining regulatory approval for our product candidates, either of which could have a material adverse effect on our business. We began enrolling patients in our TCR-T Library Phase 1/2 Trial in January 2022. Further, we did not control the design or conduct of the previous trials. It is possible that the FDA will not accept these previous trials as providing adequate support for future clinical trials, whether controlled by us or third parties, for any of one or more reasons, including the safety, purity and potency of the product candidate, the degree of product characterization, elements of the design or execution of the previous trials or safety concerns or other trial results. We may also be subject to liabilities arising from any treatment-related injuries or adverse effects in patients enrolled in these previous trials. As a result, we may be subject to unforeseen third-party claims and delays in our potential future clinical trials. We may also be required to repeat in whole or in part clinical trials previously conducted by MD Anderson or other entities, which will be expensive and delay the submission and licensure or other regulatory approvals with respect to any of our product candidates. Moreover, there are a number of regulatory requirements that we must continue to satisfy as we conduct our clinical trials of TCR-T cell product candidates in the United States. The criteria these regulators use to determine the safety and efficacy of a product candidate vary substantially according to the type, complexity, novelty and intended use and market of the potential products and change frequently. Satisfaction of these requirements will entail substantial time, effort and financial resources. To date, the FDA has approved only a few adoptive cell therapies for commercialization. Because adoptive cell therapies are relatively new and our product candidates employ novel gene expression and cell technologies, regulatory agencies may lack experience in evaluating product 32 candidates like our Library TCR-T product candidates. This novelty may heighten regulatory scrutiny of our therapies or lengthen the regulatory review process, including the time it takes for the FDA to review our IND applications if and when submitted, increase our development costs and delay or prevent commercialization of our product candidates. These factors make it difficult to determine how long it will take or how much it will cost to obtain regulatory approvals for our product candidates. Any time, effort and financial resources we expend on our clinical product candidates and other early-stage product development programs, which are ultimately not successful may adversely affect our business. *We report interim data on certain of our clinical trials and we cannot assure you that interim data will be predictive of either future interim results or final study results. In addition, the results ultimately obtained from our preclinical studies or other earlier clinical trials for our product candidates may not be predictive of future results. As part of our business, we provide updates related to the development of our product candidates, which may include updates related to interim clinical trial data. We anticipate that our clinical trials will involve small patient populations and because of the small sample size, the interim results of these, and all, clinical trials may be subject to substantial variability and may not be indicative of either future interim results or final results. We commenced enrollment in our TCR-T Library Phase 1/2 Trial in January 2022 and announced early clinical data for the first patient in September 2022. We do not know at this stage whether patient response data from additional patients in this trial will be favorable, and initial success in clinical trials may not be indicative of results obtained when such trials are completed. Our product candidates may fail to show the desired safety and efficacy in clinical development, and we cannot assure you that the results of any future trials will demonstrate the value and efficacy of our product candidates. Even if our clinical trials are completed as planned, we cannot be certain that their results will support approval of our product candidates. There are no approved engineered TCR-T cell immunotherapies for solid tumors. We believe our product candidates may be effective against solid tumors and plan to develop product candidates for use in solid tumors. We cannot guarantee that our product candidates will be able to access the solid tumor or show any functionality in the solid tumor microenvironment. The cellular environment in which solid tumor cells thrive is generally hostile to T cells due to factors such as the presence of immunosuppressive cells, humoral factors and limited access to nutrients. In addition, the safety profile of our product candidates may differ in a solid tumor setting. If we are unable to make our product candidates function in solid tumors, our development plans and business will be significantly harmed. Preliminary data also remain subject to audit and verification procedures that may result in the final data being materially different from the preliminary data we previously announced. Negative differences between preliminary or interim data and final data could materially adversely affect the prospects of any product candidate that is impacted by such data updates. In addition, the results of any preclinical studies for our product candidates may not be predictive of the results of clinical trials. For example, preclinical models as applied to cell therapy in oncology do not adequately represent the clinical setting, and thus cannot predict clinical activity nor all potential risks. *We will need to attract, recruit and retain qualified personnel and we will continue to rely on key scientific and medical advisors, and their knowledge of our business and technical expertise would be difficult to replace. In 2021, we experienced transitions in our senior management including the appointment of Kevin S. Boyle, Sr. as Chief Executive Officer and a member of the board of directors in August 2021 and the hiring of Michael Wong as our Vice President, Finance in September 2021 and his appointment as principal accounting officer in November 2021. In November 2021, we hired Melinda Lackey as our Senior Vice President, Legal, and in August 2022, we hired Abhishek Srivastava as our Vice President, Technical Operations. Management transition is often difficult and inherently causes some loss of institutional knowledge. In addition, we may not be able to attract or retain qualified management and commercial, scientific and clinical personnel due to the intense competition for qualified personnel among biotechnology, pharmaceutical and other businesses. If we are not able to attract and retain necessary personnel to accomplish our business objectives, we may experience constraints that will significantly impede the achievement of our development objectives, our ability to raise additional capital and our ability to implement our business strategy. We are highly dependent on our principal scientific, regulatory and medical advisors. The loss of any of our key personnel, could result in delays in product development, loss of key personnel or partnerships and diversion of management resources, which could adversely affect our operating results. We do not carry “key person” life insurance policies on any of our officers or key employees. *We face substantial competition from other biopharmaceutical companies, which may result in others discovering, developing or commercializing products before, or more successfully than, we do. Our TCR-T cell therapies targeting solid tumors face significant competition from multiple companies, and their collaborators, in the TCR and CAR technology space. We face competition from several companies, including 2Seventy Bio, Achilles Therapeutics, Annoca, Adaptimmune Therapeutics, Affini-T Therapeutics, ArsenalBio, BioNTech, Bristol-Myers Squibb, Immatics, Iovance 33 Biotherapeutics, Lion TCR, Lyell Immunopharma, Medigene, Nurix Therapeutics, Neogene Therapeutics, NexImmune, PACT Pharma, Precigen, Tactiva Therapeutics, Takara Bio, TCR 2 Therapeutics, T-Cure BioScience, T-knife Therapeutics, Tmunity Therapeutics, Triumvira Immunologics, TScan Therapeutics, Turnstone Biologics, Zelluna Immunotherapy and others. Many of these companies are either investigating TCR-T cells against germline antigens or are utilizing tumor infiltrating lymphocytes. Some are pursuing CAR-T cells for solid tumors. In contrast, we are focused on developing TCR-T cell products against neoantigens arising from somatic mutations in solid tumors. Companies in the T-cell therapy segment that we believe to have target discovery platforms like ours include Adaptive Biotechnologies, Affini-T Therapeutics, Enara Bio, Immatics, Neogene, T-knife Therapeutics, TScan Therapeutics and 3T Biosciences. Several companies, including Advaxis, Amgen, BioNTech, Geneos Therapeutics, and Gritstone, are pursuing vaccine platforms to target neoantigens for solid tumors. Other companies are developing non-viral gene therapies, including Poseida Therapeutics and several companies developing CRISPR technology, including Crispr Therapeutics. Several companies are pursuing the development of allogeneic CAR-T therapies, including Allogene Therapeutics, Atara Biotherapeutics and Precision Biosciences, which may compete with our product candidates. We also face competition from companies developing therapies using cells other than T cells such as Athenex, Fate Therapeutics, ImmunityBio, IN8bio, Nkarta Therapeutics, and Takeda Pharmaceutical. Other competitors are developing T cells with cytokines such as Fate Therapeutics and Obsidian Therapeutics. Finally, we also face competition from non-cellular treatments offered by other companies such as Amgen, AstraZeneca, Bristol-Myers Squibb, Incyte, Merck, and Roche. Additionally, our ability to pursue partnerships relating to our IL-12 and CAR-T programs may be impacted by substantial competition from these and other biopharmaceutical companies. Even if we obtain regulatory approval of potential TCR products, we may not be the first to market and that may affect the price or demand for our potential products. Existing or future competing products may provide greater therapeutic convenience or clinical or other benefits for a specific indication, or fewer side effects, than our potential products or may offer comparable performance at a lower cost. Additionally, the availability and price of our competitors’ products could limit the demand and the price we are able to charge for our potential products thereby reducing or eliminating our commercial opportunity. We may not be able to implement our business plan if the acceptance of our potential products is inhibited by price competition or the reluctance of physicians to switch from existing methods of treatment to our potential products, or if physicians switch to other new drug or biologic products or choose to reserve our potential products. Additionally, a competitor could obtain orphan product exclusivity from the FDA with respect to such competitor’s product. If such competitor product is determined to be the same product as one of our potential products, that may prevent us from obtaining approval from the FDA for such potential products for the same indication for seven years, except in limited circumstances. If our potential products fail to capture and maintain market share, we may not achieve sufficient product revenues and our business will suffer. We compete against fully integrated pharmaceutical companies and smaller companies that are collaborating with larger pharmaceutical companies, academic institutions, government agencies and other public and private research organizations. Many of these competitors have products already approved or in development. In addition, many of these competitors, either alone or together with their collaborative partners, operate larger research and development programs or have substantially greater financial resources than we do, as well as significantly greater experience in: • developing drugs and biopharmaceuticals; • undertaking preclinical testing and human clinical trials; • obtaining FDA and other regulatory approvals of drugs and biopharmaceuticals; • formulating and manufacturing drugs and biopharmaceuticals; and • launching, marketing and selling drugs and biopharmaceuticals. Our ability to compete may be affected in many cases by insurers or other third-party payors seeking to encourage the use of generic products. Any termination of our licenses with PGEN, MD Anderson or the National Cancer Institute or our research and development agreements with MD Anderson and the National Cancer Institute could result in the loss of significant rights and could harm our ability to develop and commercialize our product candidates. We are dependent on patents, know-how, and proprietary technology that are licensed from others, particularly MD Anderson, PGEN, and the NCI, as well as the contributions by MD Anderson under our research and development agreements. Any termination of these licenses or research and development agreements could result in the loss of significant rights and could harm our ability to commercialize our product candidates. Disputes may also arise between us and these licensors regarding intellectual property subject to a license agreement, including those relating t • the scope of rights granted under the applicable license agreement and other interpretation-related issues; 34 • whether and the extent to which our technology and processes, and the technology and processes of PGEN, MD Anderson, the NCI and our other licensors, infringe intellectual property of the licensor that is not subject to the applicable license agreement; • our right to sublicense patent and other rights to third parties pursuant to our relationships with our licensors and partners; • whether we are complying with our diligence obligations with respect to the use of the licensed technology in relation to our development and commercialization of our potential products under the MD Anderson License, the License Agreement with PGEN and our patent license agreement with the NCI; • whether or not our partners are complying with all of their obligations to support our programs under licenses and research and development agreements; and • the allocation of ownership of inventions and know-how resulting from the joint creation or use of intellectual property by our licensors and by us. If disputes over intellectual property that we have licensed prevent or impair our ability to maintain our current licensing arrangements, particularly with MD Anderson, PGEN and the NCI, on acceptable terms, we may be unable to successfully develop and commercialize the affected potential products. We are generally also subject to all of the same risks with respect to protection of intellectual property that we license as we are for intellectual property that we own. If we or our licensors fail to adequately protect this intellectual property, our ability to commercialize potential products under our applicable licenses could suffer. There is a substantial amount of litigation involving patents and other intellectual property rights in the biotechnology and pharmaceutical industries, as well as administrative proceedings for challenging patents, including interference, derivation, and reexamination proceedings before the United States Patent and Trademark Office, or USPTO, or oppositions and other comparable proceedings in foreign jurisdictions. Recently, due to changes in U.S. law referred to as patent reform, new procedures including inter partes review and post-grant review have been implemented, which adds uncertainty to the possibility of challenge to our or our licensors’ patents in the future. We may not be able to retain the rights licensed to us and PGEN by MD Anderson or the rights licensed to us by the National Cancer Institute to technologies relating to TCR-T cell therapies and other related technologies. Under the MD Anderson License, we, together with PGEN, received an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR-T cell and TCR-T cell therapies as well as either co-exclusive or non-exclusive licenses under certain related technologies. These proprietary methods and technologies, along with others within PGEN’s technology suite and licensed to us by PGEN, may help realize the promise of genetically modified TCR-T cell therapies by controlling cell expansion and activation in the body, minimizing off-target and unwanted on-target effects and toxicity while maximizing therapeutic efficacy. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term, we and PGEN shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After 10 years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if we and PGEN are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if we and PGEN are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by us or PGEN, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both us or PGEN and may be terminated by the mutual written agreement of us, PGEN and MD Anderson. Under the Patent License, we received an exclusive, worldwide license to certain intellectual property and patents from NCI for TCRs we can introduce into T cells using transposon-based genetic engineering. These T cells may be used in our TCR-T Library Phase 1/2 Trial or in subsequent clinical trials, if initiated. The term of the Patent License shall expire with the last of the licensed patents. The NCI could terminate or modify the Patent License if it believes we have materially breached, by failing to meet the defined milestones by the required dates, or upon certain insolvency events that are not cured within the 90-day time limit once we are notified of such alleged breach. The Patent License is also subject to certain public use requirements wherein the NCI could require us to sublicense certain product candidates or terminate or modify the Patent License if we do not meet these public use requirements. The Patent License could also be terminated by the NCI if we are unable to pay the required benchmark payments or the annual minimum royalty payments. There can be no assurance that we will be able to successfully perform under the MD Anderson License or the Patent License and if the MD Anderson License or the Patent License is terminated it may prevent us from achieving our business objectives. 35 *We are partly reliant on the National Cancer Institute for research and development and early clinical testing of certain of our product candidates. A portion of our research and development is being conducted by the NCI under the CRADA entered into in January 2017 and which was amended in March 2018, February 2019, March 2022 and June 2022. Under the CRADA, the NCI, with Dr. Steven A. Rosenberg as the principal investigator, is responsible for conducting a clinical trial using the Sleeping Beauty system to express TCRs for the treatment of solid tumors. We have limited control over the nature or timing of the NCI’s clinical trial and limited visibility into their day-to-day activities, including with respect to how they are providing and administering T-cell therapy. For example, the research we are funding constitutes only a small portion of the NCI’s overall research. Additionally, other research being conducted by Dr. Rosenberg may at times receive higher priority than research on our program. The progress and timeline, including the timeline for dosing patients, for this trial are under the control of the NCI. The CRADA expired by its terms on January 9, 2022. In March 2022, we entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. In June 2022, we entered into the Fourth Amendment to the CRADA (the "CRADA Fourth Amendment") which, among other things, extended the term of the CRADA until January 9, 2025. In connection with the CRADA Fourth Amendment, the Company agreed to contribute $1.0 million per year, payable on a quarterly basis, beginning in the first quarter of 2023. We may not be able to commercialize any products, generate significant revenues, or attain profitability. To date, none of our product candidates have been approved for commercial sale in any country. The process to develop, obtain regulatory approval for, and commercialize potential product candidates is long, complex and costly. Unless and until we receive approval from the FDA and/or other foreign regulatory authorities for our product candidates, we cannot sell our products and will not have product revenues. Even if we obtain regulatory approval for one or more of our product candidates, if we are unable to successfully commercialize our products, we may not be able to generate sufficient revenues to achieve or maintain profitability or to continue our business without raising significant additional capital, which may not be available. Our failure to achieve or maintain profitability could negatively impact the trading price of our common stock. Our operating history makes it difficult to evaluate our business and prospects. We have not previously completed any pivotal clinical trials, submitted a BLA or demonstrated an ability to perform the functions necessary for the successful commercialization of any product candidates. The successful commercialization of any product candidates will require us to perform a variety of functions, includin • Continuing to undertake preclinical development and clinical trials; • Participating in regulatory approval processes; • Formulating and manufacturing products; and • Conducting sales and marketing activities. Our operations have been limited to organizing and staffing our company, acquiring, developing and securing our proprietary product candidates and undertaking preclinical and clinical trials of our product candidates. These operations provide a limited basis for you to assess our ability to commercialize our product candidates and the advisability of investing in our securities. We may not be successful in establishing development and commercialization collaborations, which failure could adversely affect, and potentially prohibit, our ability to develop our product candidates. Developing biopharmaceutical products and complementary technologies, conducting clinical trials, obtaining marketing approval, establishing manufacturing capabilities and marketing approved products is expensive, and therefore, we anticipate exploring collaborations with third parties that have alternative technologies, more resources and more experience than we do. In situations where we enter into a development and commercial collaboration arrangement for a product candidate or complementary technology, we may also seek to establish additional collaborations for development and commercialization in territories outside of those addressed by the first collaboration arrangement for such product candidate or technology. There are a limited number of potential partners, and we expect to face competition in seeking appropriate partners. If we are unable to enter into any development and commercial collaborations and/or sales and marketing arrangements on reasonable and acceptable terms, if at all, we may be unable to successfully develop and seek regulatory approval for our product candidates and/or effectively market and sell future approved products, if any, in some or all of the territories outside of the United States where it may otherwise be valuable to do so. We may not be able to successfully manage our growth as we expand our development and regulatory capabilities, which could disrupt our operations. 36 As we advance our product candidates to the point of, and through, clinical trials, we will need to expand our development, regulatory, manufacturing, marketing and sales capabilities or contract with third parties to provide for these capabilities. Our future financial performance and our ability to commercialize our product candidates and to compete effectively will depend, in part, on our ability to manage any future growth effectively. To manage this growth, we must expand our facilities, augment our operational, financial and management systems and hire and train additional qualified personnel with expertise in preclinical and clinical research and testing, manufacturing, government regulation and eventually sales and marketing. Competition for qualified individuals is intense among numerous biopharmaceutical companies, universities, and other research institutions and we cannot be certain that our search will be successful. If we are unable to manage our growth effectively, including attracting and retaining qualified personnel, our business may be harmed. Restructuring activities could disrupt our business and effect our results of operations. In addition, we may not achieve anticipated benefits and saving from such restructuring activities . In September 2021, we announced a restructuring enabling us to focus on and enhance our TCR program. We eliminated approximately 60 positions, representing more than 50% of our workforce. The restructuring resulted in the loss of institutional knowledge and expertise and the reallocation of and combination of certain roles and responsibilities across the organization, all of which could adversely affect our operations. Further, the restructuring and possible additional cost-containment measures may yield unintended consequences, such as attrition beyond our intended workforce reduction and reduced employee morale. In addition, we may not achieve anticipated benefits from the restructuring. Due to our limited resources, we may not be able to effectively manage our operations or retain qualified personnel, which may result in weaknesses to our infrastructure and operations, risks that we may be unable to comply with legal and regulatory requirements, and loss of employees and reduced productivity among remaining employees. For example, the workforce reduction may negatively impact our clinical, manufacturing and regulatory functions, which would have a negative impact on our ability to successfully develop and, ultimately, commercialize our product candidates. If our management is unable to successfully manage this transition and restructuring activities, our expenses may be more than expected and we may be unable to implement our business strategy. As a result, our future financial performance and our ability to commercialize our product candidates successfully would be negatively affected. Our business will subject us to the risk of liability claims associated with the use of hazardous materials and chemicals. Our contract research and development activities may involve the controlled use of hazardous materials and chemicals. Although we believe that our safety procedures for using, storing, handling and disposing of these materials comply with federal, state and local laws and regulations, we cannot completely eliminate the risk of accidental injury or contamination from these materials. In the event of such an accident, we could be held liable for any resulting damages, and any liability could have a materially adverse effect on our business, financial condition, and results of operations. In addition, the federal, state and local laws and regulations governing the use, manufacture, storage, handling and disposal of hazardous or radioactive materials and waste products may require our contractors to incur substantial compliance costs that could materially adversely affect our business, financial condition and results of operations. We may incur substantial liabilities and may be required to limit commercialization of our products in response to product liability lawsuits. The testing and marketing of medical products entail an inherent risk of product liability, and we will face an even greater risk if we commercially sell any medicines that we may develop. If we cannot successfully defend ourselves against product liability claims, we may incur substantial liabilities or be required to limit commercialization of our products, if approved. Even a successful defense would require significant financial and management resources. Regardless of the merit or eventual outcome, liability claims may result in: • Decreased demand for our product candidates; • Injury to our reputation; • Withdrawal of clinical trial participants; • Initiation of investigations by regulators; • Withdrawal of prior governmental approvals; • Costs of related litigation; • Substantial monetary awards to patients; • Product recalls; • Loss of revenue; • The inability to commercialize our product candidates; and 37 • A decline in our share price. Although we currently carry clinical trial insurance and product liability insurance which we believe to be reasonable, it may not be adequate to cover all liability that we may incur. An inability to renew our policies or to obtain sufficient insurance at an acceptable cost could prevent or inhibit the commercialization of pharmaceutical products that we develop, alone or with collaborators. Business disruptions could seriously harm our future revenue and financial condition and increase our costs and expenses. Our operations, and those of our clinical investigators, contractors and consultants, are based primarily in Houston, Texas. These operations could be subject to power shortages, telecommunications failures, water shortages, hurricanes, floods, earthquakes, fires, extreme weather conditions, medical epidemics and other natural or man-made disasters or business interruptions, for which we maintain customary insurance policies that we believe are appropriate. The occurrence of any of these business disruptions could seriously harm our operations and financial condition and increase our costs and expenses. Our ability to manufacture clinical supplies of our product candidates could be disrupted if our own operations or those of our suppliers are affected by a man-made or natural disaster or other business interruption. We may have limited recourse against third parties if the non-compliance is due to factors outside of the manufacturer’s control. We may be unable to find appropriate partners to continue the development of the product candidates we de-prioritized in 2021 which may prevent us from ever deriving meaningful revenue from them. In 2021, we elected to prioritize our Library TCR-T program and significantly reduced our activities in connection with our Controlled IL-12 and CAR-T programs to preserve our capital resources. The decision to significantly reduce activities for our Controlled IL-12 and CAR-T programs may negatively impact the potential for these programs, which could have a material adverse effect on our business. We are actively exploring partnership opportunities for our Controlled IL-12 and CAR-T programs to support their continued development. If we are unable to identify an appropriate strategic partner or to negotiate and consummate a license or sale agreement with such a partner, it will be difficult to advance the development of these two programs, increasing the likelihood that we may be unable to derive any meaningful revenue from these assets. We have also mutually agreed with TriArm Therapeutics Ltd., or TriArm, to dissolve the Eden BioCell joint venture. Our business, operations and clinical development plans and timelines could be adversely affected by the effects of health epidemics, including the COVID-19 pandemic, on the manufacturing, clinical trial and other business activities performed by us or by third parties with whom we conduct business, including our contract manufacturers, CROs, shippers and others. Our business could be adversely affected by health epidemics wherever we have clinical trial sites or other business operations. In addition, health epidemics could cause significant disruption in our manufacturing operations or the operations of third-party manufacturers, CROs and other third parties upon whom we rely or may rely on in the future. We depend on a worldwide supply chain to manufacture products used in our preclinical studies and clinical trials. Quarantines, shelter-in-place and similar government orders, or the expectation that such orders, shutdowns or other restrictions could occur, whether related to COVID-19 or other infectious diseases, could impact personnel at our own manufacturing facilities or third-party manufacturing facilities in the United States and other countries, or the availability or cost of materials, which could disrupt our supply chain. If our relationships with our suppliers or other vendors are terminated or scaled back as a result of the COVID-19 pandemic or other health epidemics, we may not be able to enter into arrangements with alternative suppliers or vendors or do so on commercially reasonable terms or in a timely manner. Switching or adding additional suppliers or vendors involves substantial cost and requires management’s time and focus. In addition, there is a natural transition period when a new supplier or vendor commences work. As a result, delays may occur, which could adversely impact our ability to meet our desired clinical development and any future commercialization timelines. Although we carefully manage our relationships with our suppliers and vendors, there can be no assurance that we will not encounter challenges or delays in the future or that these delays or challenges will not harm our business. In addition, our preclinical studies and our ongoing TCR-T Library Phase 1/2 Trial at MD Anderson have been and may continue to be affected by the COVID-19 pandemic. Patient enrollment and study visits have been and may continue to be delayed due to prioritization of hospital resources toward the COVID-19 pandemic or concerns among patients about participating in clinical trials during a pandemic. Some patients may have difficulty following certain aspects of clinical trial protocols if quarantines impede patient movement or interrupt healthcare services. Similarly, if we are unable to successfully recruit and retain patients, principal investigators, and site staff who, as healthcare providers, may have heightened exposure to COVID-19 or experience additional restrictions by their institutions, city, or state, our clinical trial operations could be adversely impacted. RISKS RELATED TO THE CLINICAL TESTING, GOVERNMENT REGULATION AND MANUFACTURING OF OUR PRODUCT CANDIDATES 38 *If we encounter difficulties enrolling patients in our clinical trials, our clinical development activities could be delayed or otherwise adversely affected. We may experience difficulties in patient enrollment in our clinical trials, including our ongoing TCR-T Library Phase 1/2 Trial, for a variety of reasons, including impacts that have resulted or may result from the COVID-19 pandemic. The timely completion of clinical trials in accordance with their protocols depends on, among other things, our ability to enroll a sufficient number of patients who remain in the clinical trial until its conclusion. The enrollment of patients depends on many factors, includin • The patient eligibility criteria defined in the clinical trial protocol; • The size of the patient population required for analysis of the clinical trial’s primary endpoints; • The proximity of patients to clinical trial sites; • The number of clinical trial sites; • The design of the clinical trial; • Our ability to recruit and retain clinical trial investigators with the appropriate competencies and experience; • Our ability to obtain and maintain patient consents; • Reporting of the preliminary results of any of our clinical trials; and • The risk that patients enrolled in clinical trials will drop out of the clinical trials before the manufacturing and infusion of our product candidates or clinical trial completion. Our clinical trials will compete with other clinical trials for product candidates that are in the same therapeutic areas as our product candidates, and this competition will reduce the number and types of patients available to us because some of our potential patients may instead opt to enroll in a clinical trial being conducted by one of our competitors. In addition, patients may be unwilling to participate in our studies because of negative publicity from adverse events in the biotechnology industry or for other reasons. Since the number of qualified clinical investigators is limited, we expect to conduct some of our clinical trials at the same clinical trial sites that some of our competitors use, which will reduce the number of patients who are available for our clinical trials at such clinical trial sites. Moreover, because our product candidates represent a departure from more commonly used methods for cancer treatment, potential patients and their doctors may be inclined to use conventional therapies, such as chemotherapy and hematopoietic stem cell transplantation, rather than enroll patients in any future clinical trial. Additionally, because some of our clinical trials are in patients with relapsed/refractory cancer, the patients are typically in the late stages of their disease and may experience disease progression independent from our product candidates, making them unevaluable for purposes of the clinical trial and requiring additional patient enrollment. Delays in completing patient enrollment may result in increased costs or may affect the timing or outcome of our ongoing and planned clinical trials, which could prevent completion or commencement of these clinical trials and adversely affect our ability to advance the development of our product candidates. Our product candidates are subject to extensive regulation and compliance, which is costly and time consuming, and such regulation may cause unanticipated delays or prevent the receipt of the required approvals to commercialize our product candidates. The clinical development, manufacturing, labeling, packaging, storage, record-keeping, advertising, promotion, import, export, marketing, distribution and adverse event reporting, including the submission of safety and other information, of our product candidates are subject to extensive regulation by the FDA in the United States and by comparable foreign regulatory authorities in foreign markets. The process of obtaining regulatory approval is expensive, often takes many years following the commencement of clinical trials. Approval policies or regulations may change, and the FDA has substantial discretion in the drug approval process, including the ability to delay, limit or deny approval of a product candidate for many reasons. Regulatory approval is never guaranteed. Prior to obtaining approval to commercialize a product candidate in the United States or abroad, we or our collaborators must demonstrate with substantial evidence from adequate and well-controlled clinical trials, and to the satisfaction of the FDA or comparable foreign regulatory authorities, that such product candidates are safe and effective, or with respect to a biological product candidate, safe, pure and potent, for their intended uses. The FDA or comparable foreign regulatory authorities can delay, limit or deny approval of a product candidate for many reasons, includin • Such authorities may disagree with the design or implementation of our or our current or future collaborators’ clinical trials; 39 • Negative or ambiguous results from our clinical trials or results may not meet the level of statistical significance required by the FDA or comparable foreign regulatory agencies for approval; • Serious and unexpected drug-related side effects may be experienced by participants in our clinical trials or by individuals using drugs or biologics similar to our therapeutic product candidates; • Such authorities may not accept clinical data from trials which are conducted at clinical facilities or in countries where the standard of care is potentially different from that of the United States; • We, or any of our current or future collaborators, may be unable to demonstrate that a product candidate is safe and effective, and that the therapeutic product candidate’s clinical and other benefits outweigh its safety risks; • We may be unable to demonstrate to the satisfaction of such authorities that our companion diagnostics are suitable to identify appropriate patient populations; • Such authorities may disagree with our interpretation of data from preclinical studies or clinical trials; • Such authorities may not agree that the data collected from clinical trials of our product candidates are acceptable or sufficient to support the submission of a BLA, NDA, premarket approval, or PMA, or other submission or to obtain regulatory approval in the United States or elsewhere, and such authorities may impose requirements for additional preclinical studies or clinical trials; • Such authorities may disagree regarding the formulation, labeling and/or the specifications of our product candidates; • Approval may be granted only for indications that are significantly more limited than what we apply for and/or with other significant restrictions on distribution and use; • Such authorities may find deficiencies in the manufacturing processes, test procedures and specifications or facilities of our third-party manufacturers with which we or any of our current or future collaborators contract for clinical and commercial supplies; • Regulations and approval policies of such authorities may significantly change in a manner rendering our or any of our potential future collaborators’ clinical data insufficient for approval; or • Such authorities may not accept a submission due to, among other reasons, the content or formatting of the submission. This lengthy approval process, as well as the unpredictability of the results of clinical trials, may result in our failing to obtain regulatory approval to market any of our product candidates, which would significantly harm our business, results of operations and prospects. In addition, even if we obtain approval of our product candidates, regulatory authorities may approve any of our product candidates for fewer or more limited indications than we request, may impose significant limitations in the form of narrow indications, warnings, or a Risk Evaluation and Mitigation Strategy, or REMS. Events raising questions about the safety of certain marketed biopharmaceuticals may result in increased cautiousness by the FDA and comparable foreign regulatory authorities in reviewing new drugs or biologics based on safety, efficacy or other regulatory considerations and may result in significant delays in obtaining regulatory approvals. Any delay in obtaining, or inability to obtain, applicable regulatory approvals would prevent us or any of our potential future collaborators from commercializing our product candidates. We are very early in our development efforts. Our most advanced product candidates are only in an early-stage clinical trial, which is very expensive and time-consuming. We cannot be certain when we will be able to submit a BLA to the FDA and any failure or delay in completing clinical trials for our product candidates could harm our business. Our product candidates are in various stages of development and require extensive clinical testing. Our most advanced product candidates are in our TCR-T Library Phase 1/2 Trial, which is currently enrolling and treating patients. Human clinical trials are very expensive and difficult to design, initiate and implement, in part because they are subject to rigorous regulatory requirements. Notwithstanding our current clinical trial plans for each of our existing product candidates, which we estimate will take several years to complete, we may not be able to commence additional trials or see results from these trials within our anticipated timelines. Failure can occur at any stage of a clinical trial, and we can encounter problems that cause us to delay the start of, abandon or repeat clinical trials. Some factors which may lead to a delay in the commencement or completion of our clinical trials inclu requests for additional nonclinical data from regulators, unforeseen safety issues, dosing issues, lack of effectiveness during clinical trials, difficulty recruiting or monitoring patients, difficulty manufacturing clinical products, among other factors. As they enter later stages of development, our product candidates generally will become subject to more stringent regulatory requirements, including the FDA’s requirements for chemistry, manufacturing and controls for product candidates entering Phase 3 40 clinical trials. There is no guarantee the FDA will allow us to commence Phase 3 clinical trials for product candidates studied in earlier clinical trials. If the FDA does not allow our product candidates to enter later stage clinical trials or requires changes to the formulation or manufacture of our product candidates before commencing Phase 3 clinical trials, our ability to further develop, or seek approval for, such product candidates may be materially impacted. As such, we cannot predict with any certainty if or when we might submit a BLA for regulatory approval of our product candidates or whether such a BLA will be accepted. Because we do not anticipate generating revenues unless and until we submit one or more BLAs and thereafter obtain requisite FDA approvals, the timing of our BLA submissions and FDA determinations regarding approval thereof will directly affect if and when we are able to generate revenues. Our product candidates may cause undesirable side effects or have other properties that could delay or prevent their regulatory approval, limit the commercial profile of an approved label or result in significant negative consequences following any potential marketing approval. As with many pharmaceutical and biological products, treatment with our product candidates may produce undesirable side effects or adverse reactions or events, including potential adverse side effects related to cytokine release. If our product candidates or similar products or product candidates under development by third parties demonstrate unacceptable adverse events, we may be required to halt or delay further clinical development of our product candidates. The FDA or other foreign regulatory authorities could order us to cease further development of or deny approval of our product candidates for any or all targeted indications. If a serious adverse event was to occur in our TCR-T Library Phase 1/2 Trial, the FDA may place a hold on the clinical trial. The product-related side effects could affect patient recruitment or the ability of enrolled patients to complete the trial or result in potential product liability claims. In addition, these side effects may not be appropriately or timely recognized or managed by the treating medical staff, particularly outside of the institutions that collaborate with us, as toxicities resulting from our novel technologies may not be normally encountered in the general patient population and by medical personnel. We expect to have to train medical personnel using our product candidates to understand their side effect profiles, both for our planned clinical trials and upon any commercialization of any product candidates. Inadequate training in recognizing or managing the potential side effects of our product candidates could result in adverse effects to patients, including death. Additionally, if one or more of our product candidates receives marketing approval, and we or others later identify undesirable side effects caused by such products, including during any long-term follow-up observation period recommended or required for patients who receive treatment using our products candidates, a number of potentially significant negative consequences could result, includin • regulatory authorities may withdraw approvals of such product; • regulatory authorities may require additional warnings on the product’s label; • we may be required to create a risk evaluation and mitigation strategy plan, which could include a medication guide outlining the risks of such side effects for distribution to patients, a communication plan for healthcare providers and/or other elements to assure safe use; • we could be sued and held liable for harm caused to patients; and • our reputation may suffer. Any of the foregoing could prevent us from achieving or maintaining market acceptance of the particular product candidate, if approved. Furthermore, any of these occurrences may harm our business, financial condition and prospects significantly. Our cellular therapy immuno-oncology product candidates rely on the availability of reagents, specialized equipment and other specialty materials and infrastructure, which may not be available to us on acceptable terms or at all. For some of these reagents, equipment and materials, we rely or may rely on sole source vendors or a limited number of vendors, which could impair our ability to manufacture and supply our products. Manufacturing our product candidates will require many reagents, which are substances used in our manufacturing processes to bring about chemical or biological reactions, and other specialty materials and equipment, some of which are manufactured or supplied by small companies with limited resources and experience to support commercial biologics production. We currently depend on a limited number of vendors for certain materials and equipment used in the manufacture of our product candidates, including the DNA plasmids used, which are used as the vector to insert our TCRs into human T cells. Some of these suppliers may not have the capacity to support commercial products manufactured under current good manufacturing practices by biopharmaceutical firms or may otherwise be ill-equipped to support our needs. We also do not have supply contracts with many of these suppliers and may not be able to obtain supply contracts with them on acceptable terms or at all. Accordingly, we may experience delays in receiving key materials and equipment to support clinical or commercial manufacturing. 41 For some of these reagents, equipment, infrastructure, and materials, we rely and may in the future rely on sole source vendors or a limited number of vendors. An inability to continue to source product from any of these suppliers, which could be due to regulatory actions or requirements affecting the supplier, adverse financial or other strategic developments experienced by a supplier, labor disputes or shortages, unexpected demands, or quality issues, could adversely affect our ability to satisfy demand for our product candidates, which could adversely and materially affect our product sales and operating results or our ability to conduct clinical trials, either of which could significantly harm our business. In addition, some of the reagents and products used by us, including in our clinical trials, may be stored at a single vendor. The loss of materials located at a single vendor, or the failure of such a vendor to manufacture clinical product in accordance with our specifications, would impact our ability to conduct ongoing or planned clinical trials and continue the development of our products. Further, manufacturing replacement material may be expensive and require a significant amount of time, which may further impact our clinical programs. As we continue to develop and scale our manufacturing process, we expect that we will need to obtain additional rights to and supplies of certain materials and equipment to be used as part of that process. We may not be able to maintain rights to such materials on commercially reasonable terms, or at all, and if we are unable to alter our process in a commercially viable manner to avoid the use of such materials or find a suitable substitute, it would have a material adverse effect on our business. Even if we are able to alter our process so as to use other materials or equipment, such a change may lead to a delay in our clinical development and/or commercialization plans. If such a change occurs for a product candidate that is already in clinical trials, the change may require us to perform both ex vivo comparability studies and to collect additional data from patients prior to undertaking more advanced clinical trials. Because we are dependent, at least in part, upon clinical research institutions and other CROs for clinical testing and/or for research and development activities, the results of our clinical trials and such research activities are, to a certain extent, beyond our control. We materially rely upon independent investigators and collaborators, such as universities and medical institutions, to conduct our clinical trials under agreements with us. In addition, we hire CROs to help us manage clinical trials, collect data and analyze clinical samples. These collaborators are not our employees, and we cannot control the amount or timing of resources that they devote to our programs. These investigators may not assign as great a priority to our programs or pursue them as diligently as we would if we were undertaking such programs ourselves. If outside collaborators fail to devote sufficient time and resources to our product development programs, or if their performance is substandard, the approval of our FDA applications, if any, and our introduction of new products, if any, will be delayed. These institutions may also have, or implement in the future, policies and procedures that limit their ability to advance our programs. These collaborators may also have relationships with other commercial entities, some of whom may compete with us. If our collaborators assist our competitors to our detriment, our competitive position would be harmed. We have limited experience producing and supplying our product candidates. We may be unable to consistently manufacture our product candidates to the necessary specifications or in quantities necessary to treat patients in our clinical trials. We have limited experience in biopharmaceutical manufacturing. We recently began manufacturing our product candidates at our in-house cGMP manufacturing facility at our leased headquarters in Houston, Texas. Our ability to manufacture our product candidates depends on our finding and retaining personnel with the appropriate background and training to staff and operate the facility on a daily basis. Should we be unable to find or retain these individuals, we may need to train additional personnel to fill the needed roles or engage with external contractors. There are a small number of individuals with experience in cell therapy and the competition for these individuals is high. Specifically, the operation of a cell-therapy manufacturing facility is a complex endeavor requiring knowledgeable individuals who have successful previous experience in cleanroom environments. Cell therapy facilities, like other biological agent manufacturing facilities, require appropriate commissioning and validation activities to demonstrate that they operate as designed. Additionally, each manufacturing process must be proven through the performance of process validation runs to guarantee that the facility, personnel, equipment, and process work as designed. While we have developed our own manufacturing processes using an in-house team, there is timing risk associated with increased in-house product manufacture. The manufacture of our product candidates is complex and requires significant expertise and capital investment, including the development of advanced manufacturing techniques and process controls. Manufacturers of cell therapy products often encounter difficulties in production, particularly in scaling out and validating initial production and ensuring the absence of contamination. These include difficulties with production costs and yields, quality control, including stability of the product, quality assurance testing, operator error, shortages of qualified personnel, as well as compliance with strictly enforced federal, state and foreign regulations. Furthermore, if contaminants are discovered in our supply of product candidates or in our manufacturing facilities, the manufacturing facilities may need to be closed for an extended period to investigate and remedy the contamination. It is possible that stability or other issues relating to the manufacture of our product candidates could occur in the future. 42 Our product candidates currently are and will continue to be manufactured on a patient-by-patient basis. Delays in manufacturing could adversely impact the treatment of each patient and may discourage participation in our current or future clinical trials. We have not yet manufactured our clinical trial product candidates on a large scale and may not be able to achieve large scale clinical trial or commercial manufacturing and processing on our own to satisfy expected clinical trial or commercial demands for any of our product candidates. While we believe that our current manufacturing and processing approaches are appropriate to support our early-stage clinical product development, we have limited experience in managing the T cell engineering process, and our processes may be more difficult or more expensive than anticipated. The manufacturing processes employed by us may not result in product candidates that will be safe and effective. If we are unable to manufacture sufficient number of TCR-T cells for our product candidates, our development efforts would be delayed, which would adversely affect our business and prospects. Our manufacturing operations will be subject to review and oversight by the FDA upon commencement of the manufacturing of our product candidates for our TCR-T Library Phase 1/2 Trial. We will be subject to ongoing periodic unannounced inspection by the FDA, the Drug Enforcement Administration and corresponding state agencies to ensure strict compliance with current good manufacturing practices, or cGMP, and other government regulations. Our license to manufacture product candidates will be subject to continued regulatory review. We do not yet have sufficient information to reliably estimate the cost of commercial manufacturing and processing of our product candidates. The actual cost to manufacture and process our product candidates could materially and adversely affect the commercial viability of our product candidates. As a result, we may never be able to develop a commercially viable product. We also may fail to manage the logistics of collecting and shipping patient material to our manufacturing site and shipping the product candidate back to the patient. Logistical and shipment delays and problems, whether or not caused by us or our vendors, could prevent or delay the delivery of product candidates to patients. In addition, it is possible that we could experience manufacturing difficulties in the future due to resource constraints or because of labor disputes. If we were to encounter any of these difficulties, our ability to provide our product candidates to patients could be materially adversely affected. We may have difficulty validating our manufacturing process as we manufacture our product candidates from an increasingly diverse patient population for our clinical trials. During our development of the manufacturing process, our TCR-T cell product candidates have demonstrated consistency from lot to lot and from donor to donor. However, our sample size is small and the starting material used during our development work came from healthy donors. Once we have experience with working with white blood cells taken from our patient population, we may encounter unforeseen difficulties due to starting with material from donors who are not healthy, including challenges inherent in harvesting white blood cells from unhealthy patients. Although we believe our current manufacturing process is scalable for our clinical trials, and if our any of our product candidates are approved or commercialized, we may encounter challenges in validating our process due to the heterogeneity of the product starting material. However, we anticipate that during the early phases of our clinical trials we will be able to adapt our process to account for these differences resulting in a more robust process. We cannot guarantee that any other issues relating to the heterogeneity of the starting material will not impact our ability to commercially manufacturing our product candidates. The gene transfer vectors from our Sleeping Beauty system used to manufacture our product candidates may incorrectly modify the genetic material of a patient’s T cells, potentially triggering the development of a new cancer or other adverse events. Our TCR-T cells are manufactured using our Sleeping Beauty system, a non-viral vector to insert genetic information encoding the TCR construct into the patient’s T cells. The TCR construct is then primarily integrated at thymine-adenine, or TA, dinucleotide sites throughout the patient’s genome and, once expressed as protein, is transported to the surface of the patient’s T cells. Because the gene transfer vector modifies the genetic information of the T cell, there is a theoretical risk that modification will occur in the wrong place in the T cell’s genetic code, leading to vector-related insertional oncogenesis, and causing the T cell to become cancerous. If the cancerous T cell is then administered to the patient, the cancerous T cell could trigger the development of a new cancer in the patient. We use non-viral vectors to insert genetic information into T cells, which we believe have a lower risk of insertional oncogenesis as opposed to viral vectors. However, the risk of insertional oncogenesis remains a concern for gene therapy, and we cannot assure that it will not occur in any of our ongoing or planned clinical trials. There is also the potential risk of delayed adverse events following exposure to gene therapy products due to persistent biological activity of the genetic material or other components of the vectors used to carry the genetic material. Although we use non-viral vectors, the FDA has stated that lentiviral vectors possess characteristics that may pose high risks of delayed adverse events. If any such adverse events occur from our non-viral vector, further advancement of our preclinical studies or clinical trials could be halted or delayed, which would have a material adverse effect on our business and operations. 43 Any product candidate for which we obtain marketing approval could be subject to post-marketing restrictions or withdrawal from the market and we may be subject to penalties if we fail to comply with regulatory requirements or if we experience unanticipated problems with our products, when and if any of them are approved. Any product candidate for which we obtain marketing approval, along with the manufacturing processes, post-approval clinical data, labeling, advertising and promotional activities for such product, will be subject to continual requirements of and review by the FDA and other regulatory authorities. These requirements include, among other things, submissions of safety and other post-marketing information and reports, registration and listing requirements, cGMP requirements relating to manufacturing, quality control, quality assurance and corresponding maintenance of records and documents, requirements regarding the distribution of samples to physicians and recordkeeping. Even if marketing approval of a product candidate is granted, the approval may be subject to limitations on the indicated uses for which the product may be marketed or to the conditions of approval, including the requirement to implement a REMS, which could include requirements for a restricted distribution system. If any of our product candidates receives marketing approval, the accompanying label may limit the approved uses, which could limit sales of the product. The FDA may also impose requirements for costly post-marketing studies or clinical trials and surveillance to monitor the safety or efficacy of our approved products. The FDA closely regulates the post-approval marketing and promotion of products to ensure that they are marketed only for the approved indications and in accordance with the provisions of the approved labeling. However, companies may share truthful and not misleading information that is otherwise consistent with the labeling. The FDA imposes stringent restrictions on manufacturers’ communications regarding off-label use and if we market our products outside of their approved indications, we may be subject to enforcement action for off-label marketing. Violations of the Federal Food, Drug and Cosmetic Act relating to the promotion of prescription drugs may lead to investigations alleging violations of federal and state health care fraud and abuse laws, as well as state consumer protection laws. In addition, later discovery of previously unknown adverse events or other problems with our products, manufacturers or manufacturing processes, or failure to comply with regulatory requirements, may yield various results, includin • Litigation involving patients taking our product; • Restrictions on such products, manufacturers or manufacturing processes; • Restrictions on the labeling or marketing of a product; • Restrictions on product distribution or use; • Requirements to conduct post-marketing studies or clinical trials; • Warning letters; • Withdrawal of the products from the market; • Refusal to approve pending applications or supplements to approved applications that we submit; • Recall of products; • Fines, restitution or disgorgement of profits or revenues; • Suspension or withdrawal of marketing approvals; • Damage to relationships with existing and potential collaborators; • Unfavorable press coverage and damage to our reputation; • Refusal to permit the import or export of our products; • Product seizure; and • Injunctions or the imposition of civil or criminal penalties. Noncompliance with requirements regarding safety monitoring or pharmacovigilance can also result in significant financial penalties. Similarly, failure to comply with U.S. and foreign regulatory requirements regarding the development of products for pediatric populations and the protection of personal health information can also lead to significant penalties and sanctions. RISKS RELATED TO OUR ABILITY TO COMMERCIALIZE OUR PRODUCT CANDIDATES If we are unable to obtain the necessary U.S. or worldwide regulatory approvals to commercialize any product candidate, our business will suffer. 44 We may not be able to obtain the approvals necessary to commercialize our product candidates, or any product candidate that we may acquire or develop in the future for commercial sale. We will need FDA approval to commercialize our product candidates in the United States and approvals from regulatory authorities in foreign jurisdictions equivalent to the FDA to commercialize our product candidates in those jurisdictions. In order to obtain FDA approval of any product candidate, we must submit to the FDA a BLA demonstrating that the product candidate is safe for humans and effective for its intended use. This demonstration requires significant research and animal tests, which are referred to as preclinical studies, as well as human tests, which are referred to as clinical trials. Satisfaction of the FDA’s regulatory requirements typically takes many years, depending upon the type, complexity and novelty of the product candidate, and will require substantial resources for research, development and testing. We cannot predict whether our research, development, and clinical approaches will result in products that the FDA will consider safe for humans and effective for their intended uses. The FDA has substantial discretion in the approval process and may require us to conduct additional preclinical and clinical testing or to perform post-marketing studies. The approval process may also be delayed by changes in government regulation, future legislation or administrative action or changes in FDA policy that occur prior to or during our regulatory review. Delays in obtaining regulatory approvals may: • Delay commercialization of, and our ability to derive product revenues from, our product candidates; • Impose costly procedures on us; and • Diminish any competitive advantages that we may otherwise enjoy. Even if we comply with all FDA requests, the FDA may ultimately reject one or more of our BLAs. We cannot be sure that we will ever obtain regulatory approval for any of our product candidates. Failure to obtain FDA approval for our product candidates will severely undermine our business by leaving us without a marketable product, and therefore without any potential revenue source, until another product candidate can be developed. There is no guarantee that we will ever be able to develop or acquire another product candidate or that we will obtain FDA approval if we are able to do so. In foreign jurisdictions, we similarly must receive approval from applicable regulatory authorities before we can commercialize any of our product candidates. Foreign regulatory approval processes generally include all of the risks associated with the FDA approval procedures described above. If we are unable either to create sales, marketing and distribution capabilities or enter into agreements with third parties to perform these functions, we will be unable to commercialize our product candidates successfully. We currently have no marketing, sales, or distribution capabilities. If, and when we become reasonably certain that we will be able to commercialize our current or future product candidates, we anticipate allocating resources to the marketing, sales and distribution of our proposed products in North America and in certain other countries; however, we cannot assure that we will be able to market, sell, and distribute our products successfully. Our future success also may depend, in part, on our ability to enter into and maintain collaborative relationships for such capabilities and to encourage the collaborator’s strategic interest in the products under development, and such collaborator’s ability to successfully market and sell any such products. Although we intend to pursue certain collaborative arrangements regarding the sale and marketing of certain of our product candidates, there are no assurances that we will be able to establish or maintain collaborative arrangements or, if we are able to do so, whether we would be able to conduct our own sales efforts. There can also be no assurance that we will be able to establish or maintain relationships with third-party collaborators or develop in-house sales and distribution capabilities. To the extent that we depend on third parties for marketing and distribution, any revenues we receive will depend upon the efforts of such third parties, and there can be no assurance that such efforts will be successful. In addition, there can also be no assurance that we will be able to market and sell our product candidates in the United States or overseas. If we are not able to partner with a third party and are not successful in recruiting sales and marketing personnel or in building a sales and marketing infrastructure, we will have difficulty commercializing our product candidates, which would harm our business. If we rely on pharmaceutical or biotechnology companies with established distribution systems to market our products, we will need to establish and maintain partnership arrangements, and we may not be able to enter into these arrangements on acceptable terms or at all. To the extent that we enter into co-promotion or other arrangements, any revenues we receive will depend upon the efforts of third parties that may not be successful and that will be only partially in our control. If physicians and patients do not accept and use our product candidates, once approved, our ability to generate revenue from sales of our products will be materially impaired. Even if the FDA and/or foreign equivalents thereof approve our product candidates, physicians and patients may not accept and use them. The use of engineered T cells as potential cancer treatments is a relatively recent development and may not become broadly accepted by physicians, patients, hospitals, cancer treatment centers, third-party payors and others in the medical community. Acceptance and use of our products will depend upon a number of factors includin • The clinical indications for which our product candidates are approved; 45 • Perceptions by members of the healthcare community, including physicians, about the safety and effectiveness of our products; • The prevalence and severity of any side effects; • Pharmacological benefit and cost-effectiveness of our products relative to competing products; • Relative convenience and ease of administration, including as compared to alternative treatments and competitive therapies; • Availability of coverage and adequate reimbursement for our products from government or other third-party payors; • Effectiveness of marketing and distribution efforts by us and our licensees and distributors, if any; and • The price at which we sell our products. Because we expect sales of our current product candidates, if approved, to generate substantially all of our product revenues for the foreseeable future, the failure of a product to find market acceptance would harm our business and could require us to seek additional financing in order to fund the development of future product candidates. Even if our products achieve market acceptance, we may not be able to maintain that market acceptance over time if new products or technologies are introduced that are more favorably received than our products, are more cost effective or render our products obsolete. Our ability to generate product revenues will be diminished if our products do not obtain coverage and adequate reimbursement from payors. Our ability to commercialize our product candidates, if approved, alone or with collaborators, will depend in part on the extent to which coverage and reimbursement will be available from third-party payors, including government and health administration authorities, private health maintenance organizations and health insurers and other payors. Patients who are prescribed medicine for the treatment of their conditions generally rely on third-party payors to reimburse all or part of the costs associated with their prescription drugs. Sufficient coverage and adequate reimbursement from third-party payors are critical to new product acceptance. Coverage decisions may depend upon clinical and economic standards that disfavor new drug products when more established or lower cost therapeutic alternatives are already available or subsequently become available. It is difficult to predict the coverage and reimbursement decisions that will be made by third-party payors for novel gene and cell therapy products such as ours. Even if we obtain coverage for our product candidates, the resulting reimbursement payment rates might not be adequate or may require co-payments that patients find unacceptably high. Patients are unlikely to use our product candidates unless coverage is provided, and reimbursement is adequate to cover a significant portion of the cost of our product candidates. In addition, the market for our product candidates for which we may receive regulatory approval will depend significantly on access to third-party payors’ drug formularies or lists of medications for which third-party payors provide coverage and reimbursement, which might not include all of the FDA-approved drugs for a particular indication. The industry competition to be included in such formularies often leads to downward pricing pressures on pharmaceutical companies. Also, third-party payors may refuse to include a particular branded drug in their formularies or otherwise restrict patient access to a branded drug when a less costly generic equivalent or other alternative is available. Third-party payors, whether foreign or domestic, or governmental or commercial, are developing increasingly sophisticated methods of controlling healthcare costs. In addition, in the United States, no uniform policy of coverage and reimbursement for drug products exists among third-party payors. Therefore, coverage and reimbursement for drug products can differ significantly from payor to payor. As a result, the coverage determination process is often a time-consuming and costly process that requires us to provide scientific and clinical support for the use of our products to each payor separately, with no assurance that approval will be obtained. If we are unable to obtain coverage of and adequate payment levels for our product candidates from third-party payors, physicians may limit how much or under what circumstances they will prescribe or administer our products and patients may decline to purchase them. This in turn could affect our ability to successfully commercialize our products and impact our profitability, results of operations, financial condition, and future success. In addition, in many foreign countries, particularly the countries of the European Union, or EU, the pricing of prescription drugs is subject to government control. In some non-U.S. jurisdictions, the proposed pricing for a drug must be approved before it may be lawfully marketed. The requirements governing drug pricing vary widely from country to country. For example, the EU provides options for its member states to restrict the range of medicinal products for which their national health insurance systems provide reimbursement and to control the prices of medicinal products for human use. A member state may approve a specific price for the medicinal product or it may instead adopt a system of direct or indirect controls on the profitability of the company placing the medicinal product on the market. We may face competition for our product candidates from lower-priced products in foreign countries that have placed price controls on pharmaceutical products. In addition, there may be importation of foreign products that compete with our own products, which could negatively impact our profitability. 46 The market opportunities for our product candidates may be limited to those patients who are ineligible for or have failed prior treatments and may be small. Cancer therapies are sometimes characterized as first line, second line or third line, and the FDA often approves new therapies initially only for third line use. When cancer is detected early enough, first line therapy is sometimes adequate to cure the cancer or prolong life without a cure. Whenever first line therapy, usually chemotherapy, hormone therapy, surgery, or a combination of these, proves unsuccessful, second line therapy may be administered. Second line therapies often consist of more chemotherapy, radiation, antibody drugs, tumor targeted small molecules, or a combination of these. Third line therapies can include bone marrow transplantation, antibody and small molecule targeted therapies, more invasive forms of surgery and new technologies. We expect to initially seek approval of our product candidates as a third line therapy for patients who have failed other approved treatments. Subsequently, for those products that prove to be sufficiently beneficial, if any, we would expect to seek approval as a second line therapy and potentially as a first line therapy, but there is no guarantee that our product candidates, even if approved, would be approved for second line or first line therapy. In addition, we may have to conduct additional clinical trials prior to gaining approval for second line or first line therapy. Our projections of both the number of people who have the cancers we are targeting, as well as the subset of people with these cancers in a position to receive therapy and who have the potential to benefit from treatment with our product candidates, are based on our beliefs and estimates. These estimates have been derived from a variety of sources, including scientific literature, surveys of clinics, patient foundations or market research and may prove to be incorrect. Further, new studies may change the estimated incidence or prevalence of these cancers. The number of patients may turn out to be lower than expected. Additionally, the potentially addressable patient population for our product candidates may be limited or may not be amenable to treatment with our product candidates. Our market opportunities may also be limited by competitor treatments that may enter the market. Healthcare legislative reform measures may have a material adverse effect on our business and results of operations. In both the United States and certain foreign jurisdictions, there have been a number of legislative and regulatory enactments in recent years that change the healthcare system in ways that could impact our future ability to sell our product candidates profitably. Furthermore, there have been and continue to be a number of initiatives at the federal and state level that seek to reduce healthcare costs. Most significantly, in March 2010, President Obama signed into law the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act, or collectively the ACA, which included measures that have significantly changed the way healthcare is financed by both governmental and private insurers. Among the provisions of the ACA of importance to the pharmaceutical industry are the followin • Created an annual, nondeductible fee on any entity that manufactures or imports certain branded prescription drugs and biologic agents, apportioned among these entities according to their market share in certain government healthcare programs; • Increased the statutory minimum rebates a manufacturer must pay under the Medicaid Drug Rebate Program to 23.1% and 13% of the average manufacturer price for most branded and generic drugs, respectively; • Created a new Medicare Part D coverage gap discount program, in which manufacturers must now agree to offer 70% point-of-sale discounts off negotiated prices of applicable brand drugs to eligible beneficiaries during their coverage gap period, as a condition for the manufacturer’s outpatient drugs to be covered under Medicare Part D; • Extended manufacturers’ Medicaid rebate liability to covered drugs dispensed to individuals who are enrolled in Medicaid managed care organizations; • Created new methodologies by which rebates owed by manufacturers under the Medicaid Drug Rebate Program are calculated for drugs that are inhaled, infused, instilled, implanted or injected, and for drugs that are line extensions; • Expanded eligibility criteria for Medicaid programs by, among other things, allowing states to offer Medicaid coverage to additional individuals with income at or below 133% of the Federal Poverty Level, thereby potentially increasing both the volume of sales and manufacturers’ Medicaid rebate liability; • Expanded the entities eligible for discounts under the Public Health Service pharmaceutical pricing program; • Created a new requirement to annually report drug samples that certain manufacturers and authorized distributors provide to physicians; • Expanded healthcare fraud and abuse laws, including the False Claims Act and the federal Anti-Kickback Statute, new government investigative powers, and enhanced penalties for noncompliance; • Created a licensure framework for follow-on biologic products; 47 • Created new requirements under the federal Physician Payments Sunshine Act for certain drug manufacturers to annually report information related to payments and other transfers of value made to physicians, as defined by such law, and teaching hospitals as well as ownership or investment interests held by physicians and their immediate family members; • Created a Patient-Centered Outcomes Research Institute to oversee, identify priorities in, and conduct comparative clinical effectiveness research, along with funding for such research; and • Established a Center for Medicare & Medicaid Innovation at the Centers for Medicare & Medicaid Services, or CMS, to test innovative payment and service delivery models to lower Medicare and Medicaid spending, potentially including prescription drug spending. There have been executive, legal and political challenges to certain aspects of the ACA. For example, President Trump signed several executive orders and other directives designed to delay, circumvent or loosen certain requirements mandated by the ACA. Concurrently, Congress considered legislation to repeal or repeal and replace all or part of the ACA. While Congress has not passed comprehensive repeal legislation, several bills affecting the implementation of certain taxes under the ACA have been signed into law. In December 2017, Congress repealed the tax penalty, effective January 1, 2019, for an individual’s failure to maintain ACA-mandated health insurance as part of the Tax Cuts and Jobs Act of 2017, or the Tax Act. On June 17, 2021, the U.S. Supreme Court dismissed a challenge on procedural grounds that argued that ACA is unconstitutional in its entirety because the “individual mandate” was repealed by Congress. Thus, the ACA will remain in effect in its current form. Further, prior to the U.S. Supreme Court ruling on January 28, 2021, President Biden issued an executive order that initiated a special enrollment period for purposes of obtaining health care coverage through the ACA marketplace, which began on February 21, 2021 and remained open through August 15, 2021. The executive order also instructed certain governmental agencies to review and reconsider their existing policies and rules that limit access to healthcare, including among others, reexamining Medicaid demonstration projects and waiver programs that include work requirements, and policies that create unnecessary barriers to obtaining access to health insurance coverage through Medicaid or the ACA. It is possible that the ACA will be subject to judicial or Congressional challenges in the future. It is unclear how any such challenges and the healthcare reform measures of the Biden administration will impact ACA and our business. The ultimate content, timing or effect of any healthcare reform measures on the U.S. healthcare industry is unclear. Further, there has been increasing legislative and enforcement interest in the United States with respect to specialty drug pricing practices. As a result, there have been several U.S. Congressional inquiries and proposed and enacted federal and state legislation designed to, among other things, bring more transparency to drug pricing, review the relationship between pricing and manufacturer patient programs and reform government program reimbursement methodologies for drugs. At the federal level, the Trump administration used several means to propose or implement drug pricing reform, including through federal budget proposals, executive orders and policy initiatives. For example, on July 24, 2020 and September 13, 2020, the Trump administration announced several executive orders related to prescription drug pricing that attempt to implement several of the administration’s proposals. The FDA also released a final rule, effective November 30, 2020, implementing a portion of the importation executive order providing guidance for states to build and submit importation plans for drugs from Canada. Further, on November 20, 2020, the U.S. Department of Health and Human Services, or HHS, finalized a regulation removing safe harbor protection for price reductions from pharmaceutical manufacturers to plan sponsors under Medicare Part D, either directly or through pharmacy benefit managers, unless the price reduction is required by law. The implementation of the rule has been delayed by the Biden administration from January 1, 2022 to January 1, 2023 in response to ongoing litigation. The rule also creates a new safe harbor for price reductions reflected at the point-of-sale, as well as a new safe harbor for certain fixed fee arrangements between pharmacy benefit managers and manufacturers, the implementation of which have also been delayed until January 2023. On November 20, 2020, CMS issued an interim final rule implementing President Trump’s Most Favored Nation, or MFN, executive order, which would tie Medicare Part B payments for certain physician-administered drugs to the lowest price paid in other economically advanced countries, effective January 1, 2021. As a result of litigation, challenging the MFN model on August 10, 2021, CMS published a proposed rule that seeks to rescind the MFN model interim rule. In addition, on March 11, 2021, President Biden signed the American Rescue Plan Act of 2021 into law, which eliminates the statutory Medicaid drug rebate price cap, currently set at 100% of a drug's average manufacturer price for single source and innovator multiple source products, beginning on January 1, 2024. Further, in July 2021, the Biden Administration released an executive order that included multiple provisions aimed at prescription drugs. In response to Biden's executive order, on September 9, 2021, HHS released a Comprehensive Plan for Addressing High Drug Prices that outlines principles for drug price reform. The plan sets out a variety of potential legislative policies that Congress could pursue as well as potential administrative actions by HHS. No legislative or administrative actions have been finalized to implement these principles. In addition, Congress is considering drug pricing as part of the budget reconciliation process. Individual states in the United States also have increasingly passed legislation and implemented regulations designed to control pharmaceutical product pricing, including price or patient reimbursement constraints, discounts, restrictions on certain product access and marketing cost disclosure and transparency measures, and, in some cases, designed to encourage importation from other countries and bulk purchasing. It is possible that additional governmental action is taken in response to the COVID-19 pandemic. 48 We expect that healthcare reform measures that may be adopted in the future may result in more rigorous coverage criteria and in additional downward pressure on the price that we may receive for any approved product. Any reduction in reimbursement from Medicare or other government programs may result in a similar reduction in payments from private payors. The implementation of cost containment measures or other healthcare reforms may prevent us from being able to generate revenue, attain profitability or, if we receive regulatory approval, commercialize our products. If we fail to comply with federal and state healthcare laws, including fraud and abuse and health information privacy and security laws, we could face substantial penalties and our business, results of operations, financial condition and prospects could be adversely affected. As a pharmaceutical company, even though we do not and will not control referrals of healthcare services or bill directly to Medicare, Medicaid or other third-party payors, certain federal and state healthcare laws and regulations pertaining to fraud and abuse and patients’ rights are and will be applicable to our business. For example, we could be subject to healthcare fraud and abuse and patient privacy regulation by both the federal government and the states in which we conduct our business. The laws that may affect our ability to operate include, among othe • The federal Anti-Kickback Statute, which regulates our business activities, including our clinical research and relationships with healthcare providers or other entities as well as our future marketing practices, educational programs and pricing policies, and by prohibiting, among other things, soliciting, receiving, offering or paying remuneration, directly or indirectly, to induce, or in return for, either the referral of an individual or the purchase or recommendation of an item or service reimbursable under a federal healthcare program, such as the Medicare and Medicaid programs; • Federal civil and criminal false claims laws, including the False Claims Act, which permits a private individual acting as a “whistleblower” to bring actions on behalf of the federal government alleging violations of the False Claims Act, and civil monetary penalty laws, which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid or other third-party payors that are false or fraudulent; • The federal Health Insurance Portability and Accountability Act of 1996, or HIPAA, which created new federal civil and criminal statutes that prohibit, among other things, executing a scheme to defraud any healthcare benefit program or making false statements relating to healthcare matters; • The Health Information Technology for Economic and Clinical Health Act of 2009, or HITECH, and its implementing regulations, which impose certain requirements relating to the privacy, security and transmission of individually identifiable health information on entities and individuals subject to the law including certain healthcare providers, health plans, and healthcare clearinghouses, known as covered entities, as well as individuals and entities that perform services for them which involve the use, or disclosure of, individually identifiable health information, known as business associates and their subcontractors that use, disclose or otherwise process individually identifiable health information; • Requirements under the Physician Payments Sunshine Act to report annually to CMS certain financial arrangements with physicians (defined to include doctors, dentists, optometrists, podiatrists and chiropractors) and teaching hospitals, as defined in the ACA and its implementing regulations, including reporting any “transfer of value” made or distributed to teaching hospitals, and physicians, as defined by such law and reporting any ownership and investment interests held by physicians and their immediate family members and applicable group purchasing organizations during the preceding calendar year, which will be expanded beginning in 2022, to require applicable manufacturers to report such information regarding its payments and other transfers of value made to physician assistants, nurse practitioners, clinical nurse specialists, anesthesiologist assistants, certified registered nurse anesthetists and certified nurse midwives during the previous year; and • State and foreign law equivalents of each of the above federal laws, such as anti-kickback and false claims laws which may apply to items or services reimbursed by any third-party payor, including commercial insurers; state laws that require pharmaceutical companies to comply with the industry’s voluntary compliance guidelines and the applicable compliance guidance promulgated by the federal government that otherwise restricts certain payments that may be made to healthcare providers and entities; state laws that require drug manufacturers to report information related to payments and other transfer of value to physicians and other healthcare providers and entities; state laws that require the reporting of information related to drug pricing; state and local laws that require the registration of pharmaceutical sales representatives; and state and foreign laws governing the privacy and security of health information in certain circumstances, many of which differ from each other in significant ways and often are not preempted by HIPAA, thus complicating compliance efforts. Because of the breadth of these laws and the narrowness of the statutory exceptions and safe harbors available, it is possible that some of our business activities, including our consulting agreements with physicians, some of whom receive stock or stock options as compensation for their services, could be subject to challenge under one or more of such laws. In addition, recent health care reform legislation has further strengthened these laws. For example, the ACA, among other things, amended the intent requirement of the federal Anti-Kickback Statute and certain criminal healthcare fraud statutes. A person or entity no longer needs to have actual 49 knowledge of this statute or specific intent to violate it. Moreover, the ACA provides that the government may assert that a claim including items or services resulting from a violation of the federal Anti-Kickback Statute constitutes a false or fraudulent claim for purposes of the False Claims Act. To the extent that any of our product candidates is ultimately sold in a foreign country, we may be subject to similar foreign laws and regulations. Efforts to ensure that our business arrangements comply with applicable healthcare laws involve substantial costs. It is possible that governmental and enforcement authorities will conclude that our business practices do not comply with current or future statutes, regulations or case law interpreting applicable fraud and abuse or other healthcare laws and regulations. If any such actions are instituted against us, and we are not successful in defending ourselves or asserting our rights, we may be subject to significant penalties, including administrative, civil and criminal penalties, damages, fines, exclusion from participation in United States federal or state health care programs, such as Medicare and Medicaid, disgorgement, imprisonment, integrity oversight and reporting obligations, and the curtailment or restructuring of our operations any of which could materially adversely affect our ability to operate our business and our financial results. Although compliance programs can mitigate the risk of investigation and prosecution for violations of these laws, the risks cannot be entirely eliminated. Any action against us for violation of these laws, even if we successfully defend against it, could cause us to incur significant legal expenses and divert our management’s attention from the operation of our business. Moreover, achieving and sustaining compliance with applicable federal and state privacy, security and fraud laws may prove costly. Our immuno-oncology product candidates may face competition in the future from biosimilars and/or new technologies. The Biologics Price Competition and Innovation Act of 2009, or BPCIA, provides an abbreviated pathway for the approval of follow-on biological products. Under the BPCIA, an application for a biosimilar product cannot be approved by the FDA until 12 years after the original branded product was approved under a BLA. However, there is a risk that the U.S. Congress could amend the BPCIA to significantly shorten this exclusivity period, potentially creating the opportunity for generic competition sooner than anticipated. Further, this data exclusivity does not prevent another company from developing a product that is highly similar to the original branded product, generating its own data and seeking approval. Data exclusivity only assures that another company cannot rely upon the data within the innovator’s application to support the biosimilar product’s approval. We rely significantly on information technology and any failure, inadequacy, interruption or security lapse of that technology or loss of data, including any cyber security incidents, could compromise sensitive information related to our business, prevent us from accessing critical information or expose us to liability which could harm our ability to operate our business effectively and adversely affect our business and reputation. In the ordinary course of our business, we, our contract research organizations and other third parties on which we rely collect and store sensitive data, including legally protected patient health information, personally identifiable information about our employees, intellectual property, and proprietary business information. We manage and maintain our applications and data utilizing on-site systems. These applications and data encompass a wide variety of business-critical information including research and development information and business and financial information. The secure processing, storage, maintenance and transmission of this critical information is vital to our operations and business strategy. Despite the implementation of security measures, our internal computer systems and those of third parties with which we contract are vulnerable to damage from cyber-attacks, computer viruses, breaches, unauthorized access, interruptions due to employee error or malfeasance or other disruptions, or damage from natural disasters, terrorism, war and telecommunication and electrical failures. Any such event could compromise our networks and the information stored there could be accessed by unauthorized parties, publicly disclosed, lost or stolen. Although we have measures in place that are designed to detect and respond to such security incidents and breaches of privacy and security mandates, we cannot guarantee that those measures will be successful in preventing any such security incident. Any such access, disclosure or other loss of information could result in legal claims or proceedings, liability under laws that protect the privacy of personal information, government enforcement actions and regulatory penalties. Unauthorized access, loss or dissemination could also disrupt our operations, including our ability to conduct research, development and commercialization activities, process and prepare Company financial information, manage various general and administrative aspects of our business and damage our reputation, in addition to possibly requiring substantial expenditures of resources to remedy, any of which could adversely affect our business. The loss of clinical trial data could result in delays in our regulatory approval efforts and significantly increase our costs to recover or reproduce the data. In addition, there can be no assurance that we will promptly detect any such disruption or security breach, if at all. If the technology supporting our hunTR discovery engine were to experience a cyber-incident resulting in the disclosure or theft of our proprietary screening software or library of TCRs, our business may be materially and negatively impacted. While we are not aware of any such material system failure, accident or security breach to date, to the extent that any disruption or security breach were to result in a loss of, or damage to, our data or applications, or inappropriate disclosure of confidential or proprietary information, we could incur liability and our research, development and commercialization efforts could be delayed. 50 RISKS RELATED TO OUR INTELLECTUAL PROPERTY If we or our licensors fail to adequately protect or enforce our intellectual property rights or secure rights to patents of others, the value of our intellectual property rights would diminish and our ability to successfully commercialize our products may be impaired. Our success, competitive position, and future revenues will depend in part on our ability and the abilities of our licensors to obtain and maintain patent protection for our products, methods, processes and other technologies, to preserve confidential information, including trade secrets, to prevent third parties from infringing our proprietary rights, and to operate without infringing the proprietary rights of third parties. To date, we have exclusive rights in the field of cancer treatment to certain U.S. and foreign intellectual property with respect to certain cell therapy and related technologies from MD Anderson and NCI, as well as with respect to the PGEN technology, including Sleeping Beauty . Under the MD Anderson License, future patent applications require the agreement of each of MD Anderson, PGEN and us, and MD Anderson has the right to control the preparation, filing, and prosecution of such patent applications unless the parties agree that we or PGEN instead may control such activities. Although under the agreement MD Anderson has agreed to review and incorporate any reasonable comments that we or PGEN may have regarding licensed patents and patent applications, we cannot guarantee that our comments will be solicited or followed. Under the Patent License with the NCI for certain TCRs, the NCI is responsible for the preparation, filing, prosecution, and maintenance of patent applications and patents licensed to us. Although under the Patent License, the NCI is required to consult with us in the preparation, filing, prosecution, and maintenance of all its patent applications and patents licensed to us, we cannot guarantee that our comments will be solicited or followed. Under our License Agreement with PGEN, PGEN has the right, but not the obligation, to prepare, file, prosecute, and maintain the patents and patent applications licensed to us and shall bear all related costs incurred by it in regard to those actions. PGEN is required to consult with us and keep us reasonably informed of the status of the patents and patent applications licensed to us, and to confer with us prior to submitting any related filings and correspondence. Although under the License Agreement PGEN has agreed to consider in good faith and consult with us regarding any comments we may have regarding these patents and patent applications, we cannot guarantee that our comments will be solicited or followed. Without direct control of the in-licensed patents and patent applications, we are dependent on MD Anderson, the NCI or PGEN, as applicable, to keep us advised of prosecution, particularly in foreign jurisdictions where prosecution information may not be publicly available. We anticipate that we, MD Anderson, the NCI and PGEN will file additional patent applications both in the United States and in other jurisdictions. However, we cannot predict or guarantee for either our in-licensed patent portfolios or for Alaunos’ patent portfoli • When, if at all, any patents will be granted on such applications; • The scope of protection that any patents, if obtained, will afford us against competitors; • That third parties will not find ways to invalidate and/or circumvent our patents, if obtained; • That others will not obtain patents claiming subject matter related to or relevant to our product candidates; or • That we will not need to initiate litigation and/or administrative proceedings that may be costly whether we win or lose. The patent prosecution process is expensive and time-consuming, and we may not be able to file and prosecute all necessary or desirable patent applications at a reasonable cost, in a timely manner or at all. It is also possible that we will fail to identify patentable aspects of our research and development output before it is too late to obtain patent protection. Moreover, in some circumstances, we do not have the right to control the preparation, filing and prosecution of patent applications, or to maintain the patents, covering technology that we license from third parties. We may also require the cooperation of our licensors in order to enforce the licensed patent rights, and such cooperation may not be provided. Therefore, these patents and applications may not be prosecuted and enforced in a manner consistent with the best interests of our business. The patent position of biotechnology and pharmaceutical companies generally is highly uncertain, involves complex legal and factual questions and has in recent years been the subject of much litigation. In addition, the laws of other jurisdictions may not protect our rights to the same extent as the laws of the United States. For example, methods of therapeutic treatment, which are patent-eligible in the United States, may not be claimed in many other jurisdictions; some patent offices (such as the European Patent Office) may permit the redrafting of method of treatment claims into a "medical use" format that is patent-eligible, while other patent offices (such as the Indian Patent Office) may not accept any redrafted claiming format for such claims. Changes in patent laws or in interpretations of patent laws in the United States and other jurisdictions may diminish the value of our intellectual property or narrow the scope of our patent protection. In September 2011, the Leahy-Smith America Invents Act, or the Leahy-Smith Act, was signed into law, resulting in a number of significant changes to United States patent law. These changes include provisions that affect the way patent applications are prosecuted and may also affect patent litigation. In addition, the United States Supreme Court has ruled on several patent cases in recent years, narrowing the scope of patent protection available in certain circumstances or weakening the rights of patent owners in certain situations. This combination of events has created uncertainty with respect to the value of patents, once obtained, and with regard to our ability to obtain patents in the future. As the USPTO continues to 51 implement the Leahy-Smith Act, and as the federal courts have the opportunity to interpret the Leahy-Smith Act, the laws and regulations governing patents, and the rules regarding patent procurement could change in unpredictable ways that would weaken our ability to obtain new patents or to enforce our existing patents and patents that we might obtain in the future. Certain technologies utilized in our research and development programs are already in the public domain. Moreover, a number of our competitors have developed technologies, or filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and may cover or conflict with our owned or licensed patent applications, technologies or product candidates. Such conflicts could limit the scope of the patents, if any, that we may be able to obtain. Because patent applications in the United States and many foreign jurisdictions are typically not published until 18 months after filing, or in some cases at all, and because publications of discoveries in the scientific literature lag behind actual discoveries per se, neither we nor our licensors can be certain that others have not filed patent applications for technology used by us or covered by our pending patent applications. We cannot know with certainty whether we were the first to make and file for the inventions claimed in our owned patent portfolio, or whether our licensors were the first to make and file for the inventions claimed in our in-licensed patent portfolio. As a result, the issuance, scope, validity, enforceability and commercial value of our patent rights are highly uncertain. Our pending and future patent applications may not result in the issuance of patents that protect our technology or products, in whole or in part, or that effectively prevent others from commercializing competitive technologies and products. In addition, our own earlier filed patents and applications or those of MD Anderson, NCI or PGEN may limit the scope of later patents we obtain, if any. If third parties file or have filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and that cover or conflict with our owned or licensed patent applications, technologies or product candidates, we may be required to challenge such protection, terminate or modify our programs impacted by such protection, or obtain licenses from such third parties, which might not be available on acceptable terms, or at all. Even if our owned and licensed patent applications were to be issued as patents, they may not issue in a form that would provide us with any meaningful protection, prevent competitors from competing with us or otherwise provide us with any competitive advantage. Our competitors may be able to circumvent our owned or licensed patents by developing similar or alternative technologies or products in a non-infringing manner. The issuance of a patent is not conclusive as to its inventorship, scope, validity or enforceability, and our owned and licensed patents may be challenged in the courts or patent offices in the United States and abroad. Such challenges may result in loss of exclusivity due to our patents being narrowed, invalidated or held unenforceable, which could limit our ability to stop others from using or commercializing similar or identical technology and products, or limit the duration of the patent protection of our technology and products. Given the amount of time required for the development, testing and regulatory review of new product candidates, patents protecting such candidates might expire before or even after such candidates are commercialized. As a result, our owned and licensed patent portfolio may not provide us with sufficient rights to exclude others from commercializing products similar or identical to ours. If we are unable to protect the confidentiality of our confidential information, our business and competitive position would be harmed. Our success also depends upon the skills, knowledge, and experience of our scientific and technical personnel, our consultants and advisors, as well as our licensors and contractors. To help protect our proprietary know-how and our inventions for which patents may be unobtainable or difficult to obtain, and to maintain our competitive position, we rely on trade secret protection and confidentiality agreements. To this end, it is our general policy to require our employees, consultants, advisors, and contractors to enter into agreements that prohibit the disclosure of confidential information and, where applicable, require disclosure and assignment to us of the ideas, developments, discoveries, and inventions important to our business. These agreements may not provide adequate protection for our trade secrets, know-how, confidential information or other proprietary information in the event of any unauthorized use or disclosure or the lawful development by others of such information. Moreover, we may not be able to obtain adequate remedies for any breaches of these agreements. Our trade secrets or other confidential information may also be obtained by third parties by other means, such as breaches of our physical or computer security systems. Enforcing a claim that a party illegally disclosed or misappropriated a trade secret or other confidential information is difficult, expensive and time-consuming, and the outcome is unpredictable. In addition, some courts inside and outside the United States are less willing or unwilling to protect trade secrets. If any of our trade secrets or other confidential information were to be lawfully obtained or independently developed by competitors, we would have no right to prevent them, or those to whom they communicate it, from using that technology or information to compete with us. If any of our trade secrets, know-how or other proprietary information is disclosed, the value of our trade secrets, know-how and other proprietary rights would be significantly impaired and our business and competitive position would suffer. Third-party claims of intellectual property infringement would require us to spend significant time and money and could prevent us from developing or commercializing our products. In order to protect or enforce patent rights, we may initiate patent infringement litigation against third parties. Similarly, we may be sued by others for patent infringement. We also may become subject to pre- and post-grant proceedings conducted in the USPTO, including interferences, derivations, post-grant review, inter partes review, or reexamination. In other jurisdictions, our patent estate 52 may be subject to pre- and post-grant opposition, nullity, revocation proceedings, and the like. Asserting and defending against intellectual property actions are costly and divert technical and management personnel away from their normal responsibilities. Our commercial success depends upon our ability, and the ability of our collaborators, to develop, manufacture, market and sell our product candidates without infringing the proprietary rights of third parties. There is considerable intellectual property litigation in the biotechnology and pharmaceutical industries. While no such litigation has been brought against us and we have not been held by any court to have infringed a third party’s intellectual property rights, we cannot guarantee that our products or use of our products do not infringe or will not be asserted to infringe third-party patents. It is also possible that we have failed to identify relevant third-party patents or applications, or that as-yet unpublished third-party patent applications will later result in the grant of patents relevant to our business. Another possibility is for a third-party patent or patent application to first contain claims not relevant to our business but then to be reissued or amended in such a way that it does become relevant. Our research, development and commercialization activities, as well as any product candidates or products resulting from these activities, may infringe or be asserted to infringe patents or patent applications under which we do not hold licenses or other rights. Owning a patent does not confer on the patentee the right to practice the claimed invention and does not protect the patentee from being sued for infringement of another owner’s patent. Our patent position cannot and does not provide any assurance that we are not infringing or will not be asserted to infringe the patent rights of another. The patent landscape in the field of immuno-oncology is particularly complex. We are aware of numerous United States and foreign patents and pending patent applications of third parties directed to compositions, methods of use and methods of manufacture of immuno-oncology products. In addition, there may be patents and patent applications in the field of which we are not aware. The technology we license from MD Anderson, NCI and PGEN is early-stage technology, and we are in the process of designing and developing products using this technology. Although we will seek to avoid pursuing the development of products that may infringe any third-party patent claims that we believe to be valid and enforceable, we may fail to do so. Moreover, given the breadth and number of claims in patents and pending patent applications in the field of immuno-oncology and the complexities and uncertainties associated with them, third parties may allege that we are infringing patent claims even if we do not believe such claims have merit. If a claim for patent infringement is asserted, there can be no assurance that the resolution of the claim would permit us to continue marketing the relevant product on commercially reasonable terms, if at all. We may not have sufficient resources to bring these actions to a successful conclusion. If we do not successfully defend any infringement actions to which we become a party or if we are unable to have any asserted third-party patents declared invalid or unenforceable, we may have to pay substantial monetary damages, which can be tripled if the infringement is deemed willful, and/or we may be required to discontinue or significantly delay commercialization and development of the affected products. Any legal action against us or our collaborators claiming damages and seeking to enjoin developmental or marketing activities relating to affected products could, in addition to subjecting us to potential liability for damages, require us or our collaborators to obtain licenses to continue to develop, manufacture, or market the affected products. Such licenses may not be available to us on commercially reasonable terms, or at all. An adverse determination in a proceeding involving our owned or licensed intellectual property may allow entry in the market of substitutes, including biosimilar or generic substitutes, for our products. Obtaining and maintaining our patent protection depends on compliance with various procedural, document submission, fee payment and other requirements imposed by governmental patent agencies, and our patent protection could be reduced or eliminated for noncompliance with these requirements. Annuities and other similar fees must be paid to the respective patent authority to maintain patents (or patents and patent applications) in most jurisdictions worldwide. Further, patent authorities in jurisdictions worldwide require compliance with a number of procedural, documentary, fee payment and other similar provisions during the patent application process. While an inadvertent lapse can in many cases be cured by payment of a late fee or by other means in accordance with the applicable rules, there are situations in which noncompliance can result in abandonment or lapse of the patent or patent application, resulting in partial or complete loss of patent rights in the relevant jurisdiction. Noncompliance events that could result in abandonment or lapse of a patent or patent application include, but are not limited to, failure to respond to official actions within prescribed time limits, non-payment of fees, and failure to submit documents with the necessary formal requirements such as notarization and legalization. In such an event, our competitors might be able to enter the market, which would have a material adverse effect on our business. We license rights to products and technology that are important to our business, and we expect to enter into additional licenses in the future. For instance, we have in-licensed patents and patent applications under our MD Anderson License, our license agreement with the NCI, and our license agreement with PGEN. Under these agreements, we are subject to a range of obligations pertaining to commercialization and development, sublicensing, royalty, patent prosecution and maintenance, and insurance. Any failure by us to obtain a needed license, comply with any of these obligations or any other breach by us of our license agreements could give the licensor the right to terminate the license in whole, terminate the exclusive nature of the license or bring a claim against 53 us for damages. Any such termination or claim could have a material adverse effect on our financial condition, results of operations, liquidity or business. Even if we contest any such termination or claim and are ultimately successful, such dispute could lead to delays in the development or commercialization of potential products and result in time-consuming and expensive litigation or arbitration. On termination we may be required to license to the licensor any related intellectual property that we developed. In addition, in certain cases, the rights licensed to us are rights of a third party licensed to our licensor. In such instances, if our licensors do not comply with their obligations under such licenses, our rights under our license agreements with our licensor may be adversely affected. In addition, the licensing or acquisition of third-party intellectual property rights is a highly competitive area, and a number of more established companies are also pursuing strategies to license or acquire third party intellectual property rights that we may consider attractive or necessary. These established companies may have a competitive advantage over us due to their size, capital resources and greater clinical development and commercialization capabilities. In addition, companies that perceive us to be a competitor may be unwilling to assign or license rights to us. We also may be unable to license or acquire third party intellectual property rights on terms that would allow us to make an appropriate return on our investment or at all. If we are unable to successfully obtain rights to required third party intellectual property rights or maintain the existing intellectual property rights we have, we may have to abandon development of the relevant program or product candidate, which could have a material adverse effect on our business, financial condition, results of operations, and prospects. We may be subject to claims by third parties asserting that our employees or we have misappropriated their intellectual property or claiming ownership of what we regard as our own intellectual property. Many of our employees were previously employed at universities or at other biotechnology or pharmaceutical companies, including our competitors or potential competitors. Although we try to ensure that our employees do not use the proprietary information or know-how of others in their work for us, we may be subject to claims that these employees or we have used or disclosed intellectual property, including trade secrets or other proprietary information, of any such employee’s former employer. Litigation may be necessary to defend against these claims. In addition, while it is our policy to require our employees and contractors who may be involved in the development of intellectual property to execute agreements assigning such intellectual property to us, we may be unsuccessful in executing such an agreement with each party who in fact develops intellectual property that we regard as our own. Our and their assignment agreements may not be self-executing or may be breached, and we may be forced to bring claims against third parties, or defend claims they may bring against us, to determine the ownership of what we regard as our intellectual property. If we fail in prosecuting or defending any such claims, in addition to paying monetary damages, we may lose valuable intellectual property rights or personnel. Even if we are successful in prosecuting or defending against such claims, litigation could result in substantial costs and be a distraction to management. OTHER RISKS RELATED TO OUR COMPANY *Our stock price has been, and may continue to be, volatile. The market price for our common stock is volatile and may fluctuate significantly in response to a number of factors, most of which we cannot control, includin • Price and volume fluctuations in the overall stock market; • Changes in operating results and performance and stock market valuations of other biopharmaceutical companies generally, or those that develop and commercialize cancer drugs in particular; • Market conditions or trends in our industry or the economy as a whole; • Preclinical studies or clinical trial results; • The commencement, enrollment or results of the planned clinical trials of our product candidates or any future clinical trials we may conduct, or changes in the development status of our product candidates; • Public statements by third parties like trial participants and clinical investigators regarding our current or future clinical trials; • Public concern as to the safety of drugs developed by us or others; • The financial or operational projections we may provide to the public, any changes in these projections or our failure to meet these projections; 54 • Comments by securities analysts or changes in financial estimates or ratings by any securities analysts who follow our common stock, our failure to meet these estimates or failure of those analysts to initiate or maintain coverage of our common stock; • The public’s response to press releases or other public announcements by us or third parties, including our filings with the SEC, as well as announcements of the status of development of our products, announcements of technological innovations or new therapeutic products by us or our competitors, announcements regarding collaborative agreements and other announcements relating to product development, litigation and intellectual property impacting us or our business; • Government regulation; • FDA determinations on the approval of a product candidate BLA submission; • The sustainability of an active trading market for our common stock; • Future sales of our common stock by us, our executive officers, directors and significant stockholders; • Announcements of mergers or acquisition transactions; • Our inclusion or deletion from certain stock indices; • Developments in patent or other proprietary rights; • Changes in reimbursement policies; • Announcements of medical innovations or new products by our competitors; • Announcements of changes in our senior management or directors; • General economic, industry, political and market conditions, including, but not limited to, the ongoing impact of global economic conditions; • Other events or factors, including those resulting from war, incidents of terrorism, natural disasters, pandemics or responses to these events; and • Changes in accounting principles. In addition, the stock market in general and our stock in particular from time to time experiences significant price and volume fluctuations unrelated to the operating performance of particular companies, including in connection with the ongoing COVID-19 pandemic, which has resulted in decreased stock prices for many companies notwithstanding the lack of a fundamental change in their underlying business models or prospects. Public debt and equity markets, and in particular the Nasdaq Global Select Market, have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many biopharmaceutical companies. Stock prices of many biopharmaceutical companies have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. In the past, stockholders have instituted securities class action litigation following periods of market volatility. If we were involved in securities litigation, we could incur substantial costs and our resources, and the attention of management could be diverted from our business. Public statements made by third parties such as trial participants and clinical investigators about our current or future clinical trials without our consent may adversely impact our stock price. We may not be aware of these third-party statements when made, may not be able to respond to these third-party statements and may not be able to defend our business or the public’s legitimate interests due to restrictions on what we may say about our product candidates which may cause the price of our stock to fluctuate. If any of these events were to occur or we otherwise fail to comply with applicable regulations, we could incur liability, face regulatory actions or incur other harm to our business. Anti-takeover provisions in our charter documents and under Delaware law may make an acquisition of us, which may be beneficial to our stockholders, more difficult. Provisions of our amended and restated certificate of incorporation and bylaws, as well as provisions of Delaware law, could make it more difficult for a third party to acquire us, even if doing so would benefit our stockholders. These provisions authorize the issuance of “blank check” preferred stock that could be issued by our board of directors to increase the number of outstanding shares and hinder a takeover attempt, and limit who may call a special meeting of stockholders. In addition, Section 203 of the Delaware General Corporation Law, or Section 203, generally prohibits a publicly held Delaware corporation from engaging in a business combination with a party that owns at least 15% of its common stock unless the business combination is approved by our board of directors before the person acquires the 15% ownership stake or later by its board of directors and two-thirds of its stockholders. Section 203 could 55 have the effect of delaying, deferring or preventing a change in control that our stockholders might consider to be in their best interests. Our amended and restated bylaws provide that the Court of Chancery of the State of Delaware will be the exclusive forum for substantially all disputes between us and our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees. Our bylaws provide that, unless we consent in writing to the selection of an alternative forum, the Court of Chancery of the State of Delaware is the exclusive forum for (i) any derivative action or proceeding brought on our behalf; (ii) any action asserting a claim of breach of a fiduciary duty owed by any of our directors, officers or other employees to us or our stockholders; (iii) any action asserting a claim against us or any of our directors, officers or other employees arising pursuant to any provision of the Delaware General Corporation Law, our amended and restated certificate of incorporation or our amended and restated bylaws; (iv) any claim or cause of action seeking to interpret, apply, enforce or determine the validity of the amended and restated certificate of incorporation or our bylaws; (v) any claim or cause of action as to which the General Corporation Law confers jurisdiction on the Court of Chancery of the State of Delaware; or (vi) any action asserting a claim against us or any of our directors, officers or other employees governed by the internal affairs doctrine. These provisions would not apply to suits brought to enforce a duty or liability created by the Exchange Act. Furthermore, Section 22 of the Securities Act creates concurrent jurisdiction for federal and state courts over all such Securities Act actions. Accordingly, both state and federal courts have jurisdiction to entertain such claims. These exclusive forum provisions may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers, or other employees, which may discourage lawsuits against us and our directors, officers and other employees. If a court were to find either exclusive-forum provision to be inapplicable or unenforceable in an action, we may incur further significant additional costs associated with resolving the dispute in other jurisdictions, all of which could seriously harm our business. Because we do not expect to pay dividends, you will not realize any income from an investment in our common stock unless and until you sell your shares at a profit. We have never paid dividends on our common stock, and we do not anticipate that we will pay any dividends for the foreseeable future. Accordingly, any return on an investment in us will be realized, if at all, only when you sell shares of our common stock. Our ability to use net operating loss carryforwards and research tax credits to reduce future tax payments may be limited or restricted. We have generated significant net operating loss carryforwards, or NOLs, and research and development tax credits, or R&D credits, as a result of our incurrence of losses and our conduct of research activities since inception. We generally are able to carry NOLs and R&D credits forward to reduce our tax liability in future years. However, our ability to utilize the NOLs and R&D credits is subject to the rules of Sections 382 and 383 of the Internal Revenue Code of 1986, as amended, or the Code, respectively. Those sections generally restrict the use of NOLs and R&D credits after an “ownership change.” An ownership change occurs if, among other things, the stockholders (or specified groups of stockholders) who own or have owned, directly or indirectly, 5% or more of a corporation’s common stock or are otherwise treated as 5% stockholders under Section 382 of the Code and the U.S. Treasury Department regulations promulgated thereunder increase their aggregate percentage ownership of that corporation’s stock by more than 50 percentage points over the lowest percentage of the stock owned by these stockholders over the applicable testing period. In the event of an ownership change, Section 382 of the Code imposes an annual limitation on the amount of taxable income a corporation may offset with NOL carry forwards and Section 383 of the Code imposes an annual limitation on the amount of tax a corporation may offset with business credit (including R&D credits) carryforwards. We may have experienced an “ownership change” within the meaning of Section 382 of the Code in the past and there can be no assurance that we will not experience additional ownership changes in the future. As a result, our NOLs and business credits (including R&D credits) may be subject to limitations, and we may be required to pay taxes earlier and in larger amounts than would be the case if our NOLs or R&D credits were freely usable. If securities and/or industry analysts fail to continue publishing research about our business, if they change their recommendations adversely or if our results of operations do not meet their expectations, our stock price and trading volume could decline. The trading market for our common stock will be influenced by the research and reports that industry or securities analysts publish about us or our business. If one or more of these analysts cease coverage of our Company or fail to publish reports on us regularly, we could lose visibility in the financial markets, which in turn could cause our stock price or trading volume to decline. In addition, it is likely that in some future period our operating results will be below the expectations of securities analysts or investors. If one or more 56 of the analysts who cover us downgrade our stock, or if our results of operations do not meet their expectations, our stock price could decline. Our business could be negatively affected as a result of the actions of activist stockholders. In 2021, we were engaged in a consent solicitation led by WaterMill Asset Management Corp., or WaterMill, where three new directors were added to our board of directors. We could experience other stockholder activism in the future, including another consent solicitation or a proxy contest. Activist shareholders may advocate for certain governance and strategic changes at our company. In the event of stockholder activism, particularly with respect to matters which our board of directors, in exercising their fiduciary duties, disagree with or have determined not to pursue, our business could be adversely affected because responding to actions by activist stockholders can be costly and time-consuming, disrupting our operations and diverting the attention of management, and perceived uncertainties as to our future direction may result in the loss of potential business opportunities and may make it more difficult to attract and retain qualified personnel, business partners, and customers. In addition, if faced with a consent solicitation or proxy contest, we may not be able to respond successfully to the contest or dispute, which would be disruptive to our business. If individuals are elected to our board of directors with a differing agenda, our ability to effectively and timely implement our strategic plan and create additional value for our stockholders may be adversely affected. *The exercise of outstanding warrants, and issuance of equity awards may have a dilutive effect on our stock, and negatively impact the price of our common stock. As of September 30, 2022, we had warrants for 22,922,342 shares of our common stock outstanding at a weighted average exercise price of $5.62 per share. We are able to grant stock options, restricted stock, restricted stock units, stock appreciation rights, bonus stocks, and performance awards under the 2020 Equity Incentive Plan. Under the 2020 Equity Incentive Plan and our 2012 Equity Incentive Plan, 10,623,215 shares were issuable upon the exercise of outstanding options at a weighted average exercise price of $1.85 per share. *Our principal stockholders, executive officers and directors have substantial control over the Company, which may prevent you and other stockholders from influencing significant corporate decisions and may harm the market price of our common stock. As of September 30, 2022, our executive officers, directors and holders of five percent or more of our outstanding common stock beneficially owned, in the aggregate, 44.4% of our outstanding common stock. These stockholders may have interests that conflict with our other stockholders and, if acting together, have the ability to influence the outcome of matters submitted to our stockholders for approval, including the election and removal of directors and any merger, consolidation or sale of all or substantially all of our assets. Accordingly, this concentration of ownership may harm the market price of our common stock • Delaying, deferring or preventing a change in control; • Impeding a merger, consolidation, takeover or other business combination involving us; or • Discouraging a potential acquirer from making a tender offer or otherwise attempting to obtain control of us. In addition, this significant concentration of stock ownership may adversely affect the trading price of our common stock should investors perceive disadvantages in owning shares of common stock in a company that has such concentrated ownership. Changes to corporate tax legislation, including the Tax Cuts and Jobs Act, signed into law in 2017, could adversely affect our business and financial condition. The Tax Act contains significant changes to corporate taxation, including reduction of the corporate tax rate from a top marginal rate of 35% to a flat rate of 21%, limitation of the tax deduction for interest expense to 30% of adjusted earnings (except for certain small businesses), limitation of the deduction for NOLs to 80% of current year taxable income and elimination of NOL carrybacks, one time taxation of offshore earnings at reduced rates regardless of whether they are repatriated, elimination of U.S. tax on foreign earnings (subject to certain important exceptions), immediate deductions for certain new investments instead of deductions for depreciation expense over time and modifying or repealing many business deductions and credits. The Coronavirus Aid, Relief, and Economic Security Act, or CARES Act, enacted in 2020, modified certain of these tax changes, and enacted other tax changes applicable to corporations. Notwithstanding the reduction in the corporate income tax rate, the overall impact of the Tax Act and the CARES Act is uncertain and our business and financial condition could be adversely affected. In addition, it is uncertain if and to what extent various states will conform to the Tax Act or the CARES Act. Currently, bills introduced in Congress, including the Build Back Better Act, contain additional changes to the taxation of corporations, which could adversely affect our business and financial condition. The impact of the Tax Act, the CARES Act and any other tax legislation on holders of our common stock is also uncertain and could be adverse. We urge our stockholders to consult with their legal and tax advisors with respect to this legislation and the potential tax consequences of investing in or holding our common stock. 57 We are a “smaller reporting company,” and the reduced disclosure requirements applicable to smaller reporting companies may make our common stock less attractive to investors. We are considered a “smaller reporting company” under Rule 12b-2 of the Exchange Act. We are therefore entitled to rely on certain reduced disclosure requirements, such as an exemption from providing selected financial data and executive compensation information. These exemptions and reduced disclosures in our SEC filings due to our status as a smaller reporting company also mean our auditors are not required to review our internal control over financial reporting and may make it harder for investors to analyze our results of operations and financial prospects. We cannot predict if investors will find our common stock less attractive because we may rely on these exemptions. If some investors find our common stock less attractive as a result, there may be a less active trading market for our common stock and our common stock prices may be more volatile. We will remain a smaller reporting company until our public float exceeds $250 million if our annual revenues are $100 million or more, or until our public float exceeds $700 million if our annual revenues are less than $100 million. Item 2. Unregistered Sale of Equity Securities and Use of Proceeds ISSUER PURCHASES OF EQUITY SECURITIES Period (a) Total number of shares purchased (1) (b) Average price paid per share (c) Total number of shares (or units) purchased as part of publicly announced plans or programs (d) Maximum number (or approximate dollar value) of shares (or units) that may yet be purchased under the plans or programs July 1, 2022 - July 31, 2022 — — — — August 1, 2022 - August 31, 2022 18,750 $2.41 — — September 1, 2022 - September 30, 2022 — — — — Total 18,750 $2.41 — — (1) Included in this table are shares withheld during the 3-month period ended September 30, 2022 to satisfy a portion of the tax withholding obligations in connection with the vesting of shares of restricted stock granted under the 2020 Equity Incentive Plan. Item 3. Defaults upon Senior Securities Not applicable. Item 4. Mine Safety Disclosures Not applicable. Item 5. Other Information None. 58 Item 6. Exhibits Exhibit Number Description 3.1+ Amended and Restated Certificate of Incorporation of the Registrant, and all amendments thereto. 3.2 Amended and Restated Bylaws of the Registrant, dated as of September 21, 2020 (incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed September 22, 2020). 31.1+ Certification of Principal Executive Officer pursuant to Exchange Act Rule 13a-14(a) or 15(d)-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1++ Certifications of Principal Executive Officer and Principal Accounting Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 101.INS+ Inline XBRL Instance Document (the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document). 101.SCH+ Inline XBRL Taxonomy Extension Schema Document 101.CAL+ Inline XBRL Taxonomy Extension Calculation Linkbase Document 101.DEF+ Inline XBRL Taxonomy Definition Linkbase Document 101.LAB+ Inline XBRL Taxonomy Extension Label Linkbase Document 101.PRE+ Inline XBRL Taxonomy Extension Presentation Linkbase Document 104+ Cover Page Interactive Data File—the cover page interactive data is embedded within the Inline XBRL document or included within the Exhibit 101 attachments + Filed herewith. ++ This certification is deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the liability of that section, nor shall it be deemed incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, whether made before or after the date hereof, regardless of any general incorporation language in such filing. 59 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ALAUNOS THERAPEUTICS, INC. By: /s/ Kevin S. Boyle, Sr. Kevin S. Boyle, Sr. Chief Executive Officer (On Behalf of the Registrant and as Principal Executive Officer and Principal Financial Officer) Dat November 14, 2022 By: /s/ Michael Wong Michael Wong Vice President, Finance (Principal Accounting Officer) Dat November 14, 2022 60 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, DC 20549 FORM 10-K ☒ ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31 , 2022 OR ☐ TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _______ to _______ Commission File Number 001-33038 Alaunos Therapeutics, Inc. (Exact Name of Registrant as Specified in Its Charter) Delaware 84-1475642 (State or Other Jurisdiction of Incorporation or Organization) (IRS Employer Identification No.) 8030 El Rio Street Houston , TX 77054 (Address of Principal Executive Offices) (Zip Code) ( 346 ) 355-4099 (Registrant’s Telephone Number, Including Area Code) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name of each exchange on which registered Common Stock TCRT The Nasdaq Stock Market LLC Securities registered pursuant to Section 12(g) of the Ac None Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☐ No ☑ Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes ☐ No ☑ Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☑ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☑ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer,” “accelerate filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one): Large Accelerated Filer ☐ Accelerated Filer ☐ Non- Accelerated Filer ☑ Smaller Reporting Company ☑ Emerging Growth Company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ☐ If securities are registered pursuant to Section 12(b) of the Act, indicate by check mark whether the financial statements of the registrant included in the filing reflect the correction of an error to previously issued financial statements. ☐ Indicate by check mark whether any of those error corrections are restatements that required a recovery analysis of incentive-based compensation received by any of the registrant’s executive officers during the relevant recovery period pursuant to §240.10D-1(b). ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ☐ No ☑ The aggregate market value of the registrant’s common stock held by non-affiliates was $ 221,548,093 as of June 30, 2022 (the last business day of the registrant’s most recently completed second fiscal quarter), based on a total of 178,667,817 shares of common stock held by non-affiliates and a closing price of $1.24 as reported on the Nasdaq Global Select on June 30, 2022. For purposes of this computation, all officers, directors, and 10% beneficial owners of the registrant are deemed to be affiliates. Such determination should not be deemed to be an admission that such officers, directors or 10% beneficial owners are, in fact, affiliates of the registrant. As of March 2, 2023, there were 240,627,055 shares of the registrant’s common stock, $0.001 par value per share, outstanding. 1 Table of Contents DOCUMENTS INCORPORATED BY REFERENCE Portions of the Proxy Statement for the Registrant's 2023 Annual Meeting of Stockholders are incorporated by reference into Part III of this Annual Report on Form 10-K. 2 Table of Contents Alaunos Therapeutics, Inc. ANNUAL REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 31, 2022 TAB LE OF CO NTENTS Page PART I Item 1. Business 7 Item 1A. Risk Factors 25 Item 1B. Unresolved Staff Comments 52 Item 2. Properties 52 Item 3. Legal Proceedings 52 Item 4. Mine Safety Disclosures 52 PART II Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 53 Item 6. [Reserved] 53 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 54 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 63 Item 8. Financial Statements and Supplementary Data 64 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures 64 Item 9A. Controls and Procedures 64 Item 9B. Other Information 65 Item 9C Disclosure Regarding Foreign Jurisdictions that Prevent Inspections 65 PART III Item 10. Directors, Executive Officers and Corporate Governance 66 Item 11. Executive Compensation 66 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 66 Item 13. Certain Relationships and Related Transactions, and Director Independence 66 Item 14. Principal Accountant Fees and Services 66 PART IV Item 15. Exhibits and Financial Statement Schedules 67 Item 16. Form 10-K Summary 70 Signatures 71 Financial Statements F- 1 3 Table of Contents SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS This Annual Report on Form 10-K, or Annual Report, contains forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995, as amended. Forward-looking statements are all statements contained in this Annual Report that are not historical fact, and in some cases can be identified by terms such as: “anticipate,” “believe,” “estimate,” “expect,” “forecast,” “intend,” “may,” “plan,” “project,” “target,” “will” and other words and terms of similar meaning. These statements are based on management’s current beliefs and assumptions and on information currently available to management. These statements involve risks, uncertainties and other factors that may cause actual results, levels of activity, performance or achievements to be materially different from the information expressed or implied by these forward-looking statements. Although we believe that the expectations reflected in such forward-looking statements are reasonable, we caution you that these statements are based on a combination of facts and factors currently known by us and our projections of the future, about which we cannot be certain. Forward-looking statements in this Annual Report include, but are not limited to, statements ab • our ability to raise substantial additional capital to continue as a going concern, fund our planned operations and repay our existing indebtedness; • estimates regarding our expenses, use of cash, timing of future cash needs and anticipated capital requirements; • the development of our product candidates, including statements regarding the initiation, timing, progress and results of our research and development, preclinical studies and clinical programs; • our ability to advance our product candidates through various stages of development, especially through pivotal safety and efficacy trials; • the risk that final trial data may not support interim analysis of the viability of our product candidates; • our expectation regarding the safety and efficacy of our product candidates; • the timing, scope or likelihood of regulatory filings and approvals from the U.S. Food and Drug Administration, or FDA, or equivalent foreign regulatory agencies for our product candidates and for which indications; • our ability to license additional intellectual property relating to our product candidates from third parties and to comply with our existing license agreements; • our ability to enter into partnerships or strategic collaboration agreements and our ability to achieve the results and potential benefits contemplated from relationships with collaborators; • our ability to maintain and establish collaborations and licenses; • our expectation of developments and projections relating to competition from other pharmaceutical and biotechnology companies or our industry; • our estimates regarding the potential market opportunity for our product candidates; • the anticipated rate and degree of commercial scope and potential, as well as market acceptance of our product candidates for any indication, if approved; • the anticipated amount, timing and accounting of contract liabilities, milestones and other payments under licensing, collaboration or acquisition agreements, research and development costs and other expenses; • our intellectual property position, including the strength and enforceability of our intellectual property rights; • our ability to attract and retain qualified employees and key personnel; and • the impact on our business from a pandemic, epidemic or outbreak, including the COVID-19 pandemic. Any forward-looking statements in this Annual Report on Form 10-K reflect our current views with respect to future events or to our future financial performance and involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by these forward-looking statements. Factors that may cause actual results to differ materially from current expectations include, among other things, those described under Part I, Item 1A, “Risk Factors” and elsewhere in this Annual Report on Form 10-K. Given these uncertainties, you should not place undue reliance on these forward-looking statements. Except as required by law, we assume no obligation to update or revise these forward-looking statements for any reason, even if new information becomes available in the future. Unless the context requires otherwise, references in this Annual Report to “Alaunos,” the “Company,” “we,” “us” or “our” refer to Alaunos Therapeutics, Inc., and its subsidiaries. 4 Table of Contents We own or have rights to trademarks, service marks and trade names that we use in connection with the operation of our business, including our corporate name, logos and website names. We own the trademarks Alaunos™, Ziopharm® and hunTR® as well as the graphic trademark found on our website. Other trademarks, service marks and trade names appearing in this Annual Report on Form 10-K are the property of their respective owners. Solely for convenience, some of the trademarks, service marks and trade names referred to in this Annual Report on Form 10-K are listed without the ® and ™ symbols, but we will assert, to the fullest extent under applicable law, our rights to our trademarks, service marks and trade names. 5 Table of Contents SUMMARY OF SELECTED RISKS ASSOCIATED WITH OUR BUSINESS Our business faces significant risks and uncertainties. If any of the following risks are realized, our business, financial condition and results of operations could be materially and adversely affected. You should carefully review and consider the full discussion of our risk factors in the section titled “Risk Factors” in Part I, Item 1A of this Annual Report. Some of the more significant risks include the followin • We will require substantial additional financial resources to continue as a going concern, continue ongoing development of our product candidates and pursue our business objectives; if we are unable to obtain these additional resources when needed, we may be forced to delay or discontinue our planned operations, including clinical testing of our product candidates. • Our plans to develop and commercialize non-viral adoptive cellular therapies based on T-cell receptor, or TCR, therapies can be considered as new approaches to cancer treatment, the successful development of which is subject to significant challenges. • Our current product candidates are based on novel technologies and are supported by limited clinical data and we cannot assure you that our current and planned clinical trials will produce data that supports regulatory approval of one or more of these product candidates. • We will need to attract, recruit and hire qualified personnel and we will continue to rely on key scientific and medical advisors, and their knowledge of our business and technical expertise would be difficult to replace. • Our existing indebtedness, together with our other financial obligations and contractual commitments, could adversely affect our financial condition and restrict our future operations. For instance, we were required to deposit a significant amount of cash into an account to be held as collateral. • If we are unable to obtain the necessary United States or worldwide regulatory approvals to commercialize any product candidate, our business will suffer. • Our product candidates are in various stages of clinical development, which is very expensive and time-consuming. We cannot be certain when we will be able to submit a Biologics License Application, or BLA, to the FDA and any failure or delay in completing clinical trials for our product candidates could harm our business. • Our cellular immuno-oncology product candidates rely on the availability of reagents, specialized equipment and other specialty materials and infrastructure, which may not be available to us on acceptable terms or at all. For some of these reagents, equipment and materials, we rely or may rely on sole source vendors or a limited number of vendors, which could impair our ability to manufacture and supply our products. • If we are unable either to create sales, marketing and distribution capabilities or enter into agreements with third parties to perform these functions, we will be unable to commercialize our product candidates successfully. • Our immuno-oncology product candidates may face competition in the future from biosimilars. • If we or our licensors fail to adequately protect or enforce our intellectual property rights or secure rights to patents of others, the value of our intellectual property rights would diminish and our ability to successfully commercialize our products may be impaired. • Our stock price has been, and may continue to be, volatile. 6 Table of Contents PART I Item 1. Business Overview We are a clinical-stage oncology-focused cell therapy company developing adoptive TCR engineered T-cell therapies, or TCR-T, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. We are leveraging our cancer hotspot mutation TCR library and our proprietary, non-viral Sleeping Beauty gene transfer platform to design and manufacture patient-specific cell therapies that target neoantigens arising from common tumor-related mutations in key oncogenic genes, including KRAS , TP53 and EGFR . In collaboration with The University of Texas MD Anderson Cancer Center, or MD Anderson, we are currently enrolling patients for a Phase 1/2 clinical trial evaluating 12 TCRs reactive to mutated KRAS , TP53 and EGFR from our TCR library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers, which we refer to as our TCR-T Library Phase 1/2 Trial. In the United States, solid tumors represent approximately 90% of new cancer diagnoses. Approximately 2.0 million people are expected to be diagnosed with cancer in the United States in 2023 and approximately 610,000 people are expected to die from cancer in the United States in 2023. Some of the cancers we are targeting in our TCR-T Library Phase 1/2 Trial are expected to be among the most prevalent cancers diagnosed in the United States in 2023. In 2023, it is estimated that 238,340 people will be diagnosed with lung and bronchus cancer, 153,020 will be diagnosed with colorectal cancer, 66,200 people will be diagnosed with endometrial cancer, 64,050 people will be diagnosed with pancreatic cancer, 19,710 people will be diagnosed with ovarian cancer and approximately 8,000 people will be diagnosed with bile duct cancer. Mutations of the KRAS , TP53 and EGFR genes are commonly expressed across a wide variety of cancers. The table below sets forth our multiple solid tumor pipeline programs. Our TCR-T program targeting solid tumors consists o • TCR Library : We have built a TCR library that targets shared hotspot mutations known to be one of the key causes of cancer. These are non-inherited mutations. We have in-licensed from the National Cancer Institute, or the NCI, multiple TCRs derived from third parties that are reactive to mutated KRAS , TP53 and EGFR . Our TCR library currently consists of 12 TCRs targeting six solid tumor indications. • Sleeping Beauty Gene Transfer Platform : Our proprietary non-viral genetic engineering technology utilizes a particular enzyme referred to as a transposase to cut and paste donor DNA referred to as a transposon into chromosomes of a T cell using a process called transposition. • hunTR ® ( hu man n eoantigen T cell R eceptor) Discovery Engine : Our robust and innovative TCR discovery engine enables us to rapidly identify new TCRs to add to our ever-expanding TCR library. Using our hunTR discovery engine, we are able to analyze thousands of single T cells simultaneously using state-of-the-art bioinformatics and next generation sequencing. We aim to maximize the breadth of our TCR library by evaluating both helper (CD4) and killer (CD8) T cells. The ability to continue discovering new TCRs has the potential to expand the applicable patient population for our ongoing and future clinical trials. We believe our TCR-T program has several potential advantages over other cell therapy approaches for solid tumors, including CAR-T and tumor-infiltrating lymphocytes, or TIL. As compared to CAR-T, these potential advantages include that our TCR-T program targets intracellular and extracellular neoantigens whereas CAR-T primarily targets extracellular antigens. As compared to TIL, these potential advantages include that our TCR-T program has defined target specificity from the genetic engineering employed in manufacturing whereas in TIL specificity typically arises from the endogenous TCR rather than an introduced immunoreceptor. 7 Table of Contents Background on TCRs Our strategy is to target the hallmark of genomic instability in cancer with TCRs. Genes in cancer cells can lead to the production of proteins, which are then processed by the cell into protein fragments known as peptides. These peptides are presented to T cells by a specialized set of molecules on the cancer cell surface called the human leukocyte antigen, or HLA, system. When peptide presentation occurs, and it results in T cell activation through the TCR, the peptides are known as antigens. When these immunogenic peptides are derived from proteins which are in turn expressed from genes that are mutated only in tumor cells (for example, within the cancer genome and not encoded in the germline), they are known as neoantigens. Tumor cells presenting neoantigens via HLA are targets for T cells. T cells can recognize and kill neoantigen-presenting cancer cells. This approach is different from traditional CARs, which directly recognize antigens, such as CD19, on the surface of malignant B cells, without presentation by HLA. In general, the immune system avoids targeting the body’s own healthy cells principally through processes known as immune tolerance by which T cells do not respond to HLA containing peptides from normal proteins. The recognition by the TCR of a peptide presented by the HLA system is a vital immune mechanism that allows the body both to respond against foreign threats, including cancer, as well as to avoid targeting the body’s own healthy cells. Tumors utilize a variety of strategies to evade and suppress the host immune system. This often renders T cells residing within the tumor, referred to as TILs, ineffective and, despite expressing tumor-specific TCRs, unable to recycle their effector functions to kill tumors. To overcome immune suppression, healthier T cells are likely needed, such as those found in the peripheral blood. However, these circulating T cells do not typically express tumor-specific TCRs in adequate numbers. Neoantigens are encoded by tumor-specific mutated genes that are often unique to each patient. Targeting these unique neoantigens requires TCRs that are generated on a patient-by-patient basis. During cancer initiation and progression, tumor cells acquire mutations in naturally occurring genes that are responsible for transformation, known as driver mutations. Some of these driver mutations occur in common places called hotspots and are a class of mutations shared between tumor types and between individuals. Since driver mutations can be anticipated, it is possible to prepare TCRs in advance of a patient’s need and form a library of banked TCRs. Our Approach to Targeting Neoantigens We believe that to be successful in treating solid tumors, genetically modified T cells targeting one or more neoantigens will likely need to address the fact that (1) among a population of patients, not all tumors express the targeted neoantigen, referred to as inter-tumor heterogeneity, and (2) within a single patient, not all tumor cells express the targeted antigen, referred to as intra-tumor heterogeneity. Inter-tumor heterogeneity limits the number of recipients that are eligible to receive a treatment and intra-tumor heterogeneity creates the risk of antigen-escape variants, increasing the likelihood of cancer relapse. As a result, we believe companies developing T cell therapies targeting neoantigens must address both inter- and intra-tumor heterogeneity. We genetically modify peripheral blood-derived T cells to express TCRs with specificity to tumor-derived antigens, especially neoantigens, and propagate them to sufficient numbers prior to administration. We aim to overcome the key challenges of targeting neoantigens by using DNA plasmids to reprogram T cells to express introduced TCRs on a patient-by-patient basis. This is designed to help address tumor heterogeneity. Our TCR-T cells contain multiple different subsets of T cells, including effector and memory T cells. The effector T cells are associated with immediate anti-tumor activity. Memory T cells have greater growth potential relative to the effector T cells. Some of our TCR-T cells are T memory stem cells, which have been described to have the largest capacity for growth and renewal relative to other T-cell populations. 8 Table of Contents Our TCR-T Manufacturing Process The diagram below illustrates our manufacturing process for our current TCR-T product candidates. Our TCR-T approach focuses on what we believe to be the most critical and prevalent tumor-specific targets in cancer. These target mutations, called hotspots, are prevalent in genes including KRAS, TP53 and EGFR, which can be found in non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers in several different HLA alleles. These driver genes play a key role in regulating cell division, maturation and death, and mutations in these genes have been observed to play a critical role in the development of certain cancers. The advantage of our Library TCR-T approach is that subsets of patients with solid tumors may be rapidly treated by screening them for targeted neoantigens (e.g., KRAS , TP53 and EGFR ), identifying patient HLA, and matching these results to the TCRs in the library. Patients with a variety of different cancers (e.g., non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers) can be screened for a match to our growing TCR library through tumor sequencing and identification of the patient’s tumor mutation and HLA typing. Once a match to our TCR library is confirmed, a portion of the patient’s white blood cells is collected through a peripheral blood leukapheresis and sent to our own current Good Manufacturing Practices, or cGMP, manufacturing facility in Houston, Texas. Once the desired pre-manufactured TCR transposon is selected from our TCR library, we utilize our proprietary non-viral Sleeping Beauty genetic engineering technology to modify the patient’s T cells (both CD4+ and CD8+). We use T cells from peripheral blood, which have a younger and healthier phenotype relative to tumor-resident T cells, to generate our TCR-T cells. Given initial clinical cellular kinetics of the TCR-T cells in the patients treated to date, we believe these modified TCR-T cells will persist in the recipient following infusion. We have observed in preclinical studies that genetic engineering of T cells by our Sleeping Beauty technology resulted in the rapid and stable expression of the introduced neoantigen-specific TCR. The genetically modified T cells expressing high levels of the TCR are expanded to produce the patient-specific, or autologous, TCR-T cell product. The product candidate is then harvested from the manufacturing process, formulated, cryopreserved, transferred to the hospital facility and infused in the patient after thawing. Benefits of Our Non-Viral Sleeping Beauty Gene Transfer Platform Our Sleeping Beauty gene transfer platform provides several benefits, including those described below. • Scalability and Reduction in Complexity . The Sleeping Beauty technology is a straightforward means to manufacture a large number of autologous T-cell products. The technology requires only the synthesis of DNA plasmids as the starting material for genetic engineering of the T cells. In contrast, traditional viral gene transfer is more complex and requires specialized manufacturing of each viral vector(s) of interest. Production of a viral vector starts with the generation of plasmid DNA with the transgene of interest. This plasmid is then introduced into a packaging cell line and viruses are secreted into the media over a couple of days. This process is inherently more complex to scale with the numbers of cells and associated media required relative to Sleeping Beauty, which only requires the plasmid DNA. Genetic modification of the patient cells using the Sleeping Beauty technology is accomplished through electroporation with the DNA plasmids and subsequent culture, selection and growth of the T cells to large numbers using traditional manufacturing techniques. This simple process can be scaled through the addition of manufacturing lines. • Customizable Therapies . We believe our Sleeping Beauty platform provides us with the ability to manufacture more customizable therapies. The platform enables a library of TCRs to be assembled and used in cells to recognize diverse mutations within shared 9 Table of Contents neoantigens and address a multitude of HLA types. We believe this can enable both our current Library TCR-T approach against shared cancer targets as well as personalized TCR therapies against unique, and potentially multiple, personal neoantigens. We believe multiplexing TCR-T cells, which involves infusing a patient with more than one TCR product, will be best enabled by our Sleeping Beauty system and through our unique TCRs and expanding TCR library. • Potential Clinical Benefits . We believe the anti-tumor activity of our TCR-T cells has the potential to last as long as the TCR-T cells persist and proliferate following the recognition of the neoantigen on the tumor cell surface. This may lead to durable and progressively greater clinical response in patients. In CAR-T cell products generated in human cells, Sleeping Beauty transposons were observed to integrate in a close-to-random distribution at thymine-adenine, or TA, dinucleotide sites, which increases the likelihood of insertion in a genomic safe harbor, thereby making them less likely to cause off-target effects when compared to other transposons and viral gene delivery methods. We also believe that including membrane-bound interleukin-15, or mbIL-15, in TCR-T cells can provide additional benefits. In particular, we have observed that T cells modified to express mbIL-15 as well as a TCR show increased potential for stemness corresponding with a potential ability to persist longer in the patient after infusion. • Accommodation of Large Transgene Size . Plasmids manufactured using our Sleeping Beauty platform have a large enough payload size to allow for genetic engineering of both the TCR as well as insertion of a gene encoding for the expression of cytokines, such as mbIL-15. This facilitates uniformly high co-expression of both the TCR and cytokine on a single integrated gene. Preclinical and Clinical Development Preclinical Development of our TCR-T Product Candidates We have independently evaluated all licensed TCRs using our Sleeping Beauty platform. Candidate TCRs for clinical translation were selected based on conventional in vitro immunological measurements. We presented these data at the 2021 American Association for Cancer Research (AACR) and Society for Immunotherapy of Cancer (SITC) annual meetings. We selected the TCRs based, in part, on their ability to express on the T cell surface and then specifically recognize the mutated target without also targeting healthy cells. For those TCRs that are destined for killer T cells, our preclinical data suggest that those TCR-T cells can kill the appropriate tumor cell lines expressing the target neoantigen. In our preclinical studies we observed TCR-T cells killed significantly more tumor cells when matched with the corresponding HLA and neoantigen relative to mismatched tumor cells and relative to mismatched T cells not expressing the relevant neoantigen-specific TCR. Selected licensed TCRs have also been co-expressed with mbIL-15 on T cells. This was accomplished with the transfer of a single transposon to deliver three independent genes (TCRalpha, TCRbeta, mbIL-15) to the T cell. We optimized the orientation order of these three genes and the growth conditions specific for the generation of mbIL-15 TCR-T cells. Using similar standard immunologic readouts described above, the mbIL-15 TCR-T cells were observed to display a similar specificity and potency profile to conventional TCR-T cells; however, we observed increased in vitro survival of mbIL-15 TCR-T cells in the absence of all added support relative to TCR-T cells, especially in the T memory stem cell populations. We have filed an international patent application around these findings and presented preclinical data from this program at the American Society of Gene & Cell Therapy conference in 2022. We believe mbIL-15 has the potential to increase the survival of TCR-T cells in the harsh tumor microenvironment and deepen clinical responses. We are working towards filing a related Investigational New Drug Application, or IND, in the second half of 2023. TCR-T Library Phase 1/2 Trial In February 2021, we received FDA clearance for our company-sponsored IND to initiate a Phase 1/2 open-label, dose-escalation trial which is initially being conducted at MD Anderson. In January 2022, after screening patients, we opened enrollment in our TCR-T Library Phase 1/2 Trial and expect to enroll up to 180 adults during the course of the trial. We will only enroll patients who have a matched HLA and hotspot mutation that is targeted by one of the TCRs from our TCR library, who have progressive or recurrent solid tumors and who have failed at least one prior line of standard therapy. The trial is evaluating our 12 library TCRs targeting neoantigens arising from KRAS , TP53 and EGFR mutations in patients across a broad range of solid tumors that include non-small cell lung, colorectal, endometrial, pancreatic, ovarian, and bile duct cancers, all in a single trial. We have used and anticipate continuing to use our hunTR discovery engine to add new TCRs to our library and clinical program as they are qualified by our laboratory. The patients are being enrolled in cohorts according to their cancer at three separate dose levels. The Phase 1 primary endpoint is to define dose limiting toxicity or the recommended maximum tolerated dose for a subsequent clinical trial. The primary endpoints for the Phase 2 portion of the trial are expected to determine the objective response rate and otherwise evaluate safety and tolerability. We are also monitoring TCR-T cell persistence and performing multiple conventional immune monitoring assays in the clinical trial to evaluate their persistence in patients. As of December 31, 2022, we have enrolled and dosed three patients. We presented information on the first two patients treated in September 2022 at the CRI-ENCI-AACR International Cancer Immunotherapy Conference, or CICON. The first patient we treated had lung adenocarcinoma with multiple lines of prior therapy and was refractory to checkpoint inhibitors. The second patient we treated was diagnosed with colon cancer and had received multiple lines of standard prior therapies. We successfully dosed a third patient who was diagnosed with advanced pancreatic cancer refractory to multiple lines of standard therapy in our TCR-T Library Phase 1/2 Trial in December 2022. We continue to perform translational assessments to assess the biological activity of our TCR-T cells in order to guide next generation TCR-T therapy approaches including potential combination and multiplexed 10 Table of Contents TCR-T cell therapies. We believe that these data provide early clinical validation of the potential of Sleeping Beauty TCR-T cell therapy in high value indications with significant unmet need. • Patients 1, 2 and 3 demonstrated manageable safety profiles with no dose limiting toxicities, or DLTs, or immune effector cell-associated neurotoxicity syndrome; • Persistence of the TCR-T cells has been observed. Patient 1 had persistence at 24 weeks with approximately 30% of the patient's total CD3+ T cells comprising TCR-T cells in peripheral blood after treatment with KRAS-G12D/HLA-A*11:01 mutation-specific TCR-T cells at dose level 1 (9x10 9 cells). Patient 2 had persistence at 12 weeks with approximately 20% of the patient's total CD3+ T cells comprising TCR-T cells in peripheral blood after treatment with TP53-R175H/HLA-A*02:01 mutation-specific TCR-T cells at dose level 2 (64x10 9 cells). • Demonstrating six month progression-free survival, Patient 1 had best overall response of objective, partial response with regression of greater than 50% of target lesions at 12 weeks post-cell therapy. Patient 2 had best overall response of stable disease at six weeks with 12 week progression-free survival. Progressive disease was observed in Patient 1 and Patient 2 at weeks 24 and 12, respectively, and each patient subsequently went off study; • The targeted mutations, KRAS-G12D and TP53-R175H, were detected in progressing tumor biopsies suggesting no antigen loss; and • Tumor homing was observed in Patient 1 with infiltration of both CD4 and CD8 TCR-T cells six months post-TCR-T cell therapy. To our knowledge, achievement of an objective clinical response resulting from treatment with KRAS-G12D and HLA-A*11:01 specific TCR-T cells has not been reported until Patient 1 in our TCR-T Library Phase 1/2 Trial. Patient 1’s infusion product was high quality with 97.3% viability, 99.7% CD3+ purity and 95.2% TCR positivity. Patient 1’s target lesions were reduced compared to baseline by 46% at six weeks, 51% at 12 weeks and 46% at 24 weeks. At six months following treatment, an elective tumor biopsy of non-measurable disease in the right lung showed continued presence of tumor cells, KRAS-G12D mutation and HLA-A*11:01 allele, and progressive disease was corroborated by another elective scan at seven months. Patient 1 is now off trial and is being monitored as part of our long-term follow-up protocol. Patient 2's treatment was the first-in-human Sleeping Beauty TCR-T cell therapy targeting TP53 hotspot mutations and was generally well tolerated. The same TCR used by the NCI to treat breast cancer, which resulted in a 6-month confirmed, objective partial response, was used to treat Patient 2. Patient 2 received highly pure TCR-T cells (92.5% viability, 99% CD3+ purity, and 92% TCR positivity). Reduction of target lesions by 15% from baseline was observed at six weeks post-infusion, but we observed 21.8% growth of lesions from the week six measurements and appearance of new liver and lung metastases at week 12 signaled progressive disease in Patient 2, who was removed from the trial as a result of such progression. In the fourth quarter of 2022, we submitted an IND amendment to the FDA to add two new TCRs to our clinical trial targeting frequent mutations and HLAs, with the potential to double the addressable market of our TCR-T Library Phase 1/2 Trial. In over 700 patients screened at MD Anderson Cancer Center with gastrointestinal or lung tumors, we have improved our match rate from 5% ot over 10%, including roughly one in five patients matching two TCRs in the current library. The addition of these new TCRs highlights our strategy to add both more HLAs to existing mutations (KRAS-G12V and HLA-DRB1*07:01) and new mutations within our targeted gene families (TP53-R273C and HLA-DPB1*04:02). In 2023, we expect to further expand our library with exclusively owned TCRs targeting recurrent hotspot mutations in KRAS, TP53 and EGFR to 15 TCRs. We continue to actively enroll patients in our TCR-T Library Phase 1/2 Trial targeting KRAS, TP53 and EGFR hotspot mutations across six solid tumor indications. We expect to enroll multiple patients in the first half of 2023. The IND amendment also combined our treatment and screening protocols, streamlining enrollment and potentially making it easier for both patients and physicians. The amended IND also eliminated the requirement for retesting of the tumor mutation if six months had passed between screening and treatment. We anticipate providing an interim clinical data update in 2023 as we work toward advancing the TCR-T Library Phase 1/2 Trial into Phase 2 and we expect to be Phase 2 ready by the end of 2023. IL-12 Program As we announced in May 2021, we are winding down our existing Controlled IL-12 clinical program for the treatment of recurrent glioblastoma multiforme. We are actively seeking a partner for continued development of this program. Manufacturing Our cGMP facility in Houston, Texas is staffed by Alaunos personnel and is fully operational for manufacturing TCR T-cells genetically modified with our Sleeping Beauty gene transfer platform for our early-stage clinical trials. We continue to rely on third parties for the production of the DNA plasmids used in manufacturing our product candidates. Our Library TCR-T approach allows us to streamline the T cell manufacturing process by pre-manufacturing DNA plasmids corresponding to each of our qualified library TCRs. These TCRs are then utilized in the manufacturing for the patient-specific, autologous TCR-T product candidates. Our in-house TCR-T manufacturing facility also allows us to integrate our research and development capabilities, potentially reducing the time from discovery to treating patients in a clinical trial. This integration is designed to minimize delays and reduce risks that can 11 Table of Contents be encountered in drug development, including the failure of third parties to successfully produce the desired product, long technology transfer periods and long lead times for orders. We continue to execute on our multi-pronged strategy to expand manufacturing capacity and efficiency. We doubled our manufacturing capacity in 2022, allowing for production of two products simultaneously. We also filed an IND amendment to move from fresh to cryopreserved product and began implementing this change in the first half of 2023. The use of cryopreserved cell products is expected to reduce manufacturing process time from 30 days to 26 days, a 13% decrease, while increasing flexibility for patient scheduling and treatment. We have ongoing initiatives to optimize the process and further reduce the manufacturing time. We seek continuous improvement in our manufacturing and release workflow through process and analytical development. Our processes will continue to be optimized to increase efficiencies, incorporate new technologies and reduce time to treatment for the patient. Intellectual Property Our goal is to obtain, maintain and enforce patent and trade secret protection for our product candidates, formulations, processes, methods and other proprietary technologies. We strive to preserve our trade secrets and other confidential information and to operate without infringing the proprietary rights of other parties. Our policy is to actively seek the strongest possible intellectual property protection for our technology and product candidates through a combination of license agreements and owned patents, both in the United States and abroad. Owned Patents As of December 31, 2022, we have five families of pending patent applications that cover our TCR-T library, products and processes. We do not currently own any granted patents. Patent terms extend for varying periods according to the date of patent filing or grant and the legal patent terms in the various countries where patent protection is obtained. The actual protection offering by a patent, which can vary from country to country, depends on the type of patent, the scope of its coverage, the issued claims and the availability of legal remedies in the country. Pursuant to the Drug Price Competition and Patent Term Restoration Act of 1984, referred to as the Hatch-Waxman Amendments, some of our patents, under certain conditions, may be eligible for limited patent term extension for a period of up to five years as compensation for patent term lost during drug development and the FDA regulatory review process. However, this extension period cannot be extended beyond 14 years from the drug’s approval date. The patent term restoration period is generally one-half the period of time elapsed between the effective date of an IND application or the issue date of the patent, whichever is later. The submission date of a New Drug Application, or NDA, plus the period of time between the submission date of the NDA or the issue date of the patent, whichever is later, and FDA approval. The United States Patent and Trademark Office, or USPTO, in consultation with the FDA, reviews and approves applications for any patent term extension or restoration. We intend to seek the benefits of this statute, but there can be no assurance that we will be able to obtain any such benefits. We also depend upon the skills, knowledge and experience of our scientific and technical employees, as well as those of our advisors, consultants, and other contractors, none of which may be patentable. To help protect unpatentable proprietary know-how, and for inventions for which patents may be difficult to enforce, we currently rely, and in the future, will continue to rely, on trade secret protection and confidentiality agreements to protect our interests. To this end, we generally require employees, consultants, advisors and other contractors to enter into confidentiality agreements that prohibit the disclosure of confidential information and, where applicable, require disclosure and assignment to us of the ideas, developments, discoveries and inventions important to our business. Our patent position and proprietary rights are subject to certain risks and uncertainties. Please read the “ Risk Related to Our Intellectual Property ” section for further information about certain risks and uncertainties that may affect our patent position and proprietary rights. License Agreements Exclusive License Agreement with PGEN Therapeutics On October 5, 2018, we entered into an exclusive license agreement, or License Agreement, with PGEN Therapeutics, or PGEN, a wholly owned subsidiary of Precigen Inc., or Precigen, which was formerly known as Intrexon Corporation. Pursuant to the terms of the License Agreement, we have exclusive, worldwide rights to research, develop and commercialize (i) TCR products designed for neoantigens for the treatment of cancer, (ii) products utilizing Precigen’s RheoSwitch® gene switch, or RTS, for the treatment of cancer, referred to as IL-12 Products and (iii) CAR products directed to (A) CD19 for the treatment of cancer, referred to as CD19 Products, and (B) BCMA for the treatment of cancer, subject to certain obligations to pursue such target under the License and Collaboration Agreement effective March 27, 2015 between us, Precigen and ARES TRADING S.A., a subsidiary of Merck KGaA, as assigned by Precigen to PGEN. Under the License Agreement, we also have exclusive, worldwide rights for certain patents relating to the Sleeping Beauty technology to research, develop and commercialize TCR products for both neoantigens and shared antigens for the treatment of cancer, referred to as TCR Products. We are solely responsible for all aspects of the research, development and commercialization of the exclusively licensed products for the treatment of cancer. We are required to use commercially reasonable efforts, as defined in the License Agreement, to develop and commercialize IL-12 products, CD19 products and TCR Products. 12 Table of Contents In consideration of the licenses and other rights granted by PGEN, we pay PGEN an annual license fee of $0.1 million and reimbursed PGEN for certain historical costs of the licensed programs. We will make milestone payments totaling up to an additional $52.5 million for each exclusively licensed program upon the initiation of later stage clinical trials and upon the approval of exclusively licensed products in various jurisdictions. In addition, we will pay PGEN tiered royalties ranging from low-single digit to high-single digit on the net sales derived from the sales of any approved IL-12 products and CAR products. We will also pay PGEN royalties ranging from low-single digit to mid-single digit on the net sales derived from the sales of any approved TCR products, up to a maximum royalty amount of $100.0 million in the aggregate. We will also pay PGEN 20% of any sublicensing income received by us relating to the licensed products. We are responsible for all development costs associated with each of the licensed products. PGEN will pay us royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of PGEN’s CAR products, up to a maximum royalty amount of $100.0 million. In October 2020, we entered into an amendment to the License Agreement relating to the transfer of certain materials and PGEN’s obligations to provide transition assistance relating to the IL-12 products. License Agreement and 2015 Research and Development Agreement-The University of Texas MD Anderson Cancer Center On January 13, 2015, we, together with Precigen, entered into that certain license agreement, or the MD Anderson License, with MD Anderson (which Precigen subsequently assigned to PGEN). Pursuant to the MD Anderson License, we, together with PGEN, hold an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR T-cell therapies, non-viral gene transfer systems, genetic modification and/or propagation of immune cells and other cellular therapy approaches, Natural Killer, or NK Cells, and TCRs, arising from the laboratory of Laurence Cooper, M.D., Ph.D. Dr. Cooper served as our Chief Executive Officer from May 2015 until February 2021 and was formerly a tenured professor of pediatrics at MD Anderson. On August 17, 2015, the Company, Precigen and MD Anderson entered into the Research and Development Agreement, or the 2015 R&D Agreement, to formalize the scope and process for the transfer by MD Anderson, pursuant to the terms of the MD Anderson License, of certain existing research programs and related technology rights, as well as the terms and conditions for future collaborative research and development of new and ongoing research programs. The rights and obligations of Precigen under the 2015 R&D Agreement were assigned to us pursuant to the Fourth Amendment to the 2015 R&D Agreement which was entered into on September 19, 2019, or the Fourth Amendment, with an effective date of October 5, 2018. The activities under the 2015 R&D Agreement are directed by a joint steering committee comprised of two members from our company and one member from MD Anderson. As provided under the MD Anderson License, we provided funding for research and development activities in support of the research programs under the 2015 R&D Agreement for a period of three years and in an amount of no less than $15.0 million and no greater than $20.0 million per year. On November 14, 2017, we entered into an amendment to the 2015 R&D Agreement extending its term until April 15, 2021 and on October 22, 2019, we entered into another amendment to the 2015 R&D Agreement extending its term until December 31, 2026 and to allow cash resources on hand at MD Anderson under the 2015 R&D Agreement to be used for development costs under the 2019 Research and Development Agreement, or the 2019 R&D Agreement, which we entered into on October 22, 2019, with MD Anderson, pursuant to which we agreed to collaborate with respect to the TCR program. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder, or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term of the MD Anderson License, we, together with Precigen, shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After ten years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if we and Precigen are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if we and Precigen are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by us and Precigen, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both us and Precigen and may be terminated by the mutual written agreement of us, Precigen, and MD Anderson. 2019 Research and Development Agreement-The University of Texas MD Anderson Cancer Center Under the 2019 R&D Agreement, we and MD Anderson will, among other things, collaborate on programs to expand our TCR library and conduct clinical trials. The activities under the 2019 R&D Agreement are directed by a joint steering committee comprised of two members from our company and one member from MD Anderson. We will own all inventions and intellectual property developed under the 2019 R&D Agreement and we will retain all rights to all intellectual property, patentable or not, for oncology products manufactured using non-viral gene transfer technologies under the 2019 R&D Agreement, 13 Table of Contents including our Sleeping Beauty technology. We have granted MD Anderson an exclusive license for such intellectual property to develop and commercialize autologous TCR products manufactured using viral gene transfer technologies, and any products outside the field of oncology and a non-exclusive license for allogenic TCR products manufactured using viral-based technologies. Under the 2019 R&D Agreement, we agreed, beginning on January 1, 2021, to reimburse MD Anderson up to a total of $20 million for development costs under the 2019 R&D Agreement, after the funds from the 2015 R&D Agreement are exhausted. In addition, we will pay MD Anderson royalties on net sales of its TCR products at rates in the low single digits. We are required to make performance-based payments upon the successful completion of clinical and regulatory benchmarks relating to its TCR products. The aggregate potential benchmark payments are $36.5 million, of which only $3.0 million will be due prior to the first marketing approval of our TCR products. The royalty rates and benchmark payments owed to MD Anderson may be reduced upon the occurrence of certain events. We also agreed to sell our TCR products to MD Anderson at preferential prices and will sell our TCR products in Texas exclusively to MD Anderson for a limited period of time following the first commercial sale of our TCR products. The 2019 R&D Agreement will terminate on December 31, 2026 and either party may terminate the 2019 R&D Agreement following written notice of a material breach. The 2019 R&D Agreement also contains customary provisions related to indemnification obligations, confidentiality and other matters. In connection with the execution of the 2019 R&D Agreement, on October 22, 2019, we issued MD Anderson a warrant to purchase 3,333,333 shares of our common stock, which is referred to as the MD Anderson Warrant. The MD Anderson Warrant has an initial exercise price of $0.001 per share, expires on December 31, 2026 and vests in four parts upon the occurrence of certain clinical milestones. As of December 31, 2022, the milestones have not been met. The MD Anderson Warrant and the shares of our common stock to be issued upon exercise of the MD Anderson Warrant have not been registered under the Securities Act of 1933, as amended, and may not be offered or sold in the United States absent registration or an applicable exemption from registration requirements. License Agreement with the NCI On May 28, 2019, we entered into a patent license agreement, or the Patent License, with the NCI. Pursuant to the Patent License, we hold an exclusive, worldwide license to certain intellectual property to develop and commercialize patient-derived (autologous), peripheral blood T-cell therapy products engineered by transposon-mediated gene transfer to express TCRs reactive to mutated KRAS , TP53 and EGFR neoantigens. In addition, pursuant to the Patent License, we hold an exclusive, worldwide license to certain intellectual property for manufacturing technologies to develop and commercialize autologous, peripheral blood T-cell therapy products engineered by non-viral gene transfer to express TCRs, as well as a non-exclusive, worldwide license to certain additional manufacturing technologies. On May 29, 2019, January 8, 2020, September 28, 2020, April 16, 2021, May 4, 2021, and August 13, 2021 we amended the Patent License to expand our TCR library to include additional TCRs reactive to mutated KRAS and TP53 neoantigens licensed from the NCI. The terms of the Patent License require us to pay the NCI minimum annual royalties in the amount of $0.3 million, which amount will be reduced to $0.1 million once the aggregate minimum annual royalties paid by us equals $1.5 million. We are also required to make performance-based payments upon successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $4.3 million, of which aggregate payments of $3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $0.1 million was paid in 2022 upon the initiation of our TCR-T Library Phase 1/2 Trial, which was a qualifying Phase 1 clinical trial under the terms of the Patent License. In addition, we are required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $250.0 million to $1.0 billion. The aggregate potential amount of these benchmark payments is $12.0 million. We must also pay the NCI royalties on net sales of products covered by the Patent License at rates in the low to mid-single digits depending upon the technology included in a licensed product. To the extent we enter into a sublicensing agreement relating to a licensed product, we are required to pay the NCI a percentage of all consideration received from a sublicensee, which percentage will decrease based on the stage of development of the licensed product at the time of the sublicense. The Patent License will expire upon expiration of the last patent contained in the licensed patent rights, unless terminated earlier. The NCI may terminate or modify the Patent License in the event of a material breach, including if we do not meet certain milestones by certain dates, or upon certain insolvency events that remain uncured following the date that is 90 days following written notice of such breach or insolvency event. We may terminate the Patent License, or any portion thereof, in our sole discretion at any time upon 60 days’ written notice to the NCI. In addition, the NCI has the right t (i) require us to sublicense the rights to the product candidates covered by the Patent License upon certain conditions, including if we are not reasonably satisfying required health and safety needs and (ii) terminate or modify the Patent License, including if we are not satisfying requirements for public use as specified by federal regulations. 14 Table of Contents Cooperative Research and Development Agreement with the NCI On January 9, 2017, we entered into a Cooperative Research and Development Agreement, or CRADA, with the NCI. The purpose of this collaboration was to advance a personalized TCR-T approach for the treatment of solid tumors. Using our Sleeping Beauty technology, the NCI would analyze a patient’s own cancer cells, identify their unique neoantigens and TCRs reactive against those neoantigens and then use our Sleeping Beauty technology to transpose one or more TCRs into T cells for re-infusion. Research conducted under the CRADA will be at the direction of Steven A. Rosenberg, M.D., Ph.D., Chief of the Surgery Branch at the NCI, in collaboration with our researchers. We are responsible for providing the NCI with the test materials necessary for them to conduct their studies, and eventually, clinical trials pursuant to the CRADA. Inventions, data and materials discovered or produced in connection with performance of the research plan under the CRADA will remain the sole property of the party who produced the discovery. The parties will jointly own all inventions jointly discovered under the research plan. The owner of any invention under the CRADA will make the decision to file a patent covering the invention, or in the case of a jointly owned invention, we will have the first opportunity to file a patent covering the invention. If we fail to provide timely notice of our decision to the NCI or decide not to file a patent covering the joint invention, NCI has the right to make the filing. For any invention solely owned by NCI or jointly made by NCI and us for which a patent application was filed, the U.S. Public Health service grants us an exclusive option to elect an exclusive or non-exclusive commercialization license. For inventions owned solely by NCI or jointly owned by NCI and us, which are licensed according to the terms described above, we agreed to grant to the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world. We are also required to grant the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world for any of our solely owned inventions. The agreement may be terminated by any of the parties upon 60 days prior written consent. The NCI has a cleared IND that would permit them to begin this trial. To our knowledge, the trial has not yet enrolled. The progress and timeline for this trial, including the timeline for dosing patients, are under control of the NCI. In February 2019, we extended the CRADA with the NCI until January 9, 2022, committing an additional $5.0 million to this program. In March 2022, we entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. In June 2022, we entered into the Fourth Amendment to the CRADA, or the CRADA Fourth Amendment, which, among other things, extended the term of the CRADA until January 9, 2025. In connection with the CRADA Fourth Amendment, we agreed to contribute $1.0 million per year, payable on a quarterly basis, beginning in the first quarter of 2023. TCR-T Platform Licenses In January 2015, we in-licensed from MD Anderson a technology portfolio that includes intellectual property directed to certain non-viral Sleeping Beauty technologies as well as TCR-T cell therapy and bioprocessing technology. Under the terms of the agreement, we have an exclusive license to certain of the intellectual property technology, a co-exclusive license to certain of the intellectual property technology and a non-exclusive license to certain of the intellectual property technology. Our rights to the MD Anderson intellectual property flow to us via our agreement with PGEN. In May 2019, we in-licensed from the NCI a patent portfolio that includes intellectual property related to our TCR-T cell library. Under the terms of the agreement, we hold an exclusive, worldwide license to certain intellectual property to develop, manufacture and commercialize patient-derived (autologous), peripheral blood T-cell therapy products engineered by transposon-mediated gene transfer to express TCRs reactive to mutated KRAS , TP53 and EGFR neoantigens. In addition, we hold an exclusive, worldwide license to certain intellectual property for manufacturing technologies to develop and commercialize autologous, peripheral blood T-cell therapy products engineered by non-viral gene transfer to express certain TCRs, as well as a non-exclusive, worldwide license to certain additional manufacturing technologies. Governmental Regulation and Product Approval As a biopharmaceutical company, we are subject to extensive regulation. Our genetically engineered T-cell product candidates are regulated as biologics. With this classification, commercial production of our products will need to occur in registered and licensed facilities in compliance with cGMPs for biologics. Human immunotherapy products are a new category of therapeutics. The FDA categorizes human cell- or tissue-based products as either minimally manipulated or more than minimally manipulated and has determined that more than minimally manipulated products require clinical trials to demonstrate product safety and efficacy and the submission of a BLA for marketing authorization. Government authorities in the United States (at the federal, state and local level) and in other countries and jurisdictions extensively regulate, among other things, the research, development, preclinical and clinical testing, manufacturing, quality control, labeling, packaging, storage, record-keeping, promotion, advertising, sale, distribution, post-approval monitoring and reporting, marketing and export and import of biopharmaceutical products such as those we are developing. Our product candidates must be approved by the FDA before they may be legally marketed in the United States and by the appropriate foreign regulatory agency before they may be legally marketed in foreign countries. Generally, our activities in other countries will be subject to regulation that is similar in nature and scope as that imposed in the United States, 15 Table of Contents although there can be important differences. The process for obtaining regulatory marketing approvals and the subsequent compliance with applicable federal, state, local and foreign statutes and regulations require the expenditure of substantial time and financial resources. U.S. Product Development Process In the United States, the FDA regulates biological products under the Public Health Service Act, or PHSA, and the Federal Food, Drug and Cosmetic Act, or FDCA, and implementing regulations. Products are also subject to other federal, state and local statutes and regulations. The process of obtaining regulatory approvals and the subsequent compliance with appropriate federal, state, local and foreign statutes and regulations require the expenditure of substantial time and financial resources. Failure to comply with the applicable United States requirements at any time during the product development process, approval process or after approval, may subject an applicant to administrative or judicial sanctions. FDA sanctions could include, among other actions, refusal to approve pending applications, withdrawal of an approval, a clinical hold, warning letters and similar public notice of alleged non-compliance with laws, product recalls or withdrawals from the market, product seizures, total or partial suspension of production or distribution, fines, refusals of government contracts, restitution, disgorgement of profits, or civil or criminal penalties. Any agency or judicial enforcement action could have a material adverse effect on us. The process required by the FDA before a biological product may be approved for marketing in the United States generally involves the followin • completion of preclinical laboratory tests and animal studies according to Good Laboratory Practices, or GLPs, and applicable requirements for the humane use of laboratory animals or other applicable regulations; • submission to the FDA of an IND, which must become effective before human clinical trials may begin; • performance of adequate and well-controlled human clinical trials according to the FDA’s regulations commonly referred to as Good Clinical Practices, or GCPs, and any additional requirements for the protection of human research subjects and their health information, to establish the safety and efficacy of the proposed biological product for its intended use; • preparation and submission to the FDA of a BLA for marketing approval that includes substantive evidence of safety, purity and potency from results of nonclinical testing and clinical trials; • satisfactory completion of one or more FDA inspections of the manufacturing facility or facilities where the biological product is produced to assess compliance with cGMP to assure that the facilities, methods and controls used in product manufacture are adequate to preserve the biological product’s identity, strength, quality and purity and, if applicable, the FDA’s current Good Tissue Practices, or GTPs, for the use of human cellular and tissue products; • potential FDA audit of the nonclinical study and clinical trial sites that generated the data in support of the BLA; • payment of user fees for FDA review of the BLA; and • FDA acceptance, review and approval, or licensure, of the BLA, which might include review by an advisory committee, a panel typically consisting of independent clinicians and other experts who provide recommendations as to whether the application should be approved and under what conditions. Before testing any biological product candidate, including our product candidates, in humans, the product candidate must undergo rigorous preclinical testing. Preclinical tests, also referred to as nonclinical studies, include laboratory evaluations as well as in vitro and animal studies to assess the potential safety and efficacy of the product candidate. The clinical trial sponsor must submit an IND to the FDA before clinical testing can begin in the United States. An IND must contain the results of the preclinical tests, manufacturing information, analytical data, any available clinical data or literature, a proposed clinical protocol, an investigator’s brochure, a sample informed consent form and other materials. Clinical trial protocols detail, among other things, the objectives of the clinical trial, dosing procedures, subject selection and exclusion criteria and the parameters to be used to monitor subject safety, including stopping rules that assure a clinical trial will be stopped if certain adverse events should occur. Each protocol and any amendments to the protocol must be submitted to the FDA as part of the IND. Some preclinical testing, such as toxicity studies, may continue even after the IND is submitted. The IND automatically becomes effective 30 days after receipt by the FDA, unless the FDA raises concerns or questions regarding the proposed clinical trials or places the trial on a clinical hold within that 30-day time period. In such a case, the IND sponsor and the FDA must resolve any outstanding concerns before the clinical trial can begin. The FDA may also impose clinical holds on a biological product candidate at any time before or during clinical trials due to safety concerns or non-compliance. If the FDA imposes a clinical hold, trials may not recommence without FDA authorization and then only under terms authorized by the FDA. Further, each clinical trial must be reviewed and approved by an independent institutional review board, or IRB, at or servicing each institution at which the clinical trial will be conducted. An IRB is charged with protecting the welfare and rights of trial participants and considers such items as whether the risks to individuals participating in the clinical trials are minimized and are reasonable in relation to anticipated benefits. The IRB also approves the form and content of the informed consent that must be signed by each clinical trial subject or his or her legal representative and must monitor the clinical trial until completed. Clinical trials involving recombinant or synthetic nucleic acid molecules also must be reviewed by an institutional biosafety committee, or IBC, a local institutional committee that reviews and oversees basic and clinical 16 Table of Contents research conducted at that institution. The IBC assesses the safety of the research and identifies any potential risk to public health or the environment. Clinical trials involve the administration of the biological product candidate to healthy volunteers or patients under the supervision of qualified investigators, generally physicians not employed by or under the trial sponsor’s control. Clinical trials must be conducted and monitored in accordance with the FDA’s regulations comprising the GCP requirements. Human clinical trials are typically conducted in three sequential phases that may overlap or be combin • Phase 1 . The biological product is initially introduced into healthy human subjects and tested for safety. In the case of some products for severe or life-threatening diseases, especially when the product may be too inherently toxic to ethically administer to healthy volunteers, the initial human testing is often conducted in patients with the target disease or condition. • Phase 2 . The biological product is evaluated in a limited patient population to identify possible adverse effects and safety risks, to preliminarily evaluate the efficacy of the product for specific targeted diseases and to determine dosage tolerance, optimal dosage and dosing schedule. • Phase 3 . Clinical trials are undertaken to further evaluate dosage, clinical efficacy, potency, and safety in an expanded patient population, generally at geographically dispersed clinical trial sites. These clinical trials are intended to generate enough data to statistically evaluate the efficacy and safety of the product for approval, to establish the overall risk to benefit profile of the product and to provide an adequate basis for product labeling. Phase 1, Phase 2 and Phase 3 clinical trials may not be completed successfully within any specified period, if at all. Post-approval clinical trials, sometimes referred to as Phase 4 clinical trials, may be conducted after initial marketing approval. These clinical trials are used to gain additional experience from the treatment of patients in the intended therapeutic indication, particularly for long-term safety follow-up. During all phases of clinical development, regulatory agencies require extensive monitoring and auditing of all clinical activities, clinical data and clinical trial investigators. Annual progress reports detailing the results of the clinical trials must be submitted to the FDA. Written IND safety reports must be promptly submitted to the FDA, the NIH and the investigators for serious and unexpected adverse events, any findings from other studies, tests in laboratory animals or in vitro testing that suggest a significant risk for human patients, or any clinically important increase in the rate of a serious suspected adverse reaction over that listed in the protocol or investigator brochure. The sponsor must submit an IND safety report within 15 calendar days after the sponsor determines that the information qualifies for reporting. The sponsor also must notify the FDA of any unexpected fatal or life-threatening suspected adverse reaction within seven calendar days after the sponsor’s initial receipt of the information. The FDA or the sponsor or its data safety monitoring board, an independent group of experts that evaluates study data for safety and makes recommendations concerning continuation, modification, or termination of clinical trials, may suspend or terminate a clinical trial at any time on various grounds, including a finding that the research patients are being exposed to an unacceptable health risk, including risks inferred from other unrelated immunotherapy trials. Similarly, an IRB can suspend or terminate approval of a clinical trial at its institution if the clinical trial is not being conducted in accordance with the IRB’s requirements or if the biological product has been associated with unexpected serious harm to patients. Concurrently with clinical trials, companies usually complete additional nonclinical studies and must also develop additional information about the physical characteristics of the biological product as well as finalize a process for manufacturing the product in commercial quantities in accordance with cGMP requirements. To help reduce the risk of the introduction of adventitious agents with use of biological products, the PHSA emphasizes the importance of manufacturing control for products whose attributes cannot be precisely defined. The manufacturing process must be capable of consistently producing quality batches of the product candidate and, among other things, the sponsor must develop methods for testing the identity, strength, quality, potency and purity of the final biological product. Additionally, appropriate packaging must be selected and tested, and stability studies must be conducted to demonstrate that the biological product candidate does not undergo unacceptable deterioration over its shelf life. The FDA has a fast track designation program that is intended to expedite or facilitate the process for reviewing new drug or biologic products that meet certain criteria. Specifically, new drugs or biologics are eligible for fast track designation if they are intended to treat a serious or life-threatening disease or condition and demonstrate the potential to address unmet medical needs for the disease or condition. Unique to a fast track product, the FDA may consider for review sections of the BLA on a rolling basis before the complete application is submitted, if the sponsor provides a schedule for the submission of the sections of the BLA, the FDA agrees to accept sections of the BLA and determines that the schedule is acceptable, and the sponsor pays any required user fees upon submission of the first section of the BLA. After the completion of clinical trials of a biological product, FDA approval of a BLA must be obtained before commercial marketing of the biological product. The BLA must include results of product development, laboratory and animal studies, human trials, information on the manufacture and composition of the product, proposed labeling and other relevant information. Under the Prescription Drug User Fee Act, or PDUFA, as amended, each BLA must be accompanied by a significant user fee. The FDA adjusts the PDUFA user fees on an annual basis. PDUFA also imposes an annual program fee for approved biological products. Fee waivers or reductions are available in certain circumstances, including a waiver of the application fee for the first application filed by a small business. 17 Table of Contents Additionally, no user fees are assessed on BLAs for products designated as orphan drugs, unless the product also includes a non-orphan indication. Within 60 days following submission of the application, the FDA reviews a BLA submitted to determine if it is substantially complete before the agency accepts it for filing. The FDA may refuse to file any BLA that it deems incomplete or not properly reviewable at the time of submission and may request additional information. In this event, the BLA must be resubmitted with the additional information. The resubmitted application also is subject to review before the FDA accepts it for filing. Once the submission is accepted for filing, the FDA begins an in-depth substantive review of the BLA. The FDA reviews the BLA to determine, among other things, whether the proposed product is safe, potent, and/or effective for its intended use, and has an acceptable purity profile, and whether the product is being manufactured in accordance with cGMP to assure and preserve the product’s identity, safety, strength, quality, potency and purity. The FDA may refer applications for novel biological products or biological products that present difficult questions of safety or efficacy to an advisory committee, typically a panel that includes clinicians and other experts, for review, evaluation and a recommendation as to whether the application should be approved and under what conditions. The FDA is not bound by the recommendations of an advisory committee, but it considers such recommendations carefully when making decisions. During the biological product approval process, the FDA also will determine whether a Risk Evaluation and Mitigation Strategy, or REMS, is necessary to ensure that the benefits of the product outweigh its risks and to assure the safe use of the biological product, which could include medication guides, physician communication plans, or elements to assure safe use, such as restricted distribution methods, patient registries and other risk minimization tools. FDA determines the requirement for a REMS, as well as the specific REMS provisions, on a case-by-case basis. If the FDA concludes a REMS is needed, the sponsor of the BLA must submit a proposed REMS. The FDA will not approve a BLA without a REMS, if required. Before approving a BLA, the FDA will inspect the facilities at which the product is manufactured. The FDA will not approve the product unless it determines that the manufacturing processes and facilities are in compliance with cGMP requirements and adequate to assure consistent production of the product within required specifications. For immunotherapy products, the FDA also will not approve the product if the manufacturer is not in compliance with the GTPs, to the extent applicable. These are FDA regulations and guidance documents that govern the methods used in, and the facilities and controls used for, the manufacture of human cells, tissues and cellular and tissue-based products, or HCT/Ps, which are human cells or tissue intended for implantation, transplant, infusion, or transfer into a human recipient. The primary intent of the GTP requirements is to ensure that cell and tissue-based products are manufactured in a manner designed to prevent the introduction, transmission and spread of communicable disease. FDA GTP regulations also require tissue establishments to register and list their HCT/Ps with the FDA and, when applicable, to evaluate donors through screening and testing. Additionally, before approving a BLA, the FDA will typically inspect one or more clinical sites to assure that the clinical trials were conducted in compliance with IND trial requirements and GCP requirements. Notwithstanding the submission of relevant data and information, the FDA may ultimately decide that the BLA does not satisfy its regulatory criteria for approval. If the agency decides not to approve the BLA in its present form, the FDA will issue a Complete Response Letter, which generally outlines the specific deficiencies in the BLA identified by the FDA and may require additional clinical or other data or impose other conditions that must be met in order to secure final approval of the application. The deficiencies identified may be minor, for example, requiring labeling changes, or major, for example, requiring additional clinical trials. Even with the submission of additional information, the FDA may ultimately decide that the application does not satisfy the regulatory criteria for approval. If a Complete Response Letter is issued, the applicant may either resubmit the BLA, addressing all of the deficiencies identified in the letter, or withdraw the application. The FDA may require that certain contraindications, warnings or precautions be included in the product labeling, or otherwise limit the scope of any approval. In addition, the FDA may require post marketing clinical trials, sometimes referred to as Phase 4 clinical trials, designed to further assess a biological product’s safety and effectiveness, and testing and surveillance programs to monitor the safety of approved products that have been commercialized. After approval, many types of changes to the approved product, such as adding new indications, manufacturing changes and additional labeling claims, are subject to further testing requirements and FDA review and approval. In addition, under the Pediatric Research Equity Act, or PREA, a BLA or supplement to a BLA must contain data to assess the safety and effectiveness of the product for the claimed indications in all relevant pediatric subpopulations and to support dosing and administration for each pediatric subpopulation for which the product is safe and effective. The FDA may grant deferrals for submission of data or full or partial waivers. Post-Approval Requirements Any products for which we receive FDA approvals are subject to continuing regulation by the FDA, including, among other things, record-keeping requirements, reporting of adverse experiences with the product, providing the FDA with updated safety and efficacy information, product sampling and distribution requirements and complying with FDA promotion and advertising requirements. In addition, quality control and manufacturing procedures must continue to conform to applicable manufacturing requirements after approval to ensure the long-term stability of the product. We rely, and expect to continue to rely, on third parties for the production of clinical and commercial quantities of our products in accordance with cGMP regulations. cGMP regulations require, among other things, quality control and quality assurance as well as the corresponding maintenance of records and documentation and the obligation to investigate and correct any deviations from cGMP. Manufacturers and other entities involved in the manufacture and distribution of approved products are required to 18 Table of Contents register their establishments with the FDA and certain state agencies, and are subject to periodic unannounced inspections by the FDA and certain state agencies for compliance with cGMP and other laws. Accordingly, manufacturers must continue to expend time, money and effort in the area of production and quality control to maintain cGMP compliance. Discovery of problems with a product after approval may result in restrictions on a product, manufacturer or holder of an approved BLA, including, among other things, recall or withdrawal of the product from the market. The FDA also may require post-marketing testing, known as Phase 4 testing, and surveillance to monitor the effects of an approved product. Discovery of previously unknown problems with a product, including adverse events of unanticipated severity or frequency, with manufacturing processes, or the failure to comply with applicable FDA requirements can have negative consequences, including adverse publicity, judicial or administrative enforcement, complete withdrawal from the market, product recalls, warning letters from the FDA, mandated corrective advertising or communications with doctors, product seizure or detention, injunctions and civil or criminal penalties, among others. Newly discovered or developed safety or effectiveness data may require changes to a product’s approved labeling, including the addition of new warnings and contraindications, and also may require the implementation of other risk management measures. Also, new government requirements, including those resulting from new legislation, may be established, or the FDA’s policies may change, which could delay or prevent regulatory approval of our products under development. Moreover, the FDA strictly regulates marketing, labeling, advertising and promotion of products. Drugs may be promoted only for the approved indications and in accordance with the provisions of the approved label, although physicians, in the practice of medicine, may prescribe approved drugs for unapproved indications. However, companies may share truthful and not misleading information that is otherwise consistent with the labeling. The FDA and other agencies actively enforce the laws and regulations prohibiting the promotion of off-label uses, and a company that is found to have improperly promoted off-label uses may be subject to significant liability. U.S. Marketing Exclusivity The Biologics Price Competition and Innovation Act, or BPCIA, amended the PHSA to authorize the FDA to approve similar versions of innovative biologics, commonly known as biosimilars. Biosimilars are approved pursuant to an abbreviated pathway whereby applicants need not submit the full slate of preclinical and clinical data, and approval is based in part on the FDA’s findings of safety, purity, and potency for the original biologic (i.e., the reference product). Reference products are eligible to receive 12 years of exclusivity from the time of first licensure of the product, which prevents the FDA from approving any biosimilars to the reference product through the abbreviated pathway, but does not prevent approval of BLAs that are accompanied by a full data package and that do not rely on the reference product. A biosimilar may be approved if the product is highly similar to the reference product notwithstanding minor differences in clinically inactive components and there are no clinically meaningful differences with the reference product in terms of the safety, purity and potency. Pediatric exclusivity is another type of regulatory market exclusivity in the United States. Pediatric exclusivity, if granted, adds six months to existing exclusivity periods and patent terms. This six-month exclusivity, which runs from the end of other exclusivity protection or patent term, may be granted based on the voluntary completion of a pediatric trial in accordance with an FDA-issued “Written Request” for such a trial. Orphan Drug Designation Under the Orphan Drug Act, the FDA may grant orphan designation to a drug or biologic intended to treat a rare disease or condition, which is a disease or condition that affects fewer than 200,000 individuals in the United States or, if it affects more than 200,000 individuals in the United States, there is no reasonable expectation that the cost of developing and making a drug or biologic product available in the United States for this type of disease or condition will be recovered from sales of the product. Orphan designation must be requested before submitting a marketing application. After the FDA grants orphan designation, the identity of the therapeutic agent and its potential orphan use are disclosed publicly by the FDA. Orphan designation does not convey any advantage in or shorten the duration of the regulatory review and approval process. If a product that has orphan designation subsequently receives the first FDA approval for the disease or condition for which it has such designation, the product is entitled to orphan product exclusivity, which means that the FDA may not approve any other applications to market the same drug or biological product for the same indication for seven years, except in limited circumstances, such as a showing of clinical superiority to the product with orphan exclusivity or inability to manufacture the product in sufficient quantities. The designation of such drug also entitles a party to financial incentives such as opportunities for grant funding towards clinical trial costs, tax advantages and user fee waivers. Competitors, however, may receive approval of different products for the indication for which the orphan product has exclusivity or obtain approval for the same product but for a different indication for which the orphan product has exclusivity. Orphan exclusivity also could block the approval of one of our products for seven years if a competitor obtains approval of the same product as defined by the FDA or if our product candidate is determined to be contained within the competitor’s product for the same indication or disease. If an orphan designated product receives marketing approval for an indication broader than what is designated, it may not be entitled to orphan exclusivity. Orphan drug status in the European Union, or EU, has similar but not identical benefits in that jurisdiction. 19 Table of Contents Coverage, Pricing and Reimbursement Significant uncertainty exists as to the coverage and reimbursement status of any product candidates for which we obtain regulatory approval. In the United States and markets in other countries, sales of any products for which we receive regulatory approval for commercial sale will depend, in significant part, on the extent to which third-party payors provide coverage, and establish adequate reimbursement levels for such products. In the United States, third-party payors include federal and state healthcare programs, private managed care providers, health insurers and other organizations. The process for determining whether a third-party payor will provide coverage for a product may be separate from the process for setting the price of a product or for establishing the reimbursement rate that such a payor will pay for the product. Third-party payors may limit coverage to specific products on an approved list, also known as a formulary, which might not include all of the FDA-approved products for a particular indication. In addition, in the United States, no uniform policy of coverage and reimbursement for drug products exists among third-party payors. Therefore, coverage and reimbursement for drug products can differ significantly from payor to payor. Third-party payors are increasingly challenging the price, examining the medical necessity of and reviewing the cost-effectiveness of medical products, therapies and services, in addition to questioning their safety and efficacy. Reimbursement may impact the demand for, and/or the price of, any product candidate that obtains marketing approval. Even if coverage and reimbursement is obtained for a given product candidate by a third-party payor, the resulting reimbursement payment rates may not be adequate or may require co-payments that patients find unacceptably high. Patients who are prescribed medications for the treatment of their conditions, and their prescribing physicians, generally rely on third-party payors to reimburse all or part of the costs associated with those medications. Patients are unlikely to use a product, and physicians may be less likely to prescribe a product, unless coverage is provided and reimbursement is adequate to cover all or a significant portion of the cost of the product. Therefore, coverage and adequate reimbursement is critical to new drug product acceptance. The downward pressure on health care costs in general, particularly prescription drugs and biologics, has become very intense. Governments have shown significant interest in implementing cost-containment programs, including price controls, restrictions on reimbursement and requirements for substitution of generic products. As a result, increasingly high barriers are being erected to the entry of new products. The marketability of any product candidates for which we receive regulatory approval for commercial sale may suffer if the government and third-party payors fail to provide favorable coverage and adequate reimbursement. In addition, emphasis on managed care in the United States has increased, and we expect will continue to increase, the pressure on healthcare pricing. Coverage policies and third-party reimbursement rates may change at any time. Even if favorable coverage and reimbursement status is attained for one or more products for which we receive regulatory approval, less favorable coverage policies and reimbursement rates may be implemented in the future. Health Care Laws Governing Interactions with Healthcare Providers Healthcare providers and third-party payors in the United States play a primary role in the recommendation and prescription of drug products. Arrangements with healthcare providers, third-party payors and customers can expose pharmaceutical manufactures to broadly applicable fraud and abuse and other healthcare laws, including false claims, privacy and security, price reporting and physician sunshine laws or regulations. Some of our pre-commercial activities are subject to some of these laws. The applicable federal, state and foreign healthcare laws and regulations laws that may affect a pharmaceutical manufacture’s ability to operate include, but are not limited t • The federal Anti-Kickback Statute, which regulates our business activities, including our marketing practices, educational programs, pricing policies and relationships with healthcare providers or other entities, by prohibiting, among other things, soliciting, receiving, offering or paying remuneration, directly or indirectly, to induce, or in return for, either the referral of an individual or the purchase or recommendation of an item or service reimbursable under a federal healthcare program, such as the Medicare and Medicaid programs; • Federal civil and criminal false claims laws, including the False Claims Act which permits a private individual acting as a “whistleblower” to bring actions on behalf of the federal government alleging violations of the False Claims Act, and civil monetary penalty laws, which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid, or other third-party payors that are false or fraudulent; • The federal Health Insurance Portability and Accountability Act of 1996, or HIPAA, which created new federal civil and criminal statutes that prohibit, among other things, executing a scheme to defraud any healthcare benefit program or making false statements relating to healthcare matters; • HIPAA, as amended by the Health Information Technology for Economic and Clinical Health Act of 2009, or HITECH, and their implementing regulations, which imposes certain requirements relating to the privacy, security and transmission of individually identifiable health information on entities and individuals subject to the law including certain healthcare providers, health plans and healthcare clearinghouses, known as covered entities, as well as individuals and entities that perform services for them which involve the use, or disclosure of, individually identifiable health information, known as business associates as well as their covered subcontractors; • Requirements to report annually to the Centers for Medicare & Medicaid Services, or CMS, certain financial arrangements with physicians and teaching hospitals, as defined in the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act, or collectively the ACA, and its implementing regulations, including reporting any “transfer of value” made or 20 Table of Contents distributed to prescribers and teaching hospitals, and reporting any ownership and investment interests held by physicians and their immediate family members during the preceding calendar year; and • State and foreign law equivalents of each of the above federal laws, such as anti-kickback and false claims laws which may apply to items or services reimbursed by any third-party payor, including commercial insurers; state laws that require pharmaceutical companies to comply with the industry’s voluntary compliance guidelines and the applicable compliance guidance promulgated by the federal government that otherwise restricts certain payments that may be made to healthcare providers and entities; state laws that require drug manufacturers to report information related to payments and other transfer of value to physicians and other healthcare providers and entities; state laws that require the reporting of information related to drug pricing; state and local laws that require the registration of pharmaceutical sales representatives; and state and foreign laws governing the privacy and security of health information in certain circumstances, many of which differ from each other in significant ways and often are not preempted by HIPAA, thus complicating compliance efforts. Efforts to ensure that business arrangements comply with applicable healthcare laws involve substantial costs. It is possible that governmental and enforcement authorities will conclude that a pharmaceutical manufacturer’s business practices do not comply with current or future statutes, regulations or case law interpreting applicable fraud and abuse or other healthcare laws and regulations. If any such actions are instituted against a pharmaceutical manufacturer, and it is not successful in defending itself or asserting its rights, it may be subject to the imposition of significant civil, criminal and administrative penalties, damages, disgorgement, monetary fines, imprisonment, possible exclusion from participation in Medicare, Medicaid and other federal healthcare programs, contractual damages, reputational harm, diminished profits and future earnings, and curtailment of operations, as well as additional reporting obligations and oversight if subject to a corporate integrity agreement or other agreement to resolve allegations of non-compliance with these laws. In addition, the approval and commercialization of drug products outside the United States may also subject a pharmaceutical manufacturer to foreign equivalents of the healthcare laws mentioned above, among other foreign laws. Healthcare Reform Efforts A primary trend in the United States healthcare industry and elsewhere is cost containment. Over the last several years, there have been federal and state proposals and legislation enacted regarding the pricing of pharmaceutical and biopharmaceutical products, limiting coverage and reimbursement for drugs and other medical products and making changes to healthcare financing and the delivery of care in the United States. In March 2010, President Obama signed into law the ACA, which included measures that have significantly changed the way healthcare is financed by both governmental and private insurers. The ACA, among other things, imposed a new methodology by which rebates owed by manufacturers under the Medicaid Drug Rebate Program are calculated for drugs that are inhaled, infused, instilled, implanted or injected, increased the minimum Medicaid rebates owed by manufacturers under the Medicaid Drug Rebate Program, extended the rebate program to individuals enrolled in Medicaid managed care organizations, added a provision to increase the Medicaid rebate for line extensions or reformulated drugs, established annual fees on manufacturers and importers of certain branded prescription drugs and biologic agents, promoted a new Medicare Part D coverage gap discount program, expanded the entities eligible for discounts under the Public Health Service Act pharmaceutical pricing program and imposed a number of substantial new compliance provisions related to pharmaceutical companies’ interactions with healthcare practitioners. The ACA also expanded eligibility for Medicaid programs and introduced a new Patient Centered Outcomes Research Institute to oversee, identify priorities in and conduct comparative clinical effectiveness research, along with funding for such research and a new Center for Medicare & Medicaid Innovation at CMS, to test innovative payment and service delivery models to lower Medicare and Medicaid spending. There have been executive, legal and political challenges to certain aspects of the ACA. For example, President Trump signed several executive orders and other directives designed to delay, circumvent or loosen certain requirements mandated by the ACA. Concurrently, Congress considered legislation to repeal or repeal and replace all or part of the ACA. While Congress has not passed repeal legislation, several bills affecting the implementation of certain taxes under the ACA have been signed into law. The Tax Cuts and Jobs Act of 2017, or Tax Act, included a provision which repealed, effective January 1, 2019, the tax-based shared responsibility payment imposed by the ACA on certain individuals who fail to maintain qualifying health coverage for all or part of a year that is commonly referred to as the “individual mandate.” Further, the 2020 federal spending package permanently eliminated, effective January 1, 2020, the ACA-mandated “Cadillac” tax on high-cost employer-sponsored health coverage and medical device tax and, effective January 1, 2021, also eliminated the health insurer tax. The Bipartisan Budget Act of 2018, or the BBA, among other things, amended the ACA, effective January 1, 2019, to increase from 50 percent to 70 percent the point-of-sale discount that is owed by pharmaceutical manufacturers who participate in Medicare Part D and to close the coverage gap in most Medicare drug plans, commonly referred to as the “donut hole.” Further, President Biden issued an executive order that instructed certain governmental agencies to review and reconsider their existing policies and rules that limit access to healthcare, including among others, reexamining Medicaid demonstration projects and waiver programs that include work requirements, and policies that create unnecessary barriers to obtaining access to health insurance coverage through Medicaid or the ACA. Further, there have been a number of health reform initiatives by the Biden administration that have impacted the ACA. For example, on August 16, 2022, President Biden signed the Inflation Reduction Act, or IRA, into law, which, among other things, extends enhanced subsidies for individuals purchasing health insurance coverage in ACA marketplaces through plan year 2025. The IRA also eliminates the "donut hole" under the Medicare Part D program beginning in 2025 by significantly lowering the beneficiary maximum out-of-pocket cost and implementing a newly established 21 Table of Contents manufacturer discount program. It is possible that the ACA will be subject to judicial or Congressional challenges in the future. It is unclear how any such challenges and the healthcare reform measures of the Biden administration will impact ACA and our business. The ultimate content, timing or effect of any healthcare reform measures on the U.S. healthcare industry is unclear. In addition, other federal health reform measures have been proposed and adopted in the United States since the ACA was enacted. For example, as a result of the Budget Control Act of 2011, providers are subject to Medicare payment reductions of 2% per fiscal year, which went into effect on April 1, 2013. This 2% reduction was temporarily suspended during the COVID-19 pandemic, but has since been reinstated and, unless Congress and/or the Executive Branch take additional action, will begin to increase gradually starting in April 2030, reaching 4% in April 2031, until sequestration ends in October 2031. Further, the American Taxpayer Relief Act of 2012 reduced Medicare payments to several providers and increased the statute of limitations period for the government to recover overpayments from providers from three to five years. The Medicare Access and CHIP Reauthorization Act of 2015 also introduced a quality payment program under which certain individual Medicare providers will be subject to certain incentives or penalties based on new program quality standards. In November 2019, CMS issued a final rule finalizing the changes to the Medicare Quality Payment Program. Further, there has been heightened governmental scrutiny in the United States of pharmaceutical pricing practices in light of the rising cost of prescription drugs and biologics. Such scrutiny has resulted in several recent Congressional inquiries and proposed and enacted federal and state legislation designed to, among other things, bring more transparency to product pricing, review the relationship between pricing and manufacturer patient programs and reform government program reimbursement methodologies for products. At the federal level, the Trump administration used several means to propose or implement drug pricing reform, including through federal budget proposals, executive orders and policy initiatives. For example, on July 24, 2020 and September 13, 2020, the Trump administration announced several executive orders related to prescription drug pricing that attempt to implement several of the administration’s proposals. The FDA also released a final rule, effective November 30, 2020, implementing a portion of the importation executive order providing guidance for states to build and submit importation plans for drugs from Canada. Further, on November 30, 2020, the U.S. Department of Health and Human Services, or HHS, finalized a regulation removing safe harbor protection for price reductions from pharmaceutical manufacturers to plan sponsors under Part D, either directly or through pharmacy benefit managers, unless the price reduction is required by law. The IRA delayed the implementation of the rule to January 1, 2032. The rule also creates a new safe harbor for price reductions reflected at the point-of-sale, as well as a new safe harbor for certain fixed fee arrangements between pharmacy benefit managers and manufacturers; the implementation of these provisions has also been delayed by the IRA until January 1, 2032. In addition, on March 11, 2021, President Biden signed the American Rescue Plan Act of 2021 into law, which eliminates the statutory Medicaid drug rebate price cap, currently set at 100% of a drug’s average manufacturer price for single source and innovator multiple source products, beginning on January 1, 2024. Further, in July 2021, the Biden Administration released an executive order that included multiple provisions aimed at prescription drugs. In response to Biden's executive order, on September 9, 2021, HHS released a Comprehensive Plan for Addressing High Drug Prices that outlines principles for drug price reform. The plan sets out a variety of potential legislative policies that Congress could pursue as well as potential administrative actions by HHS. No legislative or administrative actions have been finalized to implement these principles. In addition, Congress is considering drug pricing as part of the budget reconciliation process. Additionally, the IRA, among other things, (i) directs HHS to negotiate the price of certain high-expenditure, single-source drugs and biologics covered under Medicare, and subjects drug manufacturers to civil monetary penalties and a potential excise tax for offering a price that is not equal to or less than the negotiated “maximum fair price” under the law, and (ii) imposes rebates under Medicare Part B and Medicare Part D to penalize price increases that outpace inflation. The IRA permits HHS to implement many of these provisions through guidance, as opposed to regulation, for the initial years. These provisions will take effect progressively starting in fiscal year 2023, although they may be subject to legal challenges. It is currently unclear how the IRA will be effectuated but is likely to have a significant impact on the pharmaceutical industry. At the state level, legislatures have increasingly enacted legislation and implemented regulations designed to control pharmaceutical and biological product pricing, including price or patient reimbursement constraints, discounts, restrictions on certain product access and marketing cost disclosure and transparency measures, and, in some cases, designed to encourage importation from other countries and bulk purchasing. In addition, regional healthcare authorities and individual hospitals are increasingly using bidding procedures to determine what pharmaceutical products and which suppliers will be included in their prescription drug and other healthcare programs. U.S. Foreign Corrupt Practices Act, U.K. Bribery Act and Other Laws The Foreign Corrupt Practices Act, or the FCPA, prohibits any United States individual or business from paying, offering or authorizing payment or offering of anything of value, directly or indirectly, to any foreign official, political party or candidate for the purpose of influencing any act or decision of the foreign entity in order to assist the individual or business in obtaining or retaining business. The FCPA also obligates companies whose securities are listed in the United States to comply with accounting provisions requiring the company to maintain books and records that accurately and fairly reflect all transactions of the corporation, including international subsidiaries, and to devise and maintain an adequate system of internal accounting controls for international operations. Activities that violate the FCPA, even if they occur wholly outside the United States, can result in criminal and civil fines, imprisonment, disgorgement, oversight, and debarment from government contracts. Our operations are also subject to non-United States anti-corruption laws such as the U.K. Bribery Act 2010, or the Bribery Act. As with the FCPA, these laws generally prohibit us and our employees and intermediaries from authorizing, promising, offering or providing, directly or indirectly, improper or prohibited payments, or anything else of value, to government officials or other persons to obtain or retain business or 22 Table of Contents gain some other business advantage. Under the Bribery Act, we may also be liable for failing to prevent a person associated with us from committing a bribery offense. We are also subject to other laws and regulations governing our international operations, including regulations administered by the governments of the United Kingdom and the United States and authorities in the EU, including applicable export control regulations, economic sanctions and embargoes on certain countries and persons, anti-money laundering laws, import and customs requirements and currency exchange regulations, collectively referred to as trade control laws. Failure to comply with the Bribery Act, the FCPA and other anti-corruption laws and trade control laws could subject us to criminal and civil penalties, disgorgement and other sanctions and remedial measures, and legal expenses. Competition We believe our novel hunTR discovery engine has a demonstrated ability to identify proprietary TCRs, allowing us to further expand and advance our pipeline with multiple solid tumor programs under development. In addition, our non-viral transposon method of expressing TCRs, Sleeping Beauty, is less complex relative to many of our competitors’ viral approaches. Finally, our TCR-T Phase 1/2 Library Trial is designed to allow us to treat patients quickly and efficiently in many different indications with a tumor mutation and HLA matching one or more of the several TCRs in our library, which we believe gives us a distinct competitive advantage. However, the development and commercialization for new products to treat cancer, including the indications we are pursuing, is highly competitive and considerable competition exists from major pharmaceutical, biotechnology and specialty cancer companies. Many of these companies have more experience in preclinical and clinical development, manufacturing, regulatory, and global commercialization. Given the rapidly advancing and changing science and technologies in the industry, they may compete with us in hiring personnel, setting up clinical study sites, recruiting patients for clinical trials, and procuring technologies and licenses complementary to, or required for, our programs. We are also competing with academic institutions, governmental agencies and private organizations that are conducting research in the field of cancer. Our TCR-T cell therapies targeting solid tumors face significant competition from multiple companies, and their collaborators, in the TCR and CAR technology space. We face competition from several companies, including 2Seventy Bio, Achilles Therapeutics, Adaptimmune Therapeutics, Affini-T Therapeutics, Annoca, ArsenalBio, Athenex, BioNTech, Bristol-Myers Squibb, Immatics, Iovance Biotherapeutics, Kite (a Gilead company), Lion TCR, Lyell Immunopharma, Medigene, Nurix Therapeutics, Neogene Therapeutics (a member of the AstraZeneca group), NexImmune, PACT Pharma, Precigen, Tactiva Therapeutics, Takara Bio, TCR 2 Therapeutics, T-Cure BioScience, T-knife Therapeutics, Triumvira Immunologics, TScan Therapeutics, Turnstone Biologics, Zelluna Immunotherapy and others. Many of these companies are either investigating TCR-T cells against germline antigens or are utilizing tumor infiltrating lymphocytes. Some are pursuing CAR-T cells for solid tumors. In contrast, we are focused on developing TCR-T cell products against neoantigens arising from somatic mutations in solid tumors. Companies in the T-cell therapy segment that have target discovery platforms like ours include Adaptive Biotechnologies, Affini-T Therapeutics, Enara Bio, Immatics, Neogene Therapeutics (a member of the AstraZeneca group), PACT Pharma, T-knife Therapeutics, TScan Therapeutics and 3T Biosciences. Several companies, including Advaxis, Amgen, BioNTech, Geneos Therapeutics, and Gritstone, are pursuing vaccine platforms to target neoantigens for solid tumors. Other companies are developing non-viral gene therapies, including Poseida Therapeutics and several companies developing CRISPR technology, including Captain T Cell and Crispr Therapeutics. Several companies are pursuing the development of allogeneic CAR-T therapies, including Allogene Therapeutics, Atara Biotherapeutics and Precision Biosciences, which may compete with our product candidates. We also face competition from companies developing therapies using cells other than T cells, such as Athenex, Fate Therapeutics, ImmunityBio, IN8bio, Nkarta Therapeutics and Takeda Pharmaceutical. Other competitors are developing T cells with cytokines, such as Fate Therapeutics and Obsidian Therapeutics. Finally, we also face competition from non-cellular treatments offered by other companies, such as Amgen, AstraZeneca, Bristol-Myers Squibb, Immatics, Immunocore, Incyte, Merck, Mirati and Roche. Additionally, our ability to find partnerships relating to our IL-12 and CAR-T programs may be impacted by substantial competition from these and other biopharmaceutical companies. We face competition on a broader spectrum of the oncology market that is more common, cost-effective and reimbursable, such as surgery, radiation and other drug therapies like chemotherapy, hormone therapy, biologic therapy such as monoclonal and bispecific antibodies, or a combination of any of these therapies. If any of our TCR-T therapies are approved, they may not be as competitive as other therapies, to the extent they are used in combinations with these therapies. Insurers and other third-party payors may also encourage use of certain products; thus, gaining market acceptance or market share for any of our TCR-T therapies could pose difficulties. Finally, standard of care could evolve or change throughout the clinical development of our product candidates. Moreover, if our competitors develop and market a drug that is safer, more effective with fewer side effects, easier to administer, or less expensive, we could see a less favorable market opportunity for our TCR-T therapy candidates. Our competition may also receive FDA or other regulatory approval for their products more quickly than we do, which could give them a first mover advantage and a strong market position before we are able to commercialize our products. If approved, key competitive factors that may affect the success of our TCR-T candidates are likely their efficacy, safety, ease of administering, price and reimbursement from insurance or government. Employees and Human Capital Resources 23 Table of Contents As of February 15, 2023, we had 34 full-time employees and no part-time employees, 28 of whom were engaged in research and development activities, and 6 of whom were engaged in administration. None of our employees are subject to a collective bargaining agreement and we believe our relations with our employees are good. Our human capital resources objectives include identifying, recruiting, retaining, incentivizing and integrating our existing and additional employees. We recruit the best people for the position regardless of gender, ethnicity or other protected traits and it is our policy to fully comply with all laws applicable to discrimination in the workplace. Our diversity, equity and inclusion principles are also reflected in our employee training and policies. The principal purposes of our equity incentive plans are to attract, retain and motivate selected employees, consultants and directors through the granting of stock-based compensation awards and cash-based performance bonus awards. Corporate Information We originally incorporated in Colorado in September 1998 (under the name Net Escapes, Inc.) and later changed our name to “EasyWeb, Inc.” in February 1999. We re-incorporated in Delaware on May 16, 2005 under the same name. On September 13, 2005, we completed a “reverse” acquisition of privately held Ziopharm, Inc., a Delaware corporation. To effect this transaction, we caused ZIO Acquisition Corp., our wholly-owned subsidiary, to merge with and into Ziopharm, Inc., with Ziopharm, Inc. surviving as our wholly owned subsidiary. Following the merger, we caused Ziopharm, Inc. to merge with and into us and we changed our name to “Ziopharm Oncology, Inc.” As a result, Ziopharm, Inc. became the registrant with the Securities and Exchange Commission, or the SEC, and the historical financial statements of Ziopharm, Inc. became our historical financial statements. On January 25, 2022, we filed a Certificate of Amendment to our Amended and Restated Certificate of Incorporation with the Delaware Secretary of State to change our name to Alaunos Therapeutics, Inc. Our principal executive offices are located at 8030 El Rio Street, Houston, Texas 77054, and our telephone number is (346) 355-4099. Available Information Our website address is www.alaunos.com. Our website and information included in or linked to our website are not part of this Annual Report on Form 10-K. We file reports with the SEC, which we make available on our website free of charge. These reports include annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to such reports, each of which is provided on our website as soon as reasonably practicable after we electronically file such materials with or furnish them to the SEC. In addition, the SEC maintains a website (www.sec.gov) that contains reports, proxy and information statements and other information regarding issuers, like us, that file electronically with the SEC. 24 Table of Contents Item 1A. Risk Factors An investment in our common stock is risky. In addition to the other information in this Annual Report on Form 10-K, you should carefully consider the following risk factors in evaluating us and our business. If any of the events described in the following risk factors were to occur, our business, financial condition, results of operation and future growth prospects would likely be materially and adversely affected. In that event, the trading price of our common stock could decline, and you could lose all or a part of your investment in our common stock. Therefore, we urge you to carefully review this entire report and consider the risk factors discussed below. Moreover, the risks described below are not the only ones that we face. Additional risks not presently known to us or that we currently deem immaterial may also affect our business, financial condition, operating results or prospects. Additional risks that we currently do not know about, or that we currently believe to be immaterial, may also impair our business. Certain statements below are forward-looking statements. See “Special Note Regarding Forward-Looking Statements” in this Annual Report. RISKS RELATED TO OUR BUSINESS We will require substantial additional financial resources to continue as a going concern and to continue ongoing development of our product candidates and pursue our business objectives; if we are unable to obtain these additional resources when needed, we may be forced to delay or discontinue our planned operations, including clinical testing of our product candidates. We have not generated significant revenue and have incurred significant net losses in each year since our inception. For the year ended December 31, 2022, we had a net loss of $37.7 million, and, as of December 31, 2022, our accumulated deficit since inception in 2003 was $880.6 million. We expect our operating expenditures and net losses to increase significantly in connection with our ongoing clinical trial and our internal research and development capabilities. Further development of our product candidates will require substantial increases in our expenses as we: • continue to undertake clinical trials for product candidates; • scale-up and scale-out the manufacturing of our TCR-T product candidates; • seek regulatory approvals for product candidates; • work with regulatory authorities to identify and address program-related inquiries; • implement additional internal systems and infrastructure; and • hire additional personnel, including highly-skilled and experienced scientific staff. As of December 31, 2022, we have approximately $53.0 million of cash and cash equivalents, including $13.9 million of restricted cash related to the Amended Loan and Security Agreement (as defined below). Given our current development plans and cash management efforts, we anticipate cash resources will be sufficient to fund operations into the fourth quarter of 2023. We have no committed sources of additional capital at this time. We follow the guidance of Accounting Standards Codification, or ASC, Topic 205-40, Presentation of Financial Statements - Going Concern , in order to determine whether there is substantial doubt about our ability to continue as a going concern for one year after the date our financial statements are issued. Based on the current cash forecast, management has determined that our present capital resources will not be sufficient to fund our planned operations for at least one year from the issuance date of the financial statements, which raises substantial doubt as to our ability to continue as a going concern. The forecast of cash resources is forward-looking information that involves risks and uncertainties, and our actual cash requirements may vary materially from our current expectations for a number of other factors that may include, but are not limited to, changes in the focus and direction of our development programs, slower and/or faster than expected progress of our research and development efforts, changes in governmental regulation, competitive and technical advances, rising costs associated with the development of our product candidates, our ability to secure partnering arrangements, and costs of filing, prosecuting, defending and enforcing our intellectual property rights. Global political and economic events, including the COVID-19 pandemic and increased inflation, have already resulted in a significant disruption of global financial markets. If the disruption persists and deepens, we could experience an inability to access additional capital or make the terms of any available financing less attractive, which could in the future negatively affect our operations. If we exhaust our capital reserves more quickly than anticipated, regardless of the reason, and we are unable to obtain additional financing on terms acceptable to us or at all, we may be required to delay, limit, reduce or terminate our product development or future commercialization efforts or grant rights to develop and market product candidates that we would otherwise prefer to develop and market ourselves. We need to raise additional capital to fund our operations. The manner in which we raise any additional funds may affect the value of your investment in our common stock. Until such time, if ever, as we can generate substantial revenue, we expect to finance our cash needs through a combination of equity offerings, debt financings and license and collaboration agreements. We do not have any committed external source of funds. The unpredictability of the capital markets may severely hinder our ability to raise capital within the time periods needed or on terms we consider acceptable, if at all. In particular, a decline in the market price of our common stock could make it more difficult for us to sell equity or equity-related securities in the 25 Table of Contents future at a time and price that we deem appropriate. Moreover, if we fail to advance one or more of our current product candidates into early or later-stage clinical trials, successfully commercialize one or more of our product candidates, or acquire new product candidates for development, we may have difficulty attracting investors that might otherwise be a source of additional financing. On August 6, 2021, we entered into a Loan and Security Agreement, or the Loan and Security Agreement, with Silicon Valley Bank and certain of its affiliates, or SVB. The Loan and Security Agreement provided for an initial term loan of $25.0 million funded at the closing, with an additional tranche of $25.0 million available if certain funding and clinical milestones were met by August 31, 2022, or the SVB Facility. In connection with the initial borrowing, we also issued warrants to SVB for the purchase of up to 432,844 shares of our common stock, in the aggregate, at an exercise price of $2.22 per share. The Loan and Security Agreement was subsequently amended, or the Amended Loan and Security Agreement, effective December 28, 2021, to, among other things, eliminate the additional tranche so that the $25.0 million we have drawn down is the full amount available under the SVB Facility. As a result, we do not have any other borrowings available under the SVB Facility. In connection with entering into the Amended Loan and Security Agreement we also amended and restated the warrants. These amended and restated warrants provide for the purchase of up to 649,615 shares of our common stock, in the aggregate, at an exercise price of $1.16 per share. The Amended Loan and Security Agreement also required us to cash collateralize half of the sum of the then-outstanding principal amount of the SVB Facility, plus an amount equal to 5.75% of the original principal amount of the SVB Facility in the event we failed to achieve certain equity raise and clinical milestones by August 31, 2022. We did not achieve these milestones and, as a result, deposited $13.9 million in a collateral account with SVB as required by the terms of the Amended Loan and Security Agreement. The collateralized cash represents a significant portion of our cash and cash equivalents that we are not able to access to fund our operations and is classified as restricted cash on our Balance Sheet. To the extent that we raise additional capital by issuing equity securities, our existing stockholders’ ownership will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect the rights of our common stockholders. Debt financing and preferred equity financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, creating liens, making capital expenditures or declaring dividends. If we raise additional funds through collaborations, strategic alliances or marketing, distribution or licensing arrangements with third parties, we may have to relinquish valuable rights to our technologies, future revenue streams, research programs or product candidates or grant licenses on terms that may not be favorable to us. We have incurred indebtedness that could adversely affect our business and place restrictions on our operating and financial flexibility. The Amended Loan and Security Agreement contains customary affirmative and negative covenants and events of default applicable to us and any subsidiaries. The affirmative covenants require us (and us to cause our subsidiaries, if any) to maintain governmental approvals, deliver certain financial reports, maintain insurance coverage and protect material intellectual property, among other things. The negative covenants restrict our and our subsidiaries’ ability to, among other things, transfer collateral, change our business, engage in mergers or acquisitions, incur additional indebtedness, pay cash dividends or make other distributions, make investments, create liens, sell assets and make any payment on subordinated debt. The restrictive covenants of the Amended Loan and Security Agreement could cause us to be unable to pursue business opportunities that we or our stockholders may consider beneficial, including entering into certain licensing arrangements, maintaining flexible cash management arrangements and engaging in certain change in control transactions, among others. Our debt combined with our other financial obligations and contractual commitments could have significant adverse consequences for our business, includin • Requiring us to dedicate a substantial portion of cash flows to payment on our debt, which would reduce available funds for further research and development; • Increasing the amount of interest that we must pay on debt with variable interest rates, if market rates of interest increase; • Subjecting us to restrictive covenants that reduce our ability to take certain corporate actions, acquire companies, products or technology, or obtain further debt financing; and • Requiring us to pledge our non-intellectual property assets as collateral, which could limit our ability to obtain additional debt financing. We intend to satisfy our debt service obligations with our existing cash and cash equivalents and any additional amounts we may raise through future debt and equity financings. Our ability to make payments due under the SVB Facility depends on our future performance, which is subject to economic, financial, competitive conditions and other factors beyond our control. We may not have sufficient funds or may be unable to arrange for additional financing to pay the amounts due under our existing debt. In addition, the Amended Loan and Security Agreement requires us to deposit unrestricted and unencumbered cash equal to 50% of the principal amount of the SVB Facility then outstanding and an amount equal to 5.75% of the original principal amount in a cash collateral account with SVB. As of December 31, 2022 we have $13.9 million in cash deposited in the cash collateral account pursuant to the terms of the Amended Loan and Security Agreement. Failure to pay any amount due under the SVB Facility, to comply with covenants under the Amended Loan and Security Agreement, or the occurrence of an event that would reasonably be expected to have a material adverse effect on our business, operations or condition (financial or otherwise), would result in an event of default. The occurrence and continuation of an event of default could cause interest to be charged at the 26 Table of Contents rate that is otherwise applicable plus 3.00% (unless SVB elects to impose a smaller increase) and would provide SVB with the right to accelerate all obligations under the SVB Facility and exercise remedies against us and the collateral securing the SVB Facility and other obligations under the Amended Loan and Security Agreement, including foreclosure against assets securing the SVB Facility. In addition, the covenants under the Amended Loan and Security Agreement and the pledge of substantially all of our assets, excluding our intellectual property (which is subject to a negative pledge under the Amended Loan and Security Agreement), as collateral on the loan may limit our ability to obtain additional debt financing. We have previously identified material weaknesses in our internal control, all of which have been remediated. We may identify additional material weaknesses in the future or otherwise fail to maintain an effective system of internal controls, which may result in material misstatements of our financial statements or could have a material adverse effect on our business and trading price of our securities. We are subject to the reporting requirements of the Securities Exchange Act of 1934, as amended, or the Exchange Act, the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, and the rules and regulations of the Nasdaq Global Select Market. Pursuant to Section 404 of the Sarbanes-Oxley Act, we are required to perform system and process evaluation and testing of our internal control over financial reporting to allow our management to report on the effectiveness of our internal control over financial reporting. We may also be required to have our independent registered public accounting firm issue an opinion on the effectiveness of our internal control over financial reporting on an annual basis. We have identified material weaknesses in our internal control over financial reporting in the past. A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of our financial statements will not be prevented or detected on a timely basis. Although the material weaknesses identified in the past have been remediated, we cannot assure you that any measures we have taken or may take in the future will be sufficient to avoid potential future material weaknesses. If we are unable to successfully remediate any future material weakness and maintain effective internal controls, we may not have adequate, accurate or timely financial information, and we may be unable to meet our reporting obligations as a public company, including the requirements of the Sarbanes-Oxley Act, we may be unable to accurately report our financial results in future periods, or report them within the timeframes required by the requirements of the SEC, Nasdaq or the Sarbanes-Oxley Act. Failure to comply with the Sarbanes-Oxley Act, when and as applicable, could also potentially subject us to sanctions or investigations by the SEC or other regulatory authorities. Any failure to maintain or implement required new or improved controls, or any difficulties we encounter in their implementation, could result in the identification of additional material weaknesses or significant deficiencies, cause us to fail to meet our reporting obligations or result in material misstatements in our financial statements. Furthermore, if we cannot provide reliable financial reports or prevent fraud, our business and results of operations could be harmed and investors could lose confidence in our reported financial information. Our plans to develop and commercialize non-viral adoptive TCR-T cell therapies can be considered a new approach to cancer treatment, the successful development of which is subject to significant challenges. We are employing technologies such as the technology licensed from MD Anderson pursuant to the MD Anderson License described above, from PGEN, pursuant to the License Agreement, and from the NCI, pursuant to the Patent License described above, to pursue the development and commercialization of non-viral cellular therapies based on T-cells and TCRs, targeting solid tumor malignancy. Because this is a new approach to cancer immunotherapy and cancer treatment generally, developing and commercializing product candidates subjects us to a number of challenges, includin • obtaining regulatory approval from the FDA and other regulatory authorities that have very limited experience with the commercial development of genetically modified T-cell therapies for cancer; • designing and conducting our clinical trials using this new approach or selecting the appropriate TCRs in a way that may lead to optimal results; • identifying and manufacturing appropriate TCRs from either a patient or third parties that can be administered to the patient; • developing and deploying consistent and reliable processes for engineering a patient’s and/or donor’s T cells ex vivo and infusing the T cells back into the patient; • conditioning patients with chemotherapy in conjunction with delivery of the potential products, which may increase the risk of adverse side effects of the chemotherapy itself or of the potential products; • educating medical personnel regarding the potential side effect profile of each of the potential products, such as the potential adverse side effects related to cytokine release; • addressing any competing technological and market developments; • developing processes for the safe administration of these potential products, including long-term follow-up for all patients who receive the potential products; 27 Table of Contents • sourcing additional clinical and, if approved, commercial supplies for the materials used to manufacture and process the potential products; • developing a manufacturing process with a cost of goods that allows for an attractive return on investment; • establishing sales and marketing capabilities after obtaining any regulatory approval to gain market acceptance; • developing therapies for types of cancers beyond those addressed by the current potential products; • maintaining and defending the intellectual property rights relating to any products we develop; and • not infringing the intellectual property rights, in particular, the patent rights, of third parties, including competitors, such as those developing T-cell therapies. We cannot assure you that we will be able to successfully address these challenges, which could prevent us from achieving our research, development and commercialization goals. Our current product candidates are based on novel technologies and are supported by limited clinical data and we cannot assure you that our current and planned clinical trials will produce data that supports regulatory approval of one or more of these product candidates. Our genetically modified TCR-T cell product candidates are supported by limited clinical data, some of which has been generated through trials conducted by MD Anderson and the NCI, rather than solely by us. We have assumed control of the overall clinical and regulatory development of our TCR-T cell product candidates, and any failure to obtain, or delays in obtaining, sponsorship of new INDs, or in filing INDs sponsored by us for these or any other product candidates we decide to advance could negatively affect the timing of our potential future clinical trials. Such an impact on timing could increase research and process development costs and could delay or prevent obtaining regulatory approval for our product candidates, either of which could have a material adverse effect on our business. We began enrolling patients in our TCR-T Library Phase 1/2 Trial in January 2022. Further, we did not control the design or conduct of all of the previous trials. It is possible that the FDA will not accept these previous trials as providing adequate support for future clinical trials, whether controlled by us or third parties, for any of one or more reasons, including the safety, purity and potency of the product candidate, the degree of product characterization, elements of the design or execution of the previous trials or safety concerns or other trial results. We may also be subject to liabilities arising from any treatment-related injuries or adverse effects in patients enrolled in these previous trials. As a result, we may be subject to unforeseen third-party claims and delays in our potential future clinical trials. We may also be required to repeat in whole or in part clinical trials previously conducted by MD Anderson or other entities, which will be expensive and delay the submission and licensure or other regulatory approvals with respect to any of our product candidates. Moreover, there are a number of regulatory requirements that we must continue to satisfy as we conduct our clinical trials of TCR-T cell product candidates in the United States. The criteria these regulators use to determine the safety and efficacy of a product candidate vary substantially according to the type, complexity, novelty and intended use and market of the potential products and change frequently. Satisfaction of these requirements will entail substantial time, effort and financial resources. To date, the FDA has approved only a few adoptive cell therapies for commercialization. Because adoptive cell therapies are relatively new and our product candidates employ novel gene expression and cell technologies, regulatory agencies may lack experience in evaluating product candidates like our Library TCR-T product candidates. This novelty may heighten regulatory scrutiny of our therapies or lengthen the regulatory review process, including the time it takes for the FDA to review our IND applications if and when submitted, increase our development costs and delay or prevent commercialization of our product candidates. These factors make it difficult to determine how long it will take or how much it will cost to obtain regulatory approvals for our product candidates. Any time, effort and financial resources we expend on our clinical product candidates and other early-stage product development programs that are ultimately not successful may adversely affect our business. We report interim data on certain of our clinical trials and we cannot assure you that interim data will be predictive of either future interim results or final study results. In addition, the results ultimately obtained from our preclinical studies or other earlier clinical trials for our product candidates may not be predictive of future results. As part of our business, we provide updates related to the development of our product candidates, which may include updates related to interim clinical trial data. We anticipate that our clinical trials will involve small patient populations and because of the small sample size, the interim results of these, and all, clinical trials may be subject to substantial variability and may not be indicative of either future interim results or final results. We commenced enrollment in our TCR-T Library Phase 1/2 Trial in January 2022 and announced early clinical data for the first patient in September 2022 and for the first two patients in November 2022. The first two patients enrolled in our TCR-T Library Phase 1/2 Trial have been removed from the trial due to subsequent disease progression. We do not know at this stage whether patient response data from additional patients in this trial will be favorable, and initial success in clinical trials may not be indicative of results obtained when such trials are completed. Our product candidates may fail to show the desired safety and efficacy in clinical development, and we cannot assure you that the results of any future trials will demonstrate the value and efficacy of our product candidates. Even if our clinical trials are completed as planned, we cannot be certain that their results will support approval of our product candidates. 28 Table of Contents There are no approved engineered TCR-T cell immunotherapies for solid tumors. We believe our product candidates may be effective against certain solid tumors and plan to develop product candidates for use in those certain solid tumors. We cannot guarantee that our product candidates will be able to access the solid tumor or show any functionality in the solid tumor microenvironment. The cellular environment in which solid tumor cells thrive is generally hostile to T cells due to factors such as the presence of immunosuppressive cells, humoral factors and limited access to nutrients. In addition, the safety profile of our product candidates may differ in a solid tumor setting. If we are unable to make our product candidates function in solid tumors, our development plans and business will be significantly harmed. Preliminary data also remain subject to audit and verification procedures that may result in the final data being materially different from the preliminary data we previously announced. Negative differences between preliminary or interim data and final data could materially adversely affect the prospects of any product candidate that is impacted by such data updates. In addition, the results of any preclinical studies for our product candidates may not be predictive of the results of clinical trials. For example, preclinical models as applied to cell therapy in oncology do not adequately represent the clinical setting, and thus cannot predict clinical activity nor all potential risks. We will need to recruit, hire and retain qualified personnel and we will continue to rely on key scientific and medical advisors, and their knowledge of our business and technical expertise would be difficult to replace. We may not be able to attract or retain qualified management and commercial, scientific, manufacturing and clinical personnel due to the intense competition for qualified personnel among biotechnology, pharmaceutical and other businesses. If we are not able to attract and retain necessary personnel to accomplish our business objectives, we may experience constraints that will significantly impede the achievement of our development objectives, our ability to raise additional capital and our ability to implement our business strategy. We are highly dependent on our principal scientific, regulatory and medical advisors. The loss of any of our key personnel could result in delays in product development, loss of key personnel or partnerships and diversion of management resources, which could adversely affect our operating results. We do not carry “key person” life insurance policies on any of our officers or key employees. We face substantial competition from other biopharmaceutical companies, which may result in others discovering, developing or commercializing products before, or more successfully than, we do. Our TCR-T cell therapies targeting solid tumors face significant competition from multiple companies, and their collaborators, in the TCR and CAR technology space. We face competition from several companies, including 2Seventy Bio, Achilles Therapeutics, Annoca, Adaptimmune Therapeutics, Affini-T Therapeutics, ArsenalBio, Athenex, BioNTech, Bristol-Myers Squibb, Immatics, Iovance Biotherapeutics, Kite (a Gilead company), Lion TCR, Lyell Immunopharma, Medigene, Neogene Therapeutics (a member of the AstraZeneca group), NexImmune, Nurix Therapeutics, PACT Pharma, Precigen, Tactiva Therapeutics, Takara Bio, TCR 2 Therapeutics, T-Cure BioScience, T-knife Therapeutics, Triumvira Immunologics, TScan Therapeutics, Turnstone Biologics, Zelluna Immunotherapy and others. Many of these companies are either investigating TCR-T cells against germline antigens or are utilizing tumor infiltrating lymphocytes. Some are pursuing CAR-T cells for solid tumors. In contrast, we are focused on developing TCR-T cell products against neoantigens arising from somatic mutations in solid tumors. Companies in the T-cell therapy segment that we believe to have target discovery platforms like ours include Adaptive Biotechnologies, Affini-T Therapeutics, Enara Bio, Immatics, Neogene Therapeutics (a member of the AstraZeneca group), PACT Pharma, T-knife Therapeutics, TScan Therapeutics and 3T Biosciences. Several companies, including Advaxis, Amgen, BioNTech, Geneos Therapeutics and Gritstone, are pursuing vaccine platforms to target neoantigens for solid tumors. Other companies are developing non-viral gene therapies, including Poseida Therapeutics and several companies developing CRISPR technology, including Captain T Cell and Crispr Therapeutics. Several companies are pursuing the development of allogeneic CAR-T therapies, including Allogene Therapeutics, Atara Biotherapeutics and Precision Biosciences, which may compete with our product candidates. We also face competition from companies developing therapies using cells other than T cells, such as Athenex, Fate Therapeutics, ImmunityBio, IN8bio, Nkarta Therapeutics and Takeda Pharmaceutical. Other competitors are developing T cells with cytokines, such as Fate Therapeutics and Obsidian Therapeutics. Finally, we also face competition from non-cellular treatments offered by other companies, such as Amgen, AstraZeneca, Bristol-Myers Squibb, Immatics, Immunocore, Incyte, Merck, Mirati and Roche. Additionally, our ability to find partnerships relating to our IL-12 and CAR-T programs may be impacted by substantial competition from these and other biopharmaceutical companies. Even if we obtain regulatory approval of potential TCR products, we may not be the first to market and that may affect the price or demand for our potential products. Existing or future competing products may provide greater therapeutic convenience or clinical or other benefits for a specific indication, or fewer side effects, than our potential products or may offer comparable performance at a lower cost. Additionally, the availability and price of our competitors’ products could limit the demand and the price we are able to charge for our potential products, thereby reducing or eliminating our commercial opportunity. We may not be able to implement our business plan if the acceptance of our potential products is inhibited by price competition or the reluctance of physicians to switch from existing methods of treatment to our potential products, or if physicians switch to other new drug or biologic products or choose to reserve our potential products. Additionally, a competitor could obtain orphan product exclusivity from the FDA with respect to such competitor’s product. If such competitor product is determined to be the same product as one of our potential products, that may prevent us from obtaining approval from the FDA for such potential products for 29 Table of Contents the same indication for seven years, except in limited circumstances. If our potential products fail to capture and maintain market share, we may not achieve sufficient product revenues and our business will suffer. We compete against fully integrated pharmaceutical companies and smaller companies that are collaborating with larger pharmaceutical companies, academic institutions, government agencies and other public and private research organizations. Many of these competitors have products already approved or in development. In addition, many of these competitors, either alone or together with their collaborative partners, operate larger research and development programs or have substantially greater financial resources than we do, as well as significantly greater experience in: • developing drugs and biopharmaceuticals; • undertaking preclinical testing and human clinical trials; • obtaining FDA and other regulatory approvals of drugs and biopharmaceuticals; • formulating and manufacturing drugs and biopharmaceuticals; and • launching, marketing and selling drugs and biopharmaceuticals. Our ability to compete may be affected in many cases by insurers or other third-party payors seeking to encourage the use of generic products. Any termination of our licenses with PGEN, MD Anderson or the National Cancer Institute or our research and development agreements with MD Anderson and the National Cancer Institute could result in the loss of significant rights and could harm our ability to develop and commercialize our product candidates. We are dependent on patents, know-how and proprietary technology that are licensed from others, particularly MD Anderson, PGEN and the NCI, as well as the contributions by MD Anderson under our research and development agreements. Any termination of these licenses or research and development agreements could result in the loss of significant rights and could harm our ability to commercialize our product candidates. Disputes may also arise between us and these licensors regarding intellectual property subject to a license agreement, including those relating t • the scope of rights granted under the applicable license agreement and other interpretation-related issues; • whether and the extent to which our technology and processes, and the technology and processes of PGEN, MD Anderson, the NCI and our other licensors, infringe intellectual property of the licensor that is not subject to the applicable license agreement; • our right to sublicense patent and other rights to third parties pursuant to our relationships with our licensors and partners; • whether we are complying with our diligence and payment obligations with respect to the use of the licensed technology in relation to our development and commercialization of our potential products under the MD Anderson License, the License Agreement with PGEN and the Patent License with the NCI; • whether or not our partners are complying with all of their obligations to support our programs under licenses and research and development agreements; and • the allocation of ownership of inventions and know-how resulting from the joint creation or use of intellectual property by our licensors and by us. If disputes over intellectual property that we have licensed prevent or impair our ability to maintain our current licensing arrangements, particularly with MD Anderson, PGEN and the NCI, on acceptable terms, we may be unable to successfully develop and commercialize the affected potential products. We are generally also subject to all of the same risks with respect to protection of intellectual property that we license as we are for intellectual property that we own. If we or our licensors fail to adequately protect this intellectual property, our ability to commercialize potential products under our applicable licenses could suffer. There is a substantial amount of litigation involving patents and other intellectual property rights in the biotechnology and pharmaceutical industries, as well as administrative proceedings for challenging patents, including interference, derivation and reexamination proceedings before the USPTO, or oppositions and other comparable proceedings in foreign jurisdictions. Recently, due to changes in U.S. law referred to as patent reform, new procedures including inter partes review and post-grant review have been implemented, which adds uncertainty to the possibility of challenge to our or our licensors’ patents in the future. We may not be able to retain the rights licensed to us and PGEN by MD Anderson or the rights licensed to us by the National Cancer Institute to technologies relating to TCR-T cell therapies and other related technologies. Under the MD Anderson License, we, together with PGEN, received an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR-T cell and TCR-T cell therapies as well as either co-exclusive or non-exclusive licenses under certain related technologies. These proprietary methods and technologies, along with others within PGEN’s technology suite and licensed to us by PGEN, may help realize the promise of genetically modified TCR-T cell therapies by controlling cell expansion and activation in the body, minimizing off-target and unwanted on-target effects and toxicity while maximizing therapeutic efficacy. 30 Table of Contents The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term, we and PGEN shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After 10 years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if we and PGEN are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if we and PGEN are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by us or PGEN, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both us or PGEN and may be terminated by the mutual written agreement of us, PGEN and MD Anderson. Under the Patent License, we received an exclusive, worldwide license to certain intellectual property and patents from NCI for TCRs we can introduce into T cells using transposon-based genetic engineering. These T cells may be used in our TCR-T Library Phase 1/2 Trial or in subsequent clinical trials, if initiated. The term of the Patent License shall expire with the last of the licensed patents. The NCI could terminate or modify the Patent License if it believes we have materially breached the Patent License, including by failing to meet the defined milestones by the required dates, and have not cured such breach within 90 days of receiving notice of such alleged breach. The NCI may also terminate the Patent License immediately upon our receipt of written notice of certain insolvency events. The Patent License is also subject to certain public use requirements wherein the NCI could require us to sublicense certain product candidates or terminate or modify the Patent License if we do not meet these public use requirements. The Patent License could also be terminated by the NCI if we are unable to pay the required benchmark payments or the annual minimum royalty payments. There can be no assurance that we will be able to successfully perform under the MD Anderson License or the Patent License and if the MD Anderson License or the Patent License is terminated it may prevent us from achieving our business objectives. We are partly reliant on the National Cancer Institute for research and development and early clinical testing of certain of our product candidates. A portion of our research and development is being conducted by the NCI under the CRADA entered into in January 2017 and which was amended in March 2018, February 2019, March 2022 and June 2022. Under the CRADA, the NCI, with Dr. Steven A. Rosenberg as the principal investigator, is responsible for conducting a clinical trial using the Sleeping Beauty system to express TCRs for the treatment of solid tumors. We have limited control over the nature or timing of the NCI’s clinical trial and limited visibility into their day-to-day activities, including with respect to how they are providing and administering T-cell therapy. For example, the research we are funding constitutes only a small portion of the NCI’s overall research. Additionally, other research being conducted by Dr. Rosenberg may at times receive higher priority than research on our program. The progress and timeline, including the timeline for dosing patients, for this trial are under the control of the NCI. The CRADA expired by its terms on January 9, 2022. In March 2022, we entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. In June 2022, we entered into the Fourth Amendment to the CRADA, or the CRADA Fourth Amendment, which, among other things, extended the term of the CRADA until January 9, 2025. In connection with the CRADA Fourth Amendment, we agreed to contribute $1.0 million per year, payable on a quarterly basis, beginning in the first quarter of 2023. We may not be able to commercialize any products, generate significant revenues, or attain profitability. To date, none of our product candidates have been approved for commercial sale in any country. The process to develop, obtain regulatory approval for and commercialize potential product candidates is long, complex and costly. Unless and until we receive approval from the FDA and/or other foreign regulatory authorities for our product candidates, we cannot sell our products and will not have product revenues. Even if we obtain regulatory approval for one or more of our product candidates, if we are unable to successfully commercialize our products, we may not be able to generate sufficient revenues to achieve or maintain profitability or to continue our business without raising significant additional capital, which may not be available. Our failure to achieve or maintain profitability could negatively impact the trading price of our common stock. Our operating history makes it difficult to evaluate our business and prospects. We have not previously completed any pivotal clinical trials, submitted a BLA or demonstrated an ability to perform the functions necessary for the successful commercialization of any product candidates. The successful commercialization of any product candidates will require us to perform a variety of functions, includin • Continuing to undertake preclinical development and clinical trials; • Participating in regulatory approval processes; 31 Table of Contents • Formulating and manufacturing products; and • Conducting sales and marketing activities. Our operations have been limited to organizing and staffing our company, acquiring, developing and securing our proprietary product candidates and undertaking preclinical and clinical trials of our product candidates. These operations provide a limited basis for you to assess our ability to commercialize our product candidates and the advisability of investing in our securities. We may not be successful in establishing development and commercialization collaborations, which failure could adversely affect, and potentially prohibit, our ability to develop our product candidates. Developing biopharmaceutical products and complementary technologies, conducting clinical trials, obtaining marketing approval, establishing manufacturing capabilities and marketing approved products is expensive, and therefore, we anticipate exploring collaborations with third parties that have alternative technologies, more resources and more experience than we do. In situations where we enter into a development and commercial collaboration arrangement for a product candidate or complementary technology, we may also seek to establish additional collaborations for development and commercialization in territories outside of those addressed by the first collaboration arrangement for such product candidate or technology. There are a limited number of potential partners, and we expect to face competition in seeking appropriate partners. If we are unable to enter into any development and commercial collaborations and/or sales and marketing arrangements on reasonable and acceptable terms, if at all, we may be unable to successfully develop and seek regulatory approval for our product candidates and/or effectively market and sell future approved products, if any, in some or all of the territories outside of the United States where it may otherwise be valuable to do so. We may not be able to successfully manage our growth as we expand our development and regulatory capabilities, which could disrupt our operations. As we advance our product candidates to the point of, and through, clinical trials, we will need to expand our development, regulatory, manufacturing, marketing and sales capabilities or contract with third parties to provide for these capabilities. Our future financial performance and our ability to commercialize our product candidates and to compete effectively will depend, in part, on our ability to manage any future growth effectively. To manage this growth, we must expand our facilities, augment our operational, financial and management systems and hire and train additional qualified personnel with expertise in preclinical and clinical research and testing, manufacturing, government regulation and eventually sales and marketing. Our business will subject us to the risk of liability claims associated with the use of hazardous materials and chemicals. Our contract research and development activities may involve the controlled use of hazardous materials and chemicals. Although we believe that our safety procedures for using, storing, handling and disposing of these materials comply with federal, state and local laws and regulations, we cannot completely eliminate the risk of accidental injury or contamination from these materials. In the event of such an accident, we could be held liable for any resulting damages, and any liability could have a materially adverse effect on our business, financial condition, and results of operations. In addition, the federal, state and local laws and regulations governing the use, manufacture, storage, handling and disposal of hazardous or radioactive materials and waste products may require our contractors to incur substantial compliance costs that could materially adversely affect our business, financial condition and results of operations. We may incur substantial liabilities and may be required to limit commercialization of our products in response to product liability lawsuits. The testing and marketing of medical products entail an inherent risk of product liability, and we will face an even greater risk if we commercially sell any medicines that we may develop. If we cannot successfully defend ourselves against product liability claims, we may incur substantial liabilities or be required to limit commercialization of our products, if approved. Even a successful defense would require significant financial and management resources. Regardless of the merit or eventual outcome, liability claims may result in: • Decreased demand for our product candidates; • Injury to our reputation; • Withdrawal of clinical trial participants; • Initiation of investigations by regulators; • Withdrawal of prior governmental approvals; • Costs of related litigation; • Substantial monetary awards to patients; • Product recalls; 32 Table of Contents • Loss of revenue; • The inability to commercialize our product candidates; and • A decline in our share price. Although we currently carry clinical trial insurance and product liability insurance which we believe to be reasonable, it may not be adequate to cover all liability that we may incur. An inability to renew our policies or to obtain sufficient insurance at an acceptable cost could prevent or inhibit the commercialization of pharmaceutical products that we develop, alone or with collaborators. Business disruptions could seriously harm our future revenue and financial condition and increase our costs and expenses. Our operations, and those of our clinical investigators, contractors and consultants, are based primarily in Houston, Texas. These operations could be subject to power shortages, telecommunications failures, water shortages, hurricanes, floods, earthquakes, fires, extreme weather conditions, medical epidemics and other natural or man-made disasters or business interruptions, for which we maintain customary insurance policies that we believe are appropriate. The occurrence of any of these business disruptions could seriously harm our operations and financial condition and increase our costs and expenses. Our ability to manufacture clinical supplies of our product candidates could be disrupted if our own operations or those of our suppliers are affected by a man-made or natural disaster or other business interruption. We may have limited recourse against third parties if the non-compliance is due to factors outside of the manufacturer’s control. We may be unable to find appropriate partners to continue the development of the product candidates we de-prioritized in 2021, which may prevent us from ever deriving meaningful revenue from them. In 2021, we elected to prioritize our Library TCR-T program and significantly reduced our activities in connection with our Controlled IL-12 and CAR-T programs to preserve our capital resources. The decision to significantly reduce activities for our Controlled IL-12 and CAR-T programs may negatively impact the potential for these programs, which could have a material adverse effect on our business. We are actively exploring partnership opportunities for our Controlled IL-12 and CAR-T programs to support their continued development. If we are unable to identify an appropriate strategic partner or to negotiate and consummate a license or sale agreement with such a partner, it will be difficult to advance the development of these two programs, increasing the likelihood that we may be unable to derive any meaningful revenue from these assets. We have also mutually agreed with TriArm Therapeutics Ltd., or TriArm, to dissolve the Eden BioCell joint venture. The joint venture agreement has been terminated and the Eden BioCell entity is in the process of being dissolved. Our business, operations and clinical development plans and timelines could be adversely affected by the effects of health epidemics, including the COVID-19 pandemic, on the manufacturing, clinical trial and other business activities performed by us or by third parties with whom we conduct business, including our contract manufacturers, CROs, shippers and others. Our business could be adversely affected by health epidemics wherever we have clinical trial sites or other business operations. In addition, health epidemics could cause significant disruption in our manufacturing operations or the operations of third-party manufacturers, CROs and other third parties upon whom we rely or may rely on in the future. We depend on a worldwide supply chain to manufacture products used in our preclinical studies and clinical trials. Quarantines, shelter-in-place and similar government orders, or the expectation that such orders, shutdowns or other restrictions could occur, whether related to COVID-19 or other infectious diseases, could impact personnel at our own manufacturing facilities or third-party manufacturing facilities in the United States and other countries, or the availability or cost of materials, which could disrupt our supply chain. If our relationships with our suppliers or other vendors are terminated or scaled back as a result of the COVID-19 pandemic or other health epidemics, we may not be able to enter into arrangements with alternative suppliers or vendors or do so on commercially reasonable terms or in a timely manner. Switching or adding additional suppliers or vendors involves substantial cost and requires management’s time and focus. In addition, there is a natural transition period when a new supplier or vendor commences work. As a result, delays may occur, which could adversely impact our ability to meet our desired clinical development and any future commercialization timelines. Although we carefully manage our relationships with our suppliers and vendors, there can be no assurance that we will not encounter challenges or delays in the future or that these delays or challenges will not harm our business. In addition, our preclinical studies and our ongoing TCR-T Library Phase 1/2 Trial at MD Anderson have been, and may continue to be, affected by the COVID-19 pandemic. Clinical site initiation, patient enrollment and activities that require visits to clinical sites, including data monitoring, have been, and may continue to be, delayed due to prioritization of hospital resources toward the COVID-19 pandemic or concerns among patients about participating in clinical trials during a pandemic. Some patients may have difficulty following certain aspects of clinical trial protocols if quarantines impede patient movement or interrupt healthcare services. Similarly, if we are unable to successfully recruit and retain patients, principal investigators, and site staff who, as healthcare providers, may have heightened exposure to COVID-19 or experience additional restrictions by their institutions, city, or state, our clinical trial operations could be adversely impacted. 33 Table of Contents RISKS RELATED TO THE CLINICAL TESTING, GOVERNMENT REGULATION AND MANUFACTURING OF OUR PRODUCT CANDIDATES If we encounter difficulties enrolling patients in our clinical trials, our clinical development activities could be delayed or otherwise adversely affected. We have experienced, and may continue to experience, difficulties in patient enrollment in our ongoing TCR-T Library Phase 1/2 Trial and any future clinical trials, for a variety of reasons, including impacts that have resulted or may result from the COVID-19 pandemic. The timely completion of clinical trials in accordance with their protocols depends on, among other things, our ability to enroll a sufficient number of patients who remain in the clinical trial until its conclusion. The enrollment of patients depends on many factors, includin • The patient eligibility criteria defined in the clinical trial protocol; • The size of the patient population required for analysis of the clinical trial’s primary endpoints; • The proximity of patients to clinical trial sites; • The number of clinical trial sites; • The design of the clinical trial; • Our ability to recruit and retain clinical trial investigators with the appropriate competencies and experience; • Our ability to obtain and maintain patient consents; • Reporting of the preliminary results of any of our clinical trials; • Patient insurance approvals of trial participation; and • The risk that patients enrolled in clinical trials will drop out of the clinical trials before the manufacturing and infusion of our product candidates or clinical trial completion. Our clinical trials will compete with other clinical trials for product candidates that are in the same therapeutic areas as our product candidates, and this competition will reduce the number and types of patients available to us because some of our potential patients may instead opt to enroll in a clinical trial being conducted by one of our competitors. In addition, patients may be unwilling to participate in our studies because of negative publicity from adverse events in the biotechnology industry or for other reasons. Since the number of qualified clinical investigators is limited, we expect to conduct some of our clinical trials at the same clinical trial sites that some of our competitors use, which will reduce the number of patients who are available for our clinical trials at such clinical trial sites. Moreover, because our product candidates represent a departure from more commonly used methods for cancer treatment, potential patients and their doctors may be inclined to use conventional therapies, such as chemotherapy and hematopoietic stem cell transplantation, rather than enroll patients in any future clinical trial. Additionally, because our clinical trial is in, and our future clinical trials may be in, patients with relapsed/refractory cancer, the patients are typically in the late stages of their disease and may experience disease progression independent from our product candidates, making them unevaluable for purposes of the clinical trial, which would require additional patient enrollment. Delays in completing patient enrollment may result in increased costs or may affect the timing or outcome of our ongoing and planned clinical trials, which could prevent completion or commencement of these clinical trials and adversely affect our ability to advance the development of our product candidates. Our product candidates are subject to extensive regulation and compliance, which is costly and time consuming, and such regulation may cause unanticipated delays or prevent the receipt of the required approvals to commercialize our product candidates. The clinical development, manufacturing, labeling, packaging, storage, record-keeping, advertising, promotion, import, export, marketing, distribution and adverse event reporting, including the submission of safety and other information, of our product candidates are subject to extensive regulation by the FDA in the United States and by comparable foreign regulatory authorities in foreign markets. The process of obtaining regulatory approval is expensive and often takes many years following the commencement of clinical trials. Approval policies or regulations may change, and the FDA has substantial discretion in the drug approval process, including the ability to delay, limit or deny approval of a product candidate for many reasons. Regulatory approval is never guaranteed. Prior to obtaining approval to commercialize a product candidate in the United States or abroad, we or our collaborators must demonstrate with substantial evidence from adequate and well-controlled clinical trials, and to the satisfaction of the FDA or comparable foreign regulatory authorities, that such product candidates are safe and effective, or with respect to a biological product candidate, safe, pure and potent, for their intended uses. The FDA or comparable foreign regulatory authorities can delay, limit or deny approval of a product candidate for many reasons, includin • Such authorities may disagree with the design or implementation of our or our current or future collaborators’ clinical trials; 34 Table of Contents • Negative or ambiguous results from our clinical trials or results may not meet the level of statistical significance required by the FDA or comparable foreign regulatory agencies for approval; • Serious and unexpected drug-related side effects may be experienced by participants in our clinical trials or by individuals using drugs or biologics similar to our therapeutic product candidates; • Such authorities may not accept clinical data from trials which are conducted at clinical facilities or in countries where the standard of care is potentially different from that of the United States; • We, or any of our current or future collaborators, may be unable to demonstrate that a product candidate is safe and effective, and that the therapeutic product candidate’s clinical and other benefits outweigh its safety risks; • We may be unable to demonstrate to the satisfaction of such authorities that our companion diagnostics are suitable to identify appropriate patient populations; • Such authorities may disagree with our interpretation of data from preclinical studies or clinical trials; • Such authorities may not agree that the data collected from clinical trials of our product candidates are acceptable or sufficient to support the submission of a BLA, NDA, premarket approval, or PMA, or other submission or to obtain regulatory approval in the United States or elsewhere, and such authorities may impose requirements for additional preclinical studies or clinical trials; • Such authorities may disagree regarding the formulation, labeling and/or the specifications of our product candidates; • Approval may be granted only for indications that are significantly more limited than what we apply for and/or with other significant restrictions on distribution and use; • Such authorities may find deficiencies in the manufacturing processes, test procedures and specifications or facilities of our third-party manufacturers with which we or any of our current or future collaborators contract for clinical and commercial supplies; • Regulations and approval policies of such authorities may significantly change in a manner rendering our or any of our potential future collaborators’ clinical data insufficient for approval; or • Such authorities may not accept a submission due to, among other reasons, the content or formatting of the submission. This lengthy approval process, as well as the unpredictability of the results of clinical trials, may result in our failing to obtain regulatory approval to market any of our product candidates, which would significantly harm our business, results of operations and prospects. In addition, even if we obtain regulatory approval of our product candidates, regulatory authorities may approve any of our product candidates for fewer or more limited indications than we request and may impose significant limitations in the form of narrow indications, warnings, or a Risk Evaluation and Mitigation Strategy, or REMS. Events raising questions about the safety of certain marketed biopharmaceuticals may result in increased cautiousness by the FDA and comparable foreign regulatory authorities in reviewing new drugs or biologics based on safety, efficacy or other regulatory considerations and may result in significant delays in obtaining regulatory approvals. Any delay in obtaining, or inability to obtain, applicable regulatory approvals would prevent us or any of our potential future collaborators from commercializing our product candidates. We are very early in our development efforts. Our most advanced product candidates are only in an early-stage clinical trial, which is very expensive and time-consuming. We cannot be certain when we will be able to submit a BLA to the FDA and any failure or delay in completing clinical trials for our product candidates could harm our business. Our product candidates are in various stages of development and require extensive clinical testing. Our most advanced product candidates are in our TCR-T Library Phase 1/2 Trial, which is currently enrolling and dosing patients. Human clinical trials are very expensive and difficult to design, initiate and implement, in part because they are subject to rigorous regulatory requirements. Notwithstanding our current clinical trial plans for each of our existing product candidates, which we estimate will take several years to complete, we may not be able to commence additional trials or see results from these trials within our anticipated timelines. Failure can occur at any stage of a clinical trial, and we can encounter problems that cause us to delay the start of, abandon or repeat clinical trials. Some factors which may lead to a delay in the commencement or completion of our clinical trials inclu requests for additional nonclinical data from regulators, unforeseen safety issues, dosing issues, lack of effectiveness during clinical trials, difficulty recruiting or monitoring patients, or difficulty manufacturing clinical products, among other factors. As they enter later stages of development, our product candidates generally will become subject to more stringent regulatory requirements, including the FDA’s requirements for chemistry, manufacturing and controls for product candidates entering Phase 3 clinical trials. There is no guarantee the FDA will allow us to commence Phase 3 clinical trials for product candidates studied in earlier clinical trials. If the FDA does not allow our product candidates to enter later stage clinical trials or requires changes to the formulation or manufacture of our product candidates before commencing Phase 3 clinical trials, our ability to further develop, or seek approval for, such product candidates may be materially impacted. As such, we cannot predict with any certainty if or when we might submit a BLA for regulatory approval of our 35 Table of Contents product candidates or whether such a BLA will be accepted. Because we do not anticipate generating revenues unless and until we submit one or more BLAs and thereafter obtain requisite FDA approvals, the timing of our BLA submissions and FDA determinations regarding approval thereof will directly affect if and when we are able to generate revenues. Our product candidates may cause undesirable side effects or have other properties that could delay or prevent their regulatory approval, limit the commercial profile of an approved label or result in significant negative consequences following any potential marketing approval. As with many pharmaceutical and biological products, treatment with our product candidates may produce undesirable side effects or adverse reactions or events, including potential adverse side effects related to cytokine release. If our product candidates or similar products or product candidates under development by third parties demonstrate unacceptable adverse events, we may be required to halt or delay further clinical development of our product candidates. The FDA or other foreign regulatory authorities could order us to cease further development of or deny approval of our product candidates for any or all targeted indications. If a serious adverse event were to occur in our TCR-T Library Phase 1/2 Trial, the FDA may place a hold on the clinical trial. The product-related side effects could affect patient recruitment or the ability of enrolled patients to complete the trial or result in potential product liability claims. In addition, these side effects may not be appropriately or timely recognized or managed by the treating medical staff, particularly outside of the institutions that collaborate with us, as toxicities resulting from our novel technologies may not be normally encountered in the general patient population and by medical personnel. We expect to have to train medical personnel using our product candidates to understand their side effect profiles, both for our planned clinical trials and upon any commercialization of any product candidates. Inadequate training in recognizing or managing the potential side effects of our product candidates could result in adverse effects to patients, including death. Additionally, if one or more of our product candidates receives marketing approval, and we or others later identify undesirable side effects caused by such products, including during any long-term follow-up observation period recommended or required for patients who receive treatment using our product candidates, a number of potentially significant negative consequences could result, includin • regulatory authorities may withdraw approvals of such product; • regulatory authorities may require additional warnings on the product’s label; • we may be required to create a risk evaluation and mitigation strategy plan, which could include a medication guide outlining the risks of such side effects for distribution to patients, a communication plan for healthcare providers and/or other elements to assure safe use; • we could be sued and held liable for harm caused to patients; and • our reputation may suffer. Any of the foregoing could prevent us from achieving or maintaining market acceptance of the particular product candidate, if approved. Furthermore, any of these occurrences may harm our business, financial condition and prospects significantly. Our cellular therapy immuno-oncology product candidates rely on the availability of reagents, specialized equipment and other specialty materials and infrastructure, which may not be available to us on acceptable terms or at all. For some of these reagents, equipment and materials, we rely or may rely on sole source vendors or a limited number of vendors, which could impair our ability to manufacture and supply our products. Manufacturing our product candidates requires many reagents, which are substances used in our manufacturing processes to bring about chemical or biological reactions, and other specialty materials and equipment, some of which are manufactured or supplied by small companies with limited resources and experience to support commercial biologics production. We currently depend on a limited number of vendors for certain materials and equipment used in the manufacture of our product candidates, including DNA plasmids, which are used as the vector to insert our TCRs into human T cells. Some of these suppliers may not have the capacity to support commercial products manufactured under current good manufacturing practices by biopharmaceutical firms or may otherwise be ill-equipped to support our needs. We also do not have supply contracts with some of these suppliers and may not be able to obtain supply contracts with them on acceptable terms or at all. Accordingly, we may experience delays in receiving key materials and equipment to support clinical or commercial manufacturing. For some of these reagents, equipment, infrastructure and materials, we rely and may in the future rely on sole source vendors or a limited number of vendors. An inability to continue to source product from any of these suppliers, or source product on commercially reasonable terms, which could be due to, among other things, regulatory actions or requirements affecting the supplier, adverse financial or other strategic developments experienced by a supplier, labor disputes or shortages, unexpected demands, supply chain issues or quality issues, could adversely affect our ability to satisfy demand for our product candidates, which could adversely and materially affect our ability to conduct clinical trials, which could significantly harm our business. In addition, some of the reagents and products used by us may be stored at a single vendor. The loss of materials located at a single vendor, or the failure of such a vendor to manufacture clinical product in accordance with our specifications, would impact our ability to conduct ongoing or planned clinical trials and continue the development of our products. Further, manufacturing replacement material may be expensive and require a significant amount of time, which may further impact our clinical programs. 36 Table of Contents As we continue to develop and scale our manufacturing process, we expect that we will need to obtain additional rights to and supplies of certain materials and equipment to be used as part of that process. We may not be able to maintain rights to such materials on commercially reasonable terms, or at all, and if we are unable to alter our process in a commercially viable manner to avoid the use of such materials or find a suitable substitute, it would have a material adverse effect on our business. Even if we are able to alter our process so as to use other materials or equipment, such a change may lead to a delay in our clinical development and/or commercialization plans. If such a change occurs for a product candidate that is already in clinical trials, the change may require us to perform both ex vivo comparability studies and to collect additional data from patients prior to undertaking more advanced clinical trials. Because we are dependent, at least in part, upon clinical research institutions and other CROs for clinical testing and/or for research and development activities, the results of our clinical trials and such research activities are, to a certain extent, beyond our control. We materially rely upon independent investigators and collaborators, such as universities and medical institutions, to conduct our clinical trials under agreements with us. In addition, we hire CROs to help us manage clinical trials, collect data and analyze clinical samples. These collaborators are not our employees, and we cannot control the amount or timing of resources that they devote to our programs. These investigators may not assign as great a priority to our programs or pursue them as diligently as we would if we were undertaking such programs ourselves. If outside collaborators fail to devote sufficient time and resources to our product development programs, or if their performance is substandard, the approval of our FDA applications, if any, and our introduction of new products, if any, will be delayed. These institutions may also have, or implement in the future, policies and procedures that limit their ability to advance our programs. These collaborators may also have relationships with other commercial entities, some of whom may compete with us. If our collaborators assist our competitors to our detriment, our competitive position would be harmed. We have limited experience producing and supplying our product candidates. We may be unable to consistently manufacture our product candidates to the necessary specifications or in quantities necessary to treat patients in our clinical trials. We have limited experience in biopharmaceutical manufacturing. In 2021, we began manufacturing our product candidates at our in-house current good manufacturing practices, or cGMP, manufacturing facility at our leased headquarters in Houston, Texas. Our ability to manufacture our product candidates depends on our finding and retaining personnel with the appropriate background and training to staff and operate the facility on a daily basis. Should we be unable to find or retain these individuals, we may need to train additional personnel to fill the needed roles or engage with external contractors. There are a small number of individuals with experience in cell therapy and the competition for these individuals is high. Specifically, the operation of a cell-therapy manufacturing facility is a complex endeavor requiring knowledgeable individuals who have successful previous experience in cleanroom environments. Cell therapy facilities, like other biological agent manufacturing facilities, require appropriate commissioning and validation activities to demonstrate that they operate as designed. Additionally, each manufacturing process must be proven through the performance of process validation runs to guarantee that the facility, personnel, equipment, and process work as designed. Although we have developed our own manufacturing processes using an in-house team, there is timing risk associated with increased in-house product manufacture. The manufacture of our product candidates is complex and requires significant expertise and capital investment, including the development of advanced manufacturing techniques and process controls. Manufacturers of cell therapy products often encounter difficulties in production, particularly in scaling out and validating initial production and ensuring the absence of contamination. These include difficulties with production costs and yields, quality control, including stability of the product, quality assurance testing, operator error, shortages of qualified personnel, as well as compliance with strictly enforced federal, state and foreign regulations. Furthermore, if contaminants are discovered in our supply of product candidates or in our manufacturing facilities, the manufacturing facilities may need to be closed for an extended period to investigate and remedy the contamination. It is possible that stability or other issues relating to the manufacture of our product candidates could occur in the future. We recently amended our clinical trial IND to use cryopreservation-based storage of clinical products. This process is new and we may experience manufacturing failures or difficulties producing sufficient quantities of our clinical products as a result of this change. Our product candidates currently are, and will continue to be, manufactured on a patient-by-patient basis. Delays in manufacturing could adversely impact the treatment of each patient and may discourage participation in our current or future clinical trials. We have not yet manufactured our clinical trial product candidates on a large scale and may not be able to achieve large scale clinical trial or commercial manufacturing and processing on our own to satisfy expected clinical trial or commercial demands for any of our product candidates. While we believe that our current manufacturing and processing approaches are appropriate to support our early-stage clinical product development, we have limited experience in managing the T cell engineering process, and our processes may be more difficult or more expensive than anticipated. The manufacturing processes employed by us may not result in product candidates that will be safe and effective. If we are unable to manufacture sufficient number of TCR-T cells for our product candidates, our development efforts would be delayed, which would adversely affect our business and prospects. Our manufacturing operations are subject to review and oversight by the FDA. We are subject to ongoing periodic unannounced inspection by the FDA, the Drug Enforcement Administration and corresponding state agencies to ensure strict compliance with cGMP and other government regulations. Our license to manufacture product candidates is subject to continued regulatory review. 37 Table of Contents We do not yet have sufficient information to reliably estimate the cost of commercial manufacturing and processing of our product candidates. The actual cost to manufacture and process our product candidates at commercial scale could materially and adversely affect the commercial viability of our product candidates. As a result, we may never be able to develop a commercially viable product. We also may fail to manage the logistics of collecting and shipping patient material to our manufacturing site and shipping the product candidate back to the patient. Logistical and shipment delays and problems, whether or not caused by us or our vendors, could prevent or delay the delivery of product candidates to patients. We may have difficulty validating our manufacturing process as we manufacture our product candidates from an increasingly diverse patient population for our clinical trials. During our development of the manufacturing process, our TCR-T cell product candidates have demonstrated consistency from lot to lot and from donor to donor. However, our sample size is small and the starting material used during our preclinical development work came from healthy donors. As we work with white blood cells taken from our patient population, we may encounter unforeseen difficulties due to starting with material from donors who are not healthy, including challenges inherent in harvesting white blood cells from unhealthy patients. Although we believe our current manufacturing process is scalable for our clinical development and commercialization, if any of our product candidates are approved or commercialized, we may encounter challenges in validating our process due to the heterogeneity of the product starting material. However, we anticipate that during the early phases of our clinical trials we will be able to adapt our process to account for these differences, resulting in a more robust process. We cannot guarantee that any other issues relating to the heterogeneity of the starting material will not impact our ability to commercially manufacturing our product candidates. The gene transfer vectors from our Sleeping Beauty system used to manufacture our product candidates may incorrectly modify the genetic material of a patient’s T cells, potentially triggering the development of a new cancer or other adverse events. Our TCR-T cells are manufactured using our Sleeping Beauty system, a non-viral vector to insert genetic information encoding the TCR construct into the patient’s T cells. The TCR construct is then primarily integrated at thymine-adenine, or TA, dinucleotide sites throughout the patient’s genome and, once expressed as protein, is transported to the surface of the patient’s T cells. Because the gene transfer vector modifies the genetic information of the T cell, there is a theoretical risk that modification will occur in the wrong place in the T cell’s genetic code, leading to vector-related insertional oncogenesis, and causing the T cell to become cancerous. If the cancerous T cell is then administered to the patient, the cancerous T cell could trigger the development of a new cancer in the patient. We use non-viral vectors to insert genetic information into T cells, which we believe have a lower risk of insertional oncogenesis as opposed to viral vectors. However, the risk of insertional oncogenesis remains a concern for gene therapy, and we cannot assure you that it will not occur in any of our ongoing or planned clinical trials. There is also the potential risk of delayed adverse events following exposure to gene therapy products due to persistent biological activity of the genetic material or other components of the vectors used to carry the genetic material. Although we use non-viral vectors, the FDA has stated that lentiviral vectors possess characteristics that may pose high risks of delayed adverse events. If any such adverse events occur from our non-viral vector, further advancement of our preclinical studies or clinical trials could be halted or delayed, which would have a material adverse effect on our business and operations. Any product candidate for which we obtain marketing approval could be subject to post-marketing restrictions or withdrawal from the market and we may be subject to penalties if we fail to comply with regulatory requirements or if we experience unanticipated problems with our products, when and if any of them are approved. Any product candidate for which we obtain marketing approval, along with the manufacturing processes, post-approval clinical data, labeling, advertising and promotional activities for such product, will be subject to continual requirements of and review by the FDA and other regulatory authorities. These requirements include, among other things, submissions of safety and other post-marketing information and reports, registration and listing requirements, cGMP requirements relating to manufacturing, quality control, quality assurance and corresponding maintenance of records and documents, requirements regarding the distribution of samples to physicians and recordkeeping. Even if marketing approval of a product candidate is granted, the approval may be subject to limitations on the indicated uses for which the product may be marketed or to the conditions of approval, including the requirement to implement a REMS, which could include requirements for a restricted distribution system. If any of our product candidates receives marketing approval, the accompanying label may limit the approved uses, which could limit sales of the product. The FDA may also impose requirements for costly post-marketing studies or clinical trials and surveillance to monitor the safety or efficacy of our approved products. The FDA closely regulates the post-approval marketing and promotion of products to ensure that they are marketed only for the approved indications and in accordance with the provisions of the approved labeling. However, companies may share truthful and not misleading information that is otherwise consistent with the labeling. The FDA imposes stringent restrictions on manufacturers’ communications regarding off-label use and if we market our products outside of their approved indications, we may be subject to enforcement action for off-label marketing. Violations of the Federal Food, Drug and Cosmetic Act relating to the promotion of prescription drugs may lead to investigations alleging violations of federal and state health care fraud and abuse laws, as well as state consumer protection laws. 38 Table of Contents In addition, later discovery of previously unknown adverse events or other problems with our product candidates, manufacturers or manufacturing processes, or failure to comply with regulatory requirements, may yield various results, includin • Litigation involving patients taking our product; • Restrictions on such products, manufacturers or manufacturing processes; • Restrictions on the labeling or marketing of a product; • Restrictions on product distribution or use; • Requirements to conduct post-marketing studies or clinical trials; • Warning letters; • Withdrawal of the products from the market; • Refusal to approve pending applications or supplements to approved applications that we submit; • Recall of products; • Fines, restitution or disgorgement of profits or revenues; • Suspension or withdrawal of marketing approvals; • Damage to relationships with existing and potential collaborators; • Unfavorable press coverage and damage to our reputation; • Refusal to permit the import or export of our products; • Product seizure; and • Injunctions or the imposition of civil or criminal penalties. Noncompliance with requirements regarding safety monitoring or pharmacovigilance can also result in significant financial penalties. Similarly, failure to comply with U.S. and foreign regulatory requirements regarding the development of products for pediatric populations and the protection of personal health information can also lead to significant penalties and sanctions. RISKS RELATED TO OUR ABILITY TO COMMERCIALIZE OUR PRODUCT CANDIDATES If we are unable to obtain the necessary U.S. or worldwide regulatory approvals to commercialize any product candidate, our business will suffer. We may not be able to obtain the approvals necessary to commercialize our product candidates, or any product candidate that we may acquire or develop in the future for commercial sale. We will need FDA approval to commercialize our product candidates in the United States and approvals from regulatory authorities in foreign jurisdictions equivalent to the FDA to commercialize our product candidates in those jurisdictions. In order to obtain FDA approval of any product candidate, we must submit to the FDA a BLA demonstrating that the product candidate is safe for humans and effective for its intended use. This demonstration requires significant research and animal tests, which are referred to as preclinical studies, as well as human tests, which are referred to as clinical trials. Satisfaction of the FDA’s regulatory requirements typically takes many years, depending upon the type, complexity and novelty of the product candidate, and will require substantial resources for research, development and testing. We cannot predict whether our research, development and clinical approaches will result in products that the FDA will consider safe for humans and effective for their intended uses. The FDA has substantial discretion in the approval process and may require us to conduct additional preclinical studies and clinical trials or to perform post-marketing studies. The approval process may also be delayed by changes in government regulation, future legislation or administrative action or changes in FDA policy that occur prior to or during our regulatory review. Delays in obtaining regulatory approvals may: • Delay commercialization of, and our ability to derive product revenues from, our product candidates; • Impose costly procedures on us; and • Diminish any competitive advantages that we may otherwise enjoy. Even if we comply with all FDA requests, the FDA may ultimately reject one or more of our BLAs. We cannot be sure that we will ever obtain regulatory approval for any of our product candidates. Failure to obtain FDA approval for our product candidates will severely undermine our business by leaving us without a marketable product, and therefore without any potential revenue source, until another product candidate can be developed. There is no guarantee that we will ever be able to develop or acquire another product candidate or that we will obtain FDA approval if we are able to do so. 39 Table of Contents In foreign jurisdictions, we similarly must receive approval from applicable regulatory authorities before we can commercialize any of our product candidates. Foreign regulatory approval processes generally include all of the risks associated with the FDA approval procedures described above. If we are unable either to create sales, marketing and distribution capabilities or enter into agreements with third parties to perform these functions, we will be unable to commercialize our product candidates successfully. We currently have no marketing, sales or distribution capabilities. If and when we become reasonably certain that we will be able to commercialize our current or future product candidates, we anticipate allocating resources to the marketing, sales and distribution of our proposed products in North America and in certain other geographies; however, we cannot assure that we will be able to market, sell, and distribute our products successfully. Our future success also may depend, in part, on our ability to enter into and maintain collaborative relationships for such capabilities and to encourage the collaborator’s strategic interest in the product candidates under development, and such collaborator’s ability to successfully market and sell any such products. Although we intend to pursue certain collaborative arrangements regarding the sale and marketing of certain of our product candidates, there are no assurances that we will be able to establish or maintain collaborative arrangements or, if we are able to do so, whether we would be able to conduct our own sales efforts. There can also be no assurance that we will be able to establish or maintain relationships with third-party collaborators or develop in-house sales and distribution capabilities. To the extent that we depend on third parties for marketing and distribution, any revenues we receive will depend upon the efforts of such third parties, and there can be no assurance that such efforts will be successful. In addition, there can also be no assurance that we will be able to market and sell our product candidates in the United States or overseas. If we are not able to partner with a third party and are not successful in recruiting sales and marketing personnel or in building a sales and marketing infrastructure, we will have difficulty commercializing our product candidates, which would harm our business. If we rely on pharmaceutical or biotechnology companies with established distribution systems to market our products, we will need to establish and maintain partnership arrangements, and we may not be able to enter into these arrangements on acceptable terms or at all. To the extent that we enter into co-promotion or other arrangements, any revenues we receive will depend upon the efforts of third parties that may not be successful and that will be only partially in our control. If physicians and patients do not accept and use our product candidates, once approved, our ability to generate revenue from sales of our products will be materially impaired. Even if the FDA and/or foreign equivalents thereof approve our product candidates, physicians and patients may not accept and use them. The use of engineered T cells as potential cancer treatments is a relatively recent development and may not become broadly accepted by physicians, patients, hospitals, cancer treatment centers, third-party payors and others in the medical community. Acceptance and use of our products will depend upon a number of factors, includin • The clinical indications for which our product candidates are approved; • Perceptions by members of the healthcare community, including physicians, about the safety and effectiveness of our products; • The prevalence and severity of any side effects; • Pharmacological benefit and cost-effectiveness of our products relative to competing products; • Relative convenience and ease of administration, including as compared to alternative treatments and competitive therapies; • Availability of coverage and adequate reimbursement for our products from government or other third-party payors; • Effectiveness of marketing and distribution efforts by us and our licensees and distributors, if any; and • The price at which we sell our products. Because we expect sales of our current product candidates, if approved, to generate substantially all of our product revenues for the foreseeable future, the failure of a product to find market acceptance would harm our business and could require us to seek additional financing in order to fund the development of future product candidates. Even if our products achieve market acceptance, we may not be able to maintain that market acceptance over time if new products or technologies are introduced that are more favorably received than our products, are more cost effective or render our products obsolete. Our ability to generate product revenues will be diminished if our products do not obtain coverage and adequate reimbursement from payors. Our ability to commercialize our product candidates, if approved, alone or with collaborators, will depend in part on the extent to which coverage and reimbursement will be available from third-party payors, including government and health administration authorities, private health maintenance organizations and health insurers and other payors. Patients who are prescribed medicine for the treatment of their conditions generally rely on third-party payors to reimburse all or part of the costs associated with their prescription drugs. Sufficient coverage and adequate reimbursement from third-party payors are critical to new product acceptance. Coverage decisions may depend upon clinical and 40 Table of Contents economic standards that disfavor new drug products when more established or lower cost therapeutic alternatives are already available or subsequently become available. It is difficult to predict the coverage and reimbursement decisions that will be made by third-party payors for novel gene and cell therapy products such as ours. Even if we obtain coverage for our product candidates, the resulting reimbursement payment rates might not be adequate or may require co-payments that patients find unacceptably high. Patients are unlikely to use our product candidates unless coverage is provided, and reimbursement is adequate to cover a significant portion of the cost of our product candidates. In addition, the market for our product candidates for which we may receive regulatory approval will depend significantly on access to third-party payors’ drug formularies or lists of medications for which third-party payors provide coverage and reimbursement, which might not include all of the FDA-approved drugs for a particular indication. The industry competition to be included in such formularies often leads to downward pricing pressures on pharmaceutical companies. Also, third-party payors may refuse to include a particular branded drug in their formularies or otherwise restrict patient access to a branded drug when a less costly generic equivalent or other alternative is available. Third-party payors, whether foreign or domestic, or governmental or commercial, are developing increasingly sophisticated methods of controlling healthcare costs. In addition, in the United States, no uniform policy of coverage and reimbursement for drug products exists among third-party payors. Therefore, coverage and reimbursement for drug products can differ significantly from payor to payor. As a result, the coverage determination process is often a time-consuming and costly process that would require us to provide scientific and clinical support for the use of our products to each payor separately, with no assurance that approval will be obtained. If we are unable to obtain coverage of and adequate payment levels for our product candidates, if approved, from third-party payors, physicians may limit how much or under what circumstances they will prescribe or administer our products and patients may decline to purchase them. This in turn could affect our ability to successfully commercialize our products and impact our profitability, results of operations, financial condition and future success. In addition, in many foreign countries, particularly the countries of the EU, the pricing of prescription drugs is subject to government control. In some non-U.S. jurisdictions, the proposed pricing for a drug must be approved before it may be lawfully marketed. The requirements governing drug pricing vary widely from country to country. For example, the EU provides options for its member states to restrict the range of medicinal products for which their national health insurance systems provide reimbursement and to control the prices of medicinal products for human use. A member state may approve a specific price for the medicinal product or it may instead adopt a system of direct or indirect controls on the profitability of the company placing the medicinal product on the market. We may face competition for our product candidates from lower-priced products in foreign countries that have placed price controls on pharmaceutical products. In addition, there may be importation of foreign products that compete with our own products, which could negatively impact our profitability. The market opportunities for our product candidates may be limited to those patients who are ineligible for or have failed prior treatments and may be small. Cancer therapies are sometimes characterized as first line, second line or third line, and the FDA often approves new therapies initially only for third line use. When cancer is detected early enough, first line therapy is sometimes adequate to cure the cancer or prolong life without a cure. Whenever first line therapy, usually chemotherapy, hormone therapy, surgery, or a combination of these, proves unsuccessful, second line therapy may be administered. Second line therapies often consist of more chemotherapy, radiation, antibody drugs, tumor targeted small molecules, or a combination of these. Third line therapies can include bone marrow transplantation, antibody and small molecule targeted therapies, more invasive forms of surgery and new technologies. We expect to initially seek approval of our product candidates as a third line therapy for patients who have failed other approved treatments. Subsequently, for those product candidates that prove to be sufficiently beneficial, if any, we would expect to seek approval as a second line therapy and potentially as a first line therapy, but there is no guarantee that our product candidates, even if approved, would be approved for second line or first line therapy. In addition, we may have to conduct additional clinical trials prior to gaining approval for second line or first line therapy. Our projections of both the number of people who have the cancers we are targeting, as well as the subset of people with these cancers in a position to receive therapy and who have the potential to benefit from treatment with our product candidates, are based on our beliefs and estimates. These estimates have been derived from a variety of sources, including scientific literature, surveys of clinics, patient foundations or market research and may prove to be incorrect. Further, new studies may change the estimated incidence or prevalence of these cancers. The number of patients may turn out to be lower than expected. Additionally, the potentially addressable patient population for our product candidates may be limited or may not be amenable to treatment with our product candidates. Our market opportunities may also be limited by competitor treatments that may enter the market. Healthcare legislative reform measures may have a material adverse effect on our business and results of operations. In both the United States and certain foreign jurisdictions, there have been a number of legislative and regulatory enactments in recent years that change the healthcare system in ways that could impact our future ability to sell our product candidates profitably. Furthermore, there have been and continue to be a number of initiatives at the federal and state level that seek to reduce healthcare costs. Most significantly, in March 2010, President Obama signed into law the ACA, which included measures that have significantly changed the way healthcare is financed by both governmental and private insurers. The ACA, among other things, imposed a new methodology by which rebates owed by manufacturers under the Medicaid Drug Rebate Program are calculated for drugs that are inhaled, infused, instilled, implanted or 41 Table of Contents injected, increased the minimum Medicaid rebates owed by manufacturers under the Medicaid Drug Rebate Program, extended the rebate program to individuals enrolled in Medicaid managed care organizations, added a provision to increase the Medicaid rebate for line extensions or reformulated drugs, established annual fees on manufacturers and importers of certain branded prescription drugs and biologic agents, promoted a new Medicare Part D coverage gap discount program, expanded the entities eligible for discounts under the Public Health Service Act pharmaceutical pricing program and imposed a number of substantial new compliance provisions related to pharmaceutical companies’ interactions with healthcare practitioners. The ACA also expanded eligibility for Medicaid programs and introduced a new Patient Centered Outcomes Research Institute to oversee, identify priorities in and conduct comparative clinical effectiveness research, along with funding for such research and a new Center for Medicare & Medicaid Innovation at CMS, to test innovative payment and service delivery models to lower Medicare and Medicaid spending. There have been executive, legal and political challenges to certain aspects of the ACA. For example, President Trump signed several executive orders and other directives designed to delay, circumvent or loosen certain requirements mandated by the ACA. Concurrently, Congress considered legislation to repeal or repeal and replace all or part of the ACA. While Congress has not passed comprehensive repeal legislation, several bills affecting the implementation of certain taxes under the ACA have been signed into law. In December 2017, Congress repealed the tax penalty, effective January 1, 2019, for an individual’s failure to maintain ACA-mandated health insurance as part of the Tax Act. Further, President Biden issued an executive order that instructed certain governmental agencies to review and reconsider their existing policies and rules that limit access to healthcare, including among others, reexamining Medicaid demonstration projects and waiver programs that include work requirements, and policies that create unnecessary barriers to obtaining access to health insurance coverage through Medicaid or the ACA. Further, there have been a number of health reform initiatives by the Biden administration that have impacted the ACA. For example, on August 16, 2022, President Biden signed the IRA into law, which, among other things, extends enhanced subsidies for individuals purchasing health insurance coverage in ACA marketplaces through plan year 2025. The IRA also eliminates the "donut hole" under the Medicare Part D program beginning in 2025 by significantly lowering the beneficiary maximum out-of-pocket cost and implementing a newly established manufacturer discount program. It is possible that the ACA will be subject to judicial or Congressional challenges in the future. It is unclear how any such challenges and the healthcare reform measures of the Biden administration will impact ACA and our business. The ultimate content, timing or effect of any healthcare reform measures on the U.S. healthcare industry is unclear. Further, there has been increasing legislative and enforcement interest in the United States with respect to specialty drug pricing practices. As a result, there have been several U.S. Congressional inquiries and proposed and enacted federal and state legislation designed to, among other things, bring more transparency to drug pricing, review the relationship between pricing and manufacturer patient programs and reform government program reimbursement methodologies for drugs. At the federal level, the Trump administration used several means to propose or implement drug pricing reform, including through federal budget proposals, executive orders and policy initiatives. For example, on July 24, 2020 and September 13, 2020, the Trump administration announced several executive orders related to prescription drug pricing that attempt to implement several of the administration’s proposals. The FDA also released a final rule, effective November 30, 2020, implementing a portion of the importation executive order providing guidance for states to build and submit importation plans for drugs from Canada. Further, on November 30, 2020, HHS finalized a regulation removing safe harbor protection for price reductions from pharmaceutical manufacturers to plan sponsors under Medicare Part D, either directly or through pharmacy benefit managers, unless the price reduction is required by law. The IRA delayed the implementation of the rule to January 1, 2032. The rule also creates a new safe harbor for price reductions reflected at the point-of-sale, as well as a new safe harbor for certain fixed fee arrangements between pharmacy benefit managers and manufacturers, the implementation of which have also been delayed until January 1, 2032. In addition, on March 11, 2021, President Biden signed the American Rescue Plan Act of 2021 into law, which eliminates the statutory Medicaid drug rebate price cap, currently set at 100% of a drug's average manufacturer price for single source and innovator multiple source products, beginning on January 1, 2024. Further, in July 2021, the Biden Administration released an executive order that included multiple provisions aimed at prescription drugs. In response to Biden's executive order, on September 9, 2021, HHS released a Comprehensive Plan for Addressing High Drug Prices that outlines principles for drug price reform. The plan sets out a variety of potential legislative policies that Congress could pursue as well as potential administrative actions by HHS. No legislative or administrative actions have been finalized to implement these principles. In addition, Congress is considering drug pricing as part of the budget reconciliation process. Additionally, the IRA, among other things, (i) directs HHS to negotiate the price of certain high-expenditure, single-source drugs and biologics covered under Medicare, and subject drug manufacturers to civil monetary penalties and a potential excise tax by offering a price that is not equal to or less than the negotiated “maximum fair price” under the law, and (ii) imposes rebates under Medicare Part B and Medicare Part D to penalize price increases that outpace inflation. The IRA permits HHS to implement many of these provisions through guidance, as opposed to regulation, for the initial years. These provisions will take effect progressively starting in fiscal year 2023, although they may be subject to legal challenges. It is currently unclear how the IRA will be effectuated but is likely to have a significant impact on the pharmaceutical industry. Individual states in the United States also have increasingly passed legislation and implemented regulations designed to control pharmaceutical product pricing, including price or patient reimbursement constraints, discounts, restrictions on certain product access and marketing cost disclosure and transparency measures, and, in some cases, designed to encourage importation from other countries and bulk purchasing. We expect that healthcare reform measures that may be adopted in the future may result in more rigorous coverage criteria and in additional downward pressure on the price that we may receive for any approved product. Any reduction in reimbursement from Medicare or other government programs may result in a similar reduction in payments from private payors. The implementation of cost containment measures or 42 Table of Contents other healthcare reforms may prevent us from being able to generate revenue, attain profitability or, if we receive regulatory approval, commercialize our products. If we fail to comply with federal and state healthcare laws, including fraud and abuse and health information privacy and security laws, we could face substantial penalties and our business, results of operations, financial condition and prospects could be adversely affected. As a pharmaceutical company, even though we do not and will not control referrals of healthcare services or bill directly to Medicare, Medicaid or other third-party payors, certain federal and state healthcare laws and regulations pertaining to fraud and abuse and patients’ rights are and will be applicable to our business. For example, we could be subject to healthcare fraud and abuse and patient privacy regulation by both the federal government and the states in which we conduct our business. The laws that may affect our ability to operate include, among othe • The federal Anti-Kickback Statute, which regulates our business activities, including our clinical research and relationships with healthcare providers or other entities as well as our future marketing practices, educational programs and pricing policies, and by prohibiting, among other things, soliciting, receiving, offering or paying remuneration, directly or indirectly, to induce, or in return for, either the referral of an individual or the purchase or recommendation of an item or service reimbursable under a federal healthcare program, such as the Medicare and Medicaid programs; • Federal civil and criminal false claims laws, including the False Claims Act, which permits a private individual acting as a “whistleblower” to bring actions on behalf of the federal government alleging violations of the False Claims Act, and civil monetary penalty laws, which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid or other third-party payors that are false or fraudulent; • HIPAA, which created new federal civil and criminal statutes that prohibit, among other things, executing a scheme to defraud any healthcare benefit program or making false statements relating to healthcare matters; • HITECH, and its implementing regulations, which impose certain requirements relating to the privacy, security and transmission of individually identifiable health information on entities and individuals subject to the law including certain healthcare providers, health plans, and healthcare clearinghouses, known as covered entities, as well as individuals and entities that perform services for them which involve the use, or disclosure of, individually identifiable health information, known as business associates and their subcontractors that use, disclose or otherwise process individually identifiable health information; • Requirements under the Physician Payments Sunshine Act to report annually to CMS certain financial arrangements with prescribers and teaching hospitals, as defined in the ACA and its implementing regulations, including reporting any “transfer of value” made or distributed to teaching hospitals, and physicians, as defined by such law and reporting any ownership and investment interests held by physicians and their immediate family members during the preceding calendar year; and • State and foreign law equivalents of each of the above federal laws, such as anti-kickback and false claims laws which may apply to items or services reimbursed by any third-party payor, including commercial insurers; state laws that require pharmaceutical companies to comply with the industry’s voluntary compliance guidelines and the applicable compliance guidance promulgated by the federal government that otherwise restricts certain payments that may be made to healthcare providers and entities; state laws that require drug manufacturers to report information related to payments and other transfer of value to physicians and other healthcare providers and entities; state laws that require the reporting of information related to drug pricing; state and local laws that require the registration of pharmaceutical sales representatives; and state and foreign laws governing the privacy and security of health information in certain circumstances, many of which differ from each other in significant ways and often are not preempted by HIPAA, thus complicating compliance efforts. Because of the breadth of these laws and the narrowness of the statutory exceptions and safe harbors available, it is possible that some of our business activities, including any consulting agreements with physicians who may receive stock or stock options as compensation for their services, could be subject to challenge under one or more of such laws. In addition, recent health care reform legislation has further strengthened these laws. For example, the ACA, among other things, amended the intent requirement of the federal Anti-Kickback Statute and certain criminal healthcare fraud statutes. A person or entity no longer needs to have actual knowledge of this statute or specific intent to violate it. Moreover, the ACA provides that the government may assert that a claim including items or services resulting from a violation of the federal Anti-Kickback Statute constitutes a false or fraudulent claim for purposes of the False Claims Act. To the extent that any of our product candidates is ultimately sold in a foreign country, we may be subject to similar foreign laws and regulations. Efforts to ensure that our business arrangements comply with applicable healthcare laws involve substantial costs. It is possible that governmental and enforcement authorities will conclude that our business practices do not comply with current or future statutes, regulations or case law interpreting applicable fraud and abuse or other healthcare laws and regulations. If any such actions are instituted against us, and we are not successful in defending ourselves or asserting our rights, we may be subject to significant penalties, including administrative, civil and criminal penalties, damages, fines, exclusion from participation in United States federal or state health care programs, such as Medicare and Medicaid, disgorgement, imprisonment, integrity oversight and reporting obligations, and the curtailment or restructuring of our operations, any of which could materially adversely affect our ability to operate our business and our financial results. Although compliance programs can 43 Table of Contents mitigate the risk of investigation and prosecution for violations of these laws, the risks cannot be entirely eliminated. Any action against us for violation of these laws, even if we successfully defend against it, could cause us to incur significant legal expenses and divert our management’s attention from the operation of our business. Moreover, achieving and sustaining compliance with applicable federal and state privacy, security and fraud laws may prove costly. Our immuno-oncology product candidates may face competition in the future from biosimilars and/or new technologies. The Biologics Price Competition and Innovation Act of 2009, or BPCIA, provides an abbreviated pathway for the approval of follow-on biological products. Under the BPCIA, an application for a biosimilar product cannot be approved by the FDA until 12 years after the original branded product was approved under a BLA. However, there is a risk that the U.S. Congress could amend the BPCIA to significantly shorten this exclusivity period, potentially creating the opportunity for generic competition sooner than anticipated. Further, this data exclusivity does not prevent another company from developing a product that is highly similar to the original branded product, generating its own data and seeking approval. Data exclusivity only assures that another company cannot rely upon the data within the innovator’s application to support the biosimilar product’s approval. We rely significantly on information technology and any failure, inadequacy, interruption or security lapse of that technology or loss of data, including any cyber security incidents, could compromise sensitive information related to our business, prevent us from accessing critical information or expose us to liability which could harm our ability to operate our business effectively and adversely affect our business and reputation. In the ordinary course of our business, we, our CROs and other third parties on which we rely collect and store sensitive data, including legally protected patient health information, personally identifiable information about our employees, intellectual property and proprietary business information. We manage and maintain our applications and data utilizing on-site systems. These applications and data encompass a wide variety of business-critical information including research and development information and business and financial information. The secure processing, storage, maintenance and transmission of this critical information is vital to our operations and business strategy. Despite the implementation of security measures, our internal computer systems and those of third parties with which we contract are vulnerable to damage from cyber-attacks, computer viruses, breaches, unauthorized access, interruptions due to employee error or malfeasance or other disruptions, or damage from natural disasters, terrorism, war and telecommunication and electrical failures. Any such event could compromise our networks and the information stored there could be accessed by unauthorized parties, publicly disclosed, lost or stolen. Although we have measures in place that are designed to detect and respond to such security incidents and breaches of privacy and security mandates, we cannot guarantee that those measures will be successful in preventing any such security incident. Any such access, disclosure or other loss of information could result in legal claims or proceedings, liability under laws that protect the privacy of personal information, government enforcement actions and regulatory penalties. Unauthorized access, loss or dissemination could also disrupt our operations, including our ability to conduct research, development and commercialization activities, process and prepare Company financial information, manage various general and administrative aspects of our business and damage our reputation, in addition to possibly requiring substantial expenditures of resources to remedy, any of which could adversely affect our business. The loss of clinical trial data could result in delays in our regulatory approval efforts and significantly increase our costs to recover or reproduce the data. In addition, there can be no assurance that we will promptly detect any such disruption or security breach, if at all. If the technology supporting our hunTR discovery engine were to experience a cyber-incident resulting in the disclosure or theft of our proprietary screening software or library of TCRs our business may be materially and negatively impacted. While we are not aware of any such material system failure, accident or security breach to date, to the extent that any disruption or security breach were to result in a loss of, or damage to, our data or applications, or inappropriate disclosure of confidential or proprietary information, we could incur liability and our research, development and commercialization efforts could be delayed. RISKS RELATED TO OUR INTELLECTUAL PROPERTY If we or our licensors fail to adequately protect or enforce our intellectual property rights or secure rights to patents of others, the value of our intellectual property rights would diminish and our ability to successfully commercialize our products may be impaired. Our success, competitive position and future revenues will depend in part on our ability and the abilities of our licensors to obtain and maintain patent protection for our products, methods, processes and other technologies, to preserve confidential information, including trade secrets, to prevent third parties from infringing our proprietary rights, and to operate without infringing the proprietary rights of third parties. To date, we have exclusive rights in the field of cancer treatment to certain U.S. and foreign intellectual property with respect to certain cell therapy and related technologies from MD Anderson and the NCI, as well as with respect to the PGEN technology, including Sleeping Beauty . Under the MD Anderson License, future patent applications require the agreement of each of MD Anderson, PGEN and us, and MD Anderson has the right to control the preparation, filing and prosecution of such patent applications unless the parties agree that we or PGEN instead may control such activities. Although under the MD Anderson License MD Anderson has agreed to review and incorporate any reasonable comments that we or PGEN may have regarding licensed patents and patent applications, we cannot guarantee that our comments will be solicited or implemented. Under the Patent License with the NCI for certain TCRs, the NCI is responsible for the preparation, filing, prosecution and maintenance of patent applications and patents licensed to us. Although under the Patent License the NCI is required to consult 44 Table of Contents with us in the preparation, filing, prosecution and maintenance of all its patent applications and patents licensed to us, we cannot guarantee that our comments will be solicited or implemented. Under our License Agreement with PGEN, PGEN has the right, but not the obligation, to prepare, file, prosecute and maintain the patents and patent applications licensed to us and shall bear all related costs incurred by it in regard to those actions. PGEN is required to consult with us and keep us reasonably informed of the status of the patents and patent applications licensed to us, and to confer with us prior to submitting any related filings and correspondence. Although under the License Agreement PGEN has agreed to consider in good faith and consult with us regarding any comments we may have regarding these patents and patent applications, we cannot guarantee that our comments will be solicited or followed. Without direct control of the in-licensed patents and patent applications, we are dependent on MD Anderson, the NCI or PGEN, as applicable, to keep us advised of prosecution, particularly in foreign jurisdictions where prosecution information may not be publicly available. We anticipate that we, the NCI and PGEN will file additional patent applications both in the United States and in other jurisdictions. However, we cannot predict or guarantee for either our in-licensed patent portfolios or for Alaunos’ patent portfoli • When, if at all, any patents will be granted on such applications; • The scope of protection that any patents, if obtained, will afford us against competitors; • That third parties will not find ways to invalidate and/or circumvent our patents, if obtained; • That others will not obtain patents claiming subject matter related to or relevant to our product candidates; or • That we will not need to initiate litigation and/or administrative proceedings that may be costly whether we win or lose. The patent prosecution process is expensive and time-consuming, and we may not be able to file and prosecute all necessary or desirable patent applications at a reasonable cost, in a timely manner or at all. It is also possible that we will fail to identify patentable aspects of our research and development output before it is too late to obtain patent protection. Moreover, in some circumstances, we do not have the right to control the preparation, filing and prosecution of patent applications, or to maintain the patents, covering technology that we license from third parties. We may also require the cooperation of our licensors in order to enforce the licensed patent rights, and such cooperation may not be provided. Therefore, these patents and applications may not be prosecuted and enforced in a manner consistent with the best interests of our business. The patent position of biotechnology and pharmaceutical companies generally is highly uncertain, involves complex legal and factual questions and has in recent years been the subject of much litigation. In addition, the laws of other jurisdictions may not protect our rights to the same extent as the laws of the United States. For example, methods of therapeutic treatment, which are patent-eligible in the United States, may not be claimed in many other jurisdictions; some patent offices (such as the European Patent Office) may permit the redrafting of method of treatment claims into a "medical use" format that is patent-eligible, while other patent offices (such as the Indian Patent Office) may not accept any redrafted claiming format for such claims. Changes in patent laws or in interpretations of patent laws in the United States and other jurisdictions may diminish the value of our intellectual property or narrow the scope of our patent protection. In September 2011, the Leahy-Smith America Invents Act, or the Leahy-Smith Act, was signed into law, resulting in a number of significant changes to United States patent law. These changes include provisions that affect the way patent applications are prosecuted and may also affect patent litigation. In addition, the United States Supreme Court has ruled on several patent cases in recent years, narrowing the scope of patent protection available in certain circumstances or weakening the rights of patent owners in certain situations. This combination of events has created uncertainty with respect to the value of patents, once obtained, and with regard to our ability to obtain patents in the future. As the USPTO continues to implement the Leahy-Smith Act, and as the federal courts have the opportunity to interpret the Leahy-Smith Act, the laws and regulations governing patents, and the rules regarding patent procurement could change in unpredictable ways that would weaken our ability to obtain new patents or to enforce our existing patents and patents that we might obtain in the future. Certain technologies utilized in our research and development programs are already in the public domain. Moreover, a number of our competitors have developed technologies, or filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and may cover or conflict with our owned or licensed patent applications, technologies or product candidates. Such conflicts could limit the scope of the patents, if any, that we may be able to obtain. Because patent applications in the United States and many foreign jurisdictions are typically not published until 18 months after filing, or in some cases at all, and because publications of discoveries in the scientific literature lag behind actual discoveries per se, neither we nor our licensors can be certain that others have not filed patent applications for technology used by us or covered by our pending patent applications. We cannot know with certainty whether we were the first to make and file for the inventions claimed in our owned patent portfolio, or whether our licensors were the first to make and file for the inventions claimed in our in-licensed patent portfolio. As a result, the issuance, scope, validity, enforceability and commercial value of our patent rights are highly uncertain. Our pending and future patent applications may not result in the issuance of patents that protect our technology or products, in whole or in part, or that effectively prevent others from commercializing competitive technologies and products. In addition, our own earlier filed patents and applications or those of MD Anderson, the NCI or PGEN may limit the scope of later patents we obtain, if any. If third parties file or have filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and that cover or conflict with our owned or licensed patent applications, technologies or product candidates, we may be required to challenge such protection, terminate or modify our programs impacted by such protection, or obtain licenses from such third parties, which might not be available on acceptable terms, or at all. 45 Table of Contents Even if our owned and licensed patent applications were to be issued as patents, they may not issue in a form that would provide us with any meaningful protection, prevent competitors from competing with us or otherwise provide us with any competitive advantage. Our competitors may be able to circumvent our owned or licensed patents by developing similar or alternative technologies or products in a non-infringing manner. The issuance of a patent is not conclusive as to its inventorship, scope, validity or enforceability, and our owned and licensed patents may be challenged in the courts or patent offices in the United States and abroad. Such challenges may result in loss of exclusivity due to our patents being narrowed, invalidated or held unenforceable, which could limit our ability to stop others from using or commercializing similar or identical technology and products, or limit the duration of the patent protection of our technology and products. Given the amount of time required for the development, testing and regulatory review of new product candidates, patents protecting such candidates might expire before or even after such candidates are commercialized. As a result, our owned and licensed patent portfolio may not provide us with sufficient rights to exclude others from commercializing products similar or identical to ours. If we are unable to protect the confidentiality of our confidential information, our business and competitive position would be harmed. Our success also depends upon the skills, knowledge and experience of our scientific and technical personnel, our consultants and advisors, as well as our licensors and contractors. To help protect our proprietary know-how and our inventions for which patents may be unobtainable or difficult to obtain, and to maintain our competitive position, we rely on trade secret protection and confidentiality agreements. To this end, it is our general policy to require our employees, consultants, advisors and contractors to enter into agreements that prohibit the disclosure of confidential information and, where applicable, require disclosure and assignment to us of the ideas, developments, discoveries and inventions important to our business. These agreements may not provide adequate protection for our trade secrets, know-how, confidential information or other proprietary information in the event of any unauthorized use or disclosure or the lawful development by others of such information. Moreover, we may not be able to obtain adequate remedies for any breaches of these agreements. Our trade secrets or other confidential information may also be obtained by third parties by other means, such as breaches of our physical or computer security systems. Enforcing a claim that a party illegally disclosed or misappropriated a trade secret or other confidential information is difficult, expensive and time-consuming, and the outcome is unpredictable. In addition, some courts inside and outside the United States are less willing or unwilling to protect trade secrets. If any of our trade secrets or other confidential information were to be lawfully obtained or independently developed by competitors, we would have no right to prevent them, or those to whom they communicate it, from using that technology or information to compete with us. If any of our trade secrets, know-how or other proprietary information is disclosed, the value of our trade secrets, know-how and other proprietary rights would be significantly impaired and our business and competitive position would suffer. Third-party claims of intellectual property infringement would require us to spend significant time and money and could prevent us from developing or commercializing our products. In order to protect or enforce patent rights, we may initiate patent infringement litigation against third parties. Similarly, we may be sued by others for patent infringement. We also may become subject to pre- and post-grant proceedings conducted in the USPTO, including interferences, derivations, post-grant review, inter partes review, or reexamination. In other jurisdictions, our patent estate may be subject to pre- and post-grant opposition, nullity, revocation proceedings and the like. Asserting and defending against intellectual property actions are costly and divert technical and management personnel away from their normal responsibilities. Our commercial success depends upon our ability, and the ability of our collaborators, to develop, manufacture, market and sell our product candidates without infringing the proprietary rights of third parties. There is considerable intellectual property litigation in the biotechnology and pharmaceutical industries. While no such litigation has been brought against us and we have not been held by any court to have infringed a third party’s intellectual property rights, we cannot guarantee that our products or use of our products do not infringe or will not be asserted to infringe third-party patents. It is also possible that we have failed to identify relevant third-party patents or applications, or that as-yet unpublished third-party patent applications will later result in the grant of patents relevant to our business. Another possibility is for a third-party patent or patent application to first contain claims not relevant to our business but then to be reissued or amended in such a way that it does become relevant. Our research, development and commercialization activities, as well as any product candidates or products resulting from these activities, may infringe or be asserted to infringe patents or patent applications under which we do not hold licenses or other rights. Owning a patent does not confer on the patentee the right to practice the claimed invention and does not protect the patentee from being sued for infringement of another owner’s patent. Our patent position cannot and does not provide any assurance that we are not infringing or will not be asserted to infringe the patent rights of another. The patent landscape in the field of immuno-oncology is particularly complex. We are aware of numerous United States and foreign patents and pending patent applications of third parties directed to compositions, methods of use and methods of manufacture of immuno-oncology products. In addition, there may be patents and patent applications in the field of which we are not aware. The technology we license from MD Anderson, the NCI and PGEN is early-stage technology, and we are in the process of designing and developing products using this technology. Although we will seek to avoid pursuing the development of products that may infringe any third-party patent claims that we believe to be valid and enforceable, we may fail to do so. Moreover, given the breadth and number of claims in patents and pending patent applications in 46 Table of Contents the field of immuno-oncology and the complexities and uncertainties associated with them, third parties may allege that we are infringing patent claims even if we do not believe such claims have merit. If a claim for patent infringement is asserted, there can be no assurance that the resolution of the claim would permit us to continue marketing the relevant product on commercially reasonable terms, if at all. We may not have sufficient resources to bring these actions to a successful conclusion. If we do not successfully defend any infringement actions to which we become a party or if we are unable to have any asserted third-party patents declared invalid or unenforceable, we may have to pay substantial monetary damages, which can be tripled if the infringement is deemed willful, and/or we may be required to discontinue or significantly delay commercialization and development of the affected products. Any legal action against us or our collaborators claiming damages and seeking to enjoin developmental or marketing activities relating to affected products could, in addition to subjecting us to potential liability for damages, require us or our collaborators to obtain licenses to continue to develop, manufacture or market the affected products. Such licenses may not be available to us on commercially reasonable terms, or at all. An adverse determination in a proceeding involving our owned or licensed intellectual property may allow entry in the market of substitutes, including biosimilar or generic substitutes, for our products. Obtaining and maintaining our patent protection depends on compliance with various procedural, document submission, fee payment and other requirements imposed by governmental patent agencies, and our patent protection could be reduced or eliminated for noncompliance with these requirements. Annuities and other similar fees must be paid to the respective patent authority to maintain patents (or patents and patent applications) in most jurisdictions worldwide. Further, patent authorities in jurisdictions worldwide require compliance with a number of procedural, documentary, fee payment and other similar provisions during the patent application process. While an inadvertent lapse can in many cases be cured by payment of a late fee or by other means in accordance with the applicable rules, there are situations in which noncompliance can result in abandonment or lapse of the patent or patent application, resulting in partial or complete loss of patent rights in the relevant jurisdiction. Noncompliance events that could result in abandonment or lapse of a patent or patent application include, but are not limited to, failure to respond to official actions within prescribed time limits, non-payment of fees and failure to submit documents with the necessary formal requirements, such as notarization and legalization. In such an event, our competitors might be able to enter the market, which would have a material adverse effect on our business. We license rights to products and technology that are important to our business, and we expect to enter into additional licenses in the future. For instance, we have in-licensed patents and patent applications under the MD Anderson License, the Patent License, and the License Agreement. Under these agreements, we are subject to a range of obligations pertaining to commercialization and development, sublicensing, royalty, patent prosecution and maintenance, and insurance. Any failure by us to obtain a needed license, comply with any of these obligations or any other breach by us of our license agreements could give the licensor the right to terminate the license in whole, terminate the exclusive nature of the license or bring a claim against us for damages. Any such termination or claim could have a material adverse effect on our financial condition, results of operations, liquidity or business. Even if we contest any such termination or claim and are ultimately successful, such dispute could lead to delays in the development or commercialization of potential products and result in time-consuming and expensive litigation or arbitration. On termination we may be required to license to the licensor any related intellectual property that we developed. In addition, in certain cases, the rights licensed to us are rights of a third party licensed to our licensor. In such instances, if our licensors do not comply with their obligations under such licenses, our rights under our license agreements with our licensor may be adversely affected. In addition, the licensing or acquisition of third-party intellectual property rights is a highly competitive area, and a number of more established companies are also pursuing strategies to license or acquire third-party intellectual property rights that we may consider attractive or necessary. These established companies may have a competitive advantage over us due to their size, capital resources and greater clinical development and commercialization capabilities. In addition, companies that perceive us to be a competitor may be unwilling to assign or license rights to us. We also may be unable to license or acquire third-party intellectual property rights on terms that would allow us to make an appropriate return on our investment or at all. If we are unable to successfully obtain rights to required third-party intellectual property rights or maintain the existing intellectual property rights we have, we may have to abandon development of the relevant program or product candidate, which could have a material adverse effect on our business, financial condition, results of operations, and prospects. We may be subject to claims by third parties asserting that our employees or we have misappropriated their intellectual property or claiming ownership of what we regard as our own intellectual property. Many of our employees were previously employed at universities or at other biotechnology or pharmaceutical companies, including our competitors or potential competitors. Although we try to ensure that our employees do not use the proprietary information or know-how of others in their work for us, we may be subject to claims that these employees or we have used or disclosed intellectual property, including trade secrets or other proprietary information, of any such employee’s former employer. Litigation may be necessary to defend against these claims. 47 Table of Contents In addition, while it is our policy to require our employees and contractors who may be involved in the development of intellectual property to execute agreements assigning such intellectual property to us, we may be unsuccessful in executing such an agreement with each party who in fact develops intellectual property that we regard as our own. Our and their assignment agreements may not be self-executing or may be breached, and we may be forced to bring claims against third parties, or defend claims they may bring against us, to determine the ownership of what we regard as our intellectual property. If we fail in prosecuting or defending any such claims, in addition to paying monetary damages, we may lose valuable intellectual property rights or personnel. Even if we are successful in prosecuting or defending against such claims, litigation could result in substantial costs and be a distraction to management. OTHER RISKS RELATED TO OUR COMPANY Our stock price has been, and may continue to be, volatile. The market price for our common stock is volatile and may fluctuate significantly in response to a number of factors, most of which we cannot control, includin • Price and volume fluctuations in the overall stock market; • Changes in operating results and performance and stock market valuations of other biopharmaceutical companies generally, or those that develop and commercialize cancer drugs in particular; • Market conditions or trends in our industry or the economy as a whole; • Preclinical studies or clinical trial results; • The commencement, enrollment or results of the planned clinical trials of our product candidates or any future clinical trials we may conduct, or changes in the development status of our product candidates; • Public statements by third parties like trial participants and clinical investigators regarding our current or future clinical trials; • Public concern as to the safety of drugs developed by us or others; • The financial or operational projections we may provide to the public, any changes in these projections or our failure to meet these projections; • Comments by securities analysts or changes in financial estimates or ratings by any securities analysts who follow our common stock, our failure to meet these estimates or failure of those analysts to initiate or maintain coverage of our common stock; • The public’s response to press releases or other public announcements by us or third parties, including our filings with the SEC, as well as announcements of the status of development of our products, announcements of technological innovations or new therapeutic products by us or our competitors, announcements regarding collaborative agreements and other announcements relating to product development, litigation and intellectual property impacting us or our business; • Government regulation; • FDA determinations on the approval of a product candidate BLA submission; • The sustainability of an active trading market for our common stock; • Future sales of our common stock by us, our executive officers, directors and significant stockholders; • Announcements of mergers or acquisition transactions; • Our inclusion or deletion from certain stock indices; • Developments in patent or other proprietary rights; • Changes in reimbursement policies; • Announcements of medical innovations or new products by our competitors; • Announcements of changes in our senior management or directors; • General economic, industry, political and market conditions, including, but not limited to, the ongoing impact of global economic conditions; • Other events or factors, including those resulting from war, incidents of terrorism, natural disasters, pandemics or responses to these events; and 48 Table of Contents • Changes in accounting principles. In addition, the stock market in general and our stock in particular from time to time experiences significant price and volume fluctuations unrelated to the operating performance of particular companies, including in connection with the ongoing COVID-19 pandemic, which has resulted in decreased stock prices for many companies notwithstanding the lack of a fundamental change in their underlying business models or prospects. Public debt and equity markets, and in particular the Nasdaq Global Select Market, have experienced extreme price and volume fluctuations that have affected, and continue to affect, the market prices of equity securities of many biopharmaceutical companies. Stock prices of many biopharmaceutical companies have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. In the past, stockholders have instituted securities class action litigation following periods of market volatility. If we were involved in securities litigation, we could incur substantial costs and our resources, and the attention of management could be diverted from our business. Public statements made by third parties such as trial participants and clinical investigators about our current or future clinical trials without our consent may adversely impact our stock price. We may not be aware of these third-party statements when made, may not be able to respond to these third-party statements and may not be able to defend our business or the public’s legitimate interests due to restrictions on what we may say about our product candidates, which may cause the price of our stock to fluctuate. If any of these events were to occur or we otherwise fail to comply with applicable regulations, we could incur liability, face regulatory actions or incur other harm to our business. If we fail to satisfy applicable listing standards, our common stock may be delisted from the Nasdaq Global Select Market. Delisting could prevent us from maintaining an active, liquid and orderly trading market for our common stock. Our ability to publicly or privately sell equity securities and the liquidity of our common stock could be adversely affected if we are delisted from the Nasdaq Global Select Market or if we are unable to transfer our listing to another stock market. On January 4, 2023, we were notified by The Nasdaq Stock Market LLC, or Nasdaq, that we were in breach of Listing Rule 5450(a)(1), or the Minimum Bid Price Rule, for continued listing on the Nasdaq Global Select Market because the minimum bid price of our listed securities for 30 consecutive business days had been less than $1 per share. In accordance with Nasdaq Listing Rule 5810(c)(3)(A), or the Compliance Period Rule, we have been provided a period of 180 calendar days, or until July 3, 2023, or the Compliance Date, to regain compliance with the Bid Price Requirement. If, at any time before the Compliance Date, the bid price for our common stock closes at $1.00 or more for a minimum of 10 consecutive business days as required under the Compliance Period Rule, Nasdaq will provide us written notification that we have regained compliance with the Bid Price Requirement, unless Nasdaq exercises its discretion to extend this ten-day period. During this 180-day period, we anticipate reviewing our options to regain compliance with the Minimum Bid Price Rule, including conducting a reverse stock split. On March 2, 2023, the closing price of our common stock was $0.57 per share. If we are unable to continue to meet the requirements for listing on the Nasdaq Global Select Market we may apply to Nasdaq to list our common stock on the Nasdaq Capital Market, which may also provide us up to an additional 180 days to regain compliance with the Minimum Bid Price Rule. Nasdaq would have to accept our application to list on the Nasdaq Capital Market and we would need to show our compliance with the other listing standards and provide Nasdaq written notice of our intention to cure the Bid Price deficiency. Should Nasdaq determine that we are not eligible to list on the Nasdaq Capital Market or we elect not to submit an application to transfer to the Nasdaq Capital Market, we will receive written notice that our common stock will be delisted, at which point we will have the opportunity to appeal that decision. If our common stock is delisted by Nasdaq, it could lead to a number of negative implications, including an adverse effect on the price of our common stock, deterring broker-dealers from making a market in or otherwise seeking or generating interest in our common stock, increased volatility in our common stock, reduced liquidity in our common stock, the loss of federal preemption of state securities laws and greater difficulty in obtaining financing. Delisting could also cause a loss of confidence of our customers, collaborators, vendors, suppliers and employees, which could harm our business and future prospects. If our common stock is delisted by Nasdaq, the price of our common stock may decline, and although our common stock may be eligible to trade on the OTC Bulletin Board, another over-the-counter quotation system, or on the pink sheets, an investor may find it more difficult to dispose of their common stock or obtain accurate quotations as to the market value of our common stock. Further, if our common stock is delisted, we would incur additional costs under state blue sky laws in connection with any sales of our securities. These requirements could severely limit the market liquidity of our common stock and the ability of our shareholders to sell our common stock in the secondary market. Anti-takeover provisions in our charter documents and under Delaware law may make an acquisition of us, which may be beneficial to our stockholders, more difficult. Provisions of our amended and restated certificate of incorporation and bylaws, as well as provisions of Delaware law, could make it more difficult for a third party to acquire us, even if doing so would benefit our stockholders. These provisions authorize the issuance of “blank check” preferred stock that could be issued by our board of directors to increase the number of outstanding shares and hinder a takeover attempt, and limit who may call a special meeting of stockholders. In addition, Section 203 of the Delaware General Corporation Law, or Section 203, generally prohibits a publicly held Delaware corporation from engaging in a business combination with a party that owns at least 15% of its common stock unless the business combination is approved by our board of directors before the person acquires the 15% ownership 49 Table of Contents stake or later by its board of directors and two-thirds of its stockholders. Section 203 could have the effect of delaying, deferring or preventing a change in control that our stockholders might consider to be in their best interests. Our amended and restated bylaws provide that the Court of Chancery of the State of Delaware will be the exclusive forum for substantially all disputes between us and our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers or employees. Our amended and restated bylaws provide that, unless we consent in writing to the selection of an alternative forum, the Court of Chancery of the State of Delaware is the exclusive forum for (i) any derivative action or proceeding brought on our behalf; (ii) any action asserting a claim of breach of a fiduciary duty owed by any of our directors, officers or other employees to us or our stockholders; (iii) any action asserting a claim against us or any of our directors, officers or other employees arising pursuant to any provision of the Delaware General Corporation Law, our amended and restated certificate of incorporation or our amended and restated bylaws; (iv) any claim or cause of action seeking to interpret, apply, enforce or determine the validity of the amended and restated certificate of incorporation or our bylaws; (v) any claim or cause of action as to which the Delaware General Corporation Law confers jurisdiction on the Court of Chancery of the State of Delaware; or (vi) any action asserting a claim against us or any of our directors, officers or other employees governed by the internal affairs doctrine. These provisions would not apply to suits brought to enforce a duty or liability created by the Exchange Act. Furthermore, Section 22 of the Securities Act creates concurrent jurisdiction for federal and state courts over all Securities Act actions. Accordingly, both state and federal courts have jurisdiction to entertain such claims. These exclusive forum provisions may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers or other employees, which may discourage lawsuits against us and our directors, officers and other employees. If a court were to find either exclusive-forum provision to be inapplicable or unenforceable in an action, we may incur further significant additional costs associated with resolving the dispute in other jurisdictions, all of which could seriously harm our business. Because we do not expect to pay dividends, you will not realize any income from an investment in our common stock unless and until you sell your shares at a profit. We have never paid dividends on our common stock, and we do not anticipate that we will pay any dividends for the foreseeable future. Accordingly, any return on an investment in us will be realized, if at all, only when you sell shares of our common stock. Our ability to use net operating loss carryforwards and research tax credits to reduce future tax payments may be limited or restricted. We have generated significant net operating loss carryforwards, or NOLs, and research and development tax credits, or R&D credits, as a result of our incurrence of losses and our conduct of research activities since inception. We generally are able to carry NOLs and R&D credits forward to reduce our tax liability in future years. However, our ability to utilize the NOLs and R&D credits is subject to the rules of Sections 382 and 383 of the Internal Revenue Code of 1986, as amended, or the Code, respectively. Those sections generally restrict the use of NOLs and R&D credits after an “ownership change.” An ownership change occurs if, among other things, the stockholders (or specified groups of stockholders) who own or have owned, directly or indirectly, 5% or more of a corporation’s common stock or are otherwise treated as 5% stockholders under Section 382 of the Code and the U.S. Treasury Department regulations promulgated thereunder increase their aggregate percentage ownership of that corporation’s stock by more than 50 percentage points over the lowest percentage of the stock owned by these stockholders over the applicable testing period. In the event of an ownership change, Section 382 of the Code imposes an annual limitation on the amount of taxable income a corporation may offset with NOL carry forwards and Section 383 of the Code imposes an annual limitation on the amount of tax a corporation may offset with business credit (including R&D credits) carryforwards. We may have experienced an “ownership change” within the meaning of Section 382 of the Code in the past and there can be no assurance that we will not experience additional ownership changes in the future. As a result, our NOLs and business credits (including R&D credits) may be subject to limitations, and we may be required to pay taxes earlier and in larger amounts than would be the case if our NOLs or R&D credits were freely usable. If securities and/or industry analysts fail to continue publishing research about our business, if they change their recommendations adversely or if our results of operations do not meet their expectations, our stock price and trading volume could decline. The trading market for our common stock will be influenced by the research and reports that industry or securities analysts publish about us or our business. If one or more of these analysts cease coverage of our Company or fail to publish reports on us regularly, we could lose visibility in the financial markets, which in turn could cause our stock price or trading volume to decline. In addition, it is likely that in some future period our operating results will be below the expectations of securities analysts or investors. If one or more of the analysts who cover us downgrade our stock, or if our results of operations do not meet their expectations, our stock price could decline. Our business could be negatively affected as a result of the actions of activist stockholders. In 2021, we were engaged in a consent solicitation led by WaterMill Asset Management Corp., or WaterMill, where three new directors were added to our board of directors. We could experience other stockholder activism in the future, including another consent solicitation or a proxy 50 Table of Contents contest. Activist shareholders may advocate for certain governance and strategic changes at our company. In the event of stockholder activism, particularly with respect to matters which our board of directors, in exercising their fiduciary duties, disagree with or have determined not to pursue, our business could be adversely affected because responding to actions by activist stockholders can be costly and time-consuming, disrupting our operations and diverting the attention of management, and perceived uncertainties as to our future direction may result in the loss of potential business opportunities and may make it more difficult to attract and retain qualified personnel, business partners, and customers. In addition, if faced with a consent solicitation or proxy contest, we may not be able to respond successfully to the contest or dispute, which would be disruptive to our business. If individuals are elected to our board of directors with a differing agenda, our ability to effectively and timely implement our strategic plan and create additional value for our stockholders may be adversely affected. The exercise of outstanding warrants, and issuance of equity awards may have a dilutive effect on our stock, and negatively impact the price of our common stock. As of December 31, 2022, we had warrants for 22,922,342 shares of our common stock outstanding at a weighted average exercise price of $5.62 per share. We are able to grant stock options, restricted stock, restricted stock units, stock appreciation rights, bonus stocks, and performance awards under our 2020 Equity Incentive Plan. As of December 31, 2022, under the 2020 Equity Incentive Plan and the 2012 Equity Incentive Plan, 10,408,622 shares were issuable upon the exercise of outstanding options at a weighted average exercise price of $1.84 per share. Our principal stockholders, executive officers and directors have substantial control over the Company, which may prevent you and other stockholders from influencing significant corporate decisions and may harm the market price of our common stock. As of December 31, 2022, our executive officers, directors and holders of five percent or more of our outstanding common stock beneficially owned, in the aggregate, 33.2% of our outstanding common stock. These stockholders may have interests that conflict with our other stockholders and, if acting together, have the ability to influence the outcome of matters submitted to our stockholders for approval, including the election and removal of directors and any merger, consolidation or sale of all or substantially all of our assets. Accordingly, this concentration of ownership may harm the market price of our common stock • Delaying, deferring or preventing a change in control; • Impeding a merger, consolidation, takeover or other business combination involving us; or • Discouraging a potential acquirer from making a tender offer or otherwise attempting to obtain control of us. In addition, this significant concentration of stock ownership may adversely affect the trading price of our common stock should investors perceive disadvantages in owning shares of common stock in a company that has such concentrated ownership. Changes to corporate tax legislation, including the Tax Cuts and Jobs Act, signed into law in 2017, could adversely affect our business and financial condition. The Tax Act contains significant changes to corporate taxation, including reduction of the corporate tax rate from a top marginal rate of 35% to a flat rate of 21%, limitation of the tax deduction for interest expense to 30% of adjusted earnings (except for certain small businesses), limitation of the deduction for NOLs to 80% of current year taxable income and elimination of NOL carrybacks, one time taxation of offshore earnings at reduced rates regardless of whether they are repatriated, elimination of U.S. tax on foreign earnings (subject to certain important exceptions), immediate deductions for certain new investments instead of deductions for depreciation expense over time and modifying or repealing many business deductions and credits. The Coronavirus Aid, Relief, and Economic Security Act, or CARES Act, enacted in 2020, modified certain of these tax changes, and enacted other tax changes applicable to corporations. Notwithstanding the reduction in the corporate income tax rate, the overall impact of the Tax Act and the CARES Act is uncertain and our business and financial condition could be adversely affected. In addition, it is uncertain if and to what extent various states will conform to the Tax Act or the CARES Act. Currently, bills introduced in Congress, including the Build Back Better Act, contain additional changes to the taxation of corporations, which could adversely affect our business and financial condition. The impact of the Tax Act, the CARES Act and any other tax legislation on holders of our common stock is also uncertain and could be adverse. We urge our stockholders to consult with their legal and tax advisors with respect to this legislation and the potential tax consequences of investing in or holding our common stock. We are a “smaller reporting company,” and the reduced disclosure requirements applicable to smaller reporting companies may make our common stock less attractive to investors. We are considered a “smaller reporting company” under Rule 12b-2 of the Exchange Act. We are therefore entitled to rely on certain reduced disclosure requirements, such as an exemption from providing selected financial data and executive compensation information. These exemptions and reduced disclosures in our SEC filings due to our status as a smaller reporting company also mean our auditors are not required to review our internal control over financial reporting and may make it harder for investors to analyze our results of operations and financial prospects. We cannot predict if investors will find our common stock less attractive because we may rely on these exemptions. If some investors find our common stock less attractive as a result, there may be a less active trading market for our common stock and our common 51 Table of Contents stock prices may be more volatile. We will remain a smaller reporting company until our public float exceeds $250 million as of the last business day of our most recently completed second quarter if our annual revenues are $100 million or more as of our most recently completed fiscal year, or until our public float exceeds $700 million as of the last business day of our most recently completed second quarter if our annual revenues are less than $100 million as of our most recently completed fiscal year. Item 1B. Unresolved Staff Comments None. Item 2. Properties Our corporate office is located at 8030 El Rio Street, Houston, Texas 77054. Our Houston offices are leased pursuant to the 2019 Lease and the 2020 Lease, as described below, and comprise a total of approximately 17,265 square feet. In December 2021, we made the decision to close our former corporate office in Boston, Massachusetts. We are still party to the Boston lease and have subleased a portion of the space. We continue to seek an acceptable sublessee of the remaining portion of the Boston lease to become a subtenant and/or assume our obligations under the lease. In October 2019, we entered into an agreement with MD Anderson to lease laboratory and office space on MD Anderson’s campus, or, as amended, the 2019 Lease. We use this location to house our laboratory, cGMP clinical manufacturing facilities and office space on MD Anderson’s campus. The 2019 Lease expires in February 2027. The monthly rent expense of the 2019 Lease with MD Anderson was being deducted from our prepayment at MD Anderson until the third quarter of 2021, since which time we pay MD Anderson monthly. In December 2020, we entered into a second agreement with MD Anderson to lease additional space on MD Anderson’s campus, or, as amended, the 2020 Lease. The 2020 Lease expires in April 2028 and may be extended for one additional five-year term at our election. In April 2022, we modified the 2020 Lease, which reduced our leased space from 18,111 square feet to 3,228 square feet. See Note 8 to the accompanying financial statements, Leases, for further details. We believe that our existing facilities are adequate to meet our current needs. Item 3. Legal Proceedings In the ordinary course of business, we may periodically become subject to legal proceedings and claims arising in connection with ongoing business activities. The results of litigation and claims cannot be predicted with certainty, and unfavorable resolutions are possible and could materially affect our results of operations, cash flows or financial position. In addition, regardless of the outcome, litigation could have an adverse impact on us because of defense costs, diversion of management resources and other factors. We do not have any pending litigation that, separately or in the aggregate, would, in the opinion of management, have a material adverse effect on our results of operations, financial condition or cash flows. Item 4. Mine Safety Disclosures Not applicable. 52 Table of Contents PART II Item 5. Market for Registrant’s Common Equity, Related Stockholders Matters and Issuer Purchases of Equity Securities Market for Common Stock Our common stock trades on the Nasdaq Global Select Market under the symbol “TCRT.” Record Holders As of February 15, 2023, we had approximately 240 holders of record of our common stock, one of which was Cede & Co., a nominee for Depository Trust Company, or DTC. Shares of common stock that are held by financial institutions as nominees for beneficial owners or in “street name” are deposited into participant accounts at DTC and are considered to be held of record by Cede & Co. as one stockholder. Dividends We have never declared or paid a cash dividend on our common stock and do not anticipate paying any cash dividends in the foreseeable future. Unregistered Sales of Securities We did not sell or issue any equity securities during the three months ended December 31, 2022 that were not registered under the Securities Act. Item 6. [Reserved] 53 Table of Contents Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our financial statements and related notes appearing elsewhere in this Annual Report on Form 10-K. In addition to historical financial information, the following discussion contains forward-looking statements that reflect our plans, estimates and beliefs. Our actual results could differ materially from those contained in or implied by any forward-looking statements. Factors that could cause or contribute to these differences include those under “Risk Factors” included in Part I, Item 1A and under “Special Note Regarding Forward-Looking Statements” or in other parts of this Annual Report on Form 10-K. Overview We are a clinical-stage oncology-focused cell therapy company developing adoptive TCR-T cell therapy, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. We are leveraging our cancer hotspot mutation TCR library and our proprietary, non-viral Sleeping Beauty gene transfer platform to design and manufacture patient-specific cell therapies that target neoantigens arising from shared tumor-specific mutations in key oncogenic genes, including KRAS , TP53 and EGFR . In collaboration with MD Anderson, we are currently enrolling and treating patients for a Phase 1/2 clinical trial evaluating 12 TCRs reactive to mutated KRAS, TP53 and EGFR from our TCR library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers, which we refer to as our TCR-T Library Phase 1/2 Trial. As of December 31, 2022, we had approximately $53.0 million of cash, cash equivalents and restricted cash. Our restricted cash of $13.9 million relates to the Amended Loan and Security Agreement. Given our current development plans, we anticipate our cash resources will be sufficient to fund our operations into the fourth quarter of 2023, and we have no committed sources of additional capital at this time. See “ Liquidity and Capital Resources .” We have not generated any product revenue and have incurred significant net losses in each year since our inception. For the year ended December 31, 2022, we had a net loss of $37.7 million, and through December 31, 2022, we have incurred approximately $880.6 million of accumulated deficit since our inception in 2003. We expect to continue to incur significant operating expenditures and net losses. Further development of our product candidates will likely require substantial increases in our expenses as we: • continue to undertake clinical trials for product candidates; • seek regulatory approvals for product candidates; • work with regulatory authorities to identify and address program-related inquiries; • implement additional internal systems and infrastructure; • hire additional personnel; and • scale up and scale out the manufacturing of our product candidates. We continue to seek additional financial resources to fund the further development of our product candidates. If we are unable to obtain sufficient additional capital, one or more of these programs could be delayed, and we may be unable to continue our operations at planned levels and be forced to reduce our operations. Because of the numerous risks and uncertainties associated with product development, we are unable to predict the timing or amount of increased expenses or when or if we will be able to achieve or maintain profitability. 2022 Developments In the fourth quarter of 2022, we submitted an IND amendment to the FDA to add two new TCRs to our clinical trial targeting frequent mutations and HLAs, with the potential to double the addressable market of our TCR-T Library Phase 1/2 Trial. The addition of these new TCRs highlights our strategy to add both more HLAs to existing mutations (KRAS-G12V and HLA-DRB1*07:01) and new mutations within our targeted gene families (TP53-R273C and HLA-DPB1*04:02). In 2023, we expect to further expand our library with exclusively owned TCRs targeting recurrent hotspot mutations in KRAS, TP53 and EGFR to include 15 TCRs. We continue to actively enroll patients in our TCR-T Library Phase 1/2 Trial targeting KRAS, TP53 and EGFR hotspot mutations across six solid tumor indications. In September 2022, we announced the first objective clinical response from a TCR-T cell therapy using non-viral Sleeping Beauty targeting solid tumors. We successfully dosed the third patient in the trial in December 2022 and expect to enroll multiple patients in the first half of 2023. The fourth quarter IND amendment also combined our treatment and screening protocols, streamlining enrollment and potentially making it easier for both patients and physicians. The amended IND also eliminated the requirement for retesting of the tumor mutation if six months had passed between screening and treatment. We anticipate providing an interim clinical data update in 2023 as we work toward advancing the TCR-T Library Phase 1/2 Trial into Phase 2 and we expect to be Phase 2 ready by the end of 2023. We continue to execute on our multi-pronged strategy to expand manufacturing capacity and efficiency. We doubled our manufacturing capacity in 2022 allowing for production of two products simultaneously. We also filed an IND amendment to move from fresh to cryopreserved product and expect to begin implementing this change in the first half of 2023. The use of cryopreserved cell products is 54 Table of Contents expected to reduce manufacturing process time from 30 days to 26 days, a 13% decrease, while increasing flexibility for patient scheduling and treatment. We have ongoing initiatives to optimize the process and further reduce the manufacturing time. We are advancing our TCR-T cell therapy program towards an IND filing anticipated in the second half of 2023. We believe mbIL-15 has the potential to increase the survival of TCR-T cells in the harsh tumor microenvironment and deepen clinical responses. In addition, we continue to conduct translational assessments of treated patients to guide next generation TCR-T therapy approaches including potential combination and multiplexed TCR-T cell therapies. Financial Overview Collaboration Revenue We recognize research and development funding revenue over the estimated period of performance. To date we have not generated product revenue. Unless and until we receive approval from the FDA and/or other regulatory authorities for our product candidates, we cannot sell our products and will not have product revenue. Research and Development Expenses Our research and development expenses consist primarily of salaries and related expenses for personnel, costs of contract manufacturing services, costs of facilities, reagents and equipment, fees paid to professional service providers in conjunction with our clinical trials, fees paid to contract research organizations in conjunction with clinical trials, fees paid to contract research organizations in conjunction with costs of materials used in research and development, consulting, license and milestone payments and sponsored research fees paid to third parties. Our future research and development expenses in support of our current and future programs will be subject to numerous uncertainties in timing and cost to completion. We test potential products in numerous preclinical studies for safety, toxicology and efficacy. We may conduct multiple clinical trials for each product. As we obtain results from trials, we may elect to discontinue or delay clinical trials for certain products in order to focus our resources on more promising products or indications. Completion of clinical trials may take several years or more, and the length of time generally varies substantially according to the type, complexity, novelty and intended use of a product. It is not unusual for preclinical and clinical development of each of these types of products to require the expenditure of substantial resources. The duration and the cost of clinical trials may vary significantly over the life of a project as a result of differences arising during clinical development, including, among others, the followin • The number of clinical sites included in the trials; • The length of time required to enroll suitable patients; • The number of patients that ultimately participate in the trials; • The length of time and cost to develop and optimize manufacturing processes; • The cost to manufacture the clinical products for patients; • The duration of patient follow-up to ensure the absence of long-term product-related adverse events; and • The efficacy and safety profile of the product. As a result of the uncertainties discussed above, we are unable to determine the duration and completion costs of our programs or when and to what extent we will receive cash inflows from the commercialization and sale of a product. Our inability to complete our programs in a timely manner or our failure to enter into appropriate collaborative agreements could significantly increase our capital requirements and could adversely impact our liquidity. These uncertainties could force us to seek additional, external sources of financing from time to time in order to continue with our product development strategy. Our inability to raise additional capital, or to do so on terms reasonably acceptable to us, would jeopardize the future success of our business. General and Administrative Expenses General and administrative expenses consist primarily of salaries, benefits and stock-based compensation, consulting and professional fees, including patent related costs, general corporate costs and facility costs not otherwise included in research and development expenses or cost of product revenue. Other Income (Expense) Other income (expense) consists primarily of interest expense associated with our Amended Loan and Security Agreement, as defined below, and sublease income, which started accruing on July 1, 2022. 55 Table of Contents Results of Operations for the Fiscal Years ended December 31, 2022 and 2021 Year Ended December 31, 2022 2021 Collaboration revenue $ 2,922 $ 398 Operating expens Research and development 25,018 49,643 General and administrative 13,142 27,564 Gain on lease modification (133 ) — Property and equipment and right-of-use assets impairment — 740 Total operating expenses 38,027 77,947 Loss from operations (35,105 ) (77,549 ) Other income (expense): Interest expense (3,154 ) (1,189 ) Other income (expense), net 529 (13 ) Other income (expense), net (2,625 ) (1,202 ) Net loss $ (37,730 ) $ (78,751 ) Collaboration Revenue Collaboration revenue during the years ended December 31, 2022 and 2021 were as follows: Year Ended December 31, 2022 2021 Change ($ in thousands) Collaboration revenue $ 2,922 $ 398 $ 2,524 634 % Collaboration revenue during the year ended December 31, 2022 was $2.9 million compared to $0.4 during the year ended December 31, 2021. The increase was primarily due to $2.9 million we recognized under our license and collaboration agreement with Solasia Pharma K.K upon achievement of a milestone. Research and Development Expenses Research and development expenses during the years ended December 31, 2022 and 2021 were as follows: Year Ended December 31, 2022 2021 Change ($ in thousands) Research and development expenses $ 25,018 $ 49,643 $ (24,625 ) (50 )% Research and development expenses for the year ended December 31, 2022 decreased by $24.6 million when compared to the year ended December 31, 2021 primarily due to a decrease in program-related costs of $9.7 million, mainly related to the winding down of our IL-12 and CAR-T programs, a $15.5 million decrease in employee-related expenses due to our reduced headcount, a $1.4 million decrease in consulting expenses due to our reduced use of outside service providers and a $0.5 million decrease in facilities and other expenses following the reduction of our real estate footprint in 2022. These decreases were partially offset by a one-time $2.5 million expense to MD Anderson under the terms of our License Agreement resulting from Solasia's achievement of a milestone. Our strategic restructuring event during the year ended December 31, 2021 resulted in the termination of approximately 60 full-time employees, which led to the decrease in employee-related expenses. We currently do not anticipate similar events in the future. General and Administrative Expenses General and administrative expenses during the years ended December 31, 2022 and 2021 were as follows: Year Ended December 31, 2022 2021 Change ($ in thousands) General and administrative expenses $ 13,142 $ 27,564 $ (14,422 ) (52 )% General and administrative expenses for the year ended December 31, 2022 decreased by $14.4 million as compared to the year ended December 31, 2021, primarily due to a $12.4 million decrease in employee-related expenses as a result of our reduced headcount, a $1.7 56 Table of Contents million decrease in consulting expenses due to lower legal costs and reduced use of consultants and a $0.3 million decrease in facilities and other expenses following the reduction of our real estate footprint in 2022. Our strategic restructuring event during the year ended December 31, 2021 resulted in the termination of approximately 60 full-time employees, which led to the decrease in employee-related expenses. We currently do not anticipate similar events in the future. Gain on lease modification Gain on lease modifications during the years ended December 31, 2022 and 2021 was as follows: Year Ended December 31, 2022 2021 Change ($ in thousands) Gain on lease modification $ (133 ) $ — $ (133 ) 100 % Gain on lease modification during the year ended December 31, 2022 was $0.1 million as compared to $0 during the year ended December 31, 2021. As a result of a real estate lease modification during the second quarter of 2022, the associated lease liability and right-of-use asset were remeasured based on the revised lease payments, resulting in a gain of $0.1 million. Impairments Impairments during the years ended December 31, 2022 and 2021 were as follows: Year ended December 31, 2022 2021 Change ($ in thousands) Property and equipment and right-of-use assets impairment $ — $ 740 $ (740 ) 100 % There were no impairments during the year ended December 31, 2022, compared to $0.7 during the year ended December 31, 2021. Due to a change in the intended use of our Boston office, an impairment charge of $0.6 million to the right-of-use asset and $0.1 million to leasehold improvements and other assets associated with the office was recognized during the year ended December 31, 2021. Other Income (Expense) Other income (expense) during the years ended December 31, 2022 and 2021 was as follows: Year Ended December 31, 2022 2021 Change ($ in thousands) Interest expense $ (3,154 ) $ (1,189 ) $ (1,965 ) 165 % Other income (expense), net 529 (13 ) 542 (4169 )% Total $ (2,625 ) $ (1,202 ) $ (1,423 ) 118 % Total other income (expense), net for the year ended December 31, 2022 increased by $1.4 million as compared to the year ended December 31, 2021 due to additional interest expense associated with our Amended Loan and Security Agreement, as defined below, of $2.0 million, partially offset by increased interest income of $0.5 million recognized during the year ended December 31, 2022 as a result of higher interest rates earned on our cash balances. Liquidity and Capital Resources Sources of Liquidity We have not generated any revenue from product sales. Since inception, we have incurred net losses and negative cash flows from our operations. To date, we have financed our operations primarily through public offerings of our common stock, private placements of our convertible equity securities, term debt and collaborations. Through December 31, 2022, we have received an aggregate of $729.1 million from issuances of equity and $25.0 million from our Amended Loan and Security Agreement. 57 Table of Contents We follow the guidance of ASC Topic 205-40, Presentation of Financial Statements - Going Concern , in order to determine whether there is substantial doubt about our ability to continue as a going concern for one year after the date our financial statements are issued. Given our current development plans and cash management efforts, we anticipate that our cash resources will be sufficient to fund operations into the fourth quarter of 2023. Our ability to continue operations after our current cash resources are exhausted depends on our ability to obtain additional financing, as to which no assurances can be given. Cash requirements may vary materially from those now planned because of changes in our focus and direction of our research and development programs, competitive and technical advances, patent developments, regulatory changes or other developments. If adequate additional funds are not available when required, management may need to curtail its development efforts and planned operations to conserve cash. Based on the current cash forecast, management has determined that our present capital resources will not be sufficient to fund our planned operations for at least one year from the issuance date of the financial statements, which raises substantial doubt as to our ability to continue as a going concern. This forecast of cash resources and planned operations is forward-looking information that involves risks and uncertainties, and the actual amount of expenses could vary materially and adversely as a result of a number of factors. 2022 Public Offering On November 29, 2022, we entered into an underwriting agreement, or the Underwriting Agreement, with Cantor Fitzgerald & Co., or the Underwriter, as the sole underwriter, relating to the issuance and sale in an underwritten offering, or the Offering, of 24,228,719 shares of our common stock, or the Firm Shares, to the Underwriter at a price of $0.6191 per share. Our net proceeds from the Offering were $14.7 million (before accounting for the partial exercise of the Underwriter's option as described below) after deducting underwriting discounts and commissions and offering expenses payable by us. Under the terms of the Underwriting Agreement, we granted the Underwriter an option, exercisable for 30 days, to purchase up to an additional 3,634,307 shares of common stock, or, together with the Firm Shares, the Shares, at the same price per share as the Firm Shares. On January 5, 2023, the Underwriter partially exercised its option to purchase 216,294 shares of common stock. All of the Shares sold in the Offering were sold by us. 2022 Equity Distribution Agreement On August 12, 2022, we entered into an Equity Distribution Agreement, or the Equity Distribution Agreement, with Piper Sandler & Co., or Piper Sandler, pursuant to which we can offer and sell, from time to time at our sole discretion, shares of our common stock having an aggregate offering price of up to $50 million through Piper Sandler as our sales agent in an “at the market offering.” Piper Sandler will receive a commission of 3.0% of the gross proceeds of any common stock sold under the Equity Distribution Agreement. During the year ended December 31, 2022, there were no sales of our common stock under the Equity Distribution Agreement. In connection with entering into the Equity Distribution Agreement, we concurrently terminated, effective August 12, 2022, the Open Market Sale Agreement, dated June 21, 2019, governing our former “at the market offering” program. 2021 Loan and Security Agreement On August 6, 2021, we entered into the Loan and Security Agreement. The Loan and Security Agreement provided for an initial term loan of $25.0 million funded at the closing, with an additional tranche of $25.0 million available if certain funding and clinical milestones were met by August 31, 2022. Effective December 28, 2021, we entered into the Amended Loan and Security Agreement, or the Amended Loan and Security Agreement. Under the terms of the Amended Loan and Security Agreement, the SVB Facility was modified to eliminate the additional tranche, which remained unfunded, leaving only the initial $25.0 million as the full amount available under the SVB Facility. The SVB Facility bears interest at a floating rate per annum on the outstanding loans, payable monthly, at the greater of (a) 7.75% and (b) the current published U.S. prime rate, plus a margin of 4.5%. The Amended Loan and Security Agreement provided for an interest-only period through August 31, 2022. Commencing on September 1, 2022, aggregate outstanding borrowings became repayable in twelve consecutive, equal monthly installments of principal plus accrued interest. All outstanding obligations under the Amended Loan and Security Agreement are due and payable on August 1, 2023. We will also owe SVB 5.75% of the original principal amounts borrowed as a final payment. We are permitted to make up to two prepayments, subject to a prepayment premium of the amount being prepaid, ranging from 1.00% to 2.00%, of the SVB Facility, each such prepayment to be at least $5.0 million plus all accrued and unpaid interest on the portion being prepaid. As a result of not achieving certain milestones specified in the Amended Loan and Security Agreement on or prior to August 31, 2022, we were required to cash collateralize half of the sum of the then-outstanding principal amount of the SVB Facility, plus an amount equal to 5.75% of the original principal amount of the SVB Facility. As of December 31, 2022, we have collateralized $13.9 million, which is classified as restricted cash on our Balance Sheet. So long as no event of default has occurred and subject to certain other terms related to the remaining 58 Table of Contents outstanding balance under the SVB Facility being satisfied, $2.5 million will be released from the collateral account following the eighth scheduled payment of principal and interest, and a further $4.0 million will be released following the tenth scheduled payment of principal and interest. The SVB Facility and related obligations under the Amended Loan and Security Agreement are secured by substantially all of our properties, rights and assets, except for its intellectual property (which is subject to a negative pledge under the Amended Loan and Security Agreement). In addition, the Amended Loan and Security Agreement contains customary representations, warranties, events of default and covenants. In connection with our entry into the Loan and Security Agreement, we issued to SVB warrants to purchase (i) up to 432,844 shares of our common stock, in the aggregate, and (ii) up to an additional 432,842 shares of Common Stock, in the aggregate, in the event we achieved certain clinical milestones, in each case at an exercise price per share of $2.22. In connection with our entry into the Amended Loan and Security Agreement, we amended and restated the warrants issued to SVB. As amended and restated, the warrants are for up to 649,615 shares of our common stock, in the aggregate, at an exercise price per share of $1.16, or the SVB Warrants. The SVB Warrants expire on August 6, 2031. Cash Flows The following table summarizes our net increase (decrease) in cash and cash equivalents for the years ended December 31, 2022 and 2021: Year Ended December 31, 2022 2021 ($ in thousands) Net cash provided by (used in): Operating activities $ (29,232 ) $ (61,468 ) Investing activities (193 ) (3,323 ) Financing activities 6,367 25,776 Net decrease in cash and cash equivalents $ (23,058 ) $ (39,015 ) Cash flows from operating activities represent the cash receipts and disbursements related to all of our activities other than investing and financing activities. Operating cash flow is derived by adjusting our net loss • Non-cash operating items such as depreciation and stock-based compensation; and • Changes in operating assets and liabilities which reflect timing differences between the receipt and payment of cash associated with transactions and when they are recognized in results of operations. Net cash used in operating activities for the year ended December 31, 2022 was $29.2 million, as compared to $61.5 million for the year ended December 31, 2021. The decrease was primarily related to the reduction of our net loss by $41.1 million, partially offset by the extent of non-cash adjustments and working capital impacts. The net cash used in operating activities for the year ended December 31, 2022 was primarily a result of our net loss of $37.7 million, adjusted for $9.6 million of non-cash items such as depreciation, stock-based compensation and a decrease in the carrying amount of right-of-use assets, a decrease in accounts receivable of $1.1 million and a decrease in prepaid expenses and other assets of $1.0 million, offset by a decrease in accrued expenses of $0.7 million and a decrease in lease liabilities of $2.5 million. The net cash used in operating activities for the year ended December 31, 2021 was primarily a result of our net loss of $78.8 million, adjusted for $14.5 million of non-cash items such as depreciation and stock-based compensation and a decrease in accrued expenses of $10.5 million, offset by a decrease in receivables of $3.6 million, a decrease in prepaid expenses and other assets of $9.4 million and an increase in accounts payable of $0.3 million. Net cash used in investing activities was $0.2 million for the year ended December 31, 2022 as compared to $3.3 million for the year ended December 31, 2021. The decrease in net cash used in investing activities for the year ended December 31, 2022 compared to the year ended December 31, 2021 was primarily a result of the decision to use available cash to expand our internal cell therapy capabilities in our Houston, Texas facilities during the first half of 2021. Net cash provided by financing activities was $6.4 million for the year ended December 31, 2022 compared to $25.8 million for the year ended December 31, 2021. The $6.4 million provided by financing activities during the year ended December 31, 2022 related primarily to $14.7 million in net proceeds from the issuance of common stock (before accounting for the partial exercise of the Underwriter's option), offset by $8.3 million of repayments of long-term debt. Net cash provided by financing activities was $25.8 million for the year ended December 31, 2021, related primarily to proceeds from our $25.0 million SVB Facility and the proceeds from the exercise of stock options equal to $1.0 million. Operating Capital and Capital Expenditure Requirements We anticipate that losses will continue for the foreseeable future. As of December 31, 2022, our accumulated deficit was approximately $880.6 million. Our actual cash requirements may vary materially from those planned because of a number of factors, includin 59 Table of Contents • changes in the focus, direction and pace of our development programs; • the effect of competing technologies and market developments; • the scope, progress, timing, costs and results of our TCR-T Library Phase 1/2 Trial for the treatment of certain solid tumors and costs associated with the development of our product candidates; • our headcount growth as we rebuild our workforce with a focus on our TCR program and scale our manufacturing capabilities; • our ability to secure partnering arrangements; and • costs of filing, prosecuting, defending and enforcing any patent claims and any other intellectual property rights, or other developments. As of December 31, 2022, we had approximately $53.0 million of cash, cash equivalents and restricted cash. Our restricted cash of $13.9 million relates to the Amended Loan and Security Agreement. Given our current development plans, we anticipate our cash resources will be sufficient to fund our operations into the fourth quarter of 2023. In order to continue our operations beyond our forecasted runway we will need to raise additional capital, and we have no committed sources of additional capital at this time. The forecast of cash resources is forward-looking information that involves risks and uncertainties, and the actual amount of our expenses could vary materially and adversely as a result of a number of factors. We have based our estimates on assumptions that may prove to be wrong, and our expenses could prove to be significantly higher than we currently anticipate. Management does not know whether additional financing will be on terms favorable or acceptable to us when needed, if at all. If adequate additional funds are not available when required, or if we are unsuccessful in entering into partnership agreements for further development of our product candidates, management may need to curtail its development efforts and planned operations. Working capital, which excludes restricted cash, as of December 31, 2022 was $15.7 million, consisting of $39.9 million in current assets and $24.2 million in current liabilities. Working capital as of December 31, 2021 was $62.8 million, consisting of $78.8 million in current assets and $16.0 million in current liabilities. Operating Leases Our commitments for operating leases relate to laboratory and office space in Houston, Texas and office space in Boston, Massachusetts. On December 21, 2015 and April 15, 2016, we renewed the sublease for our office space in Boston through August 31, 2021. On April 22, 2021, we extended our sublease for a portion of office space at our office in Boston through August 31, 2026. On March 12, 2019, we entered into a lease agreement for office space in Houston at MD Anderson through April 2021. On October 15, 2019, we entered into another lease agreement for additional office and laboratory space in Houston through February 2027. On April 7, 2020, we entered into amendments to our existing lease to lease additional office and laboratory space in Houston through February 2027. In June and September 2020, we entered into short-term leases in Houston for additional office and laboratory space. On December 15, 2020, we entered into a second lease in Houston with MD Anderson which provided us additional office and laboratory space through April 2028. In April 2022, we modified our real estate lease agreement executed on December 15, 2020 with MD Anderson. The modification reduced our leased space from 18,111 square feet to 3,228 square feet. As a result, the associated lease liability and right-of-use asset were remeasured to $0.4 million based on revised lease payments. In June 2022, we executed an agreement to sub-sublease 4,772 square feet of our subleased office space in Boston. The term of the sub-sublease is from July 1, 2022 to June 30, 2025 and provides the sub-subtenant with an option to extend through to July 31, 2026. For the year ended December 31, 2022, we recognized $0.1 million in lease income, which is classified within other income (expense), net in the Statement of Operations. Royalty and License Fees On May 28, 2019, we entered into the Patent License with the NCI. The terms of the Patent License require us to pay the NCI minimum annual royalties in the amount of $0.3 million, which will be reduced to $0.1 million once the aggregate minimum annual royalties paid by us equals $1.5 million. For the year ended December 31, 2022, we recognized $0.3 million in royalty payments under the Patent License, and we recognized $0.3 million in royalty payments for the year ended December 31, 2021. As of December 31, 2022, we have paid a total of $0.5 million in minimum annual royalty payments under the Patent License. Pursuant to the Patent License, we are also required to make performance-based payments contingent upon the successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $4.3 million, of which aggregate payments of $3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $0.1 million was due upon the initiation of our TCR-T Library Phase 1/2 Trial. In addition, we are required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $250.0 million to $1.0 billion. The aggregate potential amount of these benchmark payments is $12.0 million. Payments of $0.1 million were made during the year ended December 31, 2022, and no payments were made during the year ended December 31, 2021. 60 Table of Contents On October 5, 2018, we entered into the License Agreement with PGEN. Under the License Agreement, we are obligated to pay PGEN an annual licensing fee of $0.1 million expected to be paid through the term of the agreement and we have also agreed to reimburse certain historical costs of PGEN up to $1.0 million. For the years ended December 31, 2022 and 2021, we have made licensing fee payments in accordance with the terms of the agreement. Pursuant to the terms of the License Agreement, we are responsible for contingent milestone payments totaling up to an additional $52.5 million for each exclusively licensed program upon the initiation of later stage clinical trials and upon the approval of exclusively licensed products in various jurisdictions. In addition, we will pay PGEN tiered royalties ranging from low-single digit to high-single digit on the net sales derived from the sales of any approved IL-12 products and CAR products. We will also pay PGEN royalties ranging from low-single digit to mid-single digit on the net sales derived from the sales of any approved TCR products, up to a maximum royalty amount of $100.0 million in the aggregate. We will also pay PGEN 20% of any sublicensing income received by us relating to the licensed products. We are responsible for all development costs associated with each of the licensed products. PGEN will pay us royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of PGEN’s CAR products, up to a maximum royalty amount of $100.0 million. In June 2022, Solasia announced that darinaparsin had been approved from relapsed or refractory Peripheral T-Cell Lymphoma by the Ministry of Health, Labor and Welfare in Japan. During the year ended December 31, 2022, the Company recorded $2.9 million of collaboration revenue under the Solasia License and Collaboration Agreement primarily related to Solasia's achievement of certain sales-based milestones in Japan, compared to $0.4 million during the year ended December 31, 2021. Critical Accounting Policies and Significant Estimates Our Management’s Discussion and Analysis of our financial condition and results of operations is based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements as well as the reported expenses during the reporting periods. We evaluate our estimates and judgments on an ongoing basis. Actual results may differ materially from these estimates under different assumptions or conditions. We believe the following are our more significant estimates and judgments used in the preparation of our financial statements: • Clinical trial expenses and other research and development expenses; • Collaboration agreements; • Fair value measurements of stock-based compensation; and • Income taxes. Research and Development Costs / Clinical Trial Expenses As part of the process of preparing our financial statements, we are required to estimate our accrued research and development expenses. This process involves reviewing open contracts and purchase orders, communicating with our personnel to identify services that have been performed on our behalf and estimating the level of service performed and the associated costs incurred for the services when we have not yet been invoiced or otherwise notified of the actual costs. The majority of our service providers invoice us in arrears for services performed, on a predetermined schedule or when contractual milestones are met; however, a few require advanced payments. We make estimates of our accrued expenses as of each balance sheet date in our financial statements based on facts and circumstances known to us at that time. Examples of estimated accrued research and development expenses include fees paid t • CROs in connection with performing research services on our behalf and clinical trials; • investigative sites or other providers in connection with clinical trials; • vendors in connection with preclinical and clinical development activities; and • vendors related to product manufacturing, development, and distribution of preclinical and clinical supplies. We base our expenses related to preclinical studies and clinical trials on our estimates of the services received and efforts expended pursuant to quotes and contracts with multiple CROs that conduct and manage clinical trials on our behalf. The financial terms of these agreements are subject to negotiation, vary from contract to contract and may result in uneven payment flows. There may be instances in which payments made to our vendors will exceed the level of services provided and result in a prepayment of the clinical expense. Payments under some of these contracts depend on factors such as the completion of clinical trial milestones. In accruing service fees, we estimate the time period over which services will be performed, enrollment of patients, number of sites activated and the level of effort to be expended in each period. Although we do not expect our estimates to be materially different from amounts actually incurred, our understanding of the status and timing of services performed relative to the actual status and timing of services performed may vary and may result in changes to our previous 61 Table of Contents estimates, which we considered reasonably reliable at the time. To date, we have not made any material adjustments to our prior estimates of accrued research and development expenses. Revenue Recognition from Collaboration Agreements We primarily generate revenue through collaboration arrangements with strategic partners for the development and commercialization of product candidates. Commencing January 1, 2018, we recognized revenue in accordance with Financial Accounting Standards Board (“FASB”) ASC Topic 606, Revenue from Contracts with Customers (“ASC 606”) , which replaced ASC 605, Multiple Element Arrangements , as used in historical years. The core principle of ASC 606 is that an entity should recognize revenue to depict the transfer of promised goods and/or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods and/or services. To determine the appropriate amount of revenue to be recognized for arrangements that we determine are within the scope of ASC 606, we perform the following steps: (i) identify the contract(s) with the customer, (ii) identify the performance obligations in the contract, (iii) determine the transaction price, (iv) allocate the transaction price to the performance obligations in the contract and (v) recognize revenue when (or as) each performance obligation is satisfied. We recognize collaboration revenue under certain of our license or collaboration agreements that are within the scope of ASC 606. Our contracts with customers typically include promises related to licenses to intellectual property, research and development services and options to purchase additional goods and/or services. If the license to our intellectual property is determined to be distinct from the other performance obligations identified in the arrangement, we recognize revenue from non-refundable, up-front fees allocated to the license when the license is transferred to the licensee and the licensee is able to use and benefit from the license. For licenses that are bundled with other promises, we utilize judgment to assess the nature of the combined performance obligation to determine whether the combined performance obligation is satisfied over time or at a point in time and, if over time, the appropriate method of measuring progress for purposes of recognizing revenue from non-refundable, up-front fees. Contracts that include an option to acquire additional goods and/or services are evaluated to determine if such option provides a material right to the customer that it would not have received without entering into the contract. If so, the option is accounted for as a separate performance obligation. If not, the option is considered a marketing offer which would be accounted for as a separate contract upon the customer’s election. The terms of our arrangements with customers typically include the payment of one or more of the followin (i) non-refundable, up-front payment, (ii) development, regulatory and commercial milestone payments, (iii) future options and (iv) royalties on net sales of licensed products. Accordingly, the transaction price is generally comprised of a fixed fee due at contract inception and variable consideration in the form of milestone payments due upon the achievement of specified events and tiered royalties earned when customers recognize net sales of licensed products. We measure the transaction price based on the amount of consideration to which we expect to be entitled in exchange for transferring the promised goods and/or services to the customer. We utilize the most likely amount method to estimate the amount of variable consideration, to predict the amount of consideration to which we will be entitled. Amounts of variable consideration are included in the transaction price to the extent that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the variable consideration is subsequently resolved. At the inception of each arrangement that includes development and regulatory milestone payments, we evaluate whether the associated event is considered probable of achievement and estimate the amount to be included in the transaction price using the most likely amount method. Milestone payments that are not within the control of us or the licensee, such as those dependent upon receipt of regulatory approval, are not considered to be probable of achievement until the triggering event occurs. At the end of each reporting period, we reevaluate the probability of achievement of each milestone and any related constraint, and if necessary, adjust our estimate of the overall transaction price. Any such adjustments are recorded on a cumulative catch-up basis, which would affect revenue and net loss in the period of adjustment. For arrangements that include sales-based royalties, including milestone payments based upon the achievement of a certain level of product sales, we recognize revenue upon the later o (i) when the related sales occur or (ii) when the performance obligation to which some or all of the payment has been allocated has been satisfied (or partially satisfied). Consideration that would be received for optional goods and/or services is excluded from the transaction price at contract inception. We allocate the transaction price to each performance obligation identified in the contract on a relative standalone selling price basis. However, certain components of variable consideration are allocated specifically to one or more particular performance obligations in a contract to the extent both of the following criteria are (i) the terms of the payment relate specifically to the efforts to satisfy the performance obligation or transfer the distinct good or service and (ii) allocating the variable amount of consideration entirely to the performance obligation or the distinct good or service is consistent with the allocation objective of the standard whereby the amount allocated depicts the amount of consideration to which the entity expects to be entitled in exchange for transferring the promised goods or services. We develop assumptions that require the use of judgment to determine the standalone selling price for each performance obligation identified in each contract. The key assumptions utilized in determining the standalone selling price for each performance obligation may include forecasted revenue, development timelines, estimated research and development costs, discount rates, likelihood of exercise and probabilities of technical and regulatory success. Revenue is recognized based on the amount of the transaction price that is allocated to each respective performance obligation when or as the performance obligation is satisfied by transferring a promised good and/or service to the customer. For performance obligations that are satisfied over time, we recognize revenue by measuring the progress toward complete satisfaction of the performance obligation using a single method of measuring progress which depicts the performance in transferring control of the associated goods and/or services to the customer. We use input methods to measure the progress toward the complete satisfaction of performance obligations satisfied over time. We evaluate the 62 Table of Contents measure of progress each reporting period and, if necessary, adjust the measure of performance and related revenue recognition. Any such adjustments are recorded on a cumulative catch-up basis, which would affect revenue and net loss in the period of adjustment. Accounting for Stock-Based Compensation Stock-based compensation cost is measured at the grant date, based on the estimated fair value of the award, and is recognized as expense over the employee’s requisite service period. Stock-based compensation expense is based on the number of awards ultimately expected to vest and is reduced for forfeitures as they occur. Consistent with prior years, the Company uses the Black-Scholes option pricing model, which requires estimates of the expected term option holders will retain their options before exercising them and the estimated volatility of the Company’s common stock price over the expected term. We review our valuation assumptions periodically and, as a result, we may change our valuation assumptions used to value share-based awards granted in future periods. Such changes may lead to a significant change in the expense we recognize in connection with share-based payments. Our assumptions are estimated as follows: • the fair market value of our common stock is considered the quoted market price on Nasdaq; • the expected volatility is based on the historical stock volatility of our common stock over a sufficient period of time equal to the expected term of the option; • the expected term represents the period that our stock options are expected to be outstanding; • the risk-free interest rate is based on the yields of U.S. Treasury securities with maturities commensurate with the expected term of the award; and • we have not paid dividends on our common stock nor do we expect to pay dividends in the foreseeable future. Income Taxes In preparing our financial statements, we estimate our income tax liability in each of the jurisdictions in which we operate by estimating our actual current tax expense together with assessing temporary differences resulting from differing treatment of items for tax and financial reporting purposes. These differences result in deferred tax assets and liabilities, which, prior to the consideration for the need for a valuation allowance, are included on our Balance Sheet. Significant management judgment is required in assessing the realizability of our deferred tax assets. In performing this assessment, we consider whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. In making this determination, under the applicable financial accounting standards, we are allowed to consider the scheduled reversal of deferred tax liabilities, projected future taxable income and the effects of tax planning strategies. Our estimates of future taxable income include, among other items, our estimates of future income tax deductions related to the exercise of stock options. In the event that actual results differ from our estimates, we adjust our estimates in future periods and we may need to establish a valuation allowance, which could materially impact our financial position and results of operations. We account for uncertain tax positions using a “more-likely-than-not” threshold for recognizing and resolving uncertain tax positions. The evaluation of uncertain tax positions is based on factors that include, but are not limited to, changes in tax law, the measurement of tax positions taken or expected to be taken in tax returns, the effective settlement of matters subject to audit, new audit activity and changes in facts or circumstances related to a tax position. We evaluate uncertain tax positions on an annual basis and adjust the level of the liability to reflect any subsequent changes in the relevant facts surrounding the uncertain positions. Our liabilities for uncertain tax positions can be relieved only if the contingency becomes legally extinguished through either payment to the taxing authority or the expiration of the statute of limitations, the recognition of the benefits associated with the position meet the “more-likely-than-not” threshold or the liability becomes effectively settled through the examination process. We consider matters to be effectively settled once the taxing authority has completed all of its required or expected examination procedures, including all appeals and administrative reviews; we have no plans to appeal or litigate any aspect of the tax position; and we believe that it is highly unlikely that the taxing authority would examine or re-examine the related tax position. We also accrue for potential interest and penalties related to unrecognized tax benefits in income tax expense. Recent Accounting Pronouncements For a discussion of new accounting standards, please read Note 3 to the accompanying financial statements, Summary of Significant Accounting Principles included in this report. Item 7A. Quantitative and Qualitative Disclosures About Market Risk As a smaller reporting company, as defined by Rule 12b-2 of the Exchange Act, we are not required to provide the information under this Item 7A. 63 Table of Contents Item 8. Financial Statements and Supplementary Data The information required by this Item 8 is contained on pages F-1 through F-26 of this Annual Report and is incorporated herein by reference. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures None. Item 9A. Controls and Procedures Evaluation of Disclosure Controls and Procedures. Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer and our principal accounting officer, we have evaluated the effectiveness of our disclosure controls and procedures, as such term is defined under Rule 13a-15(e) or 15d-15(e) promulgated under the Exchange Act, as of December 31, 2022. Based on that evaluation, our principal executive officer and principal financial officer has concluded that as of December 31, 2022, our disclosure controls and procedures were effective as described below under “ Management’s Report on Internal Control over Financial Reporting .” Management’s Report on Internal Control over Financial Reporting Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is defined in Rules 13(a)-15(f) and 15(d)-15(f) promulgated under the Exchange Act as a process designed by, or under the supervision of, our principal executive officer and principal financial officer and our principal accounting officer and effected by our board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles and includes those policies and procedures tha • Pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of our assets; • Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and • Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on the financial statements. Under the supervision and with the participation of management, including our principal executive officer and principal financial officer and our principal accounting officer, we assessed our internal control over financial reporting as of December 31, 2022, based on criteria for effective internal control over financial reporting established in Internal Control - Integrated Framework (2013), issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Our management’s assessment of the effectiveness of our internal control over financial reporting included testing and evaluating the design and operating effectiveness of our internal controls. In management’s opinion, we have maintained effective internal control over financial reporting as of December 31, 2022, based on the criteria discussed above. Inherent Limitations on Internal Controls Our management, including our principal executive officer and principal financial officer, and our principal accounting officer, do not expect that our disclosure controls and procedures or our internal controls will prevent all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by individual acts of some persons, by collusion of two or more people, or by management override of the control. The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. Changes in Internal Controls over Financial Reporting 64 Table of Contents There were no changes in our internal control over financial reporting (as defined in Rule 13(a)-15(f) of the Exchange Act) that occurred during the fiscal year ended December 31, 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. Item 9B. Other Information None. Item 9C. Disclosure Regarding Foreign Jurisdictions that Prevent Inspections None. 65 Table of Contents PART III Item 10. Directors, Executive Officers and Corporate Governance The information required by this Item 10 will be included in our definitive proxy statement to be filed with the SEC with respect to our 2023 Annual Meeting of Stockholders and is incorporated herein by reference. Item 11. Executive Compensation The information required by this Item 11 will be included in our definitive proxy statement to be filed with the SEC with respect to our 2023 Annual Meeting of Stockholders and is incorporated herein by reference. Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters The information required by this Item 12 will be included in our definitive proxy statement to be filed with the SEC with respect to our 2023 Annual Meeting of Stockholders and is incorporated herein by reference. Item 13. Certain Relationships and Related Transactions, and Director Independence The information required by this Item 13 will be included in our definitive proxy statement to be filed with the SEC with respect to our 2023 Annual Meeting of Stockholders and is incorporated herein by reference. Item 14. Principal Accountant Fees and Services The information required by this Item 14 will be included in our definitive proxy statement to be filed with the SEC with respect to our 2023 Annual Meeting of Stockholders and is incorporated herein by reference. 66 Table of Contents PART IV Item 15. Exhibits, Financial Statement Schedules (1) Financial Statements: The Financial Statements required to be filed by Item 8 of this Annual Report, and filed in this Item 15, are as follows: Page Report of Independent Registered Public Accounting Firm F- 1 Balance Sheets as of December 31, 2022 and 2021 F- 3 Statements of Operations for the Years Ended December 31, 2022 and 2021 F- 4 Statements of Changes in Stockholders’ Equity for the Years Ended December 31, 2022 and 2021 F- 5 Statements of Cash Flows for the Years Ended December 31, 2022 and 2021 F- 6 Notes to Financial Statements F- 7 (2) Financial Statement Schedul Schedules are omitted because they are not applicable, or are not required, or because the information is included in the financial statements and notes thereto. (3) Exhibits: Exhibit No. Description of Document 2.1 Agreement and Plan of Merger among the Registrant (formerly “EasyWeb, Inc.”), ZIO Acquisition Corp. and ZIOPHARM, Inc., dated August 3, 2005 (incorporated by reference to Exhibit 10.1 to the Registrant’s Form 8-K, SEC File No. 000-32353, filed August 9, 2005). 3.1 Amended and Restated Certificate of Incorporation, and all amendments thereto (incorporated by reference to Exhibit 3.1 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 30, 2022). 3.2 Certificate of Merger dated September 13, 2005, relating to the merger of ZIO Acquisition Corp. with and into ZIOPHARM, Inc. (incorporated by reference to Exhibit 3.1 to the Registrant’s Form 8-K, SEC File No. 000-32353, filed September 19, 2005). 3.3 Certificate of Ownership of the Registrant (formerly “EasyWeb, Inc.”) dated as of September 14, 2005, relating the merger of ZIOPHARM, Inc. with and into the Registrant, and changing the Registrant’s corporate name from EasyWeb, Inc. to ZIOPHARM Oncology, Inc. (incorporated by reference to Exhibit 3.2 to the Registrant’s Form 8-K, SEC File No. 000-32353, filed September 19, 2005). 3.4 Amended and Restated Certificate of Designation, Preferences and Rights of Series 1 Preferred Stock, as filed with the Delaware Secretary of State on July 1, 2016 (incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K/A, SEC File No. 001-33038, filed July 1, 2016). 3.5 Amended and Restated Bylaws of the Registrant, dated as of September 21, 2020 (incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed September 22, 2020). 4.1 Specimen common stock certificate (incorporated by reference to Exhibit 4.1 to the Registrant’s Registration Statement on Form SB-2, SEC File No. 333-129020, filed October 14, 2005). 4.2 Form of Option for the Purchase of Shares of common stock dated August 30, 2004 and issued to The University of Texas M. D. Anderson Cancer Center (incorporated by reference to Exhibit 4.6 to the Registrant’s Annual Report on Form 10-KSB, SEC File No. 000-32353, filed March 20, 2006). 4.3 Schedule identifying Material Terms of Options for the Purchase of Shares of Common Stock (incorporated by reference to Exhibit 4.7 to the Registrant’s Annual Report on Form 10-KSB, SEC File No. 000-32353, filed March 20, 2006). 4.4 Form of Warrant to Purchase Common Stock (incorporated by reference to Exhibit 4.1 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038 filed November 13, 2018). 4.5# Warrant to Purchase Common Stock issued to The University of Texas M. D. Anderson Cancer Center (incorporated by reference to Exhibit 4.7 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 2, 2020). 4.6 Form of Warrant to Purchase Shares of Common Stock issued to SVB and certain of its Affiliates, dated December 28, 2021 (incorporated by reference to Exhibit 4.6 to the Registrant's Annual Report on Form 10-K, SEC File No. 001-33038, filed March 30, 2022). 4.7 Description of Securities Registered Pursuant to Section 12 of the Securities Exchange Act of 1934, as amended (incorporated by reference to Exhibit 4.7 to the Registrant's Annual Report on Form 10-K, SEC File No. 001-33038, filed March 30, 2022). 10.3+ ZIOPHARM Oncology, Inc. 2012 Equity Incentive Plan, as amended (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038 filed September 24, 2018). 67 Table of Contents 10.4+ Form of Restricted Stock Agreement Granted Under the ZIOPHARM Oncology, Inc. 2012 Equity Incentive Plan (incorporated by reference to Exhibit 10.2 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038 filed June 26, 2012). 10.5+ Form of Option Agreement Granted Under the ZIOPHARM Oncology, Inc. 2012 Equity Incentive Plan (incorporated by reference to Exhibit 10.3 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038 filed June 26, 2012). 10.7+ Form of Inducement Award Grant Notice and Inducement Award Grant Agreement (incorporated by reference to Exhibit 99.3 to the Registrant’s Registration Statement on Form S-8, SEC File No. 333-238090, filed May 8, 2020). 10.8+ ZIOPHARM Oncology, Inc. 2020 Equity Incentive Plan (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038 filed July 1, 2020). 10.9+ Form of Restricted Stock Agreement Granted Under the ZIOPHARM Oncology, Inc. 2020 Equity Incentive Plan (incorporated by reference to Exhibit 10.9 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021 ). 10.10+ Form of Stock Option Agreement Granted Under the ZIOPHARM Oncology, Inc. 2020 Equity Incentive Plan (incorporated by reference to Exhibit 10.10 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021 ). 10.11+ Form of Indemnity Agreement for directors and executive officers (incorporated by reference to Exhibit 99.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed January 31, 2013). 10.16+ Employment Agreement, dated August 24, 2021, by and between the Registrant and Kevin S. Boyle Sr. (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed August 30, 2021). 10.23# Form of Retention Bonus Agreement (incorporated by reference to Exhibit 10.20 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021). 10.24# License Agreement by and among the Registrant, Intrexon Corporation and The University of Texas System Board of Regents on behalf of The University of Texas M.D. Anderson Cancer Center dated as of January 13, 2015 (incorporated by reference to Exhibit 10.5 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed January 28, 2015). 10.25† Exclusive License Agreement by and between the Registrant, Precigen, Inc. and Intrexon Corporation, dated October 5, 2018 (incorporated by reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q, SEC File No. 001-33038, filed November 9, 2018). 10.26# Amendment No. 1 to the Exclusive License Agreement by and between the Registrant and PGEN Therapeutics, Inc. (formerly known as Precigen, Inc.), dated October 15, 2020 (incorporated by reference to Exhibit 10.2 to the Registrant’s Quarterly Report on Form 10-Q SEC File No. 001-33038, filed November 5, 2020). 10.27† License and Collaboration Agreement by and among the Registrant, Intrexon Corporation and Ares Trading S.A. dated as of March 27, 2015 (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed April 2, 2015). 10.28# Research and Development Agreement by and among the Registrant, Intrexon Corporation and The University of Texas M.D. Anderson Cancer Center dated as of August 17, 2015 (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed August 21, 2015). 10.29 First Amendment to the Research and Development Agreement by and among the Registrant, Intrexon Corporation and The University of Texas M.D. Anderson Cancer Center dated as of August 30, 2016 (incorporated by reference to Exhibit 10.21 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 5, 2019). 10.30 Second Amendment to the Research and Development Agreement by and among the Registrant, Intrexon Corporation and The University of Texas M.D. Anderson Cancer Center dated as of January 17, 2017 (incorporated by reference to Exhibit 10.21 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 5, 2019). 10.31 Third Amendment to the Research and Development Agreement by and among the Registrant, Intrexon Corporation and The University of Texas M.D. Anderson Cancer Center dated as of November 14, 2017 (incorporated by reference to Exhibit 10.23 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 5, 2019). 10.32 Fourth Amendment to Research and Development Agreement, dated September 19, 2019 by and among the Registrant, The University of Texas MD Anderson Cancer Center and Precigen, Inc. (incorporated by reference to Exhibit 10.7 to the Registrant’s Quarterly Report on Form 10-Q, SEC File No. 001-33038, filed November 7, 2019). 10.33# Fifth Amendment to Research and Development Agreement, dated October 22, 2019 by and among the Registrant and The University of Texas MD Anderson Cancer Center (incorporated by reference to Exhibit 10.20 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 2, 2020). 10.34# 2019 Research and Development Agreement, dated October 22, 2019, by and between the Registrant and The University of Texas MD Anderson Cancer Center (incorporated by reference to Exhibit 10.21 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 2, 2020). 10.35# Patent License Agreement, dated as of May 28, 2019, by and between the Registrant and the National Cancer Institute (incorporated by reference to Exhibit 10.3 to the Registrant’s Quarterly Report on Form 10-Q, SEC File No. 001-33038, filed August 8, 2019). 10.36# First Amendment to Patent License Agreement, dated as of January 8, 2020, by and between the Registrant and the National Cancer Institute (incorporated by reference to Exhibit 10.23 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 2, 2020). 68 Table of Contents 10.37# Second Amendment to Patent License Agreement, dated as of September 28, 2020, by and between the Registrant and the National Cancer Institute (incorporated by reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q, SEC File No. 000-33038, filed November 5, 2020). 10.38# Third Amendment to Patent License Agreement, dated as of April 16, 2021, by and between the Registrant and the National Cancer Institute (incorporated by reference to Exhibit 10.38 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 30, 2022). 10.39# Fourth Amendment to Patent License Agreement, dated as of May 4, 2021, by and between the Registrant and the National Cancer Institute (incorporated by reference to Exhibit 10.39 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 30, 2022). 10.40# Fifth Amendment to Patent License Agreement, dated as of August 13, 2021, by and between the Registrant and the National Cancer Institute (incorporated by reference to Exhibit 10.40 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 30, 2022). 10.41# Cooperative Research and Development Agreement, dated January 9, 2017, by and among the Registrant, the National Cancer Institute, and Intrexon Corporation (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038, filed September 26, 2019). 10.42 First Amendment to the Cooperative Research and Development Agreement, dated March 23, 2018, by and among the Registrant, National Cancer Institute, Intrexon Corporation and Precigen, Inc. (incorporated by reference to Exhibit 10.2 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038, filed September 26, 2019). 10.43# Second Amendment to the Cooperative Research and Development Agreement, dated February 1, 2019, by and among the National Cancer Institute, the Registrant and Precigen, Inc. (incorporated by reference to Exhibit 10.3 to the Registrant’s Current Report on Form 8-K SEC File No. 001-33038, filed September 26, 2019). 10.44 Third Amendment to the Cooperative Research and Development Agreement, dated March 15, 2022, by and among the National Cancer Institute and the Registrant (incorporated by reference to Exhibit 10.44 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 30, 2022). 10.45 Fourth Amendment to the Cooperative Research and Development Agreement, dated June 24, 2022, by and between the National Cancer Institute and the Registrant (incorporated by reference to Exhibit 10.1 to the Registrant's Quarterly Report on Form 10-Q, SEC File No. 001-33038, filed August 15, 2022). 10.46 Lease Agreement, dated as of October 15, 2019, by and between the Registrant and The University of Texas System Board of Regents on behalf of The University of Texas M.D. Anderson Cancer Center (incorporated by reference to Exhibit 10.39 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021). 10.47 First Amendment, dated as of April 7, 2020, to the Lease Agreement, dated as of October 15, 2019, by and between the Registrant and The University of Texas System Board of Regents on behalf of The University of Texas M.D. Anderson Cancer Center (incorporated by reference to Exhibit 10.40 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021). 10.48 Second Amendment, dated as of April 7, 2020, to the Lease Agreement, dated as of October 15, 2019, by and between the Registrant and The University of Texas System Board of Regents on behalf of The University of Texas M.D. Anderson Cancer Center (incorporated by reference to Exhibit 10.41 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021). 10.49 Third Amendment, dated as of December 15, 2020, to the Lease Agreement, dated as of October 15, 2019, by and between the Registrant and The University of Texas System Board of Regents on behalf of The University of Texas M.D. Anderson Cancer Center (incorporated by reference to Exhibit 10.42 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021). 10.50 Lease Agreement dated as of December 15, 2020, by and between the Registrant and The University of Texas System Board of Regents on behalf of The University of Texas M.D. Anderson Cancer Center (incorporated by reference to Exhibit 10.43 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 1, 2021). 10.51 Agreement dated February 4, 2021, by and among the Registrant, WaterMill Asset Management Corp. and Robert W. Postma (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed February 5, 2021). 10.52 Loan and Security Agreement by and among the Registrant, the lenders party thereto and Silicon Valley Bank, as administrative agent and collateral agent, dated August 6, 2021 (incorporated by reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q, SEC File No. 001-33038, filed November 8, 2021). 10.53 First Amendment to the Loan and Security Agreement by and among the Registrant, the lenders party thereto and Silicon Valley Bank, as administrative agent and collateral agent, dated December 28, 2021 (incorporated by reference to Exhibit 10.52 to the Registrant’s Annual Report on Form 10-K, SEC File No. 001-33038, filed March 30, 2022). 10.54 Equity Distribution Agreement, dated August 12, 2022, by and between Piper Sandler & Co. and the Registrant (incorporated by reference to Exhibit 10.2 to the Registrant’s Quarterly Report on Form 10-Q, SEC File No. 001-33038, filed August 15, 2022). 69 Table of Contents 10.55 Underwriting Agreement, dated as of November 29, 2022, by and between Cantor Fitzgerald & Co. and the Registrant (incorporated by reference to Exhibit 1.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed November 30, 2022). 23.1* Consent of Independent Registered Public Accounting Firm . 24.1* Power of Attorney (incorporated by reference to the signature page of this Annual Report on Form 10-K). 31.1* Certification of Principal Executive Officer pursuant to Exchange Act Rule 13a-14(a) or 15(d)-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1** Certification of Principal Executive Officer and Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 101.INS* Inline XBRL Instance Document 101.SCH* Inline XBRL Taxonomy Extension Schema Document 101.CAL* Inline XBRL Taxonomy Extension Calculation Linkbase Document 101.DEF* Inline XBRL Taxonomy Extension Definition Linkbase Document 101.LAB* Inline XBRL Taxonomy Extension Label Linkbase Document 101.PRE* Inline XBRL Taxonomy Extension Presentation Linkbase Document 104* Cover Page Interactive Data File-the cover page interactive data is embedded within the Inline XBRL document or included within the Exhibit 101 attachments * Filed herewith. ** Furnished herewith. + Indicates management contract or compensatory plan. † Confidential treatment has been granted by the Securities and Exchange Commission as to certain portions of this document. # Portions of this document (indicated by “[***]”) have been omitted because such information is not material and is the type of information that the Registrant treats as private or confidential. Item 16. Form 10-K Summary None. 70 Table of Contents SIGN ATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ALAUNOS THERAPEUTICS, INC. Date: March 7, 2023 By: /s/ Kevin S. Boyle, Sr. Kevin S. Boyle, Sr. Chief Executive Officer and Director (Principal Executive Officer and Principal Financial Officer) Date: March 7, 2023 By: /s/ Michael Wong Michael Wong Vice President, Finance (Principal Accounting Officer) KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Kevin S. Boyle, Sr. and Michael Wong, jointly and severally, as his or her true and lawful attorneys-in-fact and agents, with full power of substitution and resubstitution, for him or her, and in his or her name, place and stead, in any and all capacities, to sign any and all amendments to this report, and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents full power and authority to do and perform each and every act and thing requisite or necessary to be done in and about the premises hereby ratifying and confirming all that said attorneys-in-fact and agents, or his substitute or substitutes, may lawfully do or cause to be done by virtue hereof. Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Signature Title Date /s/ Kevin S. Boyle, Sr. Kevin S. Boyle, Sr. Chief Executive Officer and Director (Principal Executive Officer and Principal Financial Officer) March 7, 2023 /s/ Michael Wong Michael Wong Vice President, Finance (Principal Accounting Officer) March 7, 2023 /s/ Christopher Bowden Christopher Bowden Director March 7, 2023 /s/ James Huang James Huang Director March 7, 2023 /s/ Robert W. Postma Robert W. Postma Director March 7, 2023 /s/ Mary Thistle Mary Thistle Director March 7, 2023 /s/ Jaime Vieser Jaime Vieser Director March 7, 2023 /s/ Holger Weis Holger Weis Director March 7, 2023 71 Table of Contents Alaunos Therapeutics, Inc. INDEX TO FINANCIAL STATEMENTS Page Report of Independent Registered Public Accounting Firm ( RSM US LLP ; Boston, MA ; PCAOB ID: 49 ) F- 1 Balance Sheets as of December 31, 2022 and 2021 F- 3 Statements of Operations for the Years Ended December 31, 2022 and 2021 F- 4 Statements of Changes in Stockholders’ Equity for the Years Ended December 31, 2022 and 2021 F- 5 Statements of Cash Flows for the Years Ended December 31, 2022 and 2021 F- 6 Notes to Financial Statements F- 7 Table of Contents REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Stockholders and the Board of Directors of Alaunos Therapeutics, Inc. Opinion on the Financial Statements We have audited the accompanying balance sheets of Alaunos Therapeutics, Inc. and its subsidiaries (the Company) as of December 31, 2022 and 2021, the related statements of operations, stockholders' equity and cash flows for the years then ended, and the related notes to the financial statements (collectively, the financial statements). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2022 and 2021, and the results of its operations and its cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America. The Company’s Ability to Continue as a Going Concern The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 1 to the financial statements, the Company has incurred recurring operating losses since its inception and will be required to raise additional capital to fund operations. This raises substantial doubt about the Company's ability to continue as a going concern. Management's plans in regard to these matters also are described in Note 1. The financial statements do not include any adjustments that might result from the outcome of this uncertainty. Basis for Opinion These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion. Critical Audit Matters The critical audit matters communicated below are matters arising from the current period audit of the financial statements that were communicated or required to be communicated to the audit committee and tha (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate. Accruals for Clinical Trials and Other Research and Development Expenses As discussed in Note 3 to the financial statements, the Company accrues costs for clinical trials and other research and development expenses based on estimates of costs incurred through the balance sheet date that have not been invoiced by the clinical research organizations, clinical study sites, consultants, or other vendors. This process involves reviewing open contracts and purchase orders, communicating with vendors and internal personnel to identify services that have been performed, and estimating the level of service performed and the associated costs incurred for the services when the Company has not yet been invoiced or otherwise notified of the actual costs. The Company's accrual for clinical trial and preclinical study expenses totaled $2.4 million at December 31, 2022 as disclosed in Note 6. We identified the accruals for clinical trials and other research and development expenses to be a critical audit matter because auditing the Company’s accruals is complex as the information necessary to make an estimate is accumulated from multiple sources and there may be delays in invoicing from clinical study sites and other vendors, or payments may depend on factors such as the completion of clinical trial milestones. Additionally, in certain circumstances, it requires judgment, as the timing and pattern of vendor invoicing may not correspond to the level of services provided. How We Addressed the Matter in our Audit Our audit procedures to test the accruals for clinical trial and preclinical studies expenses included, among othe • We tested the accuracy and completeness of the underlying data used in the estimates and evaluated the reasonableness of assumptions used by management. • We inspected certain contracts with third parties and related information received by the Company to test proper recording of costs incurred to date. F- 1 Table of Contents • We corroborated the progress of research and development activities through discussion with the Company’s research and development personnel, specifically those who oversee the projects, and confirmations with the third parties. • We performed analytical procedures over fluctuations in accruals on a department level throughout the year. • We tested subsequent invoices received from third parties and cash disbursements to assess completeness of recorded accruals. /s/ RSM US LLP We have served as the Company's auditor since 2010. Boston, Massachusetts March 7, 2023 F- 2 Table of Contents A launos Therapeutics, Inc. BALANCE SHEETS (in thousands, except share and per share data) December 31, December 31, 2022 2021 ASSETS: Current assets: Cash and cash equivalents $ 39,058 $ 76,054 Restricted cash 13,938 — Receivables 4 1,111 Prepaid expenses and other current assets 799 1,666 Total current assets 53,799 78,831 Property and equipment, net 8,460 10,941 Right-of-use asset 2,136 4,420 Deposits 42 42 Other non-current assets 500 631 Total assets $ 64,937 $ 94,865 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable $ 1,389 $ 1,368 Long-term debt, current 16,765 7,868 Accrued expenses 5,454 6,076 Lease liability, current 558 729 Total current liabilities 24,166 16,041 Long-term debt — 16,250 Lease liability, non-current 2,188 4,518 Other non-current liabilities 28 — Total liabilities $ 26,382 $ 36,809 Commitments and contingencies (Note 9) Stockholders' equity Common stock $ 0.001 par value; 420,000,000 shares authorized, 240,410,761 shares issued and outstanding at December 31, 2022 and 350,000,000 shares authorized, 216,127,443 shares issued and outstanding at December 31, 2021 240 216 Additional paid-in capital 918,942 900,693 Accumulated deficit ( 880,627 ) ( 842,852 ) Total stockholders' equity 38,555 58,057 Total liabilities and stockholders' equity $ 64,937 $ 94,865 The accompanying notes are an integral part of these financial statements. F- 3 Table of Contents A launos Therapeutics, Inc. STATEMENTS OF OPERATIONS (in thousands, except share and per share data) For the Year Ended December 31, 2022 2021 Collaboration revenue $ 2,922 $ 398 Operating expens Research and development 25,018 49,643 General and administrative 13,142 27,564 Gain on lease modification ( 133 ) — Property and equipment and right-of-use assets impairment — 740 Total operating expenses 38,027 77,947 Loss from operations ( 35,105 ) ( 77,549 ) Other income (expense): Interest expense ( 3,154 ) ( 1,189 ) Other income (expense), net 529 ( 13 ) Other income (expense), net ( 2,625 ) ( 1,202 ) Net loss $ ( 37,730 ) $ ( 78,751 ) Basic and diluted net loss per share $ ( 0.17 ) $ ( 0.37 ) Weighted average common shares outstanding, basic and diluted 217,130,311 214,399,074 The accompanying notes are an integral part of these financial statements. F- 4 Table of Contents A launos Therapeutics, Inc. STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (in thousands, except share and per share data) Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at December 31, 2020 214,591,906 $ 215 $ 887,868 $ ( 764,101 ) $ 123,982 Stock-based compensation — — 10,774 — 10,774 Exercise of employee stock options 363,109 — 1,036 — 1,036 Common stock issuance 5,991 — — — — Restricted stock awards 1,601,224 1 ( 1 ) — — Cancelled restricted common stock ( 434,787 ) — — — — Issuance of warrants — — 1,016 — 1,016 Net loss — — — ( 78,751 ) ( 78,751 ) Balance at December 31, 2021 216,127,443 $ 216 $ 900,693 $ ( 842,852 ) $ 58,057 Stock-based compensation — — 3,528 — 3,528 Restricted stock awards 280,000 — — — — Cancelled restricted common stock ( 232,901 ) — — — — Exercise of employee stock options 26,250 — 21 — 21 Repurchase of common stock ( 18,750 ) — — ( 45 ) ( 45 ) Issuance of common stock, net of expenses 24,228,719 24 14,700 — 14,724 Net loss — — — ( 37,730 ) ( 37,730 ) Balance at December 31, 2022 240,410,761 $ 240 $ 918,942 $ ( 880,627 ) $ 38,555 The accompanying notes are an integral part of these financial statements. F- 5 Table of Contents A launos Therapeutics, Inc. STATEMENTS OF CASH FLOWS (in thousands) For the Year Ended December 31, 2022 2021 Cash flows from operating activiti Net loss $ ( 37,730 ) $ ( 78,751 ) Adjustments to reconcile net loss to net cash used in operating activiti Depreciation 2,759 2,597 Property and equipment and right-of-use asset impairment — 740 Amortization of financing costs 981 383 Stock-based compensation 3,528 10,774 Decrease (increase) in the carrying amount of right-of-use assets 2,417 ( 352 ) Gain on lease modification ( 133 ) — Loss on sale of equipment 7 — (Increase) decrease in: Receivables 1,107 3,555 Prepaid expenses and other current assets 867 9,189 Other non-current assets 131 201 Increase (decrease) in: Accounts payable ( 25 ) 274 Accrued expenses ( 668 ) ( 10,512 ) Lease liabilities ( 2,501 ) 434 Other non-current liabilities 28 — Net cash used in operating activities ( 29,232 ) ( 61,468 ) Cash flows from investing activiti Purchases of property and equipment ( 216 ) ( 3,323 ) Proceeds from the sale of property and equipment 23 — Net cash used in investing activities ( 193 ) ( 3,323 ) Cash flows from financing activiti Proceeds from long-term debt borrowing — 25,000 Debt issuance costs — ( 260 ) Proceeds from the exercise of stock options 21 1,036 Proceeds from the issuance of common stock 14,724 — Repurchase of common stock ( 45 ) — Repayment of long-term debt ( 8,333 ) — Net cash provided by financing activities 6,367 25,776 Net decrease in cash, cash equivalents and restricted cash ( 23,058 ) ( 39,015 ) Cash, cash equivalents and restricted cash, beginning of period 76,054 115,069 Cash, cash equivalents and restricted cash, end of period $ 52,996 $ 76,054 Supplementary disclosure of cash flow informati Cash paid for interest $ 2,171 $ 630 Amounts included in accrued expenses and accounts payable related to property and equipment $ 91 $ 134 The accompanying notes are an integral part of these financial statements. F- 6 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS 1. Organization Alaunos Therapeutics, Inc., which is referred to herein as “Alaunos,” or the “Company,” is a clinical-stage oncology-focused cell therapy company developing adoptive TCR therapies, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. On January 25, 2022, the Company changed its corporate name from ZIOPHARM Oncology, Inc. to Alaunos Therapeutics, Inc. The Company is leveraging its proprietary, non-viral Sleeping Beauty gene transfer platform and its novel cancer mutation hotspot TCR library to design and manufacture personalized cell therapies that target neoantigens arising from common tumor-related mutations in key oncogenic genes, including KRAS, TP53 and EGFR. The Company’s operations to date have consisted primarily of conducting research and development and raising capital to fund those efforts. In May 2021, the Company announced that it will be winding down its existing Controlled IL-12 clinical program for the treatment of recurrent glioblastoma multiforme. The Company continues to seek a partner for this program. The Company’s amended and restated certificate of incorporation authorizes it to issue 420,000,000 shares of common stock. As of December 31, 2022, there were 240,410,761 shares of common stock outstanding and an additional 33,330,964 shares of common stock reserved for issuance pursuant to outstanding stock options and warrants. The accompanying financial statements have been prepared on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities and commitments in the normal course of business. The Company follows the guidance of Accounting Standards Codification, or ASC, Topic 205-40, Presentation of Financial Statements - Going Concern , in order to determine whether there is substantial doubt about its ability to continue as a going concern for one year after the date its financial statements are issued. This evaluation initially does not take into consideration the potential mitigating effect of management's plans that have not been fully implemented as of the date the financial statements are issued. When substantial doubt exists, management evaluates whether the mitigating effect of its plans sufficiently alleviates the substantial doubt about the Company's ability to continue as a going concern. The mitigating effect of management's plans, however, is only considered if both (i) it is probable that the plans will be effectively implemented within one year after the date that the financial statements are issued and (ii) it is probable that the plans, when implemented, will mitigate the relevant conditions or events that raise substantial doubt about the entity's ability to continue as a going concern within one year after the date that the financial statements are issued. The Company has operated at a loss since its inception in 2003 and has no recurring revenue from operations. The Company anticipates that losses will continue for the foreseeable future. As of December 31, 2022, the Company had approximately $ 53.0 million of cash, cash equivalents and restricted cash. The restricted cash of $ 13.9 million at December 31, 2022 is related to the Company's debt agreement (refer to Note 4, Debt ). The Company’s accumulated deficit at December 31, 2022 was approximately $ 880.6 million. Given its current development plans and cash management efforts, the Company anticipates cash resources will be sufficient to fund operations into the fourth quarter of 2023. The Company’s ability to continue operations after its current cash resources are exhausted depends on future events, including its ability to obtain additional financing or to achieve profitable operations, as to which no assurances can be given, nor are within the Company's control. If adequate additional funds are not available when required, or if the Company is unsuccessful in entering into partnership agreements for further development of its product candidates, management may need to curtail its development efforts and planned operations to conserve cash until sufficient additional capital is raised. There can be no assurances that such a plan would be successful. Based on the current cash forecast and the Company's dependence on its ability to obtain additional financing to fund its operations after the current resources are exhausted, about which there can be no certainty, management has determined that the Company's present capital resources will not be sufficient to fund its planned operations for at least one year from the issuance date of the financial statements, and substantial doubt as to the Company's ability to continue as a going concern exists. This forecast of cash resources is forward-looking information that involves risks and uncertainties, and the actual amount of expenses could vary materially and adversely as a result of a number of factors. F- 7 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS 2. Financings 2021 Loan and Security Agreement On August 6, 2021, the Company entered into a Loan and Security Agreement, or the Loan and Security Agreement, with Silicon Valley Bank and affiliates of Silicon Valley Bank, or collectively, SVB. The Loan and Security Agreement provided for an initial term loan of $ 25.0 million funded at the closing, or the Term A Tranche, with an additional tranche of $ 25.0 million available if certain funding and clinical milestones were met by August 31, 2022, or the Term B Tranche. Effective December 28, 2021, the Company, entered into a First Amendment to the Loan and Security Agreement. We refer to the Loan and Security Agreement, as so amended, as the Amended Loan and Security Agreement. The Amended Loan and Security Agreement extended the interest-only period through August 31, 2022. Certain milestones specified in the Amended Loan and Security Agreement were not met by the Company on or prior to August 31, 2022, and therefore, the interest-only period was not extended beyond August 31, 2022. The Amended Loan and Security Agreement also eliminated the Term B Tranche, which remained unfunded, leaving only the Term A Tranche, or the SVB Facility. Under the Amended Loan and Security Agreement, the SVB Facility will mature on August 1, 2023. Refer to Note 4, Debt, for further discussion of the Loan and Security Agreement and the Amended Loan and Security Agreement. 2022 Equity Distribution Agreement On August 12, 2022, the Company entered into an Equity Distribution Agreement, or the Equity Distribution Agreement, with Piper Sandler & Co., or Piper Sandler, pursuant to which the Company can offer and sell, from time to time at its sole discretion, shares of its common stock having an aggregate offering price of up to $ 50.0 million through Piper Sandler as its sales agent in an "at the market offering." Piper Sandler will receive a commission of 3.0 % of the gross proceeds of any common stock sold under the Equity Distribution Agreement. During the year ended December 31, 2022, there have been no sales of the Company's common stock under the Equity Distribution Agreement. 2022 Public Offering On November 29, 2022, the Company entered into an underwriting agreement, or the Underwriting Agreement, with Cantor Fitzgerald & Co., or the Underwriter, as the sole underwriter, relating to the issuance and sale in an underwritten offering, or the Offering, of 24,228,719 shares, or the Firm Shares, of the Company’s common stock to the Underwriter at a price of $ 0.6191 per share. The net proceeds to the Company from the Offering were $ 14.7 million (before accounting for the partial exercise of the Underwriter's option as described below) after deducting underwriting discounts and commissions and offering expenses payable by the Company. Under the terms of the Underwriting Agreement, the Company granted the Underwriter an option, exercisable for 30 days , to purchase up to an additional 3,634,307 shares of common stock, which we refer to, together with the Firm Shares, as the Shares, at the same price per share as the Firm Shares. On January 5, 2023, the Underwriter partially exercised its option to purchase 216,294 shares of common stock. All of the Shares sold in the Offering were sold by the Company. 3. Summary of Significant Accounting Policies Basis of Presentation The accompanying financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP. Use of Estimates The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Although the Company regularly assesses these estimates, actual results could differ from those estimates. Changes in estimates are recorded in the period in which they become known. F- 8 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS The Company’s most significant estimates and judgments used in the preparation of the financial statements • Clinical trial expenses and other research and development expenses; • Collaboration agreements; • Fair value measurements of stock-based compensation; and • Income taxes. Subsequent Events The Company evaluated all events and transactions that occurred after the balance sheet date through the date of this Annual Report on Form 10-K. The Company did not have any material subsequent events that impacted its financial statements or disclosures. Cash and Cash Equivalents Cash equivalents consist primarily of demand deposit accounts, certificates of deposit and deposits in short-term U.S. treasury money market mutual funds. Cash equivalents are stated at cost, which approximates fair market value. Concentrations of Credit Risk Financial instruments which potentially subject the Company to concentrations of credit risk consist principally of cash and cash equivalents. The Company maintains cash accounts in commercial banks, which may, at times, exceed federally insured limits. The Company has not experienced any losses in such accounts. The Company believes it is not exposed to any significant credit risk on cash and cash equivalents. Property and Equipment Property and equipment are stated at cost, less accumulated depreciation and amortization. Expenditures for maintenance and repairs are charged to expense while the costs of significant improvements are capitalized. Depreciation and amortization is calculated on a straight-line basis using the following periods, which represent the estimated useful lives of the assets: ● Office and computer equipment 3 years ● Software 3 years ● Laboratory equipment 5 years ● Leasehold improvements Life of the lease Costs, including certain design, construction and installation costs related to assets that are under construction and are in the process of being readied for their intended use, are recorded as construction in progress and are not depreciated until such time as the subject asset is placed in service. Repairs and maintenance that do not extend the useful life of the asset are expensed as incurred. Upon sale, retirement or other disposition of these assets, the costs and related accumulated depreciation are removed from the respective accounts and any gain or loss on the disposition is included in the Statements of Operations. Long-Lived Assets Assessments of long-lived assets and the remaining useful lives of such long-lived assets are reviewed for impairment whenever a triggering event occurs or changes in circumstances indicate that the carrying amount of the assets may not be recoverable. An asset, or group of assets, is considered to be impaired when the undiscounted estimated net cash flows expected to be generated by the asset, or group of assets, are less than its carrying amount. The impairment recognized is the amount by which the carrying amount exceeds the fair market value of the impaired asset, or group of assets, based on the present value of the expected future cash flows associated with the use of the asset. Operating Segments Operating segments are identified as components of an enterprise about which separate discrete financial information is available for evaluation by the Company’s chief operating decision maker, in making decisions regarding resource allocation and assessing performance. The Company views its operations and manages its business in one operating segment. Warrants F- 9 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS The Company assesses whether warrants issued require accounting as derivatives. The Company determined that the warrants were (1) indexed to the Company’s own stock and (2) classified in stockholders’ equity in accordance with Financial Accounting Standards Board, or FASB, ASC Topic 815, Derivatives and Hedging . As such, the Company has concluded the warrants meet the scope exception for determining whether the instruments require accounting as derivatives and should be classified in stockholders’ equity. Fair Value Measurements The Company has certain financial assets and liabilities recorded at fair value which have been classified as Level 1, 2 or 3 within the fair value hierarchy as described in the accounting standards for fair value measurements. • Level 1—Quoted prices in active markets for identical assets or liabilities. • Level 2—Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. • Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Assets and liabilities measured at fair value on a recurring and nonrecurring basis as of December 31, 2022 and 2021 are as follows: ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of December 31, 2022 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 38,058 $ 38,058 $ — $ — ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of December 31, 2021 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 75,222 $ 75,222 $ — $ — The cash equivalents represent demand deposit accounts and deposits in a short-term United States treasury money market mutual fund quoted in an active market and classified as a Level 1 asset. There have been no changes to the valuation methods during the years ended December 31, 2022 and 2021. The Company had no financial assets or liabilities that were classified as Level 2 or Level 3 during the years ended December 31, 2022 and 2021. Fair value of non-financial instruments The Company evaluates its assets for impairment whenever events or changes in circumstances indicate that indicators of impairment exist. In those evaluations, the Company compares estimated future undiscounted cash flows generated by each asset (or asset group) to the carrying value of the asset (or asset group) to determine if an impairment charge is required. If the undiscounted cash flows test fails, the Company estimates the fair value of the asset (or asset group) to determine the impairment. During 2021, following the Company's strategic restructuring and further cost reduction initiatives, the Company determined that changes in the intended use of its Boston office represented an indicator of impairment, resulting in an impairment charge of $ 0.6 million to the right-of-use asset. In addition, the Company impaired approximately $ 0.1 million of leasehold improvements and various other assets associated with its decision to close the Company's Boston office. Refer to Note 8, Leases, for further details. Revenue Recognition from Collaboration Agreements Revenue for the year ended December 31, 2022 consisted of $ 2.9 million and for the year ended December 31, 2021 consisted of $ 0.4 million. For the years ended December 31, 2022 and 2021, the Company recognized revenue through its Collaboration Agreement with Solasia Pharma K.K. primarily due to the achievement of milestones, as further described in Note 9, Commitments and Contingencies. F- 10 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS The Company primarily generates revenue through collaboration arrangements with strategic partners for the development and commercialization of product candidates. The Company recognizes revenue in accordance with ASC 606, Revenue from Contracts with Customers, or ASC 606. The core principle of ASC 606 is that an entity should recognize revenue to depict the transfer of promised goods and/or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods and/or services. To determine the appropriate amount of revenue to be recognized for arrangements that the Company determines are within the scope of ASC 606, the Company performs the following steps: (i) identify the contract(s) with the customer, (ii) identify the performance obligations in the contract, (iii) determine the transaction price, (iv) allocate the transaction price to the performance obligations in the contract and (v) recognize revenue when (or as) each performance obligation is satisfied. The Company recognizes collaboration revenue under certain of the Company’s license or collaboration agreements that are within the scope of ASC 606. The Company’s contracts with customers typically include promises related to licenses to intellectual property, research and development services and options to purchase additional goods and/or services. If the license to the Company’s intellectual property is determined to be distinct from the other performance obligations identified in the arrangement, the Company recognizes revenue from non-refundable, up-front fees allocated to the license when the license is transferred to the licensee and the licensee is able to use and benefit from the license. For licenses that are bundled with other promises, the Company utilizes judgment to assess the nature of the combined performance obligation to determine whether the combined performance obligation is satisfied over time or at a point in time and, if over time, the appropriate method of measuring progress for purposes of recognizing revenue from non-refundable, up-front fees. Contracts that include an option to acquire additional goods and/or services are evaluated to determine if such option provides a material right to the customer that it would not have received without entering into the contract. If so, the option is accounted for as a separate performance obligation. If not, the option is considered a marketing offer which would be accounted for as a separate contract upon the customer’s election. The terms of the Company’s arrangements with customers typically include the payment of one or more of the followin(i) non-refundable, up-front payment, (ii) development, regulatory and commercial milestone payments, (iii) future options and (iv) royalties on net sales of licensed products. Accordingly, the transaction price is generally comprised of a fixed fee due at contract inception and variable consideration in the form of milestone payments due upon the achievement of specified events and tiered royalties earned when customers recognize net sales of licensed products. The Company measures the transaction price based on the amount of consideration to which it expects to be entitled in exchange for transferring the promised goods and/or services to the customer. The Company utilizes the most likely amount method to estimate the amount of variable consideration, to predict the amount of consideration to which it will be entitled. Amounts of variable consideration are included in the transaction price to the extent that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the variable consideration is subsequently resolved. At the inception of each arrangement that includes development and regulatory milestone payments, the Company evaluates whether the associated event is considered probable of achievement and estimates the amount to be included in the transaction price using the most likely amount method. Milestone payments that are not within the control of the Company or the licensee, such as those dependent upon receipt of regulatory approval, are not considered to be probable of achievement until the triggering event occurs. At the end of each reporting period, the Company reevaluates the probability of achievement of each milestone and any related constraint, and if necessary, adjusts its estimate of the overall transaction price. Any such adjustments are recorded on a cumulative catch-up basis, which would affect revenue and net loss in the period of adjustment. For arrangements that include sales-based royalties, including milestone payments based upon the achievement of a certain level of product sales, the Company recognizes revenue upon the later o (i) when the related sales occur or (ii) when the performance obligation to which some or all of the payment has been allocated has been satisfied (or partially satisfied). Consideration that would be received for optional goods and/or services is excluded from the transaction price at contract inception. The Company allocates the transaction price to each performance obligation identified in the contract on a relative standalone selling price basis. However, certain components of variable consideration are allocated specifically to one or more particular performance obligations in a contract to the extent both of the following criteria are (i) the terms of the payment relate specifically to the efforts to satisfy the performance obligation or transfer the distinct good or service and (ii) allocating the variable amount of consideration entirely to the performance obligation or the distinct good or service is consistent with the allocation objective of the standard whereby the amount allocated depicts the amount of consideration to which the entity expects to be entitled in exchange for transferring the promised goods or services. The Company develops assumptions that require the use of judgment to determine the standalone selling price for each performance obligation identified in each contract. The key assumptions utilized in determining the standalone selling price for each performance obligation may include forecasted revenue, development timelines, estimated research and development costs, discount rates, likelihood of exercise and probabilities of technical and regulatory success. Revenue is recognized based on the amount of the transaction price that is allocated to each respective performance obligation when or as the performance obligation is satisfied by transferring a promised good and/or service to the customer. For performance obligations that are satisfied over time, the Company recognizes revenue by measuring the progress toward complete satisfaction of the performance obligation F- 11 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS using a single method of measuring progress which depicts the performance in transferring control of the associated goods and/or services to the customer. The Company uses input methods to measure the progress toward the complete satisfaction of performance obligations satisfied over time. The Company evaluates the measure of progress each reporting period and, if necessary, adjusts the measure of performance and related revenue recognition. Any such adjustments are recorded on a cumulative catch-up basis, which would affect revenue and net loss in the period of adjustment. Research and Development Costs As part of the process of preparing the Company's financial statements, the Company is required to estimate its accrued research and development expenses. This process involves reviewing open contracts and purchase orders, communicating with its personnel to identify services that have been performed on its behalf and estimating the level of service performed and the associated costs incurred for the services when the Company has not yet been invoiced or otherwise notified of the actual costs. The majority of the Company's service providers invoice the Company in arrears for services performed, on a predetermined schedule or when contractual milestones are met; however, a few require advanced payments. The Company makes estimates of its accrued expenses as of each balance sheet date in its financial statements based on facts and circumstances known to it at that time. Examples of estimated accrued research and development expenses include fees paid t • clinical research organizations, or CROs, in connection with performing research services on its behalf and clinical trials; • investigative sites or other providers in connection with clinical trials; • vendors in connection with preclinical and clinical development activities; and • vendors related to product manufacturing, development, and distribution of preclinical and clinical supplies. The Company bases its expenses related to preclinical studies and clinical trials on its estimates of the services received and efforts expended pursuant to quotes and contracts with CROs that conduct and manage clinical trials on its behalf. The financial terms of these agreements are subject to negotiation, vary from contract to contract and may result in uneven payment flows. There may be instances in which payments made to the Company's vendors will exceed the level of services provided and result in a prepayment of the clinical expense. Payments under some of these contracts depend on factors such as the completion of clinical trial milestones. In accruing service fees, the Company estimates the time period over which services will be performed, enrollment of patients, number of sites activated and the level of effort to be expended in each period. If the actual timing of the performance of services or the level of effort varies from its estimate, the Company adjusts the accrual or amount of prepaid expense accordingly. Although the Company does not expect its estimates to be materially different from amounts actually incurred, its understanding of the status and timing of services performed relative to the actual status and timing of services performed may vary and may result in it reporting amounts that are too high or too low in any particular period. To date, the Company has not made any material adjustments to its prior estimates of accrued research and development expenses. Income Taxes Income taxes are accounted for under the liability method. Deferred tax assets and liabilities are recognized for the estimated future tax consequences of temporary differences between the financial statement carrying amounts and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the year in which the temporary differences are expected to be recovered or settled. The Company evaluates the realizability of its deferred tax assets and establishes a valuation allowance when it is more likely than not that all or a portion of deferred tax assets will not be realized. The Company accounts for uncertain tax positions using a “more-likely-than-not” threshold for recognizing and resolving uncertain tax positions. The evaluation of uncertain tax positions is based on factors including, but not limited to, changes in tax law, the measurement of tax positions taken or expected to be taken in tax returns, the effective settlement of matters subject to audit, new audit activity and changes in facts or circumstances related to a tax position. The Company evaluates this tax position on an annual basis. The Company also accrues for potential interest and penalties related to unrecognized tax benefits in income tax expense (Refer to Note 12, Income Taxes ). Accounting for Stock-Based Compensation Stock-based compensation cost is measured at the grant date based on the estimated fair value of the award and is recognized as expense over the employee’s requisite service period. Stock-based compensation expense is based on the number of awards ultimately expected to vest and is reduced for forfeitures as they occur. Consistent with prior years, the Company uses the Black-Scholes option pricing model, which requires estimates of the expected term option holders will retain their options before exercising them and the estimated volatility of the Company’s common stock price over the expected term. F- 12 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS The Company recognized the full impact of its share-based employee payment plans in the Statements of Operations for each of the years ended December 31, 2022 and 2021 and did not capitalize any such costs on the Balance Sheets. The Company recognized $ 3.0 million of compensation expense related to stock options for the year ended December 31, 2022 and $ 7.4 million of compensation expense related to stock options for the year ended December 31, 2021. The Company recognized $ 0.5 million of compensation expense, related to restricted stock for the year ended December 31, 2022 and $ 3.4 million for the year ended December 31, 2021 (refer to Note 13, Stock Option Plan ). The total compensation expense relating to vesting of stock options and restricted stock awards for the year ended December 31, 2022 was $ 3.5 million and $ 10.8 million for the year ended December 31, 2021. The following table presents share-based compensation expense included in the Company’s Statements of Operatio Year Ended December 31, (in thousands) 2022 2021 Research and development 868 2,598 General and administrative 2,660 8,176 Stock-based compensation expense $ 3,528 $ 10,774 The fair value of each stock option is estimated at the date of grant using the Black-Scholes option pricing model. The estimated weighted-average fair value of stock options granted to employees in the year ended December 31, 2022 was approximately $ 0.77 per share and was approximately $ 2.62 per share for the year ended December 31, 2021. Assumptions regarding volatility, expected term, dividend yield and risk-free interest rate are required for the Black-Scholes model. The volatility assumption is based on the Company’s historical experience. The risk-free interest rate is based on a U.S. treasury note with a maturity similar to the option award’s expected life. The expected life represents the average period of time that options granted are expected to be outstanding. The Company calculated expected term using the simplified method described in SEC Staff Accounting Bulletin, or SAB, No. 107 and No. 110 as it continues to meet the requirements promulgated in SAB No. 110. The assumptions for volatility, expected life, dividend yield and risk-free interest rate are presented in the table be Year Ended December 31, 2022 2021 Risk-free interest rate 1.63 – 4.21 % 0.50 – 1.36 % Expected life in years 5.27 – 6.25 5.50 – 6.25 Expected volatility 74.49 – 88.75 % 72.53 – 74.80 % Expected dividend yield —% —% Net Loss per Share Basic net loss per common share is computed by dividing net loss applicable to common stockholders by the weighted average number of shares of common stock outstanding for the period. Diluted net loss per share is computed using the weighted-average number of shares of common stock outstanding during the period, plus the dilutive effect of outstanding options and warrants, using the treasury stock method and the average market price of the Company’s common stock during the applicable period, unless their effect on net loss per share is antidilutive. The effect of computing diluted net loss per common share was antidilutive for any potentially issuable shares of common stock from the conversion of stock options, unvested restricted stock and warrants and, as such, have been excluded from the calculation. The computation of basic and diluted net loss per share consists of the followin Year Ended December 31, 2022 2021 Net loss $ ( 37,730 ) $ ( 78,751 ) Weighted-average common shares outstanding, basic and diluted 217,130,311 214,399,074 Net loss per share, basic and diluted $ ( 0.17 ) $ ( 0.37 ) Certain shares related to some of the Company’s outstanding common stock options, unvested restricted stock and warrants have not been included in the computation of diluted net loss per share for the years ended December 31, 2022 and 2021 as the result would be antidilutive. Such potential common shares on December 31, 2022 and 2021 consist of the followin F- 13 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS December 31, 2022 2021 Common stock options 10,408,622 10,665,869 Inducement stock options - 32,500 Unvested restricted stock 939,062 1,198,580 Warrants 22,922,342 22,922,342 34,270,026 34,819,291 New Accounting Pronouncements In November 2021, the FASB issued Accounting Standards Update, or ASU, 2021-10, Government Assistance (Topic 832): Disclosures by Business entities about Government Assistance, which requires business entities to disclose information about certain government assistance that they receive. Entities must comply with the new disclosure requirements if they account for transactions with government entities under the (1) contribution model or (2) grant model by analogy. The Company adopted this standard effective January 1, 2022, with no material impact upon adoption. In July 2021, the FASB issued ASU 2021-05, Leases (Topic 842): Lessors – Certain Leases with Variable Lease Payments, which requires lessors to classify as operating leases those leases with variable lease payments that do not depend on an index or rate if another classification (i.e. sales-type or direct financing) would result in a commencement date (‘day 1’) selling loss. The Company adopted this standard effective January 1, 2022, with no material impact upon adoption. In May 2021, the FASB issued ASU 2021-04, Earnings Per Share (Topic 260), Debt - Modifications and Extinguishments (Subtopic 470-50), Compensation - Stock Compensation (Topic 718), and Derivatives and Hedging - Contracts in Entity’s Own Equity (Subtopic 815- 40): Warrant modifications, which clarifies an issuer’s accounting for certain modifications or exchanges of freestanding equity-classified written call options (e.g. warrants) that remain equity-classified after modification or exchange. The Company adopted this standard effective January 1, 2022, with no material impact upon adoption. 4. Debt The carrying values of the Company's debt obligation were as follows: December 31, ($ in thousands) 2022 2021 Loan and Security Agreement $ 17,395 $ 25,209 Unamortized discount on Loan and Security Agreement ( 630 ) ( 1,091 ) Total debt 16,765 24,118 L long-term debt, current ( 16,765 ) ( 7,868 ) Long-term debt $ — $ 16,250 On August 6, 2021, the Company entered into the Loan and Security Agreement. The Loan and Security Agreement provided for an initial term loan of $ 25.0 million funded at the closing, with an additional tranche of $ 25.0 million available if certain funding and clinical milestones were met by August 31, 2022. On December 28, 2021, the Company entered into the Amended Loan and Security Agreement. Under the terms of the Amended Loan and Security Agreement, the SVB Facility was modified to eliminate the additional $25.0 million tranche, which remained unfunded, leaving only the initial $25.0 million as the full amount available under the SVB Facility. The SVB Facility bears interest at a floating rate per annum on outstanding loans, payable monthly, at the greater of (a) 7.75 % and (b) the current published U.S. prime rate, plus a margin of 4.5 % . As of December 31, 2022, interest on the outstanding loans was 12.00 %. The Amended Loan and Security Agreement provided for an interest-only period through August 31, 2022. Commencing on September 1, 2022, aggregate outstanding borrowings became repayable in twelve consecutive, equal monthly installments of principal plus accrued interest. All outstanding obligations under the Amended Loan and Security Agreement are due and payable on August 1, 2023 . The Company will also owe SVB 5.75 % of the original principal amounts borrowed as a final payment. The Company is permitted to make up to two prepayments, subject to a prepayment premium of the amount being prepaid, ranging from 1.00 % to 2.00 %, of the SVB Facility, each such prepayment to be at least $ 5.0 million plus all accrued and unpaid interest on the portion being prepaid. F- 14 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS As a result of not achieving certain milestones specified in the Amended Loan and Security Agreement on or prior to August 31, 2022, the Company was required to cash collateralize half of the sum of the then-outstanding principal amount of the SVB Facility, plus an amount equal to 5.75 % of the original principal amount of the SVB Facility. As of December 31, 2022, the Company has collateralized $ 13.9 million, which is classified as restricted cash on the Balance Sheet. So long as no event of default has occurred and subject to certain other terms related to the remaining outstanding balance under the SVB Facility being satisfied, $ 2.5 million will be released from the collateral account following the eighth scheduled payment of principal and interest, and a further $ 4.0 million will be released following the tenth scheduled payment of principal and interest. The SVB Facility and related obligations under the Amended Loan and Security Agreement are secured by substantially all of the Company’s properties, rights and assets, except for its intellectual property (which is subject to a negative pledge under the Amended Loan and Security Agreement). In addition, the Amended Loan and Security Agreement contains customary representations, warranties, events of default and covenants. In connection with its entry into the Loan and Security Agreement, the Company issued to SVB warrants to purchase (i) up to 432,844 shares of the Company’s common stock, in the aggregate, and (ii) up to an additional 432,842 shares of common stock, in the aggregate, in the event the Company achieved certain clinical milestones, in each case at an exercise price per share of $ 2.22 . In connection with its entry into the Amended Loan and Security Agreement, the Company amended and restated the warrants issued to SVB. As amended and restated, the warrants are for up to 649,615 shares of the Company's common stock, in the aggregate, at an exercise price per share of $ 1.16 , or the SVB Warrants. The SVB Warrants expire on August 6, 2031 . The issuance costs for the Loan and Security Agreement, including the Amended Loan and Security Agreement, were approximately $ 1.2 million and primarily related to the warrants issued to SVB, which will be amortized into interest expense over the period to August 1, 2023 . Interest expense, including the amortization of issuance costs, was $ 3.2 million for the year ended December 31, 2022 and $ 1.2 million for the year ended December 31, 2021. The fair value of the Amended Loan and Security Agreement as of December 31, 2022 approximates its face value. 5. Property and Equipment, net Property and equipment, net, consists of the followin December 31, ($ in thousands) 2022 2021 Office and computer equipment $ 2,183 $ 2,534 Software 1,291 1,236 Leasehold improvements 9,561 9,474 Laboratory equipment 5,232 5,110 18,267 18,354 L accumulated depreciation ( 9,807 ) ( 7,413 ) Property and equipment, net $ 8,460 $ 10,941 Depreciation expense for the year ended December 31, 2022 was $ 2.8 million and was $ 2.6 million for the year ended December 31, 2021. During the year ended December 31, 2021, the Company impaired property and equipment by $ 0.1 million. Refer to Note 3, Summary of Significant Accounting Policies , for further details. 6. Accrued Expenses Accrued expenses consist of the followin ($ in thousands) 2022 2021 Clinical $ 2,200 $ 1,677 Employee compensation 1,160 1,922 Professional services 534 825 Preclinical services 198 363 Manufacturing services 1,177 1,056 Other consulting services 16 66 Other 169 167 $ 5,454 $ 6,076 F- 15 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS 7. Related Party Transactions Collaboration with Vineti Inc. On July 9, 2020, the Company entered into a master service agreement and statement of work with Vineti, Inc., or Vineti. Pursuant to the agreements, Vineti is developing a software platform to coordinate and orchestrate the order, cell collection and manufacturing process for the Company’s T-cell therapy, or TCR-T, clinical programs. Heidi Hagen, who became a director of the Company in June 2019 and resigned November 2, 2021 and was appointed the Company's interim Chief Executive Officer on February 25, 2021 and resigned on August 30, 2021, is a co-founder and former officer, of Vineti. During the year ended December 31, 2022, the Company did no t incur expenses for services performed by Vineti, compared to $ 0.4 million during the year ended December 31, 2021. WaterMill Settlement Agreement On February 4, 2021, the Company entered into an agreement, or the Settlement Agreement, with WaterMill Asset Management Corp. and Robert W. Postma, or collectively, the WaterMill Parties. Pursuant to the Settlement Agreement, the Company increased the size of its board of directors from eight to nine directors and appointed Mr. Postma to fill the newly created directorship. In accordance with the Settlement Agreement, the Company agreed to reimburse the WaterMill Parties for up to $ 0.4 million of their reasonable out-of-pocket expenses in connection with (i) the WaterMill Parties' solicitation of written consents from our stockholders to vote in favor of certain proposals, as set forth in the definitive consent statement filed by the WaterMill Parties on October 30, 2020, and (ii) the negotiation, execution, and effectuation of the Settlement Agreement. As of February 19, 2021, the Company has fully reimbursed the WaterMill Parties an aggregate amount of $ 0.4 million. Joint Venture with TriArm Therapeutics/Eden BioCell On December 18, 2018, the Company and TriArm Therapeutics, Ltd., or TriArm, launched Eden BioCell, Ltd., or Eden BioCell, as a joint venture to lead commercialization of the Company’s Sleeping Beauty -generated CAR-T therapies in the People’s Republic of China (including Macau and Hong Kong), Taiwan and Korea. The Company licensed to Eden BioCell the rights in Greater China for its third-generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen. Eden BioCell is owned equally by the Company and TriArm and the parties share decision-making authority. TriArm has contributed $ 10.0 million to Eden BioCell and has committed up to an additional $ 25.0 million to this joint venture. TriArm also manages all clinical development in the territory pursuant to a master services agreement between TriArm and Eden BioCell. James Huang was the founder and serves as managing partner of Panacea Venture, which is an investor in TriArm. Mr. Huang is the Chair of the Company's board of directors and has been a director since July 2020. He also serves as a member of Eden BioCell’s board of directors. For the years ended December 31, 2022 and 2021, Eden BioCell incurred a net loss and the Company continues to have no commitment to fund its operations. In September 2021, TriArm and Alaunos mutually agreed to dissolve the Eden BioCell joint venture. The joint venture agreement has been terminated and the Eden BioCell entity is in the process of being dissolved. Refer to Note 15, Joint Venture , for further details. 8. Leases Operating Leases In June 2012, the Company entered into a master lease for the Company’s office in Boston, Massachusetts, which was originally set to expire in August 2016 , but was renewed through August 31, 2021. On April 22, 2021, the Company extended its lease for a portion of office space in Boston. The renewal of the portion of the Company's office space was originally set to expire on August 31, 2021, but was extended through August 31, 2026 . As of December 31, 2022, and December 31, 2021, a total security deposit of $ 0.1 million is included in deposits on the Company’s balance sheet. In December 2021, the Company made the decision to move its operations away from its former corporate office in Boston. As described in Note 3, Summary of Significant Accounting Policies, the Company's change in the intended use of the Boston office represented an indicator of impairment. The Company determined the aggregate carrying value of the asset group (approximately $ 1.4 million as of December 31, 2021) was in excess of the aggregate estimated fair value and recorded an impairment charge of $ 0.6 million to the right-of-use asset and approximately $ 0.1 million to associated property and equipment during the year ended December 31, 2021. The fair value was determined based on the amount and timing of estimated net future cash flows, discounted at a risk-adjusted rate of 10 %. On March 12, 2019, the Company entered into a lease agreement for office and lab space in Houston, Texas at MD Anderson through April 2021 . Under the terms of the lease agreement, the Company leases approximately 1,038 square feet and was required to make rental payments F- 16 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS at an average monthly rate of approximately $ 2 thousand through April 2021. On October 15, 2019, the Company entered into a lease agreement for additional office and laboratory space in Houston through February 2027 . Under the terms of the lease, the Company leases from MD Anderson, approximately 8,443 square feet and is initially required to make rental payments of approximately $ 17 thousand per month through February 2027, subject to an annual base rent increase of approximately 3.0 % throughout the term. Effective April 7, 2020, the Company leased an additional 5,594 square feet from MD Anderson. The Company is initially required to make rental payments of approximately $ 12 thousand per month through February 2027 , subject to an annual base rent increase of approximately 3.0 % throughout the term. On December 15, 2020, the Company entered into a second agreement with MD Anderson to lease additional space on MD Anderson’s campus (the “2020 Lease”). The Company is initially required to make rental payments of approximately $ 37 thousand per month through April 2028, subject to an annual base rent increase of approximately 3.0 % throughout the term beginning in April 2023. The 2020 Lease may be extended for one additional five-year term at the Company's election. In April 2022, the Company modified the 2020 Lease, which reduced the Company's leased space from 18,111 square feet to 3,228 square feet. As a result, the associated lease liability and right-of-use asset were remeasured to $ 0.4 million based on revised lease payments. A gain of $ 0.1 million was recorded on the lease modification during the year ended December 31, 2022. The Company is initially required to make payments of approximately $ 7 thousand per month through April 2028, subject to an annual base rent increase of approximately 3.0 % throughout the term. The 2020 Lease may be extended for one additional five-year term at the Company's election. The components of lease expense were as follows: Year Ended December 31, ($ in thousands) 2022 2021 Operating lease cost $ 756 $ 1,394 Total lease cost $ 756 $ 1,394 Weighted-average remaining lease term (years) 4.13 5.58 Weighted-average discount rate 8.26 % 8.00 % The Company paid $ 0.8 million for amounts included in the measurement of the lease liabilities for the year-ended December 31, 2022. The Company did no t recognize new operating lease assets obtained in exchange for operating lease liabilities for the year-ended December 31, 2022. As of December 31, 2022, the maturities of the Company’s operating lease liabilities were as follows (in thousands): Maturity of Lease Liabilities Operating Leases 2023 757 2024 780 2025 804 2026 712 2027 158 Thereafter 31 Total lease payments 3,242 L imputed interest ( 496 ) Present value of lease payments $ 2,746 In June 2022, the Company executed an agreement to sub-sublease 4,772 square feet of subleased office space in Boston. The term of the sub-sublease is from July 1, 2022 to June 30, 2025 and provides the sub-subtenant with an option to extend through to July 31, 2026. For the year ended December 31, 2022, the Company recognized $ 0.1 million in lease income, which is classified within other income (expense), net in the Statement of Operations. Under the current terms of the agreement, lease income for the remainder of the sub-sublease term is expected to be $ 0.2 million in 2023, $ 0.2 million in 2024 and $ 0.1 million in 2025. 9. Commitments and Contingencies Exclusive License Agreement with PGEN Therapeutics On October 5, 2018, the Company entered into an exclusive license agreement, or License Agreement, with PGEN Therapeutics, or PGEN, a wholly owned subsidiary of Precigen Inc., or Precigen, which was formerly known as Intrexon Corporation. Pursuant to the terms of the F- 17 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS License Agreement, the Company has exclusive, worldwide rights to research, develop and commercialize (i) TCR products designed for neoantigens for the treatment of cancer, (ii) products utilizing Precigen’s RheoSwitch gene switch, or RTS, for the treatment of cancer, referred to as IL-12 Products and (iii) CAR products directed to (A) CD19 for the treatment of cancer, referred to as CD19 Products, and (B) BCMA for the treatment of cancer, subject to certain obligations to pursue such target under the License and Collaboration Agreement effective March 27, 2015 between us, Precigen and ARES TRADING S.A., a subsidiary of Merck KGaA, as assigned by Precigen to PGEN. Under the License Agreement, the Company also has exclusive, worldwide rights for certain patents relating to the Sleeping Beauty technology to research, develop and commercialize TCR products for both neoantigens and shared antigens for the treatment of cancer, referred to as TCR Products. The Company is solely responsible for all aspects of the research, development and commercialization of the exclusively licensed products for the treatment of cancer. The Company is required to use commercially reasonable efforts, as defined in the License Agreement, to develop and commercialize IL-12 products, CD19 products and TCR Products. In consideration of the licenses and other rights granted by PGEN, the Company pays PGEN an annual license fee of $ 0.1 million and the Company reimbursed PGEN for certain historical costs of the licensed programs. The Company will make milestone payments totaling up to an additional $ 52.5 million for each exclusively licensed program upon the initiation of later stage clinical trials and upon the approval of exclusively licensed products in various jurisdictions. In addition, the Company will pay PGEN tiered royalties ranging from low-single digits to high-single digits on the net sales derived from the sale of any approved IL-12 products and CAR products. The Company will also pay PGEN royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of any approved TCR products, up to a maximum royalty amount of $ 100.0 million in the aggregate. The Company will also pay PGEN 20 % of any sublicensing income received by us relating to the licensed products. The Company is responsible for all development costs associated with each of the licensed products. PGEN will pay the Company royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of PGEN’s CAR products, up to a maximum royalty amount of $ 100.0 million. No royalty amounts were incurred during the years ended December 31, 2022 and 2021. In October 2020, the Company entered into an amendment to the License Agreement relating to the transfer of certain materials and PGEN’s obligations to provide transition assistance relating to the IL-12 products. License Agreement and 2015 Research and Development Agreement —The University of Texas MD Anderson Cancer Center On January 13, 2015 , the Company, together with Precigen, entered into the MD Anderson License with MD Anderson (which Precigen subsequently assigned to PGEN). Pursuant to the MD Anderson License, the Company, together with PGEN, holds an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson, including technologies relating to novel CAR T-cell therapies, non-viral gene transfer systems, genetic modification and/or propagation of immune cells and other cellular therapy approaches, Natural Killer, or NK Cells, and TCRs, arising from the laboratory of Laurence Cooper, M.D., Ph.D., who served as the Company’s Chief Executive Officer from May 2015 until February 2021 and was formerly a tenured professor of pediatrics at MD Anderson. On August 17, 2015, the Company, Precigen and MD Anderson entered into the 2015 R&D Agreement to formalize the scope and process for the transfer by MD Anderson, pursuant to the terms of the MD Anderson License, of certain existing research programs and related technology rights, as well as the terms and conditions for future collaborative research and development of new and ongoing research programs. The rights and obligations of Precigen under the 2015 R&D Agreement were assigned to the Company pursuant to the Fourth Amendment to 2015 R&D Agreement which was entered into on September 19, 2019 (the “Fourth Amendment”) with an effective date of October 5, 2018. The activities under the 2015 R&D Agreement are directed by a joint steering committee comprised of two members from the Company and one member from MD Anderson. As provided under the MD Anderson License, the Company provided funding for research and development activities in support of the research programs under the 2015 R&D Agreement for a period of three years and in an amount of no less than $ 15.0 million and no greater than $ 20.0 million per year. On November 14, 2017, the Company entered into an amendment to the 2015 R&D Agreement, extending its term until April 15, 2021. In connection with the execution of the 2019 R&D Agreement described below, on October 22, 2019, the Company amended the 2015 R&D Agreement to extend the term of the 2015 R&D Agreement until December 31, 2026 and to allow cash resources on hand at MD Anderson under the 2015 R&D Agreement to be used for development costs under the 2019 Research and Development Agreement, or the 2019 R&D Agreement, which we entered into on October 22, 2019, with MD Anderson, pursuant to which we agreed to collaborate with respect to the TCR program. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder, or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term of the MD Anderson F- 18 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS License, the Company, together with Precigen, shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After ten years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if the Company and Precigen are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if the Company and Precigen are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by the Company and Precigen, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both the Company and Precigen and may be terminated by the mutual written agreement of the Company, PGEN, and MD Anderson. 2019 Research and Development Agreement—The University of Texas MD Anderson Cancer Center Under the 2019 R&D Agreement, the Company and MD Anderson will, among other things, collaborate on programs to expand the Company's TCR library and conduct clinical trials. The activities under the 2019 R&D Agreement are directed by a joint steering committee comprised of two members from the Company and one member from MD Anderson. The Company will own all inventions and intellectual property developed under the 2019 R&D Agreement and the Company will retain all rights to all, intellectual property, patentable or not, for oncology products manufactured using non-viral gene transfer technologies under the 2019 R&D Agreement, including the Company's Sleeping Beauty technology. The Company has granted MD Anderson an exclusive license for such intellectual property to develop and commercialize autologous TCR products manufactured using viral gene transfer technologies, and any products outside the field of oncology and a non-exclusive license for allogenic TCR products manufactured using viral-based technologies. Under the 2019 R&D Agreement, the Company agreed, beginning on January 1, 2021, to reimburse MD Anderson up to a total of $ 20.0 million for development costs under the 2019 R&D Agreement, after the funds from the 2015 R&D Agreement are exhausted. In addition, the Company will pay MD Anderson royalties on net sales of its TCR products. The Company is required to make performance-based payments upon the successful completion of clinical and regulatory benchmarks relating to its TCR products. The aggregate potential benchmark payments are $ 36.5 million, of which only $ 3.0 million will be due prior to the first marketing approval of the Company's TCR products. The royalty rates and benchmark payments owed to MD Anderson may be reduced upon the occurrence of certain events. The Company also agreed to sell its TCR products to MD Anderson at preferential prices and will sell the Company's TCR products in Texas exclusively to MD Anderson for a limited period of time following the first commercial sale of the Company's TCR products. For the year ended December 31, 2022, the Company incurred clinical expenses of $ 0.8 million from MD Anderson related to this agreement, compared to $ 0.3 million for the year ended December 31, 2021. The 2019 R&D Agreement will terminate on December 31, 2026 and either party may terminate the 2019 R&D Agreement following written notice of a material breach. The 2019 R&D Agreement also contains customary provisions related to indemnification obligations, confidentiality and other matters. In connection with the execution of the 2019 R&D Agreement, on October 22, 2019, the Company issued MD Anderson a warrant to purchase 3,333,333 shares of the Company's common stock, which is referred to as the MD Anderson Warrant. The MD Anderson Warrant has an initial exercise price of $ 0.001 per share, expires on December 31, 2026 , and vests in four parts upon the occurrence of certain clinical milestones. As of December 31, 2022, the milestones have not been met. License Agreement with the NCI On May 28, 2019, the Company entered into a patent license agreement, or the Patent License, with the NCI. Pursuant to the Patent License, the Company holds an exclusive, worldwide license to certain intellectual property to develop and commercialize patient-derived (autologous), peripheral blood T-cell therapy products engineered by transposon-mediated gene transfer to express TCRs reactive to mutated KRAS, TP53 and EGFR neoantigens. In addition, pursuant to the Patent License, the Company holds an exclusive, worldwide license to certain intellectual property for manufacturing technologies to develop and commercialize autologous, peripheral blood T-cell therapy products engineered by non-viral gene transfer to express TCRs, as well as a non-exclusive, worldwide license to certain additional manufacturing technologies. On May 29, 2019, January 8, 2020, September 28, 2020, April 16, 2021, May 4, 2021 and August 13, 2021 the Company amended the Patent License to expand its TCR library to include additional TCRs reactive to mutated KRAS and TP53 neoantigens licensed from the NCI. The terms of the Patent License require the Company to pay the NCI minimum annual royalties in the amount of $ 0.3 million, which amount will be reduced to $ 0.1 million once the aggregate minimum annual royalties paid by the Company equals $ 1.5 million. F- 19 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS The Company is also required to make performance-based payments upon successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $ 4.3 million, of which aggregate payments of $ 3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $ 0.1 million was paid during the year ended December 31, 2022 upon the initiation of the Company's TCR-T Library Phase 1/2 Trial, which was a qualifying Phase 1 clinical trial under the terms of the Patent License. In addition, the Company is required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $ 250.0 million to $ 1.0 billion. The aggregate potential amount of these benchmark payments is $ 12.0 million. The Company must also pay the NCI royalties on net sales of products covered by the Patent License at rates in the low to mid-single digits depending upon the technology included in a licensed product. To the extent the Company enters into a sublicensing agreement relating to a licensed product, the Company is required to pay the NCI a percentage of all consideration received from a sublicensee, which percentage will decrease based on the stage of development of the licensed product at the time of the sublicense. The Patent License will expire upon expiration of the last patent contained in the licensed patent rights, unless terminated earlier. The NCI may terminate or modify the Patent License in the event of a material breach, including if the Company does not meet certain milestones by certain dates, or upon certain insolvency events that remain uncured following the date that is 90 days following written notice of such breach or insolvency event. The Company may terminate the Patent License, or any portion thereof, in the Company's sole discretion at any time upon 60 days’ written notice to the NCI. In addition, the NCI has the right t (i) require the Company to sublicense the rights to the product candidates covered by the Patent License upon certain conditions, including if the Company is not reasonably satisfying required health and safety needs and (ii) terminate or modify the Patent License, including if the Company is not satisfying requirements for public use as specified by federal regulations. For the year ended December 31, 2022 the Company incurred $ 0.7 million of expenses and incurred $ 0.5 million of expenses for the year ended December 31, 2021. Cooperative Research and Development Agreement (CRADA) with the NCI On January 9, 2017, the Company entered into a Cooperative Research and Development Agreement, or the CRADA, with the NCI. The purpose of this collaboration was to advance a personalized TCR-T approach for the treatment of solid tumors. Using the Company's Sleeping Beauty technology, the NCI would analyze a patient’s own cancer cells, identify their unique neoantigens and TCRs reactive against those neoantigens and then use the Company's Sleeping Beauty technology to transpose one or more TCRs into T cells for re-infusion. Research conducted under the CRADA will be at the direction of Steven A. Rosenberg, M.D., Ph.D., Chief of the Surgery Branch at the NCI, in collaboration with the Company's researchers. The Company is responsible for providing the NCI with the test materials necessary for them to conduct their studies, and eventually, clinical trials pursuant to the CRADA. Inventions, data and materials discovered or produced in connection with performance of the research plan under the CRADA will remain the sole property of the party who produced the discovery. The parties will jointly own all inventions jointly discovered under the research plan. The owner of any invention under the CRADA will make the decision to file a patent covering the invention, or in the case of a jointly owned invention, the Company will have the first opportunity to file a patent covering the invention. If the Company fails to provide timely notice of its decision to the NCI or decides not to file a patent covering the joint invention, the NCI has the right to make the filing. For any invention solely owned by the NCI or jointly made by the NCI and the Company for which a patent application was filed, the U.S. Public Health service grants the Company an exclusive option to elect an exclusive or non-exclusive commercialization license. For inventions owned solely by the NCI or jointly owned by the NCI and the Company, which are licensed according to the terms described above, the Company agreed to grant to the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world. The Company is also required to grant the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world for any of the Company's solely owned inventions. The agreement may be terminated by any of the parties upon 60 days prior written consent. The NCI has a cleared Investigational New Drug Application, or IND, that would permit them to begin this trial. To the Company's knowledge, the trial has not yet enrolled. The progress and timeline for this trial, including the timeline for dosing patients, are under control of the NCI. In February 2019, the Company extended the CRADA with the NCI until January 9, 2022, committing an additional $ 5.0 million to this program; however, for the third and fourth quarters of 2021, the Company was not required to make payments toward the program as agreed with the NCI. Therefore, as of December 31, 2022, the Company made $ 3.8 million of payments under the February 2019 CRADA extension, and the NCI has agreed that this is full satisfaction of the agreement and no further payments are due under the $ 5.0 million commitment. In March 2022, the Company entered into an amendment to the CRADA that was retroactive, effective January 9, 2022 to extend the term of the F- 20 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS CRADA until January 9, 2023. In June 2022, the Company entered into the Fourth Amendment to the CRADA, or the CRADA Fourth Amendment, which, among other things, extended the term of the CRADA until January 9, 2025. In connection with the CRADA Fourth Amendment, the Company agreed to contribute $ 1.0 million per year, payable on a quarterly basis, beginning in the first quarter of 2023. The Company did no t incur expenses under the CRADA for the year ended December 31, 2022, as compared to $ 1.3 million for the year ended December 31, 2021. Patent and Technology License Agreement—The University of Texas MD Anderson Cancer Center and the Texas A&M University System On August 24, 2004, the Company entered into a patent and technology license agreement with MD Anderson and the Texas A&M University System, which the Company refers to, collectively, as the Licensors. Under this agreement, the Company was granted an exclusive, worldwide license to rights (including rights to U.S. and foreign patent and patent applications and related improvements and know-how) for the manufacture and commercialization of two classes of organic arsenicals (water- and lipid-based) for human and animal use. The class of water-based organic arsenicals includes darinaparsin. Under the terms of the agreement, the Company may be required to make additional payments to the Licensors upon achievement of certain milestones in varying amounts which, on a cumulative basis could total up to an additional $ 4.5 million. In addition, the Licensors are entitled to receive royalty payments on sales from a licensed product and will also be entitled to receive a portion of any fees that the Company may receive from a possible sublicense under certain circumstances. During the year ended December 31, 2022, $ 2.5 million was incurred as a one-time milestone payment under the terms of the agreement, compared to $ 0.1 million for the year ended December 31, 2021. The Company incurred $ 2 thousand in royalty expenses on sales under this agreement during the year ended December 31, 2022, and did no t incur royalty expenses on sales under this agreement during the year ended December 31, 2021. Collaboration Agreement with Solasia Pharma K.K. On March 7, 2011, the Company entered into a License and Collaboration Agreement with Solasia Pharma K. K., or Solasia, which was amended on July 31, 2014 to include an exclusive worldwide license and amended on October 14, 2021 to revise certain payment schedule details, or, as so amended, the Solasia License and Collaboration Agreement. Pursuant to the Solasia License and Collaboration Agreement, the Company granted Solasia an exclusive license to develop and commercialize darinaparsin in both intravenous and oral forms and related organic arsenic molecules, in all indications for human use. As consideration for the license, the Company is eligible to receive from Solasia development- and sales-based milestones, a royalty on net sales of darinaparsin, once commercialized, and a percentage of any sublicense revenue generated by Solasia. Solasia will be responsible for all costs related to the development, manufacturing and commercialization of darinaparsin. The Company’s licensors, as defined in the Solasia License and Collaboration Agreement, will receive a portion of all milestone and royalty payments made by Solasia to the Company in accordance with the terms of the Solasia License and Collaboration Agreement with the licensors, as described above. In June 2022, Solasia announced that darinaparsin had been approved from relapsed or refractory Peripheral T-Cell Lymphoma by the Ministry of Health, Labor and Welfare in Japan. During the year ended December 31, 2022, the Company earned $ 2.9 million of collaboration revenue under the Solasia License and Collaboration Agreement primarily related to Solasia's achievement of certain sales-based milestones in Japan, compared to $ 0.4 million during the year ended December 31, 2021. 10. Warrants In connection with the Company’s November 2018 private placement that provided net proceeds of approximately $ 47.1 million, the Company issued warrants to purchase an aggregate of 18,939,394 shares of common stock, which became exercisable six months after the closing of the private placement, or the November 2018 Warrants. The November 2018 Warrants had an exercise price of $ 3.01 per share and have a five-year term. The fair value of the November 2018 Warrants was estimated at $ 18.4 million using a Black-Scholes model with the following assumptio expected volatility of 71 %, risk free interest rate of 2.99 %, expected life of five years and no dividends. On July 26, 2019 and September 12, 2019, the Company entered into agreements with existing investors whereby the investors exercised the November 2018 Warrants for an aggregate of 17,803,031 shares of common stock, at an exercise price of $ 3.01 per share. Proceeds from the warrant exercise after deducting placement agent fees and other related expenses of $ 1.1 million were approximately $ 52.5 million. The Company issued participating investors new warrants to purchase up to 17,803,031 additional shares of common stock, or the 2019 Warrants, as consideration for the warrant holders to exercise their November 2018 Warrants. The 2019 Warrants will expire on the fifth anniversary of the initial exercise date and have an exercise price of $ 7.00 . The 2019 Warrants were valued using a Black-Scholes valuation model and resulted in a $ 60.8 million non-cash charge in the Company’s statement of operations in 2019. F- 21 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS On October 22, 2019, the Company entered into the 2019 R&D Agreement with MD Anderson. In connection with the execution of the 2019 R&D Agreement, the Company issued the MD Anderson Warrant to purchase 3,333,333 shares of common stock. The MD Anderson Warrant has an initial exercise price of $ 0.001 per share and grant date fair value of $ 14.5 million. The MD Anderson Warrant expires on December 31, 2026 and vests upon the occurrence of certain clinical milestones. The Company will recognize expense on the MD Anderson Warrant in the same manner as if the Company paid cash for services to be rendered. For the year ended December 31, 2022 and 2021, the Company did not recognize any expense related to the MD Anderson Warrant as the clinical milestones had not been achieved. On August 6, 2021, the Company entered into the Loan and Security Agreement with SVB. Refer to Note 4, Debt . In connection with the Loan and Security Agreement, the Company issued SVB warrants to purchase 432,844 shares of common stock with an exercise price of $ 2.22 per share. The warrants have a ten-year life and were fully vested upon issuance. The fair value of the warrants was estimated at $ 0.8 million using a Black-Scholes model with the following assumptio expected volatility of 79 %, risk free interest rate of 1.31 %, expected life of ten years and no dividends. On December 28, 2021, the Company entered into the Amended Loan and Security Agreement, as described in Note 4, Debt, in connection with which, the original warrants issued to SVB were amended and restated. As amended and restated, the SVB Warrants are for up to 649,615 shares of common stock, in the aggregate, at an exercise price per share of $ 1.16 . The SVB Warrants expire on August 6, 2031 and were fully vested upon issuance. Using a Black-Scholes model with an expected volatility of 81 %, risk free interest rate of 1.49 %, expected life of 10 years and no dividends, the Company recorded a $ 0.2 million increase in the fair value of the SVB Warrants due to the modification of the SVB Warrants during the year ended December 31, 2021. The Company assessed whether the SVB Warrants require accounting as derivatives. The Company determined that the SVB Warrants were (1) indexed to the Company’s own stock and (2) classified in stockholders’ equity in accordance with ASC 815, Derivatives and Hedging . As such, the Company has concluded the SVB Warrants meet the scope exception for determining whether the instruments require accounting as derivatives and should be classified in stockholders’ equity. 11. Restructuring On September 27, 2021, in order to lower its existing cost structure in connection with the realignment of its business strategy, the Company announced a strategic reduction in force and notified approximately 60 full-time employees of its intention to terminate their services on or, in most cases, before November 30, 2021. Certain of the notified employees had employment agreements that provided for enhanced severance benefits. The severance benefits, apart from certain continuing Company-paid health care benefits for up to twelve months, were paid in 2021. The remaining benefits were paid in 2022, which reduced the severance benefits accrual to $ 0 as of December 31, 2022. The Company incurred the following costs associated with termination benefit payments resulting from the strategic reduction in for December 31, ($ in thousands) 2021 Research and development $ 2,368 General and administrative 1,289 Total severance expense $ 3,657 12. Income Taxes There is no provision for income taxes because the Company has incurred operating losses since inception. The reported amounts of income tax expense for the years ended December 31, 2022 and 2021 differ from the amounts that would result from applying domestic federal statutory F- 22 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS tax rates to pretax losses primarily because of the changes in the valuation allowance. Significant components of the Company’s deferred tax assets at December 31, 2022 and 2021 are as follows: December 31, (in thousands) 2022 2021 Deferred tax assets: Net operating loss carryforwards $ 171,070 $ 164,486 Start-up and pre-clinical studies 17,204 21,705 Research and development credit carryforwards 40,116 39,817 Stock-based compensation 698 706 Capitalized acquisition costs 2,180 2,946 Lease liability 618 1,278 Depreciation 239 102 Capitalized research expenses 5,156 - Other 27 156 237,308 231,196 Less valuation allowance ( 236,827 ) ( 230,119 ) Total deferred tax assets 481 1,077 Right-of-use asset ( 481 ) ( 1,077 ) Total deferred tax liabilities $ ( 481 ) $ ( 1,077 ) Net deferred taxes $ — $ — Deferred income taxes reflect the net tax effects of temporary differences between the carrying amount of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. At December 31, 2022, the Company has aggregate net operating loss carryforwards for federal tax purposes of approximately $ 665.5 million, of which approximately $ 341.7 million expire at various dates through December 31, 2037 and approximately $ 323.8 million can be carried forward indefinitely. The Company also has approximately $ 497.9 million of state net operating loss carryforwards available to offset future state taxable income, expiring at various dates through 2042. Additionally, the Company has approximately $ 40.1 million of federal and state research and development credits at December 31, 2022, expiring in varying amounts through 2042 , which may be available to reduce future taxes. The Company has provided a valuation allowance for the full amount of its net deferred tax assets since it is more likely than not that these future benefits will not be realized. However, these deferred tax assets may be available to offset future income tax liabilities and expenses. The valuation allowance increased by $ 6.7 million in 2022 due primarily to net operating loss carryforwards and the increase in research and development credits. Income taxes using the federal statutory income tax rate differ from the Company’s effective tax rate primarily due to non-deductible expenses related to the Company’s issuance of warrants along with the change in the valuation allowance on deferred tax assets. A reconciliation of income tax expense (benefit) at the statutory federal income tax rate and income taxes as reflected in the financial statements is as follows: Year Ended December 31, (in thousands) 2022 2021 Federal income tax at statutory rates 21 % 21 % State income tax, net of federal tax benefit 3 % 3 % Research and development credits 2 % 3 % Research and development true-up - 2 % 0 % Stock-based compensation - 1 % - 1 % Federal/state rate change - 5 % - 2 % Change in valuation allowance - 18 % - 24 % Effective tax rate 0 % 0 % The Company adopted ASC 740, Accounting for Uncertain Tax Positions on January 1, 2007. ASC 740 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with FASB Statement No. 109, “Accounting for Income Taxes.” ASC 740 prescribes a recognition threshold and measurement of a tax position taken or expected to be taken in a tax return. The F- 23 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS Company did not establish any additional reserves for uncertain tax liabilities upon adoption of ASC 740. There were no adjustments to its uncertain tax positions in the years ended December 31, 2022 and 2021. The Company has not recognized any interest and penalties in the statements of operations because of the Company’s net operating losses and tax credits that are available to be carried forward. When necessary, the Company will account for interest and penalties related to uncertain tax positions as part of its provision for federal and state income taxes. The Company does not expect the amounts of unrecognized benefits will change significantly within the next twelve months. The Company is currently open to audit under the statute of limitations by the Internal Revenue Service and state jurisdictions for the years ended December 31, 1999 through 2022 to the extent net operating losses continue to be carried forward to 2022. Beginning in 2022, the Tax Cuts and Jobs Act of 2017, or the Tax Act, eliminated the option to deduct research and development expenditures immediately in the year incurred and requires taxpayers to capitalize and amortize them over five years pursuant to IRC Section 174. The mandatory capitalization requirement had no impact to the overall deferred tax assets due to the Company's loss position and full valuation allowance. 13. Stock Option Plan The Company adopted the 2012 Equity Incentive Plan, or the 2012 Plan, in May 2012. Including subsequent increases, the Company had reserved 14,000,000 shares for issuance. On December 31, 2022, there were 1,089,296 shares reserved for issuance and no shares available for future grant. The Company adopted the 2020 Equity Incentive Plan, or the 2020 Plan, in June 2020. The Company reserved 21,000,000 shares for issuance plus a carryover of 1,066,275 shares from the 2012 Plan for a total of 22,066,275 shares. In addition, returning shares from the 2012 Plan are available for issuance under the 2020 Plan. As of December 31, 2022, there were 9,319,326 shares reserved for issuance and 15,460,088 shares available for future grant. Stock options generally vest ratably in either quarterly or annual installments over three or four years, commencing on the first anniversary of the grant date and have contractual terms of ten years. Stock options to directors generally vest ratably over one or two years and have contractual terms of ten years. Stock options are valued using the Black-Scholes option pricing model and compensation is recognized based on such fair value over the period of vesting on a straight-line basis. Proceeds from the option exercises during the year ended December 31, 2022 amounted to $ 21 thousand and during the year ended December 31, 2021 amounted to $ 1.0 million. The intrinsic value of these options amounted to $ 26 thousand for the year ended December 31, 2022 and $ 0.8 million for the year ended December 31, 2021. Stock option activity under the Company's stock options plans for the years ending December 31, 2022 and 2021 were as follows: (in thousands, except share and per share data) Number of Shares Weighted- Average Exercise Price Weighted- Average Contractual Term (Years) Aggregate Intrinsic Value Outstanding, December 31, 2020 6,840,719 3.81 Granted 9,380,438 2.62 Exercised ( 363,109 ) 2.86 Cancelled ( 5,192,179 ) 3.65 Outstanding, December 31, 2021 10,665,869 $ 2.87 Granted 4,697,500 1.08 Exercised ( 26,250 ) 0.80 Cancelled ( 4,928,497 ) 3.34 Outstanding, December 31, 2022 10,408,622 $ 1.84 8.69 $ 3 Options exercisable, December 31, 2022 3,891,598 $ 2.46 8.08 $ — Options exercisable, December 31, 2021 4,410,312 $ 3.85 7.53 $ — Options available for future grant, December 31, 2022 15,460,088 On December 31, 2022, total unrecognized compensation costs related to non-vested stock options outstanding amounted to $ 6.2 million. The cost is expected to be recognized over a weighted-average period of 1.92 years. F- 24 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS Restricted Stock For the year ended December 31, 2022 the Company issued 280,000 shares of restricted stock and 1,601,224 in the year ended December 31, 2021 to employees and directors. During the year ended December 31, 2022, the Company repurchased 18,750 shares at a price of $ 2.41 per share to cover payroll taxes for one employee exercise, which is in accordance with the original terms of the award. There were no repurchases by the Company for the year ended December 31, 2021. A summary of the status of restricted stock as of December 31, 2022 and 2021 is as follows: Number of Shares Weighted-Average Grant Date Fair Value Unvested, December 31, 2020 786,280 3.08 Granted 1,601,224 2.60 Vested ( 754,137 ) 3.40 Cancelled ( 434,787 ) 3.45 Unvested, December 31, 2021 1,198,580 $ 2.10 Granted 280,000 0.82 Vested ( 306,617 ) 2.28 Cancelled ( 232,901 ) 3.15 Unvested, December 31, 2022 939,062 $ 1.40 As of December 31, 2022, there was $ 1.1 million of total unrecognized stock-based compensation expense related to non-vested restricted stock arrangements. The expense is expected to be recognized over a weighted-average period of 1.78 years. 14. Employee Benefit Plan The Company sponsors a qualified 401(k) retirement plan under which employees are allowed to contribute certain percentages of their pay, up to the maximum allowed under Section 401(k) of the IRC, or the 401(k) Plan. The Company may make contributions to the 401(k) Plan at its discretion. The Company contributed approximately $ 0.5 million to the 401(k) Plan during the year ended December 31, 2022 and $ 0.7 million during the year ended December 31, 2021. 15. Joint Venture On December 18, 2018, the Company entered into a Framework Agreement with TriArm whereby the parties agreed to launch Eden BioCell to lead clinical development and commercialization of certain Sleeping Beauty -generated CAR-T therapies as set forth in a separate license agreement. On January 3, 2019, Eden BioCell was incorporated in Hong Kong as a private company. Eden BioCell, the Company and TriArm entered into a Share Subscription Agreement on January 23, 2019, where the Company and TriArm agreed to contribute certain intellectual property, services and cash (only with respect to TriArm) to Eden BioCell to subscribe for a certain number of newly issued ordinary shares in the share capital of Eden BioCell. The closing of the transaction occurred on July 5, 2019. The Framework Agreement and Share Subscription Agreements were each respectively amended to be effective as of this date. Upon consummation of the joint venture, Eden BioCell and the Company also entered into a license agreement, pursuant to which the Company licensed the rights to Eden BioCell for third generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen for the territory of China (including Macau and Hong Kong), Taiwan and Korea. TriArm and the Company each received a 50 % equity interest in the joint venture in exchange for their contributions to Eden BioCell. The Company determined that Eden BioCell was considered a variable interest entity, or VIE, and concluded that it is not the primary beneficiary of the VIE as it did not have the power to direct the activities of the VIE. As a result, the Company accounts for the equity interest in Eden BioCell under the equity method of accounting as it has the ability to exercise significant influence. In March 2021, Eden BioCell began treating patients in a clinical trial with the Company’s investigational CD19 RPM CAR-T cell therapy, under the IND cleared by the Taiwan FDA in December 2020. In the first half of 2021, two patients were treated in this trial. The lead investigator at National Taiwan University in Taipei, has reported no serious adverse safety events in either of these patients. Laboratory results continue to support, as previously published, that non-viral Sleeping Beauty gene transfer is effective in genetically modifying autologous T-cells. Patients were infused two days after gene transfer, thus shortening the turnaround time and demonstrating an advantage over viral methods. F- 25 Table of Contents Alaunos Therapeutics, Inc. NOTES TO FINANCIAL STATEMENTS Based on laboratory data from the first two patients generated between March and May 2021, the TriArm/Eden team concluded, in concert with the investigator and the Company, that further process development work is required. For the years ended December 31, 2022 and 2021, Eden BioCell incurred a net loss. In September 2021, TriArm and the Company mutually agreed to dissolve the joint venture, which has now been terminated. The Eden BioCell entity is in the process of being dissolved. F- 26 |
Page PART I. FINANCIAL INFORMATION Item 1. Condensed Financial Statements (unaudited) 2 Condensed Balance Sheets as of March 31, 2023 (unaudited) and December 31, 2022 2 Condensed Statements of Operations for the three months ended March 31, 2023 and 2022 (unaudited) 3 Condensed Statements of Changes in Stockholders’ Equity for the three months ended March 31, 2023 and 2022 (unaudited) 4 Condensed Statements of Cash Flows for the three months ended March 31, 2023 and 2022 (unaudited) 5 Notes to Condensed Financial Statements (unaudited) 6 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 17 Item 3. Quantitative and Qualitative Disclosures about Market Risk 24 Item 4. Controls and Procedures 24 PART II. OTHER INFORMATION Item 1. Legal Proceedings 25 Item 1A. Risk Factors 25 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 54 Item 3. Defaults Upon Senior Securities 54 Item 4. Mine Safety Disclosures 54 Item 5. Other Information 54 Item 6. Exhibits 55 1 PART I—FINANCIAL INFORMATION Item 1. Condensed Financial Statements Alaunos Therapeutics, Inc. CONDENSED BALANCE SHEETS (unaudited) (in thousands, except share and per share data) March 31, December 31, 2023 2022 ASSETS: Current assets: Cash and cash equivalents $ 23,496 $ 39,058 Restricted cash 13,938 13,938 Receivables — 4 Prepaid expenses and other current assets 750 799 Total current assets 38,184 53,799 Property and equipment, net 7,889 8,460 Right-of-use assets 2,023 2,136 Deposits 42 42 Other non-current assets 500 500 Total assets $ 48,638 $ 64,937 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable $ 1,380 $ 1,389 Current portion of long-term debt 10,988 16,765 Accrued expenses 4,120 5,454 Lease liabilities, current 575 558 Total current liabilities 17,063 24,166 Lease liabilities, non-current 2,038 2,188 Other non-current liabilities 28 28 Total liabilities $ 19,129 $ 26,382 Commitments and contingencies (Note 9) Stockholders' equity Common stock $ 0.001 par value; 420,000,000 shares authorized, 240,627,055 shares issued and outstanding at March 31, 2023 and 420,000,000 shares authorized, 240,410,761 shares issued and outstanding at December 31, 2022 241 240 Additional paid-in capital 919,943 918,942 Accumulated deficit ( 890,675 ) ( 880,627 ) Total stockholders' equity 29,509 38,555 Total liabilities and stockholders' equity $ 48,638 $ 64,937 The accompanying notes are an integral part of these condensed financial statements. 2 Alaunos Therapeutics, Inc. CONDENSED STATEMENTS OF OPERATIONS (unaudited) (in thousands, except share and per share data) For the Three Months Ended March 31, 2023 2022 Operating expens Research and development 6,504 5,580 General and administrative 3,168 3,505 Total operating expenses 9,672 9,085 Loss from operations ( 9,672 ) ( 9,085 ) Other income (expense): Interest expense ( 853 ) ( 683 ) Other income (expense), net 477 ( 20 ) Other income (expense), net ( 376 ) ( 703 ) Net loss $ ( 10,048 ) $ ( 9,788 ) Basic and diluted net loss per share $ ( 0.04 ) $ ( 0.05 ) Weighted average common shares outstanding, basic and diluted 239,679,352 214,946,569 The accompanying notes are an integral part of these condensed financial statements. 3 Alaunos Therapeutics, Inc. CONDENSED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (unaudited) (in thousands, except share and per share data) For the Three Months Ended March 31, 2023 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at December 31, 2022 240,410,761 $ 240 $ 918,942 $ ( 880,627 ) $ 38,555 Stock-based compensation — — 910 — 910 Issuance of common stock, net of expenses 216,294 1 91 — 92 Net loss — — — ( 10,048 ) ( 10,048 ) Balance at March 31, 2023 240,627,055 $ 241 $ 919,943 $ ( 890,675 ) $ 29,509 For the Three Months Ended March 31, 2022 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at December 31, 2021 216,127,443 $ 216 $ 900,693 $ ( 842,852 ) $ 58,057 Stock-based compensation — — 853 — 853 Cancelled restricted common stock ( 176,882 ) — — — — Net loss — — — ( 9,788 ) ( 9,788 ) Balance at March 31, 2022 215,950,561 $ 216 $ 901,546 $ ( 852,640 ) $ 49,122 The accompanying notes are an integral part of these condensed financial statements. 4 Alaunos Therapeutics, Inc. CONDENSED STATEMENTS OF CASH FLOWS (unaudited) (in thousands) For the Three Months Ended March 31, 2023 2022 Cash flows from operating activiti Net loss $ ( 10,048 ) $ ( 9,788 ) Adjustments to reconcile net loss to net cash used in operating activiti Depreciation 696 689 Amortization of financing costs 472 198 Stock-based compensation 910 853 Decrease in the carrying amount of right-of-use assets 113 180 Decrease in: Receivables 4 1,111 Prepaid expenses and other current assets 49 149 Other non-current assets — 5 Decrease in: Accounts payable ( 110 ) ( 763 ) Accrued expenses ( 1,334 ) ( 214 ) Lease liabilities ( 133 ) ( 190 ) Net cash used in operating activities ( 9,381 ) ( 7,770 ) Cash flows from investing activiti Purchases of property and equipment ( 61 ) ( 29 ) Proceeds from the disposal of property and equipment 38 — Net cash used in investing activities ( 23 ) ( 29 ) Cash flows from financing activiti Proceeds from the issuance of common stock 92 — Repayment of long-term debt ( 6,250 ) — Net cash used in financing activities ( 6,158 ) — Net decrease in cash, cash equivalents and restricted cash ( 15,562 ) ( 7,799 ) Cash, cash equivalents and restricted cash, beginning of period 52,996 76,054 Cash, cash equivalents and restricted cash, end of period $ 37,434 $ 68,255 Supplementary disclosure of cash flow informati Cash paid for interest $ 439 $ 484 Amounts included in accrued expenses and accounts payable related to property and equipment $ 101 $ 29 The accompanying notes are an integral part of these condensed financial statements. 5 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) 1. Organization Overview Alaunos Therapeutics, Inc., which is referred to herein as “Alaunos,” or the “Company,” is a clinical-stage oncology-focused cell therapy company developing adoptive TCR therapies, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. On January 25, 2022, the Company changed its corporate name from ZIOPHARM Oncology, Inc. to Alaunos Therapeutics, Inc. The Company is leveraging its proprietary, non-viral Sleeping Beauty gene transfer platform and its novel cancer mutation hotspot TCR library to design and manufacture personalized cell therapies that target neoantigens arising from common tumor-related mutations in key oncogenic genes, including KRAS, TP53 and EGFR. The Company’s operations to date have consisted primarily of conducting research and development and raising capital to fund those efforts. In May 2021, the Company announced that it will be winding down its existing Controlled IL-12 clinical program for the treatment of glioblastoma multiforme. The Company continues to seek a partner for this program. As of March 31, 2023, there were 240,627,055 shares of common stock outstanding and an additional 36,235,588 shares of common stock reserved for issuance pursuant to outstanding stock options and warrants. The accompanying condensed financial statements have been prepared on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities and commitments in the normal course of business. The Company follows the guidance of Accounting Standards Codification, or ASC, Topic 205-40, Presentation of Financial Statements - Going Concern , in order to determine whether there is substantial doubt about its ability to continue as a going concern for one year after the date its condensed financial statements are issued. This evaluation initially does not take into consideration the potential mitigating effect of management's plans that have not been fully implemented as of the date the condensed financial statements are issued. When substantial doubt exists, management evaluates whether the mitigating effect of its plans sufficiently alleviates the substantial doubt about the Company's ability to continue as a going concern. The mitigating effect of management's plans, however, is only considered if both (i) it is probable that the plans will be effectively implemented within one year after the date that the condensed financial statements are issued and (ii) it is probable that the plans, when implemented, will mitigate the relevant conditions or events that raise substantial doubt about the entity's ability to continue as a going concern within one year after the date that the condensed financial statements are issued. The Company has operated at a loss since its inception in 2003 and has no recurring revenue from operations. The Company anticipates that losses will continue for the foreseeable future. As of March 31, 2023, the Company had approximately $ 37.4 million of cash, cash equivalents and restricted cash. The restricted cash of $ 13.9 million at March 31, 2023 is related to the Company's debt agreement, which was subsequently repaid in its entirety on May 1, 2023 (see Note 4, Debt ). The Company’s accumulated deficit at March 31, 2023 was approximately $ 890.7 million. Given its current development plans and cash management efforts, the Company anticipates cash resources will be sufficient to fund operations into the fourth quarter of 2023. The Company’s ability to continue operations after its current cash resources are exhausted depends on future events outside of the Company's control, including its ability to obtain additional financing or to achieve profitable results, as to which no assurances can be given. If adequate additional funds are not available when required, or if the Company is unsuccessful in entering into partnership agreements for further development of its product candidates, management may need to curtail its development efforts and planned operations to conserve cash until sufficient additional capital is raised. There can be no assurances that such a plan would be successful. Based on the current cash forecast and the Company's dependence on its ability to obtain additional financing to fund its operations after the current resources are exhausted, about which there can be no certainty, management has determined that the Company's present capital resources will not be sufficient to fund its planned operations for at least one year from the issuance date of the condensed financial statements, and substantial doubt as to the Company's ability to continue as a going concern exists. This forecast of cash resources is forward-looking information that involves risks and uncertainties, and the actual amount of expenses could vary materially and adversely as a result of a number of factors. Basis of Presentation The accompanying unaudited interim condensed financial statements have been prepared in accordance with the instructions to Form 10-Q pursuant to the rules and regulations of the Securities and Exchange Commission, or the SEC. Certain information and note disclosures required by generally accepted accounting principles in the United States, or GAAP, have been condensed or omitted pursuant to such rules and regulations. It is management’s opinion that the accompanying unaudited interim condensed financial statements reflect all adjustments (which are normal and recurring) that are necessary for a fair presentation of the financial position of the Company and its results of operations 6 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) and cash flows for the periods presented. The unaudited interim condensed financial statements should be read in conjunction with the audited condensed financial statements and the notes thereto for the year ended December 31, 2022, included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2022 filed with the SEC on March 7, 2023, or the Annual Report. The results disclosed in the statements of operations for the three months ended March 31, 2023 are not necessarily indicative of the results to be expected for the full fiscal year 2023. Use of Estimates The preparation of condensed financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the condensed financial statements and the reported amounts of revenues and expenses during the reporting period. Although the Company regularly assesses these estimates, actual results could differ from those estimates. Changes in estimates are recorded in the period in which they become known. 2. Financings 2021 Loan and Security Agreement On August 6, 2021, the Company entered into a Loan and Security Agreement, or the Loan and Security Agreement, with Silicon Valley Bank and affiliates of Silicon Valley Bank, or collectively, SVB. The Loan and Security Agreement provided for an initial term loan of $ 25.0 million funded at the closing, or the Term A Tranche, with an additional tranche of $ 25.0 million available if certain funding and clinical milestones were met by August 31, 2022, or the Term B Tranche. Effective December 28, 2021, the Company entered into a First Amendment to the Loan and Security Agreement. The First Amendment extended the interest-only period through August 31, 2022. The First Amendment also eliminated the Term B Tranche, which remained unfunded, leaving only the Term A Tranche, or the SVB Facility. Under the amended Loan and Security Agreement, the SVB Facility was to mature on August 1, 2023. On May 1, 2023, the Company repaid its outstanding debt obligations in their entirety. Refer to Note 4, Debt, for further discussion of the Loan and Security Agreement and the First Amendment. 2022 Equity Distribution Agreement On August 12, 2022, the Company entered into an Equity Distribution Agreement, or the Equity Distribution Agreement, with Piper Sandler & Co., or Piper Sandler, pursuant to which the Company can offer and sell, from time to time at its sole discretion, shares of its common stock having an aggregate offering price of up to $ 50.0 million through Piper Sandler as its sales agent in an "at the market offering." Piper Sandler will receive a commission of 3.0 % of the gross proceeds of any common stock sold under the Equity Distribution Agreement. During the three months ended March 31, 2023, there have been no sales of the Company's common stock under the Equity Distribution Agreement. 2022 Public Offering On November 29, 2022, the Company entered into an underwriting agreement, or the Underwriting Agreement, with Cantor Fitzgerald & Co., or the Underwriter, as the sole underwriter, relating to the issuance and sale in an underwritten offering, or the Offering, of 24,228,719 shares, or the Firm Shares, of the Company’s common stock to the Underwriter at a price of $ 0.6191 per share. The net proceeds to the Company from the Offering were $ 14.7 million (before accounting for the partial exercise of the Underwriter's option as described below) after deducting underwriting discounts and commissions and offering expenses payable by the Company. Under the terms of the Underwriting Agreement, the Company granted the Underwriter an option, exercisable for 30 days , to purchase up to an additional 3,634,307 shares of common stock, which we refer to, together with the Firm Shares, as the Shares, at the same price per share as the Firm Shares. On January 5, 2023, the Underwriter partially exercised its option to purchase an additional 216,294 shares of common stock. 3. Summary of Significant Accounting Policies 7 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) The Company’s significant accounting policies were identified in the Company’s Annual Report. There have been no material changes in those policies since the filing of its Annual Report. 4. Debt The carrying values of the Company's debt obligation were as follows: March 31, December 31, ($ in thousands) 2023 2022 Loan and Security Agreement $ 11,395 $ 17,395 Unamortized discount on Loan and Security Agreement ( 407 ) ( 630 ) Total debt $ 10,988 $ 16,765 On August 6, 2021, the Company entered into the Loan and Security Agreement with SVB. The Loan and Security Agreement provided for the funding of the Term A Tranche at the closing, with the Term B Tranche available if certain funding and clinical milestones were met by August 31, 2022. The SVB Facility and related obligations under the Loan and Security Agreement were secured by substantially all of the Company's properties, rights and assets, except for its intellectual property (which was subject to a negative pledge under the Loan and Security Agreement). In addition, the Loan and Security Agreement contained customary representations, warranties, events of default and covenants. As of March 31, 2023, the Company was in compliance with all debt covenants, as amended. On December 28, 2021, the Company entered into the First Amendment to the Loan and Security Agreement. The First Amendment eliminated the unfunded Term B Tranche, among other things. The SVB Facility bore interest at a floating rate per annum on outstanding loans, payable monthly, at the greater of (a) 7.75 % and (b) the current published U.S. prime rate, plus a margin of 4.5 % . As of March 31, 2023, interest on the outstanding loans was 12.5 %. Commencing on September 1, 2022, aggregate outstanding borrowings became repayable in twelve consecutive, equal monthly installments of principal plus accrued interest. All outstanding obligations under the amended Loan and Security Agreement were due and payable on August 1, 2023 . In connection with the payment of all of the Company's outstanding obligations, t he Company also owed SVB 5.75 % of the original principal amounts borrowed as a final payment, or the Final Payment. Effective March 30, 2023, the Company entered into a Third Amendment to the Loan and Security Agreement, or the Third Amendment. Under the terms of the Third Amendment, the Company was no longer required to maintain all of its operating accounts, depository accounts and excess cash with SVB or one of its affiliates, and was instead only required to maintain a single operating or depository account at Silicon Valley Bank. The Third Amendment also modified the cash collateralization requirement, such that the Company was required to cash collateralize the entire sum of the outstanding principal amount of the SVB Facility plus an amount equal to the Final Payment, which amount was to be reduced commensurate with each regularly scheduled monthly payment of principal and interest on the SVB Facility. On May 1, 2023, the Company paid SVB an amount equal to the entire outstanding principal amount under the SVB Facility, which was $ 10.4 million as of March 31, 2023, all accrued and unpaid interest and the Final Payment of $ 1.4 million. In accordance with the First Amendment, the payment was subject to a prepayment premium of 2.00 %, or $ 0.1 million. Recorded issuance costs associated with the SVB Facility as of March 31, 2023 were $ 0.4 million. In connection with its entry into the Loan and Security Agreement in August 2021, the Company issued to SVB warrants to purchase (i) up to 432,844 shares of the Company’s common stock, in the aggregate, and (ii) up to an additional 432,842 shares of common stock, in the aggregate, in the event the Company achieved certain clinical milestones, in each case at an exercise price per share of $ 2.22 . In connection with its entry into the First Amendment in December 2021, the Company amended and restated the warrants issued to SVB. As amended and restated, the warrants are for up to 649,615 shares of the Company's common stock, in the aggregate, with an exercise price of $ 1.16 per share, or the SVB Warrants. The SVB Warrants expire on August 6, 2031 . The issuance costs for the Loan and Security Agreement, including the First Amendment, were approximately $ 1.2 million and primarily related to the issuance of the SVB Warrants, which were amortized into interest expense over the term of the loan. Interest expense, including the amortization of issuance costs, was $ 0.9 million for the three months ended March 31, 2023 and was $ 0.7 million for the three months ended March 31, 2022. The fair value of the amended Loan and Security Agreement as of March 31, 2023 approximates its face value. 8 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) 5. Fair Value Measurements The Company has certain financial assets and liabilities recorded at fair value which have been classified as Level 1, 2 or 3 within the fair value hierarchy as described in the accounting standards for fair value measurements. • Level 1—Quoted prices in active markets for identical assets or liabilities. • Level 2—Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. • Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Assets and liabilities measured at fair value on a recurring and nonrecurring basis as of March 31, 2023 and December 31, 2022 are as follows: ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of March 31, 2023 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 2,479 $ 2,479 $ — $ — ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of December 31, 2022 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 38,058 $ 38,058 $ — $ — The cash equivalents represent demand deposit accounts and deposits in a short-term United States treasury money market mutual fund quoted in an active market and classified as a Level 1 asset. There have been no changes to the valuation methods during the three months ended March 31, 2023. We had no financial assets or liabilities that were classified as Level 2 or Level 3 as of December 31, 2022, nor during the three months ended March 31, 2023. 6. Net loss per share Basic net loss per share of common stock is computed by dividing net loss applicable to common stockholders by the weighted average number of shares of common stock outstanding for the period. Diluted net loss per share is computed using the weighted-average number of shares of common stock outstanding during the period, plus the dilutive effect of outstanding options and warrants, using the treasury stock method and the average market price of the Company's common stock during the applicable period, unless their effect on net loss per share is antidilutive. The effect of computing diluted net loss per common share was antidilutive for any potentially issuable shares of common stock from the conversion of stock options, unvested restricted stock and warrants and, as such, have been excluded from the calculation. Such potentially dilutive shares of common stock consisted of the following as of March 31, 2023 and 2022: March 31, 2023 2022 Common stock options 13,313,246 10,969,654 Unvested restricted stock 898,125 993,879 Warrants 22,922,342 22,922,342 37,133,713 34,885,875 9 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) 7. Related Party Transactions Joint Venture with TriArm Therapeutics/Eden BioCell On December 18, 2018, the Company and TriArm Therapeutics, Ltd., or TriArm, launched Eden BioCell, Ltd., or Eden BioCell, as a joint venture to lead commercialization of the Company’s Sleeping Beauty -generated CAR-T therapies in the People’s Republic of China (including Macau and Hong Kong), Taiwan and Korea. The Company licensed to Eden BioCell the rights in Greater China for its third-generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen. Eden BioCell is owned equally by the Company and TriArm and the parties share decision-making authority. TriArm contributed $ 10.0 million to Eden BioCell and has committed up to an additional $ 25.0 million to this joint venture. TriArm also managed all clinical development in the territory pursuant to a master services agreement between TriArm and Eden BioCell. James Huang was the founder and serves as managing partner of Panacea Venture, which is an investor in TriArm. Mr. Huang is the Chair of the Company's board of directors and has been a director since July 2020. He also serves as a member of Eden BioCell’s board of directors. For the three months ended March 31, 2023, Eden BioCell incurred a net loss and the Company continues to have no commitment to fund its operations. In September 2021, TriArm and Alaunos mutually agreed to dissolve the Eden BioCell joint venture. The joint venture agreement has been terminated and the Eden BioCell entity is in the process of being dissolved. Refer to Note 12, Joint Venture , for further details. 8. Leases On April 19, 2023 , the Company terminated its Boston office lease, which was set to expire on August 31, 2026. In connection with the termination, the Company also assigned to the landlord its sub-sublease of the Boston office space, which had a term to June 30, 2025 with an option to extend through July 31, 2026 . As of March 31, 2023, the Boston office right-of-use asset is $ 0.5 million and the associated lease liability is $ 0.8 million. Termination costs for the Boston office lease are $ 0.2 million. 9. Commitments and Contingencies Exclusive License Agreement with Precigen On October 5, 2018, the Company entered into an exclusive license agreement, or License Agreement, with PGEN Therapeutics, or PGEN, a wholly owned subsidiary of Precigen Inc., or Precigen, which was formerly known as Intrexon Corporation. The Company refers to PGEN and Precigen together as Precigen. Pursuant to the terms of the License Agreement, the Company had exclusive, worldwide rights to research, develop and commercialize (i) TCR products designed for neoantigens for the treatment of cancer, (ii) products utilizing Precigen’s RheoSwitch® gene switch, or RTS, for the treatment of cancer, referred to as IL-12 Products and (iii) CAR products directed to (A) CD19 for the treatment of cancer, referred to as CD19 Products, and (B) BCMA for the treatment of cancer, subject to certain obligations to pursue such target under the License and Collaboration Agreement effective March 27, 2015 between the Company, Precigen and ARES TRADING S.A., a subsidiary of Merck KGaA, as assigned by Precigen to PGEN. Under the License Agreement, the Company also had exclusive, worldwide rights for certain patents relating to the Sleeping Beauty technology to research, develop and commercialize TCR products for both neoantigens and shared antigens for the treatment of cancer, referred to as TCR Products. The Company was responsible for all aspects of the research, development and commercialization and was required to use commercially reasonable efforts to develop certain products. In consideration of the licenses and other rights granted by Precigen, the Company was required to pay Precigen an annual license fee of $ 0.1 million, reimburse Precigen for certain historical costs, pay Precigen milestones up to an additional $ 52.5 million for each exclusively licensed program upon the achievement of certain milestones, and pay Precigen tiered royalties up to a maximum royalty amount of $ 100.0 million in the aggregate. The Company was also obligated to pay Precigen 20 % of any sublicensing income received by us relating to the licensed products. The Company was responsible for all development costs associated with each of the licensed products. Precigen was obligated to pay the Company royalties up to a maximum royalty amount of $ 100.0 million. No royalty amounts were incurred during the three months ended March 31, 2023 and 2022. On April 3, 2023, the Company entered into the Amended and Restated Exclusive License Agreement with Precigen, or the A&R License Agreement, which restated and amended the License Agreement in full. Under the A&R License Agreement, the Company still has exclusive, worldwide rights to research, develop and commercialize TCR products designed for neoantigens or driver mutations for the treatment of cancer and non-exclusive rights to use non-driver mutation TCRs. The Company further 10 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) maintains its exclusive, worldwide rights for certain patents relating to the Sleeping Beauty technology to research, develop and commercialize TCR products for both neoantigens and shared antigens for the treatment of cancer, referred to as TCR Products. The Company remains solely responsible for all aspects of the research, development and commercialization of the exclusively licensed products for the treatment of cancer. The (i) products utilizing Precigen’s RheoSwitch® gene switch, or RTS, for the treatment of cancer, referred to as IL-12 Products and (ii) CAR products directed to (A) CD19 for the treatment of cancer, referred to as CD19 Products, and (B) BCMA for the treatment of cancer, subject to certain obligations to pursue such target under the License and Collaboration Agreement effective March 27, 2015 between the Company, Precigen and ARES TRADING S.A., a subsidiary of Merck KGaA, as assigned by Precigen to PGEN are no longer exclusively licensed to the Company. The Company is no longer obligated to use commercially reasonable efforts for the exclusively licensed products. The A&R License Agreement further eliminates any royalty or milestone obligations to Precigen, with an annual license fee of $ 75 thousand due on the anniversary of the A&R License Agreement effective date. Precigen is no longer obligated to pay the Company royalties on the net sales derived from the sale of Precigen's CAR products. License Agreement and 2015 Research and Development Agreement —The University of Texas MD Anderson Cancer Center On January 13, 2015 , the Company, together with Precigen, entered into a license agreement, or the MD Anderson License, with MD Anderson (which Precigen subsequently assigned to PGEN). Pursuant to the MD Anderson License, the Company, together with Precigen, holds an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR T-cell therapies, non-viral gene transfer systems, genetic modification and/or propagation of immune cells and other cellular therapy approaches, Natural Killer, or NK Cells, and TCRs. On August 17, 2015, the Company, Precigen and MD Anderson entered into the 2015 R&D Agreement to formalize the scope and process for the transfer by MD Anderson, pursuant to the terms of the MD Anderson License, of certain existing research programs and related technology rights, as well as the terms and conditions for future collaborative research and development of new and ongoing research programs. The rights and obligations of Precigen under the 2015 R&D Agreement were assigned to the Company pursuant to the Fourth Amendment to 2015 R&D Agreement which was entered into on September 19, 2019 (the “Fourth Amendment”) with an effective date of October 5, 2018. The activities under the 2015 R&D Agreement are directed by a joint steering committee comprised of two members from the Company and one member from MD Anderson. As provided under the MD Anderson License, the Company provided funding for research and development activities in support of the research programs under the 2015 R&D Agreement for a period of three years and in an amount of no less than $ 15.0 million and no greater than $ 20.0 million per year. On November 14, 2017, the Company entered into an amendment to the 2015 R&D Agreement, extending its term until April 15, 2021. In connection with the execution of the 2019 R&D Agreement described below, on October 22, 2019, the Company amended the 2015 R&D Agreement to extend the term of the 2015 R&D Agreement until December 31, 2026 and to allow cash resources on hand at MD Anderson under the 2015 R&D Agreement to be used for development costs under the 2019 Research and Development Agreement, or the 2019 R&D Agreement, which the Company entered into on October 22, 2019, with MD Anderson, pursuant to which the Company agreed to collaborate with respect to the TCR program. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder, or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term of the MD Anderson License, the Company, together with Precigen, shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After ten years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if the Company and Precigen are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if the Company and Precigen are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by the Company and Precigen, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both the Company and Precigen and may be terminated by the mutual written agreement of the Company, Precigen, and MD Anderson. 2019 Research and Development Agreement—The University of Texas MD Anderson Cancer Center Under the 2019 R&D Agreement, the Company and MD Anderson will, among other things, collaborate on programs to expand the Company's TCR library and conduct clinical trials. The activities under the 2019 R&D Agreement are directed by a joint steering committee comprised of two members from the Company and one member from MD Anderson. 11 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) The Company will own all inventions and intellectual property developed under the 2019 R&D Agreement and the Company will retain all rights to all intellectual property, patentable or not, for oncology products manufactured using non-viral gene transfer technologies under the 2019 R&D Agreement, including the Company's Sleeping Beauty technology. The Company has granted MD Anderson an exclusive license for such intellectual property to develop and commercialize autologous TCR products manufactured using viral gene transfer technologies and any products outside the field of oncology and a non-exclusive license for allogenic TCR products manufactured using viral-based technologies. Under the 2019 R&D Agreement, the Company agreed, beginning on January 1, 2021, to reimburse MD Anderson up to a total of $ 20.0 million for development costs under the 2019 R&D Agreement, after the funds from the 2015 R&D Agreement are exhausted. In addition, the Company will pay MD Anderson royalties on net sales of its TCR products. The Company is required to make performance-based payments upon the successful completion of clinical and regulatory benchmarks relating to its TCR products. The aggregate potential benchmark payments are $ 36.5 million, of which only $ 3.0 million will be due prior to the first marketing approval of the Company's TCR products. The royalty rates and benchmark payments owed to MD Anderson may be reduced upon the occurrence of certain events. The Company also agreed to sell its TCR products to MD Anderson at preferential prices and will sell the Company's TCR products in Texas exclusively to MD Anderson for a limited period of time following the first commercial sale of the Company's TCR products. For the three months ended March 31, 2023, the Company incurred clinical expenses of $ 0.2 million from MD Anderson related to this agreement compared to $ 0.1 million for the three months ended March 31, 2022. The 2019 R&D Agreement will terminate on December 31, 2026 and either party may terminate the 2019 R&D Agreement following written notice of a material breach. The 2019 R&D Agreement also contains customary provisions related to indemnification obligations, confidentiality and other matters. In connection with the execution of the 2019 R&D Agreement, on October 22, 2019, the Company issued MD Anderson a warrant to purchase 3,333,333 shares of the Company's common stock, which is referred to as the MD Anderson Warrant. The MD Anderson Warrant has an initial exercise price of $ 0.001 per share, expires on December 31, 2026 , and vests upon the occurrence of certain clinical milestones. As of March 31, 2023, the milestones have not been met. License Agreement with the NCI On May 28, 2019, the Company entered into a patent license agreement, or the Patent License, with the National Cancer Institute, or the NCI. Pursuant to the Patent License, the Company holds an exclusive, worldwide license to certain intellectual property to develop and commercialize patient-derived (autologous), peripheral blood T-cell therapy products engineered by transposon-mediated gene transfer to express TCRs reactive to mutated KRAS, TP53 and EGFR neoantigens. In addition, pursuant to the Patent License, the Company holds an exclusive, worldwide license to certain intellectual property for manufacturing technologies to develop and commercialize autologous, peripheral blood T-cell therapy products engineered by non-viral gene transfer to express TCRs, as well as a non-exclusive, worldwide license to certain additional manufacturing technologies. On May 29, 2019, January 8, 2020, September 28, 2020, April 16, 2021, May 4, 2021, and August 13, 2021 the Company amended the Patent License to expand its TCR library to include additional TCRs reactive to mutated KRAS and TP53 neoantigens licensed from the NCI. The terms of the Patent License require the Company to pay the NCI minimum annual royalties in the amount of $ 0.3 million, which will be reduced to $ 0.1 million once the aggregate minimum annual royalties paid by the Company equals $ 1.5 million. The Company is also required to make performance-based payments upon successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $ 4.3 million, of which aggregate payments of $ 3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $ 0.1 million was paid during the year ended December 31, 2022 upon the initiation of the Company's TCR-T Library Phase 1/2 Trial, which was a qualifying Phase 1 clinical trial under the terms of the Patent License. In addition, the Company is required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $ 250.0 million to $ 1.0 billion. The aggregate potential amount of these benchmark payments is $ 12.0 million. The Company must also pay the NCI royalties on net sales of products covered by the Patent License at rates in the low to mid-single digits depending upon the technology included in a licensed product. To the extent the Company enters into a sublicensing agreement relating to a licensed product, the Company is required to pay the NCI a percentage of all consideration received from a sublicensee, which percentage will decrease based on the stage of development of the licensed product at the time of the sublicense. The Patent License will expire upon expiration of the last patent contained in the licensed patent rights, unless terminated earlier. The NCI may terminate or modify the Patent License in the event of a material breach, including if the Company does not meet certain milestones by certain dates, or upon certain insolvency events that remain uncured following the date that is 90 days following written 12 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) notice of such breach or insolvency event. The Company may terminate the Patent License, or any portion thereof, in the Company's sole discretion at any time upon 60 days’ written notice to the NCI. In addition, the NCI has the right t (i) require the Company to sublicense the rights to the product candidates covered by the Patent License upon certain conditions, including if the Company is not reasonably satisfying required health and safety needs and (ii) terminate or modify the Patent License, including if the Company is not satisfying requirements for public use as specified by federal regulations. For each of the three months ended March 31, 2023 and 2022, the Company recognized $ 0.3 million in license payments to the NCI under this agreement. Cooperative Research and Development Agreement (CRADA) with the NCI On January 9, 2017, the Company entered into a Cooperative Research and Development Agreement, or the CRADA, with the NCI. The purpose of this collaboration was to advance a personalized TCR-T approach for the treatment of solid tumors. Using the Company's Sleeping Beauty technology, the NCI would analyze a patient’s own cancer cells, identify their unique neoantigens and TCRs reactive against those neoantigens and then use the Company's Sleeping Beauty technology to transpose one or more TCRs into T cells for re-infusion. Research conducted under the CRADA will be at the direction of Steven A. Rosenberg, M.D., Ph.D., Chief of the Surgery Branch at the NCI, in collaboration with the Company's researchers. The Company is responsible for providing the NCI with the test materials necessary for them to conduct their studies, and eventually, clinical trials pursuant to the CRADA. Inventions, data and materials discovered or produced in connection with performance of the research plan under the CRADA will remain the sole property of the party who produced the discovery. The parties will jointly own all inventions jointly discovered under the research plan. The owner of any invention under the CRADA will make the decision to file a patent covering the invention, or in the case of a jointly owned invention, the Company will have the first opportunity to file a patent covering the invention. If the Company fails to provide timely notice of its decision to the NCI or decides not to file a patent covering the joint invention, the NCI has the right to make the filing. For any invention solely owned by the NCI or jointly made by the NCI and the Company for which a patent application was filed, the U.S. Public Health service grants the Company an exclusive option to elect an exclusive or non-exclusive commercialization license. For inventions owned solely by the NCI or jointly owned by the NCI and the Company, which are licensed according to the terms described above, the Company agreed to grant to the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world. The Company is also required to grant the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world for any of the Company's solely owned inventions. The agreement may be terminated by any of the parties upon 60 days prior written consent. The NCI has a cleared Investigational New Drug Application, or IND, that would permit them to begin this trial. To the Company's knowledge, the trial has not yet enrolled. The progress and timeline for this trial, including the timeline for dosing patients, are under control of the NCI. In February 2019, the Company extended the CRADA with the NCI until January 9, 2022, committing an additional $ 5.0 million to this program; however, for the third and fourth quarters of 2021, the Company was not required to make payments toward the program as agreed with the NCI. In March 2022, the Company entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. In June 2022, the Company entered into the Fourth Amendment to the CRADA, or the CRADA Fourth Amendment, which, among other things, extended the term of the CRADA until January 9, 2025. In connection with the CRADA Fourth Amendment, the Company agreed to contribute $ 1.0 million per year, payable on a quarterly basis, beginning in the first quarter of 2023. The Company recorded expenses of $ 0.3 million under the CRADA for the three months ended March 31, 2023, as compared to $ 0 for the three months ended March 31, 2022. Patent and Technology License Agreement—The University of Texas MD Anderson Cancer Center and the Texas A&M University System On August 24, 2004, the Company entered into a patent and technology license agreement with MD Anderson and the Texas A&M University System, which the Company refers to, collectively, as the Licensors. Under this agreement, the Company was granted an exclusive, worldwide license to rights (including rights to U.S. and foreign patent and patent applications and related improvements and know-how) for the manufacture and commercialization of two classes of organic arsenicals (water- and lipid-based) for human and animal use. The class of water-based organic arsenicals includes darinaparsin. Under the terms of the agreement, the Company may be required to make additional payments to the Licensors upon achievement of certain milestones in varying amounts which, on a cumulative basis could total up to an additional $ 4.5 million. In addition, the Licensors are entitled to receive royalty payments on sales from a licensed product and will also be entitled to receive a portion of any 13 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) fees that the Company may receive from a possible sublicense under certain circumstances. During the three months ended March 31, 2023 and 2022, the Company did no t incur any milestone expenses or royalty expenses on sales under this agreement. Collaboration Agreement with Solasia Pharma K.K. On March 7, 2011, the Company entered into a License and Collaboration Agreement with Solasia Pharma K. K., or Solasia, which was amended on July 31, 2014 to include an exclusive worldwide license and amended on October 14, 2021 to revise certain payment schedule details, or, as so amended, the Solasia License and Collaboration Agreement. Pursuant to the Solasia License and Collaboration Agreement, the Company granted Solasia an exclusive license to develop and commercialize darinaparsin in both intravenous and oral forms and related organic arsenic molecules, in all indications for human use. As consideration for the license, the Company is eligible to receive from Solasia development- and sales-based milestones, a royalty on net sales of darinaparsin, once commercialized, and a percentage of any sublicense revenue generated by Solasia. Solasia will be responsible for all costs related to the development, manufacturing and commercialization of darinaparsin. The Company’s licensors, as defined in the Solasia License and Collaboration Agreement, will receive a portion of all milestone and royalty payments made by Solasia to the Company in accordance with the terms of the Solasia License and Collaboration Agreement with the licensors, as described above. In June 2022, Solasia announced that darinaparsin had been approved from relapsed or refractory Peripheral T-Cell Lymphoma by the Ministry of Health, Labor and Welfare in Japan. During the three months ended March 31, 2023 and 2022, the Company did no t earn collaboration revenue or royalty revenues on net sales under the Solasia License and Collaboration Agreement. 10. Stock-Based Compensation The Company recognized stock-based compensation expense on all employee and non-employee awards as follows: For the Three Months Ended March 31, (in thousands) 2023 2022 Research and development 176 315 General and administrative 735 538 Stock-based compensation expense $ 910 $ 853 The Company granted an aggregate of 3,065,168 stock options during the three months ended March 31, 2023, with a weighted-average grant date fair value of $ 0.39 per share, and granted an aggregate of 2,690,000 stock options during the three months ended March 31, 2022, with a weighted-average grant date fair value of $ 0.47 per share. For the three months ended March 31, 2023 and 2022, the fair value of stock options was estimated on the date of grant using a Black-Scholes option valuation model with the following assumptio For the Three Months Ended March 31, 2023 2022 Risk-free interest rate 3.58 – 3.87 % 1.63 – 2.43 % Expected life in years 5.06 - 6.25 6.25 Expected volatility 89.69 - 95.63 % 74.49 – 76.27 % Expected dividend yield — % — % 2. Stock option activity under the Company’s stock option plans for the three months ended March 31, 2023 is as follows: 14 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) (in thousands, except share and per share data) Number of Shares Weighted- Average Exercise Price Weighted- Average Contractual Term (Years) Aggregate Intrinsic Value Outstanding, December 31, 2022 10,408,622 $ 1.84 Granted 3,065,168 0.52 Cancelled ( 160,544 ) 1.90 Outstanding, March 31, 2023 13,313,246 $ 1.54 8.80 $ 364 Options exercisable, March 31, 2023 4,553,574 $ 2.31 7.99 $ — Options exercisable, December 31, 2022 3,891,598 $ 2.46 8.08 $ — Options available for future grant, March 31, 2023 12,555,464 At March 31, 2023, total unrecognized compensation costs related to unvested stock options outstanding amounted to $ 6.6 million. The cost is expected to be recognized over a weighted-average period of 1.96 years. A summary of the status of unvested restricted stock for the three months ended March 31, 2023 is as follows: Number of Shares Weighted-Average Grant Date Fair Value Unvested, December 31, 2022 939,062 $ 1.40 Vested ( 40,937 ) 0.90 Unvested, March 31, 2023 898,125 $ 1.43 At March 31, 2023, total unrecognized compensation costs related to unvested restricted stock outstanding amounted to $ 0.9 million. The cost is expected to be recognized over a weighted-average period of 1.72 years. 11. Warrants In connection with the Company’s November 2018 private placement that provided net proceeds of approximately $ 47.1 million, the Company issued warrants to purchase an aggregate of 18,939,394 shares of common stock, which became exercisable six months after the closing of the private placement, or the November 2018 Warrants. The November 2018 Warrants had an exercise price of $ 3.01 per share and have a five-year term. The fair value of the November 2018 Warrants was estimated at $ 18.4 million using a Black-Scholes model with the following assumptio expected volatility of 71 %, risk free interest rate of 2.99 %, expected life of five years and no dividends. On July 26, 2019 and September 12, 2019, the Company entered into agreements with existing investors whereby the investors exercised the November 2018 Warrants for an aggregate of 17,803,031 shares of common stock, at an exercise price of $ 3.01 per share. Proceeds from the warrant exercise after deducting placement agent fees and other related expenses of $ 1.1 million were approximately $ 52.5 million. The Company issued participating investors new warrants to purchase up to 17,803,031 additional shares of common stock, or the 2019 Warrants, as consideration for the warrant holders to exercise their November 2018 Warrants. The 2019 Warrants will expire on the fifth anniversary of the initial exercise date and have an exercise price of $ 7.00 . The 2019 Warrants were valued using a Black-Scholes valuation model and resulted in a $ 60.8 million non-cash charge in the Company’s statement of operations in 2019. On October 22, 2019, the Company entered into the 2019 R&D Agreement with MD Anderson. In connection with the execution of the 2019 R&D Agreement, the Company issued the MD Anderson Warrant to purchase 3,333,333 shares of common stock. The MD Anderson Warrant has an initial exercise price of $ 0.001 per share and grant date fair value of $ 14.5 million. The MD Anderson Warrant expires on December 31, 2026 and vests upon the occurrence of certain clinical milestones. The Company will recognize expense on the MD Anderson Warrant in the same manner as if the Company paid cash for services to be rendered. For the three months ended March 31, 2023 and 2022, the Company did not recognize any expense related to the MD Anderson Warrant as the clinical milestones had not been achieved. On August 6, 2021, the Company entered into the Loan and Security Agreement with SVB. Refer to Note 4, Debt . In connection with the Loan and Security Agreement, the Company issued SVB warrants to purchase 432,844 shares of common stock with an exercise price of $2.22 per share. The warrants have a ten-year life and were fully vested upon issuance. The fair value of the warrants was estimated at $ 0.8 million using a Black-Scholes model with the following assumptio expected volatility of 79 %, risk free interest 15 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) rate of 1.31 %, expected life of ten years and no dividends. On December 28, 2021, the Company entered into the First Amendment, as described in Note 4, Debt, in connection with which, the original warrants issued to SVB were amended and restated. As amended and restated, the SVB Warrants are for up to 649,615 shares of common stock, in the aggregate, with an exercise price of $1.16 per share. The SVB Warrants expire on August 6, 2031 and were fully vested upon issuance. 12. Joint Venture On December 18, 2018, the Company entered into a Framework Agreement with TriArm whereby the parties agreed to launch Eden BioCell, to lead clinical development and commercialization of certain Sleeping Beauty -generated CAR-T therapies as set forth in a separate license agreement. On January 3, 2019, Eden BioCell was incorporated in Hong Kong as a private company. Eden BioCell, the Company and TriArm entered into a Share Subscription Agreement on January 23, 2019, where the Company and TriArm agreed to contribute certain intellectual property, services and cash (only with respect to TriArm) to Eden BioCell to subscribe for a certain number of newly issued ordinary shares in the share capital of Eden BioCell. The closing of the transaction occurred on July 5, 2019. The Framework Agreement and Share Subscription Agreements were each respectively amended to be effective as of this date. Upon consummation of the joint venture, Eden BioCell and the Company also entered into a license agreement, pursuant to which the Company licensed the rights to Eden BioCell for third generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen for the territory of China (including Macau and Hong Kong), Taiwan and Korea. TriArm and the Company each received a 50 % equity interest in the joint venture in exchange for their contributions to Eden BioCell. The Company determined that Eden BioCell was considered a variable interest entity, or VIE, and concluded that it is not the primary beneficiary of the VIE as it did not have the power to direct the activities of the VIE. As a result, the Company accounts for the equity interest in Eden BioCell under the equity method of accounting as it has the ability to exercise significant influence. For the three months ended March 31, 2023 and 2022, Eden BioCell incurred a net loss. In September 2021, TriArm and the Company mutually agreed to dissolve the joint venture, which has now been terminated. The Eden BioCell entity is in the process of being dissolved. 13. Subsequent Events The Company has evaluated subsequent events from the balance sheet date through the date on which these condensed financial statements were issued. Other than as described in the notes above, the Company did not have any other material subsequent events that impacted its condensed financial statements or disclosures. 16 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed financial statements and related notes included in this Quarterly Report on Form 10-Q and the audited financial information and related notes included in our Annual Report on Form 10-K, which was filed with the Securities and Exchange Commission, or the SEC, on March 7, 2023, or the Annual Report. Except for the historical financial information contained herein, the matters discussed in this Quarterly Report on Form 10-Q may be deemed to contain forward-looking statements that reflect our plans, estimates and beliefs. We make such forward-looking statements pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and other federal securities laws. In this Quarterly Report on Form 10-Q, words such as “may,” “expect,” “anticipate,” “estimate,” “intend,” “plan” and similar expressions (as well as other words or expressions referencing future events, conditions or circumstances) are intended to identify forward-looking statements. Our actual results could differ materially from those contained in or implied by any forward-looking statements. Factors that could cause or contribute to these differences include those risks identified under Part II, Item 1A. Risk Factors. Overview We are a clinical-stage oncology-focused cell therapy company developing adoptive TCR-T cell therapy, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. We are leveraging our cancer hotspot mutation TCR library and our proprietary, non-viral Sleeping Beauty gene transfer platform to design and manufacture patient-specific cell therapies that target neoantigens arising from shared tumor-specific mutations in key oncogenic genes, including KRAS , TP53 and EGFR . In collaboration with the MD Anderson Cancer Center, or MD Anderson, we are currently enrolling and treating patients for a Phase 1/2 clinical trial evaluating 12 TCRs reactive to mutated KRAS, TP53 and EGFR from our TCR library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers, which we refer to as our TCR-T Library Phase 1/2 Trial. We have not generated any product revenue and have incurred significant net losses in each year since our inception. For the three months ended March 31, 2023, we had a net loss of $10.0 million, and as of March 31, 2023, we have incurred approximately $890.7 million of accumulated deficit since our inception in 2003. We expect to continue to incur significant operating expenditures and net losses. Further development of our product candidates will likely require substantial increases in our expenses as we: • continue to undertake clinical trials for product candidates; • seek regulatory approvals for product candidates; • work with regulatory authorities to identify and address program-related inquiries; • implement additional internal systems and infrastructure; • hire additional personnel; and • scale up and scale out the manufacturing of our product candidates. We continue to seek additional financial resources to fund the further development of our product candidates. If we are unable to obtain sufficient additional capital, one or more of these programs could be delayed, and we may be unable to continue our operations at planned levels and be forced to reduce our operations. Because of the numerous risks and uncertainties associated with product development, we are unable to predict the timing or amount of increased expenses or when or if we will be able to achieve or maintain profitability. Recent Developments TCR-T Library Phase 1/2 Trial We continued actively enrolling patients in our TCR-T Library Phase 1/2 Trial targeting KRAS, TP53 and EGFR hotspot mutations across six solid tumor indications throughout the first quarter of 2023. Early translational data from the program from the first three patients treated in the trial will be highlighted in a poster at the 2023 American Society of Clinical Oncology (ASCO) Annual Meeting taking place in June 2023. We currently expect to provide an interim data update on multiple new patients in the third quarter and continue to anticipate Phase 2 readiness with a recommended Phase 2 dose by the end of 2023. We anticipate treating between nine and 12 patients by the end of 2023 in order to complete the Phase 1 portion of the trial. 17 As previously disclosed, we have enhanced our manufacturing process to move from fresh to cryopreserved cell product and have successfully manufactured multiple cryopreserved products in the first quarter of 2023, enabling greater flexibility for patient scheduling and treatment. Initiatives to further optimize the manufacturing process continue in 2023. hunTR® Platform The hunTR® platform for TCR discovery continues to make progress identifying and validating proprietary TCRs. We have added infrastructure to increase the screening throughput potential of hunTR while maintaining a high success rate of TCR discovery. We aim to add three new TCRs to the library by the end of 2023. We believe that successfully increasing throughput of the hunTR platform has the potential to generate out-licensing or partnering opportunities. mbIL-15 Program We are advancing our mbIL-15 TCR-T cell therapy program towards an IND filing anticipated in the second half of 2023. We believe mbIL-15 has the potential to increase the survival of TCR-T cells in the harsh tumor microenvironment and deepen clinical responses. In addition, we continue to conduct translational assessments of treated patients to guide next generation TCR-T therapy approaches including potential combination and multiplexed TCR-T cell therapies. Debt Repayment On May 1, 2023, we paid all amounts outstanding under our amended Loan and Security Agreement (as defined below) with Silicon Valley Bank and affiliates of Silicon Valley Bank, or collectively, SVB, comprised of the entire outstanding principal amount under the SVB Facility (as defined below), which was $10.4 million as of March 31, 2023, all accrued and unpaid interest and the Final Payment (as defined below). The payment was subject to a prepayment premium of 2.00%, or $0.1 million. Recorded issuance costs associated with the SVB Facility as of March 31, 2023 were $0.4 million. Precigen A&R License Agreement On April 3, 2023, we and Precigen, Inc., or Precigen, entered into an Amended and Restated Exclusive License Agreement, or the A&R License Agreement. The A&R License Agreement amended and restated in its entirety the original Exclusive License Agreement dated October 5, 2018 by and between us and Precigen, or the License Agreement. Under the A&R License Agreement, all rights under the License Agreement with respect to the IL-12 products and CAR products are now held exclusively by Precigen, and we are no longer obligated to develop or commercialize any CD19, IL-12 or TCR products. We retained exclusive, worldwide rights to research and develop and commercialize TCR products designed for neoantigens or driver mutations for the treatment of cancer. Additionally, all royalty and milestone obligations between us and Precigen have been removed, and annual license payments due to Precigen have been reduced from $100 thousand to $75 thousand. The A&R License Agreement also modified the license provision so that patents granted to us will expire upon the expiration or abandonment of the last-to-expire valid claim, or the Patent Term, and not the later of such expiration or abandonment and 12 years following the first commercial sale. The exclusive license granted to us with respect to know-how will become non-exclusive following the Patent Term. Board of Directors On March 29, 2023, Christopher Bowden, M.D. delivered notice of his resignation from the board of directors, effective March 30, 2023. On March 30, 2023, the board of directors appointed Robert Hofmeister, Ph.D. to fill the vacancy created by Dr. Bowden’s resignation. Dr. Hofmeister was also appointed to the Corporate Governance and Nominating Committee and the Compensation Committee of the board of directors, replacing Dr. Bowden. Financial Overview Collaboration Revenue We recognize research and development funding revenue over the estimated period of performance. To date we have not generated product revenue. Unless and until we receive approval from the FDA and/or other regulatory authorities for our product candidates, we cannot sell our products and will not have product revenue. Research and Development Expenses Our research and development expenses consist primarily of salaries and related expenses for personnel, costs of contract manufacturing services, costs of facilities, reagents and equipment, fees paid to professional service providers in conjunction with our clinical trials, fees paid to contract research organizations, or CROs, in conjunction with clinical trials, fees paid to CROs in conjunction with costs of materials used in research and development, consulting, license and milestone payments and sponsored research fees paid to third parties. Our future research and development expenses in support of our current and future programs will be subject to numerous uncertainties in timing and cost to completion. We test potential products in numerous preclinical studies for safety, toxicology and efficacy. We 18 may conduct multiple clinical trials for each product. As we obtain results from trials, we may elect to discontinue or delay clinical trials for certain products in order to focus our resources on more promising products or indications. Completion of clinical trials may take several years or more, and the length of time generally varies substantially according to the type, complexity, novelty and intended use of a product. It is not unusual for preclinical and clinical development of each of these types of products to require the expenditure of substantial resources. The duration and the cost of clinical trials may vary significantly over the life of a project as a result of differences arising during clinical development, including, among others, the followin • The number of clinical sites included in the trials; • The length of time required to enroll suitable patients; • The number of patients that ultimately participate in the trials; • The length of time and cost to develop and optimize manufacturing processes; • The cost to manufacture the clinical products for patients; • The duration of patient follow-up to ensure the absence of long-term product-related adverse events; and • The efficacy and safety profile of the product. As a result of the uncertainties discussed above, we are unable to determine the duration and completion costs of our programs or when and to what extent we will receive cash inflows from the commercialization and sale of a product. Our inability to complete our programs in a timely manner or our failure to enter into appropriate collaborative agreements could significantly increase our capital requirements and could adversely impact our liquidity. These uncertainties could force us to seek additional, external sources of financing from time-to-time in order to continue with our product development strategy or reduce or eliminate our activities in one or more of our programs. Our inability to raise additional capital, or to do so on terms reasonably acceptable to us, would jeopardize the future success of our business. General and Administrative Expenses General and administrative expenses consist primarily of salaries, benefits and stock-based compensation, consulting and professional fees, including patent related costs, general corporate costs and facility costs not otherwise included in research and development expenses. Other Income (Expense) Other income (expense) consists primarily of interest expense associated with our amended Loan and Security Agreement (as defined below), interest income on our cash balances and sublease income. Results of Operations Three Months Ended March 31, 2023 Compared to Three Months Ended March 31, 2022 Research and Development Expenses Research and development expenses during the three months ended March 31, 2023 and 2022 were as follows: Three Months Ended March 31, 2023 2022 Change ($ in thousands) Research and development expenses $ 6,504 $ 5,580 $ 924 17 % Research and development expenses for the three months ended March 31, 2023 increased by $0.9 million when compared to the three months ended March 31, 2022, primarily due to higher program-related costs of $1.7 million related to increased manufacturing activities for our TCR-T Library Phase 1/2 Trial and research and development efforts related to our hunTR discovery engine, partially offset by a $0.7 million decrease in employee-related expenses due to lower salary and severance-related costs and a $0.1 million decrease in facilities and lease expenses following the reduction of our real estate footprint in 2022. For the three months ended March 31, 2023, our clinical stage projects included our TCR-T Library Phase 1/2 Trial evaluating TCRs from our library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers. 19 General and Administrative Expenses General and administrative expenses during the three months ended March 31, 2023 and 2022 were as follows: Three Months Ended March 31, 2023 2022 Change ($ in thousands) General and administrative expenses $ 3,168 $ 3,505 $ (337 ) (10 )% General and administrative expenses for the three months ended March 31, 2023 decreased by $0.3 million as compared to the three months ended March 31, 2022, primarily due to lower professional fees of $0.2 million as a result of reducing our use of consultants and a $0.1 million decrease in other expenses primarily due to lower insurance costs and lease expenses following the reduction of our real estate footprint in 2022. Other Income (Expense), Net Other income (expense), net during the three months ended March 31, 2023 and 2022 was as follows: Three Months Ended March 31, 2023 2022 Change ($ in thousands) Interest expense $ (853 ) $ (683 ) $ (170 ) 25 % Other income (expense), net 477 (20 ) 497 (2485 )% Total $ (376 ) $ (703 ) $ 327 (47 )% Other expense, net for the three months ended March 31, 2023 decreased by $0.3 million as compared to the three months ended March 31, 2022, primarily due to higher interest income of $0.5 million as a result of increasing interest rates, partially offset by higher interest expense of $0.2 million associated with our amended Loan and Security Agreement. Liquidity and Capital Resources Sources of Liquidity We have not generated any revenue from product sales. Since inception, we have incurred net losses and negative cash flows from our operations. To date, we have financed our operations primarily through public offerings of our common stock, private placements of our convertible equity securities, term debt and collaborations. Through March 31, 2023, we have received an aggregate of $729.2 million from issuances of equity and $25.0 million from our amended Loan and Security Agreement. On March 10, 2023, SVB was closed by the California Department of Financial Protection and Innovation and the Federal Deposit Insurance Corporation was appointed as receiver. During March 2023, we established a banking relationship with a financial institution in addition to SVB. We follow the guidance of Accounting Standards Codification, or ASC, Topic 205-40, Presentation of Financial Statements - Going Concern , in order to determine whether there is substantial doubt about our ability to continue as a going concern for one year after the date our condensed financial statements are issued. Given our current development plans and cash management efforts, we anticipate that our cash resources will be sufficient to fund operations into the fourth quarter of 2023. Our ability to continue operations after our current cash resources are exhausted depends on our ability to obtain additional financing, as to which no assurances can be given. Cash requirements may vary materially from those now planned because of changes in our focus and direction of our research and development programs, competitive and technical advances, patent developments, regulatory changes or other developments. If adequate additional funds are not available when required, management may need to curtail its development efforts and planned operations to conserve cash. Based on the current cash forecast, management has determined that our present capital resources will not be sufficient to fund our planned operations for at least one year from the issuance date of the condensed financial statements, which raises substantial doubt as to our ability to continue as a going concern. This forecast of cash resources and planned operations is forward-looking information that involves risks and uncertainties, and the actual amount of expenses could vary materially and adversely as a result of a number of factors. 20 2022 Public Offering On November 29, 2022, we entered into an underwriting agreement, or the Underwriting Agreement, with Cantor Fitzgerald & Co., or the Underwriter, as the sole underwriter, relating to the issuance and sale in an underwritten offering, or the Offering, of 24,228,719 shares of our common stock, or the Firm Shares, to the Underwriter at a price of $0.6191 per share. Our net proceeds from the Offering were $14.7 million (before accounting for the partial exercise of the Underwriter's option as described below) after deducting underwriting discounts and commissions and offering expenses payable by us. Under the terms of the Underwriting Agreement, we granted the Underwriter an option, exercisable for 30 days, to purchase up to an additional 3,634,307 shares of common stock, or, together with the Firm Shares, the Shares, at the same price per share as the Firm Shares. On January 5, 2023, the Underwriter partially exercised its option to purchase an additional 216,294 shares of common stock. 2022 Equity Distribution Agreement On August 12, 2022, we entered into an Equity Distribution Agreement, or the Equity Distribution Agreement, with Piper Sandler & Co., or Piper Sandler, pursuant to which we can offer and sell, from time to time at our sole discretion, shares of our common stock having an aggregate offering price of up to $50 million through Piper Sandler as our sales agent in an “at the market offering.” Piper Sandler will receive a commission of 3.0% of the gross proceeds of any common stock sold under the Equity Distribution Agreement. During the three months ended March 31, 2023, there were no sales of our common stock under the Equity Distribution Agreement. In connection with entering into the Equity Distribution Agreement, we concurrently terminated, effective August 12, 2022, the Open Market Sale Agreement, dated June 21, 2019, governing our former “at the market offering” program. 2021 Loan and Security Agreement On August 6, 2021, we entered into a Loan and Security Agreement, or the Loan and Security Agreement, with SVB. The Loan and Security Agreement provided for an initial term loan of $25.0 million funded at the closing, or the Term A Tranche, with an additional tranche of $25.0 million available if certain funding and clinical milestones were met by August 31, 2022. The SVB Facility and related obligations under the Loan and Security Agreement were secured by substantially all of our properties, rights and assets, except for our intellectual property (which was subject to a negative pledge under the Loan and Security Agreement). In addition, the Loan and Security Agreement contained customary representations, warranties, events of default and covenants. As of March 31, 2023, we were in compliance with all debt covenants, as amended. Effective December 28, 2021, we entered into the First Amendment to the Loan and Security Agreement. Under the terms of the First Amendment, the additional tranche, which remained unfunded, was eliminated, leaving only the Term A Tranche, which is referred to as the SVB Facility. The SVB Facility bore interest at a floating rate per annum on the outstanding loans, payable monthly, at the greater of (a) 7.75% and (b) the current published U.S. prime rate, plus a margin of 4.5%. Commencing on September 1, 2022, aggregate outstanding borrowings became repayable in twelve consecutive, equal monthly installments of principal plus accrued interest. All outstanding obligations under the amended Loan and Security Agreement were due and payable on August 1, 2023. We also owed SVB $1.4 million as a final payment, or the Final Payment. Effective March 30, 2023, we entered into a Third Amendment to the Loan and Security Agreement, or the Third Amendment. Under the terms of the Third Amendment, we were no longer required to maintain all of our operating accounts, depository accounts and excess cash with SVB, and were instead only required to maintain a single operating or depository account at Silicon Valley Bank. The Third Amendment also modified the cash collateralization requirement, such that we were required to cash collateralize the entire sum of the outstanding principal amount of the SVB Facility plus an amount equal to the Final Payment, which amount was to be reduced commensurate with each regularly scheduled monthly payment of principal and interest on the SVB Facility. On May 1, 2023, we paid SVB all amounts outstanding under the amended Loan and Security Agreement, comprised of the entire outstanding principal amount under the SVB Facility, all accrued and unpaid interest and the Final Payment. The payment was subject to a prepayment premium of 2.00%. In connection with our entry into the Loan and Security Agreement in August 2021, we issued to SVB warrants to purchase (i) up to 432,844 shares of our common stock, in the aggregate, and (ii) up to an additional 432,842 shares of Common Stock, in the aggregate, in the event we achieved certain clinical milestones, in each case at an exercise price per share of $2.22. In connection with our entry into the First Amendment in December 2021, we amended and restated the warrants issued to SVB. As amended and restated, the warrants are for up to 649,615 shares of our common stock, in the aggregate, with an exercise price of $1.16 per share, or the SVB Warrants. The SVB Warrants expire on August 6, 2031. Cash Flows The following table summarizes our net decrease in cash and cash equivalents for the three months ended March 31, 2023 and 2022: 21 Three Months Ended March 31, 2023 2022 ($ in thousands) Net cash used in: Operating activities $ (9,381 ) $ (7,770 ) Investing activities (23 ) (29 ) Financing activities (6,158 ) — Net decrease in cash and cash equivalents $ (15,562 ) $ (7,799 ) Cash flows from operating activities represent the cash receipts and disbursements related to all of our activities other than investing and financing activities. Cash flows from operating activities are derived by adjusting our net loss • Non-cash operating items such as depreciation and stock-based compensation; and • Changes in operating assets and liabilities which reflect timing differences between the receipt and payment of cash associated with transactions and when they are recognized in results of operations. Net cash used in operating activities for the three months ended March 31, 2023 was $9.4 million, as compared to net cash used in operating activities of $7.8 million for the three months ended March 31, 2022. The increase was primarily related to the increase of our net loss by $0.2 million, non-cash adjustments and working capital impacts. The net cash used in operating activities for the three months ended March 31, 2023 was primarily due to our net loss of $10.0 million, adjusted for $2.2 million of non-cash items such as depreciation, stock-based compensation and a decrease in the carrying amount of right-of-use lease assets, a $0.1 million decrease in lease liabilities and a $1.5 million decrease in accrued expenses. Net cash used in investing activities was $23 thousand for the three months ended March 31, 2023, compared to $29 thousand for the three months ended March 31, 2022. Net cash used in financing activities for the three months ended March 31, 2023 was $6.2 million, compared to $0 for the three months ended March 31, 2022. The increase was primarily related to the $6.3 million in repayments of long-term debt, partially offset by $0.1 million in proceeds from the issuance of common stock. Operating Capital and Capital Expenditure Requirements We anticipate that losses will continue for the foreseeable future. As of March 31, 2023, our accumulated deficit was approximately $890.7 million. Our actual cash requirements may vary materially from those planned because of a number of factors, includin • changes in the focus, direction and pace of our development programs; • the effect of competing technologies and market developments; • the scope, progress, timing, costs and results of our TCR-T Library Phase 1/2 Trial for the treatment of certain solid tumors and costs associated with the development of our product candidates; • our headcount growth as we rebuild our workforce with a focus on our TCR program and scaling our manufacturing capabilities; • our ability to secure partnering arrangements; and • costs of filing, prosecuting, defending and enforcing any patent claims and any other intellectual property rights, or other developments. As of March 31, 2023, we had approximately $37.4 million of cash, cash equivalents and restricted cash. Our restricted cash of $13.9 million related to the amended Loan and Security Agreement, which was fully repaid as of May 1, 2023. Given our current development plans, we anticipate our cash resources will be sufficient to fund our operations into the fourth quarter of 2023. In order to continue our operations beyond our forecasted runway, we will need to raise additional capital, and we have no committed sources of additional capital at this time. The forecast of cash resources is forward-looking information that involves risks and uncertainties, and the actual amount of our expenses could vary materially and adversely as a result of a number of factors. We have based our estimates on assumptions that may prove to be wrong, and our expenses could prove to be significantly higher than we currently anticipate. Management does not know whether additional financing will be on terms favorable or acceptable to us when needed, if at all. If adequate additional funds are not available when required, or if we are unsuccessful in entering into partnership agreements for further development of our product candidates, management may need to curtail its development efforts and planned operations. 22 Working capital, which excludes restricted cash, as of March 31, 2023 was $7.2 million, consisting of $24.2 million in current assets and $17.0 million in current liabilities. Working capital as of December 31, 2022 was $15.7 million, consisting of $39.9 million in current assets and $24.2 million in current liabilities. Operating Leases Our commitments for operating leases relate to laboratory and office space in Houston, Texas and office space in Boston, Massachusetts. On December 21, 2015 and April 15, 2016, we renewed the sublease for our office space in Boston through August 31, 2021. On April 22, 2021, we extended our sublease for a portion of office space at our office in Boston through August 31, 2026. On March 12, 2019, we entered into a lease agreement for office space in Houston at MD Anderson through April 2021. On October 15, 2019, we entered into another lease agreement for additional office and laboratory space in Houston through February 2027. On April 7, 2020, we entered into amendments to our existing lease to lease additional office and laboratory space in Houston through February 2027. In June and September 2020, we entered into short-term leases in Houston for additional office and laboratory space. On December 15, 2020, we entered into a second lease in Houston with MD Anderson which provided us additional office and laboratory space through April 2028. In April 2022, we modified our real estate lease agreement executed on December 15, 2020 with MD Anderson. The modification reduced our leased space from 18,111 square feet to 3,228 square feet. As a result, the associated lease liability and right-of-use asset were remeasured to $0.4 million based on revised lease payments. In June 2022, we executed an agreement to sub-sublease 4,772 square feet of our subleased office space in Boston. The term of the sub-sublease was from July 1, 2022 to June 30, 2025 and provided the sub-subtenant with an option to extend through to July 31, 2026. For the three months ended March 31, 2023, we recognized $43 thousand in lease income, which is classified within other income (expense), net in the condensed statement of operations. In April 2023, we executed an agreement to terminate the lease for our remaining office space in Boston. Under the terms of the lease termination, we were required to pay a $0.2 million termination fee. Additionally, we have been released from our sub-sublease signed in June 2022 as it has been assigned to the Boston office space's landlord in conjunction with the agreement to terminate the lease for the remaining office space. Royalty and License Fees On May 28, 2019, we entered into a patent license agreement, or the Patent License, with the National Cancer Institute, or the NCI. The terms of the Patent License require us to pay the NCI minimum annual royalties in the amount of $0.3 million, which will be reduced to $0.1 million once the aggregate minimum annual royalties paid by us equals $1.5 million. For the three months ended March 31, 2023 and 2022, we recognized $0.3 million related to royalty payments under the Patent License. As of March 31, 2023, we have paid a total of $0.8 million in minimum annual royalty payments under the Patent License. Pursuant to the Patent License, we are also required to make performance-based payments contingent upon the successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $4.3 million, of which aggregate payments of $3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $0.1 million was due upon the initiation of our TCR-T Library Phase 1/2 Trial. In addition, we are required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $250.0 million to $1.0 billion. The aggregate potential amount of these benchmark payments is $12.0 million. No payments were made during the three months ended March 31, 2023 and 2022. On October 5, 2018, we entered into the License Agreement with PGEN Therapeutics, Inc., or PGEN, a wholly owned subsidiary of Precigen. We refer to PGEN and Precigen together as Precigen. Under the License Agreement, we were obligated to pay Precigen an annual licensing fee of $0.1 million expected to be paid through the term of the License Agreement and we had also agreed to reimburse certain historical costs of Precigen up to $1.0 million. Pursuant to the terms of the License Agreement, we were responsible for contingent milestone payments totaling up to an additional $52.5 million for each exclusively licensed program upon the initiation of later stage clinical trials and upon the approval of exclusively licensed products in various jurisdictions. In addition, we were also required to pay Precigen tiered royalties ranging from low-single digits to high-single digits on the net sales derived from the sale of any approved IL-12 products and CAR products as well as royalties ranging from low-single digits to mid-single digits on the net sales derived from the sales of any approved TCR products, up to a maximum royalty amount of $100.0 million in the aggregate. We were also required to pay Precigen 20% of any sublicensing income received by us relating to the licensed products. We were also responsible for all development costs associated with each of the licensed products. Precigen was required to pay us royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of Precigen's CAR products, up to a maximum royalty amount of $100.0 million. Pursuant to the A&R License Agreement, all royalty and milestone obligations between us and Precigen have been removed, and annual license payments due to Precigen have been reduced from $100 thousand to $75 thousand. Payment of the licensing fee is scheduled annually in the fourth 23 quarter; therefore, in accordance with the terms of the agreement, no amounts were paid during the three months ended March 31, 2023 and 2022. In June 2022, Solasia Pharma K. K., or Solasia, announced that darinaparsin had been approved from relapsed or refractory Peripheral T-Cell Lymphoma by the Ministry of Health, Labor and Welfare in Japan. During the three months ended March 31, 2023 and 2022, the Company did not record collaboration revenue under the License and Collaboration Agreement, dated March 7, 2011, as amended on July 31, 2014 between Solasia and us. Critical Accounting Policies and Significant Estimates In our Annual Report on Form 10-K for the year ended December 31, 2022, our most critical accounting policies and estimates upon which our financial status depends were identified as those relating to clinical trial expenses and other research and development expenses; collaboration agreements; fair value measurements for stock-based compensation; and income taxes. We reviewed our policies and determined that those policies remain our most critical accounting policies for the three months ended March 31, 2023. Item 3. Quantitative and Qualitative Disclosures about Market Risk. As a smaller reporting company, as defined by Rule 12b-2 under the Securities Exchange Act of 1934, as amended, or the Exchange Act, we are not required to provide the information under this item. Item 4. Controls and Procedures. Evaluation of Disclosure Controls and Procedures Our management, with the participation of our principal executive officer and principal accounting officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) or 15d-15(e) under the Exchange Act) as of March 31, 2023. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by the company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal accounting officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Our management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and our management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of our disclosure controls and procedures as of March 31, 2023, our principal executive officer and principal accounting officer concluded that, as of such date, our disclosure controls and procedures were effective. Changes in Internal Control over Financial Reporting There were no changes in our internal control over financial reporting (as defined in Rule 13(a)-15(f) of the Exchange Act) that occurred during the quarter ended March 31, 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 24 PART II—OTHER INFORMATION Item 1. Legal Proceedings In the ordinary course of business, we may periodically become subject to legal proceedings and claims arising in connection with ongoing business activities from time to time. The results of litigation and claims cannot be predicted with certainty, and unfavorable resolutions are possible and could materially affect our results of operations, cash flows or financial position. In addition, regardless of the outcome, litigation could have an adverse impact on us because of defense costs, diversion of management attention and resources and other factors. As of March 31, 2023, based on information readily available, there are no material matters that, in the opinion of management, are likely to result in a material adverse effect on our financial position, results of operations or cash flows. Item 1A. Risk Factors The following important factors could cause our actual business and financial results to differ materially from those contained in forward-looking statements made in this Quarterly Report on Form 10-Q or elsewhere by management from time to time. The risk factors in this Quarterly Report have been revised to incorporate changes to our risk factors from those included in our Annual Report. The risk factors set forth below with an asterisk (*) before the title are new risk factors or ones containing substantive changes from the risk factors previously disclosed in Item 1A of our Annual Report, as filed with the SEC. The market price of our common stock could decline if one or more of these risks or uncertainties actually occur, causing you to lose all or part of your investment. This situation is changing rapidly and additional impacts may arise. Additional risks that we currently do not know about, or that we currently believe to be immaterial, may also impair our business. Certain statements below are forward-looking statements. See “Special Note Regarding Forward-Looking Statements” in this Quarterly Report. RISKS RELATED TO OUR BUSINESS *We will require substantial additional financial resources to continue as a going concern and to continue ongoing development of our product candidates and pursue our business objectives; if we are unable to obtain these additional resources when needed, we may be forced to delay or discontinue our planned operations, including clinical testing of our product candidates. We have not generated significant revenue and have incurred significant net losses in each year since our inception. For the three months ended March 31, 2023, we had a net loss of $10.0 million, and, as of March 31, 2023, our accumulated deficit since inception in 2003 was $890.7 million. We expect our operating expenditures and net losses to increase significantly in connection with our ongoing clinical trial and our internal research and development capabilities. Further development of our product candidates will require substantial increases in our expenses as we: • continue to undertake clinical trials for product candidates; • scale-up and scale-out the manufacturing of our TCR-T product candidates; • seek regulatory approvals for product candidates; • work with regulatory authorities to identify and address program-related inquiries; • implement additional internal systems and infrastructure; and • hire additional personnel, including highly-skilled and experienced scientific staff. As of March 31, 2023, we have approximately $37.4 million of cash and cash equivalents, including $13.9 million of restricted cash related to the amended Loan and Security Agreement. Given our current development plans and cash management efforts, we anticipate cash resources will be sufficient to fund operations into the fourth quarter of 2023. We have no committed sources of additional capital at this time. We follow the guidance of Accounting Standards Codification, or ASC, Topic 205-40, Presentation of Financial Statements - Going Concern , in order to determine whether there is substantial doubt about our ability to continue as a going concern for one year after the date our condensed financial statements are issued. Based on the current cash forecast, management has determined that our present capital resources will not be sufficient to fund our planned operations for at least one year from the issuance date of the condensed financial statements, which raises substantial doubt as to our ability to continue as a going concern. The forecast of cash resources is forward-looking information that involves risks and uncertainties, and our actual cash requirements may vary materially from our current expectations for a number of other factors that may include, but are not limited to, changes in the focus and direction of our development programs, slower and/or faster than expected progress of our research and development efforts, changes in governmental regulation, competitive and technical advances, rising costs associated with the development of our product candidates, our ability to secure partnering arrangements, and costs of filing, prosecuting, defending and enforcing our intellectual property rights. Global political and economic events, including the COVID-19 pandemic and increased inflation, have already resulted in a significant disruption of global financial markets. If the disruption persists and deepens, we could experience an 25 inability to access additional capital or make the terms of any available financing less attractive, which could in the future negatively affect our operations. If we exhaust our capital reserves more quickly than anticipated, regardless of the reason, and we are unable to obtain additional financing on terms acceptable to us or at all, we may be required to delay, limit, reduce or terminate our product development or future commercialization efforts or grant rights to develop and market product candidates that we would otherwise prefer to develop and market ourselves. *We need to raise additional capital to fund our operations. The manner in which we raise any additional funds may affect the value of your investment in our common stock. Until such time, if ever, as we can generate substantial revenue, we expect to finance our cash needs through a combination of equity offerings, debt financings and license and collaboration agreements. We do not have any committed external source of funds. The unpredictability of the capital markets may severely hinder our ability to raise capital within the time periods needed or on terms we consider acceptable, if at all. In particular, a decline in the market price of our common stock could make it more difficult for us to sell equity or equity-related securities in the future at a time and price that we deem appropriate. Moreover, if we fail to advance one or more of our current product candidates into early or later-stage clinical trials, successfully commercialize one or more of our product candidates, or acquire new product candidates for development, we may have difficulty attracting investors that might otherwise be a source of additional financing. On August 6, 2021, we entered into the Loan and Security Agreement with SVB. The Loan and Security Agreement provided for an initial term loan of $25.0 million funded at the closing, with an additional tranche of $25.0 million available if certain funding and clinical milestones were met by August 31, 2022. In connection with the initial borrowing, we also issued warrants to SVB for the purchase of up to 432,844 shares of our common stock, in the aggregate, at an exercise price of $2.22 per share. Effective December 28, 2021, we entered into the First Amendment to the Loan and Security Agreement to, among other things, eliminate the additional tranche so that the $25.0 million we had drawn down was the full amount available under the SVB Facility. In connection with entering into the Amended Loan and Security Agreement we also amended and restated the warrants. These SVB Warrants provide for the purchase of up to 649,615 shares of our common stock, in the aggregate, with an exercise price of $1.16 per share. On May 1, 2023, we paid SVB all amounts outstanding under the amended Loan and Security Agreement, comprised of the entire outstanding principal amount of the SVB Facility, all accrued and unpaid interest and the Final Payment. To the extent that we raise additional capital by issuing equity securities, our existing stockholders’ ownership will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect the rights of our common stockholders. Debt financing and preferred equity financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, creating liens, making capital expenditures or declaring dividends. If we raise additional funds through collaborations, strategic alliances or marketing, distribution or licensing arrangements with third parties, we may have to relinquish valuable rights to our technologies, future revenue streams, research programs or product candidates or grant licenses on terms that may not be favorable to us. We may identify material weaknesses in the future or otherwise fail to maintain an effective system of internal controls, which may result in material misstatements of our condensed financial statements or could have a material adverse effect on our business and trading price of our securities. We are subject to the reporting requirements of the Securities Exchange Act of 1934, as amended, or the Exchange Act, the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, and the rules and regulations of the Nasdaq Global Select Market. Pursuant to Section 404 of the Sarbanes-Oxley Act, we are required to perform system and process evaluation and testing of our internal control over financial reporting to allow our management to report on the effectiveness of our internal control over financial reporting. We may also be required to have our independent registered public accounting firm issue an opinion on the effectiveness of our internal control over financial reporting on an annual basis. We have identified material weaknesses in our internal control over financial reporting in the past. A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of our condensed financial statements will not be prevented or detected on a timely basis. Although the material weaknesses identified in the past have been remediated, we cannot assure you that any measures we have taken or may take in the future will be sufficient to avoid potential future material weaknesses. If we are unable to successfully remediate any future material weakness and maintain effective internal controls, we may not have adequate, accurate or timely financial information, and we may be unable to meet our reporting obligations as a public company, including the requirements of the Sarbanes-Oxley Act, we may be unable to accurately report our financial results in future periods, or report them within the timeframes required by the requirements of the SEC, Nasdaq or the Sarbanes-Oxley Act. Failure to comply with the Sarbanes-Oxley Act, when and as applicable, could also potentially subject us to sanctions or investigations by the SEC or other regulatory authorities. Any failure to maintain or implement required new or improved controls, or any difficulties we encounter in their implementation, could result in the identification of additional material weaknesses or significant deficiencies, cause us to fail to meet our reporting obligations or result in material misstatements in our condensed financial statements. Furthermore, if we cannot provide reliable financial reports or 26 prevent fraud, our business and results of operations could be harmed and investors could lose confidence in our reported financial information. Our plans to develop and commercialize non-viral adoptive TCR-T cell therapies can be considered a new approach to cancer treatment, the successful development of which is subject to significant challenges. We are employing technologies such as the technology licensed from MD Anderson pursuant to the MD Anderson License described above, from Precigen, pursuant to the A&R License Agreement, and from NCI, pursuant to the Patent License described above, to pursue the development and commercialization of non-viral cellular therapies based on T-cells and TCRs, targeting solid tumor malignancy. Because this is a new approach to cancer immunotherapy and cancer treatment generally, developing and commercializing product candidates subjects us to a number of challenges, includin • obtaining regulatory approval from the FDA and other regulatory authorities that have very limited experience with the commercial development of genetically modified T-cell therapies for cancer; • designing and conducting our clinical trials using this new approach or selecting the appropriate TCRs in a way that may lead to optimal results; • identifying and manufacturing appropriate TCRs from either the patient or third parties that can be administered to the patient; • developing and deploying consistent and reliable processes for engineering a patient’s and/or donor’s T-cells ex vivo and infusing the T cells back into the patient; • conditioning patients with chemotherapy in conjunction with delivery of the potential products, which may increase the risk of adverse side effects of the chemotherapy itself or of the potential products; • educating medical personnel regarding the potential side effect profile of each of the potential products, such as the potential adverse side effects related to cytokine release; • addressing any competing technological and market developments; • developing processes for the safe administration of these potential products, including long-term follow-up for all patients who receive the potential products; • sourcing additional clinical and, if approved, commercial supplies for the materials used to manufacture and process the potential products; • developing a manufacturing process with a cost of goods that allows for an attractive return on investment; • establishing sales and marketing capabilities after obtaining any regulatory approval to gain market acceptance; • developing therapies for types of cancers beyond those addressed by the current potential products; • maintaining and defending the intellectual property rights relating to any products we develop; and • not infringing the intellectual property rights, in particular, the patent rights, of third parties, including competitors, such as those developing T-cell therapies. We cannot assure you that we will be able to successfully address these challenges, which could prevent us from achieving our research, development and commercialization goals. Our current product candidates are based on novel technologies and are supported by limited clinical data and we cannot assure you that our current and planned clinical trials will produce data that supports regulatory approval of one or more of these product candidates. Our genetically modified TCR-T cell product candidates are supported by limited clinical data, some of which has been generated through trials conducted by MD Anderson and the NCI, rather than solely by us. We have assumed control of the overall clinical and regulatory development of our TCR-T cell product candidates, and any failure to obtain, or delays in obtaining, sponsorship of new INDs, or in filing INDs sponsored by us for these or any other product candidates we decide to advance could negatively affect the timing of our potential future clinical trials. Such an impact on timing could increase research and process development costs and could delay or prevent obtaining regulatory approval for our product candidates, either of which could have a material adverse effect on our business. We began enrolling patients in our TCR-T Library Phase 1/2 Trial in January 2022. Further, we did not control the design or conduct of all of the previous trials. It is possible that the FDA will not accept these previous trials as providing adequate support for future clinical trials, whether controlled by us or third parties, for any of one or more reasons, including the safety, purity and potency of the product candidate, the degree of product characterization, elements of the design or 27 execution of the previous trials or safety concerns or other trial results. We may also be subject to liabilities arising from any treatment-related injuries or adverse effects in patients enrolled in these previous trials. As a result, we may be subject to unforeseen third-party claims and delays in our potential future clinical trials. We may also be required to repeat in whole or in part clinical trials previously conducted by MD Anderson or other entities, which will be expensive and delay the submission and licensure or other regulatory approvals with respect to any of our product candidates. Moreover, there are a number of regulatory requirements that we must continue to satisfy as we conduct our clinical trials of TCR-T cell product candidates in the United States. The criteria these regulators use to determine the safety and efficacy of a product candidate vary substantially according to the type, complexity, novelty and intended use and market of the potential products and change frequently. Satisfaction of these requirements will entail substantial time, effort and financial resources. To date, the FDA has approved only a few adoptive cell therapies for commercialization. Because adoptive cell therapies are relatively new and our product candidates employ novel gene expression and cell technologies, regulatory agencies may lack experience in evaluating product candidates like our Library TCR-T product candidates. This novelty may heighten regulatory scrutiny of our therapies or lengthen the regulatory review process, including the time it takes for the FDA to review our IND applications if and when submitted, increase our development costs and delay or prevent commercialization of our product candidates. These factors make it difficult to determine how long it will take or how much it will cost to obtain regulatory approvals for our product candidates. Any time, effort and financial resources we expend on our clinical product candidates and other early-stage product development programs that are ultimately not successful may adversely affect our business. We report interim data on certain of our clinical trials and we cannot assure you that interim data will be predictive of either future interim results or final study results. In addition, the results ultimately obtained from our preclinical studies or other earlier clinical trials for our product candidates may not be predictive of future results. As part of our business, we provide updates related to the development of our product candidates, which may include updates related to interim clinical trial data. We anticipate that our clinical trials will involve small patient populations and because of the small sample size, the interim results of these, and all, clinical trials may be subject to substantial variability and may not be indicative of either future interim results or final results. We commenced enrollment in our TCR-T Library Phase 1/2 Trial in January 2022 and announced early clinical data for the first patient in September 2022 and for the first two patients in November 2022. The first two patients enrolled in our TCR-T Library Phase 1/2 Trial have been removed from the trial due to subsequent disease progression. We do not know at this stage whether patient response data from additional patients in this trial will be favorable, and initial success in clinical trials may not be indicative of results obtained when such trials are completed. Our product candidates may fail to show the desired safety and efficacy in clinical development, and we cannot assure you that the results of any future trials will demonstrate the value and efficacy of our product candidates. Even if our clinical trials are completed as planned, we cannot be certain that their results will support approval of our product candidates. There are no approved engineered TCR-T cell immunotherapies for solid tumors. We believe our product candidates may be effective against certain solid tumors and plan to develop product candidates for use in those certain solid tumors. We cannot guarantee that our product candidates will be able to access the solid tumor or show any functionality in the solid tumor microenvironment. The cellular environment in which solid tumor cells thrive is generally hostile to T cells due to factors such as the presence of immunosuppressive cells, humoral factors and limited access to nutrients. In addition, the safety profile of our product candidates may differ in a solid tumor setting. If we are unable to make our product candidates function in solid tumors, our development plans and business will be significantly harmed. Preliminary data also remain subject to audit and verification procedures that may result in the final data being materially different from the preliminary data we previously announced. Negative differences between preliminary or interim data and final data could materially adversely affect the prospects of any product candidate that is impacted by such data updates. In addition, the results of any preclinical studies for our product candidates may not be predictive of the results of clinical trials. For example, preclinical models as applied to cell therapy in oncology do not adequately represent the clinical setting, and thus cannot predict clinical activity nor all potential risks. We will need to recruit, hire and retain qualified personnel and we will continue to rely on key scientific and medical advisors, and their knowledge of our business and technical expertise would be difficult to replace. We may not be able to attract or retain qualified management and commercial, scientific, manufacturing and clinical personnel due to the intense competition for qualified personnel among biotechnology, pharmaceutical and other businesses. If we are not able to attract and retain necessary personnel to accomplish our business objectives, we may experience constraints that will significantly impede the achievement of our development objectives, our ability to raise additional capital and our ability to implement our business strategy. 28 We are highly dependent on our principal scientific, regulatory and medical advisors. The loss of any of our key personnel could result in delays in product development, loss of key personnel or partnerships and diversion of management resources, which could adversely affect our operating results. We do not carry “key person” life insurance policies on any of our officers or key employees. *We face substantial competition from other biopharmaceutical companies, which may result in others discovering, developing or commercializing products before, or more successfully than, we do. Our TCR-T cell therapies targeting solid tumors face significant competition from multiple companies, and their collaborators, in the TCR and CAR technology space. We face competition from several companies, including 2Seventy Bio, Achilles Therapeutics, Annoca, Adaptimmune Therapeutics, Affini-T Therapeutics, ArsenalBio, Athenex, BioNTech, Bristol-Myers Squibb, Immatics, Iovance Biotherapeutics, Kite (a Gilead company), Lion TCR, Lyell Immunopharma, Medigene, Neogene Therapeutics (a member of the AstraZeneca group), NexImmune, Nurix Therapeutics, PACT Pharma, Precigen, Tactiva Therapeutics, Takara Bio, T-Cure BioScience, T-knife Therapeutics, Triumvira Immunologics, TScan Therapeutics, Turnstone Biologics, Zelluna Immunotherapy and others. Many of these companies are either investigating TCR-T cells against germline antigens or are utilizing tumor infiltrating lymphocytes. Some are pursuing CAR-T cells for solid tumors. In contrast, we are focused on developing TCR-T cell products against neoantigens arising from somatic mutations in solid tumors. Companies in the T-cell therapy segment that we believe to have target discovery platforms like ours include Adaptive Biotechnologies, Affini-T Therapeutics, Enara Bio, Immatics, Neogene Therapeutics (a member of the AstraZeneca group), PACT Pharma, T-knife Therapeutics, TScan Therapeutics and 3T Biosciences. Several companies, including Advaxis, Amgen, BioNTech, Geneos Therapeutics and Gritstone, are pursuing vaccine platforms to target neoantigens for solid tumors. Other companies are developing non-viral gene therapies, including Poseida Therapeutics, TScan Therapeutics and several companies developing CRISPR technology, including Captain T Cell and Crispr Therapeutics. Several companies are pursuing the development of allogeneic CAR-T therapies, including Allogene Therapeutics, Atara Biotherapeutics and Precision Biosciences, which may compete with our product candidates. We also face competition from companies developing therapies using cells other than T cells such as Athenex, Fate Therapeutics, ImmunityBio, IN8bio, Nkarta Therapeutics and Takeda Pharmaceutical. Other competitors are developing T cells with cytokines, such as Fate Therapeutics and Obsidian Therapeutics. Finally, we also face competition from non-cellular treatments offered by other companies such as Amgen, AstraZeneca, Bristol-Myers Squibb, Immatics, Immunocore, Incyte, Merck, Mirati and Roche. Even if we obtain regulatory approval of potential TCR products, we may not be the first to market and that may affect the price or demand for our potential products. Existing or future competing products may provide greater therapeutic convenience or clinical or other benefits for a specific indication, or fewer side effects, than our potential products or may offer comparable performance at a lower cost. Additionally, the availability and price of our competitors’ products could limit the demand and the price we are able to charge for our potential products, thereby reducing or eliminating our commercial opportunity. We may not be able to implement our business plan if the acceptance of our potential products is inhibited by price competition or the reluctance of physicians to switch from existing methods of treatment to our potential products, or if physicians switch to other new drug or biologic products or choose to reserve our potential products. Additionally, a competitor could obtain orphan product exclusivity from the FDA with respect to such competitor’s product. If such competitor product is determined to be the same product as one of our potential products, that may prevent us from obtaining approval from the FDA for such potential products for the same indication for seven years, except in limited circumstances. If our potential products fail to capture and maintain market share, we may not achieve sufficient product revenues and our business will suffer. We compete against fully integrated pharmaceutical companies and smaller companies that are collaborating with larger pharmaceutical companies, academic institutions, government agencies and other public and private research organizations. Many of these competitors have products already approved or in development. In addition, many of these competitors, either alone or together with their collaborative partners, operate larger research and development programs or have substantially greater financial resources than we do, as well as significantly greater experience in: • developing drugs and biopharmaceuticals; • undertaking preclinical testing and human clinical trials; • obtaining FDA and other regulatory approvals of drugs and biopharmaceuticals; • formulating and manufacturing drugs and biopharmaceuticals; and • launching, marketing and selling drugs and biopharmaceuticals. Our ability to compete may be affected in many cases by insurers or other third-party payors seeking to encourage the use of generic products. 29 Any termination of our licenses with Precigen, MD Anderson or the National Cancer Institute or our research and development agreements with MD Anderson and the National Cancer Institute could result in the loss of significant rights and could harm our ability to develop and commercialize our product candidates. We are dependent on patents, know-how, and proprietary technology that are licensed from others, particularly MD Anderson, Precigen and the NCI, as well as the contributions by MD Anderson under our research and development agreements. Any termination of these licenses or research and development agreements could result in the loss of significant rights and could harm our ability to commercialize our product candidates. Disputes may also arise between us and these licensors regarding intellectual property subject to a license agreement, including those relating t • the scope of rights granted under the applicable license agreement and other interpretation-related issues; • whether and the extent to which our technology and processes, and the technology and processes of Precigen, MD Anderson, the NCI and our other licensors, infringe intellectual property of the licensor that is not subject to the applicable license agreement; • our right to sublicense patent and other rights to third parties pursuant to our relationships with our licensors and partners; • whether we are complying with our diligence obligations with respect to the use of the licensed technology in relation to our development and commercialization of our potential products under the MD Anderson License, the A&R License Agreement and our patent license agreement with the NCI; • whether or not our partners are complying with all of their obligations to support our programs under licenses and research and development agreements; and • the allocation of ownership of inventions and know-how resulting from the joint creation or use of intellectual property by our licensors and by us. If disputes over intellectual property that we have licensed prevent or impair our ability to maintain our current licensing arrangements, particularly with MD Anderson, Precigen and the NCI, on acceptable terms, we may be unable to successfully develop and commercialize the affected potential products. We are generally also subject to all of the same risks with respect to protection of intellectual property that we license as we are for intellectual property that we own. If we or our licensors fail to adequately protect this intellectual property, our ability to commercialize potential products under our applicable licenses could suffer. There is a substantial amount of litigation involving patents and other intellectual property rights in the biotechnology and pharmaceutical industries, as well as administrative proceedings for challenging patents, including interference, derivation, and reexamination proceedings before the United States Patent and Trademark Office, or USPTO, or oppositions and other comparable proceedings in foreign jurisdictions. Recently, due to changes in U.S. law referred to as patent reform, new procedures including inter partes review and post-grant review have been implemented, which adds uncertainty to the possibility of challenge to our or our licensors’ patents in the future. We may not be able to retain the rights licensed to us and Precigen by MD Anderson or the rights licensed to us by the National Cancer Institute to technologies relating to TCR-T cell therapies and other related technologies. Under the MD Anderson License, we, together with Precigen, received an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR-T cell and TCR-T cell therapies as well as either co-exclusive or non-exclusive licenses under certain related technologies. These proprietary methods and technologies, along with others within Precigen's technology suite and licensed to us by Precigen, may help realize the promise of genetically modified TCR-T cell therapies by controlling cell expansion and activation in the body, minimizing off-target and unwanted on-target effects and toxicity while maximizing therapeutic efficacy. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term, we and Precigen shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After 10 years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if we and Precigen are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if we and Precigen are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by us or Precigen, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both us or Precigen and may be terminated by the mutual written agreement of us, Precigen and MD Anderson. 30 Under the Patent License, we received an exclusive, worldwide license to certain intellectual property and patents from the NCI for TCRs we can introduce into T cells using transposon-based genetic engineering. These T cells may be used in our TCR-T Library Phase 1/2 Trial or in subsequent clinical trials, if initiated. The term of the Patent License shall expire with the last of the licensed patents. The NCI could terminate or modify the Patent License if it believes we have materially breached the Patent License, including by failing to meet the defined milestones by the required dates, and have not cured such breach within 90 days of receiving notice of such alleged breach. The NCI may also terminate the Patent License immediately upon our receipt of written notice of certain insolvency events. The Patent License is also subject to certain public use requirements wherein the NCI could require us to sublicense certain product candidates or terminate or modify the Patent License if we do not meet these public use requirements. The Patent License could also be terminated by the NCI if we are unable to pay the required benchmark payments or the annual minimum royalty payments. There can be no assurance that we will be able to successfully perform under the MD Anderson License or the Patent License and if the MD Anderson License or the Patent License is terminated it may prevent us from achieving our business objectives. We are partly reliant on the National Cancer Institute for research and development and early clinical testing of certain of our product candidates. A portion of our research and development is being conducted by the NCI under the CRADA entered into in January 2017 and which was amended in March 2018, February 2019, March 2022 and June 2022. Under the CRADA, the NCI, with Dr. Steven A. Rosenberg as the principal investigator, is responsible for conducting a clinical trial using the Sleeping Beauty system to express TCRs for the treatment of solid tumors. We have limited control over the nature or timing of the NCI’s clinical trial and limited visibility into their day-to-day activities, including with respect to how they are providing and administering T-cell therapy. For example, the research we are funding constitutes only a small portion of the NCI’s overall research. Additionally, other research being conducted by Dr. Rosenberg may at times receive higher priority than research on our program. The progress and timeline, including the timeline for dosing patients, for this trial are under the control of the NCI. The CRADA expired by its terms on January 9, 2022. In March 2022, we entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. In June 2022, we entered into the Fourth Amendment to the CRADA, or the CRADA Fourth Amendment, which, among other things, extended the term of the CRADA until January 9, 2025. If the NCI deprioritizes the work they are doing with us or otherwise limits their cooperation with us, our business may be negatively impacted. We may not be able to commercialize any products, generate significant revenues, or attain profitability. To date, none of our product candidates have been approved for commercial sale in any country. The process to develop, obtain regulatory approval for, and commercialize potential product candidates is long, complex and costly. Unless and until we receive approval from the FDA and/or other foreign regulatory authorities for our product candidates, we cannot sell our products and will not have product revenues. Even if we obtain regulatory approval for one or more of our product candidates, if we are unable to successfully commercialize our products, we may not be able to generate sufficient revenues to achieve or maintain profitability or to continue our business without raising significant additional capital, which may not be available. Our failure to achieve or maintain profitability could negatively impact the trading price of our common stock. Our operating history makes it difficult to evaluate our business and prospects. We have not previously completed any pivotal clinical trials, submitted a BLA or demonstrated an ability to perform the functions necessary for the successful commercialization of any product candidates. The successful commercialization of any product candidates will require us to perform a variety of functions, includin • Continuing to undertake preclinical development and clinical trials; • Participating in regulatory approval processes; • Formulating and manufacturing products; and • Conducting sales and marketing activities. Our operations have been limited to organizing and staffing our company, acquiring, developing and securing our proprietary product candidates and undertaking preclinical and clinical trials of our product candidates. These operations provide a limited basis for you to assess our ability to commercialize our product candidates and the advisability of investing in our securities. We may not be successful in establishing development and commercialization collaborations, which failure could adversely affect, and potentially prohibit, our ability to develop our product candidates. 31 Developing biopharmaceutical products and complementary technologies, conducting clinical trials, obtaining marketing approval, establishing manufacturing capabilities and marketing approved products is expensive, and therefore, we anticipate exploring collaborations with third parties that have alternative technologies, more resources and more experience than we do. In situations where we enter into a development and commercial collaboration arrangement for a product candidate or complementary technology, we may also seek to establish additional collaborations for development and commercialization in territories outside of those addressed by the first collaboration arrangement for such product candidate or technology. There are a limited number of potential partners, and we expect to face competition in seeking appropriate partners. If we are unable to enter into any development and commercial collaborations and/or sales and marketing arrangements on reasonable and acceptable terms, if at all, we may be unable to successfully develop and seek regulatory approval for our product candidates and/or effectively market and sell future approved products, if any, in some or all of the territories outside of the United States where it may otherwise be valuable to do so. We may not be able to successfully manage our growth as we expand our development and regulatory capabilities, which could disrupt our operations. As we advance our product candidates to the point of, and through, clinical trials, we will need to expand our development, regulatory, manufacturing, marketing and sales capabilities or contract with third parties to provide for these capabilities. Our future financial performance and our ability to commercialize our product candidates and to compete effectively will depend, in part, on our ability to manage any future growth effectively. To manage this growth, we must expand our facilities, augment our operational, financial and management systems and hire and train additional qualified personnel with expertise in preclinical and clinical research and testing, manufacturing, government regulation and eventually sales and marketing. Our business will subject us to the risk of liability claims associated with the use of hazardous materials and chemicals. Our contract research and development activities may involve the controlled use of hazardous materials and chemicals. Although we believe that our safety procedures for using, storing, handling and disposing of these materials comply with federal, state and local laws and regulations, we cannot completely eliminate the risk of accidental injury or contamination from these materials. In the event of such an accident, we could be held liable for any resulting damages, and any liability could have a materially adverse effect on our business, financial condition, and results of operations. In addition, the federal, state and local laws and regulations governing the use, manufacture, storage, handling and disposal of hazardous or radioactive materials and waste products may require our contractors to incur substantial compliance costs that could materially adversely affect our business, financial condition and results of operations. We may incur substantial liabilities and may be required to limit commercialization of our products in response to product liability lawsuits. The testing and marketing of medical products entail an inherent risk of product liability, and we will face an even greater risk if we commercially sell any medicines that we may develop. If we cannot successfully defend ourselves against product liability claims, we may incur substantial liabilities or be required to limit commercialization of our products, if approved. Even a successful defense would require significant financial and management resources. Regardless of the merit or eventual outcome, liability claims may result in: • Decreased demand for our product candidates; • Injury to our reputation; • Withdrawal of clinical trial participants; • Initiation of investigations by regulators; • Withdrawal of prior governmental approvals; • Costs of related litigation; • Substantial monetary awards to patients; • Product recalls; • Loss of revenue; • The inability to commercialize our product candidates; and • A decline in our share price. Although we currently carry clinical trial insurance and product liability insurance which we believe to be reasonable, it may not be adequate to cover all liability that we may incur. An inability to renew our policies or to obtain sufficient insurance at an acceptable cost could prevent or inhibit the commercialization of pharmaceutical products that we develop, alone or with collaborators. 32 Business disruptions could seriously harm our future revenue and financial condition and increase our costs and expenses. Our operations, and those of our clinical investigators, contractors and consultants, are based primarily in Houston, Texas. These operations could be subject to power shortages, telecommunications failures, water shortages, hurricanes, floods, earthquakes, fires, extreme weather conditions, medical epidemics and other natural or man-made disasters or business interruptions, for which we maintain customary insurance policies that we believe are appropriate. The occurrence of any of these business disruptions could seriously harm our operations and financial condition and increase our costs and expenses. Our ability to manufacture clinical supplies of our product candidates could be disrupted if our own operations or those of our suppliers are affected by a man-made or natural disaster or other business interruption. We may have limited recourse against third parties if the non-compliance is due to factors outside of the manufacturer’s control. Our business, operations and clinical development plans and timelines could be adversely affected by the effects of health epidemics on the manufacturing, clinical trial and other business activities performed by us or by third parties with whom we conduct business, including our contract manufacturers, CROs, shippers and others. Our business could be adversely affected by health epidemics wherever we have clinical trial sites or other business operations. In addition, health epidemics could cause significant disruption in our manufacturing operations or the operations of third-party manufacturers, CROs and other third parties upon whom we rely or may rely on in the future. We depend on a worldwide supply chain to manufacture products used in our preclinical studies and clinical trials. Quarantines, shelter-in-place and similar government orders, or the expectation that such orders, shutdowns or other restrictions could occur, whether related to COVID-19 or other infectious diseases, could impact personnel at our own manufacturing facilities or third-party manufacturing facilities in the United States and other countries, or the availability or cost of materials, which could disrupt our supply chain. If our relationships with our suppliers or other vendors are terminated or scaled back as a result of the COVID-19 pandemic or other health epidemics, we may not be able to enter into arrangements with alternative suppliers or vendors or do so on commercially reasonable terms or in a timely manner. Switching or adding additional suppliers or vendors involves substantial cost and requires management’s time and focus. In addition, there is a natural transition period when a new supplier or vendor commences work. As a result, delays may occur, which could adversely impact our ability to meet our desired clinical development and any future commercialization timelines. Although we carefully manage our relationships with our suppliers and vendors, there can be no assurance that we will not encounter challenges or delays in the future or that these delays or challenges will not harm our business. In addition, our preclinical studies and our ongoing TCR-T Library Phase 1/2 Trial at MD Anderson have been and may continue to be affected by the COVID-19 pandemic. Clinical site initiation, patient enrollment and activities that require visits to clinical sites, including data monitoring, have been and may continue to be delayed due to prioritization of hospital resources toward the COVID-19 pandemic or concerns among patients about participating in clinical trials during a pandemic. Some patients may have difficulty following certain aspects of clinical trial protocols if quarantines impede patient movement or interrupt healthcare services. Similarly, if we are unable to successfully recruit and retain patients, principal investigators, and site staff who, as healthcare providers, may have heightened exposure to COVID-19 or experience additional restrictions by their institutions, city, or state, our clinical trial operations could be adversely impacted. We rely significantly on information technology and any failure, inadequacy, interruption or security lapse of that technology or loss of data, including any cyber security incidents, could compromise sensitive information related to our business, prevent us from accessing critical information or expose us to liability which could harm our ability to operate our business effectively and adversely affect our business and reputation. In the ordinary course of our business, we, our CROs and other third parties on which we rely collect and store sensitive data, including legally protected patient health information, personally identifiable information about our employees, intellectual property, and proprietary business information. We manage and maintain our applications and data utilizing on-site systems. These applications and data encompass a wide variety of business-critical information including research and development information and business and financial information. The secure processing, storage, maintenance and transmission of this critical information is vital to our operations and business strategy. Despite the implementation of security measures, our internal computer systems and those of third parties with which we contract are vulnerable to damage from cyber-attacks, computer viruses, breaches, unauthorized access, interruptions due to employee error or malfeasance or other disruptions, or damage from natural disasters, terrorism, war and telecommunication and electrical failures. Any such event could compromise our networks and the information stored there could be accessed by unauthorized parties, publicly disclosed, lost or stolen. Although we have measures in place that are designed to detect and respond to such security incidents and breaches of privacy and security mandates, we cannot guarantee that those measures will be successful in preventing any such security incident. Any such access, disclosure or other loss of information could result in legal claims or proceedings, liability under laws that protect the privacy of personal information, government enforcement actions and regulatory penalties. Unauthorized 33 access, loss or dissemination could also disrupt our operations, including our ability to conduct research, development and commercialization activities, process and prepare Company financial information, manage various general and administrative aspects of our business and damage our reputation, in addition to possibly requiring substantial expenditures of resources to remedy, any of which could adversely affect our business. The loss of clinical trial data could result in delays in our regulatory approval efforts and significantly increase our costs to recover or reproduce the data. In addition, there can be no assurance that we will promptly detect any such disruption or security breach, if at all. If the technology supporting our hunTR discovery engine were to experience a cyber-incident resulting in the disclosure or theft of our proprietary screening software or library of TCRs, our business may be materially and negatively impacted. While we are not aware of any such material system failure, accident or security breach to date, to the extent that any disruption or security breach were to result in a loss of, or damage to, our data or applications, or inappropriate disclosure of confidential or proprietary information, we could incur liability and our research, development and commercialization efforts could be delayed. *Adverse developments affecting the financial services industry, such as actual events or concerns involving liquidity, defaults, or non-performance by financial institutions or transactional counterparties, could adversely affect the Company's current and projected business operations and its financial condition and results of operations. Actual events involving reduced or limited liquidity, defaults, non-performance or other adverse developments that affect financial institutions or other companies in the financial services industry or the financial services industry generally, or concerns or rumors about any events of these kinds, have in the past and may in the future lead to market-wide liquidity problems. For example, in March and May of 2023, Silicon Valley Bank was closed by the California Department of Financial Protection and Innovation, Signature Bank was closed by New York’s Department of Financial Services and First Republic Bank was closed by the California Department of Financial Protection and Innovation, and in each case the Federal Deposit Insurance Corporation was appointed as receiver. Investor concerns regarding the U.S. or international financial systems could result in less favorable commercial financing terms, including higher interest rates or costs and tighter financial and operating covenants, or systemic limitations on access to credit and liquidity sources, thereby making it more difficult for us to acquire financing on acceptable terms or at all. Any decline in available funding or access to our cash and liquidity resources could, among other risks, adversely impact our ability to meet our operating expenses, financial obligations or fulfill our other obligations, or result in breaches of our financial and/or contractual obligations. Any of these impacts, or any other impacts resulting from the factors described above or other related or similar factors not described above, could have material adverse impacts on our liquidity and our current and/or projected business operations and financial condition and results of operations. *A failure or the perceived risk of a failure to raise the statutory debt limit of the United States could have an adverse effect on our business, financial condition and results of operations. The U.S. government reached its debt limit of $31.4 trillion in January 2023. Since then, the U.S. Department of Treasury implemented extraordinary measures to prevent default. It is unclear if Congress and the President will reach an agreement to increase the U.S. government’s debt limit in a timely manner. The political stalemate over legislation to fund U.S. government operations and raise the U.S. government’s debt limit may increase the possibility of a default by the U.S. government on its debt obligations and related credit-rating downgrades. This creates uncertainty in the U.S. financial markets, domestic political conditions and interest rates which could have an adverse impact on our business and financial condition. Any disruption to the financial markets or an increase in interest rates may negatively impact our ability to raise capital within the time periods needed or on terms we consider acceptable, if at all. If the United States is unable to increase the U.S. government’s debt limit in a timely manner, the U.S. federal government, including agencies like the FDA, could shut down for a period of time and the United States could default or delay on payment of its obligations or both, which could have an adverse impact on financial markets and economic conditions in the United States and worldwide and an adverse effect on our business, financial condition and results of operations. Any government shutdown may delay our clinical development plans and increase costs related to funding and clinical development. RISKS RELATED TO THE CLINICAL TESTING, GOVERNMENT REGULATION AND MANUFACTURING OF OUR PRODUCT CANDIDATES If we encounter difficulties enrolling patients in our clinical trials, our clinical development activities could be delayed or otherwise adversely affected. We have experienced, and may continue to experience, difficulties in patient enrollment in our ongoing TCR-T Library Phase 1/2 Trial and any future clinical trials for a variety of reasons, including impacts that have resulted or may result from the COVID-19 pandemic. The timely completion of clinical trials in accordance with their protocols depends on, among other things, our ability to 34 enroll a sufficient number of patients who remain in the clinical trial until its conclusion. The enrollment of patients depends on many factors, includin • The patient eligibility criteria defined in the clinical trial protocol; • The size of the patient population required for analysis of the clinical trial’s primary endpoints; • The proximity of patients to clinical trial sites; • The number of clinical trial sites; • The design of the clinical trial; • Our ability to recruit and retain clinical trial investigators with the appropriate competencies and experience; • Our ability to obtain and maintain patient consents; • Reporting of the preliminary results of any of our clinical trials; • Patient insurance approvals of trial participation; and • The risk that patients enrolled in clinical trials will drop out of the clinical trials before the manufacturing and infusion of our product candidates or clinical trial completion. Our clinical trials will compete with other clinical trials for product candidates that are in the same therapeutic areas as our product candidates, and this competition will reduce the number and types of patients available to us because some of our potential patients may instead opt to enroll in a clinical trial being conducted by one of our competitors. In addition, patients may be unwilling to participate in our studies because of negative publicity from adverse events in the biotechnology industry or for other reasons. Since the number of qualified clinical investigators is limited, we expect to conduct some of our clinical trials at the same clinical trial sites that some of our competitors use, which will reduce the number of patients who are available for our clinical trials at such clinical trial sites. Moreover, because our product candidates represent a departure from more commonly used methods for cancer treatment, potential patients and their doctors may be inclined to use conventional therapies, such as chemotherapy and hematopoietic stem cell transplantation, rather than enroll patients in any future clinical trial. Additionally, because our clinical trial is in, and our future clinical trials may be in, patients with relapsed/refractory cancer, the patients are typically in the late stages of their disease and may experience disease progression independent from our product candidates, making them unevaluable for purposes of the clinical trial, which would require additional patient enrollment. Delays in completing patient enrollment may result in increased costs or may affect the timing or outcome of our ongoing and planned clinical trials, which could prevent completion or commencement of these clinical trials and adversely affect our ability to advance the development of our product candidates. Our product candidates are subject to extensive regulation and compliance, which is costly and time consuming, and such regulation may cause unanticipated delays or prevent the receipt of the required approvals to commercialize our product candidates. The clinical development, manufacturing, labeling, packaging, storage, record-keeping, advertising, promotion, import, export, marketing, distribution and adverse event reporting, including the submission of safety and other information, of our product candidates are subject to extensive regulation by the FDA in the United States and by comparable foreign regulatory authorities in foreign markets. The process of obtaining regulatory approval is expensive and often takes many years following the commencement of clinical trials. Approval policies or regulations may change, and the FDA has substantial discretion in the drug approval process, including the ability to delay, limit or deny approval of a product candidate for many reasons. Regulatory approval is never guaranteed. Prior to obtaining approval to commercialize a product candidate in the United States or abroad, we or our collaborators must demonstrate with substantial evidence from adequate and well-controlled clinical trials, and to the satisfaction of the FDA or comparable foreign regulatory authorities, that such product candidates are safe and effective, or with respect to a biological product candidate, safe, pure and potent, for their intended uses. The FDA or comparable foreign regulatory authorities can delay, limit or deny approval of a product candidate for many reasons, includin • Such authorities may disagree with the design or implementation of our or our current or future collaborators’ clinical trials; • Negative or ambiguous results from our clinical trials or results may not meet the level of statistical significance required by the FDA or comparable foreign regulatory agencies for approval; 35 • Serious and unexpected drug-related side effects may be experienced by participants in our clinical trials or by individuals using drugs or biologics similar to our therapeutic product candidates; • Such authorities may not accept clinical data from trials which are conducted at clinical facilities or in countries where the standard of care is potentially different from that of the United States; • We, or any of our current or future collaborators, may be unable to demonstrate that a product candidate is safe and effective, and that the therapeutic product candidate’s clinical and other benefits outweigh its safety risks; • We may be unable to demonstrate to the satisfaction of such authorities that our companion diagnostics are suitable to identify appropriate patient populations; • Such authorities may disagree with our interpretation of data from preclinical studies or clinical trials; • Such authorities may not agree that the data collected from clinical trials of our product candidates are acceptable or sufficient to support the submission of a BLA, New Drug Application, premarket approval, or PMA, or other submission or to obtain regulatory approval in the United States or elsewhere, and such authorities may impose requirements for additional preclinical studies or clinical trials; • Such authorities may disagree regarding the formulation, labeling and/or the specifications of our product candidates; • Approval may be granted only for indications that are significantly more limited than what we apply for and/or with other significant restrictions on distribution and use; • Such authorities may find deficiencies in the manufacturing processes, test procedures and specifications or facilities of our third-party manufacturers with which we or any of our current or future collaborators contract for clinical and commercial supplies; • Regulations and approval policies of such authorities may significantly change in a manner rendering our or any of our potential future collaborators’ clinical data insufficient for approval; or • Such authorities may not accept a submission due to, among other reasons, the content or formatting of the submission. This lengthy approval process, as well as the unpredictability of the results of clinical trials, may result in our failing to obtain regulatory approval to market any of our product candidates, which would significantly harm our business, results of operations and prospects. In addition, even if we obtain regulatory approval of our product candidates, regulatory authorities may approve any of our product candidates for fewer or more limited indications than we request and may impose significant limitations in the form of narrow indications, warnings, or a Risk Evaluation and Mitigation Strategy, or REMS. Events raising questions about the safety of certain marketed biopharmaceuticals may result in increased cautiousness by the FDA and comparable foreign regulatory authorities in reviewing new drugs or biologics based on safety, efficacy or other regulatory considerations and may result in significant delays in obtaining regulatory approvals. Any delay in obtaining, or inability to obtain, applicable regulatory approvals would prevent us or any of our potential future collaborators from commercializing our product candidates. We are very early in our development efforts. Our most advanced product candidates are only in an early-stage clinical trial, which is very expensive and time-consuming. We cannot be certain when we will be able to submit a BLA to the FDA and any failure or delay in completing clinical trials for our product candidates could harm our business. Our product candidates are in various stages of development and require extensive clinical testing. Our most advanced product candidates are in our TCR-T Library Phase 1/2 Trial, which is currently enrolling and dosing patients. Human clinical trials are very expensive and difficult to design, initiate and implement, in part because they are subject to rigorous regulatory requirements. Notwithstanding our current clinical trial plans for each of our existing product candidates, which we estimate will take several years to complete, we may not be able to commence additional trials or see results from these trials within our anticipated timelines. Failure can occur at any stage of a clinical trial, and we can encounter problems that cause us to delay the start of, abandon or repeat clinical trials. Some factors which may lead to a delay in the commencement or completion of our clinical trials inclu requests for additional nonclinical data from regulators, unforeseen safety issues, dosing issues, lack of effectiveness during clinical trials, difficulty recruiting or monitoring patients, or difficulty manufacturing clinical products, among other factors. As they enter later stages of development, our product candidates generally will become subject to more stringent regulatory requirements, including the FDA’s requirements for chemistry, manufacturing and controls for product candidates entering Phase 3 clinical trials. There is no guarantee the FDA will allow us to commence Phase 3 clinical trials for product candidates studied in earlier clinical trials. If the FDA does not allow our product candidates to enter later stage clinical trials or requires changes to the formulation or manufacture of our product candidates before commencing Phase 3 clinical trials, our ability to further develop, or seek approval for, 36 such product candidates may be materially impacted. As such, we cannot predict with any certainty if or when we might submit a BLA for regulatory approval of our product candidates or whether such a BLA will be accepted. Because we do not anticipate generating significant revenues unless and until we submit one or more BLAs and thereafter obtain requisite FDA approvals, the timing of our BLA submissions and FDA determinations regarding approval thereof will directly affect if and when we are able to generate significant revenues. Our product candidates may cause undesirable side effects or have other properties that could delay or prevent their regulatory approval, limit the commercial profile of an approved label or result in significant negative consequences following any potential marketing approval. As with many pharmaceutical and biological products, treatment with our product candidates may produce undesirable side effects or adverse reactions or events, including potential adverse side effects related to cytokine release. If our product candidates or similar products or product candidates under development by third parties demonstrate unacceptable adverse events, we may be required to halt or delay further clinical development of our product candidates. The FDA or other foreign regulatory authorities could order us to cease further development of or deny approval of our product candidates for any or all targeted indications. If a serious adverse event were to occur in our TCR-T Library Phase 1/2 Trial, the FDA may place a hold on the clinical trial. The product-related side effects could affect patient recruitment or the ability of enrolled patients to complete the trial or result in potential product liability claims. In addition, these side effects may not be appropriately or timely recognized or managed by the treating medical staff, particularly outside of the institutions that collaborate with us, as toxicities resulting from our novel technologies may not be normally encountered in the general patient population and by medical personnel. We expect to have to train medical personnel using our product candidates to understand their side effect profiles, both for our planned clinical trials and upon any commercialization of any product candidates. Inadequate training in recognizing or managing the potential side effects of our product candidates could result in adverse effects to patients, including death. Additionally, if one or more of our product candidates receives marketing approval, and we or others later identify undesirable side effects caused by such products, including during any long-term follow-up observation period recommended or required for patients who receive treatment using our product candidates, a number of potentially significant negative consequences could result, includin • regulatory authorities may withdraw approvals of such product; • regulatory authorities may require additional warnings on the product’s label; • we may be required to create a risk evaluation and mitigation strategy plan, which could include a medication guide outlining the risks of such side effects for distribution to patients, a communication plan for healthcare providers and/or other elements to assure safe use; • we could be sued and held liable for harm caused to patients; and • our reputation may suffer. Any of the foregoing could prevent us from achieving or maintaining market acceptance of the particular product candidate, if approved. Furthermore, any of these occurrences may harm our business, financial condition and prospects significantly. Our cellular therapy immuno-oncology product candidates rely on the availability of reagents, specialized equipment and other specialty materials and infrastructure, which may not be available to us on acceptable terms or at all. For some of these reagents, equipment and materials, we rely or may rely on sole source vendors or a limited number of vendors, which could impair our ability to manufacture and supply our products. Manufacturing our product candidates requires many reagents, which are substances used in our manufacturing processes to bring about chemical or biological reactions, and other specialty materials and equipment, some of which are manufactured or supplied by small companies with limited resources and experience to support commercial biologics production. We currently depend on a limited number of vendors for certain materials and equipment used in the manufacture of our product candidates, including DNA plasmids, which are used as the vector to insert our TCRs into human T cells. Some of these suppliers may not have the capacity to support commercial products manufactured under current good manufacturing practices by biopharmaceutical firms or may otherwise be ill-equipped to support our needs. We also do not have supply contracts with some of these suppliers and may not be able to obtain supply contracts with them on acceptable terms or at all. Accordingly, we may experience delays in receiving key materials and equipment to support clinical or commercial manufacturing. For some of these reagents, equipment, infrastructure, and materials, we rely and may in the future rely on sole source vendors or a limited number of vendors. An inability to continue to source product from any of these suppliers, or source product on commercially reasonable terms, which could be due to, among other things, regulatory actions or requirements affecting the supplier, adverse financial or other strategic developments experienced by a supplier, labor disputes or shortages, unexpected demands, supply chain 37 issues or quality issues, could adversely affect our ability to satisfy demand for our product candidates, which could adversely and materially affect our ability to conduct clinical trials, which could significantly harm our business. In addition, some of the reagents and products used by us may be stored at a single vendor. The loss of materials located at a single vendor, or the failure of such a vendor to manufacture clinical product in accordance with our specifications, would impact our ability to conduct ongoing or planned clinical trials and continue the development of our products. Further, manufacturing replacement material may be expensive and require a significant amount of time, which may further impact our clinical programs. As we continue to develop and scale our manufacturing process, we expect that we will need to obtain additional rights to and supplies of certain materials and equipment to be used as part of that process. We may not be able to maintain rights to such materials on commercially reasonable terms, or at all, and if we are unable to alter our process in a commercially viable manner to avoid the use of such materials or find a suitable substitute, it would have a material adverse effect on our business. Even if we are able to alter our process so as to use other materials or equipment, such a change may lead to a delay in our clinical development and/or commercialization plans. If such a change occurs for a product candidate that is already in clinical trials, the change may require us to perform both ex vivo comparability studies and to collect additional data from patients prior to undertaking more advanced clinical trials. Because we are dependent, at least in part, upon clinical research institutions and other CROs for clinical testing and/or for research and development activities, the results of our clinical trials and such research activities are, to a certain extent, beyond our control. We materially rely upon independent investigators and collaborators, such as universities and medical institutions, to conduct our clinical trials under agreements with us. In addition, we hire CROs to help us manage clinical trials, collect data and analyze clinical samples. These collaborators are not our employees, and we cannot control the amount or timing of resources that they devote to our programs. These investigators may not assign as great a priority to our programs or pursue them as diligently as we would if we were undertaking such programs ourselves. If outside collaborators fail to devote sufficient time and resources to our product development programs, or if their performance is substandard, the approval of our FDA applications, if any, and our introduction of new products, if any, will be delayed. These institutions may also have, or implement in the future, policies and procedures that limit their ability to advance our programs. These collaborators may also have relationships with other commercial entities, some of whom may compete with us. If our collaborators assist our competitors to our detriment, our competitive position would be harmed. We have limited experience producing and supplying our product candidates. We may be unable to consistently manufacture our product candidates to the necessary specifications or in quantities necessary to treat patients in our clinical trials. We have limited experience in biopharmaceutical manufacturing. In 2021, we began manufacturing our product candidates at our in-house current good manufacturing practices, or cGMP, manufacturing facility at our leased headquarters in Houston, Texas. Our ability to manufacture our product candidates depends on our hiring and retaining personnel with the appropriate background and training to staff and operate the facility on a daily basis. Should we be unable to hire or retain these individuals, we may need to train additional personnel to fill the needed roles or engage with external contractors. There are a small number of individuals with experience in cell therapy and the competition for these individuals is high. Specifically, the operation of a cell-therapy manufacturing facility is a complex endeavor requiring knowledgeable individuals who have successful previous experience in cleanroom environments. Cell therapy facilities, like other biological agent manufacturing facilities, require appropriate commissioning and validation activities to demonstrate that they operate as designed. Additionally, each manufacturing process must be proven through the performance of process validation runs to guarantee that the facility, personnel, equipment, and process work as designed. Although we have developed our own manufacturing processes using an in-house team, there is timing risk associated with increased in-house product manufacture. The manufacture of our product candidates is complex and requires significant expertise and capital investment, including the development of advanced manufacturing techniques and process controls. Manufacturers of cell therapy products often encounter difficulties in production, particularly in scaling out and validating initial production and ensuring the absence of contamination. These include difficulties with production costs and yields, quality control, including stability of the product, quality assurance testing, operator error, shortages of qualified personnel, as well as compliance with strictly enforced federal, state and foreign regulations. Furthermore, if contaminants are discovered in our supply of product candidates or in our manufacturing facilities, the manufacturing facilities may need to be closed for an extended period to investigate and remedy the contamination. It is possible that stability or other issues relating to the manufacture of our product candidates could occur in the future. We recently amended our clinical trial IND to use cryopreservation-based storage of clinical products. This process is new and we may experience manufacturing failures or difficulties producing sufficient quantities of our clinical products as a result of this change. Our product candidates currently are and will continue to be manufactured on a patient-by-patient basis. Delays in manufacturing could adversely impact the treatment of each patient and may discourage participation in our current or future clinical trials. We have not yet manufactured our clinical trial product candidates on a large scale and may not be able to achieve large scale clinical trial or 38 commercial manufacturing and processing on our own to satisfy expected clinical trial or commercial demands for any of our product candidates. While we believe that our current manufacturing and processing approaches are appropriate to support our early-stage clinical product development, we have limited experience in managing the T cell engineering process, and our processes may be more difficult or more expensive than anticipated. The manufacturing processes employed by us may not result in product candidates that will be safe and effective. If we are unable to manufacture sufficient number of TCR-T cells for our product candidates, our development efforts would be delayed, which would adversely affect our business and prospects. Our manufacturing operations are subject to review and oversight by the FDA. We are subject to ongoing periodic unannounced inspection by the FDA, the Drug Enforcement Administration and corresponding state agencies to ensure strict compliance with cGMP and other government regulations. Our license to manufacture product candidates is subject to continued regulatory review. We do not yet have sufficient information to reliably estimate the cost of commercial manufacturing and processing of our product candidates. The actual cost to manufacture and process our product candidates could materially and adversely affect the commercial viability of our product candidates. As a result, we may never be able to develop a commercially viable product. We also may fail to manage the logistics of collecting and shipping patient material to our manufacturing site and shipping the product candidate back to the patient. Logistical and shipment delays and problems, whether or not caused by us or our vendors, could prevent or delay the delivery of product candidates to patients. We may have difficulty validating our manufacturing process as we manufacture our product candidates from an increasingly diverse patient population for our clinical trials. During our development of the manufacturing process, our TCR-T cell product candidates have demonstrated consistency from lot to lot and from donor to donor. However, our sample size is small and the starting material used during our preclinical development work came from healthy donors. As we work with white blood cells taken from our patient population, we may encounter unforeseen difficulties due to starting with material from donors who are not healthy, including challenges inherent in harvesting white blood cells from unhealthy patients. Although we believe our current manufacturing process is scalable for our clinical development and commercialization, if any of our product candidates are approved or commercialized, we may encounter challenges in validating our process due to the heterogeneity of the product starting material. However, we anticipate that during the early phases of our clinical trials we will be able to adapt our process to account for these differences, resulting in a more robust process. We cannot guarantee that any other issues relating to the heterogeneity of the starting material will not impact our ability to commercially manufacturing our product candidates. The gene transfer vectors from our Sleeping Beauty system used to manufacture our product candidates may incorrectly modify the genetic material of a patient’s T cells, potentially triggering the development of a new cancer or other adverse events. Our TCR-T cells are manufactured using our Sleeping Beauty system, a non-viral vector to insert genetic information encoding the TCR construct into the patient’s T cells. The TCR construct is then primarily integrated at thymine-adenine, or TA, dinucleotide sites throughout the patient’s genome and, once expressed as protein, is transported to the surface of the patient’s T cells. Because the gene transfer vector modifies the genetic information of the T cell, there is a theoretical risk that modification will occur in the wrong place in the T cell’s genetic code, leading to vector-related insertional oncogenesis, and causing the T cell to become cancerous. If the cancerous T cell is then administered to the patient, the cancerous T cell could trigger the development of a new cancer in the patient. We use non-viral vectors to insert genetic information into T cells, which we believe have a lower risk of insertional oncogenesis as opposed to viral vectors. However, the risk of insertional oncogenesis remains a concern for gene therapy, and we cannot assure you that it will not occur in any of our ongoing or planned clinical trials. There is also the potential risk of delayed adverse events following exposure to gene therapy products due to persistent biological activity of the genetic material or other components of the vectors used to carry the genetic material. Although we use non-viral vectors, the FDA has stated that lentiviral vectors possess characteristics that may pose high risks of delayed adverse events. If any such adverse events occur from our non-viral vector, further advancement of our preclinical studies or clinical trials could be halted or delayed, which would have a material adverse effect on our business and operations. Any product candidate for which we obtain marketing approval could be subject to post-marketing restrictions or withdrawal from the market and we may be subject to penalties if we fail to comply with regulatory requirements or if we experience unanticipated problems with our products, when and if any of them are approved. Any product candidate for which we obtain marketing approval, along with the manufacturing processes, post-approval clinical data, labeling, advertising and promotional activities for such product, will be subject to continual requirements of and review by the FDA and other regulatory authorities. These requirements include, among other things, submissions of safety and other post-marketing information and reports, registration and listing requirements, cGMP requirements relating to manufacturing, quality control, quality assurance and corresponding maintenance of records and documents, requirements regarding the distribution of samples to physicians and recordkeeping. Even if marketing approval of a product candidate is granted, the approval may be subject to limitations on the 39 indicated uses for which the product may be marketed or to the conditions of approval, including the requirement to implement a REMS, which could include requirements for a restricted distribution system. If any of our product candidates receives marketing approval, the accompanying label may limit the approved uses, which could limit sales of the product. The FDA may also impose requirements for costly post-marketing studies or clinical trials and surveillance to monitor the safety or efficacy of our approved products. The FDA closely regulates the post-approval marketing and promotion of products to ensure that they are marketed only for the approved indications and in accordance with the provisions of the approved labeling. However, companies may share truthful and not misleading information that is otherwise consistent with the labeling. The FDA imposes stringent restrictions on manufacturers’ communications regarding off-label use and if we market our products outside of their approved indications, we may be subject to enforcement action for off-label marketing. Violations of the Federal Food, Drug and Cosmetic Act relating to the promotion of prescription drugs may lead to investigations alleging violations of federal and state health care fraud and abuse laws, as well as state consumer protection laws. In addition, later discovery of previously unknown adverse events or other problems with our product candidates, manufacturers or manufacturing processes, or failure to comply with regulatory requirements, may yield various results, includin • Litigation involving patients taking our product; • Restrictions on such products, manufacturers or manufacturing processes; • Restrictions on the labeling or marketing of a product; • Restrictions on product distribution or use; • Requirements to conduct post-marketing studies or clinical trials; • Warning letters; • Withdrawal of the products from the market; • Refusal to approve pending applications or supplements to approved applications that we submit; • Recall of products; • Fines, restitution or disgorgement of profits or revenues; • Suspension or withdrawal of marketing approvals; • Damage to relationships with existing and potential collaborators; • Unfavorable press coverage and damage to our reputation; • Refusal to permit the import or export of our products; • Product seizure; and • Injunctions or the imposition of civil or criminal penalties. Noncompliance with requirements regarding safety monitoring or pharmacovigilance can also result in significant financial penalties. Similarly, failure to comply with U.S. and foreign regulatory requirements regarding the development of products for pediatric populations and the protection of personal health information can also lead to significant penalties and sanctions. RISKS RELATED TO OUR ABILITY TO COMMERCIALIZE OUR PRODUCT CANDIDATES If we are unable to obtain the necessary U.S. or worldwide regulatory approvals to commercialize any product candidate, our business will suffer. We may not be able to obtain the approvals necessary to commercialize our product candidates, or any product candidate that we may acquire or develop in the future for commercial sale. We will need FDA approval to commercialize our product candidates in the United States and approvals from regulatory authorities in foreign jurisdictions equivalent to the FDA to commercialize our product candidates in those jurisdictions. In order to obtain FDA approval of any product candidate, we must submit to the FDA a BLA demonstrating that the product candidate is safe for humans and effective for its intended use. This demonstration requires significant research and animal tests, which are referred to as preclinical studies, as well as human tests, which are referred to as clinical trials. Satisfaction of the FDA’s regulatory requirements typically takes many years, depending upon the type, complexity and novelty of the product candidate, and will require substantial resources for research, development and testing. We cannot predict whether our research, development, and clinical approaches will result in products that the FDA will consider safe for humans and effective for their intended uses. The FDA has substantial discretion in the approval process and may require us to conduct additional preclinical studies and clinical trials or to perform post-marketing studies. The approval process may also be delayed by changes in government 40 regulation, future legislation or administrative action or changes in FDA policy that occur prior to or during our regulatory review. Delays in obtaining regulatory approvals may: • Delay commercialization of, and our ability to derive product revenues from, our product candidates; • Impose costly procedures on us; and • Diminish any competitive advantages that we may otherwise enjoy. Even if we comply with all FDA requests, the FDA may ultimately reject one or more of our BLAs. We cannot be sure that we will ever obtain regulatory approval for any of our product candidates. Failure to obtain FDA approval for our product candidates will severely undermine our business by leaving us without a marketable product, and therefore without any potential revenue source, until another product candidate can be developed. There is no guarantee that we will ever be able to develop or acquire another product candidate or that we will obtain FDA approval if we are able to do so. In foreign jurisdictions, we similarly must receive approval from applicable regulatory authorities before we can commercialize any of our product candidates. Foreign regulatory approval processes generally include all of the risks associated with the FDA approval procedures described above. If we are unable either to create sales, marketing and distribution capabilities or enter into agreements with third parties to perform these functions, we will be unable to commercialize our product candidates successfully. We currently have no marketing, sales, or distribution capabilities. If, and when we become reasonably certain that we will be able to commercialize our current or future product candidates, we anticipate allocating resources to the marketing, sales and distribution of our proposed products in North America and in certain other geographies; however, we cannot assure that we will be able to market, sell, and distribute our products successfully. Our future success also may depend, in part, on our ability to enter into and maintain collaborative relationships for such capabilities and to encourage the collaborator’s strategic interest in the product candidates under development, and such collaborator’s ability to successfully market and sell any such products. Although we intend to pursue certain collaborative arrangements regarding the sale and marketing of certain of our product candidates, there are no assurances that we will be able to establish or maintain collaborative arrangements or, if we are able to do so, whether we would be able to conduct our own sales efforts. There can also be no assurance that we will be able to establish or maintain relationships with third-party collaborators or develop in-house sales and distribution capabilities. To the extent that we depend on third parties for marketing and distribution, any revenues we receive will depend upon the efforts of such third parties, and there can be no assurance that such efforts will be successful. In addition, there can also be no assurance that we will be able to market and sell our product candidates in the United States or overseas. If we are not able to partner with a third party and are not successful in recruiting sales and marketing personnel or in building a sales and marketing infrastructure, we will have difficulty commercializing our product candidates, which would harm our business. If we rely on pharmaceutical or biotechnology companies with established distribution systems to market our products, we will need to establish and maintain partnership arrangements, and we may not be able to enter into these arrangements on acceptable terms or at all. To the extent that we enter into co-promotion or other arrangements, any revenues we receive will depend upon the efforts of third parties that may not be successful and that will be only partially in our control. If physicians and patients do not accept and use our product candidates, once approved, our ability to generate revenue from sales of our products will be materially impaired. Even if the FDA and/or foreign equivalents thereof approve our product candidates, physicians and patients may not accept and use them. The use of engineered T cells as potential cancer treatments is a relatively recent development and may not become broadly accepted by physicians, patients, hospitals, cancer treatment centers, third-party payors and others in the medical community. Acceptance and use of our products will depend upon a number of factors, includin • The clinical indications for which our product candidates are approved; • Perceptions by members of the healthcare community, including physicians, about the safety and effectiveness of our products; • The prevalence and severity of any side effects; • Pharmacological benefit and cost-effectiveness of our products relative to competing products; • Relative convenience and ease of administration, including as compared to alternative treatments and competitive therapies; • Availability of coverage and adequate reimbursement for our products from government or other third-party payors; • Effectiveness of marketing and distribution efforts by us and our licensees and distributors, if any; and 41 • The price at which we sell our products. Because we expect sales of our current product candidates, if approved, to generate substantially all of our product revenues for the foreseeable future, the failure of a product to find market acceptance would harm our business and could require us to seek additional financing in order to fund the development of future product candidates. Even if our products achieve market acceptance, we may not be able to maintain that market acceptance over time if new products or technologies are introduced that are more favorably received than our products, are more cost effective or render our products obsolete. Our ability to generate product revenues will be diminished if our products do not obtain coverage and adequate reimbursement from payors. Our ability to commercialize our product candidates, if approved, alone or with collaborators, will depend in part on the extent to which coverage and reimbursement will be available from third-party payors, including government and health administration authorities, private health maintenance organizations and health insurers and other payors. Patients who are prescribed medicine for the treatment of their conditions generally rely on third-party payors to reimburse all or part of the costs associated with their prescription drugs. Sufficient coverage and adequate reimbursement from third-party payors are critical to new product acceptance. Coverage decisions may depend upon clinical and economic standards that disfavor new drug products when more established or lower cost therapeutic alternatives are already available or subsequently become available. It is difficult to predict the coverage and reimbursement decisions that will be made by third-party payors for novel gene and cell therapy products such as ours. Even if we obtain coverage for our product candidates, the resulting reimbursement payment rates might not be adequate or may require co-payments that patients find unacceptably high. Patients are unlikely to use our product candidates unless coverage is provided, and reimbursement is adequate to cover a significant portion of the cost of our product candidates. In addition, the market for our product candidates for which we may receive regulatory approval will depend significantly on access to third-party payors’ drug formularies or lists of medications for which third-party payors provide coverage and reimbursement, which might not include all of the FDA-approved drugs for a particular indication. The industry competition to be included in such formularies often leads to downward pricing pressures on pharmaceutical companies. Also, third-party payors may refuse to include a particular branded drug in their formularies or otherwise restrict patient access to a branded drug when a less costly generic equivalent or other alternative is available. Third-party payors, whether foreign or domestic, or governmental or commercial, are developing increasingly sophisticated methods of controlling healthcare costs. In addition, in the United States, no uniform policy of coverage and reimbursement for drug products exists among third-party payors. Therefore, coverage and reimbursement for drug products can differ significantly from payor to payor. As a result, the coverage determination process is often a time-consuming and costly process that would require us to provide scientific and clinical support for the use of our products to each payor separately, with no assurance that approval will be obtained. If we are unable to obtain coverage of and adequate payment levels for our product candidates, if approved, from third-party payors, physicians may limit how much or under what circumstances they will prescribe or administer our products and patients may decline to purchase them. This in turn could affect our ability to successfully commercialize our products and impact our profitability, results of operations, financial condition, and future success. In addition, in many foreign countries, particularly the countries of the European Union, or the EU, the pricing of prescription drugs is subject to government control. In some non-U.S. jurisdictions, the proposed pricing for a drug must be approved before it may be lawfully marketed. The requirements governing drug pricing vary widely from country to country. For example, the EU provides options for its member states to restrict the range of medicinal products for which their national health insurance systems provide reimbursement and to control the prices of medicinal products for human use. A member state may approve a specific price for the medicinal product or it may instead adopt a system of direct or indirect controls on the profitability of the company placing the medicinal product on the market. We may face competition for our product candidates from lower-priced products in foreign countries that have placed price controls on pharmaceutical products. In addition, there may be importation of foreign products that compete with our own products, which could negatively impact our profitability. The market opportunities for our product candidates may be limited to those patients who are ineligible for or have failed prior treatments and may be small. Cancer therapies are sometimes characterized as first line, second line or third line, and the FDA often approves new therapies initially only for third line use. When cancer is detected early enough, first line therapy is sometimes adequate to cure the cancer or prolong life without a cure. Whenever first line therapy, usually chemotherapy, hormone therapy, surgery, or a combination of these, proves unsuccessful, second line therapy may be administered. Second line therapies often consist of more chemotherapy, radiation, antibody drugs, tumor targeted small molecules, or a combination of these. Third line therapies can include bone marrow transplantation, antibody and small molecule targeted therapies, more invasive forms of surgery and new technologies. We expect to initially seek approval of our product candidates as a third line therapy for patients who have failed other approved treatments. 42 Subsequently, for those product candidates that prove to be sufficiently beneficial, if any, we would expect to seek approval as a second line therapy and potentially as a first line therapy, but there is no guarantee that our product candidates, even if approved, would be approved for second line or first line therapy. In addition, we may have to conduct additional clinical trials prior to gaining approval for second line or first line therapy. Our projections of both the number of people who have the cancers we are targeting, as well as the subset of people with these cancers in a position to receive therapy and who have the potential to benefit from treatment with our product candidates, are based on our beliefs and estimates. These estimates have been derived from a variety of sources, including scientific literature, surveys of clinics, patient foundations or market research and may prove to be incorrect. Further, new studies may change the estimated incidence or prevalence of these cancers. The number of patients may turn out to be lower than expected. Additionally, the potentially addressable patient population for our product candidates may be limited or may not be amenable to treatment with our product candidates. Our market opportunities may also be limited by competitor treatments that may enter the market. Healthcare legislative reform measures may have a material adverse effect on our business and results of operations. In both the United States and certain foreign jurisdictions, there have been a number of legislative and regulatory enactments in recent years that change the healthcare system in ways that could impact our future ability to sell our product candidates profitably. Furthermore, there have been and continue to be a number of initiatives at the federal and state level that seek to reduce healthcare costs. Most significantly, in March 2010, President Obama signed into law the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act, or collectively the ACA, which included measures that have significantly changed the way healthcare is financed by both governmental and private insurers. The ACA, among other things, imposed a new methodology by which rebates owed by manufacturers under the Medicaid Drug Rebate Program are calculated for drugs that are inhaled, infused, instilled, implanted or injected, increased the minimum Medicaid rebates owed by manufacturers under the Medicaid Drug Rebate Program, extended the rebate program to individuals enrolled in Medicaid managed care organizations, added a provision to increase the Medicaid rebate for line extensions or reformulated drugs, established annual fees on manufacturers and importers of certain branded prescription drugs and biologic agents, promoted a new Medicare Part D coverage gap discount program, expanded the entities eligible for discounts under the Public Health Service Act pharmaceutical pricing program and imposed a number of substantial new compliance provisions related to pharmaceutical companies' interactions with healthcare practitioners. The ACA also expanded eligibility for Medicaid programs and introduced a new Patient Centered Outcomes Research Institute to oversee, identify priorities in and conduct comparative clinical effectiveness research, along with funding for such research and a new Center for Medicare & Medicaid Innovation at the Centers for Medicare & Medicaid Services, or CMS, to test innovative payment and service delivery models to lower Medicare and Medicaid spending. There have been executive, legal and political challenges to certain aspects of the ACA. For example, President Trump signed several executive orders and other directives designed to delay, circumvent or loosen certain requirements mandated by the ACA. Concurrently, Congress considered legislation to repeal or repeal and replace all or part of the ACA. While Congress has not passed comprehensive repeal legislation, several bills affecting the implementation of certain taxes under the ACA have been signed into law. In December 2017, Congress repealed the tax penalty, effective January 1, 2019, for an individual’s failure to maintain ACA-mandated health insurance as part of the Tax Act. Further, President Biden issued an executive order that instructed certain governmental agencies to review and reconsider their existing policies and rules that limit access to healthcare, including among others, reexamining Medicaid demonstration projects and waiver programs that include work requirements, and policies that create unnecessary barriers to obtaining access to health insurance coverage through Medicaid or the ACA. Further, there have been a number of health reform initiatives by the Biden administration that have impacted the ACA. For example, on August 16, 2022, President Biden signed the Inflation Reduction Act, or the IRA, into law, which, among other things, extends enhanced subsidies for individuals purchasing health insurance coverage in ACA marketplaces through plan year 2025. The IRA also eliminates the "donut hole" under the Medicare Part D program beginning in 2025 by significantly lowering the beneficiary maximum out-of-pocket cost and implementing a newly established manufacturer discount program. It is possible that the ACA will be subject to judicial or Congressional challenges in the future. It is unclear how any such challenges and the healthcare reform measures of the Biden administration will impact ACA and our business. The ultimate content, timing or effect of any healthcare reform measures on the U.S. healthcare industry is unclear. Further, there has been increasing legislative and enforcement interest in the United States with respect to specialty drug pricing practices. As a result, there have been several U.S. Congressional inquiries and proposed and enacted federal and state legislation designed to, among other things, bring more transparency to drug pricing, review the relationship between pricing and manufacturer patient programs and reform government program reimbursement methodologies for drugs. At the federal level, the Trump administration used several means to propose or implement drug pricing reform, including through federal budget proposals, executive orders and policy initiatives. For example, on July 24, 2020 and September 13, 2020, the Trump administration announced several executive orders related to prescription drug pricing that attempt to implement several of the administration’s proposals. The FDA also released a final rule, effective November 30, 2020, implementing a portion of the importation executive order providing guidance for states to build and submit importation plans for drugs from Canada. Further, on November 30, 2020, the U.S. Department 43 of Health and Human Services, or HHS, finalized a regulation removing safe harbor protection for price reductions from pharmaceutical manufacturers to plan sponsors under Medicare Part D, either directly or through pharmacy benefit managers, unless the price reduction is required by law. The IRA delayed the implementation of the rule to January 1, 2032. The rule also creates a new safe harbor for price reductions reflected at the point-of-sale, as well as a new safe harbor for certain fixed fee arrangements between pharmacy benefit managers and manufacturers, the implementation of which have also been delayed until January 1, 2032. In addition, on March 11, 2021, President Biden signed the American Rescue Plan Act of 2021 into law, which eliminates the statutory Medicaid drug rebate price cap, currently set at 100% of a drug's average manufacturer price for single source and innovator multiple source products, beginning on January 1, 2024. Further, in July 2021, the Biden Administration released an executive order that included multiple provisions aimed at prescription drugs. In response to Biden's executive order, on September 9, 2021, HHS released a Comprehensive Plan for Addressing High Drug Prices that outlines principles for drug price reform. The plan sets out a variety of potential legislative policies that Congress could pursue as well as potential administrative actions by HHS. No legislative or administrative actions have been finalized to implement these principles. In addition, Congress is considering drug pricing as part of the budget reconciliation process. Additionally, the IRA, among other things, (i) directs HHS to negotiate the price of certain high-expenditure, single-source drugs and biologics covered under Medicare, and subject drug manufacturers to civil monetary penalties and a potential excise tax by offering a price that is not equal to or less than the negotiated “maximum fair price” under the law, and (ii) imposes rebates under Medicare Part B and Medicare Part D to penalize price increases that outpace inflation. The IRA permits HHS to implement many of these provisions through guidance, as opposed to regulation, for the initial years. These provisions will take effect progressively starting in fiscal year 2023, although they may be subject to legal challenges. It is currently unclear how the IRA will be effectuated but is likely to have a significant impact on the pharmaceutical industry. Individual states in the United States also have increasingly passed legislation and implemented regulations designed to control pharmaceutical product pricing, including price or patient reimbursement constraints, discounts, restrictions on certain product access and marketing cost disclosure and transparency measures, and, in some cases, designed to encourage importation from other countries and bulk purchasing. We expect that healthcare reform measures that may be adopted in the future may result in more rigorous coverage criteria and in additional downward pressure on the price that we may receive for any approved product. Any reduction in reimbursement from Medicare or other government programs may result in a similar reduction in payments from private payors. The implementation of cost containment measures or other healthcare reforms may prevent us from being able to generate revenue, attain profitability or, if we receive regulatory approval, commercialize our products. If we fail to comply with federal and state healthcare laws, including fraud and abuse and health information privacy and security laws, we could face substantial penalties and our business, results of operations, financial condition and prospects could be adversely affected. As a pharmaceutical company, even though we do not and will not control referrals of healthcare services or bill directly to Medicare, Medicaid or other third-party payors, certain federal and state healthcare laws and regulations pertaining to fraud and abuse and patients’ rights are and will be applicable to our business. For example, we could be subject to healthcare fraud and abuse and patient privacy regulation by both the federal government and the states in which we conduct our business. The laws that may affect our ability to operate include, among othe • The federal Anti-Kickback Statute, which regulates our business activities, including our clinical research and relationships with healthcare providers or other entities as well as our future marketing practices, educational programs and pricing policies, and by prohibiting, among other things, soliciting, receiving, offering or paying remuneration, directly or indirectly, to induce, or in return for, either the referral of an individual or the purchase or recommendation of an item or service reimbursable under a federal healthcare program, such as the Medicare and Medicaid programs; • Federal civil and criminal false claims laws, including the False Claims Act, which permits a private individual acting as a “whistleblower” to bring actions on behalf of the federal government alleging violations of the False Claims Act, and civil monetary penalty laws, which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid or other third-party payors that are false or fraudulent; • The federal Health Insurance Portability and Accountability Act of 1996, or HIPAA, which created new federal civil and criminal statutes that prohibit, among other things, executing a scheme to defraud any healthcare benefit program or making false statements relating to healthcare matters; • The Health Information Technology for Economic and Clinical Health Act of 2009, or HITECH, and its implementing regulations, which impose certain requirements relating to the privacy, security and transmission of individually identifiable health information on entities and individuals subject to the law including certain healthcare providers, health plans, and healthcare clearinghouses, known as covered entities, as well as individuals and entities that perform services for them which involve the use, or disclosure of, individually identifiable health information, known as business associates and their subcontractors that use, disclose or otherwise process individually identifiable health information; 44 • Requirements under the Physician Payments Sunshine Act to report annually to CMS certain financial arrangements with prescribers and teaching hospitals, as defined in the ACA and its implementing regulations, including reporting any “transfer of value” made or distributed to teaching hospitals, and physicians, as defined by such law and reporting any ownership and investment interests held by physicians and their immediate family members during the preceding calendar year; and • State and foreign law equivalents of each of the above federal laws, such as anti-kickback and false claims laws which may apply to items or services reimbursed by any third-party payor, including commercial insurers; state laws that require pharmaceutical companies to comply with the industry’s voluntary compliance guidelines and the applicable compliance guidance promulgated by the federal government that otherwise restricts certain payments that may be made to healthcare providers and entities; state laws that require drug manufacturers to report information related to payments and other transfer of value to physicians and other healthcare providers and entities; state laws that require the reporting of information related to drug pricing; state and local laws that require the registration of pharmaceutical sales representatives; and state and foreign laws governing the privacy and security of health information in certain circumstances, many of which differ from each other in significant ways and often are not preempted by HIPAA, thus complicating compliance efforts. Because of the breadth of these laws and the narrowness of the statutory exceptions and safe harbors available, it is possible that some of our business activities, including any consulting agreements with physicians who may receive stock or stock options as compensation for their services, could be subject to challenge under one or more of such laws. In addition, recent health care reform legislation has further strengthened these laws. For example, the ACA, among other things, amended the intent requirement of the federal Anti-Kickback Statute and certain criminal healthcare fraud statutes. A person or entity no longer needs to have actual knowledge of this statute or specific intent to violate it. Moreover, the ACA provides that the government may assert that a claim including items or services resulting from a violation of the federal Anti-Kickback Statute constitutes a false or fraudulent claim for purposes of the False Claims Act. To the extent that any of our product candidates is ultimately sold in a foreign country, we may be subject to similar foreign laws and regulations. Efforts to ensure that our business arrangements comply with applicable healthcare laws involve substantial costs. It is possible that governmental and enforcement authorities will conclude that our business practices do not comply with current or future statutes, regulations or case law interpreting applicable fraud and abuse or other healthcare laws and regulations. If any such actions are instituted against us, and we are not successful in defending ourselves or asserting our rights, we may be subject to significant penalties, including administrative, civil and criminal penalties, damages, fines, exclusion from participation in United States federal or state health care programs, such as Medicare and Medicaid, disgorgement, imprisonment, integrity oversight and reporting obligations, and the curtailment or restructuring of our operations, any of which could materially adversely affect our ability to operate our business and our financial results. Although compliance programs can mitigate the risk of investigation and prosecution for violations of these laws, the risks cannot be entirely eliminated. Any action against us for violation of these laws, even if we successfully defend against it, could cause us to incur significant legal expenses and divert our management’s attention from the operation of our business. Moreover, achieving and sustaining compliance with applicable federal and state privacy, security and fraud laws may prove costly. Our immuno-oncology product candidates may face competition in the future from biosimilars and/or new technologies. The Biologics Price Competition and Innovation Act of 2009, or BPCIA, provides an abbreviated pathway for the approval of follow-on biological products. Under the BPCIA, an application for a biosimilar product cannot be approved by the FDA until 12 years after the original branded product was approved under a BLA. However, there is a risk that the U.S. Congress could amend the BPCIA to significantly shorten this exclusivity period, potentially creating the opportunity for generic competition sooner than anticipated. Further, this data exclusivity does not prevent another company from developing a product that is highly similar to the original branded product, generating its own data and seeking approval. Data exclusivity only assures that another company cannot rely upon the data within the innovator’s application to support the biosimilar product’s approval. RISKS RELATED TO OUR INTELLECTUAL PROPERTY If we or our licensors fail to adequately protect or enforce our intellectual property rights or secure rights to patents of others, the value of our intellectual property rights would diminish and our ability to successfully commercialize our products may be impaired. Our success, competitive position and future revenues will depend in part on our ability and the abilities of our licensors to obtain and maintain patent protection for our products, methods, processes and other technologies, to preserve confidential information, including trade secrets, to prevent third parties from infringing our proprietary rights, and to operate without infringing the proprietary rights of third parties. To date, we have exclusive rights in the field of cancer treatment to certain U.S. and foreign intellectual property with respect to certain cell therapy and related technologies from MD Anderson and the NCI, as well as with respect to the Precigen technology, 45 including Sleeping Beauty . Under the MD Anderson License, future patent applications require the agreement of each of MD Anderson, Precigen and us, and MD Anderson has the right to control the preparation, filing, and prosecution of such patent applications unless the parties agree that we or Precigen instead may control such activities. Although under the License Agreement MD Anderson has agreed to review and incorporate any reasonable comments that we or Precigen may have regarding licensed patents and patent applications, we cannot guarantee that our comments will be solicited or implemented. Under the Patent License with the NCI for certain TCRs, the NCI is responsible for the preparation, filing, prosecution, and maintenance of patent applications and patents licensed to us. Although under the Patent License, the NCI is required to consult with us in the preparation, filing, prosecution, and maintenance of all its patent applications and patents licensed to us, we cannot guarantee that our comments will be solicited or implemented. Under our A&R License Agreement Precigen has the right, but not the obligation, to prepare, file, prosecute, and maintain the patents and patent applications licensed to us and shall bear all related costs incurred by it in regard to those actions. Precigen is required to consult with us and keep us reasonably informed of the status of the patents and patent applications licensed to us, and to confer with us prior to submitting any related filings and correspondence. Although under the A&R License Agreement Precigen has agreed to consider in good faith and consult with us regarding any comments we may have regarding these patents and patent applications, we cannot guarantee that our comments will be solicited or followed. Without direct control of the in-licensed patents and patent applications, we are dependent on MD Anderson, the NCI or Precigen, as applicable, to keep us advised of prosecution, particularly in foreign jurisdictions where prosecution information may not be publicly available. We anticipate that we, the NCI and Precigen will file additional patent applications both in the United States and in other jurisdictions. However, we cannot predict or guarantee for either our in-licensed patent portfolios or for Alaunos’ patent portfoli • When, if at all, any patents will be granted on such applications; • The scope of protection that any patents, if obtained, will afford us against competitors; • That third parties will not find ways to invalidate and/or circumvent our patents, if obtained; • That others will not obtain patents claiming subject matter related to or relevant to our product candidates; or • That we will not need to initiate litigation and/or administrative proceedings that may be costly whether we win or lose. The patent prosecution process is expensive and time-consuming, and we may not be able to file and prosecute all necessary or desirable patent applications at a reasonable cost, in a timely manner or at all. It is also possible that we will fail to identify patentable aspects of our research and development output before it is too late to obtain patent protection. Moreover, in some circumstances, we do not have the right to control the preparation, filing and prosecution of patent applications, or to maintain the patents, covering technology that we license from third parties. We may also require the cooperation of our licensors in order to enforce the licensed patent rights, and such cooperation may not be provided. Therefore, these patents and applications may not be prosecuted and enforced in a manner consistent with the best interests of our business. The patent position of biotechnology and pharmaceutical companies generally is highly uncertain, involves complex legal and factual questions and has in recent years been the subject of much litigation. In addition, the laws of other jurisdictions may not protect our rights to the same extent as the laws of the United States. For example, methods of therapeutic treatment, which are patent-eligible in the United States, may not be claimed in many other jurisdictions; some patent offices (such as the European Patent Office) may permit the redrafting of method of treatment claims into a "medical use" format that is patent-eligible, while other patent offices (such as the Indian Patent Office) may not accept any redrafted claiming format for such claims. Changes in patent laws or in interpretations of patent laws in the United States and other jurisdictions may diminish the value of our intellectual property or narrow the scope of our patent protection. In September 2011, the Leahy-Smith America Invents Act, or the Leahy-Smith Act, was signed into law, resulting in a number of significant changes to United States patent law. These changes include provisions that affect the way patent applications are prosecuted and may also affect patent litigation. In addition, the United States Supreme Court has ruled on several patent cases in recent years, narrowing the scope of patent protection available in certain circumstances or weakening the rights of patent owners in certain situations. This combination of events has created uncertainty with respect to the value of patents, once obtained, and with regard to our ability to obtain patents in the future. As the USPTO continues to implement the Leahy-Smith Act, and as the federal courts have the opportunity to interpret the Leahy-Smith Act, the laws and regulations governing patents, and the rules regarding patent procurement could change in unpredictable ways that would weaken our ability to obtain new patents or to enforce our existing patents and patents that we might obtain in the future. Certain technologies utilized in our research and development programs are already in the public domain. Moreover, a number of our competitors have developed technologies, or filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and may cover or conflict with our owned or licensed patent applications, technologies or product candidates. Such conflicts could limit the scope of the patents, if any, that we may be able to obtain. Because patent applications in the United States and many foreign jurisdictions are typically not published until 18 months after filing, or in some cases at all, and because publications of discoveries in the scientific literature lag behind actual discoveries per se, neither we nor our licensors can be certain that others have not filed patent applications for technology used by us or covered by our pending patent applications. We cannot know with certainty whether we were the first to make and file for the inventions claimed in our owned patent 46 portfolio, or whether our licensors were the first to make and file for the inventions claimed in our in-licensed patent portfolio. As a result, the issuance, scope, validity, enforceability and commercial value of our patent rights are highly uncertain. Our pending and future patent applications may not result in the issuance of patents that protect our technology or products, in whole or in part, or that effectively prevent others from commercializing competitive technologies and products. In addition, our own earlier filed patents and applications or those of MD Anderson, the NCI or Precigen may limit the scope of later patents we obtain, if any. If third parties file or have filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and that cover or conflict with our owned or licensed patent applications, technologies or product candidates, we may be required to challenge such protection, terminate or modify our programs impacted by such protection, or obtain licenses from such third parties, which might not be available on acceptable terms, or at all. Even if our owned and licensed patent applications were to be issued as patents, they may not issue in a form that would provide us with any meaningful protection, prevent competitors from competing with us or otherwise provide us with any competitive advantage. Our competitors may be able to circumvent our owned or licensed patents by developing similar or alternative technologies or products in a non-infringing manner. The issuance of a patent is not conclusive as to its inventorship, scope, validity or enforceability, and our owned and licensed patents may be challenged in the courts or patent offices in the United States and abroad. Such challenges may result in loss of exclusivity due to our patents being narrowed, invalidated or held unenforceable, which could limit our ability to stop others from using or commercializing similar or identical technology and products, or limit the duration of the patent protection of our technology and products. Given the amount of time required for the development, testing and regulatory review of new product candidates, patents protecting such candidates might expire before or even after such candidates are commercialized. As a result, our owned and licensed patent portfolio may not provide us with sufficient rights to exclude others from commercializing products similar or identical to ours. If we are unable to protect the confidentiality of our confidential information, our business and competitive position would be harmed. Our success also depends upon the skills, knowledge and experience of our scientific and technical personnel, our consultants and advisors, as well as our licensors and contractors. To help protect our proprietary know-how and our inventions for which patents may be unobtainable or difficult to obtain, and to maintain our competitive position, we rely on trade secret protection and confidentiality agreements. To this end, it is our general policy to require our employees, consultants, advisors and contractors to enter into agreements that prohibit the disclosure of confidential information and, where applicable, require disclosure and assignment to us of the ideas, developments, discoveries and inventions important to our business. These agreements may not provide adequate protection for our trade secrets, know-how, confidential information or other proprietary information in the event of any unauthorized use or disclosure or the lawful development by others of such information. Moreover, we may not be able to obtain adequate remedies for any breaches of these agreements. Our trade secrets or other confidential information may also be obtained by third parties by other means, such as breaches of our physical or computer security systems. Enforcing a claim that a party illegally disclosed or misappropriated a trade secret or other confidential information is difficult, expensive and time-consuming, and the outcome is unpredictable. In addition, some courts inside and outside the United States are less willing or unwilling to protect trade secrets. If any of our trade secrets or other confidential information were to be lawfully obtained or independently developed by competitors, we would have no right to prevent them, or those to whom they communicate it, from using that technology or information to compete with us. If any of our trade secrets, know-how or other proprietary information is disclosed, the value of our trade secrets, know-how and other proprietary rights would be significantly impaired and our business and competitive position would suffer. Third-party claims of intellectual property infringement would require us to spend significant time and money and could prevent us from developing or commercializing our products. In order to protect or enforce patent rights, we may initiate patent infringement litigation against third parties. Similarly, we may be sued by others for patent infringement. We also may become subject to pre- and post-grant proceedings conducted in the USPTO, including interferences, derivations, post-grant review, inter partes review, or reexamination. In other jurisdictions, our patent estate may be subject to pre- and post-grant opposition, nullity, revocation proceedings and the like. Asserting and defending against intellectual property actions are costly and divert technical and management personnel away from their normal responsibilities. Our commercial success depends upon our ability, and the ability of our collaborators, to develop, manufacture, market and sell our product candidates without infringing the proprietary rights of third parties. There is considerable intellectual property litigation in the biotechnology and pharmaceutical industries. While no such litigation has been brought against us and we have not been held by any court to have infringed a third party’s intellectual property rights, we cannot guarantee that our products or use of our products do not infringe or will not be asserted to infringe third-party patents. It is also possible that we have failed to identify relevant third-party patents or applications, or that as-yet unpublished third-party patent applications will later result in the grant of patents relevant to our business. Another possibility is for a third-party patent or patent application to first contain claims not relevant to our business but then to be reissued or amended in such a way that it does become relevant. 47 Our research, development and commercialization activities, as well as any product candidates or products resulting from these activities, may infringe or be asserted to infringe patents or patent applications under which we do not hold licenses or other rights. Owning a patent does not confer on the patentee the right to practice the claimed invention and does not protect the patentee from being sued for infringement of another owner’s patent. Our patent position cannot and does not provide any assurance that we are not infringing or will not be asserted to infringe the patent rights of another. The patent landscape in the field of immuno-oncology is particularly complex. We are aware of numerous United States and foreign patents and pending patent applications of third parties directed to compositions, methods of use and methods of manufacture of immuno-oncology products. In addition, there may be patents and patent applications in the field of which we are not aware. The technology we license from MD Anderson, the NCI and Precigen is early-stage technology, and we are in the process of designing and developing products using this technology. Although we will seek to avoid pursuing the development of products that may infringe any third-party patent claims that we believe to be valid and enforceable, we may fail to do so. Moreover, given the breadth and number of claims in patents and pending patent applications in the field of immuno-oncology and the complexities and uncertainties associated with them, third parties may allege that we are infringing patent claims even if we do not believe such claims have merit. If a claim for patent infringement is asserted, there can be no assurance that the resolution of the claim would permit us to continue marketing the relevant product on commercially reasonable terms, if at all. We may not have sufficient resources to bring these actions to a successful conclusion. If we do not successfully defend any infringement actions to which we become a party or if we are unable to have any asserted third-party patents declared invalid or unenforceable, we may have to pay substantial monetary damages, which can be tripled if the infringement is deemed willful, and/or we may be required to discontinue or significantly delay commercialization and development of the affected products. Any legal action against us or our collaborators claiming damages and seeking to enjoin developmental or marketing activities relating to affected products could, in addition to subjecting us to potential liability for damages, require us or our collaborators to obtain licenses to continue to develop, manufacture or market the affected products. Such licenses may not be available to us on commercially reasonable terms, or at all. An adverse determination in a proceeding involving our owned or licensed intellectual property may allow entry in the market of substitutes, including biosimilar or generic substitutes, for our products. Obtaining and maintaining our patent protection depends on compliance with various procedural, document submission, fee payment and other requirements imposed by governmental patent agencies, and our patent protection could be reduced or eliminated for noncompliance with these requirements. Annuities and other similar fees must be paid to the respective patent authority to maintain patents (or patents and patent applications) in most jurisdictions worldwide. Further, patent authorities in jurisdictions worldwide require compliance with a number of procedural, documentary, fee payment and other similar provisions during the patent application process. While an inadvertent lapse can in many cases be cured by payment of a late fee or by other means in accordance with the applicable rules, there are situations in which noncompliance can result in abandonment or lapse of the patent or patent application, resulting in partial or complete loss of patent rights in the relevant jurisdiction. Noncompliance events that could result in abandonment or lapse of a patent or patent application include, but are not limited to, failure to respond to official actions within prescribed time limits, non-payment of fees, and failure to submit documents with the necessary formal requirements, such as notarization and legalization. In such an event, our competitors might be able to enter the market, which would have a material adverse effect on our business. We license rights to products and technology that are important to our business, and we expect to enter into additional licenses in the future. For instance, we have in-licensed patents and patent applications under the MD Anderson License, the Patent License and the A&R License Agreement. Under these agreements, we are subject to a range of obligations pertaining to commercialization and development, sublicensing, royalty, patent prosecution and maintenance, and insurance. Any failure by us to obtain a needed license, comply with any of these obligations or any other breach by us of our license agreements could give the licensor the right to terminate the license in whole, terminate the exclusive nature of the license or bring a claim against us for damages. Any such termination or claim could have a material adverse effect on our financial condition, results of operations, liquidity or business. Even if we contest any such termination or claim and are ultimately successful, such dispute could lead to delays in the development or commercialization of potential products and result in time-consuming and expensive litigation or arbitration. On termination we may be required to license to the licensor any related intellectual property that we developed. In addition, in certain cases, the rights licensed to us are rights of a third party licensed to our licensor. In such instances, if our licensors do not comply with their obligations under such licenses, our rights under our license agreements with our licensor may be adversely affected. In addition, the licensing or acquisition of third-party intellectual property rights is a highly competitive area, and a number of more established companies are also pursuing strategies to license or acquire third-party intellectual property rights that we may consider attractive or necessary. These established companies may have a competitive advantage over us due to their size, capital resources and 48 greater clinical development and commercialization capabilities. In addition, companies that perceive us to be a competitor may be unwilling to assign or license rights to us. We also may be unable to license or acquire third-party intellectual property rights on terms that would allow us to make an appropriate return on our investment or at all. If we are unable to successfully obtain rights to required third-party intellectual property rights or maintain the existing intellectual property rights we have, we may have to abandon development of the relevant program or product candidate, which could have a material adverse effect on our business, financial condition, results of operations, and prospects. We may be subject to claims by third parties asserting that our employees or we have misappropriated their intellectual property or claiming ownership of what we regard as our own intellectual property. Many of our employees were previously employed at universities or at other biotechnology or pharmaceutical companies, including our competitors or potential competitors. Although we try to ensure that our employees do not use the proprietary information or know-how of others in their work for us, we may be subject to claims that these employees or we have used or disclosed intellectual property, including trade secrets or other proprietary information, of any such employee’s former employer. Litigation may be necessary to defend against these claims. In addition, while it is our policy to require our employees and contractors who may be involved in the development of intellectual property to execute agreements assigning such intellectual property to us, we may be unsuccessful in executing such an agreement with each party who in fact develops intellectual property that we regard as our own. Our and their assignment agreements may not be self-executing or may be breached, and we may be forced to bring claims against third parties, or defend claims they may bring against us, to determine the ownership of what we regard as our intellectual property. If we fail in prosecuting or defending any such claims, in addition to paying monetary damages, we may lose valuable intellectual property rights or personnel. Even if we are successful in prosecuting or defending against such claims, litigation could result in substantial costs and be a distraction to management. OTHER RISKS RELATED TO OUR COMPANY Our stock price has been, and may continue to be, volatile. The market price for our common stock is volatile and may fluctuate significantly in response to a number of factors, most of which we cannot control, includin • Price and volume fluctuations in the overall stock market; • Changes in operating results and performance and stock market valuations of other biopharmaceutical companies generally, or those that develop and commercialize cancer drugs in particular; • Market conditions or trends in our industry or the economy as a whole; • Preclinical studies or clinical trial results; • The commencement, enrollment or results of the planned clinical trials of our product candidates or any future clinical trials we may conduct, or changes in the development status of our product candidates; • Public statements by third parties like trial participants and clinical investigators regarding our current or future clinical trials; • Public concern as to the safety of drugs developed by us or others; • The financial or operational projections we may provide to the public, any changes in these projections or our failure to meet these projections; • Comments by securities analysts or changes in financial estimates or ratings by any securities analysts who follow our common stock, our failure to meet these estimates or failure of those analysts to initiate or maintain coverage of our common stock; • The public’s response to press releases or other public announcements by us or third parties, including our filings with the SEC, as well as announcements of the status of development of our products, announcements of technological innovations or new therapeutic products by us or our competitors, announcements regarding collaborative agreements and other announcements relating to product development, litigation and intellectual property impacting us or our business; • Government regulation; • FDA determinations on the approval of a product candidate BLA submission; • The sustainability of an active trading market for our common stock; 49 • Future sales of our common stock by us, our executive officers, directors and significant stockholders; • Announcements of mergers or acquisition transactions; • Our inclusion or deletion from certain stock indices; • Developments in patent or other proprietary rights; • Changes in reimbursement policies; • Announcements of medical innovations or new products by our competitors; • Announcements of changes in our senior management or directors; • General economic, industry, political and market conditions, including, but not limited to, the ongoing impact of global economic conditions; • Other events or factors, including those resulting from war, incidents of terrorism, natural disasters, pandemics or responses to these events; and • Changes in accounting principles. In addition, the stock market in general and our stock in particular from time to time experiences significant price and volume fluctuations unrelated to the operating performance of particular companies, including in connection with the ongoing COVID-19 pandemic, which has resulted in decreased stock prices for many companies notwithstanding the lack of a fundamental change in their underlying business models or prospects. Public debt and equity markets, and in particular the Nasdaq Global Select Market, have experienced extreme price and volume fluctuations that have affected, and continue to affect, the market prices of equity securities of many biopharmaceutical companies. Stock prices of many biopharmaceutical companies have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. In the past, stockholders have instituted securities class action litigation following periods of market volatility. If we were involved in securities litigation, we could incur substantial costs and our resources, and the attention of management could be diverted from our business. Public statements made by third parties such as trial participants and clinical investigators about our current or future clinical trials without our consent may adversely impact our stock price. We may not be aware of these third-party statements when made, may not be able to respond to these third-party statements and may not be able to defend our business or the public’s legitimate interests due to restrictions on what we may say about our product candidates, which may cause the price of our stock to fluctuate. If any of these events were to occur or we otherwise fail to comply with applicable regulations, we could incur liability, face regulatory actions or incur other harm to our business. *If we fail to satisfy applicable listing standards, our common stock may be delisted from the Nasdaq Global Select Market. Delisting could prevent us from maintaining an active, liquid and orderly trading market for our common stock. Our ability to publicly or privately sell equity securities and the liquidity of our common stock could be adversely affected if we are delisted from the Nasdaq Global Select Market or if we are unable to transfer our listing to another stock market. On January 4, 2023, we were notified by The Nasdaq Stock Market LLC, or Nasdaq, that we were in breach of Listing Rule 5450(a)(1), or the Minimum Bid Price Rule, for continued listing on the Nasdaq Global Select Market because the minimum bid price of our listed securities for 30 consecutive business days had been less than $1 per share. In accordance with Nasdaq Listing Rule 5810(c)(3)(A), or the Compliance Period Rule, we have been provided a period of 180 calendar days, or until July 3, 2023, or the Compliance Date, to regain compliance with the Bid Price Requirement. If, at any time before the Compliance Date, the bid price for our common stock closes at $1.00 or more for a minimum of 10 consecutive business days as required under the Compliance Period Rule, Nasdaq will provide us written notification that we have regained compliance with the Bid Price Requirement, unless Nasdaq exercises its discretion to extend this ten-day period. During this 180-day period, we anticipate reviewing our options to regain compliance with the Minimum Bid Price Rule, including conducting a reverse stock split. On April 25, 2023, we filed a definitive proxy statement, which included a proposal to effect a reverse stock split, if needed in the discretion of our board of directors to regain compliance with the Minimum Bid Price Rule, at a ratio between the range of 1-for-5 and 1-for-15, inclusive. On May 5, 2023, the closing price of our common stock was $0.59 per share. If we are unable to continue to meet the requirements for listing on the Nasdaq Global Select Market we may apply to Nasdaq to list our common stock on the Nasdaq Capital Market, which may also provide us up to an additional 180 days to regain compliance with the Minimum Bid Price Rule. Nasdaq would have to accept our application to list on the Nasdaq Capital Market and we would need to show our compliance with the other listing standards and provide Nasdaq written notice of our intention to cure the Bid Price deficiency. Should Nasdaq determine that we are not eligible to list on the Nasdaq Capital Market or we elect not to submit an 50 application to transfer to the Nasdaq Capital Market, we will receive written notice that our common stock will be delisted, at which point we will have the opportunity to appeal that decision. If our common stock is delisted by Nasdaq, it could lead to a number of negative implications, including an adverse effect on the price of our common stock, deterring broker-dealers from making a market in or otherwise seeking or generating interest in our common stock, increased volatility in our common stock, reduced liquidity in our common stock, the loss of federal preemption of state securities laws and greater difficulty in obtaining financing. Delisting could also cause a loss of confidence of our customers, collaborators, vendors, suppliers and employees, which could harm our business and future prospects. If our common stock is delisted by Nasdaq, the price of our common stock may decline, and although our common stock may be eligible to trade on the OTC Bulletin Board, another over-the-counter quotation system, or on the pink sheets, an investor may find it more difficult to dispose of their common stock or obtain accurate quotations as to the market value of our common stock. If our common stock is delisted from Nasdaq, trading in our securities may be subject to the SEC’s “penny stock” rules. These “penny stock” rules will require brokers trading in our common stock to adhere to more stringent rules and possibly result in a reduced level of trading activity in the secondary trading market for our common stock. The additional burdens imposed upon broker-dealers by these requirements may discourage broker-dealers from recommending transactions in our securities, which could severely limit the liquidity of our securities and consequently adversely affect the market price for our securities. Further, if our common stock is delisted, we would incur additional costs under state blue sky laws in connection with any sales of our securities. These requirements could severely limit the market liquidity of our common stock and the ability of our shareholders to sell our common stock in the secondary market. *We may effect a reverse stock split of our common stock, but it may not result in the intended benefits. As described above, we are seeking approval from our stockholders to effect, if needed in the discretion of our board of directors, a reverse stock split of the issued and outstanding shares of our common stock, our treasury stock, and a proportionate reduction in the shares of our authorized common stock in order to regain compliance with the Minimum Bid Price Rule. However, there can be no assurance that the reverse stock split will be approved by our stockholders. Further, there can be no assurance that the market price per new share of our common stock after the reverse stock split will remain unchanged or increase in proportion to the reduction in the number of old shares of our common stock outstanding before the reverse stock split. Other factors, such as our financial results, market conditions and the market perception of our business may adversely affect the market price of our common stock and there can be no assurance that a reverse stock split, if completed, will result in the intended benefits, that the market price of our common stock will increase in proportion to the reduction in the number of shares of our common stock outstanding before the reverse stock split or that the market price of our common stock will not decrease in the future. If the market price of our common stock does not increase the price per share of our common stock above Nasdaq’s minimum bid price threshold of $1.00 per share or if the market price of our common stock does not remain above Nasdaq’s minimum bid price threshold of $1.00 per share, our common stock may still be delisted from Nasdaq. *If we implement a reverse stock split, liquidity of our common stock may be adversely affected. If we do effect a reverse stock split, the liquidity of the shares of our common stock may be affected adversely by any such reverse stock split given the reduced number of shares of common stock that will be outstanding following the reverse stock split, especially if the market price of our common stock does not increase as a result of the reverse stock split. Following any reverse stock split, the resulting market price of our common stock may not attract new investors and may not satisfy the investing requirements of those investors. Although we believe a higher market price of our common stock may help generate greater or broader investor interest, there can be no assurance that the reverse stock split will result in a share price that will attract new investors, including institutional investors. In addition, there can be no assurance that the market price of our common stock will satisfy the investing requirements of those investors. As a result, the trading liquidity of our common stock may not necessarily improve. Anti-takeover provisions in our charter documents and under Delaware law may make an acquisition of us, which may be beneficial to our stockholders, more difficult. Provisions of our amended and restated certificate of incorporation and bylaws, as well as provisions of Delaware law, could make it more difficult for a third party to acquire us, even if doing so would benefit our stockholders. These provisions authorize the issuance of “blank check” preferred stock that could be issued by our board of directors to increase the number of outstanding shares and hinder a takeover attempt, and limit who may call a special meeting of stockholders. In addition, Section 203 of the Delaware General Corporation Law, or Section 203, generally prohibits a publicly held Delaware corporation from engaging in a business combination with a party that owns at least 15% of its common stock unless the business combination is approved by our board of directors before the person acquires the 15% ownership stake or later by its board of directors and two-thirds of its stockholders. Section 203 could 51 have the effect of delaying, deferring or preventing a change in control that our stockholders might consider to be in their best interests. Our amended and restated bylaws provide that the Court of Chancery of the State of Delaware will be the exclusive forum for substantially all disputes between us and our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees. Our amended and restated bylaws provide that, unless we consent in writing to the selection of an alternative forum, the Court of Chancery of the State of Delaware is the exclusive forum for (i) any derivative action or proceeding brought on our behalf; (ii) any action asserting a claim of breach of a fiduciary duty owed by any of our directors, officers or other employees to us or our stockholders; (iii) any action asserting a claim against us or any of our directors, officers or other employees arising pursuant to any provision of the Delaware General Corporation Law, our amended and restated certificate of incorporation or our amended and restated bylaws; (iv) any claim or cause of action seeking to interpret, apply, enforce or determine the validity of the amended and restated certificate of incorporation or our bylaws; (v) any claim or cause of action as to which the Delaware General Corporation Law confers jurisdiction on the Court of Chancery of the State of Delaware; or (vi) any action asserting a claim against us or any of our directors, officers or other employees governed by the internal affairs doctrine. These provisions would not apply to suits brought to enforce a duty or liability created by the Exchange Act. Furthermore, Section 22 of the Securities Act creates concurrent jurisdiction for federal and state courts over all Securities Act actions. Accordingly, both state and federal courts have jurisdiction to entertain such claims. These exclusive forum provisions may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers or other employees, which may discourage lawsuits against us and our directors, officers and other employees. If a court were to find either exclusive-forum provision to be inapplicable or unenforceable in an action, we may incur further significant additional costs associated with resolving the dispute in other jurisdictions, all of which could seriously harm our business. Because we do not expect to pay dividends, you will not realize any income from an investment in our common stock unless and until you sell your shares at a profit. We have never paid dividends on our common stock, and we do not anticipate that we will pay any dividends for the foreseeable future. Accordingly, any return on an investment in us will be realized, if at all, only when you sell shares of our common stock. Our ability to use net operating loss carryforwards and research tax credits to reduce future tax payments may be limited or restricted. We have generated significant net operating loss carryforwards, or NOLs, and research and development tax credits, or R&D credits, as a result of our incurrence of losses and our conduct of research activities since inception. We generally are able to carry NOLs and R&D credits forward to reduce our tax liability in future years. However, our ability to utilize the NOLs and R&D credits is subject to the rules of Sections 382 and 383 of the Internal Revenue Code of 1986, as amended, or the Code, respectively. Those sections generally restrict the use of NOLs and R&D credits after an “ownership change.” An ownership change occurs if, among other things, the stockholders (or specified groups of stockholders) who own or have owned, directly or indirectly, 5% or more of a corporation’s common stock or are otherwise treated as 5% stockholders under Section 382 of the Code and the U.S. Treasury Department regulations promulgated thereunder increase their aggregate percentage ownership of that corporation’s stock by more than 50 percentage points over the lowest percentage of the stock owned by these stockholders over the applicable testing period. In the event of an ownership change, Section 382 of the Code imposes an annual limitation on the amount of taxable income a corporation may offset with NOL carry forwards and Section 383 of the Code imposes an annual limitation on the amount of tax a corporation may offset with business credit (including R&D credits) carryforwards. We may have experienced an “ownership change” within the meaning of Section 382 of the Code in the past and there can be no assurance that we will not experience additional ownership changes in the future. As a result, our NOLs and business credits (including R&D credits) may be subject to limitations, and we may be required to pay taxes earlier and in larger amounts than would be the case if our NOLs or R&D credits were freely usable. *If securities and/or industry analysts fail to continue publishing research about our business, if they change their recommendations adversely or if our results of operations do not meet their expectations, our stock price and trading volume could decline. The trading market for our common stock will be influenced by the research and reports that industry or securities analysts publish about us or our business. If one or more of these analysts cease coverage of our Company or fail to publish reports on us regularly, we could lose visibility in the financial markets, which in turn could cause our stock price or trading volume to decline. In addition, it is likely that in some future period our operating results will be below the expectations of securities analysts or investors. If one or more 52 of the analysts who cover us downgrade our stock, or if our results of operations do not meet their expectations, our stock price could decline. If our common stock is delisted by Nasdaq, the impact of analysts ceasing to cover our securities may negatively impact the price of our common stock more dramatically. Our business could be negatively affected as a result of the actions of activist stockholders. In 2021, we were engaged in a consent solicitation led by WaterMill Asset Management Corp., or WaterMill, where three new directors were added to our board of directors. We could experience other stockholder activism in the future, including another consent solicitation or a proxy contest. Activist shareholders may advocate for certain governance and strategic changes at our company. In the event of stockholder activism, particularly with respect to matters which our board of directors, in exercising their fiduciary duties, disagree with or have determined not to pursue, our business could be adversely affected because responding to actions by activist stockholders can be costly and time-consuming, disrupting our operations and diverting the attention of management, and perceived uncertainties as to our future direction may result in the loss of potential business opportunities and may make it more difficult to attract and retain qualified personnel, business partners, and customers. In addition, if faced with a consent solicitation or proxy contest, we may not be able to respond successfully to the contest or dispute, which would be disruptive to our business. If individuals are elected to our board of directors with a differing agenda, our ability to effectively and timely implement our strategic plan and create additional value for our stockholders may be adversely affected. *The exercise of outstanding warrants, and issuance of equity awards may have a dilutive effect on our stock, and negatively impact the price of our common stock. As of March 31, 2023, we had warrants for 22,922,342 shares of our common stock outstanding at a weighted average exercise price of $5.62 per share. We are able to grant stock options, restricted stock, restricted stock units, stock appreciation rights, bonus stocks, and performance awards under the 2020 Equity Incentive Plan. As of March 31, 2023, under the 2020 Equity Incentive Plan and our 2012 Equity Incentive Plan, 13,313,246 shares were issuable upon the exercise of outstanding options at a weighted average exercise price of $1.54 per share. *Our principal stockholders, executive officers and directors have substantial control over the Company, which may prevent you and other stockholders from influencing significant corporate decisions and may harm the market price of our common stock. As of March 31, 2023, our executive officers, directors and holders of five percent or more of our outstanding common stock beneficially owned, in the aggregate, 22.5% of our outstanding common stock. These stockholders may have interests that conflict with our other stockholders and, if acting together, have the ability to influence the outcome of matters submitted to our stockholders for approval, including the election and removal of directors and any merger, consolidation or sale of all or substantially all of our assets. Accordingly, this concentration of ownership may harm the market price of our common stock • Delaying, deferring or preventing a change in control; • Impeding a merger, consolidation, takeover or other business combination involving us; or • Discouraging a potential acquirer from making a tender offer or otherwise attempting to obtain control of us. In addition, this significant concentration of stock ownership may adversely affect the trading price of our common stock should investors perceive disadvantages in owning shares of common stock in a company that has such concentrated ownership. Changes to corporate tax legislation, including the Tax Cuts and Jobs Act, signed into law in 2017, could adversely affect our business and financial condition. The Tax Act contains significant changes to corporate taxation, including reduction of the corporate tax rate from a top marginal rate of 35% to a flat rate of 21%, limitation of the tax deduction for interest expense to 30% of adjusted earnings (except for certain small businesses), limitation of the deduction for NOLs to 80% of current year taxable income and elimination of NOL carrybacks, one time taxation of offshore earnings at reduced rates regardless of whether they are repatriated, elimination of U.S. tax on foreign earnings (subject to certain important exceptions), immediate deductions for certain new investments instead of deductions for depreciation expense over time and modifying or repealing many business deductions and credits. The Coronavirus Aid, Relief, and Economic Security Act, or CARES Act, enacted in 2020, modified certain of these tax changes, and enacted other tax changes applicable to corporations. Notwithstanding the reduction in the corporate income tax rate, the overall impact of the Tax Act and the CARES Act is uncertain and our business and financial condition could be adversely affected. In addition, it is uncertain if and to what extent various states will conform to the Tax Act or the CARES Act. Currently, bills introduced in Congress, including the Build Back Better Act, contain additional changes to the taxation of corporations, which could adversely affect our business and financial condition. The impact of the Tax Act, the CARES Act and any other tax legislation on holders of our common stock is also uncertain and could be adverse. We urge our stockholders to consult with their legal and tax advisors with respect to this legislation and the potential tax consequences of investing in or holding our common stock. 53 We are a “smaller reporting company,” and the reduced disclosure requirements applicable to smaller reporting companies may make our common stock less attractive to investors. We are considered a “smaller reporting company” under Rule 12b-2 of the Exchange Act. We are therefore entitled to rely on certain reduced disclosure requirements, such as an exemption from providing selected financial data and executive compensation information. These exemptions and reduced disclosures in our SEC filings due to our status as a smaller reporting company also mean our auditors are not required to review our internal control over financial reporting and may make it harder for investors to analyze our results of operations and financial prospects. We cannot predict if investors will find our common stock less attractive because we may rely on these exemptions. If some investors find our common stock less attractive as a result, there may be a less active trading market for our common stock and our common stock prices may be more volatile. We will remain a smaller reporting company until either (i) our public float exceeds $250 million, as of the last business day of our most recently completed second quarter, if our annual revenues equal or exceed $100 million in our most recently completed fiscal year, or (ii) our public float exceeds $700 million, as of the last business day of our most recently completed quarter, if our annual revenues are less than $100 million in our most recently completed fiscal year. Item 2. Unregistered Sale of Equity Securities and Use of Proceeds None. Item 3. Defaults upon Senior Securities Not applicable. Item 4. Mine Safety Disclosures Not applicable. Item 5. Other Information None. 54 Item 6. Exhibits Exhibit Number Description 3.1 Amended and Restated Certificate of Incorporation of the Registrant, and all amendments thereto (incorporated by reference to Exhibit 3.1 to the Registrant's Current Report on Form 8-K, SEC File No. 001-33038, filed June 17, 2022). 3.2 Amended and Restated Bylaws of the Registrant, dated as of September 21, 2020 (incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed September 22, 2020). 10.1+** Amended and Restated Exclusive License Agreement, dated, April 3, 2023, by and between the Registrant and Precigen, Inc. 10.2+ Offer Letter, dated October 29, 2018, between the Registrant and Drew Deniger. 10.3+ Severance Agreement, dated July 29, 2019, between the Registrant and Drew Deniger. 10.4+ Employment Agreement, dated November 29, 2021, by and between the Registrant and Melinda K. Lackey. 31.1+ Certification of Principal Executive Officer pursuant to Exchange Act Rule 13a-14(a) or 15(d)-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1++ Certifications of Principal Executive Officer and Principal Accounting Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 101.INS+ Inline XBRL Instance Document (the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document). 101.SCH+ Inline XBRL Taxonomy Extension Schema Document 101.CAL+ Inline XBRL Taxonomy Extension Calculation Linkbase Document 101.DEF+ Inline XBRL Taxonomy Definition Linkbase Document 101.LAB+ Inline XBRL Taxonomy Extension Label Linkbase Document 101.PRE+ Inline XBRL Taxonomy Extension Presentation Linkbase Document 104+ Cover Page Interactive Data File—the cover page interactive data is embedded within the Inline XBRL document or included within the Exhibit 101 attachments + Filed herewith. ++ This certification is deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the liability of that section, nor shall it be deemed incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, whether made before or after the date hereof, regardless of any general incorporation language in such filing. ** Portions of this document (indicated by “[***]”) have been omitted because such information is not material and is the type of information that the Registrant treats as private or confidential. 55 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ALAUNOS THERAPEUTICS, INC. By: /s/ Kevin S. Boyle, Sr. Kevin S. Boyle, Sr. Chief Executive Officer (On Behalf of the Registrant and as Principal Executive Officer and Principal Financial Officer) Dat May 10, 2023 By: /s/ Michael Wong Michael Wong Vice President, Finance (Principal Accounting Officer) Dat May 10, 2023 56 |
Page PART I. FINANCIAL INFORMATION Item 1. Condensed Financial Statements (unaudited) 2 Condensed Balance Sheets as of June 30, 2023 (unaudited) and December 31, 2022 2 Condensed Statements of Operations for the three and six months ended June 30, 2023 and 2022 (unaudited) 3 Condensed Statements of Changes in Stockholders’ Equity for the three and six months ended June 30, 2023 and 2022 (unaudited) 4 Condensed Statements of Cash Flows for the six months ended June 30, 2023 and 2022 (unaudited) 6 Notes to Condensed Financial Statements (unaudited) 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 18 Item 3. Quantitative and Qualitative Disclosures about Market Risk 24 Item 4. Controls and Procedures 24 PART II. OTHER INFORMATION Item 1. Legal Proceedings 26 Item 1A. Risk Factors 26 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 53 Item 3. Defaults Upon Senior Securities 53 Item 4. Mine Safety Disclosures 53 Item 5. Other Information 54 Item 6. Exhibits 55 1 PART I—FINANCIAL INFORMATION Item 1. Condensed Financial Statements Alaunos Therapeutics, Inc. CONDENSED BALANCE SHEETS (unaudited) (in thousands, except share and per share data) June 30, December 31, 2023 2022 ASSETS: Current assets: Cash and cash equivalents $ 18,317 $ 39,058 Restricted cash — 13,938 Receivables 4 4 Prepaid expenses and other current assets 457 799 Total current assets 18,778 53,799 Property and equipment, net 7,214 8,460 Right-of-use assets 1,434 2,136 Deposits 1 42 Other assets, non-current 500 500 Total assets $ 27,927 $ 64,937 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable $ 1,479 $ 1,389 Long-term debt, current — 16,765 Accrued expenses 3,234 5,454 Lease liabilities, current 339 558 Total current liabilities 5,052 24,166 Lease liabilities, non-current 1,225 2,188 Other liabilities, non-current — 28 Total liabilities $ 6,277 $ 26,382 Commitments and contingencies (Note 9) Stockholders' equity Common stock $ 0.001 par value; 520,000,000 shares authorized, 240,627,055 shares issued and outstanding at June 30, 2023 and 420,000,000 shares authorized, 240,410,761 shares issued and outstanding at December 31, 2022 241 240 Additional paid-in capital 920,857 918,942 Accumulated deficit ( 899,448 ) ( 880,627 ) Total stockholders' equity 21,650 38,555 Total liabilities and stockholders' equity $ 27,927 $ 64,937 The accompanying notes are an integral part of these condensed financial statements. 2 Alaunos Therapeutics, Inc. CONDENSED STATEMENTS OF OPERATIONS (unaudited) (in thousands, except share and per share data) For the Three Months Ended June 30, For the Six Months Ended June 30, 2023 2022 2023 2022 Collaboration Revenue $ 4 $ — $ 4 $ — Operating expens Research and development 5,186 5,937 11,689 11,518 General and administrative 3,045 3,429 6,213 6,935 Gain on lease modification ( 245 ) ( 133 ) ( 245 ) ( 133 ) Total operating expenses 7,986 9,233 17,657 18,320 Loss from operations ( 7,982 ) ( 9,233 ) ( 17,653 ) ( 18,320 ) Other income (expense): Interest expense ( 1,068 ) ( 740 ) ( 1,921 ) ( 1,425 ) Other income, net 277 41 753 25 Other income (expense), net ( 791 ) ( 699 ) ( 1,168 ) ( 1,400 ) Net loss $ ( 8,773 ) $ ( 9,932 ) $ ( 18,821 ) $ ( 19,720 ) Basic and diluted net loss per share $ ( 0.04 ) $ ( 0.05 ) $ ( 0.08 ) $ ( 0.09 ) Weighted average common shares outstanding, basic and diluted 239,797,574 214,998,893 239,738,789 214,972,876 The accompanying notes are an integral part of these condensed financial statements. 3 Alaunos Therapeutics, Inc. CONDENSED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (unaudited) (in thousands, except share and per share data) For the Three Months Ended June 30, 2023 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at March 31, 2023 240,627,055 $ 241 $ 919,943 $ ( 890,675 ) $ 29,509 Stock-based compensation — — 914 — 914 Net loss — — — ( 8,773 ) ( 8,773 ) Balance at June 30, 2023 240,627,055 $ 241 $ 920,857 $ ( 899,448 ) $ 21,650 For the Six Months Ended June 30, 2023 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at December 31, 2022 240,410,761 $ 240 $ 918,942 $ ( 880,627 ) $ 38,555 Stock-based compensation — — 1,824 — 1,824 Issuance of common stock, net of expenses 216,294 1 91 — 92 Net loss — — — ( 18,821 ) ( 18,821 ) Balance at June 30, 2023 240,627,055 $ 241 $ 920,857 $ ( 899,448 ) $ 21,650 The accompanying notes are an integral part of these condensed financial statements. 4 For the Three Months Ended June 30, 2022 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at March 31, 2022 215,950,561 $ 216 $ 901,546 $ ( 852,640 ) $ 49,122 Stock-based compensation — — 990 — 990 Restricted stock awards 280,000 — — — — Cancelled restricted common stock ( 56,019 ) — — — — Net loss — — — ( 9,932 ) ( 9,932 ) Balance at June 30, 2022 216,174,542 $ 216 $ 902,536 $ ( 862,572 ) $ 40,180 For the Six Months Ended June 30, 2022 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at December 31, 2021 216,127,443 $ 216 $ 900,693 $ ( 842,852 ) $ 58,057 Stock-based compensation — — 1,843 — 1,843 Restricted stock awards 280,000 — — — — Cancelled restricted common stock ( 232,901 ) — — — — Net loss — — — ( 19,720 ) ( 19,720 ) Balance at June 30, 2022 216,174,542 $ 216 $ 902,536 $ ( 862,572 ) $ 40,180 The accompanying notes are an integral part of these condensed financial statements. 5 Alaunos Therapeutics, Inc. CONDENSED STATEMENTS OF CASH FLOWS (unaudited) (in thousands) For the Six Months Ended June 30, 2023 2022 Cash flows from operating activiti Net loss $ ( 18,821 ) $ ( 19,720 ) Adjustments to reconcile net loss to net cash used in operating activiti Depreciation 1,395 1,374 Amortization of financing costs 1,339 405 Stock-based compensation 1,824 1,843 Decrease in the carrying amount of right-of-use assets 947 2,196 Gain on lease modification ( 245 ) ( 133 ) Loss on disposal of equipment 10 — Decrease in: Receivables — 1,111 Prepaid expenses and other current assets 342 316 Deposits 41 — Other assets, non-current — 131 Increase (decrease) in: Accounts payable 90 ( 894 ) Accrued expenses ( 2,095 ) ( 368 ) Lease liabilities ( 1,182 ) ( 2,246 ) Other liabilities, non-current ( 28 ) 28 Net cash used in operating activities ( 16,383 ) ( 15,957 ) Cash flows from investing activiti Purchases of property and equipment ( 196 ) ( 86 ) Proceeds from the disposal of property and equipment 38 — Net cash used in investing activities ( 158 ) ( 86 ) Cash flows from financing activiti Proceeds from the issuance of common stock 92 — Repayment of long-term debt ( 18,105 ) — Debt extinguishment costs ( 125 ) — Net cash used in financing activities ( 18,138 ) — Net decrease in cash, cash equivalents and restricted cash ( 34,679 ) ( 16,043 ) Cash, cash equivalents and restricted cash, beginning of period 52,996 76,054 Cash and cash equivalents, end of period $ 18,317 $ 60,011 Supplementary disclosure of cash flow informati Cash paid for interest $ 2,063 $ 1,002 Amounts included in accrued expenses related to property and equipment $ — $ 17 The accompanying notes are an integral part of these condensed financial statements. 6 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) 1. Organization Overview Alaunos Therapeutics, Inc., which is referred to herein as “Alaunos,” or the “Company,” is a clinical-stage oncology-focused cell therapy company developing adoptive TCR therapies, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. On January 25, 2022, the Company changed its corporate name from ZIOPHARM Oncology, Inc. to Alaunos Therapeutics, Inc. The Company is leveraging its proprietary, non-viral Sleeping Beauty gene transfer platform and its novel cancer mutation hotspot TCR library to design and manufacture personalized cell therapies that target neoantigens arising from common tumor-related mutations in key oncogenic genes, including KRAS, TP53 and EGFR. The Company’s operations to date have consisted primarily of conducting research and development and raising capital to fund those efforts. On August 14, 2023, the Company announced a strategic reprioritization to focus on the development of its hunTR TCR discovery platform and wind down of its TCR-T Library Phase 1/2 trial. In connection with the reprioritization, the Company announced it intends to reduce its workforce by approximately 60 %. Concurrently, the Company is considering certain strategic alternatives, including, but not limited to, an acquisition, merger, reverse merger, sale of assets, strategic partnerships, capital raises or other transactions. The Company has engaged Cantor Fitzgerald & Co., or Cantor , to act as strategic advisor for this process. As of June 30, 2023, there were 240,627,055 shares of common stock outstanding and an additional 36,531,228 shares of common stock reserved for issuance pursuant to outstanding stock options and warrants. The accompanying condensed financial statements have been prepared on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities and commitments in the normal course of business. The Company follows the guidance of Accounting Standards Codification, or ASC, Topic 205-40, Presentation of Financial Statements - Going Concern, in order to determine whether there is substantial doubt about its ability to continue as a going concern for one year after the date its condensed financial statements are issued. This evaluation initially does not take into consideration the potential mitigating effect of management's plans that have not been fully implemented as of the date the condensed financial statements are issued. When substantial doubt exists, management evaluates whether the mitigating effect of its plans sufficiently alleviates the substantial doubt about the Company's ability to continue as a going concern. The mitigating effect of management's plans, however, is only considered if both (i) it is probable that the plans will be effectively implemented within one year after the date that the condensed financial statements are issued and (ii) it is probable that the plans, when implemented, will mitigate the relevant conditions or events that raise substantial doubt about the entity's ability to continue as a going concern within one year after the date that the condensed financial statements are issued. The Company has operated at a loss since its inception in 2003 and has no recurring revenue from operations. The Company anticipates that losses will continue for the foreseeable future. As of June 30, 2023, the Company had approximately $ 18.3 million of cash and cash equivalents. The Company’s accumulated deficit at June 30, 2023 was approximately $ 899.4 million. Given its current development plans and cash management efforts, the Company anticipates cash resources will be sufficient to fund operations into the fourth quarter of 2023. The Company’s ability to continue operations after its current cash resources are exhausted depends on future events outside of the Company's control, including its ability to obtain additional financing or to achieve profitable results, as to which no assurances can be given. If adequate additional funds are not available when required, or if the Company is unsuccessful in entering into partnership agreements for further development of its product candidates, management may need to curtail its development efforts and planned operations to conserve cash until sufficient additional capital is raised. There can be no assurances that such a plan would be successful. Based on the current cash forecast and the Company's dependence on its ability to obtain additional financing to fund its operations after the current resources are exhausted, about which there can be no certainty, management has determined that the Company's present capital resources will not be sufficient to fund its planned operations for at least one year from the issuance date of the condensed financial statements, and substantial doubt as to the Company's ability to continue as a going concern exists. This forecast of cash resources is forward-looking information that involves risks and uncertainties, and the actual amount of expenses could vary materially and adversely as a result of a number of factors. Basis of Presentation The accompanying unaudited interim condensed financial statements have been prepared in accordance with the instructions to Form 10-Q pursuant to the rules and regulations of the Securities and Exchange Commission, or the SEC. Certain information and note 7 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) disclosures required by generally accepted accounting principles in the United States, or GAAP, have been condensed or omitted pursuant to such rules and regulations. It is management’s opinion that the accompanying unaudited interim condensed financial statements reflect all adjustments (which are normal and recurring) that are necessary for a fair presentation of the financial position of the Company and its results of operations and cash flows for the periods presented. The unaudited interim condensed financial statements should be read in conjunction with the audited financial statements and the notes thereto for the year ended December 31, 2022, included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2022 filed with the SEC on March 7, 2023, or the Annual Report. The results disclosed in the statements of operations for the three and six months ended June 30, 2023 are not necessarily indicative of the results to be expected for the full fiscal year 2023. Use of Estimates The preparation of condensed financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the condensed financial statements and the reported amounts of revenues and expenses during the reporting period. Although the Company regularly assesses these estimates, actual results could differ from those estimates. Changes in estimates are recorded in the period in which they become known. Our accrued expenses represent estimates of activity and costs incurred with vendors and counterparties. During the three and six months ended June 30, 2023, the Company revised estimated accrued expenses related to one of its de-prioritized clinical programs based on new information received from vendors. As a result, a $ 0.7 million credit has been recorded in research and development expense within the condensed statement of operations. 2. Financings 2021 Loan and Security Agreement On August 6, 2021, the Company entered into a Loan and Security Agreement, or the Loan and Security Agreement, with Silicon Valley Bank and affiliates of Silicon Valley Bank, or collectively, SVB. The Loan and Security Agreement provided for an initial term loan of $ 25.0 million funded at the closing, or the Term A Tranche, with an additional tranche of $ 25.0 million available if certain funding and clinical milestones were met by August 31, 2022, or the Term B Tranche. Effective December 28, 2021, the Company, entered into an amendment to the Loan and Security Agreement, or the First Amendment. The First Amendment extended the interest-only period through August 31, 2022. The First Amendment also eliminated the Term B Tranche, which remained unfunded, leaving only the Term A Tranche, or the SVB Facility. Under the amended Loan and Security Agreement, the SVB Facility was to mature on August 1, 2023. On May 1, 2023, the Company repaid its outstanding debt obligations under the amended Loan and Security Agreement in their entirety. Refer to Note 4, Debt, for further discussion of the Loan and Security Agreement and the First Amendment. 2022 Equity Distribution Agreement On August 12, 2022, the Company entered into an Equity Distribution Agreement, or the Equity Distribution Agreement, with Piper Sandler & Co., or Piper Sandler, pursuant to which the Company can offer and sell, from time to time at its sole discretion, shares of its common stock having an aggregate offering price of up to $ 50.0 million through Piper Sandler as its sales agent in an "at the market offering." Piper Sandler will receive a commission of 3.0 % of the gross proceeds of any common stock sold under the Equity Distribution Agreement. During the three and six months ended June 30, 2023, there have been no sales of the Company's common stock under the Equity Distribution Agreement. 2022 Public Offering On November 29, 2022, the Company entered into an underwriting agreement, or the Underwriting Agreement, with Cantor as the sole underwriter, relating to the issuance and sale in an underwritten offering, or the Offering, of 24,228,719 shares, or the Firm Shares, of the Company’s common stock to Cantor at a price of $ 0.6191 per share. The net proceeds to the Company from the Offering were $ 14.7 million (before accounting for the partial exercise of Cantor's option as described below) after deducting underwriting discounts and commissions and offering expenses payable by the Company. Under the terms of the Underwriting Agreement, the Company granted Cantor an option, exercisable for 30 days , to purchase up to an additional 3,634,307 shares of common stock, which we refer to, together with the Firm Shares, as the Shares, at the same price per 8 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) share as the Firm Shares. On January 5, 2023, Cantor partially exercised its option to purchase an additional 216,294 shares of common stock. 3. Summary of Significant Accounting Policies The Company’s significant accounting policies were identified in the Company’s Annual Report. There have been no material changes in those policies since the filing of its Annual Report. 4. Debt The carrying values of the Company's debt obligation were as follows: June 30, December 31, ($ in thousands) 2023 2022 Loan and Security Agreement $ — $ 17,395 Unamortized discount on Loan and Security Agreement — ( 630 ) Total debt $ — $ 16,765 On August 6, 2021, the Company entered into the Loan and Security Agreement with SVB. The Loan and Security Agreement provided for the funding of the Term A Tranche at the closing, with the Term B Tranche available if certain funding and clinical milestones were met by August 31, 2022. The SVB Facility and related obligations under the Loan and Security Agreement were secured by substantially all of the Company's properties, rights and assets, except for its intellectual property (which was subject to a negative pledge under the Loan and Security Agreement). In addition, the Loan and Security Agreement contained customary representations, warranties, events of default and covenants. On December 28, 2021, the Company entered into the First Amendment to the Loan and Security Agreement. The First Amendment eliminated the unfunded Term B Tranche, among other things. The SVB Facility bore interest at a floating rate per annum on outstanding loans, payable monthly, at the greater of (a) 7.75 % and (b) the current published U.S. prime rate, plus a margin of 4.5 % . All outstanding obligations under the amended Loan and Security Agreement were due and payable on August 1, 2023 . In connection with the payment of all of the Company's outstanding obligations, the Company also owed SVB 5.75 % of the original principal amounts borrowed as a final payment, or the Final Payment. Effective March 30, 2023, the Company entered into a Third Amendment to the Loan and Security Agreement, or the Third Amendment. Under the terms of the Third Amendment, the Company was no longer required to maintain all of its operating accounts, depository accounts and excess cash with SVB or one of its affiliates, and was instead only required to maintain a single operating or depository account at Silicon Valley Bank. The Third Amendment also modified the cash collateralization requirement, such that the Company was required to cash collateralize the entire sum of the outstanding principal amount of the SVB Facility, plus an amount equal to the Final Payment, which amount was to be reduced commensurate with each regularly scheduled monthly payment of principal and interest on the SVB Facility. On May 1, 2023, the Company paid SVB an amount equal to the entire outstanding principal amount under the SVB Facility, all accrued and unpaid interest and the Final Payment. In accordance with the First Amendment, the payment was subject to a prepayment premium of 2.00 % . During the three months ended June 30, 2023, the Company recorded the remaining amounts associated with the Final Payment of $ 0.5 million and the prepayment premium of $ 0.1 million as interest expense within the condensed statement of operations. In connection with its entry into the Loan and Security Agreement in August 2021, the Company issued to SVB warrants to purchase (i) up to 432,844 shares of the Company’s common stock, in the aggregate, and (ii) up to an additional 432,842 shares of common stock, in the aggregate, in the event the Company achieved certain clinical milestones, in each case at an exercise price per share of $ 2.22 . In connection with its entry into the First Amendment in December 2021, the Company amended and restated the warrants issued to SVB. As amended and restated, the warrants are for up to 649,615 shares of the Company's common stock, in the aggregate, with an exercise price of $ 1.16 per share, or the SVB Warrants. The SVB Warrants expire on August 6, 2031 . The issuance costs for the Loan and Security Agreement, including the First Amendment, were approximately $ 1.2 million and primarily related to the issuance of the SVB Warrants, which were amortized into interest expense over the term of the loan. Interest expense, including the amortization of issuance costs, was $ 1.1 million for the three months ended June 30, 2023 and was $ 1.9 million for the six months ended June 30, 2023, compared to $ 0.7 million for the three months ended June 30, 2022 and $ 1.4 million for the six months ended June 30, 2022. 9 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) 5. Fair Value Measurements The Company has certain financial assets and liabilities recorded at fair value which have been classified as Level 1, 2 or 3 within the fair value hierarchy as described in the accounting standards for fair value measurements. • Level 1—Quoted prices in active markets for identical assets or liabilities. • Level 2—Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. • Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Assets and liabilities measured at fair value on a recurring and nonrecurring basis as of June 30, 2023 and December 31, 2022 are as follows: ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of June 30, 2023 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 18,019 $ 18,019 $ — $ — ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of December 31, 2022 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 38,058 $ 38,058 $ — $ — The cash equivalents represent demand deposit accounts and deposits in a short-term United States treasury money market mutual fund quoted in an active market and classified as a Level 1 asset. There have been no changes to the valuation methods during the three or six months ended June 30, 2023. We had no financial assets or liabilities that were classified as Level 2 or Level 3 during the three or six months ended June 30, 2023. 6. Net loss per share Basic net loss per share of common stock is computed by dividing net loss applicable to common stockholders by the weighted average number of shares of common stock outstanding for the period. Diluted net loss per share is computed using the weighted-average number of shares of common stock outstanding during the period, plus the dilutive effect of outstanding options and warrants, using the treasury stock method and the average market price of the Company's common stock during the applicable period, unless their effect on net loss per share is antidilutive. The effect of computing diluted net loss per common share was antidilutive for any potentially issuable shares of common stock from the conversion of stock options, unvested restricted stock and warrants and, as such, have been excluded from the calculation. Such potentially dilutive shares of common stock consisted of the following as of June 30, 2023 and 2022: June 30, 2023 2022 Common stock options 13,608,886 10,086,635 Unvested restricted stock 657,187 1,159,688 Warrants 22,922,342 22,922,342 37,188,415 34,168,665 10 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) 7. Related Party Transactions Joint Venture with TriArm Therapeutics/Eden BioCell On December 18, 2018, the Company and TriArm Therapeutics, Ltd., or TriArm, launched Eden BioCell, Ltd., or Eden BioCell, as a joint venture to lead commercialization of the Company’s Sleeping Beauty -generated CAR-T therapies in the People’s Republic of China (including Macau and Hong Kong), Taiwan and Korea. The Company licensed to Eden BioCell the rights in Greater China for its third-generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen. Eden BioCell is owned equally by the Company and TriArm and the parties share decision-making authority. TriArm contributed $ 10.0 million to Eden BioCell and has committed up to an additional $ 25.0 million to this joint venture. TriArm also managed all clinical development in the territory pursuant to a master services agreement between TriArm and Eden BioCell. James Huang was the founder and serves as managing partner of Panacea Venture, which is an investor in TriArm. Mr. Huang is the Chair of the Company's board of directors and has been a director since July 2020. He also serves as a member of Eden BioCell’s board of directors. For the three and six months ended June 30, 2023, Eden BioCell incurred a net loss and the Company continues to have no commitment to fund its operations. In September 2021, TriArm and Alaunos mutually agreed to dissolve the Eden BioCell joint venture. The joint venture agreement has been terminated and the Eden BioCell entity has been dissolved as of July 2023. Refer to Note 12, Joint Venture , for further details. 8. Leases On April 19, 2023 , the Company terminated its office lease in Boston, Massachusetts, which was set to expire on August 31, 2026. In connection with the termination, the Company also assigned to the landlord its sub-sublease of the Boston office space, which had a term expiring on June 30, 2025 with an option to extend through July 31, 2026 . Termination costs for the Boston office lease were $ 0.2 million. A gain of $ 0.2 million was recorded on the lease termination during the three and six months ended June 30, 2023. In April 2022, the Company modified its real estate lease agreement executed on December 15, 2020 with MD Anderson for office space in Houston, Texas, which reduced the Company's leased space from 18,111 square feet to 3,228 square feet. As a result, the associated lease liability and right-of-use asset were remeasured to $ 0.4 million based on revised lease payments. A gain of $ 0.1 million was recorded on the lease modification during the three and six months ended June 30, 2022. 9. Commitments and Contingencies License Agreements Exclusive License Agreement with Precigen On October 5, 2018, the Company entered into an exclusive license agreement, or License Agreement, with PGEN Therapeutics, or PGEN, a wholly owned subsidiary of Precigen Inc., or Precigen, which was formerly known as Intrexon Corporation. Except where the context otherwise requires, the Company refers to PGEN and Precigen together as Precigen. Pursuant to the terms of the License Agreement, the Company had exclusive, worldwide rights to research, develop and commercialize (i) TCR products designed for neoantigens for the treatment of cancer, (ii) products utilizing Precigen’s RheoSwitch® gene switch, or RTS, for the treatment of cancer, referred to as IL-12 Products and (iii) CAR products directed to (A) CD19 for the treatment of cancer, referred to as CD19 Products, and (B) BCMA for the treatment of cancer, subject to certain obligations to pursue such target under the License and Collaboration Agreement effective March 27, 2015 between the Company, Precigen and ARES TRADING S.A., a subsidiary of Merck KGaA, as assigned by Precigen to PGEN. Under the License Agreement, the Company also had exclusive, worldwide rights for certain patents relating to the Sleeping Beauty technology to research, develop and commercialize TCR products for both neoantigens and shared antigens for the treatment of cancer, referred to as TCR Products. The Company was responsible for all aspects of the research, development and commercialization and was required to use commercially reasonable efforts to develop certain products. In consideration of the licenses and other rights granted by Precigen, the Company was required to pay Precigen an annual license fee of $ 0.1 million, reimburse Precigen for certain historical costs, pay Precigen milestones up to an additional $ 52.5 million for each exclusively licensed program upon the achievement of certain milestones, and pay Precigen tiered royalties up to a maximum royalty amount of $ 100.0 million in the aggregate. The Company was also obligated to pay Precigen 20 % of any 11 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) sublicensing income received by us relating to the licensed products. The Company was responsible for all development costs associated with each of the licensed products. Precigen was obligated to pay the Company royalties up to a maximum royalty amount of $ 100.0 million. No royalty amounts were incurred during the three or six months ended June 30, 2023 and 2022. On April 3, 2023, the Company entered into the Amended and Restated Exclusive License Agreement with Precigen, or the A&R License Agreement, which restated and amended the License Agreement in full. Under the A&R License Agreement, the Company still has exclusive, worldwide rights to research, develop and commercialize TCR products designed for neoantigens or driver mutations for the treatment of cancer and non-exclusive rights to use non-driver mutation TCRs. The Company further maintains its exclusive, worldwide rights for certain patents relating to the Sleeping Beauty technology to research, develop and commercialize TCR products for both neoantigens and shared antigens for the treatment of cancer, referred to as TCR Products. The Company remains solely responsible for all aspects of the research, development and commercialization of the exclusively licensed products for the treatment of cancer. The (i) products utilizing Precigen’s RheoSwitch® gene switch, or RTS, for the treatment of cancer, referred to as IL-12 Products and (ii) CAR products directed to (A) CD19 for the treatment of cancer, referred to as CD19 Products, and (B) BCMA for the treatment of cancer, subject to certain obligations to pursue such target under the License and Collaboration Agreement effective March 27, 2015 between the Company, Precigen and ARES TRADING S.A., a subsidiary of Merck KGaA, as assigned by Precigen to PGEN are no longer exclusively licensed to the Company. The Company is no longer obligated to use commercially reasonable efforts for the exclusively licensed products. The A&R License Agreement further eliminates any royalty or milestone obligations to Precigen, with an annual license fee of $ 75 thousand due on the anniversary of the A&R License Agreement effective date. Precigen is no longer obligated to pay the Company royalties on the net sales derived from the sale of Precigen's CAR products. License Agreement and 2015 Research and Development Agreement —The University of Texas MD Anderson Cancer Center On January 13, 2015 , the Company, together with Precigen, entered into a license agreement, or the MD Anderson License with MD Anderson (which Precigen subsequently assigned to PGEN). Pursuant to the MD Anderson License, the Company, together with Precigen, holds an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR T-cell therapies, non-viral gene transfer systems, genetic modification and/or propagation of immune cells and other cellular therapy approaches, Natural Killer, or NK Cells, and TCRs. On August 17, 2015, the Company, Precigen and MD Anderson entered into the 2015 R&D Agreement to formalize the scope and process for the transfer by MD Anderson, pursuant to the terms of the MD Anderson License, of certain existing research programs and related technology rights, as well as the terms and conditions for future collaborative research and development of new and ongoing research programs. The rights and obligations of Precigen under the 2015 R&D Agreement were assigned to the Company pursuant to the Fourth Amendment to 2015 R&D Agreement which was entered into on September 19, 2019 (the “Fourth Amendment”) with an effective date of October 5, 2018. The activities under the 2015 R&D Agreement are directed by a joint steering committee comprised of two members from the Company and one member from MD Anderson. As provided under the MD Anderson License, the Company provided funding for research and development activities in support of the research programs under the 2015 R&D Agreement for a period of three years and in an amount of no less than $ 15.0 million and no greater than $ 20.0 million per year. On November 14, 2017, the Company entered into an amendment to the 2015 R&D Agreement, extending its term until April 15, 2021. In connection with the execution of the 2019 R&D Agreement described below, on October 22, 2019, the Company amended the 2015 R&D Agreement to extend the term of the 2015 R&D Agreement until December 31, 2026 and to allow cash resources on hand at MD Anderson under the 2015 R&D Agreement to be used for development costs under the 2019 Research and Development Agreement, or the 2019 R&D Agreement, which the Company entered into on October 22, 2019, with MD Anderson, pursuant to which the Company agreed to collaborate with respect to the TCR program. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder, or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term of the MD Anderson License, the Company, together with Precigen, shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After ten years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if the Company and Precigen are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if the Company and Precigen are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by the Company and Precigen, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD 12 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) Anderson License will terminate upon the occurrence of certain insolvency events for both the Company and Precigen and may be terminated by the mutual written agreement of the Company, Precigen, and MD Anderson. 2019 Research and Development Agreement—The University of Texas MD Anderson Cancer Center Under the 2019 R&D Agreement, the Company and MD Anderson will, among other things, collaborate on programs to expand the Company's TCR library and conduct clinical trials. The activities under the 2019 R&D Agreement are directed by a joint steering committee comprised of two members from the Company and one member from MD Anderson. The Company will own all inventions and intellectual property developed under the 2019 R&D Agreement and the Company will retain all rights to all intellectual property, patentable or not, for oncology products manufactured using non-viral gene transfer technologies under the 2019 R&D Agreement, including the Company's Sleeping Beauty technology. The Company has granted MD Anderson an exclusive license for such intellectual property to develop and commercialize autologous TCR products manufactured using viral gene transfer technologies and any products outside the field of oncology and a non-exclusive license for allogenic TCR products manufactured using viral-based technologies. Under the 2019 R&D Agreement, the Company agreed, beginning on January 1, 2021, to reimburse MD Anderson up to a total of $ 20.0 million for development costs under the 2019 R&D Agreement, after the funds from the 2015 R&D Agreement are exhausted. In addition, the Company will pay MD Anderson royalties on net sales of its TCR products. The Company is required to make performance-based payments upon the successful completion of clinical and regulatory benchmarks relating to its TCR products. The aggregate potential benchmark payments are $ 36.5 million, of which only $ 3.0 million will be due prior to the first marketing approval of the Company's TCR products. The royalty rates and benchmark payments owed to MD Anderson may be reduced upon the occurrence of certain events. The Company also agreed to sell its TCR products to MD Anderson at preferential prices and will sell the Company's TCR products in Texas exclusively to MD Anderson for a limited period of time following the first commercial sale of the Company's TCR products. For each of the three months ended June 30, 2023 and June 30, 2022, the Company incurred clinical expenses of $ 0.2 million from MD Anderson related to the 2019 R&D Agreement. For the six months ended June 30, 2023, the Company incurred clinical expenses of $ 0.4 million from MD Anderson related to the 2019 R&D Agreement compared to $ 0.3 million for the six months ended June 30, 2022. The 2019 R&D Agreement will terminate on December 31, 2026 and either party may terminate the 2019 R&D Agreement following written notice of a material breach. The 2019 R&D Agreement also contains customary provisions related to indemnification obligations, confidentiality and other matters. In connection with the execution of the 2019 R&D Agreement, on October 22, 2019, the Company issued MD Anderson a warrant to purchase 3,333,333 shares of the Company's common stock, which is referred to as the MD Anderson Warrant. The MD Anderson Warrant has an initial exercise price of $ 0.001 per share, expires on December 31, 2026 , and vests upon the occurrence of certain clinical milestones. As of June 30, 2023, the milestones have not been met. License Agreement with the NCI On May 28, 2019, the Company entered into a patent license agreement, or the Patent License, with the National Cancer Institute, or the NCI. Pursuant to the Patent License, the Company holds an exclusive, worldwide license to certain intellectual property to develop and commercialize patient-derived (autologous), peripheral blood T-cell therapy products engineered by transposon-mediated gene transfer to express TCRs reactive to mutated KRAS, TP53 and EGFR neoantigens. In addition, pursuant to the Patent License, the Company holds an exclusive, worldwide license to certain intellectual property for manufacturing technologies to develop and commercialize autologous, peripheral blood T-cell therapy products engineered by non-viral gene transfer to express TCRs, as well as a non-exclusive, worldwide license to certain additional manufacturing technologies. Prior to January 1, 2023, the Company had entered into several amendments to the Patent License in order to expand its TCR library to include additional TCRs reactive to mutated KRAS and TP53 neoantigens licensed from the NCI. The terms of the Patent License require the Company to pay the NCI minimum annual royalties in the amount of $ 0.3 million, which will be reduced to $ 0.1 million once the aggregate minimum annual royalties paid by the Company equals $ 1.5 million. The Company is also required to make performance-based payments upon successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $ 4.3 million, of which aggregate payments of $ 3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $ 0.1 million was paid during the year ended December 31, 2022 upon the initiation of the Company's TCR-T Library Phase 1/2 Trial, which was a qualifying Phase 1 clinical trial under the terms of the Patent License. 13 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) In addition, the Company is required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $ 250.0 million to $ 1.0 billion. The aggregate potential amount of these benchmark payments is $ 12.0 million. The Company must also pay the NCI royalties on net sales of products covered by the Patent License at rates in the low to mid-single digits depending upon the technology included in a licensed product. To the extent the Company enters into a sublicensing agreement relating to a licensed product, the Company is required to pay the NCI a percentage of all consideration received from a sublicensee, which percentage will decrease based on the stage of development of the licensed product at the time of the sublicense. The Patent License will expire upon expiration of the last patent contained in the licensed patent rights, unless terminated earlier. The NCI may terminate or modify the Patent License in the event of a material breach, including if the Company does not meet certain milestones by certain dates, or upon certain insolvency events that remain uncured following the date that is 90 days following written notice of such breach or insolvency event. The Company may terminate the Patent License, or any portion thereof, in the Company's sole discretion at any time upon 60 days’ written notice to the NCI. In addition, the NCI has the right t (i) require the Company to sublicense the rights to the product candidates covered by the Patent License upon certain conditions, including if the Company is not reasonably satisfying required health and safety needs and (ii) terminate or modify the Patent License, including if the Company is not satisfying requirements for public use as specified by federal regulations. For the three months ended June 30, 2023, the Company recognized $ 0.1 million in license expenses to the NCI under this agreement, compared to $ 0.2 million for the three months ended June 30, 2022. For the six months ended June 30, 2023, the Company recognized $ 0.4 million in license expenses to the NCI under this agreement, compared to $ 0.5 million for the six months ended June 30, 2022. Cooperative Research and Development Agreement (CRADA) with the NCI On January 9, 2017, the Company entered into a Cooperative Research and Development Agreement, or the CRADA, with the NCI. The purpose of this collaboration was to advance a personalized TCR-T approach for the treatment of solid tumors. Using the Company's Sleeping Beauty technology, the NCI would analyze a patient’s own cancer cells, identify their unique neoantigens and TCRs reactive against those neoantigens and then use the Company's Sleeping Beauty technology to transpose one or more TCRs into T cells for re-infusion. Research conducted under the CRADA will be at the direction of Steven A. Rosenberg, M.D., Ph.D., Chief of the Surgery Branch at the NCI, in collaboration with the Company's researchers. The Company is responsible for providing the NCI with the test materials necessary for them to conduct their studies, and eventually, clinical trials pursuant to the CRADA. Inventions, data and materials discovered or produced in connection with performance of the research plan under the CRADA will remain the sole property of the party who produced the discovery. The parties will jointly own all inventions jointly discovered under the research plan. The owner of any invention under the CRADA will make the decision to file a patent covering the invention, or in the case of a jointly owned invention, the Company will have the first opportunity to file a patent covering the invention. If the Company fails to provide timely notice of its decision to the NCI or decides not to file a patent covering the joint invention, the NCI has the right to make the filing. For any invention solely owned by the NCI or jointly made by the NCI and the Company for which a patent application was filed, the U.S. Public Health service grants the Company an exclusive option to elect an exclusive or non-exclusive commercialization license. For inventions owned solely by the NCI or jointly owned by the NCI and the Company, which are licensed according to the terms described above, the Company agreed to grant to the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world. The Company is also required to grant the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world for any of the Company's solely owned inventions. The agreement may be terminated by any of the parties upon 60 days prior written consent. The NCI has a cleared Investigational New Drug Application, or IND, that would permit them to begin this trial. To the Company's knowledge, the trial has not yet begun enrollment. The progress and timeline for this trial, including the timeline for dosing patients, are under control of the NCI. In February 2019, the Company extended the CRADA with the NCI until January 9, 2022, committing an additional $ 5.0 million to this program; however, for the third and fourth quarters of 2021, the Company was not required to make payments toward the program as agreed with the NCI. In March 2022, the Company entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. In June 2022, the Company entered into the Fourth Amendment to the CRADA, or the CRADA Fourth Amendment, which, among other things, extended the term of the CRADA until January 9, 2025. In connection with the CRADA Fourth Amendment, the Company agreed to contribute $ 1.0 million per year, payable on a quarterly basis, beginning in the first quarter of 2023. The Company recorded expenses of $ 0.3 million under the CRADA for the three months 14 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) ended June 30, 2023 and $ 0.5 million for the six months ended June 30, 2023, compared to $ 0 for the three and six months ended June 30, 2022. On August 14, 2023, the Company announced that it had provided the requisite notice to terminate the CRADA, pursuant to its terms, effective October 13, 2023 , in light of the Company’s focus on its hunTR platform. Patent and Technology License Agreement—The University of Texas MD Anderson Cancer Center and the Texas A&M University System On August 24, 2004, the Company entered into a patent and technology license agreement with MD Anderson and the Texas A&M University System, which the Company refers to, collectively, as the Licensors. Under this agreement, the Company was granted an exclusive, worldwide license to rights (including rights to U.S. and foreign patent and patent applications and related improvements and know-how) for the manufacture and commercialization of two classes of organic arsenicals (water- and lipid-based) for human and animal use. The class of water-based organic arsenicals includes darinaparsin. Under the terms of the agreement, the Company may be required to make additional payments to the Licensors upon achievement of certain milestones in varying amounts which, on a cumulative basis could total up to an additional $ 4.5 million. In addition, the Licensors are entitled to receive royalty payments on sales from a licensed product and will also be entitled to receive a portion of any fees that the Company may receive from a possible sublicense under certain circumstances. During the three and six months ended June 30, 2023 and 2022, the Company did no t incur any milestone expenses or royalty expenses on sales under this agreement. Collaboration Agreement with Solasia Pharma K.K. On March 7, 2011, the Company entered into a License and Collaboration Agreement with Solasia Pharma K. K., or Solasia, which was amended on July 31, 2014 to include an exclusive worldwide license and amended on October 14, 2021 to revise certain payment schedule details, or, as so amended, the Solasia License and Collaboration Agreement. Pursuant to the Solasia License and Collaboration Agreement, the Company granted Solasia an exclusive license to develop and commercialize darinaparsin in both intravenous and oral forms and related organic arsenic molecules, in all indications for human use. As consideration for the license, the Company is eligible to receive from Solasia development- and sales-based milestones, a royalty on net sales of darinaparsin, once commercialized, and a percentage of any sublicense revenue generated by Solasia. Solasia will be responsible for all costs related to the development, manufacturing and commercialization of darinaparsin. The Company’s licensors, as defined in the Solasia License and Collaboration Agreement, will receive a portion of all milestone and royalty payments made by Solasia to the Company in accordance with the terms of the Solasia License and Collaboration Agreement with the licensors, as described above. In June 2022, Solasia announced that darinaparsin had been approved from relapsed or refractory Peripheral T-Cell Lymphoma by the Ministry of Health, Labor and Welfare in Japan. During the three and six months ended June 30, 2023, the Company earned $ 4 thousand in collaboration revenue and did no t earn royalty revenues on net sales under the Solasia License and Collaboration Agreement. The Company did no t earn collaboration revenue or royalty revenues on net sales under the Solasia License and Collaboration Agreement during the three and six months ended June 30, 2022. 10. Stock-Based Compensation The Company recognized stock-based compensation expense on all employee and non-employee awards as follows: For the Three Months Ended June 30, For the Six Months Ended June 30, (in thousands) 2023 2022 2023 2022 Research and development 180 214 356 528 General and administrative 734 776 1,468 1,315 Stock-based compensation expense $ 914 $ 990 $ 1,824 $ 1,843 The Company granted an aggregate of 620,000 stock options during the three months ended June 30, 2023, with a weighted-average grant date fair value of $ 0.36 per share, and granted an aggregate of 3,685,167 stock options during the six months ended June 30, 2023, with a weighted-average grant date fair value of $ 0.39 per share. The Company granted an aggregate of 692,500 stock options during the three months ended June 30, 2022, with a weighted-average grant date fair value of $ 0.55 per share, and granted an aggregate of 3,382,500 stock options during the six months ended June 30, 2022, with a weighted-average grant date fair value of $ 0.48 per share. 15 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) For the three and six months ended June 30, 2023 and 2022, the fair value of stock options was estimated on the date of grant using a Black-Scholes option valuation model with the following assumptio For the Three Months Ended June 30, For the Six Months Ended June 30, 2023 2022 2023 2022 Risk-free interest rate 3.51 – 3.84 % 2.83 – 3.54 % 3.51 – 3.87 % 1.63 – 3.54 % Expected life in years 5.27 – 6.25 5.27 – 6.25 5.06 – 6.25 5.27 – 6.25 Expected volatility 90.04 – 95.36 % 78.58 – 82.97 % 89.69 – 95.63 % 74.49 – 82.97 % Expected dividend yield — % — % — % — % 2. Stock option activity under the Company’s stock option plans for the six months ended June 30, 2023 was as follows: (in thousands, except share and per share data) Number of Shares Weighted- Average Exercise Price Weighted- Average Contractual Term (Years) Aggregate Intrinsic Value Outstanding, December 31, 2022 10,408,622 $ 1.84 Granted 3,685,167 0.51 Cancelled ( 484,903 ) 1.62 Outstanding, June 30, 2023 13,608,886 $ 1.49 8.36 $ 45 Options exercisable, June 30, 2023 5,308,410 $ 2.14 6.64 $ 2 Options exercisable, December 31, 2022 3,891,598 $ 2.46 8.08 $ — Options available for future grant, June 30, 2023 12,259,824 At June 30, 2023, total unrecognized compensation costs related to unvested stock options outstanding amounted to $ 5.8 million. The cost is expected to be recognized over a weighted-average period of 1.83 years. A summary of the status of unvested restricted stock for the six months ended June 30, 2023 was as follows: Number of Shares Weighted-Average Grant Date Fair Value Unvested, December 31, 2022 939,062 $ 1.40 Vested ( 281,875 ) 0.84 Unvested, June 30, 2023 657,187 $ 1.64 At June 30, 2023, total unrecognized compensation costs related to unvested restricted stock outstanding amounted to $ 0.8 million. The cost is expected to be recognized over a weighted-average period of 1.61 years. 11. Warrants In connection with the Company’s November 2018 private placement that provided net proceeds of approximately $ 47.1 million, the Company issued warrants to purchase an aggregate of 18,939,394 shares of common stock, which became exercisable six months after the closing of the private placement, or the November 2018 Warrants. The November 2018 Warrants had an exercise price of $ 3.01 per share and have a five-year term. The fair value of the November 2018 Warrants was estimated at $ 18.4 million using a Black-Scholes model with the following assumptio expected volatility of 71 %, risk free interest rate of 2.99 %, expected life of five years and no dividends. On July 26, 2019 and September 12, 2019, the Company entered into agreements with existing investors whereby the investors exercised the November 2018 Warrants for an aggregate of 17,803,031 shares of common stock, at an exercise price of $ 3.01 per share. Proceeds from the warrant exercise after deducting placement agent fees and other related expenses of $ 1.1 million were approximately $ 52.5 million. 16 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) The Company issued participating investors new warrants to purchase up to 17,803,031 additional shares of common stock (the "2019 Warrants") as consideration for the warrant holders to exercise their November 2018 Warrants. The 2019 Warrants will expire on the fifth anniversary of the initial exercise date and have an exercise price of $ 7.00 . The 2019 Warrants were valued using a Black-Scholes valuation model and resulted in a $ 60.8 million non-cash charge in the Company’s statement of operations in 2019. On October 22, 2019, the Company entered into the 2019 R&D Agreement with MD Anderson. In connection with the execution of the 2019 R&D Agreement, the Company issued the MD Anderson Warrant to purchase 3,333,333 shares of common stock. The MD Anderson Warrant has an initial exercise price of $ 0.001 per share and grant date fair value of $ 14.5 million. The MD Anderson Warrant expires on December 31, 2026 and vests upon the occurrence of certain clinical milestones. The Company will recognize expense on the MD Anderson Warrant in the same manner as if the Company paid cash for services to be rendered. For the three and six months ended June 30, 2023 and 2022, the Company did not recognize any expense related to the MD Anderson Warrant as the clinical milestones had not been achieved. On August 6, 2021, the Company entered into the Loan and Security Agreement with SVB. Refer to Note 4, Debt . In connection with the Loan and Security Agreement, the Company issued SVB warrants to purchase 432,844 shares of common stock with an exercise price of $2.22 per share. The warrants have a ten-year life and were fully vested upon issuance. The fair value of the warrants was estimated at $ 0.8 million using a Black-Scholes model with the following assumptio expected volatility of 79 %, risk free interest rate of 1.31 %, expected life of ten years and no dividends. On December 28, 2021, the Company entered into the First Amendment, as described in Note 4, Debt, in connection with which, the original warrants issued to SVB were amended and restated. As amended and restated, the SVB Warrants are for up to 649,615 shares of common stock, in the aggregate, with an exercise price of $1.16 per share. The SVB Warrants expire on August 6, 2031 and were fully vested upon issuance. As of June 30, 2023, none of the SVB Warrants have been exercised. 12. Joint Venture On December 18, 2018, the Company entered into a Framework Agreement with TriArm whereby the parties agreed to launch Eden BioCell, to lead clinical development and commercialization of certain Sleeping Beauty -generated CAR-T therapies as set forth in a separate license agreement. On January 3, 2019, Eden BioCell was incorporated in Hong Kong as a private company. Eden BioCell, the Company and TriArm entered into a Share Subscription Agreement on January 23, 2019, where the Company and TriArm agreed to contribute certain intellectual property, services and cash (only with respect to TriArm) to Eden BioCell to subscribe for a certain number of newly issued ordinary shares in the share capital of Eden BioCell. The closing of the transaction occurred on July 5, 2019. The Framework Agreement and Share Subscription Agreements were each respectively amended to be effective as of this date. Upon consummation of the joint venture, Eden BioCell and the Company also entered into a license agreement, pursuant to which the Company licensed the rights to Eden BioCell for third generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen for the territory of China (including Macau and Hong Kong), Taiwan and Korea. TriArm and the Company each received a 50 % equity interest in the joint venture in exchange for their contributions to Eden BioCell. The Company determined that Eden BioCell was considered a variable interest entity, or VIE, and concluded that it is not the primary beneficiary of the VIE as it did not have the power to direct the activities of the VIE. As a result, the Company accounts for the equity interest in Eden BioCell under the equity method of accounting as it has the ability to exercise significant influence. For the three and six months ended June 30, 2023 and 2022, Eden BioCell incurred a net loss. In September 2021, TriArm and the Company mutually agreed to dissolve the joint venture, which has now been terminated. The Eden BioCell entity has been dissolved as of July 2023. 13. Subsequent Events On August 14, 2023, the Company announced a strategic reprioritization to focus on the development of its hunTR TCR discovery platform and wind down of its TCR-T Library Phase 1/2 trial. In connection with the reprioritization, the Company announced it intends to reduce its workforce by approximately 60 %. Concurrently, the Company is considering certain strategic alternatives, including, but not limited to, an acquisition, merger, reverse merger, sale of assets, strategic partnerships, capital raises or other transactions. The Company has engaged Cantor to act as strategic advisor for this process. In addition, on August 14, 2023, the Company announced that it had provided the requisite notice to the NCI to terminate the CRADA, pursuant to its terms, effective October 13, 2023 , in light of the Company's focus on its hunTR platform. 17 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed financial statements and related notes included in this Quarterly Report on Form 10-Q and the audited financial information and related notes included in our Annual Report on Form 10-K, which was filed with the Securities and Exchange Commission, or the SEC, on March 7, 2023, or the Annual Report. Except for the historical financial information contained herein, the matters discussed in this Quarterly Report on Form 10-Q may be deemed to contain forward-looking statements that reflect our plans, estimates and beliefs. We make such forward-looking statements pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and other federal securities laws. In this Quarterly Report on Form 10-Q, words such as “may,” “expect,” “anticipate,” “estimate,” “intend,” “plan” and similar expressions (as well as other words or expressions referencing future events, conditions or circumstances) are intended to identify forward-looking statements. Our actual results could differ materially from those contained in or implied by any forward-looking statements. Factors that could cause or contribute to these differences include those risks identified under Part II, Item 1A. Risk Factors. Overview We have operated as a clinical-stage oncology-focused cell therapy company developing adoptive TCR-T cell therapy, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. We have leveraged our cancer hotspot mutation TCR library and our proprietary, non-viral Sleeping Beauty gene transfer platform to design and manufacture patient-specific cell therapies that target neoantigens arising from shared tumor-specific mutations in key oncogenic genes, including KRAS , TP53 and EGFR . In collaboration with the MD Anderson Cancer Center, or MD Anderson, we have been enrolling and treating patients for a Phase 1/2 clinical trial evaluating 12 TCRs reactive to mutated KRAS, TP53 and EGFR from our TCR library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers, which we refer to as our TCR-T Library Phase 1/2 Trial. We have not generated any product revenue and have incurred significant net losses in each year since our inception. For the six months ended June 30, 2023, we had a net loss of $18.8 million, and as of June 30, 2023, we have incurred approximately $899.4 million of accumulated deficit since our inception in 2003. We expect to continue to incur significant operating expenditures and net losses. Recent Developments Strategic Reprioritization On August 14, 2023, we announced a strategic reprioritization to focus on the development of our hunTR TCR discovery platform and wind down of our TCR-T Library Phase 1/2 Trial. In connection with the reprioritization, we announced that we intend to reduce our workforce by approximately 60%. Concurrently, we are considering certain strategic alternatives, including, but not limited to, an acquisition, merger, reverse merger, sale of assets, strategic partnerships, capital raises or other transactions. We have engaged Cantor Fitzgerald & Co., or Cantor, to act as strategic advisor for this process. In addition, on August 14, 2023, we announced that we had provided the requisite notice to the NCI to terminate the Cooperative Research and Development Agreement, dated January 9, 2017, by and among us, the National Cancer Institute, or the NCI, and Intrexon Corporation, or Intrexon, as amended (such agreement referred to herein as the CRADA), pursuant to its terms, effective October 13, 2023, in light of our focus on our hunTR platform. TCR-T Library Phase 1/2 Trial We continued actively enrolling patients in our TCR-T Library Phase 1/2 Trial targeting KRAS, TP53 and EGFR hotspot mutations across six solid tumor indications throughout the second quarter of 2023. We have dosed multiple patients this year. We presented early clinical and translational data from the Phase 1/2 Trial at the American Society of Clinical Oncology, or ASCO, Annual Meeting in June 2023, during which we highlighted early data from the first three patients with refractory solid tumors expressing KRAS or TP53 mutations. In the trial we have observed a first-in-human response for non-viral TCR-T cell therapy, as well as proof-of-concept for the non-viral Sleeping Beauty cell engineering platform in effective manufacturing of TCR-T cell therapies, with all products achieving >90% TCR positivity. In our translational data, Sleeping Beauty TCR-T cells were observed to engraft effectively in lung, colorectal and pancreatic cancer patients and were persistent in peripheral blood at the last follow-up. Post-treatment tumor biopsies showed infiltration of functional TCR-T cells and retention of both HLA and mutations. These data were also shared in a presentation at the 2nd Hawaii Global Summit on Thoracic Malignancies in June 2023. Eight patients have been treated in the Company’s TCR-T Library Phase 1/2 Trial to date, six of which are evaluable as of the date of filing. The trial showed that the Company’s T-cells were generally well-tolerated in all evaluable participants and achieved an 83% 18 disease control rate in evaluable patients with metastatic, refractory solid tumors. Disease control is measured by objective responses and stable disease. Persistence of TCR-T cells in peripheral blood was detected in all evaluable patients at last follow-up prior to filing. hunTR® Platform We have discovered multiple proprietary TCRs targeting driver mutations through our hunTR® TCR discovery platform. The hunTR® platform can rapidly interrogate T-cell responses and has the potential to expand to multiple targets or cancer indications. Using hunTR®, we have demonstrated the ability to isolate neoantigen specific TCRs from tumor resident T-cells. The presence of these diver mutation specific T-cells in the tumor potentially validates the relevance of the mutated target and safety of the TCR for use in other cancer patients expressing the same neoantigen. Listing Transfer to Nasdaq Capital Market On July 5, 2023, we transferred our listing from the Nasdaq Global Select Market to the Nasdaq Capital Market. In connection with the transfer, we are eligible for an additional 180 calendar day period, or until January 2, 2024, to regain compliance with the Minimum Bid Price Rule (as defined below). Financial Overview Collaboration Revenue We recognize research and development funding revenue over the estimated period of performance. To date we have not generated product revenue. Unless and until we receive approval from the FDA and/or other regulatory authorities for our product candidates, we cannot sell our products and will not have product revenue. Research and Development Expenses Our research and development expenses have historically consisted primarily of salaries and related expenses for personnel, costs of contract manufacturing services, costs of facilities, reagents, and equipment, fees paid to professional service providers in conjunction with our clinical trials, fees paid to contract research organizations, or CROs, in conjunction with clinical trials, fees paid to CROs in conjunction with costs of materials used in research and development, consulting, license and milestone payments and sponsored research fees paid to third parties. General and Administrative Expenses General and administrative expenses consist primarily of salaries, benefits and stock-based compensation, consulting and professional fees, including patent related costs, general corporate costs and facility costs not otherwise included in research and development expenses. Other Income (Expense) Other income (expense) consists primarily of interest expense associated with our amended Loan and Security Agreement (as defined below), interest income on our cash balances and sublease income. Results of Operations Three and Six Months Ended June 30, 2023 Compared to Three and Six Months Ended June 30, 2022 Research and Development Expenses Research and development expenses during the three and six months ended June 30, 2023 and 2022 were as follows: Three Months Ended June 30, Six Months Ended June 30, 2023 2022 Change 2023 2022 Change ($ in thousands) Research and development expenses $ 5,186 $ 5,937 $ (751 ) (13 )% $ 11,689 $ 11,518 $ 171 1 % Research and development expenses for the three months ended June 30, 2023 decreased by $0.8 million when compared to the three months ended June 30, 2022, primarily due to an accrual adjustment related to one of our de-prioritized clinical programs of $0.7 million and a $0.1 million decrease in consulting expenses due to reduced use of consultants. 19 Research and development expenses for the six months ended June 30, 2023 increased by $0.2 million when compared to the six months ended June 30, 2022, primarily due to a $2.0 million increase in expenses related to our incremental manufacturing and hunTR efforts. This increase was partially offset by a $0.7 million decrease due to an accrual adjustment related to one of our de-prioritized clinical programs, a $0.8 million decrease in employee related expenses due to our reduced headcount, a $0.1 million decrease in consulting expenses due to the reduced use of consultants and a $0.2 million decrease in facilities costs due to the termination of one of our leases. For the three and six months ended June 30, 2023, our clinical stage projects included our TCR-T Library Phase 1/2 Trial evaluating TCRs from our library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers. We expect our research and development expenses to decrease significantly going forward as we reduce investment in our clinical and pre-clinical programs and reduce our workforce. General and Administrative Expenses General and administrative expenses during the three and six months ended June 30, 2023 and 2022 were as follows: Three Months Ended June 30, Six Months Ended June 30, 2023 2022 Change 2023 2022 Change ($ in thousands) General and administrative expenses $ 3,045 $ 3,429 $ (384 ) (11 )% $ 6,213 $ 6,935 $ (722 ) (10 )% General and administrative expenses for the three months ended June 30, 2023 decreased by $0.4 million as compared to the three months ended June 30, 2022, primarily due to lower employee related expenses of $0.1 million due to our reduced headcount, a $0.1 million decrease in consulting and professional services expenses related to lower legal costs and the reduced use of consultants and a $0.2 million decrease in insurance fees. General and administrative expenses for the six months ended June 30, 2023 decreased by $0.7 million as compared to the six months ended June 30, 2022, primarily due to lower employee related expenses of $0.1 million due to our reduced headcount, a $0.2 million decrease in consulting and professional services expenses related to lower legal costs and the reduced use of consultants, a $0.3 million decrease in insurance fees and a $0.1 million decrease in facilities-related costs due to the termination of one of our leases. We expect general and administrative expenses to increase in connection with our strategic reprioritization, including potential legal, accounting and advisory expenses and other related charges. Gain on Lease Modification Gain on lease modifications during the three and six months ended June 30, 2023 and 2022 was as follows: Three Months Ended June 30, Six Months Ended June 30, 2023 2022 Change 2023 2022 Change ($ in thousands) Gain on lease modification $ (245 ) $ (133 ) $ (112 ) 84 % $ (245 ) $ (133 ) $ (112 ) 84 % Gain on lease modification during the three and six months ended June 30, 2023 was $0.2 million as compared to $0.1 million during the three and six months ended June 30, 2022. As a result of a real estate lease termination during the three months ended June 30, 2023, the associated lease liability and right-of-use asset were derecognized, resulting in a gain of $0.2 million. Following a real estate lease modification during the three months ended June 30, 2022, the associated lease liability and right-of-use asset were remeasured based on the revised lease payments, resulting in a gain of $0.1 million. Other Expense, Net Other expense, net during the three and six months ended June 30, 2023 and 2022 was as follows: Three Months Ended June 30, Six Months Ended June 30, 2023 2022 Change 2023 2022 Change ($ in thousands) Interest expense $ (1,068 ) $ (740 ) $ (328 ) 44 % $ (1,921 ) $ (1,425 ) $ (496 ) 35 % Other income, net 277 41 236 576 % 753 25 728 2912 % Total $ (791 ) $ (699 ) $ (92 ) 13 % $ (1,168 ) $ (1,400 ) $ 232 (17 )% 20 Other expense, net for the three months ended June 30, 2023 increased by $0.1 million as compared to the three months ended June 30, 2022, primarily due to higher interest expense of $0.3 million associated with our former amended Loan and Security Agreement (as defined below), partially offset by higher interest income of $0.2 million as a result of higher interest rates. Other expense, net for the six months ended June 30, 2023 decreased by $0.2 million as compared to the six months ended June 30, 2022, primarily due to higher interest income of $0.7 million as a result of increasing interest rates, partially offset by higher interest expense of $0.5 million associated with our former amended Loan and Security Agreement. Liquidity and Capital Resources Sources of Liquidity We have not generated any revenue from product sales. Since inception, we have incurred net losses and negative cash flows from our operations. To date, we have financed our operations primarily through public offerings of our common stock, private placements of our equity securities, term debt and collaborations. Through June 30, 2023, we have received an aggregate of $729.2 million from issuances of equity. On August 14, 2023, we announced a strategic reprioritization to focus on the development of our hunTR TCR discovery platform and wind down of our TCR-T Library Phase 1/2 Trial. In connection with the reprioritization, we announced that we intend to reduce our workforce by approximately 60%. Concurrently, we are considering certain strategic alternatives, including, but not limited to, an acquisition, merger, reverse merger, sale of assets, strategic partnerships, capital raises or other transactions. We have engaged Cantor to act as strategic advisor for this process. We follow the guidance of Accounting Standards Codification, or ASC, Topic 205-40, Presentation of Financial Statements - Going Concern , in order to determine whether there is substantial doubt about our ability to continue as a going concern for one year after the date our condensed financial statements are issued. Given our current development plans and cash management efforts, we anticipate that our cash resources will be sufficient to fund operations into the fourth quarter of 2023. Our ability to continue operations after our current cash resources are exhausted depends on our ability to obtain additional financing, as to which no assurances can be given. Cash requirements may vary materially from those now planned because of changes in our focus and direction of our research and development programs, competitive and technical advances, patent developments, regulatory changes or other developments. If adequate additional funds are not available when required, management may need to curtail its development efforts and planned operations to conserve cash. Based on the current cash forecast, management has determined that our present capital resources will not be sufficient to fund our planned operations for at least one year from the issuance date of the condensed financial statements, which raises substantial doubt as to our ability to continue as a going concern. This forecast of cash resources and planned operations is forward-looking information that involves risks and uncertainties, and the actual amount of expenses could vary materially and adversely as a result of a number of factors. 2022 Public Offering On November 29, 2022, we entered into an underwriting agreement, or the Underwriting Agreement, with Cantor as the sole underwriter, relating to the issuance and sale in an underwritten offering, or the Offering, of 24,228,719 shares of our common stock, or the Firm Shares, to Cantor at a price of $0.6191 per share. Our net proceeds from the Offering were $14.7 million (before accounting for the partial exercise of Cantor's option as described below) after deducting underwriting discounts and commissions and offering expenses payable by us. Under the terms of the Underwriting Agreement, we granted Cantor an option, exercisable for 30 days, to purchase up to an additional 3,634,307 shares of common stock, or, together with the Firm Shares, the Shares, at the same price per share as the Firm Shares. On January 5, 2023, Cantor partially exercised its option to purchase an additional 216,294 shares of common stock. 2022 Equity Distribution Agreement On August 12, 2022, we entered into an Equity Distribution Agreement, or the Equity Distribution Agreement, with Piper Sandler & Co., or Piper Sandler, pursuant to which we can offer and sell, from time to time at our sole discretion, shares of our common stock having an aggregate offering price of up to $50 million through Piper Sandler as our sales agent in an “at the market offering.” Piper Sandler will receive a commission of 3.0% of the gross proceeds of any common stock sold under the Equity Distribution Agreement. During the three and six months ended June 30, 2023, there were no sales of our common stock under the Equity Distribution Agreement. 21 2021 Loan and Security Agreement On August 6, 2021, we entered into a Loan and Security Agreement, or the Loan and Security Agreement, with SVB. The Loan and Security Agreement provided for an initial term loan of $25.0 million funded at the closing, or the Term A Tranche, with an additional tranche of $25.0 million available if certain funding and clinical milestones were met by August 31, 2022. The SVB Facility and related obligations under the Loan and Security Agreement were secured by substantially all of our properties, rights and assets, except for our intellectual property (which was subject to a negative pledge under the Loan and Security Agreement). In addition, the Loan and Security Agreement contained customary representations, warranties, events of default and covenants. Effective December 28, 2021, we entered into the First Amendment to the Loan and Security Agreement. Under the terms of the First Amendment, the additional tranche, which remained unfunded, was eliminated, leaving only the Term A Tranche, which is referred to as the SVB Facility. The SVB Facility bore interest at a floating rate per annum on the outstanding loans, payable monthly, at the greater of (a) 7.75% and (b) the current published U.S. prime rate, plus a margin of 4.5%. Commencing on September 1, 2022, aggregate outstanding borrowings became repayable in twelve consecutive, equal monthly installments of principal plus accrued interest. All outstanding obligations under the amended Loan and Security Agreement were due and payable on August 1, 2023. We also owed SVB $1.4 million as a final payment, or the Final Payment. Effective March 30, 2023, we entered into a Third Amendment to the Loan and Security Agreement, or the Third Amendment. Under the terms of the Third Amendment, we were no longer required to maintain all of our operating accounts, depository accounts and excess cash with SVB, and were instead only required to maintain a single operating or depository account at Silicon Valley Bank. The Third Amendment also modified the cash collateralization requirement, such that we were required to cash collateralize the entire sum of the outstanding principal amount of the SVB Facility plus an amount equal to the Final Payment, which amount was to be reduced commensurate with each regularly scheduled monthly payment of principal and interest on the SVB Facility. On May 1, 2023, we paid SVB all amounts outstanding under the amended Loan and Security Agreement, comprised of the entire outstanding principal amount under the SVB Facility, all accrued and unpaid interest and the Final Payment. The payment was subject to a prepayment premium of 2.00%. In connection with our entry into the Loan and Security Agreement in August 2021, we issued to SVB warrants to purchase (i) up to 432,844 shares of our common stock, in the aggregate, and (ii) up to an additional 432,842 shares of Common Stock, in the aggregate, in the event we achieved certain clinical milestones, in each case at an exercise price per share of $2.22. In connection with our entry into the First Amendment in December 2021, we amended and restated the warrants issued to SVB. As amended and restated, the warrants are for up to 649,615 shares of our common stock, in the aggregate, with an exercise price of $1.16 per share, or the SVB Warrants. The SVB Warrants expire on August 6, 2031. Cash Flows The following table summarizes our net decrease in cash and cash equivalents for the six months ended June 30, 2023 and 2022: Six Months Ended June 30, 2023 2022 ($ in thousands) Net cash used in: Operating activities $ (16,383 ) $ (15,957 ) Investing activities (158 ) (86 ) Financing activities (18,138 ) — Net decrease in cash and cash equivalents $ (34,679 ) $ (16,043 ) Cash flows from operating activities represent the cash receipts and disbursements related to all of our activities other than investing and financing activities. Cash flows from operating activities are derived by adjusting our net loss • Non-cash operating items such as depreciation and stock-based compensation; and • Changes in operating assets and liabilities which reflect timing differences between the receipt and payment of cash associated with transactions and when they are recognized in results of operations. Net cash used in operating activities for the six months ended June 30, 2023 was $16.4 million, as compared to net cash used in operating activities of $16.0 million for the six months ended June 30, 2022. The increase in net cash used in operating activities was primarily related to changes in working capital. 22 The net cash used in operating activities for the six months ended June 30, 2023 was primarily due to our net loss of $18.8 million, adjusted for $5.3 million of non-cash items such as depreciation, stock-based compensation, gain on lease modification and a decrease in the carrying amount of right-of-use lease assets, a $2.1 million decrease in accrued expenses, a $1.2 million decrease in lease liabilities, offset by a decrease in accounts payable of $0.1 million and a decrease to prepaid expenses and other assets of $0.3 million. Net cash used in investing activities was $0.2 million for the six months ended June 30, 2023, compared to $0.1 million for the six months ended June 30, 2022. The increase was primarily related to the purchase of equipment to support our internal cell therapy capabilities in our Houston facilities. Net cash used in financing activities for the six months ended June 30, 2023 was $18.1 million, primarily related to the full repayment of long-term debt. There was no net cash used in financing activities for the six months ended June 30, 2022. Operating Capital and Capital Expenditure Requirements We anticipate that losses will continue for the foreseeable future. As of June 30, 2023, our accumulated deficit was approximately $899.4 million. Our actual cash requirements may vary materially from those planned because of a number of factors, including changes in the focus, direction and pace of our development programs, including those resulting from the recently announced exploration of strategic alternatives and related workforce reduction. As of June 30, 2023, we had approximately $18.3 million of cash and cash equivalents. In light of our recent announcement that we are engaging in a strategic reprioritization, including halting further development programs and reducing our workforce, we anticipate our cash resources will be sufficient to fund our operations into the fourth quarter of 2023. In order to continue our operations beyond our forecasted runway, including if necessary to continue to explore strategic alternatives, we will need to raise additional capital, and we have no committed sources of additional capital at this time. The forecast of cash resources is forward-looking information that involves risks and uncertainties, and the actual amount of our expenses could vary materially and adversely as a result of a number of factors. We have based our estimates on assumptions that may prove to be wrong, and our expenses could prove to be significantly higher than we currently anticipate. Management does not know whether additional financing will be on terms favorable or acceptable to us when needed, if at all. If adequate additional funds are not available when required, we may be unable to persist as a going concern for sufficient time to identify or execute on any strategic alternatives. Working capital as of June 30, 2023 was $13.7 million, consisting of $18.8 million in current assets and $5.1 million in current liabilities. Working capital as of December 31, 2022 was $15.7 million, consisting of $39.9 million in current assets and $24.2 million in current liabilities. Operating Leases Our commitments for operating leases relate to laboratory and office space in Houston, Texas. On March 12, 2019, we entered into a lease agreement for office space in Houston at MD Anderson through April 2021. On October 15, 2019, we entered into another lease agreement for additional office and laboratory space in Houston through February 2027. On April 7, 2020, we entered into amendments to our existing lease to lease additional office and laboratory space in Houston through February 2027. In June and September 2020, we entered into short-term leases in Houston for additional office and laboratory space. On December 15, 2020, we entered into a second lease in Houston with MD Anderson which provided us additional office and laboratory space through April 2028. In April 2022, we modified our real estate lease agreement executed on December 15, 2020 with MD Anderson. The modification reduced our leased space from 18,111 square feet to 3,228 square feet. As a result, the associated lease liability and right-of-use asset were remeasured to $0.4 million based on revised lease payments. In April 2023, we executed an agreement to terminate the lease for our remaining office space in Boston, Massachusetts. Under the terms of the lease termination, we were required to pay a $0.2 million termination fee. Additionally, we have been released from a sub-sublease of certain of our office space in Boston signed in June 2022 as it has been assigned to the Boston office space's landlord in conjunction with the agreement to terminate the lease for the remaining office space. Royalty and License Fees On May 28, 2019, we entered into a patent license agreement, or the Patent License, with the NCI. The terms of the Patent License require us to pay the NCI minimum annual royalties in the amount of $0.3 million, which will be reduced to $0.1 million once the aggregate minimum annual royalties paid by us equals $1.5 million. For the three months ended June 30, 2023 and 2022, we recognized $0 related to royalty payments under the Patent License, and we recognized $0.3 million in royalty payments under the Patent License for the six months ended June 30, 2023 and 2022. As of June 30, 2023, we have paid a total of $0.8 million in minimum annual royalty payments under the Patent License. 23 Pursuant to the Patent License, we are also required to make performance-based payments contingent upon the successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $4.3 million, of which aggregate payments of $3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $0.1 million was due upon the initiation of our TCR-T Library Phase 1/2 Trial. In addition, we are required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $250.0 million to $1.0 billion. The aggregate potential amount of these benchmark payments is $12.0 million. No payments were made during the three and six months ended June 30, 2023, as compared to $0.1 million during the three and six months ended June 30, 2022. On October 5, 2018, we entered into the License Agreement with PGEN Therapeutics, Inc., or PGEN, a wholly owned subsidiary of Precigen. Except where the context otherwise requires, we refer to PGEN and Precigen together as Precigen. Under the License Agreement, we were obligated to pay Precigen an annual licensing fee of $0.1 million expected to be paid through the term of the License Agreement and we had also agreed to reimburse certain historical costs of Precigen up to $1.0 million. Pursuant to the terms of the License Agreement, we were responsible for contingent milestone payments totaling up to an additional $52.5 million for each exclusively licensed program upon the initiation of later stage clinical trials and upon the approval of exclusively licensed products in various jurisdictions. In addition, we were also required to pay Precigen tiered royalties ranging from low-single digits to high-single digits on the net sales derived from the sale of any approved IL-12 products and CAR products as well as royalties ranging from low-single digits to mid-single digits on the net sales derived from the sales of any approved TCR products, up to a maximum royalty amount of $100.0 million in the aggregate. We were also required to pay Precigen 20% of any sublicensing income received by us relating to the licensed products. We were also responsible for all development costs associated with each of the licensed products. Precigen was required to pay us royalties ranging from low-single digits to mid-single digits on the net sales derived from the sale of Precigen's CAR products, up to a maximum royalty amount of $100.0 million. Pursuant to the A&R License Agreement, all royalty and milestone obligations between us and Precigen have been removed, and annual license payments due to Precigen have been reduced from $100 thousand to $75 thousand. Payment of the licensing fee is scheduled annually in the fourth quarter; therefore, in accordance with the terms of the agreement, no amounts were paid during the three and six months ended June 30, 2023 and 2022. In June 2022, Solasia Pharma K. K., or Solasia, announced that darinaparsin had been approved from relapsed or refractory Peripheral T-Cell Lymphoma by the Ministry of Health, Labor and Welfare in Japan. During the three and six months ended June 30, 2023, the Company recorded collaboration revenue of $4 thousand under the License and Collaboration Agreement, dated March 7, 2011, as amended on July 31, 2014 between Solasia and us, compared to $0 for the three and six months ended June 30, 2022. Critical Accounting Policies and Estimates In our Annual Report on Form 10-K for the year ended December 31, 2022, our most critical accounting policies and estimates upon which our financial status depends were identified as those relating to clinical trial expenses and other research and development expenses; collaboration agreements; fair value measurements for stock-based compensation; and income taxes. We reviewed our policies and determined that those policies remain our most critical accounting policies for the three and six months ended June 30, 2023. Item 3. Quantitative and Qualitative Disclosures about Market Risk. As a smaller reporting company, as defined by Rule 12b-2 under the Securities Exchange Act of 1934, as amended, or the Exchange Act, we are not required to provide the information under this item. Item 4. Controls and Procedures. Evaluation of Disclosure Controls and Procedures Our management, with the participation of our principal executive officer and principal accounting officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) or 15d-15(e) under the Exchange Act) as of June 30, 2023. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by the company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal accounting officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Our management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and our management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of our disclosure controls and 24 procedures as of June 30, 2023, our principal executive officer and principal accounting officer concluded that, as of such date, our disclosure controls and procedures were effective. Changes in Internal Control over Financial Reporting There were no changes in our internal control over financial reporting (as defined in Rule 13(a)-15(f) of the Exchange Act) that occurred during the quarter ended June 30, 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 25 PART II—OTHER INFORMATION Item 1. Legal Proceedings In the ordinary course of business, we may periodically become subject to legal proceedings and claims arising in connection with ongoing business activities from time to time. The results of litigation and claims cannot be predicted with certainty, and unfavorable resolutions are possible and could materially affect our results of operations, cash flows or financial position. In addition, regardless of the outcome, litigation could have an adverse impact on us because of defense costs, diversion of management attention and resources and other factors. As of June 30, 2023, based on information readily available, other than as described below, there are no material matters that, in the opinion of management, are likely to result in a material adverse effect on our financial position, results of operations or cash flows. KBI Biopharma Litigation On March 17, 2023, KBI Biopharma, Inc., or KBI, filed a complaint against us in the District Court of Harris County, Texas, 165th Judicial District, asserting breach of an Amended and Restated Master Services Agreement between us and KBI relating to the development of an autologous gene modified T-cell therapy product, or the KBI Agreement. KBI is primarily seeking unspecified monetary damages in excess of $3.2 million. On May 1, 2023, we filed an answer generally denying all of KBI’s allegations and asserting affirmative and other defenses as well as counterclaims for breach of the KBI Agreement and conversion. A trial date has been set for May 2024. Item 1A. Risk Factors The following important factors could cause our actual business and financial results to differ materially from those contained in forward-looking statements made in this Quarterly Report on Form 10-Q or elsewhere by management from time to time. The risk factors in this Quarterly Report have been revised to incorporate changes to our risk factors from those included in our Annual Report. The risk factors set forth below with an asterisk (*) before the title are new risk factors or ones containing substantive changes from the risk factors previously disclosed in Item 1A of our Annual Report, as filed with the SEC. The market price of our common stock could decline if one or more of these risks or uncertainties actually occur, causing you to lose all or part of your investment. This situation is changing rapidly and additional impacts may arise. Additional risks that we currently do not know about, or that we currently believe to be immaterial, may also impair our business. Certain statements below are forward-looking statements. See “Special Note Regarding Forward-Looking Statements” in this Quarterly Report. RISKS RELATED TO OUR STRATEGIC REPRIORITIZATION *Our strategic reprioritization may not be successful, specifically our focus on our hunTR TCR discovery platform may not yield results and we may be unsuccessful in identifying and implementing any strategic transaction. On August 14, 2023, we announced a strategic reprioritization to focus on the development of our hunTR TCR discovery platform and wind down of our TCR-T Library Phase 1/2 Trial. In connection with the reprioritization, we announced that we intend to reduce our workforce by approximately 60%. Concurrently, we are considering certain strategic alternatives, including, but not limited to, an acquisition, merger, reverse merger, sale of assets, strategic partnerships, capital raises or other transactions. We have engaged Cantor to act as strategic advisor for this process. We believe there is value in our hunTR TCR discovery platform and anticipate increased focus on it will drive improvements in it and make it a more valuable asset. However, the platform is experimental. There can be no assurances that increased focus on the platform will yield increased results, including the discovery of more TCRs or discovering them more quickly or efficiently, or succeed in improving the platform’s appeal and increasing its value. Even if we do succeed in discovering additional TCRs, we may be unable to successfully monetize the new TCRs either through partnerships or out-licensing. In addition, following this announcement, we expect to devote substantial time and resources to exploring strategic alternatives that our Board of Directors believes will maximize stockholder value. Despite devoting significant efforts to identify and evaluate potential strategic alternatives, there can be no assurance that this strategic review process will result in us pursuing any transaction or that any transaction, if pursued, will be completed on attractive terms or at all. We have not set a timetable for completion of this strategic review process, and our Board of Directors has not approved a definitive course of action. Additionally, there can be no assurances that any particular course of action, business arrangement or transaction, or series of transactions, will be pursued, successfully consummated or lead to increased stockholder value or that we will make any additional cash distributions to our stockholders. The process of continuing to evaluate these strategic options may be very costly, time-consuming and complex and we have incurred, and may in the future incur, significant costs related to this continued evaluation, such as legal and accounting fees and expenses and other related charges. We may also incur additional unanticipated expenses in connection with this process. A considerable portion of 26 these costs will be incurred regardless of whether any such course of action is implemented or transaction is completed. Any such expenses will decrease the remaining cash available for use in our business. In addition, potential counterparties in a strategic transaction involving the Company may place minimal or no value on our assets or our public listing. Further, should we resume the development of our product candidates, the development and any potential commercialization of our product candidates will require substantial additional cash to fund the costs associated with conducting the necessary preclinical and clinical testing and obtaining regulatory approval. Consequently, any potential counterparty in a strategic transaction involving the Company may choose not to spend additional resources and continue development of our product candidates and may attribute little or no value, in such a transaction, to those product candidates. In addition, any strategic business combination or other transactions that we may consummate in the future could have a variety of negative consequences and we may implement a course of action or consummate a transaction that yields unexpected results that adversely affect our business and decreases the remaining cash available for use in our business or the execution of our strategic plan. Any potential transaction would be dependent on a number of factors that may be beyond our control, including, among other things, market conditions, industry trends, the interest of third parties in a potential transaction with us, obtaining stockholder approval and the availability of financing to third parties in a potential transaction with us on reasonable terms. Any failure of such potential transaction to achieve the anticipated results could significantly impair our ability to enter into any future strategic transactions and may significantly diminish or delay any future distributions to our stockholders. If we are not successful in setting forth a new strategic path for the Company, or if our plans are not executed in a timely fashion, this may cause reputational harm with our stockholders and the value of our securities may be adversely impacted. In addition, speculation regarding any developments related to the review of strategic alternatives and perceived uncertainties related to the future of the Company could cause our stock price to fluctuate significantly. *Even if we successfully consummate a transaction from our strategic assessment, we may fail to realize all of the anticipated benefits of the transaction, those benefits may take longer to realize than expected, or we may encounter integration difficulties. Our ability to realize the anticipated benefits of any potential business combination or any other result from our strategic assessment is highly uncertain. Any anticipated benefits will depend on a number of factors, including our ability to integrate with any future business partner and our ability to obtain value for our product candidates or technologies, if divested. The process may be disruptive to our business and the expected benefits may not be achieved within the anticipated timeframe, or at all. The failure to meet the challenges involved and to realize the anticipated benefits of any potential transaction could adversely affect our business and financial condition. *We may require substantial additional financial resources to continue as a going concern, including through the strategic review process, and if we raise additional funds it may affect the value of your investment in our common stock. We have not generated significant revenue and have incurred significant net losses in each year since our inception. For the six months ended June 30, 2023, we had a net loss of $18.8 million, and, as of June 30, 2023, our accumulated deficit since inception in 2003 was $899.4 million. Although we are in the process of implementing the Plan (as defined below) in order to reduce operating expenditures and net losses, as discussed above, there can be no assurances we will be successful at all, or in the amount we anticipate. In connection with our strategic reprioritization, we unilaterally terminated the CRADA. As a result of such termination, we may be obligated to pay the NCI certain costs or be unable to recoup certain amounts already paid related to their work under the CRADA. Such amounts may further reduce our cash runway. As of June 30, 2023, we have approximately $18.3 million of cash and cash equivalents. Following implementation of the Plan, we anticipate our cash resources will be sufficient to fund our operations into the fourth quarter of 2023. We have not set a timetable for completion of the strategic review process, and our Board of Directors has not approved a definitive course of action. We have no committed sources of additional capital at this time. Accordingly, we could exhaust our current cash resources prior to the identification or consummation of a suitable strategic alternative, requiring the Company to raise additional capital. We anticipate that our exploration of strategic alternatives will make it more difficult to raise additional capital. To the extent that we raise additional capital by issuing equity securities, our existing stockholders’ ownership will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect the rights of our common stockholders. Debt financing and preferred equity financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, creating liens, making capital expenditures or declaring dividends, which may further constrain our ability to execute on strategic alternatives. We follow the guidance of Accounting Standards Codification, or ASC, Topic 205-40, Presentation of Financial Statements - Going Concern, in order to determine whether there is substantial doubt about our ability to continue as a going concern for one year after the date our condensed financial statements are issued. Based on the current cash forecast, management has determined that our present capital resources will not be sufficient to fund our planned operations for at least one year from the issuance date of the condensed financial statements, which raises substantial doubt as to our ability to continue as a going concern. 27 The forecast of cash resources is forward-looking information that involves risks and uncertainties, and our actual cash requirements may vary materially from our current expectations for a number of other factors that may include, but are not limited to, the progress of our strategic review and the pursuit of and progress on one or more options identified in such review. Global political and economic events, including the war in Ukraine and increased inflation, have already resulted in a significant disruption of global financial markets. If the disruption persists and deepens, we could experience an inability to access additional capital or make the terms of any available financing less attractive, which could in the future negatively affect our operations. *If we are successful in completing a strategic transaction, we may be exposed to other operational and financial risks. Although there can be no assurance that a strategic transaction will result from the process we have undertaken to identify and evaluate strategic alternatives, the negotiation and consummation of any such transaction will require significant time on the part of our management, and the diversion of management’s attention may disrupt our business. The negotiation and consummation of any such transaction may also require more time or greater cash resources than we anticipate and expose us to other operational and financial risks, includin • increased near-term and long-term expenditures; • unknown liabilities; • higher than expected acquisition or integration costs; • incurrence of substantial debt or dilutive issuances of equity securities to fund future operations; • write-downs of assets or incurrence of non-recurring, impairment or other charges; • increased amortization expenses; • difficulty and cost in combining the operations and personnel of any counterparty business with our operations and personnel; • impairment of relationships with key suppliers or customers of any acquired business due to changes in management and ownership; • inability to retain key employees of our company or any acquired business; and • possibility of future litigation. Any of the foregoing risks could have a material adverse effect on our business, financial condition and prospects. *If a strategic transaction is not consummated, our Board of Directors may decide to pursue a dissolution and liquidation. In such an event, the amount of cash available for distribution to our stockholders will depend heavily on the timing of such liquidation as well as the amount of cash that will need to be reserved for commitments and contingent liabilities. There can be no assurance that a strategic transaction will be completed. If a strategic transaction is not completed, our Board of Directors may decide to pursue a dissolution and liquidation. In such an event, the amount of cash available for distribution to our stockholders will depend heavily on the timing of such decision and, with the passage of time the amount of cash available for distribution will be reduced as we continue to fund our operations. In addition, if our Board of Directors were to approve and recommend, and our stockholders were to approve, a dissolution and liquidation, we would be required under Delaware corporate law to pay our outstanding obligations, as well as to make reasonable provision for contingent and unknown obligations, prior to making any distributions in liquidation to our stockholders. As a result of this requirement, a portion of our assets may need to be reserved pending the resolution of such obligations and the timing of any such resolution is uncertain. In addition, we may be subject to litigation or other claims related to a dissolution and liquidation. If a dissolution and liquidation were pursued, our Board of Directors, in consultation with our advisors, would need to evaluate these matters and make a determination about a reasonable amount to reserve. Accordingly, holders of our common stock could lose all or a significant portion of their investment in the event of a liquidation, dissolution or winding up. *Our ability to consummate a strategic transaction depends on our ability to retain our employees required to consummate such transaction. Our ability to consummate a strategic transaction depends upon our ability to retain our employees required to consummate such a transaction, the loss of whose services may adversely impact the ability to consummate such transaction. In connection with the evaluation of strategic alternatives and in order to extend our resources, on August 14, 2023, we implemented a restructuring plan that included reducing our workforce by approximately 60%, with remaining employees focused on our hunTR TCR discovery platform. We estimate that such reduction in force will be substantially completed in August 2023. Our cash conservation activities may yield 28 unintended consequences, such as attrition beyond our planned reduction in workforce and reduced employee morale, which may cause remaining employees to seek alternative employment. Our ability to successfully complete a strategic transaction depends in large part on our ability to retain certain of our remaining personnel. If we are unable to successfully retain our remaining personnel, we are at risk of a disruption to our exploration and consummation of a strategic alternative as well as business operations. *Our corporate restructuring and the associated headcount reduction may not result in anticipated savings, could result in total costs and expenses that are greater than expected and could disrupt our business. On August 14, 2023, in connection with the evaluation of strategic alternatives and in order to extend its resources, our Board of Directors approved a restructuring plan, or the "Plan," that includes reducing our workforce by approximately 60%, with remaining employees primarily focused on our hunTR TCR discovery platform. In addition, the Plan includes a discontinuation of our clinical development programs and further prioritization of our resources as we assess strategic alternatives. We estimate that we will incur approximately $2.5 to $3.0 million for retention, severance and other employee termination-related costs in the third and fourth quarters of 2023. We may not realize, in full or in part, the anticipated benefits, savings and improvements in our cost structure from our restructuring efforts due to unforeseen difficulties, delays or unexpected costs. If we are unable to realize the expected operational efficiencies and cost savings from the restructuring, our operating results and financial condition would be adversely affected. Furthermore, the Plan may be disruptive to our operations. For example, our headcount reductions could yield unanticipated consequences, such as increased difficulties in implementing our business strategy, including retention of our remaining employees. Any employee litigation related to the headcount reduction could be costly and prevent management from fully concentrating on the business. Any future growth would impose significant added responsibilities on members of management, including the need to identify, recruit, maintain and integrate additional employees. Due to our limited resources, we may not be able to effectively manage our operations or recruit and retain qualified personnel, which may result in weaknesses in our infrastructure and operations, risks that we may not be able to comply with legal and regulatory requirements, and loss of employees and reduced productivity among remaining employees. For example, the workforce reduction may negatively impact our clinical, regulatory, technical operations, and commercial functions, should we choose to continue to pursue them, which would have a negative impact on our ability to successfully develop, and ultimately, commercialize our product candidates. Our future financial performance and our ability to develop our product candidates or additional assets will depend, in part, on our ability to effectively manage any future growth or restructuring, as the case may be. *We may become involved in litigation, including securities class action litigation, that could divert management’s attention and harm the Company’s business, and insurance coverage may not be sufficient to cover all costs and damages. In the past, litigation, including securities class action litigation, has often followed certain significant business transactions, such as the sale of a company or announcement of any other strategic transaction, or the announcement of negative events, such as negative results from clinical trials. These events may also result in investigations by the SEC or other governmental agencies. We may be exposed to such litigation even if no wrongdoing occurred. Litigation is usually expensive and diverts management’s attention and resources, which could adversely affect our business and cash resources and our ability to consummate a potential strategic transaction or the ultimate value our stockholders receive in any such transaction. RISKS RELATED TO OUR BUSINESS *We may identify material weaknesses in the future or otherwise fail to maintain an effective system of internal controls, which may result in material misstatements of our condensed financial statements or could have a material adverse effect on our business and trading price of our securities. We are subject to the reporting requirements of the Securities Exchange Act of 1934, as amended, or the Exchange Act, the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, and the rules and regulations of the Nasdaq Capital Market. Pursuant to Section 404 of the Sarbanes-Oxley Act, we are required to perform system and process evaluation and testing of our internal control over financial reporting to allow our management to report on the effectiveness of our internal control over financial reporting. We may also be required to have our independent registered public accounting firm issue an opinion on the effectiveness of our internal control over financial reporting on an annual basis. We have identified material weaknesses in our internal control over financial reporting in the past. A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of our condensed financial statements will not be prevented or detected on a timely basis. Although the material weaknesses identified in the past have been remediated, we cannot assure you that any measures we have taken or may take in the future will be sufficient to avoid potential future material weaknesses. If we are unable to successfully remediate any future material weakness and maintain effective internal controls, we may not have adequate, accurate or timely financial information, and we may be unable to meet our reporting obligations as a public company, including the requirements of the Sarbanes-Oxley Act, we may be unable to accurately report our financial results in future periods, or report them within the timeframes required 29 by the requirements of the SEC, Nasdaq or the Sarbanes-Oxley Act. Failure to comply with the Sarbanes-Oxley Act, when and as applicable, could also potentially subject us to sanctions or investigations by the SEC or other regulatory authorities. Any failure to maintain or implement required new or improved controls, or any difficulties we encounter in their implementation, could result in the identification of additional material weaknesses or significant deficiencies, cause us to fail to meet our reporting obligations or result in material misstatements in our condensed financial statements. Furthermore, if we cannot provide reliable financial reports or prevent fraud, our business and results of operations could be harmed and investors could lose confidence in our reported financial information. *The development and commercialization of non-viral adoptive TCR-T cell therapies could be considered a new approach to cancer treatment, the successful development of which is subject to significant challenges. We have employed technologies such as the technology licensed from MD Anderson pursuant to the MD Anderson License, described above, from Precigen, pursuant to the A&R License Agreement, and from NCI, pursuant to the Patent License described above, to pursue the development and commercialization of non-viral cellular therapies based on T-cells and TCRs, targeting solid tumor malignancy. Because this is a new approach to cancer immunotherapy and cancer treatment generally, developing and commercializing product candidates is subject to a number of challenges, includin • obtaining regulatory approval from the FDA and other regulatory authorities that have very limited experience with the commercial development of genetically modified T-cell therapies for cancer; • designing and conducting our clinical trials using this new approach or selecting the appropriate TCRs in a way that may lead to optimal results; • identifying and manufacturing appropriate TCRs from either the patient or third parties that can be administered to the patient; • developing and deploying consistent and reliable processes for engineering a patient’s and/or donor’s T-cells ex vivo and infusing the T cells back into the patient; • conditioning patients with chemotherapy in conjunction with delivery of the potential products, which may increase the risk of adverse side effects of the chemotherapy itself or of the potential products; • educating medical personnel regarding the potential side effect profile of each of the potential products, such as the potential adverse side effects related to cytokine release; • addressing any competing technological and market developments; • developing processes for the safe administration of these potential products, including long-term follow-up for all patients who receive the potential products; • sourcing additional clinical and, if approved, commercial supplies for the materials used to manufacture and process the potential products; • developing a manufacturing process with a cost of goods that allows for an attractive return on investment; • establishing sales and marketing capabilities after obtaining any regulatory approval to gain market acceptance; • developing therapies for types of cancers beyond those addressed by the current potential products; • maintaining and defending the intellectual property rights relating to any products we develop; and • not infringing the intellectual property rights, in particular, the patent rights, of third parties, including competitors, such as those developing T-cell therapies. Should we resume our clinical programs, we cannot assure you that we will be able to successfully address these challenges, which could prevent us from achieving our research, development and commercialization goals. In addition, these challenges may diminish the value of our assets in the execution of any strategic alternative. *Should we resume development of our product candidates, we will need to recruit, hire and retain qualified personnel. On August 14, 2023, we announced a Plan that included reducing our workforce by approximately 60%. We estimate that such reduction in force will be substantially completed in August 2023. Our cash conservation activities may yield unintended consequences, such as attrition beyond our planned reduction in workforce and reduced employee morale, which may cause remaining employees to seek alternative employment. The reduction includes employees responsible for key aspects of our clinical development program. 30 Should we in the future resume development of our product candidates, we may not be able to attract or retain qualified management and commercial, scientific, manufacturing and clinical personnel due to the intense competition for qualified personnel among biotechnology, pharmaceutical and other businesses. If we are not able to attract and retain necessary personnel to accomplish our business objectives, we may experience constraints that will significantly impede the achievement of our development objectives, our ability to raise additional capital and our ability to implement our business strategy. *Any termination of our licenses with Precigen, MD Anderson or the National Cancer Institute or our research and development agreements with MD Anderson and the National Cancer Institute could result in the loss of significant rights and could harm our ability to develop and commercialize our product candidates. Our clinical programs depend on patents, know-how, and proprietary technology that are licensed from others, particularly MD Anderson, Precigen, and the NCI, as well as the contributions by MD Anderson under our research and development agreements. Any termination of these licenses or research and development agreements could result in the loss of significant rights and could harm our ability to develop or monetize our product candidates. Disputes may also arise between us and these licensors regarding intellectual property subject to a license agreement, including those relating t • the scope of rights granted under the applicable license agreement and other interpretation-related issues; • whether and the extent to which our technology and processes, and the technology and processes of Precigen, MD Anderson, the NCI and our other licensors, infringe intellectual property of the licensor that is not subject to the applicable license agreement; • our right to sublicense patent and other rights to third parties pursuant to our relationships with our licensors and partners; • whether we are complying with our diligence obligations with respect to the use of the licensed technology in relation to our development and commercialization of our potential products under the MD Anderson License, the A&R License Agreement and our patent license agreement with the NCI; • whether or not our partners are complying with all of their obligations to support our programs under licenses and research and development agreements; and • the allocation of ownership of inventions and know-how resulting from the joint creation or use of intellectual property by our licensors and by us. If disputes over intellectual property that we have licensed prevent or impair our ability to maintain our current licensing arrangements, particularly with MD Anderson, Precigen and the NCI, on acceptable terms, we may be unable to successfully monetize the affected potential products. We are generally also subject to all of the same risks with respect to protection of intellectual property that we license as we are for intellectual property that we own. If we or our licensors fail to adequately protect this intellectual property, our ability to monetize potential products under our applicable licenses could suffer. There is a substantial amount of litigation involving patents and other intellectual property rights in the biotechnology and pharmaceutical industries, as well as administrative proceedings for challenging patents, including interference, derivation, and reexamination proceedings before the United States Patent and Trademark Office, or USPTO, or oppositions and other comparable proceedings in foreign jurisdictions. Recently, due to changes in U.S. law referred to as patent reform, new procedures including inter partes review and post-grant review have been implemented, which adds uncertainty to the possibility of challenge to our or our licensors’ patents in the future. We may not be able to retain the rights licensed to us and Precigen by MD Anderson or the rights licensed to us by the National Cancer Institute to technologies relating to TCR-T cell therapies and other related technologies. Under the MD Anderson License, we, together with Precigen, received an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR-T cell and TCR-T cell therapies as well as either co-exclusive or non-exclusive licenses under certain related technologies. These proprietary methods and technologies, along with others within Precigen's technology suite and licensed to us by Precigen, may help realize the promise of genetically modified TCR-T cell therapies by controlling cell expansion and activation in the body, minimizing off-target and unwanted on-target effects and toxicity while maximizing therapeutic efficacy. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term, we and Precigen shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After 10 years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if we and Precigen are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if we and Precigen are not meeting the diligence 31 requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by us or Precigen, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both us or Precigen and may be terminated by the mutual written agreement of us, Precigen and MD Anderson. Under the Patent License, we received an exclusive, worldwide license to certain intellectual property and patents from the NCI for TCRs we can introduce into T cells using transposon-based genetic engineering. These T cells may be used in our TCR-T Library Phase 1/2 Trial or in subsequent clinical trials, if initiated. The term of the Patent License shall expire with the last of the licensed patents. The NCI could terminate or modify the Patent License if it believes we have materially breached the Patent License, including by failing to meet the defined milestones by the required dates, and have not cured such breach within 90 days of receiving notice of such alleged breach. The NCI may also terminate the Patent License immediately upon our receipt of written notice of certain insolvency events. The Patent License is also subject to certain public use requirements wherein the NCI could require us to sublicense certain product candidates or terminate or modify the Patent License if we do not meet these public use requirements. The Patent License could also be terminated by the NCI if we are unable to pay the required benchmark payments or the annual minimum royalty payments. There can be no assurance that we will be able to successfully perform under the MD Anderson License or the Patent License and if the MD Anderson License or the Patent License is terminated it may prevent us from achieving our business objectives. *We have historically been partly reliant on the NCI for research and development and early clinical testing of certain of our product candidates and the termination of the CRADA gives the NCI certain rights thereunder. A portion of our research and development has been conducted by the NCI under the CRADA entered into in January 2017 and which was amended in March 2018, February 2019, March 2022 and June 2022. Under the CRADA, the NCI, with Dr. Steven A. Rosenberg as the principal investigator, has been responsible for conducting a clinical trial using the Sleeping Beauty system to express TCRs for the treatment of solid tumors. The CRADA expired by its terms on January 9, 2022. In March 2022, we entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. In June 2022, we entered into the Fourth Amendment to the CRADA, or the CRADA Fourth Amendment, which, among other things, extended the term of the CRADA until January 9, 2025. On August 14, 2023, we announced a strategic reprioritization to focus on the development of our hunTR TCR discovery platform and wind down of our TCR-T Library Phase 1/2 Trial. In connection with the reprioritization, we announced that we had provided the requisite notice to NCI to terminate the CRADA, pursuant to its terms, effective October 13, 2023. The termination of the CRADA would make it difficult to resume development of our product candidates, should we in the future consider doing so. Our unilateral termination gives the NCI certain rights under the CRADA. Specifically, it provides for (i) the NCI to receive any costs incurred for which we have not previously reimbursed it and reasonable termination costs; (ii) the option for the NCI to retain any funds we transferred to it for use in completing the research plan, as specified in the CRADA; and (iii) the NCI to receive sufficient quantities of materials to complete the research plan, as specified in the CRADA. In addition, under specified circumstances, we may be required to provide funding for NCI personnel costs for up to six months after the termination date. Furthermore, under specified circumstances, we may be required to transfer the NCI all necessary information to contract for materials to complete the research plan, as specified in the CRADA, and the NCI will receive a nonexclusive, irrevocable, world-wide, paid-up license to practice, for or on behalf of the government for the products described in the schedules of the CRADA. *Should we resume development of our product candidates, we may not be able to commercialize them, generate significant revenues, or attain profitability. To date, none of our product candidates have been approved for commercial sale in any country. The process to develop, obtain regulatory approval for, and commercialize potential product candidates is long, complex and costly. Unless and until we receive approval from the FDA and/or other foreign regulatory authorities for our product candidates, we cannot sell our products and will not have product revenues. Even if we obtain regulatory approval for one or more of our product candidates, if we are unable to successfully commercialize our products, we may not be able to generate sufficient revenues to achieve or maintain profitability or to continue our business without raising significant additional capital, which may not be available. Our failure to achieve or maintain profitability could negatively impact the trading price of our common stock. *Our operating history makes it difficult to evaluate our business and prospects. We have not previously completed any pivotal clinical trials, submitted a BLA or demonstrated an ability to perform the functions necessary for the successful commercialization of any product candidates. If we resume development of our product candidates, successful commercialization of any product candidates will require us to perform a variety of functions, includin • Continuing to undertake preclinical development and clinical trials; 32 • Participating in regulatory approval processes; • Formulating and manufacturing products; and • Conducting sales and marketing activities. Our operations have been limited to organizing and staffing our company, acquiring, developing and securing our proprietary product candidates and undertaking preclinical and clinical trials of our product candidates. These operations provide a limited basis for you to assess our ability to commercialize our product candidates and the advisability of investing in our securities. *Our business subjects us to the risk of liability claims associated with the use of hazardous materials and chemicals. Our contract research and development activities have involved and may in the future involve the controlled use of hazardous materials and chemicals. Although we believe that our safety procedures for using, storing, handling and disposing of these materials comply with federal, state and local laws and regulations, we cannot completely eliminate the risk of accidental injury or contamination from these materials. In the event of such an accident, we could be held liable for any resulting damages, and any liability could have a materially adverse effect on our business, financial condition, and results of operations. In addition, the federal, state and local laws and regulations governing the use, manufacture, storage, handling and disposal of hazardous or radioactive materials and waste products may require our contractors to incur substantial compliance costs that could materially adversely affect our business, financial condition and results of operations. We may incur substantial liabilities and may be required to limit commercialization of our products in response to product liability lawsuits. The testing and marketing of medical products entail an inherent risk of product liability, and we will face an even greater risk if we commercially sell any medicines that we may develop. If we cannot successfully defend ourselves against product liability claims, we may incur substantial liabilities or be required to limit commercialization of our products, if approved. Even a successful defense would require significant financial and management resources. Regardless of the merit or eventual outcome, liability claims may result in: • Decreased demand for our product candidates; • Injury to our reputation; • Withdrawal of clinical trial participants; • Initiation of investigations by regulators; • Withdrawal of prior governmental approvals; • Costs of related litigation; • Substantial monetary awards to patients; • Product recalls; • Loss of revenue; • The inability to commercialize our product candidates; and • A decline in our share price. Although we currently carry clinical trial insurance and product liability insurance which we believe to be reasonable, it may not be adequate to cover all liability that we may incur. An inability to renew our policies or to obtain sufficient insurance at an acceptable cost could prevent or inhibit the commercialization of pharmaceutical products that we develop, alone or with collaborators. *Business disruptions could seriously harm our future revenue and financial condition and increase our costs and expenses. Our operations, and those of our clinical investigators, contractors and consultants, are based primarily in Houston, Texas. These operations could be subject to power shortages, telecommunications failures, water shortages, hurricanes, floods, earthquakes, fires, extreme weather conditions, medical epidemics and other natural or man-made disasters or business interruptions, for which we maintain customary insurance policies that we believe are appropriate. The occurrence of any of these business disruptions could seriously harm our operations and financial condition and increase our costs and expenses. 33 *We rely significantly on information technology and any failure, inadequacy, interruption or security lapse of that technology or loss of data, including any cyber security incidents, could compromise sensitive information related to our business, prevent us from accessing critical information or expose us to liability which could harm our ability to operate our business effectively and adversely affect our business and reputation. In the ordinary course of our business, we, our CROs and other third parties on which we rely collect and store sensitive data, including legally protected patient health information, personally identifiable information about our employees, intellectual property, and proprietary business information. We manage and maintain our applications and data utilizing on-site systems. These applications and data encompass a wide variety of business-critical information including research and development information and business and financial information. The secure processing, storage, maintenance and transmission of this critical information is vital to our operations and business strategy. Despite the implementation of security measures, our internal computer systems and those of third parties with which we contract are vulnerable to damage from cyber-attacks, computer viruses, breaches, unauthorized access, interruptions due to employee error or malfeasance or other disruptions, or damage from natural disasters, terrorism, war and telecommunication and electrical failures. Any such event could compromise our networks and the information stored there could be accessed by unauthorized parties, publicly disclosed, lost or stolen. Although we have measures in place that are designed to detect and respond to such security incidents and breaches of privacy and security mandates, we cannot guarantee that those measures will be successful in preventing any such security incident. Any such access, disclosure or other loss of information could result in legal claims or proceedings, liability under laws that protect the privacy of personal information, government enforcement actions and regulatory penalties. Such legal claims or proceedings, liability or government enforcement actions may make it more difficult to consummate opportunities presented to us during our search for a strategic alternative. Unauthorized access, loss or dissemination could also disrupt our operations, including our ability to conduct research, development and commercialization activities, process and prepare Company financial information, manage various general and administrative aspects of our business and damage our reputation, in addition to possibly requiring substantial expenditures of resources to remedy, any of which could adversely affect our business. In addition, there can be no assurance that we will promptly detect any such disruption or security breach, if at all. If the technology supporting our hunTR discovery engine were to experience a cyber-incident resulting in the disclosure or theft of our proprietary screening software or library of TCRs, its value may decrease and our business, or ability to consummate a strategic transaction, may be materially and negatively impacted. While we are not aware of any such material system failure, accident or security breach to date, to the extent that any disruption or security breach were to result in a loss of, or damage to, our data or applications, or inappropriate disclosure of confidential or proprietary information, we could incur liability and our search for a strategic alternative negatively impacted. *Adverse developments affecting the financial services industry, such as actual events or concerns involving liquidity, defaults, or non-performance by financial institutions or transactional counterparties, could adversely affect the Company's current and projected business operations and its financial condition and results of operations. Actual events involving reduced or limited liquidity, defaults, non-performance or other adverse developments that affect financial institutions or other companies in the financial services industry or the financial services industry generally, or concerns or rumors about any events of these kinds, have in the past and may in the future lead to market-wide liquidity problems. For example, in March and May of 2023, Silicon Valley Bank was closed by the California Department of Financial Protection and Innovation, Signature Bank was closed by New York’s Department of Financial Services and First Republic Bank was closed by the California Department of Financial Protection and Innovation, and in each case the Federal Deposit Insurance Corporation was appointed as receiver. Investor concerns regarding the U.S. or international financial systems could result in less favorable commercial financing terms, including higher interest rates or costs and tighter financial and operating covenants, or systemic limitations on access to credit and liquidity sources, thereby making it more difficult for us to acquire financing on acceptable terms or at all. Any decline in available funding or access to our cash and liquidity resources could, among other risks, adversely impact our ability to meet our operating expenses, financial obligations or fulfill our other obligations, or result in breaches of our financial and/or contractual obligations. Any of these impacts, or any other impacts resulting from the factors described above or other related or similar factors not described above, could have material adverse impacts on our liquidity and our current and/or projected business operations and financial condition and results of operations. RISKS RELATED TO THE CLINICAL TESTING, GOVERNMENT REGULATION AND MANUFACTURING OF OUR PRODUCT CANDIDATES *Should we resume development of our product candidates, we may encounter difficulties enrolling patients in our clinical trials, and our clinical development activities could be delayed or otherwise adversely affected. We have experienced, and may in the future experience, difficulties in patient enrollment in our TCR-T Library Phase 1/2 Trial and any future clinical trials for a variety of reasons, including impacts that resulted from the COVID-19 pandemic. The timely completion 34 of clinical trials in accordance with their protocols depends on, among other things, our ability to enroll a sufficient number of patients who remain in the clinical trial until its conclusion. The enrollment of patients depends on many factors, includin • Our reputation as a result of halting our ongoing clinical development; • The patient eligibility criteria defined in the clinical trial protocol; • The size of the patient population required for analysis of the clinical trial’s primary endpoints; • The proximity of patients to clinical trial sites; • The number of clinical trial sites; • The design of the clinical trial; • Our ability to recruit and retain clinical trial investigators with the appropriate competencies and experience; • Our ability to obtain and maintain patient consents; • Reporting of the preliminary results of any of our clinical trials; • Patient insurance approvals of trial participation; and • The risk that patients enrolled in clinical trials will drop out of the clinical trials before the manufacturing and infusion of our product candidates or clinical trial completion. Our clinical trials compete with other clinical trials for product candidates that are in the same therapeutic areas as our product candidates, and this competition reduces the number and types of patients available to us because some of our potential patients may instead opt to enroll in a clinical trial being conducted by one of our competitors. In addition, patients may be unwilling to participate in our studies because of negative publicity from adverse events in the biotechnology industry or for other reasons. Since the number of qualified clinical investigators is limited, we expect to conduct some of our clinical trials at the same clinical trial sites that some of our competitors use if we resume development of our product candidates, which will reduce the number of patients who are available for our clinical trials at such clinical trial sites. Moreover, because our product candidates represent a departure from more commonly used methods for cancer treatment, potential patients and their doctors may be inclined to use conventional therapies, such as chemotherapy and hematopoietic stem cell transplantation, rather than enroll patients in any future clinical trial. Additionally, because our product candidates address patients with relapsed/refractory cancer, the patients are typically in the late stages of their disease and may experience disease progression independent from our product candidates, making them unevaluable for purposes of the clinical trial, which would require additional patient enrollment. Delays in completing patient enrollment may result in increased costs or may affect the timing or outcome of our ongoing and planned clinical trials, which could prevent completion or commencement of these clinical trials and adversely affect our ability to advance the development of our product candidates. *Our product candidates are subject to extensive regulation and compliance, which is costly and time consuming, and such regulation may cause unanticipated delays or prevent the receipt of the required approvals to commercialize our product candidates, should we resume development. The clinical development, manufacturing, labeling, packaging, storage, record-keeping, advertising, promotion, import, export, marketing, distribution and adverse event reporting, including the submission of safety and other information, of our product candidates are subject to extensive regulation by the FDA in the United States and by comparable foreign regulatory authorities in foreign markets. The process of obtaining regulatory approval is expensive and often takes many years following the commencement of clinical trials. Approval policies or regulations may change, and the FDA has substantial discretion in the drug approval process, including the ability to delay, limit or deny approval of a product candidate for many reasons. Regulatory approval is never guaranteed. Prior to obtaining approval to commercialize a product candidate in the United States or abroad, we or our collaborators must demonstrate with substantial evidence from adequate and well-controlled clinical trials, and to the satisfaction of the FDA or comparable foreign regulatory authorities, that such product candidates are safe and effective, or with respect to a biological product candidate, safe, pure and potent, for their intended uses. The FDA or comparable foreign regulatory authorities can delay, limit or deny approval of a product candidate for many reasons, includin • Such authorities may disagree with the design or implementation of our or our collaborators’ clinical trials; • Negative or ambiguous results from our clinical trials or results may not meet the level of statistical significance required by the FDA or comparable foreign regulatory agencies for approval; 35 • Serious and unexpected drug-related side effects may be experienced by participants in our clinical trials or by individuals using drugs or biologics similar to our therapeutic product candidates; • Such authorities may not accept clinical data from trials which are conducted at clinical facilities or in countries where the standard of care is potentially different from that of the United States; • We, or any of our collaborators, may be unable to demonstrate that a product candidate is safe and effective, and that the therapeutic product candidate’s clinical and other benefits outweigh its safety risks; • We may be unable to demonstrate to the satisfaction of such authorities that our companion diagnostics are suitable to identify appropriate patient populations; • Such authorities may disagree with our interpretation of data from preclinical studies or clinical trials; • Such authorities may not agree that the data collected from clinical trials of our product candidates are acceptable or sufficient to support the submission of a BLA, New Drug Application, premarket approval, or PMA, or other submission or to obtain regulatory approval in the United States or elsewhere, and such authorities may impose requirements for additional preclinical studies or clinical trials; • Such authorities may disagree regarding the formulation, labeling and/or the specifications of our product candidates; • Approval may be granted only for indications that are significantly more limited than what we apply for and/or with other significant restrictions on distribution and use; • Such authorities may find deficiencies in the manufacturing processes, test procedures and specifications or facilities of our third-party manufacturers with which we or any of our current or future collaborators contract for clinical and commercial supplies; • Regulations and approval policies of such authorities may significantly change in a manner rendering our or any of our potential future collaborators’ clinical data insufficient for approval; or • Such authorities may not accept a submission due to, among other reasons, the content or formatting of the submission. This lengthy approval process, as well as the unpredictability of the results of clinical trials, may result in our failing to obtain regulatory approval to market any of our product candidates, which would significantly harm our business, results of operations and prospects. In addition, even if we obtain regulatory approval of our product candidates, regulatory authorities may approve any of our product candidates for fewer or more limited indications than we request and may impose significant limitations in the form of narrow indications, warnings, or a Risk Evaluation and Mitigation Strategy, or REMS. Events raising questions about the safety of certain marketed biopharmaceuticals may result in increased cautiousness by the FDA and comparable foreign regulatory authorities in reviewing new drugs or biologics based on safety, efficacy or other regulatory considerations and may result in significant delays in obtaining regulatory approvals. Any delay in obtaining, or inability to obtain, applicable regulatory approvals would prevent us or any of our potential future collaborators from commercializing our product candidates. *We have halted development of our product candidates very early in our development efforts. Our most advanced product candidates are only in an early-stage clinical trial, which is very expensive and time-consuming. We cannot be certain if or when we will be able to submit a BLA to the FDA and any failure or delay in completing clinical trials for our product candidates could harm our business. Our product candidates are in various stages of development and require extensive clinical testing. Our most advanced product candidates are in our TCR-T Library Phase 1/2 Trial. Human clinical trials are very expensive and difficult to design, initiate and implement, in part because they are subject to rigorous regulatory requirements. Failure can occur at any stage of a clinical trial, and we can encounter problems that cause us to delay the start of, abandon or repeat clinical trials. Some factors which may lead to a delay in the commencement or completion of our clinical trials, if resumed, inclu requests for additional nonclinical data from regulators, unforeseen safety issues, dosing issues, lack of effectiveness during clinical trials, difficulty recruiting or monitoring patients, or difficulty manufacturing clinical products, among other factors. As they enter later stages of development, product candidates generally will become subject to more stringent regulatory requirements, including the FDA’s requirements for chemistry, manufacturing and controls for product candidates entering Phase 3 clinical trials. There is no guarantee the FDA will allow us or any potential licensee to commence Phase 3 clinical trials for product candidates studied in earlier clinical trials. If the FDA does not allow our product candidates to enter later stage clinical trials or requires changes to the formulation or manufacture of our product candidates before commencing Phase 3 clinical trials, the ability to further develop, or seek approval for, such product candidates may be materially impacted. As such, we cannot predict with any certainty if or when we might submit a 36 BLA for regulatory approval of our product candidates or whether such a BLA will be accepted. Because we do not anticipate generating significant revenues unless and until we submit one or more BLAs and thereafter obtain requisite FDA approvals, the timing of our BLA submissions and FDA determinations regarding approval thereof will directly affect if and when we are able to generate significant revenues. In addition, we have halted development of our product candidates. There is an additive degree of risk to any development program that is paused because the time to restart the program and the associated expense may be longer and more costly than previously anticipated. It may also not be possible to restart the program altogether. *Our product candidates may cause undesirable side effects or have other properties that could delay or prevent their regulatory approval, limit the commercial profile of an approved label or result in significant negative consequences following any potential marketing approval. As with many pharmaceutical and biological products, treatment with our product candidates may produce undesirable side effects or adverse reactions or events, including potential adverse side effects related to cytokine release. If our product candidates or similar products or product candidates under development by third parties demonstrate unacceptable adverse events, we may be required to halt or delay further clinical development of our product candidates, should we resume it. The FDA or foreign regulatory authorities could order us to cease further development of or deny approval of our product candidates for any or all targeted indications. If a serious adverse event were to occur in a trial, the FDA may place a hold on the clinical trial. The product-related side effects could affect patient recruitment or the ability of enrolled patients to resume and complete the trial or result in potential product liability claims. In addition, these side effects may not be appropriately or timely recognized or managed by the treating medical staff, particularly outside of the institutions that collaborate with us, as toxicities resulting from our novel technologies may not be normally encountered in the general patient population and by medical personnel. Should we resume product development or begin commercialization, we expect to have to train medical personnel using our product candidates to understand their side effect profiles. Inadequate training in recognizing or managing the potential side effects of our product candidates could result in adverse effects to patients, including death. Additionally, if one or more of our product candidates receives marketing approval, and we or others later identify undesirable side effects caused by such products, including during any long-term follow-up observation period recommended or required for patients who receive treatment using our product candidates, a number of potentially significant negative consequences could result, includin • regulatory authorities may withdraw approvals of such product; • regulatory authorities may require additional warnings on the product’s label; • we may be required to create a risk evaluation and mitigation strategy plan, which could include a medication guide outlining the risks of such side effects for distribution to patients, a communication plan for healthcare providers and/or other elements to assure safe use; • we could be sued and held liable for harm caused to patients; and • our reputation may suffer. Any of the foregoing could prevent us from achieving or maintaining market acceptance of the particular product candidate, if approved. Furthermore, any of these occurrences may harm our business, financial condition and prospects significantly. *Our cellular therapy immuno-oncology product candidates rely on the availability of reagents, specialized equipment and other specialty materials and infrastructure, which may not be available to us on acceptable terms or at all. For some of these reagents, equipment and materials, we rely or may rely on sole source vendors or a limited number of vendors, which could impair our ability to manufacture and supply our products, should we resume these activities. Manufacturing our product candidates requires many reagents, which are substances used in our manufacturing processes to bring about chemical or biological reactions, and other specialty materials and equipment, some of which are manufactured or supplied by small companies with limited resources and experience to support commercial biologics production. We have depended on a limited number of vendors for certain materials and equipment used in the manufacture of our product candidates, including DNA plasmids, which we used as the vector to insert our TCRs into human T cells. Some of these suppliers may not have the capacity to support commercial products manufactured under current good manufacturing practices by biopharmaceutical firms or may otherwise be ill-equipped to support our needs. We also do not have supply contracts with some of these suppliers and may not be able to obtain supply contracts with them on acceptable terms or at all. Accordingly, we may experience delays in receiving key materials and equipment to support clinical or commercial manufacturing, should we resume those activities. For some of these reagents, equipment, infrastructure, and materials, we may rely on sole source vendors or a limited number of vendors. An inability to source product from any of these suppliers, or source product on commercially reasonable terms, which could be due to, among other things, regulatory actions or requirements affecting the supplier, adverse financial or other strategic 37 developments experienced by a supplier, labor disputes or shortages, unexpected demands, supply chain issues or quality issues, could adversely affect our ability to satisfy demand for our product candidates, which could adversely and materially affect our ability to conduct clinical trials, should we resume them, which could significantly harm our business. In addition, some of the reagents and products used by us may be stored at a single vendor. The loss of materials located at a single vendor, or the failure of such a vendor to manufacture clinical product in accordance with our specifications, would impact our ability to conduct clinical trials and continue the development of our products, should we resume it. Further, manufacturing replacement material may be expensive and require a significant amount of time, which may further impact our clinical programs. If we resume developing and scaling our manufacturing process, we expect that we will need to obtain additional rights to and supplies of certain materials and equipment to be used as part of that process. We may not be able to maintain rights to such materials on commercially reasonable terms, or at all, and if we are unable to alter our process in a commercially viable manner to avoid the use of such materials or find a suitable substitute, it would have a material adverse effect on our business. Even if we are able to alter our process so as to use other materials or equipment, such a change may lead to a delay in clinical development and/or commercialization plans. If such a change occurs for a product candidate that is already in clinical trials, the change may require us to perform both ex vivo comparability studies and to collect additional data from patients prior to undertaking more advanced clinical trials. *We have limited experience producing and supplying our product candidates. We may be unable to consistently manufacture our product candidates to the necessary specifications or in quantities necessary to treat patients in clinical trials, should we resume the activities. We have limited experience in biopharmaceutical manufacturing. In 2021, we began manufacturing our product candidates at our in-house current good manufacturing practices, or cGMP, manufacturing facility at our leased headquarters in Houston, Texas. In connection with our exploration of strategic alternatives, we have halted manufacturing of our product candidates and eliminated positions relating to the same. Accordingly, should we elect to in the future, our ability to resume manufacturing our product candidates will depend on our hiring and retaining personnel with the appropriate background and training to staff and operate the facility on a daily basis. Should we be unable to hire or retain these individuals, we may need to train additional personnel to fill the needed roles or engage with external contractors. There are a small number of individuals with experience in cell therapy and the competition for these individuals is high. Specifically, the operation of a cell-therapy manufacturing facility is a complex endeavor requiring knowledgeable individuals who have successful previous experience in cleanroom environments. Cell therapy facilities, like other biological agent manufacturing facilities, require appropriate commissioning and validation activities to demonstrate that they operate as designed. Additionally, each manufacturing process must be proven through the performance of process validation runs to guarantee that the facility, personnel, equipment, and process work as designed. Although we have developed our own manufacturing processes using an in-house team, there is timing risk associated with increased in-house product manufacture. The manufacture of our product candidates is complex and requires significant expertise and capital investment, including the development of advanced manufacturing techniques and process controls. Manufacturers of cell therapy products often encounter difficulties in production, particularly in scaling out and validating initial production and ensuring the absence of contamination. These include difficulties with production costs and yields, quality control, including stability of the product, quality assurance testing, operator error, shortages of qualified personnel, as well as compliance with strictly enforced federal, state and foreign regulations. Furthermore, if contaminants are discovered in our supply of product candidates or in our manufacturing facilities, the manufacturing facilities may need to be closed for an extended period to investigate and remedy the contamination. It is possible that stability or other issues relating to the manufacture of our product candidates could occur in the future. We recently amended our clinical trial IND to use cryopreservation-based storage of clinical products. This process is new and we may experience manufacturing failures or difficulties producing sufficient quantities of our clinical products as a result of this change. Our product candidates have been manufactured on a patient-by-patient basis. Delays in manufacturing could adversely impact the treatment of each patient and may discourage participation in clinical trials. We have not manufactured our clinical trial product candidates on a large scale and may not be able to achieve large scale clinical trial or commercial manufacturing and processing on our own to satisfy expected clinical trial or commercial demands for any of our product candidates, should development resume in the future. The manufacturing processes employed by us may not result in product candidates that will be safe and effective. If we are unable to manufacture sufficient number of TCR-T cells for our product candidates, development efforts would be delayed, which would adversely affect our business and prospects. Manufacturing operations are subject to review and oversight by the FDA. If we maintain manufacturing operations, we will be subject to ongoing periodic unannounced inspection by the FDA, the Drug Enforcement Administration and corresponding state agencies to ensure strict compliance with cGMP and other government regulations. Our license to manufacture product candidates is subject to continued regulatory review. 38 We do not yet have sufficient information to reliably estimate the cost of commercial manufacturing and processing of our product candidates. The actual cost to manufacture and process our product candidates could materially and adversely affect the commercial viability of our product candidates. As a result, we may never be able to develop a commercially viable product. We also may fail to manage the logistics of collecting and shipping patient material to our manufacturing site and shipping the product candidate back to the patient. Logistical and shipment delays and problems, whether or not caused by us or our vendors, could prevent or delay the delivery of product candidates to patients. *We may have difficulty validating our manufacturing process as we manufacture our product candidates from an increasingly diverse patient population for our clinical trials, should we resume these activities. During our development of the manufacturing process, our TCR-T cell product candidates have demonstrated consistency from lot to lot and from donor to donor. However, our sample size is small and the starting material used during our preclinical development work came from healthy donors. If our development work is continued, we may encounter unforeseen difficulties due to starting with material from donors who are not healthy, including challenges inherent in harvesting white blood cells from unhealthy patients. Although we believe our manufacturing process is scalable for clinical development and commercialization, if any of our product candidates are approved or commercialized, we may encounter challenges in validating our process due to the heterogeneity of the product starting material. We cannot guarantee that any other issues relating to the heterogeneity of the starting material will not impact our ability to commercially manufacture our product candidates. *The gene transfer vectors from our Sleeping Beauty system used to manufacture our product candidates may incorrectly modify the genetic material of a patient’s T cells, potentially triggering the development of a new cancer or other adverse events. Our TCR-T cells are manufactured using our Sleeping Beauty system, a non-viral vector to insert genetic information encoding the TCR construct into the patient’s T cells. The TCR construct is then primarily integrated at thymine-adenine, or TA, dinucleotide sites throughout the patient’s genome and, once expressed as protein, is transported to the surface of the patient’s T cells. Because the gene transfer vector modifies the genetic information of the T cell, there is a theoretical risk that modification will occur in the wrong place in the T cell’s genetic code, leading to vector-related insertional oncogenesis, and causing the T cell to become cancerous. If the cancerous T cell is then administered to the patient, the cancerous T cell could trigger the development of a new cancer in the patient. We use non-viral vectors to insert genetic information into T cells, which we believe have a lower risk of insertional oncogenesis as opposed to viral vectors. However, the risk of insertional oncogenesis remains a concern for gene therapy, and we cannot assure you that it will not occur in any clinical trials of our product candidates. There is also the potential risk of delayed adverse events following exposure to gene therapy products due to persistent biological activity of the genetic material or other components of the vectors used to carry the genetic material. Although our product candidates use non-viral vectors, the FDA has stated that lentiviral vectors possess characteristics that may pose high risks of delayed adverse events. If any such adverse events occur from our non-viral vector, preclinical studies or clinical trials could be halted or delayed, which would have a material adverse effect on our business and operations. *Should we resume development of our product candidates, any product candidate for which we obtain marketing approval could be subject to post-marketing restrictions or withdrawal from the market and we may be subject to penalties if we fail to comply with regulatory requirements or if we experience unanticipated problems with our products, when and if any of them are approved. Any product candidate for which we obtain marketing approval, along with the manufacturing processes, post-approval clinical data, labeling, advertising and promotional activities for such product, will be subject to continual requirements of and review by the FDA and other regulatory authorities. These requirements include, among other things, submissions of safety and other post-marketing information and reports, registration and listing requirements, cGMP requirements relating to manufacturing, quality control, quality assurance and corresponding maintenance of records and documents, requirements regarding the distribution of samples to physicians and recordkeeping. Even if marketing approval of a product candidate is granted, the approval may be subject to limitations on the indicated uses for which the product may be marketed or to the conditions of approval, including the requirement to implement a REMS, which could include requirements for a restricted distribution system. If any of our product candidates receives marketing approval, the accompanying label may limit the approved uses, which could limit sales of the product. The FDA may also impose requirements for costly post-marketing studies or clinical trials and surveillance to monitor the safety or efficacy of our approved products. The FDA closely regulates the post-approval marketing and promotion of products to ensure that they are marketed only for the approved indications and in accordance with the provisions of the approved labeling. However, companies may share truthful and not misleading information that is otherwise consistent with the labeling. The FDA imposes stringent restrictions on manufacturers’ communications regarding off-label use and if we market our products outside of their approved indications, we may be subject to enforcement action for off-label marketing. Violations of the Federal Food, Drug and Cosmetic Act relating to the promotion of prescription drugs may lead to investigations alleging violations of federal and state health care fraud and abuse laws, as well as state consumer protection laws. 39 In addition, later discovery of previously unknown adverse events or other problems with our product candidates, manufacturers or manufacturing processes, or failure to comply with regulatory requirements, may yield various results, includin • Litigation involving patients taking our product; • Restrictions on such products, manufacturers or manufacturing processes; • Restrictions on the labeling or marketing of a product; • Restrictions on product distribution or use; • Requirements to conduct post-marketing studies or clinical trials; • Warning letters; • Withdrawal of the products from the market; • Refusal to approve pending applications or supplements to approved applications that we submit; • Recall of products; • Fines, restitution or disgorgement of profits or revenues; • Suspension or withdrawal of marketing approvals; • Damage to relationships with existing and potential collaborators; • Unfavorable press coverage and damage to our reputation; • Refusal to permit the import or export of our products; • Product seizure; and • Injunctions or the imposition of civil or criminal penalties. Noncompliance with requirements regarding safety monitoring or pharmacovigilance can also result in significant financial penalties. Similarly, failure to comply with U.S. and foreign regulatory requirements regarding the development of products for pediatric populations and the protection of personal health information can also lead to significant penalties and sanctions. RISKS RELATED TO OUR ABILITY TO COMMERCIALIZE OUR PRODUCT CANDIDATES If we are unable to obtain the necessary U.S. or worldwide regulatory approvals to commercialize any product candidate, our business will suffer. We may not be able to obtain the approvals necessary to commercialize our product candidates, or any product candidate that we may acquire or develop in the future for commercial sale. We will need FDA approval to commercialize our product candidates in the United States and approvals from regulatory authorities in foreign jurisdictions equivalent to the FDA to commercialize our product candidates in those jurisdictions. In order to obtain FDA approval of any product candidate, we must submit to the FDA a BLA demonstrating that the product candidate is safe for humans and effective for its intended use. This demonstration requires significant research and animal tests, which are referred to as preclinical studies, as well as human tests, which are referred to as clinical trials. Satisfaction of the FDA’s regulatory requirements typically takes many years, depending upon the type, complexity and novelty of the product candidate, and will require substantial resources for research, development and testing. We cannot predict whether our research, development, and clinical approaches will result in products that the FDA will consider safe for humans and effective for their intended uses. The FDA has substantial discretion in the approval process and may require us to conduct additional preclinical studies and clinical trials or to perform post-marketing studies. The approval process may also be delayed by changes in government regulation, future legislation or administrative action or changes in FDA policy that occur prior to or during our regulatory review. Delays in obtaining regulatory approvals may: • Delay commercialization of, and our ability to derive product revenues from, our product candidates; • Impose costly procedures on us; and • Diminish any competitive advantages that we may otherwise enjoy. Even if we comply with all FDA requests, the FDA may ultimately reject one or more of our BLAs. We cannot be sure that we will ever obtain regulatory approval for any of our product candidates. Failure to obtain FDA approval for our product candidates will severely undermine our business by leaving us without a marketable product, and therefore without any potential revenue source, until another product candidate can be developed. There is no guarantee that we will ever be able to develop or acquire another product candidate or that we will obtain FDA approval if we are able to do so. 40 In foreign jurisdictions, we similarly must receive approval from applicable regulatory authorities before we can commercialize any of our product candidates. Foreign regulatory approval processes generally include all of the risks associated with the FDA approval procedures described above. If we are unable either to create sales, marketing and distribution capabilities or enter into agreements with third parties to perform these functions, we will be unable to commercialize our product candidates successfully. We currently have no marketing, sales, or distribution capabilities. If, and when we become reasonably certain that we will be able to commercialize our product candidates, we anticipate allocating resources to the marketing, sales and distribution of our proposed products in North America and in certain other geographies; however, we cannot assure that we will be able to market, sell, and distribute our products successfully. Our future success also may depend, in part, on our ability to enter into and maintain collaborative relationships for such capabilities and to encourage the collaborator’s strategic interest in the product candidates under development, and such collaborator’s ability to successfully market and sell any such products. Although we intend to pursue certain collaborative arrangements regarding the sale and marketing of certain of our product candidates, there are no assurances that we will be able to establish or maintain collaborative arrangements or, if we are able to do so, whether we would be able to conduct our own sales efforts. There can also be no assurance that we will be able to establish or maintain relationships with third-party collaborators or develop in-house sales and distribution capabilities. To the extent that we depend on third parties for marketing and distribution, any revenues we receive will depend upon the efforts of such third parties, and there can be no assurance that such efforts will be successful. In addition, there can also be no assurance that we will be able to market and sell our product candidates in the United States or overseas. If we are not able to partner with a third party and are not successful in recruiting sales and marketing personnel or in building a sales and marketing infrastructure, we will have difficulty commercializing our product candidates, which would harm our business. If we rely on pharmaceutical or biotechnology companies with established distribution systems to market our products, we will need to establish and maintain partnership arrangements, and we may not be able to enter into these arrangements on acceptable terms or at all. To the extent that we enter into co-promotion or other arrangements, any revenues we receive will depend upon the efforts of third parties that may not be successful and that will be only partially in our control. *If physicians and patients do not accept and use our product candidates, once approved, our ability to generate revenue from sales of our products will be materially impaired. Even if the FDA and/or foreign equivalents thereof approve our product candidates, physicians and patients may not accept and use them. The use of engineered T cells as potential cancer treatments is a relatively recent development and may not become broadly accepted by physicians, patients, hospitals, cancer treatment centers, third-party payors and others in the medical community. Acceptance and use of our products will depend upon a number of factors, includin • The clinical indications for which our product candidates are approved; • Perceptions by members of the healthcare community, including physicians, about the safety and effectiveness of our products; • The prevalence and severity of any side effects; • Pharmacological benefit and cost-effectiveness of our products relative to competing products; • Relative convenience and ease of administration, including as compared to alternative treatments and competitive therapies; • Availability of coverage and adequate reimbursement for our products from government or other third-party payors; • Effectiveness of marketing and distribution efforts by us and our licensees and distributors, if any; and • The price at which we sell our products. Even if our products achieve market acceptance, we may not be able to maintain that market acceptance over time if new products or technologies are introduced that are more favorably received than our products, are more cost effective or render our products obsolete. Our ability to generate product revenues will be diminished if our products do not obtain coverage and adequate reimbursement from payors. Our ability to commercialize our product candidates, if approved, alone or with collaborators, will depend in part on the extent to which coverage and reimbursement will be available from third-party payors, including government and health administration authorities, private health maintenance organizations and health insurers and other payors. Patients who are prescribed medicine for the treatment of their conditions generally rely on third-party payors to reimburse all or part of the costs associated with their prescription drugs. Sufficient coverage and adequate reimbursement from third-party payors are critical to new product acceptance. 41 Coverage decisions may depend upon clinical and economic standards that disfavor new drug products when more established or lower cost therapeutic alternatives are already available or subsequently become available. It is difficult to predict the coverage and reimbursement decisions that will be made by third-party payors for novel gene and cell therapy products such as ours. Even if we obtain coverage for our product candidates, the resulting reimbursement payment rates might not be adequate or may require co-payments that patients find unacceptably high. Patients are unlikely to use our product candidates unless coverage is provided, and reimbursement is adequate to cover a significant portion of the cost of our product candidates. In addition, the market for our product candidates for which we may receive regulatory approval will depend significantly on access to third-party payors’ drug formularies or lists of medications for which third-party payors provide coverage and reimbursement, which might not include all of the FDA-approved drugs for a particular indication. The industry competition to be included in such formularies often leads to downward pricing pressures on pharmaceutical companies. Also, third-party payors may refuse to include a particular branded drug in their formularies or otherwise restrict patient access to a branded drug when a less costly generic equivalent or other alternative is available. Third-party payors, whether foreign or domestic, or governmental or commercial, are developing increasingly sophisticated methods of controlling healthcare costs. In addition, in the United States, no uniform policy of coverage and reimbursement for drug products exists among third-party payors. Therefore, coverage and reimbursement for drug products can differ significantly from payor to payor. As a result, the coverage determination process is often a time-consuming and costly process that would require us to provide scientific and clinical support for the use of our products to each payor separately, with no assurance that approval will be obtained. If we are unable to obtain coverage of and adequate payment levels for our product candidates, if approved, from third-party payors, physicians may limit how much or under what circumstances they will prescribe or administer our products and patients may decline to purchase them. This in turn could affect our ability to successfully commercialize our products and impact our profitability, results of operations, financial condition, and future success. In addition, in many foreign countries, particularly the countries of the European Union, or the EU, the pricing of prescription drugs is subject to government control. In some non-U.S. jurisdictions, the proposed pricing for a drug must be approved before it may be lawfully marketed. The requirements governing drug pricing vary widely from country to country. For example, the EU provides options for its member states to restrict the range of medicinal products for which their national health insurance systems provide reimbursement and to control the prices of medicinal products for human use. A member state may approve a specific price for the medicinal product or it may instead adopt a system of direct or indirect controls on the profitability of the company placing the medicinal product on the market. We may face competition for our product candidates from lower-priced products in foreign countries that have placed price controls on pharmaceutical products. In addition, there may be importation of foreign products that compete with our own products, which could negatively impact our profitability. The market opportunities for our product candidates may be limited to those patients who are ineligible for or have failed prior treatments and may be small. Cancer therapies are sometimes characterized as first line, second line or third line, and the FDA often approves new therapies initially only for third line use. When cancer is detected early enough, first line therapy is sometimes adequate to cure the cancer or prolong life without a cure. Whenever first line therapy, usually chemotherapy, hormone therapy, surgery, or a combination of these, proves unsuccessful, second line therapy may be administered. Second line therapies often consist of more chemotherapy, radiation, antibody drugs, tumor targeted small molecules, or a combination of these. Third line therapies can include bone marrow transplantation, antibody and small molecule targeted therapies, more invasive forms of surgery and new technologies. We expect to initially seek approval of our product candidates as a third line therapy for patients who have failed other approved treatments. Subsequently, for those product candidates that prove to be sufficiently beneficial, if any, we would expect to seek approval as a second line therapy and potentially as a first line therapy, but there is no guarantee that our product candidates, even if approved, would be approved for second line or first line therapy. In addition, we may have to conduct additional clinical trials prior to gaining approval for second line or first line therapy. Our projections of both the number of people who have the cancers we are targeting, as well as the subset of people with these cancers in a position to receive therapy and who have the potential to benefit from treatment with our product candidates, are based on our beliefs and estimates. These estimates have been derived from a variety of sources, including scientific literature, surveys of clinics, patient foundations or market research and may prove to be incorrect. Further, new studies may change the estimated incidence or prevalence of these cancers. The number of patients may turn out to be lower than expected. Additionally, the potentially addressable patient population for our product candidates may be limited or may not be amenable to treatment with our product candidates. Our market opportunities may also be limited by competitor treatments that may enter the market. Healthcare legislative reform measures may have a material adverse effect on our business and results of operations. In both the United States and certain foreign jurisdictions, there have been a number of legislative and regulatory enactments in recent years that change the healthcare system in ways that could impact our future ability to sell our product candidates profitably. 42 Furthermore, there have been and continue to be a number of initiatives at the federal and state level that seek to reduce healthcare costs. Most significantly, in March 2010, President Obama signed into law the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act, or collectively the ACA, which included measures that have significantly changed the way healthcare is financed by both governmental and private insurers. The ACA, among other things, imposed a new methodology by which rebates owed by manufacturers under the Medicaid Drug Rebate Program are calculated for drugs that are inhaled, infused, instilled, implanted or injected, increased the minimum Medicaid rebates owed by manufacturers under the Medicaid Drug Rebate Program, extended the rebate program to individuals enrolled in Medicaid managed care organizations, added a provision to increase the Medicaid rebate for line extensions or reformulated drugs, established annual fees on manufacturers and importers of certain branded prescription drugs and biologic agents, promoted a new Medicare Part D coverage gap discount program, expanded the entities eligible for discounts under the Public Health Service Act pharmaceutical pricing program and imposed a number of substantial new compliance provisions related to pharmaceutical companies' interactions with healthcare practitioners. The ACA also expanded eligibility for Medicaid programs and introduced a new Patient Centered Outcomes Research Institute to oversee, identify priorities in, and conduct comparative clinical effectiveness research, along with funding for such research and a new Center for Medicare & Medicaid Innovation at the Centers for Medicare & Medicaid Services, or CMS, to test innovative payment and service delivery models to lower Medicare and Medicaid spending. There have been executive, legal and political challenges to certain aspects of the ACA. For example, President Trump signed several executive orders and other directives designed to delay, circumvent or loosen certain requirements mandated by the ACA. Concurrently, Congress considered legislation to repeal or repeal and replace all or part of the ACA. While Congress has not passed comprehensive repeal legislation, several bills affecting the implementation of certain taxes under the ACA have been signed into law. In December 2017, Congress repealed the tax penalty, effective January 1, 2019, for an individual’s failure to maintain ACA-mandated health insurance as part of the Tax Act. Further, President Biden issued an executive order that instructed certain governmental agencies to review and reconsider their existing policies and rules that limit access to healthcare, including among others, reexamining Medicaid demonstration projects and waiver programs that include work requirements, and policies that create unnecessary barriers to obtaining access to health insurance coverage through Medicaid or the ACA. Further, there have been a number of health reform initiatives by the Biden administration that have impacted the ACA. For example, on August 16, 2022, President Biden signed the Inflation Reduction Act, or the IRA, into law, which, among other things, extends enhanced subsidies for individuals purchasing health insurance coverage in ACA marketplaces through plan year 2025. The IRA also eliminates the "donut hole" under the Medicare Part D program beginning in 2025 by significantly lowering the beneficiary maximum out-of-pocket cost and implementing a newly established manufacturer discount program. It is possible that the ACA will be subject to judicial or Congressional challenges in the future. It is unclear how any such challenges and the healthcare reform measures of the Biden administration will impact ACA and our business. The ultimate content, timing or effect of any healthcare reform measures on the U.S. healthcare industry is unclear. Further, there has been increasing legislative and enforcement interest in the United States with respect to specialty drug pricing practices. As a result, there have been several U.S. Congressional inquiries and proposed and enacted federal and state legislation designed to, among other things, bring more transparency to drug pricing, review the relationship between pricing and manufacturer patient programs and reform government program reimbursement methodologies for drugs. At the federal level, the Trump administration used several means to propose or implement drug pricing reform, including through federal budget proposals, executive orders and policy initiatives. For example, on July 24, 2020 and September 13, 2020, the Trump administration announced several executive orders related to prescription drug pricing that attempt to implement several of the administration’s proposals. The FDA also released a final rule, effective November 30, 2020, implementing a portion of the importation executive order providing guidance for states to build and submit importation plans for drugs from Canada. Further, on November 30, 2020, the U.S. Department of Health and Human Services, or HHS, finalized a regulation removing safe harbor protection for price reductions from pharmaceutical manufacturers to plan sponsors under Medicare Part D, either directly or through pharmacy benefit managers, unless the price reduction is required by law. The IRA delayed implementation of the rule to January 1, 2032. The rule also creates a new safe harbor for price reductions reflected at the point-of-sale, as well as a new safe harbor for certain fixed fee arrangements between pharmacy benefit managers and manufacturers, the implementation of which have also been delayed until January 1, 2032. In addition, on March 11, 2021, President Biden signed the American Rescue Plan Act of 2021 into law, which eliminates the statutory Medicaid drug rebate price cap, currently set at 100% of a drug's average manufacturer price for single source and innovator multiple source products, beginning on January 1, 2024. Further, in July 2021, the Biden Administration released an executive order that included multiple provisions aimed at prescription drugs. In response to President Biden's executive order, on September 9, 2021, HHS released a Comprehensive Plan for Addressing High Drug Prices that outlines principles for drug price reform. The plan sets out a variety of potential legislative policies that Congress could pursue as well as potential administrative actions by HHS. No legislative or administrative actions have been finalized to implement these principles. In addition, Congress is considering drug pricing as part of the budget reconciliation process. Additionally, the IRA, among other things, (i) directs HHS to negotiate the price of certain high-expenditure, single-source drugs and biologics covered under Medicare, and subject drug manufacturers to civil monetary penalties and a potential excise tax by offering a price that is not equal to or less than the negotiated “maximum fair price” under the law, and (ii) imposes rebates under Medicare Part B and Medicare Part D to penalize price increases that outpace inflation. The IRA permits HHS to implement many of these provisions through guidance, as opposed to regulation, for the initial years. These provisions will 43 take effect progressively starting in fiscal year 2023, although they may be subject to legal challenges. It is currently unclear how the IRA will be effectuated but is likely to have a significant impact on the pharmaceutical industry. Individual states in the United States also have increasingly passed legislation and implemented regulations designed to control pharmaceutical product pricing, including price or patient reimbursement constraints, discounts, restrictions on certain product access and marketing cost disclosure and transparency measures, and, in some cases, designed to encourage importation from other countries and bulk purchasing. We expect that healthcare reform measures that may be adopted in the future may result in more rigorous coverage criteria and in additional downward pressure on the price that we may receive for any approved product. Any reduction in reimbursement from Medicare or other government programs may result in a similar reduction in payments from private payors. The implementation of cost containment measures or other healthcare reforms may prevent us from being able to generate revenue, attain profitability or, if we receive regulatory approval, commercialize our products. If we fail to comply with federal and state healthcare laws, including fraud and abuse and health information privacy and security laws, we could face substantial penalties and our business, results of operations, financial condition and prospects could be adversely affected. As a pharmaceutical company, even though we do not and will not control referrals of healthcare services or bill directly to Medicare, Medicaid or other third-party payors, certain federal and state healthcare laws and regulations pertaining to fraud and abuse and patients’ rights are and will be applicable to our business. For example, we could be subject to healthcare fraud and abuse and patient privacy regulation by both the federal government and the states in which we conduct our business. The laws that may affect our ability to operate include, among othe • The federal Anti-Kickback Statute, which regulates our business activities, including our clinical research and relationships with healthcare providers or other entities as well as our future marketing practices, educational programs and pricing policies, and by prohibiting, among other things, soliciting, receiving, offering or paying remuneration, directly or indirectly, to induce, or in return for, either the referral of an individual or the purchase or recommendation of an item or service reimbursable under a federal healthcare program, such as the Medicare and Medicaid programs; • Federal civil and criminal false claims laws, including the False Claims Act, which permits a private individual acting as a “whistleblower” to bring actions on behalf of the federal government alleging violations of the False Claims Act, and civil monetary penalty laws, which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid or other third-party payors that are false or fraudulent; • The federal Health Insurance Portability and Accountability Act of 1996, or HIPAA, which created new federal civil and criminal statutes that prohibit, among other things, executing a scheme to defraud any healthcare benefit program or making false statements relating to healthcare matters; • The Health Information Technology for Economic and Clinical Health Act of 2009, or HITECH, and its implementing regulations, which impose certain requirements relating to the privacy, security and transmission of individually identifiable health information on entities and individuals subject to the law including certain healthcare providers, health plans, and healthcare clearinghouses, known as covered entities, as well as individuals and entities that perform services for them which involve the use, or disclosure of, individually identifiable health information, known as business associates and their subcontractors that use, disclose or otherwise process individually identifiable health information; • Requirements under the Physician Payments Sunshine Act to report annually to CMS certain financial arrangements with prescribers and teaching hospitals, as defined in the ACA and its implementing regulations, including reporting any “transfer of value” made or distributed to teaching hospitals, and physicians, as defined by such law and reporting any ownership and investment interests held by physicians and their immediate family members during the preceding calendar year; and • State and foreign law equivalents of each of the above federal laws, such as anti-kickback and false claims laws which may apply to items or services reimbursed by any third-party payor, including commercial insurers; state laws that require pharmaceutical companies to comply with the industry’s voluntary compliance guidelines and the applicable compliance guidance promulgated by the federal government that otherwise restricts certain payments that may be made to healthcare providers and entities; state laws that require drug manufacturers to report information related to payments and other transfer of value to physicians and other healthcare providers and entities; state laws that require the reporting of information related to drug pricing; state and local laws that require the registration of pharmaceutical sales representatives; and state and foreign laws governing the privacy and security of health information in certain circumstances, many of which differ from each other in significant ways and often are not preempted by HIPAA, thus complicating compliance efforts. Because of the breadth of these laws and the narrowness of the statutory exceptions and safe harbors available, it is possible that some of our business activities, including any consulting agreements with physicians who may receive stock or stock options as compensation for their services, could be subject to challenge under one or more of such laws. In addition, recent health care reform legislation has further strengthened these laws. For example, the ACA, among other things, amended the intent requirement of the 44 federal Anti-Kickback Statute and certain criminal healthcare fraud statutes. A person or entity no longer needs to have actual knowledge of this statute or specific intent to violate it. Moreover, the ACA provides that the government may assert that a claim including items or services resulting from a violation of the federal Anti-Kickback Statute constitutes a false or fraudulent claim for purposes of the False Claims Act. To the extent that any of our product candidates is ultimately sold in a foreign country, we may be subject to similar foreign laws and regulations. Efforts to ensure that our business arrangements comply with applicable healthcare laws involve substantial costs. It is possible that governmental and enforcement authorities will conclude that our business practices do not comply with current or future statutes, regulations or case law interpreting applicable fraud and abuse or other healthcare laws and regulations. If any such actions are instituted against us, and we are not successful in defending ourselves or asserting our rights, we may be subject to significant penalties, including administrative, civil and criminal penalties, damages, fines, exclusion from participation in United States federal or state health care programs, such as Medicare and Medicaid, disgorgement, imprisonment, integrity oversight and reporting obligations, and the curtailment or restructuring of our operations, any of which could materially adversely affect our ability to operate our business and our financial results. Although compliance programs can mitigate the risk of investigation and prosecution for violations of these laws, the risks cannot be entirely eliminated. Any action against us for violation of these laws, even if we successfully defend against it, could cause us to incur significant legal expenses and divert our management’s attention from the operation of our business. Moreover, achieving and sustaining compliance with applicable federal and state privacy, security and fraud laws may prove costly. Our immuno-oncology product candidates may face competition in the future from biosimilars and/or new technologies. The Biologics Price Competition and Innovation Act of 2009, or BPCIA, provides an abbreviated pathway for the approval of follow-on biological products. Under the BPCIA, an application for a biosimilar product cannot be approved by the FDA until 12 years after the original branded product was approved under a BLA. However, there is a risk that the U.S. Congress could amend the BPCIA to significantly shorten this exclusivity period, potentially creating the opportunity for generic competition sooner than anticipated. Further, this data exclusivity does not prevent another company from developing a product that is highly similar to the original branded product, generating its own data and seeking approval. Data exclusivity only assures that another company cannot rely upon the data within the innovator’s application to support the biosimilar product’s approval. RISKS RELATED TO OUR INTELLECTUAL PROPERTY *If we or our licensors fail to adequately protect or enforce our intellectual property rights or secure rights to patents of others, the value of our intellectual property rights would diminish and our ability to successfully develop our product candidates may be impaired. Our success, competitive position and future revenues will depend in part on our ability and the abilities of our licensors to obtain and maintain patent protection for our products, methods, processes and other technologies, to preserve confidential information, including trade secrets, to prevent third parties from infringing our proprietary rights, and to operate without infringing the proprietary rights of third parties. Our ability to consummate certain strategic transactions, including strategic partnerships or out-licensing opportunities with any newly any discovered TCRs, among others, may also be impaired if we are unable to adequately protect our intellectual property or if we infringe on the proprietary rights of others. To date, we have exclusive rights in the field of cancer treatment to certain U.S. and foreign intellectual property with respect to certain cell therapy and related technologies from MD Anderson and the NCI, as well as with respect to the Precigen technology, including Sleeping Beauty . Under the MD Anderson License, future patent applications require the agreement of each of MD Anderson, Precigen and us, and MD Anderson has the right to control the preparation, filing, and prosecution of such patent applications unless the parties agree that we or Precigen instead may control such activities. Although under the License Agreement MD Anderson has agreed to review and incorporate any reasonable comments that we or Precigen may have regarding licensed patents and patent applications, we cannot guarantee that our comments will be solicited or implemented. Under the Patent License with the NCI for certain TCRs, the NCI is responsible for the preparation, filing, prosecution, and maintenance of patent applications and patents licensed to us. Although under the Patent License, the NCI is required to consult with us in the preparation, filing, prosecution, and maintenance of all its patent applications and patents licensed to us, we cannot guarantee that our comments will be solicited or implemented. Under our A&R License Agreement Precigen has the right, but not the obligation, to prepare, file, prosecute, and maintain the patents and patent applications licensed to us and shall bear all related costs incurred by it in regard to those actions. Precigen is required to consult with us and keep us reasonably informed of the status of the patents and patent applications licensed to us, and to confer with us prior to submitting any related filings and correspondence. Although under the A&R License Agreement Precigen has agreed to consider in good faith and consult with us regarding any comments we may have regarding these patents and patent applications, we cannot guarantee that our comments will be solicited or followed. Without direct control of the in-licensed patents and patent applications, we are dependent on MD Anderson, the NCI or Precigen, as applicable, to keep us advised of prosecution, particularly in foreign jurisdictions where prosecution information may not be publicly available. We anticipate that we, 45 the NCI and Precigen will file additional patent applications both in the United States and in other jurisdictions. However, we cannot predict or guarantee for either our in-licensed patent portfolios or for Alaunos’ patent portfoli • When, if at all, any patents will be granted on such applications; • The scope of protection that any patents, if obtained, will afford us against competitors; • That third parties will not find ways to invalidate and/or circumvent our patents, if obtained; • That others will not obtain patents claiming subject matter related to or relevant to our product candidates; or • That we will not need to initiate litigation and/or administrative proceedings that may be costly whether we win or lose. The patent prosecution process is expensive and time-consuming, and we may not be able to file and prosecute all necessary or desirable patent applications at a reasonable cost, in a timely manner or at all. It is also possible that we will fail to identify patentable aspects of our research and development output before it is too late to obtain patent protection. Moreover, in some circumstances, we do not have the right to control the preparation, filing and prosecution of patent applications, or to maintain the patents, covering technology that we license from third parties. We may also require the cooperation of our licensors in order to enforce the licensed patent rights, and such cooperation may not be provided. Therefore, these patents and applications may not be prosecuted and enforced in a manner consistent with the best interests of our business. The patent position of biotechnology and pharmaceutical companies generally is highly uncertain, involves complex legal and factual questions and has in recent years been the subject of much litigation. In addition, the laws of other jurisdictions may not protect our rights to the same extent as the laws of the United States. For example, methods of therapeutic treatment, which are patent-eligible in the United States, may not be claimed in many other jurisdictions; some patent offices (such as the European Patent Office) may permit the redrafting of method of treatment claims into a "medical use" format that is patent-eligible, while other patent offices (such as the Indian Patent Office) may not accept any redrafted claiming format for such claims. Changes in patent laws or in interpretations of patent laws in the United States and other jurisdictions may diminish the value of our intellectual property or narrow the scope of our patent protection. In September 2011, the Leahy-Smith America Invents Act, or the Leahy-Smith Act, was signed into law, resulting in a number of significant changes to United States patent law. These changes include provisions that affect the way patent applications are prosecuted and may also affect patent litigation. In addition, the United States Supreme Court has ruled on several patent cases in recent years, narrowing the scope of patent protection available in certain circumstances or weakening the rights of patent owners in certain situations. This combination of events has created uncertainty with respect to the value of patents, once obtained, and with regard to our ability to obtain patents in the future. As the USPTO continues to implement the Leahy-Smith Act, and as the federal courts have the opportunity to interpret the Leahy-Smith Act, the laws and regulations governing patents, and the rules regarding patent procurement could change in unpredictable ways that would weaken our ability to obtain new patents or to enforce our existing patents and patents that we might obtain in the future. Certain technologies utilized in our research and development programs are already in the public domain. Moreover, a number of our competitors have developed technologies, or filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and may cover or conflict with our owned or licensed patent applications, technologies or product candidates. Such conflicts could limit the scope of the patents, if any, that we may be able to obtain. Because patent applications in the United States and many foreign jurisdictions are typically not published until 18 months after filing, or in some cases at all, and because publications of discoveries in the scientific literature lag behind actual discoveries per se, neither we nor our licensors can be certain that others have not filed patent applications for technology used by us or covered by our pending patent applications. We cannot know with certainty whether we were the first to make and file for the inventions claimed in our owned patent portfolio, or whether our licensors were the first to make and file for the inventions claimed in our in-licensed patent portfolio. As a result, the issuance, scope, validity, enforceability and commercial value of our patent rights are highly uncertain. Our pending and future patent applications may not result in the issuance of patents that protect our technology or products, in whole or in part, or that effectively prevent others from commercializing competitive technologies and products. In addition, our own earlier filed patents and applications or those of MD Anderson, the NCI or Precigen may limit the scope of later patents we obtain, if any. If third parties file or have filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and that cover or conflict with our owned or licensed patent applications, technologies or product candidates, we may be required to challenge such protection, terminate or modify our programs impacted by such protection, or obtain licenses from such third parties, which might not be available on acceptable terms, or at all. Even if our owned and licensed patent applications were to be issued as patents, they may not issue in a form that would provide us with any meaningful protection, prevent competitors from competing with us or otherwise provide us with any competitive advantage. Our competitors may be able to circumvent our owned or licensed patents by developing similar or alternative technologies or products in a non-infringing manner. The issuance of a patent is not conclusive as to its inventorship, scope, validity or enforceability, and our owned and licensed patents may be challenged in the courts or patent offices in the United States and abroad. Such challenges may result in loss of exclusivity due 46 to our patents being narrowed, invalidated or held unenforceable, which could limit our ability to stop others from using or commercializing similar or identical technology and products, or limit the duration of the patent protection of our technology and products. Given the amount of time required for the development, testing and regulatory review of new product candidates, patents protecting such candidates might expire before or even after such candidates are commercialized. As a result, our owned and licensed patent portfolio may not provide us with sufficient rights to exclude others from commercializing products similar or identical to ours. If we are unable to protect the confidentiality of our confidential information, our business and competitive position would be harmed. Our success also depends upon the skills, knowledge and experience of our scientific and technical personnel, our consultants and advisors, as well as our licensors and contractors. To help protect our proprietary know-how and our inventions for which patents may be unobtainable or difficult to obtain, and to maintain our competitive position, we rely on trade secret protection and confidentiality agreements. To this end, it is our general policy to require our employees, consultants, advisors and contractors to enter into agreements that prohibit the disclosure of confidential information and, where applicable, require disclosure and assignment to us of the ideas, developments, discoveries and inventions important to our business. These agreements may not provide adequate protection for our trade secrets, know-how, confidential information or other proprietary information in the event of any unauthorized use or disclosure or the lawful development by others of such information. Moreover, we may not be able to obtain adequate remedies for any breaches of these agreements. Our trade secrets or other confidential information may also be obtained by third parties by other means, such as breaches of our physical or computer security systems. Enforcing a claim that a party illegally disclosed or misappropriated a trade secret or other confidential information is difficult, expensive and time-consuming, and the outcome is unpredictable. In addition, some courts inside and outside the United States are less willing or unwilling to protect trade secrets. If any of our trade secrets or other confidential information were to be lawfully obtained or independently developed by competitors, we would have no right to prevent them, or those to whom they communicate it, from using that technology or information to compete with us. If any of our trade secrets, know-how or other proprietary information is disclosed, the value of our trade secrets, know-how and other proprietary rights would be significantly impaired and our business and competitive position would suffer. Third-party claims of intellectual property infringement would require us to spend significant time and money and could prevent us from developing or commercializing our products. In order to protect or enforce patent rights, we may initiate patent infringement litigation against third parties. Similarly, we may be sued by others for patent infringement. We also may become subject to pre- and post-grant proceedings conducted in the USPTO, including interferences, derivations, post-grant review, inter partes review, or reexamination. In other jurisdictions, our patent estate may be subject to pre- and post-grant opposition, nullity, revocation proceedings and the like. Asserting and defending against intellectual property actions are costly and divert technical and management personnel away from their normal responsibilities. Our commercial success depends upon our ability, and the ability of our collaborators, to develop, manufacture, market and sell our product candidates without infringing the proprietary rights of third parties. There is considerable intellectual property litigation in the biotechnology and pharmaceutical industries. While no such litigation has been brought against us and we have not been held by any court to have infringed a third party’s intellectual property rights, we cannot guarantee that our products or use of our products do not infringe or will not be asserted to infringe third-party patents. It is also possible that we have failed to identify relevant third-party patents or applications, or that as-yet unpublished third-party patent applications will later result in the grant of patents relevant to our business. Another possibility is for a third-party patent or patent application to first contain claims not relevant to our business but then to be reissued or amended in such a way that it does become relevant. Our research, development and commercialization activities, as well as any product candidates or products resulting from these activities, may infringe or be asserted to infringe patents or patent applications under which we do not hold licenses or other rights. Owning a patent does not confer on the patentee the right to practice the claimed invention and does not protect the patentee from being sued for infringement of another owner’s patent. Our patent position cannot and does not provide any assurance that we are not infringing or will not be asserted to infringe the patent rights of another. The patent landscape in the field of immuno-oncology is particularly complex. We are aware of numerous United States and foreign patents and pending patent applications of third parties directed to compositions, methods of use and methods of manufacture of immuno-oncology products. In addition, there may be patents and patent applications in the field of which we are not aware. The technology we license from MD Anderson, the NCI and Precigen is early-stage technology, and we are in the process of designing and developing products using this technology. Although we will seek to avoid pursuing the development of products that may infringe any third-party patent claims that we believe to be valid and enforceable, we may fail to do so. Moreover, given the breadth and number of claims in patents and pending patent applications in the field of immuno-oncology and the complexities and uncertainties associated with them, third parties may allege that we are infringing patent claims even if we do not believe such claims have merit. If a claim for patent infringement is asserted, there can be no assurance that the resolution of the claim would permit us to continue marketing the relevant product on commercially reasonable terms, if at all. We may not have sufficient resources to bring these actions to a successful conclusion. If we do not successfully defend any infringement actions to which we become a party or if we are unable 47 to have any asserted third-party patents declared invalid or unenforceable, we may have to pay substantial monetary damages, which can be tripled if the infringement is deemed willful, and/or we may be required to discontinue or significantly delay commercialization and development of the affected products. Any legal action against us or our collaborators claiming damages and seeking to enjoin developmental or marketing activities relating to affected products could, in addition to subjecting us to potential liability for damages, require us or our collaborators to obtain licenses to continue to develop, manufacture or market the affected products. Such licenses may not be available to us on commercially reasonable terms, or at all. An adverse determination in a proceeding involving our owned or licensed intellectual property may allow entry in the market of substitutes, including biosimilar or generic substitutes, for our products. Obtaining and maintaining our patent protection depends on compliance with various procedural, document submission, fee payment and other requirements imposed by governmental patent agencies, and our patent protection could be reduced or eliminated for noncompliance with these requirements. Annuities and other similar fees must be paid to the respective patent authority to maintain patents (or patents and patent applications) in most jurisdictions worldwide. Further, patent authorities in jurisdictions worldwide require compliance with a number of procedural, documentary, fee payment and other similar provisions during the patent application process. While an inadvertent lapse can in many cases be cured by payment of a late fee or by other means in accordance with the applicable rules, there are situations in which noncompliance can result in abandonment or lapse of the patent or patent application, resulting in partial or complete loss of patent rights in the relevant jurisdiction. Noncompliance events that could result in abandonment or lapse of a patent or patent application include, but are not limited to, failure to respond to official actions within prescribed time limits, non-payment of fees, and failure to submit documents with the necessary formal requirements such as notarization and legalization. In such an event, our competitors might be able to enter the market, which would have a material adverse effect on our business. We license rights to products and technology that are important to our business, and we expect to enter into additional licenses in the future. For instance, we have in-licensed patents and patent applications under the MD Anderson License, the Patent License and the A&R License Agreement. Under these agreements, we are subject to a range of obligations pertaining to commercialization and development, sublicensing, royalty, patent prosecution and maintenance, and insurance. Any failure by us to obtain a needed license, comply with any of these obligations or any other breach by us of our license agreements could give the licensor the right to terminate the license in whole, terminate the exclusive nature of the license or bring a claim against us for damages. Any such termination or claim could have a material adverse effect on our financial condition, results of operations, liquidity or business. Even if we contest any such termination or claim and are ultimately successful, such dispute could lead to delays in the development or commercialization of potential products and result in time-consuming and expensive litigation or arbitration. On termination we may be required to license to the licensor any related intellectual property that we developed. In addition, in certain cases, the rights licensed to us are rights of a third party licensed to our licensor. In such instances, if our licensors do not comply with their obligations under such licenses, our rights under our license agreements with our licensor may be adversely affected. In addition, the licensing or acquisition of third-party intellectual property rights is a highly competitive area, and a number of more established companies are also pursuing strategies to license or acquire third-party intellectual property rights that we may consider attractive or necessary. These established companies may have a competitive advantage over us due to their size, capital resources and greater clinical development and commercialization capabilities. In addition, companies that perceive us to be a competitor may be unwilling to assign or license rights to us. We also may be unable to license or acquire third-party intellectual property rights on terms that would allow us to make an appropriate return on our investment or at all. If we are unable to successfully obtain rights to required third-party intellectual property rights or maintain the existing intellectual property rights we have, we may have to abandon development of the relevant program or product candidate, which could have a material adverse effect on our business, financial condition, results of operations, and prospects. We may be subject to claims by third parties asserting that our employees or we have misappropriated their intellectual property or claiming ownership of what we regard as our own intellectual property. Many of our employees were previously employed at universities or at other biotechnology or pharmaceutical companies, including our competitors or potential competitors. Although we try to ensure that our employees do not use the proprietary information or know-how of others in their work for us, we may be subject to claims that these employees or we have used or disclosed intellectual property, including trade secrets or other proprietary information, of any such employee’s former employer. Litigation may be necessary to defend against these claims. In addition, while it is our policy to require our employees and contractors who may be involved in the development of intellectual property to execute agreements assigning such intellectual property to us, we may be unsuccessful in executing such an agreement 48 with each party who in fact develops intellectual property that we regard as our own. Our and their assignment agreements may not be self-executing or may be breached, and we may be forced to bring claims against third parties, or defend claims they may bring against us, to determine the ownership of what we regard as our intellectual property. If we fail in prosecuting or defending any such claims, in addition to paying monetary damages, we may lose valuable intellectual property rights or personnel. Even if we are successful in prosecuting or defending against such claims, litigation could result in substantial costs and be a distraction to management. OTHER RISKS RELATED TO OUR COMPANY *Our stock price has been, and may continue to be, volatile. The market price for our common stock is volatile and may fluctuate significantly in response to a number of factors, most of which we cannot control, includin • Our decision to pursue a strategic reprioritization; • Price and volume fluctuations in the overall stock market; • Changes in operating results and performance and stock market valuations of other biopharmaceutical companies generally, or those that develop and commercialize cancer drugs in particular; • Market conditions or trends in our industry or the economy as a whole; • Preclinical studies or clinical trial results; • The commencement, enrollment or results of the planned clinical trials of our product candidates or any future clinical trials we may conduct, or changes in the development status of our product candidates; • Public statements by third parties like trial participants and clinical investigators regarding our current or future clinical trials; • Public concern as to the safety of drugs developed by us or others; • The financial or operational projections we may provide to the public, any changes in these projections or our failure to meet these projections; • Comments by securities analysts or changes in financial estimates or ratings by any securities analysts who follow our common stock, our failure to meet these estimates or failure of those analysts to initiate or maintain coverage of our common stock; • The public’s response to press releases or other public announcements by us or third parties, including our filings with the SEC, as well as announcements of the status of development of our products, announcements of technological innovations or new therapeutic products by us or our competitors, announcements regarding collaborative agreements and other announcements relating to product development, litigation and intellectual property impacting us or our business; • Government regulation; • FDA determinations on the approval of a product candidate BLA submission; • The sustainability of an active trading market for our common stock; • Future sales of our common stock by us, our executive officers, directors and significant stockholders; • Announcements of mergers or acquisition transactions; • Our inclusion or deletion from certain stock indices; • Developments in patent or other proprietary rights; • Changes in reimbursement policies; • Announcements of medical innovations or new products by our competitors; • Announcements of changes in our senior management or directors; • General economic, industry, political and market conditions, including, but not limited to, the ongoing impact of global economic conditions; • Other events or factors, including those resulting from war, incidents of terrorism, natural disasters, pandemics or responses to these events; and 49 • Changes in accounting principles. In addition, the stock market in general and our stock in particular from time to time experiences significant price and volume fluctuations unrelated to the operating performance of particular companies, including in connection with the ongoing COVID-19 pandemic, which has resulted in decreased stock prices for many companies notwithstanding the lack of a fundamental change in their underlying business models or prospects. Public debt and equity markets, and in particular the Nasdaq Capital Market, have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many biopharmaceutical companies. Stock prices of many biopharmaceutical companies have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. In the past, stockholders have instituted securities class action litigation following periods of market volatility. If we were involved in securities litigation, we could incur substantial costs and our resources, and the attention of management could be diverted from our business. Public statements made by third parties such as trial participants and clinical investigators about clinical trials without our consent may adversely impact our stock price. We may not be aware of these third-party statements when made, may not be able to respond to these third-party statements and may not be able to defend our business or the public’s legitimate interests due to restrictions on what we may say about our product candidates, which may cause the price of our stock to fluctuate. If any of these events were to occur or we otherwise fail to comply with applicable regulations, we could incur liability, face regulatory actions or incur other harm to our business. *If we fail to satisfy applicable listing standards, our common stock may be delisted from the Nasdaq Capital Market. Delisting could prevent us from maintaining an active, liquid and orderly trading market for our common stock and may impact our ability to consummate certain strategic transactions. Our ability to publicly or privately sell equity securities and the liquidity of our common stock could be adversely affected if we are delisted from the Nasdaq Capital Market or if we are unable to transfer our listing to another stock market. On January 4, 2023, we were notified by The Nasdaq Stock Market LLC, or Nasdaq, that we were in breach of Listing Rule 5450(a)(1), or the Minimum Bid Price Rule, for continued listing on the Nasdaq Global Select Market because the minimum bid price of our listed securities for 30 consecutive business days had been less than $1 per share. In accordance with Nasdaq Listing Rule 5810(c)(3)(A), or the Compliance Period Rule, we were provided a period of 180 calendar days, or until July 3, 2023, or the Compliance Date, to regain compliance with the Bid Price Requirement. On June 22, 2023, we applied to transfer our listing from the Nasdaq Global Select Market to the Nasdaq Capital Market, or the Transfer. On July 5, 2023, Nasdaq notified us that the Transfer was approved, and that, in connection with the Transfer, we were eligible for an additional 180 calendar day period, or until January 2, 2024, or the Extended Compliance Date, to regain compliance with the Minimum Bid Price Rule. If, at any time before the Extended Compliance Date, the bid price for our common stock closes at $1.00 or more for a minimum of 10 consecutive business days as required under the Compliance Period Rule, Nasdaq will provide us written notification that we have regained compliance with the Bid Price Requirement, unless Nasdaq exercises its discretion to extend this 10-day period. During this 180-day period, we anticipate reviewing our options to regain compliance with the Minimum Bid Price Rule, including conducting a reverse stock split. Our stockholders have approved a reverse stock split, if needed in the discretion of our Board of Directors to regain compliance with the Minimum Bid Price Rule, at a ratio between the range of 1-for-5 and 1-for-15, inclusive, at any time on or before June 6, 2024. On August 10, 2023, the closing price of our common stock was $0.41 per share. If our common stock is delisted by Nasdaq, it could lead to a number of negative implications, including an adverse effect on the price of our common stock, deterring broker-dealers from making a market in or otherwise seeking or generating interest in our common stock, increased volatility in our common stock, reduced liquidity in our common stock, the loss of federal preemption of state securities laws and greater difficulty in obtaining financing. Delisting could also cause a loss of confidence of our customers, collaborators, vendors, suppliers and employees, which could harm our business and future prospects. If our common stock is delisted by Nasdaq, the price of our common stock may decline, and although our common stock may be eligible to trade on the OTC Bulletin Board, another over-the-counter quotation system, or on the pink sheets, an investor may find it more difficult to dispose of their common stock or obtain accurate quotations as to the market value of our common stock. If our common stock is delisted from Nasdaq, trading in our securities may be subject to the SEC’s “penny stock” rules. These “penny stock” rules will require brokers trading in our common stock to adhere to more stringent rules and possibly result in a reduced level of trading activity in the secondary trading market for our common stock. The additional burdens imposed upon broker-dealers by these requirements may discourage broker-dealers from recommending transactions in our securities, which could severely limit the liquidity of our securities and consequently adversely affect the market price for our securities. Furthermore, if our common stock is delisted, we would expect it to have an adverse impact on our ability to consummate certain strategic alternatives. 50 Further, if our common stock is delisted, we would incur additional costs under state blue sky laws in connection with any sales of our securities. These requirements could severely limit the market liquidity of our common stock and the ability of our stockholders to sell our common stock in the secondary market. *We may effect a reverse stock split of our common stock, but it may not result in us obtaining the intended benefits. As described above, we have obtained approval from our stockholders to effect, at any time on or before June 6, 2024 if needed in the discretion of our Board of Directors, a reverse stock split of the issued and outstanding shares of our common stock, our treasury stock, and a proportionate reduction in the shares of our authorized common stock in order to regain compliance with the Minimum Bid Price Rule. However, if we do effect a reverse stock split, there can be no assurance that the market price per new share of our common stock after the reverse stock split will remain unchanged or increase in proportion to the reduction in the number of old shares of our common stock outstanding before the reverse stock split. Other factors, such as our financial results, market conditions and the market perception of our business may adversely affect the market price of our common stock and there can be no assurance that a reverse stock split, if completed, will result in the intended benefits, that the market price of our common stock will increase in proportion to the reduction in the number of shares of our common stock outstanding before the reverse stock split or that the market price of our common stock will not decrease in the future. If the market price of our common stock does not increase the price per share of our common stock above Nasdaq’s minimum bid price threshold of $1.00 per share or if the market price of our common stock does not remain above Nasdaq’s minimum bid price threshold of $1.00 per share, our common stock may still be delisted from Nasdaq. *If we implement a reverse stock split, liquidity of our common stock may be adversely affected. If we do effect a reverse stock split, the liquidity of the shares of our common stock may be affected adversely by any such reverse stock split given the reduced number of shares of common stock that will be outstanding following the reverse stock split, especially if the market price of our common stock does not increase as a result of the reverse stock split. Following any reverse stock split, the resulting market price of our common stock may not attract new investors and may not satisfy the investing requirements of those investors. Although we believe a higher market price of our common stock may help generate greater or broader investor interest, there can be no assurance that the reverse stock split will result in a share price that will attract new investors, including institutional investors. In addition, there can be no assurance that the market price of our common stock will satisfy the investing requirements of those investors. As a result, the trading liquidity of our common stock may not necessarily improve. *Anti-takeover provisions in our charter documents and under Delaware law may make an acquisition of us, which may be beneficial to our stockholders, more difficult. Provisions of our amended and restated certificate of incorporation and bylaws, as well as provisions of Delaware law, could make it more difficult for a third party to acquire us, even if doing so would benefit our stockholders. These provisions authorize the issuance of “blank check” preferred stock that could be issued by our Board of Directors to increase the number of outstanding shares and hinder a takeover attempt, and limit who may call a special meeting of stockholders. In addition, Section 203 of the Delaware General Corporation Law, or Section 203, generally prohibits a publicly held Delaware corporation from engaging in a business combination with a party that owns at least 15% of its common stock unless the business combination is approved by our Board of Directors before the person acquires the 15% ownership stake or later by its Board of Directors and two-thirds of its stockholders. Section 203 could have the effect of delaying, deferring or preventing a change in control that our stockholders might consider to be in their best interests. We have begun exploring strategic alternatives, including, but not limited to, an acquisition, merger, reverse merger, sale of assets, strategic partnerships, capital raises or other transactions. If we are approached by a third-party in connection with such process, and our Board of Directors does not believe that a transaction with such party is in the best interest of our stockholders, we may rely on the provisions described above to prevent an acquisition by such party in order to maximize stockholder value. There is no guarantee that we will be able to find a transaction that delivers superior value to our stockholders. Our amended and restated bylaws provide that the Court of Chancery of the State of Delaware will be the exclusive forum for substantially all disputes between us and our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees. Our amended and restated bylaws provide that, unless we consent in writing to the selection of an alternative forum, the Court of Chancery of the State of Delaware is the exclusive forum for (i) any derivative action or proceeding brought on our behalf; (ii) any action asserting a claim of breach of a fiduciary duty owed by any of our directors, officers or other employees to us or our 51 stockholders; (iii) any action asserting a claim against us or any of our directors, officers or other employees arising pursuant to any provision of the Delaware General Corporation Law, our amended and restated certificate of incorporation or our amended and restated bylaws; (iv) any claim or cause of action seeking to interpret, apply, enforce or determine the validity of the amended and restated certificate of incorporation or our bylaws; (v) any claim or cause of action as to which the Delaware General Corporation Law confers jurisdiction on the Court of Chancery of the State of Delaware; or (vi) any action asserting a claim against us or any of our directors, officers or other employees governed by the internal affairs doctrine. These provisions would not apply to suits brought to enforce a duty or liability created by the Exchange Act. Furthermore, Section 22 of the Securities Act creates concurrent jurisdiction for federal and state courts over all Securities Act actions. Accordingly, both state and federal courts have jurisdiction to entertain such claims. These exclusive forum provisions may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers or other employees, which may discourage lawsuits against us and our directors, officers and other employees. If a court were to find either exclusive-forum provision to be inapplicable or unenforceable in an action, we may incur further significant additional costs associated with resolving the dispute in other jurisdictions, all of which could seriously harm our business. Because we do not expect to pay dividends, you will not realize any income from an investment in our common stock unless and until you sell your shares at a profit. We have never paid dividends on our common stock, and we do not anticipate that we will pay any dividends for the foreseeable future. Accordingly, any return on an investment in us will be realized, if at all, only when you sell shares of our common stock. *Our ability to use net operating loss carryforwards and research tax credits to reduce future tax payments may be limited or restricted. We have generated significant net operating loss carryforwards, or NOLs, and research and development tax credits, or R&D credits, as a result of our incurrence of losses and our conduct of research activities since inception. We generally are able to carry NOLs and R&D credits forward to reduce our tax liability in future years. However, our ability to utilize the NOLs and R&D credits is subject to the rules of Sections 382 and 383 of the Internal Revenue Code of 1986, as amended, or the Code, respectively. Those sections generally restrict the use of NOLs and R&D credits after an “ownership change.” An ownership change occurs if, among other things, the stockholders (or specified groups of stockholders) who own or have owned, directly or indirectly, 5% or more of a corporation’s common stock or are otherwise treated as 5% stockholders under Section 382 of the Code and the U.S. Treasury Department regulations promulgated thereunder increase their aggregate percentage ownership of that corporation’s stock by more than 50 percentage points over the lowest percentage of the stock owned by these stockholders over the applicable testing period. In the event of an ownership change, Section 382 of the Code imposes an annual limitation on the amount of taxable income a corporation may offset with NOL carry forwards and Section 383 of the Code imposes an annual limitation on the amount of tax a corporation may offset with business credit (including R&D credits) carryforwards. We may have experienced an “ownership change” within the meaning of Section 382 of the Code in the past and there can be no assurance that we will not experience additional ownership changes in the future, including in light of our search for strategic alternatives. As a result, our NOLs and business credits (including R&D credits) may be subject to limitations, and we may be required to pay taxes earlier and in larger amounts than would be the case if our NOLs or R&D credits were freely usable. *If securities and/or industry analysts fail to continue publishing research about our business, if they change their recommendations adversely or if our results of operations do not meet their expectations, our stock price and trading volume could decline. The trading market for our common stock will be influenced by the research and reports that industry or securities analysts publish about us or our business. If one or more of these analysts cease coverage of our Company or fail to publish reports on us regularly, we could lose visibility in the financial markets, which in turn could cause our stock price or trading volume to decline. In addition, it is likely that in some future period our operating results will be below the expectations of securities analysts or investors. If one or more of the analysts who cover us downgrade our stock, or if our results of operations do not meet their expectations, our stock price could decline. If our common stock is delisted by Nasdaq, the impact of analysts ceasing to cover our securities may negatively impact the price of our common stock more dramatically. *Our business could be negatively affected as a result of the actions of activist stockholders. In 2021, we were engaged in a consent solicitation led by WaterMill Asset Management Corp., or WaterMill, where three new directors were added to our Board of Directors. We could experience other stockholder activism in the future, including another consent solicitation or a proxy contest. Activist stockholders may advocate for certain governance and strategic changes at our company. In the event of stockholder activism, particularly with respect to matters which our Board of Directors, in exercising their 52 fiduciary duties, disagree with or have determined not to pursue, our business could be adversely affected because responding to actions by activist stockholders can be costly and time-consuming, disrupting our operations and diverting the attention of management, and perceived uncertainties as to our future direction may result in the loss of potential business opportunities and may make it more difficult to attract and retain qualified personnel, business partners, and customers. In addition, if faced with a consent solicitation or proxy contest, we may not be able to respond successfully to the contest or dispute, which would be disruptive to our business. If individuals are elected to our Board of Directors with a differing agenda, our ability to effectively and timely implement our strategic plan and create additional value for our stockholders may be adversely affected. If our Board of Directors elects to pursue a strategic alternative requiring a stockholder vote, activists may pursue a campaign against the transaction and as a result may make consummating the transaction more difficult, or impossible, despite the Board of Directors' conclusions that such transaction is in the best interest of our stockholders. *The exercise of outstanding warrants, and issuance of equity awards may have a dilutive effect on our stock, and negatively impact the price of our common stock. As of June 30, 2023, we had warrants for 22,922,342 shares of our common stock outstanding at a weighted average exercise price of $5.62 per share. We are able to grant stock options, restricted stock, restricted stock units, stock appreciation rights, bonus stocks, and performance awards under the 2020 Equity Incentive Plan. As of June 30, 2023 under the 2020 Equity Incentive Plan and our 2012 Equity Incentive Plan, 13,608,886 shares were issuable upon the exercise of outstanding options at a weighted average exercise price of $1.49 per share. *Our principal stockholders, executive officers and directors have substantial control over the Company, which may prevent you and other stockholders from influencing significant corporate decisions and may harm the market price of our common stock. As of June 30, 2023, our executive officers, directors and holders of five percent or more of our outstanding common stock beneficially owned, in the aggregate, 22.8% of our outstanding common stock. These stockholders may have interests that conflict with our other stockholders and, if acting together, have the ability to influence the outcome of matters submitted to our stockholders for approval, including the election and removal of directors and any merger, consolidation or sale of all or substantially all of our assets. Accordingly, this concentration of ownership may harm the market price of our common stock • Delaying, deferring or preventing a change in control; • Impeding a merger, consolidation, takeover or other business combination involving us; or • Discouraging a potential acquirer from making a tender offer or otherwise attempting to obtain control of us. In addition, this significant concentration of stock ownership may adversely affect the trading price of our common stock should investors perceive disadvantages in owning shares of common stock in a company that has such concentrated ownership. We are a “smaller reporting company,” and the reduced disclosure requirements applicable to smaller reporting companies may make our common stock less attractive to investors. We are considered a “smaller reporting company” under Rule 12b-2 of the Exchange Act. We are therefore entitled to rely on certain reduced disclosure requirements, such as an exemption from providing selected financial data and executive compensation information. These exemptions and reduced disclosures in our SEC filings due to our status as a smaller reporting company also mean our auditors are not required to review our internal control over financial reporting and may make it harder for investors to analyze our results of operations and financial prospects. We cannot predict if investors will find our common stock less attractive because we may rely on these exemptions. If some investors find our common stock less attractive as a result, there may be a less active trading market for our common stock and our common stock prices may be more volatile. We will remain a smaller reporting company until either (i) our public float exceeds $250 million, as of the last business day of our most recently completed second quarter, if our annual revenues equal or exceed $100 million in our most recently completed fiscal year, or (ii) our public float exceeds $700 million, as of the last business day of our most recently completed second quarter, if our annual revenues are less than $100 million in our most recently completed fiscal year. Item 2. Unregistered Sale of Equity Securities and Use of Proceeds None. Item 3. Defaults upon Senior Securities Not applicable. Item 4. Mine Safety Disclosures 53 Not applicable. Item 5. Other Information Securities Trading Plans of Directors and Executive Officers During the three months ended June 30, 2023, none of our directors or executive officers adopted or terminated any contract, instruction or written plan for the purchase or sale of our securities that was intended to satisfy the affirmative defense conditions of Rule 10b5-1(c) or any "non-Rule 10b5-1 trading arrangement." Item 1.02 Termination of a Material Definitive Agreement On August 14, 2023, we announced a strategic reprioritization to focus on the development of our hunTR TCR discovery platform and wind down of our TCR-T Library Phase 1/2 Trial. In connection with the reprioritization, we provided the requisite notice to terminate the CRADA, effective October 13, 2023. We initially entered into the CRADA on January 9, 2017 for the purpose of advancing a personalized TCR-T approach for the treatment of solid tumors. Using our Sleeping Beauty technology, the NCI would analyze a patient’s own cancer cells, identify their unique neoantigens and TCRs reactive against those neoantigens and then use our Sleeping Beauty technology to transpose one or more TCRs into T cells for re-infusion. The CRADA provides for certain rights in the event of a unilateral termination. Specifically, it provides for (i) the NCI to receive any costs incurred for which we have not previously reimbursed it and reasonable termination costs; (ii) the option for the NCI to retain any funds we transferred to it for use in completing the research plan, as specified in the CRADA; and (iii) the NCI to receive sufficient quantities of materials to complete the research plan, as specified in the CRADA. In addition, under specified circumstances, we may be required to provide funding for NCI personnel costs for up to six months after the termination date. Furthermore, under specified circumstances, we may be required to transfer the NCI all necessary information to contract for materials to complete the research plan, as specified in the CRADA, and the NCI will receive a nonexclusive, irrevocable, world-wide, paid-up license to practice, for or on behalf of the government for the products described in the schedules of the CRADA. The foregoing is only a summary of the material terms of the CRADA, does not purport to be complete and is qualified in its entirety by reference to the full text of the CRADA, which was filed as Exhibit 10.1 to the Company’s Current Report on Form 8-K (File No. 001-33038) with the SEC on September 26, 2019; First Amendment to the CRADA, dated March 23, 2018, by and among the Company, NCI, Intrexon and Precigen, Inc., or Precigen, which was filed as Exhibit 10.2 to the Company’s Current Report on Form 8-K with the SEC on September 26, 2019; Second Amendment to the CRADA, dated February 1, 2019, by and among the Company, NCI and Precigen, which was filed as Exhibit 10.3 to the Company’s Current Report on Form 8-K with the SEC on September 26, 2019; Third Amendment to the CRADA, dated March 15, 2022, by and among the Company and NCI, which was filed as Exhibit 10.44 to the Company’s Annual Report on Form 10-K with the SEC on March 30 2022; and Fourth Amendment to the CRADA, dated June 24, 2022, by and among the Company and NCI, which was filed as Exhibit 10.1 to the Company’s Quarterly Report on Form 10-Q with the SEC on August 15, 2022. Item 2.05 Costs Associated with Exit or Disposal Activities On August 14, 2023, in connection with our strategic reprioritization and in order to extend our resources, our Board of Directors approved a restructuring plan, or the Plan, that includes reducing our workforce by approximately 60%, with remaining employees primarily focused on the hunTR TCR discovery platform. We estimate that the reduction in force will be substantially completed by the end of August 2023. In addition, the Plan includes a wind down of our TCR-T Phase 1/2 Library Trial. Concurrently, we are considering certain strategic alternatives, including, but not limited to, an acquisition, merger, reverse merger, sale of assets, strategic partnerships, capital raises or other transactions. We have engaged Cantor to act as strategic advisor for this process. We currently estimate that we will incur approximately $2.5 to $3.0 million for retention, severance and other employee termination-related costs in the third and fourth quarters of 2023. The estimate of costs that we expect to incur and the timing thereof are subject to a number of assumptions, and actual results may differ. As the Plan is implemented, our management will re-evaluate the estimated costs and expenses set forth above and may revise the estimated restructuring charge as appropriate, consistent with generally accepted accounting principles. We may also incur other cash or non-cash charges or cash expenditures not currently contemplated due to events that may occur as a result of, or associated with, the Plan. 54 Item 6. Exhibits Exhibit Number Description 3.1+ Amended and Restated Certificate of Incorporation of the Registrant, and all amendments thereto. 3.2 Amended and Restated Bylaws of the Registrant, dated as of September 21, 2020 (incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed September 22, 2020). 31.1+ Certification of Principal Executive Officer and Principal Financial Officer pursuant to Exchange Act Rule 13a-14(a) or 15(d)-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1++ Certifications of Principal Executive Officer and Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 101.INS+ Inline XBRL Instance Document (the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document). 101.SCH+ Inline XBRL Taxonomy Extension Schema Document 101.CAL+ Inline XBRL Taxonomy Extension Calculation Linkbase Document 101.DEF+ Inline XBRL Taxonomy Definition Linkbase Document 101.LAB+ Inline XBRL Taxonomy Extension Label Linkbase Document 101.PRE+ Inline XBRL Taxonomy Extension Presentation Linkbase Document 104+ Cover Page Interactive Data File—the cover page interactive data is embedded within the Inline XBRL document or included within the Exhibit 101 attachments + Filed herewith. ++ This certification is deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the liability of that section, nor shall it be deemed incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, whether made before or after the date hereof, regardless of any general incorporation language in such filing. 55 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ALAUNOS THERAPEUTICS, INC. By: /s/ Kevin S. Boyle, Sr. Kevin S. Boyle, Sr. Chief Executive Officer (On Behalf of the Registrant and as Principal Executive Officer and Principal Financial Officer) Dat August 14, 2023 By: /s/ Michael Wong Michael Wong Vice President, Finance (Principal Accounting Officer) Dat August 14, 2023 56 |
Page PART I. FINANCIAL INFORMATION Item 1. Condensed Financial Statements (unaudited) 2 Condensed Balance Sheets as of September 30, 2023 (unaudited) and December 31, 2022 2 Condensed Statements of Operations for the three and nine months ended September 30, 2023 and 2022 (unaudited) 3 Condensed Statements of Changes in Stockholders’ Equity for the three and nine months ended September 30, 2023 and 2022 (unaudited) 4 Condensed Statements of Cash Flows for the nine months ended September 30, 2023 and 2022 (unaudited) 6 Notes to Condensed Financial Statements (unaudited) 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 19 Item 3. Quantitative and Qualitative Disclosures about Market Risk 27 Item 4. Controls and Procedures 27 PART II. OTHER INFORMATION Item 1. Legal Proceedings 28 Item 1A. Risk Factors 28 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 55 Item 3. Defaults Upon Senior Securities 55 Item 4. Mine Safety Disclosures 55 Item 5. Other Information 55 Item 6. Exhibits 57 1 PART I—FINANCIAL INFORMATION Item 1. Condensed Financial Statements Alaunos Therapeutics, Inc. CONDENSED BALANCE SHEETS (unaudited) (in thousands, except share and per share data) September 30, December 31, 2023 2022 ASSETS: Current assets: Cash and cash equivalents $ 11,944 $ 39,058 Restricted cash — 13,938 Receivables — 4 Prepaid expenses and other current assets 925 799 Total current assets 12,869 53,799 Property and equipment, net 5,532 8,460 Right-of-use assets 1,039 2,136 Deposits — 42 Other non-current assets — 500 Total assets $ 19,440 $ 64,937 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable $ 1,298 $ 1,389 Current portion of long-term debt — 16,765 Accrued expenses 3,071 5,454 Lease liabilities, current 307 558 Total current liabilities 4,676 24,166 Lease liabilities, non-current 864 2,188 Other non-current liabilities — 28 Total liabilities $ 5,540 $ 26,382 Commitments and contingencies (Note 9) Stockholders' equity Common stock $ 0.001 par value; 520,000,000 shares authorized, 240,627,055 shares issued and outstanding at September 30, 2023 and 420,000,000 shares authorized, 240,410,761 shares issued and outstanding at December 31, 2022 241 240 Additional paid-in capital 921,583 918,942 Accumulated deficit ( 907,924 ) ( 880,627 ) Total stockholders' equity 13,900 38,555 Total liabilities and stockholders' equity $ 19,440 $ 64,937 The accompanying notes are an integral part of these condensed financial statements. 2 Alaunos Therapeutics, Inc. CONDENSED STATEMENTS OF OPERATIONS (unaudited) (in thousands, except share and per share data) For the Three Months Ended September 30, For the Nine Months Ended September 30, 2023 2022 2023 2022 Collaboration Revenue $ — $ 2,911 $ 4 $ 2,911 Operating expens Research and development 3,656 7,893 15,346 19,411 General and administrative 3,578 3,282 9,791 10,217 Gain on lease modification — — ( 245 ) ( 133 ) Restructuring costs 419 — 419 — Property and equipment and right-of-use asset impairment 1,011 — 1,011 — Total operating expenses 8,664 11,175 26,322 29,495 Loss from operations ( 8,664 ) ( 8,264 ) ( 26,318 ) ( 26,584 ) Other income (expense): Interest expense — ( 841 ) ( 1,921 ) ( 2,266 ) Other income, net 188 254 942 279 Other income (expense), net 188 ( 587 ) ( 979 ) ( 1,987 ) Net loss $ ( 8,476 ) $ ( 8,851 ) $ ( 27,297 ) $ ( 28,571 ) Basic and diluted net loss per share $ ( 0.04 ) $ ( 0.04 ) $ ( 0.11 ) $ ( 0.13 ) Weighted average common shares outstanding, basic and diluted 240,046,026 215,098,995 239,842,327 215,015,377 The accompanying notes are an integral part of these condensed financial statements. 3 Alaunos Therapeutics, Inc. CONDENSED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (unaudited) (in thousands, except share and per share data) For the Three Months Ended September 30, 2023 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at June 30, 2023 240,627,055 $ 241 $ 920,857 $ ( 899,448 ) 21,650 Stock-based compensation — — 726 — 726 Net loss — — — ( 8,476 ) ( 8,476 ) Balance at September 30, 2023 240,627,055 $ 241 $ 921,583 $ ( 907,924 ) $ 13,900 For the Nine Months Ended September 30, 2023 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at December 31, 2022 240,410,761 $ 240 $ 918,942 $ ( 880,627 ) $ 38,555 Stock-based compensation — — 2,550 — 2,550 Issuance of common stock, net of expenses 216,294 1 91 — 92 Net loss — — — ( 27,297 ) ( 27,297 ) Balance at September 30, 2023 240,627,055 $ 241 $ 921,583 $ ( 907,924 ) $ 13,900 The accompanying notes are an integral part of these condensed financial statements. 4 For the Three Months Ended September 30, 2022 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at June 30, 2022 216,174,542 $ 216 $ 902,536 $ ( 862,572 ) $ 40,180 Stock-based compensation — — 808 — 808 Exercise of employee stock options 26,250 — 21 — 21 Repurchase of common stock ( 18,750 ) — — ( 45 ) ( 45 ) Net loss — — — ( 8,851 ) ( 8,851 ) Balance at September 30, 2022 216,182,042 $ 216 $ 903,365 $ ( 871,468 ) $ 32,113 For the Nine Months Ended September 30, 2022 Common Stock Additional Paid in Capital Accumulated Deficit Total Stockholders' Equity Shares Amount Balance at December 31, 2021 216,127,443 $ 216 $ 900,693 $ ( 842,852 ) $ 58,057 Stock-based compensation — — 2,651 — 2,651 Restricted stock awards 280,000 — — — — Cancelled restricted common stock ( 232,901 ) — — — — Exercise of employee stock options 26,250 — 21 — 21 Repurchase of common stock ( 18,750 ) — — ( 45 ) ( 45 ) Net loss — — — ( 28,571 ) ( 28,571 ) Balance at September 30, 2022 216,182,042 $ 216 $ 903,365 $ ( 871,468 ) $ 32,113 The accompanying notes are an integral part of these condensed financial statements. 5 Alaunos Therapeutics, Inc. CONDENSED STATEMENTS OF CASH FLOWS (unaudited) (in thousands) For the Nine Months Ended September 30, 2023 2022 Cash flows from operating activiti Net loss $ ( 27,297 ) $ ( 28,571 ) Adjustments to reconcile net loss to net cash used in operating activiti Depreciation 2,074 2,065 Property and equipment right-of-use asset impairment 1,011 — Amortization of financing costs 1,339 634 Stock-based compensation 2,550 2,651 Decrease in the carrying amount of right-of-use assets 1,332 2,306 Gain on lease modification ( 245 ) ( 133 ) Loss on disposal of equipment 12 — (Increase) decrease in: Receivables 4 ( 1,800 ) Prepaid expenses and other current assets ( 126 ) 817 Deposits 42 — Other non-current assets 500 131 Increase (decrease) in: Accounts payable ( 92 ) 616 Accrued expenses ( 2,258 ) 1,525 Lease liabilities ( 1,575 ) ( 2,371 ) Other non-current liabilities ( 28 ) 28 Net cash used in operating activities ( 22,757 ) ( 22,102 ) Cash flows from investing activiti Purchases of property and equipment ( 197 ) ( 100 ) Proceeds from the disposal of property and equipment 40 — Net cash used in investing activities ( 157 ) ( 100 ) Cash flows from financing activiti Proceeds from the issuance of common stock 92 — Proceeds from the exercise of stock options — 21 Repurchase of common stock — ( 45 ) Repayment of long-term debt ( 18,105 ) ( 2,083 ) Debt extinguishment costs ( 125 ) — Net cash used in financing activities ( 18,138 ) ( 2,107 ) Net decrease in cash, cash equivalents and restricted cash ( 41,052 ) ( 24,309 ) Cash, cash equivalents and restricted cash, beginning of period 52,996 76,054 Cash and cash equivalents, end of period $ 11,944 $ 51,745 Supplementary disclosure of cash flow informati Cash paid for interest $ 2,063 $ 1,603 Amounts included in accounts payable and accrued expenses related to property and equipment $ 1 $ 348 The accompanying notes are an integral part of these condensed financial statements. 6 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) 1. Organization Overview Alaunos Therapeutics, Inc., which is referred to herein as “Alaunos,” or the “Company,” is a clinical-stage oncology-focused cell therapy company that was historically involved in the development of adoptive TCR therapies, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. On January 25, 2022, the Company changed its corporate name from ZIOPHARM Oncology, Inc. to Alaunos Therapeutics, Inc. The Company is leveraging its proprietary, non-viral Sleeping Beauty gene transfer platform and its novel cancer mutation hotspot TCR library to design and manufacture personalized cell therapies that target neoantigens arising from common tumor-related mutations in key oncogenic genes, including KRAS, TP53 and EGFR. The Company’s operations to date have consisted primarily of conducting research and development and raising capital to fund those efforts. On August 14, 2023, the Company announced a strategic reprioritization of its business and wind down of its TCR-T Library Phase 1/2 Trial. In connection with the reprioritization, the Company has reduced its workforce by approximately 80 % to date and continues working to reduce costs in order to extend its cash runway. The Company continues to explore strategic alternatives, including, but not limited to, an acquisition, merger, reverse merger, sale of assets, strategic partnerships, capital raises or other transactions. The Company has engaged Cantor Fitzgerald & Co., or Cantor , to act as strategic advisor for this process. As of September 30, 2023, there were 240,627,055 shares of common stock outstanding and an additional 35,339,371 shares of common stock reserved for issuance pursuant to outstanding stock options and warrants. The accompanying condensed financial statements have been prepared on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities and commitments in the normal course of business. The Company follows the guidance of Accounting Standards Codification, or ASC, Topic 205-40, Presentation of Financial Statements - Going Concern, in order to determine whether there is substantial doubt about its ability to continue as a going concern for one year after the date its condensed financial statements are issued. This evaluation initially does not take into consideration the potential mitigating effect of management's plans that have not been fully implemented as of the date the condensed financial statements are issued. When substantial doubt exists, management evaluates whether the mitigating effect of its plans sufficiently alleviates the substantial doubt about the Company's ability to continue as a going concern. The mitigating effect of management's plans, however, is only considered if both (i) it is probable that the plans will be effectively implemented within one year after the date that the condensed financial statements are issued and (ii) it is probable that the plans, when implemented, will mitigate the relevant conditions or events that raise substantial doubt about the entity's ability to continue as a going concern within one year after the date that the condensed financial statements are issued. The Company has operated at a loss since its inception in 2003 and has no recurring revenue from operations. The Company anticipates that losses will continue for the foreseeable future. As of September 30, 2023, the Company had approximately $ 11.9 million of cash and cash equivalents. The Company’s accumulated deficit at September 30, 2023 was approximately $ 907.9 million. Given its current development plans and cash management efforts, the Company anticipates cash resources will be sufficient to fund operations into the second quarter of 2024. The Company’s ability to continue operations after its current cash resources are exhausted depends on future events outside of the Company's control, including its ability to obtain additional financing or to achieve profitable results, as to which no assurances can be given. If adequate additional funds are not available when required, or if the Company is unsuccessful in entering into partnership agreements for further development of its product candidates, management may need to curtail its development efforts and planned operations to conserve cash until sufficient additional capital is raised. There can be no assurances that such a plan would be successful. Based on the current cash forecast and the Company's dependence on its ability to obtain additional financing to fund its operations after the current resources are exhausted, about which there can be no certainty, management has determined that the Company's present capital resources will not be sufficient to fund its planned operations for at least one year from the issuance date of the condensed financial statements, and substantial doubt as to the Company's ability to continue as a going concern exists. This forecast of cash resources is forward-looking information that involves risks and uncertainties, and the actual amount of expenses could vary materially and adversely as a result of a number of factors. Basis of Presentation The accompanying unaudited interim condensed financial statements have been prepared in accordance with the instructions to Form 10-Q pursuant to the rules and regulations of the Securities and Exchange Commission, or the SEC. Certain information and note 7 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) disclosures required by generally accepted accounting principles in the United States, or GAAP, have been condensed or omitted pursuant to such rules and regulations. It is management’s opinion that the accompanying unaudited interim condensed financial statements reflect all adjustments (which are normal and recurring) that are necessary for a fair presentation of the financial position of the Company and its results of operations and cash flows for the periods presented. The unaudited interim condensed financial statements should be read in conjunction with the audited financial statements and the notes thereto for the year ended December 31, 2022, included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2022 filed with the SEC on March 7, 2023, or the Annual Report. The results disclosed in the statements of operations for the three and nine months ended September 30, 2023 are not necessarily indicative of the results to be expected for the full fiscal year 2023. Use of Estimates The preparation of condensed financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the condensed financial statements and the reported amounts of revenues and expenses during the reporting period. Although the Company regularly assesses these estimates, actual results could differ from those estimates. Changes in estimates are recorded in the period in which they become known. Our accrued expenses represent estimates of activity and costs incurred with vendors and counterparties. During the three and nine months ended September 30, 2023, the Company revised estimated accrued expenses related to de-prioritized clinical programs based on new information received from vendors. As a result, a $ 0.3 million credit has been recorded in research and development expense within the condensed statement of operations for the three months ended September 30, 2023, and a $ 1.0 million credit has been recorded for the nine months ended September 30, 2023. 2. Financings 2021 Loan and Security Agreement On August 6, 2021, the Company entered into a Loan and Security Agreement, or the Loan and Security Agreement, with Silicon Valley Bank and affiliates of Silicon Valley Bank, or collectively, SVB. The Loan and Security Agreement provided for an initial term loan of $ 25.0 million funded at the closing, or the Term A Tranche, with an additional tranche of $ 25.0 million available if certain funding and clinical milestones were met by August 31, 2022, or the Term B Tranche. Effective December 28, 2021, the Company, entered into an amendment to the Loan and Security Agreement, or the First Amendment. The First Amendment extended the interest-only period through August 31, 2022. The First Amendment also eliminated the Term B Tranche, which remained unfunded, leaving only the Term A Tranche, or the SVB Facility. Under the amended Loan and Security Agreement, the SVB Facility was to mature on August 1, 2023. On May 1, 2023, the Company repaid its outstanding debt obligations under the amended Loan and Security Agreement in their entirety. Refer to Note 4, Debt, for further discussion of the Loan and Security Agreement and the First Amendment. 2022 Equity Distribution Agreement On August 12, 2022, the Company entered into an Equity Distribution Agreement, or the Equity Distribution Agreement, with Piper Sandler & Co., or Piper Sandler, pursuant to which the Company can offer and sell, from time to time at its sole discretion, shares of its common stock having an aggregate offering price of up to $ 50.0 million through Piper Sandler as its sales agent in an "at the market offering." Piper Sandler will receive a commission of 3.0 % of the gross proceeds of any common stock sold under the Equity 8 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) Distribution Agreement. During the three and nine months ended September 30, 2023, there have been no sales of the Company's common stock under the Equity Distribution Agreement. 2022 Public Offering On November 29, 2022, the Company entered into an underwriting agreement, or the Underwriting Agreement, with Cantor as the sole underwriter, relating to the issuance and sale in an underwritten offering, or the Offering, of 24,228,719 shares, or the Firm Shares, of the Company’s common stock to Cantor at a price of $ 0.6191 per share. The net proceeds to the Company from the Offering were $ 14.7 million (before accounting for the partial exercise of Cantor's option as described below) after deducting underwriting discounts and commissions and offering expenses payable by the Company. Under the terms of the Underwriting Agreement, the Company granted Cantor an option, exercisable for 30 days , to purchase up to an additional 3,634,307 shares of common stock, which we refer to, together with the Firm Shares, as the Shares, at the same price per share as the Firm Shares. On January 5, 2023, Cantor partially exercised its option to purchase an additional 216,294 shares of common stock. 3. Summary of Significant Accounting Policies The Company’s significant accounting policies were identified in the Company’s Annual Report. There have been no material changes in those policies since the filing of its Annual Report. 4. Debt The carrying values of the Company's debt obligation were as follows: September 30, December 31, ($ in thousands) 2023 2022 Loan and Security Agreement $ — $ 17,395 Unamortized discount on Loan and Security Agreement — ( 630 ) Total debt $ — $ 16,765 On August 6, 2021, the Company entered into the Loan and Security Agreement with SVB. The Loan and Security Agreement provided for the funding of the Term A Tranche at the closing, with the Term B Tranche available if certain funding and clinical milestones were met by August 31, 2022. The SVB Facility and related obligations under the Loan and Security Agreement were secured by substantially all of the Company's properties, rights and assets, except for its intellectual property (which was subject to a negative pledge under the Loan and Security Agreement). In addition, the Loan and Security Agreement contained customary representations, warranties, events of default and covenants. On December 28, 2021, the Company entered into the First Amendment to the Loan and Security Agreement. The First Amendment eliminated the unfunded Term B Tranche, among other things. The SVB Facility bore interest at a floating rate per annum on outstanding loans, payable monthly, at the greater of (a) 7.75 % and (b) the current published U.S. prime rate, plus a margin of 4.5 % . All outstanding obligations under the amended Loan and Security Agreement were due and payable on August 1, 2023 . In connection with the payment of all of the Company's outstanding obligations, the Company also owed SVB 5.75 % of the original principal amounts borrowed as a final payment, or the Final Payment. Effective March 30, 2023, the Company entered into a Third Amendment to the Loan and Security Agreement, or the Third Amendment. Under the terms of the Third Amendment, the Company was no longer required to maintain all of its operating accounts, depository accounts and excess cash with SVB or one of its affiliates, and was instead only required to maintain a single operating or depository account at Silicon Valley Bank. The Third Amendment also modified the cash collateralization requirement, such that the Company was required to cash collateralize the entire sum of the outstanding principal amount of the SVB Facility, plus an amount equal to the Final Payment, which amount was to be reduced commensurate with each regularly scheduled monthly payment of principal and interest on the SVB Facility. On May 1, 2023, the Company paid SVB an amount equal to the entire outstanding principal amount under the SVB Facility, all accrued and unpaid interest and the Final Payment. In accordance with the First Amendment, the payment was subject to a prepayment premium of 2.00 %. During the second quarter of 2023, the Company recorded the remaining amounts associated with the Final Payment of $ 0.5 million and the prepayment premium of $ 0.1 million as interest expense within the condensed statement of operations. 9 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) In connection with its entry into the Loan and Security Agreement in August 2021, the Company issued to SVB warrants to purchase (i) up to 432,844 shares of the Company’s common stock, in the aggregate, and (ii) up to an additional 432,842 shares of common stock, in the aggregate, in the event the Company achieved certain clinical milestones, in each case at an exercise price per share of $ 2.22 . In connection with its entry into the First Amendment in December 2021, the Company amended and restated the warrants issued to SVB. As amended and restated, the warrants are for up to 649,615 shares of the Company's common stock, in the aggregate, with an exercise price of $ 1.16 per share, or the SVB Warrants. The SVB Warrants expire on August 6, 2031 . The issuance costs for the Loan and Security Agreement, including the First Amendment, were approximately $ 1.2 million and primarily related to the issuance of the SVB Warrants, which were amortized into interest expense over the term of the loan. Interest expense, including the amortization of issuance costs, was $ 0 for the three months ended September 30, 2023 and was $ 1.9 million for the nine months ended September 30, 2023, compared to $ 0.8 million for the three months ended September 30, 2022 and $ 2.3 million for the nine months ended September 30, 2022. 5. Fair Value Measurements Fair Value of Financial Instruments The Company has certain financial assets and liabilities recorded at fair value which have been classified as Level 1, 2 or 3 within the fair value hierarchy as described in the accounting standards for fair value measurements. • Level 1—Quoted prices in active markets for identical assets or liabilities. • Level 2—Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. • Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Assets and liabilities measured at fair value on a recurring and nonrecurring basis as of September 30, 2023 and December 31, 2022 are as follows: ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of September 30, 2023 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 11,681 $ 11,681 $ — $ — ($ in thousands) Fair Value Measurements at Reporting Date Using Description Balance as of December 31, 2022 Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1) Significant Other Observable Inputs (Level 2) Significant Unobservable Inputs (Level 3) Cash equivalents $ 38,058 $ 38,058 $ — $ — The cash equivalents represent demand deposit accounts and deposits in a short-term United States treasury money market mutual fund quoted in an active market and classified as a Level 1 asset. There have been no changes to the valuation methods during the three or nine months ended September 30, 2023. We had no financial assets or liabilities that were classified as Level 2 or Level 3 during the three or nine months ended September 30, 2023. Fair Value of Non-Financial Instruments The Company evaluates assets for impairment whenever events or changes in circumstances indicate that indicators of impairment exist. In those evaluations, the Company compares estimated future undiscounted cash flows generated by each asset (or asset group) to the carrying value of the asset (or asset group) to determine if an impairment charge is required. If the undiscounted cash flows test fails, the Company estimates the fair value of the asset (or asset group) to determine the impairment. 10 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) Following the Company’s announced strategic reprioritization on August 14, 2023, the Company determined that changes in the intended use of certain property and equipment represented an indicator of impairment, resulting in an impairment charge of $ 1.0 million, which was primarily related to lab equipment of $ 0.9 million and leasehold improvements of $ 0.1 million. In addition, the Company determined certain prepaid expense balances to be impaired given the Company’s strategic reprioritization, and therefore, has recorded an impairment charge of $ 0.1 million related to prepaid expenses and other current assets, which is recorded in research and development expenses within the condensed statement of operations. On November 9, 2023, the Company executed an agreement to sell laboratory equipment for gross proceeds of $ 1.5 million. As of September 30, 2023, the laboratory equipment had a carrying value of $ 1.5 million recorded within Property and Equipment, net in the condensed balance sheet. 6. Net loss per share Basic net loss per share of common stock is computed by dividing net loss applicable to common stockholders by the weighted average number of shares of common stock outstanding for the period. Diluted net loss per share is computed using the weighted-average number of shares of common stock outstanding during the period, plus the dilutive effect of outstanding options and warrants, using the treasury stock method and the average market price of the Company's common stock during the applicable period, unless their effect on net loss per share is antidilutive. The effect of computing diluted net loss per common share was antidilutive for any potentially issuable shares of common stock from the conversion of stock options, unvested restricted stock and warrants and, as such, have been excluded from the calculation. Such potentially dilutive shares of common stock consisted of the following as of September 30, 2023 and 2022: September 30, 2023 2022 Common stock options 12,417,029 10,623,215 Unvested restricted stock 437,500 940,000 Warrants 22,922,342 22,922,342 35,776,871 34,485,557 7. Related Party Transactions Joint Venture with TriArm Therapeutics/Eden BioCell On December 18, 2018, the Company and TriArm Therapeutics, Ltd., or TriArm, launched Eden BioCell, Ltd., or Eden BioCell, as a joint venture to lead commercialization of the Company’s Sleeping Beauty -generated CAR-T therapies in the People’s Republic of China (including Macau and Hong Kong), Taiwan and Korea. The Company licensed to Eden BioCell the rights in Greater China for its third-generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen. Eden BioCell is owned equally by the Company and TriArm and the parties share decision-making authority. TriArm contributed $ 10.0 million to Eden BioCell and has committed up to an additional $ 25.0 million to this joint venture. TriArm also managed all clinical development in the territory pursuant to a master services agreement between TriArm and Eden BioCell. James Huang was the founder and serves as managing partner of Panacea Venture, which is an investor in TriArm. Mr. Huang was the Chair of the Company's board of directors until September 22, 2023 and had been a director since July 2020. He also serves as a member of Eden BioCell’s board of directors. In September 2021, TriArm and Alaunos mutually agreed to dissolve the Eden BioCell joint venture. The joint venture agreement has been terminated and the Eden BioCell entity has been dissolved as of July 2023. Refer to Note 13, Joint Venture , for further details. 8. Leases In April 2022, the Company modified its real estate lease agreement executed on December 15, 2020 with MD Anderson for office space in Houston, Texas, which reduced the Company's leased space from 18,111 square feet to 3,228 square feet. As a result, the associated lease liability and right-of-use asset were remeasured to $ 0.4 million based on revised lease payments. A gain of $ 0.1 million was recorded on the lease modification during the second quarter of 2022. On April 19, 2023 , the Company terminated its office lease in Boston, Massachusetts, which was set to expire on August 31, 2026. In connection with the termination, the Company also assigned to the landlord its sub-sublease of the Boston office space, which had a term expiring on June 30, 2025 with an option to extend through July 31, 2026 . Termination costs for the Boston office lease were $ 0.2 million. A gain of $ 0.2 million was recorded on the lease termination during the second quarter of 2023. 11 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) In August 2023, in accordance with the lease agreement executed on December 15, 2020, the Company notified MD Anderson, as landlord, of its intention to terminate office space of 3,228 square feet in Houston, Texas. As a result, the associated lease liability and right-of-use asset were remeasured to $ 19 thousand, reflecting the revised lease payments and term end date of November 2023. On November 1, 2023, the Company and MD Anderson, as landlord, agreed to mutually terminate the leases dated October 15, 2019 and April 7, 2020, which represent office space totaling 14,037 square feet. The termination will be effective November 15, 2023 and the Company has agreed to make a final payment of $ 0.1 million to the landlord. 9. Commitments and Contingencies License Agreements Exclusive License Agreement with Precigen On October 5, 2018, the Company entered into an exclusive license agreement, or License Agreement, with PGEN Therapeutics, or PGEN, a wholly owned subsidiary of Precigen Inc., or Precigen, which was formerly known as Intrexon Corporation. Except where the context otherwise requires, the Company refers to PGEN and Precigen together as Precigen. Pursuant to the terms of the License Agreement, the Company had exclusive, worldwide rights to research, develop and commercialize (i) TCR products designed for neoantigens for the treatment of cancer, (ii) products utilizing Precigen’s RheoSwitch® gene switch, or RTS, for the treatment of cancer, referred to as IL-12 Products and (iii) CAR products directed to (A) CD19 for the treatment of cancer, referred to as CD19 Products, and (B) BCMA for the treatment of cancer, subject to certain obligations to pursue such target under the License and Collaboration Agreement effective March 27, 2015 between the Company, Precigen and ARES TRADING S.A., a subsidiary of Merck KGaA, as assigned by Precigen to PGEN. Under the License Agreement, the Company also had exclusive, worldwide rights for certain patents relating to the Sleeping Beauty technology to research, develop and commercialize TCR products for both neoantigens and shared antigens for the treatment of cancer, referred to as TCR Products. The Company was responsible for all aspects of the research, development and commercialization and was required to use commercially reasonable efforts to develop certain products. In consideration of the licenses and other rights granted by Precigen, the Company was required to pay Precigen an annual license fee of $ 0.1 million, reimburse Precigen for certain historical costs, pay Precigen milestones up to an additional $ 52.5 million for each exclusively licensed program upon the achievement of certain milestones, and pay Precigen tiered royalties up to a maximum royalty amount of $ 100.0 million in the aggregate. The Company was also obligated to pay Precigen 20 % of any sublicensing income received by us relating to the licensed products. The Company was responsible for all development costs associated with each of the licensed products. Precigen was obligated to pay the Company royalties up to a maximum royalty amount of $ 100.0 million. No royalty amounts were incurred during the three or nine months ended September 30, 2023 and 2022. On April 3, 2023, the Company entered into the Amended and Restated Exclusive License Agreement with Precigen, or the A&R License Agreement, which restated and amended the License Agreement in full. Under the A&R License Agreement, the Company still has exclusive, worldwide rights to research, develop and commercialize TCR products designed for neoantigens or driver mutations for the treatment of cancer and non-exclusive rights to use non-driver mutation TCRs. The Company further maintains its exclusive, worldwide rights for certain patents relating to the Sleeping Beauty technology to research, develop and commercialize TCR products for both neoantigens and shared antigens for the treatment of cancer, referred to as TCR Products. The Company remains solely responsible for all aspects of the research, development and commercialization of the exclusively licensed products for the treatment of cancer. The (i) products utilizing Precigen’s RheoSwitch® gene switch, or RTS, for the treatment of cancer, referred to as IL-12 Products and (ii) CAR products directed to (A) CD19 for the treatment of cancer, referred to as CD19 Products, and (B) BCMA for the treatment of cancer, subject to certain obligations to pursue such target under the License and Collaboration Agreement effective March 27, 2015 between the Company, Precigen and ARES TRADING S.A., a subsidiary of Merck KGaA, as assigned by Precigen to PGEN are no longer exclusively licensed to the Company. The Company is no longer obligated to use commercially reasonable efforts for the exclusively licensed products. The A&R License Agreement further eliminates any royalty or milestone obligations to Precigen, with an annual license fee of $ 75 thousand due on the anniversary of the A&R License Agreement effective date. Precigen is no longer obligated to pay the Company royalties on the net sales derived from the sale of Precigen's CAR products. 12 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) License Agreement and 2015 Research and Development Agreement —The University of Texas MD Anderson Cancer Center On January 13, 2015 , the Company, together with Precigen, entered into a license agreement, or the MD Anderson License with MD Anderson (which Precigen subsequently assigned to PGEN). Pursuant to the MD Anderson License, the Company, together with Precigen, holds an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel CAR T-cell therapies, non-viral gene transfer systems, genetic modification and/or propagation of immune cells and other cellular therapy approaches, Natural Killer, or NK Cells, and TCRs. On August 17, 2015, the Company, Precigen and MD Anderson entered into the 2015 R&D Agreement to formalize the scope and process for the transfer by MD Anderson, pursuant to the terms of the MD Anderson License, of certain existing research programs and related technology rights, as well as the terms and conditions for future collaborative research and development of new and ongoing research programs. The rights and obligations of Precigen under the 2015 R&D Agreement were assigned to the Company pursuant to the Fourth Amendment to 2015 R&D Agreement which was entered into on September 19, 2019 (the “Fourth Amendment”) with an effective date of October 5, 2018. The activities under the 2015 R&D Agreement are directed by a joint steering committee comprised of two members from the Company and one member from MD Anderson. As provided under the MD Anderson License, the Company provided funding for research and development activities in support of the research programs under the 2015 R&D Agreement for a period of three years and in an amount of no less than $ 15.0 million and no greater than $ 20.0 million per year. On November 14, 2017, the Company entered into an amendment to the 2015 R&D Agreement, extending its term until April 15, 2021. In connection with the execution of the 2019 R&D Agreement described below, on October 22, 2019, the Company amended the 2015 R&D Agreement to extend the term of the 2015 R&D Agreement until December 31, 2026 and to allow cash resources on hand at MD Anderson under the 2015 R&D Agreement to be used for development costs under the 2019 Research and Development Agreement, or the 2019 R&D Agreement, which the Company entered into on October 22, 2019, with MD Anderson, pursuant to which the Company agreed to collaborate with respect to the TCR program. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder, or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term of the MD Anderson License, the Company, together with Precigen, shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After ten years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if the Company and Precigen are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if the Company and Precigen are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by the Company and Precigen, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both the Company and Precigen and may be terminated by the mutual written agreement of the Company, Precigen, and MD Anderson. 2019 Research and Development Agreement—The University of Texas MD Anderson Cancer Center Under the 2019 R&D Agreement, the Company and MD Anderson will, among other things, collaborate on programs to expand the Company's TCR library and conduct clinical trials. The activities under the 2019 R&D Agreement are directed by a joint steering committee comprised of two members from the Company and one member from MD Anderson. The Company will own all inventions and intellectual property developed under the 2019 R&D Agreement and the Company will retain all rights to all intellectual property, patentable or not, for oncology products manufactured using non-viral gene transfer technologies under the 2019 R&D Agreement, including the Company's Sleeping Beauty technology. The Company has granted MD Anderson an exclusive license for such intellectual property to develop and commercialize autologous TCR products manufactured using viral gene transfer technologies and any products outside the field of oncology and a non-exclusive license for allogenic TCR products manufactured using viral-based technologies. Under the 2019 R&D Agreement, the Company agreed, beginning on January 1, 2021, to reimburse MD Anderson up to a total of $ 20.0 million for development costs under the 2019 R&D Agreement, after the funds from the 2015 R&D Agreement are exhausted. In addition, the Company will pay MD Anderson royalties on net sales of its TCR products. The Company is required to make performance-based payments upon the successful completion of clinical and regulatory benchmarks relating to its TCR products. The aggregate potential benchmark payments are $ 36.5 million, of which only $ 3.0 million will be due prior to the first marketing approval of the Company's TCR products. The royalty rates and benchmark payments owed to MD Anderson may be reduced upon the occurrence of certain events. The Company also agreed to sell its TCR products to MD Anderson at preferential prices and will sell the Company's TCR products in Texas exclusively to MD Anderson for a limited period of time following the first commercial 13 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) sale of the Company's TCR products. For the three months ended September 30, 2023 the Company incurred clinical expenses of $ 0.2 million from MD Anderson related to the 2019 R&D Agreement, compared to $ 0.3 million for the three months ended September 30, 2022. For the nine months ended September 30, 2023, the Company incurred clinical expenses of $ 0.7 million from MD Anderson related to the 2019 R&D Agreement compared to $ 0.7 million for the nine months ended September 30, 2022. The 2019 R&D Agreement will terminate on December 31, 2026 and either party may terminate the 2019 R&D Agreement following written notice of a material breach. The 2019 R&D Agreement also contains customary provisions related to indemnification obligations, confidentiality and other matters. In connection with the execution of the 2019 R&D Agreement, on October 22, 2019, the Company issued MD Anderson a warrant to purchase 3,333,333 shares of the Company's common stock, which is referred to as the MD Anderson Warrant. The MD Anderson Warrant has an initial exercise price of $ 0.001 per share, expires on December 31, 2026 , and vests upon the occurrence of certain clinical milestones. As of September 30, 2023, the milestones have not been met. License Agreement with the NCI On May 28, 2019, the Company entered into a patent license agreement, or the Patent License, with the National Cancer Institute, or the NCI. Pursuant to the Patent License, the Company holds an exclusive, worldwide license to certain intellectual property to develop and commercialize patient-derived (autologous), peripheral blood T-cell therapy products engineered by transposon-mediated gene transfer to express TCRs reactive to mutated KRAS, TP53 and EGFR neoantigens. In addition, pursuant to the Patent License, the Company holds an exclusive, worldwide license to certain intellectual property for manufacturing technologies to develop and commercialize autologous, peripheral blood T-cell therapy products engineered by non-viral gene transfer to express TCRs, as well as a non-exclusive, worldwide license to certain additional manufacturing technologies. Prior to January 1, 2023, the Company had entered into several amendments to the Patent License in order to expand its TCR library to include additional TCRs reactive to mutated KRAS and TP53 neoantigens licensed from the NCI. The terms of the Patent License require the Company to pay the NCI minimum annual royalties in the amount of $ 0.3 million, which will be reduced to $ 0.1 million once the aggregate minimum annual royalties paid by the Company equals $ 1.5 million. The Company is also required to make performance-based payments upon successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $ 4.3 million, of which aggregate payments of $ 3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $ 0.1 million was paid during the year ended December 31, 2022 upon the initiation of the Company's TCR-T Library Phase 1/2 Trial, which was a qualifying Phase 1 clinical trial under the terms of the Patent License. In addition, the Company is required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $ 250.0 million to $ 1.0 billion. The aggregate potential amount of these benchmark payments is $ 12.0 million. The Company must also pay the NCI royalties on net sales of products covered by the Patent License at rates in the low to mid-single digits depending upon the technology included in a licensed product. To the extent the Company enters into a sublicensing agreement relating to a licensed product, the Company is required to pay the NCI a percentage of all consideration received from a sublicensee, which percentage will decrease based on the stage of development of the licensed product at the time of the sublicense. The Patent License will expire upon expiration of the last patent contained in the licensed patent rights, unless terminated earlier. The NCI may terminate or modify the Patent License in the event of a material breach, including if the Company does not meet certain milestones by certain dates, or upon certain insolvency events that remain uncured following the date that is 90 days following written notice of such breach or insolvency event. The Company may terminate the Patent License, or any portion thereof, in the Company's sole discretion at any time upon 60 days’ written notice to the NCI. In addition, the NCI has the right t (i) require the Company to sublicense the rights to the product candidates covered by the Patent License upon certain conditions, including if the Company is not reasonably satisfying required health and safety needs and (ii) terminate or modify the Patent License, including if the Company is not satisfying requirements for public use as specified by federal regulations. On October 27, 2023, the Company provided the NCI the requisite notice of its intent to terminate the Patent License, effective 60 days from such notice. The Company has discovered multiple proprietary TCRs targeting driver mutations through its hunTR TCR discovery platform, including many of the same KRAS and TP53 mutations licensed from the NCI. For the three months ended September 30, 2023, the Company recognized $ 0.1 million in license expenses to the NCI under this agreement, compared to $ 0.1 million for the three months ended September 30, 2022. For the nine months ended September 30, 2023, the Company recognized $ 0.5 million in license expenses to the NCI under this agreement, compared to $ 0.5 million for the nine months ended September 30, 2022. 14 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) Cooperative Research and Development Agreement (CRADA) with the NCI On January 9, 2017, the Company entered into a Cooperative Research and Development Agreement, or the CRADA, with the NCI. The purpose of this collaboration was to advance a personalized TCR-T approach for the treatment of solid tumors. Using the Company's Sleeping Beauty technology, the NCI would analyze a patient’s own cancer cells, identify their unique neoantigens and TCRs reactive against those neoantigens and then use the Company's Sleeping Beauty technology to transpose one or more TCRs into T cells for re-infusion. Research conducted under the CRADA was under the direction of Steven A. Rosenberg, M.D., Ph.D., Chief of the Surgery Branch at the NCI, in collaboration with the Company's researchers. The Company was responsible for providing the NCI with the test materials necessary for them to conduct their studies, and eventually, clinical trials pursuant to the CRADA. Inventions, data and materials discovered or produced in connection with performance of the research plan under the CRADA would have remained the sole property of the party who produced the discovery. The parties would have jointly owned all inventions jointly discovered under the research plan. The owner of any invention under the CRADA would have made the decision to file a patent covering the invention, or in the case of a jointly owned invention, the Company would have the first opportunity to file a patent covering the invention. If the Company failed to provide timely notice of its decision to the NCI or decided not to file a patent covering the joint invention, the NCI had the right to make the filing. For any invention solely owned by the NCI or jointly made by the NCI and the Company for which a patent application was filed, the U.S. Public Health service granted the Company an exclusive option to elect an exclusive or non-exclusive commercialization license. For inventions owned solely by the NCI or jointly owned by the NCI and the Company, which were licensed according to the terms described above, the Company agreed to grant to the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world. The Company was also required to grant the U.S. government a non-exclusive, non-transferable, irrevocable and paid up license to practice the invention or have the invention practiced on its behalf throughout the world for any of the Company's solely owned inventions. The agreement could be terminated by any of the parties upon 60 days' prior written consent. The NCI has a cleared Investigational New Drug Application, or IND, that would permit them to begin this trial. To the Company's knowledge, the trial had not yet begun enrollment. The progress and timeline for this trial, including the timeline for dosing patients, are under control of the NCI. In February 2019, the Company extended the CRADA with the NCI until January 9, 2022, committing an additional $ 5.0 million to this program; however, for the third and fourth quarters of 2021, the Company was not required to make payments toward the program as agreed with the NCI. In March 2022, the Company entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. In June 2022, the Company entered into the Fourth Amendment to the CRADA, or the CRADA Fourth Amendment, which, among other things, extended the term of the CRADA until January 9, 2025. In connection with the CRADA Fourth Amendment, the Company agreed to contribute $ 1.0 million per year, payable on a quarterly basis, beginning in the first quarter of 2023. The Company did no t record expenses under the CRADA for the three months ended September 30, 2023 and recorded expenses of $ 0.5 million for the nine months ended September 30, 2023, compared to $ 0 for the three and nine months ended September 30, 2022. On August 14, 2023, the Company announced that it had provided the requisite notice to terminate the CRADA, pursuant to its terms, effective October 13, 2023 , in light of the Company’s exploration of strategic alternatives. Patent and Technology License Agreement—The University of Texas MD Anderson Cancer Center and the Texas A&M University System On August 24, 2004, the Company entered into a patent and technology license agreement with MD Anderson and the Texas A&M University System, which the Company refers to, collectively, as the Licensors. Under this agreement, the Company was granted an exclusive, worldwide license to rights (including rights to U.S. and foreign patent and patent applications and related improvements and know-how) for the manufacture and commercialization of two classes of organic arsenicals (water- and lipid-based) for human and animal use. The class of water-based organic arsenicals includes darinaparsin. Under the terms of the agreement, the Company may be required to make additional payments to the Licensors upon achievement of certain milestones in varying amounts which, on a cumulative basis could total up to an additional $ 4.5 million. In addition, the Licensors are entitled to receive royalty payments on sales from a licensed product and will also be entitled to receive a portion of any fees that the Company may receive from a possible sublicense under certain circumstances. During the three and nine months ended September 30, 2023 and 2022, the Company did no t incur any milestone expenses or royalty expenses on sales under this agreement. 15 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) Collaboration Agreement with Solasia Pharma K.K. On March 7, 2011, the Company entered into a License and Collaboration Agreement with Solasia Pharma K. K., or Solasia, which was amended on July 31, 2014 to include an exclusive worldwide license and amended on October 14, 2021 to revise certain payment schedule details, or, as so amended, the Solasia License and Collaboration Agreement. Pursuant to the Solasia License and Collaboration Agreement, the Company granted Solasia an exclusive license to develop and commercialize darinaparsin in both intravenous and oral forms and related organic arsenic molecules, in all indications for human use. As consideration for the license, the Company is eligible to receive from Solasia development- and sales-based milestones, a royalty on net sales of darinaparsin, once commercialized, and a percentage of any sublicense revenue generated by Solasia. Solasia will be responsible for all costs related to the development, manufacturing and commercialization of darinaparsin. The Company’s licensors, as defined in the Solasia License and Collaboration Agreement, will receive a portion of all milestone and royalty payments made by Solasia to the Company in accordance with the terms of the Solasia License and Collaboration Agreement with the licensors, as described above. In June 2022, Solasia announced that darinaparsin had been approved from relapsed or refractory Peripheral T-Cell Lymphoma by the Ministry of Health, Labor and Welfare in Japan. During the three months ended September 30, 2023, the Company did no t earn collaboration revenue and did no t earn royalty revenues on net sales under the Solasia License and Collaboration Agreement, and for the nine months ended September 30, 2023, the Company earned $ 4 thousand in collaboration revenue and did no t earn royalty revenues on net sales under the Solasia License and Collaboration Agreement. During the three and nine months ended September 30, 2022, the Company earned $ 2.9 million in collaboration revenue and did no t earn royalty revenues on net sales under the Solasia License and Collaboration Agreement. KBI Biopharma Litigation On March 17, 2023, KBI Biopharma , Inc., or KBI, filed a complaint against the Company in the District Court of Harris County, Texas, 165th Judicial District, asserting breach of an Amended and Restated Master Services Agreement between the Company and KBI relating to the development of an autologous gene modified T-cell therapy product, or the KBI Agreement. KBI was primarily seeking unspecified monetary damages in excess of $ 3.2 million. On May 1, 2023, the Company filed an answer generally denying all of KBI’s allegations and asserting affirmative and other defenses as well as counterclaims for breach of the KBI Agreement and conversion. On October 20, 2023, the Company entered into an agreement with KBI to settle all claims asserted by KBI against the Company and the Company's counterclaims against KBI at issue in the litigation for $ 1.0 million. As a result, the Company has accrued $ 1.0 million as of September 30, 2023 for the settlement. 10. Stock-Based Compensation The Company recognized stock-based compensation expense on all employee and non-employee awards as follows: For the Three Months Ended September 30, For the Nine Months Ended September 30, (in thousands) 2023 2022 2023 2022 Research and development 90 145 446 673 General and administrative 636 663 2,104 1,978 Stock-based compensation expense $ 726 $ 808 $ 2,550 $ 2,651 The Company granted an aggregate of 10,000 stock options during the three months ended September 30, 2023, with a weighted-average grant date fair value of $ 0.39 per share, and granted an aggregate of 3,695,167 stock options during the nine months ended September 30, 2023, with a weighted-average grant date fair value of $ 0.39 per share. The Company granted an aggregate of 1,275,000 stock options during the three months ended September 30, 2022, with a weighted-average grant date fair value of $ 1.52 per share, and granted an aggregate of 7,150,438 stock options during the nine months ended September 30, 2022, with a weighted-average grant date fair value of $ 1.91 per share. For the three and nine months ended September 30, 2023 and 2022, the fair value of stock options was estimated on the date of grant using a Black-Scholes option valuation model with the following assumptio 16 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) For the Three Months Ended September 30, For the Nine Months Ended September 30, 2023 2022 2023 2022 Risk-free interest rate 4.01 % 2.94 – 3.62 % 3.51 – 4.01 % 1.63 – 3.62 % Expected life in years 6.25 6.23 – 6.25 5.06 – 6.25 5.27 – 6.25 Expected volatility 90.65 % 82.43 – 85.89 % 89.69 – 95.63 % 74.49 – 85.89 % Expected dividend yield — % — % — % — % 2. Stock option activity under the Company’s stock option plans for the nine months ended September 30, 2023 was as follows: (in thousands, except share and per share data) Number of Shares Weighted- Average Exercise Price Weighted- Average Contractual Term (Years) Aggregate Intrinsic Value Outstanding, December 31, 2022 10,408,622 $ 1.84 Granted 3,695,167 0.51 Cancelled ( 1,686,760 ) 1.35 Outstanding, September 30, 2023 12,417,029 $ 1.51 8.89 $ — Options exercisable, September 30, 2023 6,126,738 $ 2.02 5.56 $ — Options exercisable, December 31, 2022 3,891,598 $ 2.46 8.08 $ — Options available for future grant, September 30, 2023 13,451,681 At September 30, 2023, total unrecognized compensation costs related to unvested stock options outstanding amounted to $ 4.2 million. The cost is expected to be recognized over a weighted-average period of 1.70 years. A summary of the status of unvested restricted stock for the nine months ended September 30, 2023 was as follows: Number of Shares Weighted-Average Grant Date Fair Value Unvested, December 31, 2022 939,062 $ 1.40 Vested ( 501,562 ) 1.20 Unvested, September 30, 2023 437,500 $ 1.64 At September 30, 2023, total unrecognized compensation costs related to unvested restricted stock outstanding amounted to $ 0.7 million. The cost is expected to be recognized over a weighted-average period of 1.48 years. 11. Warrants In connection with the Company’s November 2018 private placement that provided net proceeds of approximately $ 47.1 million, the Company issued warrants to purchase an aggregate of 18,939,394 shares of common stock, which became exercisable six months after the closing of the private placement, or the November 2018 Warrants. The November 2018 Warrants had an exercise price of $ 3.01 per share and have a five-year term. The fair value of the November 2018 Warrants was estimated at $ 18.4 million using a Black-Scholes model with the following assumptio expected volatility of 71 %, risk free interest rate of 2.99 %, expected life of five years and no dividends. On July 26, 2019 and September 12, 2019, the Company entered into agreements with existing investors whereby the investors exercised the November 2018 Warrants for an aggregate of 17,803,031 shares of common stock, at an exercise price of $ 3.01 per share. Proceeds from the warrant exercise after deducting placement agent fees and other related expenses of $ 1.1 million were approximately $ 52.5 million. The Company issued participating investors new warrants to purchase up to 17,803,031 additional shares of common stock (the "2019 Warrants") as consideration for the warrant holders to exercise their November 2018 Warrants. The 2019 Warrants will expire on the fifth anniversary of the initial exercise date and have an exercise price of $ 7.00 . The 2019 Warrants were valued using a Black-Scholes valuation model and resulted in a $ 60.8 million non-cash charge in the Company’s statement of operations in 2019. On October 22, 2019, the Company entered into the 2019 R&D Agreement with MD Anderson. In connection with the execution of the 2019 R&D Agreement, the Company issued the MD Anderson Warrant to purchase 3,333,333 shares of common stock. The MD 17 Alaunos Therapeutics, Inc. NOTES TO CONDENSED FINANCIAL STATEMENTS (unaudited) Anderson Warrant has an initial exercise price of $ 0.001 per share and grant date fair value of $ 14.5 million. The MD Anderson Warrant expires on December 31, 2026 and vests upon the occurrence of certain clinical milestones. The Company will recognize expense on the MD Anderson Warrant in the same manner as if the Company paid cash for services to be rendered. For the three and nine months ended September 30, 2023 and 2022, the Company did not recognize any expense related to the MD Anderson Warrant as the clinical milestones had not been achieved. On August 6, 2021, the Company entered into the Loan and Security Agreement with SVB. Refer to Note 4, Debt . In connection with the Loan and Security Agreement, the Company issued SVB warrants to purchase 432,844 shares of common stock with an exercise price of $2.22 per share. The warrants have a ten-year life and were fully vested upon issuance. The fair value of the warrants was estimated at $ 0.8 million using a Black-Scholes model with the following assumptio expected volatility of 79 %, risk free interest rate of 1.31 %, expected life of ten years and no dividends. On December 28, 2021, the Company entered into the First Amendment, as described in Note 4, Debt, in connection with which, the original warrants issued to SVB were amended and restated. As amended and restated, the SVB Warrants are for up to 649,615 shares of common stock, in the aggregate, with an exercise price of $1.16 per share. The SVB Warrants expire on August 6, 2031 and were fully vested upon issuance. As of September 30, 2023, none of the SVB Warrants have been exercised. 12. Restructuring On August 14, 2023, the Company announced a strategic reprioritization of its business and wind down of its TCR-T Library Phase 1/2 Trial. In connection with the reprioritization, the Company reduced its workforce by approximately 60 % during the third quarter of 2023. Concurrently, the Company began considering certain strategic alternatives, including, but not limited to, an acquisition, merger, reverse merger, sale of assets, strategic partnerships, capital raises or other transactions. During the three and nine months ended September 30, 2023, the Company recorded termination benefits of $ 0.4 million, recorded in restructuring costs within the condensed statement of operations. The termination benefits were fully paid as of September 30, 2023. 13. Joint Venture On December 18, 2018, the Company entered into a Framework Agreement with TriArm whereby the parties agreed to launch Eden BioCell, to lead clinical development and commercialization of certain Sleeping Beauty -generated CAR-T therapies as set forth in a separate license agreement. On January 3, 2019, Eden BioCell was incorporated in Hong Kong as a private company. Eden BioCell, the Company and TriArm entered into a Share Subscription Agreement on January 23, 2019, where the Company and TriArm agreed to contribute certain intellectual property, services and cash (only with respect to TriArm) to Eden BioCell to subscribe for a certain number of newly issued ordinary shares in the share capital of Eden BioCell. The closing of the transaction occurred on July 5, 2019. The Framework Agreement and Share Subscription Agreements were each respectively amended to be effective as of this date. Upon consummation of the joint venture, Eden BioCell and the Company also entered into a license agreement, pursuant to which the Company licensed the rights to Eden BioCell for third generation Sleeping Beauty -generated CAR-T therapies targeting the CD19 antigen for the territory of China (including Macau and Hong Kong), Taiwan and Korea. TriArm and the Company each received a 50 % equity interest in the joint venture in exchange for their contributions to Eden BioCell. The Company determined that Eden BioCell was considered a variable interest entity, or VIE, and concluded that it was not the primary beneficiary of the VIE as it did not have the power to direct the activities of the VIE. As a result, the Company accounted for the equity interest in Eden BioCell under the equity method of accounting as it had the ability to exercise significant influence. In September 2021, TriArm and the Company mutually agreed to dissolve the joint venture, which has now been terminated. The Eden BioCell entity has been dissolved as of July 2023. 14. Subsequent Events The Company has evaluated subsequent events from the balance sheet date through the date on which these condensed financial statements were issued. Other than as described in the notes above, the Company did not have any material subsequent events that impacted its condensed financial statements or disclosures. 18 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed financial statements and related notes included in this Quarterly Report on Form 10-Q and the audited financial information and related notes included in our Annual Report on Form 10-K, which was filed with the Securities and Exchange Commission, or the SEC, on March 7, 2023, or the Annual Report. Except for the historical financial information contained herein, the matters discussed in this Quarterly Report on Form 10-Q may be deemed to contain forward-looking statements that reflect our plans, estimates and beliefs. We make such forward-looking statements pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and other federal securities laws. In this Quarterly Report on Form 10-Q, words such as “may,” “expect,” “anticipate,” “estimate,” “intend,” “plan” and similar expressions (as well as other words or expressions referencing future events, conditions or circumstances) are intended to identify forward-looking statements. Our actual results could differ materially from those contained in or implied by any forward-looking statements. Factors that could cause or contribute to these differences include those risks identified under Part II, Item 1A. Risk Factors. Overview We have operated as a clinical-stage oncology-focused cell therapy company developing adoptive TCR-T cell therapy, designed to treat multiple solid tumor types in large cancer patient populations with unmet clinical needs. We were working to leverage our cancer hotspot mutation TCR library and our proprietary, non-viral Sleeping Beauty gene transfer platform to design and manufacture patient-specific cell therapies that target neoantigens arising from shared tumor-specific mutations in key oncogenic genes, including KRAS , TP53 and EGFR . In collaboration with the MD Anderson Cancer Center, or MD Anderson, we were enrolling and treating patients for a Phase 1/2 clinical trial which was evaluating 12 TCRs reactive to mutated KRAS, TP53 and EGFR from our TCR library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers, which we refer to as our TCR-T Library Phase 1/2 Trial. We have not generated any product revenue and have incurred significant net losses in each year since our inception. For the nine months ended September 30, 2023, we had a net loss of $27.3 million, and as of September 30, 2023, we have incurred approximately $907.9 million of accumulated deficit since our inception in 2003. We expect to continue to incur significant operating expenditures and net losses. On August 14, 2023, we announced a strategic reprioritization of our business and wind down of our TCR-T Library Phase 1/2 Trial. In connection with the reprioritization, we have reduced our workforce by approximately 80% to date and we continue working to reduce costs in order to extend our cash runway. We continue to explore strategic alternatives, including, but not limited to, an acquisition, merger, reverse merger, sale of assets, strategic partnerships, capital raises or other transactions. We have engaged Cantor Fitzgerald & Co., or Cantor, to act as strategic advisor for this process. In addition, on August 14, 2023, we announced that we had provided the requisite notice to the NCI to terminate the Cooperative Research and Development Agreement, dated January 9, 2017, by and among us, the National Cancer Institute, or the NCI, and Intrexon Corporation, or Intrexon, as amended (such agreement referred to herein as the CRADA), pursuant to its terms, effective October 13, 2023. Recent Developments TCR-T Library Phase 1/2 Trial Eight patients were treated and evaluated in our TCR-T Library Phase 1/2 Trial. Patients with pancreatic (3), colorectal (4) and non-small cell lung cancer (1) were treated, with certain pancreatic and colorectal patients also having lung metastases. Overall, the trial showed our T-cells were generally well-tolerated in all evaluable participants with no dose-limiting toxicities (DLTs) and no immune effector cell-associated neurotoxicity syndrome (ICANS) were observed. All cytokine release syndrome (CRS) events were within grades 1-3 and were self-limiting or resolved with standard clinical management and, in some cases, a single dose of tocilizumab. One patient with non-small cell lung cancer (NSCLC) achieved an objective partial response with six months progression-free survival. Six other patients achieved best overall response of stable disease. The total overall response rate was 13% and disease control rate was 87% in evaluable patients with advanced, metastatic, refractory solid tumors (see Figure A). Disease control was measured by objective responses and stable disease. Increased secretion of interferon-gamma relative to baseline was detected in all patients' serum post-cell transfer suggesting recognition of the tumor by the infused TCR-T cells. Persistence of TCR-T cells in peripheral blood was detected in all evaluable patients at their last follow-up, including up to six months in one patient. Infiltration of TCR-T cells into the tumor was also detected in three samples where a fresh biopsy was collected suggesting homing to the tumor microenvironment. All patients have progressed or withdrawn from the trial and long-term follow-up is ongoing for a subset of patients with no further intervention per the treatment protocol. This trial established proof-of-concept that Sleeping Beauty TCR-T cells can result in objective clinical responses and recognize established tumors in vivo. 19 Figure A Despite the encouraging TCR-T Library Phase 1/2 Trial data, based on the substantial cost to continue development and the current financing environment, we announced in August 2023 that we would not pursue any further development of our clinical programs. hunTR® Platform We have discovered multiple proprietary TCRs targeting driver mutations through our hunTR TCR discovery platform. In addition to TCRs that recognize KRAS and TP53 mutations similar to those licensed from the NCI, we identified additional TCRs that bind to other driver mutations and TCRs that are restricted to additional HLAs. We believe that the hunTR library has the potential to allow for the treatment of a large patient population. Strategic Alternatives We continue to explore strategic alternatives, which may include but are not limited to, an acquisition, merger, reverse merger, sale of assets, strategic partnerships, capital raises or other transactions. In connection with the strategic reprioritization, we have reduced our workforce by approximately 80% to date in order to streamline the organization and to maximize our cash runway. Nasdaq Delisting Determination As previously disclosed on January 4, 2023, we were notified by the Listing Qualifications Department, or the Staff, of The Nasdaq Stock Market LLC, or Nasdaq, that we were in breach of Listing Rule 5450(a)(1), or the Minimum Bid Price Rule, for continued listing on the Nasdaq Global Select Market because the minimum bid price of our listed securities for 30 consecutive business days had been less than $1 per share. In accordance with Nasdaq Listing Rule 5810(c)(3)(A), or the Compliance Period Rule, we were provided a period of 180 calendar days, or until July 3, 2023, or the Compliance Date, to regain compliance with the Bid Price Requirement. On June 22, 2023, we applied to transfer our listing from the Nasdaq Global Select Market to the Nasdaq Capital Market, or the Transfer. On July 5, 2023, Nasdaq notified us that the Transfer was approved, and that, in connection with the Transfer, we were eligible for an additional 180 calendar day period, or until January 2, 2024, or the Extended Compliance Date, to regain compliance with the Minimum Bid Price Rule. On November 8, 2023, we received a Staff Delisting Determination letter, or the Delisting Determination, from the Staff notifying us that, because the closing bid price for our common stock was below $0.10 per share for 10 consecutive trading days during the Extended Compliance Period, the Staff has determined to suspend trading of our common stock on Nasdaq pursuant to Nasdaq Listing Rule 5810(c)(3)(A)(iii), effective November 17, 2023, and file a Form 25-NSE with the SEC to remove our common stock from listing and registration under the Securities Exchange Act of 1934, as amended, unless we timely request an appeal of the Delisting Determination to a Nasdaq Hearings Panel, or the Panel. We intend to timely request a hearing before the Panel to appeal the Delisting Determination and expect a hearing before the Panel to be scheduled where we will seek to remain listed until we are able to consummate a strategic transaction, if ever. Following the hearing, we expect the Panel to issue a written decision that will determine whether our common stock will remain listed on Nasdaq. A timely request for a hearing ordinarily stays the suspension or delisting of our common stock so we expect our common stock will continue to trade on the Nasdaq Capital Market under the symbol “TCRT” while the appeal process is pending. Financial Overview Collaboration Revenue We recognize research and development funding revenue over the estimated period of performance. To date we have not generated product revenue. Unless and until we receive approval from the U.S. Food and Drug Administration, or the FDA, and/or other regulatory authorities for our product candidates, we cannot sell our products and will not have product revenue. 20 Research and Development Expenses Our research and development expenses have historically consisted primarily of salaries and related expenses for personnel, costs of contract manufacturing services, costs of facilities, reagents, and equipment, fees paid to professional service providers in conjunction with our clinical trials, fees paid to contract research organizations, or CROs, in conjunction with clinical trials, fees paid to CROs in conjunction with costs of materials used in research and development, consulting, license and milestone payments and sponsored research fees paid to third parties. General and Administrative Expenses General and administrative expenses consist primarily of salaries, benefits and stock-based compensation, consulting and professional fees, including patent related costs, general corporate costs and facility costs not otherwise included in research and development expenses. Restructuring Costs Restructuring costs consists of severance provided to terminated employees. Other Income (Expense) Other income (expense) consists primarily of interest expense associated with our amended Loan and Security Agreement (as defined below), interest income on our cash balances and sublease income. Results of Operations Three and Nine Months Ended September 30, 2023 Compared to Three and Nine Months Ended September 30, 2022 Collaboration Revenue Collaboration revenue during the three and nine months ended September 30, 2023 and 2022 was as follows: Three Months Ended September 30, Nine Months Ended September 30, 2023 2022 Change 2023 2022 Change ($ in thousands) Collaboration revenue $ — $ 2,911 $ (2,911 ) (100 )% $ 4 $ 2,911 $ (2,907 ) (100 )% Collaboration revenue during the three months ended September 30, 2023 was $0 and was $4 thousand for the nine months ended September 30, 2023, as compared to $2.9 million during the three and nine months ended September 30, 2022, due to revenue earned under the Solasia License and Collaboration Agreement, which did not recur in the three and nine months ended September 30, 2023. Research and Development Expenses Research and development expenses during the three and nine months ended September 30, 2023 and 2022 were as follows: Three Months Ended September 30, Nine Months Ended September 30, 2023 2022 Change 2023 2022 Change ($ in thousands) Research and development expenses $ 3,656 $ 7,893 $ (4,237 ) (54 )% $ 15,346 $ 19,411 $ (4,065 ) (21 )% Research and development expenses for the three months ended September 30, 2023 decreased by $4.2 million when compared to the three months ended September 30, 2022, primarily due to lower program expenses of $1.0 million as a result of the wind-down of our clinical activities, a $0.6 million decrease in employee-related expenses due to our reduced headcount, an accrual adjustment related to our de-prioritized clinical programs of $0.3 million and a $2.5 million milestone payment to MD Anderson in 2022 under the terms of our patent and technology license agreement that did not recur in 2023, partially offset by a $0.2 million increase in expenses related to our KBI legal matter. Research and development expenses for the nine months ended September 30, 2023 decreased by $4.1 million when compared to the nine months ended September 30, 2022, primarily due to lower employee-related expenses of $1.5 million as a result of our reduced headcount, an accrual adjustment related to our de-prioritized clinical programs of $1.0 million, a $0.2 million decrease in facilities costs following the termination of one of our leases and a $2.5 million milestone payment to MD Anderson in 2022 under the terms of our patent and technology license agreement that did not recur in 2023. These decreases were partially offset by a $0.9 million increase in expenses related to our incremental manufacturing and hunTR efforts prior to our decision to strategically reprioritize our focus and a $0.2 million increase in expenses related to our KBI legal matter. 21 For the three and nine months ended September 30, 2023, our clinical stage projects included our TCR-T Library Phase 1/2 Trial evaluating TCRs from our library for the investigational treatment of non-small cell lung, colorectal, endometrial, pancreatic, ovarian and bile duct cancers, which we are currently in the process of winding down. We expect our research and development expenses to decrease significantly going forward as we continue reducing investment in our clinical and pre-clinical programs and reduce our workforce. General and Administrative Expenses General and administrative expenses during the three and nine months ended September 30, 2023 and 2022 were as follows: Three Months Ended September 30, Nine Months Ended September 30, 2023 2022 Change 2023 2022 Change ($ in thousands) General and administrative expenses $ 3,578 $ 3,282 $ 296 9 % $ 9,791 $ 10,217 $ (426 ) (4 )% General and administrative expenses for the three months ended September 30, 2023 increased by $0.3 million as compared to the three months ended September 30, 2022, primarily due to higher consulting and professional services expenses of $0.9 million related to increased legal costs, partially offset by a $0.4 million decrease in employee-related expenses due to our reduced headcount and a $0.2 million decrease in insurance fees. General and administrative expenses for the nine months ended September 30, 2023 decreased by $0.4 million as compared to the nine months ended September 30, 2022, primarily due to lower employee-related expenses of $0.5 million due to our reduced headcount and a $0.4 million decrease in insurance fees, partially offset by a $0.6 million increase in consulting and professional services expenses related to higher legal costs. We expect general and administrative expenses to increase in connection with our strategic reprioritization, including potential legal, accounting and advisory expenses and other related charges. Gain on Lease Modification Gain on lease modifications during the three and nine months ended September 30, 2023 and 2022 was as follows: Three Months Ended September 30, Nine Months Ended September 30, 2023 2022 Change 2023 2022 Change ($ in thousands) Gain on lease modification $ — $ — $ — —% $ (245 ) $ (133 ) $ (112 ) 84 % There was no gain on lease modification for the three months ended September 30, 2023 and 2022. Gain on lease modification during the nine months ended September 30, 2023 was $0.2 million as compared to $0.1 million during the nine months ended September 30, 2022. As a result of a real estate lease termination during the second quarter of 2023, the associated lease liability and right-of-use asset were derecognized, resulting in a gain of $0.2 million. Following a real estate lease modification during the second quarter of 2022, the associated lease liability and right-of-use asset were remeasured based on the revised lease payments, resulting in a gain of $0.1 million. Restructuring Costs Restructuring costs during the three and nine months ended September 30, 2023 and 2022 were as follows: Three Months Ended September 30, Nine Months Ended September 30, 2023 2022 Change 2023 2022 Change ($ in thousands) Restructuring costs $ 419 $ — $ 419 100 % $ 419 $ — $ 419 100 % Restructuring costs during the three and nine months ended September 30, 2023 was $0.4 million as compared to $0 during the three and nine months ended September 30, 2022, due to severance expenses for terminated employees related to our strategic reprioritization announced in August 2023. 22 Property and Equipment and Right-of-Use Asset Impairment Property and equipment and right-of-use asset impairment during the three and nine months ended September 30, 2023 and 2022 was as follows: Three Months Ended September 30, Nine Months Ended September 30, 2023 2022 Change 2023 2022 Change ($ in thousands) Property and equipment and right-of-use asset impairment $ 1,011 $ — $ 1,011 100 % $ 1,011 $ — $ 1,011 100 % Property and equipment and right-of-use asset impairment during the three and nine months ended September 30, 2023 was $1.0 million as compared to $0 during the three and nine months ended September 30, 2022. Following the announcement of our strategic reprioritization in August 2023, there were changes in the intended use of property and equipment and lease right-of-use asset, resulting in a third quarter 2023 impairment charge. Other Income (Expense), Net Other income (expense), net during the three and nine months ended September 30, 2023 and 2022 was as follows: Three Months Ended September 30, Nine Months Ended September 30, 2023 2022 Change 2023 2022 Change ($ in thousands) Interest expense $ — $ (841 ) $ 841 (100 )% $ (1,921 ) $ (2,266 ) $ 345 (15 )% Other income, net 188 254 (66 ) (26 )% 942 279 663 238 % Total $ 188 $ (587 ) $ 775 (132 )% $ (979 ) $ (1,987 ) $ 1,008 (51 )% Other income, net, for the three months ended September 30, 2023 increased by $0.8 million as compared to the three months ended September 30, 2022, primarily due to lower interest expense associated with our former amended Loan and Security Agreement (as defined below). Other expense, net for the nine months ended September 30, 2023 decreased by $1.0 million as compared to the nine months ended September 30, 2022, primarily due to lower interest expense of $0.3 million associated with our former amended Loan and Security Agreement and higher interest income of $0.7 million as a result of increasing interest rates. Liquidity and Capital Resources Sources of Liquidity We have not generated any revenue from product sales. Since inception, we have incurred net losses and negative cash flows from our operations. To date, we have financed our operations primarily through public offerings of our common stock, private placements of our equity securities, term debt and collaborations. Through September 30, 2023, we have received an aggregate of $729.2 million from issuances of equity. On August 14, 2023, we announced a strategic reprioritization of our business and wind down of our TCR-T Library Phase 1/2 Trial. In connection with the reprioritization, we have reduced our workforce by approximately 80% to date and we continue working to reduce costs in order to extend our cash runway. We continue to explore strategic alternatives, including, but not limited to, an acquisition, merger, reverse merger, sale of assets, strategic partnerships, capital raises or other transactions. We have engaged Cantor to act as strategic advisor for this process. We follow the guidance of Accounting Standards Codification, or ASC, Topic 205-40, Presentation of Financial Statements - Going Concern , in order to determine whether there is substantial doubt about our ability to continue as a going concern for one year after the date our condensed financial statements are issued. Given our current development plans and cash management efforts, we anticipate that our cash resources will be sufficient to fund operations into the second quarter of 2024. Our ability to continue operations after our current cash resources are exhausted depends on our ability to obtain additional financing, as to which no assurances can be given. Cash requirements may vary materially from those now planned because of changes in our focus and direction of our research and development programs, competitive and technical advances, patent developments, regulatory changes or other developments. If adequate additional funds are not available when required, management may need to curtail its development efforts and planned operations to conserve cash. 23 Based on the current cash forecast, management has determined that our present capital resources will not be sufficient to fund our planned operations for at least one year from the issuance date of the condensed financial statements, which raises substantial doubt as to our ability to continue as a going concern. This forecast of cash resources and planned operations is forward-looking information that involves risks and uncertainties, and the actual amount of expenses could vary materially and adversely as a result of a number of factors. 2022 Public Offering On November 29, 2022, we entered into an underwriting agreement, or the Underwriting Agreement, with Cantor as the sole underwriter, relating to the issuance and sale in an underwritten offering, or the Offering, of 24,228,719 shares of our common stock, or the Firm Shares, to Cantor at a price of $0.6191 per share. Our net proceeds from the Offering were $14.7 million (before accounting for the partial exercise of Cantor's option as described below) after deducting underwriting discounts and commissions and offering expenses payable by us. Under the terms of the Underwriting Agreement, we granted Cantor an option, exercisable for 30 days, to purchase up to an additional 3,634,307 shares of common stock, or, together with the Firm Shares, the Shares, at the same price per share as the Firm Shares. On January 5, 2023, Cantor partially exercised its option to purchase an additional 216,294 shares of common stock. 2022 Equity Distribution Agreement On August 12, 2022, we entered into an Equity Distribution Agreement, or the Equity Distribution Agreement, with Piper Sandler & Co., or Piper Sandler, pursuant to which we can offer and sell, from time to time at our sole discretion, shares of our common stock having an aggregate offering price of up to $50 million through Piper Sandler as our sales agent in an “at the market offering.” Piper Sandler will receive a commission of 3.0% of the gross proceeds of any common stock sold under the Equity Distribution Agreement. During the three and nine months ended September 30, 2023, there were no sales of our common stock under the Equity Distribution Agreement. 2021 Loan and Security Agreement On August 6, 2021, we entered into a Loan and Security Agreement, or the Loan and Security Agreement, with SVB. The Loan and Security Agreement provided for an initial term loan of $25.0 million funded at the closing, or the Term A Tranche, with an additional tranche of $25.0 million available if certain funding and clinical milestones were met by August 31, 2022. The SVB Facility and related obligations under the Loan and Security Agreement were secured by substantially all of our properties, rights and assets, except for our intellectual property (which was subject to a negative pledge under the Loan and Security Agreement). In addition, the Loan and Security Agreement contained customary representations, warranties, events of default and covenants. Effective December 28, 2021, we entered into the First Amendment to the Loan and Security Agreement. Under the terms of the First Amendment, the additional tranche, which remained unfunded, was eliminated, leaving only the Term A Tranche, which is referred to as the SVB Facility. The SVB Facility bore interest at a floating rate per annum on the outstanding loans, payable monthly, at the greater of (a) 7.75% and (b) the current published U.S. prime rate, plus a margin of 4.5%. Commencing on September 1, 2022, aggregate outstanding borrowings became repayable in twelve consecutive, equal monthly installments of principal plus accrued interest. All outstanding obligations under the amended Loan and Security Agreement were due and payable on August 1, 2023. We also owed SVB $1.4 million as a final payment, or the Final Payment. Effective March 30, 2023, we entered into a Third Amendment to the Loan and Security Agreement, or the Third Amendment. Under the terms of the Third Amendment, we were no longer required to maintain all of our operating accounts, depository accounts and excess cash with SVB, and were instead only required to maintain a single operating or depository account at Silicon Valley Bank. The Third Amendment also modified the cash collateralization requirement, such that we were required to cash collateralize the entire sum of the outstanding principal amount of the SVB Facility plus an amount equal to the Final Payment, which amount was to be reduced commensurate with each regularly scheduled monthly payment of principal and interest on the SVB Facility. On May 1, 2023, we paid SVB all amounts outstanding under the amended Loan and Security Agreement, comprised of the entire outstanding principal amount under the SVB Facility, all accrued and unpaid interest and the Final Payment. The payment was subject to a prepayment premium of 2.00%. In connection with our entry into the Loan and Security Agreement in August 2021, we issued to SVB warrants to purchase (i) up to 432,844 shares of our common stock, in the aggregate, and (ii) up to an additional 432,842 shares of Common Stock, in the aggregate, in the event we achieved certain clinical milestones, in each case at an exercise price per share of $2.22. In connection with our entry into the First Amendment in December 2021, we amended and restated the warrants issued to SVB. As amended and restated, the 24 warrants are for up to 649,615 shares of our common stock, in the aggregate, with an exercise price of $1.16 per share, or the SVB Warrants. The SVB Warrants expire on August 6, 2031. Cash Flows The following table summarizes our net decrease in cash and cash equivalents for the nine months ended September 30, 2023 and 2022: Nine Months Ended September 30, 2023 2022 ($ in thousands) Net cash used in: Operating activities $ (22,757 ) $ (22,102 ) Investing activities (157 ) (100 ) Financing activities (18,138 ) (2,107 ) Net decrease in cash and cash equivalents $ (41,052 ) $ (24,309 ) Cash flows from operating activities represent the cash receipts and disbursements related to all of our activities other than investing and financing activities. Cash flows from operating activities are derived by adjusting our net loss • Non-cash operating items such as depreciation, impairment and stock-based compensation; and • Changes in operating assets and liabilities which reflect timing differences between the receipt and payment of cash associated with transactions and when they are recognized in results of operations. Net cash used in operating activities for the nine months ended September 30, 2023 was $22.8 million, as compared to net cash used in operating activities of $22.1 million for the nine months ended September 30, 2022. The increase in net cash used in operating activities was primarily related to changes in working capital. The net cash used in operating activities for the nine months ended September 30, 2023 was primarily due to our net loss of $27.3 million, adjusted for $8.1 million of non-cash items such as depreciation, impairment charges, stock-based compensation, gain on lease modification and a decrease in the carrying amount of right-of-use lease assets, a $2.3 million decrease in accrued expenses, a $1.6 million decrease in lease liabilities, a decrease in accounts payable of $0.1 million and an increase to prepaid expenses and other current assets of $0.1 million, partially offset by a $0.5 million decrease in other non-current assets. Net cash used in investing activities was $0.2 million for the nine months ended September 30, 2023, compared to $0.1 million for the nine months ended September 30, 2022. The increase was primarily related to the purchase of equipment to support our internal cell therapy capabilities in our Houston facilities. Net cash used in financing activities for the nine months ended September 30, 2023 was $18.1 million, compared to $2.1 million for the nine months ended September 30, 2022. The increase was primarily related to the full repayment of long-term debt. Operating Capital and Capital Expenditure Requirements We anticipate that losses will continue for the foreseeable future. As of September 30, 2023, our accumulated deficit was approximately $907.9 million. Our actual cash requirements may vary materially from those planned because of a number of factors, including changes in the focus, direction and pace of our development programs, including those resulting from the recently announced exploration of strategic alternatives and related workforce reduction. As of September 30, 2023, we had approximately $11.9 million of cash and cash equivalents. In light of our announced strategic reprioritization and concurrent exploration of strategic alternatives, including our decision to halt work on our TCR-T Library Phase 1/2 Trial, our development programs and reducing our workforce, we anticipate our cash resources will be sufficient to fund our operations into the second quarter of 2024. In order to continue our operations beyond our forecasted runway, including if necessary to continue to explore strategic alternatives, we will need to raise additional capital, and we have no committed sources of additional capital at this time. The forecast of cash resources is forward-looking information that involves risks and uncertainties, and the actual amount of our expenses could vary materially and adversely as a result of a number of factors. We have based our estimates on assumptions that may prove to be wrong, and our expenses could prove to be significantly higher than we currently anticipate. Management does not know whether additional financing will be on terms favorable or acceptable to us when needed, if at all. If adequate additional funds are not available when required, we may be unable to persist as a going concern for sufficient time to identify or execute on any strategic alternatives. 25 Working capital as of September 30, 2023 was $8.2 million, consisting of $12.9 million in current assets and $4.7 million in current liabilities. Working capital as of December 31, 2022 was $15.7 million, consisting of $39.9 million in current assets and $24.2 million in current liabilities. Operating Leases Our commitments for operating leases relate to laboratory and office space in Houston, Texas. On March 12, 2019, we entered into a lease agreement for office space in Houston at MD Anderson through April 2021. On October 15, 2019, we entered into another lease agreement for additional office and laboratory space in Houston through February 2027. On April 7, 2020, we entered into amendments to our existing lease to lease additional office and laboratory space in Houston through February 2027. On December 15, 2020, we entered into a second lease in Houston with MD Anderson which provided us additional office and laboratory space through April 2028. In April 2022, we modified our real estate lease agreement executed on December 15, 2020 with MD Anderson. The modification reduced our leased space from 18,111 square feet to 3,228 square feet. As a result, the associated lease liability and right-of-use asset were remeasured to $0.4 million based on revised lease payments. In April 2023, we executed an agreement to terminate the lease for our remaining office space in Boston, Massachusetts. Under the terms of the lease termination, we were required to pay a $0.2 million termination fee. Additionally, we have been released from a sub-sublease of certain of our office space in Boston signed in June 2022 as it has been assigned to the Boston office space's landlord in conjunction with the agreement to terminate the lease for the remaining office space. In August 2023, in accordance with the lease agreement executed on December 15, 2020, we provided notification to the landlord to terminate office space of 3,228 square feet in Houston, Texas. As a result, the associated lease liability and right-of-use asset were remeasured to $19 thousand, reflecting the revised lease payments and term end date of November 2023. On November 1, 2023, we and MD Anderson, as landlord, agreed to mutually terminate the leases dated October 15, 2019 and April 7, 2020, which represent office space totaling 14,037 square feet. The termination will be effective November 15, 2023 and we have agreed to make a final payment of $0.1 million to the landlord. Royalty and License Fees On May 28, 2019, we entered into a patent license agreement, or the Patent License, with the NCI. The terms of the Patent License require us to pay the NCI minimum annual royalties in the amount of $0.3 million, which will be reduced to $0.1 million once the aggregate minimum annual royalties paid by us equals $1.5 million. For the three months ended September 30, 2023 and 2022, we recognized $0 related to royalty payments under the Patent License, and we recognized $0.3 million in royalty payments under the Patent License for the nine months ended September 30, 2023 and 2022. As of September 30, 2023, we have paid a total of $0.8 million in minimum annual royalty payments under the Patent License. Pursuant to the Patent License, we are also required to make performance-based payments contingent upon the successful completion of clinical and regulatory benchmarks relating to the licensed products. Of such payments, the aggregate potential benchmark payments are $4.3 million, of which aggregate payments of $3.0 million are due only after marketing approval in the United States or in Europe, Japan, Australia, China or India. The first benchmark payment of $0.1 million was due upon the initiation of our TCR-T Library Phase 1/2 Trial. In addition, we are required to pay the NCI one-time benchmark payments following aggregate net sales of licensed products at certain aggregate net sales ranging from $250.0 million to $1.0 billion. The aggregate potential amount of these benchmark payments is $12.0 million. No payments were made during the three and nine months ended September 30, 2023, as compared to $0.1 million during the three and nine months ended September 30, 2022. On October 27, 2023, we provided the NCI the requisite notice of our intent to terminate the Patent License, effective 60 days from such notice. On October 5, 2018, we entered into the License Agreement with PGEN Therapeutics, Inc., or PGEN, a wholly owned subsidiary of Precigen. Except where the context otherwise requires, we refer to PGEN and Precigen together as Precigen. Under the License Agreement, we were obligated to pay Precigen an annual licensing fee of $0.1 million expected to be paid through the term of the License Agreement and we had also agreed to reimburse certain historical costs of Precigen up to $1.0 million. Pursuant to the terms of the License Agreement, we were responsible for contingent milestone payments totaling up to an additional $52.5 million for each exclusively licensed program upon the initiation of later stage clinical trials and upon the approval of exclusively licensed products in various jurisdictions. In addition, we were also required to pay Precigen tiered royalties ranging from low-single digits to high-single digits on the net sales derived from the sale of any approved IL-12 products and CAR products as well as royalties ranging from low-single digits to mid-single digits on the net sales derived from the sales of any approved TCR products, up to a maximum royalty amount of $100.0 million in the aggregate. We were also required to pay Precigen 20% of any sublicensing income received by us relating to the licensed products. We were also responsible for all development costs associated with each of the licensed products. Precigen was required to pay us royalties ranging from low-single digits to mid-single digits on the net sales 26 derived from the sale of Precigen's CAR products, up to a maximum royalty amount of $100.0 million. Pursuant to the A&R License Agreement, all royalty and milestone obligations between us and Precigen have been removed, and annual license payments due to Precigen have been reduced from $100 thousand to $75 thousand. Payment of the licensing fee is scheduled annually in the fourth quarter; therefore, in accordance with the terms of the agreement, no amounts were paid during the three and nine months ended September 30, 2023 and 2022. The Company has discovered multiple proprietary TCRs targeting driver mutations through its hunTR TCR discovery platform, including many of the same KRAS and TP53 mutations as licensed from the NCI. In June 2022, Solasia Pharma K. K., or Solasia, announced that darinaparsin had been approved from relapsed or refractory Peripheral T-Cell Lymphoma by the Ministry of Health, Labor and Welfare in Japan. During the three months ended September 30, 2023, the Company did not record collaboration revenue and during the nine months ended September 30, 2023, the Company recorded collaboration revenue of $4 thousand under the License and Collaboration Agreement, dated March 7, 2011, as amended on July 31, 2014 between Solasia and us, compared to $2.9 million for the three and nine months ended September 30, 2022. Critical Accounting Policies and Estimates In our Annual Report on Form 10-K for the year ended December 31, 2022, our most critical accounting policies and estimates upon which our financial status depends were identified as those relating to clinical trial expenses and other research and development expenses; collaboration agreements; fair value measurements for stock-based compensation; and income taxes. We reviewed our policies and determined that those policies remain our most critical accounting policies for the three and nine months ended September 30, 2023. Item 3. Quantitative and Qualitative Disclosures about Market Risk. As a smaller reporting company, as defined by Rule 12b-2 under the Securities Exchange Act of 1934, as amended, or the Exchange Act, we are not required to provide the information under this item. Item 4. Controls and Procedures. Evaluation of Disclosure Controls and Procedures Our management, with the participation of our principal executive officer and principal accounting officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) or 15d-15(e) under the Exchange Act) as of September 30, 2023. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by the company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal accounting officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Our management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and our management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of our disclosure controls and procedures as of September 30, 2023, our principal executive officer and principal accounting officer concluded that, as of such date, our disclosure controls and procedures were effective. Changes in Internal Control over Financial Reporting There were no changes in our internal control over financial reporting (as defined in Rule 13(a)-15(f) of the Exchange Act) that occurred during the quarter ended September 30, 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 27 PART II—OTHER INFORMATION Item 1. Legal Proceedings In the ordinary course of business, we may periodically become subject to legal proceedings and claims arising in connection with ongoing business activities from time to time. The results of litigation and claims cannot be predicted with certainty, and unfavorable resolutions are possible and could materially affect our results of operations, cash flows or financial position. In addition, regardless of the outcome, litigation could have an adverse impact on us because of defense costs, diversion of management attention and resources and other factors. As of September 30, 2023, based on information readily available, other than as described below, there are no material matters that, in the opinion of management, are likely to result in a material adverse effect on our financial position, results of operations or cash flows. KBI Biopharma Litigation On March 17, 2023, KBI Biopharma, Inc., or KBI, filed a complaint against us in the District Court of Harris County, Texas, 165th Judicial District, asserting breach of an Amended and Restated Master Services Agreement between us and KBI relating to the development of an autologous gene modified T-cell therapy product, or the KBI Agreement. KBI was primarily seeking unspecified monetary damages in excess of $3.2 million. On May 1, 2023, we filed an answer generally denying all of KBI’s allegations and asserting affirmative and other defenses as well as counterclaims for breach of the KBI Agreement and conversion. On October 20, 2023, we entered into an agreement with KBI to settle all claims asserted by KBI against us and our counterclaims against KBI at issue in the litigation for $1.0 million. As a result, we have accrued $1.0 million as of September 30, 2023 for the settlement. Item 1A. Risk Factors The following important factors could cause our actual business and financial results to differ materially from those contained in forward-looking statements made in this Quarterly Report on Form 10-Q or elsewhere by management from time to time. The risk factors in this Quarterly Report have been revised to incorporate changes to our risk factors from those included in our Annual Report. The risk factors set forth below with an asterisk (*) before the title are new risk factors or ones containing substantive changes from the risk factors previously disclosed in Item 1A of our Annual Report, as filed with the SEC. The market price of our common stock could decline if one or more of these risks or uncertainties actually occur, causing you to lose all or part of your investment. This situation is changing rapidly and additional impacts may arise. Additional risks that we currently do not know about, or that we currently believe to be immaterial, may also impair our business. Certain statements below are forward-looking statements. See “Special Note Regarding Forward-Looking Statements” in this Quarterly Report. RISKS RELATED TO OUR STRATEGIC REPRIORITIZATION *Our strategic reprioritization may not be successful, may not yield the desired results and we may be unsuccessful in identifying and implementing any strategic transaction. On August 14, 2023, we announced a strategic reprioritization of our business and wind down of our TCR-T Library Phase 1/2 Trial. In connection with the reprioritization, we have reduced our workforce by approximately 80% to date and we continue working to reduce costs in order to extend our cash runway. We continue to explore strategic alternatives, including, but not limited to, an acquisition, merger, reverse merger, sale of assets, strategic partnerships, capital raises or other transactions. We have engaged Cantor to act as strategic advisor for this process. We believe there is value in our hunTR TCR discovery platform. However, the platform is experimental. There can be no assurances that we can succeed in improving the platform’s appeal and increasing its value. We may be unable to successfully monetize the platform or any TCRs we discovered, either through partnerships or out-licensing. We expect to devote substantial time and resources to exploring strategic alternatives that our Board of Directors believes will maximize stockholder value. Despite devoting significant efforts to identify and evaluate potential strategic alternatives, there can be no assurance that this strategic review process will result in us pursuing any transaction or that any transaction, if pursued, will be completed on attractive terms or at all. We have not set a timetable for completion of this strategic review process, and our Board of Directors has not approved a definitive course of action. Additionally, there can be no assurances that any particular course of action, business arrangement or transaction, or series of transactions, will be pursued, successfully consummated or lead to increased stockholder value or that we will make any additional cash distributions to our stockholders. The process of continuing to evaluate these strategic options may be very costly, time-consuming and complex and we have incurred, and may in the future incur, significant costs related to this continued evaluation, such as legal and accounting fees and expenses and other related charges. We may also incur additional unanticipated expenses in connection with this process. A considerable portion of 28 these costs will be incurred regardless of whether any such course of action is implemented or transaction is completed. Any such expenses will decrease the remaining cash available for use in our business. In addition, potential counterparties in a strategic transaction involving the Company may place minimal or no value on our assets or our public listing. Further, should we resume the development of our product candidates, the development and any potential commercialization of our product candidates will require substantial additional cash to fund the costs associated with conducting the necessary preclinical and clinical testing and obtaining regulatory approval. Consequently, any potential counterparty in a strategic transaction involving the Company may choose not to spend additional resources and continue development of our product candidates and may attribute little or no value, in such a transaction, to those product candidates. In addition, any strategic business combination or other transactions that we may consummate in the future could have a variety of negative consequences and we may implement a course of action or consummate a transaction that yields unexpected results that adversely affect our business and decreases the remaining cash available for use in our business or the execution of our strategic plan. Any potential transaction would be dependent on a number of factors that may be beyond our control, including, among other things, market conditions, industry trends, the interest of third parties in a potential transaction with us, obtaining stockholder approval and the availability of financing to third parties in a potential transaction with us on reasonable terms. Any failure of such potential transaction to achieve the anticipated results could significantly impair our ability to enter into any future strategic transactions and may significantly diminish or delay any future distributions to our stockholders. If we are not successful in setting forth a new strategic path for the Company, or if our plans are not executed in a timely fashion, this may cause reputational harm with our stockholders and the value of our securities may be adversely impacted. In addition, speculation regarding any developments related to the review of strategic alternatives and perceived uncertainties related to the future of the Company could cause our stock price to fluctuate significantly. *Even if we successfully consummate a transaction from our strategic assessment, we may fail to realize all of the anticipated benefits of the transaction, those benefits may take longer to realize than expected, or we may encounter integration difficulties. Our ability to realize the anticipated benefits of any potential business combination or any other result from our strategic assessment is highly uncertain. Any anticipated benefits will depend on a number of factors, including our ability to integrate with any future business partner, the success of any future business we may engage in following the transaction and our ability to obtain value for our product candidates or technologies, if divested. The process may be disruptive to our business and the expected benefits may not be achieved within the anticipated timeframe, or at all. The failure to meet the challenges involved and to realize the anticipated benefits of any potential transaction could adversely affect our business and financial condition. Furthermore, our stockholders may experience substantial dilution as a result of the transaction without receiving the expected commensurate benefit, or only receiving part of the commensurate benefit to the extent we are able to realize only part of the expected strategic and financial benefits currently anticipated from a transaction. *We may require substantial additional financial resources to continue as a going concern, including through the strategic review process, and if we raise additional funds, this may affect the value of your investment in our common stock. We have not generated significant revenue and have incurred significant net losses in each year since our inception. For the nine months ended September 30, 2023, we had a net loss of $27.3 million, and, as of September 30, 2023, our accumulated deficit since inception in 2003 was $907.9 million. Although we are in the process of implementing a restructuring plan, or the Plan, whereby we are winding down our TCR-T Library Phase 1/2 Trial, other development programs and implementing a reduction in force, in order to reduce operating expenditures and net losses, as discussed above, there can be no assurances we will be successful at all, or in the amount we anticipate. In connection with our strategic reprioritization, we unilaterally terminated the CRADA in August 2023 and have provided the NCI notice of our intent to terminate the Patent License. As of September 30, 2023, we have approximately $11.9 million of cash and cash equivalents. Following implementation of the Plan, we anticipate our cash resources will be sufficient to fund our operations into the second quarter of 2024. We have not set a timetable for completion of the strategic review process and the timing of consummating a strategic transaction, if any, is not entirely within our control. We have no committed sources of additional capital at this time. Accordingly, we could exhaust our current cash resources prior to the identification or consummation of a suitable strategic alternative, requiring the Company to raise additional capital. We anticipate that our exploration of strategic alternatives will make it more difficult to raise additional capital. To the extent that we raise additional capital by issuing equity securities, our existing stockholders’ ownership will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect the rights of our common stockholders. Debt financing and preferred equity financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, creating liens, making capital expenditures or declaring dividends, which may further constrain our ability to execute on strategic alternatives. We follow the guidance of Accounting Standards Codification, or ASC, Topic 205-40, Presentation of Financial Statements - Going Concern , in order to determine whether there is substantial doubt about our ability to continue as a going concern for one year after the 29 date our condensed financial statements are issued. Based on the current cash forecast, management has determined that our present capital resources will not be sufficient to fund our planned operations for at least one year from the issuance date of the condensed financial statements, which raises substantial doubt as to our ability to continue as a going concern. The forecast of cash resources is forward-looking information that involves risks and uncertainties, and our actual cash requirements may vary materially from our current expectations for a number of other factors that may include, but are not limited to, the progress of our strategic review and the pursuit of and progress on one or more options identified in such review. Global political and economic events, including the war in Ukraine and increased inflation, have already resulted in a significant disruption of global financial markets. If the disruption persists and deepens, we could experience an inability to access additional capital or make the terms of any available financing less attractive, which could in the future negatively affect our operations. *If we are successful in completing a strategic transaction, we may be exposed to other operational and financial risks. Although there can be no assurance that a strategic transaction will result from the process we have undertaken to identify and evaluate strategic alternatives, the negotiation and consummation of any such transaction will require significant time on the part of our management, and the diversion of management’s attention may disrupt our business. The negotiation and consummation of any such transaction may also require more time or greater cash resources than we anticipate and expose us to other operational and financial risks, includin • increased near-term and long-term expenditures; • unknown liabilities; • higher than expected acquisition or integration costs; • incurrence of substantial debt or dilutive issuances of equity securities to fund future operations; • write-downs of assets or incurrence of non-recurring, impairment or other charges; • increased amortization expenses; • difficulty and cost in combining the operations and personnel of any counterparty business with our operations and personnel; • impairment of relationships with key suppliers or customers of any acquired business due to changes in management and ownership; • inability to retain key employees of our company or any acquired business; and • possibility of future litigation. Any of the foregoing risks could have a material adverse effect on our business, financial condition and prospects. *If a strategic transaction is not consummated, our Board of Directors may decide to pursue a dissolution and liquidation. In such an event, the amount of cash available for distribution to our stockholders will depend heavily on the timing of such liquidation as well as the amount of cash that will need to be reserved for commitments and contingent liabilities. There can be no assurance that a strategic transaction will be completed. If a strategic transaction is not completed, our Board of Directors may decide to pursue a dissolution and liquidation. In such an event, the amount of cash available for distribution to our stockholders will depend heavily on the timing of such decision and, with the passage of time the amount of cash available for distribution will be reduced as we continue to fund our operations and exploration of strategic alternatives. In addition, if our Board of Directors were to approve and recommend, and our stockholders were to approve, a dissolution and liquidation, we would be required under Delaware corporate law to pay our outstanding obligations, as well as to make reasonable provision for contingent and unknown obligations, prior to making any distributions in liquidation to our stockholders. As a result of this requirement, a portion of our assets may need to be reserved pending the resolution of such obligations and the timing of any such resolution is uncertain. In addition, we may be subject to litigation or other claims related to a dissolution and liquidation. If a dissolution and liquidation were pursued, our Board of Directors, in consultation with our advisors, would need to evaluate these matters and make a determination about a reasonable amount to reserve. Accordingly, holders of our common stock could lose all or a significant portion of their investment in the event of a liquidation, dissolution or winding up. *Our ability to consummate a strategic transaction depends on our ability to retain our remaining employees. Our ability to consummate a strategic transaction depends upon our ability to retain our remaining employees, the loss of whose services may adversely impact our ability to consummate such transaction. In connection with the evaluation of strategic alternatives and in order to extend our resources, on August 14, 2023, we implemented the Plan that included reducing our workforce. The 30 reduction in force has impacted approximately 80% of our workforce to date, including key members of our management team. Our cash conservation activities may yield unintended consequences, such as attrition beyond our planned reduction in workforce and reduced employee morale, which may cause remaining employees to seek alternative employment. If we are unable to successfully retain our remaining personnel, we are at risk of a disruption to our exploration and consummation of a strategic alternative as well as business operations. *Our corporate restructuring and the associated headcount reduction may not result in anticipated savings, could result in total costs and expenses that are greater than expected and could disrupt our business. On August 14, 2023, in connection with the evaluation of strategic alternatives and in order to extend our resources, our Board of Directors approved the Plan that included reducing our workforce, which has impacted approximately 80% of our workforce to date. In addition, the Plan included a discontinuation of our clinical development programs and further prioritization of our resources as we assess strategic alternatives. We estimate that we will incur approximately $2.5 to $3.0 million for retention, severance and other employee termination-related costs starting in the third quarter of 2023 through to the second quarter of 2024. We may not realize, in full or in part, the anticipated benefits, savings and improvements in our cost structure from our restructuring efforts due to unforeseen difficulties, delays or unexpected costs. If we are unable to realize the expected operational efficiencies and cost savings from the restructuring, our operating results and financial condition would be adversely affected. Furthermore, the Plan may be disruptive to our operations. For example, our headcount reductions could yield unanticipated consequences, such as increased difficulties in implementing our business strategy, including retention of our remaining employees. Any employee litigation related to the headcount reduction could be costly and prevent management from fully concentrating on the business. Any future growth would impose significant added responsibilities on members of management, including the need to identify, recruit, maintain and integrate additional employees. Due to our limited resources, we may not be able to effectively manage our operations or recruit and retain qualified personnel, which may result in weaknesses in our infrastructure and operations, risks that we may not be able to comply with legal and regulatory requirements, and loss of employees and reduced productivity among remaining employees. For example, the workforce reduction may negatively impact our clinical, regulatory, technical operations, and commercial functions, should we choose to continue to pursue them, which would have a negative impact on our ability to successfully develop, and ultimately, commercialize our product candidates. Our future financial performance and our ability to develop our product candidates or additional assets will depend, in part, on our ability to effectively manage any future growth or restructuring, as the case may be. *We may become involved in litigation, including securities class action litigation, that could divert management’s attention and harm the Company’s business, and insurance coverage may not be sufficient to cover all costs and damages. In the past, litigation, including securities class action litigation, has often followed certain significant business transactions, such as the sale of a company or announcement of any other strategic transaction, or the announcement of negative events, such as negative results from clinical trials. These events may also result in investigations by the SEC or other governmental agencies. We may be exposed to such litigation even if no wrongdoing occurred. Litigation is usually expensive and diverts management’s attention and resources, which could adversely affect our business and cash resources and our ability to consummate a potential strategic transaction or the ultimate value our stockholders receive in any such transaction. RISKS RELATED TO OUR BUSINESS *We received a Delisting Determination from Nasdaq. Delisting could prevent us from maintaining an active, liquid and orderly trading market for our common stock and may impact our ability to consummate certain strategic transactions. Our ability to publicly or privately sell equity securities and the liquidity of our common stock could be adversely affected if we are delisted from the Nasdaq Capital Market or if we are unable to transfer our listing to another stock market. On January 4, 2023, we were notified by The Nasdaq Stock Market LLC, or Nasdaq, that we were in breach of Listing Rule 5450(a)(1), or the Minimum Bid Price Rule, for continued listing on the Nasdaq Global Select Market because the minimum bid price of our listed securities for 30 consecutive business days had been less than $1 per share. In accordance with Nasdaq Listing Rule 5810(c)(3)(A), or the Compliance Period Rule, we were provided a period of 180 calendar days, or until July 3, 2023, or the Compliance Date, to regain compliance with the Bid Price Requirement. On June 22, 2023, we applied to transfer our listing from the Nasdaq Global Select Market to the Nasdaq Capital Market, or the Transfer. On July 5, 2023, Nasdaq notified us that the Transfer was approved, and that, in connection with the Transfer, we were eligible for an additional 180 calendar day period, or until January 2, 2024, or the Extended Compliance Date, to regain compliance with the Minimum Bid Price Rule. On November 8, 2023, we received the Delisting Determination notifying us that, because the closing bid price for our common stock was below $0.10 per share for 10 consecutive trading days during the Extended Compliance Period, the Staff has determined to suspend trading of our common stock on Nasdaq pursuant to Nasdaq Listing Rule 5810(c)(3)(A)(iii), effective November 17, 2023, and file a Form 25-NSE with the SEC to remove our common stock from listing and registration under the Securities Exchange Act of 1934, as amended, unless we timely request an appeal of the Delisting Determination to the Panel. We intend to timely request a 31 hearing before the Panel to appeal the Delisting Determination and expect a hearing before the Panel to be scheduled where we will seek to remain listed until we are able to consummate a strategic transaction, if ever. Following the hearing, we expect the Panel to issue a written decision that will determine whether our common stock will remain listed on Nasdaq. While we expect our common stock will continue to trade on the Nasdaq Capital Market under the symbol “TCRT” while the appeal process is pending, if the Panel is unwilling to reverse the Staff's delisting determination and provide us an additional extension to regain compliance with the Minimum Bid Price Rule, our common stock will be delisted. No assurances can be provided that an extension will be granted or that a favorable decision will be obtained from the Panel at the hearing. If our common stock is delisted by Nasdaq, it could lead to a number of negative implications, including an adverse effect on the price of our common stock, deterring broker-dealers from making a market in or otherwise seeking or generating interest in our common stock, increased volatility in our common stock, reduced liquidity in our common stock, the loss of federal preemption of state securities laws and greater difficulty in obtaining financing. Delisting could also cause a loss of confidence of our customers, collaborators, vendors, suppliers and employees, which could harm our business and future prospects. If our common stock is delisted by Nasdaq, the price of our common stock may decline, and although our common stock may be eligible to trade on the OTC Bulletin Board, another over-the-counter quotation system, or on the pink sheets, an investor may find it more difficult to dispose of their common stock or obtain accurate quotations as to the market value of our common stock. If our common stock is delisted from Nasdaq, trading in our securities may be subject to the SEC’s “penny stock” rules. These “penny stock” rules will require brokers trading in our common stock to adhere to more stringent rules and possibly result in a reduced level of trading activity in the secondary trading market for our common stock. The additional burdens imposed upon broker-dealers by these requirements may discourage broker-dealers from recommending transactions in our securities, which could severely limit the liquidity of our securities and consequently adversely affect the market price for our securities. Furthermore, if our common stock is delisted, we would expect it to have an adverse impact on our ability to consummate certain strategic alternatives. Further, if our common stock is delisted, we would incur additional costs under state blue sky laws in connection with any sales of our securities. These requirements could severely limit the market liquidity of our common stock and the ability of our stockholders to sell our common stock in the secondary market. *We may effect a reverse stock split of our common stock, but it may not result in us obtaining the intended benefits. Our stockholders have approved a reverse stock split of the issued and outstanding shares of our common stock, our treasury stock, and a proportionate reduction in the shares of our authorized common stock, if needed in the discretion of our Board of Directors to regain compliance with the Minimum Bid Price Rule, at a ratio between the range of 1-for-5 and 1-for-15, inclusive, at any time on or before June 6, 2024. However, if we do effect a reverse stock split, there can be no assurance that the market price per new share of our common stock after the reverse stock split will remain unchanged or increase in proportion to the reduction in the number of old shares of our common stock outstanding before the reverse stock split. Other factors, such as our financial results, market conditions and the market perception of our business may adversely affect the market price of our common stock and there can be no assurance that a reverse stock split, if completed, will result in the intended benefits, that the market price of our common stock will increase in proportion to the reduction in the number of shares of our common stock outstanding before the reverse stock split or that the market price of our common stock will not decrease in the future. If the market price of our common stock does not increase the price per share of our common stock above Nasdaq’s minimum bid price threshold of $1.00 per share or if the market price of our common stock does not remain above Nasdaq’s minimum bid price threshold of $1.00 per share, our common stock may still be delisted from Nasdaq. There is also no guarantee that the Panel agrees that implementing a reverse stock split warrants reversing the Staff's delisting determination, regardless of the price at which our common stock would trade following the split. *If we implement a reverse stock split, liquidity of our common stock may be adversely affected. If we do effect a reverse stock split to avoid a delisting pursuant to the Delisting Determination, the liquidity of the shares of our common stock may be affected adversely by any such reverse stock split given the reduced number of shares of common stock that will be outstanding following the reverse stock split, especially if the market price of our common stock does not increase as a result of the reverse stock split. Following any reverse stock split, the resulting market price of our common stock may not attract new investors and may not satisfy the investing requirements of those investors. Although we believe a higher market price of our common stock may help generate greater or broader investor interest, there can be no assurance that the reverse stock split will result in a share price that will attract new investors, including institutional investors. In addition, there can be no assurance that the market price of our common stock will satisfy the investing requirements of those investors. As a result, the trading liquidity of our common stock may not necessarily improve. *We may identify material weaknesses in the future or otherwise fail to maintain an effective system of internal controls, which may result in material misstatements of our condensed financial statements or could have a material adverse effect on our business and trading price of our securities. 32 We are subject to the reporting requirements of the Securities Exchange Act of 1934, as amended, or the Exchange Act, the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, and the rules and regulations of the Nasdaq Capital Market. Pursuant to Section 404 of the Sarbanes-Oxley Act, we are required to perform system and process evaluation and testing of our internal control over financial reporting to allow our management to report on the effectiveness of our internal control over financial reporting. We may also be required to have our independent registered public accounting firm issue an opinion on the effectiveness of our internal control over financial reporting on an annual basis. We have identified material weaknesses in our internal control over financial reporting in the past. A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of our condensed financial statements will not be prevented or detected on a timely basis. Although the material weaknesses identified in the past have been remediated, we cannot assure you that any measures we have taken or may take in the future will be sufficient to avoid potential future material weaknesses. If we are unable to successfully remediate any future material weakness and maintain effective internal controls, we may not have adequate, accurate or timely financial information, and we may be unable to meet our reporting obligations as a public company, including the requirements of the Sarbanes-Oxley Act, we may be unable to accurately report our financial results in future periods, or report them within the timeframes required by the requirements of the SEC, Nasdaq or the Sarbanes-Oxley Act. Failure to comply with the Sarbanes-Oxley Act, when and as applicable, could also potentially subject us to sanctions or investigations by the SEC or other regulatory authorities. Any failure to maintain or implement required new or improved controls, or any difficulties we encounter in their implementation, could result in the identification of additional material weaknesses or significant deficiencies, cause us to fail to meet our reporting obligations or result in material misstatements in our condensed financial statements. Furthermore, if we cannot provide reliable financial reports or prevent fraud, our business and results of operations could be harmed and investors could lose confidence in our reported financial information. *The development and commercialization of non-viral adoptive TCR-T cell therapies could be considered a new approach to cancer treatment, the successful development of which is subject to significant challenges. We have employed technologies such as the technology licensed from MD Anderson pursuant to the MD Anderson License, described above, from Precigen, pursuant to the A&R License Agreement, and from NCI, pursuant to the Patent License described above, to pursue the development and commercialization of non-viral cellular therapies based on T-cells and TCRs, targeting solid tumor malignancy. Because this is a new approach to cancer immunotherapy and cancer treatment generally, developing and commercializing product candidates is subject to a number of challenges, includin • obtaining regulatory approval from the FDA and other regulatory authorities that have very limited experience with the commercial development of genetically modified T-cell therapies for cancer; • designing and conducting our clinical trials using this new approach or selecting the appropriate TCRs in a way that may lead to optimal results; • identifying and manufacturing appropriate TCRs from either the patient or third parties that can be administered to the patient; • developing and deploying consistent and reliable processes for engineering a patient’s and/or donor’s T-cells ex vivo and infusing the T cells back into the patient; • conditioning patients with chemotherapy in conjunction with delivery of the potential products, which may increase the risk of adverse side effects of the chemotherapy itself or of the potential products; • educating medical personnel regarding the potential side effect profile of each of the potential products, such as the potential adverse side effects related to cytokine release; • addressing any competing technological and market developments; • developing processes for the safe administration of these potential products, including long-term follow-up for all patients who receive the potential products; • sourcing additional clinical and, if approved, commercial supplies for the materials used to manufacture and process the potential products; • developing a manufacturing process with a cost of goods that allows for an attractive return on investment; • establishing sales and marketing capabilities after obtaining any regulatory approval to gain market acceptance; • developing therapies for types of cancers beyond those addressed by the current potential products; • maintaining and defending the intellectual property rights relating to any products we develop; 33 • not infringing the intellectual property rights, in particular, the patent rights, of third parties, including competitors, such as those developing T-cell therapies; and • unless we revoke the notice to terminate the Patent License or subsequently acquire substantially similar rights, our inability to use the technology currently licensed to us pursuant to the Patent License. Should we resume our clinical programs, we cannot assure you that we will be able to successfully address these challenges, which could prevent us from achieving our research, development and commercialization goals. In addition, these challenges may diminish the value of our assets in the execution of any strategic alternative. *Should we resume development of our product candidates, we will need to recruit, hire and retain qualified personnel. Following our strategic reprioritization in August 2023, we have reduced our workforce by approximately 80% to date. Our cash conservation activities may yield unintended consequences, such as attrition beyond our planned reduction in workforce and reduced employee morale, which may cause remaining employees to seek alternative employment. The reductions in force included employees responsible for key aspects of our clinical and other development programs. Should we, in the future, resume development of our product candidates, we may not be able to attract or retain qualified management and commercial, scientific, manufacturing and clinical personnel due to the intense competition for qualified personnel among biotechnology, pharmaceutical and other businesses. If we are not able to attract and retain necessary personnel to accomplish our business objectives, we may experience constraints that will significantly impede the achievement of our development objectives, our ability to raise additional capital and our ability to implement our business strategy. *Any termination of our licenses with Precigen, MD Anderson or the National Cancer Institute or our research and development agreements with MD Anderson and the National Cancer Institute could result in the loss of significant rights and could harm our ability to develop and commercialize our product candidates. Our clinical programs, if resumed, depend on patents, know-how, and proprietary technology that are licensed from others, particularly MD Anderson, Precigen, and the NCI, as well as the contributions by MD Anderson under our research and development agreements. Any termination of these licenses or research and development agreements could result in the loss of significant rights and could harm our ability to develop or monetize our product candidates. Disputes may also arise between us and these licensors regarding intellectual property subject to a license agreement, including those relating t • the scope of rights granted under the applicable license agreement and other interpretation-related issues; • whether and the extent to which our technology and processes, and the technology and processes of Precigen, MD Anderson, the NCI and our other licensors, infringe intellectual property of the licensor that is not subject to the applicable license agreement; • our right to sublicense patent and other rights to third parties pursuant to our relationships with our licensors and partners; • whether we are complying with our diligence obligations with respect to the use of the licensed technology in relation to our development and commercialization of our potential products under the MD Anderson License, the A&R License Agreement and our patent license agreement with the NCI; • whether or not our partners are complying with all of their obligations to support our programs under licenses and research and development agreements; and • the allocation of ownership of inventions and know-how resulting from the joint creation or use of intellectual property by our licensors and by us. If disputes over intellectual property that we have licensed prevent or impair our ability to maintain our current licensing arrangements, particularly with MD Anderson and Precigen, on acceptable terms, we may be unable to successfully monetize the affected potential products. On October 27, 2023, we provided the NCI the requisite notice of our intent to terminate the Patent License, effective 60 days from such notice. If we fail to revoke the termination notice within 60 days of its date or are unable to acquire the rights from the NCI that we currently have under the Patent License following its termination, on terms acceptable to us or at all, our clinical development programs will be negatively impacted. We are generally also subject to all of the same risks with respect to protection of intellectual property that we license as we are for intellectual property that we own. If we or our licensors fail to adequately protect this intellectual property, our ability to monetize potential products under our applicable licenses could suffer. There is a substantial amount of litigation involving patents and other intellectual property rights in the biotechnology and pharmaceutical industries, as well as administrative proceedings for challenging patents, including interference, derivation, and reexamination proceedings before the United States Patent and Trademark Office, or USPTO, or oppositions and other comparable proceedings in foreign jurisdictions. Recently, due to changes in U.S. law referred to as patent reform, new procedures including inter 34 partes review and post-grant review have been implemented, which adds uncertainty to the possibility of challenge to our or our licensors’ patents in the future. *We may not be able to retain the rights licensed to us and Precigen by MD Anderson or the rights licensed to us by the National Cancer Institute to technologies relating to TCR-T cell therapies and other related technologies. Under the MD Anderson License, we, together with Precigen, received an exclusive, worldwide license to certain technologies owned and licensed by MD Anderson including technologies relating to novel TCR-T cell therapies as well as either co-exclusive or non-exclusive licenses under certain related technologies. These proprietary methods and technologies, along with others within Precigen's technology suite and licensed to us by Precigen, may help realize the promise of genetically modified TCR-T cell therapies by controlling cell expansion and activation in the body, minimizing off-target and unwanted on-target effects and toxicity while maximizing therapeutic efficacy. The term of the MD Anderson License expires on the last to occur of (a) the expiration of all patents licensed thereunder or (b) the twentieth anniversary of the date of the MD Anderson License; provided, however, that following the expiration of the term, we and Precigen shall then have a fully-paid up, royalty free, perpetual, irrevocable and sublicensable license to use the licensed intellectual property thereunder. After 10 years from the date of the MD Anderson License and subject to a 90-day cure period, MD Anderson will have the right to convert the MD Anderson License into a non-exclusive license if we and Precigen are not using commercially reasonable efforts to commercialize the licensed intellectual property on a case-by-case basis. After five years from the date of the MD Anderson License and subject to a 180-day cure period, MD Anderson will have the right to terminate the MD Anderson License with respect to specific technology(ies) funded by the government or subject to a third-party contract if we and Precigen are not meeting the diligence requirements in such funding agreement or contract, as applicable. MD Anderson may also terminate the agreement with written notice upon material breach by us or Precigen, if such breach has not been cured within 60 days of receiving such notice. In addition, the MD Anderson License will terminate upon the occurrence of certain insolvency events for both us or Precigen and may be terminated by the mutual written agreement of us, Precigen and MD Anderson. Should we in the future resume development of our product candidates, there can be no assurance that we will be able to successfully perform under the MD Anderson License or regain our terminated rights under the Patent License and if the MD Anderson License is terminated, we may be prevented from achieving our business objectives. *We have historically been partly reliant on the NCI for research and development and early clinical testing of certain of our product candidates and the termination of the CRADA gives the NCI certain rights thereunder. A portion of our research and development has been conducted by the NCI under the CRADA entered into in January 2017 and which was amended in March 2018, February 2019, March 2022 and June 2022. Under the CRADA, the NCI, with Dr. Steven A. Rosenberg as the principal investigator, has been responsible for conducting a clinical trial using the Sleeping Beauty system to express TCRs for the treatment of solid tumors. The CRADA expired by its terms on January 9, 2022. In March 2022, we entered into an amendment to the CRADA that is retroactive, effective January 9, 2022 to extend the term of the CRADA until January 9, 2023. In June 2022, we entered into the Fourth Amendment to the CRADA, or the CRADA Fourth Amendment, which, among other things, extended the term of the CRADA until January 9, 2025. On August 14, 2023, we announced a strategic reprioritization of our business and wind down of our TCR-T Library Phase 1/2 Trial. In connection with the reprioritization, we announced that we had provided the requisite notice to NCI to terminate the CRADA, pursuant to its terms, effective October 13, 2023. The termination of the CRADA would make it difficult to resume development of our product candidates, should we in the future consider doing so. Our unilateral termination gave the NCI certain rights under the CRADA. Specifically, it provided for (i) the NCI to receive any costs incurred for which we have not previously reimbursed it and reasonable termination costs; (ii) the option for the NCI to retain any funds we transferred to it for use in completing the research plan, as specified in the CRADA; and (iii) the NCI to receive sufficient quantities of materials to complete the research plan, as specified in the CRADA. The NCI subsequently confirmed that the amounts we had paid to date offset the NCI's cost of conducting the research and as a result, the NCI would not be seeking additional funds pursuant to the CRADA. *Should we resume development of our product candidates, we may not be able to commercialize them, generate significant revenues, or attain profitability. To date, none of our product candidates have been approved for commercial sale in any country. The process to develop, obtain regulatory approval for, and commercialize potential product candidates is long, complex and costly. Should we resume clinical development, unless and until we receive approval from the FDA and/or other foreign regulatory authorities for our product candidates, we cannot sell our products and will not have product revenues. Even if we should in the future resume development of our product candidates and obtain regulatory approval for one or more of our product candidates, if we are unable to successfully commercialize our products, we may not be able to generate sufficient revenues to achieve or maintain profitability or to continue our 35 business without raising significant additional capital, which may not be available. Our failure to achieve or maintain profitability could negatively impact the trading price of our common stock. *Our operating history makes it difficult to evaluate our business and prospects. We have not previously completed any pivotal clinical trials, submitted a BLA or demonstrated an ability to perform the functions necessary for the successful commercialization of any product candidates. If we resume development of our product candidates, successful commercialization of any product candidates will require us to perform a variety of functions, includin • Continuing to undertake preclinical development and clinical trials; • Participating in regulatory approval processes; • Formulating and manufacturing products; and • Conducting sales and marketing activities. Our operations have been limited to organizing and staffing our company, acquiring, developing and securing our proprietary product candidates and undertaking preclinical and clinical trials of our product candidates. These operations provide a limited basis for you to assess our ability to commercialize our product candidates and the advisability of investing in our securities. *Our business subjects us to the risk of liability claims associated with the use of hazardous materials and chemicals. Our contract research and development activities have involved and may in the future involve the controlled use of hazardous materials and chemicals. Although we believe that our safety procedures for using, storing, handling and disposing of these materials comply with federal, state and local laws and regulations, we cannot completely eliminate the risk of accidental injury or contamination from these materials. In the event of such an accident, we could be held liable for any resulting damages, and any liability could have a materially adverse effect on our business, financial condition, and results of operations. In addition, the federal, state and local laws and regulations governing the use, manufacture, storage, handling and disposal of hazardous or radioactive materials and waste products may require our contractors to incur substantial compliance costs that could materially adversely affect our business, financial condition and results of operations. We may incur substantial liabilities and may be required to limit commercialization of our products in response to product liability lawsuits. The testing and marketing of medical products entail an inherent risk of product liability, and we will face an even greater risk if we commercially sell any medicines that we may develop. If we cannot successfully defend ourselves against product liability claims, we may incur substantial liabilities or be required to limit commercialization of our products, if approved. Even a successful defense would require significant financial and management resources. Regardless of the merit or eventual outcome, liability claims may result in: • Decreased demand for our product candidates; • Injury to our reputation; • Withdrawal of clinical trial participants; • Initiation of investigations by regulators; • Withdrawal of prior governmental approvals; • Costs of related litigation; • Substantial monetary awards to patients; • Product recalls; • Loss of revenue; • The inability to commercialize our product candidates; and • A decline in our share price. Although we currently carry clinical trial insurance and product liability insurance which we believe to be reasonable, it may not be adequate to cover all liability that we may incur. An inability to renew our policies or to obtain sufficient insurance at an acceptable cost could prevent or inhibit the commercialization of pharmaceutical products that we develop, alone or with collaborators. Business disruptions could seriously harm our future revenue and financial condition and increase our costs and expenses. 36 Our operations, and those of our clinical investigators, contractors and consultants, are based primarily in Houston, Texas. These operations could be subject to power shortages, telecommunications failures, water shortages, hurricanes, floods, earthquakes, fires, extreme weather conditions, medical epidemics and other natural or man-made disasters or business interruptions, for which we maintain customary insurance policies that we believe are appropriate. The occurrence of any of these business disruptions could seriously harm our operations and financial condition and increase our costs and expenses. *We relied and, should we in the future resume development of our product candidates, will rely significantly on information technology and any failure, inadequacy, interruption or security lapse of that technology or loss of data, including any cyber security incidents, could compromise sensitive information related to our business, prevent us from accessing critical information or expose us to liability which could harm our ability to operate our business effectively and adversely affect our business and reputation. In the ordinary course of our business, we, our CROs and other third parties on which we rely collected and stored sensitive data, including legally protected patient health information, personally identifiable information about our employees, intellectual property, and proprietary business information. We manage and maintain our applications and data utilizing on-site systems. These applications and data encompass a wide variety of business-critical information including research and development information and business and financial information. The secure processing, storage, maintenance and transmission of this critical information is vital to our operations and business strategy. Despite the implementation of security measures, our internal computer systems and those of third parties with which we contract are vulnerable to damage from cyber-attacks, computer viruses, breaches, unauthorized access, interruptions due to employee error or malfeasance or other disruptions, or damage from natural disasters, terrorism, war and telecommunication and electrical failures. Any such event could compromise our networks and the information stored there could be accessed by unauthorized parties, publicly disclosed, lost or stolen. Although we have measures in place that are designed to detect and respond to such security incidents and breaches of privacy and security mandates, we cannot guarantee that those measures will be successful in preventing any such security incident. Any such access, disclosure or other loss of information could result in legal claims or proceedings, liability under laws that protect the privacy of personal information, government enforcement actions and regulatory penalties. Such legal claims or proceedings, liability or government enforcement actions may make it more difficult to consummate opportunities presented to us during our search for a strategic alternative. Unauthorized access, loss or dissemination could also disrupt our operations, including our ability to resume research, development and commercialization activities, process and prepare Company financial information, manage various general and administrative aspects of our business and damage our reputation, in addition to possibly requiring substantial expenditures of resources to remedy, any of which could adversely affect our business. In addition, there can be no assurance that we will promptly detect any such disruption or security breach, if at all. If the technology supporting our hunTR discovery engine were to experience a cyber-incident resulting in the disclosure or theft of our proprietary screening software or library of TCRs, its value may decrease and our business, or ability to consummate a strategic transaction, may be materially and negatively impacted. While we are not aware of any such material system failure, accident or security breach to date, to the extent that any disruption or security breach were to result in a loss of, or damage to, our data or applications, or inappropriate disclosure of confidential or proprietary information, we could incur liability and our search for a strategic alternative negatively impacted. RISKS RELATED TO THE CLINICAL TESTING, GOVERNMENT REGULATION AND MANUFACTURING OF OUR PRODUCT CANDIDATES *Should we resume development of our product candidates, we may encounter difficulties enrolling patients in our clinical trials, and our clinical development activities could be delayed or otherwise adversely affected. We have experienced, and may in the future experience, difficulties in patient enrollment in our TCR-T Library Phase 1/2 Trial and any future clinical trials for a variety of reasons, including impacts that resulted from the COVID-19 pandemic. The timely completion of clinical trials in accordance with their protocols depends on, among other things, our ability to enroll a sufficient number of patients who remain in the clinical trial until its conclusion. The enrollment of patients depends on many factors, includin • Our reputation as a result of halting our ongoing clinical development; • The patient eligibility criteria defined in the clinical trial protocol; • The size of the patient population required for analysis of the clinical trial’s primary endpoints; • The proximity of patients to clinical trial sites; • The number of clinical trial sites; • The design of the clinical trial; 37 • Our ability to recruit and retain clinical trial investigators with the appropriate competencies and experience; • Our ability to obtain and maintain patient consents; • Reporting of the preliminary results of any of our clinical trials; • Patient insurance approvals of trial participation; and • The risk that patients enrolled in clinical trials will drop out of the clinical trials before the manufacturing and infusion of our product candidates or clinical trial completion. Should we resume clinical development, our clinical trials would compete with other clinical trials for product candidates that are in the same therapeutic areas as our product candidates, and this competition could reduce the number and types of patients available to us because some of our potential patients may instead opt to enroll in a clinical trial being conducted by one of our competitors. In addition, patients may be unwilling to participate in our studies because of negative publicity from adverse events in the biotechnology industry or for other reasons. Since the number of qualified clinical investigators is limited, we would expect to conduct some of our clinical trials at the same clinical trial sites that some of our competitors use if we resume development of our product candidates, which will reduce the number of patients who are available for our clinical trials at such clinical trial sites. Moreover, because our product candidates represent a departure from more commonly used methods for cancer treatment, potential patients and their doctors may be inclined to use conventional therapies, such as chemotherapy and hematopoietic stem cell transplantation, rather than enroll patients in any future clinical trial. Additionally, because our product candidates address patients with relapsed/refractory cancer, the patients are typically in the late stages of their disease and may experience disease progression independent from our product candidates, making them unevaluable for purposes of the clinical trial, which would require additional patient enrollment. Delays in completing patient enrollment may result in increased costs or may affect the timing or outcome of our ongoing and planned clinical trials, which could prevent completion or commencement of these clinical trials and adversely affect our ability to advance the development of our product candidates. *Our product candidates are subject to extensive regulation and compliance, which is costly and time consuming, and such regulation may cause unanticipated delays or prevent the receipt of the required approvals to commercialize our product candidates, should we resume development. The clinical development, manufacturing, labeling, packaging, storage, record-keeping, advertising, promotion, import, export, marketing, distribution and adverse event reporting, including the submission of safety and other information, of our product candidates are subject to extensive regulation by the FDA in the United States and by comparable foreign regulatory authorities in foreign markets. The process of obtaining regulatory approval is expensive and often takes many years following the commencement of clinical trials. Approval policies or regulations may change, and the FDA has substantial discretion in the drug approval process, including the ability to delay, limit or deny approval of a product candidate for many reasons. Regulatory approval is never guaranteed. Prior to obtaining approval to commercialize a product candidate in the United States or abroad, we or our collaborators must demonstrate with substantial evidence from adequate and well-controlled clinical trials, and to the satisfaction of the FDA or comparable foreign regulatory authorities, that such product candidates are safe and effective, or with respect to a biological product candidate, safe, pure and potent, for their intended uses. The FDA or comparable foreign regulatory authorities can delay, limit or deny approval of a product candidate for many reasons, includin • Such authorities may disagree with the design or implementation of our or our collaborators’ clinical trials; • Negative or ambiguous results from our clinical trials or results may not meet the level of statistical significance required by the FDA or comparable foreign regulatory agencies for approval; • Serious and unexpected drug-related side effects may be experienced by participants in our clinical trials or by individuals using drugs or biologics similar to our therapeutic product candidates; • Such authorities may not accept clinical data from trials which are conducted at clinical facilities or in countries where the standard of care is potentially different from that of the United States; • We, or any of our collaborators, may be unable to demonstrate that a product candidate is safe and effective, and that the therapeutic product candidate’s clinical and other benefits outweigh its safety risks; • We may be unable to demonstrate to the satisfaction of such authorities that our companion diagnostics are suitable to identify appropriate patient populations; • Such authorities may disagree with our interpretation of data from preclinical studies or clinical trials; 38 • Such authorities may not agree that the data collected from clinical trials of our product candidates are acceptable or sufficient to support the submission of a BLA, New Drug Application, premarket approval, or PMA, or other submission or to obtain regulatory approval in the United States or elsewhere, and such authorities may impose requirements for additional preclinical studies or clinical trials; • Such authorities may disagree regarding the formulation, labeling and/or the specifications of our product candidates; • Approval may be granted only for indications that are significantly more limited than what we apply for and/or with other significant restrictions on distribution and use; • Such authorities may find deficiencies in the manufacturing processes, test procedures and specifications or facilities of our third-party manufacturers with which we or any of our current or future collaborators contract for clinical and commercial supplies; • Regulations and approval policies of such authorities may significantly change in a manner rendering our or any of our potential future collaborators’ clinical data insufficient for approval; or • Such authorities may not accept a submission due to, among other reasons, the content or formatting of the submission. This lengthy approval process, as well as the unpredictability of the results of clinical trials, may result in our failing to obtain regulatory approval to market any of our product candidates should we resume clinical development, which would significantly harm our business, results of operations and prospects. In addition, even if we obtain regulatory approval of our product candidates, regulatory authorities may approve any of our product candidates for fewer or more limited indications than we request and may impose significant limitations in the form of narrow indications, warnings, or a Risk Evaluation and Mitigation Strategy, or REMS. Events raising questions about the safety of certain marketed biopharmaceuticals may result in increased cautiousness by the FDA and comparable foreign regulatory authorities in reviewing new drugs or biologics based on safety, efficacy or other regulatory considerations and may result in significant delays in obtaining regulatory approvals. Any delay in obtaining, or inability to obtain, applicable regulatory approvals would prevent us or any of our potential future collaborators from commercializing our product candidates. *We have halted development of our product candidates very early in our development efforts. Our most advanced product candidates were only in an early-stage clinical trial, which is very expensive and time-consuming. We cannot be certain if or when we will be able to submit a BLA to the FDA and the delay, or any failure, in completing clinical trials for our product candidates could harm our business. Our most advanced product candidates were in a Phase 1/2 trial when we ceased development activity and will require extensive clinical testing should we resume development. Human clinical trials are very expensive and difficult to design, initiate and implement, in part because they are subject to rigorous regulatory requirements. Failure can occur at any stage of a clinical trial, and we can encounter problems that cause us to delay the start of, abandon or repeat clinical trials. Some factors which may lead to a delay in the commencement or completion of our clinical trials, if resumed, inclu requests for additional nonclinical data from regulators, unforeseen safety issues, dosing issues, lack of effectiveness during clinical trials, difficulty recruiting or monitoring patients, or difficulty manufacturing clinical products, among other factors. As they enter later stages of development, product candidates generally will become subject to more stringent regulatory requirements, including the FDA’s requirements for chemistry, manufacturing and controls for product candidates entering Phase 3 clinical trials. There is no guarantee the FDA will allow us or any potential licensee to commence Phase 3 clinical trials for product candidates studied in earlier clinical trials. If the FDA does not allow our product candidates to enter later stage clinical trials or requires changes to the formulation or manufacture of our product candidates before commencing Phase 3 clinical trials, the ability to further develop, or seek approval for, such product candidates may be materially impacted. As such, if we resume clinical development of our product candidates, we cannot predict with any certainty if or when we might submit a BLA for regulatory approval of our product candidates or whether such a BLA will be accepted. Because we do not anticipate generating significant revenues unless and until we submit one or more BLAs and thereafter obtain requisite FDA approvals, the timing of our BLA submissions and FDA determinations regarding approval thereof will directly affect if and when we are able to generate significant revenues. In addition, we have halted development of our product candidates. There is an additive degree of risk to any development program that is paused because the time to restart the program and the associated expense may be longer and more costly than previously anticipated. It may also not be possible to restart the program altogether. *Our product candidates may cause undesirable side effects or have other properties that could delay or prevent their regulatory approval, limit the commercial profile of an approved label or result in significant negative consequences following any potential marketing approval. 39 As with many pharmaceutical and biological products, treatment with our product candidates, if resumed, may produce undesirable side effects or adverse reactions or events, including potential adverse side effects related to cytokine release. If our product candidates or similar products or product candidates under development by third parties demonstrate unacceptable adverse events, we may be required to halt or delay further clinical development of our product candidates, should we resume it. The FDA or foreign regulatory authorities could order us to cease further development of or deny approval of our product candidates for any or all targeted indications. If a serious adverse event were to occur in a trial, the FDA may place a hold on the clinical trial. The product-related side effects could affect patient recruitment or the ability of enrolled patients to resume and complete the trial or result in potential product liability claims. In addition, these side effects may not be appropriately or timely recognized or managed by the treating medical staff, particularly outside of the institutions that collaborate with us, as toxicities resulting from our novel technologies may not be normally encountered in the general patient population and by medical personnel. Should we resume product development or begin commercialization, we expect to have to train medical personnel using our product candidates to understand their side effect profiles. Inadequate training in recognizing or managing the potential side effects of our product candidates could result in adverse effects to patients, including death. Additionally, if one or more of our product candidates receives marketing approval, and we or others later identify undesirable side effects caused by such products, including during any long-term follow-up observation period recommended or required for patients who receive treatment using our product candidates, a number of potentially significant negative consequences could result, includin • regulatory authorities may withdraw approvals of such product; • regulatory authorities may require additional warnings on the product’s label; • we may be required to create a risk evaluation and mitigation strategy plan, which could include a medication guide outlining the risks of such side effects for distribution to patients, a communication plan for healthcare providers and/or other elements to assure safe use; • we could be sued and held liable for harm caused to patients; and • our reputation may suffer. Any of the foregoing could prevent us from achieving or maintaining market acceptance of the particular product candidate, if approved. Furthermore, any of these occurrences may harm our business, financial condition and prospects significantly. *Our cellular therapy immuno-oncology product candidates rely on the availability of reagents, specialized equipment and other specialty materials and infrastructure, which may not be available to us on acceptable terms or at all. For some of these reagents, equipment and materials, we rely or may rely on sole source vendors or a limited number of vendors, which could impair our ability to manufacture and supply our products, should we resume these activities. Manufacturing our product candidates requires many reagents, which are substances used in our manufacturing processes to bring about chemical or biological reactions, and other specialty materials and equipment, some of which are manufactured or supplied by small companies with limited resources and experience to support commercial biologics production. We have depended on a limited number of vendors for certain materials and equipment used in the manufacture of our product candidates, including DNA plasmids, which we used as the vector to insert our TCRs into human T cells. Some of these suppliers may not have the capacity to support commercial products manufactured under current good manufacturing practices by biopharmaceutical firms or may otherwise be ill-equipped to support our needs, should we resume manufacturing. We also do not have supply contracts with some of these suppliers and may not be able to obtain supply contracts with them on acceptable terms or at all. Accordingly, we may experience delays in receiving key materials and equipment to support clinical or commercial manufacturing, should we resume those activities. For some of these reagents, equipment, infrastructure, and materials, we may rely on sole source vendors or a limited number of vendors. An inability to source product from any of these suppliers, or source product on commercially reasonable terms, which could be due to, among other things, regulatory actions or requirements affecting the supplier, adverse financial or other strategic developments experienced by a supplier, labor disputes or shortages, unexpected demands, supply chain issues or quality issues, could adversely affect our ability to satisfy demand for our product candidates, which could adversely and materially affect our ability to conduct clinical trials, should we resume them, which could significantly harm our business. In addition, some of the reagents and products used by us may be stored at a single vendor. The loss of materials located at a single vendor, or the failure of such a vendor to manufacture clinical product in accordance with our specifications, would impact our ability to conduct clinical trials and continue the development of our products, should we resume it. Further, manufacturing replacement material may be expensive and require a significant amount of time, which may further impact our clinical programs. If we resume developing and scaling our manufacturing process, we expect that we will need to obtain additional rights to and supplies of certain materials and equipment to be used as part of that process. We may not be able to maintain rights to such materials on commercially reasonable terms, or at all, and if we are unable to alter our process in a commercially viable manner to avoid the use of such materials or find a suitable substitute, it would have a material adverse effect on our business. Even if we are able to alter our 40 process so as to use other materials or equipment, such a change may lead to a delay in clinical development and/or commercialization plans. If such a change occurs for a product candidate that is already in clinical trials, the change may require us to perform both ex vivo comparability studies and to collect additional data from patients prior to undertaking more advanced clinical trials. *We have limited experience producing and supplying our product candidates. We may be unable to consistently manufacture our product candidates to the necessary specifications or in quantities necessary to treat patients in clinical trials, should we resume the activities. We have limited experience in biopharmaceutical manufacturing. In 2021, we began manufacturing our product candidates at our in-house current good manufacturing practices, or cGMP, manufacturing facility at our leased headquarters in Houston, Texas. In connection with our exploration of strategic alternatives, we have halted manufacturing of our product candidates and eliminated positions relating to the same. Accordingly, should we elect to in the future, our ability to resume manufacturing our product candidates will depend on our hiring and retaining personnel with the appropriate background and training to staff and operate the facility on a daily basis. Should we be unable to hire or retain these individuals, we may need to train additional personnel to fill the needed roles or engage with external contractors. There are a small number of individuals with experience in cell therapy and the competition for these individuals is high. Specifically, the operation of a cell-therapy manufacturing facility is a complex endeavor requiring knowledgeable individuals who have successful previous experience in cleanroom environments. Cell therapy facilities, like other biological agent manufacturing facilities, require appropriate commissioning and validation activities to demonstrate that they operate as designed. Additionally, each manufacturing process must be proven through the performance of process validation runs to guarantee that the facility, personnel, equipment, and process work as designed. Although we have developed our own manufacturing processes using an in-house team, there is timing risk associated with increased in-house product manufacture, including as a result of implementing the Plan. The manufacture of our product candidates is complex and requires significant expertise and capital investment, including the development of advanced manufacturing techniques and process controls. Manufacturers of cell therapy products often encounter difficulties in production, particularly in scaling out and validating initial production and ensuring the absence of contamination. These include difficulties with production costs and yields, quality control, including stability of the product, quality assurance testing, operator error, shortages of qualified personnel, as well as compliance with strictly enforced federal, state and foreign regulations. Furthermore, if contaminants are discovered in our supply of product candidates or in our manufacturing facilities, the manufacturing facilities may need to be closed for an extended period to investigate and remedy the contamination. It is possible that stability or other issues relating to the manufacture of our product candidates could occur in the future. Before we halted clinical development, we had amended our clinical trial IND to use cryopreservation-based storage of clinical products. This process is new and should we resume clinical development and in-house manufacturing, we may experience manufacturing failures or difficulties producing sufficient quantities of our clinical products as a result of this change. Our product candidates have been manufactured on a patient-by-patient basis. Delays in manufacturing could adversely impact the treatment of each patient and may discourage participation in clinical trials should clinical development be resumed. We have not manufactured our clinical trial product candidates on a large scale and may not be able to achieve large scale clinical trial or commercial manufacturing and processing on our own to satisfy expected clinical trial or commercial demands for any of our product candidates, should development resume in the future. The manufacturing processes employed by us may not result in product candidates that will be safe and effective. If we are unable to manufacture sufficient number of TCR-T cells for our product candidates, development efforts would be delayed, which would adversely affect our business and prospects. Manufacturing operations are subject to review and oversight by the FDA. If we resume manufacturing operations, we will be subject to ongoing periodic unannounced inspection by the FDA, the Drug Enforcement Administration and corresponding state agencies to ensure strict compliance with cGMP and other government regulations. Our license to manufacture product candidates is subject to continued regulatory review. We do not yet have sufficient information to reliably estimate the cost of commercial manufacturing and processing of our product candidates. The actual cost to manufacture and process our product candidates could materially and adversely affect the commercial viability of our product candidates. As a result, we may never be able to develop a commercially viable product. We also may fail to manage the logistics of collecting and shipping patient material to our manufacturing site and shipping the product candidate back to the patient. Logistical and shipment delays and problems, whether or not caused by us or our vendors, could prevent or delay the delivery of product candidates to patients, should we resume the trial. *We may have difficulty validating our manufacturing process as we manufacture our product candidates from an increasingly diverse patient population for our clinical trials, should we resume these activities. During our development of the manufacturing process, our TCR-T cell product candidates have demonstrated consistency from lot to lot and from donor to donor. However, our sample size is small and the starting material used during our preclinical development 41 work came from healthy donors. If our development work is continued, we may encounter unforeseen difficulties due to starting with material from donors who are not healthy, including challenges inherent in harvesting white blood cells from unhealthy patients. Although we believe our manufacturing process is scalable for clinical development and commercialization, if any of our product candidates are approved or commercialized, we may encounter challenges in validating our process due to the heterogeneity of the product starting material. We cannot guarantee that any other issues relating to the heterogeneity of the starting material will not impact our ability to commercially manufacture our product candidates. *The gene transfer vectors from our Sleeping Beauty system used to manufacture our product candidates may incorrectly modify the genetic material of a patient’s T cells, potentially triggering the development of a new cancer or other adverse events. Our TCR-T cells were manufactured using our Sleeping Beauty system, a non-viral vector to insert genetic information encoding the TCR construct into the patient’s T cells. The TCR construct was then primarily integrated at thymine-adenine, or TA, dinucleotide sites throughout the patient’s genome and, once expressed as protein, is transported to the surface of the patient’s T cells. Because the gene transfer vector modifies the genetic information of the T cell, there is a theoretical risk that modification will occur in the wrong place in the T cell’s genetic code, leading to vector-related insertional oncogenesis, and causing the T cell to become cancerous. If the cancerous T cell is then administered to the patient, the cancerous T cell could trigger the development of a new cancer in the patient. We used non-viral vectors to insert genetic information into T cells, which we believe have a lower risk of insertional oncogenesis as opposed to viral vectors. However, the risk of insertional oncogenesis remains a concern for gene therapy, and we cannot assure you that it will not occur in any clinical trials of our product candidates. There is also the potential risk of delayed adverse events following exposure to gene therapy products due to persistent biological activity of the genetic material or other components of the vectors used to carry the genetic material. Although our product candidates use non-viral vectors, the FDA has stated that lentiviral vectors possess characteristics that may pose high risks of delayed adverse events. If any such adverse events occur from our non-viral vector, preclinical studies or clinical trials could be halted or delayed, which would have a material adverse effect on our business and operations. *Should we resume development of our product candidates, any product candidate for which we obtain marketing approval could be subject to post-marketing restrictions or withdrawal from the market and we may be subject to penalties if we fail to comply with regulatory requirements or if we experience unanticipated problems with our products, when and if any of them are approved. Any product candidate for which we obtain marketing approval, along with the manufacturing processes, post-approval clinical data, labeling, advertising and promotional activities for such product, will be subject to continual requirements of and review by the FDA and other regulatory authorities. These requirements include, among other things, submissions of safety and other post-marketing information and reports, registration and listing requirements, cGMP requirements relating to manufacturing, quality control, quality assurance and corresponding maintenance of records and documents, requirements regarding the distribution of samples to physicians and recordkeeping. Even if marketing approval of a product candidate is granted, the approval may be subject to limitations on the indicated uses for which the product may be marketed or to the conditions of approval, including the requirement to implement a REMS, which could include requirements for a restricted distribution system. If any of our product candidates receives marketing approval, the accompanying label may limit the approved uses, which could limit sales of the product. The FDA may also impose requirements for costly post-marketing studies or clinical trials and surveillance to monitor the safety or efficacy of our approved products. The FDA closely regulates the post-approval marketing and promotion of products to ensure that they are marketed only for the approved indications and in accordance with the provisions of the approved labeling. However, companies may share truthful and not misleading information that is otherwise consistent with the labeling. The FDA imposes stringent restrictions on manufacturers’ communications regarding off-label use and if we market our products outside of their approved indications, we may be subject to enforcement action for off-label marketing. Violations of the Federal Food, Drug and Cosmetic Act relating to the promotion of prescription drugs may lead to investigations alleging violations of federal and state health care fraud and abuse laws, as well as state consumer protection laws. In addition, later discovery of previously unknown adverse events or other problems with our product candidates, manufacturers or manufacturing processes, or failure to comply with regulatory requirements, may yield various results, includin • Litigation involving patients taking our product; • Restrictions on such products, manufacturers or manufacturing processes; • Restrictions on the labeling or marketing of a product; • Restrictions on product distribution or use; • Requirements to conduct post-marketing studies or clinical trials; • Warning letters; 42 • Withdrawal of the products from the market; • Refusal to approve pending applications or supplements to approved applications that we submit; • Recall of products; • Fines, restitution or disgorgement of profits or revenues; • Suspension or withdrawal of marketing approvals; • Damage to relationships with existing and potential collaborators; • Unfavorable press coverage and damage to our reputation; • Refusal to permit the import or export of our products; • Product seizure; and • Injunctions or the imposition of civil or criminal penalties. Noncompliance with requirements regarding safety monitoring or pharmacovigilance can also result in significant financial penalties. Similarly, failure to comply with U.S. and foreign regulatory requirements regarding the development of products for pediatric populations and the protection of personal health information can also lead to significant penalties and sanctions. RISKS RELATED TO OUR ABILITY TO COMMERCIALIZE OUR PRODUCT CANDIDATES Should we resume development of our product candidates, our inability to obtain the necessary U.S. or worldwide regulatory approvals to commercialize any product candidate, our business will suffer. Even if we resume clinical development, we may not be able to obtain the approvals necessary to commercialize our product candidates, or any product candidate that we may acquire or develop in the future for commercial sale. We will need FDA approval to commercialize our product candidates in the United States and approvals from regulatory authorities in foreign jurisdictions equivalent to the FDA to commercialize our product candidates in those jurisdictions. In order to obtain FDA approval of any product candidate, we must submit to the FDA a BLA demonstrating that the product candidate is safe for humans and effective for its intended use. This demonstration requires significant research and animal tests, which are referred to as preclinical studies, as well as human tests, which are referred to as clinical trials. Satisfaction of the FDA’s regulatory requirements typically takes many years, depending upon the type, complexity and novelty of the product candidate, and will require substantial resources for research, development and testing. We cannot predict whether our research, development, and clinical approaches will result in products that the FDA will consider safe for humans and effective for their intended uses. The FDA has substantial discretion in the approval process and may require us to conduct additional preclinical studies and clinical trials or to perform post-marketing studies. The approval process may also be delayed by changes in government regulation, future legislation or administrative action or changes in FDA policy that occur prior to or during our regulatory review. Delays in obtaining regulatory approvals may: • Delay commercialization of, and our ability to derive product revenues from, our product candidates; • Impose costly procedures on us; and • Diminish any competitive advantages that we may otherwise enjoy. Even if we comply with all FDA requests, the FDA may ultimately reject one or more of our BLAs. We cannot be sure that we will ever obtain regulatory approval for any of our product candidates even if we should resume development in the future. Failure to obtain FDA approval for our product candidates will severely undermine our business by leaving us without a marketable product, and therefore without any potential revenue source, until another product candidate can be developed. There is no guarantee that we will ever be able to develop or acquire another product candidate or that we will obtain FDA approval if we are able to do so. In foreign jurisdictions, we similarly must receive approval from applicable regulatory authorities before we can commercialize any of our product candidates. Foreign regulatory approval processes generally include all of the risks associated with the FDA approval procedures described above. If we are unable either to create sales, marketing and distribution capabilities or enter into agreements with third parties to perform these functions, we will be unable to commercialize our product candidates successfully. We currently have no marketing, sales, or distribution capabilities. If, and when we become reasonably certain that we will be able to commercialize our product candidates, we anticipate allocating resources to the marketing, sales and distribution of our proposed products in North America and in certain other geographies; however, we cannot assure that we will be able to market, sell, and distribute our products successfully. Our future success also may depend, in part, on our ability to enter into and maintain 43 collaborative relationships for such capabilities and to encourage the collaborator’s strategic interest in the product candidates under development, and such collaborator’s ability to successfully market and sell any such products. Although we intend to pursue certain collaborative arrangements regarding the sale and marketing of certain of our product candidates, there are no assurances that we will be able to establish or maintain collaborative arrangements or, if we are able to do so, whether we would be able to conduct our own sales efforts. There can also be no assurance that we will be able to establish or maintain relationships with third-party collaborators or develop in-house sales and distribution capabilities. To the extent that we depend on third parties for marketing and distribution, any revenues we receive will depend upon the efforts of such third parties, and there can be no assurance that such efforts will be successful. In addition, there can also be no assurance that we will be able to market and sell our product candidates in the United States or overseas. If we are not able to partner with a third party and are not successful in recruiting sales and marketing personnel or in building a sales and marketing infrastructure, we will have difficulty commercializing our product candidates, which would harm our business. If we rely on pharmaceutical or biotechnology companies with established distribution systems to market our products, we will need to establish and maintain partnership arrangements, and we may not be able to enter into these arrangements on acceptable terms or at all. To the extent that we enter into co-promotion or other arrangements, any revenues we receive will depend upon the efforts of third parties that may not be successful and that will be only partially in our control. *If physicians and patients do not accept and use our product candidates, once approved, our ability to generate revenue from sales of our products will be materially impaired. Even if the FDA and/or foreign equivalents thereof approve our product candidates, physicians and patients may not accept and use them. The use of engineered T cells as potential cancer treatments is a relatively recent development and may not become broadly accepted by physicians, patients, hospitals, cancer treatment centers, third-party payors and others in the medical community. Acceptance and use of our products will depend upon a number of factors, includin • The clinical indications for which our product candidates are approved; • Perceptions by members of the healthcare community, including physicians, about the safety and effectiveness of our products; • The prevalence and severity of any side effects; • Pharmacological benefit and cost-effectiveness of our products relative to competing products; • Relative convenience and ease of administration, including as compared to alternative treatments and competitive therapies; • Availability of coverage and adequate reimbursement for our products from government or other third-party payors; • Effectiveness of marketing and distribution efforts by us and our licensees and distributors, if any; and • The price at which we sell our products. Even if our products achieve market acceptance, we may not be able to maintain that market acceptance over time if new products or technologies are introduced that are more favorably received than our products, are more cost effective or render our products obsolete. Our ability to generate product revenues will be diminished if our products do not obtain coverage and adequate reimbursement from payors. Our ability to commercialize our product candidates, if approved, alone or with collaborators, will depend in part on the extent to which coverage and reimbursement will be available from third-party payors, including government and health administration authorities, private health maintenance organizations and health insurers and other payors. Patients who are prescribed medicine for the treatment of their conditions generally rely on third-party payors to reimburse all or part of the costs associated with their prescription drugs. Sufficient coverage and adequate reimbursement from third-party payors are critical to new product acceptance. Coverage decisions may depend upon clinical and economic standards that disfavor new drug products when more established or lower cost therapeutic alternatives are already available or subsequently become available. It is difficult to predict the coverage and reimbursement decisions that will be made by third-party payors for novel gene and cell therapy products such as ours. Even if we obtain coverage for our product candidates, the resulting reimbursement payment rates might not be adequate or may require co-payments that patients find unacceptably high. Patients are unlikely to use our product candidates unless coverage is provided, and reimbursement is adequate to cover a significant portion of the cost of our product candidates. In addition, the market for our product candidates for which we may receive regulatory approval will depend significantly on access to third-party payors’ drug formularies or lists of medications for which third-party payors provide coverage and reimbursement, which might not include all of the FDA-approved drugs for a particular indication. The industry competition to be included in such formularies often leads to downward pricing pressures on pharmaceutical companies. Also, third-party payors may refuse to include a 44 particular branded drug in their formularies or otherwise restrict patient access to a branded drug when a less costly generic equivalent or other alternative is available. Third-party payors, whether foreign or domestic, or governmental or commercial, are developing increasingly sophisticated methods of controlling healthcare costs. In addition, in the United States, no uniform policy of coverage and reimbursement for drug products exists among third-party payors. Therefore, coverage and reimbursement for drug products can differ significantly from payor to payor. As a result, the coverage determination process is often a time-consuming and costly process that would require us to provide scientific and clinical support for the use of our products to each payor separately, with no assurance that approval will be obtained. If we are unable to obtain coverage of and adequate payment levels for our product candidates, if approved, from third-party payors, physicians may limit how much or under what circumstances they will prescribe or administer our products and patients may decline to purchase them. This in turn could affect our ability to successfully commercialize our products and impact our profitability, results of operations, financial condition, and future success. In addition, in many foreign countries, particularly the countries of the European Union, or the EU, the pricing of prescription drugs is subject to government control. In some non-U.S. jurisdictions, the proposed pricing for a drug must be approved before it may be lawfully marketed. The requirements governing drug pricing vary widely from country to country. For example, the EU provides options for its member states to restrict the range of medicinal products for which their national health insurance systems provide reimbursement and to control the prices of medicinal products for human use. A member state may approve a specific price for the medicinal product or it may instead adopt a system of direct or indirect controls on the profitability of the company placing the medicinal product on the market. We may face competition for our product candidates from lower-priced products in foreign countries that have placed price controls on pharmaceutical products. In addition, there may be importation of foreign products that compete with our own products, which could negatively impact our profitability. The market opportunities for our product candidates may be limited to those patients who are ineligible for or have failed prior treatments and may be small. Cancer therapies are sometimes characterized as first line, second line or third line, and the FDA often approves new therapies initially only for third line use. When cancer is detected early enough, first line therapy is sometimes adequate to cure the cancer or prolong life without a cure. Whenever first line therapy, usually chemotherapy, hormone therapy, surgery, or a combination of these, proves unsuccessful, second line therapy may be administered. Second line therapies often consist of more chemotherapy, radiation, antibody drugs, tumor targeted small molecules, or a combination of these. Third line therapies can include bone marrow transplantation, antibody and small molecule targeted therapies, more invasive forms of surgery and new technologies. We expect to initially seek approval of our product candidates as a third line therapy for patients who have failed other approved treatments. Subsequently, for those product candidates that prove to be sufficiently beneficial, if any, we would expect to seek approval as a second line therapy and potentially as a first line therapy, but there is no guarantee that our product candidates, even if approved, would be approved for second line or first line therapy. In addition, we may have to conduct additional clinical trials prior to gaining approval for second line or first line therapy. Our projections of both the number of people who have the cancers we are targeting, as well as the subset of people with these cancers in a position to receive therapy and who have the potential to benefit from treatment with our product candidates, are based on our beliefs and estimates. These estimates have been derived from a variety of sources, including scientific literature, surveys of clinics, patient foundations or market research and may prove to be incorrect. Further, new studies may change the estimated incidence or prevalence of these cancers. The number of patients may turn out to be lower than expected. Additionally, the potentially addressable patient population for our product candidates may be limited or may not be amenable to treatment with our product candidates. Our market opportunities may also be limited by competitor treatments that may enter the market. Healthcare legislative reform measures may have a material adverse effect on our business and results of operations. In both the United States and certain foreign jurisdictions, there have been a number of legislative and regulatory enactments in recent years that change the healthcare system in ways that could impact our future ability to sell our product candidates profitably. Furthermore, there have been and continue to be a number of initiatives at the federal and state level that seek to reduce healthcare costs. Most significantly, in March 2010, President Obama signed into law the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act, or collectively the ACA, which included measures that have significantly changed the way healthcare is financed by both governmental and private insurers. The ACA, among other things, imposed a new methodology by which rebates owed by manufacturers under the Medicaid Drug Rebate Program are calculated for drugs that are inhaled, infused, instilled, implanted or injected, increased the minimum Medicaid rebates owed by manufacturers under the Medicaid Drug Rebate Program, extended the rebate program to individuals enrolled in Medicaid managed care organizations, added a provision to increase the Medicaid rebate for line extensions or reformulated drugs, established annual fees on manufacturers and importers of certain branded prescription drugs and biologic agents, promoted a new Medicare Part D coverage gap discount program, expanded the entities eligible for discounts under the Public Health Service Act pharmaceutical pricing program and 45 imposed a number of substantial new compliance provisions related to pharmaceutical companies' interactions with healthcare practitioners. The ACA also expanded eligibility for Medicaid programs and introduced a new Patient Centered Outcomes Research Institute to oversee, identify priorities in, and conduct comparative clinical effectiveness research, along with funding for such research and a new Center for Medicare & Medicaid Innovation at the Centers for Medicare & Medicaid Services, or CMS, to test innovative payment and service delivery models to lower Medicare and Medicaid spending. There have been executive, legal and political challenges to certain aspects of the ACA. For example, President Trump signed several executive orders and other directives designed to delay, circumvent or loosen certain requirements mandated by the ACA. Concurrently, Congress considered legislation to repeal or repeal and replace all or part of the ACA. While Congress has not passed comprehensive repeal legislation, several bills affecting the implementation of certain taxes under the ACA have been signed into law. In December 2017, Congress repealed the tax penalty, effective January 1, 2019, for an individual’s failure to maintain ACA-mandated health insurance as part of the Tax Act. Further, President Biden issued an executive order that instructed certain governmental agencies to review and reconsider their existing policies and rules that limit access to healthcare, including among others, reexamining Medicaid demonstration projects and waiver programs that include work requirements, and policies that create unnecessary barriers to obtaining access to health insurance coverage through Medicaid or the ACA. Further, there have been a number of health reform initiatives by the Biden administration that have impacted the ACA. For example, on August 16, 2022, President Biden signed the Inflation Reduction Act, or the IRA, into law, which, among other things, extends enhanced subsidies for individuals purchasing health insurance coverage in ACA marketplaces through plan year 2025. The IRA also eliminates the "donut hole" under the Medicare Part D program beginning in 2025 by significantly lowering the beneficiary maximum out-of-pocket cost and implementing a newly established manufacturer discount program. It is possible that the ACA will be subject to judicial or Congressional challenges in the future. It is unclear how any such challenges and the healthcare reform measures of the Biden administration will impact ACA and our business. The ultimate content, timing or effect of any healthcare reform measures on the U.S. healthcare industry is unclear. Further, there has been increasing legislative and enforcement interest in the United States with respect to specialty drug pricing practices. As a result, there have been several U.S. Congressional inquiries and proposed and enacted federal and state legislation designed to, among other things, bring more transparency to drug pricing, review the relationship between pricing and manufacturer patient programs and reform government program reimbursement methodologies for drugs. At the federal level, the Trump administration used several means to propose or implement drug pricing reform, including through federal budget proposals, executive orders and policy initiatives. For example, on July 24, 2020 and September 13, 2020, the Trump administration announced several executive orders related to prescription drug pricing that attempt to implement several of the administration’s proposals. The FDA also released a final rule, effective November 30, 2020, implementing a portion of the importation executive order providing guidance for states to build and submit importation plans for drugs from Canada. Further, on November 30, 2020, the U.S. Department of Health and Human Services, or HHS, finalized a regulation removing safe harbor protection for price reductions from pharmaceutical manufacturers to plan sponsors under Medicare Part D, either directly or through pharmacy benefit managers, unless the price reduction is required by law. The IRA delayed implementation of the rule to January 1, 2032. The rule also creates a new safe harbor for price reductions reflected at the point-of-sale, as well as a new safe harbor for certain fixed fee arrangements between pharmacy benefit managers and manufacturers, the implementation of which have also been delayed until January 1, 2032. In addition, on March 11, 2021, President Biden signed the American Rescue Plan Act of 2021 into law, which eliminates the statutory Medicaid drug rebate price cap, currently set at 100% of a drug's average manufacturer price for single source and innovator multiple source products, beginning on January 1, 2024. Further, in July 2021, the Biden Administration released an executive order that included multiple provisions aimed at prescription drugs. In response to President Biden's executive order, on September 9, 2021, HHS released a Comprehensive Plan for Addressing High Drug Prices that outlines principles for drug price reform. The plan sets out a variety of potential legislative policies that Congress could pursue as well as potential administrative actions by HHS. No legislative or administrative actions have been finalized to implement these principles. In addition, Congress is considering drug pricing as part of the budget reconciliation process. Additionally, the IRA, among other things, (i) directs HHS to negotiate the price of certain high-expenditure, single-source drugs and biologics covered under Medicare, and subject drug manufacturers to civil monetary penalties and a potential excise tax by offering a price that is not equal to or less than the negotiated “maximum fair price” under the law, and (ii) imposes rebates under Medicare Part B and Medicare Part D to penalize price increases that outpace inflation. The IRA permits HHS to implement many of these provisions through guidance, as opposed to regulation, for the initial years. These provisions will take effect progressively starting in fiscal year 2023, although they may be subject to legal challenges. It is currently unclear how the IRA will be effectuated but is likely to have a significant impact on the pharmaceutical industry. Individual states in the United States also have increasingly passed legislation and implemented regulations designed to control pharmaceutical product pricing, including price or patient reimbursement constraints, discounts, restrictions on certain product access and marketing cost disclosure and transparency measures, and, in some cases, designed to encourage importation from other countries and bulk purchasing. We expect that healthcare reform measures that may be adopted in the future may result in more rigorous coverage criteria and in additional downward pressure on the price that we may receive for any approved product. Any reduction in reimbursement from Medicare or other government programs may result in a similar reduction in payments from private payors. The implementation of 46 cost containment measures or other healthcare reforms may prevent us from being able to generate revenue, attain profitability or, if we receive regulatory approval, commercialize our products. If we fail to comply with federal and state healthcare laws, including fraud and abuse and health information privacy and security laws, we could face substantial penalties and our business, results of operations, financial condition and prospects could be adversely affected. As a pharmaceutical company, even though we do not and will not control referrals of healthcare services or bill directly to Medicare, Medicaid or other third-party payors, certain federal and state healthcare laws and regulations pertaining to fraud and abuse and patients’ rights are and will be applicable to our business. For example, we could be subject to healthcare fraud and abuse and patient privacy regulation by both the federal government and the states in which we conduct our business. The laws that may affect our ability to operate include, among othe • The federal Anti-Kickback Statute, which regulates our business activities, including our clinical research and relationships with healthcare providers or other entities as well as our future marketing practices, educational programs and pricing policies, and by prohibiting, among other things, soliciting, receiving, offering or paying remuneration, directly or indirectly, to induce, or in return for, either the referral of an individual or the purchase or recommendation of an item or service reimbursable under a federal healthcare program, such as the Medicare and Medicaid programs; • Federal civil and criminal false claims laws, including the False Claims Act, which permits a private individual acting as a “whistleblower” to bring actions on behalf of the federal government alleging violations of the False Claims Act, and civil monetary penalty laws, which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid or other third-party payors that are false or fraudulent; • The federal Health Insurance Portability and Accountability Act of 1996, or HIPAA, which created new federal civil and criminal statutes that prohibit, among other things, executing a scheme to defraud any healthcare benefit program or making false statements relating to healthcare matters; • The Health Information Technology for Economic and Clinical Health Act of 2009, or HITECH, and its implementing regulations, which impose certain requirements relating to the privacy, security and transmission of individually identifiable health information on entities and individuals subject to the law including certain healthcare providers, health plans, and healthcare clearinghouses, known as covered entities, as well as individuals and entities that perform services for them which involve the use, or disclosure of, individually identifiable health information, known as business associates and their subcontractors that use, disclose or otherwise process individually identifiable health information; • Requirements under the Physician Payments Sunshine Act to report annually to CMS certain financial arrangements with prescribers and teaching hospitals, as defined in the ACA and its implementing regulations, including reporting any “transfer of value” made or distributed to teaching hospitals, and physicians, as defined by such law and reporting any ownership and investment interests held by physicians and their immediate family members during the preceding calendar year; and • State and foreign law equivalents of each of the above federal laws, such as anti-kickback and false claims laws which may apply to items or services reimbursed by any third-party payor, including commercial insurers; state laws that require pharmaceutical companies to comply with the industry’s voluntary compliance guidelines and the applicable compliance guidance promulgated by the federal government that otherwise restricts certain payments that may be made to healthcare providers and entities; state laws that require drug manufacturers to report information related to payments and other transfer of value to physicians and other healthcare providers and entities; state laws that require the reporting of information related to drug pricing; state and local laws that require the registration of pharmaceutical sales representatives; and state and foreign laws governing the privacy and security of health information in certain circumstances, many of which differ from each other in significant ways and often are not preempted by HIPAA, thus complicating compliance efforts. Because of the breadth of these laws and the narrowness of the statutory exceptions and safe harbors available, it is possible that some of our business activities, including any consulting agreements with physicians who may receive stock or stock options as compensation for their services, could be subject to challenge under one or more of such laws. In addition, recent health care reform legislation has further strengthened these laws. For example, the ACA, among other things, amended the intent requirement of the federal Anti-Kickback Statute and certain criminal healthcare fraud statutes. A person or entity no longer needs to have actual knowledge of this statute or specific intent to violate it. Moreover, the ACA provides that the government may assert that a claim including items or services resulting from a violation of the federal Anti-Kickback Statute constitutes a false or fraudulent claim for purposes of the False Claims Act. To the extent that any of our product candidates is ultimately sold in a foreign country, we may be subject to similar foreign laws and regulations. 47 Efforts to ensure that our business arrangements comply with applicable healthcare laws involve substantial costs. It is possible that governmental and enforcement authorities will conclude that our business practices do not comply with current or future statutes, regulations or case law interpreting applicable fraud and abuse or other healthcare laws and regulations. If any such actions are instituted against us, and we are not successful in defending ourselves or asserting our rights, we may be subject to significant penalties, including administrative, civil and criminal penalties, damages, fines, exclusion from participation in United States federal or state health care programs, such as Medicare and Medicaid, disgorgement, imprisonment, integrity oversight and reporting obligations, and the curtailment or restructuring of our operations, any of which could materially adversely affect our ability to operate our business and our financial results. Although compliance programs can mitigate the risk of investigation and prosecution for violations of these laws, the risks cannot be entirely eliminated. Any action against us for violation of these laws, even if we successfully defend against it, could cause us to incur significant legal expenses and divert our management’s attention from the operation of our business. Moreover, achieving and sustaining compliance with applicable federal and state privacy, security and fraud laws may prove costly. Our immuno-oncology product candidates may face competition in the future from biosimilars and/or new technologies. The Biologics Price Competition and Innovation Act of 2009, or BPCIA, provides an abbreviated pathway for the approval of follow-on biological products. Under the BPCIA, an application for a biosimilar product cannot be approved by the FDA until 12 years after the original branded product was approved under a BLA. However, there is a risk that the U.S. Congress could amend the BPCIA to significantly shorten this exclusivity period, potentially creating the opportunity for generic competition sooner than anticipated. Further, this data exclusivity does not prevent another company from developing a product that is highly similar to the original branded product, generating its own data and seeking approval. Data exclusivity only assures that another company cannot rely upon the data within the innovator’s application to support the biosimilar product’s approval. RISKS RELATED TO OUR INTELLECTUAL PROPERTY *If we or our licensors fail to adequately protect or enforce our intellectual property rights or secure rights to patents of others, the value of our intellectual property rights would diminish and our ability to successfully develop our product candidates may be impaired. Our success, competitive position and future revenues will depend in part on our ability and the abilities of our licensors to obtain and maintain patent protection for our products, methods, processes and other technologies, to preserve confidential information, including trade secrets, to prevent third parties from infringing our proprietary rights, and to operate without infringing the proprietary rights of third parties. Our ability to consummate certain strategic transactions, including strategic partnerships or out-licensing opportunities, among others, may also be impaired if we are unable to adequately protect our intellectual property or if we infringe on the proprietary rights of others. To date, we have exclusive rights in the field of cancer treatment to certain U.S. and foreign intellectual property with respect to certain cell therapy and related technologies from MD Anderson and the NCI, as well as with respect to the Precigen technology, including Sleeping Beauty . Under the MD Anderson License, future patent applications require the agreement of each of MD Anderson, Precigen and us, and MD Anderson has the right to control the preparation, filing, and prosecution of such patent applications unless the parties agree that we or Precigen instead may control such activities. Although under the License Agreement MD Anderson has agreed to review and incorporate any reasonable comments that we or Precigen may have regarding licensed patents and patent applications, we cannot guarantee that our comments will be solicited or implemented. Under the Patent License with the NCI for certain TCRs, the NCI is responsible for the preparation, filing, prosecution, and maintenance of patent applications and patents licensed to us. Although under the Patent License, the NCI is required to consult with us in the preparation, filing, prosecution, and maintenance of all its patent applications and patents licensed to us, we cannot guarantee that our comments will be solicited or implemented. On October 27, 2023, we provided the NCI the requisite notice of our intent to terminate the Patent License, effective 60 days from such notice. We will no longer have any rights to the technology licensed pursuant to the Patent License upon the effectiveness of the termination notice. Under our A&R License Agreement Precigen has the right, but not the obligation, to prepare, file, prosecute, and maintain the patents and patent applications licensed to us and shall bear all related costs incurred by it in regard to those actions. Precigen is required to consult with us and keep us reasonably informed of the status of the patents and patent applications licensed to us, and to confer with us prior to submitting any related filings and correspondence. Although under the A&R License Agreement Precigen has agreed to consider in good faith and consult with us regarding any comments we may have regarding these patents and patent applications, we cannot guarantee that our comments will be solicited or followed. Without direct control of the in-licensed patents and patent applications, we are dependent on MD Anderson, the NCI or Precigen, as applicable, to keep us advised of prosecution, particularly in foreign jurisdictions where prosecution information may not be publicly available. We anticipate that we, the NCI and Precigen will file additional patent applications both in the United States and in other jurisdictions. However, we cannot predict or guarantee for either our in-licensed patent portfolios or for Alaunos’ patent portfoli • When, if at all, any patents will be granted on such applications; 48 • The scope of protection that any patents, if obtained, will afford us against competitors; • That third parties will not find ways to invalidate and/or circumvent our patents, if obtained; • That others will not obtain patents claiming subject matter related to or relevant to our product candidates; or • That we will not need to initiate litigation and/or administrative proceedings that may be costly whether we win or lose. The patent prosecution process is expensive and time-consuming, and we may not be able to file and prosecute all necessary or desirable patent applications at a reasonable cost, in a timely manner or at all. It is also possible that we will fail to identify patentable aspects of our research and development output before it is too late to obtain patent protection. Moreover, in some circumstances, we do not have the right to control the preparation, filing and prosecution of patent applications, or to maintain the patents, covering technology that we license from third parties. We may also require the cooperation of our licensors in order to enforce the licensed patent rights, and such cooperation may not be provided. Therefore, these patents and applications may not be prosecuted and enforced in a manner consistent with the best interests of our business. The patent position of biotechnology and pharmaceutical companies generally is highly uncertain, involves complex legal and factual questions and has in recent years been the subject of much litigation. In addition, the laws of other jurisdictions may not protect our rights to the same extent as the laws of the United States. For example, methods of therapeutic treatment, which are patent-eligible in the United States, may not be claimed in many other jurisdictions; some patent offices (such as the European Patent Office) may permit the redrafting of method of treatment claims into a "medical use" format that is patent-eligible, while other patent offices (such as the Indian Patent Office) may not accept any redrafted claiming format for such claims. Changes in patent laws or in interpretations of patent laws in the United States and other jurisdictions may diminish the value of our intellectual property or narrow the scope of our patent protection. In September 2011, the Leahy-Smith America Invents Act, or the Leahy-Smith Act, was signed into law, resulting in a number of significant changes to United States patent law. These changes include provisions that affect the way patent applications are prosecuted and may also affect patent litigation. In addition, the United States Supreme Court has ruled on several patent cases in recent years, narrowing the scope of patent protection available in certain circumstances or weakening the rights of patent owners in certain situations. This combination of events has created uncertainty with respect to the value of patents, once obtained, and with regard to our ability to obtain patents in the future. As the USPTO continues to implement the Leahy-Smith Act, and as the federal courts have the opportunity to interpret the Leahy-Smith Act, the laws and regulations governing patents, and the rules regarding patent procurement could change in unpredictable ways that would weaken our ability to obtain new patents or to enforce our existing patents and patents that we might obtain in the future. Certain technologies utilized in our research and development programs are already in the public domain. Moreover, a number of our competitors have developed technologies, or filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and may cover or conflict with our owned or licensed patent applications, technologies or product candidates. Such conflicts could limit the scope of the patents, if any, that we may be able to obtain. Because patent applications in the United States and many foreign jurisdictions are typically not published until 18 months after filing, or in some cases at all, and because publications of discoveries in the scientific literature lag behind actual discoveries per se, neither we nor our licensors can be certain that others have not filed patent applications for technology used by us or covered by our pending patent applications. We cannot know with certainty whether we were the first to make and file for the inventions claimed in our owned patent portfolio, or whether our licensors were the first to make and file for the inventions claimed in our in-licensed patent portfolio. As a result, the issuance, scope, validity, enforceability and commercial value of our patent rights are highly uncertain. Our pending and future patent applications may not result in the issuance of patents that protect our technology or products, in whole or in part, or that effectively prevent others from commercializing competitive technologies and products. In addition, our own earlier filed patents and applications or those of MD Anderson, the NCI or Precigen, to the extent not then terminated, may limit the scope of later patents we obtain, if any. If third parties file or have filed patent applications or obtained patents on technologies, compositions and methods of use that are relevant to our business and that cover or conflict with our owned or licensed patent applications, technologies or product candidates, we may be required to challenge such protection, terminate or modify our programs impacted by such protection, or obtain licenses from such third parties, which might not be available on acceptable terms, or at all. Even if our owned and licensed patent applications were to be issued as patents, they may not issue in a form that would provide us with any meaningful protection, prevent competitors from competing with us or otherwise provide us with any competitive advantage. Our competitors may be able to circumvent our owned or licensed patents by developing similar or alternative technologies or products in a non-infringing manner. The issuance of a patent is not conclusive as to its inventorship, scope, validity or enforceability, and our owned and licensed patents may be challenged in the courts or patent offices in the United States and abroad. Such challenges may result in loss of exclusivity due to our patents being narrowed, invalidated or held unenforceable, which could limit our ability to stop others from using or commercializing similar or identical technology and products, or limit the duration of the patent protection of our technology and products. Given the amount of time required for the development, testing and regulatory review of new product candidates, patents 49 protecting such candidates might expire before or even after such candidates are commercialized. As a result, our owned and licensed patent portfolio may not provide us with sufficient rights to exclude others from commercializing products similar or identical to ours. If we are unable to protect the confidentiality of our confidential information, our business and competitive position would be harmed. Our success also depends upon the skills, knowledge and experience of our scientific and technical personnel, our consultants and advisors, as well as our licensors and contractors. To help protect our proprietary know-how and our inventions for which patents may be unobtainable or difficult to obtain, and to maintain our competitive position, we rely on trade secret protection and confidentiality agreements. To this end, it is our general policy to require our employees, consultants, advisors and contractors to enter into agreements that prohibit the disclosure of confidential information and, where applicable, require disclosure and assignment to us of the ideas, developments, discoveries and inventions important to our business. These agreements may not provide adequate protection for our trade secrets, know-how, confidential information or other proprietary information in the event of any unauthorized use or disclosure or the lawful development by others of such information. Moreover, we may not be able to obtain adequate remedies for any breaches of these agreements. Our trade secrets or other confidential information may also be obtained by third parties by other means, such as breaches of our physical or computer security systems. Enforcing a claim that a party illegally disclosed or misappropriated a trade secret or other confidential information is difficult, expensive and time-consuming, and the outcome is unpredictable. In addition, some courts inside and outside the United States are less willing or unwilling to protect trade secrets. If any of our trade secrets or other confidential information were to be lawfully obtained or independently developed by competitors, we would have no right to prevent them, or those to whom they communicate it, from using that technology or information to compete with us. If any of our trade secrets, know-how or other proprietary information is disclosed, the value of our trade secrets, know-how and other proprietary rights would be significantly impaired and our business and competitive position would suffer. *Third-party claims of intellectual property infringement would require us to spend significant time and money and could prevent us from developing or commercializing our products. In order to protect or enforce patent rights, we may initiate patent infringement litigation against third parties. Similarly, we may be sued by others for patent infringement. We also may become subject to pre- and post-grant proceedings conducted in the USPTO, including interferences, derivations, post-grant review, inter partes review, or reexamination. In other jurisdictions, our patent estate may be subject to pre- and post-grant opposition, nullity, revocation proceedings and the like. Asserting and defending against intellectual property actions are costly and divert technical and management personnel away from their normal responsibilities. Should we resume development in the future, our commercial success depends upon our ability, and the ability of our collaborators, to develop, manufacture, market and sell our product candidates without infringing the proprietary rights of third parties. There is considerable intellectual property litigation in the biotechnology and pharmaceutical industries. While no such litigation has been brought against us and we have not been held by any court to have infringed a third party’s intellectual property rights, we cannot guarantee that our products or use of our products do not infringe or will not be asserted to infringe third-party patents. It is also possible that we have failed to identify relevant third-party patents or applications, or that as-yet unpublished third-party patent applications will later result in the grant of patents relevant to our business. Another possibility is for a third-party patent or patent application to first contain claims not relevant to our business but then to be reissued or amended in such a way that it does become relevant. Our research, development and commercialization activities, as well as any product candidates or products resulting from these activities, may infringe or be asserted to infringe patents or patent applications under which we do not hold licenses or other rights. Owning a patent does not confer on the patentee the right to practice the claimed invention and does not protect the patentee from being sued for infringement of another owner’s patent. Our patent position cannot and does not provide any assurance that we are not infringing or will not be asserted to infringe the patent rights of another. The patent landscape in the field of immuno-oncology is particularly complex. We are aware of numerous United States and foreign patents and pending patent applications of third parties directed to compositions, methods of use and methods of manufacture of immuno-oncology products. In addition, there may be patents and patent applications in the field of which we are not aware. The technology we currently license from MD Anderson, the NCI and Precigen is early-stage technology, and we were in the process of designing and developing products using this technology. Although we sought and, should we resume development activities, will seek to avoid pursuing the development of products that may infringe any third-party patent claims that we believe to be valid and enforceable, we may fail to do so. Moreover, given the breadth and number of claims in patents and pending patent applications in the field of immuno-oncology and the complexities and uncertainties associated with them, third parties may allege that we are infringing patent claims even if we do not believe such claims have merit. If a claim for patent infringement is asserted, there can be no assurance that the resolution of the claim would permit us to continue marketing the relevant product on commercially reasonable terms, if at all. We may not have sufficient resources to bring these actions to a successful conclusion. If we do not successfully defend any infringement actions to which we become a party or if we are unable to have any asserted third-party patents declared invalid or unenforceable, we may have to pay substantial monetary damages, which 50 can be tripled if the infringement is deemed willful, and/or we may be required to discontinue or significantly delay commercialization and development of the affected products. Any legal action against us or our collaborators claiming damages and seeking to enjoin developmental or marketing activities relating to affected products could, in addition to subjecting us to potential liability for damages, require us or our collaborators to obtain licenses to continue to develop, manufacture or market the affected products. Such licenses may not be available to us on commercially reasonable terms, or at all. An adverse determination in a proceeding involving our owned or licensed intellectual property may allow entry in the market of substitutes, including biosimilar or generic substitutes, for our products. Obtaining and maintaining our patent protection depends on compliance with various procedural, document submission, fee payment and other requirements imposed by governmental patent agencies, and our patent protection could be reduced or eliminated for noncompliance with these requirements. Annuities and other similar fees must be paid to the respective patent authority to maintain patents (or patents and patent applications) in most jurisdictions worldwide. Further, patent authorities in jurisdictions worldwide require compliance with a number of procedural, documentary, fee payment and other similar provisions during the patent application process. While an inadvertent lapse can in many cases be cured by payment of a late fee or by other means in accordance with the applicable rules, there are situations in which noncompliance can result in abandonment or lapse of the patent or patent application, resulting in partial or complete loss of patent rights in the relevant jurisdiction. Noncompliance events that could result in abandonment or lapse of a patent or patent application include, but are not limited to, failure to respond to official actions within prescribed time limits, non-payment of fees, and failure to submit documents with the necessary formal requirements such as notarization and legalization. In such an event, our competitors might be able to enter the market, which would have a material adverse effect on our business. We license rights to products and technology that are important to our business, and we expect to enter into additional licenses in the future. For instance, we have in-licensed patents and patent applications under the MD Anderson License and the Patent License. Under these agreements, we are subject to a range of obligations pertaining to commercialization and development, sublicensing, royalty, patent prosecution and maintenance, and insurance. Any failure by us to obtain a needed license, comply with any of the obligations or otherwise breach of our then existing license agreements could give the licensor the right to terminate the license in whole, terminate the exclusive nature of the license or bring a claim against us for damages. Any such termination or claim could have a material adverse effect on our financial condition, results of operations, liquidity or business. Even if we contest any such termination or claim and are ultimately successful, such dispute could lead to delays in the development or commercialization of potential products and result in time-consuming and expensive litigation or arbitration. On termination we may be required to license to the licensor any related intellectual property that we developed. In addition, in certain cases, the rights licensed to us are rights of a third party licensed to our licensor. In such instances, if our licensors do not comply with their obligations under such licenses, our rights under our license agreements with our licensor may be adversely affected. In addition, the licensing or acquisition of third-party intellectual property rights is a highly competitive area, and a number of more established companies are also pursuing strategies to license or acquire third-party intellectual property rights that we may consider attractive or necessary. These established companies may have a competitive advantage over us due to their size, capital resources and greater clinical development and commercialization capabilities. In addition, companies that perceive us to be a competitor may be unwilling to assign or license rights to us. We also may be unable to license or acquire third-party intellectual property rights on terms that would allow us to make an appropriate return on our investment or at all. If we are unable to successfully obtain rights to required third-party intellectual property rights or maintain the existing intellectual property rights we have, we may have to abandon development of the relevant program or product candidate, which could have a material adverse effect on our business, financial condition, results of operations, and prospects. We may be subject to claims by third parties asserting that our employees or we have misappropriated their intellectual property or claiming ownership of what we regard as our own intellectual property. Many of our current and former employees were previously employed at universities or at other biotechnology or pharmaceutical companies, including our competitors or potential competitors. Although we try to ensure that our employees do not and did not use the proprietary information or know-how of others in their work for us, we may be subject to claims that these employees or we have used or disclosed intellectual property, including trade secrets or other proprietary information, of any such employee’s former employer. Litigation may be necessary to defend against these claims. In addition, while it is our policy to require our employees and contractors who may be involved in the development of intellectual property to execute agreements assigning such intellectual property to us, we may be unsuccessful in executing such an agreement with each party who in fact develops intellectual property that we regard as our own. Our and their assignment agreements may not be 51 self-executing or may be breached, and we may be forced to bring claims against third parties, or defend claims they may bring against us, to determine the ownership of what we regard as our intellectual property. If we fail in prosecuting or defending any such claims, in addition to paying monetary damages, we may lose valuable intellectual property rights or personnel. Even if we are successful in prosecuting or defending against such claims, litigation could result in substantial costs and be a distraction to management. OTHER RISKS RELATED TO OUR COMPANY *Our stock price has been, and may continue to be, volatile. The market price for our common stock is volatile and may fluctuate significantly in response to a number of factors, most of which we cannot control, includin • Our decision to pursue a strategic reprioritization; • Price and volume fluctuations in the overall stock market; • Changes in operating results and performance and stock market valuations of other biopharmaceutical companies generally, or those that develop and commercialize cancer drugs in particular; • Market conditions or trends in our industry or the economy as a whole; • Preclinical studies or clinical trial results, should we resume clinical development; • The commencement, enrollment or results of clinical trials of our product candidates or any future clinical trials we may conduct, or changes in the development status of our product candidates; • Public statements by third parties like trial participants and clinical investigators regarding clinical trials; • Public concern as to the safety of drugs developed by us or others; • The financial or operational projections we may provide to the public, any changes in these projections or our failure to meet these projections; • Comments by securities analysts or changes in financial estimates or ratings by any securities analysts who follow our common stock, our failure to meet these estimates or failure of those analysts to initiate or maintain coverage of our common stock; • The public’s response to press releases or other public announcements by us or third parties, including our filings with the SEC, as well as announcements of the status of development of our products, announcements of technological innovations or new therapeutic products by us or our competitors, announcements regarding collaborative agreements and other announcements relating to product development, litigation and intellectual property impacting us or our business; • Government regulation; • FDA determinations on the approval of a product candidate BLA submission; • The sustainability of an active trading market for our common stock; • Future sales of our common stock by us, our executive officers, directors and significant stockholders; • Announcements of mergers or acquisition transactions; • Our inclusion or removal from certain stock indices; • Our delisting from Nasdaq; • Developments in patent or other proprietary rights; • Changes in reimbursement policies; • Announcements of medical innovations or new products by our competitors; • Announcements of changes in our senior management or directors; • General economic, industry, political and market conditions, including, but not limited to, the ongoing impact of global economic conditions; 52 • Other events or factors, including those resulting from war, incidents of terrorism, natural disasters, pandemics or responses to these events; and • Changes in accounting principles. In addition, the stock market in general and our stock in particular from time to time experiences significant price and volume fluctuations unrelated to the operating performance of particular companies, which has resulted in decreased stock prices for many companies notwithstanding the lack of a fundamental change in their underlying business models or prospects. Public debt and equity markets, and in particular the Nasdaq Capital Market, have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many biopharmaceutical companies. Stock prices of many biopharmaceutical companies have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. In the past, stockholders have instituted securities class action litigation following periods of market volatility. If we were involved in securities litigation, we could incur substantial costs and our resources, and the attention of management could be diverted from our business. Public statements made by third parties such as trial participants and clinical investigators about clinical trials without our consent may adversely impact our stock price. We may not be aware of these third-party statements when made, may not be able to respond to these third-party statements and may not be able to defend our business or the public’s legitimate interests due to restrictions on what we may say about our product candidates, which may cause the price of our stock to fluctuate. If any of these events were to occur or we otherwise fail to comply with applicable regulations, we could incur liability, face regulatory actions or incur other harm to our business. *Anti-takeover provisions in our charter documents and under Delaware law may make an acquisition of us, which may be beneficial to our stockholders, more difficult. Provisions of our amended and restated certificate of incorporation and bylaws, as well as provisions of Delaware law, could make it more difficult for a third party to acquire us, even if doing so would benefit our stockholders. These provisions authorize the issuance of “blank check” preferred stock that could be issued by our Board of Directors to increase the number of outstanding shares and hinder a takeover attempt, and limit who may call a special meeting of stockholders. In addition, Section 203 of the Delaware General Corporation Law, or Section 203, generally prohibits a publicly held Delaware corporation from engaging in a business combination with a party that owns at least 15% of its common stock unless the business combination is approved by our Board of Directors before the person acquires the 15% ownership stake or later by its Board of Directors and two-thirds of its stockholders. Section 203 could have the effect of delaying, deferring or preventing a change in control that our stockholders might consider to be in their best interests. We have begun exploring strategic alternatives, including, but not limited to, an acquisition, merger, reverse merger, sale of assets, strategic partnerships, capital raises or other transactions. If we are approached by a third-party in connection with such process, and our Board of Directors does not believe that a transaction with such party is in the best interest of our stockholders, we may rely on the provisions described above to prevent an acquisition by such party in order to maximize stockholder value. There is no guarantee that we will be able to find a transaction that delivers superior value to our stockholders. Our amended and restated bylaws provide that the Court of Chancery of the State of Delaware will be the exclusive forum for substantially all disputes between us and our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees. Our amended and restated bylaws provide that, unless we consent in writing to the selection of an alternative forum, the Court of Chancery of the State of Delaware is the exclusive forum for (i) any derivative action or proceeding brought on our behalf; (ii) any action asserting a claim of breach of a fiduciary duty owed by any of our directors, officers or other employees to us or our stockholders; (iii) any action asserting a claim against us or any of our directors, officers or other employees arising pursuant to any provision of the Delaware General Corporation Law, our amended and restated certificate of incorporation or our amended and restated bylaws; (iv) any claim or cause of action seeking to interpret, apply, enforce or determine the validity of the amended and restated certificate of incorporation or our bylaws; (v) any claim or cause of action as to which the Delaware General Corporation Law confers jurisdiction on the Court of Chancery of the State of Delaware; or (vi) any action asserting a claim against us or any of our directors, officers or other employees governed by the internal affairs doctrine. These provisions would not apply to suits brought to enforce a duty or liability created by the Exchange Act. Furthermore, Section 22 of the Securities Act creates concurrent jurisdiction for federal and state courts over all Securities Act actions. Accordingly, both state and federal courts have jurisdiction to entertain such claims. These exclusive forum provisions may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers or other employees, which may discourage lawsuits against us and our directors, officers and other employees. If a court were to find either exclusive-forum provision to be inapplicable or unenforceable in an action, we may 53 incur further significant additional costs associated with resolving the dispute in other jurisdictions, all of which could seriously harm our business. Because we do not expect to pay dividends, you will not realize any income from an investment in our common stock unless and until you sell your shares at a profit. We have never paid dividends on our common stock, and we do not anticipate that we will pay any dividends for the foreseeable future. Accordingly, any return on an investment in us will be realized, if at all, only when you sell shares of our common stock. Our ability to use net operating loss carryforwards and research tax credits to reduce future tax payments may be limited or restricted. We have generated significant net operating loss carryforwards, or NOLs, and research and development tax credits, or R&D credits, as a result of our incurrence of losses and our conduct of research activities since inception. We generally are able to carry NOLs and R&D credits forward to reduce our tax liability in future years. However, our ability to utilize the NOLs and R&D credits is subject to the rules of Sections 382 and 383 of the Internal Revenue Code of 1986, as amended, or the Code, respectively. Those sections generally restrict the use of NOLs and R&D credits after an “ownership change.” An ownership change occurs if, among other things, the stockholders (or specified groups of stockholders) who own or have owned, directly or indirectly, 5% or more of a corporation’s common stock or are otherwise treated as 5% stockholders under Section 382 of the Code and the U.S. Treasury Department regulations promulgated thereunder increase their aggregate percentage ownership of that corporation’s stock by more than 50 percentage points over the lowest percentage of the stock owned by these stockholders over the applicable testing period. In the event of an ownership change, Section 382 of the Code imposes an annual limitation on the amount of taxable income a corporation may offset with NOL carry forwards and Section 383 of the Code imposes an annual limitation on the amount of tax a corporation may offset with business credit (including R&D credits) carryforwards. We may have experienced an “ownership change” within the meaning of Section 382 of the Code in the past and there can be no assurance that we will not experience additional ownership changes in the future, including in light of our search for strategic alternatives. As a result, our NOLs and business credits (including R&D credits) may be subject to limitations, and we may be required to pay taxes earlier and in larger amounts than would be the case if our NOLs or R&D credits were freely usable. *If securities and/or industry analysts fail to continue publishing research about our business, if they change their recommendations adversely or if our results of operations do not meet their expectations, our stock price and trading volume could decline. The trading market for our common stock will be influenced by the research and reports that industry or securities analysts publish about us or our business. If one or more of these analysts cease coverage of our Company or fail to publish reports on us regularly, we could lose visibility in the financial markets, which in turn could cause our stock price or trading volume to decline. In addition, it is likely that in some future period our operating results will be below the expectations of securities analysts or investors. If one or more of the analysts who cover us downgrade our stock, or if our results of operations do not meet their expectations, our stock price could decline. If our common stock is delisted by Nasdaq, the impact of analysts ceasing to cover our securities may negatively impact the price of our common stock more dramatically. *Our business could be negatively affected as a result of the actions of activist stockholders. In 2021, we were engaged in a consent solicitation led by WaterMill Asset Management Corp., or WaterMill, where three new directors were added to our Board of Directors. We could experience other stockholder activism in the future, including another consent solicitation or a proxy contest. Activist stockholders may advocate for certain governance and strategic changes at our company. In the event of stockholder activism, particularly with respect to matters which our Board of Directors, in exercising their fiduciary duties, disagree with or have determined not to pursue, our business could be adversely affected because responding to actions by activist stockholders can be costly and time-consuming, disrupting our operations and diverting the attention of management, and perceived uncertainties as to our future direction may result in the loss of potential business opportunities and may make it more difficult to attract and retain qualified personnel, business partners, and customers. In addition, if faced with a consent solicitation or proxy contest, we may not be able to respond successfully to the contest or dispute, which would be disruptive to our business. If individuals are elected to our Board of Directors with a differing agenda, our ability to effectively and timely implement our strategic plan and create additional value for our stockholders may be adversely affected. If our Board of Directors elects to pursue a strategic alternative requiring a stockholder vote, activists may pursue a campaign against the transaction and as a result may make consummating the transaction more difficult, or impossible, despite the Board of Directors' conclusions that such transaction is in the best interest of our stockholders. 54 *The exercise of outstanding warrants, and issuance of equity awards may have a dilutive effect on our stock, and negatively impact the price of our common stock. As of September 30, 2023, we had warrants for 22,922,342 shares of our common stock outstanding at a weighted average exercise price of $5.62 per share. We are able to grant stock options, restricted stock, restricted stock units, stock appreciation rights, bonus stocks, and performance awards under the 2020 Equity Incentive Plan. As of September 30, 2023 under the 2020 Equity Incentive Plan and our 2012 Equity Incentive Plan, 12,417,029 shares were issuable upon the exercise of outstanding options at a weighted average exercise price of $1.51 per share. *Our principal stockholders, executive officers and directors have substantial control over the Company, which may prevent you and other stockholders from influencing significant corporate decisions and may harm the market price of our common stock. As of September 30, 2023, our executive officers, directors and holders of five percent or more of our outstanding common stock beneficially owned, in the aggregate, 22.8% of our outstanding common stock. These stockholders may have interests that conflict with our other stockholders and, if acting together, have the ability to influence the outcome of matters submitted to our stockholders for approval, including the election and removal of directors and any merger, consolidation or sale of all or substantially all of our assets. Accordingly, this concentration of ownership may harm the market price of our common stock • Delaying, deferring or preventing a change in control; • Impeding a merger, consolidation, takeover or other business combination involving us; or • Discouraging a potential acquirer from making a tender offer or otherwise attempting to obtain control of us. In addition, this significant concentration of stock ownership may adversely affect the trading price of our common stock should investors perceive disadvantages in owning shares of common stock in a company that has such concentrated ownership. We are a “smaller reporting company,” and the reduced disclosure requirements applicable to smaller reporting companies may make our common stock less attractive to investors. We are considered a “smaller reporting company” under Rule 12b-2 of the Exchange Act. We are therefore entitled to rely on certain reduced disclosure requirements, such as an exemption from providing selected financial data and executive compensation information. These exemptions and reduced disclosures in our SEC filings due to our status as a smaller reporting company also mean our auditors are not required to review our internal control over financial reporting and may make it harder for investors to analyze our results of operations and financial prospects. We cannot predict if investors will find our common stock less attractive because we may rely on these exemptions. If some investors find our common stock less attractive as a result, there may be a less active trading market for our common stock and our common stock prices may be more volatile. We will remain a smaller reporting company until either (i) our public float exceeds $250 million, as of the last business day of our most recently completed second quarter, if our annual revenues equal or exceed $100 million in our most recently completed fiscal year, or (ii) our public float exceeds $700 million, as of the last business day of our most recently completed second quarter, if our annual revenues are less than $100 million in our most recently completed fiscal year. Item 2. Unregistered Sale of Equity Securities and Use of Proceeds None. Item 3. Defaults upon Senior Securities Not applicable. Item 4. Mine Safety Disclosures Not applicable. Item 5. Other Information Securities Trading Plans of Directors and Executive Officers During the three months ended September 30, 2023, none of our directors or executive officers adopted or terminated any contract, instruction or written plan for the purchase or sale of our securities that was intended to satisfy the affirmative defense conditions of Rule 10b5-1(c) or any "non-Rule 10b5-1 trading arrangement." Item 5.02 Departure of Directors or Certain Officers; Election of Directors; Appointment of Certain Officers; Compensatory Arrangements of Certain Officers 55 On August 14, 2023, we entered into a retention letter agreement, or the Lackey Retention Agreement, with Melinda Lackey, our Senior Vice President, Legal and Administration , providing for a retention bonus as an incentive for her continued service through our exploration of strategic alternatives. The Lackey Retention Agreement provides that if Ms. Lackey remains fully employed until the earlier of (i) the completion of the Transaction (as defined in the Lackey Retention Agreement) and (ii) the date that we terminate Ms. Lackey for any reason other than for failure to perform her duties at an Acceptable Level (as defined in the Lackey Retention Agreement), such period is referred to herein as the Lackey Transition Period, performs her duties at an Acceptable Level and signs a separation and release agreement, Ms. Lackey will be entitled to a bonus in the amount of 0.5 times her then monthly base for each month after August 15, 2023. The amount of the bonus will be paid in a lump sum at the end of the Lackey Transition Period and prorated as appropriate. If we terminate Ms. Lackey’s employment for any reason other than failure to perform her duties at an Acceptable Level, including as a result of Ms. Lackey’s death or permanent disability, Ms. Lackey will be deemed to have earned her bonus in full. On September 1, 2023, we entered into a retention letter agreement, or the Deniger Retention Agreement, with Drew Deniger, our Vice President, Research and Development, providing for a retention bonus as an incentive for his continued service through our exploration of strategic alternatives. The Deniger Retention Agreement provides that if Dr. Deniger remains fully employed until the earlier of (i) the completion of the Transaction (as defined in the Deniger Retention Agreement) and (ii) the date that we terminate Dr. Deniger for any reason other than for failure to perform his duties at an Acceptable Level (as defined in the Deniger Retention Agreement), such period is referred to herein as the Deniger Transition Period, performs his duties at an Acceptable Level and signs a separation and release agreement, Dr. Deniger will be entitled to a bonus in the amount of 0.5 times his then monthly base for each month after August 15, 2023. The amount of the bonus will be paid in a lump sum at the end of the Deniger Transition Period and prorated as appropriate. If we terminate Dr. Deniger's employment for any reason other than failure to perform his duties at an Acceptable Level, including as a result of Dr. Deniger’s death or permanent disability, Dr. Deniger will be deemed to have earned his bonus in full. The foregoing descriptions of the Lackey Retention Agreement and Deniger Retention Agreement are summaries, do not purport to be complete and are qualified in their entirety by reference to the Retention Agreement, which is attached hereto as Exhibit 10.1 and Exhibit 10.2, respectively, and each are incorporated herein by reference. On November 10, 2023, we terminated the employment of Ms. Lackey and Dr. Deniger "Without Cause" (as defined in their respective employment agreements) and, per their respective Retention Agreements, not because either failed to perform their duties at an "Acceptable Level" (as defined therein), effective November 15, 2023. The Company expects to enter into a Severance Agreement with Dr. Deniger pursuant to which, among other things, he will remain reasonably available to the Company in connection with its consideration of strategic alternatives, including a potential transaction relating to the Company's scientific assets. In addition, the Company expects to enter into a Severance Agreement and Consulting Agreement with Ms. Lackey. 56 Item 6. Exhibits Exhibit Number Description 3.1 Amended and Restated Certificate of Incorporation of the Registrant, and all amendments thereto (incorporated by reference to Exhibit 3.1 to the Registrant's Quarterly Report on Form 10-Q for the period ended June 30, 2023). 3.2 Amended and Restated Bylaws of the Registrant, dated as of September 21, 2020 (incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K, SEC File No. 001-33038, filed September 22, 2020). 10.1†+ Retention Agreement, dated as of August 14, 2023, between the Registrant and Melinda Lackey. 10.2†+ Retention Agreement, dated as of August 14, 2023, between the Registrant and Drew Deniger. 31.1+ Certification of Principal Executive Officer and Principal Financial Officer pursuant to Exchange Act Rule 13a-14(a) or 15(d)-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1++ Certifications of Principal Executive Officer and Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 101.INS+ Inline XBRL Instance Document (the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document). 101.SCH+ Inline XBRL Taxonomy Extension Schema Document 101.CAL+ Inline XBRL Taxonomy Extension Calculation Linkbase Document 101.DEF+ Inline XBRL Taxonomy Definition Linkbase Document 101.LAB+ Inline XBRL Taxonomy Extension Label Linkbase Document 101.PRE+ Inline XBRL Taxonomy Extension Presentation Linkbase Document 104+ Cover Page Interactive Data File—the cover page interactive data is embedded within the Inline XBRL document or included within the Exhibit 101 attachments + Filed herewith. ++ This certification is deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the liability of that section, nor shall it be deemed incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, whether made before or after the date hereof, regardless of any general incorporation language in such filing. † Indicates management contract or compensatory plan. 57 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ALAUNOS THERAPEUTICS, INC. By: /s/ Kevin S. Boyle, Sr. Kevin S. Boyle, Sr. Chief Executive Officer (On Behalf of the Registrant and as Principal Executive Officer and Principal Financial Officer) Dat November 14, 2023 By: /s/ Michael Wong Michael Wong Vice President, Finance (Principal Accounting Officer) Dat November 14, 2023 58 |
Washington, D.C. 20549 FORM 10-K ☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year end January 29, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File Numbe 000-51300 ZUMIEZ INC . (Exact name of Registrant as specified in its charter) Washington 91-1040022 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 4001 204 th Street SW Lynnwood , Washington 98036 (Address of principal executive offices) (Zip Code) ( 425 ) 551-1500 (Registrant’s telephone number, including area code) Securities registered pursuant to Section 12(g) of the Ac None Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☒ No ☐ Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ☐ No ☒ Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the last 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☒ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ☐ Indicate by check mark if the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name of each exchange on which registered Common Stock ZUMZ Nasdaq Global Select The aggregate market value of the voting and non-voting stock held by non-affiliates of the registrant as of the last business day of the second fiscal quarter, July 31, 2021, was $ 951,431,935 . At March 7, 2022, there were 19,922,279 shares outstanding of common stock. DOCUMENTS INCORPORATED BY REFERENCE The information required by Part III of this report is incorporated by reference from the Registrant’s definitive proxy statement, relating to the Annual Meeting of Shareholders scheduled to be held June 1, 2022, which definitive proxy statement will be filed not later than 120 days after the end of the fiscal year to which this report relates. ZUMIEZ INC. FORM 10-K TABLE OF CONTENTS PART I Item 1. Business 3 Item 1A. Risk Factors 11 Item 1B. Unresolved Staff Comments 21 Item 2. Properties 21 Item 3. Legal Proceedings 21 Item 4. Mine Safety Disclosures 21 PART II Item 5. Market for the Registrant’s Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities 22 Item 6. Reserved 23 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 24 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 37 Item 8. Financial Statements and Supplementary Data 37 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 37 Item 9A. Controls and Procedures 37 Item 9B. Other Information 40 Item 9C. D isclosure Regarding Foreign Jurisdictions that Prevent Inspections 40 PART III Item 10. Directors, Executive Officers and Corporate Governance 41 Item 11. Executive Compensation 41 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Shareholder Matters 41 Item 13. Certain Relationships and Related Transactions, and Director Independence 41 Item 14. Principal Accountant Fees and Services 41 41 PART IV Item 15. Exhibits, Financial Statement Schedules 42 Signatures 72 ZUMIEZ INC. FORM 10-K PART I. This Form 10-K contains forward-looking statements. These statements relate to our expectations for future events and future financial performance. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. These statements are only predictions. Actual events or results may differ materially. Factors which could affect our financial results are described in Item 1A below and in Item 7 of Part II of this Form 10-K. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Moreover, neither we nor any other person assume responsibility for the accuracy and completeness of the forward-looking statements. We undertake no duty to update any of the forward-looking statements after the date of this report to conform such statements to actual results or to changes in our expectations. We use a fiscal calendar widely used by the retail industry that results in a fiscal year consisting of a 52- or 53-week period ending on the Saturday closest to January 31. Each fiscal year consists of four 13-week quarters, with an extra week added to the fourth quarter every five or six years. Fiscal 2022 will be the 52 week period ending January 28, 2023. Fiscal 2021 was the 52 week period ending January 29, 2022. Fiscal 2020 was the 52 week period ending January 30, 2021. Fiscal 2019 was the 52 week period ending February 1, 2020. Fiscal 2018 was the 52 week period ending February 2, 2019. Fiscal 2017 was the 53 week period ending February 3, 2018. “Zumiez,” the “Company,” “we,” “us,” “its,” “our” and similar references refer to Zumiez Inc. and its wholly-owned subsidiaries. Item 1. BUSINESS Zumiez Inc., including its wholly-owned subsidiaries, is a leading specialty retailer of apparel, footwear, accessories and hardgoods for young men and women who want to express their individuality through the fashion, music, art and culture of action sports, streetwear and other unique lifestyles. Zumiez Inc. was formed in August 1978 and is a Washington State corporation. We operate under the names Zumiez, Blue Tomato and Fast Times. We operate ecommerce websites at zumiez.com, zumiez.ca, blue-tomato.com and fasttimes.com.au. At January 29, 2022, we operated 739 stores; 604 in the United States (“U.S.”), 52 in Canada, 66 in Europe and 17 in Australia. We acquired Blue Tomato in fiscal 2012. Blue Tomato is one of the leading European specialty retailers of apparel, footwear, accessories and hardgoods. We acquired Fast Times Skateboarding (“Fast Times”) in fiscal 2016. Fast Times is an Australian leading specialty retailer of hardgoods, accessories, apparel and footwear. We employ a sales strategy that integrates our stores with our ecommerce platform to serve our customers. There is significant interaction between our store sales and our ecommerce sales channels and we believe that they are utilized in tandem by our customers. Our selling platforms bring the look and feel of an independent specialty shop through a distinctive store environment and high-energy sales personnel. We seek to staff our stores with store associates who are knowledgeable users of our products, which we believe provides our customers with enhanced customer service and supplements our ability to identify and react quickly to emerging trends and fashions. We design our selling platforms to appeal to teenagers and young adults and to serve as a destination for our customers. We believe that our distinctive selling platforms concepts and compelling economics will provide continued opportunities for growth in both new and existing markets. 3 We believe that our customers desire authentic merchandise and fashion that is rooted in the fashion, music, art and culture of action sports, streetwear and other unique lifestyles to express their individuality. We strive to keep our merchandising mix fresh by continuously introducing new brands, styles and categories of product. Our focus on a diverse collection of brands allows us to quickly adjust to changing fashion trends. We believe that our strategic mix of apparel, footwear, accessories and hardgoods, including skateboards, snowboards, bindings, components and other equipment, allows us to strengthen the potential of the brands we sell and helps to affirm our credibility with our customers. In addition, we supplement our merchandise mix with a select offering of private label apparel and products as a value proposition that we believe complements our overall merchandise selection. Over our 43-year history, we have developed a corporate culture based on a passion for serving our customers through the lens of action sports, streetwear and other unique lifestyles. We have increased our diluted earnings per share from $1.04 in fiscal 2016 to $4.85 in fiscal 2021, representing a 36.1% compound annual growth rate; and been profitable in every fiscal year of our 43-year history. Competitive Strengths We believe that the following competitive strengths differentiate us from our competitors and are critical to our continuing success. Attractive Lifestyle Retailing Concept . We target a large population of young men and women, many of whom we believe are attracted to action sports, streetwear and other unique lifestyles and desire to express their personal independence and style through the apparel, footwear and accessories they wear and the equipment they use. We believe we have developed a brand image that our customers view as consistent with their attitudes, fashion tastes and identity and differentiates us in our market. Differentiated Merchandising Strategy . We have created a highly differentiated global retailing concept by offering an extensive selection of current and relevant lifestyle brands encompassing apparel, footwear, accessories and hardgoods. The breadth of merchandise offered through our sales channels exceeds that offered by many of our competitors and includes some brands and products that are available only from us. Many of our customers desire to update their wardrobes and equipment as fashion trends evolve or the season dictates, providing us the opportunity to shift our merchandise selection seasonally. We believe that our ability to quickly recognize changing brand and style preferences and transition our merchandise offerings allows us to continually provide a compelling offering to our customers. Deep-rooted Culture . We believe our culture and brand image enable us to successfully attract and retain high quality employees who are passionate and knowledgeable about the products we sell. We place great emphasis on customer service and satisfaction, and we have made this a defining feature of our corporate culture. To preserve our culture, we strive to promote from within and we provide our employees with the knowledge and tools to succeed through our comprehensive training programs and the empowerment to manage their stores to meet localized customer demand. Distinctive Customer Experience . We strive to provide a convenient shopping environment that is appealing and clearly communicates our distinct brand image. We seek to integrate our store and digital shopping experiences to serve our customers whenever, wherever and however they choose to engage with us. We seek to attract knowledgeable sale associates who identify with our brand and are able to offer superior customer service, advice and product expertise. We believe that our distinctive shopping experience enhances our image as a leading source for apparel and equipment for action sports, streetwear and other unique lifestyles. 4 Disciplined Operating Philosophy . We have an experienced senior management team. Our management team has built a strong operating foundation based on sound retail principles that underlie our unique culture. Our philosophy emphasizes an integrated combination of results measurement, training and incentive programs, all designed to drive sales productivity to the individual store associate level. Our comprehensive training programs are designed to provide our employees with the knowledge and tools to develop leadership, communication, sales, and operational expertise. We believe that our merchandising team immersion in the lifestyles we represent, supplemented with feedback from our customers, store associates, and omni-channel leadership, allows us to consistently identify and react to emerging fashion trends. We believe that this, combined with our inventory planning and allocation processes and systems, helps us better manage markdown and fashion risk. High-Impact, Integrated Marketing Approach . We seek to build relationships with our customers through a multi-faceted marketing approach that is designed to integrate our brand images with the lifestyles we represent. Our marketing efforts focus on reaching our customers in their environment and feature extensive grassroots digital and physical marketing events, as well as the Zumiez STASH loyalty program. Our marketing efforts incorporate local sporting and music event promotions, interactive contest sponsorships that actively involve our customers with our brands and products and various social network channels. Events and activities such as these provide opportunities for our customers to develop a strong identity with our culture and brands. Our STASH loyalty program allows us to learn more about our customer and serve their needs better. We believe that our ability to interact with our customer, and our immersion in the lifestyles we represent, allows us to build credibility with our customers and gather valuable feedback on evolving customer preferences. Growth Strategy We intend to expand our presence as a leading global specialty retailer of action sports, streetwear, and other unique lifestyles Continuing to Generate Sales Growth through Existing Channels . We seek to maximize our comparable sales through our integrated store and online shopping experiences and offering our customers a broad and relevant selection of brands and products, including a unique customer experience through each interaction with our brand. We believe in driving to the optimum store count in each physical geography that we operate in and optimizing comparable sales within these markets between physical and digital to drive total trade area sales growth. Enhancing our Brand Awareness through Continued Marketing and Promotion . We believe that a key component of our success is the brand exposure that we receive from our marketing events, promotions, and activities that embody the unique lifestyles of our customers. These are designed to assist us in increasing brand awareness in our existing markets and expanding into new markets by strengthening our connection with our target customer base. We also use our STASH loyalty program to increase brand engagement and enhance brand creditability. We believe that our marketing efforts have also been successful in generating and promoting interest in our product offerings. In addition, we use our ecommerce presence to further increase our brand awareness. We plan to continue to expand our integrated marketing efforts by promoting more events and activities in our existing and new markets. We also benefit from branded vendors’ marketing. Opening or Acquiring New Store Locations . We believe our brand has appeal that provides select store expansion opportunities, particularly within our international markets. During the last three fiscal years, we have opened 51 new stores consisting of 23 stores in fiscal 2021, 12 stores in fiscal 2020 and 16 stores in fiscal 2019. We have successfully opened stores in diverse markets throughout the U.S. and internationally, which we believe demonstrates the portability and growth potential of our concepts. To take advantage of what we believe to be a compelling economic store model, we plan to open approximately 34 new stores in fiscal 2022, including stores in our existing markets and in new markets internationally. The number of anticipated store openings may increase or decrease due to market conditions and other factors. Our goal in opening stores is to not have one more store than needed to serve all our customers within a trade area. 5 Merchandising and Purchasing Our goal is to be viewed by our customers as the definitive source of merchandise for their unique lifestyles across all channels in which we operate. We believe that the breadth of merchandise that we offer our customers, which includes apparel, footwear, accessories, and hardgoods, exceeds that offered by many other specialty stores at a single location, and makes us a single-stop purchase destination for our target customers. We seek to identify fashion trends as they develop and to respond in a timely manner with a relevant product assortment. We strive to keep our merchandising mix fresh by continuously introducing new brands or styles in response to the evolving desires of our customers. Our merchandise mix may vary by region, country and season, reflecting the preferences and seasons in each market. We believe that offering an extensive selection of current and relevant brands in sports, fashion, music and art is integral to our overall success. No single third-party brand that we carry accounted for more than 7.9%, 9.4% and 13.9% of our net sales in fiscal 2021, 2020 and 2019, respectively. We believe that our strategic mix of apparel, footwear, accessories and hardgoods allows us to strengthen the potential of the brands we sell and affirms our credibility with our customers. We believe that our ability to maintain an image consistent with the unique lifestyles of our customers is important to our key vendors. Given our scale and market position, we believe that many of our key vendors view us as an important retail partner. This position helps ensure our ability to procure a relevant product assortment and quickly respond to the changing fashion interests of our customers. Additionally, we believe we are presented with a greater variety of products and styles by some of our vendors, as well as certain specially designed items that we exclusively distribute. We supplement our merchandise assortment with a select offering of private label products across many of our product categories. Our private label products complement the branded products we sell, and some of our private label brands allow us to cater to the more value-oriented customer. For fiscal 2021, 2020 and 2019, our private label merchandise represented 13.3%, 11.4%, and 11.3% of our net sales, respectively. We have developed a disciplined approach to buying and a dynamic inventory planning and allocation process to support our merchandise strategy. We utilize a broad vendor base that allows us to shift our merchandise purchases as required to react quickly to changing consumer demands and market conditions. We manage the purchasing and allocation process by reviewing branded merchandise lines from new and existing vendors, identifying emerging fashion trends and selecting branded merchandise styles in quantities, colors and sizes to meet inventory levels established by management. We coordinate inventory levels in connection with individual stores’ sales strength, our promotions and seasonality. We utilize a localized fulfillment strategy to fulfill the majority of our ecommerce orders through our stores to enhance customer experience, maximize inventory productivity and reduce shipping time. Our merchandising staff remains in tune with the fashion, music, art and culture of action sports, streetwear and other unique lifestyles by participating in lifestyles we support, attending relevant events and concerts, watching related programming and reading relevant publications and social network channels. In order to identify evolving trends and fashion preferences, our staff spends considerable time analyzing sales data, gathering feedback from our stores and customers, shopping in key markets and soliciting input from our vendors. With a global footprint, we are able to identify trends that emerge all over the world. We source our private label merchandise from primarily foreign manufacturers around the world. We have cultivated our private label sources with a view towards high quality merchandise, production reliability and consistency of fit. We believe that our knowledge of fabric and production costs combined with a flexible sourcing base enables us to source high-quality private label goods at favorable costs. 6 Stores Store Locations . At January 29, 2022, we operated 739 stores in the following locatio United States and Puerto Rico - 604 Stores Alabama 4 Indiana 10 Nebraska 3 Rhode Island 2 Alaska 3 Iowa 4 New Hampshire 6 South Carolina 4 Arizona 11 Kansas 3 New Jersey 20 South Dakota 2 Arkansas 2 Kentucky 4 New Mexico 5 Tennessee 9 California 90 Louisiana 6 New York 33 Texas 50 Colorado 19 Maine 3 Nevada 10 Utah 14 Connecticut 10 Maryland 11 North Carolina 14 Vermont 1 Delaware 4 Massachusetts 10 North Dakota 4 Virginia 14 Florida 35 Michigan 13 Ohio 14 Washington 23 Georgia 14 Minnesota 11 Oklahoma 6 West Virginia 2 Hawaii 7 Mississippi 4 Oregon 13 Wisconsin 13 Idaho 6 Missouri 7 Pennsylvania 22 Wyoming 2 Illinois 17 Montana 5 Puerto Rico 5 Canada - 52 Stores Alberta 8 New Brunswick 1 Saskatchewan 2 British Columbia 12 Nova Scotia 2 Manitoba 2 Ontario 25 Europe - 66 Stores Austria 17 Germany 30 Switzerland 10 Netherlands 3 Norway 1 Finland 5 Australia - 17 Stores Victoria 8 Queensland 4 South Australia 2 New South Wales 3 The following table shows the number of stores (excluding temporary stores that we operate from time to time for special or seasonal events) opened, acquired and permanently closed in each of our last three fiscal yea Fiscal Year Stores Opened Stores Closed (1) Total Number of Stores End of Year 2021 23 5 739 2020 12 9 721 2019 16 5 718 (1) Store closures above do not include short-term closures in fiscal 2021 and 2020 due to the impact of the novel coronavirus (“COVID-19”) pandemic. 7 Store Design and Environment. We design our stores to create a distinctive and engaging shopping environment that we believe resonates with our customers. Our stores feature an industrial look, dense merchandise displays, lifestyle focused posters and signage and popular music, all of which are consistent with the look and feel of an independent specialty shop. Our stores are designed to encourage our customers to shop for longer periods of time, to interact with each other and our store associates and to visit our stores more frequently. Our stores are constructed and finished to allow us to efficiently shift merchandise displays throughout the year as the season dictates. At January 29, 2022 , our stores averaged approximately 2,951 square feet. All references in this Annual Report on Form 10-K to square footage of our stores refers to gross square footage, including retail selling, storage and back-office space. Expansion Opportunities and Site Selection . In selecting a location for a new store, we target high-traffic locations with suitable demographics and favorable lease terms. We generally locate our stores in areas in which other teen and young adult-oriented retailers have performed well. We focus on evaluating the market specific competitive environment for potential new store locations. We seek to diversify our store locations regionally and by caliber of mall or shopping area. For mall locations, we seek locations near busy areas of the mall such as food courts, movie theaters, game stores and other popular teen and young adult retailers. Store Management, Operations and Training . We believe that our success is dependent in part on our ability to attract, train, retain and motivate qualified employees at all levels of our organization. We have developed a corporate culture that we believe empowers the individual store managers to make store-level business decisions and consistently rewards their success. We are committed to improving the skills and careers of our workforce and providing advancement opportunities for employees. We believe we provide our managers with the knowledge and tools to succeed through our comprehensive training programs and the flexibility to manage their stores to meet customer demands. While general guidelines for our merchandise assortments, store layouts and in-store visuals are provided by our home offices, we give our managers substantial discretion to tailor their stores to the individual market and empower them to make store-level business decisions. We design group training programs for our managers to improve both operational expertise and supervisory skills. Our store associates generally have an interest in the fashion, music, art and culture of the lifestyle we support and are knowledgeable about our products. Through our training, evaluation and incentive programs, we seek to enhance the productivity of our store associates. These programs are designed to promote a competitive, yet fun, culture that is consistent with the unique lifestyles we seek to promote. Marketing and Advertising We seek to reach our target customer audience through a multi-faceted marketing approach that is designed to integrate our brand image with the lifestyles we represent. Our marketing efforts focus on reaching our customers in their environment, and feature extensive physical and digital grassroots marketing events, which give our customers an opportunity to experience and participate in the lifestyles we offer. Our grassroots marketing events are built around the demographics of our customer base and offer an opportunity for our customers to develop a strong identity with our brands and culture. We have a customer loyalty program, the Zumiez STASH, which allows members to earn points for purchases or performance of certain activities. The points can be redeemed for a broad range of rewards, including product and experiential rewards. Our marketing efforts also incorporate local sporting and music event promotions, advertising in magazines popular with our target market, interactive contest sponsorships that actively involve our customers with our brands and products, the Zumiez STASH, catalogs and various social network channels. We believe that our immersion in action sports, streetwear and other unique lifestyles allows us to build credibility with our target audience and gather valuable feedback on evolving customer preferences. 8 Distribution and Fulfillment Timely and efficient distribution of merchandise to our stores is an important component of our overall business strategy. Domestically, our distribution center is located in Corona, California. At this facility, merchandise is inspected, allocated to stores and distributed to our stores and customers. Each store is typically shipped merchandise five times a week, providing our stores with a steady flow of new merchandise. We utilize a localized fulfillment strategy in which we use our domestic store network to provide fulfillment services for the vast majority of online customer purchases. Internationally, we operate distribution centers located in Delta, Canada, Graz, Austria, and Melbourne, Australia to support our operations in Canada, Europe and Australia, respectively. Each of our international entities are progressing toward full localized fulfillment and are in various states of implementation. Management Information Systems Our management information systems provide integration of store, online, merchandising, distribution, financial and human resources functions. The systems include applications related to point-of-sale, inventory management, supply chain, planning, sourcing, merchandising and financial reporting. We continue to invest in technology to align these systems with our business requirements and to support our continuing growth. Competition The teenage and young adult retail apparel, hardgoods, footwear and accessories industry is highly competitive. We compete with other retailers for vendors, customers, suitable store locations and qualified store associates, management personnel , online marketing content, social media engagement and ecommerce traffic. In the softgoods market, which includes apparel, footwear and accessories, we currently compete with other teenage and young adult focused retailers. In addition, in the softgoods market we compete with independent specialty shops, department stores, vendors that sell their products directly to the retail market, non-mall retailers and ecommerce retailers . In the hardgoods market, which includes skateboards, snowboards, bindings, components and other equipment, we compete directly or indirectly with the following categories of compani other specialty retailers, such as local snowboard and skate shops, large-format sporting goods stores and chains, vendors who sell their products directly to the retail market and ecommerce retailers. Competition in our sector is based on, among other things, merchandise offerings, store location, price, and the ability to identify with the customer. We believe that our ability to compete favorably with our competitors is due to our differentiated merchandising strategy, compelling store environment and deep-rooted culture. Seasonality Historically, our operations have been seasonal, with the largest portion of net sales and net income occurring in the third and fourth fiscal quarters, reflecting increased demand during the back-to-school and winter holiday selling seasons. During fiscal 2021, approximately 54% of our net sales occurred in the third and fourth quarters combined. As a result of this seasonality, any factors negatively affecting us during the last half of the year, including unfavorable economic conditions, adverse weather or our ability to acquire seasonal merchandise inventory, could have a material adverse effect on our financial condition and results of operations for the entire year. Our quarterly results of operations may also fluctuate based upon such factors as the timing of certain holiday seasons, the popularity of seasonal merchandise offered, the timing and amount of markdowns, competitive influences and the number and timing of new store openings, remodels and closings. Trademarks The “Zumiez”, “Blue Tomato” and “Fast Times” trademarks and certain other trademarks, have been registered, or are the subject of pending trademark applications, with the U.S. Patent and Trademark Office and with the registries of certain foreign countries. We regard our trademarks as valuable and intend to maintain such marks and any related registrations and vigorously protect our trademarks. We also own numerous domain names, which have been registered with the Corporation for Assigned Names and Numbers. 9 Employees At January 29, 2022, we employed approximately 2,500 full-time and approximately 7,000 part-time employees globally. However, the number of part-time employees fluctuates depending on our seasonal needs and generally increases during peak selling seasons, particularly the back-to-school and the winter holiday seasons. None of our employees are represented by a labor union and we believe that our relationship with our employees is positive. We believe in delivering quality employment experiences at all levels within the Company. In that regard, every year we create thousands of career opportunities in our stores for individuals who are just beginning their professional careers and who are driven to develop new skills in an environment centered around teaching and learning. Many of these opportunities are provided to our part-time sales associates, who on average are approximately 19 years of age, and are often furthering their career through concurrent education and/or additional employment opportunities. The Zumiez culture is built on a set of shared values that have been in place since the inception of the business. These shared values include empowered managers, teaching and learning, competition, recognition, and fairness and honesty. Our culture strives to integrate quality teaching and learning experiences throughout the organization. We do this through a comprehensive training program, which primarily focuses on sales and customer service training. Our training programs have been developed internally and are almost exclusively taught internally by Zumiez employees to Zumiez employees. The training programs have been developed to empower our managers to make good retail decisions. We believe Zumiez is a place where people have a voice, will be heard, and have bias-free opportunities. Accordingly, our work place is built upon the foundation of equity and inclusion where its people are diverse in their backgrounds, communities, and points of view, yet all share the same core cultural values of working hard, giving back and empowering others. In this regard, the Company aims to be an inclusive reflection of its customers, employees, and business partners. Pay equity, employees being paid equally for equal work, without regard for race or gender, is a base line component of this focus on equity and inclusion. Financial Information about Segments See Note 18, “Segment Reporting,” in the Notes to Consolidated Financial Statements found in Part IV Item 15 of this Form 10-K, for information regarding our segments, product categories and certain geographical information. Available Information Our principal website address is www.zumiez.com. We make available, free of charge, our proxy statement, annual report to shareholders, annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports as soon as reasonably practicable after such material is electronically filed with or furnished to the Securities and Exchange Commission (“SEC”) at http://ir.zumiez.com. Information available on our website is not incorporated by reference in, and is not deemed a part of, this Form 10-K. The SEC maintains a website that contains electronic filings by Zumiez and other issuers at www.sec.gov. In addition, the public may read and copy any materials Zumiez files with the SEC at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, D.C. 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. 10 Item 1A. RISK FACTORS Investing in our securities involves a high degree of risk. The following risk factors, issues and uncertainties should be considered in evaluating our future prospects. In particular, keep these risk factors in mind when you read “forward-looking” statements elsewhere in this report. Forward-looking statements relate to our expectations for future events and time periods. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. Any of the following risks could harm our business, operating results or financial condition and could result in a complete loss of your investment. The novel coronavirus (COVID-19) global pandemic could continue to have a material impact on our business. Since being declared a pandemic by the World Health Organization in March 2020, COVID-19 has negatively impacted global economies, disrupted consumer spending and global supply chains, and created significant volatility and disruption of financial markets. The COVID-19 global pandemic could continue to have a material impact on our business, including our results of operations, financial condition and liquidity. The duration and severity of the COVID-19 pandemic will determine its ongoing impact on our business, including our ability to execute business strategies and initiatives in their expected time frame, the effect on our suppliers and disruptions to the global supply chain, and the ability of our customers to pay for our services and products. A resurgence in the spread of COVID-19, or its variants, could force the closure of our retail stores globally, as we saw in the first quarter of 2020. We could also experience store closures on a regional basis, like we have seen in 2020 and 2021. We may face long term store closure requirements and other operational restrictions with respect to some or all of our physical locations for prolonged periods of time due to, among other factors, evolving and increasingly stringent governmental restrictions, public health directives, quarantine policies, or social distancing measures, resulting in a materially adverse impact to our financial results. With store closures withstanding, consumer fears about becoming ill with the virus may persist, adversely affecting traffic to our stores. Consumer spending may also be negatively impacted by general economic downturn and decreased consumer confidence resulting from the COVID-19 global pandemic. This may negatively impact sales in our stores and our ecommerce channel. The potential reduction in consumer visits to our stores, caused by COVID-19, and any decreased spending at retail stores or online caused by a lack of consumer confidence and spending following the pandemic, could result in a loss of sales and profits. A rise in the spread of COVID-19 also has the potential to significantly impact our supply chain if manufacturers of our products, distribution centers where we manage our inventory, or operations of our logistics and other service providers are disrupted, temporarily closed or experience worker shortages. Due to the seasonality of our business, widespread closures during peak shopping periods could disproportionally impact financial results. The inability to effectively adapt to changes in consumer behavior could result in excess inventory and adversely impact financial results. We may experience adverse effects of prolonged operating restrictions related to in-person marketing and training events. The COVID-19 pandemic’s impact on macroeconomic conditions could alter the functioning of financial and capital markets, foreign currency exchange rates, commodity prices, and interest rates. After the COVID-19 global pandemic has settled, we may continue to experience adverse impacts to our business as a result of any economic recession that has occurred or may occur in the future. The extent of the impact of the COVID-19 global pandemic on our business remains uncertain and difficult to predict, given the innumerable unknowns regarding the duration and severity of the pandemic. 11 Failure to anticipate, identify and respond to changing fashion trends, customer preferences and other fashion-related factors could have a material adverse effect on us. Customer tastes and fashion trends in our market are volatile and tend to change rapidly. Our success depends on our ability to effectively anticipate, identify and respond to changing fashion tastes and consumer preferences, and to translate market trends into appropriate, saleable product offerings in a timely manner. If we are unable to successfully anticipate, identify or respond to changing styles or trends and misjudge the market for our products or any new product lines, including adequately anticipating the correct mix and trends of our private label merchandise, our sales may be lower than predicted and we may be faced with a substantial amount of unsold inventory or missed opportunities. In response to such a situation, we may be forced to rely on markdowns or promotional sales to dispose of excess or slow-moving inventory, which could have a material adverse effect on our results of operations. We may be unable to compete favorably in the highly competitive retail industry, and if we lose customers to our competitors, our sales could decrease. The teenage and young adult retail apparel, footwear, accessories and hardgoods industry is highly competitive. We compete with other retailers for vendors, teenage and young adult customers, suitable store locations, qualified store associates, management personnel, online marketing content, social media engagement and ecommerce traffic. Some of our competitors are larger than we are and have substantially greater financial and marketing resources, including advanced ecommerce market capabilities. Additionally, some of our competitors may offer more options for free and/or expedited shipping for ecommerce sales. Direct competition with these and other retailers may increase significantly in the future, which could require us, among other things, to lower our prices and could result in the loss of our customers. Current and increased competition could have a material adverse effect on our business, results of operations and financial condition. U.S. and global economic and political uncertainty, coupled with cyclical economic trends in retailing, could have a material adverse effect on our results of operations. Our retail market historically has been subject to substantial cyclicality. As the U.S. and global economic and political conditions change, the trends in discretionary consumer spending become unpredictable and discretionary consumer spending could be reduced due to uncertainties about the future. When disposable income decreases or discretionary consumer spending is reduced due to a decline in consumer confidence, purchases of apparel and related products may decline. Uncertainty in the U.S. and global economies and political environment could have a material adverse impact on our results of operations and financial position. In response to a decline in disposable income and consumer confidence, we believe the “value” message has become more important to consumers. As a retailer that sells approximately 87% branded merchandise, this trend may negatively affect our business, as we generally will have to charge more than vertically integrated private label retailers or we may be forced to rely on promotional sales to compete in our market which could have a material adverse effect on our financial position. Most of our merchandise is produced by foreign manufacturers; therefore, the availability, quality and costs of our merchandise may be negatively affected by risks associated with international trade and other international conditions. Most of our merchandise is produced by manufacturers around the world. Some of these facilities are located in regions that may be affected by natural disasters, public health concerns, or emergencies, such as COVID-19 and other communicable diseases or viruses, political instability or other conditions that could cause a disruption in trade. Trade restrictions such as increased tariffs or quotas, or both, could also increase the cost and reduce the supply of merchandise available to us. Any reduction in merchandise available to us or any increase in its cost due to tariffs, quotas or local issues that disrupt trade could have a material adverse effect on our results of operations. This includes costs to comply with regulatory developments regarding the use of “conflict minerals,” certain minerals originating from the Democratic Republic of Congo and adjoining countries, which may affect the sourcing and availability of raw materials used by manufacturers and subject us to increased costs associated with our products, processes or sources of our inputs. Our business could be adversely affected by disruptions in the supply chain, such as strikes, work stoppages, or port closures. 12 A decrease in consumer traffic could cause our sales to be less than expected. We depend heavily on generating customer traffic to our stores and websites. This includes locating many of our stores in prominent locations within successful shopping malls. Sales at these stores are derived, in part, from the volume of traffic in those malls. Our stores benefit from the ability of a mall’s “anchor” tenants, generally large department stores and other area attractions, to generate consumer traffic in the vicinity of our stores and the continuing popularity of malls as shopping destinations. In addition, some malls that were in prominent locations when we opened our stores may cease to be viewed as prominent. If this trend continues or if the popularity of mall shopping continues to decline generally among our customers, our sales may decline, which would impact our results of operations. Additionally, we may experience other risks associated with operating leases, such as lease termination or impairment of operating lease right-of-use assets. These risks may include circumstances that are not within our control, such as changes in fair market rent. Furthermore, we depend on generating increased traffic to our ecommerce business and converting that traffic into sales. This requires us to achieve expected results from our marketing and social media campaigns, accuracy of data analytics, reliability of our website, network, and transaction processing and a high-quality online customer experience. Our sales volume and customer traffic in our stores and on our websites generally could be adversely affected by, among other things, economic downturns, competition from other ecommerce retailers, non-mall retailers and other malls, increases in gasoline prices, fluctuations in exchange rates in border or tourism-oriented locations and the closing or decline in popularity of other stores in the malls in which we are located. Also, geopolitical events, including the threat of terrorism, or widespread health emergencies, such as COVID-19 and other communicable diseases, viruses, or pandemics, could cause people to avoid our stores in shopping malls and alter consumer trends. An uncertain economic outlook or continued bankruptcies of mall-based retailers could curtail new shopping mall development, decrease shopping mall and ecommerce traffic, reduce the number of hours that shopping mall operators keep their shopping malls open or force them to cease operations entirely. A reduction in consumer traffic to our stores or websites could have a material adverse effect on our business, results of operations and financial condition. Our growth strategy depends on our ability to grow customer engagement in our current markets and expand into new markets, which could strain our resources and cause the performance of our existing business to suffer. Our growth largely depends on our ability to optimize our customer engagement in our current trade areas and operate successfully in new geographic markets. However, our ability to open stores in new geographic markets, including international locations, is subject to a variety of risks and uncertainties, and we may be unable to open new stores as planned or have access to desirable lease space, and any failure to successfully open and operate in new markets could have a material adverse effect on our results of operations. We intend to continue to open new stores in future years, while remodeling a portion of our existing store base such that we have the optimum number of stores in any given trade area. The expansion into new markets may present competitive, merchandising, hiring and distribution challenges that are different from those currently encountered in our existing markets. In addition, our proposed expansion will place increased demands on our operational, managerial and administrative resources. These increased demands could cause us to operate our business less effectively, which in turn could cause deterioration in the financial performance of our individual stores and our overall business. In addition, successful execution of our growth strategy may require that we obtain additional financing, and we may not be able to obtain that financing on acceptable terms or at all. Failure to successfully integrate any businesses that we acquire could have an adverse impact on our results of operations and financial performance. We may, from time to time, acquire businesses, such as our acquisition of Blue Tomato and Fast Times. We may experience difficulties in integrating any businesses we may acquire, including their stores, websites, facilities, personnel, financial systems, distribution, operations and general operating procedures, and any such acquisitions may also result in the diversion of our capital and our management’s attention from other business issues and opportunities. If we experience difficulties in integrating acquisitions or if such acquisitions do not provide the benefits that we expect to receive, we could experience increased costs and other operating inefficiencies, which could have an adverse effect on our results of operations and overall financial performance. 13 Our plans for international expansion include risks that could have a negative impact on our results of operations. We plan to continue to open new stores in the Canadian, European and Australian markets. We may continue to expand internationally into other markets, either organically or through additional acquisitions. International markets may have different competitive conditions, consumer tastes and discretionary spending patterns than our existing U.S. market. As a result, operations in international markets may be less successful than our operations in the U.S. Additionally, consumers in international markets may not be familiar with us or the brands we sell, and we may need to build brand awareness in the markets. Furthermore, we have limited experience with the legal and regulatory environments and market practices in new international markets and cannot guarantee that we will be able to penetrate or successfully operate in these new international markets. We also expect to incur additional costs in complying with applicable foreign laws and regulations as they pertain to both our products and our operations. Accordingly, for the reasons noted above, our plans for international expansion include risks that could have a negative impact on our results of operations. Our sales and inventory levels fluctuate on a seasonal basis. Accordingly, our quarterly results of operations are volatile and may fluctuate significantly. Our quarterly results of operations have fluctuated significantly in the past and can be expected to continue to fluctuate significantly in the future. Our sales and profitability are typically disproportionately higher in the third and fourth fiscal quarters of each fiscal year due to increased sales during the back-to-school and winter holiday shopping seasons. Sales during these periods cannot be used as an accurate indicator of annual results. As a result of this seasonality, any factors negatively affecting us during the last half of the year, including unfavorable economic conditions, adverse weather or our ability to acquire seasonal merchandise inventory, could have a material adverse effect on our financial condition and results of operations for the entire year. In addition, in order to prepare for the back-to-school and winter holiday shopping seasons, we must order and keep in stock significantly more merchandise than we carry during other times of the year. Any unanticipated decrease in demand for our products during these peak shopping seasons could require us to sell excess inventory at a substantial markdown, which could have a material adverse effect on our business, results of operations and financial condition. Our quarterly results of operations are affected by a variety of other factors, includin • the timing of new store openings and the relative proportion of our new stores to mature stores; • whether we are able to successfully integrate any new stores that we acquire and the presence of any unanticipated liabilities in connection therewith; • fashion trends and changes in consumer preferences; • calendar shifts of holiday or seasonal periods; • changes in our merchandise mix; • timing of promotional events; • general economic conditions and, in particular, the retail sales environment; • actions by competitors or mall anchor tenants; • weather conditions; • the level of pre-opening expenses associated with our new stores; and • inventory shrinkage beyond our historical average rates. 14 If our information systems fail to function effectively, or do not scale to keep pace with our planned growth, our operations could be disrupted and our financial results could be harmed. If our information systems, including hardware and software, do not work effectively, this could adversely impact the promptness and accuracy of our transaction processing, financial accounting and reporting and our ability to manage our business and properly forecast operating results and cash requirements. Additionally, we rely on third-party service providers for certain information systems functions. If a service provider fails to provide the data quality, communications capacity or services we require, the failure could interrupt our services and could have a material adverse effect on our business, financial condition and results of operations. To manage the anticipated growth of our operations and personnel, we may need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. If we fail to meet the requirements to adequately maintain the privacy and security of personal data and business information, we may be subjected to adverse publicity, litigation and significant expenses. Information systems are susceptible to an increasing threat of continually evolving cybersecurity risks. If we fail to maintain or adequately maintain security systems, devices and activity monitoring to prevent unauthorized access to our network, systems and databases containing confidential, proprietary and personally identifiable information, we may be subject to additional risk of adverse publicity, litigation or significant expense. Nevertheless, if unauthorized parties gain access to our networks, systems or databases, they may be able to steal, publish, delete or modify confidential information. In such circumstances, we could be held liable to our customers or other parties or be subject to regulatory or other actions for breaching privacy rules and we may be exposed to reputation damage and loss of customers’ trust and business. This could result in costly investigations and litigation, civil or criminal penalties and adverse publicity that could adversely affect our financial condition, results of operations and reputation. Actual or anticipated attacks may cause us to incur increasing costs, including costs to deploy additional resources, train employees and engage third-parties. Further, the regulatory environment surrounding information security, cybersecurity and privacy is increasingly demanding. If we are unable to comply with the new and changing security standards, we may be subject to fines, restrictions and financial exposure, which could adversely affect our retail operations. Significant fluctuations and volatility in the cost of raw materials, global labor, shipping and other costs related to the production of our merchandise may have a material adverse effect on our business, results of operations and financial conditions. Increases in the cost of raw materials, global labor costs, freight costs and other shipping costs in the production and transportation of our merchandise can result in higher costs for this merchandise. The costs for these products are affected by weather, consumer demand, government regulation, speculation on the commodities market and other factors that are generally unpredictable and beyond our control. Our gross profit and results of operations could be adversely affected to the extent that the selling prices of our products do not increase proportionately with the increases in the costs of raw materials. Increasing labor costs and oil-related product costs, such as manufacturing and transportation costs, could also adversely impact gross profit. Additionally, significant changes in the relationship between carrier capacity and shipper demand could increase transportation costs, which could also adversely impact gross profit. Fluctuations in foreign currency exchange rates could impact our financial condition and results of operations. We are exposed to foreign currency exchange rate risk with respect to our sales, profits, assets and liabilities denominated in currencies other than the U.S. dollar. As a result, the fluctuation in the value of the U.S. dollar against other currencies could have a material adverse effect on our results of operations, financial condition and cash flows. Upon translation, operating results may differ materially from expectations. As we continue to expand our international operations, our exposure to exchange rate fluctuations will increase. Tourism spending may be affected by changes in currency exchange rates, and as a result, sales at stores with higher tourism traffic may be adversely impacted by fluctuations in currency exchange rates. Further, although the prices charged by vendors for the merchandise we purchase are primarily denominated in U.S. dollars, a decline in the relative value of the U.S. dollar to foreign currencies could lead to increased merchandise costs, which could negatively affect our competitive position and our results of operations. 15 Our business could be adversely affected by increased labor costs, including costs related to an increase in minimum wage and health care. Labor is one of the primary components in the cost of operating our business. Increased labor costs, whether due to competition, unionization, increased minimum wage, state unemployment rates, health care, mandated safety protocols, or other employee benefits costs may adversely impact our operating profit. A considerable amount of our store team members are paid at rates related to the federal or state minimum wage and any changes to the minimum wage rate may increase our operating expenses. Furthermore, inconsistent increases in state and or city minimum wage requirements limit our ability to increase prices across all markets and channels. Additionally, we are self-insured with respect to our health care coverage in the U.S. and do not purchase third party insurance for the health insurance benefits provided to employees with the exception of pre-defined stop loss coverage, which helps limit the cost of large claims. There is no assurance that future health care legislation will not adversely impact our results or operations. Our business could suffer if a manufacturer fails to use acceptable labor and environmental practices. We do not control our vendors or the manufacturers that produce the products we buy from them, nor do we control the labor and environmental practices of our vendors and these manufacturers. The violation of labor, safety, environmental and/or other laws and standards by any of our vendors or these manufacturers, or the divergence of the labor and environmental practices followed by any of our vendors or these manufacturers from those generally accepted as ethical in the U.S., could interrupt, or otherwise disrupt, the shipment of finished products to us or damage our reputation. Any of these, in turn, could have a material adverse effect on our reputation, financial condition and results of operations. In that regard, most of the products we sell are manufactured internationally, primarily in Asia, Mexico and Central America, which may increase the risk that the labor and environmental practices followed by the manufacturers of these products may differ from those considered acceptable in the U.S. Additionally, our products are subject to regulation of and regulatory standards set by various governmental authorities with respect to quality and safety. These regulations and standards may change from time to time. Our inability to comply on a timely basis with regulatory requirements could result in significant fines or penalties, which could adversely affect our reputation and sales. Issues with the quality and safety of merchandise we sell, regardless of our culpability, or customer concerns about such issues, could result in damage to our reputation, lost sales, uninsured product liability claims or losses, merchandise recalls and increased costs. If we fail to develop and maintain good relationships with vendors, or if a vendor is otherwise unable or unwilling to supply us with adequate quantities of their products at acceptable prices, our business and financial performance could suffer. Our business is dependent on developing and maintaining good relationships with a large number of vendors to provide our customers with an extensive selection of current and relevant brands. In addition to maintaining our large number of current vendor relationships, each year we are identifying, attracting and launching new vendors to provide a diverse and unique product assortment. We believe that we generally are able to obtain attractive pricing and terms from vendors because we are perceived as a desirable customer, and deterioration in our relationship with our vendors could have a material adverse effect on our business. However, there can be no assurance that our current vendors or new vendors will provide us with an adequate supply or quality of products or acceptable pricing. Our vendors could discontinue selling to us, raise the prices they charge, sell through direct channels or allow their merchandise to be discounted by other retailers. There can be no assurance that we will be able to acquire desired merchandise in sufficient quantities on terms acceptable to us in the future. In addition, certain vendors sell their products directly to the retail market and therefore compete with us directly and other vendors may decide to do so in the future. There can be no assurance that such vendors will not decide to discontinue supplying their products to us, supply us only less popular or lower quality items, raise the prices they charge us or focus on selling their products directly. 16 In addition, a number of our vendors are smaller, less capitalized companies and are more likely to be impacted by unfavorable general economic and market conditions than larger and better capitalized companies. These smaller vendors may not have sufficient liquidity during economic downturns to properly fund their businesses and their ability to supply their products to us could be negatively impacted. Any inability to acquire suitable merchandise at acceptable prices, or the loss of one or more key vendors, could have a material adverse effect on our business, results of operations and financial condition. Our business is susceptible to weather conditions that are out of our control, including the potential risks of unpredictable weather patterns and any weather patterns associated with naturally occurring global climate change, and the resultant unseasonable weather could have a negative impact on our results of operations. Our business is susceptible to unseasonable weather conditions. For example, extended periods of unseasonably warm temperatures during the winter season or cool weather during the summer season (including any weather patterns associated with global warming and cooling) could render a portion of our inventory incompatible with those unseasonable conditions. These prolonged unseasonable weather conditions could have a material adverse effect on our business and results of operations. Our omni-channel strategy may not have the return we anticipate, which could have an adverse effect on our results of operations. We are executing an omni-channel strategy to enable our customers to shop wherever, whenever and however they choose to engage with us. Our omni-channel strategy may not deliver the results we anticipate or may not adequately anticipate changing consumer trends, preferences and expectations. We will continue to develop additional ways to execute our superior omni-channel experience and interact with our customers, which requires significant investments in IT systems and changes in operational strategy, including localization, online and in-store point of sale systems, order management system, and transportation management system. If we fail to effectively integrate our store and ecommerce shopping experiences, effectively scale our IT structure or we do not realize the return on our investments that we anticipate our operating results could be adversely affected. Our competitors are also investing in omni-channel initiatives. If our competitors are able to be more effective in their strategy, it could have an adverse effect on our results of operations. If we our omni-channel strategy fails to meet customer expectations related to functionality, timely delivery, or customer experience, our business and results of operations may be adversely affected. Additionally, to manage the anticipated growth of our operations and personnel, we will need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. If we lose key executives or are unable to attract and retain the talent required for our business, our financial performance could suffer. Our performance depends largely on the efforts and abilities of our key executives. If we lose the services of one or more of our key executives, we may not be able to successfully manage our business or achieve our growth objectives. Furthermore, as our business grows, we will need to attract and retain additional qualified personnel in a timely manner and we may not be able to do so. Failure to meet our staffing needs could adversely affect our ability to implement our growth strategy and could have a material impact on our results of operations. Our success depends in part upon our ability to attract, motivate and retain a sufficient number of qualified employees who understand and appreciate our culture and brand and are able to adequately represent this culture. Qualified individuals of the requisite caliber, skills and number needed to fill these positions may be in short supply in some areas and the employee turnover rate in the retail industry is high. Our business depends on the ability to hire and retain qualified technical and support roles for procurement, distribution, ecommerce and back office functions. Competition for qualified employees in these areas could require us to pay higher wages to attract a sufficient number of suitable employees. 17 If we are unable to hire and retain store managers and store associates capable of consistently providing a high level of customer service, as demonstrated by their enthusiasm for our culture and knowledge of our merchandise, our ability to open new stores may be impaired and the performance of our existing and new stores could be materially adversely affected. We are also dependent upon temporary personnel to adequately staff our operations particularly during busy periods such as the back-to-school and winter holiday seasons. There can be no assurance that we will receive adequate assistance from our temporary personnel, or that there will be sufficient sources of temporary personnel. If we are unable to hire qualified temporary personnel, our results of operations could be adversely impacted. Although none of our employees are currently covered by collective bargaining agreements, we cannot guarantee that our employees will not elect to be represented by labor unions in the future, which could increase our labor costs and could subject us to the risk of work stoppages and strikes. Any such failure to meet our staffing needs, any material increases in employee turnover rates, any increases in labor costs or any work stoppages, interruptions or strikes could have a material adverse effect on our business or results of operations. A decline in cash flows from operations could have a material adverse effect on our business and growth plans. We depend on cash flow from operations to fund our current operations and our growth strategy, including the payment of our operating leases, wages, store operation costs and other cash needs. If our business does not generate sufficient cash flow from operating activities, and sufficient funds are not otherwise available to us from borrowings under our credit facility or from other sources, we may not be able to pay our operating lease expenses, grow our business, respond to competitive challenges or fund our other liquidity and capital needs, which could have a material adverse effect on our business. The terms of our secured credit agreement impose certain restrictions on us that may impair our ability to respond to changing business and economic conditions, which could have a significant adverse impact on our business. Additionally, our business could suffer if our ability to acquire financing is reduced or eliminated. We maintain a secured credit agreement with Wells Fargo Bank, N.A., which provided us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024. The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. The credit facility contains certain financial maintenance covenants that generally require us to have net income after taxes of at least $5.0 million on a trailing four-quarter basis and a quick ratio of 1.25:1.0 at the end of each fiscal quarter. These restrictions could (1) limit our ability to plan for or react to market conditions or meet capital needs or otherwise restrict our activities or business plans; and (2) adversely affect our ability to finance our operations, strategic acquisitions, investments or other capital needs or to engage in other business activities that would be in our interest. The credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. Additionally, we cannot be assured that our borrowing relationship with our lenders will continue or that our lenders will remain able to support their commitments to us in the future. If our lenders fail to do so, then we may not be able to secure alternative financing on commercially reasonable terms, or at all. 18 Our business could suffer with the closure or disruption of our home office or our distribution centers. In the U.S., we rely on a single distribution center located in Corona, California to receive, store and distribute the vast majority of our merchandise to our domestic stores. Internationally, we operate a combined distribution and ecommerce fulfillment center located in Graz, Austria that supports our Blue Tomato ecommerce and store operations in Europe. We operate a distribution center located in Delta, British Columbia, Canada to distribute our merchandise to our Canadian stores. We operate a distribution and ecommerce fulfillment center located in Melbourne, Australia to distribute our merchandise to our Australian stores. Additionally, we are headquartered in Lynnwood, Washington. As a result, unforeseen events, including war, terrorism, other political instability or conflicts, riots, public health issues (including widespread/pandemic illnesses such as coronavirus and other communicable diseases or viruses), a natural disaster or other catastrophic event that affects one of the regions where we operate these centers or our home office could significantly disrupt our operations and have a material adverse effect on our business, results of operations and financial condition. The effects of war, acts of terrorism, threat of terrorism, or other types of mall violence, could adversely affect our business. Most of our stores are located in shopping malls. Any threat of terrorist attacks or actual terrorist events, or other types of mall violence, such as shootings or riots, could lead to lower consumer traffic in shopping malls. In addition, local authorities or mall management could close shopping malls in response to security concerns. Mall closures, as well as lower consumer traffic due to security concerns, could result in decreased sales. Additionally, the threat, escalation or commencement of war or other armed conflict elsewhere, could significantly diminish consumer spending, and result in decreased sales. Decreased sales could have a material adverse effect on our business, financial condition and results of operations. Our inability or failure to protect our intellectual property or our infringement of other’s intellectual property could have a negative impact on our operating results. We believe that our trademarks and domain names are valuable assets that are critical to our success. The unauthorized use or other misappropriation of our trademarks or domain names could diminish the value of the Zumiez, Blue Tomato, or Fast Times brands, our store concepts, our private label brands or our goodwill and cause a decline in our net sales. Although we have secured or are in the process of securing protection for our trademarks and domain names in a number of countries outside of the U.S., there are certain countries where we do not currently have or where we do not currently intend to apply for protection for certain trademarks. Also, the efforts we have taken to protect our trademarks may not be sufficient or effective. Therefore, we may not be able to prevent other persons from using our trademarks or domain names outside of the U.S., which also could adversely affect our business. We are also subject to the risk that we may infringe on the intellectual property rights of third parties. Any infringement or other intellectual property claim made against us, whether or not it has merit, could be time-consuming, result in costly litigation, cause product delays or require us to pay royalties or license fees. As a result, any such claim could have a material adverse effect on our operating results. Our operations expose us to the risk of litigation, which could lead to significant potential liability and costs that could harm our business, financial condition or results of operations. We employ a substantial number of full-time and part-time employees, a majority of whom are employed at our store locations. As a result, we are subject to a large number of federal, state and foreign laws and regulations relating to employment. This creates a risk of potential claims that we have violated laws related to discrimination and harassment, health and safety, wage and hour laws, criminal activity, personal injury and other claims. We are also subject to other types of claims in the ordinary course of our business. Some or all of these claims may give rise to litigation, which could be time-consuming for our management team, costly and harmful to our business. In addition, we are exposed to the risk of class action litigation. The costs of defense and the risk of loss in connection with class action suits are greater than in single-party litigation claims. Due to the costs of defending against such litigation, the size of judgments that may be awarded against us, and the loss of significant management time devoted to such litigation, we cannot provide assurance that such litigation will not disrupt our business or impact our financial results. 19 We are involved, from time to time, in litigation incidental to our business including complaints filed by investors. This litigation could result in substantial costs, and could divert management's attention and resources, which could harm our business. Risks associated with legal liability are often difficult to assess or quantify, and their existence and magnitude can remain unknown for significant periods of time. Failure to comply with federal, state, local or foreign laws and regulations, or changes in these laws and regulations, could have an adverse impact on our results of operations and financial performance. Our business is subject to a wide array of laws and regulations including those related to employment, trade, consumer protection, transportation, occupancy laws, health care, wage laws, employee health and safety, taxes, privacy, health information privacy, identify theft, customs, truth-in-advertising, securities laws, unsolicited commercial communication and environmental issues. Our policies, procedures and internal controls are designed to comply with foreign and domestic laws and regulations, such as those required by the Sarbanes-Oxley Act of 2002 and the U.S. Foreign Corrupt Practices Act. Although we have policies and procedures aimed at ensuring legal and regulatory compliance, our employees or vendors could take actions that violate these laws and regulations. Any violations of such laws or regulations could have an adverse effect on our reputation, results of operations, financial condition and cash flows. Furthermore, changes in the regulations, the imposition of additional regulations, or the enactment of any new legislation, particularly in the U.S. and Europe, could adversely affect our results of operations or financial condition. Fluctuations in our tax obligations and effective tax rate may result in volatility in our operating results. We are subject to income taxes in many domestic and foreign jurisdictions. In addition, our products are subject to import and excise duties and/or sales, consumption or value-added taxes in many jurisdictions. We record tax expense based on our estimates of future payments, which include reserves for estimates of probable settlements of domestic and foreign tax audits. At any one time, many tax years are subject to audit by various taxing jurisdictions. There can be no assurance as to the outcome of these audits which may have an adverse effect to our business. In addition, our effective tax rate may be materially impacted by changes in tax rates and duties, the mix and level of earnings or losses by taxing jurisdictions, or by changes to existing accounting rules or regulations. Changes to foreign or domestic tax laws could have a material impact on our financial condition, results of operations or cash flows. We may fail to meet analyst expectations, which could cause the price of our stock to decline. Our common stock is traded publicly and various securities analysts follow our financial results and issue reports on us. These reports include information about our historical financial results as well as the analysts' estimates of our future performance. The analysts' estimates are based upon their own independent opinions and can be different from our estimates or expectations. If our operating results are below the estimates or expectations of public market analysts and investors, our stock price could decline. The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A share repurchase program may be conducted from time to time under authorization made by our Board of Directors. We do not have a controlling shareholder, nor are we aware of any shareholders that have formed a “group” (defined as when two or more persons agree to act together for the purposes of acquiring, holding, voting or otherwise disposing of the equity securities of an issuer). The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A controlling shareholder would have significant influence over, and may have the ability to control, matters requiring approval by our shareholders, including the election of directors and approval of mergers, consolidations, sales of assets, recapitalizations and amendments to our articles of incorporation. Furthermore, a controlling shareholder may take actions with which other shareholders do not agree, including actions that delay, defer or prevent a change of control of the company and that could cause the price that investors are willing to pay for the company’s stock to decline. 20 Item 1B. UNRESOLV ED STAFF COMMENTS None. Item 2. PROPERTIES All of our stores are occupied under operating leases and encompassed approximately 2.2 million total square feet at January 29, 2022. We own approximately 356,000 square feet of land in Lynnwood, Washington on which we own a 63,071 square foot home office. Additionally, we lease 14,208 square feet of office space in Schladming, Austria for our European home office. We own a 168,450 square foot building in Corona, California that serves as our domestic warehouse and distribution center. We lease 17,168 square feet of a distribution facility in Delta, British Columbia, Canada that supports our store operations in Canada. We lease a 112,112 square feet distribution and ecommerce fulfillment center in Graz, Austria that supports our Blue Tomato ecommerce and store operations in Europe. We lease a 10,010 square feet distribution and ecommerce fulfillment center in Melbourne, Australia that supports our Fast Times ecommerce and store operations in Australia. Item 3. LEGAL PROCEEDINGS We are involved from time to time in litigation incidental to our business. We believe that the outcome of current litigation is not expected to have a material adverse effect on our results of operations or financial condition. See Note 11, “Commitments and Contingencies,” in the Notes to Consolidated Financial Statements found in Part IV Item 15 of this Form 10-K, for additional information related to legal proceedings. Item 4. MINE SAFETY DISCLOSURES Not applicable. 21 PART II Item 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES Market Information Our common stock is traded on the Nasdaq Global Select Market under the symbol “ZUMZ.” At January 29, 2022, there were 21,215,359 shares of common stock outstanding. Performance Measurement Comparison The following graph shows a comparison for total cumulative returns for Zumiez, the Nasdaq Composite Index and the Nasdaq Retail Trade Index during the period commencing on January 28, 2017 and ending on January 29, 2022. The comparison assumes $100 was invested on January 28, 2017 in each of Zumiez, the Nasdaq Composite Index and the Nasdaq Retail Trade Index, and assumes the reinvestment of all dividends, if any. The comparison in the following graph and table is required by the SEC and is not intended to be a forecast or to be indicative of future Company common stock performance. 1/28/17 2/3/18 2/2/19 2/1/20 1/30/21 1/29/22 Zumiez 100.00 109.02 133.37 165.36 228.54 229.44 NASDAQ Composite 100.00 133.43 132.52 168.35 242.57 265.98 NASDAQ Retail Trade 100.00 152.24 161.79 187.53 298.48 281.88 22 Holders of the Company’s Capital Stock We had approximately 11 shareholders of record as of March 7, 2022. The number of shareholders of record is based upon the actual number of shareholders registered at such date and does not include holders of shares in “street names” or persons, partnerships, associates, corporations or other entities identified in security position listings maintained by depositories. Dividends No cash dividends have been declared on our common stock to date nor have any decisions been made to pay a dividend in the foreseeable future. Payment of dividends is evaluated on a periodic basis. Recent Sales of Unregistered Securities None Issuer Purchases of Equity Securities The following table presents information of our common stock made during the thirteen weeks ended January 29, 2022 (in thousands, except average price paid per share): Period Total Number of Shares Purchased Average Price Paid per Share Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (1) Dollar Value of Shares that May Yet be Repurchased Under the Plans or Programs (1) October 31, 2021—November 27, 2021 315 $ 48.08 315 $ 71,176 November 28, 2021—January 1, 2022 (2) 882 46.28 881 123,200 January 2, 2022—January 29, 2022 903 44.20 903 83,288 Total 2,100 2,099 (1) The share repurchase program is conducted under authorizations made from time to time by our Board of Directors. In December 2021, our Board of Directors authorized us to repurchase up to $150 million of our common stock. The repurchase program is expected to continue through the fiscal year 2022 that will end on January 28, 2023, unless the time period is extended or shortened by the Board of Directors. The repurchase program supersedes all previously approved and authorized stock repurchase programs, including the repurchase programs previously approved by the Board of Directors on September 16, 2021 and December 2, 2020. At January 29, 2022, there remains $83.3 million available for share repurchase under the current share repurchase program. (2) During the thirteen weeks ended January 29, 2022, 1,277 shares were purchased by us in order to satisfy employee tax withholding obligations upon the vesting of restricted stock. These shares were not acquired pursuant to any publicly announced purchase plan or program. Item 6. [Reserved] 23 Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS MD&A is provided as a supplement to, and should be read in conjunction with, our consolidated financial statements and related notes included elsewhere in this document. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those discussed in “Item 1A Risk Factors.” See the cautionary note regarding forward-looking statements set forth at the beginning of Part I of the Annual Report on Form 10-K. The following Management’s Discussion and Analysis of Financial Condition and Result of Operations (“MD&A”) is intended to help the reader understand the financial condition, results of operations, and the certainty of cash flows of Zumiez Inc. and its wholly-owned subsidiaries. This discussion focuses on known material events and uncertainties that are reasonably likely to cause reported financial information not to be necessarily indicative of future operating results or of future financial condition. This includes descriptions and amounts of matters that have had a material impact on reported operations, as well as matters that are reasonably likely, based on our assessment, to have a material impact on future operations. Fiscal 2021—A Review of This Past Year Fiscal 2021 was marked by record sales and earnings for the Company including net sales growth of 19.5% and growth in diluted earnings per share of 61.7% to $4.85. This was up from our previous diluted earnings per share record in the prior year of $3.00. Our stores were open for approximately 97.0% of the possible operating days in fiscal 2021, while due to COVID-19 related store closures in fiscal 2020, our stores were open for approximately 78.4% of the possible operating days in the prior year. The majority of the improvement in open store days was related to the United States, while we experienced continued impacts of store closures in Europe, Canada and Australia. We also benefitted from domestic government stimulus early in fiscal 2021 resulting in sales growth of 102.6% for first quarter of fiscal 2021 compared with the prior year. Throughout the remainder of the year we drove quarterly year-over-year sales growth in the mid to high single digits resulting in the highest sales in Company history and growth of 14.5% over pre-pandemic fiscal 2019 sales. Fiscal 2021 represented our sixth straight year of product margin gains. Product margins grew by 110 basis points in 2021 as our teams remained focused on providing our customers with a diverse product offering and continued newness. While the year was full of challenges associated with labor shortages, closures, inflation and supply chain, we were able to manage through the issues growing sales and product margin in each quarter of the year. Overall gross margin was also positively impacted by 140 basis points of leverage in our occupancy costs with significant sales growth, as well as a reduction in web fulfillment and web shipping to customers of 100 basis points as sales shifted back to physical stores with fewer closures overall during the year and a resurgence of our customers coming back to malls represented by a store penetration level that was closer to 2019 than 2020. Total gross margin improved 330 basis points from the prior year to 38.6% of sales. In fiscal 2021 we began to see expenses that were eliminated or reduced due to the pandemic in 2020 reintroduced into the business. The most significant of these was store payroll as we had a higher percentage of open stores and many of our stores started shifting back to normal operating hours. Though not fully back to pre-pandemic levels, we also began to reintroduce expenses such as training, travel and other discretionary expenses. These increases combined with a year-over-year reduction in COVD-19 related government subsidies and an increase in incentive compensation due to performance, led to growth in selling, general and administrative expenses of 18.1% from the prior year. With annual sales growth of 19.5%, we did leverage selling general and administrative expenses by 20 basis points from the prior year. Our earnings per diluted share for fiscal 2021 of $4.85 was an all-time high for the Company and grew 61.7% from our previous record high earnings per share of $3.00 in 2020. With our significant cash position entering the year and cash flow generated during 2021, we were able to buy back 4.6 million shares during the year at a total cost of $198.4 million ultimately reducing annual diluted shares outstanding by 3.2% from the prior year and total shares outstanding by 4.4 million when compared to the beginning of the year. This will have a larger impact on 2022 weighted average diluted share counts as most of these shares were repurchased in the back half of the year. We added 7 new stores in North America in fiscal 2021, 12 new Blue Tomato stores in Europe and 4 new Fast Times store in Australia. We believe that we still have meaningful expansion opportunities internationally. 24 As a leading global lifestyle retailer, we continue to differentiate ourselves through our distinctive brand offering and diverse product selection, as well as the unique customer experience across all of our platforms. We remain committed to serving the customer launching over 10 0 new brands in 2021. We have made investments over several years to integrate the digital and physical channels creating a seamless shopping experience for our customer and one channel expense structure. We believe this has been a critical asset during the pandemic in 2020 and recovery in 2021 marked by significant shifts in demand between physical and digital channels. We are continuing to deliver almost all of our online orders in North America from our stores, which has provided substantial improvements in the speed of delivery to our customers and eliminated the need to manage two pools of inventory separately for digital and physical demand. Internationally we continue to see deeper penetration of localized fulfillment and are in various stages of roll-out in different countries. In-store fulfillment is a key part of strategy that we believe will drive long term market share by leveraging the strengths of our store sales team, providing better and faster service to customers, improving product margins, maximizing the productivity of inventory, providing additional selling opportunities, and utilizing one cost structure to serve the customer. The following table shows net sales, operating profit, operating margin and diluted earnings per share for fiscal 2021 compared to fiscal 2020: Fiscal 2021 Fiscal 2020 % Change Net sales (in thousands) (1) $ 1,183,867 $ 990,652 19.5 % Operating profit (in thousands) $ 157,810 $ 96,938 62.8 % Operating margin 13.3 % 9.8 % Diluted earnings per share $ 4.85 $ 3.00 61.7 % (1) The increase in net sales was driven by fewer COVID-19 related store closures, government stimulus benefits in the United States during the first quarter of 2021, and the net addition of 18 stores (23 new stores offset by 5 store closures) in fiscal 2021. The increase in net sales was driven by an increase in transactions and an increase in dollars per transaction. The increase in dollars per transaction was driven by an increase in average unit retail, partially offset by a decrease in units per transaction. Fiscal 2022—A Look At the Upcoming Year In fiscal 2022, our focus remains on serving the customer with strategic investments largely focused on enhancing the customer experience while increasing market share and creating operational efficiencies to drive long-term operating margin expansion. We are planning accelerated store growth in 2022 anticipating 34 new stores compared with 23 new stores opened in 2021. We expect to open 15 new stores in North America, 14 in Europe and 5 in Australia as we continue to extend our reach in both existing and new markets. Coming off of a record year in sales and earnings in 2021, we are entering fiscal 2022 anticipating some fluctuation in quarterly results. The first and second quarters of 2022 in particular are likely to be challenging as we annualize the substantial benefits from domestic stimulus that positively impacted the first quarter and beginning of the second quarter of fiscal 2021. The first and second quarters of 2022 are likely to be down year-over-year in sales with the second quarter more modestly impacted. As we move to the back half of the year we anticipate sales growth in the third and fourth quarters against more normalized results in 2021. Throughout the year we anticipate we will see stronger results across our international entities in Canada, Europe and Australia as we anniversary store closures and continue to benefit from a growing store base. Overall, we anticipate sales will be roughly flat to fiscal 2021. Fiscal 2022 operating expenses are expected to grow at a greater rate than sales. Several factors are expected to contribute to this including wage and other expense inflation, a more normalized operating environment driving longer store hours and higher variable operating costs, additional training, travel and other discretionary expenses foregone in 2021 as a result of COVID-19 restrictions that will return to the business. We are currently expecting operating profit to decrease in fiscal 2022 compared to fiscal 2021. Given our strong cash position, we have the security to manage through potential difficulties while also investing strategically in important long-term initiatives and returning value to our shareholders. At the end of fiscal 2021, we had $83.3 million remaining on our currently active stock repurchase authorization. Given the share repurchases we have completed from 2021 and the current program that we have been executing in fiscal 2021 and early fiscal 2022, we expect that the reduction in shares outstanding will drive a double digit increase in diluted earnings per share in fiscal 2022 compared with fiscal 2021. 25 General Net sales constitute gross sales, net of actual and estimated returns and deductions for promotions, and shipping revenue. Net sales include our store sales and our ecommerce sales. We record the sale of gift cards as a current liability and recognize revenue when a customer redeems a gift card. Additionally, the portion of gift cards that will not be redeemed (“gift card breakage”) is recognized based on our historical redemption rate in proportion to the pattern of rights exercised by the customer. We report “comparable sales” based on net sales beginning on the first anniversary of the first day of operation of a new store or ecommerce business. We operate a sales strategy that integrates our stores with our ecommerce platform. There is significant interaction between our store sales and our ecommerce sales channels and we believe that they are utilized in tandem to serve our customers. Therefore, our comparable sales also include our ecommerce sales. Changes in our comparable sales between two periods are based on net sales of store or ecommerce business which were in operation during both of the two periods being compared and, if a store or ecommerce business is included in the calculation of comparable sales for only a portion of one of the two periods being compared, then that store or ecommerce business is included in the calculation for only the comparable portion of the other period. Any increase or decrease less than 25% in square footage of an existing comparable store, including remodels and relocations within the same mall, or temporary closures less than seven days does not eliminate that store from inclusion in the calculation of comparable sales. Any store or ecommerce business that we acquire will be included in the calculation of comparable sales after the first anniversary of the acquisition date. Current year foreign exchange rates are applied to both current year and prior year comparable sales to achieve a consistent basis for comparison. Stores closed due the impacts of COVID-19 are excluded from our comparable sales calculation if they were closed for longer than seven days. Our ecommerce business has remained open during the COVID-19 pandemic and therefore remains reported in our comparable sales calculation. There may be variations in the way in which some of our competitors and other apparel retailers calculate comparable sales. As a result, data herein regarding our comparable sales may not be comparable to similar data made available by our competitors or other retailers. Cost of goods sold consists of branded merchandise costs and our private label merchandise costs including design, sourcing, importing and inbound freight costs. Our cost of goods sold also includes shrinkage, buying, occupancy, ecommerce fulfillment, distribution and warehousing costs (including associated depreciation) and freight costs for store merchandise transfers. This may not be comparable to the way in which our competitors or other retailers compute their cost of goods sold. Cash consideration received from vendors is reported as a reduction of cost of goods sold if the inventory has sold, a reduction of the carrying value of the inventory if the inventory is still on hand, or a reduction of selling, general and administrative expense if the amounts are reimbursements of specific, incremental and identifiable costs of selling the vendors’ products. With respect to the freight component of our ecommerce sales, amounts billed to our customers are included in net sales and the related freight cost is charged to cost of goods sold. Selling, general and administrative expenses consist primarily of store personnel wages and benefits, administrative staff and infrastructure expenses, freight costs for merchandise shipments from the distribution centers to the stores, store supplies, depreciation on fixed assets at our home office and stores, facility expenses, training expenses and advertising and marketing costs. Credit card fees, insurance, public company expenses, legal expenses, amortization of intangibles, and other miscellaneous operating costs are also included in selling, general and administrative expenses. This may not be comparable to the way in which our competitors or other retailers compute their selling, general and administrative expenses. Key Performance Indicators Our management evaluates the following items, which we consider key performance indicators, in assessing our performan Net sales. Net sales constitute gross sales, net of sales returns and deductions for promotions, and shipping revenue. Net sales includes comparable sales and new store sales for all our store and ecommerce businesses. We consider net sales to be an important indicator of our current performance. Net sales results are important to achieve 26 leveraging of our costs, including store payroll and store occupancy. Net sales also have a direct impact on our operating profit, cash and working capital. Gross profit. Gross profit measures whether we are optimizing the price and inventory levels of our merchandise. Gross profit is the difference between net sales and cost of goods sold. Any inability to obtain acceptable levels of initial markups or any significant increase in our use of markdowns could have an adverse effect on our gross profit and results of operations. Operating profit. We view operating profit as a key indicator of our success. Operating profit is the difference between gross profit and selling, general and administrative expenses. The key drivers of operating profit are net sales, gross profit, our ability to control selling, general and administrative expenses and our level of capital expenditures affecting depreciation expense. Diluted earnings per share. Diluted earnings per share is based on the weighted average number of common shares and common share equivalents outstanding during the period. We view diluted earnings per share as a key indicator of our success in increasing shareholder value. Trends and Uncertainties Affecting Our Results and Comparability We have been, and we expect to continue to be affected by a number of factors that may cause actual results to differ from our historical results or current expectations. These factors include the impact of the COVID-19 pandemic on our operations and financial results; foreign currency rates; changes in laws, including U.S. tax law changes; fluctuations in variable costs, and changes in general economic conditions in the markets in which we operate. Additionally, while there was not a significant impact from inflation on our operations during the past three fiscal years, we experienced increased costs during 2021 that are expected to continue into 2022. Our ability to raise our selling prices depends on market conditions and there may be periods during which we are unable to fully recover increases in our costs. These and other factors can affect our operations and net earnings for any period and may cause such results not to be comparable to the same period in previous years and the results presented in this report are not necessarily indicative of future operating results. Results of Operations In December 2019, a novel strain of coronavirus (COVID-19) was first identified, and in March 2020, the World Health Organization categorized COVID-19 as a pandemic. In the best interest of our customers and employees and in line with governmental regulations, all stores were closed by March 19, 2020. We began gradually re-opening physical stores at the end of the first fiscal quarter and into the second fiscal quarter, with the majority of our stores open through the third and fourth quarter. In certain regions, COVID-19 related short-term closures have continued into fiscal 2021, primarily in Europe, Canada, and Australia. Our stores were open, on an aggregate basis, approximatel y 97.0% of the possible days during fiscal 2021 compared to 78.4% of the possible days during fiscal 2020. The following table presents selected items on the consolidated statements of income as a percent of net sal Fiscal 2021 Fiscal 2020 Fiscal 2019 Net sales 100.0 % 100.0 % 100.0 % Cost of goods sold 61.4 % 64.7 % 64.6 % Gross profit 38.6 % 35.3 % 35.4 % Selling, general and administrative expenses 25.3 % 25.5 % 27.1 % Operating profit 13.3 % 9.8 % 8.3 % Interest and other income (expense), net 0.3 % 0.5 % 0.5 % Earnings before income taxes 13.6 % 10.3 % 8.8 % Provision for income taxes 3.5 % 2.6 % 2.3 % Net income 10.1 % 7.7 % 6.5 % 27 Fiscal 2021 Results Compared With Fiscal 2020 Net Sales Net sales were $1,183.9 million for fiscal 2021 compared to $990.7 million for fiscal 2020, an increase of $193.2 million or 19.5%. The increase in sales was primarily driven by the re-opening of stores compared to the wide spread short-term store closures related to the COVID-19 pandemic in the prior year, our ability to capitalize on current trends and the impact of domestic economic stimulus on the business during the year. For the year, our stores were open approximately 97.0% of the possible days compared to 78.4% of the possible days during fiscal 2020. The increase in net sales was driven by an increase in transactions and an increase in dollars per transaction. Dollars per transaction increased due to an increase in average unit retail partially offset by a decrease in units per transaction. For the year, the men’s category was our largest growth category followed by accessories, footwear, and women’s. Our only negative category for the year was hardgoods. By region, North America sales increased $165.1 million or 19.1% and other international sales increased $28.1 million or 22.5% during fiscal 2021 compared to fiscal 2020. Net sales for the year ended January 29, 2022 included a $4.2 million increase due to the change in foreign exchange rates, which consisted of $3.0 million in Canada, $1.0 million in Australia, and $0.3 million in Europe. Excluding the impact of changes in foreign exchange rates, North America sales increased $162.2 million or 18.7% and other international sales increased $26.8 million or 21.4% during fiscal 2021 compared to fiscal 2020. Gross Profit Gross profit was $456.7 million for fiscal 2021 compared to $350.0 million for fiscal 2020, an increase of $106.7 million, or 30.5%. As a percentage of net sales, gross profit increased 330 basis points in fiscal 2021 to 38.6%, as we leverage meaningfully across the fixed cost structures compared to the period of COVID-19 related closures in the prior year. The increase was primarily driven by a 140 basis point leverage in our store occupancy costs when compared to the prior year, which included the continuation of rent charges without associated sales during COVID-19 related closures in fiscal 2020. In addition, there was a 110 basis point increase in product margin and a 100 basis point decrease in web fulfillment and web shipping costs due to leverage of distribution fixed costs and decreased total web sales activity compared to the prior year which increased as a result of COVID-19 related short-term closures. Selling, General and Administrative Expenses Selling, general and administrative (“SG&A”) expenses were $298.9 million for fiscal 2021 compared to $253.1 million for fiscal 2020, an increase of $45.8 million, or 18.1%. SG&A expenses as a percent of net sales decreased 20 basis points in fiscal 2021 to 25.3% as we leveraged meaningfully across our fixed costs compared to the period of COVID-19 related closures in the prior year. The decrease was primarily driven by 90 basis points of leverage in non-wage store operating costs partially offset by a 50 basis point unfavorable impact related to fewer government subsidies received in fiscal 2021. Net Income Net income for fiscal 2021 was $119.3 million, or $4.85 per diluted share, compared with net income of $76.2 million, or $3.00 per diluted share, for fiscal 2020. Our effective income tax rate for fiscal 2021 was 25.7% compared to 25.6% for fiscal 2020. 28 Fiscal 20 20 Results Compared With Fiscal 201 9 Net Sales Net sales were $990.7 million for fiscal 2020 compared to $1,034.1 million for fiscal 2019, a decrease of $43.4 million or 4.2%. The decrease in sales was primarily driven by the closure of our physical retail globally due to the impact of COVID-19. For the year, our stores were open approximately 78.4% of the possible days. This decrease was partially offset by a 13.6% increase in comparable sales driven by the increase in ecommerce sales as well as the strong performance of our physical stores upon re-opening. The 13.6% increase in comparable sales was primarily driven by an increase in comparable transactions and an increase in dollars per transaction. Dollars per transaction increased due to an increase in average unit retail and units per transaction. Comparable sales were primarily driven by an increase in hardgoods followed by men’s clothing, accessories, and women’s clothing partially offset by a decrease in footwear. For information as to how we define comparable sales, see “General” above. By region, North America sales decreased $48.7 million or 5.3% and other international sales increased $5.3 million or 4.4% during fiscal 2020 compared to fiscal 2019. Net sales for the year ended January 30, 2021 included a $4.6 million increase due to the change in foreign exchange rates, which consisted of $4.3 million in Europe, $0.5 million in Australia offset by a $0.2 million decrease in Canada. Excluding the impact of changes in foreign exchange rates, North America sales decreased $48.5 million or 5.3% and other international sales increased $0.5 million or 0.3% during fiscal 2020 compared to fiscal 2019. Gross Profit Gross profit was $350.0 million for fiscal 2020 compared to $366.6 million for fiscal 2019, a decrease of $16.6 million, or 4.5%. As a percentage of net sales, gross profit decreased 10 basis points in fiscal 2020 to 35.3%. The decrease was primarily driven by a 120 basis point increase in web fulfillment and shipping costs due to increased web activity as a result of COVID-19, however leveraged to the prior year when compared to total shipped sales and a 30 basis point increase due to the impairment of operating lease right-of-use assets. This was partially offset by an 80 basis point decrease in inventory shrinkage and a 70 basis point increase in product margin. Selling, General and Administrative Expenses Selling, general and administrative (“SG&A”) expenses were $253.1 million for fiscal 2020 compared to $280.8 million for fiscal 2019, a decrease of $27.7 million, or 9.9%. SG&A expenses as a percent of net sales decreased 160 basis points in fiscal 2020 to 25.5%. The decrease was primarily driven by a 70 basis point decrease due to governmental credits, a 60 basis point decrease in store wages, a 30 basis point decrease in national training and recognition events and a 20 basis point decrease in corporate costs. Net Income Net income for fiscal 2020 was $76.2 million, or $3.00 per diluted share, compared with net income of $66.9 million, or $2.62 per diluted share, for fiscal 2019. Our effective income tax rate for fiscal 2020 was 25.6% compared to 26.5% for fiscal 2019. The decrease in the effective tax rate for fiscal 2020 compared to fiscal 2019 was primarily related to a reduction in net losses in certain jurisdictions where there is uncertainty as to the realization of deferred tax assets and the proportion of earnings or loss before income taxes across jurisdictions. Liquidity and Capital Resources Our cash requirements are subject to change as business conditions warrant and opportunities arise. Our primary uses of cash are for operational expenditures, inventory purchases, common stock repurchases and capital investments, including new stores, store remodels, store relocations, store fixtures and ongoing infrastructure improvements. Historically, our main source of liquidity has been cash flows from operations. 29 The significant components of our working capital are inventories and liquid assets such as cash, cash equivalents, current marketable securities and receivables, reduced by accounts payable and accrued expenses. Our working capital position benefits from the fact that we generally collect cash from sales to customers the same day or within several days of the related sale, while we typically have longer payment terms with our vendors. At January 29, 2022 and January 30, 2021, cash, cash equivalents and current marketable securities were $294.5 million and $375.5 million. Working capital, the excess of current assets over current liabilities, was $263.2 million at the end of fiscal 2021, a decrease of 22.5% from $339.8 million at the end of fiscal 2020. The decrease in cash, cash equivalents and current marketable securities in fiscal 2021 was due repurchases of common stock of $193.8 million and $15.7 million of capital expenditures primarily related to the opening of 23 new stores and 3 remodels and relocations, partially offset by $135.0 million of cash provided by operating activities. The following table summarizes our cash flows from operating, investing and financing activities (in thousands): Fiscal 2021 Fiscal 2020 Fiscal 2019 Total cash provided by (used in) Operating activities $ 134,950 $ 138,412 $ 106,070 Investing activities 101,643 (110,541 ) (102,931 ) Financing activities (191,409 ) (9,694 ) 2,010 Effect of exchange rate changes on cash and cash equivalents (1,822 ) 3,522 (429 ) Increase in cash and cash equivalents $ 43,362 $ 21,699 $ 4,720 Operating Activities Net cash provided by operating activities decreased by $3.5 million in fiscal 2021 to $135.0 million from $138.4 million in fiscal 2020. Net cash provided by operating activities increased by $32.3 million in fiscal 2020 to $138.4 million from $106.1 million in fiscal 2019. Our operating cash flows result primarily from cash received from our customers, offset by cash payments we make for inventory, employee compensation, store occupancy expenses and other operational expenditures. Cash received from our customers generally corresponds to our net sales. Because our customers primarily use credit cards or cash to buy from us, our receivables from customers settle quickly. Changes to our operating cash flows have historically been driven primarily by changes in operating income, which is impacted by changes to non-cash items such as depreciation, amortization and accretion, deferred taxes, and changes to the components of working capital. Investing Activities Net cash provided by investing activities was $101.6 million in fiscal 2021 related to $117.4 million in net sales of marketable securities and $15.7 million of capital expenditures primarily for new store openings and existing store remodels or relocations. Net cash used in investing activities was $110.5 million in fiscal 2020 related to $101.4 million in net purchases of marketable securities and $9.1 million of capital expenditures primarily for new store openings and existing store remodels or relocations. Net cash used in investing activities was $102.9 million in fiscal 2019 related to $84.1 million in net purchases of marketable securities and $18.8 million of capital expenditures primarily for new store openings and existing store remodels or relocations. Financing Activities Net cash used in financing activities in fiscal 2021 was $191.4 million related to $193.8 million used in the repurchase of common stock and $0.6 million in payments for tax withholding obligations upon vesting of restricted stock partially offset by $3.0 million in proceeds from the issuance and exercise of stock-based awards. Net cash used in financing activities in fiscal 2020 was $9.7 million related to $13.4 million used in the repurchase of common stock and $0.2 million in payments on tax withholding obligation upon vesting of restricted stock partially offset by $3.9 million in proceeds from the issuance and exercise of stock-based awards . Net cash provided by financing activities in fiscal 2019 was $2.0 million related to $2.3 million in proceeds from issuance of stock-based awards partially offset by $0.3 million in payments on tax withholding obligation upon vesting of restricted stock. 30 Capital Expenditures Our capital requirements include construction and fixture costs related to the opening of new stores and remodel and relocation expenditures for existing stores. Future capital requirements will depend on many factors, including the pace of new store openings, the availability of suitable locations for new stores and the nature of arrangements negotiated with landlords. In that regard, our net investment to open a new store has varied significantly in the past due to a number of factors, including the geographic location and size of the new store, and is likely to vary significantly in the future. During fiscal 2021, we spent $15.7 million on capital expenditures which consisted of $11.5 million of costs related to investment in 23 new stores and 3 remodeled or relocated stores, $1.1 million associated with improvements to our websites and $3.1 million in other improvements. During fiscal 2020, we spent $9.1 million on capital expenditures, which consisted of $6.6 million of costs related to investment in 12 new stores and 3 remodeled or relocated stores, $2.1 million associated with improvements to our websites and $0.4 million in other improvements. During fiscal 2019, we spent $18.8 million on capital expenditures, which consisted of $13.7 million of costs related to investment in 16 new stores and 17 remodeled or relocated stores, $1.2 million associated with improvements to our websites and the Customer Engagement Suite and $3.9 million in other improvements. In fiscal 2022, we expect to spend approximately $30 million to $32 million on capital expenditures, a majority of which will relate to leasehold improvements and fixtures for the approximately 34 new stores we plan to open in fiscal 2022 and remodels or relocations of existing stores. There can be no assurance that the number of stores that we actually open in fiscal 2022 will not be different from the number of stores we plan to open, or that actual fiscal 2022 capital expenditures will not differ from this expected amount. Other Material Cash Requirements Our material cash requirements include the following contractual and other obligatio (1) purchase obligations (for additional information, see Note 11 to the Consolidated Financial Statements); (2) supply and service arrangements entered in the normal course of business; (3) operating lease payments (for additional information, see Note 10 to the Consolidated Financial Statements); and (4) employee wages, benefits, and incentives; (5) commitments for capital expenditures; and (6) tax payables. Moreover, we may be subject to additional material cash requirements that are contingent upon the occurrence of certain events, e.g., legal contingencies, uncertain tax positions, and other matters. At January 29, 2022, we did not have any “off-balance sheet arrangements,” as defined in relevant SEC regulations that are reasonably likely to have a current or future effect on our financial condition, results of operations, liquidity, capital expenditures or capital resources. Sources of Liquidity Our most significant sources of liquidity continue to be funds generated by operating activities and available cash, cash equivalents and current marketable securities. We expect these sources of liquidity and available borrowings under our revolving credit facility will be sufficient to meet our foreseeable cash requirements for operations and planned capital expenditures for at least the next twelve months. Beyond this time frame, if cash flows from operations are not sufficient to meet our capital requirements, then we will be required to obtain additional equity or debt financing in the future. However, there can be no assurance that equity or debt financing will be available to us when we need it or, if available, that the terms will be satisfactory to us and not dilutive to our then-current shareholders. 31 As of January 29, 2022 , we maintained a secured credit agreement with Wells Fargo Bank, N.A., which provided us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024. The credit facility is available for working capital and other general corporate purposes. The credit facility provides for the issuance of standby letters of credit in an amount not to exceed $17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $10.0 million and with terms not to exceed 120 days. The credit facility will mature on December 1, 2024. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1.35% per annum. There were no borrowings or open commercial letters of credit outstanding under the secured credit facility at January 29, 2022 . Additionally, we maintain a credit facility with UBS Switzerland AG of up to 15.0 million Euro ($16.7 million), which may be used to guarantee payment of letters of credit. The credit facility bears interest at 1.25%. There were no borrowings outstanding under the credit agreement at January 29, 2022. Critical Accounting Estimates Our consolidated financial statements are prepared in accordance with U.S. GAAP. In connection with the preparation of our consolidated financial statements, we are required to make assumptions and estimates about future events, and apply judgments that affect the reported amounts of assets, liabilities, revenue, expenses and the related disclosures. We base our assumptions, estimates and judgments on historical experience, current trends and other factors that we believe to be relevant at the time our consolidated financial statements are prepared. On a regular basis, we review the accounting policies, assumptions, estimates and judgments to ensure that our consolidated financial statements are presented fairly and in accordance with U.S. GAAP. However, because future events and their effects cannot be determined with certainty, actual results could differ from our assumptions and estimates, and such differences could be material. Our significant accounting policies are discussed in Note 2, “Summary of Significant Accounting Policies,” in the Notes to Consolidated Financial Statements found in Part IV Item 15 of this Form 10-K. We believe that the following accounting estimates involve a significant level of estimation uncertainty and have had or are reasonably likely to have a material impact on our consolidated financial statements. 32 Description Judgments and Uncertainties Effect If Actual Results Differ From Assumptions Valuation of Merchandise Inventories We value our inventory at the lower of average cost or net realizable value through the establishment of write-down and inventory loss reserves. Our write-down reserve represents the excess of the carrying value over the amount we expect to realize from the ultimate sales or other disposal of the inventory. Write-downs establish a new cost basis for our inventory. Subsequent changes in facts or circumstances do not result in the restoration of previously recorded write-downs or an increase in that newly established cost basis. Our inventory loss reserve represents anticipated physical inventory losses (“shrinkage reserve”) that have occurred since the last physical inventory. Our write-down reserve contains uncertainties because the calculation requires management to make assumptions based on the current rate of sales, the age and profitability of inventory and other factors. Our shrinkage reserve contains uncertainties because the calculation requires management to make assumptions and to apply judgment regarding a number of factors, including historical percentages that can be affected by changes in merchandise mix and changes in actual shrinkage trends. We have not made any material changes in the accounting methodology used to calculate our write-down and shrinkage reserves in the past three fiscal years. We do not believe there is a reasonable likelihood that there will be a material change in the future estimates we use to calculate our inventory reserves. However, if actual results are not consistent with our estimates, we may be exposed to losses or gains that could be material. Our inventory reserves have increased by $1.3 million in fiscal 2021. A 10% decrease in the sales price of our inventory at January 29, 2022 would have decreased net income by less than $0.1 million in fiscal 2021. A 10% increase in actual physical inventory shrinkage rate at January 29, 2022 would have decreased net income by $0.2 million in fiscal 2021. Valuation of Long-Lived Assets We review the carrying value of our long-lived assets, including fixed assets and operating lease right-of-use assets, for impairment whenever events or changes in circumstances indicate that the carrying value of such asset or asset group may not be recoverable. Recoverability of assets to be held and used is determined by a comparison of the carrying amount of an asset to future undiscounted net cash flows expected to be generated by the asset. If such assets are considered impaired, the impairment recognized is measured by comparing the fair value of the asset to the asset carrying value. The fair value of the asset is based on the future discounted cash flow of current market rents that we could receive as sublease income. Events that may result in an impairment include the decision to close a store or facility or a significant decrease in the operating performance of a long-lived asset group. Our impairment calculations contain uncertainties because they require management to make assumptions and to apply judgment to estimate future cash flows and asset fair values, including forecasting future sales, gross profit, operating expenses, or sub-lease income. In addition to historical results, current trends and initiatives, and long-term macro-economic and industry factors are qualitatively considered. Additionally, management seeks input from store operations related to local economic conditions, including the impact of closures of selected co-tenants who occupy the mall. We do not believe there is a reasonable likelihood that there will be a material change in the estimates or assumptions we use to calculate long-lived asset impairment losses. However, if actual results are not consistent with our estimates and assumptions, our operating results could be adversely affected. Declines in projected cash flow of the assets could result in impairment. We recognized impairment losses of $2.2 million related to long-lived assets in fiscal 2021. 33 Description Judgments and Uncertainties Effect If Actual Results Differ From Assumptions Right-of-use Assets and Lease Liabilities We determine if a contract contains a lease at inception. Our operating leases primarily consist of retail store locations, distribution centers and corporate office space. We do not have any material leases, individually or in the aggregate, classified as a finance leasing arrangement. Operating lease right-of-use assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease term, net of lease incentives received and initial direct costs paid. Our retail store leases are generally for an initial period of 5-10 years, with some of our international leases structured to include renewal options at our election. We include renewal options that we are reasonably certain to exercise in the measurement our lease liabilities and right-of-use assets. Significant judgment is required in determining our incremental borrowing rate and the expected lease term, both of which impact the determination of lease classification and the present value of lease payments. Generally, our lease contracts do not provide a readily determinable implicit rate and, therefore, we use an estimated incremental borrowing rate as of the lease commencement date in determining the present value of lease payments. The estimated incremental borrowing rate reflects considerations such as market rates for our outstanding collateralized debt and interpolations of rates for leases with terms that differ from our outstanding debt. Our lease terms include option periods to extend or terminate the lease when it is reasonably certain that those options will be exercised, which is generally through an initial period of 5-10 years. We do not believe there is a reasonable likelihood that there will be a material change in the estimates or assumptions we use to calculate right-of-use assets and lease liabilities. Given the significant operating lease assets and liabilities recorded, changes in the estimates made by management or the underlying assumptions could have a material impact on our consolidated financial statements. Total undiscounted future payments for lease liabilities were $288.5 million at January 29, 2022. If the incremental borrowing rate increased 10 basis points from the rate in effect at January 29, 2022, the lease liability balance would decrease by $0.3 million. Revenue Recognition Revenue is recognized upon purchase at our retail store locations. For our ecommerce sales, revenue is recognized upon shipment to the customer. Revenue is recorded net of sales returns and deductions for promotions. Revenue is not recorded on the sale of gift cards. We record the sale of gift cards as a current liability and recognize revenue when a customer redeems a gift card. Additionally, the portion of gift cards that will not be redeemed (“gift card breakage”) is recognized in proportion of the patterns used by the customer based on our historical redemption patterns. Our revenue recognition accounting methodology contains uncertainties because it requires management to make assumptions regarding future sales returns and the amount and timing of gift cards projected to be redeemed by gift card recipients. Our estimate of the amount and timing of sales returns and gift cards to be redeemed is based primarily on historical experience. We have not made any material changes in the accounting methodology used to measure future sales returns or gift card breakage in the past three fiscal years. We do not believe there is a reasonable likelihood that there will be a material change in the future estimates or assumptions we use to recognize revenue. However, if actual results are not consistent with our estimates or assumptions, we may be exposed to losses or gains that could be material. Our sales return reserve has decreased by $0.1 million in fiscal 2021. A 10% increase in our sales return reserve at January 29, 2022 would have decreased net income by $0.3 million in fiscal 2021. Our gift card breakage reserve has increased by $1.5 million in fiscal 2021. A 1% increase in the estimated gift card redemption rate would have decreased net income by $0.1 million in fiscal 2021. 34 Description Judgments and Uncertainties Effect If Actual Results Differ From Assumptions Accounting for Income Taxes As part of the process of preparing the consolidated financial statements, income taxes are estimated for each of the jurisdictions in which we operate. This process involves estimating actual current tax exposure together with assessing temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included on the consolidated balance sheets. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. We regularly evaluate the likelihood of realizing the benefit for income tax positions we have taken in various federal, state and foreign filings by considering all relevant facts, circumstances and information available to us. If we believe it is more likely than not that our position will be sustained, we recognize a benefit at the largest amount that we believe is cumulatively greater than 50% likely to be realized. Significant judgment is required in evaluating our tax positions and determining our provision for income taxes. During the ordinary course of business, there are many transactions and calculations for which the ultimate tax determination is uncertain. For example, our effective tax rates could be adversely affected by earnings being lower than anticipated in jurisdictions where we have lower statutory rates and higher than anticipated in jurisdictions where we have higher statutory rates. The assessment of whether we will realize the value of our deferred tax assets requires estimates and judgments related to amount and timing of future taxable income. Actual results may differ from those estimates. Additionally, changes in the relevant tax, accounting and other laws, regulations, principles and interpretations may adversely affect financial results. Although management believes that the income tax related judgments and estimates are reasonable, actual results could differ and we may be exposed to losses or gains that could be material. At January 29, 2022 and January 30, 2021, we had valuation allowances on our deferred tax assets of $10.0 million and $8.7 million, respectively. Significant changes in performance or estimated taxable income may result in a change in our assessment of the valuation allowance. Upon income tax audit, any unfavorable tax settlement generally would require use of our cash and may result in an increase in our effective income tax rate in the period of resolution. A favorable tax settlement may be recognized as a reduction in our effective income tax rate in the period of resolution. Accounting for Contingencies We are subject to various claims and contingencies related to lawsuits, insurance, regulatory and other matters arising out of the normal course of business. We accrue a liability if the likelihood of an adverse outcome is probable and the amount is estimable. If the likelihood of an adverse outcome is only reasonably possible (as opposed to probable), or if an estimate is not determinable, we provide disclosure of a material claim or contingency. Significant judgment is required in evaluating our claims and contingencies, including determining the probability that a liability has been incurred and whether such liability is reasonably estimable. The estimated accruals for claims and contingencies are made based on the best information available, which can be highly subjective. Although management believes that the contingency related judgments and estimates are reasonable, our accrual for claims and contingencies could fluctuate as additional information becomes known, thereby creating variability in our results of operations from period to period. Additionally, actual results could differ and we may be exposed to losses or gains that could be material. See Note 11, “Commitments and Contingencies,” in the Notes to the consolidated financial statements found in Part IV Item 15 of this Form 10-K. 35 Description Judgments and Uncertainties Effect If Actual Results Differ From Assumptions Goodwill and Indefinite-lived Intangible Assets We assess goodwill and indefinite-lived intangible assets for impairment on an annual basis or more frequently if indicators of impairment arise. We perform this analysis at the reporting unit level. We have an option to first perform a qualitative assessment to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If we choose not to perform the qualitative test or we determine that it is more likely than not that the fair value of the reporting unit is less than the carrying amount, we compare the carrying value of the reporting unit to its estimated fair value, which is based on the perspective of a market-participant. If the fair value of the reporting unit is lower than the carrying value, an impairment loss is recorded for the amount in which the carrying value exceeds the estimated fair value. The goodwill and indefinite-lived intangible assets impairment tests require management to make assumptions and judgments. Our quantitative goodwill analysis of fair value is determined using a combination of the income and market approaches. Key assumptions in the income approach include estimating future cash flows, long-term growth rates and weighted average cost of capital. Our ability to realize the future cash flows used in our fair value calculations is affected by factors such as changes in economic conditions, operating performance and our business strategies. Key assumptions in the market approach include identifying companies and transactions with comparable business factors, such as earnings growth, profitability, business and financial risk. The fair value of the trade names and trademarks is determined using the relief from royalty method, which requires assumptions including forecasting future sales, discount rates and royalty rates. Based on the results of our annual impairment test for goodwill and indefinite-lived intangible assets, no impairment was recorded. All reporting units had a fair value substantially in excess of the carrying value. If actual results are not consistent with our estimates or assumptions, or there are significant changes in any of these estimates, projections and assumptions, could have a material effect of the fair value of these assets in future measurement periods and result in an impairment, which could materially affect our results of operations. A goodwill impairment analysis was performed for each of our reporting units as of November 1, 2021. Based on this analysis the implied fair value of each of our reporting units was substantially in excess of its carrying value. A 10% decrease in the estimated fair value of any of our reporting units would not have resulted in different conclusion. Recent Accounting Pronouncements See Note 2, “Summary of Significant Accounting Policies,” in the Notes to Consolidated Financial Statements found in Part IV Item 15 of this Form 10-K. 36 Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Interest Rate Risk Our earnings are affected by changes in market interest rates as a result of our short-term and long-term marketable securities, which are primarily invested in state and local municipal securities and variable-rate demand notes, which have long-term nominal maturity dates but feature variable interest rates that reset at short-term intervals. If our current portfolio average yield rate decreased by 10% in fiscal 2021, our net income would have decreased by $0.3 million. This amount is determined by considering the impact of the hypothetical yield rates on our cash, cash equivalents, short-term marketable securities and assumes no changes in our investment structure. During different times of the year, due to the seasonality of our business, we may borrow under our revolving credit facility. To the extent we borrow under this revolving credit facility, we are exposed to the market risk related to changes in interest rates. At January 29, 2022, we had no borrowings outstanding under the secured revolving credit facility. Foreign Exchange Rate Risk Our international subsidiaries operate with functional currencies other than the U.S. dollar, including the Canadian dollar, Euro, Australian dollar, Norwegian krone, and Swiss franc. Therefore, we must translate revenues, expenses, assets and liabilities from functional currencies into U.S. dollars at exchange rates in effect during, or at the end of, the reporting period. As a result, the fluctuation in the value of the U.S. dollar against other currencies affects the reported amounts of revenues, expenses, assets and liabilities. Assuming a 10% change in foreign exchange rates in fiscal 2021 our net income would have decreased or increased by $0.7 million. As we expand our international operations, our exposure to exchange rate fluctuations will continue to increase. To date, we have not used derivatives to manage foreign currency exchange risk. We import merchandise from foreign countries. As a result, any significant or sudden change in the financial, banking or currency policies and practices of these countries could have a material adverse impact on our financial position, results of operations and cash flows. Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Information with respect to this item is set forth in “Index to the Consolidated Financial Statements,” found in Part IV Item 15 of this Form 10-K. Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. Item 9A. CONTROLS AND PROCEDURES Evaluation of Disclosure Controls and Procedures . We carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Securities Exchange Act Rule 13a-15(e)). Based on this evaluation, our CEO and CFO concluded that, as of January 29, 2022, our disclosure controls and procedures were effective. Changes in Internal Control Over Financial Reporting . There has been no change in our internal control over financial reporting (as defined in Securities Exchange Act Rule 13a-15(f)) during the quarter ended January 29, 2022 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. Management’s Annual Report on Internal Control over Financial Reporting . The management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting, as 37 defined in Rule 13a-15(f) of the Securities Exchange Act of 1934. The Company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. This process includes policies and procedures tha (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions of the Company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the Company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements, and can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Furthermore, because of changes in conditions, the effectiveness of internal control may vary over time. The Company’s management, with the participation of the Chief Executive Officer and Chief Financial Officer, assessed the effectiveness of the Company’s internal control over financial reporting as of January 29, 2022. Management’s assessment was based on criteria described in the Internal Control—Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this assessment, management concluded that the Company’s internal control over financial reporting was effective as of January 29, 2022. The effectiveness of the Company’s internal control over financial reporting as of January 29, 2022 has been audited by Moss Adams LLP, the Company’s independent registered public accounting firm, as stated in their report, which is included below. 38 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Shareholders and the Board of Directors of Zumiez Inc. Opinion on Internal Control over Financial Reporting We have audited Zumiez Inc.’s (the “Company”) internal control over financial reporting as of January 29, 2022, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of January 29, 2022 based on criteria established in Internal Control – Integrated Framework (2013) issued by COSO. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the consolidated balance sheets of Zumiez Inc. as of January 29, 2022 and January 30, 2021, the related consolidated statements of income, comprehensive income, changes in shareholders’ equity and cash flows for each of the three years in the period ended January 29, 2022, and the related notes (collectively referred to as the “consolidated financial statements”) and our report dated March 14, 2022 expressed an unqualified opinion on those consolidated financial statements. Basis for Opinion The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management Report on Internal Control over Financial Reporting included in Item 9A. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. Definition and Limitations of Internal Control Over Financial Reporting A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. 39 /s/ Moss Adams LLP Seattle, Washington March 14, 2022 Item 9B. OTHER INFORMATION None. Item 9C. DISCLOSURE REGARDING FOREIGN JURISDICTIONS THAT PREVENT INSPECTIONS Not applicable. 40 PART III Item 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE Information regarding our directors and nominees for directorship is presented under the headings “Election of Directors,” in our definitive proxy statement for use in connection with our 2022 Annual Meeting of Shareholders (the “Proxy Statement”) that will be filed within 120 days after our fiscal year ended January 29, 2022 and is incorporated herein by this reference thereto. Information concerning our executive officers is set forth under the heading “Executive Officers” in our Proxy Statement, and is incorporated herein by reference thereto. Information regarding compliance with Section 16(a) of the Exchange Act, our code of conduct and ethics and certain information related to the Company’s Audit Committee, Compensation Committee and Governance Committee is set forth under the heading “Corporate Governance” in our Proxy Statement, and is incorporated herein by reference thereto. Item 11. EXECUTIVE COMPENSATION Information regarding the compensation of our directors and executive officers and certain information related to the Company’s Compensation Committee is set forth under the headings “Executive Compensation,” “Director Compensation,” “Compensation Discussion and Analysis,” “Report of the Compensation Committee of the Board of Directors” and “Compensation Committee Interlocks and Insider Participation” in our Proxy Statement, and is incorporated herein by this reference thereto. Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS, AND MANAGEMENT AND RELATED SHAREHOLDER MATTERS Information with respect to security ownership of certain beneficial owners and management is set forth under the headings “Security Ownership of Certain Beneficial Owners and Management” and “Equity Compensation Plan Information” in our Proxy Statement, and is incorporated herein by this reference thereto. Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE Information regarding certain relationships and related transactions and director independence is presented under the heading “Corporate Governance” in our Proxy Statement, and is incorporated herein by this reference thereto. Item 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES The Company’s independent registered public accounting firm is Moss Adams LLP , Seattle, WA , PCAOB ID: 659 . Information concerning principal accounting fees and services is presented under the heading “Fees Paid to Independent Registered Public Accounting Firm for Fiscal 2021 and 2020” in our Proxy Statement, and is incorporated herein by this reference thereto. 41 PART IV Item 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES (a) (1) Consolidated Financial Statements (2) Consolidated Financial Statement Schedul All financial statement schedules are omitted because the required information is presented either in the consolidated financial statements or notes thereto, or is not applicable, required or material. (3) Exhibits included or incorporated herein: See Exhibit Index. 42 INDEX TO CONSOLIDATED FINANCIAL STATEMENTS Report of Independent Registered Public Accounting Firm 44 Consolidated Balance Sheets 46 Consolidated Statements of Income 47 Consolidated Statements of Comprehensive Income 48 Consolidated Statements of Changes in Shareholders’ Equity 49 Consolidated Statements of Cash Flows 50 Notes to Consolidated Financial Statements 51 43 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Shareholders and the Board of Directors of Zumiez Inc. Opinion on the Financial Statements We have audited the accompanying consolidated balance sheets of Zumiez Inc. (the “Company”) as of January 29, 2022 and January 30, 2021, the related consolidated statements of income, comprehensive income, changes in shareholders’ equity and cash flows for each of the three years in the period ended January 29, 2022, and the related notes (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the consolidated financial position of the Company as of January 29, 2022, and the consolidated results of its operations and its cash flows for each of the three years in the period ended January 29, 2022, in conformity with accounting principles generally accepted in the United States of America. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the Company’s internal control over financial reporting as of January 29, 2022, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 14, 2022 expressed an unqualified opinion on the Company’s internal control over financial reporting. Basis for Opinion These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s consolidated financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures to respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion. Critical Audit Matter The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that (1) relate to accounts or disclosures that are material to the consolidated financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates. Store Asset Impairment As described in Notes 2 and 6 to the consolidated financial statements, the Company’s consolidated fixed assets, net balance was $91.5 million and operating lease right-of-use asset was $230.2 million as of January 29, 2022. As disclosed in Note 12, the Company recognized a long-lived assets impairment loss of $0.1 million for fixed assets, net and $2.1 million for operating lease right-of-use assets for the year ended January 29, 2022. The Company evaluates the carrying value of long-lived assets or asset groups (defined as a store, corporate facility or distribution center) for impairment when events or changes in circumstances indicate that the carrying values may not be 44 recoverable. Events that result in a store asset impairment review include plans to close a store or facility or a significant decrease in the operating performance of a store. When such an indicator occurs, the Company evaluates the store assets for impairment by comparing the undiscounted future cash flows expected to be generated by the store to its carrying amount. If the carrying amount exceeds the estimated undiscounted future cash flows, an analysis is performed to estimate the fair value of the asset. An impairment is recorded if the fair value of the store’s assets is less than the carrying amount. The evaluation of store assets for possible indications of impairment and the determination of the fair value of a store requires management to make significant estimates, complex judgments, and assumptions. These assumptions include revenue growth rates, product margins, operating expenses, current market rents that could be received as sublease income, and discount rate. Given the Company’s evaluation of impairment of store assets requires management to make significant assumptions, performing audit procedures to evaluate whether management appropriately identified events or changes in circumstances indicating that the carrying amounts of store assets may not be recoverable and determine store fair value required a high degree of auditor judgment. In addition, our audit effort included the use of professionals with specialized skill and knowledge to assist in performing these procedures and evaluating the audit evidence obtained. The primary procedures we performed to address this critical audit matter includ • Testing the effectiveness of controls relating to management’s identification of indicators of impairment, the assessment of the projected undiscounted cash flows to be generated by stores with indicators of impairment, the determination of the fair value of the stores, and the measurement of any resulting impairment. • Evaluating management’s store asset impairment analysis including inspecting the Company’s analysis of historical results by store to determine if contrary evidence existed as to the completeness of the population of potentially impaired stores. • Testing management’s process for determining the projected undiscounted cash flows to be generated by the stores. We evaluated the reasonableness of management’s assumptions used to forecast future cash flows including forecasted growth rate by comparing these forecasts to historical operating results of the Company. • Evaluating management’s assumptions used to estimate fair value of the stores by performing a sensitivity analysis to evaluate the changes in the fair value of the individual stores that would result from changes in the underlying assumptions. • Utilizing a valuation specialist to assist in our evaluation of the current market rents and market participant real estate data and related assumptions used to estimate store fair value. /s/ Moss Adams LLP Seattle, Washington March 14, 2022 We have served as the Company’s auditor since 2006. 45 ZUMIEZ INC. CONSOLIDATED BALANCE SHEETS (In thousands) January 29, 2022 January 30, 2021 Assets Current assets Cash and cash equivalents $ 117,223 $ 73,622 Marketable securities 177,260 301,920 Receivables 14,427 16,558 Inventories 128,728 134,354 Prepaid expenses and other current assets 10,011 8,823 Total current assets 447,649 535,277 Fixed assets, net 91,451 98,352 Operating lease right-of-use assets 230,187 267,152 Goodwill 57,560 61,470 Intangible assets, net 14,698 16,029 Deferred tax assets, net 8,659 9,927 Other long-term assets 11,808 10,157 Total long-term assets 414,363 463,087 Total assets $ 862,012 $ 998,364 Liabilities and Shareholders’ Equity Current liabilities Trade accounts payable $ 55,638 $ 69,751 Accrued payroll and payroll taxes 31,209 27,911 Income taxes payable 1,137 6,317 Operating lease liabilities 63,577 66,993 Other liabilities 32,878 24,480 Total current liabilities 184,439 195,452 Long-term operating lease liabilities 204,309 246,123 Other long-term liabilities 4,946 4,193 Total long-term liabilities 209,255 250,316 Total liabilities 393,694 445,768 Commitments and contingencies (Note 11) Shareholders’ equity Preferred stock, no par value, 20,000 shares authorized; none issued and outstanding — — Common stock, no par value, 50,000 shares authorized; 21,215 shares issued and outstanding at January 29, 2022 and 25,599 shares issued and outstanding at January 30, 2021 180,824 171,628 Accumulated other comprehensive (loss) income ( 13,463 ) 939 Retained earnings 300,957 380,029 Total shareholders’ equity 468,318 552,596 Total liabilities and shareholders’ equity $ 862,012 $ 998,364 See accompanying notes to consolidated financial statements 46 ZUMIEZ INC. CONSOLIDATED STATEMENTS OF INCOME (In thousands, except per share amounts) Fiscal Year Ended January 29, January 30, February 1, 2022 2021 2020 Net sales $ 1,183,867 $ 990,652 $ 1,034,129 Cost of goods sold 727,137 640,637 667,566 Gross profit 456,730 350,015 366,563 Selling, general and administrative expenses 298,920 253,077 280,756 Operating profit 157,810 96,938 85,807 Interest income, net 3,592 3,518 3,654 Other (expense) income, net ( 891 ) 2,001 1,532 Earnings before income taxes 160,511 102,457 90,993 Provision for income taxes 41,222 26,230 24,112 Net income $ 119,289 $ 76,227 $ 66,881 Basic earnings per share $ 4.93 $ 3.06 $ 2.65 Diluted earnings per share $ 4.85 $ 3.00 $ 2.62 Weighted average shares used in computation of earnings per sh Basic 24,187 24,942 25,200 Diluted 24,593 25,398 25,535 See accompanying notes to consolidated financial statements 47 ZUMIEZ INC. CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (In thousands) Fiscal Year Ended January 30, 2022 January 30, 2021 February 1, 2020 Net income $ 119,289 $ 76,227 $ 66,881 Other comprehensive (loss) income, net of tax and reclassification adjustments: Foreign currency translation ( 11,098 ) 12,289 ( 4,426 ) Net change in unrealized (loss) gain on available-for-sale debt securities ( 3,304 ) 1,241 1,059 Other comprehensive (loss) income, net ( 14,402 ) 13,530 ( 3,367 ) Comprehensive income $ 104,887 $ 89,757 $ 63,514 See accompanying notes to consolidated financial statements 48 ZUMIEZ INC. CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (In thousands) Accumulated Other Common Stock Comprehensive Retained Shares Amount (Loss) Income Earnings Total Balance at February 2, 2019 25,521 $ 153,066 $ ( 9,224 ) $ 256,614 $ 400,456 Net income — — — 66,881 66,881 Other comprehensive loss, net — — ( 3,367 ) — ( 3,367 ) Issuance and exercise of stock-based awards 307 2,010 — — 2,010 Stock-based compensation expense — 6,382 — — 6,382 Cumulative effect of accounting change under ASC 842 — — — ( 6,276 ) ( 6,276 ) Balance at February 1, 2020 25,828 161,458 ( 12,591 ) 317,219 466,086 Net income — — — 76,227 76,227 Other comprehensive income, net — — 13,530 — 13,530 Issuance and exercise of stock-based awards 465 3,722 — — 3,722 Stock-based compensation expense — 6,448 — — 6,448 Repurchase of common stock ( 694 ) — — ( 13,417 ) ( 13,417 ) Balance at January 30, 2021 25,599 171,628 939 380,029 552,596 Net income — — — 119,289 119,289 Other comprehensive loss, net — — ( 14,402 ) — ( 14,402 ) Issuance and exercise of stock-based awards 197 2,380 — — 2,380 Stock-based compensation expense — 6,816 — — 6,816 Repurchase of common stock ( 4,581 ) — — ( 198,361 ) ( 198,361 ) Balance at January 29, 2022 21,215 $ 180,824 $ ( 13,463 ) $ 300,957 $ 468,318 See accompanying notes to consolidated financial statements 49 ZUMIEZ INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) Fiscal Year Ended January 29, 2022 January 30, 2021 February 1, 2020 Cash flows from operating activiti Net income $ 119,289 $ 76,227 $ 66,881 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation, amortization and accretion 22,930 24,059 25,449 Noncash lease expense 64,466 61,694 58,223 Deferred taxes 2,374 ( 3,890 ) 899 Stock-based compensation expense 6,816 6,448 6,382 Impairment of long-lived assets 2,229 4,803 215 Other 2,728 ( 570 ) ( 656 ) Changes in operating assets and liabiliti Receivables 2,884 928 3,396 Inventories 2,587 3,946 ( 6,825 ) Prepaid expenses and other assets ( 2,824 ) 1,010 861 Trade accounts payable ( 14,060 ) 20,797 12,756 Accrued payroll and payroll taxes 3,649 3,841 2,735 Income taxes payable ( 5,101 ) 1,602 ( 1,127 ) Operating lease liabilities ( 77,657 ) ( 65,479 ) ( 62,217 ) Other liabilities 4,640 2,996 ( 902 ) Net cash provided by operating activities 134,950 138,412 106,070 Cash flows from investing activiti Additions to fixed assets ( 15,749 ) ( 9,057 ) ( 18,818 ) Purchases of marketable securities and other investments ( 160,328 ) ( 222,785 ) ( 236,838 ) Sales and maturities of marketable securities and other investments 277,720 121,301 152,725 Net cash provided by (used in) investing activities 101,643 ( 110,541 ) ( 102,931 ) Cash flows from financing activiti Proceeds from issuance and exercise of stock-based awards 3,001 3,877 2,332 Payments for tax withholdings on equity awards ( 621 ) ( 154 ) ( 322 ) Common stock repurchased ( 193,789 ) ( 13,417 ) — Net cash (used in) provided by financing activities ( 191,409 ) ( 9,694 ) 2,010 Effect of exchange rate changes on cash, cash equivalents, and restricted cash ( 1,822 ) 3,522 ( 429 ) Net increase in cash, cash equivalents, and restricted cash 43,362 21,699 4,720 Cash, cash equivalents, and restricted cash, beginning of period 80,690 58,991 54,271 Cash, cash equivalents, and restricted cash, end of period $ 124,052 $ 80,690 $ 58,991 Supplemental disclosure on cash flow informati Cash paid during the period for income taxes $ 42,767 $ 27,598 $ 24,138 Accrual for repurchase of common stock 4,572 — — Accrual for purchases of fixed assets 984 231 1,152 See accompanying notes to consolidated financial statements 50 ZUMIEZ INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. Nature of Business and Basis of Presentation Nature of Business —Zumiez Inc., including its wholly-owned subsidiaries, (“Zumiez”, the “Company,” “we,” “us,” “its” and “our”) is a global leading specialty retailer of apparel, footwear, accessories and hardgoods for young men and women who want to express their individuality through the fashion, music, art and culture of action sports, streetwear and other unique lifestyles. We operate under the names Zumiez, Blue Tomato and Fast Times. We operate ecommerce websites at zumiez.com , zumiez.ca, blue-tomato.com and fasttimes.com.au. At January 29, 2022, we operated 739 stores; 604 in the United States (“U.S.”), 52 in Canada, 66 in Europe and 17 in Australia. Fiscal Year— We use a fiscal calendar widely used by the retail industry that results in a fiscal year consisting of a 52- or 53-week period ending on the Saturday closest to January 31. Each fiscal year consists of four 13-week quarters, with an extra week added to the fourth quarter every five or six years. The fiscal years ended January 29, 2022, January 30, 2021 and February 1, 2020 were 52-week periods. Basis of Presentation— The accompanying consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”). The consolidated financial statements include the accounts of Zumiez Inc. and its wholly-owned subsidiaries. All significant intercompany transactions and balances are eliminated in consolidation. COVID-19— In December 2019, a novel strain of coronavirus (“COVID-19”) was first identified, and in March 2020, the World Health Organization categorized COVID-19 as a pandemic. To help control the spread of the virus and protect the health and safety of our employees and customers, we began closing our retail stores across all markets that we operate in mid-March 2020. We began gradually re-opening stores at the end of the first fiscal quarter and into the second fiscal quarter of fiscal 2020, with the majority of our stores open through the third and fourth quarter of fiscal 2020. Changes in our operations due to COVID-19 resulted in material fluctuations to our results of operations during fiscal 2020 and in certain geographies in 2021. By quarter, our stores were open, on an aggregate basis, approximately 50.2 %, 73.4 %, 94.7 % and 93.6 %, respectively, of the possible days during each fiscal quarter in fiscal 2020, and approximately 93.4 %, 96.3 % , 98.6 % and 99.4 %, respectively , of the possible days during each fiscal quarter in fiscal 2021 . 2. Summary of Significant Accounting Policies Use of Estimates —The preparation of financial statements in conformity with U.S. GAAP requires estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements as well as the reported amounts of revenues and expenses during the reporting period. These estimates can also affect supplemental information disclosed by us, including information about contingencies, risk and financial condition. Actual results could differ from these estimates and assumptions. Fair Value of Financial Instruments —We disclose the estimated fair value of our financial instruments. Financial instruments are generally defined as cash, evidence of ownership interest in an entity or a contractual obligation that both conveys to one entity a right to receive cash or other financial instruments from another entity and imposes on the other entity the obligation to deliver cash or other financial instruments to the first entity. Our financial instruments, other than those presented in Note 12, “Fair Value Measurements,” include cash and cash equivalents, receivables, payables and other liabilities. The carrying amounts of cash and cash equivalents, receivables, payables and other liabilities approximate fair value because of the short-term nature of these instruments. Our policy is to present transfers into and transfers out of hierarchy levels as of the actual date of the event or change in circumstances that caused the transfer. Cash and Cash Equivalents —We consider all highly liquid investments with original maturity of three months or less when purchased to be cash equivalents. 51 Concentration of Risk —We maintain our cash and cash equivalents in accounts with major financial institutions in the form of demand deposits, money market accounts, and corporate debt securities. Deposits in these financial institutions may exceed the amount of federal deposit insurance provided on such deposits. Restricted Cash— Cash and cash equivalents that are restricted as to withdrawal or use under the terms of certain contractual agreements are recorded as restricted cash in other long-term assets on our consolidated balance sheets. The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported within the consolidated balance sheets that sum to the total of the same such amounts shown in the consolidated statement of cash flows (in thousands): January 29, 2022 January 30, 2021 February 1, 2020 Cash and cash equivalents $ 117,223 $ 73,622 $ 52,428 Restricted cash included in other long-term assets 6,829 7,068 6,563 Total cash, cash equivalents, and restricted cash shown in the statement of cash flows $ 124,052 $ 80,690 $ 58,991 Restricted cash included in other long-term assets represents amounts held as insurance collateral and collateral for bank guarantees on certain store operating leases. Marketable Securities —Our marketable securities primarily consist of U.S treasury and government agency securities, corporate debt securities, state and local municipal securities and variable-rate demand notes. Variable-rate demand notes are considered highly liquid. Although the variable-rate demand notes have long-term nominal maturity dates, the interest rates generally reset weekly. Despite the long-term nature of the underlying securities of the variable-rate demand notes, we have the ability to quickly liquidate these securities, which have an embedded put option that allows the bondholder to sell the security at par plus accrued interest. Investments are considered to be impaired when a decline in fair value is determined to be other-than-temporary. If the cost of an investment exceeds its fair value, we evaluate information about the underlying investment that is publicly available such as analyst reports, applicable industry data and other pertinent information and assess our intent and ability to hold the security. For fixed-income securities, we also evaluate whether we have plans to sell the security or it is more likely than not we will be required to sell the security before recovery. The investment would be written down to its fair value at the time the impairment is deemed to have occurred and a new cost basis is established. Future adverse changes in market conditions, poor operating results of underlying investments or other factors could result in losses that may not be reflected in an investment’s current carrying value, possibly requiring an impairment charge in the future. Inventories —Merchandise inventories are valued at the lower of cost or net realizable value. The cost of merchandise inventories are based upon an average cost methodology. Merchandise inventories may include items that have been written down to our best estimate of their net realizable value. Our decisions to write-down our merchandise inventories are based on their current rate of sale, the age of the inventory, the profitability of the inventory and other factors. The inventory related to this reserve is not marked up in subsequent periods. Inventory is at net realizable value which factors in a reserve for inventory whose selling price is below cost and an estimate for inventory shrinkage. Shrinkage refers to a reduction in inventory due to shoplifting, employee theft and other matters. We estimate an inventory shrinkage reserve for anticipated losses and a write down for our merchandise inventories at January 29, 2022 and January 30, 2021 in the amounts of $ 3.3 million and $ 2.1 million, respectively. 52 Fixed Assets— Fixed assets primarily consist of leasehold improvements, fixtures, land, buildings, computer equipment, software and store equipment. Fixed assets are stated at cost less accumulated depreciation utilizing the straight-line method over the assets’ estimated useful lives. The useful lives of our major classes of fixed assets are as follows: Leasehold improvements Lesser of 10 years or the term of the lease Fixtures 3 to 7 years Buildings, land, and building and land improvements 15 to 39 years Computer equipment, software, store equipment & other 3 to 5 years The cost and related accumulated depreciation of assets sold or otherwise disposed of is removed from fixed assets and the related gain or loss is recorded in selling, general and administrative expenses on the consolidated statements of income. Asset Retirement Obligations— An asset retirement obligation (“ARO”) represents a legal obligation associated with the retirement of a tangible long-lived asset that is incurred upon the acquisition, construction, development or normal operation of that long-lived asset. Our AROs are associated with leasehold improvements that, at the end of a lease, we are contractually obligated to remove in order to comply with certain lease agreements. The ARO balance at January 29, 2022 and January 30, 2021 was $ 3.2 million and is recorded in other liabilities and other long-term liabilities on the consolidated balance sheets and will be subsequently adjusted for changes in fair value. The associated estimated asset retirement costs are capitalized as part of the carrying amount of the long-lived asset and depreciated over its useful life. Valuation of Long-Lived Assets— We review the carrying value of long-lived assets or asset groups (generally defined as a store, corporate facility or distribution center) for impairment when events or changes in circumstances indicate that the carrying values may not be recoverable. Recoverability of assets to be held and used is determined by a comparison of the carrying amount of an asset or asset group to future undiscounted net cash flows expected to be generated by the asset. If such assets are considered impaired, the impairment recognized is measured by comparing the fair value of the assets or asset group to the carrying values. The estimation of future cash flows from operating activities requires significant judgments of factors that include forecasting future sales, gross profit and operating expenses. In addition to historical results, current trends and initiatives, long-term macro-economic and industry factors are qualitatively considered. Additionally, management seeks input from store operations related to local economic conditions. Impairment charges for operating lease right-of-use assets are included in cost of goods sold and impairment charges for fixed assets are included in selling, general and administrative expenses on the consolidated statements of income. Goodwill— Goodwill represents the excess of purchase price over the fair value of acquired tangible and identifiable intangible net assets. We test goodwill for impairment on an annual basis or more frequently if indicators of impairment are present. We perform our annual impairment measurement test on the first day of the fourth quarter. Events that may trigger an early impairment review include significant changes in the current business climate, future expectations of economic conditions, declines in our operating results of our reporting units, or an expectation that the carrying amount may not be recoverable. We have an option to test goodwill for impairment by first performing a qualitative assessment to determine whether it is more likely than not that the fair value of the reporting unit is less than the carrying amount. If we choose not to perform the qualitative test or we determine that it is more likely than not that the fair value of the reporting unit is less than the carrying amount, we compare the carrying value of the reporting unit to its estimated fair value, which is based on the perspective of a market-participant. If the carrying amount of the reporting unit’s goodwill exceeds the estimated fair value, we recognize an impairment loss in an amount equal to the excess, not to exceed the carrying amount. 53 We generally determine the fair value of each of our reporting units based on a combination of the income approach and the market valuation approaches. Key assumptions in the income approach include estimating future cash flows, long-term growth rates and weighted average cost of capital. Our ability to realize the future cash flows used in our fair value calculations is affected by factors such as changes in economic conditions, operating performance and our business strategies. Key assumptions in the market approaches include identifying companies and transactions with comparable business factors, such as earnings growth, profitability, business and financial risk. Intangible Assets— Our intangible assets consist of trade names and trademarks with indefinite lives and certain definite-lived intangible assets. We test our indefinite-lived intangible assets for impairment on an annual basis, or more frequently if indicators of impairment are present. We test our indefinite-lived assets by estimating the fair value of the asset and comparing that to the carrying value, an impairment loss is recorded for the amount that carrying value exceeds the estimated fair value. The fair value of the trade names and trademarks is determined using the relief from royalty method. This method assumes that the trade name and trademarks have value to the extent that their owner is relieved of the obligation to pay royalties for the benefits received from them. The assumptions used in this method requires management judgment and estimates in forecasting future revenue growth, discount rates, and royalty rates. Definite-lived intangible assets, which consist of developed technology, customer relationships and non-compete agreements, are amortized using the straight-line method over their estimated useful lives. Additionally, we test the definite-lived intangible assets when facts and circumstances indicate that the carrying values may not be recoverable. We first assess the recoverability of our definite-lived intangible assets by comparing the undiscounted cash flows of the definite-lived asset less its carrying value. If the undiscounted cash flows are less than the carrying value, we then determine the estimated fair value of our definite-lived asset by taking the estimated future operating cash flows derived from the operation to which the asset relates over its remaining useful life, using a discounted cash flow analysis and comparing it to the carrying value. Any impairment would be measured as the difference between the carrying amount and the estimated fair value. Changes in any of these estimates, projections and assumptions could have a material effect of the fair value of these assets in future measurement periods and result in an impairment which could materially affect our results of operations. Leases – We determine at inception if a contract is or contains a lease. The lease classification is determined at the commencement date. The majority of our leases are operating leases for our retail store locations. We do not have any material leases, individually or in the aggregate, classified as a finance leasing arrangement. Upon modification of a contract, we reassess if a contract is or contains a lease. For contracts that contain both lease and non-lease components, such as common area maintenance, we allocate the consideration to the components based on the relative standalone price. At the commencement date of a lease, we recognize (1) a right-of-use asset representing our right to use the underlying asset during the lease term and (2) a lease liability for the present value of the lease payments not yet made. The lease term includes the options to extend the lease, only to the extent it is reasonably certain that we will exercise such extension options and not exercise such early termination options, respectively. The majority of our store operating leases include ongoing co-tenancy requirements or early termination option that reduce lease payments, permit lease termination, or both, in the event that co-tenants cease to operate for specific periods or if stated sales levels are not met in specific periods. As the rate implicit in the lease is not readily determinable for our leases, we discount our lease payments using our incremental borrowing rate. Our incremental borrowing rate is based on information available at commencement date and represents the rate of interest we would have to pay to borrow on a collateralized basis over a similar term an amount equal to the lease payments in a similar economic environment. The right-of-use asset is measured at the present value of fixed lease payments not yet made with adjustments for initial direct costs, lease prepayments and lease incentives received. The right-of-use asset is reduced over time by the recognition of straight-line expense less the accretion of the lease liability under the effective interest method. The lease liability is measured at the present value of fixed lease payments not yet made. We evaluate the carrying value of right-of-use assets for indicators of impairment and perform an analysis of the recoverability of the related asset group. If the carrying value of the asset group is determined to be in excess of the estimated fair value, we record an impairment loss in our consolidated statements of income. Additionally, we review the carrying value of the right-of-use assets for impairment when events or changes in circumstances indicate that the carrying values may not be recoverable, require reassessment of the leases, and remeasurement if needed. 54 Our store operating leases may include fixed minimum lease payments, as contractually stated in the lease agreement or variable lease payments, which are generally based on a percentage of the store’s net sales in excess of a specified threshold or are dependent on changes in an index. Operating lease expense relating to fixed lease payments is recognized on a straight-line basis over the lease term and lease expense relating to variable payments is expensed as incurred. Operating lease expense is recorded in the cost of goods sold expenses on the consolidated statements of income. Claims and Contingencies— We are subject to various claims and contingencies related to lawsuits, insurance, regulatory and other matters arising out of the normal course of business. We accrue a liability if the likelihood of an adverse outcome is probable and the amount is estimable. If the likelihood of an adverse outcome is only reasonably possible (as opposed to probable), or if an estimate is not determinable, we provide disclosure of a material claim or contingency. Revenue Recognition— Revenue is recognized upon purchase at our retail store locations. For our ecommerce sales, revenue is recognized when control passes to the customer upon shipment. Taxes collected from our customers are recorded on a net basis. We accrue for estimated sales returns by customers based on historical return experience. The allowance for sales returns at January 29, 2022 and January 30, 2021 was $ 3.5 million and $ 3.6 million, respectively. We record the sale of gift cards as a current liability and recognize revenue when a customer redeems a gift card. The current liability for gift cards was $ 5.6 million at January 29, 2022 and $ 4.8 million at January 30, 2021. Additionally, the portion of gift cards that will not be redeemed (“gift card breakage”) is recognized in proportion of the patterns used by the customer based on our historical redemption patterns. For the fiscal years ended January 29, 2022, January 30, 2021 and February 1, 2020, we recorded net sales related to gift card breakage income of $ 1.7 million, $ 1.5 million and $ 1.7 million, respectively. Loyalty Program— We have a customer loyalty program, the Zumiez STASH, which allows members to earn points for purchases or performance of certain activities. The points can be redeemed for a broad range of rewards, including product and experiential rewards. Points earned for purchases are recorded as a current liability and a reduction of net sales based on the relative fair value of the points at the time the points are earned and estimated redemption rates. Revenue is recognized upon redemption of points for rewards. Points earned for the performance of activities are recorded as a current liability based on the estimated cost of the points and as marketing expense when redeemed. The deferred revenue related to our customer loyalty program at January 29, 2022 and January 30, 2021 was $ 1.0 million and $ 0.7 million, respectively. Cost of Goods Sold— Cost of goods sold consists of branded merchandise costs and our private label merchandise costs including design, sourcing, importing and inbound freight costs. Our cost of goods sold also includes shrinkage, buying, occupancy, ecommerce fulfillment, distribution and warehousing costs (including associated depreciation) and freight costs for store merchandise transfers. Cash consideration received from vendors is reported as a reduction of cost of goods sold if the inventory has sold, a reduction of the carrying value of the inventory if the inventory is still on hand, or a reduction of selling, general and administrative expense if the amounts are reimbursements of specific, incremental and identifiable costs of selling the vendors’ products. Shipping Revenue and Costs— We include shipping revenue related to ecommerce sales in net sales and the related freight cost is charged to cost of goods sold. Selling, General and Administrative Expense— Selling, general and administrative expenses consist primarily of store personnel wages and benefits, administrative staff and infrastructure expenses, freight costs for merchandise shipments from the distribution centers to the stores, store supplies, depreciation on fixed assets at the home office and stores, facility expenses, training expenses, advertising and marketing costs. Credit card fees, insurance, public company expenses, legal expenses, amortization of intangibles assets and other miscellaneous operating costs are also included in selling, general and administrative expenses. Advertising— We expense advertising costs as incurred, except for catalog costs, which are expensed once the catalog is mailed. Advertising expenses are net of sponsorships and vendor reimbursements. Advertising expense was $ 13.5 million, $ 11.9 million and $ 11.3 million for the fiscal years ended January 29, 2022, January 30, 2021 and February 1, 2020, respectively. 55 Stock-Based Compensation— We account for stock-based compensation by recording the estimated fair value of stock-based awards granted as compensation expense over the vesting period, net of estimated forfeitures. Stock-based compensation expense is attributed using the straight-line method. We estimate forfeitures of stock-based awards based on historical experience and expected future activity. The fair value of restricted stock awards and units is measured based on the closing price of our common stock on the date of grant. The fair value of stock option grants is estimated on the date of grant using the Black-Scholes option pricing model. Common Stock Share Repurchases— We may repurchase shares of our common stock under authorizations made from time to time by our Board of Directors. Under applicable Washington State law, shares repurchased are retired and not presented separately as treasury stock on the consolidated financial statements. Instead, the value of repurchased shares is deducted from retained earnings. Income Taxes— We use the asset and liability method of accounting for income taxes. Using this method, deferred tax assets and liabilities are recorded based on the differences between the financial reporting and tax basis of assets and liabilities. The deferred tax assets and liabilities are calculated using the enacted tax rates and laws that we expect to be in effect when the differences are expected to reverse. We routinely evaluate the likelihood of realizing the benefit of our deferred tax assets and may record a valuation allowance if, based on all available evidence, it is determined that it is more likely than not that all or some portion of the deferred tax benefit will not be realized. The valuation allowance on our deferred tax assets at January 29, 2022 and January 30, 2021 was $ 10.0 million and $ 8.7 million, respectively. We regularly evaluate the likelihood of realizing the benefit of income tax positions that we have taken in various federal, state and foreign filings by considering all relevant facts, circumstances and information available. If we believe it is more likely than not that our position will be sustained, we recognize a benefit at the largest amount that we believe is cumulatively greater than 50% likely to be realized. Interest and penalties related to income tax matters are classified as a component of income tax expense. Unrecognized tax benefits are recorded in other long-term liabilities on the consolidated balance sheets. Our tax provision for interim periods is determined using an estimate of our annual effective rate, adjusted for discrete items, if any, that are taken into account in the relevant period. As the fiscal year progresses, we periodically refine our estimate based on actual events and earnings by jurisdiction. This ongoing estimation process can result in changes to our expected effective tax rate for the full fiscal year. When this occurs, we adjust the income tax provision during the quarter in which the change in estimate occurs so that our year-to-date provision equals our expected annual rate. Earnings per Share— Basic earnings per share is based on the weighted average number of common shares outstanding during the period. Diluted earnings per share is based on the weighted average number of common shares and common share equivalents outstanding during the period. The dilutive effect of stock options and restricted stock is applicable only in periods of net income. Common share equivalents included in the computation represent shares issuable upon assumed exercise of outstanding stock options, employee stock purchase plan funds held to acquire stock and non-vested restricted stock. Potentially anti-dilutive securities not included in the calculation of diluted earnings per share are options to purchase common stock where the option exercise price is greater than the average market price of our common stock during the period reported. Foreign Currency Translation— Our international subsidiaries operate with functional currencies other than the U.S. dollar, including the Canadian dollar, Euro, Australian dollar, Norwegian krone, and Swiss franc. Assets and liabilities denominated in foreign currencies are translated into U.S. dollars, the reporting currency, at the exchange rate prevailing at the balance sheet date. Revenue and expenses denominated in foreign currencies are translated into U.S. dollars at the monthly average exchange rate for the period and the translation adjustments are reported as an element of accumulated other comprehensive (loss) income on the consolidated balance sheets. Segment Reporting— We identify our operating segments according to how our business activities are managed and evaluated. Our operating segments have been aggregated and are reported as one reportable segment based on the similar nature of products sold, production, merchandising and distribution processes involved, target customers and economic characteristics. 56 Recent Accounting Standards— In November 2021, the Financial Accounting Standards Board (“FASB”) issued ASU 2021-10, Government Assistance (Topic 832): Disclosures by Business Entities About Government Assistance , which requires entities to provide disclosures on material government assistance transactions for annual reporting periods. The disclosures include information around the nature of the assistance, the related accounting policies used to account for government assistance, the effect of government assistance on the entity’s financial statements, and any significant terms and conditions on the agreements, including commitments and contingencies. The new standard is effective for annual periods beginning after December 15, 2021 (fiscal year ending January 28, 2022 for the Company). Early adoption is permitted. The amendments should be applied either (1) prospectively to all transactions within the scope of the amendments that are reflected in financial statements at the date of initial application and new transactions that are entered into after the date of initial application or (2) retrospectively to those transactions. The Company is currently evaluating the impact of the adoption of ASU 2021-10 will have on its consolidated financial statements. In October 2021, the FASB issued ASU 2021-08, Business Combinations (Topic 805): Accounting for Contract Assets and contract Liabilities from Contracts with Customers , which requires entities to recognize and measure contract assets and contract liabilities acquired in a business combination in accordance with ASC 2014-09, Revenue from Contracts with Customers (Topic 606) . The update will generally result in an entity recognizing contract assets and contract liabilities at amounts consistent with those recorded by the acquiree immediately before the acquisition date rather than at fair value. The new standard is effective for annual periods beginning after December 15, 2022 (fiscal year ending January 3, 2024 for the Company). Early adoption is permitted. The Company is currently evaluating the impact of the adoption of ASU 2021-08 will have on its consolidated financial statements. 3. Revenue The following table disaggregates net sales by geographic region (in thousands): Fiscal Year Ended January 29, January 30, February 1, 2022 2021 2020 United States $ 978,438 $ 812,825 $ 855,906 Canada 52,244 52,736 58,350 Europe 134,988 110,345 109,401 Australia 18,197 14,746 10,472 Net sales $ 1,183,867 $ 990,652 $ 1,034,129 Net sales for the year ended January 29, 2022 included a $ 4.2 million increase due to the change in foreign exchange rates, which consisted of $ 3.0 million in Canada, $ 1.0 million in Australia, and $ 0.3 in Europe. 57 4. Cash, Cash Equivalents and Marketable Securities The following tables summarize the estimated fair value of our cash, cash equivalents and marketable securities and the gross unrealized holding gains and losses (in thousands): January 29, 2022 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 99,333 $ — $ — $ 99,333 Money market funds 17,890 — — 17,890 Total cash and cash equivalents 117,223 — — 117,223 Marketable securiti U.S. treasury and government agency securities 29,218 33 ( 819 ) 28,432 Corporate debt securities 123,611 436 ( 851 ) 123,196 State and local government securities 25,722 62 ( 152 ) 25,632 Total marketable securities $ 178,551 $ 531 $ ( 1,822 ) $ 177,260 January 30, 2021 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 43,407 $ — $ — $ 43,407 Money market funds 19,267 — — 19,267 Corporate debt securities 10,948 — — 10,948 Total cash and cash equivalents 73,622 — — 73,622 Marketable securiti U.S. treasury and government agency securities 53,856 478 ( 24 ) 54,310 Corporate debt securities 220,558 2,352 ( 38 ) 222,872 State and local government securities 24,363 375 — 24,738 Total marketable securities $ 298,777 $ 3,205 $ ( 62 ) $ 301,920 All of our available-for-sale debt securities have an effective maturity date of five years or less and may be liquidated, at our discretion, prior to maturity. The following tables summarize the gross unrealized holding losses and fair value for investments in an unrealized loss position, and the length of time that individual securities have been in a continuous loss position (in thousands): January 29, 2022 Less Than Twelve Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Marketable securiti U.S. treasury and government agency securities $ 20,683 $ ( 785 ) $ 1,622 $ ( 34 ) $ 22,305 $ ( 819 ) Corporate debt securities 63,887 ( 849 ) 69 ( 2 ) 63,956 ( 851 ) State and local government securities 15,639 ( 152 ) - - 15,639 ( 152 ) Total marketable securities $ 100,209 $ ( 1,786 ) $ 1,691 $ ( 36 ) $ 101,900 $ ( 1,822 ) 58 January 30, 2021 Less Than Twelve Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Marketable securiti U.S. treasury and government agency securities $ 3,653 $ ( 24 ) $ — $ — $ 3,653 $ ( 24 ) Corporate debt securities 36,068 ( 38 ) - - 36,068 ( 38 ) Total marketable securities $ 39,721 $ ( 62 ) $ — $ — $ 39,721 $ ( 62 ) We did no t record a realized loss for other-than-temporary impairments during the fiscal years ended January 29, 2022, January 30, 2021 and February 1, 2020. 5. Receivables Receivables consisted of the following (in thousands): January 29, 2022 January 30, 2021 Credit cards receivable $ 7,964 $ 9,747 Vendor receivable 3,415 2,854 Other receivables 1,116 829 Tenant allowances receivable 967 204 Interest receivable 517 901 Tax-related receivables 448 510 Governmental subsidiaries - 1,513 Receivables $ 14,427 $ 16,558 6. Fixed Assets Fixed assets consisted of the following (in thousands): January 29, 2022 January 30, 2021 Leasehold improvements $ 198,538 $ 195,526 Fixtures 89,422 88,929 Buildings, land, and building and land improvements 28,179 28,184 Computer equipment, software, store equipment and other 48,356 42,970 Fixed assets, at cost 364,495 355,609 L Accumulated depreciation ( 273,044 ) ( 257,257 ) Fixed assets, net $ 91,451 $ 98,352 Depreciation expense on fixed assets is recognized on our consolidated income statement as follows (in thousands): Fiscal Year Ended January 29, 2022 January 30, 2021 February 1, 2020 Cost of goods sold $ 1,203 $ 1,213 $ 1,173 Selling, general and administrative expenses 20,226 22,237 23,861 Depreciation expense $ 21,429 $ 23,450 $ 25,034 59 Impairment of Fixed Assets— We recorded $ 0.1 million, $ 1.4 million and $ 0.2 million of impairment of fixed assets in selling, general and administrative expenses on the consolidated statements of income for the years ended January 29, 2022, January 30, 2021 and February 1, 2020. 7. Goodwill and Intangible Assets The following tables summarize the changes in the carrying amount of goodwill (in thousands): Balance as of February 1, 2020 $ 57,099 Effects of foreign currency translation 4,371 Balance as of January 30, 2021 61,470 Effects of foreign currency translation ( 3,910 ) Balance as of January 29, 2022 $ 57,560 There was no impairment of goodwill for the fiscal years ended January 29, 2022, January 30, 2021 and February 1, 2020. The following table summarizes the gross carrying amount, accumulated amortization and the net carrying amount of intangible assets (in thousands): January 29, 2022 Gross Carrying Amount Accumulated Amortization Intangible Assets, Net Intangible assets not subject to amortizati Trade names and trademarks $ 14,698 $ — $ 14,698 Intangible assets subject to amortizati Developed technology 3,344 3,344 — Customer relationships 2,477 2,477 — Non-compete agreements 210 210 — Total intangible assets $ 20,729 $ 6,031 $ 14,698 January 30, 2021 Gross Carrying Amount Accumulated Amortization Intangible Assets, Net Intangible assets not subject to amortizati Trade names and trademarks $ 16,002 $ — $ 16,002 Intangible assets subject to amortizati Developed technology 3,637 3,637 — Customer relationships 2,695 2,695 — Non-compete agreements 230 203 27 Total intangible assets $ 22,564 $ 6,535 $ 16,029 The impairment of intangible assets for the fiscal years ended January 29, 2022, January 30, 2021 and February 1, 2020 was immaterial. All amounts in the tables above are denominated in a foreign currency and subject to foreign exchange fluctuation. Amortization expense of intangible assets for each of the fiscal years ended January 29, 2022, January 30, 2021 and February 1, 2020 was $ 0.1 million. Amortization expense of intangible assets is recorded in selling, general and administrative expense on the consolidated statements of income. 60 8. Other Liabilities Other liabilities consisted of the following (in thousands): January 29, 2022 January 30, 2021 Accrued payables $ 6,482 $ 6,715 Accrued indirect taxes 6,451 6,855 Unredeemed gift cards 5,593 4,836 Accrual for repurchase of common stock 4,573 — Allowance for sales returns 3,521 3,635 Accrued legal settlement 2,834 — Other current liabilities 2,377 1,543 Deferred revenue 1,047 896 Other liabilities $ 32,878 $ 24,480 9. Revolving Credit Facilities and Debt On October 14, 2021, we amended our credit agreement with Wells Fargo Bank, N.A. (previously entered into December 7, 2018), which provided us with a senior secured credit facility (“credit facility”) of up to $ 25.0 million through December 1, 2023, and up to $ 35.0 million after December 1, 2023 and through December 1, 2024. The secured revolving credit facility is available for working capital and other general corporate purposes. The senior secured credit facility provides for the issuance of standby letters of credit in an amount not to exceed $ 17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $ 10.0 million and with terms not to exceed 120 days. The amount of borrowings available at any time under our credit facility is reduced by the amount of standby and commercial letters of credit outstanding at that time. The credit facility will mature on December 7, 2024 . All obligations under the credit facility are joint and several with Zumiez Services and guaranteed by certain of our subsidiaries. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1.35 % per annum. The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. The credit facility contains certain financial maintenance covenants that generally require the Registrant to have net income after taxes of at least $ 5.0 million on a trailing four-quarter basis and a quick ratio of 1.25 :1.0 at the end of each fiscal quarter. The credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. There were no borrowings outstanding under the credit facility at January 29, 2022 or January 30, 2021. We had no open commercial letters of credit outstanding under our secured revolving credit facility at January 29, 2022 or January 30, 2021. Additionally, on October 12, 2020, we entered into a credit facility with UBS Switzerland AG of up to 15.0 million Euro ($ 16.7 million as of January 29, 2022), which may be used to guarantee payment of letters of credit. Either party has a right to terminate this credit agreement at any time with immediate effect. The credit facility bears interest at 1.25 %. There were no borrowings outstanding under the secured credit agreement at January 29, 2022. 61 10. Leases At January 29, 2022, we had operating leases for our retail stores, certain distribution and fulfillment facilities, vehicles and equipment. Our remaining lease terms vary from one month to ten years , with varying renewal and termination options. At January 29, 2022 and January 30, 2021, the weighted-average of the remaining lease term was 5.0 years and 5.3 years, respectively, and the weighted-average operating lease discount rate was 2.7 % and 3.0 %, respectively. The following table presents components of lease expense (in thousands): Year Ended January 29, 2022 January 30, 2021 Operating lease expense $ 73,519 $ 72,245 Variable lease expense 10,367 3,981 Total lease expense (1) $ 83,886 $ 76,226 (1) Total lease expense does not include common area maintenance charges and other non-lease components. Supplemental cash flow information related to leases is as follows (in thousands): January 29, 2022 January 30, 2021 Cash paid for amounts included in the measurement of lease liabiliti Operating cash flows from operating leases $ ( 77,657 ) $ ( 65,479 ) Right-of-use assets obtained in exchange for new operating lease liabilities 37,268 22,732 At January 29, 2022, the maturities of our operating leases liabilities are as follows (in thousands): Fiscal 2022 $ 69,672 Fiscal 2023 62,040 Fiscal 2024 52,283 Fiscal 2025 36,828 Fiscal 2026 24,546 Thereafter 40,041 Total minimum lease payments 285,410 L interest ( 17,524 ) Present value of lease obligations 267,886 L current portion ( 63,577 ) Long-term lease obligations (2) $ 204,309 (2) Amounts in the table do not include contingent rent, common area maintenance charges and other non-lease components. At January 29, 2022, we have excluded from the table above $8.3 million of operating leases that were contractually executed, but have not yet commenced. These operating leases are expected to commence in fiscal 2022. 62 11. Commitments and Contingencies Purchase Commitments— At January 29, 2022 and January 30, 2021, we had outstanding purchase orders to acquire merchandise from vendors of $ 254.6 million and $ 262.6 million, respectively. We have an option to cancel these commitments with no notice prior to shipment, except for certain private label, packaging supplies and international purchase orders in which we are obligated to repay contractual amounts upon cancellation. Litigation— We are involved from time to time in claims, proceedings and litigation arising in the ordinary course of business. We have made accruals with respect to these matters, where appropriate, which are reflected in our consolidated financial statements. For some matters, the amount of liability is not probable or the amount cannot be reasonably estimated and therefore accruals have not been made. We may enter into discussions regarding settlement of these matters, and may enter into settlement agreements, if we believe settlement is in the best interest of our shareholders. A putative class action, Alexia Herrera, on behalf of herself and all other similarly situated, v. Zumiez Inc. , was filed against us in the Eastern District Count of California, Sacramento Division under case number 2:16-cv-01802-SB in August 2016. Alexandra Bernal filed the initial complaint and then in October 2016 added Alexia Herrera as a named plaintiff and Alexandra Bernal left the case. The putative class action lawsuit against us alleges, among other things, various violations of California’s wage and hour laws, including alleged violations of failure to pay reporting time. In May 2017 we moved for judgment on the pleadings in that plaintiff’s cause of action for reporting-time pay should fail as a matter of law as the plaintiff and the other putative class members did not “report for work” with respect to certain shifts on which the plaintiff’s claims are based. In August 2017, the court denied the motion. However, in October 2017 the district court certified the order denying the motion for judgment on the pleadings for immediate interlocutory review by the United States Court of Appeals for the Ninth Circuit. We then filed a petition for permission to appeal the order denying the motion for judgment on the pleadings with the United States Court of Appeals for the Ninth Circuit, which petition was then granted in January 2018. Our opening appellate brief was filed in June 2018 and the plaintiff’s answering appellate brief was filed in August 2018. Our reply brief to the Plaintiff’s answering appellate brief was filed in September 2018 and oral arguments were completed in February 2019. On May 20, 2019, the United States Court of Appeals for the Ninth Circuit granted our motion for leave to file a supplemental brief addressing new authority. On June 10, 2019, the plaintiff’s supplemental answering brief was filed with the United States Court of Appeals for the Ninth Circuit. We then filed our supplemental reply brief to the plaintiff’s supplemental answering brief with the United States Court of Appeals for the Ninth Circuit on June 24, 2019. On March 19, 2020 the United States Court of Appeals for the Ninth Circuit published its opinion (i) affirming the District Court’s denial of judgment on the pleadings on plaintiff’s reporting time pay and minimum wage claims, (ii) reversing the District Court’s denial of judgment on the pleadings on plaintiff’s expense reimbursement claim and (iii) refusing to certify the reporting time pay question to the California Supreme Court. On April 2, 2020 we filed a petition for rehearing en banc to certify the reporting time pay question to the California Supreme Court and on April 27, 2020 plaintiff filed a response to our petition for rehearing en banc. We in turn filed a reply in support of our petition for rehearing en banc on May 1, 2020. On May 14, 2020, the United States Court of Appeals for the Ninth Circuit denied our petition for rehearing en banc. The case was remanded to the Eastern District of California, Sacramento for further proceedings. The parties held mediation with a private mediator on June 23, 2021. The parties reached a resolution in principle for all class claims, which will be subject to the court’s approval. We anticipate submitting the settlement for the court’s approval within the next 60 to 90 days. The estimated settlement of $ 2.8 million was recorded in selling, general and administrative expenses on the consolidated statement of operations for the year ended January 29, 2022, and in other liabilities on the consolidated balance sheet as of January 29, 2022. Insurance Reserves— We use a combination of third-party insurance and self-insurance for a number of risk management activities including workers’ compensation, general liability and employee-related health care benefits. We maintain reserves for our self-insured losses, which are estimated based on actuarial based analysis of historical claims experience. The self-insurance reserve for fiscal years ended January 29, 2022 and January 30, 2021 was $ 2.0 million and $ 1.8 . 63 12. Fair Value Measurements We apply the following fair value hierarchy, which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measuremen • Level 1—Quoted prices in active markets for identical assets or liabilities; • Level 2—Quoted prices for similar assets or liabilities in active markets or inputs that are observable; and • Level 3—Inputs that are unobservable. The following tables summarize assets measured at fair value on a recurring basis (in thousands): January 29, 2022 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 17,890 $ — $ — Marketable securiti U.S. treasury and government agency securities — 28,432 — Corporate debt securities — 123,196 — State and local government securities — 25,632 — Long-term other assets: Money market funds 6,829 — — Total $ 24,719 $ 177,260 $ — January 30, 2021 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 19,267 $ — $ — Corporate debt securities — 10,948 — Marketable securiti U.S. treasury and government agency securities — 54,310 — Corporate debt securities — 222,872 — State and local government securities — 24,738 — Long-term other assets: Money market funds 7,068 — — Total $ 26,335 $ 312,868 $ — The Level 2 marketable securities primarily include U.S treasury and government agency securities, corporate debt securities, state and local municipal securities, and variable-rate demand notes. Fair values are based on quoted market prices for similar assets or liabilities or determined using inputs that use readily observable market data that are actively quoted and can be validated through external sources, including third-party pricing services, brokers and market transactions. We review the pricing techniques and methodologies of the independent pricing service for Level 2 investments and believe that its policies adequately consider market activity, either based on specific transactions for the security valued or based on modeling of securities with similar credit quality, duration, yield and structure that were recently traded. We monitor security-specific valuation trends and we make inquiries with the pricing service about material changes or the absence of expected changes to understand the underlying factors and inputs and to validate the reasonableness of the pricing. 64 Assets and liabilities recognized or disclosed at fair value on the consolidated financial statements on a nonrecurring basis include items such as fixed assets, operating lease right-of-use-assets, goodwill, other intangible assets and other assets. These assets are measured at fair value if determined to be impaired. We recorded impairment charges for operating lease right-of-use assets of $ 2.1 million in costs of sales and impairment charges for fixed assets of $ 0.1 million in selling, general and administrative expenses on the consolidated statement of income for the year ended January 29 , 202 2 . W e reco rded impairment charges for operating right-of-use assets of $ 3.4 million in costs of sales and impairment charges for fixed assets of $ 1.4 million in selling, general and administrative expenses on the consolidated statement of income for the year ended January 30, 2021 . 13. Stockholders’ Equity Share Repurchase— In December 2021, our Board of Directors approved the repurchase of up to an aggregate of $ 150 million of common stock. The repurchases will be made from time to time on the open market at prevailing market prices. The repurchase program is expected to continue through the fiscal year 2022 that will end on January 28, 2023, unless the time period is extended or shortened by the Board of Directors. The repurchase program supersedes all previously approved and authorized stock repurchase programs, including the repurchase programs previously approved by the Board of Directors on September 16, 2021 and December 2, 2020. As of January 29, 2022, there remains $ 83.3 million available to repurchase common stock under the share repurchase program. The following table summarizes common stock repurchase activity during the fiscal year ended January 29, 2022 (in thousands, except per share amounts): Number of shares repurchased 4,581 Average price per share of repurchased shares (with commission) $ 43.30 Total cost of shares repurchased $ 198,361 Accumulated Other Comprehensive (Loss) Income — The component of accumulated other comprehensive (loss) income and the adjustments to other comprehensive (loss) income for amounts reclassified from accumulated other comprehensive (loss) income into net income is as follows (in thousands): Foreign currency translation adjustments (3) Net unrealized gains (losses) on available-for- sale investments Accumulated other comprehensive (loss) income Balance at February 2, 2019 $ ( 9,270 ) $ 46 $ ( 9,224 ) Other comprehensive loss, net (2) ( 4,426 ) 1,059 ( 3,367 ) Balance at February 1, 2020 $ ( 13,696 ) $ 1,105 $ ( 12,591 ) Other comprehensive income, net (2) 12,289 1,241 13,530 Balance at January 30, 2021 $ ( 1,407 ) $ 2,346 $ 939 Other comprehensive loss, net (1) ( 11,098 ) ( 3,304 ) ( 14,402 ) Balance at January 29, 2022 $ ( 12,505 ) $ ( 958 ) $ ( 13,463 ) (1) Other comprehensive loss before reclassifications was $ 4.4 million, net of taxes for net unrealized losses on available-for-sale investments for the fiscal year ended January 29, 2022 . There were $ 1.1 million net unrealized losses, net of taxes reclassified from accumulated other comprehensive loss for the year ended January 29, 2022. 65 (2) Other comprehensive income before reclassifications was $ 1.7 million, net of taxes for net unrealized gains on available-for-sale investments for the fiscal years ended January 30, 2021 and February 1 2020 and $ 0.5 million and $ 0.6 million, net of taxes for net unrealized gains reclassified from accumulated other comprehensive income ( loss ) for the fiscal years ended January 30, 2021 and February 1, 2020, respectively. (3) Foreign currency translation adjustments are not adjusted for income taxes as they relate to permanent investments in our international securities. 14. Equity Awards General— We maintain several equity incentive plans under which we may grant incentive stock options, nonqualified stock options, stock bonuses, restricted stock awards, restricted stock units and stock appreciation rights to employees (including officers), non-employee directors and consultants. Stock-Based Compensation— Total stock-based compensation expense is recognized on our consolidated income statements as follows (in thousands): Fiscal Year Ended January 29, 2022 January 30, 2021 February 1, 2020 Cost of goods sold $ 1,451 $ 1,339 $ 1,265 Selling, general and administrative expenses 5,365 5,109 5,117 Total stock-based compensation expense $ 6,816 $ 6,448 $ 6,382 At January 29, 2022, there was $ 8.6 million of total unrecognized compensation cost related to unvested stock options and restricted stock. This cost has a weighted-average recognition period of 1.1 years. Restricted Equity Awards — The following table summarizes the activity of restricted stock awards and restricted stock units, collectively defined as “restricted equity awards” (in thousands, except grant date weighted-average fair value): Restricted Equity Awards Grant Date Weighted- Average Fair Value Intrinsic Value Outstanding at February 2, 2019 544 $ 21.63 Granted 245 $ 24.82 Vested ( 218 ) $ 22.17 Forfeited ( 30 ) $ 22.30 Outstanding at February 1, 2020 541 $ 22.82 Granted 321 $ 19.54 Vested ( 229 ) $ 22.15 Forfeited ( 33 ) $ 21.29 Outstanding at January 30, 2021 600 $ 21.41 Granted 142 $ 45.24 Vested ( 247 ) $ 21.95 Forfeited ( 52 ) $ 25.30 Outstanding at January 29, 2022 443 $ 28.31 $ 19,155 The following table summarizes additional information related to restricted equity awards activity (in thousands): Fiscal Year Ended January 29, 2022 January 30, 2021 February 1, 2020 Vest date fair value of restricted stock vested $ 11,146 $ 4,761 $ 5,339 66 Stock Options —We had 0.3 million stock options outstanding at January 29, 2022, January 30, 2021, and February 1, 2020 with a grant date weighted average exercise price of $ 26.37 , $ 22.08 and $ 23.38 , respectively. Employee Stock Purchase Plan— We offer an Employee Stock Purchase Plan (“ESPP”) for eligible employees to purchase our common stock at a 15 % discount of the lesser of fair market value of the stock on the first business day or the last business day of the offering period, subject to maximum contribution thresholds. The number of shares issued under our ESPP was less than 0.1 million for each of the fiscal years ended January 29, 2022, January 30, 2021 and February 1, 2020. 15. Income Taxes The components of earnings before income taxes are (in thousands): Fiscal Year Ended January 29, 2022 January 30, 2021 February 1, 2020 United States $ 166,999 $ 108,412 $ 93,737 Foreign ( 6,488 ) ( 5,955 ) ( 2,744 ) Total earnings before income taxes $ 160,511 $ 102,457 $ 90,993 The components of the provision for income taxes are (in thousands): Fiscal Year Ended January 29, 2022 January 30, 2021 February 1, 2020 Curren Federal $ 31,231 $ 22,576 $ 17,634 State and local 6,521 5,946 4,376 Foreign 1,273 1,598 1,220 Total current 39,025 30,120 23,230 Deferr Federal 1,328 ( 1,198 ) 241 State and local 873 ( 808 ) 277 Foreign ( 4 ) ( 1,884 ) 364 Total deferred 2,197 ( 3,890 ) 882 Provision for income taxes $ 41,222 $ 26,230 $ 24,112 The reconciliation of the income tax provision at the U.S. federal statutory rate to our effective income tax rate is as follows: Fiscal Year Ended January 29, 2022 January 30, 2021 February 1, 2020 U.S. federal statutory tax rate 21.0 % 21.0 % 21.0 % State and local income taxes, net of federal effect 3.9 3.8 4.0 Change in valuation allowance 1.4 1.1 2.1 Foreign earnings, net ( 0.2 ) ( 0.5 ) ( 0.2 ) Stock-based compensation ( 1.1 ) ( 0.2 ) ( 0.1 ) Other 0.7 0.4 ( 0.3 ) Effective tax rate 25.7 % 25.6 % 26.5 % 67 The components of deferred income taxes are (in thousands): January 29, 2022 January 30, 2021 Deferred tax assets: Lease Liability $ 66,315 $ 80,744 Net operating losses 19,093 17,889 Employee benefits, including stock-based compensation 2,046 4,290 Accrued liabilities 2,091 2,014 Inventory 964 1,367 Other 1,468 ( 310 ) Total deferred tax assets 91,977 105,994 Deferred tax liabiliti Property and equipment ( 5,429 ) ( 7,385 ) Right of Use Asset ( 55,300 ) ( 67,919 ) Goodwill and other intangibles ( 10,897 ) ( 10,850 ) Other ( 1,660 ) ( 1,203 ) Total deferred tax liabilities ( 73,286 ) ( 87,357 ) Net valuation allowances ( 10,032 ) ( 8,710 ) Net deferred tax assets $ 8,659 $ 9,927 At January 29, 2022 and January 30, 2021, we had foreign net operating loss carryovers that could be utilized to reduce future years’ tax liabilities of $ 75.7 million and $ 72.0 million, respectively. The tax-effected foreign net operating loss carryovers were $ 19.1 million and $ 17.9 million at January 29, 2022 and January 30, 2021, respectively. The net operating loss carryovers have an indefinite carryforward period and currently will not expire. At January 29, 2022 and January 30, 2021, we had valuation allowances on our deferred tax assets of $ 10.0 million and $ 8.7 million, respectively, primarily due to the uncertainty of the realization of certain deferred tax assets related to foreign net operating loss carryovers. We file income tax returns in the U.S. federal jurisdiction and various state and foreign jurisdictions. Our U.S. federal income tax returns are no longer subject to examination for years before fiscal year 2018 and with few exceptions, we are no longer subject to U.S. state examinations for years before fiscal 2016. We are no longer subject to examination for all foreign income tax returns before fiscal 2015. 16. Earnings per Share, Basic and Diluted The following table sets forth the computation of basic and diluted earnings per share (in thousands, except per share amounts): Fiscal Year Ended January 29, 2022 January 30, 2021 February 1, 2020 Net income $ 119,289 $ 76,227 $ 66,881 Weighted average common shares for basic earnings per share 24,187 24,942 25,200 Dilutive effect of stock options and restricted stock 406 456 335 Weighted average common shares for diluted earnings per share 24,593 25,398 25,535 Basic earnings per share $ 4.93 $ 3.06 $ 2.65 Diluted earnings per share $ 4.85 $ 3.00 $ 2.62 Total anti-dilutive common stock options not included in the calculation of diluted earnings per share was 0.1 million for the fiscal year ended January 29, 2022 and less than 0.1 million for fiscal years ended January 30, 2021 and February 1, 2020, respectively. 68 17. Related Party Transactions The Zumiez Foundation is a charitable based nonprofit organization focused on meeting various needs of the under-privileged. Our Chairman of the Board is also the President of the Zumiez Foundation. We committed charitable contributions to the Zumiez Foundation of $ 1.6 million, $ 1.2 million and $ 1.3 million for the fiscal years ended January 29, 2022, January 30, 2021, and February 1, 2020, respectively. We had accrued charitable contributions payable to the Zumiez Foundation of $ 1.5 million and $ 1.2 million at January 29, 2022 and January 30, 2021, respectively. 18. Segment Reporting Our operating segments have been aggregated and are reported as one reportable segment based on the similar nature of products sold, production, merchandising and distribution processes involved, target customers and economic characteristics. The following table is a summary of product categories as a percentage of merchandise sal Fiscal Year Ended January 29, 2022 January 30, 2021 February 1, 2020 Men's Apparel 43 % 39 % 39 % Hardgoods 16 % 19 % 13 % Accessories 17 % 17 % 17 % Footwear 13 % 13 % 18 % Women's Apparel 11 % 12 % 13 % Total 100 % 100 % 100 % The following tables present summarized geographical information (in thousands): Fiscal Year Ended January 29, 2022 January 30, 2021 February 1, 2020 Net sales (1): United States $ 978,438 $ 812,825 $ 855,906 Foreign 205,429 177,827 178,223 Total net sales $ 1,183,867 $ 990,652 $ 1,034,129 January 29, 2022 January 30, 2021 Long-lived assets (2): United States $ 199,640 $ 238,684 Foreign 121,998 126,820 Total long-lived assets $ 321,638 $ 365,504 (1) Net sales are allocated based on the location in which the sale was originated. Store sales are allocated based on the location of the store and ecommerce sales are allocated to the U.S. for sales on zumiez.com and to foreign for sales on zumiez.ca, blue-tomato.com and fasttimes.com.au . (2) Long-lived assets include fixed assets, net and operating lease right-of-use assets. 19. Subsequent Events Subsequent to January 29, 2022, we repurchased 1.5 million of our common stock at an average price of $ 44.03 , totaling $ 67.4 million, pursuant to the share repurchase program approved in December 2021. There remains $ 15.8 million available to repurchase common stock under the share repurchase program. 69 EXHIBIT INDEX 3.1 Articles of Incorporation. [Incorporated by reference to Exhibit 3.1 to the Company’s Registration Statement on Form S-1 (file No. 333-122865)] 3.2 Bylaws, as amended and restated May 21, 2014 and Amendment No.1, dated as of May 21, 2015, to Bylaws of Zumiez Inc. (as previously Amended and Restated as of May 21, 2014 [Incorporated by reference to Exhibit 3.2 to the Company’s Current Report on Form 8-K filed on May 23, 2014 and Exhibit to the Company’s Form 8-K filed on May 22, 2015] 4.1 Form of Common Stock Certificate of Zumiez Inc. [Incorporated by reference to Exhibit 4.1 to the Company’s Registration Statement on Form S-1 (file No. 333-122865)] 10.15 Zumiez Inc. 2005 Equity Incentive Plan, as amended and restated effective May 27, 2009. [Incorporated by reference from Exhibit 10.15 to the Form 8-K filed by the Company on June 1, 2009] 10.20 Zumiez Inc. 2014 Equity Incentive Plan. [Incorporated by reference to Exhibit 10.20 to the Company’s Current Report on Form 8-K filed on May 23, 2014] 10.21 Form of Restricted Stock Award Agreement and Terms and Conditions. [Incorporated by reference to Exhibit 10.21 to the Company’s Current Report on Form 8-K filed on May 23, 2014] 10.22 Form of Stock Option Award Agreement and Terms and Conditions. [Incorporated by reference to Exhibit 10.22 to the Company’s Current Report on Form 8-K filed on May 23, 2014] 10.23 Zumiez Inc. 2014 Employee Stock Purchase Plan. [Incorporated by reference to Exhibit 10.23 to the Company’s Current Report on Form 8-K filed on May 23, 2014] 10.24 Form of Indemnification Agreement. [Incorporated by reference to Exhibit 10.24 to the Company’s Current Report on Form 8-K filed on May 23, 2014] 10.28 Credit Agreement dated as of December 7, 2018 by and among Zumiez Inc., Zumiez Services Inc. and Wells Fargo Bank, National Association. [Incorporated by reference to Exhibit 10.28 to the Form 8-K filed by the Company on December 7, 2018] 10.29 First Amendment to Credit Agreement dated as of October 14, 2021 by and among Zumiez Inc., Zumiez Services Ince. And Wells Fargo Bank, National Association. [Incorporated by reference to Exhibit 10.29 to the Company’s Current Report on Form 8-K filed on October 18, 2021] 21.1 Subsidiaries of the Company. 23.1 Consent of Moss Adams LLP, Independent Registered Public Accounting Firm. 31.1 Certification of the Principal Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of the Principal Financial Officer (Principal Accounting Officer) pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certifications of the Principal Executive Officer and Principal Financial Officer (Principal Accounting Officer) pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350. 70 101 The following materials from Zumiez Inc.’s Annual Report on Form 10-K for the annual period ended January 29, 2022, formatted in iXBRL (Inline eXtensible Business Reporting Language): (i) Consolidated Balance Sheets at January 29, 2022 and January 30, 2021; (ii) Consolidated Statements of Income for the fiscal years ended January 29, 2022, January 30, 2021 and February 1, 2020; (iii) Consolidated Statements of Comprehensive Income for the fiscal years ended January 29, 2022, January 30, 2021 and February 1, 2020; (iv) Consolidated Statements of Changes in Shareholders’ Equity for the fiscal years ended January 29, 2022, January 30, 2021 and February 1, 2020; (v) Consolidated Statements of Cash Flows for the fiscal years ended January 29, 2022, January 30, 2021 and February 1, 2020; and (vi) Notes to Consolidated Financial Statements. 104 Cover Page Interactive Data File (embedded within the Inline XBRL document) Copies of Exhibits may be obtained upon request directed to the attention of our Chief Legal Officer and Secretary, 4001 204 th Street SW, Lynnwood, Washington 98036, and are available at the SEC’s website found at www.sec.gov. 71 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ZUMIEZ INC. / S / R ICHARD M. B ROOKS March 14, 2022 Signature Date By: Richard M. Brooks Chief Executive Officer and Director (Principal Executive Officer) / S / C HRISTOPHER C . W ORK March 14, 2022 Signature Date By: Christopher C. Work, Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer) Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. / S / T HOMAS D. C AMPION March 14, 2022 / S / S TEVEN P. L OUDEN March 14, 2022 Signature Date Signature Date Thomas D. Campion, Chairman Steven P. Louden, Director / S / J AMES P. M URPHY March 14, 2022 / S /T RAVIS D. S MITH March 14, 2022 Signature Date Signature Date James P. Murphy, Director Travis D. Smith, Director / S / K ALEN F. H OLMES March 14, 2022 / S / S COTT A. B AILEY March 14, 2022 Signature Date Signature Date Kalen F. Holmes, Director Scott A. Bailey, Director / S / L ILIANA G IL V ALLETTA March 14, 2022 Signature Date Liliana Gil Valletta, Director 72 |
Washington, D.C. 20549 FORM 10-K ☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year end January 28, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File Numbe 000-51300 ZUMIEZ INC . (Exact name of Registrant as specified in its charter) Washington 91-1040022 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 4001 204 th Street SW Lynnwood , Washington 98036 (Address of principal executive offices) (Zip Code) ( 425 ) 551-1500 (Registrant’s telephone number, including area code) Securities registered pursuant to Section 12(g) of the Ac None Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☐ No ☒ Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ☐ No ☒ Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the last 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☒ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ☒ If securities are registered pursuant to Section 12(b) of the Act, indicate by check mark whether the financial statements of the registrant included in the filing reflect the correction of an error to previously issued financial statements. ☐ Indicate by check mark whether any of those error corrections are restatements that required a recovery analysis of incentive-based compensation received by any of the registrant’s executive officers during the relevant recovery period pursuant to §240.10D-1(b). ☐ Indicate by check mark if the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name of each exchange on which registered Common Stock ZUMZ Nasdaq Global Select The aggregate market value of the voting and non-voting stock held by non-affiliates of the registrant as of the last business day of the second fiscal quarter, July 30, 2022, was $ 410,960,446 . At March 12, 2023, there were 19,489,583 shares outstanding of common stock. DOCUMENTS INCORPORATED BY REFERENCE The information required by Part III of this report is incorporated by reference from the Registrant’s definitive proxy statement, relating to the Annual Meeting of Shareholders scheduled to be held May 31, 2023, which definitive proxy statement will be filed not later than 120 days after the end of the fiscal year to which this report relates. ZUMIEZ INC. FORM 10-K TABLE OF CONTENTS PART I Item 1. Business 3 Item 1A. Risk Factors 11 Item 1B. Unresolved Staff Comments 21 Item 2. Properties 21 Item 3. Legal Proceedings 21 Item 4. Mine Safety Disclosures 21 PART II Item 5. Market for the Registrant’s Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities 22 Item 6. Reserved 23 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 24 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 37 Item 8. Financial Statements and Supplementary Data 37 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 37 Item 9A. Controls and Procedures 37 Item 9B. Other Information 38 Item 9C. D isclosure Regarding Foreign Jurisdictions that Prevent Inspections 38 PART III Item 10. Directors, Executive Officers and Corporate Governance 39 Item 11. Executive Compensation 39 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Shareholder Matters 39 Item 13. Certain Relationships and Related Transactions, and Director Independence 39 Item 14. Principal Accountant Fees and Services 39 PART IV Item 15. Exhibits, Financial Statement Schedules 40 Signatures 73 ZUMIEZ INC. FORM 10-K PART I. This Form 10-K contains forward-looking statements. These statements relate to our expectations for future events and future financial performance. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. These statements are only predictions. Actual events or results may differ materially. Factors which could affect our financial results are described in Item 1A below and in Item 7 of Part II of this Form 10-K. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Moreover, neither we nor any other person assume responsibility for the accuracy and completeness of the forward-looking statements. We undertake no duty to update any of the forward-looking statements after the date of this report to conform such statements to actual results or to changes in our expectations. We use a fiscal calendar widely used by the retail industry that results in a fiscal year consisting of a 52- or 53-week period ending on the Saturday closest to January 31. Each fiscal year consists of four 13-week quarters, with an extra week added to the fourth quarter every five or six years. Fiscal 2023 will be the 53 week period ending February 3, 2024. Fiscal 2022 was the 52 week period ending January 28, 2023. Fiscal 2021 was the 52 week period ending January 29, 2022. Fiscal 2020 was the 52 week period ending January 30, 2021. Fiscal 2019 was the 52 week period ending February 1, 2020. Fiscal 2018 was the 52 week period ending February 2, 2019. “Zumiez,” the “Company,” “we,” “us,” “its,” “our” and similar references refer to Zumiez Inc. and its wholly-owned subsidiaries. Item 1. BUSINESS Zumiez Inc., including its wholly-owned subsidiaries, is a leading specialty retailer of apparel, footwear, accessories and hardgoods for young men and women who want to express their individuality through the fashion, music, art and culture of action sports, streetwear and other unique lifestyles. Zumiez Inc. was formed in August 1978 and is a Washington State corporation. We operate under the names Zumiez, Blue Tomato and Fast Times. We operate ecommerce websites at zumiez.com, zumiez.ca, blue-tomato.com and fasttimes.com.au. At January 28, 2023, we operated 758 stores; 608 in the United States (“U.S.”), 51 in Canada, 78 in Europe and 21 in Australia. We acquired Blue Tomato in fiscal 2012. Blue Tomato is one of the leading European specialty retailers of apparel, footwear, accessories and hardgoods. We acquired Fast Times Skateboarding (“Fast Times”) in fiscal 2016. Fast Times is an Australian leading specialty retailer of hardgoods, accessories, apparel and footwear. We employ a sales strategy that integrates our stores with our ecommerce platform to serve our customers. There is significant interaction between our store sales and our ecommerce sales channels and we believe that they are utilized in tandem by our customers. Our selling platforms bring the look and feel of an independent specialty shop through a distinctive store environment and high-energy sales personnel. We seek to staff our stores with store associates who are knowledgeable users of our products, which we believe provides our customers with enhanced customer service and supplements our ability to identify and react quickly to emerging trends and fashions. We design our selling platforms to appeal to teenagers and young adults and to serve as a destination for our customers. We believe that our distinctive selling platforms concepts and compelling economics will provide continued opportunities for growth in both new and existing markets. 3 We believe that our customers desire authentic merchandise and fashion that is rooted in the fashion, music, art and culture of action sports, streetwear and other unique lifestyles to express their individuality. We strive to keep our merchandising mix fresh by continuously introducing new brands, styles and categories of product. Our focus on a diverse collection of brands allows us to quickly adjust to changing fashion trends. We believe that our strategic mix of apparel, footwear, accessories and hardgoods, including skateboards, snowboards, bindings, components and other equipment, allows us to strengthen the potential of the brands we sell and helps to affirm our credibility with our customers. In addition, we supplement our merchandise mix with a select offering of private label apparel and products as a value proposition that we believe complements our overall merchandise selection. Competitive Strengths We believe that the following competitive strengths differentiate us from our competitors and are critical to our continuing success. Attractive Lifestyle Retailing Concept . We target a large population of young men and women, many of whom we believe are attracted to action sports, streetwear and other unique lifestyles and desire to express their personal independence and style through the apparel, footwear and accessories they wear and the equipment they use. We believe we have developed a brand image that our customers view as consistent with their attitudes, fashion tastes and identity and differentiates us in our market. Differentiated Merchandising Strategy . We have created a highly differentiated global retailing concept by offering an extensive selection of current and relevant lifestyle brands encompassing apparel, footwear, accessories and hardgoods. The breadth of merchandise offered through our sales channels exceeds that offered by many of our competitors and includes some brands and products that are available only from us. Many of our customers desire to update their wardrobes and equipment as fashion trends evolve or the season dictates, providing us the opportunity to shift our merchandise selection seasonally. We believe that our ability to quickly recognize changing brand and style preferences and transition our merchandise offerings allows us to continually provide a compelling offering to our customers. Deep-rooted Culture . We believe our culture and brand image enable us to successfully attract and retain high quality employees who are passionate and knowledgeable about the products we sell. We place great emphasis on customer service and satisfaction, and we have made this a defining feature of our corporate culture. To preserve our culture, we strive to promote from within and we provide our employees with the knowledge and tools to succeed through our comprehensive training programs and the empowerment to manage their stores to meet localized customer demand. Distinctive Customer Experience . We strive to provide a convenient shopping environment that is appealing and clearly communicates our distinct brand image. We seek to integrate our store and digital shopping experiences to serve our customers whenever, wherever and however they choose to engage with us. We seek to attract knowledgeable sale associates who identify with our brand and are able to offer superior customer service, advice and product expertise. We believe that our distinctive shopping experience enhances our image as a leading source for apparel and equipment for action sports, streetwear and other unique lifestyles. Disciplined Operating Philosophy . We have an experienced senior management team. Our management team has built a strong operating foundation based on sound retail principles that underlie our unique culture. Our philosophy emphasizes an integrated combination of results measurement, training and incentive programs, all designed to drive sales productivity to the individual store associate level. Our comprehensive training programs are designed to provide our employees with the knowledge and tools to develop leadership, communication, sales, and operational expertise. We believe that our merchandising team immersion in the lifestyles we represent, supplemented with feedback from our customers, store associates, and omni-channel leadership, allows us to consistently identify and react to emerging fashion trends. We believe that this, combined with our inventory planning and allocation processes and systems, helps us better manage markdown and fashion risk. 4 High-Impact, Integrated Marketing Approach . We seek to build relationships with our customers through a multi-faceted marketing approach that is designed to integrate our brand images with the lifestyles we represent. Our marketing efforts focus on reaching our customers in their environment and feature extensive grassroots digital and physical marketing events, as well as the Zumiez STASH loyalty program. Our marketing efforts incorporate local sporting and music event promotions, interactive contest sponsorships that actively involve our customers with our brands and products and various social network channels. Events and activities such as these provide opportunities for our customers to develop a strong identity with our culture and brands. Our STASH loyalty program allows us to learn more about our customer and serve their needs better. We believe that our ability to interact with our customer, and our immersion in the lifestyles we represent, allows us to build credibility with our customers and gather valuable feedback on evolving customer preferences. Growth Strategy We intend to expand our presence as a leading global specialty retailer of action sports, streetwear, and other unique lifestyles Continuing to Generate Sales Growth through Existing Channels . We seek to maximize our comparable sales through our integrated store and online shopping experiences and offering our customers a broad and relevant selection of brands and products, including a unique customer experience through each interaction with our brand. We believe in driving to the optimum store count in each physical geography that we operate in and optimizing comparable sales within these markets between physical and digital to drive total trade area sales growth. Enhancing our Brand Awareness through Continued Marketing and Promotion . We believe that a key component of our success is the brand exposure that we receive from our marketing events, promotions, and activities that embody the unique lifestyles of our customers. These are designed to assist us in increasing brand awareness in our existing markets and expanding into new markets by strengthening our connection with our target customer base. We also use our STASH loyalty program to increase brand engagement and enhance brand creditability. We believe that our marketing efforts have also been successful in generating and promoting interest in our product offerings. In addition, we use our ecommerce presence to further increase our brand awareness. We plan to continue to expand our integrated marketing efforts by promoting more events and activities in our existing and new markets. We also benefit from branded vendors’ marketing. Opening or Acquiring New Store Locations . We believe our brand has appeal that provides select store expansion opportunities, particularly within our international markets. During the last three fiscal years, we have opened 67 new stores consisting of 32 stores in fiscal 2022, 23 stores in fiscal 2021 and 12 stores in fiscal 2020. We have successfully opened stores in diverse markets throughout the U.S. and internationally, which we believe demonstrates the portability and growth potential of our concepts. To take advantage of what we believe to be a compelling economic store model, we plan to open approximately 23 new stores in fiscal 2023, including stores in our existing markets and in new markets internationally. The number of anticipated store openings may increase or decrease due to market conditions and other factors. Our goal in opening stores is to not have one more store than needed to serve all our customers within a trade area. Merchandising and Purchasing Our goal is to be viewed by our customers as the definitive source of merchandise for their unique lifestyles across all channels in which we operate. We believe that the breadth of merchandise that we offer our customers, which includes apparel, footwear, accessories, and hardgoods, exceeds that offered by many other specialty stores at a single location, and makes us a single-stop purchase destination for our target customers. We seek to identify fashion trends as they develop and to respond in a timely manner with a relevant product assortment. We strive to keep our merchandising mix fresh by continuously introducing new brands or styles in response to the evolving desires of our customers. Our merchandise mix may vary by region, country and season, reflecting the preferences and seasons in each market. 5 We believe that offering an extensive selection of current and relevant brands in sports, fashion, music and art is integral to our overall success . No single third-party brand that we carry accounted f or more than 6.3 %, 7.9% and 9.4% of our net sal es in fiscal 2022, 202 1 and 20 20 , respectively . We believe that our strategic mix of apparel, footwear, accessories and hardgoods allows us to strengthen the potential of the brands we sell and affirms our credibility with our customers. We believe that our ability to maintain an image consistent with the unique lifestyles of our customers is important to our key vendors. Given our scale and market position, we believe that many of our key vendors view us as an important retail partner. This position helps ensure our ability to procure a relevant product assortment and quickly respond to the changing fashion interests of our customers. Additionally, we believe we are presented with a greater variety of products and styles by some of our vendors, as well as certain specially designed items that we exclusively distribute. We supplement our merchandise assortment with a select offering of private label products across many of our product categories. Our private label products complement the branded products we sell, and some of our private label brands allow us to cater to the more value-oriented customer. For fiscal 2022, 2021 and 2020, our private label merchandise represented 18.4%, 13.3%, and 11.4% of our net sales, respectively. We have developed a disciplined approach to buying and a dynamic inventory planning and allocation process to support our merchandise strategy. We utilize a broad vendor base that allows us to shift our merchandise purchases as required to react quickly to changing consumer demands and market conditions. We manage the purchasing and allocation process by reviewing branded merchandise lines from new and existing vendors, identifying emerging fashion trends and selecting branded merchandise styles in quantities, colors and sizes to meet inventory levels established by management. We coordinate inventory levels in connection with individual stores’ sales strength, our promotions and seasonality. We utilize a localized fulfillment strategy to fulfill the vast majority of our ecommerce orders through our stores to enhance customer experience, maximize inventory productivity and reduce shipping time. Our merchandising staff remains in tune with the fashion, music, art and culture of action sports, streetwear and other unique lifestyles by participating in lifestyles we support, attending relevant events and concerts, watching related programming and reading relevant publications and social network channels. In order to identify evolving trends and fashion preferences, our staff spends considerable time analyzing sales data, gathering feedback from our stores and customers, shopping in key markets and soliciting input from our vendors. With a global footprint, we are able to identify trends that emerge all over the world. We source our private label merchandise from primarily foreign manufacturers around the world. We have cultivated our private label sources with a view towards high quality merchandise, production reliability and consistency of fit. We believe that our knowledge of fabric and production costs combined with a flexible sourcing base enables us to source high-quality private label goods at favorable costs. 6 Stores Store Locations . At January 28, 2023, we operated 758 stores in the following locatio United States and Puerto Rico - 608 Stores Alabama 4 Indiana 10 Nebraska 3 Rhode Island 2 Alaska 3 Iowa 4 New Hampshire 6 South Carolina 6 Arizona 11 Kansas 3 New Jersey 19 South Dakota 2 Arkansas 2 Kentucky 4 New Mexico 5 Tennessee 9 California 92 Louisiana 6 New York 31 Texas 48 Colorado 19 Maine 3 Nevada 10 Utah 14 Connecticut 9 Maryland 11 North Carolina 14 Vermont 1 Delaware 4 Massachusetts 10 North Dakota 4 Virginia 14 Florida 38 Michigan 14 Ohio 14 Washington 22 Georgia 17 Minnesota 11 Oklahoma 6 West Virginia 2 Hawaii 7 Mississippi 4 Oregon 13 Wisconsin 13 Idaho 6 Missouri 7 Pennsylvania 22 Wyoming 2 Illinois 17 Montana 5 Puerto Rico 5 Canada - 51 Stores Alberta 8 New Brunswick 1 Saskatchewan 2 British Columbia 12 Nova Scotia 2 Manitoba 2 Ontario 24 Europe - 78 Stores Austria 18 Netherlands 4 Switzerland 12 Finland 7 Norway 3 Germany 32 Sweden 2 Australia - 21 Stores New South Wales 4 Queensland 6 South Australia 2 Victoria 9 The following table shows the number of stores (excluding temporary stores that we operate from time to time for special or seasonal events) opened, acquired and permanently closed in each of our last three fiscal yea Fiscal Year Stores Opened Stores Closed (1) Total Number of Stores End of Year 2022 32 13 758 2021 23 5 739 2020 12 9 721 (1) Store closures above do not include short-term closures due to the impact of the novel coronavirus (“COVID-19”) pandemic. 7 Store Design and Environment. We design our stores to create a distinctive and engaging shopping environment that we believe resonates with our customers. Our stores feature an industrial look, dense merchandise displays, lifestyle focused posters and signage and popular music, all of which are consistent with the look and feel of an independent specialty shop. Our stores are designed to encourage our customers to shop for longer periods of time, to interact with each other and our store associates and to visit our stores more frequently. Our stores are constructed and finished to allow us to efficiently shift merchandise displays throughout the year as the season dictates. At January 28, 2023 , our stores averaged approximately 2,914 square feet. All references in this Annual Report on Form 10-K to square footage of our stores refers to gross square footage, including retail selling, storage and back-office space. Expansion Opportunities and Site Selection . In selecting a location for a new store, we target high-traffic locations with suitable demographics and favorable lease terms. We generally locate our stores in areas in which other teen and young adult-oriented retailers have performed well. We focus on evaluating the market specific competitive environment for potential new store locations. We seek to diversify our store locations regionally and by caliber of mall or shopping area. For mall locations, we seek locations near busy areas of the mall such as food courts, movie theaters, game stores and other popular teen and young adult retailers. Store Management, Operations and Training . We believe that our success is dependent in part on our ability to attract, train, retain and motivate qualified employees at all levels of our organization. We have developed a corporate culture that we believe empowers the individual store managers to make store-level business decisions and consistently rewards their success. We are committed to improving the skills and careers of our workforce and providing advancement opportunities for employees. We believe we provide our managers with the knowledge and tools to succeed through our comprehensive training programs and the flexibility to manage their stores to meet customer demands. While general guidelines for our merchandise assortments, store layouts and in-store visuals are provided by our home offices, we give our managers substantial discretion to tailor their stores to the individual market and empower them to make store-level business decisions. We design group training programs for our managers to improve both operational expertise and supervisory skills. Our store associates generally have an interest in the fashion, music, art and culture of the lifestyle we support and are knowledgeable about our products. Through our training, evaluation and incentive programs, we seek to enhance the productivity of our store associates. These programs are designed to promote a competitive, yet fun, culture that is consistent with the unique lifestyles we seek to promote. Marketing and Advertising We seek to reach our target customer audience through a multi-faceted marketing approach that is designed to integrate our brand image with the lifestyles we represent. Our marketing efforts focus on reaching our customers in their environment, and feature extensive physical and digital grassroots marketing events, which give our customers an opportunity to experience and participate in the lifestyles we offer. Our grassroots marketing events are built around the demographics of our customer base and offer an opportunity for our customers to develop a strong identity with our brands and culture. We have a customer loyalty program, the Zumiez STASH, which allows members to earn points for purchases or performance of certain activities. The points can be redeemed for a broad range of rewards, including product and experiential rewards. Our marketing efforts also incorporate local sporting and music event promotions, advertising in magazines popular with our target market, interactive contest sponsorships that actively involve our customers with our brands and products, the Zumiez STASH, catalogs and various social network channels. We believe that our immersion in action sports, streetwear and other unique lifestyles allows us to build credibility with our target audience and gather valuable feedback on evolving customer preferences. 8 Distribution and Fulfillment Timely and efficient distribution of merchandise to our stores is an important component of our overall business strategy. Domestically, our distribution center is located in Corona, California. At this facility, merchandise is inspected, allocated to stores and distributed to our stores and customers. Each store is typically shipped merchandise five times a week, providing our stores with a steady flow of new merchandise. We utilize a localized fulfillment strategy in which we use our domestic store network to provide fulfillment services for the vast majority of online customer purchases. Internationally, we operate distribution centers located in Delta, Canada, Graz, Austria, and Melbourne, Australia to support our operations in Canada, Europe and Australia, respectively. Each of our international entities are progressing toward full localized fulfillment and are in various states of implementation. Management Information Systems Our management information systems provide integration of store, online, merchandising, distribution, financial and human resources functions. The systems include applications related to point-of-sale, inventory management, supply chain, planning, sourcing, merchandising and financial reporting. We continue to invest in technology to align these systems with our business requirements and to support our continuing growth. Competition The teenage and young adult retail apparel, hardgoods, footwear and accessories industry is highly competitive. We compete with other retailers for vendors, customers, suitable store locations and qualified store associates, management personnel , online marketing content, social media engagement and ecommerce traffic. In the softgoods market, which includes apparel, footwear and accessories, we currently compete with other teenage and young adult focused retailers. In addition, in the softgoods market we compete with independent specialty shops, department stores, vendors that sell their products directly to the retail market, non-mall retailers and ecommerce retailers . In the hardgoods market, which includes skateboards, snowboards, bindings, components and other equipment, we compete directly or indirectly with the following categories of compani other specialty retailers, such as local snowboard and skate shops, large-format sporting goods stores and chains, vendors who sell their products directly to the retail market and ecommerce retailers. Competition in our sector is based on, among other things, merchandise offerings, store location, price, and the ability to identify with the customer. We believe that our ability to compete favorably with our competitors is due to our differentiated merchandising strategy, compelling store environment and deep-rooted culture. Seasonality Historically, our operations have been seasonal, with the largest portion of net sales and net income occurring in the third and fourth fiscal quarters, reflecting increased demand during the back-to-school and winter holiday selling seasons. During fiscal 2022, approximately 54% of our net sales occurred in the third and fourth quarters combined. As a result of this seasonality, any factors negatively affecting us during the last half of the year, including unfavorable economic conditions, adverse weather or our ability to acquire seasonal merchandise inventory, could have a material adverse effect on our financial condition and results of operations for the entire year. Our quarterly results of operations may also fluctuate based upon such factors as the timing of certain holiday seasons, the popularity of seasonal merchandise offered, the timing and amount of markdowns, competitive influences and the number and timing of new store openings, remodels and closings. Trademarks The “Zumiez”, “Blue Tomato” and “Fast Times” trademarks and certain other trademarks, have been registered, or are the subject of pending trademark applications, with the U.S. Patent and Trademark Office and with the registries of certain foreign countries. We regard our trademarks as valuable and intend to maintain such marks and any related registrations and vigorously protect our trademarks. We also own numerous domain names, which have been registered with the Corporation for Assigned Names and Numbers. 9 Employees At January 28, 2023, we employed approximately 2,600 full-time and approximately 6,800 part-time employees globally. However, the number of part-time employees fluctuates depending on our seasonal needs and generally increases during peak selling seasons, particularly the back-to-school and the winter holiday seasons. None of our employees are represented by a labor union and we believe that our relationship with our employees is positive. We believe in delivering quality employment experiences at all levels within the Company. In that regard, every year we create thousands of career opportunities in our stores for individuals who are just beginning their professional careers and who are driven to develop new skills in an environment centered around teaching and learning. Many of these opportunities are provided to our part-time sales associates, who on average are approximately 19 years of age, and are often furthering their career through concurrent education and/or additional employment opportunities. The Zumiez culture is built on a set of shared values that have been in place since the inception of the business. These shared values include empowered managers, teaching and learning, competition, recognition, and fairness and honesty. Our culture strives to integrate quality teaching and learning experiences throughout the organization. We do this through a comprehensive training program, which primarily focuses on sales, management and customer service training in our stores and is more focused on professional development in our home office. Our training programs have been developed internally and are almost exclusively taught internally by Zumiez employees to Zumiez employees. The training programs have been developed to empower our employees to make good business decisions. We believe Zumiez is a place where people have a voice, will be heard, and have bias-free opportunities. Accordingly, our work place is built upon the foundation of inclusion and equity where its people are diverse in their backgrounds, communities, and points of view, yet all share the same core cultural values of working hard, giving back and empowering others. In this regard, we strive for our employees within a trade area to be reflective of the communities they serve. Pay equity, meaning pay parity between employees performing similar job duties, without regard for race or gender, is a base line component of this focus on inclusion and equity and something we evaluate as part of our pay practice procedures. Financial Information about Segments See Note 18, “Segment Reporting,” in the Notes to Consolidated Financial Statements found in Part IV Item 15 of this Form 10-K, for information regarding our segments, product categories and certain geographical information. Available Information Our principal website address is www.zumiez.com. We make available, free of charge, our proxy statement, annual report to shareholders, annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports as soon as reasonably practicable after such material is electronically filed with or furnished to the Securities and Exchange Commission (“SEC”) at http://ir.zumiez.com. Information available on our website is not incorporated by reference in, and is not deemed a part of, this Form 10-K. The SEC maintains a website that contains electronic filings by Zumiez and other issuers at www.sec.gov. In addition, the public may read and copy any materials Zumiez files with the SEC at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, D.C. 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. 10 Item 1A. RISK FACTORS Investing in our securities involves a high degree of risk. The following risk factors, issues and uncertainties should be considered in evaluating our future prospects. In particular, keep these risk factors in mind when you read “forward-looking” statements elsewhere in this report. Forward-looking statements relate to our expectations for future events and time periods. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. Any of the following risks could harm our business, operating results or financial condition and could result in a complete loss of your investment. Additional risks and uncertainties that are not yet identified or that we currently think are immaterial may also harm our business and financial condition in the future. U.S. and global economic and political uncertainty, coupled with cyclical economic trends in retailing, could have a material adverse effect on our results of operations. Our retail market historically has been subject to substantial cyclicality. As the U.S. and global economic and political conditions change, the trends in discretionary consumer spending become unpredictable and discretionary consumer spending could be reduced due to uncertainties about the future. Economic and consumer confidence can also be affected by a variety of factors, including housing prices, unemployment rates and inflation. When disposable income decreases or discretionary consumer spending is reduced due to a decline in consumer confidence, purchases of apparel and related products may decline. A deterioration in macroeconomic conditions or consumer confidence or uncertainty in the U.S. and global economies and political environment could have a material adverse impact on our results of operations and financial position. In times when there is a decline in disposable income and consumer confidence, there could be a trend to consumers seeking more inexpensive or value-oriented merchandise. As a retailer that sells a substantial majority of branded merchandise, this could disproportionately impact us more than vertically integrated private label retailers or we may be forced to rely on promotional sales to compete in our market which could have a material adverse effect on our financial position. The novel coronavirus (COVID-19) global pandemic could continue to have a material impact on our business. Since being declared a pandemic by the World Health Organization in March 2020, COVID-19 has negatively impacted global economies, disrupted consumer spending and global supply chains, and created significant volatility and disruption of financial markets. The COVID-19 global pandemic could continue to have a material impact on our business, including our results of operations, financial condition and liquidity. The duration and severity of the COVID-19 pandemic will determine its ongoing impact on our business, including our ability to execute business strategies and initiatives in their expected time frame, the effect on our suppliers and disruptions to the global supply chain, and the ability of our customers to pay for our services and products. A resurgence in the spread of COVID-19, or its variants, could force the closure of our retail stores globally, as we saw in the first quarter of 2020. We could also experience store closures on a regional basis, like we have seen in 2020 and 2021. We may face long term store closure requirements and other operational restrictions with respect to some or all of our physical locations for prolonged periods of time due to, among other factors, evolving and increasingly stringent governmental restrictions, public health directives, quarantine policies, or social distancing measures, resulting in a materially adverse impact to our financial results. With store closures not withstanding, consumer fears about becoming ill with the virus may persist, adversely affecting traffic to our stores. Consumer spending may also be negatively impacted by general economic downturn and decreased consumer confidence resulting from the COVID-19 global pandemic. This may negatively impact sales in our stores and our ecommerce channel. The potential reduction in consumer visits to our stores, caused by COVID-19, and any decreased spending at retail stores or online caused by a lack of consumer confidence and spending following the pandemic, could result in a loss of sales and profits. A rise in the spread of COVID-19 also has the potential to significantly impact our supply chain if manufacturers of our products, distribution centers where we manage our inventory, or operations of our logistics and other service providers are disrupted, temporarily closed or experience worker shortages. 11 Due to the seasonality of our business, widespread closures during peak shopping periods could disproportionally impact financial results. The inability to effectively adapt to changes in consumer behavior could result in excess inventory and adversely impact financial results. We may experience adverse effects of prolonged operating restrictions related to in-person marketing and training events. The COVID-19 pandemic’s impact on macroeconomic conditions could alter the functioning of financial and capital markets, foreign currency exchange rates, commodity prices, and interest rates. After the COVID-19 global pandemic has settled, we may continue to experience adverse impacts to our business as a result of evolving macroeconomic factors, including general economic uncertainty, unemployment rates, high inflation, recessionary pressures and any actual economic recession that has occurred or may occur in the future. The extent of the impact of the COVID-19 global pandemic on our business remains uncertain and difficult to predict, given the innumerable unknowns regarding the duration and severity of the pandemic. Failure to anticipate, identify and respond to changing fashion trends, customer preferences and other fashion-related factors could have a material adverse effect on us. Customer tastes and fashion trends in our market are volatile and tend to change rapidly. Our success depends on our ability to effectively anticipate, identify and respond to changing fashion tastes and consumer preferences, and to translate market trends into appropriate, saleable product offerings in a timely manner. If we are unable to successfully anticipate, identify or respond to changing styles or trends and misjudge the market for our products or any new product lines, including adequately anticipating the correct mix and trends of our private label merchandise, our sales may be lower than predicted and we may be faced with a substantial amount of unsold inventory or missed opportunities. In response to such a situation, we may be forced to rely on markdowns or promotional sales to dispose of excess or slow-moving inventory, which could have a material adverse effect on our results of operations. We may be unable to compete favorably in the highly competitive retail industry, and if we lose customers to our competitors, our sales could decrease. The teenage and young adult retail apparel, footwear, accessories and hardgoods industry is highly competitive. We compete with other retailers for vendors, teenage and young adult customers, suitable store locations, qualified store associates, management personnel, online marketing content, social media engagement and ecommerce traffic. Some of our competitors are larger than we are and have substantially greater financial and marketing resources, including advanced ecommerce market capabilities. Additionally, some of our competitors may offer more options for free and/or expedited shipping for ecommerce sales. Direct competition with these and other retailers may increase significantly in the future, which could require us, among other things, to lower our prices and could result in the loss of our customers. Current and increased competition could have a material adverse effect on our business, results of operations and financial condition. Most of our merchandise is produced by foreign manufacturers; therefore, the availability, quality and costs of our merchandise may be negatively affected by risks associated with international trade and other international conditions. Most of our merchandise is produced by manufacturers around the world. Some of these facilities are located in regions that may be affected by natural disasters, public health concerns, or emergencies, such as COVID-19 and other communicable diseases or viruses, political instability or other conditions that could cause a disruption in trade. Trade restrictions such as increased tariffs or quotas, or both, could also increase the cost and reduce the supply of merchandise available to us. Any reduction in merchandise available to us or any increase in its cost due to tariffs, quotas or local issues that disrupt trade could have a material adverse effect on our results of operations. This includes costs to comply with regulatory developments regarding the use of “conflict minerals,” certain minerals originating from the Democratic Republic of Congo and adjoining countries, which may affect the sourcing and availability of raw materials used by manufacturers and subject us to increased costs associated with our products, processes or sources of our inputs. Our business could be adversely affected by disruptions in the supply chain, such as strikes, work stoppages, or port closures. 12 A decrease in consumer traffic could cause our sales to be less than expected. We depend heavily on generating customer traffic to our stores and websites. This includes locating many of our stores in prominent locations within successful shopping malls. Sales at these stores are derived, in part, from the volume of traffic in those malls. Our stores benefit from the ability of a mall’s “anchor” tenants, generally large department stores and other area attractions, to generate consumer traffic in the vicinity of our stores and the continuing popularity of malls as shopping destinations. In addition, some malls that were in prominent locations when we opened our stores may cease to be viewed as prominent. If this trend continues or if the popularity of mall shopping continues to decline generally among our customers, our sales may decline, which would impact our results of operations. Additionally, we may experience other risks associated with operating leases, such as lease termination or impairment of operating lease right-of-use assets. These risks may include circumstances that are not within our control, such as changes in fair market rent. Furthermore, we depend on generating increased traffic to our ecommerce business and converting that traffic into sales. This requires us to achieve expected results from our marketing and social media campaigns, accuracy of data analytics, reliability of our website, network, and transaction processing and a high-quality online customer experience. Our sales volume and customer traffic in our stores and on our websites generally could be adversely affected by, among other things, economic downturns, competition from other ecommerce retailers, non-mall retailers and other malls, increases in gasoline prices, fluctuations in exchange rates in border or tourism-oriented locations and the closing or decline in popularity of other stores in the malls in which we are located. Also, geopolitical events, including the threat of terrorism, or widespread health emergencies, such as COVID-19 and other communicable diseases, viruses, or pandemics, could cause people to avoid our stores in shopping malls and alter consumer trends. An uncertain economic outlook or continued bankruptcies of mall-based retailers could curtail new shopping mall development, decrease shopping mall and ecommerce traffic, reduce the number of hours that shopping mall operators keep their shopping malls open or force them to cease operations entirely. A reduction in consumer traffic to our stores or websites could have a material adverse effect on our business, results of operations and financial condition. Our growth strategy depends on our ability to grow customer engagement in our current markets and expand into new markets, which could strain our resources and cause the performance of our existing business to suffer. Our growth largely depends on our ability to optimize our customer engagement in our current trade areas and operate successfully in new geographic markets. However, our ability to open stores in new geographic markets, including international locations, is subject to a variety of risks and uncertainties, and we may be unable to open new stores as planned or have access to desirable lease space, and any failure to successfully open and operate in new markets could have a material adverse effect on our results of operations. We intend to continue to open new stores in future years, while remodeling a portion of our existing store base such that we have the optimum number of stores in any given trade area. The expansion into new markets may present competitive, merchandising, hiring and distribution challenges that are different from those currently encountered in our existing markets. In addition, our proposed expansion will place increased demands on our operational, managerial and administrative resources. These increased demands could cause us to operate our business less effectively, which in turn could cause deterioration in the financial performance of our individual stores and our overall business. In addition, successful execution of our growth strategy may require that we obtain additional financing, and we may not be able to obtain that financing on acceptable terms or at all. Failure to successfully integrate any businesses that we acquire could have an adverse impact on our results of operations and financial performance. We may, from time to time, acquire businesses, such as our acquisition of Blue Tomato and Fast Times. We may experience difficulties in integrating any businesses we may acquire, including their stores, websites, facilities, personnel, financial systems, distribution, operations and general operating procedures, and any such acquisitions may also result in the diversion of our capital and our management’s attention from other business issues and opportunities. If we experience difficulties in integrating acquisitions or if such acquisitions do not provide the benefits that we expect to receive, we could experience increased costs and other operating inefficiencies, which could have an adverse effect on our results of operations and overall financial performance. 13 Our plans for international expansion include risks that could have a negative impact on our results of operations. We plan to continue to open new stores in the Canadian, European and Australian markets. We may continue to expand internationally into other markets, either organically or through additional acquisitions. International markets may have different competitive conditions, consumer tastes and discretionary spending patterns than our existing U.S. market. As a result, operations in international markets may be less successful than our operations in the U.S. Additionally, consumers in international markets may not be familiar with us or the brands we sell, and we may need to build brand awareness in the markets. Furthermore, we have limited experience with the legal and regulatory environments and market practices in new international markets and cannot guarantee that we will be able to penetrate or successfully operate in these new international markets. We also expect to incur additional costs in complying with applicable foreign laws and regulations as they pertain to both our products and our operations. Accordingly, for the reasons noted above, our plans for international expansion include risks that could have a negative impact on our results of operations. Our sales and inventory levels fluctuate on a seasonal basis. Accordingly, our quarterly results of operations are volatile and may fluctuate significantly. Our quarterly results of operations have fluctuated significantly in the past and can be expected to continue to fluctuate significantly in the future. Our sales and profitability are typically disproportionately higher in the third and fourth fiscal quarters of each fiscal year due to increased sales during the back-to-school and winter holiday shopping seasons. Sales during these periods cannot be used as an accurate indicator of annual results. As a result of this seasonality, any factors negatively affecting us during the last half of the year, including unfavorable economic conditions, adverse weather or our ability to acquire seasonal merchandise inventory, could have a material adverse effect on our financial condition and results of operations for the entire year. In addition, in order to prepare for the back-to-school and winter holiday shopping seasons, we must order and keep in stock significantly more merchandise than we carry during other times of the year. Any unanticipated decrease in demand for our products during these peak shopping seasons could require us to sell excess inventory at a substantial markdown, which could have a material adverse effect on our business, results of operations and financial condition. Our quarterly results of operations are affected by a variety of other factors, includin • the timing of new store openings and the relative proportion of our new stores to mature stores; • whether we are able to successfully integrate any new stores that we acquire and the presence of any unanticipated liabilities in connection therewith; • fashion trends and changes in consumer preferences; • calendar shifts of holiday or seasonal periods; • changes in our merchandise mix; • timing of promotional events; • general economic conditions and, in particular, the retail sales environment; • actions by competitors or mall anchor tenants; • weather conditions; • the level of pre-opening expenses associated with our new stores; and • inventory shrinkage beyond our historical average rates. 14 If our information systems fail to function effectively, or do not scale to keep pace with our planned growth, our operations could be disrupted and our financial results could be harmed. If our information systems, including hardware and software, do not work effectively, this could adversely impact the promptness and accuracy of our transaction processing, financial accounting and reporting and our ability to manage our business and properly forecast operating results and cash requirements. Additionally, we rely on third-party service providers for certain information systems functions. If a service provider fails to provide the data quality, communications capacity or services we require, the failure could interrupt our services and could have a material adverse effect on our business, financial condition and results of operations. To manage the anticipated growth of our operations and personnel, we may need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. If we fail to meet the requirements to adequately maintain the privacy and security of personal data and business information, we may be subjected to adverse publicity, litigation and significant expenses. Information systems are susceptible to an increasing threat of continually evolving cybersecurity risks. If we fail to maintain or adequately maintain security systems, devices and activity monitoring to prevent unauthorized access to our network, systems and databases containing confidential, proprietary and personally identifiable information, we may be subject to additional risk of adverse publicity, litigation or significant expense. Nevertheless, if unauthorized parties gain access to our networks, systems or databases, they may be able to steal, publish, delete or modify confidential information. In such circumstances, we could be held liable to our customers or other parties or be subject to regulatory or other actions for breaching privacy rules and we may be exposed to reputation damage and loss of customers’ trust and business. This could result in costly investigations and litigation, civil or criminal penalties and adverse publicity that could adversely affect our financial condition, results of operations and reputation. Actual or anticipated attacks may cause us to incur increasing costs, including costs to deploy additional resources, train employees and engage third-parties. Further, the regulatory environment surrounding information security, cybersecurity and privacy is increasingly demanding. If we are unable to comply with the new and changing security standards, we may be subject to fines, restrictions and financial exposure, which could adversely affect our retail operations. Significant fluctuations and volatility in the cost of raw materials, global labor, shipping and other costs related to the production of our merchandise may have a material adverse effect on our business, results of operations and financial conditions. Increases in the cost of raw materials, global labor costs, freight costs and other shipping costs in the production and transportation of our merchandise can result in higher costs for this merchandise. The costs for these products are affected by weather, consumer demand, government regulation, speculation on the commodities market and other factors that are generally unpredictable and beyond our control. Our gross profit and results of operations could be adversely affected to the extent that the selling prices of our products do not increase proportionately with the increases in the costs of raw materials. Increasing labor costs and oil-related product costs, such as manufacturing and transportation costs, could also adversely impact gross profit. Additionally, significant changes in the relationship between carrier capacity and shipper demand could increase transportation costs, which could also adversely impact gross profit. Fluctuations in foreign currency exchange rates could impact our financial condition and results of operations. We are exposed to foreign currency exchange rate risk with respect to our sales, profits, assets and liabilities denominated in currencies other than the U.S. dollar. As a result, the fluctuation in the value of the U.S. dollar against other currencies could have a material adverse effect on our results of operations, financial condition and cash flows. Upon translation, operating results may differ materially from expectations. As we continue to expand our international operations, our exposure to exchange rate fluctuations will increase. Tourism spending may be affected by changes in currency exchange rates, and as a result, sales at stores with higher tourism traffic may be adversely impacted by fluctuations in currency exchange rates. Further, although the prices charged by vendors for the merchandise we purchase are primarily denominated in U.S. dollars, a decline in the relative value of the U.S. dollar to foreign currencies could lead to increased merchandise costs, which could negatively affect our competitive position and our results of operations. 15 Our business could be adversely affected by increased labor costs, including costs related to an increase in minimum wage and health care. Labor is one of the primary components in the cost of operating our business. Increased labor costs, whether due to competition, unionization, increased minimum wage, state unemployment rates, health care, mandated safety protocols, or other employee benefits costs may adversely impact our operating profit. A considerable amount of our store team members are paid at rates related to the federal or state minimum wage and any changes to the minimum wage rate may increase our operating expenses. Furthermore, inconsistent increases in state and or city minimum wage requirements limit our ability to increase prices across all markets and channels. Additionally, we are self-insured with respect to our health care coverage in the U.S. and do not purchase third party insurance for the health insurance benefits provided to employees with the exception of pre-defined stop loss coverage, which helps limit the cost of large claims. There is no assurance that future health care legislation will not adversely impact our results or operations. Our business could suffer if a manufacturer fails to use acceptable labor and environmental practices. We do not control our vendors or the manufacturers that produce the products we buy from them, nor do we control the labor and environmental practices of our vendors and these manufacturers. The violation of labor, safety, environmental and/or other laws and standards by any of our vendors or these manufacturers, or the divergence of the labor and environmental practices followed by any of our vendors or these manufacturers from those generally accepted as ethical in the U.S., could interrupt, or otherwise disrupt, the shipment of finished products to us or damage our reputation. Any of these, in turn, could have a material adverse effect on our reputation, financial condition and results of operations. In that regard, most of the products we sell are manufactured internationally, primarily in Asia, Mexico and Central America, which may increase the risk that the labor and environmental practices followed by the manufacturers of these products may differ from those considered acceptable in the U.S. Additionally, our products are subject to regulation of and regulatory standards set by various governmental authorities with respect to quality and safety. These regulations and standards may change from time to time. Our inability to comply on a timely basis with regulatory requirements could result in significant fines or penalties, which could adversely affect our reputation and sales. Issues with the quality and safety of merchandise we sell, regardless of our culpability, or customer concerns about such issues, could result in damage to our reputation, lost sales, uninsured product liability claims or losses, merchandise recalls and increased costs. If we fail to develop and maintain good relationships with vendors, or if a vendor is otherwise unable or unwilling to supply us with adequate quantities of their products at acceptable prices, our business and financial performance could suffer. Our business is dependent on developing and maintaining good relationships with a large number of vendors to provide our customers with an extensive selection of current and relevant brands. In addition to maintaining our large number of current vendor relationships, each year we are identifying, attracting and launching new vendors to provide a diverse and unique product assortment. We believe that we generally are able to obtain attractive pricing and terms from vendors because we are perceived as a desirable customer, and deterioration in our relationship with our vendors could have a material adverse effect on our business. However, there can be no assurance that our current vendors or new vendors will provide us with an adequate supply or quality of products or acceptable pricing. Our vendors could discontinue selling to us, raise the prices they charge, sell through direct channels or allow their merchandise to be discounted by other retailers. There can be no assurance that we will be able to acquire desired merchandise in sufficient quantities on terms acceptable to us in the future. In addition, certain vendors sell their products directly to the retail market and therefore compete with us directly and other vendors may decide to do so in the future. There can be no assurance that such vendors will not decide to discontinue supplying their products to us, supply us only less popular or lower quality items, raise the prices they charge us or focus on selling their products directly. 16 In addition, a number of our vendors are smaller, less capitalized companies and are more likely to be impacted by unfavorable general economic and market conditions than larger and better capitalized companies. These smaller vendors may not have sufficient liquidity during economic downturns to properly fund their businesses and their ability to supply their products to us could be negatively impacted. Any inability to acquire suitable merchandise at acceptable prices, or the loss of one or more key vendors, could have a material adverse effect on our business, results of operations and financial condition. Our business is susceptible to weather conditions that are out of our control, including the potential risks of unpredictable weather patterns and any weather patterns associated with naturally occurring global climate change, and the resultant unseasonable weather could have a negative impact on our results of operations. Our business is susceptible to unseasonable weather conditions. For example, extended periods of unseasonably warm temperatures during the winter season or cool weather during the summer season (including any weather patterns associated with global warming and cooling) could render a portion of our inventory incompatible with those unseasonable conditions. These prolonged unseasonable weather conditions could have a material adverse effect on our business and results of operations. Our omni-channel strategy may not have the return we anticipate, which could have an adverse effect on our results of operations. We are executing an omni-channel strategy to enable our customers to shop wherever, whenever and however they choose to engage with us. Our omni-channel strategy may not deliver the results we anticipate or may not adequately anticipate changing consumer trends, preferences and expectations. We will continue to develop additional ways to execute our superior omni-channel experience and interact with our customers, which requires significant investments in IT systems and changes in operational strategy, including localization, online and in-store point of sale systems, order management system, and transportation management system. If we fail to effectively integrate our store and ecommerce shopping experiences, effectively scale our IT structure or we do not realize the return on our investments that we anticipate our operating results could be adversely affected. Our competitors are also investing in omni-channel initiatives. If our competitors are able to be more effective in their strategy, it could have an adverse effect on our results of operations. If we our omni-channel strategy fails to meet customer expectations related to functionality, timely delivery, or customer experience, our business and results of operations may be adversely affected. Additionally, to manage the anticipated growth of our operations and personnel, we will need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. If we lose key executives or are unable to attract and retain the talent required for our business, our financial performance could suffer. Our performance depends largely on the efforts and abilities of our key executives. If we lose the services of one or more of our key executives, we may not be able to successfully manage our business or achieve our growth objectives. Furthermore, as our business grows, we will need to attract and retain additional qualified personnel in a timely manner and we may not be able to do so. Failure to meet our staffing needs could adversely affect our ability to implement our growth strategy and could have a material impact on our results of operations. Our success depends in part upon our ability to attract, motivate and retain a sufficient number of qualified employees who understand and appreciate our culture and brand and are able to adequately represent this culture. Qualified individuals of the requisite caliber, skills and number needed to fill these positions may be in short supply in some areas and the employee turnover rate in the retail industry is high. Our business depends on the ability to hire and retain qualified technical and support roles for procurement, distribution, ecommerce and back office functions. Competition for qualified employees in these areas could require us to pay higher wages to attract a sufficient number of suitable employees. 17 If we are unable to hire and retain store managers and store associates capable of consistently providing a high level of customer service, as demonstrated by their enthusiasm for our culture and knowledge of our merchandise, our ability to open new stores may be impaired and the performance of our existing and new stores could be materially adversely affected. We are also dependent upon temporary personnel to adequately staff our operations particularly during busy periods such as the back-to-school and winter holiday seasons. There can be no assurance that we will receive adequate assistance from our temporary personnel, or that there will be sufficient sources of temporary personnel. If we are unable to hire qualified temporary personnel, our results of operations could be adversely impacted. Although none of our employees are currently covered by collective bargaining agreements, we cannot guarantee that our employees will not elect to be represented by labor unions in the future, which could increase our labor costs and could subject us to the risk of work stoppages and strikes. Any such failure to meet our staffing needs, any material increases in employee turnover rates, any increases in labor costs or any work stoppages, interruptions or strikes could have a material adverse effect on our business or results of operations. A decline in cash flows from operations could have a material adverse effect on our business and growth plans. We depend on cash flow from operations to fund our current operations and our growth strategy, including the payment of our operating leases, wages, store operation costs and other cash needs. If our business does not generate sufficient cash flow from operating activities, and sufficient funds are not otherwise available to us from borrowings under our credit facility or from other sources, we may not be able to pay our operating lease expenses, grow our business, respond to competitive challenges or fund our other liquidity and capital needs, which could have a material adverse effect on our business. The terms of our secured credit agreement impose certain restrictions on us that may impair our ability to respond to changing business and economic conditions, which could have a significant adverse impact on our business. Additionally, our business could suffer if our ability to acquire financing is reduced or eliminated. We maintain a secured credit agreement with Wells Fargo Bank, N.A., which provides us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024. The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. The credit facility contains certain financial maintenance covenants that generally require us to have net income after taxes of at least $5.0 million on a trailing four-quarter basis and a quick ratio of 1.25:1.0 at the end of each fiscal quarter. These restrictions could (1) limit our ability to plan for or react to market conditions or meet capital needs or otherwise restrict our activities or business plans; and (2) adversely affect our ability to finance our operations, strategic acquisitions, investments or other capital needs or to engage in other business activities that would be in our interest. The credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. Additionally, we cannot be assured that our borrowing relationship with our lenders will continue or that our lenders will remain able to support their commitments to us in the future. If our lenders fail to do so, then we may not be able to secure alternative financing on commercially reasonable terms, or at all. 18 Our business could suffer with the closure or disruption of our home office or our distribution centers. In the U.S., we rely on a single distribution center located in Corona, California to receive, store and distribute the vast majority of our merchandise to our domestic stores. Internationally, we operate a combined distribution and ecommerce fulfillment center located in Graz, Austria that supports our Blue Tomato ecommerce and store operations in Europe. We operate a distribution center located in Delta, British Columbia, Canada to distribute our merchandise to our Canadian stores. We operate a distribution and ecommerce fulfillment center located in Melbourne, Australia to distribute our merchandise to our Australian stores. Additionally, we are headquartered in Lynnwood, Washington. As a result, unforeseen events, including war, terrorism, other political instability or conflicts, riots, public health issues (including widespread/pandemic illnesses such as coronavirus and other communicable diseases or viruses), a natural disaster or other catastrophic event that affects one of the regions where we operate these centers or our home office could significantly disrupt our operations and have a material adverse effect on our business, results of operations and financial condition. The effects of war, acts of terrorism, threat of terrorism, or other types of mall violence, could adversely affect our business. Most of our stores are located in shopping malls. Any threat of terrorist attacks or actual terrorist events, or other types of mall violence, such as shootings or riots, could lead to lower consumer traffic in shopping malls. In addition, local authorities or mall management could close shopping malls in response to security concerns. Mall closures, as well as lower consumer traffic due to security concerns, could result in decreased sales. Additionally, the threat, escalation or commencement of war or other armed conflict elsewhere, could significantly diminish consumer spending, and result in decreased sales. Decreased sales could have a material adverse effect on our business, financial condition and results of operations. Our inability or failure to protect our intellectual property or our infringement of other’s intellectual property could have a negative impact on our operating results. We believe that our trademarks and domain names are valuable assets that are critical to our success. The unauthorized use or other misappropriation of our trademarks or domain names could diminish the value of the Zumiez, Blue Tomato, or Fast Times brands, our store concepts, our private label brands or our goodwill and cause a decline in our net sales. Although we have secured or are in the process of securing protection for our trademarks and domain names in a number of countries outside of the U.S., there are certain countries where we do not currently have or where we do not currently intend to apply for protection for certain trademarks. Also, the efforts we have taken to protect our trademarks may not be sufficient or effective. Therefore, we may not be able to prevent other persons from using our trademarks or domain names outside of the U.S., which also could adversely affect our business. We are also subject to the risk that we may infringe on the intellectual property rights of third parties. Any infringement or other intellectual property claim made against us, whether or not it has merit, could be time-consuming, result in costly litigation, cause product delays or require us to pay royalties or license fees. As a result, any such claim could have a material adverse effect on our operating results. Our operations expose us to the risk of litigation, which could lead to significant potential liability and costs that could harm our business, financial condition or results of operations. We employ a substantial number of full-time and part-time employees, a majority of whom are employed at our store locations. As a result, we are subject to a large number of federal, state and foreign laws and regulations relating to employment. This creates a risk of potential claims that we have violated laws related to discrimination and harassment, health and safety, wage and hour laws, criminal activity, personal injury and other claims. We are also subject to other types of claims in the ordinary course of our business. Some or all of these claims may give rise to litigation, which could be time-consuming for our management team, costly and harmful to our business. In addition, we are exposed to the risk of class action litigation. The costs of defense and the risk of loss in connection with class action suits are greater than in single-party litigation claims. Due to the costs of defending against such litigation, the size of judgments that may be awarded against us, and the loss of significant management time devoted to such litigation, we cannot provide assurance that such litigation will not disrupt our business or impact our financial results. 19 We are involved, from time to time, in litigation incidental to our business including complaints filed by investors. This litigation could result in substantial costs, and could divert management's attention and resources, which could harm our business. Risks associated with legal liability are often difficult to assess or quantify, and their existence and magnitude can remain unknown for significant periods of time. Failure to comply with federal, state, local or foreign laws and regulations, or changes in these laws and regulations, could have an adverse impact on our results of operations and financial performance. Our business is subject to a wide array of laws and regulations including those related to employment, trade, consumer protection, transportation, occupancy laws, health care, wage laws, employee health and safety, taxes, privacy, health information privacy, identify theft, customs, truth-in-advertising, securities laws, unsolicited commercial communication and environmental issues. Our policies, procedures and internal controls are designed to comply with foreign and domestic laws and regulations, such as those required by the Sarbanes-Oxley Act of 2002 and the U.S. Foreign Corrupt Practices Act. Although we have policies and procedures aimed at ensuring legal and regulatory compliance, our employees or vendors could take actions that violate these laws and regulations. Any violations of such laws or regulations could have an adverse effect on our reputation, results of operations, financial condition and cash flows. Furthermore, changes in the regulations, the imposition of additional regulations, or the enactment of any new legislation, particularly in the U.S. and Europe, could adversely affect our results of operations or financial condition. Fluctuations in our tax obligations and effective tax rate may result in volatility in our operating results. We are subject to income taxes in many domestic and foreign jurisdictions. In addition, our products are subject to import and excise duties and/or sales, consumption or value-added taxes in many jurisdictions. We record tax expense based on our estimates of future payments, which include reserves for estimates of probable settlements of domestic and foreign tax audits. At any one time, many tax years are subject to audit by various taxing jurisdictions. There can be no assurance as to the outcome of these audits which may have an adverse effect to our business. In addition, our effective tax rate may be materially impacted by changes in tax rates and duties, the mix and level of earnings or losses by taxing jurisdictions, or by changes to existing accounting rules or regulations. Changes to foreign or domestic tax laws could have a material impact on our financial condition, results of operations or cash flows. We may fail to meet analyst expectations, which could cause the price of our stock to decline. Our common stock is traded publicly and various securities analysts follow our financial results and issue reports on us. These reports include information about our historical financial results as well as the analysts' estimates of our future performance. The analysts' estimates are based upon their own independent opinions and can be different from our estimates or expectations. If our operating results are below the estimates or expectations of public market analysts and investors, our stock price could decline. The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A share repurchase program may be conducted from time to time under authorization made by our Board of Directors. We do not have a controlling shareholder, nor are we aware of any shareholders that have formed a “group” (defined as when two or more persons agree to act together for the purposes of acquiring, holding, voting or otherwise disposing of the equity securities of an issuer). The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A controlling shareholder would have significant influence over, and may have the ability to control, matters requiring approval by our shareholders, including the election of directors and approval of mergers, consolidations, sales of assets, recapitalizations and amendments to our articles of incorporation. Furthermore, a controlling shareholder may take actions with which other shareholders do not agree, including actions that delay, defer or prevent a change of control of the company and that could cause the price that investors are willing to pay for the company’s stock to decline. 20 Item 1B. UNRESOLV ED STAFF COMMENTS None. Item 2. PROPERTIES All of our stores are occupied under operating leases and encompassed approximately 2.2 million total square feet at January 28, 2023. We own approximately 356,000 square feet of land in Lynnwood, Washington on which we own a 63,071 square foot home office. Additionally, we lease 14,208 square feet of office space in Schladming, Austria for our European home office. We own a 168,450 square foot building in Corona, California that serves as our domestic warehouse and distribution center. We lease 17,168 square feet of a distribution facility in Delta, British Columbia, Canada that supports our store operations in Canada. We lease 112,112 square feet to serve as a distribution and ecommerce fulfillment center and office space in Graz, Austria that supports our Blue Tomato ecommerce and store operations in Europe. We lease a 21,754 square feet building that serves as a distribution and ecommerce fulfillment center and office space in Melbourne, Australia that supports our Fast Times ecommerce and store operations in Australia. Item 3. LEGAL PROCEEDINGS We are involved from time to time in litigation incidental to our business. We believe that the outcome of current litigation is not expected to have a material adverse effect on our results of operations or financial condition. See Note 11, “Commitments and Contingencies,” in the Notes to Consolidated Financial Statements found in Part IV Item 15 of this Form 10-K, for additional information related to legal proceedings. Item 4. MINE SAFETY DISCLOSURES Not applicable. 21 PART II Item 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES Market Information Our common stock is traded on the Nasdaq Global Select Market under the symbol “ZUMZ.” At January 28, 2023, there were 19,488,709 shares of common stock outstanding. Performance Measurement Comparison The following graph shows a comparison for total cumulative returns for Zumiez, the Nasdaq Composite Index and the Nasdaq Retail Trade Index during the period commencing on February 3, 2018 and ending on January 28, 2023. The comparison assumes $100 was invested on February 3, 2018 in each of Zumiez, the Nasdaq Composite Index and the Nasdaq Retail Trade Index, and assumes the reinvestment of all dividends, if any. The comparison in the following graph and table is required by the SEC and is not intended to be a forecast or to be indicative of future Company common stock performance. 2/3/18 2/2/19 2/1/20 1/30/21 1/29/22 1/28/23 Zumiez 100.00 122.34 151.68 209.64 210.46 125.30 NASDAQ Composite 100.00 99.32 126.17 181.79 199.33 163.55 NASDAQ Retail Trade 100.00 106.44 124.08 195.39 185.75 145.31 22 Holders of the Company’s Capital Stock We had approximately 12 shareholders of record as of March 12, 2023. The number of shareholders of record is based upon the actual number of shareholders registered at such date and does not include holders of shares in “street names” or persons, partnerships, associates, corporations or other entities identified in security position listings maintained by depositories such as the Depository Trust Company. Dividends No cash dividends have been declared on our common stock to date nor have any decisions been made to pay a dividend in the foreseeable future. Payment of dividends is evaluated on a periodic basis. Recent Sales of Unregistered Securities None Issuer Purchases of Equity Securities The following table presents information of our common stock made during the thirteen weeks ended January 28, 2023 (in thousands, except average price paid per share): Period Total Number of Shares Purchased Average Price Paid per Share Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (1) Dollar Value of Shares that May Yet be Repurchased Under the Plans or Programs (1) October 30, 2022—November 26, 2022 — $ — — $ — November 27, 2022—December 31, 2022 (2) 426 21.15 — — January 1, 2023—January 28, 2023 — — — — Total 426 — (1) The share repurchase program is conducted under authorizations made from time to time by our Board of Directors. There was no authorized share repurchase program during the thirteen weeks ended January 28, 2023. (2) During the thirteen weeks ended January 28, 2023, 426 shares were purchased by us in order to satisfy employee tax withholding obligations upon the vesting of restricted stock. These shares were not acquired pursuant to any publicly announced purchase plan or program. Item 6. [Reserved] 23 Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS MD&A is provided as a supplement to, and should be read in conjunction with, our consolidated financial statements and related notes included elsewhere in this document. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those discussed in “Item 1A Risk Factors.” See the cautionary note regarding forward-looking statements set forth at the beginning of Part I of the Annual Report on Form 10-K. The following Management’s Discussion and Analysis of Financial Condition and Result of Operations (“MD&A”) is intended to help the reader understand the financial condition, results of operations, and the certainty of cash flows of Zumiez Inc. and its wholly-owned subsidiaries. This discussion focuses on known material events and uncertainties that are reasonably likely to cause reported financial information not to be necessarily indicative of future operating results or of future financial condition. This includes descriptions and amounts of matters that have had a material impact on reported operations, as well as matters that are reasonably likely, based on our assessment, to have a material impact on future operations. Fiscal 2022—A Review of This Past Year After a record year of sales and earnings in fiscal 2021 fueled by domestic government stimulus yielding 19.5% growth in net sales and 61.6% growth in diluted earnings per share, fiscal 2022 was much more challenging. During the front half of fiscal 2022 we were facing difficult year-over-year sales comparisons from the record US government stimulus in early fiscal 2021. In addition, there was significant inflationary pressure on discretionary spending in our customer base and more competition for discretionary dollars from categories such as travel and entertainment. This resulted in a 19% decrease in net sales for the full year fiscal 2022. The lower sales level combined with inflation in our cost structure resulted in a decrease in earnings per diluted share of 77.7%. After six straight years of product margin gains, fiscal 2022 Product margin decreased 50 basis points from the prior year driven primarily by the difficult sales environment during the back-to-school and holiday peaks necessitating discounting to maintain a healthy inventory position at year end. Regardless of this decrease, fiscal 2022 product margin is at the second highest level in our history and we believe current levels represent structural gains rather than short-term, pandemic related improvements. In a more normalized sales environment, we anticipate that we can recover what was lost in fiscal 2022 and continue to grow product margins through existing initiatives in the business over time. Total gross margin decreased by 470 basis points in fiscal 2022. Beyond the product margin impact discussed above, the 19.0% decrease in net sales created deleverage of significant fixed costs included in gross margin such as occupancy, distribution center, and merchandising expenses. While we were able to reduce total selling, general and administrative expenses in 2022, these costs deleveraged due to the sales decline. Our earnings per diluted share of $1.08 in fiscal 2022 was down from an all-time high in fiscal 2021 of $4.85. We added 32 new stores in fiscal 2022 including 16 in North America, 12 new Blue Tomato stores in Europe and 4 new Fast Times store in Australia. We believe that we still have meaningful expansion opportunities internationally in both existing and new markets. As a leading global lifestyle retailer, we continue to differentiate ourselves through our distinctive brand offering and diverse product selection, as well as the unique customer experience across all of our platforms. We remain committed to serving the customer through introducing newness in our product offering launching over 100 new brands in 2022. We made investments over several years to integrate the digital and physical channels creating a seamless shopping experience for our customer. We are continuing to deliver our online orders in North America from our stores, which has provided substantial improvements in the speed of delivery to our customers, eliminated the need to manage two pools of inventory separately for digital and physical demand, and created one cost structure for execution of both physical and digital sales. Internationally we continue to see deeper penetration of localized fulfillment and are in various stages of roll-out in different countries. In-store fulfillment is a key part of strategy that we believe will drive long term market share by leveraging the strengths of our store sales team, providing better and faster service to customers, improving product margins, maximizing the productivity of inventory, providing additional selling opportunities, and utilizing one cost structure to serve the customer. 24 The following table shows net sales, operating profit, operating margin and diluted earnings per share for fiscal 202 2 compared to fiscal 20 2 1 : Fiscal 2022 Fiscal 2021 % Change Net sales (in thousands) (1) $ 958,380 $ 1,183,867 -19.0 % Operating profit (in thousands) $ 31,100 $ 157,810 -80.3 % Operating margin 3.2 % 13.3 % Diluted earnings per share $ 1.08 $ 4.85 -77.7 % (1) The decrease in net sales was primarily driven by continued inflationary pressures on the consumer and the benefits from domestic stimulus in the prior year when consumers were less likely to spend on travel and in-person entertainment due to COVID-19. The decrease in net sales was driven by a decrease in transactions and a decrease in dollars per transaction. The decrease in dollars per transaction was driven by a decrease in units per transaction, partially offset by an increase in average unit retail. For the year, the men’s category was our largest declining category followed by hardgoods, accessories, women’s and footwear. Fiscal 2023—A Look At the Upcoming Year In fiscal 2023, our focus remains on serving the customer with strategic investments largely tied to enhancing the customer experience while increasing market share and creating operational efficiencies to drive long-term operating margin back to historical levels. Though 2022 was a highly challenging year, the balance sheet remains strong with $173.5 million in cash and marketable securities at the end of fiscal 2022 and a current asset level that is much larger than current liabilities. This gives us the security to manage through potential difficulties while also investing in important strategic initiatives to drive shareholder value over the long-term. Exiting a difficult year for sales and earnings in fiscal 2022, the macro-economic environment in 2023 remains unclear. Inflation remains high compared to historical levels and this continues to weigh on the discretionary income of our customer base. Economic indicators show that our customers savings levels are decreasing and credit card levels are increasing. While current conditions appear difficult for consumers, we remain focused on our long-term initiatives that will help us capitalize on opportunities as these circumstances improve. These include concepts like; continued globalization of the brand to enhance our ability to reach consumers in each geography that we operate, an intense focus with our brand partners to bring forth relevant product with the speed expected by our customers, aggressively managing inventory levels, continuing to rethink how the customer interacts with the brand, and actively managing how we optimize the trade areas in which we serve our customers. General Net sales constitute gross sales, net of actual and estimated returns and deductions for promotions, and shipping revenue. Net sales include our store sales and our ecommerce sales. We record the sale of gift cards as a current liability and recognize revenue when a customer redeems a gift card. Additionally, the portion of gift cards that will not be redeemed (“gift card breakage”) is recognized based on our historical redemption rate in proportion to the pattern of rights exercised by the customer. 25 We report “comparable sales” based on net sales beginning on the first anniversary of the first day of operation of a new store or ecommerce business. We operate a sales strategy that integrates our stores with our ecommerce platform. There is significant interaction between our store sales and our ecommerce sales channels and we believe that they are utilized in tandem to serve our customers. Therefore, our comparable sales also include our ecommerce sales. Changes in our comparable sales between two periods are based on net sales of store or ecommerce business which were in operation during both of the two periods being compared and, if a store or ecommerce business is included in the calculation of comparable sales for only a portion of one of the two periods being compared, then that store or ecommerce business is included in the calculation for only the comparable portion of the other period. Any increase or decrease less than 25% in square footage of an existing comparable store, including remodels and relocations within the same mall, or temporary closures less than seven days does not eliminate that store from inclusion in the calculation of comparable sales. Any store or ecommerce business that we acquire will be included in the calculation of comparable sales after the first anniversary of the acquisition date. Current year foreign exchange rates are applied to both current year and prior year comparable sales to achieve a consistent basis for comparison. Stores closed due the impacts of COVID-19 ar e excluded from our comparable sales calculation if they were closed for longer than se ven days. O ur ecommerce business has remained open during the COVID-19 pandemic and therefore remains reported in our comparable sales calculation. There may be variations in the way in which some of our competitors and other apparel retailers calculate comparable sales. As a result, data herein regarding our comparable sales may not be comparable to similar data made available by our competitors or other retailers. Cost of goods sold consists of branded merchandise costs and our private label merchandise costs including design, sourcing, importing and inbound freight costs. Our cost of goods sold also includes shrinkage, buying, occupancy, ecommerce fulfillment, distribution and warehousing costs (including associated depreciation) and freight costs for store merchandise transfers. This may not be comparable to the way in which our competitors or other retailers compute their cost of goods sold. Cash consideration received from vendors is reported as a reduction of cost of goods sold if the inventory has sold, a reduction of the carrying value of the inventory if the inventory is still on hand, or a reduction of selling, general and administrative expense if the amounts are reimbursements of specific, incremental and identifiable costs of selling the vendors’ products. With respect to the freight component of our ecommerce sales, amounts billed to our customers are included in net sales and the related freight cost is charged to cost of goods sold. Selling, general and administrative expenses consist primarily of store personnel wages and benefits, administrative staff and infrastructure expenses, freight costs for merchandise shipments from the distribution centers to the stores, store supplies, depreciation on fixed assets at our home office and stores, facility expenses, training expenses and advertising and marketing costs. Credit card fees, insurance, public company expenses, legal expenses, amortization of intangibles, and other miscellaneous operating costs are also included in selling, general and administrative expenses. This may not be comparable to the way in which our competitors or other retailers compute their selling, general and administrative expenses. Key Performance Indicators Our management evaluates the following items, which we consider key performance indicators, in assessing our performan Net sales. Net sales constitute gross sales, net of sales returns and deductions for promotions, and shipping revenue. Net sales includes comparable sales and new store sales for all our store and ecommerce businesses. We consider net sales to be an important indicator of our current performance. Net sales results are important to achieve leveraging of our costs, including store payroll and store occupancy. Net sales also have a direct impact on our operating profit, cash and working capital. Gross profit. Gross profit measures whether we are optimizing the price and inventory levels of our merchandise. Gross profit is the difference between net sales and cost of goods sold. Any inability to obtain acceptable levels of initial markups or any significant increase in our use of markdowns could have an adverse effect on our gross profit and results of operations. 26 Operating profit. We view operating profit as a key indicator of our success. Operating profit is the difference between gross profit and selling, general and administrative expenses. The key drivers of operating profit are net sales, gross profit, our ability to control selling, general and administrative expenses and our level of capital expenditures affecting depreciation expense. Diluted earnings per share. Diluted earnings per share is based on the weighted average number of common shares and common share equivalents outstanding during the period. We view diluted earnings per share as a key indicator of our success in increasing shareholder value. Trends and Uncertainties Affecting Our Results and Comparability We have been, and we expect to continue to be affected by a number of factors that may cause actual results to differ from our historical results or current expectations. These factors include the impact of the COVID-19 pandemic on our operations and financial results; foreign currency rates; changes in laws, including U.S. tax law changes; fluctuations in variable costs, and changes in general economic conditions in the markets in which we operate. Additionally, we have experienced increased costs during 2021 and 2022 that are expected to continue into 2023. Our ability to raise our selling prices depends on market conditions and there may be periods during which we are unable to fully recover increases in our costs or experience an adverse impact on demand due to pricing actions. We believe higher consumer price inflation has resulted in reduced consumer confidence and consumer spending which negatively impacted our sales during fiscal 2022. These and other factors can affect our operations and net earnings for any period and may cause such results not to be comparable to the same period in previous years and the results presented in this report are not necessarily indicative of future operating results. Results of Operations In December 2019, a novel strain of coronavirus (COVID-19) was first identified, and in 2020, the World Health Organization categorized COVID-19 as a pandemic. In the best interest of our customers and employees and in line with governmental regulations, all stores were closed by March 19, 2020. We began gradually re-opening physical stores at the end of the first fiscal quarter and into the second fiscal quarter, with the majority of our stores open through the third and fourth quarter. In certain regions, COVID-19 related short-term closures continued into fiscal 2021, primarily in Europe, Canada, and Australia. Due to the COVID-19 pandemic, our stores were open, on an aggregate basis, approximatel y 100%, 97% and 78% of the possible days during fiscal 2022, fiscal 2021, and fiscal 2020, respectively. The following table presents selected items on the consolidated statements of income as a percent of net sal Fiscal 2022 Fiscal 2021 Fiscal 2020 Net sales 100.0 % 100.0 % 100.0 % Cost of goods sold 66.1 % 61.4 % 64.7 % Gross profit 33.9 % 38.6 % 35.3 % Selling, general and administrative expenses 30.7 % 25.3 % 25.5 % Operating profit 3.2 % 13.3 % 9.8 % Interest and other income, net 0.2 % 0.3 % 0.5 % Earnings before income taxes 3.4 % 13.6 % 10.3 % Provision for income taxes 1.2 % 3.5 % 2.6 % Net income 2.2 % 10.1 % 7.7 % 27 Fiscal 2022 Results Compared With Fiscal 2021 Net Sales Net sales were $958.4 million for fiscal 2022 compared to $1,183.9 million for fiscal 2021, a decrease of $225.5 million or 19.0%. The decrease in sales was primarily driven by continued inflationary pressures on the consumer, foreign exchange rate fluctuation, and the benefits from domestic stimulus in the prior year when consumers were less likely to spend on travel and in-person entertainment due to COVID-19. The decrease in net sales was driven by a decrease in transactions and a decrease in dollars per transaction. The decrease in dollars per transaction was driven by a decrease in units per transaction, partially offset by an increase in average unit retail. For the year, the men’s category was our largest declining category followed by hardgoods, accessories, women’s, and footwear. By region, North America sales decreased $228.3 million or 22.2% and other international sales increased $2.8 million or 1.8% during fiscal 2022 compared to fiscal 2021. Net sales for the year ended January 28, 2023 included a $17.7 million decrease due to the change in foreign exchange rates, which consisted of $13.7 million in Europe, $2.2 million in Canada, and $1.8 million in Australia. Excluding the impact of changes in foreign exchange rates, North America sales decreased $226.1 million or 21.9% and other international sales increased $18.4 million or 12.0% during fiscal 2022 compared to fiscal 2021. Gross Profit Gross profit was $324.7 million for fiscal 2022 compared to $456.7 million for fiscal 2021, a decrease of $132.1 million, or 28.9%. As a percentage of net sales, gross profit decreased 470 basis points in fiscal 2022 to 33.9%, as we saw significant deleverage on lower sales across our fixed costs as well as rate increases in numerous areas. The decrease was primarily driven by a 240 basis point deleverage in store occupancy costs, a 90 basis point increase in web shipping costs, a 70 basis point deleverage in distribution center costs, a 50 basis point decrease in product margin, a 40 basis point deleverage in buying and private label costs, and a 30 basis point increase in inventory shrinkage. These increases were partially offset by a 30 basis point decrease in annual incentive compensation. Selling, General and Administrative Expenses Selling, general and administrative (“SG&A”) expenses were $293.6 million for fiscal 2022 compared to $298.9 million for fiscal 2021, a decrease of $5.3 million, or 1.8%. SG&A expenses as a percent of net sales increased 540 basis points in fiscal 2022 to 30.7%. The increase was primarily driven by 260 basis points due to store wages tied to both deleverage on lower sales as well as rate increase that we could not offset by management of hours, 140 basis points due to store costs not tied to wages primarily impacted by deleverage on lower sales, 100 basis points in non-store wages, 70 basis points in corporate costs and 70 basis points in our training events as we got back to our normal cadence. These increases were partially offset by a 70 basis point decrease in annual incentive compensation and a 30 basis points decrease due to an increase in government subsidies related to a one-time German government subsidy received in the first quarter of fiscal 2022. Net Income Net income for fiscal 2022 was $21.0 million, or $1.08 per diluted share, compared with net income of $119.3 million, or $4.85 per diluted share, for fiscal 2021. Our effective income tax rate for fiscal 2022 was 35.2% compared to 25.7% for fiscal 2021. The increase in effective income tax rate for fiscal 2022 compared to fiscal 2021 was primarily related to an increase in foreign losses in certain jurisdictions, which are subject to a valuation allowance. Due to cumulative and ongoing foreign losses in such jurisdictions, the realization of such deferred tax assets is uncertain and thus subject to a valuation allowance. The increase in the valuation allowance in fiscal 2022 resulted in $3.0 million of income tax expense or 9.3% when compared to fiscal 2021 of $2.2 million or 1.4%. 28 Fiscal 20 2 1 Results Compared With Fiscal 20 20 Net Sales Net sales were $1,183.9 million for fiscal 2021 compared to $990.7 million for fiscal 2020, an increase of $193.2 million or 19.5%. The increase in sales was primarily driven by the re-opening of stores compared to the wide spread short-term store closures related to the COVID-19 pandemic in the prior year, our ability to capitalize on current trends and the impact of domestic economic stimulus on the business during the year. For the year, our stores were open approximately 97.0% of the possible days compared to 78.4% of the possible days during fiscal 2020. The increase in net sales was driven by an increase in transactions and an increase in dollars per transaction. Dollars per transaction increased due to an increase in average unit retail partially offset by a decrease in units per transaction. For the year, the men’s category was our largest growth category followed by accessories, footwear, and women’s. Our only negative category for the year was hardgoods. By region, North America sales increased $165.1 million or 19.1% and other international sales increased $28.1 million or 22.5% during fiscal 2021 compared to fiscal 2020. Net sales for the year ended January 29, 2022 included a $4.2 million increase due to the change in foreign exchange rates, which consisted of $3.0 million in Canada, $1.0 million in Australia, and $0.3 million in Europe. Excluding the impact of changes in foreign exchange rates, North America sales increased $162.2 million or 18.7% and other international sales increased $26.8 million or 21.4% during fiscal 2021 compared to fiscal 2020. Gross Profit Gross profit was $456.7 million for fiscal 2021 compared to $350.0 million for fiscal 2020, an increase of $106.7 million, or 30.5%. As a percentage of net sales, gross profit increased 330 basis points in fiscal 2021 to 38.6%, as we leverage meaningfully across the fixed cost structures compared to the period of COVID-19 related closures in the prior year. The increase was primarily driven by a 140 basis point leverage in our store occupancy costs when compared to the prior year, which included the continuation of rent charges without associated sales during COVID-19 related closures in fiscal 2020. In addition, there was a 110 basis point increase in product margin and a 100 basis point decrease in web fulfillment and web shipping costs due to leverage of distribution fixed costs and decreased total web sales activity compared to the prior year which increased as a result of COVID-19 related short-term closures. Selling, General and Administrative Expenses Selling, general and administrative (“SG&A”) expenses were $298.9 million for fiscal 2021 compared to $253.1 million for fiscal 2020, an increase of $45.8 million, or 18.1%. SG&A expenses as a percent of net sales decreased 20 basis points in fiscal 2021 to 25.3% as we leveraged meaningfully across our fixed costs compared to the period of COVID-19 related closures in the prior year. The decrease was primarily driven by 90 basis points of leverage in non-wage store operating costs partially offset by a 50 basis point unfavorable impact related to fewer government subsidies received in fiscal 2021. Net Income Net income for fiscal 2021 was $119.3 million, or $4.85 per diluted share, compared with net income of $76.2 million, or $3.00 per diluted share, for fiscal 2020. Our effective income tax rate for fiscal 2021 was 25.7% compared to 25.6% for fiscal 2020. Liquidity and Capital Resources Our cash requirements are subject to change as business conditions warrant and opportunities arise. Our primary uses of cash are for operational expenditures, inventory purchases, common stock repurchases and capital investments, including new stores, store remodels, store relocations, store fixtures and ongoing infrastructure improvements. Historically, our main source of liquidity has been cash flows from operations. 29 The significant components of our working capital are inventories and liquid assets such as cash, cash equivalents, current marketable securities and receivables, reduced by accounts payable and accrued expenses. Our working capital position benefits from the fact that we generally collect cash from sales to customers the same day or within several days of the related sale, while we typically have longer payment terms with our vendors. At January 28, 2023 and January 29, 2022, cash, cash equivalents and current marketable securities were $173.5 million and $294.5 million. Working capital, the excess of current assets over current liabilities, was $194.4 million at the end of fiscal 2022, a decrease of 26.2% from $263.2 million at the end of fiscal 2021. The decrease in cash, cash equivalents and current marketable securities in fiscal 2022 was due to repurchases of common stock of $87.9 million and $25.6 million of capital expenditures primarily related to the opening of 32 new stores and 2 remodels and relocations. The following table summarizes our cash flows from operating, investing and financing activities (in thousands): Fiscal 2022 Fiscal 2021 Fiscal 2020 Total cash (used in) provided by Operating activities $ (379 ) $ 134,950 $ 138,412 Investing activities 54,209 101,643 (110,541 ) Financing activities (87,257 ) (191,409 ) (9,694 ) Effect of exchange rate changes on cash and cash equivalents (2,172 ) (1,822 ) 3,522 Net (decrease) increase in cash, cash equivalents, and restricted cash $ (35,599 ) $ 43,362 $ 21,699 Operating Activities Net cash provided by operating activities decreased by $135.3 million in fiscal 2022 to $0.4 million cash used in operating activities from $135.0 million cash provided by operating activities in fiscal 2021. Net cash provided by operating activities decreased by $3.5 million in fiscal 2021 to $135.0 million from $138.4 million in fiscal 2020. Our operating cash flows result primarily from cash received from our customers, offset by cash payments we make for inventory, employee compensation, store occupancy expenses and other operational expenditures. Cash received from our customers generally corresponds to our net sales. Because our customers primarily use credit cards or cash to buy from us, our receivables from customers settle quickly. Changes to our operating cash flows have historically been driven primarily by changes in operating income, which is impacted by changes to non-cash items such as depreciation, amortization and accretion, deferred taxes, and changes to the components of working capital. Investing Activities Net cash provided by investing activities was $54.2 million in fiscal 2022 related to $79.8 million in net sales of marketable securities and $25.6 million of capital expenditures primarily for new store openings and existing store remodels or relocations. Net cash provided by investing activities was $101.6 million in fiscal 2021 related to $117.4 million in net sales of marketable securities and $15.7 million of capital expenditures primarily for new store openings and existing store remodels or relocations. Net cash used in investing activities was $110.5 million in fiscal 2020 related to $101.4 million in net purchases of marketable securities and $9.1 million of capital expenditures primarily for new store openings and existing store remodels or relocations. 30 Financing Activities Net cash used in financing activities in fiscal 2022 was $87.3 million related to $87.9 million used in the repurchase of common stock and $0.5 million in payments for tax withholding obligations upon vesting of restricted stock partially offset by $1.1 million in proceeds from the issuance and exercise of stock-based awards. Net cash used in financing activities in fiscal 2021 was $191.4 million related to $193.8 million used in the repurchase of common stock and $0.6 million in payments on tax withholding obligation upon vesting of restricted stock partially offset by $3.0 million in proceeds from the issuance and exercise of stock-based awards . Net cash used in financing activities in fiscal 2020 was $9.7 million related to $13.4 million used in the repurchase of common stock and $0.2 million in payments on tax withholding obligation upon vesting of restricted stock partially offset by $3.9 million in proceeds from the issuance and exercise of stock-based awards . Capital Expenditures Our capital requirements include construction and fixture costs related to the opening of new stores and remodel and relocation expenditures for existing stores. Future capital requirements will depend on many factors, including the pace of new store openings, the availability of suitable locations for new stores and the nature of arrangements negotiated with landlords. In that regard, our net investment to open a new store has varied significantly in the past due to a number of factors, including the geographic location and size of the new store, and is likely to vary significantly in the future. During fiscal 2022, we spent $25.6 million on capital expenditures which consisted of $13.8 million of costs related to investment in 32 new stores and 2 remodeled or relocated stores, $6.6 million associated with improvements to our websites and $5.2 million in other improvements. During fiscal 2021, we spent $15.7 million on capital expenditures which consisted of $11.5 million of costs related to investment in 23 new stores and 3 remodeled or relocated stores, $1.1 million associated with improvements to our websites and $3.1 million in other improvements. During fiscal 2020, we spent $9.1 million on capital expenditures, which consisted of $6.6 million of costs related to investment in 12 new stores and 3 remodeled or relocated stores, $2.1 million associated with improvements to our websites and $0.4 million in other improvements. In fiscal 2023, we expect to spend approximately $21 million to $23 million on capital expenditures, a majority of which will relate to leasehold improvements and fixtures for the approximately 23 new stores we plan to open in fiscal 2023 and remodels or relocations of existing stores. There can be no assurance that the number of stores that we actually open in fiscal 2023 will not be different from the number of stores we plan to open, or that actual fiscal 2023 capital expenditures will not differ from this expected amount. Other Material Cash Requirements Our material cash requirements include the following contractual and other obligatio (1) purchase obligations (for additional information, see Note 11 to the Consolidated Financial Statements); (2) supply and service arrangements entered in the normal course of business; (3) operating lease payments (for additional information, see Note 10 to the Consolidated Financial Statements); and (4) employee wages, benefits, and incentives; (5) commitments for capital expenditures; and (6) tax payables. Moreover, we may be subject to additional material cash requirements that are contingent upon the occurrence of certain events, e.g., legal contingencies, uncertain tax positions, and other matters. At January 28, 2023, we did not have any “off-balance sheet arrangements,” as defined in relevant SEC regulations that are reasonably likely to have a current or future effect on our financial condition, results of operations, liquidity, capital expenditures or capital resources. 31 Sources of Liquidity Our most significant sources of liquidity continue to be funds generated by operating activities and available cash, cash equivalents and current marketable securities. We expect these sources of liquidity and available borrowings under our revolving credit facility will be sufficient to meet our foreseeable cash requirements for operations and planned capital expenditures for at least the next twelve months. Beyond this time frame, if cash flows from operations are not sufficient to meet our capital requirements, then we will be required to obtain additional equity or debt financing in the future. However, there can be no assurance that equity or debt financing will be available to us when we need it or, if available, that the terms will be satisfactory to us and not dilutive to our then-current shareholders. As of January 28, 2023, we maintained a secured credit agreement with Wells Fargo Bank, N.A., which provided us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024. The credit facility is available for working capital and other general corporate purposes. The credit facility provides for the issuance of standby letters of credit in an amount not to exceed $17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $10.0 million and with terms not to exceed 120 days. The credit facility will mature on December 1, 2024. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1.35% per annum. There were no borrowings or open commercial letters of credit outstanding under the secured credit facility at January 28, 2023. We had $0.6 million in issued, but undrawn, standby letters of credit at January 28, 2023. Additionally, on October 12, 2020, we entered into a credit facility with UBS Switzerland AG of up to 15.0 million Euro. The credit facility bore interest at 1.25%. This credit facility was closed on December 30, 2022. Critical Accounting Estimates Our consolidated financial statements are prepared in accordance with U.S. GAAP. In connection with the preparation of our consolidated financial statements, we are required to make assumptions and estimates about future events, and apply judgments that affect the reported amounts of assets, liabilities, revenue, expenses and the related disclosures. We base our assumptions, estimates and judgments on historical experience, current trends and other factors that we believe to be relevant at the time our consolidated financial statements are prepared. On a regular basis, we review the accounting policies, assumptions, estimates and judgments to ensure that our consolidated financial statements are presented fairly and in accordance with U.S. GAAP. However, because future events and their effects cannot be determined with certainty, actual results could differ from our assumptions and estimates, and such differences could be material. Our significant accounting policies are discussed in Note 2, “Summary of Significant Accounting Policies,” in the Notes to Consolidated Financial Statements found in Part IV Item 15 of this Form 10-K. We believe that the following accounting estimates involve a significant level of estimation uncertainty and have had or are reasonably likely to have a material impact on our consolidated financial statements. 32 Description Judgments and Uncertainties Effect If Actual Results Differ From Assumptions Valuation of Merchandise Inventories We value our inventory at the lower of average cost or net realizable value through the establishment of write-down and inventory loss reserves. Our write-down reserve represents the excess of the carrying value over the amount we expect to realize from the ultimate sales or other disposal of the inventory. Write-downs establish a new cost basis for our inventory. Subsequent changes in facts or circumstances do not result in the restoration of previously recorded write-downs or an increase in that newly established cost basis. Our inventory loss reserve represents anticipated physical inventory losses (“shrinkage reserve”) that have occurred since the last physical inventory. Our write-down reserve contains uncertainties because the calculation requires management to make assumptions based on the current rate of sales, the age and profitability of inventory and other factors. Our shrinkage reserve contains uncertainties because the calculation requires management to make assumptions and to apply judgment regarding a number of factors, including historical percentages that can be affected by changes in merchandise mix and changes in actual shrinkage trends. We have not made any material changes in the accounting methodology used to calculate our write-down and shrinkage reserves in the past three fiscal years. We do not believe there is a reasonable likelihood that there will be a material change in the future estimates we use to calculate our inventory reserves. However, if actual results are not consistent with our estimates, we may be exposed to losses or gains that could be material. Our inventory reserves have decreased by $0.8 million in fiscal 2022. A 10% decrease in the sales price of our inventory at January 28, 2023 would have decreased net income by $0.6 million in fiscal 2022. A 10% increase in actual physical inventory shrinkage rate at January 28, 2023 would have decreased net income by less than $0.1 million in fiscal 2022. Valuation of Long-Lived Assets We review the carrying value of our long-lived assets, including fixed assets and operating lease right-of-use assets, for impairment whenever events or changes in circumstances indicate that the carrying value of such asset or asset group may not be recoverable. Recoverability of assets to be held and used is determined by a comparison of the carrying amount of an asset to future undiscounted net cash flows expected to be generated by the asset. If such assets are considered impaired, the impairment recognized is measured by comparing the fair value of the asset to the asset carrying value. The fair value of the asset is based on the future discounted cash flow of current market rents that we could receive as sublease income. Events that may result in an impairment include the decision to close a store or facility or a significant decrease in the operating performance of a long-lived asset group. Our impairment calculations contain uncertainties because they require management to make assumptions and to apply judgment to estimate future cash flows and asset fair values, including forecasting future sales, gross profit, operating expenses, or sub-lease income. In addition to historical results, current trends and initiatives, and long-term macro-economic and industry factors are qualitatively considered. Additionally, management seeks input from store operations related to local economic conditions, including the impact of closures of selected co-tenants who occupy the mall. We do not believe there is a reasonable likelihood that there will be a material change in the estimates or assumptions we use to calculate long-lived asset impairment losses. However, if actual results are not consistent with our estimates and assumptions, our operating results could be adversely affected. Declines in projected cash flow of the assets could result in impairment. We recognized impairment losses of $2.1 million related to long-lived assets in fiscal 2022. A 10 basis point decrease in forecasted sales assumptions would have resulted in an additional impairment charge of $0.1 million in fiscal 2022. 33 Description Judgments and Uncertainties Effect If Actual Results Differ From Assumptions Right-of-use Assets and Lease Liabilities We determine if a contract contains a lease at inception. Our operating leases primarily consist of retail store locations, distribution centers and corporate office space. We do not have any material leases, individually or in the aggregate, classified as a finance leasing arrangement. Operating lease right-of-use assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease term, net of lease incentives received and initial direct costs paid. Our retail store leases are generally for an initial period of 5-10 years, with some of our international leases structured to include renewal options at our election. We include renewal options that we are reasonably certain to exercise in the measurement our lease liabilities and right-of-use assets. Significant judgment is required in determining our incremental borrowing rate and the expected lease term, both of which impact the determination of lease classification and the present value of lease payments. Generally, our lease contracts do not provide a readily determinable implicit rate and, therefore, we use an estimated incremental borrowing rate as of the lease commencement date in determining the present value of lease payments. The estimated incremental borrowing rate reflects considerations such as market rates for our outstanding collateralized debt and interpolations of rates for leases with terms that differ from our outstanding debt. Our lease terms include option periods to extend or terminate the lease when it is reasonably certain that those options will be exercised, which is generally through an initial period of 5-10 years. We do not believe there is a reasonable likelihood that there will be a material change in the estimates or assumptions we use to calculate right-of-use assets and lease liabilities. Given the significant operating lease assets and liabilities recorded, changes in the estimates made by management or the underlying assumptions could have a material impact on our consolidated financial statements. Total undiscounted future payments for lease liabilities were $272.8 million at January 28, 2023. If the incremental borrowing rate increased 10 basis points from the rate in effect at January 28, 2023, the lease liability balance would decrease by $0.3 million. Revenue Recognition Revenue is recognized upon purchase at our retail store locations. For our ecommerce sales, revenue is recognized upon shipment to the customer. Revenue is recorded net of sales returns and deductions for promotions. Revenue is not recorded on the sale of gift cards. We record the sale of gift cards as a current liability and recognize revenue when a customer redeems a gift card. Additionally, the portion of gift cards that will not be redeemed (“gift card breakage”) is recognized in proportion of the patterns used by the customer based on our historical redemption patterns. Our revenue recognition accounting methodology contains uncertainties because it requires management to make assumptions regarding future sales returns and the amount and timing of gift cards projected to be redeemed by gift card recipients. Our estimate of the amount and timing of sales returns and gift cards to be redeemed is based primarily on historical experience. We have not made any material changes in the accounting methodology used to measure future sales returns or gift card breakage in the past three fiscal years. We do not believe there is a reasonable likelihood that there will be a material change in the future estimates or assumptions we use to recognize revenue. However, if actual results are not consistent with our estimates or assumptions, we may be exposed to losses or gains that could be material . Our sales return reserve has decreased by $0.4 million in fiscal 2022. A 10% increase in our sales return reserve at January 28, 2023 would have decreased net income by $0.3 million in fiscal 2022. Our gift card breakage reserve has increased by $1.8 million in fiscal 2022. A 1% increase in the estimated gift card redemption rate would have decreased net income by $0.1 million in fiscal 2022. 34 Description Judgments and Uncertainties Effect If Actual Results Differ From Assumptions Accounting for Income Taxes As part of the process of preparing the consolidated financial statements, income taxes are estimated for each of the jurisdictions in which we operate. This process involves estimating actual current tax exposure together with assessing temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included on the consolidated balance sheets. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. We regularly evaluate the likelihood of realizing the benefit for income tax positions we have taken in various federal, state and foreign filings by considering all relevant facts, circumstances and information available to us. If we believe it is more likely than not that our position will be sustained, we recognize a benefit at the largest amount that we believe is cumulatively greater than 50% likely to be realized. Significant judgment is required in evaluating our tax positions and determining our provision for income taxes. During the ordinary course of business, there are many transactions and calculations for which the ultimate tax determination is uncertain. For example, our effective tax rates could be adversely affected by earnings being lower than anticipated in jurisdictions where we have lower statutory rates and higher than anticipated in jurisdictions where we have higher statutory rates. The assessment of whether we will realize the value of our deferred tax assets requires estimates and judgments related to amount and timing of future taxable income. Actual results may differ from those estimates. Additionally, changes in the relevant tax, accounting and other laws, regulations, principles and interpretations may adversely affect financial results. Although management believes that the income tax related judgments and estimates are reasonable, actual results could differ and we may be exposed to losses or gains that could be material. At January 28, 2023 and January 29, 2022, we had valuation allowances on our deferred tax assets of $12.8 million and $10.0 million, respectively. Significant changes in performance or estimated taxable income may result in a change in our assessment of the valuation allowance. Upon income tax audit, any unfavorable tax settlement generally would require use of our cash and may result in an increase in our effective income tax rate in the period of resolution. A favorable tax settlement may be recognized as a reduction in our effective income tax rate in the period of resolution. Accounting for Contingencies We are subject to various claims and contingencies related to lawsuits, insurance, regulatory and other matters arising out of the normal course of business. We accrue a liability if the likelihood of an adverse outcome is probable and the amount is estimable. If the likelihood of an adverse outcome is only reasonably possible (as opposed to probable), or if an estimate is not determinable, we provide disclosure of a material claim or contingency. Significant judgment is required in evaluating our claims and contingencies, including determining the probability that a liability has been incurred and whether such liability is reasonably estimable. The estimated accruals for claims and contingencies are made based on the best information available, which can be highly subjective. Although management believes that the contingency related judgments and estimates are reasonable, our accrual for claims and contingencies could fluctuate as additional information becomes known, thereby creating variability in our results of operations from period to period. Additionally, actual results could differ and we may be exposed to losses or gains that could be material. See Note 11, “Commitments and Contingencies,” in the Notes to the consolidated financial statements found in Part IV Item 15 of this Form 10-K. 35 Description Judgments and Uncertainties Effect If Actual Results Differ From Assumptions Goodwill and Indefinite-lived Intangible Assets We assess goodwill and indefinite-lived intangible assets for impairment on an annual basis or more frequently if indicators of impairment arise. We perform this analysis at the reporting unit level. We have an option to first perform a qualitative assessment to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If we choose not to perform the qualitative test or we determine that it is more likely than not that the fair value of the reporting unit is less than the carrying amount, we compare the carrying value of the reporting unit to its estimated fair value, which is based on the perspective of a market-participant. If the fair value of the reporting unit is lower than the carrying value, an impairment loss is recorded for the amount in which the carrying value exceeds the estimated fair value. The goodwill and indefinite-lived intangible assets impairment tests require management to make assumptions and judgments. Our quantitative goodwill analysis of fair value is determined using a combination of the income and market approaches. Key assumptions in the income approach include estimating future cash flows, long-term growth rates and weighted average cost of capital. Our ability to realize the future cash flows used in our fair value calculations is affected by factors such as changes in economic conditions, operating performance and our business strategies. Key assumptions in the market approach include identifying companies and transactions with comparable business factors, such as earnings growth, profitability, business and financial risk. The fair value of the trade names and trademarks is determined using the relief from royalty method, which requires assumptions including forecasting future sales, discount rates and royalty rates. Based on the results of our annual impairment test for goodwill and indefinite-lived intangible assets, no impairment was recorded. All reporting units had a fair value in excess of the carrying value. If actual results are not consistent with our estimates or assumptions, or there are significant changes in any of these estimates, projections and assumptions, could have a material effect of the fair value of these assets in future measurement periods and result in an impairment, which could materially affect our results of operations. A goodwill impairment analysis was performed for each of our reporting units as of November 1, 2022. Based on this analysis the implied fair value of each of our reporting units was in excess of its carrying value. A 10% decrease in the estimated fair value of the Blue Tomato reporting unit based on a future cash flow valuation model, would not have resulted in a different conclusion. Recent Accounting Pronouncements See Note 2, “Summary of Significant Accounting Policies,” in the Notes to Consolidated Financial Statements found in Part IV Item 15 of this Form 10-K. 36 Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Interest Rate Risk Our earnings are affected by changes in market interest rates as a result of our short-term and long-term marketable securities, which are primarily invested in state and local municipal securities and variable-rate demand notes, which have long-term nominal maturity dates but feature variable interest rates that reset at short-term intervals. If our current portfolio average yield rate decreased by 10% in fiscal 2022, our net income would have decreased by $0.2 million. This amount is determined by considering the impact of the hypothetical yield rates on our cash, cash equivalents, short-term marketable securities and assumes no changes in our investment structure. During different times of the year, due to the seasonality of our business, we may borrow under our revolving credit facility. To the extent we borrow under this revolving credit facility, we are exposed to the market risk related to changes in interest rates. At January 28, 2023, we had no borrowings outstanding under the secured revolving credit facility. Foreign Exchange Rate Risk Our international subsidiaries operate with functional currencies other than the U.S. Dollar, including the Canadian Dollar, Euro, Australian Dollar, Norwegian Krone, Swedish Krona, and Swiss Franc. Therefore, we must translate revenues, expenses, assets and liabilities from functional currencies into U.S. dollars at exchange rates in effect during, or at the end of, the reporting period. As a result, the fluctuation in the value of the U.S. dollar against other currencies affects the reported amounts of revenues, expenses, assets and liabilities. Assuming a 10% change in foreign exchange rates in fiscal 2022 our net income would have decreased or increased by $1.0 million. As we expand our international operations, our exposure to exchange rate fluctuations will continue to increase. To date, we have not used derivatives to manage foreign currency exchange risk. We import merchandise from foreign countries. As a result, any significant or sudden change in the financial, banking or currency policies and practices of these countries could have a material adverse impact on our financial position, results of operations and cash flows. Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Information with respect to this item is set forth in “Index to the Consolidated Financial Statements,” found in Part IV Item 15 of this Form 10-K. Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. Item 9A. CONTROLS AND PROCEDURES Evaluation of Disclosure Controls and Procedures . We carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Securities Exchange Act Rule 13a-15(e)). Based on this evaluation, our CEO and CFO concluded that, as of January 28, 2023, our disclosure controls and procedures were effective. Changes in Internal Control Over Financial Reporting . There has been no change in our internal control over financial reporting (as defined in Securities Exchange Act Rule 13a-15(f)) during the quarter ended January 28, 2023 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 37 Management’s Annual Report on Internal Control over Financial Reporting . The management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting, as defined in Rule 13a-15(f) of the Securities Exchange Act of 1934. The Company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. This process includes policies and procedures tha (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions of the Company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the Company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements, and can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Furthermore, because of changes in conditions, the effectiveness of internal control may vary over time. The Company’s management, with the participation of the Chief Executive Officer and Chief Financial Officer, assessed the effectiveness of the Company’s internal control over financial reporting as of January 28, 2023. Management’s assessment was based on criteria described in the Internal Control—Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this assessment, management concluded that the Company’s internal control over financial reporting was effective as of January 28, 2023. The effectiveness of the Company’s internal control over financial reporting as of January 28, 2023 has been audited by Moss Adams LLP, the Company’s independent registered public accounting firm, as stated in their report, appearing herein under the heading “Report of Independent Registered Public Accounting Firm.” Item 9B. OTHER INFORMATION None. Item 9C. DISCLOSURE REGARDING FOREIGN JURISDICTIONS THAT PREVENT INSPECTIONS Not applicable. 38 PART III Item 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE Information regarding our directors and nominees for directorship is presented under the headings “Election of Directors,” in our definitive proxy statement for use in connection with our 2023 Annual Meeting of Shareholders (the “Proxy Statement”) that will be filed within 120 days after our fiscal year ended January 28, 2023 and is incorporated herein by this reference thereto. Information concerning our executive officers is set forth under the heading “Executive Officers” in our Proxy Statement, and is incorporated herein by reference thereto. Information regarding compliance with Section 16(a) of the Exchange Act, our code of conduct and ethics and certain information related to the Company’s Audit Committee, Compensation Committee and Governance Committee is set forth under the heading “Corporate Governance” in our Proxy Statement, and is incorporated herein by reference thereto. Item 11. EXECUTIVE COMPENSATION Information regarding the compensation of our directors and executive officers and certain information related to the Company’s Compensation Committee is set forth under the headings “Executive Compensation,” “Director Compensation,” “Compensation Discussion and Analysis,” “Report of the Compensation Committee of the Board of Directors” and “Compensation Committee Interlocks and Insider Participation” in our Proxy Statement, and is incorporated herein by this reference thereto. Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS, AND MANAGEMENT AND RELATED SHAREHOLDER MATTERS Information with respect to security ownership of certain beneficial owners and management is set forth under the headings “Security Ownership of Certain Beneficial Owners and Management” and “Equity Compensation Plan Information” in our Proxy Statement, and is incorporated herein by this reference thereto. Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE Information regarding certain relationships and related transactions and director independence is presented under the heading “Corporate Governance” in our Proxy Statement, and is incorporated herein by this reference thereto. Item 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES The Company’s independent registered public accounting firm is Moss Adams LLP , Seattle, WA , PCAOB ID: 659 . Information concerning principal accounting fees and services is presented under the heading “Fees Paid to Independent Registered Public Accounting Firm for Fiscal 2022 and 2021” in our Proxy Statement, and is incorporated herein by this reference thereto. 39 PART IV Item 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES (a) (1) Consolidated Financial Statements (2) Consolidated Financial Statement Schedul All financial statement schedules are omitted because the required information is presented either in the consolidated financial statements or notes thereto, or is not applicable, required or material. (3) Exhibits included or incorporated herein: See Exhibit Index. 40 INDEX TO CONSOLIDATED FINANCIAL STATEMENTS Report of Independent Registered Public Accounting Firm 42 Consolidated Balance Sheets 46 Consolidated Statements of Income 47 Consolidated Statements of Comprehensive Income 48 Consolidated Statements of Changes in Shareholders’ Equity 49 Consolidated Statements of Cash Flows 50 Notes to Consolidated Financial Statements 51 41 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Shareholders and the Board of Directors of Zumiez Inc. Opinions on the Financial Statements and Internal Control over Financial Reporting We have audited the accompanying consolidated balance sheets of Zumiez Inc. (the “Company”) as of January 28, 2023 and January 29, 2022, the related consolidated statements of income, comprehensive income, changes in shareholders’ equity and cash flows for each of the three years in the period ended January 28, 2023, and the related notes (collectively referred to as the “consolidated financial statements”). We also have audited the Company’s internal control over financial reporting as of January 28, 2023, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of the Company as of January 28, 2023 and January 29, 2022, and the consolidated results of its operations and its cash flows for each of the three years in the period ended January 28, 2023, in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of January 28, 2023, based on criteria established in Internal Control - Integrated Framework (2013) issued by COSO. Basis for Opinions The Company’s management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management Report on Internal Control over Financial Reporting included in Item 9A. Our responsibility is to express an opinion on the Company’s consolidated financial statements and an opinion on the Company’s internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the consolidated financial statements included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures to respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions. 42 Definition and Limitations of Internal Control Over Financial Reporting A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Critical Audit Matters The critical audit matters communicated below are matters arising from the current period audit of the consolidated financial statements that were communicated or required to be communicated to the audit committee and that (i) relates to accounts or disclosures that are material to the consolidated financial statements and (ii) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing a separate opinion on the critical audit matters or on the accounts or disclosures to which they relate. Goodwill and Intangible Asset Impairment As described in Notes 2 and 7 to the consolidated financial statements, the Company’s consolidated goodwill and intangible asset balances were $56.6 million and $14.4 million, respectively, at January 28, 2023. For the year ended January 28, 2023, there was no impairment of goodwill and the impairment of intangible assets recognized by the Company was immaterial. The Company has an option to first perform a qualitative assessment to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If management chooses not to perform the qualitative test or determines that it is more likely than not that the fair value of the reporting unit is less than the carrying amount, the Company’s evaluation of impairment of goodwill and intangible assets requires a comparison of the reporting unit’s and intangible asset’s fair value to their carrying value. If the fair value of the reporting unit or intangible asset is lower than the carrying value, then the Company records an impairment in the amount equal to the excess, not to exceed the carrying value. The determination of the fair value of the reporting unit and intangible assets requires management to make significant estimates, complex judgments, and assumptions. These assumptions include forecasts of future cash flows, long-term growth rates, weighted average cost of capital, valuation ratios derived from market transactions of similar companies, and royalty rates. Given the Company’s evaluation of impairment of goodwill and intangible assets requires management to make significant assumptions, performing audit procedures to evaluate whether management appropriately determined the fair value of the reporting unit and intangible assets required a high degree of auditor judgment. In addition, our audit effort included the use of professionals with specialized skill and knowledge to assist in performing these procedures and evaluating the audit evidence obtained. The primary procedures we performed to address this critical audit matter includ • Testing the effectiveness of controls relating to management’s goodwill and intangible asset impairment tests, including controls over the determination of the fair value of the Europe reporting unit and related intangible assets. 43 • Testing management’s process for determining the fair value of the Europe reporting unit and related intangible assets. We evaluated the reasonableness of management’s forecasts of future cashflows and long-term growth rates by comparing these forecasts to historical operating results of the Company as well as a retrospective review of the accuracy of management’s prior forecasts. • Utilizing a valuation specialist to assist in testing the management’s income and market approach models for the Europe reporting unit and relief from royalty method for intangible assets and certain related significant assumptions. • Evaluating whether the assumptions used were reasonable by considering the past performance of the reporting unit and third-party market data, and whether such assumptions were consistent with evidence obtained in other areas of the audit. Store Asset Impairment As described in Notes 2 and 6 to the consolidated financial statements, the Company’s consolidated fixed assets, net balance was $93.7 million and operating lease right-of-use asset was $222.2 million as of January 28, 2023. For the year ended January 28, 2023, the Company recognized store asset impairment losses of $2.1 million, as disclosed in Note 12, which consists of impairment charges for fixed assets of $1.7 million and impairment charges for operating right-of-use assets of $0.4 million. The Company evaluates the carrying value of long-lived assets or asset groups (defined as a store, corporate facility or distribution center) for impairment when events or changes in circumstances indicate that the carrying values may not be recoverable. Events that result in a store asset impairment review include plans to close a store or facility or a significant decrease in the operating performance of a store. When such an indicator occurs, the Company evaluates the store assets for impairment by comparing the undiscounted future cash flows expected to be generated by the store to its carrying amount. If the carrying amount exceeds the estimated undiscounted future cash flows, an analysis is performed to estimate the fair value of the asset. An impairment is recorded if the fair value of the store’s assets is less than the carrying amount. The evaluation of store assets for possible indications of impairment and the determination of the fair value of a store requires management to make significant estimates, complex judgments, and assumptions. These assumptions include estimated future cashflows, sublease income, and discount rate. Given the Company’s evaluation of impairment of store assets requires management to make significant assumptions, performing audit procedures to evaluate whether management appropriately identified events or changes in circumstances indicating that the carrying amounts of store assets may not be recoverable and determine store fair value required a high degree of auditor judgment. In addition, our audit effort included the use of professionals with specialized skill and knowledge to assist in performing these procedures and evaluating the audit evidence obtained. The primary procedures we performed to address this critical audit matter includ • Testing the effectiveness of controls relating to management’s identification of indicators of impairment, the assessment of the projected undiscounted cash flows to be generated by stores with indicators of impairment, the determination of the fair value of the stores, and the measurement of any resulting impairment. • Evaluating management’s store asset impairment analysis including inspecting the Company’s analysis of historical results by store to determine if contrary evidence existed as to the completeness of the population of potentially impaired stores. • Testing management’s process for determining the projected undiscounted cash flows to be generated by the stores. We evaluated the reasonableness of management’s assumptions used to forecast future cash flows including forecasted growth rate by comparing these forecasts to historical operating results of the Company. • Evaluating management’s assumptions used to estimate fair value of the stores by performing a sensitivity analysis to evaluate the changes in the fair value of the individual stores that would result from changes in the underlying assumptions. 44 • Utilizing a valuation specialist to assist in our evaluation of the current market rents and market participant real estate data and related assumptions used to estimate store fair value. /s/ Moss Adams LLP Seattle, Washington March 20, 2023 We have served as the Company’s auditor since 2006. 45 ZUMIEZ INC. CONSOLIDATED BALANCE SHEETS (In thousands) January 28, 2023 January 29, 2022 Assets Current assets Cash and cash equivalents $ 81,503 $ 117,223 Marketable securities 91,986 177,260 Receivables 20,613 14,427 Inventories 134,824 128,728 Prepaid expenses and other current assets 11,252 10,011 Total current assets 340,178 447,649 Fixed assets, net 93,746 91,451 Operating lease right-of-use assets 222,240 230,187 Goodwill 56,566 57,560 Intangible assets, net 14,443 14,698 Deferred tax assets, net 8,205 8,659 Other long-term assets 12,525 11,808 Total long-term assets 407,725 414,363 Total assets $ 747,903 $ 862,012 Liabilities and Shareholders’ Equity Current liabilities Trade accounts payable $ 40,379 $ 55,638 Accrued payroll and payroll taxes 16,321 31,209 Operating lease liabilities 65,460 63,577 Other liabilities 23,649 34,015 Total current liabilities 145,809 184,439 Long-term operating lease liabilities 188,835 204,309 Other long-term liabilities 5,931 4,946 Total long-term liabilities 194,766 209,255 Total liabilities 340,575 393,694 Commitments and contingencies (Note 11) Shareholders’ equity Preferred stock, no par value, 20,000 shares authorized; none issued and outstanding — — Common stock, no par value, 50,000 shares authorized; 19,489 shares issued and outstanding at January 28, 2023 and 21,215 shares issued and outstanding at January 29, 2022 188,418 180,824 Accumulated other comprehensive loss ( 19,793 ) ( 13,463 ) Retained earnings 238,703 300,957 Total shareholders’ equity 407,328 468,318 Total liabilities and shareholders’ equity $ 747,903 $ 862,012 See accompanying notes to consolidated financial statements 46 ZUMIEZ INC. CONSOLIDATED STATEMENTS OF INCOME (In thousands, except per share amounts) Fiscal Year Ended January 28, January 29, January 30, 2023 2022 2021 Net sales $ 958,380 $ 1,183,867 $ 990,652 Cost of goods sold 633,702 727,137 640,637 Gross profit 324,678 456,730 350,015 Selling, general and administrative expenses 293,578 298,920 253,077 Operating profit 31,100 157,810 96,938 Interest income, net 1,924 3,592 3,518 Other (expense) income, net ( 557 ) ( 891 ) 2,001 Earnings before income taxes 32,467 160,511 102,457 Provision for income taxes 11,433 41,222 26,230 Net income $ 21,034 $ 119,289 $ 76,227 Basic earnings per share $ 1.10 $ 4.93 $ 3.06 Diluted earnings per share $ 1.08 $ 4.85 $ 3.00 Weighted average shares used in computation of earnings per sh Basic 19,208 24,187 24,942 Diluted 19,428 24,593 25,398 See accompanying notes to consolidated financial statements 47 ZUMIEZ INC. CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (In thousands) Fiscal Year Ended January 28, 2023 January 29, 2022 January 30, 2021 Net income $ 21,034 $ 119,289 $ 76,227 Other comprehensive (loss) income, net of tax and reclassification adjustments: Foreign currency translation ( 2,596 ) ( 11,098 ) 12,289 Net change in unrealized (loss) gain on available-for-sale debt securities ( 3,734 ) ( 3,304 ) 1,241 Other comprehensive (loss) income, net ( 6,330 ) ( 14,402 ) 13,530 Comprehensive income $ 14,704 $ 104,887 $ 89,757 See accompanying notes to consolidated financial statements 48 ZUMIEZ INC. CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (In thousands) Accumulated Other Common Stock Comprehensive Retained Shares Amount (Loss) Income Earnings Total Balance at February 1, 2020 25,828 $ 161,458 $ ( 12,591 ) $ 317,219 $ 466,086 Net income — — — 76,227 76,227 Other comprehensive income, net — — 13,530 — 13,530 Issuance and exercise of stock-based awards 465 3,722 — — 3,722 Stock-based compensation expense — 6,448 — — 6,448 Repurchase of common stock ( 694 ) — — ( 13,417 ) ( 13,417 ) Balance at January 30, 2021 25,599 171,628 939 380,029 552,596 Net income — — — 119,289 119,289 Other comprehensive loss, net — — ( 14,402 ) — ( 14,402 ) Issuance and exercise of stock-based awards 197 2,380 — — 2,380 Stock-based compensation expense — 6,816 — — 6,816 Repurchase of common stock ( 4,581 ) — — ( 198,361 ) ( 198,361 ) Balance at January 29, 2022 21,215 180,824 ( 13,463 ) 300,957 468,318 Net income — — — 21,034 21,034 Other comprehensive loss, net — — ( 6,330 ) — ( 6,330 ) Issuance and exercise of stock-based awards 188 603 — — 603 Stock-based compensation expense — 6,991 — — 6,991 Repurchase of common stock ( 1,914 ) — — ( 83,288 ) ( 83,288 ) Balance at January 28, 2023 19,489 $ 188,418 $ ( 19,793 ) $ 238,703 $ 407,328 See accompanying notes to consolidated financial statements 49 ZUMIEZ INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) Fiscal Year Ended January 28, 2023 January 29, 2022 January 30, 2021 Cash flows from operating activiti Net income $ 21,034 $ 119,289 $ 76,227 Adjustments to reconcile net income to net cash (used in) provided by operating activiti Depreciation, amortization and accretion 21,626 22,930 24,059 Noncash lease expense 67,394 64,466 61,694 Deferred taxes 2,485 2,374 ( 3,890 ) Stock-based compensation expense 6,991 6,816 6,448 Impairment of long-lived assets 2,081 2,229 4,803 Other 1,176 2,728 ( 570 ) Changes in operating assets and liabiliti Receivables ( 1,716 ) 2,884 928 Inventories ( 5,279 ) 2,587 3,946 Prepaid expenses and other assets ( 1,082 ) ( 2,824 ) 1,010 Trade accounts payable ( 15,484 ) ( 14,060 ) 20,797 Accrued payroll and payroll taxes ( 14,895 ) 3,649 3,841 Income taxes payable ( 2,320 ) ( 5,101 ) 1,602 Operating lease liabilities ( 76,605 ) ( 77,657 ) ( 65,479 ) Other liabilities ( 5,785 ) 4,640 2,996 Net cash (used in) provided by operating activities ( 379 ) 134,950 138,412 Cash flows from investing activiti Additions to fixed assets ( 25,627 ) ( 15,749 ) ( 9,057 ) Purchases of marketable securities and other investments ( 1,914 ) ( 160,328 ) ( 222,785 ) Sales and maturities of marketable securities and other investments 81,750 277,720 121,301 Net cash provided by (used in) investing activities 54,209 101,643 ( 110,541 ) Cash flows from financing activiti Proceeds from revolving credit facilities 3,979 — — Payments on revolving credit facilities ( 3,979 ) — — Proceeds from issuance and exercise of stock-based awards 1,111 3,001 3,877 Payments for tax withholdings on equity awards ( 508 ) ( 621 ) ( 154 ) Common stock repurchased ( 87,860 ) ( 193,789 ) ( 13,417 ) Net cash used in financing activities ( 87,257 ) ( 191,409 ) ( 9,694 ) Effect of exchange rate changes on cash, cash equivalents, and restricted cash ( 2,172 ) ( 1,822 ) 3,522 Net (decrease) increase in cash, cash equivalents, and restricted cash ( 35,599 ) 43,362 21,699 Cash, cash equivalents, and restricted cash, beginning of period 124,052 80,690 58,991 Cash, cash equivalents, and restricted cash, end of period $ 88,453 $ 124,052 $ 80,690 Supplemental disclosure on cash flow informati Cash paid during the period for income taxes $ 11,309 $ 42,767 $ 27,598 Accrual for repurchase of common stock — 4,572 — Accrual for purchases of fixed assets 1,433 984 231 See accompanying notes to consolidated financial statements 50 ZUMIEZ INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. Nature of Business and Basis of Presentation Nature of Business —Zumiez Inc., including its wholly-owned subsidiaries, (“Zumiez”, the “Company,” “we,” “us,” “its” and “our”) is a global leading specialty retailer of apparel, footwear, accessories and hardgoods for young men and women who want to express their individuality through the fashion, music, art and culture of action sports, streetwear and other unique lifestyles. We operate under the names Zumiez, Blue Tomato and Fast Times. We operate ecommerce websites at zumiez.com , zumiez.ca, blue-tomato.com and fasttimes.com.au. At January 28, 2023, we operated 758 stores; 608 in the United States (“U.S.”), 51 in Canada, 78 in Europe and 21 in Australia. Fiscal Year— We use a fiscal calendar widely used by the retail industry that results in a fiscal year consisting of a 52- or 53-week period ending on the Saturday closest to January 31. Each fiscal year consists of four 13-week quarters, with an extra week added to the fourth quarter every five or six years. The fiscal years ended January 28, 2023, January 29, 2022 and January 30, 2021 were 52-week periods. Basis of Presentation— The accompanying consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”). The consolidated financial statements include the accounts of Zumiez Inc. and its wholly-owned subsidiaries. All significant intercompany transactions and balances are eliminated in consolidation. COVID-19— In December 2019, a novel strain of coronavirus (“COVID-19”) was first identified, and in March 2020, the World Health Organization categorized COVID-19 as a pandemic. To help control the spread of the virus and protect the health and safety of our employees and customers, we began closing our retail stores across all markets that we operate in mid-March 2020. We began gradually re-opening stores at the end of the first fiscal quarter and into the second fiscal quarter of fiscal 2020, with the majority of our stores open through the third and fourth quarter of fiscal 2020. Changes in our operations due to COVID-19 resulted in material fluctuations to our results of operations during fiscal 2020 and in certain geographies in 2021. By quarter, our stores were open, on an aggregate basis, approximately 50.2 %, 73.4 %, 94.7 % and 93.6 %, respectively, of the possible days during each fiscal quarter in fiscal 2020, approximately 93.4 %, 96.3 %, 98.6 % and 99.4 %, respectively, of the possible days during each fiscal quarter in fiscal 2021, and approximately 100 % of the possible days during each fiscal quarter in fiscal 2022. On April 1, 2022, we received 3.2 million Euro ($ 3.6 million) as a taxable subsidy from the German government related to our European business for costs incurred during fiscal 2020 and fiscal 2021 related to the COVID-19 pandemic. The subsidy was granted free of future obligations to repay and was accounted for using IAS 20, Accounting for Government Grants and Disclosure of Government Assistance by analogy. The amount was recorded as a reduction to expense in selling, general and administrative expenses on the consolidated statement of operations in the first quarter of fiscal 2022. 2. Summary of Significant Accounting Policies Use of Estimates —The preparation of financial statements in conformity with U.S. GAAP requires estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements as well as the reported amounts of revenues and expenses during the reporting period. These estimates can also affect supplemental information disclosed by us, including information about contingencies, risk and financial condition. Actual results could differ from these estimates and assumptions. 51 Fair Value of Financial Instruments —We disclose the estimated fair value of our financial instruments. Financial instruments are generally defined as cash, evidence of ownership interest in an entity or a contractual obligation that both conveys to one entity a right to receive cash or other financial instruments from another entity and imposes on the other entity the obligation to deliver cash or other financial instruments to the first entity. Our financial instruments, other than those presented in Note 12, “Fair Value Measurements,” include cash and cash equivalents, receivables, payables and other liabilities. The carrying amounts of cash and cash equivalents, receivables, payables and other liabilities approximate fair value because of the short-term nature of these instruments. Our policy is to present transfers into and transfers out of hierarchy levels as of the actual date of the event or change in circumstances that caused the transfer. Cash and Cash Equivalents —We consider all highly liquid investments with original maturity of three months or less when purchased to be cash equivalents. Concentration of Risk —We maintain our cash and cash equivalents in accounts with major financial institutions in the form of demand deposits, money market accounts, and corporate debt securities. Deposits in these financial institutions may exceed the amount of federal deposit insurance provided on such deposits. Restricted Cash— Cash and cash equivalents that are restricted as to withdrawal or use under the terms of certain contractual agreements are recorded as restricted cash in other long-term assets on our consolidated balance sheets. The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported within the consolidated balance sheets that sum to the total of the same such amounts shown in the consolidated statement of cash flows (in thousands): January 28, 2023 January 29, 2022 January 30, 2021 Cash and cash equivalents $ 81,503 $ 117,223 $ 73,622 Restricted cash included in other long-term assets 6,950 6,829 7,068 Total cash, cash equivalents, and restricted cash shown in the statement of cash flows $ 88,453 $ 124,052 $ 80,690 Restricted cash included in other long-term assets represents amounts held as insurance collateral and collateral for bank guarantees on certain store operating leases. Marketable Securities —Our marketable securities primarily consist of U.S treasury and government agency securities, corporate debt securities, state and local municipal securities and variable-rate demand notes. Variable-rate demand notes are considered highly liquid. Although the variable-rate demand notes have long-term nominal maturity dates, the interest rates generally reset weekly. Despite the long-term nature of the underlying securities of the variable-rate demand notes, we have the ability to quickly liquidate these securities, which have an embedded put option that allows the bondholder to sell the security at par plus accrued interest. Investments are considered to be impaired when a decline in fair value is determined to be other-than-temporary. If the cost of an investment exceeds its fair value, we evaluate information about the underlying investment that is publicly available such as analyst reports, applicable industry data and other pertinent information and assess our intent and ability to hold the security. For fixed-income securities, we also evaluate whether we have plans to sell the security or it is more likely than not we will be required to sell the security before recovery. The investment would be written down to its fair value at the time the impairment is deemed to have occurred and a new cost basis is established. Future adverse changes in market conditions, poor operating results of underlying investments or other factors could result in losses that may not be reflected in an investment’s current carrying value, possibly requiring an impairment charge in the future. 52 Inventories —Merchandise inventories are valued at the lower of cost or net realizable value. The cost of merchandise inventories are based upon an average cost methodology. Merchandise inventories may include items that have been written down to our best estimate of their net realizable value. Our decisions to write-down our merchandise inventories are based on their current rate of sale, the age of the inventory, the profitability of the inventory and other factors. The inventory related to this reserve is not marked up in subsequent periods. Inventory is at net realizable value which factors in a reserve for inventory whose selling price is below cost and an estimate for inventory shrinkage. Shrinkage refers to a reduction in inventory due to shoplifting, employee theft and other matters. We estimate an inventory shrinkage reserve for anticipated losses and a write down for our merchandise inventories at January 28, 2023 and January 29, 2022 in the amounts of $ 2.5 million and $ 3.3 million, respectively. Fixed Assets— Fixed assets primarily consist of leasehold improvements, fixtures, land, buildings, computer equipment, software and store equipment. Fixed assets are stated at cost less accumulated depreciation utilizing the straight-line method over the assets’ estimated useful lives. The useful lives of our major classes of fixed assets are as follows: Leasehold improvements Lesser of 10 years or the term of the lease Fixtures 3 to 7 years Buildings, land, and building and land improvements 15 to 39 years Computer equipment, software, store equipment & other 3 to 5 years The cost and related accumulated depreciation of assets sold or otherwise disposed of is removed from fixed assets and the related gain or loss is recorded in selling, general and administrative expenses on the consolidated statements of income. Asset Retirement Obligations— An asset retirement obligation (“ARO”) represents a legal obligation associated with the retirement of a tangible long-lived asset that is incurred upon the acquisition, construction, development or normal operation of that long-lived asset. Our AROs are associated with leasehold improvements that, at the end of a lease, we are contractually obligated to remove in order to comply with certain lease agreements. The ARO balance at January 28, 2023 and January 29, 2022 was $ 3.4 million and $ 3.2 million and is recorded in other liabilities and other long-term liabilities on the consolidated balance sheets and will be subsequently adjusted for changes in fair value. The associated estimated asset retirement costs are capitalized as part of the carrying amount of the long-lived asset and depreciated over its useful life. Valuation of Long-Lived Assets— We review the carrying value of long-lived assets or asset groups (generally defined as a store, corporate facility or distribution center) for impairment when events or changes in circumstances indicate that the carrying values may not be recoverable. Recoverability of assets to be held and used is determined by a comparison of the carrying amount of an asset or asset group to future undiscounted net cash flows expected to be generated by the asset. If such assets are considered impaired, the impairment recognized is measured by comparing the fair value of the assets or asset group to the carrying values. The estimation of future cash flows from operating activities requires significant judgments of factors that include forecasting future sales, gross profit and operating expenses. In addition to historical results, current trends and initiatives, long-term macro-economic and industry factors are qualitatively considered. Additionally, management seeks input from store operations related to local economic conditions. Impairment charges for operating lease right-of-use assets are included in cost of goods sold and impairment charges for fixed assets are included in selling, general and administrative expenses on the consolidated statements of income. Goodwill— Goodwill represents the excess of purchase price over the fair value of acquired tangible and identifiable intangible net assets. We test goodwill for impairment on an annual basis or more frequently if indicators of impairment are present. We perform our annual impairment measurement test on the first day of the fourth quarter. Events that may trigger an early impairment review include significant changes in the current business climate, future expectations of economic conditions, declines in our operating results of our reporting units, or an expectation that the carrying amount may not be recoverable. 53 We have an option to test goodwill for impairment by first performing a qualitative assessment to determine whether it is more likely than not that the fair value of the reporting unit is less than the carrying amount. If we choose not to perform the qualitative test or we determine that it is more likely than not that the fair value of the reporting unit is less than the carrying amount, we compare the carrying value of the reporting unit to its estimated fair value, which is based on the perspective of a market-participant. If the carrying amount of the reporting unit’s goodwill exceeds the estimated fair value , we recognize an impairment loss in an amount equal to the excess, not to exceed the carrying amount. We generally determine the fair value of each of our reporting units based on a combination of the income approach and the market valuation approaches. Key assumptions in the income approach include estimating future cash flows, long-term growth rates and weighted average cost of capital. Our ability to realize the future cash flows used in our fair value calculations is affected by factors such as changes in economic conditions, operating performance and our business strategies. Key assumptions in the market approaches include identifying companies and transactions with comparable business factors, such as earnings growth, profitability, business and financial risk. Intangible Assets— Our intangible assets consist of trade names and trademarks with indefinite lives and certain definite-lived intangible assets. We test our indefinite-lived intangible assets for impairment on an annual basis, or more frequently if indicators of impairment are present. We test our indefinite-lived assets by estimating the fair value of the asset and comparing that to the carrying value, an impairment loss is recorded for the amount that carrying value exceeds the estimated fair value. The fair value of the trade names and trademarks is determined using the relief from royalty method. This method assumes that the trade name and trademarks have value to the extent that their owner is relieved of the obligation to pay royalties for the benefits received from them. The assumptions used in this method requires management judgment and estimates in forecasting future revenue growth, discount rates, and royalty rates. Definite-lived intangible assets, which consist of developed technology, customer relationships and non-compete agreements, are amortized using the straight-line method over their estimated useful lives. Additionally, we test the definite-lived intangible assets when facts and circumstances indicate that the carrying values may not be recoverable. We first assess the recoverability of our definite-lived intangible assets by comparing the undiscounted cash flows of the definite-lived asset less its carrying value. If the undiscounted cash flows are less than the carrying value, we then determine the estimated fair value of our definite-lived asset by taking the estimated future operating cash flows derived from the operation to which the asset relates over its remaining useful life, using a discounted cash flow analysis and comparing it to the carrying value. Any impairment would be measured as the difference between the carrying amount and the estimated fair value. Changes in any of these estimates, projections and assumptions could have a material effect of the fair value of these assets in future measurement periods and result in an impairment which could materially affect our results of operations. Leases – We determine at inception if a contract is or contains a lease. The lease classification is determined at the commencement date. The majority of our leases are operating leases for our retail store locations. We do not have any material leases, individually or in the aggregate, classified as a finance leasing arrangement. Upon modification of a contract, we reassess if a contract is or contains a lease. For contracts that contain both lease and non-lease components, such as common area maintenance, we allocate the consideration to the components based on the relative standalone price. At the commencement date of a lease, we recognize (1) a right-of-use asset representing our right to use the underlying asset during the lease term and (2) a lease liability for the present value of the lease payments not yet made. The lease term includes the options to extend the lease, only to the extent it is reasonably certain that we will exercise such extension options and not exercise such early termination options, respectively. The majority of our store operating leases include ongoing co-tenancy requirements or early termination option that reduce lease payments, permit lease termination, or both, in the event that co-tenants cease to operate for specific periods or if stated sales levels are not met in specific periods. As the rate implicit in the lease is not readily determinable for our leases, we discount our lease payments using our incremental borrowing rate. Our incremental borrowing rate is based on information available at commencement date and represents the rate of interest we would have to pay to borrow on a collateralized basis over a similar term an amount equal to the lease payments in a similar economic environment. 54 The right-of-use asset is measured at the present value of fixed lease payments not yet made with adjustments for initial direct costs, lease prepayments and lease incentives received . The right-of - use asset is reduced over time by the recognition of straight-line expense less the accretion of the lease liability under the effective interest method. The lease liability is measured at the present value of fixed lease payments not yet made. We evaluate the carrying value of right-of-use assets for indicators of impairment and perform an analysis of the recoverability of the related asset group. If the carrying value of the asset group is determined to be in excess of the estimated fair value, we record an impairment loss in our con solidated statements of income. Additionally, w e review the carrying value of the right-of-use assets for impairment when events or changes in circumstances indicate that the carrying values may not be recoverable, require reassessment of the leases, and remeasurement if needed. Our store operating leases may include fixed minimum lease payments, as contractually stated in the lease agreement or variable lease payments, which are generally based on a percentage of the store’s net sales in excess of a specified threshold or are dependent on changes in an index. Operating lease expense relating to fixed lease payments is recognized on a straight-line basis over the lease term and lease expense relating to variable payments is expensed as incurred. Operating lease expense is recorded in the cost of goods sold expenses on the consolidated statements of income. Claims and Contingencies— We are subject to various claims and contingencies related to lawsuits, insurance, regulatory and other matters arising out of the normal course of business. We accrue a liability if the likelihood of an adverse outcome is probable and the amount is estimable. If the likelihood of an adverse outcome is only reasonably possible (as opposed to probable), or if an estimate is not determinable, we provide disclosure of a material claim or contingency. Revenue Recognition— Revenue is recognized upon purchase at our retail store locations. For our ecommerce sales, revenue is recognized when control passes to the customer upon shipment. Taxes collected from our customers are recorded on a net basis. We accrue for estimated sales returns by customers based on historical return experience. The allowance for sales returns at January 28, 2023 and January 29, 2022 was $ 3.1 million and $ 3.5 million, respectively. We record the sale of gift cards as a current liability and recognize revenue when a customer redeems a gift card. The current liability for gift cards was $ 4.9 million at January 28, 2023 and $ 5.6 million at January 29, 2022. Additionally, the portion of gift cards that will not be redeemed (“gift card breakage”) is recognized in proportion of the patterns used by the customer based on our historical redemption patterns. For the fiscal years ended January 28, 2023, January 29, 2022 and January 30, 2021, we recorded net sales related to gift card breakage income of $ 1.9 million, $ 1.7 million and $ 1.5 million, respectively. Loyalty Program— We have a customer loyalty program, the Zumiez STASH, which allows members to earn points for purchases or performance of certain activities. The points can be redeemed for a broad range of rewards, including product and experiential rewards. Points earned for purchases are recorded as a current liability and a reduction of net sales based on the relative fair value of the points at the time the points are earned and estimated redemption rates. Revenue is recognized upon redemption of points for rewards. Points earned for the performance of activities are recorded as a current liability based on the estimated cost of the points and as marketing expense when redeemed. The deferred revenue related to our customer loyalty program at January 28, 2023 and January 29, 2022 was $ 1.2 million and $ 1.0 million, respectively. Cost of Goods Sold— Cost of goods sold consists of branded merchandise costs and our private label merchandise costs including design, sourcing, importing and inbound freight costs. Our cost of goods sold also includes shrinkage, buying, occupancy, ecommerce fulfillment, distribution and warehousing costs (including associated depreciation) and freight costs for store merchandise transfers. Cash consideration received from vendors is reported as a reduction of cost of goods sold if the inventory has sold, a reduction of the carrying value of the inventory if the inventory is still on hand, or a reduction of selling, general and administrative expense if the amounts are reimbursements of specific, incremental and identifiable costs of selling the vendors’ products. Shipping Revenue and Costs— We include shipping revenue related to ecommerce sales in net sales and the related freight cost is charged to cost of goods sold. 55 Selling, General and Administrative Expense— Selling, general and administrative expenses consist primarily of store personnel wages and benefits, administrative staff and infrastructure expenses, freight costs for merchandise shipments from the distribution centers to the stores, store supplies, depreciation on fixed assets at the home office and stores, facility expenses, training expenses, advertising and marketing costs. Credit card fees, insurance, public company expenses, legal expenses, amortization of intangibles assets and other miscellaneous operating costs are also included in selling, general and administrative expenses. Advertising— We expense advertising costs as incurred, except for catalog costs, which are expensed once the catalog is mailed. Advertising expenses are net of sponsorships and vendor reimbursements. Advertising expense was $ 10.4 million, $ 13.5 million and $ 11.9 million for the fiscal years ended January 28, 2023, January 29, 2022 and January 30, 2021, respectively. Stock-Based Compensation— We account for stock-based compensation by recording the estimated fair value of stock-based awards granted as compensation expense over the vesting period, net of estimated forfeitures. Stock-based compensation expense is attributed using the straight-line method. We estimate forfeitures of stock-based awards based on historical experience and expected future activity. The fair value of restricted stock awards and units is measured based on the closing price of our common stock on the date of grant. The fair value of stock option grants is estimated on the date of grant using the Black-Scholes option pricing model. Common Stock Share Repurchases— We may repurchase shares of our common stock under authorizations made from time to time by our Board of Directors. Under applicable Washington State law, shares repurchased are retired and not presented separately as treasury stock on the consolidated financial statements. Instead, the value of repurchased shares is deducted from retained earnings. Income Taxes— We use the asset and liability method of accounting for income taxes. Using this method, deferred tax assets and liabilities are recorded based on the differences between the financial reporting and tax basis of assets and liabilities. The deferred tax assets and liabilities are calculated using the enacted tax rates and laws that we expect to be in effect when the differences are expected to reverse. We routinely evaluate the likelihood of realizing the benefit of our deferred tax assets and may record a valuation allowance if, based on all available evidence, it is determined that it is more likely than not that all or some portion of the deferred tax benefit will not be realized. The valuation allowance on our deferred tax assets at January 28, 2023 and January 29, 2022 was $ 12.8 million and $ 10.0 million, respectively. We regularly evaluate the likelihood of realizing the benefit of income tax positions that we have taken in various federal, state and foreign filings by considering all relevant facts, circumstances and information available. If we believe it is more likely than not that our position will be sustained, we recognize a benefit at the largest amount that we believe is cumulatively greater than 50% likely to be realized. Interest and penalties related to income tax matters are classified as a component of income tax expense. Unrecognized tax benefits of $ 2.5 million and $ 1.7 million are recorded in other long-term liabilities on the consolidated balance sheets at January 28, 2023 and January 29, 2022, respectively. Our tax provision for interim periods is determined using an estimate of our annual effective rate, adjusted for discrete items, if any, that are taken into account in the relevant period. As the fiscal year progresses, we periodically refine our estimate based on actual events and earnings by jurisdiction. This ongoing estimation process can result in changes to our expected effective tax rate for the full fiscal year. When this occurs, we adjust the income tax provision during the quarter in which the change in estimate occurs so that our year-to-date provision equals our expected annual rate. 56 Earnings per Share— Basic earnings per share is based on the weighted average number of common shares outstanding during the period. Diluted earnings per share is based on the weighted average number of common shares and common share equivalents outstanding during the period. The dilutive effect of stock options and restricted stock is applicable only in periods of net income. Common share equivalents included in the computation represent shares issuable upon assumed exercise of outstanding stock options, employee stock purchase plan funds held to acquire stock and non-vested restricted stock. Potentially anti-dilutive securities not included in the calculation of diluted earnings per share are options to purchase common stock where the option exercise price is greater than the average market price of our common stock during the period reported. Foreign Currency Translation— Our international subsidiaries operate with functional currencies other than the U.S. Dollar, including the Canadian Dollar, Australian Dollar, Euro, Norwegian Krone, Swedish Krona, and Swiss Franc. Assets and liabilities denominated in foreign currencies are translated into U.S. dollars, the reporting currency, at the exchange rate prevailing at the balance sheet date. Revenue and expenses denominated in foreign currencies are translated into U.S. dollars at the monthly average exchange rate for the period and the translation adjustments are reported as an element of accumulated other comprehensive loss on the consolidated balance sheets. Segment Reporting— We identify our operating segments according to how our business activities are managed and evaluated. Our operating segments have been aggregated and are reported as one reportable segment based on the similar nature of products sold, production, merchandising and distribution processes involved, target customers and economic characteristics. Recent Accounting Standards— In November 2021, the Financial Accounting Standards Board (“FASB”) issued ASU 2021-10, Government Assistance (Topic 832): Disclosures by Business Entities About Government Assistance , which requires entities to provide disclosures on material government assistance transactions for annual reporting periods. The disclosures include information around the nature of the assistance, the related accounting policies used to account for government assistance, the effect of government assistance on the entity’s financial statements, and any significant terms and conditions on the agreements, including commitments and contingencies. We adopted this standard prospectively for the fiscal year ending January 28, 2023 and the adoption did not have a material impact on our financial statement disclosure. 3. Revenue The following table disaggregates net sales by geographic region (in thousands): Fiscal Year Ended January 28, January 29, January 30, 2023 2022 2021 United States $ 753,761 $ 978,438 $ 812,825 Canada 48,610 52,244 52,736 Europe 132,216 134,988 110,345 Australia 23,793 18,197 14,746 Net sales $ 958,380 $ 1,183,867 $ 990,652 Net sales for the year ended January 28, 2023 included a $ 17.7 million decrease due to the change in foreign exchange rates, which consisted of $ 13.7 million in Europe, $ 2.2 million in Canada, and $ 1.8 in Australia. 57 4. Cash, Cash Equivalents and Marketable Securities The following tables summarize the estimated fair value of our cash, cash equivalents and marketable securities and the gross unrealized holding gains and losses (in thousands): January 28, 2023 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 30,587 $ — $ — $ 30,587 Money market funds 22,121 — — 22,121 Corporate debt securities 28,802 — ( 7 ) 28,795 Total cash and cash equivalents 81,510 — ( 7 ) 81,503 Marketable securiti U.S. treasury and government agency securities 20,973 — ( 2,891 ) 18,082 Corporate debt securities 60,832 — ( 2,848 ) 57,984 State and local government securities 16,490 — ( 570 ) 15,920 Total marketable securities $ 98,295 $ — $ ( 6,309 ) $ 91,986 January 29, 2022 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 99,333 $ — $ — $ 99,333 Money market funds 17,890 — — 17,890 Total cash and cash equivalents 117,223 — — 117,223 Marketable securiti U.S. treasury and government agency securities 29,218 33 ( 819 ) 28,432 Corporate debt securities 123,611 436 ( 851 ) 123,196 State and local government securities 25,722 62 ( 152 ) 25,632 Total marketable securities $ 178,551 $ 531 $ ( 1,822 ) $ 177,260 All of our available-for-sale debt securities have an effective maturity date of five years or less and may be liquidated, at our discretion, prior to maturity. 58 The following tables summarize the gross unrealized holding losses and fair value for investments in an unrealized loss position, and the length of time that individual securities have been in a continuous loss position (in thousands): January 28, 2023 Less Than Twelve Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Cash and cash equivalents: Corporate debt securities $ 27,099 $ ( 7 ) $ — $ — $ 27,099 $ ( 7 ) Total cash and cash equivalents $ 27,099 $ ( 7 ) $ — $ — $ 27,099 $ ( 7 ) Marketable securiti U.S. treasury and government agency securities $ 3,682 $ ( 229 ) $ 14,399 $ ( 2,662 ) $ 18,081 $ ( 2,891 ) Corporate debt securities 12,044 ( 604 ) 45,940 ( 2,244 ) 57,984 ( 2,848 ) State and local government securities 2,434 ( 50 ) 13,487 ( 520 ) 15,921 ( 570 ) Total marketable securities $ 18,160 $ ( 883 ) $ 73,826 $ ( 5,426 ) $ 91,986 $ ( 6,309 ) January 29, 2022 Less Than Twelve Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Marketable securiti U.S. treasury and government agency securities $ 20,683 $ ( 785 ) $ 1,622 $ ( 34 ) $ 22,305 $ ( 819 ) Corporate debt securities 63,887 ( 849 ) 69 ( 2 ) 63,956 ( 851 ) State and local government securities 15,639 ( 152 ) - - 15,639 ( 152 ) Total marketable securities $ 100,209 $ ( 1,786 ) $ 1,691 $ ( 36 ) $ 101,900 $ ( 1,822 ) We did no t record a realized loss for other-than-temporary impairments during the fiscal years ended January 28, 2023, January 29, 2022 and January 30, 2021. 5. Receivables Receivables consisted of the following (in thousands): January 28, 2023 January 29, 2022 Credit cards receivable $ 7,840 $ 7,964 Vendor receivable 6,345 3,415 Tax-related receivable 3,727 448 Other receivables 1,686 1,116 Tenant allowances receivable 688 967 Interest receivable 327 517 Receivables $ 20,613 $ 14,427 59 6. Fixed Assets Fixed assets consisted of the following (in thousands): January 28, 2023 January 29, 2022 Leasehold improvements $ 205,850 $ 198,538 Fixtures 91,954 89,422 Buildings, land, and building and land improvements 28,179 28,179 Computer equipment, software, store equipment and other 56,707 48,356 Fixed assets, at cost 382,690 364,495 L Accumulated depreciation ( 288,944 ) ( 273,044 ) Fixed assets, net $ 93,746 $ 91,451 Depreciation expense on fixed assets is recognized on our consolidated income statement as follows (in thousands): Fiscal Year Ended January 28, 2023 January 29, 2022 January 30, 2021 Cost of goods sold $ 1,670 $ 1,203 $ 1,213 Selling, general and administrative expenses 19,649 20,226 22,237 Depreciation expense $ 21,319 $ 21,429 $ 23,450 Impairment of Fixed Assets— We recorded $ 1.7 million, $ 0.1 million and $ 1.4 million of impairment of fixed assets in selling, general and administrative expenses on the consolidated statements of income for the years ended January 28, 2023, January 29, 2022 and January 30, 2021. 7. Goodwill and Intangible Assets The following tables summarize the changes in the carrying amount of goodwill (in thousands): Balance as of January 30, 2021 $ 61,470 Effects of foreign currency translation ( 3,910 ) Balance as of January 29, 2022 57,560 Effects of foreign currency translation ( 994 ) Balance as of January 28, 2023 $ 56,566 There was no impairment of goodwill for the fiscal years ended January 28, 2023, January 29, 2022 and January 30, 2021. The following table summarizes the gross carrying amount, accumulated amortization and the net carrying amount of intangible assets (in thousands): January 28, 2023 Gross Carrying Amount Accumulated Amortization Intangible Assets, Net Intangible assets not subject to amortizati Trade names and trademarks $ 14,443 $ — $ 14,443 Intangible assets subject to amortizati Developed technology 3,262 3,262 — Customer relationships 2,417 2,417 — Non-compete agreements 213 213 — Total intangible assets $ 20,335 $ 5,892 $ 14,443 60 January 29, 2022 Gross Carrying Amount Accumulated Amortization Intangible Assets, Net Intangible assets not subject to amortizati Trade names and trademarks $ 14,698 $ — $ 14,698 Intangible assets subject to amortizati Developed technology 3,344 3,344 — Customer relationships 2,477 2,477 — Non-compete agreements 210 210 — Total intangible assets $ 20,729 $ 6,031 $ 14,698 There was no impairment of intangible assets for the fiscal years ended January 28, 2023, January 29, 2022 and January 30, 2021. All amounts in the tables above are denominated in a foreign currency and subject to foreign exchange fluctuation. We recorded no amortization expense for intangible assets for the year ended January 28, 2023. We recorded $ 0.1 million of amortization expense for intangible assets for the years ended January 29, 2022 and January 30, 2021. Amortization expense of intangible assets is recorded in selling, general and administrative expense on the consolidated statements of income. 8. Other Liabilities Other liabilities consisted of the following (in thousands): January 28, 2023 January 29, 2022 Accrued payables $ 6,499 $ 6,482 Accrued indirect taxes 5,210 6,451 Unredeemed gift cards 4,916 5,593 Allowance for sales returns 3,089 3,521 Other current liabilities 1,667 2,377 Deferred revenue 1,231 1,047 Income taxes payable 1,037 1,137 Accrual for repurchase of common stock — 4,573 Accrued legal settlement — 2,834 Other liabilities $ 23,649 $ 34,015 9. Revolving Credit Facilities and Debt On October 14, 2021, we amended our credit agreement with Wells Fargo Bank, N.A. (previously entered into December 7, 2018), which provided us with a senior secured credit facility (“credit facility”) of up to $ 25.0 million through December 1, 2023, and up to $ 35.0 million after December 1, 2023 and through December 1, 2024. The secured revolving credit facility is available for working capital and other general corporate purposes. The senior secured credit facility provides for the issuance of standby letters of credit in an amount not to exceed $ 17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $ 10.0 million and with terms not to exceed 120 days. The amount of borrowings available at any time under our credit facility is reduced by the amount of standby and commercial letters of credit outstanding at that time. The credit facility will mature on December 1, 2024 . All obligations under the credit facility are joint and several with Zumiez Services and guaranteed by certain of our subsidiaries. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1.35 % per annum. 61 The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. The credit facility contains certain financial maintenance covenants that generally require the Registrant to have net income after taxes of at least $ 5.0 million on a trailing four-quarter basis and a quick ratio of 1.25 :1.0 at the end of each fiscal quarter. The credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. There were no borrowings outstanding under the credit facility at January 28, 2023 or January 29, 2022. We had no open commercial letters of credit outstanding under our secured revolving credit facility at January 28, 2023 or January 29, 2022. We had $ 0.6 million in issued, but undrawn, standby letters of credit at January 28, 2023 and no issued standby letters of credit at January 29, 2022. Additionally, on October 12, 2020, we entered into a credit facility with UBS Switzerland AG of up to 15.0 million Euro . The credit facility bore interest at 1.25 %. This credit facility was closed on December 30, 2022. 10. Leases At January 28, 2023, we had operating leases for our retail stores, certain distribution and fulfillment facilities, vehicles and equipment. Our remaining lease terms vary from one month to eleven years , with varying renewal and termination options. At January 28, 2023 and January 29, 2022, the weighted-average of the remaining lease term was 5.0 years and the weighted-average operating lease discount rate was 2.5 % and 2.7 %, respectively. The following table presents components of lease expense (in thousands): Year Ended January 28, 2023 January 29, 2022 Operating lease expense $ 74,316 $ 73,519 Variable lease expense 7,882 10,367 Total lease expense (1) $ 82,198 $ 83,886 (1) Total lease expense does not include common area maintenance charges and other non-lease components. Supplemental cash flow information related to leases is as follows (in thousands): January 28, 2023 January 29, 2022 Cash paid for amounts included in the measurement of lease liabiliti Operating cash flows from operating leases $ ( 76,605 ) $ ( 77,657 ) Right-of-use assets obtained in exchange for new operating lease liabilities 61,371 37,268 62 At January 28, 2023, the maturities of our operating leases liabilities are as follows (in thousands): Fiscal 2023 $ 70,735 Fiscal 2024 60,712 Fiscal 2025 43,134 Fiscal 2026 30,464 Fiscal 2027 23,379 Thereafter 40,581 Total minimum lease payments 269,005 L interest ( 14,710 ) Present value of lease obligations 254,295 L current portion ( 65,460 ) Long-term lease obligations (2) $ 188,835 (2) Amounts in the table do not include contingent rent, common area maintenance charges and other non-lease components. At January 28, 2023, we have excluded from the table above $ 5.4 million of operating leases that were contractually executed, but have not yet commenced. These operating leases are expected to commence in fiscal 2023. 11. Commitments and Contingencies Purchase Commitments— At January 28, 2023 and January 29, 2022, we had outstanding purchase orders to acquire merchandise from vendors of $ 174.3 million and $ 254.6 million, respectively. We have an option to cancel these commitments with no notice prior to shipment, except for certain private label, packaging supplies and international purchase orders in which we are obligated to repay contractual amounts upon cancellation. Litigation— We are involved from time to time in claims, proceedings and litigation arising in the ordinary course of business. We have made accruals with respect to these matters, where appropriate, which are reflected in our consolidated financial statements. For some matters, the amount of liability is not probable or the amount cannot be reasonably estimated and therefore accruals have not been made. We may enter into discussions regarding settlement of these matters, and may enter into settlement agreements, if we believe settlement is in the best interest of our shareholders. A putative class action, Alexia Herrera, on behalf of herself and all other similarly situated, v. Zumiez Inc., was filed against us in the Eastern District Count of California, Sacramento Division under case number 2:16-cv-01802-SB in August 2016. Alexandra Bernal filed the initial complaint and then in October 2016 added Alexia Herrera as a named plaintiff and Alexandra Bernal left the case. The putative class action lawsuit against us alleges, among other things, various violations of California’s wage and hour laws, including alleged violations of failure to pay reporting time. After several years of procedural motions and appeals related thereto, the parties held mediation with a private mediator on June 23, 2021. The parties reached a resolution in principle for all class claims, which was submitted for the court’s approval. The settlement of $ 2.8 million is included in other liabilities on the consolidated balance sheet as of January 29, 2022, and was recorded in selling, general and administrative expenses on the consolidated statement of operations for the year ended January 29, 2022. Final approval of the settlement was granted per the court’s order issued on July 26, 2022 and the settlement was paid to the claims administrator for disbursement on August 19, 2022. On October 14, 2022, former employee Seana Neihart filed a representative action under California’s Private Attorneys General Act, California Labor Code section 2698 et seq (“PAGA”), against us. An answer to the complaint was filed on December 8, 2022. A first amended complaint was filed on February 8, 2023 adding Jessica King as a plaintiff. The lawsuit alleges a series of wage and hour violations under California’s Labor Code. A responsive pleading to the first amended complaint has not yet been filed. We are in the process of investigating the claims and we intend to vigorously defend ourselves. 63 Insurance Reserves— We use a combination of third-party insurance and self-insurance for a number of risk management activities including workers’ compensation, general liability and employee-related health care benefits. We maintain reserves for our self-insured losses, which are estimated based on actuarial based analysis of historical claims experience. The self-insurance reserve for fiscal years ended January 28, 2023 and January 29, 2022 was $ 2.8 million and $ 2.0 million. 12. Fair Value Measurements We apply the following fair value hierarchy, which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measuremen • Level 1—Quoted prices in active markets for identical assets or liabilities; • Level 2—Quoted prices for similar assets or liabilities in active markets or inputs that are observable; and • Level 3—Inputs that are unobservable. The following tables summarize assets measured at fair value on a recurring basis (in thousands): January 28, 2023 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 22,121 $ — $ — Corporate debt securities — 28,795 — Marketable securiti U.S. treasury and government agency securities — 18,082 — Corporate debt securities — 57,984 — State and local government securities — 15,920 — Long-term other assets: Money market funds 6,950 — — Total $ 29,071 $ 120,781 $ — January 29, 2022 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 17,890 $ — $ — Marketable securiti U.S. treasury and government agency securities — 28,432 — Corporate debt securities — 123,196 — State and local government securities — 25,632 — Long-term other assets: Money market funds 6,829 — — Total $ 24,719 $ 177,260 $ — The Level 2 marketable securities primarily include U.S treasury and government agency securities, corporate debt securities, state and local municipal securities, and variable-rate demand notes. Fair values are based on quoted market prices for similar assets or liabilities or determined using inputs that use readily observable market data that are actively quoted and can be validated through external sources, including third-party pricing services, brokers and market transactions. We review the pricing techniques and methodologies of the independent pricing service for Level 2 investments and believe that its policies adequately consider market activity, either based on specific transactions for the security valued or based on modeling of securities with similar credit quality, duration, yield and structure that were recently traded. We monitor security-specific valuation trends and we make inquiries with the pricing service about material changes or the absence of expected changes to understand the underlying factors and inputs and to validate the reasonableness of the pricing. 64 Assets and liabilities recognized or disclosed at fair value on the consolidated financial statements on a nonrecurring basis include items such as fixed assets, operating lease right-of-use-assets, goodwill, other intangible assets and other assets. These assets are measured at fair value if determined to be impaired. We recorded impairment charges for operating lease right-of-use assets of $ 0.4 million in cost of sales and impairment charges for fixed assets of $ 1.7 million in selling, general and administrative expenses on the consolidated statement of income for the year ended January 2 8 , 202 3 . W e reco rded impairment charges for operating right-of-use assets of $ 2.1 million in costs of sales and impairment charges for fixed assets of $ 0.1 million in selling, general and administrative expenses on the consolidated statement of income for the year ended January 29, 2022 . 13. Stockholders’ Equity Share Repurchase— In December 2021, our Board of Directors approved the repurchase of up to an aggregate of $ 150 million of common stock. This repurchase program superseded all previously approved and authorized stock repurchase programs. The December 2021 stock repurchase program was completed in March 2022. The following table summarizes common stock repurchase activity (in thousands, except per share amounts): Fiscal Year Ended January 28, 2023 January 29, 2022 January 30, 2021 Number of shares repurchased 1,914 4,581 694 Average price per share of repurchased shares (with commission) $ 43.51 $ 43.30 $ 19.31 Total cost of shares repurchased $ 83,288 $ 198,361 $ 13,417 Accumulated Other Comprehensive (Loss) Income — The component of accumulated other comprehensive (loss) income and the adjustments to other comprehensive income (loss) for amounts reclassified from accumulated other comprehensive (loss) income into net income is as follows (in thousands): Foreign currency translation adjustments (4) Net unrealized gains (losses) on available-for- sale investments Accumulated other comprehensive (loss) income Balance at February 1, 2020 $ ( 13,696 ) $ 1,105 $ ( 12,591 ) Other comprehensive income, net (3) 12,289 1,241 13,530 Balance at January 30, 2021 $ ( 1,407 ) $ 2,346 $ 939 Other comprehensive loss, net (2) ( 11,098 ) ( 3,304 ) ( 14,402 ) Balance at January 29, 2022 $ ( 12,505 ) $ ( 958 ) $ ( 13,463 ) Other comprehensive loss, net (1) ( 2,596 ) ( 3,734 ) ( 6,330 ) Balance at January 28, 2023 $ ( 15,101 ) $ ( 4,692 ) $ ( 19,793 ) (1) Other comprehensive loss before reclassifications was $ 3.8 million, net of taxes for net unrealized losses on available-for-sale investments for the fiscal year ended January 28, 2023 . There were $ 0.1 million net unrealized losses, net of taxes reclassified from accumulated other comprehensive loss for the year ended January 28, 2023. (2) Other comprehensive loss before reclassification was $ 4.4 million, net of taxes for net unrealized losses on available-for-sale securities for the fiscal year ended January 29, 2022. There were $ 1.1 million net unrealized losses, net of taxes reclassified from accumulated other comprehensive loss for the year ended January 29, 2022. (3) Other comprehensive income before reclassifications was $ 1.7 million, net of taxes for net unrealized gains on available-for-sale investments for the fiscal year ended January 30, 2021. There were $ 0.5 million net unrealized gains, net of taxes reclassified from accumulated other comprehensive income for the fiscal year ended January 30, 2021. (4) Foreign currency translation adjustments are not adjusted for income taxes as they relate to permanent investments in our international securities. 65 14. Equity Awards General— We maintain several equity incentive plans under which we may grant incentive stock options, nonqualified stock options, stock bonuses, restricted stock awards, restricted stock units and stock appreciation rights to employees (including officers), non-employee directors and consultants. Stock-Based Compensation— Total stock-based compensation expense is recognized on our consolidated income statements as follows (in thousands): Fiscal Year Ended January 28, 2023 January 29, 2022 January 30, 2021 Cost of goods sold $ 1,464 $ 1,451 $ 1,339 Selling, general and administrative expenses 5,527 5,365 5,109 Total stock-based compensation expense $ 6,991 $ 6,816 $ 6,448 At January 28, 2023, there was $ 8.9 million of total unrecognized compensation cost related to unvested stock options and restricted stock. This cost has a weighted-average recognition period of 1.1 years. Restricted Equity Awards — The following table summarizes the activity of restricted stock awards and restricted stock units, collectively defined as “restricted equity awards” (in thousands, except grant date weighted-average fair value): Restricted Equity Awards Grant Date Weighted- Average Fair Value Intrinsic Value Outstanding at February 1, 2020 541 $ 22.82 Granted 321 $ 19.54 Vested ( 229 ) $ 22.15 Forfeited ( 33 ) $ 21.29 Outstanding at January 30, 2021 600 $ 21.41 Granted 142 $ 45.24 Vested ( 247 ) $ 21.95 Forfeited ( 52 ) $ 25.30 Outstanding at January 29, 2022 443 $ 28.31 Granted 178 $ 38.81 Vested ( 198 ) $ 27.01 Forfeited ( 26 ) $ 33.41 Outstanding at January 28, 2023 397 $ 33.34 $ 10,212 The following table summarizes additional information related to restricted equity awards activity (in thousands): Fiscal Year Ended January 28, 2023 January 29, 2022 January 30, 2021 Vest date fair value of restricted stock vested $ 8,076 $ 11,146 $ 4,761 Stock Options —We had 0.3 million stock options outstanding at January 28, 2023, January 29, 2022, and January 30, 2021 with a grant date weighted average exercise price of $ 29.30 , $ 26.37 and $ 22.08 , respectively. Employee Stock Purchase Plan— We offer an Employee Stock Purchase Plan (“ESPP”) for eligible employees to purchase our common stock at a 15 % discount of the lesser of fair market value of the stock on the first business day or the last business day of the offering period, subject to maximum contribution thresholds. The number of shares issued under our ESPP was less than 0.1 million for each of the fiscal years ended January 28, 2023, January 29, 2022 and January 30, 2021. 66 15. Income Taxes The components of earnings before income taxes are (in thousands): Fiscal Year Ended January 28, 2023 January 29, 2022 January 30, 2021 United States $ 40,632 $ 166,999 $ 108,412 Foreign ( 8,165 ) ( 6,488 ) ( 5,955 ) Total earnings before income taxes $ 32,467 $ 160,511 $ 102,457 The components of the provision for income taxes are (in thousands): Fiscal Year Ended January 28, 2023 January 29, 2022 January 30, 2021 Curren Federal $ 5,897 $ 31,231 $ 22,576 State and local 1,613 6,521 5,946 Foreign 1,508 1,273 1,598 Total current 9,018 39,025 30,120 Deferr Federal 1,663 1,328 ( 1,198 ) State and local 340 873 ( 808 ) Foreign 412 ( 4 ) ( 1,884 ) Total deferred 2,415 2,197 ( 3,890 ) Provision for income taxes $ 11,433 $ 41,222 $ 26,230 The reconciliation of the income tax provision at the U.S. federal statutory rate to our effective income tax rate is as follows: Fiscal Year Ended January 28, 2023 January 29, 2022 January 30, 2021 U.S. federal statutory tax rate 21.0 % 21.0 % 21.0 % State and local income taxes, net of federal effect 5.5 3.9 3.8 Change in valuation allowance 9.3 1.4 1.1 Foreign earnings, net 3.3 ( 0.2 ) ( 0.5 ) Stock-based compensation ( 2.3 ) ( 1.1 ) ( 0.2 ) Tax credits ( 1.3 ) ( 0.4 ) ( 0.7 ) Other ( 0.3 ) 1.1 1.1 Effective tax rate 35.2 % 25.7 % 25.6 % 67 The components of deferred income taxes are (in thousands): January 28, 2023 January 29, 2022 Deferred tax assets: Lease Liability $ 65,237 $ 66,315 Net operating losses 20,347 19,093 Employee benefits, including stock-based compensation 2,410 2,046 Deferred losses 2,263 813 Accrued liabilities 1,605 2,091 Other 1,282 655 Inventory 884 964 Total deferred tax assets 94,028 91,977 Deferred tax liabiliti Right of Use Asset ( 55,441 ) ( 55,300 ) Goodwill and other intangibles ( 10,771 ) ( 10,897 ) Property and equipment ( 4,699 ) ( 5,429 ) Prepaid expenses ( 1,131 ) ( 1,026 ) Other ( 1,031 ) ( 634 ) Total deferred tax liabilities ( 73,073 ) ( 73,286 ) Net valuation allowances ( 12,750 ) ( 10,032 ) Net deferred tax assets $ 8,205 $ 8,659 At January 28, 2023 and January 29, 2022, we had foreign net operating loss carryovers that could be utilized to reduce future years’ tax liabilities of $ 88.1 million and $ 75.7 million, respectively. The tax-effected foreign net operating loss carryovers were $ 20.3 million and $ 19.1 million at January 28, 2023 and January 29, 2022, respectively. The net operating loss carryovers have an indefinite carryforward period and currently will not expire. At January 28, 2023 and January 29, 2022, we had valuation allowances on our deferred tax assets of $ 12.8 million and $ 10.0 million, respectively, primarily due to the uncertainty of the realization of certain deferred tax assets related to foreign net operating loss carryovers. The following table summarizes the activity related to our unrecognized tax benefits (in thousands): Fiscal Year Ended January 28, 2023 January 29, 2022 January 30, 2021 Beginning unrecognized tax benefits $ 1,743 $ 1,143 $ 841 Increase related to prior year tax positions 818 — — Increase related to current year tax positions 446 796 406 Decrease related to lapsing of statute of limitations ( 485 ) ( 196 ) ( 104 ) Ending unrecognized tax benefits $ 2,522 $ 1,743 $ 1,143 At January 28, 2023 we had $ 2.5 million of gross unrecognized tax benefits of which $ 1.5 million, if recognized, would affect our effective tax rate. We recognized an expense of $ 0.1 million of interest and penalties in income tax expense, prior to the benefit of the federal tax deduction, for fiscal 2022, 2021 and 2020, respectively. At January 28, 2023 and January 29, 2022, we had accrued interest and penalties of $ 0.3 million and $ 0.1 million, respectively, within our consolidated balance sheets. We file income tax returns in the U.S. federal jurisdiction and various state and foreign jurisdictions. Our U.S. federal income tax returns are no longer subject to examination for years before fiscal year 2019 and with few exceptions, we are no longer subject to U.S. state examinations for years before fiscal 2018. We are no longer subject to examination for all foreign income tax returns before fiscal 2016. 68 16. Earnings per Share, Basic and Diluted The following table sets forth the computation of basic and diluted earnings per share (in thousands, except per share amounts): Fiscal Year Ended January 28, 2023 January 29, 2022 January 30, 2021 Net income $ 21,034 $ 119,289 $ 76,227 Weighted average common shares for basic earnings per share 19,208 24,187 24,942 Dilutive effect of stock options and restricted stock 220 406 456 Weighted average common shares for diluted earnings per share 19,428 24,593 25,398 Basic earnings per share $ 1.10 $ 4.93 $ 3.06 Diluted earnings per share $ 1.08 $ 4.85 $ 3.00 Total anti-dilutive common stock options not included in the calculation of diluted earnings per share was 0.1 million for the fiscal year ended January 28, 2023 and less than 0.1 million for fiscal years ended January 29, 2022 and January 30, 2021. 17. Related Party Transactions The Zumiez Foundation is a charitable based nonprofit organization focused on meeting various needs of the under-privileged. Our Chairman of the Board is also the President of the Zumiez Foundation. We committed charitable contributions to the Zumiez Foundation of $ 0.9 million, $ 1.6 million and $ 1.2 million for the fiscal years ended January 28, 2023, January 29, 2022, and January 30, 2021, respectively. We had accrued charitable contributions payable to the Zumiez Foundation of $ 0.5 million and $ 1.5 million at January 28, 2023 and January 29, 2022, respectively. 18. Segment Reporting Our operating segments have been aggregated and are reported as one reportable segment based on the similar nature of products sold, production, merchandising and distribution processes involved, target customers and economic characteristics. The following table is a summary of product categories as a percentage of merchandise sal Fiscal Year Ended January 28, 2023 January 29, 2022 January 30, 2021 Men's Apparel 43 % 43 % 39 % Hardgoods 13 % 16 % 19 % Accessories 18 % 17 % 17 % Footwear 15 % 13 % 13 % Women's Apparel 11 % 11 % 12 % Total 100 % 100 % 100 % The following tables present summarized geographical information (in thousands): Fiscal Year Ended January 28, 2023 January 29, 2022 January 30, 2021 Net sales (1): United States $ 753,761 $ 978,438 $ 812,825 Foreign 204,619 205,429 177,827 Total net sales $ 958,380 $ 1,183,867 $ 990,652 69 January 28, 2023 January 29, 2022 Long-lived assets (2): United States $ 186,433 $ 199,640 Foreign 129,553 121,998 Total long-lived assets $ 315,986 $ 321,638 (1) Net sales are allocated based on the location in which the sale was originated. Store sales are allocated based on the location of the store and ecommerce sales are allocated to the U.S. for sales on zumiez.com and to foreign for sales on zumiez.ca, blue-tomato.com and fasttimes.com.au . (2) Long-lived assets include fixed assets, net and operating lease right-of-use assets. 70 EXHIBIT INDEX 3.1 Articles of Incorporation. [Incorporated by reference to Exhibit 3.1 to the Company’s Registration Statement on Form S-1 (file No. 333-122865)] 3.2 Bylaws, as amended and restated May 21, 2014 and Amendment No.1, dated as of May 21, 2015, to Bylaws of Zumiez Inc. (as previously Amended and Restated as of May 21, 2014 [Incorporated by reference to Exhibit 3.2 to the Company’s Current Report on Form 8-K filed on May 23, 2014 and Exhibit to the Company’s Form 8-K filed on May 22, 2015] 4.1 Form of Common Stock Certificate of Zumiez Inc. [Incorporated by reference to Exhibit 4.1 to the Company’s Registration Statement on Form S-1 (file No. 333-122865)] 10.15 Zumiez Inc. 2005 Equity Incentive Plan, as amended and restated effective May 27, 2009. [Incorporated by reference from Exhibit 10.15 to the Form 8-K filed by the Company on June 1, 2009] 10.20 Zumiez Inc. 2014 Equity Incentive Plan. [Incorporated by reference to Exhibit 10.20 to the Company’s Current Report on Form 8-K filed on May 23, 2014] 10.21 Form of Restricted Stock Award Agreement and Terms and Conditions. [Incorporated by reference to Exhibit 10.21 to the Company’s Current Report on Form 8-K filed on May 23, 2014] 10.22 Form of Stock Option Award Agreement and Terms and Conditions. [Incorporated by reference to Exhibit 10.22 to the Company’s Current Report on Form 8-K filed on May 23, 2014] 10.23 Zumiez Inc. 2014 Employee Stock Purchase Plan. [Incorporated by reference to Exhibit 10.23 to the Company’s Current Report on Form 8-K filed on May 23, 2014] 10.24 Form of Indemnification Agreement. [Incorporated by reference to Exhibit 10.24 to the Company’s Current Report on Form 8-K filed on May 23, 2014] 10.28 Credit Agreement dated as of December 7, 2018 by and among Zumiez Inc., Zumiez Services Inc. and Wells Fargo Bank, National Association. [Incorporated by reference to Exhibit 10.28 to the Form 8-K filed by the Company on December 7, 2018] 10.29 First Amendment to Credit Agreement dated as of October 14, 2021 by and among Zumiez Inc., Zumiez Services Ince. And Wells Fargo Bank, National Association. [Incorporated by reference to Exhibit 10.29 to the Company’s Current Report on Form 8-K filed on October 18, 2021] 21.1 Subsidiaries of the Company. 23.1 Consent of Moss Adams LLP, Independent Registered Public Accounting Firm. 31.1 Certification of the Principal Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of the Principal Financial Officer (Principal Accounting Officer) pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certifications of the Principal Executive Officer and Principal Financial Officer (Principal Accounting Officer) pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350. 71 101 The following materials from Zumiez Inc.’s Annual Report on Form 10-K for the annual period ended January 28, 2023, formatted in iXBRL (Inline eXtensible Business Reporting Language): (i) Consolidated Balance Sheets at January 28, 2023 and January 29, 2022; (ii) Consolidated Statements of Income for the fiscal years ended January 28, 2023, January 29, 2022 and January 30, 2021; (iii) Consolidated Statements of Comprehensive Income for the fiscal years ended January 28, 2023, January 29, 2022 and January 30, 2021; (iv) Consolidated Statements of Changes in Shareholders’ Equity for the fiscal years ended January 28, 2023, January 29, 2022 and January 30, 2021; (v) Consolidated Statements of Cash Flows for the fiscal years ended January 28, 2023, January 29, 2022 and January 30, 2021; and (vi) Notes to Consolidated Financial Statements. 104 Cover Page Interactive Data File (embedded within the Inline XBRL document) Copies of Exhibits may be obtained upon request directed to the attention of our Chief Legal Officer and Secretary, 4001 204 th Street SW, Lynnwood, Washington 98036, and are available at the SEC’s website found at www.sec.gov. 72 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ZUMIEZ INC. / S / R ICHARD M. B ROOKS March 20, 2023 Signature Date By: Richard M. Brooks Chief Executive Officer and Director (Principal Executive Officer) / S / C HRISTOPHER C . W ORK March 20, 2023 Signature Date By: Christopher C. Work, Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer) Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. / S / T HOMAS D. C AMPION March 20, 2023 / S / S TEVEN P. L OUDEN March 20, 2023 Signature Date Signature Date Thomas D. Campion, Chairman Steven P. Louden, Director / S / J AMES P. M URPHY March 20, 2023 / S /T RAVIS D. S MITH March 20, 2023 Signature Date Signature Date James P. Murphy, Director Travis D. Smith, Director / S / CARMEN R. BAUZA March 20, 2023 / S / S COTT A. B AILEY March 20, 2023 Signature Date Signature Date Carmen R. Bauza, Director Scott A. Bailey, Director / S / L ILIANA G IL V ALLETTA March 20, 2023 Signature Date Liliana Gil Valletta, Director 73 |
WASHINGTON, D.C. 20549 FORM 10-Q ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED APRIL 30, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission file number 000-51300 ZUMIEZ INC . (Exact name of registrant as specified in its charter) Washington 91-1040022 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 4001 204 th Street SW , Lynnwood , WA 98036 (Address of principal executive offices) (Zip Code) Registrant’s telephone number, including area co ( 425 ) 551-1500 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definition of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☒ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ☐ Yes ☒ No Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name of each exchange on which registered Common Stock ZUMZ Nasdaq Global Select At May 30, 2022, there were 19,459,555 shares outstanding of common stock. ZUMIEZ INC. FORM 10-Q TABLE OF CONTENTS Part I. Financial Information Item 1. Condensed Consolidated Financial Statements Condensed Consolidated Balance Sheets at April 30, 2022 (unaudited) and January 29, 2022 3 Unaudited Condensed Consolidated Statements of Operations for the three months ended April 30, 2022 and May 1, 2021 4 Unaudited Condensed Consolidated Statements of Comprehensive (Loss) Income for the three months ended April 30, 2022 and May 1, 2021 5 Unaudited Condensed Consolidated Statements of Changes in Shareholders’ Equity for the three months ended April 30, 2022 and May 1, 2021 6 Unaudited Condensed Consolidated Statements of Cash Flows for the three months ended April 30, 2022 and May 1, 2021 7 Notes to Condensed Consolidated Financial Statements 8 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 16 Item 3. Quantitative and Qualitative Disclosures About Market Risk 29 Item 4. Controls and Procedures 29 Part II. Other Information Item 1. Legal Proceedings 30 Item 1A. Risk Factors 30 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 30 Item 3. Defaults Upon Senior Securities 30 Item 4. Mine Safety Disclosures 30 Item 5. Other Information 30 Item 6. Exhibits 31 Signature 32 2 ZUMIEZ INC. CONDENSED CONSOLIDATED BALANCE SHEETS (In thousands) April 30, 2022 January 29, 2022 (Unaudited) Assets Current assets Cash and cash equivalents $ 62,501 $ 117,223 Marketable securities 110,452 177,260 Receivables 23,609 14,427 Inventories 141,883 128,728 Prepaid expenses and other current assets 10,348 10,011 Total current assets 348,793 447,649 Fixed assets, net 90,313 91,451 Operating lease right-of-use assets 240,052 230,187 Goodwill 55,325 57,560 Intangible assets, net 14,091 14,698 Deferred tax assets, net 7,910 8,659 Other long-term assets 11,630 11,808 Total long-term assets 419,321 414,363 Total assets $ 768,114 $ 862,012 Liabilities and Shareholders’ Equity Current liabilities Trade accounts payable $ 65,108 $ 55,638 Accrued payroll and payroll taxes 19,334 31,209 Operating lease liabilities 69,327 63,577 Other liabilities 24,528 34,015 Total current liabilities 178,297 184,439 Long-term operating lease liabilities 207,953 204,309 Other long-term liabilities 4,967 4,946 Total long-term liabilities 212,920 209,255 Total liabilities 391,217 393,694 Commitments and contingencies (Note 5) Shareholders’ equity Preferred stock, no par value, 20,000 shares authorized; none issued and outstanding — — Common stock, no par value, 50,000 shares authorized; 19,459 shares issued and outstanding at April 30, 2022 and 21,215 shares issued and outstanding at January 29, 2022 182,899 180,824 Accumulated other comprehensive loss ( 23,274 ) ( 13,463 ) Retained earnings 217,272 300,957 Total shareholders’ equity 376,897 468,318 Total liabilities and shareholders’ equity $ 768,114 $ 862,012 See accompanying notes to condensed consolidated financial statements 3 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (In thousands, except per share amounts) (Unaudited) Three Months Ended April 30, 2022 May 1, 2021 Net sales $ 220,686 $ 279,069 Cost of goods sold 148,312 175,900 Gross profit 72,374 103,169 Selling, general and administrative expenses 71,877 68,889 Operating profit 497 34,280 Interest income, net 492 975 Other income, net 172 254 Earnings before income taxes 1,161 35,509 Provision for income taxes 1,558 9,124 Net (loss) income $ ( 397 ) $ 26,385 Basic (loss) earnings per share $ ( 0.02 ) $ 1.05 Diluted (loss) earnings per share $ ( 0.02 ) $ 1.03 Weighted average shares used in computation of earnings per sh Basic 19,533 25,167 Diluted 19,533 25,676 See accompanying notes to condensed consolidated financial statements 4 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE (LOSS) INCOME (In thousands) (Unaudited) Three Months Ended April 30, 2022 May 1, 2021 Net (loss) income $ ( 397 ) $ 26,385 Other comprehensive loss, net of tax and reclassification adjustments: Foreign currency translation ( 6,372 ) 268 Net change in unrealized loss on available-for-sale debt securities ( 3,439 ) ( 761 ) Other comprehensive loss, net ( 9,811 ) ( 493 ) Comprehensive (loss) income $ ( 10,208 ) $ 25,892 See accompanying notes to condensed consolidated financial statements 5 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (In thousands) (Unaudited) Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at January 29, 2022 21,215 $ 180,824 $ ( 13,463 ) $ 300,957 $ 468,318 Net loss — — — ( 397 ) ( 397 ) Other comprehensive loss, net — — ( 9,811 ) — ( 9,811 ) Issuance and exercise of stock-based awards 158 375 — — 375 Stock-based compensation expense — 1,700 — — 1,700 Repurchase of common stock ( 1,914 ) — — ( 83,288 ) ( 83,288 ) Balance at April 30, 2022 19,459 $ 182,899 $ ( 23,274 ) $ 217,272 $ 376,897 Common Stock Accumulated Other Comprehensive Retained Shares Amount Income Earnings Total Balance at January 30, 2021 25,599 $ 171,628 $ 939 $ 380,029 $ 552,596 Net income — — — 26,385 26,385 Other comprehensive loss, net — — ( 493 ) — ( 493 ) Issuance and exercise of stock-based awards 181 1,553 — — 1,553 Stock-based compensation expense — 1,740 — — 1,740 Balance at May 1, 2021 25,780 $ 174,921 $ 446 $ 406,414 $ 581,781 See accompanying notes to condensed consolidated financial statements 6 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) (Unaudited) Three Months Ended April 30, 2022 May 1, 2021 Cash flows from operating activiti Net (loss) income $ ( 397 ) $ 26,385 Adjustments to reconcile net (loss) income to net cash (used in) provided by operating activiti Depreciation, amortization and accretion 5,416 5,889 Noncash lease expense 16,495 15,968 Deferred taxes 1,838 4,063 Stock-based compensation expense 1,700 1,740 Impairment of long-lived assets — 2,079 Other ( 72 ) ( 246 ) Changes in operating assets and liabiliti Receivables ( 4,172 ) ( 2,019 ) Inventories ( 14,580 ) ( 1,813 ) Prepaid expenses and other assets ( 280 ) ( 2,098 ) Trade accounts payable 9,672 5,796 Accrued payroll and payroll taxes ( 11,696 ) ( 3,141 ) Income taxes payable ( 4,987 ) ( 3,690 ) Operating lease liabilities ( 18,403 ) ( 18,776 ) Other liabilities ( 5,011 ) ( 3,212 ) Net cash (used in) provided by operating activities ( 24,477 ) 26,925 Cash flows from investing activiti Additions to fixed assets ( 3,562 ) ( 2,825 ) Purchases of marketable securities and other investments ( 1,914 ) ( 60,692 ) Sales and maturities of marketable securities and other investments 64,041 42,249 Net cash provided by (used in) investing activities 58,565 ( 21,268 ) Cash flows from financing activiti Proceeds from issuance and exercise of stock-based awards 782 2,039 Payments for tax withholdings on equity awards ( 407 ) ( 486 ) Common stock repurchased ( 87,860 ) — Net cash (used in) provided by financing activities ( 87,485 ) 1,553 Effect of exchange rate changes on cash, cash equivalents, and restricted cash ( 1,497 ) 766 Net (decrease) increase in cash, cash equivalents, and restricted cash ( 54,894 ) 7,976 Cash, cash equivalents, and restricted cash, beginning of period 124,052 80,690 Cash, cash equivalents, and restricted cash, end of period $ 69,158 $ 88,666 Supplemental disclosure on cash flow informati Cash paid during the period for income taxes $ 4,657 $ 8,738 Accrual for purchases of fixed assets 2,530 553 See accompanying notes to condensed consolidated financial statements 7 ZUMIEZ INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 1. Nature of Business and Basis of Presentation Nature of Business— Zumiez Inc., including its wholly owned subsidiaries, (the “Company,” “we,” “us,” “its” and “our”) is a leading specialty retailer of apparel, footwear, accessories and hardgoods for young men and women who want to express their individuality through the fashion, music, art and culture of action sports, streetwear, and other unique lifestyles. We operate under the names Zumiez, Blue Tomato and Fast Times. We operate ecommerce websites at zumiez.com, zumiez.ca, blue-tomato.com and fasttimes.com.au. At April 30, 2022, we operated 741 stores; 602 in the United States (“U.S.”), 68 in Europe, 52 in Canada, and 19 in Australia . COVID-19— In December 2019, a novel strain of coronavirus (“COVID-19”) was first identified, and in March 2020, the World Health Organization categorized COVID-19 as a pandemic. To help control the spread of the virus and protect the health and safety of our employees and customers, we began closing our retail stores across all markets that we operate in mid-March 2020. We began gradually re-opening retail stores near the end of the first quarter and into the second quarter of fiscal 2020, with the majority of our stores open through the third and fourth quarter of fiscal 2020 . Changes in our operations due to COVID-19 resulted in material fluctuations to our results of operations during fiscal 2020 and in certain geographies in 2021 . Due to the COVID-19 pandemic, our stores were open on an aggregate basis, approximately 100 %, and 93.4 % of the possible days across the global business during the three months ended April 30, 2022 and May 1, 2021, respectively. On April 1, 2022, we received 3.2 million Euro ($ 3.6 million) as a taxable subsidy from the German government related to our European business for costs incurred during fiscal 2020 and fiscal 2021 related to the COVID-19 pandemic. The subsidy received was granted free of future obligations to repay and was recorded in selling, general and administrative expenses on the condensed consolidated statement of operations for the three months ended April 30, 2022. Fiscal Year— We use a fiscal calendar widely used by the retail industry that results in a fiscal year consisting of a 52- or 53-week period ending on the Saturday closest to January 31. Each fiscal year consists of four 13-week quarters, with an extra week added to the fourth quarter every five or six years. The three months ended April 30, 2022 and May 1, 2021 were 13-week periods. Basis of Presentation— The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“U.S. GAAP”) for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) for interim financial reporting. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. The unaudited condensed consolidated financial statements include the accounts of Zumiez Inc. and its wholly-owned subsidiaries. All significant intercompany transactions and balances are eliminated in consolidation. In our opinion, the unaudited condensed consolidated financial statements contain all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of the condensed consolidated balance sheets, operating results and cash flows for the periods presented. The financial data at January 29, 2022 is derived from audited consolidated financial statements, which are included in our Annual Report on Form 10-K for the year ended January 29, 2022, and should be read in conjunction with the audited consolidated financial statements and notes thereto. Interim results are not necessarily indicative of results for the full fiscal year due to seasonality and other factors. Use of Estimates— The preparation of financial statements in conformity with U.S. GAAP requires estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements as well as the reported amounts of revenues and expenses during the reporting period. These estimates can also affect supplemental information disclosed by us, including information about contingencies, risk and financial condition. Actual results could differ from these estimates and assumptions. Restricted Cash— 8 Cash and cash equivalents that are restricted as to withdrawal or use under the terms of certain contractual agreements are recorded as restricted cash in other long-term assets on our condensed consolidated balance sheets. The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported within the condensed consolidated balance sheets that sum to the total of the same such amounts shown in the condensed consolidated statement of cash flows (in thousands): April 30, 2022 January 29, 2022 Cash and cash equivalents $ 62,501 $ 117,223 Restricted cash included in other long-term assets 6,657 6,829 Total cash, cash equivalents, and restricted cash as shown in the statement of cash flows $ 69,158 $ 124,052 Restricted cash included in other long-term assets represents amounts held as insurance collateral and collateral for bank guarantees on certain store operating leases. Recent Accounting Standards— We review recent account pronouncements on a quarterly basis and have excluded discussion of those that are not applicable and those that we determined did not have, or are not expected to have, a material impact on the condensed consolidated financial statements. 2. Revenue The following table disaggregates net sales by geographic region (in thousands): Three Months Ended April 30, 2022 May 1, 2021 United States $ 176,429 $ 238,788 Canada 9,906 9,874 Europe 29,502 26,256 Australia 4,849 4,151 Net sales $ 220,686 $ 279,069 Net sales for the three months ended April 30, 2022 included a $ 2.8 million decrease due to the change in foreign exchange rates, which consisted of $ 2.4 million in Europe, $ 0.3 million in Australia and $ 0.1 million in Canada. Our contract liabilities include deferred revenue related to our customer loyalty program and gift cards. The current liability for gift cards was $ 4.2 million at April 30, 2022 and $ 5.6 million at January 29, 2022, respectively. Deferred revenue related to our STASH loyalty program was $ 1.1 million at April 30, 2022 and $ 1.0 million at January 29, 2022, respectively. 3. Cash, Cash Equivalents and Marketable Securities The following tables summarize the estimated fair value of our cash, cash equivalents and marketable securities and the gross unrealized holding gains and losses (in thousands): April 30, 2022 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 56,171 $ — $ — $ 56,171 Money market funds 6,330 — — 6,330 Total cash and cash equivalents 62,501 — — 62,501 Marketable securiti U.S. treasury and government agency securities 26,528 — ( 2,626 ) 23,902 Corporate debt securities 72,558 1 ( 2,738 ) 69,821 State and local government securities 17,288 — ( 559 ) 16,729 Total marketable securities $ 116,374 $ 1 $ ( 5,923 ) $ 110,452 9 January 29, 2022 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 99,333 $ — $ — $ 99,333 Money market funds 17,890 — — 17,890 Total cash and cash equivalents 117,223 — — 117,223 Marketable securiti U.S. treasury and government agency securities 29,218 33 ( 819 ) 28,432 Corporate debt securities 123,611 436 ( 851 ) 123,196 State and local government securities 25,722 62 ( 152 ) 25,632 Total marketable securities $ 178,551 $ 531 $ ( 1,822 ) $ 177,260 All of our marketable securities have an effective maturity date of five years or less and may be liquidated, at our discretion, prior to maturity. The following tables summarize the gross unrealized holding losses and fair value for investments in an unrealized loss position, and the length of time that individual securities have been in a continuous loss position (in thousands): April 30, 2022 Less Than 12 Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Marketable securiti U.S. treasury and government agency securities $ 18,729 $ ( 1,978 ) $ 5,060 $ ( 648 ) $ 23,789 $ ( 2,626 ) Corporate debt securities 68,553 ( 2,699 ) 771 ( 39 ) 69,324 ( 2,738 ) State and local government securities 16,730 ( 559 ) 16,730 ( 559 ) Total marketable securities $ 104,012 $ ( 5,236 ) $ 5,831 $ ( 687 ) $ 109,843 $ ( 5,923 ) January 29, 2022 Less Than 12 Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Marketable securiti U.S. treasury and government agency securities $ 20,683 $ ( 785 ) $ 1,622 $ ( 34 ) $ 22,305 $ ( 819 ) Corporate debt securities 63,887 ( 849 ) 69 ( 2 ) 63,956 ( 851 ) State and local government securities 15,639 ( 152 ) — — 15,639 ( 152 ) Total marketable securities $ 100,209 $ ( 1,786 ) $ 1,691 $ ( 36 ) $ 101,900 $ ( 1,822 ) 4. Leases At April 30, 2022, we had operating leases for our retail stores, certain distribution and fulfillment facilities, vehicles and equipment. Our remaining lease terms vary from one month to eleven years , with varying renewal and termination options. The following table presents components of lease expense (in thousands): Three Months Ended April 30, 2022 May 1, 2021 Operating lease expense $ 18,278 $ 18,086 Variable lease expense 2,134 1,956 Total lease expense (1) $ 20,412 $ 20,042 (1) Total lease expense includes short-term lease expense and sublease income which is immaterial to the Company. Total lease expense does not include right-of-use asset impairment charges, common area maintenance charges and other non-lease components. 10 Supplemental cash flow information related to leases is as follows (in thousands): Three Months Ended April 30, 2022 May 1, 2021 Cash paid for amounts included in the measurement of lease liabiliti Operating cash flows from operating leases $ ( 18,403 ) $ ( 18,776 ) Right-of-use assets obtained in exchange for new operating lease liabilities 30,207 10,600 Weighted-average remaining lease term and discount rate were as follows: April 30, 2022 May 1, 2021 Weighted-average remaining lease term 4.9 5.2 Weighted-average discount rate 2.5 % 2.9 % At April 30, 2022, the maturities of our operating leases liabilities are as follows (in thousands): Fiscal 2022 $ 57,065 Fiscal 2023 70,173 Fiscal 2024 55,599 Fiscal 2025 38,652 Fiscal 2026 26,222 Thereafter 46,323 Total minimum lease payments 294,034 L interest ( 16,754 ) Present value of lease obligations 277,280 L current portion ( 69,327 ) Long-term lease obligations (1) $ 207,953 (1) Amounts in the table do not include contingent rent, common area maintenance charges and other non-lease components. At April 30, 2022, we have excluded from the table above $ 4.3 million of operating leases that were contractually executed, but had not yet commenced. These operating leases are expected to commence by the end of fiscal 2022. 5. Commitments and Contingencies Purchase Commitments— At April 30, 2022, we had outstanding purchase orders to acquire merchandise from vendors of $ 257.3 million. We have an option to cancel these commitments with no notice prior to shipment, except for certain private label and international purchase orders in which we are obligated to repay contractual amounts upon cancellation. Litigation— We are involved from time to time in claims, proceedings and litigation arising in the ordinary course of business. We have made accruals with respect to these matters, where appropriate, which are reflected in our condensed consolidated financial statements. For some matters, the amount of liability is not probable or the amount cannot be reasonably estimated and therefore accruals have not been made. We may enter into discussions regarding settlement of these matters, and may enter into settlement agreements, if we believe settlement is in the best interest of our shareholders. 11 A putative class action, Alexia Herrera, on behalf of herself and all other similarly situated, v. Zumiez Inc. , was filed against us in the Eastern District Count of California, Sacramento Division under case number 2:16-cv-01802-SB in August 2016. Alexandra Bernal filed the initial complaint and then in October 2016 added Alexia Herrera as a named plaintiff and Alexandra Bernal left the case. The putative class action lawsuit against us alleges, among other things, various violations of California’s wage and hour laws, including alleged violations of failure to pay reporting time. In May 2017 we moved for judgment on the pleadings in that plaintiff’s cause of action for reporting-time pay should fail as a matter of law as the plaintiff and the other putative class members did not “report for work” with respect to certain shifts on which the plaintiff’s claims are based. In August 2017, the court denied the motion. However, in October 2017 the district court certified the order denying the motion for judgment on the pleadings for immediate interlocutory review by the United States Court of Appeals for the Ninth Circuit. We then filed a petition for permission to appeal the order denying the motion for judgment on the pleadings with the United States Court of Appeals for the Ninth Circuit, which petition was then granted in January 2018. Our opening appellate brief was filed on June 6, 2018 and the plaintiff’s answering appellate brief was filed August 6, 2018. Our reply brief to the Plaintiff’s answering appellate brief was filed on September 26, 2018 and oral arguments w ere completed on February 4, 2019. On May 20, 2019, the United States Court of Appeals for the Ninth Circuit granted our motion for leave to file a supplemental brief addressing new authority. On June 10, 2019, the plaintiff’s supplemental answering brief was filed with the United States Court of Appeals for the Ninth Circuit. We then filed our supplemental reply brief to the plaintiff’s supplemental answering brief with the United States Court of Appeals for the Ninth Circuit on June 24, 2019. On March 19, 2020 the United States Court of Appeals for the Ninth Circuit published its opinion (i) affirming the District Court’s denial of judgment on the pleadings on plaintiff’s reporting time pay and minimum wage claims, (ii) reversing the District Court’s denial of judgment on the pleadings on plaintiff’s expense reimbursement claim and (iii) refusing to certify the reporting time pay question to the California Supreme Court. On April 2, 2020 we filed a petition for rehearing en banc to certify the reporting time pay question to the California Supreme Court and on April 27, 2020 plaintiff filed a response to our petition for rehearing en banc. We in turn filed a reply in support of our petition for rehearing en banc on May 1, 2020. On May 14, 2020, the United States Court of Appeals for the Ninth Circuit denied our petition for rehearing en banc. The case was remanded to the Eastern District of California, Sacramento for further proceedings. The parties held mediation with a private mediator on June 23, 2021. The parties reached a resolution in principle for all class claims, which was submitted for the court’s approval. Preliminary approval of the settlement was granted per the court’s order issued on May 6, 2022. The estimated settlement of $ 2.8 million is included in other liabilities on the consolidated balance sheet as of April 30, 2022 and January 29, 2022 , respectively , and was recorded in selling, general and administrative expenses on the consolidated statement of operations in the second quarter of 2021. Insurance Reserves— We use a combination of third-party insurance and self-insurance for a number of risk management activities including workers’ compensation, general liability and employee-related health care benefits. We maintain reserves for our self-insured losses, which are estimated based on historical claims experience and actuarial and other assumptions. The self-insurance reserve at April 30, 2022 and January 29, 2022 was $ 2.1 million and $ 2.0 million. 6. Revolving Credit Facilities and Debt On October 14, 2021, we amended our credit agreement with Wells Fargo Bank, N.A. (previously entered into December 7, 2018), which provided us with a senior secured credit facility (“credit facility”) of up to $ 25.0 million through December 1, 2023, and up to $ 35.0 million after December 1, 2023 and through December 1, 2024. The secured revolving credit facility is available for working capital and other general corporate purposes. The senior secured credit facility provides for the issuance of standby letters of credit in an amount not to exceed $ 17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $ 10.0 million and with terms not to exceed 120 days. The amount of borrowings available at any time under our credit facility is reduced by the amount of standby and commercial letters of credit outstanding at that time. The credit facility will mature on December 1, 2024 . All obligations under the credit facility are joint and several with Zumiez Services and guaranteed by certain of our subsidiaries. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1.35 % per annum. The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. 12 The credit facility contains certain financial maintenance covenants that generally require us to have net income after taxes of at least $ 5.0 million on a trailing four-quarter basis and a quick ratio of 1.25 :1.0 at the end of each fiscal quarter. The credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. There were no borrowings outstanding under the credit facility at April 30, 2022 or January 29, 2022. We had no open commercial letters of credit outstanding at April 30, 2022 or January 29, 2022. Additionally, we maintain a credit facility with UBS Switzerland AG of up to 15.0 million Euro ($ 15.8 million as of April 30, 2022), which may be used to guarantee payment of letters of credit. Either party has a right to terminate this credit agreement at any time with immediate effect. The credit facility bears interest at 1.25 %. There were no borrowings outstanding under this secured credit facility at April 30, 2022 or January 29, 2022. 7. Fair Value Measurements We apply the following fair value hierarchy, which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measuremen • Level 1— Quoted prices in active markets for identical assets or liabilities; • Level 2— Quoted prices for similar assets or liabilities in active markets or inputs that are observable; and • Level 3— Inputs that are unobservable. The following tables summarize assets measured at fair value on a recurring basis (in thousands): April 30, 2022 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 6,330 $ — $ — Marketable securiti U.S. treasury and government agency securities — 23,902 — Corporate debt securities — 69,821 — State and local government securities — 16,729 — Other long-term assets: Money market funds 6,657 — — Total $ 12,987 $ 110,452 $ — January 29, 2022 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 17,890 $ — $ — Marketable securiti U.S. treasury and government agency securities — 28,432 — Corporate debt securities — 123,196 — State and local government securities — 25,632 — Other long-term assets: Money market funds 6,829 — — Total $ 24,719 $ 177,260 $ — 13 The Level 2 marketable securities include U.S treasury and government agency securities, corporate debt securities, state and local municipal securities and variable-rate demand notes. Fair values are based on quoted market prices for similar assets or liabilities or determined using inputs that use readily observable market data that are actively quoted and can be validated through external sources, including third-party pricing services, brokers and market transactions. We review the pricing techniques and methodologies of the independent pricing service for Level 2 investments and believe that its policies adequately consider market activity, either based on specific transactions for the security valued or based on modeling of securities with similar credit quality, duration, yield and structure that were recently traded. We monitor security-specific valuation trends and we make inquiries with the pricing service about material changes or the absence of expected changes to understand the underlying factors and inputs and to validate the reasonableness of the pricing. Assets and liabilities recognized or disclosed at fair value on the consolidated financial statements on a nonrecurring basis include items such as fixed assets, operating lease right-of-use-assets, goodwill, other intangible assets and other assets. These assets are measured at fair value if determined to be impaired. During the three months ended April 30, 2022, we recognized no impairment losses related to operating lease right-of-use assets or fixed assets. During the three months ended May 1, 2021, we recognized impairment losses of $ 2.1 million related to operating lease right-of-use assets and no impairment losses related to fixed assets. 8. Stockholders’ Equity Share Repurchase— In December 2021, our Board of Directors approved the repurchase of up to an aggregate of $ 150 million of common stock. This repurchase program superseded all previously approved and authorized stock repurchase programs, including the repurchase programs previously approved by the Board of Directors in September 2021 and December 2020. The December 2021 stock repurchase program was completed in March 2022. The following table summarizes common stock repurchase activity during the three months ended April 30, 2022 (in thousands, except per share amounts): Number of shares repurchased 1,914 Average price per share of repurchased shares (with commission) $ 43.51 Total cost of shares repurchased $ 83,288 Accumulated Other Comprehensive (Loss) Income — The components of accumulated other comprehensive (loss) income and the adjustments to other comprehensive (loss) income for amounts reclassified from accumulated other comprehensive (loss) income into net income are as follows (in thousands): Foreign currency translation adjustments Net unrealized (losses) gains on available-for- sale debt securities Accumulated other comprehensive (loss) income Three months ended April 30, 2022: Balance at January 29, 2022 $ ( 12,505 ) $ ( 958 ) $ ( 13,463 ) Other comprehensive loss, net (1) ( 6,372 ) ( 3,439 ) ( 9,811 ) Balance at April 30, 2022 $ ( 18,877 ) $ ( 4,397 ) $ ( 23,274 ) Three months ended May 1, 2021: Balance at January 30, 2021 $ ( 1,407 ) $ 2,346 $ 939 Other comprehensive loss, net (1) 268 ( 761 ) ( 493 ) Balance at May 1, 2021 $ ( 1,139 ) $ 1,585 $ 446 (1) Other comprehensive loss before reclassifications was $ 3.4 million and $ 0.8 million, net of taxes for net unrealized losses on available-for-sale investments for the three months ended April 30, 2022 and May 1, 2021. Net unrealized gains, net of taxes, reclassified from accumulated other comprehensive (loss) income were less than $ 0.1 million for the three months ended April 30, 2022 and May 1, 2021, respectively. Foreign currency translation adjustments are not adjusted for income taxes as they relate to permanent investments in our international subsidiaries. 14 9. Equity Awards We maintain several equity incentive plans under which we may grant incentive stock options, nonqualified stock options, stock bonuses, restricted stock awards, restricted stock units and stock appreciation rights to employees (including officers), non-employee directors and consultants. We account for stock-based compensation by recording the estimated fair value of stock-based awards granted as compensation expense over the vesting period, net of estimated forfeitures. Stock-based compensation expense is attributed to earnings using a straight-line method. We estimate forfeitures of stock-based awards based on historical experience and expected future activity. The fair value of restricted stock awards and units is measured based on the closing price of our common stock on the date of grant. The fair value of stock option grants is estimated on the date of grant using the Black-Scholes option pricing model. Total stock-based compensation expense is recognized on our condensed consolidated statements of operations as follows (in thousands): Three Months Ended April 30, 2022 May 1, 2021 Cost of goods sold $ 344 $ 371 Selling, general and administrative expenses 1,356 1,369 Total stock-based compensation expense $ 1,700 $ 1,740 At April 30, 2022, there was $ 13.0 million of total unrecognized compensation cost related to unvested stock options, restricted stock awards and restricted stock units. This cost has a weighted-average remaining recognition period of 1.4 years. The following table summarizes restricted stock awards and restricted stock units, collectively defined as “restricted equity awards” (in thousands, except grant date weighted-average fair value): Restricted Stock Awards/Units Grant Date Weighted- Average Fair Value Intrinsic Value Outstanding at January 29, 2022 443 $ 28.31 Granted 146 $ 40.66 Vested ( 166 ) $ 25.69 Forfeited ( 6 ) $ 30.61 Outstanding at April 30, 2022 417 $ 33.66 $ 15,270 We had 0.3 million stock options outstanding at April 30, 2022 with a weighted average exercise price of $ 29.30 and 0.3 million stock options outstanding at January 29, 2022 with a weighted average exercise price of $ 26.37 . 10. Earnings per Share, Basic and Diluted The following table sets forth the computation of basic and diluted earnings per share (in thousands, except per share amounts): Three Months Ended April 30, 2022 May 1, 2021 Net (loss) income $ ( 397 ) $ 26,385 Weighted average common shares for basic earnings per sh 19,533 25,167 Dilutive effect of stock options and restricted stock — 509 Weighted average common shares for diluted earnings per sh 19,533 25,676 Basic (loss) earnings per share $ ( 0.02 ) $ 1.05 Diluted (loss) earnings per share $ ( 0.02 ) $ 1.03 There were 0.4 million and 0.1 million anti-dilutive common shares related to stock-based awards for the three months ended April 30, 2022 and May 1, 2021, respectively. 15 Item 2: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes included elsewhere in this document. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those discussed in “Item 1A Risk Factors” in our Form 10-K filed with the SEC on March 14, 2022 and in this Form 10-Q. Forward-looking statements relate to our expectations for future events and future financial performance. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. These statements are only predictions. Uncertainty is further heightened given the innumerable considerations related to COVID-19. Results and trends may differ materially depending on a variety of factors, including, but not limited t further spread of COVID-19, or its variants; regulatory measures or recommendations put in place to limit the spread of COVID-19, including restrictions on business operations and social distancing requirements, the length and severity of such restrictions; the potential for a resurgence of COVID-19 infections in a given geographic region, and fluctuations in U.S. and international economies. Actual events or results may differ materially. Factors which could affect our financial results are described below under the heading “Risk Factors” and in “Item 1A Risk Factors” of our Form 10-K referred to in the preceding paragraph. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Moreover, neither we nor any other person assume responsibility for the accuracy and completeness of the forward-looking statements. We undertake no duty to update any of the forward-looking statements after the date of this report to conform such statements to actual results or to changes in our expectations. Fiscal 2022 is the 52-week period ending January 28, 2023. Fiscal 2021 was the 52-week period ending January 29, 2022. The first three months of fiscal 2022 was the 13-week period ended April 30, 2022. The first three months of fiscal 2021 was the 13-week period ended May 1, 2021. “Zumiez,” the “Company,” “we,” “us,” “its,” “our” and similar references refer to Zumiez Inc. and its wholly-owned subsidiaries. General Net sales constitute gross sales (net of actual and estimated returns and deductions for promotions) and shipping revenue. Net sales include our store sales and our ecommerce sales. We record the sale of gift cards as a current liability and recognize revenue when a customer redeems a gift card. Additionally, the portion of gift cards that will not be redeemed (“gift card breakage”) is recognized based on our historical redemption rate in proportion to the pattern of rights exercised by the customer. We report “comparable sales” based on net sales beginning on the first anniversary of the first day of operation of a new store or ecommerce business. We operate a sales strategy that integrates our stores with our ecommerce platform. There is significant interaction between our store sales and our ecommerce sales channels and we believe that they are utilized in tandem to serve our customers. Therefore, our comparable sales also include our ecommerce sales. Changes in our comparable sales between two periods are based on net sales of store or ecommerce businesses which were in operation during both of the two periods being compared and, if a store or ecommerce business is included in the calculation of comparable sales for only a portion of one of the two periods being compared, then that store or ecommerce business is included in the calculation for only the comparable portion of the other period. Any increase or decrease less than 25% in square footage of an existing comparable store, including remodels and relocations within the same mall, or temporary closures less than seven days does not eliminate that store from inclusion in the calculation of comparable sales. Any store or ecommerce business that we acquire will be included in the calculation of comparable sales after the first anniversary of the acquisition date. Current year foreign exchange rates are applied to both current year and prior year comparable sales to achieve a consistent basis for comparison. Stores closed due to the impacts of COVID-19 are excluded from our comparable sales calculation if they were closed for longer than seven days. Our ecommerce business has remained open during the COVID-19 pandemic and therefore remains reported in our comparable sales calculation. There may be variations in the way in which some of our competitors and other apparel retailers calculate comparable sales. As a result, data herein regarding our comparable sales may not be comparable to similar data made available by our competitors or other retailers. 16 Cost of goods sold consists of branded merchandise costs and our private label merchandise costs including design, sourcing, importing and inbound freight costs. Our cost of goods sold also includes shrinkage, buying, occupancy, distribution and warehousing costs (including associated depreciation) and freight costs for store merchandise transfers. This may not be comparable to the way in which our competitors or other retailers compute their cost of goods sold. Cash consideration received from vendors is reported as a reduction of cost of goods sold if the inventory has sold, a reduction of the carrying value of the inventory if the inventory is still on hand, or a reduction of selling, general and administrative expense if the amounts are reimbursements of specific, incremental and identifiable costs of selling the vendors’ products. With respect to the freight component of our ecommerce sales, amounts billed to our customers are included in net sales and the related freight cost is charged to cost of goods sold. Selling, general and administrative expenses consist primarily of store personnel wages and benefits, administrative staff and infrastructure expenses, freight costs for merchandise shipments from the distribution centers to the stores, store supplies, depreciation on fixed assets at our home office and stores, facility expenses, training expenses and advertising and marketing costs. Credit card fees, insurance, public company expenses, legal expenses, incentive compensation, stock-based compensation and other miscellaneous operating costs are also included in selling, general and administrative expenses. This may not be comparable to the way in which our competitors or other retailers compute their selling, general and administrative expenses. Key Performance Indicators Our management evaluates the following items, which we consider key performance indicators, in assessing our performan Net sales. Net sales constitute gross sales, net of sales returns and deductions for promotions, and shipping revenue. Net sales includes comparable sales and new store sales for all our store and ecommerce businesses. We consider net sales to be an important indicator of our current performance. Net sales results are important to achieve leveraging of our costs, including store payroll and store occupancy. Net sales also have a direct impact on our operating profit, cash and working capital. Gross profit. Gross profit measures whether we are optimizing the price and inventory levels of our merchandise. Gross profit is the difference between net sales and cost of goods sold. Any inability to obtain acceptable levels of initial markups or any significant increase in our use of markdowns could have an adverse effect on our gross profit and results of operations. Operating profit. We view operating profit as a key indicator of our success. Operating profit is the difference between gross profit and selling, general and administrative expenses. The key drivers of operating profit are net sales, gross profit, our ability to control selling, general and administrative expenses and our level of capital expenditures affecting depreciation expense. Diluted earnings per share. Diluted earnings per share is based on the weighted average number of common shares and common share equivalents outstanding during the period. We view diluted earnings per share as a key indicator of our success in increasing shareholder value. Trends and Uncertainties Affecting Our Results and Comparability We have been, and we expect to continue to be affected by a number of factors that may cause actual results to differ from our historical results or current expectations. These factors include the impact of the COVID-19 pandemic on our operations and financial results; foreign currency rates; changes in laws, including U.S. tax law changes; fluctuations in variable costs, and changes in general economic conditions in the markets in which we operate. Additionally, we have experienced increased costs during 2021 and early 2022 that are expected to continue. Our ability to raise our selling prices depends on market conditions and there may be periods during which we are unable to fully recover increases in our costs or experience an adverse impact on demand due to pricing actions. 17 Results of Operations The following table presents selected items on the condensed consolidated statements of operations as a percent of net sal Three Months Ended April 30, 2022 May 1, 2021 Net sales 100.0 % 100.0 % Cost of goods sold 67.2 63.0 Gross profit 32.8 37.0 Selling, general and administrative expenses 32.6 24.7 Operating profit 0.2 12.3 Interest and other income, net 0.3 0.4 Earnings before income taxes 0.5 12.7 Provision for income taxes 0.7 3.2 Net (loss) income (0.2 ) % 9.5 % In December 2019, a novel stain of coronavirus was first identified, and in March 2020, the World Health Organization categorized COVID-19 as a pandemic. In the best interest of our customers and employees and in line with governmental regulations, all stores were closed by March 19, 2020 . We began gradually re-opening physical stores at the end of the first fiscal quarter and into the second fiscal quarter, with the majority of our stores open through the third and fourth quarter. Our stores were open, on an aggregate basis, approximately 100% of the possible days across the global business during the three months ended April 30, 2022, compared to 93.4% for the three months ended May 1, 2021. Three Months (13 weeks) Ended April 30, 2022 Compared With Three Months (13 weeks) Ended May 1, 2021 Net Sales Net sales were $220.7 million for the three months ended April 30, 2022 compared to $279.1 million for the three months ended May 1, 2021, a decrease of $58.4 million or 20.9%. The decrease in sales was primarily driven by the benefits from domestic stimulus in the prior year when consumers were less likely to spend on travel and in-person entertainment due to COVID-19 and the continued inflationary pressures on the consumer. By region, North America sales decreased $62.3 million or 25.1% and other international sales (which consists of Europe and Australia sales) increased $3.9 million or 13.0% for the three months ended April 30, 2022 compared to the three months ended May 1, 2021. Excluding the impact of changes in foreign exchange rates, North America sales decreased $62.3 million or 25.0% and other international sales increased $6.6 million or 21.8% for the three months ended April 30, 2022 compared to the three months ended May 1, 2021. Net sales included a decrease in transactions and dollars per transaction. Dollars per transaction decreased due to decrease in units per transaction, partially offset by an increase in average unit retail. By category, net sales were primarily driven by a decrease in men’s clothing followed by hardgoods, accessories, women’s clothing, and footwear. Gross Profit Gross profit was $72.4 million for the three months ended April 30, 2022 compared to $103.2 million for the three months ended May 1, 2021, an decrease of $30.8 million, or 29.8%. As a percent of net sales, gross profit decreased 420 basis points for the three months ended April 30, 2022 to 32.8% as we saw significant deleverage on lower sales across our fixed costs as well as rate increases in numerous areas. The increase was primarily driven by a 300 basis point increase in store occupancy costs, a 80 basis point increase in web shipping costs, a 70 basis point increase in distribution center costs and a 20 basis point decrease in product margin. These decreases were partially offset by a 70 basis point decrease in impairment losses related to operating lease right-of-use assets. Selling, General and Administrative Expenses Selling, general and administrative (“SG&A”) expenses were $71.9 million for the three months ended April 30, 2022 compared to $68.9 million for the three months ended May 1, 2021, an increase of $3.0 million, or 4.3%. SG&A expenses as a percent of net sales increased 790 basis points for the three months ended April 30, 2022 to 32.6% . The increase was primarily driven by 400 basis points due to store wages tied to both deleverage on lower sales as well as rate increase, 200 basis points due to non-wage store costs primarily impacted by deleverage on lower sales, 180 basis points in Events as we saw cost increases and the movement of our important 100K event into Q1, 130 basis points in corporate costs and 110 basis points in non-store wages. These increases were partially offset by a 150 basis point increase related to a one-time German government subsidy related to our European business and a 80 basis point decrease in annual incentive compensation. 18 Net (Loss) Income Net loss for the three months ended April 30, 2022 was $0.4 million, or $0.02 loss per diluted share, compared with net income of $26.4 million, or $1.03 earnings per diluted share, for the three months ended May 1, 2021. Our effective income tax rate for the three months ended April 30, 2022 was a 134.2% provision for income taxes compared to a 25.7% provision for income taxes for the three months ended May 1, 2021. The increase was primarily due the exclusion of net losses in certain jurisdictions from our estimated annual effective tax rate, due to the uncertainty of the realization of our deferred tax assets in certain jurisdictions, and the proportion of earnings or loss before income taxes across jurisdictions. Liquidity and Capital Resources Our primary uses of cash are for operational expenditures, inventory purchases and capital investments, including new stores, store remodels, store relocations, store fixtures and ongoing infrastructure improvements. Additionally, we may use cash for the repurchase of our common stock. Historically, our main source of liquidity has been cash flows from operations. The significant components of our working capital are inventories and liquid assets such as cash, cash equivalents, current marketable securities and receivables, reduced by accounts payable, accrued payroll and accrued expenses. Our working capital position benefits from the fact that we generally collect cash from sales to customers the same day or within several days of the related sale, while we typically have longer payment terms with our vendors. Our capital requirements include construction and fixture costs related to the opening of new stores and remodel and relocation expenditures for existing stores. Future capital requirements will depend on many factors, including the pace of new store openings, the availability of suitable locations for new stores and the nature of arrangements negotiated with landlords. Our net investment to open a new store has varied significantly in the past due to a number of factors, including the geographic location and size of the new store, and is likely to vary significantly in the future. During fiscal 2022, we expect to spend approximately $30 million to $32 million on capital expenditures, a majority of which will relate to leasehold improvements and fixtures for the approximately 34 new stores we remain on track to open in fiscal 2022 and remodels or relocations of existing stores. There can be no assurance that the number of stores that we actually open in fiscal 2022 will not be different from the number of stores we plan to open, or that actual fiscal 2022 capital expenditures will not differ from our expectations. Operating Activities Net cash from operating activities decreased by $51.4 million to $24.5 million used in operating activities for the three months ended April 30, 2022 from $26.9 million provided operating activities for the three months ended May 1, 2021. Our operating cash flows result primarily from cash received from our customers, offset by cash payments we make for inventory, employee compensation, store occupancy expenses and other operational expenditures. Cash received from our customers generally corresponds to our net sales. Because our customers primarily use credit cards or cash to buy from us, our receivables from customers settle quickly. Historically, changes to our operating cash flows have been driven primarily by changes in operating income, which is impacted by changes to non-cash items such as depreciation, amortization and accretion, deferred taxes, and changes to the components of working capital. Investing Activities Net cash provided by investing activities was $58.6 million for the three months ended April 30, 2022 related to $62.0 million in net sales of marketable securities, partially offset by $3.6 million of capital expenditures primarily for new store openings and existing store remodels or relocations. Net cash used in investing activities was $21.3 million for the three months ended May 1, 2021, related to $18.4 million in net purchases of marketable securities and $2.8 million of capital expenditures primarily for new store openings and existing store remodels or relocations . Financing Activities Net cash used in financing activities for the three months ended April 30, 2022 was $87.5 million, related to $87.9 million used in the repurchase of common stock and $0.4 million in payments for tax withholding obligations upon vesting of restricted stock, partially offset by $0.8 million in proceeds from the issuance and exercise of stock-based awards. Net cash provided financing activities for the three months ended May 1, 2021 was $1.6 million, related to $2.0 million in proceeds from the issuance and exercise of stock-based awards partially offset by $0.5 million in payments for tax withholding obligations upon vesting of restricted stock. 19 Sources of Liquidity Our most significant sources of liquidity continue to be funds generated by operating activities and available cash, cash equivalents and current marketable securities. We expect these sources of liquidity and available borrowings under our revolving credit facility will be sufficient to meet our foreseeable cash requirements for operations and planned capital expenditures for at least the next twelve months. Beyond this time frame, if cash flows from operations are not sufficient to meet our capital requirements, then we will be required to obtain additional equity or debt financing in the future. However, there can be no assurance that equity or debt financing will be available to us when we need it or, if available, that the terms will be satisfactory to us and not dilutive to our then-current shareholders. We maintain a secured credit agreement with Wells Fargo Bank, N.A., which provided us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024. The credit facility is available for working capital and other general corporate purposes. The credit facility provides for the issuance of standby letters of credit in an amount not to exceed $17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $10.0 million and with terms not to exceed 120 days. The credit facility will mature on December 1, 2024. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1.35% per annum. There were no open letters of credit outstanding at April 30, 2022 or January 29, 2022. Additionally, we maintain a credit facility with UBS Switzerland AG of up to 15.0 million Euro ($15.8 million as of April 30, 2022), which may be used to guarantee payment of letters of credit. The credit facility bears interest at 1.25%. There were no borrowings outstanding under this credit facility at April 30, 2022 or January 29, 2022. At April 30, 2022, we did not have any “off-balance sheet arrangements” as defined in relevant SEC regulations that are reasonably likely to have a current or future effect on our financial condition, results of operation, liquidity, capital expenditures or capital resources. Critical Accounting Estimates Our condensed consolidated financial statements are prepared in accordance with U.S. GAAP. In connection with the preparation of our condensed consolidated financial statements, we are required to make assumptions and estimates about future events and apply judgments that affect the reported amounts of assets, liabilities, revenue, expenses and the related disclosures. We base our assumptions, estimates and judgments on historical experience, current trends and other factors that we believe to be relevant at the time our condensed consolidated financial statements are prepared. On a regular basis, we review the accounting policies, assumptions, estimates and judgments to ensure that our condensed consolidated financial statements are presented fairly and in accordance with U.S. GAAP. However, because future events and their effects cannot be determined with certainty, actual results could differ from our assumptions and estimates, and such differences could be material. There have been no significant changes to our critical accounting estimates as discussed in our Annual Report on Form 10-K for the fiscal year ended January 29, 2022. 20 Risk Factors Investing in our securities involves a high degree of risk. The following risk factors, issues and uncertainties should be considered in evaluating our future prospects. In particular, keep these risk factors in mind when you read “forward-looking” statements elsewhere in this report. Forward-looking statements relate to our expectations for future events and time periods. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. Any of the following risks could harm our business, operating results or financial condition and could result in a complete loss of your investment. Additional risks and uncertainties that are not yet identified or that we currently think are immaterial may also harm our business and financial condition in the future. The novel coronavirus (COVID-19) global pandemic could continue to have a material impact on our business. Since being declared a pandemic by the World Health Organization in March 2020, COVID-19 has negatively impacted global economies, disrupted consumer spending and global supply chains, and created significant volatility and disruption of financial markets. The COVID-19 global pandemic could continue to have a material impact on our business, including our results of operations, financial condition and liquidity. The duration and severity of the COVID-19 pandemic will determine its ongoing impact on our business, including our ability to execute business strategies and initiatives in their expected time frame, the effect on our suppliers and disruptions to the global supply chain, and the ability of our customers to pay for our services and products. A resurgence in the spread of COVID-19, or its variants, could force the closure of our retail stores globally, as we saw in the first quarter of 2020. We could also experience store closures on a regional basis, like we have seen in 2020 and 2021. We may face long term store closure requirements and other operational restrictions with respect to some or all of our physical locations for prolonged periods of time due to, among other factors, evolving and increasingly stringent governmental restrictions, public health directives, quarantine policies, or social distancing measures, resulting in a materially adverse impact to our financial results. With store closures withstanding, consumer fears about becoming ill with the virus may persist, adversely affecting traffic to our stores. Consumer spending may also be negatively impacted by general economic downturn and decreased consumer confidence resulting from the COVID-19 global pandemic. This may negatively impact sales in our stores and our ecommerce channel. The potential reduction in consumer visits to our stores, caused by COVID-19, and any decreased spending at retail stores or online caused by a lack of consumer confidence and spending following the pandemic, could result in a loss of sales and profits. A rise in the spread of COVID-19 also has the potential to significantly impact our supply chain if manufacturers of our products, distribution centers where we manage our inventory, or operations of our logistics and other service providers are disrupted, temporarily closed or experience worker shortages. Due to the seasonality of our business, widespread closures during peak shopping periods could disproportionally impact financial results. The inability to effectively adapt to changes in consumer behavior could result in excess inventory and adversely impact financial results. We may experience adverse effects of prolonged operating restrictions related to in-person marketing and training events. The COVID-19 pandemic’s impact on macroeconomic conditions could alter the functioning of financial and capital markets, foreign currency exchange rates, commodity prices, and interest rates. After the COVID-19 global pandemic has settled, we may continue to experience adverse impacts to our business as a result of evolving macroeconomic factors, including general economic uncertainty, unemployment rates, high inflation, recessionary pressures and any actual economic recession that has occurred or may occur in the future. The extent of the impact of the COVID-19 global pandemic on our business remains uncertain and difficult to predict, given the innumerable unknowns regarding the duration and severity of the pandemic. Failure to anticipate, identify and respond to changing fashion trends, customer preferences and other fashion-related factors could have a material adverse effect on us. C ustomer tastes and fashion trends in our market are volatile and tend to change rapidly. Our success depends on our ability to effectively anticipate, identify and respond to changing fashion tastes and consumer preferences, and to translate market trends into appropriate, saleable product offerings in a timely manner. If we are unable to successfully anticipate, identify or respond to changing styles or trends and misjudge the market for our products or any new product lines, including adequately anticipating the correct mix and trends of our private label merchandise, our sales may be lower than predicted and we may be faced with a substantial amount of unsold inventory or missed opportunities. In response to such a situation, we may be forced to rely on markdowns or promotional sales to dispose of excess or slow-moving inventory, which could have a material adverse effect on our results of operations. We may be unable to compete favorably in the highly competitive retail industry, and if we lose customers to our competitors, our sales could decrease. 21 The teenage and young adult retail apparel, footwear, accessories and hardgoods industry is highly competitive. We compete with other retailers for vendors, teenage and young adult customers, suitable store locations, qualified store associates, management personnel, online marketing content, social media engagement and ecommerce traffic. Some of our competitors are larger than we are and have substantially greater financial and marketing resources, including advanced ecommerce market capabilities. Additionally, some of our competitors may offer more options for free and/or expedited shipping for ecommerce sales. Direct competition with these and other retailers may increase significantly in the future, which could require us, among other things, to lower our prices and could result in the loss of our customers. Current and increased competition could have a material adverse effect on our business, results of operations and financial condition. U.S. and global economic and political uncertainty, coupled with cyclical economic trends in retailing, could have a material adverse effect on our results of operations. Our retail market historically has been subject to substantial cyclicality. As the U.S. and global economic and political conditions change, the trends in discretionary consumer spending become unpredictable and discretionary consumer spending could be reduced due to uncertainties about the future. Economic and consumer confidence can also be affected by a variety of factors, including housing prices, unemployment rates and inflation. When disposable income decreases or discretionary consumer spending is reduced due to a decline in consumer confidence, purchases of apparel and related products may decline. A deterioration in macroeconomic conditions or consumer confidence or uncertainty in the U.S. and global economies and political environment could have a material adverse impact on our results of operations and financial position. In response to a decline in disposable income and consumer confidence, we believe the “value” message has become more important to consumers. As a retailer that sells approximately 87% branded merchandise, this trend may negatively affect our business, as we generally will have to charge more than vertically integrated private label retailers or we may be forced to rely on promotional sales to compete in our market which could have a material adverse effect on our financial position . Most of our merchandise is produced by foreign manufacturers; therefore, the availability, quality and costs of our merchandise may be negatively affected by risks associated with international trade and other international conditions. Most of our merchandise is produced by manufacturers around the world. Some of these facilities are located in regions that may be affected by natural disasters, public health concerns, or emergencies, such as COVID-19 and other communicable diseases or viruses, political instability or other conditions that could cause a disruption in trade. Trade restrictions such as increased tariffs or quotas, or both, could also increase the cost and reduce the supply of merchandise available to us. Any reduction in merchandise available to us or any increase in its cost due to tariffs, quotas or local issues that disrupt trade could have a material adverse effect on our results of operations. This includes costs to comply with regulatory developments regarding the use of “conflict minerals,” certain minerals originating from the Democratic Republic of Congo and adjoining countries, which may affect the sourcing and availability of raw materials used by manufacturers and subject us to increased costs associated with our products, processes or sources of our inputs. Our business could be adversely affected by disruptions in the supply chain, such as strikes, work stoppages, or port closures. A decrease in consumer traffic could cause our sales to be less than expected. We depend heavily on generating customer traffic to our stores and websites. This includes locating many of our stores in prominent locations within successful shopping malls. Sales at these stores are derived, in part, from the volume of traffic in those malls. Our stores benefit from the ability of a mall’s “anchor” tenants, generally large department stores and other area attractions, to generate consumer traffic in the vicinity of our stores and the continuing popularity of malls as shopping destinations. In addition, some malls that were in prominent locations when we opened our stores may cease to be viewed as prominent. If this trend continues or if the popularity of mall shopping continues to decline generally among our customers, our sales may decline, which would impact our results of operations. Additionally, we may experience other risks associated with operating leases, such as lease termination or impairment of operating lease right-of-use assets. These risks may include circumstances that are not within our control, such as changes in fair market rent. Furthermore, we depend on generating increased traffic to our ecommerce business and converting that traffic into sales. This requires us to achieve expected results from our marketing and social media campaigns, accuracy of data analytics, reliability of our website, network, and transaction processing and a high-quality online customer experience. Our sales volume and customer traffic in our stores and on our websites generally could be adversely affected by, among other things, economic downturns, competition from other ecommerce retailers, non-mall retailers and other malls, increases in gasoline prices, fluctuations in exchange rates in border or tourism-oriented locations and the closing or decline in popularity of other stores in the malls in which we are located. Also, geopolitical events, including the threat of terrorism, or widespread health emergencies, such as COVID-19 and other communicable diseases, viruses, or pandemics, could cause people to avoid our stores in shopping malls and alter consumer trends. An uncertain economic outlook or continued bankruptcies of mall-based retailers could curtail new shopping mall development, decrease shopping mall and ecommerce traffic, reduce the number of hours that shopping mall operators keep their shopping malls open or force them to cease operations entirely. A reduction in consumer traffic to our stores or websites could have a material adverse effect on our business, results of operations and financial condition. 22 Our growth strategy depends on our ability to grow customer engagement in our current markets and expand into new markets, which could strain our resources and cause the performance of our existing business to suffer. Our growth largely depends on our ability to optimize our customer engagement in our current trade areas and operate successfully in new geographic markets. However, our ability to open stores in new geographic markets, including international locations, is subject to a variety of risks and uncertainties, and we may be unable to open new stores as planned or have access to desirable lease space, and any failure to successfully open and operate in new markets could have a material adverse effect on our results of operations. We intend to continue to open new stores in future years, while remodeling a portion of our existing store base such that we have the optimum number of stores in any given trade area. The expansion into new markets may present competitive, merchandising, hiring and distribution challenges that are different from those currently encountered in our existing markets. In addition, our proposed expansion will place increased demands on our operational, managerial and administrative resources. These increased demands could cause us to operate our business less effectively, which in turn could cause deterioration in the financial performance of our individual stores and our overall business. In addition, successful execution of our growth strategy may require that we obtain additional financing, and we may not be able to obtain that financing on acceptable terms or at all. Failure to successfully integrate any businesses that we acquire could have an adverse impact on our results of operations and financial performance. We may, from time to time, acquire businesses, such as our acquisition of Blue Tomato and Fast Times. We may experience difficulties in integrating any businesses we may acquire, including their stores, websites, facilities, personnel, financial systems, distribution, operations and general operating procedures, and any such acquisitions may also result in the diversion of our capital and our management’s attention from other business issues and opportunities. If we experience difficulties in integrating acquisitions or if such acquisitions do not provide the benefits that we expect to receive, we could experience increased costs and other operating inefficiencies, which could have an adverse effect on our results of operations and overall financial performance. Our plans for international expansion include risks that could have a negative impact on our results of operations. We plan to continue to open new stores in the Canadian, European, and Australian markets. We may continue to expand internationally into other markets, either organically, or through additional acquisitions. International markets may have different competitive conditions, consumer tastes and discretionary spending patterns than our existing U.S. market. As a result, operations in international markets may be less successful than our operations in the U.S. Additionally, consumers in international markets may not be familiar with us or the brands we sell, and we may need to build brand awareness in the markets. Furthermore, we have limited experience with the legal and regulatory environments and market practices in new international markets and cannot guarantee that we will be able to penetrate or successfully operate in these new international markets. We also expect to incur additional costs in complying with applicable foreign laws and regulations as they pertain to both our products and our operations. Accordingly, for the reasons noted above, our plans for international expansion include risks that could have a negative impact on our results of operations. Our sales and inventory levels fluctuate on a seasonal basis. Accordingly, our quarterly results of operations are volatile and may fluctuate significantly. Our quarterly results of operations have fluctuated significantly in the past and can be expected to continue to fluctuate significantly in the future. Our sales and profitability are typically disproportionately higher in the third and fourth fiscal quarters of each fiscal year due to increased sales during the back-to-school and winter holiday shopping seasons. Sales during these periods cannot be used as an accurate indicator of annual results. As a result of this seasonality, any factors negatively affecting us during the last half of the year, including unfavorable economic conditions, adverse weather or our ability to acquire seasonal merchandise inventory, could have a material adverse effect on our financial condition and results of operations for the entire year. In addition, in order to prepare for the back-to-school and winter holiday shopping seasons, we must order and keep in stock significantly more merchandise than we carry during other times of the year. Any unanticipated decrease in demand for our products during these peak shopping seasons could require us to sell excess inventory at a substantial markdown, which could have a material adverse effect on our business, results of operations and financial condition. Our quarterly results of operations are affected by a variety of other factors, includin • the timing of new store openings and the relative proportion of our new stores to mature stores; • whether we are able to successfully integrate any new stores that we acquire and the presence of any unanticipated liabilities in connection therewith; • fashion trends and changes in consumer preferences; • calendar shifts of holiday or seasonal periods; 23 • changes in our merchandise mix; • timing of promotional events; • general economic conditions and, in particular, the retail sales environment; • actions by competitors or mall anchor tenants; • weather conditions; • the level of pre-opening expenses associated with our new stores; and • inventory shrinkage beyond our historical average rates. If our information systems fail to function effectively or do not scale to keep pace with our planned growth, our operations could be disrupted and our financial results could be harmed. If our information systems, including hardware and software, do not work effectively, this could adversely impact the promptness and accuracy of our transaction processing, financial accounting and reporting and our ability to manage our business and properly forecast operating results and cash requirements. Additionally, we rely on third-party service providers for certain information systems functions. If a service provider fails to provide the data quality, communications capacity or services we require, the failure could interrupt our services and could have a material adverse effect on our business, financial condition and results of operations. To manage the anticipated growth of our operations and personnel, we may need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. If we fail to meet the requirements to adequately maintain the privacy and security of our personal data and business information, we may be subjected to adverse publicity, litigation and significant expenses. Information systems are susceptible to an increasing threat of continually evolving cybersecurity risks. If we fail to maintain or adequately maintain security systems, devices and activity monitoring to prevent unauthorized access to our network, systems and databases containing confidential, proprietary, and personally identifiable information, we may be subject to additional risk of adverse publicity, litigation or significant expense. Nevertheless, if unauthorized parties gain access to our networks, systems or databases, they may be able to steal, publish, delete or modify confidential information. In such circumstances, we could be held liable to our customers or other parties or be subject to regulatory or other actions for breaching privacy rules and we may be exposed to reputation damage and loss of customers’ trust and business. This could result in costly investigations and litigation, civil or criminal penalties and adverse publicity that could adversely affect our financial condition, results of operations and reputation. Actual or anticipated attacks may cause us to incur increasing costs, including costs to deploy additional resources, train employees, and engage third-parties. Further, the regulatory environment surrounding information security, cybersecurity and privacy is increasingly demanding. If we are unable to comply with the new and changing security standards, we may be subject to fines, restrictions and financial exposure, which could adversely affect our retail operations. Significant fluctuations and volatility in the cost of raw materials, global labor, shipping and other costs related to the production of our merchandise may have a material adverse effect on our business, results of operations and financial conditions. Increases in the cost of raw materials, global labor costs, freight costs and other shipping costs in the production and transportation of our merchandise can result in higher costs for this merchandise. The costs for these products are affected by weather, consumer demand, government regulation, speculation on the commodities market and other factors that are generally unpredictable and beyond our control. Our gross profit and results of operations could be adversely affected to the extent that the selling prices of our products do not increase proportionately with the increases in the costs of raw materials. Increasing labor costs and oil-related product costs, such as manufacturing and transportation costs, could also adversely impact gross profit. Additionally, significant changes in the relationship between carrier capacity and shipper demand could increase transportation costs, which could also adversely impact gross profit. 24 Fluctuations in foreign currency exchange rates could impact our financial condition and results of operations. We are exposed to foreign currency exchange rate risk with respect to our sales, profits, assets and liabilities denominated in currencies other than the U.S. dollar. As a result, the fluctuation in the value of the U.S. dollar against other currencies could have a material adverse effect on our results of operations, financial condition and cash flows. Upon translation, operating results may differ materially from expectations. As we continue to expand our international operations, our exposure to exchange rate fluctuations will increase. Tourism spending may be affected by changes in currency exchange rates, and as a result, sales at stores with higher tourism traffic may be adversely impacted by fluctuations in currency exchange rates. Further, although the prices charged by vendors for the merchandise we purchase are primarily denominated in U.S. dollars, a decline in the relative value of the U.S. dollar to foreign currencies could lead to increased merchandise costs, which could negatively affect our competitive position and our results of operations. Our business could be adversely affected by increased labor costs, including costs related to an increase in minimum wage and health care. Labor is one of the primary components in the cost of operating our business. Increased labor costs, whether due to competition, unionization, increased minimum wage, state unemployment rates, health care, mandated safety protocols, or other employee benefits costs may adversely impact our operating profit. A considerable amount of our store team members are paid at rates related to the federal or state minimum wage and any changes to the minimum wage rate may increase our operating expenses. Furthermore, inconsistent increases in state and or city minimum wage requirements limit our ability to increase prices across all markets and channels. Additionally, we are self-insured with respect to our health care coverage in the U.S. and do not purchase third party insurance for the health insurance benefits provided to employees with the exception of pre-defined stop loss coverage, which helps limit the cost of large claims. There is no assurance that future health care legislation will not adversely impact our results or operations. Our business could suffer if a manufacturer fails to use acceptable labor and environmental practices. We do not control our vendors or the manufacturers that produce the products we buy from them, nor do we control the labor and environmental practices of our vendors and these manufacturers. The violation of labor, safety, environmental and/or other laws and standards by any of our vendors or these manufacturers, or the divergence of the labor and environmental practices followed by any of our vendors or these manufacturers from those generally accepted as ethical in the U.S., could interrupt, or otherwise disrupt, the shipment of finished products to us or damage our reputation. Any of these, in turn, could have a material adverse effect on our reputation, financial condition and results of operations. In that regard, most of the products we sell are manufactured internationally, primarily in Asia, Mexico and Central America, which may increase the risk that the labor and environmental practices followed by the manufacturers of these products may differ from those considered acceptable in the U.S. Additionally, our products are subject to regulation of and regulatory standards set by various governmental authorities with respect to quality and safety. These regulations and standards may change from time to time. Our inability to comply on a timely basis with regulatory requirements could result in significant fines or penalties, which could adversely affect our reputation and sales. Issues with the quality and safety of merchandise we sell, regardless of our culpability, or customer concerns about such issues, could result in damage to our reputation, lost sales, uninsured product liability claims or losses, merchandise recalls and increased costs. If we fail to develop and maintain good relationships with vendors or if a vendor is otherwise unable or unwilling to supply us with adequate quantities of their products at acceptable prices, our business and financial performance could suffer. Our business is dependent on developing and maintaining good relationships with a large number of vendors to provide our customers with an extensive selection of current and relevant brands. In addition to maintaining our large number of current vendor relationships, each year we are identifying, attracting and launching new vendors to provide a diverse and unique product assortment. We believe that we generally are able to obtain attractive pricing and terms from vendors because we are perceived as a desirable customer, and deterioration in our relationship with our vendors could have a material adverse effect on our business. However, there can be no assurance that our current vendors or new vendors will provide us with an adequate supply or quality of products or acceptable pricing. Our vendors could discontinue selling to us, raise the prices they charge, sell through direct channels or allow their merchandise to be discounted by other retailers. There can be no assurance that we will be able to acquire desired merchandise in sufficient quantities on terms acceptable to us in the future. In addition, certain vendors sell their products directly to the retail market and therefore compete with us directly and other vendors may decide to do so in the future. There can be no assurance that such vendors will not decide to discontinue supplying their products to us, supply us only less popular or lower quality items, raise the prices they charge us or focus on selling their products directly. 25 In addition, a number of our vendors are smaller, less capitalized companies and are more likely to be impacted by unfavorable general economic and market conditions than larger and better capitalized companies. These smaller vendors may not have sufficient liquidity during economic downturns to properly fund their businesses and their ability to supply their products to us could be negatively impacted. Any inability to acquire suitable merchandise at acceptable prices, or the loss of one or more key vendors, could have a material adverse effect on our business, results of operations and financial condition. Our business is susceptible to weather conditions that are out of our control, including the potential risks of unpredictable weather patterns and any weather patterns associated with naturally occurring global climate change, and the resultant unseasonable weather could have a negative impact on our results of operations. Our business is susceptible to unseasonable weather conditions. For example, extended periods of unseasonably warm temperatures during the winter season or cool weather during the summer season (including any weather patterns associated with global warming and cooling) could render a portion of our inventory incompatible with those unseasonable conditions. These prolonged unseasonable weather conditions could have a material adverse effect on our business and results of operations. Our omni-channel strategy may not have the return we anticipate, which could have an adverse effect on our results of operations. We are executing an omni-channel strategy to enable our customers to shop wherever, whenever and however they choose to engage with us. Our omni-channel strategy may not deliver the results we anticipate or may not adequately anticipate changing consumer trends, preferences and expectations. We will continue to develop additional ways to execute our superior omni-channel experience and interact with our customers, which requires significant investments in IT systems and changes in operational strategy, including localization, online and in-store point of sale systems, order management system, and transportation management system. If we fail to effectively integrate our store and ecommerce shopping experiences, effectively scale our IT structure or we do not realize the return on our investments that we anticipate our operating results could be adversely affected. Our competitors are also investing in omni-channel initiatives. If our competitors are able to be more effective in their strategy, it could have an adverse effect on our results of operations. If we our omni-channel strategy fails to meet customer expectations related to functionality, timely delivery, or customer experience, our business and results of operations may be adversely affected. Additionally, to manage the anticipated growth of our operations and personnel, we will need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. If we lose key executives or are unable to attract and retain the talent required for our business, our financial performance could suffer. Our performance depends largely on the efforts and abilities of our key executives. If we lose the services of one or more of our key executives, we may not be able to successfully manage our business or achieve our growth objectives. Furthermore, as our business grows, we will need to attract and retain additional qualified personnel in a timely manner and we may not be able to do so. Failure to meet our staffing needs could adversely affect our ability to implement our growth strategy and could have a material impact on our results of operations. Our success depends in part upon our ability to attract, motivate and retain a sufficient number of qualified employees who understand and appreciate our culture and brand and are able to adequately represent this culture. Qualified individuals of the requisite caliber, skills and number needed to fill these positions may be in short supply in some areas and the employee turnover rate in the retail industry is high. Our business depends on the ability to hire and retain qualified technical and support roles for procurement, distribution, ecommerce and back office functions. Competition for qualified employees in these areas could require us to pay higher wages to attract a sufficient number of suitable employees. If we are unable to hire and retain store managers and store associates capable of consistently providing a high level of customer service, as demonstrated by their enthusiasm for our culture and knowledge of our merchandise, our ability to open new stores may be impaired and the performance of our existing and new stores could be materially adversely affected. We are also dependent upon temporary personnel to adequately staff our operations particularly during busy periods such as the back-to-school and winter holiday seasons. There can be no assurance that we will receive adequate assistance from our temporary personnel, or that there will be sufficient sources of temporary personnel. If we are unable to hire qualified temporary personnel, our results of operations could be adversely impacted. Although none of our employees are currently covered by collective bargaining agreements, we cannot guarantee that our employees will not elect to be represented by labor unions in the future, which could increase our labor costs and could subject us to the risk of work stoppages and strikes. Any such failure to meet our staffing needs, any material increases in employee turnover rates, any increases in labor costs or any work stoppages, interruptions or strikes could have a material adverse effect on our business or results of operations. 26 A decline in cash flows from operations could have a material adverse effect on our business and growth plans. We depend on cash flow from operations to fund our current operations and our growth strategy, including the payment of our operating leases, wages, store operation costs and other cash needs. If our business does not generate sufficient cash flow from operating activities, and sufficient funds are not otherwise available to us from borrowings under our credit facility or from other sources, we may not be able to pay our operating lease expenses, grow our business, respond to competitive challenges or fund our other liquidity and capital needs, which could have a material adverse effect on our business. The terms of our secured credit agreement impose certain restrictions on us that may impair our ability to respond to changing business and economic conditions, which could have a significant adverse impact on our business. Additionally, our business could suffer if our ability to acquire financing is reduced or eliminated. We maintain a secured credit agreement with Wells Fargo Bank, N.A., which provides us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024. The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. The credit facility contains certain financial maintenance covenants that generally require us to have net income after taxes of at least $5.0 million on a trailing four-quarter basis and a quick ratio of 1.25:1.0 at the end of each fiscal quarter. These restrictions could (1) limit our ability to plan for or react to market conditions or meet capital needs or otherwise restrict our activities or business plans; and (2) adversely affect our ability to finance our operations, strategic acquisitions, investments or other capital needs or to engage in other business activities that would be in our interest. The credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. Additionally, we cannot be assured that our borrowing relationship with our lenders will continue or that our lenders will remain able to support their commitments to us in the future. If our lenders fail to do so, then we may not be able to secure alternative financing on commercially reasonable terms, or at all. Our business could suffer with the closure or disruption of our home office or our distribution centers. In the U.S., we rely on a single distribution center located in Corona, California to receive, store and distribute the vast majority of our merchandise to our domestic stores. Internationally, we operate a combined distribution and ecommerce fulfillment center located in Graz, Austria that supports our Blue Tomato ecommerce and store operations in Europe. We operate a distribution center located in Delta, British Columbia, Canada to distribute our merchandise to our Canadian stores. We operate a distribution and ecommerce fulfillment center located in Melbourne, Australia to distribute our merchandise to our Australian stores. Additionally, we are headquartered in Lynnwood, Washington. As a result, unforeseen events, including war, terrorism, other political instability or conflicts, riots, public health issues (including widespread/pandemic illnesses such as coronavirus and other communicable diseases or viruses), a natural disaster or other catastrophic event that affects one of the regions where we operate these centers or our home office could significantly disrupt our operations and have a material adverse effect on our business, results of operations and financial condition. The effects of war, acts of terrorism, threat of terrorism, or other types of mall violence, could adversely affect our business. Most of our stores are located in shopping malls. Any threat of terrorist attacks or actual terrorist events, or other types of mall violence, such as shootings or riots, could lead to lower consumer traffic in shopping malls. In addition, local authorities or mall management could close shopping malls in response to security concerns. Mall closures, as well as lower consumer traffic due to security concerns, could result in decreased sales. Additionally, the threat, escalation or commencement of war or other armed conflict elsewhere, could significantly diminish consumer spending, and result in decreased sales. Decreased sales could have a material adverse effect on our business, financial condition and results of operations. 27 Our inability or failure to protect our intellectual property or our infringement of other’s intellectual property could have a negative impact on our operating results. We believe that our trademarks and domain names are valuable assets that are critical to our success. The unauthorized use or other misappropriation of our trademarks or domain names could diminish the value of the Zumiez, Blue Tomato, or Fast Times brands, our store concepts, our private label brands or our goodwill and cause a decline in our net sales. Although we have secured or are in the process of securing protection for our trademarks and domain names in a number of countries outside of the U.S., there are certain countries where we do not currently have or where we do not currently intend to apply for protection for certain trademarks. Also, the efforts we have taken to protect our trademarks may not be sufficient or effective. Therefore, we may not be able to prevent other persons from using our trademarks or domain names outside of the U.S., which also could adversely affect our business. We are also subject to the risk that we may infringe on the intellectual property rights of third parties. Any infringement or other intellectual property claim made against us, whether or not it has merit, could be time-consuming, result in costly litigation, cause product delays or require us to pay royalties or license fees. As a result, any such claim could have a material adverse effect on our operating results. Our operations expose us to the risk of litigation, which could lead to significant potential liability and costs that could harm our business, financial condition or results of operations. We employ a substantial number of full-time and part-time employees, a majority of whom are employed at our store locations. As a result, we are subject to a large number of federal, state and foreign laws and regulations relating to employment. This creates a risk of potential claims that we have violated laws related to discrimination and harassment, health and safety, wage and hour laws, criminal activity, personal injury and other claims. We are also subject to other types of claims in the ordinary course of our business. Some or all of these claims may give rise to litigation, which could be time-consuming for our management team, costly and harmful to our business. In addition, we are exposed to the risk of class action litigation. The costs of defense and the risk of loss in connection with class action suits are greater than in single-party litigation claims. Due to the costs of defending against such litigation, the size of judgments that may be awarded against us, and the loss of significant management time devoted to such litigation, we cannot provide assurance that such litigation will not disrupt our business or impact our financial results. We are involved, from time to time, in litigation incidental to our business including complaints filed by investors. This litigation could result in substantial costs, and could divert management's attention and resources, which could harm our business. Risks associated with legal liability are often difficult to assess or quantify, and their existence and magnitude can remain unknown for significant periods of time. Failure to comply with federal, state, local or foreign laws and regulations, or changes in these laws and regulations, could have an adverse impact on our results of operations and financial performance. Our business is subject to a wide array of laws and regulations including those related to employment, trade, consumer protection, transportation, occupancy laws, health care, wage laws, employee health and safety, taxes, privacy, health information privacy, identify theft, customs, truth-in-advertising, securities laws, unsolicited commercial communication and environmental issues. Our policies, procedures and internal controls are designed to comply with foreign and domestic laws and regulations, such as those required by the Sarbanes-Oxley Act of 2002 and the U.S. Foreign Corrupt Practices Act. Although we have policies and procedures aimed at ensuring legal and regulatory compliance, our employees or vendors could take actions that violate these laws and regulations. Any violations of such laws or regulations could have an adverse effect on our reputation, results of operations, financial condition and cash flows. Furthermore, changes in the regulations, the imposition of additional regulations, or the enactment of any new legislation, particularly in the U.S. and Europe, could adversely affect our results of operations or financial condition. Fluctuations in our tax obligations and effective tax rate may result in volatility in our operating results. We are subject to income taxes in many domestic and foreign jurisdictions. In addition, our products are subject to import and excise duties and/or sales, consumption or value-added taxes in many jurisdictions. We record tax expense based on our estimates of future payments, which include reserves for estimates of probable settlements of domestic and foreign tax audits. At any one time, many tax years are subject to audit by various taxing jurisdictions. There can be no assurance as to the outcome of these audits which may have an adverse effect to our business. In addition, our effective tax rate may be materially impacted by changes in tax rates and duties, the mix and level of earnings or losses by taxing jurisdictions, or by changes to existing accounting rules or regulations. Changes to foreign or domestic tax laws could have a material impact on our financial condition, results of operations or cash flows. 28 We may fail to meet analyst expectations, which could cause the price of our stock to decline. Our common stock is traded publicly and various securities analysts follow our financial results and issue reports on us. These reports include information about our historical financial results as well as the analysts' estimates of our future performance. The analysts' estimates are based upon their own independent opinions and can be different from our estimates or expectations. If our operating results are below the estimates or expectations of public market analysts and investors, our stock price could decline. The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A share repurchase program may be conducted from time to time under authorization made by our Board of Directors. We do not have a controlling shareholder, nor are we aware of any shareholders that have formed a “group” (defined as when two or more persons agree to act together for the purposes of acquiring, holding, voting or otherwise disposing of the equity securities of an issuer). The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A controlling shareholder would have significant influence over, and may have the ability to control, matters requiring approval by our shareholders, including the election of directors and approval of mergers, consolidations, sales of assets, recapitalizations and amendments to our articles of incorporation. Furthermore, a controlling shareholder may take actions with which other shareholders do not agree, including actions that delay, defer or prevent a change of control of the company and that could cause the price that investors are willing to pay for the company’s stock to decline. Item 3: Quantitative and Qualitative Disclosures About Market Risk Our market risk profile at April 30, 2022 has not significantly changed since January 29, 2022. Our market risk profile at January 29, 2022 is disclosed in our Annual Report on Form 10-K. Item 4: Controls and Procedures Evaluation of Disclosure Controls and Procedures . We carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer ("CEO") and Chief Financial Officer ("CFO"), of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Securities Exchange Act Rule 13a-15(e)). Based on this evaluation, our CEO and CFO concluded that, as of April 30, 2022, our disclosure controls and procedures were effective. Changes in Internal Control over Financial Reporting . There has been no change in our internal control over financial reporting (as defined in Securities Exchange Act Rule 13a-15(f)) during the three months ended April 30, 2022 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 29 PART II - OTHER INFORMATION Item 1. Legal Proceedings We are involved from time to time in litigation incidental to our business. We are unable to predict the outcome of litigated cases. A court determination in any of litigation actions against us could result in significant liability and could have a material adverse effect on our business, results of operations or financial condition. See Note 5 to the Notes to Condensed Consolidated Financial Statements found in Part I Item 1 of this Form 10-Q (listed under “Litigation” under Commitments and Contingencies). Item 1A. Risk Factors Please refer to the Risk Factors set forth in Item 2 of Part I of this Form 10-Q as well as the risk factors previously disclosed in Item 1A of Part I of our Annual Report on Form 10-K for the year ended January 29, 2022. There have been no material changes in the risk factors set forth in our Annual Report on Form 10-K for the year ended January 29, 2022. Item 2. Unregistered Sales of Equity Securities and Use of Proceeds The following table presents information with respect to purchase of common stock of the Company made during the thirteen weeks ended April 30, 2022 (in thousands, except average price paid per share): Period Total Number of Shares Purchased Average Price Paid per Share Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (1) Dollar Value of Shares that May Yet Be Repurchased Under the Plans or Programs (1) January 30, 2022 - February 26, 2022 971 $ 44.41 971 $ 40,153 February 27, 2022 - April 2, 2022 (2) 952 $ 42.59 943 $ - April 3, 2022 - April 30, 2022 — $ - — $ - Total 1,923 1,914 (1) In December 2021, our Board of Directors approved the repurchase of up to an aggregate of $150 million of common stock. This repurchase program superseded all previously approved and authorized share repurchase programs and was completed in March 2022. (2) During the thirteen weeks ended April 30, 2022, 9,513 shares were purchased by us in order to satisfy employee tax withholding obligations upon the vesting of restricted stock. These shares were not acquired pursuant to any publicly announced purchase plan or program. Item 3. Defaults Upon Senior Securities None Item 4. Mine Safety Disclosures Not applicable Item 5. Other Information None 30 Item 6. Exhibits Exhibit No. Description of Exhibits 31.1 Certification of the Principal Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of the Principal Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certifications of the Principal Executive Officer and Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350. 101 The following materials from Zumiez Inc.’s Quarterly Report on Form 10-Q for the quarterly period ended April 30, 2022, formatted in Inline XBRL (eXtensible Business Reporting Language): (i) Condensed Consolidated Balance Sheets at April 30, 2022 (unaudited) and January 29, 2022; (ii) Unaudited Condensed Consolidated Statements of Operations for the three months ended April 30, 2022 and May 1, 2021; (iii) Unaudited Condensed Consolidated Statements of Comprehensive (Loss) Income for the three months ended April 30, 2022 and May 1, 2021; (iv) Unaudited Condensed Consolidated Statements of Changes in Shareholders’ Equity for the three months ended April 30, 2022 and May 1, 2021; (v) Unaudited Condensed Consolidated Statements of Cash Flows for the three months ended April 30, 2022 and May 1, 2021; and (vi) Notes to Condensed Consolidated Financial Statements. 104 The cover page for the Company’s Quarterly Report on Form 10-Q has been formatted in Inline XBRL and contained in Exhibit 101 31 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized. ZUMIEZ INC. Dat June 6, 2022 By: /s/ Christopher C. Work Christopher C. Work Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer) 32 |
WASHINGTON, D.C. 20549 FORM 10-Q ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JULY 30, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission file number 000-51300 ZUMIEZ INC . (Exact name of registrant as specified in its charter) Washington 91-1040022 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 4001 204 th Street SW , Lynnwood , WA 98036 (Address of principal executive offices) (Zip Code) Registrant’s telephone number, including area co ( 425 ) 551-1500 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definition of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☒ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ☐ Yes ☒ No Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name of each exchange on which registered Common Stock ZUMZ Nasdaq Global Select At September 1, 2022, there were 19,470,365 shares outstanding of common stock. ZUMIEZ INC. FORM 10-Q TABLE OF CONTENTS Part I. Financial Information Item 1. Condensed Consolidated Financial Statements Condensed Consolidated Balance Sheets at July 30, 2022 (unaudited) and January 29, 2022 3 Unaudited Condensed Consolidated Statements of Operations for the three and six months ended July 30, 2022 and July 31, 2021 4 Unaudited Condensed Consolidated Statements of Comprehensive (Loss) Income for the three and six months ended July 30, 2022 and July 31, 2021 5 Unaudited Condensed Consolidated Statements of Changes in Shareholders’ Equity for the three and six months ended July 30, 2022 and July 31, 2021 6 Unaudited Condensed Consolidated Statements of Cash Flows for the six months ended July 30, 2022 and July 31, 2021 7 Notes to Condensed Consolidated Financial Statements 8 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 17 Item 3. Quantitative and Qualitative Disclosures About Market Risk 31 Item 4. Controls and Procedures 31 Part II. Other Information Item 1. Legal Proceedings 32 Item 1A. Risk Factors 32 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 32 Item 3. Defaults Upon Senior Securities 32 Item 4. Mine Safety Disclosures 32 Item 5. Other Information 32 Item 6. Exhibits 33 Signature 34 2 ZUMIEZ INC. CONDENSED CONSOLIDATED BALANCE SHEETS (In thousands) July 30, 2022 January 29, 2022 (Unaudited) Assets Current assets Cash and cash equivalents $ 59,144 $ 117,223 Marketable securities 107,036 177,260 Receivables 24,201 14,427 Inventories 151,071 128,728 Prepaid expenses and other current assets 14,053 10,011 Total current assets 355,505 447,649 Fixed assets, net 91,196 91,451 Operating lease right-of-use assets 228,243 230,187 Goodwill 54,017 57,560 Intangible assets, net 13,679 14,698 Deferred tax assets, net 6,546 8,659 Other long-term assets 11,425 11,808 Total long-term assets 405,106 414,363 Total assets $ 760,611 $ 862,012 Liabilities and Shareholders’ Equity Current liabilities Trade accounts payable $ 72,915 $ 55,638 Accrued payroll and payroll taxes 16,970 31,209 Operating lease liabilities 67,411 63,577 Other liabilities 23,951 34,015 Total current liabilities 181,247 184,439 Long-term operating lease liabilities 196,073 204,309 Other long-term liabilities 4,995 4,946 Total long-term liabilities 201,068 209,255 Total liabilities 382,315 393,694 Commitments and contingencies (Note 5) Shareholders’ equity Preferred stock, no par value, 20,000 shares authorized; none issued and outstanding — — Common stock, no par value, 50,000 shares authorized ; 19,474 shares issued and outstanding at July 30, 2022 and 21,215 shares issued and outstanding at January 29, 2022 184,619 180,824 Accumulated other comprehensive loss ( 26,662 ) ( 13,463 ) Retained earnings 220,339 300,957 Total shareholders’ equity 378,296 468,318 Total liabilities and shareholders’ equity $ 760,611 $ 862,012 See accompanying notes to condensed consolidated financial statements 3 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (In thousands, except per share amounts) (Unaudited) Three Months Ended Six Months Ended July 30, 2022 July 31, 2021 July 30, 2022 July 31, 2021 Net sales $ 219,993 $ 268,666 $ 440,679 $ 547,735 Cost of goods sold 144,929 163,701 293,242 339,602 Gross profit 75,064 104,965 147,437 208,133 Selling, general and administrative expenses 70,109 73,011 141,985 141,900 Operating profit 4,955 31,954 5,452 66,233 Interest income, net 358 965 850 1,940 Other income (expense), net 233 ( 151 ) 405 103 Earnings before income taxes 5,546 32,768 6,707 68,276 Provision for income taxes 2,479 8,770 4,037 17,893 Net income $ 3,067 $ 23,998 $ 2,670 $ 50,383 Basic earnings per share $ 0.16 $ 0.95 $ 0.14 $ 2.00 Diluted earnings per share $ 0.16 $ 0.94 $ 0.14 $ 1.96 Weighted average shares used in computation of earnings per sh Basic 19,084 25,274 19,308 25,221 Diluted 19,262 25,651 19,592 25,675 See accompanying notes to condensed consolidated financial statements 4 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE (LOSS) INCOME (In thousands) (Unaudited) Three Months Ended Six Months Ended July 30, 2022 July 31, 2021 July 30, 2022 July 31, 2021 Net income $ 3,067 $ 23,998 $ 2,670 $ 50,383 Other comprehensive loss, net of tax and reclassification adjustments: Foreign currency translation ( 3,774 ) ( 2,694 ) ( 10,146 ) ( 2,426 ) Net change in unrealized gain (loss) on available-for-sale debt securities 386 104 ( 3,053 ) ( 657 ) Other comprehensive loss, net ( 3,388 ) ( 2,590 ) ( 13,199 ) ( 3,083 ) Comprehensive (loss) income $ ( 321 ) $ 21,408 $ ( 10,529 ) $ 47,300 See accompanying notes to condensed consolidated financial statements 5 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (In thousands) (Unaudited) Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at April 30, 2022 19,459 $ 182,899 $ ( 23,274 ) $ 217,272 $ 376,897 Net income — — — 3,067 3,067 Other comprehensive loss, net — — ( 3,388 ) — ( 3,388 ) Issuance and exercise of stock-based awards 15 ( 93 ) — — ( 93 ) Stock-based compensation expense — 1,813 — — 1,813 Balance at July 30, 2022 $ 19,474 $ 184,619 $ ( 26,662 ) $ 220,339 $ 378,296 Common Stock Accumulated Other Comprehensive Retained Shares Amount Income (Loss) Earnings Total Balance at May 1, 2021 25,780 $ 174,921 $ 446 $ 406,414 $ 581,781 Net income — — — 23,998 23,998 Other comprehensive loss, net — — ( 2,590 ) — ( 2,590 ) Issuance and exercise of stock-based awards 26 339 — — 339 Stock-based compensation expense — 1,691 — — 1,691 Repurchase of common stock ( 247 ) — — ( 10,923 ) ( 10,923 ) Balance at July 31, 2021 25,559 $ 176,951 $ ( 2,144 ) $ 419,489 $ 594,296 Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at January 29, 2022 21,215 $ 180,824 $ ( 13,463 ) $ 300,957 $ 468,318 Net income — — — 2,670 2,670 Other comprehensive loss, net — — ( 13,199 ) — ( 13,199 ) Issuance and exercise of stock-based awards 173 282 — — 282 Stock-based compensation expense — 3,513 — — 3,513 Repurchase of common stock ( 1,914 ) — — ( 83,288 ) ( 83,288 ) Balance at July 30, 2022 19,474 $ 184,619 $ ( 26,662 ) $ 220,339 $ 378,296 Common Stock Accumulated Other Comprehensive Retained Shares Amount Income (Loss) Earnings Total Balance at January 30, 2021 25,599 $ 171,628 $ 939 $ 380,029 $ 552,596 Net income — — — 50,383 50,383 Other comprehensive loss, net — — ( 3,083 ) — ( 3,083 ) Issuance and exercise of stock-based awards 207 1,892 — — 1,892 Stock-based compensation expense — 3,431 — — 3,431 Repurchase of common stock ( 247 ) — — ( 10,923 ) ( 10,923 ) Balance at July 31, 2021 25,559 $ 176,951 $ ( 2,144 ) $ 419,489 $ 594,296 See accompanying notes to condensed consolidated financial statements 6 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) (Unaudited) Six Months Ended July 30, 2022 July 31, 2021 Cash flows from operating activiti Net income $ 2,670 $ 50,383 Adjustments to reconcile net income to net cash (used in) provided by operating activiti Depreciation, amortization and accretion 10,598 11,639 Noncash lease expense 33,040 32,044 Deferred taxes 3,035 4,260 Stock-based compensation expense 3,513 3,431 Impairment of long-lived assets 65 2,079 Other ( 115 ) 1,064 Changes in operating assets and liabiliti Receivables ( 5,496 ) ( 5,353 ) Inventories ( 24,671 ) ( 15,408 ) Prepaid expenses and other assets ( 3,946 ) ( 4,173 ) Trade accounts payable 17,084 10,178 Accrued payroll and payroll taxes ( 13,958 ) ( 4,462 ) Income taxes payable ( 4,128 ) ( 304 ) Operating lease liabilities ( 37,239 ) ( 40,413 ) Other liabilities ( 4,611 ) 7,165 Net cash (used in) provided by operating activities ( 24,159 ) 52,130 Cash flows from investing activiti Additions to fixed assets ( 10,253 ) ( 5,418 ) Purchases of marketable securities and other investments ( 1,914 ) ( 112,888 ) Sales and maturities of marketable securities and other investments 67,890 75,234 Net cash provided by (used in) investing activities 55,723 ( 43,072 ) Cash flows from financing activiti Proceeds from revolving credit facilities 2,430 — Payments on revolving credit facilities ( 2,430 ) — Proceeds from issuance and exercise of stock-based awards 781 2,452 Payments for tax withholdings on equity awards ( 499 ) ( 560 ) Common stock repurchased ( 87,860 ) ( 10,481 ) Net cash used in financing activities ( 87,578 ) ( 8,589 ) Effect of exchange rate changes on cash, cash equivalents, and restricted cash ( 2,367 ) 139 Net (decrease) increase in cash, cash equivalents, and restricted cash ( 58,381 ) 608 Cash, cash equivalents, and restricted cash, beginning of period 124,052 80,690 Cash, cash equivalents, and restricted cash, end of period $ 65,671 $ 81,298 Supplemental disclosure on cash flow informati Cash paid during the period for income taxes $ 5,027 $ 13,542 Accrual for purchases of fixed assets 2,466 686 Accrual for repurchase of common stock — 442 See accompanying notes to condensed consolidated financial statements 7 ZUMIEZ INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 1. Nature of Business and Basis of Presentation Nature of Business— Zumiez Inc., including its wholly owned subsidiaries, (the “Company,” “we,” “us,” “its” and “our”) is a leading specialty retailer of apparel, footwear, accessories and hardgoods for young men and women who want to express their individuality through the fashion, music, art and culture of action sports, streetwear, and other unique lifestyles. We operate under the names Zumiez, Blue Tomato and Fast Times. We operate ecommerce websites at zumiez.com, zumiez.ca, blue-tomato.com and fasttimes.com.au. At July 30, 2022, we operated 751 stores; 611 in the United States (“U.S.”), 69 in Europe, 52 in Canada, and 19 in Australia . COVID-19— In December 2019, a novel strain of coronavirus (“COVID-19”) was first identified, and in March 2020, the World Health Organization categorized COVID-19 as a pandemic. To help control the spread of the virus and protect the health and safety of our employees and customers, we began closing our retail stores across all markets that we operate in mid-March 2020. We began gradually re-opening retail stores near the end of the first quarter and into the second quarter of fiscal 2020, with the majority of our stores open through the third and fourth quarter of fiscal 2020 . Changes in our operations due to COVID-19 resulted in material fluctuations to our results of operations during fiscal 2020 and in certain geographies in 2021 . Due to the COVID-19 pandemic, our stores were open on an aggregate basis, approximately 96.3 % and 95.0 % of the possible days across the global business during the three and six months ended July 31, 2021, and 100 % during the three and six months ended July 30, 2022. On April 1, 2022, we received 3.2 million Euro ($ 3.6 million) as a taxable subsidy from the German government related to our European business for costs incurred during fiscal 2020 and fiscal 2021 related to the COVID-19 pandemic. The subsidy received was granted free of future obligations to repay and was recorded in selling, general and administrative expenses on the condensed consolidated statement of operations in the first quarter of fiscal 2022. Fiscal Year— We use a fiscal calendar widely used by the retail industry that results in a fiscal year consisting of a 52- or 53-week period ending on the Saturday closest to January 31. Each fiscal year consists of four 13-week quarters, with an extra week added to the fourth quarter every five or six years. The three months ended July 30, 2022 and July 31, 2021 were 13-week periods. The six months ended July 30, 2022 and July 31, 2021 were 26-week periods. Basis of Presentation— The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“U.S. GAAP”) for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) for interim financial reporting. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. The unaudited condensed consolidated financial statements include the accounts of Zumiez Inc. and its wholly-owned subsidiaries. All significant intercompany transactions and balances are eliminated in consolidation. In our opinion, the unaudited condensed consolidated financial statements contain all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of the condensed consolidated balance sheets, operating results and cash flows for the periods presented. The financial data at January 29, 2022 is derived from audited consolidated financial statements, which are included in our Annual Report on Form 10-K for the year ended January 29, 2022, and should be read in conjunction with the audited consolidated financial statements and notes thereto. Interim results are not necessarily indicative of results for the full fiscal year due to seasonality and other factors. Use of Estimates— The preparation of financial statements in conformity with U.S. GAAP requires estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements as well as the reported amounts of revenues and expenses during the reporting period. These estimates can also affect supplemental information disclosed by us, including information about contingencies, risk and financial condition. Actual results could differ from these estimates and assumptions. Restricted Cash— Cash and cash equivalents that are restricted as to withdrawal or use under the terms of certain contractual agreements are recorded as restricted cash in other long-term assets on our condensed consolidated balance sheets. The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported within the condensed consolidated balance sheets that sum to the total of the same such amounts shown in the condensed consolidated statement of cash flows (in thousands): 8 July 30, 2022 January 29, 2022 Cash and cash equivalents $ 59,144 $ 117,223 Restricted cash included in other long-term assets 6,527 6,829 Total cash, cash equivalents, and restricted cash as shown in the statement of cash flows $ 65,671 $ 124,052 Restricted cash included in other long-term assets represents amounts held as insurance collateral and collateral for bank guarantees on certain store operating leases. Recent Accounting Standards— We review recent account pronouncements on a quarterly basis and have excluded discussion of those that are not applicable and those that we determined did not have, or are not expected to have, a material impact on the condensed consolidated financial statements. 2. Revenue The following table disaggregates net sales by geographic region (in thousands): Three Months Ended Six Months Ended July 30, 2022 July 31, 2021 July 30, 2022 July 31, 2021 United States $ 178,265 $ 226,043 $ 354,694 $ 464,832 Canada 11,637 11,483 21,543 21,357 Europe 24,709 27,012 54,211 53,268 Australia 5,382 4,128 10,231 8,278 Net sales $ 219,993 $ 268,666 $ 440,679 $ 547,735 Net sales for the three months ended July 30, 2022 included a $ 4.7 million decrease due to the change in foreign exchange rates, which consisted of $ 3.7 million in Europe, $ 0.5 million in Australia and $ 0.5 million in Canada. Net sales for the six months ended July 30, 2022 included a $ 7.5 million decrease due to the change in foreign exchange rates, which consisted of $ 6.2 million in Europe, $ 0.7 million in Australia and $ 0.6 million in Canada. Our contract liabilities include deferred revenue related to our customer loyalty program and gift cards. The current liability for gift cards was $ 3.7 million at July 30, 2022 and $ 5.6 million at January 29, 2022, respectively. Deferred revenue related to our STASH loyalty program was $ 1.1 million at July 30, 2022 and $ 1.0 million at January 29, 2022, respectively. 3. Cash, Cash Equivalents and Marketable Securities The following tables summarize the estimated fair value of our cash, cash equivalents and marketable securities and the gross unrealized holding gains and losses (in thousands): July 30, 2022 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 52,453 $ — $ — $ 52,453 Money market funds 5,192 — — 5,192 Corporate debt securities 1,499 — — 1,499 Total cash and cash equivalents 59,144 — — 59,144 Marketable securiti U.S. treasury and government agency securities 24,320 1 ( 2,108 ) 22,213 Corporate debt securities 70,837 — ( 2,739 ) 68,098 State and local government securities 17,281 — ( 556 ) 16,725 Total marketable securities $ 112,438 $ 1 $ ( 5,403 ) $ 107,036 9 January 29, 2022 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 99,333 $ — $ — $ 99,333 Money market funds 17,890 — — 17,890 Total cash and cash equivalents 117,223 — — 117,223 Marketable securiti U.S. treasury and government agency securities 29,218 33 ( 819 ) 28,432 Corporate debt securities 123,611 436 ( 851 ) 123,196 State and local government securities 25,722 62 ( 152 ) 25,632 Total marketable securities $ 178,551 $ 531 $ ( 1,822 ) $ 177,260 All of our marketable securities have an effective maturity date of five years or less and may be liquidated, at our discretion, prior to maturity. The following tables summarize the gross unrealized holding losses and fair value for investments in an unrealized loss position, and the length of time that individual securities have been in a continuous loss position (in thousands): July 30, 2022 Less Than 12 Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Marketable securiti U.S. treasury and government agency securities $ 17,594 $ ( 1,555 ) $ 4,524 $ ( 553 ) $ 22,118 $ ( 2,108 ) Corporate debt securities 63,002 ( 2,491 ) 5,096 ( 248 ) 68,098 ( 2,739 ) State and local government securities 16,725 ( 556 ) — — 16,725 ( 556 ) Total marketable securities $ 97,321 $ ( 4,602 ) $ 9,620 $ ( 801 ) $ 106,941 $ ( 5,403 ) January 29, 2022 Less Than 12 Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Marketable securiti U.S. treasury and government agency securities $ 20,683 $ ( 785 ) $ 1,622 $ ( 34 ) $ 22,305 $ ( 819 ) Corporate debt securities 63,887 ( 849 ) 69 ( 2 ) 63,956 ( 851 ) State and local government securities 15,639 ( 152 ) — — 15,639 ( 152 ) Total marketable securities $ 100,209 $ ( 1,786 ) $ 1,691 $ ( 36 ) $ 101,900 $ ( 1,822 ) 4. Leases At July 30, 2022, we had operating leases for our retail stores, certain distribution and fulfillment facilities, vehicles and equipment. Our remaining lease terms vary from less than one month to eleven years , with varying renewal and termination options. The following table presents components of lease expense (in thousands): Three Months Ended Six Months Ended July 30, 2022 July 31, 2021 July 30, 2022 July 31, 2021 Operating lease expense $ 18,480 $ 19,302 $ 36,758 $ 37,388 Variable lease expense 1,641 1,811 3,775 3,767 Total lease expense (1) $ 20,121 $ 21,113 $ 40,533 $ 41,155 (1) Total lease expense includes short-term lease expense and sublease income which is immaterial to the Company. Total lease expense does not include right-of-use asset impairment charges, common area maintenance charges and other non-lease components. 10 Supplemental cash flow information related to leases is as follows (in thousands): Six Months Ended July 30, 2022 July 31, 2021 Cash paid for amounts included in the measurement of lease liabiliti Operating cash flows from operating leases $ ( 37,239 ) $ ( 40,413 ) Right-of-use assets obtained in exchange for new operating lease liabilities 36,700 16,102 Weighted-average remaining lease term and discount rate were as follows: July 30, 2022 July 31, 2021 Weighted-average remaining lease term 4.9 5.1 Weighted-average discount rate 2.5 % 2.8 % At July 30, 2022, the maturities of our operating leases liabilities are as follows (in thousands): Fiscal 2022 $ 36,705 Fiscal 2023 71,121 Fiscal 2024 56,250 Fiscal 2025 39,160 Fiscal 2026 26,784 Thereafter 48,867 Total minimum lease payments 278,887 L interest ( 15,403 ) Present value of lease obligations 263,484 L current portion ( 67,411 ) Long-term lease obligations (1) $ 196,073 (1) Amounts in the table do not include contingent rent, common area maintenance charges and other non-lease components. At July 30, 2022, we have excluded from the table above $ 5.1 million of operating leases that were contractually executed, but had not yet commenced. These operating leases are expected to commence by the end of fiscal 2023. 5. Commitments and Contingencies Purchase Commitments— At July 30, 2022, we had outstanding purchase orders to acquire merchandise from vendors of $ 236.6 million. We have an option to cancel these commitments with no notice prior to shipment, except for certain private label and international purchase orders in which we are obligated to repay contractual amounts upon cancellation. Litigation— We are involved from time to time in claims, proceedings and litigation arising in the ordinary course of business. We have made accruals with respect to these matters, where appropriate, which are reflected in our condensed consolidated financial statements. For some matters, the amount of liability is not probable or the amount cannot be reasonably estimated and therefore accruals have not been made. We may enter into discussions regarding settlement of these matters, and may enter into settlement agreements, if we believe settlement is in the best interest of our shareholders. 11 A putative class action, Alexia Herrera, on behalf of herself and all other similarly situated, v. Zumiez Inc. , was filed against us in the Eastern District Count of California, Sacramento Division under case number 2:16-cv-01802-SB in August 2016. Alexandra Bernal filed the initial complaint and then in October 2016 added Alexia Herrera as a named plaintiff and Alexandra Bernal left the case. The putative class action lawsuit against us alleges, among other things, various violations of California’s wage and hour laws, including alleged violations of failure to pay reporting time. In May 2017 we moved for judgment on the pleadings in that plaintiff’s cause of action for reporting-time pay should fail as a matter of law as the plaintiff and the other putative class members did not “report for work” with respect to certain shifts on which the plaintiff’s claims are based. In August 2017, the court denied the motion. However, in October 2017 the district court certified the order denying the motion for judgment on the pleadings for immediate interlocutory review by the United States Court of Appeals for the Ninth Circuit. We then filed a petition for permission to appeal the order denying the motion for judgment on the pleadings with the United States Court of Appeals for the Ninth Circuit, which petition was then granted in January 2018. Our opening appellate brief was filed on June 6, 2018 and the plaintiff’s answering appellate brief was filed August 6, 2018. Our reply brief to the Plaintiff’s answering appellate brief was filed on September 26, 2018 and oral arguments w ere completed on February 4, 2019. On May 20, 2019, the United States Court of Appeals for the Ninth Circuit granted our motion for leave to file a supplemental brief addressing new authority. On June 10, 2019, the plaintiff’s supplemental answering brief was filed with the United States Court of Appeals for the Ninth Circuit. We then filed our supplemental reply brief to the plaintiff’s supplemental answering brief with the United States Court of Appeals for the Ninth Circuit on June 24, 2019. On March 19, 2020 the United States Court of Appeals for the Ninth Circuit published its opinion (i) affirming the District Court’s denial of judgment on the pleadings on plaintiff’s reporting time pay and minimum wage claims, (ii) reversing the District Court’s denial of judgment on the pleadings on plaintiff’s expense reimbursement claim and (iii) refusing to certify the reporting time pay question to the California Supreme Court. On April 2, 2020 we filed a petition for rehearing en banc to certify the reporting time pay question to the California Supreme Court and on April 27, 2020 plaintiff filed a response to our petition for rehearing en banc. We in turn filed a reply in support of our petition for rehearing en banc on May 1, 2020. On May 14, 2020, the United States Court of Appeals for the Ninth Circuit denied our petition for rehearing en banc. The case was remanded to the Eastern District of California, Sacramento for further proceedings. The parties held mediation with a private mediator on June 23, 2021. The parties reached a resolution in principle for all class claims, which was submitted for the court’s approval. Final approval of the settlement was granted per the court’s order issued on July 26, 2022. The settlement of $ 2.8 million is included in other liabilities on the consolidated balance sheet as of July 30, 2022 and January 29, 2022 , respectively , and was recorded in selling, general and administrative expenses on the consolidated statement of operations in the second quarter of 2021 . The settlement was paid to the claims administrator for disbursement on August 19 , 2022. Insurance Reserves— We use a combination of third-party insurance and self-insurance for a number of risk management activities including workers’ compensation, general liability and employee-related health care benefits. We maintain reserves for our self-insured losses, which are estimated based on historical claims experience and actuarial and other assumptions. The self-insurance reserve at July 30, 2022 and January 29, 2022 was $ 2.2 million and $ 2.0 million. 6. Revolving Credit Facilities and Debt On October 14, 2021, we amended our credit agreement with Wells Fargo Bank, N.A. (previously entered into December 7, 2018), which provided us with a senior secured credit facility (“credit facility”) of up to $ 25.0 million through December 1, 2023, and up to $ 35.0 million after December 1, 2023 and through December 1, 2024. The secured revolving credit facility is available for working capital and other general corporate purposes. The senior secured credit facility provides for the issuance of standby letters of credit in an amount not to exceed $ 17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $ 10.0 million and with terms not to exceed 120 days. The amount of borrowings available at any time under our credit facility is reduced by the amount of standby and commercial letters of credit outstanding at that time. The credit facility will mature on December 1, 2024 . All obligations under the credit facility are joint and several with Zumiez Services and guaranteed by certain of our subsidiaries. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1.35 % per annum. The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. 12 The credit facility contains certain financial maintenance covenants that generally require us to have net income after taxes of at least $ 5.0 million on a trailing four-quarter basis and a quick ratio of 1.25 :1.0 at the end of each fiscal quarter. The credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. There were no borrowings outstanding under the credit facility at July 30, 2022 or January 29, 2022. We had open commercial letters of credit outstanding of less than $ 0.1 million under our secured revolving credit facility at July 30, 2022 and no open commercial letters of credit outstanding at January 29, 2022. We had $ 0.6 million in issued, but undrawn, standby letters of credit at July 30, 2022 and no issued standby letters of credit at January 29, 2022. Additionally, we maintain a credit facility with UBS Switzerland AG of up to 15.0 million Euro ($ 15.3 million as of July 30, 2022), which may be used to guarantee payment of letters of credit. Either party has a right to terminate this credit agreement at any time with immediate effect. The credit facility bears interest at 1.25 %. There were no borrowings outstanding under this secured credit facility at July 30, 2022 or January 29, 2022. 7. Fair Value Measurements We apply the following fair value hierarchy, which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measuremen • Level 1— Quoted prices in active markets for identical assets or liabilities; • Level 2— Quoted prices for similar assets or liabilities in active markets or inputs that are observable; and • Level 3— Inputs that are unobservable. The following tables summarize assets measured at fair value on a recurring basis (in thousands): July 30, 2022 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 5,192 $ — $ — Corporate debt securities — 1,499 — Marketable securiti U.S. treasury and government agency securities — 22,213 — Corporate debt securities — 68,098 — State and local government securities — 16,725 — Other long-term assets: Money market funds 6,527 — — Total $ 11,719 $ 108,535 $ — January 29, 2022 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 17,890 $ — $ — Marketable securiti U.S. treasury and government agency securities — 28,432 — Corporate debt securities — 123,196 — State and local government securities — 25,632 — Other long-term assets: Money market funds 6,829 — — Total $ 24,719 $ 177,260 $ — 13 The Level 2 marketable securities include U.S treasury and government agency securities, corporate debt securities, state and local municipal securities and variable-rate demand notes. Fair values are based on quoted market prices for similar assets or liabilities or determined using inputs that use readily observable market data that are actively quoted and can be validated through external sources, including third-party pricing services, brokers and market transactions. We review the pricing techniques and methodologies of the independent pricing service for Level 2 investments and believe that its policies adequately consider market activity, either based on specific transactions for the security valued or based on modeling of securities with similar credit quality, duration, yield and structure that were recently traded. We monitor security-specific valuation trends and we make inquiries with the pricing service about material changes or the absence of expected changes to understand the underlying factors and inputs and to validate the reasonableness of the pricing. Assets and liabilities recognized or disclosed at fair value on the consolidated financial statements on a nonrecurring basis include items such as fixed assets, operating lease right-of-use-assets, goodwill, other intangible assets and other assets. These assets are measured at fair value if determined to be impaired. During the three months ended July 30, 2022, we recognized less than $ 0.1 million in impairment losses related to operating lease right-of-use assets and fixed assets. During the six months ended July 30, 2022, we recognized less than $ 0.1 million in impairment losses related to operating lease right-of-use assets and fixed assets. During the three months ended July 31, 2021, we recognized no impairment losses related to operating lease right-of-use assets or fixed assets. During the six months ended July 31, 2021, we recognized impairment losses of $ 2.1 million related to operating lease right-of-use assets and no impairment losses related to fixed assets. 8. Stockholders’ Equity Share Repurchase— In December 2021, our Board of Directors approved the repurchase of up to an aggregate of $ 150 million of common stock. This repurchase program superseded all previously approved and authorized stock repurchase programs, including the repurchase programs previously approved by the Board of Directors in September 2021 and December 2020. The December 2021 stock repurchase program was completed in March 2022. There were no common stock repurchases during the three months ended July 30, 2022. The following table summarizes common stock repurchase activity during the six months ended July 30, 2022 (in thousands, except per share amounts): Number of shares repurchased 1,914 Average price per share of repurchased shares (with commission) $ 43.51 Total cost of shares repurchased $ 83,288 Accumulated Other Comprehensive (Loss) Income — The components of accumulated other comprehensive (loss) income and the adjustments to other comprehensive (loss) income for amounts reclassified from accumulated other comprehensive (loss) income into net income are as follows (in thousands): Foreign currency translation adjustments (3) Net unrealized (losses) gains on available-for- sale debt securities Accumulated other comprehensive (loss) income Three months ended July 30, 2022: Balance at April 30, 2022 $ ( 18,877 ) $ ( 4,397 ) $ ( 23,274 ) Other comprehensive loss, net (1) ( 3,774 ) 386 ( 3,388 ) Balance at July 30, 2022 $ ( 22,651 ) $ ( 4,011 ) $ ( 26,662 ) Three months ended July 31, 2021: Balance at May 1, 2021 $ ( 1,139 ) $ 1,585 $ 446 Other comprehensive loss, net (1) ( 2,694 ) 104 ( 2,590 ) Balance at July 31, 2021 $ ( 3,833 ) $ 1,689 $ ( 2,144 ) 14 Foreign currency translation adjustments (3) Net unrealized (losses) gains on available-for- sale investments Accumulated other comprehensive (loss) income Six months ended July 30, 2022: Balance at January 29, 2022 $ ( 12,505 ) $ ( 958 ) $ ( 13,463 ) Other comprehensive loss, net (2) ( 10,146 ) ( 3,053 ) ( 13,199 ) Balance at July 30, 2022 $ ( 22,651 ) $ ( 4,011 ) $ ( 26,662 ) Six months ended July 31, 2021: Balance at January 30, 2021 $ ( 1,407 ) $ 2,346 $ 939 Other comprehensive loss, net (2) ( 2,426 ) ( 657 ) ( 3,083 ) Balance at July 31, 2021 $ ( 3,833 ) $ 1,689 $ ( 2,144 ) (1) Other comprehensive income before reclassifications was $ 0.4 million and $ 0.0 million, net of taxes for net unrealized (losses) gains on available-for-sale investments for the three months ended July 30, 2022 and July 31, 2021. Net unrealized losses, net of taxes, reclassified from accumulated other comprehensive (loss) income was $ 0.0 million and $ 0.1 million for the three months ended July 30, 2022 and July 31, 2021, respectively. (2) Other comprehensive loss before reclassifications was $ 3.1 million and $ 0.8 million, net of taxes for net unrealized (losses) gains on available-for-sale investments for the six months ended July 30, 2022 and July 31, 2021. Net unrealized losses, net of taxes, reclassified from accumulated other comprehensive (loss) income was $ 0.0 million and $ 0.1 million for the six months ended July 30, 2022 and July 31, 2021, respectively. (3) Foreign currency translation adjustments are not adjusted for income taxes as they relate to permanent investments in our international subsidiaries. 9. Equity Awards We maintain several equity incentive plans under which we may grant incentive stock options, nonqualified stock options, stock bonuses, restricted stock awards, restricted stock units and stock appreciation rights to employees (including officers), non-employee directors and consultants. We account for stock-based compensation by recording the estimated fair value of stock-based awards granted as compensation expense over the vesting period, net of estimated forfeitures. Stock-based compensation expense is attributed to earnings using a straight-line method. We estimate forfeitures of stock-based awards based on historical experience and expected future activity. The fair value of restricted stock awards and units is measured based on the closing price of our common stock on the date of grant. The fair value of stock option grants is estimated on the date of grant using the Black-Scholes option pricing model. Total stock-based compensation expense is recognized on our condensed consolidated statements of operations as follows (in thousands): Three Months Ended Six Months Ended July 30, 2022 July 31, 2021 July 30, 2022 July 31, 2021 Cost of goods sold $ 391 $ 356 $ 735 $ 727 Selling, general and administrative expenses 1,422 1,335 2,778 2,704 Total stock-based compensation expense $ 1,813 $ 1,691 $ 3,513 $ 3,431 At July 30, 2022, there was $ 12.1 million of total unrecognized compensation cost related to unvested stock options, restricted stock awards and restricted stock units. This cost has a weighted-average remaining recognition period of 1.3 years. 15 The following table summarizes restricted stock awards and restricted stock units, collectively defined as “restricted equity awards” (in thousands, except grant date weighted-average fair value): Restricted Stock Awards/Units Grant Date Weighted- Average Fair Value Intrinsic Value Outstanding at January 29, 2022 443 $ 28.31 Granted 172 $ 39.38 Vested ( 195 ) $ 26.99 Forfeited ( 18 ) $ 32.54 Outstanding at July 30, 2022 402 $ 33.51 $ 10,445 We had 0.3 million stock options outstanding at July 30, 2022 with a weighted average exercise price of $ 29.30 and 0.3 million stock options outstanding at January 29, 2022 with a weighted average exercise price of $ 26.37 . 10. Earnings per Share, Basic and Diluted The following table sets forth the computation of basic and diluted earnings per share (in thousands, except per share amounts): Three Months Ended Six Months Ended July 30, 2022 July 31, 2021 July 30, 2022 July 31, 2021 Net income $ 3,067 $ 23,998 $ 2,670 $ 50,383 Weighted average common shares for basic earnings per sh 19,084 25,274 19,308 25,221 Dilutive effect of stock options and restricted stock 178 377 284 454 Weighted average common shares for diluted earnings per sh 19,262 25,651 19,592 25,675 Basic earnings per share $ 0.16 $ 0.95 $ 0.14 $ 2.00 Diluted earnings per share $ 0.16 $ 0.94 $ 0.14 $ 1.96 There were 0.1 million anti-dilutive common shares related to stock-based awards for the three and six months ended July 30, 2022 and July 31, 2021, respectively. 16 Item 2: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes included elsewhere in this document. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those discussed in “Item 1A Risk Factors” in our Form 10-K filed with the SEC on March 14, 2022 and in this Form 10-Q. Forward-looking statements relate to our expectations for future events and future financial performance. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. These statements are only predictions. Uncertainty is further heightened given the innumerable considerations related to COVID-19. Results and trends may differ materially depending on a variety of factors, including, but not limited t further spread of COVID-19, or its variants; regulatory measures or recommendations put in place to limit the spread of COVID-19, including restrictions on business operations and social distancing requirements, the length and severity of such restrictions; the potential for a resurgence of COVID-19 infections in a given geographic region, and fluctuations in U.S. and international economies. Actual events or results may differ materially. Factors which could affect our financial results are described below under the heading “Risk Factors” and in “Item 1A Risk Factors” of our Form 10-K referred to in the preceding paragraph. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Moreover, neither we nor any other person assume responsibility for the accuracy and completeness of the forward-looking statements. We undertake no duty to update any of the forward-looking statements after the date of this report to conform such statements to actual results or to changes in our expectations. Fiscal 2022 is the 52-week period ending January 28, 2023. Fiscal 2021 was the 52-week period ending January 29, 2022. The first six months of fiscal 2022 was the 26-week period ended July 30, 2022. The first six months of fiscal 2021 was the 26-week period ended July 31, 2021. “Zumiez,” the “Company,” “we,” “us,” “its,” “our” and similar references refer to Zumiez Inc. and its wholly-owned subsidiaries. General Net sales constitute gross sales (net of actual and estimated returns and deductions for promotions) and shipping revenue. Net sales include our store sales and our ecommerce sales. We record the sale of gift cards as a current liability and recognize revenue when a customer redeems a gift card. Additionally, the portion of gift cards that will not be redeemed (“gift card breakage”) is recognized based on our historical redemption rate in proportion to the pattern of rights exercised by the customer. We report “comparable sales” based on net sales beginning on the first anniversary of the first day of operation of a new store or ecommerce business. We operate a sales strategy that integrates our stores with our ecommerce platform. There is significant interaction between our store sales and our ecommerce sales channels and we believe that they are utilized in tandem to serve our customers. Therefore, our comparable sales also include our ecommerce sales. Changes in our comparable sales between two periods are based on net sales of store or ecommerce businesses which were in operation during both of the two periods being compared and, if a store or ecommerce business is included in the calculation of comparable sales for only a portion of one of the two periods being compared, then that store or ecommerce business is included in the calculation for only the comparable portion of the other period. Any increase or decrease less than 25% in square footage of an existing comparable store, including remodels and relocations within the same mall, or temporary closures less than seven days does not eliminate that store from inclusion in the calculation of comparable sales. Any store or ecommerce business that we acquire will be included in the calculation of comparable sales after the first anniversary of the acquisition date. Current year foreign exchange rates are applied to both current year and prior year comparable sales to achieve a consistent basis for comparison. Stores closed due to the impacts of COVID-19 are excluded from our comparable sales calculation if they were closed for longer than seven days. Our ecommerce business has remained open during the COVID-19 pandemic and therefore remains reported in our comparable sales calculation. There may be variations in the way in which some of our competitors and other apparel retailers calculate comparable sales. As a result, data herein regarding our comparable sales may not be comparable to similar data made available by our competitors or other retailers. 17 Cost of goods sold consists of branded merchandise costs and our private label merchandise costs including design, sourcing, importing and inbound freight costs. Our cost of goods sold also includes shrinkage, buying, occupancy, distribution and warehousing costs (including associated depreciation) and freight costs for store merchandise transfers. This may not be comparable to the way in which our competitors or other retailers compute their cost of goods sold. Cash consideration received from vendors is reported as a reduction of cost of goods sold if the inventory has sold, a reduction of the carrying value of the inventory if the inventory is still on hand, or a reduction of selling, general and administrative expense if the amounts are reimbursements of specific, incremental and identifiable costs of selling the vendors’ products. With respect to the freight component of our ecommerce sales, amounts billed to our customers are included in net sales and the related freight cost is charged to cost of goods sold. Selling, general and administrative expenses consist primarily of store personnel wages and benefits, administrative staff and infrastructure expenses, freight costs for merchandise shipments from the distribution centers to the stores, store supplies, depreciation on fixed assets at our home office and stores, facility expenses, training expenses and advertising and marketing costs. Credit card fees, insurance, public company expenses, legal expenses, incentive compensation, stock-based compensation and other miscellaneous operating costs are also included in selling, general and administrative expenses. This may not be comparable to the way in which our competitors or other retailers compute their selling, general and administrative expenses. Key Performance Indicators Our management evaluates the following items, which we consider key performance indicators, in assessing our performan Net sales. Net sales constitute gross sales, net of sales returns and deductions for promotions, and shipping revenue. Net sales includes comparable sales and new store sales for all our store and ecommerce businesses. We consider net sales to be an important indicator of our current performance. Net sales results are important to achieve leveraging of our costs, including store payroll and store occupancy. Net sales also have a direct impact on our operating profit, cash and working capital. Gross profit. Gross profit measures whether we are optimizing the price and inventory levels of our merchandise. Gross profit is the difference between net sales and cost of goods sold. Any inability to obtain acceptable levels of initial markups or any significant increase in our use of markdowns could have an adverse effect on our gross profit and results of operations. Operating profit. We view operating profit as a key indicator of our success. Operating profit is the difference between gross profit and selling, general and administrative expenses. The key drivers of operating profit are net sales, gross profit, our ability to control selling, general and administrative expenses and our level of capital expenditures affecting depreciation expense. Diluted earnings per share. Diluted earnings per share is based on the weighted average number of common shares and common share equivalents outstanding during the period. We view diluted earnings per share as a key indicator of our success in increasing shareholder value. Trends and Uncertainties Affecting Our Results and Comparability We have been, and we expect to continue to be affected by a number of factors that may cause actual results to differ from our historical results or current expectations. These factors include the impact of the COVID-19 pandemic on our operations and financial results; foreign currency rates; changes in laws, including U.S. tax law changes; fluctuations in variable costs, and changes in general economic conditions in the markets in which we operate. Additionally, we have experienced increased costs during 2021 and 2022 that are expected to continue. Our ability to raise our selling prices depends on market conditions and there may be periods during which we are unable to fully recover increases in our costs or experience an adverse impact on demand due to pricing actions. We believe higher consumer price inflation has resulted in reduced consumer confidence and consumer spending which negatively impacted our sales during the three and six months ended July 30, 2022. 18 Results of Operations The following table presents selected items on the condensed consolidated statements of operations as a percent of net sal Three Months Ended Six Months Ended July 30, 2022 July 31, 2021 July 30, 2022 July 31, 2021 Net sales 100.0 % 100.0 % 100.0 % 100.0 % Cost of goods sold 65.9 60.9 66.5 62.0 Gross profit 34.1 39.1 33.5 38.0 Selling, general and administrative expenses 31.8 27.2 32.3 25.9 Operating profit 2.3 11.9 1.2 12.1 Interest and other income, net 0.2 0.3 0.3 0.4 Earnings before income taxes 2.5 12.2 1.5 12.5 Provision for income taxes 1.1 3.3 0.9 3.3 Net income 1.4 % 8.9 % 0.6 % 9.2 % In December 2019, a novel stain of coronavirus was first identified, and in March 2020, the World Health Organization categorized COVID-19 as a pandemic. In the best interest of our customers and employees and in line with governmental regulations, all stores were closed by March 19, 2020 . We began gradually re-opening physical stores at the end of the first fiscal quarter and into the second fiscal quarter, with the majority of our stores open through the third and fourth quarter. Changes in our operations due to COVID-19 resulted in material fluctuations to our results of operations during fiscal 2020 and in certain geographies in 2021 . Our stores were open, on an aggregate basis, approximately 100% of the possible days across the global business during the three months and six months ended July 30, 2022, compared to 96.3% and 95.0% during the three and six months ended July 30, 2021. Three Months (13 weeks) Ended July 30, 2022 Compared With Three Months (13 weeks) Ended July 31, 2021 Net Sales Net sales were $220.0 million for the three months ended July 30, 2022 compared to $268.7 million for the three months ended July 31, 2021, a decrease of $48.7 million or 18.1%. The decrease in sales was primarily driven by the benefits from domestic stimulus in the prior year when consumers were less likely to spend on travel and in-person entertainment due to COVID-19 and the continued inflationary pressures on the consumer. By region, North America sales decreased $47.6 million or 20.1% and other international sales (which consists of Europe and Australia sales) decreased $1.0 million or 3.4% for the three months ended July 30, 2022 compared to the three months ended July 31, 2021. Excluding the impact of changes in foreign exchange rates, North America sales decreased $47.1 million or 19.8% and other international sales increased $3.1 million or 10.0% for the three months ended July 30, 2022 compared to the three months ended July 31, 2021. Net sales included a decrease in transactions and dollars per transaction. Dollars per transaction decreased due to a decrease in units per transaction, partially offset by an increase in average unit retail. By category, net sales were primarily driven by a decrease in men’s clothing followed by hardgoods, accessories, women’s clothing, and footwear. Gross Profit Gross profit was $75.1 million for the three months ended July 30, 2022 compared to $105.0 million for the three months ended July 31, 2021, a decrease of $29.9 million, or 28.5%. As a percent of net sales, gross profit decreased 500 basis points for the three months ended July 30, 2022 to 34.1% as we saw significant deleverage on lower sales across our fixed costs as well as rate increases in numerous areas. The decrease was primarily driven by a 220 basis point deleverage in store occupancy costs, a 120 basis point increase in inventory shrinkage, a 80 basis point increase in web shipping costs, and a 70 basis point increase in distribution center costs. Selling, General and Administrative Expenses Selling, general and administrative (“SG&A”) expenses were $70.1 million for the three months ended July 30, 2022 compared to $73.0 million for the three months ended July 31, 2021, a decrease of $2.9 million, or 4.0%. SG&A expenses as a percent of net sales increased 460 basis points for the three months ended July 30, 2022 to 31.8% . The increase was primarily driven by 290 basis points due to store wages tied to both deleverage on lower sales as well as rate increase, 90 basis points due to non-wage store costs primarily impacted by deleverage on lower sales, 90 basis points in corporate costs and 90 basis points in non-store wages. These increases were partially offset by 110 basis points due to legal settlement costs recorded in the prior year related to the putative class action, Alexia Herrera, on behalf of herself and all other similarly situated, v. Zumiez Inc. 19 Net Income Net income for the three months ended July 30, 2022 was $3.1 million, or $0.16 earnings per diluted share, compared with net income of $24.0 million, or $0.94 earnings per diluted share, for the three months ended July 31, 2021. Our effective income tax rate for the three months ended July 30, 2022 was a 44.7% provision for income taxes compared to a 26.8% provision for income taxes for the three months ended July 31, 2021. The increase was primarily due the exclusion of net losses in certain jurisdictions from our estimated annual effective tax rate, due to the uncertainty of the realization of our deferred tax assets in certain jurisdictions, and the proportion of earnings or loss before income taxes across jurisdictions. Six Months (26 weeks) Ended July 30, 2022 Compared With Six Months (26 weeks) Ended July 31, 2021 Net Sales Net sales were $440.7 million for the six months ended July 30, 2022 compared to $547.7 million for the six months ended July 31, 2021, a decrease of $107.1 million or 19.5%. The decrease in sales was primarily driven by the benefits from domestic stimulus in the prior year when consumers were less likely to spend on travel and in-person entertainment due to COVID-19 and the continued inflationary pressures on the consumer. By region, North America sales decreased $110.0 million or 22.6% and other international sales (which consists of Europe and Australia sales) increased $2.9 million or 4.7% for the six months ended July 30, 2022 compared to the six months ended July 31, 2021. Excluding the impact of changes in foreign exchange rates, North America sales decreased $109.3 million or 22.5% and other international sales increased $9.8 million or 15.8% for the six months ended July 30, 2022 compared to the six months ended July 31, 2021. Net sales included a decrease in transactions and dollars per transaction. Dollars per transaction decreased due to a decrease in units per transaction, partially offset by an increase in average unit retail. By category, net sales were primarily driven by a decrease in men’s clothing followed by hardgoods, accessories, women’s clothing, and footwear. Gross Profit Gross profit was $147.4 million for the six months ended July 30, 2022 compared to $208.1 million for the six months ended July 31, 2021, a decrease of $60.7 million, or 29.2%. As a percent of net sales, gross profit decreased 450 basis points for the six months ended July 30, 2022 to 33.5%, as we saw significant deleverage on lower sales across our fixed costs as well as rate increases in numerous areas. The decrease was primarily driven by a 260 basis point deleverage in store occupancy costs, a 80 basis point increase in web shipping costs, a 70 basis point increase in distribution center costs and a 60 basis point decrease in inventory shrinkage. Selling, General and Administrative Expenses Selling, general and administrative (“SG&A”) expenses were $142.0 million for the six months ended July 30, 2022 compared to $141.9 million for the six months ended July 31, 2021, an increase of $0.1 million, or 0.1%. SG&A expenses as a percent of net sales increased 640 basis points for the six months ended July 30, 2022 to 32.3% . The increase was primarily driven by 350 basis points due to store wages tied to both deleverage on lower sales as well as rate increase, 140 basis points due to non-wage store costs primarily impacted by deleverage on lower sales, 110 basis points in non-store wages, 110 basis points in corporate costs and 100 basis points in Events as we got back to our normal cadence. These increases were partially offset by a 70 basis point decrease in annual incentive compensation, 60 basis points due to an increase in government subsidies related to a one-time German government subsidy received in the first quarter of fiscal 2022, and 50 basis points due to legal settlement costs recorded in the prior year related to the putative class action, Alexia Herrera, on behalf of herself and all other similarly situated, v. Zumiez Inc. Net Income Net income for the six months ended July 30, 2022 was $2.7 million, or $0.14 earnings per diluted share for the six months ended July 30, 2022, compared with net income of $50.4 million, or $1.96 earnings per diluted share, for the six months ended July 31, 2021 . Our effective income tax rate for the six months ended July 30, 2022 was a 60.2% provision for income taxes compared to a 26.2% provision for income taxes for the six months ended July 31, 2021. The increase was primarily due the exclusion of net losses in certain jurisdictions from our estimated annual effective tax rate, due to the uncertainty of the realization of our deferred tax assets in certain jurisdictions, and the proportion of earnings or loss before income taxes across jurisdictions. 20 Liquidity and Capital Resources Our primary uses of cash are for operational expenditures, inventory purchases and capital investments, including new stores, store remodels, store relocations, store fixtures and ongoing infrastructure improvements. Additionally, we may use cash for the repurchase of our common stock. Historically, our main source of liquidity has been cash flows from operations. The significant components of our working capital are inventories and liquid assets such as cash, cash equivalents, current marketable securities and receivables, reduced by accounts payable, accrued payroll and accrued expenses. Our working capital position benefits from the fact that we generally collect cash from sales to customers the same day or within several days of the related sale, while we typically have longer payment terms with our vendors. Our capital requirements include construction and fixture costs related to the opening of new stores and remodel and relocation expenditures for existing stores. Future capital requirements will depend on many factors, including the pace of new store openings, the availability of suitable locations for new stores and the nature of arrangements negotiated with landlords. Our net investment to open a new store has varied significantly in the past due to a number of factors, including the geographic location and size of the new store, and is likely to vary significantly in the future. During fiscal 2022, we expect to spend approximately $29 million to $31 million on capital expenditures, a majority of which will relate to leasehold improvements and fixtures for the approximately 35 new stores we remain on track to open in fiscal 2022 and remodels or relocations of existing stores. There can be no assurance that the number of stores that we actually open in fiscal 2022 will not be different from the number of stores we plan to open, or that actual fiscal 2022 capital expenditures will not differ from our expectations. Operating Activities Net cash from operating activities decreased by $76.3 million to $24.2 million used in operating activities for the six months ended July 30, 2022 from $52.1 million provided operating activities for the six months ended July 31, 2021. Our operating cash flows result primarily from cash received from our customers, offset by cash payments we make for inventory, employee compensation, store occupancy expenses and other operational expenditures. Cash received from our customers generally corresponds to our net sales. Because our customers primarily use credit cards or cash to buy from us, our receivables from customers settle quickly. Historically, changes to our operating cash flows have been driven primarily by changes in operating income, which is impacted by changes to non-cash items such as depreciation, amortization and accretion, deferred taxes, and changes to the components of working capital. Investing Activities Net cash provided by investing activities was $55.7 million for the six months ended July 30, 2022 related to $66.0 million in net sales of marketable securities, partially offset by $10.3 million of capital expenditures primarily for new store openings and existing store remodels or relocations. Net cash used in investing activities was $43.1 million for the six months ended July 31, 2021, related to $37.7 million in net purchases of marketable securities and $5.4 million of capital expenditures primarily for new store openings and existing store remodels or relocations . Financing Activities Net cash used in financing activities for the six months ended July 30, 2022 was $87.6 million, related to $87.9 million used in the repurchase of common stock and $0.5 million in payments for tax withholding obligations upon vesting of restricted stock, partially offset by $0.8 million in proceeds from the issuance and exercise of stock-based awards. Net cash used in financing activities for the six months ended July 31, 2021 was $8.6 million, related to $10.5 million used in the repurchase of common stock and $0.6 million in payments for tax withholding obligations upon vesting of restricted stock, partially offset by $2.5 million in proceeds from the issuance and exercise of stock-based awards. Sources of Liquidity Our most significant sources of liquidity continue to be funds generated by operating activities and available cash, cash equivalents and current marketable securities. We expect these sources of liquidity and available borrowings under our revolving credit facility will be sufficient to meet our foreseeable cash requirements for operations and planned capital expenditures for at least the next twelve months. Beyond this time frame, if cash flows from operations are not sufficient to meet our capital requirements, then we will be required to obtain additional equity or debt financing in the future. However, there can be no assurance that equity or debt financing will be available to us when we need it or, if available, that the terms will be satisfactory to us and not dilutive to our then-current shareholders. 21 We maintain a secured credit agreement with Wells Fargo Bank, N.A., which provided us with a senior secured credit facility (“credit facility”) of up to $ 2 5.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024 . The credit facility is available for working capital and other general corporate purposes. The credit facility provides for the issuance of standby letters of credit in an amount not to exceed $17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $10.0 million and with terms not to exceed 120 days. The credit facility will mature on December 1 , 202 4 . The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1. 3 5% per annum. We had open commercial letters of credit outstanding of less than $0.1 million at July 30, 2022 and no open commercial letters of credit outstanding at January 29, 2022 . We had $0.6 million in issued, but undrawn, standby letters of credit at July 30, 2022 and no issued standby letters of credit at January 29, 2022. Additionally, we maintain a credit facility with UBS Switzerland AG of up to 15.0 million Euro ($15.3 million as of July 30, 2022), which may be used to guarantee payment of letters of credit. The credit facility bears interest at 1.25%. There were no borrowings outstanding under this credit facility at July 30, 2022 or January 29, 2022. At July 30, 2022, we did not have any “off-balance sheet arrangements” as defined in relevant SEC regulations that are reasonably likely to have a current or future effect on our financial condition, results of operation, liquidity, capital expenditures or capital resources. Critical Accounting Estimates Our condensed consolidated financial statements are prepared in accordance with U.S. GAAP. In connection with the preparation of our condensed consolidated financial statements, we are required to make assumptions and estimates about future events and apply judgments that affect the reported amounts of assets, liabilities, revenue, expenses and the related disclosures. We base our assumptions, estimates and judgments on historical experience, current trends and other factors that we believe to be relevant at the time our condensed consolidated financial statements are prepared. On a regular basis, we review the accounting policies, assumptions, estimates and judgments to ensure that our condensed consolidated financial statements are presented fairly and in accordance with U.S. GAAP. However, because future events and their effects cannot be determined with certainty, actual results could differ from our assumptions and estimates, and such differences could be material. There have been no significant changes to our critical accounting estimates as discussed in our Annual Report on Form 10-K for the fiscal year ended January 29, 2022. 22 Risk Factors Investing in our securities involves a high degree of risk. The following risk factors, issues and uncertainties should be considered in evaluating our future prospects. In particular, keep these risk factors in mind when you read “forward-looking” statements elsewhere in this report. Forward-looking statements relate to our expectations for future events and time periods. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. Any of the following risks could harm our business, operating results or financial condition and could result in a complete loss of your investment. Additional risks and uncertainties that are not yet identified or that we currently think are immaterial may also harm our business and financial condition in the future. The novel coronavirus (COVID-19) global pandemic could continue to have a material impact on our business. Since being declared a pandemic by the World Health Organization in March 2020, COVID-19 has negatively impacted global economies, disrupted consumer spending and global supply chains, and created significant volatility and disruption of financial markets. The COVID-19 global pandemic could continue to have a material impact on our business, including our results of operations, financial condition and liquidity. The duration and severity of the COVID-19 pandemic will determine its ongoing impact on our business, including our ability to execute business strategies and initiatives in their expected time frame, the effect on our suppliers and disruptions to the global supply chain, and the ability of our customers to pay for our services and products. A resurgence in the spread of COVID-19, or its variants, could force the closure of our retail stores globally, as we saw in the first quarter of 2020. We could also experience store closures on a regional basis, like we have seen in 2020 and 2021. We may face long term store closure requirements and other operational restrictions with respect to some or all of our physical locations for prolonged periods of time due to, among other factors, evolving and increasingly stringent governmental restrictions, public health directives, quarantine policies, or social distancing measures, resulting in a materially adverse impact to our financial results. With store closures withstanding, consumer fears about becoming ill with the virus may persist, adversely affecting traffic to our stores. Consumer spending may also be negatively impacted by general economic downturn and decreased consumer confidence resulting from the COVID-19 global pandemic. This may negatively impact sales in our stores and our ecommerce channel. The potential reduction in consumer visits to our stores, caused by COVID-19, and any decreased spending at retail stores or online caused by a lack of consumer confidence and spending following the pandemic, could result in a loss of sales and profits. A rise in the spread of COVID-19 also has the potential to significantly impact our supply chain if manufacturers of our products, distribution centers where we manage our inventory, or operations of our logistics and other service providers are disrupted, temporarily closed or experience worker shortages. Due to the seasonality of our business, widespread closures during peak shopping periods could disproportionally impact financial results. The inability to effectively adapt to changes in consumer behavior could result in excess inventory and adversely impact financial results. We may experience adverse effects of prolonged operating restrictions related to in-person marketing and training events. The COVID-19 pandemic’s impact on macroeconomic conditions could alter the functioning of financial and capital markets, foreign currency exchange rates, commodity prices, and interest rates. After the COVID-19 global pandemic has settled, we may continue to experience adverse impacts to our business as a result of evolving macroeconomic factors, including general economic uncertainty, unemployment rates, high inflation, recessionary pressures and any actual economic recession that has occurred or may occur in the future. The extent of the impact of the COVID-19 global pandemic on our business remains uncertain and difficult to predict, given the innumerable unknowns regarding the duration and severity of the pandemic. U.S. and global economic and political uncertainty, coupled with cyclical economic trends in retailing, could have a material adverse effect on our results of operations. Our retail market historically has been subject to substantial cyclicality. As the U.S. and global economic and political conditions change, the trends in discretionary consumer spending become unpredictable and discretionary consumer spending could be reduced due to uncertainties about the future. Economic and consumer confidence can also be affected by a variety of factors, including housing prices, unemployment rates and inflation. When disposable income decreases or discretionary consumer spending is reduced due to a decline in consumer confidence, purchases of apparel and related products may decline. A deterioration in macroeconomic conditions or consumer confidence or uncertainty in the U.S. and global economies and political environment could have a material adverse impact on our results of operations and financial position. 23 In response to a decline in disposable income and consumer confidence, we believe the “value” message has become more important to consumers. As a retailer that sells approximately 87% branded merchandise, this trend may negatively affect our business, as we generally will have to charge more than vertically integrated private label retailers or we may be forced to rely on promotional sales to compete in our market which could have a material adverse effect on our financial position . Failure to anticipate, identify and respond to changing fashion trends, customer preferences and other fashion-related factors could have a material adverse effect on us. C ustomer tastes and fashion trends in our market are volatile and tend to change rapidly. Our success depends on our ability to effectively anticipate, identify and respond to changing fashion tastes and consumer preferences, and to translate market trends into appropriate, saleable product offerings in a timely manner. If we are unable to successfully anticipate, identify or respond to changing styles or trends and misjudge the market for our products or any new product lines, including adequately anticipating the correct mix and trends of our private label merchandise, our sales may be lower than predicted and we may be faced with a substantial amount of unsold inventory or missed opportunities. In response to such a situation, we may be forced to rely on markdowns or promotional sales to dispose of excess or slow-moving inventory, which could have a material adverse effect on our results of operations. We may be unable to compete favorably in the highly competitive retail industry, and if we lose customers to our competitors, our sales could decrease. The teenage and young adult retail apparel, footwear, accessories and hardgoods industry is highly competitive. We compete with other retailers for vendors, teenage and young adult customers, suitable store locations, qualified store associates, management personnel, online marketing content, social media engagement and ecommerce traffic. Some of our competitors are larger than we are and have substantially greater financial and marketing resources, including advanced ecommerce market capabilities. Additionally, some of our competitors may offer more options for free and/or expedited shipping for ecommerce sales. Direct competition with these and other retailers may increase significantly in the future, which could require us, among other things, to lower our prices and could result in the loss of our customers. Current and increased competition could have a material adverse effect on our business, results of operations and financial condition. Most of our merchandise is produced by foreign manufacturers; therefore, the availability, quality and costs of our merchandise may be negatively affected by risks associated with international trade and other international conditions. Most of our merchandise is produced by manufacturers around the world. Some of these facilities are located in regions that may be affected by natural disasters, public health concerns, or emergencies, such as COVID-19 and other communicable diseases or viruses, political instability or other conditions that could cause a disruption in trade. Trade restrictions such as increased tariffs or quotas, or both, could also increase the cost and reduce the supply of merchandise available to us. Any reduction in merchandise available to us or any increase in its cost due to tariffs, quotas or local issues that disrupt trade could have a material adverse effect on our results of operations. This includes costs to comply with regulatory developments regarding the use of “conflict minerals,” certain minerals originating from the Democratic Republic of Congo and adjoining countries, which may affect the sourcing and availability of raw materials used by manufacturers and subject us to increased costs associated with our products, processes or sources of our inputs. Our business could be adversely affected by disruptions in the supply chain, such as strikes, work stoppages, or port closures. A decrease in consumer traffic could cause our sales to be less than expected. We depend heavily on generating customer traffic to our stores and websites. This includes locating many of our stores in prominent locations within successful shopping malls. Sales at these stores are derived, in part, from the volume of traffic in those malls. Our stores benefit from the ability of a mall’s “anchor” tenants, generally large department stores and other area attractions, to generate consumer traffic in the vicinity of our stores and the continuing popularity of malls as shopping destinations. In addition, some malls that were in prominent locations when we opened our stores may cease to be viewed as prominent. If this trend continues or if the popularity of mall shopping continues to decline generally among our customers, our sales may decline, which would impact our results of operations. Additionally, we may experience other risks associated with operating leases, such as lease termination or impairment of operating lease right-of-use assets. These risks may include circumstances that are not within our control, such as changes in fair market rent. Furthermore, we depend on generating increased traffic to our ecommerce business and converting that traffic into sales. This requires us to achieve expected results from our marketing and social media campaigns, accuracy of data analytics, reliability of our website, network, and transaction processing and a high-quality online customer experience. Our sales volume and customer traffic in our stores and on our websites generally could be adversely affected by, among other things, economic downturns, competition from other ecommerce retailers, non-mall retailers and other malls, increases in gasoline prices, fluctuations in exchange rates in border or tourism-oriented locations and the closing or decline in popularity of other stores in the malls in which we are located. Also, geopolitical events, including the threat of terrorism, or widespread health emergencies, such as COVID-19 and other communicable diseases, viruses, or pandemics, could cause people to avoid our stores in shopping malls and alter consumer trends. 24 An uncertain economic outlook or continued bankruptcies of mall-based retailers could curtail new shopping mall development, decrease shopping mall and ecommerce traffic, reduce the number of hours that shopping mall operators keep their shopping malls open or force them to cease operations entirely. A reduction in consumer traffic to our stores or websites could have a material adverse effect on our business, results of operations and financial condition. Our growth strategy depends on our ability to grow customer engagement in our current markets and expand into new markets, which could strain our resources and cause the performance of our existing business to suffer. Our growth largely depends on our ability to optimize our customer engagement in our current trade areas and operate successfully in new geographic markets. However, our ability to open stores in new geographic markets, including international locations, is subject to a variety of risks and uncertainties, and we may be unable to open new stores as planned or have access to desirable lease space, and any failure to successfully open and operate in new markets could have a material adverse effect on our results of operations. We intend to continue to open new stores in future years, while remodeling a portion of our existing store base such that we have the optimum number of stores in any given trade area. The expansion into new markets may present competitive, merchandising, hiring and distribution challenges that are different from those currently encountered in our existing markets. In addition, our proposed expansion will place increased demands on our operational, managerial and administrative resources. These increased demands could cause us to operate our business less effectively, which in turn could cause deterioration in the financial performance of our individual stores and our overall business. In addition, successful execution of our growth strategy may require that we obtain additional financing, and we may not be able to obtain that financing on acceptable terms or at all. Failure to successfully integrate any businesses that we acquire could have an adverse impact on our results of operations and financial performance. We may, from time to time, acquire businesses, such as our acquisition of Blue Tomato and Fast Times. We may experience difficulties in integrating any businesses we may acquire, including their stores, websites, facilities, personnel, financial systems, distribution, operations and general operating procedures, and any such acquisitions may also result in the diversion of our capital and our management’s attention from other business issues and opportunities. If we experience difficulties in integrating acquisitions or if such acquisitions do not provide the benefits that we expect to receive, we could experience increased costs and other operating inefficiencies, which could have an adverse effect on our results of operations and overall financial performance. Our plans for international expansion include risks that could have a negative impact on our results of operations. We plan to continue to open new stores in the Canadian, European, and Australian markets. We may continue to expand internationally into other markets, either organically, or through additional acquisitions. International markets may have different competitive conditions, consumer tastes and discretionary spending patterns than our existing U.S. market. As a result, operations in international markets may be less successful than our operations in the U.S. Additionally, consumers in international markets may not be familiar with us or the brands we sell, and we may need to build brand awareness in the markets. Furthermore, we have limited experience with the legal and regulatory environments and market practices in new international markets and cannot guarantee that we will be able to penetrate or successfully operate in these new international markets. We also expect to incur additional costs in complying with applicable foreign laws and regulations as they pertain to both our products and our operations. Accordingly, for the reasons noted above, our plans for international expansion include risks that could have a negative impact on our results of operations. Our sales and inventory levels fluctuate on a seasonal basis. Accordingly, our quarterly results of operations are volatile and may fluctuate significantly. Our quarterly results of operations have fluctuated significantly in the past and can be expected to continue to fluctuate significantly in the future. Our sales and profitability are typically disproportionately higher in the third and fourth fiscal quarters of each fiscal year due to increased sales during the back-to-school and winter holiday shopping seasons. Sales during these periods cannot be used as an accurate indicator of annual results. As a result of this seasonality, any factors negatively affecting us during the last half of the year, including unfavorable economic conditions, adverse weather or our ability to acquire seasonal merchandise inventory, could have a material adverse effect on our financial condition and results of operations for the entire year. In addition, in order to prepare for the back-to-school and winter holiday shopping seasons, we must order and keep in stock significantly more merchandise than we carry during other times of the year. Any unanticipated decrease in demand for our products during these peak shopping seasons could require us to sell excess inventory at a substantial markdown, which could have a material adverse effect on our business, results of operations and financial condition. Our quarterly results of operations are affected by a variety of other factors, includin • the timing of new store openings and the relative proportion of our new stores to mature stores; 25 • whether we are able to successfully integrate any new stores that we acquire and the presence of any unanticipated liabilities in connection therewith; • fashion trends and changes in consumer preferences; • calendar shifts of holiday or seasonal periods; • changes in our merchandise mix; • timing of promotional events; • general economic conditions and, in particular, the retail sales environment; • actions by competitors or mall anchor tenants; • weather conditions; • the level of pre-opening expenses associated with our new stores; and • inventory shrinkage beyond our historical average rates. If our information systems fail to function effectively or do not scale to keep pace with our planned growth, our operations could be disrupted and our financial results could be harmed. If our information systems, including hardware and software, do not work effectively, this could adversely impact the promptness and accuracy of our transaction processing, financial accounting and reporting and our ability to manage our business and properly forecast operating results and cash requirements. Additionally, we rely on third-party service providers for certain information systems functions. If a service provider fails to provide the data quality, communications capacity or services we require, the failure could interrupt our services and could have a material adverse effect on our business, financial condition and results of operations. To manage the anticipated growth of our operations and personnel, we may need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. If we fail to meet the requirements to adequately maintain the privacy and security of our personal data and business information, we may be subjected to adverse publicity, litigation and significant expenses. Information systems are susceptible to an increasing threat of continually evolving cybersecurity risks. If we fail to maintain or adequately maintain security systems, devices and activity monitoring to prevent unauthorized access to our network, systems and databases containing confidential, proprietary, and personally identifiable information, we may be subject to additional risk of adverse publicity, litigation or significant expense. Nevertheless, if unauthorized parties gain access to our networks, systems or databases, they may be able to steal, publish, delete or modify confidential information. In such circumstances, we could be held liable to our customers or other parties or be subject to regulatory or other actions for breaching privacy rules and we may be exposed to reputation damage and loss of customers’ trust and business. This could result in costly investigations and litigation, civil or criminal penalties and adverse publicity that could adversely affect our financial condition, results of operations and reputation. Actual or anticipated attacks may cause us to incur increasing costs, including costs to deploy additional resources, train employees, and engage third-parties. Further, the regulatory environment surrounding information security, cybersecurity and privacy is increasingly demanding. If we are unable to comply with the new and changing security standards, we may be subject to fines, restrictions and financial exposure, which could adversely affect our retail operations. Significant fluctuations and volatility in the cost of raw materials, global labor, shipping and other costs related to the production of our merchandise may have a material adverse effect on our business, results of operations and financial conditions. Increases in the cost of raw materials, global labor costs, freight costs and other shipping costs in the production and transportation of our merchandise can result in higher costs for this merchandise. The costs for these products are affected by weather, consumer demand, government regulation, speculation on the commodities market and other factors that are generally unpredictable and beyond our control. Our gross profit and results of operations could be adversely affected to the extent that the selling prices of our products do not increase proportionately with the increases in the costs of raw materials. Increasing labor costs and oil-related product costs, such as manufacturing and transportation costs, could also adversely impact gross profit. Additionally, significant changes in the relationship between carrier capacity and shipper demand could increase transportation costs, which could also adversely impact gross profit. 26 Fluctuations in foreign currency exchange rates could impact our financial condition and results of operations. We are exposed to foreign currency exchange rate risk with respect to our sales, profits, assets and liabilities denominated in currencies other than the U.S. dollar. As a result, the fluctuation in the value of the U.S. dollar against other currencies could have a material adverse effect on our results of operations, financial condition and cash flows. Upon translation, operating results may differ materially from expectations. As we continue to expand our international operations, our exposure to exchange rate fluctuations will increase. Tourism spending may be affected by changes in currency exchange rates, and as a result, sales at stores with higher tourism traffic may be adversely impacted by fluctuations in currency exchange rates. Further, although the prices charged by vendors for the merchandise we purchase are primarily denominated in U.S. dollars, a decline in the relative value of the U.S. dollar to foreign currencies could lead to increased merchandise costs, which could negatively affect our competitive position and our results of operations. Our business could be adversely affected by increased labor costs, including costs related to an increase in minimum wage and health care. Labor is one of the primary components in the cost of operating our business. Increased labor costs, whether due to competition, unionization, increased minimum wage, state unemployment rates, health care, mandated safety protocols, or other employee benefits costs may adversely impact our operating profit. A considerable amount of our store team members are paid at rates related to the federal or state minimum wage and any changes to the minimum wage rate may increase our operating expenses. Furthermore, inconsistent increases in state and or city minimum wage requirements limit our ability to increase prices across all markets and channels. Additionally, we are self-insured with respect to our health care coverage in the U.S. and do not purchase third party insurance for the health insurance benefits provided to employees with the exception of pre-defined stop loss coverage, which helps limit the cost of large claims. There is no assurance that future health care legislation will not adversely impact our results or operations. Our business could suffer if a manufacturer fails to use acceptable labor and environmental practices. We do not control our vendors or the manufacturers that produce the products we buy from them, nor do we control the labor and environmental practices of our vendors and these manufacturers. The violation of labor, safety, environmental and/or other laws and standards by any of our vendors or these manufacturers, or the divergence of the labor and environmental practices followed by any of our vendors or these manufacturers from those generally accepted as ethical in the U.S., could interrupt, or otherwise disrupt, the shipment of finished products to us or damage our reputation. Any of these, in turn, could have a material adverse effect on our reputation, financial condition and results of operations. In that regard, most of the products we sell are manufactured internationally, primarily in Asia, Mexico and Central America, which may increase the risk that the labor and environmental practices followed by the manufacturers of these products may differ from those considered acceptable in the U.S. Additionally, our products are subject to regulation of and regulatory standards set by various governmental authorities with respect to quality and safety. These regulations and standards may change from time to time. Our inability to comply on a timely basis with regulatory requirements could result in significant fines or penalties, which could adversely affect our reputation and sales. Issues with the quality and safety of merchandise we sell, regardless of our culpability, or customer concerns about such issues, could result in damage to our reputation, lost sales, uninsured product liability claims or losses, merchandise recalls and increased costs. If we fail to develop and maintain good relationships with vendors or if a vendor is otherwise unable or unwilling to supply us with adequate quantities of their products at acceptable prices, our business and financial performance could suffer. Our business is dependent on developing and maintaining good relationships with a large number of vendors to provide our customers with an extensive selection of current and relevant brands. In addition to maintaining our large number of current vendor relationships, each year we are identifying, attracting and launching new vendors to provide a diverse and unique product assortment. We believe that we generally are able to obtain attractive pricing and terms from vendors because we are perceived as a desirable customer, and deterioration in our relationship with our vendors could have a material adverse effect on our business. However, there can be no assurance that our current vendors or new vendors will provide us with an adequate supply or quality of products or acceptable pricing. Our vendors could discontinue selling to us, raise the prices they charge, sell through direct channels or allow their merchandise to be discounted by other retailers. There can be no assurance that we will be able to acquire desired merchandise in sufficient quantities on terms acceptable to us in the future. In addition, certain vendors sell their products directly to the retail market and therefore compete with us directly and other vendors may decide to do so in the future. There can be no assurance that such vendors will not decide to discontinue supplying their products to us, supply us only less popular or lower quality items, raise the prices they charge us or focus on selling their products directly. 27 In addition, a number of our vendors are smaller, less capitalized companies and are more likely to be impacted by unfavorable general economic and market conditions than larger and better capitalized companies. These smaller vendors may not have sufficient liquidity during economic downturns to properly fund their businesses and their ability to supply their products to us could be negatively impacted. Any inability to acquire suitable merchandise at acceptable prices, or the loss of one or more key vendors, could have a material adverse effect on our business, results of operations and financial condition. Our business is susceptible to weather conditions that are out of our control, including the potential risks of unpredictable weather patterns and any weather patterns associated with naturally occurring global climate change, and the resultant unseasonable weather could have a negative impact on our results of operations. Our business is susceptible to unseasonable weather conditions. For example, extended periods of unseasonably warm temperatures during the winter season or cool weather during the summer season (including any weather patterns associated with global warming and cooling) could render a portion of our inventory incompatible with those unseasonable conditions. These prolonged unseasonable weather conditions could have a material adverse effect on our business and results of operations. Our omni-channel strategy may not have the return we anticipate, which could have an adverse effect on our results of operations. We are executing an omni-channel strategy to enable our customers to shop wherever, whenever and however they choose to engage with us. Our omni-channel strategy may not deliver the results we anticipate or may not adequately anticipate changing consumer trends, preferences and expectations. We will continue to develop additional ways to execute our superior omni-channel experience and interact with our customers, which requires significant investments in IT systems and changes in operational strategy, including localization, online and in-store point of sale systems, order management system, and transportation management system. If we fail to effectively integrate our store and ecommerce shopping experiences, effectively scale our IT structure or we do not realize the return on our investments that we anticipate our operating results could be adversely affected. Our competitors are also investing in omni-channel initiatives. If our competitors are able to be more effective in their strategy, it could have an adverse effect on our results of operations. If we our omni-channel strategy fails to meet customer expectations related to functionality, timely delivery, or customer experience, our business and results of operations may be adversely affected. Additionally, to manage the anticipated growth of our operations and personnel, we will need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. If we lose key executives or are unable to attract and retain the talent required for our business, our financial performance could suffer. Our performance depends largely on the efforts and abilities of our key executives. If we lose the services of one or more of our key executives, we may not be able to successfully manage our business or achieve our growth objectives. Furthermore, as our business grows, we will need to attract and retain additional qualified personnel in a timely manner and we may not be able to do so. Failure to meet our staffing needs could adversely affect our ability to implement our growth strategy and could have a material impact on our results of operations. Our success depends in part upon our ability to attract, motivate and retain a sufficient number of qualified employees who understand and appreciate our culture and brand and are able to adequately represent this culture. Qualified individuals of the requisite caliber, skills and number needed to fill these positions may be in short supply in some areas and the employee turnover rate in the retail industry is high. Our business depends on the ability to hire and retain qualified technical and support roles for procurement, distribution, ecommerce and back office functions. Competition for qualified employees in these areas could require us to pay higher wages to attract a sufficient number of suitable employees. If we are unable to hire and retain store managers and store associates capable of consistently providing a high level of customer service, as demonstrated by their enthusiasm for our culture and knowledge of our merchandise, our ability to open new stores may be impaired and the performance of our existing and new stores could be materially adversely affected. We are also dependent upon temporary personnel to adequately staff our operations particularly during busy periods such as the back-to-school and winter holiday seasons. There can be no assurance that we will receive adequate assistance from our temporary personnel, or that there will be sufficient sources of temporary personnel. If we are unable to hire qualified temporary personnel, our results of operations could be adversely impacted. Although none of our employees are currently covered by collective bargaining agreements, we cannot guarantee that our employees will not elect to be represented by labor unions in the future, which could increase our labor costs and could subject us to the risk of work stoppages and strikes. Any such failure to meet our staffing needs, any material increases in employee turnover rates, any increases in labor costs or any work stoppages, interruptions or strikes could have a material adverse effect on our business or results of operations. 28 A decline in cash flows from operations could have a material adverse effect on our business and growth plans. We depend on cash flow from operations to fund our current operations and our growth strategy, including the payment of our operating leases, wages, store operation costs and other cash needs. If our business does not generate sufficient cash flow from operating activities, and sufficient funds are not otherwise available to us from borrowings under our credit facility or from other sources, we may not be able to pay our operating lease expenses, grow our business, respond to competitive challenges or fund our other liquidity and capital needs, which could have a material adverse effect on our business. The terms of our secured credit agreement impose certain restrictions on us that may impair our ability to respond to changing business and economic conditions, which could have a significant adverse impact on our business. Additionally, our business could suffer if our ability to acquire financing is reduced or eliminated. We maintain a secured credit agreement with Wells Fargo Bank, N.A., which provides us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024. The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. The credit facility contains certain financial maintenance covenants that generally require us to have net income after taxes of at least $5.0 million on a trailing four-quarter basis and a quick ratio of 1.25:1.0 at the end of each fiscal quarter. These restrictions could (1) limit our ability to plan for or react to market conditions or meet capital needs or otherwise restrict our activities or business plans; and (2) adversely affect our ability to finance our operations, strategic acquisitions, investments or other capital needs or to engage in other business activities that would be in our interest. The credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. Additionally, we cannot be assured that our borrowing relationship with our lenders will continue or that our lenders will remain able to support their commitments to us in the future. If our lenders fail to do so, then we may not be able to secure alternative financing on commercially reasonable terms, or at all. Our business could suffer with the closure or disruption of our home office or our distribution centers. In the U.S., we rely on a single distribution center located in Corona, California to receive, store and distribute the vast majority of our merchandise to our domestic stores. Internationally, we operate a combined distribution and ecommerce fulfillment center located in Graz, Austria that supports our Blue Tomato ecommerce and store operations in Europe. We operate a distribution center located in Delta, British Columbia, Canada to distribute our merchandise to our Canadian stores. We operate a distribution and ecommerce fulfillment center located in Melbourne, Australia to distribute our merchandise to our Australian stores. Additionally, we are headquartered in Lynnwood, Washington. As a result, unforeseen events, including war, terrorism, other political instability or conflicts, riots, public health issues (including widespread/pandemic illnesses such as coronavirus and other communicable diseases or viruses), a natural disaster or other catastrophic event that affects one of the regions where we operate these centers or our home office could significantly disrupt our operations and have a material adverse effect on our business, results of operations and financial condition. The effects of war, acts of terrorism, threat of terrorism, or other types of mall violence, could adversely affect our business. Most of our stores are located in shopping malls. Any threat of terrorist attacks or actual terrorist events, or other types of mall violence, such as shootings or riots, could lead to lower consumer traffic in shopping malls. In addition, local authorities or mall management could close shopping malls in response to security concerns. Mall closures, as well as lower consumer traffic due to security concerns, could result in decreased sales. Additionally, the threat, escalation or commencement of war or other armed conflict elsewhere, could significantly diminish consumer spending, and result in decreased sales. Decreased sales could have a material adverse effect on our business, financial condition and results of operations. 29 Our inability or failure to protect our intellectual property or our infringement of other’s intellectual property could have a negative impact on our operating results. We believe that our trademarks and domain names are valuable assets that are critical to our success. The unauthorized use or other misappropriation of our trademarks or domain names could diminish the value of the Zumiez, Blue Tomato, or Fast Times brands, our store concepts, our private label brands or our goodwill and cause a decline in our net sales. Although we have secured or are in the process of securing protection for our trademarks and domain names in a number of countries outside of the U.S., there are certain countries where we do not currently have or where we do not currently intend to apply for protection for certain trademarks. Also, the efforts we have taken to protect our trademarks may not be sufficient or effective. Therefore, we may not be able to prevent other persons from using our trademarks or domain names outside of the U.S., which also could adversely affect our business. We are also subject to the risk that we may infringe on the intellectual property rights of third parties. Any infringement or other intellectual property claim made against us, whether or not it has merit, could be time-consuming, result in costly litigation, cause product delays or require us to pay royalties or license fees. As a result, any such claim could have a material adverse effect on our operating results. Our operations expose us to the risk of litigation, which could lead to significant potential liability and costs that could harm our business, financial condition or results of operations. We employ a substantial number of full-time and part-time employees, a majority of whom are employed at our store locations. As a result, we are subject to a large number of federal, state and foreign laws and regulations relating to employment. This creates a risk of potential claims that we have violated laws related to discrimination and harassment, health and safety, wage and hour laws, criminal activity, personal injury and other claims. We are also subject to other types of claims in the ordinary course of our business. Some or all of these claims may give rise to litigation, which could be time-consuming for our management team, costly and harmful to our business. In addition, we are exposed to the risk of class action litigation. The costs of defense and the risk of loss in connection with class action suits are greater than in single-party litigation claims. Due to the costs of defending against such litigation, the size of judgments that may be awarded against us, and the loss of significant management time devoted to such litigation, we cannot provide assurance that such litigation will not disrupt our business or impact our financial results. We are involved, from time to time, in litigation incidental to our business including complaints filed by investors. This litigation could result in substantial costs, and could divert management's attention and resources, which could harm our business. Risks associated with legal liability are often difficult to assess or quantify, and their existence and magnitude can remain unknown for significant periods of time. Failure to comply with federal, state, local or foreign laws and regulations, or changes in these laws and regulations, could have an adverse impact on our results of operations and financial performance. Our business is subject to a wide array of laws and regulations including those related to employment, trade, consumer protection, transportation, occupancy laws, health care, wage laws, employee health and safety, taxes, privacy, health information privacy, identify theft, customs, truth-in-advertising, securities laws, unsolicited commercial communication and environmental issues. Our policies, procedures and internal controls are designed to comply with foreign and domestic laws and regulations, such as those required by the Sarbanes-Oxley Act of 2002 and the U.S. Foreign Corrupt Practices Act. Although we have policies and procedures aimed at ensuring legal and regulatory compliance, our employees or vendors could take actions that violate these laws and regulations. Any violations of such laws or regulations could have an adverse effect on our reputation, results of operations, financial condition and cash flows. Furthermore, changes in the regulations, the imposition of additional regulations, or the enactment of any new legislation, particularly in the U.S. and Europe, could adversely affect our results of operations or financial condition. Fluctuations in our tax obligations and effective tax rate may result in volatility in our operating results. We are subject to income taxes in many domestic and foreign jurisdictions. In addition, our products are subject to import and excise duties and/or sales, consumption or value-added taxes in many jurisdictions. We record tax expense based on our estimates of future payments, which include reserves for estimates of probable settlements of domestic and foreign tax audits. At any one time, many tax years are subject to audit by various taxing jurisdictions. There can be no assurance as to the outcome of these audits which may have an adverse effect to our business. In addition, our effective tax rate may be materially impacted by changes in tax rates and duties, the mix and level of earnings or losses by taxing jurisdictions, or by changes to existing accounting rules or regulations. Changes to foreign or domestic tax laws could have a material impact on our financial condition, results of operations or cash flows. 30 We may fail to meet analyst expectations, which could cause the price of our stock to decline. Our common stock is traded publicly and various securities analysts follow our financial results and issue reports on us. These reports include information about our historical financial results as well as the analysts' estimates of our future performance. The analysts' estimates are based upon their own independent opinions and can be different from our estimates or expectations. If our operating results are below the estimates or expectations of public market analysts and investors, our stock price could decline. The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A share repurchase program may be conducted from time to time under authorization made by our Board of Directors. We do not have a controlling shareholder, nor are we aware of any shareholders that have formed a “group” (defined as when two or more persons agree to act together for the purposes of acquiring, holding, voting or otherwise disposing of the equity securities of an issuer). The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A controlling shareholder would have significant influence over, and may have the ability to control, matters requiring approval by our shareholders, including the election of directors and approval of mergers, consolidations, sales of assets, recapitalizations and amendments to our articles of incorporation. Furthermore, a controlling shareholder may take actions with which other shareholders do not agree, including actions that delay, defer or prevent a change of control of the company and that could cause the price that investors are willing to pay for the company’s stock to decline. Item 3: Quantitative and Qualitative Disclosures About Market Risk Our market risk profile at July 30, 2022 has not significantly changed since January 29, 2022. Our market risk profile at January 29, 2022 is disclosed in our Annual Report on Form 10-K. Item 4: Controls and Procedures Evaluation of Disclosure Controls and Procedures . We carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer ("CEO") and Chief Financial Officer ("CFO"), of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Securities Exchange Act Rule 13a-15(e)). Based on this evaluation, our CEO and CFO concluded that, as of July 30, 2022, our disclosure controls and procedures were effective. Changes in Internal Control over Financial Reporting . There has been no change in our internal control over financial reporting (as defined in Securities Exchange Act Rule 13a-15(f)) during the three months ended July 30, 2022 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 31 PART II - OTHER INFORMATION Item 1. Legal Proceedings We are involved from time to time in litigation incidental to our business. We are unable to predict the outcome of litigated cases. A court determination in any of litigation actions against us could result in significant liability and could have a material adverse effect on our business, results of operations or financial condition. See Note 5 to the Notes to Condensed Consolidated Financial Statements found in Part I Item 1 of this Form 10-Q (listed under “Litigation” under Commitments and Contingencies). Item 1A. Risk Factors Please refer to the Risk Factors set forth in Item 2 of Part I of this Form 10-Q as well as the risk factors previously disclosed in Item 1A of Part I of our Annual Report on Form 10-K for the year ended January 29, 2022. There have been no material changes in the risk factors set forth in our Annual Report on Form 10-K for the year ended January 29, 2022. Item 2. Unregistered Sales of Equity Securities and Use of Proceeds The following table presents information with respect to purchase of common stock of the Company made during the thirteen weeks ended July 30, 2022 (in thousands, except average price paid per share): Period Total Number of Shares Purchased Average Price Paid per Share Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (1) Dollar Value of Shares that May Yet Be Repurchased Under the Plans or Programs (1) May 1, 2022 - May 28, 2022 — $ - — $ - May 29, 2022 - July 2, 2022 (2) 3 $ 28.72 — $ - July 3, 2022 - July 30, 2022 — $ - — $ - Total 3 — (1) The share repurchase program is conducted under authorizations made from time to time by our Board of Directors. There was no authorized share repurchase program during the thirteen weeks ended July 30, 2022. (2) During the thirteen weeks ended July 30, 2022, 3,210 shares were purchased by us in order to satisfy employee tax withholding obligations upon the vesting of restricted stock. These shares were not acquired pursuant to any publicly announced purchase plan or program. Item 3. Defaults Upon Senior Securities None Item 4. Mine Safety Disclosures Not applicable Item 5. Other Information None 32 Item 6. Exhibits Exhibit No. Description of Exhibits 31.1 Certification of the Principal Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of the Principal Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certifications of the Principal Executive Officer and Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350. 101 The following materials from Zumiez Inc.’s Quarterly Report on Form 10-Q for the quarterly period ended July 30, 2022, formatted in Inline XBRL (eXtensible Business Reporting Language): (i) Condensed Consolidated Balance Sheets at July 30, 2022 (unaudited) and January 29, 2022; (ii) Unaudited Condensed Consolidated Statements of Operations for the three and six months ended July 30, 2022 and July 31, 2021; (iii) Unaudited Condensed Consolidated Statements of Comprehensive (Loss) Income for the three and six months ended July 30, 2022 and July 31, 2021; (iv) Unaudited Condensed Consolidated Statements of Changes in Shareholders’ Equity for the three and six months ended July 30, 2022 and July 31, 2021; (v) Unaudited Condensed Consolidated Statements of Cash Flows for the six months ended July 30, 2022 and July 31, 2021; and (vi) Notes to Condensed Consolidated Financial Statements. 104 The cover page for the Company’s Quarterly Report on Form 10-Q has been formatted in Inline XBRL and contained in Exhibit 101 33 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized. ZUMIEZ INC. Dat September 8, 2022 By: /s/ Christopher C. Work Christopher C. Work Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer) 34 |
WASHINGTON, D.C. 20549 FORM 10-Q ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED OCTOBER 29, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission file number 000-51300 ZUMIEZ INC . (Exact name of registrant as specified in its charter) Washington 91-1040022 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 4001 204 th Street SW , Lynnwood , WA 98036 (Address of principal executive offices) (Zip Code) Registrant’s telephone number, including area co ( 425 ) 551-1500 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definition of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☒ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ☐ Yes ☒ No Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name of each exchange on which registered Common Stock ZUMZ Nasdaq Global Select At November 28, 2022, there were 19,490,759 shares outstanding of common stock. ZUMIEZ INC. FORM 10-Q TABLE OF CONTENTS Part I. Financial Information Item 1. Condensed Consolidated Financial Statements Condensed Consolidated Balance Sheets at October 29, 2022 (unaudited) and January 29, 2022 3 Unaudited Condensed Consolidated Statements of Operations for the three and nine months ended October 29, 2022 and October 30, 2021 4 Unaudited Condensed Consolidated Statements of Comprehensive Income (Loss) for the three and nine months ended October 29, 2022 and October 30, 2021 5 Unaudited Condensed Consolidated Statements of Changes in Shareholders’ Equity for the three and nine months ended October 29, 2022 and October 30, 2021 6 Unaudited Condensed Consolidated Statements of Cash Flows for the nine months ended October 29, 2022 and October 30, 2021 7 Notes to Condensed Consolidated Financial Statements 8 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 16 Item 3. Quantitative and Qualitative Disclosures About Market Risk 30 Item 4. Controls and Procedures 30 Part II. Other Information Item 1. Legal Proceedings 31 Item 1A. Risk Factors 31 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 31 Item 3. Defaults Upon Senior Securities 31 Item 4. Mine Safety Disclosures 31 Item 5. Other Information 31 Item 6. Exhibits 32 Signature 33 2 ZUMIEZ INC. CONDENSED CONSOLIDATED BALANCE SHEETS (In thousands) October 29, 2022 January 29, 2022 (Unaudited) Assets Current assets Cash and cash equivalents $ 49,336 $ 117,223 Marketable securities 91,776 177,260 Receivables 19,824 14,427 Inventories 177,205 128,728 Prepaid expenses and other current assets 15,166 10,011 Total current assets 353,307 447,649 Fixed assets, net 91,590 91,451 Operating lease right-of-use assets 220,420 230,187 Goodwill 52,899 57,560 Intangible assets, net 13,199 14,698 Deferred tax assets, net 6,794 8,659 Other long-term assets 11,598 11,808 Total long-term assets 396,500 414,363 Total assets $ 749,807 $ 862,012 Liabilities and Shareholders’ Equity Current liabilities Trade accounts payable $ 69,076 $ 55,638 Accrued payroll and payroll taxes 20,557 31,209 Operating lease liabilities 65,236 63,577 Other liabilities 20,677 34,015 Total current liabilities 175,546 184,439 Long-term operating lease liabilities 188,818 204,309 Other long-term liabilities 4,773 4,946 Total long-term liabilities 193,591 209,255 Total liabilities 369,137 393,694 Commitments and contingencies (Note 5) Shareholders’ equity Preferred stock, no par value, 20,000 shares authorized; none issued and outstanding — — Common stock, no par value, 50,000 shares authorized; 19,490 shares issued and outstanding at October 29, 2022 and 21,215 shares issued and outstanding at January 29, 2022 186,684 180,824 Accumulated other comprehensive loss ( 33,285 ) ( 13,463 ) Retained earnings 227,271 300,957 Total shareholders’ equity 380,670 468,318 Total liabilities and shareholders’ equity $ 749,807 $ 862,012 See accompanying notes to condensed consolidated financial statements 3 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (In thousands, except per share amounts) (Unaudited) Three Months Ended Nine Months Ended October 29, 2022 October 30, 2021 October 29, 2022 October 30, 2021 Net sales $ 237,591 $ 289,455 $ 678,270 $ 837,190 Cost of goods sold 155,608 174,791 448,861 514,393 Gross profit 81,983 114,664 229,409 322,797 Selling, general and administrative expenses 71,544 74,822 213,519 216,722 Operating profit 10,439 39,842 15,890 106,075 Interest income, net 428 893 1,279 2,833 Other (expense) income, net ( 1,256 ) 468 ( 850 ) 571 Earnings before income taxes 9,611 41,203 16,319 109,479 Provision for income taxes 2,679 10,501 6,717 28,394 Net income $ 6,932 $ 30,702 $ 9,602 $ 81,085 Basic earnings per share $ 0.36 $ 1.26 $ 0.50 $ 3.26 Diluted earnings per share $ 0.36 $ 1.25 $ 0.49 $ 3.20 Weighted average shares used in computation of earnings per sh Basic 19,101 24,284 19,239 24,905 Diluted 19,248 24,629 19,490 25,325 See accompanying notes to condensed consolidated financial statements 4 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (In thousands) (Unaudited) Three Months Ended Nine Months Ended October 29, 2022 October 30, 2021 October 29, 2022 October 30, 2021 Net income $ 6,932 $ 30,702 $ 9,602 $ 81,085 Other comprehensive loss, net of tax and reclassification adjustments: Foreign currency translation ( 4,476 ) ( 2,340 ) ( 14,622 ) ( 4,766 ) Net change in unrealized loss on available-for-sale debt securities ( 2,147 ) ( 1,383 ) ( 5,200 ) ( 2,040 ) Other comprehensive loss, net ( 6,623 ) ( 3,723 ) ( 19,822 ) ( 6,806 ) Comprehensive income (loss) $ 309 $ 26,979 $ ( 10,220 ) $ 74,279 See accompanying notes to condensed consolidated financial statements 5 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (In thousands) (Unaudited) Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at July 30, 2022 19,474 $ 184,619 $ ( 26,662 ) $ 220,339 $ 378,296 Net income — — — 6,932 6,932 Other comprehensive loss, net — — ( 6,623 ) — ( 6,623 ) Issuance and exercise of stock-based awards 16 329 — — 329 Stock-based compensation expense — 1,736 — — 1,736 Balance at October 29, 2022 19,490 $ 186,684 $ ( 33,285 ) $ 227,271 $ 380,670 Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at July 31, 2021 25,559 $ 176,951 $ ( 2,144 ) $ 419,489 $ 594,296 Net income — — — 30,702 30,702 Other comprehensive loss, net — — ( 3,723 ) — ( 3,723 ) Issuance and exercise of stock-based awards ( 5 ) 411 — — 411 Stock-based compensation expense — 1,687 — — 1,687 Repurchase of common stock ( 2,235 ) — — ( 91,631 ) ( 91,631 ) Balance at October 30, 2021 23,319 $ 179,049 $ ( 5,867 ) $ 358,560 $ 531,742 Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at January 29, 2022 21,215 $ 180,824 $ ( 13,463 ) $ 300,957 $ 468,318 Net income — — — 9,602 9,602 Other comprehensive loss, net — — ( 19,822 ) — ( 19,822 ) Issuance and exercise of stock-based awards 189 611 — — 611 Stock-based compensation expense — 5,249 — — 5,249 Repurchase of common stock ( 1,914 ) — — ( 83,288 ) ( 83,288 ) Balance at October 29, 2022 19,490 $ 186,684 $ ( 33,285 ) $ 227,271 $ 380,670 Common Stock Accumulated Other Comprehensive Retained Shares Amount Income (Loss) Earnings Total Balance at January 30, 2021 25,599 $ 171,628 $ 939 $ 380,029 $ 552,596 Net income — — — 81,085 81,085 Other comprehensive loss, net — — ( 6,806 ) — ( 6,806 ) Issuance and exercise of stock-based awards 202 2,303 — — 2,303 Stock-based compensation expense — 5,118 — — 5,118 Repurchase of common stock ( 2,482 ) — — ( 102,554 ) ( 102,554 ) Balance at October 30, 2021 23,319 $ 179,049 $ ( 5,867 ) $ 358,560 $ 531,742 See accompanying notes to condensed consolidated financial statements 6 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) (Unaudited) Nine Months Ended October 29, 2022 October 30, 2021 Cash flows from operating activiti Net income $ 9,602 $ 81,085 Adjustments to reconcile net income to net cash (used in) provided by operating activiti Depreciation, amortization and accretion 15,802 17,318 Noncash lease expense 50,074 48,131 Deferred taxes 3,441 2,772 Stock-based compensation expense 5,249 5,118 Impairment of long-lived assets 372 2,079 Other 1,331 1,204 Changes in operating assets and liabiliti Receivables ( 2,317 ) ( 3,681 ) Inventories ( 52,020 ) ( 41,702 ) Prepaid expenses and other assets ( 5,365 ) ( 4,275 ) Trade accounts payable 14,570 14,276 Accrued payroll and payroll taxes ( 10,191 ) ( 351 ) Income taxes payable ( 1,790 ) 4,253 Operating lease liabilities ( 56,796 ) ( 59,099 ) Other liabilities ( 8,374 ) 4,808 Net cash (used in) provided by operating activities ( 36,412 ) 71,936 Cash flows from investing activiti Additions to fixed assets ( 17,720 ) ( 8,808 ) Purchases of marketable securities and other investments ( 1,914 ) ( 151,089 ) Sales and maturities of marketable securities and other investments 80,051 186,116 Net cash provided by investing activities 60,417 26,219 Cash flows from financing activiti Proceeds from revolving credit facilities 2,430 — Payments on revolving credit facilities ( 2,430 ) — Proceeds from issuance and exercise of stock-based awards 1,110 2,863 Payments for tax withholdings on equity awards ( 499 ) ( 560 ) Common stock repurchased ( 87,860 ) ( 98,520 ) Net cash used in financing activities ( 87,249 ) ( 96,217 ) Effect of exchange rate changes on cash, cash equivalents, and restricted cash ( 4,978 ) ( 66 ) Net (decrease) increase in cash, cash equivalents, and restricted cash ( 68,222 ) 1,872 Cash, cash equivalents, and restricted cash, beginning of period 124,052 80,690 Cash, cash equivalents, and restricted cash, end of period $ 55,830 $ 82,562 Supplemental disclosure on cash flow informati Cash paid during the period for income taxes $ 5,166 $ 20,507 Accrual for purchases of fixed assets 1,802 1,851 Accrual for repurchase of common stock — 4,034 See accompanying notes to condensed consolidated financial statements 7 ZUMIEZ INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 1. Nature of Business and Basis of Presentation Nature of Business— Zumiez Inc., including its wholly owned subsidiaries, (the “Company,” “we,” “us,” “its” and “our”) is a leading specialty retailer of apparel, footwear, accessories and hardgoods for young men and women who want to express their individuality through the fashion, music, art and culture of action sports, streetwear, and other unique lifestyles. We operate under the names Zumiez, Blue Tomato and Fast Times. We operate ecommerce websites at zumiez.com, zumiez.ca, blue-tomato.com and fasttimes.com.au. At October 29, 2022, we operated 760 stores; 614 in the United States (“U.S.”), 73 in Europe, 52 in Canada, and 21 in Australia . COVID-19— In December 2019, a novel strain of coronavirus (“COVID-19”) was first identified, and in March 2020, the World Health Organization categorized COVID-19 as a pandemic. To help control the spread of the virus and protect the health and safety of our employees and customers, we began closing our retail stores across all markets that we operate in mid-March 2020. We began gradually re-opening retail stores near the end of the first quarter and into the second quarter of fiscal 2020, with the majority of our stores open through the third and fourth quarter of fiscal 2020 . Changes in our operations due to COVID-19 resulted in material fluctuations to our results of operations during fiscal 2020 and in certain geographies in 2021 . On April 1, 2022, we received 3.2 million Euro ($ 3.6 million) as a taxable subsidy from the German government related to our European business for costs incurred during fiscal 2020 and fiscal 2021 related to the COVID-19 pandemic. The subsidy received was granted free of future obligations to repay and was recorded in selling, general and administrative expenses on the condensed consolidated statement of operations in the first quarter of fiscal 2022. Fiscal Year— We use a fiscal calendar widely used by the retail industry that results in a fiscal year consisting of a 52- or 53-week period ending on the Saturday closest to January 31. Each fiscal year consists of four 13-week quarters, with an extra week added to the fourth quarter every five or six years. The three months ended October 29, 2022 and October 30, 2021 were 13-week periods. The nine months ended October 29, 2022 and October 30, 2021 were 39-week periods. Basis of Presentation— The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“U.S. GAAP”) for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) for interim financial reporting. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. The unaudited condensed consolidated financial statements include the accounts of Zumiez Inc. and its wholly-owned subsidiaries. All significant intercompany transactions and balances are eliminated in consolidation. In our opinion, the unaudited condensed consolidated financial statements contain all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of the condensed consolidated balance sheets, operating results and cash flows for the periods presented. The financial data at January 29, 2022 is derived from audited consolidated financial statements, which are included in our Annual Report on Form 10-K for the year ended January 29, 2022, and should be read in conjunction with the audited consolidated financial statements and notes thereto. Interim results are not necessarily indicative of results for the full fiscal year due to seasonality and other factors. Use of Estimates— The preparation of financial statements in conformity with U.S. GAAP requires estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements as well as the reported amounts of revenues and expenses during the reporting period. These estimates can also affect supplemental information disclosed by us, including information about contingencies, risk and financial condition. Actual results could differ from these estimates and assumptions. Restricted Cash— Cash and cash equivalents that are restricted as to withdrawal or use under the terms of certain contractual agreements are recorded as restricted cash in other long-term assets on our condensed consolidated balance sheets. The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported within the condensed consolidated balance sheets that sum to the total of the same such amounts shown in the condensed consolidated statement of cash flows (in thousands): 8 October 29, 2022 January 29, 2022 Cash and cash equivalents $ 49,336 $ 117,223 Restricted cash included in other long-term assets 6,494 6,829 Total cash, cash equivalents, and restricted cash as shown in the statement of cash flows $ 55,830 $ 124,052 Restricted cash included in other long-term assets represents amounts held as insurance collateral and collateral for bank guarantees on certain store operating leases. Recent Accounting Standards— We review recent account pronouncements on a quarterly basis and have excluded discussion of those that are not applicable and those that we determined did not have, or are not expected to have, a material impact on the condensed consolidated financial statements. 2. Revenue The following table disaggregates net sales by geographic region (in thousands): Three Months Ended Nine Months Ended October 29, 2022 October 30, 2021 October 29, 2022 October 30, 2021 United States $ 192,743 $ 242,238 $ 547,437 $ 707,070 Canada 13,578 15,220 35,121 36,577 Europe 26,006 28,924 80,217 82,192 Australia 5,264 3,073 15,495 11,351 Net sales $ 237,591 $ 289,455 $ 678,270 $ 837,190 Net sales for the three months ended October 29, 2022 included a $ 5.8 million decrease due to the change in foreign exchange rates, which consisted of $ 4.6 million in Europe, $ 0.7 million in Canada and $ 0.5 million in Australia. Net sales for the nine months ended October 29, 2022 included a $ 13.3 million decrease due to the change in foreign exchange rates, which consisted of $ 10.7 million in Europe, $ 1.3 million in Canada and $ 1.3 million in Australia Our contract liabilities include deferred revenue related to our customer loyalty program and gift cards. The current liability for gift cards was $ 3.4 million at October 29, 2022 and $ 5.6 million at January 29, 2022, respectively. Deferred revenue related to our STASH loyalty program was $ 1.2 million at October 29, 2022 and $ 1.0 million at January 29, 2022, respectively. 3. Cash, Cash Equivalents and Marketable Securities The following tables summarize the estimated fair value of our cash, cash equivalents and marketable securities and the gross unrealized holding gains and losses (in thousands): October 29, 2022 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 43,607 $ — $ — $ 43,607 Money market funds 5,729 — — 5,729 Total cash and cash equivalents 49,336 — — 49,336 Marketable securiti U.S. treasury and government agency securities 22,020 — ( 3,745 ) 18,275 Corporate debt securities 61,538 — ( 3,775 ) 57,763 State and local government securities 16,498 — ( 760 ) 15,738 Total marketable securities $ 100,056 $ — $ ( 8,280 ) $ 91,776 9 January 29, 2022 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 99,333 $ — $ — $ 99,333 Money market funds 17,890 — — 17,890 Total cash and cash equivalents 117,223 — — 117,223 Marketable securiti U.S. treasury and government agency securities 29,218 33 ( 819 ) 28,432 Corporate debt securities 123,611 436 ( 851 ) 123,196 State and local government securities 25,722 62 ( 152 ) 25,632 Total marketable securities $ 178,551 $ 531 $ ( 1,822 ) $ 177,260 All of our marketable securities have an effective maturity date of five years or less and may be liquidated, at our discretion, prior to maturity. The following tables summarize the gross unrealized holding losses and fair value for investments in an unrealized loss position, and the length of time that individual securities have been in a continuous loss position (in thousands): October 29, 2022 Less Than 12 Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Marketable securiti U.S. treasury and government agency securities $ 9,011 $ ( 1,809 ) $ 9,264 $ ( 1,936 ) $ 18,275 $ ( 3,745 ) Corporate debt securities 24,836 ( 1,502 ) 32,927 ( 2,273 ) 57,763 ( 3,775 ) State and local government securities 13,018 ( 606 ) 2,720 ( 154 ) 15,738 ( 760 ) Total marketable securities $ 46,865 $ ( 3,917 ) $ 44,911 $ ( 4,363 ) $ 91,776 $ ( 8,280 ) January 29, 2022 Less Than 12 Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Marketable securiti U.S. treasury and government agency securities $ 20,683 $ ( 785 ) $ 1,622 $ ( 34 ) $ 22,305 $ ( 819 ) Corporate debt securities 63,887 ( 849 ) 69 ( 2 ) 63,956 ( 851 ) State and local government securities 15,639 ( 152 ) — — 15,639 ( 152 ) Total marketable securities $ 100,209 $ ( 1,786 ) $ 1,691 $ ( 36 ) $ 101,900 $ ( 1,822 ) 4. Leases At October 29, 2022, we had operating leases for our retail stores, certain distribution and fulfillment facilities, vehicles and equipment. Our remaining lease terms vary from one month to ten years , with varying renewal and termination options. The following table presents components of lease expense (in thousands): Three Months Ended Nine Months Ended October 29, 2022 October 30, 2021 October 29, 2022 October 30, 2021 Operating lease expense $ 18,591 $ 17,727 $ 55,349 $ 55,114 Variable lease expense 1,905 2,467 5,680 6,235 Total lease expense (1) $ 20,496 $ 20,194 $ 61,029 $ 61,349 (1) Total lease expense includes short-term lease expense and sublease income which is immaterial to the Company. Total lease expense does not include right-of-use asset impairment charges, common area maintenance charges and other non-lease components. 10 Supplemental cash flow information related to leases is as follows (in thousands): Nine Months Ended October 29, 2022 October 30, 2021 Cash paid for amounts included in the measurement of lease liabiliti Operating cash flows from operating leases $ ( 56,796 ) $ ( 59,099 ) Right-of-use assets obtained in exchange for new operating lease liabilities 49,331 31,458 Weighted-average remaining lease term and discount rate were as follows: October 29, 2022 October 30, 2021 Weighted-average remaining lease term 5.0 5.2 Weighted-average discount rate 2.5 % 2.7 % At October 29, 2022, the maturities of our operating leases liabilities are as follows (in thousands): Fiscal 2022 $ 15,927 Fiscal 2023 72,231 Fiscal 2024 56,910 Fiscal 2025 40,265 Fiscal 2026 28,145 Thereafter 55,366 Total minimum lease payments 268,844 L interest ( 14,790 ) Present value of lease obligations 254,054 L current portion ( 65,236 ) Long-term lease obligations (1) $ 188,818 (1) Amounts in the table do not include contingent rent, common area maintenance charges and other non-lease components. At October 29, 2022, we have excluded from the table above $ 4.6 million of operating leases that were contractually executed, but had not yet commenced. These operating leases are expected to commence by the end of fiscal 2023. 5. Commitments and Contingencies Purchase Commitments— At October 29, 2022, we had outstanding purchase orders to acquire merchandise from vendors of $ 181.1 million. We have an option to cancel these commitments with no notice prior to shipment, except for certain private label and international purchase orders in which we are obligated to repay contractual amounts upon cancellation. Litigation— We are involved from time to time in claims, proceedings and litigation arising in the ordinary course of business. We have made accruals with respect to these matters, where appropriate, which are reflected in our condensed consolidated financial statements. For some matters, the amount of liability is not probable or the amount cannot be reasonably estimated and therefore accruals have not been made. We may enter into discussions regarding settlement of these matters, and may enter into settlement agreements, if we believe settlement is in the best interest of our shareholders. A putative class action, Alexia Herrera, on behalf of herself and all other similarly situated, v. Zumiez Inc. , was filed against us in the Eastern District Count of California, Sacramento Division under case number 2:16-cv-01802-SB in August 2016. Alexandra Bernal filed the initial complaint and then in October 2016 added Alexia Herrera as a named plaintiff and Alexandra Bernal left the case. The putative class action lawsuit against us alleges, among other things, various violations of California’s wage and hour laws, including alleged violations of failure to pay reporting time. After several years of procedural motions and appeals related thereto, the parties held mediation with a private mediator on June 23, 2021. The parties reached a resolution in principle for all class claims, which was submitted for the court’s approval. The settlement of $ 2.8 million is included in other liabilities on the consolidated balance sheet as of January 29, 2022, and was recorded in selling, general and administrative expenses on the consolidated statement of operations in the second quarter of fiscal 2021. Final approval of the settlement was granted per the court’s order issued on July 26, 2022 and the settlement was paid to the claims administrator for disbursement on August 19, 2022. 11 On October 14, 2022, former employee Seana Neihart filed a representative action under California’s Private Attorneys General Act, California Labor Code section 2698 et seq (“PAGA”), against us. The lawsuit alleges a series of wage and hour violations under California’s Labor Code. Responsive pleadings have not yet been filed. We are in the process of investigating the claims and we intend to vigorously defend oursel ves . Insurance Reserves— We use a combination of third-party insurance and self-insurance for a number of risk management activities including workers’ compensation, general liability and employee-related health care benefits. We maintain reserves for our self-insured losses, which are estimated based on historical claims experience and actuarial and other assumptions. The self-insurance reserve at October 29, 2022 and January 29, 2022 was $ 2.1 million and $ 2.0 million. 6. Revolving Credit Facilities and Debt On October 14, 2021, we amended our credit agreement with Wells Fargo Bank, N.A. (previously entered into December 7, 2018), which provided us with a senior secured credit facility (“credit facility”) of up to $ 25.0 million through December 1, 2023, and up to $ 35.0 million after December 1, 2023 and through December 1, 2024. The secured revolving credit facility is available for working capital and other general corporate purposes. The senior secured credit facility provides for the issuance of standby letters of credit in an amount not to exceed $ 17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $ 10.0 million and with terms not to exceed 120 days. The amount of borrowings available at any time under our credit facility is reduced by the amount of standby and commercial letters of credit outstanding at that time. The credit facility will mature on December 1, 2024 . All obligations under the credit facility are joint and several with Zumiez Services and guaranteed by certain of our subsidiaries. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1.35 % per annum. The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. The credit facility contains certain financial maintenance covenants that generally require us to have net income after taxes of at least $ 5.0 million on a trailing four-quarter basis and a quick ratio of 1.25 :1.0 at the end of each fiscal quarter. The credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. There were no borrowings outstanding under the credit facility at October 29, 2022 or January 29, 2022. We had open commercial letters of credit outstanding of less than $ 0.1 million under our secured revolving credit facility at October 29, 2022 and no open commercial letters of credit outstanding at January 29, 2022. We had $ 0.6 million in issued, but undrawn, standby letters of credit at October 29, 2022 and no issued standby letters of credit at January 29, 2022. Additionally, we maintain a credit facility with UBS Switzerland AG of up to 15.0 million Euro ($ 14.9 million as of October 29, 2022), which may be used to guarantee payment of letters of credit. Either party has a right to terminate this credit agreement at any time with immediate effect. The credit facility bears interest at 1.25 %. There were no borrowings outstanding under this secured credit facility at October 29, 2022 or January 29, 2022. 7. Fair Value Measurements We apply the following fair value hierarchy, which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measuremen • Level 1— Quoted prices in active markets for identical assets or liabilities; • Level 2— Quoted prices for similar assets or liabilities in active markets or inputs that are observable; and • Level 3— Inputs that are unobservable. 12 The following tables summarize assets measured at fair value on a recurring basis (in thousands): October 29, 2022 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 5,729 $ — $ — Marketable securiti U.S. treasury and government agency securities — 18,275 — Corporate debt securities — 57,763 — State and local government securities — 15,738 — Other long-term assets: Money market funds 6,494 — — Total $ 12,223 $ 91,776 $ — January 29, 2022 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 17,890 $ — $ — Marketable securiti U.S. treasury and government agency securities — 28,432 — Corporate debt securities — 123,196 — State and local government securities — 25,632 — Other long-term assets: Money market funds 6,829 — — Total $ 24,719 $ 177,260 $ — The Level 2 marketable securities include U.S treasury and government agency securities, corporate debt securities, state and local municipal securities and variable-rate demand notes. Fair values are based on quoted market prices for similar assets or liabilities or determined using inputs that use readily observable market data that are actively quoted and can be validated through external sources, including third-party pricing services, brokers and market transactions. We review the pricing techniques and methodologies of the independent pricing service for Level 2 investments and believe that its policies adequately consider market activity, either based on specific transactions for the security valued or based on modeling of securities with similar credit quality, duration, yield and structure that were recently traded. We monitor security-specific valuation trends and we make inquiries with the pricing service about material changes or the absence of expected changes to understand the underlying factors and inputs and to validate the reasonableness of the pricing. Assets and liabilities recognized or disclosed at fair value on the consolidated financial statements on a nonrecurring basis include items such as fixed assets, operating lease right-of-use-assets, goodwill, other intangible assets and other assets. These assets are measured at fair value if determined to be impaired. During the three months ended October 29, 2022, we recognized $ 0.1 million in impairment losses related to operating lease right-of-use assets and $ 0.2 million in impairment losses related to fixed assets. During the nine months ended October 29, 2022, we recognized $ 0.2 million in impairment losses related to operating lease right-of-use assets and $ 0.2 million in impairment losses related to fixed assets. During the three months ended October 30, 2021, we recognized no impairment losses related to operating lease right-of-use assets or fixed assets. During the nine months ended October 30, 2021, we recognized impairment losses of $ 2.1 million related to operating lease right-of-use assets and no impairment losses related to fixed assets. 8. Stockholders’ Equity Share Repurchase— In December 2021, our Board of Directors approved the repurchase of up to an aggregate of $ 150 million of common stock. This repurchase program superseded all previously approved and authorized stock repurchase programs, including the repurchase programs previously approved by the Board of Directors in September 2021 and December 2020. The December 2021 stock repurchase program was completed in March 2022. There were no common stock repurchases during the three months ended October 29, 2022. The following table summarizes common stock repurchase activity during the nine months ended October 29, 2022 (in thousands, except per share amounts): 13 Number of shares repurchased 1,914 Average price per share of repurchased shares (with commission) $ 43.51 Total cost of shares repurchased $ 83,288 Accumulated Other Comprehensive (Loss) Income — The components of accumulated other comprehensive (loss) income and the adjustments to other comprehensive (loss) income for amounts reclassified from accumulated other comprehensive (loss) income into net income are as follows (in thousands): Foreign currency translation adjustments (3) Net unrealized (losses) gains on available-for- sale debt securities Accumulated other comprehensive loss Three months ended October 29, 2022: Balance at July 30, 2022 $ ( 22,651 ) $ ( 4,011 ) $ ( 26,662 ) Other comprehensive loss, net (1) ( 4,476 ) ( 2,147 ) ( 6,623 ) Balance at October 29, 2022 $ ( 27,127 ) $ ( 6,158 ) $ ( 33,285 ) Three months ended October 30, 2021: Balance at July 31, 2021 $ ( 3,833 ) $ 1,689 $ ( 2,144 ) Other comprehensive loss, net (1) ( 2,340 ) ( 1,383 ) ( 3,723 ) Balance at October 30, 2021 $ ( 6,173 ) $ 306 $ ( 5,867 ) Foreign currency translation adjustments (3) Net unrealized (losses) gains on available-for- sale investments Accumulated other comprehensive (loss) income Nine months ended October 29, 2022: Balance at January 29, 2022 $ ( 12,505 ) $ ( 958 ) $ ( 13,463 ) Other comprehensive loss, net (2) ( 14,622 ) ( 5,200 ) ( 19,822 ) Balance at October 29, 2022 $ ( 27,127 ) $ ( 6,158 ) $ ( 33,285 ) Nine months ended October 30, 2021: Balance at January 30, 2021 $ ( 1,407 ) $ 2,346 $ 939 Other comprehensive loss, net (2) ( 4,766 ) ( 2,040 ) ( 6,806 ) Balance at October 30, 2021 $ ( 6,173 ) $ 306 $ ( 5,867 ) (1) Other comprehensive loss before reclassifications was $ 2.2 million and $ 1.6 million, net of taxes for net unrealized (losses) gains on available-for-sale investments for the three months ended October 29, 2022 and October 30, 2021. Net unrealized losses, net of taxes, reclassified from accumulated other comprehensive (loss) income was $ 0.1 million and $ 0.2 million for the three months ended October 29, 2022 and October 30, 2021, respectively. (2) Other comprehensive loss before reclassifications was $ 5.3 million and $ 2.4 million, net of taxes for net unrealized (losses) gains on available-for-sale investments for the nine months ended October 29, 2022 and October 30, 2021. Net unrealized losses, net of taxes, reclassified from accumulated other comprehensive (loss) income was $ 0.1 million and $ 0.4 million for the nine months ended October 29, 2022 and October 30, 2021, respectively. (3) Foreign currency translation adjustments are not adjusted for income taxes as they relate to permanent investments in our international subsidiaries. 9. Equity Awards We maintain several equity incentive plans under which we may grant incentive stock options, nonqualified stock options, stock bonuses, restricted stock awards, restricted stock units and stock appreciation rights to employees (including officers), non-employee directors and consultants. We account for stock-based compensation by recording the estimated fair value of stock-based awards granted as compensation expense over the vesting period, net of estimated forfeitures. Stock-based compensation expense is attributed to earnings using a straight-line method. We estimate forfeitures of stock-based awards based on historical experience and expected future activity. 14 The fair value of restricted stock awards and units is measured based on the closing price of our common stock on the date of grant. The fair value of stock option grants is estimated on the date of grant using the Black-Scholes option pricing model. Total stock-based compensation expense is recognized on our condensed consolidated statements of operations as follows (in thousands): Three Months Ended Nine Months Ended October 29, 2022 October 30, 2021 October 29, 2022 October 30, 2021 Cost of goods sold $ 364 $ 358 $ 1,099 $ 1,085 Selling, general and administrative expenses 1,372 1,329 4,150 4,033 Total stock-based compensation expense $ 1,736 $ 1,687 $ 5,249 $ 5,118 At October 29, 2022, there was $ 10.5 million of total unrecognized compensation cost related to unvested stock options, restricted stock awards and restricted stock units. This cost has a weighted-average remaining recognition period of 1.2 years. The following table summarizes restricted stock awards and restricted stock units, collectively defined as “restricted equity awards” (in thousands, except grant date weighted-average fair value): Restricted Stock Awards/Units Grant Date Weighted- Average Fair Value Intrinsic Value Outstanding at January 29, 2022 443 $ 28.31 Granted 176 $ 38.97 Vested ( 195 ) $ 26.99 Forfeited ( 24 ) $ 32.99 Outstanding at October 29, 2022 400 $ 33.38 $ 9,058 We had 0.3 million stock options outstanding at October 29, 2022 with a weighted average exercise price of $ 29.30 and 0.3 million stock options outstanding at January 29, 2022 with a weighted average exercise price of $ 26.37 . 10. Earnings per Share, Basic and Diluted The following table sets forth the computation of basic and diluted earnings per share (in thousands, except per share amounts): Three Months Ended Nine Months Ended October 29, 2022 October 30, 2021 October 29, 2022 October 30, 2021 Net income $ 6,932 $ 30,702 $ 9,602 $ 81,085 Weighted average common shares for basic earnings per sh 19,101 24,284 19,239 24,905 Dilutive effect of stock options and restricted stock 147 345 251 420 Weighted average common shares for diluted earnings per sh 19,248 24,629 19,490 25,325 Basic earnings per share $ 0.36 $ 1.26 $ 0.50 $ 3.26 Diluted earnings per share $ 0.36 $ 1.25 $ 0.49 $ 3.20 There were 0.1 million anti-dilutive common shares related to stock-based awards for the three and nine months ended October 29, 2022 and October 30, 2021, respectively. 15 Item 2: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes included elsewhere in this document. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those discussed in “Item 1A Risk Factors” in our Form 10-K filed with the SEC on March 14, 2022 and in this Form 10-Q. Forward-looking statements relate to our expectations for future events and future financial performance. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. These statements are only predictions. Uncertainty is further heightened given the innumerable considerations related to COVID-19. Results and trends may differ materially depending on a variety of factors, including, but not limited t further spread of COVID-19, or its variants; regulatory measures or recommendations put in place to limit the spread of COVID-19, including restrictions on business operations and social distancing requirements, the length and severity of such restrictions; the potential for a resurgence of COVID-19 infections in a given geographic region, and fluctuations in U.S. and international economies. Actual events or results may differ materially. Factors which could affect our financial results are described below under the heading “Risk Factors” and in “Item 1A Risk Factors” of our Form 10-K referred to in the preceding paragraph. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Moreover, neither we nor any other person assume responsibility for the accuracy and completeness of the forward-looking statements. We undertake no duty to update any of the forward-looking statements after the date of this report to conform such statements to actual results or to changes in our expectations. Fiscal 2022 is the 52-week period ending January 28, 2023. Fiscal 2021 was the 52-week period ending January 29, 2022. The first nine months of fiscal 2022 was the 39-week period ended October 29, 2022. The first nine months of fiscal 2021 was the 39-week period ended October 30, 2021. “Zumiez,” the “Company,” “we,” “us,” “its,” “our” and similar references refer to Zumiez Inc. and its wholly-owned subsidiaries. General Net sales constitute gross sales (net of actual and estimated returns and deductions for promotions) and shipping revenue. Net sales include our store sales and our ecommerce sales. We record the sale of gift cards as a current liability and recognize revenue when a customer redeems a gift card. Additionally, the portion of gift cards that will not be redeemed (“gift card breakage”) is recognized based on our historical redemption rate in proportion to the pattern of rights exercised by the customer. We report “comparable sales” based on net sales beginning on the first anniversary of the first day of operation of a new store or ecommerce business. We operate a sales strategy that integrates our stores with our ecommerce platform. There is significant interaction between our store sales and our ecommerce sales channels and we believe that they are utilized in tandem to serve our customers. Therefore, our comparable sales also include our ecommerce sales. Changes in our comparable sales between two periods are based on net sales of store or ecommerce businesses which were in operation during both of the two periods being compared and, if a store or ecommerce business is included in the calculation of comparable sales for only a portion of one of the two periods being compared, then that store or ecommerce business is included in the calculation for only the comparable portion of the other period. Any increase or decrease less than 25% in square footage of an existing comparable store, including remodels and relocations within the same mall, or temporary closures less than seven days does not eliminate that store from inclusion in the calculation of comparable sales. Any store or ecommerce business that we acquire will be included in the calculation of comparable sales after the first anniversary of the acquisition date. Current year foreign exchange rates are applied to both current year and prior year comparable sales to achieve a consistent basis for comparison. Stores closed due to the impacts of COVID-19 are excluded from our comparable sales calculation if they were closed for longer than seven days. Our ecommerce business has remained open during the COVID-19 pandemic and therefore remains reported in our comparable sales calculation. There may be variations in the way in which some of our competitors and other apparel retailers calculate comparable sales. As a result, data herein regarding our comparable sales may not be comparable to similar data made available by our competitors or other retailers. 16 Cost of goods sold consists of branded merchandise costs and our private label merchandise costs including design, sourcing, importing and inbound freight costs. Our cost of goods sold also includes shrinkage, buying, occupancy, distribution and warehousing costs (including associated depreciation) and freight costs for store merchandise transfers. This may not be comparable to the way in which our competitors or other retailers compute their cost of goods sold. Cash consideration received from vendors is reported as a reduction of cost of goods sold if the inventory has sold, a reduction of the carrying value of the inventory if the inventory is still on hand, or a reduction of selling, general and administrative expense if the amounts are reimbursements of specific, incremental and identifiable costs of selling the vendors’ products. With respect to the freight component of our ecommerce sales, amounts billed to our customers are included in net sales and the related freight cost is charged to cost of goods sold. Selling, general and administrative expenses consist primarily of store personnel wages and benefits, administrative staff and infrastructure expenses, freight costs for merchandise shipments from the distribution centers to the stores, store supplies, depreciation on fixed assets at our home office and stores, facility expenses, training expenses and advertising and marketing costs. Credit card fees, insurance, public company expenses, legal expenses, incentive compensation, stock-based compensation and other miscellaneous operating costs are also included in selling, general and administrative expenses. This may not be comparable to the way in which our competitors or other retailers compute their selling, general and administrative expenses. Key Performance Indicators Our management evaluates the following items, which we consider key performance indicators, in assessing our performan Net sales. Net sales constitute gross sales, net of sales returns and deductions for promotions, and shipping revenue. Net sales includes comparable sales and new store sales for all our store and ecommerce businesses. We consider net sales to be an important indicator of our current performance. Net sales results are important to achieve leveraging of our costs, including store payroll and store occupancy. Net sales also have a direct impact on our operating profit, cash and working capital. Gross profit. Gross profit measures whether we are optimizing the price and inventory levels of our merchandise. Gross profit is the difference between net sales and cost of goods sold. Any inability to obtain acceptable levels of initial markups or any significant increase in our use of markdowns could have an adverse effect on our gross profit and results of operations. Operating profit. We view operating profit as a key indicator of our success. Operating profit is the difference between gross profit and selling, general and administrative expenses. The key drivers of operating profit are net sales, gross profit, our ability to control selling, general and administrative expenses and our level of capital expenditures affecting depreciation expense. Diluted earnings per share. Diluted earnings per share is based on the weighted average number of common shares and common share equivalents outstanding during the period. We view diluted earnings per share as a key indicator of our success in increasing shareholder value. Trends and Uncertainties Affecting Our Results and Comparability We have been, and we expect to continue to be affected by a number of factors that may cause actual results to differ from our historical results or current expectations. These factors include the impact of the COVID-19 pandemic on our operations and financial results; foreign currency rates; changes in laws, including U.S. tax law changes; fluctuations in variable costs, and changes in general economic conditions in the markets in which we operate. Additionally, we have experienced increased costs during 2021 and 2022 that are expected to continue. Our ability to raise our selling prices depends on market conditions and there may be periods during which we are unable to fully recover increases in our costs or experience an adverse impact on demand due to pricing actions. We believe higher consumer price inflation has resulted in reduced consumer confidence and consumer spending which negatively impacted our sales during the three and nine months ended October 29, 2022. 17 Results of Operations The following table presents selected items on the condensed consolidated statements of operations as a percent of net sal Three Months Ended Nine Months Ended October 29, 2022 October 30, 2021 October 29, 2022 October 30, 2021 Net sales 100.0 % 100.0 % 100.0 % 100.0 % Cost of goods sold 65.5 60.4 66.2 61.4 Gross profit 34.5 39.6 33.8 38.6 Selling, general and administrative expenses 30.1 25.8 31.5 25.9 Operating profit 4.4 13.8 2.3 12.7 Interest and other (expense) income, net (0.4 ) 0.4 0.1 0.4 Earnings before income taxes 4.0 14.2 2.4 13.1 Provision for income taxes 1.1 3.6 1.0 3.4 Net income 2.9 % 10.6 % 1.4 % 9.7 % Three Months (13 weeks) Ended October 29, 2022 Compared With Three Months (13 weeks) Ended October 30, 2021 Net Sales Net sales were $237.6 million for the three months ended October 29, 2022 compared to $289.5 million for the three months ended October 30, 2021, a decrease of $51.9 million or 17.9%. The decrease in sales was primarily driven by continued inflationary pressures on the consumer and the benefits from domestic stimulus in the prior year when consumers were less likely to spend on travel and in-person entertainment due to COVID-19. By region, North America sales decreased $51.1 million or 19.9% and other international sales (which consists of Europe and Australia sales) decreased $0.7 million or 2.3% for the three months ended October 29, 2022 compared to the three months ended October 30, 2021. Excluding the impact of changes in foreign exchange rates, North America sales decreased $50.4 million or 19.6% and other international sales increased $4.4 million or 13.8% for the three months ended October 29, 2022 compared to the three months ended October 30, 2021. Net sales included a decrease in transactions and dollars per transaction. Dollars per transaction decreased due to a decrease in units per transaction, partially offset by an increase in average unit retail. By category, net sales were primarily driven by a decrease in men’s clothing followed by hardgoods, women’s clothing, accessories, and footwear. Gross Profit Gross profit was $82.0 million for the three months ended October 29, 2022 compared to $114.7 million for the three months ended October 30, 2021, a decrease of $32.7 million, or 28.5%. As a percent of net sales, gross profit decreased 510 basis points for the three months ended October 29, 2022 to 34.5% as we saw significant deleverage on lower sales across our fixed costs as well as rate increases in numerous areas. The decrease was primarily driven by a 250 basis point deleverage in store occupancy costs, a 100 basis point increase in web shipping costs, a 70 basis point deleverage in distribution center costs, a 40 basis point deleverage in buying and private label costs, a 40 basis point decrease in product margin, and a 30 basis point increase in inventory shrinkage. Selling, General and Administrative Expenses Selling, general and administrative (“SG&A”) expenses were $71.5 million for the three months ended October 29, 2022 compared to $74.8 million for the three months ended October 30, 2021, a decrease of $3.3 million, or 4.4%. SG&A expenses as a percent of net sales increased 430 basis points for the three months ended October 29, 2022 to 30.1% . The increase was primarily driven by 220 basis points due to store wages tied to both deleverage on lower sales as well as rate increase, 120 basis points due to non-wage store costs primarily impacted by deleverage on lower sales, 90 basis points in non-store wages, and 30 basis points in corporate. These increases were partially offset by a 70 basis point decrease in annual incentive compensation. Net Income Net income for the three months ended October 29, 2022 was $6.9 million, or $0.36 earnings per diluted share, compared with net income of $30.7 million, or $1.25 earnings per diluted share, for the three months ended October 30, 2021. Our effective income tax rate for the three months ended October 29, 2022 was a 27.9% provision for income taxes compared to a 25.5% provision for income taxes for the three months ended October 30, 2021. The increase in effective income tax rate was primarily due to an increase in net losses in certain jurisdictions which are excluded from our estimated annual effective tax rate, due to the uncertainty of the realization of our deferred tax assets in certain jurisdictions, and the proportion of earnings or loss before income taxes across jurisdictions. 18 Nine Months (39 weeks) Ended October 29, 2022 Compared With Nine Months (39 weeks) Ended October 30, 2021 Net Sales Net sales were $678.3 million for the nine months ended October 29, 2022 compared to $837.2 million for the nine months ended October 30, 2021, a decrease of $158.9 million or 19.0%. The decrease in sales was primarily driven by continued inflationary pressures on the consumer and the benefits from domestic stimulus in the prior year when consumers were less likely to spend on travel and in-person entertainment due to COVID-19. By region, North America sales decreased $161.1 million or 21.7% and other international sales (which consists of Europe and Australia sales) increased $2.2 million or 2.3% for the nine months ended October 29, 2022 compared to the nine months ended October 30, 2021. Excluding the impact of changes in foreign exchange rates, North America sales decreased $159.8 million or 21.5% and other international sales increased $14.2 million or 15.1% for the nine months ended October 29, 2022 compared to the nine months ended October 30, 2021. Net sales included a decrease in transactions and dollars per transaction. Dollars per transaction decreased due to a decrease in units per transaction, partially offset by an increase in average unit retail. By category, net sales were primarily driven by a decrease in men’s clothing followed by hardgoods, accessories, women’s clothing, and footwear. Gross Profit Gross profit was $229.4 million for the nine months ended October 29, 2022 compared to $322.8 million for the nine months ended October 30, 2021, a decrease of $93.4 million, or 28.9%. As a percent of net sales, gross profit decreased 480 basis points for the nine months ended October 29, 2022 to 33.8%, as we saw significant deleverage on lower sales across our fixed costs as well as rate increases in numerous areas. The decrease was primarily driven by a 260 basis point deleverage in store occupancy costs, a 90 basis point increase in web shipping costs, a 70 basis point deleverage in distribution center costs, a 50 basis point increase in inventory shrinkage, and a 40 basis point deleverage in buying and private label costs. These increases were partially offset by 30 basis points in annual incentive compensation. Selling, General and Administrative Expenses Selling, general and administrative (“SG&A”) expenses were $213.5 million for the nine months ended October 29, 2022 compared to $216.7 million for the nine months ended October 30, 2021, a decrease of $3.2 million, or 1.5%. SG&A expenses as a percent of net sales increased 560 basis points for the nine months ended October 29, 2022 to 31.5% . The increase was primarily driven by 300 basis points due to store wages tied to both deleverage on lower sales as well as rate increase, 140 basis points due to non-wage store costs primarily impacted by deleverage on lower sales, 100 basis points in non-store wages, 80 basis points in corporate costs and 70 basis points in Events as we got back to our normal cadence. These increases were partially offset by a 70 basis point decrease in annual incentive compensation, 40 basis points due to an increase in government subsidies related to a one-time German government subsidy received in the first quarter of fiscal 2022, and 30 basis points due to legal settlement costs recorded in the prior year and paid during the three month period ending October 29, 2022 related to the putative class action, Alexia Herrera, on behalf of herself and all other similarly situated, v. Zumiez Inc. Net Income Net income for the nine months ended October 29, 2022 was $9.6 million, or $0.49 earnings per diluted share for the nine months ended October 29, 2022, compared with net income of $81.1 million, or $3.20 earnings per diluted share, for the nine months ended October 30, 2021 . Our effective income tax rate for the nine months ended October 29, 2022 was a 41.2% provision for income taxes compared to a 25.9% provision for income taxes for the nine months ended October 30, 2021. The increase in effective income tax rate was primarily due to an increase in net losses in certain jurisdictions which are excluded from our estimated annual effective tax rate, due to the uncertainty of the realization of our deferred tax assets in certain jurisdictions, and the proportion of earnings or loss before income taxes across jurisdictions. Liquidity and Capital Resources Our primary uses of cash are for operational expenditures, inventory purchases and capital investments, including new stores, store remodels, store relocations, store fixtures and ongoing infrastructure improvements. Additionally, we may use cash for the repurchase of our common stock. Historically, our main source of liquidity has been cash flows from operations. The significant components of our working capital are inventories and liquid assets such as cash, cash equivalents, current marketable securities and receivables, reduced by accounts payable, accrued payroll and accrued expenses. Our working capital position benefits from the fact that we generally collect cash from sales to customers the same day or within several days of the related sale, while we typically have longer payment terms with our vendors. 19 Our capital requirements include construction and fixture costs related to the opening of new stores and remodel and relocation expenditures for existing stores. Future capital requirements will depend on many factors, including the pace of new store openings, the availability of suitable locations for new stores and the nature of arrangements negotiated with landlords. Our net investment to open a new store has varied significantly in the past due to a number of factors, including the geographic location and size of the new store, and is likely to vary significantly in the future. During fiscal 2022, we expect to spend approximately $27 million to $29 million on capital expenditures, a majority of which will relate to leasehold improvements and fixtures for the approximately 33 new stores we remain on track to open in fiscal 2022 and remodels or relocations of existing stores. There can be no assurance that the number of stores that we actually open in fiscal 2022 will not be different from the number of stores we plan to open, or that actual fiscal 2022 capital expenditures will not differ from our expectations. Operating Activities Net cash from operating activities decreased by $108.3 million to $36.4 million used in operating activities for the nine months ended October 29, 2022 from $71.9 million provided operating activities for the nine months ended October 30, 2021. Our operating cash flows result primarily from cash received from our customers, offset by cash payments we make for inventory, employee compensation, store occupancy expenses and other operational expenditures. Cash received from our customers generally corresponds to our net sales. Because our customers primarily use credit cards or cash to buy from us, our receivables from customers settle quickly. Historically, changes to our operating cash flows have been driven primarily by changes in operating income, which is impacted by changes to non-cash items such as depreciation, amortization and accretion, deferred taxes, and changes to the components of working capital. Investing Activities Net cash provided by investing activities was $60.4 million for the nine months ended October 29, 2022 related to $78.1 million in net sales of marketable securities, partially offset by $17.7 million of capital expenditures primarily for new store openings and existing store remodels or relocations. Net cash provided by investing activities was $26.2 million for the nine months ended October 30, 2021, related to $35.0 million in net sales of marketable securities, partially offset by $8.8 million of capital expenditures primarily for new store openings and existing store remodels or relocations . Financing Activities Net cash used in financing activities for the nine months ended October 29, 2022 was $87.2 million, related to $87.9 million used in the repurchase of common stock and $0.5 million in payments for tax withholding obligations upon vesting of restricted stock, partially offset by $1.1 million in proceeds from the issuance and exercise of stock-based awards. Net cash used in financing activities for the nine months ended October 30, 2021 was $96.2 million, related to $98.5 million used in the repurchase of common stock and $0.6 million in payments for tax withholding obligations upon vesting of restricted stock, partially offset by $2.9 million in proceeds from the issuance and exercise of stock-based awards. Sources of Liquidity Our most significant sources of liquidity continue to be funds generated by operating activities and available cash, cash equivalents and current marketable securities. We expect these sources of liquidity and available borrowings under our revolving credit facility will be sufficient to meet our foreseeable cash requirements for operations and planned capital expenditures for at least the next twelve months. Beyond this time frame, if cash flows from operations are not sufficient to meet our capital requirements, then we will be required to obtain additional equity or debt financing in the future. However, there can be no assurance that equity or debt financing will be available to us when we need it or, if available, that the terms will be satisfactory to us and not dilutive to our then-current shareholders. We maintain a secured credit agreement with Wells Fargo Bank, N.A., which provided us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024. The credit facility is available for working capital and other general corporate purposes. The credit facility provides for the issuance of standby letters of credit in an amount not to exceed $17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $10.0 million and with terms not to exceed 120 days. The credit facility will mature on December 1, 2024. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1.35% per annum. 20 We had open commercial letters of credit outstanding of less than $0.1 million at October 29, 2022 and no open commercial letters of credit outstanding at January 29, 2022 . We had $0.6 million in issued, but undrawn, standby letters of credit at October 29 , 2022 and no issued standby letters of credit at January 29, 2022. Additionally, we maintain a credit facility with UBS Switzerland AG of up to 15.0 million Euro ($14.9 million as of October 29, 2022), which may be used to guarantee payment of letters of credit. The credit facility bears interest at 1.25%. There were no borrowings outstanding under this credit facility at October 29, 2022 or January 29, 2022. At October 29, 2022, we did not have any “off-balance sheet arrangements” as defined in relevant SEC regulations that are reasonably likely to have a current or future effect on our financial condition, results of operation, liquidity, capital expenditures or capital resources. Critical Accounting Estimates Our condensed consolidated financial statements are prepared in accordance with U.S. GAAP. In connection with the preparation of our condensed consolidated financial statements, we are required to make assumptions and estimates about future events and apply judgments that affect the reported amounts of assets, liabilities, revenue, expenses and the related disclosures. We base our assumptions, estimates and judgments on historical experience, current trends and other factors that we believe to be relevant at the time our condensed consolidated financial statements are prepared. On a regular basis, we review the accounting policies, assumptions, estimates and judgments to ensure that our condensed consolidated financial statements are presented fairly and in accordance with U.S. GAAP. However, because future events and their effects cannot be determined with certainty, actual results could differ from our assumptions and estimates, and such differences could be material. There have been no significant changes to our critical accounting estimates as discussed in our Annual Report on Form 10-K for the fiscal year ended January 29, 2022. 21 Risk Factors Investing in our securities involves a high degree of risk. The following risk factors, issues and uncertainties should be considered in evaluating our future prospects. In particular, keep these risk factors in mind when you read “forward-looking” statements elsewhere in this report. Forward-looking statements relate to our expectations for future events and time periods. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. Any of the following risks could harm our business, operating results or financial condition and could result in a complete loss of your investment. Additional risks and uncertainties that are not yet identified or that we currently think are immaterial may also harm our business and financial condition in the future. U.S. and global economic and political uncertainty, coupled with cyclical economic trends in retailing, could have a material adverse effect on our results of operations. Our retail market historically has been subject to substantial cyclicality. As the U.S. and global economic and political conditions change, the trends in discretionary consumer spending become unpredictable and discretionary consumer spending could be reduced due to uncertainties about the future. Economic and consumer confidence can also be affected by a variety of factors, including housing prices, unemployment rates and inflation. When disposable income decreases or discretionary consumer spending is reduced due to a decline in consumer confidence, purchases of apparel and related products may decline. A deterioration in macroeconomic conditions or consumer confidence or uncertainty in the U.S. and global economies and political environment could have a material adverse impact on our results of operations and financial position. In response to a decline in disposable income and consumer confidence, we believe the “value” message has become more important to consumers. As a retailer that sells approximately 87% branded merchandise, this trend may negatively affect our business, as we generally will have to charge more than vertically integrated private label retailers or we may be forced to rely on promotional sales to compete in our market which could have a material adverse effect on our financial position . The novel coronavirus (COVID-19) global pandemic could continue to have a material impact on our business. Since being declared a pandemic by the World Health Organization in March 2020, COVID-19 has negatively impacted global economies, disrupted consumer spending and global supply chains, and created significant volatility and disruption of financial markets. The COVID-19 global pandemic could continue to have a material impact on our business, including our results of operations, financial condition and liquidity. The duration and severity of the COVID-19 pandemic will determine its ongoing impact on our business, including our ability to execute business strategies and initiatives in their expected time frame, the effect on our suppliers and disruptions to the global supply chain, and the ability of our customers to pay for our services and products. A resurgence in the spread of COVID-19, or its variants, could force the closure of our retail stores globally, as we saw in the first quarter of 2020. We could also experience store closures on a regional basis, like we have seen in 2020 and 2021. We may face long term store closure requirements and other operational restrictions with respect to some or all of our physical locations for prolonged periods of time due to, among other factors, evolving and increasingly stringent governmental restrictions, public health directives, quarantine policies, or social distancing measures, resulting in a materially adverse impact to our financial results. With store closures withstanding, consumer fears about becoming ill with the virus may persist, adversely affecting traffic to our stores. Consumer spending may also be negatively impacted by general economic downturn and decreased consumer confidence resulting from the COVID-19 global pandemic. This may negatively impact sales in our stores and our ecommerce channel. The potential reduction in consumer visits to our stores, caused by COVID-19, and any decreased spending at retail stores or online caused by a lack of consumer confidence and spending following the pandemic, could result in a loss of sales and profits. A rise in the spread of COVID-19 also has the potential to significantly impact our supply chain if manufacturers of our products, distribution centers where we manage our inventory, or operations of our logistics and other service providers are disrupted, temporarily closed or experience worker shortages. Due to the seasonality of our business, widespread closures during peak shopping periods could disproportionally impact financial results. The inability to effectively adapt to changes in consumer behavior could result in excess inventory and adversely impact financial results. We may experience adverse effects of prolonged operating restrictions related to in-person marketing and training events. The COVID-19 pandemic’s impact on macroeconomic conditions could alter the functioning of financial and capital markets, foreign currency exchange rates, commodity prices, and interest rates. After the COVID-19 global pandemic has settled, we may continue to experience adverse impacts to our business as a result of evolving macroeconomic factors, including general economic uncertainty, unemployment rates, high inflation, recessionary pressures and any actual economic recession that has occurred or may occur in the future. 22 The extent of the impact of the COVID-19 global pandemic on our business remains uncertain and difficult to predict, given the innumerable unknowns regarding the duration and severity of the pandemic. Failure to anticipate, identify and respond to changing fashion trends, customer preferences and other fashion-related factors could have a material adverse effect on us. C ustomer tastes and fashion trends in our market are volatile and tend to change rapidly. Our success depends on our ability to effectively anticipate, identify and respond to changing fashion tastes and consumer preferences, and to translate market trends into appropriate, saleable product offerings in a timely manner. If we are unable to successfully anticipate, identify or respond to changing styles or trends and misjudge the market for our products or any new product lines, including adequately anticipating the correct mix and trends of our private label merchandise, our sales may be lower than predicted and we may be faced with a substantial amount of unsold inventory or missed opportunities. In response to such a situation, we may be forced to rely on markdowns or promotional sales to dispose of excess or slow-moving inventory, which could have a material adverse effect on our results of operations. We may be unable to compete favorably in the highly competitive retail industry, and if we lose customers to our competitors, our sales could decrease. The teenage and young adult retail apparel, footwear, accessories and hardgoods industry is highly competitive. We compete with other retailers for vendors, teenage and young adult customers, suitable store locations, qualified store associates, management personnel, online marketing content, social media engagement and ecommerce traffic. Some of our competitors are larger than we are and have substantially greater financial and marketing resources, including advanced ecommerce market capabilities. Additionally, some of our competitors may offer more options for free and/or expedited shipping for ecommerce sales. Direct competition with these and other retailers may increase significantly in the future, which could require us, among other things, to lower our prices and could result in the loss of our customers. Current and increased competition could have a material adverse effect on our business, results of operations and financial condition. Most of our merchandise is produced by foreign manufacturers; therefore, the availability, quality and costs of our merchandise may be negatively affected by risks associated with international trade and other international conditions. Most of our merchandise is produced by manufacturers around the world. Some of these facilities are located in regions that may be affected by natural disasters, public health concerns, or emergencies, such as COVID-19 and other communicable diseases or viruses, political instability or other conditions that could cause a disruption in trade. Trade restrictions such as increased tariffs or quotas, or both, could also increase the cost and reduce the supply of merchandise available to us. Any reduction in merchandise available to us or any increase in its cost due to tariffs, quotas or local issues that disrupt trade could have a material adverse effect on our results of operations. This includes costs to comply with regulatory developments regarding the use of “conflict minerals,” certain minerals originating from the Democratic Republic of Congo and adjoining countries, which may affect the sourcing and availability of raw materials used by manufacturers and subject us to increased costs associated with our products, processes or sources of our inputs. Our business could be adversely affected by disruptions in the supply chain, such as strikes, work stoppages, or port closures. A decrease in consumer traffic could cause our sales to be less than expected. We depend heavily on generating customer traffic to our stores and websites. This includes locating many of our stores in prominent locations within successful shopping malls. Sales at these stores are derived, in part, from the volume of traffic in those malls. Our stores benefit from the ability of a mall’s “anchor” tenants, generally large department stores and other area attractions, to generate consumer traffic in the vicinity of our stores and the continuing popularity of malls as shopping destinations. In addition, some malls that were in prominent locations when we opened our stores may cease to be viewed as prominent. If this trend continues or if the popularity of mall shopping continues to decline generally among our customers, our sales may decline, which would impact our results of operations. Additionally, we may experience other risks associated with operating leases, such as lease termination or impairment of operating lease right-of-use assets. These risks may include circumstances that are not within our control, such as changes in fair market rent. Furthermore, we depend on generating increased traffic to our ecommerce business and converting that traffic into sales. This requires us to achieve expected results from our marketing and social media campaigns, accuracy of data analytics, reliability of our website, network, and transaction processing and a high-quality online customer experience. Our sales volume and customer traffic in our stores and on our websites generally could be adversely affected by, among other things, economic downturns, competition from other ecommerce retailers, non-mall retailers and other malls, increases in gasoline prices, fluctuations in exchange rates in border or tourism-oriented locations and the closing or decline in popularity of other stores in the malls in which we are located. Also, geopolitical events, including the threat of terrorism, or widespread health emergencies, such as COVID-19 and other communicable diseases, viruses, or pandemics, could cause people to avoid our stores in shopping malls and alter consumer trends. 23 An uncertain economic outlook or continued bankruptcies of mall-based retailers could curtail new shopping mall development, decrease shopping mall and ecommerce traffic, reduce the number of hours that shopping mall operators keep their shopping malls open or force them to cease operations entirely. A reduction in consumer traffic to our stores or websites could have a material adverse effect on our business, results of operations and financial condition. Our growth strategy depends on our ability to grow customer engagement in our current markets and expand into new markets, which could strain our resources and cause the performance of our existing business to suffer. Our growth largely depends on our ability to optimize our customer engagement in our current trade areas and operate successfully in new geographic markets. However, our ability to open stores in new geographic markets, including international locations, is subject to a variety of risks and uncertainties, and we may be unable to open new stores as planned or have access to desirable lease space, and any failure to successfully open and operate in new markets could have a material adverse effect on our results of operations. We intend to continue to open new stores in future years, while remodeling a portion of our existing store base such that we have the optimum number of stores in any given trade area. The expansion into new markets may present competitive, merchandising, hiring and distribution challenges that are different from those currently encountered in our existing markets. In addition, our proposed expansion will place increased demands on our operational, managerial and administrative resources. These increased demands could cause us to operate our business less effectively, which in turn could cause deterioration in the financial performance of our individual stores and our overall business. In addition, successful execution of our growth strategy may require that we obtain additional financing, and we may not be able to obtain that financing on acceptable terms or at all. Failure to successfully integrate any businesses that we acquire could have an adverse impact on our results of operations and financial performance. We may, from time to time, acquire businesses, such as our acquisition of Blue Tomato and Fast Times. We may experience difficulties in integrating any businesses we may acquire, including their stores, websites, facilities, personnel, financial systems, distribution, operations and general operating procedures, and any such acquisitions may also result in the diversion of our capital and our management’s attention from other business issues and opportunities. If we experience difficulties in integrating acquisitions or if such acquisitions do not provide the benefits that we expect to receive, we could experience increased costs and other operating inefficiencies, which could have an adverse effect on our results of operations and overall financial performance. Our plans for international expansion include risks that could have a negative impact on our results of operations. We plan to continue to open new stores in the Canadian, European, and Australian markets. We may continue to expand internationally into other markets, either organically, or through additional acquisitions. International markets may have different competitive conditions, consumer tastes and discretionary spending patterns than our existing U.S. market. As a result, operations in international markets may be less successful than our operations in the U.S. Additionally, consumers in international markets may not be familiar with us or the brands we sell, and we may need to build brand awareness in the markets. Furthermore, we have limited experience with the legal and regulatory environments and market practices in new international markets and cannot guarantee that we will be able to penetrate or successfully operate in these new international markets. We also expect to incur additional costs in complying with applicable foreign laws and regulations as they pertain to both our products and our operations. Accordingly, for the reasons noted above, our plans for international expansion include risks that could have a negative impact on our results of operations. Our sales and inventory levels fluctuate on a seasonal basis. Accordingly, our quarterly results of operations are volatile and may fluctuate significantly. Our quarterly results of operations have fluctuated significantly in the past and can be expected to continue to fluctuate significantly in the future. Our sales and profitability are typically disproportionately higher in the third and fourth fiscal quarters of each fiscal year due to increased sales during the back-to-school and winter holiday shopping seasons. Sales during these periods cannot be used as an accurate indicator of annual results. As a result of this seasonality, any factors negatively affecting us during the last half of the year, including unfavorable economic conditions, adverse weather or our ability to acquire seasonal merchandise inventory, could have a material adverse effect on our financial condition and results of operations for the entire year. In addition, in order to prepare for the back-to-school and winter holiday shopping seasons, we must order and keep in stock significantly more merchandise than we carry during other times of the year. Any unanticipated decrease in demand for our products during these peak shopping seasons could require us to sell excess inventory at a substantial markdown, which could have a material adverse effect on our business, results of operations and financial condition. Our quarterly results of operations are affected by a variety of other factors, includin • the timing of new store openings and the relative proportion of our new stores to mature stores; 24 • whether we are able to successfully integrate any new stores that we acquire and the presence of any unanticipated liabilities in connection therewith; • fashion trends and changes in consumer preferences; • calendar shifts of holiday or seasonal periods; • changes in our merchandise mix; • timing of promotional events; • general economic conditions and, in particular, the retail sales environment; • actions by competitors or mall anchor tenants; • weather conditions; • the level of pre-opening expenses associated with our new stores; and • inventory shrinkage beyond our historical average rates. If our information systems fail to function effectively or do not scale to keep pace with our planned growth, our operations could be disrupted and our financial results could be harmed. If our information systems, including hardware and software, do not work effectively, this could adversely impact the promptness and accuracy of our transaction processing, financial accounting and reporting and our ability to manage our business and properly forecast operating results and cash requirements. Additionally, we rely on third-party service providers for certain information systems functions. If a service provider fails to provide the data quality, communications capacity or services we require, the failure could interrupt our services and could have a material adverse effect on our business, financial condition and results of operations. To manage the anticipated growth of our operations and personnel, we may need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. If we fail to meet the requirements to adequately maintain the privacy and security of our personal data and business information, we may be subjected to adverse publicity, litigation and significant expenses. Information systems are susceptible to an increasing threat of continually evolving cybersecurity risks. If we fail to maintain or adequately maintain security systems, devices and activity monitoring to prevent unauthorized access to our network, systems and databases containing confidential, proprietary, and personally identifiable information, we may be subject to additional risk of adverse publicity, litigation or significant expense. Nevertheless, if unauthorized parties gain access to our networks, systems or databases, they may be able to steal, publish, delete or modify confidential information. In such circumstances, we could be held liable to our customers or other parties or be subject to regulatory or other actions for breaching privacy rules and we may be exposed to reputation damage and loss of customers’ trust and business. This could result in costly investigations and litigation, civil or criminal penalties and adverse publicity that could adversely affect our financial condition, results of operations and reputation. Actual or anticipated attacks may cause us to incur increasing costs, including costs to deploy additional resources, train employees, and engage third-parties. Further, the regulatory environment surrounding information security, cybersecurity and privacy is increasingly demanding. If we are unable to comply with the new and changing security standards, we may be subject to fines, restrictions and financial exposure, which could adversely affect our retail operations. Significant fluctuations and volatility in the cost of raw materials, global labor, shipping and other costs related to the production of our merchandise may have a material adverse effect on our business, results of operations and financial conditions. Increases in the cost of raw materials, global labor costs, freight costs and other shipping costs in the production and transportation of our merchandise can result in higher costs for this merchandise. The costs for these products are affected by weather, consumer demand, government regulation, speculation on the commodities market and other factors that are generally unpredictable and beyond our control. Our gross profit and results of operations could be adversely affected to the extent that the selling prices of our products do not increase proportionately with the increases in the costs of raw materials. Increasing labor costs and oil-related product costs, such as manufacturing and transportation costs, could also adversely impact gross profit. Additionally, significant changes in the relationship between carrier capacity and shipper demand could increase transportation costs, which could also adversely impact gross profit. 25 Fluctuations in foreign currency exchange rates could impact our financial condition and results of operations. We are exposed to foreign currency exchange rate risk with respect to our sales, profits, assets and liabilities denominated in currencies other than the U.S. dollar. As a result, the fluctuation in the value of the U.S. dollar against other currencies could have a material adverse effect on our results of operations, financial condition and cash flows. Upon translation, operating results may differ materially from expectations. As we continue to expand our international operations, our exposure to exchange rate fluctuations will increase. Tourism spending may be affected by changes in currency exchange rates, and as a result, sales at stores with higher tourism traffic may be adversely impacted by fluctuations in currency exchange rates. Further, although the prices charged by vendors for the merchandise we purchase are primarily denominated in U.S. dollars, a decline in the relative value of the U.S. dollar to foreign currencies could lead to increased merchandise costs, which could negatively affect our competitive position and our results of operations. Our business could be adversely affected by increased labor costs, including costs related to an increase in minimum wage and health care. Labor is one of the primary components in the cost of operating our business. Increased labor costs, whether due to competition, unionization, increased minimum wage, state unemployment rates, health care, mandated safety protocols, or other employee benefits costs may adversely impact our operating profit. A considerable amount of our store team members are paid at rates related to the federal or state minimum wage and any changes to the minimum wage rate may increase our operating expenses. Furthermore, inconsistent increases in state and or city minimum wage requirements limit our ability to increase prices across all markets and channels. Additionally, we are self-insured with respect to our health care coverage in the U.S. and do not purchase third party insurance for the health insurance benefits provided to employees with the exception of pre-defined stop loss coverage, which helps limit the cost of large claims. There is no assurance that future health care legislation will not adversely impact our results or operations. Our business could suffer if a manufacturer fails to use acceptable labor and environmental practices. We do not control our vendors or the manufacturers that produce the products we buy from them, nor do we control the labor and environmental practices of our vendors and these manufacturers. The violation of labor, safety, environmental and/or other laws and standards by any of our vendors or these manufacturers, or the divergence of the labor and environmental practices followed by any of our vendors or these manufacturers from those generally accepted as ethical in the U.S., could interrupt, or otherwise disrupt, the shipment of finished products to us or damage our reputation. Any of these, in turn, could have a material adverse effect on our reputation, financial condition and results of operations. In that regard, most of the products we sell are manufactured internationally, primarily in Asia, Mexico and Central America, which may increase the risk that the labor and environmental practices followed by the manufacturers of these products may differ from those considered acceptable in the U.S. Additionally, our products are subject to regulation of and regulatory standards set by various governmental authorities with respect to quality and safety. These regulations and standards may change from time to time. Our inability to comply on a timely basis with regulatory requirements could result in significant fines or penalties, which could adversely affect our reputation and sales. Issues with the quality and safety of merchandise we sell, regardless of our culpability, or customer concerns about such issues, could result in damage to our reputation, lost sales, uninsured product liability claims or losses, merchandise recalls and increased costs. If we fail to develop and maintain good relationships with vendors or if a vendor is otherwise unable or unwilling to supply us with adequate quantities of their products at acceptable prices, our business and financial performance could suffer. Our business is dependent on developing and maintaining good relationships with a large number of vendors to provide our customers with an extensive selection of current and relevant brands. In addition to maintaining our large number of current vendor relationships, each year we are identifying, attracting and launching new vendors to provide a diverse and unique product assortment. We believe that we generally are able to obtain attractive pricing and terms from vendors because we are perceived as a desirable customer, and deterioration in our relationship with our vendors could have a material adverse effect on our business. However, there can be no assurance that our current vendors or new vendors will provide us with an adequate supply or quality of products or acceptable pricing. Our vendors could discontinue selling to us, raise the prices they charge, sell through direct channels or allow their merchandise to be discounted by other retailers. There can be no assurance that we will be able to acquire desired merchandise in sufficient quantities on terms acceptable to us in the future. In addition, certain vendors sell their products directly to the retail market and therefore compete with us directly and other vendors may decide to do so in the future. There can be no assurance that such vendors will not decide to discontinue supplying their products to us, supply us only less popular or lower quality items, raise the prices they charge us or focus on selling their products directly. 26 In addition, a number of our vendors are smaller, less capitalized companies and are more likely to be impacted by unfavorable general economic and market conditions than larger and better capitalized companies. These smaller vendors may not have sufficient liquidity during economic downturns to properly fund their businesses and their ability to supply their products to us could be negatively impacted. Any inability to acquire suitable merchandise at acceptable prices, or the loss of one or more key vendors, could have a material adverse effect on our business, results of operations and financial condition. Our business is susceptible to weather conditions that are out of our control, including the potential risks of unpredictable weather patterns and any weather patterns associated with naturally occurring global climate change, and the resultant unseasonable weather could have a negative impact on our results of operations. Our business is susceptible to unseasonable weather conditions. For example, extended periods of unseasonably warm temperatures during the winter season or cool weather during the summer season (including any weather patterns associated with global warming and cooling) could render a portion of our inventory incompatible with those unseasonable conditions. These prolonged unseasonable weather conditions could have a material adverse effect on our business and results of operations. Our omni-channel strategy may not have the return we anticipate, which could have an adverse effect on our results of operations. We are executing an omni-channel strategy to enable our customers to shop wherever, whenever and however they choose to engage with us. Our omni-channel strategy may not deliver the results we anticipate or may not adequately anticipate changing consumer trends, preferences and expectations. We will continue to develop additional ways to execute our superior omni-channel experience and interact with our customers, which requires significant investments in IT systems and changes in operational strategy, including localization, online and in-store point of sale systems, order management system, and transportation management system. If we fail to effectively integrate our store and ecommerce shopping experiences, effectively scale our IT structure or we do not realize the return on our investments that we anticipate our operating results could be adversely affected. Our competitors are also investing in omni-channel initiatives. If our competitors are able to be more effective in their strategy, it could have an adverse effect on our results of operations. If we our omni-channel strategy fails to meet customer expectations related to functionality, timely delivery, or customer experience, our business and results of operations may be adversely affected. Additionally, to manage the anticipated growth of our operations and personnel, we will need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. If we lose key executives or are unable to attract and retain the talent required for our business, our financial performance could suffer. Our performance depends largely on the efforts and abilities of our key executives. If we lose the services of one or more of our key executives, we may not be able to successfully manage our business or achieve our growth objectives. Furthermore, as our business grows, we will need to attract and retain additional qualified personnel in a timely manner and we may not be able to do so. Failure to meet our staffing needs could adversely affect our ability to implement our growth strategy and could have a material impact on our results of operations. Our success depends in part upon our ability to attract, motivate and retain a sufficient number of qualified employees who understand and appreciate our culture and brand and are able to adequately represent this culture. Qualified individuals of the requisite caliber, skills and number needed to fill these positions may be in short supply in some areas and the employee turnover rate in the retail industry is high. Our business depends on the ability to hire and retain qualified technical and support roles for procurement, distribution, ecommerce and back office functions. Competition for qualified employees in these areas could require us to pay higher wages to attract a sufficient number of suitable employees. If we are unable to hire and retain store managers and store associates capable of consistently providing a high level of customer service, as demonstrated by their enthusiasm for our culture and knowledge of our merchandise, our ability to open new stores may be impaired and the performance of our existing and new stores could be materially adversely affected. We are also dependent upon temporary personnel to adequately staff our operations particularly during busy periods such as the back-to-school and winter holiday seasons. There can be no assurance that we will receive adequate assistance from our temporary personnel, or that there will be sufficient sources of temporary personnel. If we are unable to hire qualified temporary personnel, our results of operations could be adversely impacted. Although none of our employees are currently covered by collective bargaining agreements, we cannot guarantee that our employees will not elect to be represented by labor unions in the future, which could increase our labor costs and could subject us to the risk of work stoppages and strikes. Any such failure to meet our staffing needs, any material increases in employee turnover rates, any increases in labor costs or any work stoppages, interruptions or strikes could have a material adverse effect on our business or results of operations. 27 A decline in cash flows from operations could have a material adverse effect on our business and growth plans. We depend on cash flow from operations to fund our current operations and our growth strategy, including the payment of our operating leases, wages, store operation costs and other cash needs. If our business does not generate sufficient cash flow from operating activities, and sufficient funds are not otherwise available to us from borrowings under our credit facility or from other sources, we may not be able to pay our operating lease expenses, grow our business, respond to competitive challenges or fund our other liquidity and capital needs, which could have a material adverse effect on our business. The terms of our secured credit agreement impose certain restrictions on us that may impair our ability to respond to changing business and economic conditions, which could have a significant adverse impact on our business. Additionally, our business could suffer if our ability to acquire financing is reduced or eliminated. We maintain a secured credit agreement with Wells Fargo Bank, N.A., which provides us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024. The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. The credit facility contains certain financial maintenance covenants that generally require us to have net income after taxes of at least $5.0 million on a trailing four-quarter basis and a quick ratio of 1.25:1.0 at the end of each fiscal quarter. These restrictions could (1) limit our ability to plan for or react to market conditions or meet capital needs or otherwise restrict our activities or business plans; and (2) adversely affect our ability to finance our operations, strategic acquisitions, investments or other capital needs or to engage in other business activities that would be in our interest. The credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. Additionally, we cannot be assured that our borrowing relationship with our lenders will continue or that our lenders will remain able to support their commitments to us in the future. If our lenders fail to do so, then we may not be able to secure alternative financing on commercially reasonable terms, or at all. Our business could suffer with the closure or disruption of our home office or our distribution centers. In the U.S., we rely on a single distribution center located in Corona, California to receive, store and distribute the vast majority of our merchandise to our domestic stores. Internationally, we operate a combined distribution and ecommerce fulfillment center located in Graz, Austria that supports our Blue Tomato ecommerce and store operations in Europe. We operate a distribution center located in Delta, British Columbia, Canada to distribute our merchandise to our Canadian stores. We operate a distribution and ecommerce fulfillment center located in Melbourne, Australia to distribute our merchandise to our Australian stores. Additionally, we are headquartered in Lynnwood, Washington. As a result, unforeseen events, including war, terrorism, other political instability or conflicts, riots, public health issues (including widespread/pandemic illnesses such as coronavirus and other communicable diseases or viruses), a natural disaster or other catastrophic event that affects one of the regions where we operate these centers or our home office could significantly disrupt our operations and have a material adverse effect on our business, results of operations and financial condition. The effects of war, acts of terrorism, threat of terrorism, or other types of mall violence, could adversely affect our business. Most of our stores are located in shopping malls. Any threat of terrorist attacks or actual terrorist events, or other types of mall violence, such as shootings or riots, could lead to lower consumer traffic in shopping malls. In addition, local authorities or mall management could close shopping malls in response to security concerns. Mall closures, as well as lower consumer traffic due to security concerns, could result in decreased sales. Additionally, the threat, escalation or commencement of war or other armed conflict elsewhere, could significantly diminish consumer spending, and result in decreased sales. Decreased sales could have a material adverse effect on our business, financial condition and results of operations. 28 Our inability or failure to protect our intellectual property or our infringement of other’s intellectual property could have a negative impact on our operating results. We believe that our trademarks and domain names are valuable assets that are critical to our success. The unauthorized use or other misappropriation of our trademarks or domain names could diminish the value of the Zumiez, Blue Tomato, or Fast Times brands, our store concepts, our private label brands or our goodwill and cause a decline in our net sales. Although we have secured or are in the process of securing protection for our trademarks and domain names in a number of countries outside of the U.S., there are certain countries where we do not currently have or where we do not currently intend to apply for protection for certain trademarks. Also, the efforts we have taken to protect our trademarks may not be sufficient or effective. Therefore, we may not be able to prevent other persons from using our trademarks or domain names outside of the U.S., which also could adversely affect our business. We are also subject to the risk that we may infringe on the intellectual property rights of third parties. Any infringement or other intellectual property claim made against us, whether or not it has merit, could be time-consuming, result in costly litigation, cause product delays or require us to pay royalties or license fees. As a result, any such claim could have a material adverse effect on our operating results. Our operations expose us to the risk of litigation, which could lead to significant potential liability and costs that could harm our business, financial condition or results of operations. We employ a substantial number of full-time and part-time employees, a majority of whom are employed at our store locations. As a result, we are subject to a large number of federal, state and foreign laws and regulations relating to employment. This creates a risk of potential claims that we have violated laws related to discrimination and harassment, health and safety, wage and hour laws, criminal activity, personal injury and other claims. We are also subject to other types of claims in the ordinary course of our business. Some or all of these claims may give rise to litigation, which could be time-consuming for our management team, costly and harmful to our business. In addition, we are exposed to the risk of class action litigation. The costs of defense and the risk of loss in connection with class action suits are greater than in single-party litigation claims. Due to the costs of defending against such litigation, the size of judgments that may be awarded against us, and the loss of significant management time devoted to such litigation, we cannot provide assurance that such litigation will not disrupt our business or impact our financial results. We are involved, from time to time, in litigation incidental to our business including complaints filed by investors. This litigation could result in substantial costs, and could divert management's attention and resources, which could harm our business. Risks associated with legal liability are often difficult to assess or quantify, and their existence and magnitude can remain unknown for significant periods of time. Failure to comply with federal, state, local or foreign laws and regulations, or changes in these laws and regulations, could have an adverse impact on our results of operations and financial performance. Our business is subject to a wide array of laws and regulations including those related to employment, trade, consumer protection, transportation, occupancy laws, health care, wage laws, employee health and safety, taxes, privacy, health information privacy, identify theft, customs, truth-in-advertising, securities laws, unsolicited commercial communication and environmental issues. Our policies, procedures and internal controls are designed to comply with foreign and domestic laws and regulations, such as those required by the Sarbanes-Oxley Act of 2002 and the U.S. Foreign Corrupt Practices Act. Although we have policies and procedures aimed at ensuring legal and regulatory compliance, our employees or vendors could take actions that violate these laws and regulations. Any violations of such laws or regulations could have an adverse effect on our reputation, results of operations, financial condition and cash flows. Furthermore, changes in the regulations, the imposition of additional regulations, or the enactment of any new legislation, particularly in the U.S. and Europe, could adversely affect our results of operations or financial condition. Fluctuations in our tax obligations and effective tax rate may result in volatility in our operating results. We are subject to income taxes in many domestic and foreign jurisdictions. In addition, our products are subject to import and excise duties and/or sales, consumption or value-added taxes in many jurisdictions. We record tax expense based on our estimates of future payments, which include reserves for estimates of probable settlements of domestic and foreign tax audits. At any one time, many tax years are subject to audit by various taxing jurisdictions. There can be no assurance as to the outcome of these audits which may have an adverse effect to our business. In addition, our effective tax rate may be materially impacted by changes in tax rates and duties, the mix and level of earnings or losses by taxing jurisdictions, or by changes to existing accounting rules or regulations. Changes to foreign or domestic tax laws could have a material impact on our financial condition, results of operations or cash flows. 29 We may fail to meet analyst expectations, which could cause the price of our stock to decline. Our common stock is traded publicly and various securities analysts follow our financial results and issue reports on us. These reports include information about our historical financial results as well as the analysts' estimates of our future performance. The analysts' estimates are based upon their own independent opinions and can be different from our estimates or expectations. If our operating results are below the estimates or expectations of public market analysts and investors, our stock price could decline. The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A share repurchase program may be conducted from time to time under authorization made by our Board of Directors. We do not have a controlling shareholder, nor are we aware of any shareholders that have formed a “group” (defined as when two or more persons agree to act together for the purposes of acquiring, holding, voting or otherwise disposing of the equity securities of an issuer). The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A controlling shareholder would have significant influence over, and may have the ability to control, matters requiring approval by our shareholders, including the election of directors and approval of mergers, consolidations, sales of assets, recapitalizations and amendments to our articles of incorporation. Furthermore, a controlling shareholder may take actions with which other shareholders do not agree, including actions that delay, defer or prevent a change of control of the company and that could cause the price that investors are willing to pay for the company’s stock to decline. Item 3: Quantitative and Qualitative Disclosures About Market Risk Our market risk profile at October 29, 2022 has not significantly changed since January 29, 2022. Our market risk profile at January 29, 2022 is disclosed in our Annual Report on Form 10-K. Item 4: Controls and Procedures Evaluation of Disclosure Controls and Procedures . We carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer ("CEO") and Chief Financial Officer ("CFO"), of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Securities Exchange Act Rule 13a-15(e)). Based on this evaluation, our CEO and CFO concluded that, as of October 29, 2022, our disclosure controls and procedures were effective. Changes in Internal Control over Financial Reporting . There has been no change in our internal control over financial reporting (as defined in Securities Exchange Act Rule 13a-15(f)) during the three months ended October 29, 2022 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 30 PART II - OTHER INFORMATION Item 1. Legal Proceedings We are involved from time to time in litigation incidental to our business. We are unable to predict the outcome of litigated cases. A court determination in any of litigation actions against us could result in significant liability and could have a material adverse effect on our business, results of operations or financial condition. See Note 5 to the Notes to Condensed Consolidated Financial Statements found in Part I Item 1 of this Form 10-Q (listed under “Litigation” under Commitments and Contingencies). Item 1A. Risk Factors Please refer to the Risk Factors set forth in Item 2 of Part I of this Form 10-Q as well as the risk factors previously disclosed in Item 1A of Part I of our Annual Report on Form 10-K for the year ended January 29, 2022. There have been no material changes in the risk factors set forth in our Annual Report on Form 10-K for the year ended January 29, 2022. Item 2. Unregistered Sales of Equity Securities and Use of Proceeds There were no issuer purchases of common stock during the thirteen weeks ended October 29, 2022. Item 3. Defaults Upon Senior Securities None Item 4. Mine Safety Disclosures Not applicable Item 5. Other Information None 31 Item 6. Exhibits Exhibit No. Description of Exhibits 31.1 Certification of the Principal Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of the Principal Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certifications of the Principal Executive Officer and Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350. 101 The following materials from Zumiez Inc.’s Quarterly Report on Form 10-Q for the quarterly period ended October 29, 2022, formatted in Inline XBRL (eXtensible Business Reporting Language): (i) Condensed Consolidated Balance Sheets at October 29, 2022 (unaudited) and January 29, 2022; (ii) Unaudited Condensed Consolidated Statements of Operations for the three and nine months ended October 29, 2022 and October 30, 2021; (iii) Unaudited Condensed Consolidated Statements of Comprehensive Income (Loss) for the three and nine months ended October 29, 2022 and October 30, 2021; (iv) Unaudited Condensed Consolidated Statements of Changes in Shareholders’ Equity for the three and nine months ended October 29, 2022 and October 30, 2021; (v) Unaudited Condensed Consolidated Statements of Cash Flows for the nine months ended October 29, 2022 and October 30, 2021; and (vi) Notes to Condensed Consolidated Financial Statements. 104 The cover page for the Company’s Quarterly Report on Form 10-Q has been formatted in Inline XBRL and contained in Exhibit 101 32 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized. ZUMIEZ INC. Dat December 5, 2022 By: /s/ Christopher C. Work Christopher C. Work Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer) 33 |
WASHINGTON, D.C. 20549 FORM 10-Q ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED APRIL 29, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission file number 000-51300 ZUMIEZ INC . (Exact name of registrant as specified in its charter) Washington 91-1040022 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 4001 204 th Street SW , Lynnwood , WA 98036 (Address of principal executive offices) (Zip Code) Registrant’s telephone number, including area co ( 425 ) 551-1500 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definition of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☒ Non-accelerated filer ☐ Smaller reporting company ☐ ☐ Emerging growth company ☐ ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ☐ Yes ☒ No Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name of each exchange on which registered Common Stock ZUMZ Nasdaq Global Select At May 29, 2023, there were 19,779,446 shares outstanding of common stock. ZUMIEZ INC. FORM 10-Q TABLE OF CONTENTS Part I. Financial Information Item 1. Condensed Consolidated Financial Statements Condensed Consolidated Balance Sheets at April 29, 2023 (unaudited) and January 28, 2023 3 Unaudited Condensed Consolidated Statements of Operations for the three months ended April 29, 2023 and April 30, 2022 4 Unaudited Condensed Consolidated Statements of Comprehensive Loss for the three months ended April 29, 2023 and April 30, 2022 5 Unaudited Condensed Consolidated Statements of Changes in Shareholders’ Equity for the three months ended April 29, 2023 and April 30, 2022 6 Unaudited Condensed Consolidated Statements of Cash Flows for the three months ended April 29, 2023 and April 30, 2022 7 Notes to Condensed Consolidated Financial Statements 8 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 16 Item 3. Quantitative and Qualitative Disclosures About Market Risk 31 Item 4. Controls and Procedures 31 Part II. Other Information Item 1. Legal Proceedings 32 Item 1A. Risk Factors 32 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 32 Item 3. Defaults Upon Senior Securities 32 Item 4. Mine Safety Disclosures 32 Item 5. Other Information 32 Item 6. Exhibits 33 Signature 34 2 ZUMIEZ INC. CONDENSED CONSOLIDA TED BALANCE SHEETS (In thousands) April 29, 2023 January 28, 2023 (Unaudited) Assets Current assets Cash and cash equivalents $ 66,655 $ 81,503 Marketable securities 88,684 91,986 Receivables 20,655 20,613 Inventories 147,871 134,824 Prepaid expenses and other current assets 12,755 11,252 Total current assets 336,620 340,178 Fixed assets, net 94,419 93,746 Operating lease right-of-use assets 216,091 222,240 Goodwill 56,925 56,566 Intangible assets, net 14,404 14,443 Deferred tax assets, net 11,034 8,205 Other long-term assets 12,005 12,525 Total long-term assets 404,878 407,725 Total assets $ 741,498 $ 747,903 Liabilities and Shareholders’ Equity Current liabilities Trade accounts payable $ 59,551 $ 40,379 Accrued payroll and payroll taxes 18,378 16,321 Operating lease liabilities 63,866 65,460 Other liabilities 19,298 23,649 Total current liabilities 161,093 145,809 Long-term operating lease liabilities 182,507 188,835 Other long-term liabilities 6,055 5,931 Total long-term liabilities 188,562 194,766 Total liabilities 349,655 340,575 Commitments and contingencies (Note 5) Shareholders’ equity Preferred stock, no par value, 20,000 shares authorized; none issued and outstanding — — Common stock, no par value, 50,000 shares authorized; 19,782 shares issued and outstanding at April 29, 2023 and 19,489 shares issued and outstanding at January 28, 2023 190,599 188,418 Accumulated other comprehensive loss ( 19,077 ) ( 19,793 ) Retained earnings 220,321 238,703 Total shareholders’ equity 391,843 407,328 Total liabilities and shareholders’ equity $ 741,498 $ 747,903 See accompanying notes to condensed consolidated financial statements 3 ZUMIEZ INC. CONDENSED CONSOLIDATED ST ATEMENTS OF OPERATIONS (In thousands, except per share amounts) (Unaudited) Three Months Ended April 29, 2023 April 30, 2022 Net sales $ 182,887 $ 220,686 Cost of goods sold 133,529 148,312 Gross profit 49,358 72,374 Selling, general and administrative expenses 70,712 71,877 Operating (loss) profit ( 21,354 ) 497 Interest income, net 858 492 Other (expense) income, net ( 541 ) 172 (Loss) earnings before income taxes ( 21,037 ) 1,161 (Benefit from) provision for income taxes ( 2,655 ) 1,558 Net loss $ ( 18,382 ) $ ( 397 ) Basic loss per share $ ( 0.96 ) $ ( 0.02 ) Diluted loss per share $ ( 0.96 ) $ ( 0.02 ) Weighted average shares used in computation of loss per sh Basic 19,197 19,533 Diluted 19,197 19,533 See accompanying notes to condensed consolidated financial statements 4 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (In thousands) (Unaudited) Three Months Ended April 29, 2023 April 30, 2022 Net loss $ ( 18,382 ) $ ( 397 ) Other comprehensive income (loss), net of tax and reclassification adjustments: Foreign currency translation 386 ( 6,372 ) Net change in unrealized gain (loss) on available-for-sale debt securities 330 ( 3,439 ) Other comprehensive income (loss), net 716 ( 9,811 ) Comprehensive loss $ ( 17,666 ) $ ( 10,208 ) See accompanying notes to condensed consolidated financial statements 5 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS O F CHANGES IN SHAREHOLDERS’ EQUITY (In thousands) (Unaudited) Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at January 28, 2023 19,489 $ 188,418 $ ( 19,793 ) $ 238,703 $ 407,328 Net loss — — — ( 18,382 ) ( 18,382 ) Other comprehensive income, net — — 716 — 716 Issuance and exercise of stock-based awards 293 275 — — 275 Stock-based compensation expense — 1,906 — — 1,906 Balance at April 29, 2023 19,782 $ 190,599 $ ( 19,077 ) $ 220,321 $ 391,843 Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at January 29, 2022 21,215 $ 180,824 $ ( 13,463 ) $ 300,957 $ 468,318 Net loss — — — ( 397 ) ( 397 ) Other comprehensive loss, net — — ( 9,811 ) — ( 9,811 ) Issuance and exercise of stock-based awards 158 375 — — 375 Stock-based compensation expense — 1,700 — — 1,700 Repurchase of common stock ( 1,914 ) — — ( 83,288 ) ( 83,288 ) Balance at April 30, 2022 19,459 $ 182,899 $ ( 23,274 ) $ 217,272 $ 376,897 See accompanying notes to condensed consolidated financial statements 6 ZUMIEZ INC. CONDENSED CONSOLIDATED S TATEMENTS OF CASH FLOWS (In thousands) (Unaudited) Three Months Ended April 29, 2023 April 30, 2022 Cash flows from operating activiti Net loss $ ( 18,382 ) $ ( 397 ) Adjustments to reconcile net loss to net cash used in operating activiti Depreciation, amortization and accretion 5,379 5,416 Noncash lease expense 16,313 16,495 Deferred taxes ( 2,912 ) 1,838 Stock-based compensation expense 1,906 1,700 Impairment of long-lived assets 312 - Other 375 ( 72 ) Changes in operating assets and liabiliti Receivables 1,030 ( 4,172 ) Inventories ( 13,091 ) ( 14,580 ) Prepaid expenses and other assets ( 925 ) ( 280 ) Trade accounts payable 18,868 9,672 Accrued payroll and payroll taxes 2,087 ( 11,696 ) Income taxes payable ( 301 ) ( 4,987 ) Operating lease liabilities ( 18,609 ) ( 18,403 ) Other liabilities ( 4,929 ) ( 5,011 ) Net cash used in operating activities ( 12,879 ) ( 24,477 ) Cash flows from investing activiti Additions to fixed assets ( 5,438 ) ( 3,562 ) Purchases of marketable securities and other investments ( 1,850 ) ( 1,914 ) Sales and maturities of marketable securities and other investments 5,571 64,041 Net cash (used in) provided by investing activities ( 1,717 ) 58,565 Cash flows from financing activiti Proceeds from revolving credit facilities 1,549 17,414 Payments on revolving credit facilities ( 1,549 ) ( 17,414 ) Proceeds from issuance and exercise of stock-based awards 460 782 Payments for tax withholdings on equity awards ( 185 ) ( 407 ) Common stock repurchased — ( 87,860 ) Net cash provided by (used in) financing activities 275 ( 87,485 ) Effect of exchange rate changes on cash, cash equivalents, and restricted cash ( 509 ) ( 1,497 ) Net decrease in cash, cash equivalents, and restricted cash ( 14,830 ) ( 54,894 ) Cash, cash equivalents, and restricted cash, beginning of period 88,453 124,052 Cash, cash equivalents, and restricted cash, end of period $ 73,623 $ 69,158 Supplemental disclosure on cash flow informati Cash paid during the period for income taxes $ 536 $ 4,657 Accrual for purchases of fixed assets 2,323 2,530 See accompanying notes to condensed consolidated financial statements 7 ZUMIEZ INC. NOTES TO CONDENSED CONSOLI DATED FINANCIAL STATEMENTS (Unaudited) 1. Nature of Business and Basis of Presentation Nature of Business— Zumiez Inc., including its wholly owned subsidiaries, (the “Company,” “we,” “us,” “its” and “our”) is a leading specialty retailer of apparel, footwear, accessories and hardgoods for young men and women who want to express their individuality through the fashion, music, art and culture of action sports, streetwear, and other unique lifestyles. We operate under the names Zumiez, Blue Tomato and Fast Times. We operate ecommerce websites at zumiez.com , zumiez.ca, blue-tomato.com and fasttimes.com.au. At April 29, 2023, we operated 758 stores; 607 in the United States (“U.S.”), 80 in Europe, 50 in Canada, and 21 in Australia. COVID-19— In December 2019, a novel strain of coronavirus (“COVID-19”) was first identified, and in March 2020, the World Health Organization categorized COVID-19 as a pandemic. Changes in our operations due to COVID-19 resulted in material fluctuations to our results of operations during fiscal 2020 and in certain geographies during fiscal 2021. On April 1, 2022, we received 3.2 million Euro ($ 3.6 million) as a taxable subsidy from the German government related to our European business for costs incurred during fiscal 2020 and fiscal 2021 related to the COVID-19 pandemic. The subsidy received was granted free of future obligations to repay and was recorded as a reduction to selling, general and administrative expenses on the condensed consolidated statement of operations in the first quarter of fiscal 2022. Fiscal Year— We use a fiscal calendar widely used by the retail industry that results in a fiscal year consisting of a 52- or 53-week period ending on the Saturday closest to January 31. Each fiscal year consists of four 13-week quarters, with an extra week added to the fourth quarter every five or six years. The three months ended April 29, 2023 and April 30, 2022 were 13-week periods. Basis of Presentation— The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“U.S. GAAP”) for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) for interim financial reporting. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. The unaudited condensed consolidated financial statements include the accounts of Zumiez Inc. and its wholly-owned subsidiaries. All significant intercompany transactions and balances are eliminated in consolidation. In our opinion, the unaudited condensed consolidated financial statements contain all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of the condensed consolidated balance sheets, operating results and cash flows for the periods presented. The financial data at January 28, 2023 is derived from audited consolidated financial statements, which are included in our Annual Report on Form 10-K for the year ended January 28, 2023 , and should be read in conjunction with the audited consolidated financial statements and notes thereto. Interim results are not necessarily indicative of results for the full fiscal year due to seasonality and other factors. Reclassifications— Certain amounts reported in prior years in the financial statements have been reclassified to conform to the current year's presentation. These reclassifications had no effect on the consolidated statements of operations. Use of Estimates— The preparation of financial statements in conformity with U.S. GAAP requires estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements as well as the reported amounts of revenues and expenses during the reporting period. These estimates can also affect supplemental information disclosed by us, including information about contingencies, risk and financial condition. Actual results could differ from these estimates and assumptions. 8 Restricted Cash— Cash and cash equivalents that are restricted as to withdrawal or use under the terms of certain contractual agreements are recorded as restricted cash in other long-term assets on our condensed consolidated balance sheets. The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported within the condensed consolidated balance sheets that sum to the total of the same such amounts shown in the condensed consolidated statement of cash flows (in thousands): April 29, 2023 January 28, 2023 Cash and cash equivalents $ 66,655 $ 81,503 Restricted cash included in other long-term assets 6,968 6,950 Total cash, cash equivalents, and restricted cash as shown in the statement of cash flows $ 73,623 $ 88,453 Restricted cash included in other long-term assets represents amounts held as insurance collateral and collateral for bank guarantees on certain store operating leases. Recent Accounting Standards— We review recent account pronouncements on a quarterly basis and have excluded discussion of those that are not applicable and those that we determined did not have, or are not expected to have, a material impact on the condensed consolidated financial statements. 2. Revenue The following table disaggregates net sales by geographic region (in thousands): Three Months Ended April 29, 2023 April 30, 2022 United States $ 135,549 $ 176,429 Canada 8,434 9,906 Europe 33,511 29,502 Australia 5,393 4,849 Net sales $ 182,887 $ 220,686 Net sales for the three months ended April 29, 2023 included a $ 1.9 million decrease due to the change in foreign exchange rates, which consisted of $ 0.8 million in Europe, $ 0.6 million in Canada and $ 0.5 million in Australia. Our contract liabilities include deferred revenue related to our customer loyalty program and gift cards. The current liability for gift cards was $ 4.0 million at April 29, 2023 and $ 4.9 million at January 28, 2023, respectively. Deferred revenue related to our STASH loyalty program was $ 1.2 million at April 29, 2023 and January 28, 2023 . 3. Cash, Cash Equivalents and Marketable Securities The following tables summarize the estimated fair value of our cash, cash equivalents and marketable securities and the gross unrealized holding gains and losses (in thousands): April 29, 2023 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 33,592 $ — $ — $ 33,592 Money market funds 22,382 — — 22,382 Corporate debt securities 10,683 — ( 2 ) 10,681 Total cash and cash equivalents 66,657 — ( 2 ) 66,655 Marketable securiti U.S. treasury and government agency securities 20,147 — ( 2,945 ) 17,202 Corporate debt securities 57,926 — ( 2,447 ) 55,479 State and local government securities 16,483 — ( 480 ) 16,003 Total marketable securities $ 94,556 $ — $ ( 5,872 ) $ 88,684 9 January 28, 2023 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 30,587 $ — $ — $ 30,587 Money market funds 22,121 — — 22,121 Corporate debt securities 28,802 — ( 7 ) 28,795 Total cash and cash equivalents 81,510 — ( 7 ) 81,503 Marketable securiti U.S. treasury and government agency securities 20,973 — ( 2,891 ) 18,082 Corporate debt securities 60,832 — ( 2,848 ) 57,984 State and local government securities 16,490 — ( 570 ) 15,920 Total marketable securities $ 98,295 $ — $ ( 6,309 ) $ 91,986 All of our marketable securities have an effective maturity date or weighted average life of five years or less at the time of purchase and may be liquidated, at our discretion, prior to maturity. The following tables summarize the gross unrealized holding losses and fair value for investments in an unrealized loss position, and the length of time that individual securities have been in a continuous loss position (in thousands): April 29, 2023 Less Than 12 Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Cash and cash equivalents: Corporate debt securities $ 6,940 $ ( 2 ) $ — $ — $ 6,940 $ ( 2 ) Total cash and cash equivalents 6,940 ( 2 ) — — 6,940 ( 2 ) Marketable securiti U.S. treasury and government agency securities $ 47 $ ( 1 ) $ 17,155 $ ( 2,944 ) $ 17,202 $ ( 2,945 ) Corporate debt securities — — 55,479 ( 2,447 ) 55,479 ( 2,447 ) State and local government securities — — 16,003 ( 480 ) 16,003 ( 480 ) Total marketable securities $ 47 $ ( 1 ) $ 88,637 $ ( 5,871 ) $ 88,684 $ ( 5,872 ) January 28, 2023 Less Than 12 Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Cash and cash equivalents: Corporate debt securities $ 27,099 $ ( 7 ) $ — $ — $ 27,099 $ ( 7 ) Total cash and cash equivalents 27,099 ( 7 ) - - 27,099 ( 7 ) Marketable securiti U.S. treasury and government agency securities 3,682 ( 229 ) 14,399 ( 2,662 ) 18,081 ( 2,891 ) Corporate debt securities 12,044 ( 604 ) 45,940 ( 2,244 ) 57,984 ( 2,848 ) State and local government securities 2,434 ( 50 ) 13,487 ( 520 ) 15,921 ( 570 ) Total marketable securities $ 18,160 $ ( 883 ) $ 73,826 $ ( 5,426 ) $ 91,986 $ ( 6,309 ) 10 4. Leases At April 29, 2023 , we had operating leases for our retail stores, certain distribution and fulfillment facilities, vehicles and equipment. Our remaining lease terms vary from under one month to eleven years , with varying renewal and termination options. The following table presents components of lease expense (in thousands): Three Months Ended April 29, 2023 April 30, 2022 Operating lease expense $ 17,766 $ 18,278 Variable lease expense 3,052 2,134 Total lease expense (1) $ 20,818 $ 20,412 (1) Total lease expense includes short-term lease expense and sublease income which is immaterial to the Company. Total lease expense does not include right-of-use asset impairment charges, common area maintenance charges and other non-lease components. Supplemental cash flow information related to leases is as follows (in thousands): Three Months Ended April 29, 2023 April 30, 2022 Cash paid for amounts included in the measurement of lease liabiliti Operating cash flows from operating leases $ ( 18,609 ) $ ( 18,403 ) Right-of-use assets obtained in exchange for new operating lease liabilities 10,076 30,207 Weighted-average remaining lease term and discount rate were as follows: April 29, 2023 April 30, 2022 Weighted-average remaining lease term 5.0 4.9 Weighted-average discount rate 2.6 % 2.5 % At April 29, 2023, the maturities of our operating leases liabilities are as follows (in thousands): Fiscal 2023 $ 52,943 Fiscal 2024 63,724 Fiscal 2025 45,801 Fiscal 2026 31,402 Fiscal 2027 24,173 Thereafter 43,053 Total minimum lease payments 261,096 L interest ( 14,723 ) Present value of lease obligations 246,373 L current portion ( 63,866 ) Long-term lease obligations (1) $ 182,507 (1) Amounts in the table do not include contingent rent, common area maintenance charges and other non-lease components. At April 29, 2023 , we have excluded from the table above $ 3.0 million of operating leases that were contractually executed, but had not yet commenced. These operating leases are expected to commence by the end of fiscal 2023. 11 5. Commitments and Contingencies Purchase Commitments— At April 29, 2023, we had outstanding purchase orders to acquire merchandise from vendors of $ 183.8 million. We have an option to cancel these commitments with no notice prior to shipment, except for certain private label and international purchase orders in which we are obligated to repay contractual amounts upon cancellation. Litigation— We are involved from time to time in claims, proceedings and litigation arising in the ordinary course of business. We have made accruals with respect to these matters, where appropriate, which are reflected in our condensed consolidated financial statements. For some matters, the amount of liability is not probable or the amount cannot be reasonably estimated and therefore accruals have not been made. We may enter into discussions regarding settlement of these matters, and may enter into settlement agreements, if we believe settlement is in the best interest of our shareholders. On October 14, 2022, former employee Seana Neihart filed a representative action under California’s Private Attorneys General Act, California Labor Code section 2698 et seq (“PAGA”), against us. An answer to the complaint was filed on December 8, 2022. A first amended complaint was filed on February 8, 2023 adding Jessica King as a plaintiff. The lawsuit alleges a series of wage and hour violations under California’s Labor Code. An answer was filed on March 14, 2023. Zumiez has subsequently filed motions to compel the individual claims into arbitration. We continue to investigate the claims and we intend to vigorously defend ourselves. Insurance Reserves— We use a combination of third-party insurance and self-insurance for a number of risk management activities including workers’ compensation, general liability and employee-related health care benefits. We maintain reserves for our self-insured losses, which are estimated based on historical claims experience and actuarial and other assumptions. The self-insurance reserve at April 29, 2023 and January 28, 2023 was $ 2.5 million and $ 2.8 million, respectively. 6. Revolving Credit Facilities and Debt On October 14, 2021, we amended our credit agreement with Wells Fargo Bank, N.A. (previously entered into December 7, 2018), which provided us with a senior secured credit facility (“credit facility”) of up to $ 25.0 million through December 1, 2023, and up to $ 35.0 million after December 1, 2023 and through December 1, 2024. The secured revolving credit facility is available for working capital and other general corporate purposes. The senior secured credit facility provides for the issuance of standby letters of credit in an amount not to exceed $ 17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $ 10.0 million and with terms not to exceed 120 days. The amount of borrowings available at any time under our credit facility is reduced by the amount of standby and commercial letters of credit outstanding at that time. The credit facility will mature on December 1, 2024 . All obligations under the credit facility are joint and several with Zumiez Services and guaranteed by certain of our subsidiaries. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1.35 % per annum. The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. The credit facility contains certain financial maintenance covenants that generally require the Registrant to have net income after taxes of at least $ 5.0 million on a trailing four-quarter basis and a quick ratio of 1.25 :1.0 at the end of each fiscal quarter. The credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. 12 There were no borrowings outstanding under the credit facility at April 29, 2023 or January 28, 2023 . We had open commercial letters of credit outstanding of less than $ 0.1 million under our secured revolving credit facility at April 29, 2023 and no open commercial letters of credit outstanding at January 28, 2023 . We had $ 0.6 million in issued, but undrawn, standby letters of credit at April 29, 2023 and January 28, 2023. Additionally, on October 12, 2020, we entered into a credit facility with UBS Switzerland AG of up to 15.0 million Euro. The credit facility bore interest at 1.25 %. This credit facility was closed on December 30, 2022. 7. Fair Value Measurements We apply the following fair value hierarchy, which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measuremen • Level 1— Quoted prices in active markets for identical assets or liabilities; • Level 2— Quoted prices for similar assets or liabilities in active markets or inputs that are observable; and • Level 3— Inputs that are unobservable. The following tables summarize assets measured at fair value on a recurring basis (in thousands): April 29, 2023 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 22,382 $ — $ — Corporate debt securities — 10,681 — Marketable securiti U.S. treasury and government agency securities — 17,202 — Corporate debt securities — 55,479 — State and local government securities — 16,003 — Other long-term assets: Money market funds 6,968 — — Total $ 29,350 $ 99,365 $ — January 28, 2023 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 22,121 $ — $ — Corporate debt securities — 28,795 — Marketable securiti U.S. treasury and government agency securities — 18,082 — Corporate debt securities — 57,984 — State and local government securities — 15,920 — Other long-term assets: Money market funds 6,950 — — Total $ 29,071 $ 120,781 $ — The Level 2 marketable securities include U.S treasury and government agency securities, corporate debt securities, state and local municipal securities and variable-rate demand notes. Fair values are based on quoted market prices for similar assets or liabilities or determined using inputs that use readily observable market data that are actively quoted and can be validated through external sources, including third-party pricing services, brokers and market transactions. We review the pricing techniques and methodologies of the independent pricing service for Level 2 investments and believe that its policies adequately consider market activity, either based on specific transactions for the security valued or based on modeling of securities with similar credit quality, duration, yield and structure that were recently traded. We monitor security-specific valuation trends and we make inquiries with the pricing service about material changes or the absence of expected changes to understand the underlying factors and inputs and to validate the reasonableness of the pricing. 13 Assets and liabilities recognized or disclosed at fair value on the consolidated financial statements on a nonrecurring basis include items such as fixed assets, operating lease right-of-use-assets, goodwill, other intangible assets and other assets. These assets are measured at fair value if determined to be impaired. During the three months ended April 29, 2023 , we recognized $ 0.2 million in impairment losses related to fixed assets and $ 0.1 million in impairment losses related to operating lease right-of-use assets. During the three months ended April 30, 2022 , we recognized no impairment losses related to operating lease right-of-use assets or fixed assets. 8. Stockholders’ Equity Accumulated Other Comprehensive Loss — The components of accumulated other comprehensive loss and the adjustments to other comprehensive income (loss) for amounts reclassified from accumulated other comprehensive loss into net loss are as follows (in thousands): Foreign currency translation adjustments (2) Net unrealized losses on available-for- sale debt securities Accumulated other comprehensive loss Three months ended April 29, 2023: Balance at January 28, 2023 $ ( 15,101 ) $ ( 4,692 ) $ ( 19,793 ) Other comprehensive income, net (1) 386 330 716 Balance at April 29, 2023 $ ( 14,715 ) $ ( 4,362 ) $ ( 19,077 ) Three months ended April 30, 2022: Balance at January 29, 2022 $ ( 12,505 ) $ ( 958 ) $ ( 13,463 ) Other comprehensive loss, net (1) ( 6,372 ) ( 3,439 ) ( 9,811 ) Balance at April 30, 2022 $ ( 18,877 ) $ ( 4,397 ) $ ( 23,274 ) (1) Other comprehensive income before reclassifications was $ 0.3 million, net of taxes for net unrealized losses on available-for-sale investments for the three months ended April 29, 2023 . Other comprehensive loss before reclassifications was $ 3.4 million, net of taxes for net unrealized losses on available-for-sale investments for the three months ended April 30, 2022 . Net unrealized losses, net of taxes, reclassified from accumulated other comprehensive loss were less than $ 0.1 million for the three months ended April 29, 2023 and April 30, 2022, respectively. (2) Foreign currency translation adjustments are not adjusted for income taxes as they relate to permanent investments in our international subsidiaries. 9. Equity Awards We maintain several equity incentive plans under which we may grant incentive stock options, nonqualified stock options, stock bonuses, restricted stock awards, restricted stock units and stock appreciation rights to employees (including officers), non-employee directors and consultants. We account for stock-based compensation by recording the estimated fair value of stock-based awards granted as compensation expense over the vesting period, net of estimated forfeitures. Stock-based compensation expense is attributed to earnings using a straight-line method. We estimate forfeitures of stock-based awards based on historical experience and expected future activity. The fair value of restricted stock awards and units is measured based on the closing price of our common stock on the date of grant. The fair value of stock option grants is estimated on the date of grant using the Black-Scholes option pricing model. Total stock-based compensation expense is recognized on our condensed consolidated statements of operations as follows (in thousands): Three Months Ended April 29, 2023 April 30, 2022 Cost of goods sold $ 392 $ 344 Selling, general and administrative expenses 1,514 1,356 Total stock-based compensation expense $ 1,906 $ 1,700 14 At April 29, 2023, there was $ 13.2 million of total unrecognized compensation cost related to unvested stock options, restricted stock awards and restricted stock units. This cost has a weighted-average remaining recognition period of 1.3 years. The following table summarizes restricted stock awards and restricted stock units, collectively defined as “restricted equity awards” (in thousands, except grant date weighted-average fair value): Restricted Stock Awards/Units Grant Date Weighted- Average Fair Value Intrinsic Value Outstanding at January 28, 2023 397 $ 33.34 Granted 286 $ 20.64 Vested ( 158 ) $ 29.42 Forfeited ( 5 ) $ 28.05 Outstanding at April 29, 2023 520 $ 27.58 $ 9,098 We had 0.4 million stock options outstanding at April 29, 2023 with a grant date weighted average exercise price of $ 27.23 and 0.3 million stock options outstanding at January 28, 2023 with a grant date weighted average exercise price of $ 29.30 . 10. Loss per Share, Basic and Diluted The following table sets forth the computation of basic and diluted loss per share (in thousands, except per share amounts): Three Months Ended April 29, 2023 April 30, 2022 Net loss $ ( 18,382 ) $ ( 397 ) Weighted average common shares for basic loss per sh 19,197 19,533 Dilutive effect of stock options and restricted stock — — Weighted average common shares for diluted loss per sh 19,197 19,533 Basic loss per share $ ( 0.96 ) $ ( 0.02 ) Diluted loss per share $ ( 0.96 ) $ ( 0.02 ) There were 0.4 million anti-dilutive common shares related to stock-based awards for the three months ended April 29, 2023 and April 30, 2022 , respectively. 15 Item 2: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes included elsewhere in this document. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those discussed in “Item 1A Risk Factors” in our Form 10-K filed with the SEC on March 20, 2023 and in this Form 10-Q. Forward-looking statements relate to our expectations for future events and future financial performance. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. These statements are only predictions. Actual events or results may differ materially. Factors which could affect our financial results are described below under the heading “Risk Factors” and in “Item 1A Risk Factors” of our Form 10-K referred to in the preceding paragraph. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Moreover, neither we nor any other person assume responsibility for the accuracy and completeness of the forward-looking statements. We undertake no duty to update any of the forward-looking statements after the date of this report to conform such statements to actual results or to changes in our expectations. Fiscal 2023 is the 53-week period ending February 3, 2024. Fiscal 2022 was the 52-week period ending January 28, 2023. The first three months of fiscal 2023 was the 13-week period ended April 29, 2023. The first three months of fiscal 2022 was the 13-week period ended April 30, 2022. “Zumiez,” the “Company,” “we,” “us,” “its,” “our” and similar references refer to Zumiez Inc. and its wholly-owned subsidiaries. General Net sales constitute gross sales (net of actual and estimated returns and deductions for promotions) and shipping revenue. Net sales include our store sales and our ecommerce sales. We record the sale of gift cards as a current liability and recognize revenue when a customer redeems a gift card. Additionally, the portion of gift cards that will not be redeemed (“gift card breakage”) is recognized based on our historical redemption rate in proportion to the pattern of rights exercised by the customer. We report “comparable sales” based on net sales beginning on the first anniversary of the first day of operation of a new store or ecommerce business. We operate a sales strategy that integrates our stores with our ecommerce platform. There is significant interaction between our store sales and our ecommerce sales channels and we believe that they are utilized in tandem to serve our customers. Therefore, our comparable sales also include our ecommerce sales. Changes in our comparable sales between two periods are based on net sales of store or ecommerce businesses which were in operation during both of the two periods being compared and, if a store or ecommerce business is included in the calculation of comparable sales for only a portion of one of the two periods being compared, then that store or ecommerce business is included in the calculation for only the comparable portion of the other period. Any increase or decrease less than 25% in square footage of an existing comparable store, including remodels and relocations within the same mall, or temporary closures less than seven days does not eliminate that store from inclusion in the calculation of comparable sales. Any store or ecommerce business that we acquire will be included in the calculation of comparable sales after the first anniversary of the acquisition date. Current year foreign exchange rates are applied to both current year and prior year comparable sales to achieve a consistent basis for comparison. There may be variations in the way in which some of our competitors and other apparel retailers calculate comparable sales. As a result, data herein regarding our comparable sales may not be comparable to similar data made available by our competitors or other retailers. Cost of goods sold consists of branded merchandise costs and our private label merchandise costs including design, sourcing, importing and inbound freight costs. Our cost of goods sold also includes shrinkage, buying, occupancy, distribution and warehousing costs (including associated depreciation) and freight costs for store merchandise transfers. This may not be comparable to the way in which our competitors or other retailers compute their cost of goods sold. Cash consideration received from vendors is reported as a reduction of cost of goods sold if the inventory has sold, a reduction of the carrying value of the inventory if the inventory is still on hand, or a reduction of selling, general and administrative expense if the amounts are reimbursements of specific, incremental and identifiable costs of selling the vendors’ products. With respect to the freight component of our ecommerce sales, amounts billed to our customers are included in net sales and the related freight cost is charged to cost of goods sold. 16 Selling, general and administrative expenses consist primarily of store personnel wages and benefits, administrative staff and infrastructure expenses, freight costs for merchandise shipments from the distribution centers to the stores, store supplies, depreciation on fixed assets at our home office and stores, facility expenses, training expenses and advertising and marketing costs. Credit card fees, insurance, public company expenses, legal expenses, incentive compensation, stock-based compensation and other miscellaneous operating costs are also included in selling, general and administrative expenses. This may not be comparable to the way in which our competitors or other retailers compute their selling, general and administrative expenses. Key Performance Indicators Our management evaluates the following items, which we consider key performance indicators, in assessing our performan Net sales. Net sales constitute gross sales, net of sales returns and deductions for promotions, and shipping revenue. Net sales includes comparable sales and new store sales for all our store and ecommerce businesses. We consider net sales to be an important indicator of our current performance. Net sales results are important to achieve leveraging of our costs, including store payroll and store occupancy. Net sales also have a direct impact on our operating profit, cash and working capital. Gross profit. Gross profit measures whether we are optimizing the price and inventory levels of our merchandise. Gross profit is the difference between net sales and cost of goods sold. Any inability to obtain acceptable levels of initial markups or any significant increase in our use of markdowns could have an adverse effect on our gross profit and results of operations. Operating profit. We view operating profit as a key indicator of our success. Operating profit is the difference between gross profit and selling, general and administrative expenses. The key drivers of operating profit are net sales, gross profit, our ability to control selling, general and administrative expenses and our level of capital expenditures affecting depreciation expense. Diluted earnings per share. Diluted earnings per share is based on the weighted average number of common shares and common share equivalents outstanding during the period. We view diluted earnings per share as a key indicator of our success in increasing shareholder value. Trends and Uncertainties Affecting Our Results and Comparability We have been, and we expect to continue to be affected by a number of factors that may cause actual results to differ from our historical results or current expectations. These factors include the impact of foreign currency rates; changes in laws, including U.S. tax law changes; fluctuations in variable costs, and changes in general economic conditions in the markets in which we operate. Additionally, we have experienced increased costs during 2022 and 2023. Our ability to raise our selling prices depends on market conditions and there may be periods during which we are unable to fully recover increases in our costs or experience an adverse impact on demand due to pricing actions. We believe higher consumer price inflation has resulted in reduced consumer confidence and consumer spending which negatively impacted our sales during fiscal 2022 and the first three months of fiscal 2023. Results of Operations The following table presents selected items on the condensed consolidated statements of operations as a percent of net sal Three Months Ended April 29, 2023 April 30, 2022 Net sales 100.0 % 100.0 % Cost of goods sold 73.0 67.2 Gross profit 27.0 32.8 Selling, general and administrative expenses 38.7 32.6 Operating (loss) profit (11.7 ) 0.2 Interest and other income, net 0.2 0.3 (Loss) earnings before income taxes (11.5 ) 0.5 (Benefit from) provision for income taxes (1.4 ) 0.7 Net loss (10.1 ) % (0.2 ) % 17 Three Months (13 weeks) Ended April 29, 2023 Compared With Three Months (13 weeks) Ended April 30, 2022 Net Sales Net sales were $182.9 million for the three months ended April 29, 2023 compared to $220.7 million for the three months ended April 30, 2022, a decrease of $37.8 million or 17.1%. The decrease in sales was driven by our North America business offset by more favorable results for Europe and Australia. During the quarter the business continued to see softer sales primarily driven by continued inflationary pressures on the consumer. By region, North America sales decreased $42.4 million or 22.7% and other international sales (which consists of Europe and Australia sales) increased $4.6 million or 13.3% for the three months ended April 29, 2023 compared to the three months ended April 30, 2022. Excluding the impact of changes in foreign exchange rates, North America sales decreased $41.8 million or 22.4% and other international sales increased $5.9 million or 17.1% for the three months ended April 29, 2023 compared to the three months ended April 30, 2022. Net sales included a decrease in transactions and an increase in dollars per transaction. Dollars per transaction increased due to an increase in average unit retail, partially offset by a decrease in units per transaction. By category, net sales were primarily driven by a decrease in men’s clothing followed by footwear, accessories, hardgoods, and women’s clothing. Gross Profit Gross profit was $49.4 million for the three months ended April 29, 2023 compared to $72.4 million for the three months ended April 30, 2022, a decrease of $23.0 million, or 31.8%. As a percent of net sales, gross profit decreased 580 basis points for the three months ended April 29, 2023 to 27.0% as we saw significant deleverage on lower sales across our fixed costs as well as rate increases in numerous areas. The decrease was primarily driven by a 290 basis point deleverage in store occupancy costs, a 70 basis point decrease in product margin (defined as net sales minus cost of goods sold excluding shrinkage, buying, occupancy, distribution and warehousing costs and freight costs for store merchandise transfers), a 60 basis point deleverage in web shipping costs, a 50 basis point deleverage in distribution center costs, a 40 basis point increase in buying and private label costs, and a 40 basis point increase in inventory shrinkage. Selling, General and Administrative Expenses Selling, general and administrative (“SG&A”) expenses were $70.7 million for the three months ended April 29, 2023 compared to $71.9 million for the three months ended April 30, 2022, a decrease of $1.2 million, or 1.6%. SG&A expenses as a percent of net sales increased 610 basis points for the three months ended April 29, 2023 to 38.7%. The increase was primarily driven by 270 basis points due to store wages tied to both deleverage on lower sales as well as rate increase that we could not offset by reduction of hours, 180 basis points due to a decrease in government subsidies related to a one-time German government subsidy received in the first quarter of fiscal 2022, 160 basis points due to store costs not tied to wages primarily impacted by deleverage on lower sales, 90 basis points in non-store wages, 20 basis points in stock compensation expenses, 20 basis points in annual incentive compensation, and 20 basis points in other corporate costs. These increases were partially offset by a 150 basis point decrease in events as our important 100K event was held in the prior year first quarter but not in the current year first quarter. Net Loss Net loss for the three months ended April 29, 2023 was $18.4 million, or $0.96 loss per diluted share, compared with net loss of $0.4 million, or $0.02 loss per diluted share, for the three months ended April 30, 2022. Our effective income tax rate for the three months ended April 29, 2023 was a 12.6% benefit from income taxes compared to a 134.2% provision for income taxes for the three months ended April 30, 2022. The decrease in effective income tax rate was primarily due to an increase in net losses and the allocation of those losses across the jurisdictions that we operate. Liquidity and Capital Resources Our primary uses of cash are for operational expenditures, inventory purchases and capital investments, including new stores, store remodels, store relocations, store fixtures and ongoing infrastructure improvements. Additionally, we may use cash for the repurchase of our common stock. Historically, our main source of liquidity has been cash flows from operations. The significant components of our working capital are inventories and liquid assets such as cash, cash equivalents, current marketable securities and receivables, reduced by accounts payable, accrued payroll and accrued expenses. Our working capital position benefits from the fact that we generally collect cash from sales to customers the same day or within several days of the related sale, while we typically have longer payment terms with our vendors. 18 Our capital requirements include construction and fixture costs related to the opening of new stores and remodel and relocation expenditures for existing stores. Future capital requirements will depend on many factors, including the pace of new store openings, the availability of suitable locations for new stores and the nature of arrangements negotiated with landlords. Our net investment to open a new store has varied significantly in the past due to a number of factors, including the geographic location and size of the new store, and is likely to vary significantly in the future. During fiscal 2023, we expect to spend approximately $20 million to $22 million on capital expenditures, a majority of which will relate to leasehold improvements and fixtures for the approximately 23 new stores we remain on track to open in fiscal 2023 and remodels or relocations of existing stores. There can be no assurance that the number of stores that we actually open in fiscal 2023 will not be different from the number of stores we plan to open, or that actual fiscal 2023 capital expenditures will not differ from our expectations. Operating Activities Net cash from operating activities increased by $11.6 million to $12.9 million used in operating activities for the three months ended April 29, 2023 from $24.5 million used in operating activities for the three months ended April 30, 2022. Net cash used in operating activities was $12.9 million for the three months ended April 29, 2023 related to $15.9 million in unfavorable changes in our operating assets and liabilities and a $18.4 million net loss, excluding $21.4 million of noncash charges included within net loss for the period. Net cash used in operating activities was $24.5 million for the three months ended April 30, 2022 related to $49.5 million in unfavorable changes in our operating assets and liabilities and a $0.4 million net loss, excluding $25.4 million of noncash charges included within net loss for the period. Our operating cash flows generally result primarily from cash received from our customers, offset by cash payments we make for inventory, employee compensation, store occupancy expenses and other operational expenditures. Cash received from our customers generally corresponds to our net sales. Because our customers primarily use credit cards or cash to buy from us, our receivables from customers settle quickly. Historically, changes to our operating cash flows have been driven primarily by changes in operating income, which is impacted by changes to non-cash items such as depreciation, amortization and accretion, deferred taxes, and changes to the components of working capital. Investing Activities Net cash used in investing activities was $1.7 million for the three months ended April 29, 2023 related to $5.4 million of capital expenditures primarily for new store openings and existing store remodels or relocations, partially offset by $3.7 million in net sales of marketable securities. Net cash provided by investing activities was $58.6 million for the three months ended April 30, 2022, related to $62.1 million in net sales of marketable securities, partially offset by $3.6 million of capital expenditures primarily for new store openings and existing store remodels or relocations. Financing Activities Net cash used provided by financing activities for the three months ended April 29, 2023 was $0.3 million, related $0.5 million in proceeds from the issuance and exercise of stock-based awards, partially offset by $0.2 million in payments for tax withholding obligations upon vesting of restricted stock. Net cash used in financing activities for the three months ended April 30, 2022 was $87.5 million, related to $87.9 million used in the repurchase of common stock and $0.4 million in payments for tax withholding obligations upon vesting of restricted stock, partially offset by $0.8 million in proceeds from the issuance and exercise of stock-based awards. Sources of Liquidity Our most significant sources of liquidity continue to be funds generated by operating activities and available cash, cash equivalents and current marketable securities. We expect these sources of liquidity and available borrowings under our revolving credit facility will be sufficient to meet our foreseeable cash requirements for operations and planned capital expenditures for at least the next twelve months. Beyond this time frame, if cash flows from operations are not sufficient to meet our capital requirements, then we will be required to obtain additional equity or debt financing in the future. However, there can be no assurance that equity or debt financing will be available to us when we need it or, if available, that the terms will be satisfactory to us and not dilutive to our then-current shareholders. 19 We maintain a secured credit agreement with Wells Fargo Bank, N.A., which provided us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024. The credit facility is available for working capital and other general corporate purposes. The credit facility provides for the issuance of standby letters of credit in an amount not to exceed $17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $10.0 million and with terms not to exceed 120 days. The credit facility will mature on December 1, 2024. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1.35% per annum. We had open commercial letters of credit outstanding of less than $0.1 million at April 29, 2023 and no open commercial letters of credit outstanding at January 28, 2023. We had $0.6 million in issued, but undrawn, standby letters of credit at April 29, 2023 and January 28, 2023. At April 29, 2023 , we did not have any “off-balance sheet arrangements” as defined in relevant SEC regulations that are reasonably likely to have a current or future effect on our financial condition, results of operation, liquidity, capital expenditures or capital resources. Critical Accounting Estimates Our condensed consolidated financial statements are prepared in accordance with U.S. GAAP. In connection with the preparation of our condensed consolidated financial statements, we are required to make assumptions and estimates about future events and apply judgments that affect the reported amounts of assets, liabilities, revenue, expenses and the related disclosures. We base our assumptions, estimates and judgments on historical experience, current trends and other factors that we believe to be relevant at the time our condensed consolidated financial statements are prepared. On a regular basis, we review the accounting policies, assumptions, estimates and judgments to ensure that our condensed consolidated financial statements are presented fairly and in accordance with U.S. GAAP. However, because future events and their effects cannot be determined with certainty, actual results could differ from our assumptions and estimates, and such differences could be material. There have been no significant changes to our critical accounting estimates as discussed in our Annual Report on Form 10-K for the fiscal year ended January 28, 2023. 20 Risk Factors Investing in our securities involves a high degree of risk. The following risk factors, issues and uncertainties should be considered in evaluating our future prospects. In particular, keep these risk factors in mind when you read “forward-looking” statements elsewhere in this report. Forward-looking statements relate to our expectations for future events and time periods. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. Any of the following risks could harm our business, operating results or financial condition and could result in a complete loss of your investment. Additional risks and uncertainties that are not yet identified or that we currently think are immaterial may also harm our business and financial condition in the future. U.S. and global economic and political uncertainty, coupled with cyclical economic trends in retailing, could have a material adverse effect on our results of operations. Our retail market historically has been subject to substantial cyclicality. As the U.S. and global economic and political conditions change, the trends in discretionary consumer spending become unpredictable and discretionary consumer spending could be reduced due to uncertainties about the future. Economic and consumer confidence can also be affected by a variety of factors, including housing prices, unemployment rates and inflation. Sustained levels of inflation, rising interest rates, significant U.S. dollar and foreign currency fluctuations, lower consumer confidence, depressed consumer spending, higher levels of consumer debt, geopolitical instability, economic uncertainty, slower growth or a recession, volatility in the stock market, and other disruptions impacting the retail industry could adversely impact demand for our services. When disposable income decreases or discretionary consumer spending is reduced due to a decline in consumer confidence, purchases of apparel and related products may decline. A deterioration in macroeconomic conditions or consumer confidence or uncertainty in the U.S. and global economies and political environment could have a material adverse impact on our results of operations and financial position. In times when there is a decline in disposable income and consumer confidence, there could be a trend to consumers seeking more inexpensive or value-oriented merchandise. As a retailer that sells a substantial majority of branded merchandise, this could disproportionately impact us more than vertically integrated private label retailers or we may be forced to rely on promotional sales to compete in our market which could have a material adverse effect on our financial position. The novel coronavirus (COVID-19) global pandemic could continue to have a material impact on our business. Since being declared a pandemic by the World Health Organization in March 2020, COVID-19 has negatively impacted global economies, disrupted consumer spending and global supply chains, and created significant volatility and disruption of financial markets. The COVID-19 global pandemic could continue to have a material impact on our business, including our results of operations, financial condition and liquidity. The duration and severity of the COVID-19 pandemic will determine its ongoing impact on our business, including our ability to execute business strategies and initiatives in their expected time frame, the effect on our suppliers and disruptions to the global supply chain, and the ability of our customers to pay for our services and products. A resurgence in the spread of COVID-19, or its variants, could force the closure of our retail stores globally, as we saw in the first quarter of 2020. We could also experience store closures on a regional basis, like we have seen in 2020 and 2021. We may face long term store closure requirements and other operational restrictions with respect to some or all of our physical locations for prolonged periods of time due to, among other factors, evolving and increasingly stringent governmental restrictions, public health directives, quarantine policies, or social distancing measures, resulting in a materially adverse impact to our financial results. With store closures withstanding, consumer fears about becoming ill with the virus may persist, adversely affecting traffic to our stores. Consumer spending may also be negatively impacted by general economic downturn and decreased consumer confidence resulting from the COVID-19 global pandemic. This may negatively impact sales in our stores and our ecommerce channel. The potential reduction in consumer visits to our stores, caused by COVID-19, and any decreased spending at retail stores or online caused by a lack of consumer confidence and spending following the pandemic, could result in a loss of sales and profits. A rise in the spread of COVID-19 also has the potential to significantly impact our supply chain if manufacturers of our products, distribution centers where we manage our inventory, or operations of our logistics and other service providers are disrupted, temporarily closed or experience worker shortages. Due to the seasonality of our business, widespread closures during peak shopping periods could disproportionally impact financial results. The inability to effectively adapt to changes in consumer behavior could result in excess inventory and adversely impact financial results. We may experience adverse effects of prolonged operating restrictions related to in-person marketing and training events. 21 The COVID-19 pandemic’s impact on macroeconomic conditions could alter the functioning of financial and capital markets, foreign currency exchange rates, commodity prices, and interest rates. After the COVID-19 global pandemic has settled, we may continue to experience adverse impacts to our business as a result of evolving macroeconomic factors, including general economic uncertainty, unemployment rates, high inflation, recessionary pressures and any actual economic recession that has occurred or may occur in the future. The extent of the impact of the COVID-19 global pandemic on our business remains uncertain and difficult to predict, given the innumerable unknowns regarding the duration and severity of the pandemic. Failure to anticipate, identify and respond to changing fashion trends, customer preferences and other fashion-related factors could have a material adverse effect on us. Customer tastes and fashion trends in our market are volatile and tend to change rapidly. Our success depends on our ability to effectively anticipate, identify and respond to changing fashion tastes and consumer preferences, and to translate market trends into appropriate, saleable product offerings in a timely manner. If we are unable to successfully anticipate, identify or respond to changing styles or trends and misjudge the market for our products or any new product lines, including adequately anticipating the correct mix and trends of our private label merchandise, our sales may be lower than predicted and we may be faced with a substantial amount of unsold inventory or missed opportunities. In response to such a situation, we may be forced to rely on markdowns or promotional sales to dispose of excess or slow-moving inventory, which could have a material adverse effect on our results of operations. We may be unable to compete favorably in the highly competitive retail industry, and if we lose customers to our competitors, our sales could decrease. The teenage and young adult retail apparel, footwear, accessories and hardgoods industry is highly competitive. We compete with other retailers for vendors, teenage and young adult customers, suitable store locations, qualified store associates, management personnel, online marketing content, social media engagement and ecommerce traffic. Some of our competitors are larger than we are and have substantially greater financial and marketing resources, including advanced ecommerce market capabilities. Additionally, some of our competitors may offer more options for free and/or expedited shipping for ecommerce sales. Direct competition with these and other retailers may increase significantly in the future, which could require us, among other things, to lower our prices and could result in the loss of our customers. Current and increased competition could have a material adverse effect on our business, results of operations and financial condition. Most of our merchandise is produced by foreign manufacturers; therefore, the availability, quality and costs of our merchandise may be negatively affected by risks associated with international trade and other international conditions. Most of our merchandise is produced by manufacturers around the world. Some of these facilities are located in regions that may be affected by natural disasters, public health concerns, or emergencies, such as COVID-19 and other communicable diseases or viruses, political instability or other conditions that could cause a disruption in trade. Trade restrictions such as increased tariffs or quotas, or both, could also increase the cost and reduce the supply of merchandise available to us. Any reduction in merchandise available to us or any increase in its cost due to tariffs, quotas or local issues that disrupt trade could have a material adverse effect on our results of operations. This includes costs to comply with regulatory developments regarding the use of “conflict minerals,” certain minerals originating from the Democratic Republic of Congo and adjoining countries, which may affect the sourcing and availability of raw materials used by manufacturers and subject us to increased costs associated with our products, processes or sources of our inputs. Our business could be adversely affected by disruptions in the supply chain, such as strikes, work stoppages, or port closures. 22 A decrease in consumer traffic could cause our sales to be less than expected. We depend heavily on generating customer traffic to our stores and websites. This includes locating many of our stores in prominent locations within successful shopping malls. Sales at these stores are derived, in part, from the volume of traffic in those malls. Our stores benefit from the ability of a mall’s “anchor” tenants, generally large department stores and other area attractions, to generate consumer traffic in the vicinity of our stores and the continuing popularity of malls as shopping destinations. In addition, some malls that were in prominent locations when we opened our stores may cease to be viewed as prominent. If this trend continues or if the popularity of mall shopping continues to decline generally among our customers, our sales may decline, which would impact our results of operations. Additionally, we may experience other risks associated with operating leases, such as lease termination or impairment of operating lease right-of-use assets. These risks may include circumstances that are not within our control, such as changes in fair market rent. Furthermore, we depend on generating increased traffic to our ecommerce business and converting that traffic into sales. This requires us to achieve expected results from our marketing and social media campaigns, accuracy of data analytics, reliability of our website, network, and transaction processing and a high-quality online customer experience. Our sales volume and customer traffic in our stores and on our websites generally could be adversely affected by, among other things, economic downturns, competition from other ecommerce retailers, non-mall retailers and other malls, increases in gasoline prices, fluctuations in exchange rates in border or tourism-oriented locations and the closing or decline in popularity of other stores in the malls in which we are located. Also, geopolitical events, including the threat of terrorism, or widespread health emergencies, such as COVID-19 and other communicable diseases, viruses, or pandemics, could cause people to avoid our stores in shopping malls and alter consumer trends. An uncertain economic outlook or continued bankruptcies of mall-based retailers could curtail new shopping mall development, decrease shopping mall and ecommerce traffic, reduce the number of hours that shopping mall operators keep their shopping malls open or force them to cease operations entirely. A reduction in consumer traffic to our stores or websites could have a material adverse effect on our business, results of operations and financial condition. Our growth strategy depends on our ability to grow customer engagement in our current markets and expand into new markets, which could strain our resources and cause the performance of our existing business to suffer. Our growth largely depends on our ability to optimize our customer engagement in our current trade areas and operate successfully in new geographic markets. However, our ability to open stores in new geographic markets, including international locations, is subject to a variety of risks and uncertainties, and we may be unable to open new stores as planned or have access to desirable lease space, and any failure to successfully open and operate in new markets could have a material adverse effect on our results of operations. We intend to continue to open new stores in future years, while remodeling a portion of our existing store base such that we have the optimum number of stores in any given trade area. The expansion into new markets may present competitive, merchandising, hiring and distribution challenges that are different from those currently encountered in our existing markets. In addition, our proposed expansion will place increased demands on our operational, managerial and administrative resources. These increased demands could cause us to operate our business less effectively, which in turn could cause deterioration in the financial performance of our individual stores and our overall business. In addition, successful execution of our growth strategy may require that we obtain additional financing, and we may not be able to obtain that financing on acceptable terms or at all. Failure to successfully integrate any businesses that we acquire could have an adverse impact on our results of operations and financial performance. We may, from time to time, acquire businesses, such as our acquisition of Blue Tomato and Fast Times. We may experience difficulties in integrating any businesses we may acquire, including their stores, websites, facilities, personnel, financial systems, distribution, operations and general operating procedures, and any such acquisitions may also result in the diversion of our capital and our management’s attention from other business issues and opportunities. If we experience difficulties in integrating acquisitions or if such acquisitions do not provide the benefits that we expect to receive, we could experience increased costs and other operating inefficiencies, which could have an adverse effect on our results of operations and overall financial performance. Our plans for international expansion include risks that could have a negative impact on our results of operations. We plan to continue to open new stores in the Canadian, European, and Australian markets. We may continue to expand internationally into other markets, either organically, or through additional acquisitions. International markets may have different competitive conditions, consumer tastes and discretionary spending patterns than our existing U.S. market. As a result, operations in international markets may be less successful than our operations in the U.S. Additionally, consumers in international markets may not be familiar with us or the brands we sell, and we may need to build brand awareness in the markets. Furthermore, we have limited experience with the legal and regulatory environments and market practices in new international markets and cannot guarantee that we will be able to penetrate or successfully operate in these new international markets. We also expect to incur additional costs in complying with applicable foreign laws and regulations as they pertain to both our products and our operations. Accordingly, for the reasons noted above, our plans for international expansion include risks that could have a negative impact on our results of operations. 23 Our sales and inventory levels fluctuate on a seasonal basis. Accordingly, our quarterly results of operations are volatile and may fluctuate significantly. Our quarterly results of operations have fluctuated significantly in the past and can be expected to continue to fluctuate significantly in the future. Our sales and profitability are typically disproportionately higher in the third and fourth fiscal quarters of each fiscal year due to increased sales during the back-to-school and winter holiday shopping seasons. Sales during these periods cannot be used as an accurate indicator of annual results. As a result of this seasonality, any factors negatively affecting us during the last half of the year, including unfavorable economic conditions, adverse weather or our ability to acquire seasonal merchandise inventory, could have a material adverse effect on our financial condition and results of operations for the entire year. In addition, in order to prepare for the back-to-school and winter holiday shopping seasons, we must order and keep in stock significantly more merchandise than we carry during other times of the year. Any unanticipated decrease in demand for our products during these peak shopping seasons could require us to sell excess inventory at a substantial markdown, which could have a material adverse effect on our business, results of operations and financial condition. Our quarterly results of operations are affected by a variety of other factors, includin • the timing of new store openings and the relative proportion of our new stores to mature stores; • whether we are able to successfully integrate any new stores that we acquire and the presence of any unanticipated liabilities in connection therewith; • fashion trends and changes in consumer preferences; • calendar shifts of holiday or seasonal periods; • changes in our merchandise mix; • timing of promotional events; • general economic conditions and, in particular, the retail sales environment; • actions by competitors or mall anchor tenants; • weather conditions; • the level of pre-opening expenses associated with our new stores; and • inventory shrinkage beyond our historical average rates. If our information systems fail to function effectively or do not scale to keep pace with our planned growth, our operations could be disrupted and our financial results could be harmed. If our information systems, including hardware and software, do not work effectively, this could adversely impact the promptness and accuracy of our transaction processing, financial accounting and reporting and our ability to manage our business and properly forecast operating results and cash requirements. Additionally, we rely on third-party service providers for certain information systems functions. If a service provider fails to provide the data quality, communications capacity or services we require, the failure could interrupt our services and could have a material adverse effect on our business, financial condition and results of operations. To manage the anticipated growth of our operations and personnel, we may need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. 24 If we fail to meet the requirements to adequately maintain the privacy and security of our personal data and business information, we may be subjected to adverse publicity, litigation and significant expenses. Information systems are susceptible to an increasing threat of continually evolving cybersecurity risks. If we fail to maintain or adequately maintain security systems, devices and activity monitoring to prevent unauthorized access to our network, systems and databases containing confidential, proprietary, and personally identifiable information, we may be subject to additional risk of adverse publicity, litigation or significant expense. Nevertheless, if unauthorized parties gain access to our networks, systems or databases, they may be able to steal, publish, delete or modify confidential information. In such circumstances, we could be held liable to our customers or other parties or be subject to regulatory or other actions for breaching privacy rules and we may be exposed to reputation damage and loss of customers’ trust and business. This could result in costly investigations and litigation, civil or criminal penalties and adverse publicity that could adversely affect our financial condition, results of operations and reputation. Actual or anticipated attacks may cause us to incur increasing costs, including costs to deploy additional resources, train employees, and engage third-parties. Further, the regulatory environment surrounding information security, cybersecurity and privacy is increasingly demanding. If we are unable to comply with the new and changing security standards, we may be subject to fines, restrictions and financial exposure, which could adversely affect our retail operations. Significant fluctuations and volatility in the cost of raw materials, global labor, shipping and other costs related to the production of our merchandise may have a material adverse effect on our business, results of operations and financial conditions. Increases in the cost of raw materials, global labor costs, freight costs and other shipping costs in the production and transportation of our merchandise can result in higher costs for this merchandise. The costs for these products are affected by weather, consumer demand, government regulation, speculation on the commodities market and other factors that are generally unpredictable and beyond our control. Our gross profit and results of operations could be adversely affected to the extent that the selling prices of our products do not increase proportionately with the increases in the costs of raw materials. Increasing labor costs and oil-related product costs, such as manufacturing and transportation costs, could also adversely impact gross profit. Additionally, significant changes in the relationship between carrier capacity and shipper demand could increase transportation costs, which could also adversely impact gross profit. Fluctuations in foreign currency exchange rates could impact our financial condition and results of operations. We are exposed to foreign currency exchange rate risk with respect to our sales, profits, assets and liabilities denominated in currencies other than the U.S. dollar. As a result, the fluctuation in the value of the U.S. dollar against other currencies could have a material adverse effect on our results of operations, financial condition and cash flows. Upon translation, operating results may differ materially from expectations. As we continue to expand our international operations, our exposure to exchange rate fluctuations will increase. Tourism spending may be affected by changes in currency exchange rates, and as a result, sales at stores with higher tourism traffic may be adversely impacted by fluctuations in currency exchange rates. Further, although the prices charged by vendors for the merchandise we purchase are primarily denominated in U.S. dollars, a decline in the relative value of the U.S. dollar to foreign currencies could lead to increased merchandise costs, which could negatively affect our competitive position and our results of operations. Our business could be adversely affected by increased labor costs, including costs related to an increase in minimum wage and health care. Labor is one of the primary components in the cost of operating our business. Increased labor costs, whether due to competition, unionization, increased minimum wage, state unemployment rates, health care, mandated safety protocols, or other employee benefits costs may adversely impact our operating profit. A considerable amount of our store team members are paid at rates related to the federal or state minimum wage and any changes to the minimum wage rate may increase our operating expenses. Furthermore, inconsistent increases in state and or city minimum wage requirements limit our ability to increase prices across all markets and channels. Additionally, we are self-insured with respect to our health care coverage in the U.S. and do not purchase third party insurance for the health insurance benefits provided to employees with the exception of pre-defined stop loss coverage, which helps limit the cost of large claims. There is no assurance that future health care legislation will not adversely impact our results or operations. 25 Our business could suffer if a manufacturer fails to use acceptable labor and environmental practices. We do not control our vendors or the manufacturers that produce the products we buy from them, nor do we control the labor and environmental practices of our vendors and these manufacturers. The violation of labor, safety, environmental and/or other laws and standards by any of our vendors or these manufacturers, or the divergence of the labor and environmental practices followed by any of our vendors or these manufacturers from those generally accepted as ethical in the U.S., could interrupt, or otherwise disrupt, the shipment of finished products to us or damage our reputation. Any of these, in turn, could have a material adverse effect on our reputation, financial condition and results of operations. In that regard, most of the products we sell are manufactured internationally, primarily in Asia, Mexico and Central America, which may increase the risk that the labor and environmental practices followed by the manufacturers of these products may differ from those considered acceptable in the U.S. Additionally, our products are subject to regulation of and regulatory standards set by various governmental authorities with respect to quality and safety. These regulations and standards may change from time to time. Our inability to comply on a timely basis with regulatory requirements could result in significant fines or penalties, which could adversely affect our reputation and sales. Issues with the quality and safety of merchandise we sell, regardless of our culpability, or customer concerns about such issues, could result in damage to our reputation, lost sales, uninsured product liability claims or losses, merchandise recalls and increased costs. If we fail to develop and maintain good relationships with vendors or if a vendor is otherwise unable or unwilling to supply us with adequate quantities of their products at acceptable prices, our business and financial performance could suffer. Our business is dependent on developing and maintaining good relationships with a large number of vendors to provide our customers with an extensive selection of current and relevant brands. In addition to maintaining our large number of current vendor relationships, each year we are identifying, attracting and launching new vendors to provide a diverse and unique product assortment. We believe that we generally are able to obtain attractive pricing and terms from vendors because we are perceived as a desirable customer, and deterioration in our relationship with our vendors could have a material adverse effect on our business. However, there can be no assurance that our current vendors or new vendors will provide us with an adequate supply or quality of products or acceptable pricing. Our vendors could discontinue selling to us, raise the prices they charge, sell through direct channels or allow their merchandise to be discounted by other retailers. There can be no assurance that we will be able to acquire desired merchandise in sufficient quantities on terms acceptable to us in the future. In addition, certain vendors sell their products directly to the retail market and therefore compete with us directly and other vendors may decide to do so in the future. There can be no assurance that such vendors will not decide to discontinue supplying their products to us, supply us only less popular or lower quality items, raise the prices they charge us or focus on selling their products directly. In addition, a number of our vendors are smaller, less capitalized companies and are more likely to be impacted by unfavorable general economic and market conditions than larger and better capitalized companies. These smaller vendors may not have sufficient liquidity during economic downturns to properly fund their businesses and their ability to supply their products to us could be negatively impacted. Any inability to acquire suitable merchandise at acceptable prices, or the loss of one or more key vendors, could have a material adverse effect on our business, results of operations and financial condition. Our business is susceptible to weather conditions that are out of our control, including the potential risks of unpredictable weather patterns and any weather patterns associated with naturally occurring global climate change, and the resultant unseasonable weather could have a negative impact on our results of operations. Our business is susceptible to unseasonable weather conditions. For example, extended periods of unseasonably warm temperatures during the winter season or cool weather during the summer season (including any weather patterns associated with global warming and cooling) could render a portion of our inventory incompatible with those unseasonable conditions. These prolonged unseasonable weather conditions could have a material adverse effect on our business and results of operations. 26 Our omni-channel strategy may not have the return we anticipate, which could have an adverse effect on our results of operations. We are executing an omni-channel strategy to enable our customers to shop wherever, whenever and however they choose to engage with us. Our omni-channel strategy may not deliver the results we anticipate or may not adequately anticipate changing consumer trends, preferences and expectations. We will continue to develop additional ways to execute our superior omni-channel experience and interact with our customers, which requires significant investments in IT systems and changes in operational strategy, including localization, online and in-store point of sale systems, order management system, and transportation management system. If we fail to effectively integrate our store and ecommerce shopping experiences, effectively scale our IT structure or we do not realize the return on our investments that we anticipate our operating results could be adversely affected. Our competitors are also investing in omni-channel initiatives. If our competitors are able to be more effective in their strategy, it could have an adverse effect on our results of operations. If we our omni-channel strategy fails to meet customer expectations related to functionality, timely delivery, or customer experience, our business and results of operations may be adversely affected. Additionally, to manage the anticipated growth of our operations and personnel, we will need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. If we lose key executives or are unable to attract and retain the talent required for our business, our financial performance could suffer. Our performance depends largely on the efforts and abilities of our key executives. If we lose the services of one or more of our key executives, we may not be able to successfully manage our business or achieve our growth objectives. Furthermore, as our business grows, we will need to attract and retain additional qualified personnel in a timely manner and we may not be able to do so. Failure to meet our staffing needs could adversely affect our ability to implement our growth strategy and could have a material impact on our results of operations. Our success depends in part upon our ability to attract, motivate and retain a sufficient number of qualified employees who understand and appreciate our culture and brand and are able to adequately represent this culture. Qualified individuals of the requisite caliber, skills and number needed to fill these positions may be in short supply in some areas and the employee turnover rate in the retail industry is high. Our business depends on the ability to hire and retain qualified technical and support roles for procurement, distribution, ecommerce and back office functions. Competition for qualified employees in these areas could require us to pay higher wages to attract a sufficient number of suitable employees. If we are unable to hire and retain store managers and store associates capable of consistently providing a high level of customer service, as demonstrated by their enthusiasm for our culture and knowledge of our merchandise, our ability to open new stores may be impaired and the performance of our existing and new stores could be materially adversely affected. We are also dependent upon temporary personnel to adequately staff our operations particularly during busy periods such as the back-to-school and winter holiday seasons. There can be no assurance that we will receive adequate assistance from our temporary personnel, or that there will be sufficient sources of temporary personnel. If we are unable to hire qualified temporary personnel, our results of operations could be adversely impacted. Although none of our employees are currently covered by collective bargaining agreements, we cannot guarantee that our employees will not elect to be represented by labor unions in the future, which could increase our labor costs and could subject us to the risk of work stoppages and strikes. Any such failure to meet our staffing needs, any material increases in employee turnover rates, any increases in labor costs or any work stoppages, interruptions or strikes could have a material adverse effect on our business or results of operations. A decline in cash flows from operations could have a material adverse effect on our business and growth plans. We depend on cash flow from operations to fund our current operations and our growth strategy, including the payment of our operating leases, wages, store operation costs and other cash needs. If our business does not generate sufficient cash flow from operating activities, and sufficient funds are not otherwise available to us from borrowings under our credit facility or from other sources, we may not be able to pay our operating lease expenses, grow our business, respond to competitive challenges or fund our other liquidity and capital needs, which could have a material adverse effect on our business. 27 The terms of our secured credit agreement impose certain restrictions on us that may impair our ability to respond to changing business and economic conditions, which could have a significant adverse impact on our business. Additionally, our business could suffer if our ability to acquire financing is reduced or eliminated. We maintain a secured credit agreement with Wells Fargo Bank, N.A., which provides us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024. The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. The credit facility contains certain financial maintenance covenants that generally require us to have net income after taxes of at least $5.0 million on a trailing four-quarter basis and a quick ratio of 1.25:1.0 at the end of each fiscal quarter. These restrictions could (1) limit our ability to plan for or react to market conditions or meet capital needs or otherwise restrict our activities or business plans; and (2) adversely affect our ability to finance our operations, strategic acquisitions, investments or other capital needs or to engage in other business activities that would be in our interest. The credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. Additionally, we cannot be assured that our borrowing relationship with our lenders will continue or that our lenders will remain able to support their commitments to us in the future. Several bank failures have occurred during 2023 and it is possible that other banks will face similar difficulty in the future. Although we do not maintain any direct deposit accounts, credit agreements or letters of credit with any financial institution currently in receivership, we are unable to predict the extent or nature of the impacts of these evolving circumstances at this time. Additionally, U.S. debt ceiling and budget deficit concerns have increased the possibility of credit rating downgrades, or a recession in the U.S. Although U.S. lawmakers have passed legislation to raise the federal debt ceiling on multiple occasions, including in June 2023, ratings agencies have threatened to lower the long-term sovereign credit rating on the United States. The impact of the increased debt ceiling and/or downgrades to the U.S. government's sovereign credit rating or its perceived creditworthiness could adversely affect the U.S. and global financial markets and economic conditions. If our lenders fail, then we may not be able to secure alternative financing on commercially reasonable terms, or at all. Our business could suffer with the closure or disruption of our home office or our distribution centers. In the U.S., we rely on a single distribution center located in Corona, California to receive, store and distribute the vast majority of our merchandise to our domestic stores. Internationally, we operate a combined distribution and ecommerce fulfillment center located in Graz, Austria that supports our Blue Tomato ecommerce and store operations in Europe. We operate a distribution center located in Delta, British Columbia, Canada to distribute our merchandise to our Canadian stores. We operate a distribution and ecommerce fulfillment center located in Melbourne, Australia to distribute our merchandise to our Australian stores. Additionally, we are headquartered in Lynnwood, Washington. As a result, unforeseen events, including war, terrorism, other political instability or conflicts, riots, public health issues (including widespread/pandemic illnesses such as coronavirus and other communicable diseases or viruses), a natural disaster or other catastrophic event that affects one of the regions where we operate these centers or our home office could significantly disrupt our operations and have a material adverse effect on our business, results of operations and financial condition. The effects of war, acts of terrorism, threat of terrorism, or other types of mall violence, could adversely affect our business. Most of our stores are located in shopping malls. Any threat of terrorist attacks or actual terrorist events, or other types of mall violence, such as shootings or riots, could lead to lower consumer traffic in shopping malls. In addition, local authorities or mall management could close shopping malls in response to security concerns. Mall closures, as well as lower consumer traffic due to security concerns, could result in decreased sales. Additionally, the threat, escalation or commencement of war or other armed conflict elsewhere, could significantly diminish consumer spending, and result in decreased sales. Decreased sales could have a material adverse effect on our business, financial condition and results of operations. 28 Our inability or failure to protect our intellectual property or our infringement of other’s intellectual property could have a negative impact on our operating results. We believe that our trademarks and domain names are valuable assets that are critical to our success. The unauthorized use or other misappropriation of our trademarks or domain names could diminish the value of the Zumiez, Blue Tomato, or Fast Times brands, our store concepts, our private label brands or our goodwill and cause a decline in our net sales. Although we have secured or are in the process of securing protection for our trademarks and domain names in a number of countries outside of the U.S., there are certain countries where we do not currently have or where we do not currently intend to apply for protection for certain trademarks. Also, the efforts we have taken to protect our trademarks may not be sufficient or effective. Therefore, we may not be able to prevent other persons from using our trademarks or domain names outside of the U.S., which also could adversely affect our business. We are also subject to the risk that we may infringe on the intellectual property rights of third parties. Any infringement or other intellectual property claim made against us, whether or not it has merit, could be time-consuming, result in costly litigation, cause product delays or require us to pay royalties or license fees. As a result, any such claim could have a material adverse effect on our operating results. Our operations expose us to the risk of litigation, which could lead to significant potential liability and costs that could harm our business, financial condition or results of operations. We employ a substantial number of full-time and part-time employees, a majority of whom are employed at our store locations. As a result, we are subject to a large number of federal, state and foreign laws and regulations relating to employment. This creates a risk of potential claims that we have violated laws related to discrimination and harassment, health and safety, wage and hour laws, criminal activity, personal injury and other claims. We are also subject to other types of claims in the ordinary course of our business. Some or all of these claims may give rise to litigation, which could be time-consuming for our management team, costly and harmful to our business. In addition, we are exposed to the risk of class action litigation. The costs of defense and the risk of loss in connection with class action suits are greater than in single-party litigation claims. Due to the costs of defending against such litigation, the size of judgments that may be awarded against us, and the loss of significant management time devoted to such litigation, we cannot provide assurance that such litigation will not disrupt our business or impact our financial results. We are involved, from time to time, in litigation incidental to our business including complaints filed by investors. This litigation could result in substantial costs, and could divert management's attention and resources, which could harm our business. Risks associated with legal liability are often difficult to assess or quantify, and their existence and magnitude can remain unknown for significant periods of time. Failure to comply with federal, state, local or foreign laws and regulations, or changes in these laws and regulations, could have an adverse impact on our results of operations and financial performance. Our business is subject to a wide array of laws and regulations including those related to employment, trade, consumer protection, transportation, occupancy laws, health care, wage laws, employee health and safety, taxes, privacy, health information privacy, identify theft, customs, truth-in-advertising, securities laws, unsolicited commercial communication and environmental issues. Our policies, procedures and internal controls are designed to comply with foreign and domestic laws and regulations, such as those required by the Sarbanes-Oxley Act of 2002 and the U.S. Foreign Corrupt Practices Act. Although we have policies and procedures aimed at ensuring legal and regulatory compliance, our employees or vendors could take actions that violate these laws and regulations. Any violations of such laws or regulations could have an adverse effect on our reputation, results of operations, financial condition and cash flows. Furthermore, changes in the regulations, the imposition of additional regulations, or the enactment of any new legislation, particularly in the U.S. and Europe, could adversely affect our results of operations or financial condition. Fluctuations in our tax obligations and effective tax rate may result in volatility in our operating results. We are subject to income taxes in many domestic and foreign jurisdictions. In addition, our products are subject to import and excise duties and/or sales, consumption or value-added taxes in many jurisdictions. We record tax expense based on our estimates of future payments, which include reserves for estimates of probable settlements of domestic and foreign tax audits. At any one time, many tax years are subject to audit by various taxing jurisdictions. There can be no assurance as to the outcome of these audits which may have an adverse effect to our business. In addition, our effective tax rate may be materially impacted by changes in tax rates and duties, the mix and level of earnings or losses by taxing jurisdictions, or by changes to existing accounting rules or regulations. Changes to foreign or domestic tax laws could have a material impact on our financial condition, results of operations or cash flows. 29 We may fail to meet analyst expectations, which could cause the price of our stock to decline. Our common stock is traded publicly and various securities analysts follow our financial results and issue reports on us. These reports include information about our historical financial results as well as the analysts' estimates of our future performance. The analysts' estimates are based upon their own independent opinions and can be different from our estimates or expectations. If our operating results are below the estimates or expectations of public market analysts and investors, our stock price could decline. The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A share repurchase program may be conducted from time to time under authorization made by our Board of Directors. We do not have a controlling shareholder, nor are we aware of any shareholders that have formed a “group” (defined as when two or more persons agree to act together for the purposes of acquiring, holding, voting or otherwise disposing of the equity securities of an issuer). The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A controlling shareholder would have significant influence over, and may have the ability to control, matters requiring approval by our shareholders, including the election of directors and approval of mergers, consolidations, sales of assets, recapitalizations and amendments to our articles of incorporation. Furthermore, a controlling shareholder may take actions with which other shareholders do not agree, including actions that delay, defer or prevent a change of control of the company and that could cause the price that investors are willing to pay for the company’s stock to decline. 30 Item 3: Quantitative and Qualita tive Disclosures About Market Risk Our market risk profile at April 29, 2023 has not significantly changed since January 28, 2023. Our market risk profile at January 28, 2023 is disclosed in our Annual Report on Form 10-K. Item 4: Control s and Procedures Evaluation of Disclosure Controls and Procedures . We carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer ("CEO") and Chief Financial Officer ("CFO"), of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Securities Exchange Act Rule 13a-15(e)). Based on this evaluation, our CEO and CFO concluded that, as of April 29, 2023, our disclosure controls and procedures were effective. Changes in Internal Control over Financial Reporting . There has been no change in our internal control over financial reporting (as defined in Securities Exchange Act Rule 13a-15(f)) during the three months ended April 29, 2023 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 31 PART II - OTHE R INFORMATION Item 1. Legal Proceedings We are involved from time to time in litigation incidental to our business. We are unable to predict the outcome of litigated cases. A court determination in any of litigation actions against us could result in significant liability and could have a material adverse effect on our business, results of operations or financial condition. See Note 5 to the Notes to Condensed Consolidated Financial Statements found in Part I Item 1 of this Form 10-Q (listed under “Litigation” under Commitments and Contingencies). Item 1A. Ri sk Factors Please refer to the Risk Factors set forth in Item 2 of Part I of this Form 10-Q as well as the risk factors previously disclosed in Item 1A of Part I of our Annual Report on Form 10-K for the year ended January 28, 2023. There have been no material changes in the risk factors set forth in our Annual Report on Form 10-K for the year ended January 28, 2023. Item 2. Unregistered Sales of Equi ty Securities and Use of Proceeds The following table presents information with respect to purchases of common stock of the Company made during the thirteen weeks ended April 29, 2023 (in thousands, except average price paid per share): Period Total Number of Shares Purchased Average Price Paid per Share Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (1) Dollar Value of Shares that May Yet Be Repurchased Under the Plans or Programs (1) January 29, 2023 - February 25, 2023 — $ - — $ - February 26, 2023 - April 1, 2023 (2) 9,406 $ 19.64 — $ - April 2, 2023 - April 29, 2023 — $ - — $ - Total 9,406 — (1) The share repurchase program is conducted under authorizations made from time to time by our Board of Directors. There was no authorized share repurchase program during the thirteen weeks ended April 29, 2023. (2) During the thirteen weeks ended April 29, 2023, 9,406 shares were purchased by us in order to satisfy employee tax withholding obligations upon the vesting of restricted stock. These shares were not acquired pursuant to any publicly announced purchase plan or program. Item 3. Defaults Upo n Senior Securities None Item 4. Mine Saf ety Disclosures Not applicable Item 5. Other Information None 32 Item 6. Exhibits Exhibit No. Description of Exhibits 10.30 Zumiez Inc. 2023 Equity Incentive Plan [Incorporated by reference to Exhibit 10.30 to the Company's Current Report on Form 8-K filed by the Company on June 2, 2023] 10.31 Form of Restricted Stock Award Agreement and Terms and Conditions [Incorporated by reference to Exhibit 10.31 to the Company's Current Report on Form 8-K filed on June 2, 2023] 10.32 Form of Restricted Stock Unit Award Agreement and Terms and Conditions [Incorporated by reference to Exhibit 10.32 to the Company's Current Report on Form 8-K filed on June 2, 2023] 10.33 Form of Stock Option Award Agreement and Terms and Conditions [Incorporated by reference to Exhibit 10.33 to the Company's Current Report on Form 8-K filed on June 2, 2023] 10.34 Zumiez Inc. 2023 Employee Stock Purchase Plan [Incorporated by reference to Exhibit 10.34 to the Company's Current Report on Form 8-K filed by the Company on June 2, 2023] 31.1 Certification of the Principal Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of the Principal Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certifications of the Principal Executive Officer and Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350. 101 The following materials from Zumiez Inc.’s Quarterly Report on Form 10-Q for the quarterly period ended April 29, 2023, formatted in Inline XBRL (eXtensible Business Reporting Language): (i) Condensed Consolidated Balance Sheets at April 29, 2023 (unaudited) and January 28, 2023; (ii) Unaudited Condensed Consolidated Statements of Operations for the three months ended April 29, 2023 and April 30, 2022; (iii) Unaudited Condensed Consolidated Statements of Comprehensive Loss for the three months ended April 29, 2023 and April 30, 2022; (iv) Unaudited Condensed Consolidated Statements of Changes in Shareholders’ Equity for the three months ended April 29, 2023 and April 30, 2022; (v) Unaudited Condensed Consolidated Statements of Cash Flows for the three months ended April 29, 2023 and April 30, 2022; and (vi) Notes to Condensed Consolidated Financial Statements. 104 The cover page for the Company’s Quarterly Report on Form 10-Q has been formatted in Inline XBRL and contained in Exhibit 101 33 SIGNA TURE Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized. ZUMIEZ INC. Dat June 5, 2023 By: /s/ Christopher C. Work Christopher C. Work Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer) 34 |
WASHINGTON, D.C. 20549 FORM 10-Q ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JULY 29, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission file number 000-51300 ZUMIEZ INC . (Exact name of registrant as specified in its charter) Washington 91-1040022 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 4001 204 th Street SW , Lynnwood , WA 98036 (Address of principal executive offices) (Zip Code) Registrant’s telephone number, including area co ( 425 ) 551-1500 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definition of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☒ Non-accelerated filer ☐ Smaller reporting company ☐ ☐ Emerging growth company ☐ ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ☐ Yes ☒ No Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name of each exchange on which registered Common Stock ZUMZ Nasdaq Global Select At August 31, 2023, there were 19,808,346 shares outstanding of common stock. ZUMIEZ INC. FORM 10-Q TABLE OF CONTENTS Part I. Financial Information Item 1. Condensed Consolidated Financial Statements Condensed Consolidated Balance Sheets at July 29, 2023 (unaudited) and January 28, 2023 3 Unaudited Condensed Consolidated Statements of Operations for the three and six months ended July 29, 2023 and July 30, 2022 4 Unaudited Condensed Consolidated Statements of Comprehensive Loss for the three and six months ended July 29, 2023 and July 30, 2022 5 Unaudited Condensed Consolidated Statements of Changes in Shareholders’ Equity for the three and six months ended July 29, 2023 and July 30, 2022 6 Unaudited Condensed Consolidated Statements of Cash Flows for the six months ended July 29, 2023 and July 30, 2022 7 Notes to Condensed Consolidated Financial Statements 8 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 17 Item 3. Quantitative and Qualitative Disclosures About Market Risk 33 Item 4. Controls and Procedures 33 Part II. Other Information Item 1. Legal Proceedings 34 Item 1A. Risk Factors 34 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 34 Item 3. Defaults Upon Senior Securities 34 Item 4. Mine Safety Disclosures 34 Item 5. Other Information 34 Item 6. Exhibits 35 Signature 36 2 ZUMIEZ INC. CONDENSED CONSOLIDA TED BALANCE SHEETS (In thousands) July 29, 2023 January 28, 2023 (Unaudited) Assets Current assets Cash and cash equivalents $ 57,854 $ 81,503 Marketable securities 82,128 91,986 Receivables 23,910 20,613 Inventories 156,654 134,824 Prepaid expenses and other current assets 14,523 11,252 Total current assets 335,069 340,178 Fixed assets, net 94,193 93,746 Operating lease right-of-use assets 221,538 222,240 Goodwill 56,889 56,566 Intangible assets, net 14,409 14,443 Deferred tax assets, net 12,161 8,205 Other long-term assets 11,575 12,525 Total long-term assets 410,765 407,725 Total assets $ 745,834 $ 747,903 Liabilities and Shareholders’ Equity Current liabilities Trade accounts payable $ 69,773 $ 40,379 Accrued payroll and payroll taxes 14,608 16,321 Operating lease liabilities 66,087 65,460 Other liabilities 19,312 23,649 Total current liabilities 169,780 145,809 Long-term operating lease liabilities 184,439 188,835 Other long-term liabilities 6,191 5,931 Total long-term liabilities 190,630 194,766 Total liabilities 360,410 340,575 Commitments and contingencies (Note 5) Shareholders’ equity Preferred stock, no par value, 20,000 shares authorized; none issued and outstanding — — Common stock, no par value, 50,000 shares authorized; 19,809 shares issued and outstanding at July 29, 2023 and 19,489 shares issued and outstanding at January 28, 2023 192,169 188,418 Accumulated other comprehensive loss ( 18,557 ) ( 19,793 ) Retained earnings 211,812 238,703 Total shareholders’ equity 385,424 407,328 Total liabilities and shareholders’ equity $ 745,834 $ 747,903 See accompanying notes to condensed consolidated financial statements 3 ZUMIEZ INC. CONDENSED CONSOLIDATED ST ATEMENTS OF OPERATIONS (In thousands, except per share amounts) (Unaudited) Three Months Ended Six Months Ended July 29, 2023 July 30, 2022 July 29, 2023 July 30, 2022 Net sales $ 194,438 $ 219,993 $ 377,325 $ 440,679 Cost of goods sold 132,760 144,929 266,290 293,242 Gross profit 61,678 75,064 111,035 147,437 Selling, general and administrative expenses 72,171 70,109 142,881 141,985 Operating (loss) profit ( 10,493 ) 4,955 ( 31,846 ) 5,452 Interest income, net 775 358 1,632 850 Other income (expense), net 423 233 ( 118 ) 405 (Loss) earnings before income taxes ( 9,295 ) 5,546 ( 30,332 ) 6,707 (Benefit from) provision for income taxes ( 786 ) 2,479 ( 3,441 ) 4,037 Net (loss) income $ ( 8,509 ) $ 3,067 $ ( 26,891 ) $ 2,670 Basic (loss) earnings per share $ ( 0.44 ) $ 0.16 $ ( 1.40 ) $ 0.14 Diluted (loss) earnings per share $ ( 0.44 ) $ 0.16 $ ( 1.40 ) $ 0.14 Weighted average shares used in computation of (loss) earnings per sh Basic 19,311 19,084 19,254 19,308 Diluted 19,311 19,262 19,254 19,592 See accompanying notes to condensed consolidated financial statements 4 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (In thousands) (Unaudited) Three Months Ended Six Months Ended July 29, 2023 July 30, 2022 July 29, 2023 July 30, 2022 Net (loss) income $ ( 8,509 ) $ 3,067 $ ( 26,891 ) $ 2,670 Other comprehensive income (loss), net of tax and reclassification adjustments: Foreign currency translation 385 ( 3,774 ) 771 ( 10,146 ) Net change in unrealized gain (loss) on available-for-sale debt securities 135 386 465 ( 3,053 ) Other comprehensive income (loss), net 520 ( 3,388 ) 1,236 ( 13,199 ) Comprehensive loss $ ( 7,989 ) $ ( 321 ) $ ( 25,655 ) $ ( 10,529 ) See accompanying notes to condensed consolidated financial statements 5 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS O F CHANGES IN SHAREHOLDERS’ EQUITY (In thousands) (Unaudited) Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at April 29, 2023 19,782 $ 190,599 $ ( 19,077 ) $ 220,321 $ 391,843 Net loss — — — ( 8,509 ) ( 8,509 ) Other comprehensive income, net — — 520 — 520 Issuance and exercise of stock-based awards 27 — — — — Stock-based compensation expense — 1,570 — — 1,570 Balance at July 29, 2023 19,809 $ 192,169 $ ( 18,557 ) $ 211,812 $ 385,424 Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at April 30, 2022 19,459 $ 182,899 $ ( 23,274 ) $ 217,272 $ 376,897 Net income — — — 3,067 3,067 Other comprehensive loss, net — — ( 3,388 ) — ( 3,388 ) Issuance and exercise of stock-based awards 15 ( 93 ) — — ( 93 ) Stock-based compensation expense — 1,813 — — 1,813 Balance at July 30, 2022 19,474 $ 184,619 $ ( 26,662 ) $ 220,339 $ 378,296 Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at January 28, 2023 19,489 $ 188,418 $ ( 19,793 ) $ 238,703 $ 407,328 Net loss — — — ( 26,891 ) ( 26,891 ) Other comprehensive income, net — — 1,236 — 1,236 Issuance and exercise of stock-based awards 320 275 — — 275 Stock-based compensation expense — 3,476 — — 3,476 Balance at July 29, 2023 19,809 $ 192,169 $ ( 18,557 ) $ 211,812 $ 385,424 Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at January 29, 2022 21,215 $ 180,824 $ ( 13,463 ) $ 300,957 $ 468,318 Net income — — — 2,670 2,670 Other comprehensive loss, net — — ( 13,199 ) — ( 13,199 ) Issuance and exercise of stock-based awards 173 282 — — 282 Stock-based compensation expense — 3,513 — — 3,513 Repurchase of common stock ( 1,914 ) — — ( 83,288 ) ( 83,288 ) Balance at July 30, 2022 19,474 $ 184,619 $ ( 26,662 ) $ 220,339 $ 378,296 See accompanying notes to condensed consolidated financial statements 6 ZUMIEZ INC. CONDENSED CONSOLIDATED S TATEMENTS OF CASH FLOWS (In thousands) (Unaudited) Six Months Ended July 29, 2023 July 30, 2022 Cash flows from operating activiti Net (loss) income $ ( 26,891 ) $ 2,670 Adjustments to reconcile net (loss) income to net cash used in operating activiti Depreciation, amortization and accretion 10,881 10,598 Noncash lease expense 34,380 33,040 Deferred taxes ( 4,060 ) 3,035 Stock-based compensation expense 3,476 3,513 Impairment of long-lived assets 338 65 Other 84 ( 115 ) Changes in operating assets and liabiliti Receivables ( 1,113 ) ( 5,496 ) Inventories ( 21,721 ) ( 24,671 ) Prepaid expenses and other assets ( 3,807 ) ( 3,946 ) Trade accounts payable 30,150 17,084 Accrued payroll and payroll taxes ( 1,676 ) ( 13,958 ) Income taxes payable ( 1,044 ) ( 4,128 ) Operating lease liabilities ( 38,783 ) ( 37,239 ) Other liabilities ( 4,480 ) ( 4,611 ) Net cash used in operating activities ( 24,266 ) ( 24,159 ) Cash flows from investing activiti Additions to fixed assets ( 11,879 ) ( 10,253 ) Purchases of marketable securities and other investments ( 1,850 ) ( 1,914 ) Sales and maturities of marketable securities and other investments 12,284 67,890 Net cash (used in) provided by investing activities ( 1,445 ) 55,723 Cash flows from financing activiti Proceeds from revolving credit facilities 25,682 19,844 Payments on revolving credit facilities ( 25,682 ) ( 19,844 ) Proceeds from issuance and exercise of stock-based awards 460 781 Payments for tax withholdings on equity awards ( 185 ) ( 499 ) Common stock repurchased — ( 87,860 ) Net cash provided by (used in) financing activities 275 ( 87,578 ) Effect of exchange rate changes on cash, cash equivalents, and restricted cash 179 ( 2,367 ) Net decrease in cash, cash equivalents, and restricted cash ( 25,257 ) ( 58,381 ) Cash, cash equivalents, and restricted cash, beginning of period 88,453 124,052 Cash, cash equivalents, and restricted cash, end of period $ 63,196 $ 65,671 Supplemental disclosure on cash flow informati Cash paid during the period for income taxes $ 1,520 $ 5,027 Accrual for purchases of fixed assets 1,784 2,466 See accompanying notes to condensed consolidated financial statements 7 ZUMIEZ INC. NOTES TO CONDENSED CONSOLI DATED FINANCIAL STATEMENTS (Unaudited) 1. Nature of Business and Basis of Presentation Nature of Business— Zumiez Inc., including its wholly owned subsidiaries, (the “Company,” “we,” “us,” “its” and “our”) is a leading specialty retailer of apparel, footwear, accessories and hardgoods for young men and women who want to express their individuality through the fashion, music, art and culture of action sports, streetwear, and other unique lifestyles. We operate under the names Zumiez, Blue Tomato and Fast Times. We operate ecommerce websites at zumiez.com , zumiez.ca, blue-tomato.com and fasttimes.com.au. At July 29, 2023, we operated 761 stores; 609 in the United States (“U.S.”), 81 in Europe, 49 in Canada, and 22 in Australia. COVID-19— In December 2019, a novel strain of coronavirus (“COVID-19”) was first identified, and in March 2020, the World Health Organization categorized COVID-19 as a pandemic. Changes in our operations due to COVID-19 resulted in material fluctuations to our results of operations during fiscal 2020 and in certain geographies during fiscal 2021. On April 1, 2022, we received 3.2 million Euro ($ 3.6 million) as a taxable subsidy from the German government related to our European business for costs incurred during fiscal 2020 and fiscal 2021 related to the COVID-19 pandemic. The subsidy received was granted free of future obligations to repay and was recorded as a reduction to selling, general and administrative expenses on the condensed consolidated statement of operations in the first quarter of fiscal 2022. Fiscal Year— We use a fiscal calendar widely used by the retail industry that results in a fiscal year consisting of a 52- or 53-week period ending on the Saturday closest to January 31. Each fiscal year consists of four 13-week quarters, with an extra week added to the fourth quarter every five or six years. The three months ended July 29, 2023 and July 30, 2022 were 13-week periods. The six months ended July 29, 2023 and July 30, 2022 were 26-week periods. Basis of Presentation— The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“U.S. GAAP”) for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) for interim financial reporting. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. The unaudited condensed consolidated financial statements include the accounts of Zumiez Inc. and its wholly-owned subsidiaries. All significant intercompany transactions and balances are eliminated in consolidation. In our opinion, the unaudited condensed consolidated financial statements contain all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of the condensed consolidated balance sheets, operating results and cash flows for the periods presented. The financial data at January 28, 2023 is derived from audited consolidated financial statements, which are included in our Annual Report on Form 10-K for the year ended January 28, 2023 , and should be read in conjunction with the audited consolidated financial statements and notes thereto. Interim results are not necessarily indicative of results for the full fiscal year due to seasonality and other factors. Reclassifications— Certain amounts reported in prior years in the financial statements have been reclassified to conform to the current year's presentation. These reclassifications had no effect on the consolidated statements of operations. Use of Estimates— The preparation of financial statements in conformity with U.S. GAAP requires estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements as well as the reported amounts of revenues and expenses during the reporting period. These estimates can also affect supplemental information disclosed by us, including information about contingencies, risk and financial condition. Actual results could differ from these estimates and assumptions. 8 Restricted Cash— Cash and cash equivalents that are restricted as to withdrawal or use under the terms of certain contractual agreements are recorded as restricted cash in other long-term assets on our condensed consolidated balance sheets. The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported within the condensed consolidated balance sheets that sum to the total of the same such amounts shown in the condensed consolidated statement of cash flows (in thousands): July 29, 2023 January 28, 2023 Cash and cash equivalents $ 57,854 $ 81,503 Restricted cash included in other long-term assets 5,342 6,950 Total cash, cash equivalents, and restricted cash as shown in the statement of cash flows $ 63,196 $ 88,453 Restricted cash included in other long-term assets represents amounts held as insurance collateral and collateral for bank guarantees on certain store operating leases. Recent Accounting Standards— We review recent account pronouncements on a quarterly basis and have excluded discussion of those that are not applicable and those that we determined did not have, or are not expected to have, a material impact on the condensed consolidated financial statements. 2. Revenue The following table disaggregates net sales by geographic region (in thousands): Three Months Ended Six Months Ended July 29, 2023 July 30, 2022 July 29, 2023 July 30, 2022 United States $ 149,991 $ 178,265 $ 285,541 $ 354,694 Canada 9,682 11,637 18,116 21,543 Europe 29,488 24,709 62,999 54,211 Australia 5,277 5,382 10,669 10,231 Net sales $ 194,438 $ 219,993 $ 377,325 $ 440,679 Net sales for the three months ended July 29, 2023 included a $ 0.8 million increase due to the change in foreign exchange rates, which consisted of a $ 1.3 million increase in Europe partially offset by a $ 0.3 million decrease in Canada and a $ 0.2 million decrease in Australia. Net sales for the six months ended July 29, 2023 included a $ 1.2 million decrease due to the change in foreign exchange rates, which consisted of a $ 1.0 million decrease in Canada and a $ 0.7 million decrease in Australia, partially offset by a $ 0.5 million increase in Europe. Our contract liabilities include deferred revenue related to our customer loyalty program and gift cards. The current liability for gift cards was $ 3.5 million at July 29, 2023 and $ 4.9 million at January 28, 2023, respectively. Deferred revenue related to our STASH loyalty program was $ 1.2 million at July 29, 2023 and January 28, 2023 . 9 3. Cash, Cash Equivalents and Marketable Securities The following tables summarize the estimated fair value of our cash, cash equivalents and marketable securities and the gross unrealized holding gains and losses (in thousands): July 29, 2023 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 23,711 $ — $ — $ 23,711 Money market funds 28,079 — — 28,079 Corporate debt securities 6,064 — — 6,064 Total cash and cash equivalents 57,854 — — 57,854 Marketable securiti U.S. treasury and government agency securities 19,204 — ( 3,198 ) 16,006 Corporate debt securities 54,638 — ( 2,127 ) 52,511 State and local government securities 13,975 — ( 364 ) 13,611 Total marketable securities $ 87,817 $ — $ ( 5,689 ) $ 82,128 January 28, 2023 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 30,587 $ — $ — $ 30,587 Money market funds 22,121 — — 22,121 Corporate debt securities 28,802 — ( 7 ) 28,795 Total cash and cash equivalents 81,510 — ( 7 ) 81,503 Marketable securiti U.S. treasury and government agency securities 20,973 — ( 2,891 ) 18,082 Corporate debt securities 60,832 — ( 2,848 ) 57,984 State and local government securities 16,490 — ( 570 ) 15,920 Total marketable securities $ 98,295 $ — $ ( 6,309 ) $ 91,986 All of our marketable securities have an effective maturity date or weighted average life of five years or less at the time of purchase and may be liquidated, at our discretion, prior to maturity. The following tables summarize the gross unrealized holding losses and fair value for investments in an unrealized loss position, and the length of time that individual securities have been in a continuous loss position (in thousands): July 29, 2023 Less Than 12 Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Marketable securiti U.S. treasury and government agency securities $ 34 $ ( 1 ) $ 15,972 $ ( 3,197 ) $ 16,006 $ ( 3,198 ) Corporate debt securities 1,595 ( 5 ) 50,916 ( 2,122 ) 52,511 ( 2,127 ) State and local government securities — — 13,611 ( 364 ) 13,611 ( 364 ) Total marketable securities $ 1,629 $ ( 6 ) $ 80,499 $ ( 5,683 ) $ 82,128 $ ( 5,689 ) 10 January 28, 2023 Less Than 12 Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Cash and cash equivalents: Corporate debt securities $ 27,099 $ ( 7 ) $ — $ — $ 27,099 $ ( 7 ) Total cash and cash equivalents 27,099 ( 7 ) - - 27,099 ( 7 ) Marketable securiti U.S. treasury and government agency securities 3,682 ( 229 ) 14,399 ( 2,662 ) 18,081 ( 2,891 ) Corporate debt securities 12,044 ( 604 ) 45,940 ( 2,244 ) 57,984 ( 2,848 ) State and local government securities 2,434 ( 50 ) 13,487 ( 520 ) 15,921 ( 570 ) Total marketable securities $ 18,160 $ ( 883 ) $ 73,826 $ ( 5,426 ) $ 91,986 $ ( 6,309 ) 4. Leases At July 29, 2023 , we had operating leases for our retail stores, certain distribution and fulfillment facilities, vehicles and equipment. Our remaining lease terms vary from under one month to eleven years , with varying renewal and termination options. The following table presents components of lease expense (in thousands): Three Months Ended Six Months Ended July 29, 2023 July 30, 2022 July 29, 2023 July 30, 2022 Operating lease expense $ 19,864 $ 18,480 $ 37,630 $ 36,758 Variable lease expense 728 1,641 3,780 3,775 Total lease expense (1) $ 20,592 $ 20,121 $ 41,410 $ 40,533 (1) Total lease expense includes short-term lease expense and sublease income which is immaterial to the Company. Total lease expense does not include right-of-use asset impairment charges, common area maintenance charges and other non-lease components. Supplemental cash flow information related to leases is as follows (in thousands): Six Months Ended July 29, 2023 July 30, 2022 Cash paid for amounts included in the measurement of lease liabiliti Operating cash flows from operating leases $ ( 38,783 ) $ ( 37,239 ) Right-of-use assets obtained in exchange for new operating lease liabilities 32,900 36,700 Weighted-average remaining lease term and discount rate were as follows: July 29, 2023 July 30, 2022 Weighted-average remaining lease term 4.9 4.9 Weighted-average discount rate 2.9 % 2.5 % At July 29, 2023, the maturities of our operating leases liabilities are as follows (in thousands): Fiscal 2023 $ 36,235 Fiscal 2024 70,590 Fiscal 2025 52,382 Fiscal 2026 34,335 Fiscal 2027 26,197 Thereafter 47,008 Total minimum lease payments 266,747 L interest ( 16,221 ) Present value of lease obligations 250,526 L current portion ( 66,087 ) Long-term lease obligations (1) $ 184,439 11 (1) Amounts in the table do not include contingent rent, common area maintenance charges and other non-lease components. At July 29, 2023 , we have excluded from the table above $ 2.4 million of operating leases that were contractually executed, but had not yet commenced. These operating leases are expected to commence by the end of fiscal 2024. 5. Commitments and Contingencies Purchase Commitments— At July 29, 2023, we had outstanding purchase orders to acquire merchandise from vendors of $ 151.2 million. We have an option to cancel these commitments with no notice prior to shipment, except for certain private label and international purchase orders in which we are obligated to repay contractual amounts upon cancellation. Litigation— We are involved from time to time in claims, proceedings and litigation arising in the ordinary course of business. We have made accruals with respect to these matters, where appropriate, which are reflected in our condensed consolidated financial statements. For some matters, the amount of liability is not probable or the amount cannot be reasonably estimated and therefore accruals have not been made. We may enter into discussions regarding settlement of these matters, and may enter into settlement agreements, if we believe settlement is in the best interest of our shareholders. On October 14, 2022, former employee Seana Neihart filed a representative action under California’s Private Attorneys General Act, California Labor Code section 2698 et seq (“PAGA”), against us. An answer to the complaint was filed on December 8, 2022. A first amended complaint was filed on February 8, 2023 adding Jessica King as a plaintiff. The lawsuit alleges a series of wage and hour violations under California’s Labor Code. An answer was filed on March 14, 2023. Zumiez intends to enforce individual arbitrations of the plaintiffs' claims. We continue to investigate the claims and we intend to vigorously defend ourselves. Insurance Reserves— We use a combination of third-party insurance and self-insurance for a number of risk management activities including workers’ compensation, general liability and employee-related health care benefits. We maintain reserves for our self-insured losses, which are estimated based on historical claims experience and actuarial and other assumptions. The self-insurance reserve at July 29, 2023 and January 28, 2023 was $ 2.2 million and $ 2.8 million, respectively. 6. Revolving Credit Facilities and Debt On October 14, 2021, we amended our credit agreement with Wells Fargo Bank, N.A. (previously entered into December 7, 2018), which provided us with a senior secured credit facility (“credit facility”) of up to $ 25.0 million through December 1, 2023, and up to $ 35.0 million after December 1, 2023 and through December 1, 2024. A second amendment was made on July 27, 2023 which provided revised financial maintenance covenants through the duration of the facility. The secured revolving credit facility is available for working capital and other general corporate purposes. The senior secured credit facility provides for the issuance of standby letters of credit in an amount not to exceed $ 17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $ 10.0 million and with terms not to exceed 120 days. The amount of borrowings available at any time under our credit facility is reduced by the amount of standby and commercial letters of credit outstanding at that time. The credit facility will mature on December 1, 2024 . All obligations under the credit facility are joint and several with Zumiez Services and guaranteed by certain of our subsidiaries. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1.35 % per annum. 12 The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. The credit facility contains certain financial maintenance covenants that generally require we/us to have a quick ratio of 1.25 :1.0 at the end of each fiscal quarter, and EBITDA not less than $ 12.0 million as of the fiscal quarters ending July 29, 2023 and October 28, 2023, and not less than $ 20.0 million as of the fiscal quarter ending February 3, 2024 and each fiscal quarter thereafter. EBITDA is defined as net profit before tax, depreciation and amortization expense, goodwill and other intangible impairment, leased right-of-use asset impairment, and store fixed asset impairment (up to an aggregate of $ 5.0 million), plus interest expense (net of capitalized interest expense). The credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. There were no borrowings outstanding under the credit facility at July 29, 2023 or January 28, 2023 . We had open commercial letters of credit outstanding of less than $ 0.1 million under our secured revolving credit facility at July 29, 2023 and no open commercial letters of credit outstanding at January 28, 2023 . We had $ 3.5 million and $ 0.6 million in issued, but undrawn, standby letters of credit at July 29, 2023 and January 28, 2023, respectively. Additionally, on October 12, 2020, we entered into a credit facility with UBS Switzerland AG of up to 15.0 million Euro. The credit facility bore interest at 1.25 %. This credit facility was closed on December 30, 2022. 7. Fair Value Measurements We apply the following fair value hierarchy, which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measuremen • Level 1— Quoted prices in active markets for identical assets or liabilities; • Level 2— Quoted prices for similar assets or liabilities in active markets or inputs that are observable; and • Level 3— Inputs that are unobservable. The following tables summarize assets measured at fair value on a recurring basis (in thousands): July 29, 2023 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 28,079 $ — $ — Corporate debt securities — 6,064 — Marketable securiti U.S. treasury and government agency securities — 16,006 — Corporate debt securities — 52,511 — State and local government securities — 13,611 — Other long-term assets: Money market funds 5,342 — — Total $ 33,421 $ 88,192 $ — January 28, 2023 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 22,121 $ — $ — Corporate debt securities — 28,795 — Marketable securiti U.S. treasury and government agency securities — 18,082 — Corporate debt securities — 57,984 — State and local government securities — 15,920 — Other long-term assets: Money market funds 6,950 — — Total $ 29,071 $ 120,781 $ — 13 The Level 2 marketable securities include U.S treasury and government agency securities, corporate debt securities, state and local municipal securities and variable-rate demand notes. Fair values are based on quoted market prices for similar assets or liabilities or determined using inputs that use readily observable market data that are actively quoted and can be validated through external sources, including third-party pricing services, brokers and market transactions. We review the pricing techniques and methodologies of the independent pricing service for Level 2 investments and believe that its policies adequately consider market activity, either based on specific transactions for the security valued or based on modeling of securities with similar credit quality, duration, yield and structure that were recently traded. We monitor security-specific valuation trends and we make inquiries with the pricing service about material changes or the absence of expected changes to understand the underlying factors and inputs and to validate the reasonableness of the pricing. Assets and liabilities recognized or disclosed at fair value on the consolidated financial statements on a nonrecurring basis include items such as fixed assets, operating lease right-of-use-assets, goodwill, other intangible assets and other assets. These assets are measured at fair value if determined to be impaired. During the three months ended July 29, 2023 we recognized no material impairment losses related to fixed assets or operating lease right-of-use assets. During the six months ended July 29, 2023 , we recognized $ 0.3 million in impairment losses related to fixed assets and $ 0.1 million in impairment losses related to operating lease right-of-use assets. During the three and six months ended July 30, 2022, we recognized less than $ 0.1 million in impairment losses related to operating lease right-of-use assets and fixed assets. 8. Stockholders’ Equity Accumulated Other Comprehensive Loss — The components of accumulated other comprehensive loss and the adjustments to other comprehensive income (loss) for amounts reclassified from accumulated other comprehensive loss into net loss are as follows (in thousands): Foreign currency translation adjustments (3) Net unrealized losses on available-for- sale debt securities Accumulated other comprehensive loss Three months ended July 29, 2023: Balance at April 29, 2023 $ ( 14,715 ) $ ( 4,362 ) $ ( 19,077 ) Other comprehensive income, net (1) 385 135 520 Balance at July 29, 2023 $ ( 14,330 ) $ ( 4,227 ) $ ( 18,557 ) Three months ended July 30, 2022: Balance at April 30, 2022 $ ( 18,877 ) $ ( 4,397 ) $ ( 23,274 ) Other comprehensive loss, net (1) ( 3,774 ) 386 ( 3,388 ) Balance at July 30, 2022 $ ( 22,651 ) $ ( 4,011 ) $ ( 26,662 ) Foreign currency translation adjustments (3) Net unrealized losses on available-for- sale investments Accumulated other comprehensive loss Six months ended July 29, 2023: Balance at January 28, 2023 $ ( 15,101 ) $ ( 4,692 ) $ ( 19,793 ) Other comprehensive income, net (2) 771 465 1,236 Balance at July 29, 2023 $ ( 14,330 ) $ ( 4,227 ) $ ( 18,557 ) Six months ended July 30, 2022: Balance at January 29, 2022 $ ( 12,505 ) $ ( 958 ) $ ( 13,463 ) Other comprehensive loss, net (2) ( 10,146 ) ( 3,053 ) ( 13,199 ) Balance at July 30, 2022 $ ( 22,651 ) $ ( 4,011 ) $ ( 26,662 ) (1) Other comprehensive income before reclassifications was $ 0.1 million, net of taxes for net unrealized losses on available-for-sale investments for the three months ended July 29, 2023 . Other comprehensive income before reclassifications was $ 0.4 million, net of taxes for net unrealized gains on available-for-sale investments for the three months ended July 30, 2022 . There were no net unrealized losses, net of taxes, reclassified from accumulated other comprehensive loss for the three months ended July 29, 2023 and July 30, 2022, respectively. 14 (2) Other comprehensive income before reclassifications was $ 0.5 million, net of taxes for net unrealized losses on available-for-sale investments for the six months ended July 29, 2023 . Other comprehensive loss before reclassifications was $ 3.1 million, net of taxes for net unrealized losses on available-for-sale investments for the six months ended July 30, 2022 . There were no net unrealized losses, net of taxes, reclassified from accumulated other comprehensive loss for the six months ended July 29, 2023 and July 30, 2022, respectively. (3) Foreign currency translation adjustments are not adjusted for income taxes as they relate to permanent investments in our international subsidiaries. 9. Equity Awards We maintain several equity incentive plans under which we may grant incentive stock options, nonqualified stock options, stock bonuses, restricted stock awards, restricted stock units and stock appreciation rights to employees (including officers), non-employee directors and consultants. We account for stock-based compensation by recording the estimated fair value of stock-based awards granted as compensation expense over the vesting period, net of estimated forfeitures. Stock-based compensation expense is attributed to earnings using a straight-line method. We estimate forfeitures of stock-based awards based on historical experience and expected future activity. The fair value of restricted stock awards and units is measured based on the closing price of our common stock on the date of grant. The fair value of stock option grants is estimated on the date of grant using the Black-Scholes option pricing model. Total stock-based compensation expense is recognized on our condensed consolidated statements of operations as follows (in thousands): Three Months Ended Six Months Ended July 29, 2023 July 30, 2022 July 29, 2023 July 30, 2022 Cost of goods sold $ 382 $ 391 $ 774 $ 735 Selling, general and administrative expenses 1,188 1,422 2,702 2,778 Total stock-based compensation expense $ 1,570 $ 1,813 $ 3,476 $ 3,513 At July 29, 2023, there was $ 11.9 million of total unrecognized compensation cost related to unvested stock options, restricted stock awards and restricted stock units. This cost has a weighted-average remaining recognition period of 1.3 years. The following table summarizes restricted stock awards and restricted stock units, collectively defined as “restricted equity awards” (in thousands, except grant date weighted-average fair value): Restricted Stock Awards/Units Grant Date Weighted- Average Fair Value Intrinsic Value Outstanding at January 28, 2023 397 $ 33.34 Granted 330 $ 20.08 Vested ( 190 ) $ 29.49 Forfeited ( 25 ) $ 32.97 Outstanding at July 29, 2023 512 $ 26.24 $ 9,684 15 We had 0.4 million stock options outstanding at July 29, 2023 with a grant date weighted average exercise price of $ 26.51 and 0.3 million stock options outstanding at January 28, 2023 with a grant date weighted average exercise price of $ 29.30 . 10. (Loss) Earnings per Share, Basic and Diluted The following table sets forth the computation of basic and diluted (loss) earnings per share (in thousands, except per share amounts): Three Months Ended Six Months Ended July 29, 2023 July 30, 2022 July 29, 2023 July 30, 2022 Net (loss) earnings $ ( 8,509 ) $ 3,067 $ ( 26,891 ) $ 2,670 Weighted average common shares for basic (loss) earnings per sh 19,311 19,084 19,254 19,308 Dilutive effect of stock options and restricted stock — 178 — 284 Weighted average common shares for diluted (loss) earnings per sh 19,311 19,262 19,254 19,592 Basic (loss) earnings per share $ ( 0.44 ) $ 0.16 $ ( 1.40 ) $ 0.14 Diluted (loss) earnings per share $ ( 0.44 ) $ 0.16 $ ( 1.40 ) $ 0.14 There were 0.4 million and 0.1 million anti-dilutive common shares related to stock-based awards for the three months ended July 29, 2023 and July 30, 2022 , respectively. There were 0.5 million and 0.1 million anti-dilutive common shares related to stock-based awards for the six months ended July 29, 2023 and July 30, 2022 , respectively. 16 Item 2: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes included elsewhere in this document. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those discussed in “Item 1A Risk Factors” in our Form 10-K filed with the SEC on March 20, 2023 and in this Form 10-Q. Forward-looking statements relate to our expectations for future events and future financial performance. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. These statements are only predictions. Actual events or results may differ materially. Factors which could affect our financial results are described below under the heading “Risk Factors” and in “Item 1A Risk Factors” of our Form 10-K referred to in the preceding paragraph. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Moreover, neither we nor any other person assume responsibility for the accuracy and completeness of the forward-looking statements. We undertake no duty to update any of the forward-looking statements after the date of this report to conform such statements to actual results or to changes in our expectations. Fiscal 2023 is the 53-week period ending February 3, 2024. Fiscal 2022 was the 52-week period ending January 28, 2023. The first six months of fiscal 2023 was the 26-week period ended July 29, 2023. The first six months of fiscal 2022 was the 26-week period ended July 30, 2022. “Zumiez,” the “Company,” “we,” “us,” “its,” “our” and similar references refer to Zumiez Inc. and its wholly-owned subsidiaries. General Net sales constitute gross sales (net of actual and estimated returns and deductions for promotions) and shipping revenue. Net sales include our store sales and our ecommerce sales. We record the sale of gift cards as a current liability and recognize revenue when a customer redeems a gift card. Additionally, the portion of gift cards that will not be redeemed (“gift card breakage”) is recognized based on our historical redemption rate in proportion to the pattern of rights exercised by the customer. We report “comparable sales” based on net sales beginning on the first anniversary of the first day of operation of a new store or ecommerce business. We operate a sales strategy that integrates our stores with our ecommerce platform. There is significant interaction between our store sales and our ecommerce sales channels and we believe that they are utilized in tandem to serve our customers. Therefore, our comparable sales also include our ecommerce sales. Changes in our comparable sales between two periods are based on net sales of store or ecommerce businesses which were in operation during both of the two periods being compared and, if a store or ecommerce business is included in the calculation of comparable sales for only a portion of one of the two periods being compared, then that store or ecommerce business is included in the calculation for only the comparable portion of the other period. Any increase or decrease less than 25% in square footage of an existing comparable store, including remodels and relocations within the same mall, or temporary closures less than seven days does not eliminate that store from inclusion in the calculation of comparable sales. Any store or ecommerce business that we acquire will be included in the calculation of comparable sales after the first anniversary of the acquisition date. Current year foreign exchange rates are applied to both current year and prior year comparable sales to achieve a consistent basis for comparison. There may be variations in the way in which some of our competitors and other apparel retailers calculate comparable sales. As a result, data herein regarding our comparable sales may not be comparable to similar data made available by our competitors or other retailers. Cost of goods sold consists of branded merchandise costs and our private label merchandise costs including design, sourcing, importing and inbound freight costs. Our cost of goods sold also includes shrinkage, buying, occupancy, distribution and warehousing costs (including associated depreciation) and freight costs for store merchandise transfers. This may not be comparable to the way in which our competitors or other retailers compute their cost of goods sold. Cash consideration received from vendors is reported as a reduction of cost of goods sold if the inventory has sold, a reduction of the carrying value of the inventory if the inventory is still on hand, or a reduction of selling, general and administrative expense if the amounts are reimbursements of specific, incremental and identifiable costs of selling the vendors’ products. With respect to the freight component of our ecommerce sales, amounts billed to our customers are included in net sales and the related freight cost is charged to cost of goods sold. 17 Selling, general and administrative expenses consist primarily of store personnel wages and benefits, administrative staff and infrastructure expenses, freight costs for merchandise shipments from the distribution centers to the stores, store supplies, depreciation on fixed assets at our home office and stores, facility expenses, training expenses and advertising and marketing costs. Credit card fees, insurance, public company expenses, legal expenses, incentive compensation, stock-based compensation and other miscellaneous operating costs are also included in selling, general and administrative expenses. This may not be comparable to the way in which our competitors or other retailers compute their selling, general and administrative expenses. Key Performance Indicators Our management evaluates the following items, which we consider key performance indicators, in assessing our performan Net sales. Net sales constitute gross sales, net of sales returns and deductions for promotions, and shipping revenue. Net sales includes comparable sales and new store sales for all our store and ecommerce businesses. We consider net sales to be an important indicator of our current performance. Net sales results are important to achieve leveraging of our costs, including store payroll and store occupancy. Net sales also have a direct impact on our operating profit, cash and working capital. Gross profit. Gross profit measures whether we are optimizing the price and inventory levels of our merchandise. Gross profit is the difference between net sales and cost of goods sold. Any inability to obtain acceptable levels of initial markups or any significant increase in our use of markdowns could have an adverse effect on our gross profit and results of operations. Operating profit. We view operating profit as a key indicator of our success. Operating profit is the difference between gross profit and selling, general and administrative expenses. The key drivers of operating profit are net sales, gross profit, our ability to control selling, general and administrative expenses and our level of capital expenditures affecting depreciation expense. Diluted earnings per share. Diluted earnings per share is based on the weighted average number of common shares and common share equivalents outstanding during the period. We view diluted earnings per share as a key indicator of our success in increasing shareholder value. Trends and Uncertainties Affecting Our Results and Comparability We have been, and we expect to continue to be affected by a number of factors that may cause actual results to differ from our historical results or current expectations. These factors include the impact of foreign currency rates; changes in laws, including U.S. tax law changes; fluctuations in variable costs, and changes in general economic conditions in the markets in which we operate. Additionally, we have experienced increased costs during 2022 and 2023. Our ability to raise our selling prices depends on market conditions and there may be periods during which we are unable to fully recover increases in our costs or experience an adverse impact on demand due to pricing actions. We believe higher consumer price inflation has resulted in reduced consumer confidence and consumer spending which negatively impacted our sales during fiscal 2022 and the first six months of fiscal 2023. Results of Operations The following table presents selected items on the condensed consolidated statements of operations as a percent of net sal Three Months Ended Six Months Ended July 29, 2023 July 30, 2022 July 29, 2023 July 30, 2022 Net sales 100.0 % 100.0 % 100.0 % 100.0 % Cost of goods sold 68.3 65.9 70.6 66.5 Gross profit 31.7 34.1 29.4 33.5 Selling, general and administrative expenses 37.1 31.8 37.8 32.3 Operating (loss) profit (5.4 ) 2.3 (8.4 ) 1.2 Interest and other income, net 0.6 0.2 0.4 0.3 (Loss) earnings before income taxes (4.8 ) 2.5 (8.0 ) 1.5 (Benefit from) provision for income taxes (0.4 ) 1.1 (0.9 ) 0.9 Net (loss) income (4.4 ) % 1.4 % (7.1 ) % 0.6 % 18 Three Months (13 weeks) Ended July 29, 2023 Compared With Three Months (13 weeks) Ended July 30, 2022 Net Sales Net sales were $194.4 million for the three months ended July 29, 2023 compared to $220.0 million for the three months ended July 30, 2022, a decrease of $25.6 million or 11.6%. The decrease in sales was driven by our North America and Australia business offset by more favorable results in Europe. During the quarter, the business continued to see softer sales primarily driven by continued inflationary pressures on the consumer, a shift in spending to travel and experiences, and softer demands for full price key styles and trends in the North America business. By region, North America sales decreased $30.2 million or 15.9% and other international sales (which consists of Europe and Australia sales) increased $4.7 million or 15.5% for the three months ended July 29, 2023 compared to the three months ended July 30, 2022. Excluding the impact of changes in foreign exchange rates, North America sales decreased $29.9 million or 15.7% and other international sales increased $3.6 million or 11.8% for the three months ended July 29, 2023 compared to the three months ended July 30, 2022. Net sales included a decrease in transactions and an increase in dollars per transaction. Dollars per transaction increased due to an increase in average unit retail, partially offset by a decrease in units per transaction. By category, net sales were primarily driven by a decrease in hardgoods followed by footwear, women's clothing, accessories, and men's clothing. Gross Profit Gross profit was $61.7 million for the three months ended July 29, 2023 compared to $75.1 million for the three months ended July 30, 2022, a decrease of $13.4 million, or 17.8%. As a percent of net sales, gross profit decreased 240 basis points for the three months ended July 29, 2023 to 31.7% as we saw significant deleverage on lower sales across our fixed costs as well as rate increases in numerous areas. The decrease was primarily driven by a 210 basis point deleverage in store occupancy costs, a 70 basis point decrease in product margin (defined as net sales minus cost of goods sold excluding shrinkage, buying, occupancy, distribution and warehousing costs and freight costs for store merchandise transfers), and a 20 basis point increase in buying and private label costs. These decreases were partially offset by 30 basis point decreases in inventory shrinkage and web shipping costs. Selling, General and Administrative Expenses Selling, general and administrative (“SG&A”) expenses were $72.2 million for the three months ended July 29, 2023 compared to $70.1 million for the three months ended July 30, 2022, an increase of $2.1 million, or 2.9%. SG&A expenses as a percent of net sales increased 530 basis points for the three months ended July 29, 2023 to 37.1%. The increase was primarily driven by 210 basis points due to store wages tied to both deleverage on lower sales as well as rate increase that we could not offset by reduction of hours, 160 basis points due to store costs not tied to store wages primarily impacted by deleverage on lower sales, 80 basis points in non-store wages, and 60 basis points in events. Net Loss Net loss for the three months ended July 29, 2023 was $8.5 million, or $0.44 loss per diluted share, compared with net income of $3.1 million, or $0.16 earnings per diluted share, for the three months ended July 30, 2022. Our effective income tax rate for the three months ended July 29, 2023 was a 8.5% benefit from income taxes compared to a 44.7% provision for income taxes for the three months ended July 30, 2022. The decrease in effective income tax rate was primarily due to an increase in net losses and the allocation of those losses across the jurisdictions that we operate. Six Months (26 weeks) Ended July 29, 2023 Compared With Six Months (26 weeks) Ended July 30, 2022 Net Sales Net sales were $377.3 million for the six months ended July 29, 2023 compared to $440.7 million for the six months ended July 30, 2022, a decrease of $63.4 or 14.4%. The decrease in sales was driven by our North America business offset by more favorable results for Europe and Australia. During the first half of the year the business continued to see softer sales primarily driven by continued inflationary pressures on the consumer, a shift in spending to travel and experiences, and softer demands for full price key styles and trends in the North America business. By region, North America sales decreased $72.6 million or 19.3% and other international sales (which consists of Europe and Australia sales) increased $9.2 or 14.3% for the six months ended July 29, 2023 compared to the six months ended July 30, 2022. Excluding the impact of changes in foreign exchange rates, North America sales decreased $71.6 million or 19.0% and other international sales increased $9.5 million or 14.7% for the six months ended July 29, 2023 compared to the six months ended July 30, 2022. 19 Net sales included a decrease in transactions and an increase in dollars per transaction. Dollars per transaction increased due to an increase in average unit retail, partially offset by a decrease in units per transaction. By category, net sales were primarily driven by a decrease in footwear followed by hardgoods, men's clothing, accessories, and women's clothing. Gross Profit Gross profit was $111.0 million for the six months ended July 29, 2023 compared to $147.4 million for the six months ended July 30, 2022, a decrease of $36.4 million, or 24.7%. As a percent of net sales, gross profit decreased 410 basis points for the six months ended July 29, 2023 to 29.4% as we saw significant deleverage on lower sales across our fixed costs as well as rate increases in numerous areas. The decrease was primarily driven by a 250 basis point deleverage in store occupancy costs, a 70 basis point decrease in product margin (defined as net sales minus cost of goods sold excluding shrinkage, buying, occupancy, distribution and warehousing costs and freight costs for store merchandise transfers), a 30 basis point increase in buying and private label costs, a 20 basis point increase in web shipping costs, and a 20 basis point deleverage in distribution center costs. Selling, General and Administrative Expenses Selling, general and administrative (“SG&A”) expenses were $142.9 million for the six months ended July 29, 2023 compared to $142.0 million for the six months ended July 30, 2022, an increase of $0.9 million, or 0.6%. SG&A expenses as a percent of net sales increased 550 basis points for the six months ended July 29, 2023 to 37.8%. The increase was primarily driven by 240 basis points due to store wages tied to both deleverage on lower sales as well as rate increase that we could not offset by reduction of hours, 160 basis points due to store costs not tied to store wages primarily impacted by deleverage on lower sales, 80 basis points due to a decrease in government subsidies related to a one-time German government subsidy received in the first quarter of fiscal 2022, and 80 basis points in non-store wages. These increases were partially offset by a 40 basis point decrease in events. Net Loss Net loss for the six months ended July 29, 2023 was $26.9 million, or $1.40 loss per diluted share, compared with net income of $2.7 million, or $0.14 earnings per diluted share, for the six months ended July 30, 2022. Our effective income tax rate for the six months ended July 29, 2023 was a 11.3% benefit from income taxes compared to a 60.2% provision for income taxes for the six months ended July 30, 2022. The decrease in effective income tax rate was primarily due to an increase in net losses and the allocation of those losses across the jurisdictions that we operate. Liquidity and Capital Resources Our primary uses of cash are for operational expenditures, inventory purchases and capital investments, including new stores, store remodels, store relocations, store fixtures and ongoing infrastructure improvements. Additionally, we may use cash for the repurchase of our common stock. Historically, our main source of liquidity has been cash flows from operations. The significant components of our working capital are inventories and liquid assets such as cash, cash equivalents, current marketable securities and receivables, reduced by accounts payable, accrued payroll and accrued expenses. Our working capital position benefits from the fact that we generally collect cash from sales to customers the same day or within several days of the related sale, while we typically have longer payment terms with our vendors. Our capital requirements include construction and fixture costs related to the opening of new stores and remodel and relocation expenditures for existing stores. Future capital requirements will depend on many factors, including the pace of new store openings, the availability of suitable locations for new stores and the nature of arrangements negotiated with landlords. Our net investment to open a new store has varied significantly in the past due to a number of factors, including the geographic location and size of the new store, and is likely to vary significantly in the future. During fiscal 2023, we expect to spend approximately $19 million to $21 million on capital expenditures, a majority of which will relate to leasehold improvements and fixtures for the approximately 19 new stores we remain on track to open in fiscal 2023 and remodels or relocations of existing stores. There can be no assurance that the number of stores that we open in fiscal 2023 will not be different from the number of stores we plan to open, or that actual fiscal 2023 capital expenditures will not differ from our expectations. 20 Operating Activities Net cash used in operating activities increased by $0.1 million to $24.3 million used in operating activities for the six months ended July 29, 2023 from $24.2 million used in operating activities for the six months ended July 30, 2022. Net cash used in operating activities was $24.3 million for the six months ended July 29, 2023 related to $42.5 million in unfavorable changes in our operating assets and liabilities and a $26.9 million net loss, excluding $45.1 million of noncash charges included within net loss for the period. Net cash used in operating activities was $24.2 million for the six months ended July 29, 2022 related to $77.0 million in unfavorable changes in our operating assets and liabilities and $2.7 million net income, excluding $50.1 million of noncash charges included within net income for the period. Our operating cash flows generally result primarily from cash received from our customers, offset by cash payments we make for inventory, employee compensation, store occupancy expenses and other operational expenditures. Cash received from our customers generally corresponds to our net sales. Because our customers primarily use credit cards or cash to buy from us, our receivables from customers settle quickly. Historically, changes to our operating cash flows have been driven primarily by changes in operating income, which is impacted by changes to non-cash items such as depreciation, amortization and accretion, deferred taxes, and changes to the components of working capital. Investing Activities Net cash used in investing activities was $1.4 million for the six months ended July 29, 2023 related to $11.9 million of capital expenditures primarily for new store openings and existing store remodels or relocations, partially offset by $10.4 million in net sales of marketable securities. Net cash provided by investing activities was $55.7 million for the six months ended July 30, 2022, related to $66.0 million in net sales of marketable securities, partially offset by $10.3 million of capital expenditures primarily for new store openings and existing store remodels or relocations. Financing Activities Net cash provided by financing activities for the six months ended July 29, 2023 was $0.3 million, related to $0.5 million in proceeds from the issuance and exercise of stock-based awards, partially offset by $0.2 million in payments for tax withholding obligations upon vesting of restricted stock. Net cash used in financing activities for the six months ended July 30, 2022 was $87.6 million, related to $87.9 million used in the repurchase of common stock and $0.5 million in payments for tax withholding obligations upon vesting of restricted stock, partially offset by $0.8 million in proceeds from the issuance and exercise of stock-based awards. Sources of Liquidity Our most significant sources of liquidity continue to be funds generated by operating activities and available cash, cash equivalents and current marketable securities. We expect these sources of liquidity and available borrowings under our revolving credit facility will be sufficient to meet our foreseeable cash requirements for operations and planned capital expenditures for at least the next twelve months. Beyond this time frame, if cash flows from operations are not sufficient to meet our capital requirements, then we will be required to obtain additional equity or debt financing in the future. However, there can be no assurance that equity or debt financing will be available to us when we need it or, if available, that the terms will be satisfactory to us and not dilutive to our then-current shareholders. We maintain a secured credit agreement with Wells Fargo Bank, N.A., which provided us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024. The credit facility is available for working capital and other general corporate purposes. The credit facility provides for the issuance of standby letters of credit in an amount not to exceed $17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $10.0 million and with terms not to exceed 120 days. The credit facility will mature on December 1, 2024. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1.35% per annum. We had open commercial letters of credit outstanding of less than $0.1 million at July 29, 2023 and no open commercial letters of credit outstanding at January 28, 2023. We had $3.5 million and $0.6 million in issued, but undrawn, standby letters of credit at July 29, 2023 and January 28, 2023, respectively. At July 29, 2023 , we did not have any “off-balance sheet arrangements” as defined in relevant SEC regulations that are reasonably likely to have a current or future effect on our financial condition, results of operation, liquidity, capital expenditures or capital resources. 21 Critical Accounting Estimates Our condensed consolidated financial statements are prepared in accordance with U.S. GAAP. In connection with the preparation of our condensed consolidated financial statements, we are required to make assumptions and estimates about future events and apply judgments that affect the reported amounts of assets, liabilities, revenue, expenses and the related disclosures. We base our assumptions, estimates and judgments on historical experience, current trends and other factors that we believe to be relevant at the time our condensed consolidated financial statements are prepared. On a regular basis, we review the accounting policies, assumptions, estimates and judgments to ensure that our condensed consolidated financial statements are presented fairly and in accordance with U.S. GAAP. However, because future events and their effects cannot be determined with certainty, actual results could differ from our assumptions and estimates, and such differences could be material. There have been no significant changes to our critical accounting estimates as discussed in our Annual Report on Form 10-K for the fiscal year ended January 28, 2023. 22 Risk Factors Investing in our securities involves a high degree of risk. The following risk factors, issues and uncertainties should be considered in evaluating our future prospects. In particular, keep these risk factors in mind when you read “forward-looking” statements elsewhere in this report. Forward-looking statements relate to our expectations for future events and time periods. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. Any of the following risks could harm our business, operating results or financial condition and could result in a complete loss of your investment. Additional risks and uncertainties that are not yet identified or that we currently think are immaterial may also harm our business and financial condition in the future. U.S. and global economic and political uncertainty, coupled with cyclical economic trends in retailing, could have a material adverse effect on our results of operations. Our retail market historically has been subject to substantial cyclicality. As the U.S. and global economic and political conditions change, the trends in discretionary consumer spending become unpredictable and discretionary consumer spending could be reduced due to uncertainties about the future. Economic and consumer confidence can also be affected by a variety of factors, including housing prices, unemployment rates and inflation. Sustained levels of inflation, rising interest rates, significant U.S. dollar and foreign currency fluctuations, lower consumer confidence, depressed consumer spending, higher levels of consumer debt, geopolitical instability, economic uncertainty, slower growth or a recession, volatility in the stock market, and other disruptions impacting the retail industry could adversely impact demand for our services. When disposable income decreases or discretionary consumer spending is reduced due to a decline in consumer confidence, purchases of apparel and related products may decline. A deterioration in macroeconomic conditions or consumer confidence or uncertainty in the U.S. and global economies and political environment could have a material adverse impact on our results of operations and financial position. In times when there is a decline in disposable income and consumer confidence, there could be a trend to consumers seeking more inexpensive or value-oriented merchandise. As a retailer that sells a substantial majority of branded merchandise, this could disproportionately impact us more than vertically integrated private label retailers or we may be forced to rely on promotional sales to compete in our market which could have a material adverse effect on our financial position. Failure to anticipate, identify and respond to changing fashion trends, customer preferences and other fashion-related factors could have a material adverse effect on us. Customer tastes and fashion trends in our market are volatile and tend to change rapidly. Our success depends on our ability to effectively anticipate, identify and respond to changing fashion tastes and consumer preferences, and to translate market trends into appropriate, saleable product offerings in a timely manner. If we are unable to successfully anticipate, identify or respond to changing styles or trends and misjudge the market for our products or any new product lines, including adequately anticipating the correct mix and trends of our private label merchandise, our sales may be lower than predicted and we may be faced with a substantial amount of unsold inventory or missed opportunities. In response to such a situation, we may be forced to rely on markdowns or promotional sales to dispose of excess or slow-moving inventory, which could have a material adverse effect on our results of operations. We may be unable to compete favorably in the highly competitive retail industry, and if we lose customers to our competitors, our sales could decrease. The teenage and young adult retail apparel, footwear, accessories and hardgoods industry is highly competitive. We compete with other retailers for vendors, teenage and young adult customers, suitable store locations, qualified store associates, management personnel, online marketing content, social media engagement and ecommerce traffic. Some of our competitors are larger than we are and have substantially greater financial and marketing resources, including advanced ecommerce market capabilities. Additionally, some of our competitors may offer more options for free and/or expedited shipping for ecommerce sales. Direct competition with these and other retailers may increase significantly in the future, which could require us, among other things, to lower our prices and could result in the loss of our customers. Current and increased competition could have a material adverse effect on our business, results of operations and financial condition. 23 The novel coronavirus (COVID-19) global pandemic could continue to have a material impact on our business. Since being declared a pandemic by the World Health Organization in March 2020, COVID-19 has negatively impacted global economies, disrupted consumer spending and global supply chains, and created significant volatility and disruption of financial markets. The COVID-19 global pandemic could continue to have a material impact on our business, including our results of operations, financial condition and liquidity. The duration and severity of the COVID-19 pandemic will determine its ongoing impact on our business, including our ability to execute business strategies and initiatives in their expected time frame, the effect on our suppliers and disruptions to the global supply chain, and the ability of our customers to pay for our services and products. A resurgence in the spread of COVID-19, or its variants, could force the closure of our retail stores globally, as we saw in the first quarter of 2020. We could also experience store closures on a regional basis, like we have seen in 2020 and 2021. We may face long term store closure requirements and other operational restrictions with respect to some or all of our physical locations for prolonged periods of time due to, among other factors, evolving and increasingly stringent governmental restrictions, public health directives, quarantine policies, or social distancing measures, resulting in a materially adverse impact to our financial results. With store closures withstanding, consumer fears about becoming ill with the virus may persist, adversely affecting traffic to our stores. Consumer spending may also be negatively impacted by general economic downturn and decreased consumer confidence resulting from the COVID-19 global pandemic. This may negatively impact sales in our stores and our ecommerce channel. The potential reduction in consumer visits to our stores, caused by COVID-19, and any decreased spending at retail stores or online caused by a lack of consumer confidence and spending following the pandemic, could result in a loss of sales and profits. A rise in the spread of COVID-19 also has the potential to significantly impact our supply chain if manufacturers of our products, distribution centers where we manage our inventory, or operations of our logistics and other service providers are disrupted, temporarily closed or experience worker shortages. Due to the seasonality of our business, widespread closures during peak shopping periods could disproportionally impact financial results. The inability to effectively adapt to changes in consumer behavior could result in excess inventory and adversely impact financial results. We may experience adverse effects of prolonged operating restrictions related to in-person marketing and training events. The COVID-19 pandemic’s impact on macroeconomic conditions could alter the functioning of financial and capital markets, foreign currency exchange rates, commodity prices, and interest rates. After the COVID-19 global pandemic has settled, we may continue to experience adverse impacts to our business as a result of evolving macroeconomic factors, including general economic uncertainty, unemployment rates, high inflation, recessionary pressures and any actual economic recession that has occurred or may occur in the future. The extent of the impact of the COVID-19 global pandemic on our business remains uncertain and difficult to predict, given the innumerable unknowns regarding the duration and severity of the pandemic. Most of our merchandise is produced by foreign manufacturers; therefore, the availability, quality and costs of our merchandise may be negatively affected by risks associated with international trade and other international conditions. Most of our merchandise is produced by manufacturers around the world. Some of these facilities are located in regions that may be affected by natural disasters, public health concerns, or emergencies, such as COVID-19 and other communicable diseases or viruses, political instability or other conditions that could cause a disruption in trade. Trade restrictions such as increased tariffs or quotas, or both, could also increase the cost and reduce the supply of merchandise available to us. Any reduction in merchandise available to us or any increase in its cost due to tariffs, quotas or local issues that disrupt trade could have a material adverse effect on our results of operations. This includes costs to comply with regulatory developments regarding the use of “conflict minerals,” certain minerals originating from the Democratic Republic of Congo and adjoining countries, which may affect the sourcing and availability of raw materials used by manufacturers and subject us to increased costs associated with our products, processes or sources of our inputs. Our business could be adversely affected by disruptions in the supply chain, such as strikes, work stoppages, or port closures. 24 A decrease in consumer traffic could cause our sales to be less than expected. We depend heavily on generating customer traffic to our stores and websites. This includes locating many of our stores in prominent locations within successful shopping malls. Sales at these stores are derived, in part, from the volume of traffic in those malls. Our stores benefit from the ability of a mall’s “anchor” tenants, generally large department stores and other area attractions, to generate consumer traffic in the vicinity of our stores and the continuing popularity of malls as shopping destinations. In addition, some malls that were in prominent locations when we opened our stores may cease to be viewed as prominent. If this trend continues or if the popularity of mall shopping continues to decline generally among our customers, our sales may decline, which would impact our results of operations. Additionally, we may experience other risks associated with operating leases, such as lease termination or impairment of operating lease right-of-use assets. These risks may include circumstances that are not within our control, such as changes in fair market rent. Furthermore, we depend on generating increased traffic to our ecommerce business and converting that traffic into sales. This requires us to achieve expected results from our marketing and social media campaigns, accuracy of data analytics, reliability of our website, network, and transaction processing and a high-quality online customer experience. Our sales volume and customer traffic in our stores and on our websites generally could be adversely affected by, among other things, economic downturns, competition from other ecommerce retailers, non-mall retailers and other malls, increases in gasoline prices, fluctuations in exchange rates in border or tourism-oriented locations and the closing or decline in popularity of other stores in the malls in which we are located. Also, geopolitical events, including the threat of terrorism, or widespread health emergencies, such as COVID-19 and other communicable diseases, viruses, or pandemics, could cause people to avoid our stores in shopping malls and alter consumer trends. An uncertain economic outlook or continued bankruptcies of mall-based retailers could curtail new shopping mall development, decrease shopping mall and ecommerce traffic, reduce the number of hours that shopping mall operators keep their shopping malls open or force them to cease operations entirely. A reduction in consumer traffic to our stores or websites could have a material adverse effect on our business, results of operations and financial condition. Our growth strategy depends on our ability to grow customer engagement in our current markets and expand into new markets, which could strain our resources and cause the performance of our existing business to suffer. Our growth largely depends on our ability to optimize our customer engagement in our current trade areas and operate successfully in new geographic markets. However, our ability to open stores in new geographic markets, including international locations, is subject to a variety of risks and uncertainties, and we may be unable to open new stores as planned or have access to desirable lease space, and any failure to successfully open and operate in new markets could have a material adverse effect on our results of operations. We intend to continue to open new stores in future years, while remodeling a portion of our existing store base such that we have the optimum number of stores in any given trade area. The expansion into new markets may present competitive, merchandising, hiring and distribution challenges that are different from those currently encountered in our existing markets. In addition, our proposed expansion will place increased demands on our operational, managerial and administrative resources. These increased demands could cause us to operate our business less effectively, which in turn could cause deterioration in the financial performance of our individual stores and our overall business. In addition, successful execution of our growth strategy may require that we obtain additional financing, and we may not be able to obtain that financing on acceptable terms or at all. Failure to successfully integrate any businesses that we acquire could have an adverse impact on our results of operations and financial performance. We may, from time to time, acquire businesses, such as our acquisition of Blue Tomato and Fast Times. We may experience difficulties in integrating any businesses we may acquire, including their stores, websites, facilities, personnel, financial systems, distribution, operations and general operating procedures, and any such acquisitions may also result in the diversion of our capital and our management’s attention from other business issues and opportunities. If we experience difficulties in integrating acquisitions or if such acquisitions do not provide the benefits that we expect to receive, we could experience increased costs and other operating inefficiencies, which could have an adverse effect on our results of operations and overall financial performance. Our plans for international expansion include risks that could have a negative impact on our results of operations. We plan to continue to open new stores in the Canadian, European, and Australian markets. We may continue to expand internationally into other markets, either organically, or through additional acquisitions. International markets may have different competitive conditions, consumer tastes and discretionary spending patterns than our existing U.S. market. As a result, operations in international markets may be less successful than our operations in the U.S. Additionally, consumers in international markets may not be familiar with us or the brands we sell, and we may need to build brand awareness in the markets. Furthermore, we have limited experience with the legal and regulatory environments and market practices in new international markets and cannot guarantee that we will be able to penetrate or successfully operate in these new international markets. We also expect to incur additional costs in complying with applicable foreign laws and regulations as they pertain to both our products and our operations. Accordingly, for the reasons noted above, our plans for international expansion include risks that could have a negative impact on our results of operations. 25 Our sales and inventory levels fluctuate on a seasonal basis. Accordingly, our quarterly results of operations are volatile and may fluctuate significantly. Our quarterly results of operations have fluctuated significantly in the past and can be expected to continue to fluctuate significantly in the future. Our sales and profitability are typically disproportionately higher in the third and fourth fiscal quarters of each fiscal year due to increased sales during the back-to-school and winter holiday shopping seasons. Sales during these periods cannot be used as an accurate indicator of annual results. As a result of this seasonality, any factors negatively affecting us during the last half of the year, including unfavorable economic conditions, adverse weather or our ability to acquire seasonal merchandise inventory, could have a material adverse effect on our financial condition and results of operations for the entire year. In addition, in order to prepare for the back-to-school and winter holiday shopping seasons, we must order and keep in stock significantly more merchandise than we carry during other times of the year. Any unanticipated decrease in demand for our products during these peak shopping seasons could require us to sell excess inventory at a substantial markdown, which could have a material adverse effect on our business, results of operations and financial condition. Our quarterly results of operations are affected by a variety of other factors, includin • the timing of new store openings and the relative proportion of our new stores to mature stores; • whether we are able to successfully integrate any new stores that we acquire and the presence of any unanticipated liabilities in connection therewith; • fashion trends and changes in consumer preferences; • calendar shifts of holiday or seasonal periods; • changes in our merchandise mix; • timing of promotional events; • general economic conditions and, in particular, the retail sales environment; • actions by competitors or mall anchor tenants; • weather conditions; • the level of pre-opening expenses associated with our new stores; and • inventory shrinkage beyond our historical average rates. If our information systems fail to function effectively or do not scale to keep pace with our planned growth, our operations could be disrupted and our financial results could be harmed. If our information systems, including hardware and software, do not work effectively, this could adversely impact the promptness and accuracy of our transaction processing, financial accounting and reporting and our ability to manage our business and properly forecast operating results and cash requirements. Additionally, we rely on third-party service providers for certain information systems functions. If a service provider fails to provide the data quality, communications capacity or services we require, the failure could interrupt our services and could have a material adverse effect on our business, financial condition and results of operations. To manage the anticipated growth of our operations and personnel, we may need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. 26 If we fail to meet the requirements to adequately maintain the privacy and security of our personal data and business information, we may be subjected to adverse publicity, litigation and significant expenses. Information systems are susceptible to an increasing threat of continually evolving cybersecurity risks. If we fail to maintain or adequately maintain security systems, devices and activity monitoring to prevent unauthorized access to our network, systems and databases containing confidential, proprietary, and personally identifiable information, we may be subject to additional risk of adverse publicity, litigation or significant expense. Nevertheless, if unauthorized parties gain access to our networks, systems or databases, they may be able to steal, publish, delete or modify confidential information. In such circumstances, we could be held liable to our customers or other parties or be subject to regulatory or other actions for breaching privacy rules and we may be exposed to reputation damage and loss of customers’ trust and business. This could result in costly investigations and litigation, civil or criminal penalties and adverse publicity that could adversely affect our financial condition, results of operations and reputation. Actual or anticipated attacks may cause us to incur increasing costs, including costs to deploy additional resources, train employees, and engage third-parties. Further, the regulatory environment surrounding information security, cybersecurity and privacy is increasingly demanding. If we are unable to comply with the new and changing security standards, we may be subject to fines, restrictions and financial exposure, which could adversely affect our retail operations. Significant fluctuations and volatility in the cost of raw materials, global labor, shipping and other costs related to the production of our merchandise may have a material adverse effect on our business, results of operations and financial conditions. Increases in the cost of raw materials, global labor costs, freight costs and other shipping costs in the production and transportation of our merchandise can result in higher costs for this merchandise. The costs for these products are affected by weather, consumer demand, government regulation, speculation on the commodities market and other factors that are generally unpredictable and beyond our control. Our gross profit and results of operations could be adversely affected to the extent that the selling prices of our products do not increase proportionately with the increases in the costs of raw materials. Increasing labor costs and oil-related product costs, such as manufacturing and transportation costs, could also adversely impact gross profit. Additionally, significant changes in the relationship between carrier capacity and shipper demand could increase transportation costs, which could also adversely impact gross profit. Fluctuations in foreign currency exchange rates could impact our financial condition and results of operations. We are exposed to foreign currency exchange rate risk with respect to our sales, profits, assets and liabilities denominated in currencies other than the U.S. dollar. As a result, the fluctuation in the value of the U.S. dollar against other currencies could have a material adverse effect on our results of operations, financial condition and cash flows. Upon translation, operating results may differ materially from expectations. As we continue to expand our international operations, our exposure to exchange rate fluctuations will increase. Tourism spending may be affected by changes in currency exchange rates, and as a result, sales at stores with higher tourism traffic may be adversely impacted by fluctuations in currency exchange rates. Further, although the prices charged by vendors for the merchandise we purchase are primarily denominated in U.S. dollars, a decline in the relative value of the U.S. dollar to foreign currencies could lead to increased merchandise costs, which could negatively affect our competitive position and our results of operations. Our business could be adversely affected by increased labor costs, including costs related to an increase in minimum wage and health care. Labor is one of the primary components in the cost of operating our business. Increased labor costs, whether due to competition, unionization, increased minimum wage, state unemployment rates, health care, mandated safety protocols, or other employee benefits costs may adversely impact our operating profit. A considerable amount of our store team members are paid at rates related to the federal or state minimum wage and any changes to the minimum wage rate may increase our operating expenses. Furthermore, inconsistent increases in state and or city minimum wage requirements limit our ability to increase prices across all markets and channels. Additionally, we are self-insured with respect to our health care coverage in the U.S. and do not purchase third party insurance for the health insurance benefits provided to employees with the exception of pre-defined stop loss coverage, which helps limit the cost of large claims. There is no assurance that future health care legislation will not adversely impact our results or operations. 27 Our business could suffer if a manufacturer fails to use acceptable labor and environmental practices. We do not control our vendors or the manufacturers that produce the products we buy from them, nor do we control the labor and environmental practices of our vendors and these manufacturers. The violation of labor, safety, environmental and/or other laws and standards by any of our vendors or these manufacturers, or the divergence of the labor and environmental practices followed by any of our vendors or these manufacturers from those generally accepted as ethical in the U.S., could interrupt, or otherwise disrupt, the shipment of finished products to us or damage our reputation. Any of these, in turn, could have a material adverse effect on our reputation, financial condition and results of operations. In that regard, most of the products we sell are manufactured internationally, primarily in Asia, Mexico and Central America, which may increase the risk that the labor and environmental practices followed by the manufacturers of these products may differ from those considered acceptable in the U.S. Additionally, our products are subject to regulation of and regulatory standards set by various governmental authorities with respect to quality and safety. These regulations and standards may change from time to time. Our inability to comply on a timely basis with regulatory requirements could result in significant fines or penalties, which could adversely affect our reputation and sales. Issues with the quality and safety of merchandise we sell, regardless of our culpability, or customer concerns about such issues, could result in damage to our reputation, lost sales, uninsured product liability claims or losses, merchandise recalls and increased costs. If we fail to develop and maintain good relationships with vendors or if a vendor is otherwise unable or unwilling to supply us with adequate quantities of their products at acceptable prices, our business and financial performance could suffer. Our business is dependent on developing and maintaining good relationships with a large number of vendors to provide our customers with an extensive selection of current and relevant brands. In addition to maintaining our large number of current vendor relationships, each year we are identifying, attracting and launching new vendors to provide a diverse and unique product assortment. We believe that we generally are able to obtain attractive pricing and terms from vendors because we are perceived as a desirable customer, and deterioration in our relationship with our vendors could have a material adverse effect on our business. However, there can be no assurance that our current vendors or new vendors will provide us with an adequate supply or quality of products or acceptable pricing. Our vendors could discontinue selling to us, raise the prices they charge, sell through direct channels or allow their merchandise to be discounted by other retailers. There can be no assurance that we will be able to acquire desired merchandise in sufficient quantities on terms acceptable to us in the future. In addition, certain vendors sell their products directly to the retail market and therefore compete with us directly and other vendors may decide to do so in the future. There can be no assurance that such vendors will not decide to discontinue supplying their products to us, supply us only less popular or lower quality items, raise the prices they charge us or focus on selling their products directly. In addition, a number of our vendors are smaller, less capitalized companies and are more likely to be impacted by unfavorable general economic and market conditions than larger and better capitalized companies. These smaller vendors may not have sufficient liquidity during economic downturns to properly fund their businesses and their ability to supply their products to us could be negatively impacted. Any inability to acquire suitable merchandise at acceptable prices, or the loss of one or more key vendors, could have a material adverse effect on our business, results of operations and financial condition. Our business is susceptible to weather conditions that are out of our control, including the potential risks of unpredictable weather patterns and any weather patterns associated with naturally occurring global climate change, and the resultant unseasonable weather could have a negative impact on our results of operations. Our business is susceptible to unseasonable weather conditions. For example, extended periods of unseasonably warm temperatures during the winter season or cool weather during the summer season (including any weather patterns associated with global warming and cooling) could render a portion of our inventory incompatible with those unseasonable conditions. These prolonged unseasonable weather conditions could have a material adverse effect on our business and results of operations. 28 Our omni-channel strategy may not have the return we anticipate, which could have an adverse effect on our results of operations. We are executing an omni-channel strategy to enable our customers to shop wherever, whenever and however they choose to engage with us. Our omni-channel strategy may not deliver the results we anticipate or may not adequately anticipate changing consumer trends, preferences and expectations. We will continue to develop additional ways to execute our superior omni-channel experience and interact with our customers, which requires significant investments in IT systems and changes in operational strategy, including localization, online and in-store point of sale systems, order management system, and transportation management system. If we fail to effectively integrate our store and ecommerce shopping experiences, effectively scale our IT structure or we do not realize the return on our investments that we anticipate our operating results could be adversely affected. Our competitors are also investing in omni-channel initiatives. If our competitors are able to be more effective in their strategy, it could have an adverse effect on our results of operations. If we our omni-channel strategy fails to meet customer expectations related to functionality, timely delivery, or customer experience, our business and results of operations may be adversely affected. Additionally, to manage the anticipated growth of our operations and personnel, we will need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. If we lose key executives or are unable to attract and retain the talent required for our business, our financial performance could suffer. Our performance depends largely on the efforts and abilities of our key executives. If we lose the services of one or more of our key executives, we may not be able to successfully manage our business or achieve our growth objectives. Furthermore, as our business grows, we will need to attract and retain additional qualified personnel in a timely manner and we may not be able to do so. Failure to meet our staffing needs could adversely affect our ability to implement our growth strategy and could have a material impact on our results of operations. Our success depends in part upon our ability to attract, motivate and retain a sufficient number of qualified employees who understand and appreciate our culture and brand and are able to adequately represent this culture. Qualified individuals of the requisite caliber, skills and number needed to fill these positions may be in short supply in some areas and the employee turnover rate in the retail industry is high. Our business depends on the ability to hire and retain qualified technical and support roles for procurement, distribution, ecommerce and back office functions. Competition for qualified employees in these areas could require us to pay higher wages to attract a sufficient number of suitable employees. If we are unable to hire and retain store managers and store associates capable of consistently providing a high level of customer service, as demonstrated by their enthusiasm for our culture and knowledge of our merchandise, our ability to open new stores may be impaired and the performance of our existing and new stores could be materially adversely affected. We are also dependent upon temporary personnel to adequately staff our operations particularly during busy periods such as the back-to-school and winter holiday seasons. There can be no assurance that we will receive adequate assistance from our temporary personnel, or that there will be sufficient sources of temporary personnel. If we are unable to hire qualified temporary personnel, our results of operations could be adversely impacted. Although none of our employees are currently covered by collective bargaining agreements, we cannot guarantee that our employees will not elect to be represented by labor unions in the future, which could increase our labor costs and could subject us to the risk of work stoppages and strikes. Any such failure to meet our staffing needs, any material increases in employee turnover rates, any increases in labor costs or any work stoppages, interruptions or strikes could have a material adverse effect on our business or results of operations. A decline in cash flows from operations could have a material adverse effect on our business and growth plans. We depend on cash flow from operations to fund our current operations and our growth strategy, including the payment of our operating leases, wages, store operation costs and other cash needs. If our business does not generate sufficient cash flow from operating activities, and sufficient funds are not otherwise available to us from borrowings under our credit facility or from other sources, we may not be able to pay our operating lease expenses, grow our business, respond to competitive challenges or fund our other liquidity and capital needs, which could have a material adverse effect on our business. 29 The terms of our secured credit agreement impose certain restrictions on us that may impair our ability to respond to changing business and economic conditions, which could have a significant adverse impact on our business. Additionally, our business could suffer if our ability to acquire financing is reduced or eliminated. We maintain a secured credit agreement with Wells Fargo Bank, N.A., which provides us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024. The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. The credit facility contains certain financial maintenance covenants that generally require us to have a quick ratio of 1.25:1.0 at the end of each fiscal quarter, and EBITDA not less than $12.0 million as of the fiscal quarters ending July 29, 2023 and October 28, 2023, and not less than $20,0 million as of the fiscal quarter ending February 3, 2024 and each fiscal quarter thereafter. EBITDA is defined as net profit before tax, depreciation and amortization expense, goodwill and other intangible impairment, leased right-of-use asset impairment, and store fixed asset impairment (up to an aggregate of $5.0 million), plus interest expense (net of capitalized interest expense). These restrictions could (1) limit our ability to plan for or react to market conditions or meet capital needs or otherwise restrict our activities or business plans; and (2) adversely affect our ability to finance our operations, strategic acquisitions, investments or other capital needs or to engage in other business activities that would be in our interest. The credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. Additionally, we cannot be assured that our borrowing relationship with our lenders will continue or that our lenders will remain able to support their commitments to us in the future. Several bank failures have occurred during 2023 and it is possible that other banks will face similar difficulty in the future. Although we do not maintain any direct deposit accounts, credit agreements or letters of credit with any financial institution currently in receivership, we are unable to predict the extent or nature of the impacts of these evolving circumstances at this time. Additionally, U.S. debt ceiling and budget deficit concerns have increased the possibility of credit rating downgrades, or a recession in the U.S. Although U.S. lawmakers have passed legislation to raise the federal debt ceiling on multiple occasions, including in June 2023, ratings agencies have threatened to lower the long-term sovereign credit rating on the United States. The impact of the increased debt ceiling and/or downgrades to the U.S. government's sovereign credit rating or its perceived creditworthiness could adversely affect the U.S. and global financial markets and economic conditions. If our lenders fail, then we may not be able to secure alternative financing on commercially reasonable terms, or at all. Our business could suffer with the closure or disruption of our home office or our distribution centers. In the U.S., we rely on a single distribution center located in Corona, California to receive, store and distribute the vast majority of our merchandise to our domestic stores. Internationally, we operate a combined distribution and ecommerce fulfillment center located in Graz, Austria that supports our Blue Tomato ecommerce and store operations in Europe. We operate a distribution center located in Delta, British Columbia, Canada to distribute our merchandise to our Canadian stores. We operate a distribution and ecommerce fulfillment center located in Melbourne, Australia to distribute our merchandise to our Australian stores. Additionally, we are headquartered in Lynnwood, Washington. As a result, unforeseen events, including war, terrorism, other political instability or conflicts, riots, public health issues (including widespread/pandemic illnesses such as coronavirus and other communicable diseases or viruses), a natural disaster or other catastrophic event that affects one of the regions where we operate these centers or our home office could significantly disrupt our operations and have a material adverse effect on our business, results of operations and financial condition. The effects of war, acts of terrorism, threat of terrorism, or other types of mall violence, could adversely affect our business. Most of our stores are located in shopping malls. Any threat of terrorist attacks or actual terrorist events, or other types of mall violence, such as shootings or riots, could lead to lower consumer traffic in shopping malls. In addition, local authorities or mall management could close shopping malls in response to security concerns. Mall closures, as well as lower consumer traffic due to security concerns, could result in decreased sales. Additionally, the threat, escalation or commencement of war or other armed conflict elsewhere, could significantly diminish consumer spending, and result in decreased sales. Decreased sales could have a material adverse effect on our business, financial condition and results of operations. 30 Our inability or failure to protect our intellectual property or our infringement of other’s intellectual property could have a negative impact on our operating results. We believe that our trademarks and domain names are valuable assets that are critical to our success. The unauthorized use or other misappropriation of our trademarks or domain names could diminish the value of the Zumiez, Blue Tomato, or Fast Times brands, our store concepts, our private label brands or our goodwill and cause a decline in our net sales. Although we have secured or are in the process of securing protection for our trademarks and domain names in a number of countries outside of the U.S., there are certain countries where we do not currently have or where we do not currently intend to apply for protection for certain trademarks. Also, the efforts we have taken to protect our trademarks may not be sufficient or effective. Therefore, we may not be able to prevent other persons from using our trademarks or domain names outside of the U.S., which also could adversely affect our business. We are also subject to the risk that we may infringe on the intellectual property rights of third parties. Any infringement or other intellectual property claim made against us, whether or not it has merit, could be time-consuming, result in costly litigation, cause product delays or require us to pay royalties or license fees. As a result, any such claim could have a material adverse effect on our operating results. Our operations expose us to the risk of litigation, which could lead to significant potential liability and costs that could harm our business, financial condition or results of operations. We employ a substantial number of full-time and part-time employees, a majority of whom are employed at our store locations. As a result, we are subject to a large number of federal, state and foreign laws and regulations relating to employment. This creates a risk of potential claims that we have violated laws related to discrimination and harassment, health and safety, wage and hour laws, criminal activity, personal injury and other claims. We are also subject to other types of claims in the ordinary course of our business. Some or all of these claims may give rise to litigation, which could be time-consuming for our management team, costly and harmful to our business. In addition, we are exposed to the risk of class action litigation. The costs of defense and the risk of loss in connection with class action suits are greater than in single-party litigation claims. Due to the costs of defending against such litigation, the size of judgments that may be awarded against us, and the loss of significant management time devoted to such litigation, we cannot provide assurance that such litigation will not disrupt our business or impact our financial results. We are involved, from time to time, in litigation incidental to our business including complaints filed by investors. This litigation could result in substantial costs, and could divert management's attention and resources, which could harm our business. Risks associated with legal liability are often difficult to assess or quantify, and their existence and magnitude can remain unknown for significant periods of time. Failure to comply with federal, state, local or foreign laws and regulations, or changes in these laws and regulations, could have an adverse impact on our results of operations and financial performance. Our business is subject to a wide array of laws and regulations including those related to employment, trade, consumer protection, transportation, occupancy laws, health care, wage laws, employee health and safety, taxes, privacy, health information privacy, identify theft, customs, truth-in-advertising, securities laws, unsolicited commercial communication and environmental issues. Our policies, procedures and internal controls are designed to comply with foreign and domestic laws and regulations, such as those required by the Sarbanes-Oxley Act of 2002 and the U.S. Foreign Corrupt Practices Act. Although we have policies and procedures aimed at ensuring legal and regulatory compliance, our employees or vendors could take actions that violate these laws and regulations. Any violations of such laws or regulations could have an adverse effect on our reputation, results of operations, financial condition and cash flows. Furthermore, changes in the regulations, the imposition of additional regulations, or the enactment of any new legislation, particularly in the U.S. and Europe, could adversely affect our results of operations or financial condition. Fluctuations in our tax obligations and effective tax rate may result in volatility in our operating results. We are subject to income taxes in many domestic and foreign jurisdictions. In addition, our products are subject to import and excise duties and/or sales, consumption or value-added taxes in many jurisdictions. We record tax expense based on our estimates of future payments, which include reserves for estimates of probable settlements of domestic and foreign tax audits. At any one time, many tax years are subject to audit by various taxing jurisdictions. There can be no assurance as to the outcome of these audits which may have an adverse effect to our business. In addition, our effective tax rate may be materially impacted by changes in tax rates and duties, the mix and level of earnings or losses by taxing jurisdictions, or by changes to existing accounting rules or regulations. Changes to foreign or domestic tax laws could have a material impact on our financial condition, results of operations or cash flows. 31 We may fail to meet analyst expectations, which could cause the price of our stock to decline. Our common stock is traded publicly and various securities analysts follow our financial results and issue reports on us. These reports include information about our historical financial results as well as the analysts' estimates of our future performance. The analysts' estimates are based upon their own independent opinions and can be different from our estimates or expectations. If our operating results are below the estimates or expectations of public market analysts and investors, our stock price could decline. The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A share repurchase program may be conducted from time to time under authorization made by our Board of Directors. We do not have a controlling shareholder, nor are we aware of any shareholders that have formed a “group” (defined as when two or more persons agree to act together for the purposes of acquiring, holding, voting or otherwise disposing of the equity securities of an issuer). The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A controlling shareholder would have significant influence over, and may have the ability to control, matters requiring approval by our shareholders, including the election of directors and approval of mergers, consolidations, sales of assets, recapitalizations and amendments to our articles of incorporation. Furthermore, a controlling shareholder may take actions with which other shareholders do not agree, including actions that delay, defer or prevent a change of control of the company and that could cause the price that investors are willing to pay for the company’s stock to decline. 32 Item 3: Quantitative and Qualita tive Disclosures About Market Risk Our market risk profile at July 29, 2023 has not significantly changed since January 28, 2023. Our market risk profile at January 28, 2023 is disclosed in our Annual Report on Form 10-K. Item 4: Control s and Procedures Evaluation of Disclosure Controls and Procedures . We carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer ("CEO") and Chief Financial Officer ("CFO"), of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Securities Exchange Act Rule 13a-15(e)). Based on this evaluation, our CEO and CFO concluded that, as of July 29, 2023, our disclosure controls and procedures were effective. Changes in Internal Control over Financial Reporting . There has been no change in our internal control over financial reporting (as defined in Securities Exchange Act Rule 13a-15(f)) during the three months ended July 29, 2023 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 33 PART II - OTHE R INFORMATION Item 1. Legal Proceedings We are involved from time to time in litigation incidental to our business. We are unable to predict the outcome of litigated cases. A court determination in any of litigation actions against us could result in significant liability and could have a material adverse effect on our business, results of operations or financial condition. See Note 5 to the Notes to Condensed Consolidated Financial Statements found in Part I Item 1 of this Form 10-Q (listed under “Litigation” under Commitments and Contingencies). Item 1A. Ri sk Factors Please refer to the Risk Factors set forth in Item 2 of Part I of this Form 10-Q as well as the risk factors previously disclosed in Item 1A of Part I of our Annual Report on Form 10-K for the year ended January 28, 2023. There have been no material changes in the risk factors set forth in our Annual Report on Form 10-K for the year ended January 28, 2023. Item 2. Unregistered Sales of Equi ty Securities and Use of Proceeds There were no issuer purchases of common stock during the thirteen weeks ended July 29, 2023. Item 3. Defaults Upo n Senior Securities None Item 4. Mine Saf ety Disclosures Not applicable Item 5. Other Information Effective as of July 27, 2023, Zumiez Inc. and Zumiez Services Inc. entered into a Second Amendment to Credit Agreement with Wells Fargo Bank, National Association (the "Credit Agreement Amendment"). The Credit Agreement Amendment provides for certain revised financial maintenance covenants as discussed in further detail in Item 1, Note 6—Revolving Credit Facilities and Debt. The Credit Agreement Amendment is also filed as an exhibit to this report on Form 10-Q. 34 Item 6. Exhibits Exhibit No. Description of Exhibits 10.35 Second Amendment to Credit Agreement dated effective as of July 27, 2023 by and among Zumiez Inc., Zumiez Services Inc. and Wells Fargo Bank, National Association. 31.1 Certification of the Principal Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of the Principal Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certifications of the Principal Executive Officer and Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350. 101 The following materials from Zumiez Inc.’s Quarterly Report on Form 10-Q for the quarterly period ended July 29, 2023, formatted in Inline XBRL (eXtensible Business Reporting Language): (i) Condensed Consolidated Balance Sheets at July 29, 2023 (unaudited) and January 28, 2023; (ii) Unaudited Condensed Consolidated Statements of Operations for the three and six months ended July 29, 2023 and July 30, 2022; (iii) Unaudited Condensed Consolidated Statements of Comprehensive Loss for the three and six months ended July 29, 2023 and July 30, 2022; (iv) Unaudited Condensed Consolidated Statements of Changes in Shareholders’ Equity for the three and six months ended July 29, 2023 and July 30, 2022; (v) Unaudited Condensed Consolidated Statements of Cash Flows for the six months ended July 29, 2023 and July 30, 2022; and (vi) Notes to Condensed Consolidated Financial Statements. 104 The cover page for the Company’s Quarterly Report on Form 10-Q has been formatted in Inline XBRL and contained in Exhibit 101 35 SIGNA TURE Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized. ZUMIEZ INC. Dat September 7, 2023 By: /s/ Christopher C. Work Christopher C. Work Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer) 36 |
WASHINGTON, D.C. 20549 FORM 10-Q ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED OCTOBER 28, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission file number 000-51300 ZUMIEZ INC . (Exact name of registrant as specified in its charter) Washington 91-1040022 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 4001 204 th Street SW , Lynnwood , WA 98036 (Address of principal executive offices) (Zip Code) Registrant’s telephone number, including area co ( 425 ) 551-1500 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definition of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☒ Non-accelerated filer ☐ Smaller reporting company ☐ ☐ Emerging growth company ☐ ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ☐ Yes ☒ No Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name of each exchange on which registered Common Stock ZUMZ Nasdaq Global Select At November 29, 2023, there w ere 19,834,032 shar es outstanding of common stock. ZUMIEZ INC. FORM 10-Q TABLE OF CONTENTS Part I. Financial Information Item 1. Condensed Consolidated Financial Statements Condensed Consolidated Balance Sheets at October 28, 2023 (unaudited) and January 28, 2023 3 Unaudited Condensed Consolidated Statements of Operations for the three and nine months ended October 28, 2023 and October 29, 2022 4 Unaudited Condensed Consolidated Statements of Comprehensive Loss for the three and nine months ended October 28, 2023 and October 29, 2022 5 Unaudited Condensed Consolidated Statements of Changes in Shareholders’ Equity for the three and nine months ended October 28, 2023 and October 29, 2022 6 Unaudited Condensed Consolidated Statements of Cash Flows for the nine months ended October 28, 2023 and October 29, 2022 7 Notes to Condensed Consolidated Financial Statements 8 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 17 Item 3. Quantitative and Qualitative Disclosures About Market Risk 33 Item 4. Controls and Procedures 33 Part II. Other Information Item 1. Legal Proceedings 34 Item 1A. Risk Factors 34 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 34 Item 3. Defaults Upon Senior Securities 34 Item 4. Mine Safety Disclosures 34 Item 5. Other Information 34 Item 6. Exhibits 35 Signature 36 2 ZUMIEZ INC. CONDENSED CONSOLIDA TED BALANCE SHEETS (In thousands) October 28, 2023 January 28, 2023 (Unaudited) Assets Current assets Cash and cash equivalents $ 48,968 $ 81,503 Marketable securities 86,857 91,986 Receivables 23,022 20,613 Inventories 175,882 134,824 Prepaid expenses and other current assets 11,315 11,252 Total current assets 346,044 340,178 Fixed assets, net 92,925 93,746 Operating lease right-of-use assets 212,984 222,240 Goodwill 55,145 56,566 Intangible assets, net 13,819 14,443 Deferred tax assets, net 10,788 8,205 Other long-term assets 11,321 12,525 Total long-term assets 396,982 407,725 Total assets $ 743,026 $ 747,903 Liabilities and Shareholders’ Equity Current liabilities Trade accounts payable $ 74,337 $ 40,379 Accrued payroll and payroll taxes 18,756 16,321 Operating lease liabilities 69,084 65,460 Other liabilities 19,602 23,649 Total current liabilities 181,779 145,809 Long-term operating lease liabilities 176,233 188,835 Other long-term liabilities 5,550 5,931 Total long-term liabilities 181,783 194,766 Total liabilities 363,562 340,575 Commitments and contingencies (Note 5) Shareholders’ equity Preferred stock, no par value, 20,000 shares authorized; none issued and outstanding — — Common stock, no par value, 50,000 shares authorized; 19,836 shares issued and outstanding at October 28, 2023 and 19,489 shares issued and outstanding at January 28, 2023 194,230 188,418 Accumulated other comprehensive loss ( 24,347 ) ( 19,793 ) Retained earnings 209,581 238,703 Total shareholders’ equity 379,464 407,328 Total liabilities and shareholders’ equity $ 743,026 $ 747,903 See accompanying notes to condensed consolidated financial statements 3 ZUMIEZ INC. CONDENSED CONSOLIDATED ST ATEMENTS OF OPERATIONS (In thousands, except per share amounts) (Unaudited) Three Months Ended Nine Months Ended October 28, 2023 October 29, 2022 October 28, 2023 October 29, 2022 Net sales $ 216,339 $ 237,591 $ 593,664 $ 678,270 Cost of goods sold 143,135 155,608 409,425 448,861 Gross profit 73,204 81,983 184,239 229,409 Selling, general and administrative expenses 73,361 71,544 216,243 213,519 Operating (loss) profit ( 157 ) 10,439 ( 32,004 ) 15,890 Interest income, net 948 428 2,581 1,279 Other expense, net ( 1,037 ) ( 1,256 ) ( 1,156 ) ( 850 ) (Loss) earnings before income taxes ( 246 ) 9,611 ( 30,579 ) 16,319 Provision for (Benefit from) income taxes 1,985 2,679 ( 1,456 ) 6,717 Net (loss) income $ ( 2,231 ) $ 6,932 $ ( 29,122 ) $ 9,602 Basic (loss) earnings per share $ ( 0.12 ) $ 0.36 $ ( 1.51 ) $ 0.50 Diluted (loss) earnings per share $ ( 0.12 ) $ 0.36 $ ( 1.51 ) $ 0.49 Weighted average shares used in computation of (loss) earnings per sh Basic 19,327 19,101 19,278 19,239 Diluted 19,327 19,248 19,278 19,490 See accompanying notes to condensed consolidated financial statements 4 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (In thousands) (Unaudited) Three Months Ended Nine Months Ended October 28, 2023 October 29, 2022 October 28, 2023 October 29, 2022 Net (loss) income $ ( 2,231 ) $ 6,932 $ ( 29,122 ) $ 9,602 Other comprehensive income (loss), net of tax and reclassification adjustments: Foreign currency translation ( 6,116 ) ( 4,476 ) ( 5,345 ) ( 14,622 ) Net change in unrealized loss on available-for-sale debt securities 326 ( 2,147 ) 791 ( 5,200 ) Other comprehensive loss, net ( 5,790 ) ( 6,623 ) ( 4,554 ) ( 19,822 ) Comprehensive income (loss) $ ( 8,021 ) $ 309 $ ( 33,676 ) $ ( 10,220 ) See accompanying notes to condensed consolidated financial statements 5 ZUMIEZ INC. CONDENSED CONSOLIDATED STATEMENTS O F CHANGES IN SHAREHOLDERS’ EQUITY (In thousands) (Unaudited) Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at July 29, 2023 19,809 $ 192,169 $ ( 18,557 ) $ 211,812 $ 385,424 Net loss — — — ( 2,231 ) ( 2,231 ) Other comprehensive loss, net — — ( 5,790 ) — ( 5,790 ) Issuance and exercise of stock-based awards 27 429 — — 429 Stock-based compensation expense — 1,632 — — 1,632 Balance at October 28, 2023 19,836 $ 194,230 $ ( 24,347 ) $ 209,581 $ 379,464 Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at July 30, 2022 19,474 $ 184,619 $ ( 26,662 ) $ 220,339 $ 378,296 Net income — — — 6,932 6,932 Other comprehensive loss, net — — ( 6,623 ) — ( 6,623 ) Issuance and exercise of stock-based awards 16 329 — — 329 Stock-based compensation expense — 1,736 — — 1,736 Balance at October 29, 2022 19,490 $ 186,684 $ ( 33,285 ) $ 227,271 $ 380,670 Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at January 28, 2023 19,489 $ 188,418 $ ( 19,793 ) $ 238,703 $ 407,328 Net loss — — — ( 29,122 ) ( 29,122 ) Other comprehensive loss, net — — ( 4,554 ) — ( 4,554 ) Issuance and exercise of stock-based awards 347 704 — — 704 Stock-based compensation expense — 5,108 — — 5,108 Balance at October 28, 2023 19,836 $ 194,230 $ ( 24,347 ) $ 209,581 $ 379,464 Common Stock Accumulated Other Comprehensive Retained Shares Amount Loss Earnings Total Balance at January 29, 2022 21,215 $ 180,824 $ ( 13,463 ) $ 300,957 $ 468,318 Net income — — — 9,602 9,602 Other comprehensive loss, net — — ( 19,822 ) — ( 19,822 ) Issuance and exercise of stock-based awards 189 611 — — 611 Stock-based compensation expense — 5,249 — — 5,249 Repurchase of common stock ( 1,914 ) — — ( 83,288 ) ( 83,288 ) Balance at October 29, 2022 19,490 $ 186,684 $ ( 33,285 ) $ 227,271 $ 380,670 See accompanying notes to condensed consolidated financial statements 6 ZUMIEZ INC. CONDENSED CONSOLIDATED S TATEMENTS OF CASH FLOWS (In thousands) (Unaudited) Nine Months Ended October 28, 2023 October 29, 2022 Cash flows from operating activiti Net (loss) income $ ( 29,122 ) $ 9,602 Adjustments to reconcile net (loss) income to net cash used in operating activiti Depreciation, amortization and accretion 16,209 15,802 Noncash lease expense 51,607 50,074 Deferred taxes ( 3,014 ) 3,441 Stock-based compensation expense 5,108 5,249 Impairment of long-lived assets 925 372 Other 943 1,331 Changes in operating assets and liabiliti Receivables ( 1,767 ) ( 2,317 ) Inventories ( 43,186 ) ( 52,020 ) Prepaid expenses and other assets ( 273 ) ( 5,365 ) Trade accounts payable 34,270 14,570 Accrued payroll and payroll taxes 2,684 ( 10,191 ) Income taxes payable 252 ( 1,790 ) Operating lease liabilities ( 52,656 ) ( 56,796 ) Other liabilities ( 4,902 ) ( 8,374 ) Net cash used in operating activities ( 22,922 ) ( 36,412 ) Cash flows from investing activiti Additions to fixed assets ( 16,210 ) ( 17,720 ) Purchases of marketable securities and other investments ( 28,679 ) ( 1,914 ) Sales and maturities of marketable securities and other investments 34,506 80,051 Net cash (used in) provided by investing activities ( 10,383 ) 60,417 Cash flows from financing activiti Proceeds from revolving credit facilities 25,682 19,844 Payments on revolving credit facilities ( 25,682 ) ( 19,844 ) Proceeds from issuance and exercise of stock-based awards 890 1,110 Payments for tax withholdings on equity awards ( 185 ) ( 499 ) Common stock repurchased — ( 87,860 ) Net cash provided by (used in) financing activities 705 ( 87,249 ) Effect of exchange rate changes on cash, cash equivalents, and restricted cash ( 1,643 ) ( 4,978 ) Net decrease in cash, cash equivalents, and restricted cash ( 34,243 ) ( 68,222 ) Cash, cash equivalents, and restricted cash, beginning of period 88,453 124,052 Cash, cash equivalents, and restricted cash, end of period $ 54,210 $ 55,830 Supplemental disclosure on cash flow informati Cash paid during the period for income taxes $ 1,686 $ 5,166 Accrual for purchases of fixed assets 2,780 1,802 See accompanying notes to condensed consolidated financial statements 7 ZUMIEZ INC. NOTES TO CONDENSED CONSOLI DATED FINANCIAL STATEMENTS (Unaudited) 1. Nature of Business and Basis of Presentation Nature of Business— Zumiez Inc., including its wholly owned subsidiaries, (the “Company,” “we,” “us,” “its” and “our”) is a leading specialty retailer of apparel, footwear, accessories and hardgoods for young men and women who want to express their individuality through the fashion, music, art and culture of action sports, streetwear, and other unique lifestyles. We operate under the names Zumiez, Blue Tomato and Fast Times. We operate ecommerce websites at zumiez.com , zumiez.ca, blue-tomato.com and fasttimes.com.au. At October 28, 2023, we operated 766 stores; 610 in the United States (“U.S.”), 83 in Europe, 49 in Canada, and 24 in Australia. COVID-19— In December 2019, a novel strain of coronavirus (“COVID-19”) was first identified, and in March 2020, the World Health Organization categorized COVID-19 as a pandemic. Changes in our operations due to COVID-19 resulted in material fluctuations to our results of operations during fiscal 2020 and in certain geographies during fiscal 2021. On April 1, 2022, we received 3.2 million Euro ($ 3.6 million) as a taxable subsidy from the German government related to our European business for costs incurred during fiscal 2020 and fiscal 2021 related to the COVID-19 pandemic. The subsidy received was granted free of future obligations to repay and was recorded as a reduction to selling, general and administrative expenses on the condensed consolidated statement of operations in the first quarter of fiscal 2022. Fiscal Year— We use a fiscal calendar widely used by the retail industry that results in a fiscal year consisting of a 52- or 53-week period ending on the Saturday closest to January 31. Each fiscal year consists of four 13-week quarters, with an extra week added to the fourth quarter every five or six years. The three months ended October 28, 2023 and October 29, 2022 were 13-week periods. The nine months ended October 28, 2023 and October 29, 2022 were 39-week periods. Basis of Presentation— The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“U.S. GAAP”) for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) for interim financial reporting. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. The unaudited condensed consolidated financial statements include the accounts of Zumiez Inc. and its wholly-owned subsidiaries. All significant intercompany transactions and balances are eliminated in consolidation. In our opinion, the unaudited condensed consolidated financial statements contain all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of the condensed consolidated balance sheets, operating results and cash flows for the periods presented. The financial data at January 28, 2023 is derived from audited consolidated financial statements, which are included in our Annual Report on Form 10-K for the year ended January 28, 2023 , and should be read in conjunction with the audited consolidated financial statements and notes thereto. Interim results are not necessarily indicative of results for the full fiscal year due to seasonality and other factors. Reclassifications— Certain amounts reported in prior years in the financial statements have been reclassified to conform to the current year's presentation. These reclassifications had no effect on the consolidated statements of operations. Use of Estimates— The preparation of financial statements in conformity with U.S. GAAP requires estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements as well as the reported amounts of revenues and expenses during the reporting period. These estimates can also affect supplemental information disclosed by us, including information about contingencies, risk and financial condition. Actual results could differ from these estimates and assumptions. 8 Restricted Cash— Cash and cash equivalents that are restricted as to withdrawal or use under the terms of certain contractual agreements are recorded as restricted cash in other long-term assets on our condensed consolidated balance sheets. The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported within the condensed consolidated balance sheets that sum to the total of the same such amounts shown in the condensed consolidated statement of cash flows (in thousands): October 28, 2023 January 28, 2023 Cash and cash equivalents $ 48,968 $ 81,503 Restricted cash included in other long-term assets 5,242 6,950 Total cash, cash equivalents, and restricted cash as shown in the statement of cash flows $ 54,210 $ 88,453 Restricted cash included in other long-term assets represents amounts held as insurance collateral and collateral for bank guarantees on certain store operating leases. Recent Accounting Standards— We review recent account pronouncements on a quarterly basis and have excluded discussion of those that are not applicable and those that we determined did not have, or are not expected to have, a material impact on the condensed consolidated financial statements. 2. Revenue The following table disaggregates net sales by geographic region (in thousands): Three Months Ended Nine Months Ended October 28, 2023 October 29, 2022 October 28, 2023 October 29, 2022 United States $ 169,530 $ 192,743 $ 455,071 $ 547,437 Canada 12,056 13,578 30,172 35,121 Europe 29,536 26,006 92,535 80,217 Australia 5,217 5,264 15,886 15,495 Net sales $ 216,339 $ 237,591 $ 593,664 $ 678,270 Net sales for the three months ended October 28, 2023 included a $ 1.6 million increase due to the change in foreign exchange rates, which consisted of a $ 2.1 million increase in Europe partially offset by a $ 0.3 million decrease in Canada and a $ 0.2 million decrease in Australia. Net sales for the nine months ended October 28, 2023 included a $ 0.4 million increase due to the change in foreign exchange rates, which consisted of a $ 2.5 million increase in Europe, partially offset by a $ 1.2 million decrease in Canada and a $ 0.9 million decrease in Australia. Our contract liabilities include deferred revenue related to our customer loyalty program and gift cards. The current liability for gift cards was $ 3.1 million at October 28, 2023 and $ 4.9 million at January 28, 2023, respectively. Deferred revenue related to our STASH loyalty program was $ 1.0 million at October 28, 2023 and $ 1.2 million at January 28, 2023 . 9 3. Cash, Cash Equivalents and Marketable Securities The following tables summarize the estimated fair value of our cash, cash equivalents and marketable securities and the gross unrealized holding gains and losses (in thousands): October 28, 2023 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 23,997 $ — $ — $ 23,997 Money market funds 10,241 — — 10,241 Corporate debt securities 14,732 — ( 2 ) 14,730 Total cash and cash equivalents 48,970 — ( 2 ) 48,968 Marketable securiti U.S. treasury and government agency securities 18,317 — ( 3,416 ) 14,901 Corporate debt securities 61,504 — ( 1,628 ) 59,876 State and local government securities 12,293 — ( 213 ) 12,080 Total marketable securities $ 92,114 $ — $ ( 5,257 ) $ 86,857 January 28, 2023 Amortized Cost Gross Unrealized Holding Gains Gross Unrealized Holding Losses Estimated Fair Value Cash and cash equivalents: Cash $ 30,587 $ — $ — $ 30,587 Money market funds 22,121 — — 22,121 Corporate debt securities 28,802 — ( 7 ) 28,795 Total cash and cash equivalents 81,510 — ( 7 ) 81,503 Marketable securiti U.S. treasury and government agency securities 20,973 — ( 2,891 ) 18,082 Corporate debt securities 60,832 — ( 2,848 ) 57,984 State and local government securities 16,490 — ( 570 ) 15,920 Total marketable securities $ 98,295 $ — $ ( 6,309 ) $ 91,986 All of our marketable securities have an effective maturity date or weighted average life of five years or less at the time of purchase and may be liquidated, at our discretion, prior to maturity. The following tables summarize the gross unrealized holding losses and fair value for investments in an unrealized loss position, and the length of time that individual securities have been in a continuous loss position (in thousands): October 28, 2023 Less Than 12 Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Cash and cash equivalents: Corporate debt securities $ 7,544 $ ( 2 ) $ — $ — $ 7,544 $ ( 2 ) Total cash and cash equivalents 7,544 ( 2 ) — — 7,544 ( 2 ) Marketable securiti U.S. treasury and government agency securities $ — $ — $ 14,901 $ ( 3,416 ) $ 14,901 $ ( 3,416 ) Corporate debt securities 1,596 ( 4 ) 43,302 ( 1,624 ) 44,898 ( 1,628 ) State and local government securities — — 12,080 ( 213 ) 12,080 ( 213 ) Total marketable securities $ 1,596 $ ( 4 ) $ 70,283 $ ( 5,253 ) $ 71,879 $ ( 5,257 ) 10 January 28, 2023 Less Than 12 Months 12 Months or Greater Total Fair Value Unrealized Losses Fair Value Unrealized Losses Fair Value Unrealized Losses Cash and cash equivalents: Corporate debt securities $ 27,099 $ ( 7 ) $ — $ — $ 27,099 $ ( 7 ) Total cash and cash equivalents 27,099 ( 7 ) - - 27,099 ( 7 ) Marketable securiti U.S. treasury and government agency securities 3,682 ( 229 ) 14,399 ( 2,662 ) 18,081 ( 2,891 ) Corporate debt securities 12,044 ( 604 ) 45,940 ( 2,244 ) 57,984 ( 2,848 ) State and local government securities 2,434 ( 50 ) 13,487 ( 520 ) 15,921 ( 570 ) Total marketable securities $ 18,160 $ ( 883 ) $ 73,826 $ ( 5,426 ) $ 91,986 $ ( 6,309 ) 4. Leases At October 28, 2023, we had operating leases for our retail stores, certain distribution and fulfillment facilities, vehicles and equipment. Our remaining lease terms vary from one month to twelve years , with va rying renewal and termination options. The following table presents components of lease expense (in thousands): Three Months Ended Nine Months Ended October 28, 2023 October 29, 2022 October 28, 2023 October 29, 2022 Operating lease expense $ 19,404 $ 18,591 $ 57,034 $ 55,349 Variable lease expense 1,341 1,905 5,121 5,680 Total lease expense (1) $ 20,745 $ 20,496 $ 62,155 $ 61,029 (1) Total lease expense includes short-term lease expense and sublease income which is immaterial to the Company. Total lease expense does not include right-of-use asset impairment charges, common area maintenance charges and other non-lease components. Supplemental cash flow information related to leases is as follows (in thousands): Nine Months Ended October 28, 2023 October 29, 2022 Cash paid for amounts included in the measurement of lease liabiliti Operating cash flows from operating leases $ ( 52,656 ) $ ( 56,796 ) Right-of-use assets obtained in exchange for new operating lease liabilities 45,823 49,331 Weighted-average remaining lease term and discount rate were as follows: October 28, 2023 October 29, 2022 Weighted-average remaining lease term 4.9 5.0 Weighted-average discount rate 3.2 % 2.5 % 11 At October 28, 2023, the maturities of our operating leases liabilities are as follows (in thousands): Fiscal 2023 $ 21,732 Fiscal 2024 71,970 Fiscal 2025 54,058 Fiscal 2026 35,520 Fiscal 2027 27,509 Thereafter 53,202 Total minimum lease payments 263,991 L interest ( 18,674 ) Present value of lease obligations 245,317 L current portion ( 69,084 ) Long-term lease obligations (1) $ 176,233 (1) Am ounts in the table do not include contingent rent, common area maintenance charges and other non-lease components. At October 28, 2023 , we have excluded from the table above $ 3.3 million of operating leases that were contractually executed, but had not yet commenced. These operating leases are expected to commence by the end of fiscal 2024. 5. Commitments and Contingencies Purchase Commitments— At October 28, 2023, we had outstanding purchase orders to acquire merchandise from vendors of $ 132.4 million. We have an option to cancel these commitments with no notice prior to shipment, except for certain private label and international purchase orders in which we are obligated to repay contractual amounts upon cancellation. Litigation— We are involved from time to time in claims, proceedings and litigation arising in the ordinary course of business. We have made accruals with respect to these matters, where appropriate, which are reflected in our condensed consolidated financial statements. For some matters, the amount of liability is not probable or the amount cannot be reasonably estimated and therefore accruals have not been made. We may enter into discussions regarding settlement of these matters, and may enter into settlement agreements, if we believe settlement is in the best interest of our shareholders. On October 14, 2022, former employee Seana Neihart filed a representative action under California’s Private Attorneys General Act, California Labor Code section 2698 et seq (“PAGA”), against us. An answer to the complaint was filed on December 8, 2022. A first amended complaint was filed on February 8, 2023 adding Jessica King as a plaintiff. The lawsuit alleges a series of wage and hour violations under California’s Labor Code. An answer was filed on March 14, 2023. Zumiez has moved to compel individual arbitration of Plaintiffs’ PAGA claims. A hearing is scheduled for November 29, 2023. We continue to investigate the claims and we intend to vigorously defend ourselves. Insurance Reserves— We use a combination of third-party insurance and self-insurance for a number of risk management activities including workers’ compensation, general liability and employee-related health care benefits. We maintain reserves for our self-insured losses, which are estimated based on historical claims experience and actuarial and other assumptions. The self-insurance reserve at October 28, 2023 and January 28, 2023 was $ 2.1 million and $ 2.8 million, respectively. 6. Revolving Credit Facilities and Debt On October 14, 2021, we amended our credit agreement with Wells Fargo Bank, N.A. (previously entered into December 7, 2018), which provided us with a senior secured credit facility (“credit facility”) of up to $ 25.0 million through December 1, 2023, and up to $ 35.0 million after December 1, 2023 and through December 1, 2024. A second amendment was made on July 27, 2023 which provided revised financial maintenance covenants through the duration of the facility. T he secured revolving credit facility is available for working capital and other general corporate purposes. The senior secured credit facility provides for the issuance of standby letters of credit in an amount not to exceed $ 17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $ 10.0 million and with terms not to exceed 120 days. The amount of borrowings available at any time under our credit facility is reduced by the amount of standby and commercial letters of credit outstanding at that time. The credit facility will mature on December 1, 2024 . All obligations under the credit facility are joint and several with Zumiez Services and guaranteed by certain of our subsidiaries. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1.35 % per annum. 12 The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. The credit facility contains certain financial maintenance covenants that generally require we/us to have a quick ratio of 1.25 :1.0 at the end of each fiscal quarter, and EBITDA not less than $ 12.0 million as of the fiscal quarters ending July 29, 2023 and October 28, 2023, and not less than $ 20.0 million as of the fiscal quarter ending February 3, 2024 and each fiscal quarter thereafter. EBITDA is defined as net profit before tax, depreciation and amortization expense, goodwill and other intangible impairment, leased right-of-use asset impairment, and store fixed asset impairment (up to an aggregate of $ 5.0 million), plus interest expense (net of capitalized interest expense). Th e credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. On November 30, 2023, a third amendment was made to our credit agreement. See Note 11 Subsequent Event for the details of the amendment. There were no borrowings outstanding under the credit facility at October 28, 2023 or January 28, 2023 . We had no open commercial letters of credit outstanding under our secured revolving credit facility at October 28, 2023 or January 28, 2023 . We had $ 3.5 million and $ 0.6 million in issued, but undrawn, standby letters of credit at October 28, 2023 and January 28, 2023, respectively. Additionally, on October 12, 2020, we entered into a credit facility with UBS Switzerland AG of up to 15.0 million Euro. The credit facility bore interest at 1.25 %. This credit facility was closed on December 30, 2022. 7. Fair Value Measurements We apply the following fair value hierarchy, which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measuremen • Level 1— Quoted prices in active markets for identical assets or liabilities; • Level 2— Quoted prices for similar assets or liabilities in active markets or inputs that are observable; and • Level 3— Inputs that are unobservable. The following tables summarize assets measured at fair value on a recurring basis (in thousands): October 28, 2023 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 10,241 $ — $ — Corporate debt securities — 14,730 — Marketable securiti U.S. treasury and government agency securities — 14,901 — Corporate debt securities — 59,876 — State and local government securities — 12,080 — Other long-term assets: Money market funds 5,242 — — Total $ 15,483 $ 101,587 $ — 13 January 28, 2023 Level 1 Level 2 Level 3 Cash equivalents: Money market funds $ 22,121 $ — $ — Corporate debt securities — 28,795 — Marketable securiti U.S. treasury and government agency securities — 18,082 — Corporate debt securities — 57,984 — State and local government securities — 15,920 — Other long-term assets: Money market funds 6,950 — — Total $ 29,071 $ 120,781 $ — The Level 2 marketable securities include U.S treasury and government agency securities, corporate debt securities, state and local municipal securities and variable-rate demand notes. Fair values are based on quoted market prices for similar assets or liabilities or determined using inputs that use readily observable market data that are actively quoted and can be validated through external sources, including third-party pricing services, brokers and market transactions. We review the pricing techniques and methodologies of the independent pricing service for Level 2 investments and believe that its policies adequately consider market activity, either based on specific transactions for the security valued or based on modeling of securities with similar credit quality, duration, yield and structure that were recently traded. We monitor security-specific valuation trends and we make inquiries with the pricing service about material changes or the absence of expected changes to understand the underlying factors and inputs and to validate the reasonableness of the pricing. Assets and liabilities recognized or disclosed at fair value on the consolidated financial statements on a nonrecurring basis include items such as fixed assets, operating lease right-of-use-assets, goodwill, other intangible assets and other assets. These assets are measured at fair value if determined to be impaired. During the three months ended October 28, 2023 we recognized $ 0.4 million in impairment loss es related to fixed assets and $ 0.1 million in impairment losses related to operating lease right-of-use assets. During the nine months ended October 28, 2023 , we recognized $ 0.7 million in impairment loss es related to fixed assets and $ 0.2 million in impairment losses related to operating lease right-of-use assets. During the three months ended October 29, 2022, we recognized $ 0.1 million in impairment losses related to operating lease right-of-use assets and $ 0.2 million in impairment losses related to fixed assets. During the nine months ended October 29, 2022, we recognized $ 0.2 million in impairment losses related to operating lease right-of-use assets and $ 0.2 million in impairment losses related to fixed assets. 8. Stockholders’ Equity Accumulated Other Comprehensive Loss — The components of accumulated other comprehensive loss and the adjustments to other comprehensive income (loss) for amounts reclassified from accumulated other comprehensive loss into net loss are as follows (in thousands): Foreign currency translation adjustments (3) Net unrealized losses on available-for- sale debt securities Accumulated other comprehensive loss Three months ended October 28, 2023: Balance at July 29, 2023 $ ( 14,330 ) $ ( 4,227 ) $ ( 18,557 ) Other comprehensive income (loss), net (1) ( 6,116 ) 326 ( 5,790 ) Balance at October 28, 2023 $ ( 20,446 ) $ ( 3,901 ) $ ( 24,347 ) Three months ended October 29, 2022: Balance at July 30, 2022 $ ( 22,651 ) $ ( 4,011 ) $ ( 26,662 ) Other comprehensive loss, net (1) ( 4,476 ) ( 2,147 ) ( 6,623 ) Balance at October 29, 2022 $ ( 27,127 ) $ ( 6,158 ) $ ( 33,285 ) 14 Foreign currency translation adjustments (3) Net unrealized losses on available-for- sale investments Accumulated other comprehensive loss Nine months ended October 28, 2023: Balance at January 28, 2023 $ ( 15,101 ) $ ( 4,692 ) $ ( 19,793 ) Other comprehensive income (loss), net (2) ( 5,345 ) 791 ( 4,554 ) Balance at October 28, 2023 $ ( 20,446 ) $ ( 3,901 ) $ ( 24,347 ) Nine months ended October 29, 2022: Balance at January 29, 2022 $ ( 12,505 ) $ ( 958 ) $ ( 13,463 ) Other comprehensive loss, net (2) ( 14,622 ) ( 5,200 ) ( 19,822 ) Balance at October 29, 2022 $ ( 27,127 ) $ ( 6,158 ) $ ( 33,285 ) (1) Other comprehensive income before reclassifications was $ 0.2 million, net of taxes for net unrealized losses on available-for-sale investments for the three months ended October 28, 2023. Other comprehensive loss before reclassifications was $ 2.2 million, net of taxes for net unrealized losses on available-for-sale investments for the three months ended October 29, 2022 . There were no net unrealized losses, net of taxes, reclassified from accumulated other comprehensive loss for the three months ended October 28, 2023. Net unrealized losses, net of taxes, reclassified from accumulated other comprehensive loss was $ 0.1 million for the three months ended October 29, 2022. (2) Other comprehensive income before reclassifications was $ 0.8 million, net of taxes for net unrealized losses on available-for-sale investments for the nine months ended October 28, 2023. Other comprehensive loss before reclassifications was $ 5.3 million, net of taxes for net unrealized losses on available-for-sale investments for the nine months ended October 29, 2022 . There were no net unrealized losses, net of taxes, reclassified from accumulated other comprehensive loss for the nine months ended October 28, 2023. Net unrealized losses, net of taxes, reclassified from accumulated other comprehensive loss was $ 0.1 million for the nine months ended October 29, 2022. (3) Foreign currency translation adjustments are not adjusted for income taxes as they relate to permanent investments in our international subsidiaries. 9. Equity Awards We maintain several equity incentive plans under which we may grant incentive stock options, nonqualified stock options, stock bonuses, restricted stock awards, restricted stock units and stock appreciation rights to employees (including officers), non-employee directors and consultants. We account for stock-based compensation by recording the estimated fair value of stock-based awards granted as compensation expense over the vesting period, net of estimated forfeitures. Stock-based compensation expense is attributed to earnings using a straight-line method. We estimate forfeitures of stock-based awards based on historical experience and expected future activity. The fair value of restricted stock awards and units is measured based on the closing price of our common stock on the date of grant. The fair value of stock option grants is estimated on the date of grant using the Black-Scholes option pricing model. Total stock-based compensation expense is recognized on our condensed consolidated statements of operations as follows (in thousands): Three Months Ended Nine Months Ended October 28, 2023 October 29, 2022 October 28, 2023 October 29, 2022 Cost of goods sold $ 390 $ 364 $ 1,164 $ 1,099 Selling, general and administrative expenses 1,242 1,372 3,944 4,150 Total stock-based compensation expense $ 1,632 $ 1,736 $ 5,108 $ 5,249 15 At October 28, 2023, there was $ 10.4 million of total unrecognized compensation cost related to unvested stock options, restricted stock awards and restricted stock units. This cost has a weighted-average remaining recognition period of 1.2 years. The following table summarizes restricted stock awards and restricted stock units, collectively defined as “restricted equity awards” (in thousands, except grant date weighted-average fair value): Restricted Stock Awards/Units Grant Date Weighted- Average Fair Value Intrinsic Value Outstanding at January 28, 2023 397 $ 33.34 Granted 333 $ 20.06 Vested ( 191 ) $ 29.45 Forfeited ( 30 ) $ 31.78 Outstanding at October 28, 2023 509 $ 26.19 $ 8,728 We had 0.4 million stock options outstanding at October 28, 2023 with a grant date weighted average exercise price of $ 26.51 and 0.3 million stock options outstanding at January 28, 2023 with a grant date weighted average exercise price of $ 29.30 . 10. (Loss) Earnings per Share, Basic and Diluted The following table sets forth the computation of basic and diluted (loss) earnings per share (in thousands, except per share amounts): Three Months Ended Nine Months Ended October 28, 2023 October 29, 2022 October 28, 2023 October 29, 2022 Net (loss) earnings $ ( 2,231 ) $ 6,932 $ ( 29,122 ) $ 9,602 Weighted average common shares for basic (loss) earnings per sh 19,327 19,101 19,278 19,239 Dilutive effect of stock options and restricted stock — 147 — 251 Weighted average common shares for diluted (loss) earnings per sh 19,327 19,248 19,278 19,490 Basic (loss) earnings per share $ ( 0.12 ) $ 0.36 $ ( 1.51 ) $ 0.50 Diluted (loss) earnings per share $ ( 0.12 ) $ 0.36 $ ( 1.51 ) $ 0.49 There were 0.4 million and 0.1 million anti-dilutive common shares related to stock-based awards for the three months ended October 28, 2023 and October 29, 2022 , respectively. There were 0.5 million and 0.1 million anti-dilutive common shares related to stock-based awards for the nine months ended October 28, 2023 and October 29, 2022 , respectively. 11. Subsequent Event On November 30, 2023, we entered into a third amendment to our credit facility with Wells Fargo Bank, N.A. The amendment, among other things, (a) amended the credit limit to $ 25 million through December 1, 2024; (b) amended the EBITDA covenant to not less than $ 9 million for the quarter ending October 28, 2023, not less than $ 2.5 million for the quarter ending February 3, 2024, not less than $ 9 million in the quarter ending May 4, 2024, not less than $ 12 million for the quarter ending August 3, 2024, and not less than $ 20 million for the quarter ending November 2, 2024; (c) amended the borrowing rate to SOFR plus 1.75 % per annum; (d) introduced an unused commitment fee of 0.50 % per annum; and (e) disallows distribution of dividends or execution of stock buybacks through December 1, 2024 without bank approval. 16 Item 2: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes included elsewhere in this document. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those discussed in “Item 1A Risk Factors” in our Form 10-K filed with the SEC on March 20, 2023 and in this Form 10-Q. Forward-looking statements relate to our expectations for future events and future financial performance. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. These statements are only predictions. Actual events or results may differ materially. Factors which could affect our financial results are described below under the heading “Risk Factors” and in “Item 1A Risk Factors” of our Form 10-K referred to in the preceding paragraph. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Moreover, neither we nor any other person assume responsibility for the accuracy and completeness of the forward-looking statements. We undertake no duty to update any of the forward-looking statements after the date of this report to conform such statements to actual results or to changes in our expectations. Fiscal 2023 is the 53-week period ending February 3, 2024. Fiscal 2022 was the 52-week period ending January 28, 2023. The first nine months of fiscal 2023 was the 39-week period ended October 28, 2023. The first nine months of fiscal 2022 was the 39-week period ended October 29, 2022. “Zumiez,” the “Company,” “we,” “us,” “its,” “our” and similar references refer to Zumiez Inc. and its wholly-owned subsidiaries. General Net sales constitute gross sales (net of actual and estimated returns and deductions for promotions) and shipping revenue. Net sales include our store sales and our ecommerce sales. We record the sale of gift cards as a current liability and recognize revenue when a customer redeems a gift card. Additionally, the portion of gift cards that will not be redeemed (“gift card breakage”) is recognized based on our historical redemption rate in proportion to the pattern of rights exercised by the customer. We report “comparable sales” based on net sales beginning on the first anniversary of the first day of operation of a new store or ecommerce business. We operate a sales strategy that integrates our stores with our ecommerce platform. There is significant interaction between our store sales and our ecommerce sales channels and we believe that they are utilized in tandem to serve our customers. Therefore, our comparable sales also include our ecommerce sales. Changes in our comparable sales between two periods are based on net sales of store or ecommerce businesses which were in operation during both of the two periods being compared and, if a store or ecommerce business is included in the calculation of comparable sales for only a portion of one of the two periods being compared, then that store or ecommerce business is included in the calculation for only the comparable portion of the other period. Any increase or decrease less than 25% in square footage of an existing comparable store, including remodels and relocations within the same mall, or temporary closures less than seven days does not eliminate that store from inclusion in the calculation of comparable sales. Any store or ecommerce business that we acquire will be included in the calculation of comparable sales after the first anniversary of the acquisition date. Current year foreign exchange rates are applied to both current year and prior year comparable sales to achieve a consistent basis for comparison. There may be variations in the way in which some of our competitors and other apparel retailers calculate comparable sales. As a result, data herein regarding our comparable sales may not be comparable to similar data made available by our competitors or other retailers. Cost of goods sold consists of branded merchandise costs and our private label merchandise costs including design, sourcing, importing and inbound freight costs. Our cost of goods sold also includes shrinkage, buying, occupancy, distribution and warehousing costs (including associated depreciation) and freight costs for store merchandise transfers. This may not be comparable to the way in which our competitors or other retailers compute their cost of goods sold. Cash consideration received from vendors is reported as a reduction of cost of goods sold if the inventory has sold, a reduction of the carrying value of the inventory if the inventory is still on hand, or a reduction of selling, general and administrative expense if the amounts are reimbursements of specific, incremental and identifiable costs of selling the vendors’ products. With respect to the freight component of our ecommerce sales, amounts billed to our customers are included in net sales and the related freight cost is charged to cost of goods sold. 17 Selling, general and administrative expenses consist primarily of store personnel wages and benefits, administrative staff and infrastructure expenses, freight costs for merchandise shipments from the distribution centers to the stores, store supplies, depreciation on fixed assets at our home office and stores, facility expenses, training expenses and advertising and marketing costs. Credit card fees, insurance, public company expenses, legal expenses, incentive compensation, stock-based compensation and other miscellaneous operating costs are also included in selling, general and administrative expenses. This may not be comparable to the way in which our competitors or other retailers compute their selling, general and administrative expenses. Key Performance Indicators Our management evaluates the following items, which we consider key performance indicators, in assessing our performan Net sales. Net sales constitute gross sales, net of sales returns and deductions for promotions, and shipping revenue. Net sales includes comparable sales and new store sales for all our store and ecommerce businesses. We consider net sales to be an important indicator of our current performance. Net sales results are important to achieve leveraging of our costs, including store payroll and store occupancy. Net sales also have a direct impact on our operating profit, cash and working capital. Gross profit. Gross profit measures whether we are optimizing the price and inventory levels of our merchandise. Gross profit is the difference between net sales and cost of goods sold. Any inability to obtain acceptable levels of initial markups or any significant increase in our use of markdowns could have an adverse effect on our gross profit and results of operations. Operating profit. We view operating profit as a key indicator of our success. Operating profit is the difference between gross profit and selling, general and administrative expenses. The key drivers of operating profit are net sales, gross profit, our ability to control selling, general and administrative expenses and our level of capital expenditures affecting depreciation expense. Diluted earnings per share. Diluted earnings per share is based on the weighted average number of common shares and common share equivalents outstanding during the period. We view diluted earnings per share as a key indicator of our success in increasing shareholder value. Trends and Uncertainties Affecting Our Results and Comparability We have been, and we expect to continue to be affected by a number of factors that may cause actual results to differ from our historical results or current expectations. These factors include the impact of foreign currency rates; changes in laws, including U.S. tax law changes; fluctuations in variable costs, and changes in general economic conditions in the markets in which we operate. Additionally, we have experienced increased costs during 2022 and 2023. Our ability to raise our selling prices depends on market conditions and there may be periods during which we are unable to fully recover increases in our costs or experience an adverse impact on demand due to pricing actions. We believe higher consumer price inflation has resulted in reduced consumer confidence and consumer spending which negatively impacted our sales during fiscal 2022 and the first six months of fiscal 2023. Results of Operations The following table presents selected items on the condensed consolidated statements of operations as a percent of net sal Three Months Ended Nine Months Ended October 28, 2023 October 29, 2022 October 28, 2023 October 29, 2022 Net sales 100.0 % 100.0 % 100.0 % 100.0 % Cost of goods sold 66.2 65.5 69.0 66.2 Gross profit 33.8 34.5 31.0 33.8 Selling, general and administrative expenses 33.9 30.1 36.3 31.5 Operating (loss) profit (0.1 ) 4.4 (5.3 ) 2.3 Interest and other income, net — (0.4 ) 0.2 0.1 (Loss) earnings before income taxes (0.1 ) 4.0 (5.1 ) 2.4 (Benefit from) provision for income taxes 0.9 1.1 (0.2 ) 1.0 Net (loss) income (1.0 ) % 2.9 % (4.9 ) % 1.4 % 18 Three Months (13 weeks) Ended October 28, 2023 Compared With Three Months (13 weeks) Ended October 29, 2022 Net Sales Net sales were $216.3 million for the three months ended October 28, 2023 compared to $237.6 million for the three months ended October 29, 2022, a decrease of $21.3 million or 8.9%. The decrease in sales was driven by our North America and Australia business offset by more favorable results in Europe. During the quarter, the business continued to see softer sales primarily driven by continued inflationary pressures on the consumer, a shift in spending to travel and experiences, and softer demands for full price key styles and trends in the North America business. By region, North America sales decreased $24.7 million or 12.0% and other international sales (which consists of Europe and Australia sales) increased $3.5 million or 11.1% for the three months ended October 28, 2023 compared to the three months ended October 29, 2022. Excluding the impact of changes in foreign exchange rates, North America sales decreased $24.5 million or 11.9% and other international sales increased $1.6 million or 5.2% for the three months ended October 28, 2023 compared to the three months ended October 29, 2022. Net sales included a decrease in transactions and an increase in dollars per transaction. Dollars per transaction increased due to an increase in average unit retail and units per transaction. By category, net sales were primarily driven by an increase in men's clothing and decrease in footwear followed by women's clothing, accessories, and hardgoods. Gross Profit Gross profit was $73.2 million for the three months ended October 28, 2023 compared to $82.0 million for the three months ended October 29, 2022, a decrease of $8.8 million, or 10.7%. As a percent of net sales, gross profit decreased 70 basis points for the three months ended October 28, 2023 to 33.8% as we saw significant deleverage on lower sales across our fixed costs as well as rate decreases in numerous areas. The decrease was primarily driven by a 120 basis point deleverage in store occupancy costs, a 50 basis point decrease in product margin (defined as net sales minus cost of goods sold excluding shrinkage, buying, occupancy, distribution and warehousing costs and freight costs for store merchandise transfers), a 20 basis point increase in web fulfillment costs and 10 basis point increase in buying and private label costs. These decreases were partially offset by 70 basis point decrease in web shipping costs, 50 basis point decrease in distribution center costs, 20 basis point decrease in inventory shrinkage. Selling, General and Administrative Expenses Selling, general and administrative (“SG&A”) expenses were $73.4 million for the three months ended October 28, 2023 compared to $71.5 million for the three months ended October 29, 2022, an increase of $1.8 million, or 2.5%. SG&A expenses as a percent of net sales increased 380 basis points for the three months ended October 28, 2023 to 33.9%. The increase was primarily driven by 160 basis points due to store wages tied to both deleverage on lower sales as well as rate increase that we could not offset by reduction of hours, 110 basis points in non-store wages, 80 basis points due to store costs not tied to store wages primarily impacted by deleverage on lower sales, 30 basis points in corporate costs due to deleverage on lower sales. Net Loss Net loss for the three months ended October 28, 2023 was $2.2 million, or $0.12 loss per diluted share, compared with net income of $6.9 million, or $0.36 earnings per diluted share, for the three months ended October 29, 2022. Our effective income tax rate for the three months ended October 28, 2023 was a negative 806.8% provision for income taxes compared to a 27.9% provision for income taxes for the three months ended October 29, 2022. The decrease in effective income tax rate was primarily due to net losses and allocation of income and losses across the jurisdictions that we operate. Nine Months (39 weeks) Ended October 28, 2023 Compared With Nine Months (39 weeks) Ended October 29, 2022 Net Sales Net sales were $593.7 million for the nine months ended October 28, 2023 compared to $678.3 million for the nine months ended October 29, 2022, a decrease of $84.6 or 12.5%. The decrease in sales was driven by our North America business offset by more favorable results for Europe and Australia. During the first half of the year the business continued to see softer sales primarily driven by continued inflationary pressures on the consumer, a shift in spending to travel and experiences, and softer demands for full price key styles and trends in the North America business. By region, North America sales decreased $97.3 million or 16.7% and other international sales (which consists of Europe and Australia sales) increased $12.7 or 13.3% for the nine months ended October 28, 2023 compared to the nine months ended October 29, 2022. Excluding the impact of changes in foreign exchange rates, North 19 America sales decreased $96.1 million or 16.5% and other international sales increased $11.1 million or 11.6% for the nine months ended October 28, 2023 compared to the nine months ended October 29, 2022. Net sales included a decrease in transactions and an increase in dollars per transaction. Dollars per transaction increased due to a increase in average unit retail that was offset by a decrease in units per transaction. By category, net sales were primarily driven by an decrease in footwear, followed by hardgoods, women's clothing, accessories, and men's clothing. Gross Profit Gross profit was $184.2 million for the nine months ended October 28, 2023 compared to $229.4 million for the nine months ended October 29, 2022, a decrease of $45.2 million, or 19.7%. As a percent of net sales, gross profit decreased 280 basis points for the nine months ended October 28, 2023 to 31.0% as we saw significant deleverage on lower sales across our fixed costs as well as rate increases in numerous areas. The decrease was primarily driven by a 200 basis point deleverage in store occupancy costs, a 60 basis point decrease in product margin (defined as net sales minus cost of goods sold excluding shrinkage, buying, occupancy, distribution and warehousing costs and freight costs for store merchandise transfers), and a 30 basis point increase in buying and private label costs. Selling, General and Administrative Expenses Selling, general and administrative (“SG&A”) expenses were $216.2 million for the nine months ended October 28, 2023 compared to $213.5 million for the nine months ended October 29, 2022, an increase of $2.7 million, or 1.3%. SG&A expenses as a percent of net sales increased 490 basis points for the nine months ended October 28, 2023 to 36.3%. The increase was primarily driven by 200 basis points due to store wages tied to both deleverage on lower sales as well as rate increase that we could not offset by reduction of hours, 150 basis points due to store costs not tied to store wages primarily impacted by deleverage on lower sales, 60 basis points due to a decrease in government subsidies related to a one-time German government subsidy received in the first quarter of fiscal 2022, and 110 basis points in non-store wages. These increases were partially offset by a 30 basis point decrease in events as our important 100K events due to timing. Net Loss Net loss for the nine months ended October 28, 2023 was $29.1 million, or $1.51 loss per diluted share, compared with net income of $9.6 million, or $0.49 earnings per diluted share, for the nine months ended October 29, 2022. Our effective income tax rate was 4.8% and 41.2% provision for income taxes for the nine months ended October 28, 2023 and October 29, 2022, respectively. The decrease in effective income tax rate was primarily due to net losses and the allocation of those losses across the jurisdictions that we operate. Liquidity and Capital Resources Our primary uses of cash are for operational expenditures, inventory purchases and capital investments, including new stores, store remodels, store relocations, store fixtures and ongoing infrastructure improvements. Additionally, we may use cash for the repurchase of our common stock. Historically, our main source of liquidity has been cash flows from operations. The significant components of our working capital are inventories and liquid assets such as cash, cash equivalents, current marketable securities and receivables, reduced by accounts payable, accrued payroll and accrued expenses. Our working capital position benefits from the fact that we generally collect cash from sales to customers the same day or within several days of the related sale, while we typically have longer payment terms with our vendors. Our capital requirements include construction and fixture costs related to the opening of new stores and remodel and relocation expenditures for existing stores. Future capital requirements will depend on many factors, including the pace of new store openings, the availability of suitable locations for new stores and the nature of arrangements negotiated with landlords. Our net investment to open a new store has varied significantly in the past due to a number of factors, including the geographic location and size of the new store, and is likely to vary significantly in the future. During fiscal 2023, we expect to spend approximately $20 million to $21 million on capital expenditures, a majority of which will relate to leasehold improvements and fixtures for the approximately 18 new stores we remain on track to open in fiscal 2023 and remodels or relocations of existing stores. There can be no assurance that the number of stores that we open in fiscal 2023 will not be different from the number of stores we plan to open, or that actual fiscal 2023 capital expenditures will not differ from our expectations. 20 Operating Activities Net cash used in operating activities increased by $13.5 million due to $22.9 million used in operating activities for the nine months ended October 28, 2023 from $36.4 million used in operating activities for the nine months ended October 29, 2022. Net cash used in operating activities was $22.9 million for the nine months ended October 28, 2023 related to $65.6 million in unfavorable changes in our operating assets and liabilities and a $29.1 million net loss, excluding $71.8 million of noncash charges included within net loss for the period. Net cash used in operating activities was $36.4 million for the nine months ended October 29, 2022 related to $122.3 million in unfavorable changes in our operating assets and liabilities and $9.6 million net income, excluding $76.3 million of noncash charges included within net income for the period. Our operating cash flows generally result primarily from cash received from our customers, offset by cash payments we make for inventory, employee compensation, store occupancy expenses and other operational expenditures. Cash received from our customers generally corresponds to our net sales. Because our customers primarily use credit cards or cash to buy from us, our receivables from customers settle quickly. Historically, changes to our operating cash flows have been driven primarily by changes in operating income, which is impacted by changes to non-cash items such as depreciation, amortization and accretion, deferred taxes, and changes to the components of working capital. Investing Activities Net cash used in investing activities was $10.4 million for the nine months ended October 28, 2023 related to $28.7 million purchases of marketable securities and other investments, and $16.2 million of capital expenditures primarily for new store openings and existing store remodels or relocations, partially offset by $34.5 million in net sales of marketable securities. Net cash provided by investing activities was $60.4 million for the nine months ended October 29, 2022, related to $80 million in net sales of marketable securities, partially offset by $17.7 million of capital expenditures primarily for new store openings and existing store remodels or relocations, and $1.9 million purchases of marketable securities. Financing Activities Net cash provided by financing activities for the nine months ended October 28, 2023 was $0.7 million related to proceeds from the issuance and exercise of stock-based awards. Net cash used in financing activities for the nine months ended October 29, 2022 was $87.2 million, related to $87.8 million used in the repurchase of common stock and $0.5 million in payments for tax withholding obligations upon vesting of restricted stock, partially offset by $1.1 million in proceeds from the issuance and exercise of stock-based awards. Sources of Liquidity Our most significant sources of liquidity continue to be funds generated by operating activities and available cash, cash equivalents and current marketable securities. We expect these sources of liquidity and available borrowings under our revolving credit facility will be sufficient to meet our foreseeable cash requirements for operations and planned capital expenditures for at least the next twelve months. Beyond this time frame, if cash flows from operations are not sufficient to meet our capital requirements, then we will be required to obtain additional equity or debt financing in the future. However, there can be no assurance that equity or debt financing will be available to us when we need it or, if available, that the terms will be satisfactory to us and not dilutive to our then-current shareholders. We maintained a secured credit agreement with Wells Fargo Bank, N.A., which provided us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2024. The credit facility is available for working capital and other general corporate purposes. The credit facility provides for the issuance of standby letters of credit in an amount not to exceed $17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $10.0 million and with terms not to exceed 120 days. The credit facility will mature on December 1, 2024. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. As noted in the subsequent event note, numbered 11 in the Notes to Condensed Consolidated Financial Statements, an amendment was entered into for the secured credit agreement effective as of November 30, 2023. The amendment, among other things, (a) amended the credit limit to $25 million through December 1, 2024; (b) amended the EBITDA covenant to not less than $9 million for the quarter ending October 28, 2023, not less than $2.5 million for the quarter ending February 3, 2024, not less than $9 million in the quarter ending May 4, 2024, not less than $12 million for the quarter ending August 3, 2024, and not less than $20 million for the quarter ending November 2, 2024; (c) amended the borrowing rate to SOFR plus 1.75% per annum; (d) introduced an unused commitment fee of 0.50% per annum; and (e) disallows distribution of dividends or execution of stock buybacks through December 1, 2024 without bank approval. 21 There were no borrowings outstanding under the credit facility at October 28, 2023 or January 28, 2023. We had no open commercial letters of credit outstanding under our secured revolving credit facility at October 28, 2023 or January 28, 2023. We had $3.5 million and $0.6 million in issued, but undrawn, standby letters of credit at October 28, 2023 and January 28, 2023, respectively. At October 28, 2023 , we did not have any “off-balance sheet arrangements” as defined in relevant SEC regulations that are reasonably likely to have a current or future effect on our financial condition, results of operation, liquidity, capital expenditures or capital resources. Critical Accounting Estimates Our condensed consolidated financial statements are prepared in accordance with U.S. GAAP. In connection with the preparation of our condensed consolidated financial statements, we are required to make assumptions and estimates about future events and apply judgments that affect the reported amounts of assets, liabilities, revenue, expenses and the related disclosures. We base our assumptions, estimates and judgments on historical experience, current trends and other factors that we believe to be relevant at the time our condensed consolidated financial statements are prepared. On a regular basis, we review the accounting policies, assumptions, estimates and judgments to ensure that our condensed consolidated financial statements are presented fairly and in accordance with U.S. GAAP. However, because future events and their effects cannot be determined with certainty, actual results could differ from our assumptions and estimates, and such differences could be material. There have been no significant changes to our critical accounting estimates as discussed in our Annual Report on Form 10-K for the fiscal year ended January 28, 2023. 22 Risk Factors Investing in our securities involves a high degree of risk. The following risk factors, issues and uncertainties should be considered in evaluating our future prospects. In particular, keep these risk factors in mind when you read “forward-looking” statements elsewhere in this report. Forward-looking statements relate to our expectations for future events and time periods. Generally, the words “anticipates,” “expects,” “intends,” “may,” “should,” “plans,” “believes,” “predicts,” “potential,” “continue” and similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, and future events and circumstances could differ significantly from those anticipated in the forward-looking statements. Any of the following risks could harm our business, operating results or financial condition and could result in a complete loss of your investment. Additional risks and uncertainties that are not yet identified or that we currently think are immaterial may also harm our business and financial condition in the future. U.S. and global economic and political uncertainty, coupled with cyclical economic trends in retailing, could have a material adverse effect on our results of operations. Our retail market historically has been subject to substantial cyclicality. As the U.S. and global economic and political conditions change, the trends in discretionary consumer spending become unpredictable and discretionary consumer spending could be reduced due to uncertainties about the future. Economic and consumer confidence can also be affected by a variety of factors, including housing prices, unemployment rates and inflation. Sustained levels of inflation, rising interest rates, significant U.S. dollar and foreign currency fluctuations, lower consumer confidence, depressed consumer spending, higher levels of consumer debt, geopolitical instability, economic uncertainty, slower growth or a recession, volatility in the stock market, and other disruptions impacting the retail industry could adversely impact demand for our services. When disposable income decreases or discretionary consumer spending is reduced due to a decline in consumer confidence, purchases of apparel and related products may decline. A deterioration in macroeconomic conditions or consumer confidence or uncertainty in the U.S. and global economies and political environment could have a material adverse impact on our results of operations and financial position. In times when there is a decline in disposable income and consumer confidence, there could be a trend to consumers seeking more inexpensive or value-oriented merchandise. As a retailer that sells a substantial majority of branded merchandise, this could disproportionately impact us more than vertically integrated private label retailers or we may be forced to rely on promotional sales to compete in our market which could have a material adverse effect on our financial position. Failure to anticipate, identify and respond to changing fashion trends, customer preferences and other fashion-related factors could have a material adverse effect on us. Customer tastes and fashion trends in our market are volatile and tend to change rapidly. Our success depends on our ability to effectively anticipate, identify and respond to changing fashion tastes and consumer preferences, and to translate market trends into appropriate, saleable product offerings in a timely manner. If we are unable to successfully anticipate, identify or respond to changing styles or trends and misjudge the market for our products or any new product lines, including adequately anticipating the correct mix and trends of our private label merchandise, our sales may be lower than predicted and we may be faced with a substantial amount of unsold inventory or missed opportunities. In response to such a situation, we may be forced to rely on markdowns or promotional sales to dispose of excess or slow-moving inventory, which could have a material adverse effect on our results of operations. We may be unable to compete favorably in the highly competitive retail industry, and if we lose customers to our competitors, our sales could decrease. The teenage and young adult retail apparel, footwear, accessories and hardgoods industry is highly competitive. We compete with other retailers for vendors, teenage and young adult customers, suitable store locations, qualified store associates, management personnel, online marketing content, social media engagement and ecommerce traffic. Some of our competitors are larger than we are and have substantially greater financial and marketing resources, including advanced ecommerce market capabilities. Additionally, some of our competitors may offer more options for free and/or expedited shipping for ecommerce sales. Direct competition with these and other retailers may increase significantly in the future, which could require us, among other things, to lower our prices and could result in the loss of our customers. Current and increased competition could have a material adverse effect on our business, results of operations and financial condition. 23 The novel coronavirus (COVID-19) global pandemic could continue to have a material impact on our business. Since being declared a pandemic by the World Health Organization in March 2020, COVID-19 has negatively impacted global economies, disrupted consumer spending and global supply chains, and created significant volatility and disruption of financial markets. The COVID-19 global pandemic could continue to have a material impact on our business, including our results of operations, financial condition and liquidity. The duration and severity of the COVID-19 pandemic will determine its ongoing impact on our business, including our ability to execute business strategies and initiatives in their expected time frame, the effect on our suppliers and disruptions to the global supply chain, and the ability of our customers to pay for our services and products. A resurgence in the spread of COVID-19, or its variants, could force the closure of our retail stores globally, as we saw in the first quarter of 2020. We could also experience store closures on a regional basis, like we have seen in 2020 and 2021. We may face long term store closure requirements and other operational restrictions with respect to some or all of our physical locations for prolonged periods of time due to, among other factors, evolving and increasingly stringent governmental restrictions, public health directives, quarantine policies, or social distancing measures, resulting in a materially adverse impact to our financial results. With store closures withstanding, consumer fears about becoming ill with the virus may persist, adversely affecting traffic to our stores. Consumer spending may also be negatively impacted by general economic downturn and decreased consumer confidence resulting from the COVID-19 global pandemic. This may negatively impact sales in our stores and our ecommerce channel. The potential reduction in consumer visits to our stores, caused by COVID-19, and any decreased spending at retail stores or online caused by a lack of consumer confidence and spending following the pandemic, could result in a loss of sales and profits. A rise in the spread of COVID-19 also has the potential to significantly impact our supply chain if manufacturers of our products, distribution centers where we manage our inventory, or operations of our logistics and other service providers are disrupted, temporarily closed or experience worker shortages. Due to the seasonality of our business, widespread closures during peak shopping periods could disproportionally impact financial results. The inability to effectively adapt to changes in consumer behavior could result in excess inventory and adversely impact financial results. We may experience adverse effects of prolonged operating restrictions related to in-person marketing and training events. The COVID-19 pandemic’s impact on macroeconomic conditions could alter the functioning of financial and capital markets, foreign currency exchange rates, commodity prices, and interest rates. After the COVID-19 global pandemic has settled, we may continue to experience adverse impacts to our business as a result of evolving macroeconomic factors, including general economic uncertainty, unemployment rates, high inflation, recessionary pressures and any actual economic recession that has occurred or may occur in the future. The extent of the impact of the COVID-19 global pandemic on our business remains uncertain and difficult to predict, given the innumerable unknowns regarding the duration and severity of the pandemic. Most of our merchandise is produced by foreign manufacturers; therefore, the availability, quality and costs of our merchandise may be negatively affected by risks associated with international trade and other international conditions. Most of our merchandise is produced by manufacturers around the world. Some of these facilities are located in regions that may be affected by natural disasters, public health concerns, or emergencies, such as COVID-19 and other communicable diseases or viruses, political instability or other conditions that could cause a disruption in trade. Trade restrictions such as increased tariffs or quotas, or both, could also increase the cost and reduce the supply of merchandise available to us. Any reduction in merchandise available to us or any increase in its cost due to tariffs, quotas or local issues that disrupt trade could have a material adverse effect on our results of operations. This includes costs to comply with regulatory developments regarding the use of “conflict minerals,” certain minerals originating from the Democratic Republic of Congo and adjoining countries, which may affect the sourcing and availability of raw materials used by manufacturers and subject us to increased costs associated with our products, processes or sources of our inputs. Our business could be adversely affected by disruptions in the supply chain, such as strikes, work stoppages, or port closures. 24 A decrease in consumer traffic could cause our sales to be less than expected. We depend heavily on generating customer traffic to our stores and websites. This includes locating many of our stores in prominent locations within successful shopping malls. Sales at these stores are derived, in part, from the volume of traffic in those malls. Our stores benefit from the ability of a mall’s “anchor” tenants, generally large department stores and other area attractions, to generate consumer traffic in the vicinity of our stores and the continuing popularity of malls as shopping destinations. In addition, some malls that were in prominent locations when we opened our stores may cease to be viewed as prominent. If this trend continues or if the popularity of mall shopping continues to decline generally among our customers, our sales may decline, which would impact our results of operations. Additionally, we may experience other risks associated with operating leases, such as lease termination or impairment of operating lease right-of-use assets. These risks may include circumstances that are not within our control, such as changes in fair market rent. Furthermore, we depend on generating increased traffic to our ecommerce business and converting that traffic into sales. This requires us to achieve expected results from our marketing and social media campaigns, accuracy of data analytics, reliability of our website, network, and transaction processing and a high-quality online customer experience. Our sales volume and customer traffic in our stores and on our websites generally could be adversely affected by, among other things, economic downturns, competition from other ecommerce retailers, non-mall retailers and other malls, increases in gasoline prices, fluctuations in exchange rates in border or tourism-oriented locations and the closing or decline in popularity of other stores in the malls in which we are located. Also, geopolitical events, including the threat of terrorism, or widespread health emergencies, such as COVID-19 and other communicable diseases, viruses, or pandemics, could cause people to avoid our stores in shopping malls and alter consumer trends. An uncertain economic outlook or continued bankruptcies of mall-based retailers could curtail new shopping mall development, decrease shopping mall and ecommerce traffic, reduce the number of hours that shopping mall operators keep their shopping malls open or force them to cease operations entirely. A reduction in consumer traffic to our stores or websites could have a material adverse effect on our business, results of operations and financial condition. Our growth strategy depends on our ability to grow customer engagement in our current markets and expand into new markets, which could strain our resources and cause the performance of our existing business to suffer. Our growth largely depends on our ability to optimize our customer engagement in our current trade areas and operate successfully in new geographic markets. However, our ability to open stores in new geographic markets, including international locations, is subject to a variety of risks and uncertainties, and we may be unable to open new stores as planned or have access to desirable lease space, and any failure to successfully open and operate in new markets could have a material adverse effect on our results of operations. We intend to continue to open new stores in future years, while remodeling a portion of our existing store base such that we have the optimum number of stores in any given trade area. The expansion into new markets may present competitive, merchandising, hiring and distribution challenges that are different from those currently encountered in our existing markets. In addition, our proposed expansion will place increased demands on our operational, managerial and administrative resources. These increased demands could cause us to operate our business less effectively, which in turn could cause deterioration in the financial performance of our individual stores and our overall business. In addition, successful execution of our growth strategy may require that we obtain additional financing, and we may not be able to obtain that financing on acceptable terms or at all. Failure to successfully integrate any businesses that we acquire could have an adverse impact on our results of operations and financial performance. We may, from time to time, acquire businesses, such as our acquisition of Blue Tomato and Fast Times. We may experience difficulties in integrating any businesses we may acquire, including their stores, websites, facilities, personnel, financial systems, distribution, operations and general operating procedures, and any such acquisitions may also result in the diversion of our capital and our management’s attention from other business issues and opportunities. If we experience difficulties in integrating acquisitions or if such acquisitions do not provide the benefits that we expect to receive, we could experience increased costs and other operating inefficiencies, which could have an adverse effect on our results of operations and overall financial performance. Our plans for international expansion include risks that could have a negative impact on our results of operations. We plan to continue to open new stores in the Canadian, European, and Australian markets. We may continue to expand internationally into other markets, either organically, or through additional acquisitions. International markets may have different competitive conditions, consumer tastes and discretionary spending patterns than our existing U.S. market. As a result, operations in international markets may be less successful than our operations in the U.S. Additionally, consumers in international markets may not be familiar with us or the brands we sell, and we may need to build brand awareness in the markets. Furthermore, we have limited experience with the legal and regulatory environments and market practices in new international markets and cannot guarantee that we will be able to penetrate or successfully operate in these new international markets. We also expect to incur additional costs in complying with applicable foreign laws and regulations as they pertain to both our products and our operations. Accordingly, for the reasons noted above, our plans for international expansion include risks that could have a negative impact on our results of operations. 25 Our sales and inventory levels fluctuate on a seasonal basis. Accordingly, our quarterly results of operations are volatile and may fluctuate significantly. Our quarterly results of operations have fluctuated significantly in the past and can be expected to continue to fluctuate significantly in the future. Our sales and profitability are typically disproportionately higher in the third and fourth fiscal quarters of each fiscal year due to increased sales during the back-to-school and winter holiday shopping seasons. Sales during these periods cannot be used as an accurate indicator of annual results. As a result of this seasonality, any factors negatively affecting us during the last half of the year, including unfavorable economic conditions, adverse weather or our ability to acquire seasonal merchandise inventory, could have a material adverse effect on our financial condition and results of operations for the entire year. In addition, in order to prepare for the back-to-school and winter holiday shopping seasons, we must order and keep in stock significantly more merchandise than we carry during other times of the year. Any unanticipated decrease in demand for our products during these peak shopping seasons could require us to sell excess inventory at a substantial markdown, which could have a material adverse effect on our business, results of operations and financial condition. Our quarterly results of operations are affected by a variety of other factors, includin • the timing of new store openings and the relative proportion of our new stores to mature stores; • whether we are able to successfully integrate any new stores that we acquire and the presence of any unanticipated liabilities in connection therewith; • fashion trends and changes in consumer preferences; • calendar shifts of holiday or seasonal periods; • changes in our merchandise mix; • timing of promotional events; • general economic conditions and, in particular, the retail sales environment; • actions by competitors or mall anchor tenants; • weather conditions; • the level of pre-opening expenses associated with our new stores; and • inventory shrinkage beyond our historical average rates. If our information systems fail to function effectively or do not scale to keep pace with our planned growth, our operations could be disrupted and our financial results could be harmed. If our information systems, including hardware and software, do not work effectively, this could adversely impact the promptness and accuracy of our transaction processing, financial accounting and reporting and our ability to manage our business and properly forecast operating results and cash requirements. Additionally, we rely on third-party service providers for certain information systems functions. If a service provider fails to provide the data quality, communications capacity or services we require, the failure could interrupt our services and could have a material adverse effect on our business, financial condition and results of operations. To manage the anticipated growth of our operations and personnel, we may need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. 26 If we fail to meet the requirements to adequately maintain the privacy and security of our personal data and business information, we may be subjected to adverse publicity, litigation and significant expenses. Information systems are susceptible to an increasing threat of continually evolving cybersecurity risks. If we fail to maintain or adequately maintain security systems, devices and activity monitoring to prevent unauthorized access to our network, systems and databases containing confidential, proprietary, and personally identifiable information, we may be subject to additional risk of adverse publicity, litigation or significant expense. Nevertheless, if unauthorized parties gain access to our networks, systems or databases, they may be able to steal, publish, delete or modify confidential information. In such circumstances, we could be held liable to our customers or other parties or be subject to regulatory or other actions for breaching privacy rules and we may be exposed to reputation damage and loss of customers’ trust and business. This could result in costly investigations and litigation, civil or criminal penalties and adverse publicity that could adversely affect our financial condition, results of operations and reputation. Actual or anticipated attacks may cause us to incur increasing costs, including costs to deploy additional resources, train employees, and engage third-parties. Further, the regulatory environment surrounding information security, cybersecurity and privacy is increasingly demanding. If we are unable to comply with the new and changing security standards, we may be subject to fines, restrictions and financial exposure, which could adversely affect our retail operations. Significant fluctuations and volatility in the cost of raw materials, global labor, shipping and other costs related to the production of our merchandise may have a material adverse effect on our business, results of operations and financial conditions. Increases in the cost of raw materials, global labor costs, freight costs and other shipping costs in the production and transportation of our merchandise can result in higher costs for this merchandise. The costs for these products are affected by weather, consumer demand, government regulation, speculation on the commodities market and other factors that are generally unpredictable and beyond our control. Our gross profit and results of operations could be adversely affected to the extent that the selling prices of our products do not increase proportionately with the increases in the costs of raw materials. Increasing labor costs and oil-related product costs, such as manufacturing and transportation costs, could also adversely impact gross profit. Additionally, significant changes in the relationship between carrier capacity and shipper demand could increase transportation costs, which could also adversely impact gross profit. Fluctuations in foreign currency exchange rates could impact our financial condition and results of operations. We are exposed to foreign currency exchange rate risk with respect to our sales, profits, assets and liabilities denominated in currencies other than the U.S. dollar. As a result, the fluctuation in the value of the U.S. dollar against other currencies could have a material adverse effect on our results of operations, financial condition and cash flows. Upon translation, operating results may differ materially from expectations. As we continue to expand our international operations, our exposure to exchange rate fluctuations will increase. Tourism spending may be affected by changes in currency exchange rates, and as a result, sales at stores with higher tourism traffic may be adversely impacted by fluctuations in currency exchange rates. Further, although the prices charged by vendors for the merchandise we purchase are primarily denominated in U.S. dollars, a decline in the relative value of the U.S. dollar to foreign currencies could lead to increased merchandise costs, which could negatively affect our competitive position and our results of operations. Our business could be adversely affected by increased labor costs, including costs related to an increase in minimum wage and health care. Labor is one of the primary components in the cost of operating our business. Increased labor costs, whether due to competition, unionization, increased minimum wage, state unemployment rates, health care, mandated safety protocols, or other employee benefits costs may adversely impact our operating profit. A considerable amount of our store team members are paid at rates related to the federal or state minimum wage and any changes to the minimum wage rate may increase our operating expenses. Furthermore, inconsistent increases in state and or city minimum wage requirements limit our ability to increase prices across all markets and channels. Additionally, we are self-insured with respect to our health care coverage in the U.S. and do not purchase third party insurance for the health insurance benefits provided to employees with the exception of pre-defined stop loss coverage, which helps limit the cost of large claims. There is no assurance that future health care legislation will not adversely impact our results or operations. 27 Our business could suffer if a manufacturer fails to use acceptable labor and environmental practices. We do not control our vendors or the manufacturers that produce the products we buy from them, nor do we control the labor and environmental practices of our vendors and these manufacturers. The violation of labor, safety, environmental and/or other laws and standards by any of our vendors or these manufacturers, or the divergence of the labor and environmental practices followed by any of our vendors or these manufacturers from those generally accepted as ethical in the U.S., could interrupt, or otherwise disrupt, the shipment of finished products to us or damage our reputation. Any of these, in turn, could have a material adverse effect on our reputation, financial condition and results of operations. In that regard, most of the products we sell are manufactured internationally, primarily in Asia, Mexico and Central America, which may increase the risk that the labor and environmental practices followed by the manufacturers of these products may differ from those considered acceptable in the U.S. Additionally, our products are subject to regulation of and regulatory standards set by various governmental authorities with respect to quality and safety. These regulations and standards may change from time to time. Our inability to comply on a timely basis with regulatory requirements could result in significant fines or penalties, which could adversely affect our reputation and sales. Issues with the quality and safety of merchandise we sell, regardless of our culpability, or customer concerns about such issues, could result in damage to our reputation, lost sales, uninsured product liability claims or losses, merchandise recalls and increased costs. If we fail to develop and maintain good relationships with vendors or if a vendor is otherwise unable or unwilling to supply us with adequate quantities of their products at acceptable prices, our business and financial performance could suffer. Our business is dependent on developing and maintaining good relationships with a large number of vendors to provide our customers with an extensive selection of current and relevant brands. In addition to maintaining our large number of current vendor relationships, each year we are identifying, attracting and launching new vendors to provide a diverse and unique product assortment. We believe that we generally are able to obtain attractive pricing and terms from vendors because we are perceived as a desirable customer, and deterioration in our relationship with our vendors could have a material adverse effect on our business. However, there can be no assurance that our current vendors or new vendors will provide us with an adequate supply or quality of products or acceptable pricing. Our vendors could discontinue selling to us, raise the prices they charge, sell through direct channels or allow their merchandise to be discounted by other retailers. There can be no assurance that we will be able to acquire desired merchandise in sufficient quantities on terms acceptable to us in the future. In addition, certain vendors sell their products directly to the retail market and therefore compete with us directly and other vendors may decide to do so in the future. There can be no assurance that such vendors will not decide to discontinue supplying their products to us, supply us only less popular or lower quality items, raise the prices they charge us or focus on selling their products directly. In addition, a number of our vendors are smaller, less capitalized companies and are more likely to be impacted by unfavorable general economic and market conditions than larger and better capitalized companies. These smaller vendors may not have sufficient liquidity during economic downturns to properly fund their businesses and their ability to supply their products to us could be negatively impacted. Any inability to acquire suitable merchandise at acceptable prices, or the loss of one or more key vendors, could have a material adverse effect on our business, results of operations and financial condition. Our business is susceptible to weather conditions that are out of our control, including the potential risks of unpredictable weather patterns and any weather patterns associated with naturally occurring global climate change, and the resultant unseasonable weather could have a negative impact on our results of operations. Our business is susceptible to unseasonable weather conditions. For example, extended periods of unseasonably warm temperatures during the winter season or cool weather during the summer season (including any weather patterns associated with global warming and cooling) could render a portion of our inventory incompatible with those unseasonable conditions. These prolonged unseasonable weather conditions could have a material adverse effect on our business and results of operations. 28 Our omni-channel strategy may not have the return we anticipate, which could have an adverse effect on our results of operations. We are executing an omni-channel strategy to enable our customers to shop wherever, whenever and however they choose to engage with us. Our omni-channel strategy may not deliver the results we anticipate or may not adequately anticipate changing consumer trends, preferences and expectations. We will continue to develop additional ways to execute our superior omni-channel experience and interact with our customers, which requires significant investments in IT systems and changes in operational strategy, including localization, online and in-store point of sale systems, order management system, and transportation management system. If we fail to effectively integrate our store and ecommerce shopping experiences, effectively scale our IT structure or we do not realize the return on our investments that we anticipate our operating results could be adversely affected. Our competitors are also investing in omni-channel initiatives. If our competitors are able to be more effective in their strategy, it could have an adverse effect on our results of operations. If we our omni-channel strategy fails to meet customer expectations related to functionality, timely delivery, or customer experience, our business and results of operations may be adversely affected. Additionally, to manage the anticipated growth of our operations and personnel, we will need to continue to improve our operational and financial systems, transaction processing, procedures and controls, and in doing so could incur substantial additional expenses that could impact our financial results. If we lose key executives or are unable to attract and retain the talent required for our business, our financial performance could suffer. Our performance depends largely on the efforts and abilities of our key executives. If we lose the services of one or more of our key executives, we may not be able to successfully manage our business or achieve our growth objectives. Furthermore, as our business grows, we will need to attract and retain additional qualified personnel in a timely manner and we may not be able to do so. Failure to meet our staffing needs could adversely affect our ability to implement our growth strategy and could have a material impact on our results of operations. Our success depends in part upon our ability to attract, motivate and retain a sufficient number of qualified employees who understand and appreciate our culture and brand and are able to adequately represent this culture. Qualified individuals of the requisite caliber, skills and number needed to fill these positions may be in short supply in some areas and the employee turnover rate in the retail industry is high. Our business depends on the ability to hire and retain qualified technical and support roles for procurement, distribution, ecommerce and back office functions. Competition for qualified employees in these areas could require us to pay higher wages to attract a sufficient number of suitable employees. If we are unable to hire and retain store managers and store associates capable of consistently providing a high level of customer service, as demonstrated by their enthusiasm for our culture and knowledge of our merchandise, our ability to open new stores may be impaired and the performance of our existing and new stores could be materially adversely affected. We are also dependent upon temporary personnel to adequately staff our operations particularly during busy periods such as the back-to-school and winter holiday seasons. There can be no assurance that we will receive adequate assistance from our temporary personnel, or that there will be sufficient sources of temporary personnel. If we are unable to hire qualified temporary personnel, our results of operations could be adversely impacted. Although none of our employees are currently covered by collective bargaining agreements, we cannot guarantee that our employees will not elect to be represented by labor unions in the future, which could increase our labor costs and could subject us to the risk of work stoppages and strikes. Any such failure to meet our staffing needs, any material increases in employee turnover rates, any increases in labor costs or any work stoppages, interruptions or strikes could have a material adverse effect on our business or results of operations. A decline in cash flows from operations could have a material adverse effect on our business and growth plans. We depend on cash flow from operations to fund our current operations and our growth strategy, including the payment of our operating leases, wages, store operation costs and other cash needs. If our business does not generate sufficient cash flow from operating activities, and sufficient funds are not otherwise available to us from borrowings under our credit facility or from other sources, we may not be able to pay our operating lease expenses, grow our business, respond to competitive challenges or fund our other liquidity and capital needs, which could have a material adverse effect on our business. 29 The terms of our secured credit agreement impose certain restrictions on us that may impair our ability to respond to changing business and economic conditions, which could have a significant adverse impact on our business. Additionally, our business could suffer if our ability to acquire financing is reduced or eliminated. We maintain a secured credit agreement with Wells Fargo Bank, N.A., which provides us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024. The credit facility contains various representations, warranties and restrictive covenants that, among other things and subject to specified circumstances and exceptions, restrict our ability to incur indebtedness (including guarantees), grant liens, make investments, pay dividends or distributions with respect to capital stock, make prepayments on other indebtedness, engage in mergers, dispose of certain assets or change the nature of their business. The credit facility contains certain financial maintenance covenants that generally require us to have a quick ratio of 1.25:1.0 at the end of each fiscal quarter, and EBITDA not less than $12.0 million as of the fiscal quarters ending July 29, 2023 and October 28, 2023, and not less than $20,0 million as of the fiscal quarter ending February 3, 2024 and each fiscal quarter thereafter. EBITDA is defined as net profit before tax, depreciation and amortization expense, goodwill and other intangible impairment, leased right-of-use asset impairment, and store fixed asset impairment (up to an aggregate of $5.0 million), plus interest expense (net of capitalized interest expense). These restrictions could (1) limit our ability to plan for or react to market conditions or meet capital needs or otherwise restrict our activities or business plans; and (2) adversely affect our ability to finance our operations, strategic acquisitions, investments or other capital needs or to engage in other business activities that would be in our interest. The credit facility contains certain affirmative covenants, including reporting requirements such as delivery of financial statements, certificates and notices of certain events, maintaining insurance, and providing additional guarantees and collateral in certain circumstances. The credit facility includes customary events of default including non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations or warranties, cross-default to other material indebtedness, bankruptcy and insolvency events, invalidity or impairment of guarantees or security interests, material judgments and change of control. Additionally, we cannot be assured that our borrowing relationship with our lenders will continue or that our lenders will remain able to support their commitments to us in the future. Several bank failures have occurred during 2023 and it is possible that other banks will face similar difficulty in the future. Although we do not maintain any direct deposit accounts, credit agreements or letters of credit with any financial institution currently in receivership, we are unable to predict the extent or nature of the impacts of these evolving circumstances at this time. Additionally, U.S. debt ceiling and budget deficit concerns have increased the possibility of credit rating downgrades, or a recession in the U.S. Although U.S. lawmakers have passed legislation to raise the federal debt ceiling on multiple occasions, including in June 2023, ratings agencies have threatened to lower the long-term sovereign credit rating on the United States. The impact of the increased debt ceiling and/or downgrades to the U.S. government's sovereign credit rating or its perceived creditworthiness could adversely affect the U.S. and global financial markets and economic conditions. If our lenders fail, then we may not be able to secure alternative financing on commercially reasonable terms, or at all. Our business could suffer with the closure or disruption of our home office or our distribution centers. In the U.S., we rely on a single distribution center located in Corona, California to receive, store and distribute the vast majority of our merchandise to our domestic stores. Internationally, we operate a combined distribution and ecommerce fulfillment center located in Graz, Austria that supports our Blue Tomato ecommerce and store operations in Europe. We operate a distribution center located in Delta, British Columbia, Canada to distribute our merchandise to our Canadian stores. We operate a distribution and ecommerce fulfillment center located in Melbourne, Australia to distribute our merchandise to our Australian stores. Additionally, we are headquartered in Lynnwood, Washington. As a result, unforeseen events, including war, terrorism, other political instability or conflicts, riots, public health issues (including widespread/pandemic illnesses such as coronavirus and other communicable diseases or viruses), a natural disaster or other catastrophic event that affects one of the regions where we operate these centers or our home office could significantly disrupt our operations and have a material adverse effect on our business, results of operations and financial condition. The effects of war, acts of terrorism, threat of terrorism, or other types of mall violence, could adversely affect our business. Most of our stores are located in shopping malls. Any threat of terrorist attacks or actual terrorist events, or other types of mall violence, such as shootings or riots, could lead to lower consumer traffic in shopping malls. In addition, local authorities or mall management could close shopping malls in response to security concerns. Mall closures, as well as lower consumer traffic due to security concerns, could result in decreased sales. Additionally, the threat, escalation or commencement of war or other armed conflict elsewhere, could significantly diminish consumer spending, and result in decreased sales. Decreased sales could have a material adverse effect on our business, financial condition and results of operations. 30 Our inability or failure to protect our intellectual property or our infringement of other’s intellectual property could have a negative impact on our operating results. We believe that our trademarks and domain names are valuable assets that are critical to our success. The unauthorized use or other misappropriation of our trademarks or domain names could diminish the value of the Zumiez, Blue Tomato, or Fast Times brands, our store concepts, our private label brands or our goodwill and cause a decline in our net sales. Although we have secured or are in the process of securing protection for our trademarks and domain names in a number of countries outside of the U.S., there are certain countries where we do not currently have or where we do not currently intend to apply for protection for certain trademarks. Also, the efforts we have taken to protect our trademarks may not be sufficient or effective. Therefore, we may not be able to prevent other persons from using our trademarks or domain names outside of the U.S., which also could adversely affect our business. We are also subject to the risk that we may infringe on the intellectual property rights of third parties. Any infringement or other intellectual property claim made against us, whether or not it has merit, could be time-consuming, result in costly litigation, cause product delays or require us to pay royalties or license fees. As a result, any such claim could have a material adverse effect on our operating results. Our operations expose us to the risk of litigation, which could lead to significant potential liability and costs that could harm our business, financial condition or results of operations. We employ a substantial number of full-time and part-time employees, a majority of whom are employed at our store locations. As a result, we are subject to a large number of federal, state and foreign laws and regulations relating to employment. This creates a risk of potential claims that we have violated laws related to discrimination and harassment, health and safety, wage and hour laws, criminal activity, personal injury and other claims. We are also subject to other types of claims in the ordinary course of our business. Some or all of these claims may give rise to litigation, which could be time-consuming for our management team, costly and harmful to our business. In addition, we are exposed to the risk of class action litigation. The costs of defense and the risk of loss in connection with class action suits are greater than in single-party litigation claims. Due to the costs of defending against such litigation, the size of judgments that may be awarded against us, and the loss of significant management time devoted to such litigation, we cannot provide assurance that such litigation will not disrupt our business or impact our financial results. We are involved, from time to time, in litigation incidental to our business including complaints filed by investors. This litigation could result in substantial costs, and could divert management's attention and resources, which could harm our business. Risks associated with legal liability are often difficult to assess or quantify, and their existence and magnitude can remain unknown for significant periods of time. Failure to comply with federal, state, local or foreign laws and regulations, or changes in these laws and regulations, could have an adverse impact on our results of operations and financial performance. Our business is subject to a wide array of laws and regulations including those related to employment, trade, consumer protection, transportation, occupancy laws, health care, wage laws, employee health and safety, taxes, privacy, health information privacy, identify theft, customs, truth-in-advertising, securities laws, unsolicited commercial communication and environmental issues. Our policies, procedures and internal controls are designed to comply with foreign and domestic laws and regulations, such as those required by the Sarbanes-Oxley Act of 2002 and the U.S. Foreign Corrupt Practices Act. Although we have policies and procedures aimed at ensuring legal and regulatory compliance, our employees or vendors could take actions that violate these laws and regulations. Any violations of such laws or regulations could have an adverse effect on our reputation, results of operations, financial condition and cash flows. Furthermore, changes in the regulations, the imposition of additional regulations, or the enactment of any new legislation, particularly in the U.S. and Europe, could adversely affect our results of operations or financial condition. Fluctuations in our tax obligations and effective tax rate may result in volatility in our operating results. We are subject to income taxes in many domestic and foreign jurisdictions. In addition, our products are subject to import and excise duties and/or sales, consumption or value-added taxes in many jurisdictions. We record tax expense based on our estimates of future payments, which include reserves for estimates of probable settlements of domestic and foreign tax audits. At any one time, many tax years are subject to audit by various taxing jurisdictions. There can be no assurance as to the outcome of these audits which may have an adverse effect to our business. In addition, our effective tax rate may be materially impacted by changes in tax rates and duties, the mix and level of earnings or losses by taxing jurisdictions, or by changes to existing accounting rules or regulations. Changes to foreign or domestic tax laws could have a material impact on our financial condition, results of operations or cash flows. 31 We may fail to meet analyst expectations, which could cause the price of our stock to decline. Our common stock is traded publicly and various securities analysts follow our financial results and issue reports on us. These reports include information about our historical financial results as well as the analysts' estimates of our future performance. The analysts' estimates are based upon their own independent opinions and can be different from our estimates or expectations. If our operating results are below the estimates or expectations of public market analysts and investors, our stock price could decline. The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A share repurchase program may be conducted from time to time under authorization made by our Board of Directors. We do not have a controlling shareholder, nor are we aware of any shareholders that have formed a “group” (defined as when two or more persons agree to act together for the purposes of acquiring, holding, voting or otherwise disposing of the equity securities of an issuer). The reduction of total outstanding shares through the execution of a share repurchase program of common stock may increase the risk that a group of shareholders could form a group to become a controlling shareholder. A controlling shareholder would have significant influence over, and may have the ability to control, matters requiring approval by our shareholders, including the election of directors and approval of mergers, consolidations, sales of assets, recapitalizations and amendments to our articles of incorporation. Furthermore, a controlling shareholder may take actions with which other shareholders do not agree, including actions that delay, defer or prevent a change of control of the company and that could cause the price that investors are willing to pay for the company’s stock to decline. 32 Item 3: Quantitative and Qualita tive Disclosures About Market Risk Our market risk profile at October 28, 2023 has not significantly changed since January 28, 2023. Our market risk profile at January 28, 2023 is disclosed in our Annual Report on Form 10-K. Item 4: Control s and Procedures Evaluation of Disclosure Controls and Procedures . We carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer ("CEO") and Chief Financial Officer ("CFO"), of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Securities Exchange Act Rule 13a-15(e)). Based on this evaluation, our CEO and CFO concluded that, as of October 28, 2023, our disclosure controls and procedures were effective. Changes in Internal Control over Financial Reporting . There has been no change in our internal control over financial reporting (as defined in Securities Exchange Act Rule 13a-15(f)) during the three months ended October 28, 2023 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 33 PART II - OTHE R INFORMATION Item 1. Legal Proceedings We are involved from time to time in litigation incidental to our business. We are unable to predict the outcome of litigated cases. A court determination in any of litigation actions against us could result in significant liability and could have a material adverse effect on our business, results of operations or financial condition. See Note 5 to the Notes to Condensed Consolidated Financial Statements found in Part I Item 1 of this Form 10-Q (listed under “Litigation” under Commitments and Contingencies). Item 1A. Ri sk Factors Please refer to the Risk Factors set forth in Item 2 of Part I of this Form 10-Q as well as the risk factors previously disclosed in Item 1A of Part I of our Annual Report on Form 10-K for the year ended January 28, 2023. There have been no material changes in the risk factors set forth in our Annual Report on Form 10-K for the year ended January 28, 2023. Item 2. Unregistered Sales of Equi ty Securities and Use of Proceeds There were no issuer purchases of common stock during the thirteen weeks ended October 28, 2023. Item 3. Defaults Upo n Senior Securities None Item 4. Mine Saf ety Disclosures Not applicable Item 5. Other Information None 34 Item 6. Exhibits Exhibit No. Description of Exhibits 10.36 Third Amendment to Credit Agreement dated effective as of November 30, 2023 by and among Zumiez Inc., Zumiez Services Inc. and Wells Fargo Bank, National Association. 31.1 Certification of the Principal Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of the Principal Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certifications of the Principal Executive Officer and Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350. 101 The following materials from Zumiez Inc.’s Quarterly Report on Form 10-Q for the quarterly period ended October 28, 2023, formatted in Inline XBRL (eXtensible Business Reporting Language): (i) Condensed Consolidated Balance Sheets at October 28, 2023 (unaudited) and January 28, 2023; (ii) Unaudited Condensed Consolidated Statements of Operations for the three and nine months ended October 28, 2023 and October 29, 2022; (iii) Unaudited Condensed Consolidated Statements of Comprehensive Loss for the three and nine months ended October 28, 2023 and October 29, 2022; (iv) Unaudited Condensed Consolidated Statements of Changes in Shareholders’ Equity for the three and nine months ended October 28, 2023 and October 29, 2022; (v) Unaudited Condensed Consolidated Statements of Cash Flows for the nine months ended October 28, 2023 and October 29, 2022; and (vi) Notes to Condensed Consolidated Financial Statements. 104 The cover page for the Company’s Quarterly Report on Form 10-Q has been formatted in Inline XBRL and contained in Exhibit 101 35 SIGNA TURE Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized. ZUMIEZ INC. Dat December 4, 2023 By: /s/ Christopher C. Work Christopher C. Work Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer) 36 |
Washington, DC 20549 _____________________________ FORM 10-K _____________________________ (Mark One) ☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended January 31 , 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to __________ Commission File Numbe 001-38451 _____________________________ Zuora, Inc. (Exact name of registrant as specified in its charter) _____________________________ Delaware 20-5530976 (State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification Number) 101 Redwood Shores Parkway , Redwood City , California (Address of principal executive offices) 94065 (Zip Code) ( 888 ) 976-9056 (Registrant’s telephone number, including area code) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name of each exchange on which registered Class A common stock, par value $0.0001 per share ZUO New York Stock Exchange Securities registered pursuant to Section 12(g) of the Ac None _____________________________ Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☒ No ☐ Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ☐ No ☒ Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the Registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☒ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the Registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ☒ Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ☐ No ☒ The aggregate market value of the voting and non-voting stock held by non-affiliates of the Registrant, based on the closing price, as reported by the New York Stock Exchange, of the Registrant’s Class A common stock, as of July 31, 2021, the last business day of the Registrant’s most recently completed second fiscal quarter, was approximately $ 2.0 billion. Solely for purposes of this disclosure, shares of the Registrant’s Class A common stock and Class B common stock held by executive officers and directors of the Registrant as of such date have been excluded because such persons may be deemed to be affiliates. This determination of executive officers and directors as affiliates is not necessarily a conclusive determination for any other purposes. As of February 28, 2022, the number of shares of the Registrant’s Class A common stock outstanding was 119.0 million and the number of shares of the Registrant’s Class B common stock outstanding was 9.0 million. DOCUMENTS INCORPORATED BY REFERENCE Portions of the Registrant's definitive Proxy Statement relating to the 2022 Annual Meeting of Stockholders are incorporated herein by reference in Part III of this Annual Report on Form 10-K to the extent stated herein. Such Proxy Statement will be filed with the Securities and Exchange Commission within 120 days of the registrant's fiscal year ended January 31, 2022. Except with respect to information specifically incorporated by reference in this Form 10-K, the Proxy Statement is not deemed to be filed as part of this Form 10-K. PART I Page Item 1. Business 2 Item 1A. Risk Factors 9 Item 1B. Unresolved Staff Comments 42 Item 2. Properties 42 Item 3. Legal Proceedings 42 Item 4. Mine Safety Disclosures 42 PART II Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 43 Item 6. [Reserved] 44 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 44 Item 7A. Quantitative and Qualitative Disclosures about Market Risk 59 Item 8. Financial Statements and Supplementary Data 61 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 91 Item 9A. Controls and Procedures 91 Item 9B. Other Information 92 Item 9C. Disclosure Regarding Foreign Jurisdictions that Prevent Inspections 92 PART III Item 10. Directors, Executive Officers and Corporate Governance 93 Item 11. Executive Compensation 93 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 93 Item 13. Certain Relationships and Related Transactions, and Director Independence 93 Item 14. Principal Accounting Fees and Services 93 PART IV Item 15. Exhibits, Financial Statement Schedules 94 Item 16. Form 10-K Summary 96 SIGNATURES SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS Unless the context otherwise requires, references in this Annual Report on Form 10-K (Form 10-K) to “Zuora,” “Company,” “our,” “us,” and “we” refer to Zuora, Inc. and where appropriate, its consolidated subsidiaries. Our fiscal year end is January 31. References to “fiscal” followed by the year refer to the fiscal year ended January 31 for the referenced year. This Form 10-K contains forward-looking statements within the meaning of the federal securities laws. All statements contained in this Form 10-K, other than statements of historical fact, including statements regarding our future operating results and financial position, our business strategy and plans, market growth, and our objectives for future operations, are forward-looking statements. Words such as “believes,” “may,” “will,” “estimates,” “potential,” “continues,” “anticipates,” “intends,” “expects,” “could,” “would,” “projects,” “plans,” “targets,” and variations of such words and similar expressions are intended to identify forward-looking statements. Forward-looking statements contained in this Form 10-K include, but are not limited to, statements about our expectations regardin • trends in revenue, cost of revenue, and gross margin; • economic and industry trends, projected growth, or trend analysis; • the duration and impact of the coronavirus (COVID-19) pandemic on our business and the economy; • our investments in our platform and the cost of third-party hosting fees; • the expansion and functionality of our technology offering, including expected benefits of such products and technology, and our ability to further penetrate our customer base; • trends in operating expenses, including research and development expense, sales and marketing expense, and general and administrative expense, and expectations regarding these expenses as a percentage of revenue; • trends and expectations in our operating and financial metrics, including customers with ACV equal to or greater than $100,000, dollar-based retention rate and annual recurring revenue growth; • our existing cash and cash equivalents, investment balances, funds available under our loan and security agreement, and cash provided by subscriptions to our platform and related professional services being sufficient to meet our working capital and capital expenditure needs for at least the next 12 months; and • other statements regarding our future operations, financial condition, and prospects and business strategies. Such forward-looking statements are based on our expectations as of the date of this filing and are subject to a number of risks, uncertainties and assumptions, including but not limited to, risks detailed in the “Risk Factors” section of this Form 10-K. Readers are urged to carefully review and consider the various disclosures made in this Form 10-K and in other documents we file from time to time with the Securities and Exchange Commission (SEC) that disclose risks and uncertainties that may affect our business. Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time. It is not possible for us to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties and assumptions, the future events and circumstances discussed in this Form 10-K may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements. You should not rely upon forward-looking statements as predictions of future events. The events and circumstances reflected in the forward-looking statements may not be achieved or occur. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, performance or achievements. In addition, the forward-looking statements in this Form 10-K are made as of the date of this filing, and we do not undertake, and expressly disclaim any duty, to update such statements for any reason after the date of this Form 10-K or to conform statements to actual results or revised expectations, except as required by law. 1 PART I Item 1. Business Overview Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the entire quote-to-revenue process, including quoting, billing, collections and revenue recognition. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. Many of today’s enterprise software systems manage their quote-to-revenue processes using software built for one-time transactions. These systems were not designed for the dynamic, ongoing nature of subscription, usage, or consumption-based pricing models, and can be extremely difficult to configure. In traditional product-based businesses, quote-to-revenue was a linear process—a customer orders a product, is billed for that product, payment is collected, and the revenue is recognized. These legacy product-based systems were not specifically designed to handle the complexities of ongoing customer relationships and recurring revenue, commonly found in a subscription business, and their impact on areas such as billing proration, revenue recognition, reporting in real-time, and the lifetime value of the customer. Using legacy or homegrown software to build a subscription business often results in inefficient processes with prolonged and complex manual downstream work, hard-coded customizations, and a proliferation of stock-keeping units (SKUs). However, enterprise business models are inherently dynamic, with multiple interactions, flexible pricing, global complexities, and continuously-evolving relationships and events. The capabilities to launch, price, and bill for products, facilitate and record cash receipts, process and recognize revenue, and analyze data to drive key decisions are mission critical and particularly complex for companies that operate at a global scale. As a result, as companies launch, grow, and scale their businesses, they often conclude that legacy systems are inadequate. That’s where Zuora comes in. Our vision is “The World Subscribed” -- the idea that one day every company will be a part of the Subscription Economy. Our focus has been on providing the technology our customers need to thrive as a customer-centric, recurring revenue business. Our solution includes Zuora Central Platform , Zuora Billing , Zuora Revenue , Zuora Collect , and other software that support and expand upon these core products. Our software helps companies analyze data - including information such as which customers are delivering the most recurring revenue, or which segments are showing the highest churn, enabling customers to make informed decisions for their subscription business and quickly implement changes such as launching new services, updating pricing (usage, time, or outcome based), delivering new offerings, or making other changes to their customers’ subscription experience. We also have a large subscription ecosystem of global partners and the Subscribed Strategy Group, that can assist our customers with additional strategies and services throughout the subscription journey. Companies in a variety of industries - technology, manufacturing, media and entertainment, telecommunications, and many others - are using our solution to scale and adapt to a world that is increasingly choosing subscription-based offerings. Our customers include over 25 of the Fortune 100 and 12 of the top 15 auto manufacturers. Business Benefits of Using Our Solution Zuora’s products enable companies t • Monetize for Their Business Models. Zuora helps companies to transform their existing product-centric business models into customer-centric services to take advantage of the predictability and resilience of recurring revenue business models. • Reduce Time to Market. Zuora significantly reduces the time required to go-to-market with new offerings and to iterate on the pricing and packaging of existing offerings, enabling businesses to quickly react to changing market and customer needs, launch new services, and enter new markets. Changes can be made in minutes without having to re-code or re-engineer back office systems. 2 • Increase Operational Efficiencies. Customers regularly make changes to their subscriptions. Zuora automates these processes and reduces the impact of changes across quote-to-cash and revenue recognition, including proration for invoices, changes to revenue recognition, taxation, provisioning, and reporting. Automating these functions saves businesses valuable time and resources by eliminating manual processes and customizations and increasing operational efficiencies. • Free Up IT and Engineering Resources. Our cloud-based solution reduces both system complexity and costs. With Zuora, engineering and IT departments no longer need to build in-house custom systems or customizations for their Enterprise Resource Planning (ERP) systems to keep up with market changes, ongoing customer demands, and new quote-to-revenue processes. • Establish a Single System of Record. Our solution captures financial and operational data and enables businesses to have a single system of record rather than having to reconcile data from multiple systems. Key business metrics can be accessed at any point in time to make critical business decisions. • Make Customer Data-Driven Decisions. Because our solution serves as a single source of data and information for subscribers, companies can use Zuora to gain insight into subscriber data and behavior. This helps them understand their subscribers better, predict up-sell opportunities, and increase customer retention. • Access Growing Ecosystem of Quote-to-Revenue Software Partners. Our solution has over 50 pre-built connectors to various quote-to-revenue software partners, including payment gateways, tax vendors, general ledgers, Enterprise Resource Planning (ERP), and Customer Relationship Management (CRM) systems. Rather than building integrations for each of these, our customers can take advantage of pre-built connectors to extend the capabilities of Zuora for specific industries. • Support Rapid International Expansion. With over 35 pre-built payment gateways, over 150 supported currencies, and over 15 supported payment methods, our solution enables companies to quickly expand internationally and acquire and support customers in new countries. • Manage Complex Revenue Streams. In light of the accounting complexities associated with recurring revenue models, our revenue recognition product automates revenue recognition processes in compliance with accounting standards and reduces our customers’ reliance on error-prone manual processing and spreadsheets. Products Our solution enables companies to monetize their business model by automating their quote-to-revenue operations. We can deploy and configure our portfolio of products to meet a wide variety of use cases for companies with a subscription, consumption-based, or hybrid business models. We offer four flagship produ • Zuora Central Platform. Our Zuora Central Platform acts as an orchestration engine for all subscription data and processes, allowing customers to power their quote-to-revenue operations and customer experiences for subscription business models. Our Zuora Central Platform provides the following capabiliti ◦ Integrated data model enabling customers to manage their subscribers and easily set up and iterate products, subscribers, subscriptions, rate plans, payment methods and other data necessary to orchestrate the subscriber experiences. ◦ Enterprise-grade capabilities for security, compliance, and tenant management as well as capabilities to integrate to any relevant enterprise application such as configure-price-quote (CPQ), e-commerce, customer portal, and general ledger. ◦ Develop tools that enable customers and system integrators to customize and extend the functionality of the platform, including workflow, custom objects, data queries, and test environments. ◦ Analytics and reporting to provide customers insights from their subscriber data and related activity across the subscriber lifecycle, including out-of-the-box subscription metrics such as monthly recurring revenue (MRR), annual contract value (ACV), and customer churn. 3 • Zuora Billing. Zuora Billing allows our customers to deploy a variety of pricing and packaging strategies to monetize their business models, to efficiently and accurately bill customers, to calculate prorations when subscriptions change, and to automate billing and payment operations. The product also helps our customers set payment terms, manage hierarchical billing relationships, consolidate invoicing across multiple subscriptions, and tax transactions. Zuora Billing also includes our Zuora CPQ module, which enables customers to configure, price, and quote a wide variety of subscription transactions, including complex arrangements such as multi-year subscriptions, and price ramps. The Zuora CPQ module also uses a rules engine and guided selling workflows to help customers scale their sales teams. • Zuora Revenue. Zuora Revenue is a revenue recognition automation solution that revenue accounting teams use to manage their complex revenue streams. Zuora Revenue helps our customers automate revenue and deferred revenue management in accordance with their accounting policies, business rules, and pricing models, including support for complex scenarios around standalone selling price (SSP) analysis for determining the fair value of the individual goods and services sold and cost management accounting and amortization for all costs incurred as part of obtaining or fulfilling a contract with a customer. • Zuora Collect. Specifically designed to handle the complicated function of payments associated with dynamic subscription-based businesses, Zuora Collect helps our customers streamline and optimize their payments and collections processes. Zuora Collect enables customers to utilize a global network of payment gateways, configure their own automated dunning workflows, orchestrating various retry rules for electronic payments, and understand the root cause of a payment decline. We recently announced the addition of machine learning capabilities to the automated dunning capabilities of Zuora Collect to improve overall electronic payments success rates and reduce involuntary churn. Competitive Strengths We believe the following competitive advantages enable us to maintain and extend our leadership as the system of record for companies in the Subscription Economy: • Comprehensive solution built specifically to handle the complexities of subscription business models; • Flexible technology with a broad range of customers and use cases; • Mission-critical system that is difficult to replace; • Accelerated pace of innovation with over a decade of development experience; • Deep domain expertise across a broad range of subscription business models; • Proven track record with 747 customers with ACV over $100,000 as of January 31, 2022; • Strong network of system integrator partners; and • Growing subscription economy ecosystem with dozens of pre-built integrations to payment gateways, tax solutions, and enterprise applications. Growth Strategy Key elements of our growth strategy inclu • New Customer Acquisition. As the Subscription Economy evolves, we intend to capitalize on our leadership and acquire new enterprise customers in current and future markets. • Expand Relationships with Existing Customers. We intend to expand existing customers’ use of our platform and drive sustainable growth in multiple ways, such as increasing transaction volume and up-sells and cross-sells with additional products. • Enter New Vertical Markets. We currently have a strong position in key vertical markets, including technology, media and entertainment, and manufacturing. We intend to expand to additional vertical markets over time. • Expand our Global Footprint. As adoption of the Subscription Economy evolves throughout the world, we may expand into new countries where we see future opportunities. 4 • Leverage Global Systems Integrators to Accelerate our Growth. We intend to work with system integrators and leverage their role in advocating for and implementing our current and prospective customers' transformation to subscription business models. • Launch New Products and Extend our Technology Lead. As we grow and evolve with our customers, we intend to continue to develop additional products and enhance our current offerings. • Optimize Pricing and Packaging. We intend to optimize and enhance pricing and packaging to align the value customers realize from our products with the revenue we receive. Our Customers Organizations of all sizes, across a wide variety of industries and in many locations around the world, have adopted our solution. As of January 31, 2022, we had 747 customers with ACV equal to or greater than $100,000, representing over 90% of our total ACV. As of January 31, 2021 and 2020, we had 676 and 624 customers, respectively, with ACV equal to or greater than $100,000. We define the number of customers at the end of any particular period as the number of parties or organizations that have entered into a distinct subscription contract with us for which the term has not ended. Each party with which we have entered into a distinct subscription contract is considered a unique customer, and in some cases, there may be more than one customer within a single organization. For more information on ACV, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Operational and Financial Metrics.” Sales and Marketing We market and sell to organizations of different sizes across a broad range of industries. We work with companies that are launching, transforming, and scaling new recurring revenue business models, with a focus on enterprise-scale businesses, or fast growing companies with the potential to achieve enterprise scale. We have an enterprise sales model supported by a field sales organization. Because of the transformative nature of our solution, especially in larger organizations, the selling process is often complex and can involve agreement across multiple departments inside an organization, including the chief executive officer. Over the years, we have developed methodologies and best practices to assist our sales teams in navigating these challenges and have built these learnings into our sales enablement and training to assist with onboarding and productivity of new sales account executives. We believe our sales methodologies and processes offer us significant advantages, particularly in long enterprise sales-cycles. Our sales teams are organized by geographic territories, customer size, and customer verticals. We plan to continue to invest in our direct sales force to grow our enterprise customer base, both domestically and internationally. We conduct a wide range of account-based marketing activities such as virtual webinars and online events; partner marketing with our system integrators, consultants, and ecosystem partners; the Subscription Economy Index, our study of the collective health of subscription businesses and their impact on the overall economy; and as educational content, data-based benchmarks and best practices sharing for the Subscription Economy in a variety of formats such as digital, print, and video on Zuora.com and Subscribed.com. In fiscal 2021, we announced the Subscribed Strategy Group (SSG), which works directly with individual companies and helps them apply expertise attained from the Subscribed Institute’s research to their specific business needs. The SSG works one-on-one with executives from our customer organizations to chart a strategic path towards subscription success by identifying and removing business obstacles, building internal alignment, and establishing routes to success. Best practices developed from our work with over a thousand subscription companies around the world help our customers make critical business decisions, adopt new strategies, and measure their success at regular intervals. As newer markets emerge domestically and internationally, we plan to continue investing in our sales and marketing to grow our customer base. Competition The market for subscription management products and services is highly competitive, rapidly evolving, fragmented, and subject to changing technology, shifting customer needs, and frequent introductions of new products and services. Our main competitors fall into the following categori 5 • providers of traditional ERP software, such as Oracle Corporation and SAP SE; • providers of CRM applications such as Salesforce; • traditional quote-to-revenue solutions that address individual elements of the subscription revenue process, such as traditional CPQ management, billing, collections, revenue recognition, or e-commerce software; • niche billing systems for telecommunications, such as Amdocs Limited; • payment platforms that offer built-in recurring billing functionality; • smaller point solution providers; and • in-house custom built systems. We believe the principal competitive factors in our market inclu • subscription and consumption-based product features and functionality; • ability to support the specific needs of companies with subscription or consumption business models, or combinations of these various complex business models; • ease of use; • vision for the market and product innovation; • expertise, best practices, and frameworks for launching, transforming, and scaling new business models; • enterprise-grade performance and features such as system scalability, security, performance, and resiliency; • customer experience, including support and professional services; • strength of sales and marketing efforts; • relationships with system integrators, management consulting firms, and resellers; • ability to integrate with legacy and other enterprise infrastructures and third-party applications; • brand awareness and reputation; and • total cost of the solution. We believe we compete favorably against our competitors with respect to these factors. Our ability to compete will largely depend on our ongoing performance and the quality of our platform. Human Capital People and Culture Zuora aims to recruit, develop and engage a diverse, high performing, and inclusive workforce. Our culture is rooted in the premise that our employees, whom we call “ZEOs”, are CEOs of their careers. We value authenticity, empowerment and accountability for ZEOs to chart their own paths in achieving Zuora's mission to power the Subscription Economy. Our culture is key to our success and we strive to create an environment that fosters a collaborative, fun, high performing and inclusive culture where ZEOs can achieve individual and team objectives. As of January 31, 2022, we had 1,393 employees, including 671, or 48%, located outside the United States, primarily in Europe, Asia and Australia. Employee Well-Being and Engagement The overall well-being of our employees is important to us and is an integral part of our company culture. Our global well-being programs include a practice of remote working arrangements, flexible paid time off, life planning benefits, wellness platforms and employee assistance. In addition, we ensure ongoing check-ins with employees by managers to provide additional channels of support and career development. We also regularly seek input from employees, including through broad employee satisfaction surveys on specific issues, intended to assess our degree of success in promoting an environment where employees are engaged, satisfied, productive and possess a strong understanding of our business goals. 6 Diversity and Inclusion As a global company, we embrace the diversity of our employees, partners, customers, other stakeholders and the communities we collectively serve. We are committed to developing a diverse and thriving workforce and inclusive ZEO culture. We seek and embrace people who bring diverse backgrounds, perspectives, and experiences and believe this is critical to our success. We continue to build diversity, equity and inclusion into our culture with a focus on creating environments and practices that mitigate bias and allow our employees to be their authentic selves in performing their best work at Zuora. Our ZEO employee resource groups (ERGs) play a key role in this effort. Our ERGs are ZEO-led groups open to all ZEOs that aim to elevate the experiences and interests of underrepresented groups in our workforce. Some ERG examples include our Asian American and Pacific Islander ZEOs, Z-Vets, Out at Zuora, Zuora Familia, Zuora Black Network, and Z-Women. We also foster multiple ongoing educational opportunities and events, including panels, Community Conversations, ZED Talks, and Z-Briefs, for every employee to have open, ongoing conversations across teams and with senior leaders. These are opportunities for dedicated time for continuous learning as well as feedback to help improve our workplace and culture, while also increasing connection and belonging across our globally-distributed workforce. Our executive management team is currently composed of 27% women, and 36% who self-identify as coming from certain underrepresented groups. In addition, our Board of Directors is made up of highly skilled individuals from the technology and business sectors. Women represent 40% of our Board of Directors and 40% of our Board of Directors identify as members of certain underrepresented groups. Learning and Development We believe that investing in the growth and development of our ZEOs will directly enhance our overall company performance. As owners of their careers, ZEOs are encouraged to invest regularly in their own professional development. In support of this, we offer mentorship programs, leadership programs, and other Z-Grow employee training programs, which are designed to help ZEOs develop and manage their careers, drive accountability, and promote a culture of continuous feedback. Additionally, through our Career Cash program, we reimburse ZEOs for costs related to pursuing learning and professional development opportunities. Competitive Pay and Benefits We strive to provide pay, comprehensive benefits and services that help meet the varying needs of our ZEOs. Our total rewards package includes market-competitive pay, including equity compensation, paid time off, and other comprehensive and competitive global benefits. For example, in the United States, we provide 26 weeks of paid parental leave for new parents who have been employed with us for at least six months. To foster a stronger sense of ownership and align ZEO interests with our stockholders' interests, we offer equity compensation under our broad-based stock incentive programs. We also offer the opportunity for eligible ZEOs in the United States and many international locations to participate in our employee stock purchase plan (ESPP). Social Impact We encourage our ZEOs to give back to the causes that matter to them. Zuora is a member of the Pledge 1% movement and we are committed to leveraging our employees' time and talent to make the communities where we live and work stronger. To facilitate our Pledge 1% initiative, we have empowered our employees with the tools and resources they need to create local Z-Philanthropy chapters at our offices worldwide. Through our Z-Philanthropy chapters, ZEOs in our offices across the globe step up to lead giving and volunteering efforts throughout the year and create lasting partnerships with local nonprofits through these employee-led groups. In addition to the sustained efforts of our local Z-Philanthropy chapters, we host an annual Global Month of Service where ZEOs worldwide participate in volunteer and fundraising events. In fiscal 2022, our ZEOs volunteered over 2,400 hours of their time to mission-aligned nonprofits. Additionally, Zuora donated $1.0 million of common stock in fiscal 2022 to the Zuora Impact Fund, a donor-advised fund managed by the Tides Foundation, and we expect to continue to make similar share contributions in the future. The Tides Foundation uses the share proceeds to make charitable donations to a wide variety of nonprofits helping communities around the world. During fiscal 2022, we launched an annual employee matching gifts program under which the Zuora Impact Fund matched up to $1,000 per ZEO based on their charitable donations, volunteer time, or a combination of the two. 7 Intellectual Property We primarily rely on a combination of patents, copyrights, trademarks, trade secrets, confidentiality procedures, contractual commitments, and other legal rights to protect our intellectual property. As of January 31, 2022, in the United States, we held 19 issued patents that expire between 2033 and 2039, and had 24 patent applications pending. We also held two issued patents in Australia that expire in 2032 and 2039 (absent any extensions), and had nine patent applications pending in other foreign jurisdictions. We also pursue the registration of our domain names, trademarks, and service marks in the United States and in certain foreign jurisdictions. As of January 31, 2022, we had nine registered trademarks in the United States, including Zuora, Subscription Economy, Subscribed, and Powering the Subscription Economy. We also had 19 registered trademarks in foreign jurisdictions. In addition, we enter into confidentiality and invention assignment agreements with our employees and consultants and enter into confidentiality agreements with other parties in connection with the disclosure of our confidential information. Intellectual property laws, procedures, and restrictions provide only limited protection and any of our intellectual property rights may be challenged, invalidated, circumvented, infringed, or misappropriated. Further, the laws of certain countries do not protect proprietary rights to the same extent as the laws of the United States and, therefore, in certain jurisdictions, we may be unable to protect our proprietary technology. Compliance with Government Regulations We are subject to various U.S. federal, state, local and foreign laws and regulations, including those relating to data privacy, security and protection, intellectual property, employment and labor, workplace safety, consumer protection, anti-bribery, import and export controls, immigration, federal securities and tax. In addition, our clients in heavily regulated industries and the public sector may be subject to various laws and regulations relating to the formation, administration requirements and performance of contracts which affect how we and our partners do business with such customers. Additional laws and regulations relating to these areas likely will be passed in the future, and these or existing laws and regulations may be interpreted or enforced in new or expanded manners, each of which could result in significant limitations on ways we operate our business. New and evolving laws and regulations, and changes in their enforcement and interpretation, may require changes to our platform, products, services, or business practices, and may significantly increase our compliance costs and otherwise adversely affect our business and results of operations. As our business expands to include additional products and services, and our operations continue to expand internationally, our compliance requirements and costs may increase, and we may be subject to increased regulatory scrutiny. We believe we are currently in material compliance with laws and regulations to which we are subject and do not expect continued compliance to have a material impact on our capital expenditures, earnings, or competitive position. We continue to monitor existing and pending laws and regulations and while the impact of regulatory changes cannot be predicted with certainty, we do not expect compliance to have a material adverse effect. See the section titled “Risk Factors— We are required to comply with governmental export control laws and regulations. Our failure to comply with these laws and regulations could have an adverse effect on our business and operating results.” for additional information about the laws and regulations we are subject to and the risks to our business associated with such laws and regulations. Corporate Information We were incorporated in the State of Delaware in September 2006. Our principal executive offices are located at 101 Redwood Shores Parkway, Redwood City, California 94065 and our telephone number is (888) 976-9056. Our website address is www.zuora.com , and our investor relations website is https://investor.zuora.com . The information on, or that can be accessed through, our website is not part of this Annual Report on Form 10-K. Investors should not rely on any such information in deciding whether to purchase our Class A common stock. Zuora , the Zuora logo, Subscription Economy , Zuora Central Platform , Zuora Billing , Zuora Revenue , Zuora CPQ , Zuora Collect , Zuora Marketplace , Subscribed , and other registered or common law trade names, trademarks, or service marks of Zuora appearing in this Form 10-K are the property of Zuora. This Form 10-K contains additional trade names, trademarks, and service marks of other companies that are the property of their respective owners. We do not intend our use or display of other companies’ trade names, trademarks, or service marks to imply a relationship with, or endorsement or sponsorship of us by, these other companies. Solely for convenience, our trademarks and tradenames referred to in this Form 10-K appear without the ® and ™ symbols, 8 but those references are not intended to indicate, in any way, that we will not assert, to the fullest extent under applicable law, our rights, or the right of the applicable licensor, to these trademarks and tradenames. Available Information Our reports filed with or furnished to the SEC pursuant to Sections 13(a) and 15(d) of the Exchange Act are available, free of charge, on our Investor Relations website at https://investor.zuora.com as soon as reasonably practicable after we electronically file such material with, or furnish it to, the SEC. The SEC maintains a website at http://www.sec.gov that contains reports, and other information regarding us and other companies that file materials with the SEC electronically. We use our Investor Relations website as a means of disclosing material information. Accordingly, investors should monitor our Investor Relations website, in addition to following our press releases, SEC filings and public conference calls and webcasts. Information contained on or accessible through any website reference herein is not part of, or incorporated by reference in, this Annual Report on Form 10-K, and the inclusion of such website addresses in this Annual Report on Form 10-K is as inactive textual references only. Item 1A. Risk Factors A description of the risks and uncertainties associated with our business is set forth below. You should carefully consider the risks and uncertainties described below, as well as the other information in this Form 10-K, including our accompanying consolidated financial statements and the related notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” The occurrence of any of the events or developments described below, or of additional risks and uncertainties not presently known to us or that we currently deem immaterial, could materially and adversely affect our business, results of operations, financial condition and growth prospects. In such an event, the market price of our Class A common stock could decline and you could lose all or part of your investment. Risk Factors Summary An investment in our common stock involves a high degree of risk, and the following is a summary of key risk factors when considering an investment. You should read the summary risks together with the more detailed discussion of risks set forth following this summary, as well as elsewhere in this Annual Report on Form 10-K. Additional risks, beyond those summarized below or discussed elsewhere in this Annual Report on Form 10-K, may apply to our activities or operations as currently conducted or as we may conduct them in the future or in the markets in which we operate or may in the future operate. Risks Related to Our Business and Industry • If we are unable to attract new customers and retain and expand sales to existing customers on a cost-effective basis, our revenue growth could be slower than we expect and our business would be adversely affected. • If we are unable to manage our growth effectively, our revenue and profits could be adversely affected. • If the shift to subscription business models, including the market for subscription management software, develops slower than we expect, our growth may slow or stall and our operating results could be adversely affected. • If we are unable to recruit or retain senior management or other key personnel and maintain our corporate culture, our business, operating results, and financial condition could be adversely affected. • Our debt obligations could adversely affect our financial condition. • We may be unable to integrate businesses we have or will acquire or to achieve expected benefits of such acquisitions. • The ongoing COVID-19 pandemic, or other pandemics or natural disasters, or catastrophic events, could adversely impact our business, financial condition, operating results and cash flows. • We have a history of net losses and anticipate continuing to incur losses for the near- and mid-term future and may not achieve or sustain profitability. 9 • Our ability to grow our revenues and achieve and sustain profitability will depend, in part, on our ability to expand our direct sales force and increase productivity of our sales force. • If we are unable to effectively compete in the market for our solutions or such markets develop slower than we expect our business, operating results, and financial condition would be adversely affected. • Our success depends in large part on a limited number of products, and if these offerings fail to gain market acceptance or our product development efforts are unsuccessful, our business, operating results, and financial condition could be adversely affected. • Our operating results, which are influenced by a variety of factors, have fluctuated in the past and may continue to fluctuate, making our future results difficult to predict accurately. • If we are not able to successfully and timely develop, enhance and deploy our products and multi-product strategy, our business, operating results, financial condition and growth prospects could be adversely affected. • If we are unable to successfully execute our strategic initiatives, such as increasing our sales to large enterprise customers and expanding and strengthening our sales channels and relationships with system integrators, our business, operating results and financial condition could be adversely affected. • Our current international operations, and any further expansion of such operations, expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. • If we fail to integrate our solution with a variety of systems, applications and platforms that are developed by others, our solution may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy • A cyber-attack, information security breach or denial of service event could delay or interrupt service to our customers, harm our reputation, or subject us to significant liability. • Privacy and security concerns, laws, and regulations, may reduce the effectiveness of our solution and adversely affect our business. • Failure to protect our intellectual property could adversely affect our business. • Any disruptions of service from our public cloud providers could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. Risks Related to Legal, Regulatory, Accounting, and Tax Matters • Current and future litigation, including our current shareholder litigation, could have a material adverse impact on our operating results and financial condition. • We may require additional capital to fund our business and support our growth, and any inability to generate or obtain such capital may adversely affect our operating results and financial condition. Risks Related to Ownership of Our Class A Common Stock • The market price of our Class A common stock has been, and will likely continue to be, volatile, and you could lose all or part of the value of your investment. • The dual class structure of our common stock has the effect of concentrating voting control with holders of our Class B common stock, including our directors and executive officers, and their affiliates, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. 10 Risks Related to Our Business and Industry If we are unable to attract new customers and retain and expand sales to existing customers our revenue growth could be slower than we expect, and our business may be adversely affected. Our ability to achieve significant growth in revenue in the future will depend, in large part, upon our ability to attract new customers. This may be particularly challenging where an organization has already invested substantial personnel and financial resources to integrate billings and other business and financial management tools, including custom-built solutions, into its business, as such an organization may be reluctant or unwilling to invest in new products and services. As a result, selling our solution often requires sophisticated and costly sales efforts that are targeted at senior management. During the fiscal year ended January 31, 2022, sales and marketing expenses represented approximately 41% of our total revenue. If we fail to attract new customers and fail to maintain and expand new customer relationships, our revenue may grow more slowly than we expect and our business may be adversely affected. Our future revenue growth also depends upon retaining and expanding sales and renewals of subscriptions to our solution with existing customers. If our existing customers do not expand their use of our solution over time or do not renew their subscriptions or if we receive requests from an increased number of customers for changes to payment or other terms as a result of the impact of the COVID-19 pandemic or economic conditions on their businesses, our revenue may grow more slowly than expected, may not grow at all, or may decline. Our success, in part, is dependent on our ability to cross-sell our products. If we experience issues with successfully implementing or cross-selling our products, revenue may grow more slowly or may not grow at all. We currently expect to continue expanding our sales efforts, both domestically and internationally provided business disruptions, such as those due to the COVID-19 pandemic or economic uncertainty, do not continue for an extended period. However, we may be unable to hire qualified sales personnel, may be unable to successfully train those sales personnel that we are able to hire, and sales personnel may not become fully productive on the timelines that we have projected or at all. In addition, mitigation and containment measures adopted by government authorities to contain the spread of COVID-19 in the United States and internationally, including travel restrictions and other requirements that limit in-person meetings, could limit our ability to establish and maintain relationships with new and existing customers. Further, although we dedicate significant resources to sales and marketing programs, these sales and marketing programs may not have the desired effect and may not expand sales. We cannot assure you that our efforts would result in increased sales to existing customers, and additional revenue. If our efforts to expand sales and renewals to existing customers are not successful, our business and operating results could be adversely affected. Our customers generally enter into subscription agreements with one- to three-year subscription terms and have no obligation to renew their subscriptions after the expiration of their initial subscription period. Moreover, our customers that do renew their subscriptions may renew for lower subscription or usage amounts or for shorter subscription periods. In addition, in the first year of a subscription, customers often purchase an increased level of professional services (such as training and deployment services) than they do in renewal years. Costs associated with maintaining a professional services department are relatively fixed in the short-term, while professional services revenue is dependent on the amount of billable work actually performed for customers in a period, the combination of which may result in variability in, and have a negative impact on, our gross profit. Customer renewals may decline or fluctuate as a result of a number of factors, including the breadth of early deployment, reductions in our customers’ spending levels, higher volumes of usage purchased upfront relative to actual usage during the subscription term, changes in customers’ business models and use cases, our customers’ satisfaction or dissatisfaction with our solution, our pricing or pricing structure, the pricing or capabilities of products or services offered by our competitors, or the effects of economic conditions, including as a result of the COVID-19 pandemic. If our customers do not renew their agreements with us, or renew on terms less favorable to us, our revenue may decline. 11 If we fail to manage our growth and expansion plans effectively, our business, operating results, and financial condition could be adversely affected. While we had experienced rapid growth in our operations and personnel prior to the COVID-19 pandemic, we reduced our overall rate of hiring in fiscal 2021 as a cost savings measure in light of the COVID-19 pandemic and uncertain economic conditions. During fiscal 2022, we accelerated our pace of hiring and investments in our operations including sales, marketing and product technology, and we currently intend to continue these investments provided business disruptions, such as those due to the COVID-19 pandemic or economic uncertainty, and increasing wage inflation do not continue for an extended period. If we are not able to continue to increase our headcount within a reasonable period of time, our ability to expand our operations and maintain or increase our sales may be negatively impacted. To manage growth in our operations and personnel, we will need to continue to improve our operational, financial, and management controls and our reporting systems and procedures, as well as training and experience oversight. Failure to manage growth and expansion plans effectively could result in difficulty or delays in deploying customers, declines in quality or customer satisfaction, increases in costs, difficulties in introducing new products and services or enhancing existing products and services, loss of customers, or other operational difficulties in executing sales strategies, any of which could adversely affect our business performance and operating results. If the shift by companies to subscription business models, including consumer adoption of products and services that are provided through such models, and, in particular, the market for subscription management software, develops slower than we expect, our growth may slow or stall, and our operating results could be adversely affected. Our success depends on companies shifting to subscription business models and consumers choosing to consume products and services through such models. Many companies may be unwilling or unable to offer their solutions using a subscription business model, especially if they do not believe that the consumers of their products and services would be receptive to such offerings. Our success will also depend, to a large extent, on the willingness of large enterprises that have adopted subscription business models utilizing cloud-based products and services to manage billings and financial accounting relating to their subscriptions. Enterprises may choose not to shift to a subscription business model or, they may choose to shift more slowly than we expect. In addition, those enterprises that do shift to a subscription model may decide that they do not need a solution that offers the range of functionalities that we offer. Many companies have invested substantial effort and financial resources to develop custom-built applications or integrate traditional enterprise software into their businesses as they shift to subscription or subscription business models and may be reluctant or unwilling to switch to different applications. Factors that may affect market acceptance and sales of our products and services inclu • the number of companies shifting to subscription business models; • the number of consumers and businesses adopting new, flexible ways to consume products and services; • the security capabilities, reliability, and availability of cloud-based services; • customer concerns with entrusting a third party to store and manage their data, especially transaction-critical, confidential, or sensitive data; • our ability to minimize the time and resources required to deploy our solution; • our ability to achieve and maintain high levels of customer satisfaction; • our ability to deploy upgrades and other changes to our solution without disruption to our customers; • the level of customization or configuration we offer; • the overall level of corporate spending and spending on quote-to-revenue solutions by our customers and prospects, including the impact of spending due to the ongoing COVID-19 pandemic; • general economic conditions, both in domestic and foreign markets, including the continued effects on economic conditions related to the ongoing COVID-19 pandemic; and • the price, performance, and availability of competing products and services. 12 The markets for subscription products and services and for subscription management software may not develop further or may develop slower than we expect. If companies do not shift to subscription business models and subscription management software does not achieve widespread adoption, or if there is a reduction in demand for subscription products and services or subscription management software caused by technological challenges, weakening economic conditions, security or privacy concerns, decreases in corporate spending, a lack of customer acceptance, or otherwise, our business could be materially and adversely affected. In addition, our subscription agreements with our customers generally provide for a minimum subscription platform fee and usage-based fees, which depend on the total dollar amount that is invoiced or managed on our solution. Because a portion of our revenue depends on the volume of transactions that our customers process through our solution, if our customers do not adopt our solution throughout their business, if their businesses decline or fail, or if they are unable to successfully shift to subscription business models, including if they fail to successfully deploy our solution, our revenue could decline and our operation results could be adversely impacted. Our business depends largely on our ability to attract and retain talented employees, including senior management, and maintain our corporate culture. If we lose the services of Tien Tzuo, our founder, Chairman, and Chief Executive Officer, or other critical talent across our executive team and in other key roles, or fail to maintain our "ZEO" culture, we may not be able to execute on our business strategy. Our future success depends on our continuing ability to attract, train, assimilate, and retain highly skilled personnel, including software engineers, sales personnel, and professional services personnel. We face intense competition for qualified individuals from numerous software and other technology companies. Like many companies, we experienced increased turnover during fiscal 2021 and fiscal 2022, and we may continue to experience heightened attrition, including those with significant institutional knowledge and expertise. We may not be able to retain our current key employees, or attract, train, assimilate, or retain other highly skilled personnel in the future. For example, employees may seek new or different opportunities that offer greater compensation or benefits than we offer or are able to offer, making it difficult to retain them. In addition, we may incur significant costs to attract and retain highly skilled personnel, and we may lose new employees to our competitors or other technology companies before we realize the benefit of our investment in recruiting and training them. As we move into new countries, we will need to attract and recruit skilled personnel in those areas. If we are unable to attract and retain suitably qualified individuals who are capable of meeting our growing technical, operational, and managerial requirements, on a timely basis or at all, our business may be adversely affected. Further, as our organization grows and we are required to implement more complex organizational structures, we may find it increasingly difficult to maintain the beneficial aspects of our “ZEO” corporate culture, which is based on the idea that each employee is the CEO of their Zuora experience and career, and places a strong value on freedom, responsibility and accountability. Our ability to attract and retain talented employees could be negatively impacted if we are unable to maintain our corporate culture. Our future success also depends in large part on the continued services of senior management and other key personnel. In particular, we are highly dependent on the services of Tien Tzuo, our founder, Chairman and Chief Executive Officer, who is critical to the development of our technology, platform, future vision, and strategic direction. We rely on our leadership team in the areas of operations, security, marketing, sales, support, and general and administrative functions, and on individual contributors on our research and development team. Our senior management and other key personnel are all employed on an at-will basis, which means that they could terminate their employment with us at any time and for any reason, such as retirement or career change. For example, as we previously announced, Jennifer Pileggi retired as Zuora's General Counsel effective February 11, 2022 and our new Chief Legal Officer, Andrew Cohen, joined Zuora on February 14, 2022. We do not currently maintain key-person life insurance policies on any of our officers or employees. If we lose the services of senior management or other key personnel, or if we are unable to attract, train, assimilate, and retain the highly skilled personnel we need, our business, operating results, and financial condition could be adversely affected. Volatility or lack of appreciation in our stock price may also affect our ability to attract and retain our key employees. Many of our senior personnel and other key employees have become, or will soon become, vested in a substantial amount of stock or stock options. Employees may be more likely to leave us if the shares they own or the shares underlying their vested options have significantly appreciated in value relative to the original purchase price of the shares or the exercise price of the options, or conversely, if the exercise price of the options that they hold are significantly above the market price of our Class A common stock. If we are unable to retain our employees, or if we need to increase our compensation expenses to retain our employees, our business, results of operations, financial condition, and cash flows could be adversely affected. 13 Our debt obligations could adversely affect our financial condition. On March 24, 2022 (Initial Closing Date) we issued $250.0 million aggregate principal amount of convertible senior unsecured notes due in 2029 to Silver Lake Alpine II, L.P. (Silver Lake) (2029 Notes). We also will issue to Silver Lake an additional $150.0 million in senior unsecured notes within 18 months of the Initial Closing Date. See Note 18. Subsequent Events to our consolidated financial statements included in this Form 10-K for more information about the 2029 Notes. Our debt obligations, in particular the 2029 Notes, could adversely impact us. For example, these obligations coul • require us to use a substantial portion of our cash flow from operations to pay principal and interest on debt, or to repurchase our 2029 Notes when required upon the occurrence of certain events or otherwise pursuant to the terms thereof, which will reduce the amount of cash flow available to fund working capital, capital expenditures, acquisitions, and other business activities; • require us to use cash and/or issue shares of our Class A common stock to settle any obligations; • result in certain of our debt instruments being accelerated or being deemed to be in default if certain terms of default are triggered, such as applicable cross payment default and/or cross-acceleration provisions; • adversely impact our credit rating, which could increase future borrowing costs; • limit our future ability to raise funds for capital expenditures, strategic acquisitions or business opportunities, and other general corporate requirements; • restrict our ability to create or incur liens and engage in other transactions and activity; • increase our vulnerability to adverse economic and industry conditions; • dilute our earnings per share as a result of the conversion provisions in the 2029 Notes; and • place us at a competitive disadvantage compared to our less leveraged competitors. Our ability to meet our payment obligations under our debt instruments depends on our ability to generate significant cash flows in the future. This, to some extent, is subject to market, economic, financial, competitive, legislative, and regulatory factors as well as other factors that are beyond our control. There can be no assurance that our business will generate cash flow from operations, or that additional capital will be available to us, in amounts sufficient to enable us to meet our debt payment obligations and to fund other liquidity needs. For example, we may utilize proceeds from the 2029 Notes for acquisitions or other investments that do not increase our enterprise value or we are otherwise unable to generate sufficient cash flows to repay our debt obligations. Additionally, events and circumstances may occur which would cause us to not be able to satisfy applicable draw-down conditions and utilize the revolving credit facility under our Debt Agreement described below in Note 9. Debt . If we are unable to generate sufficient cash flows to service our debt payment obligations, we may need to refinance or restructure our debt, sell assets, reduce or delay capital investments, or seek to raise additional capital. If we are unable to implement one or more of these alternatives on commercially reasonable terms or at all, we may be unable to meet our debt payment obligations, which would materially and adversely impact our business, financial condition and operating results. We may acquire or invest in additional companies, which may divert our management’s attention, result in additional dilution to our stockholders, and consume resources that are necessary to sustain our business. We may be unable to integrate acquired businesses and technologies successfully or to achieve the expected benefits of such acquisitions. Our business strategy includes acquiring other complementary products, technologies, or businesses. An acquisition, investment, or business relationship may result in unforeseen operating difficulties and expenditures. In particular, we may encounter difficulties assimilating or integrating the businesses, technologies, products, personnel, or operations of the acquired companies, particularly if the key personnel of the acquired companies choose not to work for us, if an acquired company’s software is not easily adapted to work with ours, or if we have difficulty retaining the customers of any acquired business due to changes in management or otherwise. Acquisitions may also disrupt our business, divert our resources, and require significant management attention that would otherwise be available for development of our business. Moreover, the anticipated benefits of any 14 acquisition, investment, or business relationship may not be realized or we may be exposed to unknown liabilities. We may in the future acquire or invest in additional businesses, products, technologies, or other assets. We also may enter into relationships with other businesses to expand our products and services or our ability to provide our products and services in foreign jurisdictions, which could involve preferred or exclusive licenses, additional channels of distribution, discount pricing, or investments in other companies. Negotiating these transactions can be time consuming, difficult, and expensive, and our ability to close these transactions may often be subject to approvals that are beyond our control. Consequently, these transactions, even if undertaken and announced, may not close. For one or more of those transactions, we may: • issue additional equity securities that would dilute our stockholders; • use cash that we may need in the future to operate our business; • incur debt on terms unfavorable to us or that we are unable to repay; • incur large charges or substantial liabilities; • encounter difficulties retaining key employees of the acquired company or integrating diverse software codes or business cultures; and • become subject to adverse tax consequences, substantial depreciation, or deferred compensation charges. Any of these risks could adversely impact our business and operating results. The ongoing COVID-19 pandemic could adversely affect our business, financial condition, results of operations, and cash flows. The ongoing COVID-19 pandemic has impacted worldwide economic activity and financial markets. In light of the uncertain and evolving situation relating to the spread of the disease and efficacy of vaccines, we have taken precautionary measures intended to minimize the risk of the virus to our employees, our customers and the communities in which we operate, which could negatively impact our business. Currently, most of our offices are open at limited capacity based on local regulations, many of our employees remain working from home, business travel is subject to certain restrictions, and we hold most of our customer events as virtual-only experiences. As we continue to monitor the situation, we may consider reducing our office footprint. For example, we have recently consolidated our San Francisco office into our corporate headquarters in Redwood City, and by further consolidating space at our headquarters, have made available office space that we plan to sublease. In addition, we may deem it advisable to continue to alter, postpone or cancel customer, employee or industry events in the future. We may adjust our policies and business practices in light of the evolving COVID-19 pandemic and related government restrictions and public health guidance, and further restrictive measures could negatively impact our business. As pandemic conditions improve and government regulations generally ease in light of availability of vaccines and other health measures, we expect more employees will be working in our offices, increased business travel, and increased in-person customer events. The ongoing effects of the COVID-19 pandemic and the precautionary measures that we have adopted have resulted in, and could continue to result in, customers not purchasing or renewing our products or services, a significant delay or lengthening of our sales cycles, a negative impact to our customer success and sales and marketing efforts, difficulties or changes to our customer support, or potential operational or other challenges, any of which could harm our business and operating results. Because we sell our solutions primarily on a subscription basis, the effect of the pandemic may not be fully reflected in our operating results until future periods. As a result of the COVID-19 pandemic, we have experienced, and may continue to experience in the future, a reduced ability or willingness by companies in certain customer segments and industries to purchase our solutions, delayed purchasing decisions or project implementation timing of prospective customers, reduced value or duration of subscription contracts, or a negative impact to attrition rates. Such impacts have resulted, and may continue to result, in requests from customers for payment or pricing concessions , such as in the form of extended payment terms or restructuring of contracts, impacts to our quarterly billings, and in customers limiting their spending, which, in certain cases, have resulted in customers not purchasing or renewing our products or services. Historically, a significant portion of our field sales and professional services have been conducted in person. As a result of the COVID-19 pandemic, most of our sales and professional services activities for the past two years were being conducted remotely. As the COVID-19 restrictions have lessened, we have begun conducting some of these activities again in person, but are not at the frequency that we were before the pandemic. If the impact of the 15 COVID-19 pandemic deepens or extends into other customer segments, these conditions could further adversely affect the rate of billings and subscription management solutions spending of our customers, our sales cycles could be further extended or delayed, our ability to close transactions with new and existing customers and partners may be negatively impacted, our ability to recognize revenue from software transactions we do close may be negatively impacted due to implementation delays or other factors, our demand generation activities, and the efficiency and effectiveness of those activities, may be negatively affected, and our ability to provide 24x7 worldwide support to our customers may be negatively affected, any of which may make it difficult for us to forecast our sales and operating results and to make decisions about future investments. These and other potential effects on our business due to the COVID-19 pandemic may be significant and could materially harm our business operating results and financial condition. More generally, the COVID-19 pandemic has had, and could continue to have, an adverse effect on economies and financial markets globally, potentially leading to an economic downturn, which could decrease technology spending and adversely affect demand for our products and services. Any prolonged economic downturn or recession as a result of the COVID-19 pandemic could materially harm the business and operating results of our company and our customers, resulting in potential business closures and layoffs of employees, which effects may continue even after the COVID-19 pandemic is contained. The occurrence of any such events may lead to a reduction in the capital and operating budgets we or our customers have available, which could harm our business, financial condition and operating results. It is not possible at this time to estimate the long-term impact that COVID-19 could have on our business, as the impact will depend on future developments, which are highly uncertain and cannot be predicted. In fiscal 2021, we implemented plans to manage our costs in certain areas such as travel, events and marketing and reduced our pace of hiring while continuing to prioritize new headcount critical to operations, sales and customer support. During fiscal 2022, we accelerated our pace of hiring and investments in our operations including sales, marketing and product technology. We currently intend to continue these investments, but should we experience any further business disruption, additional cost management actions may be considered. These measures may not be sufficient to prevent adverse impacts on our business and financial condition from the COVID-19 pandemic. The degree to which the COVID-19 pandemic may impact our business and financial results in the future will depend on further developments, including the severity and the continued duration of the pandemic, and further actions that may be taken by governmental authorities or businesses. To the extent the COVID-19 pandemic adversely affects our business and financial results, it may also have the effect of heightening many of the other risks described in this “ Risk Factors ” section. The uncertainty surrounding the COVID-19 pandemic, including developments related to COVID-19 variants and vaccine efficacy, and its impact on the global economy could also lead to a significant adverse impact on our business operations and financial performance in the future. We have a history of net losses, anticipate increasing our operating expenses in the future, and may not achieve or sustain profitability. We have incurred net losses in each fiscal year since inception, including net losses of $99.4 million, $73.2 million, and $83.4 million in fiscal 2022, 2021, and 2020, respectively. We expect to incur net losses for the foreseeable future. As of January 31, 2022, we had an accumulated deficit of $563.4 million. We expect to make significant future expenditures related to the development and expansion of our business, including increasing our overall customer base, expanding relationships with existing customers, entering new vertical markets, expanding our global footprint, expanding and leveraging our relationships with strategic partners including system integrators to accelerate our growth, optimizing pricing and packaging, and expanding our operations and infrastructure, both domestically and internationally, and in connection with legal, accounting, and other administrative expenses related to operating as a public company. These efforts may prove more expensive than we currently anticipate, and we may not succeed in increasing our revenue sufficiently, or at all, to offset these increased expenses. Some or all of the foregoing initiatives have been and may continue to be temporarily delayed or re-evaluated as part of our efforts to mitigate the ongoing effects of the COVID-19 pandemic on our business, which may negatively affect our ability to expand our operations and maintain or increase our sales. While our revenue has grown in recent years, if our revenue declines or fails to grow at a rate faster than these increases in our operating expenses, we will not be able to achieve and maintain profitability in future periods. As a result, we may continue to generate losses. We cannot assure you that we will achieve profitability in the future or that, if we do become profitable, we will be able to sustain profitability. 16 Our revenue growth and ability to achieve and sustain profitability will depend, in part, on being able to expand our direct sales force and increase the productivity of our sales force. To date, most of our revenue has been attributable to the efforts of our direct sales force. In order to increase our revenue and achieve and sustain profitability, we must increase the size of our direct sales force, both in the United States and internationally, to generate additional revenue from new and existing customers. In connection with the COVID-19 pandemic, the market for employees has become more competitive in some locations. While we have been able to attract new qualified sales personnel to meet our needs, depending on how the employment market develops, it may become more difficult to do so in the future. There is also significant competition for sales personnel with the skills and technical knowledge that we require. Because our solution is often sold to large enterprises and involves long sales cycles and complex customer requirements, it is more difficult to find sales personnel with the specific skills and technical knowledge needed to sell our solution and, even if we are able to hire qualified personnel, doing so may be expensive. Our ability to achieve significant revenue growth will depend, in large part, on our success in recruiting, training, and retaining sufficient numbers of direct sales personnel to support our growth. Due to the complexities of our customer needs, new sales personnel require significant training and can take a number of months to achieve full productivity. Our recent hires and planned hires may not become productive as quickly as we expect and if our new sales employees do not become fully productive on the timelines that we have projected or at all, our revenue will not increase at anticipated levels and our ability to achieve long-term projections may be negatively impacted. We may also be unable to hire or retain sufficient numbers of qualified individuals in the markets where we do business or plan to do business. Furthermore, hiring sales personnel in new countries requires additional set up and upfront costs that we may not recover if the sales personnel fail to achieve full productivity. In addition, as we continue to grow, a larger percentage of our sales force will be new to our company and our solution, which may adversely affect our sales if we cannot train our sales force quickly or effectively. Attrition rates may increase, and we may also face integration challenges as we continue to seek to expand our sales force. If we are unable to hire and train sufficient numbers of effective sales personnel, if attrition increases, or if the sales personnel are not successful in obtaining new customers or increasing sales to our existing customer base, our business will be adversely affected. We periodically change and make adjustments to our sales organization in response to market opportunities, competitive threats, management changes, product and service introductions or enhancements, acquisitions, sales performance, increases in sales headcount, cost levels, and other internal and external considerations, including potential changes and uncertainties associated with the ongoing COVID-19 pandemic. Any future changes in our sales organization may result in a temporary reduction of productivity, which could negatively affect our rate of growth. In addition, any significant change to the way we structure our compensation of our sales organization may be disruptive and may affect our revenue growth. The market in which we participate is competitive, and our operating results could be harmed if we do not compete effectively. The market for quote-to-revenue solutions, including our billing, collections and revenue recognition offerings, is highly competitive, rapidly evolving, and fragmented, and subject to changing technology, shifting customer needs, and frequent introductions of new products and services. Many of our current and potential competitors have longer operating histories, access to alternative fundraising sources, significantly greater financial, technical, marketing, distribution or professional services experience, or other resources or greater name recognition than we do. In addition, many of our current and potential competitors supply a wide variety of products to, and have strong and well-established relationships with, current and potential customers. As a result, our current and potential competitors may be able to respond more quickly and effectively than we can to new or changing opportunities, technologies, standards, or customer requirements or devote greater resources than we can to the development, promotion, and sale of their products and services. In addition, some current and potential competitors may offer products or services that address one or a limited number of functions at lower prices or with greater depth than our solution, or integrate or bundle such products and services with their other product offerings. Potential customers may prefer to purchase from their existing suppliers rather than from a new supplier. Our current and potential competitors may develop and market new technologies with comparable functionality to our solution. In addition, because our products and services are integral to our customers’ ability to accurately maintain books and records and prepare financial statements, our potential customers may prefer to purchase applications that are critical to their business from one of our larger, more established competitors, or 17 leverage the software that they have already purchased from our competitors for their billing and accounting needs, or control such infrastructure internally. We may experience fewer customer orders, reduced gross margins, longer sales cycles, and loss of market share. This could lead us to decrease prices, implement alternative pricing structures, or introduce products and services available for free or a nominal price in order to remain competitive. We may not be able to compete successfully against current and future competitors, and our business, operating results, and financial condition will be adversely impacted if we fail to meet these competitive pressures. Our ability to compete successfully in our market depends on a number of factors, both within and outside of our control. Some of these factors inclu ease of use; subscription-based product features and functionality; ability to support the specific needs of companies with subscription business models; ability to integrate with other technology infrastructures and third-party applications; enterprise-grade performance and features such as system scalability, security, performance, and resiliency; vision for the market and product innovation; relationships with strategic partners, including system integrators, management consulting firms, and resellers; total cost of ownership; strength of sales and marketing efforts; brand awareness and reputation; and customer experience, including support and professional services. Any failure by us to compete successfully in any one of these or other areas may reduce the demand for our solution, as well as adversely affect our business, operating results, and financial condition. Moreover, current and future competitors may also make strategic acquisitions or establish cooperative relationships among themselves or with others, including our current or future technology partners. By doing so, these competitors may increase their ability to meet the needs of our customers or potential customers. These developments could limit our ability to obtain revenue from existing and new customers. If we are unable to compete successfully against current and future competitors, our business, operating results, and financial condition could be adversely impacted. Our success depends in large part on a limited number of products. If these products fail to gain or lose market acceptance, our business will suffer. We derive substantially all of our revenue and cash flows from sales of subscriptions and associated deployment of our Zuora Central Platform , Zuora Billing, Zuora Revenue, and Zuora Collect products. As such, the continued growth in market demand for these products is critical to our success. Demand for our solution is affected by a number of factors, many of which are beyond our control, including macroeconomic factors, such as the impacts of the COVID-19 pandemic on our customers and prospects, the growth or contraction of the Subscription Economy, continued market acceptance of our solution by customers for existing and new use cases, the timing of development and release of new products and services, features, and functionality introduced by our competitors, changes in accounting standards, laws or regulations, policies, guidelines, interpretations, or principles that would impact the functionality and use of our solution, and technological change. We expect that an increasing transition to disaggregated solutions that focus on addressing specific customer use cases would continue to disrupt the enterprise software space, enabling new competitors to emerge. We cannot assure you that our solutions and future enhancements to our solution will be able to address future advances in technology or the requirements of enterprise customers. If we are unable to meet customer demands in creating a flexible solution designed to address all these needs or otherwise achieve more widespread market acceptance of our solution, our business, operating results, financial condition, and growth prospects would be adversely affected. Our operating results may fluctuate from quarter to quarter, which makes our future results difficult to predict. Our quarterly operating results have fluctuated in the past and may fluctuate in the future. As a result, you should not rely upon our past quarterly operating results as indicators of future performance. We have encountered, and will continue to encounter, risks and uncertainties frequently experienced by growing companies in rapidly evolving markets, such as the risks and uncertainties described herein. Our operating results in any given quarter can be influenced by numerous factors, many of which are unpredictable or are outside of our control, includin • our ability to maintain and grow our customer base; • our ability to retain and increase revenue from existing customers; • our ability to introduce new products and services and enhance existing products and services; • our ability to integrate or implement our existing products and services on a timely basis or at all; 18 • our ability to deploy our products successfully within our customers' information technology ecosystems; • our ability to enter into larger contracts; • increases or decreases in subscriptions to our platform; • our ability to sell to large enterprise customers; • the transaction volume that our customers processes through our system; • our ability to respond to competitive developments, including competitors' pricing changes and their introduction of new products and services; • the impact of inflation, including wage inflation; • foreign exchange fluctuations; • changes in the pricing of our products; • the productivity of our sales force; • our ability to grow our relationships with strategic partners such as system integrators and their effectiveness in increasing our sales and implementing our products; • changes in the mix of products and services that our customers use; • the length and complexity of our sales cycles; • cost to develop and upgrade our solution to incorporate new technologies; • seasonal purchasing patterns of our customers; • the impact of outages of our solution and reputational harm; • costs related to the acquisition of businesses, talent, technologies, or intellectual property, including potentially significant amortization costs and possible write-downs; • failures or breaches of security or privacy, and the costs associated with responding to and addressing any such failures or breaches; • changes to financial accounting standards and the interpretation of those standards that may affect the way we recognize and report our financial results, including changes in accounting rules governing recognition of revenue; • the impact of changes to financial accounting standards; • general economic and political conditions and government regulations in the countries where we currently operate or plan to expand; • decisions by us to incur additional expenses, such as increases in sales and marketing or research and development; • the timing of stock-based compensation expense; • political unrest, changes and uncertainty associated with terrorism, hostilities, war, natural disasters or pandemics, including the ongoing COVID-19 pandemic and the ongoing conflict in Ukraine; and • potential costs to attract, onboard, retain, and motivate qualified personnel. The extent to which the global COVID-19 pandemic will continue to impact our business and financial results will depend on future developments, which are uncertain and cannot be fully predicted, including the duration of the pandemic, travel restrictions and social distancing in the United States and other countries, business closures or business disruptions and the effectiveness of actions taken by governments and private businesses to attempt to contain and treat the disease. Any prolonged shutdown of a significant portion of global economic activity or downturn in the global economy, along with any adverse effects on industries in which our customers operate, could materially and adversely impact our business, results of operations and financial condition. The impact of one or more of the foregoing and other factors may cause our operating results to vary significantly. As such, we believe that quarter-to-quarter comparisons of our operating results may not be meaningful and should not be relied upon as an indication of future performance. If we fail to meet or exceed the 19 expectations of investors or securities analysts, then the trading price of our Class A common stock could fall substantially, and we could face costly lawsuits, including shareholder litigation. A customer’s failure to deploy our solution after it enters into a subscription agreement with us, or the incorrect or improper deployment or use of our solution could result in customer dissatisfaction and negatively affect our business, operating results, financial condition, and growth prospects. Our solution is deployed in a wide variety of technology environments and into a broad range of complex workflows. We believe our future success will depend in part on our ability to increase both the speed and success of our deployments, by improving our deployment methodology, hiring and training qualified professionals, deepening relationships with deployment partners, and increasing our ability to integrate into large-scale, complex technology environments. We often assist our customers in deploying our solution, either directly or through our deployment partners. In other cases, customers rely on third-party partners to complete the deployment. In some cases, customers initially engage us to deploy our solution, but, for a variety of reasons, including strategic decisions not to utilize subscription business models, fail to ultimately deploy our solution. If we or our third-party partners are unable to deploy our solution successfully, or unable to do so in a timely manner and, as a result, customers do not utilize our solution, we would not be able to generate future revenue from such customers based on transaction or revenue volume and the upsell of additional products and services, and our future operating results could be adversely impacted. In addition, customers may also seek refunds of their initial subscription fee. Moreover, customer perceptions of our solution may be impaired, our reputation and brand may suffer, and customers may choose not to renew or expand their use of our solution. If we are not able to develop and release new products and services, or successful enhancements, new features, and modifications to our existing products and services, or otherwise successfully implement our multi-product strategy, our business could be adversely affected. The market for our quote-to-revenue solution, including our billing, collections and revenue recognition offerings, is characterized by rapid technological change, frequent new product and service introductions and enhancements, changing customer demands, and evolving industry standards. The introduction of products and services embodying new technologies can quickly make existing products and services obsolete and unmarketable. Additionally, because we provide billing and finance solutions to help our customers with compliance and financial reporting, changes in law, regulations, and accounting standards could impact the usefulness of our products and services and could necessitate changes or modifications to our products and services to accommodate such changes. Subscription management products and services, including our billing, collections and revenue recognition offerings, are inherently complex, and our ability to implement our multi-product strategy, including developing and releasing new products and services or enhancements, new features and modifications to our existing products and services depends on several factors, including timely completion, competitive pricing, adequate quality testing, integration with new and existing technologies and our solution, and overall market acceptance. We cannot be sure that we will succeed in developing, marketing, and delivering on a timely and cost-effective basis enhancements or improvements to our platform or any new products and services that respond to continued changes in subscription management practices or new customer requirements, nor can we be sure that any enhancements or improvements to our platform or any new products and services will achieve market acceptance. Since developing our solution is complex, the timetable for the release of new products and enhancements to existing products is difficult to predict, and we may not offer new products and updates as rapidly as our customers require or expect. Any new products or services that we develop may not be introduced in a timely or cost-effective manner, may contain errors or defects, or may not achieve the broad market acceptance necessary to generate sufficient revenue. The introduction of new products and enhancements could also increase costs associated with customer support and customer success as demand for these services increase. This increase in cost could negatively impact profit margins, including our gross margin. Moreover, even if we introduce new products and services, we may experience a decline in revenue of our existing products and services that is not offset by revenue from the new products or services. For example, customers may delay making purchases of new products and services to permit them to make a more thorough evaluation of these products and services or until industry and marketplace reviews become widely available. Some customers may hesitate to migrate to a new product or service due to concerns regarding the complexity of migration or performance of the new product or service. In addition, we may lose existing customers who choose a competitor’s products and services or choose to utilize internally developed applications instead of our products and services. This could result in a temporary or permanent revenue shortfall and adversely affect our business. 20 In addition, because our products and services are designed to interoperate with a variety of other internal or third-party software products and business systems applications, we will need to continuously modify and enhance our products and services to keep pace with changes in application programming interfaces (APIs), and other software and database technologies. We may not be successful in either developing these new products and services, modifications, and enhancements or in bringing them to market in a timely fashion. There is no assurance that we will successfully resolve such issues in a timely and cost-effective manner. Furthermore, modifications to existing platforms or technologies, including any APIs with which we interoperate, will increase our research and development expenses. Any failure of our products and services to operate effectively with each other or with other platforms and technologies could reduce the demand for our products and services, result in customer dissatisfaction, and adversely affect our business. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, our sales cycle may become longer and more expensive, we may encounter still greater pricing pressure and deployment and customization challenges, and we may have to delay revenue recognition for more complicated transactions, all of which could adversely impact our business and operating results. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, we may face greater costs, longer sales cycles, and less predictability in the completion of some of our sales. In this market segment, the customer’s decision to use our solution may be an enterprise-wide decision, in which case these types of sales frequently require approvals by multiple departments and executive-level personnel and require us to provide greater levels of customer education regarding the uses and benefits of our solution, as well as education regarding security, privacy, and scalability of our solution, especially for those large “business to consumer” customers or those with extensive international operations. These large enterprise transactions might also be part of a customer’s broader business model or business systems transformation project, which are frequently subject to budget constraints, multiple approvals, and unplanned administrative, processing, security review, and other delays that could further lengthen the sales cycle. Larger enterprises typically have longer decision-making and deployment cycles, may have greater resources to develop and maintain customized tools and applications, demand more customization, require greater functionality and scalability, expect a broader range of services, demand that vendors take on a larger share of risks, demand increased levels of customer service and support, require acceptance provisions that can lead to a delay in revenue recognition, and expect greater payment flexibility from vendors. We are often required to spend time and resources to better familiarize potential customers with the value proposition of our solution. As a result of these factors, sales opportunities with large enterprises may require us to devote greater sales and administrative support and professional services resources to individual customers, which could increase our costs, lengthen our sales cycle, and divert our own sales and professional services resources to a smaller number of larger customers. We may spend substantial time, effort, and money in our sales, design and implementation efforts without being successful in producing any sales or deploying our products in such a way that is satisfactory to our customers. All these factors can add further risk to business conducted with these customers. In addition, if sales expected from a large customer for a particular quarter are not realized in that quarter or at all, our business, operating results, and financial condition could be materially and adversely affected. Furthermore, our sales and implementation cycles could be interrupted or affected by other factors outside of our control. For example, as a result of the COVID-19 pandemic, many large enterprises have generally reduced or delayed technology or other discretionary spending, which may materially and negatively impact our operating results, financial condition and prospects. Like many other companies, including our customers and prospects, our employees are working from home and while we limited all non-essential business travel during the pandemic, we are now allowing business travel more freely in places where such travel is permitted under local regulations. Restrictions on travel and in-person meetings could affect services delivery, delay implementations, and interrupt sales activity and we cannot predict whether, for how long, or the extent to which the COVID-19 pandemic may adversely affect our business, results of operations, and financial condition. If we are unable to grow our sales channels and our relationships with strategic partners, such as system integrators, management consulting firms, and resellers, sales of our products and services may suffer and our growth could be slower than we project. In addition to our direct sales force, we use strategic partners, such as system integrators, management consulting firms, strategic technology partners and resellers, to market, sell, and implement our solution. Historically, we have used these strategic partners to a limited degree, but we are prioritizing efforts to make these partners an increasingly important aspect of our business particularly with regard to enterprise and international sales and larger implementations of our products where these partners may have more expertise and established business 21 relationships than we do. We have been and expect to continue to transition a portion of our professional services implementations to these strategic partners, and as a result we expect our professional services revenue as an overall percentage of Zuora's total revenue to continue to decline over time. Our relationships with these strategic partners are still at an early stage of development, and we cannot assure you that these partners will be successful in marketing, selling or implementing our solution. Identifying these partners, negotiating and supporting relationships with them, including training them in how to sell or deploy our solution, and maintaining these relationships requires significant commitment of time and resources that may not yield a significant return on our investment in these relationships. Our future growth in revenue and ability to achieve and sustain profitability depends in part on our ability to identify, establish, and retain successful strategic partner relationships in the United States and internationally, which will take significant time and resources and involve significant risk. If we are unable to establish and maintain our relationships with these partners, or otherwise develop and expand our indirect distribution channel, our business, operating results, financial condition, or cash flows could be adversely affected. We also cannot be certain that we will be able to maintain successful relationships with any strategic partners and, to the extent that our strategic partners are unsuccessful in marketing, selling, or implementing our solution, our business, operating results, and financial condition could be adversely affected. Our strategic partners may market to our customers the products and services of several different companies, including products and services that compete with our solution. Because our strategic partners do not have an exclusive relationship with us, we cannot be certain that they will prioritize or provide adequate resources to marketing our solution. Moreover, divergence in strategy by any of these partners may materially adversely affect our ability to develop, market, sell, or support our solution. We cannot assure you that our strategic partners will continue to cooperate with us. In addition, actions taken or omitted to be taken by such parties may adversely affect us. We are unable to control the quantity or quality of resources that our systems integrator partners commit to deploying our products and services, or the quality or timeliness of such deployment. If our partners do not commit sufficient or qualified resources to these activities, our customers will be less satisfied, be less supportive with references, or may require the investment of our resources at discounted rates. These, and other failures by our partners to successfully deploy our products and services, may have an adverse effect on our business and our operating results. Our growth forecasts we have provided publicly may prove to be inaccurate, and even if the markets in which we compete achieve the forecasted growth, we cannot assure that our business will grow at similar rates, if at all. Growth forecasts are subject to significant uncertainty and are based on assumptions and estimates that may not prove to be accurate. The forecasts we have provided publicly relating to the expected growth in the quote-to-revenue industry, including subscription billing, collections and revenue recognition markets, and ERP software market may prove to be inaccurate. Even if these markets experience the forecasted growth, we may not grow our business at similar rates, or at all. Our growth is subject to many factors, including our success in executing our business strategy, which is subject to many risks and uncertainties. Accordingly, the forecasts of market growth we have provided publicly should not be taken as indicative of our future growth. Our long-term success depends, in part, on our ability to expand the sales of our solution to customers located outside of the United States. Our current international operations, and any further expansion of those operations, expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. We have been recognizing increased revenue from international sales, and we conduct our business activities in various foreign countries. We currently have operations in North America, Europe, Asia, and Australia. During the fiscal year ended January 31, 2022, we derived approximately 37% of our total revenue from customers located outside the United States. Our ability to manage our business and conduct our operations internationally requires considerable management attention and resources and is subject to the particular challenges of supporting a rapidly growing business in an environment of multiple cultures, customs, legal systems, regulatory systems, and commercial infrastructures. International expansion requires us to invest significant funds and other resources. Our operations in international markets may not develop at a rate that supports our level of investment. Expanding internationally may subject us to new risks that we have not faced before or increase risks that we currently face, including risks associated wit • recruiting and retaining talented and capable employees in foreign countries; 22 • providing our solution to customers from different cultures, which may require us to adapt to sales practices, modify our solution, and provide features necessary to effectively serve the local market; • compliance with multiple, conflicting, ambiguous or evolving governmental laws and regulations and court decisions, including those relating to employment matters, e-invoicing, consumer protection, privacy, data protection, information security, data residency, and encryption; • longer sales cycles in some countries; • increased third-party costs relating to data centers outside of the United States; • generally longer payment cycles and greater difficulty in collecting accounts receivable; • credit risk and higher levels of payment fraud; • weaker privacy and intellectual property protection in some countries, including China and India; • compliance with anti-bribery laws, such as the U.S. Foreign Corrupt Practices Act of 1977, as amended (FCPA), and the UK Bribery Act 2010 (UK Bribery Act); • currency exchange rate fluctuations; • tariffs, export and import restrictions, restrictions on foreign investments, sanctions, and other trade barriers or protection measures; • foreign exchange controls that might prevent us from repatriating cash earned outside the United States; • economic or political instability, including the effects of Brexit, the ongoing COVID-19 pandemic, and the ongoing conflict in Ukraine, especially as it impacts countries in Europe; • corporate espionage; • compliance with the laws of numerous taxing jurisdictions, both foreign and domestic, in which we conduct business, potential double taxation of our international earnings, and potentially adverse tax consequences due to changes in applicable U.S. and foreign tax laws; • continuing uncertainty regarding social, political, immigration, and tax and trade policies in the U.S. and abroad; • increased costs to establish and maintain effective controls at foreign locations; and • overall higher costs of doing business internationally. If we fail to offer high-quality support and training to our customers and third-party partners, our business and reputation will suffer. Once our solution is deployed to our customers, our customers rely on support services from us and from our third-party partners to resolve any related issues. High-quality education, training and support for our customers and third-party partners is important for the successful marketing and sale of our products and for the renewal of existing customers. The importance of high-quality customer and third-party partner training and support will increase as we expand our business and pursue new enterprises. If we or our third-party partners do not help our customers quickly resolve post-deployment issues, including configuring and using features, and provide them with effective ongoing customer support, our ability to upsell additional products to existing customers could suffer and our reputation with existing or potential customers could be harmed. Future changes in market conditions or customer demand could require changes to our prices or pricing model, which could adversely affect our business, operating results, and financial condition. We generally charge our customers a flat fee for their use of our platform and a variable fee based on the amount of transaction volume they process through our system and the number of their subscribers. If our customers do not increase their transaction volume or the number of their subscribers, or an economic downturn reduces their transaction volume or the number of their subscribers, our revenue may be adversely impacted by customers reducing their contracted transaction volume. We have limited experience with respect to determining the optimal prices for our platform, and, as a result, we have in the past needed to and expect in the future to need to change our pricing model from time to time. As the market for our platform matures, or as new competitors introduce new products or services that compete with ours, we may be unable to attract new customers at the same price or 23 based on the same pricing models as we have used historically. We may experience pressure to change our pricing model to defer fees until our customers have fully deployed our solution. Moreover, larger organizations, which comprise a large and growing component of our sales efforts, may demand substantial price concessions. As a result, in the future we may be required to reduce our prices or change our pricing model, which could adversely affect our revenue, gross margin, profitability, financial position, and cash flow. If we fail to integrate our solution with a variety of operating systems, software applications, and hardware platforms that are developed by others, our solution may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Our solution must integrate with a variety of network, hardware, and software platforms, and we need to continuously modify and enhance our solution to adapt to changes in cloud-enabled hardware, software, networking, browser, and database technologies. We have developed our solution to be able to integrate with third-party SaaS applications, including the applications of software providers that compete with us, through the use of APIs. For example, Zuora CPQ integrates with certain capabilities of Salesforce using publicly available APIs. In general, we rely on the fact that the providers of such software systems, including Salesforce, continue to allow us access to their APIs to enable these integrations, and the terms with such companies may be subject to change from time to time. We also integrate certain aspects of our solution with other platform providers. Any change or deterioration in our relationship with any platform provider may adversely impact our business and operating results. Our business may be adversely impacted if any platform provide • discontinues or limits access to its APIs by us; • makes changes to its platform; • terminates or does not allow us to renew or replace our contractual relationship; • modifies its terms of service or other policies, including fees charged to, or other restrictions on, us or other application developers, or changes how customer information is accessed by us or our customers; • establishes more favorable relationships with one or more of our competitors, or acquires one or more of our competitors or is acquired by a competitor and offers competing services to us; or • otherwise develops its own competitive offerings. In addition, we have benefited from these platform providers’ brand recognition, reputations, and customer bases. Any losses or shifts in the market position of these platform providers in general, in relation to one another or to new competitors or new technologies could lead to losses in our relationships or customers, or to our need to identify or transition to alternative channels for marketing our solutions. Such changes could consume substantial resources and may not be effective. If we are unable to respond to changes in a cost-effective manner, our solution may become less marketable, less competitive, or obsolete and our operating results may be negatively impacted. If we fail to develop, maintain, and enhance our brand and reputation cost-effectively, our business and financial condition may be adversely affected. We believe that developing, maintaining, and enhancing awareness and integrity of our brand and reputation in a cost-effective manner are important to achieving widespread acceptance of our solution and are important elements in attracting new customers and maintaining existing customers. We believe that the importance of our brand and reputation will increase as competition in our market further intensifies. Successful promotion of our brand and the Subscription Economy concept will depend on the effectiveness of our marketing efforts, our ability to provide a reliable and useful solution at competitive prices, the perceived value of our solution, and our ability to provide quality customer support. In addition, the promotion of our brand requires us to make substantial expenditures, and we anticipate that the expenditures will increase as our market becomes more competitive, as we expand into new markets, and as more sales are generated through our strategic partners. Brand promotion activities may not yield increased revenue, and even if they do, the increased revenue may not offset the expenses we incur in building and maintaining our brand and reputation. We also rely on our customer base and community of end-users in a variety of ways, including to give us feedback on our solution and to provide user-based support to our other customers. If we fail to promote and maintain our brand successfully or to maintain loyalty among our customers, or if we incur substantial expenses in an unsuccessful attempt to promote and maintain our brand, we 24 may fail to attract new customers and partners or retain our existing customers and partners and our business and financial condition may be adversely affected. Any negative publicity relating to our customers, employees, partners, or others associated with these parties, may also tarnish our own reputation simply by association and may reduce the value of our brand. Damage to our brand and reputation may result in reduced demand for our solution and increased risk of losing market share to our competitors. Any efforts to restore the value of our brand and rebuild our reputation may be costly and may not be successful. We employ third-party licensed software for use in or with our software, and the inability to maintain these licenses or errors in the software we license could result in increased costs or reduced service levels, which could adversely affect our business. Our software incorporates certain third-party software obtained under licenses from other companies. We anticipate that we will continue to rely on such third-party software and development tools from third parties in the foreseeable future. Although we believe that there are commercially reasonable alternatives to the third-party software we currently license, including open source software, this may not always be the case, or it may be difficult or costly to migrate to other third-party software. Our use of additional or alternative third-party software would require us to enter into license agreements with third parties. In addition, integration of our software with new third-party software may require significant work and require substantial investment of our time and resources. Also, any undetected or uncorrected errors or defects in third-party software could prevent the deployment or impair the functionality of our software, present security risks, delay new updates or enhancements to our solution, result in a failure of our solution, and injure our reputation. Certain of our operating results and financial metrics may be difficult to predict as a result of seasonality. Although we have not historically experienced significant seasonality with respect to our subscription revenue throughout the year, we have seen seasonality in our sales cycle as a large percentage of our customers make their purchases in the third month of any given quarter. In addition, our fourth quarter has historically been our strongest quarter. We believe that this results in part from the procurement, budgeting, and deployment cycles of many of our customers. We generally expect a relative increase in sales in the second half of each year as budgets of our customers for annual capital purchases are being fully utilized. We may be affected by seasonal trends in the future, particularly as our business matures. Such seasonality may result from a number of factors, including a slowdown in our customers’ procurement process during certain times of the year, both domestically and internationally, and customers choosing to spend remaining budgets shortly before the end of their fiscal years. These effects may become more pronounced as we target larger organizations and their larger budgets for sales of our solution. Additionally, this seasonality may be reflected to a much lesser extent, and sometimes may not be immediately apparent, in our revenue, due to the fact that we recognize subscription revenue over the term of the applicable subscription agreement. In addition, our ability to record professional services revenue can potentially vary based on the number of billable days in the given quarter, which is impacted by holidays and vacations. To the extent we experience this seasonality, it may cause fluctuations in our operating results and financial metrics and make forecasting our future operating results and financial metrics more difficult. Our Debt Agreement provides our lender with a first-priority lien against substantially all of our non-intellectual property assets, and contains financial covenants and other restrictions on our actions, which could limit our operational flexibility and otherwise adversely affect our financial condition. Our Debt Agreement restricts our ability to, among other thi • use our accounts receivable, inventory, trademarks, and most of our other assets as security in other borrowings or transactions; • incur additional indebtedness; • sell certain assets; • declare dividends or make certain distributions; and • undergo a merger or consolidation or other transactions. Our Debt Agreement also prohibits us from exceeding certain adjusted quick ratios. Our ability to comply with these and other covenants is dependent upon a number of factors, some of which are beyond our control. 25 Our failure to comply with the covenants or payment requirements, or the occurrence of other events specified in our Debt Agreement could result in an event of default under the Debt Agreement which would give our lender the right to terminate their commitments to provide additional loans under the Debt Agreement and to declare all borrowings outstanding, together with accrued and unpaid interest and fees, to be immediately due and payable. In addition, we have granted our lender first-priority liens against substantially all of our non-intellectual property assets as collateral, and have pledged not to encumber or otherwise grant any security interest in our intellectual property. Failure to comply with the covenants or other restrictions in the Debt Agreement could result in a default. If the debt under our Debt Agreement was to be accelerated, we may not have sufficient cash on hand or be able to sell sufficient collateral to repay it, which would have an immediate adverse effect on our business and operating results. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy If our security measures are breached, if unauthorized access to customer data, our data, or our solution is otherwise obtained, or if our solution is perceived as not being secure, customers may reduce the use of or stop using our solution, we may have difficulty attracting customers, and we may incur significant liabilities. We have in the past experienced security incidents and breaches and may in the future experience additional security incidents or breaches. Security breaches and other security incidents could result in the loss of information, disruption of services, litigation, indemnity obligations, penalties, and other liability. If our security measures or those of our service providers are breached, or are perceived to have been breached, as a result of third-party action, including cyber-attacks or other intentional misconduct by computer hackers, employee error, malfeasance, or otherwise, and someone obtains unauthorized access to our data or other data we or our service providers maintain, including sensitive customer data, personal information, intellectual property, and other confidential business information, we could face loss of business, lawsuits or claims, regulatory investigations, or orders, and our reputation could be severely damaged. We, and our third-party partners, have security measures and disaster response plans in place to help protect our customers’ data, our own data and information, and our platform, networks, and other systems against unauthorized access or inadvertent exposure. However, we cannot assure that these security measures and disaster response plans will be effective against all security threats and natural disasters. System failures or outages, including any potential disruptions due to significantly increased global demand on certain cloud-based systems during the COVID-19 pandemic, could compromise our ability to perform our day-to-day operations in a timely manner, which could negatively impact our business or delay our financial reporting. Such failures could materially adversely affect our operating results and financial condition. With more companies and individuals working remotely, the attack surface available for exploitation and the risk of cybersecurity incidents has increased. For example, since the beginning of the COVID-19 pandemic and, also more recently following the Russian invasion of Ukraine, there has been an increase in phishing and spam emails as well as social engineering attempts from “hackers.” Although the security incidents and breaches that we have experienced to date have not had a material effect on our business, there is no assurance that our security systems or processes will prevent or mitigate more serious break-ins, tampering, security incidents or breaches or other cyber-attacks that could occur in the future. If we experience a security incident or breach, we could be required to expend significant capital and other resources to alleviate the problem, as well as incur significant costs and liabilities, including due to litigation, indemnity obligations, damages for contract breach, penalties for violation of applicable laws or regulations, and costs for remediation and incentives offered to affected parties, including customers, other business partners and employees, in an effort to maintain business relationships after a breach or other incident. Moreover, if our solution is perceived as not being secure, regardless of whether our security measures are actually breached, we could suffer harm to our reputation, and our operating results could be negatively impacted. We cannot assure you that any limitations of liability provisions in our contracts would be enforceable or adequate or would otherwise protect us from any liabilities or damages with respect to any particular claim relating to a security breach or other security-related matters. We also cannot be sure that our existing insurance coverage will continue to be available on acceptable terms or will be available in sufficient scope or amounts to cover one or more large claims related to a security incident or breach, or that the insurer will not deny coverage as to any future claim. The successful assertion of one or more large claims against us that exceed available insurance coverage, or the occurrence of changes in our insurance policies, including premium increases or the imposition of large 26 deductible or co-insurance requirements, could have a material adverse effect on our business, including our financial condition, operating results, and reputation. Cyber-attacks and other malicious Internet-based activities continue to increase generally. Because the techniques used to obtain unauthorized access to or sabotage systems change frequently and generally are not identified until they are launched against a target, we and our service providers may be unable to anticipate these techniques or to implement adequate preventative measures. In addition, third parties may attempt to fraudulently induce employees, contractors, or users to disclose information to gain access to our data or our customers’ data. We could suffer significant damage to our brand and reputation if a cyber-attack or other security incident were to allow unauthorized access to or modification of our customers’ data, other external data, or our own data or our IT systems or if the services we provide to our customers were disrupted, or if our solution is perceived as having security vulnerabilities. Customers could lose confidence in the security and reliability of our solution and perceive them to be not secure. This could lead to fewer customers using our products and services and result in reduced revenue and earnings. The costs we would incur to address and respond to these security incidents, and to prevent them thereafter, would increase our expenses. These types of security incidents could also lead to lawsuits, regulatory investigations and claims, and increased legal liability, including in some cases costs related to notification of the incident and fraud monitoring. In addition, while a majority of our employees are based in the United States, like many similarly situated technology companies, we have a sizable number of research and development and other personnel located outside the United States, including in China, which has exposed and could continue to expose us to governmental and regulatory, as well as market and media scrutiny, regarding the actual or perceived integrity of our platform or data security and privacy features. Any actual or perceived security compromise could reduce customer confidence in the effectiveness of our security measures, negatively affect our ability to attract new customers, and cause existing customers to reduce the use or stop using our solution, any of which could harm our business and reputation. Privacy and security concerns, laws, and regulations, may reduce the effectiveness of our solution and adversely affect our business. Our customers can use our solution to collect, use, and store personal information regarding their customers or other end users. Governments and agencies worldwide have adopted or may adopt laws and regulations regarding the collection, use, storage, data residency, security, disclosure, transfer across borders and other processing of information obtained from individuals within jurisdictions. These laws and regulations increase the costs and burdens of compliance, including the ability to transfer information from, or a requirement to store in, particular jurisdictions and coul • impact our ability to offer our products and services in certain jurisdictions, • decrease demand for or require us to modify or restrict our product or services, or • impact our customers’ ability and willingness to use, adopt and deploy our solution globally. Compliance or our inability to comply with such laws, regulations, and other obligations, could lead to reduced overall demand and impair our ability to maintain and grow our customer base and increase our revenue. We may be unable to make changes that we consider necessary or appropriate to address changes in laws, regulations, or other obligations in a commercially reasonable manner, in a timely fashion, or at all. Additionally, laws and regulations relating to the processing of information can vary significantly based on the jurisdiction. Some regions and countries have or are enacting strict laws and regulations, including the European Union (EU), China (PIPL), Australia, and India, as well as states within the United States, such as California. The General Data Protection Regulation (GDPR) became effective in May 2018. The GDPR established new requirements for processing personal data and imposes penalties of up to the greater of €20 million or 4% of worldwide revenue. On June 4, 2021, the European Commission issued replacement standard contractual clauses (2021 SCCs) to govern the transfer of personal data to a country that has not been deemed adequate, such as the United States. The 2021 SCCs impose additional requirements and, potentially increased liability for data processors such as us. Since the 2021 SCCs replace the prior version, we will need to enter into 2021 SCCs with our customers and vendors before the December 27, 2022 deadline to meet GDPR requirements. The pending EU ePrivacy Regulation is expected to establish additional restrictions and penalties. In January 2020, the California Consumer Privacy Act (CCPA) which provides new data privacy rights for consumers, including a private right of 27 action for security breaches, new penalties for violations, and new operational requirements for companies, went into effect. The California Privacy Rights Act (CPRA) will replace the CCPA and becomes effective on January 2, 2023. The CCPA gives, and the CPRA will give, California residents expanded rights to access and require deletion of their personal data, opt out of certain personal data sharing, and receive detailed information about how their personal data is collected, used and shared. The CCPA provides for civil penalties for violations, as well as a private right of action for security breaches that may increase security breach litigation. The CCPA and CPRA may increase our compliance costs and potential liability, particularly in the event of a data breach, and could have a material adverse effect on our business, including how we use personal data, our financial condition, our operating results or prospects. The CCPA has also prompted a number of proposals for new federal and state privacy legislation that, if passed, could increase our potential liability, increase our compliance costs and adversely affect our business. Changing definitions of personal data and information may also limit or inhibit our ability to operate or expand our business, including limiting strategic partnerships that may involve the sharing of data. Also, some jurisdictions require that certain types of data be retained on servers within these jurisdictions. Our failure to comply with applicable laws and regulations may result in enforcement action or litigation against us, including fines, and damage to our reputation, any of which may have an adverse effect on our business and operating results. We also are bound by standards, contracts and other obligations relating to processing personal information that are more stringent than applicable laws and regulations. The costs of compliance with, and other burdens imposed by, these laws, regulations, and other obligations are significant. In addition, some companies, particularly larger or global enterprises, often will not contract with vendors that do not meet these rigorous obligations and often seek contract terms to ensure we are financially liable for any breach of these obligations. Accordingly, our or as well as our vendors' failure, or perceived inability, to comply with these obligations may limit the demand, use and adoption of our solution, lead to regulatory investigations, breach of contract claims, litigation, damage our reputation and brand and lead to significant fines, penalties, or liabilities or slow the pace at which we close sales transactions, any of which could harm our business. Future laws, regulations, standards, and other obligations, actions by governments or other agencies, and changes in the interpretation or inconsistent interpretation of existing laws, regulations, standards, and other obligations could result in increased regulation, increased costs of compliance and penalties for non-compliance, costly changes to Zuora's products or their functionality, and limitations on processing personal information. Privacy advocacy groups, the technology industry, and other industries have established or may establish various new, additional, or different self-regulatory standards that may place additional burdens on us. Our customers may require us or we may find it advisable to meet voluntary certifications or adhere to other standards established by them or third parties. Our customers may also expect us to take proactive stances or contractually require us to take certain actions should a request for personal information belonging to customers be received from a government or regulatory agency. If we are unable to maintain such certifications, comply with such standards, or meet such customer requests, it could reduce demand for our solution and adversely affect our business. Failure to protect our intellectual property could adversely affect our business. Our success depends in large part on our proprietary technology. We rely on various intellectual property (IP) rights, including patents, copyrights, trademarks, and trade secrets, as well as confidentiality provisions and contractual arrangements, to protect our proprietary rights. If we do not protect and enforce our intellectual property rights successfully, our competitive position may suffer, which could adversely impact our operating results. Our pending patent or trademark applications may not be allowed, or competitors may challenge the validity, enforceability or scope of our patents, copyrights, trademarks or the trade secret status of our proprietary information. There can be no assurance that additional patents will be issued or that any patents that are issued will provide significant protection for our intellectual property. There is also no assurance that we will be able to register trademarks that are critical to our business. In addition, our patents, copyrights, trademarks, trade secrets, and other intellectual property rights may not provide us a significant competitive advantage. There is no assurance that the particular forms of intellectual property protection that we seek, including business decisions about when to file patents and when to maintain trade secrets, will be adequate to protect our business. Moreover U.S. patent law, developing jurisprudence regarding U.S. patent law, and possible future changes to U.S. or foreign patent laws and regulations may affect our ability to protect and enforce our intellectual property rights. In addition, the laws of some countries do not provide the same level of protection of our intellectual property as do the laws of the United States. As we expand our international activities, our exposure to unauthorized copying and use of our solution and proprietary information will likely increase. Despite our precautions, our intellectual 28 property is vulnerable to unauthorized access through employee error or actions, theft, and cybersecurity incidents, and other security breaches. It may be possible for third parties to infringe upon or misappropriate our intellectual property, to copy our solution, and to use information that we regard as proprietary to create products and services that compete with ours. Effective intellectual property protection may not be available to us in every country in which our solution is available. For example, some foreign countries have compulsory licensing laws under which a patent owner must grant licenses to third parties. In addition, many countries limit the enforceability of patents against certain third parties, including government agencies or government contractors. In these countries, patents may provide limited or no benefit. We may need to expend additional resources to defend our intellectual property rights domestically or internationally, which could impair our business or adversely affect our domestic or international expansion. Moreover, we may not pursue or file patent applications or apply for registration of copyrights or trademarks in the United States and foreign jurisdictions in which we operate with respect to our potentially patentable inventions, works of authorship, marks and logos for a variety of reasons, including the cost of procuring such rights and the uncertainty involved in obtaining adequate protection from such applications and registrations. If we cannot adequately protect and defend our intellectual property, we may not remain competitive, and our business, operating results, and financial condition may be adversely affected. We enter into confidentiality and invention assignment agreements with our employees and consultants and enter into confidentiality agreements with other parties. We cannot assure you that these agreements will be effective in controlling access to, use of, and distribution of our proprietary information or in effectively securing exclusive ownership of intellectual property developed by our current or former employees and consultants. Further, these agreements may not prevent other parties from independently developing technologies that are substantially equivalent or superior to our solution. We may need to spend significant resources securing and monitoring our intellectual property rights, and we may or may not be able to detect infringement by third parties. Our competitive position may be harmed if we cannot detect infringement and enforce our intellectual property rights quickly or at all. In some circumstances, we may choose to not pursue enforcement because an infringer has a dominant intellectual property position or for other business reasons. In addition, competitors might avoid infringement by designing around our intellectual property rights or by developing non-infringing competing technologies. Litigation may be necessary in the future to enforce our intellectual property rights and to protect our trade secrets. Litigation brought to protect and enforce our intellectual property rights could be costly, time-consuming, and distracting to management, and could result in the impairment or loss of portions of our intellectual property. Further, our efforts to enforce our intellectual property rights may be met with defenses, counterclaims attacking the scope, validity, and enforceability of our intellectual property rights, or with counterclaims and countersuits asserting infringement by our products and services of third-party intellectual property rights. Our failure to secure, protect, and enforce our intellectual property rights could seriously adversely affect our brand and our business. Additionally, the United States Patent and Trademark Office and various foreign governmental patent agencies require compliance with a number of procedural, documentary, fee payment, and other similar provisions in order to complete the patent or trademark application process and to maintain issued patents or trademarks. There are situations in which noncompliance or non-payment can result in abandonment or lapse of the patent or trademark or associated application, resulting in partial or complete loss of patent or trademark rights in the relevant jurisdiction. If this occurs, it could have a material adverse effect on our business operations and financial condition. Errors, defects, or disruptions in our solution could diminish demand, harm our financial results, and subject us to liability. Our customers use our products for important aspects of their businesses, and any errors, defects, or disruptions to our solution, or other performance problems with our solution could harm our brand and reputation and may damage our customers’ businesses. We are also reliant on third-party software and infrastructure, including the infrastructure of the Internet, to provide our products and services. Any failure of or disruption to this software and infrastructure could also make our solution unavailable to our customers. Our solution is constantly changing with new software releases, which may contain undetected errors when first introduced or released. Any errors, defects, disruptions in service, or other performance problems with our solution could result in negative publicity, loss of or delay in market acceptance of our products, loss of competitive position, delay of payment to us, lower renewal rates, or claims by customers for losses sustained by them. In such an event, we may be required, or may choose, for customer relations or other reasons, to expend additional resources in order to help correct the problem. Accordingly, any errors, defects, or disruptions to our solution could adversely impact our brand and reputation, revenue, and operating results. 29 In addition, because our products and services are designed to interoperate with a variety of internal and third-party systems and infrastructures, we need to continuously modify and enhance our products and services to keep pace with changes in software technologies. We may not be successful in either developing these modifications and enhancements or resolving interoperability issues in a timely and cost-effective manner. Any failure of our products and services to continue to operate effectively with internal or third-party infrastructures and technologies could reduce the demand for our products and services, resulting in dissatisfaction of our customers, and may materially and adversely affect our business. Any disruption of service at our cloud providers, including Amazon Web Services and Microsoft's Azure cloud service, could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. We currently host our solution, serve our customers, and support our operations using Amazon Web Services (AWS), a provider of cloud infrastructure services, and have begun enabling new features and capabilities for our solution using Microsoft's Azure cloud service. We also leverage AWS in various geographic regions for our disaster recovery plans. We do not have control over the operations of the facilities of AWS or Azure. These facilities are vulnerable to damage or interruption from earthquakes, hurricanes, floods, fires, cyber security attacks, terrorist attacks, power losses, telecommunications failures, and similar events. The occurrence of a natural disaster or an act of terrorism, a decision to close the facilities without adequate notice, or other unanticipated problems could result in lengthy interruptions in our solution. In addition, the ongoing COVID-19 pandemic could potentially disrupt the supply chain of hardware needed to maintain these third-party systems or to run our business. The facilities also could be subject to break-ins, computer viruses, sabotage, intentional acts of vandalism, and other misconduct. Our solution’s continuing and uninterrupted performance is critical to our success. Because our products and services are used by our customers for billing and financial accounting purposes, it is critical that our solution be accessible without interruption or degradation of performance, and we typically provide our customers with service level commitments with respect to service uptime. Customers may become dissatisfied by any system failure that interrupts our ability to provide our solution to them. Outages could lead to the triggering of our service level agreements and the issuance of credits to our customers, in which case, we may not be fully indemnified for such losses by AWS or Azure. We may not be able to easily switch our public cloud providers, including AWS and Azure, to another cloud provider if there are disruptions or interference with our use of either facility. Sustained or repeated system failures would reduce the attractiveness of our solution to customers and result in contract terminations, thereby reducing revenue. Moreover, negative publicity arising from these types of disruptions could damage our reputation and may adversely impact use of our solution. We may not carry sufficient business interruption insurance to compensate us for losses that may occur as a result of any events that cause interruptions in our service. While our agreement with AWS expires in September 2024, AWS and our other cloud providers do not have an obligation to renew their agreements with us on commercially reasonable terms, or at all. If we are unable to renew our agreements with these providers on commercially reasonable terms, if our agreements with our providers are prematurely terminated, or if in the future we add additional public cloud providers, we may experience additional costs or service downtime in connection with the transfer to, or the addition of, new public cloud providers. If these providers were to increase the cost of their services, we may have to increase the price of our solution, and our operating results may be adversely impacted. We are vulnerable to intellectual property infringement claims brought against us by others. There has been considerable activity in our industry to develop and enforce intellectual property rights. Successful intellectual property infringement claims against us or certain third parties, such as our customers, resellers, or strategic partners, could result in monetary liability or a material disruption in the conduct of our business. We cannot be certain that our products and services, content, and brand names do not or will not infringe valid patents, trademarks, copyrights, or other intellectual property rights held by third parties. We may be subject to legal proceedings and claims from time to time relating to the intellectual property of others in the ordinary course of our business. Any intellectual property litigation to which we might become a party, or for which we are required to provide indemnification, may require us to cease selling or using solutions that incorporate the intellectual property that we allegedly infringe, make substantial payments for legal fees, settlement payments, or other costs or damages, obtain a license, which may not be available on reasonable terms or at all, to sell or use the relevant technology, or redesign the allegedly infringing solutions to avoid infringement, which could be costly, time-consuming, or impossible. Any claims or litigation, regardless of merit, could cause us to incur significant expenses 30 and, if successfully asserted against us, could require that we pay substantial damages or ongoing royalty payments, prevent us from offering our products and services, or require that we comply with other unfavorable terms. We do not have a significant patent portfolio, which could prevent us from deterring patent infringement claims through our own patent portfolio, and our competitors and others may now and in the future have significantly larger and more mature patent portfolios than we have. We may also be obligated to indemnify our customers or strategic partners in connection with such infringement claims, or to obtain licenses from third parties or modify our solution, and each such obligation could further exhaust our resources. Some of our intellectual property infringement indemnification obligations are contractually capped at a very high amount or not capped at all. Even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the time and attention of our management and other employees, and adversely affect our business and operating results. We expect that the occurrence of infringement claims is likely to grow as the market for subscription management products and services grows. Accordingly, our exposure to damages resulting from infringement claims could increase and this could further exhaust our financial and management resources. Our solution contains open source software components, and failure to comply with the terms of the underlying licenses could restrict our ability to sell our solution. Our solution incorporates certain open source software. An open source license typically permits the use, modification, and distribution of software in source code form subject to certain conditions. Some open source licenses contain conditions that any person who distributes or uses a modification or derivative work of software that was subject to an open source license make the modified version subject to the same open source license. Distributing or using software that is subject to this kind of open source license can lead to a requirement that certain aspects of our solution be distributed or made available in source code form. Although we do not believe that we have used open source software in a manner that might condition its use on our distribution of any portion of our solution in source code form, the interpretation of open source licenses is legally complex and, despite our efforts, it is possible that we may be liable for copyright infringement, breach of contract, or other claims if our use of open source software is adjudged to not comply with the applicable open source licenses. Moreover, we cannot assure you that our processes for controlling our use of open source software in our solution will be effective. If we have not complied with the terms of an applicable open source software license, we may need to seek licenses from third parties to continue offering our solution on terms that are not economically feasible, to re-engineer our solution to remove or replace the open source software, to discontinue the sale of our solution if re-engineering could not be accomplished on a timely basis, to pay monetary damages, or to make available the source code for aspects of our proprietary technology, any of which could adversely affect our business, operating results, and financial condition. In addition to risks related to license requirements, use of open source software can involve greater risks than those associated with use of third-party commercial software, as open source licensors generally do not provide warranties, assurances of title, performance, non-infringement, or controls on the origin of the software. There is typically no support available for open source software, and we cannot assure you that the authors of such open source software will not abandon further development and maintenance. Open source software may contain security vulnerabilities, and we may be subject to additional security risk by using open source software. Many of the risks associated with the use of open source software, such as the lack of warranties or assurances of title or performance, cannot be eliminated, and could, if not properly addressed, negatively affect our business. We have established processes to help alleviate these risks, including a review process for screening requests from our development organizations for the use of open source software, but we cannot be sure that all open source software is identified or submitted for approval prior to use in our solution. Risks Related to Legal, Regulatory, Accounting, and Tax Matters If we are not able to satisfy data protection, security, privacy, and other government- and industry-specific requirements, our growth could be harmed. We are subject to data protection, security, privacy, and other government- and industry-specific requirements, including those that require us to notify individuals of data security and privacy incidents involving certain types of personal data. Security and privacy compromises experienced by us or our service providers may lead to public disclosures, which could harm our reputation, erode customer confidence in the effectiveness of our security and 31 privacy measures, negatively impact our ability to attract new customers, cause existing customers to elect not to renew their subscriptions with us, or negatively impact our employee relationships or impair our ability to attract new employees. In addition, some of the industries we serve have industry-specific requirements relating to compliance with certain security, privacy and regulatory standards, such as those required by the Health Insurance Portability and Accountability Act. We also maintain compliance with the Payment Card Industry Data Security Standard, which is critical to the financial services and insurance industries. As we expand and sell into new verticals and regions, we will likely need to comply with these and other requirements to compete effectively. If we cannot comply or if we incur a violation in one or more of these requirements, our growth could be adversely impacted, and we could incur significant liability. Because we typically recognize subscription revenue over the term of the applicable agreement, a lack of subscription renewals or new subscription agreements may not be reflected immediately in our operating results and may be difficult to discern. We generally recognize subscription revenue from customers ratably over the terms of their contracts, which typically vary between one and three years. As a result, most of the subscription revenue we report in each quarter is derived from the recognition of unearned revenue relating to subscriptions entered into during previous quarters. Consequently, a decline in new or renewed subscriptions in any particular quarter would likely have a minor impact on our revenue results for that quarter, but could negatively affect our revenue in future quarters. Accordingly, the effect of significant downturns in sales and market acceptance of our solution, and potential changes in our pricing policies or rate of renewals, may not be fully reflected in our operating results until future periods. Moreover, our subscription model makes it difficult for us to rapidly increase our revenue through additional sales in any period, as revenue from new customers must be recognized over the applicable subscription term. We typically provide service level commitments under our customer contracts. If we fail to meet these contractual commitments, we could be obligated to provide credits or refunds for prepaid amounts related to unused subscription services or face contract terminations, which could adversely affect our operating results. Our customer contracts typically provide for service level commitments, which relate to service uptime, response times, and escalation procedures. If we are unable to meet the stated service level commitments or suffer extended periods of unavailability for our solution, we may be contractually obligated to provide these customers with service credits, refunds for prepaid amounts related to unused subscription services, or other remedies, or we could face contract terminations. In addition, we could face legal claims for breach of contract, product liability, tort, or breach of warranty. Although we have contractual protections, such as warranty disclaimers and limitation of liability provisions, in our customer agreements, they may not fully or effectively protect us from claims by customers, commercial relationships, or other third parties. We may not be fully indemnified by our vendors for service interruptions beyond our control, and any insurance coverage we may have may not adequately cover all claims asserted against us, or cover only a portion of such claims. In addition, even claims that ultimately are unsuccessful could result in our expenditure of funds in litigation and divert management’s time and other resources. Thus, our revenue could be harmed if we fail to meet our service level commitments under our agreements with our customers, including, but not limited to, maintenance response times and service outages. Typically, we have not been required to provide customers with service credits that have been material to our operating results, but we cannot assure you that we will not incur material costs associated with providing service credits to our customers in the future. Additionally, any failure to meet our service level commitments could adversely impact our reputation, business, operating results, and financial condition. Our customers may fail to pay us in accordance with the terms of their agreements, necessitating action by us to compel payment. We typically enter into non-cancelable agreements with our customers with a term of one to three years. If customers fail to pay us under the terms of our agreements, we may be adversely affected both from the inability to collect amounts due and the cost of enforcing the terms of our contracts, including litigation. The risk of such negative effects increases with the term length of our customer arrangements. Furthermore, some of our customers may seek bankruptcy protection or other similar relief and fail to pay amounts due to us, or pay those amounts more slowly, either of which could adversely affect our operating results, financial position, and cash flow. Although we have processes in place that are designed to monitor and mitigate these risks, we cannot guarantee these 32 programs will be effective. If we are unable to adequately control these risks, our business, operating results and financial condition could be harmed. Adverse litigation judgments or settlements resulting from legal proceedings in which we may be involved could expose us to monetary damages or limit our ability to operate our business. We are currently involved in stockholder litigation and have in the past and may in the future become involved in other class actions, derivative actions, private actions, collective actions, investigations, and various other legal proceedings by stockholders, customers, employees, suppliers, competitors, government agencies, or others. The results of any such litigation, investigations, and other legal proceedings are inherently unpredictable and expensive. Any claims against us, whether meritorious or not, could be time consuming, result in costly litigation, damage our reputation, require significant amounts of management time, and divert significant resources. If any of these legal proceedings were to be determined adversely to us, or we were to enter into a settlement arrangement, we could be exposed to monetary damages or limits on our ability to operate our business, which could have an adverse effect on our business, financial condition, and operating results. Our ability to use our net operating losses to offset future taxable income may be subject to certain limitations which could subject our business to increased tax liability. Our ability to use our net operating losses (NOLs) to offset future taxable income may be subject to certain limitations which could subject our business to higher tax liability. Utilization of the net operating loss may be subject to an annual limitation due to the "ownership change" limitations provided by Section 382 and 383 of the Internal Revenue Code of 1986, as amended, and other similar state provisions. Additionally, NOLs arising in tax years beginning after December 31, 2017 are subject to a 20-year carryover limitation and may expire if unused within that period. There is also a risk that due to legislative changes, such as suspensions on the use of NOLs, or other unforeseen reasons, our existing NOLs could expire or otherwise be unavailable to offset future income tax liabilities. In addition, under the Tax Cuts and Jobs Act of 2017, as modified by the Coronavirus Aid, Relief, and Economic Security Act, the amount of NOLs that we are permitted to deduct in any taxable year is limited to 80% of our taxable income in such year, where taxable income is determined without regard to the NOL deduction itself. As such, we may not be able to realize a tax benefit from the use of our NOLs, whether or not we attain profitability. We may need to raise additional capital required to grow our business, and we may not be able to raise capital on terms acceptable to us or at all. In order to support our growth and respond to business challenges, such as developing new features or enhancements to our solution to stay competitive, acquiring new technologies, and improving our infrastructure, we have made significant financial investments in our business, and we intend to continue to make such investments. As a result, to provide the funds required for these investments and other business endeavors, we may need to engage in equity or debt financings. For example, we recently issued to Silver Lake the 2029 Notes and have agreed to issue to Silver Lake up to an additional $150.0 million in senior unsecured notes. See Note 18. Subsequent Events to our consolidated financial statements included in this Form 10-K for more information about the 2029 Notes. If we raise additional funds through equity or convertible debt issuances, our existing stockholders may suffer significant dilution, and these securities could have rights, preferences, and privileges that are superior to that of holders of our common stock. If we obtain additional funds through debt financing, we may not be able to obtain such financing on terms favorable to us. Such terms may involve additional restrictive covenants making it difficult to engage in capital raising activities and pursue business opportunities, including potential acquisitions. Future volatility in the trading price of our common stock may reduce our ability to access capital on favorable terms or at all. In addition, a recession, depression or other sustained adverse market event resulting from the spread of COVID-19 could materially and adversely affect our business and the value of our common stock. If we are unable to obtain adequate financing or financing on terms satisfactory to us when we require it, our ability to continue to support our business growth and to respond to business challenges could be significantly impaired and our business may be adversely affected, requiring us to delay, reduce, or eliminate some or all of our operations. Failure to comply with anti-corruption and anti-money laundering laws, including the FCPA and similar laws associated with our activities outside of the United States, could subject us to penalties and other adverse consequences. We are subject to the FCPA, the U.S. domestic bribery statute contained in 18 U.S.C. § 201, the U.S. Travel Act, the USA PATRIOT Act, the UK Bribery Act, and possibly other anti-bribery and anti-money laundering laws in 33 countries in which we conduct activities. We face significant risks if we fail to comply with the FCPA and other anti-corruption laws that prohibit companies and their employees and third-party intermediaries from promising, authorizing, offering, or providing, directly or indirectly, improper payments or benefits to foreign government officials, political parties, and private-sector recipients for the purpose of obtaining or retaining business, directing business to any person, or securing any advantage. In many foreign countries, particularly in countries with developing economies, it may be a local custom that businesses engage in practices that are prohibited by the FCPA or other applicable laws and regulations. In addition, we use various third parties to sell our solution and conduct our business abroad. We or our third-party intermediaries may have direct or indirect interactions with officials and employees of government agencies or state-owned or affiliated entities and we can be held liable for the corrupt or other illegal activities of these third-party intermediaries, our employees, representatives, contractors, partners, and agents, even if we do not explicitly authorize such activities. We have implemented an anti-corruption compliance program but cannot assure you that all of our employees and agents, as well as those companies to which we outsource certain of our business operations, will not take actions in violation of our policies and applicable law, for which we may be ultimately held responsible. Any violation of the FCPA, other applicable anti-corruption laws, and anti-money laundering laws could result in whistleblower complaints, adverse media coverage, investigations, loss of export privileges, or severe criminal or civil sanctions, which could have a materially adverse effect on our reputation, business, operating results, and prospects. In addition, responding to any enforcement action may result in a significant diversion of management’s attention and resources, significant defense costs, and other professional fees. We are required to comply with governmental export control laws and regulations. Our failure to comply with these laws and regulations could have an adverse effect on our business and operating results. Our solution is subject to governmental, including United States and European Union, export control laws and import regulations, and as a U.S. company we are covered by the U.S. sanctions regulations. U.S. export control and economic sanctions laws and regulations prohibit the shipment of certain products and services to U.S. embargoed or sanctioned countries, governments, entities and persons, and complying with export control and sanctions regulations for a particular sale may be time-consuming and may result in the delay or loss of sales opportunities. While we take precautions to prevent our solution from being exported in violation of these laws or engaging in any other activities that are subject to these regulations, if we were to fail to comply with U.S. export laws, U.S. Customs regulations and import regulations, U.S. economic sanctions, and other countries’ import and export laws, we could be subject to substantial civil and criminal penalties, including fines for our company, incarceration for responsible employees and managers; the possible loss of export or import privileges which could impact our ability to provide our solution to customers; and reputational harm. We incorporate encryption technology into certain of our products and certain encryption products may be exported outside of the United States only by a license or a license exception. In addition, various countries regulate the import of certain encryption technology, including import permitting and licensing requirements, and have enacted laws that could limit our ability to distribute our products or could limit our customers’ ability to deploy our products in those countries. Although we take precautions to prevent our products from being provided in violation of such laws, we cannot assure you that inadvertent violations of such laws have not occurred or will not occur in connection with the distribution of our products despite the precautions we take. Governmental regulation of encryption technology and regulation of imports or exports, or our failure to obtain required import or export approval for our products, could harm our international sales and adversely affect our operating results. Further, if our partners, including suppliers, fail to obtain required import, export, or re-export licenses or permits, we may also be harmed, become the subject of government investigations or penalties, and incur reputational harm. Changes in our solution or changes in export and import regulations may create delays in the introduction of our solution in international markets, prevent our customers with international operations from deploying our solution globally or, in some cases, prevent the export or import of our solution to certain countries, governments, or persons altogether. Any change in export or import laws or regulations, economic sanctions, or related legislation, shift in the enforcement or scope of existing laws and regulations, or change in the countries, governments, persons, or technologies targeted by such laws and regulations, could result in decreased use of our solution by, or in our decreased ability to export or sell our solution to, existing or potential customers such as customers with international operations or customers who are added to the restricted entities list published by the U.S. Office of Foreign Assets Control (OFAC). Any decreased use of our solution or limitation on our ability to export or sell our solution would likely harm our business, financial condition, and operating results. 34 The applicability of sales, use and other tax laws or regulations in the U.S. and internationally on our business is uncertain. Adverse tax laws or regulations could be enacted or existing laws could be applied to us or our customers, which could subject us to additional tax liability and related interest and penalties, increase the costs of our services and adversely impact our business. The application of federal, state, local, and non-U.S. tax laws to services provided electronically is evolving. New income, sales, use, value-added, or other direct or indirect tax laws, statutes, rules, regulations, or ordinances could be enacted at any time (possibly with retroactive effect), and could be applied solely or disproportionately to services provided over the Internet or could otherwise materially affect our financial position and results of operations. Many countries in the European Union, as well as a number of other countries and organizations such as the Organization for Economic Cooperation and Development, have proposed or recommended changes to existing tax laws or have enacted new laws that could impact our tax obligations. As we expand the scale of our international business activities, any changes in the U.S. or foreign taxation of such activities may increase our worldwide effective tax rate and harm our business, results of operations, and financial condition. In addition, state, local, and foreign tax jurisdictions have differing rules and regulations governing sales, use, value-added, and other taxes, and these rules and regulations can be complex and are subject to varying interpretations that may change over time. Existing tax laws, statutes, rules, regulations, or ordinances could be interpreted, changed, modified, or applied adversely to us (possibly with retroactive effect), which could require us or our customers to pay additional tax amounts on prior sales and going forward, as well as require us or our customers to pay fines or penalties and interest for past amounts. Although our customer contracts typically provide that our customers must pay all applicable sales and similar taxes, our customers may be reluctant to pay back taxes and associated interest or penalties, or we may determine that it would not be commercially feasible to seek reimbursement. If we are required to collect and pay back taxes and associated interest and penalties, or we are unsuccessful in collecting such amounts from our customers, we could incur potentially substantial unplanned expenses, thereby adversely impacting our operating results and cash flows. Imposition of such taxes on our services going forward could also adversely affect our sales activity and have a negative impact on our operating results and cash flows. Our reported financial results may be adversely affected by changes in accounting principles generally accepted in the United States. Generally Accepted Accounting Principles (GAAP) is subject to interpretation by the Financial Accounting Standards Board (FASB), the SEC, and various bodies formed to promulgate and interpret appropriate accounting principles. A change in these principles or interpretations could have a significant effect on our reported financial results, and could affect the reporting of transactions completed before the announcement of a change. Any difficulties in implementing these pronouncements, including those described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements of our Notes to Consolidated Financial Statements included in our Annual Report on Form 10-K, could cause us to fail to meet our financial reporting obligations, which could result in regulatory discipline and harm investors' confidence in us. Risks Related to Ownership of Our Class A Common Stock The stock price of our Class A common stock has been and may continue to be volatile, and you could lose all or part of your investment. The market price of our Class A common stock has been and may continue to be volatile. Since shares of our Class A were sold in our Initial Public Offering (IPO) in April 2018 at a price of $14.00 per share, the reported low and high sales prices of our common stock ha s rang ed from $6.21 to $37.78 through March 25, 2022. The market price of our Class A common stock and the market price of the common stock of many other companies fell significantly in the early stage of the COVID-19 pandemic and experienced volatility as a result of the pandemic. The extent to which, and for how long, the COVID-19 pandemic may continue to impact the market price of our Class A common stock is unclear, and any future recession, depression or sustained adverse market event resulting from the effects of the pandemic could materially and adversely affect our business and the value of our common stock. In addition to factors discussed in this Form 10-K, the market price of our Class A common stock may fluctuate significantly in response to numerous factors, many of which are beyond our control, includin • overall performance of the equity markets; 35 • actual or anticipated fluctuations in our revenue and other operating results; • changes in the financial projections we may provide to the public or our failure to meet these projections; • failure of securities analysts to initiate or maintain coverage of us, changes in financial estimates by any securities analysts who follow our company, or our failure to meet these estimates or the expectations of investors; • recruitment or departure of key personnel; • the economy as a whole and market conditions in our industry; • negative publicity related to the real or perceived quality of our solution, as well as the failure to timely launch new products and services that gain market acceptance; • growth of the Subscription Economy; • rumors and market speculation involving us or other companies in our industry; • announcements by us or our competitors of new products, commercial relationships, or significant technical innovations; • acquisitions, strategic partnerships, joint ventures, or capital commitments; • new laws or regulations or new interpretations of existing laws or regulations applicable to our business; • lawsuits threatened or filed against us, litigation involving our industry, or both; • developments or disputes concerning our or other parties’ products, services, or intellectual property rights; • the inclusion of our Class A common stock on stock market indexes, including the impact of rules adopted by certain index providers, such as S&P Dow Jones Indices and FTSE Russell, that limit or preclude inclusion of companies with multi-class capital structures; • changes in accounting standards, policies, guidelines, interpretations, or principles; • the impact of the COVID-19 pandemic, including on the global economy, our operating results and enterprise technology spending; • other events or factors, including those resulting from pandemics, war, incidents of terrorism, or responses to these events, including the ongoing conflict in Ukraine; • sales of shares of our Class A common stock by us or our stockholders; • inflation; and • fluctuations in interest rates. In addition, the stock markets have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many companies. Stock prices of many companies, and technology companies in particular, have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. In the past, stockholders have instituted shareholder litigation following periods of market volatility. We are currently subject to stockholder litigation, which is described in Note 13. Commitments and Contingencies in the notes to our consolidated financial statements. This or any future shareholder litigation could subject us to substantial costs, divert resources and the attention of management from our business, and adversely affect our business. Sales of a substantial number of shares of our Class A common stock in the public market, particularly sales by our directors, executive officers, and significant stockholders, or the perception that these sales could occur, could cause the market price of our Class A common stock to decline and may make it more difficult for you to sell your Class A common stock at a time and price that you deem appropriate. The market price of our Class A common stock could decline as a result of sales of a large number of shares of our Class A common stock in the market. The perception that these sales might occur may also cause the market price of our Class A common stock to decline. As of February 28, 2022, we had outstanding a total of 119.0 million shares of Class A common stock and 9.0 million shares of Class B common stock. 36 In addition, as of January 31, 2022, we had outstanding stock options and restricted stock units (RSUs) that could result in the issuance of 20.7 million shares of Class A common stock. Subject to the satisfaction of applicable vesting requirements, the shares issued upon exercise of outstanding stock options or settlement of outstanding RSUs will be available for immediate resale in the open market. As described below in Note 18. Subsequent Events , following January 31, 2022 we issued $250.0 million aggregate principal amount of convertible senior unsecured notes (and have agreed to issue $150.0 million of additional convertible senior unsecured notes) and warrants to purchase up to 7,500,000 shares of Class A common stock. Moreover, certain holders of our common stock have rights, subject to some conditions, to require us to file registration statements for the public resale of such shares or to include such shares in registration statements that we may file for us or other stockholders. We may also issue our shares of common stock or securities convertible into shares of our common stock from time to time in connection with a financing, acquisition, investments, or otherwise. We also expect to grant equity awards to employees, directors, and consultants under our 2018 Equity Incentive Plan (2018 Plan) and rights to purchase our Class A common stock under our ESPP. Any such issuances could result in substantial dilution to our existing stockholders and cause the market price of our Class A common stock to decline. If securities or industry analysts do not publish research, or publish inaccurate or unfavorable research, about our business, the price of our Class A common stock and trading volume could decline. The trading market for our Class A common stock depends in part on the research and reports that securities or industry analysts publish about us or our business. If few securities analysts commence coverage of us, or if industry analysts cease coverage of us, the trading price for our Class A common stock could be negatively affected. If one or more of the analysts who cover us downgrade our Class A common stock or publish inaccurate or unfavorable research about our business, the price of our Class A common stock would likely decline. If one or more of these analysts cease coverage of us or fail to publish reports on us regularly, demand for our Class A common stock could decrease, which might cause our Class A common stock price and trading volume to decline. Even if our stock is actively covered by analysts, we do not have any control over the analysts or the measures that analysts or investors may rely upon to forecast our future results. For example, in order to assess our business activity in a given period, analysts and investors may look at the combination of revenue and changes in deferred revenue in a given period (sometimes referred to as “billings”). Over-reliance on billings or similar measures may result in analyst or investor forecasts that differ significantly from our own for a variety of reasons, includin • a relatively large number of transactions occur at the end of the quarter. Invoicing of those transactions may or may not occur before the end of the quarter based on a number of factors including receipt of information from the customer, volume of transactions, and holidays. A shift of a few days has little economic impact on our business, but will shift deferred revenue from one period into the next; • a shift in billing frequency (i.e. from monthly to quarterly or from quarterly to annually), which may distort trends; • subscriptions that have deferred start dates; and • services that are invoiced upon delivery. In addition, the revenue recognition disclosure obligations under Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers (Topic 606) are prepared on the basis of estimates that can change over time and on the basis of events over which we have no control. It is possible that analysts and investors may misinterpret our disclosure or that our methods for estimating this disclosure may differ significantly from others, which could lead to inaccurate or unfavorable forecasts by analysts and investors. 37 The dual class structure of our common stock has the effect of concentrating voting control with holders of our Class B common stock, including our directors, executive officers, and significant stockholders, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. Our Class B common stock has ten votes per share, and our Class A common stock has one vote per share. As of January 31, 2022, our directors and executive officers, and their affiliates, held substantially all of our Class B common stock and a substantial portion of the combined voting power of our common stock. As a result, we expect our directors and officers would control all matters submitted to our stockholders for approval until the earlier of (i) the date specified by a vote of the holders of 66 2/3% of the outstanding shares of Class B common stock, (ii) April 16, 2028, and (iii) the date the shares of Class B common stock cease to represent at least 5% of all outstanding shares of our common stock. This concentrated control limits or precludes your ability to influence corporate matters for the foreseeable future, including the election of directors, amendments of our organizational documents, and any merger, consolidation, sale of all or substantially all of our assets, or other major corporate transaction requiring stockholder approval. In addition, this may prevent or discourage unsolicited acquisition proposals or offers for our capital stock that you may feel are in your best interest as one of our stockholders. Future transfers by holders of Class B common stock will generally result in those shares converting to Class A common stock, subject to limited exceptions, such as certain permitted transfers effected for estate planning purposes. The conversion of Class B common stock to Class A common stock will have the effect, over time, of increasing the relative voting power of those holders of Class B common stock who retain their shares in the long term. The dual class structure of our common stock may adversely affect the trading market for our Class A common stock. Stock index providers, such as S&P Dow Jones and FTSE Russell, exclude or limit the eligibility of public companies with multiple classes of shares of common stock for certain indices, including the S&P 500. In addition, several shareholder advisory firms have announced their opposition to the use of multiple class structures. As a result, the dual class structure of our common stock may prevent the inclusion of our Class A common stock in such indices and may cause shareholder advisory firms to publish negative commentary about our corporate governance practices or otherwise seek to cause us to change our capital structure. Any such exclusion from indices could result in a less active trading market for our Class A common stock. Any actions or publications by shareholder advisory firms critical of our corporate governance practices or capital structure could also adversely affect the value of our Class A common stock. We do not intend to pay dividends for the foreseeable future. We have never declared or paid any cash dividends on our common stock and do not intend to pay any cash dividends in the foreseeable future. Additionally, our ability to pay dividends on our common stock is limited by restrictions under the terms of our Debt Agreement. We anticipate that for the foreseeable future we will retain all of our future earnings for use in the development of our business and for general corporate purposes. Any determination to pay dividends in the future will be at the discretion of our Board of Directors. Accordingly, investors must rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize any future gains on their investments. Provisions in our charter documents and under Delaware law could make an acquisition of our company more difficult, limit attempts by our stockholders to replace or remove our current management, limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees, and limit the market price of our Class A common stock. Provisions in our restated certificate of incorporation and amended and restated bylaws may have the effect of delaying or preventing a change of control or changes in our management. Our restated certificate of incorporation and amended and restated bylaws include provisions tha • provide that our Board of Directors will be classified into three classes of directors with staggered three-year terms; 38 • permit the Board of Directors to establish the number of directors and fill any vacancies and newly-created directorships; • require supermajority voting to amend some provisions in our restated certificate of incorporation and amended and restated bylaws; • authorize the issuance of “blank check” preferred stock that our Board of Directors could use to implement a stockholder rights plan; • provide that only the chairman of our Board of Directors, our chief executive officer, lead independent director, or a majority of our Board of Directors will be authorized to call a special meeting of stockholders; • provide for a dual class common stock structure in which holders of our Class B common stock may have the ability to control the outcome of matters requiring stockholder approval, even if they own significantly less than a majority of the outstanding shares of our common stock, including the election of directors and significant corporate transactions, such as a merger or other sale of our company or its assets; • prohibit stockholder action by written consent, which requires all stockholder actions to be taken at a meeting of our stockholders; • provide that the Board of Directors is expressly authorized to make, alter, or repeal our bylaws; and • establish advance notice requirements for nominations for election to our Board of Directors or for proposing matters that can be acted upon by stockholders at annual stockholder meetings. In addition, our restated certificate of incorporation provides that, to the fullest extent permitted by law, the Court of Chancery of the State of Delaware is the exclusive forum any derivative action or proceeding brought on our behalf; any action asserting a breach of fiduciary duty; any action asserting a claim against us arising pursuant to the Delaware General Corporation Law, or DGCL, our restated certificate of incorporation, or our amended and restated bylaws; or any action asserting a claim against us that is governed by the internal affairs doctrine. This exclusive forum provision does not apply to suits brought to enforce a duty or liability created by the Exchange Act. It would apply, however, to a suit that falls within one or more of the categories enumerated in the exclusive forum provision. Section 22 of the Securities Act of 1933, as amended (Securities Act), creates concurrent jurisdiction for federal and state courts over all claims brought to enforce any duty or liability created by the Securities Act or the rules and regulations thereunder. In April 2020, we amended and restated our bylaws to provide that the federal district courts of the United States of America will, to the fullest extent permitted by law, be the exclusive forum for resolving any complaint asserting a cause of action arising under the Securities Act (Federal Forum Provision). Our decision to adopt a Federal Forum Provision followed a decision by the Supreme Court of the State of Delaware holding that such provisions are facially valid under Delaware law. While there can be no assurance that federal or state courts will follow the holding of the Delaware Supreme Court or determine that the Federal Forum Provision should be enforced in a particular case, application of the Federal Forum Provision means that suits brought by our stockholders to enforce any duty or liability created by the Securities Act must be brought in federal court and cannot be brought in state court. Section 27 of the Exchange Act creates exclusive federal jurisdiction over all claims brought to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder. In addition, neither the exclusive forum provision nor the Federal Forum Provision applies to suits brought to enforce any duty or liability created by the Exchange Act. Accordingly, actions by our stockholders to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder must be brought in federal court. Our stockholders will not be deemed to have waived our compliance with the federal securities laws and the regulations promulgated thereunder. Any person or entity purchasing or otherwise acquiring or holding any interest in any of our securities shall be deemed to have notice of and consented to our exclusive forum provisions, including the Federal Forum Provision. These provisions may limit a stockholders’ ability to bring a claim in a judicial forum of their choosing for disputes with us or our directors, officers, or other employees, which may discourage lawsuits against us and our directors, officers, and other employees. 39 Moreover, Section 203 of the DGCL may discourage, delay, or prevent a change of control of our company. Section 203 imposes certain restrictions on mergers, business combinations, and other transactions between us and holders of 15% or more of our common stock. General Risk Factors Political developments, economic uncertainty or downturns could adversely affect our business and operating results. Political developments impacting government spending and international trade, including future government shutdowns in the United States, health pandemics such as the COVID-19 pandemic, armed conflict such as the conflict in Ukraine, and trade disputes and tariffs, may negatively impact markets and cause weaker macroeconomic conditions. The continuing effect of any or all of these political uncertainties could adversely impact demand for our products, harm our operations and weaken our financial results. In addition, in recent years, the United States and other significant markets have experienced cyclical downturns and worldwide economic conditions remain uncertain. Economic uncertainty and associated macroeconomic conditions, including due to pandemics such as the ongoing COVID-19 pandemic, make it extremely difficult for our customers and us to accurately forecast and plan future business activities, and could cause our customers to slow spending on our solution, which could delay and lengthen sales cycles. Furthermore, during uncertain economic times our customers may face issues gaining timely access to sufficient credit, which could result in an impairment of their ability to make timely payments to us. If that were to occur, we may be required to increase our allowance for credit losses and our results could be negatively impacted. We have customers in a variety of different industries. A significant downturn in the economic activity attributable to any particular industry may cause organizations to react by reducing their capital and operating expenditures in general or by specifically reducing their spending on information technology. In addition, our customers may delay or cancel information technology projects or seek to lower their costs by renegotiating vendor contracts. To the extent purchases of our solution are perceived by customers and potential customers to be discretionary, our revenue may be disproportionately affected by delays or reductions in general information technology spending. Also, customers may choose to develop in-house software or modify their legacy business software as an alternative to using our solution. Moreover, competitors may respond to challenging market conditions by lowering prices and attempting to lure away our customers. We cannot predict the timing, strength, or duration of any economic slowdown or any subsequent recovery generally, or any industry in particular. If the conditions in the general economy and the markets in which we operate worsen from present levels, our business, financial condition, and operating results could be materially adversely affected. If currency exchange rates fluctuate substantially in the future, the results of our operations, which are reported in U.S. dollars, could be adversely affected. As we continue to expand our international operations, we become more exposed to the effects of fluctuations in currency exchange rates. Although we expect an increasing number of sales contracts to be denominated in currencies other than the U.S. dollar in the future, the majority of our sales contracts have historically been denominated in U.S. dollars, and therefore, most of our revenue has not been subject to foreign currency risk. However, a strengthening of the U.S. dollar could increase the real cost of our solution to our customers outside of the United States, which could adversely affect our business, operating results, financial condition, and cash flows. In addition, we incur expenses for employee compensation and other operating expenses at our non-U.S. locations in the local currency. Fluctuations in the exchange rates between the U.S. dollar and other currencies could result in the dollar equivalent of such expenses being higher. Furthermore, volatile market conditions arising from the COVID-19 pandemic may result in significant fluctuations in exchange rates, and, in particular, a weakening of foreign currencies relative to the U.S. dollar may negatively affect our revenue. This could have a negative impact on our operating results. Although we may in the future decide to undertake foreign exchange hedging transactions to cover a portion of our foreign currency exchange exposure, we currently do not hedge our exposure to foreign currency exchange risks. 40 The requirements of being a public company may strain our resources, divert management’s attention, and affect our ability to attract and retain additional executive management and qualified board members. As a public company, we are subject to the reporting requirements of the Exchange Act, the Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley Act), the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the listing requirements of the New York Stock Exchange, and other applicable securities rules and regulations. Compliance with these rules and regulations have increased our legal and financial compliance costs, making some activities more difficult, time-consuming, or costly, and increasing demand on our systems and resources. Although we have already hired additional employees and outside consultants to comply with these requirements, we may need to add additional resources, which would increase our costs and expenses. In addition, changing laws, regulations, and standards relating to corporate governance and public disclosure are creating uncertainty for public companies, increasing legal and financial compliance costs, and making some activities more time consuming. These laws, regulations, and standards are subject to varying interpretations, in many cases due to their lack of specificity, and, as a result, their application in practice may evolve over time as market practice develops or new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. If our efforts to comply with new laws, regulations, and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to their application and practice, regulatory authorities may initiate legal proceedings against us, and our business may be adversely affected. The rules and regulations applicable to public companies make it more expensive for us to obtain and maintain director and officer liability insurance, and we may be required to accept reduced coverage or incur substantially higher costs to obtain coverage. These factors could also make it more difficult for us to attract and retain qualified members of our Board of Directors, particularly to serve on our audit committee and compensation committee, and qualified executive officers. As a result of disclosure of information in our public company filings, our business and financial condition is more visible, which may result in threatened or actual litigation, including by competitors and other third parties. If such claims are successful, our business and operating results could be adversely affected, and even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the resources of our management and adversely affect our business and operating results. In addition, as a result of our disclosure obligations as a public company, we have reduced flexibility and are under pressure to focus on short-term results, which may adversely affect our ability to achieve long-term profitability. If we fail to maintain an effective system of disclosure controls and internal control over financial reporting, our ability to produce timely and accurate financial statements or comply with applicable regulations could be impaired. As a public company, we are required, pursuant to Section 404 of the Sarbanes-Oxley Act, to furnish a report by management on, among other things, the effectiveness of our internal control over financial reporting. Effective internal control over financial reporting is necessary for us to provide reliable financial reports and, together with adequate disclosure controls and procedures, are designed to prevent fraud. Any failure to implement required new or improved controls, or difficulties encountered in their implementation, could cause us to fail to meet our reporting obligations. Ineffective internal controls could also cause investors to lose confidence in our reported financial information, which could have a negative effect on the trading price of our Class A common stock. This management report will need to include disclosure of any material weaknesses identified by our management in our internal control over financial reporting, as well as a statement that our independent registered public accounting firm has issued an opinion on our internal control over financial reporting. Section 404(b) of the Sarbanes-Oxley Act requires our independent registered public accounting firm to annually attest to the effectiveness of our internal control over financial reporting, which has required, and will continue to require, increased costs, expenses, and management resources. An independent assessment of the effectiveness of our internal controls could detect problems that our management’s assessment might not. Undetected material weaknesses in our internal controls could lead to financial statement restatements and require us to incur the expense of remediation. We are required to disclose changes made in our internal controls and procedures on a quarterly basis. To comply with the requirements of being a public company, we have undertaken, 41 and may need to further undertake in the future, various actions, such as implementing new internal controls and procedures and hiring additional accounting or internal audit staff. If we are unable to assert that our internal control over financial reporting is effective, or if our independent registered public accounting firm is unable to express an opinion on the effectiveness of our internal control, including as a result of any identified material weakness, we could lose investor confidence in the accuracy and completeness of our financial reports, which would cause the price of our Class A common stock to decline, and we may be subject to investigation or sanctions by the SEC. In addition, if we are unable to continue to meet these requirements, we may not be able to remain listed on the New York Stock Exchange. We may be adversely affected by natural disasters, pandemics, and other catastrophic events, and by man-made problems such as terrorism, that could disrupt our business operations. Our business continuity and disaster recovery plans may not adequately protect us from a serious disaster. Natural disasters, pandemics and epidemics, or other catastrophic events such as fire, power shortages, and other events beyond our control may cause damage or disruption to our operations, international commerce, and the global economy, and could have an adverse effect on our business, operating results, and financial condition. For example, the ongoing effects of the COVID-19 pandemic and the precautionary measures that we have adopted have resulted in, and could continue to result in, customers not purchasing or renewing our products or services, a significant delay or lengthening of our sales cycles, and could negatively impact our customer success and sales and marketing efforts and could result in difficulties or changes to our customer support, or create operational or other challenges, any of which could harm our business and operating results. In the event of a natural disaster, including a major earthquake, blizzard, wildfire, or hurricane, or a catastrophic event such as a fire, power loss, or telecommunications failure, we may be unable to continue our operations and may endure system interruptions, reputational harm, delays in development of our solution, lengthy interruptions in service, breaches of data security, and loss of critical data, all of which could have an adverse effect on our future operating results. For example, our corporate headquarters is located in California, a state that frequently experiences earthquakes and wildfires. Additionally, all of the aforementioned risks may be further increased if we do not implement a disaster recovery plan or the disaster recovery plans put in place by Zuora or our partners prove to be inadequate. Item 1B. Unresolved Staff Comments None. Item 2. Properties Our corporate headquarters are currently located in Redwood City, California where we currently utilize approximately 50,000 square feet of office space. We also lease facilities in other areas within the United States and around the world. We believe that our current offices provide adequate space to meet our needs for the near term, and that suitable additional or substitute space will be available as needed to accommodate any future growth and expansion. Item 3. Legal Proceedings Information with respect to this item may be found in Note 13. Commitments and Contingencies to the Consolidated Financial Statements in Item 8. Financial Statements and Supplementary Data , which is incorporated herein by reference. Item 4. Mine Safety Disclosures Not applicable. 42 PART II Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities Market Information for Common Stock Our Class A common stock began trading on the New York Stock Exchange under the symbol “ZUO” on April 12, 2018. Prior to that date, there was no public trading market for our Class A common stock. There is no public trading market for our Class B common stock. Holders of Record As of February 28, 2022, there were 85 and 54 registered holders of record of our Class A and Class B common stock, respectively. Because many of our shares of Class A common stock are held by brokers and other institutions on behalf of stockholders, we are unable to estimate the total number of stockholders represented by these record holders. Dividend Policy We have never declared or paid cash dividends on our capital stock. We do not expect to pay dividends on our capital stock for the foreseeable future. Instead, we anticipate that all of our earnings for the foreseeable future will be used for the operation and growth of our business. Any future determination to declare cash dividends would be subject to the discretion of our Board of Directors and would depend upon various factors, including our operating results, financial condition, and capital requirements, restrictions that may be imposed by applicable law, and other factors deemed relevant by our Board of Directors. Performance Graph The performance graph below shall not be deemed "soliciting material" or to be "filed" with the SEC for purposes of Section 18 of the Exchange Act, or otherwise subject to the liabilities under that Section, and shall not be deemed to be incorporated by reference into any of our filings under the Securities Act or the Exchange Act. We have presented below the cumulative total return to our stockholders between April 12, 2018 (the date our Class A common stock commenced trading on the New York Stock Exchange) through January 31, 2022 in comparison to the Standard & Poor’s 500 Index, Standard & Poor Information Technology Index and NASDAQ Composite. All values assume a $100 initial investment and reinvestment of dividends. The comparisons are based on historical data and are not indicative of, nor intended to forecast, the future performance of our Class A common stock. 43 Company/Index Base Period April 12, 2018 January 31, 2019 January 31, 2020 January 31, 2021 January 31, 2022 Zuora $ 100 $ 108.20 $ 73.75 $ 73.75 $ 83.15 S&P 500 Index $ 100 $ 103.08 $ 125.44 $ 147.07 $ 181.33 NASDAQ Composite $ 100 $ 102.83 $ 130.63 $ 188.22 $ 206.38 S&P 500 Information Technology Index $ 100 $ 101.26 $ 147.92 $ 202.85 $ 256.45 Unregistered Sales of Equity Securities and Use of Proceeds None. Issuer Purchases of Equity Securities None. Item 6. [Reserved] Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and related notes appearing elsewhere in this Form 10-K. As discussed in the section titled “Special Note Regarding Forward-Looking Statements,” the following discussion and analysis contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. Factors that could cause or contribute to these differences include, but are not limited to, those identified below and those discussed in the section titled “Risk Factors” under Part I, Item 1A in this Form 10-K. Our fiscal year ends January 31. 44 We have omitted discussion of fiscal 2020 results where it would be redundant to the discussion previously included in Management's Discussion and Analysis of Financial Condition and Results of Operations in Part II, Item 7 of our Annual Report on Form 10-K for the fiscal year ended January 31, 2021, filed with the SEC on March 31, 2021. Overview Business Summary Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the entire quote-to-revenue process, including quoting, billing, collections and revenue recognition. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. Many of today’s enterprise software systems manage their quote-to-revenue processes using software built for one-time transactions. These systems were not designed for the dynamic, ongoing nature of subscription, usage, or consumption-based pricing models, and can be extremely difficult to configure. In traditional product-based businesses, quote-to-revenue was a linear process—a customer orders a product, is billed for that product, payment is collected, and the revenue is recognized. These legacy product-based systems were not specifically designed to handle the complexities of ongoing customer relationships and recurring revenue, commonly found in a subscription business, and their impact on areas such as billing proration, revenue recognition, reporting in real-time, and the lifetime value of the customer. Using legacy or homegrown software to build a subscription business often results in inefficient processes with prolonged and complex manual downstream work, hard-coded customizations, and a proliferation of stock-keeping units (SKUs). However, enterprise business models are inherently dynamic, with multiple interactions, flexible pricing, global complexities, and continuously-evolving relationships and events. The capabilities to launch, price, and bill for products, facilitate and record cash receipts, process and recognize revenue, and analyze data to drive key decisions are mission critical and particularly complex for companies that operate at a global scale. As a result, as companies launch, grow, and scale their businesses, they often conclude that legacy systems are inadequate. That’s where Zuora comes in. Our vision is “The World Subscribed” -- the idea that one day every company will be a part of the Subscription Economy. Our focus has been on providing the technology our customers need to thrive as a customer-centric, recurring revenue business. Our solution includes Zuora Central Platform , Zuora Billing , Zuora Revenue , Zuora Collect , and other software that support and expand upon these core products. Our software helps companies analyze data - including information such as which customers are delivering the most recurring revenue, or which segments are showing the highest churn, enabling customers to make informed decisions for their subscription business and quickly implement changes such as launching new services, updating pricing (usage, time, or outcome based), delivering new offerings, or making other changes to their customers’ subscription experience. We also have a large subscription ecosystem of global partners and the Subscribed Strategy Group, that can assist our customers with additional strategies and services throughout the subscription journey. Companies in a variety of industries - technology, manufacturing, media and entertainment, telecommunications, and many others - are using our solution to scale and adapt to a world that is increasingly choosing subscription-based offerings. 45 COVID-19 Pandemic Impact The COVID-19 pandemic has impacted worldwide economic activity and financial markets, and has caused certain disruptions to our business operations—such as delays and lengthening of our customary sales cycles and postponed implementations, certain customers not purchasing or renewing our products or services, requests for extended payment terms and contract restructurings by certain customers more severely impacted by the pandemic, challenges in sales and customer success efforts due to travel restrictions, and shifting certain customer events to virtual-only experiences. During the fiscal year ended January 31, 2022, we experienced fewer disruptions including customer loss, down-sells, customer requests for extended payment terms and other relief due to the COVID-19 pandemic as compared to the prior fiscal year. We believe that such COVID-related disruptions experienced thus far have not had a material impact on our overall financial results for fiscal 2022. However, because our financial results are driven by multiple factors, some of which are not quantifiable, it is not possible to determine the significance of the specific impact of the COVID-19 pandemic on our financial results in any given period. Because our products are generally offered as subscription-based licenses and a portion of that revenue is recognized over time, the effect of the pandemic may not be fully reflected in our operating results until future periods. The extent to which the COVID-19 pandemic impacts our business operations in future periods will depend on multiple uncertain factors, including the duration and severity of the COVID-19 pandemic, developments related to COVID-19 variants and vaccine efficacy, the pandemic's overall negative impact on the global economy generally and on our customers, which operate in numerous industries, and continued responses by governments and businesses to COVID-19. We are continuing to monitor the impact of the COVID-19 pandemic on our business operations and financial results. In fiscal 2021, we implemented plans to manage our costs in certain areas such as travel, events, and marketing and reduced our pace of hiring while continuing to prioritize new headcount critical to operations, sales and customer support. During fiscal 2022, we accelerated our pace of hiring and investments in our operations including sales, marketing and product technology. We currently intend to continue these investments, but should we experience any further business disruption additional cost management actions may be considered. The uncertainty surrounding the COVID-19 pandemic, including developments related to COVID-19 variants and vaccine efficacy, and its impact on the global economy could also lead to a significant adverse impact on our business operations and financial performance in the future. The COVID-19 pandemic and its impact on us and the economy may limit our ability to accurately forecast our future operating results, including our ability to predict revenue and expense levels, and plan for and model future operating results. Our competitors could experience similar or different impacts as a result of COVID-19, which could result in changes to our competitive landscape. While we have developed and continue to develop plans to help mitigate the negative impact of the pandemic on our business, these efforts may not be effective and any protracted economic downturn could significantly affect our business and operating results. We will continue to evaluate the nature and extent of the impact of the COVID-19 pandemic on our business. See Part I, Item 1A. Risk Factors of this Annual Report on Form 10-K for further discussion of the possible impact of the COVID-19 pandemic on our business and financial results. Fiscal 2022 Business Highlights Our business highlights for the fourth quarter and full year fiscal 2022 include the followin • During the fourth quarter, we closed eight deals that exceeded $500,000 in ACV, four of which exceeded $1.0 million. • During the fourth quarter, subscription revenue represented 85% of total revenue and subscription gross margin was 77%, the highest levels in our history as a public company. • Our subscription revenue was $287.7 million for the year, an increase of 19% over last fiscal year. • We improved our total gross margin to 60% for the year, compared to 57% last year, as we shifted more of our services work to our system integrator partners and improved our cost structure. • Net cash provided by operating activities was $18.7 million, and full fiscal year free cash flow was positive for the first time at $10.3 million, for fiscal 2022. • Customer transaction volume processed through Zuora's Billing platform was $75.1 billion during the year, an increase of 32% compared to last fiscal year. 46 • We grew our business to 747 customers with ACV exceeding $100,000 as of January 31, 2022, which represents 11% year-over-year growth. • In May 2021, we acquired the intellectual property assets of ModernAIze, Inc. (dba Live Objects), a business process platform that uses AI to help companies understand, visualize and optimize complex business processes spanning across systems. For a definition of ACV, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Operational and Financial Metrics.” Fiscal 2022 Financial Performance Summary Our financial performance for fiscal 2022, compared to fiscal 2021, reflects the followin • Subscription revenue was $287.7 million, an increase of $45.4 million, or 19%, and total revenue was $346.7 million, an increase of $41.3 million, or 14%. This growth reflects our acquisition of new customers as well as increased transaction volume and sales of new products to our existing customers. • Total cost of revenue increased to $140.1 million, or 40% of total revenue, compared to $130.8 million, or 43% of revenue, last year. We invested additional resources during the fiscal year to support the growth in the number of customers as well as the increased activity from existing customers. • Loss from operations increased to $96.2 million, or 28% of revenue, compared to a loss of $73.9 million, or 24% of revenue, last year. Key Operational and Financial Metrics We monitor the following key operational and financial metrics to evaluate our business, measure our performance, identify trends affecting our business, formulate business plans and make strategic decisio January 31, 2022 2021 Customers with ACV equal to or greater than $100,000 747 676 Dollar-based retention rate 110 % 100 % Annual recurring revenue growth 20 % 12 % Customers with Annual Contract Value Equal to or Greater than $100,000 We believe our ability to enter into larger contracts is indicative of broader adoption of our solution by larger organizations. It also reflects our ability to expand our revenue footprint within our current customer base. We define ACV as the subscription revenue we would contractually expect to recognize from that customer over the next twelve months, assuming no increases or reductions in their subscriptions. We define the number of customers at the end of any particular period as the number of parties or organizations that have entered into a distinct subscription contract with us for which the term has not ended. Each party with which we have entered into a distinct subscription contract is considered a unique customer, and in some cases, there may be more than one customer within a single organization. The number of customers with ACV equal to or greater than $100,000 increased to 747 as of January 31, 2022, as compared to 676 as of January 31, 2021. We expect this metric will increase in fiscal year 2023. Dollar-Based Retention Rate We believe our dollar-based retention rate is a key measure of our ability to retain and expand revenue from our customer base over time. We calculate our dollar-based retention rate as of a period end by starting with the sum of the ACV from all customers as of twelve months prior to such period end, or prior period ACV. We then calculate the sum of the ACV from these same customers as of the current period end, or current period ACV. Current period ACV includes any upsells and also reflects contraction or attrition over the trailing twelve months, but excludes revenue from new customers added in the current period. We then divide the current period ACV by the prior period ACV to arrive at our dollar-based retention rate. Our dollar-based retention rate improved to 110% as of January 31, 2022, as compared to 100% as of January 31, 2021. While the dollar-based retention rate can fluctuate in any particular period, we expect it to increase slightly in fiscal 2023. Annual Recurring Revenue Growth (ARR Growth) 47 We believe that our ARR Growth is a key measure as it is a leading indicator of subscription revenue growth from both new and existing customers. We calculate ARR Growth by dividing the annual recurring revenue (ARR) as of a period end by the ARR for the corresponding period end of the prior fiscal year. ARR represents the annualized recurring value of all active subscription contracts at the end of a reporting period and excludes the value of non-recurring revenue such as professional services revenue as well as contracts with new customers with a term of less than one year. ARR Growth is a performance metric and should be viewed independently of revenue and deferred revenue, and is not intended to be a substitute for, or combined with, any of these items. Our ARR Growth increased to 20% as of January 31, 2022 and we expect it to increase slightly over the next fiscal year . Our ARR Growth was 12% as of January 31, 2021. Components of Our Results of Operations Revenue Subscription revenue. Subscription revenue consists of fees for access to, and use of, our products, as well as customer support. We generate subscription fees pursuant to non-cancelable subscription agreements with terms that typically range from one to three years. Subscription revenue is primarily based on fees to access our services platform over the subscription term. We typically invoice customers in advance in either annual or quarterly installments. Customers can also elect to purchase additional volume blocks or products during the term of the contract. We typically recognize subscription revenue ratably over the term of the subscription period, beginning on the date that access to our platform is provided, which is generally on or about the date the subscription agreement is signed. Professional services revenue. Professional services revenue consists of fees for services related to helping our customers deploy, configure, and optimize the use of our solutions. These services include system integration, data migration, process enhancement, and training. Professional services projects generally take three to twelve months to complete. Once the contract is signed, we generally invoice for professional services on a time and materials basis, although we occasionally engage in fixed-price service engagements and invoice for those based upon agreed milestone payments. We recognize revenue as services are performed for time and materials engagements and on a proportional performance method as the services are performed for fixed fee engagements. We expect to transition a portion of our professional services implementations to our strategic partners, including system integrators, and as a result we expect our professional services revenue to decrease over time as a percentage of total revenue. Deferred Revenue Deferred revenue consists of customer billings in advance of revenue being recognized from our subscription and support services and professional services arrangements. We primarily invoice our customers for subscription services arrangements annually or quarterly in advance. Amounts anticipated to be recognized within one year of the balance sheet date are recorded as deferred revenue, current portion, and the remaining portion is recorded as deferred revenue, net of current portion in our consolidated balance sheets. Overhead Allocation and Employee Compensation Costs We allocate shared costs, such as facilities costs (including rent, utilities, and depreciation on capital expenditures related to facilities shared by multiple departments), information technology costs, and certain administrative personnel costs to all departments based on headcount and location. As such, allocated shared costs are reflected in each cost of revenue and operating expenses category. Employee compensation costs consist of salaries, bonuses, commissions, benefits, and stock-based compensation. Cost of Revenue, Gross Profit and Gross Margin Cost of subscription revenue. Cost of subscription revenue consists primarily of costs related to hosting our platform and providing customer support. These costs include data center costs and third-party hosting fees, employee compensation costs associated with our cloud-based infrastructure and our customer support organizations, amortization expense associated with capitalized internal-use software and purchased technology, allocated overhead, software and maintenance costs, and outside services associated with the delivery of our subscription services. We intend to continue to invest in our platform infrastructure, including third-party hosting capacity, and support organizations. However, the level and timing of investment in these areas could fluctuate and affect our cost of subscription revenue in the future. 48 Cost of professional services revenue. Cost of professional services revenue consists primarily of costs related to the deployment of our platform. These costs include employee compensation costs for our professional services team, allocated overhead, travel costs, and costs of outside services associated with supplementing our internal staff. We believe that investment in our system integrator partner network will lead to total margin improvement, however costs may fluctuate in the near term as we shift deployments to our partner network. Gross profit and gross margin. Our gross profit and gross margin may fluctuate from period to period as our revenue fluctuates, and as a result of the timing and amount of investments to expand hosting capacity, including through third-party cloud providers, amortization expense associated with our capitalized internal-use software and purchased technology, and our continued efforts to build our cloud infrastructure, support and professional services teams. Operating Expenses Research and development. Research and development expense consists primarily of employee compensation costs, allocated overhead, and travel costs. We capitalize research and development costs associated with the development of internal-use software and we generally amortize these costs over a period of three years into cost of subscription revenue. All other research and development costs are expensed as incurred. We believe that continued investment in our platform is important for our growth, and as such, expect our research and development expense to continue to increase in absolute dollars for the foreseeable future but may increase or decrease as a percentage of total revenue. Sales and marketing. Sales and marketing expense consists primarily of employee compensation costs, including the amortization of deferred commissions related to our sales personnel, allocated overhead, costs of general marketing and promotional activities, and travel costs. Commission costs that are incremental to obtaining a contract are amortized in sales and marketing expense over the period of benefit, which is expected to be five years. While our sales and marketing expense as a percentage of total revenue has decreased slightly in recent periods, we expect to continue to make significant investments as we expand our customer acquisition and retention efforts. Therefore, we expect that sales and marketing expense will increase in absolute dollars but may vary as a percentage of total revenue for the foreseeable future. General and administrative. General and administrative expense consists primarily of employee compensation costs, allocated overhead, and travel costs for finance, accounting, legal, human resources, and recruiting personnel. In addition, general and administrative expense includes non-personnel costs, such as accounting fees, legal fees, charitable contributions, asset impairments and all other supporting corporate expenses not allocated to other departments. We expect to incur ongoing costs as a result of operating as a public company, including costs related to compliance and reporting obligations of public companies, and continued investment to support our growing operations. As a result, we expect our general and administrative expense to continue to increase in absolute dollars for the foreseeable future but may vary as a percentage of total revenue in the near term. Over the long-term, we expect general and administrative expense to decline as a percentage of total revenue due to economies realized as we scale our business. Interest and Other (Expense) Income, net Interest and other (expense) income, net primarily consists of interest income from our investment holdings, interest expense associated with our Debt Agreement, and foreign exchange fluctuations. Income Tax Provision Income tax provision consists primarily of income taxes related to foreign and state jurisdictions in which we conduct business. We maintain a full valuation allowance on our federal and state deferred tax assets as we have concluded that it is more likely than not that the deferred assets will not be utilized. 49 Results of Operations The following tables set forth our consolidated results of operations data for the periods presented in dollars and as a percentage of our total reve Fiscal Year Ended January 31, 2022 2021 (in thousands) Reve Subscription $ 287,747 $ 242,340 Professional services 58,991 63,080 Total revenue 346,738 305,420 Cost of reve Subscription 68,285 58,808 Professional services 71,821 71,962 Total cost of revenue 140,106 130,770 Gross profit 206,632 174,650 Operating expens Research and development 83,219 76,795 Sales and marketing 143,366 116,914 General and administrative 76,223 54,803 Total operating expenses 302,808 248,512 Loss from operations (96,176) (73,862) Interest and other (expense) income, net (1,822) 2,561 Loss before income taxes (97,998) (71,301) Income tax provision 1,427 1,873 Net loss $ (99,425) $ (73,174) Fiscal Year Ended January 31, 2022 2021 Reve Subscription 83 % 79 % Professional services 17 21 Total revenue 100 100 Cost of reve Subscription 20 19 Professional services 21 24 Total cost of revenue 40 43 Gross profit 60 57 Operating expens Research and development 24 25 Sales and marketing 41 38 General and administrative 22 18 Total operating expenses 87 81 Loss from operations (28) (24) Interest and other (expense) income, net (1) 1 Loss before income taxes (28) (23) Income tax provision — 1 Net loss (29) % (24) % 50 Note: Percentages in the table above may not sum due to rounding. Non-GAAP Financial Measures To supplement our consolidated financial statements presented in accordance with U.S. GAAP, we monitor and consider non-GAAP cost of subscription revenue, non-GAAP cost of professional services revenue, non-GAAP gross profit, non-GAAP subscription gross margin, non-GAAP professional services gross margin, non-GAAP total gross margin, non-GAAP research and development expense, non-GAAP sales and marketing expense, non-GAAP general and administrative expense, non-GAAP loss from operations, non-GAAP operating margin, non-GAAP net loss, non-GAAP net loss per share, and free cash flow. We use non-GAAP financial measures in conjunction with GAAP measures as part of our overall assessment of our performance, including the preparation of our annual operating budget and quarterly forecasts, to evaluate the effectiveness of our business strategies and to communicate with our Board of Directors concerning our financial performance. We believe these non-GAAP measures provide investors consistency and comparability with our past financial performance and facilitate period-to-period comparisons of our operating results. We also believe these non-GAAP measures are useful in evaluating our operating performance compared to that of other companies in our industry, as they generally eliminate the effects of certain items that may vary for different companies for reasons unrelated to overall operating performance. Investors are cautioned that there are material limitations associated with the use of non-GAAP financial measures as an analytical tool. The non-GAAP financial measures we use may be different from non-GAAP financial measures used by other companies, limiting their usefulness for comparison purposes. We compensate for these limitations by providing specific information regarding the GAAP items excluded from our non-GAAP financial measures. The presentation of these non-GAAP financial measures is not intended to be considered in isolation or as a substitute for, or superior to, financial information prepared and presented in accordance with GAAP. Reconciliations of our non-GAAP financial measures to the nearest respective GAAP measures are provided below. We exclude the following items from one or more of our non-GAAP financial measu • Stock-based compensation expense . We exclude stock-based compensation expense, which is a non-cash expense, because we believe that excluding this item provides meaningful supplemental information regarding operational performance. In particular, stock-based compensation expense is not comparable across companies given it is calculated using a variety of valuation methodologies and subjective assumptions. • Amortization of acquired intangible assets . We exclude amortization of acquired intangible assets, which is a non-cash expense, because we do not believe it has a direct correlation to the operation of our business. • Charitable donations . We exclude expenses associated with charitable donations of our common stock from certain of our non-GAAP financial measures. We believe that excluding these non-cash expenses allows investors to make more meaningful comparisons between our operating results and those of other companies. • Certain litigation. We exclude non-recurring charges and benefits, net of expected insurance recoveries, including litigation expenses and settlements, related to litigation matters that are outside of the ordinary course of our business. We believe these charges and benefits do not have a direct correlation to the operations of our business and may vary in size depending on the timing and results of such litigation and related settlements. • Asset impairment . We exclude non-cash charges for impairment of assets, including impairments related to internal-use software and office leases, from certain of our non-GAAP financial measures. Impairment charges can vary significantly in terms of amount and timing and we do not consider these charges indicative of our current or past operating performance. Moreover, we believe that excluding the effects of these charges allows investors to make more meaningful comparisons between our operating results and those of other companies. 51 The following tables provide a reconciliation of our GAAP to Non-GAAP measures (in thousands, except percentages and per share data): Fiscal Year Ended January 31, 2022 1 GAAP Stock-based Compensation Amortization of Acquired Intangibles Charitable Contribution Certain Litigation Asset Impairment Non-GAAP Cost of reve Cost of subscription revenue $ 68,285 $ (5,875) $ (2,050) $ — $ — $ — $ 60,360 Cost of professional services revenue 71,821 (10,274) — — — — 61,547 Gross profit 206,632 16,149 2,050 — — — 224,831 Operating expens Research and development 83,219 (21,072) — — — — 62,147 Sales and marketing 143,366 (22,484) — — — — 120,882 General and administrative 76,223 (12,365) — (1,000) (176) (12,783) 49,899 Loss from operations (96,176) 72,070 2,050 1,000 176 12,783 (8,097) Net loss $ (99,425) $ 72,070 $ 2,050 $ 1,000 $ 176 $ 12,783 $ (11,346) Net loss per share, basic and diluted² $ (0.80) $ (0.09) Gross margin 60 % 65 % Subscription gross margin 76 % 79 % Professional services gross margin (22) % (4) % Operating margin (28) % (2) % Fiscal Year Ended January 31, 2021 1 GAAP Stock-based Compensation Amortization of Acquired Intangibles Charitable Contribution Certain Litigation Non-GAAP Cost of reve Cost of subscription revenue $ 58,808 $ (4,849) $ (1,692) $ — $ — $ 52,267 Cost of professional services revenue 71,962 (9,952) — — — 62,010 Gross profit 174,650 14,801 1,692 — — 191,143 Operating expens Research and development 76,795 (19,562) — — — 57,233 Sales and marketing 116,914 (15,839) — — — 101,075 General and administrative 54,803 (9,081) — (1,000) (3,252) 41,470 Loss from operations (73,862) 59,283 1,692 1,000 3,252 (8,635) Net loss $ (73,174) $ 59,283 $ 1,692 $ 1,000 $ 3,252 $ (7,947) Net loss per share, basic and diluted² $ (0.62) $ (0.07) Gross margin 57 % 63 % Subscription gross margin 76 % 78 % Professional services gross margin (14) % 2 % Operating margin (24) % (3) % _________________________________ (1) Beginning with the second quarter ended July 31, 2021, we no longer exclude non-cash adjustments for capitalization and amortization of internal-use software from our non-GAAP financial measures. We believe that this change more closely aligns our reported financial measures with current industry practice. Our non-GAAP financial measures for the fiscal year ended January 31, 2021 were recast to conform to the updated methodology for comparison purposes. 52 (2) GAAP and Non-GAAP net loss per share are calculated based upon 124.2 million and 117.6 million basic and diluted weighted-average shares of common stock for the fiscal year ended January 31, 2022 and 2021, respectively. Free Cash Flow We define free cash flow as net cash provided by operating activities, less cash used for purchases of property and equipment, net of insurance recoveries. Insurance recoveries include amounts paid to us for property and equipment that were damaged in January 2020 at our corporate headquarters. We include the impact of net purchases of property and equipment in our free cash flow calculation because we consider these capital expenditures to be a necessary component of our ongoing operations. We consider free cash flow to be a liquidity measure that provides useful information to management and investors about the amount of cash generated by the business that can possibly be used for investing in our business and strengthening our balance sheet, but it is not intended to represent the residual cash flow available for discretionary expenditures. Fiscal Year Ended January 31, 2022 2021 (in thousands) Net cash provided by operating activities $ 18,686 $ 11,286 L Purchases of property and equipment, net of insurance recoveries (8,432) (12,156) Free cash flow $ 10,254 $ (870) Fiscal Years Ended January 31, 2022 and 2021 Revenue Fiscal Year Ended January 31, 2022 2021 $ Change % Change (dollars in thousands) Reve Subscription $ 287,747 $ 242,340 $ 45,407 19 % Professional services 58,991 63,080 (4,089) (6) % Total revenue $ 346,738 $ 305,420 $ 41,318 14 % Percentage of total reve Subscription 83 % 79 % Professional services 17 21 Total 100 % 100 % Subscription revenue increased by $45.4 million, or 19%, for fiscal 2022 compared to fiscal 2021. The increase was driven by growth in our customer base, including both new and existing customers. New customers contributed approximately $17.5 million of the increase in subscription revenue for fiscal 2022 compared to the prior year period, while increased transaction volume and sales of additional products to our existing customers contributed the remainder. We calculate subscription revenue from new customers for the fiscal year by adding the revenue recognized from new customers acquired in the 12 months prior to the reporting date. Professional services revenue decreased by $4.1 million, or 6%, for fiscal 2022 compared to fiscal 2021 as a result of shifting more services work to our system integrator partners as we improve our sales mix towards recurring subscription revenue. 53 Cost of Revenue and Gross Margin Fiscal Year Ended January 31, 2022 2021 $ Change % Change (dollars in thousands) Cost of reve Subscription $ 68,285 $ 58,808 $ 9,477 16 % Professional services 71,821 71,962 (141) — % Total cost of revenue $ 140,106 $ 130,770 $ 9,336 7 % Gross margin: Subscription 76 % 76 % Professional services (22) % (14) % Total gross margin 60 % 57 % Cost of subscription revenue increased by $9.5 million, or 16%, for fiscal 2022 compared to fiscal 2021. This was driven by increases of $3.5 million in data center costs which was primarily related to third-party cloud hosting as we grow our customer base and includes $2.9 million for costs to migrate our software from our third-party hosted data center to a cloud hosting provider, $2.8 million in employee compensation costs, $1.1 million in amortization of internal-use software costs, and $0.9 million in allocated overhead primarily due to increased headcount. Cost of professional services revenue was flat for fiscal 2022 compared to fiscal 2021. This was due to decreases of $2.0 million in employee compensation costs and $0.4 million in travel costs, offset by an increase of $2.4 million in outside professional services costs. Our gross margin for subscription services was flat at 76% in fiscal 2022 and fiscal 2021 as we stabilized our cost structure. We expect our subscription gross margin to be relatively consistent over the next fiscal year. Our gross margin for professional services decreased to (22)% for fiscal 2022 compared to (14)% for fiscal 2021, primarily due to lower professional services revenue as a result of shifting more services work to our system integrator partners, and investment in training our partners as we develop our partner ecosystem. Operating Expenses Research and Development Fiscal Year Ended January 31, 2022 2021 $ Change % Change (dollars in thousands) Research and development $ 83,219 $ 76,795 $ 6,424 8 % Percentage of total revenue 24 % 25 % Research and development expense increased by $6.4 million, or 8%, for fiscal 2022 compared to fiscal 2021, primarily driven by increases of $4.9 million in employee compensation costs and $1.0 million in allocated overhead primarily due to increased headcount. Research and development expense was relatively consistent at 24% and 25% of total revenue during fiscal 2022 and fiscal 2021, respectively. 54 Sales and Marketing Fiscal Year Ended January 31, 2022 2021 $ Change % Change (dollars in thousands) Sales and marketing $ 143,366 $ 116,914 $ 26,452 23 % Percentage of total revenue 41 % 38 % Sales and marketing expense increased by $26.5 million, or 23%, for fiscal 2022 compared to fiscal 2021, primarily due to increases of $16.9 million in employee compensation costs, $5.4 million in allocated overhead costs and $3.9 million in amortization of deferred commissions. Sales and marketing expense increased to 41% of total revenue during fiscal 2022 compared to 38% during fiscal 2021 primarily driven by our strategy to increase in our go-to-market organization to drive enterprise growth. General and Administrative Fiscal Year Ended January 31, 2022 2021 $ Change % Change (dollars in thousands) General and administrative $ 76,223 $ 54,803 $ 21,420 39 % Percentage of total revenue 22 % 18 % General and administrative expense increased by $21.4 million, or 39%, for fiscal 2022 compared to fiscal 2021, primarily due to an impairment charge of $12.8 million related to our office leases, and increases of $7.3 million in employee compensation costs, $2.1 million in outside professional services costs, and $2.1 million in allocated overhead costs, partially offset by a decrease of $3.1 million in litigation expenses as our directors and officers insurance began to cover certain shareholder litigation costs when we met our policy deductible during fiscal 2022. General and administrative expense increased to 22% of total revenue during fiscal 2022 compared to 18% during fiscal 2021, primarily due to impairment charges related to our office leases. Interest and Other (Expense) Income, net Fiscal Year Ended January 31, 2022 2021 $ Change % Change (in thousands) Interest and other (expense) income, net $ (1,822) $ 2,561 $ (4,383) (171) % Interest and other (expense) income, net decreased by $4.4 million for fiscal 2022 compared to fiscal 2021, primarily due to a $3.5 million decrease related to the revaluation of cash, accounts receivable and accounts payable recorded in a foreign currency and a $1.0 million decrease related to interest income on short-term investments. Income Tax Provision Fiscal Year Ended January 31, 2022 2021 $ Change % Change (in thousands) Income tax provision $ 1,427 $ 1,873 $ (446) (24) % We are subject to federal and state income taxes in the United States and taxes in foreign jurisdictions. For fiscal 2022 and fiscal 2021 we recorded a tax provision of $1.4 million and $1.9 million on losses before income taxes of $98.0 million and $71.3 million, respectively. The effective tax rate for fiscal 2022 and fiscal 2021 was (1.5)% and (2.6)%, respectively. The effective tax rates differ from the statutory rate primarily as a result of providing no benefit on pretax losses incurred in the United States. For fiscal 2022 and fiscal 2021, we maintained a full valuation allowance on our U.S. federal and state net deferred tax assets as it was more likely than not that those 55 deferred tax assets will not be realized. The decrease in tax expense resulted primarily from a decline in pre-tax earnings in our foreign jurisdictions. Liquidity and Capital Resources Liquidity is a measure of our ability to access sufficient cash flows to meet the short-term and long-term cash requirements of our business operations. As of January 31, 2022, we had cash and cash equivalents and short-term investments of $215.4 million that was primarily invested in deposit accounts, money market funds, corporate debt securities, supranational securities, commercial paper, and U.S. and foreign government securities. We do not enter into investments for trading or speculative purposes. We finance our operations primarily through sales to our customers, which are generally billed in advance on an annual or quarterly basis. Customers with annual or multi-year contracts are generally only billed one annual period in advance. We also finance our operations through proceeds from the issuance of stock under our employee stock plans, borrowings under our Debt Agreement and other financing arrangements. On March 24, 2022 (Initial Closing Date), we issued $250.0 million aggregate principal amount of convertible senior unsecured notes due in 2029 (2029 Notes) as described in Note 18. Subsequent Events to fund the future growth and expansion of our business. We will also issue an additional $150.0 million in senior unsecured notes within 18 months of the Initial Closing Date. In fiscal 2022, under our Debt Agreement, we repaid $4.4 million of principal on our term loan and have the ability borrow up to an additional $30.0 million in revolving loans until October 2022. In the short term, we believe our existing cash and cash equivalents, marketable securities, and cash flow from operations (in periods in which we generate cash flow from operations) will be sufficient for at least the next 12 months to meet our requirements and plans for cash, including meeting our working capital requirements and capital expenditure requirements. In the long term, our ability to support our requirements and plans for cash, including meeting our working capital and capital expenditure requirements, will depend on many factors, including our revenue growth rate, the timing and the amount of cash received from customers, the expansion of sales and marketing activities, the timing and extent of spending to support research and development efforts, the cost to develop and support our offering, the introduction of new products and services, the continuing adoption of our products by customers, any acquisitions or investments that we make in complementary businesses, products, and technologies, and our ability to obtain equity or debt financing. We continually evaluate our capital needs and may decide to raise additional capital to fund the growth of our business for general corporate purposes through public or private equity offerings or through additional debt financing. We also may in the future make investments in or acquire businesses or technologies that could require us to seek additional equity or debt financing. To facilitate acquisitions or investments, we may seek additional equity or debt financing, which may not be available on terms favorable to us or at all. Sales of additional equity could result in dilution to our stockholders. We expect proceeds from the exercise of stock options in future years to be impacted by the increased mix of restricted stock units versus stock options granted to employees and to vary based on our share price. The uncertainty created by the changing markets and economic conditions related to the COVID-19 pandemic may impact our customers' ability to pay us on a timely basis, which could negatively impact our cash flows. Debt Agreement and 2029 Notes See Note 9. Debt to our consolidated financial statements included in this Form 10-K for more information about our Debt Agreement. See Note 18. Subsequent Events for information about our 2029 Notes. 56 Cash Flows The following table summarizes our cash flows for the periods indicat Fiscal Year Ended January 31, 2022 2021 (in thousands) Net cash provided by operating activities $ 18,686 $ 11,286 Net cash (used in) provided by investing activities (20,099) 12,872 Net cash provided by financing activities 21,483 14,981 Effect of exchange rates on cash and cash equivalents (673) 696 Net increase in cash and cash equivalents $ 19,397 $ 39,835 Operating Activities Net cash provided by operating activities of $18.7 million in fiscal 2022 was comprised primarily of customer collections for our subscription and professional services, cash payments for our personnel, sales and marketing efforts and infrastructure-related costs, and payments to vendors for products and services related to our ongoing business operations. Net cash provided by operating activities for fiscal 2022 increased $7.4 million compared to the same period last fiscal year due to increased customer collections as we grow our business. Investing Activities Net cash used in investing activities for fiscal 2022 was $20.1 million. We used $10.3 million to purchase short-term investments, net of maturities, and used $8.4 million, net of insurance recoveries, to purchase property and equipment and to develop internal-use software as we continue to invest our business. We also paid $1.3 million in cash during fiscal 2022 to acquire certain intellectual property assets. Net cash used in investing activities for fiscal 2022 increased $33.0 million compared to last fiscal year primarily due the timing of purchases, sales, and maturities of short-term investments, which resulted in $35.3 million of net cash used between the comparative periods. Additionally, we paid $1.3 million in cash to acquire certain intellectual property assets, compared to no intangible asset purchases in the prior year. These cash uses were partially offset by a decrease in property and equipment purchases, net of insurance recoveries, of $3.7 million as we recognized leasehold improvements related to our new corporate headquarters last year. Financing Activities Net cash provided by financing activities for fiscal 2022 of $21.5 million was primarily due to $18.5 million in proceeds from stock option exercises and $7.4 million of proceeds from issuance of common stock under the ESPP, partially offset by $4.4 million in debt principal payments. Net cash provided by financing activities for fiscal 2022 increased $6.5 million compared to last fiscal year due to increased proceeds from stock option exercises in the current fiscal year. Obligations and Other Commitments Our material cash requirements from known contractual and other obligations consist of obligations under our operating leases for office space, the 2029 Notes, our Debt Agreement, and a contractual commitment to one of our vendors for cloud computing services. For more information, please refer to Note 12. Leases, Note 18. Subsequent Events, Note 9. Debt and Note 13. Commitments and Contingencies, respectively, of the Notes to our Consolidated Financial Statements included in this Annual Report on Form 10-K. As of January 31, 2022, our contractual commitments totaled $129.3 million, with $26.4 million committed within the next twelve months. In the ordinary course of business, we enter into agreements of varying scope and terms pursuant to which we agree to indemnify customers, vendors, lessors, business partners, and other parties with respect to certain matters, including, but not limited to, losses arising out of the breach of such agreements, services to be provided by us, or from data breaches or intellectual property infringement claims made by third parties. In addition, we have entered into indemnification agreements with our directors and certain officers and employees that will require us, among other things, to indemnify them against certain liabilities that may arise by reason of their status or service as directors, officers, or employees. As of January 31, 2022, no demands had been made upon us to provide 57 indemnification under such agreements and there were no claims that we are aware of that could have a material effect on our consolidated balance sheets, consolidated statements of comprehensive loss, or consolidated statements of cash flows. Critical Accounting Estimates Our consolidated financial statements are prepared in accordance with U.S. GAAP. The preparation of these consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the applicable periods. We evaluate our estimates and assumptions on an ongoing basis. Our estimates are based on historical experience and various other factors that we believe to be reasonable under the circumstances. Our actual results could differ from these estimates. We believe that of our significant accounting policies, which are described in Note 2. Summary of Significant Accounting Policies in of our consolidated financial statements contained herein, the following accounting policy includes estimates and assumptions with a greater degree of judgment and complexity. Revenue Recognition Policy Our revenue recognition policy follows guidance from Topic 606, Revenue from Contracts with Customers , and is described in Note 2. Summary of Significant Accounting Policies to the consolidated financial statements contained herein. We derive our revenue primarily from subscription fees and professional services fees. Determining whether products and services are distinct performance obligations that should be accounted for separately or combined as one unit of accounting may require significant judgment. Our cloud-based software subscriptions are distinct as such services are often sold separately. In addition, our subscription services contracts can include multi-year agreements that include a fixed annual platform fee and a volume block usage fee that may vary based on permitted volume usage each year. To the extent that permitted volume usage each year is the same, we concluded that there is one multi-year stand-ready performance obligation. To the extent that permitted volume usage each year varies, we concluded that each year represents a distinct stand-ready performance obligations and we allocate the transaction price to the performance obligations on a relative standalone-selling price basis and revenue is recognized ratably over each year. In determining whether professional services are distinct, we consider the following factors for each professional services agreemen availability of the services from other vendors, the nature of the professional services, the timing of when the professional services contract was signed in comparison to the cloud-based software, start date and the contractual dependence of the cloud-based software on the customer’s satisfaction with the professional services work. To date, we have concluded that all of the professional services included in contracts with multiple performance obligations are distinct. The determination of standalone selling price (SSP) for each distinct performance obligation requires judgment. We establish SSP for both our subscription services and professional services elements primarily by considering the actual sales prices of the element when sold on a stand-alone basis or when sold together with other elements. Our actual sales prices for subscription services and professional services for stand-alone sales do not typically vary from our prices for each element when sold together with other elements. When we are unable to rely on actual observable SSPs, we determine SSP based on inputs such as actual sales prices when sold together with other promised subscriptions or services and our overarching pricing objectives and strategies. Recent Accounting Pronouncements—Adopted in Fiscal 2022 See “Summary of Significant Accounting Policies and Recent Accounting Pronouncements” in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements of our accompanying consolidated financial statements for more information. 58 Recent Accounting Pronouncements—Not Yet Adopted In October 2021, the FASB issued ASU 2021-08, Business Combinations (Topic 805): Accounting for Contract Assets and Contract Liabilities from Contracts with Customers. The standard requires an acquirer in a business combination to recognize and measure contract assets and contract liabilities acquired in a business combination in accordance with ASC 606, Revenue from Contracts with Customers, as if it had originated the contracts. The standard is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2022. Early adoption is permitted. We do not expect the adoption of this standard to have a significant impact on our consolidated financial statements. In August 2020, the FASB issued ASU 2020-06, Debt - Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging - Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity, which simplifies the accounting for convertible instruments by removing certain separation models required under current U.S. GAAP, including the beneficial conversion feature and cash conversion models. This ASU also simplifies the diluted earnings per share calculation in certain areas. The standard is effective for interim and annual periods beginning after December 15, 2021, and can be applied utilizing either a modified or full retrospective transition method. The Company is currently evaluating the effect the standard will have on its consolidated financial statements. 59 Item 7A. Quantitative and Qualitative Disclosures About Market Risk We are exposed to certain market risks in the ordinary course of our business. Market risk represents the risk of loss that may impact our financial position due to adverse changes in financial market prices and rates. Our market risk exposure is primarily a result of fluctuations in foreign currency exchange rates and interest rates. Foreign Currency Exchange Risk Our sales contracts are denominated predominantly in U.S. Dollars, Euros (EUR), British Pounds (GBP) and Japanese Yen (JPY). A portion of our operating expenses are incurred outside the United States and denominated in foreign currencies and are subject to fluctuations due to changes in foreign currency exchange rates, particularly changes in the EUR, GBP, and Chinese Yuan (CNY). Additionally, fluctuations in foreign currency exchange rates may cause us to recognize transaction gains and losses in our consolidated statement of comprehensive loss. The effect of a hypothetical 10% change in foreign currency exchange rates applicable to our business would not have a material impact on our historical consolidated financial statements for the fiscal years ended January 31, 2022 and 2021. Given the impact of foreign currency exchange rates has not been material to our historical operating results, we have not entered into derivative or hedging transactions, but we may do so in the future if our exposure to foreign currency should become more significant. As our international operations grow, we will continue to reassess our approach to manage our risk relating to fluctuations in currency rates. Interest Rate Risk We had cash and cash equivalents and short-term investments of $215.4 million as of January 31, 2022. Our cash and cash equivalents and short-term investments are held for working capital purposes. We do not make investments for trading or speculative purposes. Additionally, under our Debt Agreement, we pay interest on any outstanding balances based on a variable market rate. A significant change in these market rates may adversely affect our operating results. Our cash equivalents and short-term investments are subject to market risk due to changes in interest rates. Fixed rate securities may have their market value adversely affected due to a rise in interest rates. Due in part to these factors, our future investment income may fall short of our expectations due to changes in interest rates or we may suffer losses in principal if we are forced to sell securities that decline in market value due to changes in interest rates. However, because we classify our short-term investments as “available-for-sale,” no gains or losses are recognized due to changes in interest rates unless such securities are sold prior to maturity or decreases in fair value are determined to be other-than-temporary. As of January 31, 2022, a hypothetical 10% relative change in interest rates would not have had a material impact on the value of our cash equivalents and short-term investments or interest owed on our outstanding debt. Fluctuations in the value of our cash equivalents and short-term investments caused by a change in interest rates (gains or losses on the carrying value) are recorded in other comprehensive income, and are realized only if we sell the underlying securities prior to maturity. In addition, a hypothetical 10% relative change in interest rates would not have had a material impact on our operating results for fiscal 2022. 60 Item 8. Financial Statements and Supplementary Data Index To Consolidated Financial Statements Page Report of Independent Registered Public Accounting Firm (PCAOB ID 185 ) 62 Consolidated Balance Sheets 64 Consolidated Statements of Comprehensive Loss 65 Consolidated Statements of Stockholders’ Equity 66 Consolidated Statements of Cash Flows 67 Notes to Consolidated Financial Statements 68 61 Report of Independent Registered Public Accounting Firm To the Stockholders and Board of Directors Zuora, Inc.: Opinions on the Consolidated Financial Statements and Internal Control Over Financial Reporting We have audited the accompanying consolidated balance sheets of Zuora, Inc. and subsidiaries (the Company) as of January 31, 2022 and 2021, the related consolidated statements of comprehensive loss, stockholders’ equity, and cash flows for each of the years in the three-year period ended January 31, 2022, and the related notes (collectively, the consolidated financial statements). We also have audited the Company’s internal control over financial reporting as of January 31, 2022, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of January 31, 2022 and 2021, and the results of its operations and its cash flows for each of the years in the three-year period ended January 31, 2022, in conformity with U.S. generally accepted accounting principles. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of January 31, 2022 based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. Basis for Opinions The Company’s management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management's Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s consolidated financial statements and an opinion on the Company’s internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the consolidated financial statements included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions. Definition and Limitations of Internal Control Over Financial Reporting A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may 62 become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Critical Audit Matter The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and tha (1) relates to accounts or disclosures that are material to the consolidated financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of a critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates. Evaluation of standalone-selling prices (SSPs) for subscription services and professional services performance obligations As discussed in Note 2 to the consolidated financial statements, the Company recognized subscription revenue and professional services revenue of $288 million and $59 million, respectively, for the fiscal year ended January 31, 2022. The Company allocates the transaction price to each performance obligation on a relative SSP basis. The SSP is the estimated price at which the Company would sell a promised product or service separately to a customer. The Company establishes SSPs for its subscription services and professional services performance obligations primarily by considering the actual sales prices of the promised product or service when sold on a stand-alone basis. When the Company is unable to rely on actual observable SSPs, it estimates the SSP utilizing inputs such as actual sales prices when sold together with other promised goods or services and other factors such as its overarching pricing objectives and strategies. We identified the evaluation of SSPs for subscription services and professional services performance obligations as a critical audit matter. A high degree of subjective auditor judgment was required to evaluate the Company’s inputs and factors used to estimate the SSPs, including sales prices for bundled arrangements, overarching pricing objectives and strategies, list prices, and historical sales pricing of the deliverables. The following are the primary procedures we performed to address this critical audit matter. We evaluated the design and tested the operating effectiveness of certain internal controls over the Company’s revenue process, including controls over the development of SSPs and the relevance and reliability of the underlying data. For a selection of revenue transactions, we compared the historical sales information, including price and product category attributes, used by the Company to determine SSPs to underlying customer contracts. We compared the range of prices used to establish the SSPs to historical sales prices for bundled arrangements. We assessed the Company’s determination that bundled prices were indicative of SSP taking into consideration list prices, historical sales of the deliverables, and pricing objectives and strategies. We interviewed the Company’s internal pricing team to obtain an understanding of the Company’s pricing objectives and strategies. /s/ KPMG LLP We have served as the Company’s auditor since 2011. Santa Clara , CA March 28, 2022 63 ZUORA, INC. CONSOLIDATED BALANCE SHEETS (in thousands, except per share data) January 31, 2022 2021 Assets Current assets: Cash and cash equivalents $ 113,507 $ 94,110 Short-term investments 101,882 92,484 Accounts receivable, net of allowance for credit losses of $ 3,188 and $ 4,522 as of January 31, 2022 and January 31, 2021, respectively 82,263 78,860 Deferred commissions, current portion 15,080 12,712 Prepaid expenses and other current assets 15,603 15,574 Total current assets 328,335 293,740 Property and equipment, net 27,676 33,369 Operating lease right-of-use assets 32,643 47,085 Purchased intangibles, net 3,452 3,928 Deferred commissions, net of current portion 26,727 21,905 Goodwill 17,632 17,632 Other assets 4,787 3,848 Total assets $ 441,252 $ 421,507 Liabilities and stockholders’ equity Current liabiliti Accounts payable $ 6,785 $ 2,249 Accrued expenses and other current liabilities 14,225 14,550 Accrued employee liabilities 32,425 29,470 Debt, current portion 1,660 4,397 Deferred revenue, current portion 152,740 127,701 Operating lease liabilities, current portion 11,462 9,630 Total current liabilities 219,297 187,997 Debt, net of current portion — 1,666 Deferred revenue, net of current portion 771 1,529 Operating lease liabilities, net of current portion 45,633 53,590 Deferred tax liabilities 3,243 1,929 Other long-term liabilities 1,701 2,883 Total liabilities 270,645 249,594 Commitments and contingencies (Note 13) Stockholders’ equity: Class A common stock - $ 0.0001 par value; 500,000 shares authorized, 119,008 and 109,900 shares issued and outstanding as of January 31, 2022 and 2021, respectively. 12 11 Class B common stock - $ 0.0001 par value; 500,000 shares authorized, 9,048 and 11,004 shares issued and outstanding as of January 31, 2022 and 2021, respectively. 1 1 Additional paid-in capital 734,149 635,127 Accumulated other comprehensive (loss) income ( 108 ) 796 Accumulated deficit ( 563,447 ) ( 464,022 ) Total stockholders’ equity 170,607 171,913 Total liabilities and stockholders’ equity $ 441,252 $ 421,507 See notes to consolidated financial statements. 64 ZUORA, INC. CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (in thousands, except per share data) Fiscal Year Ended January 31, 2022 2021 2020 Reve Subscription $ 287,747 $ 242,340 $ 206,555 Professional services 58,991 63,080 69,502 Total revenue 346,738 305,420 276,057 Cost of reve Subscription 68,285 58,808 53,036 Professional services 71,821 71,962 81,145 Total cost of revenue 140,106 130,770 134,181 Gross profit 206,632 174,650 141,876 Operating expens Research and development 83,219 76,795 74,398 Sales and marketing 143,366 116,914 108,264 General and administrative 76,223 54,803 44,879 Total operating expenses 302,808 248,512 227,541 Loss from operations ( 96,176 ) ( 73,862 ) ( 85,665 ) Interest and other (expense) income, net ( 1,822 ) 2,561 2,712 Loss before income taxes ( 97,998 ) ( 71,301 ) ( 82,953 ) Income tax provision 1,427 1,873 441 Net loss ( 99,425 ) ( 73,174 ) ( 83,394 ) Comprehensive l Foreign currency translation adjustment ( 673 ) 696 ( 379 ) Unrealized (loss) gain on available-for-sale securities, net of tax ( 231 ) ( 88 ) 86 Comprehensive loss $ ( 100,329 ) $ ( 72,566 ) $ ( 83,687 ) Net loss per share, basic and diluted $ ( 0.80 ) $ ( 0.62 ) $ ( 0.75 ) Weighted-average shares outstanding used in calculating net loss per share, basic and diluted 124,206 117,598 111,122 See notes to consolidated financial statements. 65 ZUORA, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (in thousands) Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Income (Loss) Deficit Equity Balance, January 31, 2019 77,119 $ 8 32,575 $ 3 $ 488,776 $ 481 $ ( 307,454 ) $ 181,814 Conversion of Class B common stock to Class A common stock 18,398 1 ( 18,398 ) ( 1 ) — — — — Issuance of common stock upon exercise of stock options, net of repurchases ( 25 ) — 2,980 — 12,055 — — 12,055 Lapse of restrictions on common stock related to early exercise of stock options — — — — 412 — — 412 RSU releases 893 — 191 — — — — — Issuance of common stock under the ESPP 749 1 — — 8,980 — — 8,981 Stock-based compensation — — — — 45,046 — — 45,046 Deferred offering costs — — — — 38 — — 38 Other comprehensive loss — — — — — ( 293 ) — ( 293 ) Net loss — — — — — — ( 83,394 ) ( 83,394 ) Balance, January 31, 2020 97,134 $ 10 17,348 $ 2 $ 555,307 $ 188 $ ( 390,848 ) $ 164,659 Conversion of Class B common stock to Class A common stock 9,176 1 ( 9,176 ) ( 1 ) — — — — Issuance of common stock upon exercise of stock options, net of repurchases 8 — 2,714 — 11,784 — — 11,784 Lapse of restrictions on common stock related to early exercise of stock options — — — — 116 — — 116 RSU releases 2,778 — 118 — — — — — Issuance of common stock under the ESPP 730 — — — 7,637 — — 7,637 Charitable donation of stock 74 — — — 1,000 1,000 Stock-based compensation — — — — 59,283 — — 59,283 Other comprehensive income — — — — — 608 — 608 Net loss — — — — — — ( 73,174 ) ( 73,174 ) Balance, January 31, 2021 109,900 $ 11 11,004 $ 1 $ 635,127 $ 796 $ ( 464,022 ) $ 171,913 Conversion of Class B common stock to Class A common stock 4,371 — ( 4,371 ) — — — — — Issuance of common stock upon exercise of stock options, net of repurchases 509 1 2,389 — 18,498 — — 18,499 Lapse of restrictions on common stock related to early exercise of stock options — — — — 26 — — 26 RSU releases 3,462 — 26 — — — — — Issuance of common stock under the ESPP 705 — — — 7,428 — — 7,428 Charitable donation of stock 61 — — — 1,000 — — 1,000 Stock-based compensation — — — — 72,070 — — 72,070 Other comprehensive loss — — — — — ( 904 ) — ( 904 ) Net loss — — — — — — ( 99,425 ) ( 99,425 ) Balance, January 31, 2022 119,008 $ 12 9,048 $ 1 $ 734,149 $ ( 108 ) $ ( 563,447 ) $ 170,607 See notes to consolidated financial statements. 66 ZUORA, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) Fiscal Year Ended January 31, 2022 2021 2020 Cash flows from operating activiti Net loss $ ( 99,425 ) $ ( 73,174 ) $ ( 83,394 ) Adjustments to reconcile net loss to net cash provided by (used in) operating activiti Depreciation, amortization and accretion 16,760 15,308 11,866 Stock-based compensation 72,070 59,283 45,046 Provision for credit losses 2,919 3,686 3,887 Donation of common stock to charitable foundation 1,000 1,000 — Amortization of deferred commissions 16,330 12,401 9,515 Reduction in carrying amount of right-of-use assets 9,717 8,265 8,584 Asset impairment 12,783 — — Other 802 73 1,643 Changes in operating assets and liabiliti Accounts receivable ( 6,322 ) ( 13,671 ) ( 14,504 ) Prepaid expenses and other assets ( 1,179 ) 895 ( 4,180 ) Deferred commissions ( 24,127 ) ( 17,842 ) ( 11,411 ) Accounts payable 4,457 106 417 Accrued expenses and other liabilities 1,424 53 627 Accrued employee liabilities 1,165 7,065 1,590 Deferred revenue 24,281 16,812 25,522 Operating lease liabilities ( 13,969 ) ( 8,974 ) 1,202 Net cash provided by (used in) operating activities 18,686 11,286 ( 3,590 ) Cash flows from investing activiti Purchases of property and equipment ( 8,776 ) ( 13,144 ) ( 21,424 ) Insurance proceeds for damaged property and equipment 344 988 — Purchase of intangible assets ( 1,349 ) — — Purchases of short-term investments ( 109,510 ) ( 97,363 ) ( 184,633 ) Sales of short-term investments — 2,511 3,497 Maturities of short-term investments 99,192 119,880 172,800 Net cash (used in) provided by investing activities ( 20,099 ) 12,872 ( 29,760 ) Cash flows from financing activiti Proceeds from issuance of common stock upon exercise of stock options, net of repurchases of unvested common stock 18,499 11,784 11,960 Proceeds from issuance of common stock under employee stock purchase plan 7,428 7,637 8,980 Principal payments on long-term debt ( 4,444 ) ( 4,440 ) ( 2,960 ) Net cash provided by financing activities 21,483 14,981 17,980 Effect of exchange rates on cash and cash equivalents ( 673 ) 696 ( 379 ) Net increase (decrease) in cash and cash equivalents 19,397 39,835 ( 15,749 ) Cash and cash equivalents, beginning of year 94,110 54,275 70,024 Cash and cash equivalents, end of year $ 113,507 $ 94,110 $ 54,275 Supplemental disclosure of cash flow informati Cash paid for interest $ 94 $ 262 $ 595 Cash paid for tax $ 1,395 $ 1,159 $ 836 Supplemental disclosure of non-cash investing and financing activiti Lapse in restrictions on early exercised common stock options $ 26 $ 116 $ 412 Property and equipment purchases accrued or in accounts payable $ 164 $ 70 $ 3,611 Purchase of intangible assets included in accrued expenses and other current liabilities $ 225 $ — $ — See notes to consolidated financial statements. 67 ZUORA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Note 1. Overview and Basis of Presentation Description of Business Zuora, Inc. was incorporated in the state of Delaware in 2006 and began operations in 2007. Zuora ’ s fiscal year ends on January 31. Zuora is headquartered in Redwood City, California. Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the entire quote-to-revenue process, including quoting, billing, collections and revenue recognition. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. References to "Zuora”, "us”, “our”, or “we” in these notes refer to Zuora, Inc. and its subsidiaries on a consolidated basis. Basis of Presentation and Principles of Consolidation The accompanying consolidated financial statements, which include the accounts of Zuora and its wholly owned subsidiaries, have been prepared in conformity with accounting principles generally accepted in the United States of America (GAAP). All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates The preparation of consolidated financial statements in conformity with GAAP requires management to make certain estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the consolidated financial statements, as well as reported amounts of revenue and expenses during the reporting period. Actual results could differ materially from those estimates. Our most significant estimates and assumptions are related to revenue recognition with respect to the determination of the relative standalone selling prices for our services; the expected period of benefit over which deferred commissions are amortized; valuation of stock-based awards; estimates of allowance for credit losses; estimates of the fair value of goodwill and long-lived assets when evaluating for impairments; useful lives of intangibles and other long-lived assets; and the valuation of deferred income tax assets and contingencies. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Accordingly, actual results may differ materially from these estimates under different assumptions or conditions. Foreign Currency The functional currencies of our foreign subsidiaries are the respective local currencies. Translation adjustments arising from the use of differing exchange rates from period to period are included in accumulated other comprehensive (loss) income within our consolidated balance sheets. Foreign currency transaction gains and losses are included in interest and other (expense) income, net in the consolidated statements of comprehensive loss and were not material for fiscal 2022, 2021 and 2020. All assets and liabilities denominated in a foreign currency are translated into U.S. dollars at the exchange rate on the balance sheet date. Revenue and expenses are translated at the average exchange rate during the period, and equity balances are translated using historical exchange rates. Segment Information We operate as one operating segment. Our chief operating decision maker is our Chief Executive Officer, who primarily reviews financial information presented on a consolidated basis for purposes of making operating decisions, assessing financial performance, and allocating resources. 68 Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements Revenue Recognition Policy We generate revenue primarily from two sourc (1) subscription services, which is comprised of revenue from subscription fees from customers accessing our cloud-based software; and (2) professional services and other revenue. For the fiscal year ended January 31, 2022, subscription revenue was $ 287.7 million and professional services and other revenue was $ 59.0 million. Revenue is recognized upon satisfaction of performance obligations in an amount that reflects the consideration we expect to receive in exchange for those products or services. We determine the amount of revenue to be recognized through application of the following steps: ◦ Identification of the contract, or contracts with a customer; ◦ Identification of the performance obligations in the contract; ◦ Determination of the transaction price; ◦ Allocation of the transaction price to the performance obligations in the contract; and ◦ Recognition of revenue when or as we satisfy the performance obligations. Our subscription service arrangements are typically non-cancelable for a pre-specified subscription term and do not typically contain refund-type provisions. Subscription Services Subscription services revenue is primarily comprised of fees that provide customers with access to our cloud-based software during the term of the arrangement. Cloud-based services typically allow our customers to use our multi-tenant software without taking possession of the software. Revenue is generally recognized ratably over the contract term beginning on the commencement date of each contract, which is the date our cloud-based software is made available to customers. We generally invoice for subscription services annually or quarterly in advance of services being performed. On-Premise Arrangements We inherited some legacy on-premise license arrangements when we acquired a business in fiscal 2018. These licenses are primarily term-based and bundled with related maintenance (PCS). Revenue for the software license is generally recognized at the beginning of the contract term and the PCS is recognized ratably over the contract term. Subscription and on-premise license agreements generally have terms ranging from one to three years and are invoiced to customers annually or quarterly in advance upon execution of the contract or subsequent renewals. Amounts that have been invoiced are recorded in accounts receivable and in either deferred revenue or revenue in our consolidated financial statements, depending on whether the underlying performance obligation has been satisfied. Professional Services and Other Revenue Professional services revenue consists of fees for services related to helping our customers deploy, configure, and optimize the use of our solutions. These services include system integration, data migration, process enhancement, and training. Professional services projects generally take three to twelve months to complete. Once the contract is signed, we generally invoice for professional services on a time and materials basis, although we occasionally engage in fixed-price service engagements and invoice for those based upon agreed milestone payments. We recognize revenue as services are performed for time and materials engagements and on a proportional performance method as the services are performed for fixed fee engagements. Training revenue is recognized as the services are performed. Contracts with Multiple Performance Obligations We enter into contracts with our customers that often include cloud-based software subscriptions and professional services performance obligations. A performance obligation is a commitment in a contract with a customer to transfer products or services that are distinct. Determining whether products and services are distinct performance obligations that should be accounted for separately or combined as one unit of accounting may require judgment. 69 Our cloud-based software subscriptions are distinct as such services are often sold separately. In addition, our subscription services contracts can include multi-year agreements that include a fixed annual platform fee and a volume block usage fee that may vary based on permitted volume usage each year. To the extent that permitted volume usage each year is the same, we have concluded that there is one multi-year stand-ready performance obligation. To the extent that permitted volume usage each year varies, we have concluded that each year represents a distinct stand-ready performance obligations and we allocate the transaction price to the performance obligations on a relative standalone-selling price basis and revenue is recognized ratably over each year. We consider the following factors for each professional services agreemen availability of the services from other vendors, the nature of the professional services, the timing of when the professional services contract was signed in comparison to the cloud-based software, start date and the contractual dependence of the cloud-based software on the customer’s satisfaction with the professional services work. To date, we have concluded that all of the professional services included in contracts with multiple performance obligations are distinct. We allocate the transaction price to each performance obligation on a relative standalone selling price (SSP) basis. The SSP is the estimated price at which we would sell a promised product or service separately to a customer. Judgment is required to determine the SSP for each distinct performance obligation. We establish SSP for both our subscription services and professional services elements primarily by considering the actual sales prices of the element when sold on a stand-alone basis or when sold together with other elements. If we are unable to rely on actual observable sales inputs, we determine SSP based on inputs such as actual sales prices when sold together with other promised subscriptions or services and other factors such as our overarching pricing objectives and strategies. Deferred Commissions We capitalize sales commission expenses and associated payroll taxes paid to internal sales personnel that are incremental to obtaining customer contracts. These costs are deferred and then amortized over the expected period of benefit, which is estimated to be five years for new customers. Commissions for existing customer renewals are deferred and amortized over twelve months. We have determined the period of benefit taking into consideration several factors including the expected subscription term and expected renewals of our customer contracts, the duration of our relationships with our customers, and the life of our technology. Amortization expense is included in Sales and marketing in the accompanying consolidated statements of comprehensive loss. Contract Assets Subscription services revenue is generally recognized ratably over the contract term beginning on the commencement date of each contract. Contract assets are included in Prepaid expenses and other current assets and Other assets in our consolidated balance sheets. The total value of our contract assets was $ 1.3 million and $ 1.4 million as of January 31, 2022 and 2021, respectively. For further detail regarding our remaining performance obligations, please refer to Note 10. Deferred Revenue and Performance Obligations. Cost of Revenue Cost of subscription revenue primarily consists of costs relating to the hosting of our cloud-based software platform, including salaries and benefits of technical operations and support personnel, data communications costs, allocated overhead and property and equipment depreciation, amortization of internal-use software and purchased intangibles and the reduction in the carrying amount of ROU assets. Cost of professional services revenue primarily consists of the costs of delivering implementation services to customers of our cloud-based software platform, including salaries and benefits of professional services personnel and fees for third-party resources used in the delivery of implementation services. Advertising Expense Advertising costs are expensed as incurred. For the periods presented, advertising expense was not material. Concentrations of Credit Risk and Significant Clients and Suppliers Our financial instruments that are exposed to concentrations of credit risk consist primarily of cash and cash equivalents, short-term investments and accounts receivable. We deposit our cash and short-term investments primarily with one financial institution and, accordingly, such deposits regularly exceed federally insured limits. 70 No single customer accounted for more than 10% of Zuora’s revenue or accounts receivable balance in any of the periods presented. Cash and Cash Equivalents We consider all highly liquid investments with original or remaining maturities of three months or less on the purchase date to be cash equivalents. Cash and cash equivalents carrying value approximate fair value and consist primarily of bank deposits and money market funds. Short-term Investments We typically invest in high quality, investment grade securities from diverse issuers. We classify our short-term investments as available-for-sale. In general, these investments are free of trading restrictions. We carry these investments at fair value, based on quoted market prices or other readily available market information. Unrealized gains and losses, net of taxes, are included in accumulated other comprehensive (loss) income, which is reflected as a separate component of stockholders’ equity in our consolidated balance sheets. Gains and losses are recognized when realized in our consolidated statements of comprehensive loss. When we have determined that an other-than-temporary decline in fair value has occurred, the amount of the decline that is related to a credit loss is recognized in income. Gains and losses are determined using the specific identification method. We review our debt securities classified as short-term investments on a regular basis to evaluate whether or not any security has experienced an other-than-temporary decline in fair value. We consider factors such as the length of time and extent to which the market value has been less than the cost, the financial condition and near-term prospects of the issuer and our intent to sell, or whether it is more likely than not it will be required to sell the investment before recovery of the investment’s amortized cost basis. If we believe that an other-than-temporary decline exists in one of these securities, we will write down these investments to fair value. The portion of the write-down related to credit loss would be recorded to interest and other (expense) income, net in our consolidated statements of comprehensive loss. Any portion not related to credit loss would be recorded to accumulated other comprehensive (loss) income, which is reflected as a separate component of stockholders' equity in our consolidated balance sheets. We may sell our short-term investments at any time, without significant penalty, for use in current operations or for other purposes, even if they have not yet reached maturity. As a result, we have classified our investments, including any securities with maturities beyond 12 months, as current assets in the accompanying consolidated balance sheets. Accounts Receivable Our accounts receivable consists of client obligations due under normal trade terms, and are reported at the principal amount outstanding, net of the allowance for credit losses. We maintain an allowance for credit losses that is based upon historical loss patterns, the number of days that billings are past due, and an evaluation of the potential risk of loss related to certain accounts with high collection risk. The allowance for credit losses consists of the following activity (in thousands): Fiscal Year Ended January 31, 2022 2021 Allowance for credit losses, beginning balance $ 4,522 $ 2,943 Additio Charged to revenue 2,919 3,686 Charged to deferred revenue 1,801 2,666 Deductio Write-offs to revenue ( 3,423 ) ( 2,865 ) Write-offs to deferred revenue ( 2,631 ) ( 1,908 ) Allowance for credit losses, ending balance $ 3,188 $ 4,522 Property and Equipment, Net Property and equipment are stated at cost. Depreciation is calculated on a straight-line basis over the estimated useful lives of the related assets, generally three to five years . Leasehold improvements are depreciated 71 over the shorter of their remaining related lease term or estimated useful life. When assets are retired, the cost and accumulated depreciation are removed from their respective accounts, and any gain or loss on such sale or disposal is reflected in operating expenses in the accompanying consolidated statements of comprehensive loss. Business Combinations When we acquire a business, management allocates the purchase price to the net tangible and identifiable intangible assets acquired. Any residual purchase price is recorded as goodwill. The allocation of the purchase price requires management to make significant estimates in determining the fair values of assets acquired and liabilities assumed, especially with respect to intangible assets. These estimates can include, but are not limited to, the cash flows that an asset is expected to generate in the future, the appropriate weighted average cost of capital, and the cost savings expected to be derived from acquiring an asset. These estimates are inherently uncertain and unpredictable. Goodwill, Acquired Intangible Assets, Internal-Use Software and Web Site Development Costs, and Impairment of Long-Lived Assets Goodwill. Goodwill represents the excess purchase consideration of an acquired business over the fair value of the net tangible and identifiable intangible assets. Goodwill is evaluated for impairment annually on December 1, and whenever events or changes in circumstances indicate the carrying value of goodwill may not be recoverable. Triggering events that may indicate impairment include, but are not limited to, a significant adverse change in customer demand or business climate or a significant decrease in expected cash flows. An impairment loss is recognized to the extent that the carrying amount exceeds the reporting unit’s fair value, not to exceed the carrying amount of goodwill. We have the option to first assess qualitative factors to determine whether events or circumstances indicate that it is more likely than not that the fair value of a reporting unit is less than its carrying amount and determine whether further action is needed. If, after assessing the totality of events or circumstances, we determine it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then performing the quantitative impairment test is unnecessary. No impairment charges were recorded during fiscal 2022, 2021 or 2020. Acquired Intangible Assets . Acquired intangible assets consist of developed technology, customer relationships, and a trade name, resulting from Zuora’s acquisitions. Acquired intangible assets are recorded at fair value on the date of acquisition and amortized over their estimated useful lives on a straight-line basis. Internal-Use Software and Web Site Development Costs . We capitalize costs related to developing our suite of software solutions and our website when it is probable the expenditures will result in significant new functionality. Costs incurred in the preliminary stages of development are expensed as incurred. Once an application has reached the development stage, internal and external costs, if direct and incremental, are capitalized until the software is substantially complete and ready for its intended use. Capitalized costs are recorded as part of property and equipment, net in our consolidated balance sheets. Maintenance and training costs are expensed as incurred. Internal-use software is amortized on a straight-line basis over its estimated useful life, which is generally three years . Impairment of Long-Lived Assets . The carrying amounts of long-lived assets, including property and equipment, capitalized internal-use software, acquired intangible assets, deferred commissions, and ROU assets, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying value of these assets may not be recoverable or that the useful life is shorter than originally estimated. Recoverability of assets to be held and used is measured by comparing the carrying amount of an asset to future undiscounted net cash flows the asset is expected to generate over its remaining life. If the asset is determined to be impaired, the amount of any impairment recognized is measured as the difference between the carrying value and the fair value of the impaired asset. If the useful life is shorter than originally estimated, we amortize the remaining carrying value over the new shorter useful life. During fiscal 2022, we recognized impairment charges totaling $ 12.8 million related to our ceased-use of excess office space under two operating leases. See Note 12. Leases for further details of these charges. There were no material impairments recognized for fiscal 2021 or 2020. Income Taxes We use the asset-and-liability method of accounting for income taxes. Under this method, we recognize deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the financial reporting and tax basis of assets and liabilities, as well as for operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates that are expected to apply to taxable income for the years in which those tax assets and liabilities are expected to be realized or settled. 72 We record a valuation allowance to reduce our deferred tax assets to the net amount that we believe is more likely than not to be realized. In assessing the need for a valuation allowance, we have considered our historical levels of income, expectations of future taxable income and ongoing tax planning strategies. Because of the uncertainty of the realization of the deferred tax assets in the U.S., we have recorded a full valuation allowance against our deferred tax assets. Realization of our deferred tax assets is dependent primarily upon future U.S. taxable income. We recognize and measure tax benefits from uncertain tax positions using a two-step approach. The first step is to evaluate the tax position taken or expected to be taken by determining if the weight of available evidence indicates that it is more likely than not that the tax position will be sustained in an audit, including resolution of any related appeals or litigation processes. The second step is to measure the tax benefit as the largest amount that is more than 50% likely to be realized upon ultimate settlement. Significant judgment is required to evaluate uncertain tax positions. Although we believe that we have adequately reserved for our uncertain tax positions, it can provide no assurance that the final tax outcome of these matters will not be materially different. We evaluate our uncertain tax positions on a regular basis and evaluations are based on a number of factors, including changes in facts and circumstances, changes in tax law, correspondence with tax authorities during the course of an audit and effective settlement of audit issues. To the extent that the final tax outcome of these matters is different than the amounts recorded, such differences will affect the provision for income taxes in the period in which such determination is made and could have a material impact on our financial condition and results of operations. The provision for income taxes includes the effects of any accruals that we believe are appropriate, as well as the related net interest and penalties. Stock-Based Compensation We measure our employee and director stock-based compensation awards, including purchase rights issued under the ESPP, based on the award's estimated fair value on the date of grant. Expense associated with these awards is recognized using the straight-line attribution method over the requisite service period for stock options, RSUs and restricted stock; and over the offering period for the purchase rights issued under the ESPP, and is reported in our consolidated statements of comprehensive loss. We estimate the fair value of our stock options, and purchase rights under the ESPP, using the Black-Scholes option-pricing model. The resulting fair value, net of estimated forfeitures, is recognized on a straight-line basis over the period during which an employee is required to provide service in exchange for the award. Stock options generally vest over four years and have a contractual term of ten years . ESPP purchase rights vest over the two year offering period. We estimate the fair value of our restricted stock and RSU grants based on the grant date fair value of our common stock. The resulting fair value, net of estimated forfeitures, is recognized on a straight-line basis over the period during which an employee is required to provide service in exchange for the award, which is generally four years . Estimated forfeitures are based upon our historical experience and we revise our estimates, if necessary, in subsequent periods if actual forfeitures differ from initial estimates. Determining the grant date fair value of options, restricted stock, and RSUs requires management to make assumptions and judgments. These estimates involve inherent uncertainties and if different assumptions had been used, stock-based compensation expense could have been materially different from the amounts recorded. The assumptions and estimates for valuing stock options are as follows: • Fair value per share of Company’s common stock. Prior to the IPO, because there was no public market for Zuora’s common stock, our Board of Directors, with the assistance of a third-party valuation specialist, determined the common stock fair value at the time of the grant of stock options by considering a number of objective and subjective factors, including our actual operating and financial performance, market conditions and performance of comparable publicly traded companies, developments and milestones in the company, the likelihood of achieving a liquidity event, and transactions involving Zuora’s common stock, among other factors. After the IPO, we used the publicly quoted price of our common stock as reported on the New York Stock Exchange as the fair value of our common stock. • Expected volatility. We determine the expected volatility based on historical average volatilities of similar publicly traded companies corresponding to the expected term of the awards. 73 • Expected term. We determine the expected term of awards which contain only service conditions using the simplified approach, in which the expected term of an award is presumed to be the mid-point between the vesting date and the expiration date of the award, as we do not have sufficient historical data relating to stock-option exercises. • Risk-free interest rate. The risk-free interest rate is based on the U.S. Treasury yield curve in effect during the period the options were granted corresponding to the expected term of the awards. • Estimated dividend yield. The estimated dividend yield is zero , as we do not currently intend to declare dividends in the foreseeable future. Net Loss per Share Basic net loss per share is computed by dividing net loss by the weighted-average number of shares of common stock outstanding during the period. Options subject to early exercise that are exercised prior to vesting are excluded from the computation of weighted-average number of shares of common stock outstanding until such shares have vested. Diluted net loss per share is computed by dividing net loss by the weighted-average number of shares of common stock outstanding during the period increased by giving effect to all potentially dilutive securities to the extent they are dilutive. Leases On February 1, 2019, we adopted FASB ASU No. 2016-02, Leases (Topic 842), on a modified retrospective basis. Financial information related to periods prior to adoption are as originally reported under Topic 840, Leases . We determine if a contract is a lease or contains a lease at the inception of the contract and reassess that conclusion if the contract is modified. All leases are assessed for classification as an operating lease or a finance lease. Operating lease right-of-use (ROU) assets are presented separately in our consolidated balance sheets. Operating lease liabilities are also presented separately as current and non-current liabilities in our consolidated balance sheets. We do not have any finance lease ROU assets or liabilities. ROU assets represent our right to use an underlying asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. We do not obtain and control our right to use the identified asset until the lease commencement date. Our lease liabilities are recognized at the applicable lease commencement date based on the present value of the lease payments required to be paid over the lease term. When the rate implicit in the lease is not readily determinable, we use the incremental borrowing rate to discount the lease payments to present value. The estimated incremental borrowing rate is derived from information available at the lease commencement date and factors in a hypothetical interest rate on a collateralized basis with similar terms, payments and economic environments. Our ROU assets are also recognized at the applicable lease commencement date. The ROU asset equals the carrying amount of the related lease liability, adjusted for any lease payments made prior to lease commencement, minus any lease incentives received, and any direct costs incurred by the lessee. Any variable lease payments are expensed as incurred and do not factor into the measurement of the applicable ROU asset or lease liability. The term of our leases equals the non-cancellable period of the lease, including any rent-free periods provided by the lessor, and also includes options to renew or extend the lease (including by not terminating the lease) that we are reasonably certain to exercise. We establish the term of each lease at lease commencement and reassess that term in subsequent periods when one of the triggering events outlined in Topic 842 occurs. Operating lease cost for lease payments is recognized on a straight-line basis over the lease term. Our lease contracts often include lease and non-lease components. We have elected the practical expedient offered by the standard to not separate lease from non-lease components for our facilities leases and account for them as a single lease component. We have elected not to recognize ROU assets and lease liabilities for leases with a term of twelve months or less. Lease cost for these short-term leases is recognized on a straight-line basis over the lease term. Recent Accounting Pronouncements—Adopted in Fiscal 2022 In December 2019, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2019-12, which simplifies the accounting for income taxes by removing certain exceptions to the general principles in the existing guidance for income taxes and making other minor improvements. We adopted this ASU on February 1, 2021, and the adoption did not have a material impact on our consolidated financial statements. 74 Note 3. Investments The amortized costs, unrealized gains and losses and estimated fair values of our short-term investments were as follows (in thousands): January 31, 2022 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 18,082 $ — $ ( 155 ) $ 17,927 Corporate bonds 21,225 — ( 49 ) 21,176 Commercial paper 55,234 — — 55,234 Supranational bonds 3,503 — — 3,503 Foreign government securities 4,064 — ( 22 ) 4,042 Total short-term investments $ 102,108 $ — $ ( 226 ) $ 101,882 January 31, 2021 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 18,007 $ 28 $ — $ 18,035 Corporate bonds 25,888 8 ( 3 ) 25,893 Commercial paper 48,556 — — 48,556 Total short-term investments $ 92,451 $ 36 $ ( 3 ) $ 92,484 There were no material realized gains or losses from sales of marketable securities that were reclassified out of accumulated other comprehensive (loss) income into investment income during fiscal 2022 and 2021. We had no significant unrealized losses on our available-for-sale securities as of January 31, 2022 and January 31, 2021, and we do not expect material credit losses on our current investments in future periods. All securities had stated effective maturities of less than two years as of January 31, 2022. Note 4. Fair Value Measurements The accounting guidance for fair value measurements establishes a three-tier hierarchy, which prioritizes the inputs used in the valuation methodologies in measuring fair value as follows: Level input Input definition Level 1 Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets Level 2 Inputs other than quoted prices included within Level 1 that are observable for the asset or liability through corroboration with market data at the measurement date Level 3 Unobservable inputs that reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date In general, and where applicable, we use quoted prices in active markets for identical assets or liabilities to determine fair value. If quoted prices in active markets for identical assets or liabilities are not available to determine fair value, then we use quoted prices for similar assets and liabilities or inputs other than the quoted prices that are observable either directly or indirectly. The following tables summarize our fair value hierarchy for our financial assets measured at fair value on a recurring basis (in thousands): 75 January 31, 2022 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 92,668 $ — $ — $ 92,668 Short-term investments: U.S. government securities $ — $ 17,927 $ — $ 17,927 Corporate bonds — 21,176 — 21,176 Commercial paper — 55,234 — 55,234 Supranational bonds — 3,503 — 3,503 Foreign government securities — 4,042 — 4,042 Total short-term investments $ — $ 101,882 $ — $ 101,882 January 31, 2021 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 85,664 $ — $ — $ 85,664 Short-term investments: U.S. government securities $ — $ 18,035 $ — $ 18,035 Corporate bonds — 25,893 — 25,893 Commercial paper — 48,556 — 48,556 Total short-term investments $ — $ 92,484 $ — $ 92,484 The carrying amounts of certain financial instruments, including cash held in bank accounts, accounts receivable, accounts payable, and accrued expenses approximate fair value due to their relatively short maturities. The carrying amount of debt approximates fair value due to its floating interest rate. Our long- and indefinite-lived assets are measured at fair value on a non-recurring basis and are reduced if the assets are determined to be impaired. We recognized a $ 12.8 million impairment charge related to ROU assets, leasehold improvements, and furniture and fixtures associated with certain of our operating leases that we ceased use of during the fiscal year ended January 31, 2022. We estimated the fair value of these assets as of the cease use date using a market approach based on expected future cash flows from sublease income, which relied on certain assumptions made by management based on both internal and external data. These assumptions included estimates of the rental rate, discount rate, period of vacancy, incentives and annual rent increases, which were determined based on recent market comparable data and other data regarding general market conditions we reviewed in consultation with third-party commercial real estate experts. See Note 12. Leases for further details on the impairment charges we recorded. As a result of the subjective nature of unobservable inputs used, these assets are classified within Level 3 of the fair value hierarchy. 76 Note 5. Prepaid Expenses and Other Current Assets Prepaid expenses and other current assets consisted of the following (in thousands): January 31, 2022 2021 Prepaid software subscriptions $ 6,854 $ 5,087 Prepaid insurance 3,220 2,317 Contract assets 1,289 1,381 Taxes 1,270 477 Prepaid hosting costs 767 1,847 Insurance recovery receivable — 344 Other 2,203 4,121 Total $ 15,603 $ 15,574 Note 6. Property and Equipment, Net Property and equipment, net consisted of the following (in thousands): January 31, 2022 2021 Software $ 25,495 $ 19,711 Leasehold improvements 1 17,277 18,978 Computer equipment 14,746 12,824 Furniture and fixtures 1 4,424 5,228 Servers — 14,179 Vehicles — 105 61,942 71,025 L accumulated depreciation and amortization ( 34,266 ) ( 37,656 ) Total $ 27,676 $ 33,369 _________________________________ (1) The cost basis of leasehold improvements and furniture and fixtures was reduced to reflect impairments of $ 2.2 million and $ 0.8 million, respectively, recorded during the fiscal year ended January 31, 2022. For more information, refer to Note 12. Leases . 77 The following table summarizes the capitalized internal-use software costs included within the Software line item in the table above (in thousands): Fiscal Year Ended January 31, 2022 2021 2020 Internal-use software costs capitalized during the period $ 5,785 $ 4,235 $ 4,552 January 31, 2022 January 31, 2021 Total capitalized internal-use software, net of accumulated amortization $ 11,534 $ 8,704 The following table summarizes total depreciation and amortization expense related to property and equipment, including amortization of internal-use software, included in General and administrative and Cost of subscription revenue in the accompanying consolidated statements of comprehensive loss (in thousands): Fiscal Year Ended January 31, 2022 2021 2020 Total depreciation and amortization expense $ 11,430 $ 10,571 $ 9,528 Note 7. Intangible Assets and Goodwill Intangible Assets The following table summarizes the purchased intangible asset balances (in thousands): Gross Carrying Amount Accumulated Amortization Net Carrying Amount Balance, January 31, 2021 $ 12,893 $ ( 8,965 ) $ 3,928 Purchases of intangible assets 1,574 — 1,574 Amortization expense — ( 2,050 ) ( 2,050 ) Balance, January 31, 2022 $ 14,467 $ ( 11,015 ) $ 3,452 In May 2021, we purchased intellectual property assets primarily consisting of software from ModernAIze, Inc. (dba Live Objects) for cash consideration of $ 1.6 million, of which $ 0.2 million was retained by Zuora for 12 months to secure ModernAIze's indemnification obligations. The consideration includes purchase costs of $ 0.1 million related to this transaction. These assets are being amortized over an estimated useful life of three years . The following table summarizes amortization expense related to purchased intangible assets included in Cost of subscription revenue in the accompanying consolidated statements of comprehensive loss (in thousands): Fiscal year ended January 31, 2022 2021 2020 Purchased intangible assets amortization expense $ 2,050 $ 1,692 $ 1,776 The expected future amortization expense for intangible assets as of January 31, 2022 is as follows (in thousands): Fiscal 2023 $ 1,489 Fiscal 2024 1,125 Fiscal 2025 681 Fiscal 2026 157 $ 3,452 Goodwill 78 There were no changes in the carrying amount of goodwill for the fiscal years ended January 31, 2022 and 2021. Zuora has one reporting unit. We performed an annual test for goodwill impairment as of December 1, 2021 and determined that goodwill was not impaired as a result of our qualitative assessment. In addition, there have been no significant events or circumstances affecting the valuation of goodwill subsequent to our annual assessment. Note 8. Accrued Expenses and Other Current Liabilities Accrued expenses and other current liabilities consisted of the following (in thousands): January 31, 2022 2021 Accrued hosting and third-party licenses $ 3,865 $ 3,073 Accrued outside services and consulting 3,712 2,380 Accrued taxes 2,422 4,377 Other accrued expenses 4,226 4,720 Total $ 14,225 $ 14,550 Note 9. Debt In June 2017, we entered into a loan and security agreement with Silicon Valley Bank that includes both a revolving and term loan facility. In October 2018, the agreement was amended (First Amendment) to, among other things, increase the availability under the revolving loan to $ 30.0 million (from $ 10 million), lower the borrowing costs under both the revolving and term loans to the prime rate published by the Wall Street Journal (WSJ Prime Rate) minus 1.00 %, extend the interest-only repayment period under the term loan until June 2019, after which time principal and interest would become due in thirty-six ( 36 ) equal monthly installments, extend the revolving loan maturity date until October 2021, and extend the latest term loan maturity date until June 2022. In January 2021, the agreement was amended (Second Amendment) to, among other things, extend the maturity of the revolving line of credit by twelve ( 12 ) months to October 2022, and remove SVB's first priority security interest in our intellectual property while retaining specified restrictions on our ability to make certain transfers and encumbrances on our intellectual property. The Amendment contains customary representations and warranties. Together, the loan and security agreement, the First Amendment and Second Amendment constitute the Debt Agreement. We accounted for the First Amendment and Second Amendment as debt modifications and we are recognizing the related fees ratably through October 2022. Revolving Loan. The Debt Agreement allows us to borrow up to $ 30.0 million until October 2022 in revolving loans. Advances drawn down under the revolving loan incur interest at the WSJ Prime Rate minus 1.00 % which is due monthly on any amounts drawn down, with the principal due at maturity. Any outstanding amounts must be fully repaid by October 2022. As of January 31, 2022, we had no t drawn down any amounts under this revolving loan. Term Loan. Under the Debt Agreement, we borrowed $ 15.0 million in term loans in June 2017 to partially finance the acquisition of Leeyo. Any outstanding amounts under the term loan accrue interest at the WSJ Prime rate minus 1.00 %. The interest rate was 2.25 % as of January 31, 2022. Payments were interest only through June 2019, after which date equal monthly payments of principal and interest over the following 36 months are due until the term loan is repaid. We may prepay all outstanding principal and accrued interest at any time without penalty. We will incur a fee of 1.5 % of the original principal amount of the term loan, or $ 225,000 , upon the earlier to occur of prepayment or the termination of the facility. As of January 31, 2022 and 2021, we had $ 1.5 million and $ 6.0 million outstanding under the term loan, respectively. Both the revolving loan and the term loan are subject to a certain financial covenant to maintain an adjusted quick ratio of no less than 1.10 :1.00. As of January 31, 2022, we were in compliance with this financial covenant. The Debt Agreement also imposes certain limitations with respect to lines of business, mergers, investments and acquisitions, additional indebtedness, distributions, guarantees, liens, and encumbrances, and requires an adjusted quick ratio of 1.25 :1.00 in connection with certain corporate events such as permitted stock repurchases and acquisitions. We incurred transaction costs and fees payable to the lender related to the issuance of the term loan. The amount, net of amortization, is immaterial and is presented as a reduction to the carrying amount of the term loan and is presented under debt in our consolidated balance sheets. 79 Our indebtedness under the Debt Agreement is secured by a lien on substantially all of Zuora's assets. Note 10. Deferred Revenue and Performance Obligations The following table summarizes revenue recognized during the period that was included in the deferred revenue balance at the beginning of each respective period (in thousands): Fiscal Year Ended January 31, 2022 2021 2020 Revenue recognized from deferred revenue $ 126,245 $ 107,091 $ 79,057 As of January 31, 2022, total remaining non-cancellable performance obligations under our subscription contracts with customers was approximately $ 413.2 million and we expect to recognize revenue on approximately 59 % of these remaining performance obligations over the next 12 months. Remaining performance obligations under our professional services contracts as of January 31, 2022 were not material. Note 11. Geographical Information Disaggregation of Revenue Revenue by country, based on the customer’s address at the time of sale, was as follows (in thousands): Fiscal Year Ended January 31, 2022 2021 2020 United States $ 218,502 $ 200,273 $ 190,208 Others 128,236 105,147 85,849 Total $ 346,738 $ 305,420 $ 276,057 Percentage of revenue by country: United States 63 % 66 % 69 % Other 37 % 34 % 31 % Other than the United States, no individual country exceeded 10% of total revenue for fiscal 2022, 2021 and 2020. Long-lived assets Long-lived assets, which consist of property and equipment, net, deferred commissions, purchased intangible assets, net and operating lease right-of-use assets by geographic location, are based on the location of the legal entity that owns the asset. As of January 31, 2022 and 2021, no individual country exceeded 10% of total long-lived assets other than the United States. Note 12. Leases We have non-cancelable operating leases for our offices located in the U.S. and abroad. As of January 31, 2022, these leases expire on various dates between 2022 and 2030. Certain lease agreements include one or more options to renew, with renewal terms that can extend the lease up to seven years . We have the right to exercise or forego the lease renewal options. The lease agreements do not contain any material residual value guarantees or material restrictive covenants. 80 The components of our long-term operating leases and related operating lease cost were as follows (in thousands): January 31, 2022 2021 Operating lease right-of-use assets $ 32,643 $ 47,085 Operating lease liabilities, current portion 11,462 9,630 Operating lease liabilities, net of current portion 45,633 53,590 Total operating lease liabilities $ 57,095 $ 63,220 Fiscal Year Ended January 31, 2022 2021 2020 Operating lease cost 1 $ 12,681 $ 11,933 $ 11,737 _________________________________ (1) Includes costs related to our short-term operating leases as follows (in thousands): Fiscal Year Ended January 31, 2022 2021 2020 Short-term operating lease cost $ 402 $ 193 $ 706 81 The future maturities of long-term operating lease liabilities for each fiscal year were as follows (in thousands): Maturities of Operating Lease Liabilities 2023 $ 13,836 2024 11,098 2025 6,386 2026 6,242 2027 6,429 Thereafter 23,468 Total lease payments 67,459 Less imputed interest ( 10,364 ) Present value of lease liabilities $ 57,095 Other supplemental information related to our long-term operating leases includes the following (dollars in thousands): January 31, 2022 2021 Weighted-average remaining operating lease term 7.0 years 7.8 years Weighted-average operating lease discount rate 4.6 % 4.7 % Fiscal Year Ended January 31, 2022 2021 2020 Supplemental Cash Flow Information Cash paid (received) for amounts included in the measurement of lease liabiliti Cash paid for operating leases $ 13,701 $ 9,693 $ 9,544 Cash received on operating lease incentives — — ( 10,033 ) Operating cash flows resulting from operating leases $ 13,701 $ 9,693 $ ( 489 ) New right-of-use assets obtained in exchange for lease liabiliti Operating leases obtained $ 5,040 $ 1,064 $ 63,106 During the fiscal year ended January 31, 2022, we ceased use of office space associated with two operating leases, with the intent to sublease both spaces. In accordance with ASC Topic 360, we evaluated the associated asset groups for impairment, which included the ROU assets, leasehold improvements, and furniture and fixtures for each office space, as the change in circumstances indicated that the carrying amount of the asset groups may not be recoverable. We compared the expected future undiscounted cash flows for each office space to the carrying amount of each respective asset group and determined that they were impaired. We recognized the excess of the carrying value over the fair value of the asset groups, which totaled $ 12.8 million, as an impairment expense in the accompanying consolidated statements of comprehensive loss under General and administrative. The impairment charge was allocated to the assets in the asset groups resulting in reductions of $ 9.8 million, $ 2.2 million and $ 0.8 million in the ROU assets, leasehold improvements and furniture and fixtures, respectively. Note 13. Commitments and Contingencies Letters of Credit In connection with the execution of certain facility leases, we had bank issued irrevocable letters of credit for $ 4.5 million, $ 4.7 million and $ 4.7 million as of January 31, 2022, 2021 and 2020, respectively. No draws have been made under such letters of credit. 82 Legal Proceedings From time to time, we may be subject to legal proceedings, as well as demands, claims and threatened litigation. The outcomes of legal proceedings and other contingencies are inherently unpredictable, subject to significant uncertainties, and could be material to our operating results and cash flows for a particular period. Regardless of the outcome, litigation can have an adverse impact on our business because of defense and settlement costs, diversion of management resources, and other factors. Other than the matters described below, we are not currently party to any legal proceeding that we believe could have a material adverse effect on our business, operating results, cash flows, or financial condition should such litigation or claim be resolved unfavorably. Securities Class Actions In June 2019, a putative securities class action lawsuit was filed in the U.S. District Court for the Northern District of California naming Zuora and certain of its officers as defendants. The complaint purports to bring suit on behalf of stockholders who purchased or otherwise acquired Zuora's securities between April 12, 2018 and May 30, 2019. The complaint alleges that defendants made false and misleading statements about Zuora's business, operations and prospects in violation of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended (Exchange Act), and seeks unspecified compensatory damages, fees and costs. In November 2019, the lead plaintiff filed a consolidated amended complaint asserting the same claims. In April 2020, the court denied defendants’ motion to dismiss. On March 15, 2021, the court granted plaintiff’s motion to certify a class consisting of persons and entities who purchased or acquired Zuora common stock between April 12, 2018 and May 30, 2019 and who were allegedly damaged thereby. Discovery in this case is ongoing. In April and May 2020, two putative securities class action lawsuits were filed in the Superior Court of the State of California, County of San Mateo, naming as defendants Zuora and certain of its current and former officers, its directors and the underwriters of Zuora's initial public offering(IPO). The complaints purport to bring suit on behalf of stockholders who purchased or otherwise acquired Zuora's securities pursuant or traceable to the Registration Statement and Prospectus issued in connection with Zuora's IPO and allege claims under Sections 11, 12(a)(2) and 15 of the Securities Act of 1933. The suits seek unspecified damages and other relief. In July 2020, the court entered an order consolidating the two lawsuits, and the lead plaintiffs filed a consolidated amended complaint asserting the same claims. In October 2020, the court denied defendants’ demurrer as to the Section 11 and Section 15 claims and granted the demurrer as to the Section 12(a)(2) claim with leave to file an amended complaint. In November 2020, the lead plaintiffs filed an amended consolidated complaint. Defendants' demurrer to the Section 12(a)(2) claim was sustained with leave to amend. On October 14, 2021, the court certified a class for the Section 11 and Section 15 claims, consisting of persons and entities who purchased or acquired Zuora common stock pursuant or traceable to the Registration Statement and Prospectus issued in connection with Zuora’s IPO. The lead plaintiffs voluntarily dismissed the Section 12(a)(2) claim without prejudice. Discovery in this case is ongoing. Given the procedural posture and the nature of such litigation matters, we are unable to estimate the reasonably possible loss or range of loss, if any, that may result from these matters. We dispute the claims described above and intend to vigorously defend against them. Derivative Litigation In September 2019, two stockholder derivative lawsuits were filed in the U.S. District Court for the Northern District of California against certain of Zuora's directors and executive officers and naming Zuora as a nominal defendant. The derivative actions allege claims based on events similar to those in the securities class actions and assert causes of action against the individual defendants for breach of fiduciary duty, unjust enrichment, waste of corporate assets, and for making false and misleading statements about Zuora's business, operations, and prospects in violation of Section 14(a) of the Exchange Act. Plaintiffs seek corporate reforms, unspecified damages and restitution, and fees and costs. In November 2019, the stockholder derivative lawsuits, which are related to the federal securities class action, were assigned to the same judge who is overseeing the federal securities class action lawsuit. In February 2020, the court entered an order consolidating the two derivative lawsuits. In August 2020, the court entered an order staying the consolidated action until the completion of fact discovery in the federal securities class action. In March 2022, plaintiffs filed a consolidated shareholder derivative complaint. Pursuant to the August 2020 order, the case remains stayed. In May and June 2020, two stockholder derivative lawsuits were filed in the U.S. District Court for the District of Delaware against certain of Zuora's directors and current and former executive officers. The derivative actions allege claims based on events similar to those in the securities class actions and the derivative actions pending in the Northern District of California and assert causes of action against the individual defendants for breach of fiduciary duty, unjust enrichment, waste of corporate assets, contribution, and for making false and misleading 83 statements about Zuora's business, operations, and prospects in violation of Section 14(a) of the Exchange Act. Plaintiff seeks corporate reforms, unspecified damages and restitution, and fees and costs. In June 2020, the court entered an order consolidating the two District of Delaware derivative lawsuits. In August 2020, the court entered an order staying the consolidated action until the completion of fact discovery in the federal securities class action. In February and March 2021, two additional stockholder derivative lawsuits were filed in Delaware Chancery Court alleging similar claims based on the same underlying events. The two Chancery Court cases have been consolidated, an amended consolidated complaint has been filed, and the cases have been stayed until the completion of fact discovery in the federal securities class action described above. Given the procedural posture and the nature of such litigation matters, we are unable to estimate the reasonably possible loss or range of loss, if any, that may result from these matters. Other Contractual Obligations As of January 31, 2022, we had a contractual obligation to make $ 59.9 million in purchases of cloud computing services provided by one of our vendors by September 30, 2024. 84 Note 14. Income Taxes Net loss before provision for income taxes consisted of the following (in thousands): Fiscal Year Ended January 31, 2022 2021 2020 Domestic $ ( 101,626 ) $ ( 77,140 ) $ ( 84,988 ) Foreign 3,628 5,839 2,035 Loss before income taxes $ ( 97,998 ) $ ( 71,301 ) $ ( 82,953 ) The components of our income tax provision are as follows (in thousands): Fiscal Year Ended January 31, 2022 2021 2020 Curren Federal $ — $ — $ — State 163 46 72 International 799 1,480 481 $ 962 $ 1,526 $ 553 Deferr Federal $ — $ — $ ( 29 ) State — — — International 465 347 ( 83 ) Income tax provision $ 1,427 $ 1,873 $ 441 A reconciliation of the U.S. federal statutory tax rate to our provision for income tax is as follows (dollars in thousands): Fiscal Year Ended January 31, 2022 2021 2020 Amount Amount Amount Federal income tax benefit at statutory rates $ ( 20,580 ) $ ( 14,973 ) $ ( 17,420 ) State income taxes, net of effect of federal ( 3,466 ) ( 2,072 ) ( 3,859 ) Permanent differences 772 718 1,174 Federal and state R&D credits ( 11,263 ) ( 1,325 ) ( 1,235 ) Impact from international operations 502 600 ( 31 ) Stock-based compensation ( 3,427 ) 1,250 ( 2,710 ) Other ( 1,174 ) 2,435 ( 717 ) Change in valuation allowance 40,063 15,240 25,239 Income tax provision $ 1,427 $ 1,873 $ 441 85 Deferred income taxes reflect the tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Our deferred income tax assets and liabilities consisted of the following (in thousands): January 31, 2022 2021 Deferred tax assets: Net operating loss carryforwards $ 133,994 $ 108,390 Tax credit carryforwards 21,112 9,849 Allowances and other 14,220 12,727 Depreciation and amortization 2,771 1,417 Operating lease liability 13,894 15,627 Total deferred tax assets $ 185,991 $ 148,010 Deferred tax liabiliti Deferred commissions $ ( 10,949 ) $ ( 9,002 ) Intangibles ( 3,253 ) ( 3,057 ) Operating lease right-of-use asset ( 8,001 ) ( 11,718 ) Total deferred tax liabilities ( 22,203 ) ( 23,777 ) Valuation allowance ( 166,212 ) ( 126,149 ) Net deferred tax liabilities $ ( 2,424 ) $ ( 1,916 ) We have assessed, based on available evidence, both positive and negative, it is more likely than not that the deferred tax assets will not be utilized, such that a valuation allowance has been recorded. The valuation allowance increased by $ 40.1 million and $ 15.2 million, respectively, for fiscal 2022 and 2021. As of January 31, 2022, we had U.S. federal and state net operating loss carryforwards of approximately $ 530.8 million and $ 345.1 million, respectively, available to offset future taxable income. As of January 31, 2021, we had U.S. federal and state net operating loss carryforwards of approximately $ 426.5 million and $ 286.2 million, respectively, available to offset future taxable income. If not utilized, these carryforward losses will expire in various amounts for federal and state tax purposes beginning in 2028. In addition, Zuora has approximately $ 292.7 million of federal net operating loss carryforwards that arose after the 2017 tax year, which are available to reduce future federal taxable income, if any, over an indefinite period. The utilization of those net operating loss carryforwards is limited to 80% of taxable income in any given year. We have approximately $ 15.7 million and $ 14.5 million of federal and state research and development tax credits, respectively, available to offset future taxes as of January 31, 2022, and approximately $ 8.4 million and $ 10.5 million of federal and state research and development tax credits, respectively, available to offset future taxes as of January 31, 2021. If not utilized, the federal credits will begin to expire in 2031. California state research and development tax credits may be carried forward indefinitely. Utilization of the net operating loss and tax credit carryforwards may be subject to a substantial annual limitation due to the "ownership change" limitations provided by Section 382 and 383 of the Internal Revenue Code of 1986, as amended, and other similar state provisions. Any annual limitation may result in the expiration of net operation loss and tax credit carryforwards before utilization. On March 27, 2020, the CARES Act was enacted and signed into U.S. law to provide economic relief to individuals and businesses facing economic hardship as a result of the COVID-19 pandemic. Changes in tax laws or rates are accounted for in the period of enactment. Under the CARES Act, we deferred payment of $ 3.6 million in employer FICA taxes related to the period from March 27, 2020 through December 31, 2020, of which $ 1.6 million was paid on December 31, 2021. The remaining $ 2.0 million is due on December 31, 2022. The income tax provisions of the CARES Act did not have a significant impact on our current taxes, deferred taxes, and uncertain tax positions. The amount of accumulated foreign earnings of our foreign subsidiaries was immaterial as of January 31, 2022. If our foreign earnings were repatriated, additional tax expense might result. Any additional taxes associated with such repatriation would be immaterial. 86 We are required to inventory, evaluate, and measure all uncertain tax positions taken or to be taken on tax returns and to record liabilities for the amount of such positions that may not be sustained, or may only partially be sustained, upon examination by the relevant taxing authorities. As of January 31, 2022, our total gross unrecognized tax benefits were $ 10.2 million exclusive of interest and penalties described below. As of January 31, 2021, our total gross unrecognized tax benefits were $ 9.4 million exclusive of interest and penalties described below. Because of our valuation allowance position, $ 1.3 million of unrecognized tax benefits, if recognized, would reduce the effective tax rate in a future period. We do not expect that the total amounts of unrecognized tax benefits will significantly increase or decrease within twelve months of the reporting date. A reconciliation of the beginning and ending amounts of uncertain tax position is as follows (in thousands): Fiscal Year Ended January 31, 2022 2021 2020 Gross amount of unrecognized tax benefits as of the beginning of the period $ 9,385 $ 8,070 $ 6,588 Increase for tax positions related to prior years 1,135 — — Decrease for tax positions related to prior years ( 2,895 ) ( 5 ) ( 18 ) Increase for tax positions related to the current year 2,603 1,320 1,500 Gross amount of unrecognized tax benefits as of the end of the period $ 10,228 $ 9,385 $ 8,070 We file tax returns in the U.S. federal and various state and foreign jurisdictions. All U.S. federal and state jurisdictions' tax years remain subject to examination by tax authorities due to the carryforward of unused net operating losses and research and development credits. In addition, tax years starting from 2007 are subject to examination. During fiscal 2022 and 2021, we recognized interest and penalties of $ 0.1 million associated with unrecognized tax benefits in income tax expense. Note 15. Stockholders' Equity Preferred Stock As of January 31, 2022, we had authorized 10 million shares of preferred stock, each with a par value of $ 0.0001 per share. As of January 31, 2022, no shares of preferred stock were issued and outstanding. Common Stock Prior to Zuora's IPO, all shares of common stock then outstanding were reclassified into Class B common stock. Shares offered and sold in the IPO consisted of newly authorized shares of Class A common stock. Holders of Class A and Class B common stock are entitled to one vote per share and ten votes per share, respectively, and the shares of Class A common stock and Class B common stock are identical, except for voting rights and the right to convert Class B shares to Class A shares. As of January 31, 2022, Zuora had authorized 500 million shares of Class A common stock and 500 million shares of Class B common stock, each with a par value of $ 0.0001 per share. As of January 31, 2022, 119.0 million shares of Class A common stock and 9.0 million shares of Class B common stock were issued and outstanding. Charitable Contributions During fiscal 2022 and fiscal 2021, we donated 61,012 and 73,964 shares of our Class A common stock, respectively, to a charitable donor-advised fund and recognized $ 1.0 million in both fiscal years as a non-cash general and administrative expense in our consolidated statement of comprehensive loss. 87 Accumulated Other Comprehensive (Loss) Income Components of accumulated other comprehensive (loss) income were as follows (in thousands): Foreign Currency Translation Adjustment Unrealized Gain (Loss) on Available-for-Sale Securities Total Balance, January 31, 2021 $ 791 $ 5 $ 796 Foreign currency translation adjustment ( 673 ) — ( 673 ) Unrealized loss on available-for-sale securities, net of tax — ( 231 ) ( 231 ) Balance, January 31, 2022 $ 118 $ ( 226 ) $ ( 108 ) There were no material reclassifications out of accumulated other comprehensive (loss) income during fiscal 2022. Additionally, there was no material tax impact on the amounts presented. Note 16. Employee Stock Plans Equity Incentive Plans In March 2018, our Board of Directors adopted and our stockholders approved the 2018 Equity Incentive Plan (2018 Plan). The 2018 Plan authorizes the award of stock options, restricted stock awards, stock appreciation rights, restricted stock units (RSUs), performance awards, and stock bonuses. As of January 31, 2022, approximately 23.7 million shares of Class A common stock were reserved and available for issuance under the 2018 Plan. In addition, as of January 31, 2022, 4.7 million stock options and RSUs exercisable or settleable for Class B common stock were outstanding in the aggregate under our 2006 Stock Plan (2006 Plan) and 2015 Equity Incentive Plan (2015 Plan), which plans were terminated in May 2015 and April 2018, respectively. The 2006 Plan and 2015 Plan continue to govern outstanding equity awards granted thereunder. Stock Options The following table summarizes stock option activity and related information (in thousands, except weighted-average exercise price, weighted-average grant date fair value and average remaining contractual term): Shares Subject To Outstanding Stock Options Weighted Average Exercise Price Average Remaining Contractual Term (Years) Aggregate Intrinsic Value Balance as of January 31, 2021 11,812 $ 8.54 6.6 $ 80,212 Granted 655 15.65 Exercised ( 2,898 ) 6.38 Forfeited ( 1,009 ) 13.59 Balance as of January 31, 2022 8,560 9.22 5.9 67,259 Exercisable as of January 31, 2022 5,736 6.11 4.8 60,362 Vested and expected to vest as of January 31, 2022 8,287 $ 9.06 5.8 $ 66,436 Fiscal Year Ended January 31, 2022 2021 2020 Weighted-average grant date fair value per share of options granted during each respective period $ 6.54 $ 4.69 $ 6.92 Aggregate intrinsic value of options exercised during each respective period $ 32,179 $ 22,677 $ 39,652 88 We used the Black-Scholes option-pricing model to estimate the fair value of our stock options granted during each respective period using the following assumptio Fiscal Year Ended January 31, 2022 2021 2020 Fair value of common stock $ 15.64 - $ 15.87 $ 9.99 - $ 14.75 $ 13.67 - $ 23.64 Expected volatility 42.3 % - 42.7 % 41.4 % - 42.4 % 35.0 % - 39.0 % Expected term (in years) 6.0 - 6.1 6.0 - 6.1 5.6 - 6.5 Risk-free interest rate 1.0 % - 1.1 % 0.4 % - 0.6 % 1.4 % - 2.5 % Expected dividend yield — — — RSUs The following table summarizes RSU activity and related information (in thousands except weighted-average grant date fair value): Number of RSUs Outstanding Weighted-Average Grant Date Fair Value Balance as of January 31, 2021 8,278 $ 13.54 Granted 10,029 16.51 Vested ( 3,488 ) 14.62 Forfeited ( 2,648 ) 14.51 Balance as of January 31, 2022 12,171 $ 15.46 2018 Employee Stock Purchase Plan In March 2018, our Board of Directors adopted and our stockholders approved the 2018 Employee Stock Purchase Plan (ESPP). This plan is broadly available to our employees in most of the countries in which we operate. A total of 3.8 million shares of Class A common stock were reserved and available for issuance under the ESPP as of January 31, 2022. The ESPP provides for 24 -month offering periods beginning June 15 and December 15 of each year, and each offering period contains four , six-month purchase periods. On each purchase date, ESPP participants will purchase shares of our Class A common stock at a price per share equal to 85 % of the lesser of (1) the fair market value of the Class A common stock on the offering date or (2) the fair market value of the Class A common stock on the purchase date. We estimated the fair value of ESPP purchase rights using a Black-Scholes option pricing model with the following assumptio Fiscal Year Ended January 31, 2022 2021 2020 Fair value of common stock $ 16.07 - $ 19.82 $ 12.15 - $ 13.50 $ 14.18 - $ 14.73 Expected volatility 34.4 % - 53.2 % 43.6 % - 69.1 % 35.2 % - 42.6 % Expected term (in years) 0.5 - 2.0 0.5 - 2.0 0.5 - 2.0 Risk-free interest rate 0.1 % - 0.7 % 0.1 % - 0.2 % 1.5 % - 2.2 % Expected dividend yield — — — 89 Stock-based Compensation Expense Stock-based compensation expense was recorded in the following cost and expense categories in the accompanying consolidated statements of comprehensive loss (in thousands): January 31, 2022 2021 2020 Cost of subscription revenue $ 5,875 $ 4,849 $ 2,772 Cost of professional services revenue 10,274 9,952 7,265 Research and development 21,072 19,562 17,568 Sales and marketing 22,484 15,839 11,129 General and administrative 12,365 9,081 6,312 Total stock-based compensation expense $ 72,070 $ 59,283 $ 45,046 During the three months ended July 31, 2020, in light of the COVID-19 pandemic and for retention purposes, we issued RSU grants for 0.7 million shares of Class A common stock to eligible non-executive employees. These RSU awards have fully vested and we recognized $ 7.6 million of stock-based compensation expense related to these awards during fiscal year 2021. As of January 31, 2022, unrecognized compensation costs related to unvested equity awards and the weighted-average remaining period over which those costs are expected to be realized were as follows (dollars in thousands): Stock Options RSUs ESPP Unrecognized compensation costs $ 11,097 $ 149,202 $ 4,338 Weighted-average remaining recognition period 2.4 years 2.7 years 0.8 years Note 17. Net Loss Per Share We calculate our basic and diluted net loss per share in conformity with the two-class method required for companies with participating securities. Under the two-class method, basic net loss per share is calculated by dividing the net loss by the weighted-average number of shares of common stock outstanding for the period, less shares subject to repurchase. The diluted net loss per share is computed by giving effect to all potential dilutive common stock equivalents outstanding for the period. For purposes of this calculation, options to purchase common stock, restricted stock units, shares issuable pursuant to our ESPP, and shares subject to repurchase from early exercised options and unvested restricted stock are considered common stock equivalents but have been excluded from the calculation of diluted net loss per share as their effect is antidilutive. The rights, including the liquidation and dividend rights, of the holders of our Class A and Class B common stock are identical, except with respect to voting and conversion. As the liquidation and dividend rights are identical, the undistributed earnings are allocated on a proportionate basis and the resulting net loss per share will, therefore, be the same for both Class A and Class B common stock on an individual or combined basis. We did not present dilutive net loss per share on an as-if converted basis because the impact was not dilutive. The following table presents the calculation of basic and diluted net loss per share for the periods presented (in thousands, except per share data): Fiscal Year Ended January 31, 2022 2021 2020 Numerato Net loss $ ( 99,425 ) $ ( 73,174 ) $ ( 83,394 ) Denominato Weighted-average common shares outstanding, basic and diluted 124,206 117,598 111,122 Net loss per share, basic and diluted $ ( 0.80 ) $ ( 0.62 ) $ ( 0.75 ) Since we were in a loss position for all periods presented, basic net loss per share attributable to common stockholders is the same as diluted net loss per share as the inclusion of all potential common shares outstanding would have been anti-dilutive. Potentially dilutive securities that were not included in the diluted per share 90 calculations because they would be anti-dilutive were as follows (in thousands): As of January 31, 2022 2021 2020 Issued and outstanding stock options 8,560 11,812 13,701 Unvested RSUs and restricted stock issued and outstanding 12,171 8,278 5,029 Shares committed under ESPP 144 139 116 Total 20,875 20,229 18,846 Note 18. Subsequent Events On March 24, 2022 (Initial Closing Date), we issued $ 250.0 million aggregate principal amount of convertible senior unsecured notes due in 2029 (2029 Notes) to certain entities affiliated with Silver Lake Alpine II, L.P. (Silver Lake). The notes bear interest at a rate of 3.95 % per annum, payable quarterly in arrears in cash, with the option to pay interest in kind at a rate of 5.50 %, payable quarterly in arrears. The initial conversion rate for the notes is 50 shares of our Class A common stock per $ 1,000 principal amount of the 2029 Notes, which is equivalent to an initial conversion price of $ 20.00 per share. Under the terms of the agreement with Silver Lake, an additional $ 150.0 million aggregate principal amount of convertible senior unsecured notes is expected to close within 18 months of the Initial Closing Date. We have also agreed to issue warrants (Warrants) to purchase up to 7,500,000 shares of Class A common stock, exercisable for a period of seven years , and of which (i) 2,500,000 shares shall be exercisable at $ 20.00 per share, (ii) 2,500,000 shares shall be exercisable at $ 22.00 per share and (iii) 2,500,000 shares shall be exercisable at $ 24.00 per share. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure Not applicable. Item 9A. Controls and Procedures Evaluation of Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer (our principal executive officer) and Chief Financial Officer (our principal financial officer), has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of January 31, 2022. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that as of January 31, 2022, our disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed in the reports we file and submit under the Exchange Act is recorded, processed, summarized and reported as and when required, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding its required disclosure. Management's Report on Internal Control Over Financial Reporting Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). Our management conducted an evaluation of the effectiveness of our internal control over financial reporting as of January 31, 2022 based on the criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on the results of its evaluation, management concluded that our internal control over financial reporting was effective as of January 31, 2022. The effectiveness of our internal control over financial reporting as of January 31, 2022 has been audited by KPMG LLP, our independent registered public accounting firm, as stated in its report which is included in Part II, Item 8 of the Annual Report on Form 10-K. Changes in Internal Control Over Financial Reporting 91 We continue to monitor the design and operating effectiveness of our internal controls for any effect resulting from the COVID-19 pandemic in order to minimize any potential impacts. There was no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the three months ended January 31, 2022 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. Inherent Limitations on Effectiveness of Controls Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected. Accordingly, our disclosure controls and procedures provide reasonable assurance of achieving their objectives. Item 9B. Other Information Not applicable. Item 9C. Disclosure Regarding Foreign Jurisdictions that Prevent Inspections Not applicable. 92 PART III Item 10. Directors, Executive Officers and Corporate Governance The information required by this item is incorporated herein by reference to information contained in the Proxy Statement relating to our 2022 Annual Meeting of Stockholders. Item 11. Executive Compensation The information required by this item is incorporated herein by reference to information contained in the Proxy Statement relating to our 2022 Annual Meeting of Stockholders. Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters The information required by this item is incorporated herein by reference to information contained in the Proxy Statement relating to our 2022 Annual Meeting of Stockholders. Item 13. Certain Relationships and Related Transactions, and Director Independence The information required by this item is incorporated herein by reference to information contained in the Proxy Statement relating to our 2022 Annual Meeting of Stockholders. Item 14. Principal Accounting Fees and Services The information required by this item is incorporated herein by reference to information contained in the Proxy Statement relating to our 2022 Annual Meeting of Stockholders. 93 PART IV Item 15. Exhibits, Financial Statement Schedules (a) The following documents are filed as a part of this Form 10-K: 1. Financial Statements Our consolidated financial statements are listed in the “Index to Consolidated Financial Statements” under Part II, Item 8 of this Form 10-K. 2. Financial Statement Schedules Financial statement schedules not listed have been omitted because they are not applicable or the required information is shown in the consolidated financial statements or notes thereto. 3. Exhibits Exhibit Number Incorporated By Reference Filed or Furnished Herewith Exhibit Description Form File No. Exhibit Filing Date 3.1 Restated Certificate of Incorporation of the Registrant. 10-Q 001-38451 3.1 6/13/2018 3.2 Amended and Restated Bylaws of the Registrant. 8-K 001-38451 3.1 5/5/2020 4.1 Form of Class A Common Stock Certificate of the Registrant. S-1 333-223722 4.1 3/16/2018 4.2 Description of Registrant's Securities. X 10.1* Form of Indemnification Agreement by and between the Registrant and each of its directors and executive officer s . S-1 333-223722 10.1 3/16/2018 10.2* 2006 Equity Incentive Plan and forms of award agreements. S-1 333-223722 10.2 3/16/2018 10.3* 2015 Equity Incentive Plan and forms of award agreements . S-1 333-223722 10.3 3/16/2018 10.4* 2018 Equity Incentive Plan and forms of award agreements. S-1 333-223722 10.4 3/16/2018 10.5* 2018 Employee Stock Purchase Plan and form of subscription agreement. S-1 333-223722 10.5 3/16/2018 10.6* Offer Letter, dated March 6, 2018, between Tien Tzuo and the Registrant. S-1 333-223722 10.6 3/16/2018 10.7* Offer Letter, dated January 7, 2016, between Kenneth Goldman and the Registrant. S-1 333-223722 10.9 3/16/2018 10.8* Offer Letter, dated May 8, 2017, between Magdalena Yesil and the Registrant. S-1 333-223722 10.10 3/16/2018 10.9* Offer Letter, dated March 6, 2018, between Jennifer Pileggi and the Registrant. 10-K 001-38451 10.11 4/18/2019 10.10* Offer Letter, dated September 17, 2019, between Robert J. Traube and the Registrant. 10-K 001-38451 10.12 3/31/2020 10.11* O ffer Letter dated May 25, 2020, between Todd McElhatton and the Registrant . 10-Q 001-38451 10.1 9/4/2020 10.12* Offer Letter, dated December 17, 2020, between Sridhar Srinivasan and the Registrant. 10-K 001-38451 10.14 3/31/2021 10.13* Transition Agreement by and between Jennifer Pileggi and the Registrant, dated November 16, 2021. X 10.14* Form of Change in Control and Severance Agreement. X 94 10.15* Cash Incentive Plan. 10-Q 001-38451 10.2 6/11/2019 10.16 Lease Agreement between 101 Redwood Shores LLC, As Landlord and Zuora, Inc., as Tenant dated March 19, 2019. 8-K 001-38451 10.1 3/21/2019 10.17 Loan and Security Agreement, dated June 14, 2017, by and among Silicon Valley Bank, the Registrant, Zuora Services, LLC, and Leeyo Software, Inc. S-1 333-223722 10.13 3/16/2018 10.18 First Amendment to Loan and Security Agreement, dated October 11, 2018, by and among Silicon Valley Bank, the Registrant, Zuora Services, LLC, and Leeyo Software, Inc. 10-Q 001-38451 10.1 12/13/2018 10.19 Second Amendment to Loan and Security Agreement, dated January 19, 2021, by and among Silicon Valley Bank, the Registrant, Zuora Services, LLC, and Leeyo Software, Inc. 10-K 001-38451 10.21 3/31/2021 21.1 Subsidiaries of the Registrant . X 23.1 Consent of Independent Registered Public Accounting Firm . X 31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14(a) and 15d-14(a) of the Exchange Act. X 31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14(a) and 15d-14(a) of the Exchange Act. X 32.1** Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 . X 32.2** Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 . X 101.INS Inline XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document X 101.SCH Inline XBRL Taxonomy Extension Schema Document X 101.CAL Inline XBRL Taxonomy Extension Calculation Linkbase Document X 101.DEF Inline XBRL Taxonomy Extension Definition Linkbase Document X 101.LAB Inline XBRL Taxonomy Extension Label Linkbase Document X 101.PRE Inline XBRL Taxonomy Extension Presentation Linkbase Document X 104 Cover Page Interactive Data File (embedded within the Inline XBRL document and included in Exhibit 101). X * Indicates a management contract or compensatory plan or arrangement in which directors or executive officers are eligible to participate. ** The certifications furnished in Exhibits 32.1 and 32.2 hereto are deemed to accompany this Form 10-K and are not deemed “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of 95 that section, nor shall they be deemed incorporated by reference into any filing under the Securities Act or the Exchange Act. Item 16. Form 10-K Summar y. None. 96 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ZUORA, INC. Date: March 28, 2022 By: /s/ Todd McElhatton Todd McElhatton Chief Financial Officer (Principal Accounting and Financial Officer) POWER OF ATTORNEY KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Tien Tzuo and Todd McElhatton, and each of them, as his or her true and lawful attorneys-in-fact and agents, with full power of substitution and resubstitution, for him or her and in his or her name, place and stead, in any and all capacities, to sign any amendments to this Annual Report on Form 10-K and to file the same, with all exhibits thereto and other documents in connection therewith with the Securities and Exchange Commission, granting unto said attorneys-in-fact, proxies, and agents full power and authority to do and perform each and every act and thing requisite and necessary to be done in connection therewith, as fully for all intents and purposes as he might or could do in person, hereby ratifying and confirming all that said attorneys-in-fact, proxies, and agents, or their or his or her substitute or substitutes, may lawfully do or cause to be done by virtue hereof. Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, this Annual Report on Form 10-K has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicat Signature Title Date /s/ Tien Tzuo Tien Tzuo Chairman of the Board of Directors and Chief Executive Officer (Principal Executive Officer) March 28, 2022 /s/ Todd McElhatton Todd McElhatton Chief Financial Officer (Principal Accounting and Financial Officer) March 28, 2022 /s/ Omar Abbosh Omar Abbosh Director March 28, 2022 /s/ Sarah Bond Sarah Bond Director March 28, 2022 /s/ Laura A. Clayton Laura A. Clayton Director March 28, 2022 /s/ Kenneth A. Goldman Kenneth A. Goldman Director March 28, 2022 /s/ Timothy Haley Timothy Haley Director March 28, 2022 /s/ Joseph Osnoss Joseph Osnoss Director March 28, 2022 /s/ Jason Pressman Jason Pressman Director March 28, 2022 /s/ Amy Guggenheim Shenkan Amy Guggenheim Shenkan Director March 28, 2022 /s/ Magdalena Yesil Magdalena Yesil Director March 28, 2022 |
Washington, DC 20549 _____________________________ FORM 10-Q _____________________________ (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended April 30, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to __________ Commission File Numbe 001-38451 _____________________________ Zuora, Inc . (Exact name of registrant as specified in its charter) _____________________________ Delaware 20-5530976 (State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification Number) 101 Redwood Shores Parkway , Redwood City , California 94065 (Address of principal executive offices) (Zip Code) ( 888 ) 976-9056 (Registrant’s telephone number, including area code) Not Applicable (Former name, former address and former fiscal year, if changed since last report) _____________________________ Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name on each exchange on which registered Class A common stock, par value $0.0001 per share ZUO New York Stock Exchange Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☒ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ As of May 31, 2022, the number of shares of the Registrant ’ s Class A common stock outstanding was 121.2 million and the number of shares of the Registrant ’ s Class B common stock outstanding was 8.0 million. Page PART I. FINANCIAL INFORMATION 3 Item 1. Financial Statements (unaudited) 3 Condensed Consolidated Balance Sheets as of April 30, 202 2 and January 31, 202 2 3 Condensed Consolidated Statements of Comprehensive Loss for the Three Months Ended April 30, 202 2 and 202 1 4 Condensed Consolidated Statements of Stockholders ' Equity for the Three Months Ended April 30, 202 2 and 202 1 5 Condensed Consolidated Statements of Cash Flows for the Three Months Ended April 30, 2022 and 2021 6 Notes to Unaudited Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 23 Item 3. Quantitative and Qualitative Disclosures About Market Risk 35 Item 4. Controls and Procedures 36 PART II. OTHER INFORMATION 38 Item 1. Legal Proceedings 38 Item 1A. Risk Factors 38 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 72 Item 6. Exhibits 73 Signatures 74 SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS Unless the context otherwise requires, references in this Quarterly Report on Form 10-Q (Form 10-Q) to “Zuora,” “Company,” “our,” “us,” and “we” refer to Zuora, Inc. and, where appropriate, its consolidated subsidiaries. Our fiscal year end is January 31. References to “fiscal” followed by the year refer to the fiscal year ended January 31 for the referenced year. This Form 10-Q contains forward-looking statements within the meaning of the federal securities laws. All statements contained in this Form 10-Q, other than statements of historical fact, including statements regarding our future operating results and financial position, our business strategy and plans, market growth, and our objectives for future operations, are forward-looking statements. Words such as “believes,” “may,” “will,” “estimates,” “potential,” “continues,” “anticipates,” “intends,” “expects,” “could,” “would,” “projects,” “plans,” “targets,” and variations of such words and similar expressions are intended to identify forward-looking statements. Forward-looking statements contained in this Form 10-Q include, but are not limited to, statements about our expectations regardin • trends in revenue, cost of revenue, and gross margin; • economic uncertainty and associated trends in macroeconomic conditions, including recession and inflation; • currency exchange rate fluctuations; • industry trends, projected growth, or trend analysis; • the duration and impact of the coronavirus (COVID-19) pandemic on our business and the economy; • our investments in our platform and the cost of third-party hosting fees; • the expansion and functionality of our technology offering, including expected benefits of such products and technology, and our ability to further penetrate our customer base; • trends in operating expenses, including research and development expense, sales and marketing expense, and general and administrative expense, and expectations regarding these expenses as a percentage of revenue; • trends and expectations in our operating and financial metrics, including customers with Annual Contract Value (ACV) equal to or greater than $100,000, dollar-based retention rate and annual recurring revenue growth; • our existing cash and cash equivalents, investment balances, funds available under our loan and security agreement, and cash provided by subscriptions to our platform and related professional services being sufficient to meet our working capital and capital expenditure needs for at least the next 12 months; and • other statements regarding our future operations, financial condition, prospects and business strategies. Such forward-looking statements are based on our expectations as of the date of this filing and are subject to a number of risks, uncertainties and assumptions, including but not limited to, risks detailed in the “Risk Factors” section of this Form 10-Q. Readers are urged to carefully review and consider the various disclosures made in this Form 10-Q and in other documents we file from time to time with the Securities and Exchange Commission (SEC) that disclose risks and uncertainties that may affect our business. Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time. It is not possible for us to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties and assumptions, the future events and circumstances discussed in this Form 10-Q may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements. You should not rely upon forward-looking statements as predictions of future events. The events and circumstances reflected in the forward-looking statements may not be achieved or occur. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, performance or achievements. In addition, the forward-looking statements in this Form 10-Q are made as of the date of this filing, and we do not undertake, and expressly disclaim any duty, to update such statements for any 1 reason after the date of this Form 10-Q or to conform statements to actual results or revised expectations, except as required by law. 2 PART I—FINANCIAL INFORMATION Item 1. Financial Statements ZUORA, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (in thousands) (unaudited) April 30, 2022 January 31, 2022 Assets Current assets: Cash and cash equivalents $ 350,626 $ 113,507 Short-term investments 101,926 101,882 Accounts receivable, net of allowance for credit losses of $ 3,421 and $ 3,188 as of April 30, 2022 and January 31, 2022, respectively 74,307 82,263 Deferred commissions, current portion 15,254 15,080 Prepaid expenses and other current assets 16,260 15,603 Total current assets 558,373 328,335 Property and equipment, net 28,629 27,676 Operating lease right-of-use assets 30,482 32,643 Purchased intangibles, net 2,898 3,452 Deferred commissions, net of current portion 26,856 26,727 Goodwill 17,632 17,632 Other assets 4,449 4,787 Total assets $ 669,319 $ 441,252 Liabilities and stockholders’ equity Current liabiliti Accounts payable $ 7,155 $ 6,785 Accrued expenses and other current liabilities 24,195 14,225 Accrued employee liabilities 26,861 32,425 Debt, current portion 571 1,660 Deferred revenue, current portion 157,135 152,740 Operating lease liabilities, current portion 10,907 11,462 Total current liabilities 226,824 219,297 Debt, net of current portion 204,500 — Deferred revenue, net of current portion 1,098 771 Operating lease liabilities, net of current portion 43,149 45,633 Deferred tax liabilities 3,243 3,243 Other long-term liabilities 1,649 1,701 Total liabilities 480,463 270,645 Commitments and contingencies (Note 13) Stockholders’ equity: Class A common stock 12 12 Class B common stock 1 1 Additional paid-in capital 776,323 734,149 Accumulated other comprehensive loss ( 865 ) ( 108 ) Accumulated deficit ( 586,615 ) ( 563,447 ) Total stockholders’ equity 188,856 170,607 Total liabilities and stockholders’ equity $ 669,319 $ 441,252 See notes to unaudited condensed consolidated financial statements. 3 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (in thousands, except per share data) (unaudited) Three Months Ended April 30, 2022 2021 Reve Subscription $ 78,500 $ 65,142 Professional services 14,699 15,187 Total revenue 93,199 80,329 Cost of reve Subscription 18,725 15,643 Professional services 17,510 17,078 Total cost of revenue 36,235 32,721 Gross profit 56,964 47,608 Operating expens Research and development 22,872 18,967 Sales and marketing 40,457 31,865 General and administrative 17,290 14,185 Total operating expenses 80,619 65,017 Loss from operations ( 23,655 ) ( 17,409 ) Interest and other income, net 795 121 Loss before income taxes ( 22,860 ) ( 17,288 ) Income tax provision 308 373 Net loss ( 23,168 ) ( 17,661 ) Comprehensive l Foreign currency translation adjustment ( 359 ) ( 85 ) Unrealized loss on available-for-sale securities ( 398 ) ( 34 ) Comprehensive loss $ ( 23,925 ) $ ( 17,780 ) Net loss per share, basic and diluted $ ( 0.18 ) $ ( 0.15 ) Weighted-average shares outstanding used in calculating net loss per share, basic and diluted 128,457 121,354 See notes to unaudited condensed consolidated financial statements. 4 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (in thousands) (unaudited) Three Months Ended April 30, 2022 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders’ Shares Amount Shares Amount Capital Loss Deficit Equity Balance, January 31, 2022 119,008 $ 12 9,048 $ 1 $ 734,149 $ ( 108 ) $ ( 563,447 ) $ 170,607 Conversion of Class B common stock to Class A common stock 1,120 — ( 1,120 ) — — — — — Issuance of common stock upon exercise of stock options 49 — 86 — 907 — — 907 RSU releases 956 — — — — — — — Stock-based compensation — — — — 22,825 — — 22,825 Issuance of warrants — — — — 18,442 — — 18,442 Other comprehensive loss — — — — — ( 757 ) — ( 757 ) Net loss — — — — — — ( 23,168 ) ( 23,168 ) Balance, April 30, 2022 121,133 $ 12 8,014 $ 1 $ 776,323 $ ( 865 ) $ ( 586,615 ) $ 188,856 Three Months Ended April 30, 2021 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Income Deficit Equity Balance, January 31, 2021 109,900 $ 11 11,004 $ 1 $ 635,127 $ 796 $ ( 464,022 ) $ 171,913 Conversion of Class B common stock to Class A common stock 680 — ( 680 ) — — — — — Issuance of common stock upon exercise of stock options 39 — 611 — 3,567 — — 3,567 Lapse of restrictions on common stock related to early exercise of stock options — — — — 10 — — 10 RSU releases 630 — 20 — — — — — Stock-based compensation — — — — 13,797 — — 13,797 Other comprehensive loss — — — — — ( 119 ) — ( 119 ) Net loss — — — — — — ( 17,661 ) ( 17,661 ) Balance, April 30, 2021 111,249 $ 11 10,955 $ 1 $ 652,501 $ 677 $ ( 481,683 ) $ 171,507 See notes to unaudited condensed consolidated financial statements. 5 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) (unaudited) Three Months Ended April 30, 2022 2021 Cash flows from operating activiti Net loss $ ( 23,168 ) $ ( 17,661 ) Adjustments to reconcile net loss to net cash provided by operating activiti Depreciation, amortization and accretion 4,202 4,147 Stock-based compensation 22,825 13,797 Provision for credit losses 499 1,153 Amortization of deferred commissions 4,563 3,874 Reduction in carrying amount of right-of-use assets 2,161 2,342 Change in fair value of warrant liability ( 4,373 ) — Other 216 156 Changes in operating assets and liabiliti Accounts receivable 7,457 18,223 Prepaid expenses and other assets ( 206 ) ( 1,169 ) Deferred commissions ( 4,984 ) ( 4,200 ) Accounts payable 101 ( 1,342 ) Accrued expenses and other liabilities 2,205 ( 1,522 ) Accrued employee liabilities ( 5,564 ) ( 3,056 ) Deferred revenue 4,722 ( 1,109 ) Operating lease liabilities ( 3,673 ) ( 3,382 ) Net cash provided by operating activities 6,983 10,251 Cash flows from investing activiti Purchases of property and equipment ( 3,263 ) ( 1,965 ) Insurance proceeds for damaged property and equipment — 344 Purchases of short-term investments ( 30,887 ) ( 26,687 ) Maturities of short-term investments 30,263 22,692 Net cash used in investing activities ( 3,887 ) ( 5,616 ) Cash flows from financing activiti Proceeds from issuance of convertible senior notes, net of issuance costs 234,586 — Proceeds from issuance of common stock upon exercise of stock options 907 3,567 Principal payments on debt ( 1,111 ) ( 1,111 ) Net cash provided by financing activities 234,382 2,456 Effect of exchange rates on cash and cash equivalents ( 359 ) ( 85 ) Net increase in cash and cash equivalents 237,119 7,006 Cash and cash equivalents, beginning of period 113,507 94,110 Cash and cash equivalents, end of period $ 350,626 $ 101,116 Supplemental disclosure of non-cash investing and financing activiti Lapse in restrictions on early exercised common stock options $ — $ 10 Property and equipment purchases accrued or in accounts payable $ 133 $ 20 Issuance costs for convertible senior notes accrued or in accounts payable $ 685 $ — See notes to unaudited condensed consolidated financial statements. 6 ZUORA, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) Note 1. Overview and Basis of Presentation Description of Business Zuora, Inc. was incorporated in the state of Delaware in 2006 and began operations in 2007. Zuora’s fiscal year ends on January 31. Zuora is headquartered in Redwood City, California. Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the entire quote-to-cash and revenue recognition process, including quoting, billing, collections and revenue recognition. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. References to “Zuora”, “us”, “our”, or “we” in these notes refer to Zuora, Inc. and its subsidiaries on a consolidated basis. Basis of Presentation and Principles of Consolidation The accompanying unaudited condensed consolidated financial statements, which include the accounts of Zuora and its wholly owned subsidiaries, have been prepared in conformity with accounting principles generally accepted in the United States (GAAP) and applicable rules and regulations of the Securities and Exchange Commission (SEC) regarding interim financial reporting. All intercompany balances and transactions have been eliminated in consolidation. The unaudited condensed consolidated balance sheet as of January 31, 2022 included herein was derived from the audited financial statements as of that date, but does not include all disclosures including certain notes required by GAAP on an annual reporting basis. The unaudited condensed consolidated financial statements reflect all normal recurring adjustments necessary to present fairly the balance sheets, statements of comprehensive loss, statements of cash flows and statements of stockholders' equity for the interim periods, but are not necessarily indicative of the results of operations to be anticipated for the full fiscal year ending January 31, 2023 or any future period. The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in our Annual Report on Form 10-K for the fiscal year ended January 31, 2022, filed with the SEC on March 28, 2022 (Annual Report). Use of Estimates The preparation of unaudited condensed consolidated financial statements in conformity with GAAP requires management to make certain estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the unaudited condensed consolidated financial statements, as well as reported amounts of revenue and expenses during the reporting period. Actual results could differ materially from those estimates. Our most significant estimates and assumptions are related to revenue recognition with respect to the determination of the relative standalone selling prices for our services; the expected period of benefit over which deferred commissions are amortized; valuation of stock-based awards and warrants; estimates of allowance for credit losses; estimates of the fair value of goodwill and long-lived assets when evaluating for impairments; useful lives of intangibles and other long-lived assets; and the valuation of deferred income tax assets and contingencies. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Accordingly, actual results may differ materially from these estimates under different assumptions or conditions. 7 Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements Our significant accounting policies are discussed in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements in our Annual Report for the fiscal year ended January 31, 2022. There have been no significant changes to these policies during the three months ended April 30, 2022, except for updates resulting from our issuance to Silver Lake of the Initial Notes and Warrants (as defined in Note 9. Debt below) in March 2022, as discussed below. Additional information regarding our issuance of these convertible notes and warrants is included in Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock respectively. Derivative Financial Instruments The accounting treatment of derivative financial instruments requires that we record certain embedded features and warrants as assets or liabilities at their fair value as of the inception date of the agreement and at fair value as of each subsequent balance sheet date with any change in fair value recorded as income or expense. In connection with our issuance of of the Initial Notes to Silver Lake during the three months ended April 30, 2022, we adopted a sequencing policy in accordance with ASC 815-40 whereby financial instruments issued will be ordered by conversion or exercise price. Deferred Debt Issuance Costs Costs directly associated with obtaining debt financing are deferred and amortized using the effective interest rate method over the expected term of the related debt agreement. We determine the expected term of debt agreements by assessing the contractual term of the debt as well as any non-contingent put rights provided to the lenders. Unamortized amounts related to long-term debt are reflected on the unaudited condensed consolidated balance sheets as a direct deduction from the carrying amounts of the related long-term debt liability. Amortization expense of deferred loan costs was approximately $ 0.8 million for the three months ended April 30, 2022, and is included in Interest and other income, net on the accompanying unaudited condensed consolidated statements of comprehensive loss. Earnings per Share Basic earnings per share (EPS) is calculated by dividing the net income or loss available to common stockholders by the weighted average number of shares of common stock outstanding for the period without consideration for common stock equivalents. Diluted EPS is computed by dividing the net income or loss available to common stockholders by the weighted average number of shares of common stock outstanding for the period and the weighted average number of dilutive common stock equivalents outstanding for the period determined using the if-converted (convertible debt instruments) or treasury-stock method (warrants and share-based payment arrangements). For purposes of this calculation, common stock issuable upon conversion of debt, options and warrants are considered to be common stock equivalents and are only included in the calculation of diluted earnings per share when their effect is dilutive. Recent Accounting Pronouncements In August 2020, the FASB issued ASU 2020-06, Debt - Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging - Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity, which simplifies the accounting for convertible instruments by removing certain separation models previously required under U.S. GAAP, including the beneficial conversion feature and cash conversion models. This ASU also simplifies the diluted earnings per share calculation in certain areas. The standard was effective for us beginning February 1, 2022 and we utilized the modified retrospective transition method of adoption. The adoption of this standard had no impact on our retained earnings or other components of equity as of the February 1, 2022 adoption date and had no impact to our earnings per share during the period of adoption. 8 Note 3. Investments The amortized costs, unrealized gains and losses and estimated fair values of our short-term investments were as follows (in thousands): April 30, 2022 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 24,091 $ — $ ( 383 ) $ 23,708 Corporate bonds 28,232 — ( 182 ) 28,050 Commercial paper 46,173 — — 46,173 Foreign government securities 4,054 — ( 59 ) 3,995 Total short-term investments $ 102,550 $ — $ ( 624 ) $ 101,926 January 31, 2022 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 18,082 $ — $ ( 155 ) $ 17,927 Corporate bonds 21,225 — ( 49 ) 21,176 Commercial paper 55,234 — — 55,234 Supranational bonds 3,503 — — 3,503 Foreign government securities 4,064 — ( 22 ) 4,042 Total short-term investments $ 102,108 $ — $ ( 226 ) $ 101,882 There were no material realized gains or losses from sales of marketable securities that were reclassified out of accumulated other comprehensive loss into investment income during the three months ended April 30, 2022 and 2021. We had no significant unrealized losses on our available-for-sale securities as of April 30, 2022 and January 31, 2022, and we do not expect material credit losses on our current investments in future periods. All securities had stated effective maturities of less than two years as of April 30, 2022. Note 4. Fair Value Measurements The accounting guidance for fair value measurements establishes a three-tier hierarchy, which prioritizes the inputs used in the valuation methodologies in measuring fair value as follows: Level input Input definition Level 1 Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets Level 2 Inputs other than quoted prices included within Level 1 that are observable for the asset or liability through corroboration with market data at the measurement date Level 3 Unobservable inputs that reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date In general, and where applicable, we use quoted prices in active markets for identical assets or liabilities to determine fair value. If quoted prices in active markets for identical assets or liabilities are not available to determine fair value, then we use quoted prices for similar assets and liabilities or inputs other than the quoted prices that are observable either directly or indirectly. 9 The following tables summarize our fair value hierarchy for our financial assets and liabilities measured at fair value on a recurring basis (in thousands): April 30, 2022 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 332,916 $ — $ — $ 332,916 Short-term investments: U.S. government securities $ — $ 23,708 $ — $ 23,708 Corporate bonds — 28,050 — 28,050 Commercial paper — 46,173 — 46,173 Foreign government securities — 3,995 — 3,995 Total short-term investments $ — $ 101,926 $ — $ 101,926 Liabiliti Warrant liability $ — $ — $ 7,670 $ 7,670 January 31, 2022 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 92,668 $ — $ — $ 92,668 Short-term investments: U.S. government securities $ — $ 17,927 $ — $ 17,927 Corporate bonds — 21,176 — 21,176 Commercial paper — 55,234 — 55,234 Supranational bonds — 3,503 — 3,503 Foreign government securities — 4,042 — 4,042 Total short-term investments $ — $ 101,882 $ — $ 101,882 Changes in our Level 3 fair value measurements were as follows (in thousands): Balance, January 31, 2022 $ — Issuances 12,043 Settlements — Gain on change in fair value ( 4,373 ) Balance, April 30, 2022 $ 7,670 The carrying amounts of certain financial instruments, including cash held in bank accounts, accounts receivable, accounts payable, and accrued expenses, approximate fair value due to their relatively short maturities. The carrying amount of debt outstanding under the Debt Agreement approximates fair value as of April 30, 2022 due to its floating interest rate. The carrying amount of debt outstanding under the Initial Notes approximates fair value as of April 30, 2022. Additional information regarding the Initial Notes and Warrant liability is included in Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock , respectively. 10 Note 5. Prepaid Expenses and Other Current Assets Prepaid expenses and other current assets consisted of the following (in thousands): April 30, 2022 January 31, 2022 Prepaid software subscriptions $ 7,000 $ 6,854 Prepaid insurance 1,979 3,220 Taxes 1,490 1,270 Contract assets 1,170 1,289 Prepaid hosting costs 1,016 767 Other 3,605 2,203 Total $ 16,260 $ 15,603 Note 6. Property and Equipment, Net Property and equipment, net consisted of the following (in thousands): April 30, 2022 January 31, 2022 Software 28,125 25,495 Leasehold improvements 17,140 17,277 Computer equipment 15,173 14,746 Furniture and fixtures 4,369 4,424 64,807 61,942 Less accumulated depreciation and amortization ( 36,178 ) ( 34,266 ) Total $ 28,629 $ 27,676 The following table summarizes the capitalized internal-use software costs included within the Software line item in the table above (in thousands): Three Months Ended April 30, 2022 2021 Internal-use software costs capitalized during the period $ 1,902 $ 924 April 30, 2022 January 31, 2022 Total capitalized internal-use software, net of accumulated amortization $ 12,541 $ 11,534 The following table summarizes total depreciation and amortization expense related to property and equipment, including amortization of internal-use software, included in General and administrative and Cost of subscription revenue in the accompanying unaudited condensed consolidated statements of comprehensive loss (in thousands): Three Months Ended April 30, 2022 2021 Total depreciation and amortization expense $ 2,181 $ 2,844 11 Note 7. Purchased Intangible Assets The following table summarizes the purchased intangible asset balances and activity (in thousands): Gross Carrying Amount Accumulated Amortization Net Carrying Amount Balance, January 31, 2022 $ 14,467 $ ( 11,015 ) $ 3,452 Amortization expense — ( 554 ) ( 554 ) Balance, April 30, 2022 $ 14,467 $ ( 11,569 ) $ 2,898 The following table summarizes amortization expense related to purchased intangible assets included in Cost of subscription revenue in the accompanying unaudited condensed consolidated statements of comprehensive loss (in thousands): Three Months Ended April 30, 2022 2021 Purchased intangible assets amortization expense $ 554 $ 423 Note 8. Accrued Expenses and Other Current Liabilities Accrued expenses and other current liabilities consisted of the following (in thousands): April 30, 2022 January 31, 2022 Warrant liability $ 7,670 $ — Accrued outside services and consulting 5,081 3,712 Accrued hosting and third-party licenses 3,848 3,865 Accrued taxes 2,215 2,422 Accrued interest 1,015 — Other accrued expenses 4,366 4,226 Total $ 24,195 $ 14,225 Note 9. Debt 2029 Notes On March 24, 2022 (Initial Closing Date), we issued convertible senior notes (Initial Notes) in the aggregate principal amount of $ 250.0 million pursuant to an investment agreement (Investment Agreement) and indenture agreement (Indenture) to certain entities affiliated with Silver Lake Alpine II, L.P. (Silver Lake). Pursuant to the Investment Agreement, additional convertible senior notes in the aggregate principal amount of $ 150.0 million (Additional Notes), (together with the Initial Notes, the “2029 Notes”) shall be issued to Silver Lake 18 months after the Initial Closing Date, with an earlier issuance upon our completion of a Material Acquisition that meets the conditions described in Section 2.02(a) of the Investment Agreement. In addition, in the event that a Change in Control (as defined in the Indenture) occurs prior to the Additional Notes being issued, the noteholder would have the right to receive, at the noteholder's election, the Additional Notes, a cash payment, or common stock, as described in Section 2.02(b) of the Investment Agreement. The Initial Notes and the Additional Notes, once issued, represent senior unsecured obligations of Zuora. As a condition of the Investment Agreement, we also issued warrants to Silver Lake to acquire up to 7.5 million shares of Class A common stock (Warrants), of which (i) up to 2.5 million Warrants are exercisable at $ 20.00 per share, (ii) up to 2.5 million Warrants are exercisable at $ 22.00 per share and (iii) up to 2.5 million Warrants are exercisable at $ 24.00 per share. The Warrants are exercisable for a period of seven years from the Initial Closing Date, 12 The purchase price of the 2029 Notes is 98 % of the par value. The 2029 Notes bear interest at a rate of 3.95 % per annum, payable quarterly in cash, provided that we have the option to pay interest in kind at 5.50 % per annum. If elected, any such paid in kind interest will be added to the principal balance at each quarterly interest payment date. The 2029 Notes will mature on March 31, 2029, subject to earlier conversion or redemption. The Initial Notes are convertible at Silver Lake’s option into shares of our Class A common stock at an initial conversion rate of 50.0 shares per $ 1,000 principal amount ($ 20.00 per share, representing 12.5 million shares of Class A common stock), subject to customary anti-dilution adjustments. Any 2029 Notes that are converted in connection with a Make-Whole Fundamental Change (as defined in the Indenture) are subject to an increase in the conversion price under certain circumstances. With certain exceptions, upon a Fundamental Change, the holders of the 2029 Notes may require that we repurchase all or part of the principal amount of the 2029 Notes at a purchase price equal to the principal amount and accrued but unpaid interest outstanding, plus the total sum of all remaining scheduled interest payments through the remainder of the term of the 2029 Notes, at the 5.50 % paid in kind interest rate. At any time on or after the fifth anniversary of the Initial Closing Date, the holders of the 2029 Notes may require that we repurchase all or part of the principal amount of the Notes at a purchase price equal to the principal amount plus accrued interest through the date of repurchase. Upon certain events of default, the 2029 Notes may be declared due and payable (or will automatically become so under certain events of default), at a purchase price equal to the principal amount plus accrued interest through the date of repurchase. We have no right to redeem the 2029 Notes prior to maturity. Pursuant to the Investment Agreement, without our prior written consent, Silver Lake is restricted from converting any 2029 Note, exercising any Warrant or transferring any 2029 Note or Warrant to parties other than affiliates or members of Silver Lake (with certain limited exceptions) for 18 months following the Initial Closing Date, or if sooner, upon the consummation of any Change in Control (as defined in the Investment Agreement) or entry into a definitive agreement for a transaction that, if consummated, would result in a Change in Control. We determined that the Initial Notes arrangement consisted of three freestanding instruments: the Initial Notes, the Warrants and the loan commitment related to the Additional Notes. In addition, we evaluated the embedded features in the Initial Notes and identified certain embedded features which were not clearly and closely related to the Initial Notes and met the definition of a derivative, and therefore required bifurcation from the host contract. We determined that the fair value of these bifurcated derivatives was de minimis as of the Initial Closing Date and as of April 30, 2022. As further discussed in Note 17. Warrants to Purchase Shares of Common Stock , a portion of the Warrants issued were determined to require liability classification with the remaining Warrants eligible to be classified in stockholders’ equity. As such, we allocated the proceeds obtained from the Initial Notes first to the liability-classified Warrants and then, on a relative fair value basis, between the equity-classified Warrants and the Initial Notes. We incurred approximately $ 8.1 million of debt issuance costs associated with the 2029 Notes and Warrants. Of this amount, we allocated $ 7.1 million as a component of the discount on the 2029 Notes, $ 0.7 million against the proceeds allocated to the equity-classified Warrants and $ 0.3 million was allocated to the liability-classified Warrants and recorded to General and administrative expense in the accompanying unaudited condensed consolidated statements of comprehensive loss. The 2029 Notes debt discount is being amortized using the effective interest rate method over the five year expected life of the 2029 Notes (representing the period from the contract date to the earliest noncontingent put date of May 24, 2027) and reflects an effective interest rate of 8.5 % at issuance. The carrying value of the Initial Notes was classified as long-term and consisted of the following (in thousands): April 30, 2022 Initial Notes principal $ 250,000 Unamortized discount ( 45,500 ) Carrying value $ 204,500 During the three months ended April 30, 2022, we recognized a total of $ 1.8 million of interest expense related to the Initial Notes in Interest and other income, net in the accompanying unaudited condensed consolidated 13 statements of comprehensive loss, of which $ 1.0 million represents cash interest payments accrued and $ 0.8 million represents amortization of the debt discount. Debt Agreement We have an agreement with Silicon Valley Bank that includes a revolving and term loan facility, which is secured by a lien on substantially all of our non-IP assets (Debt Agreement). Under the revolving loan facility, we may borrow up to $ 30.0 million until October 2022. As of April 30, 2022, we had no t drawn down any amounts under this revolving loan. Under the term loan facility, we borrowed $ 15.0 million in June 2017 to partially finance the acquisition of Leeyo. Payments were interest only through June 2019, after which date payments of principal and interest are due in 36 equal monthly installments beginning in June 2019 until the maturity date in June 2022. A remaining balance of $ 0.4 million was outstanding as of April 30, 2022. The interest rate under both the revolving and term loan facility is equal to the prime rate published by the Wall Street Journal minus 1.00 %. Additionally, we will incur a fee of 1.5 % of the original principal amount of the term loan facility, or $ 225,000 , upon the earlier to occur of prepayment or the termination of the facility. Note 10. Deferred Revenue and Performance Obligations The following table summarizes revenue recognized during the period that was included in the deferred revenue balance at the beginning of each respective period (in thousands): Three Months Ended April 30, 2022 2021 Revenue recognized from deferred revenue $ 73,567 $ 62,919 As of April 30, 2022, total remaining non-cancellable performance obligations under our subscription contracts with customers was approximately $ 425.4 million and we expect to recognize revenue on approximately 58 % of these remaining performance obligations over the next 12 months. Remaining performance obligations under our professional services contracts as of April 30, 2022 were not material. Note 11. Geographical Information Disaggregation of Revenue Revenue by country, based on the customer’s address at the time of sale, was as follows (in thousands): Three Months Ended April 30, 2022 2021 United States $ 59,419 $ 49,707 Others 33,780 30,622 Total $ 93,199 $ 80,329 Percentage of revenue by geographic ar United States 64 % 62 % Other 36 % 38 % Other than the United States, no individual country exceeded 10% of total revenue for the three months ended April 30, 2022 and 2021. Long-lived assets Long-lived assets, which consist of property and equipment, net, deferred commissions, purchased intangible assets, net and operating lease right-of-use assets by geographic location, are based on the location of the legal entity that owns the asset. As of April 30, 2022 and 2021, no individual country exceeded 10% of total long-lived assets other than the United States. 14 Note 12. Leases We have non-cancelable operating leases for our offices located in the U.S. and abroad. As of April 30, 2022, these leases expire on various dates between 2023 and 2030. Certain lease agreements include one or more options to renew, with renewal terms that can extend the lease up to seven years . We have the right to exercise or forego the lease renewal options. The lease agreements do not contain any material residual value guarantees or material restrictive covenants. The components of our long-term operating leases and related operating lease cost were as follows (in thousands): April 30, 2022 January 31, 2022 Operating lease right-of-use assets $ 30,482 $ 32,643 Operating lease liabilities, current portion $ 10,907 $ 11,462 Operating lease liabilities, net of current portion 43,149 45,633 Total operating lease liabilities $ 54,056 $ 57,095 Three Months Ended April 30, 2022 2021 Operating lease cost 1 $ 2,634 $ 3,216 (1) Includes costs related to our short-term operating leases as follows (in thousands): Three Months Ended April 30, 2022 2021 Short-term operating lease costs $ 90 $ 102 The future maturities of long-term operating lease liabilities for each fiscal year were as follows (in thousands): Maturities of Operating Lease Liabilities 2023 (remainder of the year) $ 10,230 2024 11,025 2025 6,386 2026 6,242 2027 6,429 Thereafter 23,468 Total lease payments 63,780 Less imputed interest ( 9,724 ) Present value of lease liabilities $ 54,056 15 Other supplemental information related to our long-term operating leases includes the following (dollars in thousands): April 30, 2022 January 31, 2022 Weighted-average remaining operating lease term 6.9 years 7.0 years Weighted-average operating lease discount rate 4.6 % 4.6 % Three Months Ended April 30, 2022 2021 Supplemental Cash Flow Information Cash paid for amounts included in the measurement of lease liabiliti Cash paid for operating leases $ 3,414 $ 3,409 New right-of-use assets obtained in exchange for lease liabiliti Operating leases obtained $ — $ 3,923 Note 13. Commitments and Contingencies Letters of Credit In connection with the execution of certain facility leases, we had bank issued irrevocable letters of credit for $ 4.5 million as of April 30, 2022 and January 31, 2022. No draws have been made under such letters of credit. Legal Proceedings From time to time, we may be subject to legal proceedings, as well as demands, claims and threatened litigation. The outcomes of legal proceedings and other contingencies are inherently unpredictable, subject to significant uncertainties, and could be material to our operating results and cash flows for a particular period. Regardless of the outcome, litigation can have an adverse impact on our business because of defense and settlement costs, diversion of management resources, and other factors. Other than the matters described below, we are not currently party to any legal proceeding that we believe could have a material adverse effect on our business, operating results, cash flows, or financial condition should such litigation or claim be resolved unfavorably. Securities Class Actions In June 2019, a putative securities class action lawsuit was filed in the U.S. District Court for the Northern District of California naming Zuora and certain of its officers as defendants. The complaint purports to bring suit on behalf of stockholders who purchased or otherwise acquired Zuora's securities between April 12, 2018 and May 30, 2019. The complaint alleges that defendants made false and misleading statements about Zuora's business, operations and prospects in violation of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended (Exchange Act), and seeks unspecified compensatory damages, fees and costs. In November 2019, the lead plaintiff filed a consolidated amended complaint asserting the same claims. In April 2020, the court denied defendants’ motion to dismiss. On March 15, 2021, the court granted plaintiff’s motion to certify a class consisting of persons and entities who purchased or acquired Zuora common stock between April 12, 2018 and May 30, 2019 and who were allegedly damaged thereby. Discovery in this case is ongoing. In April and May 2020, two putative securities class action lawsuits were filed in the Superior Court of the State of California, County of San Mateo, naming as defendants Zuora and certain of its current and former officers, its directors and the underwriters of Zuora's initial public offering (IPO). The complaints purport to bring suit on behalf of stockholders who purchased or otherwise acquired Zuora's securities pursuant or traceable to the Registration Statement and Prospectus issued in connection with Zuora's IPO and allege claims under Sections 11, 12(a)(2) and 15 of the Securities Act of 1933. The suits seek unspecified damages and other relief. In July 2020, the court entered an order consolidating the two lawsuits, and the lead plaintiffs filed a consolidated amended complaint asserting the same claims. In October 2020, the court denied defendants ’ demurrer as to the Section 11 and Section 15 claims and granted the demurrer as to the Section 12(a)(2) claim with leave to file an amended complaint. In November 2020, the lead plaintiffs filed an amended consolidated complaint. Defendants' demurrer to the Section 12(a)(2) claim was sustained with leave to amend. On October 14, 2021, the court certified a class for the Section 11 and Section 15 claims, consisting of persons and entities who purchased or acquired Zuora common 16 stock pursuant or traceable to the Registration Statement and Prospectus issued in connection with Zuora’s IPO. The lead plaintiffs voluntarily dismissed the Section 12(a)(2) claim without prejudice. Discovery in this case is ongoing. Given the procedural posture and the nature of such litigation matters, we are unable to estimate the reasonably possible loss or range of loss, if any, that may result from these matters. We dispute the claims described above and intend to vigorously defend against them. Derivative Litigation In September 2019, two stockholder derivative lawsuits were filed in the U.S. District Court for the Northern District of California against certain of Zuora’s directors and executive officers and naming Zuora as a nominal defendant. The derivative actions allege claims based on events similar to those in the securities class actions and assert causes of action against the individual defendants for breach of fiduciary duty, unjust enrichment, waste of corporate assets, and for making false and misleading statements about Zuora's business, operations, and prospects in violation of Section 14(a) of the Exchange Act. Plaintiffs seek corporate reforms, unspecified damages and restitution, and fees and costs. In November 2019, the stockholder derivative lawsuits, which are related to the federal securities class action, were assigned to the same judge who is overseeing the federal securities class action lawsuit. In February 2020, the court entered an order consolidating the two derivative lawsuits. In August 2020, the court entered an order staying the consolidated action until the completion of fact discovery in the federal securities class action. In March 2022, plaintiffs filed a consolidated shareholder derivative complaint. Pursuant to the August 2020 order, the case remains stayed. In May and June 2020, two stockholder derivative lawsuits were filed in the U.S. District Court for the District of Delaware against certain of Zuora’s directors and current and former executive officers. The derivative actions allege claims based on events similar to those in the securities class actions and the derivative actions pending in the Northern District of California and assert causes of action against the individual defendants for breach of fiduciary duty, unjust enrichment, waste of corporate assets, contribution, and for making false and misleading statements about Zuora’s business, operations, and prospects in violation of Section 14(a) of the Exchange Act. Plaintiff seeks corporate reforms, unspecified damages and restitution, and fees and costs. In June 2020, the court entered an order consolidating the two District of Delaware derivative lawsuits. In August 2020, the court entered an order staying the consolidated action until the completion of fact discovery in the federal securities class action. In February and March 2021, two additional stockholder derivative lawsuits were filed in Delaware Chancery Court alleging similar claims based on the same underlying events. The two Chancery Court cases have been consolidated, an amended consolidated complaint has been filed, and the cases have been stayed until the completion of fact discovery in the federal securities class action described above. In May 2022, a stockholder derivative lawsuit was filed in the U.S. District Court for the Northern District of California against certain of Zuora’s directors and executive officers and naming Zuora as a nominal defendant. The derivative action alleges claims based on events similar to those in the securities class actions and asserts causes of action against the individual defendants for breach of fiduciary duty, waste of corporate assets, unjust enrichment, and contribution. Plaintiff seeks corporate reforms, unspecified damages and restitution, and fees and costs. Given the procedural posture and the nature of such litigation matters, we are unable to estimate the reasonably possible loss or range of loss, if any, that may result from these matters. Other Contractual Obligations As of April 30, 2022, we had a contractual obligation to make $ 52.1 million in purchases of cloud computing services provided by one of our vendors by September 30, 2024. 17 Note 14. Income Taxes The following table reflects our income tax provision, pretax loss and effective tax rate for the periods presented (in thousands, except percentages): Three Months Ended April 30, 2022 2021 Loss before income taxes $ ( 22,860 ) $ ( 17,288 ) Income tax provision 308 373 Effective tax rate ( 1.3 ) % ( 2.2 ) % The effective tax rates differ from the statutory rates primarily as a result of providing no benefit on pretax losses incurred in the United States, as we have determined that the benefit of the losses is not more likely than not to be realized. Note 15. Stockholders’ Equity Preferred Stock As of April 30, 2022, Zuora had authorized 10 million shares of preferred stock, each with a par value of $ 0.0001 per share. As of April 30, 2022, no shares of preferred stock were issued and outstanding. Common Stock Prior to Zuora's IPO, which was effective in April 2018, all shares of common stock then outstanding were reclassified into Class B common stock. Shares offered and sold in the IPO consisted of newly authorized shares of Class A common stock. Holders of Class A and Class B common stock are entitled to one vote per share and ten votes per share, respectively, and the shares of Class A common stock and Class B common stock are identical, except for voting rights and the right to convert Class B common stock to Class A common stock. As of April 30, 2022, Zuora had authorized 500 million shares of Class A common stock and 500 million shares of Class B common stock, each with a par value of $ 0.0001 per share. As of April 30, 2022, 121.1 million shares of Class A common stock and 8.0 million shares of Class B common stock were issued and outstanding. Accumulated Other Comprehensive Loss Components of accumulated other comprehensive loss were as follows (in thousands): Foreign Currency Translation Adjustment Unrealized Loss on Available-for-Sale Securities Total Balance, January 31, 2022 $ 118 $ ( 226 ) $ ( 108 ) Foreign currency translation adjustment ( 359 ) — ( 359 ) Unrealized loss on available-for-sale securities — ( 398 ) ( 398 ) Balance, April 30, 2022 $ ( 241 ) $ ( 624 ) $ ( 865 ) There were no material reclassifications out of accumulated other comprehensive loss during the three months ended April 30, 2022. Additionally, there was no material tax impact on the amounts presented. 18 Note 16. Employee Stock Plans Equity Incentive Plans In March 2018, our Board of Directors adopted and our stockholders approved the 2018 Equity Incentive Plan (2018 Plan). The 2018 Plan authorizes the award of stock options, restricted stock awards, stock appreciation rights, restricted stock units (RSUs), performance awards, and stock bonuses. As of April 30, 2022, approximately 30.1 million shares of Class A common stock were reserved and available for issuance under the 2018 Plan. In addition, as of April 30, 2022, 4.6 million stock options and RSUs exercisable or settleable for Class B common stock were outstanding in the aggregate under our 2006 Stock Plan (2006 Plan) and 2015 Equity Incentive Plan (2015 Plan), which plans were terminated in May 2015 and April 2018, respectively. The 2006 Plan and 2015 Plan continue to govern outstanding equity awards granted thereunder. Stock Options The following tables summarize stock option activity and related information (in thousands, except weighted-average exercise price, weighted-average grant date fair value and average remaining contractual term): Shares Subject To Outstanding Stock Options Weighted-Average Exercise Price Average Remaining Contractual Term (Years) Aggregate Intrinsic Value Balance, January 31, 2022 8,560 $ 9.22 5.9 67,259 Granted — — Exercised ( 135 ) 6.79 Forfeited ( 64 ) 13.84 Balance, April 30, 2022 8,361 9.22 5.6 36,324 Exercisable as of April 30, 2022 5,108 5.20 4.3 35,576 Vested and expected to vest as of April 30, 2022 8,140 9.10 5.6 36,242 Three Months Ended April 30, 2022 1 2021 Weighted-average grant date fair value per share of options granted during each respective period — $ 6.53 Aggregate intrinsic value of options exercised during each respective period $ 1,089 $ 6,591 19 We used the Black-Scholes option-pricing model to estimate the fair value of our stock options granted during each respective period using the following assumptio Three Months Ended April 30, 2022 1 2021 Fair value of common stock — $ 15.66 Expected volatility — 42.3 % Expected term (years) — 6.1 Risk-free interest rate — 1.0 % Expected dividend yield — — ______________ (1) No stock options were granted during the period. RSUs The following table summarizes RSU activity and related information (in thousands, except weighted-average grant date fair value): Number of RSUs Outstanding Weighted-Average Grant Date Fair Value Balance, January 31, 2022 12,171 $ 15.46 Granted 1,516 15.22 Vested ( 956 ) 15.08 Forfeited ( 551 ) 14.74 Balance, April 30, 2022 12,180 15.49 Performance Stock Units (PSUs) In March 2022, we granted PSUs to certain executives under our 2018 Plan. Each grant is divided into three tranches, each tranche having pre-established performance targets that if met, as determined quarterly by our Compensation Committee, would result in the shares attributable to such tranche being earned, subject to a service-based vesting condition. The shares attributable to unearned tranches will be forfeited on January 31, 2025, if the applicable performance criteria for such tranches are not met. Stock-based compensation expense is recognized if it is probable the performance targets (for each respective tranche) will be met during the performance period. The following table summarizes PSU activity and related information (in thousands, except weighted-average grant date fair value): Number of PSUs Outstanding Weighted-Average Grant Date Fair Value Balance, January 31, 2022 — $ — Granted 2,905 15.21 Vested — — Forfeited — — Balance, April 30, 2022 2,905 15.21 2018 Employee Stock Purchase Plan In March 2018, our Board of Directors adopted and our stockholders approved the 2018 Employee Stock Purchase Plan (ESPP). This plan is broadly available to our employees in the United States and certain other countries in which we operate. A total of 5.3 million shares of Class A common stock were reserved and available for issuance under the ESPP as of April 30, 2022. The ESPP provides for 24 -month offering periods beginning June 15 20 and December 15 of each year, and each offering period contains four six-month purchase periods. On each purchase date, ESPP participants will purchase shares of our Class A common stock at a price per share equal to 85 % of the lesser of (1) the fair market value of the Class A common stock on the offering date or (2) the fair market value of the Class A common stock on the purchase date. Stock-Based Compensation Expense Stock-based compensation expense was recorded in the following cost and expense categories in the accompanying unaudited condensed consolidated statements of comprehensive loss (in thousands): Three Months Ended April 30, 2022 2021 Cost of subscription revenue $ 1,799 $ 1,043 Cost of professional services revenue 3,017 2,001 Research and development 5,966 4,529 Sales and marketing 7,456 4,080 General and administrative 4,587 2,144 Total stock-based compensation expense $ 22,825 $ 13,797 As of April 30, 2022, unrecognized compensation costs related to unvested equity awards and the weighted-average remaining period over which those costs are expected to be recognized were as follows (dollars in thousands): Stock Options RSUs PSUs ESPP Unrecognized compensation costs $ 9,512 $ 147,493 $ 32,920 $ 2,994 Weighted-average remaining recognition period 2.2 years 2.5 years 2.4 years 0.7 years Note 17. Warrants to Purchase Shares of Common Stock In connection with the issuance of the 2029 Notes (discussed Note 9. Debt ), we issued to Silver Lake the Warrants to acquire up to 7.5 million shares of Class A common stock, exercisable for a period of approximately seven years from the Initial Closing Date, and of which (i) warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 20.00 per share, (ii) warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 22.00 per share and (iii) warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 24.00 per share. In addition, Silver Lake can elect to exercise the Warrants on a net-exercise basis. If a Make-Whole Fundamental Change (as defined in the Form of Warrant) occurs, then the number of shares issuable upon exercise of the Warrants may be increased, and the exercise price for the Warrants adjusted. Beginning on the Initial Closing Date and ending on the earlier of (i) the date that is 18 months following the Initial Closing Date and (ii) the consummation of any Change in Control, except for certain limited exceptions, the Warrants are only exercisable with our written approval. We have classified a portion of the Warrants as a current liability due to certain settlement provisions in the Warrants. Under certain Make-Whole Fundamental Change scenarios, we would be required to, at our option, either (i) obtain shareholder approval prior to issuing 20 % or more of our outstanding common stock or (ii) pay cash in lieu of delivering any shares at or above such 20 % threshold. As a result, we concluded that approximately 2.8 million Warrants valued at $ 12.0 million as of the Initial Closing Date do not qualify for equity classification under ASC 815-40, pursuant to our sequencing policy described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements. We will reassess the classification of the Warrant liability in future reporting periods to determine if any change is required. 21 The Warrant liability was measured under the Black-Scholes option pricing model using the following inputs as of April 30, 2022 and the issuance date (Initial Closing Date): April 30, 2022 March 24, 2022 Fair value of common stock 1 $ 10.94 $ 13.77 Exercise price² $ 22.00 - $ 24.00 $ 22.00 - $ 24.00 Expected volatility 41.9 % 41.9 % Expected term (in years) 6.9 7.0 Risk-free interest rate 2.4 % 2.4 % Expected dividend yield — — ______________ (1) The fair value of common stock was adjusted to reflect certain restrictions on the Warrants for 18 months following the issuance date. (2) The range of exercise prices reflects the Warrants that were liability-classified. During the three months ended April 30, 2022, the liability-classified Warrants were revalued to $ 7.7 million, resulting in a gain of $ 4.4 million, which is included in Interest and other income, net in the accompanying unaudited condensed consolidated statements of comprehensive loss. As of April 30, 2022, 7.5 million Warrants were outstanding. Note 18. Net Loss Per Share The following table presents the calculation of basic and diluted net loss per share for the periods presented (in thousands, except per share data): Three Months Ended April 30, 2022 2021 Numerato Net loss $ ( 23,168 ) $ ( 17,661 ) Denominato Weighted-average common shares outstanding, basic and diluted 128,457 121,354 Net loss per share, basic and diluted $ ( 0.18 ) $ ( 0.15 ) Since we were in a net loss position for all periods presented, basic net loss per share attributable to common stockholders is the same as diluted net loss per share, as the inclusion of all potential common shares outstanding would have been anti-dilutive. Potentially dilutive securities that were not included in the diluted per share calculations because they would be anti-dilutive were as follows (in thousands): April 30, 2022 2021 Initial Notes conversion 12,500 — Unvested RSUs issued and outstanding 12,180 8,554 Issued and outstanding stock options 8,361 10,878 Warrants 7,500 — Unvested PSUs issued and outstanding 2,905 — Shares committed under ESPP 370 333 Total 43,816 19,765 22 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements and related notes appearing elsewhere in this Form 10-Q and our Annual Report on Form 10-K for the fiscal year ended January 31, 2022 filed with the Securities and Exchange Commission (SEC) on March 28, 2022 (Annual Report). As discussed in the section titled “Special Note Regarding Forward-Looking Statements,” the following discussion and analysis contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. Factors that could cause or contribute to these differences include, but are not limited to, those identified below and those discussed in the section titled “Risk Factors” under Part II, Item 1A in this Form 10-Q and in our Annual Report. Our fiscal year ends on January 31. Overview Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the entire quote-to-cash and revenue recognition process, including quoting, billing, collections and revenue recognition. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. Many of today’s enterprise software systems manage their quote-to-cash and revenue recognition process using software built for one-time transactions. These systems were not designed for the dynamic, ongoing nature of subscription, usage, or consumption-based pricing models, and can be extremely difficult to configure. In traditional product-based businesses, quote-to-cash and revenue recognition was a linear process—a customer orders a product, is billed for that product, payment is collected, and the revenue is recognized. These legacy product-based systems were not specifically designed to handle the complexities of ongoing customer relationships and recurring revenue, commonly found in a subscription business, and their impact on areas such as billing proration, revenue recognition, reporting in real-time, and the lifetime value of the customer. Using legacy or homegrown software to build a subscription business often results in inefficient processes with prolonged and complex manual downstream work, hard-coded customizations, and a proliferation of stock-keeping units (SKUs). However, enterprise business models are inherently dynamic, with multiple interactions, flexible pricing, global complexities, and continuously-evolving relationships and events. The capabilities to launch, price, and bill for products, facilitate and record cash receipts, process and recognize revenue, and analyze data to drive key decisions are mission critical and particularly complex for companies that operate at a global scale. As a result, as companies launch, grow, and scale their businesses, they often conclude that legacy systems are inadequate. That’s where Zuora comes in. Our vision is “The World Subscribed” -- the idea that one day every company will be a part of the Subscription Economy. Our focus has been on providing the technology our customers need to thrive as a customer-centric, recurring revenue business. Our solution includes Zuora Central Platform, Zuora Billing, Zuora Revenue, Zuora Collect, and other software that support and expand upon these core products. Our software helps companies analyze data - including information such as which customers are delivering the most recurring revenue, or which segments are showing the highest churn, enabling customers to make informed decisions for their subscription business and quickly implement changes such as launching new services, updating pricing (usage, time, or outcome based), delivering new offerings, or making other changes to their customers’ subscription experience. We also have a large subscription ecosystem of global partners and the Subscribed Strategy Group, that can assist our customers with additional strategies and services throughout the subscription journey. Companies in a variety of industries - technology, manufacturing, media and entertainment, telecommunications, and many others - are using our solution to scale and adapt to a world that is increasingly choosing subscription-based offerings. 23 COVID-19 Pandemic Impact Our financial results for the fiscal quarter ended April 30, 2022 have not been materially impacted by the COVID-19 pandemic. The extent to which the COVID-19 pandemic impacts our business operations, financial performance and liquidity in future periods will depend on multiple uncertain factors, including the duration and severity of the COVID-19 pandemic, developments related to COVID-19 variants and vaccine efficacy, the pandemic’s overall negative impact on the global economy generally and on our customers, which operate in numerous industries, and continued responses by governments and businesses to COVID-19. Because our products are generally offered as subscription-based licenses and a portion of that revenue is recognized over time, the effect of the COVID-19 pandemic may not be fully reflected in our results of operations until future periods. We will continue to evaluate the nature and extent of the impact of the COVID-19 pandemic on our business. See Part II, Item 1A. Risk Factors of this Quarterly Report on Form 10-Q for further discussion of the possible impact of the COVID-19 pandemic on our business and financial results. Fiscal First Quarter Business Highlights and Recent Developments: • We closed six deals that exceeded $500,000 in ACV, two of which exceeded $1.0 million. • Our dollar-based retention rate improved to 110% compared to 103% as of April 30, 2021. • Customers with ACV exceeding $100,000 totaled 746 as of April 30, 2022, an increase of 10% compared to last year. • Our ARR was $326.3 million compared to $271.8 million as of April 30, 2021, representing ARR Growth of 20% compared to 14% as of April 30, 2021. • Customer usage of Zuora solutions grew, with $20.6 billion in transaction volume through Zuora's billing platform during the three months ended April 30, 2022 , an increase of 21% year-over-year. • On March 24, 2022, we issued $250.0 million of convertible senior unsecured notes to Silver Lake, one of the leading technology private equity investors. Under the terms of the agreement with Silver Lake, we will issue an additional $150.0 million of convertible senior unsecured notes to Silver Lake within 18 months of the initial issuance date. We have also issued warrants to Silver Lake in connection with the transaction. Fiscal First Quarter Financial Performance Summary: Our financial performance for the three months ended April 30, 2022 compared to the three months ended April 30, 2021 reflects the followin • Subscription revenue was $78.5 million, an increase of $13.4 million, or 21%; and total revenue was $93.2 million, an increase of $12.9 million, or 16%. • Gross profit was $57.0 million, or 61% of total of revenue, compared to $47.6 million, or 59% of total revenue. • Loss from operations was $23.7 million, or 25% of total revenue, compared to a loss of $17.4 million, or 22% of total revenue. Key Operational and Financial Metrics We monitor the following key operational and financial metrics to evaluate our business, measure our performance, identify trends affecting our business, formulate business plans and make strategic decisio Customers with Annual Contract Value (ACV) Equal to or Greater than $100,000 We believe our ability to enter into larger contracts is indicative of broader adoption of our solution by larger organizations. It also reflects our ability to expand our revenue footprint within our current customer base. We define ACV as the subscription revenue we would contractually expect to recognize from that customer over the next 24 twelve months, assuming no increases or reductions in their subscriptions. We define the number of customers at the end of any particular period as the number of parties or organizations that have entered into a distinct subscription contract with us for which the term has not ended. Each party with which we have entered into a distinct subscription contract is considered a unique customer, and in some cases, there may be more than one customer within a single organization. The number of customers with ACV equal to or greater than $100,000 increased to 746 as of April 30, 2022, as compared to 677 customers as of April 30, 2021. We expect this metric to increase for the fiscal year. Dollar-Based Retention Rate We believe our dollar-based retention rate is a key measure of our ability to retain and expand revenue from our customer base over time. We calculate our dollar-based retention rate as of a period end by starting with the sum of the ACV from all customers as of twelve months prior to such period end, or prior period ACV. We then calculate the sum of the ACV from these same customers as of the current period end, or current period ACV. Current period ACV includes any upsells and also reflects contraction or attrition over the trailing twelve months, but excludes revenue from new customers added in the current period. We then divide the current period ACV by the prior period ACV to arrive at our dollar-based retention rate. Our dollar-based retention rate increased to 110% as of April 30, 2022, as compared to 103% as of April 30, 2021. While the dollar-based retention rate can fluctuate in any particular quarter, we expect it to increase slightly over the remainder of this fiscal year. Annual Recurring Revenue (ARR) ARR represents the annualized recurring value at the time of initial booking or contract modification for all active subscription contracts at the end of a reporting period. ARR excludes the value of non-recurring revenue such as professional services revenue as well as contracts with new customers with a term of less than one year. ARR should be viewed independently of revenue and deferred revenue, and is not intended to be a substitute for, or combined with, any of these items. Our ARR was $326.3 million as of April 30, 2022, compared to $271.8 million as of April 30, 2021. Our ARR increased 20% year over year as of April 30, 2022 compared to an increase of 14% for the comparable period of the prior year. We expect our ARR growth rate to increase slightly over the remainder of the fiscal year. Components of Our Results of Operations Revenue Subscription revenue. Subscription revenue consists of fees for access to, and use of, our products, as well as customer support. We generate subscription fees pursuant to non-cancelable subscription agreements with terms that typically range from one to three years. Subscription revenue is primarily based on fees to access our services platform over the subscription term. We typically invoice customers in advance in either annual or quarterly installments. Customers can also elect to purchase additional volume blocks or products during the term of the contract. We typically recognize subscription revenue ratably over the term of the subscription period, beginning on the date that access to our platform is provided, which is generally on or about the date the subscription agreement is signed. Professional services revenue. Professional services revenue consists of fees for services related to helping our customers deploy, configure, and optimize the use of our solutions. These services include system integration, data migration, process enhancement, and training. Professional services projects generally take three to twelve months to complete. Once the contract is signed, we generally invoice for professional services on a time and materials basis, although we occasionally engage in fixed-price service engagements and invoice for those based upon agreed milestone payments. We recognize revenue as services are performed for time and materials engagements and on a proportional performance method as the services are performed for fixed fee engagements. We expect to continue to transition a portion of our professional services implementations to our strategic partners, including system integrators (SIs), and as a result we expect our professional services revenue to decrease over time as a percentage of total revenue. Deferred Revenue Deferred revenue consists of customer billings in advance of revenue being recognized from our subscription and support services and professional services arrangements. We primarily invoice our customers for subscription 25 services arrangements annually or quarterly in advance. Amounts anticipated to be recognized within one year of the balance sheet date are recorded as deferred revenue, current portion, and the remaining portion is recorded as deferred revenue, net of current portion in our unaudited condensed consolidated balance sheets. Overhead Allocation and Employee Compensation Costs We allocate shared costs, such as facilities costs (including rent, utilities, and depreciation on capital expenditures related to facilities shared by multiple departments), information technology costs, and certain administrative personnel costs to all departments based on headcount and location. As such, allocated shared costs are reflected in each cost of revenue and operating expenses category. Employee compensation costs consist of salaries, bonuses, commissions, benefits, and stock-based compensation. Cost of Revenue, Gross Profit and Gross Margin Cost of subscription revenue. Cost of subscription revenue consists primarily of costs related to hosting our platform and providing customer support. These costs include data center costs and third-party hosting fees, employee compensation costs associated with our cloud-based infrastructure and our customer support organizations, amortization expense associated with capitalized internal-use software and purchased technology, allocated overhead, software and maintenance costs, and outside services associated with the delivery of our subscription services. We intend to continue to invest in our platform infrastructure, including third-party hosting capacity, and support organizations. However, the level and timing of investment in these areas could fluctuate and affect our cost of subscription revenue in the future. Cost of professional services revenue. Cost of professional services revenue consists primarily of costs related to the deployment of our platform. These costs include employee compensation costs for our professional services team, allocated overhead, travel costs, and costs of outside services associated with supplementing our internal staff. We believe that investment in our system integrator partner network will lead to total margin improvement, however costs may fluctuate in the near term as we shift deployments to our partner network. Gross profit and gross margin. Our gross profit and gross margin may fluctuate from period to period as our revenue fluctuates, and as a result of the timing and amount of investments to expand hosting capacity, including through third-party cloud providers, amortization expense associated with our capitalized internal-use software and purchased technology, and our continued efforts to build our cloud infrastructure, support, and professional services teams. Operating Expenses Research and development. Research and development expense consists primarily of employee compensation costs, allocated overhead, and travel costs. We capitalize research and development costs associated with the development of internal-use software and we generally amortize these costs over a period of three years into cost of subscription revenue. All other research and development costs are expensed as incurred. We believe that continued investment in our platform is important for our growth, and as such, expect our research and development expense to continue to increase in absolute dollars for the foreseeable future but may increase or decrease as a percentage of total revenue. Sales and marketing. Sales and marketing expense consists primarily of employee compensation costs, including the amortization of deferred commissions related to our sales personnel, allocated overhead, costs of general marketing and promotional activities, and travel costs. Commission costs that are incremental to obtaining a contract are amortized in sales and marketing expense over the period of benefit, which is expected to be five years. We expect to continue to make significant investments as we expand our customer acquisition and retention efforts. Therefore, we expect that sales and marketing expense will increase in absolute dollars but may vary as a percentage of total revenue for the foreseeable future. General and administrative. General and administrative expense consists primarily of employee compensation costs, allocated overhead, and travel costs for finance, accounting, legal, human resources, and recruiting personnel. In addition, general and administrative expense includes non-personnel costs, such as accounting fees, legal fees, charitable contributions, asset impairments, and all other supporting corporate expenses not allocated to 26 other departments. We expect to incur ongoing costs as a result of operating as a public company, including costs related to compliance and reporting obligations of public companies, and continued investment to support our growing operations. As a result, we expect our general and administrative expense to continue to increase in absolute dollars for the foreseeable future but may vary as a percentage of total revenue in the near term. Over the long-term, we expect general and administrative expense to decline as a percentage of total revenue due to economies we will realize as we scale our business. Interest and Other Income, net Interest and other income, net primarily consists of interest income from our investment holdings, amortization of discount and amortization of debt issuance costs on the 2029 Notes, interest expense associated with our Debt Agreement, gain or loss on the revaluation of the warrant liability, and foreign exchange fluctuations. Income Tax Provision Income tax provision consists primarily of income taxes related to foreign and state jurisdictions in which we conduct business. We maintain a full valuation allowance on our federal and state deferred tax assets as we have concluded that it is more likely than not that the deferred assets will not be utilized. Results of Operations The following tables set forth our unaudited condensed consolidated results of operations for the periods presented in dollars and as a percentage of our total revenue (in thousands): Three Months Ended April 30, 2022 2021 Reve Subscription $ 78,500 $ 65,142 Professional services 14,699 15,187 Total revenue 93,199 80,329 Cost of reve Subscription 18,725 15,643 Professional services 17,510 17,078 Total cost of revenue 36,235 32,721 Gross profit 56,964 47,608 Operating expens Research and development 22,872 18,967 Sales and marketing 40,457 31,865 General and administrative 17,290 14,185 Total operating expenses 80,619 65,017 Loss from operations (23,655) (17,409) Interest and other income, net 795 121 Loss before income taxes (22,860) (17,288) Income tax provision 308 373 Net loss $ (23,168) $ (17,661) 27 Three Months Ended April 30, 2022 2021 Reve Subscription 84 % 81 % Professional services 16 19 Total revenue 100 100 Cost of reve Subscription 20 19 Professional services 19 21 Total cost of revenue 39 41 Gross profit 61 59 Operating expens Research and development 25 24 Sales and marketing 43 40 General and administrative 19 18 Total operating expenses 87 81 Loss from operations (25) (22) Interest and other income, net 1 — Loss before income taxes (25) (22) Income tax provision — — Net loss (25) % (22) % Note: Percentages in the table above may not sum due to rounding. Non-GAAP Financial Measures To supplement our unaudited condensed consolidated financial statements presented in accordance with U.S. GAAP, we monitor and consider non-GAAP cost of subscription revenue, non-GAAP cost of professional services revenue, non-GAAP gross profit, non-GAAP subscription gross margin, non-GAAP professional services gross margin, non-GAAP total gross margin, non-GAAP research and development expense, non-GAAP sales and marketing expense, non-GAAP general and administrative expense, non-GAAP loss from operations, non-GAAP operating margin, non-GAAP net loss, non-GAAP net loss per share, and free cash flow. We use non-GAAP financial measures in conjunction with GAAP measures as part of our overall assessment of our performance, including the preparation of our annual operating budget and quarterly forecasts, to evaluate the effectiveness of our business strategies and to communicate with our Board of Directors concerning our financial performance. We believe these non-GAAP measures provide investors consistency and comparability with our past financial performance and facilitate period-to-period comparisons of our operating results. We also believe these non-GAAP measures are useful in evaluating our operating performance compared to that of other companies in our industry, as they generally eliminate the effects of certain items that may vary for different companies for reasons unrelated to overall operating performance. Investors are cautioned that there are material limitations associated with the use of non-GAAP financial measures as an analytical tool. The non-GAAP financial measures we use may be different from non-GAAP financial measures used by other companies, limiting their usefulness for comparison purposes. We compensate for these limitations by providing specific information regarding the GAAP items excluded from our non-GAAP financial measures. The presentation of these non-GAAP financial measures is not intended to be considered in isolation or as a substitute for, or superior to, financial information prepared and presented in accordance with GAAP. Reconciliations of our non-GAAP financial measures to the nearest respective GAAP measures are provided below. We exclude the following items from one or more of our non-GAAP financial measu • Stock-based compensation expense . We exclude stock-based compensation expense, which is a non-cash expense, because we believe that excluding this item provides meaningful supplemental information 28 regarding operational performance. In particular, stock-based compensation expense is not comparable across companies given it is calculated using a variety of valuation methodologies and subjective assumptions. • Amortization of acquired intangible assets . We exclude amortization of acquired intangible assets, which is a non-cash expense, because we do not believe it has a direct correlation to the operation of our business. • Charitable donations . We exclude expenses associated with charitable donations of our common stock from certain of our non-GAAP financial measures. We believe that excluding these non-cash expenses allows investors to make more meaningful comparisons between our operating results and those of other companies. • Certain litigation. We exclude non-recurring charges and benefits, net of expected insurance recoveries, including litigation expenses and settlements, related to litigation matters that are outside of the ordinary course of our business. We believe these charges and benefits do not have a direct correlation to the operations of our business and may vary in size depending on the timing and results of such litigation and related settlements. • Asset impairment . We exclude non-cash charges for impairment of assets, including impairments related to internal-use software and office leases, from certain of our non-GAAP financial measures. Impairment charges can vary significantly in terms of amount and timing and we do not consider these charges indicative of our current or past operating performance. Moreover, we believe that excluding the effects of these charges allows investors to make more meaningful comparisons between our operating results and those of other companies. • Change in fair value of warrant liabilities. We exclude the change in fair value of warrant liabilities, which is a non-cash gain or loss, as it can fluctuate significantly with changes in Zuora's stock price and market volatility, and does not reflect the underlying cash flows or operational results of the business. The following tables provide a reconciliation of our GAAP to Non-GAAP measures (in thousands, except percentages and per share data): Three Months Ended April 30, 2022 GAAP Stock-based Compensation Amortization of Acquired Intangibles Certain Litigation Change in Fair Value of Warrant Liability Non-GAAP Cost of reve Cost of subscription revenue $ 18,725 $ (1,799) $ (554) $ — $ — $ 16,372 Cost of professional services revenue 17,510 (3,017) — — — 14,493 Gross profit 56,964 4,816 554 — — 62,334 Operating expens Research and development 22,872 (5,966) — — — 16,906 Sales and marketing 40,457 (7,456) — — — 33,001 General and administrative 17,290 (4,587) — (120) — 12,583 Loss from operations (23,655) 22,825 554 120 — (156) Net loss $ (23,168) $ 22,825 $ 554 $ 120 $ (4,373) $ (4,042) Net loss per share, basic and diluted 1 $ (0.18) $ (0.03) Gross margin 61 % 67 % Subscription gross margin 76 % 79 % Professional services gross margin (19) % 1 % Operating margin (25) % — % 29 Three Months Ended April 30, 2021 2 GAAP Stock-based Compensation Amortization of Acquired Intangibles Certain Litigation Non-GAAP Cost of reve Cost of subscription revenue $ 15,643 $ (1,043) $ (423) — $ 14,177 Cost of professional services revenue 17,078 (2,001) — — 15,077 Gross profit 47,608 3,044 423 — 51,075 Operating expens Research and development 18,967 (4,529) — — 14,438 Sales and marketing 31,865 (4,080) — — 27,785 General and administrative 14,185 (2,144) — (809) 11,232 Loss from operations (17,409) 13,797 423 809 (2,380) Net loss $ (17,661) $ 13,797 $ 423 $ 809 $ (2,632) Net loss per share, basic and diluted 1 $ (0.15) $ (0.02) Gross margin 59 % 64 % Subscription gross margin 76 % 78 % Professional services gross margin (12) % 1 % Operating margin (22) % (3) % _________________________________ (1) GAAP and Non-GAAP net loss per share are calculated based upon 128.5 million and 121.4 million weighted-average shares of common stock outstanding for the three months ended April 30, 2022 and 2021, respectively. (2) Beginning with the second quarter ended July 31, 2021, we no longer exclude non-cash adjustments for capitalization and amortization of internal-use software from our non-GAAP financial measures. We believe that this change more closely aligns our reported financial measures with current industry practice. Our non-GAAP financial measures for the three months ended April 30, 2021 were recast to conform to the updated methodology for comparison purposes. Free Cash Flow We define free cash flow as net cash provided by operating activities, less cash used for purchases of property and equipment, net of insurance recoveries. Insurance recoveries include amounts paid to us for property and equipment that were damaged in January 2020 at our corporate headquarters. We include the impact of net purchases of property and equipment in our free cash flow calculation because we consider these capital expenditures to be a necessary component of our ongoing operations. We consider free cash flow to be a liquidity measure that provides useful information to management and investors about the amount of cash generated by the business that can possibly be used for investing in our business and strengthening our balance sheet, but it is not intended to represent the residual cash flow available for discretionary expenditures. Three Months Ended April 30, 2022 2021 (in thousands) Net cash provided by operating activities $ 6,983 $ 10,251 L Purchases of property and equipment, net of insurance recoveries (3,263) (1,621) Free cash flow $ 3,720 $ 8,630 30 Comparison of the Three Months Ended April 30, 2022 and 2021 Revenue Three Months Ended April 30, 2022 2021 $ Change % Change (dollars in thousands) Reve Subscription $ 78,500 $ 65,142 $ 13,358 21 % Professional services 14,699 15,187 (488) (3) % Total revenue $ 93,199 $ 80,329 $ 12,870 16 % Percentage of reve Subscription 84 % 81 % Professional services 16 19 Total revenue 100 % 100 % Subscription revenue increased by $13.4 million, or 21%, for the three months ended April 30, 2022 compared to the three months ended April 30, 2021. The increase was driven by growth in our customer base, with new customers contributing approximately $5.9 million of the increase in subscription revenue, and increased transaction volume and sales of additional products to our existing customers contributing the remainder. We calculate subscription revenue from new customers during the quarter by adding the revenue recognized from new customers acquired in the 12 months prior to the reporting date. Professional services revenue decreased by $0.5 million, or (3)%, for the three months ended April 30, 2022 compared to the three months ended April 30, 2021 as a result of transitioning services work to our system integration partners as we shift our sales mix towards recurring subscription revenue. Cost of Revenue and Gross Margin Three Months Ended April 30, 2022 2021 $ Change % Change (dollars in thousands) Cost of reve Subscription $ 18,725 $ 15,643 $ 3,082 20 % Professional services 17,510 17,078 432 3 % Total cost of revenue $ 36,235 $ 32,721 $ 3,514 11 % Gross margin: Subscription 76 % 76 % Professional services (19) (12) Total gross margin 61 % 59 % Cost of subscription revenue increased by $3.1 million, or 20%, for the three months ended April 30, 2022 compared to the three months ended April 30, 2021. The increase in cost of subscription revenue was primarily due to increases of $2.2 million in employee compensation costs, $0.4 million in outside professional services costs and $0.3 million in allocated overhead costs. Cost of professional services revenue increased by $0.4 million, or 3%, for the three months ended April 30, 2022 compared to the three months ended April 30, 2021. The increase in cost of professional services revenue was primarily due to an increase of $1.5 million in employee compensation costs driven by stock-based compensation expense, partially offset by a decrease of $1.2 million in outside professional services costs. 31 Our gross margin for subscription services was flat at 76% for the three months ended April 30, 2022 compared to the three months ended April 30, 2021. We expect our subscription gross margin to be relatively consistent for the remainder of the fiscal year. Our gross margin for professional services decreased to (19)% for the three months ended April 30, 2022 compared to (12)% for the three months ended April 30, 2021, primarily due to increased compensation related expenses. Operating Expenses Research and Development Three Months Ended April 30, 2022 2021 $ Change % Change (dollars in thousands) Research and development $ 22,872 $ 18,967 $ 3,905 21 % Percentage of total revenue 25 % 24 % Research and development expense increased by $3.9 million, or 21%, for the three months ended April 30, 2022 compared to the three months ended April 30, 2021 primarily due to increases of $2.8 million in employee compensation costs and $1.5 million in outside professional services costs, partially offset by a $0.5 million increase in capitalization of internal-use software costs compared to prior year. Research and development expense remained relatively consistent at 25% of total revenue for the three months ended April 30, 2022 and 24% for the three months ended April 30, 2021. Sales and Marketing Three Months Ended April 30, 2022 2021 $ Change % Change (dollars in thousands) Sales and marketing $ 40,457 $ 31,865 $ 8,592 27 % Percentage of total revenue 43 % 40 % Sales and marketing expense increased by $8.6 million, or 27%, for the three months ended April 30, 2022 compared to the three months ended April 30, 2021, primarily due to increases of $6.2 million in payroll related costs driven by increased headcount and stock-based compensation expense, $0.7 million in amortization of deferred commissions, $0.7 million in allocated overhead costs, and $0.4 million in travel costs. Sales and marketing expense increased to 43% of total revenue during the three months ended April 30, 2022 from 40% during the three months ended April 30, 2021, reflecting our strategy to invest in our go-to-market organization to drive enterprise growth. General and Administrative Three Months Ended April 30, 2022 2021 $ Change % Change (dollars in thousands) General and administrative $ 17,290 $ 14,185 $ 3,105 22 % Percentage of total revenue 19 % 18 % General and administrative expense increased by $3.1 million, or 22%, for the three months ended April 30, 2022 compared to the three months ended April 30, 2021, primarily due to increases of $3.4 million in employee compensation costs and $0.5 million in outside professional services costs, partially offset by a decrease of $0.7 million in legal expenses. General and administrative expense was relatively consistent at 19% of total revenue during the three months ended April 30, 2022 and 18% for the three months ended April 30, 2021. 32 Interest and other income, net Three Months Ended April 30, 2022 2021 $ Change % Change (dollars in thousands) Interest and other income, net $ 795 $ 121 $ 674 557 % Interest and other income, net increased by $0.7 million for the three months ended April 30, 2022 compared to the three months ended April 30, 2021, primarily due to the $4.4 million gain recognized on revaluation of the warrant liability, partially offset by $1.8 million of interest expense associated with the Initial Notes as well as the revaluation of cash, accounts receivable and accounts payable recorded in a foreign currency. Income Tax Provision Three Months Ended April 30, 2022 2021 $ Change % Change (dollars in thousands) Income tax provision $ 308 $ 373 $ (65) (17) % We are subject to federal and state income taxes in the United States and taxes in foreign jurisdictions. For the three months ended April 30, 2022 and 2021, we recorded a tax provision of $0.3 million and $0.4 million, respectively, on a loss before income taxes of $22.9 million and $17.3 million, respectively. The effective tax rate for the three months ended April 30, 2022 and 2021 was (1.3)% and (2.2)%, respectively. The change in the effective tax rate was due primarily to an decrease in foreign tax expense. The effective tax rate differs from the statutory rate primarily as a result of providing no benefit on pretax losses incurred in the United States. For the three months ended April 30, 2022 and 2021, we maintained a full valuation allowance on our U.S. federal and state net deferred tax assets as it was more likely than not that those deferred tax assets will not be realized. Liquidity and Capital Resources Liquidity is a measure of our ability to access sufficient cash flows to meet the short-term and long-term cash requirements of our business operations. As of April 30, 2022, we had cash and cash equivalents and short-term investments of $452.6 million that was primarily invested in deposit accounts, money market funds, corporate debt securities, supranational securities, commercial paper, and U.S. and foreign government securities. We do not enter into investments for trading or speculative purposes. We finance our operations primarily through sales to our customers, which are generally billed in advance on an annual or quarterly basis. Customers with annual or multi-year contracts are generally only billed one annual period in advance. We also finance our operations through proceeds from the issuance of stock under our employee stock plans, borrowings under our Debt Agreement, proceeds from our issuance of the Initial Notes and other financing arrangements. On March 24, 2022, we issued $250.0 million aggregate principal amount of convertible senior unsecured notes to fund the future growth and expansion of our business. Under the 2029 Notes, we expect to issue an additional $150.0 million in convertible senior unsecured notes within 18 months of the Initial Closing Date. Under our Debt Agreement, we repaid $1.1 million of principal on our term loan during the three months ended April 30, 2022, and have the ability borrow up to an additional $30.0 million in revolving loans until October 2022. See Note 9. Debt to our unaudited condensed consolidated financial statements included in this Form 10-Q for more information about our Debt Agreement and the 2029 Notes. In the short term, we believe our existing cash and cash equivalents, marketable securities, and cash flow from operations (in periods in which we generate cash flow from operations) will be sufficient for at least the next 12 months to meet our requirements and plans for cash, including meeting our working capital requirements and capital expenditure requirements. In the long term, our ability to support our requirements and plans for cash, including meeting our working capital and capital expenditure requirements, will depend on many factors, including 33 our revenue growth rate, the timing and the amount of cash received from customers, the expansion of sales and marketing activities, the timing and extent of spending to support research and development efforts, the cost to develop and support our offering, the introduction of new products and services, the continuing adoption of our products by customers, any acquisitions or investments that we make in complementary businesses, products, and technologies, and our ability to obtain equity or debt financing. We continually evaluate our capital needs and may decide to raise additional capital to fund the growth of our business for general corporate purposes through public or private equity offerings or through additional debt financing. We also may in the future make investments in or acquire businesses or technologies that could require us to seek additional equity or debt financing. To facilitate acquisitions or investments, we may seek additional equity or debt financing, which may not be available on terms favorable to us or at all. Sales of additional equity could result in dilution to our stockholders. We expect proceeds from the exercise of stock options in future years to be impacted by the increased mix of restricted stock units versus stock options granted to employees and to vary based on our share price. Cash Flows The following table summarizes our cash flows for the periods indicated (in thousands): Three Months Ended April 30, 2022 2021 Net cash provided by operating activities $ 6,983 $ 10,251 Net cash used in investing activities (3,887) (5,616) Net cash provided by financing activities 234,382 2,456 Effect of exchange rates on cash and cash equivalents (359) (85) Net increase in cash and cash equivalents $ 237,119 $ 7,006 Operating Activities Net cash provided by operating activities of $7.0 million for the three months ended April 30, 2022 was comprised primarily of customer collections for our subscription and professional services, cash payments for our personnel, sales and marketing efforts and infrastructure related costs, and payments to vendors for products and services related to our ongoing business operations. Net cash provided by operating activities for the three months ended April 30, 2022 decreased $3.3 million compared to the same period last year as a result of timing of cash collections from our customers. Investing Activities Net cash used in investing activities for the three months ended April 30, 2022 was $3.9 million. We used $3.3 million to purchase property and equipment and to develop internal-use software as we continue to invest in and grow our business, and had net purchases of $0.6 million of short-term investments. Net cash used in investing activities for the three months ended April 30, 2022 decreased $1.7 million compared to the three months ended April 30, 2021 primarily due to $0.6 million net purchases of short-term investments in the three months ended April 30, 2022, compared to $4.0 million last year. This was partially offset by payments for property and equipment, net of insurance recoveries, which were $1.6 million higher compared to the same period last year primarily due to increased capitalization of internal-use software in the three months ended April 30, 2022. Financing Activities Net cash provided by financing activities for the three months ended April 30, 2022 of $234.4 million was primarily due to $234.6 million in net proceeds from issuance of the Initial Notes and $0.9 million in proceeds from stock option exercises, partially offset by $1.1 million of debt principal payments related to our Debt Agreement. 34 Net cash provided by financing activities for the three months ended April 30, 2022 increased $231.9 million compared to the three months ended April 30, 2021 primarily due to proceeds from issuance of the Initial Notes in the three months ended April 30, 2022, partially offset by $2.7 million less proceeds received from stock option exercises compared to last year. Obligations and Other Commitments Our material cash requirements from known contractual and other obligations consist of obligations under our operating leases for office space, the 2029 Notes, our Debt Agreement, and a contractual commitment to one of our vendors for cloud computing services. For more information, please refer to Note 12. Leases , Note 9. Debt and Note 13. Commitments and Contingencies, respectively, of the Notes to our Unaudited Condensed Consolidated Financial Statements included in this Quarterly Report on Form 10-Q. As of April 30, 2022, our contractual commitments totaled $416.0 million, with $26.8 million committed within the next twelve months. In the ordinary course of business, we enter into agreements of varying scope and terms pursuant to which we agree to indemnify customers, vendors, lessors, business partners, and other parties with respect to certain matters, including, but not limited to, losses arising out of the breach of such agreements, services to be provided by us, or from data breaches or intellectual property infringement claims made by third parties. In addition, we have entered into indemnification agreements with our directors and certain officers and employees that will require us, among other things, to indemnify them against certain liabilities that may arise by reason of their status or service as directors, officers, or employees. As of April 30, 2022, no demands had been made upon us to provide indemnification under such agreements and there were no claims that we are aware of that could have a material effect on our unaudited condensed consolidated balance sheets, unaudited condensed consolidated statements of comprehensive loss, or unaudited condensed consolidated statements of cash flows. Critical Accounting Policies and Estimates Our unaudited condensed consolidated financial statements are prepared in accordance with U.S. GAAP. The preparation of these unaudited condensed consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the applicable periods. We evaluate our estimates and assumptions on an ongoing basis. Our estimates are based on historical experience and various other factors that we believe to be reasonable under the circumstances. Our actual results could differ from these estimates. Our significant accounting policies are discussed in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements in our Annual Report on Form 10-K for the fiscal year ended January 31, 2022, filed with the SEC on March 28, 2022. Any significant changes to these policies during the three months ended April 30, 2022 are described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements to our unaudited condensed consolidated financial statements provided herein. Recent Accounting Pronouncements - Not Yet Adopted In October 2021, the FASB issued ASU 2021-08, Business Combinations (Topic 805): Accounting for Contract Assets and Contract Liabilities from Contracts with Customers. The standard requires an acquirer in a business combination to recognize and measure contract assets and contract liabilities acquired in a business combination in accordance with ASC 606, Revenue from Contracts with Customers, as if it had originated the contracts. The standard is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2022. Early adoption is permitted. We do not expect the adoption of this standard to have a significant impact on our consolidated financial statements. Item 3. Quantitative and Qualitative Disclosures About Market Risk We are exposed to certain market risks in the ordinary course of our business. Market risk represents the risk of loss that may impact our financial position due to adverse changes in financial market prices and rates. Our market risk exposure is primarily a result of fluctuations in foreign currency exchange rates and interest rates. 35 Foreign Currency Exchange Risk Our sales contracts are denominated predominantly in U.S. Dollars, Euros (EUR), British Pounds (GBP), and Japanese Yen (JPY). A portion of our operating expenses are incurred outside the United States and denominated in foreign currencies and are subject to fluctuations due to changes in foreign currency exchange rates, particularly changes in the Chinese Yuan (CNY) and GBP. Additionally, fluctuations in foreign currency exchange rates may cause us to recognize transaction gains and losses in our unaudited condensed consolidated statement of comprehensive loss. The effect of a hypothetical 10% change in foreign currency exchange rates applicable to our business would not have a material impact on our unaudited condensed consolidated financial statements for the three months ended April 30, 2022. Given the impact of foreign currency exchange rates has not been material to our historical operating results, we have not entered into derivative or hedging transactions, but we may do so in the future if our exposure to foreign currency should become more significant. As our international operations grow, we will continue to reassess our approach to manage our risk relating to fluctuations in currency rates. Interest Rate Risk We had cash and cash equivalents and short-term investments of $452.6 million as of April 30, 2022. Our cash and cash equivalents and short-term investments are held for working capital purposes. We do not make investments for trading or speculative purposes. Additionally, under our Debt Agreement, we pay interest on any outstanding balances based on a variable market rate. A significant decrease in these market rates may adversely affect our expected operating results. The 2029 Notes have a fixed interest rate and therefore are not impacted by market rates. Our cash equivalents and short-term investments are subject to market risk due to changes in interest rates. Fixed rate securities may have their market value adversely affected due to a rise in interest rates. Due in part to these factors, our future investment income may fall short of our expectations due to changes in interest rates or we may suffer losses in principal if we are forced to sell securities that decline in market value due to changes in interest rates. However, because we classify our short-term investments as “available for sale,” no gains or losses are recognized due to changes in interest rates unless such securities are sold prior to maturity or decreases in fair value are determined to be other-than-temporary. As of April 30, 2022, a hypothetical 10% relative change in interest rates would not have had a material impact on the value of our cash equivalents and short-term investments or interest owed on our outstanding debt. Fluctuations in the value of our cash equivalents and short-term investments caused by a change in interest rates (gains or losses on the carrying value) are recorded in other comprehensive income, and are realized only if we sell the underlying securities prior to maturity. In addition, a hypothetical 10% relative change in interest rates would not have had a material impact on our operating results for the three months ended April 30, 2022. Item 4. Controls and Procedures Evaluation of Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of April 30, 2022. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that as of April 30, 2022, our disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed in the reports we file and submit under the Exchange Act is recorded, processed, summarized and reported as and when required, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding its required disclosure. Changes in Internal Control Over Financial Reporting There was no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the period covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 36 Inherent Limitations on Effectiveness of Controls Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected. Accordingly, our disclosure controls and procedures provide reasonable assurance of achieving their objectives. 37 PART II—OTHER INFORMATION Item 1. Legal Proceedings For information regarding legal proceedings, see Note 13. Commitments and Contingencies of the notes to our unaudited condensed consolidated financial statements included in “Item 1. Financial Statements” of this Form 10-Q, which is incorporated by reference into this “Item 1. Legal Proceedings. Item 1A. Risk Factors An investment in our common stock involves a high degree of risk, and the following is a summary of key risk factors when considering an investment. You should read the summary risks together with the more detailed discussion of risks set forth following this summary, as well as elsewhere in this Quarterly Report on Form 10-Q. Additional risks, beyond those summarized below or discussed elsewhere in this Quarterly Report on Form 10-Q, may apply to our activities or operations as currently conducted or as we may conduct them in the future or in the markets in which we operate or may in the future operate. Risks Related to Our Business and Industry • If we are unable to attract new customers and retain and expand sales to existing customers, including as a result of macroeconomic factors or business disruptions outside of our control, our revenue growth could be slower than we expect and our business would be adversely affected. • If we are unable to manage our growth effectively, our revenue and profits could be adversely affected. • If the shift to subscription business models, including the market for subscription management software, develops slower than we expect, our growth may slow or stall and our operating results could be adversely affected. • If currency exchange rates fluctuate substantially in the future, the results of our operations, which are reported in U.S. dollars, could be adversely affected. • If we are unable to recruit or retain senior management or other key personnel and maintain our corporate culture, our business, operating results, and financial condition could be adversely affected. • Our debt obligations could adversely affect our financial condition. • Our success depends in large part on a limited number of products, and if these offerings fail to gain market acceptance or our product development efforts are unsuccessful, our business, operating results, and financial condition could be adversely affected. • We may be unable to integrate businesses we have or will acquire or to achieve expected benefits of such acquisitions. • The COVID-19 pandemic, or other pandemics or natural disasters, or catastrophic events, could adversely impact our business, financial condition, operating results and cash flows. • We have a history of net losses and anticipate continuing to incur losses for the near- and mid-term future and may not achieve or sustain profitability. • Our ability to grow our revenues and achieve and sustain profitability will depend, in part, on our ability to expand our direct sales force and increase productivity of our sales force. • If we are unable to effectively compete in the market for our solutions or such markets develop slower than we expect our business, operating results, and financial condition would be adversely affected. • Our operating results, which are influenced by a variety of factors, have fluctuated in the past and may continue to fluctuate, making our future results difficult to predict accurately. • If we are not able to successfully and timely develop, enhance and deploy our products and multi-product strategy, our business, operating results, financial condition and growth prospects could be adversely affected. • If we are unable to successfully execute our strategic initiatives, such as increasing our sales to large enterprise customers and expanding and strengthening our sales channels and relationships with system integrators, our business, operating results and financial condition could be adversely affected. 38 • Our international operations expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. • If we fail to integrate our solution with a variety of systems, applications and platforms that are developed by others, our solution may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy • A cyber-attack, information security breach or denial of service event could delay or interrupt service to our customers, harm our reputation, or subject us to significant liability. • Privacy and security concerns, laws, and regulations, may reduce the effectiveness of our solution and adversely affect our business. • Failure to protect our intellectual property could adversely affect our business. • Any disruptions of service from our public cloud providers could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. Risks Related to Legal, Regulatory, Accounting, and Tax Matters • Current and future litigation, including our current shareholder litigation, could have a material adverse impact on our operating results and financial condition. • We may require additional capital to fund our business and support our growth, and any inability to generate or obtain such capital may adversely affect our operating results and financial condition. Risks Related to Ownership of Our Class A Common Stock • The market price of our Class A common stock has been, and will likely continue to be, volatile, and you could lose all or part of the value of your investment. • The dual class structure of our common stock has the effect of concentrating voting control with holders of our Class B common stock, including our directors and executive officers, and their affiliates, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. Risks Related to Our Business and Industry If we are unable to attract new customers and retain and expand sales to existing customers, including as a result of macroeconomic factors or business disruptions outside our control, our revenue growth could be slower than we expect, and our business may be adversely affected. Our ability to achieve significant growth in revenue in the future will depend, in large part, upon our ability to attract new customers. This may be particularly challenging where an organization has already invested substantial personnel and financial resources to integrate billings and other business and financial management tools, including custom-built solutions, into its business, as such an organization may be reluctant or unwilling to invest in new products and services. As a result, selling our solution often requires sophisticated and costly sales efforts that are targeted at senior management. During the three months ended April 30, 2022, sales and marketing expenses represented approximately 43% of our total revenue. If we fail to attract new customers and fail to maintain and expand new customer relationships, our revenue may grow more slowly than we expect and our business may be adversely affected. Our future revenue growth also depends upon retaining and expanding sales and renewals of subscriptions to our solution with existing customers. If our existing customers do not expand their use of our solution over time or do not renew their subscriptions or if we receive requests from an increased number of customers for changes to payment or other terms as a result of the impact of the COVID-19 pandemic or economic conditions on their businesses, our revenue may grow more slowly than expected, may not grow at all, or may decline. Our success, in part, is dependent on our ability to cross-sell our products. If we experience issues with successfully implementing or cross-selling our products, revenue may grow more slowly or may not grow at all. 39 Our sales efforts and revenue growth could also be negatively impacted by macroeconomic uncertainty and deteriorating economic conditions, including recession and increasing inflation, or other business disruptions. We currently expect to continue expanding our sales efforts, both domestically and internationally, but any continuing business disruptions may negatively impact these efforts and adversely impact our business. In addition, we may be unable to hire qualified sales personnel, may be unable to successfully train those sales personnel that we are able to hire, and sales personnel may not become fully productive on the timelines that we have projected or at all. In addition, mitigation and containment measures adopted by government authorities to contain the spread of COVID-19 in the United States and internationally, including travel restrictions and other requirements that limit in-person meetings, could limit our ability to establish and maintain relationships with new and existing customers. Further, although we dedicate significant resources to sales and marketing programs, these sales and marketing programs may not have the desired effect and may not expand sales. We cannot assure you that our efforts would result in increased sales to existing customers, and additional revenue. If our efforts to expand sales and renewals to existing customers are not successful, our business and operating results could be adversely affected. Our customers generally enter into subscription agreements with one- to three-year subscription terms and have no obligation to renew their subscriptions after the expiration of their initial subscription period. Moreover, our customers that do renew their subscriptions may renew for lower subscription or usage amounts or for shorter subscription periods. In addition, in the first year of a subscription, customers often purchase an increased level of professional services (such as training and deployment services) than they do in renewal years. Costs associated with maintaining a professional services department are relatively fixed in the short-term, while professional services revenue is dependent on the amount of billable work actually performed for customers in a period, the combination of which may result in variability in, and have a negative impact on, our gross profit. Customer renewals may decline or fluctuate as a result of a number of factors, including the breadth of early deployment, reductions in our customers’ spending levels, higher volumes of usage purchased upfront relative to actual usage during the subscription term, changes in customers’ business models and use cases, our customers’ satisfaction or dissatisfaction with our solution, our pricing or pricing structure, the pricing or capabilities of products or services offered by our competitors, or the effects of economic conditions, including as a result of the COVID-19 pandemic. If our customers do not renew their agreements with us, or renew on terms less favorable to us, our revenue may decline. If we fail to manage our growth and expansion plans effectively, our business, operating results, and financial condition could be adversely affected. While we had experienced rapid growth in our operations and personnel prior to the COVID-19 pandemic, we reduced our overall rate of hiring in fiscal 2021 as a cost savings measure in light of the COVID-19 pandemic and uncertain economic conditions. During fiscal 2022, we accelerated our pace of hiring and investments in our operations including sales, marketing and product technology, and we currently intend to continue these investments provided business disruptions, such as those due to the COVID-19 pandemic or economic uncertainty, and increasing wage inflation do not continue for an extended period. If we are not able to continue to increase our headcount within a reasonable period of time, our ability to expand our operations and maintain or increase our sales may be negatively impacted. To manage growth in our operations and personnel, we will need to continue to improve our operational, financial, and management controls and our reporting systems and procedures, as well as training and experience oversight. Failure to manage growth and expansion plans effectively could result in difficulty or delays in deploying customers, declines in quality or customer satisfaction, increases in costs, difficulties in introducing new products and services or enhancing existing products and services, loss of customers, or other operational difficulties in executing sales strategies, any of which could adversely affect our business performance and operating results. 40 If the shift by companies to subscription business models, including consumer adoption of products and services that are provided through such models, and, in particular, the market for subscription management software, develops slower than we expect, our growth may slow or stall, and our operating results could be adversely affected. Our success depends on companies shifting to subscription business models and consumers choosing to consume products and services through such models. Many companies may be unwilling or unable to offer their solutions using a subscription business model, especially if they do not believe that the consumers of their products and services would be receptive to such offerings. Our success will also depend, to a large extent, on the willingness of large enterprises that have adopted subscription business models utilizing cloud-based products and services to manage billings and financial accounting relating to their subscriptions. Enterprises may choose not to shift to a subscription business model or, they may choose to shift more slowly than we expect. In addition, those enterprises that do shift to a subscription model may decide that they do not need a solution that offers the range of functionalities that we offer. Many companies have invested substantial effort and financial resources to develop custom-built applications or integrate traditional enterprise software into their businesses as they shift to subscription or subscription business models and may be reluctant or unwilling to switch to different applications. Factors that may affect market acceptance and sales of our products and services inclu • the number of companies shifting to subscription business models; • the number of consumers and businesses adopting new, flexible ways to consume products and services; • the security capabilities, reliability, and availability of cloud-based services; • customer concerns with entrusting a third party to store and manage their data, especially transaction-critical, confidential, or sensitive data; • our ability to minimize the time and resources required to deploy our solution; • our ability to achieve and maintain high levels of customer satisfaction; • our ability to deploy upgrades and other changes to our solution without disruption to our customers; • the level of customization or configuration we offer; • the overall level of corporate spending and spending on quote-to-cash and revenue recognition solutions by our customers and prospects, including the impact of spending due to the COVID-19 pandemic; • general economic conditions, both in domestic and foreign markets, including the impacts associated with the COVID-19 pandemic, inflation, recession, and the ongoing conflict in Ukraine; and • the price, performance, and availability of competing products and services. The markets for subscription products and services and for subscription management software may not develop further or may develop slower than we expect. If companies do not shift to subscription business models and subscription management software does not achieve widespread adoption, or if there is a reduction in demand for subscription products and services or subscription management software caused by technological challenges, weakening economic conditions, security or privacy concerns, decreases in corporate spending, a lack of customer acceptance, or otherwise, our business could be materially and adversely affected. In addition, our subscription agreements with our customers generally provide for a minimum subscription platform fee and usage-based fees, which depend on the total dollar amount that is invoiced or managed on our solution. Because a portion of our revenue depends on the volume of transactions that our customers process through our solution, if our customers do not adopt our solution throughout their business, if their businesses decline or fail, or if they are unable to successfully shift to subscription business models, including if they fail to successfully deploy our solution, our revenue could decline and our operation results could be adversely impacted. If currency exchange rates fluctuate substantially in the future, the results of our operations, which are reported in U.S. dollars, could be adversely affected. As we continue to expand our international operations, we become more exposed to the effects of fluctuations in currency exchange rates. Although we expect an increasing number of sales contracts to be denominated in currencies other than the U.S. dollar in the future, the majority of our sales contracts have historically been 41 denominated in U.S. dollars, and therefore, most of our revenue has not been subject to foreign currency risk. However, a strengthening of the U.S. dollar could increase the real cost of our solution to our customers outside of the United States, which could adversely affect our business, operating results, financial condition, and cash flows. In addition, we incur expenses for employee compensation and other operating expenses at our non-U.S. locations in the local currency. Fluctuations in the exchange rates between the U.S. dollar and other currencies could result in the dollar equivalent of such expenses being higher. Furthermore, volatile market conditions arising from impacts from the COVID-19 pandemic, the conflict in Ukraine and other macroeconomic conditions may result in significant fluctuations in exchange rates, and, in particular, a weakening of foreign currencies relative to the U.S. dollar may negatively affect our revenue. This could have a negative impact on our operating results. Although we may in the future decide to undertake foreign exchange hedging transactions to cover a portion of our foreign currency exchange exposure, we currently do not hedge our exposure to foreign currency exchange risks. Our business depends largely on our ability to attract and retain talented employees, including senior management, and maintain our corporate culture. If we lose the services of Tien Tzuo, our founder, Chairman, and Chief Executive Officer, or other critical talent across our executive team and in other key roles, or fail to maintain our "ZEO" culture, we may not be able to execute on our business strategy. Our future success depends on our continuing ability to attract, train, assimilate, and retain highly skilled personnel, including software engineers, sales personnel, and professional services personnel. We face intense competition for qualified individuals from numerous software and other technology companies. Like many companies, we experienced increased turnover during fiscal 2021 and fiscal 2022, and we may continue to experience heightened attrition, including those with significant institutional knowledge and expertise. We may not be able to retain our current key employees, or attract, train, assimilate, or retain other highly skilled personnel in the future, especially in light of the current tight labor market in the U.S. and other countries. For example, employees may seek new or different opportunities that offer greater compensation or benefits than we offer or are able to offer, making it difficult to retain them. In addition, we may incur significant costs to attract and retain highly skilled personnel, and we may lose new employees to our competitors or other technology companies before we realize the benefit of our investment in recruiting and training them. As we move into new countries, we will need to attract and recruit skilled personnel in those areas. If we are unable to attract and retain suitably qualified individuals who are capable of meeting our growing technical, operational, and managerial requirements, on a timely basis or at all, our business may be adversely affected. Further, as our organization grows and we are required to implement more complex organizational structures, we may find it increasingly difficult to maintain the beneficial aspects of our “ZEO” corporate culture, which is based on the idea that each employee is the CEO of their Zuora experience and career, and places a strong value on freedom, responsibility and accountability. Our ability to attract and retain talented employees could be negatively impacted if we are unable to maintain our corporate culture. Our future success also depends in large part on the continued services of senior management and other key personnel. In particular, we are highly dependent on the services of Tien Tzuo, our founder, Chairman and Chief Executive Officer, who is critical to the development of our technology, platform, future vision, and strategic direction. We rely on our leadership team in the areas of operations, security, marketing, sales, support, and general and administrative functions, and on individual contributors on our research and development team. Our senior management and other key personnel are all employed on an at-will basis, which means that they could terminate their employment with us at any time and for any reason, such as retirement or career change. We do not currently maintain key-person life insurance policies on any of our officers or employees. If we lose the services of senior management or other key personnel, or if we are unable to attract, train, assimilate, and retain the highly skilled personnel we need, our business, operating results, and financial condition could be adversely affected. Volatility or lack of appreciation in our stock price may also affect our ability to attract and retain our key employees. Many of our senior personnel and other key employees have become, or will soon become, vested in a substantial amount of stock or stock options. Employees may be more likely to leave us if the shares they own or the shares underlying their vested options have significantly appreciated in value relative to the original purchase price of the shares or the exercise price of the options, or conversely, if the exercise price of the options that they hold are significantly above the market price of our Class A common stock. If we are unable to retain our employees, or if we need to increase our compensation expenses to retain our employees, our business, results of operations, financial condition, and cash flows could be adversely affected. 42 Our debt obligations could adversely affect our financial condition. On March 24, 2022 (Initial Closing Date) we issued $250.0 million aggregate principal amount of convertible senior unsecured notes due in 2029 to Silver Lake Alpine II, L.P. (Silver Lake) (2029 Notes). We also will issue to Silver Lake an additional $150.0 million in senior unsecured notes within 18 months of the Initial Closing Date. See Note 9. Debt to our unaudited condensed consolidated financial statements included in this Form 10-Q for more information about the 2029 Notes. Our debt obligations, in particular the 2029 Notes, could adversely impact us. For example, these obligations coul • require us to use a substantial portion of our cash flow from operations to pay principal and interest on debt, or to repurchase our 2029 Notes when required upon the occurrence of certain events or otherwise pursuant to the terms thereof, which will reduce the amount of cash flow available to fund working capital, capital expenditures, acquisitions, and other business activities; • require us to use cash and/or issue shares of our Class A common stock to settle any obligations; • result in certain of our debt instruments being accelerated or being deemed to be in default if certain terms of default are triggered, such as applicable cross payment default and/or cross-acceleration provisions; • adversely impact our credit rating, which could increase future borrowing costs; • limit our future ability to raise funds for capital expenditures, strategic acquisitions or business opportunities, and other general corporate requirements; • restrict our ability to create or incur liens and engage in other transactions and activity; • increase our vulnerability to adverse economic and industry conditions; • dilute our earnings per share as a result of the conversion provisions in the 2029 Notes; and • place us at a competitive disadvantage compared to our less leveraged competitors. Our ability to meet our payment obligations under our debt instruments depends on our ability to generate significant cash flows in the future. This, to some extent, is subject to market, economic, financial, competitive, legislative, and regulatory factors as well as other factors that are beyond our control. There can be no assurance that our business will generate cash flow from operations, or that additional capital will be available to us, in amounts sufficient to enable us to meet our debt payment obligations and to fund other liquidity needs. For example, we may utilize proceeds from the 2029 Notes for acquisitions or other investments that do not increase our enterprise value or we are otherwise unable to generate sufficient cash flows to repay our debt obligations. Additionally, events and circumstances may occur which would cause us to not be able to satisfy applicable draw-down conditions and utilize the revolving credit facility under our Debt Agreement described below in Note 9. Debt . If we are unable to generate sufficient cash flows to service our debt payment obligations, we may need to refinance or restructure our debt, sell assets, reduce or delay capital investments, or seek to raise additional capital. If we are unable to implement one or more of these alternatives on commercially reasonable terms or at all, we may be unable to meet our debt payment obligations, which would materially and adversely impact our business, financial condition and operating results. Our success depends in large part on a limited number of products. If these products fail to gain or lose market acceptance, our business will suffer. We derive substantially all of our revenue and cash flows from sales of subscriptions and associated deployment of our Zuora Central Platform , Zuora Billing, Zuora Revenue, and Zuora Collect products. As such, the continued growth in market demand for these products is critical to our success. Demand for our solution is affected by a number of factors, many of which are beyond our control, including macroeconomic factors, such as the impacts of the COVID-19 pandemic on our customers and prospects, the growth or contraction of the Subscription Economy, continued market acceptance of our solution by customers for existing and new use cases, the timing of development and release of new products and services, features, and functionality introduced by our competitors, changes in accounting standards, laws or regulations, policies, guidelines, interpretations, or principles that would impact the functionality and use of our solution, and technological change. We expect that an increasing transition to disaggregated solutions that focus on addressing specific customer use cases would continue to disrupt the enterprise software space, enabling new competitors to emerge. We cannot assure you that our solutions and future 43 enhancements to our solution will be able to address future advances in technology or the requirements of enterprise customers. If we are unable to meet customer demands in creating a flexible solution designed to address all these needs or otherwise achieve more widespread market acceptance of our solution, our business, operating results, financial condition, and growth prospects would be adversely affected. We may acquire or invest in additional companies, which may divert our management’s attention, result in additional dilution to our stockholders, and consume resources that are necessary to sustain our business. We may be unable to integrate acquired businesses and technologies successfully or to achieve the expected benefits of such acquisitions. Our business strategy includes acquiring other complementary products, technologies, or businesses. An acquisition, investment, or business relationship may result in unforeseen operating difficulties and expenditures. In particular, we may encounter difficulties assimilating or integrating the businesses, technologies, products, personnel, or operations of the acquired companies, particularly if the key personnel of the acquired companies choose not to work for us, if an acquired company’s software is not easily adapted to work with ours, or if we have difficulty retaining the customers of any acquired business due to changes in management or otherwise. Acquisitions may also disrupt our business, divert our resources, and require significant management attention that would otherwise be available for development of our business. Moreover, the anticipated benefits of any acquisition, investment, or business relationship may not be realized or we may be exposed to unknown liabilities. We may in the future acquire or invest in additional businesses, products, technologies, or other assets. We also may enter into relationships with other businesses to expand our products and services or our ability to provide our products and services in foreign jurisdictions, which could involve preferred or exclusive licenses, additional channels of distribution, discount pricing, or investments in other companies. Negotiating these transactions can be time consuming, difficult, and expensive, and our ability to close these transactions may often be subject to approvals that are beyond our control. Consequently, these transactions, even if undertaken and announced, may not close. For one or more of those transactions, we may: • issue additional equity securities that would dilute our stockholders; • use cash that we may need in the future to operate our business; • incur debt on terms unfavorable to us or that we are unable to repay; • incur large charges or substantial liabilities; • encounter difficulties retaining key employees of the acquired company or integrating diverse software codes or business cultures; and • become subject to adverse tax consequences, substantial depreciation, or deferred compensation charges. Any of these risks could adversely impact our business and operating results. The COVID-19 pandemic and its continuing impact on economic conditions could adversely affect our business, financial condition, results of operations, and cash flows. The COVID-19 pandemic has impacted worldwide economic activity and financial markets. In light of the uncertain and evolving situation relating to the spread of the disease and efficacy of vaccines, we have taken precautionary measures intended to minimize the risk of the virus to our employees, our customers and the communities in which we operate, which could negatively impact our business. Currently, most of our offices are open at limited capacity based on local regulations, many of our employees remain working from home, business travel is subject to certain restrictions, and most of our customer events are held as virtual-only experiences. We have also reduced our office footprint, including by recently consolidating our San Francisco office into our corporate headquarters in Redwood City, and by further consolidating space at our headquarters, have made available office space that we plan to sublease. In addition, we may deem it advisable to continue to alter, postpone or cancel customer, employee or industry events in the future. We may adjust our policies and business practices in light of the evolving COVID-19 pandemic and related government restrictions and public health guidance, and further restrictive measures could negatively impact our business. As pandemic conditions improve and government regulations generally ease in light of availability of vaccines and other health measures, we expect more employees will be working in our offices, increased business travel, and increased in-person customer events. 44 The ongoing effects of the COVID-19 pandemic and the precautionary measures that we have adopted have resulted in, and could continue to result in, customers not purchasing or renewing our products or services, a significant delay or lengthening of our sales cycles, a negative impact to our customer success and sales and marketing efforts, difficulties or changes to our customer support, or potential operational or other challenges, any of which could harm our business and operating results. Because we sell our solutions primarily on a subscription basis, the effect of the pandemic may not be fully reflected in our operating results until future periods. As a result of the COVID-19 pandemic, we have experienced, and may continue to experience in the future, a reduced ability or willingness by companies in certain customer segments and industries to purchase our solutions, delayed purchasing decisions or project implementation timing of prospective customers, reduced value or duration of subscription contracts, or a negative impact to attrition rates. Such impacts have resulted, and may continue to result, in requests from customers for payment or pricing concessions , such as in the form of extended payment terms or restructuring of contracts, impacts to our quarterly billings, and in customers limiting their spending, which, in certain cases, have resulted in customers not purchasing or renewing our products or services. Historically, a significant portion of our field sales and professional services have been conducted in person. As a result of the COVID-19 pandemic, most of our sales and professional services activities for the past two years were being conducted remotely. As the COVID-19 restrictions have lessened, we have begun conducting some of these activities again in person, but are not at the frequency that we were before the pandemic. If the impact of the COVID-19 pandemic deepens or extends into other customer segments, these conditions could further adversely affect the rate of billings and subscription management solutions spending of our customers, our sales cycles could be further extended or delayed, our ability to close transactions with new and existing customers and partners may be negatively impacted, our ability to recognize revenue from software transactions we do close may be negatively impacted due to implementation delays or other factors, our demand generation activities, and the efficiency and effectiveness of those activities, may be negatively affected, and our ability to provide 24x7 worldwide support to our customers may be negatively affected, any of which may make it difficult for us to forecast our sales and operating results and to make decisions about future investments. These and other potential effects on our business due to the COVID-19 pandemic may be significant and could materially harm our business operating results and financial condition. More generally, the COVID-19 pandemic has had, and could continue to have, an adverse effect on economies and financial markets globally, potentially leading to an economic downturn, which could decrease technology spending and adversely affect demand for our products and services. Although our financial results for the fiscal quarter ended April 30, 2022 have not been materially impacted by the COVID-19 pandemic, any prolonged economic downturn or recession as a result of the COVID-19 pandemic could materially harm the business and operating results of our company and our customers, resulting in potential business closures and layoffs of employees, which effects may continue even after the COVID-19 pandemic is contained. The occurrence of any such events may lead to a reduction in the capital and operating budgets we or our customers have available, which could harm our business, financial condition and operating results. To the extent the COVID-19 pandemic adversely affects our business and financial results, it may also have the effect of heightening certain of the other risks described in this “Risk Factors” section. It is not possible at this time to estimate the long-term impact that COVID-19 could have on our business, as the impact will depend on future developments, which are highly uncertain and cannot be predicted. 45 We have a history of net losses, anticipate increasing our operating expenses in the future, and may not achieve or sustain profitability. We have incurred net losses in each fiscal year since inception, including net losses of $99.4 million, $73.2 million, and $83.4 million in fiscal 2022, 2021, and 2020, respectively. We expect to incur net losses for the foreseeable future. As of April 30, 2022, we had an accumulated deficit of $586.6 million. We expect to make significant future expenditures related to the development and expansion of our business, including increasing our overall customer base, expanding relationships with existing customers, entering new vertical markets, expanding our global footprint, expanding and leveraging our relationships with strategic partners including system integrators to accelerate our growth, optimizing pricing and packaging, and expanding our operations and infrastructure, both domestically and internationally, and in connection with legal, accounting, and other administrative expenses related to operating as a public company. These efforts may prove more expensive than we currently anticipate, and we may not succeed in increasing our revenue sufficiently, or at all, to offset these increased expenses. Some or all of the foregoing initiatives have been and may continue to be temporarily delayed or re-evaluated as part of our efforts to mitigate the ongoing effects of the COVID-19 pandemic on our business, which may negatively affect our ability to expand our operations and maintain or increase our sales. While our revenue has grown in recent years, if our revenue declines or fails to grow at a rate faster than these increases in our operating expenses, we will not be able to achieve and maintain profitability in future periods. As a result, we may continue to generate losses. We cannot assure you that we will achieve profitability in the future or that, if we do become profitable, we will be able to sustain profitability. Our revenue growth and ability to achieve and sustain profitability will depend, in part, on being able to expand our direct sales force and increase the productivity of our sales force. To date, most of our revenue has been attributable to the efforts of our direct sales force. In order to increase our revenue and achieve and sustain profitability, we must increase the size of our direct sales force, both in the United States and internationally, to generate additional revenue from new and existing customers. In connection with the COVID-19 pandemic, the market for employees has become more competitive in some locations. While we have been able to attract new qualified sales personnel to meet our needs, depending on how the employment market develops, it may become more difficult to do so in the future. There is also significant competition for sales personnel with the skills and technical knowledge that we require. Because our solution is often sold to large enterprises and involves long sales cycles and complex customer requirements, it is more difficult to find sales personnel with the specific skills and technical knowledge needed to sell our solution and, even if we are able to hire qualified personnel, doing so may be expensive. Our ability to achieve significant revenue growth will depend, in large part, on our success in recruiting, training, and retaining sufficient numbers of direct sales personnel to support our growth. Due to the complexities of our customer needs, new sales personnel require significant training and can take a number of months to achieve full productivity. Our recent hires and planned hires may not become productive as quickly as we expect and if our new sales employees do not become fully productive on the timelines that we have projected or at all, our revenue will not increase at anticipated levels and our ability to achieve long-term projections may be negatively impacted. We may also be unable to hire or retain sufficient numbers of qualified individuals in the markets where we do business or plan to do business. Furthermore, hiring sales personnel in new countries requires additional set up and upfront costs that we may not recover if the sales personnel fail to achieve full productivity. In addition, as we continue to grow, a larger percentage of our sales force will be new to our company and our solution, which may adversely affect our sales if we cannot train our sales force quickly or effectively. Attrition rates may increase, and we may also face integration challenges as we continue to seek to expand our sales force. If we are unable to hire and train sufficient numbers of effective sales personnel, if attrition increases, or if the sales personnel are not successful in obtaining new customers or increasing sales to our existing customer base, our business will be adversely affected. We periodically change and make adjustments to our sales organization in response to market opportunities, competitive threats, management changes, product and service introductions or enhancements, acquisitions, sales performance, increases in sales headcount, cost levels, and other internal and external considerations, including potential changes and uncertainties associated with the COVID-19 pandemic. Any future changes in our sales organization may result in a temporary reduction of productivity, which could negatively affect our rate of growth. In addition, any significant change to the way we structure our compensation of our sales organization may be disruptive and may affect our revenue growth. 46 The market in which we participate is competitive, and our operating results could be harmed if we do not compete effectively. The market for quote-to-cash and revenue recognition solutions, including our billing, collections and revenue recognition offerings, is highly competitive, rapidly evolving, and fragmented, and subject to changing technology, shifting customer needs, and frequent introductions of new products and services. Many of our current and potential competitors have longer operating histories, access to alternative fundraising sources, significantly greater financial, technical, marketing, distribution or professional services experience, or other resources or greater name recognition than we do. In addition, many of our current and potential competitors supply a wide variety of products to, and have strong and well-established relationships with, current and potential customers. As a result, our current and potential competitors may be able to respond more quickly and effectively than we can to new or changing opportunities, technologies, standards, or customer requirements or devote greater resources than we can to the development, promotion, and sale of their products and services. In addition, some current and potential competitors may offer products or services that address one or a limited number of functions at lower prices or with greater depth than our solution, or integrate or bundle such products and services with their other product offerings. Potential customers may prefer to purchase from their existing suppliers rather than from a new supplier. Our current and potential competitors may develop and market new technologies with comparable functionality to our solution. In addition, because our products and services are integral to our customers’ ability to accurately maintain books and records and prepare financial statements, our potential customers may prefer to purchase applications that are critical to their business from one of our larger, more established competitors, or leverage the software that they have already purchased from our competitors for their billing and accounting needs, or control such infrastructure internally. We may experience fewer customer orders, reduced gross margins, longer sales cycles, and loss of market share. This could lead us to decrease prices, implement alternative pricing structures, or introduce products and services available for free or a nominal price in order to remain competitive. We may not be able to compete successfully against current and future competitors, and our business, operating results, and financial condition will be adversely impacted if we fail to meet these competitive pressures. Our ability to compete successfully in our market depends on a number of factors, both within and outside of our control. Some of these factors inclu ease of use; subscription-based product features and functionality; ability to support the specific needs of companies with subscription business models; ability to integrate with other technology infrastructures and third-party applications; enterprise-grade performance and features such as system scalability, security, performance, and resiliency; vision for the market and product innovation; relationships with strategic partners, including system integrators, management consulting firms, and resellers; total cost of ownership; strength of sales and marketing efforts; brand awareness and reputation; and customer experience, including support and professional services. Any failure by us to compete successfully in any one of these or other areas may reduce the demand for our solution, as well as adversely affect our business, operating results, and financial condition. Moreover, current and future competitors may also make strategic acquisitions or establish cooperative relationships among themselves or with others, including our current or future technology partners. By doing so, these competitors may increase their ability to meet the needs of our customers or potential customers. These developments could limit our ability to obtain revenue from existing and new customers. If we are unable to compete successfully against current and future competitors, our business, operating results, and financial condition could be adversely impacted. Our operating results may fluctuate from quarter to quarter, which makes our future results difficult to predict. Our quarterly operating results have fluctuated in the past and may fluctuate in the future. As a result, you should not rely upon our past quarterly operating results as indicators of future performance. We have encountered, and will continue to encounter, risks and uncertainties frequently experienced by growing companies in rapidly evolving markets, such as the risks and uncertainties described herein. Our operating results in any given quarter can be influenced by numerous factors, many of which are unpredictable or are outside of our control, includin • our ability to maintain and grow our customer base; • our ability to retain and increase revenue from existing customers; • our ability to introduce new products and services and enhance existing products and services; 47 • our ability to integrate or implement our existing products and services on a timely basis or at all; • our ability to deploy our products successfully within our customers' information technology ecosystems; • our ability to enter into larger contracts; • increases or decreases in subscriptions to our platform; • our ability to sell to large enterprise customers; • the transaction volume that our customers processes through our system; • our ability to respond to competitive developments, including competitors' pricing changes and their introduction of new products and services; • the impact of inflation, including wage inflation; • foreign exchange fluctuations; • changes in the pricing of our products; • the productivity of our sales force; • our ability to grow our relationships with strategic partners such as system integrators and their effectiveness in increasing our sales and implementing our products; • changes in the mix of products and services that our customers use; • the length and complexity of our sales cycles; • cost to develop and upgrade our solution to incorporate new technologies; • seasonal purchasing patterns of our customers; • the impact of outages of our solution and reputational harm; • costs related to the acquisition of businesses, talent, technologies, or intellectual property, including potentially significant amortization costs and possible write-downs; • failures or breaches of security or privacy, and the costs associated with responding to and addressing any such failures or breaches; • changes to financial accounting standards and the interpretation of those standards that may affect the way we recognize and report our financial results, including changes in accounting rules governing recognition of revenue; • the impact of changes to financial accounting standards; • general economic and political conditions and government regulations in the countries where we currently operate or plan to expand; • decisions by us to incur additional expenses, such as increases in sales and marketing or research and development; • the timing of stock-based compensation expense; • political unrest, changes and uncertainty associated with terrorism, hostilities, war, natural disasters or pandemics, including the COVID-19 pandemic and the ongoing conflict in Ukraine; and • potential costs to attract, onboard, retain, and motivate qualified personnel. The extent to which the global COVID-19 pandemic will continue to impact our business and financial results will depend on future developments, which are uncertain and cannot be fully predicted, including the duration of the pandemic, travel restrictions and social distancing in the United States and other countries, business closures or business disruptions and the effectiveness of actions taken by governments and private businesses to attempt to contain and treat the disease. Any prolonged shutdown of a significant portion of global economic activity or downturn in the global economy, along with any adverse effects on industries in which our customers operate, could materially and adversely impact our business, results of operations and financial condition. 48 The impact of one or more of the foregoing and other factors may cause our operating results to vary significantly. As such, we believe that quarter-to-quarter comparisons of our operating results may not be meaningful and should not be relied upon as an indication of future performance. If we fail to meet or exceed the expectations of investors or securities analysts, then the trading price of our Class A common stock could fall substantially, and we could face costly lawsuits, including shareholder litigation. If we are not able to develop and release new products and services, or successful enhancements, new features, and modifications to our existing products and services, or otherwise successfully implement our multi-product strategy, our business could be adversely affected. The market for our quote-to-cash and revenue recognition solutions, including our billing, collections and revenue recognition offerings, is characterized by rapid technological change, frequent new product and service introductions and enhancements, changing customer demands, and evolving industry standards. The introduction of products and services embodying new technologies can quickly make existing products and services obsolete and unmarketable. Additionally, because we provide billing and finance solutions to help our customers with compliance and financial reporting, changes in law, regulations, and accounting standards could impact the usefulness of our products and services and could necessitate changes or modifications to our products and services to accommodate such changes. Subscription management products and services, including our billing, collections and revenue recognition offerings, are inherently complex, and our ability to implement our multi-product strategy, including developing and releasing new products and services or enhancements, new features and modifications to our existing products and services depends on several factors, including timely completion, competitive pricing, adequate quality testing, integration with new and existing technologies and our solution, and overall market acceptance. We cannot be sure that we will succeed in developing, marketing, and delivering on a timely and cost-effective basis enhancements or improvements to our platform or any new products and services that respond to continued changes in subscription management practices or new customer requirements, nor can we be sure that any enhancements or improvements to our platform or any new products and services will achieve market acceptance. Since developing our solution is complex, the timetable for the release of new products and enhancements to existing products is difficult to predict, and we may not offer new products and updates as rapidly as our customers require or expect. Any new products or services that we develop may not be introduced in a timely or cost-effective manner, may contain errors or defects, or may not achieve the broad market acceptance necessary to generate sufficient revenue. The introduction of new products and enhancements could also increase costs associated with customer support and customer success as demand for these services increase. This increase in cost could negatively impact profit margins, including our gross margin. Moreover, even if we introduce new products and services, we may experience a decline in revenue of our existing products and services that is not offset by revenue from the new products or services. For example, customers may delay making purchases of new products and services to permit them to make a more thorough evaluation of these products and services or until industry and marketplace reviews become widely available. Some customers may hesitate to migrate to a new product or service due to concerns regarding the complexity of migration or performance of the new product or service. In addition, we may lose existing customers who choose a competitor’s products and services or choose to utilize internally developed applications instead of our products and services. This could result in a temporary or permanent revenue shortfall and adversely affect our business. In addition, because our products and services are designed to interoperate with a variety of other internal or third-party software products and business systems applications, we will need to continuously modify and enhance our products and services to keep pace with changes in application programming interfaces (APIs), and other software and database technologies. We may not be successful in either developing these new products and services, modifications, and enhancements or in bringing them to market in a timely fashion. There is no assurance that we will successfully resolve such issues in a timely and cost-effective manner. Furthermore, modifications to existing platforms or technologies, including any APIs with which we interoperate, will increase our research and development expenses. Any failure of our products and services to operate effectively with each other or with other platforms and technologies could reduce the demand for our products and services, result in customer dissatisfaction, and adversely affect our business. A customer’s failure to deploy our solution after it enters into a subscription agreement with us, or the incorrect or improper deployment or use of our solution could result in customer dissatisfaction and negatively affect our business, operating results, financial condition, and growth prospects. Our solution is deployed in a wide variety of technology environments and into a broad range of complex workflows. We believe our future success will depend in part on our ability to increase both the speed and success 49 of our deployments, by improving our deployment methodology, hiring and training qualified professionals, deepening relationships with deployment partners, and increasing our ability to integrate into large-scale, complex technology environments. We often assist our customers in deploying our solution, either directly or through our deployment partners. In other cases, customers rely on third-party partners to complete the deployment. In some cases, customers initially engage us to deploy our solution, but, for a variety of reasons, including strategic decisions not to utilize subscription business models, fail to ultimately deploy our solution. If we or our third-party partners are unable to deploy our solution successfully, or unable to do so in a timely manner and, as a result, customers do not utilize our solution, we would not be able to generate future revenue from such customers based on transaction or revenue volume and the upsell of additional products and services, and our future operating results could be adversely impacted. In addition, customers may also seek refunds of their initial subscription fee. Moreover, customer perceptions of our solution may be impaired, our reputation and brand may suffer, and customers may choose not to renew or expand their use of our solution. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, our sales cycle may become longer and more expensive, we may encounter still greater pricing pressure and deployment and customization challenges, and we may have to delay revenue recognition for more complicated transactions, all of which could adversely impact our business and operating results. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, we may face greater costs, longer sales cycles, and less predictability in the completion of some of our sales. In this market segment, the customer’s decision to use our solution may be an enterprise-wide decision, in which case these types of sales frequently require approvals by multiple departments and executive-level personnel and require us to provide greater levels of customer education regarding the uses and benefits of our solution, as well as education regarding security, privacy, and scalability of our solution, especially for those large “business to consumer” customers or those with extensive international operations. These large enterprise transactions might also be part of a customer’s broader business model or business systems transformation project, which are frequently subject to budget constraints, multiple approvals, and unplanned administrative, processing, security review, and other delays that could further lengthen the sales cycle. Larger enterprises typically have longer decision-making and deployment cycles, may have greater resources to develop and maintain customized tools and applications, demand more customization, require greater functionality and scalability, expect a broader range of services, demand that vendors take on a larger share of risks, demand increased levels of customer service and support, require acceptance provisions that can lead to a delay in revenue recognition, and expect greater payment flexibility from vendors. We are often required to spend time and resources to better familiarize potential customers with the value proposition of our solution. As a result of these factors, sales opportunities with large enterprises may require us to devote greater sales and administrative support and professional services resources to individual customers, which could increase our costs, lengthen our sales cycle, and divert our own sales and professional services resources to a smaller number of larger customers. We may spend substantial time, effort, and money in our sales, design and implementation efforts without being successful in producing any sales or deploying our products in such a way that is satisfactory to our customers. All these factors can add further risk to business conducted with these customers. In addition, if sales expected from a large customer for a particular quarter are not realized in that quarter or at all, our business, operating results, and financial condition could be materially and adversely affected. Furthermore, our sales and implementation cycles could be interrupted or affected by other factors outside of our control. For example, as a result of the COVID-19 pandemic, many large enterprises have generally reduced or delayed technology or other discretionary spending, which may materially and negatively impact our operating results, financial condition and prospects. Like many other companies, including our customers and prospects, our employees are working from home and while we limited all non-essential business travel during the pandemic, we are now allowing business travel more freely in places where such travel is permitted under local regulations. Restrictions on travel and in-person meetings could affect services delivery, delay implementations, and interrupt sales activity and we cannot predict whether, for how long, or the extent to which the COVID-19 pandemic may adversely affect our business, results of operations, and financial condition. Our long-term success depends, in part, on our ability to expand the sales of our solution to customers located outside of the United States. Our current international operations, and any further expansion of those operations, expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. We have been recognizing increased revenue from international sales, and we conduct our business activities in various foreign countries. We currently have operations in North America, Europe, Asia, and Australia. During the 50 three months ended April 30, 2022, we derived approximately 36% of our total revenue from customers located outside the United States. Our ability to manage our business and conduct our operations internationally requires considerable management attention and resources and is subject to the particular challenges of supporting a rapidly growing business in an environment of multiple cultures, customs, legal systems, regulatory systems, and commercial infrastructures. International expansion requires us to invest significant funds and other resources. Our operations in international markets may not develop at a rate that supports our level of investment. Expanding internationally may subject us to new risks that we have not faced before or increase risks that we currently face, including risks associated wit • recruiting and retaining talented and capable employees in foreign countries; • providing our solution to customers from different cultures, which may require us to adapt to sales practices, modify our solution, and provide features necessary to effectively serve the local market; • compliance with multiple, conflicting, ambiguous or evolving governmental laws and regulations and court decisions, including those relating to employment matters, e-invoicing, consumer protection, privacy, data protection, information security, data residency, and encryption; • longer sales cycles in some countries; • increased third-party costs relating to data centers outside of the United States; • generally longer payment cycles and greater difficulty in collecting accounts receivable; • credit risk and higher levels of payment fraud; • weaker privacy and intellectual property protection in some countries, including China and India; • compliance with anti-bribery laws, such as the U.S. Foreign Corrupt Practices Act of 1977, as amended (FCPA), and the UK Bribery Act 2010 (UK Bribery Act); • currency exchange rate fluctuations; • tariffs, export and import restrictions, restrictions on foreign investments, sanctions, and other trade barriers or protection measures; • foreign exchange controls that might prevent us from repatriating cash earned outside the United States; • economic instability and inflationary conditions; • political instability and unrest, including the effects of Brexit, the COVID-19 pandemic, and the ongoing conflict in Ukraine, especially as it impacts countries in Europe; • corporate espionage; • compliance with the laws of numerous taxing jurisdictions, both foreign and domestic, in which we conduct business, potential double taxation of our international earnings, and potentially adverse tax consequences due to changes in applicable U.S. and foreign tax laws; • continuing uncertainty regarding social, political, immigration, and tax and trade policies in the U.S. and abroad; • increased costs to establish and maintain effective controls at foreign locations; and • overall higher costs of doing business internationally. If we are unable to grow our sales channels and our relationships with strategic partners, such as system integrators, management consulting firms, and resellers, sales of our products and services may suffer and our growth could be slower than we project. In addition to our direct sales force, we use strategic partners, such as system integrators, management consulting firms, strategic technology partners and resellers, to market, sell, and implement our solution. Historically, we have used these strategic partners to a limited degree, but we are prioritizing efforts to make these partners an increasingly important aspect of our business particularly with regard to enterprise and international sales and larger implementations of our products where these partners may have more expertise and established business relationships than we do. We have been and expect to continue to transition a portion of our professional services implementations to these strategic partners, and as a result we expect our professional services revenue as an 51 overall percentage of Zuora's total revenue to continue to decline over time. Our relationships with these strategic partners are still at an early stage of development, and we cannot assure you that these partners will be successful in marketing, selling or implementing our solution. Identifying these partners, negotiating and supporting relationships with them, including training them in how to sell or deploy our solution, and maintaining these relationships requires significant commitment of time and resources that may not yield a significant return on our investment in these relationships. Our future growth in revenue and ability to achieve and sustain profitability depends in part on our ability to identify, establish, and retain successful strategic partner relationships in the United States and internationally, which will take significant time and resources and involve significant risk. If we are unable to establish and maintain our relationships with these partners, or otherwise develop and expand our indirect distribution channel, our business, operating results, financial condition, or cash flows could be adversely affected. We also cannot be certain that we will be able to maintain successful relationships with any strategic partners and, to the extent that our strategic partners are unsuccessful in marketing, selling, or implementing our solution, our business, operating results, and financial condition could be adversely affected. Our strategic partners may market to our customers the products and services of several different companies, including products and services that compete with our solution. Because our strategic partners do not have an exclusive relationship with us, we cannot be certain that they will prioritize or provide adequate resources to marketing our solution. Moreover, divergence in strategy by any of these partners may materially adversely affect our ability to develop, market, sell, or support our solution. We cannot assure you that our strategic partners will continue to cooperate with us. In addition, actions taken or omitted to be taken by such parties may adversely affect us. We are unable to control the quantity or quality of resources that our systems integrator partners commit to deploying our products and services, or the quality or timeliness of such deployment. If our partners do not commit sufficient or qualified resources to these activities, our customers will be less satisfied, be less supportive with references, or may require the investment of our resources at discounted rates. These, and other failures by our partners to successfully deploy our products and services, may have an adverse effect on our business and our operating results. Our growth forecasts we have provided publicly may prove to be inaccurate, and even if the markets in which we compete achieve the forecasted growth, we cannot assure that our business will grow at similar rates, if at all. Growth forecasts are subject to significant uncertainty and are based on assumptions and estimates that may not prove to be accurate. The forecasts we have provided publicly relating to the expected growth of the markets in which we compete may prove to be inaccurate. Even if these markets experience the growth we forecast, we may not grow our business at similar rates, or at all. Our growth is subject to many factors, including our success in executing our business strategy, which is subject to many risks and uncertainties. Accordingly, the forecasts of market growth we have provided publicly should not be taken as indicative of our future growth. If we fail to offer high-quality support and training to our customers and third-party partners, our business and reputation will suffer. Once our solution is deployed to our customers, our customers rely on support services from us and from our third-party partners to resolve any related issues. High-quality education, training and support for our customers and third-party partners is important for the successful marketing and sale of our products and for the renewal of existing customers. The importance of high-quality customer and third-party partner training and support will increase as we expand our business and pursue new enterprises. If we or our third-party partners do not help our customers quickly resolve post-deployment issues, including configuring and using features, and provide them with effective ongoing customer support, our ability to upsell additional products to existing customers could suffer and our reputation with existing or potential customers could be harmed. Future changes in market conditions or customer demand could require changes to our prices or pricing model, which could adversely affect our business, operating results, and financial condition. We generally charge our customers a flat fee for their use of our platform and a variable fee based on the amount of transaction volume they process through our system and the number of their subscribers. If our customers do not increase their transaction volume or the number of their subscribers, or an economic downturn reduces their transaction volume or the number of their subscribers, our revenue may be adversely impacted by customers reducing their contracted transaction volume. We have limited experience with respect to determining the optimal prices for our platform, and, as a result, we have in the past needed to and expect in the future to need to change our pricing model from time to time. As the market for our platform matures, or as new competitors introduce 52 new products or services that compete with ours, we may be unable to attract new customers at the same price or based on the same pricing models as we have used historically. We may experience pressure to change our pricing model to defer fees until our customers have fully deployed our solution. Moreover, larger organizations, which comprise a large and growing component of our sales efforts, may demand substantial price concessions. As a result, in the future we may be required to reduce our prices or change our pricing model, which could adversely affect our revenue, gross margin, profitability, financial position, and cash flow. If we fail to integrate our solution with a variety of operating systems, software applications, and hardware platforms that are developed by others, our solution may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Our solution must integrate with a variety of network, hardware, and software platforms, and we need to continuously modify and enhance our solution to adapt to changes in cloud-enabled hardware, software, networking, browser, and database technologies. We have developed our solution to be able to integrate with third-party SaaS applications, including the applications of software providers that compete with us, through the use of APIs. For example, Zuora CPQ integrates with certain capabilities of Salesforce using publicly available APIs. In general, we rely on the fact that the providers of such software systems, including Salesforce, continue to allow us access to their APIs to enable these integrations, and the terms with such companies may be subject to change from time to time. We also integrate certain aspects of our solution with other platform providers. Any change or deterioration in our relationship with any platform provider may adversely impact our business and operating results. Our business may be adversely impacted if any platform provide • discontinues or limits access to its APIs by us; • makes changes to its platform; • terminates or does not allow us to renew or replace our contractual relationship; • modifies its terms of service or other policies, including fees charged to, or other restrictions on, us or other application developers, or changes how customer information is accessed by us or our customers; • establishes more favorable relationships with one or more of our competitors, or acquires one or more of our competitors or is acquired by a competitor and offers competing services to us; or • otherwise develops its own competitive offerings. In addition, we have benefited from these platform providers’ brand recognition, reputations, and customer bases. Any losses or shifts in the market position of these platform providers in general, in relation to one another or to new competitors or new technologies could lead to losses in our relationships or customers, or to our need to identify or transition to alternative channels for marketing our solutions. Such changes could consume substantial resources and may not be effective. If we are unable to respond to changes in a cost-effective manner, our solution may become less marketable, less competitive, or obsolete and our operating results may be negatively impacted. If we fail to develop, maintain, and enhance our brand and reputation cost-effectively, our business and financial condition may be adversely affected. We believe that developing, maintaining, and enhancing awareness and integrity of our brand and reputation in a cost-effective manner are important to achieving widespread acceptance of our solution and are important elements in attracting new customers and maintaining existing customers. We believe that the importance of our brand and reputation will increase as competition in our market further intensifies. Successful promotion of our brand and the Subscription Economy concept will depend on the effectiveness of our marketing efforts, our ability to provide a reliable and useful solution at competitive prices, the perceived value of our solution, and our ability to provide quality customer support. In addition, the promotion of our brand requires us to make substantial expenditures, and we anticipate that the expenditures will increase as our market becomes more competitive, as we expand into new markets, and as more sales are generated through our strategic partners. Brand promotion activities may not yield increased revenue, and even if they do, the increased revenue may not offset the expenses we incur in building and maintaining our brand and reputation. We also rely on our customer base and community of end-users in a variety of ways, including to give us feedback on our solution and to provide user-based support to our other customers. If we fail to promote and maintain our brand successfully or to maintain loyalty among our customers, or if we incur substantial expenses in an unsuccessful attempt to promote and maintain our brand, we 53 may fail to attract new customers and partners or retain our existing customers and partners and our business and financial condition may be adversely affected. Any negative publicity relating to our customers, employees, partners, or others associated with these parties, may also tarnish our own reputation simply by association and may reduce the value of our brand. Damage to our brand and reputation may result in reduced demand for our solution and increased risk of losing market share to our competitors. Any efforts to restore the value of our brand and rebuild our reputation may be costly and may not be successful. We employ third-party licensed software for use in or with our software, and the inability to maintain these licenses or errors in the software we license could result in increased costs or reduced service levels, which could adversely affect our business. Our software incorporates certain third-party software obtained under licenses from other companies. We anticipate that we will continue to rely on such third-party software and development tools from third parties in the foreseeable future. Although we believe that there are commercially reasonable alternatives to the third-party software we currently license, including open source software, this may not always be the case, or it may be difficult or costly to migrate to other third-party software. Our use of additional or alternative third-party software would require us to enter into license agreements with third parties. In addition, integration of our software with new third-party software may require significant work and require substantial investment of our time and resources. Also, any undetected or uncorrected errors or defects in third-party software could prevent the deployment or impair the functionality of our software, present security risks, delay new updates or enhancements to our solution, result in a failure of our solution, and injure our reputation. Certain of our operating results and financial metrics may be difficult to predict as a result of seasonality. Although we have not historically experienced significant seasonality with respect to our subscription revenue throughout the year, we have seen seasonality in our sales cycle as a large percentage of our customers make their purchases in the third month of any given quarter. In addition, our fourth quarter has historically been our strongest quarter. We believe that this results in part from the procurement, budgeting, and deployment cycles of many of our customers. We generally expect a relative increase in sales in the second half of each year as budgets of our customers for annual capital purchases are being fully utilized. We may be affected by seasonal trends in the future, particularly as our business matures. Such seasonality may result from a number of factors, including a slowdown in our customers’ procurement process during certain times of the year, both domestically and internationally, and customers choosing to spend remaining budgets shortly before the end of their fiscal years. These effects may become more pronounced as we target larger organizations and their larger budgets for sales of our solution. Additionally, this seasonality may be reflected to a much lesser extent, and sometimes may not be immediately apparent, in our revenue, due to the fact that we recognize subscription revenue over the term of the applicable subscription agreement. In addition, our ability to record professional services revenue can potentially vary based on the number of billable days in the given quarter, which is impacted by holidays and vacations. To the extent we experience this seasonality, it may cause fluctuations in our operating results and financial metrics and make forecasting our future operating results and financial metrics more difficult. Our Debt Agreement provides our lender with a first-priority lien against substantially all of our non-intellectual property assets, and contains financial covenants and other restrictions on our actions, which could limit our operational flexibility and otherwise adversely affect our financial condition. Our Debt Agreement restricts our ability to, among other thi • use our accounts receivable, inventory, trademarks, and most of our other assets as security in other borrowings or transactions; • incur additional indebtedness; • sell certain assets; • declare dividends or make certain distributions; and • undergo a merger or consolidation or other transactions. Our Debt Agreement also prohibits us from exceeding certain adjusted quick ratios. Our ability to comply with these and other covenants is dependent upon a number of factors, some of which are beyond our control. 54 Our failure to comply with the covenants or payment requirements, or the occurrence of other events specified in our Debt Agreement could result in an event of default under the Debt Agreement which would give our lender the right to terminate their commitments to provide additional loans under the Debt Agreement and to declare all borrowings outstanding, together with accrued and unpaid interest and fees, to be immediately due and payable. In addition, we have granted our lender first-priority liens against substantially all of our non-intellectual property assets as collateral, and have pledged not to encumber or otherwise grant any security interest in our intellectual property. Failure to comply with the covenants or other restrictions in the Debt Agreement could result in a default. If the debt under our Debt Agreement was to be accelerated, we may not have sufficient cash on hand or be able to sell sufficient collateral to repay it, which would have an immediate adverse effect on our business and operating results. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy If our security measures are breached, if unauthorized access to customer data, our data, or our solution is otherwise obtained, or if our solution is perceived as not being secure, customers may reduce the use of or stop using our solution, we may have difficulty attracting customers, and we may incur significant liabilities. We have in the past experienced security incidents and breaches and may in the future experience additional security incidents or breaches. Security breaches and other security incidents could result in the loss of information, disruption of services, litigation, indemnity obligations, penalties, and other liability. If our security measures or those of our service providers are breached, or are perceived to have been breached, as a result of third-party action, including cyber-attacks or other intentional misconduct by computer hackers, employee error, malfeasance, or otherwise, and someone obtains unauthorized access to our data or other data we or our service providers maintain, including sensitive customer data, personal information, intellectual property, and other confidential business information, we could face loss of business, lawsuits or claims, regulatory investigations, or orders, and our reputation could be severely damaged. We, and our third-party partners, have security measures and disaster response plans in place to help protect our customers’ data, our own data and information, and our platform, networks, and other systems against unauthorized access or inadvertent exposure. However, we cannot assure that these security measures and disaster response plans will be effective against all security threats and natural disasters. System failures or outages, including any potential disruptions due to significantly increased global demand on certain cloud-based systems during the COVID-19 pandemic, could compromise our ability to perform our day-to-day operations in a timely manner, which could negatively impact our business or delay our financial reporting. Such failures could materially adversely affect our operating results and financial condition. With more companies and individuals working remotely, the attack surface available for exploitation and the risk of cybersecurity incidents has increased. For example, since the beginning of the COVID-19 pandemic and, also more recently following the Russian invasion of Ukraine, there has been an increase in phishing and spam emails as well as social engineering attempts from “hackers.” Although the security incidents and breaches that we have experienced to date have not had a material effect on our business, there is no assurance that our security systems or processes will prevent or mitigate more serious break-ins, tampering, security incidents or breaches or other cyber-attacks that could occur in the future. If we experience a security incident or breach, we could be required to expend significant capital and other resources to alleviate the problem, as well as incur significant costs and liabilities, including due to litigation, indemnity obligations, damages for contract breach, penalties for violation of applicable laws or regulations, and costs for remediation and incentives offered to affected parties, including customers, other business partners and employees, in an effort to maintain business relationships after a breach or other incident. Moreover, if our solution is perceived as not being secure, regardless of whether our security measures are actually breached, we could suffer harm to our reputation, and our operating results could be negatively impacted. We cannot assure you that any limitations of liability provisions in our contracts would be enforceable or adequate or would otherwise protect us from any liabilities or damages with respect to any particular claim relating to a security breach or other security-related matters. We also cannot be sure that our existing insurance coverage will continue to be available on acceptable terms or will be available in sufficient scope or amounts to cover one or more large claims related to a security incident or breach, or that the insurer will not deny coverage as to any future claim. The successful assertion of one or more large claims against us that exceed available insurance coverage, or the occurrence of changes in our insurance policies, including premium increases or the imposition of large 55 deductible or co-insurance requirements, could have a material adverse effect on our business, including our financial condition, operating results, and reputation. Cyber-attacks and other malicious Internet-based activities continue to increase generally. Because the techniques used to obtain unauthorized access to or sabotage systems change frequently and generally are not identified until they are launched against a target, we and our service providers may be unable to anticipate these techniques or to implement adequate preventative measures. In addition, third parties may attempt to fraudulently induce employees, contractors, or users to disclose information to gain access to our data or our customers’ data. We could suffer significant damage to our brand and reputation if a cyber-attack or other security incident were to allow unauthorized access to or modification of our customers’ data, other external data, or our own data or our IT systems or if the services we provide to our customers were disrupted, or if our solution is perceived as having security vulnerabilities. Customers could lose confidence in the security and reliability of our solution and perceive them to be not secure. This could lead to fewer customers using our products and services and result in reduced revenue and earnings. The costs we would incur to address and respond to these security incidents, and to prevent them thereafter, would increase our expenses. These types of security incidents could also lead to lawsuits, regulatory investigations and claims, and increased legal liability, including in some cases costs related to notification of the incident and fraud monitoring. In addition, while a majority of our employees are based in the United States, like many similarly situated technology companies, we have a sizable number of research and development and other personnel located outside the United States, including in China, which has exposed and could continue to expose us to governmental and regulatory, as well as market and media scrutiny, regarding the actual or perceived integrity of our platform or data security and privacy features. Any actual or perceived security compromise could reduce customer confidence in the effectiveness of our security measures, negatively affect our ability to attract new customers, and cause existing customers to reduce the use or stop using our solution, any of which could harm our business and reputation. Privacy and security concerns, laws, and regulations, may reduce the effectiveness of our solution and adversely affect our business. Our customers can use our solution to collect, use, and store personal information regarding their customers or other end users. Governments and agencies worldwide have adopted or may adopt laws and regulations regarding the collection, use, storage, data residency, security, disclosure, transfer across borders and other processing of information obtained from individuals within jurisdictions. These laws and regulations increase the costs and burdens of compliance, including the ability to transfer information from, or a requirement to store in, particular jurisdictions and coul • impact our ability to offer our products and services in certain jurisdictions, • decrease demand for or require us to modify or restrict our product or services, or • impact our customers’ ability and willingness to use, adopt and deploy our solution globally. Compliance or our inability to comply with such laws, regulations, and other obligations, could lead to reduced overall demand and impair our ability to maintain and grow our customer base and increase our revenue. We may be unable to make changes that we consider necessary or appropriate to address changes in laws, regulations, or other obligations in a commercially reasonable manner, in a timely fashion, or at all. Additionally, laws and regulations relating to the processing of information can vary significantly based on the jurisdiction. Some regions and countries have or are enacting strict laws and regulations, including the European Union (EU), China (PIPL), Australia, and India, as well as states within the United States, such as California. The General Data Protection Regulation (GDPR) became effective in May 2018. The GDPR established new requirements for processing personal data and imposes penalties of up to the greater of €20 million or 4% of worldwide revenue. On June 4, 2021, the European Commission issued replacement standard contractual clauses (2021 SCCs) to govern the transfer of personal data to a country that has not been deemed adequate, such as the United States. The 2021 SCCs impose additional requirements and, potentially increased liability for data processors such as us. Since the 2021 SCCs replace the prior version, we will need to enter into 2021 SCCs with our customers and vendors before the December 27, 2022 deadline to meet GDPR requirements. The pending EU ePrivacy Regulation is expected to establish additional restrictions and penalties. In January 2020, the California Consumer Privacy Act (CCPA) which provides new data privacy rights for consumers, including a private right of 56 action for security breaches, new penalties for violations, and new operational requirements for companies, went into effect. The California Privacy Rights Act (CPRA) will replace the CCPA and becomes effective on January 2, 2023. The CCPA gives, and the CPRA will give, California residents expanded rights to access and require deletion of their personal data, opt out of certain personal data sharing, and receive detailed information about how their personal data is collected, used and shared. The CCPA provides for civil penalties for violations, as well as a private right of action for security breaches that may increase security breach litigation. The CCPA and CPRA may increase our compliance costs and potential liability, particularly in the event of a data breach, and could have a material adverse effect on our business, including how we use personal data, our financial condition, our operating results or prospects. The CCPA has also prompted a number of proposals for new federal and state privacy legislation that, if passed, could increase our potential liability, increase our compliance costs and adversely affect our business. Changing definitions of personal data and information may also limit or inhibit our ability to operate or expand our business, including limiting strategic partnerships that may involve the sharing of data. Also, some jurisdictions require that certain types of data be retained on servers within these jurisdictions. Our failure to comply with applicable laws and regulations may result in enforcement action or litigation against us, including fines, and damage to our reputation, any of which may have an adverse effect on our business and operating results. We also are bound by standards, contracts and other obligations relating to processing personal information that are more stringent than applicable laws and regulations. The costs of compliance with, and other burdens imposed by, these laws, regulations, and other obligations are significant. In addition, some companies, particularly larger or global enterprises, often will not contract with vendors that do not meet these rigorous obligations and often seek contract terms to ensure we are financially liable for any breach of these obligations. Accordingly, our or as well as our vendors' failure, or perceived inability, to comply with these obligations may limit the demand, use and adoption of our solution, lead to regulatory investigations, breach of contract claims, litigation, damage our reputation and brand and lead to significant fines, penalties, or liabilities or slow the pace at which we close sales transactions, any of which could harm our business. Future laws, regulations, standards, and other obligations, actions by governments or other agencies, and changes in the interpretation or inconsistent interpretation of existing laws, regulations, standards, and other obligations could result in increased regulation, increased costs of compliance and penalties for non-compliance, costly changes to Zuora's products or their functionality, and limitations on processing personal information. Privacy advocacy groups, the technology industry, and other industries have established or may establish various new, additional, or different self-regulatory standards that may place additional burdens on us. Our customers may require us or we may find it advisable to meet voluntary certifications or adhere to other standards established by them or third parties. Our customers may also expect us to take proactive stances or contractually require us to take certain actions should a request for personal information belonging to customers be received from a government or regulatory agency. If we are unable to maintain such certifications, comply with such standards, or meet such customer requests, it could reduce demand for our solution and adversely affect our business. Failure to protect our intellectual property could adversely affect our business. Our success depends in large part on our proprietary technology. We rely on various intellectual property (IP) rights, including patents, copyrights, trademarks, and trade secrets, as well as confidentiality provisions and contractual arrangements, to protect our proprietary rights. If we do not protect and enforce our intellectual property rights successfully, our competitive position may suffer, which could adversely impact our operating results. Our pending patent or trademark applications may not be allowed, or competitors may challenge the validity, enforceability or scope of our patents, copyrights, trademarks or the trade secret status of our proprietary information. There can be no assurance that additional patents will be issued or that any patents that are issued will provide significant protection for our intellectual property. There is also no assurance that we will be able to register trademarks that are critical to our business. In addition, our patents, copyrights, trademarks, trade secrets, and other intellectual property rights may not provide us a significant competitive advantage. There is no assurance that the particular forms of intellectual property protection that we seek, including business decisions about when to file patents and when to maintain trade secrets, will be adequate to protect our business. Moreover U.S. patent law, developing jurisprudence regarding U.S. patent law, and possible future changes to U.S. or foreign patent laws and regulations may affect our ability to protect and enforce our intellectual property rights. In addition, the laws of some countries do not provide the same level of protection of our intellectual property as do the laws of the United States. As we expand our international activities, our exposure to unauthorized copying and use of our solution and proprietary information will likely increase. Despite our precautions, our intellectual 57 property is vulnerable to unauthorized access through employee error or actions, theft, and cybersecurity incidents, and other security breaches. It may be possible for third parties to infringe upon or misappropriate our intellectual property, to copy our solution, and to use information that we regard as proprietary to create products and services that compete with ours. Effective intellectual property protection may not be available to us in every country in which our solution is available. For example, some foreign countries have compulsory licensing laws under which a patent owner must grant licenses to third parties. In addition, many countries limit the enforceability of patents against certain third parties, including government agencies or government contractors. In these countries, patents may provide limited or no benefit. We may need to expend additional resources to defend our intellectual property rights domestically or internationally, which could impair our business or adversely affect our domestic or international expansion. Moreover, we may not pursue or file patent applications or apply for registration of copyrights or trademarks in the United States and foreign jurisdictions in which we operate with respect to our potentially patentable inventions, works of authorship, marks and logos for a variety of reasons, including the cost of procuring such rights and the uncertainty involved in obtaining adequate protection from such applications and registrations. If we cannot adequately protect and defend our intellectual property, we may not remain competitive, and our business, operating results, and financial condition may be adversely affected. We enter into confidentiality and invention assignment agreements with our employees and consultants and enter into confidentiality agreements with other parties. We cannot assure you that these agreements will be effective in controlling access to, use of, and distribution of our proprietary information or in effectively securing exclusive ownership of intellectual property developed by our current or former employees and consultants. Further, these agreements may not prevent other parties from independently developing technologies that are substantially equivalent or superior to our solution. We may need to spend significant resources securing and monitoring our intellectual property rights, and we may or may not be able to detect infringement by third parties. Our competitive position may be harmed if we cannot detect infringement and enforce our intellectual property rights quickly or at all. In some circumstances, we may choose to not pursue enforcement because an infringer has a dominant intellectual property position or for other business reasons. In addition, competitors might avoid infringement by designing around our intellectual property rights or by developing non-infringing competing technologies. Litigation may be necessary in the future to enforce our intellectual property rights and to protect our trade secrets. Litigation brought to protect and enforce our intellectual property rights could be costly, time-consuming, and distracting to management, and could result in the impairment or loss of portions of our intellectual property. Further, our efforts to enforce our intellectual property rights may be met with defenses, counterclaims attacking the scope, validity, and enforceability of our intellectual property rights, or with counterclaims and countersuits asserting infringement by our products and services of third-party intellectual property rights. Our failure to secure, protect, and enforce our intellectual property rights could seriously adversely affect our brand and our business. Additionally, the United States Patent and Trademark Office and various foreign governmental patent agencies require compliance with a number of procedural, documentary, fee payment, and other similar provisions in order to complete the patent or trademark application process and to maintain issued patents or trademarks. There are situations in which noncompliance or non-payment can result in abandonment or lapse of the patent or trademark or associated application, resulting in partial or complete loss of patent or trademark rights in the relevant jurisdiction. If this occurs, it could have a material adverse effect on our business operations and financial condition. Errors, defects, or disruptions in our solution could diminish demand, harm our financial results, and subject us to liability. Our customers use our products for important aspects of their businesses, and any errors, defects, or disruptions to our solution, or other performance problems with our solution could harm our brand and reputation and may damage our customers’ businesses. We are also reliant on third-party software and infrastructure, including the infrastructure of the Internet, to provide our products and services. Any failure of or disruption to this software and infrastructure could also make our solution unavailable to our customers. Our solution is constantly changing with new software releases, which may contain undetected errors when first introduced or released. Any errors, defects, disruptions in service, or other performance problems with our solution could result in negative publicity, loss of or delay in market acceptance of our products, loss of competitive position, delay of payment to us, lower renewal rates, or claims by customers for losses sustained by them. In such an event, we may be required, or may choose, for customer relations or other reasons, to expend additional resources in order to help correct the problem. Accordingly, any errors, defects, or disruptions to our solution could adversely impact our brand and reputation, revenue, and operating results. 58 In addition, because our products and services are designed to interoperate with a variety of internal and third-party systems and infrastructures, we need to continuously modify and enhance our products and services to keep pace with changes in software technologies. We may not be successful in either developing these modifications and enhancements or resolving interoperability issues in a timely and cost-effective manner. Any failure of our products and services to continue to operate effectively with internal or third-party infrastructures and technologies could reduce the demand for our products and services, resulting in dissatisfaction of our customers, and may materially and adversely affect our business. Any disruption of service at our cloud providers, including Amazon Web Services and Microsoft's Azure cloud service, could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. We currently host our solution, serve our customers, and support our operations using Amazon Web Services (AWS), a provider of cloud infrastructure services, and have begun enabling new features and capabilities for our solution using Microsoft's Azure cloud service. We also leverage AWS in various geographic regions for our disaster recovery plans. We do not have control over the operations of the facilities of AWS or Azure. These facilities are vulnerable to damage or interruption from earthquakes, hurricanes, floods, fires, cyber security attacks, terrorist attacks, power losses, telecommunications failures, and similar events. The occurrence of a natural disaster or an act of terrorism, a decision to close the facilities without adequate notice, or other unanticipated problems could result in lengthy interruptions in our solution. In addition, the COVID-19 pandemic could potentially disrupt the supply chain of hardware needed to maintain these third-party systems or to run our business. The facilities also could be subject to break-ins, computer viruses, sabotage, intentional acts of vandalism, and other misconduct. Our solution’s continuing and uninterrupted performance is critical to our success. Because our products and services are used by our customers for billing and financial accounting purposes, it is critical that our solution be accessible without interruption or degradation of performance, and we typically provide our customers with service level commitments with respect to service uptime. Customers may become dissatisfied by any system failure that interrupts our ability to provide our solution to them. Outages could lead to the triggering of our service level agreements and the issuance of credits to our customers, in which case, we may not be fully indemnified for such losses by AWS or Azure. We may not be able to easily switch our public cloud providers, including AWS and Azure, to another cloud provider if there are disruptions or interference with our use of either facility. Sustained or repeated system failures would reduce the attractiveness of our solution to customers and result in contract terminations, thereby reducing revenue. Moreover, negative publicity arising from these types of disruptions could damage our reputation and may adversely impact use of our solution. We may not carry sufficient business interruption insurance to compensate us for losses that may occur as a result of any events that cause interruptions in our service. While our agreement with AWS expires in September 2024, AWS and our other cloud providers do not have an obligation to renew their agreements with us on commercially reasonable terms, or at all. If we are unable to renew our agreements with these providers on commercially reasonable terms, if our agreements with our providers are prematurely terminated, or if in the future we add additional public cloud providers, we may experience additional costs or service downtime in connection with the transfer to, or the addition of, new public cloud providers. If these providers were to increase the cost of their services, we may have to increase the price of our solution, and our operating results may be adversely impacted. We are vulnerable to intellectual property infringement claims brought against us by others. There has been considerable activity in our industry to develop and enforce intellectual property rights. Successful intellectual property infringement claims against us or certain third parties, such as our customers, resellers, or strategic partners, could result in monetary liability or a material disruption in the conduct of our business. We cannot be certain that our products and services, content, and brand names do not or will not infringe valid patents, trademarks, copyrights, or other intellectual property rights held by third parties. We may be subject to legal proceedings and claims from time to time relating to the intellectual property of others in the ordinary course of our business. Any intellectual property litigation to which we might become a party, or for which we are required to provide indemnification, may require us to cease selling or using solutions that incorporate the intellectual property that we allegedly infringe, make substantial payments for legal fees, settlement payments, or other costs or damages, obtain a license, which may not be available on reasonable terms or at all, to sell or use the relevant technology, or redesign the allegedly infringing solutions to avoid infringement, which could be costly, time-consuming, or impossible. Any claims or litigation, regardless of merit, could cause us to incur significant expenses 59 and, if successfully asserted against us, could require that we pay substantial damages or ongoing royalty payments, prevent us from offering our products and services, or require that we comply with other unfavorable terms. We do not have a significant patent portfolio, which could prevent us from deterring patent infringement claims through our own patent portfolio, and our competitors and others may now and in the future have significantly larger and more mature patent portfolios than we have. We may also be obligated to indemnify our customers or strategic partners in connection with such infringement claims, or to obtain licenses from third parties or modify our solution, and each such obligation could further exhaust our resources. Some of our intellectual property infringement indemnification obligations are contractually capped at a very high amount or not capped at all. Even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the time and attention of our management and other employees, and adversely affect our business and operating results. We expect that the occurrence of infringement claims is likely to grow as the market for subscription management products and services grows. Accordingly, our exposure to damages resulting from infringement claims could increase and this could further exhaust our financial and management resources. Our solution contains open source software components, and failure to comply with the terms of the underlying licenses could restrict our ability to sell our solution. Our solution incorporates certain open source software. An open source license typically permits the use, modification, and distribution of software in source code form subject to certain conditions. Some open source licenses contain conditions that any person who distributes or uses a modification or derivative work of software that was subject to an open source license make the modified version subject to the same open source license. Distributing or using software that is subject to this kind of open source license can lead to a requirement that certain aspects of our solution be distributed or made available in source code form. Although we do not believe that we have used open source software in a manner that might condition its use on our distribution of any portion of our solution in source code form, the interpretation of open source licenses is legally complex and, despite our efforts, it is possible that we may be liable for copyright infringement, breach of contract, or other claims if our use of open source software is adjudged to not comply with the applicable open source licenses. Moreover, we cannot assure you that our processes for controlling our use of open source software in our solution will be effective. If we have not complied with the terms of an applicable open source software license, we may need to seek licenses from third parties to continue offering our solution on terms that are not economically feasible, to re-engineer our solution to remove or replace the open source software, to discontinue the sale of our solution if re-engineering could not be accomplished on a timely basis, to pay monetary damages, or to make available the source code for aspects of our proprietary technology, any of which could adversely affect our business, operating results, and financial condition. In addition to risks related to license requirements, use of open source software can involve greater risks than those associated with use of third-party commercial software, as open source licensors generally do not provide warranties, assurances of title, performance, non-infringement, or controls on the origin of the software. There is typically no support available for open source software, and we cannot assure you that the authors of such open source software will not abandon further development and maintenance. Open source software may contain security vulnerabilities, and we may be subject to additional security risk by using open source software. Many of the risks associated with the use of open source software, such as the lack of warranties or assurances of title or performance, cannot be eliminated, and could, if not properly addressed, negatively affect our business. We have established processes to help alleviate these risks, including a review process for screening requests from our development organizations for the use of open source software, but we cannot be sure that all open source software is identified or submitted for approval prior to use in our solution. Risks Related to Legal, Regulatory, Accounting, and Tax Matters If we are not able to satisfy data protection, security, privacy, and other government- and industry-specific requirements, our growth could be harmed. We are subject to data protection, security, privacy, and other government- and industry-specific requirements, including those that require us to notify individuals of data security and privacy incidents involving certain types of personal data. Security and privacy compromises experienced by us or our service providers may lead to public disclosures, which could harm our reputation, erode customer confidence in the effectiveness of our security and 60 privacy measures, negatively impact our ability to attract new customers, cause existing customers to elect not to renew their subscriptions with us, or negatively impact our employee relationships or impair our ability to attract new employees. In addition, some of the industries we serve have industry-specific requirements relating to compliance with certain security, privacy and regulatory standards, such as those required by the Health Insurance Portability and Accountability Act. We also maintain compliance with the Payment Card Industry Data Security Standard, which is critical to the financial services and insurance industries. As we expand and sell into new verticals and regions, we will likely need to comply with these and other requirements to compete effectively. If we cannot comply or if we incur a violation in one or more of these requirements, our growth could be adversely impacted, and we could incur significant liability. Because we typically recognize subscription revenue over the term of the applicable agreement, a lack of subscription renewals or new subscription agreements may not be reflected immediately in our operating results and may be difficult to discern. We generally recognize subscription revenue from customers ratably over the terms of their contracts, which typically vary between one and three years. As a result, most of the subscription revenue we report in each quarter is derived from the recognition of unearned revenue relating to subscriptions entered into during previous quarters. Consequently, a decline in new or renewed subscriptions in any particular quarter would likely have a minor impact on our revenue results for that quarter, but could negatively affect our revenue in future quarters. Accordingly, the effect of significant downturns in sales and market acceptance of our solution, and potential changes in our pricing policies or rate of renewals, may not be fully reflected in our operating results until future periods. Moreover, our subscription model makes it difficult for us to rapidly increase our revenue through additional sales in any period, as revenue from new customers must be recognized over the applicable subscription term. We typically provide service level commitments under our customer contracts. If we fail to meet these contractual commitments, we could be obligated to provide credits or refunds for prepaid amounts related to unused subscription services or face contract terminations, which could adversely affect our operating results. Our customer contracts typically provide for service level commitments, which relate to service uptime, response times, and escalation procedures. If we are unable to meet the stated service level commitments or suffer extended periods of unavailability for our solution, we may be contractually obligated to provide these customers with service credits, refunds for prepaid amounts related to unused subscription services, or other remedies, or we could face contract terminations. In addition, we could face legal claims for breach of contract, product liability, tort, or breach of warranty. Although we have contractual protections, such as warranty disclaimers and limitation of liability provisions, in our customer agreements, they may not fully or effectively protect us from claims by customers, commercial relationships, or other third parties. We may not be fully indemnified by our vendors for service interruptions beyond our control, and any insurance coverage we may have may not adequately cover all claims asserted against us, or cover only a portion of such claims. In addition, even claims that ultimately are unsuccessful could result in our expenditure of funds in litigation and divert management’s time and other resources. Thus, our revenue could be harmed if we fail to meet our service level commitments under our agreements with our customers, including, but not limited to, maintenance response times and service outages. Typically, we have not been required to provide customers with service credits that have been material to our operating results, but we cannot assure you that we will not incur material costs associated with providing service credits to our customers in the future. Additionally, any failure to meet our service level commitments could adversely impact our reputation, business, operating results, and financial condition. Our customers may fail to pay us in accordance with the terms of their agreements, necessitating action by us to compel payment. We typically enter into non-cancelable agreements with our customers with a term of one to three years. If customers fail to pay us under the terms of our agreements, we may be adversely affected both from the inability to collect amounts due and the cost of enforcing the terms of our contracts, including litigation. The risk of such negative effects increases with the term length of our customer arrangements. Furthermore, some of our customers may seek bankruptcy protection or other similar relief and fail to pay amounts due to us, or pay those amounts more slowly, either of which could adversely affect our operating results, financial position, and cash flow. Although we have processes in place that are designed to monitor and mitigate these risks, we cannot guarantee these 61 programs will be effective. If we are unable to adequately control these risks, our business, operating results and financial condition could be harmed. Adverse litigation judgments or settlements resulting from legal proceedings in which we may be involved could expose us to monetary damages or limit our ability to operate our business. We are currently involved in shareholder litigation and have in the past and may in the future become involved in other class actions, derivative actions, private actions, collective actions, investigations, and various other legal proceedings by stockholders, customers, employees, suppliers, competitors, government agencies, or others. The results of any such litigation, investigations, and other legal proceedings are inherently unpredictable and expensive. Any claims against us, whether meritorious or not, could be time consuming, result in costly litigation, damage our reputation, require significant amounts of management time, and divert significant resources. If any of these legal proceedings were to be determined adversely to us, or we were to enter into a settlement arrangement, we could be exposed to monetary damages or limits on our ability to operate our business, which could have an adverse effect on our business, financial condition, and operating results. Our ability to use our net operating losses to offset future taxable income may be subject to certain limitations which could subject our business to increased tax liability. Our ability to use our net operating losses (NOLs) to offset future taxable income may be subject to certain limitations which could subject our business to higher tax liability. Utilization of the net operating loss may be subject to an annual limitation due to the "ownership change" limitations provided by Section 382 and 383 of the Internal Revenue Code of 1986, as amended, and other similar state provisions. Additionally, NOLs arising in tax years beginning after December 31, 2017 are subject to a 20-year carryover limitation and may expire if unused within that period. There is also a risk that due to legislative changes, such as suspensions on the use of NOLs, or other unforeseen reasons, our existing NOLs could expire or otherwise be unavailable to offset future income tax liabilities. In addition, under the Tax Cuts and Jobs Act of 2017, as modified by the Coronavirus Aid, Relief, and Economic Security Act, the amount of NOLs that we are permitted to deduct in any taxable year is limited to 80% of our taxable income in such year, where taxable income is determined without regard to the NOL deduction itself. As such, we may not be able to realize a tax benefit from the use of our NOLs, whether or not we attain profitability. We may need to raise additional capital required to grow our business, and we may not be able to raise capital on terms acceptable to us or at all. In order to support our growth and respond to business challenges, such as developing new features or enhancements to our solution to stay competitive, acquiring new technologies, and improving our infrastructure, we have made significant financial investments in our business, and we intend to continue to make such investments. As a result, to provide the funds required for these investments and other business endeavors, we may need to engage in equity or debt financings. For example, we recently issued to Silver Lake the Initial Notes and have agreed to issue to Silver Lake up to an additional $150.0 million in senior unsecured notes. See Note 9. Debt to our unaudited condensed consolidated financial statements included in this Form 10-Q for more information about the 2029 Notes. If we raise additional funds through equity or convertible debt issuances, our existing stockholders may suffer significant dilution, and these securities could have rights, preferences, and privileges that are superior to that of holders of our common stock. If we obtain additional funds through debt financing, we may not be able to obtain such financing on terms favorable to us. Such terms may involve additional restrictive covenants making it difficult to engage in capital raising activities and pursue business opportunities, including potential acquisitions. Future volatility in the trading price of our common stock may reduce our ability to access capital on favorable terms or at all. In addition, a recession, depression or other sustained adverse market event resulting from the spread of COVID-19 could materially and adversely affect our business and the value of our common stock. If we are unable to obtain adequate financing or financing on terms satisfactory to us when we require it, our ability to continue to support our business growth and to respond to business challenges could be significantly impaired and our business may be adversely affected, requiring us to delay, reduce, or eliminate some or all of our operations. Failure to comply with anti-corruption and anti-money laundering laws, including the FCPA and similar laws associated with our activities outside of the United States, could subject us to penalties and other adverse consequences. We are subject to the FCPA, the U.S. domestic bribery statute contained in 18 U.S.C. § 201, the U.S. Travel Act, the USA PATRIOT Act, the UK Bribery Act, and possibly other anti-bribery and anti-money laundering laws in 62 countries in which we conduct activities. We face significant risks if we fail to comply with the FCPA and other anti-corruption laws that prohibit companies and their employees and third-party intermediaries from promising, authorizing, offering, or providing, directly or indirectly, improper payments or benefits to foreign government officials, political parties, and private-sector recipients for the purpose of obtaining or retaining business, directing business to any person, or securing any advantage. In many foreign countries, particularly in countries with developing economies, it may be a local custom that businesses engage in practices that are prohibited by the FCPA or other applicable laws and regulations. In addition, we use various third parties to sell our solution and conduct our business abroad. We or our third-party intermediaries may have direct or indirect interactions with officials and employees of government agencies or state-owned or affiliated entities and we can be held liable for the corrupt or other illegal activities of these third-party intermediaries, our employees, representatives, contractors, partners, and agents, even if we do not explicitly authorize such activities. We have implemented an anti-corruption compliance program but cannot assure you that all of our employees and agents, as well as those companies to which we outsource certain of our business operations, will not take actions in violation of our policies and applicable law, for which we may be ultimately held responsible. Any violation of the FCPA, other applicable anti-corruption laws, and anti-money laundering laws could result in whistleblower complaints, adverse media coverage, investigations, loss of export privileges, or severe criminal or civil sanctions, which could have a materially adverse effect on our reputation, business, operating results, and prospects. In addition, responding to any enforcement action may result in a significant diversion of management’s attention and resources, significant defense costs, and other professional fees. We are required to comply with governmental export control laws and regulations. Our failure to comply with these laws and regulations could have an adverse effect on our business and operating results. Our solution is subject to governmental, including United States and European Union, export control laws and import regulations, and as a U.S. company we are covered by the U.S. sanctions regulations. U.S. export control and economic sanctions laws and regulations prohibit the shipment of certain products and services to U.S. embargoed or sanctioned countries, governments, entities and persons, and complying with export control and sanctions regulations for a particular sale may be time-consuming and may result in the delay or loss of sales opportunities. While we take precautions to prevent our solution from being exported in violation of these laws or engaging in any other activities that are subject to these regulations, if we were to fail to comply with U.S. export laws, U.S. Customs regulations and import regulations, U.S. economic sanctions, and other countries’ import and export laws, we could be subject to substantial civil and criminal penalties, including fines for our company, incarceration for responsible employees and managers; the possible loss of export or import privileges which could impact our ability to provide our solution to customers; and reputational harm. We incorporate encryption technology into certain of our products and certain encryption products may be exported outside of the United States only by a license or a license exception. In addition, various countries regulate the import of certain encryption technology, including import permitting and licensing requirements, and have enacted laws that could limit our ability to distribute our products or could limit our customers’ ability to deploy our products in those countries. Although we take precautions to prevent our products from being provided in violation of such laws, we cannot assure you that inadvertent violations of such laws have not occurred or will not occur in connection with the distribution of our products despite the precautions we take. Governmental regulation of encryption technology and regulation of imports or exports, or our failure to obtain required import or export approval for our products, could harm our international sales and adversely affect our operating results. Further, if our partners, including suppliers, fail to obtain required import, export, or re-export licenses or permits, we may also be harmed, become the subject of government investigations or penalties, and incur reputational harm. Changes in our solution or changes in export and import regulations may create delays in the introduction of our solution in international markets, prevent our customers with international operations from deploying our solution globally or, in some cases, prevent the export or import of our solution to certain countries, governments, or persons altogether. Any change in export or import laws or regulations, economic sanctions, or related legislation, shift in the enforcement or scope of existing laws and regulations, or change in the countries, governments, persons, or technologies targeted by such laws and regulations, could result in decreased use of our solution by, or in our decreased ability to export or sell our solution to, existing or potential customers such as customers with international operations or customers who are added to the restricted entities list published by the U.S. Office of Foreign Assets Control (OFAC). Any decreased use of our solution or limitation on our ability to export or sell our solution would likely harm our business, financial condition, and operating results. 63 The applicability of sales, use and other tax laws or regulations in the U.S. and internationally on our business is uncertain. Adverse tax laws or regulations could be enacted or existing laws could be applied to us or our customers, which could subject us to additional tax liability and related interest and penalties, increase the costs of our services and adversely impact our business. The application of federal, state, local, and non-U.S. tax laws to services provided electronically is evolving. New income, sales, use, value-added, or other direct or indirect tax laws, statutes, rules, regulations, or ordinances could be enacted at any time (possibly with retroactive effect), and could be applied solely or disproportionately to services provided over the Internet or could otherwise materially affect our financial position and results of operations. Many countries in the European Union, as well as a number of other countries and organizations such as the Organization for Economic Cooperation and Development, have proposed or recommended changes to existing tax laws or have enacted new laws that could impact our tax obligations. As we expand the scale of our international business activities, any changes in the U.S. or foreign taxation of such activities may increase our worldwide effective tax rate and harm our business, results of operations, and financial condition. In addition, state, local, and foreign tax jurisdictions have differing rules and regulations governing sales, use, value-added, and other taxes, and these rules and regulations can be complex and are subject to varying interpretations that may change over time. Existing tax laws, statutes, rules, regulations, or ordinances could be interpreted, changed, modified, or applied adversely to us (possibly with retroactive effect), which could require us or our customers to pay additional tax amounts on prior sales and going forward, as well as require us or our customers to pay fines or penalties and interest for past amounts. Although our customer contracts typically provide that our customers must pay all applicable sales and similar taxes, our customers may be reluctant to pay back taxes and associated interest or penalties, or we may determine that it would not be commercially feasible to seek reimbursement. If we are required to collect and pay back taxes and associated interest and penalties, or we are unsuccessful in collecting such amounts from our customers, we could incur potentially substantial unplanned expenses, thereby adversely impacting our operating results and cash flows. Imposition of such taxes on our services going forward could also adversely affect our sales activity and have a negative impact on our operating results and cash flows. Our reported financial results may be adversely affected by changes in accounting principles generally accepted in the United States. Generally Accepted Accounting Principles (GAAP) is subject to interpretation by the Financial Accounting Standards Board (FASB), the SEC, and various bodies formed to promulgate and interpret appropriate accounting principles. A change in these principles or interpretations could have a significant effect on our reported financial results, and could affect the reporting of transactions completed before the announcement of a change. Any difficulties in implementing these pronouncements, including those described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements of our Notes to Consolidated Financial Statements included in our Annual Report on Form 10-K, could cause us to fail to meet our financial reporting obligations, which could result in regulatory discipline and harm investors' confidence in us. Risks Related to Ownership of Our Class A Common Stock The stock price of our Class A common stock has been and may continue to be volatile, and you could lose all or part of your investment. The market price of our Class A common stock since our initial public offering in 2018 has been and may continue to be volatile. In addition to factors discussed in this Form 10-Q, the market price of our Class A common stock may fluctuate significantly in response to numerous factors, many of which are beyond our control, includin • overall performance of the equity markets; • actual or anticipated fluctuations in our revenue and other operating results; • changes in the financial projections we may provide to the public or our failure to meet these projections; • failure of securities analysts to initiate or maintain coverage of us, changes in financial estimates by any securities analysts who follow our company, or our failure to meet these estimates or the expectations of investors; 64 • recruitment or departure of key personnel; • the economy as a whole and market conditions in our industry; • negative publicity related to the real or perceived quality of our solution, as well as the failure to timely launch new products and services that gain market acceptance; • growth of the Subscription Economy; • rumors and market speculation involving us or other companies in our industry; • announcements by us or our competitors of new products, commercial relationships, or significant technical innovations; • acquisitions, strategic partnerships, joint ventures, or capital commitments; • new laws or regulations or new interpretations of existing laws or regulations applicable to our business; • lawsuits threatened or filed against us, litigation involving our industry, or both; • developments or disputes concerning our or other parties’ products, services, or intellectual property rights; • the inclusion of our Class A common stock on stock market indexes, including the impact of rules adopted by certain index providers, such as S&P Dow Jones Indices and FTSE Russell, that limit or preclude inclusion of companies with multi-class capital structures; • changes in accounting standards, policies, guidelines, interpretations, or principles; • the impact of the COVID-19 pandemic, including on the global economy, our operating results and enterprise technology spending; • other events or factors, including those resulting from pandemics, war, incidents of terrorism, or responses to these events, including the ongoing conflict in Ukraine; • sales of shares of our Class A common stock by us or our stockholders; • inflation; and • fluctuations in interest rates. In addition, the stock markets have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many companies, particularly during the current period of macroeconomic uncertainty, including rising inflation, increasing interest rates and fluctuations in international currency rates, as well as the impacts of the current conflict in Ukraine and the COVID-19 pandemic. Stock prices of many companies, and technology companies in particular, have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. These economic, political, regulatory and market conditions have and may continue to negatively impact the market price of our common stock. In the past, companies that have experienced volatility in the market price of their securities have been subject to shareholder litigation. We are currently subject to shareholder litigation, which is described in Note 13. Commitments and Contingencies in the notes to our unaudited condensed consolidated financial statements. This or any future shareholder litigation could subject us to substantial costs, divert resources and the attention of management from our business, and adversely affect our business. 65 The market price of our Class A common stock could decline as a result of a substantial number of shares of our Class A common stock being issued or sold, which may make it more difficult for you to sell your Class A common stock at a time and price that you deem appropriate. As of May 31, 2022, a total of 121.2 million shares of Class A common stock and 8.0 million shares of Class B common stock were outstanding. Issuances of a substantial number of shares of our Class A common stock, including as a result of the exercise or conversion into Class A common stock of outstanding convertible notes, warrants, equity awards, shares of Class B common stock or other securities, could result in significant dilution to our existing stockholders and cause the market price of our Class A common stock to decline. From time to time, we may issue shares of common stock or securities convertible into shares of common stock in connection with a financing, an acquisition, investments, or otherwise. For example, as described in Note 9. Debt, on March 24, 2022 (Initial Closing Date), we issued to Silver Lake convertible notes in the aggregate principal amount of $250.0 million as well as warrants to purchase up to 7.5 million shares of Class A common stock, and we have agreed to issue additional convertible notes in the aggregate principal amount of $150.0 million to Silver Lake 18 months after the Initial Closing Date (or sooner under certain conditions). In addition, under certain circumstances, the number of shares issuable upon conversion of the convertible notes or exercise of the warrants may be subject to increase, as described in Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock . The conversion of these convertible notes or exercise of these warrants could result in a substantial number of shares of our Class A common stock being issued. Silver Lake is generally restricted from converting the convertible notes or exercising the warrants, or transferring them, during the 18 month period following the Initial Closing Date, except in certain circumstances. In addition, we grant equity awards to employees, directors, and consultants under our 2018 Equity Incentive Plan on an ongoing basis and our employees have the right to purchase shares of our Class A common stock semi-annually under our 2018 Employee Stock Purchase Plan. As of April 30, 2022, there were a total of 23.4 million shares of Class A common stock subject to outstanding options and restricted stock units (RSUs), including performance stock units (PSUs). Subject to vesting and other applicable requirements, the shares issued upon the exercise of such options or settlement of such RSUs will be available for resale in the open market. Moreover, the market price of our Class A common stock could decline as a result of sales of a large number of shares of our Class A common stock in the market, particularly sales by our directors, executive officers and significant stockholders. The perception that these sales might occur may also cause the market price of our Class A common stock to decline. We also have granted and may grant from time to time certain registration rights that, subject to certain conditions, require us to file registration statements for the public resale of certain securities or to include such securities in registration statements that we may file on behalf of our company or other stockholders. If securities or industry analysts do not publish research, or publish inaccurate or unfavorable research, about our business, the price of our Class A common stock and trading volume could decline. The trading market for our Class A common stock depends in part on the research and reports that securities or industry analysts publish about us or our business. If few securities analysts commence coverage of us, or if industry analysts cease coverage of us, the trading price for our Class A common stock could be negatively affected. If one or more of the analysts who cover us downgrade our Class A common stock or publish inaccurate or unfavorable research about our business, the price of our Class A common stock would likely decline. If one or more of these analysts cease coverage of us or fail to publish reports on us regularly, demand for our Class A common stock could decrease, which might cause our Class A common stock price and trading volume to decline. Even if our stock is actively covered by analysts, we do not have any control over the analysts or the measures that analysts or investors may rely upon to forecast our future results. For example, in order to assess our business activity in a given period, analysts and investors may look at the combination of revenue and changes in deferred revenue in a given period (sometimes referred to as “billings”). Over-reliance on billings or similar measures may result in analyst or investor forecasts that differ significantly from our own for a variety of reasons, includin • a relatively large number of transactions occur at the end of the quarter. Invoicing of those transactions may or may not occur before the end of the quarter based on a number of factors including receipt of information from the customer, volume of transactions, and holidays. A shift of a few days has little economic impact on our business, but will shift deferred revenue from one period into the next; 66 • a shift in billing frequency (i.e. from monthly to quarterly or from quarterly to annually), which may distort trends; • subscriptions that have deferred start dates; and • services that are invoiced upon delivery. In addition, the revenue recognition disclosure obligations under Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers (Topic 606) are prepared on the basis of estimates that can change over time and on the basis of events over which we have no control. It is possible that analysts and investors may misinterpret our disclosure or that our methods for estimating this disclosure may differ significantly from others, which could lead to inaccurate or unfavorable forecasts by analysts and investors. The dual class structure of our common stock has the effect of concentrating voting control with holders of our Class B common stock, including our directors, executive officers, and significant stockholders, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. Our Class B common stock has ten votes per share, and our Class A common stock has one vote per share. As of April 30, 2022, our directors and executive officers, and their affiliates, held substantially all of our Class B common stock and a substantial portion of the combined voting power of our common stock. As a result, we expect our directors and officers would control all matters submitted to our stockholders for approval until the earlier of (i) the date specified by a vote of the holders of 66 2/3% of the outstanding shares of Class B common stock, (ii) April 16, 2028, and (iii) the date the shares of Class B common stock cease to represent at least 5% of all outstanding shares of our common stock. This concentrated control limits or precludes your ability to influence corporate matters for the foreseeable future, including the election of directors, amendments of our organizational documents, and any merger, consolidation, sale of all or substantially all of our assets, or other major corporate transaction requiring stockholder approval. In addition, this may prevent or discourage unsolicited acquisition proposals or offers for our capital stock that you may feel are in your best interest as one of our stockholders. Future transfers by holders of Class B common stock will generally result in those shares converting to Class A common stock, subject to limited exceptions, such as certain permitted transfers effected for estate planning purposes. The conversion of Class B common stock to Class A common stock will have the effect, over time, of increasing the relative voting power of those holders of Class B common stock who retain their shares in the long term. The dual class structure of our common stock may adversely affect the trading market for our Class A common stock. Stock index providers, such as S&P Dow Jones and FTSE Russell, exclude or limit the eligibility of public companies with multiple classes of shares of common stock for certain indices, including the S&P 500. In addition, several shareholder advisory firms have announced their opposition to the use of multiple class structures. As a result, the dual class structure of our common stock may prevent the inclusion of our Class A common stock in such indices and may cause shareholder advisory firms to publish negative commentary about our corporate governance practices or otherwise seek to cause us to change our capital structure. Any such exclusion from indices could result in a less active trading market for our Class A common stock. Any actions or publications by shareholder advisory firms critical of our corporate governance practices or capital structure could also adversely affect the value of our Class A common stock. We do not intend to pay dividends for the foreseeable future. We have never declared or paid any cash dividends on our common stock and do not intend to pay any cash dividends in the foreseeable future. Additionally, our ability to pay dividends on our common stock is limited by restrictions under the terms of our Debt Agreement. We anticipate that for the foreseeable future we will retain all of our future earnings for use in the development of our business and for general corporate purposes. Any determination to pay dividends in the future will be at the discretion of our Board of Directors. Accordingly, investors must rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize any future gains on their investments. 67 Provisions in our charter documents and under Delaware law could make an acquisition of our company more difficult, limit attempts by our stockholders to replace or remove our current management, limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees, and limit the market price of our Class A common stock. Provisions in our restated certificate of incorporation and amended and restated bylaws may have the effect of delaying or preventing a change of control or changes in our management. Our restated certificate of incorporation and amended and restated bylaws include provisions tha • provide that our Board of Directors will be classified into three classes of directors with staggered three-year terms; • permit the Board of Directors to establish the number of directors and fill any vacancies and newly-created directorships; • require supermajority voting to amend some provisions in our restated certificate of incorporation and amended and restated bylaws; • authorize the issuance of “blank check” preferred stock that our Board of Directors could use to implement a stockholder rights plan; • provide that only the chairman of our Board of Directors, our chief executive officer, lead independent director, or a majority of our Board of Directors will be authorized to call a special meeting of stockholders; • provide for a dual class common stock structure in which holders of our Class B common stock may have the ability to control the outcome of matters requiring stockholder approval, even if they own significantly less than a majority of the outstanding shares of our common stock, including the election of directors and significant corporate transactions, such as a merger or other sale of our company or its assets; • prohibit stockholder action by written consent, which requires all stockholder actions to be taken at a meeting of our stockholders; • provide that the Board of Directors is expressly authorized to make, alter, or repeal our bylaws; and • establish advance notice requirements for nominations for election to our Board of Directors or for proposing matters that can be acted upon by stockholders at annual stockholder meetings. In addition, our restated certificate of incorporation provides that, to the fullest extent permitted by law, the Court of Chancery of the State of Delaware is the exclusive forum any derivative action or proceeding brought on our behalf; any action asserting a breach of fiduciary duty; any action asserting a claim against us arising pursuant to the Delaware General Corporation Law, or DGCL, our restated certificate of incorporation, or our amended and restated bylaws; or any action asserting a claim against us that is governed by the internal affairs doctrine. This exclusive forum provision does not apply to suits brought to enforce a duty or liability created by the Exchange Act. It would apply, however, to a suit that falls within one or more of the categories enumerated in the exclusive forum provision. Section 22 of the Securities Act of 1933, as amended (Securities Act), creates concurrent jurisdiction for federal and state courts over all claims brought to enforce any duty or liability created by the Securities Act or the rules and regulations thereunder. In April 2020, we amended and restated our bylaws to provide that the federal district courts of the United States of America will, to the fullest extent permitted by law, be the exclusive forum for resolving any complaint asserting a cause of action arising under the Securities Act (Federal Forum Provision). Our decision to adopt a Federal Forum Provision followed a decision by the Supreme Court of the State of Delaware holding that such provisions are facially valid under Delaware law. While there can be no assurance that federal or state courts will follow the holding of the Delaware Supreme Court or determine that the Federal Forum Provision should be enforced in a particular case, application of the Federal Forum Provision means that suits brought by our stockholders to enforce any duty or liability created by the Securities Act must be brought in federal court and cannot be brought in state court. Section 27 of the Exchange Act creates exclusive federal jurisdiction over all claims brought to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder. In addition, neither the exclusive forum provision nor the Federal Forum Provision applies to suits brought to enforce any duty or liability 68 created by the Exchange Act. Accordingly, actions by our stockholders to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder must be brought in federal court. Our stockholders will not be deemed to have waived our compliance with the federal securities laws and the regulations promulgated thereunder. Any person or entity purchasing or otherwise acquiring or holding any interest in any of our securities shall be deemed to have notice of and consented to our exclusive forum provisions, including the Federal Forum Provision. These provisions may limit a stockholders’ ability to bring a claim in a judicial forum of their choosing for disputes with us or our directors, officers, or other employees, which may discourage lawsuits against us and our directors, officers, and other employees. Moreover, Section 203 of the DGCL may discourage, delay, or prevent a change of control of our company. Section 203 imposes certain restrictions on mergers, business combinations, and other transactions between us and holders of 15% or more of our common stock. General Risk Factors Political developments, economic uncertainty or downturns could adversely affect our business and operating results. Political developments impacting government spending and international trade, including future government shutdowns in the United States, health pandemics such as the COVID-19 pandemic, armed conflict such as the conflict in Ukraine, and trade disputes and tariffs, may negatively impact markets and cause weaker macroeconomic conditions. The continuing effect of any or all of these political uncertainties could adversely impact demand for our products, harm our operations and weaken our financial results. In addition, in recent years, the United States and other significant markets have experienced cyclical downturns and worldwide economic conditions remain uncertain. Economic uncertainty and associated macroeconomic conditions, such as a recession or rising inflation rates or economic slowdown in the United States or internationally, including due to pandemics such as the COVID-19 pandemic or the ongoing conflict in Ukraine, make it extremely difficult for our customers and us to accurately forecast and plan future business activities, and could cause our customers to slow spending on our solution, which could delay and lengthen sales cycles. Furthermore, during uncertain economic times our customers may face issues gaining timely access to sufficient credit, which could result in an impairment of their ability to make timely payments to us. If that were to occur, we may be required to increase our allowance for credit losses and our results could be negatively impacted. We have customers in a variety of different industries. A significant downturn in the economic activity attributable to any particular industry may cause organizations to react by reducing their capital and operating expenditures in general or by specifically reducing their spending on information technology. In addition, our customers may delay or cancel information technology projects or seek to lower their costs by renegotiating vendor contracts. To the extent purchases of our solution are perceived by customers and potential customers to be discretionary, our revenue may be disproportionately affected by delays or reductions in general information technology spending. Also, customers may choose to develop in-house software or modify their legacy business software as an alternative to using our solution. Moreover, competitors may respond to challenging market conditions by lowering prices and attempting to lure away our customers. We cannot predict the timing, strength, or duration of any economic slowdown or any subsequent recovery generally, or any industry in particular. If the conditions in the general economy and the markets in which we operate worsen from present levels, our business, financial condition, and operating results could be materially adversely affected. 69 The requirements of being a public company may strain our resources, divert management’s attention, and affect our ability to attract and retain additional executive management and qualified board members. As a public company, we are subject to the reporting requirements of the Exchange Act, the Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley Act), the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the listing requirements of the New York Stock Exchange, and other applicable securities rules and regulations. Compliance with these rules and regulations have increased our legal and financial compliance costs, making some activities more difficult, time-consuming, or costly, and increasing demand on our systems and resources. Although we have already hired additional employees and outside consultants to comply with these requirements, we may need to add additional resources, which would increase our costs and expenses. In addition, changing laws, regulations, and standards relating to corporate governance and public disclosure are creating uncertainty for public companies, increasing legal and financial compliance costs, and making some activities more time consuming. These laws, regulations, and standards are subject to varying interpretations, in many cases due to their lack of specificity, and, as a result, their application in practice may evolve over time as market practice develops or new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. If our efforts to comply with new laws, regulations, and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to their application and practice, regulatory authorities may initiate legal proceedings against us, and our business may be adversely affected. The rules and regulations applicable to public companies make it more expensive for us to obtain and maintain director and officer liability insurance, and we may be required to accept reduced coverage or incur substantially higher costs to obtain coverage. These factors could also make it more difficult for us to attract and retain qualified members of our Board of Directors, particularly to serve on our audit committee and compensation committee, and qualified executive officers. As a result of disclosure of information in our public company filings, our business and financial condition is more visible, which may result in threatened or actual litigation, including by competitors and other third parties. If such claims are successful, our business and operating results could be adversely affected, and even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the resources of our management and adversely affect our business and operating results. In addition, as a result of our disclosure obligations as a public company, we have reduced flexibility and are under pressure to focus on short-term results, which may adversely affect our ability to achieve long-term profitability. If we fail to maintain an effective system of disclosure controls and internal control over financial reporting, our ability to produce timely and accurate financial statements or comply with applicable regulations could be impaired. As a public company, we are required, pursuant to Section 404 of the Sarbanes-Oxley Act, to furnish a report by management on, among other things, the effectiveness of our internal control over financial reporting. Effective internal control over financial reporting is necessary for us to provide reliable financial reports and, together with adequate disclosure controls and procedures, are designed to prevent fraud. Any failure to implement required new or improved controls, or difficulties encountered in their implementation, could cause us to fail to meet our reporting obligations. Ineffective internal controls could also cause investors to lose confidence in our reported financial information, which could have a negative effect on the trading price of our Class A common stock. This management report will need to include disclosure of any material weaknesses identified by our management in our internal control over financial reporting, as well as a statement that our independent registered public accounting firm has issued an opinion on our internal control over financial reporting. Section 404(b) of the Sarbanes-Oxley Act requires our independent registered public accounting firm to annually attest to the effectiveness of our internal control over financial reporting, which has required, and will continue to require, increased costs, expenses, and management resources. An independent assessment of the effectiveness of our internal controls could detect problems that our management’s assessment might not. Undetected material weaknesses in our internal controls could lead to financial statement restatements and require us to incur the expense of remediation. We are required to disclose changes made in our internal controls and 70 procedures on a quarterly basis. To comply with the requirements of being a public company, we have undertaken, and may need to further undertake in the future, various actions, such as implementing new internal controls and procedures and hiring additional accounting or internal audit staff. If we are unable to assert that our internal control over financial reporting is effective, or if our independent registered public accounting firm is unable to express an opinion on the effectiveness of our internal control, including as a result of any identified material weakness, we could lose investor confidence in the accuracy and completeness of our financial reports, which would cause the price of our Class A common stock to decline, and we may be subject to investigation or sanctions by the SEC. In addition, if we are unable to continue to meet these requirements, we may not be able to remain listed on the New York Stock Exchange. We may be adversely affected by natural disasters, pandemics, and other catastrophic events, and by man-made problems such as terrorism, that could disrupt our business operations. Our business continuity and disaster recovery plans may not adequately protect us from a serious disaster. Natural disasters, pandemics and epidemics, or other catastrophic events such as fire, power shortages, and other events beyond our control may cause damage or disruption to our operations, international commerce, and the global economy, and could have an adverse effect on our business, operating results, and financial condition. For example, the ongoing effects of the COVID-19 pandemic and the precautionary measures that we have adopted have resulted in, and could continue to result in, customers not purchasing or renewing our products or services, a significant delay or lengthening of our sales cycles, and could negatively impact our customer success and sales and marketing efforts and could result in difficulties or changes to our customer support, or create operational or other challenges, any of which could harm our business and operating results. In the event of a natural disaster, including a major earthquake, blizzard, wildfire, or hurricane, or a catastrophic event such as a fire, power loss, or telecommunications failure, we may be unable to continue our operations and may endure system interruptions, reputational harm, delays in development of our solution, lengthy interruptions in service, breaches of data security, and loss of critical data, all of which could have an adverse effect on our future operating results. For example, our corporate headquarters is located in California, a state that frequently experiences earthquakes and wildfires. Additionally, all of the aforementioned risks may be further increased if we do not implement a disaster recovery plan or the disaster recovery plans put in place by Zuora or our partners prove to be inadequate. Investors’ expectations of our performance relating to environmental, social, and governance factors may expose us to new risks and require us to incur additional costs . Corporate responsibility, including environmental, social and governance (ESG) factors, is increasingly becoming a focus from certain investors, employees, and other stakeholders. Some investors may use these factors to guide their investment strategies and, in some cases, may choose not to invest in us if they believe our corporate responsibility policies are inadequate. Third-party providers of corporate responsibility ratings and reports on companies have increased to meet growing investor demand for measurement of corporate responsibility performance. The criteria by which companies’ corporate responsibility practices are assessed may require significant expenditures. In May 2022, we announced our commitment to remain carbon neutral going forward, including by purchasing carbon offsets in future years, which may become increasingly more expensive. In addition, the corporate responsibility criteria could change, which could result in greater expectations of us and cause us to undertake more costly initiatives to satisfy such new criteria. If we elect not to or are unable to satisfy such new criteria, investors may conclude that our policies with respect to corporate responsibility are inadequate. We may face reputational damage in the event that our corporate responsibility procedures or standards do not meet the standards set by various constituencies. Furthermore, if our competitors’ corporate responsibility performance is perceived to be greater than ours, potential or current investors may elect to invest with our competitors instead. In addition, in the event that we communicate certain initiatives and goals regarding ESG matters, we could fail, or be perceived to fail, in our achievement of such initiatives or goals, or we could be criticized for the scope of such initiatives or goals. If we fail to satisfy the expectations of investors, employees, and other stakeholders, or, if our initiatives are not executed as planned, our reputation and business, operating results, and financial condition could be adversely impacted. 71 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds Not Applicable. 72 Item 6. Exhibits. Exhibit Number Incorporated By Reference Filed or Furnished Herewith Exhibit Description Form File No. Exhibit Filing Date 4.1 Indenture, by and between Zuora, Inc. and U.S. National Bank Association, as trustee (including the form of 3.95% / 5.50% Convertible Senior PIK Notes Due 2029 ) . 8-K 001-38451 10.2 3/25/2022 4.2 Form of 3.95% / 5.50% Convertible Senior PIK Notes Due 2029 (included in Exhibit 4.1) 8-K 001-38451 10.2 3/25/2022 4.3 Form of Warrant 8-K 001-38451 10.3 3/25/2022 10.1 Investment Agreement by and between Zuora, Inc. and Silver Lake Alpine II, L.P., dated as of March 2, 2022. 8-K 001-38451 10.1 3/25/2022 31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Exchange Act X 31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Exchange Act X 32.1* Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 X 32.2* Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 X 101.INS Inline XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document X 101.SCH Inline XBRL Taxonomy Extension Schema Document X 101.CAL Inline XBRL Taxonomy Extension Calculation Linkbase Document X 101.DEF Inline XBRL Taxonomy Extension Definition Linkbase Document X 101.LAB Inline XBRL Taxonomy Extension Label Linkbase Document X 101.PRE Inline XBRL Taxonomy Extension Presentation Linkbase Document X 104 Cover Page Interactive Data File (embedded within the Inline XBRL document and included in Exhibit 101). X * The certifications furnished in Exhibits 32.1 and 32.2 hereto are deemed to accompany this Form 10-Q and are not deemed “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, nor shall they be deemed incorporated by reference into any filing under the Securities Act or the Exchange Act. 73 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZUORA, INC. Date: June 3, 2022 By: /s/ Todd McElhatton Todd McElhatton Chief Financial Officer (Principal Accounting and Financial Officer) |
Washington, DC 20549 _____________________________ FORM 10-Q _____________________________ (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended July 31, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to __________ Commission File Numbe 001-38451 _____________________________ Zuora, Inc . (Exact name of registrant as specified in its charter) _____________________________ Delaware 20-5530976 (State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification Number) 101 Redwood Shores Parkway , Redwood City , California 94065 (Address of principal executive offices) (Zip Code) ( 888 ) 976-9056 (Registrant’s telephone number, including area code) Not Applicable (Former name, former address and former fiscal year, if changed since last report) _____________________________ Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name on each exchange on which registered Class A common stock, par value $0.0001 per share ZUO New York Stock Exchange Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☒ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ As of July 31, 2022, the number of shares of the Registrant ’ s Class A common stock outstanding was 123.8 million and the number of shares of the Registrant ’ s Class B common stock outstanding was 8.1 million. Page PART I. FINANCIAL INFORMATION 3 Item 1. Financial Statements (unaudited) 3 Condensed Consolidated Balance Sheets as of July 31 , 2022 and January 31, 202 2 3 Condensed Consolidated Statements of Comprehensive Loss for the Three and Six Months Ended July 3 1 , 2022 and 202 1 4 Condensed Consolidated Statements of Stockholders ' Equity for the Three and Six Months Ended July 3 1 , 2022 and 2021 5 Condensed Consolidated Statements of Cash Flows for the Six Months Ended J uly 31, 2022 and 2021 7 Notes to Unaudited Condensed Consolidated Financial Statements 8 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 24 Item 3. Quantitative and Qualitative Disclosures About Market Risk 42 Item 4. Controls and Procedures 43 PART II. OTHER INFORMATION 45 Item 1. Legal Proceedings 45 Item 1A. Risk Factors 45 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 78 Item 6. Exhibits 79 Signatures 80 SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS Unless the context otherwise requires, references in this Quarterly Report on Form 10-Q (Form 10-Q) to “Zuora,” “Company,” “our,” “us,” and “we” refer to Zuora, Inc. and, where appropriate, its consolidated subsidiaries. Our fiscal year end is January 31. References to “fiscal” followed by the year refer to the fiscal year ended January 31 for the referenced year. This Form 10-Q contains forward-looking statements within the meaning of the federal securities laws. All statements contained in this Form 10-Q, other than statements of historical fact, including statements regarding our future operating results and financial position, our business strategy and plans, market growth, and our objectives for future operations, are forward-looking statements. Words such as “believes,” “may,” “will,” “estimates,” “potential,” “continues,” “anticipates,” “intends,” “expects,” “could,” “would,” “projects,” “plans,” “targets,” and variations of such words and similar expressions are intended to identify forward-looking statements. Forward-looking statements contained in this Form 10-Q include, but are not limited to, statements about our expectations regardin • trends in revenue, cost of revenue, and gross margin; • economic uncertainty and associated trends in macroeconomic conditions, including recession and inflation; • currency exchange rate fluctuations; • trends and expectations in our operating and financial metrics, including customers with Annual Contract Value (ACV) equal to or greater than $100,000, dollar-based retention rate, annual recurring revenue, and growth of and within our customer base; • future acquisitions, the anticipated benefits of such acquisitions and our ability to integrate the operations and technology of any acquired company, including our expected acquisition of Zephr Inc Limited (Zephr); • industry trends, projected growth, or trend analysis, including the shift to subscription business models; • the duration and impact of the coronavirus (COVID-19) pandemic on our business and the economy; • our investments in our platform and the cost of third-party hosting fees; • the expansion and functionality of our technology offering, including expected benefits of such products and technology, and our ability to further penetrate our customer base; • trends in operating expenses, including research and development expense, sales and marketing expense, and general and administrative expense, and expectations regarding these expenses as a percentage of revenue; • our existing cash and cash equivalents, investment balances, funds available under our loan and security agreement, and cash provided by subscriptions to our platform and related professional services being sufficient to meet our working capital and capital expenditure needs for at least the next 12 months; and • other statements regarding our future operations, financial condition, prospects and business strategies, including our ability to sublease office space in the San Francisco Bay Area. Such forward-looking statements are based on our expectations as of the date of this filing and are subject to a number of risks, uncertainties and assumptions, including but not limited to, risks detailed in the “Risk Factors” section of this Form 10-Q. Readers are urged to carefully review and consider the various disclosures made in this Form 10-Q and in other documents we file from time to time with the Securities and Exchange Commission (SEC) that disclose risks and uncertainties that may affect our business. Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time. It is not possible for us to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties and assumptions, the future events and circumstances discussed in this Form 10-Q may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements. You should not rely upon forward-looking statements as predictions of future events. The events and circumstances reflected in the forward-looking statements may not be achieved or occur. Although we believe that 1 the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, performance or achievements. In addition, the forward-looking statements in this Form 10-Q are made as of the date of this filing, and we do not undertake, and expressly disclaim any duty, to update such statements for any reason after the date of this Form 10-Q or to conform statements to actual results or revised expectations, except as required by law. 2 PART I—FINANCIAL INFORMATION Item 1. Financial Statements ZUORA, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (in thousands) (unaudited) July 31, 2022 January 31, 2022 Assets Current assets: Cash and cash equivalents $ 206,936 $ 113,507 Short-term investments 241,707 101,882 Accounts receivable, net of allowance for credit losses of $ 2,178 and $ 3,188 as of July 31, 2022 and January 31, 2022, respectively 67,693 82,263 Deferred commissions, current portion 15,833 15,080 Prepaid expenses and other current assets 18,851 15,603 Total current assets 551,020 328,335 Property and equipment, net 29,495 27,676 Operating lease right-of-use assets 28,573 32,643 Purchased intangibles, net 2,526 3,452 Deferred commissions, net of current portion 27,046 26,727 Goodwill 17,632 17,632 Other assets 4,639 4,787 Total assets $ 660,931 $ 441,252 Liabilities and stockholders’ equity Current liabiliti Accounts payable $ 7,652 $ 6,785 Accrued expenses and other current liabilities 19,171 14,225 Accrued employee liabilities 29,197 32,425 Debt, current portion — 1,660 Deferred revenue, current portion 148,162 152,740 Operating lease liabilities, current portion 10,327 11,462 Total current liabilities 214,509 219,297 Debt, net of current portion 206,426 — Deferred revenue, net of current portion 945 771 Operating lease liabilities, net of current portion 41,533 45,633 Deferred tax liabilities 3,244 3,243 Other long-term liabilities 1,609 1,701 Total liabilities 468,266 270,645 Commitments and contingencies (Note 13) Stockholders’ equity: Class A common stock 12 12 Class B common stock 1 1 Additional paid-in capital 810,636 734,149 Accumulated other comprehensive loss ( 1,459 ) ( 108 ) Accumulated deficit ( 616,525 ) ( 563,447 ) Total stockholders’ equity 192,665 170,607 Total liabilities and stockholders’ equity $ 660,931 $ 441,252 See notes to unaudited condensed consolidated financial statements. 3 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (in thousands, except per share data) (unaudited) Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 Reve Subscription $ 83,811 $ 71,498 $ 162,311 $ 136,640 Professional services 14,964 14,989 29,663 30,176 Total revenue 98,775 86,487 191,974 166,816 Cost of reve Subscription 19,572 17,268 38,297 32,911 Professional services 19,077 18,724 36,587 35,802 Total cost of revenue 38,649 35,992 74,884 68,713 Gross profit 60,126 50,495 117,090 98,103 Operating expens Research and development 26,354 20,860 49,226 39,827 Sales and marketing 45,146 36,261 85,603 68,126 General and administrative 18,816 16,376 36,106 30,561 Total operating expenses 90,316 73,497 170,935 138,514 Loss from operations ( 30,190 ) ( 23,002 ) ( 53,845 ) ( 40,411 ) Change in fair value of warrant liability 4,524 — 8,896 — Interest expense ( 4,419 ) ( 62 ) ( 6,203 ) ( 72 ) Interest and other income (expense), net 704 ( 391 ) ( 1,089 ) ( 260 ) Loss before income taxes ( 29,381 ) ( 23,455 ) ( 52,241 ) ( 40,743 ) Income tax provision 529 238 837 611 Net loss ( 29,910 ) ( 23,693 ) ( 53,078 ) ( 41,354 ) Comprehensive l Foreign currency translation adjustment ( 316 ) ( 174 ) ( 675 ) ( 259 ) Unrealized loss on available-for-sale securities ( 278 ) — ( 676 ) ( 34 ) Comprehensive loss $ ( 30,504 ) $ ( 23,867 ) $ ( 54,429 ) $ ( 41,647 ) Net loss per share, basic and diluted $ ( 0.23 ) $ ( 0.19 ) $ ( 0.41 ) $ ( 0.34 ) Weighted-average shares outstanding used in calculating net loss per share, basic and diluted 130,280 123,134 129,384 122,259 See notes to unaudited condensed consolidated financial statements. 4 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (in thousands) (unaudited) Six Months Ended July 31, 2022 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders’ Shares Amount Shares Amount Capital Loss Deficit Equity Balance, January 31, 2022 119,008 $ 12 9,048 $ 1 $ 734,149 $ ( 108 ) $ ( 563,447 ) $ 170,607 Conversion of Class B common stock to Class A common stock 1,165 — ( 1,165 ) — — — — — Issuance of common stock upon exercise of stock options 49 — 239 — 1,522 — — 1,522 RSU releases 2,895 — — — — — — — Purchases of common stock under the ESPP 615 — — — 4,485 — — 4,485 Charitable donation of stock 101 — — — 1,000 — — 1,000 Stock-based compensation — — — — 51,038 — — 51,038 Issuance of warrants — — — — 18,442 — — 18,442 Other comprehensive loss — — — — — ( 1,351 ) — ( 1,351 ) Net loss — — — — — — ( 53,078 ) ( 53,078 ) Balance, July 31, 2022 123,833 $ 12 8,122 $ 1 $ 810,636 $ ( 1,459 ) $ ( 616,525 ) $ 192,665 Three Months Ended July 31, 2022 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Loss Deficit Equity Balance, April 30, 2022 121,133 $ 12 8,014 $ 1 $ 776,323 $ ( 865 ) $ ( 586,615 ) $ 188,856 Conversion of Class B common stock to Class A common stock 45 — ( 45 ) — — — — — Issuance of common stock upon exercise of stock options — — 153 — 615 — — 615 RSU releases 1,939 — — — — — — — Purchases of common stock under the ESPP 615 — — — 4,485 — — 4,485 Charitable donation of stock 101 — — — 1,000 — — 1,000 Stock-based compensation — — — — 28,213 — — 28,213 Other comprehensive loss — — — — — ( 594 ) — ( 594 ) Net loss — — — — — — ( 29,910 ) ( 29,910 ) Balance, July 31, 2022 123,833 $ 12 8,122 $ 1 $ 810,636 $ ( 1,459 ) $ ( 616,525 ) $ 192,665 5 Six Months Ended July 31, 2021 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Income Deficit Equity Balance, January 31, 2021 109,900 $ 11 11,004 $ 1 $ 635,127 $ 796 $ ( 464,022 ) $ 171,913 Conversion of Class B common stock to Class A common stock 3,111 — ( 3,111 ) — — — — — Issuance of common stock upon exercise of stock options 313 1 1,204 — 10,186 — — 10,187 Lapse of restrictions on common stock related to early exercise of stock options — — — — 18 — — 18 RSU releases 1,539 — 26 — — — — — Purchases of common stock under the ESPP 388 — — — 4,005 — — 4,005 Charitable donation of stock 61 — — — 1,000 — — 1,000 Stock-based compensation — — — — 31,866 — — 31,866 Other comprehensive loss — — — — — ( 293 ) — ( 293 ) Net loss — — — — — — ( 41,354 ) ( 41,354 ) Balance, July 31, 2021 115,312 $ 12 9,123 $ 1 $ 682,202 $ 503 $ ( 505,376 ) $ 177,342 Three Months Ended July 31, 2021 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Income Deficit Equity Balance, April 30, 2021 111,249 $ 11 10,955 $ 1 $ 652,501 $ 677 $ ( 481,683 ) $ 171,507 Conversion of Class B common stock to Class A common stock 2,431 — ( 2,431 ) — — — — — Issuance of common stock upon exercise of stock options 274 1 593 — 6,619 — — 6,620 Lapse of restrictions on common stock related to early exercise of stock options — — — — 8 — — 8 RSU releases 909 — 6 — — — — — Purchases of common stock under the ESPP 388 — — — 4,005 — — 4,005 Charitable donation of stock 61 — — — 1,000 — — 1,000 Stock-based compensation — — — — 18,069 — — 18,069 Other comprehensive loss — — — — — ( 174 ) — ( 174 ) Net loss — — — — — — ( 23,693 ) ( 23,693 ) Balance, July 31, 2021 115,312 $ 12 9,123 $ 1 $ 682,202 $ 503 $ ( 505,376 ) $ 177,342 See notes to unaudited condensed consolidated financial statements. 6 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) (unaudited) Six Months Ended July 31, 2022 2021 Cash flows from operating activiti Net loss $ ( 53,078 ) $ ( 41,354 ) Adjustments to reconcile net loss to net cash provided by operating activiti Depreciation, amortization and accretion 8,882 8,496 Stock-based compensation 51,038 31,866 Provision for credit losses 1,134 1,368 Donation of common stock to charitable foundation 1,000 1,000 Amortization of deferred commissions 9,346 7,859 Reduction in carrying amount of right-of-use assets 4,070 4,760 Change in fair value of warrant liability ( 8,896 ) — Other 267 426 Changes in operating assets and liabiliti Accounts receivable 13,436 21,253 Prepaid expenses and other assets ( 2,823 ) ( 3,216 ) Deferred commissions ( 10,629 ) ( 8,193 ) Accounts payable 692 1,513 Accrued expenses and other liabilities 1,848 51 Accrued employee liabilities ( 3,228 ) ( 2,088 ) Deferred revenue ( 4,404 ) ( 9,203 ) Operating lease liabilities ( 6,473 ) ( 6,910 ) Net cash provided by operating activities 2,182 7,628 Cash flows from investing activiti Purchases of property and equipment ( 6,084 ) ( 3,697 ) Insurance proceeds for damaged property and equipment — 344 Purchase of intangible assets — ( 1,349 ) Purchases of short-term investments ( 195,685 ) ( 53,650 ) Maturities of short-term investments 55,263 49,492 Net cash used in investing activities ( 146,506 ) ( 8,860 ) Cash flows from financing activiti Proceeds from issuance of convertible senior notes, net of issuance costs 233,901 — Proceeds from issuance of common stock upon exercise of stock options 1,522 10,187 Proceeds from issuance of common stock under employee stock purchase plan 4,485 4,005 Principal payments on debt ( 1,480 ) ( 2,222 ) Net cash provided by financing activities 238,428 11,970 Effect of exchange rates on cash and cash equivalents ( 675 ) ( 259 ) Net increase in cash and cash equivalents 93,429 10,479 Cash and cash equivalents, beginning of period 113,507 94,110 Cash and cash equivalents, end of period $ 206,936 $ 104,589 Supplemental disclosure of non-cash investing and financing activiti Lapse in restrictions on early exercised common stock options $ — $ 18 Property and equipment purchases accrued or in accounts payable $ 322 $ 44 Purchase of intangible assets included in accrued expenses and other current liabilities $ — $ 225 See notes to unaudited condensed consolidated financial statements. 7 ZUORA, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) Note 1. Overview and Basis of Presentation Description of Business Zuora, Inc. was incorporated in the state of Delaware in 2006 and began operations in 2007. Zuora’s fiscal year ends on January 31. Zuora is headquartered in Redwood City, California. Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the entire quote-to-cash and revenue recognition process, including quoting, billing, collections and revenue recognition. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. References to “Zuora”, “us”, “our”, or “we” in these notes refer to Zuora, Inc. and its subsidiaries on a consolidated basis. Basis of Presentation and Principles of Consolidation The accompanying unaudited condensed consolidated financial statements, which include the accounts of Zuora and its wholly owned subsidiaries, have been prepared in conformity with accounting principles generally accepted in the United States (GAAP) and applicable rules and regulations of the Securities and Exchange Commission (SEC) regarding interim financial reporting. All intercompany balances and transactions have been eliminated in consolidation. The unaudited condensed consolidated balance sheet as of January 31, 2022 included herein was derived from the audited financial statements as of that date, but does not include all disclosures including certain notes required by GAAP on an annual reporting basis. The unaudited condensed consolidated financial statements reflect all normal recurring adjustments necessary to present fairly the balance sheets, statements of comprehensive loss, statements of cash flows and statements of stockholders' equity for the interim periods, but are not necessarily indicative of the results of operations to be anticipated for the full fiscal year ending January 31, 2023 or any future period. The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in our Annual Report on Form 10-K for the fiscal year ended January 31, 2022, filed with the SEC on March 28, 2022 (Annual Report). Use of Estimates The preparation of unaudited condensed consolidated financial statements in conformity with GAAP requires management to make certain estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the unaudited condensed consolidated financial statements, as well as reported amounts of revenue and expenses during the reporting period. Actual results could differ materially from those estimates. Our most significant estimates and assumptions are related to revenue recognition with respect to the determination of the relative standalone selling prices for our services; the expected period of benefit over which deferred commissions are amortized; valuation of stock-based awards and warrants; estimates of allowance for credit losses; estimates of the fair value of goodwill and long-lived assets when evaluating for impairments; useful lives of intangibles and other long-lived assets; and the valuation of deferred income tax assets and contingencies. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Accordingly, actual results may differ materially from these estimates under different assumptions or conditions. 8 Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements Our significant accounting policies are discussed in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements in our Annual Report for the fiscal year ended January 31, 2022. There have been no significant changes to these policies during the six months ended July 31, 2022, except for updates resulting from our issuance to Silver Lake of the Initial Notes and Warrants (as defined in Note 9. Debt below) in March 2022, as discussed below. Additional information regarding our issuance of these convertible notes and warrants is included in Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock, respectively. Derivative Financial Instruments The accounting treatment of derivative financial instruments requires that we record certain embedded features and warrants as assets or liabilities at their fair value as of the inception date of the agreement and at fair value as of each subsequent balance sheet date with any change in fair value recorded as income or expense. In connection with our issuance of of the Initial Notes to Silver Lake on March 24, 2022, we adopted a sequencing policy in accordance with ASC 815-40 whereby financial instruments issued will be ordered by conversion or exercise price. Deferred Debt Issuance Costs Costs directly associated with obtaining debt financing are deferred and amortized using the effective interest rate method over the expected term of the related debt agreement. We determine the expected term of debt agreements by assessing the contractual term of the debt as well as any non-contingent put rights provided to the lenders. Unamortized amounts related to long-term debt are reflected on the unaudited condensed consolidated balance sheets as a direct deduction from the carrying amounts of the related long-term debt liability. Amortization expense of deferred loan costs was approximately $ 1.9 million and $ 2.7 million for the three and six months ended July 31, 2022, respectively, and is included in Interest expense on the accompanying unaudited condensed consolidated statements of comprehensive loss. Earnings per Share Basic earnings per share (EPS) is calculated by dividing the net income or loss available to common stockholders by the weighted average number of shares of common stock outstanding for the period without consideration for common stock equivalents. Diluted EPS is computed by dividing the net income or loss available to common stockholders by the weighted average number of shares of common stock outstanding for the period and the weighted average number of dilutive common stock equivalents outstanding for the period determined using the if-converted (convertible debt instruments) or treasury-stock method (warrants and share-based payment arrangements). For purposes of this calculation, common stock issuable upon conversion of debt, options and warrants are considered to be common stock equivalents and are only included in the calculation of diluted earnings per share when their effect is dilutive. Recent Accounting Pronouncements In August 2020, the FASB issued ASU 2020-06, Debt - Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging - Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity, which simplifies the accounting for convertible instruments by removing certain separation models previously required under U.S. GAAP, including the beneficial conversion feature and cash conversion models. This ASU also simplifies the diluted earnings per share calculation in certain areas. The standard was effective for us beginning February 1, 2022 and we utilized the modified retrospective transition method of adoption. The adoption of this standard had no impact on our retained earnings or other components of equity as of the February 1, 2022 adoption date and had no impact to our earnings per share during the period of adoption. 9 In October 2021, the FASB issued ASU 2021-08, Business Combinations (Topic 805): Accounting for Contract Assets and Contract Liabilities from Contracts with Customers. The standard requires an acquirer in a business combination to recognize and measure contract assets and contract liabilities acquired in a business combination in accordance with ASC 606, Revenue from Contracts with Customers, as if it had originated the contracts. The standard is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2022, with early adoption permitted. We retroactively adopted this standard as of February 1, 2022. The adoption of this standard had no impact on our unaudited condensed consolidated financial statements. Note 3. Investments The amortized costs, unrealized gains and losses and estimated fair values of our short-term investments were as follows (in thousands): July 31, 2022 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 64,533 $ 9 $ ( 543 ) $ 63,999 Corporate bonds 51,889 — ( 296 ) 51,593 Commercial paper 112,149 — — 112,149 Supranational bonds 9,995 — ( 12 ) 9,983 Foreign government securities 4,043 — ( 60 ) 3,983 Total short-term investments $ 242,609 $ 9 $ ( 911 ) $ 241,707 January 31, 2022 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 18,082 $ — $ ( 155 ) $ 17,927 Corporate bonds 21,225 — ( 49 ) 21,176 Commercial paper 55,234 — — 55,234 Supranational bonds 3,503 — — 3,503 Foreign government securities 4,064 — ( 22 ) 4,042 Total short-term investments $ 102,108 $ — $ ( 226 ) $ 101,882 There were no material realized gains or losses from sales of marketable securities that were reclassified out of accumulated other comprehensive loss into investment income during the three and six months ended July 31, 2022 and 2021. We had no significant unrealized losses on our available-for-sale securities as of July 31, 2022 and January 31, 2022, and we do not expect material credit losses on our current investments in future periods. All securities had stated effective maturities of less than one year as of July 31, 2022. 10 Note 4. Fair Value Measurements The accounting guidance for fair value measurements establishes a three-tier hierarchy, which prioritizes the inputs used in the valuation methodologies in measuring fair value as follows: Level input Input definition Level 1 Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets Level 2 Inputs other than quoted prices included within Level 1 that are observable for the asset or liability through corroboration with market data at the measurement date Level 3 Unobservable inputs that reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date In general, and where applicable, we use quoted prices in active markets for identical assets or liabilities to determine fair value. If quoted prices in active markets for identical assets or liabilities are not available to determine fair value, then we use quoted prices for similar assets and liabilities or inputs other than the quoted prices that are observable either directly or indirectly. The following tables summarize our fair value hierarchy for our financial assets and liabilities measured at fair value on a recurring basis (in thousands): July 31, 2022 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 180,072 $ — $ — $ 180,072 Short-term investments: U.S. government securities $ — $ 63,999 $ — $ 63,999 Corporate bonds — 51,593 — 51,593 Commercial paper — 112,149 — 112,149 Supranational bonds — 9,983 — 9,983 Foreign government securities — 3,983 — 3,983 Total short-term investments $ — $ 241,707 $ — $ 241,707 Liabiliti Warrant liability $ — $ — $ 3,147 $ 3,147 January 31, 2022 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 92,668 $ — $ — $ 92,668 Short-term investments: U.S. government securities $ — $ 17,927 $ — $ 17,927 Corporate bonds — 21,176 — 21,176 Commercial paper — 55,234 — 55,234 Supranational bonds — 3,503 — 3,503 Foreign government securities — 4,042 — 4,042 Total short-term investments $ — $ 101,882 $ — $ 101,882 11 Changes in our Level 3 fair value measurements were as follows (in thousands): Level 3 Fair Value Balance, January 31, 2022 $ — Issuances 12,043 Settlements — Gain on change in fair value ( 8,896 ) Balance, July 31, 2022 $ 3,147 The carrying amounts of certain financial instruments, including cash held in bank accounts, accounts receivable, accounts payable, and accrued expenses, approximate fair value due to their relatively short maturities. The carrying amount of debt outstanding under the Initial Notes approximates fair value as of July 31, 2022. Additional information regarding the Initial Notes and Warrant liability is included in Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock , respectively. Note 5. Prepaid Expenses and Other Current Assets Prepaid expenses and other current assets consisted of the following (in thousands): July 31, 2022 January 31, 2022 Prepaid software subscriptions $ 5,896 $ 6,854 Prepaid insurance 4,756 3,220 Taxes 1,486 1,270 Contract assets 1,299 1,289 Prepaid hosting costs 1,245 767 Other 4,169 2,203 Total $ 18,851 $ 15,603 Note 6. Property and Equipment, Net Property and equipment, net consisted of the following (in thousands): July 31, 2022 January 31, 2022 Software $ 30,383 $ 25,495 Leasehold improvements 17,073 17,277 Computer equipment 15,771 14,746 Furniture and fixtures 4,335 4,424 67,562 61,942 Less accumulated depreciation and amortization ( 38,067 ) ( 34,266 ) Total $ 29,495 $ 27,676 The following table summarizes the capitalized internal-use software costs included within the Software line item in the table above (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 Internal-use software costs capitalized during the period $ 2,247 $ 1,038 $ 4,149 $ 1,962 July 31, 2022 January 31, 2022 Total capitalized internal-use software, net of accumulated amortization $ 13,890 $ 11,534 12 The following table summarizes total depreciation and amortization expense related to property and equipment, including amortization of internal-use software, included in General and administrative and Cost of subscription revenue in the accompanying unaudited condensed consolidated statements of comprehensive loss (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 Total depreciation and amortization expense $ 2,186 $ 2,984 $ 4,367 $ 5,828 Note 7. Purchased Intangible Assets The following table summarizes the purchased intangible asset balances and activity (in thousands): Gross Carrying Amount Accumulated Amortization Net Carrying Amount Balance, January 31, 2022 $ 14,467 $ ( 11,015 ) $ 3,452 Amortization expense — ( 926 ) ( 926 ) Balance, July 31, 2022 $ 14,467 $ ( 11,941 ) $ 2,526 The following table summarizes amortization expense related to purchased intangible assets included in Cost of subscription revenue in the accompanying unaudited condensed consolidated statements of comprehensive loss (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 Purchased intangible assets amortization expense $ 372 $ 519 $ 926 $ 942 Note 8. Accrued Expenses and Other Current Liabilities Accrued expenses and other current liabilities consisted of the following (in thousands): July 31, 2022 January 31, 2022 Accrued outside services and consulting $ 5,219 $ 3,712 Accrued hosting and third-party licenses 4,095 3,865 Warrant liability 3,147 — Accrued taxes 2,064 2,422 Accrued interest 850 — Other accrued expenses 3,796 4,226 Total $ 19,171 $ 14,225 Note 9. Debt 2029 Notes On March 24, 2022 (Initial Closing Date), we issued convertible senior notes (Initial Notes) in the aggregate principal amount of $ 250.0 million pursuant to an investment agreement (Investment Agreement) and indenture agreement (Indenture) to certain entities affiliated with Silver Lake Alpine II, L.P. (Silver Lake). Pursuant to the Investment Agreement, additional convertible senior notes in the aggregate principal amount of $ 150.0 million (Additional Notes), (together with the Initial Notes, the “2029 Notes”) shall be issued to Silver Lake 18 months after the Initial Closing Date, with an earlier issuance upon our completion of a Material Acquisition that meets the conditions described in Section 2.02(a) of the Investment Agreement. In addition, in the event that a Change in Control (as defined in the Indenture) occurs prior to the Additional Notes being issued, the noteholder would have 13 the right to receive, at the noteholder's election, the Additional Notes, a cash payment, or common stock, as described in Section 2.02(b) of the Investment Agreement. The Initial Notes and the Additional Notes, once issued, represent senior unsecured obligations of Zuora. As a condition of the Investment Agreement, we also issued warrants to Silver Lake to acquire up to 7.5 million shares of Class A common stock (Warrants), of which (i) up to 2.5 million Warrants are exercisable at $ 20.00 per share, (ii) up to 2.5 million Warrants are exercisable at $ 22.00 per share and (iii) up to 2.5 million Warrants are exercisable at $ 24.00 per share. The Warrants are exercisable for a period of seven years from the Initial Closing Date. The purchase price of the 2029 Notes is 98 % of the par value. The 2029 Notes bear interest at a rate of 3.95 % per annum, payable quarterly in cash, provided that we have the option to pay interest in kind at 5.50 % per annum. If elected, any such paid in kind interest will be added to the principal balance at each quarterly interest payment date. The 2029 Notes will mature on March 31, 2029, subject to earlier conversion or redemption. The Initial Notes are convertible at Silver Lake’s option into shares of our Class A common stock at an initial conversion rate of 50.0 shares per $ 1,000 principal amount ($ 20.00 per share, representing 12.5 million shares of Class A common stock), subject to customary anti-dilution adjustments. Any 2029 Notes that are converted in connection with a Make-Whole Fundamental Change (as defined in the Indenture) are subject to an increase in the conversion price under certain circumstances. With certain exceptions, upon a Fundamental Change, the holders of the 2029 Notes may require that we repurchase all or part of the principal amount of the 2029 Notes at a purchase price equal to the principal amount and accrued but unpaid interest outstanding, plus the total sum of all remaining scheduled interest payments through the remainder of the term of the 2029 Notes, at the 5.50 % paid in kind interest rate. At any time on or after the fifth anniversary of the Initial Closing Date, the holders of the 2029 Notes may require that we repurchase all or part of the principal amount of the Notes at a purchase price equal to the principal amount plus accrued interest through the date of repurchase. Upon certain events of default, the 2029 Notes may be declared due and payable (or will automatically become so under certain events of default), at a purchase price equal to the principal amount plus accrued interest through the date of repurchase. We have no right to redeem the 2029 Notes prior to maturity. Pursuant to the Investment Agreement, without our prior written consent, Silver Lake is restricted from converting any 2029 Note, exercising any Warrant or transferring any 2029 Note or Warrant to parties other than affiliates or members of Silver Lake (with certain limited exceptions) for 18 months following the Initial Closing Date, or if sooner, upon the consummation of any Change in Control (as defined in the Investment Agreement) or entry into a definitive agreement for a transaction that, if consummated, would result in a Change in Control. We determined that the Initial Notes arrangement consisted of three freestanding instruments: the Initial Notes, the Warrants and the loan commitment related to the Additional Notes. In addition, we evaluated the embedded features in the Initial Notes and identified certain embedded features which were not clearly and closely related to the Initial Notes and met the definition of a derivative, and therefore required bifurcation from the host contract. We determined that the fair value of these bifurcated derivatives was de minimis as of the Initial Closing Date and as of July 31, 2022. As further discussed in Note 17. Warrants to Purchase Shares of Common Stock , a portion of the Warrants issued were determined to require liability classification with the remaining Warrants eligible to be classified in stockholders’ equity. As such, we allocated the proceeds obtained from the Initial Notes first to the liability-classified Warrants and then, on a relative fair value basis, between the equity-classified Warrants and the Initial Notes. We incurred approximately $ 8.1 million of debt issuance costs associated with the 2029 Notes and Warrants. Of this amount, we allocated $ 7.1 million as a component of the discount on the 2029 Notes, $ 0.7 million against the proceeds allocated to the equity-classified Warrants and $ 0.3 million was allocated to the liability-classified Warrants and recorded to General and administrative expense in the accompanying unaudited condensed consolidated statements of comprehensive loss. The 2029 Notes debt discount is being amortized using the effective interest rate method over the five year expected life of the 2029 Notes (representing the period from the contract date to the earliest noncontingent put date of May 24, 2027) and reflects an effective interest rate of 8.5 %. The carrying value of the Initial Notes was classified as long-term and consisted of the following (in thousands): 14 July 31, 2022 Initial Notes principal $ 250,000 Unamortized discount ( 43,574 ) Carrying value $ 206,426 Interest expense related to the Initial Notes, included in Interest expense in the accompanying unaudited condensed consolidated statements of comprehensive loss, was as follows (in thousands): Three Months Ended July 31, 2022 Six Months Ended July 31, 2022 Contractual interest expense $ 2,469 $ 3,484 Amortization of deferred loan costs 1,926 2,667 Total interest expense $ 4,395 $ 6,151 Debt Agreement We have an agreement with Silicon Valley Bank that includes a term and revolving loan facility, which is secured by a lien on substantially all of our non-IP assets (Debt Agreement). The interest rate under both the term and revolving loan facility is equal to the prime rate published by the Wall Street Journal minus 1.00 %. The term loan facility, under which we borrowed $ 15.0 million in June 2017 to partially finance the acquisition of Leeyo Software, Inc., fully matured in June 2022. We made the final term loan principal and interest payment of $ 0.4 million during the three months ended July 31, 2022, and paid a fee of 1.5 % of the original principal amount of the term loan facility, or $ 225,000 , upon termination of the facility. Under the revolving loan facility, we may borrow up to $ 30.0 million until October 2022. As of July 31, 2022, we had no t drawn down any amounts under this revolving loan. Note 10. Deferred Revenue and Performance Obligations The following table summarizes revenue recognized during the period that was included in the deferred revenue balance at the beginning of each respective period (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 Revenue recognized from deferred revenue $ 77,680 $ 67,740 $ 115,461 $ 99,405 As of July 31, 2022, total remaining non-cancellable performance obligations under our subscription contracts with customers was approximately $ 457.4 million and we expect to recognize revenue on approximately $ 258.0 million of these remaining performance obligations over the next 12 months. Remaining performance obligations under our professional services contracts as of July 31, 2022 were not material. 15 Note 11. Geographical Information Disaggregation of Revenue Revenue by country, based on the customer’s address at the time of sale, was as follows (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 United States $ 64,808 $ 55,967 $ 124,227 $ 105,674 Others 33,967 30,520 67,747 61,142 Total $ 98,775 $ 86,487 $ 191,974 $ 166,816 Percentage of revenue by geographic ar United States 66 % 65 % 65 % 63 % Other 34 % 35 % 35 % 37 % Other than the United States, no individual country exceeded 10% of total revenue for the three and six months ended July 31, 2022 and 2021. Long-lived assets Long-lived assets, which consist of property and equipment, net, deferred commissions, purchased intangible assets, net and operating lease right-of-use assets by geographic location, are based on the location of the legal entity that owns the asset. As of July 31, 2022 and 2021, no individual country exceeded 10% of total long-lived assets other than the United States. Note 12. Leases We have non-cancelable operating leases for our offices located in the U.S. and abroad. As of July 31, 2022, these leases expire on various dates between 2023 and 2030. Certain lease agreements include one or more options to renew, with renewal terms that can extend the lease up to seven years . We have the right to exercise or forego the lease renewal options. The lease agreements do not contain any material residual value guarantees or material restrictive covenants. The components of our long-term operating leases and related operating lease cost were as follows (in thousands): July 31, 2022 January 31, 2022 Operating lease right-of-use assets $ 28,573 $ 32,643 Operating lease liabilities, current portion $ 10,327 $ 11,462 Operating lease liabilities, net of current portion 41,533 45,633 Total operating lease liabilities $ 51,860 $ 57,095 Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 Operating lease cost 1 $ 2,618 $ 3,164 $ 5,252 $ 6,380 (1) Includes costs related to our short-term operating leases as follows (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 Short-term operating lease costs $ 109 $ 101 $ 199 $ 203 16 The future maturities of long-term operating lease liabilities for each fiscal year were as follows (in thousands): Maturities of Operating Lease Liabilities 2023 (remainder of the year) $ 7,467 2024 10,988 2025 6,386 2026 6,242 2027 6,429 Thereafter 23,468 Total lease payments 60,980 Less imputed interest ( 9,120 ) Present value of lease liabilities $ 51,860 Other supplemental information related to our long-term operating leases includes the following (dollars in thousands): July 31, 2022 January 31, 2022 Weighted-average remaining operating lease term 6.8 years 7.0 years Weighted-average operating lease discount rate 4.6 % 4.6 % Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 Supplemental Cash Flow Information Cash paid for amounts included in the measurement of lease liabiliti Cash paid for operating leases $ 3,408 $ 3,454 $ 6,822 $ 6,863 New right-of-use assets obtained in exchange for lease liabiliti Operating leases obtained $ — $ — $ — $ 3,923 Note 13. Commitments and Contingencies Letters of Credit In connection with the execution of certain facility leases, we had bank issued irrevocable letters of credit for $ 4.5 million as of July 31, 2022 and January 31, 2022. No draws have been made under such letters of credit. Legal Proceedings From time to time, we may be subject to legal proceedings, as well as demands, claims and threatened litigation. The outcomes of legal proceedings and other contingencies are inherently unpredictable, subject to significant uncertainties, and could be material to our operating results and cash flows for a particular period. Regardless of the outcome, litigation can have an adverse impact on our business because of defense and settlement costs, diversion of management resources, and other factors. Other than the matters described below, we are not currently party to any legal proceeding that we believe could have a material adverse effect on our business, operating results, cash flows, or financial condition should such litigation or claim be resolved unfavorably. Securities Class Actions In June 2019, a putative securities class action lawsuit was filed in the U.S. District Court for the Northern District of California naming Zuora and certain of its officers as defendants. The complaint purports to bring suit on behalf of stockholders who purchased or otherwise acquired Zuora's securities between April 12, 2018 and May 30, 2019. The complaint alleges that defendants made false and misleading statements about Zuora's business, operations and prospects in violation of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as 17 amended (Exchange Act), and seeks unspecified compensatory damages, fees and costs. In November 2019, the lead plaintiff filed a consolidated amended complaint asserting the same claims. In April 2020, the court denied defendants’ motion to dismiss. On March 15, 2021, the court granted plaintiff’s motion to certify a class consisting of persons and entities who purchased or acquired Zuora common stock between April 12, 2018 and May 30, 2019 and who were allegedly damaged thereby. Discovery in this case is ongoing. In April and May 2020, two putative securities class action lawsuits were filed in the Superior Court of the State of California, County of San Mateo, naming as defendants Zuora and certain of its current and former officers, its directors and the underwriters of Zuora's initial public offering (IPO). The complaints purport to bring suit on behalf of stockholders who purchased or otherwise acquired Zuora's securities pursuant or traceable to the Registration Statement and Prospectus issued in connection with Zuora's IPO and allege claims under Sections 11, 12(a)(2) and 15 of the Securities Act of 1933. The suits seek unspecified damages and other relief. In July 2020, the court entered an order consolidating the two lawsuits, and the lead plaintiffs filed a consolidated amended complaint asserting the same claims. In October 2020, the court denied defendants ’ demurrer as to the Section 11 and Section 15 claims and granted the demurrer as to the Section 12(a)(2) claim with leave to file an amended complaint. In November 2020, the lead plaintiffs filed an amended consolidated complaint. Defendants' demurrer to the Section 12(a)(2) claim was sustained with leave to amend. On October 14, 2021, the court certified a class for the Section 11 and Section 15 claims, consisting of persons and entities who purchased or acquired Zuora common stock pursuant or traceable to the Registration Statement and Prospectus issued in connection with Zuora’s IPO. The lead plaintiffs voluntarily dismissed the Section 12(a)(2) claim without prejudice. Discovery in this case is ongoing. Given the procedural posture and the nature of such litigation matters, we are unable to estimate the reasonably possible loss or range of loss, if any, that may result from these matters. We dispute the claims described above and intend to vigorously defend against them. Derivative Litigation In September 2019, two stockholder derivative lawsuits were filed in the U.S. District Court for the Northern District of California against certain of Zuora’s directors and executive officers and naming Zuora as a nominal defendant. The derivative actions allege claims based on events similar to those in the securities class actions and assert causes of action against the individual defendants for breach of fiduciary duty, unjust enrichment, waste of corporate assets, and for making false and misleading statements about Zuora's business, operations, and prospects in violation of Section 14(a) of the Exchange Act. Plaintiffs seek corporate reforms, unspecified damages and restitution, and fees and costs. In November 2019, the stockholder derivative lawsuits, which are related to the federal securities class action, were assigned to the same judge who is overseeing the federal securities class action lawsuit. In February 2020, the court entered an order consolidating the two derivative lawsuits. In May and June 2020, two stockholder derivative lawsuits were filed in the U.S. District Court for the District of Delaware against certain of Zuora’s directors and current and former executive officers. The derivative actions allege claims based on events similar to those in the securities class actions and the derivative actions pending in the Northern District of California and assert causes of action against the individual defendants for breach of fiduciary duty, unjust enrichment, waste of corporate assets, contribution, and for making false and misleading statements about Zuora’s business, operations, and prospects in violation of Section 14(a) of the Exchange Act. Plaintiff seeks corporate reforms, unspecified damages and restitution, and fees and costs. In June 2020, the court entered an order consolidating the two District of Delaware derivative lawsuits. In February and March 2021, two additional stockholder derivative lawsuits were filed in Delaware Chancery Court alleging similar claims based on the same underlying events. The two Chancery Court cases have been consolidated and an amended consolidated complaint has been filed. In May 2022, a stockholder derivative lawsuit was filed in the U.S. District Court for the Northern District of California against certain of Zuora’s directors and executive officers and naming Zuora as a nominal defendant. The derivative action alleges claims based on events similar to those in the securities class actions and asserts causes of action against the individual defendants for breach of fiduciary duty, waste of corporate assets, unjust enrichment, and contribution. Plaintiff seeks corporate reforms, unspecified damages and restitution, and fees and costs. 18 The derivative lawsuits are currently stayed. Given the procedural posture and the nature of such litigation matters, we are unable to estimate the reasonably possible loss or range of loss, if any, that may result from these matters. Other Contractual Obligations As of July 31, 2022, we had a contractual obligation to make $ 45.9 million in purchases of cloud computing services provided by one of our vendors by September 30, 2024. Note 14. Income Taxes The following table reflects our income tax provision, pretax loss and effective tax rate for the periods presented (in thousands, except percentages): Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 Loss before income taxes $ ( 29,381 ) $ ( 23,455 ) $ ( 52,241 ) $ ( 40,743 ) Income tax provision 529 238 837 611 Effective tax rate ( 1.8 ) % ( 1.0 ) % ( 1.6 ) % ( 1.5 ) % The effective tax rates differ from the statutory rates primarily as a result of providing no benefit on pretax losses incurred in the United States, as we have determined that the benefit of the losses is not more likely than not to be realized. Note 15. Stockholders’ Equity Preferred Stock As of July 31, 2022, Zuora had authorized 10 million shares of preferred stock, each with a par value of $ 0.0001 per share. As of July 31, 2022, no shares of preferred stock were issued and outstanding. Common Stock Prior to Zuora's IPO, which was effective in April 2018, all shares of common stock then outstanding were reclassified into Class B common stock. Shares offered and sold in the IPO consisted of newly authorized shares of Class A common stock. Holders of Class A and Class B common stock are entitled to one vote per share and ten votes per share, respectively, and the shares of Class A common stock and Class B common stock are identical, except for voting rights and the right to convert Class B common stock to Class A common stock. As of July 31, 2022, Zuora had authorized 500 million shares of Class A common stock and 500 million shares of Class B common stock, each with a par value of $ 0.0001 per share. As of July 31, 2022, 123.8 million shares of Class A common stock and 8.1 million shares of Class B common stock were issued and outstanding. Accumulated Other Comprehensive Loss Components of accumulated other comprehensive loss were as follows (in thousands): Foreign Currency Translation Adjustment Unrealized Loss on Available-for-Sale Securities Total Balance, January 31, 2022 $ 118 $ ( 226 ) $ ( 108 ) Foreign currency translation adjustment ( 675 ) — ( 675 ) Unrealized loss on available-for-sale securities — ( 676 ) ( 676 ) Balance, July 31, 2022 $ ( 557 ) $ ( 902 ) $ ( 1,459 ) There were no material reclassifications out of accumulated other comprehensive loss during the three and six months ended July 31, 2022. Additionally, there was no material tax impact on the amounts presented. 19 Note 16. Employee Stock Plans Equity Incentive Plans In March 2018, our Board of Directors adopted and our stockholders approved the 2018 Equity Incentive Plan (2018 Plan). The 2018 Plan authorizes the award of stock options, restricted stock awards, stock appreciation rights, restricted stock units (RSUs), performance awards, and stock bonuses. As of July 31, 2022, approximately 28.2 million shares of Class A common stock were reserved and available for issuance under the 2018 Plan. In addition, as of July 31, 2022, 4.4 million stock options and RSUs exercisable or settleable for Class B common stock were outstanding in the aggregate under our 2006 Stock Plan (2006 Plan) and 2015 Equity Incentive Plan (2015 Plan), which plans were terminated in May 2015 and April 2018, respectively. The 2006 Plan and 2015 Plan continue to govern outstanding equity awards granted thereunder. Stock Options The following tables summarize stock option activity and related information (in thousands, except weighted-average exercise price, weighted-average grant date fair value and average remaining contractual term): Shares Subject To Outstanding Stock Options Weighted-Average Exercise Price Average Remaining Contractual Term (Years) Aggregate Intrinsic Value Balance, January 31, 2022 8,560 $ 9.22 5.9 $ 67,259 Granted 20 12.52 Exercised ( 288 ) 5.31 Forfeited ( 194 ) 12.90 Balance, July 31, 2022 8,098 9.28 5.4 17,704 Exercisable as of July 31, 2022 4,408 4.49 3.5 17,704 Vested and expected to vest as of July 31, 2022 7,928 9.18 5.3 17,704 Three Months Ended July 31, Six Months Ended July 31, 2022 1 2021 2022 2021 Weighted-average grant date fair value per share of options granted during each respective period $ 5.54 $ 6.54 $ 5.54 $ 6.54 Aggregate intrinsic value of options exercised during each respective period $ 941 $ 8,147 $ 2,030 $ 14,738 20 We used the Black-Scholes option-pricing model to estimate the fair value of our stock options granted during each respective period using the following assumptio Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 Fair value of common stock $ 12.52 $ 15.64 - $ 15.87 $ 12.52 $ 15.64 - $ 15.87 Expected volatility 42.6 % 42.6 % - 42.7 % 42.6 % 42.3 % - 42.7 % Expected term (years) 5.8 6.0 5.8 6.0 - 6.1 Risk-free interest rate 3.0 % 1.0 % - 1.1 % 3.0 % 1.0 %- 1.1 % Expected dividend yield — % — % — % — % RSUs The following table summarizes RSU activity and related information (in thousands, except weighted-average grant date fair value): Number of RSUs Outstanding Weighted-Average Grant Date Fair Value Balance, January 31, 2022 12,171 $ 15.46 Granted 6,886 12.84 Vested ( 2,895 ) 15.25 Forfeited ( 1,571 ) 14.24 Balance, July 31, 2022 14,591 14.40 Performance Stock Units (PSUs) In March 2022, we granted PSUs to certain executives under our 2018 Plan. Each grant is divided into three tranches, each tranche having pre-established performance targets that if met, as determined quarterly by our Compensation Committee, would result in the shares attributable to such tranche being earned, subject to a service-based vesting condition. The shares attributable to unearned tranches will be forfeited on January 31, 2025, if the applicable performance criteria for such tranches are not met. Stock-based compensation expense is recognized if it is probable the performance targets (for each respective tranche) will be met during the performance period. The following table summarizes PSU activity and related information (in thousands, except weighted-average grant date fair value): Number of PSUs Outstanding Weighted-Average Grant Date Fair Value Balance, January 31, 2022 — $ — Granted 2,905 15.21 Vested — — Forfeited — — Balance, July 31, 2022 2,905 15.21 2018 Employee Stock Purchase Plan In March 2018, our Board of Directors adopted and our stockholders approved the 2018 Employee Stock Purchase Plan (ESPP). This plan is broadly available to our employees in the United States and certain other countries in which we operate. A total of 4.6 million shares of Class A common stock were reserved and available for issuance under the ESPP as of July 31, 2022. The ESPP provides for 24 -month offering periods beginning June 15 and December 15 of each year, and each offering period contains four six-month purchase periods. On each purchase date, ESPP participants will purchase shares of our Class A common stock at a price per share equal to 21 85 % of the lesser of (1) the fair market value of the Class A common stock on the offering date or (2) the fair market value of the Class A common stock on the purchase date. We estimated the fair value of ESPP purchase rights using a Black-Scholes option pricing model with the following assumptio Three and Six Months Ended July 31, 2022 Three and Six Months Ended July 31, 2021 Fair value of common stock $ 8.91 $ 16.07 Expected volatility 44.4 % - 52.3 % 41.8 % - 53.2 % Expected term (years) 0.5 - 2.0 0.5 - 2.0 Risk-free interest rate 2.3 % - 3.2 % 0.1 % - 0.2 % Expected dividend yield — % — % Stock-Based Compensation Expense Stock-based compensation expense was recorded in the following cost and expense categories in the accompanying unaudited condensed consolidated statements of comprehensive loss (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 Cost of subscription revenue $ 2,281 $ 1,534 $ 4,080 $ 2,577 Cost of professional services revenue 3,690 2,664 6,707 4,665 Research and development 7,465 5,243 13,431 9,772 Sales and marketing 9,959 5,615 17,415 9,695 General and administrative 4,818 3,013 9,405 5,157 Total stock-based compensation expense $ 28,213 $ 18,069 $ 51,038 $ 31,866 As of July 31, 2022, unrecognized compensation costs related to unvested equity awards and the weighted-average remaining period over which those costs are expected to be recognized were as follows (dollars in thousands): Stock Options RSUs PSUs ESPP Unrecognized compensation costs $ 7,963 $ 172,767 $ 12,341 $ 9,120 Weighted-average remaining recognition period 2.1 years 2.4 years 2.1 years 1.3 years Note 17. Warrants to Purchase Shares of Common Stock In connection with the issuance of the 2029 Notes (discussed Note 9. Debt ), we issued to Silver Lake the Warrants to acquire up to 7.5 million shares of Class A common stock, exercisable for a period of approximately seven years from the Initial Closing Date, and of which (i) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 20.00 per share, (ii) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 22.00 per share and (iii) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 24.00 per share. In addition, Silver Lake can elect to exercise the Warrants on a net-exercise basis. If a Make-Whole Fundamental Change (as defined in the Form of Warrant) occurs, then the number of shares issuable upon exercise of the Warrants may be increased, and the exercise price for the Warrants adjusted. Beginning on the Initial Closing Date and ending on the earlier of (i) the date that is 18 months following the Initial Closing Date and (ii) the consummation of any Change in Control, except for certain limited exceptions, the Warrants are only exercisable with our written approval. As of July 31, 2022, all 7.5 million Warrants were outstanding. We have classified a portion of the Warrants as a current liability due to certain settlement provisions in the Warrants. Under certain Make-Whole Fundamental Change scenarios, we would be required to, at our option, either (i) obtain shareholder approval prior to issuing 20 % or more of our outstanding common stock or (ii) pay cash in lieu of delivering any shares at or above such 20 % threshold. As a result, we concluded that approximately 2.8 million Warrants valued at $ 12.0 million as of the Initial Closing Date do not qualify for equity classification under ASC 22 815-40, pursuant to our sequencing policy described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements. We will reassess the classification of the Warrant liability in future reporting periods to determine if any change is required. The Warrants were measured using the Black-Scholes option pricing model at the issuance date (Initial Closing Date) and the Warrant liability was remeasured using the same model as of July 31, 2022 using the following inputs: July 31, 2022 March 24, 2022 Fair value of common stock 1 $ 7.60 $ 13.77 Exercise price² $ 22.00 - $ 24.00 $ 22.00 - $ 24.00 Expected volatility 40.3 % 41.9 % Expected term (in years) 6.7 7.0 Risk-free interest rate 2.7 % 2.4 % Expected dividend yield — — ______________ (1) The fair value of common stock was adjusted to reflect certain restrictions on the Warrants for 18 months following the issuance date. (2) The range of exercise prices reflects the Warrants that were liability-classified. During the three and six months ended July 31, 2022, the liability-classified Warrants were revalued, resulting in a realized gain of $ 4.5 million and $ 8.9 million, respectively, which is included in Change in fair value of warrant liability in the accompanying unaudited condensed consolidated statements of comprehensive loss. Refer to Note 4. Fair Value Measurements for the fair value of the liability-classified Warrants. Note 18. Net Loss Per Share The following table presents the calculation of basic and diluted net loss per share for the periods presented (in thousands, except per share data): Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 Numerato Net loss $ ( 29,910 ) $ ( 23,693 ) $ ( 53,078 ) $ ( 41,354 ) Denominato Weighted-average common shares outstanding, basic and diluted 130,280 123,134 129,384 122,259 Net loss per share, basic and diluted $ ( 0.23 ) $ ( 0.19 ) $ ( 0.41 ) $ ( 0.34 ) Since we were in a net loss position for all periods presented, basic net loss per share attributable to common stockholders is the same as diluted net loss per share, as the inclusion of all potential common shares outstanding would have been anti-dilutive. Potentially dilutive securities that were not included in the diluted per share calculations because they would be anti-dilutive were as follows (in thousands): July 31, 2022 2021 Initial Notes conversion 12,500 — Unvested RSUs issued and outstanding 14,591 12,845 Issued and outstanding stock options 8,098 10,142 Warrants 7,500 — Unvested PSUs issued and outstanding 2,905 — Shares committed under ESPP 208 144 Total 45,802 23,131 23 Note 19. Subsequent Events On August 23, 2022, Zuora entered into an agreement to acquire Zephr Inc Limited (Zephr), a cloud-based subscription management platform provider. Under the agreement, the consideration will consist of approximately $ 44.0 million in cash paid at closing by Zuora (subject to customary adjustments for working capital, transaction expenses, cash and indebtedness). The foregoing excludes up to $ 6.0 million in an additional potential earnout payment tied to performance-based conditions if achieved by the Zephr business by January 31, 2023. We expect the acquisition to close in early September 2022, subject to customary closing conditions. Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements and related notes appearing elsewhere in this Form 10-Q and our Annual Report on Form 10-K for the fiscal year ended January 31, 2022 filed with the Securities and Exchange Commission (SEC) on March 28, 2022 (Annual Report). As discussed in the section titled “Special Note Regarding Forward-Looking Statements,” the following discussion and analysis contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. Factors that could cause or contribute to these differences include, but are not limited to, those identified below and those discussed in the section titled “Risk Factors” under Part II, Item 1A in this Form 10-Q and in our Annual Report. Our fiscal year ends on January 31. Overview Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the entire quote-to-cash and revenue recognition process, including quoting, billing, collections and revenue recognition. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. Many of today’s enterprise software systems manage their quote-to-cash and revenue recognition process using software built for one-time transactions. These systems were not designed for the dynamic, ongoing nature of subscription, usage, or consumption-based pricing models, and can be extremely difficult to configure. In traditional product-based businesses, quote-to-cash and revenue recognition was a linear process—a customer orders a product, is billed for that product, payment is collected, and the revenue is recognized. These legacy product-based systems were not specifically designed to handle the complexities of ongoing customer relationships and recurring revenue, commonly found in a subscription business, and their impact on areas such as billing proration, revenue recognition, reporting in real-time, and the lifetime value of the customer. Using legacy or homegrown software to build a subscription business often results in inefficient processes with prolonged and complex manual downstream work, hard-coded customizations, and a proliferation of stock-keeping units (SKUs). However, enterprise business models are inherently dynamic, with multiple interactions, flexible pricing, global complexities, and continuously-evolving relationships and events. The capabilities to launch, price, and bill for products, facilitate and record cash receipts, process and recognize revenue, and analyze data to drive key decisions are mission critical and particularly complex for companies that operate at a global scale. As a result, as companies launch, grow, and scale their businesses, they often conclude that legacy systems are inadequate. That’s where Zuora comes in. Our vision is “The World Subscribed” -- the idea that one day every company will be a part of the Subscription Economy. Our focus has been on providing the technology our customers need to thrive as a customer-centric, recurring revenue business. Our solution includes Zuora Central Platform, Zuora Billing, Zuora Revenue, Zuora Collect, and other software that support and expand upon these core products. Our software helps companies analyze data - including information such as which customers are delivering the most recurring revenue, or which segments are showing the highest churn, enabling customers to make informed decisions for their subscription business and quickly 24 implement changes such as launching new services, updating pricing (usage, time, or outcome based), delivering new offerings, or making other changes to their customers’ subscription experience. We also have a large subscription ecosystem of global partners and the Subscribed Strategy Group, that can assist our customers with additional strategies and services throughout the subscription journey. Companies in a variety of industries - technology, manufacturing, media and entertainment, telecommunications, and many others - are using our solution to scale and adapt to a world that is increasingly choosing subscription-based offerings. COVID-19 Pandemic Impact Our financial results for the first half of fiscal 2023 have not been materially impacted by the COVID-19 pandemic. The extent to which the COVID-19 pandemic impacts our business operations, financial performance and liquidity in future periods will depend on multiple uncertain factors, including the duration and severity of the COVID-19 pandemic, developments related to COVID-19 variants and vaccine efficacy, the pandemic’s overall negative impact on the global economy generally and on our customers, which operate in numerous industries, and continued responses by governments and businesses to COVID-19. Because our products are generally offered as subscription-based licenses and a portion of that revenue is recognized over time, the effect of the COVID-19 pandemic may not be fully reflected in our results of operations until future periods. We will continue to evaluate the nature and extent of the impact of the COVID-19 pandemic on our business. See Part II, Item 1A. Risk Factors of this Quarterly Report on Form 10-Q for further discussion of the possible impact of the COVID-19 pandemic on our business and financial results. Fiscal Second Quarter Business Highlights and Recent Developments: • Customers with ACV exceeding $100,000 totaled 745 as of July 31, 2022, an increase of 7% compared to last year. We closed seven deals that exceeded $500,000 in ACV. • Our dollar-based retention rate improved to 111% compared to 108% as of July 31, 2021. • Our ARR was $337.6 million as of July 31, 2022 compared to $280.2 million as of July 31, 2021, representing ARR growth of 20% compared to 18% as of July 31, 2021. • Customer usage of Zuora solutions grew, with $21.0 billion in transaction volume through Zuora's billing platform during the three months ended July 31, 2022 , an increase of 16% year-over-year and 18% on a constant currency basis . • On August 23, 2022, we entered into an agreement to acquire Zephr, a cloud-based subscription management platform provider. Fiscal Second Quarter Financial Performance Summary: Our financial performance for the three months ended July 31, 2022 compared to the three months ended July 31, 2021 reflects the followin • Subscription revenue was $83.8 million, an increase of $12.3 million, or 17%; and total revenue was $98.8 million, an increase of $12.3 million, or 14%. • On a constant currency basis, subscription revenue was $85.2 million, an increase of $13.7 million, or 19%; and total revenue was $100.8 million, an increase of $14.3 million, or 17%. • Gross profit was $60.1 million, or 61% of total of revenue, compared to $50.5 million, or 58% of total revenue. • Loss from operations was $30.2 million, or 31% of total revenue, compared to a loss of $23.0 million, or 27% of total revenue. 25 Key Operational and Financial Metrics We monitor the following key operational and financial metrics to evaluate our business, measure our performance, identify trends affecting our business, formulate business plans and make strategic decisio Customers with Annual Contract Value (ACV) Equal to or Greater than $100,000 We believe our ability to enter into larger contracts is indicative of broader adoption of our solution by larger organizations. It also reflects our ability to expand our revenue footprint within our current customer base. We define ACV as the subscription revenue we would contractually expect to recognize from that customer over the next twelve months, assuming no increases or reductions in their subscriptions. We define the number of customers at the end of any particular period as the number of parties or organizations that have entered into a distinct subscription contract with us for which the term has not ended. Each party with which we have entered into a distinct subscription contract is considered a unique customer, and in some cases, there may be more than one customer within a single organization. The number of customers with ACV equal to or greater than $100,000 increased to 745 as of July 31, 2022, as compared to 694 customers as of July 31, 2021. We expect this metric to increase for the fiscal year. Dollar-Based Retention Rate We believe our dollar-based retention rate is a key measure of our ability to retain and expand revenue from our customer base over time. We calculate our dollar-based retention rate as of a period end by starting with the sum of the ACV from all customers as of twelve months prior to such period end, or prior period ACV. We then calculate the sum of the ACV from these same customers as of the current period end, or current period ACV. Current period ACV includes any upsells and also reflects contraction or attrition over the trailing twelve months, but excludes revenue from new customers added in the current period. We then divide the current period ACV by the prior period ACV to arrive at our dollar-based retention rate. Our dollar-based retention rate increased to 111% as of July 31, 2022, as compared to 108% as of July 31, 2021. While the dollar-based retention rate can fluctuate in any particular quarter, we expect it to increase slightly over the remainder of this fiscal year. Annual Recurring Revenue (ARR) ARR represents the annualized recurring value at the time of initial booking or contract modification for all active subscription contracts at the end of a reporting period. ARR excludes the value of non-recurring revenue such as professional services revenue as well as contracts with new customers with a term of less than one year. ARR should be viewed independently of revenue and deferred revenue, and is not intended to be a substitute for, or combined with, any of these items. Our ARR was $337.6 million as of July 31, 2022, compared to $280.2 million as of July 31, 2021. Our ARR increased 20% year over year as of July 31, 2022 compared to an increase of 18% for the comparable period of the prior year. We expect our ARR growth rate to increase slightly over the remainder of the fiscal year. Components of Our Results of Operations Revenue Subscription revenue. Subscription revenue consists of fees for access to, and use of, our products, as well as customer support. We generate subscription fees pursuant to non-cancelable subscription agreements with terms that typically range from one to three years. Subscription revenue is primarily based on fees to access our services platform over the subscription term. We typically invoice customers in advance in either annual or quarterly installments. Customers can also elect to purchase additional volume blocks or products during the term of the contract. We typically recognize subscription revenue ratably over the term of the subscription period, beginning on the date that access to our platform is provided, which is generally on or about the date the subscription agreement is signed. Professional services revenue. Professional services revenue consists of fees for services related to helping our customers deploy, configure, and optimize the use of our solutions. These services include system integration, data migration, process enhancement, and training. Professional services projects generally take three to twelve months to complete. Once the contract is signed, we generally invoice for professional services on a time and materials basis, although we occasionally engage in fixed-price service engagements and invoice for those based 26 upon agreed milestone payments. We recognize revenue as services are performed for time and materials engagements and on a proportional performance method as the services are performed for fixed fee engagements. We expect to continue to transition a portion of our professional services implementations to our strategic partners, including system integrators (SIs), and as a result we expect our professional services revenue to decrease over time as a percentage of total revenue. Deferred Revenue Deferred revenue consists of customer billings in advance of revenue being recognized from our subscription and support services and professional services arrangements. We primarily invoice our customers for subscription services arrangements annually or quarterly in advance. Amounts anticipated to be recognized within one year of the balance sheet date are recorded as deferred revenue, current portion, and the remaining portion is recorded as deferred revenue, net of current portion in our unaudited condensed consolidated balance sheets. Overhead Allocation and Employee Compensation Costs We allocate shared costs, such as facilities costs (including rent, utilities, and depreciation on capital expenditures related to facilities shared by multiple departments), information technology costs, and certain administrative personnel costs to all departments based on headcount and location. As such, allocated shared costs are reflected in each cost of revenue and operating expenses category. Employee compensation costs consist of salaries, bonuses, commissions, benefits, and stock-based compensation. Cost of Revenue, Gross Profit and Gross Margin Cost of subscription revenue. Cost of subscription revenue consists primarily of costs related to hosting our platform and providing customer support. These costs include data center costs and third-party hosting fees, employee compensation costs associated with our cloud-based infrastructure and our customer support organizations, amortization expense associated with capitalized internal-use software and purchased technology, allocated overhead, software and maintenance costs, and outside services associated with the delivery of our subscription services. We intend to continue to invest in our platform infrastructure, including third-party hosting capacity, and support organizations. However, the level and timing of investment in these areas could fluctuate and affect our cost of subscription revenue in the future. Cost of professional services revenue. Cost of professional services revenue consists primarily of costs related to the deployment of our platform. These costs include employee compensation costs for our professional services team, allocated overhead, travel costs, and costs of outside services associated with supplementing our internal staff. We believe that investment in our system integrator partner network will lead to total margin improvement, however costs may fluctuate in the near term as we shift deployments to our partner network. Gross profit and gross margin. Our gross profit and gross margin may fluctuate from period to period as our revenue fluctuates, and as a result of the timing and amount of investments to expand hosting capacity, including through third-party cloud providers, amortization expense associated with our capitalized internal-use software and purchased technology, and our continued efforts to build our cloud infrastructure, support, and professional services teams. Operating Expenses Research and development. Research and development expense consists primarily of employee compensation costs, allocated overhead, and travel costs. We capitalize research and development costs associated with the development of internal-use software and we generally amortize these costs over a period of three years into cost of subscription revenue. All other research and development costs are expensed as incurred. We believe that continued investment in our platform is important for our growth, and as such, expect our research and development expense to continue to increase in absolute dollars for the foreseeable future but may increase or decrease as a percentage of total revenue. Sales and marketing. Sales and marketing expense consists primarily of employee compensation costs, including the amortization of deferred commissions related to our sales personnel, allocated overhead, costs of 27 general marketing and promotional activities, and travel costs. Commission costs that are incremental to obtaining a contract are amortized in sales and marketing expense over the period of benefit, which is expected to be five years. We expect to continue to make significant investments as we expand our customer acquisition and retention efforts. Therefore, we expect that sales and marketing expense will increase in absolute dollars but may vary as a percentage of total revenue for the foreseeable future. General and administrative. General and administrative expense consists primarily of employee compensation costs, allocated overhead, and travel costs for finance, accounting, legal, human resources, and recruiting personnel. In addition, general and administrative expense includes non-personnel costs, such as accounting fees, legal fees, charitable contributions, asset impairments, and all other supporting corporate expenses not allocated to other departments. We expect to incur ongoing costs as a result of operating as a public company, including costs related to compliance and reporting obligations of public companies, and continued investment to support our growing operations. As a result, we expect our general and administrative expense to continue to increase in absolute dollars for the foreseeable future but may vary as a percentage of total revenue in the near term. Over the long-term, we expect general and administrative expense to decline as a percentage of total revenue due to economies we will realize as we scale our business. Other income and expenses Other income and expenses primarily consists of gain or loss on the revaluation of the warrant liability, amortization of discount and amortization of debt issuance costs on the 2029 Notes, contractual interest on the 2029 Notes, interest expense associated with our Debt Agreement, interest income from our cash and cash equivalents and short-term investments, and foreign exchange fluctuations. Income Tax Provision Income tax provision consists primarily of income taxes related to foreign and state jurisdictions in which we conduct business. We maintain a full valuation allowance on our federal and state deferred tax assets as we have concluded that it is more likely than not that the deferred assets will not be utilized. 28 Results of Operations The following tables set forth our unaudited condensed consolidated results of operations for the periods presented in dollars and as a percentage of our total revenue (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 Reve Subscription $ 83,811 $ 71,498 $ 162,311 $ 136,640 Professional services 14,964 14,989 29,663 30,176 Total revenue 98,775 86,487 191,974 166,816 Cost of reve Subscription 19,572 17,268 38,297 32,911 Professional services 19,077 18,724 36,587 35,802 Total cost of revenue 38,649 35,992 74,884 68,713 Gross profit 60,126 50,495 117,090 98,103 Operating expens Research and development 26,354 20,860 49,226 39,827 Sales and marketing 45,146 36,261 85,603 68,126 General and administrative 18,816 16,376 36,106 30,561 Total operating expenses 90,316 73,497 170,935 138,514 Loss from operations (30,190) (23,002) (53,845) (40,411) Change in fair value of warrant liability 4,524 — 8,896 — Interest expense (4,419) (62) (6,203) (72) Interest and other income (expense), net 704 (391) (1,089) (260) Loss before income taxes (29,381) (23,455) (52,241) (40,743) Income tax provision 529 238 837 611 Net loss $ (29,910) $ (23,693) $ (53,078) $ (41,354) 29 Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 Reve Subscription 85 % 83 % 85 % 82 % Professional services 15 17 15 18 Total revenue 100 100 100 100 Cost of reve Subscription 20 20 20 20 Professional services 19 22 19 21 Total cost of revenue 39 42 39 41 Gross profit 61 58 61 59 Operating expens Research and development 27 24 26 24 Sales and marketing 46 42 45 41 General and administrative 19 19 19 18 Total operating expenses 91 85 89 83 Loss from operations (31) (27) (28) (24) Change in fair value of warrant liability 5 — 5 — Interest expense (4) — (3) — Interest and other income (expense), net 1 — (1) — Loss before income taxes (30) (27) (27) (24) Income tax provision 1 — — — Net loss (30) % (27) % (28) % (25) % Note: Percentages in the table above may not sum due to rounding. Non-GAAP Financial Measures To supplement our unaudited condensed consolidated financial statements presented in accordance with U.S. GAAP, we monitor and consider non-GAAP financial measures includin subscription revenue and total revenue that exclude the impact of foreign currency exchange rate fluctuations (constant currency basis); non-GAAP cost of subscription revenue; non-GAAP cost of professional services revenue; non-GAAP gross profit; non-GAAP subscription gross margin; non-GAAP professional services gross margin; non-GAAP total gross margin; non-GAAP research and development expense; non-GAAP sales and marketing expense; non-GAAP general and administrative expense; non-GAAP loss from operations; non-GAAP operating margin; non-GAAP net loss; non-GAAP net loss per share; and free cash flow. We use non-GAAP financial measures in conjunction with GAAP measures as part of our overall assessment of our performance, including the preparation of our annual operating budget and quarterly forecasts, to evaluate the effectiveness of our business strategies and to communicate with our Board of Directors concerning our financial performance. We believe these non-GAAP measures provide investors consistency and comparability with our past financial performance and facilitate period-to-period comparisons of our operating results. We also believe these non-GAAP measures are useful in evaluating our operating performance compared to that of other companies in our industry, as they generally eliminate the effects of certain items that may vary for different companies for reasons unrelated to overall operating performance. Investors are cautioned that there are material limitations associated with the use of non-GAAP financial measures as an analytical tool. The non-GAAP financial measures we use may be different from non-GAAP financial measures used by other companies, limiting their usefulness for comparison purposes. We compensate for these limitations by providing specific information regarding the GAAP items excluded from our non-GAAP financial measures. The presentation of these non-GAAP financial measures is not intended to be considered in isolation or as a substitute for, or superior to, financial information prepared and presented in accordance with GAAP. Reconciliations of our non-GAAP financial measures to the nearest respective GAAP measures are provided below. 30 We exclude the following items from one or more of our non-GAAP financial measu • Stock-based compensation expense . We exclude stock-based compensation expense, which is a non-cash expense, because we believe that excluding this item provides meaningful supplemental information regarding operational performance. In particular, stock-based compensation expense is not comparable across companies given it is calculated using a variety of valuation methodologies and subjective assumptions. • Amortization of acquired intangible assets . We exclude amortization of acquired intangible assets, which is a non-cash expense, because we do not believe it has a direct correlation to the operation of our business. • Charitable contributions . We exclude expenses associated with charitable donations of our common stock. We believe that excluding these non-cash expenses allows investors to make more meaningful comparisons between our operating results and those of other companies. • Certain litigation. We exclude non-recurring charges and benefits, net of expected insurance recoveries, including litigation expenses and settlements, related to litigation matters that are outside of the ordinary course of our business. We believe these charges and benefits do not have a direct correlation to the operations of our business and may vary in size depending on the timing and results of such litigation and related settlements. • Asset impairment . We exclude non-cash charges for impairment of assets, including impairments related to internal-use software and office leases. Impairment charges can vary significantly in terms of amount and timing and we do not consider these charges indicative of our current or past operating performance. Moreover, we believe that excluding the effects of these charges allows investors to make more meaningful comparisons between our operating results and those of other companies. • Change in fair value of warrant liabilities. We exclude the change in fair value of warrant liabilities, which is a non-cash gain or loss, as it can fluctuate significantly with changes in Zuora's stock price and market volatility, and does not reflect the underlying cash flows or operational results of the business. • Acquisition-related expenses . We exclude acquisition-related expenses (including integration-related expenses) such as legal, financial advisory, consulting, and escrow expenses that are not related to our ongoing operations, including expenses we incurred related to our expected acquisition of Zephr. We do not consider these charges reflective of our core business or ongoing operating performance. The following tables provide a reconciliation of our GAAP to non-GAAP measures (in thousands, except percentages and per share data): 31 Three Months Ended July 31, 2022 GAAP Stock-based Compensation Amortization of Acquired Intangibles Charitable Contribution Certain Litigation Change in Fair Value of Warrant Liability Acquisition-related Expenses Non-GAAP Cost of reve Cost of subscription revenue $ 19,572 $ (2,281) $ (372) $ — $ — $ — $ — $ 16,919 Cost of professional services revenue 19,077 (3,690) — — — — — 15,387 Gross profit 60,126 5,971 372 — — — — 66,469 Operating expens Research and development 26,354 (7,465) — — — — — 18,889 Sales and marketing 45,146 (9,959) — — — — — 35,187 General and administrative 18,816 (4,818) — (1,000) (110) — (344) 12,544 Loss from operations (30,190) 28,213 372 1,000 110 — 344 (151) Net loss $ (29,910) $ 28,213 $ 372 $ 1,000 $ 110 $ (4,523) $ 344 $ (4,394) Net loss per share, basic and diluted 1 $ (0.23) $ (0.03) Gross margin 61 % 67 % Subscription gross margin 77 % 80 % Professional services gross margin (27) % (3) % Operating margin (31) % — % Three Months Ended July 31, 2021 GAAP Stock-based Compensation Amortization of Acquired Intangibles Charitable Contribution Certain Litigation Non-GAAP Cost of reve Cost of subscription revenue $ 17,268 $ (1,534) $ (519) $ — $ — $ 15,215 Cost of professional services revenue 18,724 (2,664) — — — 16,060 Gross profit 50,495 4,198 519 — — 55,212 Operating expens Research and development 20,860 (5,243) — — — 15,617 Sales and marketing 36,261 (5,615) — — — 30,646 General and administrative 16,376 (3,013) — (1,000) 526 12,889 Loss from operations (23,002) 18,069 519 1,000 (526) (3,940) Net loss $ (23,693) $ 18,069 $ 519 $ 1,000 $ (526) $ (4,631) Net loss per share, basic and diluted 1 $ (0.19) $ (0.04) Gross margin 58 % 64 % Subscription gross margin 76 % 79 % Professional services gross margin (25) % (7) % Operating margin (27) % (5) % _________________________________ (1) GAAP and Non-GAAP net loss per share are calculated based upon 130.3 million and 123.1 million weighted-average shares of common stock outstanding for the three months ended July 31, 2022 and 2021, respectively. 32 Six Months Ended July 31, 2022 GAAP Stock-based Compensation Amortization of Acquired Intangibles Charitable Contribution Certain Litigation Change in Fair Value of Warrant Liability Acquisition-related Expenses Non-GAAP Cost of reve Cost of subscription revenue $ 38,297 $ (4,080) $ (926) $ — $ — $ — $ — $ 33,291 Cost of professional services revenue 36,587 (6,707) — — — — — 29,880 Gross profit 117,090 10,787 926 — — — — 128,803 Operating expens Research and development 49,226 (13,431) — — — — — 35,795 Sales and marketing 85,603 (17,415) — — — — — 68,188 General and administrative 36,106 (9,405) — (1,000) (230) — (344) 25,127 Loss from operations (53,845) 51,038 926 1,000 230 — 344 (307) Net loss $ (53,078) $ 51,038 $ 926 $ 1,000 $ 230 $ (8,896) $ 344 $ (8,436) Net loss per share, basic and diluted 1 $ (0.41) $ (0.07) Gross margin 61 % 67 % Subscription gross margin 76 % 79 % Professional services gross margin (23) % (1) % Operating margin (28) % — % Six Months Ended July 31, 2021 2 GAAP Stock-based Compensation Amortization of Acquired Intangibles Charitable Contribution Certain Litigation Non-GAAP Cost of reve Cost of subscription revenue $ 32,911 $ (2,577) $ (942) $ — $ — $ 29,392 Cost of professional services revenue 35,802 (4,665) — — — 31,137 Gross profit 98,103 7,242 942 — — 106,287 Operating expens Research and development 39,827 (9,772) — — — 30,055 Sales and marketing 68,126 (9,695) — — — 58,431 General and administrative 30,561 (5,157) — (1,000) (283) 24,121 Loss from operations (40,411) 31,866 942 1,000 283 (6,320) Net loss $ (41,354) $ 31,866 $ 942 $ 1,000 $ 283 $ (7,263) Net loss per share, basic and diluted 1 $ (0.34) $ (0.06) Gross margin 59 % 64 % Subscription gross margin 76 % 78 % Professional services gross margin (19) % (3) % Operating margin (24) % (4) % _________________________________ (1) GAAP and Non-GAAP net loss per share are calculated based upon 129.4 million and 122.3 million weighted-average shares of common stock outstanding for the six months ended July 31, 2022 and 2021, respectively. (2) Beginning with the second quarter ended July 31, 2021, we no longer exclude non-cash adjustments for capitalization and amortization of internal-use software from our non-GAAP financial measures. We believe that this change more closely aligns our reported financial measures with current industry practice. Our non-GAAP financial measures for the six months ended July 31, 2021 were recast to conform to the updated methodology for comparison purposes. 33 Free Cash Flow We define free cash flow as net cash provided by operating activities, less cash used for purchases of property and equipment, net of insurance recoveries. Insurance recoveries include amounts paid to us for property and equipment that were damaged in January 2020 at our corporate headquarters. We include the impact of net purchases of property and equipment in our free cash flow calculation because we consider these capital expenditures to be a necessary component of our ongoing operations. We consider free cash flow to be a liquidity measure that provides useful information to management and investors about the amount of cash generated by the business that can possibly be used for investing in our business and strengthening our balance sheet, but it is not intended to represent the residual cash flow available for discretionary expenditures. Three Months Ended July 31, Six Months Ended July 31, 2022 2021 2022 2021 (in thousands) Net cash (used in) provided by operating activities $ (4,801) $ (2,623) $ 2,182 $ 7,628 L Purchases of property and equipment, net of insurance recoveries (2,821) (1,732) (6,084) (3,353) Free cash flow $ (7,622) $ (4,355) $ (3,902) $ 4,275 Net cash used in investing activities $ (142,619) $ (3,244) $ (146,506) $ (8,860) Net cash provided by financing activities $ 4,046 $ 9,514 $ 238,428 $ 11,970 Constant Currency We provide subscription revenue and total revenue, including year-over-year growth rates, adjusted to remove the impact of foreign currency rate fluctuations, which we refer to as constant currency. We believe providing revenue on a constant currency basis helps our investors to better understand our underlying performance. We calculate constant currency in a given period by applying the average currency exchange rates in the comparable period of the prior year to the local currency revenue in the current period. Three Months Ended July 31, Six Months Ended July 31, 2022 2021 % Change 2022 2021 % Change (dollars in thousands) (dollars in thousands) Subscription revenue (GAAP) $ 83,811 $ 71,498 17 % $ 162,311 $ 136,640 19 % Effects of foreign currency rate fluctuations 1,401 1,813 Subscription revenue on a constant currency basis (Non-GAAP) $ 85,212 19 % $ 164,124 20 % Total revenue (GAAP) $ 98,775 $ 86,487 14 % $ 191,974 $ 166,816 15 % Effects of foreign currency rate fluctuations 1,983 2,789 Total revenue on a constant currency basis (Non-GAAP) $ 100,758 17 % $ 194,763 17 % 34 Comparison of the Three Months Ended July 31, 2022 and 2021 Revenue Three Months Ended July 31, 2022 2021 $ Change % Change (dollars in thousands) Reve Subscription $ 83,811 $ 71,498 $ 12,313 17 % Professional services 14,964 14,989 (25) — % Total revenue $ 98,775 $ 86,487 $ 12,288 14 % Percentage of reve Subscription 85 % 83 % Professional services 15 17 Total revenue 100 % 100 % Subscription revenue increased by $12.3 million, or 17%, for the three months ended July 31, 2022 compared to the three months ended July 31, 2021. The increase was driven by growth in our customer base, with new customers contributing approximately $5.5 million of the increase in subscription revenue, and increased transaction volume and sales of additional products to our existing customers contributing the remainder. We calculate subscription revenue from new customers during the quarter by adding the revenue recognized from new customers acquired in the 12 months prior to the reporting date. Professional services revenue remained constant at $15.0 million for the three months ended July 31, 2022 compared to the three months ended July 31, 2021. On a constant currency basis, subscription revenue was $85.2 million and increased 19%, and total revenue was $100.8 million and increased 17%, for the three months ended July 31, 2022 compared to the three months ended July 31, 2021. Cost of Revenue and Gross Margin Three Months Ended July 31, 2022 2021 $ Change % Change (dollars in thousands) Cost of reve Subscription $ 19,572 $ 17,268 $ 2,304 13 % Professional services 19,077 18,724 353 2 % Total cost of revenue $ 38,649 $ 35,992 $ 2,657 7 % Gross margin: Subscription 77 % 76 % Professional services (27) (25) Total gross margin 61 % 58 % Cost of subscription revenue increased by $2.3 million, or 13%, for the three months ended July 31, 2022 compared to the three months ended July 31, 2021. The increase in cost of subscription revenue was primarily due to increases of $2.3 million in employee compensation costs and $0.9 million in outside professional services costs, partially offset by a decrease of $0.7 million in data center and third-party cloud hosting costs as we completed the migration from our third-party hosted data center to a cloud hosting provider at the end of fiscal 2022. Cost of professional services revenue increased by $0.4 million, or 2%, for the three months ended July 31, 2022 compared to the three months ended July 31, 2021. The increase in cost of professional services revenue was 35 primarily due to an increase of $1.4 million in employee compensation costs driven by stock-based compensation expense, partially offset by a decrease of $1.2 million in outside professional services costs. Our gross margin for subscription services increased to 77% for the three months ended July 31, 2022 compared to 76% for the three months ended July 31, 2021. We expect our subscription gross margin to be relatively consistent for the remainder of the fiscal year. Our gross margin for professional services decreased to (27)% for the three months ended July 31, 2022 compared to (25)% for the three months ended July 31, 2021, primarily due to increased compensation related expenses. Operating Expenses Research and Development Three Months Ended July 31, 2022 2021 $ Change % Change (dollars in thousands) Research and development $ 26,354 $ 20,860 $ 5,494 26 % Percentage of total revenue 27 % 24 % Research and development expense increased by $5.5 million, or 26%, for the three months ended July 31, 2022 compared to the three months ended July 31, 2021, primarily due to increases of $4.8 million in employee compensation costs and $1.2 million in outside professional services costs, partially offset by a $0.8 million increase in capitalization of internal-use software costs compared to prior year. Research and development expense increased to 27% of total revenue for the three months ended July 31, 2022 from 24% during the three months ended July 31, 2021, primarily due to additional employee compensation expense. Sales and Marketing Three Months Ended July 31, 2022 2021 $ Change % Change (dollars in thousands) Sales and marketing $ 45,146 $ 36,261 $ 8,885 25 % Percentage of total revenue 46 % 42 % Sales and marketing expense increased by $8.9 million, or 25%, for the three months ended July 31, 2022 compared to the three months ended July 31, 2021, primarily due to increases of $7.2 million in employee compensation costs driven by increased headcount and stock-based compensation expense, $0.8 million in amortization of deferred commissions, and $0.8 million in travel costs. Sales and marketing expense increased to 46% of total revenue during the three months ended July 31, 2022 from 42% during the three months ended July 31, 2021, reflecting our strategy to invest in our go-to-market organization to drive enterprise growth. 36 General and Administrative Three Months Ended July 31, 2022 2021 $ Change % Change (dollars in thousands) General and administrative $ 18,816 $ 16,376 $ 2,440 15 % Percentage of total revenue 19 % 19 % General and administrative expense increased by $2.4 million, or 15%, for the three months ended July 31, 2022 compared to the three months ended July 31, 2021, primarily due to increases of $2.6 million in employee compensation costs and $1.0 million in legal expenses, partially offset by a decrease of $0.8 million in outside professional services costs. General and administrative expense remained consistent at 19% of total revenue during the three months ended July 31, 2022 and 2021. Other income and expenses Three Months Ended July 31, 2022 2021 $ Change % Change (dollars in thousands) Change in fair value of warrant liability $ 4,524 $ — $ 4,524 N/A Interest expense $ (4,419) $ (62) $ (4,357) 7027 % Interest and other income (expense), net $ 704 $ (391) $ 1,095 280 % During the three months ended July 31, 2022 we recognized a $4.5 million gain on revaluation of the liability-classified Warrants issued in connection with the 2029 Notes. Interest expense increased $4.4 million due to the issuance of the the Initial Notes on March 24, 2022. Interest and other income (expense), net increased $1.1 million due to interest income and the the revaluation of cash, accounts receivable, and accounts payable recorded in a foreign currency. Income Tax Provision Three Months Ended July 31, 2022 2021 $ Change % Change (dollars in thousands) Income tax provision $ 529 $ 238 $ 291 122 % We are subject to federal and state income taxes in the United States and taxes in foreign jurisdictions. For the three months ended July 31, 2022 and 2021, we recorded a tax provision of $0.5 million and $0.2 million, respectively, on a loss before income taxes of $29.4 million and $23.5 million, respectively. The effective tax rate for the three months ended July 31, 2022 and 2021 was (1.8)% and (1.0)%, respectively. The change in the effective tax rate was due primarily to an increase in foreign tax expense as a result of higher foreign revenue. The effective tax rate differs from the statutory rate primarily as a result of providing no benefit on pretax losses incurred in the United States. For the three months ended July 31, 2022 and 2021, we maintained a full valuation allowance on our U.S. federal and state net deferred tax assets as it was more likely than not that those deferred tax assets will not be realized. 37 Comparison of the Six Months Ended July 31, 2022 and 2021 Revenue Six Months Ended July 31, 2022 2021 $ Change % Change (dollars in thousands) Reve Subscription $ 162,311 $ 136,640 $ 25,671 19 % Professional services 29,663 30,176 (513) (2) % Total revenue $ 191,974 $ 166,816 $ 25,158 15 % Percentage of reve Subscription 85 % 82 % Professional services 15 18 Total revenue 100 % 100 % Subscription revenue increased by $25.7 million, or 19%, for the six months ended July 31, 2022 compared to the six months ended July 31, 2021. The increase was driven by growth in our customer base, with new customers contributing approximately $11.4 million of the increase in subscription revenue for the six months ended July 31, 2022 compared to the six months ended July 31, 2021 , and increased transaction volume and sales of additional products to our existing customers contributing the remainder. We calculate subscription revenue from new customers on a year-to-date basis by adding the revenue recognized from new customers acquired in the 12 months prior to each discrete quarter within the year-to-date period. Professional services revenue decreased by $0.5 million, or (2)%, for the six months ended July 31, 2022 compared to the six months ended July 31, 2021, partially driven by the shifting of services work to our system integration partners. On a constant currency basis, subscription revenue was $164.1 million and increased 20%, and total revenue was $194.8 million and increased 17%, for the six months ended July 31, 2022 compared to the six months ended July 31, 2021 . Cost of Revenue and Gross Margin Six Months Ended July 31, 2022 2021 $ Change % Change (dollars in thousands) Cost of reve Subscription $ 38,297 $ 32,911 $ 5,386 16 % Professional services 36,587 35,802 785 2 % Total cost of revenue $ 74,884 $ 68,713 $ 6,171 9 % Gross margin: Subscription 76 % 76 % Professional services (23) (19) Total gross margin 61 % 59 % Cost of subscription revenue increased by $5.4 million, or 16%, for the six months ended July 31, 2022 compared to the six months ended July 31, 2021. The increase in cost of subscription revenue was primarily driven by increases of $4.4 million in employee compensation costs and $1.3 million in outside professional services costs, partially offset by a decrease of $0.8 million in data center and third-party cloud hosting costs as we completed the migration from our third-party hosted data center to a cloud hosting provider at the end of fiscal 2022. 38 Cost of professional services revenue increased by $0.8 million, or 2%, for the six months ended July 31, 2022 compared to the six months ended July 31, 2021. The increase in cost of professional services revenue was primarily driven by an increase of $2.8 million in employee compensation costs driven by stock-based compensation expense, partially offset by a decrease of $2.4 million in outside professional services costs. Our gross margin for subscription services remained constant at 76% for the six months ended July 31, 2022 and 2021. Our gross margin for professional services decreased to (23)% for the six months ended July 31, 2022 compared to (19)% for the six months ended July 31, 2021, primarily due to increased compensation related expenses. Operating Expenses Research and Development Six Months Ended July 31, 2022 2021 $ Change % Change (dollars in thousands) Research and development $ 49,226 $ 39,827 $ 9,399 24 % Percentage of total revenue 26 % 24 % Research and development expense increased by $9.4 million, or 24%, for the six months ended July 31, 2022 compared to the six months ended July 31, 2021. The increase in research and development expense was primarily driven by increases of $7.6 million in employee compensation costs and $2.7 million in outside professional services costs, partially offset by a $1.3 million increase in capitalization of internal-use software costs. Research and development expense increased to 26% from 24% of total revenue during the six months ended July 31, 2022 compared to six months ended July 31, 2021, primarily due to additional employee compensation expense. Sales and Marketing Six Months Ended July 31, 2022 2021 $ Change % Change (dollars in thousands) Sales and marketing $ 85,603 $ 68,126 $ 17,477 26 % Percentage of total revenue 45 % 41 % Sales and marketing expense increased by $17.5 million, or 26%, for the six months ended July 31, 2022 compared to the six months ended July 31, 2021, primarily due to increases of $13.4 million in employee compensation costs driven by increased headcount and stock-based compensation expense, $1.5 million in amortization of deferred commissions, $1.2 million in travel costs, and $1.1 million in allocated expenses. Sales and marketing expense increased to 45% of total revenue during the six months ended July 31, 2022 from 41% during the six months ended July 31, 2021, reflecting our strategy to invest in our go-to-market organization to drive enterprise growth. General and Administrative Six Months Ended July 31, 2022 2021 $ Change % Change (dollars in thousands) General and administrative $ 36,106 $ 30,561 $ 5,545 18 % Percentage of total revenue 19 % 18 % General and administrative expense increased by $5.5 million, or 18%, for the six months ended July 31, 2022 compared to the six months ended July 31, 2021, primarily due to a $5.9 million increase in employee 39 compensation costs. General and administrative expense increased slightly to 19% of total revenue during the six months ended July 31, 2022 compared to 18% during the six months ended July 31, 2021. Other income and expenses Six Months Ended July 31, 2022 2021 $ Change % Change (dollars in thousands) Change in fair value of warrant liability $ 8,896 $ — $ 8,896 N/A Interest expense $ (6,203) $ (72) $ (6,131) 8515 % Interest and other (expense) income, net $ (1,089) $ (260) $ (829) 319 % During the six months ended July 31, 2022 we recognized an $8.9 million gain on revaluation of the liability-classified Warrants issued in connection with the 2029 Notes. Interest expense increased $6.1 million due to the issuance of the the Initial Notes on March 24, 2022. Interest and other (expense) income, net increased $0.8 million due to higher expense resulting from the revaluation of cash, accounts receivable, and payables recorded in a foreign currency, partially offset by interest income. Income Tax Provision Six Months Ended July 31, 2022 2021 $ Change % Change (dollars in thousands) Income tax provision $ 837 $ 611 $ 226 37 % We are subject to federal and state income taxes in the United States and taxes in foreign jurisdictions. For the six months ended July 31, 2022 and 2021, we recorded a tax provision of $0.8 million and $0.6 million, respectively, on losses before income taxes of $52.2 million and $40.7 million, respectively. The effective tax rates for the six months ended July 31, 2022 and 2021 were relatively consistent at (1.6)% and (1.5)%, respectively. The change was due primarily to an increase in foreign tax expenses as a result of higher foreign revenue. The effective tax rate differs from the statutory rate primarily as a result of no benefit on pretax losses incurred in the United States. For the six months ended July 31, 2022 and 2021, we maintained a full valuation allowance on our U.S. federal and state net deferred tax assets as it was more likely than not that those deferred tax assets will not be realized. Liquidity and Capital Resources Liquidity is a measure of our ability to access sufficient cash flows to meet the short-term and long-term cash requirements of our business operations. As of July 31, 2022, we had cash and cash equivalents and short-term investments of $448.6 million that was primarily invested in deposit accounts, money market funds, corporate debt securities, supranational securities, commercial paper, and U.S. and foreign government securities. We do not enter into investments for trading or speculative purposes. We finance our operations primarily through sales to our customers, which are generally billed in advance on an annual or quarterly basis. Customers with annual or multi-year contracts are generally only billed one annual period in advance. We also finance our operations through proceeds from the issuance of stock under our employee stock plans, borrowings under our Debt Agreement, proceeds from our issuance of the Initial Notes and other financing arrangements. On March 24, 2022, we issued $250.0 million aggregate principal amount of convertible senior unsecured notes to fund the future growth and expansion of our business. Under the 2029 Notes, we expect to issue an additional $150.0 million in convertible senior unsecured notes within 18 months of the Initial Closing Date. Under our Debt Agreement, we repaid $1.5 million of principal on our term loan during the six months ended July 31, 2022, and have the ability borrow up to an additional $30.0 million in revolving loans until October 2022. See Note 9. Debt 40 to our unaudited condensed consolidated financial statements included in this Form 10-Q for more information about the 2029 Notes and our Debt Agreement. In the short term, we believe our existing cash and cash equivalents, marketable securities, and cash flow from operations (in periods in which we generate cash flow from operations) will be sufficient for at least the next 12 months to meet our requirements and plans for cash, including meeting our working capital requirements and capital expenditure requirements, and servicing our debt. In the long term, our ability to support our requirements and plans for cash, including meeting our working capital and capital expenditure requirements, will depend on many factors, including our revenue growth rate, the timing and the amount of cash received from customers, the expansion of sales and marketing activities, the timing and extent of spending to support research and development efforts, the cost to develop and support our offering, the introduction of new products and services, the continuing adoption of our products by customers, any acquisitions or investments that we make in complementary businesses, products, and technologies, and our ability to obtain equity or debt financing. We continually evaluate our capital needs and may decide to raise additional capital to fund the growth of our business for general corporate purposes through public or private equity offerings or through additional debt financing. We also may in the future make investments in or acquire businesses or technologies that could require us to seek additional equity or debt financing. To facilitate acquisitions or investments, we may seek additional equity or debt financing, which may not be available on terms favorable to us or at all. Sales of additional equity could result in dilution to our stockholders. We expect proceeds from the exercise of stock options in future years to be impacted by the increased mix of restricted stock units versus stock options granted to employees and to vary based on our share price. Cash Flows The following table summarizes our cash flows for the periods indicated (in thousands): Six Months Ended July 31, 2022 2021 Net cash provided by operating activities $ 2,182 $ 7,628 Net cash used in investing activities (146,506) (8,860) Net cash provided by financing activities 238,428 11,970 Effect of exchange rates on cash and cash equivalents (675) (259) Net increase in cash and cash equivalents $ 93,429 $ 10,479 Operating Activities Net cash provided by operating activities of $2.2 million for the six months ended July 31, 2022 was comprised primarily of customer collections for our subscription and professional services, cash payments for our personnel, sales and marketing efforts and infrastructure related costs, payments to vendors for products and services related to our ongoing business operations, interest income received on our short-term investments, and interest paid on the Initial Notes. Net cash provided by operating activities for the six months ended July 31, 2022 decreased $5.4 million compared to the same period last year, primarily due to $2.6 million of interest paid on our our Initial Notes and the timing of cash collections from our customers. Investing Activities Net cash used in investing activities for the six months ended July 31, 2022 was $146.5 million. We used $6.1 million to purchase property and equipment and to develop internal-use software as we continue to invest in and grow our business, and had net purchases of $140.4 million of short-term investments as we invested a portion of the proceeds from issuance of the Initial Notes. Net cash used in investing activities for the six months ended July 31, 2022 increased $137.6 million compared to the six months ended July 31, 2021, primarily due to $140.4 million net purchases of short-term investments in the six months ended July 31, 2022, compared to $4.2 million last year. Payments for property and equipment, net 41 of insurance recoveries, were $2.7 million higher compared to the same period last year, primarily due to increased capitalization of internal-use software in the six months ended July 31, 2022. The additional cash used in the six months ended July 31, 2022 was partially offset by no cash used for asset acquisitions in the six months ended July 31, 2022 compared to $1.3 million used to acquire certain intellectual property assets in the six months ended July 31, 2021. Financing Activities Net cash provided by financing activities for the six months ended July 31, 2022 of $238.4 million was primarily due to $233.9 million in net proceeds from issuance of the Initial Notes, $4.5 million of proceeds from issuance of common stock under the ESPP, and $1.5 million in proceeds from stock option exercises, partially offset by $1.5 million of debt principal payments related to our Debt Agreement. Net cash provided by financing activities for the six months ended July 31, 2022 increased $226.5 million compared to the six months ended July 31, 2021, primarily due to proceeds from issuance of the Initial Notes, partially offset by $8.7 million less proceeds received from stock option exercises compared to the same period last year. Obligations and Other Commitments Our material cash requirements from known contractual and other obligations consist of obligations under our operating leases for office space, the 2029 Notes, and a contractual commitment to one of our vendors for cloud computing services. For more information, please refer to Note 12. Leases , Note 9. Debt and Note 13. Commitments and Contingencies, respectively, of the Notes to our Unaudited Condensed Consolidated Financial Statements included in this Quarterly Report on Form 10-Q. As of July 31, 2022, our contractual commitments totaled $403.9 million, with $22.5 million committed within the next twelve months. In the ordinary course of business, we enter into agreements of varying scope and terms pursuant to which we agree to indemnify customers, vendors, lessors, business partners, and other parties with respect to certain matters, including, but not limited to, losses arising out of the breach of such agreements, services to be provided by us, or from data breaches or intellectual property infringement claims made by third parties. In addition, we have entered into indemnification agreements with our directors and certain officers and employees that will require us, among other things, to indemnify them against certain liabilities that may arise by reason of their status or service as directors, officers, or employees. As of July 31, 2022, no demands had been made upon us to provide indemnification under such agreements and there were no claims that we are aware of that could have a material effect on our unaudited condensed consolidated balance sheets, unaudited condensed consolidated statements of comprehensive loss, or unaudited condensed consolidated statements of cash flows. Critical Accounting Policies and Estimates Our unaudited condensed consolidated financial statements are prepared in accordance with U.S. GAAP. The preparation of these unaudited condensed consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the applicable periods. We evaluate our estimates and assumptions on an ongoing basis. Our estimates are based on historical experience and various other factors that we believe to be reasonable under the circumstances. Our actual results could differ from these estimates. Our significant accounting policies are discussed in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements in our Annual Report on Form 10-K for the fiscal year ended January 31, 2022, filed with the SEC on March 28, 2022. Any significant changes to these policies during the six months ended July 31, 2022 are described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements to our unaudited condensed consolidated financial statements provided herein. Item 3. Quantitative and Qualitative Disclosures About Market Risk We are exposed to certain market risks in the ordinary course of our business. Market risk represents the risk of loss that may impact our financial position due to adverse changes in financial market prices and rates. Our market risk exposure is primarily a result of fluctuations in foreign currency exchange rates and interest rates. 42 Foreign Currency Exchange Risk Our sales contracts are denominated predominantly in U.S. Dollars, Euros (EUR), British Pounds (GBP), and Japanese Yen (JPY). A portion of our operating expenses are incurred outside the United States and denominated in foreign currencies and are subject to fluctuations due to changes in foreign currency exchange rates, particularly changes in the GBP and Chinese Yuan (CNY). Additionally, fluctuations in foreign currency exchange rates may cause us to recognize transaction gains and losses in our unaudited condensed consolidated statement of comprehensive loss. The effect of a hypothetical 10% change in foreign currency exchange rates applicable to our business would not have a material impact on our unaudited condensed consolidated financial statements for the six months ended July 31, 2022. Given the impact of foreign currency exchange rates has not been material to our historical operating results, we have not entered into derivative or hedging transactions, but we may do so in the future if our exposure to foreign currency should become more significant. As our international operations grow, we will continue to reassess our approach to manage our risk relating to fluctuations in currency rates. Interest Rate Risk We had cash and cash equivalents and short-term investments of $448.6 million as of July 31, 2022. Our cash and cash equivalents and short-term investments are held for working capital purposes. We do not make investments for trading or speculative purposes. A significant decrease in these market rates may adversely affect our expected operating results. The 2029 Notes have a fixed interest rate and therefore are not impacted by market rates. Our cash equivalents and short-term investments are subject to market risk due to changes in interest rates. Fixed rate securities may have their market value adversely affected due to a rise in interest rates. Due in part to these factors, our future investment income may fall short of our expectations due to changes in interest rates or we may suffer losses in principal if we are forced to sell securities that decline in market value due to changes in interest rates. However, because we classify our short-term investments as “available for sale,” no gains or losses are recognized due to changes in interest rates unless such securities are sold prior to maturity or decreases in fair value are determined to be other-than-temporary. As of July 31, 2022, a hypothetical 10% relative change in interest rates would not have had a material impact on the value of our cash equivalents and short-term investments or interest owed on our outstanding debt. Fluctuations in the value of our cash equivalents and short-term investments caused by a change in interest rates (gains or losses on the carrying value) are recorded in other comprehensive income, and are realized only if we sell the underlying securities prior to maturity. In addition, a hypothetical 10% relative change in interest rates would not have had a material impact on our operating results for the six months ended July 31, 2022. Item 4. Controls and Procedures Evaluation of Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of July 31, 2022. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that as of July 31, 2022, our disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed in the reports we file and submit under the Exchange Act is recorded, processed, summarized and reported as and when required, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding its required disclosure. Changes in Internal Control Over Financial Reporting There was no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the period covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 43 Inherent Limitations on Effectiveness of Controls Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected. Accordingly, our disclosure controls and procedures provide reasonable assurance of achieving their objectives. 44 PART II—OTHER INFORMATION Item 1. Legal Proceedings For information regarding legal proceedings, see Note 13. Commitments and Contingencies of the notes to our unaudited condensed consolidated financial statements included in Item 1. Financial Statements of this Form 10-Q, which is incorporated by reference into this Item 1. Legal Proceedings . Item 1A. Risk Factors An investment in our common stock involves a high degree of risk, and the following is a summary of key risk factors when considering an investment. You should read the summary risks together with the more detailed discussion of risks set forth following this summary, as well as elsewhere in this Quarterly Report on Form 10-Q. Additional risks, beyond those summarized below or discussed elsewhere in this Quarterly Report on Form 10-Q, may apply to our activities or operations as currently conducted or as we may conduct them in the future or in the markets in which we operate or may in the future operate. Risks Related to Our Business and Industry • If we are unable to attract new customers and retain and expand sales to existing customers, including as a result of macroeconomic factors or business disruptions outside of our control, our revenue growth could be slower than we expect and our business would be adversely affected. • If we are unable to manage our growth effectively, our revenue and profits could be adversely affected. • If the shift to subscription business models, including the market for subscription management software, develops slower than we expect, our growth may slow or stall and our operating results could be adversely affected. • If currency exchange rates fluctuate substantially in the future, the results of our operations, which are reported in U.S. dollars, could be adversely affected. • If we are unable to recruit or retain senior management or other key personnel and maintain our corporate culture, our business, operating results, and financial condition could be adversely affected. • Our debt obligations could adversely affect our financial condition. • Our success depends in large part on a limited number of products, and if these offerings fail to gain market acceptance or our product development efforts are unsuccessful, our business, operating results, and financial condition could be adversely affected. • We may be unable to integrate businesses we have or will acquire or to achieve expected benefits of such acquisitions. • The COVID-19 pandemic, or other pandemics or natural disasters, or catastrophic events, could adversely impact our business, financial condition, operating results and cash flows. • We have a history of net losses and anticipate continuing to incur losses for the near- and mid-term future and may not achieve or sustain profitability. • Our ability to grow our revenues and achieve and sustain profitability will depend, in part, on our ability to expand our direct sales force and increase productivity of our sales force. • If we are unable to effectively compete in the market for our solutions or such markets develop slower than we expect our business, operating results, and financial condition would be adversely affected. • Our operating results, which are influenced by a variety of factors, have fluctuated in the past and may continue to fluctuate, making our future results difficult to predict accurately. • If we are not able to successfully and timely develop, enhance and deploy our products and multi-product strategy, our business, operating results, financial condition and growth prospects could be adversely affected. • If we are unable to successfully execute our strategic initiatives, such as increasing our sales to large enterprise customers and expanding and strengthening our sales channels and relationships with system integrators, our business, operating results and financial condition could be adversely affected. 45 • Our international operations expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. • If we fail to integrate our solution with a variety of systems, applications and platforms that are developed by others, our solution may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy • A cyber-attack, information security breach or denial of service event could delay or interrupt service to our customers, harm our reputation, or subject us to significant liability. • Privacy and security concerns, laws, and regulations, may reduce the effectiveness of our solution and adversely affect our business. • Failure to protect our intellectual property could adversely affect our business. • Any disruptions of service from our public cloud providers could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. Risks Related to Legal, Regulatory, Accounting, and Tax Matters • Current and future litigation, including our current shareholder litigation, could have a material adverse impact on our operating results and financial condition. • We may require additional capital to fund our business and support our growth, and any inability to generate or obtain such capital may adversely affect our operating results and financial condition. Risks Related to Ownership of Our Class A Common Stock • The market price of our Class A common stock has been, and will likely continue to be, volatile, and you could lose all or part of the value of your investment. • The dual class structure of our common stock has the effect of concentrating voting control with holders of our Class B common stock, including our directors and executive officers, and their affiliates, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. Risks Related to Our Business and Industry If we are unable to attract new customers and retain and expand sales to existing customers, including as a result of macroeconomic factors or business disruptions outside our control, our revenue growth could be slower than we expect, and our business may be adversely affected. Our ability to achieve significant growth in revenue in the future will depend, in large part, upon our ability to attract new customers. This may be particularly challenging where an organization has already invested substantial personnel and financial resources to integrate billings and other business and financial management tools, including custom-built solutions, into its business, as such an organization may be reluctant or unwilling to invest in new products and services. As a result, selling our solution often requires sophisticated and costly sales efforts that are targeted at senior management. During the six months ended July 31, 2022, sales and marketing expenses represented approximately 45% of our total revenue. If we fail to attract new customers and fail to maintain and expand new customer relationships, our revenue may grow more slowly than we expect and our business may be adversely affected. Our future revenue growth also depends upon retaining and expanding sales and renewals of subscriptions to our solution with existing customers. If our existing customers do not expand their use of our solution over time or do not renew their subscriptions or if we receive requests from an increased number of customers for changes to payment or other terms as a result of the impact of the COVID-19 pandemic or economic conditions on their businesses, our revenue may grow more slowly than expected, may not grow at all, or may decline. Our success, in part, is dependent on our ability to cross-sell our products. If we experience issues with successfully implementing or cross-selling our products, revenue may grow more slowly or may not grow at all. 46 Our sales efforts and revenue growth could also be negatively impacted by macroeconomic uncertainty and deteriorating economic conditions, including recession and increasing inflation, or other business disruptions. For example, we have experienced and, if economic conditions continue to decline, we may continue to experience longer sales cycles and collection periods. We currently expect to continue expanding our sales efforts, both domestically and internationally, but any continuing business disruptions may negatively impact these efforts and adversely impact our business. In addition, we may be unable to hire qualified sales personnel, may be unable to successfully train those sales personnel that we are able to hire, and sales personnel may not become fully productive on the timelines that we have projected or at all. In addition, mitigation and containment measures adopted by government authorities to contain the spread of COVID-19 in the United States and internationally, including travel restrictions and other requirements that limit in-person meetings, could limit our ability to establish and maintain relationships with new and existing customers. Further, although we dedicate significant resources to sales and marketing programs, these sales and marketing programs may not have the desired effect and may not expand sales. We cannot assure you that our efforts would result in increased sales to existing customers, and additional revenue. If our efforts to expand sales and renewals to existing customers are not successful, our business and operating results could be adversely affected. Our customers generally enter into subscription agreements with one to three-year subscription terms and have no obligation to renew their subscriptions after the expiration of their initial subscription period. Moreover, our customers that do renew their subscriptions may renew for lower subscription or usage amounts or for shorter subscription periods. In addition, in the first year of a subscription, customers often purchase an increased level of professional services (such as training and deployment services) than they do in renewal years. Costs associated with maintaining a professional services department are relatively fixed in the short-term, while professional services revenue is dependent on the amount of billable work actually performed for customers in a period, the combination of which may result in variability in, and have a negative impact on, our gross profit. Customer renewals may decline or fluctuate as a result of a number of factors, including the breadth of early deployment, reductions in our customers’ spending levels, higher volumes of usage purchased upfront relative to actual usage during the subscription term, changes in customers’ business models and use cases, our customers’ satisfaction or dissatisfaction with our solution, our pricing or pricing structure, the pricing or capabilities of products or services offered by our competitors, or the effects of economic conditions, including as a result of the COVID-19 pandemic. If our customers do not renew their agreements with us, or renew on terms less favorable to us, our revenue may decline. If we fail to manage our growth and expansion plans effectively, our business, operating results, and financial condition could be adversely affected. While we had experienced rapid growth in our operations and personnel prior to the COVID-19 pandemic, we reduced our overall rate of hiring in fiscal 2021 as a cost savings measure in light of the COVID-19 pandemic and uncertain economic conditions. During fiscal 2022, we accelerated our pace of hiring and investments in our operations including sales, marketing and product technology, and we currently intend to continue these investments provided business disruptions, such as those due to the COVID-19 pandemic or economic uncertainty, and increasing wage inflation do not continue for an extended period. If we are not able to continue to increase our headcount within a reasonable period of time, our ability to expand our operations and maintain or increase our sales may be negatively impacted. To manage growth in our operations and personnel, we will need to continue to improve our operational, financial, and management controls and our reporting systems and procedures, as well as training and experience oversight. Failure to manage growth and expansion plans effectively could result in difficulty or delays in deploying customers, declines in quality or customer satisfaction, increases in costs, difficulties in introducing new products and services or enhancing existing products and services, loss of customers, or other operational difficulties in executing sales strategies, any of which could adversely affect our business performance and operating results. 47 If the shift by companies to subscription business models, including consumer adoption of products and services that are provided through such models, and, in particular, the market for subscription management software, develops slower than we expect, our growth may slow or stall, and our operating results could be adversely affected. Our success depends on companies shifting to subscription business models and consumers choosing to consume products and services through such models. Many companies may be unwilling or unable to offer their solutions using a subscription business model, especially if they do not believe that the consumers of their products and services would be receptive to such offerings. Our success will also depend, to a large extent, on the willingness of large enterprises that have adopted subscription business models utilizing cloud-based products and services to manage billings and financial accounting relating to their subscriptions. Enterprises may choose not to shift to a subscription business model or, they may choose to shift more slowly than we expect. In addition, those enterprises that do shift to a subscription model may decide that they do not need a solution that offers the range of functionalities that we offer. Many companies have invested substantial effort and financial resources to develop custom-built applications or integrate traditional enterprise software into their businesses as they shift to subscription or subscription business models and may be reluctant or unwilling to switch to different applications. Factors that may affect market acceptance and sales of our products and services inclu • the number of companies shifting to subscription business models; • the number of consumers and businesses adopting new, flexible ways to consume products and services; • the security capabilities, reliability, and availability of cloud-based services; • customer concerns with entrusting a third party to store and manage their data, especially transaction-critical, confidential, or sensitive data; • our ability to minimize the time and resources required to deploy our solution; • our ability to achieve and maintain high levels of customer satisfaction; • our ability to deploy upgrades and other changes to our solution without disruption to our customers; • the level of customization or configuration we offer; • the overall level of corporate spending and spending on quote-to-cash and revenue recognition solutions by our customers and prospects, including the impact of spending due to the COVID-19 pandemic; • general economic conditions, both in domestic and foreign markets, including the impacts associated with the COVID-19 pandemic, inflation, recession, and the ongoing conflict in Ukraine; and • the price, performance, and availability of competing products and services. The markets for subscription products and services and for subscription management software may not develop further or may develop slower than we expect. If companies do not shift to subscription business models and subscription management software does not achieve widespread adoption, or if there is a reduction in demand for subscription products and services or subscription management software caused by technological challenges, weakening economic conditions, security or privacy concerns, decreases in corporate spending, a lack of customer acceptance, or otherwise, our business could be materially and adversely affected. In addition, our subscription agreements with our customers generally provide for a minimum subscription platform fee and usage-based fees, which depend on the total dollar amount that is invoiced or managed on our solution. Because a portion of our revenue depends on the volume of transactions that our customers process through our solution, if our customers do not adopt our solution throughout their business, if their businesses decline or fail, or if they are unable to successfully shift to subscription business models, including if they fail to successfully deploy our solution, our revenue could decline and our operation results could be adversely impacted. If currency exchange rates fluctuate substantially in the future, the results of our operations, which are reported in U.S. dollars, could be adversely affected. As we continue to expand our international operations, we become more exposed to the effects of fluctuations in currency exchange rates. Although we expect an increasing number of sales contracts to be denominated in currencies other than the U.S. dollar in the future, the majority of our sales contracts have historically been 48 denominated in U.S. dollars, and therefore, most of our revenue has not been subject to foreign currency risk. However, a strengthening of the U.S. dollar could increase the real cost of our solution to our customers outside of the United States, which could adversely affect our business, operating results, financial condition, and cash flows. In addition, we incur expenses for employee compensation and other operating expenses at our non-U.S. locations in the local currency. Fluctuations in the exchange rates between the U.S. dollar and other currencies could result in the dollar equivalent of such expenses being higher. Furthermore, volatile market conditions arising from impacts from the COVID-19 pandemic, the conflict in Ukraine and other macroeconomic conditions may result in significant fluctuations in exchange rates, and, in particular, a weakening of foreign currencies relative to the U.S. dollar may negatively affect our revenue. This could have a negative impact on our operating results. Although we may in the future decide to undertake foreign exchange hedging transactions to cover a portion of our foreign currency exchange exposure, we currently do not hedge our exposure to foreign currency exchange risks. Our business depends largely on our ability to attract and retain talented employees, including senior management, and maintain our corporate culture. If we lose the services of Tien Tzuo, our founder, Chairman, and Chief Executive Officer, or other critical talent across our executive team and in other key roles, or fail to maintain our "ZEO" culture, we may not be able to execute on our business strategy. Our future success depends on our continuing ability to attract, train, assimilate, and retain highly skilled personnel, including software engineers, sales personnel, and professional services personnel. We face intense competition for qualified individuals from numerous software and other technology companies. Like many companies, we experienced increased turnover during fiscal 2021 and fiscal 2022, and we may continue to experience heightened attrition, including those with significant institutional knowledge and expertise. We may not be able to retain our current key employees, or attract, train, assimilate, or retain other highly skilled personnel in the future, especially in light of the current tight labor market in the U.S. and other countries. For example, employees may seek new or different opportunities that offer greater compensation or benefits than we offer or are able to offer, making it difficult to retain them. In addition, we may incur significant costs to attract and retain highly skilled personnel, and we may lose new employees to our competitors or other technology companies before we realize the benefit of our investment in recruiting and training them. As we move into new countries, we will need to attract and recruit skilled personnel in those areas. If we are unable to attract and retain suitably qualified individuals who are capable of meeting our growing technical, operational, and managerial requirements, on a timely basis or at all, our business may be adversely affected. Further, as our organization grows and we are required to implement more complex organizational structures, we may find it increasingly difficult to maintain the beneficial aspects of our “ZEO” corporate culture, which is based on the idea that each employee is the CEO of their Zuora experience and career, and places a strong value on freedom, responsibility and accountability. Our ability to attract and retain talented employees could be negatively impacted if we are unable to maintain our corporate culture. Our future success also depends in large part on the continued services of senior management and other key personnel. In particular, we are highly dependent on the services of Tien Tzuo, our founder, Chairman and Chief Executive Officer, who is critical to the development of our technology, platform, future vision, and strategic direction. We rely on our leadership team in the areas of operations, security, marketing, sales, support, and general and administrative functions, and on individual contributors on our research and development team. Our senior management and other key personnel are all employed on an at-will basis, which means that they could terminate their employment with us at any time and for any reason, such as retirement or career change. We do not currently maintain key-person life insurance policies on any of our officers or employees. If we lose the services of senior management or other key personnel, or if we are unable to attract, train, assimilate, and retain the highly skilled personnel we need, our business, operating results, and financial condition could be adversely affected. Volatility or lack of appreciation in our stock price may also affect our ability to attract and retain our key employees. Many of our senior personnel and other key employees have become, or will soon become, vested in a substantial amount of stock or stock options. Employees may be more likely to leave us if the shares they own or the shares underlying their vested options have significantly appreciated in value relative to the original purchase price of the shares or the exercise price of the options, or conversely, if the exercise price of the options that they hold are significantly above the market price of our Class A common stock. If we are unable to retain our employees, or if we need to increase our compensation expenses, including equity compensation expenses, to retain our employees, our business, results of operations, financial condition, and cash flows could be adversely affected. 49 Our debt obligations could adversely affect our financial condition. On March 24, 2022 (Initial Closing Date) we issued $250.0 million aggregate principal amount of convertible senior unsecured notes due in 2029 to Silver Lake Alpine II, L.P. (Silver Lake) (2029 Notes). We also will issue to Silver Lake an additional $150.0 million in senior unsecured notes within 18 months of the Initial Closing Date. See Note 9. Debt to our unaudited condensed consolidated financial statements included in this Form 10-Q for more information about the 2029 Notes. Our debt obligations, in particular the 2029 Notes, could adversely impact us. For example, these obligations coul • require us to use a substantial portion of our cash flow from operations to pay principal and interest on debt, or to repurchase our 2029 Notes when required upon the occurrence of certain events or otherwise pursuant to the terms thereof, which will reduce the amount of cash flow available to fund working capital, capital expenditures, acquisitions, and other business activities; • require us to use cash and/or issue shares of our Class A common stock to settle any obligations; • result in certain of our debt instruments being accelerated or being deemed to be in default if certain terms of default are triggered, such as applicable cross payment default and/or cross-acceleration provisions; • adversely impact our credit rating, which could increase future borrowing costs; • limit our future ability to raise funds for capital expenditures, strategic acquisitions or business opportunities, and other general corporate requirements; • restrict our ability to create or incur liens and engage in other transactions and activity; • increase our vulnerability to adverse economic and industry conditions; • dilute our earnings per share as a result of the conversion provisions in the 2029 Notes; and • place us at a competitive disadvantage compared to our less leveraged competitors. Our ability to meet our payment obligations under our debt instruments depends on our ability to generate significant cash flows in the future. This, to some extent, is subject to market, economic, financial, competitive, legislative, and regulatory factors as well as other factors that are beyond our control. There can be no assurance that our business will generate cash flow from operations, or that additional capital will be available to us, in amounts sufficient to enable us to meet our debt payment obligations and to fund other liquidity needs. For example, we may utilize proceeds from the 2029 Notes for acquisitions or other investments that do not increase our enterprise value or we are otherwise unable to generate sufficient cash flows to repay our debt obligations. Additionally, events and circumstances may occur which would cause us to not be able to satisfy applicable draw-down conditions and utilize the revolving credit facility under our Debt Agreement described below in Note 9. Debt . If we are unable to generate sufficient cash flows to service our debt payment obligations, we may need to refinance or restructure our debt, sell assets, reduce or delay capital investments, or seek to raise additional capital. If we are unable to implement one or more of these alternatives on commercially reasonable terms or at all, we may be unable to meet our debt payment obligations, which would materially and adversely impact our business, financial condition and operating results. Our success depends in large part on a limited number of products. If these products fail to gain or lose market acceptance, our business will suffer. We derive substantially all of our revenue and cash flows from sales of subscriptions and associated deployment of our Zuora Central Platform , Zuora Billing, Zuora Revenue, and Zuora Collect products. As such, the continued growth in market demand for these products is critical to our success. Demand for our solution is affected by a number of factors, many of which are beyond our control, including macroeconomic factors, such as the impacts of the COVID-19 pandemic on our customers and prospects, the growth or contraction of the Subscription Economy, continued market acceptance of our solution by customers for existing and new use cases, the timing of development and release of new products and services, features, and functionality introduced by our competitors, changes in accounting standards, laws or regulations, policies, guidelines, interpretations, or principles that would impact the functionality and use of our solution, and technological change. We expect that an increasing transition to disaggregated solutions that focus on addressing specific customer use cases would continue to disrupt the enterprise software space, enabling new competitors to emerge. We cannot assure you that our solutions and future 50 enhancements to our solution will be able to address future advances in technology or the requirements of enterprise customers. If we are unable to meet customer demands in creating a flexible solution designed to address all these needs or otherwise achieve more widespread market acceptance of our solution, our business, operating results, financial condition, and growth prospects would be adversely affected. We may acquire or invest in additional companies, which may divert our management’s attention, result in additional dilution to our stockholders, and consume resources that are necessary to sustain our business. We may be unable to integrate acquired businesses and technologies successfully or to achieve the expected benefits of such acquisitions. Our business strategy includes acquiring other complementary products, technologies, or businesses. For example, in August 2022, we entered into an agreement to acquire Zephr. An acquisition, investment, or business relationship may result in unforeseen operating difficulties and expenditures. In particular, we may encounter difficulties assimilating or integrating the businesses, technologies, products, personnel, or operations of the acquired companies, particularly if the key personnel of the acquired companies choose not to work for us, if an acquired company’s software is not easily adapted to work with ours, or if we have difficulty retaining the customers of any acquired business due to changes in management or otherwise. Acquisitions may also disrupt our business, divert our resources, and require significant management attention that would otherwise be available for development of our business. Moreover, the anticipated benefits of any acquisition, investment, or business relationship may not be realized or we may be exposed to unknown liabilities. We may in the future acquire or invest in additional businesses, products, technologies, or other assets. We also may enter into relationships with other businesses to expand our products and services or our ability to provide our products and services in foreign jurisdictions, which could involve preferred or exclusive licenses, additional channels of distribution, discount pricing, or investments in other companies. Negotiating these transactions can be time consuming, difficult, and expensive, and our ability to close these transactions may often be subject to approvals that are beyond our control. Consequently, these transactions, even if undertaken and announced, may not close. For one or more of those transactions, we may: • issue additional equity securities that would dilute our stockholders; • use cash that we may need in the future to operate our business; • incur debt on terms unfavorable to us or that we are unable to repay; • incur large charges or substantial liabilities; • encounter difficulties retaining key employees of the acquired company or integrating diverse software codes or business cultures; and • become subject to adverse tax consequences, substantial depreciation, or deferred compensation charges. Any of these risks could adversely impact our business and operating results. The COVID-19 pandemic and its continuing impact on economic conditions could adversely affect our business, financial condition, results of operations, and cash flows. The COVID-19 pandemic has impacted worldwide economic activity and financial markets. In light of the uncertain and evolving situation relating to the spread of the disease and efficacy of vaccines, we have taken precautionary measures intended to minimize the risk of the virus to our employees, our customers and the communities in which we operate, which could negatively impact our business. Many of our employees continue to work remotely, we have reduced our office footprint in the San Francisco Bay Area, and have made available office space that we plan to sublease. Due to market conditions, we have experienced difficulties in subleasing such available office space and if we are unable to sublease the office space on acceptable terms in a reasonable timeframe, we would incur impairment charges in addition to those described in Note 12. Leases of the Annual Report on Form 10-K for the fiscal year ended January 31, 2022 filed with the SEC on March 28, 2022. 51 As pandemic conditions have improved and government regulations have generally eased in light of availability of vaccines and other health measures, business travel and in-person customer events have increased. In the future, we may deem it advisable to alter, postpone or cancel customer, employee or industry events in the future. We may adjust our policies and business practices in light of the evolving COVID-19 pandemic and related government restrictions and public health guidance, and any such restrictive measures could negatively impact our business. The ongoing effects of the COVID-19 pandemic and the precautionary measures that we have adopted have resulted in, and could continue to result in, customers not purchasing or renewing our products or services, a significant delay or lengthening of our sales cycles, a negative impact to our customer success and sales and marketing efforts, difficulties or changes to our customer support, or potential operational or other challenges, any of which could harm our business and operating results. Because we sell our solutions primarily on a subscription basis, the effect of the pandemic may not be fully reflected in our operating results until future periods. As a result of the COVID-19 pandemic, we have experienced, and may continue to experience in the future, a reduced ability or willingness by companies in certain customer segments and industries to purchase our solutions, delayed purchasing decisions or project implementation timing of prospective customers, reduced value or duration of subscription contracts, or a negative impact to attrition rates. Such impacts have resulted, and may continue to result, in requests from customers for payment or pricing concessions , such as in the form of extended payment terms or restructuring of contracts, impacts to our quarterly billings, and in customers limiting their spending, which, in certain cases, have resulted in customers not purchasing or renewing our products or services. Historically, a significant portion of our field sales and professional services have been conducted in person. As a result of the COVID-19 pandemic, most of our sales and professional services activities for the past two years were being conducted remotely. As the COVID-19 restrictions have lessened, we have begun conducting some of these activities again in person, but are not at the frequency that we were before the pandemic. If the impact of the COVID-19 pandemic deepens or extends into other customer segments, these conditions could further adversely affect the rate of billings and subscription management solutions spending of our customers, our sales cycles could be further extended or delayed, our ability to close transactions with new and existing customers and partners may be negatively impacted, our ability to recognize revenue from software transactions we do close may be negatively impacted due to implementation delays or other factors, our demand generation activities, and the efficiency and effectiveness of those activities, may be negatively affected, and our ability to provide 24x7 worldwide support to our customers may be negatively affected, any of which may make it difficult for us to forecast our sales and operating results and to make decisions about future investments. These and other potential effects on our business due to the COVID-19 pandemic may be significant and could materially harm our business operating results and financial condition. More generally, the COVID-19 pandemic has had, and could continue to have, an adverse effect on economies and financial markets globally, potentially leading to an economic downturn, which could decrease technology spending and adversely affect demand for our products and services. Although our financial results for the fiscal quarter ended July 31, 2022 have not been materially impacted by the COVID-19 pandemic, any prolonged economic downturn or recession as a result of the COVID-19 pandemic could materially harm the business and operating results of our company and our customers, resulting in potential business closures and layoffs of employees, which effects may continue even after the COVID-19 pandemic is contained. The occurrence of any such events may lead to a reduction in the capital and operating budgets we or our customers have available, which could harm our business, financial condition and operating results. To the extent the COVID-19 pandemic adversely affects our business and financial results, it may also have the effect of heightening certain of the other risks described in this “Risk Factors” section. It is not possible at this time to estimate the long-term impact that COVID-19 could have on our business, as the impact will depend on future developments, which are highly uncertain and cannot be predicted. We have a history of net losses, anticipate increasing our operating expenses in the future, and may not achieve or sustain profitability. We have incurred net losses in each fiscal year since inception, including net losses of $99.4 million, $73.2 million, and $83.4 million in fiscal 2022, 2021, and 2020, respectively. We expect to incur net losses for the foreseeable future. As of July 31, 2022, we had an accumulated deficit of $616.5 million. We expect to make significant future expenditures related to the development and expansion of our business, including increasing our overall customer base, expanding relationships with existing customers, entering new vertical markets, expanding our global footprint, expanding and leveraging our relationships with strategic partners including system integrators to accelerate our growth, optimizing pricing and packaging, and expanding our operations and infrastructure, both 52 domestically and internationally, and in connection with legal, accounting, and other administrative expenses related to operating as a public company. These efforts may prove more expensive than we currently anticipate, and we may not succeed in increasing our revenue sufficiently, or at all, to offset these increased expenses. Some or all of the foregoing initiatives have been and may continue to be temporarily delayed or re-evaluated as part of our efforts to mitigate the ongoing effects of the COVID-19 pandemic on our business, which may negatively affect our ability to expand our operations and maintain or increase our sales. While our revenue has grown in recent years, if our revenue declines or fails to grow at a rate faster than these increases in our operating expenses, we will not be able to achieve and maintain profitability in future periods. As a result, we may continue to generate losses. We cannot assure you that we will achieve profitability in the future or that, if we do become profitable, we will be able to sustain profitability. Our revenue growth and ability to achieve and sustain profitability will depend, in part, on being able to expand our direct sales force and increase the productivity of our sales force. To date, most of our revenue has been attributable to the efforts of our direct sales force. In order to increase our revenue and achieve and sustain profitability, we must increase the size of our direct sales force, both in the United States and internationally, to generate additional revenue from new and existing customers. In connection with the COVID-19 pandemic, the market for employees has become more competitive in some locations. While we have been able to attract new qualified sales personnel to meet our needs, depending on how the employment market develops, it may become more difficult to do so in the future. There is also significant competition for sales personnel with the skills and technical knowledge that we require. Because our solution is often sold to large enterprises and involves long sales cycles and complex customer requirements, it is more difficult to find sales personnel with the specific skills and technical knowledge needed to sell our solution and, even if we are able to hire qualified personnel, doing so may be expensive. Our ability to achieve significant revenue growth will depend, in large part, on our success in recruiting, training, and retaining sufficient numbers of direct sales personnel to support our growth. Due to the complexities of our customer needs, new sales personnel require significant training and can take a number of months to achieve full productivity. Our recent hires and planned hires may not become productive as quickly as we expect and if our new sales employees do not become fully productive on the timelines that we have projected or at all, our revenue will not increase at anticipated levels and our ability to achieve long-term projections may be negatively impacted. We may also be unable to hire or retain sufficient numbers of qualified individuals in the markets where we do business or plan to do business. Furthermore, hiring sales personnel in new countries requires additional set up and upfront costs that we may not recover if the sales personnel fail to achieve full productivity. In addition, as we continue to grow, a larger percentage of our sales force will be new to our company and our solution, which may adversely affect our sales if we cannot train our sales force quickly or effectively. Attrition rates may increase, and we may also face integration challenges as we continue to seek to expand our sales force. If we are unable to hire and train sufficient numbers of effective sales personnel, if attrition increases, or if the sales personnel are not successful in obtaining new customers or increasing sales to our existing customer base, our business will be adversely affected. We periodically change and make adjustments to our sales organization in response to market opportunities, competitive threats, management changes, product and service introductions or enhancements, acquisitions, sales performance, increases in sales headcount, cost levels, and other internal and external considerations, including potential changes and uncertainties associated with the COVID-19 pandemic. Any future changes in our sales organization may result in a temporary reduction of productivity, which could negatively affect our rate of growth. In addition, any significant change to the way we structure our compensation of our sales organization may be disruptive and may affect our revenue growth. The market in which we participate is competitive, and our operating results could be harmed if we do not compete effectively. The market for quote-to-cash and revenue recognition solutions, including our billing, collections and revenue recognition offerings, is highly competitive, rapidly evolving, and fragmented, and subject to changing technology, shifting customer needs, and frequent introductions of new products and services. Many of our current and potential competitors have longer operating histories, access to alternative fundraising sources, significantly greater financial, technical, marketing, distribution or professional services experience, or other resources or greater name recognition than we do. In addition, many of our current and potential competitors 53 supply a wide variety of products to, and have strong and well-established relationships with, current and potential customers. As a result, our current and potential competitors may be able to respond more quickly and effectively than we can to new or changing opportunities, technologies, standards, or customer requirements or devote greater resources than we can to the development, promotion, and sale of their products and services. In addition, some current and potential competitors may offer products or services that address one or a limited number of functions at lower prices or with greater depth than our solution, or integrate or bundle such products and services with their other product offerings. Potential customers may prefer to purchase from their existing suppliers rather than from a new supplier. Our current and potential competitors may develop and market new technologies with comparable functionality to our solution. In addition, because our products and services are integral to our customers’ ability to accurately maintain books and records and prepare financial statements, our potential customers may prefer to purchase applications that are critical to their business from one of our larger, more established competitors, or leverage the software that they have already purchased from our competitors for their billing and accounting needs, or control such infrastructure internally. We may experience fewer customer orders, reduced gross margins, longer sales cycles, and loss of market share. This could lead us to decrease prices, implement alternative pricing structures, or introduce products and services available for free or a nominal price in order to remain competitive. We may not be able to compete successfully against current and future competitors, and our business, operating results, and financial condition will be adversely impacted if we fail to meet these competitive pressures. Our ability to compete successfully in our market depends on a number of factors, both within and outside of our control. Some of these factors inclu ease of use; subscription-based product features and functionality; ability to support the specific needs of companies with subscription business models; ability to integrate with other technology infrastructures and third-party applications; enterprise-grade performance and features such as system scalability, security, performance, and resiliency; vision for the market and product innovation; relationships with strategic partners, including system integrators, management consulting firms, and resellers; total cost of ownership; strength of sales and marketing efforts; brand awareness and reputation; and customer experience, including support and professional services. Any failure by us to compete successfully in any one of these or other areas may reduce the demand for our solution, as well as adversely affect our business, operating results, and financial condition. Moreover, current and future competitors may also make strategic acquisitions or establish cooperative relationships among themselves or with others, including our current or future technology partners. By doing so, these competitors may increase their ability to meet the needs of our customers or potential customers. These developments could limit our ability to obtain revenue from existing and new customers. If we are unable to compete successfully against current and future competitors, our business, operating results, and financial condition could be adversely impacted. Our operating results may fluctuate from quarter to quarter, which makes our future results difficult to predict. Our quarterly operating results have fluctuated in the past and may fluctuate in the future. As a result, you should not rely upon our past quarterly operating results as indicators of future performance. We have encountered, and will continue to encounter, risks and uncertainties frequently experienced by growing companies in rapidly evolving markets, such as the risks and uncertainties described herein. Our operating results in any given quarter can be influenced by numerous factors, many of which are unpredictable or are outside of our control, includin • our ability to maintain and grow our customer base; • our ability to retain and increase revenue from existing customers; • our ability to introduce new products and services and enhance existing products and services; • our ability to integrate or implement our existing products and services on a timely basis or at all; • our ability to deploy our products successfully within our customers' information technology ecosystems; • our ability to enter into larger contracts; • increases or decreases in subscriptions to our platform; • our ability to sell to large enterprise customers; • the transaction volume that our customers processes through our system; 54 • our ability to respond to competitive developments, including competitors' pricing changes and their introduction of new products and services; • the impact of inflation, including wage inflation; • foreign exchange fluctuations; • changes in the pricing of our products; • the productivity of our sales force; • our ability to grow our relationships with strategic partners such as system integrators and their effectiveness in increasing our sales and implementing our products; • changes in the mix of products and services that our customers use; • the length and complexity of our sales cycles; • cost to develop and upgrade our solution to incorporate new technologies; • seasonal purchasing patterns of our customers; • the impact of outages of our solution and reputational harm; • costs related to the acquisition of businesses, talent, technologies, or intellectual property, including potentially significant amortization costs and possible write-downs; • failures or breaches of security or privacy, and the costs associated with responding to and addressing any such failures or breaches; • changes to financial accounting standards and the interpretation of those standards that may affect the way we recognize and report our financial results, including changes in accounting rules governing recognition of revenue; • the impact of changes to financial accounting standards; • general economic and political conditions and government regulations in the countries where we currently operate or plan to expand; • decisions by us to incur additional expenses, such as increases in sales and marketing or research and development; • the timing of stock-based compensation expense; • political unrest, changes and uncertainty associated with terrorism, hostilities, war, natural disasters or pandemics, including the COVID-19 pandemic and the ongoing conflict in Ukraine; and • potential costs to attract, onboard, retain, and motivate qualified personnel. The extent to which the global COVID-19 pandemic will continue to impact our business and financial results will depend on future developments, which are uncertain and cannot be fully predicted, including the duration of the pandemic, travel restrictions and social distancing in the United States and other countries, business closures or business disruptions and the effectiveness of actions taken by governments and private businesses to attempt to contain and treat the disease. Any prolonged shutdown of a significant portion of global economic activity or downturn in the global economy, along with any adverse effects on industries in which our customers operate, could materially and adversely impact our business, results of operations and financial condition. The impact of one or more of the foregoing and other factors may cause our operating results to vary significantly. As such, we believe that quarter-to-quarter comparisons of our operating results may not be meaningful and should not be relied upon as an indication of future performance. If we fail to meet or exceed the expectations of investors or securities analysts, then the trading price of our Class A common stock could fall substantially, and we could face costly lawsuits, including shareholder litigation. 55 If we are not able to develop and release new products and services, or successful enhancements, new features, and modifications to our existing products and services, or otherwise successfully implement our multi-product strategy, our business could be adversely affected. The market for our quote-to-cash and revenue recognition solutions, including our billing, collections and revenue recognition offerings, is characterized by rapid technological change, frequent new product and service introductions and enhancements, changing customer demands, and evolving industry standards. The introduction of products and services embodying new technologies can quickly make existing products and services obsolete and unmarketable. Additionally, because we provide billing and finance solutions to help our customers with compliance and financial reporting, changes in law, regulations, and accounting standards could impact the usefulness of our products and services and could necessitate changes or modifications to our products and services to accommodate such changes. Subscription management products and services, including our billing, collections and revenue recognition offerings, are inherently complex, and our ability to implement our multi-product strategy, including developing and releasing new products and services or enhancements, new features and modifications to our existing products and services depends on several factors, including timely completion, competitive pricing, adequate quality testing, integration with new and existing technologies and our solution, and overall market acceptance. We cannot be sure that we will succeed in developing, marketing, and delivering on a timely and cost-effective basis enhancements or improvements to our platform or any new products and services that respond to continued changes in subscription management practices or new customer requirements, nor can we be sure that any enhancements or improvements to our platform or any new products and services will achieve market acceptance. Since developing our solution is complex, the timetable for the release of new products and enhancements to existing products is difficult to predict, and we may not offer new products and updates as rapidly as our customers require or expect. Any new products or services that we develop may not be introduced in a timely or cost-effective manner, may contain errors or defects, or may not achieve the broad market acceptance necessary to generate sufficient revenue. The introduction of new products and enhancements could also increase costs associated with customer support and customer success as demand for these services increase. This increase in cost could negatively impact profit margins, including our gross margin. Moreover, even if we introduce new products and services, we may experience a decline in revenue of our existing products and services that is not offset by revenue from the new products or services. For example, customers may delay making purchases of new products and services to permit them to make a more thorough evaluation of these products and services or until industry and marketplace reviews become widely available. Some customers may hesitate to migrate to a new product or service due to concerns regarding the complexity of migration or performance of the new product or service. In addition, we may lose existing customers who choose a competitor’s products and services or choose to utilize internally developed applications instead of our products and services. This could result in a temporary or permanent revenue shortfall and adversely affect our business. In addition, because our products and services are designed to interoperate with a variety of other internal or third-party software products and business systems applications, we will need to continuously modify and enhance our products and services to keep pace with changes in application programming interfaces (APIs), and other software and database technologies. We may not be successful in either developing these new products and services, modifications, and enhancements or in bringing them to market in a timely fashion. There is no assurance that we will successfully resolve such issues in a timely and cost-effective manner. Furthermore, modifications to existing platforms or technologies, including any APIs with which we interoperate, will increase our research and development expenses. Any failure of our products and services to operate effectively with each other or with other platforms and technologies could reduce the demand for our products and services, result in customer dissatisfaction, and adversely affect our business. A customer’s failure to deploy our solution after it enters into a subscription agreement with us, or the incorrect or improper deployment or use of our solution could result in customer dissatisfaction and negatively affect our business, operating results, financial condition, and growth prospects. Our solution is deployed in a wide variety of technology environments and into a broad range of complex workflows. We believe our future success will depend in part on our ability to increase both the speed and success of our deployments, by improving our deployment methodology, hiring and training qualified professionals, deepening relationships with deployment partners, and increasing our ability to integrate into large-scale, complex technology environments. We often assist our customers in deploying our solution, either directly or through our deployment partners. In other cases, customers rely on third-party partners to complete the deployment. In some cases, customers initially engage us to deploy our solution, but, for a variety of reasons, including strategic decisions not to utilize subscription business models, fail to ultimately deploy our solution. If we or our third-party 56 partners are unable to deploy our solution successfully, or unable to do so in a timely manner and, as a result, customers do not utilize our solution, we would not be able to generate future revenue from such customers based on transaction or revenue volume and the upsell of additional products and services, and our future operating results could be adversely impacted. In addition, customers may also seek refunds of their initial subscription fee. Moreover, customer perceptions of our solution may be impaired, our reputation and brand may suffer, and customers may choose not to renew or expand their use of our solution. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, our sales cycle may become longer and more expensive, we may encounter still greater pricing pressure and deployment and customization challenges, and we may have to delay revenue recognition for more complicated transactions, all of which could adversely impact our business and operating results. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, we may face greater costs, longer sales cycles, and less predictability in the completion of some of our sales. In this market segment, the customer’s decision to use our solution may be an enterprise-wide decision, in which case these types of sales frequently require approvals by multiple departments and executive-level personnel and require us to provide greater levels of customer education regarding the uses and benefits of our solution, as well as education regarding security, privacy, and scalability of our solution, especially for those large “business to consumer” customers or those with extensive international operations. These large enterprise transactions might also be part of a customer’s broader business model or business systems transformation project, which are frequently subject to budget constraints, multiple approvals, and unplanned administrative, processing, security review, and other delays that could further lengthen the sales cycle. Larger enterprises typically have longer decision-making and deployment cycles, may have greater resources to develop and maintain customized tools and applications, demand more customization, require greater functionality and scalability, expect a broader range of services, demand that vendors take on a larger share of risks, demand increased levels of customer service and support, require acceptance provisions that can lead to a delay in revenue recognition, and expect greater payment flexibility from vendors. We are often required to spend time and resources to better familiarize potential customers with the value proposition of our solution. As a result of these factors, sales opportunities with large enterprises may require us to devote greater sales and administrative support and professional services resources to individual customers, which could increase our costs, lengthen our sales cycle, and divert our own sales and professional services resources to a smaller number of larger customers. We may spend substantial time, effort, and money in our sales, design and implementation efforts without being successful in producing any sales or deploying our products in such a way that is satisfactory to our customers. All these factors can add further risk to business conducted with these customers. In addition, if sales expected from a large customer for a particular quarter are not realized in that quarter or at all, our business, operating results, and financial condition could be materially and adversely affected. Furthermore, our sales and implementation cycles could be interrupted or affected by other factors outside of our control. For example, as a result of the COVID-19 pandemic, many large enterprises have generally reduced or delayed technology or other discretionary spending, which may materially and negatively impact our operating results, financial condition and prospects. Like many other companies, including our customers and prospects, our employees are working from home and while we limited all non-essential business travel during the pandemic, we are now allowing business travel more freely in places where such travel is permitted under local regulations. Restrictions on travel and in-person meetings could affect services delivery, delay implementations, and interrupt sales activity and we cannot predict whether, for how long, or the extent to which the COVID-19 pandemic may adversely affect our business, results of operations, and financial condition. Our long-term success depends, in part, on our ability to expand the sales of our solution to customers located outside of the United States. Our current international operations, and any further expansion of those operations, expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. We have been recognizing increased revenue from international sales, and we conduct our business activities in various foreign countries. We currently have operations in North America, Europe, Asia, and Australia. During the six months ended July 31, 2022, we derived approximately 35% of our total revenue from customers located outside the United States. Our ability to manage our business and conduct our operations internationally requires considerable management attention and resources and is subject to the particular challenges of supporting a rapidly growing business in an environment of multiple cultures, customs, legal systems, regulatory systems, and commercial infrastructures. International expansion requires us to invest significant funds and other resources. Our operations in international markets may not develop at a rate that supports our level of investment. Expanding 57 internationally may subject us to new risks that we have not faced before or increase risks that we currently face, including risks associated wit • recruiting and retaining talented and capable employees in foreign countries; • providing our solution to customers from different cultures, which may require us to adapt to sales practices, modify our solution, and provide features necessary to effectively serve the local market; • compliance with multiple, conflicting, ambiguous or evolving governmental laws and regulations and court decisions, including those relating to employment matters, e-invoicing, consumer protection, privacy, data protection, information security, data residency, and encryption; • longer sales cycles in some countries; • increased third-party costs relating to data centers outside of the United States; • generally longer payment cycles and greater difficulty in collecting accounts receivable; • credit risk and higher levels of payment fraud; • weaker privacy and intellectual property protection in some countries, including China and India; • compliance with anti-bribery laws, such as the U.S. Foreign Corrupt Practices Act of 1977, as amended (FCPA), and the UK Bribery Act 2010 (UK Bribery Act); • currency exchange rate fluctuations; • tariffs, export and import restrictions, restrictions on foreign investments, sanctions, and other trade barriers or protection measures; • foreign exchange controls that might prevent us from repatriating cash earned outside the United States; • economic instability and inflationary conditions; • political instability and unrest, including the effects of Brexit, the COVID-19 pandemic, and the ongoing conflict in Ukraine, especially as it impacts countries in Europe; • corporate espionage; • compliance with the laws of numerous taxing jurisdictions, both foreign and domestic, in which we conduct business, potential double taxation of our international earnings, and potentially adverse tax consequences due to changes in applicable U.S. and foreign tax laws; • continuing uncertainty regarding social, political, immigration, and tax and trade policies in the U.S. and abroad; • increased costs to establish and maintain effective controls at foreign locations; and • overall higher costs of doing business internationally. If we are unable to grow our sales channels and our relationships with strategic partners, such as system integrators, management consulting firms, and resellers, sales of our products and services may suffer and our growth could be slower than we project. In addition to our direct sales force, we use strategic partners, such as system integrators, management consulting firms, strategic technology partners and resellers, to market, sell, and implement our solution. Historically, we have used these strategic partners to a limited degree, but we are prioritizing efforts to make these partners an increasingly important aspect of our business particularly with regard to enterprise and international sales and larger implementations of our products where these partners may have more expertise and established business relationships than we do. We have been and expect to continue to transition a portion of our professional services implementations to these strategic partners, and as a result we expect our professional services revenue as an overall percentage of Zuora's total revenue to continue to decline over time. Our relationships with these strategic partners are still at an early stage of development, and we cannot assure you that these partners will be successful in marketing, selling or implementing our solution. Identifying these partners, negotiating and supporting relationships with them, including training them in how to sell or deploy our solution, and maintaining these relationships requires significant commitment of time and resources that may not yield a significant return on our investment in these relationships. Our future growth in revenue and ability to achieve and sustain profitability 58 depends in part on our ability to identify, establish, and retain successful strategic partner relationships in the United States and internationally, which will take significant time and resources and involve significant risk. If we are unable to establish and maintain our relationships with these partners, or otherwise develop and expand our indirect distribution channel, our business, operating results, financial condition, or cash flows could be adversely affected. We also cannot be certain that we will be able to maintain successful relationships with any strategic partners and, to the extent that our strategic partners are unsuccessful in marketing, selling, or implementing our solution, our business, operating results, and financial condition could be adversely affected. Our strategic partners may market to our customers the products and services of several different companies, including products and services that compete with our solution. Because our strategic partners do not have an exclusive relationship with us, we cannot be certain that they will prioritize or provide adequate resources to marketing our solution. Moreover, divergence in strategy by any of these partners may materially adversely affect our ability to develop, market, sell, or support our solution. We cannot assure you that our strategic partners will continue to cooperate with us. In addition, actions taken or omitted to be taken by such parties may adversely affect us. We are unable to control the quantity or quality of resources that our systems integrator partners commit to deploying our products and services, or the quality or timeliness of such deployment. If our partners do not commit sufficient or qualified resources to these activities, our customers will be less satisfied, be less supportive with references, or may require the investment of our resources at discounted rates. These, and other failures by our partners to successfully deploy our products and services, may have an adverse effect on our business and our operating results. Our growth forecasts we have provided publicly may prove to be inaccurate, and even if the markets in which we compete achieve the forecasted growth, we cannot assure that our business will grow at similar rates, if at all. Growth forecasts are subject to significant uncertainty and are based on assumptions and estimates that may not prove to be accurate. The forecasts we have provided publicly relating to the expected growth of the markets in which we compete may prove to be inaccurate. Even if these markets experience the growth we forecast, we may not grow our business at similar rates, or at all. Our growth is subject to many factors, including our success in executing our business strategy, which is subject to many risks and uncertainties. Accordingly, the forecasts of market growth we have provided publicly should not be taken as indicative of our future growth. If we fail to offer high-quality support and training to our customers and third-party partners, our business and reputation will suffer. Once our solution is deployed to our customers, our customers rely on support services from us and from our third-party partners to resolve any related issues. High-quality education, training and support for our customers and third-party partners is important for the successful marketing and sale of our products and for the renewal of existing customers. The importance of high-quality customer and third-party partner training and support will increase as we expand our business and pursue new enterprises. If we or our third-party partners do not help our customers quickly resolve post-deployment issues, including configuring and using features, and provide them with effective ongoing customer support, our ability to upsell additional products to existing customers could suffer and our reputation with existing or potential customers could be harmed. Future changes in market conditions or customer demand could require changes to our prices or pricing model, which could adversely affect our business, operating results, and financial condition. We generally charge our customers a flat fee for their use of our platform and a variable fee based on the amount of transaction volume they process through our system and the number of their subscribers. If our customers do not increase their transaction volume or the number of their subscribers, or an economic downturn reduces their transaction volume or the number of their subscribers, our revenue may be adversely impacted by customers reducing their contracted transaction volume. We have limited experience with respect to determining the optimal prices for our platform, and, as a result, we have in the past needed to and expect in the future to need to change our pricing model from time to time. As the market for our platform matures, or as new competitors introduce new products or services that compete with ours, we may be unable to attract new customers at the same price or based on the same pricing models as we have used historically. We may experience pressure to change our pricing model to defer fees until our customers have fully deployed our solution. Moreover, larger organizations, which comprise a large and growing component of our sales efforts, may demand substantial price concessions. As a result, in the future we may be required to reduce our prices or change our pricing model, which could adversely affect our revenue, gross margin, profitability, financial position, and cash flow. 59 If we fail to integrate our solution with a variety of operating systems, software applications, and hardware platforms that are developed by others, our solution may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Our solution must integrate with a variety of network, hardware, and software platforms, and we need to continuously modify and enhance our solution to adapt to changes in cloud-enabled hardware, software, networking, browser, and database technologies. We have developed our solution to be able to integrate with third-party SaaS applications, including the applications of software providers that compete with us, through the use of APIs. For example, Zuora CPQ integrates with certain capabilities of Salesforce using publicly available APIs. In general, we rely on the fact that the providers of such software systems, including Salesforce, continue to allow us access to their APIs to enable these integrations, and the terms with such companies may be subject to change from time to time. We also integrate certain aspects of our solution with other platform providers. Any change or deterioration in our relationship with any platform provider may adversely impact our business and operating results. Our business may be adversely impacted if any platform provide • discontinues or limits access to its APIs by us; • makes changes to its platform; • terminates or does not allow us to renew or replace our contractual relationship; • modifies its terms of service or other policies, including fees charged to, or other restrictions on, us or other application developers, or changes how customer information is accessed by us or our customers; • establishes more favorable relationships with one or more of our competitors, or acquires one or more of our competitors or is acquired by a competitor and offers competing services to us; or • otherwise develops its own competitive offerings. In addition, we have benefited from these platform providers’ brand recognition, reputations, and customer bases. Any losses or shifts in the market position of these platform providers in general, in relation to one another or to new competitors or new technologies could lead to losses in our relationships or customers, or to our need to identify or transition to alternative channels for marketing our solutions. Such changes could consume substantial resources and may not be effective. If we are unable to respond to changes in a cost-effective manner, our solution may become less marketable, less competitive, or obsolete and our operating results may be negatively impacted. If we fail to develop, maintain, and enhance our brand and reputation cost-effectively, our business and financial condition may be adversely affected. We believe that developing, maintaining, and enhancing awareness and integrity of our brand and reputation in a cost-effective manner are important to achieving widespread acceptance of our solution and are important elements in attracting new customers and maintaining existing customers. We believe that the importance of our brand and reputation will increase as competition in our market further intensifies. Successful promotion of our brand and the Subscription Economy concept will depend on the effectiveness of our marketing efforts, our ability to provide a reliable and useful solution at competitive prices, the perceived value of our solution, and our ability to provide quality customer support. In addition, the promotion of our brand requires us to make substantial expenditures, and we anticipate that the expenditures will increase as our market becomes more competitive, as we expand into new markets, and as more sales are generated through our strategic partners. Brand promotion activities may not yield increased revenue, and even if they do, the increased revenue may not offset the expenses we incur in building and maintaining our brand and reputation. We also rely on our customer base and community of end-users in a variety of ways, including to give us feedback on our solution and to provide user-based support to our other customers. If we fail to promote and maintain our brand successfully or to maintain loyalty among our customers, or if we incur substantial expenses in an unsuccessful attempt to promote and maintain our brand, we may fail to attract new customers and partners or retain our existing customers and partners and our business and financial condition may be adversely affected. Any negative publicity relating to our customers, employees, partners, or others associated with these parties, may also tarnish our own reputation simply by association and may reduce the value of our brand. Damage to our brand and reputation may result in reduced demand for our solution and increased risk of losing market share to our competitors. Any efforts to restore the value of our brand and rebuild our reputation may be costly and may not be successful. 60 We employ third-party licensed software for use in or with our software, and the inability to maintain these licenses or errors in the software we license could result in increased costs or reduced service levels, which could adversely affect our business. Our software incorporates certain third-party software obtained under licenses from other companies. We anticipate that we will continue to rely on such third-party software and development tools from third parties in the foreseeable future. Although we believe that there are commercially reasonable alternatives to the third-party software we currently license, including open source software, this may not always be the case, or it may be difficult or costly to migrate to other third-party software. Our use of additional or alternative third-party software would require us to enter into license agreements with third parties. In addition, integration of our software with new third-party software may require significant work and require substantial investment of our time and resources. Also, any undetected or uncorrected errors or defects in third-party software could prevent the deployment or impair the functionality of our software, present security risks, delay new updates or enhancements to our solution, result in a failure of our solution, and injure our reputation. Certain of our operating results and financial metrics may be difficult to predict as a result of seasonality. Although we have not historically experienced significant seasonality with respect to our subscription revenue throughout the year, we have seen seasonality in our sales cycle as a large percentage of our customers make their purchases in the third month of any given quarter. In addition, our fourth quarter has historically been our strongest quarter. We believe that this results in part from the procurement, budgeting, and deployment cycles of many of our customers. We generally expect a relative increase in sales in the second half of each year as budgets of our customers for annual capital purchases are being fully utilized. We may be affected by seasonal trends in the future, particularly as our business matures. Such seasonality may result from a number of factors, including a slowdown in our customers’ procurement process during certain times of the year, both domestically and internationally, and customers choosing to spend remaining budgets shortly before the end of their fiscal years. These effects may become more pronounced as we target larger organizations and their larger budgets for sales of our solution. Additionally, this seasonality may be reflected to a much lesser extent, and sometimes may not be immediately apparent, in our revenue, due to the fact that we recognize subscription revenue over the term of the applicable subscription agreement. In addition, our ability to record professional services revenue can potentially vary based on the number of billable days in the given quarter, which is impacted by holidays and vacations. To the extent we experience this seasonality, it may cause fluctuations in our operating results and financial metrics and make forecasting our future operating results and financial metrics more difficult. Our Debt Agreement provides our lender with a first-priority lien against substantially all of our non-intellectual property assets, and contains financial covenants and other restrictions on our actions, which could limit our operational flexibility and otherwise adversely affect our financial condition. Our Debt Agreement restricts our ability to, among other thi • use our accounts receivable, inventory, trademarks, and most of our other assets as security in other borrowings or transactions; • incur additional indebtedness; • sell certain assets; • declare dividends or make certain distributions; and • undergo a merger or consolidation or other transactions. Our Debt Agreement also prohibits us from exceeding certain adjusted quick ratios. Our ability to comply with these and other covenants is dependent upon a number of factors, some of which are beyond our control. Our failure to comply with the covenants or payment requirements, or the occurrence of other events specified in our Debt Agreement could result in an event of default under the Debt Agreement which would give our lender the right to terminate their commitments to provide additional loans under the Debt Agreement and to declare all borrowings outstanding, together with accrued and unpaid interest and fees, to be immediately due and payable. In addition, we have granted our lender first-priority liens against substantially all of our non-intellectual property assets as collateral, and have pledged not to encumber or otherwise grant any security interest in our intellectual property. 61 Failure to comply with the covenants or other restrictions in the Debt Agreement could result in a default. If the debt under our Debt Agreement was to be accelerated, we may not have sufficient cash on hand or be able to sell sufficient collateral to repay it, which would have an immediate adverse effect on our business and operating results. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy If our security measures are breached, if unauthorized access to customer data, our data, or our solution is otherwise obtained, or if our solution is perceived as not being secure, customers may reduce the use of or stop using our solution, we may have difficulty attracting customers, and we may incur significant liabilities. We have in the past experienced security incidents and breaches and may in the future experience additional security incidents or breaches. Security breaches and other security incidents could result in the loss of information, disruption of services, litigation, indemnity obligations, penalties, and other liability. If our security measures or those of our service providers are breached, or are perceived to have been breached, as a result of third-party action, including cyber-attacks or other intentional misconduct by computer hackers, employee error, malfeasance, or otherwise, and someone obtains unauthorized access to our data or other data we or our service providers maintain, including sensitive customer data, personal information, intellectual property, and other confidential business information, we could face loss of business, lawsuits or claims, regulatory investigations, or orders, and our reputation could be severely damaged. We, and our third-party partners, have security measures and disaster response plans in place to help protect our customers’ data, our own data and information, and our platform, networks, and other systems against unauthorized access or inadvertent exposure. However, we cannot assure that these security measures and disaster response plans will be effective against all security threats and natural disasters. System failures or outages, including any potential disruptions due to significantly increased global demand on certain cloud-based systems during the COVID-19 pandemic, could compromise our ability to perform our day-to-day operations in a timely manner, which could negatively impact our business or delay our financial reporting. Such failures could materially adversely affect our operating results and financial condition. With more companies and individuals working remotely, the attack surface available for exploitation and the risk of cybersecurity incidents has increased. For example, since the beginning of the COVID-19 pandemic and, also more recently following the Russian invasion of Ukraine, there has been an increase in phishing and spam emails as well as social engineering attempts from “hackers.” Although the security incidents and breaches that we have experienced to date have not had a material effect on our business, there is no assurance that our security systems or processes will prevent or mitigate more serious break-ins, tampering, security incidents or breaches or other cyber-attacks that could occur in the future. If we experience a security incident or breach, we could be required to expend significant capital and other resources to alleviate the problem, as well as incur significant costs and liabilities, including due to litigation, indemnity obligations, damages for contract breach, penalties for violation of applicable laws or regulations, and costs for remediation and incentives offered to affected parties, including customers, other business partners and employees, in an effort to maintain business relationships after a breach or other incident. Moreover, if our solution is perceived as not being secure, regardless of whether our security measures are actually breached, we could suffer harm to our reputation, and our operating results could be negatively impacted. We cannot assure you that any limitations of liability provisions in our contracts would be enforceable or adequate or would otherwise protect us from any liabilities or damages with respect to any particular claim relating to a security breach or other security-related matters. We also cannot be sure that our existing insurance coverage will continue to be available on acceptable terms or will be available in sufficient scope or amounts to cover one or more large claims related to a security incident or breach, or that the insurer will not deny coverage as to any future claim. The successful assertion of one or more large claims against us that exceed available insurance coverage, or the occurrence of changes in our insurance policies, including premium increases or the imposition of large deductible or co-insurance requirements, could have a material adverse effect on our business, including our financial condition, operating results, and reputation. Cyber-attacks and other malicious Internet-based activities continue to increase generally. Because the techniques used to obtain unauthorized access to or sabotage systems change frequently and generally are not identified until they are launched against a target, we and our service providers may be unable to anticipate these techniques or to implement adequate preventative measures. In addition, third parties may attempt to fraudulently 62 induce employees, contractors, or users to disclose information to gain access to our data or our customers’ data. We could suffer significant damage to our brand and reputation if a cyber-attack or other security incident were to allow unauthorized access to or modification of our customers’ data, other external data, or our own data or our IT systems or if the services we provide to our customers were disrupted, or if our solution is perceived as having security vulnerabilities. Customers could lose confidence in the security and reliability of our solution and perceive them to be not secure. This could lead to fewer customers using our products and services and result in reduced revenue and earnings. The costs we would incur to address and respond to these security incidents, and to prevent them thereafter, would increase our expenses. These types of security incidents could also lead to lawsuits, regulatory investigations and claims, and increased legal liability, including in some cases costs related to notification of the incident and fraud monitoring. In addition, while a majority of our employees are based in the United States, like many similarly situated technology companies, we have a sizable number of research and development and other personnel located outside the United States, including in China, which has exposed and could continue to expose us to governmental and regulatory, as well as market and media scrutiny, regarding the actual or perceived integrity of our platform or data security and privacy features. Any actual or perceived security compromise could reduce customer confidence in the effectiveness of our security measures, negatively affect our ability to attract new customers, and cause existing customers to reduce the use or stop using our solution, any of which could harm our business and reputation. Privacy and security concerns, laws, and regulations, may reduce the effectiveness of our solution and adversely affect our business. Our customers can use our solution to collect, use, and store personal information regarding their customers or other end users. Governments and agencies worldwide have adopted or may adopt laws and regulations regarding the collection, use, storage, data residency, security, disclosure, transfer across borders and other processing of information obtained from individuals within jurisdictions. These laws and regulations increase the costs and burdens of compliance, including the ability to transfer information from, or a requirement to store in, particular jurisdictions and coul • impact our ability to offer our products and services in certain jurisdictions, • decrease demand for or require us to modify or restrict our product or services, or • impact our customers’ ability and willingness to use, adopt and deploy our solution globally. Compliance or our inability to comply with such laws, regulations, and other obligations, could lead to reduced overall demand and impair our ability to maintain and grow our customer base and increase our revenue. We may be unable to make changes that we consider necessary or appropriate to address changes in laws, regulations, or other obligations in a commercially reasonable manner, in a timely fashion, or at all. Additionally, laws and regulations relating to the processing of information can vary significantly based on the jurisdiction. Some regions and countries have or are enacting strict laws and regulations, including the European Union (EU), China (PIPL), Australia, and India, as well as states within the United States, such as California. The General Data Protection Regulation (GDPR) became effective in May 2018. The GDPR established new requirements for processing personal data and imposes penalties of up to the greater of €20 million or 4% of worldwide revenue. On June 4, 2021, the European Commission issued replacement standard contractual clauses (2021 SCCs) to govern the transfer of personal data to a country that has not been deemed adequate, such as the United States. The 2021 SCCs impose additional requirements and, potentially increased liability for data processors such as us. Since the 2021 SCCs replace the prior version, we will need to enter into 2021 SCCs with our customers and vendors before the December 27, 2022 deadline to meet GDPR requirements. The pending EU ePrivacy Regulation is expected to establish additional restrictions and penalties. In January 2020, the California Consumer Privacy Act (CCPA) which provides new data privacy rights for consumers, including a private right of action for security breaches, new penalties for violations, and new operational requirements for companies, went into effect. The California Privacy Rights Act (CPRA) will replace the CCPA and becomes effective on January 2, 2023. The CCPA gives, and the CPRA will give, California residents expanded rights to access and require deletion of their personal data, opt out of certain personal data sharing, and receive detailed information about how their personal data is collected, used and shared. The CCPA provides for civil penalties for violations, as well as a private right of action for security breaches that may increase security breach litigation. The CCPA and CPRA may increase our compliance costs and potential liability, particularly in the event of a data breach, and could have a material 63 adverse effect on our business, including how we use personal data, our financial condition, our operating results or prospects. The CCPA has also prompted a number of proposals for new federal and state privacy legislation that, if passed, could increase our potential liability, increase our compliance costs and adversely affect our business. Changing definitions of personal data and information may also limit or inhibit our ability to operate or expand our business, including limiting strategic partnerships that may involve the sharing of data. Also, some jurisdictions require that certain types of data be retained on servers within these jurisdictions. Our failure to comply with applicable laws and regulations may result in enforcement action or litigation against us, including fines, and damage to our reputation, any of which may have an adverse effect on our business and operating results. We also are bound by standards, contracts and other obligations relating to processing personal information that are more stringent than applicable laws and regulations. The costs of compliance with, and other burdens imposed by, these laws, regulations, and other obligations are significant. In addition, some companies, particularly larger or global enterprises, often will not contract with vendors that do not meet these rigorous obligations and often seek contract terms to ensure we are financially liable for any breach of these obligations. Accordingly, our or as well as our vendors' failure, or perceived inability, to comply with these obligations may limit the demand, use and adoption of our solution, lead to regulatory investigations, breach of contract claims, litigation, damage our reputation and brand and lead to significant fines, penalties, or liabilities or slow the pace at which we close sales transactions, any of which could harm our business. Future laws, regulations, standards, and other obligations, actions by governments or other agencies, and changes in the interpretation or inconsistent interpretation of existing laws, regulations, standards, and other obligations could result in increased regulation, increased costs of compliance and penalties for non-compliance, costly changes to Zuora's products or their functionality, and limitations on processing personal information. Privacy advocacy groups, the technology industry, and other industries have established or may establish various new, additional, or different self-regulatory standards that may place additional burdens on us. Our customers may require us or we may find it advisable to meet voluntary certifications or adhere to other standards established by them or third parties. Our customers may also expect us to take proactive stances or contractually require us to take certain actions should a request for personal information belonging to customers be received from a government or regulatory agency. If we are unable to maintain such certifications, comply with such standards, or meet such customer requests, it could reduce demand for our solution and adversely affect our business. Failure to protect our intellectual property could adversely affect our business. Our success depends in large part on our proprietary technology. We rely on various intellectual property (IP) rights, including patents, copyrights, trademarks, and trade secrets, as well as confidentiality provisions and contractual arrangements, to protect our proprietary rights. If we do not protect and enforce our intellectual property rights successfully, our competitive position may suffer, which could adversely impact our operating results. Our pending patent or trademark applications may not be allowed, or competitors may challenge the validity, enforceability or scope of our patents, copyrights, trademarks or the trade secret status of our proprietary information. There can be no assurance that additional patents will be issued or that any patents that are issued will provide significant protection for our intellectual property. There is also no assurance that we will be able to register trademarks that are critical to our business. In addition, our patents, copyrights, trademarks, trade secrets, and other intellectual property rights may not provide us a significant competitive advantage. There is no assurance that the particular forms of intellectual property protection that we seek, including business decisions about when to file patents and when to maintain trade secrets, will be adequate to protect our business. Moreover U.S. patent law, developing jurisprudence regarding U.S. patent law, and possible future changes to U.S. or foreign patent laws and regulations may affect our ability to protect and enforce our intellectual property rights. In addition, the laws of some countries do not provide the same level of protection of our intellectual property as do the laws of the United States. As we expand our international activities, our exposure to unauthorized copying and use of our solution and proprietary information will likely increase. Despite our precautions, our intellectual property is vulnerable to unauthorized access through employee error or actions, theft, and cybersecurity incidents, and other security breaches. It may be possible for third parties to infringe upon or misappropriate our intellectual property, to copy our solution, and to use information that we regard as proprietary to create products and services that compete with ours. Effective intellectual property protection may not be available to us in every country in which our solution is available. For example, some foreign countries have compulsory licensing laws under which a patent owner must grant licenses to third parties. In addition, many countries limit the enforceability of patents against certain third parties, including government agencies or government contractors. In these countries, patents may 64 provide limited or no benefit. We may need to expend additional resources to defend our intellectual property rights domestically or internationally, which could impair our business or adversely affect our domestic or international expansion. Moreover, we may not pursue or file patent applications or apply for registration of copyrights or trademarks in the United States and foreign jurisdictions in which we operate with respect to our potentially patentable inventions, works of authorship, marks and logos for a variety of reasons, including the cost of procuring such rights and the uncertainty involved in obtaining adequate protection from such applications and registrations. If we cannot adequately protect and defend our intellectual property, we may not remain competitive, and our business, operating results, and financial condition may be adversely affected. We enter into confidentiality and invention assignment agreements with our employees and consultants and enter into confidentiality agreements with other parties. We cannot assure you that these agreements will be effective in controlling access to, use of, and distribution of our proprietary information or in effectively securing exclusive ownership of intellectual property developed by our current or former employees and consultants. Further, these agreements may not prevent other parties from independently developing technologies that are substantially equivalent or superior to our solution. We may need to spend significant resources securing and monitoring our intellectual property rights, and we may or may not be able to detect infringement by third parties. Our competitive position may be harmed if we cannot detect infringement and enforce our intellectual property rights quickly or at all. In some circumstances, we may choose to not pursue enforcement because an infringer has a dominant intellectual property position or for other business reasons. In addition, competitors might avoid infringement by designing around our intellectual property rights or by developing non-infringing competing technologies. Litigation may be necessary in the future to enforce our intellectual property rights and to protect our trade secrets. Litigation brought to protect and enforce our intellectual property rights could be costly, time-consuming, and distracting to management, and could result in the impairment or loss of portions of our intellectual property. Further, our efforts to enforce our intellectual property rights may be met with defenses, counterclaims attacking the scope, validity, and enforceability of our intellectual property rights, or with counterclaims and countersuits asserting infringement by our products and services of third-party intellectual property rights. Our failure to secure, protect, and enforce our intellectual property rights could seriously adversely affect our brand and our business. Additionally, the United States Patent and Trademark Office and various foreign governmental patent agencies require compliance with a number of procedural, documentary, fee payment, and other similar provisions in order to complete the patent or trademark application process and to maintain issued patents or trademarks. There are situations in which noncompliance or non-payment can result in abandonment or lapse of the patent or trademark or associated application, resulting in partial or complete loss of patent or trademark rights in the relevant jurisdiction. If this occurs, it could have a material adverse effect on our business operations and financial condition. Errors, defects, or disruptions in our solution could diminish demand, harm our financial results, and subject us to liability. Our customers use our products for important aspects of their businesses, and any errors, defects, or disruptions to our solution, or other performance problems with our solution could harm our brand and reputation and may damage our customers’ businesses. We are also reliant on third-party software and infrastructure, including the infrastructure of the Internet, to provide our products and services. Any failure of or disruption to this software and infrastructure could also make our solution unavailable to our customers. Our solution is constantly changing with new software releases, which may contain undetected errors when first introduced or released. Any errors, defects, disruptions in service, or other performance problems with our solution could result in negative publicity, loss of or delay in market acceptance of our products, loss of competitive position, delay of payment to us, lower renewal rates, or claims by customers for losses sustained by them. In such an event, we may be required, or may choose, for customer relations or other reasons, to expend additional resources in order to help correct the problem. Accordingly, any errors, defects, or disruptions to our solution could adversely impact our brand and reputation, revenue, and operating results. In addition, because our products and services are designed to interoperate with a variety of internal and third-party systems and infrastructures, we need to continuously modify and enhance our products and services to keep pace with changes in software technologies. We may not be successful in either developing these modifications and enhancements or resolving interoperability issues in a timely and cost-effective manner. Any failure of our products and services to continue to operate effectively with internal or third-party infrastructures and technologies could 65 reduce the demand for our products and services, resulting in dissatisfaction of our customers, and may materially and adversely affect our business. Any disruption of service at our cloud providers, including Amazon Web Services and Microsoft's Azure cloud service, could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. We currently host our solution, serve our customers, and support our operations using Amazon Web Services (AWS), a provider of cloud infrastructure services, and have begun enabling new features and capabilities for our solution using Microsoft's Azure cloud service. We also leverage AWS in various geographic regions for our disaster recovery plans. We do not have control over the operations of the facilities of AWS or Azure. These facilities are vulnerable to damage or interruption from earthquakes, hurricanes, floods, fires, cyber security attacks, terrorist attacks, power losses, telecommunications failures, and similar events. The occurrence of a natural disaster or an act of terrorism, a decision to close the facilities without adequate notice, or other unanticipated problems could result in lengthy interruptions in our solution. In addition, the COVID-19 pandemic could potentially disrupt the supply chain of hardware needed to maintain these third-party systems or to run our business. The facilities also could be subject to break-ins, computer viruses, sabotage, intentional acts of vandalism, and other misconduct. Our solution’s continuing and uninterrupted performance is critical to our success. Because our products and services are used by our customers for billing and financial accounting purposes, it is critical that our solution be accessible without interruption or degradation of performance, and we typically provide our customers with service level commitments with respect to service uptime. Customers may become dissatisfied by any system failure that interrupts our ability to provide our solution to them. Outages could lead to the triggering of our service level agreements and the issuance of credits to our customers, in which case, we may not be fully indemnified for such losses by AWS or Azure. We may not be able to easily switch our public cloud providers, including AWS and Azure, to another cloud provider if there are disruptions or interference with our use of either facility. Sustained or repeated system failures would reduce the attractiveness of our solution to customers and result in contract terminations, thereby reducing revenue. Moreover, negative publicity arising from these types of disruptions could damage our reputation and may adversely impact use of our solution. We may not carry sufficient business interruption insurance to compensate us for losses that may occur as a result of any events that cause interruptions in our service. While our agreement with AWS expires in September 2024, AWS and our other cloud providers do not have an obligation to renew their agreements with us on commercially reasonable terms, or at all. If we are unable to renew our agreements with these providers on commercially reasonable terms, if our agreements with our providers are prematurely terminated, or if in the future we add additional public cloud providers, we may experience additional costs or service downtime in connection with the transfer to, or the addition of, new public cloud providers. If these providers were to increase the cost of their services, we may have to increase the price of our solution, and our operating results may be adversely impacted. We are vulnerable to intellectual property infringement claims brought against us by others. There has been considerable activity in our industry to develop and enforce intellectual property rights. Successful intellectual property infringement claims against us or certain third parties, such as our customers, resellers, or strategic partners, could result in monetary liability or a material disruption in the conduct of our business. We cannot be certain that our products and services, content, and brand names do not or will not infringe valid patents, trademarks, copyrights, or other intellectual property rights held by third parties. We may be subject to legal proceedings and claims from time to time relating to the intellectual property of others in the ordinary course of our business. Any intellectual property litigation to which we might become a party, or for which we are required to provide indemnification, may require us to cease selling or using solutions that incorporate the intellectual property that we allegedly infringe, make substantial payments for legal fees, settlement payments, or other costs or damages, obtain a license, which may not be available on reasonable terms or at all, to sell or use the relevant technology, or redesign the allegedly infringing solutions to avoid infringement, which could be costly, time-consuming, or impossible. Any claims or litigation, regardless of merit, could cause us to incur significant expenses and, if successfully asserted against us, could require that we pay substantial damages or ongoing royalty payments, prevent us from offering our products and services, or require that we comply with other unfavorable terms. We do not have a significant patent portfolio, which could prevent us from deterring patent infringement claims through our own patent portfolio, and our competitors and others may now and in the future have significantly larger and more mature patent portfolios than we have. We may also be obligated to indemnify our customers or 66 strategic partners in connection with such infringement claims, or to obtain licenses from third parties or modify our solution, and each such obligation could further exhaust our resources. Some of our intellectual property infringement indemnification obligations are contractually capped at a very high amount or not capped at all. Even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the time and attention of our management and other employees, and adversely affect our business and operating results. We expect that the occurrence of infringement claims is likely to grow as the market for subscription management products and services grows. Accordingly, our exposure to damages resulting from infringement claims could increase and this could further exhaust our financial and management resources. Our solution contains open source software components, and failure to comply with the terms of the underlying licenses could restrict our ability to sell our solution. Our solution incorporates certain open source software. An open source license typically permits the use, modification, and distribution of software in source code form subject to certain conditions. Some open source licenses contain conditions that any person who distributes or uses a modification or derivative work of software that was subject to an open source license make the modified version subject to the same open source license. Distributing or using software that is subject to this kind of open source license can lead to a requirement that certain aspects of our solution be distributed or made available in source code form. Although we do not believe that we have used open source software in a manner that might condition its use on our distribution of any portion of our solution in source code form, the interpretation of open source licenses is legally complex and, despite our efforts, it is possible that we may be liable for copyright infringement, breach of contract, or other claims if our use of open source software is adjudged to not comply with the applicable open source licenses. Moreover, we cannot assure you that our processes for controlling our use of open source software in our solution will be effective. If we have not complied with the terms of an applicable open source software license, we may need to seek licenses from third parties to continue offering our solution on terms that are not economically feasible, to re-engineer our solution to remove or replace the open source software, to discontinue the sale of our solution if re-engineering could not be accomplished on a timely basis, to pay monetary damages, or to make available the source code for aspects of our proprietary technology, any of which could adversely affect our business, operating results, and financial condition. In addition to risks related to license requirements, use of open source software can involve greater risks than those associated with use of third-party commercial software, as open source licensors generally do not provide warranties, assurances of title, performance, non-infringement, or controls on the origin of the software. There is typically no support available for open source software, and we cannot assure you that the authors of such open source software will not abandon further development and maintenance. Open source software may contain security vulnerabilities, and we may be subject to additional security risk by using open source software. Many of the risks associated with the use of open source software, such as the lack of warranties or assurances of title or performance, cannot be eliminated, and could, if not properly addressed, negatively affect our business. We have established processes to help alleviate these risks, including a review process for screening requests from our development organizations for the use of open source software, but we cannot be sure that all open source software is identified or submitted for approval prior to use in our solution. Risks Related to Legal, Regulatory, Accounting, and Tax Matters If we are not able to satisfy data protection, security, privacy, and other government- and industry-specific requirements, our growth could be harmed. We are subject to data protection, security, privacy, and other government- and industry-specific requirements, including those that require us to notify individuals of data security and privacy incidents involving certain types of personal data. Security and privacy compromises experienced by us or our service providers may lead to public disclosures, which could harm our reputation, erode customer confidence in the effectiveness of our security and privacy measures, negatively impact our ability to attract new customers, cause existing customers to elect not to renew their subscriptions with us, or negatively impact our employee relationships or impair our ability to attract new employees. In addition, some of the industries we serve have industry-specific requirements relating to compliance with certain security, privacy and regulatory standards, such as those required by the Health Insurance Portability and Accountability Act. We also maintain compliance with the Payment Card Industry Data Security Standard, which 67 is critical to the financial services and insurance industries. As we expand and sell into new verticals and regions, we will likely need to comply with these and other requirements to compete effectively. If we cannot comply or if we incur a violation in one or more of these requirements, our growth could be adversely impacted, and we could incur significant liability. Because we typically recognize subscription revenue over the term of the applicable agreement, a lack of subscription renewals or new subscription agreements may not be reflected immediately in our operating results and may be difficult to discern. We generally recognize subscription revenue from customers ratably over the terms of their contracts, which typically vary between one and three years. As a result, most of the subscription revenue we report in each quarter is derived from the recognition of unearned revenue relating to subscriptions entered into during previous quarters. Consequently, a decline in new or renewed subscriptions in any particular quarter would likely have a minor impact on our revenue results for that quarter, but could negatively affect our revenue in future quarters. Accordingly, the effect of significant downturns in sales and market acceptance of our solution, and potential changes in our pricing policies or rate of renewals, may not be fully reflected in our operating results until future periods. Moreover, our subscription model makes it difficult for us to rapidly increase our revenue through additional sales in any period, as revenue from new customers must be recognized over the applicable subscription term. We typically provide service level commitments under our customer contracts. If we fail to meet these contractual commitments, we could be obligated to provide credits or refunds for prepaid amounts related to unused subscription services or face contract terminations, which could adversely affect our operating results. Our customer contracts typically provide for service level commitments, which relate to service uptime, response times, and escalation procedures. If we are unable to meet the stated service level commitments or suffer extended periods of unavailability for our solution, we may be contractually obligated to provide these customers with service credits, refunds for prepaid amounts related to unused subscription services, or other remedies, or we could face contract terminations. In addition, we could face legal claims for breach of contract, product liability, tort, or breach of warranty. Although we have contractual protections, such as warranty disclaimers and limitation of liability provisions, in our customer agreements, they may not fully or effectively protect us from claims by customers, commercial relationships, or other third parties. We may not be fully indemnified by our vendors for service interruptions beyond our control, and any insurance coverage we may have may not adequately cover all claims asserted against us, or cover only a portion of such claims. In addition, even claims that ultimately are unsuccessful could result in our expenditure of funds in litigation and divert management’s time and other resources. Thus, our revenue could be harmed if we fail to meet our service level commitments under our agreements with our customers, including, but not limited to, maintenance response times and service outages. Typically, we have not been required to provide customers with service credits that have been material to our operating results, but we cannot assure you that we will not incur material costs associated with providing service credits to our customers in the future. Additionally, any failure to meet our service level commitments could adversely impact our reputation, business, operating results, and financial condition. Our customers may fail to pay us in accordance with the terms of their agreements, necessitating action by us to compel payment. We typically enter into non-cancelable agreements with our customers with a term of one to three years. If customers fail to pay us under the terms of our agreements, we may be adversely affected both from the inability to collect amounts due and the cost of enforcing the terms of our contracts, including litigation. The risk of such negative effects increases with the term length of our customer arrangements. Furthermore, some of our customers may seek bankruptcy protection or other similar relief and fail to pay amounts due to us, or pay those amounts more slowly, either of which could adversely affect our operating results, financial position, and cash flow. Although we have processes in place that are designed to monitor and mitigate these risks, we cannot guarantee these programs will be effective. If we are unable to adequately control these risks, our business, operating results and financial condition could be harmed. 68 Adverse litigation judgments or settlements resulting from legal proceedings in which we may be involved could expose us to monetary damages or limit our ability to operate our business. We are currently involved in shareholder litigation and have in the past and may in the future become involved in other class actions, derivative actions, private actions, collective actions, investigations, and various other legal proceedings by stockholders, customers, employees, suppliers, competitors, government agencies, or others. The results of any such litigation, investigations, and other legal proceedings are inherently unpredictable and expensive. Any claims against us, whether meritorious or not, could be time consuming, result in costly litigation, damage our reputation, require significant amounts of management time, and divert significant resources. If any of these legal proceedings were to be determined adversely to us, or we were to enter into a settlement arrangement, we could be exposed to monetary damages or limits on our ability to operate our business, which could have an adverse effect on our business, financial condition, and operating results. Our ability to use our net operating losses to offset future taxable income may be subject to certain limitations which could subject our business to increased tax liability. Our ability to use our net operating losses (NOLs) to offset future taxable income may be subject to certain limitations which could subject our business to higher tax liability. Utilization of the net operating loss may be subject to an annual limitation due to the "ownership change" limitations provided by Section 382 and 383 of the Internal Revenue Code of 1986, as amended, and other similar state provisions. Additionally, NOLs arising in tax years beginning after December 31, 2017 are subject to a 20-year carryover limitation and may expire if unused within that period. There is also a risk that due to legislative changes, such as suspensions on the use of NOLs, or other unforeseen reasons, our existing NOLs could expire or otherwise be unavailable to offset future income tax liabilities. In addition, under the Tax Cuts and Jobs Act of 2017, as modified by the Coronavirus Aid, Relief, and Economic Security Act, the amount of NOLs that we are permitted to deduct in any taxable year is limited to 80% of our taxable income in such year, where taxable income is determined without regard to the NOL deduction itself. As such, we may not be able to realize a tax benefit from the use of our NOLs, whether or not we attain profitability. We may need to raise additional capital required to grow our business, and we may not be able to raise capital on terms acceptable to us or at all. In order to support our growth and respond to business challenges, such as developing new features or enhancements to our solution to stay competitive, acquiring new technologies, and improving our infrastructure, we have made significant financial investments in our business, and we intend to continue to make such investments. As a result, to provide the funds required for these investments and other business endeavors, we may need to engage in equity or debt financings. For example, in March 2022, we issued to Silver Lake the Initial Notes and have agreed to issue to Silver Lake up to an additional $150.0 million in senior unsecured notes. See Note 9. Debt to our unaudited condensed consolidated financial statements included in this Form 10-Q for more information about the 2029 Notes. If we raise additional funds through equity or convertible debt issuances, our existing stockholders may suffer significant dilution, and these securities could have rights, preferences, and privileges that are superior to that of holders of our common stock. If we obtain additional funds through debt financing, we may not be able to obtain such financing on terms favorable to us. Such terms may involve additional restrictive covenants making it difficult to engage in capital raising activities and pursue business opportunities, including potential acquisitions. Future volatility in the trading price of our common stock may reduce our ability to access capital on favorable terms or at all. In addition, a recession, depression or other sustained adverse market event resulting from the spread of COVID-19 could materially and adversely affect our business and the value of our common stock. If we are unable to obtain adequate financing or financing on terms satisfactory to us when we require it, our ability to continue to support our business growth and to respond to business challenges could be significantly impaired and our business may be adversely affected, requiring us to delay, reduce, or eliminate some or all of our operations. Failure to comply with anti-corruption and anti-money laundering laws, including the FCPA and similar laws associated with our activities outside of the United States, could subject us to penalties and other adverse consequences. We are subject to the FCPA, the U.S. domestic bribery statute contained in 18 U.S.C. § 201, the U.S. Travel Act, the USA PATRIOT Act, the UK Bribery Act, and possibly other anti-bribery and anti-money laundering laws in countries in which we conduct activities. We face significant risks if we fail to comply with the FCPA and other anti-corruption laws that prohibit companies and their employees and third-party intermediaries from promising, 69 authorizing, offering, or providing, directly or indirectly, improper payments or benefits to foreign government officials, political parties, and private-sector recipients for the purpose of obtaining or retaining business, directing business to any person, or securing any advantage. In many foreign countries, particularly in countries with developing economies, it may be a local custom that businesses engage in practices that are prohibited by the FCPA or other applicable laws and regulations. In addition, we use various third parties to sell our solution and conduct our business abroad. We or our third-party intermediaries may have direct or indirect interactions with officials and employees of government agencies or state-owned or affiliated entities and we can be held liable for the corrupt or other illegal activities of these third-party intermediaries, our employees, representatives, contractors, partners, and agents, even if we do not explicitly authorize such activities. We have implemented an anti-corruption compliance program but cannot assure you that all of our employees and agents, as well as those companies to which we outsource certain of our business operations, will not take actions in violation of our policies and applicable law, for which we may be ultimately held responsible. Any violation of the FCPA, other applicable anti-corruption laws, and anti-money laundering laws could result in whistleblower complaints, adverse media coverage, investigations, loss of export privileges, or severe criminal or civil sanctions, which could have a materially adverse effect on our reputation, business, operating results, and prospects. In addition, responding to any enforcement action may result in a significant diversion of management’s attention and resources, significant defense costs, and other professional fees. We are required to comply with governmental export control laws and regulations. Our failure to comply with these laws and regulations could have an adverse effect on our business and operating results. Our solution is subject to governmental, including United States and European Union, export control laws and import regulations, and as a U.S. company we are covered by the U.S. sanctions regulations. U.S. export control and economic sanctions laws and regulations prohibit the shipment of certain products and services to U.S. embargoed or sanctioned countries, governments, entities and persons, and complying with export control and sanctions regulations for a particular sale may be time-consuming and may result in the delay or loss of sales opportunities. While we take precautions to prevent our solution from being exported in violation of these laws or engaging in any other activities that are subject to these regulations, if we were to fail to comply with U.S. export laws, U.S. Customs regulations and import regulations, U.S. economic sanctions, and other countries’ import and export laws, we could be subject to substantial civil and criminal penalties, including fines for our company, incarceration for responsible employees and managers; the possible loss of export or import privileges which could impact our ability to provide our solution to customers; and reputational harm. We incorporate encryption technology into certain of our products and certain encryption products may be exported outside of the United States only by a license or a license exception. In addition, various countries regulate the import of certain encryption technology, including import permitting and licensing requirements, and have enacted laws that could limit our ability to distribute our products or could limit our customers’ ability to deploy our products in those countries. Although we take precautions to prevent our products from being provided in violation of such laws, we cannot assure you that inadvertent violations of such laws have not occurred or will not occur in connection with the distribution of our products despite the precautions we take. Governmental regulation of encryption technology and regulation of imports or exports, or our failure to obtain required import or export approval for our products, could harm our international sales and adversely affect our operating results. Further, if our partners, including suppliers, fail to obtain required import, export, or re-export licenses or permits, we may also be harmed, become the subject of government investigations or penalties, and incur reputational harm. Changes in our solution or changes in export and import regulations may create delays in the introduction of our solution in international markets, prevent our customers with international operations from deploying our solution globally or, in some cases, prevent the export or import of our solution to certain countries, governments, or persons altogether. Any change in export or import laws or regulations, economic sanctions, or related legislation, shift in the enforcement or scope of existing laws and regulations, or change in the countries, governments, persons, or technologies targeted by such laws and regulations, could result in decreased use of our solution by, or in our decreased ability to export or sell our solution to, existing or potential customers such as customers with international operations or customers who are added to the restricted entities list published by the U.S. Office of Foreign Assets Control (OFAC). Any decreased use of our solution or limitation on our ability to export or sell our solution would likely harm our business, financial condition, and operating results. 70 The applicability of sales, use and other tax laws or regulations in the U.S. and internationally on our business is uncertain. Adverse tax laws or regulations could be enacted or existing laws could be applied to us or our customers, which could subject us to additional tax liability and related interest and penalties, increase the costs of our services and adversely impact our business. The application of federal, state, local, and non-U.S. tax laws to services provided electronically is evolving. New income, sales, use, value-added, or other direct or indirect tax laws, statutes, rules, regulations, or ordinances could be enacted at any time (possibly with retroactive effect), and could be applied solely or disproportionately to services provided over the Internet or could otherwise materially affect our financial position and results of operations. Many countries in the European Union, as well as a number of other countries and organizations such as the Organization for Economic Cooperation and Development, have proposed or recommended changes to existing tax laws or have enacted new laws that could impact our tax obligations. As we expand the scale of our international business activities, any changes in the U.S. or foreign taxation of such activities may increase our worldwide effective tax rate and harm our business, results of operations, and financial condition. In addition, state, local, and foreign tax jurisdictions have differing rules and regulations governing sales, use, value-added, and other taxes, and these rules and regulations can be complex and are subject to varying interpretations that may change over time. Existing tax laws, statutes, rules, regulations, or ordinances could be interpreted, changed, modified, or applied adversely to us (possibly with retroactive effect), which could require us or our customers to pay additional tax amounts on prior sales and going forward, as well as require us or our customers to pay fines or penalties and interest for past amounts. Although our customer contracts typically provide that our customers must pay all applicable sales and similar taxes, our customers may be reluctant to pay back taxes and associated interest or penalties, or we may determine that it would not be commercially feasible to seek reimbursement. If we are required to collect and pay back taxes and associated interest and penalties, or we are unsuccessful in collecting such amounts from our customers, we could incur potentially substantial unplanned expenses, thereby adversely impacting our operating results and cash flows. Imposition of such taxes on our services going forward could also adversely affect our sales activity and have a negative impact on our operating results and cash flows. Our reported financial results may be adversely affected by changes in accounting principles generally accepted in the United States. Generally Accepted Accounting Principles (GAAP) is subject to interpretation by the Financial Accounting Standards Board (FASB), the SEC, and various bodies formed to promulgate and interpret appropriate accounting principles. A change in these principles or interpretations could have a significant effect on our reported financial results, and could affect the reporting of transactions completed before the announcement of a change. Any difficulties in implementing these pronouncements, including those described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements of our Notes to Consolidated Financial Statements included in our Annual Report on Form 10-K, could cause us to fail to meet our financial reporting obligations, which could result in regulatory discipline and harm investors' confidence in us. Risks Related to Ownership of Our Class A Common Stock The stock price of our Class A common stock has been and may continue to be volatile, and you could lose all or part of your investment. The market price of our Class A common stock since our initial public offering in 2018 has been and may continue to be volatile. In addition to factors discussed in this Form 10-Q, the market price of our Class A common stock may fluctuate significantly in response to numerous factors, many of which are beyond our control, includin • overall performance of the equity markets; • actual or anticipated fluctuations in our revenue and other operating results; • changes in the financial projections we may provide to the public or our failure to meet these projections; • failure of securities analysts to initiate or maintain coverage of us, changes in financial estimates by any securities analysts who follow our company, or our failure to meet these estimates or the expectations of investors; 71 • recruitment or departure of key personnel; • the economy as a whole and market conditions in our industry; • negative publicity related to the real or perceived quality of our solution, as well as the failure to timely launch new products and services that gain market acceptance; • growth of the Subscription Economy; • rumors and market speculation involving us or other companies in our industry; • announcements by us or our competitors of new products, commercial relationships, or significant technical innovations; • acquisitions, strategic partnerships, joint ventures, or capital commitments; • new laws or regulations or new interpretations of existing laws or regulations applicable to our business; • lawsuits threatened or filed against us, litigation involving our industry, or both; • developments or disputes concerning our or other parties’ products, services, or intellectual property rights; • the inclusion of our Class A common stock on stock market indexes, including the impact of rules adopted by certain index providers, such as S&P Dow Jones Indices and FTSE Russell, that limit or preclude inclusion of companies with multi-class capital structures; • changes in accounting standards, policies, guidelines, interpretations, or principles; • the impact of the COVID-19 pandemic, including on the global economy, our operating results and enterprise technology spending; • other events or factors, including those resulting from pandemics, war, incidents of terrorism, or responses to these events, including the ongoing conflict in Ukraine; • sales of shares of our Class A common stock by us or our stockholders; • inflation; and • fluctuations in interest rates. In addition, the stock markets have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many companies, particularly during the current period of macroeconomic uncertainty, including rising inflation, increasing interest rates and fluctuations in international currency rates, as well as the impacts of the current conflict in Ukraine and the COVID-19 pandemic. Stock prices of many companies, and technology companies in particular, have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. These economic, political, regulatory and market conditions have and may continue to negatively impact the market price of our common stock. In the past, companies that have experienced volatility in the market price of their securities have been subject to shareholder litigation. We are currently subject to shareholder litigation, which is described in Note 13. Commitments and Contingencies in the notes to our unaudited condensed consolidated financial statements. This or any future shareholder litigation could subject us to substantial costs, divert resources and the attention of management from our business, and adversely affect our business. The market price of our Class A common stock could decline as a result of a substantial number of shares of our Class A common stock being issued or sold, which may make it more difficult for you to sell your Class A common stock at a time and price that you deem appropriate. As of July 31, 2022, a total of 123.8 million shares of Class A common stock and 8.1 million shares of Class B common stock were outstanding. Issuances of a substantial number of shares of our Class A common stock, including as a result of the exercise or conversion into Class A common stock of outstanding convertible notes, warrants, equity awards, shares of Class B common stock or other securities, could result in significant dilution to our existing stockholders and cause the market price of our Class A common stock to decline. From time to time, we may issue shares of common stock or securities convertible into shares of common stock in connection with a financing, an acquisition, investments, or otherwise. For example, as described in Note 9. Debt, on March 24, 2022 (Initial Closing Date), we issued to Silver Lake convertible notes in the aggregate principal amount of $250.0 million as well as warrants to purchase up to 7.5 million shares of Class A common stock, and we have agreed to issue 72 additional convertible notes in the aggregate principal amount of $150.0 million to Silver Lake 18 months after the Initial Closing Date (or sooner under certain conditions). In addition, under certain circumstances, the number of shares issuable upon conversion of the convertible notes or exercise of the Warrants may be subject to increase, as described in Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock . The conversion of these convertible notes or exercise of these Warrants could result in a substantial number of shares of our Class A common stock being issued. Silver Lake is generally restricted from converting the convertible notes or exercising the Warrants, or transferring them, during the 18 month period following the Initial Closing Date, except in certain circumstances. In addition, we grant equity awards to employees, directors, and consultants under our 2018 Equity Incentive Plan on an ongoing basis and our employees have the right to purchase shares of our Class A common stock semi-annually under our 2018 Employee Stock Purchase Plan. As of July 31, 2022, there were a total of 25.6 million shares of Class A common stock subject to outstanding options and restricted stock units (RSUs), including performance stock units (PSUs). Subject to vesting and other applicable requirements, the shares issued upon the exercise of such options or settlement of such RSUs will be available for resale in the open market. Moreover, the market price of our Class A common stock could decline as a result of sales of a large number of shares of our Class A common stock in the market, particularly sales by our directors, executive officers and significant stockholders. The perception that these sales might occur may also cause the market price of our Class A common stock to decline. We also have granted and may grant from time to time certain registration rights that, subject to certain conditions, require us to file registration statements for the public resale of certain securities or to include such securities in registration statements that we may file on behalf of our company or other stockholders. If securities or industry analysts do not publish research, or publish inaccurate or unfavorable research, about our business, the price of our Class A common stock and trading volume could decline. The trading market for our Class A common stock depends in part on the research and reports that securities or industry analysts publish about us or our business. If few securities analysts commence coverage of us, or if industry analysts cease coverage of us, the trading price for our Class A common stock could be negatively affected. If one or more of the analysts who cover us downgrade our Class A common stock or publish inaccurate or unfavorable research about our business, the price of our Class A common stock would likely decline. If one or more of these analysts cease coverage of us or fail to publish reports on us regularly, demand for our Class A common stock could decrease, which might cause our Class A common stock price and trading volume to decline. Even if our stock is actively covered by analysts, we do not have any control over the analysts or the measures that analysts or investors may rely upon to forecast our future results. For example, in order to assess our business activity in a given period, analysts and investors may look at the combination of revenue and changes in deferred revenue in a given period (sometimes referred to as “billings”). Over-reliance on billings or similar measures may result in analyst or investor forecasts that differ significantly from our own for a variety of reasons, includin • a relatively large number of transactions occur at the end of the quarter. Invoicing of those transactions may or may not occur before the end of the quarter based on a number of factors including receipt of information from the customer, volume of transactions, and holidays. A shift of a few days has little economic impact on our business, but will shift deferred revenue from one period into the next; • a shift in billing frequency (i.e. from monthly to quarterly or from quarterly to annually), which may distort trends; • subscriptions that have deferred start dates; and • services that are invoiced upon delivery. In addition, the revenue recognition disclosure obligations under Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers (Topic 606) are prepared on the basis of estimates that can change over time and on the basis of events over which we have no control. It is possible that analysts and investors may misinterpret our disclosure or that our methods for estimating this disclosure may differ significantly from others, which could lead to inaccurate or unfavorable forecasts by analysts and investors. 73 The dual class structure of our common stock has the effect of concentrating voting control with holders of our Class B common stock, including our directors, executive officers, and significant stockholders, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. Our Class B common stock has ten votes per share, and our Class A common stock has one vote per share. As of July 31, 2022, our directors and executive officers, and their affiliates, held substantially all of our Class B common stock and a substantial portion of the combined voting power of our common stock. As a result, we expect our directors and officers would control all matters submitted to our stockholders for approval until the earlier of (i) the date specified by a vote of the holders of 66 2/3% of the outstanding shares of Class B common stock, (ii) April 16, 2028, and (iii) the date the shares of Class B common stock cease to represent at least 5% of all outstanding shares of our common stock. This concentrated control limits or precludes your ability to influence corporate matters for the foreseeable future, including the election of directors, amendments of our organizational documents, and any merger, consolidation, sale of all or substantially all of our assets, or other major corporate transaction requiring stockholder approval. In addition, this may prevent or discourage unsolicited acquisition proposals or offers for our capital stock that you may feel are in your best interest as one of our stockholders. Future transfers by holders of Class B common stock will generally result in those shares converting to Class A common stock, subject to limited exceptions, such as certain permitted transfers effected for estate planning purposes. The conversion of Class B common stock to Class A common stock will have the effect, over time, of increasing the relative voting power of those holders of Class B common stock who retain their shares in the long term. The dual class structure of our common stock may adversely affect the trading market for our Class A common stock. Stock index providers, such as S&P Dow Jones and FTSE Russell, exclude or limit the eligibility of public companies with multiple classes of shares of common stock for certain indices, including the S&P 500. In addition, several shareholder advisory firms have announced their opposition to the use of multiple class structures. As a result, the dual class structure of our common stock may prevent the inclusion of our Class A common stock in such indices and may cause shareholder advisory firms to publish negative commentary about our corporate governance practices or otherwise seek to cause us to change our capital structure. Any such exclusion from indices could result in a less active trading market for our Class A common stock. Any actions or publications by shareholder advisory firms critical of our corporate governance practices or capital structure could also adversely affect the value of our Class A common stock. We do not intend to pay dividends for the foreseeable future. We have never declared or paid any cash dividends on our common stock and do not intend to pay any cash dividends in the foreseeable future. Additionally, our ability to pay dividends on our common stock is limited by restrictions under the terms of our Debt Agreement. We anticipate that for the foreseeable future we will retain all of our future earnings for use in the development of our business and for general corporate purposes. Any determination to pay dividends in the future will be at the discretion of our Board of Directors. Accordingly, investors must rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize any future gains on their investments. Provisions in our charter documents and under Delaware law could make an acquisition of our company more difficult, limit attempts by our stockholders to replace or remove our current management, limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees, and limit the market price of our Class A common stock. Provisions in our restated certificate of incorporation and amended and restated bylaws may have the effect of delaying or preventing a change of control or changes in our management. Our restated certificate of incorporation and amended and restated bylaws include provisions tha • provide that our Board of Directors will be classified into three classes of directors with staggered three-year terms; 74 • permit the Board of Directors to establish the number of directors and fill any vacancies and newly-created directorships; • require supermajority voting to amend some provisions in our restated certificate of incorporation and amended and restated bylaws; • authorize the issuance of “blank check” preferred stock that our Board of Directors could use to implement a stockholder rights plan; • provide that only the chairman of our Board of Directors, our chief executive officer, lead independent director, or a majority of our Board of Directors will be authorized to call a special meeting of stockholders; • provide for a dual class common stock structure in which holders of our Class B common stock may have the ability to control the outcome of matters requiring stockholder approval, even if they own significantly less than a majority of the outstanding shares of our common stock, including the election of directors and significant corporate transactions, such as a merger or other sale of our company or its assets; • prohibit stockholder action by written consent, which requires all stockholder actions to be taken at a meeting of our stockholders; • provide that the Board of Directors is expressly authorized to make, alter, or repeal our bylaws; and • establish advance notice requirements for nominations for election to our Board of Directors or for proposing matters that can be acted upon by stockholders at annual stockholder meetings. In addition, our restated certificate of incorporation provides that, to the fullest extent permitted by law, the Court of Chancery of the State of Delaware is the exclusive forum any derivative action or proceeding brought on our behalf; any action asserting a breach of fiduciary duty; any action asserting a claim against us arising pursuant to the Delaware General Corporation Law, or DGCL, our restated certificate of incorporation, or our amended and restated bylaws; or any action asserting a claim against us that is governed by the internal affairs doctrine. This exclusive forum provision does not apply to suits brought to enforce a duty or liability created by the Exchange Act. It would apply, however, to a suit that falls within one or more of the categories enumerated in the exclusive forum provision. Section 22 of the Securities Act of 1933, as amended (Securities Act), creates concurrent jurisdiction for federal and state courts over all claims brought to enforce any duty or liability created by the Securities Act or the rules and regulations thereunder. In April 2020, we amended and restated our bylaws to provide that the federal district courts of the United States of America will, to the fullest extent permitted by law, be the exclusive forum for resolving any complaint asserting a cause of action arising under the Securities Act (Federal Forum Provision). Our decision to adopt a Federal Forum Provision followed a decision by the Supreme Court of the State of Delaware holding that such provisions are facially valid under Delaware law. While there can be no assurance that federal or state courts will follow the holding of the Delaware Supreme Court or determine that the Federal Forum Provision should be enforced in a particular case, application of the Federal Forum Provision means that suits brought by our stockholders to enforce any duty or liability created by the Securities Act must be brought in federal court and cannot be brought in state court. Section 27 of the Exchange Act creates exclusive federal jurisdiction over all claims brought to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder. In addition, neither the exclusive forum provision nor the Federal Forum Provision applies to suits brought to enforce any duty or liability created by the Exchange Act. Accordingly, actions by our stockholders to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder must be brought in federal court. Our stockholders will not be deemed to have waived our compliance with the federal securities laws and the regulations promulgated thereunder. Any person or entity purchasing or otherwise acquiring or holding any interest in any of our securities shall be deemed to have notice of and consented to our exclusive forum provisions, including the Federal Forum Provision. These provisions may limit a stockholders’ ability to bring a claim in a judicial forum of their choosing for disputes with us or our directors, officers, or other employees, which may discourage lawsuits against us and our directors, officers, and other employees. 75 Moreover, Section 203 of the DGCL may discourage, delay, or prevent a change of control of our company. Section 203 imposes certain restrictions on mergers, business combinations, and other transactions between us and holders of 15% or more of our common stock. General Risk Factors Political developments, economic uncertainty or downturns could adversely affect our business and operating results. Political developments impacting government spending and international trade, including future government shutdowns in the United States, health pandemics such as the COVID-19 pandemic, armed conflict such as the conflict in Ukraine, and trade disputes and tariffs, may negatively impact markets and cause weaker macroeconomic conditions. The continuing effect of any or all of these political uncertainties could adversely impact demand for our products, harm our operations and weaken our financial results. In addition, in recent years, the United States and other significant markets have experienced cyclical downturns and worldwide economic conditions remain uncertain. Economic uncertainty and associated macroeconomic conditions, such as a recession or rising inflation rates or economic slowdown in the United States or internationally, including due to pandemics such as the COVID-19 pandemic or the ongoing conflict in Ukraine, make it extremely difficult for our customers and us to accurately forecast and plan future business activities, and could cause our customers to slow spending on our solution, which could delay and lengthen sales cycles. Furthermore, during uncertain economic times our customers may face issues gaining timely access to sufficient credit, which could result in an impairment of their ability to make timely payments to us. If that were to occur, we may be required to increase our allowance for credit losses and our results could be negatively impacted. We have customers in a variety of different industries. A significant downturn in the economic activity attributable to any particular industry may cause organizations to react by reducing their capital and operating expenditures in general or by specifically reducing their spending on information technology. In addition, our customers may delay or cancel information technology projects or seek to lower their costs by renegotiating vendor contracts. To the extent purchases of our solution are perceived by customers and potential customers to be discretionary, our revenue may be disproportionately affected by delays or reductions in general information technology spending. Also, customers may choose to develop in-house software or modify their legacy business software as an alternative to using our solution. Moreover, competitors may respond to challenging market conditions by lowering prices and attempting to lure away our customers. We cannot predict the timing, strength, or duration of any economic slowdown or any subsequent recovery generally, or any industry in particular. If the conditions in the general economy and the markets in which we operate worsen from present levels, our business, financial condition, and operating results could be materially adversely affected. The requirements of being a public company may strain our resources, divert management’s attention, and affect our ability to attract and retain additional executive management and qualified board members. As a public company, we are subject to the reporting requirements of the Exchange Act, the Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley Act), the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the listing requirements of the New York Stock Exchange, and other applicable securities rules and regulations. Compliance with these rules and regulations have increased our legal and financial compliance costs, making some activities more difficult, time-consuming, or costly, and increasing demand on our systems and resources. Although we have already hired additional employees and outside consultants to comply with these requirements, we may need to add additional resources, which would increase our costs and expenses. In addition, changing laws, regulations, and standards relating to corporate governance and public disclosure are creating uncertainty for public companies, increasing legal and financial compliance costs, and making some activities more time consuming. These laws, regulations, and standards are subject to varying interpretations, in many cases due to their lack of specificity, and, as a result, their application in practice may evolve over time as market practice develops or new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. If our efforts to comply with new laws, regulations, and standards differ from 76 the activities intended by regulatory or governing bodies due to ambiguities related to their application and practice, regulatory authorities may initiate legal proceedings against us, and our business may be adversely affected. The rules and regulations applicable to public companies make it more expensive for us to obtain and maintain director and officer liability insurance, and we may be required to accept reduced coverage or incur substantially higher costs to obtain coverage. These factors could also make it more difficult for us to attract and retain qualified members of our Board of Directors, particularly to serve on our audit committee and compensation committee, and qualified executive officers. As a result of disclosure of information in our public company filings, our business and financial condition is more visible, which may result in threatened or actual litigation, including by competitors and other third parties. If such claims are successful, our business and operating results could be adversely affected, and even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the resources of our management and adversely affect our business and operating results. In addition, as a result of our disclosure obligations as a public company, we have reduced flexibility and are under pressure to focus on short-term results, which may adversely affect our ability to achieve long-term profitability. If we fail to maintain an effective system of disclosure controls and internal control over financial reporting, our ability to produce timely and accurate financial statements or comply with applicable regulations could be impaired. As a public company, we are required, pursuant to Section 404 of the Sarbanes-Oxley Act, to furnish a report by management on, among other things, the effectiveness of our internal control over financial reporting. Effective internal control over financial reporting is necessary for us to provide reliable financial reports and, together with adequate disclosure controls and procedures, are designed to prevent fraud. Any failure to implement required new or improved controls, or difficulties encountered in their implementation, could cause us to fail to meet our reporting obligations. Ineffective internal controls could also cause investors to lose confidence in our reported financial information, which could have a negative effect on the trading price of our Class A common stock. This management report will need to include disclosure of any material weaknesses identified by our management in our internal control over financial reporting, as well as a statement that our independent registered public accounting firm has issued an opinion on our internal control over financial reporting. Section 404(b) of the Sarbanes-Oxley Act requires our independent registered public accounting firm to annually attest to the effectiveness of our internal control over financial reporting, which has required, and will continue to require, increased costs, expenses, and management resources. An independent assessment of the effectiveness of our internal controls could detect problems that our management’s assessment might not. Undetected material weaknesses in our internal controls could lead to financial statement restatements and require us to incur the expense of remediation. We are required to disclose changes made in our internal controls and procedures on a quarterly basis. To comply with the requirements of being a public company, we have undertaken, and may need to further undertake in the future, various actions, such as implementing new internal controls and procedures and hiring additional accounting or internal audit staff. If we are unable to assert that our internal control over financial reporting is effective, or if our independent registered public accounting firm is unable to express an opinion on the effectiveness of our internal control, including as a result of any identified material weakness, we could lose investor confidence in the accuracy and completeness of our financial reports, which would cause the price of our Class A common stock to decline, and we may be subject to investigation or sanctions by the SEC. In addition, if we are unable to continue to meet these requirements, we may not be able to remain listed on the New York Stock Exchange. We may be adversely affected by natural disasters, pandemics, and other catastrophic events, and by man-made problems such as terrorism, that could disrupt our business operations. Our business continuity and disaster recovery plans may not adequately protect us from a serious disaster. Natural disasters, pandemics and epidemics, or other catastrophic events such as fire, power shortages, and other events beyond our control may cause damage or disruption to our operations, international commerce, and the global economy, and could have an adverse effect on our business, operating results, and financial condition. For example, the ongoing effects of the COVID-19 pandemic and the precautionary measures that we have adopted 77 have resulted in, and could continue to result in, customers not purchasing or renewing our products or services, a significant delay or lengthening of our sales cycles, and could negatively impact our customer success and sales and marketing efforts and could result in difficulties or changes to our customer support, or create operational or other challenges, any of which could harm our business and operating results. In the event of a natural disaster, including a major earthquake, blizzard, wildfire, or hurricane, or a catastrophic event such as a fire, power loss, or telecommunications failure, we may be unable to continue our operations and may endure system interruptions, reputational harm, delays in development of our solution, lengthy interruptions in service, breaches of data security, and loss of critical data, all of which could have an adverse effect on our future operating results. For example, our corporate headquarters is located in California, a state that frequently experiences earthquakes and wildfires. Additionally, all of the aforementioned risks may be further increased if we do not implement a disaster recovery plan or the disaster recovery plans put in place by Zuora or our partners prove to be inadequate. Investors’ expectations of our performance relating to environmental, social, and governance factors may expose us to new risks and require us to incur additional costs . Corporate responsibility, including environmental, social and governance (ESG) factors, is increasingly becoming a focus from certain investors, employees, and other stakeholders. Some investors may use these factors to guide their investment strategies and, in some cases, may choose not to invest in us if they believe our corporate responsibility policies are inadequate. Third-party providers of corporate responsibility ratings and reports on companies have increased to meet growing investor demand for measurement of corporate responsibility performance. The criteria by which companies’ corporate responsibility practices are assessed may require significant expenditures. In May 2022, we announced our commitment to remain carbon neutral going forward, including by purchasing carbon offsets in future years, which may become increasingly more expensive. In addition, the corporate responsibility criteria could change, which could result in greater expectations of us and cause us to undertake more costly initiatives to satisfy such new criteria. If we elect not to or are unable to satisfy such new criteria, investors may conclude that our policies with respect to corporate responsibility are inadequate. We may face reputational damage in the event that our corporate responsibility procedures or standards do not meet the standards set by various constituencies. Furthermore, if our competitors’ corporate responsibility performance is perceived to be greater than ours, potential or current investors may elect to invest with our competitors instead. In addition, in the event that we communicate certain initiatives and goals regarding ESG matters, we could fail, or be perceived to fail, in our achievement of such initiatives or goals, or we could be criticized for the scope of such initiatives or goals. If we fail to satisfy the expectations of investors, employees, and other stakeholders, or, if our initiatives are not executed as planned, our reputation and business, operating results, and financial condition could be adversely impacted. Item 2. Unregistered Sales of Equity Securities and Use of Proceeds Not Applicable. 78 Item 6. Exhibits. Exhibit Number Incorporated By Reference Filed or Furnished Herewith Exhibit Description Form File No. Exhibit Filing Date 31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Exchange Act X 31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Exchange Act X 32.1* Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 X 32.2* Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 X 101.INS Inline XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document X 101.SCH Inline XBRL Taxonomy Extension Schema Document X 101.CAL Inline XBRL Taxonomy Extension Calculation Linkbase Document X 101.DEF Inline XBRL Taxonomy Extension Definition Linkbase Document X 101.LAB Inline XBRL Taxonomy Extension Label Linkbase Document X 101.PRE Inline XBRL Taxonomy Extension Presentation Linkbase Document X 104 Cover Page Interactive Data File (embedded within the Inline XBRL document and included in Exhibit 101). X * The certifications furnished in Exhibits 32.1 and 32.2 hereto are deemed to accompany this Form 10-Q and are not deemed “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, nor shall they be deemed incorporated by reference into any filing under the Securities Act or the Exchange Act. 79 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZUORA, INC. Date: August 31, 2022 By: /s/ Todd McElhatton Todd McElhatton Chief Financial Officer (Principal Accounting and Financial Officer) |
Washington, DC 20549 _____________________________ FORM 10-Q _____________________________ (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended October 31, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to __________ Commission File Numbe 001-38451 _____________________________ Zuora, Inc . (Exact name of registrant as specified in its charter) _____________________________ Delaware 20-5530976 (State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification Number) 101 Redwood Shores Parkway , Redwood City , California 94065 (Address of principal executive offices) (Zip Code) ( 888 ) 976-9056 (Registrant’s telephone number, including area code) Not Applicable (Former name, former address and former fiscal year, if changed since last report) _____________________________ Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name on each exchange on which registered Class A common stock, par value $0.0001 per share ZUO New York Stock Exchange Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☒ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ As of November 30, 2022, the number of shares of the Registrant ’ s Class A common stock outstanding was 125.5 million and the number of shares of the Registrant ’ s Class B common stock outstanding was 8.1 million. Page PART I. FINANCIAL INFORMATION 3 Item 1. Financial Statements (unaudited) 3 Condensed Consolidated Balance Sheets as of October 31, 2022 and January 31, 202 2 3 Condensed Consolidated Statements of Comprehensive Loss for the Three and Nine Months Ended October 31, 2022 and 202 1 4 Condensed Consolidated Statements of Stockholders ' Equity for the Three and Nine Months Ended October 31, 2022 and 2021 5 Condensed Consolidated Statements of Cash Flows for the Nine Months Ended October 31, 2022 and 2021 7 Notes to Unaudited Condensed Consolidated Financial Statements 8 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 27 Item 3. Quantitative and Qualitative Disclosures About Market Risk 46 Item 4. Controls and Procedures 47 PART II. OTHER INFORMATION 48 Item 1. Legal Proceedings 48 Item 1A. Risk Factors 48 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 82 Item 6. Exhibits 83 Signatures 84 SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS Unless the context otherwise requires, references in this Quarterly Report on Form 10-Q (Form 10-Q) to “Zuora,” “Company,” “our,” “us,” and “we” refer to Zuora, Inc. and, where appropriate, its consolidated subsidiaries. Our fiscal year end is January 31. References to “fiscal” followed by the year refer to the fiscal year ended January 31 for the referenced year. This Form 10-Q contains forward-looking statements within the meaning of the federal securities laws. All statements contained in this Form 10-Q, other than statements of historical fact, including statements regarding our future operating results and financial position, our business strategy and plans, market growth, and our objectives for future operations, are forward-looking statements. Words such as “believes,” “may,” “will,” “estimates,” “potential,” “continues,” “anticipates,” “intends,” “expects,” “could,” “would,” “projects,” “plans,” “targets,” and variations of such words and similar expressions are intended to identify forward-looking statements. Forward-looking statements contained in this Form 10-Q include, but are not limited to, statements about our expectations regardin • trends in revenue, cost of revenue, and gross margin; • economic uncertainty and associated trends in macroeconomic conditions, including recession, inflation and rising interest rates; • currency exchange rate fluctuations; • trends and expectations in our operating and financial metrics, including customers with Annual Contract Value (ACV) equal to or greater than $100,000, dollar-based retention rate, annual recurring revenue, and growth of and within our customer base; • future acquisitions, the anticipated benefits of such acquisitions and our ability to integrate the operations and technology of any acquired company, including our acquisition of Zephr Inc Limited (Zephr); • industry trends, projected growth, or trend analysis, including the shift to subscription business models; • the duration and impact of the coronavirus (COVID-19) pandemic on our business and the economy; • our investments in our platform and the cost of third-party hosting fees; • the expansion and functionality of our technology offering, including expected benefits of such products and technology, and our ability to further penetrate our customer base; • trends in operating expenses, including research and development expense, sales and marketing expense, and general and administrative expense, and expectations regarding these expenses as a percentage of revenue; • our existing cash and cash equivalents, investment balances, funds available under our loan and security agreement, and cash provided by subscriptions to our platform and related professional services being sufficient to meet our working capital and capital expenditure needs for at least the next 12 months; • the impact of actions that we are taking to improve operational efficiencies and operating costs, including the workforce reduction we approved in November 2022; and • other statements regarding our future operations, financial condition, prospects and business strategies, including our ability to sublease office space in the San Francisco Bay Area. Such forward-looking statements are based on our expectations as of the date of this filing and are subject to a number of risks, uncertainties and assumptions, including but not limited to, risks detailed in the “Risk Factors” section of this Form 10-Q. Readers are urged to carefully review and consider the various disclosures made in this Form 10-Q and in other documents we file from time to time with the Securities and Exchange Commission (SEC) that disclose risks and uncertainties that may affect our business. Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time. It is not possible for us to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties and assumptions, the future events and circumstances discussed in this Form 10-Q may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements. 1 You should not rely upon forward-looking statements as predictions of future events. The events and circumstances reflected in the forward-looking statements may not be achieved or occur. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, performance or achievements. In addition, the forward-looking statements in this Form 10-Q are made as of the date of this filing, and we do not undertake, and expressly disclaim any duty, to update such statements for any reason after the date of this Form 10-Q or to conform statements to actual results or revised expectations, except as required by law. 2 PART I—FINANCIAL INFORMATION Item 1. Financial Statements ZUORA, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (in thousands) (unaudited) October 31, 2022 January 31, 2022 Assets Current assets: Cash and cash equivalents $ 182,261 $ 113,507 Short-term investments 218,341 101,882 Accounts receivable, net of allowance for credit losses of $ 2,079 and $ 3,188 as of October 31, 2022 and January 31, 2022, respectively 75,835 82,263 Deferred commissions, current portion 15,735 15,080 Prepaid expenses and other current assets 19,537 15,603 Total current assets 511,709 328,335 Property and equipment, net 28,978 27,676 Operating lease right-of-use assets 27,583 32,643 Purchased intangibles, net 13,930 3,452 Deferred commissions, net of current portion 26,875 26,727 Goodwill 52,618 17,632 Other assets 4,500 4,787 Total assets $ 666,193 $ 441,252 Liabilities and stockholders’ equity Current liabiliti Accounts payable $ 10,612 $ 6,785 Accrued expenses and other current liabilities 22,903 14,225 Accrued employee liabilities 32,926 32,425 Debt, current portion — 1,660 Deferred revenue, current portion 152,321 152,740 Operating lease liabilities, current portion 9,636 11,462 Total current liabilities 228,398 219,297 Debt, net of current portion 208,393 — Deferred revenue, net of current portion 639 771 Operating lease liabilities, net of current portion 40,103 45,633 Deferred tax liabilities 3,255 3,243 Other long-term liabilities 1,501 1,701 Total liabilities 482,289 270,645 Commitments and contingencies (Note 13) Stockholders’ equity: Class A common stock 13 12 Class B common stock 1 1 Additional paid-in capital 840,218 734,149 Accumulated other comprehensive loss ( 2,769 ) ( 108 ) Accumulated deficit ( 653,559 ) ( 563,447 ) Total stockholders’ equity 183,904 170,607 Total liabilities and stockholders’ equity $ 666,193 $ 441,252 See notes to unaudited condensed consolidated financial statements. 3 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (in thousands, except per share data) (unaudited) Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 2022 2021 Reve Subscription $ 86,567 $ 73,775 $ 248,878 $ 210,415 Professional services 14,505 15,455 44,168 45,631 Total revenue 101,072 89,230 293,046 256,046 Cost of reve Subscription 21,727 17,279 60,024 50,190 Professional services 18,553 18,416 55,140 54,218 Total cost of revenue 40,280 35,695 115,164 104,408 Gross profit 60,792 53,535 177,882 151,638 Operating expens Research and development 28,413 21,738 77,639 61,565 Sales and marketing 46,973 37,004 132,576 105,130 General and administrative 19,327 16,370 55,433 46,931 Total operating expenses 94,713 75,112 265,648 213,626 Loss from operations ( 33,921 ) ( 21,577 ) ( 87,766 ) ( 61,988 ) Change in fair value of warrant liability 452 — 9,348 — Interest expense ( 4,444 ) ( 39 ) ( 10,647 ) ( 111 ) Interest and other income (expense), net 1,187 ( 663 ) 98 ( 923 ) Loss before income taxes ( 36,726 ) ( 22,279 ) ( 88,967 ) ( 63,022 ) Income tax provision 308 610 1,145 1,221 Net loss ( 37,034 ) ( 22,889 ) ( 90,112 ) ( 64,243 ) Comprehensive l Foreign currency translation adjustment ( 973 ) ( 127 ) ( 1,648 ) ( 386 ) Unrealized loss on available-for-sale securities ( 337 ) ( 27 ) ( 1,013 ) ( 61 ) Comprehensive loss $ ( 38,344 ) $ ( 23,043 ) $ ( 92,773 ) $ ( 64,690 ) Net loss per share, basic and diluted $ ( 0.28 ) $ ( 0.18 ) $ ( 0.69 ) $ ( 0.52 ) Weighted-average shares outstanding used in calculating net loss per share, basic and diluted 132,579 125,141 130,461 123,230 See notes to unaudited condensed consolidated financial statements. 4 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (in thousands) (unaudited) Nine Months Ended October 31, 2022 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders’ Shares Amount Shares Amount Capital Loss Deficit Equity Balance, January 31, 2022 119,008 $ 12 9,048 $ 1 $ 734,149 $ ( 108 ) $ ( 563,447 ) $ 170,607 Conversion of Class B common stock to Class A common stock 1,276 — ( 1,276 ) — — — — — Issuance of common stock upon exercise of stock options 49 — 349 — 2,097 — — 2,097 RSU releases 4,418 1 — — — — — 1 Issuance of common stock under the ESPP 615 — — — 4,485 — — 4,485 Charitable donation of stock 101 — — — 1,000 — — 1,000 Stock-based compensation — — — — 80,045 — — 80,045 Issuance of warrants — — — — 18,442 — — 18,442 Other comprehensive loss — — — — — ( 2,661 ) — ( 2,661 ) Net loss — — — — — — ( 90,112 ) ( 90,112 ) Balance, October 31, 2022 125,467 $ 13 8,121 $ 1 $ 840,218 $ ( 2,769 ) $ ( 653,559 ) $ 183,904 Three Months Ended October 31, 2022 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Loss Deficit Equity Balance, July 31, 2022 123,833 $ 12 8,122 $ 1 $ 810,636 $ ( 1,459 ) $ ( 616,525 ) $ 192,665 Conversion of Class B common stock to Class A common stock 111 — ( 111 ) — — — — — Issuance of common stock upon exercise of stock options — — 110 — 575 — — 575 RSU releases 1,523 1 — — — — — 1 Stock-based compensation — — — — 29,007 — — 29,007 Other comprehensive loss — — — — — ( 1,310 ) — ( 1,310 ) Net loss — — — — — — ( 37,034 ) ( 37,034 ) Balance, October 31, 2022 125,467 $ 13 8,121 $ 1 $ 840,218 $ ( 2,769 ) $ ( 653,559 ) $ 183,904 5 Nine Months Ended October 31, 2021 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Income Deficit Equity Balance, January 31, 2021 109,900 $ 11 11,004 $ 1 $ 635,127 $ 796 $ ( 464,022 ) $ 171,913 Conversion of Class B common stock to Class A common stock 4,074 — ( 4,074 ) — — — — — Issuance of common stock upon exercise of stock options 398 1 2,117 — 15,691 — — 15,692 Lapse of restrictions on common stock related to early exercise of stock options — — — — 25 — — 25 RSU releases 2,513 — 26 — — — — — Issuance of common stock under the ESPP 388 — — — 4,005 — — 4,005 Charitable donation of stock 61 — — — 1,000 — — 1,000 Stock-based compensation — — — — 51,778 — — 51,778 Other comprehensive loss — — — — — ( 447 ) — ( 447 ) Net loss — — — — — — ( 64,243 ) ( 64,243 ) Balance, October 31, 2021 117,334 $ 12 9,073 $ 1 $ 707,626 $ 349 $ ( 528,265 ) $ 179,723 Three Months Ended October 31, 2021 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Income Deficit Equity Balance, July 31, 2021 115,312 $ 12 9,123 $ 1 $ 682,202 $ 503 $ ( 505,376 ) $ 177,342 Conversion of Class B common stock to Class A common stock 963 — ( 963 ) — — — — — Issuance of common stock upon exercise of stock options 85 — 913 — 5,505 — — 5,505 Lapse of restrictions on common stock related to early exercise of stock options — — — — 7 — — 7 RSU releases 974 — — — — — — — Stock-based compensation — — — — 19,912 — — 19,912 Other comprehensive loss — — — — — ( 154 ) — ( 154 ) Net loss — — — — — — ( 22,889 ) ( 22,889 ) Balance, October 31, 2021 117,334 $ 12 9,073 $ 1 $ 707,626 $ 349 $ ( 528,265 ) $ 179,723 See notes to unaudited condensed consolidated financial statements. 6 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) (unaudited) Nine Months Ended October 31, 2022 2021 Cash flows from operating activiti Net loss $ ( 90,112 ) $ ( 64,243 ) Adjustments to reconcile net loss to net cash (used in) provided by operating activiti Depreciation, amortization and accretion 13,725 12,642 Stock-based compensation 80,045 51,778 Provision for credit losses 1,403 1,859 Donation of common stock to charitable foundation 1,000 1,000 Amortization of deferred commissions 14,250 11,956 Reduction in carrying amount of right-of-use assets 5,859 7,230 Change in fair value of warrant liability ( 9,348 ) — Change in fair value of contingent consideration ( 1,800 ) — Other 575 678 Changes in operating assets and liabiliti Accounts receivable 5,666 4,645 Prepaid expenses and other assets ( 2,454 ) ( 559 ) Deferred commissions ( 15,418 ) ( 14,887 ) Accounts payable 3,415 1,196 Accrued expenses and other liabilities 2,819 2,781 Accrued employee liabilities 282 1,513 Deferred revenue ( 2,607 ) 1,152 Operating lease liabilities ( 9,979 ) ( 10,421 ) Net cash (used in) provided by operating activities ( 2,679 ) 8,320 Cash flows from investing activiti Purchases of property and equipment ( 8,471 ) ( 6,044 ) Insurance proceeds for damaged property and equipment — 344 Purchase of intangible assets — ( 1,349 ) Purchases of short-term investments ( 205,464 ) ( 77,386 ) Maturities of short-term investments 89,013 82,592 Cash paid for acquisition, net of cash acquired ( 41,000 ) — Net cash used in investing activities ( 165,922 ) ( 1,843 ) Cash flows from financing activiti Proceeds from issuance of convertible senior notes, net of issuance costs 233,901 — Proceeds from issuance of common stock upon exercise of stock options 2,097 15,692 Proceeds from issuance of common stock under employee stock purchase plan 4,485 4,005 Principal payments on debt ( 1,480 ) ( 3,333 ) Net cash provided by financing activities 239,003 16,364 Effect of exchange rates on cash and cash equivalents ( 1,648 ) ( 386 ) Net increase in cash and cash equivalents 68,754 22,455 Cash and cash equivalents, beginning of period 113,507 94,110 Cash and cash equivalents, end of period $ 182,261 $ 116,565 Supplemental disclosure of non-cash investing and financing activiti Lapse in restrictions on early exercised common stock options $ — $ 25 Property and equipment purchases accrued or in accounts payable $ 64 $ 123 Purchase of intangible assets included in accrued expenses and other current liabilities $ — $ 225 See notes to unaudited condensed consolidated financial statements. 7 ZUORA, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) Note 1. Overview and Basis of Presentation Description of Business Zuora, Inc. was incorporated in the state of Delaware in 2006 and began operations in 2007. Zuora’s fiscal year ends on January 31. Zuora is headquartered in Redwood City, California. Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the entire quote-to-cash and revenue recognition process, including quoting, billing, collections and revenue recognition. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. References to “Zuora”, “us”, “our”, or “we” in these notes refer to Zuora, Inc. and its subsidiaries on a consolidated basis. Basis of Presentation and Principles of Consolidation The accompanying unaudited condensed consolidated financial statements, which include the accounts of Zuora and its wholly owned subsidiaries, have been prepared in conformity with accounting principles generally accepted in the United States (GAAP) and applicable rules and regulations of the Securities and Exchange Commission (SEC) regarding interim financial reporting. All intercompany balances and transactions have been eliminated in consolidation. The unaudited condensed consolidated balance sheet as of January 31, 2022 included herein was derived from the audited financial statements as of that date, but does not include all disclosures including certain notes required by GAAP on an annual reporting basis. The unaudited condensed consolidated financial statements reflect all normal recurring adjustments necessary to present fairly the balance sheets, statements of comprehensive loss, statements of cash flows and statements of stockholders' equity for the interim periods, but are not necessarily indicative of the results of operations to be anticipated for the full fiscal year ending January 31, 2023 or any future period. The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in our Annual Report on Form 10-K for the fiscal year ended January 31, 2022, filed with the SEC on March 28, 2022 (Annual Report). Use of Estimates The preparation of unaudited condensed consolidated financial statements in conformity with GAAP requires management to make certain estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the unaudited condensed consolidated financial statements, as well as reported amounts of revenue and expenses during the reporting period. Actual results could differ materially from those estimates. Our most significant estimates and assumptions are related to revenue recognition with respect to the determination of the relative standalone selling prices for our services; the expected period of benefit over which deferred commissions are amortized; valuation of stock-based awards, our convertible senior notes and warrants, and contingent consideration; estimates of allowance for credit losses; estimates of the fair value of goodwill and long-lived assets when evaluating for impairments and for assets acquired from acquisitions; useful lives of intangibles and other long-lived assets; and the valuation of deferred income tax assets and contingencies. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Accordingly, actual results may differ materially from these estimates under different assumptions or conditions. 8 Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements Our significant accounting policies are discussed in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements in our Annual Report for the fiscal year ended January 31, 2022. There have been no significant changes to these policies during the nine months ended October 31, 2022, except for updates resulting from our issuance to Silver Lake of the Initial Notes and Warrants (see Note 9. Debt for details) in March 2022, and updates resulting from the acquisition of Zephr, as discussed below. Additional information regarding our issuance of these convertible notes and warrants is included in Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock, respectively, and additional information regarding our acquisition of Zephr is included in Note 19. Zephr Acquisition . Derivative Financial Instruments The accounting treatment of derivative financial instruments requires that we record certain embedded features and warrants as assets or liabilities at their fair value as of the inception date of the agreement and at fair value as of each subsequent balance sheet date with any change in fair value recorded as income or expense. In connection with our issuance of the Initial Notes to Silver Lake on March 24, 2022, we adopted a sequencing policy in accordance with ASC 815-40 whereby financial instruments issued will be ordered by conversion or exercise price. Deferred Debt Issuance Costs Costs directly associated with obtaining debt financing are deferred and amortized using the effective interest rate method over the expected term of the related debt agreement. We determine the expected term of debt agreements by assessing the contractual term of the debt as well as any non-contingent put rights provided to the lenders. Unamortized amounts related to long-term debt are reflected on the unaudited condensed consolidated balance sheets as a direct deduction from the carrying amounts of the related long-term debt liability. Amortization expense of deferred loan costs was approximately $ 2.0 million and $ 4.6 million for the three and nine months ended October 31, 2022, respectively, and is included in Interest expense on the accompanying unaudited condensed consolidated statements of comprehensive loss. Earnings per Share Basic earnings per share (EPS) is calculated by dividing the net income or loss available to common stockholders by the weighted average number of shares of common stock outstanding for the period without consideration for common stock equivalents. Diluted EPS is computed by dividing the net income or loss available to common stockholders by the weighted average number of shares of common stock outstanding for the period and the weighted average number of dilutive common stock equivalents outstanding for the period determined using the if-converted method (convertible debt instruments) or treasury-stock method (warrants and share-based payment arrangements). For purposes of this calculation, common stock issuable upon conversion of debt, options and warrants are considered to be common stock equivalents and are only included in the calculation of diluted earnings per share when their effect is dilutive. Acquisitions We assess acquisitions under ASC Topic 805, Business Combinations (ASC 805) to determine whether a transaction represents the acquisition of assets or a business combination. Under this guidance, we apply a two-step model. The first step involves a screening test where we evaluate whether substantially all of the fair value of the gross assets acquired is concentrated in either a single asset or a group of similar assets. If the screening test is met, we account for the set as an asset acquisition. If the screening test is not met, we apply the second step of the model to determine if the set meets the definition of a business based on the guidance in ASC 805. If the second step is met, the transaction is treated as a business combination. If the second step is not met, it is treated as an asset acquisition. A business combination is accounted for using the acquisition method of accounting. Under the acquisition method, assets acquired and liabilities assumed are recorded at their respective fair values as of the acquisition date. Any excess fair value of consideration transferred over the fair value of the net assets acquired is recorded as goodwill. The allocation of the consideration requires management to make significant estimates in determining the fair values of assets acquired and liabilities assumed, especially with respect to intangible assets. These estimates can include, but are not limited to, the cash flows that an asset is expected to generate in the future, the appropriate 9 weighted average cost of capital, and the cost savings related to the business combination. These estimates are inherently uncertain and unpredictable. Contingent consideration incurred in connection with the business combination is recorded at its fair value on the acquisition date and is remeasured through credits or charges to the unaudited condensed consolidated statements of comprehensive loss each subsequent reporting period and is classified as contingent consideration in the unaudited condensed consolidated balance sheet until the related contingencies are resolved. Recent Accounting Pronouncements In August 2020, the FASB issued ASU 2020-06, Debt - Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging - Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity, which simplifies the accounting for convertible instruments by removing certain separation models previously required under U.S. GAAP, including the beneficial conversion feature and cash conversion models. This ASU also simplifies the diluted earnings per share calculation in certain areas. The standard was effective for us beginning February 1, 2022 and we utilized the modified retrospective transition method of adoption. The adoption of this standard had no impact on our retained earnings or other components of equity as of the February 1, 2022 adoption date and had no impact to our earnings per share during the period of adoption. In October 2021, the FASB issued ASU 2021-08, Business Combinations (Topic 805): Accounting for Contract Assets and Contract Liabilities from Contracts with Customers. The standard requires an acquirer in a business combination to recognize and measure contract assets and contract liabilities acquired in a business combination in accordance with ASC 606, Revenue from Contracts with Customers, as if it had originated the contracts. The standard is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2022, with early adoption permitted. We retroactively adopted this standard as of February 1, 2022. The adoption of this standard on February 1, 2022 had no impact on our unaudited condensed consolidated financial statements. 10 Note 3. Investments The amortized costs, unrealized gains and losses and estimated fair values of our short-term investments were as follows (in thousands): October 31, 2022 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 52,723 $ — $ ( 698 ) $ 52,025 Corporate bonds 51,918 — ( 459 ) 51,459 Commercial paper 100,908 — — 100,908 Supranational bonds 9,998 — ( 31 ) 9,967 Foreign government securities 4,033 — ( 51 ) 3,982 Total short-term investments $ 219,580 $ — $ ( 1,239 ) $ 218,341 January 31, 2022 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 18,082 $ — $ ( 155 ) $ 17,927 Corporate bonds 21,225 — ( 49 ) 21,176 Commercial paper 55,234 — — 55,234 Supranational bonds 3,503 — — 3,503 Foreign government securities 4,064 — ( 22 ) 4,042 Total short-term investments $ 102,108 $ — $ ( 226 ) $ 101,882 There were no material realized gains or losses from sales of marketable securities that were reclassified out of accumulated other comprehensive loss into investment income during the three and nine months ended October 31, 2022 and 2021. We had no significant unrealized losses on our available-for-sale securities as of October 31, 2022 and January 31, 2022, and we do not expect material credit losses on our current investments in future periods. All securities had stated effective maturities of less than one year as of October 31, 2022. Note 4. Fair Value Measurements The accounting guidance for fair value measurements establishes a three-tier hierarchy, which prioritizes the inputs used in the valuation methodologies in measuring fair value as follows: Level input Input definition Level 1 Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets Level 2 Inputs other than quoted prices included within Level 1 that are observable for the asset or liability through corroboration with market data at the measurement date Level 3 Unobservable inputs that reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date In general, and where applicable, we use quoted prices in active markets for identical assets or liabilities to determine fair value. If quoted prices in active markets for identical assets or liabilities are not available to determine fair value, then we use quoted prices for similar assets and liabilities or inputs other than the quoted prices that are observable either directly or indirectly. 11 The following tables summarize our fair value hierarchy for our financial assets and liabilities measured at fair value on a recurring basis (in thousands): October 31, 2022 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 162,503 $ — $ — $ 162,503 Short-term investments: U.S. government securities $ — $ 52,025 $ — $ 52,025 Corporate bonds — 51,459 — 51,459 Commercial paper — 100,908 — 100,908 Supranational bonds — 3,982 — 3,982 Foreign government securities — 9,967 — 9,967 Total short-term investments $ — $ 218,341 $ — $ 218,341 Liabiliti Warrant liability $ — $ — $ 2,695 $ 2,695 Contingent consideration — — 3,000 3,000 Total liabilities $ — $ — $ 5,695 $ 5,695 January 31, 2022 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 92,668 $ — $ — $ 92,668 Short-term investments: U.S. government securities $ — $ 17,927 $ — $ 17,927 Corporate bonds — 21,176 — 21,176 Commercial paper — 55,234 — 55,234 Supranational bonds — 3,503 — 3,503 Foreign government securities — 4,042 — 4,042 Total short-term investments $ — $ 101,882 $ — $ 101,882 Changes in our Level 3 fair value measurements were as follows (in thousands): Warrant Liability Acquisition-related Contingent Consideration Balance, January 31, 2022 $ — $ — Issuances 12,043 — Additions — 4,800 Settlements — — Gain on change in fair value ( 9,348 ) ( 1,800 ) Balance, October 31, 2022 $ 2,695 $ 3,000 The carrying amounts of certain financial instruments, including cash held in bank accounts, accounts receivable, accounts payable, and accrued expenses, approximate fair value due to their relatively short maturities. 12 As of October 31, 2022, the net carrying amount of the Initial Notes was $ 208.4 million, and the estimated fair value was $ 139.3 million. The fair value of the Initial Notes is classified as a Level 3 measurement. Additional information regarding the Initial Notes and Warrant liability is included in Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock , respectively. Additional information regarding acquisition-related contingent consideration is included in Note 19. Zephr Acquisition . Note 5. Prepaid Expenses and Other Current Assets Prepaid expenses and other current assets consisted of the following (in thousands): October 31, 2022 January 31, 2022 Prepaid software subscriptions $ 5,693 $ 6,854 Prepaid insurance 3,367 3,220 Contract assets 2,164 1,289 Taxes 1,668 1,270 Deposits 1,229 250 Prepaid hosting costs 1,052 767 Other 4,364 1,953 Total $ 19,537 $ 15,603 Note 6. Property and Equipment, Net Property and equipment, net consisted of the following (in thousands): October 31, 2022 January 31, 2022 Software $ 31,055 $ 25,495 Leasehold improvements 16,932 17,277 Computer equipment 15,212 14,746 Furniture and fixtures 4,260 4,424 67,459 61,942 Less accumulated depreciation and amortization ( 38,481 ) ( 34,266 ) Total $ 28,978 $ 27,676 The following table summarizes the capitalized internal-use software costs included within the Software line item in the table above (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 2022 2021 Internal-use software costs capitalized during the period $ 1,621 $ 1,748 $ 5,770 $ 3,710 October 31, 2022 January 31, 2022 Total capitalized internal-use software, net of accumulated amortization $ 14,228 $ 11,534 The following table summarizes total depreciation and amortization expense related to property and equipment, including amortization of internal-use software, included in General and administrative and Cost of subscription revenue in the accompanying unaudited condensed consolidated statements of comprehensive loss (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 2022 2021 Total depreciation and amortization expense $ 2,646 $ 2,802 $ 7,013 $ 8,630 13 Note 7. Purchased Intangible Assets and Goodwill The following tables summarize the purchased intangible asset balances (in thousands): October 31, 2022 Gross Carrying Amount Accumulated Amortization Net Carrying Amount Developed technology $ 19,563 $ ( 8,694 ) $ 10,869 Customer relationships 5,186 ( 3,085 ) 2,101 Trade name 1,708 ( 748 ) 960 Total $ 26,457 $ ( 12,527 ) $ 13,930 January 31, 2022 Gross Carrying Amount Accumulated Amortization Net Carrying Amount Developed technology $ 9,271 $ ( 7,692 ) $ 1,579 Customer relationships 4,287 ( 2,717 ) 1,570 Trade name 909 ( 606 ) 303 Total $ 14,467 $ ( 11,015 ) $ 3,452 Purchased intangible assets are being amortized to Cost of subscription revenue in the accompanying unaudited condensed consolidated statements of comprehensive loss on a straight-line basis over their estimated useful lives ranging from three to ten years. The following table summarizes amortization expense recognized on purchased intangible assets during the periods indicated (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 2022 2021 Purchased intangible assets amortization expense $ 586 $ 554 $ 1,512 $ 1,496 Estimated future amortization expense for purchased intangible assets as of October 31, 2022 was as follows (in thousands); Fiscal year endin 2023 (remainder of the year) $ 738 2024 2,952 2025 2,507 2026 1,873 2027 1,560 Thereafter 4,300 Total estimated amortization expense $ 13,930 The following table represents the changes to goodwill (in thousands): Goodwill Balance, January 31, 2022 $ 17,632 Addition from acquisition 35,009 Effects of foreign currency translation ( 23 ) Balance, October 31, 2022 $ 52,618 14 Note 8. Accrued Expenses and Other Current Liabilities Accrued expenses and other current liabilities consisted of the following (in thousands): October 31, 2022 January 31, 2022 Accrued outside services and consulting $ 6,822 $ 3,712 Accrued hosting and third-party licenses 4,139 3,865 Accrued contingent consideration 3,000 — Warrant liability 2,695 — Accrued taxes 1,607 2,422 Accrued interest 850 — Other accrued expenses 3,790 4,226 Total $ 22,903 $ 14,225 Note 9. Debt 2029 Notes On March 24, 2022 (Initial Closing Date), we issued convertible senior notes (Initial Notes) in the aggregate principal amount of $ 250.0 million pursuant to an investment agreement (Investment Agreement) and indenture agreement (Indenture) to certain entities affiliated with Silver Lake Alpine II, L.P. (Silver Lake). Pursuant to the Investment Agreement, additional convertible senior notes in the aggregate principal amount of $ 150.0 million (Additional Notes), (together with the Initial Notes, the “2029 Notes”) shall be issued to Silver Lake 18 months after the Initial Closing Date, with an earlier issuance upon our completion of a Material Acquisition that meets the conditions described in Section 2.02(a) of the Investment Agreement. In addition, in the event that a Change in Control (as defined in the Indenture) occurs prior to the Additional Notes being issued, the noteholder would have the right to receive, at the noteholder's election, the Additional Notes, a cash payment, or common stock, as described in Section 2.02(b) of the Investment Agreement. The Initial Notes and the Additional Notes, once issued, represent senior unsecured obligations of Zuora. As a condition of the Investment Agreement, we also issued warrants to Silver Lake to acquire up to 7.5 million shares of Class A common stock (Warrants), of which (i) up to 2.5 million Warrants are exercisable at $ 20.00 per share, (ii) up to 2.5 million Warrants are exercisable at $ 22.00 per share and (iii) up to 2.5 million Warrants are exercisable at $ 24.00 per share. The Warrants are exercisable for a period of seven years from the Initial Closing Date. The purchase price of the 2029 Notes is 98 % of the par value. The 2029 Notes bear interest at a rate of 3.95 % per annum, payable quarterly in cash, provided that we have the option to pay interest in kind at 5.50 % per annum. If elected, any such paid in kind interest will be added to the principal balance at each quarterly interest payment date. The 2029 Notes will mature on March 31, 2029, subject to earlier conversion or redemption. The Initial Notes are convertible at Silver Lake’s option into shares of our Class A common stock at an initial conversion rate of 50.0 shares per $ 1,000 principal amount ($ 20.00 per share, representing 12.5 million shares of Class A common stock), subject to customary anti-dilution adjustments. Any 2029 Notes that are converted in connection with a Make-Whole Fundamental Change (as defined in the Indenture) are subject to an increase in the conversion price under certain circumstances. With certain exceptions, upon a Fundamental Change, the holders of the 2029 Notes may require that we repurchase all or part of the principal amount of the 2029 Notes at a purchase price equal to the principal amount and accrued but unpaid interest outstanding, plus the total sum of all remaining scheduled interest payments through the remainder of the term of the 2029 Notes, at the 5.50 % paid in kind interest rate. At any time on or after the fifth anniversary of the Initial Closing Date, the holders of the 2029 Notes may require that we repurchase all or part of the principal amount of the Notes at a purchase price equal to the principal amount plus accrued interest through the date of repurchase. Upon certain events of default, the 2029 Notes may be declared due and payable (or will automatically become so under certain events of default), at a purchase price equal to the principal amount plus accrued interest through the date of repurchase. We have no right to redeem the 2029 Notes prior to maturity. 15 Pursuant to the Investment Agreement, without our prior written consent, Silver Lake is restricted from converting any 2029 Note, exercising any Warrant or transferring any 2029 Note or Warrant to parties other than affiliates or members of Silver Lake (with certain limited exceptions) for 18 months following the Initial Closing Date, or if sooner, upon the consummation of any Change in Control (as defined in the Investment Agreement) or entry into a definitive agreement for a transaction that, if consummated, would result in a Change in Control. We determined that the Initial Notes arrangement consisted of three freestanding instruments: the Initial Notes, the Warrants and the loan commitment related to the Additional Notes. In addition, we evaluated the embedded features in the Initial Notes and identified certain embedded features which were not clearly and closely related to the Initial Notes and met the definition of a derivative, and therefore required bifurcation from the host contract. We determined that the fair value of these bifurcated derivatives was de minimis as of the Initial Closing Date and as of October 31, 2022. As further discussed in Note 17. Warrants to Purchase Shares of Common Stock , a portion of the Warrants issued were determined to require liability classification with the remaining Warrants eligible to be classified in stockholders’ equity. As such, we allocated the proceeds obtained from the Initial Notes first to the liability-classified Warrants and then, on a relative fair value basis, between the equity-classified Warrants and the Initial Notes. We incurred approximately $ 8.1 million of debt issuance costs associated with the 2029 Notes and Warrants. Of this amount, we allocated $ 7.1 million as a component of the discount on the 2029 Notes, $ 0.7 million against the proceeds allocated to the equity-classified Warrants and $ 0.3 million was allocated to the liability-classified Warrants and recorded to General and administrative expense in the accompanying unaudited condensed consolidated statements of comprehensive loss. The 2029 Notes debt discount is being amortized using the effective interest rate method over the five year expected life of the 2029 Notes (representing the period from the contract date to the earliest noncontingent put date of May 24, 2027) and reflects an effective interest rate of 8.5 %. The carrying value of the Initial Notes was classified as long-term and consisted of the following (in thousands): October 31, 2022 Initial Notes principal $ 250,000 Unamortized discount ( 41,607 ) Carrying value $ 208,393 Interest expense related to the Initial Notes, included in Interest expense in the accompanying unaudited condensed consolidated statements of comprehensive loss, was as follows (in thousands): Three Months Ended October 31, 2022 Nine Months Ended October 31, 2022 Contractual interest expense $ 2,469 $ 5,953 Amortization of deferred loan costs 1,967 4,634 Total interest expense $ 4,436 $ 10,587 Debt Agreement We have an agreement with Silicon Valley Bank for a revolving loan facility, which is secured by a lien on substantially all of our non-IP assets (Debt Agreement). In October 2022 we amended the Debt Agreement, which extended the $ 30.0 million revolving loan facility to October 2025. The interest rate under the revolving loan facility is equal to the prime rate published by the Wall Street Journal minus 1.00 %. We had no t drawn down any amounts as of October 31, 2022. The Debt Agreement also included a term loan facility, under which we borrowed $ 15.0 million in June 2017 to partially finance the acquisition of Leeyo Software, Inc. The term loan facility fully matured in June 2022. We made term loan principal and interest payments totaling $ 1.5 million in fiscal 2023, including the final term loan principal and interest payment of $ 0.4 million during the three months ended July 31, 2022, and paid a fee of 1.5 % of the original principal amount of the term loan facility, or $ 225,000 , upon termination of the facility. 16 Note 10. Deferred Revenue and Performance Obligations The following table summarizes revenue recognized during the period that was included in the deferred revenue balance at the beginning of each respective period (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 2022 2021 Revenue recognized from deferred revenue $ 75,929 $ 66,868 $ 137,257 $ 118,608 As of October 31, 2022, total remaining non-cancellable performance obligations under our subscription contracts with customers was approximately $ 462.4 million and we expect to recognize revenue on approximately $ 262.4 million of these remaining performance obligations over the next 12 months. Remaining performance obligations under our professional services contracts as of October 31, 2022 were not material. Note 11. Geographical Information Disaggregation of Revenue Revenue by country, based on the customer’s address at the time of sale, was as follows (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 2022 2021 United States $ 66,902 $ 55,577 $ 191,129 $ 161,251 Others 34,170 33,653 101,917 94,795 Total $ 101,072 $ 89,230 $ 293,046 $ 256,046 Percentage of revenue by geographic ar United States 66 % 62 % 65 % 63 % Other 34 % 38 % 35 % 37 % Other than the United States, no individual country exceeded 10% of total revenue for the three and nine months ended October 31, 2022 and 2021. Long-lived assets Long-lived assets, which consist of property and equipment, net, deferred commissions, purchased intangible assets, net and operating lease right-of-use assets by geographic location, are based on the location of the legal entity that owns the asset. As of October 31, 2022, the United States and United Kingdom each exceeded 10 % of total long-lived assets. As of October 31, 2021, no individual country exceeded 10% of total long-lived assets other than the United States. Note 12. Leases We have non-cancelable operating leases for our offices located in the U.S. and abroad. As of October 31, 2022, these leases expire on various dates between 2023 and 2030. Certain lease agreements include one or more options to renew, with renewal terms that can extend the lease up to seven years . We have the right to exercise or forego the lease renewal options. The lease agreements do not contain any material residual value guarantees or material restrictive covenants. 17 The components of our long-term operating leases and related operating lease cost were as follows (in thousands): October 31, 2022 January 31, 2022 Operating lease right-of-use assets $ 27,583 $ 32,643 Operating lease liabilities, current portion $ 9,636 $ 11,462 Operating lease liabilities, net of current portion 40,103 45,633 Total operating lease liabilities $ 49,739 $ 57,095 Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 2022 2021 Operating lease cost 1 $ 2,337 $ 3,156 $ 7,589 $ 9,529 (1) Includes costs related to our short-term operating leases as follows (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 2022 2021 Short-term operating lease costs $ 118 $ 98 $ 317 $ 294 The future maturities of long-term operating lease liabilities for each fiscal year were as follows (in thousands): Maturities of Operating Lease Liabilities 2023 (remainder of the year) $ 3,275 2024 11,171 2025 6,872 2026 6,490 2027 6,702 Thereafter 24,210 Total lease payments 58,720 Less imputed interest ( 8,981 ) Present value of lease liabilities $ 49,739 Other supplemental information related to our long-term operating leases includes the following (dollars in thousands): October 31, 2022 January 31, 2022 Weighted-average remaining operating lease term 6.7 years 7.0 years Weighted-average operating lease discount rate 4.7 % 4.6 % Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 2022 2021 Supplemental Cash Flow Information Cash paid for amounts included in the measurement of lease liabiliti Cash paid for operating leases $ 2,639 $ 3,403 $ 9,461 $ 10,267 New right-of-use assets obtained in exchange for lease liabiliti Operating leases obtained $ 799 $ 703 $ 799 $ 4,626 18 Note 13. Commitments and Contingencies Letters of Credit In connection with the execution of certain facility leases, we had bank issued irrevocable letters of credit for $ 4.5 million as of October 31, 2022 and January 31, 2022. No draws have been made under such letters of credit. Legal Proceedings From time to time, we may be subject to legal proceedings, as well as demands, claims and threatened litigation. The outcomes of legal proceedings and other contingencies are inherently unpredictable, subject to significant uncertainties, and could be material to our operating results and cash flows for a particular period. Regardless of the outcome, litigation can have an adverse impact on our business because of defense and settlement costs, diversion of management resources, and other factors. Other than the matters described below, we are not currently party to any legal proceeding that we believe could have a material adverse effect on our business, operating results, cash flows, or financial condition should such litigation or claim be resolved unfavorably. Securities Class Actions In June 2019, a putative securities class action lawsuit was filed in the U.S. District Court for the Northern District of California naming Zuora and certain of its officers as defendants. The complaint purports to bring suit on behalf of stockholders who purchased or otherwise acquired Zuora's securities between April 12, 2018 and May 30, 2019. The complaint alleges that defendants made false and misleading statements about Zuora's business, operations and prospects in violation of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended (Exchange Act), and seeks unspecified compensatory damages, fees and costs. In November 2019, the lead plaintiff filed a consolidated amended complaint asserting the same claims. In April 2020, the court denied defendants’ motion to dismiss. On March 15, 2021, the court granted plaintiff’s motion to certify a class consisting of persons and entities who purchased or acquired Zuora common stock between April 12, 2018 and May 30, 2019 and who were allegedly damaged thereby. Discovery in this case concluded in October 2022. A hearing on summary judgment motions, which have yet to be filed, is currently scheduled for March 2023 and trial is currently set to begin in May 2023. In April and May 2020, two putative securities class action lawsuits were filed in the Superior Court of the State of California, County of San Mateo, naming as defendants Zuora and certain of its current and former officers, its directors and the underwriters of Zuora's initial public offering (IPO). The complaints purport to bring suit on behalf of stockholders who purchased or otherwise acquired Zuora's securities pursuant or traceable to the Registration Statement and Prospectus issued in connection with Zuora's IPO and allege claims under Sections 11, 12(a)(2) and 15 of the Securities Act of 1933. The suits seek unspecified damages and other relief. In July 2020, the court entered an order consolidating the two lawsuits, and the lead plaintiffs filed a consolidated amended complaint asserting the same claims. In October 2020, the court denied defendants ’ demurrer as to the Section 11 and Section 15 claims and granted the demurrer as to the Section 12(a)(2) claim with leave to file an amended complaint. In November 2020, the lead plaintiffs filed an amended consolidated complaint. Defendants' demurrer to the Section 12(a)(2) claim was sustained with leave to amend. In October 2021, the court certified a class for the Section 11 and Section 15 claims, consisting of persons and entities who purchased or acquired Zuora common stock pursuant or traceable to the Registration Statement and Prospectus issued in connection with Zuora’s IPO. The lead plaintiffs voluntarily dismissed the Section 12(a)(2) claim without prejudice. Discovery in this case is ongoing. Given the procedural posture and the nature of such litigation matters, we are unable to estimate the reasonably possible loss or range of loss, if any, that may result from these matters. We dispute the claims described above and intend to vigorously defend against them. Derivative Litigation In September 2019, two stockholder derivative lawsuits were filed in the U.S. District Court for the Northern District of California against certain of Zuora’s directors and executive officers and naming Zuora as a nominal defendant. The derivative actions allege claims based on events similar to those in the securities class actions and assert causes of action against the individual defendants for breach of fiduciary duty, unjust enrichment, waste of 19 corporate assets, and for making false and misleading statements about Zuora's business, operations, and prospects in violation of Section 14(a) of the Exchange Act. Plaintiffs seek corporate reforms, unspecified damages and restitution, and fees and costs. In November 2019, the stockholder derivative lawsuits, which are related to the federal securities class action, were assigned to the same judge who is overseeing the federal securities class action lawsuit. In February 2020, the court entered an order consolidating the two derivative lawsuits, and in March 2022, plaintiffs filed a consolidated complaint. In May and June 2020, two stockholder derivative lawsuits were filed in the U.S. District Court for the District of Delaware against certain of Zuora’s directors and current and former executive officers. The derivative actions allege claims based on events similar to those in the securities class actions and the derivative actions pending in the Northern District of California and assert causes of action against the individual defendants for breach of fiduciary duty, unjust enrichment, waste of corporate assets, contribution, and for making false and misleading statements about Zuora’s business, operations, and prospects in violation of Section 14(a) of the Exchange Act. Plaintiff seeks corporate reforms, unspecified damages and restitution, and fees and costs. In June 2020, the court entered an order consolidating the two District of Delaware derivative lawsuits. The suits are currently stayed. In February and March 2021, two additional stockholder derivative lawsuits were filed in Delaware Chancery Court alleging similar claims based on the same underlying events. The two Chancery Court cases have been consolidated and an amended consolidated complaint has been filed. The suits are currently stayed. In May 2022, a stockholder derivative lawsuit was filed in the U.S. District Court for the Northern District of California against certain of Zuora’s directors and executive officers and naming Zuora as a nominal defendant. The derivative action alleges claims based on events similar to those in the securities class actions and asserts causes of action against the individual defendants for breach of fiduciary duty, waste of corporate assets, unjust enrichment, and contribution. Plaintiff seeks corporate reforms, unspecified damages and restitution, and fees and costs. This suit is currently stayed. Given the procedural posture and the nature of such litigation matters, we are unable to estimate the reasonably possible loss or range of loss, if any, that may result from these matters. Other Contractual Obligations As of October 31, 2022, we had a contractual obligation to make $ 39.1 million in purchases of cloud computing services provided by one of our vendors by September 30, 2024. Note 14. Income Taxes The following table reflects our income tax provision, pretax loss and effective tax rate for the periods presented (in thousands, except percentages): Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 2022 2021 Loss before income taxes $ ( 36,726 ) $ ( 22,279 ) $ ( 88,967 ) $ ( 63,022 ) Income tax provision 308 610 1,145 1,221 Effective tax rate ( 0.8 ) % ( 2.7 ) % ( 1.3 ) % ( 1.9 ) % The effective tax rates differ from the statutory rates primarily as a result of providing no benefit on pretax losses incurred in the United States, as we have determined that the benefit of the losses is not more likely than not to be realized. Note 15. Stockholders’ Equity Preferred Stock As of October 31, 2022, Zuora had authorized 10 million shares of preferred stock, each with a par value of $ 0.0001 per share. As of October 31, 2022, no shares of preferred stock were issued and outstanding. Common Stock 20 Prior to Zuora's IPO, which was effective in April 2018, all shares of common stock then outstanding were reclassified into Class B common stock. Shares offered and sold in the IPO consisted of newly authorized shares of Class A common stock. Holders of Class A and Class B common stock are entitled to one vote per share and ten votes per share, respectively, and the shares of Class A common stock and Class B common stock are identical, except for voting rights and the right to convert Class B common stock to Class A common stock. As of October 31, 2022, Zuora had authorized 500 million shares of Class A common stock and 500 million shares of Class B common stock, each with a par value of $ 0.0001 per share. As of October 31, 2022, 125.5 million shares of Class A common stock and 8.1 million shares of Class B common stock were issued and outstanding. Accumulated Other Comprehensive Loss Components of accumulated other comprehensive loss were as follows (in thousands): Foreign Currency Translation Adjustment Unrealized Loss on Available-for-Sale Securities Total Balance, January 31, 2022 $ 118 $ ( 226 ) $ ( 108 ) Foreign currency translation adjustment ( 1,648 ) — ( 1,648 ) Unrealized loss on available-for-sale securities — ( 1,013 ) ( 1,013 ) Balance, October 31, 2022 $ ( 1,530 ) $ ( 1,239 ) $ ( 2,769 ) There were no material reclassifications out of accumulated other comprehensive loss during the three and nine months ended October 31, 2022. Additionally, there was no material tax impact on the amounts presented. Note 16. Employee Stock Plans Equity Incentive Plans In March 2018, our Board of Directors adopted and our stockholders approved the 2018 Equity Incentive Plan (2018 Plan). The 2018 Plan authorizes the award of stock options, restricted stock awards, stock appreciation rights, restricted stock units (RSUs), performance awards, and stock bonuses. As of October 31, 2022, approximately 26.7 million shares of Class A common stock were reserved and available for issuance under the 2018 Plan. In addition, as of October 31, 2022, 4.3 million stock options and RSUs exercisable or settleable for Class B common stock were outstanding in the aggregate under our 2006 Stock Plan (2006 Plan) and 2015 Equity Incentive Plan (2015 Plan), which plans were terminated in May 2015 and April 2018, respectively. The 2006 Plan and 2015 Plan continue to govern outstanding equity awards granted thereunder. Stock Options The following tables summarize stock option activity and related information (in thousands, except weighted-average exercise price, weighted-average grant date fair value and average remaining contractual term): Shares Subject To Outstanding Stock Options Weighted-Average Exercise Price Average Remaining Contractual Term (Years) Aggregate Intrinsic Value Balance, January 31, 2022 8,560 $ 9.22 5.9 $ 67,259 Granted 20 12.52 Exercised ( 398 ) 5.23 Forfeited ( 307 ) 14.21 Balance, October 31, 2022 7,875 9.23 5.2 14,046 Exercisable as of October 31, 2022 3,274 3.40 2.7 14,046 Vested and expected to vest as of October 31, 2022 7,743 9.15 5.2 14,046 21 Three Months Ended October 31, Nine Months Ended October 31, 2022 1 2021 1 2022 2021 Weighted-average grant date fair value per share of options granted during each respective period — — $ 5.54 $ 6.54 Aggregate intrinsic value of options exercised during each respective period $ 356 $ 12,868 $ 2,386 $ 27,606 _________________________________ (1) No stock options were granted during the three months ended October 31, 2022 and 2021. We used the Black-Scholes option-pricing model to estimate the fair value of our stock options granted during each respective period using the following assumptions 1 : Nine Months Ended October 31, 2022 2021 Fair value of common stock $ 12.52 $ 15.64 - $ 15.87 Expected volatility 42.6 % 42.3 % - 42.7 % Expected term (years) 5.8 6.0 - 6.1 Risk-free interest rate 3.0 % 1.0 %- 1.1 % Expected dividend yield — % — % ______________ (1) No stock options were granted during the three months ended October 31, 2022 and 2021. RSUs The following table summarizes RSU activity and related information (in thousands, except weighted-average grant date fair value): Number of RSUs Outstanding Weighted-Average Grant Date Fair Value Balance, January 31, 2022 12,171 $ 15.46 Granted 8,566 11.93 Vested ( 4,418 ) 15.14 Forfeited ( 2,085 ) 14.24 Balance, October 31, 2022 14,234 13.62 Performance Stock Units (PSUs) In March 2022, we granted PSUs to certain executives under our 2018 Plan. Each grant is divided into three tranches, each tranche having pre-established performance targets that if met, as determined quarterly by our Compensation Committee, would result in the shares attributable to such tranche being earned, subject to a service-based vesting condition. The shares attributable to unearned tranches will be forfeited on January 31, 2025, if the applicable performance criteria for such tranches are not met. Stock-based compensation expense is recognized if it is probable the performance targets (for each respective tranche) will be met during the performance period. 22 The following table summarizes PSU activity and related information (in thousands, except weighted-average grant date fair value): Number of PSUs Outstanding Weighted-Average Grant Date Fair Value Balance, January 31, 2022 — $ — Granted 2,905 15.21 Vested — — Forfeited — — Balance, October 31, 2022 2,905 $ 15.21 2018 Employee Stock Purchase Plan In March 2018, our Board of Directors adopted and our stockholders approved the 2018 Employee Stock Purchase Plan (ESPP). This plan is broadly available to our employees in the United States and certain other countries in which we operate. A total of 4.6 million shares of Class A common stock were reserved and available for issuance under the ESPP as of October 31, 2022. The ESPP provides for 24 -month offering periods beginning June 15 and December 15 of each year, and each offering period contains four six-month purchase periods. On each purchase date, ESPP participants will purchase shares of our Class A common stock at a price per share equal to 85 % of the lesser of (1) the fair market value of the Class A common stock on the offering date or (2) the fair market value of the Class A common stock on the purchase date. We estimated the fair value of ESPP purchase rights using a Black-Scholes option pricing model with the following assumptio Nine Months Ended October 31, 2022 2021 Fair value of common stock $ 8.91 $ 16.07 Expected volatility 44.4 % - 52.3 % 41.8 % - 53.2 % Expected term (years) 0.5 - 2.0 0.5 - 2.0 Risk-free interest rate 2.3 % - 3.2 % 0.1 % - 0.2 % Expected dividend yield — % — % Stock-Based Compensation Expense Stock-based compensation expense was recorded in the following cost and expense categories in the accompanying unaudited condensed consolidated statements of comprehensive loss (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 2022 2021 Cost of subscription revenue $ 2,437 $ 1,580 $ 6,517 $ 4,157 Cost of professional services revenue 3,479 2,822 10,186 7,487 Research and development 7,536 5,774 20,967 15,546 Sales and marketing 10,188 6,298 27,603 15,993 General and administrative 5,367 3,438 14,772 8,595 Total stock-based compensation expense $ 29,007 $ 19,912 $ 80,045 $ 51,778 As of October 31, 2022, unrecognized compensation costs related to unvested equity awards and the weighted-average remaining period over which those costs are expected to be recognized were as follows (dollars in thousands): 23 Stock Options RSUs PSUs ESPP Unrecognized compensation costs $ 6,766 $ 159,074 $ 10,028 $ 7,748 Weighted-average remaining recognition period 1.8 years 2.3 years 1.8 years 1.1 years Note 17. Warrants to Purchase Shares of Common Stock In connection with the issuance of the 2029 Notes (discussed Note 9. Debt ), we issued to Silver Lake the Warrants to acquire up to 7.5 million shares of Class A common stock, exercisable for a period of approximately seven years from the Initial Closing Date, and of which (i) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 20.00 per share, (ii) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 22.00 per share and (iii) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 24.00 per share. In addition, Silver Lake can elect to exercise the Warrants on a net-exercise basis. If a Make-Whole Fundamental Change (as defined in the Form of Warrant) occurs, then the number of shares issuable upon exercise of the Warrants may be increased, and the exercise price for the Warrants adjusted. Beginning on the Initial Closing Date and ending on the earlier of (i) the date that is 18 months following the Initial Closing Date and (ii) the consummation of any Change in Control, except for certain limited exceptions, the Warrants are only exercisable with our written approval. As of October 31, 2022, all 7.5 million Warrants were outstanding. We have classified a portion of the Warrants as a current liability due to certain settlement provisions in the Warrants. Under certain Make-Whole Fundamental Change scenarios, we would be required to, at our option, either (i) obtain shareholder approval prior to issuing 20 % or more of our outstanding common stock or (ii) pay cash in lieu of delivering any shares at or above such 20 % threshold. As a result, we concluded that approximately 2.8 million Warrants valued at $ 12.0 million as of the Initial Closing Date do not qualify for equity classification under ASC 815-40, pursuant to our sequencing policy described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements. We will reassess the classification of the Warrant liability in future reporting periods to determine if any change is required. The Warrants were measured using the Black-Scholes option pricing model at the issuance date (Initial Closing Date) and the Warrant liability was remeasured using the same model as of October 31, 2022 using the following inputs: October 31, 2022 March 24, 2022 Fair value of common stock 1 $ 7.69 $ 13.77 Exercise price² $ 22.00 - $ 24.00 $ 22.00 - $ 24.00 Expected volatility 40.4 % 41.9 % Expected term (in years) 6.4 7.0 Risk-free interest rate 4.2 % 2.4 % Expected dividend yield — — ______________ (1) The fair value of common stock was adjusted to reflect certain restrictions on the Warrants for 18 months following the issuance date. (2) The range of exercise prices reflects the Warrants that were liability-classified. As of October 31, 2022, the liability-classified Warrants were revalued, resulting in a realized gain of $ 0.5 million and $ 9.3 million during the three and nine months ended October 31, 2022, respectively, which is included in Change in fair value of warrant liability in the accompanying unaudited condensed consolidated statements of comprehensive loss. Refer to Note 4. Fair Value Measurements for the fair value of the liability-classified Warrants. 24 Note 18. Net Loss Per Share The following table presents the calculation of basic and diluted net loss per share for the periods presented (in thousands, except per share data): Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 2022 2021 Numerato Net loss $ ( 37,034 ) $ ( 22,889 ) $ ( 90,112 ) $ ( 64,243 ) Denominato Weighted-average common shares outstanding, basic and diluted 132,579 125,141 130,461 123,230 Net loss per share, basic and diluted $ ( 0.28 ) $ ( 0.18 ) $ ( 0.69 ) $ ( 0.52 ) Since we were in a net loss position for all periods presented, basic net loss per share attributable to common stockholders is the same as diluted net loss per share, as the inclusion of all potential common shares outstanding would have been anti-dilutive. Potentially dilutive securities that were not included in the diluted per share calculations because they would be anti-dilutive were as follows (in thousands): October 31, 2022 2021 Initial Notes conversion 12,500 — Unvested RSUs issued and outstanding 14,234 12,618 Issued and outstanding stock options 7,875 9,018 Warrants 7,500 — Unvested PSUs issued and outstanding 2,905 — Shares committed under ESPP 439 324 Total 45,453 21,960 Note 19. Zephr Acquisition On September 2, 2022 (Acquisition Closing Date), we acquired all of the outstanding equity securities of Zephr, a leading subscription experience platform used by global digital publishing and media companies, pursuant to a Share Purchase Agreement (Zephr SPA). Purchase Consideration The purchase consideration for the Zephr acquisition was $ 47.9 million, which includes (1) cash payments of $ 43.1 million, and (2) contingent consideration with an estimated fair value of $ 4.8 million on the Acquisition Closing Date, payable if certain conditions are met. The contingent consideration arrangement requires us to pay the former stockholders of Zephr a multiple of the amount by which Zephr’s Annual Recurring Revenue (ARR) as of January 31, 2023 exceeds a target set in the Zephr SPA. The future payment is expected to be between $ 0 and $ 6.0 million, depending upon Zephr's ARR achievement. The fair value of the contingent consideration arrangement as of the Acquisition Closing Date was $ 4.8 million and was estimated by applying a probability-weighted discounted cash flow method. This fair value measurement is based on significant unobservable inputs in the market and thus represents a Level 3 measurement within the fair value hierarchy. This analysis reflects the contractual terms of the Zephr SPA (e.g., potential payment amounts, length of measurement periods, manner of calculating any amounts due, etc.) and utilizes assumptions with regard to future cash flows, probabilities of achieving such future cash flows, and a discount rate. 25 As of October 31, 2022, the contingent consideration arrangement was revalued, resulting in a credit of $ 1.8 million, which is included in General and administrative in the accompanying unaudited condensed consolidated statements of comprehensive loss. Contingent consideration was classified as a liability and included in Accrued expenses and other current liabilities in the accompanying unaudited condensed consolidated balance sheets. Assets and Liabilities Acquired The acquisition was accounted for as a business combination using the acquisition method of accounting in accordance with ASC 805, Business Combinations. The excess of the purchase price over the estimated fair value of the tangible and intangible assets acquired and liabilities assumed has been recorded as goodwill. The Zephr acquisition resulted in recorded goodwill as a result of the synergies expected to be realized and how we expect to leverage the business to create additional value for our shareholders. The goodwill is no t expected to be deductible for income tax purposes. The following table summarizes the preliminary estimate of the fair value of the assets acquired and liabilities assumed as of September 2, 2022 (in thousands): Total Cash $ 2,103 Accounts receivable 641 Prepaid expenses and other current assets 916 Fixed Assets 120 Intangible assets: Tradename 800 Developed technology 10,300 Customer relationships 900 Goodwill 35,009 Accounts payable ( 292 ) Accrued liabilities ( 303 ) Other current liabilities ( 225 ) Deferred revenue ( 2,056 ) Fair value of net assets acquired $ 47,913 The fair value of the acquired trade accounts receivables approximates the carrying value of trade accounts receivables due to the short-term nature of the expected timeframe to collect the amounts due to us and the contractual cash flows, which are expected to be collected related to these receivables. We engaged a third-party specialist to assist management in the determination of the estimated fair value of intangible assets acquired. Variations of the income approach were used to estimate the fair values. Specifically, the relief from royalty method was used to measure the trade name, the multi period excess earnings method was used to measure the developed technology, and the distributor method was used to measure the customer relationships. The following table summarizes the acquired identifiable intangible assets, Acquisition Closing Date estimated fair values, and estimated useful lives (dollars in thousands): Fair Value Useful Life Trade name $ 800 3.0 years Developed technology 10,300 7.0 years Customer relationships 900 10.0 years Total intangible assets acquired $ 12,000 The estimated fair values of the consideration transferred and net assets acquired are subject to refinement for up to one year after the Acquisition Closing Date as additional information regarding closing date fair value becomes 26 available. During this one-year period, the causes of any changes in cash flow estimates are considered to determine whether the change results from circumstances that existed at the acquisition date, or if the change results from an event that occurred after the Acquisition Closing Date. The purchase price allocation for Zephr is preliminary as the working capital adjustments have not been finalized. Transaction Costs We incurred transaction costs in connection with the acquisition of $ 3.4 million during the nine months ended October 31, 2022, which were expensed as incurred and reflected as part of General and administrative within the accompanying unaudited condensed consolidated statements of comprehensive loss. Employee Deferral We agreed to pay $ 2.9 million to certain former Zephr employees, half of which is payable on September 2, 2023 and the remainder of which is payable on September 2, 2024, contingent upon continued employment with us through those dates. These costs are being recognized as compensation expense as service is provided through the respective payment dates. Note 20. Subsequent Events On November 30, 2022, Zuora approved a workforce reduction plan, impacting 11 % of our workforce, to improve operational efficiencies and operating costs and better align our workforce with current business needs, priorities, and near term growth expectations, i n light of current macroeconomic uncertainties . We expect to recognize a total of approxima tely $ 9.5 million in cha rges associated with this reduction plan, consisting primarily of termination benefits to the impacted employees, including severance payments and healthcare benefits. We expect substantially all of these charges to be cash expenditures. We recogniz ed $ 3.7 million of these cha rges in the three months ended October 31, 2022, an d expect to recognize substantially all of the remaining charges in the three months ended January 31, 2023. Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements and related notes appearing elsewhere in this Form 10-Q and our Annual Report on Form 10-K for the fiscal year ended January 31, 2022 filed with the Securities and Exchange Commission (SEC) on March 28, 2022 (Annual Report). As discussed in the section titled “Special Note Regarding Forward-Looking Statements,” the following discussion and analysis contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. Factors that could cause or contribute to these differences include, but are not limited to, those identified below and those discussed in the section titled “Risk Factors” under Part II, Item 1A in this Form 10-Q and in our Annual Report. Our fiscal year ends on January 31. Overview Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the entire quote-to-cash and revenue recognition process, including quoting, billing, collections and revenue recognition. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. Many of today’s enterprise software systems manage their quote-to-cash and revenue recognition process using software built for one-time transactions. These systems were not designed for the dynamic, ongoing nature of subscription, usage, or consumption-based pricing models, and can be extremely difficult to configure. In traditional product-based businesses, quote-to-cash and revenue recognition was a linear process—a customer orders a product, is billed for that product, payment is collected, and the revenue is recognized. These legacy product-based systems were not specifically designed to handle the complexities of ongoing customer relationships and recurring revenue commonly found in a subscription business, and their impact on areas such as billing proration, revenue 27 recognition, reporting in real-time, and the lifetime value of the customer. Using legacy or homegrown software to build a subscription business often results in inefficient processes with prolonged and complex manual downstream work, hard-coded customizations, and a proliferation of stock-keeping units (SKUs). However, enterprise business models are inherently dynamic, with multiple interactions, flexible pricing, global complexities, and continuously-evolving relationships and events. The capabilities to launch, price, and bill for products, facilitate and record cash receipts, process and recognize revenue, and analyze data to drive key decisions are mission critical and particularly complex for companies that operate at a global scale. As a result, as companies launch, grow, and scale their businesses, they often conclude that legacy systems are inadequate. That’s where Zuora comes in. Our vision is “The World Subscribed” -- the idea that one day every company will be a part of the Subscription Economy. Our focus has been on providing the technology our customers need to thrive as a customer-centric, recurring revenue business. Our solution includes Zuora Central Platform, Zuora Billing, Zuora Revenue, Zuora Collect, Zephr, and other software that support and expand upon these core products. Our software helps companies analyze data - including information such as which customers are delivering the most recurring revenue, or which segments are showing the highest churn, enabling customers to make informed decisions for their subscription business and quickly implement changes such as launching new services, updating pricing (usage, time, or outcome based), delivering new offerings, or making other changes to their customers’ subscription experience. We also have a large subscription ecosystem of global partners and the Subscribed Strategy Group, that can assist our customers with additional strategies and services throughout the subscription journey. Companies in a variety of industries - technology, manufacturing, media and entertainment, telecommunications, and many others - are using our solution to scale and adapt to a world that is increasingly choosing subscription-based offerings. COVID-19 Pandemic Impact Our financial results for the first nine months of fiscal 2023 have not been materially impacted by the COVID-19 pandemic. The extent to which the COVID-19 pandemic impacts our business operations, financial performance and liquidity in future periods will depend on multiple uncertain factors, including the duration and severity of the COVID-19 pandemic, developments related to COVID-19 variants and vaccine efficacy, the pandemic’s overall negative impact on the global economy generally and on our customers, which operate in numerous industries, and continued responses by governments and businesses to COVID-19. Because our products are generally offered as subscription-based licenses and a portion of that revenue is recognized over time, the effect of the COVID-19 pandemic may not be fully reflected in our results of operations until future periods. We will continue to evaluate the nature and extent of the impact of the COVID-19 pandemic on our business. See Part II, Item 1A. Risk Factors of this Quarterly Report on Form 10-Q for further discussion of the possible impact of the COVID-19 pandemic on our business and financial results. Fiscal Third Quarter Business Highlights and Recent Developments: • Customers with ACV exceeding $100,000 totaled 770 as of October 31, 2022, an increase of 7% compared to last year. We closed six deals that exceeded $500,000 in ACV. • Our dollar-based retention rate decreased to 109% compared to 110% as of October 31, 2021. • Our ARR was $350.7 million as of October 31, 2022 compared to $295.0 million as of October 31, 2021, representing ARR growth of 19%. • Customer usage of Zuora solutio ns grew, with $21.5 billion in transaction volume through Zuora's billing platform during the three months ended October 31, 2022, an increase of 15% year-over-year and 17% on a constant currency basis. • Acquired Zephr, a leading subscription experience platform used by global digital publishing and media companies. Refer to Note 19. Zephr Acquisition for further information. 28 • Committed to a workforce reduction plan designed to improve operational efficiencies and operating costs and better align our workforce with current business needs, priorities, and near term growth expectations, in light of macroeconomic uncertainties . Refer to Note 20. Subsequent Events. Fiscal Third Quarter Financial Performance Summary: Our financial performance for the three months ended October 31, 2022 compared to the three months ended October 31, 2021 reflects the followin • Subscription revenue was $86.6 million, an increase of $12.8 million, or 17%; and total revenue was $101.1 million, an increase of $11.8 million, or 13%. • On a constant currency basis, subscription revenue was $88.9 million, an increase of $15.1 million, or 20%; and total revenue was $104.1 million, an increase of $14.9 million, or 17%. • Gross profit was $60.8 million, or 60% of total of revenue, compared to $53.5 million, or 60% of total revenue. • Loss from operations was $33.9 million, or 34% of total revenue, compared to a loss of $21.6 million, or 24% of total revenue. Key Operational and Financial Metrics We monitor the following key operational and financial metrics to evaluate our business, measure our performance, identify trends affecting our business, formulate business plans and make strategic decisio Customers with Annual Contract Value (ACV) Equal to or Greater than $100,000 We believe our ability to enter into larger contracts is indicative of broader adoption of our solution by larger organizations. It also reflects our ability to expand our revenue footprint within our current customer base. We define ACV as the subscription revenue we would contractually expect to recognize from that customer over the next twelve months, assuming no increases or reductions in their subscriptions. We define the number of customers at the end of any particular period as the number of parties or organizations that have entered into a distinct subscription contract with us for which the term has not ended. Each party with which we have entered into a distinct subscription contract is considered a unique customer, and in some cases, there may be more than one customer within a single organization. The number of customers with ACV equal to or greater than $100,000 increased to 770 as of October 31, 2022, as compared to 720 customers as of October 31, 2021. We expect this metric to be relatively flat for the remainder of the fiscal year. Dollar-Based Retention Rate We believe our dollar-based retention rate is a key measure of our ability to retain and expand revenue from our customer base over time. We calculate our dollar-based retention rate as of a period end by starting with the sum of the ACV from all customers as of twelve months prior to such period end, or prior period ACV. We then calculate the sum of the ACV from these same customers as of the current period end, or current period ACV. Current period ACV includes any upsells and also reflects contraction or attrition over the trailing twelve months, but excludes revenue from new customers added in the current period. We then divide the current period ACV by the prior period ACV to arrive at our dollar-based retention rate. Our dollar-based retention rate decreased to 109% as of October 31, 2022, as compared to 110% as of October 31, 2021. While the dollar-based retention rate can fluctuate in any particular quarter, we expect it to decrease slightly over the remainder of this fiscal year. Annual Recurring Revenue (ARR) ARR represents the annualized recurring value at the time of initial booking or contract modification for all active subscription contracts at the end of a reporting period. ARR excludes the value of non-recurring revenue such as professional services revenue as well as contracts with new customers with a term of less than one year. ARR should be viewed independently of revenue and deferred revenue, and is not intended to be a substitute for, or combined with, any of these items. Our ARR was $350.7 million as of October 31, 2022, compared to $295.0 million as of October 31, 2021, representing an increase of 19% year-over-year. For the comparable prior year period 29 ending October 31, 2021, our ARR growth was also 19% year-over-year. We expect our ARR year-over-year growth rate to decrease over the remainder of the fiscal year. Components of Our Results of Operations Revenue Subscription revenue. Subscription revenue consists of fees for access to, and use of, our products, as well as customer support. We generate subscription fees pursuant to non-cancelable subscription agreements with terms that typically range from one to three years. Subscription revenue is primarily based on fees to access our services platform over the subscription term. We typically invoice customers in advance in either annual or quarterly installments. Customers can also elect to purchase additional volume blocks or products during the term of the contract. We typically recognize subscription revenue ratably over the term of the subscription period, beginning on the date that access to our platform is provided, which is generally on or about the date the subscription agreement is signed. Professional services revenue. Professional services revenue consists of fees for services related to helping our customers deploy, configure, and optimize the use of our solutions. These services include system integration, data migration, process enhancement, and training. Professional services projects generally take three to twelve months to complete. Once the contract is signed, we generally invoice for professional services on a time and materials basis, although we occasionally engage in fixed-price service engagements and invoice for those based upon agreed milestone payments. We recognize revenue as services are performed for time and materials engagements and on a proportional performance method as the services are performed for fixed fee engagements. We expect to continue to transition a portion of our professional services implementations to our strategic partners, including system integrators (SIs), and as a result we expect our professional services revenue to decrease over time as a percentage of total revenue. Deferred Revenue Deferred revenue consists of customer billings in advance of revenue being recognized from our subscription and support services and professional services arrangements. We primarily invoice our customers for subscription services arrangements annually or quarterly in advance. Amounts anticipated to be recognized within one year of the balance sheet date are recorded as deferred revenue, current portion, and the remaining portion is recorded as deferred revenue, net of current portion in our unaudited condensed consolidated balance sheets. Overhead Allocation and Employee Compensation Costs We allocate shared costs, such as facilities costs (including rent, utilities, and depreciation on capital expenditures related to facilities shared by multiple departments), information technology costs, and certain administrative personnel costs to all departments based on headcount and location. As such, allocated shared costs are reflected in each cost of revenue and operating expenses category. Employee compensation costs consist of salaries, bonuses, commissions, benefits, and stock-based compensation. Cost of Revenue, Gross Profit and Gross Margin Cost of subscription revenue. Cost of subscription revenue consists primarily of costs related to hosting our platform and providing customer support. These costs include data center costs and third-party hosting fees, employee compensation costs associated with our cloud-based infrastructure and our customer support organizations, amortization expense associated with capitalized internal-use software and purchased technology, allocated overhead, software and maintenance costs, and outside services associated with the delivery of our subscription services. We intend to continue to invest in our platform infrastructure, including third-party hosting capacity, and support organizations. However, the level and timing of investment in these areas could fluctuate and affect our cost of subscription revenue in the future. Cost of professional services revenue. Cost of professional services revenue consists primarily of costs related to the deployment of our platform. These costs include employee compensation costs for our professional services team, allocated overhead, travel costs, and costs of outside services associated with supplementing our internal 30 staff. We believe that investment in our system integrator partner network will lead to total margin improvement, however costs may fluctuate in the near term as we shift deployments to our partner network. Gross profit and gross margin. Our gross profit and gross margin may fluctuate from period to period as our revenue fluctuates, and as a result of the timing and amount of investments to expand hosting capacity, including through third-party cloud providers, amortization expense associated with our capitalized internal-use software and purchased technology, and our continued efforts to build our cloud infrastructure, support, and professional services teams. Operating Expenses Research and development. Research and development expense consists primarily of employee compensation costs, allocated overhead, and travel costs. We capitalize research and development costs associated with the development of internal-use software and we generally amortize these costs over a period of three years into cost of subscription revenue. All other research and development costs are expensed as incurred. We believe that continued investment in our platform is important for our growth, and as such, expect our research and development expense to continue to increase in absolute dollars for the foreseeable future but may increase or decrease as a percentage of total revenue. Sales and marketing. Sales and marketing expense consists primarily of employee compensation costs, including the amortization of deferred commissions related to our sales personnel, allocated overhead, costs of general marketing and promotional activities, and travel costs. Commission costs that are incremental to obtaining a contract are amortized in sales and marketing expense over the period of benefit, which is expected to be five years. We expect to continue to make significant investments as we expand our customer acquisition and retention efforts. Therefore, we expect that sales and marketing expense will increase in absolute dollars but may vary as a percentage of total revenue for the foreseeable future. General and administrative. General and administrative expense consists primarily of employee compensation costs, allocated overhead, and travel costs for finance, accounting, legal, human resources, and recruiting personnel. In addition, general and administrative expense includes non-personnel costs, such as accounting fees, legal fees, charitable contributions, asset impairments, and all other supporting corporate expenses not allocated to other departments. We expect to incur ongoing costs as a result of operating as a public company, including costs related to compliance and reporting obligations of public companies, and continued investment to support our growing operations. As a result, we expect our general and administrative expense to continue to increase in absolute dollars for the foreseeable future but may vary as a percentage of total revenue in the near term. Over the long-term, we expect general and administrative expense to decline as a percentage of total revenue due to economies we will realize as we scale our business. Other income and expenses Other income and expenses primarily consists of gain or loss on the revaluation of the warrant liability, amortization of discount and amortization of debt issuance costs on the 2029 Notes, contractual interest on the 2029 Notes, interest expense associated with our Debt Agreement, interest income from our cash and cash equivalents and short-term investments, and foreign exchange fluctuations. Income Tax Provision Income tax provision consists primarily of income taxes related to foreign and state jurisdictions in which we conduct business. We maintain a full valuation allowance on our federal and state deferred tax assets as we have concluded that it is more likely than not that the deferred assets will not be utilized. 31 Results of Operations The following tables set forth our unaudited condensed consolidated results of operations for the periods presented in dollars and as a percentage of our total revenue (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 2022 2021 Reve Subscription $ 86,567 $ 73,775 $ 248,878 $ 210,415 Professional services 14,505 15,455 44,168 45,631 Total revenue 101,072 89,230 293,046 256,046 Cost of reve Subscription 21,727 17,279 60,024 50,190 Professional services 18,553 18,416 55,140 54,218 Total cost of revenue 40,280 35,695 115,164 104,408 Gross profit 60,792 53,535 177,882 151,638 Operating expens Research and development 28,413 21,738 77,639 61,565 Sales and marketing 46,973 37,004 132,576 105,130 General and administrative 19,327 16,370 55,433 46,931 Total operating expenses 94,713 75,112 265,648 213,626 Loss from operations (33,921) (21,577) (87,766) (61,988) Change in fair value of warrant liability 452 — 9,348 — Interest expense (4,444) (39) (10,647) (111) Interest and other income (expense), net 1,187 (663) 98 (923) Loss before income taxes (36,726) (22,279) (88,967) (63,022) Income tax provision 308 610 1,145 1,221 Net loss $ (37,034) $ (22,889) $ (90,112) $ (64,243) 32 Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 2022 2021 Reve Subscription 86 % 83 % 85 % 82 % Professional services 14 17 15 18 Total revenue 100 100 100 100 Cost of reve Subscription 21 19 20 20 Professional services 18 21 19 21 Total cost of revenue 40 40 39 41 Gross profit 60 60 61 59 Operating expens Research and development 28 24 26 24 Sales and marketing 46 41 45 41 General and administrative 19 18 19 18 Total operating expenses 94 84 91 83 Loss from operations (34) (24) (30) (24) Change in fair value of warrant liability — — 3 — Interest expense (4) — (4) — Interest and other income (expense), net 1 (1) — — Loss before income taxes (36) (25) (30) (25) Income tax provision — 1 — — Net loss (37) % (26) % (31) % (25) % Note: Percentages in the table above may not sum due to rounding. Non-GAAP Financial Measures To supplement our unaudited condensed consolidated financial statements presented in accordance with U.S. GAAP, we monitor and consider non-GAAP financial measures includin subscription revenue and total revenue that exclude the impact of foreign currency exchange rate fluctuations (constant currency basis); non-GAAP cost of subscription revenue; non-GAAP cost of professional services revenue; non-GAAP gross profit; non-GAAP subscription gross margin; non-GAAP professional services gross margin; non-GAAP total gross margin; non-GAAP research and development expense; non-GAAP sales and marketing expense; non-GAAP general and administrative expense; non-GAAP income (loss) from operations; non-GAAP operating margin; non-GAAP net loss; non-GAAP net loss per share; and free cash flow. We use non-GAAP financial measures in conjunction with GAAP measures as part of our overall assessment of our performance, including the preparation of our annual operating budget and quarterly forecasts, to evaluate the effectiveness of our business strategies and to communicate with our Board of Directors concerning our financial performance. We believe these non-GAAP measures provide investors consistency and comparability with our past financial performance and facilitate period-to-period comparisons of our operating results. We also believe these non-GAAP measures are useful in evaluating our operating performance compared to that of other companies in our industry, as they generally eliminate the effects of certain items that may vary for different companies for reasons unrelated to overall operating performance. Investors are cautioned that there are material limitations associated with the use of non-GAAP financial measures as an analytical tool. The non-GAAP financial measures we use may be different from non-GAAP financial measures used by other companies, limiting their usefulness for comparison purposes. We compensate for these limitations by providing specific information regarding the GAAP items excluded from our non-GAAP financial measures. The presentation of these non-GAAP financial measures is not intended to be considered in isolation or as a substitute for, or superior to, financial information prepared and presented in accordance with GAAP. Reconciliations of our non-GAAP financial measures to the nearest respective GAAP measures are provided below. 33 We exclude the following items from one or more of our non-GAAP financial measu • Stock-based compensation expense . We exclude stock-based compensation expense, which is a non-cash expense, because we believe that excluding this item provides meaningful supplemental information regarding operational performance. In particular, stock-based compensation expense is not comparable across companies given it is calculated using a variety of valuation methodologies and subjective assumptions. • Amortization of acquired intangible assets . We exclude amortization of acquired intangible assets, which is a non-cash expense, because we do not believe it has a direct correlation to the operation of our business. • Charitable contributions . We exclude expenses associated with charitable donations of our common stock. We believe that excluding these non-cash expenses allows investors to make more meaningful comparisons between our operating results and those of other companies. • Certain litigation. We exclude non-recurring charges and benefits, net of expected insurance recoveries, including litigation expenses and settlements, related to litigation matters that are outside of the ordinary course of our business. We believe these charges and benefits do not have a direct correlation to the operations of our business and may vary in size depending on the timing and results of such litigation and related settlements. • Asset impairment . We exclude non-cash charges for impairment of assets, including impairments related to internal-use software and office leases. Impairment charges can vary significantly in terms of amount and timing and we do not consider these charges indicative of our current or past operating performance. Moreover, we believe that excluding the effects of these charges allows investors to make more meaningful comparisons between our operating results and those of other companies. • Change in fair value of warrant liabilities. We exclude the change in fair value of warrant liabilities, which is a non-cash gain or loss, as it can fluctuate significantly with changes in Zuora's stock price and market volatility, and does not reflect the underlying cash flows or operational results of the business. • Acquisition-related transactions . We exclude acquisition-related transactions (including integration-related charges) that are not related to our ongoing operations, including expenses we incurred and gains or losses recognized on contingent consideration related to our acquisition of Zephr. We do not consider these transactions reflective of our core business or ongoing operating performance. • Workforce reduction . We exclude charges related to the workforce reduction plan we approved in November 2022, including severance, health care and related expenses. We believe these charges are not indicative of our continuing operations. The following tables provide a reconciliation of our GAAP to non-GAAP measures (in thousands, except percentages and per share data): 34 Three Months Ended October 31, 2022 GAAP Stock-based Compensation Amortization of Acquired Intangibles Certain Litigation Change in Fair Value of Warrant Liability Acquisition-related Transactions Workforce Reduction Non-GAAP Cost of reve Cost of subscription revenue $ 21,727 $ (2,437) $ (586) $ — $ — $ — $ (147) $ 18,557 Cost of professional services revenue 18,553 (3,479) — — — — (399) 14,675 Gross profit 60,792 5,916 586 — — — 546 67,840 Operating expens Research and development 28,413 (7,536) — — — — (512) 20,365 Sales and marketing 46,973 (10,188) — — — — (2,390) 34,395 General and administrative 19,327 (5,367) — (16) — (1,268) (212) 12,464 (Loss) income from operations (33,921) 29,007 586 16 — 1,268 3,660 616 Net loss $ (37,034) $ 29,007 $ 586 $ 16 $ (452) $ 1,268 $ 3,660 $ (2,949) Net loss per share, basic and diluted 1 $ (0.28) $ (0.02) Gross margin 60 % 67 % Subscription gross margin 75 % 79 % Professional services gross margin (28) % (1) % Operating margin (34) % 1 % Three Months Ended October 31, 2021 GAAP Stock-based Compensation Amortization of Acquired Intangibles Certain Litigation Non-GAAP Cost of reve Cost of subscription revenue $ 17,279 $ (1,580) $ (554) $ — $ 15,145 Cost of professional services revenue 18,416 (2,822) — — 15,594 Gross profit 53,535 4,402 554 — 58,491 Operating expens Research and development 21,738 (5,774) — — 15,964 Sales and marketing 37,004 (6,298) — — 30,706 General and administrative 16,370 (3,438) — 114 13,046 Loss from operations (21,577) 19,912 554 (114) (1,225) Net loss $ (22,889) $ 19,912 $ 554 $ (114) $ (2,537) Net loss per share, basic and diluted 1 $ (0.18) $ (0.02) Gross margin 60 % 66 % Subscription gross margin 77 % 79 % Professional services gross margin (19) % (1) % Operating margin (24) % (1) % _________________________________ (1) GAAP and Non-GAAP net loss per share are calculated based upon 132.6 million and 125.1 million weighted-average shares of common stock outstanding for the three months ended October 31, 2022 and 2021, respectively. 35 Nine Months Ended October 31, 2022 GAAP Stock-based Compensation Amortization of Acquired Intangibles Charitable Contribution Certain Litigation Change in Fair Value of Warrant Liability Acquisition-related Transactions Workforce Reduction Non-GAAP Cost of reve Cost of subscription revenue $ 60,024 $ (6,517) $ (1,512) $ — $ — $ — $ — $ (147) $ 51,848 Cost of professional services revenue 55,140 (10,186) — — — — — (399) 44,555 Gross profit 177,882 16,703 1,512 — — — — 546 196,643 Operating expens Research and development 77,639 (20,967) — — — — — (512) 56,160 Sales and marketing 132,576 (27,603) — — — — — (2,390) 102,583 General and administrative 55,433 (14,772) — (1,000) (246) — (1,612) (212) 37,591 (Loss) income from operations (87,766) 80,045 1,512 1,000 246 — 1,612 3,660 309 Net loss $ (90,112) $ 80,045 $ 1,512 $ 1,000 $ 246 $ (9,348) $ 1,612 $ 3,660 $ (11,385) Net loss per share, basic and diluted 1 $ (0.69) $ (0.09) Gross margin 61 % 67 % Subscription gross margin 76 % 79 % Professional services gross margin (25) % (1) % Operating margin (30) % — % Nine Months Ended October 31, 2021 2 GAAP Stock-based Compensation Amortization of Acquired Intangibles Charitable Contribution Certain Litigation Non-GAAP Cost of reve Cost of subscription revenue $ 50,190 $ (4,157) $ (1,496) $ — $ — $ 44,537 Cost of professional services revenue 54,218 (7,487) — — — 46,731 Gross profit 151,638 11,644 1,496 — — 164,778 Operating expens Research and development 61,565 (15,546) — — — 46,019 Sales and marketing 105,130 (15,993) — — — 89,137 General and administrative 46,931 (8,595) — (1,000) (169) 37,167 Loss from operations (61,988) 51,778 1,496 1,000 169 (7,545) Net loss $ (64,243) $ 51,778 $ 1,496 $ 1,000 $ 169 $ (9,800) Net loss per share, basic and diluted 1 $ (0.52) $ (0.08) Gross margin 59 % 64 % Subscription gross margin 76 % 79 % Professional services gross margin (19) % (2) % Operating margin (24) % (3) % _________________________________ (1) GAAP and Non-GAAP net loss per share are calculated based upon 130.5 million and 123.2 million weighted-average shares of common stock outstanding for the nine months ended October 31, 2022 and 2021, respectively. (2) Beginning with the second quarter ended July 31, 2021, we no longer exclude non-cash adjustments for capitalization and amortization of internal-use software from our non-GAAP financial measures. We believe that this change more closely aligns our reported financial measures with current industry practice. Our non-GAAP financial measures for the nine months ended October 31, 2021 were recast to conform to the updated methodology for comparison purposes. 36 Free Cash Flow We define free cash flow as net cash provided by operating activities, less cash used for purchases of property and equipment, net of insurance recoveries. Insurance recoveries include amounts paid to us for property and equipment that were damaged in January 2020 at our corporate headquarters. We include the impact of net purchases of property and equipment in our free cash flow calculation because we consider these capital expenditures to be a necessary component of our ongoing operations. We consider free cash flow to be a liquidity measure that provides useful information to management and investors about the amount of cash generated by the business that can possibly be used for investing in our business and strengthening our balance sheet, but it is not intended to represent the residual cash flow available for discretionary expenditures. Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 2022 2021 (in thousands) Net cash (used in) provided by operating activities $ (4,861) $ 692 $ (2,679) $ 8,320 L Purchases of property and equipment, net of insurance recoveries (2,387) (2,347) (8,471) (5,700) Free cash flow $ (7,248) $ (1,655) $ (11,150) $ 2,620 Net cash (used in) provided by investing activities $ (19,416) $ 7,017 $ (165,922) $ (1,843) Net cash provided by financing activities $ 575 $ 4,394 $ 239,003 $ 16,364 Constant Currency We provide subscription revenue and total revenue, including year-over-year growth rates, adjusted to remove the impact of foreign currency rate fluctuations, which we refer to as constant currency. We believe providing revenue on a constant currency basis helps our investors to better understand our underlying performance. We calculate constant currency in a given period by applying the average currency exchange rates in the comparable period of the prior year to the local currency revenue in the current period. Three Months Ended October 31, Nine Months Ended October 31, 2022 2021 % Change 2022 2021 % Change (dollars in thousands) (dollars in thousands) Subscription revenue (GAAP) $ 86,567 $ 73,775 17 % $ 248,878 $ 210,415 18 % Effects of foreign currency rate fluctuations 2,319 4,132 Subscription revenue on a constant currency basis (Non-GAAP) $ 88,886 20 % $ 253,010 20 % Total revenue (GAAP) $ 101,072 $ 89,230 13 % $ 293,046 $ 256,046 14 % Effects of foreign currency rate fluctuations 3,061 5,850 Total revenue on a constant currency basis (Non-GAAP) $ 104,133 17 % $ 298,896 17 % 37 Comparison of the Three Months Ended October 31, 2022 and 2021 Revenue Three Months Ended October 31, 2022 2021 $ Change % Change (dollars in thousands) Reve Subscription $ 86,567 $ 73,775 $ 12,792 17 % Professional services 14,505 15,455 (950) (6) % Total revenue $ 101,072 $ 89,230 $ 11,842 13 % Percentage of reve Subscription 86 % 83 % Professional services 14 17 Total revenue 100 % 100 % Subscription revenue increased by $12.8 million, or 17%, for the three months ended October 31, 2022 compared to the three months ended October 31, 2021. The increase was driven by growth in our customer base, with new customers contributing approximately $5.3 million of the increase in subscription revenue, and increased transaction volume and sales of additional products to our existing customers contributing the remainder. We calculate subscription revenue from new customers during the quarter by adding the revenue recognized from new customers acquired in the 12 months prior to the reporting date. Professional services revenue decreased to $14.5 million for the three months ended October 31, 2022 from $15.5 million for the three months ended October 31, 2021, partially driven by the shifting of services work to our system integration partners. On a constant currency basis, subscription revenue was $88.9 million and increased 20%, and total revenue was $104.1 million and increased 17%, for the three months ended October 31, 2022 compared to the three months ended October 31, 2021. Cost of Revenue and Gross Margin Three Months Ended October 31, 2022 2021 $ Change % Change (dollars in thousands) Cost of reve Subscription $ 21,727 $ 17,279 $ 4,448 26 % Professional services 18,553 18,416 137 1 % Total cost of revenue $ 40,280 $ 35,695 $ 4,585 13 % Gross margin: Subscription 75 % 77 % Professional services (28) (19) Total gross margin 60 % 60 % Cost of subscription revenue increased by $4.4 million, or 26%, for the three months ended October 31, 2022 compared to the three months ended October 31, 2021. The increase in cost of subscription revenue was primarily due to increases of $2.5 million in employee compensation costs driven by increased headcount and stock-based compensation expense, $0.8 million in allocated expenses, and $0.6 million in amortization of internal-use software costs. Cost of professional services revenue increased by $0.1 million, or 1%, for the three months ended October 31, 2022 compared to the three months ended October 31, 2021. The increase in cost of professional services 38 revenue was primarily due to an increase of $1.5 million in employee compensation costs and charges of $0.4 million associated with the workforce reduction plan, which were partially offset by a decrease of $1.7 million in outside professional services costs. Our gross margin for subscription services decreased to 75% for the three months ended October 31, 2022 compared to 77% for the three months ended October 31, 2021. This was primarily driven by increased compensation related expenses. We expect our subscription gross margin to be relatively consistent for the remainder of the fiscal year. Our gross margin for professional services decreased to (28)% for the three months ended October 31, 2022 compared to (19)% for the three months ended October 31, 2021, primarily due to increased compensation related expenses and charges associated with the workforce reduction plan. Operating Expenses Research and Development Three Months Ended October 31, 2022 2021 $ Change % Change (dollars in thousands) Research and development $ 28,413 $ 21,738 $ 6,675 31 % Percentage of total revenue 28 % 24 % Research and development expense increased by $6.7 million, or 31%, for the three months ended October 31, 2022 compared to the three months ended October 31, 2021, primarily due to increases of $4.4 million in employee compensation costs driven by increased headcount and stock-based compensation expense, $0.8 million in outside professional services costs, and charges of $0.5 million associated with the workforce reduction plan. Research and development expense increased to 28% of total revenue for the three months ended October 31, 2022 from 24% during the three months ended October 31, 2021, primarily due to additional employee compensation expense. Sales and Marketing Three Months Ended October 31, 2022 2021 $ Change % Change (dollars in thousands) Sales and marketing $ 46,973 $ 37,004 $ 9,969 27 % Percentage of total revenue 46 % 41 % Sales and marketing expense increased by $10.0 million, or 27%, for the three months ended October 31, 2022 compared to the three months ended October 31, 2021, primarily due to increases of $7.0 million in employee compensation costs driven by increased headcount and stock-based compensation expense and $0.8 million in amortization of deferred commissions, and charges of $2.4 million associated with the workforce reduction plan. Sales and marketing expense increased to 46% of total revenue during the three months ended October 31, 2022 from 41% during the three months ended October 31, 2021, as a result of higher employee compensation costs and the charges incurred this quarter associated with the workforce reduction plan. 39 General and Administrative Three Months Ended October 31, 2022 2021 $ Change % Change (dollars in thousands) General and administrative $ 19,327 $ 16,370 $ 2,957 18 % Percentage of total revenue 19 % 18 % General and administrative expense increased by $3.0 million, or 18%, for the three months ended October 31, 2022 compared to the three months ended October 31, 2021, primarily due to increases of $3.1 million in acquisition-related costs and $2.2 million in employee compensation costs driven by increased stock-based compensation expense, partially offset by a $1.8 million gain on the revaluation of the contingent consideration from the Zephr acquisition, and a decrease of $0.6 million in outside professional services costs. General and administrative expense increased to 19% of total revenue during the three months ended October 31, 2022 from 18% of total revenue during the three months ended October 31, 2021. Other income and expenses Three Months Ended October 31, 2022 2021 $ Change % Change (dollars in thousands) Change in fair value of warrant liability $ 452 $ — $ 452 N/A Interest expense $ (4,444) $ (39) $ (4,405) 11295 % Interest and other income (expense), net $ 1,187 $ (663) $ 1,850 279 % During the three months ended October 31, 2022 we recognized a $0.5 million gain on revaluation of the liability-classified Warrants issued in connection with the 2029 Notes. Interest expense increased $4.4 million due to the issuance of the the Initial Notes on March 24, 2022. Interest and other income (expense), net increased $1.9 million due to increased investment balances and higher interest rates, partially offset by expense resulting from the revaluation of cash, accounts receivable, and accounts payable recorded in a foreign currency. Income Tax Provision Three Months Ended October 31, 2022 2021 $ Change % Change (dollars in thousands) Income tax provision $ 308 $ 610 $ (302) (50) % We are subject to federal and state income taxes in the United States and taxes in foreign jurisdictions. For the three months ended October 31, 2022 and 2021, we recorded a tax provision of $0.3 million and $0.6 million, respectively, on a loss before income taxes of $36.7 million and $22.3 million, respectively. The effective tax rate for the three months ended October 31, 2022 and 2021 was (0.8)% and (2.7)%, respectively. The change in the effective tax rate was due primarily to a decrease in foreign tax expense. The effective tax rate differs from the statutory rate primarily as a result of providing no benefit on pretax losses incurred in the United States. For the three months ended October 31, 2022 and 2021, we maintained a full valuation allowance on our U.S. federal and state net deferred tax assets as it was more likely than not that those deferred tax assets will not be realized. 40 Comparison of the Nine Months Ended October 31, 2022 and 2021 Revenue Nine Months Ended October 31, 2022 2021 $ Change % Change (dollars in thousands) Reve Subscription $ 248,878 $ 210,415 $ 38,463 18 % Professional services 44,168 45,631 (1,463) (3) % Total revenue $ 293,046 $ 256,046 $ 37,000 14 % Percentage of reve Subscription 85 % 82 % Professional services 15 18 Total revenue 100 % 100 % Subscription revenue increased by $38.5 million, or 18%, for the nine months ended October 31, 2022 compared to the nine months ended October 31, 2021. The increase was driven by growth in our customer base, with new customers contributing approximately $16.6 million of the increase in subscription revenue for the nine months ended October 31, 2022 compared to the nine months ended October 31, 2021 , and increased transaction volume and sales of additional products to our existing customers contributing the remainder. We calculate subscription revenue from new customers on a year-to-date basis by adding the revenue recognized from new customers acquired in the 12 months prior to each discrete quarter within the year-to-date period. Professional services revenue decreased by $1.5 million, or (3)%, for the nine months ended October 31, 2022 compared to the nine months ended October 31, 2021, partially driven by the shifting of services work to our system integration partners. On a constant currency basis, subscription revenue was $253.0 million and increased 20%, and total revenue was $298.9 million and increased 17%, for the nine months ended October 31, 2022 compared to the nine months ended October 31, 2021 . Cost of Revenue and Gross Margin Nine Months Ended October 31, 2022 2021 $ Change % Change (dollars in thousands) Cost of reve Subscription $ 60,024 $ 50,190 $ 9,834 20 % Professional services 55,140 54,218 922 2 % Total cost of revenue $ 115,164 $ 104,408 $ 10,756 10 % Gross margin: Subscription 76 % 76 % Professional services (25) (19) Total gross margin 61 % 59 % Cost of subscription revenue increased by $9.8 million, or 20%, for the nine months ended October 31, 2022 compared to the nine months ended October 31, 2021. The increase in cost of subscription revenue was primarily driven by increases of $7.0 million in employee compensation costs driven by increased headcount and stock-based compensation expense, $1.1 million in outside professional services costs, $0.9 million in allocated expenses, and $0.8 million in amortization of internal-use software costs. 41 Cost of professional services revenue increased by $0.9 million, or 2%, for the nine months ended October 31, 2022 compared to the nine months ended October 31, 2021. The increase in cost of professional services revenue was primarily driven by an increase of $4.7 million in employee compensation costs, partially offset by a decrease of $4.1 million in outside professional services costs. Our gross margin for subscription services remained constant at 76% for the nine months ended October 31, 2022 and 2021. Our gross margin for professional services decreased to (25)% for the nine months ended October 31, 2022 compared to (19)% for the nine months ended October 31, 2021, primarily due to increased compensation related expenses. Operating Expenses Research and Development Nine Months Ended October 31, 2022 2021 $ Change % Change (dollars in thousands) Research and development $ 77,639 $ 61,565 $ 16,074 26 % Percentage of total revenue 26 % 24 % Research and development expense increased by $16.1 million, or 26%, for the nine months ended October 31, 2022 compared to the nine months ended October 31, 2021. The increase in research and development expense was primarily driven by increases of $12.0 million in employee compensation costs driven by increased headcount and stock-based compensation expense and $3.5 million in outside professional services costs, and charges of $0.5 million associated with the workforce reduction plan. Research and development expense increased to 26% from 24% of total revenue during the nine months ended October 31, 2022 compared to nine months ended October 31, 2021, primarily due to additional employee compensation expense. Sales and Marketing Nine Months Ended October 31, 2022 2021 $ Change % Change (dollars in thousands) Sales and marketing $ 132,576 $ 105,130 $ 27,446 26 % Percentage of total revenue 45 % 41 % Sales and marketing expense increased by $27.4 million, or 26%, for the nine months ended October 31, 2022 compared to the nine months ended October 31, 2021, primarily due to increases of $20.4 million in employee compensation costs driven by increased headcount and stock-based compensation expense, $2.3 million in amortization of deferred commissions, and $1.5 million in travel costs, and charges of $2.4 million associated with the workforce reduction plan. Sales and marketing expense increased to 45% of total revenue during the nine months ended October 31, 2022 from 41% during the nine months ended October 31, 2021, as a result of higher employee compensation costs and the charges incurred this quarter associated with the workforce reduction plan. 42 General and Administrative Nine Months Ended October 31, 2022 2021 $ Change % Change (dollars in thousands) General and administrative $ 55,433 $ 46,931 $ 8,502 18 % Percentage of total revenue 19 % 18 % General and administrative expense increased by $8.5 million, or 18%, for the nine months ended October 31, 2022 compared to the nine months ended October 31, 2021, primarily due to an $8.1 million increase in employee compensation costs driven by increased stock-based compensation expense, and a $3.1 million increase in acquisition-related costs, partially offset by a $1.8 million gain on the revaluation of the contingent consideration from the Zephr acquisition and a $0.9 million decrease in outside professional service costs. General and administrative expense increased slightly to 19% of total revenue during the nine months ended October 31, 2022 compared to 18% during the nine months ended October 31, 2021. Other income and expenses Nine Months Ended October 31, 2022 2021 $ Change % Change (dollars in thousands) Change in fair value of warrant liability $ 9,348 $ — $ 9,348 N/A Interest expense $ (10,647) $ (111) $ (10,536) 9492 % Interest and other income (expense), net $ 98 $ (923) $ 1,021 111 % During the nine months ended October 31, 2022 we recognized an $9.3 million gain on revaluation of the liability-classified Warrants issued in connection with the 2029 Notes. Interest expense increased $10.5 million due to the issuance of the the Initial Notes on March 24, 2022. Interest and other income (expense), net increased $1.0 million due to increased investment balances and higher interest rates, partially offset by expense resulting from the revaluation of cash, accounts receivable, and payables recorded in a foreign currency. Income Tax Provision Nine Months Ended October 31, 2022 2021 $ Change % Change (dollars in thousands) Income tax provision $ 1,145 $ 1,221 $ (76) (6) % We are subject to federal and state income taxes in the United States and taxes in foreign jurisdictions. For the nine months ended October 31, 2022 and 2021, we recorded a tax provision of $1.1 million and $1.2 million, respectively, on losses before income taxes of $89.0 million and $63.0 million, respectively. The effective tax rates for the nine months ended October 31, 2022 and 2021 were (1.3)% and (1.9)%, respectively. The change was due primarily to a decrease in foreign tax expenses. The effective tax rate differs from the statutory rate primarily as a result of no benefit on pretax losses incurred in the United States. For the nine months ended October 31, 2022 and 2021, we maintained a full valuation allowance on our U.S. federal and state net deferred tax assets as it was more likely than not that those deferred tax assets will not be realized. Liquidity and Capital Resources Liquidity is a measure of our ability to access sufficient cash flows to meet the short-term and long-term cash requirements of our business operations. As of October 31, 2022, we had cash and cash equivalents and short-term investments of $400.6 million that was primarily invested in deposit accounts, money market funds, corporate debt securities, supranational securities, 43 commercial paper, and U.S. and foreign government securities. We do not enter into investments for trading or speculative purposes. We finance our operations primarily through sales to our customers, which are generally billed in advance on an annual or quarterly basis. Customers with annual or multi-year contracts are generally only billed one annual period in advance. We also finance our operations through proceeds from the issuance of stock under our employee stock plans, borrowings under our Debt Agreement, proceeds from our issuance of the Initial Notes and other financing arrangements. On March 24, 2022, we issued $250.0 million aggregate principal amount of convertible senior unsecured notes to fund the future growth and expansion of our business. Under the 2029 Notes, we expect to issue an additional $150.0 million in convertible senior unsecured notes within 18 months of the Initial Closing Date. We had no borrowings under our Debt Agreement as of October 31, 2022, and have the ability borrow up to $30.0 million in revolving loans until October 2025 under the agreement. See Note 9. Debt to our unaudited condensed consolidated financial statements included in this Form 10-Q for more information about the 2029 Notes and our Debt Agreement. In the short term, we believe our existing cash and cash equivalents, marketable securities, and cash flow from operations (in periods in which we generate cash flow from operations) will be sufficient for at least the next 12 months to meet our requirements and plans for cash, including meeting our working capital requirements and capital expenditure requirements, and servicing our debt. In the long term, our ability to support our requirements and plans for cash, including meeting our working capital and capital expenditure requirements, will depend on many factors, including our revenue growth rate, the timing and the amount of cash received from customers, the expansion of sales and marketing activities, the timing and extent of spending to support research and development efforts, the cost to develop and support our offering, the introduction of new products and services, the continuing adoption of our products by customers, any acquisitions or investments that we make in complementary businesses, products, and technologies, and our ability to obtain equity or debt financing. We continually evaluate our capital needs and may decide to raise additional capital to fund the growth of our business for general corporate purposes through public or private equity offerings or through additional debt financing. We also may in the future make investments in or acquire businesses or technologies that could require us to seek additional equity or debt financing. To facilitate acquisitions or investments, we may seek additional equity or debt financing, which may not be available on terms favorable to us or at all. Sales of additional equity could result in dilution to our stockholders. We expect proceeds from the exercise of stock options in future years to be impacted by the increased mix of restricted stock units versus stock options granted to employees and to vary based on our share price. Cash Flows The following table summarizes our cash flows for the periods indicated (in thousands): Nine Months Ended October 31, 2022 2021 Net cash (used in) provided by operating activities $ (2,679) $ 8,320 Net cash used in investing activities (165,922) (1,843) Net cash provided by financing activities 239,003 16,364 Effect of exchange rates on cash and cash equivalents (1,648) (386) Net increase in cash and cash equivalents $ 68,754 $ 22,455 Operating Activities Net cash used in operating activities of $2.7 million for the nine months ended October 31, 2022 was comprised primarily of customer collections for our subscription and professional services, cash payments for our personnel, sales and marketing efforts and infrastructure related costs, payments to vendors for products and services related to our ongoing business operations, interest income received on our short-term investments, and interest paid on the Initial Notes. 44 Net cash used in operating activities for the nine months ended October 31, 2022 increased $11.0 million compared to the same period last year, primarily due to $5.1 million of interest paid on our our Initial Notes and the timing of accrued employee liabilities. Investing Activities Net cash used in investing activities for the nine months ended October 31, 2022 was $165.9 million. We used $8.5 million to purchase property and equipment and to develop internal-use software as we continue to invest in and grow our business; purchased $116.5 million of short-term investments, net of maturities, as we invested a portion of the proceeds from issuance of the Initial Notes; and used $41.0 million for the acquisition of Zephr, net of cash acquired. Net cash used in investing activities for the nine months ended October 31, 2022 increased $164.1 million compared to the nine months ended October 31, 2021, primarily due to $116.5 million net purchases of short-term investments in the nine months ended October 31, 2022, compared to $5.2 million net cash provided by short-term investments last year, and $41.0 million net cash used to acquire Zephr in the nine months ended October 31, 2022, compared to no cash used for acquisitions in the nine months ended October 31, 2021. Payments for property and equipment, net of insurance recoveries, were $2.8 million higher compared to the same period last year, primarily due to increased capitalization of internal-use software in the nine months ended October 31, 2022. The additional cash used in the nine months ended October 31, 2022 was partially offset by no cash used for asset acquisitions in the nine months ended October 31, 2022 compared to $1.3 million used to acquire certain intellectual property assets in the nine months ended October 31, 2021. Financing Activities Net cash provided by financing activities for the nine months ended October 31, 2022 of $239.0 million was primarily due to $233.9 million in net proceeds from issuance of the Initial Notes, $4.5 million of proceeds from issuance of common stock under the ESPP, and $2.1 million in proceeds from stock option exercises, partially offset by $1.5 million of debt principal payments related to our Debt Agreement. Net cash provided by financing activities for the nine months ended October 31, 2022 increased $222.6 million compared to the nine months ended October 31, 2021, primarily due to proceeds from issuance of the Initial Notes, partially offset by $13.6 million less proceeds received from stock option exercises compared to the same period last year. Obligations and Other Commitments Our material cash requirements from known contractual and other obligations consist of obligations under our operating leases for office space, the 2029 Notes, and a contractual commitment to one of our vendors for cloud computing services. For more information, please refer to Note 12. Leases , Note 9. Debt and Note 13. Commitments and Contingencies, respectively, of the Notes to our Unaudited Condensed Consolidated Financial Statements included in this Quarterly Report on Form 10-Q. As of October 31, 2022, our contractual commitments totaled $392.2 million, with $39.9 million committed within the next twelve months. In the ordinary course of business, we enter into agreements of varying scope and terms pursuant to which we agree to indemnify customers, vendors, lessors, business partners, and other parties with respect to certain matters, including, but not limited to, losses arising out of the breach of such agreements, services to be provided by us, or from data breaches or intellectual property infringement claims made by third parties. In addition, we have entered into indemnification agreements with our directors and certain officers and employees that will require us, among other things, to indemnify them against certain liabilities that may arise by reason of their status or service as directors, officers, or employees. As of October 31, 2022, no demands had been made upon us to provide indemnification under such agreements and there were no claims that we are aware of that could have a material effect on our unaudited condensed consolidated balance sheets, unaudited condensed consolidated statements of comprehensive loss, or unaudited condensed consolidated statements of cash flows. 45 Critical Accounting Policies and Estimates Our unaudited condensed consolidated financial statements are prepared in accordance with U.S. GAAP. The preparation of these unaudited condensed consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the applicable periods. We evaluate our estimates and assumptions on an ongoing basis. Our estimates are based on historical experience and various other factors that we believe to be reasonable under the circumstances. Our actual results could differ from these estimates. Our significant accounting policies are discussed in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements in our Annual Report on Form 10-K for the fiscal year ended January 31, 2022, filed with the SEC on March 28, 2022. Any significant changes to these policies during the nine months ended October 31, 2022 are described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements to our unaudited condensed consolidated financial statements provided herein. Item 3. Quantitative and Qualitative Disclosures About Market Risk We are exposed to certain market risks in the ordinary course of our business. Market risk represents the risk of loss that may impact our financial position due to adverse changes in financial market prices and rates. Our market risk exposure is primarily a result of fluctuations in foreign currency exchange rates and interest rates. Foreign Currency Exchange Risk Our sales contracts are denominated predominantly in U.S. Dollars, Euros (EUR), British Pounds (GBP), and Japanese Yen (JPY). A portion of our operating expenses are incurred outside the United States and denominated in foreign currencies and are subject to fluctuations due to changes in foreign currency exchange rates, particularly changes in the GBP and Chinese Yuan (CNY). Additionally, fluctuations in foreign currency exchange rates may cause us to recognize transaction gains and losses in our unaudited condensed consolidated statement of comprehensive loss. The effect of a hypothetical 10% change in foreign currency exchange rates applicable to our business would not have a material impact on our unaudited condensed consolidated financial statements for the nine months ended October 31, 2022. Given the impact of foreign currency exchange rates has not been material to our historical operating results, we have not entered into derivative or hedging transactions, but we may do so in the future if our exposure to foreign currency should become more significant. As our international operations grow, we will continue to reassess our approach to manage our risk relating to fluctuations in currency rates. Interest Rate Risk We had cash and cash equivalents and short-term investments of $400.6 million as of October 31, 2022. Our cash and cash equivalents and short-term investments are held for working capital purposes. We do not make investments for trading or speculative purposes. A significant decrease in these market rates may adversely affect our expected operating results. The 2029 Notes have a fixed interest rate and therefore are not impacted by market rates. Our cash equivalents and short-term investments are subject to market risk due to changes in interest rates. Fixed rate securities may have their market value adversely affected due to a rise in interest rates. Due in part to these factors, our future investment income may fall short of our expectations due to changes in interest rates or we may suffer losses in principal if we are forced to sell securities that decline in market value due to changes in interest rates. However, because we classify our short-term investments as “available for sale,” no gains or losses are recognized due to changes in interest rates unless such securities are sold prior to maturity or decreases in fair value are determined to be other-than-temporary. As of October 31, 2022, a hypothetical 10% relative change in interest rates would not have had a material impact on the value of our cash equivalents and short-term investments or interest owed on our outstanding debt. Fluctuations in the value of our cash equivalents and short-term investments caused by a change in interest rates (gains or losses on the carrying value) are recorded in other comprehensive income, and are realized only if we sell the underlying securities prior to maturity. In addition, a hypothetical 10% relative change in interest rates would not have had a material impact on our operating results for the nine months ended October 31, 2022. 46 Item 4. Controls and Procedures Evaluation of Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of October 31, 2022. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that as of October 31, 2022, our disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed in the reports we file and submit under the Exchange Act is recorded, processed, summarized and reported as and when required, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding its required disclosure. Changes in Internal Control Over Financial Reporting There was no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the period covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. Inherent Limitations on Effectiveness of Controls Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected. Accordingly, our disclosure controls and procedures provide reasonable assurance of achieving their objectives. 47 PART II—OTHER INFORMATION Item 1. Legal Proceedings For information regarding legal proceedings, see Note 13. Commitments and Contingencies of the notes to our unaudited condensed consolidated financial statements included in Item 1. Financial Statements of this Form 10-Q, which is incorporated by reference into this Item 1. Legal Proceedings . Item 1A. Risk Factors An investment in our common stock involves a high degree of risk, and the following is a summary of key risk factors when considering an investment. You should read the summary risks together with the more detailed discussion of risks set forth following this summary, as well as elsewhere in this Quarterly Report on Form 10-Q. Additional risks, beyond those summarized below or discussed elsewhere in this Quarterly Report on Form 10-Q, may apply to our activities or operations as currently conducted or as we may conduct them in the future or in the markets in which we operate or may in the future operate. Risks Related to Our Business and Industry • If we are unable to attract new customers and retain and expand sales to existing customers, including as a result of macroeconomic factors, our workforce reduction or business disruptions outside of our control, our revenue growth could be slower than we expect and our business would be adversely affected. • If we are unable to manage our growth effectively, our revenue and profits could be adversely affected. • If the shift to subscription business models, including the market for subscription management software, develops slower than we expect, our growth may slow or stall and our operating results could be adversely affected. • Currency exchange rate fluctuations may adversely affect our results of operations, which are reported in U.S. dollars. • If we are unable to recruit or retain senior management or other key personnel and maintain our corporate culture, our business, operating results, and financial condition could be adversely affected. • Our debt obligations could adversely affect our financial condition. • Our success depends in large part on a limited number of products, and if these offerings fail to gain market acceptance or our product development efforts are unsuccessful, our business, operating results, and financial condition could be adversely affected. • We may be unable to integrate businesses we have or will acquire or to achieve expected benefits of such acquisitions. • The COVID-19 pandemic, or other pandemics or natural disasters, or catastrophic events, could adversely impact our business, financial condition, operating results and cash flows. • We have a history of net losses and anticipate continuing to incur losses for the near- and mid-term future and may not achieve or sustain profitability. • Our ability to grow our revenues and achieve and sustain profitability will depend, in part, on our ability to increase productivity of our sales force. • If we are unable to effectively compete in the market for our solutions or such markets develop slower than we expect our business, operating results, and financial condition would be adversely affected. • Our operating results, which are influenced by a variety of factors, have fluctuated in the past and may continue to fluctuate, making our future results difficult to predict accurately. • If we are not able to successfully and timely develop, enhance and deploy our products and multi-product strategy, our business, operating results, financial condition and growth prospects could be adversely affected. • If we are unable to successfully execute our strategic initiatives, such as increasing our sales to large enterprise customers and expanding and strengthening our sales channels and relationships with system integrators, our business, operating results and financial condition could be adversely affected. 48 • Our international operations expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. • If we fail to integrate our solution with a variety of systems, applications and platforms that are developed by others, our solution may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy • A cyber-attack, information security breach or denial of service event could delay or interrupt service to our customers, harm our reputation, or subject us to significant liability. • Privacy and security concerns, laws, and regulations, may reduce the effectiveness of our solution and adversely affect our business. • Failure to protect our intellectual property could adversely affect our business. • Any disruptions of service from our public cloud providers could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. Risks Related to Legal, Regulatory, Accounting, and Tax Matters • Current and future litigation, including our current shareholder litigation, could have a material adverse impact on our operating results and financial condition. • We may require additional capital to fund our business and support our growth, and any inability to generate or obtain such capital may adversely affect our operating results and financial condition. Risks Related to Ownership of Our Class A Common Stock • The market price of our Class A common stock has been, and will likely continue to be, volatile, and you could lose all or part of the value of your investment. • The dual class structure of our common stock has the effect of concentrating voting control with holders of our Class B common stock, including our directors and executive officers, and their affiliates, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. Risks Related to Our Business and Industry If we are unable to attract new customers and retain and expand sales to existing customers, including as a result of macroeconomic factors or business disruptions outside our control, our revenue growth could be slower than we expect, and our business may be adversely affected. Our ability to achieve significant growth in revenue in the future will depend, in large part, upon our ability to attract new customers. This may be particularly challenging where an organization has already invested substantial personnel and financial resources to integrate billings and other business and financial management tools, including custom-built solutions, into its business, as such an organization may be reluctant or unwilling to invest in new products and services. As a result, selling our solution often requires sophisticated and costly sales efforts that are targeted at senior management. During the nine months ended October 31, 2022, sales and marketing expenses represented approximately 45% of our total revenue. If we fail to attract new customers and fail to maintain and expand new customer relationships, our revenue may grow more slowly than we expect and our business may be adversely affected. Our future revenue growth also depends upon retaining and expanding sales and renewals of subscriptions to our solution with existing customers. If our existing customers do not expand their use of our solution over time or do not renew their subscriptions or if we receive requests from an increased number of customers for changes to payment or other terms as a result of the impact of economic conditions or the COVID-19 pandemic on their businesses, our revenue may grow more slowly than expected, may not grow at all, or may decline. Our success, in part, is dependent on our ability to cross-sell our products. If we experience issues with successfully implementing or cross-selling our products, revenue may grow more slowly or may not grow at all. 49 Our sales efforts and revenue growth have been and may continue to be negatively impacted by macroeconomic uncertainty and deteriorating economic conditions, including increasing inflation and interest rates, and foreign exchange fluctuations. For example, we are experiencing and, if economic conditions continue to persist or decline, we may continue to experience longer sales cycles and collection periods. In light of current macroeconomic conditions and uncertainty, some large enterprises have reduced or delayed technology or other discretionary spending, which may materially and negatively impact our operating results, financial condition and prospects. As a result of these conditions, we have recently experienced customers and prospective customers continuing to be cautious with purchasing decisions, which we expect to negatively impact our operating results and certain of our key metrics. If the impacts to customers and prospective customers of current macroeconomic conditions and uncertainty persist, our business, operating results, and financial conditions could be adversely affected. While we expect to expand our sales efforts, both domestically and internationally in the long-term, in November 2022, we approved a workforce reduction impacting approximately 11% of our workforce, which reduction will disproportionately impact our go-to-market organization which consequently may impact our ability to achieve our operational targets. In the future, we may be unable to hire qualified sales personnel, may be unable to successfully train those sales personnel that we are able to hire, and sales personnel may not become fully productive on the timelines that we have projected or at all. In addition, mitigation and containment measures adopted by government authorities to contain the spread of COVID-19 in the United States and internationally, including travel restrictions and other requirements that limit in-person meetings, could limit our ability to establish and maintain relationships with new and existing customers. Further, although we dedicate significant resources to sales and marketing programs, these sales and marketing programs may not have the desired effect and may not expand sales. We cannot assure you that our efforts would result in increased sales to existing customers, and additional revenue. If our efforts to expand sales and renewals to existing customers are not successful, our business and operating results could be adversely affected. Our customers generally enter into subscription agreements with one to three-year subscription terms and have no obligation to renew their subscriptions after the expiration of their initial subscription period. Moreover, our customers that do renew their subscriptions may renew for lower subscription or usage amounts or for shorter subscription periods. In addition, in the first year of a subscription, customers often purchase an increased level of professional services (such as training and deployment services) than they do in renewal years. Costs associated with maintaining a professional services department are relatively fixed in the short-term, while professional services revenue is dependent on the amount of billable work actually performed for customers in a period, the combination of which may result in variability in, and have a negative impact on, our gross profit. Customer renewals may decline or fluctuate as a result of a number of factors, including the breadth of early deployment, reductions in our customers’ spending levels, higher volumes of usage purchased upfront relative to actual usage during the subscription term, changes in customers’ business models and use cases, our customers’ satisfaction or dissatisfaction with our solution, our pricing or pricing structure, the pricing or capabilities of products or services offered by our competitors, or the effects of economic conditions, including as a result of the COVID-19 pandemic. If our customers do not renew their agreements with us, or renew on terms less favorable to us, our revenue may decline. If we fail to manage our growth and expansion plans effectively, our business, operating results, and financial condition could be adversely affected. While we had experienced rapid growth in our operations and personnel prior to the COVID-19 pandemic, we reduced our overall rate of hiring in fiscal 2021 as a cost savings measure in light of the COVID-19 pandemic and uncertain economic conditions. During fiscal 2022, we accelerated our pace of hiring and investments in our operations including sales, marketing and product technology. In November 2022, in light of macroeconomic conditions and uncertainty, we approved a workforce reduction plan designed to improve operational efficiencies and operating costs and better align our workforce with current business needs, priorities, and near term growth expectations. If we are unable to manage our growth and expansion plans effectively, which may be impacted by factors outside of our control such as macroeconomic conditions and the COVID-19 pandemic, our business, operating results, and financial condition could be adversely affected. To manage growth in our operations and personnel, we will need to continue to improve and achieve efficiencies with respect to our operational, financial, and management controls and our reporting systems and procedures, including improving timely access to operational information to optimize business decisions. Failure to manage growth and expansion plans effectively 50 could result in difficulty or delays in deploying customers, declines in quality or customer satisfaction, increases in costs, difficulties in introducing new products and services or enhancing existing products and services, loss of customers, or other operational difficulties in executing sales strategies, any of which could adversely affect our business performance and operating results. If the shift by companies to subscription business models, including consumer adoption of products and services that are provided through such models, and, in particular, the market for subscription management software, develops slower than we expect, our growth may slow or stall, and our operating results could be adversely affected. Our success depends on companies shifting to subscription business models and consumers choosing to consume products and services through such models. Many companies may be unwilling or unable to offer their solutions using a subscription business model, especially if they do not believe that the consumers of their products and services would be receptive to such offerings. Our success will also depend, to a large extent, on the willingness of large enterprises that have adopted subscription business models utilizing cloud-based products and services to manage billings and financial accounting relating to their subscriptions. Enterprises may choose not to shift to a subscription business model or, they may choose to shift more slowly than we expect. In addition, those enterprises that do shift to a subscription model may decide that they do not need a solution that offers the range of functionalities that we offer. Many companies have invested substantial effort and financial resources to develop custom-built applications or integrate traditional enterprise software into their businesses as they shift to subscription or subscription business models and may be reluctant or unwilling to switch to different applications. Factors that may affect market acceptance and sales of our products and services inclu • the number of companies shifting to subscription business models; • the number of consumers and businesses adopting new, flexible ways to consume products and services; • the security capabilities, reliability, and availability of cloud-based services; • customer concerns with entrusting a third party to store and manage their data, especially transaction-critical, confidential, or sensitive data; • our ability to minimize the time and resources required to deploy our solution; • our ability to achieve and maintain high levels of customer satisfaction; • our ability to deploy upgrades and other changes to our solution without disruption to our customers; • the level of customization or configuration we offer; • the overall level of corporate spending and spending on quote-to-cash and revenue recognition solutions by our customers and prospects, including the impact of spending due to the COVID-19 pandemic; • general economic conditions, both in domestic and foreign markets, including the impacts associated with the COVID-19 pandemic, inflation, recession, and the ongoing conflict in Ukraine; and • the price, performance, and availability of competing products and services. The markets for subscription products and services and for subscription management software may not develop further or may develop slower than we expect. If companies do not shift to subscription business models and subscription management software does not achieve widespread adoption, or if there is a reduction in demand for subscription products and services or subscription management software caused by technological challenges, weakening economic conditions, security or privacy concerns, decreases in corporate spending, a lack of customer acceptance, or otherwise, our business could be materially and adversely affected. In addition, our subscription agreements with our customers generally provide for a minimum subscription platform fee and usage-based fees, which depend on the total dollar amount that is invoiced or managed on our solution. Because a portion of our revenue depends on the volume of transactions that our customers process through our solution, if our customers do not adopt our solution throughout their business, if their businesses decline or fail, or if they are unable to successfully shift to subscription business models, including if they fail to successfully deploy our solution, our revenue could decline and our operation results could be adversely impacted. 51 Currency exchange rate fluctuations may adversely affect our results of operations, which are reported in U.S. dollars. As we continue to expand our international operations, we become more exposed to the effects of fluctuations in currency exchange rates. Fluctuating currency exchange rates, including the recent strengthening of the U.S. dollar, has increased the real cost of our solution to our customers outside of the United States. Currency exchange rate fluctuations have and may continue to adversely affect our business, operating results, financial condition, and cash flows. In addition, we incur expenses for employee compensation and other operating expenses at our non-U.S. locations in the local currency. Fluctuations in the exchange rates between the U.S. dollar and other currencies could result in the dollar equivalent of such expenses being higher. Furthermore, volatile market conditions arising from impacts from the COVID-19 pandemic, the conflict in Ukraine and other macroeconomic conditions may result in significant fluctuations in exchange rates, and, in particular, a weakening of foreign currencies relative to the U.S. dollar may negatively affect our revenue. This could have a negative impact on our operating results. Although we may in the future decide to undertake foreign exchange hedging transactions to cover a portion of our foreign currency exchange exposure, we currently do not hedge our exposure to foreign currency exchange risks. Our business depends largely on our ability to attract and retain talented employees, including senior management, and maintain our corporate culture. If we lose the services of Tien Tzuo, our founder, Chairman, and Chief Executive Officer, or other critical talent across our executive team and in other key roles, or fail to maintain our "ZEO" culture, we may not be able to execute on our business strategy. Our future success depends on our continuing ability to attract, train, assimilate, and retain highly skilled personnel, including software engineers, sales personnel, and professional services personnel. We face intense competition for qualified individuals from numerous software and other technology companies. Like many companies, we experienced increased turnover during fiscal 2021 and fiscal 2022, and we may continue to experience heightened attrition, including those with significant institutional knowledge and expertise. We may not be able to retain our current key employees, or attract, train, assimilate, or retain other highly skilled personnel in the future, especially in light of the current tight labor market in the U.S. and other countries. For example, employees may seek new or different opportunities that offer greater compensation or benefits than we offer or are able to offer, making it difficult to retain them. In addition, we may incur significant costs to attract and retain highly skilled personnel, and we may lose new employees to our competitors or other technology companies before we realize the benefit of our investment in recruiting and training them. As we move into new countries, we will need to attract and recruit skilled personnel in those areas. If we are unable to attract and retain suitably qualified individuals who are capable of meeting our growing technical, operational, and managerial requirements, on a timely basis or at all, our business may be adversely affected. Further, if our organization continues to grow, we may be required to implement more complex organizational structures, as a result of which we may find it increasingly difficult to maintain the beneficial aspects of our “ZEO” corporate culture, which is based on the idea that each employee is the CEO of their Zuora experience and career, and places a strong value on freedom, responsibility and accountability. Our ability to attract and retain talented employees could be negatively impacted if we are unable to maintain our corporate culture, including as a result of the workforce reduction plan that we approved in November 2022. Any workforce reduction could also have an adverse effect on our business, including negative employee morale and adverse impact on our ability to meet operational targets due to loss of employees. Our future success also depends in large part on the continued services of senior management and other key personnel. In particular, we are highly dependent on the services of Tien Tzuo, our founder, Chairman and Chief Executive Officer, who is critical to the development of our technology, platform, future vision, and strategic direction. We rely on our leadership team in the areas of operations, security, marketing, sales, support, and general and administrative functions, and on individual contributors on our research and development team. Our senior management and other key personnel are all employed on an at-will basis, which means that they could terminate their employment with us at any time and for any reason, such as retirement or career change. We do not currently maintain key-person life insurance policies on any of our officers or employees. If we lose the services of senior management or other key personnel, or if we are unable to attract, train, assimilate, and retain the highly skilled personnel we need, our business, operating results, and financial condition could be adversely affected. Volatility or lack of appreciation in our stock price may also affect our ability to attract and retain our key employees. Many of our senior personnel and other key employees have become, or will soon become, vested in a substantial amount of stock or stock options. Employees may be more likely to leave us if the shares they own or 52 the shares underlying their vested options have significantly appreciated in value relative to the original purchase price of the shares or the exercise price of the options, or conversely, if the exercise price of the options that they hold are significantly above the market price of our Class A common stock. If we are unable to retain our employees, or if we need to increase our compensation expenses, including equity compensation expenses, to retain our employees, our business, results of operations, financial condition, and cash flows could be adversely affected. Our debt obligations could adversely affect our financial condition. On March 24, 2022 (Initial Closing Date) we issued $250.0 million aggregate principal amount of convertible senior unsecured notes due in 2029 to Silver Lake Alpine II, L.P. (Silver Lake) (2029 Notes). We also will issue to Silver Lake an additional $150.0 million in senior unsecured notes within 18 months of the Initial Closing Date. See Note 9. Debt to our unaudited condensed consolidated financial statements included in this Form 10-Q for more information about the 2029 Notes. Our debt obligations, in particular the 2029 Notes, could adversely impact us. For example, these obligations coul • require us to use a substantial portion of our cash flow from operations to pay principal and interest on debt, or to repurchase our 2029 Notes when required upon the occurrence of certain events or otherwise pursuant to the terms thereof, which will reduce the amount of cash flow available to fund working capital, capital expenditures, acquisitions, and other business activities; • require us to use cash and/or issue shares of our Class A common stock to settle any obligations; • result in certain of our debt instruments being accelerated or being deemed to be in default if certain terms of default are triggered, such as applicable cross payment default and/or cross-acceleration provisions; • adversely impact our credit rating, which could increase future borrowing costs; • limit our future ability to raise funds for capital expenditures, strategic acquisitions or business opportunities, and other general corporate requirements; • restrict our ability to create or incur liens and engage in other transactions and activity; • increase our vulnerability to adverse economic and industry conditions; • dilute our earnings per share as a result of the conversion provisions in the 2029 Notes; and • place us at a competitive disadvantage compared to our less leveraged competitors. Our ability to meet our payment obligations under our debt instruments depends on our ability to generate significant cash flows in the future. This, to some extent, is subject to market, economic, financial, competitive, legislative, and regulatory factors as well as other factors that are beyond our control. There can be no assurance that our business will generate cash flow from operations, or that additional capital will be available to us, in amounts sufficient to enable us to meet our debt payment obligations and to fund other liquidity needs. For example, we may utilize proceeds from the 2029 Notes for acquisitions or other investments that do not increase our enterprise value or we are otherwise unable to generate sufficient cash flows to repay our debt obligations. Additionally, events and circumstances may occur which would cause us to not be able to satisfy applicable draw-down conditions and utilize the revolving credit facility under our Debt Agreement described below in Note 9. Debt . If we are unable to generate sufficient cash flows to service our debt payment obligations, we may need to refinance or restructure our debt, sell assets, reduce or delay capital investments, or seek to raise additional capital. If we are unable to implement one or more of these alternatives on commercially reasonable terms or at all, we may be unable to meet our debt payment obligations, which would materially and adversely impact our business, financial condition and operating results. Our success depends in large part on a limited number of products. If these products fail to gain or lose market acceptance, our business will suffer. We derive substantially all of our revenue and cash flows from sales of subscriptions and associated deployment of our Zuora Central Platform , Zuora Billing, Zuora Revenue, and Zuora Collect products. As such, the continued growth in market demand for these products is critical to our success. Demand for our solution is affected by a number of factors, many of which are beyond our control, including macroeconomic factors, such as the 53 impacts of the COVID-19 pandemic on our customers and prospects, the growth or contraction of the Subscription Economy, continued market acceptance of our solution by customers for existing and new use cases, the timing of development and release of new products and services, features, and functionality introduced by our competitors, changes in accounting standards, laws or regulations, policies, guidelines, interpretations, or principles that would impact the functionality and use of our solution, and technological change. We expect that an increasing transition to disaggregated solutions that focus on addressing specific customer use cases would continue to disrupt the enterprise software space, enabling new competitors to emerge. We cannot assure you that our solutions and future enhancements to our solution will be able to address future advances in technology or the requirements of enterprise customers. If we are unable to meet customer demands in creating a flexible solution designed to address all these needs or otherwise achieve more widespread market acceptance of our solution, our business, operating results, financial condition, and growth prospects would be adversely affected. We may acquire or invest in additional companies, which may divert our management’s attention, result in additional dilution to our stockholders, and consume resources that are necessary to sustain our business. We may be unable to integrate acquired businesses and technologies successfully or to achieve the expected benefits of such acquisitions. Our business strategy includes acquiring other complementary products, technologies, or businesses. For example, in September 2022, we acquired Zephr. An acquisition, investment, or business relationship may result in unforeseen operating difficulties and expenditures. In particular, we may encounter difficulties assimilating or integrating the businesses, technologies, products, personnel, or operations of the acquired companies, particularly if the key personnel of the acquired companies choose not to work for us, if an acquired company’s software is not easily adapted to work with ours, or if we have difficulty retaining the customers of any acquired business due to changes in management or otherwise. Acquisitions may also disrupt our business, divert our resources, and require significant management attention that would otherwise be available for development of our business. Moreover, the anticipated benefits of any acquisition, investment, or business relationship may not be realized or we may be exposed to unknown liabilities. We may in the future acquire or invest in additional businesses, products, technologies, or other assets. We also may enter into relationships with other businesses to expand our products and services or our ability to provide our products and services in foreign jurisdictions, which could involve preferred or exclusive licenses, additional channels of distribution, discount pricing, or investments in other companies. Negotiating these transactions can be time consuming, difficult, and expensive, and our ability to close these transactions may often be subject to approvals that are beyond our control. Consequently, these transactions, even if undertaken and announced, may not close. For one or more of those transactions, we may: • issue additional equity securities that would dilute our stockholders; • use cash that we may need in the future to operate our business; • incur debt on terms unfavorable to us or that we are unable to repay; • incur large charges or substantial liabilities; • encounter difficulties retaining key employees of the acquired company or integrating diverse software codes or business cultures; and • become subject to adverse tax consequences, substantial depreciation, or deferred compensation charges. Any of these risks could adversely impact our business and operating results. The COVID-19 pandemic and its continuing impact on economic conditions could adversely affect our business, financial condition, results of operations, and cash flows. The COVID-19 pandemic has impacted worldwide economic activity and financial markets. In light of the uncertain and evolving situation relating to the spread of the disease and efficacy of vaccines, we have taken precautionary measures intended to minimize the risk of the virus to our employees, our customers and the communities in which we operate, which could negatively impact our business. Given that m any of our employees continue to work remotely, we have reduced our office footprint and have made available office space for sublease. Due to market conditions, we have experienced difficulties in subleasing some of this available office space, 54 including in the San Francisco Bay Area. If we are unable to sublease such office space on acceptable terms in a reasonable timeframe, we would incur impairment charges in addition to those described in Note 12. Leases of the Annual Report on Form 10-K for the fiscal year ended January 31, 2022 filed with the SEC on March 28, 2022. As pandemic conditions have improved and government regulations have generally eased in light of availability of vaccines and other health measures, business travel and in-person customer events have increased. In the future, we may deem it advisable to alter, postpone or cancel customer, employee or industry events in the future. We may adjust our policies and business practices in light of the evolving COVID-19 pandemic and related government restrictions and public health guidance, and any such restrictive measures could negatively impact our business. The ongoing effects of the COVID-19 pandemic and the precautionary measures that we have adopted have resulted in, and could continue to result in, customers not purchasing or renewing our products or services, a significant delay or lengthening of our sales cycles, a negative impact to our customer success and sales and marketing efforts, difficulties or changes to our customer support, or potential operational or other challenges, any of which could harm our business and operating results. Because we sell our solutions primarily on a subscription basis, the effect of the pandemic may not be fully reflected in our operating results until future periods. As a result of the COVID-19 pandemic, we have experienced, and may continue to experience in the future, a reduced ability or willingness by companies in certain customer segments and industries to purchase our solutions, delayed purchasing decisions or project implementation timing of prospective customers, reduced value or duration of subscription contracts, or a negative impact to attrition rates. Such impacts have resulted, and may continue to result, in requests from customers for payment or pricing concessions , such as in the form of extended payment terms or restructuring of contracts, impacts to our quarterly billings, and in customers limiting their spending, which, in certain cases, have resulted in customers not purchasing or renewing our products or services. Historically, a significant portion of our field sales and professional services have been conducted in person. As a result of the COVID-19 pandemic, most of our sales and professional services activities for the past two years were being conducted remotely. As the COVID-19 restrictions have lessened, we have begun conducting some of these activities again in person, but are not at the frequency that we were before the pandemic. If the impact of the COVID-19 pandemic deepens or extends into other customer segments, these conditions could further adversely affect the rate of billings and subscription management solutions spending of our customers, our sales cycles could be further extended or delayed, our ability to close transactions with new and existing customers and partners may be negatively impacted, our ability to recognize revenue from software transactions we do close may be negatively impacted due to implementation delays or other factors, our demand generation activities, and the efficiency and effectiveness of those activities, may be negatively affected, and our ability to provide 24x7 worldwide support to our customers may be negatively affected, any of which may make it difficult for us to forecast our sales and operating results and to make decisions about future investments. These and other potential effects on our business due to the COVID-19 pandemic may be significant and could materially harm our business operating results and financial condition. More generally, the COVID-19 pandemic has had, and could continue to have, an adverse effect on economies and financial markets globally, potentially leading to an economic downturn, which could decrease technology spending and adversely affect demand for our products and services. Although our financial results for the fiscal quarter ended October 31, 2022 have not been materially impacted by the COVID-19 pandemic, any prolonged economic downturn or recession as a result of the COVID-19 pandemic could materially harm the business and operating results of our company and our customers, resulting in potential business closures and layoffs of employees, which effects may continue even after the COVID-19 pandemic is contained. The occurrence of any such events may lead to a reduction in the capital and operating budgets we or our customers have available, which could harm our business, financial condition and operating results. To the extent the COVID-19 pandemic adversely affects our business and financial results, it may also have the effect of heightening certain of the other risks described in this “Risk Factors” section. It is not possible at this time to estimate the long-term impact that COVID-19 could have on our business, as the impact will depend on future developments, which are highly uncertain and cannot be predicted. We have a history of net losses, anticipate increasing our operating expenses in the future, and may not achieve or sustain profitability. We have incurred net losses in each fiscal year since inception, including net losses of $99.4 million, $73.2 million, and $83.4 million in fiscal 2022, 2021, and 2020, respectively. We expect to incur net losses for the foreseeable future. As of October 31, 2022, we had an accumulated deficit of $653.6 million. We expect to make 55 significant future expenditures related to the development and expansion of our business, including increasing our overall customer base, expanding relationships with existing customers, entering new vertical markets, expanding our global footprint, expanding and leveraging our relationships with strategic partners including system integrators to accelerate our growth, optimizing pricing and packaging, and expanding our operations and infrastructure, both domestically and internationally, and in connection with legal, accounting, and other administrative expenses related to operating as a public company. These efforts may prove more expensive than we currently anticipate, and we may not succeed in increasing our revenue sufficiently, or at all, to offset these increased expenses. Some or all of the foregoing initiatives have been and may continue to be temporarily delayed or re-evaluated due to current macroeconomic conditions, including rising interest rates, inflation and global economic uncertainty, as well as our efforts to mitigate the ongoing effects of the COVID-19 pandemic on our business. Any delays or reductions in spending in our business development or expansion efforts may negatively affect our ability to expand our operations and maintain or increase our sales. While our revenue has grown in recent years, if our revenue declines or fails to grow at a rate faster than these increases in our operating expenses, we will not be able to achieve and maintain profitability in future periods. As a result, we may continue to generate losses. We cannot assure you that we will achieve profitability in the future or that, if we do become profitable, we will be able to sustain profitability. Our revenue growth and ability to achieve and sustain profitability will depend, in part, on being able to increase the productivity of our sales force. To date, most of our revenue has been attributable to the efforts of our direct sales force. In order to increase our revenue and achieve and sustain profitability, we must increase the productivity of our direct sales force, both in the United States and internationally, to generate additional revenue from new and existing customers. While we expect to expand our sales efforts, both domestically and internationally in the long-term, in November 2022, we approved a workforce reduction, which may result in loss of productivity and adversely impact our sales efforts and ability to achieve our operational targets. There is significant competition for sales personnel with the skills and technical knowledge that we require, and we may experience difficulties attracting qualified sales personnel to meet our needs in the future. Because our solution is often sold to large enterprises and involves long sales cycles and complex customer requirements, it is more difficult to find sales personnel with the specific skills and technical knowledge needed to sell our solution and, even if we are able to hire qualified personnel, doing so may be expensive. Our ability to achieve significant revenue growth will depend, in large part, on our success in recruiting, training, and retaining sufficient numbers of direct sales personnel to support our growth. Due to the complexities of our customer needs, new sales personnel require significant training and can take a number of months to achieve full productivity. Our recent hires and planned hires may not become productive as quickly as we expect and if our new sales employees do not become fully productive on the timelines that we have projected or at all, our revenue will not increase at anticipated levels and our ability to achieve long-term projections may be negatively impacted. We may also be unable to hire or retain sufficient numbers of qualified individuals in the markets where we do business or plan to do business. Furthermore, hiring sales personnel in new countries requires additional set up and upfront costs that we may not recover if the sales personnel fail to achieve full productivity. In addition, as we continue to grow, a larger percentage of our sales force will be new to our company and our solution, which may adversely affect our sales if we cannot train our sales force quickly or effectively. Attrition rates may increase, and we may also face integration challenges as we continue to seek to expand our sales force. If we are unable to hire and train sufficient numbers of effective sales personnel, if attrition increases, or if the sales personnel are not successful in obtaining new customers or increasing sales to our existing customer base, our business will be adversely affected. We periodically change and make adjustments to our sales organization in response to market opportunities, competitive threats, management changes, product and service introductions or enhancements, acquisitions, sales performance, increases in sales headcount, cost levels, and other internal and external considerations, including potential changes and uncertainties associated with macroeconomic conditions and the COVID-19 pandemic. Any future changes in our sales organization may result in a temporary reduction of productivity, which could negatively affect our rate of growth. In addition, any significant change to the way we structure our compensation of our sales organization may be disruptive and may affect our revenue growth. 56 The market in which we participate is competitive, and our operating results could be harmed if we do not compete effectively. The market for quote-to-cash and revenue recognition solutions, including our billing, collections and revenue recognition offerings, is highly competitive, rapidly evolving, and fragmented, and subject to changing technology, shifting customer needs, and frequent introductions of new products and services. Many of our current and potential competitors have longer operating histories, access to alternative fundraising sources, significantly greater financial, technical, marketing, distribution or professional services experience, or other resources or greater name recognition than we do. In addition, many of our current and potential competitors supply a wide variety of products to, and have strong and well-established relationships with, current and potential customers. As a result, our current and potential competitors may be able to respond more quickly and effectively than we can to new or changing opportunities, technologies, standards, or customer requirements or devote greater resources than we can to the development, promotion, and sale of their products and services. In addition, some current and potential competitors may offer products or services that address one or a limited number of functions at lower prices or with greater depth than our solution, or integrate or bundle such products and services with their other product offerings. Potential customers may prefer to purchase from their existing suppliers rather than from a new supplier. Our current and potential competitors may develop and market new technologies with comparable functionality to our solution. In addition, because our products and services are integral to our customers’ ability to accurately maintain books and records and prepare financial statements, our potential customers may prefer to purchase applications that are critical to their business from one of our larger, more established competitors, or leverage the software that they have already purchased from our competitors for their billing and accounting needs, or control such infrastructure internally. We may experience fewer customer orders, reduced gross margins, longer sales cycles, and loss of market share. This could lead us to decrease prices, implement alternative pricing structures, or introduce products and services available for free or a nominal price in order to remain competitive. We may not be able to compete successfully against current and future competitors, and our business, operating results, and financial condition will be adversely impacted if we fail to meet these competitive pressures. Our ability to compete successfully in our market depends on a number of factors, both within and outside of our control. Some of these factors inclu ease of use; subscription-based product features and functionality; ability to support the specific needs of companies with subscription business models; ability to integrate with other technology infrastructures and third-party applications; enterprise-grade performance and features such as system scalability, security, performance, and resiliency; vision for the market and product innovation; relationships with strategic partners, including system integrators, management consulting firms, and resellers; total cost of ownership; strength of sales and marketing efforts; brand awareness and reputation; and customer experience, including support and professional services. Any failure by us to compete successfully in any one of these or other areas may reduce the demand for our solution, as well as adversely affect our business, operating results, and financial condition. Moreover, current and future competitors may also make strategic acquisitions or establish cooperative relationships among themselves or with others, including our current or future technology partners. By doing so, these competitors may increase their ability to meet the needs of our customers or potential customers. These developments could limit our ability to obtain revenue from existing and new customers. If we are unable to compete successfully against current and future competitors, our business, operating results, and financial condition could be adversely impacted. Our operating results may fluctuate from quarter to quarter, which makes our future results difficult to predict. Our quarterly operating results have fluctuated in the past and may fluctuate in the future. As a result, you should not rely upon our past quarterly operating results as indicators of future performance. We have encountered, and will continue to encounter, risks and uncertainties frequently experienced by growing companies in rapidly evolving markets, such as the risks and uncertainties described herein. Our operating results in any given quarter can be influenced by numerous factors, many of which are unpredictable or are outside of our control, includin • our ability to maintain and grow our customer base; • our ability to retain and increase revenue from existing customers; • our ability to introduce new products and services and enhance existing products and services; 57 • our ability to integrate or implement our existing products and services on a timely basis or at all; • our ability to deploy our products successfully within our customers' information technology ecosystems; • our ability to enter into larger contracts; • increases or decreases in subscriptions to our platform; • our ability to sell to large enterprise customers; • the transaction volume that our customers processes through our system; • our ability to respond to competitive developments, including competitors' pricing changes and their introduction of new products and services; • macroeconomic conditions, including the impact of foreign exchange fluctuations and rising interest rates and inflation, including wage inflation; • changes in the pricing of our products; • the productivity of our sales force; • our ability to grow our relationships with strategic partners such as system integrators and their effectiveness in increasing our sales and implementing our products; • changes in the mix of products and services that our customers use; • the length and complexity of our sales cycles; • cost to develop and upgrade our solution to incorporate new technologies; • seasonal purchasing patterns of our customers; • the impact of outages of our solution and reputational harm; • costs related to the acquisition of businesses, talent, technologies, or intellectual property, including potentially significant amortization costs and possible write-downs; • failures or breaches of security or privacy, and the costs associated with responding to and addressing any such failures or breaches; • changes to financial accounting standards and the interpretation of those standards that may affect the way we recognize and report our financial results, including changes in accounting rules governing recognition of revenue; • the impact of changes to financial accounting standards; • general economic and political conditions and government regulations in the countries where we currently operate or plan to expand; • decisions by us to incur additional expenses, such as increases in sales and marketing or research and development; • the timing of stock-based compensation expense; • political unrest, changes and uncertainty associated with terrorism, hostilities, war, natural disasters or pandemics, including the COVID-19 pandemic and the ongoing conflict in Ukraine; and • potential costs to attract, onboard, retain, and motivate qualified personnel. The extent to which the global COVID-19 pandemic will continue to impact our business and financial results will depend on future developments, which are uncertain and cannot be fully predicted, including the duration of the pandemic, travel restrictions and social distancing in the United States and other countries, business closures or business disruptions and the effectiveness of actions taken by governments and private businesses to attempt to contain and treat the disease. Any prolonged shutdown of a significant portion of global economic activity or downturn in the global economy, along with any adverse effects on industries in which our customers operate, could materially and adversely impact our business, results of operations and financial condition. The impact of one or more of the foregoing and other factors may cause our operating results to vary significantly. As such, we believe that quarter-to-quarter comparisons of our operating results may not be 58 meaningful and should not be relied upon as an indication of future performance. If we fail to meet or exceed the expectations of investors or securities analysts, then the trading price of our Class A common stock could fall substantially, and we could face costly lawsuits, including shareholder litigation. If we are not able to develop and release new products and services, or successful enhancements, new features, and modifications to our existing products and services, or otherwise successfully implement our multi-product strategy, our business could be adversely affected. The market for our quote-to-cash and revenue recognition solutions, including our billing, collections and revenue recognition offerings, is characterized by rapid technological change, frequent new product and service introductions and enhancements, changing customer demands, and evolving industry standards. The introduction of products and services embodying new technologies can quickly make existing products and services obsolete and unmarketable. Additionally, because we provide billing and finance solutions to help our customers with compliance and financial reporting, changes in law, regulations, and accounting standards could impact the usefulness of our products and services and could necessitate changes or modifications to our products and services to accommodate such changes. Subscription management products and services, including our billing, collections and revenue recognition offerings, are inherently complex, and our ability to implement our multi-product strategy, including developing and releasing new products and services or enhancements, new features and modifications to our existing products and services depends on several factors, including timely completion, competitive pricing, adequate quality testing, integration with new and existing technologies and our solution, and overall market acceptance. We cannot be sure that we will succeed in developing, marketing, and delivering on a timely and cost-effective basis enhancements or improvements to our platform or any new products and services that respond to continued changes in subscription management practices or new customer requirements, nor can we be sure that any enhancements or improvements to our platform or any new products and services will achieve market acceptance. Since developing our solution is complex, the timetable for the release of new products and enhancements to existing products is difficult to predict, and we may not offer new products and updates as rapidly as our customers require or expect. Any new products or services that we develop may not be introduced in a timely or cost-effective manner, may contain errors or defects, or may not achieve the broad market acceptance necessary to generate sufficient revenue. The introduction of new products and enhancements could also increase costs associated with customer support and customer success as demand for these services increase. This increase in cost could negatively impact profit margins, including our gross margin. Moreover, even if we introduce new products and services, we may experience a decline in revenue of our existing products and services that is not offset by revenue from the new products or services. For example, customers may delay making purchases of new products and services to permit them to make a more thorough evaluation of these products and services or until industry and marketplace reviews become widely available. Some customers may hesitate to migrate to a new product or service due to concerns regarding the complexity of migration or performance of the new product or service. In addition, we may lose existing customers who choose a competitor’s products and services or choose to utilize internally developed applications instead of our products and services. This could result in a temporary or permanent revenue shortfall and adversely affect our business. In addition, because our products and services are designed to interoperate with a variety of other internal or third-party software products and business systems applications, we will need to continuously modify and enhance our products and services to keep pace with changes in application programming interfaces (APIs), and other software and database technologies. We may not be successful in either developing these new products and services, modifications, and enhancements or in bringing them to market in a timely fashion. There is no assurance that we will successfully resolve such issues in a timely and cost-effective manner. Furthermore, modifications to existing platforms or technologies, including any APIs with which we interoperate, will increase our research and development expenses. Any failure of our products and services to operate effectively with each other or with other platforms and technologies could reduce the demand for our products and services, result in customer dissatisfaction, and adversely affect our business. A customer’s failure to deploy our solution after it enters into a subscription agreement with us, or the incorrect or improper deployment or use of our solution could result in customer dissatisfaction and negatively affect our business, operating results, financial condition, and growth prospects. Our solution is deployed in a wide variety of technology environments and into a broad range of complex workflows. We believe our future success will depend in part on our ability to increase both the speed and success of our deployments, by improving our deployment methodology, hiring and training qualified professionals, deepening relationships with deployment partners, and increasing our ability to integrate into large-scale, complex 59 technology environments. We often assist our customers in deploying our solution, either directly or through our deployment partners. In other cases, customers rely on third-party partners to complete the deployment. In some cases, customers initially engage us to deploy our solution, but, for a variety of reasons, including strategic decisions not to utilize subscription business models, fail to ultimately deploy our solution. If we or our third-party partners are unable to deploy our solution successfully, or unable to do so in a timely manner and, as a result, customers do not utilize our solution, we would not be able to generate future revenue from such customers based on transaction or revenue volume and the upsell of additional products and services, and our future operating results could be adversely impacted. In addition, customers may also seek refunds of their initial subscription fee. Moreover, customer perceptions of our solution may be impaired, our reputation and brand may suffer, and customers may choose not to renew or expand their use of our solution. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, our sales cycle may become longer and more expensive, we may encounter still greater pricing pressure and deployment and customization challenges, and we may have to delay revenue recognition for more complicated transactions, all of which could adversely impact our business and operating results. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, we may face greater costs, longer sales cycles, and less predictability in the completion of some of our sales. In this market segment, the customer’s decision to use our solution may be an enterprise-wide decision, in which case these types of sales frequently require approvals by multiple departments and executive-level personnel and require us to provide greater levels of customer education regarding the uses and benefits of our solution, as well as education regarding security, privacy, and scalability of our solution, especially for those large “business to consumer” customers or those with extensive international operations. These large enterprise transactions might also be part of a customer’s broader business model or business systems transformation project, which are frequently subject to budget constraints, multiple approvals, and unplanned administrative, processing, security review, and other delays that could further lengthen the sales cycle. Larger enterprises typically have longer decision-making and deployment cycles, may have greater resources to develop and maintain customized tools and applications, demand more customization, require greater functionality and scalability, expect a broader range of services, demand that vendors take on a larger share of risks, demand increased levels of customer service and support, require acceptance provisions that can lead to a delay in revenue recognition, and expect greater payment flexibility from vendors. We are often required to spend time and resources to better familiarize potential customers with the value proposition of our solution. As a result of these factors, sales opportunities with large enterprises may require us to devote greater sales and administrative support and professional services resources to individual customers, which could increase our costs, lengthen our sales cycle, and divert our own sales and professional services resources to a smaller number of larger customers. We may spend substantial time, effort, and money in our sales, design and implementation efforts without being successful in producing any sales or deploying our products in such a way that is satisfactory to our customers. All these factors can add further risk to business conducted with these customers. In addition, if sales expected from a large customer for a particular quarter are not realized in that quarter or at all, our business, operating results, and financial condition could be materially and adversely affected. Furthermore, our sales and implementation cycles could be interrupted or affected by other factors outside of our control. For example, due to global economic uncertainty, rising inflation and interest rates, and foreign exchange fluctuations, many large enterprises have generally reduced or delayed technology or other discretionary spending, which may materially and negatively impact our operating results, financial condition and prospects. In addition, like many other companies, including our customers and prospects, our employees are working from home as a result of the COVID-19 pandemic. While we are now allowing business travel more freely in places where such travel is permitted under local regulations, restrictions on travel and in-person meetings could affect services delivery, delay implementations, and interrupt sales activity. We cannot predict whether, for how long, or the extent to which the COVID-19 pandemic may adversely affect our business, results of operations, and financial condition. Our long-term success depends, in part, on our ability to expand the sales of our solution to customers located outside of the United States. Our current international operations, and any further expansion of those operations, expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. We have been recognizing increased revenue from international sales, and we conduct our business activities in various foreign countries. We currently have operations in North America, Europe, Asia, and Australia. During the nine months ended October 31, 2022, we derived approximately 35% of our total revenue from customers located outside the United States. Our ability to manage our business and conduct our operations internationally requires 60 considerable management attention and resources and is subject to the particular challenges of supporting a rapidly growing business in an environment of multiple cultures, customs, legal systems, regulatory systems, and commercial infrastructures. International expansion requires us to invest significant funds and other resources. Our operations in international markets may not develop at a rate that supports our level of investment. Expanding internationally may subject us to new risks that we have not faced before or increase risks that we currently face, including risks associated wit • recruiting and retaining talented and capable employees in foreign countries; • providing our solution to customers from different cultures, which may require us to adapt to sales practices, modify our solution, and provide features necessary to effectively serve the local market; • compliance with multiple, conflicting, ambiguous or evolving governmental laws and regulations and court decisions, including those relating to employment matters, e-invoicing, consumer protection, privacy, data protection, information security, data residency, and encryption; • longer sales cycles in some countries; • increased third-party costs relating to data centers outside of the United States; • generally longer payment cycles and greater difficulty in collecting accounts receivable; • credit risk and higher levels of payment fraud; • weaker privacy and intellectual property protection in some countries, including China and India; • compliance with anti-bribery laws, such as the U.S. Foreign Corrupt Practices Act of 1977, as amended (FCPA), and the UK Bribery Act 2010 (UK Bribery Act); • currency exchange rate fluctuations; • tariffs, export and import restrictions, restrictions on foreign investments, sanctions, and other trade barriers or protection measures; • foreign exchange controls that might prevent us from repatriating cash earned outside the United States; • economic instability and inflationary conditions; • political instability and unrest, including the effects of Brexit, the COVID-19 pandemic, and the ongoing conflict in Ukraine, especially as it impacts countries in Europe; • corporate espionage; • compliance with the laws of numerous taxing jurisdictions, both foreign and domestic, in which we conduct business, potential double taxation of our international earnings, and potentially adverse tax consequences due to changes in applicable U.S. and foreign tax laws; • continuing uncertainty regarding social, political, immigration, and tax and trade policies in the U.S. and abroad; • increased costs to establish and maintain effective controls at foreign locations; and • overall higher costs of doing business internationally. If we are unable to grow our sales channels and our relationships with strategic partners, such as system integrators, management consulting firms, and resellers, sales of our products and services may suffer and our growth could be slower than we project. In addition to our direct sales force, we use strategic partners, such as system integrators, management consulting firms, strategic technology partners and resellers, to market, sell, and implement our solution. Historically, we have used these strategic partners to a limited degree, but we are prioritizing efforts to make these partners an increasingly important aspect of our business particularly with regard to enterprise and international sales and larger implementations of our products where these partners may have more expertise and established business relationships than we do. We have been and expect to continue to transition a portion of our professional services implementations to these strategic partners, and as a result we expect our professional services revenue as an overall percentage of Zuora's total revenue to continue to decline over time. Our relationships with these strategic partners are still at an early stage of development, and we cannot assure you that these partners will be successful 61 in marketing, selling or implementing our solution. Identifying these partners, negotiating and supporting relationships with them, including training them in how to sell or deploy our solution, and maintaining these relationships requires significant commitment of time and resources that may not yield a significant return on our investment in these relationships. Our future growth in revenue and ability to achieve and sustain profitability depends in part on our ability to identify, establish, and retain successful strategic partner relationships in the United States and internationally, which will take significant time and resources and involve significant risk. If we are unable to establish and maintain our relationships with these partners, or otherwise develop and expand our indirect distribution channel, our business, operating results, financial condition, or cash flows could be adversely affected. We also cannot be certain that we will be able to maintain successful relationships with any strategic partners and, to the extent that our strategic partners are unsuccessful in marketing, selling, or implementing our solution, our business, operating results, and financial condition could be adversely affected. Our strategic partners may market to our customers the products and services of several different companies, including products and services that compete with our solution. Because our strategic partners do not have an exclusive relationship with us, we cannot be certain that they will prioritize or provide adequate resources to marketing our solution. Moreover, divergence in strategy by any of these partners may materially adversely affect our ability to develop, market, sell, or support our solution. We cannot assure you that our strategic partners will continue to cooperate with us. In addition, actions taken or omitted to be taken by such parties may adversely affect us. We are unable to control the quantity or quality of resources that our systems integrator partners commit to deploying our products and services, or the quality or timeliness of such deployment. If our partners do not commit sufficient or qualified resources to these activities, our customers will be less satisfied, be less supportive with references, or may require the investment of our resources at discounted rates. These, and other failures by our partners to successfully deploy our products and services, may have an adverse effect on our business and our operating results. Our growth forecasts we have provided publicly may prove to be inaccurate, and even if the markets in which we compete achieve the forecasted growth, we cannot assure that our business will grow at similar rates, if at all. Growth forecasts are subject to significant uncertainty and are based on assumptions and estimates that may not prove to be accurate. The forecasts we have provided publicly relating to the expected growth of the markets in which we compete may prove to be inaccurate. Even if these markets experience the growth we forecast, we may not grow our business at similar rates, or at all. Our growth is subject to many factors, including our success in executing our business strategy, which is subject to many risks and uncertainties. Accordingly, the forecasts of market growth we have provided publicly should not be taken as indicative of our future growth. If we fail to offer high-quality support and training to our customers and third-party partners, our business and reputation will suffer. Once our solution is deployed to our customers, our customers rely on support services from us and from our third-party partners to resolve any related issues. High-quality education, training and support for our customers and third-party partners is important for the successful marketing and sale of our products and for the renewal of existing customers. The importance of high-quality customer and third-party partner training and support will increase as we expand our business and pursue new enterprises. If we or our third-party partners do not help our customers quickly resolve post-deployment issues, including configuring and using features, and provide them with effective ongoing customer support, our ability to upsell additional products to existing customers could suffer and our reputation with existing or potential customers could be harmed. Future changes in market conditions or customer demand could require changes to our prices or pricing model, which could adversely affect our business, operating results, and financial condition. We generally charge our customers a flat fee for their use of our platform and a variable fee based on the amount of transaction volume they process through our system and the number of their subscribers. If our customers do not increase their transaction volume or the number of their subscribers, or an economic downturn reduces their transaction volume or the number of their subscribers, our revenue may be adversely impacted by customers reducing their contracted transaction volume. We have limited experience with respect to determining the optimal prices for our platform, and, as a result, we have in the past needed to and expect in the future to need to change our pricing model from time to time. As the market for our platform matures, or as new competitors introduce new products or services that compete with ours, we may be unable to attract new customers at the same price or based on the same pricing models as we have used historically. We may experience pressure to change our pricing 62 model to defer fees until our customers have fully deployed our solution. Moreover, larger organizations, which comprise a large and growing component of our sales efforts, may demand substantial price concessions. As a result, in the future we may be required to reduce our prices or change our pricing model, which could adversely affect our revenue, gross margin, profitability, financial position, and cash flow. If we fail to integrate our solution with a variety of operating systems, software applications, and hardware platforms that are developed by others, our solution may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Our solution must integrate with a variety of network, hardware, and software platforms, and we need to continuously modify and enhance our solution to adapt to changes in cloud-enabled hardware, software, networking, browser, and database technologies. We have developed our solution to be able to integrate with third-party SaaS applications, including the applications of software providers that compete with us, through the use of APIs. For example, Zuora CPQ integrates with certain capabilities of Salesforce using publicly available APIs. In general, we rely on the fact that the providers of such software systems, including Salesforce, continue to allow us access to their APIs to enable these integrations, and the terms with such companies may be subject to change from time to time. We also integrate certain aspects of our solution with other platform providers. Any change or deterioration in our relationship with any platform provider may adversely impact our business and operating results. Our business may be adversely impacted if any platform provide • discontinues or limits access to its APIs by us; • makes changes to its platform; • terminates or does not allow us to renew or replace our contractual relationship; • modifies its terms of service or other policies, including fees charged to, or other restrictions on, us or other application developers, or changes how customer information is accessed by us or our customers; • establishes more favorable relationships with one or more of our competitors, or acquires one or more of our competitors or is acquired by a competitor and offers competing services to us; or • otherwise develops its own competitive offerings. In addition, we have benefited from these platform providers’ brand recognition, reputations, and customer bases. Any losses or shifts in the market position of these platform providers in general, in relation to one another or to new competitors or new technologies could lead to losses in our relationships or customers, or to our need to identify or transition to alternative channels for marketing our solutions. Such changes could consume substantial resources and may not be effective. If we are unable to respond to changes in a cost-effective manner, our solution may become less marketable, less competitive, or obsolete and our operating results may be negatively impacted. If we fail to develop, maintain, and enhance our brand and reputation cost-effectively, our business and financial condition may be adversely affected. We believe that developing, maintaining, and enhancing awareness and integrity of our brand and reputation in a cost-effective manner are important to achieving widespread acceptance of our solution and are important elements in attracting new customers and maintaining existing customers. We believe that the importance of our brand and reputation will increase as competition in our market further intensifies. Successful promotion of our brand and the Subscription Economy concept will depend on the effectiveness of our marketing efforts, our ability to provide a reliable and useful solution at competitive prices, the perceived value of our solution, and our ability to provide quality customer support. In addition, the promotion of our brand requires us to make substantial expenditures, and we anticipate that the expenditures will increase as our market becomes more competitive, as we expand into new markets, and as more sales are generated through our strategic partners. Brand promotion activities may not yield increased revenue, and even if they do, the increased revenue may not offset the expenses we incur in building and maintaining our brand and reputation. We also rely on our customer base and community of end-users in a variety of ways, including to give us feedback on our solution and to provide user-based support to our other customers. If we fail to promote and maintain our brand successfully or to maintain loyalty among our customers, or if we incur substantial expenses in an unsuccessful attempt to promote and maintain our brand, we may fail to attract new customers and partners or retain our existing customers and partners and our business and financial condition may be adversely affected. Any negative publicity relating to our customers, employees, partners, 63 or others associated with these parties, may also tarnish our own reputation simply by association and may reduce the value of our brand. Damage to our brand and reputation may result in reduced demand for our solution and increased risk of losing market share to our competitors. Any efforts to restore the value of our brand and rebuild our reputation may be costly and may not be successful. We employ third-party licensed software for use in or with our software, and the inability to maintain these licenses or errors in the software we license could result in increased costs or reduced service levels, which could adversely affect our business. Our software incorporates certain third-party software obtained under licenses from other companies. We anticipate that we will continue to rely on such third-party software and development tools from third parties in the foreseeable future. Although we believe that there are commercially reasonable alternatives to the third-party software we currently license, including open source software, this may not always be the case, or it may be difficult or costly to migrate to other third-party software. Our use of additional or alternative third-party software would require us to enter into license agreements with third parties. In addition, integration of our software with new third-party software may require significant work and require substantial investment of our time and resources. Also, any undetected or uncorrected errors or defects in third-party software could prevent the deployment or impair the functionality of our software, present security risks, delay new updates or enhancements to our solution, result in a failure of our solution, and injure our reputation. Certain of our operating results and financial metrics may be difficult to predict as a result of seasonality. Although we have not historically experienced significant seasonality with respect to our subscription revenue throughout the year, we have seen seasonality in our sales cycle as a large percentage of our customers make their purchases in the third month of any given quarter. In addition, our fourth quarter has historically been our strongest quarter. We believe that this results in part from the procurement, budgeting, and deployment cycles of many of our customers. We generally expect a relative increase in sales in the second half of each year as budgets of our customers for annual capital purchases are being fully utilized. We may be affected by seasonal trends in the future, particularly as our business matures. Such seasonality may result from a number of factors, including a slowdown in our customers’ procurement process during certain times of the year, both domestically and internationally, and customers choosing to spend remaining budgets shortly before the end of their fiscal years. These effects may become more pronounced as we target larger organizations and their larger budgets for sales of our solution. Additionally, this seasonality may be reflected to a much lesser extent, and sometimes may not be immediately apparent, in our revenue, due to the fact that we recognize subscription revenue over the term of the applicable subscription agreement. In addition, our ability to record professional services revenue can potentially vary based on the number of billable days in the given quarter, which is impacted by holidays and vacations. To the extent we experience this seasonality, it may cause fluctuations in our operating results and financial metrics and make forecasting our future operating results and financial metrics more difficult. Our Debt Agreement provides our lender with a first-priority lien against substantially all of our non-intellectual property assets, and contains financial covenants and other restrictions on our actions, which could limit our operational flexibility and otherwise adversely affect our financial condition. Our Debt Agreement restricts our ability to, among other thi • use our accounts receivable, inventory, trademarks, and most of our other assets as security in other borrowings or transactions; • incur additional indebtedness; • sell certain assets; • declare dividends or make certain distributions; and • undergo a merger or consolidation or other transactions. Our Debt Agreement also prohibits us from exceeding certain adjusted quick ratios. Our ability to comply with these and other covenants is dependent upon a number of factors, some of which are beyond our control. 64 Our failure to comply with the covenants or payment requirements, or the occurrence of other events specified in our Debt Agreement could result in an event of default under the Debt Agreement which would give our lender the right to terminate their commitments to provide additional loans under the Debt Agreement and to declare all borrowings outstanding, together with accrued and unpaid interest and fees, to be immediately due and payable. In addition, we have granted our lender first-priority liens against substantially all of our non-intellectual property assets as collateral, and have pledged not to encumber or otherwise grant any security interest in our intellectual property. Failure to comply with the covenants or other restrictions in the Debt Agreement could result in a default. If the debt under our Debt Agreement was to be accelerated, we may not have sufficient cash on hand or be able to sell sufficient collateral to repay it, which would have an immediate adverse effect on our business and operating results. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy If our security measures are breached, if unauthorized access to customer data, our data, or our solution is otherwise obtained, or if our solution is perceived as not being secure, customers may reduce the use of or stop using our solution, we may have difficulty attracting customers, and we may incur significant liabilities. We have in the past experienced security incidents and breaches and may in the future experience additional security incidents or breaches. Security breaches and other security incidents could result in the loss of information, disruption of services, litigation, indemnity obligations, penalties, and other liability. If our security measures or those of our service providers are breached, or are perceived to have been breached, as a result of third-party action, including cyber-attacks or other intentional misconduct by computer hackers, employee error, malfeasance, or otherwise, and someone obtains unauthorized access to our data or other data we or our service providers maintain, including sensitive customer data, personal information, intellectual property, and other confidential business information, we could face loss of business, lawsuits or claims, regulatory investigations, or orders, and our reputation could be severely damaged. We, and our third-party partners, have security measures and disaster response plans in place to help protect our customers’ data, our own data and information, and our platform, networks, and other systems against unauthorized access or inadvertent exposure. However, we cannot assure that these security measures and disaster response plans will be effective against all security threats and natural disasters. System failures or outages, including any potential disruptions due to significantly increased global demand on certain cloud-based systems during the COVID-19 pandemic, could compromise our ability to perform our day-to-day operations in a timely manner, which could negatively impact our business or delay our financial reporting. Such failures could materially adversely affect our operating results and financial condition. With more companies and individuals working remotely, the attack surface available for exploitation and the risk of cybersecurity incidents has increased. For example, since the beginning of the COVID-19 pandemic and, also more recently following the Russian invasion of Ukraine, there has been an increase in phishing and spam emails as well as social engineering attempts from “hackers.” Although the security incidents and breaches that we have experienced to date have not had a material effect on our business, there is no assurance that our security systems or processes will prevent or mitigate more serious break-ins, tampering, security incidents or breaches or other cyber-attacks that could occur in the future. If we experience a security incident or breach, we could be required to expend significant capital and other resources to alleviate the problem, as well as incur significant costs and liabilities, including due to litigation, indemnity obligations, damages for contract breach, penalties for violation of applicable laws or regulations, and costs for remediation and incentives offered to affected parties, including customers, other business partners and employees, in an effort to maintain business relationships after a breach or other incident. Moreover, if our solution is perceived as not being secure, regardless of whether our security measures are actually breached, we could suffer harm to our reputation, and our operating results could be negatively impacted. We cannot assure you that any limitations of liability provisions in our contracts would be enforceable or adequate or would otherwise protect us from any liabilities or damages with respect to any particular claim relating to a security breach or other security-related matters. We also cannot be sure that our existing insurance coverage will continue to be available on acceptable terms or will be available in sufficient scope or amounts to cover one or more large claims related to a security incident or breach, or that the insurer will not deny coverage as to any future claim. The successful assertion of one or more large claims against us that exceed available insurance coverage, or the occurrence of changes in our insurance policies, including premium increases or the imposition of large 65 deductible or co-insurance requirements, could have a material adverse effect on our business, including our financial condition, operating results, and reputation. Cyber-attacks and other malicious Internet-based activities continue to increase generally. Because the techniques used to obtain unauthorized access to or sabotage systems change frequently and generally are not identified until they are launched against a target, we and our service providers may be unable to anticipate these techniques or to implement adequate preventative measures. In addition, third parties may attempt to fraudulently induce employees, contractors, or users to disclose information to gain access to our data or our customers’ data. We could suffer significant damage to our brand and reputation if a cyber-attack or other security incident were to allow unauthorized access to or modification of our customers’ data, other external data, or our own data or our IT systems or if the services we provide to our customers were disrupted, or if our solution is perceived as having security vulnerabilities. Customers could lose confidence in the security and reliability of our solution and perceive them to be not secure. This could lead to fewer customers using our products and services and result in reduced revenue and earnings. The costs we would incur to address and respond to these security incidents, and to prevent them thereafter, would increase our expenses. These types of security incidents could also lead to lawsuits, regulatory investigations and claims, and increased legal liability, including in some cases costs related to notification of the incident and fraud monitoring. In addition, while a majority of our employees are based in the United States, like many similarly situated technology companies, we have a sizable number of research and development and other personnel located outside the United States, including in China, which has exposed and could continue to expose us to governmental and regulatory, as well as market and media scrutiny, regarding the actual or perceived integrity of our platform or data security and privacy features. Any actual or perceived security compromise could reduce customer confidence in the effectiveness of our security measures, negatively affect our ability to attract new customers, and cause existing customers to reduce the use or stop using our solution, any of which could harm our business and reputation. Privacy and security concerns, laws, and regulations, may reduce the effectiveness of our solution and adversely affect our business. Our customers can use our solution to collect, use, and store personal information regarding their customers or other end users. Governments and agencies worldwide have adopted or may adopt laws and regulations regarding the collection, use, storage, data residency, security, disclosure, transfer across borders and other processing of information obtained from individuals within jurisdictions. These laws and regulations increase the costs and burdens of compliance, including the ability to transfer information from, or a requirement to store in, particular jurisdictions and coul • impact our ability to offer our products and services in certain jurisdictions, • decrease demand for or require us to modify or restrict our product or services, or • impact our customers’ ability and willingness to use, adopt and deploy our solution globally. Compliance or our inability to comply with such laws, regulations, and other obligations, could lead to reduced overall demand and impair our ability to maintain and grow our customer base and increase our revenue. We may be unable to make changes that we consider necessary or appropriate to address changes in laws, regulations, or other obligations in a commercially reasonable manner, in a timely fashion, or at all. Additionally, laws and regulations relating to the processing of information can vary significantly based on the jurisdiction. Some regions and countries have or are enacting strict laws and regulations, including the European Union (EU), China (PIPL), Australia, and India, as well as states within the United States, such as California. The General Data Protection Regulation (GDPR) became effective in May 2018. The GDPR established new requirements for processing personal data and imposes penalties of up to the greater of €20 million or 4% of worldwide revenue. On June 4, 2021, the European Commission issued replacement standard contractual clauses (2021 SCCs) to govern the transfer of personal data to a country that has not been deemed adequate, such as the United States. The 2021 SCCs impose additional requirements and, potentially increased liability for data processors such as us. Since the 2021 SCCs replace the prior version, we will need to enter into 2021 SCCs with our customers and vendors before the December 27, 2022 deadline to meet GDPR requirements. The pending EU ePrivacy Regulation is expected to establish additional restrictions and penalties. In January 2020, the California Consumer Privacy Act (CCPA) which provides new data privacy rights for consumers, including a private right of 66 action for security breaches, new penalties for violations, and new operational requirements for companies, went into effect. The California Privacy Rights Act (CPRA) will replace the CCPA and becomes effective on January 2, 2023. The CCPA gives, and the CPRA will give, California residents expanded rights to access and require deletion of their personal data, opt out of certain personal data sharing, and receive detailed information about how their personal data is collected, used and shared. The CCPA provides for civil penalties for violations, as well as a private right of action for security breaches that may increase security breach litigation. The CCPA and CPRA may increase our compliance costs and potential liability, particularly in the event of a data breach, and could have a material adverse effect on our business, including how we use personal data, our financial condition, our operating results or prospects. The CCPA has also prompted a number of proposals for new federal and state privacy legislation that, if passed, could increase our potential liability, increase our compliance costs and adversely affect our business. Changing definitions of personal data and information may also limit or inhibit our ability to operate or expand our business, including limiting strategic partnerships that may involve the sharing of data. Also, some jurisdictions require that certain types of data be retained on servers within these jurisdictions. Our failure to comply with applicable laws and regulations may result in enforcement action or litigation against us, including fines, and damage to our reputation, any of which may have an adverse effect on our business and operating results. We also are bound by standards, contracts and other obligations relating to processing personal information that are more stringent than applicable laws and regulations. The costs of compliance with, and other burdens imposed by, these laws, regulations, and other obligations are significant. In addition, some companies, particularly larger or global enterprises, often will not contract with vendors that do not meet these rigorous obligations and often seek contract terms to ensure we are financially liable for any breach of these obligations. Accordingly, our or as well as our vendors' failure, or perceived inability, to comply with these obligations may limit the demand, use and adoption of our solution, lead to regulatory investigations, breach of contract claims, litigation, damage our reputation and brand and lead to significant fines, penalties, or liabilities or slow the pace at which we close sales transactions, any of which could harm our business. Future laws, regulations, standards, and other obligations, actions by governments or other agencies, and changes in the interpretation or inconsistent interpretation of existing laws, regulations, standards, and other obligations could result in increased regulation, increased costs of compliance and penalties for non-compliance, costly changes to Zuora's products or their functionality, and limitations on processing personal information. Privacy advocacy groups, the technology industry, and other industries have established or may establish various new, additional, or different self-regulatory standards that may place additional burdens on us. Our customers may require us or we may find it advisable to meet voluntary certifications or adhere to other standards established by them or third parties. Our customers may also expect us to take proactive stances or contractually require us to take certain actions should a request for personal information belonging to customers be received from a government or regulatory agency. If we are unable to maintain such certifications, comply with such standards, or meet such customer requests, it could reduce demand for our solution and adversely affect our business. Failure to protect our intellectual property could adversely affect our business. Our success depends in large part on our proprietary technology. We rely on various intellectual property (IP) rights, including patents, copyrights, trademarks, and trade secrets, as well as confidentiality provisions and contractual arrangements, to protect our proprietary rights. If we do not protect and enforce our intellectual property rights successfully, our competitive position may suffer, which could adversely impact our operating results. Our pending patent or trademark applications may not be allowed, or competitors may challenge the validity, enforceability or scope of our patents, copyrights, trademarks or the trade secret status of our proprietary information. There can be no assurance that additional patents will be issued or that any patents that are issued will provide significant protection for our intellectual property. There is also no assurance that we will be able to register trademarks that are critical to our business. In addition, our patents, copyrights, trademarks, trade secrets, and other intellectual property rights may not provide us a significant competitive advantage. There is no assurance that the particular forms of intellectual property protection that we seek, including business decisions about when to file patents and when to maintain trade secrets, will be adequate to protect our business. Moreover U.S. patent law, developing jurisprudence regarding U.S. patent law, and possible future changes to U.S. or foreign patent laws and regulations may affect our ability to protect and enforce our intellectual property rights. In addition, the laws of some countries do not provide the same level of protection of our intellectual property as do the laws of the United States. As we expand our international activities, our exposure to unauthorized copying and use of our solution and proprietary information will likely increase. Despite our precautions, our intellectual 67 property is vulnerable to unauthorized access through employee error or actions, theft, and cybersecurity incidents, and other security breaches. It may be possible for third parties to infringe upon or misappropriate our intellectual property, to copy our solution, and to use information that we regard as proprietary to create products and services that compete with ours. Effective intellectual property protection may not be available to us in every country in which our solution is available. For example, some foreign countries have compulsory licensing laws under which a patent owner must grant licenses to third parties. In addition, many countries limit the enforceability of patents against certain third parties, including government agencies or government contractors. In these countries, patents may provide limited or no benefit. We may need to expend additional resources to defend our intellectual property rights domestically or internationally, which could impair our business or adversely affect our domestic or international expansion. Moreover, we may not pursue or file patent applications or apply for registration of copyrights or trademarks in the United States and foreign jurisdictions in which we operate with respect to our potentially patentable inventions, works of authorship, marks and logos for a variety of reasons, including the cost of procuring such rights and the uncertainty involved in obtaining adequate protection from such applications and registrations. If we cannot adequately protect and defend our intellectual property, we may not remain competitive, and our business, operating results, and financial condition may be adversely affected. We enter into confidentiality and invention assignment agreements with our employees and consultants and enter into confidentiality agreements with other parties. We cannot assure you that these agreements will be effective in controlling access to, use of, and distribution of our proprietary information or in effectively securing exclusive ownership of intellectual property developed by our current or former employees and consultants. Further, these agreements may not prevent other parties from independently developing technologies that are substantially equivalent or superior to our solution. We may need to spend significant resources securing and monitoring our intellectual property rights, and we may or may not be able to detect infringement by third parties. Our competitive position may be harmed if we cannot detect infringement and enforce our intellectual property rights quickly or at all. In some circumstances, we may choose to not pursue enforcement because an infringer has a dominant intellectual property position or for other business reasons. In addition, competitors might avoid infringement by designing around our intellectual property rights or by developing non-infringing competing technologies. Litigation may be necessary in the future to enforce our intellectual property rights and to protect our trade secrets. Litigation brought to protect and enforce our intellectual property rights could be costly, time-consuming, and distracting to management, and could result in the impairment or loss of portions of our intellectual property. Further, our efforts to enforce our intellectual property rights may be met with defenses, counterclaims attacking the scope, validity, and enforceability of our intellectual property rights, or with counterclaims and countersuits asserting infringement by our products and services of third-party intellectual property rights. Our failure to secure, protect, and enforce our intellectual property rights could seriously adversely affect our brand and our business. Additionally, the United States Patent and Trademark Office and various foreign governmental patent agencies require compliance with a number of procedural, documentary, fee payment, and other similar provisions in order to complete the patent or trademark application process and to maintain issued patents or trademarks. There are situations in which noncompliance or non-payment can result in abandonment or lapse of the patent or trademark or associated application, resulting in partial or complete loss of patent or trademark rights in the relevant jurisdiction. If this occurs, it could have a material adverse effect on our business operations and financial condition. Errors, defects, or disruptions in our solution could diminish demand, harm our financial results, and subject us to liability. Our customers use our products for important aspects of their businesses, and any errors, defects, or disruptions to our solution, or other performance problems with our solution could harm our brand and reputation and may damage our customers’ businesses. We are also reliant on third-party software and infrastructure, including the infrastructure of the Internet, to provide our products and services. Any failure of or disruption to this software and infrastructure could also make our solution unavailable to our customers. Our solution is constantly changing with new software releases, which may contain undetected errors when first introduced or released. Any errors, defects, disruptions in service, or other performance problems with our solution could result in negative publicity, loss of or delay in market acceptance of our products, loss of competitive position, delay of payment to us, lower renewal rates, or claims by customers for losses sustained by them. In such an event, we may be required, or may choose, for customer relations or other reasons, to expend additional resources in order to help correct the problem. Accordingly, any errors, defects, or disruptions to our solution could adversely impact our brand and reputation, revenue, and operating results. 68 In addition, because our products and services are designed to interoperate with a variety of internal and third-party systems and infrastructures, we need to continuously modify and enhance our products and services to keep pace with changes in software technologies. We may not be successful in either developing these modifications and enhancements or resolving interoperability issues in a timely and cost-effective manner. Any failure of our products and services to continue to operate effectively with internal or third-party infrastructures and technologies could reduce the demand for our products and services, resulting in dissatisfaction of our customers, and may materially and adversely affect our business. Any disruption of service at our cloud providers, including Amazon Web Services and Microsoft's Azure cloud service, could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. We currently host our solution, serve our customers, and support our operations using Amazon Web Services (AWS), a provider of cloud infrastructure services, and have begun enabling new features and capabilities for our solution using Microsoft's Azure cloud service. We also leverage AWS in various geographic regions for our disaster recovery plans. We do not have control over the operations of the facilities of AWS or Azure. These facilities are vulnerable to damage or interruption from earthquakes, hurricanes, floods, fires, cyber security attacks, terrorist attacks, power losses, telecommunications failures, and similar events. The occurrence of a natural disaster or an act of terrorism, a decision to close the facilities without adequate notice, or other unanticipated problems could result in lengthy interruptions in our solution. In addition, the COVID-19 pandemic could potentially disrupt the supply chain of hardware needed to maintain these third-party systems or to run our business. The facilities also could be subject to break-ins, computer viruses, sabotage, intentional acts of vandalism, and other misconduct. Our solution’s continuing and uninterrupted performance is critical to our success. Because our products and services are used by our customers for billing and financial accounting purposes, it is critical that our solution be accessible without interruption or degradation of performance, and we typically provide our customers with service level commitments with respect to service uptime. Customers may become dissatisfied by any system failure that interrupts our ability to provide our solution to them. Outages could lead to the triggering of our service level agreements and the issuance of credits to our customers, in which case, we may not be fully indemnified for such losses by AWS or Azure. We may not be able to easily switch our public cloud providers, including AWS and Azure, to another cloud provider if there are disruptions or interference with our use of either facility. Sustained or repeated system failures would reduce the attractiveness of our solution to customers and result in contract terminations, thereby reducing revenue. Moreover, negative publicity arising from these types of disruptions could damage our reputation and may adversely impact use of our solution. We may not carry sufficient business interruption insurance to compensate us for losses that may occur as a result of any events that cause interruptions in our service. While our agreement with AWS expires in September 2024, AWS and our other cloud providers do not have an obligation to renew their agreements with us on commercially reasonable terms, or at all. If we are unable to renew our agreements with these providers on commercially reasonable terms, if our agreements with our providers are prematurely terminated, or if in the future we add additional public cloud providers, we may experience additional costs or service downtime in connection with the transfer to, or the addition of, new public cloud providers. If these providers were to increase the cost of their services, we may have to increase the price of our solution, and our operating results may be adversely impacted. We are vulnerable to intellectual property infringement claims brought against us by others. There has been considerable activity in our industry to develop and enforce intellectual property rights. Successful intellectual property infringement claims against us or certain third parties, such as our customers, resellers, or strategic partners, could result in monetary liability or a material disruption in the conduct of our business. We cannot be certain that our products and services, content, and brand names do not or will not infringe valid patents, trademarks, copyrights, or other intellectual property rights held by third parties. We may be subject to legal proceedings and claims from time to time relating to the intellectual property of others in the ordinary course of our business. Any intellectual property litigation to which we might become a party, or for which we are required to provide indemnification, may require us to cease selling or using solutions that incorporate the intellectual property that we allegedly infringe, make substantial payments for legal fees, settlement payments, or other costs or damages, obtain a license, which may not be available on reasonable terms or at all, to sell or use the relevant technology, or redesign the allegedly infringing solutions to avoid infringement, which could be costly, time-consuming, or impossible. Any claims or litigation, regardless of merit, could cause us to incur significant expenses 69 and, if successfully asserted against us, could require that we pay substantial damages or ongoing royalty payments, prevent us from offering our products and services, or require that we comply with other unfavorable terms. We do not have a significant patent portfolio, which could prevent us from deterring patent infringement claims through our own patent portfolio, and our competitors and others may now and in the future have significantly larger and more mature patent portfolios than we have. We may also be obligated to indemnify our customers or strategic partners in connection with such infringement claims, or to obtain licenses from third parties or modify our solution, and each such obligation could further exhaust our resources. Some of our intellectual property infringement indemnification obligations are contractually capped at a very high amount or not capped at all. Even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the time and attention of our management and other employees, and adversely affect our business and operating results. We expect that the occurrence of infringement claims is likely to grow as the market for subscription management products and services grows. Accordingly, our exposure to damages resulting from infringement claims could increase and this could further exhaust our financial and management resources. Our solution contains open source software components, and failure to comply with the terms of the underlying licenses could restrict our ability to sell our solution. Our solution incorporates certain open source software. An open source license typically permits the use, modification, and distribution of software in source code form subject to certain conditions. Some open source licenses contain conditions that any person who distributes or uses a modification or derivative work of software that was subject to an open source license make the modified version subject to the same open source license. Distributing or using software that is subject to this kind of open source license can lead to a requirement that certain aspects of our solution be distributed or made available in source code form. Although we do not believe that we have used open source software in a manner that might condition its use on our distribution of any portion of our solution in source code form, the interpretation of open source licenses is legally complex and, despite our efforts, it is possible that we may be liable for copyright infringement, breach of contract, or other claims if our use of open source software is adjudged to not comply with the applicable open source licenses. Moreover, we cannot assure you that our processes for controlling our use of open source software in our solution will be effective. If we have not complied with the terms of an applicable open source software license, we may need to seek licenses from third parties to continue offering our solution on terms that are not economically feasible, to re-engineer our solution to remove or replace the open source software, to discontinue the sale of our solution if re-engineering could not be accomplished on a timely basis, to pay monetary damages, or to make available the source code for aspects of our proprietary technology, any of which could adversely affect our business, operating results, and financial condition. In addition to risks related to license requirements, use of open source software can involve greater risks than those associated with use of third-party commercial software, as open source licensors generally do not provide warranties, assurances of title, performance, non-infringement, or controls on the origin of the software. There is typically no support available for open source software, and we cannot assure you that the authors of such open source software will not abandon further development and maintenance. Open source software may contain security vulnerabilities, and we may be subject to additional security risk by using open source software. Many of the risks associated with the use of open source software, such as the lack of warranties or assurances of title or performance, cannot be eliminated, and could, if not properly addressed, negatively affect our business. We have established processes to help alleviate these risks, including a review process for screening requests from our development organizations for the use of open source software, but we cannot be sure that all open source software is identified or submitted for approval prior to use in our solution. Risks Related to Legal, Regulatory, Accounting, and Tax Matters If we are not able to satisfy data protection, security, privacy, and other government- and industry-specific requirements, our growth could be harmed. We are subject to data protection, security, privacy, and other government- and industry-specific requirements, including those that require us to notify individuals of data security and privacy incidents involving certain types of personal data. Security and privacy compromises experienced by us or our service providers may lead to public disclosures, which could harm our reputation, erode customer confidence in the effectiveness of our security and 70 privacy measures, negatively impact our ability to attract new customers, cause existing customers to elect not to renew their subscriptions with us, or negatively impact our employee relationships or impair our ability to attract new employees. In addition, some of the industries we serve have industry-specific requirements relating to compliance with certain security, privacy and regulatory standards, such as those required by the Health Insurance Portability and Accountability Act. We also maintain compliance with the Payment Card Industry Data Security Standard, which is critical to the financial services and insurance industries. As we expand and sell into new verticals and regions, we will likely need to comply with these and other requirements to compete effectively. If we cannot comply or if we incur a violation in one or more of these requirements, our growth could be adversely impacted, and we could incur significant liability. Because we typically recognize subscription revenue over the term of the applicable agreement, a lack of subscription renewals or new subscription agreements may not be reflected immediately in our operating results and may be difficult to discern. We generally recognize subscription revenue from customers ratably over the terms of their contracts, which typically vary between one and three years. As a result, most of the subscription revenue we report in each quarter is derived from the recognition of unearned revenue relating to subscriptions entered into during previous quarters. Consequently, a decline in new or renewed subscriptions in any particular quarter would likely have a minor impact on our revenue results for that quarter, but could negatively affect our revenue in future quarters. Accordingly, the effect of significant downturns in sales and market acceptance of our solution, and potential changes in our pricing policies or rate of renewals, may not be fully reflected in our operating results until future periods. Moreover, our subscription model makes it difficult for us to rapidly increase our revenue through additional sales in any period, as revenue from new customers must be recognized over the applicable subscription term. We typically provide service level commitments under our customer contracts. If we fail to meet these contractual commitments, we could be obligated to provide credits or refunds for prepaid amounts related to unused subscription services or face contract terminations, which could adversely affect our operating results. Our customer contracts typically provide for service level commitments, which relate to service uptime, response times, and escalation procedures. If we are unable to meet the stated service level commitments or suffer extended periods of unavailability for our solution, we may be contractually obligated to provide these customers with service credits, refunds for prepaid amounts related to unused subscription services, or other remedies, or we could face contract terminations. In addition, we could face legal claims for breach of contract, product liability, tort, or breach of warranty. Although we have contractual protections, such as warranty disclaimers and limitation of liability provisions, in our customer agreements, they may not fully or effectively protect us from claims by customers, commercial relationships, or other third parties. We may not be fully indemnified by our vendors for service interruptions beyond our control, and any insurance coverage we may have may not adequately cover all claims asserted against us, or cover only a portion of such claims. In addition, even claims that ultimately are unsuccessful could result in our expenditure of funds in litigation and divert management’s time and other resources. Thus, our revenue could be harmed if we fail to meet our service level commitments under our agreements with our customers, including, but not limited to, maintenance response times and service outages. Typically, we have not been required to provide customers with service credits that have been material to our operating results, but we cannot assure you that we will not incur material costs associated with providing service credits to our customers in the future. Additionally, any failure to meet our service level commitments could adversely impact our reputation, business, operating results, and financial condition. Our customers may fail to pay us in accordance with the terms of their agreements, necessitating action by us to compel payment. We typically enter into non-cancelable agreements with our customers with a term of one to three years. If customers fail to pay us under the terms of our agreements, we may be adversely affected both from the inability to collect amounts due and the cost of enforcing the terms of our contracts, including litigation. The risk of such negative effects increases with the term length of our customer arrangements. Furthermore, some of our customers may seek bankruptcy protection or other similar relief and fail to pay amounts due to us, or pay those amounts more slowly, either of which could adversely affect our operating results, financial position, and cash flow. Although we have processes in place that are designed to monitor and mitigate these risks, we cannot guarantee these 71 programs will be effective. If we are unable to adequately control these risks, our business, operating results and financial condition could be harmed. Adverse litigation judgments or settlements resulting from legal proceedings in which we may be involved could expose us to monetary damages or limit our ability to operate our business. We are currently involved in shareholder litigation and have in the past and may in the future become involved in other class actions, derivative actions, private actions, collective actions, investigations, and various other legal proceedings by stockholders, customers, employees, suppliers, competitors, government agencies, or others. The results of any such litigation, investigations, and other legal proceedings are inherently unpredictable and expensive. Any claims against us, whether meritorious or not, could be time consuming, result in costly litigation, damage our reputation, require significant amounts of management time, and divert significant resources. If any of these legal proceedings were to be determined adversely to us, or we were to enter into a settlement arrangement, we could be exposed to monetary damages or limits on our ability to operate our business, which could have an adverse effect on our business, financial condition, and operating results. Our ability to use our net operating losses to offset future taxable income may be subject to certain limitations which could subject our business to increased tax liability. Our ability to use our net operating losses (NOLs) to offset future taxable income may be subject to certain limitations which could subject our business to higher tax liability. Utilization of the net operating loss may be subject to an annual limitation due to the "ownership change" limitations provided by Section 382 and 383 of the Internal Revenue Code of 1986, as amended, and other similar state provisions. Additionally, NOLs arising in tax years beginning after December 31, 2017 are subject to a 20-year carryover limitation and may expire if unused within that period. There is also a risk that due to legislative changes, such as suspensions on the use of NOLs, or other unforeseen reasons, our existing NOLs could expire or otherwise be unavailable to offset future income tax liabilities. In addition, under the Tax Cuts and Jobs Act of 2017, as modified by the Coronavirus Aid, Relief, and Economic Security Act, the amount of NOLs that we are permitted to deduct in any taxable year is limited to 80% of our taxable income in such year, where taxable income is determined without regard to the NOL deduction itself. As such, we may not be able to realize a tax benefit from the use of our NOLs, whether or not we attain profitability. We may need to raise additional capital required to grow our business, and we may not be able to raise capital on terms acceptable to us or at all. In order to support our growth and respond to business challenges, such as developing new features or enhancements to our solution to stay competitive, acquiring new technologies, and improving our infrastructure, we have made significant financial investments in our business, and we intend to continue to make such investments. As a result, to provide the funds required for these investments and other business endeavors, we may need to engage in equity or debt financings. For example, in March 2022, we issued to Silver Lake the Initial Notes and have agreed to issue to Silver Lake up to an additional $150.0 million in senior unsecured notes. See Note 9. Debt to our unaudited condensed consolidated financial statements included in this Form 10-Q for more information about the 2029 Notes. If we raise additional funds through equity or convertible debt issuances, our existing stockholders may suffer significant dilution, and these securities could have rights, preferences, and privileges that are superior to that of holders of our common stock. If we obtain additional funds through debt financing, we may not be able to obtain such financing on terms favorable to us. Such terms may involve additional restrictive covenants making it difficult to engage in capital raising activities and pursue business opportunities, including potential acquisitions. Future volatility in the trading price of our common stock may reduce our ability to access capital on favorable terms or at all. In addition, a recession, depression or other sustained adverse market event resulting from the spread of COVID-19 could materially and adversely affect our business and the value of our common stock. If we are unable to obtain adequate financing or financing on terms satisfactory to us when we require it, our ability to continue to support our business growth and to respond to business challenges could be significantly impaired and our business may be adversely affected, requiring us to delay, reduce, or eliminate some or all of our operations. 72 Failure to comply with anti-corruption and anti-money laundering laws, including the FCPA and similar laws associated with our activities outside of the United States, could subject us to penalties and other adverse consequences. We are subject to the FCPA, the U.S. domestic bribery statute contained in 18 U.S.C. § 201, the U.S. Travel Act, the USA PATRIOT Act, the UK Bribery Act, and possibly other anti-bribery and anti-money laundering laws in countries in which we conduct activities. We face significant risks if we fail to comply with the FCPA and other anti-corruption laws that prohibit companies and their employees and third-party intermediaries from promising, authorizing, offering, or providing, directly or indirectly, improper payments or benefits to foreign government officials, political parties, and private-sector recipients for the purpose of obtaining or retaining business, directing business to any person, or securing any advantage. In many foreign countries, particularly in countries with developing economies, it may be a local custom that businesses engage in practices that are prohibited by the FCPA or other applicable laws and regulations. In addition, we use various third parties to sell our solution and conduct our business abroad. We or our third-party intermediaries may have direct or indirect interactions with officials and employees of government agencies or state-owned or affiliated entities and we can be held liable for the corrupt or other illegal activities of these third-party intermediaries, our employees, representatives, contractors, partners, and agents, even if we do not explicitly authorize such activities. We have implemented an anti-corruption compliance program but cannot assure you that all of our employees and agents, as well as those companies to which we outsource certain of our business operations, will not take actions in violation of our policies and applicable law, for which we may be ultimately held responsible. Any violation of the FCPA, other applicable anti-corruption laws, and anti-money laundering laws could result in whistleblower complaints, adverse media coverage, investigations, loss of export privileges, or severe criminal or civil sanctions, which could have a materially adverse effect on our reputation, business, operating results, and prospects. In addition, responding to any enforcement action may result in a significant diversion of management’s attention and resources, significant defense costs, and other professional fees. We are required to comply with governmental export control laws and regulations. Our failure to comply with these laws and regulations could have an adverse effect on our business and operating results. Our solution is subject to governmental, including United States and European Union, export control laws and import regulations, and as a U.S. company we are covered by the U.S. sanctions regulations. U.S. export control and economic sanctions laws and regulations prohibit the shipment of certain products and services to U.S. embargoed or sanctioned countries, governments, entities and persons, and complying with export control and sanctions regulations for a particular sale may be time-consuming and may result in the delay or loss of sales opportunities. While we take precautions to prevent our solution from being exported in violation of these laws or engaging in any other activities that are subject to these regulations, if we were to fail to comply with U.S. export laws, U.S. Customs regulations and import regulations, U.S. economic sanctions, and other countries’ import and export laws, we could be subject to substantial civil and criminal penalties, including fines for our company, incarceration for responsible employees and managers; the possible loss of export or import privileges which could impact our ability to provide our solution to customers; and reputational harm. We incorporate encryption technology into certain of our products and certain encryption products may be exported outside of the United States only by a license or a license exception. In addition, various countries regulate the import of certain encryption technology, including import permitting and licensing requirements, and have enacted laws that could limit our ability to distribute our products or could limit our customers’ ability to deploy our products in those countries. Although we take precautions to prevent our products from being provided in violation of such laws, we cannot assure you that inadvertent violations of such laws have not occurred or will not occur in connection with the distribution of our products despite the precautions we take. Governmental regulation of encryption technology and regulation of imports or exports, or our failure to obtain required import or export approval for our products, could harm our international sales and adversely affect our operating results. Further, if our partners, including suppliers, fail to obtain required import, export, or re-export licenses or permits, we may also be harmed, become the subject of government investigations or penalties, and incur reputational harm. Changes in our solution or changes in export and import regulations may create delays in the introduction of our solution in international markets, prevent our customers with international operations from deploying our solution globally or, in some cases, prevent the export or import of our solution to certain countries, governments, or persons altogether. Any change in export or import laws or regulations, economic sanctions, or 73 related legislation, shift in the enforcement or scope of existing laws and regulations, or change in the countries, governments, persons, or technologies targeted by such laws and regulations, could result in decreased use of our solution by, or in our decreased ability to export or sell our solution to, existing or potential customers such as customers with international operations or customers who are added to the restricted entities list published by the U.S. Office of Foreign Assets Control (OFAC). Any decreased use of our solution or limitation on our ability to export or sell our solution would likely harm our business, financial condition, and operating results. The applicability of sales, use and other tax laws or regulations in the U.S. and internationally on our business is uncertain. Adverse tax laws or regulations could be enacted or existing laws could be applied to us or our customers, which could subject us to additional tax liability and related interest and penalties, increase the costs of our services and adversely impact our business. The application of federal, state, local, and non-U.S. tax laws to services provided electronically is evolving. New income, sales, use, value-added, or other direct or indirect tax laws, statutes, rules, regulations, or ordinances could be enacted at any time (possibly with retroactive effect), and could be applied solely or disproportionately to services provided over the Internet or could otherwise materially affect our financial position and results of operations. Many countries in the European Union, as well as a number of other countries and organizations such as the Organization for Economic Cooperation and Development, have proposed or recommended changes to existing tax laws or have enacted new laws that could impact our tax obligations. As we expand the scale of our international business activities, any changes in the U.S. or foreign taxation of such activities may increase our worldwide effective tax rate and harm our business, results of operations, and financial condition. In addition, state, local, and foreign tax jurisdictions have differing rules and regulations governing sales, use, value-added, and other taxes, and these rules and regulations can be complex and are subject to varying interpretations that may change over time. Existing tax laws, statutes, rules, regulations, or ordinances could be interpreted, changed, modified, or applied adversely to us (possibly with retroactive effect), which could require us or our customers to pay additional tax amounts on prior sales and going forward, as well as require us or our customers to pay fines or penalties and interest for past amounts. Although our customer contracts typically provide that our customers must pay all applicable sales and similar taxes, our customers may be reluctant to pay back taxes and associated interest or penalties, or we may determine that it would not be commercially feasible to seek reimbursement. If we are required to collect and pay back taxes and associated interest and penalties, or we are unsuccessful in collecting such amounts from our customers, we could incur potentially substantial unplanned expenses, thereby adversely impacting our operating results and cash flows. Imposition of such taxes on our services going forward could also adversely affect our sales activity and have a negative impact on our operating results and cash flows. Our reported financial results may be adversely affected by changes in accounting principles generally accepted in the United States. Generally Accepted Accounting Principles (GAAP) is subject to interpretation by the Financial Accounting Standards Board (FASB), the SEC, and various bodies formed to promulgate and interpret appropriate accounting principles. A change in these principles or interpretations could have a significant effect on our reported financial results, and could affect the reporting of transactions completed before the announcement of a change. Any difficulties in implementing these pronouncements, including those described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements of our Notes to Consolidated Financial Statements included in our Annual Report on Form 10-K, could cause us to fail to meet our financial reporting obligations, which could result in regulatory discipline and harm investors' confidence in us. Risks Related to Ownership of Our Class A Common Stock The stock price of our Class A common stock has been and may continue to be volatile, and you could lose all or part of your investment. The market price of our Class A common stock since our initial public offering in 2018 has been and may continue to be volatile. In addition to factors discussed in this Form 10-Q, the market price of our Class A common stock may fluctuate significantly in response to numerous factors, many of which are beyond our control, includin • overall performance of the equity markets; 74 • actual or anticipated fluctuations in our revenue and other operating results; • changes in the financial projections we may provide to the public or our failure to meet these projections; • failure of securities analysts to initiate or maintain coverage of us, changes in financial estimates by any securities analysts who follow our company, or our failure to meet these estimates or the expectations of investors; • recruitment or departure of key personnel; • the economy as a whole and market conditions in our industry; • negative publicity related to the real or perceived quality of our solution, as well as the failure to timely launch new products and services that gain market acceptance; • growth of the Subscription Economy; • rumors and market speculation involving us or other companies in our industry; • announcements by us or our competitors of new products, commercial relationships, or significant technical innovations; • acquisitions, strategic partnerships, joint ventures, or capital commitments; • new laws or regulations or new interpretations of existing laws or regulations applicable to our business; • lawsuits threatened or filed against us, litigation involving our industry, or both; • developments or disputes concerning our or other parties’ products, services, or intellectual property rights; • the inclusion of our Class A common stock on stock market indexes, including the impact of rules adopted by certain index providers, such as S&P Dow Jones Indices and FTSE Russell, that limit or preclude inclusion of companies with multi-class capital structures; • changes in accounting standards, policies, guidelines, interpretations, or principles; • the impact of the COVID-19 pandemic, including on the global economy, our operating results and enterprise technology spending; • other events or factors, including those resulting from pandemics, war, incidents of terrorism, or responses to these events, including the ongoing conflict in Ukraine; • sales of shares of our Class A common stock by us or our stockholders; • inflation; and • fluctuations in interest rates. In addition, the stock markets have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many companies, particularly during the current period of macroeconomic uncertainty, including rising inflation, increasing interest rates and fluctuations in international currency rates, as well as the impacts of the current conflict in Ukraine and the COVID-19 pandemic. Stock prices of many companies, and technology companies in particular, have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. These economic, political, regulatory and market conditions have and may continue to negatively impact the market price of our common stock. Volatility in our stock price also affects the value of our equity compensation, which affects our ability to recruit and retain employees. If we fail to meet expectations related to future growth, profitability, or other market expectations, our stock price may decline further, which could have a material adverse effect on investor confidence and employee retention. In addition, some companies that have experienced volatility in the market price of their securities have been subject to shareholder litigation. We are currently subject to shareholder litigation, which is described in Note 13. Commitments and Contingencies in the notes to our unaudited condensed consolidated financial statements. This or any future shareholder litigation could subject us to substantial costs, divert resources and the attention of management from our business, and adversely affect our business. 75 The market price of our Class A common stock could decline as a result of a substantial number of shares of our Class A common stock being issued or sold, which may make it more difficult for you to sell your Class A common stock at a time and price that you deem appropriate. As of November 30, 2022, a total of 125.5 million shares of Class A common stock and 8.1 million shares of Class B common stock were outstanding. Issuances of a substantial number of shares of our Class A common stock, including as a result of the exercise or conversion into Class A common stock of outstanding convertible notes, warrants, equity awards, shares of Class B common stock or other securities, could result in significant dilution to our existing stockholders and cause the market price of our Class A common stock to decline. From time to time, we may issue shares of common stock or securities convertible into shares of common stock in connection with a financing, an acquisition, investments, or otherwise. For example, as described in Note 9. Debt, on March 24, 2022 (Initial Closing Date), we issued to Silver Lake convertible notes in the aggregate principal amount of $250.0 million as well as warrants to purchase up to 7.5 million shares of Class A common stock, and we have agreed to issue additional convertible notes in the aggregate principal amount of $150.0 million to Silver Lake 18 months after the Initial Closing Date (or sooner under certain conditions). In addition, under certain circumstances, the number of shares issuable upon conversion of the convertible notes or exercise of the Warrants may be subject to increase, as described in Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock . The conversion of these convertible notes or exercise of these Warrants could result in a substantial number of shares of our Class A common stock being issued. Silver Lake is generally restricted from converting the convertible notes or exercising the Warrants, or transferring them, during the 18 month period following the Initial Closing Date, except in certain circumstances. In addition, we grant equity awards to employees, directors, and consultants under our 2018 Equity Incentive Plan on an ongoing basis and our employees have the right to purchase shares of our Class A common stock semi-annually under our 2018 Employee Stock Purchase Plan. As of October 31, 2022, there were a total of 25.0 million shares of Class A common stock subject to outstanding options and restricted stock units (RSUs), including performance stock units (PSUs). Subject to vesting and other applicable requirements, the shares issued upon the exercise of such options or settlement of such RSUs will be available for resale in the open market. Moreover, the market price of our Class A common stock could decline as a result of sales of a large number of shares of our Class A common stock in the market, particularly sales by our directors, executive officers and significant stockholders. The perception that these sales might occur may also cause the market price of our Class A common stock to decline. We also have granted and may grant from time to time certain registration rights that, subject to certain conditions, require us to file registration statements for the public resale of certain securities or to include such securities in registration statements that we may file on behalf of our company or other stockholders. If securities or industry analysts do not publish research, or publish inaccurate or unfavorable research, about our business, the price of our Class A common stock and trading volume could decline. The trading market for our Class A common stock depends in part on the research and reports that securities or industry analysts publish about us or our business. If few securities analysts commence coverage of us, or if industry analysts cease coverage of us, the trading price for our Class A common stock could be negatively affected. If one or more of the analysts who cover us downgrade our Class A common stock or publish inaccurate or unfavorable research about our business, the price of our Class A common stock would likely decline. If one or more of these analysts cease coverage of us or fail to publish reports on us regularly, demand for our Class A common stock could decrease, which might cause our Class A common stock price and trading volume to decline. Even if our stock is actively covered by analysts, we do not have any control over the analysts or the measures that analysts or investors may rely upon to forecast our future results. For example, in order to assess our business activity in a given period, analysts and investors may look at the combination of revenue and changes in deferred revenue in a given period (sometimes referred to as “billings”). Over-reliance on billings or similar measures may result in analyst or investor forecasts that differ significantly from our own for a variety of reasons, includin • a relatively large number of transactions occur at the end of the quarter. Invoicing of those transactions may or may not occur before the end of the quarter based on a number of factors including receipt of information from the customer, volume of transactions, and holidays. A shift of a few days has little economic impact on our business, but will shift deferred revenue from one period into the next; 76 • a shift in billing frequency (i.e. from monthly to quarterly or from quarterly to annually), which may distort trends; • subscriptions that have deferred start dates; and • services that are invoiced upon delivery. In addition, the revenue recognition disclosure obligations under Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers (Topic 606) are prepared on the basis of estimates that can change over time and on the basis of events over which we have no control. It is possible that analysts and investors may misinterpret our disclosure or that our methods for estimating this disclosure may differ significantly from others, which could lead to inaccurate or unfavorable forecasts by analysts and investors. The dual class structure of our common stock has the effect of concentrating voting control with holders of our Class B common stock, including our directors, executive officers, and significant stockholders, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. Our Class B common stock has ten votes per share, and our Class A common stock has one vote per share. As of October 31, 2022, our directors and executive officers, and their affiliates, held substantially all of our Class B common stock and a substantial portion of the combined voting power of our common stock. As a result, we expect our directors and officers would control all matters submitted to our stockholders for approval until the earlier of (i) the date specified by a vote of the holders of 66 2/3% of the outstanding shares of Class B common stock, (ii) April 16, 2028, and (iii) the date the shares of Class B common stock cease to represent at least 5% of all outstanding shares of our common stock. This concentrated control limits or precludes your ability to influence corporate matters for the foreseeable future, including the election of directors, amendments of our organizational documents, and any merger, consolidation, sale of all or substantially all of our assets, or other major corporate transaction requiring stockholder approval. In addition, this may prevent or discourage unsolicited acquisition proposals or offers for our capital stock that you may feel are in your best interest as one of our stockholders. Future transfers by holders of Class B common stock will generally result in those shares converting to Class A common stock, subject to limited exceptions, such as certain permitted transfers effected for estate planning purposes. The conversion of Class B common stock to Class A common stock will have the effect, over time, of increasing the relative voting power of those holders of Class B common stock who retain their shares in the long term. The dual class structure of our common stock may adversely affect the trading market for our Class A common stock. Stock index providers, such as S&P Dow Jones and FTSE Russell, exclude or limit the eligibility of public companies with multiple classes of shares of common stock for certain indices, including the S&P 500. In addition, several shareholder advisory firms have announced their opposition to the use of multiple class structures. As a result, the dual class structure of our common stock may prevent the inclusion of our Class A common stock in such indices and may cause shareholder advisory firms to publish negative commentary about our corporate governance practices or otherwise seek to cause us to change our capital structure. Any such exclusion from indices could result in a less active trading market for our Class A common stock. Any actions or publications by shareholder advisory firms critical of our corporate governance practices or capital structure could also adversely affect the value of our Class A common stock. We do not intend to pay dividends for the foreseeable future. We have never declared or paid any cash dividends on our common stock and do not intend to pay any cash dividends in the foreseeable future. Additionally, our ability to pay dividends on our common stock is limited by restrictions under the terms of our Debt Agreement. We anticipate that for the foreseeable future we will retain all of our future earnings for use in the development of our business and for general corporate purposes. Any determination to pay dividends in the future will be at the discretion of our Board of Directors. Accordingly, investors must rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize any future gains on their investments. 77 Provisions in our charter documents and under Delaware law could make an acquisition of our company more difficult, limit attempts by our stockholders to replace or remove our current management, limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees, and limit the market price of our Class A common stock. Provisions in our restated certificate of incorporation and amended and restated bylaws may have the effect of delaying or preventing a change of control or changes in our management. Our restated certificate of incorporation and amended and restated bylaws include provisions tha • provide that our Board of Directors will be classified into three classes of directors with staggered three-year terms; • permit the Board of Directors to establish the number of directors and fill any vacancies and newly-created directorships; • require supermajority voting to amend some provisions in our restated certificate of incorporation and amended and restated bylaws; • authorize the issuance of “blank check” preferred stock that our Board of Directors could use to implement a stockholder rights plan; • provide that only the chairman of our Board of Directors, our chief executive officer, lead independent director, or a majority of our Board of Directors will be authorized to call a special meeting of stockholders; • provide for a dual class common stock structure in which holders of our Class B common stock may have the ability to control the outcome of matters requiring stockholder approval, even if they own significantly less than a majority of the outstanding shares of our common stock, including the election of directors and significant corporate transactions, such as a merger or other sale of our company or its assets; • prohibit stockholder action by written consent, which requires all stockholder actions to be taken at a meeting of our stockholders; • provide that the Board of Directors is expressly authorized to make, alter, or repeal our bylaws; and • establish advance notice requirements for nominations for election to our Board of Directors or for proposing matters that can be acted upon by stockholders at annual stockholder meetings. In addition, our restated certificate of incorporation provides that, to the fullest extent permitted by law, the Court of Chancery of the State of Delaware is the exclusive forum any derivative action or proceeding brought on our behalf; any action asserting a breach of fiduciary duty; any action asserting a claim against us arising pursuant to the Delaware General Corporation Law, or DGCL, our restated certificate of incorporation, or our amended and restated bylaws; or any action asserting a claim against us that is governed by the internal affairs doctrine. This exclusive forum provision does not apply to suits brought to enforce a duty or liability created by the Exchange Act. It would apply, however, to a suit that falls within one or more of the categories enumerated in the exclusive forum provision. Section 22 of the Securities Act of 1933, as amended (Securities Act), creates concurrent jurisdiction for federal and state courts over all claims brought to enforce any duty or liability created by the Securities Act or the rules and regulations thereunder. In April 2020, we amended and restated our bylaws to provide that the federal district courts of the United States of America will, to the fullest extent permitted by law, be the exclusive forum for resolving any complaint asserting a cause of action arising under the Securities Act (Federal Forum Provision). Our decision to adopt a Federal Forum Provision followed a decision by the Supreme Court of the State of Delaware holding that such provisions are facially valid under Delaware law. While there can be no assurance that federal or state courts will follow the holding of the Delaware Supreme Court or determine that the Federal Forum Provision should be enforced in a particular case, application of the Federal Forum Provision means that suits brought by our stockholders to enforce any duty or liability created by the Securities Act must be brought in federal court and cannot be brought in state court. Section 27 of the Exchange Act creates exclusive federal jurisdiction over all claims brought to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder. In addition, neither the exclusive forum provision nor the Federal Forum Provision applies to suits brought to enforce any duty or liability 78 created by the Exchange Act. Accordingly, actions by our stockholders to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder must be brought in federal court. Our stockholders will not be deemed to have waived our compliance with the federal securities laws and the regulations promulgated thereunder. Any person or entity purchasing or otherwise acquiring or holding any interest in any of our securities shall be deemed to have notice of and consented to our exclusive forum provisions, including the Federal Forum Provision. These provisions may limit a stockholders’ ability to bring a claim in a judicial forum of their choosing for disputes with us or our directors, officers, or other employees, which may discourage lawsuits against us and our directors, officers, and other employees. Moreover, Section 203 of the DGCL may discourage, delay, or prevent a change of control of our company. Section 203 imposes certain restrictions on mergers, business combinations, and other transactions between us and holders of 15% or more of our common stock. General Risk Factors Political developments, economic uncertainty or downturns could adversely affect our business and operating results. Political developments impacting government spending and international trade, including future government shutdowns in the United States, health pandemics such as the COVID-19 pandemic, armed conflict such as the conflict in Ukraine, and trade disputes and tariffs, may negatively impact markets and cause weaker macroeconomic conditions. The continuing effect of any or all of these political uncertainties could adversely impact demand for our products, harm our operations and weaken our financial results. In addition, in recent years, the United States and other significant markets have experienced cyclical downturns and worldwide economic conditions remain uncertain. Economic uncertainty and associated macroeconomic conditions, such as a recession or rising inflation rates or economic slowdown in the United States or internationally, including due to pandemics such as the COVID-19 pandemic or the ongoing conflict in Ukraine, make it extremely difficult for our customers and us to accurately forecast and plan future business activities, and could cause our customers to slow spending on our solution, which could delay and lengthen sales cycles. Furthermore, during uncertain economic times our customers may face issues gaining timely access to sufficient credit, which could result in an impairment of their ability to make timely payments to us. If that were to occur, we may be required to increase our allowance for credit losses and our results could be negatively impacted. We have customers in a variety of different industries. A significant downturn in the economic activity attributable to any particular industry may cause organizations to react by reducing their capital and operating expenditures in general or by specifically reducing their spending on information technology. In addition, our customers may delay or cancel information technology projects or seek to lower their costs by renegotiating vendor contracts. To the extent purchases of our solution are perceived by customers and potential customers to be discretionary, our revenue may be disproportionately affected by delays or reductions in general information technology spending. Also, customers may choose to develop in-house software or modify their legacy business software as an alternative to using our solution. Moreover, competitors may respond to challenging market conditions by lowering prices and attempting to lure away our customers. We cannot predict the timing, strength, or duration of any economic slowdown or any subsequent recovery generally, or any industry in particular. If the conditions in the general economy and the markets in which we operate worsen from present levels, our business, financial condition, and operating results could be materially adversely affected. 79 The requirements of being a public company may strain our resources, divert management’s attention, and affect our ability to attract and retain additional executive management and qualified board members. As a public company, we are subject to the reporting requirements of the Exchange Act, the Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley Act), the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the listing requirements of the New York Stock Exchange, and other applicable securities rules and regulations. Compliance with these rules and regulations have increased our legal and financial compliance costs, making some activities more difficult, time-consuming, or costly, and increasing demand on our systems and resources. Although we have already hired additional employees and outside consultants to comply with these requirements, we may need to add additional resources, which would increase our costs and expenses. In addition, changing laws, regulations, and standards relating to corporate governance and public disclosure are creating uncertainty for public companies, increasing legal and financial compliance costs, and making some activities more time consuming. These laws, regulations, and standards are subject to varying interpretations, in many cases due to their lack of specificity, and, as a result, their application in practice may evolve over time as market practice develops or new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. If our efforts to comply with new laws, regulations, and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to their application and practice, regulatory authorities may initiate legal proceedings against us, and our business may be adversely affected. The rules and regulations applicable to public companies make it more expensive for us to obtain and maintain director and officer liability insurance, and we may be required to accept reduced coverage or incur substantially higher costs to obtain coverage. These factors could also make it more difficult for us to attract and retain qualified members of our Board of Directors, particularly to serve on our audit committee and compensation committee, and qualified executive officers. As a result of disclosure of information in our public company filings, our business and financial condition is more visible, which may result in threatened or actual litigation, including by competitors and other third parties. If such claims are successful, our business and operating results could be adversely affected, and even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the resources of our management and adversely affect our business and operating results. In addition, as a result of our disclosure obligations as a public company, we have reduced flexibility and are under pressure to focus on short-term results, which may adversely affect our ability to achieve long-term profitability. If we fail to maintain an effective system of disclosure controls and internal control over financial reporting, our ability to produce timely and accurate financial statements or comply with applicable regulations could be impaired. As a public company, we are required, pursuant to Section 404 of the Sarbanes-Oxley Act, to furnish a report by management on, among other things, the effectiveness of our internal control over financial reporting. Effective internal control over financial reporting is necessary for us to provide reliable financial reports and, together with adequate disclosure controls and procedures, are designed to prevent fraud. Any failure to implement required new or improved controls, or difficulties encountered in their implementation, could cause us to fail to meet our reporting obligations. Ineffective internal controls could also cause investors to lose confidence in our reported financial information, which could have a negative effect on the trading price of our Class A common stock. This management report will need to include disclosure of any material weaknesses identified by our management in our internal control over financial reporting, as well as a statement that our independent registered public accounting firm has issued an opinion on our internal control over financial reporting. Section 404(b) of the Sarbanes-Oxley Act requires our independent registered public accounting firm to annually attest to the effectiveness of our internal control over financial reporting, which has required, and will continue to require, increased costs, expenses, and management resources. An independent assessment of the effectiveness of our internal controls could detect problems that our management’s assessment might not. Undetected material weaknesses in our internal controls could lead to financial statement restatements and require us to incur the expense of remediation. We are required to disclose changes made in our internal controls and 80 procedures on a quarterly basis. To comply with the requirements of being a public company, we have undertaken, and may need to further undertake in the future, various actions, such as implementing new internal controls and procedures and hiring additional accounting or internal audit staff. If we are unable to assert that our internal control over financial reporting is effective, or if our independent registered public accounting firm is unable to express an opinion on the effectiveness of our internal control, including as a result of any identified material weakness, we could lose investor confidence in the accuracy and completeness of our financial reports, which would cause the price of our Class A common stock to decline, and we may be subject to investigation or sanctions by the SEC. In addition, if we are unable to continue to meet these requirements, we may not be able to remain listed on the New York Stock Exchange. We may be adversely affected by natural disasters, pandemics, and other catastrophic events, and by man-made problems such as terrorism, that could disrupt our business operations. Our business continuity and disaster recovery plans may not adequately protect us from a serious disaster. Natural disasters, pandemics and epidemics, or other catastrophic events such as fire, power shortages, and other events beyond our control may cause damage or disruption to our operations, international commerce, and the global economy, and could have an adverse effect on our business, operating results, and financial condition. For example, the ongoing effects of the COVID-19 pandemic and the precautionary measures that we have adopted have resulted in, and could continue to result in, customers not purchasing or renewing our products or services, a significant delay or lengthening of our sales cycles, and could negatively impact our customer success and sales and marketing efforts and could result in difficulties or changes to our customer support, or create operational or other challenges, any of which could harm our business and operating results. In the event of a natural disaster, including a major earthquake, blizzard, wildfire, or hurricane, or a catastrophic event such as a fire, power loss, or telecommunications failure, we may be unable to continue our operations and may endure system interruptions, reputational harm, delays in development of our solution, lengthy interruptions in service, breaches of data security, and loss of critical data, all of which could have an adverse effect on our future operating results. For example, our corporate headquarters is located in California, a state that frequently experiences earthquakes and wildfires. Additionally, all of the aforementioned risks may be further increased if we do not implement a disaster recovery plan or the disaster recovery plans put in place by Zuora or our partners prove to be inadequate. Investors’ expectations of our performance relating to environmental, social, and governance factors may expose us to new risks and require us to incur additional costs . Corporate responsibility, including environmental, social and governance (ESG) factors, is increasingly becoming a focus from certain investors, employees, and other stakeholders. Some investors may use these factors to guide their investment strategies and, in some cases, may choose not to invest in us if they believe our corporate responsibility policies are inadequate. Third-party providers of corporate responsibility ratings and reports on companies have increased to meet growing investor demand for measurement of corporate responsibility performance. The criteria by which companies’ corporate responsibility practices are assessed may require significant expenditures. In May 2022, we announced our commitment to remain carbon neutral going forward, including by purchasing carbon offsets in future years, which may become increasingly more expensive. In addition, the corporate responsibility criteria could change, which could result in greater expectations of us and cause us to undertake more costly initiatives to satisfy such new criteria. If we elect not to or are unable to satisfy such new criteria, investors may conclude that our policies with respect to corporate responsibility are inadequate. We may face reputational damage in the event that our corporate responsibility procedures or standards do not meet the standards set by various constituencies. Furthermore, if our competitors’ corporate responsibility performance is perceived to be greater than ours, potential or current investors may elect to invest with our competitors instead. In addition, in the event that we communicate certain initiatives and goals regarding ESG matters, we could fail, or be perceived to fail, in our achievement of such initiatives or goals, or we could be criticized for the scope of such initiatives or goals. If we fail to satisfy the expectations of investors, employees, and other stakeholders, or, if our initiatives are not executed as planned, our reputation and business, operating results, and financial condition could be adversely impacted. 81 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds Not Applicable. 82 Item 6. Exhibits. Exhibit Number Incorporated By Reference Filed or Furnished Herewith Exhibit Description Form File No. Exhibit Filing Date 10.1 Third Amendment to Loan and Security Agreement , dated October 11, 2022, by and between the Registrant and Silicon Valley Bank X 31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Exchange Act X 31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Exchange Act X 32.1* Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 X 32.2* Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 X 101.INS Inline XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document X 101.SCH Inline XBRL Taxonomy Extension Schema Document X 101.CAL Inline XBRL Taxonomy Extension Calculation Linkbase Document X 101.DEF Inline XBRL Taxonomy Extension Definition Linkbase Document X 101.LAB Inline XBRL Taxonomy Extension Label Linkbase Document X 101.PRE Inline XBRL Taxonomy Extension Presentation Linkbase Document X 104 Cover Page Interactive Data File (embedded within the Inline XBRL document and included in Exhibit 101). X * The certifications furnished in Exhibits 32.1 and 32.2 hereto are deemed to accompany this Form 10-Q and are not deemed “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, nor shall they be deemed incorporated by reference into any filing under the Securities Act or the Exchange Act. 83 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZUORA, INC. Date: December 8, 2022 By: /s/ Todd McElhatton Todd McElhatton Chief Financial Officer (Principal Accounting and Financial Officer) |
Washington, DC 20549 _____________________________ FORM 10-K _____________________________ (Mark One) ☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended January 31 , 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to __________ Commission File Numbe 001-38451 _____________________________ Zuora, Inc. (Exact name of registrant as specified in its charter) _____________________________ Delaware 20-5530976 (State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification Number) 101 Redwood Shores Parkway , Redwood City , California (Address of principal executive offices) 94065 (Zip Code) ( 888 ) 976-9056 (Registrant’s telephone number, including area code) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name of each exchange on which registered Class A common stock, par value $0.0001 per share ZUO New York Stock Exchange Securities registered pursuant to Section 12(g) of the Ac None _____________________________ Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☒ No ☐ Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ☐ No ☒ Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the Registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☒ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the Registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ☒ If securities are registered pursuant to Section 12(b) of the Act, indicate by check mark whether the financial statements of the registrant included in the filing reflect the correction of an error to previously issued financial statements. ☐ Indicate by check mark whether any of those error corrections are restatements that required a recovery analysis of incentive-based compensation received by any of the registrant’s executive officers during the relevant recovery period pursuant to §240.10D-1(b). ☐ Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ☐ No ☒ The aggregate market value of the voting and non-voting stock held by non-affiliates of the Registrant, based on the closing price, as reported by the New York Stock Exchange, of the Registrant’s Class A common stock, as of July 31, 2022, the last business day of the Registrant’s most recently completed second fiscal quarter, was approximately $ 1.0 billion. Solely for purposes of this disclosure, shares of the Registrant’s Class A common stock and Class B common stock held by executive officers and directors of the Registrant as of such date have been excluded because such persons may be deemed to be affiliates. This determination of executive officers and directors as affiliates is not necessarily a conclusive determination for any other purposes. As of February 28, 2023, the number of shares of the Registrant’s Class A common stock outstanding was 127.4 million and the number of shares of the Registrant’s Class B common stock outstanding was 8.1 million. DOCUMENTS INCORPORATED BY REFERENCE Portions of the Registrant's definitive Proxy Statement relating to the 2023 Annual Meeting of Stockholders are incorporated herein by reference in Part III of this Annual Report on Form 10-K to the extent stated herein. Such Proxy Statement will be filed with the Securities and Exchange Commission within 120 days of the registrant's fiscal year ended January 31, 2023. Except with respect to information specifically incorporated by reference in this Form 10-K, the Proxy Statement is not deemed to be filed as part of this Form 10-K. PART I Page Item 1. Business 3 Item 1A. Risk Factors 10 Item 1B. Unresolved Staff Comments 43 Item 2. Properties 43 Item 3. Legal Proceedings 43 Item 4. Mine Safety Disclosures 43 PART II Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 44 Item 6. [Reserved] 45 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 45 Item 7A. Quantitative and Qualitative Disclosures about Market Risk 61 Item 8. Financial Statements and Supplementary Data 63 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 100 Item 9A. Controls and Procedures 100 Item 9B. Other Information 100 Item 9C. Disclosure Regarding Foreign Jurisdictions that Prevent Inspections 100 PART III Item 10. Directors, Executive Officers and Corporate Governance 101 Item 11. Executive Compensation 101 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 101 Item 13. Certain Relationships and Related Transactions, and Director Independence 101 Item 14. Principal Accounting Fees and Services 101 PART IV Item 15. Exhibits, Financial Statement Schedules 102 Item 16. Form 10-K Summary 104 SIGNATURES SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS Unless the context otherwise requires, references in this Annual Report on Form 10-K (Form 10-K) to “Zuora,” “Company,” “our,” “us,” and “we” refer to Zuora, Inc. and, where appropriate, its consolidated subsidiaries. Our fiscal year end is January 31. References to “fiscal” followed by the year refer to the fiscal year ended January 31 for the referenced year. This Form 10-K contains forward-looking statements within the meaning of the federal securities laws. All statements contained in this Form 10-K, other than statements of historical fact, including statements regarding our future operating results and financial position, our business strategy and plans, market growth, and our objectives for future operations, are forward-looking statements. Words such as “believes,” “may,” “will,” “estimates,” “potential,” “continues,” “anticipates,” “intends,” “expects,” “could,” “would,” “projects,” “plans,” “targets,” and variations of such words and similar expressions are intended to identify forward-looking statements. Forward-looking statements contained in this Form 10-K include, but are not limited to, statements about our expectations regardin • trends in revenue, cost of revenue, and gross margin; • economic uncertainty and associated trends in macroeconomic conditions, including recession, inflation and rising interest rates; • currency exchange rate fluctuations; • trends and expectations in our operating and financial metrics, including customers with Annual Contract Value (ACV) equal to or greater than $100,000, dollar-based retention rate, annual recurring revenue, and growth of and within our customer base; • future acquisitions, the anticipated benefits of such acquisitions and our ability to integrate the operations and technology of any acquired company, including our acquisition of Zephr Inc Limited (Zephr); • industry trends, projected growth, or trend analysis, including the shift to subscription business models; • our investments in our platform and the cost of third-party hosting fees; • the expansion and functionality of our technology offering, including expected benefits of such products and technology, and our ability to further penetrate our customer base; • trends in operating expenses, including research and development expense, sales and marketing expense, and general and administrative expense, and expectations regarding these expenses as a percentage of revenue; • our existing cash and cash equivalents, investment balances, funds available under our loan and security agreement, and cash provided by subscriptions to our platform and related professional services being sufficient to meet our working capital and capital expenditure needs for at least the next 12 months; • the impact of actions that we are taking to improve operational efficiencies and operating costs, including the workforce reduction we approved in November 2022; • legal proceedings, including the settlement of certain shareholder litigation and expectations regarding the receipt of insurance proceeds related to such litigation; • future issuances of our senior unsecured notes; • instability in the U.S. and international banking systems; and • other statements regarding our future operations, financial condition, prospects and business strategies, including our ability to sublease office space at our corporate headquarters in California. Such forward-looking statements are based on our expectations as of the date of this filing and are subject to a number of risks, uncertainties and assumptions, including but not limited to, risks detailed in the “Risk Factors” section of this Form 10-K. Readers are urged to carefully review and consider the various disclosures made in this Form 10-K and in other documents we file from time to time with the Securities and Exchange Commission (SEC) that disclose risks and uncertainties that may affect our business. Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time. It is not possible for us to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties and assumptions, the future events and circumstances discussed in this Form 1 10-K may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements. You should not rely upon forward-looking statements as predictions of future events. The events and circumstances reflected in the forward-looking statements may not be achieved or occur. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, performance or achievements. In addition, the forward-looking statements in this Form 10-K are made as of the date of this filing, and we do not undertake, and expressly disclaim any duty, to update such statements for any reason after the date of this Form 10-K or to conform statements to actual results or revised expectations, except as required by law. 2 PART I Item 1. Business Overview Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the quote-to-cash and revenue recognition process, including quoting, billing, collections and revenue recognition. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. Many of today’s enterprise software systems manage their quote-to-cash and revenue recognition processes using software built for one-time transactions. These systems were not designed for the dynamic, ongoing nature of subscription, usage, or consumption-based pricing models, and can be extremely difficult to configure. In traditional product-based businesses, quote-to-cash and revenue recognition is a linear process — a customer orders a product, is billed for that product, payment is collected, and the revenue is recognized. These legacy product-based systems were not specifically designed to handle the complexities of managing ongoing customer relationships and recurring revenue models commonly found in subscription businesses, including billing proration, revenue recognition and reporting, and calculating the lifetime value of the customer. Using legacy or homegrown software to build a subscription business often results in inefficient processes with prolonged and complex manual downstream work, hard-coded customizations, and a proliferation of stock-keeping units (SKUs). However, enterprise business models are inherently dynamic, with multiple interactions, flexible pricing, global complexities, and continuously-evolving relationships and events. The capabilities to launch, price, and bill for products, facilitate and record cash receipts, process and recognize revenue, and analyze data to drive key decisions are mission critical and particularly complex for companies that operate at a global scale. As a result, as companies launch, grow, and scale their businesses, they often conclude that legacy systems are inadequate. This is where Zuora comes in. Our vision is “The World Subscribed” -- the idea that one day every company will be a part of the Subscription Economy. Our focus has been on providing the technology our customers need to thrive as customer-centric, recurring revenue businesses. Our solution includes Zuora Platform , Zuora Billing , Zuora Revenue , Zuora Collect , Zephr , and other software that support and expand upon these core offerings. Our software helps companies analyze data — including information such as which customers are delivering the most recurring revenue, or which segments are showing the highest churn — enabling customers to make informed decisions for their subscription business and to quickly implement changes such as launching new services, updating pricing (usage, time, or outcome based), delivering new offerings, or making other changes to their customers’ subscription experience. We also have a large subscription ecosystem of global partners that can assist our customers with additional strategies and services throughout the subscription journey. Companies in a variety of industries — technology, manufacturing, media and entertainment, telecommunications, and many others — are using our solution to scale and adapt to a world that is increasingly choosing subscription-based offerings. Our customers include 19% of the Fortune 100 and 13 of the top 15 auto manufacturers. Business Benefits of Using Our Solution Zuora’s products enable companies t • Monetize for Their Business Models. Zuora helps companies transform their existing product-centric business models into customer-centric services to take advantage of the predictability and resilience of a recurring revenue business. • Reduce Time to Market. Zuora reduces the time required to go to market with new offerings and iterate on the pricing and packaging of existing offerings, enabling businesses to quickly react to changing market and customer needs, launch new services, and enter new markets. Changes can be made at scale and without having to re-code or re-engineer back office systems. 3 • Increase Operational Efficiencies. Customers regularly make changes to their subscriptions. Zuora automates these processes and reduces the impact of changes across quote-to-cash and revenue recognition processes, including proration for invoices, changes to revenue recognition, taxation, provisioning, and reporting. Automating these functions saves businesses valuable time and resources by eliminating manual processes and customizations while increasing operational efficiencies. • Free Up IT and Engineering Resources. Our cloud-based solution reduces both system complexity and costs. With Zuora, engineering and IT departments no longer need to build in-house custom systems or customizations for their Enterprise Resource Planning (ERP) systems to keep pace with market changes, ongoing customer demands, and new quote-to-cash and revenue recognition processes. • Establish a Single System of Record. Our solution captures financial and operational data and enables businesses to have a single system of record rather than having to reconcile data from multiple systems. Key business metrics can be accessed at any point in time to make critical business decisions. • Make Customer Data-Driven Decisions. Because our solution serves as a single source of data and information for subscribers, companies can use Zuora to gain insight into subscriber data and behavior. This helps them understand their subscribers better, identify up-sell opportunities, and increase customer retention. • Access Growing Ecosystem of Quote-to-Cash and Revenue Recognition Software Partners. Our solution has over 50 pre-built connectors to various quote-to-cash and revenue recognition software partners, including payment gateways, tax vendors, general ledgers, ERP, and Customer Relationship Management (CRM) systems. Rather than building integrations for each of these, our customers can take advantage of pre-built connectors to extend the capabilities of Zuora for specific industries. • Support Rapid International Expansion. With over 45 pre-built payment gateways, over 150 supported currencies, and 15 supported payment methods, our solution enables companies to quickly expand internationally and acquire and support customers in new countries. • Manage Complex Revenue Streams. In light of the accounting complexities associated with recurring revenue models, our revenue recognition software automates revenue recognition processes in compliance with accounting standards and reduces our customers’ reliance on error-prone manual processing and spreadsheets. Products Our cloud-based solutions enable companies to monetize their business model by automating their quote-to-cash and revenue recognition operations. We can deploy and configure our portfolio of products to meet a wide variety of use cases for companies with subscription, consumption-based, or hybrid business models. Our product offerings inclu • Zuora Platform. Our Zuora Platform acts as an orchestration engine for all subscription data and processes, allowing our customers to power their quote-to-cash and revenue recognition processes and their customers' subscription experience. Zuora Platform provides the following capabiliti ◦ Integrated data model enabling customers to manage their subscribers and easily set up and iterate offerings, subscribers, subscriptions, rate plans, payment methods and other metrics necessary to orchestrate the subscriber experiences. ◦ Enterprise-grade features for security, compliance, and tenant management as well as functionality to integrate to any relevant enterprise application such as configure-price-quote (CPQ), e-commerce, customer portal, and general ledger. ◦ Developer tools that enable customers and system integrators to customize and extend the functionality of the platform, including workflow, custom objects, data queries, and test environments. ◦ Analytics and reporting to provide customers insights from their subscriber data and related activity across the subscriber lifecycle, including out-of-the-box subscription metrics such as monthly recurring revenue (MRR), annual contract value (ACV), and customer churn. 4 • Zuora Billing. Zuora Billing allows our customers to deploy a variety of pricing and packaging strategies to monetize their business models, efficiently and accurately bill customers, calculate prorations when subscriptions change, and automate billing and payment operations. The offering also helps our customers set payment terms, manage hierarchical billing relationships, consolidate invoicing across multiple subscriptions, and calculate taxes. Zuora Billing also includes our Zuora CPQ module, which enables customers to configure, price, and quote a wide variety of subscription options, including complex arrangements such as multi-year subscriptions, and price ramps. The Zuora CPQ module also uses a rules engine and guided selling workflows to help customers scale their sales teams. • Zuora Revenue. Zuora Revenue is a revenue recognition and automation solution that accounting teams use to manage their complex revenue streams. Zuora Revenue helps our customers automate revenue and deferred revenue management in accordance with their accounting policies, business rules, and pricing models, and also includes support for complex scenarios around standalone selling price (SSP) analysis for determining the fair value of the individual goods and services sold, cost management accounting, and amortization of costs incurred as part of obtaining or fulfilling a contract with a customer. • Zuora Collect. Specifically designed to handle the complicated function of payments associated with dynamic subscription-based businesses, Zuora Collect helps our customers streamline and optimize their payments and collections processes. Zuora Collect enables customers to utilize a global network of payment gateways, configure their own automated dunning workflows, orchestrate various retry rules for electronic payments, and understand the root cause of a payment decline. In addition, Zuora Collect's machine learning capabilities automate dunning functionality to improve overall electronic payment success rates and reduce involuntary churn. • Zephr . Zephr is a digital subscriber experience platform that helps companies, including those in the digital publishing and media industry, orchestrate dynamic experiences that increase conversion, reduce churn, and nurture ongoing subscriber relationships. Competitive Strengths We believe the following competitive advantages enable us to maintain and extend our leadership as the system of record for companies in the Subscription Economy: • Comprehensive solution built specifically to handle the complexities of subscription business models; • Flexible technology with a broad range of customers and use cases; • Mission-critical system that is difficult to replace; • Accelerated pace of innovation with over a decade of development experience; • Deep domain expertise across a broad range of subscription business models; • Proven track record with 773 customers with ACV equal to or greater than $100,000 as of January 31, 2023; • Strong network of systems integrator partners; and • Growing Subscription Economy ecosystem with dozens of pre-built integrations to payment gateways, tax solutions, and enterprise applications. Growth Strategy Key elements of our growth strategy inclu • New Customer Acquisition. As the Subscription Economy evolves, we intend to continue to capitalize on our leadership and acquire new enterprise customers in current and future markets. • Expand Relationships with Existing Customers. We intend to expand existing customers’ use of our platform and drive sustainable growth in multiple ways, such as increasing transaction volume, up-sells and cross-sells of additional products. • Enter New Vertical Markets. We currently have a strong position in key vertical markets, including technology, media and entertainment, and manufacturing. We intend to continue to expand to additional vertical markets over time. 5 • Expand our Global Footprint. As adoption of the Subscription Economy evolves throughout the world, we may expand into new countries where we see future opportunities. • Leverage Global Systems Integrators to Accelerate our Growth. We plan to continue to work with systems integrators to leverage their role in advocating for and implementing our current and prospective customers' transformations to subscription business models. • Launch New Products and Extend our Technology Lead. As we grow and evolve with our customers, we plan to continue developing additional software to enhance our current offerings. • Optimize Pricing and Packaging. We intend to optimize and enhance pricing and packaging to further align the value our customers realize from our software with the revenue we receive. Our Customers Organizations of all sizes, across a wide variety of industries and in many locations around the world, use our solutions. As of January 31, 2023, we had 773 customers with ACV equal to or greater than $100,000, representing over 90% of our total ACV. As of January 31, 2022 and 2021, we had 747 and 676 customers, respectively, with ACV equal to or greater than $100,000. We define the number of customers at the end of any particular period as the number of parties or organizations that have entered into a distinct subscription contract with us and for which the term has not ended. Each such party with whom we have entered into a distinct subscription contract is considered a unique customer, and in some cases, there may be more than one customer within a single organization. For more information on ACV, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Operational and Financial Metrics.” Sales and Marketing We market and sell to organizations of different sizes across a broad range of industries. We work with companies that are launching, transforming, and scaling new recurring revenue business models, with a focus on enterprise-scale businesses, or fast growing companies with the potential to achieve enterprise scale. We have an enterprise sales model supported by a field sales organization. Because of the transformative nature of our solution, especially in larger organizations, the selling process is often complex and can involve agreement across multiple departments inside an organization, including the chief executive officer. Over the years, we have developed methodologies and best practices to assist our sales teams in navigating these challenges and have built these learnings into our sales enablement and training to assist with onboarding and productivity of new sales account executives. We believe our sales methodologies and processes offer us significant advantages, particularly in long enterprise sales cycles. Our sales teams are organized by geographic territories, customer size, and industry verticals. We plan to continue to invest in our direct sales force to grow our enterprise customer base, both domestically and internationally. We conduct a wide range of account-based marketing activities such as hosting virtual webinars and online events; marketing with our systems integrators, consultants, and ecosystem partners; sharing insights from the Subscription Economy Index, our study of the collective health of subscription businesses and their impact on the overall economy; and sharing educational content, data-based benchmarks, and best practices for the Subscription Economy in a variety of formats such as digital, print, and video on Zuora.com and Subscribed.com. As newer markets emerge domestically and internationally, we plan to continue investing in our sales and marketing efforts to grow our customer base. Competition The market for subscription management products and services is highly competitive, rapidly evolving, fragmented, and subject to changing technology, shifting customer needs, and frequent introductions of new products and services. Our main competitors fall into the following categori • providers of traditional ERP software, such as Oracle Corporation and SAP SE; • providers of CRM applications such as Salesforce; 6 • traditional quote-to-revenue solutions that address individual elements of the subscription revenue process, such as traditional CPQ management, billing, collections, revenue recognition, or e-commerce software; • niche billing systems for telecommunications, such as Amdocs Limited; • payment platforms that offer built-in recurring billing functionality; • point solution providers; and • in-house custom built systems. We believe the principal competitive factors in our market inclu • subscription and consumption-based product features and functionality; • ability to support the specific needs of companies with subscription or consumption business models, or combinations of these various complex business models; • ease of use; • vision for the market and product innovation; • expertise, best practices, and frameworks for launching, transforming, and scaling new business models; • enterprise-grade performance and features such as system scalability, security, performance, and resiliency; • customer experience, including support and professional services; • strength of sales and marketing efforts; • relationships with systems integrators, management consulting firms, and resellers; • ability to integrate with legacy and other enterprise infrastructures and third-party applications; • brand awareness and reputation; and • total cost of the solution. We believe we compete favorably against our competitors with respect to these factors. Our ability to compete will largely depend on our ongoing performance and the quality of our platform. Human Capital People and Culture Zuora aims to recruit, develop and engage a diverse workforce that continues to advance the Subscription Economy. Our culture is rooted in the premise that our employees, whom we call “ZEOs”, are empowered to embrace a mindset of ownership in order to think differently and creatively as they innovate and collaborate working together as one team building toward our vision. Our culture is key to our success and we strive to create an inclusive, high-performing environment where ZEOs feel valued and supported to achieve both their and the company's objectives. As of January 31, 2023, we had 1,549 employees, including 825, or 53%, located outside the United States, primarily in Asia, Europe, and Australia. Employee Well-Being and Engagement The overall well-being of our employees is important to us and is an integral part of our company culture. Our global well-being programs include a practice of remote working arrangements, flexible paid time off, life planning benefits, wellness platforms and employee assistance. In addition, we ensure ongoing check-ins with employees by managers to provide additional channels of support and career development. We also regularly seek input from employees, including through broad employee satisfaction surveys on specific issues intended to assess our degree of success in promoting an environment where employees are engaged, satisfied, productive and possess a strong understanding of our business goals. 7 Diversity and Inclusion As a global company, we embrace the diversity of our employees, partners, customers, other stakeholders and the communities we collectively serve. We are committed to developing a diverse and thriving workforce and inclusive ZEO culture. We seek and embrace people who bring diverse backgrounds, perspectives, and experiences and believe this is critical to our success. We continue to build diversity, equity and inclusion into our culture with a focus on creating environments and practices that mitigate bias and allow our employees to be their authentic selves while performing their best work at Zuora. Our Zuora employee resource groups (ZRGs) play a key role in this effort. Our ZRGs are ZEO-led groups open to all ZEOs that aim to elevate the experiences and interests of underrepresented groups in our workforce. ZRGs at Zuora include Asian American and Pacific Islander ZEOs, Z-Vets, Out at Zuora, Zuora Familia, Zuora Black Network, and Z-Women. In fiscal 2023, we added two new gro Zuora Village for parents, families, and caregivers; and Z-Well, a group focused on maximizing employee wellness. As part of our inclusion efforts, we also foster multiple ongoing educational opportunities and events, including panels, Community Conversations, and Z-Briefs, for employees to have open and ongoing conversations across teams and with senior leaders on a variety of topics. These are opportunities for continuous learning as well as for Zuora to receive feedback on how we can improve our workplace and culture, while also encouraging a meaningful connection and sense of belonging across our globally-distributed workforce. Our executive management team is currently composed of 36% women and 36% who self-identify as coming from other certain underrepresented groups. In addition, our Board of Directors is made up of highly skilled individuals from the technology and business sectors. Women represent 40% of our Board of Directors and 40% of our Board of Directors identify as members of certain other underrepresented groups. Learning and Development We believe that investing in the growth and development of our ZEOs will directly enhance our overall company performance. As owners of their careers, ZEOs are encouraged to invest regularly in their own professional development. In support of this, we offer mentorship programs, leadership programs, and other Z-Grow employee training programs, which are designed to help ZEOs develop and manage their careers, drive accountability, and promote a culture of continuous feedback. Additionally, through our Career Cash program, we reimburse ZEOs for costs related to pursuing learning and professional development opportunities. Competitive Pay and Benefits We strive to provide pay, comprehensive benefits and services that help meet the varying needs of our ZEOs. Our total rewards package includes market-competitive pay, including equity compensation, paid time off, and other comprehensive and competitive global benefits. For example, in the United States, we provide 26 weeks of paid parental leave for new parents who have been employed with us for at least six months. To foster a stronger sense of ownership and to align ZEO interests with our stockholders' interests, we offer equity compensation under our broad-based stock incentive programs. We also offer the opportunity for eligible ZEOs in the United States and many international locations to participate in our employee stock purchase plan (ESPP). Social Impact We encourage our ZEOs to give back to the causes that matter to them. Zuora is a member of the Pledge 1% movement and we are committed to leveraging our employees' time and talent to make the communities where we live and work stronger. To facilitate our Pledge 1% initiative, we have empowered our employees with the tools and resources they need to create local Z-Philanthropy chapters at our offices worldwide. Through our Z-Philanthropy chapters, ZEOs in our offices across the globe step up to lead giving and volunteering efforts throughout the year and create lasting partnerships with local nonprofits through these employee-led groups. In addition to the sustained efforts of our local Z-Philanthropy chapters, we host an annual Global Month of Service where ZEOs worldwide participate in volunteer and fundraising events. In fiscal 2023, our ZEOs volunteered over 3,000 hours of their time to mission-aligned nonprofits. Additionally, Zuora donated $1.0 million of common stock in fiscal 2023 to the Zuora Impact Fund, a donor-advised fund managed by the Tides Foundation, and we expect to continue to make contributions in the future. The Tides Foundation uses the share proceeds to make charitable donations to a wide variety of nonprofits helping communities around the world. We also have an annual employee matching gifts program under which the Zuora Impact Fund matches up to $1,000 per ZEO for their charitable donations, volunteer time, or a combination of the two. 8 Intellectual Property We primarily rely on a combination of patents, copyrights, trademarks, trade secrets, confidentiality procedures, contractual commitments, and other legal rights to protect our intellectual property. As of January 31, 2023, we had 33 issued patents that expire between 2032 and 2040 as well as 34 patent applications pending in the U.S and foreign jurisdictions. We also pursue the registration of our domain names, trademarks, and service marks in the United States and in certain foreign jurisdictions. Our trademarks include Zuora, Subscription Economy, Subscribed, Powering the Subscription Economy and Zephr. Additionally, we enter into confidentiality and invention assignment agreements with our employees and consultants and enter into confidentiality agreements with other parties in connection with the disclosure of our confidential information. Intellectual property laws, procedures, and restrictions provide only limited protection and any of our intellectual property rights may be challenged, invalidated, circumvented, infringed, or misappropriated. Further, the laws of certain countries do not protect proprietary rights to the same extent as the laws of the United States and, therefore, in certain jurisdictions, we may be unable to protect our proprietary technology. Compliance with Government Regulations We are subject to various U.S. federal, state, local and foreign laws and regulations, including those relating to data privacy, security and protection, intellectual property, employment and labor, workplace safety, consumer protection, anti-bribery, import and export controls, immigration, federal securities and tax. In addition, our clients in heavily regulated industries and the public sector may be subject to various laws and regulations relating to the formation, administration requirements and performance of contracts which affect how we and our partners do business with such customers. Additional laws and regulations relating to these areas likely will be passed in the future, and these or existing laws and regulations may be interpreted or enforced in new or expanded manners, each of which could result in significant limitations on ways we operate our business. New and evolving laws and regulations, and changes in their enforcement and interpretation, may require changes to our platform, products, services, or business practices, and may significantly increase our compliance costs and otherwise adversely affect our business and results of operations. As our business expands to include additional products and services, and our operations continue to expand internationally, our compliance requirements and costs may increase, and we may be subject to increased regulatory scrutiny. We believe we are currently in material compliance with laws and regulations to which we are subject and do not expect continued compliance to have a material impact on our capital expenditures, earnings, or competitive position. We continue to monitor existing and pending laws and regulations and while the impact of regulatory changes cannot be predicted with certainty, we do not expect compliance requirements to have a material adverse effect. Corporate Information We were incorporated in the State of Delaware in September 2006. Our principal executive offices are located at 101 Redwood Shores Parkway, Redwood City, California 94065 and our telephone number is (888) 976-9056. Our website address is www.zuora.com , and our investor relations website is https://investor.zuora.com . The information on, or that can be accessed through, our website is not part of this Annual Report on Form 10-K. Investors should not rely on any such information in deciding whether to purchase our Class A common stock. Zuora , the Zuora logo, Zephr , Zuora Platform , Zuora Billing , Zuora Revenue , Zuora CPQ , Zuora Collect , Zuora Marketplace , Powering the Subscription Economy, Subscribed, Subscription Economy, and other registered or common law trade names, trademarks, or service marks of Zuora appearing in this Form 10-K are the property of Zuora. This Form 10-K contains additional trade names, trademarks, and service marks of other companies that are the property of their respective owners. We do not intend our use or display of other companies’ trade names, trademarks, or service marks to imply a relationship with, or endorsement or sponsorship of us by these other companies. Solely for convenience, our trademarks and tradenames referred to in this Form 10-K appear without the ® and ™ symbols, but those references are not intended to indicate, in any way, that we will not assert, to the fullest extent under applicable law, our rights, or the right of the applicable licensor, to these trademarks and tradenames. Available Information Our reports filed with or furnished to the SEC pursuant to Sections 13(a) and 15(d) of the Exchange Act are available, free of charge, on our Investor Relations website at https://investor.zuora.com as soon as reasonably practicable after we electronically file such material with, or furnish it to, the SEC. The SEC maintains a website at 9 http://www.sec.gov that contains reports, and other information regarding us and other companies that file materials with the SEC electronically. We use our Investor Relations website as a means of disclosing material information. Accordingly, investors should monitor our Investor Relations website, in addition to following our press releases, SEC filings and public conference calls and webcasts. Information contained on or accessible through any website reference herein is not part of, or incorporated by reference in, this Annual Report on Form 10-K, and the inclusion of such website addresses in this Annual Report on Form 10-K is as inactive textual references only. Item 1A. Risk Factors A description of the risks and uncertainties associated with our business is set forth below. You should carefully consider the risks and uncertainties described below, as well as the other information in this Form 10-K, including our accompanying consolidated financial statements and the related notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” The occurrence of any of the events or developments described below, or of additional risks and uncertainties not presently known to us or that we currently deem immaterial, could materially and adversely affect our business, results of operations, financial condition and growth prospects. In such an event, the market price of our Class A common stock could decline and you could lose all or part of your investment. Risk Factors Summary An investment in our common stock involves a high degree of risk, and the following is a summary of key risk factors when considering an investment. You should read the summary risks together with the more detailed discussion of risks set forth following this summary, as well as elsewhere in this Annual Report on Form 10-K. Additional risks, beyond those summarized below or discussed elsewhere in this Annual Report on Form 10-K, may apply to our activities or operations as currently conducted or as we may conduct them in the future or in the markets in which we operate or may in the future operate. Risks Related to Our Business and Industry • If we are unable to attract new customers and retain and expand sales to existing customers, our revenue growth could be slower than we expect and our business would be adversely affected. • Current and future economic uncertainty and other unfavorable conditions in our industry or the global economy could limit our growth and negatively affect our operating results. • If we fail to manage our growth and profitability plans effectively, our business, operating results, and financial condition could be adversely affected. • If the market for monetization platform software and related solutions, and consumer adoption of products and services that are provided through such solutions, develops slower than we expect, our growth may slow or stall, and our operating results could be adversely affected. • Currency exchange rate fluctuations may adversely affect our results of operations, which are reported in U.S. dollars. • If we are unable to recruit or retain senior management or other key personnel and maintain our corporate culture, we may not be able to execute on our business strategy. • Our success depends in large part on a limited number of products, and if these products fail to gain market acceptance or our product development efforts are unsuccessful, our business, operating results, and financial condition could be adversely affected. • We have a history of net losses and may not achieve or sustain profitability. • Our revenue growth and ability to achieve and sustain profitability will depend, in part, on our ability to increase productivity of our sales force. • If we are unable to effectively compete in the market for our solutions or such markets develop slower than we expect our business, operating results, and financial condition would be adversely affected. • We face risks related to our debt obligations, including our convertible senior unsecured notes and warrants. 10 • Our operating results, which are influenced by a variety of factors, have fluctuated in the past and may continue to fluctuate, making our future results difficult to predict accurately. • If we are not able to successfully and timely develop, enhance and deploy our products and multi-product strategy, our business, operating results, financial condition and growth prospects could be adversely affected. • We may be unable to integrate businesses we have or will acquire or to achieve expected benefits of such acquisitions. • If we are unable to successfully execute our strategic initiatives, such as increasing our sales to large enterprise customers and expanding and strengthening our sales channels and relationships with system integrators, our business, operating results and financial condition could be adversely affected. • Our international operations expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. • If we fail to integrate our solution with a variety of systems, applications and platforms that are developed by others, our solution may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy • If our security measures are breached or if unauthorized access to customer, employee or other confidential data is otherwise obtained, or if our solution is perceived as not being secure, we may lose existing customers or fail to attract new customers, our business may be harmed and we may incur significant liabilities. • Privacy and security concerns, laws, and regulations, may reduce the effectiveness of our solution and adversely affect our business. • Failure to protect our intellectual property could adversely affect our business. • Any disruptions of service from our public cloud providers could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. Risks Related to Legal, Regulatory, Accounting, and Tax Matters • Adverse litigation judgments or settlements could expose us to significant monetary damages or limit our ability to operate our business. • If we are not able to satisfy government and industry-specific requirements, such as data protection, security, privacy, and export laws, our growth could be harmed. Risks Related to Ownership of Our Class A Common Stock • The market price of our Class A common stock has been, and will likely continue to be, volatile, and you could lose all or part of the value of your investment. • The dual class structure of our common stock has the effect of concentrating substantial influence with holders of our Class B common stock, including our CEO and his affiliates, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. 11 Risks Related to Our Business and Industry If we are unable to attract new customers and retain and expand sales to existing customers, our revenue growth could be slower than we expect, and our business may be adversely affected. Our ability to achieve significant growth in revenue in the future will depend, in large part, upon our ability to attract new customers. This may be particularly challenging where an organization has already invested substantial personnel and financial resources to integrate billings and other business and financial management tools, including custom-built solutions, into its business, as such an organization may be reluctant or unwilling to invest in new products and services. As a result, selling our solution often requires sophisticated and costly sales efforts that are targeted at senior management. During the fiscal year ended January 31, 2023, sales and marketing expenses represented approximately 44% of our total revenue. If we fail to attract new customers and fail to maintain and expand new customer relationships, our revenue may grow more slowly than we expect and our business may be adversely affected. Our future revenue growth also depends upon retaining and expanding sales and renewals of subscriptions to our solution with existing customers. If our existing customers do not expand their use of our solution over time or do not renew their subscriptions or if we receive requests from an increased number of customers for changes to payment or other terms as a result of the impact of macroeconomic conditions, including global economic uncertainty and increasing inflation and interest rates, on their businesses, our revenue may grow more slowly than expected, may not grow at all, or may decline. Our success is also dependent, in part, on our ability to cross-sell our products. If we experience issues with successfully implementing or cross-selling our products, revenue may grow more slowly or may not grow at all. Our sales and marketing efforts also may be impacted by macroeconomic conditions and other events beyond our control. In light of current macroeconomic conditions and uncertainty, certain customers and prospective customers have reduced or delayed technology or other discretionary spending or otherwise are cautious about purchasing decisions and, as a result, we are experiencing longer sales cycles. If the impacts to customers and prospective customers of current macroeconomic conditions and uncertainty persist or worsen, our business, operating results, financial conditions and prospects could be materially and adversely affected. While we expect to expand our sales efforts, both domestically and internationally in the long term, in November 2022, we approved a workforce reduction impacting approximately 11% of our workforce. This reduction disproportionately impacted our go-to-market organization and consequently may adversely impact our ability to achieve our future operational targets. In the future, we may be unable to hire qualified sales personnel, may be unable to successfully train those sales personnel that we are able to hire, and sales personnel may not become fully productive on the timelines that we have projected or at all. Further, although we dedicate significant resources to sales and marketing programs, these sales and marketing programs may not have the desired effect and may not expand sales. We cannot assure you that our efforts would result in increased sales to existing customers and additional revenue. If our efforts to expand sales and renewals to existing customers are not successful, our business and operating results could be adversely affected. Our customers generally enter into subscription agreements with terms of one to five years and have no obligation to renew their subscriptions after the expiration of their initial subscription period. Moreover, our customers that do renew their subscriptions may renew for lower subscription or usage amounts or for shorter subscription periods. In addition, in the first year of a subscription, customers often purchase an increased level of professional services (such as deployment services) than they do in renewal years. Costs associated with maintaining a professional services department are relatively fixed in the short term while professional services revenue is dependent on the amount of billable work actually performed for customers in a period, the combination of which may result in variability in, and have a negative impact on, our gross profit. Customer renewals may decline or fluctuate as a result of a number of factors, including the breadth of early deployment, reductions in our customers’ spending levels, higher volumes of usage purchased upfront relative to actual usage during the subscription term, changes in customers’ business models and use cases, our customers’ satisfaction or dissatisfaction with our solution, our pricing or pricing structure, the pricing or capabilities of products or services offered by our competitors, or the effects of general macroeconomic conditions. If our customers do not renew their agreements with us, or renew on terms less favorable to us, our revenue may decline. 12 Current and future economic uncertainty and other unfavorable conditions in our industry or the global economy have and may continue to limit our ability to grow our business and negatively affect our operating results. Our operating results may vary based on the impact of changes in the U.S. and global economy, including recession, fluctuations in inflation and interest rates, and general economic downturns, which can arise suddenly. As a result of current weakened macroeconomic conditions and uncertainty, and related corporate cost cutting and tighter budgets, we are experiencing longer sales cycles and collection periods. Prolonged macroeconomic weakness and uncertainty could continue to adversely affect the ability or willingness of our current and prospective customers to purchase or expand their purchase of our products, further delay customer purchasing decisions, reduce the value of customer contracts, affect attrition rates, or further lengthen collection periods, any of which could materially and adversely affect our business, operating results, financial conditions and prospects. We cannot predict the timing, strength, or duration of any economic downturn. Moreover, there has been recent turmoil in the global banking system, and continued disruptions in the banking system, both in the U.S. or abroad, may impact our or our customers’ liquidity and, as a result, negatively impact our business and operating results. If we fail to manage our growth and profitability plans effectively, our business, operating results, and financial condition could be adversely affected. If we are unable to manage our growth and profitability plans effectively, which may continue to be impacted by macroeconomic conditions and other factors outside of our control, our business, operating results, and financial condition could be adversely affected. To manage growth in our operations and personnel, we will need to continue to improve and achieve efficiencies with respect to our operational, financial, and management controls and our reporting systems and procedures, including improving timely access to operational information to optimize business decisions. For example, in November 2022, we approved a workforce reduction plan designed to improve operational efficiencies and operating costs and better align our workforce with current business needs, priorities, and near term growth expectations. Failure to manage growth and profitability plans effectively could result in difficulty or delays in deploying customers, declines in quality or customer satisfaction, increases in costs, difficulties in introducing new products and services or enhancing existing products and services, loss of customers, or other operational difficulties in executing sales strategies, any of which could adversely affect our business performance and operating results. If the market for monetization platform software and related solutions, and consumer adoption of products and services that are provided through such solutions, develops slower than we expect, our growth may slow or stall, and our operating results could be adversely affected. Our success depends on companies investing in monetization solutions, including subscription or consumption management, revenue recognition and subscriber experience software and products, and consumers choosing to consume products and services through such solutions. Companies may be unwilling or unable to invest in monetization solutions due to the significant cost of such solutions or if they do not believe that the consumers of their products and services would be receptive to offerings on such monetization solutions, or they may choose to invest in such solutions more slowly than we expect. Our success will also depend, to a large extent, on the willingness of large enterprises that have adopted subscription or consumption business models utilizing cloud-based products and services to manage billings and financial accounting relating to their offerings. In addition, those enterprises that do shift to a subscription model may decide that they do not need a solution that offers the range of functionalities that we offer. Many companies have invested substantial effort and financial resources to develop custom-built applications or integrate traditional enterprise software into their businesses as they adopt recurring revenue business models and may be reluctant or unwilling to switch to different applications. Factors that may affect market acceptance and sales of our products and services inclu • the number of companies shifting to subscription business models; • the number of consumers and businesses adopting new, flexible ways to consume products and services; • the security capabilities, reliability, and availability of cloud-based services; • customer concerns with entrusting a third party to store and manage their data, especially transaction-critical, confidential, or sensitive data; • our ability to minimize the time and resources required to deploy our solution; 13 • our ability to achieve and maintain high levels of customer satisfaction; • our ability to deploy upgrades and other changes to our solution without disruption to our customers; • the level of customization or configuration we offer; • the overall level of corporate spending and spending on quote-to-cash and revenue recognition solutions by our customers and prospects, including the impact of spending due to macroeconomic conditions; • general macroeconomic conditions, both in domestic and foreign markets, including the impacts associated with rising interest rates and inflation, slower growth or recession, the ongoing conflict following Russia's invasion of Ukraine, and the COVID-19 pandemic; and • the price, performance, and availability of competing products and services. The markets for subscription products and services and for subscription management software may not develop further or may develop slower than we expect. If companies do not shift to subscription business models and subscription management software does not achieve widespread adoption, or if there is a reduction in demand for subscription products and services or subscription management software caused by technological challenges, weakening economic conditions, security or privacy concerns, decreases in corporate spending, a lack of customer acceptance, or otherwise, our business could be materially and adversely affected. In addition, our subscription agreements with our customers generally provide for a minimum monetization platform fee and usage-based fees, which depend on the total dollar amount that is invoiced or managed on our solution, or the total usage of our solution. Because a portion of our revenue depends on the volume of transactions that our customers process through our solution, if our customers do not adopt our solution throughout their business, if their businesses decline or fail, or if they are unable to successfully shift to subscription business models, including if they fail to successfully deploy our solution, our revenue could decline and our operation results could be adversely impacted. Currency exchange rate fluctuations may adversely affect our results of operations, which are reported in U.S. dollars. Our international operations expose us to the effects of fluctuations in currency exchange rates, and may increase the cost of our solution to customers outside of the United States when the U.S. dollar is stronger relative to other currencies. Currency exchange rate fluctuations have and may continue to adversely affect our business, operating results, financial condition, and cash flows. In addition, we incur expenses for employee compensation and other operating expenses at our non-U.S. locations in the local currency. Fluctuations in the exchange rates between the U.S. dollar and other currencies could result in the dollar equivalent of such expenses being higher. Furthermore, volatile market conditions arising from macroeconomic conditions and the ongoing conflict in Ukraine may result in significant fluctuations in exchange rates, and, in particular, a weakening of foreign currencies relative to the U.S. dollar may negatively affect our revenue. This could have a negative impact on our operating results. Although we may in the future decide to undertake foreign exchange hedging transactions to cover a portion of our foreign currency exchange exposure, we currently do not hedge our exposure to foreign currency exchange risks. Our business depends largely on our ability to attract and retain talented employees, including senior management, and maintain our corporate culture. If we lose the services of Tien Tzuo, our founder, Chairman, and Chief Executive Officer, or other critical talent across our executive team and in other key roles, or fail to maintain our corporate culture, we may not be able to execute on our business strategy. Our future success depends on our continuing ability to attract, train, engage, assimilate, and retain highly skilled personnel, including software engineers, product management, sales, and professional services personnel. We have historically faced intense competition for qualified individuals from numerous software and other technology companies. Although our voluntary turnover decreased in fiscal 2023 as compared to fiscal 2022, we may experience heightened attrition, including of those with significant institutional knowledge and expertise. We may not be able to retain our current key employees, or attract, train, assimilate, or retain other highly skilled personnel in the future, especially in light of uncertain macroeconomic conditions globally. For example, employees may seek new or different opportunities that offer greater compensation or benefits than we offer or are able to offer, making it difficult to retain them. In addition, we may incur significant costs to attract and retain highly skilled personnel, and we may lose new employees to our competitors or other technology companies before we realize 14 the benefit of our investment in recruiting and training them. As we move into new countries, we will need to attract and recruit skilled personnel in those areas. If we are unable to attract and retain suitably qualified individuals who are capable of meeting our growing technical, operational, and managerial requirements on a timely basis or at all, our business may be adversely affected. Further, given that our employees continue to be distributed globally and most of our employees continue to work remotely, we may find it increasingly difficult to maintain the beneficial aspects of our corporate culture that is focused on inclusivity and high performance, underlying the importance of employee connectivity and accountability. Additionally, we may periodically implement business strategies that impact our employees, such as changes to our organizational structure or workforce adjustments. For example, we approved a workforce reduction in November 2022 that impacted approximately 11% of our workforce. Any workforce reduction could have an adverse effect on our business, including creating negative employee morale and hindering our ability to meet operational targets due to loss of employees. To the extent our compensation programs and workplace culture are not viewed as competitive, or changes in our workforce or other initiatives are not viewed favorably, our ability to attract, retain, and motivate employees can be weakened, which could harm our results of operations. Our future success also depends in large part on the continued services of senior management and other key personnel. In particular, we are highly dependent on the services of Tien Tzuo, our founder, Chairman and Chief Executive Officer, who is critical to the development of our technology, platform, future vision, and strategic direction. We rely on our leadership team in the areas of operations, security, marketing, sales, support, and general and administrative functions, and on individual contributors such as those in sales and on our research and development team. Our senior management and other key personnel are all employed on an at-will basis, which means that they could terminate their employment with us at any time and for any reason, such as retirement or career change. As we previously announced, Sri Srinivasan, Zuora's former Chief Engineering and Product Officer, resigned from his role effective March 31, 2023. We are conducting a search for his replacement, and internal leaders are managing the product and engineering organizations until his replacement is hired. If we lose the services of senior management or other key personnel and fail to execute effective succession planning for such key personnel, or if we are unable to attract, train, assimilate, and retain the highly skilled personnel we need, our business, operating results, and financial condition could be adversely affected. Volatility or lack of appreciation in our stock price may also affect our ability to attract and retain our key employees. Many of our senior personnel and other key employees have become, or will soon become, vested in a substantial amount of stock or stock options. Employees may be more likely to leave us if the exercise price of the options that they hold are significantly above the market price of our Class A common stock or, conversely, if the shares they own or the shares underlying their vested options have significantly appreciated in value relative to the original purchase price of such shares or the exercise price of such options. If we are unable to retain our employees, or if we need to increase our compensation expenses, including equity compensation expenses, to retain our employees, our business, results of operations, financial condition, and cash flows could be adversely affected. If we are unable to grow our sales channels and our relationships with strategic partners, such as system integrators, management consulting firms, and resellers, sales of our products and services may suffer and our growth could be slower than we project. In addition to our direct sales force, we use strategic partners, such as system integrators, management consulting firms, strategic technology partners and resellers, to market, sell, and implement our solution. Historically, we have used these strategic partners to a limited degree, but we are prioritizing efforts to make these partners an increasingly important aspect of our business particularly with regard to enterprise and international sales and larger implementations of our products where these partners may have more expertise and established business relationships than we do. We have transitioned and expect to continue to transition a portion of our professional services implementations to these strategic partners, and as a result we expect our professional services revenue as an overall percentage of Zuora's total revenue to continue to decline over time. Our relationships with these strategic partners are still maturing, and we cannot assure you that these partners will be successful in marketing, selling or implementing our solution. Identifying these partners, negotiating and supporting relationships with them, including training them in how to sell or deploy our solution, and maintaining these relationships requires significant commitment of time and resources that may not yield a significant return on our investment in these relationships. Our future growth in revenue and ability to achieve and sustain profitability depends in part on our ability to identify, establish, and retain successful strategic partner relationships in the United States and internationally, which will take significant time and resources and involve significant risk. If we are unable to establish and maintain our 15 relationships with these partners, or otherwise develop and expand our indirect distribution channel, our business, operating results, financial condition, or cash flows could be adversely affected. We also cannot be certain that we will be able to maintain successful relationships with any strategic partners and, to the extent that our strategic partners are unsuccessful in marketing, selling, or implementing our solution, our business, operating results, and financial condition could be adversely affected. Our strategic partners may market to our customers the products and services of several different companies, including products and services that compete with our solution. Because our strategic partners do not have an exclusive relationship with us, we cannot be certain that they will prioritize or provide adequate resources to marketing our solution. Moreover, divergence in strategy by any of these partners may materially adversely affect our ability to develop, market, sell, or support our solution. We cannot assure you that our strategic partners will continue to cooperate with us. In addition, actions taken or omitted to be taken by such parties may adversely affect us. We are unable to control the quantity or quality of resources that our systems integrator partners commit to deploying our products and services, or the quality or timeliness of such deployment. If our partners do not commit sufficient or qualified resources to these activities, our customers may be less satisfied, or less supportive with references, or may require the investment of our resources at discounted rates. These, and other failures by our partners to successfully deploy our products and services, may have an adverse effect on our business and our operating results. Our success depends in large part on a limited number of products. If these products fail to gain or lose market acceptance, our business will suffer. We derive substantially all of our revenue and cash flows from sales of subscriptions and associated deployment of our Zuora Platform , Zuora Billing, Zuora Revenue, and Zuora Collect products, and with the acquisition of Zephr, a digital subscriber experience platform, in fiscal 2023, we added the Zephr subscription experience product to our portfolio. As such, the continued growth in market demand for these products is critical to our success. Demand for our solution is affected by a number of factors, many of which are beyond our control, including macroeconomic factors, such as the impacts of inflation and rising interest rates on our customers and prospects, the growth or contraction of the Subscription Economy, continued market acceptance of our solution by customers for existing and new use cases, the timing of development and release of new products and services, features, and functionality introduced by our competitors, changes in accounting standards, laws or regulations, policies, guidelines, interpretations, or principles that would impact the functionality and use of our solution, and technological change. We expect that an increasing transition to disaggregated solutions that focus on addressing specific customer use cases would continue to disrupt the enterprise software space, enabling new competitors to emerge. We cannot assure you that our solutions and future enhancements to our solution will be able to address future advances in technology or the requirements of enterprise customers. If we are unable to meet customer demands in creating a flexible solution designed to address all these needs or otherwise achieve more widespread market acceptance of our solution, our business, operating results, financial condition, and growth prospects would be adversely affected. We have a history of net losses, anticipate increasing our operating expenses in the future, and may not achieve or sustain profitability. We have incurred net losses in each fiscal year since inception, including net losses of $198.0 million, $99.4 million, and $73.2 million in fiscal 2023, 2022, and 2021, respectively. We expect to incur net losses for the foreseeable future. As of January 31, 2023, we had an accumulated deficit of $761.4 million. We expect to make significant future expenditures related to the development and expansion of our business, including increasing our overall customer base, expanding relationships with existing customers, entering new vertical markets, expanding our global footprint, expanding and leveraging our relationships with strategic partners including system integrators to accelerate our growth, optimizing pricing and packaging, and expanding our operations and infrastructure, both domestically and internationally, and in connection with legal, accounting, and other administrative expenses related to operating as a public company. These efforts may prove more expensive than we currently anticipate, and we may not succeed in increasing our revenue sufficiently, or at all, to offset these increased expenses. In addition, we may delay or reevaluate some or all of the foregoing initiatives in the event that macroeconomic conditions or other factors beyond our control adversely impact our business or operating results. Any delays or reductions in spending in our business development or expansion efforts may negatively affect our ability to expand our operations and maintain or increase our sales. While our revenue has grown in recent years, if our revenue declines or fails to grow at a rate faster than these increases in our operating expenses, we will not be able to achieve and maintain profitability in future periods. As a result, we may continue to generate losses. We cannot assure you that we will achieve profitability in the future or that, if we do become profitable, we will be able to sustain profitability. 16 Our revenue growth and ability to achieve and sustain profitability will depend, in part, on being able to increase the productivity of our sales force. To date, most of our revenue has been attributable to the efforts of our direct sales force. In order to increase our revenue and achieve and sustain profitability, we must increase the productivity of our direct sales force, both in the United States and internationally, to generate additional revenue from new and existing customers. While we expect to expand our sales efforts, both domestically and internationally in the long-term, in November 2022, we approved a workforce reduction, which may result in loss of productivity and adversely impact our sales efforts and ability to achieve our operational targets. There is significant competition for sales personnel with the skills and technical knowledge that we require, and we may experience difficulties attracting qualified sales personnel to meet our needs in the future. Because our solution is often sold to large enterprises and involves long sales cycles and complex customer requirements, it is more difficult to find sales personnel with the specific skills and technical knowledge needed to sell our solution and, even if we are able to hire qualified personnel, doing so may be expensive. Our ability to achieve significant revenue growth will depend, in large part, on our success in recruiting, training, and retaining sufficient numbers of direct sales personnel to support our growth. Due to the complexities of our customer needs, new sales personnel require significant training and can take a number of months to achieve full productivity. Our recent hires and planned hires may not become productive as quickly as we expect and if our new sales employees do not become fully productive on the timelines that we have projected or at all, our revenue will not increase at anticipated levels and our ability to achieve long-term projections may be negatively impacted. We may also be unable to hire or retain sufficient numbers of qualified individuals in the markets where we do business or plan to do business. Furthermore, hiring sales personnel in new countries requires additional set up and upfront costs that we may not recover if the sales personnel fail to achieve full productivity. In addition, as we continue to grow, a larger percentage of our sales force will be new to our company and our solution, which may adversely affect our sales if we cannot train our sales force quickly or effectively. Attrition rates may increase, and we may also face integration challenges as we continue to seek to expand our sales force in the long-term. If we are unable to hire and train sufficient numbers of effective sales personnel, if attrition increases, or if the sales personnel are not successful in obtaining new customers or increasing sales to our existing customer base, our business will be adversely affected. We periodically change and make adjustments to our sales organization in response to market opportunities, competitive threats, management changes, product and service introductions or enhancements, acquisitions, sales performance, increases in sales headcount, cost levels, and other internal and external considerations, including potential changes and uncertainties associated with macroeconomic conditions or other factors beyond our control. Any future changes in our sales organization may result in a temporary reduction of productivity, which could negatively affect our rate of growth. In addition, any significant change to the way we structure our compensation of our sales organization may be disruptive and may affect our revenue growth. The market in which we participate is competitive, and our operating results could be harmed if we do not compete effectively. The market for our solutions, including our billing, collections, revenue recognition and subscriber experience offerings, is highly competitive, rapidly evolving, and fragmented, and subject to changing technology, shifting customer needs, and frequent introductions of new products and services. Many of our current and potential competitors have longer operating histories, access to alternative fundraising sources, significantly greater financial, technical, marketing, distribution or professional services experience, or other resources or greater name recognition than we do. In addition, many of our current and potential competitors supply a wide variety of products to, and have strong and well-established relationships with, current and potential customers. As a result, our current and potential competitors may be able to respond more quickly and effectively than we can to new or changing opportunities, technologies, standards, or customer requirements or devote greater resources than we can to the development, promotion, and sale of their products and services. In addition, some current and potential competitors may offer products or services that address one or a limited number of functions at lower prices or with greater depth than our solution, or integrate or bundle such products and services with their other product offerings. Potential customers may prefer to purchase from their existing suppliers rather than from a new supplier. Our current and potential competitors may develop and market new technologies with comparable functionality to our solution. In addition, because our products and services are integral to our customers’ ability to 17 accurately maintain books and records and prepare financial statements, our potential customers may prefer to purchase applications that are critical to their business from one of our larger, more established competitors, or leverage the software that they have already purchased from our competitors for their billing and accounting needs, or control such infrastructure internally. We may experience fewer customer orders, reduced gross margins, longer sales cycles, and loss of market share. This could lead us to decrease prices, implement alternative pricing structures, or introduce products and services available for free or a nominal price in order to remain competitive. We may not be able to compete successfully against current and future competitors, and our business, operating results, and financial condition will be adversely impacted if we fail to meet these competitive pressures. Our ability to compete successfully in our market depends on a number of factors, both within and outside of our control. Some of these factors inclu ease of use; subscription-based product features and functionality; ability to support the specific needs of companies with subscription business models; ability to integrate with other technology infrastructures and third-party applications; enterprise-grade performance and features such as system scalability, security, performance, and resiliency; vision for the market and product innovation; relationships with strategic partners, including system integrators, management consulting firms, and resellers; total cost of ownership; strength of sales and marketing efforts; brand awareness and reputation; and customer experience, including support and professional services. Any failure by us to compete successfully in any one of these or other areas may reduce the demand for our solution, as well as adversely affect our business, operating results, and financial condition. Moreover, current and future competitors may also make strategic acquisitions or establish cooperative relationships among themselves or with others, including our current or future technology partners. By doing so, these competitors may increase their ability to meet the needs of our customers or potential customers. These developments could limit our ability to obtain revenue from existing and new customers. If we are unable to compete successfully against current and future competitors, our business, operating results, and financial condition could be adversely impacted. We face risks related to our debt obligations, including our convertible senior unsecured notes and warrants. In March 2022, we issued $250.0 million aggregate principal amount of convertible senior unsecured notes due in 2029 (Initial Notes) and warrants for 7.5 million shares of our Class A common stock (Warrants) to Silver Lake Alpine II, L.P. (Silver Lake). We have also agreed to issue to Silver Lake an additional $150.0 million in senior unsecured notes in September 2023 (Additional Notes) (together with the Initial Notes, the “2029 Notes”). Our debt obligations under the 2029 Notes could adversely impact us. For example, these obligations coul • require us to use a substantial portion of our cash flow from operations to pay principal and interest on debt, or to repurchase our 2029 Notes when required upon the occurrence of certain events or otherwise pursuant to the terms thereof, which will reduce the amount of cash flow available to fund working capital, capital expenditures, acquisitions, and other business activities; • require us to use cash and/or issue shares of our Class A common stock to settle any obligations; • result in certain of our debt instruments being accelerated or being deemed to be in default if certain terms of default are triggered, such as applicable cross payment default and/or cross-acceleration provisions; • adversely impact our credit rating, which could increase future borrowing costs; • limit our future ability to raise funds for capital expenditures, strategic acquisitions or business opportunities, and other general corporate requirements; • restrict our ability to create or incur liens and engage in other transactions and activity; • increase our vulnerability to adverse economic and industry conditions; • dilute our earnings per share as a result of the conversion provisions in the 2029 Notes; and • place us at a competitive disadvantage compared to our less leveraged competitors. Additionally, due to certain settlement provisions in the Warrants, we have classified a portion of the Warrants as a current liability and revalue the liability on a quarterly basis, which may adversely affect our future operating results and financial condition as reported on a GAAP basis. 18 We also have a $30.0 million revolving credit facility under an agreement originally entered into with Silicon Valley Bank (SVB), which is currently undrawn. Following the closure of SVB in March 2023, the credit facility was subsequently assumed by First Citizens Bank & Trust. The credit facility contains restrictive covenants, including limitations on our ability to transfer or dispose of assets, merge with other companies or consummate certain changes of control, acquire other companies, pay dividends or repurchase our stock, incur additional indebtedness and liens and enter into new businesses. We therefore may not be able to engage in any of the foregoing transactions unless we obtain the consent of the lender or terminate the credit facility. Failure to comply with the covenants or other restrictions could result in a default. In addition, the credit facility is secured by substantially all of our non-intellectual property assets and requires us to satisfy certain financial covenants. Our ability to meet our payment obligations under our debt instruments depends on our ability to generate significant cash flows in the future. This, to some extent, is subject to market, economic, financial, competitive, legislative, and regulatory factors as well as other factors that are beyond our control. There can be no assurance that our business will generate cash flow from operations, or that additional capital will be available to us, in amounts sufficient to enable us to meet our debt payment obligations and to fund other liquidity needs. For example, we may utilize proceeds from the 2029 Notes for acquisitions or other investments that do not increase our enterprise value or we may otherwise be unable to generate sufficient cash flows to repay our debt obligations. See Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock of the Notes to Consolidated Financial Statements for more information about the 2029 Notes, Warrants and the revolving credit facility. Our operating results may fluctuate from quarter to quarter, which makes our future results difficult to predict. Our quarterly operating results have fluctuated in the past and may fluctuate in the future. As a result, you should not rely upon our past quarterly operating results as indicators of future performance. We have encountered, and will continue to encounter, risks and uncertainties frequently experienced by growing companies in rapidly evolving markets, such as the risks and uncertainties described herein. Our operating results in any given quarter can be influenced by numerous factors, many of which are unpredictable or are outside of our control, includin • our ability to maintain and grow our customer base; • our ability to retain and increase revenue from existing customers; • our ability to introduce new products and services and enhance existing products and services; • our ability to integrate or implement our existing products and services on a timely basis or at all; • our ability to deploy our products successfully within our customers' information technology ecosystems; • our ability to enter into larger contracts; • increases or decreases in subscriptions to our platform; • our ability to sell to large enterprise customers; • the transaction volume that our customers process through our system; • our ability to respond to competitive developments, including competitors' pricing changes and their introduction of new products and services; • macroeconomic conditions, including the impact of foreign exchange fluctuations and rising interest rates and inflation, including wage inflation; • changes in the pricing of our products; • the productivity of our sales force; • our ability to grow our relationships with strategic partners such as system integrators and their effectiveness in increasing our sales and implementing our products; • changes in the mix of products and services that our customers use; • the length and complexity of our sales cycles; • cost to develop and upgrade our solution to incorporate new technologies; 19 • seasonal purchasing patterns of our customers; • the impact of outages of our solution and reputational harm; • costs related to the acquisition of businesses, talent, technologies, or intellectual property, including potentially significant amortization costs and possible write-downs; • failures or breaches of security or privacy, and the costs associated with responding to and addressing any such failures or breaches; • changes to financial accounting standards and the interpretation of those standards that may affect the way we recognize and report our financial results, including changes in accounting rules governing recognition of revenue; • the impact of changes to financial accounting standards; • general economic and political conditions and government regulations in the countries where we currently operate or plan to expand; • decisions by us to incur additional expenses, such as increases in sales and marketing or research and development; • the timing of stock-based compensation expense; • political unrest, changes and uncertainty associated with terrorism, hostilities, war, natural disasters or pandemics, such as the COVID-19 pandemic, the ongoing conflict in Ukraine, and the instability in the global banking system; and • potential costs to attract, onboard, retain, and motivate qualified personnel. The impact of one or more of the foregoing and other factors may cause our operating results to vary significantly. As such, we believe that quarter-to-quarter comparisons of our operating results may not be meaningful and should not be relied upon as an indication of future performance. If we fail to meet or exceed the expectations of investors or securities analysts, then the trading price of our Class A common stock could fall substantially, and we could face costly lawsuits, including shareholder litigation. If we are not able to develop and release new products and services, or successful enhancements, new features, and modifications to our existing products and services, or otherwise successfully implement our multi-product strategy, our business could be adversely affected. The market for our solutions, including our billing, collections, revenue recognition and subscriber experience offerings, is characterized by rapid technological change, frequent new product and service introductions and enhancements, changing customer demands, and evolving industry standards. The introduction of products and services embodying new technologies can quickly make existing products and services obsolete and unmarketable. Additionally, because we provide billing and finance solutions to help our customers with compliance and financial reporting, changes in law, regulations, and accounting standards could impact the usefulness of our products and services and could necessitate changes or modifications to our products and services to accommodate such changes. Subscription management products and services, including our billing, collections and revenue recognition offerings, are inherently complex, and our ability to implement our multi-product strategy, including developing and releasing new products and services or enhancements, new features and modifications to our existing products and services depends on several factors, including timely completion, competitive pricing, adequate quality testing, integration with new and existing technologies and our solution, and overall market acceptance. We cannot be sure that we will succeed in developing, marketing, and delivering on a timely and cost-effective basis enhancements or improvements to our platform or any new products and services that respond to continued changes in subscription management practices or new customer requirements, nor can we be sure that any enhancements or improvements to our platform or any new products and services will achieve market acceptance. Since developing our solution is complex, the timetable for the release of new products and enhancements to existing products is difficult to predict, and we may not offer new products and updates as rapidly as our customers require or expect. Any new products or services that we develop may not be introduced in a timely or cost-effective manner, may contain errors or defects, or may not achieve the broad market acceptance necessary to generate sufficient revenue. The introduction of new products and enhancements could also increase costs associated with customer support and customer success as demand for these services increase. This increase in cost could negatively impact profit margins, including our gross margin. Moreover, even if we introduce new products and services, we may experience a decline in revenue of our existing products and services that is not offset by revenue from the new 20 products or services. For example, customers may delay making purchases of new products and services to permit them to make a more thorough evaluation of these products and services or until industry and marketplace reviews become widely available. Some customers may hesitate to migrate to a new product or service due to concerns regarding the complexity of migration or performance of the new product or service. In addition, we may lose existing customers who choose a competitor’s products and services or choose to utilize internally developed applications instead of our products and services. This could result in a temporary or permanent revenue shortfall and adversely affect our business. In addition, because our products and services are designed to interoperate with a variety of other internal or third-party software products and business systems applications, we will need to continuously modify and enhance our products and services to keep pace with changes in application programming interfaces (APIs), and other software and database technologies. We may not be successful in either developing these new products and services, modifications, and enhancements or in bringing them to market in a timely fashion. There is no assurance that we will successfully resolve such issues in a timely and cost-effective manner. Furthermore, modifications to existing platforms or technologies, including any APIs with which we interoperate, will increase our research and development expenses. Any failure of our products and services to operate effectively with each other or with other platforms and technologies could reduce the demand for our products and services, result in customer dissatisfaction, and adversely affect our business. We may acquire or invest in additional companies, which may divert our management’s attention, result in additional dilution to our stockholders, and consume resources that are necessary to sustain our business. We may be unable to integrate acquired businesses and technologies successfully or to achieve the expected benefits of such acquisitions. Our business strategy includes acquiring other complementary products, technologies, or businesses. For example, in September 2022, we acquired Zephr. An acquisition, investment, or business relationship may result in unforeseen operating difficulties and expenditures. In particular, we may encounter difficulties assimilating or integrating the businesses, technologies, products, personnel, or operations of the acquired companies, particularly if the key personnel of the acquired companies choose not to work for us, if an acquired company’s software is not easily adapted to work with ours, or if we have difficulty retaining the customers of any acquired business due to changes in management or otherwise. Acquisitions may also disrupt our business, divert our resources, and require significant management attention that would otherwise be available for other business development activities. Moreover, the anticipated benefits of any acquisition, investment, or business relationship may not be realized or we may be exposed to unknown liabilities. We may in the future acquire or invest in additional businesses, products, technologies, or other assets. We also may enter into relationships with other businesses to expand our products and services or our ability to provide our products and services in foreign jurisdictions, which could involve preferred or exclusive licenses, additional channels of distribution, discount pricing, or investments in other companies. Negotiating these transactions can be time consuming, difficult, and expensive, and our ability to close these transactions may be subject to approvals that are beyond our control. Consequently, these transactions, even if undertaken and announced, may not close. For any transactions we undertake, we may: • issue additional equity securities that would dilute our stockholders; • use cash that we may need in the future to operate our business; • incur debt on terms unfavorable to us or that we are unable to repay; • incur large charges or substantial liabilities; • encounter difficulties retaining key employees of the acquired company or integrating diverse software codes or business cultures; and • become subject to adverse tax consequences, substantial depreciation, or deferred compensation charges. Any of these risks could adversely impact our business and operating results. 21 A customer’s failure to deploy our solution after it enters into a subscription agreement with us, or the incorrect or improper deployment or use of our solution could result in customer dissatisfaction and negatively affect our business, operating results, financial condition, and growth prospects. Our solution is deployed in a wide variety of technology environments and into a broad range of complex workflows. We believe our future success will depend in part on our ability to increase both the speed and success of our deployments, by improving our deployment methodology, hiring and training qualified professionals, deepening relationships with deployment partners, and increasing our ability to integrate into large-scale, complex technology environments. We often assist our customers in deploying our solution, either directly or through our deployment partners. In other cases, customers rely on third-party partners to complete the deployment. In some cases, customers initially engage us to deploy our solution, but, for a variety of reasons, including strategic decisions not to utilize subscription business models, fail to ultimately deploy our solution. If we or our third-party partners are unable to deploy our solution successfully, or unable to do so in a timely manner and, as a result, customers do not utilize our solution, we would not be able to generate future revenue from such customers based on transaction or revenue volume and the upsell of additional products and services, and our future operating results could be adversely impacted. In addition, customers may also seek refunds of their initial subscription fee. Moreover, customer perceptions of our solution may be impaired, our reputation and brand may suffer, and customers may choose not to renew or expand their use of our solution. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, our sales cycle may become longer and more expensive, we may encounter still greater pricing pressure and deployment and customization challenges, and we may have to delay revenue recognition for more complicated transactions, all of which could adversely impact our business and operating results. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, we may face greater costs, longer sales cycles, and less predictability in the completion of some of our sales. In this market segment, the customer’s decision to use our solution may be an enterprise-wide decision, in which case these types of sales frequently require approvals by multiple departments and executive-level personnel and require us to provide greater levels of customer education regarding the uses and benefits of our solution, as well as education regarding security, privacy, and scalability of our solution, especially for large “business to consumer” customers or those with extensive international operations. These large enterprise transactions might also be part of a customer’s broader business model or business systems transformation project, which are frequently subject to budget constraints, multiple approvals, and unplanned administrative, processing, security review, and other delays that could further lengthen the sales cycle. Larger enterprises typically have longer decision-making and deployment cycles, may have greater resources to develop and maintain customized tools and applications, demand more customization, require greater functionality and scalability, expect a broader range of services, demand that vendors take on a larger share of risks, demand increased levels of customer service and support, require acceptance provisions that can lead to a delay in revenue recognition, and expect greater payment flexibility from vendors. We are often required to spend time and resources to better familiarize potential customers with the value proposition of our solution. As a result of these factors, sales opportunities with large enterprises may require us to devote greater sales and administrative support and professional services resources to individual customers, which could increase our costs, lengthen our sales cycle, and divert our sales and professional services resources to a smaller number of larger customers. We may spend substantial time, effort, and money in our sales, design and implementation efforts without being successful in producing any sales or deploying our products in such a way that is satisfactory to our customers. All these factors can add further risk to business conducted with these customers. In addition, if sales expected from a large customer for a particular quarter are not realized in that quarter or at all, our business, operating results, and financial condition could be materially and adversely affected. Furthermore, our sales and implementation cycles could be interrupted or affected by other factors outside of our control. For example, due to global economic uncertainty, rising inflation and interest rates, and foreign exchange fluctuations, many large enterprises have generally reduced or delayed technology or other discretionary spending, which may materially and negatively impact our operating results, financial condition and prospects. 22 Our long-term success depends, in part, on our ability to expand the sales of our solution to customers located outside of the United States. Our current international operations, and any further expansion of those operations, expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. We conduct our business activities in various foreign countries and have operations in North America, Europe, Asia, and Australia. During the fiscal year ended January 31, 2023, we derived approximately 35% of our total revenue from customers located outside the United States. Our ability to manage our business and conduct our operations internationally requires considerable management attention and resources and is subject to the particular challenges of supporting a rapidly growing business in an environment of multiple cultures, customs, legal systems, regulatory systems, and commercial infrastructures. International expansion requires us to invest significant funds and other resources. Our operations in international markets may not develop at a rate that supports our level of investment. Expanding internationally may subject us to new risks that we have not faced before or increase risks that we currently face, including risks associated wit • recruiting and retaining talented and capable employees in foreign countries; • providing our solution to customers from different cultures, which may require us to adapt sales practices, modify our solution, and provide features necessary to effectively serve the local market; • compliance with multiple, conflicting, ambiguous or evolving governmental laws and regulations and court decisions, including those relating to employment matters, e-invoicing, consumer protection, privacy, data protection, information security, data residency, and encryption; • longer sales cycles in some countries; • increased third-party costs relating to data centers outside of the United States; • generally longer payment cycles and greater difficulty in collecting accounts receivable; • credit risk and higher levels of payment fraud; • weaker privacy and intellectual property protection in some countries, including China and India; • compliance with anti-bribery laws, such as the U.S. Foreign Corrupt Practices Act of 1977, as amended (FCPA) and the UK Bribery Act 2010 (UK Bribery Act); • currency exchange rate fluctuations; • tariffs, export and import restrictions, restrictions on foreign investments, sanctions, and other trade barriers or protection measures; • foreign exchange controls that might prevent us from repatriating cash earned outside the United States; • economic instability and inflationary conditions; • political instability and unrest, including the effects of the ongoing conflict in Ukraine, especially as it impacts countries in Europe; • corporate espionage; • compliance with the laws of numerous taxing jurisdictions, both foreign and domestic, in which we conduct business, potential double taxation of our international earnings, and potentially adverse tax consequences due to changes in applicable U.S. and foreign tax laws; • continuing uncertainty regarding social, political, immigration, and tax and trade policies in the U.S. and abroad; • instability in the U.S. and international banking systems; • increased costs to establish and maintain effective controls at foreign locations; and • overall higher costs of doing business internationally. 23 Our growth forecasts we have provided publicly may prove to be inaccurate, and even if the markets in which we compete achieve the forecasted growth, we cannot assure that our business will grow at similar rates, if at all. Growth forecasts are subject to significant uncertainty and are based on assumptions and estimates that may not prove to be accurate. The forecasts we have provided publicly relating to the expected growth of the markets in which we compete may prove to be inaccurate. Even if these markets experience the growth we forecast, we may not grow our business at similar rates, or at all. Our growth is subject to many factors, including our success in executing our business strategy, which is subject to many risks and uncertainties. Accordingly, the forecasts of market growth we have provided publicly should not be taken as indicative of our future growth. If we fail to offer high-quality support and training to our customers and third-party partners, our business and reputation will suffer. Once our solution is deployed to our customers, our customers rely on support services from us and from our third-party partners to resolve any related issues. High-quality education, training and support for our customers and third-party partners is important for the successful marketing and sale of our products and for the renewal of existing customers. The importance of high-quality customer and third-party partner training and support will increase as we expand our business and pursue new enterprises. If we or our third-party partners do not help our customers quickly resolve post-deployment issues, including configuring and using features, and provide them with effective ongoing customer support, our ability to upsell additional products to existing customers could suffer and our reputation with existing or potential customers could be harmed. Future changes in market conditions or customer demand could require changes to our prices or pricing model, which could adversely affect our business, operating results, and financial condition. We generally charge our customers a flat fee for their use of our platform and a variable fee based on the amount of transaction volume they process through our system and the number of their subscribers. If our customers do not increase their transaction volume or the number of their subscribers, or an economic downturn reduces their transaction volume or the number of their subscribers, our revenue may be adversely impacted by customers reducing their contracted transaction volume. We have limited experience with respect to determining the optimal prices for our platform, and, as a result, we have in the past needed to and expect in the future to need to change our pricing model from time to time. As the market for our platform matures, or as new competitors introduce new products or services that compete with ours, we may be unable to attract new customers at the same price or based on the same pricing models as we have used historically. We may experience pressure to change our pricing model to defer fees until our customers have fully deployed our solution. Moreover, larger organizations, which comprise a large and growing component of our sales efforts, may demand substantial price concessions. As a result, in the future, we may be required to reduce our prices or change our pricing model, which could adversely affect our revenue, gross margin, profitability, financial position, and cash flow. If we fail to integrate our solution with a variety of operating systems, software applications, and hardware platforms that are developed by others, our solution may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Our solution must integrate with a variety of network, hardware, and software platforms, and we need to continuously modify and enhance our solution to adapt to changes in cloud-enabled hardware, software, networking, browser, and database technologies. We have developed our solution to be able to integrate with third-party SaaS applications, including the applications of software providers that compete with us, through the use of APIs. For example, Zuora CPQ integrates with certain capabilities of Salesforce using publicly available APIs. In general, we rely on the fact that the providers of such software systems, including Salesforce, continue to allow us access to their APIs to enable these integrations, and the terms with such companies may be subject to change from time to time. We also integrate certain aspects of our solution with other platform providers. Any change or deterioration in our relationship with any platform provider may adversely impact our business and operating results. Our business may be adversely impacted if any platform provide • discontinues or limits our access to its APIs; • makes changes to its platform; 24 • terminates or does not allow us to renew or replace our contractual relationship; • modifies its terms of service or other policies, including fees charged to, or other restrictions on, us or other application developers, or changes how customer information is accessed by us or our customers; • establishes more favorable relationships with one or more of our competitors, or acquires one or more of our competitors or is acquired by a competitor and offers competing services to us; or • otherwise develops its own competitive offerings. In addition, we have benefited from these platform providers’ brand recognition, reputations, and customer bases. Any losses or shifts in the market position of these platform providers in general, in relation to one another or to new competitors or new technologies could lead to losses in our relationships or customers, or to our need to identify or transition to alternative channels for marketing our solutions. Such changes could consume substantial resources and may not be effective. If we are unable to respond to changes in a cost-effective manner, our solution may become less marketable, less competitive, or obsolete and our operating results may be negatively impacted. If we fail to develop, maintain, and enhance our brand and reputation cost-effectively, our business and financial condition may be adversely affected. We believe that developing, maintaining, and enhancing awareness and integrity of our brand and reputation in a cost-effective manner are important to achieving widespread acceptance of our solution and are important elements in attracting new customers and maintaining existing customers. We believe that the importance of our brand and reputation will increase as competition in our market further intensifies. Successful promotion of our brand and the Subscription Economy concept will depend on the effectiveness of our marketing efforts, our ability to provide a reliable and useful solution at competitive prices, the perceived value of our solution, and our ability to provide quality customer support. In addition, the promotion of our brand requires us to make substantial expenditures, and we anticipate that the expenditures will increase as our market becomes more competitive, as we expand into new markets, and as more sales are generated through our strategic partners. Brand promotion activities may not yield increased revenue, and even if they do, the increased revenue may not offset the expenses we incur in building and maintaining our brand and reputation. We also rely on our customer base and community of end-users in a variety of ways, including to give us feedback on our solution and to provide user-based support to our other customers. If we fail to promote and maintain our brand successfully or to maintain loyalty among our customers, or if we incur substantial expenses in an unsuccessful attempt to promote and maintain our brand, we may fail to attract new customers and partners or retain our existing customers and partners and our business and financial condition may be adversely affected. Any negative publicity relating to our customers, employees, partners, or others associated with these parties, may also tarnish our own reputation simply by association and may reduce the value of our brand. Damage to our brand and reputation may result in reduced demand for our solution and increased risk of losing market share to our competitors. Any efforts to restore the value of our brand and rebuild our reputation may be costly and may not be successful. We employ third-party licensed software for use in or with our software, and the inability to maintain these licenses or errors in the software we license could result in increased costs or reduced service levels, which could adversely affect our business. Our software incorporates certain third-party software obtained under licenses from other companies. We anticipate that we will continue to rely on such third-party software and development tools from third parties in the foreseeable future. Although we believe that there are commercially reasonable alternatives to the third-party software we currently license, including open source software, this may not always be the case, or it may be difficult or costly to migrate to other third-party software. Our use of additional or alternative third-party software would require us to enter into license agreements with third parties. In addition, integration of our software with new third-party software may require significant work and require substantial investment of our time and resources. Also, any undetected or uncorrected errors or defects in third-party software could prevent the deployment or impair the functionality of our software, present security risks, delay new updates or enhancements to our solution, result in a failure of our solution, and injure our reputation. 25 Certain of our operating results and financial metrics may be difficult to predict as a result of seasonality. Although we have not historically experienced significant seasonality with respect to our subscription revenue throughout the year, we have seen seasonality in our sales cycle as a large percentage of our customers make their purchases in the third month of any given quarter. In addition, our fourth quarter has historically been our strongest quarter. We believe that this results in part from the procurement, budgeting, and deployment cycles of many of our customers. We generally expect a relative increase in sales in the second half of each year as budgets of our customers for annual capital purchases are being fully utilized. We may be affected by seasonal trends in the future, particularly as our business matures. Such seasonality may result from a number of factors, including a slowdown in our customers’ procurement process during certain times of the year, both domestically and internationally, and customers choosing to spend remaining budgets shortly before the end of their fiscal years. These effects may become more pronounced as we target larger organizations and their larger budgets for sales of our solution. Additionally, this seasonality may be reflected to a much lesser extent, and sometimes may not be immediately apparent, in our revenue, due to the fact that we recognize subscription revenue over the term of the applicable subscription agreement. In addition, our ability to record professional services revenue can potentially vary based on the number of billable days in the given quarter, which is impacted by holidays and vacations. To the extent we experience this seasonality, it may cause fluctuations in our operating results and financial metrics and make forecasting our future operating results and financial metrics more difficult. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy If our security measures are breached or if unauthorized access to customer, employee or other confidential data is otherwise obtained, or if our solution is perceived as not being secure, we may lose existing customers or fail to attract new customers, our business may be harmed and we may incur significant liabilities. Our solution involves the storage, transmission and processing of our customers’ proprietary data, including highly confidential financial information regarding their business, and personal or confidential information of our customers' customers or other end users. Additionally, we maintain our own proprietary, confidential and otherwise sensitive information, including employee information. While we have security measures in place to protect customer information and prevent data loss and other security breaches, these measures may be breached as a result of third-party action, including cyberattacks or other intentional misconduct by computer hackers, employee error, malfeasance or otherwise. The risk of a cybersecurity incident occurring has increased as more companies and individuals work remotely, potentially exposing us to new, complex threats. Additionally, due to political uncertainty and military actions such as those associated with the war in Ukraine, we and our service providers are vulnerable to heightened risks of cybersecurity incidents and security and privacy breaches from or affiliated with nation-state actors. If any unauthorized or inadvertent access to, or a security breach or incident impacting our platform or other systems or networks used in our business occurs, such event could result in the loss, alteration, or unavailability of data, unauthorized access to, or use or disclosure of data, and any such event, or the belief or perception that it has occurred, could result in a loss of business, severe reputational damage adversely affecting customer or investor confidence, regulatory investigations and orders, litigation, indemnity obligations, and damages for contract breach or penalties for violation of applicable laws or regulations. Service providers who store or otherwise process data on our behalf, including third party and public-cloud infrastructure, also face security risks. As we rely more on third-party and public-cloud infrastructure and other third-party service providers, we will become more dependent on third-party security measures to protect against unauthorized access, cyberattacks and the mishandling of customer, employee and other confidential data and we may be required to expend significant time and resources to address any incidents related to the failure of those third-party security measures. Our ability to monitor our third-party service providers' data security is limited, and in any event, attackers may be able to circumvent our third-party service providers' data security measures. There have been and may continue to be significant attacks on certain third-party providers, and we cannot guarantee that our or our third-party providers' systems and networks have not been breached or otherwise compromised, or that they do not contain exploitable defects or bugs that could result in a breach of or disruption to our systems and networks or the systems and networks of third parties that support us and our platform. We may also suffer breaches of, or incidents impacting, our internal systems. Security breaches or incidents impacting our platform or our internal systems could also result in significant costs incurred in order to remediate or otherwise respond to a breach or incident, which may include liability for stolen assets or information and repair of system damage that may have been caused, incentives offered to customers or other business partners in an effort to maintain business relationships after a breach, and other costs, expenses and liabilities. We may be required to or find it appropriate to 26 expend substantial capital and other resources to alleviate problems caused by any actual or perceived security breaches or incidents. Additionally, many jurisdictions have enacted or may enact laws and regulations requiring companies to notify individuals of data security breaches involving certain types of personal data. These or other disclosures regarding a security breach or incident could result in negative publicity to us, which may cause our customers to lose confidence in the effectiveness of our data security measures which could impact our operating results. Despite our investments into measures designed to minimize the risk of security breaches, we may experience security incidents or breaches in the future due to elevated cyber threats. If a high profile security breach or incident occurs with respect to us, another Software as a Service (SaaS) provider or other technology company, our current and potential customers may lose trust in the security of our solution or in the SaaS business model generally, which could adversely impact our ability to retain existing customers or attract new ones. Such a breach or incident, or series of breaches or incidents, could also result in regulatory or contractual security requirements that could make compliance challenging. Even in the absence of any security breach or incident, customer concerns about privacy, security, or data protection may deter them from using our platform for activities that involve personal or other sensitive information. Because the techniques used to obtain unauthorized access or to sabotage systems change frequently, and often are not identified until they are launched against a target, we may be unable to anticipate these techniques or to implement adequate preventative measures. We may also experience security breaches and incidents that may remain undetected for an extended period of time. Periodically, we experience cyber security events including “phishing” attacks targeting our employees, web application and infrastructure attacks and other information technology incidents that are typical for a SaaS company of our size. These threats continue to evolve in sophistication and volume and are difficult to detect and predict due to advances in electronic warfare techniques, new discoveries in the field of cryptography and new and sophisticated methods used by criminals including phishing, social engineering or other illicit acts. There can be no assurance that our defensive measures will prevent cyberattacks or other security breaches or incidents, and any such attacks, breaches or incidents could damage our brand and reputation and negatively impact our business. Because data security is a critical competitive factor in our industry, we make numerous statements in our privacy policy and customer agreements, through our certifications to standards and in our marketing materials, providing assurances about the security of our platform including detailed descriptions of security measures we employ. Should any of these statements be untrue, be perceived to be untrue, or become untrue, even through circumstances beyond our reasonable control, we may face claims of misrepresentation or deceptiveness by the U.S. Federal Trade Commission, state and foreign regulators and private litigants. Our insurance policies covering certain security and privacy damages and claim expenses may not be sufficient to compensate for all potential liability. Although we maintain cyber liability insurance, we cannot be certain that our coverage will be adequate for liabilities actually incurred, or that insurance will continue to be available to us on economically reasonable terms, or at all. In addition, like many similarly situated technology companies, we have a sizable number of research and development and other personnel located outside the United States, including in India and China, which has exposed and could continue to expose us to governmental and regulatory, as well as market and media scrutiny, regarding the actual or perceived integrity of our platform or data security and privacy features. Any actual or perceived security compromise could reduce customer confidence in the effectiveness of our security measures, negatively affect our ability to attract new customers, and cause existing customers to reduce the use or stop using our solution, any of which could harm our business and reputation. Privacy and security concerns, laws, and regulations, may reduce the effectiveness of our solution and adversely affect our business. Governments and agencies worldwide have adopted or may adopt laws and regulations regarding the collection, use, storage, data residency, security, disclosure, transfer across borders and other processing of information obtained from individuals within jurisdictions. These laws and regulations increase the costs and burdens of compliance, including the ability to transfer information from, or a requirement to store in, particular jurisdictions and coul • impact our ability to offer our products and services in certain jurisdictions, • decrease demand for or require us to modify or restrict our product or services, or • impact our customers’ ability and willingness to use, adopt and deploy our solution globally. 27 Compliance burdens or our inability to comply with such laws, regulations, and other obligations, could lead to reduced overall demand and impair our ability to maintain and grow our customer base and increase our revenue. We may be unable to make changes that are necessary or appropriate to address changes in laws, regulations, or other obligations in a commercially reasonable manner, in a timely fashion, or at all. Additionally, laws and regulations relating to the processing of information can vary significantly based on the jurisdiction. Some regions and countries have or are enacting strict laws and regulations, including the European Union (EU), China (PIPL), Australia, and India, as well as states within the United States, such as California, that may create conflicts, obligations or inconsistent compliance requirements. Despite our efforts to comply with these varying requirements, a regulator or supervisory authority may determine that we have not done so and subject us to fines, potentially costly remediation requirements, and public censure, which could harm our business. For example, the European Union’s General Data Protection Regulation (GDPR) mandates requirements for processing personal data and imposes penalties of up to the greater of €20 million or 4% of worldwide revenue for non-compliance. In June 2021, the European Commission issued replacement standard contractual clauses (2021 SCCs) to govern the transfer of personal data to a country that has not been deemed adequate, such as the United States, that created additional requirements that potentially increase liability for data processors such as us. In addition, in the United States, we may be subject to both federal and state laws. Certain U.S. state laws may be more stringent or broader in scope, or offer greater individual rights, with respect to the protection of personal information than federal, international, or other state laws, and such laws may differ from each other, all of which may complicate compliance efforts. For example, California continues to be a critical state with respect to evolving consumer privacy laws after enacting the California Consumer Privacy Act (CCPA), later amended by the California Privacy Rights Act (the CPRA). The CPRA took effect in January 2023 and enforcement will begin on July 1, 2023. Failure to comply with the CCPA and the CPRA may result in significant civil penalties, injunctive relief, or statutory or actual damages as determined by the CPPA and California Attorney General through its investigative authority. We also are bound by standards, contracts and other obligations relating to processing personal information that are more stringent than applicable laws and regulations. The costs of compliance with, and other burdens imposed by, these laws, regulations, and other obligations are significant. In addition, some companies, particularly larger or global enterprises, often will not contract with vendors that do not meet these rigorous obligations and often seek contract terms to ensure we are financially liable for any breach of these obligations. Accordingly, our or our vendors' failure, or perceived inability, to comply with these obligations may limit the demand, use and adoption of our solution, lead to regulatory investigations, breach of contract claims, litigation, damage our reputation and brand and lead to significant fines, penalties, or liabilities or slow the pace at which we close sales transactions, any of which could harm our business. In addition, there is no assurance that our privacy and security-related safeguards, including measures we may take to mitigate the risks of using third parties, will protect us from the risks associated with the third-party processing, storage, and transmission of such information. Privacy advocacy groups, the technology industry, and other industries have established or may establish various new, additional, or different self-regulatory standards that may place additional burdens on us. Our customers may require us or we may find it advisable to meet voluntary certifications or adhere to other standards established by them or third parties. Our customers may also expect us to take proactive stances or contractually require us to take certain actions should a request for personal information belonging to customers be received from a government or regulatory agency. If we are unable to maintain such certifications, comply with such standards, or meet such customer requests, it could reduce demand for our solution and adversely affect our business. Future laws, regulations, standards, and other obligations, actions by governments or other agencies, and changes in the interpretation or inconsistent interpretation of existing laws, regulations, standards, and other obligations could result in increased regulation, increased costs of compliance and penalties for non-compliance, costly changes to Zuora's products or their functionality, and limitations on processing personal information. Any failure or perceived failure by us (or the third parties with whom we have contracted to process such information) to comply with applicable privacy and security laws, policies or related contractual obligations, or any compromise of security that results in unauthorized access, use, or transmission of, personal user information, could result in a variety of claims against us, including litigation, governmental enforcement actions, investigations, and proceedings by data protection authorities, as well as fines, sanctions, loss of export privileges, damage to our reputation, or loss of customer confidence, any of which may have a material adverse effect on our business, operating results, and financial condition. Failure to protect our intellectual property could adversely affect our business. Our success depends in large part on our proprietary technology. We rely on various intellectual property (IP) rights, including patents, copyrights, trademarks, and trade secrets, as well as confidentiality provisions and 28 contractual arrangements, to protect our proprietary rights. If we do not protect and enforce our intellectual property rights successfully, our competitive position may suffer, which could adversely impact our operating results. Our pending patent or trademark applications may not be allowed, or competitors may challenge the validity, enforceability or scope of our patents, copyrights, trademarks or the trade secret status of our proprietary information. There can be no assurance that additional patents will be issued or that any patents that are issued will provide significant protection for our intellectual property. There is also no assurance that we will be able to register trademarks that are critical to our business. In addition, our patents, copyrights, trademarks, trade secrets, and other intellectual property rights may not provide us a significant competitive advantage. There is no assurance that the particular forms of intellectual property protection that we seek, including business decisions about when to file patents and when to maintain trade secrets, will be adequate to protect our business. Moreover U.S. patent law, developing jurisprudence regarding U.S. patent law, and possible future changes to U.S. or foreign patent laws and regulations may affect our ability to protect and enforce our intellectual property rights. In addition, the laws of some countries do not provide the same level of protection of our intellectual property as do the laws of the United States. As we expand our international activities, our exposure to unauthorized copying and use of our solution and proprietary information will likely increase. Despite our precautions, our intellectual property is vulnerable to unauthorized access through employee error or actions, theft, and cybersecurity incidents, and other security breaches. It may be possible for third parties to infringe upon or misappropriate our intellectual property, to copy our solution, and to use information that we regard as proprietary to create products and services that compete with ours. Effective intellectual property protection may not be available to us in every country in which our solution is available. For example, some foreign countries have compulsory licensing laws under which a patent owner must grant licenses to third parties. In addition, many countries limit the enforceability of patents against certain third parties, including government agencies or government contractors. In these countries, patents may provide limited or no benefit. We may need to expend additional resources to defend our intellectual property rights domestically or internationally, which could impair our business or adversely affect our domestic or international expansion. Moreover, we may not pursue or file patent applications or apply for registration of copyrights or trademarks in the United States and foreign jurisdictions in which we operate with respect to our potentially patentable inventions, works of authorship, marks and logos for a variety of reasons, including the cost of procuring such rights and the uncertainty involved in obtaining adequate protection from such applications and registrations. If we cannot adequately protect and defend our intellectual property, we may not remain competitive, and our business, operating results, and financial condition may be adversely affected. We enter into confidentiality and invention assignment agreements with our employees and consultants and enter into confidentiality agreements with other parties. We cannot assure you that these agreements will be effective in controlling access to, use of, and distribution of our proprietary information or in effectively securing exclusive ownership of intellectual property developed by our current or former employees and consultants. Further, these agreements may not prevent other parties from independently developing technologies that are substantially equivalent or superior to our solution. We may need to spend significant resources securing and monitoring our intellectual property rights, and we may or may not be able to detect infringement by third parties. Our competitive position may be harmed if we cannot detect infringement and enforce our intellectual property rights quickly or at all. In some circumstances, we may choose to not pursue enforcement because an infringer has a dominant intellectual property position or for other business reasons. In addition, competitors might avoid infringement by designing around our intellectual property rights or by developing non-infringing competing technologies. Litigation may be necessary in the future to enforce our intellectual property rights and to protect our trade secrets. Litigation brought to protect and enforce our intellectual property rights could be costly, time-consuming, and distracting to management, and could result in the impairment or loss of portions of our intellectual property. Further, our efforts to enforce our intellectual property rights may be met with defenses, counterclaims attacking the scope, validity, and enforceability of our intellectual property rights, or with counterclaims and countersuits asserting infringement by our products and services of third-party intellectual property rights. Our failure to secure, protect, and enforce our intellectual property rights could seriously adversely affect our brand and our business. Additionally, the United States Patent and Trademark Office and various foreign governmental patent agencies require compliance with a number of procedural, documentary, fee payment, and other similar provisions in order to complete the patent or trademark application process and to maintain issued patents or trademarks. There are situations in which noncompliance or non-payment can result in abandonment or lapse of the patent or trademark or 29 associated application, resulting in partial or complete loss of patent or trademark rights in the relevant jurisdiction. If this occurs, it could have a material adverse effect on our business operations and financial condition. Errors, defects, or disruptions in our solution could diminish demand, harm our financial results, and subject us to liability. Our customers use our products for important aspects of their businesses, and any errors, defects, or disruptions to our solution, or other performance problems with our solution could harm our brand and reputation and may damage our customers’ businesses. We are also reliant on third-party software and infrastructure, including the infrastructure of the Internet, to provide our products and services. Any failure of or disruption to this software and infrastructure could also make our solution unavailable to our customers. Our solution is constantly changing with new software releases, which may contain undetected errors when first introduced or released. Any errors, defects, disruptions in service, or other performance problems with our solution could result in negative publicity, loss of or delay in market acceptance of our products, loss of competitive position, delay of payment to us, lower renewal rates, or claims by customers for losses sustained by them. In such an event, we may be required, or may choose, for customer relations or other reasons, to expend additional resources in order to help correct the problem. Accordingly, any errors, defects, or disruptions to our solution could adversely impact our brand and reputation, revenue, and operating results. In addition, because our products and services are designed to interoperate with a variety of internal and third-party systems and infrastructures, we need to continuously modify and enhance our products and services to keep pace with changes in software technologies. We may not be successful in either developing these modifications and enhancements or resolving interoperability issues in a timely and cost-effective manner. Any failure of our products and services to continue to operate effectively with internal or third-party infrastructures and technologies could reduce the demand for our products and services, resulting in dissatisfaction of our customers, and may materially and adversely affect our business. Any disruption of service at our cloud providers, including Amazon Web Services and Microsoft's Azure cloud service, could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. We currently host our solution, serve our customers, and support our operations using Amazon Web Services (AWS), a provider of cloud infrastructure services, and have begun enabling new features and capabilities for our solution using Microsoft's Azure cloud service. We also leverage AWS in various geographic regions for our disaster recovery plans. We do not have control over the operations of the facilities of AWS or Azure. These facilities are vulnerable to damage or interruption from earthquakes, hurricanes, floods, fires, cyber security attacks, terrorist attacks, power losses, telecommunications failures, and similar events, including events due to the effects of climate change. The occurrence of a natural disaster or an act of terrorism, a decision to close the facilities without adequate notice, or other unanticipated problems could result in lengthy interruptions in our solution. In addition, breaks in the supply chain due to transportation issues or other factors could potentially disrupt the delivery of hardware needed to maintain these third-party systems or to run our business. The facilities also could be subject to break-ins, computer viruses, sabotage, intentional acts of vandalism, and other misconduct. Our solution’s continuing and uninterrupted performance is critical to our success. Because our products and services are used by our customers for billing and financial accounting purposes, it is critical that our solution be accessible without interruption or degradation of performance, and we typically provide our customers with service level commitments with respect to service uptime. Customers may become dissatisfied by any system failure that interrupts our ability to provide our solution to them. Outages could lead to the triggering of our service level agreements and the issuance of credits to our customers, in which case, we may not be fully indemnified for such losses by AWS or Azure. We may not be able to easily switch our public cloud providers, including AWS and Azure, to another cloud provider if there are disruptions or interference with our use of either facility. Sustained or repeated system failures would reduce the attractiveness of our solution to customers and result in contract terminations, thereby reducing revenue. Moreover, negative publicity arising from these types of disruptions could damage our reputation and may adversely impact use of our solution. We may not carry sufficient business interruption insurance to compensate us for losses that may occur as a result of any events that cause interruptions in our service. While our agreement with AWS expires in September 2024, AWS and our other cloud providers do not have an obligation to renew their agreements with us on commercially reasonable terms, or at all. If we are unable to renew 30 our agreements with these providers on commercially reasonable terms, if our agreements with our providers are prematurely terminated, or if in the future we add additional public cloud providers, we may experience additional costs or service downtime in connection with the transfer to, or the addition of, new public cloud providers. If these providers were to increase the cost of their services, we may have to increase the price of our solution, and our operating results may be adversely impacted. We are vulnerable to intellectual property infringement claims brought against us by others. There has been considerable activity in our industry to develop and enforce intellectual property rights. Successful intellectual property infringement claims against us or certain third parties, such as our customers, resellers, or strategic partners, could result in monetary liability or a material disruption in the conduct of our business. We cannot be certain that our products and services, content, and brand names do not or will not infringe valid patents, trademarks, copyrights, or other intellectual property rights held by third parties. We may be subject to legal proceedings and claims from time to time relating to the intellectual property of others in the ordinary course of our business. Any intellectual property litigation to which we might become a party, or for which we are required to provide indemnification, may require us to cease selling or using solutions that incorporate the intellectual property that we allegedly infringe, make substantial payments for legal fees, settlement payments, licensing costs, or other costs or damages, and obtaining a license, may not be available on reasonable terms or at all, thereby hindering our ability to sell or use the relevant technology, or require redesign of the allegedly infringing solutions to avoid infringement, which could be costly, time-consuming, or impossible. Any claims or litigation, regardless of merit, could cause us to incur significant expenses and, if successfully asserted against us, could require that we pay substantial damages or ongoing royalty payments, prevent us from offering our products and services, or require that we comply with other unfavorable terms. We do not have a significant patent portfolio, which could prevent us from deterring patent infringement claims through our own patent portfolio, and our competitors and others may now and in the future have significantly larger and more mature patent portfolios than we have. We may also be obligated to indemnify our customers or strategic partners in connection with such infringement claims, or to obtain licenses from third parties or modify our solution, and each such obligation could further exhaust our resources. Some of our intellectual property infringement indemnification obligations are contractually capped at a very high amount or not capped at all. Even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the time and attention of our management and other employees, and adversely affect our business and operating results. We expect that the occurrence of infringement claims is likely to grow as the market for subscription management products and services grows. Accordingly, our exposure to damages resulting from infringement claims could increase and this could further exhaust our financial and management resources. Our solution contains open source software components, and failure to comply with the terms of the underlying licenses could restrict our ability to sell our solution. Our solution incorporates certain open source software. An open source license typically permits the use, modification, and distribution of software in source code form subject to certain conditions. Some open source licenses contain conditions that any person who distributes or uses a modification or derivative work of software that was subject to an open source license make the modified version subject to the same open source license. Distributing or using software that is subject to this kind of open source license can lead to a requirement that certain aspects of our solution be distributed or made available in source code form. Although we do not believe that we have used open source software in a manner that might condition its use on our distribution of any portion of our solution in source code form, the interpretation of open source licenses is legally complex and, despite our efforts, it is possible that we may be liable for copyright infringement, breach of contract, or other claims if our use of open source software is adjudged to not comply with the applicable open source licenses. Moreover, we cannot assure you that our processes for controlling our use of open source software in our solution will be effective. If we have not complied with the terms of an applicable open source software license, we may need to seek licenses from third parties to continue offering our solution on terms that are not economically feasible, to re-engineer our solution to remove or replace the open source software, to discontinue the sale of our solution if re-engineering could not be accomplished on a timely basis, to pay monetary damages, or to make available the source code for aspects of our proprietary technology, any of which could adversely affect our business, operating results, and financial condition. 31 In addition to risks related to license requirements, use of open source software can involve greater risks than those associated with use of third-party commercial software, as open source licensors generally do not provide warranties, assurances of title, performance, non-infringement, or controls on the origin of the software. There is typically no support available for open source software, and we cannot assure you that the authors of such open source software will not abandon further development and maintenance. Open source software may contain security vulnerabilities, and we may be subject to additional security risk by using open source software. Many of the risks associated with the use of open source software, such as the lack of warranties or assurances of title or performance, cannot be eliminated, and could, if not properly addressed, negatively affect our business. We have established processes to help alleviate these risks, including a review process for screening requests from our development organizations for the use of open source software, but we cannot be sure that all open source software is identified or submitted for approval prior to use in our solution. Risks Related to Legal, Regulatory, Accounting, and Tax Matters Adverse litigation judgments or settlements could expose us to significant monetary damages or limit our ability to operate our business. From time to time, we face litigation or claims arising in or outside the ordinary course of business, which may include class actions, derivative actions, private actions, collective actions, investigations, and various other legal proceedings by stockholders, customers, employees, suppliers, competitors, government agencies, or others. The results of any such litigation, investigations, and other legal proceedings are inherently unpredictable and expensive. Any claims against us, whether meritorious or not, could be time consuming, result in costly litigation, damage our reputation, require significant amounts of management time, and divert significant resources. If legal proceedings were to be determined adversely to us, or we were to enter into a settlement arrangement, we could be exposed to significant monetary damages or limits on our ability to operate our business, which could have a material adverse effect on our business, financial condition, and operating results. For example, in March 2023, Zuora entered into an agreement to settle the consolidated securities class action litigation pending in the U.S. District Court for the Northern District of California and consolidated under the caption Roberts v. Zuora, Inc . The settlement, which is subject to court approval, provides for a payment of $75.0 million by Zuora, which we accrued in our consolidated balance sheet as of January 31, 2023. For more information, see Note 13. Commitments and Contingencies of the Notes to Consolidated Financial Statements. If we are not able to satisfy data protection, security, privacy, and other government- and industry-specific requirements, our growth could be harmed. We are subject to data protection, security, privacy, and other government- and industry-specific requirements, including those that require us to notify individuals of data security and privacy incidents involving certain types of personal data. Security and privacy compromises experienced by us or our service providers may lead to public disclosures, which could harm our reputation, erode customer confidence in the effectiveness of our security and privacy measures, negatively impact our ability to attract new customers, cause existing customers to elect not to renew their subscriptions with us, or negatively impact our employee relationships or impair our ability to attract new employees. In addition, some of the industries we serve have industry-specific requirements relating to compliance with certain security, privacy and regulatory standards, such as those required by the Health Insurance Portability and Accountability Act. We also maintain compliance with the Payment Card Industry Data Security Standard, which is critical to the financial services and insurance industries. As we expand and sell into new verticals and regions, we will likely need to comply with these and other requirements to compete effectively. If we cannot comply or if we incur a violation in one or more of these requirements, our growth could be adversely impacted, and we could incur significant liability. Because we typically recognize subscription revenue over the term of the applicable agreement, a lack of subscription renewals or new subscription agreements may not be reflected immediately in our operating results and may be difficult to discern. We generally recognize subscription revenue from customers ratably over the terms of their contracts, which typically vary between one and three years. As a result, most of the subscription revenue we report in each quarter is derived from the recognition of unearned revenue relating to subscriptions entered into during previous quarters. Consequently, a decline in new or renewed subscriptions in any particular quarter would likely have a minor impact on our revenue results for that quarter, but could negatively affect our revenue in future quarters. Accordingly, the effect of significant downturns in sales and market acceptance of our solution, and potential changes in our pricing 32 policies or rate of renewals, may not be fully reflected in our operating results until future periods. Moreover, our subscription model makes it difficult for us to rapidly increase our revenue through additional sales in any period, as revenue from new customers must be recognized over the applicable subscription term. We typically provide service level commitments under our customer contracts. If we fail to meet these contractual commitments, we could be obligated to provide credits or refunds for prepaid amounts related to unused subscription services or face contract terminations, which could adversely affect our operating results. Our customer contracts typically provide for service level commitments, which relate to service uptime, response times, and escalation procedures. If we are unable to meet the stated service level commitments or suffer extended periods of unavailability for our solution, we may be contractually obligated to provide these customers with service credits, refunds for prepaid amounts related to unused subscription services, or other remedies, or we could face contract terminations. In addition, we could face legal claims for breach of contract, product liability, tort, or breach of warranty. Although we have contractual protections, such as warranty disclaimers and limitation of liability provisions, in our customer agreements, they may not fully or effectively protect us from claims by customers, commercial relationships, or other third parties. We may not be fully indemnified by our vendors for service interruptions beyond our control, and any insurance coverage we may have may not adequately cover all claims asserted against us, or may cover only a portion of such claims. In addition, even claims that ultimately are unsuccessful could result in our expenditure of funds in litigation and divert management’s time and other resources. Thus, our revenue could be harmed if we fail to meet our service level commitments under our agreements with our customers, including, but not limited to, maintenance response times and service outages. Typically, we have not been required to provide customers with service credits that have been material to our operating results, but we cannot assure you that we will not incur material costs associated with providing service credits to our customers in the future. Additionally, any failure to meet our service level commitments could adversely impact our reputation, business, operating results, and financial condition. Our customers may fail to pay us in accordance with the terms of their agreements, necessitating action by us to compel payment. We typically enter into non-cancelable agreements with our customers with a term of one to three years. If customers fail to pay us under the terms of our agreements, we may be adversely affected both from the inability to collect amounts due and the cost of enforcing the terms of our contracts, including litigation. The risk of such negative effects increases with the term length of our customer arrangements. Furthermore, some of our customers may seek bankruptcy protection or other similar relief and fail to pay amounts due to us, or pay those amounts more slowly, either of which could adversely affect our operating results, financial position, and cash flow. Although we have processes in place that are designed to monitor and mitigate these risks, we cannot guarantee these programs will be effective. If we are unable to adequately control these risks, our business, operating results and financial condition could be harmed. Our ability to use our net operating losses to offset future taxable income may be subject to certain limitations which could subject our business to increased tax liability. Our ability to use our net operating losses (NOLs) to offset future taxable income may be subject to certain limitations which could subject our business to higher tax liability. Utilization of the net operating loss may be subject to an annual limitation due to the "ownership change" limitations provided by Section 382 and 383 of the Internal Revenue Code of 1986, as amended, and other similar state provisions. Additionally, NOLs arising in tax years beginning after December 31, 2017 are subject to a 20-year carryover limitation and may expire if unused within that period. There is also a risk that due to legislative changes, such as suspensions on the use of NOLs, or other unforeseen reasons, our existing NOLs could expire or otherwise be unavailable to offset future income tax liabilities. In addition, under the Tax Cuts and Jobs Act of 2017, as modified by the Coronavirus Aid, Relief, and Economic Security Act, the amount of NOLs that we are permitted to deduct in any taxable year is limited to 80% of our taxable income in such year, where taxable income is determined without regard to the NOL deduction itself. As such, we may not be able to realize a tax benefit from the use of our NOLs, whether or not we attain profitability. 33 We may need to raise additional capital required to grow our business, and we may not be able to raise capital on terms acceptable to us or at all. In order to support our growth and respond to business challenges, such as developing new features or enhancements to our solution to stay competitive, acquiring new technologies, and improving our infrastructure, we have made significant financial investments in our business, and we intend to continue to make such investments. As a result, to provide the funds required for these investments and other business endeavors, we may need to engage in equity or debt financings. For example, in March 2022, we issued to Silver Lake the Initial Notes and have agreed to issue to Silver Lake an additional $150.0 million in senior unsecured notes in September 2023. See Note 9. Debt of the Notes to Consolidated Financial Statements for more information about the 2029 Notes. If we raise additional funds through equity or convertible debt issuances, our existing stockholders may suffer significant dilution, and these securities could have rights, preferences, and privileges that are superior to that of holders of our common stock. If we obtain additional funds through debt financing, we may not be able to obtain such financing on terms favorable to us. Such terms may involve additional restrictive covenants making it difficult to engage in capital raising activities and pursue business opportunities, including potential acquisitions. Future volatility in the trading price of our common stock may reduce our ability to access capital on favorable terms or at all. In addition, a recession, depression or other sustained adverse market event resulting from deteriorating macroeconomic factors could materially and adversely affect our business and the value of our common stock. If we are unable to obtain adequate financing or financing on terms satisfactory to us when we require it, our ability to continue to support our business growth and to respond to business challenges could be significantly impaired and our business may be adversely affected, requiring us to delay, reduce, or eliminate some or all of our operations. Failure to comply with anti-corruption and anti-money laundering laws, including the FCPA and similar laws associated with our activities outside of the United States, could subject us to penalties and other adverse consequences. We are subject to the FCPA, the U.S. domestic bribery statute contained in 18 U.S.C. § 201, the U.S. Travel Act, the USA PATRIOT Act, the UK Bribery Act, and possibly other anti-bribery and anti-money laundering laws in countries in which we conduct activities. We face significant risks if we fail to comply with the FCPA and other anti-corruption laws that prohibit companies and their employees and third-party intermediaries from promising, authorizing, offering, or providing, directly or indirectly, improper payments or benefits to foreign government officials, political parties, and private-sector recipients for the purpose of obtaining or retaining business, directing business to any person, or securing any advantage. In many foreign countries, particularly in countries with developing economies, it may be a local custom that businesses engage in practices that are prohibited by the FCPA or other applicable laws and regulations. In addition, we use various third parties to sell our solution and conduct our business abroad. We or our third-party intermediaries may have direct or indirect interactions with officials and employees of government agencies or state-owned or affiliated entities and we can be held liable for the corrupt or other illegal activities of these third-party intermediaries, our employees, representatives, contractors, partners, and agents, even if we do not explicitly authorize such activities. We have implemented an anti-corruption compliance program but cannot assure you that all of our employees and agents, as well as those companies to which we outsource certain of our business operations, will not take actions in violation of our policies and applicable law, for which we may be ultimately held responsible. Any violation of the FCPA, other applicable anti-corruption laws, and anti-money laundering laws could result in whistleblower complaints, adverse media coverage, investigations, loss of export privileges, or severe criminal or civil sanctions, which could have a materially adverse effect on our reputation, business, operating results, and prospects. In addition, responding to any enforcement action may result in a significant diversion of management’s attention and resources, significant defense costs, and other professional fees. We are required to comply with governmental export control laws and regulations. Our failure to comply with these laws and regulations could have an adverse effect on our business and operating results. Our solution is subject to governmental, including United States and European Union, export control laws and import regulations, and as a U.S. company we are covered by the U.S. sanctions regulations. U.S. export control and economic sanctions laws and regulations prohibit the shipment of certain products and services to U.S. embargoed or sanctioned countries, governments, entities and persons, and complying with export control and sanctions regulations for a particular sale may be time-consuming and may result in the delay or loss of sales opportunities. While we take precautions to prevent our solution from being exported in violation of these laws or 34 engaging in any other activities that are subject to these regulations, if we were to fail to comply with U.S. export laws, U.S. Customs regulations and import regulations, U.S. economic sanctions, and other countries’ import and export laws, we could be subject to substantial civil and criminal penalties, including fines for our company, incarceration for responsible employees, reputational harm, and/or the possible loss of export or import privileges which could impact our ability to provide our solution to customers. We incorporate encryption technology into certain of our products and certain encryption products may be exported outside of the United States only by a license or a license exception. In addition, various countries regulate the import of certain encryption technology, including import permitting and licensing requirements, and have enacted laws that could limit our ability to distribute our products or could limit our customers’ ability to deploy our products in those countries. Although we take precautions to prevent our products from being provided in violation of such laws, we cannot assure you that inadvertent violations of such laws have not occurred or will not occur in connection with the distribution of our products despite the precautions we take. Governmental regulation of encryption technology and regulation of imports or exports, or our failure to obtain required import or export approval for our products, could harm our international sales and adversely affect our operating results. Further, if our partners, including suppliers, fail to obtain required import, export, or re-export licenses or permits, we may also be impacted by becoming the subject of government investigations or penalties and therefore incur reputational harm. Changes in our solution or changes in export and import regulations may create delays in the introduction of our solution in international markets, prevent our customers with international operations from deploying our solution globally or, in some cases, prevent the export or import of our solution to certain countries, governments, or persons altogether. Any change in export or import laws or regulations, economic sanctions, or related legislation, shift in the enforcement or scope of existing laws and regulations, or change in the countries, governments, persons, or technologies targeted by such laws and regulations, could result in decreased use of our solution by, or in our decreased ability to export or sell our solution to, existing or potential customers such as customers with international operations or customers who are added to the restricted entities list published by the U.S. Office of Foreign Assets Control (OFAC). Any decreased use of our solution or limitation on our ability to export or sell our solution would likely harm our business, financial condition, and operating results. The applicability of sales, use and other tax laws or regulations in the U.S. and internationally on our business is uncertain. Adverse tax laws or regulations could be enacted or existing laws could be applied to us or our customers, which could subject us to additional tax liability and related interest and penalties, increase the costs of our services and adversely impact our business. The application of federal, state, local, and non-U.S. tax laws to services provided electronically is evolving. New income, sales, use, value-added, or other direct or indirect tax laws, statutes, rules, regulations, or ordinances could be enacted at any time (possibly with retroactive effect), and could be applied solely or disproportionately to services provided over the Internet or could otherwise materially affect our financial position and results of operations. Many countries in the European Union, as well as a number of other countries and organizations such as the Organization for Economic Cooperation and Development, have proposed or recommended changes to existing tax laws or have enacted new laws that could impact our tax obligations. As we expand the scale of our international business activities, any changes in the U.S. or foreign taxation of such activities may increase our worldwide effective tax rate and harm our business, results of operations, and financial condition. In addition, state, local, and foreign tax jurisdictions have differing rules and regulations governing sales, use, value-added, and other taxes, and these rules and regulations can be complex and are subject to varying interpretations that may change over time. Existing tax laws, statutes, rules, regulations, or ordinances could be interpreted, changed, modified, or applied adversely to us (possibly with retroactive effect), which could require us or our customers to pay additional tax amounts on prior sales and going forward, as well as require us or our customers to pay fines or penalties and interest for past amounts. Although our customer contracts typically provide that our customers must pay all applicable sales and similar taxes, our customers may be reluctant to pay back taxes and associated interest or penalties, or we may determine that it would not be commercially feasible to seek reimbursement. If we are required to collect and pay back taxes and associated interest and penalties, or we are unsuccessful in collecting such amounts from our customers, we could incur potentially substantial unplanned expenses, thereby adversely impacting our operating results and cash flows. Imposition of such taxes on our services going forward could also adversely affect our sales activity and have a negative impact on our operating results and cash flows. 35 Our reported financial results may be adversely affected by changes in accounting principles generally accepted in the United States. Generally Accepted Accounting Principles (GAAP) is subject to interpretation by the Financial Accounting Standards Board (FASB), the SEC, and various bodies formed to promulgate and interpret appropriate accounting principles. A change in these principles or interpretations could have a significant effect on our reported financial results, and could affect the reporting of transactions completed before the announcement of a change. Any difficulties in implementing these pronouncements, including those described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements of the Notes to Consolidated Financial Statements , could cause us to fail to meet our financial reporting obligations, which could result in regulatory discipline and harm investors' confidence in us. Risks Related to Ownership of Our Class A Common Stock The stock price of our Class A common stock has been and may continue to be volatile, and you could lose all or part of your investment. The market price of our Class A common stock since our initial public offering in 2018 has been and may continue to be volatile. In addition to factors discussed in this Form 10-K, the market price of our Class A common stock may fluctuate significantly in response to numerous factors, many of which are beyond our control, includin • overall performance of the equity markets; • actual or anticipated fluctuations in our revenue and other operating results; • changes in the financial projections we may provide to the public or our failure to meet these projections; • failure of securities analysts to initiate or maintain coverage of us, changes in financial estimates by any securities analysts who follow our company, or our failure to meet these estimates or the expectations of investors; • recruitment or departure of key personnel; • the economy as a whole and market conditions in our industry; • negative publicity related to the real or perceived quality of our solution, as well as the failure to timely launch new products and services that gain market acceptance; • growth of the Subscription Economy; • rumors and market speculation involving us or other companies in our industry; • announcements by us or our competitors of new products, commercial relationships, or significant technical innovations; • acquisitions, strategic partnerships, joint ventures, or capital commitments; • new laws or regulations or new interpretations of existing laws or regulations applicable to our business; • lawsuits threatened or filed against us, litigation involving our industry, or both; • developments or disputes concerning our or other parties’ products, services, or intellectual property rights; • the inclusion of our Class A common stock on stock market indexes, including the impact of rules adopted by certain index providers, such as S&P Dow Jones Indices and FTSE Russell, that limit or preclude inclusion of companies with multi-class capital structures; • changes in accounting standards, policies, guidelines, interpretations, or principles; • other events or factors, including those resulting from war, incidents of terrorism, or responses to these events, including the ongoing conflict in Ukraine; • the impact of pandemics, such as those experienced during the COVID-19 pandemic, on the global macroeconomy, our operating results and enterprise technology spending; • sales of shares of our Class A common stock by us or our stockholders; 36 • inflation; • fluctuations in interest rates; and • instability of the U.S. or international banking system. In addition, the stock markets have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many companies, particularly during the current period of macroeconomic uncertainty, including rising inflation, increasing interest rates and fluctuations in international currency rates, as well as the impacts of the current conflict in Ukraine. Stock prices of many companies, and technology companies in particular, have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. These economic, political, regulatory and market conditions have and may continue to negatively impact the market price of our common stock. Volatility in our stock price also affects the value of our equity compensation, which affects our ability to recruit and retain employees. If we fail to meet expectations related to future growth, profitability, or other market expectations, our stock price may decline further, which could have a material adverse effect on investor confidence and employee retention. In addition, some companies that have experienced volatility in the market price of their securities have been subject to shareholder litigation. We have been and are currently subject to shareholder litigation, which is described in Note 13. Commitments and Contingencies of the Notes to Consolidated Financial Statements . This or any future shareholder litigation could subject us to substantial costs, divert resources and the attention of management from our business, and adversely affect our business. The market price of our Class A common stock could decline as a result of a substantial number of shares of our Class A common stock being issued or sold, which may make it more difficult for you to sell your Class A common stock at a time and price that you deem appropriate. As of February 28, 2023, a total of 127.4 million shares of Class A common stock and 8.1 million shares of Class B common stock were outstanding. Issuances of a substantial number of shares of our Class A common stock, including as a result of the exercise or conversion into Class A common stock of outstanding convertible notes, warrants, equity awards, shares of Class B common stock or other securities, could result in significant dilution to our existing stockholders and cause the market price of our Class A common stock to decline. From time to time, we may issue shares of common stock or securities convertible into shares of common stock in connection with a financing, an acquisition, investments, or otherwise. For example, as described in Note 9. Debt of the Notes to Consolidated Financial Statements, on March 24, 2022 (Initial Closing Date), we issued to Silver Lake convertible notes in the aggregate principal amount of $250.0 million as well as warrants to purchase up to 7.5 million shares of Class A common stock, and we have agreed to issue additional convertible notes in the aggregate principal amount of $150.0 million to Silver Lake 18 months after the Initial Closing Date (or sooner under certain conditions). In addition, under certain circumstances, the number of shares issuable upon conversion of the convertible notes or exercise of the Warrants may be subject to increase, as described in Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock of the Notes to Consolidated Financial Statements . The conversion of these convertible notes or exercise of these Warrants could result in a substantial number of shares of our Class A common stock being issued. Silver Lake is generally restricted from converting the convertible notes or exercising the Warrants, or transferring them, during the 18 month period following the Initial Closing Date, except in certain circumstances. In addition, we grant equity awards to employees, directors, and consultants under our 2018 Equity Incentive Plan on an ongoing basis and our employees have the right to purchase shares of our Class A common stock semi-annually under our 2018 Employee Stock Purchase Plan. As of January 31, 2023, there were a total of 23.2 million shares of Class A common stock subject to outstanding options and restricted stock units (RSUs), including performance stock units (PSUs). Subject to vesting and other applicable requirements, the shares issued upon the exercise of such options or settlement of such RSUs will be available for resale in the open market. Moreover, the market price of our Class A common stock could decline as a result of sales of a large number of shares of our Class A common stock in the market, particularly sales by our directors, executive officers and significant stockholders. The perception that these sales might occur may also cause the market price of our Class A common stock to decline. We also have granted and may grant from time to time certain registration rights that, subject to certain conditions, require us to file registration statements for the public resale of certain securities or to include such securities in registration statements that we may file on behalf of our company or other stockholders. 37 If securities or industry analysts do not publish research, or publish inaccurate or unfavorable research, about our business, the price of our Class A common stock and trading volume could decline. The trading market for our Class A common stock depends in part on the research and reports that securities or industry analysts publish about us or our business. If few securities analysts commence coverage of us, or if industry analysts cease coverage of us, the trading price for our Class A common stock could be negatively affected. If one or more of the analysts who cover us downgrade our Class A common stock or publish inaccurate or unfavorable research about our business, the price of our Class A common stock would likely decline. If one or more of these analysts cease coverage of us or fail to publish reports on us regularly, demand for our Class A common stock could decrease, which might cause our Class A common stock price and trading volume to decline. Even if our stock is actively covered by analysts, we do not have any control over the analysts or the measures that analysts or investors may rely upon to forecast our future results. For example, in order to assess our business activity in a given period, analysts and investors may look at the combination of revenue and changes in deferred revenue in a given period (sometimes referred to as “billings”). Over-reliance on billings or similar measures may result in analyst or investor forecasts that differ significantly from our own for a variety of reasons, includin • a relatively large number of transactions occur at the end of the quarter. Invoicing of those transactions may or may not occur before the end of the quarter based on a number of factors including receipt of information from the customer, volume of transactions, and holidays. A shift of a few days has little economic impact on our business, but will shift deferred revenue from one period into the next; • a shift in billing frequency (i.e., from monthly to quarterly or from quarterly to annually), which may distort trends; • subscriptions that have deferred start dates; and • services that are invoiced upon delivery. In addition, the revenue recognition disclosure obligations under Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers (Topic 606) are prepared on the basis of estimates that can change over time and on the basis of events over which we have no control. It is possible that analysts and investors may misinterpret our disclosure or that our methods for estimating this disclosure may differ significantly from others, which could lead to inaccurate or unfavorable forecasts by analysts and investors. The dual class structure of our common stock has the effect of concentrating voting control with holders of our Class B common stock, including our CEO, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. Our common stock consists of two classes, including our Class B common stock, which has ten votes per share, and our Class A common stock, which has one vote per share. As of January 31, 2023, our Class B common stock holds approximately 38% of the total voting power of our common stock, with our CEO and his affiliates holding substantially all of our Class B common stock. As a result, the holders of our Class B common stock, including our CEO, could substantially influence all matters submitted to our stockholders for approval until the earlier of (i) the date specified by a vote of the holders of 66 2/3% of the outstanding shares of Class B common stock, (ii) April 16, 2028, and (iii) the date the shares of Class B common stock cease to represent at least 5% of all outstanding shares of our common stock (such date referred to as the "Class B expiration"). Until the Class B expiration, the concentrated influence held by our Class B common stock limits or precludes your ability to influence corporate matters, including the election of directors, amendments of our organizational documents, and any merger, consolidation, sale of all or substantially all of our assets, or other major corporate transaction requiring stockholder approval. In addition, this may prevent or discourage unsolicited acquisition proposals or offers for our capital stock that you may feel are in your best interest as one of our stockholders. Future transfers by holders of Class B common stock will generally result in those shares converting to Class A common stock, subject to limited exceptions, such as certain permitted transfers effected for estate planning purposes. The conversion of Class B common stock to Class A common stock will have the effect, over time, of increasing the relative voting power of those holders of Class B common stock who retain their shares in the long term. 38 The dual class structure of our common stock may adversely affect the trading market for our Class A common stock. Stock index providers, such as S&P Dow Jones and FTSE Russell, exclude or limit the eligibility of public companies with multiple classes of shares of common stock for certain indices, including the S&P 500. In addition, several shareholder advisory firms have announced their opposition to the use of multiple class structures. As a result, the dual class structure of our common stock may prevent the inclusion of our Class A common stock in such indices and may cause shareholder advisory firms to publish negative commentary about our corporate governance practices or otherwise seek to cause us to change our capital structure. Any such exclusion from indices could result in a less active trading market for our Class A common stock. Any actions or publications by shareholder advisory firms critical of our corporate governance practices or capital structure could also adversely affect the value of our Class A common stock. We do not intend to pay dividends for the foreseeable future. We have never declared or paid any cash dividends on our common stock and do not intend to pay any cash dividends in the foreseeable future. Additionally, our ability to pay dividends on our common stock is limited by restrictions under the terms of our credit facility with SVB. We anticipate that for the foreseeable future we will retain all of our future earnings for use in the development of our business and for general corporate purposes. Any determination to pay dividends in the future will be at the discretion of our Board of Directors. Accordingly, investors must rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize any future gains on their investments. Provisions in our charter documents and under Delaware law could make an acquisition of our company more difficult, limit attempts by our stockholders to replace or remove our current management, limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees, and limit the market price of our Class A common stock. Provisions in our restated certificate of incorporation and amended and restated bylaws may have the effect of delaying or preventing a change of control or changes in our management. Our restated certificate of incorporation and amended and restated bylaws include provisions tha • provide that our Board of Directors will be classified into three classes of directors with staggered three-year terms; • permit the Board of Directors to establish the number of directors and fill any vacancies and newly-created directorships; • require supermajority voting to amend some provisions in our restated certificate of incorporation and amended and restated bylaws; • authorize the issuance of “blank check” preferred stock that our Board of Directors could use to implement a stockholder rights plan; • provide that only the chairman of our Board of Directors, our chief executive officer, lead independent director, or a majority of our Board of Directors will be authorized to call a special meeting of stockholders; • provide for a dual class common stock structure in which holders of our Class B common stock may have the ability to control the outcome of matters requiring stockholder approval, even if they own significantly less than a majority of the outstanding shares of our common stock, including the election of directors and significant corporate transactions, such as a merger or other sale of our company or its assets; • prohibit stockholder action by written consent, which requires all stockholder actions to be taken at a meeting of our stockholders; • provide that the Board of Directors is expressly authorized to make, alter, or repeal our bylaws; and • establish advance notice requirements for nominations for election to our Board of Directors or for proposing matters that can be acted upon by stockholders at annual stockholder meetings. 39 In addition, our restated certificate of incorporation provides that, to the fullest extent permitted by law, the Court of Chancery of the State of Delaware is the exclusive forum any derivative action or proceeding brought on our behalf; any action asserting a breach of fiduciary duty; any action asserting a claim against us arising pursuant to the Delaware General Corporation Law, or DGCL, our restated certificate of incorporation, or our amended and restated bylaws; or any action asserting a claim against us that is governed by the internal affairs doctrine. This exclusive forum provision does not apply to suits brought to enforce a duty or liability created by the Exchange Act. It would apply, however, to a suit that falls within one or more of the categories enumerated in the exclusive forum provision. Section 22 of the Securities Act of 1933, as amended (Securities Act), creates concurrent jurisdiction for federal and state courts over all claims brought to enforce any duty or liability created by the Securities Act or the rules and regulations thereunder. In April 2020, we amended and restated our bylaws to provide that the federal district courts of the United States of America will, to the fullest extent permitted by law, be the exclusive forum for resolving any complaint asserting a cause of action arising under the Securities Act (Federal Forum Provision). Our decision to adopt a Federal Forum Provision followed a decision by the Supreme Court of the State of Delaware holding that such provisions are facially valid under Delaware law. While there can be no assurance that federal or state courts will follow the holding of the Delaware Supreme Court or determine that the Federal Forum Provision should be enforced in a particular case, application of the Federal Forum Provision means that suits brought by our stockholders to enforce any duty or liability created by the Securities Act must be brought in federal court and cannot be brought in state court. Section 27 of the Exchange Act creates exclusive federal jurisdiction over all claims brought to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder. In addition, neither the exclusive forum provision nor the Federal Forum Provision applies to suits brought to enforce any duty or liability created by the Exchange Act. Accordingly, actions by our stockholders to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder must be brought in federal court. Our stockholders will not be deemed to have waived our compliance with the federal securities laws and the regulations promulgated thereunder. Any person or entity purchasing or otherwise acquiring or holding any interest in any of our securities shall be deemed to have notice of and consented to our exclusive forum provisions, including the Federal Forum Provision. These provisions may limit a stockholders’ ability to bring a claim in a judicial forum of their choosing for disputes with us or our directors, officers, or other employees, which may discourage lawsuits against us and our directors, officers, and other employees. Moreover, Section 203 of the DGCL may discourage, delay, or prevent a change of control of our company. Section 203 imposes certain restrictions on mergers, business combinations, and other transactions between us and holders of 15% or more of our common stock. General Risk Factors Political developments, economic uncertainty or downturns could adversely affect our business and operating results. Political developments impacting government spending and international trade, including future government shutdowns in the United States, health pandemics such as the COVID-19 pandemic, armed conflict such as the conflict in Ukraine, trade disputes and tariffs, inflation, and rising interest rates, may negatively impact markets and cause weaker macroeconomic conditions. The continuing effect of any or all of these political or other uncertainties could adversely impact demand for our products, harm our operations and weaken our financial results. In addition, in recent years, the United States and other significant markets have experienced cyclical downturns and worldwide economic conditions remain uncertain. Economic uncertainty and associated macroeconomic conditions, such as a recession or rising inflation rates or economic slowdown in the United States or internationally, including due to pandemics such as the COVID-19 pandemic or the ongoing conflict in Ukraine, make it extremely difficult for our customers and us to accurately forecast and plan future business activities, and could cause our customers to slow spending on our solution, which could delay and lengthen sales cycles. Furthermore, during uncertain economic times our customers may face issues gaining timely access to sufficient credit, which could result in an impairment of their ability to make timely payments to us. If that were to occur, we may be required to increase our allowance for credit losses and our results could be negatively impacted. 40 We have customers in a variety of different industries. A significant downturn in the economic activity attributable to any particular industry may cause organizations to react by reducing their capital and operating expenditures in general or by specifically reducing their spending on information technology. In addition, our customers may delay or cancel information technology projects or seek to lower their costs by renegotiating vendor contracts. To the extent purchases of our solution are perceived by customers and potential customers to be discretionary, our revenue may be disproportionately affected by delays or reductions in general information technology spending. Also, customers may choose to develop in-house software or modify their legacy business software as an alternative to using our solution. Moreover, competitors may respond to challenging market conditions by lowering prices and attempting to lure away our customers. We cannot predict the timing, strength, or duration of any economic slowdown or any subsequent recovery generally, or any industry in particular. If the conditions in the general economy and the markets in which we operate worsen from present levels, our business, financial condition, and operating results could be materially adversely affected. Moreover, there has been recent instability of the global banking system. Continued disruptions in the banking system, both in the U.S. or abroad, may impact our or our customers’ liquidity and, as a result, negatively impact our business and operating results. The requirements of being a public company may strain our resources, divert management’s attention, and affect our ability to attract and retain additional executive management and qualified board members. As a public company, we are subject to the reporting requirements of the Exchange Act, the Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley Act), the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the listing requirements of the New York Stock Exchange, and other applicable securities rules and regulations. Compliance with these rules and regulations are costly, time-consuming, and can require significant resources. Although we have already hired additional employees and outside consultants to comply with these requirements, we may need to add additional resources, which would increase our costs and expenses. In addition, changing laws, regulations, and standards relating to corporate governance and public disclosure are creating uncertainty for public companies, increasing legal and financial compliance costs, and making some activities more time consuming. For example, expected SEC rules on climate-related disclosures may require us to update our policies, processes or systems to reflect new or amended financial reporting standards. These laws, regulations, and standards, if and when adopted, are subject to varying interpretations, in many cases due to their lack of specificity, and, as a result, their application in practice may evolve over time as market practice develops or new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. If our efforts to comply with new laws, regulations, and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to their application and practice, regulatory authorities may initiate legal proceedings against us, and our business, financial position, and operating results or our revenue and operating profit targets may be adversely affected. The rules and regulations applicable to public companies make it more expensive for us to obtain and maintain director and officer liability insurance, and we may be required to accept reduced coverage or incur substantially higher costs to obtain coverage. These factors could also make it more difficult for us to attract and retain qualified members of our Board of Directors, particularly to serve on our audit committee and compensation committee, and qualified executive officers. As a result of disclosure of information in our public company filings, our business and financial condition is more visible, which may result in threatened or actual litigation, including by competitors and other third parties. If such claims are successful, our business and operating results could be adversely affected, and even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the resources of our management and adversely affect our business and operating results. In addition, as a result of our disclosure obligations as a public company, we have reduced flexibility and are under pressure to focus on short-term results, which may adversely affect our ability to achieve long-term profitability. 41 If we fail to maintain an effective system of disclosure controls and internal control over financial reporting, our ability to produce timely and accurate financial statements or comply with applicable regulations could be impaired. As a public company, we are required, pursuant to Section 404 of the Sarbanes-Oxley Act, to furnish a report by management on, among other things, the effectiveness of our internal control over financial reporting. Effective internal control over financial reporting is necessary for us to provide reliable financial reports and, together with adequate disclosure controls and procedures, are designed to prevent fraud. Any failure to implement required new or improved controls, or difficulties encountered in their implementation, could cause us to fail to meet our reporting obligations. Ineffective internal controls could also cause investors to lose confidence in our reported financial information, which could have a negative effect on the trading price of our Class A common stock. This management report will need to include disclosure of any material weaknesses identified by our management in our internal control over financial reporting, as well as a statement that our independent registered public accounting firm has issued an opinion on our internal control over financial reporting. Section 404(b) of the Sarbanes-Oxley Act requires our independent registered public accounting firm to annually attest to the effectiveness of our internal control over financial reporting, which has required, and will continue to require, increased costs, expenses, and management resources. An independent assessment of the effectiveness of our internal controls could detect problems that our management’s assessment might not. Undetected material weaknesses in our internal controls could lead to financial statement restatements and require us to incur the expense of remediation. We are required to disclose changes made in our internal controls and procedures on a quarterly basis. To comply with the requirements of being a public company, we have undertaken, and may need to further undertake in the future, various actions, such as implementing new internal controls and procedures and hiring additional accounting or internal audit staff. If we are unable to assert that our internal control over financial reporting is effective, or if our independent registered public accounting firm is unable to express an opinion on the effectiveness of our internal control, including as a result of any identified material weakness, we could lose investor confidence in the accuracy and completeness of our financial reports, which would cause the price of our Class A common stock to decline, and we may be subject to investigation or sanctions by the SEC. In addition, if we are unable to continue to meet these requirements, we may not be able to remain listed on the New York Stock Exchange. We may be adversely affected by natural disasters, pandemics, including any significant resurgence of the COVID-19 pandemic, and other catastrophic events, and by man-made problems such as terrorism, that could disrupt our business operations. Our business continuity and disaster recovery plans may not adequately protect us from a serious disaster. Natural disasters, pandemics and epidemics, or other catastrophic events such as fire, power shortages, and other events beyond our control may cause damage or disruption to our operations, international commerce, and the global economy, and could have an adverse and material effect on our business, operating results, and financial condition. For example, as a result of the COVID-19 pandemic and its impacts on the global economy and financial markets, we experienced certain disruptions to our business operations, including delays and lengthening of our customary sales cycles, certain customers not purchasing or renewing our products or services, and requests for pricing and payment concessions by certain customers. As a result of the pandemic, we have also reduced our office footprint given that many of our employees continue to work remotely, and we incurred certain impairment charges related to office leases in the fourth quarter of fiscal 2023 as described in Note 12. Leases of the Notes to Consolidated Financial Statements , and may incur additional impairment charges in future periods if we are unable to sublease available office space at our corporate headquarters in California on acceptable terms. In the event of a significant resurgence of COVID-19 pandemic or other future public health crisis, we could experience similar or more significant impacts to our operations, which may adversely impact our business, financial condition and operating results. More generally, a public health crisis or other catastrophic event could adversely affect economies and financial markets and lead to an economic downturn, which could harm our business, financial condition, and operating results. In the event of a natural disaster, including a major earthquake, blizzard, wildfire, or hurricane, or other catastrophic event such as a fire, power loss, or telecommunications failure, we may be unable to continue our operations and may endure system interruptions, reputational harm, delays in development of our solution, lengthy interruptions in service, breaches of data security, and loss of critical data, all of which could have an adverse effect on our future operating results. For example, our corporate headquarters is located in California, a state that frequently experiences earthquakes and wildfires. Additionally, all the aforementioned risks may be further 42 increased if we do not implement an effective disaster recovery plan or our partners’ disaster recovery plans prove to be inadequate. Investors’ expectations of our performance relating to environmental, social, and governance factors may expose us to new risks and require us to incur additional costs . Corporate responsibility, including environmental, social and governance (ESG) factors, is increasingly becoming a focus from certain investors, employees, and other stakeholders. Some investors may use these factors to guide their investment strategies and, in some cases, may choose not to invest in us if they believe our corporate responsibility policies are inadequate. Third-party providers of corporate responsibility ratings and reports on companies have increased to meet growing investor demand for measurement of corporate responsibility performance. The criteria by which companies’ corporate responsibility practices are assessed may require significant expenditures. In May 2022, we announced our commitment to remain carbon neutral going forward, including by purchasing carbon offsets in future years, which may become increasingly more expensive. In addition, the corporate responsibility criteria could change, which could result in greater expectations of us and cause us to undertake more costly initiatives to satisfy such new criteria. If we elect not to or are unable to satisfy such new criteria, investors may conclude that our policies with respect to corporate responsibility are inadequate. We may face reputational damage in the event that our corporate responsibility procedures or standards do not meet the standards set by various constituencies. Furthermore, if our competitors’ corporate responsibility performance is perceived to be greater than ours, potential or current investors may elect to invest with our competitors instead. In addition, in the event that we communicate certain initiatives and goals regarding ESG matters, we could fail, or be perceived to fail, in our achievement of such initiatives or goals, or we could be criticized for the scope of such initiatives or goals. If we fail to satisfy the expectations of investors, employees, and other stakeholders, or, if our initiatives are not executed as planned, our reputation and business, operating results, and financial condition could be adversely impacted. Item 1B. Unresolved Staff Comments None. Item 2. Properties Our corporate headquarters are currently located in Redwood City, California where we currently utilize approximately 50,000 square feet of office space. We also lease facilities in other areas within the United States and around the world. We believe that our current offices provide adequate space to meet our needs for the near term, and that suitable additional or substitute space will be available as needed to accommodate any future growth and expansion. Item 3. Legal Proceedings Information with respect to this item may be found in Note 13. Commitments and Contingencies to the Notes to Consolidated Financial Statements in Item 8. Financial Statements and Supplementary Data , which is incorporated herein by reference. Item 4. Mine Safety Disclosures Not applicable. 43 PART II Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities Market Information for Common Stock Our Class A common stock began trading on the New York Stock Exchange under the symbol “ZUO” on April 12, 2018. Prior to that date, there was no public trading market for our Class A common stock. There is no public trading market for our Class B common stock. Holders of Record As of February 28, 2023, there were 82 and 48 registered holders of record of our Class A and Class B common stock, respectively. Because many of our shares of Class A common stock are held by brokers and other institutions on behalf of stockholders, we are unable to estimate the total number of stockholders represented by these record holders. Dividend Policy We have never declared or paid cash dividends on our capital stock. We do not expect to pay dividends on our capital stock for the foreseeable future. Instead, we anticipate that all of our earnings for the foreseeable future will be used for the operation and growth of our business. Any future determination to declare cash dividends would be subject to the discretion of our Board of Directors and would depend upon various factors, including our operating results, financial condition, and capital requirements, restrictions that may be imposed by applicable law, and other factors deemed relevant by our Board of Directors. Performance Graph The performance graph below shall not be deemed "soliciting material" or to be "filed" with the SEC for purposes of Section 18 of the Exchange Act, or otherwise subject to the liabilities under that Section, and shall not be deemed to be incorporated by reference into any of our filings under the Securities Act or the Exchange Act. We have presented below the cumulative total return to our stockholders between April 12, 2018 (the date our Class A common stock commenced trading on the New York Stock Exchange) through January 31, 2023 in comparison to the Standard & Poor’s 500 Index, Standard & Poor Information Technology Index and NASDAQ Composite. All values assume a $100 initial investment and reinvestment of dividends. The comparisons are based on historical data and are not indicative of, nor intended to forecast, the future performance of our Class A common stock. 44 Company/Index Base Period April 12, 2018 January 31, 2019 January 31, 2020 January 31, 2021 January 31, 2022 January 31, 2023 Zuora $ 100 $ 108.20 $ 73.75 $ 73.75 $ 83.15 $ 39.60 S&P 500 Index $ 100 $ 103.08 $ 125.44 $ 147.07 $ 181.33 $ 166.43 NASDAQ Composite $ 100 $ 102.83 $ 130.63 $ 188.22 $ 206.38 $ 169.34 S&P 500 Information Technology Index $ 100 $ 101.26 $ 147.92 $ 202.85 $ 256.45 $ 216.20 Unregistered Sales of Equity Securities and Use of Proceeds None. Issuer Purchases of Equity Securities None. Item 6. [Reserved] Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and related notes appearing elsewhere in this Form 10-K. As discussed in the section titled “Special Note Regarding Forward-Looking Statements,” the following discussion and analysis contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. Factors that could cause or contribute to these differences include, but are not limited to, those identified below and those discussed in the section titled “Risk Factors” under Part I, Item 1A in this Form 10-K. Our fiscal year ends January 31. 45 We have omitted discussion of fiscal 2021 results where it would be redundant to the discussion previously included in Management's Discussion and Analysis of Financial Condition and Results of Operations in Part II, Item 7 of our Annual Report on Form 10-K for the fiscal year ended January 31, 2022, filed with the SEC on March 28, 2022. Overview Business Summary Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the quote-to-cash and revenue recognition process, including quoting, billing, collections and revenue recognition. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. Many of today’s enterprise software systems manage their quote-to-cash and revenue recognition process using software built for one-time transactions. These systems were not designed for the dynamic, ongoing nature of subscription, usage, or consumption-based pricing models, and can be extremely difficult to configure. In traditional product-based businesses, quote-to-cash and revenue recognition is a linear process—a customer orders a product, is billed for that product, payment is collected, and the revenue is recognized. These legacy product-based systems were not specifically designed to handle the complexities of managing ongoing customer relationships and recurring revenue models commonly found in subscription businesses, including billing proration, revenue recognition and reporting, and calculating the lifetime value of the customer. Using legacy or homegrown software to build a subscription business often results in inefficient processes with prolonged and complex manual downstream work, hard-coded customizations, and a proliferation of stock-keeping units (SKUs). However, enterprise business models are inherently dynamic, with multiple interactions, flexible pricing, global complexities, and continuously-evolving relationships and events. The capabilities to launch, price, and bill for products, facilitate and record cash receipts, process and recognize revenue, and analyze data to drive key decisions are mission critical and particularly complex for companies that operate at a global scale. As a result, as companies launch, grow, and scale their businesses, they often conclude that legacy systems are inadequate. This is where Zuora comes in. Our vision is “The World Subscribed” -- the idea that one day every company will be a part of the Subscription Economy. Our focus has been on providing the technology our customers need to thrive as customer-centric, recurring revenue businesses. Our solution includes Zuora Platform , Zuora Billing , Zuora Revenue , Zuora Collect, Zephr , and other software products that support and expand upon these core offerings. Our software helps companies analyze data - including information such as which customers are delivering the most recurring revenue, or which segments are showing the highest churn, thus enabling customers to make informed decisions for their subscription business and to quickly implement changes such as launching new services, updating pricing (usage, time, or outcome based), delivering new offerings, or making other changes to their customers’ subscription experience. We also have a large subscription ecosystem of global partners, that can assist our customers with additional strategies and services throughout the subscription journey. Companies in a variety of industries - technology, manufacturing, media and entertainment, telecommunications, and many others - are using our solution to scale and adapt to a world that is increasingly choosing subscription-based offerings. Fiscal 2023 Business Highlights Our business highlights for fiscal 2023 include the followin • Our dollar-based retention rate decreased to 108% compared to 110% as of January 31, 2022. • Our Annual Recurring Revenue (ARR) was $365.0 million compared to $313.9 million as of January 31, 2022, representing ARR growth of 16%. • We improved our total gross margin to 61% for the year, compared to 60% last year, as we shifted more of our professional services work to our systems integrator partners. 46 • Customer usage of Zuora solutions grew, with $86.9 billion in transaction volume through Zuora's billing platform during the year, an increase of 16% compared to last fiscal year, and 17% on a constant currency basis. • We grew our business to 773 customers with Annual Contract Value (ACV) equal to or greater than $100,000 as of January 31, 2023, which represents 3% year-over-year growth. During the year, we closed 25 deals that exceeded $500,000 in ACV, six of which exceeded $1.0 million. • We issued $250.0 million of convertible senior unsecured notes and certain warrants to Silver Lake, one of the leading technology private equity investors, in March 2022. Under the terms of the agreement with Silver Lake, we have agreed to issue an additional $150.0 million of convertible senior unsecured notes to Silver Lake in September 2023. • In September 2022, we acquired Zephr, a leading Subscription Experience Platform used by global digital publishing and media companies. • In November 2022, we approved a reduction of our workforce by 11% in order to improve operational efficiencies and operating costs and better align our workforce with current business needs, priorities, and near term growth expectations, in light of macroeconomic uncertainties. For a definition of ACV, dollar-based retention rate, and ARR, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Operational and Financial Metrics.” Fiscal 2023 Financial Performance Summary Our financial performance for fiscal 2023, compared to fiscal 2022, reflects the followin • Subscription revenue was $338.4 million, an increase of $50.6 million, or 18%, and total revenue was $396.1 million, an increase of $49.3 million, or 14%. • On a constant currency basis, subscription revenue was $345.6 million, an increase of $57.9 million, or 20% and total revenue was $405.4 million, an increase of $58.6 million, or 17%. • Total cost of revenue increased to $153.2 million, or 39% of total revenue, compared to $140.1 million, or 40% of revenue, last year. • Loss from operations increased to $187.5 million, or 47% of revenue, compared to a loss from operations of $96.2 million, or 28% of revenue, last year. Key Operational and Financial Metrics We monitor the following key operational and financial metrics to evaluate our business, measure our performance, identify trends affecting our business, formulate business plans and make strategic decisio January 31, 2023 2022 Customers with ACV equal to or greater than $100,000 773 747 Dollar-based retention rate 108 % 110 % Annual recurring revenue growth 16 % 20 % Customers with Annual Contract Value Equal to or Greater than $100,000 We believe our ability to enter into larger contracts is indicative of broader adoption of our solution by larger organizations. It also reflects our ability to expand our revenue footprint within our current customer base. We define ACV as the subscription revenue we would contractually expect to recognize from that customer over the next twelve months, assuming no increases or reductions in their subscriptions. We define the number of customers at the end of any particular period as the number of parties or organizations that have entered into a distinct subscription contract with us and for which the term has not ended. Each party with whom we have entered into a distinct subscription contract is considered a unique customer, and in some cases, there may be more than one customer within a single organization. The number of customers with ACV equal to or greater than $100,000 increased to 773 as of January 31, 2023, as compared to 747 as of January 31, 2022. We expect this metric will increase in fiscal year 2024. 47 Dollar-Based Retention Rate We believe our dollar-based retention rate is a key measure of our ability to retain and expand revenue from our customer base over time. We calculate our dollar-based retention rate as of a period end by starting with the sum of the ACV from all customers as of twelve months prior to such period end, or prior period ACV. We then calculate the sum of the ACV from these same customers as of the current period end, or current period ACV. The current period ACV includes any upsells and also reflects contraction or attrition over the trailing twelve months, but excludes revenue from new customers added in the current period. We then divide the current period ACV by the prior period ACV to arrive at our dollar-based retention rate. Our dollar-based retention rate decreased to 108% as of January 31, 2023, as compared to 110% as of January 31, 2022 which reflects the impact of foreign currency headwinds. While the dollar-based retention rate can fluctuate in any particular period, we expect it to remain relatively consistent in fiscal 2024. Annual Recurring Revenue ARR represents the annualized recurring value at the time of initial booking or contract modification for all active subscription contracts at the end of a reporting period. ARR excludes the value of non-recurring revenue such as professional services revenue as well as contracts with new customers with a term of less than one year. ARR should be viewed independently of revenue and deferred revenue, and is not intended to be a substitute for, or combined with, any of these items. Our ARR was $365.0 million as of January 31, 2023, compared to $313.9 million as of January 31, 2022, representing an increase of 16% year-over-year. For the comparable period ending January 31, 2022, our ARR growth was 20% year-over-year. We expect our ARR year-over-year growth rate to decrease over the next fiscal year reflecting extended deal cycles due to ongoing macroeconomic uncertainty. Components of Our Results of Operations Revenue Subscription revenue. Subscription revenue consists of fees for access to, and use of, our products, as well as customer support. We generate subscription fees pursuant to non-cancelable subscription agreements with terms that typically range from one to three years. Subscription revenue is primarily based on fees to access our services platform over the subscription term. We typically invoice customers in advance in either annual or quarterly installments. Customers can also elect to purchase additional volume blocks or products during the term of the contract. We typically recognize subscription revenue ratably over the term of the subscription period, beginning on the date that access to our platform is provisioned, which is generally on or about the date the subscription agreement is signed. Professional services revenue. Professional services revenue typically consists of fees for implementation services in connection with helping our customers deploy, configure, and optimize the use of our solutions. These services include systems integration, data migration, and process enhancement. Professional services projects generally take three to twelve months to complete. Once the contract is signed, we generally invoice for professional services on a time and materials basis, although we occasionally engage in fixed-price service engagements and invoice for those based upon agreed milestone payments. We recognize revenue as professional services are performed for time and materials engagements and on a proportional performance method when the professional services are performed under fixed fee engagements. We expect to continue to transition a portion of our professional services implementation engagements to our strategic partners, including system integrators, and as a result we expect our professional services revenue to decrease over time as a percentage of total revenue. Deferred Revenue Deferred revenue consists of customer billings in advance of revenue being recognized from our subscription and support services and professional services arrangements. We primarily invoice our customers for subscription services arrangements annually or quarterly in advance. Amounts anticipated to be recognized within one year of the balance sheet date are recorded as deferred revenue, current portion, and the remaining portion is recorded as deferred revenue, net of current portion in our consolidated balance sheets. Overhead Allocation and Employee Compensation Costs We allocate shared costs, such as facilities costs (including rent, utilities, and depreciation on capital expenditures related to facilities shared by multiple departments), information technology costs, and certain administrative personnel costs to all departments based on headcount and location. As such, allocated shared costs are reflected in each cost of revenue and operating expenses category. 48 Employee compensation costs consist of salaries, bonuses, commissions, benefits, and stock-based compensation. Cost of Revenue, Gross Profit and Gross Margin Cost of subscription revenue. Cost of subscription revenue consists primarily of costs related to hosting our platform and providing customer support. These costs include data center costs and third-party hosting fees, employee compensation costs associated with our cloud-based infrastructure and our customer support organizations, amortization expenses associated with capitalized internal-use software and purchased technology, allocated overhead, software and maintenance costs, and outside services associated with the delivery of our subscription services. We intend to continue to invest in our platform infrastructure, including third-party hosting capacity, and support organizations. However, the level and timing of such investment in these areas could fluctuate and affect our cost of subscription revenue in the future. Cost of professional services revenue. Cost of professional services revenue consists primarily of costs related to the deployment of our platform. These costs include employee compensation costs for our professional services team, allocated overhead, travel costs, and costs of outside services associated with supplementing our internal staff. We believe that investment in our systems integrator partner network will lead to total margin improvement, however costs may fluctuate in the near term as we shift deployments to our partner network. Gross profit and gross margin. Our gross profit and gross margin may fluctuate from period to period as our revenue fluctuates, and as a result of the timing and amount of our investments to expand hosting capacity, including through third-party cloud providers, amortization expenses associated with our capitalized internal-use software and purchased technology, and our continued efforts to build our cloud infrastructure, support and professional services teams. Operating Expenses Research and development. Research and development expense consists primarily of employee compensation costs, allocated overhead, and travel costs. We capitalize research and development costs associated with the development of internal-use software and we generally amortize these costs over a period of three years into the cost of subscription revenue. All other research and development costs are expensed as incurred. We believe that continued investment in our platform is important for our growth, and as such, we expect our research and development expense to continue to increase in absolute dollars for the foreseeable future, but it may increase or decrease as a percentage of total revenue. Sales and marketing. Sales and marketing expense consists primarily of employee compensation costs, including the amortization of deferred commissions related to our sales personnel, allocated overhead, costs of general marketing and promotional activities, and travel costs. Commission costs that are incremental to obtaining a contract are amortized in sales and marketing expense over the period of benefit, which is expected to be five years. While we expect to continue to make investments as we expand our customer acquisition and retention efforts, we expect that sales and marketing expense will decrease in absolute dollars but may vary as a percentage of total revenue for the foreseeable future. General and administrative. General and administrative expense consists primarily of employee compensation costs, allocated overhead, and travel costs for finance, accounting, legal, human resources, and recruiting personnel. In addition, general and administrative expense includes non-personnel costs, such as accounting fees, legal fees, charitable contributions, asset impairments and all other supporting corporate expenses not allocated to other departments. We expect to incur ongoing costs as a result of operating as a public company, including costs related to compliance and reporting obligations of public companies, and continued investment to support our growing operations. As a result, we expect our general and administrative expense to continue to increase in absolute dollars for the foreseeable future but may vary as a percentage of total revenue in the near term. Over the long-term, we expect general and administrative expense to decline as a percentage of total revenue due to savings from economies of scale that we will realize as we grow our business. Other Income and Expenses Other income and expenses primarily consists of gain or loss on the revaluation of our warrant liability; amortization of discount and debt issuance costs, and contractual interest on our convertible senior notes; interest expense associated with our term loan facility; interest income from our cash and cash equivalents and short-term investments; and foreign exchange fluctuations. 49 Income Tax Provision Income tax provision consists primarily of income taxes related to foreign and state jurisdictions in which we conduct business. We maintain a full valuation allowance on our federal and state deferred tax assets as we have concluded that it is more likely than not that the deferred assets will not be utilized. Results of Operations The following tables set forth our consolidated results of operations data for the periods presented in dollars and as a percentage of our total reve Fiscal Year Ended January 31, 2023 2022 (in thousands) Reve Subscription $ 338,391 $ 287,747 Professional services 57,696 58,991 Total revenue 396,087 346,738 Cost of reve Subscription 81,094 68,285 Professional services 72,135 71,821 Total cost of revenue 153,229 140,106 Gross profit 242,858 206,632 Operating expens Research and development 102,564 83,219 Sales and marketing 173,871 143,366 General and administrative 78,878 76,223 Litigation settlement 75,000 — Total operating expenses 430,313 302,808 Loss from operations (187,455) (96,176) Change in fair value of warrant liability 9,214 — Interest expense (15,133) (152) Interest and other income (expense), net 5,986 (1,670) Loss before income taxes (187,388) (97,998) Income tax provision 10,582 1,427 Net loss $ (197,970) $ (99,425) 50 Fiscal Year Ended January 31, 2023 2022 Reve Subscription 85 % 83 % Professional services 15 17 Total revenue 100 100 Cost of reve Subscription 20 20 Professional services 18 21 Total cost of revenue 39 40 Gross profit 61 60 Operating expens Research and development 26 24 Sales and marketing 44 41 General and administrative 20 22 Litigation settlement 19 — Total operating expenses 109 87 Loss from operations (47) (28) Change in fair value of warrant liability 2 — Interest expense (4) — Interest and other income (expense), net 2 — Loss before income taxes (47) (28) Income tax provision 3 — Net loss (50) % (29) % Note: Percentages in the table above may not sum due to rounding. Non-GAAP Financial Measures To supplement our consolidated financial statements presented in accordance with U.S. GAAP, we monitor and consider non-GAAP financial measures includin subscription revenue and total revenue that exclude the impact of foreign currency exchange rate fluctuations (constant currency basis), non-GAAP cost of subscription revenue, non-GAAP cost of professional services revenue, non-GAAP gross profit, non-GAAP subscription gross margin, non-GAAP professional services gross margin, non-GAAP gross margin, non-GAAP income (loss) from operations, non-GAAP operating margin, non-GAAP net loss, non-GAAP net loss per share, basic and diluted, and free cash flow. We use non-GAAP financial measures in conjunction with GAAP measures as part of our overall assessment of our performance, including the preparation of our annual operating budget and quarterly forecasts, to evaluate the effectiveness of our business strategies and to communicate with our Board of Directors concerning our financial performance. We believe these non-GAAP measures provide investors consistency and comparability with our past financial performance and facilitate period-to-period comparisons of our operating results. We also believe these non-GAAP measures are useful in evaluating our operating performance compared to that of other companies in our industry, as they generally eliminate the effects of certain items that may vary for different companies for reasons unrelated to overall operating performance. Investors are cautioned that there are material limitations associated with the use of non-GAAP financial measures as an analytical tool. The non-GAAP financial measures we use may be different from non-GAAP financial measures used by other companies, limiting their usefulness for comparison purposes. We compensate for these limitations by providing specific information regarding the GAAP items excluded from our non-GAAP financial measures. The presentation of these non-GAAP financial measures is not intended to be considered in isolation or as a substitute for, or superior to, financial information prepared and presented in accordance with GAAP. Reconciliations of our non-GAAP financial measures to the nearest respective GAAP measures are provided below. We exclude the following items from one or more of our non-GAAP financial measu • Stock-based compensation expense . We exclude stock-based compensation expense, which is a non-cash expense, because we believe that excluding this item provides meaningful supplemental information 51 regarding operational performance. In particular, stock-based compensation expense is not comparable across companies given it is calculated using a variety of valuation methodologies and subjective assumptions. • Amortization of acquired intangible assets . We exclude amortization of acquired intangible assets, which is a non-cash expense, because we do not believe it has a direct correlation to the operation of our business. • Charitable contributions . We exclude expenses associated with charitable donations of our common stock. We believe that excluding these non-cash expenses allows investors to make more meaningful comparisons between our operating results and those of other companies. • Shareholder litigation. We exclude non-recurring charges and benefits, net of insurance recoveries, including litigation expenses and settlements, related to shareholder litigation matters that are outside of the ordinary course of our business. We believe these charges and benefits do not have a direct correlation to the operations of our business and may vary in size depending on the timing and results of such litigation and related settlements. • Asset impairment . We exclude non-cash charges for impairment of assets, including impairments related to internal-use software and office leases. Impairment charges can vary significantly in terms of amount and timing and we do not consider these charges indicative of our current or past operating performance. Moreover, we believe that excluding the effects of these charges allows investors to make more meaningful comparisons between our operating results and those of other companies. • Change in fair value of warrant liabilities. We exclude the change in fair value of warrant liabilities, which is a non-cash gain or loss, as it can fluctuate significantly with changes in Zuora's stock price and market volatility, and does not reflect the underlying cash flows or operational results of the business. • Acquisition-related transactions. We exclude acquisition-related transactions (including integration-related charges) that are not related to our ongoing operations, including expenses we incurred and gains or losses recognized on contingent consideration related to our acquisition of Zephr. We do not consider these transactions reflective of our core business or ongoing operating performance. • Workforce reduction . We exclude charges related to the workforce reduction plan we approved in November 2022, including severance, health care and related expenses. We believe these charges are not indicative of our continuing operations. 52 The following tables provide a reconciliation of our GAAP to non-GAAP measures (in thousands, except percentages and per share data): Fiscal Year Ended January 31, 2023 2022 Reconciliation of cost of subscription reve GAAP cost of subscription revenue $ 81,094 $ 68,285 L Stock-based Compensation (8,141) (5,875) Amortization of Acquired Intangibles (2,236) (2,050) Workforce Reduction (547) — Non-GAAP cost of subscription revenue 1 $ 70,170 $ 60,360 GAAP subscription gross margin 76 % 76 % Non-GAAP subscription gross margin 1 79 % 79 % Fiscal Year Ended January 31, 2023 2022 Reconciliation of cost of professional services reve GAAP cost of professional services revenue $ 72,135 $ 71,821 L Stock-based Compensation (12,297) (10,274) Workforce Reduction (646) — Non-GAAP cost of professional services revenue $ 59,192 $ 61,547 GAAP professional services gross margin (25) % (22) % Non-GAAP professional services gross margin (3) % (4) % 53 Fiscal Year Ended January 31, 2023 2022 Reconciliation of gross prof GAAP gross profit $ 242,858 $ 206,632 A Stock-based Compensation 20,438 16,149 Amortization of Acquired Intangibles 2,236 2,050 Workforce Reduction 1,193 — Non-GAAP gross profit 1 $ 266,725 $ 224,831 GAAP gross margin 61 % 60 % Non-GAAP gross margin 1 67 % 65 % Fiscal Year Ended January 31, 2023 2022 Reconciliation of (loss) income from operatio GAAP loss from operations $ (187,455) $ (96,176) A Stock-based Compensation 96,401 72,070 Amortization of Acquired Intangibles 2,236 2,050 Asset Impairment 4,537 12,783 Charitable Contribution 1,000 1,000 Shareholder Litigation 76,268 176 Acquisition-related Transactions 3,153 — Workforce Reduction 6,369 — Non-GAAP income (loss) from operations 1 $ 2,509 $ (8,097) GAAP operating margin (47) % (28) % Non-GAAP operating margin 1 1 % (2) % Fiscal Year Ended January 31, 2023 2022 Reconciliation of net l GAAP net loss $ (197,970) $ (99,425) A Stock-based Compensation 96,401 72,070 Amortization of Acquired Intangibles 2,236 2,050 Asset Impairment 4,537 12,783 Charitable Contribution 1,000 1,000 Shareholder Litigation 76,268 176 Change in Fair Value of Warrant Liability (9,214) — Acquisition-related Transactions 3,153 — Workforce Reduction 6,369 — Non-GAAP net loss 1 $ (17,220) $ (11,346) GAAP net loss per share, basic and diluted 2 $ (1.51) $ (0.80) Non-GAAP net loss per share, basic and diluted 1,2 $ (0.13) $ (0.09) _________________________________ 54 (1) Beginning with the second quarter ended July 31, 2021, we no longer exclude non-cash adjustments for capitalization and amortization of internal-use software from our non-GAAP financial measures. We believe that this change more closely aligns our reported financial measures with current industry practice. Our non-GAAP financial measures for the fiscal year ended January 31, 2022 were recast to conform to the updated methodology for comparison purposes. (2) GAAP and Non-GAAP net loss per share are calculated based upon 131.4 million and 124.2 million basic and diluted weighted-average shares of common stock for the fiscal year ended January 31, 2023 and 2022, respectively. Free Cash Flow We define free cash flow as net cash provided by operating activities, less cash used for purchases of property and equipment, net of insurance recoveries. Insurance recoveries include amounts paid to us for property and equipment that were damaged in January 2020 at our corporate headquarters. We include the impact of net purchases of property and equipment in our free cash flow calculation because we consider these capital expenditures to be a necessary component of our ongoing operations. We consider free cash flow to be a liquidity measure that provides useful information to management and investors about the amount of cash generated by the business that can possibly be used for investing in our business and strengthening our balance sheet, but it is not intended to represent the residual cash flow available for discretionary expenditures. Fiscal Year Ended January 31, 2023 2022 (in thousands) Net cash (used in) provided by operating activities $ (20,644) $ 18,686 L Purchases of property and equipment, net of insurance recoveries (10,634) (8,432) Free cash flow $ (31,278) $ 10,254 Net cash used in investing activities $ (131,074) $ (20,099) Net cash provided by financing activities $ 241,911 $ 21,483 Constant Currency We provide subscription revenue and total revenue, including year-over-year growth rates, adjusted to remove the impact of foreign currency rate fluctuations, which we refer to as constant currency. We believe providing revenue on a constant currency basis helps our investors to better understand our underlying performance. We calculate constant currency in a given period by applying the average currency exchange rates in the comparable period of the prior year to the local currency revenue in the current period. Fiscal Year Ended January 31, 2023 2022 % Change Subscription revenue (GAAP) $ 338,391 $ 287,747 18 % Effects of foreign currency rate fluctuations 7,237 Subscription revenue on a constant currency basis (Non-GAAP) $ 345,628 20 % Total revenue (GAAP) $ 396,087 $ 346,738 14 % Effects of foreign currency rate fluctuations 9,263 Total revenue on a constant currency basis (Non-GAAP) $ 405,350 17 % 55 Comparison of the Fiscal Years Ended January 31, 2023 and 2022 Revenue Fiscal Year Ended January 31, 2023 2022 $ Change % Change (dollars in thousands) Reve Subscription $ 338,391 $ 287,747 $ 50,644 18 % Professional services 57,696 58,991 (1,295) (2) % Total revenue $ 396,087 $ 346,738 $ 49,349 14 % Percentage of total reve Subscription 85 % 83 % Professional services 15 17 Total 100 % 100 % Subscription revenue increased by $50.6 million, or 18%, for fiscal 2023 compared to fiscal 2022. The increase was driven by growth in our customer base, including both new and existing customers. New customers contributed approximately $20.7 million of the increase in subscription revenue for fiscal 2023 compared to the prior year period, while increased transaction volume and sales of additional products to our existing customers contributed the remainder. We calculate subscription revenue from new customers for the fiscal year by adding the revenue recognized from new customers acquired in the 12 months prior to the reporting date. Professional services revenue decreased by $1.3 million, or 2%, for fiscal 2023 compared to fiscal 2022 as a result of shifting more professional services work to our systems integrator partners as we focus our sales mix towards recurring subscription revenue. On a constant currency basis, subscription revenue was $345.6 million and increased 20%, and total revenue was $405.4 million and increased 17%, for fiscal 2023 compared to fiscal 2022. Cost of Revenue and Gross Margin Fiscal Year Ended January 31, 2023 2022 $ Change % Change (dollars in thousands) Cost of reve Subscription $ 81,094 $ 68,285 $ 12,809 19 % Professional services 72,135 71,821 314 — % Total cost of revenue $ 153,229 $ 140,106 $ 13,123 9 % Gross margin: Subscription 76 % 76 % Professional services (25) % (22) % Total gross margin 61 % 60 % Cost of subscription revenue increased by $12.8 million, or 19%, for fiscal 2023 compared to fiscal 2022. This was driven primarily by increases of $8.7 million in employee compensation costs driven by increased headcount and stock-based compensation expense, $1.3 million in amortization of internal-use software costs, and $1.2 million in allocated overhead primarily due to increased headcount. Cost of professional services revenue increased slightly for fiscal 2023 compared to fiscal 2022. This was due to an increase of $5.0 million in employee compensation costs, offset by a decrease of $4.9 million in outside professional services costs. Our gross margin for subscription services was flat at 76% in fiscal 2023 and fiscal 2022. We expect our subscription gross margin to increase slightly over the next fiscal year. 56 Our gross margin for professional services decreased to (25)% for fiscal 2023 compared to (22)% for fiscal 2022, primarily due to increased compensation related expenses. Operating Expenses Research and Development Fiscal Year Ended January 31, 2023 2022 $ Change % Change (dollars in thousands) Research and development $ 102,564 $ 83,219 $ 19,345 23 % Percentage of total revenue 26 % 24 % Research and development expense increased by $19.3 million, or 23%, for fiscal 2023 compared to fiscal 2022, primarily driven by increases of $14.4 million in employee compensation costs driven by increased headcount and stock-based compensation expense, $3.4 million in outside professional services costs and $0.6 million in allocated overhead primarily due to increased headcount. Research and development expense increased to 26% from 24% of total revenue during fiscal 2023 and fiscal 2022, respectively, primarily due to additional employee compensation expense. Sales and Marketing Fiscal Year Ended January 31, 2023 2022 $ Change % Change (dollars in thousands) Sales and marketing $ 173,871 $ 143,366 $ 30,505 21 % Percentage of total revenue 44 % 41 % Sales and marketing expense increased by $30.5 million, or 21%, for fiscal 2023 compared to fiscal 2022, primarily due to increases of $24.5 million in employee compensation costs driven by increased headcount and stock-based compensation expense and includes $3.5 million in charges incurred for the workforce reduction we approved in November 2022, and $3.0 million in amortization of deferred commissions. Sales and marketing expense increased to 44% of total revenue during fiscal 2023 compared to 41% during fiscal 2022, as a result of higher employee compensation costs and charges incurred for the workforce reduction. General and Administrative Fiscal Year Ended January 31, 2023 2022 $ Change % Change (dollars in thousands) General and administrative $ 78,878 $ 76,223 $ 2,655 3 % Percentage of total revenue 20 % 22 % General and administrative expense increased by $2.7 million, or 3%, for fiscal 2023 compared to fiscal 2022, primarily due to increases of $7.5 million in employee compensation costs driven by increased stock-based compensation expenses, $3.2 million in acquisition-related costs, and $1.0 million accrued in connection with the state securities class action litigation, partially offset by lower impairment charges related to our office leases of $4.5 million in fiscal 2023 compared to $12.8 million in fiscal 2022, and a decrease of $1.1 million in outside professional services costs for fiscal 2023 compared to fiscal 2022. General and administrative expense decreased to 20% of total revenue during fiscal 2023 compared to 22% during fiscal 2022, primarily due to decreased impairment charges related to our office leases in fiscal 2023. Litigation settlement In March 2023, we entered into an agreement to settle the federal securities class action litigation captioned Roberts v. Zuora, Inc. . We agreed to pay $75.0 million to settle the litigation, which we recorded as an accrual in the 57 consolidated balance sheet as of January 31, 2023. We expect approximately $6.6 million of the settlement to be funded by our remaining insurance coverage. The settlement is subject to court approval. We entered into the settlement to eliminate the uncertainty, burden, and expense of further protracted litigation. We deny the claims alleged in the litigation, and the settlement does not assign or reflect any admission of wrongdoing or liability by Zuora or the named defendants. For more information, see Note 13. Commitments and Contingencies of the Notes to Consolidated Financial Statements. Other Income and Expenses Fiscal Year Ended January 31, 2023 2022 $ Change % Change (in thousands) Change in fair value of warrant liability $ 9,214 $ — $ 9,214 N/A Interest expense $ (15,133) $ (152) $ (14,981) 9856 % Interest and other income (expense), net $ 5,986 $ (1,670) $ 7,656 (458) % During fiscal 2023, we recognized a $9.2 million gain on revaluation of liability-classified Warrants. Interest expense increased $15.0 million due to the issuance of the Initial Notes in March 2022. Interest and other income (expense), net increased $7.7 million due to increased investment balances and higher interest rates, and the revaluation of cash, accounts receivable, and payables recorded in a foreign currency. Income Tax Provision Fiscal Year Ended January 31, 2023 2022 $ Change % Change (in thousands) Income tax provision $ 10,582 $ 1,427 $ 9,155 642 % We are subject to federal and state income taxes in the United States and taxes in foreign jurisdictions. For fiscal 2023 and fiscal 2022 we recorded a tax provision of $10.6 million and $1.4 million on losses before income taxes of $187.4 million and $98.0 million, respectively. The effective tax rate for fiscal 2023 and fiscal 2022 was (5.6)% and (1.5)%, respectively. The effective tax rates differ from the statutory rate primarily as a result of providing no benefit on pretax losses incurred in the United States. For fiscal 2023 and fiscal 2022, we maintained a full valuation allowance on our U.S. federal and state net deferred tax assets as it was more likely than not that those deferred tax assets will not be realized. The increase in tax expense resulted primarily from foreign taxes, and associated uncertain tax position reserves. Liquidity and Capital Resources Liquidity is a measure of our ability to access sufficient cash flows to meet the short-term and long-term cash requirements of our business operations. As of January 31, 2023, we had cash and cash equivalents and short-term investments of $386.2 million that were primarily invested in deposit accounts, money market funds, corporate debt securities, commercial paper, and U.S. and foreign government securities. We do not enter into investments for trading or speculative purposes. We finance our operations primarily through sales to our customers, which are generally billed in advance on an annual or quarterly basis. Customers with annual or multi-year contracts are generally only billed one annual period in advance. We also finance our operations through proceeds from the issuance of stock under our employee stock plans, borrowings under our term loan facility, and proceeds from our issuance of the Initial Notes. On March 24, 2022, we issued $250.0 million aggregate principal amount of convertible senior unsecured notes to Silver Lake to fund the future growth and expansion of our business, and have agreed to issue an additional $150.0 million in convertible senior unsecured notes to Silver Lake in September 2023. In connection with the 2029 Notes, we also issued Warrants to Silver Lake for 7.5 million shares of our Class A common stock that are exercisable between $20.00 - $24.00 per share. Refer to Note 17. Warrants to Purchase Shares of Common Stock and Note 9. Debt of the Notes to Consolidated Financial Statements for more information about the Warrants and the 2029 Notes. 58 On March 10, 2023, Silicon Valley Bank (SVB) was closed and the Federal Deposit Insurance Corporation (FDIC) was named as receiver. While SVB was our primary bank at the time of its closure, the vast majority of our total cash, cash equivalents and short-term investments resided in custodial accounts held by U.S. Bank for which SVB Asset Management was the advisor. The FDIC subsequently transferred SVB’s deposits and loans to a newly created bridge bank, named Silicon Valley Bridge Bank, N.A. On March 26, 2023, the FDIC announced that First Citizens Bank & Trust Company (First Citizens Bank) had agreed to purchase and assume all deposits and loans of Silicon Valley Bridge Bank. As a result, all of our deposits that were at SVB and our undrawn $30.0 million revolving credit facility will now be with First Citizens Bank. See Note 9. Debt of the Notes to Consolidated Financial Statements for more information about our credit facility. In the short term, we believe our existing cash and cash equivalents, marketable securities, and cash flow from operations (in periods in which we generate cash flow from operations) will be sufficient for at least the next 12 months to meet our requirements and plans for cash, including meeting our working capital requirements and capital expenditure requirements, and servicing our debt. In the long term, our ability to support our requirements and plans for cash, including meeting our working capital and capital expenditure requirements, will depend on many factors, including our revenue growth rate, the timing and the amount of cash received from customers, the expansion of sales and marketing activities, the timing and extent of spending to support research and development efforts, the cost to develop and support our offering, the introduction of new products and services, the continuing adoption of our products by customers, any acquisitions or investments that we make in complementary businesses, products, and technologies, and our ability to obtain equity or debt financing. Moreover, any instability in the U.S. or international banking systems may impact liquidity both in the short term and long term. We continually evaluate our capital needs and may decide to raise additional capital to fund the growth of our business for general corporate purposes through public or private equity offerings or through additional debt financing. We also may in the future make investments in or acquire businesses or technologies that could require us to seek additional equity or debt financing. To facilitate acquisitions or investments, we may seek additional equity or debt financing, which may not be available on terms favorable to us or at all. Sales of additional equity could result in dilution to our stockholders. We expect proceeds from the exercise of stock options in future years to be impacted by the increased mix of restricted stock units versus stock options granted to employees and to vary based on our share price. Cash Flows The following table summarizes our cash flows for the periods indicat Fiscal Year Ended January 31, 2023 2022 (in thousands) Net cash (used in) provided by operating activities $ (20,644) $ 18,686 Net cash used in investing activities (131,074) (20,099) Net cash provided by financing activities 241,911 21,483 Effect of exchange rates on cash and cash equivalents (461) (673) Net increase in cash and cash equivalents $ 89,732 $ 19,397 Operating Activities Net cash used in operating activities of $20.6 million in fiscal 2023 was comprised primarily of customer collections for our subscription and professional services, cash payments for our personnel, sales and marketing efforts and infrastructure related costs, payments to vendors for products and services related to our ongoing business operations, interest income received on our short-term investments, and interest paid on the Initial Notes. Net cash used in operating activities for fiscal 2023 increased $39.3 million compared to the same period last fiscal year primarily due to the $7.6 million in interest paid on our Initial Notes, $6.4 million in charges related to a workforce reduction announced in November 2022, $3.5 million in transaction expenses related to the Zephr acquisition, and the impact of lower billings related to extended deal cycles. Investing Activities Net cash used in investing activities for fiscal 2023 was $131.1 million. We purchased $79.4 million of short-term investments, net of maturities, as we invested a portion of the proceeds from issuance of the Initial Notes, and 59 used $41.0 million for the acquisition of Zephr, net of cash acquired. We also used $10.6 million to purchase property and equipment and to develop internal-use software as we continue to invest in and grow our business. Net cash used in investing activities for fiscal 2023 increased $111.0 million compared to last fiscal year primarily due to $79.4 million net purchases of short-term investments in fiscal 2023, compared to $10.3 million net purchases in fiscal 2022, and $41.0 million net cash used to acquire Zephr in fiscal 2023, compared to no cash used for acquisitions in fiscal 2022. Payments for property and equipment, net of insurance recoveries, were $2.2 million higher compared to the same period last year, primarily due to increased software purchases and capitalization of internal-use software in fiscal 2023. Financing Activities Net cash provided by financing activities for fiscal 2023 of $241.9 million was primarily due to $233.9 million in net proceeds from issuance of the Initial Notes, $7.0 million of proceeds from issuance of common stock under the ESPP, and $2.5 million in proceeds from stock option exercises, partially offset by $1.5 million in debt principal payments related to our term loan facility. Net cash provided by financing activities for fiscal 2023 increased $220.4 million compared to last fiscal year primarily due to $233.9 million in proceeds from issuance of the Initial Notes and $3.0 million lower principal payments associated with our term loan facility, partially offset by $16.0 million less proceeds received from stock option exercises compared to the same period last year. Obligations and Other Commitments Our material cash requirements from known contractual and other obligations consist of obligations under our operating leases for office space, the 2029 Notes, the settlement of a consolidated class action litigation, and a contractual commitment to one of our vendors for cloud computing services. For more information, please refer to Note 12. Leases, Note 9. Debt and Note 13. Commitments and Contingencies, respectively, of the Notes to Consolidated Financial Statements . As of January 31, 2023, our contractual commitments totaled $460.2 million, with $108.0 million committed within the next twelve months. In the ordinary course of business, we enter into agreements of varying scope and terms pursuant to which we agree to indemnify customers, vendors, lessors, business partners, and other parties with respect to certain matters, including, but not limited to, losses arising out of the breach of such agreements, services to be provided by us, or from data breaches or intellectual property infringement claims made by third parties. In addition, we have entered into indemnification agreements with our directors and certain officers and employees that will require us, among other things, to indemnify them against certain liabilities that may arise by reason of their status or service as directors, officers, or employees. As of January 31, 2023, no demands had been made upon us to provide indemnification under such agreements and there were no claims that we are aware of that could have a material effect on our consolidated balance sheets, consolidated statements of comprehensive loss, or consolidated statements of cash flows. Critical Accounting Estimates Our consolidated financial statements are prepared in accordance with U.S. GAAP. The preparation of these consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the applicable periods. We evaluate our estimates and assumptions on an ongoing basis. Our estimates are based on historical experience and various other factors that we believe to be reasonable under the circumstances. Our actual results could differ from these estimates. We believe that of our significant accounting policies, which are described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements of the Notes to Consolidated Financial Statements , the following accounting policy includes estimates and assumptions with a greater degree of judgment and complexity. Revenue Recognition Policy Our revenue recognition policy follows guidance from Topic 606, Revenue from Contracts with Customers . We derive our revenue primarily from subscription fees and professional services fees. Determining whether products and services are distinct performance obligations that should be accounted for separately or combined as one unit of accounting may require significant judgment. 60 Our cloud-based software subscriptions are distinct as such hosted services are often sold separately. In addition, our subscription services contracts can include multi-year agreements that include a fixed annual platform fee and a volume block usage fee that may vary based on permitted volume usage each year. To the extent that permitted volume usage each year is the same, we concluded that there is one multi-year stand-ready performance obligation. To the extent that permitted volume usage each year varies, we concluded that each year represents a distinct stand-ready performance obligation and we allocate the transaction price to the performance obligation on a relative standalone-selling price basis and revenue is recognized ratably over each year. In determining whether professional services are distinct, we consider the following factors for each professional services agreemen availability of the services from other vendors, the nature of the professional services, the timing of when the professional services contract was signed in comparison to the cloud-based software, start date and the contractual dependence of the cloud-based software on the customer’s satisfaction with the professional services work. To date, we have concluded that all of the professional services included in contracts with multiple performance obligations are distinct. The determination of standalone selling price (SSP) for each distinct performance obligation requires judgment. We establish SSP for both our subscription services and professional services elements primarily by considering the actual sales prices of the element when sold on a stand-alone basis or when sold together with other elements. Our actual sales prices for subscription services and professional services for stand-alone sales do not typically vary from our prices for each element when sold together with other elements. When we are unable to rely on actual observable SSPs, we determine SSP based on inputs such as actual sales prices when sold together with other promised subscriptions or services and our overarching pricing objectives and strategies. Recent Accounting Pronouncements—Adopted in Fiscal 2023 See “Summary of Significant Accounting Policies and Recent Accounting Pronouncements” in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements of the Notes to Consolidated Financial Statements for more information. 61 Item 7A. Quantitative and Qualitative Disclosures About Market Risk We are exposed to certain market risks in the ordinary course of our business. Market risk represents the risk of loss that may impact our financial position due to adverse changes in financial market prices and rates. Our market risk exposure is primarily a result of fluctuations in foreign currency exchange rates and interest rates. Foreign Currency Exchange Risk Our sales contracts are denominated predominantly in U.S. Dollars, Euros (EUR), British Pounds (GBP) and Japanese Yen (JPY). A portion of our operating expenses are incurred outside the United States and denominated in foreign currencies and are subject to fluctuations due to changes in foreign currency exchange rates, particularly changes in the GBP, Chinese Yuan (CNY), and EUR. Additionally, fluctuations in foreign currency exchange rates may cause us to recognize transaction gains and losses in our consolidated statement of comprehensive loss. The effect of a hypothetical 10% change in foreign currency exchange rates applicable to our business would not have a material impact on our historical consolidated financial statements for the fiscal years ended January 31, 2023 and 2022. Given the impact of foreign currency exchange rates has not been material to our historical operating results, we have not entered into derivative or hedging transactions, but we may do so in the future if our exposure to foreign currency should become more significant. As our international operations grow, we will continue to reassess our approach to manage our risk relating to fluctuations in currency rates. Interest Rate Risk We had cash and cash equivalents and short-term investments of $386.2 million as of January 31, 2023. Our cash and cash equivalents and short-term investments are held for working capital purposes. We do not make investments for trading or speculative purposes. A significant decrease in these market rates may adversely affect our expected operating results. The 2029 Notes have a fixed interest rate and therefore are not impacted by market rates. Our cash equivalents and short-term investments are subject to market risk due to changes in interest rates. Fixed rate securities may have their market value adversely affected due to a rise in interest rates. Due in part to these factors, our future investment income may fall short of our expectations due to changes in interest rates or we may suffer losses in principal if we are forced to sell securities that decline in market value due to changes in interest rates. However, because we classify our short-term investments as “available-for-sale,” no gains or losses are recognized due to changes in interest rates unless such securities are sold prior to maturity or decreases in fair value are determined to be other-than-temporary. As of January 31, 2023, a hypothetical 10% relative change in interest rates would not have had a material impact on the value of our cash equivalents and short-term investments or interest owed on our outstanding debt. Fluctuations in the value of our cash equivalents and short-term investments caused by a change in interest rates (gains or losses on the carrying value) are recorded in other comprehensive income, and are realized only if we sell the underlying securities prior to maturity. In addition, a hypothetical 10% relative change in interest rates would not have had a material impact on our operating results for fiscal 2023. 62 Item 8. Financial Statements and Supplementary Data Index To Consolidated Financial Statements Page Report of Independent Registered Public Accounting Firm (PCAOB ID 185 ) 64 Consolidated Balance Sheets 66 Consolidated Statements of Comprehensive Loss 67 Consolidated Statements of Stockholders’ Equity 68 Consolidated Statements of Cash Flows 69 Notes to Consolidated Financial Statements 70 63 Report of Independent Registered Public Accounting Firm To the Stockholders and Board of Directors Zuora, Inc.: Opinions on the Consolidated Financial Statements and Internal Control Over Financial Reporting We have audited the accompanying consolidated balance sheets of Zuora, Inc. and subsidiaries (the Company) as of January 31, 2023 and 2022, the related consolidated statements of comprehensive loss, stockholders’ equity, and cash flows for each of the years in the three-year period ended January 31, 2023, and the related notes (collectively, the consolidated financial statements). We also have audited the Company’s internal control over financial reporting as of January 31, 2023, based on criteria established in I nternal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of January 31, 2023 and 2022, and the results of its operations and its cash flows for each of the years in the three-year period ended January 31, 2023, in conformity with U.S. generally accepted accounting principles. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of January 31, 2023 based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. Basis for Opinions The Company’s management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management's Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s consolidated financial statements and an opinion on the Company’s internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the consolidated financial statements included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions. Definition and Limitations of Internal Control Over Financial Reporting A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may 64 become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Critical Audit Matter The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and tha (1) relates to accounts or disclosures that are material to the consolidated financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of a critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates. Evaluation of standalone-selling prices (SSPs) for subscription services and professional services performance obligations As discussed in Note 2 to the consolidated financial statements, the Company recognized subscription revenue and professional services revenue of $338.4 million and $57.7 million, respectively, for the fiscal year ended January 31, 2023. The Company allocates the transaction price to each performance obligation on a relative standalone selling price (SSP) basis. The SSP is the estimated price at which the Company would sell a promised product or service separately to a customer. The Company establishes SSP for its subscription services and professional services performance obligations primarily by considering the actual sales prices of the promised product or service when sold on a stand-alone basis. When the Company is unable to rely on actual observable standalone sales prices, it estimates the SSP utilizing inputs such as actual sales prices when sold together with other promised goods or services and other factors such as its overarching pricing objectives and strategies. We identified the evaluation of SSP for subscription services and professional services performance obligations as a critical audit matter. A high degree of subjective auditor judgment was required to evaluate the Company’s inputs and factors used to estimate the SSPs, including sales prices for bundled arrangements, overarching pricing objectives and strategies, list prices, and historical sales pricing of the deliverables. The following are the primary procedures we performed to address this critical audit matter. We evaluated the design and tested the operating effectiveness of certain internal controls over the Company’s revenue process, including controls over the development of SSP and the relevance and reliability of the underlying data. For a selection of revenue transactions, we compared the historical sales information, including price and product category attributes, used by the Company to determine SSP to underlying customer contracts. We compared the range of prices used to establish SSP to historical sales prices for bundled arrangements. We assessed the Company’s determination that bundled prices were indicative of SSP taking into consideration list prices, historical sales of the deliverables, and pricing objectives and strategies. We interviewed the Company’s internal pricing team to obtain an understanding of the Company’s pricing objectives and strategies. /s/ KPMG LLP We have served as the Company’s auditor since 2011. Santa Clara , California April 3, 2023 65 ZUORA, INC. CONSOLIDATED BALANCE SHEETS (in thousands, except per share data) January 31, 2023 2022 Assets Current assets: Cash and cash equivalents $ 203,239 $ 113,507 Short-term investments 183,006 101,882 Accounts receivable, net of allowance for credit losses of $ 4,001 and $ 3,188 as of January 31, 2023 and January 31, 2022, respectively 91,740 82,263 Deferred commissions, current portion 16,282 15,080 Prepaid expenses and other current assets 24,285 15,603 Total current assets 518,552 328,335 Property and equipment, net 27,159 27,676 Operating lease right-of-use assets 22,768 32,643 Purchased intangibles, net 13,201 3,452 Deferred commissions, net of current portion 28,250 26,727 Goodwill 53,991 17,632 Other assets 4,677 4,787 Total assets $ 668,598 $ 441,252 Liabilities and stockholders’ equity Current liabiliti Accounts payable $ 1,073 $ 6,785 Accrued expenses and other current liabilities 103,678 14,225 Accrued employee liabilities 30,483 32,425 Debt, current portion — 1,660 Deferred revenue, current portion 167,145 152,740 Operating lease liabilities, current portion 9,240 11,462 Total current liabilities 311,619 219,297 Debt, net of current portion 210,403 — Deferred revenue, net of current portion 442 771 Operating lease liabilities, net of current portion 37,924 45,633 Deferred tax liabilities 3,717 3,243 Other long-term liabilities 7,333 1,701 Total liabilities 571,438 270,645 Commitments and contingencies (Note 13) Stockholders’ equity: Class A common stock - $ 0.0001 par value; 500,000 shares authorized, 127,384 and 119,008 shares issued and outstanding as of January 31, 2023 and 2022, respectively. 13 12 Class B common stock - $ 0.0001 par value; 500,000 shares authorized, 8,121 and 9,048 shares issued and outstanding as of January 31, 2023 and 2022, respectively. 1 1 Additional paid-in capital 859,482 734,149 Accumulated other comprehensive loss ( 919 ) ( 108 ) Accumulated deficit ( 761,417 ) ( 563,447 ) Total stockholders’ equity 97,160 170,607 Total liabilities and stockholders’ equity $ 668,598 $ 441,252 See notes to consolidated financial statements. 66 ZUORA, INC. CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (in thousands, except per share data) Fiscal Year Ended January 31, 2023 2022 2021 Reve Subscription $ 338,391 $ 287,747 $ 242,340 Professional services 57,696 58,991 63,080 Total revenue 396,087 346,738 305,420 Cost of reve Subscription 81,094 68,285 58,808 Professional services 72,135 71,821 71,962 Total cost of revenue 153,229 140,106 130,770 Gross profit 242,858 206,632 174,650 Operating expens Research and development 102,564 83,219 76,795 Sales and marketing 173,871 143,366 116,914 General and administrative 78,878 76,223 54,803 Litigation settlement 75,000 — — Total operating expenses 430,313 302,808 248,512 Loss from operations ( 187,455 ) ( 96,176 ) ( 73,862 ) Change in fair value of warrant liability 9,214 — — Interest expense ( 15,133 ) ( 152 ) ( 334 ) Interest and other income (expense), net 5,986 ( 1,670 ) 2,895 Loss before income taxes ( 187,388 ) ( 97,998 ) ( 71,301 ) Income tax provision 10,582 1,427 1,873 Net loss ( 197,970 ) ( 99,425 ) ( 73,174 ) Comprehensive l Foreign currency translation adjustment ( 461 ) ( 673 ) 696 Unrealized loss on available-for-sale securities, net of tax ( 350 ) ( 231 ) ( 88 ) Comprehensive loss $ ( 198,781 ) $ ( 100,329 ) $ ( 72,566 ) Net loss per share, basic and diluted $ ( 1.51 ) $ ( 0.80 ) $ ( 0.62 ) Weighted-average shares outstanding used in calculating net loss per share, basic and diluted 131,441 124,206 117,598 See notes to consolidated financial statements. 67 ZUORA, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (in thousands) Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Income (Loss) Deficit Equity Balance, January 31, 2020 97,134 $ 10 17,348 $ 2 $ 555,307 $ 188 $ ( 390,848 ) $ 164,659 Conversion of Class B common stock to Class A common stock 9,176 1 ( 9,176 ) ( 1 ) — — — — Issuance of common stock upon exercise of stock options, net of repurchases 8 — 2,714 — 11,784 — — 11,784 Lapse of restrictions on common stock related to early exercise of stock options — — — — 116 — — 116 RSU releases 2,778 — 118 — — — — — Issuance of common stock under the ESPP 730 — — — 7,637 — — 7,637 Charitable donation of stock 74 — — — 1,000 — — 1,000 Stock-based compensation — — — — 59,283 — — 59,283 Other comprehensive income — — — — — 608 — 608 Net loss — — — — — — ( 73,174 ) ( 73,174 ) Balance, January 31, 2021 109,900 $ 11 11,004 $ 1 $ 635,127 $ 796 $ ( 464,022 ) $ 171,913 Conversion of Class B common stock to Class A common stock 4,371 — ( 4,371 ) — — — — — Issuance of common stock upon exercise of stock options 509 1 2,389 — 18,498 — — 18,499 Lapse of restrictions on common stock related to early exercise of stock options — — — — 26 — — 26 RSU releases 3,462 — 26 — — — — — Issuance of common stock under the ESPP 705 — — — 7,428 — — 7,428 Charitable donation of stock 61 — — — 1,000 1,000 Stock-based compensation — — — — 72,070 — — 72,070 Other comprehensive loss — — — — — ( 904 ) — ( 904 ) Net loss — — — — — — ( 99,425 ) ( 99,425 ) Balance, January 31, 2022 119,008 $ 12 9,048 $ 1 $ 734,149 $ ( 108 ) $ ( 563,447 ) $ 170,607 Conversion of Class B common stock to Class A common stock 1,355 — ( 1,355 ) — — — — — Issuance of common stock upon exercise of stock options 49 — 428 — 2,471 — — 2,471 RSU releases 5,795 1 — — — — — 1 Issuance of common stock under the ESPP 1,076 — — — 7,019 — — 7,019 Charitable donation of stock 101 — — — 1,000 — — 1,000 Stock-based compensation — — — — 96,401 — — 96,401 Issuance of warrants — — — — 18,442 — — 18,442 Other comprehensive loss — — — — — ( 811 ) — ( 811 ) Net loss — — — — — — ( 197,970 ) ( 197,970 ) Balance, January 31, 2023 127,384 $ 13 8,121 $ 1 $ 859,482 $ ( 919 ) $ ( 761,417 ) $ 97,160 See notes to consolidated financial statements. 68 ZUORA, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) Fiscal Year Ended January 31, 2023 2022 2021 Cash flows from operating activiti Net loss $ ( 197,970 ) $ ( 99,425 ) $ ( 73,174 ) Adjustments to reconcile net loss to net cash (used in) provided by operating activiti Depreciation, amortization and accretion 18,738 16,760 15,308 Stock-based compensation 96,401 72,070 59,283 Provision for credit losses 2,245 2,919 3,686 Donation of common stock to charitable foundation 1,000 1,000 1,000 Amortization of deferred commissions 19,291 16,330 12,401 Reduction in carrying amount of right-of-use assets 7,363 9,717 8,265 Asset impairment 4,537 12,783 — Change in fair value of warrant liability (9,213) — — Change in fair value of contingent consideration ( 380 ) — — Other ( 391 ) 802 73 Changes in operating assets and liabiliti Accounts receivable ( 11,081 ) ( 6,322 ) ( 13,671 ) Prepaid expenses and other assets ( 7,379 ) ( 1,179 ) 895 Deferred commissions ( 22,802 ) ( 24,127 ) ( 17,842 ) Accounts payable ( 6,084 ) 4,457 106 Accrued expenses and other liabilities 88,353 1,424 53 Accrued employee liabilities ( 2,161 ) 1,165 7,065 Deferred revenue 12,020 24,281 16,812 Operating lease liabilities ( 13,131 ) ( 13,969 ) ( 8,974 ) Net cash (used in) provided by operating activities ( 20,644 ) 18,686 11,286 Cash flows from investing activiti Purchases of property and equipment ( 10,634 ) ( 8,776 ) ( 13,144 ) Insurance proceeds for damaged property and equipment — 344 988 Purchase of intangible assets — ( 1,349 ) — Purchases of short-term investments ( 234,246 ) ( 109,510 ) ( 97,363 ) Sales of short-term investments — — 2,511 Maturities of short-term investments 154,806 99,192 119,880 Cash paid for acquisition, net of cash acquired ( 41,000 ) — — Net cash (used in) provided by investing activities ( 131,074 ) ( 20,099 ) 12,872 Cash flows from financing activiti Proceeds from issuance of convertible senior notes, net of issuance costs 233,901 — — Proceeds from issuance of common stock upon exercise of stock options 2,471 18,499 11,784 Proceeds from issuance of common stock under employee stock purchase plan 7,019 7,428 7,637 Principal payments on long-term debt ( 1,480 ) ( 4,444 ) ( 4,440 ) Net cash provided by financing activities 241,911 21,483 14,981 Effect of exchange rates on cash and cash equivalents ( 461 ) ( 673 ) 696 Net increase in cash and cash equivalents 89,732 19,397 39,835 Cash and cash equivalents, beginning of year 113,507 94,110 54,275 Cash and cash equivalents, end of year $ 203,239 $ 113,507 $ 94,110 Supplemental disclosure of cash flow informati Cash paid for interest $ 7,608 $ 94 $ 262 Cash paid for tax $ 1,445 $ 1,395 $ 1,159 Supplemental disclosure of non-cash investing and financing activiti Lapse in restrictions on early exercised common stock options $ — $ 26 $ 116 Property and equipment purchases accrued or in accounts payable $ 4 $ 164 $ 70 Purchase of intangible assets included in accrued expenses and other current liabilities $ — $ 225 $ — See notes to consolidated financial statements. 69 ZUORA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Note 1. Overview and Basis of Presentation Description of Business Zuora, Inc. was incorporated in the state of Delaware in 2006 and began operations in 2007. Zuora ’ s fiscal year ends on January 31. Zuora is headquartered in Redwood City, California. Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the entire quote-to-cash and revenue recognition process, including quoting, billing, collections and revenue recognition. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. References to "Zuora”, "us”, “our”, or “we” in these notes refer to Zuora, Inc. and its subsidiaries on a consolidated basis. Basis of Presentation and Principles of Consolidation The accompanying consolidated financial statements, which include the accounts of Zuora and its wholly owned subsidiaries, have been prepared in conformity with accounting principles generally accepted in the United States of America (GAAP). All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates The preparation of consolidated financial statements in conformity with GAAP requires management to make certain estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the consolidated financial statements, as well as reported amounts of revenue and expenses during the reporting period. Actual results could differ materially from those estimates. Our most significant estimates and assumptions are related to revenue recognition with respect to the determination of the relative standalone selling prices for our services; the expected period of benefit over which deferred commissions are amortized; valuation of stock-based awards, our convertible senior notes and warrants; estimates of allowance for credit losses; estimates of the fair value of goodwill and long-lived assets when evaluating for impairments and for assets acquired from acquisitions; useful lives of intangibles and other long-lived assets; and the valuation of deferred income tax assets and contingencies. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Accordingly, actual results may differ materially from these estimates under different assumptions or conditions. Foreign Currency The functional currencies of our foreign subsidiaries are the respective local currencies. Translation adjustments arising from the use of differing exchange rates from period to period are included in accumulated other comprehensive loss within our consolidated balance sheets. Foreign currency transaction gains and losses are included in interest and other income (expense), net in the consolidated statements of comprehensive loss and were not material for fiscal 2023, 2022 and 2021. All assets and liabilities denominated in a foreign currency are translated into U.S. dollars at the exchange rate on the balance sheet date. Revenue and expenses are translated at the average exchange rate during the period, and equity balances are translated using historical exchange rates. Segment Information We operate as one operating segment. Our chief operating decision maker is our Chief Executive Officer, who primarily reviews financial information presented on a consolidated basis for purposes of making operating decisions, assessing financial performance, and allocating resources. 70 Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements Revenue Recognition Policy We generate revenue primarily from two sourc (1) subscription services, which is comprised of revenue from subscription fees from customers accessing our cloud-based software; and (2) professional services and other revenue. For the fiscal year ended January 31, 2023, subscription revenue was $ 338.4 million and professional services and other revenue was $ 57.7 million. Revenue is recognized upon satisfaction of performance obligations in an amount that reflects the consideration we expect to receive in exchange for those products or services. We determine the amount of revenue to be recognized through application of the following steps: ◦ Identification of the contract, or contracts with a customer; ◦ Identification of the performance obligations in the contract; ◦ Determination of the transaction price; ◦ Allocation of the transaction price to the performance obligations in the contract; and ◦ Recognition of revenue when or as we satisfy the performance obligations. Our subscription service arrangements are typically non-cancelable for a pre-specified subscription term and do not typically contain refund-type provisions. Subscription Services Subscription services revenue is primarily comprised of fees that provide customers with access to our cloud-based software during the term of the arrangement. Cloud-based services typically allow our customers to use our multi-tenant software without taking possession of the software. Revenue is generally recognized ratably over the contract term beginning on the commencement date of each contract, which is the date our cloud-based software is made available to customers. We generally invoice for subscription services annually or quarterly in advance of services being performed. Subscription agreements generally have terms ranging from one to three years . Amounts that have been invoiced are recorded in accounts receivable and in either deferred revenue or revenue in our consolidated financial statements, depending on whether the underlying performance obligation has been satisfied. Professional Services and Other Revenue Professional services revenue consists of fees for services related to helping our customers deploy, configure, and optimize the use of our solutions. These services include system integration, data migration, and process enhancement. Professional services projects generally take three to twelve months to complete. Once the contract is signed, we generally invoice for professional services on a time and materials basis, although we occasionally engage in fixed-price service engagements and invoice for those based upon agreed milestone payments. We recognize revenue as services are performed for time and materials engagements and on a proportional performance method as the services are performed for fixed fee engagements. Contracts with Multiple Performance Obligations We enter into contracts with our customers that often include cloud-based software subscriptions and professional services performance obligations. A performance obligation is a commitment in a contract with a customer to transfer products or services that are distinct. Determining whether products and services are distinct performance obligations that should be accounted for separately or combined as one unit of accounting may require judgment. Our cloud-based software subscriptions are distinct as such services are often sold separately. In addition, our subscription services contracts can include multi-year agreements that include a fixed annual platform fee and a volume block usage fee that may vary based on permitted volume usage each year. To the extent that permitted volume usage each year is the same, we have concluded that there is one multi-year stand-ready performance obligation. To the extent that permitted volume usage each year varies, we have concluded that each year represents a distinct stand-ready performance obligations and we allocate the transaction price to the performance obligations on a relative standalone-selling price basis and revenue is recognized ratably over each year. We consider the following factors for each professional services agreemen availability of the services from other vendors, the nature of the professional services, the timing of when the professional services contract was 71 signed in comparison to the cloud-based software, start date and the contractual dependence of the cloud-based software on the customer’s satisfaction with the professional services work. To date, we have concluded that all of the professional services included in contracts with multiple performance obligations are distinct. We allocate the transaction price to each performance obligation on a relative standalone selling price (SSP) basis. The SSP is the estimated price at which we would sell a promised product or service separately to a customer. Judgment is required to determine the SSP for each distinct performance obligation. We establish SSP for both our subscription services and professional services elements primarily by considering the actual sales prices of the element when sold on a stand-alone basis or when sold together with other elements. If we are unable to rely on actual observable sales inputs, we determine SSP based on inputs such as actual sales prices when sold together with other promised subscriptions or services and other factors such as our overarching pricing objectives and strategies. Deferred Commissions We capitalize sales commission expenses and associated payroll taxes paid to internal sales personnel that are incremental to obtaining customer contracts. These costs are deferred and then amortized over the expected period of benefit, which is estimated to be five years for new customers. Commissions for existing customer renewals are deferred and amortized over twelve months. We have determined the period of benefit taking into consideration several factors including the expected subscription term and expected renewals of our customer contracts, the duration of our relationships with our customers, and the life of our technology. Amortization expense is included in Sales and marketing in the accompanying consolidated statements of comprehensive loss. Contract Assets Subscription services revenue is generally recognized ratably over the contract term beginning on the commencement date of each contract. A contract asset results when revenue recognition occurs in advance of billing the customer. Contract assets are included in Prepaid expenses and other current assets in our consolidated balance sheets. The total value of our contract assets was $ 1.3 million as of January 31, 2023 and 2022. For further detail regarding our remaining performance obligations, please refer to Note 10. Deferred Revenue and Performance Obligations. Cost of Revenue Cost of subscription revenue primarily consists of costs relating to the hosting of our cloud-based software platform, including salaries and benefits of technical operations and support personnel, data communications costs, allocated overhead and property and equipment depreciation, amortization of internal-use software and purchased intangibles and the reduction in the carrying amount of ROU assets. Cost of professional services revenue primarily consists of the costs of delivering implementation services to customers of our cloud-based software platform, including salaries and benefits of professional services personnel and fees for third-party resources used in the delivery of implementation services. Advertising Expense Advertising costs are expensed as incurred. For the periods presented, advertising expense was not material. Concentrations of Credit Risk and Significant Clients and Suppliers Our financial instruments that are exposed to concentrations of credit risk consist primarily of cash and cash equivalents, short-term investments and accounts receivable. We deposit our cash and short-term investments primarily with one financial institution and, accordingly, such deposits regularly exceed federally insured limits. No single customer accounted for more than 10% of Zuora’s revenue or accounts receivable balance in any of the periods presented. Cash and Cash Equivalents We consider all highly liquid investments with original or remaining maturities of three months or less on the purchase date to be cash equivalents. Cash and cash equivalents carrying value approximate fair value and consist primarily of bank deposits and money market funds. 72 Short-term Investments We typically invest in high quality, investment grade securities from diverse issuers. We classify our short-term investments as available-for-sale. In general, these investments are free of trading restrictions. We carry these investments at fair value, based on quoted market prices or other readily available market information. Unrealized gains and losses, net of taxes, are included in accumulated other comprehensive loss, which is reflected as a separate component of stockholders’ equity in our consolidated balance sheets. Gains and losses are recognized when realized in our consolidated statements of comprehensive loss. When we have determined that an other-than-temporary decline in fair value has occurred, the amount of the decline that is related to a credit loss is recognized in income. Gains and losses are determined using the specific identification method. We review our debt securities classified as short-term investments on a regular basis to evaluate whether or not any security has experienced an other-than-temporary decline in fair value. We consider factors such as the length of time and extent to which the market value has been less than the cost, the financial condition and near-term prospects of the issuer and our intent to sell, or whether it is more likely than not it will be required to sell the investment before recovery of the investment’s amortized cost basis. If we believe that an other-than-temporary decline exists in one of these securities, we will write down these investments to fair value. The portion of the write-down related to credit loss would be recorded to Interest and other income (expense), net in our consolidated statements of comprehensive loss. Any portion not related to credit loss would be recorded to accumulated other comprehensive loss, which is reflected as a separate component of stockholders' equity in our consolidated balance sheets. We may sell our short-term investments at any time, without significant penalty, for use in current operations or for other purposes, even if they have not yet reached maturity. As a result, we have classified our investments, including any securities with maturities beyond 12 months, as current assets in the accompanying consolidated balance sheets. Accounts Receivable Our accounts receivable consists of client obligations due under normal trade terms, and are reported at the principal amount outstanding, net of the allowance for credit losses. We maintain an allowance for credit losses that is based upon historical loss patterns, the number of days that billings are past due, and an evaluation of the potential risk of loss related to certain accounts with high collection risk. The allowance for credit losses consists of the following activity (in thousands): Fiscal Year Ended January 31, 2023 2022 Allowance for credit losses, beginning balance $ 3,188 $ 4,522 Additio Charged to revenue 2,245 2,919 Charged to deferred revenue 1,818 1,801 Deductio Write-offs to revenue ( 2,201 ) ( 3,423 ) Write-offs to deferred revenue ( 1,049 ) ( 2,631 ) Allowance for credit losses, ending balance $ 4,001 $ 3,188 Property and Equipment, Net Property and equipment are stated at cost. Depreciation is calculated on a straight-line basis over the estimated useful lives of the related assets, generally three to five years . Leasehold improvements are depreciated over the shorter of their remaining related lease term or estimated useful life. When assets are retired, the cost and accumulated depreciation are removed from their respective accounts, and any gain or loss on such sale or disposal is reflected in operating expenses in the accompanying consolidated statements of comprehensive loss. 73 Acquisitions We assess acquisitions under ASC Topic 805, Business Combinations (ASC 805) to determine whether a transaction represents the acquisition of assets or a business combination. Under this guidance, we apply a two-step model. The first step involves a screening test where we evaluate whether substantially all of the fair value of the gross assets acquired is concentrated in either a single asset or a group of similar assets. If the screening test is met, we account for the set as an asset acquisition. If the screening test is not met, we apply the second step of the model to determine if the set meets the definition of a business based on the guidance in ASC 805. If the second step is met, the transaction is treated as a business combination. If the second step is not met, it is treated as an asset acquisition. A business combination is accounted for using the acquisition method of accounting. Under the acquisition method, assets acquired and liabilities assumed are recorded at their respective fair values as of the acquisition date. Any excess fair value of consideration transferred over the fair value of the net assets acquired is recorded as goodwill. The allocation of the consideration requires management to make significant estimates in determining the fair values of assets acquired and liabilities assumed, especially with respect to intangible assets. These estimates can include, but are not limited to, the cash flows that an asset is expected to generate in the future, the appropriate weighted average cost of capital, and the cost savings related to the business combination. These estimates are inherently uncertain and unpredictable. Contingent consideration incurred in connection with the business combination is recorded at its fair value on the acquisition date and is remeasured through credits or charges to the consolidated statements of comprehensive loss each subsequent reporting period and is classified as contingent consideration in the condensed consolidated balance sheet until the related contingencies are resolved. Goodwill, Acquired Intangible Assets, Internal-Use Software and Web Site Development Costs, and Impairment of Long-Lived Assets Goodwill. Goodwill represents the excess purchase consideration of an acquired business over the fair value of the net tangible and identifiable intangible assets. Goodwill is evaluated for impairment annually on December 1, and whenever events or changes in circumstances indicate the carrying value of goodwill may not be recoverable. Triggering events that may indicate impairment include, but are not limited to, a significant adverse change in customer demand or business climate or a significant decrease in expected cash flows. An impairment loss is recognized to the extent that the carrying amount exceeds the reporting unit’s fair value, not to exceed the carrying amount of goodwill. We have the option to first assess qualitative factors to determine whether events or circumstances indicate that it is more likely than not that the fair value of a reporting unit is less than its carrying amount and determine whether further action is needed. If, after assessing the totality of events or circumstances, we determine it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then performing the quantitative impairment test is unnecessary. No impairment charges were recorded during fiscal 2023, 2022 or 2021. Acquired Intangible Assets . Acquired intangible assets consist of developed technology, customer relationships, and trade names, resulting from Zuora’s acquisitions. Acquired intangible assets are recorded at fair value on the date of acquisition and amortized over their estimated useful lives on a straight-line basis. Internal-Use Software and Web Site Development Costs . We capitalize costs related to developing our suite of software solutions and our website when it is probable the expenditures will result in significant new functionality. Costs incurred in the preliminary stages of development are expensed as incurred. Once an application has reached the development stage, internal and external costs, if direct and incremental, are capitalized until the software is substantially complete and ready for its intended use. Capitalized costs are recorded as part of property and equipment, net in our consolidated balance sheets. Maintenance and training costs are expensed as incurred. Internal-use software is amortized on a straight-line basis over its estimated useful life, which is generally three years . Impairment of Long-Lived Assets . The carrying amounts of long-lived assets, including property and equipment, capitalized internal-use software, acquired intangible assets, deferred commissions, and ROU assets, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying value of these assets may not be recoverable or that the useful life is shorter than originally estimated. Recoverability of assets to be held and used is measured by comparing the carrying amount of an asset to future undiscounted net cash flows the asset is expected to generate over its remaining life. If the asset is determined to be impaired, the amount of any impairment recognized is measured as the difference between the carrying value and the fair value of the impaired asset. If the useful life is shorter than originally estimated, we amortize the remaining carrying value over the new shorter useful life. During fiscal 2023 and fiscal 2022, we recognized impairment charges totaling $ 4.5 million and $ 12.8 million, respectively, related to exiting certain excess office space that we have marketed for 74 sublease. See Note 12. Leases for further details of these charges. There were no material impairments recognized for fiscal 2021. Income Taxes We use the asset-and-liability method of accounting for income taxes. Under this method, we recognize deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the financial reporting and tax basis of assets and liabilities, as well as for operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates that are expected to apply to taxable income for the years in which those tax assets and liabilities are expected to be realized or settled. We record a valuation allowance to reduce our deferred tax assets to the net amount that we believe is more likely than not to be realized. In assessing the need for a valuation allowance, we have considered our historical levels of income, expectations of future taxable income and ongoing tax planning strategies. Because of the uncertainty of the realization of the deferred tax assets in the U.S., we have recorded a full valuation allowance against our deferred tax assets. Realization of our deferred tax assets is dependent primarily upon future U.S. taxable income. We recognize and measure tax benefits from uncertain tax positions using a two-step approach. The first step is to evaluate the tax position taken or expected to be taken by determining if the weight of available evidence indicates that it is more likely than not that the tax position will be sustained in an audit, including resolution of any related appeals or litigation processes. The second step is to measure the tax benefit as the largest amount that is more than 50% likely to be realized upon ultimate settlement. Significant judgment is required to evaluate uncertain tax positions. Although we believe that we have adequately reserved for our uncertain tax positions, it can provide no assurance that the final tax outcome of these matters will not be materially different. We evaluate our uncertain tax positions on a regular basis and evaluations are based on a number of factors, including changes in facts and circumstances, changes in tax law, correspondence with tax authorities during the course of an audit and effective settlement of audit issues. To the extent that the final tax outcome of these matters is different than the amounts recorded, such differences will affect the provision for income taxes in the period in which such determination is made and could have a material impact on our financial condition and results of operations. The provision for income taxes includes the effects of any accruals that we believe are appropriate, as well as the related net interest and penalties. Stock-Based Compensation We measure our employee and director stock-based compensation awards, including purchase rights issued under the ESPP, based on the award's estimated fair value on the date of grant. We estimate the fair value of stock options, and purchase rights under the ESPP, using the Black-Scholes option-pricing model. The fair value of restricted stock units (RSUs) and PSUs is equal to the fair value of our common stock on the date of grant. Expense associated with our equity awards is recognized net of estimated forfeitures in our consolidated statements of comprehensive loss using the straight-line attribution method over the requisite service period for stock options and RSUs; over the period we expect the service and performance conditions under the award will be achieved for PSUs; and over the offering period for the purchase rights issued under the ESPP. Estimated forfeitures are based upon our historical experience and we revise our estimates, if necessary, in subsequent periods if actual forfeitures differ from initial estimates. For PSUs, we evaluate the vesting conditions on an ongoing basis and stop recognizing expense when we deem the PSU is no longer probable of vesting. If we deem the PSU to be improbable of vesting, we record an adjustment to reverse all previously recognized expense associated with the PSU in the current period. Stock options generally vest over four years and have a contractual term of ten years . ESPP purchase rights vest over the two year offering period. RSUs generally vest over three to four years and PSUs generally vest over one to three years . Determining the grant date fair value of options, RSUs, and PSUs requires management to make assumptions and judgments. These estimates involve inherent uncertainties and if different assumptions had been used, stock-based compensation expense could have been materially different from the amounts recorded. The assumptions and estimates for valuing stock options are as follows: 75 • Fair value per share of Company’s common stock. We use the publicly quoted price of our common stock as reported on the New York Stock Exchange as the fair value of our common stock. • Expected volatility. We determine the expected volatility based on historical average volatilities of similar publicly traded companies corresponding to the expected term of the awards. • Expected term. We determine the expected term of awards which contain only service conditions using the simplified approach, in which the expected term of an award is presumed to be the mid-point between the vesting date and the expiration date of the award, as we do not have sufficient historical data relating to stock-option exercises. • Risk-free interest rate. The risk-free interest rate is based on the U.S. Treasury yield curve in effect during the period the options were granted corresponding to the expected term of the awards. • Estimated dividend yield. The estimated dividend yield is zero , as we do not currently intend to declare dividends in the foreseeable future. Net Loss per Share Basic net loss per share is computed by dividing net loss by the weighted-average number of shares of common stock outstanding during the period. Options subject to early exercise that are exercised prior to vesting are excluded from the computation of weighted-average number of shares of common stock outstanding until such shares have vested. Diluted net loss per share is computed by dividing net loss by the weighted-average number of shares of common stock outstanding during the period increased by giving effect to all potentially dilutive securities to the extent they are dilutive. Leases We determine if a contract is a lease or contains a lease at the inception of the contract and reassess that conclusion if the contract is modified. All leases are assessed for classification as an operating lease or a finance lease. Operating lease right-of-use (ROU) assets are presented separately in our consolidated balance sheets. Operating lease liabilities are also presented separately as current and non-current liabilities in our consolidated balance sheets. We do not have any finance lease ROU assets or liabilities. ROU assets represent our right to use an underlying asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. We do not obtain and control our right to use the identified asset until the lease commencement date. Our lease liabilities are recognized at the applicable lease commencement date based on the present value of the lease payments required to be paid over the lease term. When the rate implicit in the lease is not readily determinable, we use the incremental borrowing rate to discount the lease payments to present value. The estimated incremental borrowing rate is derived from information available at the lease commencement date and factors in a hypothetical interest rate on a collateralized basis with similar terms, payments and economic environments. Our ROU assets are also recognized at the applicable lease commencement date. The ROU asset equals the carrying amount of the related lease liability, adjusted for any lease payments made prior to lease commencement, minus any lease incentives received, and any direct costs incurred by the lessee. Any variable lease payments are expensed as incurred and do not factor into the measurement of the applicable ROU asset or lease liability. The term of our leases equals the non-cancellable period of the lease, including any rent-free periods provided by the lessor, and also includes options to renew or extend the lease (including by not terminating the lease) that we are reasonably certain to exercise. We establish the term of each lease at lease commencement and reassess that term in subsequent periods when one of the triggering events outlined in Topic 842 occurs. Operating lease cost for lease payments is recognized on a straight-line basis over the lease term. Our lease contracts often include lease and non-lease components. We have elected the practical expedient offered by the standard to not separate lease from non-lease components for our facilities leases and account for them as a single lease component. We have elected not to recognize ROU assets and lease liabilities for leases with a term of twelve months or less. Lease cost for these short-term leases is recognized on a straight-line basis over the lease term. We have one sublease, which is classified as an operating lease. We recognize sublease income on a straight-line basis over the sublease term. Sublease income is reported as a reduction in our operating lease cost and is allocated across the consolidated statements of comprehensive loss. 76 Derivative Financial Instruments The accounting treatment of derivative financial instruments requires that we record certain embedded features and warrants as assets or liabilities at their fair value as of the inception date of the agreement and at fair value as of each subsequent balance sheet date with any change in fair value recorded as income or expense. In connection with our issuance of the Initial Notes to Silver Lake on March 24, 2022 as described in Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock , we adopted a sequencing policy in accordance with ASC 815-40 whereby financial instruments issued will be ordered by conversion or exercise price. Deferred Debt Issuance Costs Costs directly associated with obtaining debt financing are deferred and amortized using the effective interest rate method over the expected term of the related debt agreement. We determine the expected term of debt agreements by assessing the contractual term of the debt as well as any non-contingent put rights provided to the lenders. Unamortized amounts related to long-term debt are reflected on the consolidated balance sheets as a direct deduction from the carrying amounts of the related long-term debt liability. Amortization expense of deferred loan costs was approximately $ 6.6 million for the fiscal year ended January 31, 2023, and is included in Interest expense on the accompanying consolidated statements of comprehensive loss. Earnings per Share Basic earnings per share (EPS) is calculated by dividing the net income or loss available to common stockholders by the weighted average number of shares of common stock outstanding for the period without consideration for common stock equivalents. Diluted EPS is computed by dividing the net income or loss available to common stockholders by the weighted average number of shares of common stock outstanding for the period and the weighted average number of dilutive common stock equivalents outstanding for the period determined using the if-converted method (convertible debt instruments) or treasury-stock method (warrants and share-based payment arrangements). For purposes of this calculation, common stock issuable upon conversion of debt, options and warrants are considered to be common stock equivalents and are only included in the calculation of diluted earnings per share when their effect is dilutive. Recent Accounting Pronouncements—Adopted in Fiscal 2023 In August 2020, the FASB issued ASU 2020-06, Debt - Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging - Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity, which simplifies the accounting for convertible instruments by removing certain separation models previously required under U.S. GAAP, including the beneficial conversion feature and cash conversion models. This ASU also simplifies the diluted earnings per share calculation in certain areas. The standard was effective for us beginning February 1, 2022 and we utilized the modified retrospective transition method of adoption. The adoption of this standard had no impact on our retained earnings or other components of equity as of the February 1, 2022 adoption date and had no impact to our earnings per share during the period of adoption. In October 2021, the FASB issued ASU 2021-08, Business Combinations (Topic 805): Accounting for Contract Assets and Contract Liabilities from Contracts with Customers. The standard requires an acquirer in a business combination to recognize and measure contract assets and contract liabilities acquired in a business combination in accordance with ASC 606, Revenue from Contracts with Customers, as if it had originated the contracts. We retroactively adopted this standard as of February 1, 2022. The adoption of this standard on February 1, 2022 had no impact on our condensed consolidated financial statements. 77 Note 3. Investments The amortized costs, unrealized gains and losses and estimated fair values of our short-term investments were as follows (in thousands): January 31, 2023 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 34,865 $ — $ ( 377 ) $ 34,488 Corporate bonds 41,974 — ( 189 ) 41,785 Commercial paper 102,720 — — 102,720 Foreign government securities 4,023 — ( 10 ) 4,013 Total short-term investments $ 183,582 $ — $ ( 576 ) $ 183,006 January 31, 2022 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 18,082 $ — $ ( 155 ) $ 17,927 Corporate bonds 21,225 — ( 49 ) 21,176 Commercial paper 55,234 — — 55,234 Supranational bonds 3,503 — — 3,503 Foreign government securities 4,064 — ( 22 ) 4,042 Total short-term investments $ 102,108 $ — $ ( 226 ) $ 101,882 There were no material realized gains or losses from sales of marketable securities that were reclassified out of accumulated other comprehensive loss into investment income during fiscal 2023 and 2022. We had no significant unrealized losses on our available-for-sale securities as of January 31, 2023 and January 31, 2022, and we do not expect material credit losses on our current investments in future periods. All securities had stated effective maturities of less than one year as of January 31, 2023. 78 Note 4. Fair Value Measurements The accounting guidance for fair value measurements establishes a three-tier hierarchy, which prioritizes the inputs used in the valuation methodologies in measuring fair value as follows: Level input Input definition Level 1 Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets Level 2 Inputs other than quoted prices included within Level 1 that are observable for the asset or liability through corroboration with market data at the measurement date Level 3 Unobservable inputs that reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date In general, and where applicable, we use quoted prices in active markets for identical assets or liabilities to determine fair value. If quoted prices in active markets for identical assets or liabilities are not available to determine fair value, then we use quoted prices for similar assets and liabilities or inputs other than the quoted prices that are observable either directly or indirectly. The following tables summarize our fair value hierarchy for our financial assets measured at fair value on a recurring basis (in thousands): January 31, 2023 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 184,580 $ — $ — $ 184,580 Short-term investments: U.S. government securities $ — $ 34,488 $ — $ 34,488 Corporate bonds — 41,785 — 41,785 Commercial paper — 102,720 — 102,720 Foreign government securities — 4,013 — 4,013 Total short-term investments $ — $ 183,006 $ — $ 183,006 Liabiliti Warrant liability $ — $ — $ 2,829 $ 2,829 January 31, 2022 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 92,668 $ — $ — $ 92,668 Short-term investments: U.S. government securities $ — $ 17,927 $ — $ 17,927 Corporate bonds — 21,176 — 21,176 Commercial paper — 55,234 — 55,234 Supranational bonds — 3,503 — 3,503 Foreign government securities — 4,042 — 4,042 Total short-term investments $ — $ 101,882 $ — $ 101,882 79 Changes in our Level 3 fair value measurements were as follows (in thousands): Warrant Liability Balance, January 31, 2022 $ — Issuances 12,043 Gain on change in fair value ( 9,214 ) Balance, January 31, 2023 $ 2,829 The carrying amounts of certain financial instruments, including cash held in bank accounts, accounts receivable, accounts payable, and accrued expenses approximate fair value due to their relatively short maturities. As of January 31, 2023, the net carrying amount of the Initial Notes was $ 210.4 million, and the estimated fair value was $ 147.8 million. The fair value of the Initial Notes is classified as a Level 3 measurement. Additional information regarding the Initial Notes and Warrant liability is included in Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock , respectively. Our long- and indefinite-lived assets are measured at fair value on a non-recurring basis and are reduced if the assets are determined to be impaired. During the fiscal years ended January 31, 2023 and January 31, 2022, we recognized impairment charges of $ 4.5 million and $ 12.8 million, respectively, related to ROU assets, leasehold improvements, and furniture and fixtures associated with certain of our operating leases for office spaces we have marketed for sublease. We estimated the fair value of these assets when we identified indicators of impairment using a market approach based on expected future cash flows from sublease income, which relied on certain assumptions made by management based on both internal and external data. These assumptions included estimates of the rental rate, discount rate, period of vacancy, incentives and annual rent increases, which were determined based on recent market comparable data and other data regarding general market conditions we reviewed in consultation with third-party commercial real estate experts. See Note 12. Leases for further details on the impairment charges we recorded. As a result of the subjective nature of unobservable inputs used, these assets are classified within Level 3 of the fair value hierarchy. Note 5. Prepaid Expenses and Other Current Assets Prepaid expenses and other current assets consisted of the following (in thousands): January 31, 2023 2022 Prepaid software subscriptions $ 7,533 $ 6,854 Taxes 3,860 1,270 Prepaid insurance 3,225 3,220 Insurance payments receivable 2,000 — Contract assets 1,325 1,289 Deposits 1,168 250 Prepaid hosting costs 871 767 Other 4,303 1,953 Total $ 24,285 $ 15,603 80 Note 6. Property and Equipment, Net Property and equipment, net consisted of the following (in thousands): January 31, 2023 2022 Software $ 32,778 $ 25,495 Leasehold improvements 1 15,254 17,277 Computer equipment 11,780 14,746 Furniture and fixtures 1 3,793 4,424 63,605 61,942 L accumulated depreciation and amortization ( 36,446 ) ( 34,266 ) Total $ 27,159 $ 27,676 _________________________________ (1) The cost basis of leasehold improvements and furniture and fixtures was reduced to reflect impairments of $ 1.1 million and $ 0.1 million, respectively, recorded during the fiscal year ended January 31, 2023. For more information, refer to Note 12. Leases . The following table summarizes the capitalized internal-use software costs included within the Software line item in the table above (in thousands): Fiscal Year Ended January 31, 2023 2022 2021 Internal-use software costs capitalized during the period $ 7,066 $ 5,785 $ 4,235 January 31, 2023 2022 Total capitalized internal-use software, net of accumulated amortization $ 14,138 $ 11,534 The following table summarizes total depreciation and amortization expense related to property and equipment, including amortization of internal-use software, included primarily in Cost of subscription revenue and General and administrative in the accompanying consolidated statements of comprehensive loss (in thousands): Fiscal Year Ended January 31, 2023 2022 2021 Total depreciation and amortization expense $ 9,668 $ 11,430 $ 10,571 81 Note 7. Intangible Assets and Goodwill Intangible Assets The following table summarizes the purchased intangible asset balances (in thousands): January 31, 2023 Gross Carrying Amount Accumulated Amortization Net Carrying Amount Developed technology $ 19,571 $ ( 9,194 ) $ 10,377 Customer relationships 5,187 ( 3,225 ) 1,962 Trade names 1,709 ( 847 ) 862 Total $ 26,467 $ ( 13,266 ) $ 13,201 January 31, 2022 Gross Carrying Amount Accumulated Amortization Net Carrying Amount Developed technology $ 9,271 $ ( 7,692 ) $ 1,579 Customer relationships 4,287 ( 2,717 ) 1,570 Trade names 909 ( 606 ) 303 Total $ 14,467 $ ( 11,015 ) $ 3,452 Purchased intangible assets are being amortized primarily to Cost of subscription revenue in the accompanying consolidated statements of comprehensive loss on a straight-line basis over their estimated useful lives ranging from three to ten years . The following table summarizes amortization expense recognized on purchased intangible assets during the periods indicated (in thousands): Fiscal Year Ended January 31, 2023 2022 2021 Purchased intangible assets amortization expense $ 2,251 $ 2,050 $ 1,692 Estimated future amortization expense for purchased intangible assets as of January 31, 2023 was as follows (in thousands): Fiscal 2024 $ 2,953 Fiscal 2025 2,509 Fiscal 2026 1,874 Fiscal 2027 1,561 Fiscal 2028 1,561 Thereafter 2,743 $ 13,201 Goodwill The following table represents the changes to goodwill (in thousands): Goodwill Balance, January 31, 2022 $ 17,632 Addition from acquisition 35,009 Effects of foreign currency translation 1,350 Balance, January 31, 2023 $ 53,991 There were no changes in the carrying amount of goodwill for the fiscal year ended January 31, 2022. Zuora has one reporting unit. We performed an annual test for goodwill impairment as of December 1, 2022 and determined that goodwill was not impaired as a result of our qualitative assessment. In addition, there have 82 been no significant events or circumstances affecting the valuation of goodwill subsequent to our annual assessment. Note 8. Accrued Expenses and Other Current Liabilities Accrued expenses and other current liabilities consisted of the following (in thousands): January 31, 2023 2022 Litigation settlement $ 75,000 $ — Accrued contingent consideration 4,420 — Accrued hosting and third-party licenses 4,374 3,865 Accrued taxes 4,088 2,422 Accrued outside services and consulting 3,507 3,712 Warrant liability 2,829 — Accrued interest 850 3 Other accrued expenses 8,610 4,223 Total $ 103,678 $ 14,225 Note 9. Debt 2029 Notes On March 24, 2022 (Initial Closing Date), we issued convertible senior notes (Initial Notes) in the aggregate principal amount of $ 250.0 million pursuant to an investment agreement (Investment Agreement) and indenture agreement (Indenture) to certain entities affiliated with Silver Lake Alpine II, L.P. (Silver Lake). Pursuant to the Investment Agreement, we have agreed to issue additional convertible senior notes in the aggregate principal amount of $ 150.0 million (Additional Notes), (together with the Initial Notes, the “2029 Notes”) to Silver Lake 18 months after the Initial Closing Date, with an earlier issuance upon our completion of a Material Acquisition that meets the conditions described in Section 2.02(a) of the Investment Agreement. In addition, in the event that a Change in Control (as defined in the Indenture) occurs prior to the Additional Notes being issued, the noteholder would have the right to receive, at the noteholder's election, the Additional Notes, a cash payment, or common stock, as described in Section 2.02(b) of the Investment Agreement. The Initial Notes and the Additional Notes, once issued, represent senior unsecured obligations of Zuora. As a condition of the Investment Agreement, we also issued warrants to Silver Lake to acquire up to 7.5 million shares of Class A common stock (Warrants), of which (i) up to 2.5 million Warrants are exercisable at $ 20.00 per share, (ii) up to 2.5 million Warrants are exercisable at $ 22.00 per share and (iii) up to 2.5 million Warrants are exercisable at $ 24.00 per share. The Warrants are exercisable for a period of seven years from the Initial Closing Date. The purchase price of the 2029 Notes is 98 % of the par value. The 2029 Notes bear interest at a rate of 3.95 % per annum, payable quarterly in cash, provided that we have the option to pay interest in kind at 5.50 % per annum. If elected, any such paid in kind interest will be added to the principal balance at each quarterly interest payment date. The 2029 Notes will mature on March 31, 2029, subject to earlier conversion or redemption. The Initial Notes are convertible at Silver Lake’s option into shares of our Class A common stock at an initial conversion rate of 50.0 shares per $ 1,000 principal amount ($ 20.00 per share, representing 12.5 million shares of Class A common stock), subject to customary anti-dilution adjustments. Any 2029 Notes that are converted in connection with a Make-Whole Fundamental Change (as defined in the Indenture) are subject to an increase in the conversion rate under certain circumstances. With certain exceptions, upon a Fundamental Change, the holders of the 2029 Notes may require that we repurchase all or part of the principal amount of the 2029 Notes at a purchase price equal to the principal amount and accrued but unpaid interest outstanding, plus the total sum of all remaining scheduled interest payments through the remainder of the term of the 2029 Notes, at the 5.50 % paid in kind interest rate. At any time on or after the fifth anniversary of the Initial Closing Date, the holders of the 2029 Notes may require that we repurchase all or part of the principal amount of the Notes at a purchase price equal to the principal amount plus accrued interest 83 through the date of repurchase. Upon certain events of default, the 2029 Notes may be declared due and payable (or will automatically become so under certain events of default), at a purchase price equal to the principal amount plus accrued interest through the date of repurchase. We have no right to redeem the 2029 Notes prior to maturity. Pursuant to the Investment Agreement, without our prior written consent, Silver Lake is restricted from converting any 2029 Note, exercising any Warrant or transferring any 2029 Note or Warrant to parties other than affiliates or members of Silver Lake (with certain limited exceptions) for 18 months following the Initial Closing Date, or if sooner, upon the consummation of any Change in Control (as defined in the Investment Agreement) or entry into a definitive agreement for a transaction that, if consummated, would result in a Change in Control. We determined that the Initial Notes arrangement consisted of three freestanding instruments: the Initial Notes, the Warrants and the loan commitment related to the Additional Notes. In addition, we evaluated the embedded features in the Initial Notes and identified certain embedded features which were not clearly and closely related to the Initial Notes and met the definition of a derivative, and therefore required bifurcation from the host contract. We determined that the fair value of these bifurcated derivatives was de minimis as of the Initial Closing Date and as of January 31, 2023. As further discussed in Note 17. Warrants to Purchase Shares of Common Stock , a portion of the Warrants issued were determined to require liability classification with the remaining Warrants eligible to be classified in stockholders’ equity. As such, we allocated the proceeds obtained from the Initial Notes first to the liability-classified Warrants and then, on a relative fair value basis, between the equity-classified Warrants and the Initial Notes. We incurred approximately $ 8.1 million of debt issuance costs associated with the 2029 Notes and Warrants. Of this amount, we allocated $ 7.1 million as a component of the discount on the 2029 Notes, $ 0.7 million against the proceeds allocated to the equity-classified Warrants and $ 0.3 million was allocated to the liability-classified Warrants and recorded to General and administrative expense in the accompanying consolidated statements of comprehensive loss. The 2029 Notes debt discount is being amortized using the effective interest rate method over the five year expected life of the 2029 Notes (representing the period from the contract date to the earliest noncontingent put date of May 24, 2027) and reflects an effective interest rate of 8.5 %. The carrying value of the Initial Notes was classified as long-term and consisted of the following (in thousands): January 31, 2023 Initial Notes principal $ 250,000 Unamortized debt discount ( 39,597 ) Carrying value $ 210,403 Interest expense related to the Initial Notes, included in Interest expense in the accompanying audited condensed consolidated statements of comprehensive loss, was as follows (in thousands): Fiscal Year Ended January 31, 2023 Contractual interest expense $ 8,421 Amortization of debt discount 6,644 Total interest expense $ 15,065 Debt Agreement We have a $ 30.0 million revolving credit facility, which is currently undrawn, under an agreement (Debt Agreement) originally entered into with Silicon Valley Bank (SVB). This credit facility matures in October 2025. Following the closure of SVB in March 2023, the credit facility was subsequently assumed by First Citizens Bank & Trust Company. The interest rate under the credit facility is equal to the prime rate published by the Wall Street Journal minus 1.00 %. We had no t drawn down any amounts under the facility as of January 31, 2023. 84 The Debt Agreement also included a term loan facility, under which we borrowed $ 15.0 million in June 2017 to partially finance the acquisition of Leeyo Software, Inc. The term loan facility fully matured in June 2022. We made term loan principal and interest payments totaling $ 1.5 million in fiscal 2023, including the final term loan principal and interest payment of $ 0.4 million during the second quarter of 2023, and paid a fee of 1.5 % of the original principal amount of the term loan facility, or $ 225,000 , upon termination of the facility. Note 10. Deferred Revenue and Performance Obligations The following table summarizes revenue recognized during the period that was included in the deferred revenue balance at the beginning of each respective period (in thousands): Fiscal Year Ended January 31, 2023 2022 2021 Revenue recognized from deferred revenue $ 147,036 $ 126,245 $ 107,091 As of January 31, 2023, total remaining non-cancellable performance obligations under our subscription contracts with customers was approximately $ 500.3 million and we expect to recognize revenue on approximately 59 % of these remaining performance obligations over the next 12 months. Remaining performance obligations under our professional services contracts as of January 31, 2023 were not material. Note 11. Geographical Information Disaggregation of Revenue Revenue by country, based on the customer’s address at the time of sale, was as follows (in thousands): Fiscal Year Ended January 31, 2023 2022 2021 United States $ 257,653 $ 218,502 $ 200,273 Others 138,434 128,236 105,147 Total $ 396,087 $ 346,738 $ 305,420 Percentage of revenue by country: United States 65 % 63 % 66 % Other 35 % 37 % 34 % Other than the United States, no individual country exceeded 10% of total revenue for fiscal 2023, 2022 and 2021. Long-lived assets Long-lived assets, which consist of property and equipment, net, deferred commissions, purchased intangible assets, net and operating lease right-of-use assets by geographic location, are based on the location of the legal entity that owns the asset. As of January 31, 2023 and 2022, no individual country exceeded 10% of total long-lived assets other than the United States. Note 12. Leases We have non-cancelable operating leases for our offices located in the U.S. and abroad. As of January 31, 2023, these leases expire on various dates between 2023 and 2030. Certain lease agreements include one or more options to renew, with renewal terms that can extend the lease up to seven years . We have the right to exercise or forego the lease renewal options. The lease agreements do not contain any material residual value guarantees or material restrictive covenants. 85 The components of our long-term operating leases and related operating lease cost were as follows (in thousands): January 31, 2023 2022 Operating lease right-of-use assets $ 22,768 $ 32,643 Operating lease liabilities, current portion $ 9,240 $ 11,462 Operating lease liabilities, net of current portion 37,924 45,633 Total operating lease liabilities $ 47,164 $ 57,095 Fiscal Year Ended January 31, 2023 2022 2021 Operating lease cost 1 $ 9,933 $ 12,681 $ 11,933 _________________________________ (1) Includes costs related to our short-term operating leases and is net of sublease income as follows (in thousands): Fiscal Year Ended January 31, 2023 2022 2021 Short-term operating lease cost $ 483 $ 402 $ 193 Sublease income $ ( 98 ) $ — $ — The future maturities of long-term operating lease liabilities for each fiscal year were as follows (in thousands): Maturities of Operating Lease Liabilities 2024 $ 11,288 2025 6,874 2026 6,493 2027 6,705 2028 6,800 Thereafter 17,412 Total lease payments 55,572 Less imputed interest ( 8,408 ) Present value of lease liabilities $ 47,164 86 Other supplemental information related to our long-term operating leases includes the following (dollars in thousands): January 31, 2023 2022 Weighted-average remaining operating lease term 6.7 years 7.0 years Weighted-average operating lease discount rate 4.8 % 4.6 % Fiscal Year Ended January 31, 2023 2022 2021 Supplemental Cash Flow Information Cash paid for amounts included in the measurement of lease liabiliti Cash paid for operating leases $ 12,802 $ 13,701 $ 9,693 Operating cash flows resulting from operating leases $ 12,802 $ 13,701 $ 9,693 New right-of-use assets obtained in exchange for lease liabiliti Operating leases obtained $ 799 $ 5,040 $ 1,064 As of January 31, 2023, we had $ 3.4 million of undiscounted future payments for an operating lease that had not yet commenced, which is excluded from the tables above and is not yet recognized in our consolidated balance sheets. This operating lease is expected to commence in fiscal year 2024 and has a lease term of 36 months. During the fiscal years ended January 31, 2023 and January 31, 2022, we identified indicators of impairment for certain of our excess office spaces that we have marketed for sublease. In accordance with ASC Topic 360, we evaluated the associated asset groups for impairment, which included the ROU assets, leasehold improvements, and furniture and fixtures for each office space, as the change in circumstances indicated that the carrying amount of the asset groups may not be recoverable. We compared the expected future undiscounted cash flows for each office space to the carrying amount of each respective asset group and determined that they were impaired. We recognized the excess of the carrying value over the fair value of the asset groups, which totaled $ 4.5 million and $ 12.8 million during the fiscal years ended January 31, 2023 and January 31, 2022, respectively, as an impairment expense in the accompanying consolidated statements of comprehensive loss under General and administrative. The impairment charge was allocated to the assets in the asset groups resulting in reductions of $ 3.3 million, $ 1.1 million, and $ 0.1 million to ROU assets, leasehold improvements and furniture and fixtures, respectively, for the fiscal year ended January 31, 2023, and reductions of $ 9.8 million, $ 2.2 million and $ 0.8 million to ROU assets, leasehold improvements and furniture and fixtures, respectively, for the fiscal year ended January 31, 2022. Note 13. Commitments and Contingencies Letters of Credit In connection with the execution of certain facility leases, we had bank issued irrevocable letters of credit for $ 4.5 million, $ 4.5 million and $ 4.7 million as of January 31, 2023, 2022 and 2021, respectively. No draws have been made under such letters of credit. Legal Proceedings From time to time, we may be subject to legal proceedings, as well as demands, claims and threatened litigation. The outcomes of legal proceedings and other contingencies are inherently unpredictable, subject to significant uncertainties, and could be material to our operating results and cash flows for a particular period. Regardless of the outcome, litigation can have an adverse impact on our business because of defense and settlement costs, diversion of management resources, and other factors. Other than the matters described below, we are not currently party to any legal proceeding that we believe could have a material adverse effect on our business, operating results, cash flows, or financial condition should such litigation or claim be resolved unfavorably. 87 Securities Class Action Litigation Federal Litigation . In June 2019, a putative securities class action lawsuit was filed in the U.S. District Court for the Northern District of California naming Zuora and certain of its officers as defendants. The complaint purports to bring suit on behalf of stockholders who purchased or otherwise acquired Zuora's securities between April 12, 2018 and May 30, 2019. The complaint alleges that defendants made false and misleading statements about Zuora's business, operations and prospects in violation of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended (Exchange Act), and seeks unspecified compensatory damages, fees and costs. In November 2019, the lead plaintiff filed a consolidated amended complaint asserting the same claims. This consolidated class action litigation is captioned Roberts v. Zuora, Inc. , Case No. 3:19-CV-03422. In April 2020, the court denied defendants’ motion to dismiss. On March 15, 2021, the court granted plaintiff’s motion to certify a class consisting of persons and entities who purchased or acquired Zuora common stock between April 12, 2018 and May 30, 2019 and who were allegedly damaged thereby. Discovery in this case concluded in October 2022. On March 31, 2023, Zuora entered into an agreement to settle this consolidated class action litigation. The settlement provides for a payment of $ 75.0 million by Zuora, which we recorded as an accrual and is included in Accrued expenses and other current liabilities in the accompanying consolidated balance sheet as of January 31, 2023. We expect approximately $ 6.6 million of the settlement to be funded by our remaining insurance coverage. The settlement is subject to court approval. Zuora entered into the settlement to eliminate the uncertainty, burden, and expense of further protracted litigation. Zuora denies the claims alleged in the litigation, and the settlement does not assign or reflect any admission of wrongdoing or liability by Zuora or the named defendants. State Litigation . In April and May 2020, two putative securities class action lawsuits were filed in the Superior Court of the State of California, County of San Mateo, naming as defendants Zuora and certain of its current and former officers, its directors and the underwriters of Zuora's initial public offering (IPO). The complaints purport to bring suit on behalf of stockholders who purchased or otherwise acquired Zuora's securities pursuant or traceable to the Registration Statement and Prospectus issued in connection with Zuora's IPO and allege claims under Sections 11, 12(a)(2) and 15 of the Securities Act of 1933. The suits seek unspecified damages and other relief. In July 2020, the court entered an order consolidating the two lawsuits, and the lead plaintiffs filed a consolidated amended complaint asserting the same claims. This consolidated class action litigation is captioned Olsen v. Zuora, Inc ., Case No. 20-civ-1918. In October 2020, the court denied defendants’ demurrer as to the Section 11 and Section 15 claims and granted the demurrer as to the Section 12(a)(2) claim with leave to file an amended complaint. In November 2020, the lead plaintiffs filed an amended consolidated complaint. Defendants' demurrer to the Section 12(a)(2) claim was sustained with leave to amend. In October 2021, the court certified a class for the Section 11 and Section 15 claims, consisting of persons and entities who purchased or acquired Zuora common stock pursuant or traceable to the Registration Statement and Prospectus issued in connection with Zuora’s IPO. The lead plaintiffs voluntarily dismissed the Section 12(a)(2) claim without prejudice. Discovery in this case is ongoing. We dispute the claims and intend to vigorously defend against them. While Zuora cannot predict the ultimate outcome of this litigation, Zuora recorded an accrual of $ 1.0 million based on its assessment of the potential loss that may result from this matter, which amount is included in Accrued expenses and other current liabilities in the accompanying consolidated balance sheet as of January 31, 2023. Derivative Litigation In September 2019, two stockholder derivative lawsuits were filed in the U.S. District Court for the Northern District of California against certain of Zuora's directors and executive officers and naming Zuora as a nominal defendant. The derivative actions allege claims based on events similar to those in the securities class actions and assert causes of action against the individual defendants for breach of fiduciary duty, unjust enrichment, waste of corporate assets, and for making false and misleading statements about Zuora's business, operations, and prospects in violation of Section 14(a) of the Exchange Act. Plaintiffs seek corporate reforms, unspecified damages and restitution, and fees and costs. In November 2019, the stockholder derivative lawsuits, which are related to the federal securities class action, were assigned to the same judge who is overseeing the federal securities class action lawsuit. In February 2020, the court entered an order consolidating the two derivative lawsuits, and in March 2022, plaintiffs filed a consolidated complaint. In May and June 2020, two stockholder derivative lawsuits were filed in the U.S. District Court for the District of Delaware against certain of Zuora's directors and current and former executive officers. The derivative actions allege claims based on events similar to those in the securities class actions and the derivative actions pending in the Northern District of California and assert causes of action against the individual defendants for breach of fiduciary duty, unjust enrichment, waste of corporate assets, contribution, and for making false and misleading statements about Zuora's business, operations, and prospects in violation of Section 14(a) of the Exchange Act. 88 Plaintiff seeks corporate reforms, unspecified damages and restitution, and fees and costs. In June 2020, the court entered an order consolidating the two District of Delaware derivative lawsuits. In February and March 2021, two additional stockholder derivative lawsuits were filed in Delaware Chancery Court alleging similar claims based on the same underlying events. The two Chancery Court cases were consolidated and an amended consolidated complaint was filed. In May 2022, a stockholder derivative lawsuit was filed in the U.S. District Court for the Northern District of California against certain of Zuora’s directors and executive officers and naming Zuora as a nominal defendant. The derivative action alleges claims based on events similar to those in the securities class actions and asserts causes of action against the individual defendants for breach of fiduciary duty, waste of corporate assets, unjust enrichment, and contribution. Plaintiff seeks corporate reforms, unspecified damages and restitution, and fees and costs. In February 2023, Zuora reached an agreement to settle the derivative litigation matters without any admission or concession of wrongdoing or liability by Zuora or the named defendants. In connection with the settlement, Zuora has agreed to adopt and implement certain corporate governance modifications and pay for certain plaintiffs' attorney fees, which amount Zuora expects to be fully covered by insurance proceeds. The settlement is subject to court approval. Other Contractual Obligations As of January 31, 2023, we have contractual obligations to make $ 31.5 million in purchases of cloud computing services provided by one of our vendors by September 2024, and $ 2.8 million in purchases of software services provided by one of our vendors by January 2025. 89 Note 14. Income Taxes Net loss before provision for income taxes consisted of the following (in thousands): Fiscal Year Ended January 31, 2023 2022 2021 Domestic $ ( 193,031 ) $ ( 101,626 ) $ ( 77,140 ) Foreign 5,643 3,628 5,839 Loss before income taxes $ ( 187,388 ) $ ( 97,998 ) $ ( 71,301 ) The components of our income tax provision are as follows (in thousands): Fiscal Year Ended January 31, 2023 2022 2021 Curren Federal $ — $ — $ — State 189 163 46 International 10,332 799 1,480 $ 10,521 $ 962 $ 1,526 Deferr Federal $ — $ — $ — State — — — International 61 465 347 Income tax provision $ 10,582 $ 1,427 $ 1,873 A reconciliation of the U.S. federal statutory tax rate to our provision for income tax is as follows (dollars in thousands): Fiscal Year Ended January 31, 2023 2022 2021 Federal income tax benefit at statutory rates $ ( 39,351 ) $ ( 20,580 ) $ ( 14,973 ) State income taxes, net of effect of federal ( 5,312 ) ( 3,466 ) ( 2,072 ) Permanent differences 450 772 718 Warrant adjustment ( 1,935 ) — — Federal and state R&D credits ( 6,144 ) ( 11,263 ) ( 1,325 ) Impact from international operations 9,230 502 600 Stock-based compensation 7,772 ( 3,427 ) 1,250 Tax effects of intercompany transactions ( 7,204 ) — — Other 312 ( 1,174 ) 2,435 Change in valuation allowance 52,764 40,063 15,240 Income tax provision $ 10,582 $ 1,427 $ 1,873 90 Deferred income taxes reflect the tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Our deferred income tax assets and liabilities consisted of the following (in thousands): January 31, 2023 2022 Deferred tax assets: Net operating loss carryforwards $ 139,298 $ 133,994 Tax credit carryforwards 27,256 21,112 Allowances and other 34,884 14,220 Intangibles/Goodwill 3,684 — Depreciation and amortization 1,949 2,771 Operating lease liability 11,314 13,894 R&D Capitalization 21,040 — Total deferred tax assets $ 239,425 $ 185,991 Deferred tax liabiliti Deferred commissions $ ( 11,938 ) $ ( 10,949 ) Intangibles — ( 3,253 ) Operating lease right-of-use asset ( 5,368 ) ( 8,001 ) Total deferred tax liabilities ( 17,306 ) ( 22,203 ) Valuation allowance ( 224,648 ) ( 166,212 ) Net deferred tax liabilities $ ( 2,529 ) $ ( 2,424 ) We have assessed, based on available evidence, both positive and negative, it is more likely than not that the deferred tax assets will not be utilized, such that a valuation allowance has been recorded. The valuation allowance increased by $ 58.4 million and $ 40.1 million, respectively, for fiscal 2023 and 2022. As of January 31, 2023, we had U.S. federal and state net operating loss carryforwards of approximately $ 523.5 million and $ 349.7 million, respectively, available to offset future taxable income. As of January 31, 2022, we had U.S. federal and state net operating loss carryforwards of approximately $ 530.8 million and $ 345.1 million, respectively, available to offset future taxable income. If not utilized, these carryforward losses will expire in various amounts for federal and state tax purposes beginning in 2031 and 2028, respectively. In addition, Zuora has approximately $ 296.9 million of federal net operating loss carryforwards that arose after the 2017 tax year, which are available to reduce future federal taxable income, if any, over an indefinite period. The utilization of those net operating loss carryforwards is limited to 80% of taxable income in any given year. We have approximately $ 20.5 million and $ 18.5 million of federal and state research and development tax credits, respectively, available to offset future taxes as of January 31, 2023, and approximately $ 15.7 million and $ 14.5 million of federal and state research and development tax credits, respectively, available to offset future taxes as of January 31, 2022. If not utilized, the federal credits will begin to expire in 2031. California state research and development tax credits may be carried forward indefinitely. Utilization of the net operating loss and tax credit carryforwards may be subject to a substantial annual limitation due to the "ownership change" limitations provided by Section 382 and 383 of the Internal Revenue Code of 1986, as amended, and other similar state provisions. Any annual limitation may result in the expiration of net operation loss and tax credit carryforwards before utilization. On March 27, 2020, the CARES Act was enacted and signed into U.S. law to provide economic relief to individuals and businesses facing economic hardship as a result of the COVID-19 pandemic. Changes in tax laws or rates are accounted for in the period of enactment. Under the CARES Act, we deferred payment of $ 3.6 million in employer FICA taxes related to the period from March 27, 2020 through December 31, 2020, of which $ 1.6 million was paid on December 31, 2021. The remaining $ 2.0 million was paid on December 31, 2022. The income tax provisions of the CARES Act did not have a significant impact on our current taxes, deferred taxes, and uncertain tax positions. 91 The amount of accumulated foreign earnings of our foreign subsidiaries was immaterial as of January 31, 2023. If our foreign earnings were repatriated, additional tax expense might result. Any additional taxes associated with such repatriation would be immaterial. We are required to inventory, evaluate, and measure all uncertain tax positions taken or to be taken on tax returns and to record liabilities for the amount of such positions that may not be sustained, or may only partially be sustained, upon examination by the relevant taxing authorities. As of January 31, 2023, our total gross unrecognized tax benefits were $ 18.4 million exclusive of interest and penalties described below. As of January 31, 2022, our total gross unrecognized tax benefits were $ 10.2 million exclusive of interest and penalties described below. Because of our valuation allowance position, $ 7.0 million of unrecognized tax benefits, if recognized, would reduce the effective tax rate in a future period. We do not expect that the total amounts of unrecognized tax benefits will significantly increase or decrease within twelve months of the reporting date. A reconciliation of the beginning and ending amounts of uncertain tax position is as follows (in thousands): Fiscal Year Ended January 31, 2023 2022 2021 Gross amount of unrecognized tax benefits as of the beginning of the period $ 10,228 $ 9,385 $ 8,070 Increase for tax positions related to prior years — 1,135 — Decrease for tax positions related to prior years ( 124 ) ( 2,895 ) ( 5 ) Increase for tax positions related to the current year 8,247 2,603 1,320 Gross amount of unrecognized tax benefits as of the end of the period $ 18,351 $ 10,228 $ 9,385 We file tax returns in the U.S. federal, and various state and foreign jurisdictions. All U.S. federal and state jurisdictions' tax years remain subject to examination by tax authorities due to the carryforward of unused net operating losses and research and development credits. In addition, tax years starting from 2008 are subject to examination. During fiscal 2023 and 2022, we recognized interest and penalties of $ 0.1 million associated with unrecognized tax benefits in income tax expense. Note 15. Stockholders' Equity Preferred Stock As of January 31, 2023, we had authorized 10 million shares of preferred stock, each with a par value of $ 0.0001 per share. As of January 31, 2023, no shares of preferred stock were issued and outstanding. Common Stock Prior to Zuora's IPO, all shares of common stock then outstanding were reclassified into Class B common stock. Shares offered and sold in the IPO consisted of newly authorized shares of Class A common stock. Holders of Class A and Class B common stock are entitled to one vote per share and ten votes per share, respectively, and the shares of Class A common stock and Class B common stock are identical, except for voting rights and the right to convert Class B shares to Class A shares. As of January 31, 2023, Zuora had authorized 500 million shares of Class A common stock and 500 million shares of Class B common stock, each with a par value of $ 0.0001 per share. As of January 31, 2023, 127.4 million shares of Class A common stock and 8.1 million shares of Class B common stock were issued and outstanding. Charitable Contributions During fiscal 2023 and fiscal 2022, we donated 101,317 and 61,012 shares of our Class A common stock, respectively, to a charitable donor-advised fund and recognized $ 1.0 million in both fiscal years as a non-cash general and administrative expense in our consolidated statement of comprehensive loss. 92 Accumulated Other Comprehensive Loss Components of accumulated other comprehensive loss were as follows (in thousands): Foreign Currency Translation Adjustment Unrealized Loss on Available-for-Sale Securities Total Balance, January 31, 2022 $ 118 $ ( 226 ) $ ( 108 ) Foreign currency translation adjustment ( 461 ) — ( 461 ) Unrealized loss on available-for-sale securities — ( 350 ) ( 350 ) Balance, January 31, 2023 $ ( 343 ) $ ( 576 ) $ ( 919 ) There were no material reclassifications out of accumulated other comprehensive loss during fiscal 2023. Additionally, there was no material tax impact on the amounts presented. Note 16. Employee Stock Plans Equity Incentive Plans In March 2018, our Board of Directors adopted and our stockholders approved the 2018 Equity Incentive Plan (2018 Plan). The 2018 Plan authorizes the award of stock options, restricted stock awards, stock appreciation rights, restricted stock units (RSUs), performance awards, and stock bonuses. As of January 31, 2023, approximately 25.3 million shares of Class A common stock were reserved and available for issuance under the 2018 Plan. In addition, as of January 31, 2023, 4.2 million stock options and RSUs exercisable or settleable for Class B common stock were outstanding in the aggregate under our 2006 Stock Plan (2006 Plan) and 2015 Equity Incentive Plan (2015 Plan), which plans were terminated in May 2015 and April 2018, respectively. The 2006 Plan and 2015 Plan continue to govern outstanding equity awards granted thereunder. Stock Options The following table summarizes stock option activity and related information (in thousands, except weighted-average exercise price, weighted-average grant date fair value and average remaining contractual term): Shares Subject To Outstanding Stock Options Weighted Average Exercise Price Average Remaining Contractual Term (Years) Aggregate Intrinsic Value Balance as of January 31, 2022 8,560 $ 9.22 5.9 $ 67,259 Granted 20 12.52 Exercised ( 477 ) 5.12 Forfeited ( 342 ) 13.62 Balance as of January 31, 2023 7,761 9.28 5.0 14,505 Exercisable as of January 31, 2023 3,198 3.38 2.5 14,505 Vested and expected to vest as of January 31, 2023 7,660 $ 9.22 4.9 $ 14,505 Fiscal Year Ended January 31, 2023 2022 2021 Weighted-average grant date fair value per share of options granted during each respective period $ 5.54 $ 6.54 $ 4.69 Aggregate intrinsic value of options exercised during each respective period $ 2,600 $ 32,179 $ 22,677 93 We used the Black-Scholes option-pricing model to estimate the fair value of our stock options granted during each respective period using the following assumptio Fiscal Year Ended January 31, 2023 2022 2021 Fair value of common stock $ 12.52 $ 15.64 - $ 15.87 $ 9.99 - $ 14.75 Expected volatility 42.6 % 42.3 % - 42.7 % 41.4 % - 42.4 % Expected term (in years) 5.8 6.0 - 6.1 6.0 - 6.1 Risk-free interest rate 3.0 % 1.0 % - 1.1 % 0.4 % - 0.6 % Expected dividend yield — — — RSUs The following table summarizes RSU activity and related information (in thousands except weighted-average grant date fair value): Number of RSUs Outstanding Weighted-Average Grant Date Fair Value Balance as of January 31, 2022 12,171 $ 15.46 Granted 9,292 11.46 Vested ( 5,795 ) 15.02 Forfeited ( 3,164 ) 14.35 Balance as of January 31, 2023 12,504 $ 12.98 Performance Stock Units (PSUs) In March 2022, we granted PSUs to certain executives under our 2018 Plan. Each grant is divided into three tranches, each tranche having pre-established performance targets that if met, as determined quarterly by our Compensation Committee, would result in the shares attributable to such tranche being earned, subject to a service-based vesting condition. The shares attributable to unearned tranches will be forfeited on January 31, 2025, if the applicable performance criteria for such tranches are not met. Stock-based compensation expense is recognized if it is probable the performance targets (for each respective tranche) will be met during the performance period. As of January 31, 2023, we deemed all outstanding PSUs to be improbable of vesting and we recorded an adjustment to reverse all $ 7.0 million of previously recognized expense incurred during fiscal 2023. The following table summarizes PSU activity and related information (in thousands, except weighted-average grant date fair value): Number of PSUs Outstanding Weighted-Average Grant Date Fair Value Balance as of January 31, 2022 — $ — Granted 2,905 15.21 Vested — — Forfeited — — Balance as of January 31, 2023 2,905 $ 15.21 2018 Employee Stock Purchase Plan In March 2018, our Board of Directors adopted and our stockholders approved the 2018 Employee Stock Purchase Plan (ESPP). This plan is broadly available to our employees in most of the countries in which we operate. A total of 4.2 million shares of Class A common stock were reserved and available for issuance under the ESPP as of January 31, 2023. The ESPP provides for 24 -month offering periods beginning June 15 and December 15 of each year, and each offering period contains four , six-month purchase periods. On each purchase date, ESPP participants will purchase shares of our Class A common stock at a price per share equal to 85 % of the 94 lesser of (1) the fair market value of the Class A common stock on the offering date or (2) the fair market value of the Class A common stock on the purchase date. We estimated the fair value of ESPP purchase rights using a Black-Scholes option pricing model with the following assumptio Fiscal Year Ended January 31, 2023 2022 2021 Fair value of common stock $ 6.15 - $ 8.91 $ 16.07 - $ 19.82 $ 12.15 - $ 13.50 Expected volatility 42.4 % - 52.3 % 34.4 % - 53.2 % 43.6 % - 69.1 % Expected term (in years) 0.5 - 2.0 0.5 - 2.0 0.5 - 2.0 Risk-free interest rate 2.3 % - 4.7 % 0.1 % - 0.7 % 0.1 % - 0.2 % Expected dividend yield — — — Stock-based Compensation Expense Stock-based compensation expense was recorded in the following cost and expense categories in the accompanying consolidated statements of comprehensive loss (in thousands): January 31, 2023 2022 2021 Cost of subscription revenue $ 8,141 $ 5,875 $ 4,849 Cost of professional services revenue 12,297 10,274 9,952 Research and development 25,819 21,072 19,562 Sales and marketing 33,075 22,484 15,839 General and administrative 17,069 12,365 9,081 Total stock-based compensation expense $ 96,401 $ 72,070 $ 59,283 During the three months ended July 31, 2020, in light of the COVID-19 pandemic and for retention purposes, we issued RSU grants for 0.7 million shares of Class A common stock to eligible non-executive employees. These RSU awards have fully vested and we recognized $ 7.6 million of stock-based compensation expense related to these awards during fiscal year 2021. As of January 31, 2023, unrecognized compensation costs related to unvested equity awards and the weighted-average remaining period over which those costs are expected to be realized were as follows (dollars in thousands): Stock Options RSUs PSUs ESPP Unrecognized compensation costs $ 5,604 $ 131,879 $ 44,185 $ 9,406 Weighted-average remaining recognition period 1.6 years 2.1 years 2.2 years 1.2 years 95 Note 17. Warrants to Purchase Shares of Common Stock In connection with the issuance of the 2029 Notes (discussed Note 9. Debt ), we issued to Silver Lake the Warrants to acquire up to 7.5 million shares of Class A common stock, exercisable for a period of approximately seven years from the Initial Closing Date, and of which (i) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 20.00 per share, (ii) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 22.00 per share and (iii) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 24.00 per share. In addition, Silver Lake can elect to exercise the Warrants on a net-exercise basis. If a Make-Whole Fundamental Change (as defined in the Form of Warrant) occurs, then the number of shares issuable upon exercise of the Warrants may be increased, and the exercise price for the Warrants adjusted. Beginning on the Initial Closing Date and ending on the earlier of (i) the date that is 18 months following the Initial Closing Date and (ii) the consummation of any Change in Control, except for certain limited exceptions, the Warrants are only exercisable with our written approval. As of January 31, 2023 , all 7.5 million Warrants were outstanding. We have classified a portion of the Warrants as a current liability due to certain settlement provisions in the Warrants. Under certain Make-Whole Fundamental Change scenarios, we would be required to, at our option, either (i) obtain shareholder approval prior to issuing 20 % or more of our outstanding common stock or (ii) pay cash in lieu of delivering any shares at or above such 20 % threshold. As a result, we concluded that approximately 2.8 million Warrants valued at $ 12.0 million as of the Initial Closing Date do not qualify for equity classification under ASC 815-40, pursuant to our sequencing policy described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements. We will reassess the classification of the Warrant liability in future reporting periods to determine if any change is required. The Warrants were measured using the Black-Scholes option pricing model at the issuance date (Initial Closing Date) and the Warrant liability was remeasured using the same model as of January 31, 2023 using the following inputs: January 31, 2023 March 24, 2022 Fair value of common stock 1 $ 7.24 $ 13.77 Exercise price² $ 22.00 - $ 24.00 $ 22.00 - $ 24.00 Expected volatility 41.2 % 41.9 % Expected term (in years) 6.2 7.0 Risk-free interest rate 3.6 % 2.4 % Expected dividend yield — — ______________ (1) The fair value of common stock was adjusted to reflect certain restrictions on the Warrants for 18 months following the issuance date. (2) The range of exercise prices reflects the Warrants that were liability-classified. As of January 31, 2023, the liability-classified Warrants were revalued to $ 2.8 million. This resulted in a realized gain of $ 9.2 million in fiscal year 2023, which is included in Change in fair value of warrant liability in the accompanying consolidated statements of comprehensive loss. Note 18. Net Loss Per Share We calculate our basic and diluted net loss per share in conformity with the two-class method required for companies with participating securities. Under the two-class method, basic net loss per share is calculated by dividing the net loss by the weighted-average number of shares of common stock outstanding for the period, less shares subject to repurchase. The diluted net loss per share is computed by giving effect to all potential dilutive common stock equivalents outstanding for the period. For purposes of this calculation, options to purchase common stock, RSUs, PSUs, shares issuable pursuant to our ESPP, and shares subject to repurchase from early exercised options and unvested restricted stock are considered common stock equivalents but have been excluded from the calculation of diluted net loss per share as their effect is antidilutive. The rights, including the liquidation and dividend rights, of the holders of our Class A and Class B common stock are identical, except with respect to voting and conversion. As the liquidation and dividend rights are identical, the undistributed earnings are allocated on a proportionate basis and the resulting net loss per share will, therefore, 96 be the same for both Class A and Class B common stock on an individual or combined basis. We did not present dilutive net loss per share on an as-if converted basis because the impact was not dilutive. The following table presents the calculation of basic and diluted net loss per share for the periods presented (in thousands, except per share data): Fiscal Year Ended January 31, 2023 2022 2021 Numerato Net loss $ ( 197,970 ) $ ( 99,425 ) $ ( 73,174 ) Denominato Weighted-average common shares outstanding, basic and diluted 131,441 124,206 117,598 Net loss per share, basic and diluted $ ( 1.51 ) $ ( 0.80 ) $ ( 0.62 ) Since we were in a loss position for all periods presented, basic net loss per share attributable to common stockholders is the same as diluted net loss per share as the inclusion of all potential common shares outstanding would have been anti-dilutive. Potentially dilutive securities that were not included in the diluted per share calculations because they would be anti-dilutive were as follows (in thousands): As of January 31, 2023 2022 2021 Unvested RSUs issued and outstanding 12,504 12,171 8,278 Initial Notes conversion 12,500 — — Issued and outstanding stock options 7,761 8,560 11,812 Warrants 7,500 — — Unvested PSUs issued and outstanding 2,905 — — Shares committed under ESPP 316 144 139 Total 43,486 20,875 20,229 Note 19. Zephr Acquisition On September 2, 2022 (Acquisition Closing Date), we acquired all of the outstanding equity securities of Zephr, a leading Subscription Experience Platform used by global digital publishing and media companies, pursuant to a Share Purchase Agreement (Zephr SPA). Purchase Consideration The purchase consideration for the Zephr acquisition was $ 47.9 million, which includes (1) cash payments of $ 43.1 million and (2) contingent consideration with an estimated fair value of $ 4.8 million on the Acquisition Closing Date, payable if certain conditions are met. The contingent consideration arrangement requires us to pay the former stockholders of Zephr a multiple of the amount by which Zephr’s Annual Recurring Revenue (ARR) as of January 31, 2023 exceeds a target set in the Zephr SPA. The payment is between zero and $ 6.0 million, dependent upon Zephr's ARR achievement. The fair value of the contingent consideration arrangement as of the Acquisition Closing Date was $ 4.8 million and was estimated by applying a probability-weighted discounted cash flow method. This analysis reflects the contractual terms of the Zephr SPA (e.g., potential payment amounts, length of measurement periods, manner of calculating any amounts due, etc.) and utilizes assumptions with regard to future cash flows, probabilities of achieving such future cash flows, and a discount rate. 97 As of January 31, 2023, the contingent consideration arrangement was revalued to $ 4.4 million based on the expected final payout amount, resulting in a credit of $ 0.4 million which is included in General and administrative in the accompanying consolidated statements of comprehensive loss. Contingent consideration was classified as a liability and included in Accrued expenses and other current liabilities in the accompanying consolidated balance sheets. Assets and Liabilities Acquired The acquisition was accounted for as a business combination using the acquisition method of accounting in accordance with ASC 805, Business Combinations. The excess of the purchase price over the estimated fair value of the tangible and intangible assets acquired and liabilities assumed has been recorded as goodwill. The Zephr acquisition resulted in recorded goodwill as a result of the synergies expected to be realized and how we expect to leverage the business to create additional value for our shareholders. The goodwill is no t expected to be deductible for income tax purposes. The following table summarizes the preliminary estimate of the fair value of the assets acquired and liabilities assumed as of September 2, 2022 (in thousands): Total Cash $ 2,103 Accounts receivable 641 Prepaid expenses and other current assets 916 Fixed Assets 120 Intangible assets: Tradename 800 Developed technology 10,300 Customer relationships 900 Goodwill 35,009 Accounts payable ( 292 ) Accrued liabilities ( 303 ) Other current liabilities ( 225 ) Deferred revenue ( 2,056 ) Fair value of net assets acquired $ 47,913 The fair value of the acquired trade accounts receivables approximates the carrying value of trade accounts receivables due to the short-term nature of the expected timeframe to collect the amounts due to us and the contractual cash flows, which are expected to be collected related to these receivables. We engaged a third-party specialist to assist management in the determination of the estimated fair value of intangible assets acquired. Variations of the income approach were used to estimate the fair values. Specifically, the relief from royalty method was used to measure the trade name, the multi period excess earnings method was used to measure the developed technology, and the distributor method was used to measure the customer relationships. The following table summarizes the acquired identifiable intangible assets, Acquisition Closing Date estimated fair values, and estimated useful lives (dollars in thousands): Fair Value Useful Life Trade name $ 800 3.0 years Developed technology 10,300 7.0 years Customer relationships 900 10.0 years Total intangible assets acquired $ 12,000 The estimated fair values of the consideration transferred and net assets acquired are subject to refinement for up to one year after the Acquisition Closing Date as additional information regarding closing date fair value becomes available. During this one-year period, the causes of any changes in cash flow estimates are considered to determine whether the change results from circumstances that existed at the acquisition date, or if the change 98 results from an event that occurred after the Acquisition Closing Date. As of January 31, 2023, the purchase price allocation for Zephr is preliminary as we finalize our internal reviews. Transaction Costs We incurred transaction costs in connection with the acquisition of $ 3.2 million during the fiscal year ended January 31, 2023, which were expensed as incurred and reflected as part of General and administrative within the accompanying consolidated statements of comprehensive loss. Employee Deferral We agreed to pay $ 2.9 million to certain former Zephr employees, half of which is payable on September 2, 2023 and the remainder of which is payable on September 2, 2024, contingent upon continued employment with us through those dates. These costs are being recognized as compensation expense as service is provided through the respective payment dates. Note 20. Subsequent Events Litigation Settlements In February 2023, Zuora reached an agreement to settle the previously disclosed stockholder derivative litigation matters without any admission or concession of wrongdoing or liability by Zuora or the named defendants. In connection with the settlement, Zuora has agreed to adopt and implement certain corporate governance modifications and pay for certain plaintiffs' attorney fees, which amount Zuora expects to be fully covered by insurance proceeds. The settlement is subject to court approval. In addition, on March 31, 2023, Zuora agreed to settle the previously disclosed consolidated securities class action litigation pending in the U.S. District Court for the Northern District of California and consolidated under the caption Roberts v. Zuora, Inc . The settlement provides for a payment of $ 75.0 million by Zuora, which we recorded as an accrual in the consolidated balance sheet as of January 31, 2023. We expect approximately $ 6.6 million of the settlement to be funded by our remaining insurance coverage. The settlement is subject to court approval. Zuora entered into the settlement to eliminate the uncertainty, burden, and expense of further protracted litigation. Zuora denies the claims alleged in the litigation, and the settlement does not assign or reflect any admission of wrongdoing or liability by Zuora or the named defendants. For more information, see Note 13. Commitments and Contingencies . Silicon Valley Bank Closure On March 10, 2023, Silicon Valley Bank (SVB) was closed, and the Federal Deposit Insurance Corporation (FDIC) was named as receiver. While SVB was our primary bank at the time of its closure, the vast majority of our total cash, cash equivalents and short-term investments resided in custodial accounts held by U.S. Bank for which SVB Asset Management was the advisor. The FDIC subsequently transferred SVB’s deposits and loans to a newly created bridge bank, named Silicon Valley Bridge Bank, N.A. On March 27, 2023, First Citizens Bank & Trust Company (First Citizens Bank) purchased and assumed all deposits and loans of Silicon Valley Bridge Bank. As a result, all of our deposits that were at SVB and our undrawn $ 30.0 million revolving credit facility are now with First Citizens Bank. We currently have access to all cash, cash equivalents and short-term investments that had been in SVB accounts, and do not expect losses or material disruptions to our ongoing operations due to SVB's closure. 99 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure Not applicable. Item 9A. Controls and Procedures Evaluation of Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer (our principal executive officer) and Chief Financial Officer (our principal financial officer), has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of January 31, 2023. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that as of January 31, 2023, our disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed in the reports we file and submit under the Exchange Act is recorded, processed, summarized and reported as and when required, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding its required disclosure. Management's Report on Internal Control Over Financial Reporting Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). Our management conducted an evaluation of the effectiveness of our internal control over financial reporting as of January 31, 2023 based on the criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on the results of its evaluation, management concluded that our internal control over financial reporting was effective as of January 31, 2023. The effectiveness of our internal control over financial reporting as of January 31, 2023 has been audited by KPMG LLP, our independent registered public accounting firm, as stated in its report which is included in Part II, Item 8 of the Annual Report on Form 10-K. Changes in Internal Control Over Financial Reporting There was no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the three months ended January 31, 2023 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. Inherent Limitations on Effectiveness of Controls Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected. Accordingly, our disclosure controls and procedures provide reasonable assurance of achieving their objectives. Item 9B. Other Information Not applicable. Item 9C. Disclosure Regarding Foreign Jurisdictions that Prevent Inspections Not applicable. 100 PART III Item 10. Directors, Executive Officers and Corporate Governance The information required by this item is incorporated herein by reference to information contained in the Proxy Statement relating to our 2023 Annual Meeting of Stockholders. Item 11. Executive Compensation The information required by this item is incorporated herein by reference to information contained in the Proxy Statement relating to our 2023 Annual Meeting of Stockholders. Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters The information required by this item is incorporated herein by reference to information contained in the Proxy Statement relating to our 2023 Annual Meeting of Stockholders. Item 13. Certain Relationships and Related Transactions, and Director Independence The information required by this item is incorporated herein by reference to information contained in the Proxy Statement relating to our 2023 Annual Meeting of Stockholders. Item 14. Principal Accounting Fees and Services The information required by this item is incorporated herein by reference to information contained in the Proxy Statement relating to our 2023 Annual Meeting of Stockholders. 101 PART IV Item 15. Exhibits, Financial Statement Schedules (a) The following documents are filed as a part of this Form 10-K: 1. Financial Statements Our consolidated financial statements are listed in the “Index to Consolidated Financial Statements” under Part II, Item 8 of this Form 10-K. 2. Financial Statement Schedules Financial statement schedules not listed have been omitted because they are not applicable or the required information is shown in the consolidated financial statements or notes thereto. 3. Exhibits Exhibit Number Incorporated By Reference Filed or Furnished Herewith Exhibit Description Form File No. Exhibit Filing Date 3.1 Restated Certificate of Incorporation of the Registrant. 10-Q 001-38451 3.1 6/13/2018 3.2 Amended and Restated Bylaws of the Registrant. 8-K 001-38451 3.1 5/5/2020 4.1 Form of Class A Common Stock Certificate of the Registrant. S-1 333-223722 4.1 3/16/2018 4.2 Description of Registrant's Securities. X 4.3 Indenture, by and between Zuora, Inc. and U.S. National Bank Association, as trustee (including the form of 3.95% / 5.50% Convertible Senior PIK Notes Due 2029). 8-K 001-38451 10.2 3/25/2022 4.4 Form of 3.95% / 5.50% Convertible Senior PIK Notes Due 2029 (included in Exhibit 4. 3 ) . 8-K 001-38451 10.2 3/25/2022 4.5 Form of Warrant. 8-K 001-38451 10.3 3/25/2022 10.1* Form of Indemnification Agreement by and between the Registrant and each of its directors and executive officers. S-1 333-223722 10.1 3/16/2018 10.2* 2006 Equity Incentive Plan and forms of award agreements. S-1 333-223722 10.2 3/16/2018 10.3* 2015 Equity Incentive Plan and forms of award agreements . S-1 333-223722 10.3 3/16/2018 10.4* 2018 Equity Incentive Plan and forms of award agreements. S-1 333-223722 10.4 3/16/2018 10.5* 2018 Employee Stock Purchase Plan and form of subscription agreement. S-1 333-223722 10.5 3/16/2018 10.6* Offer Letter, dated March 6, 2018, between Tien Tzuo and the Registrant. S-1 333-223722 10.6 3/16/2018 10.7* Offer Letter, dated January 7, 2016, between Kenneth Goldman and the Registrant. S-1 333-223722 10.9 3/16/2018 10.8* Offer Letter, dated May 8, 2017, between Magdalena Yesil and the Registrant. S-1 333-223722 10.10 3/16/2018 10.9* Offer Letter, dated September 17, 2019, between Robert J. Traube and the Registrant. 10-K 001-38451 10.12 3/31/2020 10.10* O ffer Letter dated May 25, 2020, between Todd McElhatton and the Registrant . 10-Q 001-38451 10.1 9/4/2020 10.11* Offer Letter, dated December 17, 2020, between Sridhar Srinivasan and the Registrant. 10-K 001-38451 10.14 3/31/2021 102 10.12* Offer Letter, dated January 9, 2022, between Andrew Cohen and the Registrant. X 10.13* Form of Change in Control and Severance Agreement. 10-K 001-38451 10.14 3/28/2022 10.14* Cash Incentive Plan. 10-Q 001-38451 10.2 6/11/2019 10.15 Investment Agreement by and between Zuora, Inc. and Silver Lake Alpine II, L.P., dated as of March 2, 2022. 8-K 001-38451 10.1 3/25/2022 10.16 Lease Agreement between 101 Redwood Shores LLC, As Landlord and Zuora, Inc., as Tenant dated March 19, 2019. 8-K 001-38451 10.1 3/21/2019 10.17 Loan and Security Agreement, dated June 14, 2017, by and among Silicon Valley Bank, the Registrant, Zuora Services, LLC, and Leeyo Software, Inc. S-1 333-223722 10.13 3/16/2018 10.18 First Amendment to Loan and Security Agreement, dated October 11, 2018, by and among Silicon Valley Bank, the Registrant, Zuora Services, LLC, and Leeyo Software, Inc. 10-Q 001-38451 10.1 12/13/2018 10.19 Second Amendment to Loan and Security Agreement, dated January 19, 2021, by and among Silicon Valley Bank, the Registrant, Zuora Services, LLC, and Leeyo Software, Inc. 10-K 001-38451 10.21 3/31/2021 10.20 Third Amendment to Loan and Security Agreement, dated October 11, 2022, by and among Silicon Valley Bank and the Registrant. 10-Q 001-38451 10.1 12/8/2022 21.1 Subsidiaries of the Registrant . X 23.1 Consent of Independent Registered Public Accounting Firm . X 31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14(a) and 15d-14(a) of the Exchange Act. X 31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14(a) and 15d-14(a) of the Exchange Act. X 32.1** Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 . X 32.2** Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 . X 101.INS Inline XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document X 101.SCH Inline XBRL Taxonomy Extension Schema Document X 101.CAL Inline XBRL Taxonomy Extension Calculation Linkbase Document X 101.DEF Inline XBRL Taxonomy Extension Definition Linkbase Document X 101.LAB Inline XBRL Taxonomy Extension Label Linkbase Document X 103 101.PRE Inline XBRL Taxonomy Extension Presentation Linkbase Document X 104 Cover Page Interactive Data File (embedded within the Inline XBRL document and included in Exhibit 101). X * Indicates a management contract or compensatory plan or arrangement in which directors or executive officers are eligible to participate. ** The certifications furnished in Exhibits 32.1 and 32.2 hereto are deemed to accompany this Form 10-K and are not deemed “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, nor shall they be deemed incorporated by reference into any filing under the Securities Act or the Exchange Act. Item 16. Form 10-K Summary None. 104 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ZUORA, INC. Date: April 3, 2023 By: /s/ Todd McElhatton Todd McElhatton Chief Financial Officer (Principal Accounting and Financial Officer) POWER OF ATTORNEY KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Tien Tzuo and Todd McElhatton, and each of them, as his or her true and lawful attorneys-in-fact and agents, with full power of substitution and resubstitution, for him or her and in his or her name, place and stead, in any and all capacities, to sign any amendments to this Annual Report on Form 10-K and to file the same, with all exhibits thereto and other documents in connection therewith with the Securities and Exchange Commission, granting unto said attorneys-in-fact, proxies, and agents full power and authority to do and perform each and every act and thing requisite and necessary to be done in connection therewith, as fully for all intents and purposes as he might or could do in person, hereby ratifying and confirming all that said attorneys-in-fact, proxies, and agents, or their or his or her substitute or substitutes, may lawfully do or cause to be done by virtue hereof. Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, this Annual Report on Form 10-K has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicat Signature Title Date /s/ Tien Tzuo Tien Tzuo Chairman of the Board of Directors and Chief Executive Officer (Principal Executive Officer) April 3, 2023 /s/ Todd McElhatton Todd McElhatton Chief Financial Officer (Principal Accounting and Financial Officer) April 3, 2023 Omar Abbosh Director /s/ Sarah Bond Sarah Bond Director April 3, 2023 /s/ Laura A. Clayton Laura A. Clayton Director April 3, 2023 /s/ Kenneth A. Goldman Kenneth A. Goldman Director April 3, 2023 /s/ Timothy Haley Timothy Haley Director April 3, 2023 /s/ Joseph Osnoss Joseph Osnoss Director April 3, 2023 /s/ Jason Pressman Jason Pressman Director April 3, 2023 /s/ Amy Guggenheim Shenkan Amy Guggenheim Shenkan Director April 3, 2023 /s/ Magdalena Yesil Magdalena Yesil Director April 3, 2023 |
Washington, DC 20549 _____________________________ FORM 10-Q _____________________________ (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended April 30, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to __________ Commission File Numbe 001-38451 _____________________________ Zuora, Inc . (Exact name of registrant as specified in its charter) _____________________________ Delaware 20-5530976 (State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification Number) 101 Redwood Shores Parkway , Redwood City , California 94065 (Address of principal executive offices) (Zip Code) ( 888 ) 976-9056 (Registrant’s telephone number, including area code) Not Applicable (Former name, former address and former fiscal year, if changed since last report) _____________________________ Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name on each exchange on which registered Class A common stock, par value $0.0001 per share ZUO New York Stock Exchange Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☒ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ As of April 30, 2023, the number of shares of the Registrant ’ s Class A common stock outstanding was 129.1 million and the number of shares of the Registrant ’ s Class B common stock outstanding was 8.1 million. Page PART I. FINANCIAL INFORMATION 3 Item 1. Financial Statements (unaudited) 3 Condensed Consolidated Balance Sheets as of April 30, 2023 and January 31, 202 3 3 Condensed Consolidated Statements of Comprehensive Loss for the Three Months Ended April 30, 2023 and 2022 4 Condensed Consolidated Statements of Stockholders ' Equity for the Three Months Ended April 30, 2023 and 202 2 5 Condensed Consolidated Statements of Cash Flows for the Three Months Ended April 30, 2023 and 2022 6 Notes to Unaudited Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 23 Item 3. Quantitative and Qualitative Disclosures About Market Risk 37 Item 4. Controls and Procedures 38 PART II. OTHER INFORMATION 40 Item 1. Legal Proceedings 40 Item 1A. Risk Factors 40 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 73 Item 6. Exhibits 74 Signatures 75 SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS Unless the context otherwise requires, references in this Quarterly Report on Form 10-Q (Form 10-Q) to “Zuora,” “Company,” “our,” “us,” and “we” refer to Zuora, Inc. and, where appropriate, its consolidated subsidiaries. Our fiscal year end is January 31. References to “fiscal” followed by the year refer to the fiscal year ended January 31 for the referenced year. This Form 10-Q contains forward-looking statements within the meaning of the federal securities laws. All statements contained in this Form 10-Q, other than statements of historical fact, including statements regarding our future operating results and financial position, our business strategy and plans, market growth, and our objectives for future operations, are forward-looking statements. Words such as “believes,” “may,” “will,” “estimates,” “potential,” “continues,” “anticipates,” “intends,” “expects,” “could,” “would,” “projects,” “plans,” “targets,” and variations of such words and similar expressions are intended to identify forward-looking statements. Forward-looking statements contained in this Form 10-Q include, but are not limited to, statements about our expectations regardin • trends in revenue, cost of revenue, and gross margin; • economic uncertainty and associated trends in macroeconomic conditions, including the effects of recession, inflation, rising interest rates, bank failures and debt ceiling negotiations; • currency exchange rate fluctuations; • trends and expectations in our operating and financial metrics, including customers with certain annual contract values (ACV), dollar-based retention rate, annual recurring revenue, and growth of and within our customer base; • future acquisitions, the anticipated benefits of such acquisitions and our ability to integrate the operations and technology of any acquired company, including our acquisition of Zephr Inc Limited (Zephr); • industry trends, projected growth, or trend analysis, including the shift to subscription business models; • our investments in our platform and the cost of third-party hosting fees; • the expansion and functionality of our technology offering, including expected benefits of such products and technology, and our ability to further penetrate our customer base; • trends in operating expenses, including research and development expense, sales and marketing expense, and general and administrative expense, and expectations regarding these expenses as a percentage of revenue; • our existing cash and cash equivalents, investment balances, funds available under our loan and security agreement, and cash provided by subscriptions to our platform and related professional services being sufficient to meet our working capital and capital expenditure needs for at least the next 12 months; • the impact of actions that we are taking to improve operational efficiencies and operating costs; • legal proceedings, including the settlement of certain shareholder litigation and expectations regarding the receipt of insurance proceeds related to such litigation; • future issuances of our senior unsecured notes; • instability in the U.S. and international banking systems; and • other statements regarding our future operations, financial condition, prospects and business strategies, including our ability to sublease office space at our corporate headquarters in California. Such forward-looking statements are based on our expectations as of the date of this filing and are subject to a number of risks, uncertainties and assumptions, including but not limited to, risks detailed in the “Risk Factors” section of this Form 10-Q. Readers are urged to carefully review and consider the various disclosures made in this Form 10-Q and in other documents we file from time to time with the Securities and Exchange Commission (SEC) that disclose risks and uncertainties that may affect our business. Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time. It is not possible for us to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. 1 In light of these risks, uncertainties and assumptions, the future events and circumstances discussed in this Form 10-Q may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements. You should not rely upon forward-looking statements as predictions of future events. The events and circumstances reflected in the forward-looking statements may not be achieved or occur. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, performance or achievements. In addition, the forward-looking statements in this Form 10-Q are made as of the date of this filing, and we do not undertake, and expressly disclaim any duty, to update such statements for any reason after the date of this Form 10-Q or to conform statements to actual results or revised expectations, except as required by law. 2 PART I—FINANCIAL INFORMATION Item 1. Financial Statements ZUORA, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (in thousands) (unaudited) April 30, 2023 January 31, 2023 Assets Current assets: Cash and cash equivalents $ 238,388 $ 203,239 Short-term investments 158,483 183,006 Accounts receivable, net of allowance for credit losses of $ 4,304 and $ 4,001 as of April 30, 2023 and January 31, 2023, respectively 82,582 91,740 Deferred commissions, current portion 12,816 16,282 Prepaid expenses and other current assets 22,877 24,285 Total current assets 515,146 518,552 Property and equipment, net 26,413 27,159 Operating lease right-of-use assets 28,157 22,768 Purchased intangibles, net 12,463 13,201 Deferred commissions, net of current portion 30,282 28,250 Goodwill 56,270 53,991 Other assets 4,432 4,677 Total assets $ 673,163 $ 668,598 Liabilities and stockholders’ equity Current liabiliti Accounts payable $ 5,991 $ 1,073 Accrued expenses and other current liabilities 97,238 103,678 Accrued employee liabilities 26,660 30,483 Deferred revenue, current portion 164,328 167,145 Operating lease liabilities, current portion 9,853 9,240 Total current liabilities 304,070 311,619 Debt, net of current portion 212,307 210,403 Deferred revenue, net of current portion 732 442 Operating lease liabilities, net of current portion 41,330 37,924 Deferred tax liabilities 3,721 3,717 Other long-term liabilities 7,320 7,333 Total liabilities 569,480 571,438 Commitments and contingencies (Note 13) Stockholders’ equity: Class A common stock 13 13 Class B common stock 1 1 Additional paid-in capital 885,243 859,482 Accumulated other comprehensive loss ( 862 ) ( 919 ) Accumulated deficit ( 780,712 ) ( 761,417 ) Total stockholders’ equity 103,683 97,160 Total liabilities and stockholders’ equity $ 673,163 $ 668,598 See notes to unaudited condensed consolidated financial statements. 3 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (in thousands, except per share data) (unaudited) Three Months Ended April 30, 2023 2022 Reve Subscription $ 89,711 $ 78,500 Professional services 13,384 14,699 Total revenue 103,095 93,199 Cost of reve Subscription 20,588 18,725 Professional services 16,758 17,510 Total cost of revenue 37,346 36,235 Gross profit 65,749 56,964 Operating expens Research and development 25,668 22,872 Sales and marketing 41,444 40,457 General and administrative 18,816 17,290 Total operating expenses 85,928 80,619 Loss from operations ( 20,179 ) ( 23,655 ) Change in fair value of warrant liability 30 4,373 Interest expense ( 4,387 ) ( 1,784 ) Interest and other income (expense), net 5,710 ( 1,794 ) Loss before income taxes ( 18,826 ) ( 22,860 ) Income tax provision 469 308 Net loss ( 19,295 ) ( 23,168 ) Comprehensive l Foreign currency translation adjustment ( 283 ) ( 359 ) Unrealized gain (loss) on available-for-sale securities 340 ( 398 ) Comprehensive loss $ ( 19,238 ) $ ( 23,925 ) Net loss per share, basic and diluted $ ( 0.14 ) $ ( 0.18 ) Weighted-average shares outstanding used in calculating net loss per share, basic and diluted 136,190 128,457 See notes to unaudited condensed consolidated financial statements. 4 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (in thousands) (unaudited) Three Months Ended April 30, 2023 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Loss Deficit Equity Balance, January 31, 2023 127,384 $ 13 8,121 $ 1 $ 859,482 $ ( 919 ) $ ( 761,417 ) $ 97,160 Conversion of Class B common stock to Class A common stock 96 — ( 96 ) — — — — — Issuance of common stock upon exercise of stock options — — 96 — 537 — — 537 RSU releases 1,643 — — — — — — — Stock-based compensation — — — — 25,224 — — 25,224 Other comprehensive income — — — — — 57 — 57 Net loss — — — — — — ( 19,295 ) ( 19,295 ) Balance, April 30, 2023 129,123 $ 13 8,121 $ 1 $ 885,243 $ ( 862 ) $ ( 780,712 ) $ 103,683 Three Months Ended April 30, 2022 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Loss Deficit Equity Balance, January 31, 2022 119,008 $ 12 9,048 $ 1 $ 734,149 $ ( 108 ) $ ( 563,447 ) $ 170,607 Conversion of Class B common stock to Class A common stock 1,120 — ( 1,120 ) — — — — — Issuance of common stock upon exercise of stock options 49 — 86 — 907 — — 907 RSU releases 956 — — — — — — — Stock-based compensation — — — — 22,825 — — 22,825 Issuance of warrants — — — — 18,442 — — 18,442 Other comprehensive loss — — — — — ( 757 ) — ( 757 ) Net loss — — — — — — ( 23,168 ) ( 23,168 ) Balance, April 30, 2022 121,133 $ 12 8,014 $ 1 $ 776,323 $ ( 865 ) $ ( 586,615 ) $ 188,856 See notes to unaudited condensed consolidated financial statements. 5 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) (unaudited) Three Months Ended April 30, 2023 2022 Cash flows from operating activiti Net loss $ ( 19,295 ) $ ( 23,168 ) Adjustments to reconcile net loss to net cash provided by operating activiti Depreciation, amortization and accretion 4,290 4,202 Stock-based compensation 25,224 22,825 Provision for credit losses 1,117 499 Amortization of deferred commissions 4,970 4,563 Reduction in carrying amount of right-of-use assets 1,584 2,161 Change in fair value of warrant liability ( 30 ) ( 4,373 ) Other 140 216 Changes in operating assets and liabiliti Accounts receivable 7,531 7,457 Prepaid expenses and other assets ( 112 ) ( 206 ) Deferred commissions ( 3,607 ) ( 4,984 ) Accounts payable 4,703 101 Accrued expenses and other liabilities ( 2,000 ) 2,205 Accrued employee liabilities ( 3,823 ) ( 5,564 ) Deferred revenue ( 2,527 ) 4,722 Operating lease liabilities ( 3,572 ) ( 3,673 ) Net cash provided by operating activities 14,593 6,983 Cash flows from investing activiti Purchases of property and equipment ( 1,657 ) ( 3,263 ) Purchases of short-term investments ( 61,745 ) ( 30,887 ) Maturities of short-term investments 88,228 30,263 Cash paid for acquisition ( 4,524 ) — Net cash provided by (used in) investing activities 20,302 ( 3,887 ) Cash flows from financing activiti Proceeds from issuance of convertible senior notes, net of issuance costs — 234,586 Proceeds from issuance of common stock upon exercise of stock options 537 907 Principal payments on debt — ( 1,111 ) Net cash provided by financing activities 537 234,382 Effect of exchange rates on cash and cash equivalents ( 283 ) ( 359 ) Net increase in cash and cash equivalents 35,149 237,119 Cash and cash equivalents, beginning of period 203,239 113,507 Cash and cash equivalents, end of period $ 238,388 $ 350,626 Supplemental disclosure of non-cash investing and financing activiti Property and equipment purchases accrued or in accounts payable $ 215 $ 133 Issuance costs for convertible senior notes accrued or in accounts payable $ — $ 685 See notes to unaudited condensed consolidated financial statements. 6 ZUORA, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) Note 1. Overview and Basis of Presentation Description of Business Zuora, Inc. was incorporated in the state of Delaware in 2006 and began operations in 2007. Zuora’s fiscal year ends on January 31. Zuora is headquartered in Redwood City, California. Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the quote-to-cash and revenue recognition process, including quoting, billing, collections and revenue recognition. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. On September 2, 2022, Zuora acquired Zephr, a leading subscription experience platform used by global digital publishing and media companies. Additional information regarding the Zephr acquisition is contained in our Annual Report on Form 10-K for the fiscal year ended January 31, 2023, filed with the Securities and Exchange Commission (SEC) on April 3, 2023 (Annual Report on Form 10-K). References to “Zuora”, “us”, “our”, or “we” in these notes refer to Zuora, Inc. and its subsidiaries on a consolidated basis. Basis of Presentation and Principles of Consolidation The accompanying unaudited condensed consolidated financial statements, which include the accounts of Zuora and its wholly owned subsidiaries, have been prepared in conformity with accounting principles generally accepted in the United States (GAAP) and applicable rules and regulations of the SEC regarding interim financial reporting. All intercompany balances and transactions have been eliminated in consolidation. The unaudited condensed consolidated balance sheet as of January 31, 2023 included herein was derived from the audited financial statements as of that date, but does not include all disclosures including certain notes required by GAAP on an annual reporting basis. The unaudited condensed consolidated financial statements reflect all normal recurring adjustments necessary to present fairly the balance sheets, statements of comprehensive loss, statements of cash flows and statements of stockholders' equity for the interim periods, but are not necessarily indicative of the results of operations to be anticipated for the full fiscal year ending January 31, 2024 or any future period. The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in our Annual Report on Form 10-K for the fiscal year ended January 31, 2023. Use of Estimates The preparation of unaudited condensed consolidated financial statements in conformity with GAAP requires management to make certain estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the unaudited condensed consolidated financial statements, as well as reported amounts of revenue and expenses during the reporting period. Actual results could differ materially from those estimates. Our most significant estimates and assumptions are related to revenue recognition with respect to the determination of the relative standalone selling prices for our services; the expected period of benefit over which deferred commissions are amortized; valuation of stock-based awards and our convertible senior notes and warrants; estimates of allowance for credit losses; estimates of the fair value of goodwill and long-lived assets when evaluating for impairments and for assets acquired from acquisitions; useful lives of intangibles and other long-lived 7 assets; and the valuation of deferred income tax assets and contingencies. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Accordingly, actual results may differ materially from these estimates under different assumptions or conditions. Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements Our significant accounting policies are discussed in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements in our Annual Report on Form 10-K. There have been no significant changes to these policies during the three months ended April 30, 2023. Note 3. Investments The amortized costs, unrealized gains and losses and estimated fair values of our short-term investments were as follows (in thousands): April 30, 2023 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 47,341 $ 13 $ ( 121 ) $ 47,233 Corporate bonds 30,760 10 ( 28 ) 30,742 Commercial paper 80,508 — — 80,508 Total short-term investments $ 158,609 $ 23 $ ( 149 ) $ 158,483 January 31, 2023 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 34,865 $ — $ ( 377 ) $ 34,488 Corporate bonds 41,974 — ( 189 ) 41,785 Commercial paper 102,720 — — 102,720 Foreign government securities 4,023 — ( 10 ) 4,013 Total short-term investments $ 183,582 $ — $ ( 576 ) $ 183,006 There were no material realized gains or losses from sales of marketable securities that were reclassified out of accumulated other comprehensive loss into investment income during the three months ended April 30, 2023 and 2022. We had no significant unrealized losses on our available-for-sale securities as of April 30, 2023 and January 31, 2023, and we do not expect material credit losses on our current investments in future periods. All securities had stated effective maturities of less than one year as of April 30, 2023. 8 Note 4. Fair Value Measurements The accounting guidance for fair value measurements establishes a three-tier hierarchy, which prioritizes the inputs used in the valuation methodologies in measuring fair value as follows: Level input Input definition Level 1 Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets Level 2 Inputs other than quoted prices included within Level 1 that are observable for the asset or liability through corroboration with market data at the measurement date Level 3 Unobservable inputs that reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date In general, and where applicable, we use quoted prices in active markets for identical assets or liabilities to determine fair value. If quoted prices in active markets for identical assets or liabilities are not available to determine fair value, then we use quoted prices for similar assets and liabilities or inputs other than the quoted prices that are observable either directly or indirectly. The following tables summarize our fair value hierarchy for our financial assets and liabilities measured at fair value on a recurring basis (in thousands): April 30, 2023 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 199,113 $ — $ — $ 199,113 Short-term investments: U.S. government securities $ — $ 47,233 $ — $ 47,233 Corporate bonds — 30,742 — 30,742 Commercial paper — 80,508 — 80,508 Total short-term investments $ — $ 158,483 $ — $ 158,483 Liabiliti Warrant liability $ — $ — $ 2,799 $ 2,799 January 31, 2023 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 184,580 $ — $ — $ 184,580 Short-term investments: U.S. government securities $ — $ 34,488 $ — $ 34,488 Corporate bonds — 41,785 — 41,785 Commercial paper — 102,720 — 102,720 Foreign government securities — 4,013 — 4,013 Total short-term investments $ — $ 183,006 $ — $ 183,006 Liabiliti Warrant liability $ — $ — $ 2,829 $ 2,829 9 Changes in our Level 3 fair value measurements were as follows (in thousands): Warrant Liability Balance, January 31, 2023 $ 2,829 Gain on change in fair value ( 30 ) Balance, April 30, 2023 $ 2,799 Additional information about the Warrant liability, including the fair value inputs, is included in Note 17. Warrants to Purchase Shares of Common Stock . The carrying amounts of certain financial instruments, including cash held in bank accounts, accounts receivable, accounts payable, and accrued expenses, approximate fair value due to their relatively short maturities. As of April 30, 2023, the net carrying amount of the Initial Notes, defined in Note 9. Debt , was $ 212.3 million, and the estimated fair value was $ 150.8 million. The fair value of the Initial Notes is classified as a Level 3 measurement. Additional information regarding the Initial Notes is included in Note 9. Debt . Note 5. Prepaid Expenses and Other Current Assets Prepaid expenses and other current assets consisted of the following (in thousands): April 30, 2023 January 31, 2023 Prepaid software subscriptions $ 6,489 $ 7,533 Taxes 4,633 3,860 Prepaid insurance 2,020 3,225 Insurance payments receivable 2,000 2,000 Deposits 1,512 1,168 Contract assets 1,315 1,325 Prepaid hosting costs 914 871 Other 3,994 4,303 Total $ 22,877 $ 24,285 10 Note 6. Property and Equipment, Net Property and equipment, net consisted of the following (in thousands): April 30, 2023 January 31, 2023 Software $ 33,822 $ 32,778 Leasehold improvements 15,268 15,254 Computer equipment 11,636 11,780 Furniture and fixtures 4,470 3,793 65,196 63,605 L accumulated depreciation and amortization ( 38,783 ) ( 36,446 ) Total $ 26,413 $ 27,159 The following table summarizes the capitalized internal-use software costs included within the Software line item in the table above (in thousands): Three Months Ended April 30, 2023 2022 Internal-use software costs capitalized during the period $ 1,044 $ 1,902 April 30, 2023 January 31, 2023 Total capitalized internal-use software, net of accumulated amortization $ 13,667 $ 14,138 The following table summarizes total depreciation and amortization expense related to property and equipment, including amortization of internal-use software, included primarily in General and administrative and Cost of subscription revenue in the accompanying unaudited condensed consolidated statements of comprehensive loss (in thousands): Three Months Ended April 30, 2023 2022 Total depreciation and amortization expense $ 2,538 $ 2,181 11 Note 7. Purchased Intangible Assets and Goodwill The following tables summarize the purchased intangible asset balances (in thousands): April 30, 2023 Gross Carrying Amount Accumulated Amortization Net Carrying Amount Developed technology $ 19,571 $ ( 9,692 ) $ 9,879 Customer relationships 5,187 ( 3,366 ) 1,821 Trade name 1,709 ( 946 ) 763 Total $ 26,467 $ ( 14,004 ) $ 12,463 January 31, 2023 Gross Carrying Amount Accumulated Amortization Net Carrying Amount Developed technology $ 19,571 $ ( 9,194 ) $ 10,377 Customer relationships 5,187 ( 3,225 ) 1,962 Trade name 1,709 ( 847 ) 862 Total $ 26,467 $ ( 13,266 ) $ 13,201 Purchased intangible assets are being amortized to Cost of subscription revenue in the accompanying unaudited condensed consolidated statements of comprehensive loss on a straight-line basis over their estimated useful lives ranging from three to ten years . The following table summarizes amortization expense recognized on purchased intangible assets during the periods indicated (in thousands): Three Months Ended April 30, 2023 2022 Purchased intangible assets amortization expense $ 738 $ 554 Estimated future amortization expense for purchased intangible assets as of April 30, 2023 was as follows (in thousands): Fiscal year endin 2024 (remainder of the year) $ 2,215 2025 2,509 2026 1,874 2027 1,561 2028 1,561 Thereafter 2,743 Total estimated amortization expense $ 12,463 The following table represents the changes to goodwill (in thousands): Goodwill Balance, January 31, 2023 $ 53,991 Effects of foreign currency translation 1,769 Other 510 Balance, April 30, 2023 $ 56,270 12 Note 8. Accrued Expenses and Other Current Liabilities Accrued expenses and other current liabilities consisted of the following (in thousands): April 30, 2023 January 31, 2023 Litigation settlement $ 75,000 $ 75,000 Accrued hosting and third-party licenses 4,422 4,374 Accrued taxes 4,280 4,088 Warrant liability 2,799 2,829 Accrued outside services and consulting 2,159 3,507 Accrued interest 850 850 Accrued contingent consideration 1 — 4,420 Other accrued expenses 7,728 8,610 Total $ 97,238 $ 103,678 ______________ (1) During the three months ended April 30, 2023, we paid $ 4.5 million in contingent consideration to the former stockholders of Zephr. Refer to the Annual Report on Form 10-K for the fiscal year ended January 31, 2023 for more information. Note 9. Debt 2029 Notes On March 24, 2022 (Initial Closing Date), we issued convertible senior notes (Initial Notes) in the aggregate principal amount of $ 250.0 million pursuant to an investment agreement (Investment Agreement) and indenture agreement (Indenture) to certain entities affiliated with Silver Lake Alpine II, L.P. (Silver Lake). Pursuant to the Investment Agreement, additional convertible senior notes in the aggregate principal amount of $ 150.0 million (Additional Notes), (together with the Initial Notes, the “2029 Notes”) shall be issued to Silver Lake 18 months after the Initial Closing Date, with an earlier issuance upon our completion of a Material Acquisition that meets the conditions described in Section 2.02(a) of the Investment Agreement. In addition, in the event that a Change in Control (as defined in the Indenture) occurs prior to the Additional Notes being issued, the noteholder would have the right to receive, at the noteholder's election, the Additional Notes, a cash payment, or common stock, as described in Section 2.02(b) of the Investment Agreement. The Initial Notes and the Additional Notes, once issued, represent senior unsecured obligations of Zuora. As a condition of the Investment Agreement, we also issued warrants to Silver Lake to acquire up to 7.5 million shares of Class A common stock (Warrants). Refer to Note 17. Warrants to Purchase Shares of Common Stock for more information. The purchase price of the 2029 Notes is 98 % of the par value. The 2029 Notes bear interest at a rate of 3.95 % per annum, payable quarterly in cash, provided that we have the option to pay interest in kind at 5.50 % per annum. The 2029 Notes will mature on March 31, 2029, subject to earlier conversion or redemption. The Initial Notes are convertible at Silver Lake’s option into shares of our Class A common stock at an initial conversion rate of 50.0 shares per $ 1,000 principal amount ($ 20.00 per share, representing 12.5 million shares of Class A common stock), subject to customary anti-dilution adjustments. Any 2029 Notes that are converted in connection with a Make-Whole Fundamental Change (as defined in the Indenture) are subject to an increase in the conversion rate under certain circumstances. With certain exceptions, upon a Fundamental Change, the holders of the 2029 Notes may require that we repurchase all or part of the principal amount of the 2029 Notes at a purchase price equal to the principal amount and accrued but unpaid interest outstanding, plus the total sum of all remaining scheduled interest payments through the remainder of the term of the 2029 Notes, at the 5.50 % paid in kind interest rate. At any time on or after the fifth anniversary of the Initial Closing Date, the holders of the 2029 Notes may require that we repurchase all or part of the principal amount of the Notes at a purchase price equal to the principal amount plus accrued interest through the date of repurchase. Upon certain events of default, the 2029 Notes may be declared due and payable (or will automatically become so under certain events of default), at a purchase price equal to the principal amount plus accrued interest through the date of repurchase. We have no right to redeem the 2029 Notes prior to maturity. 13 Pursuant to the Investment Agreement, without our prior written consent, Silver Lake is restricted from converting any 2029 Note, exercising any Warrant or transferring any 2029 Note or Warrant to parties other than affiliates or members of Silver Lake (with certain limited exceptions) for 18 months following the Initial Closing Date, or if sooner, upon the consummation of any Change in Control (as defined in the Investment Agreement) or entry into a definitive agreement for a transaction that, if consummated, would result in a Change in Control. The 2029 Notes debt discount is being amortized using the effective interest rate method over the five year expected life of the 2029 Notes (representing the period from the contract date to the earliest noncontingent put date of May 24, 2027) and reflects an effective interest rate of 8.5 %. The carrying value of the Initial Notes was classified as long-term and consisted of the following (in thousands): April 30, 2023 January 31, 2023 Initial Notes principal $ 250,000 $ 250,000 Unamortized debt discount ( 37,693 ) ( 39,597 ) Carrying value $ 212,307 $ 210,403 Interest expense related to the Initial Notes, included in Interest expense in the accompanying unaudited condensed consolidated statements of comprehensive loss, was as follows (in thousands): Three Months Ended April 30, 2023 2022 Contractual interest expense $ 2,469 $ 1,015 Amortization of debt discount 1,904 742 Total interest expense $ 4,373 $ 1,757 Debt Agreement We have a $ 30.0 million revolving credit facility, which is currently undrawn, under an agreement (Debt Agreement) with First Citizens Bank & Trust Company (assumed from Silicon Valley Bank). This credit facility matures in October 2025. The interest rate under the credit facility is equal to the prime rate published by the Wall Street Journal minus 1.00 %. We had no t drawn down any amounts under the facility as of April 30, 2023. Note 10. Deferred Revenue and Performance Obligations The following table summarizes revenue recognized during the period that was included in the deferred revenue balance at the beginning of each respective period (in thousands): Three Months Ended April 30, 2023 2022 Revenue recognized from deferred revenue $ 78,653 $ 73,567 As of April 30, 2023, total remaining non-cancellable performance obligations under our subscription contracts with customers was approximately $ 503.9 million and we expect to recognize revenue on approximately 59 % of these remaining performance obligations over the next 12 months. Remaining performance obligations under our professional services contracts as of April 30, 2023 were not material. 14 Note 11. Geographical Information Disaggregation of Revenue Revenue by country, based on the customer’s address at the time of sale, was as follows (in thousands): Three Months Ended April 30, 2023 2022 United States $ 65,407 $ 59,419 Others 37,688 33,780 Total $ 103,095 $ 93,199 Percentage of revenue by geographic ar United States 63 % 64 % Other 37 % 36 % Other than the United States, no individual country exceeded 10% of total revenue for the three months ended April 30, 2023 and 2022. Long-lived assets Long-lived assets, which consist of property and equipment, net, deferred commissions, purchased intangible assets, net and operating lease right-of-use assets by geographic location, are based on the location of the legal entity that owns the asset. As of April 30, 2023 and January 31, 2023, no individual country exceeded 10% of total long-lived assets other than the United States. Note 12. Leases We have non-cancelable operating leases for our offices located in the U.S. and abroad. As of April 30, 2023, these leases expire on various dates between 2023 and 2030. Certain lease agreements include one or more options to renew, with renewal terms that can extend the lease up to seven years . We have the right to exercise or forego the lease renewal options. The lease agreements do not contain any material residual value guarantees or material restrictive covenants. The components of our long-term operating leases and related operating lease cost were as follows (in thousands): April 30, 2023 January 31, 2023 Operating lease right-of-use assets $ 28,157 $ 22,768 Operating lease liabilities, current portion $ 9,853 $ 9,240 Operating lease liabilities, net of current portion 41,330 37,924 Total operating lease liabilities $ 51,183 $ 47,164 Three Months Ended April 30, 2023 2022 Operating lease cost 1 $ 2,224 $ 2,634 _____________________________ ( 1) Includes costs related to our short-term operating leases and is net of sublease income as follows (in thousands): Three Months Ended April 30, 2023 2022 Short-term operating lease costs $ 101 $ 90 Sublease income $ ( 98 ) $ — 15 The future maturities of long-term operating lease liabilities for each fiscal year were as follows (in thousands): Maturities of Operating Lease Liabilities 2024 (remainder of the year) $ 9,620 2025 8,665 2026 8,597 2027 7,808 2028 7,903 Thereafter 17,487 Total lease payments 60,080 Less imputed interest ( 8,897 ) Present value of lease liabilities $ 51,183 Other supplemental information related to our long-term operating leases includes the following (dollars in thousands): April 30, 2023 January 31, 2023 Weighted-average remaining operating lease term 6.3 years 6.7 years Weighted-average operating lease discount rate 5.2 % 4.8 % Three Months Ended April 30, 2023 2022 Supplemental Cash Flow Information Cash paid for amounts included in the measurement of lease liabiliti Cash paid for operating leases $ 3,490 $ 3,414 New right-of-use assets obtained in exchange for lease liabiliti Operating leases obtained $ 6,973 $ — Note 13. Commitments and Contingencies Letters of Credit In connection with the execution of certain facility leases, we had bank issued irrevocable letters of credit for $ 4.5 million as of April 30, 2023 and January 31, 2023. No draws have been made under such letters of credit. Legal Proceedings From time to time, we may be subject to legal proceedings, as well as demands, claims and threatened litigation. The outcomes of legal proceedings and other contingencies are inherently unpredictable, subject to significant uncertainties, and could be material to our operating results and cash flows for a particular period. Regardless of the outcome, litigation can have an adverse impact on our business because of defense and settlement costs, diversion of management resources, and other factors. Other than the matters described below, we are not currently party to any legal proceeding that we believe could have a material adverse effect on our business, operating results, cash flows, or financial condition should such litigation or claim be resolved unfavorably. 16 Securities Class Action Litigation Federal Litigation . In June 2019, a putative securities class action lawsuit was filed in the U.S. District Court for the Northern District of California naming Zuora and certain of its officers as defendants. The complaint purports to bring suit on behalf of stockholders who purchased or otherwise acquired Zuora's securities between April 12, 2018 and May 30, 2019. The complaint alleges that defendants made false and misleading statements about Zuora's business, operations and prospects in violation of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended (Exchange Act), and seeks unspecified compensatory damages, fees and costs. In November 2019, the lead plaintiff filed a consolidated amended complaint asserting the same claims. This consolidated class action litigation is captioned Roberts v. Zuora, Inc. , Case No. 3:19-CV-03422. In April 2020, the court denied defendants’ motion to dismiss. On March 15, 2021, the court granted plaintiff’s motion to certify a class consisting of persons and entities who purchased or acquired Zuora common stock between April 12, 2018 and May 30, 2019 and who were allegedly damaged thereby. Discovery in this case concluded in October 2022. On March 31, 2023, Zuora entered into an agreement to settle this consolidated class action litigation. The settlement provides for a payment of $ 75.0 million by Zuora, which we recorded as an accrual and is included in Accrued expenses and other current liabilities in the accompanying unaudited condensed consolidated balance sheets as of April 30, 2023 and January 31, 2023. We expect approximately $ 6.6 million of the settlement to be funded by our remaining insurance coverage. The settlement is subject to court approval. Zuora entered into the settlement to eliminate the uncertainty, burden, and expense of further protracted litigation. Zuora denies the claims alleged in the litigation, and the settlement does not assign or reflect any admission of wrongdoing or liability by Zuora or the named defendants. State Litigation . In April and May 2020, two putative securities class action lawsuits were filed in the Superior Court of the State of California, County of San Mateo, naming as defendants Zuora and certain of its current and former officers, its directors and the underwriters of Zuora's initial public offering (IPO). The complaints purport to bring suit on behalf of stockholders who purchased or otherwise acquired Zuora's securities pursuant or traceable to the Registration Statement and Prospectus issued in connection with Zuora's IPO and allege claims under Sections 11, 12(a)(2) and 15 of the Securities Act of 1933. The suits seek unspecified damages and other relief. In July 2020, the court entered an order consolidating the two lawsuits, and the lead plaintiffs filed a consolidated amended complaint asserting the same claims. This consolidated class action litigation is captioned Olsen v. Zuora, Inc ., Case No. 20-civ-1918. In October 2020, the court denied defendants’ demurrer as to the Section 11 and Section 15 claims and granted the demurrer as to the Section 12(a)(2) claim with leave to file an amended complaint. In November 2020, the lead plaintiffs filed an amended consolidated complaint. Defendants' demurrer to the Section 12(a)(2) claim was sustained with leave to amend. In October 2021, the court certified a class for the Section 11 and Section 15 claims, consisting of persons and entities who purchased or acquired Zuora common stock pursuant or traceable to the Registration Statement and Prospectus issued in connection with Zuora’s IPO. The lead plaintiffs voluntarily dismissed the Section 12(a)(2) claim without prejudice. Discovery in this case is ongoing. We dispute the claims and intend to vigorously defend against them. While Zuora cannot predict the ultimate outcome of this litigation, Zuora recorded an accrual of $ 1.0 million based on its assessment of the potential loss that may result from this matter, which amount is included in Accrued expenses and other current liabilities in the accompanying unaudited condensed consolidated balance sheets as of April 30, 2023 and January 31, 2023. Derivative Litigation In September 2019, two stockholder derivative lawsuits were filed in the U.S. District Court for the Northern District of California against certain of Zuora's directors and executive officers and naming Zuora as a nominal defendant. The derivative actions allege claims based on events similar to those in the securities class actions and assert causes of action against the individual defendants for breach of fiduciary duty, unjust enrichment, waste of corporate assets, and for making false and misleading statements about Zuora's business, operations, and prospects in violation of Section 14(a) of the Exchange Act. Plaintiffs seek corporate reforms, unspecified damages and restitution, and fees and costs. In November 2019, the stockholder derivative lawsuits, which are related to the federal securities class action, were assigned to the same judge who is overseeing the federal securities class action lawsuit. In February 2020, the court entered an order consolidating the two derivative lawsuits, and in March 2022, plaintiffs filed a consolidated complaint. In May and June 2020, two stockholder derivative lawsuits were filed in the U.S. District Court for the District of Delaware against certain of Zuora's directors and current and former executive officers. The derivative actions allege claims based on events similar to those in the securities class actions and the derivative actions pending in the Northern District of California and assert causes of action against the individual defendants for breach of fiduciary duty, unjust enrichment, waste of corporate assets, contribution, and for making false and misleading 17 statements about Zuora's business, operations, and prospects in violation of Section 14(a) of the Exchange Act. Plaintiff seeks corporate reforms, unspecified damages and restitution, and fees and costs. In June 2020, the court entered an order consolidating the two District of Delaware derivative lawsuits. In February and March 2021, two additional stockholder derivative lawsuits were filed in Delaware Chancery Court alleging similar claims based on the same underlying events. The two Chancery Court cases were consolidated and an amended consolidated complaint was filed. In May 2022, a stockholder derivative lawsuit was filed in the U.S. District Court for the Northern District of California against certain of Zuora’s directors and executive officers and naming Zuora as a nominal defendant. The derivative action alleges claims based on events similar to those in the securities class actions and asserts causes of action against the individual defendants for breach of fiduciary duty, waste of corporate assets, unjust enrichment, and contribution. Plaintiff seeks corporate reforms, unspecified damages and restitution, and fees and costs. In February 2023, Zuora reached an agreement to settle the derivative litigation matters without any admission or concession of wrongdoing or liability by Zuora or the named defendants. In connection with the settlement, Zuora has agreed to adopt and implement certain corporate governance modifications and pay for certain plaintiffs' attorney fees, which amount Zuora expects to be fully covered by insurance proceeds. The settlement is subject to court approval. Other Contractual Obligations As of April 30, 2023, we have a contractual obligation to make $ 24.6 million in purchases of cloud computing services provided by one of our vendors by September 2024. Note 14. Income Taxes The following table reflects our income tax provision, pretax loss and effective tax rate for the periods presented (in thousands, except percentages): Three Months Ended April 30, 2023 2022 Loss before income taxes $ ( 18,826 ) $ ( 22,860 ) Income tax provision 469 308 Effective tax rate ( 2.5 ) % ( 1.3 ) % The effective tax rates differ from the statutory rates primarily as a result of providing no benefit on pretax losses incurred in the United States, as we have determined that the benefit of the losses is not more likely than not to be realized. Note 15. Stockholders’ Equity Preferred Stock As of April 30, 2023, Zuora had authorized 10 million shares of preferred stock, each with a par value of $ 0.0001 per share. As of April 30, 2023, no shares of preferred stock were issued and outstanding. Common Stock Prior to Zuora's IPO, which was effective in April 2018, all shares of common stock then outstanding were reclassified into Class B common stock. Shares offered and sold in the IPO consisted of newly authorized shares of Class A common stock. Holders of Class A and Class B common stock are entitled to one vote per share and ten votes per share, respectively, and the shares of Class A common stock and Class B common stock are identical, except for voting rights and the right to convert Class B common stock to Class A common stock. As of April 30, 2023, Zuora had authorized 500 million shares of Class A common stock and 500 million shares of Class B common stock, each with a par value of $ 0.0001 per share. As of April 30, 2023, 129.1 million shares of Class A common stock and 8.1 million shares of Class B common stock were issued and outstanding. 18 Accumulated Other Comprehensive Loss Components of accumulated other comprehensive loss were as follows (in thousands): Foreign Currency Translation Adjustment Unrealized Loss on Available-for-Sale Securities Total Balance, January 31, 2023 $ ( 343 ) $ ( 576 ) $ ( 919 ) Foreign currency translation adjustment ( 283 ) — ( 283 ) Unrealized gain on available-for-sale securities — 340 340 Balance, April 30, 2023 $ ( 626 ) $ ( 236 ) $ ( 862 ) There were no material reclassifications out of accumulated other comprehensive loss during the three months ended April 30, 2023. Additionally, there was no material tax impact on the amounts presented. Note 16. Employee Stock Plans Equity Incentive Plans Our 2018 Equity Incentive Plan (2018 Plan) authorizes the award of stock options, restricted stock awards, stock appreciation rights, restricted stock units (RSUs), performance awards, and stock bonuses. As of April 30, 2023, approximately 31.6 million shares of Class A common stock were reserved and available for issuance under the 2018 Plan. In addition, as of April 30, 2023, 4.1 million stock options and RSUs exercisable or settleable for Class B common stock were outstanding in the aggregate under our 2006 Stock Plan (2006 Plan) and 2015 Equity Incentive Plan (2015 Plan), which plans were terminated in May 2015 and April 2018, respectively. The 2006 Plan and 2015 Plan continue to govern outstanding equity awards granted thereunder. Stock Options The following table summarizes stock option activity and related information (in thousands, except weighted-average exercise price and average remaining contractual term): Shares Subject To Outstanding Stock Options Weighted-Average Exercise Price Average Remaining Contractual Term (Years) Aggregate Intrinsic Value Balance, January 31, 2023 7,761 $ 9.28 5.0 $ 14,505 Exercised ( 96 ) 5.43 Cancelled ( 775 ) 13.28 Forfeited ( 70 ) 12.66 Balance, April 30, 2023 6,820 8.85 4.4 13,816 Exercisable as of April 30, 2023 3,127 3.37 2.2 13,816 Vested and expected to vest as of April 30, 2023 6,765 $ 8.81 4.4 $ 13,816 There were no stock options granted during the three months ended April 30, 2023 and 2022. The aggregate intrinsic value of options exercised was $ 0.4 million and $ 1.1 million during the three months ended April 30, 2023 and 2022, respectively. 19 RSUs The following table summarizes RSU activity and related information (in thousands, except weighted-average grant date fair value): Number of RSUs Outstanding Weighted-Average Grant Date Fair Value Balance, January 31, 2023 12,504 $ 12.98 Granted 2,524 8.37 Vested ( 1,643 ) 13.38 Forfeited ( 652 ) 14.21 Balance, April 30, 2023 12,733 $ 11.95 Performance Stock Units (PSUs) In March 2022, we granted PSUs to certain executives under our 2018 Plan. Each grant is divided into three tranches, each tranche having pre-established performance targets that if met, as determined quarterly by our Compensation Committee, would result in the shares attributable to such tranche being earned, subject to a service-based vesting condition. The shares attributable to unearned tranches will be forfeited on January 31, 2025 if the applicable performance criteria for such tranches are not met. Stock-based compensation expense is recognized if it is probable the performance targets (for each respective tranche) will be met during the performance period. During the three months ended April 30, 2023, we revised the performance targets of the PSUs granted to certain executives in March 2022, which resulted in the recognition of $ 1.4 million of expense during the quarter. No change was made to the number of shares subject to the PSUs or allocated to the three tranches. The following table summarizes PSU activity and related information (in thousands, except weighted-average grant date fair value): Number of PSUs Outstanding Weighted-Average Grant Date Fair Value Balance, January 31, 2023 2,905 $ 15.21 Forfeited ( 350 ) 15.21 Balance, April 30, 2023 2,555 $ 15.21 2018 Employee Stock Purchase Plan Our 2018 Employee Stock Purchase Plan (ESPP) is broadly available to our employees in the United States and certain other countries in which we operate. A total of 5.8 million shares of Class A common stock were reserved and available for issuance under the ESPP as of April 30, 2023. The ESPP provides for 24 -month offering periods beginning June 15 and December 15 of each year, and each offering period contains four six-month purchase periods. On each purchase date, ESPP participants will purchase shares of our Class A common stock at a price per share equal to 85 % of the lesser of (1) the fair market value of the Class A common stock on the offering date or (2) the fair market value of the Class A common stock on the purchase date. 20 Stock-Based Compensation Expense Stock-based compensation expense was recorded in the following cost and expense categories in the accompanying unaudited condensed consolidated statements of comprehensive loss (in thousands): Three Months Ended April 30, 2023 2022 Cost of subscription revenue $ 2,359 $ 1,799 Cost of professional services revenue 3,021 3,017 Research and development 6,744 5,966 Sales and marketing 7,977 7,456 General and administrative 5,123 4,587 Total stock-based compensation expense $ 25,224 $ 22,825 As of April 30, 2023, unrecognized compensation costs related to unvested equity awards and the weighted-average remaining period over which those costs are expected to be recognized were as follows (dollars in thousands): Stock Options RSUs PSUs ESPP Unrecognized compensation costs $ 3,394 $ 124,067 $ 21,098 $ 7,978 Weighted-average remaining recognition period 1.6 years 2.0 years 1.4 years 1.0 year Note 17. Warrants to Purchase Shares of Common Stock In connection with the issuance of the 2029 Notes (discussed Note 9. Debt ), we issued to Silver Lake the Warrants to acquire up to 7.5 million shares of Class A common stock, exercisable for a period of approximately seven years from the Initial Closing Date, and of which (i) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 20.00 per share, (ii) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 22.00 per share and (iii) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 24.00 per share. In addition, Silver Lake can elect to exercise the Warrants on a net-exercise basis. If a Make-Whole Fundamental Change (as defined in the Form of Warrant) occurs, then the number of shares issuable upon exercise of the Warrants may be increased, and the exercise price for the Warrants adjusted. Beginning on the Initial Closing Date and ending on the earlier of (i) the date that is 18 months following the Initial Closing Date and (ii) the consummation of any Change in Control, except for certain limited exceptions, the Warrants are only exercisable with our written approval. As of April 30, 2023, all 7.5 million Warrants were outstanding. We have classified a portion of the Warrants as a current liability due to certain settlement provisions in the Warrants. Under certain Make-Whole Fundamental Change scenarios, we would be required to, at our option, either (i) obtain shareholder approval prior to issuing 20 % or more of our outstanding common stock or (ii) pay cash in lieu of delivering any shares at or above such 20 % threshold. As a result, we concluded that approximately 2.8 million Warrants valued at $ 12.0 million as of the Initial Closing Date do not qualify for equity classification under ASC 815-40, pursuant to our sequencing policy described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements. We will reassess the classification of the Warrant liability in future reporting periods to determine if any change is required. The liability-classified warrants fair value was remeasured using the Black-Scholes option pricing model using the following inputs: 21 April 30, 2023 January 31, 2023 Fair value of common stock 1 $ 7.35 $ 7.24 Exercise price $ 22.00 - $ 24.00 $ 22.00 - $ 24.00 Expected volatility 41.6 % 41.2 % Expected term (in years) 5.9 6.2 Risk-free interest rate 3.5 % 3.6 % Expected dividend yield — — ______________ (1) The fair value of common stock was adjusted to reflect certain restrictions on the Warrants for 18 months following the issuance date. We recognized a realized gain of $ 30.0 thousand and $ 4.4 million during the three months ended April 30, 2023 and 2022, respectively, on the revaluation of the liability-classified Warrants, which is included in Change in fair value of warrant liability in the accompanying unaudited condensed consolidated statements of comprehensive loss. Refer to Note 4. Fair Value Measurements for the fair value of the liability-classified Warrants. Note 18. Net Loss Per Share The following table presents the calculation of basic and diluted net loss per share for the periods presented (in thousands, except per share data): Three Months Ended April 30, 2023 2022 Numerato Net loss $ ( 19,295 ) $ ( 23,168 ) Denominato Weighted-average common shares outstanding, basic and diluted 136,190 128,457 Net loss per share, basic and diluted $ ( 0.14 ) $ ( 0.18 ) Since we were in a net loss position for all periods presented, basic net loss per share attributable to common stockholders is the same as diluted net loss per share, as the inclusion of all potential common shares outstanding would have been anti-dilutive. Potentially dilutive securities that were not included in the diluted per share calculations because they would be anti-dilutive were as follows (in thousands): April 30, 2023 2022 Unvested RSUs issued and outstanding 12,733 12,180 Initial Notes conversion 12,500 12,500 Warrants 7,500 7,500 Issued and outstanding stock options 6,820 8,361 Unvested PSUs issued and outstanding 2,555 2,905 Shares committed under ESPP 774 370 Total 42,882 43,816 22 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements and related notes appearing elsewhere in this Form 10-Q and our Annual Report on Form 10-K for the fiscal year ended January 31, 2023 filed with the Securities and Exchange Commission (SEC) on April 3, 2023 (Annual Report on Form 10-K). As discussed in the section titled “Special Note Regarding Forward-Looking Statements,” the following discussion and analysis contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. Factors that could cause or contribute to these differences include, but are not limited to, those identified below and those discussed in the section titled “Risk Factors” under Part II, Item 1A in this Form 10-Q and in our Annual Report on Form 10-K. Our fiscal year ends on January 31. Overview Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the quote-to-cash and revenue recognition process, including quoting, billing, collections and revenue recognition. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. Many of today’s enterprise software systems manage their quote-to-cash and revenue recognition process using software built for one-time transactions. These systems were not designed for the dynamic, ongoing nature of subscription, usage, or consumption-based pricing models, and can be extremely difficult to configure. In traditional product-based businesses, quote-to-cash and revenue recognition was a linear process—a customer orders a product, is billed for that product, payment is collected, and the revenue is recognized. These legacy product-based systems were not specifically designed to handle the complexities of managing ongoing customer relationships and recurring revenue models commonly found in subscription businesses, including billing proration, revenue recognition and reporting, and calculating the lifetime value of the customer. Using legacy or homegrown software to build a subscription business often results in inefficient processes with prolonged and complex manual downstream work, hard-coded customizations, and a proliferation of stock-keeping units (SKUs). However, enterprise business models are inherently dynamic, with multiple interactions, flexible pricing, global complexities, and continuously-evolving relationships and events. The capabilities to launch, price, and bill for products, facilitate and record cash receipts, process and recognize revenue, and analyze data to drive key decisions are mission critical and particularly complex for companies that operate at a global scale. As a result, as companies launch, grow, and scale their businesses, they often conclude that legacy systems are inadequate. This is where Zuora comes in. Our vision is “The World Subscribed” -- the idea that one day every company will be a part of the Subscription Economy. Our focus has been on providing the technology our customers need to thrive as a customer-centric, recurring revenue businesses. Our solution includes Zuora Platform, Zuora Billing, Zuora Revenue, Zuora Collect, Zephr, and other software products that support and expand upon these core offerings. Our software helps companies analyze data - including information such as which customers are delivering the most recurring revenue, or which segments are showing the highest churn, thus enabling customers to make informed decisions for their subscription business and quickly implement changes such as launching new services, updating pricing (usage, time, or outcome based), delivering new offerings, or making other changes to their customers’ subscription experience. We also have a large subscription ecosystem of global partners, that can assist our customers with additional strategies and services throughout the subscription journey. Companies in a variety of industries - technology, manufacturing, media and entertainment, telecommunications, and many others - are using our solution to scale and adapt to a world that is increasingly choosing subscription-based offerings. 23 Fiscal First Quarter Business Highlights and Recent Developments: • Customers with Annual Contract Value (ACV) equal to or greater than $100,000 were 782, up from 746 as of April 30, 2022. Given that 96% of our customers had ACV over $100,000 as of April 30, 2023, we will no longer report on this metric and will instead report on customers with ACV equal to or greater than $250,000, which we believe to be a more meaningful measure of our execution and continued focus on enterprise customers. Customers with ACV equal to or greater than $250,000 were 436, up from 386 as of April 30, 2022. • Our dollar-based retention rate decreased to 108% compared to 110% as of April 30, 2022. • Our Annual Recurring Revenue (ARR) was $373.9 million as of April 30, 2023 compared to $326.3 million as of April 30, 2022, representing ARR growth of 15%. Fiscal First Quarter Financial Performance Summary: Our financial performance for the three months ended April 30, 2023 compared to the three months ended April 30, 2022 reflects the followin • Subscription revenue was $89.7 million, an increase of $11.2 million, or 14%; and total revenue was $103.1 million, an increase of $9.9 million, or 11%. On a constant currency basis, subscription revenue increased 18%; and total revenue increased 14%. • Gross profit was $65.7 million, or 64% of total of revenue, compared to $57.0 million, or 61% of total revenue. • Loss from operations was $20.2 million, or 20% of total revenue, compared to a loss of $23.7 million, or 25% of total revenue. Key Operational and Financial Metrics We monitor the following key operational and financial metrics to evaluate our business, measure our performance, identify trends affecting our business, formulate business plans and make strategic decisio April 30, 2023 2022 Customers with ACV equal to or greater than $250,000 436 386 Dollar-based retention rate 108 % 110 % Annual recurring revenue growth 15 % 20 % Customers with Annual Contract Value Equal to or Greater than $250,000 We believe our ability to enter into larger contracts is indicative of broader adoption of our solution by larger organizations. It also reflects our ability to expand our revenue footprint within our current customer base. We define ACV as the subscription revenue we would contractually expect to recognize from that customer over the next twelve months, assuming no increases or reductions in their subscriptions. We define the number of customers at the end of any particular period as the number of parties or organizations that have entered into a distinct subscription contract with us and for which the term has not ended. Each party with whom we have entered into a distinct subscription contract is considered a unique customer, and in some cases, there may be more than one customer within a single organization. We had 436 customers with ACV equal to or greater than $250,000 as of April 30, 2023. We expect this metric to continue to increase over the remainder of the fiscal year. 24 Dollar-Based Retention Rate We believe our dollar-based retention rate is a key measure of our ability to retain and expand revenue from our customer base over time. We calculate our dollar-based retention rate as of a period end by starting with the sum of the ACV from all customers as of twelve months prior to such period end, or prior period ACV. We then calculate the sum of the ACV from these same customers as of the current period end, or current period ACV. The current period ACV includes any upsells and also reflects contraction or attrition over the trailing twelve months, but excludes revenue from new customers added in the current period. We then divide the current period ACV by the prior period ACV to arrive at our dollar-based retention rate. Our dollar-based retention rate was 108% as of April 30, 2023. While the dollar-based retention rate can fluctuate in any particular quarter, we expect it to remain relatively consistent for the remainder of the fiscal year. Annual Recurring Revenue ARR represents the annualized recurring value at the time of initial booking or contract modification for all active subscription contracts at the end of a reporting period. ARR excludes the value of non-recurring revenue such as professional services revenue as well as contracts with new customers with a term of less than one year. ARR should be viewed independently of revenue and deferred revenue, and is not intended to be a substitute for, or combined with, any of these items. Our ARR was $373.9 million as of April 30, 2023, compared to $326.3 million as of April 30, 2022, representing an increase of 15% year-over-year. We expect our ARR year-over-year growth rate to remain relatively consistent or decrease slightly for the remainder of the fiscal year. Components of Our Results of Operations Revenue Subscription revenue. Subscription revenue consists of fees for access to, and use of, our products, as well as customer support. We generate subscription fees pursuant to non-cancelable subscription agreements with terms that typically range from one to three years. Subscription revenue is primarily based on fees to access our services platform over the subscription term. We typically invoice customers in advance in either annual or quarterly installments. Customers can also elect to purchase additional volume blocks or products during the term of the contract. We typically recognize subscription revenue ratably over the term of the subscription period, beginning on the date that access to our platform is provisioned, which is generally on or about the date the subscription agreement is signed. Professional services revenue. Professional services revenue typically consists of fees for implementation services in connection with helping our customers deploy, configure, and optimize the use of our solutions. These services include systems integration, data migration, and process enhancement. Professional services projects generally take three to twelve months to complete. Once the contract is signed, we generally invoice for professional services on a time and materials basis, although we occasionally engage in fixed-price service engagements and invoice for those based upon agreed milestone payments. We recognize revenue as professional services are performed for time and materials engagements and on a proportional performance method when the professional services are performed under fixed fee engagements. We expect to continue to transition a portion of our professional services implementations to our strategic partners, including system integrators, and as a result we expect our professional services revenue to decrease over time as a percentage of total revenue. Deferred Revenue Deferred revenue consists of customer billings in advance of revenue being recognized from our subscription and support services and professional services arrangements. We primarily invoice our customers for subscription services arrangements annually or quarterly in advance. Amounts anticipated to be recognized within one year of the balance sheet date are recorded as deferred revenue, current portion, and the remaining portion is recorded as deferred revenue, net of current portion in our unaudited condensed consolidated balance sheets. Overhead Allocation and Employee Compensation Costs We allocate shared costs, such as facilities costs (including rent, utilities, and depreciation on capital expenditures related to facilities shared by multiple departments), information technology costs, and certain 25 administrative personnel costs to all departments based on headcount and location. As such, allocated shared costs are reflected in each cost of revenue and operating expenses category. Employee compensation costs consist of salaries, bonuses, commissions, benefits, and stock-based compensation. Cost of Revenue, Gross Profit and Gross Margin Cost of subscription revenue. Cost of subscription revenue consists primarily of costs related to hosting our platform and providing customer support. These costs include data center costs and third-party hosting fees, employee compensation costs associated with maintaining our cloud-based infrastructure, amortization expenses associated with capitalized internal-use software and purchased technology, allocated overhead, software and maintenance costs, and outside services associated with the delivery of our subscription services. We intend to continue to invest in our platform infrastructure, including third-party hosting capacity, and support organizations. However, the level and timing of such investment in these areas could fluctuate and affect our cost of subscription revenue in the future. Cost of professional services revenue. Cost of professional services revenue consists primarily of costs related to the deployment of our platform. These costs include employee compensation costs for our professional services team, allocated overhead, travel costs, and costs of outside services associated with supplementing our internal staff. We believe that investment in our systems integrator partner network will lead to total margin improvement, however costs may fluctuate in the near term as we shift deployments to our partner network. Gross profit and gross margin. Our gross profit and gross margin may fluctuate from period to period as our revenue fluctuates, and as a result of the timing and amount of our investments to expand hosting capacity, including through third-party cloud providers, amortization expenses associated with our capitalized internal-use software and purchased technology, and our continued efforts to build our cloud infrastructure, support, and professional services teams. Operating Expenses Research and development. Research and development expense consists primarily of employee compensation costs, allocated overhead, and travel costs. We capitalize research and development costs associated with the development of internal-use software and we generally amortize these costs over a period of three years into the cost of subscription revenue. All other research and development costs are expensed as incurred. We believe that continued investment in our platform is important for our growth, and as such, we expect our research and development expense to remain relatively consistent or decrease as a percentage of total revenue for the remainder of the current fiscal year. Sales and marketing. Sales and marketing expense consists primarily of employee compensation costs, including the amortization of deferred commissions related to our sales personnel, allocated overhead, costs of general marketing and promotional activities, and travel costs. Commission costs that are incremental to obtaining a contract are amortized in sales and marketing expense over the period of benefit, which is expected to be five years. While we expect to continue to make investments as we expand our customer acquisition and retention efforts, we expect our sales and marketing expense to remain relatively consistent or decrease as a percentage of total revenue for the remainder of the current fiscal year. General and administrative. General and administrative expense consists primarily of employee compensation costs, allocated overhead, and travel costs for finance, accounting, legal, human resources, and recruiting personnel. In addition, general and administrative expense includes non-personnel costs, such as accounting fees, legal fees, charitable contributions, asset impairments, and all other supporting corporate expenses not allocated to other departments. We expect to incur ongoing costs as a result of operating as a public company, including costs related to compliance and reporting obligations of public companies, and continued investment to support our growing operations. As a result, we expect our general and administrative expense to remain relatively consistent or decrease as a percentage of total revenue for the remainder of the current fiscal year. 26 Other income and expenses Other income and expenses primarily consists of gain or loss on the revaluation of the warrant liability; amortization of discount and debt issuance costs, and contractual interest on our convertible senior notes; interest income from our cash and cash equivalents and short-term investments; and foreign exchange fluctuations. Income Tax Provision Income tax provision consists primarily of income taxes related to foreign and state jurisdictions in which we conduct business. We maintain a full valuation allowance on our federal and state deferred tax assets as we have concluded that it is more likely than not that the deferred assets will not be utilized. Results of Operations The following tables set forth our unaudited condensed consolidated results of operations for the periods presented in dollars and as a percentage of our total revenue (in thousands): Three Months Ended April 30, 2023 2022 Reve Subscription $ 89,711 $ 78,500 Professional services 13,384 14,699 Total revenue 103,095 93,199 Cost of reve Subscription 20,588 18,725 Professional services 16,758 17,510 Total cost of revenue 37,346 36,235 Gross profit 65,749 56,964 Operating expens Research and development 25,668 22,872 Sales and marketing 41,444 40,457 General and administrative 18,816 17,290 Total operating expenses 85,928 80,619 Loss from operations (20,179) (23,655) Change in fair value of warrant liability 30 4,372 Interest expense (4,387) (1,784) Interest and other income (expense), net 5,710 (1,793) Loss before income taxes (18,826) (22,860) Income tax provision 469 308 Net loss $ (19,295) $ (23,168) 27 Three Months Ended April 30, 2023 2022 Reve Subscription 87 % 84 % Professional services 13 16 Total revenue 100 100 Cost of reve Subscription 20 20 Professional services 16 19 Total cost of revenue 36 39 Gross profit 64 61 Operating expens Research and development 25 25 Sales and marketing 40 43 General and administrative 18 19 Total operating expenses 83 87 Loss from operations (20) (25) Change in fair value of warrant liability — 5 Interest expense (4) (2) Interest and other income (expense), net 6 (2) Loss before income taxes (18) (25) Income tax provision — — Net loss (19) % (25) % Note: Percentages in the table above may not sum due to rounding. Non-GAAP Financial Measures To supplement our unaudited condensed consolidated financial statements presented in accordance with U.S. GAAP, we monitor and consider non-GAAP financial measures includin subscription revenue and total revenue that exclude the impact of foreign currency exchange rate fluctuations (constant currency basis), non-GAAP cost of subscription revenue, non-GAAP subscription gross margin, non-GAAP cost of professional services revenue, non-GAAP professional services gross margin, non-GAAP gross profit, non-GAAP gross margin, non-GAAP income (loss) from operations, non-GAAP operating margin, non-GAAP net income (loss), non-GAAP net income (loss) per share, basic and diluted, and adjusted free cash flow. We use non-GAAP financial measures in conjunction with GAAP measures as part of our overall assessment of our performance, including the preparation of our annual operating budget and quarterly forecasts, to evaluate the effectiveness of our business strategies and to communicate with our Board of Directors concerning our financial performance. We believe these non-GAAP measures provide investors consistency and comparability with our past financial performance and facilitate period-to-period comparisons of our operating results. We also believe these non-GAAP measures are useful in evaluating our operating performance compared to that of other companies in our industry, as they generally eliminate the effects of certain items that may vary for different companies for reasons unrelated to overall operating performance. Investors are cautioned that there are material limitations associated with the use of non-GAAP financial measures as an analytical tool. The non-GAAP financial measures we use may be different from non-GAAP financial measures used by other companies, limiting their usefulness for comparison purposes. We compensate for these limitations by providing specific information regarding the GAAP items excluded from our non-GAAP financial measures. The presentation of these non-GAAP financial measures is not intended to be considered in isolation or as a substitute for, or superior to, financial information prepared and presented in accordance with GAAP. Reconciliations of our non-GAAP financial measures to the nearest respective GAAP measures are provided below. 28 We exclude the following items from one or more of our non-GAAP financial measu • Stock-based compensation expense . We exclude stock-based compensation expense, which is a non-cash expense, because we believe that excluding this item provides meaningful supplemental information regarding operational performance. In particular, stock-based compensation expense is not comparable across companies given it is calculated using a variety of valuation methodologies and subjective assumptions. • Amortization of acquired intangible assets . We exclude amortization of acquired intangible assets, which is a non-cash expense, because we do not believe it has a direct correlation to the operation of our business. • Charitable contributions . We exclude expenses associated with charitable donations of our common stock. We believe that excluding these non-cash expenses allows investors to make more meaningful comparisons between our operating results and those of other companies. • Shareholder litigation. We exclude non-recurring charges and benefits, net of insurance recoveries, including litigation expenses and settlements, related to shareholder litigation matters that are outside of the ordinary course of our business. We believe these charges and benefits do not have a direct correlation to the operations of our business and may vary in size depending on the timing and results of such litigation and related settlements. • Asset impairment . We exclude non-cash charges for impairment of assets, including impairments related to internal-use software and office leases. Impairment charges can vary significantly in terms of amount and timing and we do not consider these charges indicative of our current or past operating performance. Moreover, we believe that excluding the effects of these charges allows investors to make more meaningful comparisons between our operating results and those of other companies. • Change in fair value of warrant liabilities. We exclude the change in fair value of warrant liabilities, which is a non-cash gain or loss, as it can fluctuate significantly with changes in Zuora's stock price and market volatility, and does not reflect the underlying cash flows or operational results of the business. • Acquisition-related transactions . We exclude acquisition-related transactions (including integration-related charges) that are not related to our ongoing operations, including expenses we incurred and gains or losses recognized on contingent consideration related to our acquisition of Zephr. We do not consider these transactions reflective of our core business or ongoing operating performance. • Workforce reduction . We exclude charges related to the workforce reduction plan we approved in November 2022, including severance, health care and related expenses. We believe these charges are not indicative of our continuing operations. The following tables provide a reconciliation of our GAAP to non-GAAP measures (in thousands, except percentages and per share data): 29 Subscription Gross Margin Three Months Ended April 30, 2023 2022 Reconciliation of cost of subscription reve GAAP cost of subscription revenue $ 20,588 $ 18,725 L Stock-based compensation (2,359) (1,799) Amortization of acquired intangibles (738) (554) Workforce reduction (38) — Non-GAAP cost of subscription revenue $ 17,453 $ 16,372 GAAP subscription gross margin 77 % 76 % Non-GAAP subscription gross margin 81 % 79 % Professional Services Gross Margin Three Months Ended April 30, 2023 2022 Reconciliation of cost of professional services reve GAAP cost of professional services revenue $ 16,758 $ 17,510 L Stock-based compensation (3,021) (3,017) Non-GAAP cost of professional services revenue $ 13,737 $ 14,493 GAAP professional services gross margin (25) % (19) % Non-GAAP professional services gross margin (3) % 1 % Total Gross Margin Three Months Ended April 30, 2023 2022 Reconciliation of gross prof GAAP gross profit $ 65,749 $ 56,964 A Stock-based compensation 5,380 4,816 Amortization of acquired intangibles 738 554 Workforce reduction 38 — Non-GAAP gross profit $ 71,905 $ 62,334 GAAP gross margin 64 % 61 % Non-GAAP gross margin 70 % 67 % 30 Operating (Loss) Income and Operating Margin Three Months Ended April 30, 2023 2022 Reconciliation of (loss) income from operatio GAAP loss from operations $ (20,179) $ (23,655) A Stock-based compensation 25,224 22,825 Amortization of acquired intangibles 738 554 Shareholder litigation 35 120 Acquisition-related transactions 34 — Workforce reduction 219 — Non-GAAP income (loss) from operations $ 6,071 $ (156) GAAP operating margin (20) % (25) % Non-GAAP operating margin 6 % — % Net (Loss) Income and Net (Loss) Income Per Share Three Months Ended April 30, 2023 2022 Reconciliation of net (loss) income: GAAP net loss $ (19,295) $ (23,168) A Stock-based compensation 25,224 22,825 Amortization of acquired intangibles 738 554 Shareholder litigation 35 120 Change in fair value of warrant liability (30) (4,373) Acquisition-related transactions 34 — Workforce reduction 219 — Non-GAAP net income (loss) $ 6,925 $ (4,042) GAAP net loss per share, basic and diluted 1 $ (0.14) $ (0.18) Non-GAAP net income (loss) per share, basic and diluted 1 $ 0.05 $ (0.03) _________________________________ (1) GAAP and Non-GAAP net (loss) income per share are calculated based upon 136.2 million and 128.5 million basic and diluted weighted-average shares of common stock for the three months ended April 30, 2023 and 2022, respectively. Adjusted Free Cash Flow Adjusted free cash flow is a non-GAAP measure that excludes acquisition-related costs (including integration-related charges) and expenses related to non-ordinary course litigation (including settlement charges) from GAAP operating cash flows, and includes capital expenditures. We include the impact of net purchases of property and equipment in our adjusted free cash flow calculation because we consider these capital expenditures to be a necessary component of our ongoing operations. We consider adjusted free cash flow to be a liquidity measure that provides useful information to management and investors about the amount of cash generated by our business, excluding such expenditures that are not related to our ongoing operations, but it is not intended to represent the residual cash flow available for discretionary expenditures. 31 Three Months Ended April 30, 2023 2022 (in thousands) Net cash provided by operating activities (GAAP) $ 14,593 $ 6,983 A Shareholder litigation 27 22 Acquisition-related costs 16 — L Purchases of property and equipment (1,657) (3,263) Adjusted free cash flow (non-GAAP) $ 12,979 $ 3,742 Net cash provided by (used in) investing activities (GAAP) $ 20,302 $ (3,887) Net cash provided by financing activities (GAAP) $ 537 $ 234,382 Constant Currency Revenue We provide subscription revenue and total revenue, including year-over-year growth rates, adjusted to remove the impact of foreign currency rate fluctuations, which we refer to as constant currency. We believe providing revenue on a constant currency basis helps our investors to better understand our underlying performance. We calculate constant currency in a given period by applying the average currency exchange rates in the comparable period of the prior year to the local currency revenue in the current period. Three Months Ended April 30, 2023 2022 % Change (dollars in thousands) Subscription revenue (GAAP) $ 89,711 $ 78,500 14 % Effects of foreign currency rate fluctuations 2,741 Subscription revenue on a constant currency basis (Non-GAAP) $ 92,452 18 % Total revenue (GAAP) $ 103,095 $ 93,199 11 % Effects of foreign currency rate fluctuations 2,878 Total revenue on a constant currency basis (Non-GAAP) $ 105,973 14 % 32 Comparison of the Three Months Ended April 30, 2023 and 2022 Revenue Three Months Ended April 30, 2023 2022 $ Change % Change (dollars in thousands) Reve Subscription $ 89,711 $ 78,500 $ 11,211 14 % Professional services 13,384 14,699 (1,315) (9) % Total revenue $ 103,095 $ 93,199 $ 9,896 11 % Percentage of reve Subscription 87 % 84 % Professional services 13 16 Total revenue 100 % 100 % Subscription revenue increased by $11.2 million, or 14%, for the three months ended April 30, 2023 compared to the three months ended April 30, 2022. The increase was driven by growth in our customer base, with new customers contributing approximately $3.5 million of the increase in subscription revenue, and increased transaction volume and sales of additional products to our existing customers contributing the remainder. We calculate subscription revenue from new customers during the quarter by adding the revenue recognized from new customers acquired in the 12 months prior to the reporting date. Professional services revenue decreased to $13.4 million for the three months ended April 30, 2023 from $14.7 million for the three months ended April 30, 2022, as a result of shifting more professional services work to our system integration partners as we focus our sales mix towards recurring subscription revenue. On a constant currency basis, subscription revenue was $92.5 million and increased 18%, and total revenue was $106.0 million and increased 14%, for the three months ended April 30, 2023 compared to the three months ended April 30, 2022. Cost of Revenue and Gross Margin Three Months Ended April 30, 2023 2022 $ Change % Change (dollars in thousands) Cost of reve Subscription $ 20,588 $ 18,725 $ 1,863 10 % Professional services 16,758 17,510 (752) (4) % Total cost of revenue $ 37,346 $ 36,235 $ 1,111 3 % Gross margin: Subscription 77 % 76 % Professional services (25) (19) Total gross margin 64 % 61 % Cost of subscription revenue increased by $1.9 million, or 10%, for the three months ended April 30, 2023 compared to the three months ended April 30, 2022. The increase in cost of subscription revenue was primarily due to increases of $1.1 million in employee compensation costs driven by increased stock-based compensation expense and $0.5 million in amortization of internal-use software costs. Cost of professional services revenue decreased by $0.8 million, or (4)%, for the three months ended April 30, 2023 compared to the three months ended April 30, 2022. The decrease in cost of professional services revenue 33 was primarily due to decreases of $1.4 million in outside professional services costs, partially offset by increases of $0.6 million in employee compensation costs. Our gross margin for subscription services increased to 77% for the three months ended April 30, 2023 compared to 76% for the three months ended April 30, 2022. This was primarily driven by an increase in subscription revenue. We expect our subscription gross margin to increase slightly for the remainder of the fiscal year. Our gross margin for professional services decreased to (25)% for the three months ended April 30, 2023 compared to (19)% for the three months ended April 30, 2022, primarily due to a decrease in professional services revenue. Operating Expenses Research and Development Three Months Ended April 30, 2023 2022 $ Change % Change (dollars in thousands) Research and development $ 25,668 $ 22,872 $ 2,796 12 % Percentage of total revenue 25 % 25 % Research and development expense increased by $2.8 million, or 12%, for the three months ended April 30, 2023 compared to the three months ended April 30, 2022, primarily due to an increase of $2.7 million in employee compensation costs driven by increased headcount and stock-based compensation expense. Research and development expense remained flat at 25% of total revenue for the three months ended April 30, 2023 and 2022. Sales and Marketing Three Months Ended April 30, 2023 2022 $ Change % Change (dollars in thousands) Sales and marketing $ 41,444 $ 40,457 $ 987 2 % Percentage of total revenue 40 % 43 % Sales and marketing expense increased by $1.0 million, or 2%, for the three months ended April 30, 2023 compared to the three months ended April 30, 2022, primarily due to increases of $0.6 million in marketing and events costs and $0.4 million in amortization of deferred commissions. Sales and marketing expense decreased to 40% of total revenue during the three months ended April 30, 2023 from 43% during the three months ended April 30, 2022, as a result of increased revenue. General and Administrative Three Months Ended April 30, 2023 2022 $ Change % Change (dollars in thousands) General and administrative $ 18,816 $ 17,290 $ 1,526 9 % Percentage of total revenue 18 % 19 % General and administrative expense increased by $1.5 million, or 9%, for the three months ended April 30, 2023 compared to the three months ended April 30, 2022, primarily due to increases of $0.9 million in employee compensation costs driven by increased stock-based compensation expense and $0.5 million in charitable donations. General and administrative expense decreased to 18% of total revenue during the three months ended April 30, 2023 from 19% of total revenue during the three months ended April 30, 2022. 34 Other income and expenses Three Months Ended April 30, 2023 2022 $ Change % Change (dollars in thousands) Change in fair value of warrant liability $ 30 $ 4,373 $ (4,343) (99) % Interest expense $ (4,387) $ (1,784) $ (2,603) 146 % Interest and other income (expense), net $ 5,710 $ (1,794) $ 7,504 418 % During the three months ended April 30, 2023 we recognized a smaller gain relative to last year on revaluation of the liability-classified Warrants issued in connection with the 2029 Notes, due to less fluctuation in the price of our common stock during the current quarter. Interest expense increased $2.6 million due to a full quarter of interest expense on the Initial Notes, which were issued on March 24, 2022. Interest and other income (expense), net increased $7.5 million due to increased interest income on higher investment balances as well as higher interest rates, and gains resulting from the revaluation of cash, accounts receivable, and accounts payable recorded in a foreign currency. Income Tax Provision Three Months Ended April 30, 2023 2022 $ Change % Change (dollars in thousands) Income tax provision $ 469 $ 308 $ 161 52 % We are subject to federal and state income taxes in the United States and taxes in foreign jurisdictions. For the three months ended April 30, 2023 and 2022, we recorded a tax provision of $0.5 million and $0.3 million, respectively, on a loss before income taxes of $18.8 million and $22.9 million, respectively. The effective tax rate for the three months ended April 30, 2023 and 2022 was (2.5)% and (1.3)%, respectively. The change in the effective tax rate was due primarily to an increase in foreign tax expense. The effective tax rate differs from the statutory rate primarily as a result of providing no benefit on pretax losses incurred in the United States. For the three months ended April 30, 2023 and 2022, we maintained a full valuation allowance on our U.S. federal and state net deferred tax assets as it was more likely than not that those deferred tax assets will not be realized. Liquidity and Capital Resources Liquidity is a measure of our ability to access sufficient cash flows to meet the short-term and long-term cash requirements of our business operations. As of April 30, 2023, we had cash and cash equivalents and short-term investments of $396.9 million that were primarily invested in deposit accounts, money market funds, corporate debt securities, commercial paper, and U.S. government securities. We do not enter into investments for trading or speculative purposes. We finance our operations primarily through sales to our customers, which are generally billed in advance on an annual or quarterly basis. Customers with annual or multi-year contracts are generally only billed one annual period in advance. We also finance our operations through proceeds from the issuance of the 2029 Notes to Silver Lake, which includes $250.0 million raised in March 2022 and an additional $150.0 million we expect to raise in September 2023. In connection with the 2029 Notes, we issued Warrants for 7.5 million shares of our Class A common stock that are exercisable between $20.00 - $24.00 per share which, if exercised, would contribute additional liquidity to our business. Additionally, we have $30.0 million of available credit to finance our operations through our undrawn credit facility. See Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock of the Notes to Condensed Consolidated Financial Statements for more information about our 2029 Notes, Warrants, and credit facility. We also generate cash proceeds from the exercise of stock options and the issuance of stock under our employee stock purchase plan. In the short term, we believe our existing cash and cash equivalents, marketable securities, and cash flow from operations (in periods in which we generate cash flow from operations) will be sufficient for at least the next 12 35 months to meet our requirements and plans for cash, including meeting our working capital requirements and capital expenditure requirements, and servicing our debt. In the long term, our ability to support our requirements and plans for cash, including meeting our working capital and capital expenditure requirements, will depend on many factors, including our revenue growth rate, the timing and the amount of cash received from customers, the expansion of sales and marketing activities, the timing and extent of spending to support research and development efforts, the cost to develop and support our offering, the introduction of new products and services, the continuing adoption of our products by customers, any acquisitions or investments that we make in complementary businesses, products, and technologies, and our ability to obtain equity or debt financing. Moreover, any continued instability in the U.S. or international banking systems may impact liquidity both in the short term and long term. We continually evaluate our capital needs and may decide to raise additional capital to fund the growth of our business for general corporate purposes through public or private equity offerings or through additional debt financing. We also may in the future make investments in or acquire businesses or technologies that could require us to seek additional equity or debt financing. To facilitate acquisitions or investments, we may seek additional equity or debt financing, which may not be available on terms favorable to us or at all. Sales of additional equity could result in dilution to our stockholders. We expect proceeds from the exercise of stock options in future years to be impacted by the increased mix of restricted stock units versus stock options granted to employees and to vary based on our share price. Cash Flows The following table summarizes our cash flows for the periods indicated (in thousands): Three Months Ended April 30, 2023 2022 Net cash provided by operating activities $ 14,593 $ 6,983 Net cash provided by (used in) investing activities 20,302 (3,887) Net cash provided by financing activities 537 234,382 Effect of exchange rates on cash and cash equivalents (283) (359) Net increase in cash and cash equivalents $ 35,149 $ 237,119 Operating Activities Net cash provided by operating activities of $14.6 million for the three months ended April 30, 2023 was comprised primarily of customer collections for our subscription and professional services, cash payments for our personnel, sales and marketing efforts and infrastructure related costs, payments to vendors for products and services related to our ongoing business operations, interest income received on our short-term investments, and interest paid on the Initial Notes. Net cash provided by operating activities for the three months ended April 30, 2023 increased $7.6 million compared to the same period last year, primarily due to increased customer collections and the timing of vendor payments. Investing Activities Net cash provided by investing activities for the three months ended April 30, 2023 was $20.3 million. We used $1.7 million to purchase property and equipment and to develop internal-use software as we continue to invest in and grow our business; had maturities of $26.5 million of short-term investments, net of purchases; and paid $4.5 million of contingent consideration in connection with the acquisition of Zephr. Net cash provided by investing activities for the three months ended April 30, 2023 increased $24.2 million compared to the three months ended April 30, 2022, primarily due to $26.5 million net maturities of short-term investments in the three months ended April 30, 2023, compared to $0.6 million net purchases last year. Payments for property and equipment were $1.6 million lower compared to the same period last year, primarily due to decreased capitalization of internal-use software in the three months ended April 30, 2023. The increases to cash provided by investing activities were partially offset by $4.5 million cash paid of contingent consideration in connection with the acquisition of Zephr in the three months ended April 30, 2023. 36 Financing Activities Net cash provided by financing activities for the three months ended April 30, 2023 of $0.5 million was due to proceeds from stock option exercises. Net cash provided by financing activities for the three months ended April 30, 2023 decreased $233.8 million compared to the three months ended April 30, 2022, primarily due to $234.6 million in proceeds from issuance of the Initial Notes in the three months ended April 30, 2022. Obligations and Other Commitments Our material cash requirements from known contractual and other obligations consist of obligations under our operating leases for office space, the 2029 Notes, the settlement of a consolidated class action litigation, and a contractual commitment to one of our vendors for cloud computing services. For more information, please refer to Note 12. Leases, Note 9. Debt and Note 13. Commitments and Contingencies, respectively, of the Notes to Condensed Consolidated Financial Statements . As of April 30, 2023, our contractual obligations totaled $374.4 million with $26.0 million committed within the next twelve months. In the ordinary course of business, we enter into agreements of varying scope and terms pursuant to which we agree to indemnify customers, vendors, lessors, business partners, and other parties with respect to certain matters, including, but not limited to, losses arising out of the breach of such agreements, services to be provided by us, or from data breaches or intellectual property infringement claims made by third parties. In addition, we have entered into indemnification agreements with our directors and certain officers and employees that will require us, among other things, to indemnify them against certain liabilities that may arise by reason of their status or service as directors, officers, or employees. As of April 30, 2023, no demands had been made upon us to provide indemnification under such agreements and there were no claims that we are aware of that could have a material effect on our unaudited condensed consolidated balance sheets, unaudited condensed consolidated statements of comprehensive loss, or unaudited condensed consolidated statements of cash flows. Critical Accounting Policies and Estimates Our unaudited condensed consolidated financial statements are prepared in accordance with U.S. GAAP. The preparation of these unaudited condensed consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the applicable periods. We evaluate our estimates and assumptions on an ongoing basis. Our estimates are based on historical experience and various other factors that we believe to be reasonable under the circumstances. Our actual results could differ from these estimates. Refer to Critical Accounting Estimates within Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for further information on critical accounting estimates. Our significant accounting policies are discussed in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements in our Annual Report on Form 10-K. Any significant changes to these policies during the three months ended April 30, 2023 are described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements to our unaudited condensed consolidated financial statements provided herein. Recent Accounting Pronouncements - Not Yet Adopted As of April 30, 2023, there were no recently issued accounting pronouncements not yet adopted that are expected to have a material impact on our unaudited condensed consolidated financial statements. Item 3. Quantitative and Qualitative Disclosures About Market Risk We are exposed to certain market risks in the ordinary course of our business. Market risk represents the risk of loss that may impact our financial position due to adverse changes in financial market prices and rates. Our market risk exposure is primarily a result of fluctuations in foreign currency exchange rates and interest rates. 37 Foreign Currency Exchange Risk Our sales contracts are denominated predominantly in U.S. Dollars, Euros (EUR), British Pounds (GBP), and Japanese Yen (JPY). A portion of our operating expenses are incurred outside the United States and denominated in foreign currencies and are subject to fluctuations due to changes in foreign currency exchange rates, particularly changes in the GBP and Chinese Yuan (CNY). Additionally, fluctuations in foreign currency exchange rates may cause us to recognize transaction gains and losses in our unaudited condensed consolidated statement of comprehensive loss. The effect of a hypothetical 10% change in foreign currency exchange rates applicable to our business would not have a material impact on our unaudited condensed consolidated financial statements for the three months ended April 30, 2023 and 2022. Given the impact of foreign currency exchange rates has not been material to our historical operating results, we have not entered into derivative or hedging transactions, but we may do so in the future if our exposure to foreign currency should become more significant. As our international operations grow, we will continue to reassess our approach to manage our risk relating to fluctuations in currency rates. Interest Rate Risk We had cash and cash equivalents and short-term investments of $396.9 million as of April 30, 2023. Our cash and cash equivalents and short-term investments are held for working capital purposes. We do not make investments for trading or speculative purposes. A significant decrease in these market rates may adversely affect our expected operating results. The 2029 Notes have a fixed interest rate and therefore are not impacted by market rates. Our cash equivalents and short-term investments are subject to market risk due to changes in interest rates. Fixed rate securities may have their market value adversely affected due to a rise in interest rates. Due in part to these factors, our future investment income may fall short of our expectations due to changes in interest rates or we may suffer losses in principal if we are forced to sell securities that decline in market value due to changes in interest rates. However, because we classify our short-term investments as “available for sale,” no gains or losses are recognized due to changes in interest rates unless such securities are sold prior to maturity or decreases in fair value are determined to be other-than-temporary. As of April 30, 2023, a hypothetical 10% relative change in interest rates would not have had a material impact on the value of our cash equivalents and short-term investments or interest owed on our outstanding debt. Fluctuations in the value of our cash equivalents and short-term investments caused by a change in interest rates (gains or losses on the carrying value) are recorded in other comprehensive income, and are realized only if we sell the underlying securities prior to maturity. In addition, a hypothetical 10% relative change in interest rates would not have had a material impact on our operating results for the three months ended April 30, 2023. Item 4. Controls and Procedures Evaluation of Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of April 30, 2023. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that as of April 30, 2023, our disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed in the reports we file and submit under the Exchange Act is recorded, processed, summarized and reported as and when required, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding its required disclosure. Changes in Internal Control Over Financial Reporting There was no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the period covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 38 Inherent Limitations on Effectiveness of Controls Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected. Accordingly, our disclosure controls and procedures provide reasonable assurance of achieving their objectives. 39 PART II—OTHER INFORMATION Item 1. Legal Proceedings For information regarding legal proceedings, see Note 13. Commitments and Contingencies of the Notes to Condensed Consolidated Financial Statements included in Item 1. Financial Statements of this Form 10-Q, which is incorporated by reference into this Item 1. Legal Proceedings . Item 1A. Risk Factors An investment in our common stock involves a high degree of risk, and the following is a summary of key risk factors when considering an investment. You should read the summary risks together with the more detailed discussion of risks set forth following this summary, as well as elsewhere in this Quarterly Report on Form 10-Q. Additional risks, beyond those summarized below or discussed elsewhere in this Quarterly Report on Form 10-Q, may apply to our activities or operations as currently conducted or as we may conduct them in the future or in the markets in which we operate or may in the future operate. Risks Related to Our Business and Industry • If we are unable to attract new customers and retain and expand sales to existing customers, our revenue growth could be slower than we expect and our business would be adversely affected. • Current and future economic uncertainty and other unfavorable conditions in our industry or the global economy could limit our growth and negatively affect our operating results. • If we fail to manage our growth and profitability plans effectively, our business, operating results, and financial condition could be adversely affected. • If the market for monetization platform software and related solutions, and consumer adoption of products and services that are provided through such solutions, develops slower than we expect, our growth may slow or stall, and our operating results could be adversely affected. • Currency exchange rate fluctuations may adversely affect our results of operations, which are reported in U.S. dollars. • If we are unable to recruit or retain senior management or other key personnel and maintain our corporate culture, we may not be able to execute on our business strategy. • If we are unable to successfully execute our strategic initiatives, such as increasing our sales to large enterprise customers and expanding and strengthening our sales channels and relationships with system integrators, our business, operating results and financial condition could be adversely affected. • If we are unable to effectively compete in the market for our solutions or such markets develop slower than we expect our business, operating results, and financial condition would be adversely affected. • We have a history of net losses and may not achieve or sustain profitability. • Our revenue growth and ability to achieve and sustain profitability will depend, in part, on our ability to increase productivity of our sales force. • Our success depends in large part on a limited number of products, and if these products fail to gain market acceptance or our product development efforts are unsuccessful, our business, operating results, and financial condition could be adversely affected. • We face risks related to our debt obligations, including our convertible senior unsecured notes and warrants. • Our operating results, which are influenced by a variety of factors, have fluctuated in the past and may continue to fluctuate, making our future results difficult to predict accurately. • If we are not able to successfully and timely develop, enhance and deploy our products and multi-product strategy, our business, operating results, financial condition and growth prospects could be adversely affected. • We may be unable to integrate businesses we have or will acquire or to achieve expected benefits of such acquisitions. 40 • Our international operations expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. • If we fail to integrate our solution with a variety of systems, applications and platforms that are developed by others, our solution may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy • If our security measures are breached or if unauthorized access to customer, employee or other confidential data is otherwise obtained, or if our solution is perceived as not being secure, we may lose existing customers or fail to attract new customers, our business may be harmed and we may incur significant liabilities. • Privacy and security concerns, laws, and regulations, may reduce the effectiveness of our solution and adversely affect our business. • Failure to protect our intellectual property could adversely affect our business. • Any disruptions of service from our public cloud providers could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. Risks Related to Legal, Regulatory, Accounting, and Tax Matters • Adverse litigation judgments or settlements could expose us to significant monetary damages or limit our ability to operate our business. • If we are not able to satisfy government and industry-specific requirements, such as data protection, security, privacy, and export laws, our growth could be harmed. Risks Related to Ownership of Our Class A Common Stock • The market price of our Class A common stock has been, and will likely continue to be, volatile, and you could lose all or part of the value of your investment. • The dual class structure of our common stock has the effect of concentrating substantial influence with holders of our Class B common stock, including our CEO and his affiliates, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. Risks Related to Our Business and Industry If we are unable to attract new customers and retain and expand sales to existing customers, our revenue growth could be slower than we expect, and our business may be adversely affected. Our ability to achieve significant growth in revenue in the future will depend, in large part, upon our ability to attract new customers. This may be particularly challenging where an organization has already invested substantial personnel and financial resources to integrate billings and other business and financial management tools, including custom-built solutions, into its business, as such an organization may be reluctant or unwilling to invest in new products and services. As a result, selling our solution often requires sophisticated and costly sales efforts that are targeted at senior management. During the three months ended April 30, 2023, sales and marketing expenses represented approximately 40% of our total revenue. If we fail to attract new customers and fail to maintain and expand new customer relationships, our revenue may grow more slowly than we expect and our business may be adversely affected. Our future revenue growth also depends upon retaining and expanding sales and renewals of subscriptions to our solution with existing customers. If our existing customers do not expand their use of our solution over time or do not renew their subscriptions or if we receive requests from an increased number of customers for changes to payment or other terms as a result of the impact of macroeconomic conditions, including global economic uncertainty and increasing inflation and interest rates, on their businesses, our revenue may grow more slowly than expected, may not grow at all, or may decline. Our success is also dependent, in part, on our ability to effectively 41 differentiate and cross-sell our products. If we experience issues with successfully implementing or cross-selling our products, revenue may grow more slowly or may not grow at all. Our sales and marketing efforts also may be impacted by macroeconomic conditions and other events beyond our control. In light of current macroeconomic conditions and uncertainty, certain customers and prospective customers have reduced or delayed technology or other discretionary spending or otherwise are cautious about purchasing decisions and, as a result, we are experiencing longer sales cycles. If the impacts to customers and prospective customers of current macroeconomic conditions and uncertainty persist or worsen, our business, operating results, financial conditions and prospects could be materially and adversely affected. While we expect to expand our sales efforts, both domestically and internationally in the long term, in November 2022, we approved a workforce reduction impacting approximately 11% of our workforce. This reduction disproportionately impacted our go-to-market organization and consequently may adversely impact our ability to achieve our future operational targets. In the future, we may be unable to hire qualified sales personnel, may be unable to successfully train those sales personnel that we are able to hire, and sales personnel may not become fully productive on the timelines that we have projected or at all. Further, although we dedicate significant resources to sales and marketing programs, these sales and marketing programs may not have the desired effect and may not expand sales. We cannot assure you that our efforts would result in increased sales to existing customers and additional revenue. If our efforts to expand sales and renewals to existing customers are not successful, our business and operating results could be adversely affected. Our customers generally enter into subscription agreements with terms of one to five years and have no obligation to renew their subscriptions after the expiration of their initial subscription period. Moreover, our customers that do renew their subscriptions may renew for lower subscription or usage amounts or for shorter subscription periods. In addition, in the first year of a subscription, customers often purchase an increased level of professional services (such as deployment services) than they do in renewal years. Costs associated with maintaining a professional services department are relatively fixed in the short term while professional services revenue is dependent on the amount of billable work actually performed for customers in a period, the combination of which may result in variability in, and have a negative impact on, our gross profit. Customer renewals may decline or fluctuate as a result of a number of factors, including the breadth of early deployment, reductions in our customers’ spending levels, higher volumes of usage purchased upfront relative to actual usage during the subscription term, changes in customers’ business models and use cases, our customers’ satisfaction or dissatisfaction with our solution, our pricing or pricing structure, the pricing or capabilities of products or services offered by our competitors, or the effects of general macroeconomic conditions. If our customers do not renew their agreements with us, or renew on terms less favorable to us, our revenue may decline. Current and future economic uncertainty and other unfavorable conditions in our industry or the global economy have and may continue to limit our ability to grow our business and negatively affect our operating results. Our operating results may vary based on the impact of changes in the U.S. and global economy, including the effects of recession, fluctuations in inflation and interest rates, bank failures, debt ceiling negotiations, and general economic downturns, which can arise suddenly. As a result of current weakened macroeconomic conditions and uncertainty, and related corporate cost cutting and tighter budgets, we are experiencing longer sales cycles and collection periods. Prolonged macroeconomic weakness and uncertainty could continue to adversely affect the ability or willingness of our current and prospective customers to purchase or expand their purchase of our products, further delay customer purchasing decisions, reduce the value of customer contracts, affect attrition rates, or further lengthen collection periods, any of which could materially and adversely affect our business, operating results, financial conditions and prospects. We cannot predict the timing, strength, or duration of any economic downturn. Moreover, there has been recent turmoil in the global banking system, and continued disruptions in the banking system, both in the U.S. or abroad, may impact our or our customers’ liquidity and, as a result, negatively impact our business and operating results. If we fail to manage our growth and profitability plans effectively, our business, operating results, and financial condition could be adversely affected. If we are unable to manage our growth and profitability plans effectively, which may continue to be impacted by macroeconomic conditions and other factors outside of our control, our business, operating results, and financial condition could be adversely affected. To manage growth in our operations and personnel, we will need to continue 42 to improve and achieve efficiencies with respect to our operational, financial, and management controls and our reporting systems and procedures, including improving timely access to operational information to optimize business decisions. Failure to manage growth and profitability plans effectively could result in difficulty or delays in deploying customers, declines in quality or customer satisfaction, increases in costs, difficulties in introducing new products and services or enhancing existing products and services, loss of customers, or other operational difficulties in executing sales strategies, any of which could adversely affect our business performance and operating results. If the market for monetization platform software and related solutions, and consumer adoption of products and services that are provided through such solutions, develops slower than we expect, our growth may slow or stall, and our operating results could be adversely affected. Our success depends on companies investing in monetization solutions, including subscription or consumption management, revenue recognition and subscriber experience software and products, and consumers choosing to consume products and services through such solutions. Companies may be unwilling or unable to invest in monetization solutions due to the significant cost of such solutions or if they do not believe that the consumers of their products and services would be receptive to offerings on such monetization solutions, or they may choose to invest in such solutions more slowly than we expect. Our success will also depend, to a large extent, on the willingness of large enterprises that have adopted subscription or consumption business models utilizing cloud-based products and services to manage billings and financial accounting relating to their offerings. In addition, those enterprises that do shift to a subscription model may decide that they do not need a solution that offers the range of functionalities that we offer. Many companies have invested substantial effort and financial resources to develop custom-built applications or integrate traditional enterprise software into their businesses as they adopt recurring revenue business models and may be reluctant or unwilling to switch to different applications. Factors that may affect market acceptance and sales of our products and services inclu • the number of companies shifting to subscription business models; • the number of consumers and businesses adopting new, flexible ways to consume products and services; • the security capabilities, reliability, and availability of cloud-based services; • customer concerns with entrusting a third party to store and manage their data, especially transaction-critical, confidential, or sensitive data; • our ability to minimize the time and resources required to deploy our solution; • our ability to achieve and maintain high levels of customer satisfaction; • our ability to deploy upgrades and other changes to our solution without disruption to our customers; • the level of customization or configuration we offer; • the overall level of corporate spending and spending on quote-to-cash and revenue recognition solutions by our customers and prospects, including the impact of spending due to macroeconomic conditions; • general macroeconomic conditions, both in domestic and foreign markets, including the impacts associated with rising interest rates and inflation, slower growth or recession, the ongoing conflict following Russia's invasion of Ukraine, bank failures, and debt ceiling negotiations; and • the price, performance, and availability of competing products and services. The markets for subscription products and services and for subscription management software may not develop further or may develop slower than we expect. If companies do not shift to subscription business models and subscription management software does not achieve widespread adoption, or if there is a reduction in demand for subscription products and services or subscription management software caused by technological challenges, weakening economic conditions, security or privacy concerns, decreases in corporate spending, a lack of customer acceptance, or otherwise, our business could be materially and adversely affected. In addition, our subscription agreements with our customers generally provide for a minimum monetization platform fee and usage-based fees, which depend on the total dollar amount that is invoiced or managed on our solution, or the total usage of our solution. Because a portion of our revenue depends on the volume of transactions that our customers process through our solution, if our customers do not adopt our solution throughout their business, if their businesses decline 43 or fail, or if they are unable to successfully shift to subscription business models, including if they fail to successfully deploy our solution, our revenue could decline and our operation results could be adversely impacted. Currency exchange rate fluctuations may adversely affect our results of operations, which are reported in U.S. dollars. Our international operations expose us to the effects of fluctuations in currency exchange rates, and may increase the cost of our solution to customers outside of the United States when the U.S. dollar is stronger relative to other currencies. Currency exchange rate fluctuations have and may continue to adversely affect our business, operating results, financial condition, and cash flows. In addition, we incur expenses for employee compensation and other operating expenses at our non-U.S. locations in the local currency. Fluctuations in the exchange rates between the U.S. dollar and other currencies could result in the dollar equivalent of such expenses being higher. Furthermore, volatile market conditions arising from macroeconomic conditions and the ongoing conflict in Ukraine may result in significant fluctuations in exchange rates, and, in particular, a weakening of foreign currencies relative to the U.S. dollar may negatively affect our revenue. This could have a negative impact on our operating results. Although we may in the future decide to undertake foreign exchange hedging transactions to cover a portion of our foreign currency exchange exposure, we currently do not hedge our exposure to foreign currency exchange risks. Our business depends largely on our ability to attract and retain talented employees, including senior management, and maintain our corporate culture. If we lose the services of Tien Tzuo, our founder, Chairman, and Chief Executive Officer, or other critical talent across our executive team and in other key roles, or fail to maintain our corporate culture, we may not be able to execute on our business strategy. Our future success depends on our continuing ability to attract, train, engage, assimilate, and retain highly skilled personnel, including software engineers, product management, sales, and professional services personnel. We have historically faced intense competition for qualified individuals from numerous software and other technology companies. Although our voluntary turnover decreased in fiscal 2023 as compared to fiscal 2022, we may experience heightened attrition, including of those with significant institutional knowledge and expertise, negatively impacting productivity and our corporate culture. We may not be able to retain our current key employees, or attract, train, assimilate, or retain other highly skilled personnel in the future, especially in light of uncertain macroeconomic conditions globally. For example, employees may seek new or different opportunities that offer greater compensation or benefits than we offer or are able to offer, making it difficult to retain them. In addition, we may incur significant costs to attract and retain highly skilled personnel, and we may lose new employees to our competitors or other technology companies before we realize the benefit of our investment in recruiting and training them. As we move into new countries, we will need to attract and recruit skilled personnel in those areas. If we are unable to attract and retain suitably qualified individuals who are capable of meeting our growing technical, operational, and managerial requirements on a timely basis or at all, our business may be adversely affected. Further, given that our employees continue to be distributed globally and most of our employees continue to work remotely, we may find it increasingly difficult to maintain the beneficial aspects of our corporate culture that is focused on inclusivity and high performance, underlying the importance of employee connectivity and accountability. Additionally, we may periodically implement business strategies that impact our employees, including changes to our organizational structure or workforce adjustments such as our November 2022 workforce reduction. A workforce reduction or restructuring could have an adverse effect on our business, including creating negative employee morale and hindering our ability to meet operational targets due to loss of employees. To the extent our compensation programs and workplace culture are not viewed as competitive, or changes in our workforce or other initiatives are not viewed favorably, our ability to attract, retain, and motivate employees can be weakened, which could harm our results of operations. Our future success also depends in large part on the continued services of senior management and other key personnel. In particular, we are highly dependent on the services of Tien Tzuo, our founder, Chairman and Chief Executive Officer, who is critical to the development of our technology, platform, future vision, and strategic direction. We rely on our leadership team in the areas of operations, security, marketing, sales, support, and general and administrative functions, and on individual contributors such as those in sales and on our research and development team. Our senior management and other key personnel are all employed on an at-will basis, which means that they could terminate their employment with us at any time and for any reason, such as retirement or career change. If we lose the services of senior management or other key personnel and fail to execute effective 44 succession planning for such key personnel, or if we are unable to attract, train, assimilate, and retain the highly skilled personnel we need, our business, operating results, and financial condition could be adversely affected. Volatility or lack of appreciation in our stock price may also affect our ability to attract and retain our key employees. Many of our senior personnel and other key employees have become, or will soon become, vested in a substantial amount of stock or stock options. Employees may be more likely to leave us if the exercise price of the options that they hold are significantly above the market price of our Class A common stock or, conversely, if the shares they own or the shares underlying their vested options have significantly appreciated in value relative to the original purchase price of such shares or the exercise price of such options. If we are unable to retain our employees, or if we need to increase our compensation expenses, including equity compensation expenses, to retain our employees, our business, results of operations, financial condition, and cash flows could be adversely affected. If we are unable to grow our sales channels and our relationships with strategic partners, such as system integrators, management consulting firms, and resellers, sales of our products and services may suffer and our growth could be slower than we project. In addition to our direct sales force, we use strategic partners, such as system integrators, management consulting firms, strategic technology partners and resellers, to market, sell, and implement our solution. Historically, we have used these strategic partners to a limited degree, but we are prioritizing efforts to make these partners an increasingly important aspect of our business particularly with regard to enterprise and international sales and larger implementations of our products where these partners may have more expertise and established business relationships than we do. We have transitioned and expect to continue to transition a portion of our professional services implementations to these strategic partners, and as a result we expect our professional services revenue as an overall percentage of Zuora's total revenue to continue to decline over time. Our relationships with these strategic partners are still maturing, and we cannot assure you that these partners will be successful in marketing, selling or implementing our solution. Identifying these partners, negotiating and supporting relationships with them, including training them in how to sell or deploy our solution, and maintaining these relationships requires significant commitment of time and resources that may not yield a significant return on our investment in these relationships. Our future growth in revenue and ability to achieve and sustain profitability depends in part on our ability to identify, establish, and retain successful strategic partner relationships in the United States and internationally, which will take significant time and resources and involve significant risk. If we are unable to establish and maintain our relationships with these partners, or otherwise develop and expand our indirect distribution channel, our business, operating results, financial condition, or cash flows could be adversely affected. We also cannot be certain that we will be able to maintain successful relationships with any strategic partners and, to the extent that our strategic partners are unsuccessful in marketing, selling, or implementing our solution, our business, operating results, and financial condition could be adversely affected. Our strategic partners may market to our customers the products and services of several different companies, including products and services that compete with our solution. Because our strategic partners do not have an exclusive relationship with us, we cannot be certain that they will prioritize or provide adequate resources to marketing our solution. Moreover, divergence in strategy by any of these partners may materially adversely affect our ability to develop, market, sell, or support our solution. We cannot assure you that our strategic partners will continue to cooperate with us. In addition, actions taken or omitted to be taken by such parties may adversely affect us. We are unable to control the quantity or quality of resources that our systems integrator partners commit to deploying our products and services, or the quality or timeliness of such deployment. If our partners do not commit sufficient or qualified resources to these activities, our customers may be less satisfied, or less supportive with references, or may require the investment of our resources at discounted rates. These, and other failures by our partners to successfully deploy our products and services, may have an adverse effect on our business and our operating results. The market in which we participate is competitive, and our operating results could be harmed if we do not compete effectively. The market for our solutions, including our billing, collections, revenue recognition and subscriber experience offerings, is highly competitive, rapidly evolving, and fragmented, and subject to changing technology, shifting customer needs, and frequent introductions of new products and services. Many of our current and potential competitors have longer operating histories, access to alternative fundraising sources, significantly greater financial, technical, marketing, distribution or professional services experience, or 45 other resources or greater name recognition than we do. In addition, many of our current and potential competitors supply a wide variety of products to, and have strong and well-established relationships with, current and potential customers. As a result, our current and potential competitors may be able to respond more quickly and effectively than we can to new or changing opportunities, technologies, standards, or customer requirements or devote greater resources than we can to the development, promotion, and sale of their products and services. In addition, some current and potential competitors may offer products or services that address one or a limited number of functions at lower prices or with greater depth than our solution, or integrate or bundle such products and services with their other product offerings. Potential customers may prefer to purchase from their existing suppliers rather than from a new supplier. Our current and potential competitors may develop and market new technologies with comparable functionality to our solution. In addition, because our products and services are integral to our customers’ ability to accurately maintain books and records and prepare financial statements, our potential customers may prefer to purchase applications that are critical to their business from one of our larger, more established competitors, or leverage the software that they have already purchased from our competitors for their billing and accounting needs, or control such infrastructure internally. We may experience fewer customer orders, reduced gross margins, longer sales cycles, and loss of market share. This could lead us to decrease prices, implement alternative pricing structures, or introduce products and services available for free or a nominal price in order to remain competitive. We may not be able to compete successfully against current and future competitors, and our business, operating results, and financial condition will be adversely impacted if we fail to meet these competitive pressures. Our ability to compete successfully in our market depends on a number of factors, both within and outside of our control. Some of these factors inclu ease of use; subscription-based product features and functionality; ability to support the specific needs of companies with subscription business models; ability to integrate with other technology infrastructures and third-party applications; enterprise-grade performance and features such as system scalability, security, performance, and resiliency; vision for the market and product innovation; relationships with strategic partners, including system integrators, management consulting firms, and resellers; total cost of ownership; strength of sales and marketing efforts; brand awareness and reputation; and customer experience, including support and professional services. In addition, if we are unable to effectively articulate the value proposition of our solution to customers and prospects, we may face difficulties competing in the market, particularly in the current uncertain macroeconomic environment. Any failure by us to compete successfully in any one of these or other areas may reduce the demand for our solution, as well as adversely affect our business, operating results, and financial condition. Moreover, current and future competitors may also make strategic acquisitions or establish cooperative relationships among themselves or with others, including our current or future technology partners. By doing so, these competitors may increase their ability to meet the needs of our customers or potential customers. These developments could limit our ability to obtain revenue from existing and new customers. If we are unable to compete successfully against current and future competitors, our business, operating results, and financial condition could be adversely impacted. We have a history of net losses, anticipate increasing our operating expenses in the future, and may not achieve or sustain profitability. We have incurred net losses in each fiscal year since inception, including net losses of $198.0 million, $99.4 million, and $73.2 million in fiscal 2023, 2022, and 2021, respectively. We expect to incur net losses for the foreseeable future. As of April 30, 2023, we had an accumulated deficit of $780.7 million. We expect to make significant future expenditures related to the development and expansion of our business, including increasing our overall customer base, expanding relationships with existing customers, entering new vertical markets, expanding our global footprint, expanding and leveraging our relationships with strategic partners including system integrators to accelerate our growth, optimizing pricing and packaging, and expanding our operations and infrastructure, both domestically and internationally, and in connection with legal, accounting, and other administrative expenses related to operating as a public company. These efforts may prove more expensive than we currently anticipate, and we may not succeed in increasing our revenue sufficiently, or at all, to offset these increased expenses. In addition, we may delay or reevaluate some or all of the foregoing initiatives in the event that macroeconomic conditions or other factors beyond our control adversely impact our business or operating results. Any delays or reductions in spending in our business development or expansion efforts may negatively affect our ability to expand our operations and maintain or increase our sales. While our revenue has grown in recent years, if our revenue declines or fails to grow at a rate faster than these increases in our operating expenses, we will not be able to achieve and maintain profitability in future periods. As a result, we may continue to generate losses. We cannot assure you that we will achieve profitability in the future or that, if we do become profitable, we will be able to sustain profitability. 46 Our revenue growth and ability to achieve and sustain profitability will depend, in part, on being able to increase the productivity of our sales force. To date, most of our revenue has been attributable to the efforts of our direct sales force. In order to increase our revenue and achieve and sustain profitability, we must increase the productivity of our direct sales force, both in the United States and internationally, to generate additional revenue from new and existing customers. There is significant competition for sales personnel with the skills and technical knowledge that we require, and we may experience difficulties attracting qualified sales personnel to meet our needs in the future. Because our solution is often sold to large enterprises and involves long sales cycles and complex customer requirements, it is more difficult to find sales personnel with the specific skills and technical knowledge needed to sell our solution and, even if we are able to hire qualified personnel, doing so may be expensive. Our ability to achieve significant revenue growth will depend, in large part, on our success in recruiting, training, and retaining sufficient numbers of direct sales personnel to support our growth. Due to the complexities of our customer needs, new sales personnel require significant training and can take a number of months to achieve full productivity. Our recent hires and planned hires may not become productive as quickly as we expect and if our new sales employees do not become fully productive on the timelines that we have projected or at all, our revenue will not increase at anticipated levels and our ability to achieve long-term projections may be negatively impacted. We may also be unable to hire or retain sufficient numbers of qualified individuals in the markets where we do business or plan to do business. Furthermore, hiring sales personnel in new countries requires additional set up and upfront costs that we may not recover if the sales personnel fail to achieve full productivity. In addition, as we continue to grow, a larger percentage of our sales force will be new to our company and our solution, which may adversely affect our sales if we cannot train our sales force quickly or effectively. Attrition rates may increase, and we may also face integration challenges as we continue to seek to expand our sales force in the long-term. If we are unable to hire and train sufficient numbers of effective sales personnel, if attrition increases, or if the sales personnel are not successful in obtaining new customers or increasing sales to our existing customer base, our business will be adversely affected. We periodically change and make adjustments to our sales organization in response to market opportunities, competitive threats, management changes, product and service introductions or enhancements, acquisitions, sales performance, increases in sales headcount, cost levels, and other internal and external considerations, including potential changes and uncertainties associated with macroeconomic conditions or other factors beyond our control. Any future changes in our sales organization may result in a temporary reduction of productivity, which could negatively affect our rate of growth. In addition, any significant change to the way we structure our compensation of our sales organization may be disruptive and may affect our revenue growth. Our success depends in large part on a limited number of products. If these products fail to gain or lose market acceptance, our business will suffer. We derive substantially all of our revenue and cash flows from sales of subscriptions and associated deployment of our Zuora Platform , Zuora Billing, Zuora Revenue, and Zuora Collect products, and with the acquisition of Zephr, a digital subscriber experience platform, in fiscal 2023, we added the Zephr subscription experience product to our portfolio. As such, the continued growth in market demand for these products is critical to our success. Demand for our solution is affected by a number of factors, many of which are beyond our control, including macroeconomic factors, such as the impacts of inflation and rising interest rates on our customers and prospects, the growth or contraction of the Subscription Economy, continued market acceptance of our solution by customers for existing and new use cases, the timing of development and release of new products and services, features, and functionality introduced by our competitors, changes in accounting standards, laws or regulations, policies, guidelines, interpretations, or principles that would impact the functionality and use of our solution, and technological change. We expect that an increasing transition to disaggregated solutions that focus on addressing specific customer use cases would continue to disrupt the enterprise software space, enabling new competitors to emerge. We cannot assure you that our solutions and future enhancements to our solution will be able to address future advances in technology or the requirements of enterprise customers. If we are unable to meet customer demands in creating a flexible solution designed to address all these needs or otherwise achieve more widespread market acceptance of our solution, our business, operating results, financial condition, and growth prospects would be adversely affected. 47 We face risks related to our debt obligations, including our convertible senior unsecured notes and warrants. In March 2022, we issued $250.0 million aggregate principal amount of convertible senior unsecured notes due in 2029 (Initial Notes) and warrants for 7.5 million shares of our Class A common stock (Warrants) to Silver Lake Alpine II, L.P. (Silver Lake). We have also agreed to issue to Silver Lake an additional $150.0 million in senior unsecured notes in September 2023 (Additional Notes) (together with the Initial Notes, the “2029 Notes”). Our debt obligations under the 2029 Notes could adversely impact us. For example, these obligations coul • require us to use a substantial portion of our cash flow from operations to pay principal and interest on debt, or to repurchase our 2029 Notes when required upon the occurrence of certain events or otherwise pursuant to the terms thereof, which will reduce the amount of cash flow available to fund working capital, capital expenditures, acquisitions, and other business activities; • require us to use cash and/or issue shares of our Class A common stock to settle any obligations; • result in certain of our debt instruments being accelerated or being deemed to be in default if certain terms of default are triggered, such as applicable cross payment default and/or cross-acceleration provisions; • adversely impact our credit rating, which could increase future borrowing costs; • limit our future ability to raise funds for capital expenditures, strategic acquisitions or business opportunities, and other general corporate requirements; • restrict our ability to create or incur liens and engage in other transactions and activity; • increase our vulnerability to adverse economic and industry conditions; • dilute our earnings per share as a result of the conversion provisions in the 2029 Notes; and • place us at a competitive disadvantage compared to our less leveraged competitors. Additionally, due to certain settlement provisions in the Warrants, we have classified a portion of the Warrants as a current liability and revalue the liability on a quarterly basis, which may adversely affect our future operating results and financial condition as reported on a GAAP basis. We also have a $30.0 million revolving credit facility, which is currently undrawn, under an agreement with First Citizens Bank & Trust (which was assumed from Silicon Valley Bank). The credit facility contains restrictive covenants, including limitations on our ability to transfer or dispose of assets, merge with other companies or consummate certain changes of control, acquire other companies, pay dividends or repurchase our stock, incur additional indebtedness and liens and enter into new businesses. We therefore may not be able to engage in any of the foregoing transactions unless we obtain the consent of the lender or terminate the credit facility. Failure to comply with the covenants or other restrictions could result in a default. In addition, the credit facility is secured by substantially all of our non-intellectual property assets and requires us to satisfy certain financial covenants. Our ability to meet our payment obligations under our debt instruments depends on our ability to generate significant cash flows in the future. This, to some extent, is subject to market, economic, financial, competitive, legislative, and regulatory factors as well as other factors that are beyond our control. There can be no assurance that our business will generate cash flow from operations, or that additional capital will be available to us, in amounts sufficient to enable us to meet our debt payment obligations and to fund other liquidity needs. For example, we may utilize proceeds from the 2029 Notes for acquisitions or other investments that do not increase our enterprise value or we may otherwise be unable to generate sufficient cash flows to repay our debt obligations. See Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock of the Notes to Condensed Consolidated Financial Statements for more information about the 2029 Notes, Warrants and the revolving credit facility. Our operating results may fluctuate from quarter to quarter, which makes our future results difficult to predict. Our quarterly operating results have fluctuated in the past and may fluctuate in the future. As a result, you should not rely upon our past quarterly operating results as indicators of future performance. We have encountered, and will continue to encounter, risks and uncertainties frequently experienced by growing companies in rapidly 48 evolving markets, such as the risks and uncertainties described herein. Our operating results in any given quarter can be influenced by numerous factors, many of which are unpredictable or are outside of our control, includin • our ability to maintain and grow our customer base; • our ability to retain and increase revenue from existing customers; • our ability to introduce new products and services and enhance existing products and services; • our ability to integrate or implement our existing products and services on a timely basis or at all; • our ability to deploy our products successfully within our customers' information technology ecosystems; • our ability to enter into larger contracts; • increases or decreases in subscriptions to our platform; • our ability to sell to large enterprise customers; • the transaction volume that our customers process through our system; • our ability to respond to competitive developments, including competitors' pricing changes and their introduction of new products and services; • macroeconomic conditions, including the impact of foreign exchange fluctuations and rising interest rates and inflation, including wage inflation; • changes in the pricing of our products; • the productivity of our sales force; • our ability to grow our relationships with strategic partners such as system integrators and their effectiveness in increasing our sales and implementing our products; • changes in the mix of products and services that our customers use; • the length and complexity of our sales cycles; • cost to develop and upgrade our solution to incorporate new technologies; • seasonal purchasing patterns of our customers; • the impact of outages of our solution and reputational harm; • costs related to the acquisition of businesses, talent, technologies, or intellectual property, including potentially significant amortization costs and possible write-downs; • failures or breaches of security or privacy, and the costs associated with responding to and addressing any such failures or breaches; • changes to financial accounting standards and the interpretation of those standards that may affect the way we recognize and report our financial results, including changes in accounting rules governing recognition of revenue; • the impact of changes to financial accounting standards; • general economic and political conditions and government regulations in the countries where we currently operate or plan to expand; • decisions by us to incur additional expenses, such as increases in sales and marketing or research and development; • the timing of stock-based compensation expense; • political unrest, changes and uncertainty associated with terrorism, hostilities, war (including the ongoing conflict in Ukraine), natural disasters, pandemics, and the instability in the global banking system; and • potential costs to attract, onboard, retain, and motivate qualified personnel. 49 The impact of one or more of the foregoing and other factors may cause our operating results to vary significantly. As such, we believe that quarter-to-quarter comparisons of our operating results may not be meaningful and should not be relied upon as an indication of future performance. If we fail to meet or exceed the expectations of investors or securities analysts, then the trading price of our Class A common stock could fall substantially, and we could face costly lawsuits, including shareholder litigation. If we are not able to develop and release new products and services, or successful enhancements, new features, and modifications to our existing products and services, or otherwise successfully implement our multi-product strategy, our business could be adversely affected. The market for our solutions, including our billing, collections, revenue recognition and subscriber experience offerings, is characterized by rapid technological change, frequent new product and service introductions and enhancements, changing customer demands, and evolving industry standards. The introduction of products and services embodying new technologies can quickly make existing products and services obsolete and unmarketable. Additionally, because we provide billing and finance solutions to help our customers with compliance and financial reporting, changes in law, regulations, and accounting standards could impact the usefulness of our products and services and could necessitate changes or modifications to our products and services to accommodate such changes. Subscription management products and services, including our billing, collections and revenue recognition offerings, are inherently complex, and our ability to implement our multi-product strategy, including developing, releasing, marketing and selling new products and services or enhancements, new features and modifications to our existing products and services depends on several factors, including timely completion, competitive pricing, adequate quality testing, integration with new and existing technologies and our solution, and overall market acceptance. We cannot be sure that we will succeed in developing, marketing, and delivering on a timely and cost-effective basis enhancements or improvements to our platform or any new products and services that respond to continued changes in subscription management practices or new customer requirements, nor can we be sure that any enhancements or improvements to our platform or any new products and services will achieve market acceptance. Since developing our solution is complex, the timetable for the release of new products and enhancements to existing products is difficult to predict, and we may not offer new products and updates as rapidly as our customers require or expect. Any new products or services that we develop may not be introduced in a timely or cost-effective manner, may contain errors or defects, or may not achieve the broad market acceptance necessary to generate sufficient revenue. The introduction of new products and enhancements could also increase costs associated with customer support and customer success as demand for these services increase. This increase in cost could negatively impact profit margins, including our gross margin. Moreover, even if we introduce new products and services, we may experience a decline in revenue of our existing products and services that is not offset by revenue from the new products or services. For example, customers may delay making purchases of new products and services to permit them to make a more thorough evaluation of these products and services or until industry and marketplace reviews become widely available. Some customers may hesitate to migrate to a new product or service due to concerns regarding the complexity of migration or performance of the new product or service. In addition, we may lose existing customers who choose a competitor’s products and services or choose to utilize internally developed applications instead of our products and services. This could result in a temporary or permanent revenue shortfall and adversely affect our business. In addition, because our products and services are designed to interoperate with a variety of other internal or third-party software products and business systems applications, we will need to continuously modify and enhance our products and services to keep pace with changes in application programming interfaces (APIs), and other software and database technologies. We may not be successful in either developing these new products and services, modifications, and enhancements or in bringing them to market in a timely fashion. There is no assurance that we will successfully resolve such issues in a timely and cost-effective manner. Furthermore, modifications to existing platforms or technologies, including any APIs with which we interoperate, will increase our research and development expenses. Any failure of our products and services to operate effectively with each other or with other platforms and technologies could reduce the demand for our products and services, result in customer dissatisfaction, and adversely affect our business. 50 We may acquire or invest in additional companies, which may divert our management’s attention, result in additional dilution to our stockholders, and consume resources that are necessary to sustain our business. We may be unable to integrate acquired businesses and technologies successfully or to achieve the expected benefits of such acquisitions. Our business strategy includes acquiring other complementary products, technologies, or businesses, such as our acquisition of Zephr in September 2022. An acquisition, investment, or business relationship may result in unforeseen operating difficulties and expenditures. In particular, we may encounter difficulties assimilating or integrating the businesses, technologies, products, personnel, or operations of the acquired companies, particularly if the key personnel of the acquired companies choose not to work for us, if an acquired company’s software is not easily adapted to work with ours, or if we have difficulty retaining the customers of any acquired business due to changes in management or otherwise. Acquisitions may also disrupt our business, divert our resources, and require significant management attention that would otherwise be available for other business development activities. Moreover, the anticipated benefits of any acquisition, investment, or business relationship may not be realized or we may be exposed to unknown liabilities. We may in the future acquire or invest in additional businesses, products, technologies, or other assets. We also may enter into relationships with other businesses to expand our products and services or our ability to provide our products and services in foreign jurisdictions, which could involve preferred or exclusive licenses, additional channels of distribution, discount pricing, or investments in other companies. Negotiating these transactions can be time consuming, difficult, and expensive, and our ability to close these transactions may be subject to approvals that are beyond our control. In addition, we have limited experience in acquiring other businesses. We may be unable to find and identify desirable acquisition targets, may incorrectly estimate the value of a target, may fail to conduct effective due diligence on a target to identify problems or incompatibilities or obstacles to integration, or may not be successful in entering into an agreement with any particular target. Consequently, these transactions, even if undertaken and announced, may not close. For any transactions we undertake, we may: • issue additional equity securities that would dilute our stockholders; • use cash that we may need in the future to operate our business; • incur debt on terms unfavorable to us or that we are unable to repay; • incur large charges or substantial liabilities; • encounter difficulties retaining key employees of the acquired company or integrating diverse software codes or business cultures; and • become subject to adverse tax consequences, substantial depreciation, or deferred compensation charges. Any of these risks could adversely impact our business and operating results. A customer’s failure to deploy our solution after it enters into a subscription agreement with us, or the incorrect or improper deployment or use of our solution could result in customer dissatisfaction and negatively affect our business, operating results, financial condition, and growth prospects. Our solution is deployed in a wide variety of technology environments and into a broad range of complex workflows. We believe our future success will depend in part on our ability to increase both the speed and success of our deployments, by improving our deployment methodology, hiring and training qualified professionals, deepening relationships with deployment partners, and increasing our ability to integrate into large-scale, complex technology environments. We often assist our customers in deploying our solution, either directly or through our deployment partners. In other cases, customers rely on third-party partners to complete the deployment. In some cases, customers initially engage us to deploy our solution, but, for a variety of reasons, including strategic decisions not to utilize subscription business models, fail to ultimately deploy our solution. If we or our third-party partners are unable to deploy our solution successfully, or unable to do so in a timely manner and, as a result, customers do not utilize our solution, we would not be able to generate future revenue from such customers based on transaction or revenue volume and the upsell of additional products and services, and our future operating results could be adversely impacted. In addition, customers may also seek refunds of their initial subscription fee. 51 Moreover, customer perceptions of our solution may be impaired, our reputation and brand may suffer, and customers may choose not to renew or expand their use of our solution. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, our sales cycle may become longer and more expensive, we may encounter still greater pricing pressure and deployment and customization challenges, and we may have to delay revenue recognition for more complicated transactions, all of which could adversely impact our business and operating results. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, we may face greater costs, longer sales cycles, and less predictability in the completion of some of our sales. In this market segment, the customer’s decision to use our solution may be an enterprise-wide decision, in which case these types of sales frequently require approvals by multiple departments and executive-level personnel and require us to provide greater levels of customer education regarding the uses and benefits of our solution, as well as education regarding security, privacy, and scalability of our solution, especially for large “business to consumer” customers or those with extensive international operations. These large enterprise transactions might also be part of a customer’s broader business model or business systems transformation project, which are frequently subject to budget constraints, multiple approvals, and unplanned administrative, processing, security review, and other delays that could further lengthen the sales cycle. Larger enterprises typically have longer decision-making and deployment cycles, may have greater resources to develop and maintain customized tools and applications, demand more customization, require greater functionality and scalability, expect a broader range of services, demand that vendors take on a larger share of risks, demand increased levels of customer service and support, require acceptance provisions that can lead to a delay in revenue recognition, and expect greater payment flexibility from vendors. We are often required to spend time and resources to better familiarize potential customers with the value proposition of our solution. As a result of these factors, sales opportunities with large enterprises may require us to devote greater sales and administrative support and professional services resources to individual customers, which could increase our costs, lengthen our sales cycle, and divert our sales and professional services resources to a smaller number of larger customers. We may spend substantial time, effort, and money in our sales, design and implementation efforts without being successful in producing any sales or deploying our products in such a way that is satisfactory to our customers. All these factors can add further risk to business conducted with these customers. In addition, if sales expected from a large customer for a particular quarter are not realized in that quarter or at all, our business, operating results, and financial condition could be materially and adversely affected. Furthermore, our sales and implementation cycles could be interrupted or affected by other factors outside of our control. For example, due to global economic uncertainty, rising inflation and interest rates, and foreign exchange fluctuations, many large enterprises have generally reduced or delayed technology or other discretionary spending, which may materially and negatively impact our operating results, financial condition and prospects. Our long-term success depends, in part, on our ability to expand the sales of our solution to customers located outside of the United States. Our current international operations, and any further expansion of those operations, expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. We conduct our business activities in various foreign countries and have operations in North America, Europe, Asia, and Australia. During the three months ended April 30, 2023, we derived approximately 37% of our total revenue from customers located outside the United States. Our ability to manage our business and conduct our operations internationally requires considerable management attention and resources and is subject to the particular challenges of supporting a rapidly growing business in an environment of multiple cultures, customs, legal systems, regulatory systems, and commercial infrastructures. International expansion requires us to invest significant funds and other resources. Our operations in international markets may not develop at a rate that supports our level of investment. Expanding internationally may subject us to new risks that we have not faced before or increase risks that we currently face, including risks associated wit • recruiting and retaining talented and capable employees in foreign countries; • providing our solution to customers from different cultures, which may require us to adapt sales practices, modify our solution, and provide features necessary to effectively serve the local market; • compliance with multiple, conflicting, ambiguous or evolving governmental laws and regulations and court decisions, including those relating to employment matters, e-invoicing, consumer protection, privacy, data protection, information security, data residency, and encryption; 52 • longer sales cycles in some countries; • increased third-party costs relating to data centers outside of the United States; • generally longer payment cycles and greater difficulty in collecting accounts receivable; • credit risk and higher levels of payment fraud; • weaker privacy and intellectual property protection in some countries, including China and India; • compliance with anti-bribery laws, such as the U.S. Foreign Corrupt Practices Act of 1977, as amended (FCPA) and the UK Bribery Act 2010 (UK Bribery Act); • currency exchange rate fluctuations; • tariffs, export and import restrictions, restrictions on foreign investments, sanctions, and other trade barriers or protection measures; • foreign exchange controls that might prevent us from repatriating cash earned outside the United States; • economic instability and inflationary conditions; • political instability and unrest, including the effects of the ongoing conflict in Ukraine, especially as it impacts countries in Europe; • corporate espionage; • compliance with the laws of numerous taxing jurisdictions, both foreign and domestic, in which we conduct business, potential double taxation of our international earnings, and potentially adverse tax consequences due to changes in applicable U.S. and foreign tax laws; • continuing uncertainty regarding social, political, immigration, and tax and trade policies in the U.S. and abroad; • instability in the U.S. and international banking systems; • increased costs to establish and maintain effective controls at foreign locations; and • overall higher costs of doing business internationally. Our growth forecasts we have provided publicly may prove to be inaccurate, and even if the markets in which we compete achieve the forecasted growth, we cannot assure that our business will grow at similar rates, if at all. Growth forecasts are subject to significant uncertainty and are based on assumptions and estimates that may not prove to be accurate. The forecasts we have provided publicly relating to the expected growth of the markets in which we compete may prove to be inaccurate. Even if these markets experience the growth we forecast, we may not grow our business at similar rates, or at all. Our growth is subject to many factors, including our success in executing our business strategy, which is subject to many risks and uncertainties. Accordingly, the forecasts of market growth we have provided publicly should not be taken as indicative of our future growth. If we fail to offer high-quality support and training to our customers and third-party partners, our business and reputation will suffer. Once our solution is deployed to our customers, our customers rely on support services from us and from our third-party partners to resolve any related issues. High-quality education, training and support for our customers and third-party partners is important for the successful marketing and sale of our products and for the renewal of existing customers. The importance of high-quality customer and third-party partner training and support will increase as we expand our business and pursue new enterprises. If we or our third-party partners do not help our customers quickly resolve post-deployment issues, including configuring and using features, and provide them with effective ongoing customer support, our ability to upsell additional products to existing customers could suffer and our reputation with existing or potential customers could be harmed. 53 Future changes in market conditions or customer demand could require changes to our prices or pricing model, which could adversely affect our business, operating results, and financial condition. We generally charge our customers a flat fee for their use of our platform and a variable fee based on the amount of transaction volume they process through our system and the number of their subscribers. If our customers do not increase their transaction volume or the number of their subscribers, or an economic downturn reduces their transaction volume or the number of their subscribers, our revenue may be adversely impacted by customers reducing their contracted transaction volume. We have limited experience with respect to determining the optimal prices for our platform, and, as a result, we have in the past needed to and expect in the future to need to change our pricing model from time to time. As the market for our platform matures, or as new competitors introduce new products or services that compete with ours, we may be unable to attract or retain customers at the same price or based on the same pricing models as we have used historically. We may experience pressure to change our pricing model to defer fees until our customers have fully deployed our solution. Moreover, larger organizations, which comprise a large and growing component of our sales efforts, may demand substantial price concessions. As a result, in the future, we may be required to reduce our prices or change our pricing model, which could adversely affect our revenue, gross margin, profitability, financial position, and cash flow. If we fail to integrate our solution with a variety of operating systems, software applications, and hardware platforms that are developed by others, our solution may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Our solution must integrate with a variety of network, hardware, and software platforms, and we need to continuously modify and enhance our solution to adapt to changes in cloud-enabled hardware, software, networking, browser, and database technologies. We have developed our solution to be able to integrate with third-party SaaS applications, including the applications of software providers that compete with us, through the use of APIs. For example, Zuora CPQ integrates with certain capabilities of Salesforce using publicly available APIs. In general, we rely on the fact that the providers of such software systems, including Salesforce, continue to allow us access to their APIs to enable these integrations, and the terms with such companies may be subject to change from time to time. We also integrate certain aspects of our solution with other platform providers. Any change or deterioration in our relationship with any platform provider may adversely impact our business and operating results. Our business may be adversely impacted if any platform provide • discontinues or limits our access to its APIs; • makes changes to its platform; • terminates or does not allow us to renew or replace our contractual relationship; • modifies its terms of service or other policies, including fees charged to, or other restrictions on, us or other application developers, or changes how customer information is accessed by us or our customers; • establishes more favorable relationships with one or more of our competitors, or acquires one or more of our competitors or is acquired by a competitor and offers competing services to us; or • otherwise develops its own competitive offerings. In addition, we have benefited from these platform providers’ brand recognition, reputations, and customer bases. Any losses or shifts in the market position of these platform providers in general, in relation to one another or to new competitors or new technologies could lead to losses in our relationships or customers, or to our need to identify or transition to alternative channels for marketing our solutions. Such changes could consume substantial resources and may not be effective. If we are unable to respond to changes in a cost-effective manner, our solution may become less marketable, less competitive, or obsolete and our operating results may be negatively impacted. If we fail to develop, maintain, and enhance our brand and reputation cost-effectively, our business and financial condition may be adversely affected. We believe that developing, maintaining, and enhancing awareness and integrity of our brand and reputation in a cost-effective manner are important to achieving widespread acceptance of our solution and are important elements in attracting new customers and maintaining existing customers. We believe that the importance of our brand and reputation will increase as competition in our market further intensifies. Successful promotion of our 54 brand and the Subscription Economy concept will depend on the effectiveness of our marketing efforts, our ability to provide a reliable and useful solution at competitive prices, the perceived value of our solution, and our ability to provide quality customer support. In addition, the promotion of our brand requires us to make substantial expenditures, and we anticipate that the expenditures will increase as our market becomes more competitive, as we expand into new markets, and as more sales are generated through our strategic partners. Brand promotion activities may not yield increased revenue, and even if they do, the increased revenue may not offset the expenses we incur in building and maintaining our brand and reputation. We also rely on our customer base and community of end-users in a variety of ways, including to give us feedback on our solution and to provide user-based support to our other customers. If we fail to promote and maintain our brand successfully or to maintain loyalty among our customers, or if we incur substantial expenses in an unsuccessful attempt to promote and maintain our brand, we may fail to attract new customers and partners or retain our existing customers and partners and our business and financial condition may be adversely affected. Any negative publicity relating to our customers, employees, partners, or others associated with these parties, may also tarnish our own reputation simply by association and may reduce the value of our brand. Damage to our brand and reputation may result in reduced demand for our solution and increased risk of losing market share to our competitors. Any efforts to restore the value of our brand and rebuild our reputation may be costly and may not be successful. We employ third-party licensed software for use in or with our software, and the inability to maintain these licenses or errors in the software we license could result in increased costs or reduced service levels, which could adversely affect our business. Our software incorporates certain third-party software obtained under licenses from other companies. We anticipate that we will continue to rely on such third-party software and development tools from third parties in the foreseeable future. Although we believe that there are commercially reasonable alternatives to the third-party software we currently license, including open source software, this may not always be the case, or it may be difficult or costly to migrate to other third-party software. Our use of additional or alternative third-party software would require us to enter into license agreements with third parties. In addition, integration of our software with new third-party software may require significant work and require substantial investment of our time and resources. Also, any undetected or uncorrected errors or defects in third-party software could prevent the deployment or impair the functionality of our software, present security risks, delay new updates or enhancements to our solution, result in a failure of our solution, and injure our reputation. Certain of our operating results and financial metrics may be difficult to predict as a result of seasonality. Although we have not historically experienced significant seasonality with respect to our subscription revenue throughout the year, we have seen seasonality in our sales cycle as a large percentage of our customers make their purchases in the third month of any given quarter. In addition, our fourth quarter has historically been our strongest quarter. We believe that this results in part from the procurement, budgeting, and deployment cycles of many of our customers. We generally expect a relative increase in sales in the second half of each year as budgets of our customers for annual capital purchases are being fully utilized. We may be affected by seasonal trends in the future, particularly as our business matures. Such seasonality may result from a number of factors, including a slowdown in our customers’ procurement process during certain times of the year, both domestically and internationally, and customers choosing to spend remaining budgets shortly before the end of their fiscal years. These effects may become more pronounced as we target larger organizations and their larger budgets for sales of our solution. Additionally, this seasonality may be reflected to a much lesser extent, and sometimes may not be immediately apparent, in our revenue, due to the fact that we recognize subscription revenue over the term of the applicable subscription agreement. In addition, our ability to record professional services revenue can potentially vary based on the number of billable days in the given quarter, which is impacted by holidays and vacations. To the extent we experience this seasonality, it may cause fluctuations in our operating results and financial metrics and make forecasting our future operating results and financial metrics more difficult. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy If our security measures are breached or if unauthorized access to customer, employee or other confidential data is otherwise obtained, or if our solution is perceived as not being secure, we may lose existing customers or fail to attract new customers, our business may be harmed and we may incur significant liabilities. 55 Our solution involves the storage, transmission and processing of our customers’ proprietary data, including highly confidential financial information regarding their business, and personal or confidential information of our customers' customers or other end users. Additionally, we maintain our own proprietary, confidential and otherwise sensitive information, including employee information. While we have security measures in place to protect customer information and prevent data loss and other security breaches, these measures may be breached as a result of third-party action, including cyberattacks or other intentional misconduct by computer hackers, employee error, malfeasance or otherwise. The risk of a cybersecurity incident occurring has increased as more companies and individuals work remotely, potentially exposing us to new, complex threats. Additionally, due to political uncertainty and military actions such as those associated with the war in Ukraine, we and our service providers are vulnerable to heightened risks of cybersecurity incidents and security and privacy breaches from or affiliated with nation-state actors. If any unauthorized or inadvertent access to, or a security breach or incident impacting our platform or other systems or networks used in our business occurs, such event could result in the loss, alteration, or unavailability of data, unauthorized access to, or use or disclosure of data, and any such event, or the belief or perception that it has occurred, could result in a loss of business, severe reputational damage adversely affecting customer or investor confidence, regulatory investigations and orders, litigation, indemnity obligations, and damages for contract breach or penalties for violation of applicable laws or regulations. Service providers who store or otherwise process data on our behalf, including third party and public-cloud infrastructure, also face security risks. As we rely more on third-party and public-cloud infrastructure and other third-party service providers, we will become more dependent on third-party security measures to protect against unauthorized access, cyberattacks and the mishandling of customer, employee and other confidential data and we may be required to expend significant time and resources to address any incidents related to the failure of those third-party security measures. Our ability to monitor our third-party service providers' data security is limited, and in any event, attackers may be able to circumvent our third-party service providers' data security measures. There have been and may continue to be significant attacks on certain third-party providers, and we cannot guarantee that our or our third-party providers' systems and networks have not been breached or otherwise compromised, or that they do not contain exploitable defects or bugs that could result in a breach of or disruption to our systems and networks or the systems and networks of third parties that support us and our platform. We may also suffer breaches of, or incidents impacting, our internal systems. Security breaches or incidents impacting our platform or our internal systems could also result in significant costs incurred in order to remediate or otherwise respond to a breach or incident, which may include liability for stolen assets or information and repair of system damage that may have been caused, incentives offered to customers or other business partners in an effort to maintain business relationships after a breach, and other costs, expenses and liabilities. We may be required to or find it appropriate to expend substantial capital and other resources to alleviate problems caused by any actual or perceived security breaches or incidents. Additionally, many jurisdictions have enacted or may enact laws and regulations requiring companies to notify individuals of data security breaches involving certain types of personal data. These or other disclosures regarding a security breach or incident could result in negative publicity to us, which may cause our customers to lose confidence in the effectiveness of our data security measures which could impact our operating results. Despite our investments into measures designed to minimize the risk of security breaches, we may experience security incidents or breaches in the future due to elevated cyber threats. If a high profile security breach or incident occurs with respect to us, another Software as a Service (SaaS) provider or other technology company, our current and potential customers may lose trust in the security of our solution or in the SaaS business model generally, which could adversely impact our ability to retain existing customers or attract new ones. Such a breach or incident, or series of breaches or incidents, could also result in regulatory or contractual security requirements that could make compliance challenging. Even in the absence of any security breach or incident, customer concerns about privacy, security, or data protection may deter them from using our platform for activities that involve personal or other sensitive information. Because the techniques used to obtain unauthorized access or to sabotage systems change frequently, and often are not identified until they are launched against a target, we may be unable to anticipate these techniques or to implement adequate preventative measures. We may also experience security breaches and incidents that may remain undetected for an extended period of time. Periodically, we experience cyber security events including “phishing” attacks targeting our employees, web application and infrastructure attacks and other information technology incidents that are typical for a SaaS company of our size. These threats continue to evolve in sophistication and volume and are difficult to detect and predict due to advances in electronic warfare techniques, new discoveries in the field of cryptography and new and sophisticated methods used by criminals including 56 phishing, social engineering or other illicit acts. There can be no assurance that our defensive measures will prevent cyberattacks or other security breaches or incidents, and any such attacks, breaches or incidents could damage our brand and reputation and negatively impact our business. Because data security is a critical competitive factor in our industry, we make numerous statements in our privacy policy and customer agreements, through our certifications to standards and in our marketing materials, providing assurances about the security of our platform including detailed descriptions of security measures we employ. Should any of these statements be untrue, be perceived to be untrue, or become untrue, even through circumstances beyond our reasonable control, we may face claims of misrepresentation or deceptiveness by the U.S. Federal Trade Commission, state and foreign regulators and private litigants. Our insurance policies covering certain security and privacy damages and claim expenses may not be sufficient to compensate for all potential liability. Although we maintain cyber liability insurance, we cannot be certain that our coverage will be adequate for liabilities actually incurred, or that insurance will continue to be available to us on economically reasonable terms, or at all. In addition, like many similarly situated technology companies, we have a sizable number of research and development and other personnel located outside the United States, including in India and China, which has exposed and could continue to expose us to governmental and regulatory, as well as market and media, scrutiny, regarding the actual or perceived integrity of our platform or data security and privacy features. Any actual or perceived security compromise could reduce customer confidence in the effectiveness of our security measures, negatively affect our ability to attract new customers, and cause existing customers to reduce the use or stop using our solution, any of which could harm our business and reputation. Privacy and security concerns, laws, and regulations, may reduce the effectiveness of our solution and adversely affect our business. Governments and agencies worldwide have adopted or may adopt laws and regulations regarding the collection, use, storage, data residency, security, disclosure, transfer across borders and other processing of information obtained from individuals within jurisdictions. These laws and regulations increase the costs and burdens of compliance, including the ability to transfer information from, or a requirement to store in, particular jurisdictions and coul • impact our ability to offer our products and services in certain jurisdictions, • decrease demand for or require us to modify or restrict our product or services, or • impact our customers’ ability and willingness to use, adopt and deploy our solution globally. Compliance burdens or our inability to comply with such laws, regulations, and other obligations, could lead to reduced overall demand and impair our ability to maintain and grow our customer base and increase our revenue. We may be unable to make changes that are necessary or appropriate to address changes in laws, regulations, or other obligations in a commercially reasonable manner, in a timely fashion, or at all. Additionally, laws and regulations relating to the processing of information can vary significantly based on the jurisdiction. Some regions and countries have or are enacting strict laws and regulations, including the European Union (EU), China (PIPL), Australia, and India, as well as states within the United States, such as California, that may create conflicts, obligations or inconsistent compliance requirements. Despite our efforts to comply with these varying requirements, a regulator or supervisory authority may determine that we have not done so and subject us to fines, potentially costly remediation requirements, and public censure, which could harm our business. For example, the European Union’s General Data Protection Regulation (GDPR) mandates requirements for processing personal data and imposes penalties of up to the greater of €20 million or 4% of worldwide revenue for non-compliance. In June 2021, the European Commission issued replacement standard contractual clauses (2021 SCCs) to govern the transfer of personal data to a country that has not been deemed adequate, such as the United States, that created additional requirements that potentially increase liability for data processors such as us. In addition, in the United States, we may be subject to both federal and state laws. Certain U.S. state laws may be more stringent or broader in scope, or offer greater individual rights, with respect to the protection of personal information than federal, international, or other state laws, and such laws may differ from each other, all of which may complicate compliance efforts. For example, California continues to be a critical state with respect to evolving consumer privacy laws after enacting the California Consumer Privacy Act (CCPA), later amended by the California Privacy Rights Act (the CPRA). The CPRA took effect in January 2023 and enforcement will begin on July 1, 2023. 57 Failure to comply with the CCPA and the CPRA may result in significant civil penalties, injunctive relief, or statutory or actual damages as determined by the CPPA and California Attorney General through its investigative authority. We also are bound by standards, contracts and other obligations relating to processing personal information that are more stringent than applicable laws and regulations. The costs of compliance with, and other burdens imposed by, these laws, regulations, and other obligations are significant. In addition, some companies, particularly larger or global enterprises, often will not contract with vendors that do not meet these rigorous obligations and often seek contract terms to ensure we are financially liable for any breach of these obligations. Accordingly, our or our vendors' failure, or perceived inability, to comply with these obligations may limit the demand, use and adoption of our solution, lead to regulatory investigations, breach of contract claims, litigation, damage our reputation and brand and lead to significant fines, penalties, or liabilities or slow the pace at which we close sales transactions, any of which could harm our business. In addition, there is no assurance that our privacy and security-related safeguards, including measures we may take to mitigate the risks of using third parties, will protect us from the risks associated with the third-party processing, storage, and transmission of such information. Privacy advocacy groups, the technology industry, and other industries have established or may establish various new, additional, or different self-regulatory standards that may place additional burdens on us. Our customers may require us or we may find it advisable to meet voluntary certifications or adhere to other standards established by them or third parties. Our customers may also expect us to take proactive stances or contractually require us to take certain actions should a request for personal information belonging to customers be received from a government or regulatory agency. If we are unable to maintain such certifications, comply with such standards, or meet such customer requests, it could reduce demand for our solution and adversely affect our business. Future laws, regulations, standards, and other obligations, actions by governments or other agencies, and changes in the interpretation or inconsistent interpretation of existing laws, regulations, standards, and other obligations could result in increased regulation, increased costs of compliance and penalties for non-compliance, costly changes to Zuora's products or their functionality, and limitations on processing personal information. Any failure or perceived failure by us (or the third parties with whom we have contracted to process such information) to comply with applicable privacy and security laws, policies or related contractual obligations, or any compromise of security that results in unauthorized access, use, or transmission of, personal user information, could result in a variety of claims against us, including litigation, governmental enforcement actions, investigations, and proceedings by data protection authorities, as well as fines, sanctions, loss of export privileges, damage to our reputation, or loss of customer confidence, any of which may have a material adverse effect on our business, operating results, and financial condition. Failure to protect our intellectual property could adversely affect our business. Our success depends in large part on our proprietary technology. We rely on various intellectual property rights, including patents, copyrights, trademarks, and trade secrets, as well as confidentiality provisions and contractual arrangements, to protect our proprietary rights. If we do not protect and enforce our intellectual property rights successfully, our competitive position may suffer, which could adversely impact our operating results. Our pending patent or trademark applications may not be allowed, or competitors may challenge the validity, enforceability or scope of our patents, copyrights, trademarks or the trade secret status of our proprietary information. There can be no assurance that additional patents will be issued or that any patents that are issued will provide significant protection for our intellectual property. There is also no assurance that we will be able to register trademarks that are critical to our business. In addition, our patents, copyrights, trademarks, trade secrets, and other intellectual property rights may not provide us a significant competitive advantage. There is no assurance that the particular forms of intellectual property protection that we seek, including business decisions about when to file patents and when to maintain trade secrets, will be adequate to protect our business. Moreover U.S. patent law, developing jurisprudence regarding U.S. patent law, and possible future changes to U.S. or foreign patent laws and regulations may affect our ability to protect and enforce our intellectual property rights. In addition, the laws of some countries do not provide the same level of protection of our intellectual property as do the laws of the United States. As we expand our international activities, our exposure to unauthorized copying and use of our solution and proprietary information will likely increase. Despite our precautions, our intellectual property is vulnerable to unauthorized access through employee error or actions, theft, and cybersecurity incidents, and other security breaches. It may be possible for third parties to infringe upon or misappropriate our intellectual property, to copy our solution, and to use information that we regard as proprietary to create products and services 58 that compete with ours. Effective intellectual property protection may not be available to us in every country in which our solution is available. For example, some foreign countries have compulsory licensing laws under which a patent owner must grant licenses to third parties. In addition, many countries limit the enforceability of patents against certain third parties, including government agencies or government contractors. In these countries, patents may provide limited or no benefit. We may need to expend additional resources to defend our intellectual property rights domestically or internationally, which could impair our business or adversely affect our domestic or international expansion. Moreover, we may not pursue or file patent applications or apply for registration of copyrights or trademarks in the United States and foreign jurisdictions in which we operate with respect to our potentially patentable inventions, works of authorship, marks and logos for a variety of reasons, including the cost of procuring such rights and the uncertainty involved in obtaining adequate protection from such applications and registrations. If we cannot adequately protect and defend our intellectual property, we may not remain competitive, and our business, operating results, and financial condition may be adversely affected. We enter into confidentiality and invention assignment agreements with our employees and consultants and enter into confidentiality agreements with other parties. We cannot assure you that these agreements will be effective in controlling access to, use of, and distribution of our proprietary information or in effectively securing exclusive ownership of intellectual property developed by our current or former employees and consultants. Further, these agreements may not prevent other parties from independently developing technologies that are substantially equivalent or superior to our solution. We may need to spend significant resources securing and monitoring our intellectual property rights, and we may or may not be able to detect infringement by third parties. Our competitive position may be harmed if we cannot detect infringement and enforce our intellectual property rights quickly or at all. In some circumstances, we may choose to not pursue enforcement because an infringer has a dominant intellectual property position or for other business reasons. In addition, competitors might avoid infringement by designing around our intellectual property rights or by developing non-infringing competing technologies. Litigation may be necessary in the future to enforce our intellectual property rights and to protect our trade secrets. Litigation brought to protect and enforce our intellectual property rights could be costly, time-consuming, and distracting to management, and could result in the impairment or loss of portions of our intellectual property. Further, our efforts to enforce our intellectual property rights may be met with defenses, counterclaims attacking the scope, validity, and enforceability of our intellectual property rights, or with counterclaims and countersuits asserting infringement by our products and services of third-party intellectual property rights. Our failure to secure, protect, and enforce our intellectual property rights could seriously adversely affect our brand and our business. Additionally, the United States Patent and Trademark Office and various foreign governmental patent agencies require compliance with a number of procedural, documentary, fee payment, and other similar provisions in order to complete the patent or trademark application process and to maintain issued patents or trademarks. There are situations in which noncompliance or non-payment can result in abandonment or lapse of the patent or trademark or associated application, resulting in partial or complete loss of patent or trademark rights in the relevant jurisdiction. If this occurs, it could have a material adverse effect on our business operations and financial condition. Errors, defects, or disruptions in our solution could diminish demand, harm our financial results, and subject us to liability. Our customers use our products for important aspects of their businesses, and any errors, defects, or disruptions to our solution, or other performance problems with our solution could harm our brand and reputation and may damage our customers’ businesses. We are also reliant on third-party software and infrastructure, including the infrastructure of the Internet, to provide our products and services. Any failure of or disruption to this software and infrastructure could also make our solution unavailable to our customers. Our solution is constantly changing with new software releases, which may contain undetected errors when first introduced or released. Any errors, defects, disruptions in service, or other performance problems with our solution could result in negative publicity, loss of or delay in market acceptance of our products, loss of competitive position, delay of payment to us, lower renewal rates, or claims by customers for losses sustained by them. In such an event, we may be required, or may choose, for customer relations or other reasons, to expend additional resources in order to help correct the problem. Accordingly, any errors, defects, or disruptions to our solution could adversely impact our brand and reputation, revenue, and operating results. In addition, because our products and services are designed to interoperate with a variety of internal and third-party systems and infrastructures, we need to continuously modify and enhance our products and services to keep 59 pace with changes in software technologies. We may not be successful in either developing these modifications and enhancements or resolving interoperability issues in a timely and cost-effective manner. Any failure of our products and services to continue to operate effectively with internal or third-party infrastructures and technologies could reduce the demand for our products and services, resulting in dissatisfaction of our customers, and may materially and adversely affect our business. Any disruption of service at our cloud providers, including Amazon Web Services and Microsoft's Azure cloud service, could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. We currently host our solution, serve our customers, and support our operations using Amazon Web Services (AWS), a provider of cloud infrastructure services, and have begun enabling new features and capabilities for our solution using Microsoft's Azure cloud service. We also leverage AWS in various geographic regions for our disaster recovery plans. We do not have control over the operations of the facilities of AWS or Azure. These facilities are vulnerable to damage or interruption from earthquakes, hurricanes, floods, fires, cyber security attacks, terrorist attacks, power losses, telecommunications failures, and similar events, including events due to the effects of climate change. The occurrence of a natural disaster or an act of terrorism, a decision to close the facilities without adequate notice, or other unanticipated problems could result in lengthy interruptions in our solution. In addition, breaks in the supply chain due to transportation issues or other factors could potentially disrupt the delivery of hardware needed to maintain these third-party systems or to run our business. The facilities also could be subject to break-ins, computer viruses, sabotage, intentional acts of vandalism, and other misconduct. Our solution’s continuing and uninterrupted performance is critical to our success. Because our products and services are used by our customers for billing and financial accounting purposes, it is critical that our solution be accessible without interruption or degradation of performance, and we typically provide our customers with service level commitments with respect to service uptime. Customers may become dissatisfied by any system failure that interrupts our ability to provide our solution to them. Outages could lead to the triggering of our service level agreements and the issuance of credits to our customers, in which case, we may not be fully indemnified for such losses by AWS or Azure. We may not be able to easily switch our public cloud providers, including AWS and Azure, to another cloud provider if there are disruptions or interference with our use of either facility. Sustained or repeated system failures would reduce the attractiveness of our solution to customers and result in contract terminations, thereby reducing revenue. Moreover, negative publicity arising from these types of disruptions could damage our reputation and may adversely impact use of our solution. We may not carry sufficient business interruption insurance to compensate us for losses that may occur as a result of any events that cause interruptions in our service. While our agreement with AWS expires in September 2024, AWS and our other cloud providers do not have an obligation to renew their agreements with us on commercially reasonable terms, or at all. If we are unable to renew our agreements with these providers on commercially reasonable terms, if our agreements with our providers are prematurely terminated, or if in the future we add additional public cloud providers, we may experience additional costs or service downtime in connection with the transfer to, or the addition of, new public cloud providers. If these providers were to increase the cost of their services, we may have to increase the price of our solution, and our operating results may be adversely impacted. We are vulnerable to intellectual property infringement claims brought against us by others. There has been considerable activity in our industry to develop and enforce intellectual property rights. Successful intellectual property infringement claims against us or certain third parties, such as our customers, resellers, or strategic partners, could result in monetary liability or a material disruption in the conduct of our business. We cannot be certain that our products and services, content, and brand names do not or will not infringe valid patents, trademarks, copyrights, or other intellectual property rights held by third parties. We may be subject to legal proceedings and claims from time to time relating to the intellectual property of others in the ordinary course of our business. Any intellectual property litigation to which we might become a party, or for which we are required to provide indemnification, may require us to cease selling or using solutions that incorporate the intellectual property that we allegedly infringe, make substantial payments for legal fees, settlement payments, licensing costs, or other costs or damages, and obtaining a license, may not be available on reasonable terms or at all, thereby hindering our ability to sell or use the relevant technology, or require redesign of the allegedly infringing solutions to avoid infringement, which could be costly, time-consuming, or impossible. Any claims or litigation, regardless of merit, could cause us to incur significant expenses and, if successfully asserted against us, could require that we pay 60 substantial damages or ongoing royalty payments, prevent us from offering our products and services, or require that we comply with other unfavorable terms. We do not have a significant patent portfolio, which could prevent us from deterring patent infringement claims through our own patent portfolio, and our competitors and others may now and in the future have significantly larger and more mature patent portfolios than we have. We may also be obligated to indemnify our customers or strategic partners in connection with such infringement claims, or to obtain licenses from third parties or modify our solution, and each such obligation could further exhaust our resources. Some of our intellectual property infringement indemnification obligations are contractually capped at a very high amount or not capped at all. Even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the time and attention of our management and other employees, and adversely affect our business and operating results. We expect that the occurrence of infringement claims is likely to grow as the market for subscription management products and services grows. Accordingly, our exposure to damages resulting from infringement claims could increase and this could further exhaust our financial and management resources. Our solution contains open source software components, and failure to comply with the terms of the underlying licenses could restrict our ability to sell our solution. Our solution incorporates certain open source software. An open source license typically permits the use, modification, and distribution of software in source code form subject to certain conditions. Some open source licenses contain conditions that any person who distributes or uses a modification or derivative work of software that was subject to an open source license make the modified version subject to the same open source license. Distributing or using software that is subject to this kind of open source license can lead to a requirement that certain aspects of our solution be distributed or made available in source code form. Although we do not believe that we have used open source software in a manner that might condition its use on our distribution of any portion of our solution in source code form, the interpretation of open source licenses is legally complex and, despite our efforts, it is possible that we may be liable for copyright infringement, breach of contract, or other claims if our use of open source software is adjudged to not comply with the applicable open source licenses. Moreover, we cannot assure you that our processes for controlling our use of open source software in our solution will be effective. If we have not complied with the terms of an applicable open source software license, we may need to seek licenses from third parties to continue offering our solution on terms that are not economically feasible, to re-engineer our solution to remove or replace the open source software, to discontinue the sale of our solution if re-engineering could not be accomplished on a timely basis, to pay monetary damages, or to make available the source code for aspects of our proprietary technology, any of which could adversely affect our business, operating results, and financial condition. In addition to risks related to license requirements, use of open source software can involve greater risks than those associated with use of third-party commercial software, as open source licensors generally do not provide warranties, assurances of title, performance, non-infringement, or controls on the origin of the software. There is typically no support available for open source software, and we cannot assure you that the authors of such open source software will not abandon further development and maintenance. Open source software may contain security vulnerabilities, and we may be subject to additional security risk by using open source software. Many of the risks associated with the use of open source software, such as the lack of warranties or assurances of title or performance, cannot be eliminated, and could, if not properly addressed, negatively affect our business. We have established processes to help alleviate these risks, including a review process for screening requests from our development organizations for the use of open source software, but we cannot be sure that all open source software is identified or submitted for approval prior to use in our solution. Risks Related to Legal, Regulatory, Accounting, and Tax Matters Adverse litigation judgments or settlements could expose us to significant monetary damages or limit our ability to operate our business. From time to time, we face litigation or claims arising in or outside the ordinary course of business, which may include class actions, derivative actions, private actions, collective actions, investigations, and various other legal proceedings by stockholders, customers, employees, suppliers, competitors, government agencies, or others. The results of any such litigation, investigations, and other legal proceedings are inherently unpredictable and 61 expensive. Any claims against us, whether meritorious or not, could be time consuming, result in costly litigation, damage our reputation, require significant amounts of management time, and divert significant resources. If legal proceedings were to be determined adversely to us, or we were to enter into a settlement arrangement, we could be exposed to significant monetary damages or limits on our ability to operate our business, which could have a material adverse effect on our business, financial condition, and operating results. For example, in March 2023, Zuora entered into an agreement to settle the consolidated securities class action litigation pending in the U.S. District Court for the Northern District of California and consolidated under the caption Roberts v. Zuora, Inc . The settlement, which is subject to court approval, provides for a payment of $75.0 million by Zuora, which we recorded as an accrual and is included in our unaudited condensed consolidated balance sheets as of April 30, 2023. For more information, see Note 13. Commitments and Contingencies of the Notes to Condensed Consolidated Financial Statements. If we are not able to satisfy data protection, security, privacy, and other government- and industry-specific requirements, our growth could be harmed. We are subject to data protection, security, privacy, and other government- and industry-specific requirements, including those that require us to notify individuals of data security and privacy incidents involving certain types of personal data. Security and privacy compromises experienced by us or our service providers may lead to public disclosures, which could harm our reputation, erode customer confidence in the effectiveness of our security and privacy measures, negatively impact our ability to attract new customers, cause existing customers to elect not to renew their subscriptions with us, or negatively impact our employee relationships or impair our ability to attract new employees. In addition, some of the industries we serve have industry-specific requirements relating to compliance with certain security, privacy and regulatory standards, such as those required by the Health Insurance Portability and Accountability Act. We also maintain compliance with the Payment Card Industry Data Security Standard, which is critical to the financial services and insurance industries. As we expand and sell into new verticals and regions, we will likely need to comply with these and other requirements to compete effectively. If we cannot comply or if we incur a violation in one or more of these requirements, our growth could be adversely impacted, and we could incur significant liability. Because we typically recognize subscription revenue over the term of the applicable agreement, a lack of subscription renewals or new subscription agreements may not be reflected immediately in our operating results and may be difficult to discern. We generally recognize subscription revenue from customers ratably over the terms of their contracts, which typically vary between one and three years. As a result, most of the subscription revenue we report in each quarter is derived from the recognition of unearned revenue relating to subscriptions entered into during previous quarters. Consequently, a decline in new or renewed subscriptions in any particular quarter would likely have a minor impact on our revenue results for that quarter, but could negatively affect our revenue in future quarters. Accordingly, the effect of significant downturns in sales and market acceptance of our solution, and potential changes in our pricing policies or rate of renewals, may not be fully reflected in our operating results until future periods. Moreover, our subscription model makes it difficult for us to rapidly increase our revenue through additional sales in any period, as revenue from new customers must be recognized over the applicable subscription term. We typically provide service level commitments under our customer contracts. If we fail to meet these contractual commitments, we could be obligated to provide credits or refunds for prepaid amounts related to unused subscription services or face contract terminations, which could adversely affect our operating results. Our customer contracts typically provide for service level commitments, which relate to service uptime, response times, and escalation procedures. If we are unable to meet the stated service level commitments or suffer extended periods of unavailability for our solution, we may be contractually obligated to provide these customers with service credits, refunds for prepaid amounts related to unused subscription services, or other remedies, or we could face contract terminations. In addition, we could face legal claims for breach of contract, product liability, tort, or breach of warranty. Although we have contractual protections, such as warranty disclaimers and limitation of liability provisions, in our customer agreements, they may not fully or effectively protect us from claims by customers, commercial relationships, or other third parties. We may not be fully indemnified by our vendors for service interruptions beyond our control, and any insurance coverage we may have may not adequately cover all claims asserted against us, or may cover only a portion of such claims. In addition, even claims that ultimately are unsuccessful could result in our expenditure of funds in litigation and divert management’s time and other 62 resources. Thus, our revenue could be harmed if we fail to meet our service level commitments under our agreements with our customers, including, but not limited to, maintenance response times and service outages. Typically, we have not been required to provide customers with service credits that have been material to our operating results, but we cannot assure you that we will not incur material costs associated with providing service credits to our customers in the future. Additionally, any failure to meet our service level commitments could adversely impact our reputation, business, operating results, and financial condition. Our customers may fail to pay us in accordance with the terms of their agreements, necessitating action by us to compel payment. We typically enter into non-cancelable agreements with our customers with a term of one to three years. If customers fail to pay us under the terms of our agreements, we may be adversely affected both from the inability to collect amounts due and the cost of enforcing the terms of our contracts, including litigation. The risk of such negative effects increases with the term length of our customer arrangements. Furthermore, some of our customers may seek bankruptcy protection or other similar relief and fail to pay amounts due to us, or pay those amounts more slowly, either of which could adversely affect our operating results, financial position, and cash flow. Although we have processes in place that are designed to monitor and mitigate these risks, we cannot guarantee these programs will be effective. If we are unable to adequately control these risks, our business, operating results and financial condition could be harmed. Our ability to use our net operating losses to offset future taxable income may be subject to certain limitations which could subject our business to increased tax liability. Our ability to use our net operating losses (NOLs) to offset future taxable income may be subject to certain limitations which could subject our business to higher tax liability. Utilization of the net operating loss may be subject to an annual limitation due to the "ownership change" limitations provided by Section 382 and 383 of the Internal Revenue Code of 1986, as amended, and other similar state provisions. Additionally, NOLs arising in tax years beginning after December 31, 2017 are subject to a 20-year carryover limitation and may expire if unused within that period. There is also a risk that due to legislative changes, such as suspensions on the use of NOLs, or other unforeseen reasons, our existing NOLs could expire or otherwise be unavailable to offset future income tax liabilities. In addition, under the Tax Cuts and Jobs Act of 2017, as modified by the Coronavirus Aid, Relief, and Economic Security Act, the amount of NOLs that we are permitted to deduct in any taxable year is limited to 80% of our taxable income in such year, where taxable income is determined without regard to the NOL deduction itself. As such, we may not be able to realize a tax benefit from the use of our NOLs, whether or not we attain profitability. We may need to raise additional capital required to grow our business, and we may not be able to raise capital on terms acceptable to us or at all. In order to support our growth and respond to business challenges, such as developing new features or enhancements to our solution to stay competitive, acquiring new technologies, and improving our infrastructure, we have made significant financial investments in our business, and we intend to continue to make such investments. As a result, to provide the funds required for these investments and other business endeavors, we may need to engage in equity or debt financings. For example, in March 2022, we issued to Silver Lake the Initial Notes and have agreed to issue to Silver Lake an additional $150.0 million in senior unsecured notes in September 2023. See Note 9. Debt of the Notes to Condensed Consolidated Financial Statements for more information about the 2029 Notes. If we raise additional funds through equity or convertible debt issuances, our existing stockholders may suffer significant dilution, and these securities could have rights, preferences, and privileges that are superior to that of holders of our common stock. If we obtain additional funds through debt financing, we may not be able to obtain such financing on terms favorable to us. Such terms may involve additional restrictive covenants making it difficult to engage in capital raising activities and pursue business opportunities, including potential acquisitions. Future volatility in the trading price of our common stock may reduce our ability to access capital on favorable terms or at all. In addition, a recession, depression or other sustained adverse market event resulting from deteriorating macroeconomic factors could materially and adversely affect our business and the value of our common stock. If we are unable to obtain adequate financing or financing on terms satisfactory to us when we require it, our ability to continue to support our business growth and to respond to business challenges could be significantly impaired and our business may be adversely affected, requiring us to delay, reduce, or eliminate some or all of our operations. 63 Failure to comply with anti-corruption and anti-money laundering laws, including the FCPA and similar laws associated with our activities outside of the United States, could subject us to penalties and other adverse consequences. We are subject to the FCPA, the U.S. domestic bribery statute contained in 18 U.S.C. § 201, the U.S. Travel Act, the USA PATRIOT Act, the UK Bribery Act, and possibly other anti-bribery and anti-money laundering laws in countries in which we conduct activities. We face significant risks if we fail to comply with the FCPA and other anti-corruption laws that prohibit companies and their employees and third-party intermediaries from promising, authorizing, offering, or providing, directly or indirectly, improper payments or benefits to foreign government officials, political parties, and private-sector recipients for the purpose of obtaining or retaining business, directing business to any person, or securing any advantage. In many foreign countries, particularly in countries with developing economies, it may be a local custom that businesses engage in practices that are prohibited by the FCPA or other applicable laws and regulations. In addition, we use various third parties to sell our solution and conduct our business abroad. We or our third-party intermediaries may have direct or indirect interactions with officials and employees of government agencies or state-owned or affiliated entities and we can be held liable for the corrupt or other illegal activities of these third-party intermediaries, our employees, representatives, contractors, partners, and agents, even if we do not explicitly authorize such activities. We have implemented an anti-corruption compliance program but cannot assure you that all of our employees and agents, as well as those companies to which we outsource certain of our business operations, will not take actions in violation of our policies and applicable law, for which we may be ultimately held responsible. Any violation of the FCPA, other applicable anti-corruption laws, and anti-money laundering laws could result in whistleblower complaints, adverse media coverage, investigations, loss of export privileges, or severe criminal or civil sanctions, which could have a materially adverse effect on our reputation, business, operating results, and prospects. In addition, responding to any enforcement action may result in a significant diversion of management’s attention and resources, significant defense costs, and other professional fees. We are required to comply with governmental export control laws and regulations. Our failure to comply with these laws and regulations could have an adverse effect on our business and operating results. Our solution is subject to governmental, including United States and European Union, export control laws and import regulations, and as a U.S. company we are covered by the U.S. sanctions regulations. U.S. export control and economic sanctions laws and regulations prohibit the shipment of certain products and services to U.S. embargoed or sanctioned countries, governments, entities and persons, and complying with export control and sanctions regulations for a particular sale may be time-consuming and may result in the delay or loss of sales opportunities. While we take precautions to prevent our solution from being exported in violation of these laws or engaging in any other activities that are subject to these regulations, if we were to fail to comply with U.S. export laws, U.S. Customs regulations and import regulations, U.S. economic sanctions, and other countries’ import and export laws, we could be subject to substantial civil and criminal penalties, including fines for our company, incarceration for responsible employees, reputational harm, and/or the possible loss of export or import privileges which could impact our ability to provide our solution to customers. We incorporate encryption technology into certain of our products and certain encryption products may be exported outside of the United States only by a license or a license exception. In addition, various countries regulate the import of certain encryption technology, including import permitting and licensing requirements, and have enacted laws that could limit our ability to distribute our products or could limit our customers’ ability to deploy our products in those countries. Although we take precautions to prevent our products from being provided in violation of such laws, we cannot assure you that inadvertent violations of such laws have not occurred or will not occur in connection with the distribution of our products despite the precautions we take. Governmental regulation of encryption technology and regulation of imports or exports, or our failure to obtain required import or export approval for our products, could harm our international sales and adversely affect our operating results. Further, if our partners, including suppliers, fail to obtain required import, export, or re-export licenses or permits, we may also be impacted by becoming the subject of government investigations or penalties and therefore incur reputational harm. Changes in our solution or changes in export and import regulations may create delays in the introduction of our solution in international markets, prevent our customers with international operations from deploying our solution globally or, in some cases, prevent the export or import of our solution to certain countries, governments, or persons altogether. Any change in export or import laws or regulations, economic sanctions, or 64 related legislation, shift in the enforcement or scope of existing laws and regulations, or change in the countries, governments, persons, or technologies targeted by such laws and regulations, could result in decreased use of our solution by, or in our decreased ability to export or sell our solution to, existing or potential customers such as customers with international operations or customers who are added to the restricted entities list published by the U.S. Office of Foreign Assets Control (OFAC). Any decreased use of our solution or limitation on our ability to export or sell our solution would likely harm our business, financial condition, and operating results. The applicability of sales, use and other tax laws or regulations in the U.S. and internationally on our business is uncertain. Adverse tax laws or regulations could be enacted or existing laws could be applied to us or our customers, which could subject us to additional tax liability and related interest and penalties, increase the costs of our services and adversely impact our business. The application of federal, state, local, and non-U.S. tax laws to services provided electronically is evolving. New income, sales, use, value-added, or other direct or indirect tax laws, statutes, rules, regulations, or ordinances could be enacted at any time (possibly with retroactive effect), and could be applied solely or disproportionately to services provided over the Internet or could otherwise materially affect our financial position and results of operations. Many countries in the European Union, as well as a number of other countries and organizations such as the Organization for Economic Cooperation and Development, have proposed or recommended changes to existing tax laws or have enacted new laws that could impact our tax obligations. As we expand the scale of our international business activities, any changes in the U.S. or foreign taxation of such activities may increase our worldwide effective tax rate and harm our business, results of operations, and financial condition. In addition, state, local, and foreign tax jurisdictions have differing rules and regulations governing sales, use, value-added, and other taxes, and these rules and regulations can be complex and are subject to varying interpretations that may change over time. Existing tax laws, statutes, rules, regulations, or ordinances could be interpreted, changed, modified, or applied adversely to us (possibly with retroactive effect), which could require us or our customers to pay additional tax amounts on prior sales and going forward, as well as require us or our customers to pay fines or penalties and interest for past amounts. Although our customer contracts typically provide that our customers must pay all applicable sales and similar taxes, our customers may be reluctant to pay back taxes and associated interest or penalties, or we may determine that it would not be commercially feasible to seek reimbursement. If we are required to collect and pay back taxes and associated interest and penalties, or we are unsuccessful in collecting such amounts from our customers, we could incur potentially substantial unplanned expenses, thereby adversely impacting our operating results and cash flows. Imposition of such taxes on our services going forward could also adversely affect our sales activity and have a negative impact on our operating results and cash flows. Our reported financial results may be adversely affected by changes in accounting principles generally accepted in the United States. Generally Accepted Accounting Principles (GAAP) is subject to interpretation by the Financial Accounting Standards Board (FASB), the SEC, and various bodies formed to promulgate and interpret appropriate accounting principles. A change in these principles or interpretations could have a significant effect on our reported financial results, and could affect the reporting of transactions completed before the announcement of a change. Any difficulties in implementing these pronouncements, including those described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements of the Notes to Condensed Consolidated Financial Statements , could cause us to fail to meet our financial reporting obligations, which could result in regulatory discipline and harm investors' confidence in us. Risks Related to Ownership of Our Class A Common Stock The stock price of our Class A common stock has been and may continue to be volatile, and you could lose all or part of your investment. The market price of our Class A common stock since our initial public offering in 2018 has been and may continue to be volatile. In addition to factors discussed in this Form 10-Q, the market price of our Class A common stock may fluctuate significantly in response to numerous factors, many of which are beyond our control, includin • overall performance of the equity markets; 65 • actual or anticipated fluctuations in our revenue and other operating results; • changes in the financial projections we may provide to the public or our failure to meet these projections; • failure of securities analysts to initiate or maintain coverage of us, changes in financial estimates by any securities analysts who follow our company, or our failure to meet these estimates or the expectations of investors; • recruitment or departure of key personnel; • the economy as a whole and market conditions in our industry; • negative publicity related to the real or perceived quality of our solution, as well as the failure to timely launch new products and services that gain market acceptance; • growth of the Subscription Economy; • rumors and market speculation involving us or other companies in our industry; • announcements by us or our competitors of new products, commercial relationships, or significant technical innovations; • acquisitions, strategic partnerships, joint ventures, or capital commitments; • new laws or regulations or new interpretations of existing laws or regulations applicable to our business; • lawsuits threatened or filed against us, litigation involving our industry, or both; • developments or disputes concerning our or other parties’ products, services, or intellectual property rights; • the inclusion of our Class A common stock on stock market indexes, including the impact of rules adopted by certain index providers, such as S&P Dow Jones Indices and FTSE Russell, that limit or preclude inclusion of companies with multi-class capital structures; • changes in accounting standards, policies, guidelines, interpretations, or principles; • other events or factors, including those resulting from war, incidents of terrorism, or responses to these events, including the ongoing conflict in Ukraine; • the impact of catastrophic events such as natural disasters or pandemics on the global macroeconomy, our operating results and enterprise technology spending; • sales of shares of our Class A common stock by us or our stockholders; • inflation; • fluctuations in interest rates; and • instability of the U.S. or international banking system. In addition, the stock markets have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many companies, particularly during the current period of macroeconomic uncertainty, including rising inflation, increasing interest rates and fluctuations in international currency rates, bank failures, debt ceiling negotiations, as well as the impacts of the current conflict in Ukraine. Stock prices of many companies, and technology companies in particular, have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. These economic, political, regulatory and market conditions have and may continue to negatively impact the market price of our common stock. Volatility in our stock price also affects the value of our equity compensation, which affects our ability to recruit and retain employees. If we fail to meet expectations related to future growth, profitability, or other market expectations, our stock price may decline further, which could have a material adverse effect on investor confidence and employee retention. In addition, some companies that have experienced volatility in the market price of their securities have been subject to shareholder litigation. We have been and are currently subject to shareholder litigation, which is described in Note 13. Commitments and Contingencies of the Notes to Condensed Consolidated Financial Statements . This or any future shareholder litigation could subject us to substantial costs, divert resources and the attention of management from our business, and adversely affect our business. 66 The market price of our Class A common stock could decline as a result of a substantial number of shares of our Class A common stock being issued or sold, which may make it more difficult for you to sell your Class A common stock at a time and price that you deem appropriate. As of April 30, 2023, a total of 129.1 million shares of Class A common stock and 8.1 million shares of Class B common stock were outstanding. Issuances of a substantial number of shares of our Class A common stock, including as a result of the exercise or conversion into Class A common stock of outstanding convertible notes, warrants, equity awards, shares of Class B common stock or other securities, could result in significant dilution to our existing stockholders and cause the market price of our Class A common stock to decline. From time to time, we may issue shares of common stock or securities convertible into shares of common stock in connection with a financing, an acquisition, investments, or otherwise. For example, as described in Note 9. Debt of the Notes to Consolidated Financial Statements, on March 24, 2022 (Initial Closing Date), we issued to Silver Lake convertible notes in the aggregate principal amount of $250.0 million as well as warrants to purchase up to 7.5 million shares of Class A common stock, and we have agreed to issue additional convertible notes in the aggregate principal amount of $150.0 million to Silver Lake 18 months after the Initial Closing Date (or sooner under certain conditions). In addition, under certain circumstances, the number of shares issuable upon conversion of the convertible notes or exercise of the Warrants may be subject to increase, as described in Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock of the Notes to Condensed Consolidated Financial Statements . The conversion of these convertible notes or exercise of these Warrants could result in a substantial number of shares of our Class A common stock being issued. Silver Lake is generally restricted from converting the convertible notes or exercising the Warrants, or transferring them, during the 18 month period following the Initial Closing Date, except in certain circumstances. In addition, we grant equity awards to employees, directors, and consultants under our 2018 Equity Incentive Plan on an ongoing basis and our employees have the right to purchase shares of our Class A common stock semi-annually under our 2018 Employee Stock Purchase Plan. As of April 30, 2023, there were a total of 22.1 million shares of Class A common stock subject to outstanding options and restricted stock units (RSUs), including performance stock units (PSUs). Subject to vesting and other applicable requirements, the shares issued upon the exercise of such options or settlement of such RSUs will be available for resale in the open market. Moreover, the market price of our Class A common stock could decline as a result of sales of a large number of shares of our Class A common stock in the market, particularly sales by our directors, executive officers and significant stockholders. The perception that these sales might occur may also cause the market price of our Class A common stock to decline. We also have granted and may grant from time to time certain registration rights that, subject to certain conditions, require us to file registration statements for the public resale of certain securities or to include such securities in registration statements that we may file on behalf of our company or other stockholders. If securities or industry analysts do not publish research, or publish inaccurate or unfavorable research, about our business, the price of our Class A common stock and trading volume could decline. The trading market for our Class A common stock depends in part on the research and reports that securities or industry analysts publish about us or our business. If few securities analysts commence coverage of us, or if industry analysts cease coverage of us, the trading price for our Class A common stock could be negatively affected. If one or more of the analysts who cover us downgrade our Class A common stock or publish inaccurate or unfavorable research about our business, the price of our Class A common stock would likely decline. If one or more of these analysts cease coverage of us or fail to publish reports on us regularly, demand for our Class A common stock could decrease, which might cause our Class A common stock price and trading volume to decline. Even if our stock is actively covered by analysts, we do not have any control over the analysts or the measures that analysts or investors may rely upon to forecast our future results. For example, in order to assess our business activity in a given period, analysts and investors may look at the combination of revenue and changes in deferred revenue in a given period (sometimes referred to as “billings”). Over-reliance on billings or similar measures may result in analyst or investor forecasts that differ significantly from our own for a variety of reasons, includin • a relatively large number of transactions occur at the end of the quarter. Invoicing of those transactions may or may not occur before the end of the quarter based on a number of factors including receipt of 67 information from the customer, volume of transactions, and holidays. A shift of a few days has little economic impact on our business, but will shift deferred revenue from one period into the next; • a shift in billing frequency (i.e., from monthly to quarterly or from quarterly to annually), which may distort trends; • subscriptions that have deferred start dates; and • services that are invoiced upon delivery. In addition, the revenue recognition disclosure obligations under Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers (Topic 606) are prepared on the basis of estimates that can change over time and on the basis of events over which we have no control. It is possible that analysts and investors may misinterpret our disclosure or that our methods for estimating this disclosure may differ significantly from others, which could lead to inaccurate or unfavorable forecasts by analysts and investors. The dual class structure of our common stock has the effect of concentrating voting control with holders of our Class B common stock, including our CEO, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. Our common stock consists of two classes, including our Class B common stock, which has ten votes per share, and our Class A common stock, which has one vote per share. As of April 30, 2023, our Class B common stock holds approximately 38% of the total voting power of our common stock, with our CEO and his affiliates holding substantially all of our Class B common stock. As a result, the holders of our Class B common stock, including our CEO, could substantially influence all matters submitted to our stockholders for approval until the earlier of (i) the date specified by a vote of the holders of 66 2/3% of the outstanding shares of Class B common stock, (ii) April 16, 2028, and (iii) the date the shares of Class B common stock cease to represent at least 5% of all outstanding shares of our common stock (such date referred to as the "Class B expiration"). Until the Class B expiration, the concentrated influence held by our Class B common stock limits or precludes your ability to influence corporate matters, including the election of directors, amendments of our organizational documents, and any merger, consolidation, sale of all or substantially all of our assets, or other major corporate transaction requiring stockholder approval. In addition, this may prevent or discourage unsolicited acquisition proposals or offers for our capital stock that you may feel are in your best interest as one of our stockholders. Future transfers by holders of Class B common stock will generally result in those shares converting to Class A common stock, subject to limited exceptions, such as certain permitted transfers effected for estate planning purposes. The conversion of Class B common stock to Class A common stock will have the effect, over time, of increasing the relative voting power of those holders of Class B common stock who retain their shares in the long term. The dual class structure of our common stock may adversely affect the trading market for our Class A common stock. Stock index providers, such as FTSE Russell, exclude or limit the eligibility of public companies with multiple classes of shares of common stock for certain indices. In addition, several shareholder advisory firms have announced their opposition to the use of multiple class structures. As a result, the dual class structure of our common stock may prevent the inclusion of our Class A common stock in such indices and may cause shareholder advisory firms to publish negative commentary about our corporate governance practices or otherwise seek to cause us to change our capital structure. Any such exclusion from indices could result in a less active trading market for our Class A common stock. Any actions or publications by shareholder advisory firms critical of our corporate governance practices or capital structure could also adversely affect the value of our Class A common stock. 68 We do not intend to pay dividends for the foreseeable future. We have never declared or paid any cash dividends on our common stock and do not intend to pay any cash dividends in the foreseeable future. Additionally, our ability to pay dividends on our common stock is limited by restrictions under the terms of our credit facility with SVB. We anticipate that for the foreseeable future we will retain all of our future earnings for use in the development of our business and for general corporate purposes. Any determination to pay dividends in the future will be at the discretion of our Board of Directors. Accordingly, investors must rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize any future gains on their investments. Provisions in our charter documents and under Delaware law could make an acquisition of our company more difficult, limit attempts by our stockholders to replace or remove our current management, limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees, and limit the market price of our Class A common stock. Provisions in our restated certificate of incorporation and amended and restated bylaws may have the effect of delaying or preventing a change of control or changes in our management. Our restated certificate of incorporation and amended and restated bylaws include provisions tha • provide that our Board of Directors will be classified into three classes of directors with staggered three-year terms; • permit the Board of Directors to establish the number of directors and fill any vacancies and newly-created directorships; • require supermajority voting to amend some provisions in our restated certificate of incorporation and amended and restated bylaws; • authorize the issuance of “blank check” preferred stock that our Board of Directors could use to implement a stockholder rights plan; • provide that only the chairman of our Board of Directors, our chief executive officer, lead independent director, or a majority of our Board of Directors will be authorized to call a special meeting of stockholders; • provide for a dual class common stock structure in which holders of our Class B common stock may have the ability to control the outcome of matters requiring stockholder approval, even if they own significantly less than a majority of the outstanding shares of our common stock, including the election of directors and significant corporate transactions, such as a merger or other sale of our company or its assets; • prohibit stockholder action by written consent, which requires all stockholder actions to be taken at a meeting of our stockholders; • provide that the Board of Directors is expressly authorized to make, alter, or repeal our bylaws; and • establish advance notice requirements for nominations for election to our Board of Directors or for proposing matters that can be acted upon by stockholders at annual stockholder meetings. In addition, our restated certificate of incorporation provides that, to the fullest extent permitted by law, the Court of Chancery of the State of Delaware is the exclusive forum any derivative action or proceeding brought on our behalf; any action asserting a breach of fiduciary duty; any action asserting a claim against us arising pursuant to the Delaware General Corporation Law, or DGCL, our restated certificate of incorporation, or our amended and restated bylaws; or any action asserting a claim against us that is governed by the internal affairs doctrine. This exclusive forum provision does not apply to suits brought to enforce a duty or liability created by the Exchange Act. It would apply, however, to a suit that falls within one or more of the categories enumerated in the exclusive forum provision. Section 22 of the Securities Act of 1933, as amended (Securities Act), creates concurrent jurisdiction for federal and state courts over all claims brought to enforce any duty or liability created by the Securities Act or the rules and regulations thereunder. Our bylaws provide that the federal district courts of the United States of America will, to the fullest extent permitted by law, be the exclusive forum for resolving any complaint asserting a cause of action arising under the Securities Act (Federal Forum Provision). Our decision to adopt a Federal Forum Provision 69 followed a decision by the Supreme Court of the State of Delaware holding that such provisions are facially valid under Delaware law. While there can be no assurance that federal or state courts will follow the holding of the Delaware Supreme Court or determine that the Federal Forum Provision should be enforced in a particular case, application of the Federal Forum Provision means that suits brought by our stockholders to enforce any duty or liability created by the Securities Act must be brought in federal court and cannot be brought in state court. Section 27 of the Exchange Act creates exclusive federal jurisdiction over all claims brought to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder. In addition, neither the exclusive forum provision nor the Federal Forum Provision applies to suits brought to enforce any duty or liability created by the Exchange Act. Accordingly, actions by our stockholders to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder must be brought in federal court. Our stockholders will not be deemed to have waived our compliance with the federal securities laws and the regulations promulgated thereunder. Any person or entity purchasing or otherwise acquiring or holding any interest in any of our securities shall be deemed to have notice of and consented to our exclusive forum provisions, including the Federal Forum Provision. These provisions may limit a stockholders’ ability to bring a claim in a judicial forum of their choosing for disputes with us or our directors, officers, or other employees, which may discourage lawsuits against us and our directors, officers, and other employees. Moreover, Section 203 of the DGCL may discourage, delay, or prevent a change of control of our company. Section 203 imposes certain restrictions on mergers, business combinations, and other transactions between us and holders of 15% or more of our common stock. General Risk Factors Political developments, economic uncertainty or downturns could adversely affect our business and operating results. Political developments impacting government spending and international trade, including future government shutdowns in the United States, debt ceiling negotiations, armed conflict such as the conflict in Ukraine, trade disputes and tariffs, inflation, and rising interest rates, may negatively impact markets and cause weaker macroeconomic conditions. The continuing effect of any or all of these political or other uncertainties could adversely impact demand for our products, harm our operations and weaken our financial results. In addition, in recent years, the United States and other significant markets have experienced cyclical downturns and worldwide economic conditions remain uncertain. Economic uncertainty and associated macroeconomic conditions, such as a recession or rising inflation rates or economic slowdown in the United States or internationally, including due to the ongoing conflict in Ukraine, make it extremely difficult for our customers and us to accurately forecast and plan future business activities, and could cause our customers to slow spending on our solution, which could delay and lengthen sales cycles. Furthermore, during uncertain economic times our customers may face issues gaining timely access to sufficient credit, which could result in an impairment of their ability to make timely payments to us. If that were to occur, we may be required to increase our allowance for credit losses and our results could be negatively impacted. We have customers in a variety of different industries. A significant downturn in the economic activity attributable to any particular industry may cause organizations to react by reducing their capital and operating expenditures in general or by specifically reducing their spending on information technology. In addition, our customers may delay or cancel information technology projects or seek to lower their costs by renegotiating vendor contracts. To the extent purchases of our solution are perceived by customers and potential customers to be discretionary, our revenue may be disproportionately affected by delays or reductions in general information technology spending. Also, customers may choose to develop in-house software or modify their legacy business software as an alternative to using our solution. Moreover, competitors may respond to challenging market conditions by lowering prices and attempting to lure away our customers. We cannot predict the timing, strength, or duration of any economic slowdown or any subsequent recovery generally, or any industry in particular. If the conditions in the general economy and the markets in which we operate worsen from present levels, our business, financial condition, and operating results could be materially adversely affected. 70 Moreover, there has been recent instability of the global banking system. Continued disruptions in the banking system, both in the U.S. or abroad, may impact our or our customers’ liquidity and, as a result, negatively impact our business and operating results. The requirements of being a public company may strain our resources, divert management’s attention, and affect our ability to attract and retain additional executive management and qualified board members. As a public company, we are subject to the reporting requirements of the Exchange Act, the Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley Act), the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the listing requirements of the New York Stock Exchange, and other applicable securities rules and regulations. Compliance with these rules and regulations are costly, time-consuming, and can require significant resources. Although we have already hired additional employees and outside consultants to comply with these requirements, we may need to add additional resources, which would increase our costs and expenses. In addition, changing laws, regulations, and standards relating to corporate governance and public disclosure are creating uncertainty for public companies, increasing legal and financial compliance costs, and making some activities more time consuming. For example, expected SEC rules on climate-related disclosures may require us to update our policies, processes or systems to reflect new or amended financial reporting standards. These laws, regulations, and standards, if and when adopted, are subject to varying interpretations, in many cases due to their lack of specificity, and, as a result, their application in practice may evolve over time as market practice develops or new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. If our efforts to comply with new laws, regulations, and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to their application and practice, regulatory authorities may initiate legal proceedings against us, and our business, financial position, and operating results or our revenue and operating profit targets may be adversely affected. The rules and regulations applicable to public companies make it more expensive for us to obtain and maintain director and officer liability insurance, and we may be required to accept reduced coverage or incur substantially higher costs to obtain coverage. These factors could also make it more difficult for us to attract and retain qualified members of our Board of Directors, particularly to serve on our audit committee and compensation committee, and qualified executive officers. As a result of disclosure of information in our public company filings, our business and financial condition is more visible, which may result in threatened or actual litigation, including by competitors and other third parties. If such claims are successful, our business and operating results could be adversely affected, and even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the resources of our management and adversely affect our business and operating results. In addition, as a result of our disclosure obligations as a public company, we have reduced flexibility and are under pressure to focus on short-term results, which may adversely affect our ability to achieve long-term profitability. If we fail to maintain an effective system of disclosure controls and internal control over financial reporting, our ability to produce timely and accurate financial statements or comply with applicable regulations could be impaired. As a public company, we are required, pursuant to Section 404 of the Sarbanes-Oxley Act, to furnish a report by management on, among other things, the effectiveness of our internal control over financial reporting. Effective internal control over financial reporting is necessary for us to provide reliable financial reports and, together with adequate disclosure controls and procedures, are designed to prevent fraud. Any failure to implement required new or improved controls, or difficulties encountered in their implementation, could cause us to fail to meet our reporting obligations. Ineffective internal controls could also cause investors to lose confidence in our reported financial information, which could have a negative effect on the trading price of our Class A common stock. This management report will need to include disclosure of any material weaknesses identified by our management in our internal control over financial reporting, as well as a statement that our independent registered public accounting firm has issued an opinion on our internal control over financial reporting. 71 Section 404(b) of the Sarbanes-Oxley Act requires our independent registered public accounting firm to annually attest to the effectiveness of our internal control over financial reporting, which has required, and will continue to require, increased costs, expenses, and management resources. An independent assessment of the effectiveness of our internal controls could detect problems that our management’s assessment might not. Undetected material weaknesses in our internal controls could lead to financial statement restatements and require us to incur the expense of remediation. We are required to disclose changes made in our internal controls and procedures on a quarterly basis. To comply with the requirements of being a public company, we have undertaken, and may need to further undertake in the future, various actions, such as implementing new internal controls and procedures and hiring additional accounting or internal audit staff. If we are unable to assert that our internal control over financial reporting is effective, or if our independent registered public accounting firm is unable to express an opinion on the effectiveness of our internal control, including as a result of any identified material weakness, we could lose investor confidence in the accuracy and completeness of our financial reports, which would cause the price of our Class A common stock to decline, and we may be subject to investigation or sanctions by the SEC. In addition, if we are unable to continue to meet these requirements, we may not be able to remain listed on the New York Stock Exchange. We may be adversely affected by natural disasters, pandemics, and other catastrophic events, and by man-made problems such as terrorism, that could disrupt our business operations. Our business continuity and disaster recovery plans may not adequately protect us from a serious disaster. Natural disasters, pandemics and epidemics, or other catastrophic events such as fire, power shortages, and other events beyond our control may cause damage or disruption to our operations, international commerce, and the global economy, and could have an adverse and material effect on our business, operating results, and financial condition. For example, as a result of the COVID-19 pandemic and its impacts on the global economy and financial markets, we experienced certain disruptions to our business operations, including delays and lengthening of our customary sales cycles, certain customers not purchasing or renewing our products or services, and requests for pricing and payment concessions by certain customers. As a result of the pandemic, we have also reduced our office footprint given that many of our employees continue to work remotely, and we incurred certain impairment charges related to office leases in the fourth quarter of fiscal 2023 as described in Note 12. Leases of the Notes to Condensed Consolidated Financial Statements , and may incur additional impairment charges in future periods if we are unable to sublease available office space at our corporate headquarters in California on acceptable terms. In the event of a significant resurgence of COVID-19 pandemic or other future public health crisis, we could experience similar or more significant impacts to our operations, which may adversely impact our business, financial condition and operating results. More generally, a public health crisis or other catastrophic event could adversely affect economies and financial markets and lead to an economic downturn, which could harm our business, financial condition, and operating results. In the event of a natural disaster, including a major earthquake, blizzard, wildfire, or hurricane, or other catastrophic event such as a fire, power loss, or telecommunications failure, we may be unable to continue our operations and may endure system interruptions, reputational harm, delays in development of our solution, lengthy interruptions in service, breaches of data security, and loss of critical data, all of which could have an adverse effect on our future operating results. For example, our corporate headquarters is located in California, a state that frequently experiences earthquakes and wildfires. Additionally, all the aforementioned risks may be further increased if we do not implement an effective disaster recovery plan or our partners’ disaster recovery plans prove to be inadequate. Investors’ expectations of our performance relating to environmental, social, and governance factors may expose us to new risks and require us to incur additional costs . Corporate responsibility, including environmental, social and governance (ESG) factors, is increasingly becoming a focus from certain investors, employees, and other stakeholders. Some investors may use these factors to guide their investment strategies and, in some cases, may choose not to invest in us if they believe our corporate responsibility policies are inadequate. Third-party providers of corporate responsibility ratings and reports on companies have increased to meet growing investor demand for measurement of corporate responsibility performance. The criteria by which companies’ corporate responsibility practices are assessed may require significant expenditures. In May 2022, we announced our commitment to remain carbon neutral going forward, including by purchasing carbon offsets in future years, which may become increasingly more expensive. In addition, the corporate responsibility criteria could change, which could result in greater expectations of us and cause us to 72 undertake more costly initiatives to satisfy such new criteria. If we elect not to or are unable to satisfy such new criteria, investors may conclude that our policies with respect to corporate responsibility are inadequate. We may face reputational damage in the event that our corporate responsibility procedures or standards do not meet the standards set by various constituencies. Furthermore, if our competitors’ corporate responsibility performance is perceived to be greater than ours, potential or current investors may elect to invest with our competitors instead. In addition, in the event that we communicate certain initiatives and goals regarding ESG matters, we could fail, or be perceived to fail, in our achievement of such initiatives or goals, or we could be criticized for the scope of such initiatives or goals. If we fail to satisfy the expectations of investors, employees, and other stakeholders, or, if our initiatives are not executed as planned, our reputation and business, operating results, and financial condition could be adversely impacted. Item 2. Unregistered Sales of Equity Securities and Use of Proceeds Not Applicable. 73 Item 6. Exhibits. Exhibit Number Incorporated By Reference Filed or Furnished Herewith Exhibit Description Form File No. Exhibit Filing Date 31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Exchange Act X 31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Exchange Act X 32.1* Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 X 32.2* Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 X 101.INS Inline XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document X 101.SCH Inline XBRL Taxonomy Extension Schema Document X 101.CAL Inline XBRL Taxonomy Extension Calculation Linkbase Document X 101.DEF Inline XBRL Taxonomy Extension Definition Linkbase Document X 101.LAB Inline XBRL Taxonomy Extension Label Linkbase Document X 101.PRE Inline XBRL Taxonomy Extension Presentation Linkbase Document X 104 Cover Page Interactive Data File (embedded within the Inline XBRL document and included in Exhibit 101). X * The certifications furnished in Exhibits 32.1 and 32.2 hereto are deemed to accompany this Form 10-Q and are not deemed “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, nor shall they be deemed incorporated by reference into any filing under the Securities Act or the Exchange Act. 74 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZUORA, INC. Date: June 1, 2023 By: /s/ Todd McElhatton Todd McElhatton Chief Financial Officer (Principal Accounting and Financial Officer) |
Washington, DC 20549 _____________________________ FORM 10-Q _____________________________ (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended July 31, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to __________ Commission File Numbe 001-38451 _____________________________ Zuora, Inc . (Exact name of registrant as specified in its charter) _____________________________ Delaware 20-5530976 (State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification Number) 101 Redwood Shores Parkway , Redwood City , California 94065 (Address of principal executive offices) (Zip Code) ( 888 ) 976-9056 (Registrant’s telephone number, including area code) Not Applicable (Former name, former address and former fiscal year, if changed since last report) _____________________________ Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name on each exchange on which registered Class A common stock, par value $0.0001 per share ZUO New York Stock Exchange Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☒ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ As of July 31, 2023, the number of shares of the Registrant ’ s Class A common stock outstanding was 132.4 million and the number of shares of the Registrant ’ s Class B common stock outstanding was 8.1 million. Page PART I. FINANCIAL INFORMATION 3 Item 1. Financial Statements (unaudited) 3 Condensed Consolidated Balance Sheets as of July 31, 2023 and January 31, 2023 3 Condensed Consolidated Statements of Comprehensive Loss for the Three and Six Months Ended July 31, 2023 and 2022 4 Condensed Consolidated Statements of Stockholders' Equity for the Three and Six Months Ended July 31, 2023 and 2022 5 Condensed Consolidated Statements of Cash Flows for the Six Months Ended July 31, 2023 and 2022 7 Notes to Unaudited Condensed Consolidated Financial Statements 8 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 24 Item 3. Quantitative and Qualitative Disclosures About Market Risk 42 Item 4. Controls and Procedures 43 PART II. OTHER INFORMATION 44 Item 1. Legal Proceedings 44 Item 1A. Risk Factors 44 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 77 Item 5. Other Information 77 Item 6. Exhibits 79 Signatures 80 SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS Unless the context otherwise requires, references in this Quarterly Report on Form 10-Q (Form 10-Q) to “Zuora,” “Company,” “our,” “us,” and “we” refer to Zuora, Inc. and, where appropriate, its consolidated subsidiaries. Our fiscal year end is January 31. References to “fiscal” followed by the year refer to the fiscal year ended January 31 for the referenced year. This Form 10-Q contains forward-looking statements within the meaning of the federal securities laws. All statements contained in this Form 10-Q, other than statements of historical fact, including statements regarding our future operating results and financial position, our business strategy and plans, market growth, and our objectives for future operations, are forward-looking statements. Words such as “believes,” “may,” “will,” “estimates,” “potential,” “continues,” “anticipates,” “intends,” “expects,” “could,” “would,” “projects,” “plans,” “targets,” and variations of such words and similar expressions are intended to identify forward-looking statements. Forward-looking statements contained in this Form 10-Q include, but are not limited to, statements about our expectations regardin • trends in revenue, cost of revenue, and gross margin; • economic uncertainty and associated trends in macroeconomic conditions, including the effects of recession, inflation, rising interest rates, bank failures and debt ceiling negotiations; • currency exchange rate fluctuations; • trends and expectations in our operating and financial metrics, including customers with annual contract value equal to or greater than $250,000, dollar-based retention rate, annual recurring revenue, and growth of and within our customer base; • future acquisitions, the anticipated benefits of such acquisitions and our ability to integrate the operations and technology of any acquired company, including our acquisition of Zephr Inc Limited (Zephr); • industry trends, projected growth, or trend analysis, including the shift to subscription business models; • our investments in our platform and the cost of third-party hosting fees; • the expansion and functionality of our technology offering, including expected benefits of such products and technology, and our ability to further penetrate our customer base; • trends in operating expenses, including research and development expense, sales and marketing expense, and general and administrative expense, and expectations regarding these expenses as a percentage of revenue; • our liquidity being sufficient to meet our working capital and capital expenditure needs for at least the next 12 months; • the impact of actions that we are taking to improve operational efficiencies and operating costs; • legal proceedings, including expectations regarding final court approval of the settlement of our shareholder litigation and the receipt of insurance proceeds related to such litigation; • future issuances of our senior unsecured notes; • instability in the U.S. and international banking systems; and • other statements regarding our future operations, financial condition, prospects and business strategies, including our ability to sublease office space at our corporate headquarters in California. Such forward-looking statements are based on our expectations as of the date of this filing and are subject to a number of risks, uncertainties and assumptions, including but not limited to, risks detailed in the “Risk Factors” section of this Form 10-Q. Readers are urged to carefully review and consider the various disclosures made in this Form 10-Q and in other documents we file from time to time with the Securities and Exchange Commission (SEC) that disclose risks and uncertainties that may affect our business. Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time. It is not possible for us to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties and assumptions, the future events and circumstances discussed in this Form 1 10-Q may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements. You should not rely upon forward-looking statements as predictions of future events. The events and circumstances reflected in the forward-looking statements may not be achieved or occur. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, performance or achievements. In addition, the forward-looking statements in this Form 10-Q are made as of the date of this filing, and we do not undertake, and expressly disclaim any duty, to update such statements for any reason after the date of this Form 10-Q or to conform statements to actual results or revised expectations, except as required by law. 2 PART I—FINANCIAL INFORMATION Item 1. Financial Statements ZUORA, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (in thousands) (unaudited) July 31, 2023 January 31, 2023 Assets Current assets: Cash and cash equivalents $ 323,281 $ 203,239 Short-term investments 82,953 183,006 Accounts receivable, net of allowance for credit losses of $ 2,117 and $ 4,001 as of July 31, 2023 and January 31, 2023, respectively 81,225 91,740 Deferred commissions, current portion 15,330 16,282 Prepaid expenses and other current assets 26,124 24,285 Total current assets 528,913 518,552 Property and equipment, net 25,915 27,159 Operating lease right-of-use assets 26,628 22,768 Purchased intangibles, net 11,724 13,201 Deferred commissions, net of current portion 27,013 28,250 Goodwill 57,148 53,991 Other assets 4,511 4,677 Total assets $ 681,852 $ 668,598 Liabilities and stockholders’ equity Current liabiliti Accounts payable $ 1,016 $ 1,073 Accrued expenses and other current liabilities 98,770 103,678 Accrued employee liabilities 30,355 30,483 Deferred revenue, current portion 164,564 167,145 Operating lease liabilities, current portion 7,895 9,240 Total current liabilities 302,600 311,619 Long-term debt 214,401 210,403 Deferred revenue, net of current portion 1,175 442 Operating lease liabilities, net of current portion 39,865 37,924 Deferred tax liabilities 3,720 3,717 Other long-term liabilities 7,364 7,333 Total liabilities 569,125 571,438 Commitments and contingencies (Note 13) Stockholders’ equity: Class A common stock 13 13 Class B common stock 1 1 Additional paid-in capital 917,081 859,482 Accumulated other comprehensive loss ( 1,094 ) ( 919 ) Accumulated deficit ( 803,274 ) ( 761,417 ) Total stockholders’ equity 112,727 97,160 Total liabilities and stockholders’ equity $ 681,852 $ 668,598 See notes to unaudited condensed consolidated financial statements. 3 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (in thousands, except per share data) (unaudited) Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Reve Subscription $ 95,473 $ 83,811 $ 185,184 $ 162,311 Professional services 12,575 14,964 25,959 29,663 Total revenue 108,048 98,775 211,143 191,974 Cost of reve Subscription 21,338 19,572 41,926 38,297 Professional services 16,443 19,077 33,201 36,587 Total cost of revenue 37,781 38,649 75,127 74,884 Gross profit 70,267 60,126 136,016 117,090 Operating expens Research and development 26,256 26,354 51,924 49,226 Sales and marketing 42,799 45,146 84,243 85,603 General and administrative 19,451 18,816 38,267 36,106 Total operating expenses 88,506 90,316 174,434 170,935 Loss from operations ( 18,239 ) ( 30,190 ) ( 38,418 ) ( 53,845 ) Change in fair value of warrant liability ( 4,786 ) 4,524 ( 4,756 ) 8,896 Interest expense ( 4,607 ) ( 4,419 ) ( 8,994 ) ( 6,203 ) Interest and other income (expense), net 5,657 704 11,367 ( 1,089 ) Loss before income taxes ( 21,975 ) ( 29,381 ) ( 40,801 ) ( 52,241 ) Income tax provision 587 529 1,056 837 Net loss ( 22,562 ) ( 29,910 ) ( 41,857 ) ( 53,078 ) Comprehensive l Foreign currency translation adjustment ( 404 ) ( 316 ) ( 687 ) ( 675 ) Unrealized gain (loss) on available-for-sale securities 172 ( 278 ) 512 ( 676 ) Comprehensive loss $ ( 22,794 ) $ ( 30,504 ) $ ( 42,032 ) $ ( 54,429 ) Net loss per share, basic and diluted $ ( 0.16 ) $ ( 0.23 ) $ ( 0.30 ) $ ( 0.41 ) Weighted-average shares outstanding used in calculating net loss per share, basic and diluted 138,605 130,280 137,417 129,384 See notes to unaudited condensed consolidated financial statements. 4 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (in thousands) (unaudited) Six Months Ended July 31, 2023 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Loss Deficit Equity Balance, January 31, 2023 127,384 $ 13 8,121 $ 1 $ 859,482 $ ( 919 ) $ ( 761,417 ) $ 97,160 Conversion of Class B common stock to Class A common stock 203 — ( 203 ) — — — — — Issuance of common stock upon exercise of stock options — — 201 — 962 — — 962 RSU releases 3,950 — — — — — — — Issuance of common stock under the ESPP 911 — — — 4,765 — — 4,765 Stock-based compensation — — — — 51,872 — — 51,872 Other comprehensive loss — — — — — ( 175 ) — ( 175 ) Net loss — — — — — — ( 41,857 ) ( 41,857 ) Balance, July 31, 2023 132,448 $ 13 8,119 $ 1 $ 917,081 $ ( 1,094 ) $ ( 803,274 ) $ 112,727 Three Months Ended July 31, 2023 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Loss Deficit Equity Balance, April 30, 2023 129,123 $ 13 8,121 $ 1 $ 885,243 $ ( 862 ) $ ( 780,712 ) $ 103,683 Conversion of Class B common stock to Class A common stock 107 — ( 107 ) — — — — — Issuance of common stock upon exercise of stock options — — 105 — 425 — — 425 RSU releases 2,307 — — — — — — — Issuance of common stock under the ESPP 911 — — — 4,765 — — 4,765 Stock-based compensation — — — — 26,648 — — 26,648 Other comprehensive loss — — — — — ( 232 ) — ( 232 ) Net loss — — — — — — ( 22,562 ) ( 22,562 ) Balance, July 31, 2023 132,448 $ 13 8,119 $ 1 $ 917,081 $ ( 1,094 ) $ ( 803,274 ) $ 112,727 See notes to unaudited condensed consolidated financial statements. 5 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (in thousands) (unaudited) Six Months Ended July 31, 2022 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Loss Deficit Equity Balance, January 31, 2022 119,008 $ 12 9,048 $ 1 $ 734,149 $ ( 108 ) $ ( 563,447 ) $ 170,607 Conversion of Class B common stock to Class A common stock 1,165 — ( 1,165 ) — — — — — Issuance of common stock upon exercise of stock options 49 — 239 — 1,522 — — 1,522 RSU releases 2,895 — — — — — — — Issuance of common stock under the ESPP 615 — — — 4,485 — — 4,485 Charitable donation of stock 101 — — — 1,000 — — 1,000 Stock-based compensation — — — — 51,038 — — 51,038 Issuance of warrants — — — — 18,442 — — 18,442 Other comprehensive loss — — — — — ( 1,351 ) — ( 1,351 ) Net loss — — — — — — ( 53,078 ) ( 53,078 ) Balance, July 31, 2022 123,833 $ 12 8,122 $ 1 $ 810,636 $ ( 1,459 ) $ ( 616,525 ) $ 192,665 Three Months Ended July 31, 2022 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Loss Deficit Equity Balance, April 30, 2022 121,133 $ 12 8,014 $ 1 $ 776,323 $ ( 865 ) $ ( 586,615 ) $ 188,856 Conversion of Class B common stock to Class A common stock 45 — ( 45 ) — — — — — Issuance of common stock upon exercise of stock options — — 153 — 615 — — 615 RSU releases 1,939 — — — — — — — Issuance of common stock under the ESPP 615 — — — 4,485 — — 4,485 Charitable donation of stock 101 — — — 1,000 — — 1,000 Stock-based compensation — — — — 28,213 — — 28,213 Other comprehensive loss — — — — — ( 594 ) — ( 594 ) Net loss — — — — — — ( 29,910 ) ( 29,910 ) Balance, July 31, 2022 123,833 $ 12 8,122 $ 1 $ 810,636 $ ( 1,459 ) $ ( 616,525 ) $ 192,665 See notes to unaudited condensed consolidated financial statements. 6 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) (unaudited) Six Months Ended July 31, 2023 2022 Cash flows from operating activiti Net loss $ ( 41,857 ) $ ( 53,078 ) Adjustments to reconcile net loss to net cash provided by operating activiti Depreciation, amortization and accretion 8,892 8,882 Stock-based compensation 51,872 51,038 Provision for credit losses 279 1,134 Donation of common stock to charitable foundation — 1,000 Amortization of deferred commissions 9,746 9,346 Reduction in carrying amount of right-of-use assets 3,116 4,070 Change in fair value of warrant liability 4,756 ( 8,896 ) Other 186 267 Changes in operating assets and liabiliti Accounts receivable 9,726 13,436 Prepaid expenses and other assets ( 4,317 ) ( 2,823 ) Deferred commissions ( 7,647 ) ( 10,629 ) Accounts payable ( 63 ) 692 Accrued expenses and other liabilities ( 5,102 ) 1,848 Accrued employee liabilities ( 128 ) ( 3,228 ) Deferred revenue ( 1,848 ) ( 4,404 ) Operating lease liabilities ( 7,630 ) ( 6,473 ) Net cash provided by operating activities 19,981 2,182 Cash flows from investing activiti Purchases of property and equipment ( 3,838 ) ( 6,084 ) Purchases of short-term investments ( 61,745 ) ( 195,685 ) Maturities of short-term investments 165,128 55,263 Cash paid for acquisition ( 4,524 ) — Net cash provided by (used in) investing activities 95,021 ( 146,506 ) Cash flows from financing activiti Proceeds from issuance of convertible senior notes, net of issuance costs — 233,901 Proceeds from issuance of common stock upon exercise of stock options 962 1,522 Proceeds from issuance of common stock under employee stock purchase plan 4,765 4,485 Principal payments on debt — ( 1,480 ) Net cash provided by financing activities 5,727 238,428 Effect of exchange rates on cash and cash equivalents ( 687 ) ( 675 ) Net increase in cash and cash equivalents 120,042 93,429 Cash and cash equivalents, beginning of period 203,239 113,507 Cash and cash equivalents, end of period $ 323,281 $ 206,936 Supplemental disclosure of non-cash investing and financing activiti Property and equipment purchases accrued or in accounts payable $ 6 $ 322 See notes to unaudited condensed consolidated financial statements. 7 ZUORA, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) Note 1. Overview and Basis of Presentation Description of Business Zuora, Inc. was incorporated in the state of Delaware in 2006 and began operations in 2007. Zuora’s fiscal year ends on January 31. Zuora is headquartered in Redwood City, California. Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the quote-to-cash and revenue recognition process, including quoting, billing, collections and revenue recognition, and improving the subscriber experience. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. On September 2, 2022, Zuora acquired Zephr, a leading subscription experience platform used by global digital publishing and media companies. Additional information regarding the Zephr acquisition is contained in our Annual Report on Form 10-K for the fiscal year ended January 31, 2023, filed with the Securities and Exchange Commission (SEC) on April 3, 2023 (Annual Report on Form 10-K). References to “Zuora”, “us”, “our”, or “we” in these notes refer to Zuora, Inc. and its subsidiaries on a consolidated basis. Basis of Presentation and Principles of Consolidation The accompanying unaudited condensed consolidated financial statements, which include the accounts of Zuora and its wholly owned subsidiaries, have been prepared in conformity with accounting principles generally accepted in the United States (GAAP) and applicable rules and regulations of the SEC regarding interim financial reporting. All intercompany balances and transactions have been eliminated in consolidation. The unaudited condensed consolidated balance sheet as of January 31, 2023 included herein was derived from the audited financial statements as of that date, but does not include all disclosures including certain notes required by GAAP on an annual reporting basis. The unaudited condensed consolidated financial statements reflect all normal recurring adjustments necessary to present fairly the balance sheets, statements of comprehensive loss, statements of cash flows and statements of stockholders' equity for the interim periods, but are not necessarily indicative of the results of operations to be anticipated for the full fiscal year ending January 31, 2024 or any future period. The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in our Annual Report on Form 10-K for the fiscal year ended January 31, 2023. Use of Estimates The preparation of unaudited condensed consolidated financial statements in conformity with GAAP requires management to make certain estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the unaudited condensed consolidated financial statements, as well as reported amounts of revenue and expenses during the reporting period. Actual results could differ materially from those estimates. Our most significant estimates and assumptions are related to revenue recognition with respect to the determination of the relative standalone selling prices for our services; the expected period of benefit over which deferred commissions are amortized; valuation of stock-based awards and our convertible senior notes and warrants; estimates of allowance for credit losses; estimates of the fair value of goodwill and long-lived assets when evaluating for impairments and for assets acquired from acquisitions; useful lives of intangibles and other long-lived 8 assets; and the valuation of deferred income tax assets and contingencies. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Accordingly, actual results may differ materially from these estimates under different assumptions or conditions. Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements Our significant accounting policies are discussed in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements in our Annual Report on Form 10-K. There have been no significant changes to these policies during the six months ended July 31, 2023. Note 3. Investments The amortized costs, unrealized gains and losses and estimated fair values of our short-term investments were as follows (in thousands): July 31, 2023 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 18,617 $ — $ ( 46 ) $ 18,571 Corporate bonds 7,995 — ( 18 ) 7,977 Commercial paper 56,405 — — 56,405 Total short-term investments $ 83,017 $ — $ ( 64 ) $ 82,953 January 31, 2023 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 34,865 $ — $ ( 377 ) $ 34,488 Corporate bonds 41,974 — ( 189 ) 41,785 Commercial paper 102,720 — — 102,720 Foreign government securities 4,023 — ( 10 ) 4,013 Total short-term investments $ 183,582 $ — $ ( 576 ) $ 183,006 There were no material realized gains or losses from sales of marketable securities that were reclassified out of accumulated other comprehensive loss into investment income during the three and six months ended July 31, 2023 and 2022. We had no significant unrealized losses on our available-for-sale securities as of July 31, 2023 and January 31, 2023, and we do not expect material credit losses on our current investments in future periods. All securities had stated effective maturities of less than one year as of July 31, 2023. 9 Note 4. Fair Value Measurements The accounting guidance for fair value measurements establishes a three-tier hierarchy, which prioritizes the inputs used in the valuation methodologies in measuring fair value as follows: Level input Input definition Level 1 Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets Level 2 Inputs other than quoted prices included within Level 1 that are observable for the asset or liability through corroboration with market data at the measurement date Level 3 Unobservable inputs that reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date In general, and where applicable, we use quoted prices in active markets for identical assets or liabilities to determine fair value. If quoted prices in active markets for identical assets or liabilities are not available to determine fair value, then we use quoted prices for similar assets and liabilities or inputs other than the quoted prices that are observable either directly or indirectly. The following tables summarize our fair value hierarchy for our financial assets and liabilities measured at fair value on a recurring basis (in thousands): July 31, 2023 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 247,500 $ — $ — $ 247,500 Treasury bills 24,864 — — 24,864 Total cash equivalents $ 272,364 $ — $ — $ 272,364 Short-term investments: U.S. government securities $ — $ 18,571 $ — $ 18,571 Corporate bonds — 7,977 — 7,977 Commercial paper — 56,405 — 56,405 Total short-term investments $ — $ 82,953 $ — $ 82,953 Liabiliti Warrant liability $ — $ — $ 7,585 $ 7,585 January 31, 2023 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 184,580 $ — $ — $ 184,580 Short-term investments: U.S. government securities $ — $ 34,488 $ — $ 34,488 Corporate bonds — 41,785 — 41,785 Commercial paper — 102,720 — 102,720 Foreign government securities — 4,013 — 4,013 Total short-term investments $ — $ 183,006 $ — $ 183,006 Liabiliti Warrant liability $ — $ — $ 2,829 $ 2,829 10 Changes in our Level 3 fair value measurements were as follows (in thousands): Warrant Liability Balance, January 31, 2023 $ 2,829 Change in fair value 4,756 Balance, July 31, 2023 $ 7,585 Additional information about the Warrant liability, including the fair value inputs, is included in Note 17. Warrants to Purchase Shares of Common Stock . The carrying amounts of certain financial instruments, including cash held in bank accounts, accounts receivable, accounts payable, and accrued expenses, approximate fair value due to their relatively short maturities. As of July 31, 2023, the net carrying amount of the Initial Notes, defined in Note 9. Debt , was $ 214.4 million, and the estimated fair value was $ 188.5 million. The fair value of the Initial Notes is classified as a Level 3 measurement. Additional information regarding the Initial Notes is included in Note 9. Debt . Note 5. Prepaid Expenses and Other Current Assets Prepaid expenses and other current assets consisted of the following (in thousands): July 31, 2023 January 31, 2023 Prepaid software subscriptions $ 7,651 $ 7,533 Taxes 4,234 3,860 Prepaid insurance 2,907 3,225 Insurance payments receivable 2,000 2,000 Contract assets 1,964 1,325 Deposits 1,510 1,168 Prepaid hosting costs 902 871 Other 4,956 4,303 Total $ 26,124 $ 24,285 11 Note 6. Property and Equipment, Net Property and equipment, net consisted of the following (in thousands): July 31, 2023 January 31, 2023 Software $ 35,520 $ 32,778 Leasehold improvements 15,267 15,254 Computer equipment 11,787 11,780 Furniture and fixtures 4,510 3,793 67,084 63,605 L accumulated depreciation and amortization ( 41,169 ) ( 36,446 ) Total $ 25,915 $ 27,159 The following table summarizes the capitalized internal-use software costs included within the Software line item in the table above (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Internal-use software costs capitalized during the period $ 1,654 $ 2,247 $ 2,698 $ 4,149 July 31, 2023 January 31, 2023 Total capitalized internal-use software, net of accumulated amortization $ 13,922 $ 14,138 The following table summarizes total depreciation and amortization expense related to property and equipment, including amortization of internal-use software, included primarily in General and administrative and Cost of subscription revenue in the accompanying unaudited condensed consolidated statements of comprehensive loss (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Total depreciation and amortization expense $ 2,444 $ 2,186 $ 4,982 $ 4,367 12 Note 7. Purchased Intangible Assets and Goodwill The following tables summarize the purchased intangible asset balances (in thousands): July 31, 2023 Gross Carrying Amount Accumulated Amortization Net Carrying Amount Developed technology $ 19,571 $ ( 10,192 ) $ 9,379 Customer relationships 5,187 ( 3,506 ) 1,681 Trade name 1,709 ( 1,045 ) 664 Total $ 26,467 $ ( 14,743 ) $ 11,724 January 31, 2023 Gross Carrying Amount Accumulated Amortization Net Carrying Amount Developed technology $ 19,571 $ ( 9,194 ) $ 10,377 Customer relationships 5,187 ( 3,225 ) 1,962 Trade name 1,709 ( 847 ) 862 Total $ 26,467 $ ( 13,266 ) $ 13,201 Purchased intangible assets are being amortized to Cost of subscription revenue in the accompanying unaudited condensed consolidated statements of comprehensive loss on a straight-line basis over their estimated useful lives ranging from three to ten years . The following table summarizes amortization expense recognized on purchased intangible assets during the periods indicated (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Purchased intangible assets amortization expense $ 738 $ 372 $ 1,476 $ 926 Estimated future amortization expense for purchased intangible assets as of July 31, 2023 was as follows (in thousands): Fiscal year endin 2024 (remainder of the year) $ 1,476 2025 2,509 2026 1,874 2027 1,561 2028 1,561 Thereafter 2,743 Total estimated amortization expense $ 11,724 The following table represents the changes to goodwill (in thousands): Goodwill Balance, January 31, 2023 $ 53,991 Effects of foreign currency translation 2,647 Other 510 Balance, July 31, 2023 $ 57,148 13 Note 8. Accrued Expenses and Other Current Liabilities Accrued expenses and other current liabilities consisted of the following (in thousands): July 31, 2023 January 31, 2023 Litigation settlement 1 $ 75,500 $ 75,000 Warrant liability 7,585 2,829 Accrued taxes 4,802 4,088 Accrued hosting and third-party licenses 4,374 4,374 Accrued outside services and consulting 1,311 3,507 Accrued interest 850 850 Accrued contingent consideration — 4,420 Other accrued expenses 1 4,348 8,610 Total $ 98,770 $ 103,678 _____________________________ (1) The litigation settlement accrual of $ 75.5 million as of July 31, 2023 represents the combined settlement of the federal and state securities class action litigation matters, which are pending final court approval, as compared to $ 76.0 million accrued as of January 31, 2023, of which $ 75.0 million was reported in "Litigation settlement" for the federal class action matter, and $ 1.0 million was reported in "Other accrued expenses" for the state class action matter. Refer to Note 13. Commitments and Contingencies for further information. Note 9. Debt 2029 Notes On March 24, 2022 (Initial Closing Date), we issued convertible senior notes (Initial Notes) in the aggregate principal amount of $ 250.0 million pursuant to an investment agreement (Investment Agreement) and indenture agreement (Indenture) to certain entities affiliated with Silver Lake Alpine II, L.P. (Silver Lake). Pursuant to the Investment Agreement, we agreed to issue additional convertible senior notes in the aggregate principal amount of $ 150.0 million (Additional Notes and together with the Initial Notes, the “2029 Notes”) in September 2023, with an earlier issuance upon our completion of a Material Acquisition that meets the conditions described in Section 2.02(a) of the Investment Agreement. In addition, in the event that a Change in Control (as defined in the Indenture) occurs prior to the Additional Notes being issued, the noteholder would have the right to receive, at the noteholder's election, the Additional Notes, a cash payment, or common stock, as described in Section 2.02(b) of the Investment Agreement. The Initial Notes and the Additional Notes, once issued, represent senior unsecured obligations of Zuora. As a condition of the Investment Agreement, we also issued warrants to Silver Lake to acquire up to 7.5 million shares of Class A common stock (Warrants). Refer to Note 17. Warrants to Purchase Shares of Common Stock for more information. The purchase price of the 2029 Notes is 98 % of the par value. The 2029 Notes bear interest at a rate of 3.95 % per annum, payable quarterly in cash, provided that we have the option to pay interest in kind at 5.50 % per annum. The 2029 Notes will mature on March 31, 2029, subject to earlier conversion or repurchase. The Initial Notes are convertible at Silver Lake’s option into shares of our Class A common stock at an initial conversion rate of 50.0 shares per $ 1,000 principal amount ($ 20.00 per share, representing 12.5 million shares of Class A common stock), subject to customary anti-dilution adjustments. Any 2029 Notes that are converted in connection with a Make-Whole Fundamental Change (as defined in the Indenture) are subject to an increase in the conversion rate under certain circumstances. With certain exceptions, upon a Fundamental Change, the holders of the 2029 Notes may require that we repurchase all or part of the principal amount of the 2029 Notes at a purchase price equal to the principal amount and accrued but unpaid interest outstanding, plus the total sum of all remaining scheduled interest payments through the remainder of the term of the 2029 Notes, at the 5.50 % paid in kind interest rate. At any time on or after the fifth anniversary of the Initial Closing Date, the holders of the 2029 Notes may require that we repurchase all or part of the principal amount of the Notes at a purchase price equal to the principal amount plus accrued interest through the date of repurchase. Upon certain events of default, the 2029 Notes may be declared due and payable 14 (or will automatically become so under certain events of default), at a purchase price equal to the principal amount plus accrued interest through the date of repurchase. We have no right to redeem the 2029 Notes prior to maturity. Pursuant to the Investment Agreement, without our prior written consent, Silver Lake is restricted from converting any 2029 Note, exercising any Warrant or transferring any 2029 Note or Warrant to parties other than affiliates or members of Silver Lake (with certain limited exceptions) for 18 months following the Initial Closing Date, or if sooner, upon the consummation of any Change in Control (as defined in the Investment Agreement) or entry into a definitive agreement for a transaction that, if consummated, would result in a Change in Control. The 2029 Notes debt discount is being amortized using the effective interest rate method over the five year expected life of the 2029 Notes (representing the period from the contract date to the earliest noncontingent put date of May 24, 2027) and reflects an effective interest rate of 8.5 %. The carrying value of the Initial Notes was classified as long-term and consisted of the following (in thousands): July 31, 2023 January 31, 2023 Initial Notes principal $ 250,000 $ 250,000 Unamortized debt discount ( 35,599 ) ( 39,597 ) Carrying value $ 214,401 $ 210,403 Interest expense related to the Initial Notes, included in Interest expense in the accompanying unaudited condensed consolidated statements of comprehensive loss, was as follows (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Contractual interest expense $ 2,469 $ 2,469 $ 4,938 $ 3,484 Amortization of debt discount 2,094 1,926 3,998 2,667 Total interest expense $ 4,563 $ 4,395 $ 8,936 $ 6,151 Debt Agreement We have a $ 30.0 million revolving credit facility, which is currently undrawn, under an agreement (Debt Agreement) with First Citizens Bank & Trust Company (assumed from Silicon Valley Bank). This credit facility matures in October 2025. The interest rate under the credit facility is equal to the prime rate published by the Wall Street Journal minus 1.00 %. We had no t drawn down any amounts under the facility as of July 31, 2023. Note 10. Deferred Revenue and Performance Obligations The following table summarizes revenue recognized during the period that was included in the deferred revenue balance at the beginning of each respective period (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Revenue recognized from deferred revenue $ 79,382 $ 77,680 $ 126,548 $ 115,461 As of July 31, 2023, total remaining non-cancellable performance obligations under our subscription contracts with customers was approximately $ 507.9 million and we expect to recognize revenue on approximately 58 % of these remaining performance obligations over the next 12 months. Remaining performance obligations under our professional services contracts as of July 31, 2023 were not material. 15 Note 11. Geographical Information Disaggregation of Revenue Revenue by country, based on the customer’s address at the time of sale, was as follows (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 United States $ 69,348 $ 64,808 $ 134,755 $ 124,227 Others 38,700 33,967 76,388 67,747 Total $ 108,048 $ 98,775 $ 211,143 $ 191,974 Percentage of revenue by geographic ar United States 64 % 66 % 64 % 65 % Other 36 % 34 % 36 % 35 % Other than the United States, no individual country exceeded 10% of total revenue for the three and six months ended July 31, 2023 and 2022. Long-lived assets Long-lived assets, which consist of property and equipment, net, deferred commissions, purchased intangible assets, net and operating lease right-of-use assets by geographic location, are based on the location of the legal entity that owns the asset. As of July 31, 2023 and January 31, 2023, no individual country exceeded 10% of total long-lived assets other than the United States. Note 12. Leases We have non-cancelable operating leases for our offices located in the U.S. and abroad. As of July 31, 2023, these leases expire on various dates between 2023 and 2030. Certain lease agreements include one or more options to renew, with renewal terms that can extend the lease up to seven years . We have the right to exercise or forego the lease renewal options. The lease agreements do not contain any material residual value guarantees or material restrictive covenants. The components of our long-term operating leases and related operating lease cost were as follows (in thousands): July 31, 2023 January 31, 2023 Operating lease right-of-use assets $ 26,628 $ 22,768 Operating lease liabilities, current portion $ 7,895 $ 9,240 Operating lease liabilities, net of current portion 39,865 37,924 Total operating lease liabilities $ 47,760 $ 47,164 Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Operating lease cost 1 $ 2,183 $ 2,618 $ 4,409 $ 5,252 _____________________________ 16 (1) Includes costs related to our short-term operating leases and is net of sublease income as follows (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Short-term operating lease costs $ 139 $ 109 $ 241 $ 199 Sublease income $ ( 98 ) $ — $ ( 195 ) $ — The future maturities of long-term operating lease liabilities for each fiscal year were as follows (in thousands): Maturities of Operating Lease Liabilities 2024 (remainder of the year) $ 5,533 2025 8,617 2026 8,557 2027 7,815 2028 7,910 Thereafter 17,487 Total lease payments 55,919 Less imputed interest ( 8,159 ) Present value of lease liabilities $ 47,760 Other supplemental information related to our long-term operating leases includes the following (dollars in thousands): July 31, 2023 January 31, 2023 Weighted-average remaining operating lease term 6.2 years 6.7 years Weighted-average operating lease discount rate 4.9 % 4.8 % Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Supplemental Cash Flow Information Cash paid for amounts included in the measurement of lease liabiliti Cash paid for operating leases $ 4,038 $ 3,408 $ 7,528 $ 6,822 New right-of-use assets obtained in exchange for lease liabiliti Operating leases obtained $ — $ — $ 6,973 $ — Note 13. Commitments and Contingencies Letters of Credit In connection with the execution of certain facility leases, we had bank issued irrevocable letters of credit for $ 4.5 million as of July 31, 2023 and January 31, 2023. No draws have been made under such letters of credit. Legal Proceedings From time to time, we may be subject to legal proceedings, as well as demands, claims and threatened litigation. The outcomes of legal proceedings and other contingencies are inherently unpredictable, subject to significant uncertainties, and could be material to our operating results and cash flows for a particular period. Regardless of the outcome, litigation can have an adverse impact on our business because of defense and settlement costs, diversion of management resources, and other factors. Other than the matters described below, 17 we are not currently party to any legal proceeding that we believe could have a material adverse effect on our business, operating results, cash flows, or financial condition should such litigation or claim be resolved unfavorably. Securities Class Action Litigation In June 2019, a putative securities class action lawsuit was filed in the U.S. District Court for the Northern District of California naming Zuora and certain of its officers as defendants. The complaint purported to bring suit on behalf of stockholders who purchased or otherwise acquired Zuora's securities between April 12, 2018 and May 30, 2019. The complaint alleged that defendants made false and misleading statements about Zuora's business, operations and prospects in violation of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended (Exchange Act), and sought unspecified compensatory damages, fees and costs. In November 2019, the lead plaintiff filed a consolidated amended complaint asserting the same claims. This consolidated class action litigation was captioned Roberts v. Zuora, Inc. , Case No. 3:19-CV-03422 (hereinafter referred to as "Federal Class Action"). In April 2020, the court denied defendants’ motion to dismiss. In March 2023, Zuora entered into an agreement to settle the Federal Class Action as described below. In April and May 2020, two putative securities class action lawsuits were filed in the Superior Court of the State of California, County of San Mateo, naming as defendants Zuora and certain of its current and former officers, its directors and the underwriters of Zuora's initial public offering (IPO). The complaints purported to bring suit on behalf of stockholders who purchased or otherwise acquired Zuora's securities pursuant or traceable to the Registration Statement and Prospectus issued in connection with Zuora's IPO and allege claims under Sections 11, 12(a)(2) and 15 of the Securities Act of 1933. The suits sought unspecified damages and other relief. In July 2020, the court entered an order consolidating the two lawsuits, and the lead plaintiffs filed a consolidated amended complaint asserting the same claims. The consolidated class action litigation was captioned Olsen v. Zuora, Inc ., Case No. 20-civ-1918 (hereinafter referred to as "State Class Action"). In October 2020, the court denied defendants’ demurrer as to the Section 11 and Section 15 claims and granted the demurrer as to the Section 12(a)(2) claim with leave to file an amended complaint. In November 2020, the lead plaintiffs filed an amended consolidated complaint. Defendants' demurrer to the Section 12(a)(2) claim was sustained with leave to amend. In October 2021, the court certified a class for the Section 11 and Section 15 claims, consisting of persons and entities who purchased or acquired Zuora common stock pursuant or traceable to the Registration Statement and Prospectus issued in connection with Zuora’s IPO. The lead plaintiffs voluntarily dismissed the Section 12(a)(2) claim without prejudice. In June 2023, Zuora entered into an agreement to settle the State Class Action as described below. In March 2023, Zuora entered into an agreement to settle the Federal Class Action for a payment of $ 75.0 million by Zuora. In June 2023, Zuora reached an agreement to settle the State Class Action, with such matter to be resolved as part of a combined resolution with the Federal Class Action. Zuora agreed to contribute an additional $ 0.5 million to the Federal Class Action for purposes of the combined settlement. As a result, Zuora recorded a litigation accrual of $ 75.5 million, which is included in Accrued expenses and other current liabilities in the accompanying unaudited condensed consolidated balance sheets as of July 31, 2023. This represents a $ 0.5 million reduction to our prior accruals for these litigation matters as of January 31, 2023. Zuora expects approximately $ 6.6 million of the settlement to be funded by its remaining insurance coverage. Zuora entered into the settlement to eliminate the uncertainty, burden, and expense of further protracted litigation. Zuora denies the claims alleged in these litigation matters, and the settlement does not assign or reflect any admission of wrongdoing or liability by Zuora or the named defendants. The settlement is subject to court approval. In August 2023, the U.S. District Court for the Northern District of California provided preliminary court approval of the settlement. Final court approval is pending. Derivative Litigation In September 2019, two stockholder derivative lawsuits were filed in the U.S. District Court for the Northern District of California against certain of Zuora's directors and executive officers and naming Zuora as a nominal defendant. The derivative actions allege claims based on events similar to those in the securities class actions and assert causes of action against the individual defendants for breach of fiduciary duty, unjust enrichment, waste of corporate assets, and for making false and misleading statements about Zuora's business, operations, and prospects in violation of Section 14(a) of the Exchange Act. Plaintiffs seek corporate reforms, unspecified damages and restitution, and fees and costs. In November 2019, the stockholder derivative lawsuits, which are related to the federal securities class action, were assigned to the same judge who is overseeing the federal securities class action lawsuit. In February 2020, the court entered an order consolidating the two derivative lawsuits, and in March 2022, plaintiffs filed a consolidated complaint. 18 In May and June 2020, two stockholder derivative lawsuits were filed in the U.S. District Court for the District of Delaware against certain of Zuora's directors and current and former executive officers. The derivative actions allege claims based on events similar to those in the securities class actions and the derivative actions pending in the Northern District of California and assert causes of action against the individual defendants for breach of fiduciary duty, unjust enrichment, waste of corporate assets, contribution, and for making false and misleading statements about Zuora's business, operations, and prospects in violation of Section 14(a) of the Exchange Act. Plaintiff seeks corporate reforms, unspecified damages and restitution, and fees and costs. In June 2020, the court entered an order consolidating the two District of Delaware derivative lawsuits. In February and March 2021, two additional stockholder derivative lawsuits were filed in Delaware Chancery Court alleging similar claims based on the same underlying events. The two Chancery Court cases were consolidated and an amended consolidated complaint was filed. In May 2022, a stockholder derivative lawsuit was filed in the U.S. District Court for the Northern District of California against certain of Zuora’s directors and executive officers and naming Zuora as a nominal defendant. The derivative action alleges claims based on events similar to those in the securities class actions and asserts causes of action against the individual defendants for breach of fiduciary duty, waste of corporate assets, unjust enrichment, and contribution. Plaintiff seeks corporate reforms, unspecified damages and restitution, and fees and costs. In February 2023, Zuora reached an agreement to settle the derivative litigation matters without any admission or concession of wrongdoing or liability by Zuora or the named defendants. In connection with the settlement, Zuora agreed to adopt and implement certain corporate governance modifications and pay $ 2.0 million for certain plaintiffs' attorney fees, which amount was paid by Zuora's insurance carriers in August 2023. The settlement is subject to court approval. In July 2023, the U.S District Court for the Northern District of California provided preliminary court approval of the derivative settlement. Final court approval is pending. Other Contractual Obligations As of July 31, 2023, we have a contractual obligation to make $ 17.1 million in purchases of cloud computing services provided by one of our vendors by September 2024. Note 14. Income Taxes The following table reflects our income tax provision, pretax loss and effective tax rate for the periods presented (in thousands, except percentages): Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Loss before income taxes $ ( 21,975 ) $ ( 29,381 ) $ ( 40,801 ) $ ( 52,241 ) Income tax provision 587 529 1,056 837 Effective tax rate ( 2.7 ) % ( 1.8 ) % ( 2.6 ) % ( 1.6 ) % The effective tax rates differ from the statutory rates primarily as a result of providing no benefit on pretax losses incurred in the United States, as we have determined that the benefit of the losses is not more likely than not to be realized. Note 15. Stockholders’ Equity Preferred Stock As of July 31, 2023, Zuora had authorized 10 million shares of preferred stock, each with a par value of $ 0.0001 per share. As of July 31, 2023, no shares of preferred stock were issued and outstanding. Common Stock Prior to Zuora's IPO, which was effective in April 2018, all shares of common stock then outstanding were reclassified into Class B common stock. Shares offered and sold in the IPO consisted of newly authorized shares of Class A common stock. Holders of Class A and Class B common stock are entitled to one vote per share 19 and ten votes per share, respectively, and the shares of Class A common stock and Class B common stock are identical, except for voting rights and the right to convert Class B common stock to Class A common stock. As of July 31, 2023, Zuora had authorized 500 million shares of Class A common stock and 500 million shares of Class B common stock, each with a par value of $ 0.0001 per share. As of July 31, 2023, 132.4 million shares of Class A common stock and 8.1 million shares of Class B common stock were issued and outstanding. Accumulated Other Comprehensive Loss Components of accumulated other comprehensive loss were as follows (in thousands): Foreign Currency Translation Adjustment Unrealized Loss on Available-for-Sale Securities Total Balance, January 31, 2023 $ ( 343 ) $ ( 576 ) $ ( 919 ) Foreign currency translation adjustment ( 687 ) — ( 687 ) Unrealized gain on available-for-sale securities — 512 512 Balance, July 31, 2023 $ ( 1,030 ) $ ( 64 ) $ ( 1,094 ) There were no material reclassifications out of accumulated other comprehensive loss during the three and six months ended July 31, 2023. Additionally, there was no material tax impact on the amounts presented. Note 16. Employee Stock Plans Equity Incentive Plans Our 2018 Equity Incentive Plan (2018 Plan) authorizes the award of stock options, restricted stock awards, stock appreciation rights, restricted stock units (RSUs), performance awards, and stock bonuses. As of July 31, 2023, approximately 29.3 million shares of Class A common stock were reserved and available for issuance under the 2018 Plan. In addition, as of July 31, 2023, 4.0 million stock options and RSUs exercisable or settleable for Class B common stock were outstanding in the aggregate under our 2006 Stock Plan (2006 Plan) and 2015 Equity Incentive Plan (2015 Plan), which plans were terminated in May 2015 and April 2018, respectively. The 2006 Plan and 2015 Plan continue to govern outstanding equity awards granted thereunder. Stock Options The following tables summarize stock option activity and related information (in thousands, except weighted-average exercise price, weighted-average grant date fair value and average remaining contractual term ): Shares Subject To Outstanding Stock Options Weighted-Average Exercise Price Average Remaining Contractual Term (Years) Aggregate Intrinsic Value Balance, January 31, 2023 7,761 $ 9.28 5.0 $ 14,505 Exercised ( 202 ) 4.67 Cancelled ( 775 ) 13.28 Forfeited ( 147 ) 12.99 Balance, July 31, 2023 6,637 8.87 4.2 29,412 Exercisable as of July 31, 2023 4,657 5.45 3.1 29,240 Vested and expected to vest as of July 31, 2023 6,598 $ 8.84 4.2 $ 29,402 20 Three Months Ended July 31, Six Months Ended July 31, 2023 1 2022 2023 1 2022 Weighted-average grant date fair value per share of options granted during each respective period $ — $ 5.54 $ — $ 5.54 Aggregate intrinsic value of options exercised during each respective period $ 651 $ 941 $ 1,030 $ 2,030 _________________________________ (1) No stock options were granted during the three and six months ended July 31, 2023. RSUs The following table summarizes RSU activity and related information (in thousands, except weighted-average grant date fair value): Number of RSUs Outstanding Weighted-Average Grant Date Fair Value Balance, January 31, 2023 12,504 $ 12.98 Granted 7,392 8.10 Vested ( 3,950 ) 12.66 Forfeited ( 995 ) 13.17 Balance, July 31, 2023 14,951 $ 10.64 Performance Stock Units (PSUs) In March 2022 and July 2023, we granted PSUs to certain executives under our 2018 Plan. Each grant is divided into two or three tranches, each tranche having pre-established performance targets that if met, as determined quarterly by our Compensation Committee, would result in the shares attributable to such tranche being earned, subject to a service-based vesting condition. The shares attributable to unearned tranches will be forfeited on January 31, 2025 if the applicable performance criteria for such tranches are not met. Stock-based compensation expense is recognized if it is probable the performance targets (for each respective tranche) will be met during the performance period. As we previously disclosed in our Form 10-Q for the three months ended April 30, 2023 filed with the SEC on June 1, 2023, we modified the performance targets associated with the PSUs that were granted in March 2022. This resulted in $ 9.6 million of incremental compensation expense that is being recognized over the remaining vesting periods of the awards. The following table summarizes PSU activity and related information (in thousands, except weighted-average grant date fair value): Number of PSUs Outstanding Weighted-Average Grant Date Fair Value Balance, January 31, 2023 2,905 $ 15.21 Granted 300 10.68 Forfeited ( 350 ) 15.21 Balance, July 31, 2023 2,855 $ 14.73 2018 Employee Stock Purchase Plan Our 2018 Employee Stock Purchase Plan (ESPP) is broadly available to our employees in the United States and certain other countries in which we operate. A total of 4.9 million shares of Class A common stock were reserved and available for issuance under the ESPP as of July 31, 2023. The ESPP provides for 24 -month offering periods beginning June 15 and December 15 of each year, and each offering period contains four six-month purchase periods. On each purchase date, ESPP participants will purchase shares of our Class A common stock at a price per share equal to 85 % of the lesser of (1) the fair market value of the Class A common stock on the offering date or (2) the fair market value of the Class A common stock on the purchase date. 21 We estimated the fair value of ESPP purchase rights using a Black-Scholes option pricing model with the following assumptio Three and Six Months Ended July 31, 2023 Three and Six Months Ended July 31, 2022 Fair value of common stock $ 11.55 $ 8.91 Expected volatility 37.1 % - 45.7 % 44.4 % - 52.3 % Expected term (in years) 0.5 - 2.0 0.5 - 2.0 Risk-free interest rate 3.0 % - 4.8 % 2.3 % - 3.2 % Expected dividend yield — % — % Stock-Based Compensation Expense Stock-based compensation expense was recorded in the following cost and expense categories in the accompanying unaudited condensed consolidated statements of comprehensive loss (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Cost of subscription revenue $ 2,180 $ 2,281 $ 4,539 $ 4,080 Cost of professional services revenue 3,229 3,690 6,250 6,707 Research and development 6,752 7,465 13,496 13,431 Sales and marketing 8,689 9,959 16,666 17,415 General and administrative 5,798 4,818 10,921 9,405 Total stock-based compensation expense $ 26,648 $ 28,213 $ 51,872 $ 51,038 As of July 31, 2023, unrecognized compensation costs related to unvested equity awards and the weighted-average remaining period over which those costs are expected to be recognized were as follows (dollars in thousands): Stock Options RSUs PSUs ESPP Unrecognized compensation costs $ 2,796 $ 135,092 $ 22,061 $ 6,921 Weighted-average remaining recognition period 1.3 years 2.1 years 1.4 years 0.9 years Note 17. Warrants to Purchase Shares of Common Stock In connection with the issuance of the 2029 Notes (discussed Note 9. Debt ), we issued to Silver Lake the Warrants to acquire up to 7.5 million shares of Class A common stock, exercisable for a period of approximately seven years from the Initial Closing Date, and of which (i) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 20.00 per share, (ii) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 22.00 per share and (iii) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 24.00 per share. In addition, Silver Lake can elect to exercise the Warrants on a net-exercise basis. If a Make-Whole Fundamental Change (as defined in the Form of Warrant) occurs, then the number of shares issuable upon exercise of the Warrants may be increased, and the exercise price for the Warrants adjusted. Beginning on the Initial Closing Date and ending on the earlier of (i) the date that is 18 months following the Initial Closing Date (such date will occur in September 2023) and (ii) the consummation of any Change in Control, except for certain limited exceptions, the Warrants are only exercisable with our written approval. As of July 31, 2023, all 7.5 million Warrants were outstanding. We have classified a portion of the Warrants as a current liability due to certain settlement provisions in the Warrants. Under certain Make-Whole Fundamental Change scenarios, we would be required to, at our option, either (i) obtain shareholder approval prior to issuing 20 % or more of our outstanding common stock or (ii) pay cash in lieu of delivering any shares at or above such 20 % threshold. As a result, we concluded that approximately 2.8 million Warrants valued at $ 12.0 million as of the Initial Closing Date do not qualify for equity classification under ASC 815-40, pursuant to our sequencing policy described in Note 2. Summary of Significant Accounting Policies and 22 Recent Accounting Pronouncements in our Annual Report on Form 10-K . We will reassess the classification of the Warrant liability in future reporting periods to determine if any change is required. The liability-classified warrants fair value was remeasured using the Black-Scholes option pricing model using the following inputs: July 31, 2023 January 31, 2023 Fair value of common stock 1 $ 11.42 $ 7.24 Exercise price $ 22.00 - $ 24.00 $ 22.00 - $ 24.00 Expected volatility 42.0 % 41.2 % Expected term (in years) 5.7 6.2 Risk-free interest rate 4.2 % 3.6 % Expected dividend yield — — ______________ (1) The fair value of common stock was adjusted to reflect certain restrictions on the Warrants for 18 months following the issuance date. We recognized realized losses and gains on the revaluation of the liability-classified Warrants, summarized in the table below, which are included in Change in fair value of warrant liability in the accompanying unaudited condensed consolidated statements of comprehensive loss. Refer to Note 4. Fair Value Measurements for the fair value of the liability-classified Warrants. Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 (Loss) gain on revaluation of liability-classified Warrants $ ( 4,786 ) $ 4,524 $ ( 4,756 ) $ 8,896 Note 18. Net Loss Per Share The following table presents the calculation of basic and diluted net loss per share for the periods presented (in thousands, except per share data): Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Numerato Net loss $ ( 22,562 ) $ ( 29,910 ) $ ( 41,857 ) $ ( 53,078 ) Denominato Weighted-average common shares outstanding, basic and diluted 138,605 130,280 137,417 129,384 Net loss per share, basic and diluted $ ( 0.16 ) $ ( 0.23 ) $ ( 0.30 ) $ ( 0.41 ) Since we were in a net loss position for all periods presented, basic net loss per share attributable to common stockholders is the same as diluted net loss per share, as the inclusion of all potential common shares outstanding would have been anti-dilutive. Potentially dilutive securities that were not included in the diluted per share 23 calculations because they would be anti-dilutive were as follows (in thousands): July 31, 2023 2022 Unvested RSUs issued and outstanding 14,951 14,591 Initial Notes conversion 12,500 12,500 Warrants 7,500 7,500 Issued and outstanding stock options 6,637 8,098 Unvested PSUs issued and outstanding 2,855 2,905 Shares committed under ESPP 290 208 Total 44,733 45,802 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements and related notes appearing elsewhere in this Form 10-Q and our Annual Report on Form 10-K for the fiscal year ended January 31, 2023 filed with the Securities and Exchange Commission (SEC) on April 3, 2023 (Annual Report on Form 10-K). As discussed in the section titled “Special Note Regarding Forward-Looking Statements,” the following discussion and analysis contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. Factors that could cause or contribute to these differences include, but are not limited to, those identified below and those discussed in the section titled “Risk Factors” under Part II, Item 1A in this Form 10-Q and in our Annual Report on Form 10-K. Our fiscal year ends on January 31. Overview Zuora provides a leading monetization suite that serves as an intelligent hub for modern businesses to monetize and orchestrate the complete quote-to-cash and revenue recognition process. Our solution enables companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the quote-to-cash and revenue recognition process, including quoting, billing, collections and revenue recognition, and improving the subscriber experience. With Zuora’s solution, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their recurring revenue, including subscription and consumption-based models, and build meaningful relationships with their subscribers. Many of today’s enterprise software systems manage their quote-to-cash and revenue recognition process using software built for one-time transactions. These systems were not designed for the dynamic, ongoing nature of subscription, usage, or consumption-based pricing models, and can be extremely difficult to configure. In traditional product-based businesses, quote-to-cash and revenue recognition was a linear process – a customer orders a product, is billed for that product, payment is collected, and the revenue is recognized. These legacy product-based systems were not specifically designed to handle the complexities of managing ongoing customer relationships and recurring revenue models commonly found in subscription businesses, including billing proration, revenue recognition and reporting, and calculating the lifetime value of the customer. Using legacy or homegrown software to build a subscription business often results in inefficient processes with prolonged and complex manual downstream work, hard-coded customizations, and a proliferation of stock-keeping units (SKUs). However, enterprise business models are inherently dynamic, with multiple interactions, flexible pricing, global complexities, and continuously-evolving relationships and events. The capabilities to launch, price, and bill for products, facilitate and record cash receipts, process and recognize revenue, and analyze data to drive key decisions are mission critical and particularly complex for companies that operate at a global scale. As a result, as companies launch, grow, and scale their businesses, they often conclude that legacy systems are inadequate. This is where Zuora comes in. 24 Our vision is “The World Subscribed” -- the idea that one day every company will be a part of the Subscription Economy. Our focus has been on providing the technology our customers need to thrive as a customer-centric, recurring revenue businesses. Our solution includes Zuora Platform, Zuora Billing, Zuora Revenue, Zuora Payments, Zephr, and other software products that support and expand upon these core offerings. Our software helps companies analyze data – including information such as which customers are delivering the most recurring revenue, or which segments are showing the highest churn, thus enabling customers to make informed decisions for their recurring revenue business and quickly implement changes such as launching new services, updating pricing (consumption, time, or outcome based), delivering new offerings, or making other changes to their customers’ experience. We also have a large ecosystem of global partners that can assist our customers with additional strategies and services throughout the monetization journey. Companies in a variety of industries - technology, manufacturing, media and entertainment, telecommunications, and many others - are using our solution to monetize, scale and adapt to a world that is increasingly choosing ongoing digital services. Fiscal Second Quarter Business Highlights and Recent Developments: • Customers with annual contract value (ACV) equal to or greater than $250,000 were 444, up from 407 as of July 31, 2022. Seven of the deals closed in the quarter ended July 31, 2023 had ACV equal to or greater than $500,000, one of which had ACV greater than $1.0 million. • Our dollar-based retention rate decreased to 107% compared to 111% as of July 31, 2022. • Our Annual Recurring Revenue (ARR) was $384.2 million as of July 31, 2023 compared to $337.6 million as of July 31, 2022, representing ARR growth of 14%. Fiscal Second Quarter Financial Performance Summary: Our financial performance for the three months ended July 31, 2023 compared to the three months ended July 31, 2022 reflects the followin • Subscription revenue was $95.5 million, an increase of $11.7 million, or 14%; and total revenue was $108.0 million, an increase of $9.3 million, or 9%. On a constant currency basis, subscription revenue increased 16%; and total revenue increased 11%. • Gross profit was $70.3 million, or 65% of total of revenue, compared to $60.1 million, or 61% of total revenue. • Loss from operations was $18.2 million, or 17% of total revenue, compared to a loss of $30.2 million, or 31% of total revenue. Key Operational and Financial Metrics We monitor the following key operational and financial metrics to evaluate our business, measure our performance, identify trends affecting our business, formulate business plans and make strategic decisio July 31, 2023 2022 Customers with ACV equal to or greater than $250,000 444 407 Dollar-based retention rate 107 % 111 % Annual recurring revenue growth 14 % 20 % 25 Customers with Annual Contract Value Equal to or Greater than $250,000 We believe our ability to enter into larger contracts is indicative of broader adoption of our solution by larger organizations. It also reflects our ability to expand our revenue footprint within our current customer base. We define ACV as the subscription revenue we would contractually expect to recognize from that customer over the next twelve months, assuming no increases or reductions in their subscriptions. We define the number of customers at the end of any particular period as the number of parties or organizations that have entered into a distinct subscription contract with us and for which the term has not ended. Each party with whom we have entered into a distinct subscription contract is considered a unique customer, and in some cases, there may be more than one customer within a single organization. We had 444 customers with ACV equal to or greater than $250,000 as of July 31, 2023. We expect this metric to continue to increase over the remainder of the fiscal year. Dollar-Based Retention Rate We believe our dollar-based retention rate is a key measure of our ability to retain and expand revenue from our customer base over time. We calculate our dollar-based retention rate as of a period end by starting with the sum of the ACV from all customers as of twelve months prior to such period end, or prior period ACV. We then calculate the sum of the ACV from these same customers as of the current period end, or current period ACV. The current period ACV includes any upsells and also reflects contraction or attrition over the trailing twelve months, but excludes revenue from new customers added in the current period. We then divide the current period ACV by the prior period ACV to arrive at our dollar-based retention rate. Our dollar-based retention rate was 107% as of July 31, 2023. While the dollar-based retention rate can fluctuate in any particular quarter, we expect it to remain relatively consistent for the remainder of the fiscal year. Annual Recurring Revenue ARR represents the annualized recurring value at the time of initial booking or contract modification for all active subscription contracts at the end of a reporting period. ARR excludes the value of non-recurring revenue such as professional services revenue as well as contracts with new customers with a term of less than one year. ARR should be viewed independently of revenue and deferred revenue, and is not intended to be a substitute for, or combined with, any of these items. Our ARR was $384.2 million as of July 31, 2023, compared to $337.6 million as of July 31, 2022, representing an increase of 14% year-over-year. We expect our ARR year-over-year growth rate to remain relatively consistent or decrease slightly for the remainder of the fiscal year. Components of Our Results of Operations Revenue Subscription revenue. Subscription revenue consists of fees for access to, and use of, our products, as well as customer support. We generate subscription fees pursuant to non-cancelable subscription agreements with terms that typically range from one to three years. Subscription revenue is primarily based on fees to access our services platform over the subscription term. We typically invoice customers in advance in either annual or quarterly installments. Customers can also elect to purchase additional volume blocks or products during the term of the contract. We typically recognize subscription revenue ratably over the term of the subscription period, beginning on the date that access to our platform is provisioned, which is generally on or about the date the subscription agreement is signed. Professional services revenue. Professional services revenue typically consists of fees for implementation services in connection with helping our customers deploy, configure, and optimize the use of our solutions. These services include systems integration, data migration, and process enhancement. Professional services projects generally take three to twelve months to complete. Once the contract is signed, we generally invoice for professional services on a time and materials basis, although we occasionally engage in fixed-price service engagements and invoice for those based upon agreed milestone payments. We recognize revenue as professional services are performed for time and materials engagements and on a proportional performance method when the professional services are performed under fixed fee engagements. We expect to continue to transition a portion of our professional services implementations to our strategic partners, including system integrators, and as a result we expect our professional services revenue to decrease over time as a percentage of total revenue. 26 Deferred Revenue Deferred revenue consists of customer billings in advance of revenue being recognized from our subscription and support services and professional services arrangements. We primarily invoice our customers for subscription services arrangements annually or quarterly in advance. Amounts anticipated to be recognized within one year of the balance sheet date are recorded as deferred revenue, current portion, and the remaining portion is recorded as deferred revenue, net of current portion in our unaudited condensed consolidated balance sheets. Overhead Allocation and Employee Compensation Costs We allocate shared costs, such as facilities costs (including rent, utilities, and depreciation on capital expenditures related to facilities shared by multiple departments), information technology costs, and certain administrative personnel costs to all departments based on headcount and location. As such, allocated shared costs are reflected in each cost of revenue and operating expenses category. Employee compensation costs consist of salaries, bonuses, commissions, benefits, and stock-based compensation. Cost of Revenue, Gross Profit and Gross Margin Cost of subscription revenue. Cost of subscription revenue consists primarily of costs related to hosting our platform and providing customer support. These costs include data center costs and third-party hosting fees, employee compensation costs associated with maintaining our cloud-based infrastructure, amortization expenses associated with capitalized internal-use software and purchased technology, allocated overhead, software and maintenance costs, and outside services associated with the delivery of our subscription services. We intend to continue to invest in our platform infrastructure, including third-party hosting capacity, and support organizations. However, the level and timing of such investment in these areas could fluctuate and affect our cost of subscription revenue in the future. Cost of professional services revenue. Cost of professional services revenue consists primarily of costs related to the deployment of our platform. These costs include employee compensation costs for our professional services team, allocated overhead, travel costs, and costs of outside services associated with supplementing our internal staff. We believe that investment in our systems integrator partner network will lead to total margin improvement, however costs may fluctuate in the near term as we shift deployments to our partner network. Gross profit and gross margin. Our gross profit and gross margin may fluctuate from period to period as our revenue fluctuates, and as a result of the timing and amount of our investments to expand hosting capacity, including through third-party cloud providers, amortization expenses associated with our capitalized internal-use software and purchased technology, and our continued efforts to build our cloud infrastructure, support, and professional services teams. Operating Expenses Research and development. Research and development expense consists primarily of employee compensation costs, allocated overhead, and travel costs. We capitalize research and development costs associated with the development of internal-use software and we generally amortize these costs over a period of three years into the cost of subscription revenue. All other research and development costs are expensed as incurred. We believe that continued investment in our platform is important for our growth, and as such, we expect our research and development expense to remain relatively consistent or decrease as a percentage of total revenue for the remainder of the current fiscal year. Sales and marketing. Sales and marketing expense consists primarily of employee compensation costs, including the amortization of deferred commissions related to our sales personnel, allocated overhead, costs of general marketing and promotional activities, and travel costs. Commission costs that are incremental to obtaining a contract are amortized in sales and marketing expense over the period of benefit, which is expected to be five years. While we expect to continue to make investments as we expand our customer acquisition and retention efforts, we expect our sales and marketing expense to remain relatively consistent or decrease as a percentage of total revenue for the remainder of the current fiscal year. 27 General and administrative. General and administrative expense consists primarily of employee compensation costs, allocated overhead, and travel costs for finance, accounting, legal, human resources, and recruiting personnel. In addition, general and administrative expense includes non-personnel costs, such as accounting fees, legal fees, charitable contributions, asset impairments, and all other supporting corporate expenses not allocated to other departments. We expect to incur ongoing costs as a result of operating as a public company, including costs related to compliance and reporting obligations of public companies, and continued investment to support our growing operations. As a result, we expect our general and administrative expense to remain relatively consistent or decrease as a percentage of total revenue for the remainder of the current fiscal year. Other income and expenses Other income and expenses primarily consists of gain or loss on the revaluation of the warrant liability; amortization of discount and debt issuance costs, and contractual interest on our convertible senior notes; interest income from our cash and cash equivalents and short-term investments; and foreign exchange fluctuations. Income Tax Provision Income tax provision consists primarily of income taxes related to foreign and state jurisdictions in which we conduct business. We maintain a full valuation allowance on our federal and state deferred tax assets as we have concluded that it is more likely than not that the deferred assets will not be utilized. Results of Operations The following tables set forth our unaudited condensed consolidated results of operations for the periods presented in dollars and as a percentage of our total revenue (in thousands): Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Reve Subscription $ 95,473 $ 83,811 $ 185,184 $ 162,311 Professional services 12,575 14,964 25,959 29,663 Total revenue 108,048 98,775 211,143 191,974 Cost of reve Subscription 21,338 19,572 41,926 38,297 Professional services 16,443 19,077 33,201 36,587 Total cost of revenue 37,781 38,649 75,127 74,884 Gross profit 70,267 60,126 136,016 117,090 Operating expens Research and development 26,256 26,354 51,924 49,226 Sales and marketing 42,799 45,146 84,243 85,603 General and administrative 19,451 18,816 38,267 36,106 Total operating expenses 88,506 90,316 174,434 170,935 Loss from operations (18,239) (30,190) (38,418) (53,845) Change in fair value of warrant liability (4,786) 4,524 (4,756) 8,896 Interest expense (4,607) (4,419) (8,994) (6,203) Interest and other income (expense), net 5,657 704 11,367 (1,089) Loss before income taxes (21,975) (29,381) (40,801) (52,241) Income tax provision 587 529 1,056 837 Net loss $ (22,562) $ (29,910) $ (41,857) $ (53,078) 28 Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Reve Subscription 88 % 85 % 88 % 85 % Professional services 12 15 12 15 Total revenue 100 100 100 100 Cost of reve Subscription 20 20 20 20 Professional services 15 19 16 19 Total cost of revenue 35 39 36 39 Gross profit 65 61 64 61 Operating expens Research and development 24 27 25 26 Sales and marketing 40 46 40 45 General and administrative 18 19 18 19 Total operating expenses 82 91 83 89 Loss from operations (17) (31) (18) (28) Change in fair value of warrant liability (4) 5 (2) 5 Interest expense (4) (4) (4) (3) Interest and other income (expense), net 5 1 5 (1) Loss before income taxes (20) (30) (19) (27) Income tax provision 1 1 1 — Net loss (21) % (30) % (20) % (28) % Note: Percentages in the table above may not sum due to rounding. Non-GAAP Financial Measures To supplement our unaudited condensed consolidated financial statements presented in accordance with U.S. GAAP, we monitor and consider non-GAAP financial measures includin subscription revenue and total revenue that exclude the impact of foreign currency exchange rate fluctuations (constant currency basis), non-GAAP cost of subscription revenue, non-GAAP subscription gross margin, non-GAAP cost of professional services revenue, non-GAAP professional services gross margin, non-GAAP gross profit, non-GAAP gross margin, non-GAAP income (loss) from operations, non-GAAP operating margin, non-GAAP net income (loss), non-GAAP net income (loss) per share, basic and diluted, and adjusted free cash flow. We use non-GAAP financial measures in conjunction with GAAP measures as part of our overall assessment of our performance, including the preparation of our annual operating budget and quarterly forecasts, to evaluate the effectiveness of our business strategies and to communicate with our Board of Directors concerning our financial performance. We believe these non-GAAP measures provide investors consistency and comparability with our past financial performance and facilitate period-to-period comparisons of our operating results. We also believe these non-GAAP measures are useful in evaluating our operating performance compared to that of other companies in our industry, as they generally eliminate the effects of certain items that may vary for different companies for reasons unrelated to overall operating performance. Investors are cautioned that there are material limitations associated with the use of non-GAAP financial measures as an analytical tool. The non-GAAP financial measures we use may be different from non-GAAP financial measures used by other companies, limiting their usefulness for comparison purposes. We compensate for these limitations by providing specific information regarding the GAAP items excluded from our non-GAAP financial measures. The presentation of these non-GAAP financial measures is not intended to be considered in isolation or as a substitute for, or superior to, financial information prepared and presented in accordance with GAAP. Reconciliations of our non-GAAP financial measures to the nearest respective GAAP measures are provided below. 29 We exclude the following items from one or more of our non-GAAP financial measu • Stock-based compensation expense . We exclude stock-based compensation expense, which is a non-cash expense, because we believe that excluding this item provides meaningful supplemental information regarding operational performance. In particular, stock-based compensation expense is not comparable across companies given it is calculated using a variety of valuation methodologies and subjective assumptions. • Amortization of acquired intangible assets . We exclude amortization of acquired intangible assets, which is a non-cash expense, because we do not believe it has a direct correlation to the operation of our business. • Charitable contributions . We exclude expenses associated with charitable donations of our common stock. We believe that excluding these non-cash expenses allows investors to make more meaningful comparisons between our operating results and those of other companies. • Shareholder litigation. We exclude non-recurring charges and benefits, net of insurance recoveries, including litigation expenses and settlements, related to shareholder litigation matters that are outside of the ordinary course of our business. We believe these charges and benefits do not have a direct correlation to the operations of our business and may vary in size depending on the timing and results of such litigation and related settlements. • Asset impairment . We exclude non-cash charges for impairment of assets, including impairments related to internal-use software and office leases. Impairment charges can vary significantly in terms of amount and timing and we do not consider these charges indicative of our current or past operating performance. Moreover, we believe that excluding the effects of these charges allows investors to make more meaningful comparisons between our operating results and those of other companies. • Change in fair value of warrant liabilities. We exclude the change in fair value of warrant liabilities, which is a non-cash gain or loss, as it can fluctuate significantly with changes in Zuora's stock price and market volatility, and does not reflect the underlying cash flows or operational results of the business. • Acquisition-related transactions . We exclude acquisition-related transactions (including integration-related charges) that are not related to our ongoing operations, including expenses we incurred and gains or losses recognized on contingent consideration related to our acquisition of Zephr. We do not consider these transactions reflective of our core business or ongoing operating performance. • Workforce reduction . We exclude charges related to the workforce reduction plan we approved in November 2022, including severance, health care and related expenses. We believe these charges are not indicative of our continuing operations. The following tables provide a reconciliation of our GAAP to non-GAAP measures (in thousands, except percentages and per share data): 30 Subscription Gross Margin Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Reconciliation of cost of subscription reve GAAP cost of subscription revenue $ 21,338 $ 19,572 $ 41,926 $ 38,297 L Stock-based compensation (2,180) (2,281) (4,539) (4,080) Amortization of acquired intangibles (738) (372) (1,476) (926) Workforce reduction — — (38) — Non-GAAP cost of subscription revenue $ 18,420 $ 16,919 $ 35,873 $ 33,291 GAAP subscription gross margin 78 % 77 % 77 % 76 % Non-GAAP subscription gross margin 81 % 80 % 81 % 79 % Professional Services Gross Margin Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Reconciliation of cost of professional services reve GAAP cost of professional services revenue $ 16,443 $ 19,077 $ 33,201 $ 36,587 L Stock-based compensation (3,229) (3,690) (6,250) (6,707) Workforce reduction (46) — (46) — Non-GAAP cost of professional services revenue $ 13,168 $ 15,387 $ 26,905 $ 29,880 GAAP professional services gross margin (31) % (27) % (28) % (23) % Non-GAAP professional services gross margin (5) % (3) % (4) % (1) % Total Gross Margin Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Reconciliation of gross prof GAAP gross profit $ 70,267 $ 60,126 $ 136,016 $ 117,090 A Stock-based compensation 5,409 5,971 10,789 10,787 Amortization of acquired intangibles 738 372 1,476 926 Workforce reduction 46 — 84 — Non-GAAP gross profit $ 76,460 $ 66,469 $ 148,365 $ 128,803 GAAP gross margin 65 % 61 % 64 % 61 % Non-GAAP gross margin 71 % 67 % 70 % 67 % 31 Operating (Loss) Income and Operating Margin Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Reconciliation of (loss) income from operatio GAAP loss from operations $ (18,239) $ (30,190) $ (38,418) $ (53,845) A Stock-based compensation 26,648 28,213 51,872 51,038 Amortization of acquired intangibles 738 372 1,476 926 Charitable contribution — 1,000 — 1,000 Shareholder litigation 208 110 243 230 Acquisition-related transactions 158 344 192 344 Workforce reduction 46 — 265 — Non-GAAP income (loss) from operations $ 9,559 $ (151) $ 15,630 $ (307) GAAP operating margin (17) % (31) % (18) % (28) % Non-GAAP operating margin 9 % — % 7 % — % Net (Loss) Income and Net (Loss) Income Per Share Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Reconciliation of net (loss) income: GAAP net loss $ (22,562) $ (29,910) $ (41,857) $ (53,078) A Stock-based compensation 26,648 28,213 51,872 51,038 Amortization of acquired intangibles 738 372 1,476 926 Charitable contribution — 1,000 — 1,000 Shareholder litigation 208 110 243 230 Change in fair value of warrant liability 4,786 (4,523) 4,756 (8,896) Acquisition-related transactions 158 344 192 344 Workforce reduction 46 — 265 — Non-GAAP net income (loss) $ 10,022 $ (4,394) $ 16,947 $ (8,436) GAAP net loss per share, basic and diluted 1 $ (0.16) $ (0.23) $ (0.30) $ (0.41) Non-GAAP net income (loss) per share, basic and diluted 1 $ 0.07 $ (0.03) $ 0.12 $ (0.07) _________________________________ (1) For the three months ended July 31, 2023 and 2022, GAAP and Non-GAAP net (loss) income per share are calculated based upon 138.6 million and 130.3 million basic and diluted weighted-average shares of common stock, respectively. For the six months ended July 31, 2023 and 2022, GAAP and Non-GAAP net (loss) income per share are calculated based upon 137.4 million and 129.4 million basic and diluted weighted-average shares of common stock, respectively. 32 Adjusted Free Cash Flow Adjusted free cash flow is a non-GAAP measure that excludes acquisition-related costs (including integration-related charges) and expenses related to non-ordinary course litigation (including settlement charges) from GAAP operating cash flows, and includes capital expenditures. We include the impact of net purchases of property and equipment in our adjusted free cash flow calculation because we consider these capital expenditures to be a necessary component of our ongoing operations. We consider adjusted free cash flow to be a liquidity measure that provides useful information to management and investors about the amount of cash generated by our business, excluding such expenditures that are not related to our ongoing operations, but it is not intended to represent the residual cash flow available for discretionary expenditures. Three Months Ended July 31, Six Months Ended July 31, 2023 2022 2023 2022 Net cash provided by (used in) operating activities (GAAP) $ 5,388 $ (4,801) $ 19,981 $ 2,182 A Shareholder litigation 726 161 753 183 Acquisition-related costs 91 — 107 — L Purchases of property and equipment (2,181) (2,821) (3,838) (6,084) Adjusted free cash flow (non-GAAP) $ 4,024 $ (7,461) $ 17,003 $ (3,719) Net cash provided by (used in) investing activities (GAAP) $ 74,719 $ (142,619) $ 95,021 $ (146,506) Net cash provided by financing activities (GAAP) $ 5,190 $ 4,046 $ 5,727 $ 238,428 Constant Currency Revenue We provide subscription revenue and total revenue, including year-over-year growth rates, adjusted to remove the impact of foreign currency rate fluctuations, which we refer to as constant currency. We believe providing revenue on a constant currency basis helps our investors to better understand our underlying performance. We calculate constant currency in a given period by applying the average currency exchange rates in the comparable period of the prior year to the local currency revenue in the current period. Three Months Ended July 31, Six Months Ended July 31, 2023 2022 % Change 2023 2022 % Change (dollars in thousands) (dollars in thousands) Subscription revenue (GAAP) $ 95,473 $ 83,811 14 % $ 185,184 $ 162,311 14 % Effects of foreign currency rate fluctuations 2,032 4,773 Subscription revenue on a constant currency basis (Non-GAAP) $ 97,505 16 % $ 189,957 17 % Total revenue (GAAP) $ 108,048 $ 98,775 9 % $ 211,143 $ 191,974 10 % Effects of foreign currency rate fluctuations 2,003 4,881 Total revenue on a constant currency basis (Non-GAAP) $ 110,051 11 % $ 216,024 13 % 33 Comparison of the Three Months Ended July 31, 2023 and 2022 Revenue Three Months Ended July 31, 2023 2022 $ Change % Change (dollars in thousands) Reve Subscription $ 95,473 $ 83,811 $ 11,662 14 % Professional services 12,575 14,964 (2,389) (16) % Total revenue $ 108,048 $ 98,775 $ 9,273 9 % Percentage of reve Subscription 88 % 85 % Professional services 12 15 Total revenue 100 % 100 % Subscription revenue increased by $11.7 million, or 14%, for the three months ended July 31, 2023 compared to the three months ended July 31, 2022. The increase was driven by growth in our customer base, with new customers contributing approximately $3.4 million of the increase in subscription revenue, and increased transaction volume and sales of additional products to our existing customers contributing the remainder. We calculate subscription revenue from new customers during the quarter by adding the revenue recognized from new customers acquired in the 12 months prior to the reporting date. Professional services revenue decreased by $2.4 million, or (16)%, for the three months ended July 31, 2023 primarily as a result of our continuing strategy to shift more professional services work to our system integration partners, who have recently taken on a broader project scope. On a constant currency basis, subscription revenue was $97.5 million and increased 16%, and total revenue was $110.1 million and increased 11%, for the three months ended July 31, 2023 compared to the three months ended July 31, 2022. Cost of Revenue and Gross Margin Three Months Ended July 31, 2023 2022 $ Change % Change (dollars in thousands) Cost of reve Subscription $ 21,338 $ 19,572 $ 1,766 9 % Professional services 16,443 19,077 (2,634) (14) % Total cost of revenue $ 37,781 $ 38,649 $ (868) (2) % Gross margin: Subscription 78 % 77 % Professional services (31) (27) Total gross margin 65 % 61 % Cost of subscription revenue increased by $1.8 million, or 9%, for the three months ended July 31, 2023 compared to the three months ended July 31, 2022. The increase in cost of subscription revenue was primarily due to increases of $1.1 million in data center costs and $0.6 million in allocated overhead, as well as $1.4 million in aggregate costs related to amortization of capitalized internal-use software and purchased technology, employee compensation, and third-party software; partially offset by a decrease of $1.4 million in outside professional services costs. 34 Cost of professional services revenue decreased by $2.6 million, or (14)%, for the three months ended July 31, 2023 compared to the three months ended July 31, 2022. The decrease in cost of professional services revenue was primarily due to decreases of $1.3 million in employee compensation costs and $1.2 million in outside professional services costs. Our gross margin for subscription services increased to 78% for the three months ended July 31, 2023 compared to 77% for the three months ended July 31, 2022, primarily due to increased subscription revenue. We expect our subscription gross margin to remain relatively flat for the remainder of the fiscal year. Our gross margin for professional services decreased to (31)% for the three months ended July 31, 2023 compared to (27)% for the three months ended July 31, 2022, primarily due to decreased professional services revenue. Operating Expenses Research and Development Three Months Ended July 31, 2023 2022 $ Change % Change (dollars in thousands) Research and development $ 26,256 $ 26,354 $ (98) — % Percentage of total revenue 24 % 27 % Research and development expense was flat for the three months ended July 31, 2023 compared to the three months ended July 31, 2022, primarily due to a decrease of $1.8 million in outside professional services costs, offset by increases of $0.8 million in employee compensation costs driven by increased headcount, $0.5 million in allocated overhead, and a $0.5 million decrease in capitalization of internal-use software costs compared to prior year. Research and development expense decreased to 24% of total revenue for the three months ended July 31, 2023 from 27% for the three months ended July 31, 2022 primarily due to subscription revenue growth. Sales and Marketing Three Months Ended July 31, 2023 2022 $ Change % Change (dollars in thousands) Sales and marketing $ 42,799 $ 45,146 $ (2,347) (5) % Percentage of total revenue 40 % 46 % Sales and marketing expense decreased by $2.3 million, or (5)%, for the three months ended July 31, 2023 compared to the three months ended July 31, 2022, primarily due to employee related compensation costs. Sales and marketing expense decreased to 40% of total revenue during the three months ended July 31, 2023 from 46% during the three months ended July 31, 2022, as a result of both subscription revenue growth and decreased employee related compensation costs. 35 General and Administrative Three Months Ended July 31, 2023 2022 $ Change % Change (dollars in thousands) General and administrative $ 19,451 $ 18,816 $ 635 3 % Percentage of total revenue 18 % 19 % General and administrative expense increased by $0.6 million, or 3%, for the three months ended July 31, 2023 compared to the three months ended July 31, 2022, primarily due to an increase of $1.4 million in employee compensation costs driven by increased stock-based compensation expense, partially offset by a decrease of $1.0 million in charitable donations. General and administrative expense decreased to 18% of total revenue during the three months ended July 31, 2023 from 19% of total revenue during the three months ended July 31, 2022, primarily due to subscription revenue growth. Other income and expenses Three Months Ended July 31, 2023 2022 $ Change % Change (dollars in thousands) Change in fair value of warrant liability $ (4,786) $ 4,524 $ (9,310) (206) % Interest expense $ (4,607) $ (4,419) $ (188) 4 % Interest and other income (expense), net $ 5,657 $ 704 $ 4,953 704 % During the three months ended July 31, 2023 we recognized a $4.8 million loss on revaluation of the liability-classified Warrants issued in connection with the 2029 Notes, compared to a $4.5 million gain recognized in the three months ended July 31, 2022. The fair value of our warrant liability fluctuates primarily due to changes in the fair market value of our common stock. Interest expense on our debt was relatively consistent compared to last year. Interest and other income (expense), net increased $5.0 million primarily due to increased interest income from higher interest rates on our investments and cash equivalents, and gains resulting from the revaluation of cash, accounts receivable, and accounts payable recorded in a foreign currency. Income Tax Provision Three Months Ended July 31, 2023 2022 $ Change % Change (dollars in thousands) Income tax provision $ 587 $ 529 $ 58 11 % We are subject to federal and state income taxes in the United States and taxes in foreign jurisdictions. For the three months ended July 31, 2023 and 2022, we recorded a tax provision of $0.6 million and $0.5 million, respectively, on a loss before income taxes of $22.0 million and $29.4 million, respectively. The effective tax rate for the three months ended July 31, 2023 and 2022 was (2.7)% and (1.8)%, respectively. The change in the effective tax rate was due primarily to an increase in foreign tax expense. The effective tax rate differs from the statutory rate primarily as a result of providing no benefit on pretax losses incurred in the United States. For the three months ended July 31, 2023 and 2022, we maintained a full valuation allowance on our U.S. federal and state net deferred tax assets as it was more likely than not that those deferred tax assets will not be realized. 36 Comparison of the Six Months Ended July 31, 2023 and 2022 Revenue Six Months Ended July 31, 2023 2022 $ Change % Change (dollars in thousands) Reve Subscription $ 185,184 $ 162,311 $ 22,873 14 % Professional services 25,959 29,663 (3,704) (12) % Total revenue $ 211,143 $ 191,974 $ 19,169 10 % Percentage of reve Subscription 88 % 85 % Professional services 12 15 Total revenue 100 % 100 % Subscription revenue increased by $22.9 million, or 14%, for the six months ended July 31, 2023 compared to the six months ended July 31, 2022. The increase was driven by growth in our customer base, with new customers contributing approximately $6.9 million of the increase in subscription revenue for the six months ended July 31, 2023 compared to the six months ended July 31, 2022 , and increased transaction volume and sales of additional products to our existing customers contributing the remainder. We calculate subscription revenue from new customers on a year-to-date basis by adding the revenue recognized from new customers acquired in the 12 months prior to each discrete quarter within the year-to-date period. Professional services revenue decreased by $3.7 million, or (12)%, for the six months ended July 31, 2023 compared to the six months ended July 31, 2022, largely driven by our continuing strategy to shift more services work to our system integration partners. On a constant currency basis, subscription revenue was $190.0 million and increased 17%, and total revenue was $216.0 million and increased 13%, for the six months ended July 31, 2023 compared to the six months ended July 31, 2022 . Cost of Revenue and Gross Margin Six Months Ended July 31, 2023 2022 $ Change % Change (dollars in thousands) Cost of reve Subscription $ 41,926 $ 38,297 $ 3,629 9 % Professional services 33,201 36,587 (3,386) (9) % Total cost of revenue $ 75,127 $ 74,884 $ 243 — % Gross margin: Subscription 77 % 76 % Professional services (28) (23) Total gross margin 64 % 61 % Cost of subscription revenue increased by $3.6 million, or 9%, for the six months ended July 31, 2023 compared to the six months ended July 31, 2022. The increase in cost of subscription revenue was primarily driven by increases of $1.5 million related to amortization of capitalized internal-use software costs and purchased technology, $1.5 million in employee compensation costs, $1.4 million in data center related costs, $0.7 million in allocated overhead, and $0.5 million in third-party software costs, partially offset by a decrease of $2.1 million in outside professional services costs. 37 Cost of professional services revenue decreased by $3.4 million, or (9)%, for the six months ended July 31, 2023 compared to the six months ended July 31, 2022. The decrease in cost of professional services revenue was primarily driven by decreases of $2.6 million in outside professional services costs and $0.7 million in employee compensation costs. Our gross margin for subscription services increased to 77% for the six months ended July 31, 2023, compared to 76% for the six months ended July 31, 2022. Our gross margin for professional services decreased to (28)% for the six months ended July 31, 2023 compared to (23)% for the six months ended July 31, 2022, primarily due to decreased professional services revenue. Operating Expenses Research and Development Six Months Ended July 31, 2023 2022 $ Change % Change (dollars in thousands) Research and development $ 51,924 $ 49,226 $ 2,698 5 % Percentage of total revenue 25 % 26 % Research and development expense increased by $2.7 million, or 5%, for the six months ended July 31, 2023 compared to the six months ended July 31, 2022. The increase in research and development expense was primarily driven by an increase of $3.5 million in employee compensation costs driven by increased headcount, a $1.0 million decrease in capitalization of internal-use software costs compared to prior year, and increases of $0.7 million in allocated overhead and $0.5 million in travel costs, partially offset by a decrease of $3.0 million in outside professional services costs. Research and development expense decreased to 25% from 26% of total revenue during the six months ended July 31, 2023 compared to six months ended July 31, 2022 primarily due to subscription revenue growth. Sales and Marketing Six Months Ended July 31, 2023 2022 $ Change % Change (dollars in thousands) Sales and marketing $ 84,243 $ 85,603 $ (1,360) (2) % Percentage of total revenue 40 % 45 % Sales and marketing expense decreased by $1.4 million, or 2%, for the six months ended July 31, 2023 compared to the six months ended July 31, 2022, primarily due to a decrease of $2.1 million in employee compensation costs driven by decreased headcount and stock-based compensation expense, and $1.1 million reduced allocated overhead, partially offset by increases of $1.0 million in event costs and $0.5 million in travel costs. Sales and marketing expense decreased to 40% of total revenue during the six months ended July 31, 2023 from 45% during the six months ended July 31, 2022, due to subscription revenue growth and lower costs. 38 General and Administrative Six Months Ended July 31, 2023 2022 $ Change % Change (dollars in thousands) General and administrative $ 38,267 $ 36,106 $ 2,161 6 % Percentage of total revenue 18 % 19 % General and administrative expense increased by $2.2 million, or 6%, for the six months ended July 31, 2023 compared to the six months ended July 31, 2022, primarily due to employee compensation costs driven by increased stock-based compensation expense. General and administrative expense decreased to 18% of total revenue during the six months ended July 31, 2023 compared to 19% during the six months ended July 31, 2022, primarily due to subscription revenue growth. Other income and expenses Six Months Ended July 31, 2023 2022 $ Change % Change (dollars in thousands) Change in fair value of warrant liability $ (4,756) $ 8,896 $ (13,652) (153) % Interest expense $ (8,994) $ (6,203) $ (2,791) 45 % Interest and other income (expense), net $ 11,367 $ (1,089) $ 12,456 1144 % During the six months ended July 31, 2023, we recognized a $4.8 million loss on revaluation of the liability-classified Warrants issued in connection with the 2029 Notes, compared to an $8.9 million gain during the six months ended July 31, 2022. The fair value of our warrant liability fluctuates primarily due to changes in the fair market value of our common stock. Interest expense increased $2.8 million due to the issuance of the Initial Notes on March 24, 2022. Interest and other income (expense), net increased $12.5 million primarily due to increased interest income from higher interest rates on our investments and cash equivalents, and gains resulting from the revaluation of cash, accounts receivable, and payables recorded in a foreign currency. Income Tax Provision Six Months Ended July 31, 2023 2022 $ Change % Change (dollars in thousands) Income tax provision $ 1,056 $ 837 $ 219 26 % We are subject to federal and state income taxes in the United States and taxes in foreign jurisdictions. For the six months ended July 31, 2023 and 2022, we recorded a tax provision of $1.1 million and $0.8 million, respectively, on losses before income taxes of $40.8 million and $52.2 million, respectively. The effective tax rates for the six months ended July 31, 2023 and 2022 were (2.6)% and (1.6)%, respectively. The change was due primarily to an increase in foreign tax expenses. The effective tax rate differs from the statutory rate primarily as a result of no benefit on pretax losses incurred in the United States. For the six months ended July 31, 2023 and 2022, we maintained a full valuation allowance on our U.S. federal and state net deferred tax assets as it was more likely than not that those deferred tax assets will not be realized. Liquidity and Capital Resources Liquidity is a measure of our ability to access sufficient cash flows to meet the short-term and long-term cash requirements of our business operations. As of July 31, 2023, we had cash and cash equivalents and short-term investments of $406.2 million that were primarily invested in deposit accounts, money market funds, corporate debt securities, commercial paper, and U.S. government securities. We do not enter into investments for trading or speculative purposes. 39 We finance our operations primarily through sales to our customers, which are generally billed in advance on an annual or quarterly basis. Customers with annual or multi-year contracts are generally only billed one annual period in advance. We also finance our operations through proceeds from the issuance of the 2029 Notes to Silver Lake, which includes $250.0 million raised in March 2022 and an additional $150.0 million we expect to raise in September 2023. In connection with the 2029 Notes, we issued Warrants for 7.5 million shares of our Class A common stock that are exercisable between $20.00 - $24.00 per share which, if exercised, would contribute additional liquidity to our business. Additionally, we have $30.0 million of available credit to finance our operations through our undrawn credit facility. See Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock of the Notes to Condensed Consolidated Financial Statements for more information about our 2029 Notes, Warrants, and credit facility. We also generate cash proceeds from the exercise of stock options and the issuance of stock under our employee stock purchase plan. We believe our existing cash and cash equivalents, marketable securities, and cash flow from operations (in periods in which we generate cash flow from operations) will be sufficient for at least the next 12 months to meet our requirements and plans for cash, including meeting our working capital requirements and capital expenditure requirements, servicing our debt, and paying the settlement of the securities class action litigation matters described in Note 13. Commitments and Contingencies . In the long term, our ability to support our requirements and plans for cash, including meeting our working capital and capital expenditure requirements, will depend on many factors, including our revenue growth rate, the timing and the amount of cash received from customers, the expansion of sales and marketing activities, the timing and extent of spending to support research and development efforts, the repayment of the 2029 Notes, the cost to develop and support our offering, the introduction of new products and services, the continuing adoption of our products by customers, any acquisitions or investments that we make in complementary businesses, products, and technologies, and our ability to obtain equity or debt financing. We continually evaluate our capital needs and may decide to raise additional capital to fund the growth of our business for general corporate purposes through public or private equity offerings or through additional debt financing. We also may in the future make investments in or acquire businesses or technologies that could require us to seek additional equity or debt financing. To facilitate acquisitions or investments, we may seek additional equity or debt financing, which may not be available on terms favorable to us or at all. Sales of additional equity could result in dilution to our stockholders. We expect proceeds from the exercise of stock options in future years to be impacted by the increased mix of restricted stock units versus stock options granted to employees and to vary based on our share price. Cash Flows The following table summarizes our cash flows for the periods indicated (in thousands): Six Months Ended July 31, 2023 2022 Net cash provided by operating activities $ 19,981 $ 2,182 Net cash provided by (used in) investing activities 95,021 (146,506) Net cash provided by financing activities 5,727 238,428 Effect of exchange rates on cash and cash equivalents (687) (675) Net increase in cash and cash equivalents $ 120,042 $ 93,429 Operating Activities Net cash provided by operating activities of $20.0 million for the six months ended July 31, 2023 was comprised primarily of customer collections for our subscription and professional services, cash payments for our personnel, sales and marketing efforts and infrastructure related costs, payments to vendors for products and services related to our ongoing business operations, interest income received on our short-term investments and cash equivalents, and interest paid on the Initial Notes. Net cash provided by operating activities for the six months ended July 31, 2023 increased $17.8 million compared to the same period last year, primarily due to increased customer collections and the timing of payments. 40 Investing Activities Net cash provided by investing activities for the six months ended July 31, 2023 was $95.0 million. We used $3.8 million to purchase property and equipment and to develop internal-use software as we continue to invest in and grow our business; had maturities of $103.4 million of short-term investments, net of purchases; and paid $4.5 million of contingent consideration in connection with the acquisition of Zephr. Net cash provided by investing activities for the six months ended July 31, 2023 increased $241.5 million compared to the six months ended July 31, 2022, primarily due to $103.4 million net maturities of short-term investments in the six months ended July 31, 2023, compared to $140.4 million net purchases last year. Payments for property and equipment were $2.2 million lower compared to the same period last year, primarily due to decreased capitalization of internal-use software in the six months ended July 31, 2023. The increases to cash provided by investing activities were partially offset by $4.5 million cash paid of contingent consideration in connection with the acquisition of Zephr in the six months ended July 31, 2023. Financing Activities Net cash provided by financing activities for the six months ended July 31, 2023 of $5.7 million was due to $4.8 million of proceeds from issuance of common stock under the ESPP, and $1.0 million of proceeds from stock option exercises. Net cash provided by financing activities for the six months ended July 31, 2023 decreased $232.7 million compared to the six months ended July 31, 2022, primarily due to $233.9 million in proceeds from issuance of the Initial Notes in the six months ended July 31, 2022. Obligations and Other Commitments Our material cash requirements from known contractual and other obligations consist of obligations under our operating leases for office space, the 2029 Notes, the settlement of a consolidated class action litigation, and a contractual commitment to one of our vendors for cloud computing services. For more information, please refer to Note 12. Leases, Note 9. Debt and Note 13. Commitments and Contingencies, respectively, of the Notes to Condensed Consolidated Financial Statements . As of July 31, 2023, our contractual obligations totaled $435.7 million with $95.9 million committed within the next twelve months. In the ordinary course of business, we enter into agreements of varying scope and terms pursuant to which we agree to indemnify customers, vendors, lessors, business partners, and other parties with respect to certain matters, including, but not limited to, losses arising out of the breach of such agreements, services to be provided by us, or from data breaches or intellectual property infringement claims made by third parties. In addition, we have entered into indemnification agreements with our directors and certain officers and employees that will require us, among other things, to indemnify them against certain liabilities that may arise by reason of their status or service as directors, officers, or employees. As of July 31, 2023, no demands had been made upon us to provide indemnification under such agreements and there were no claims that we are aware of that could have a material effect on our unaudited condensed consolidated balance sheets, unaudited condensed consolidated statements of comprehensive loss, or unaudited condensed consolidated statements of cash flows. Critical Accounting Policies and Estimates Our unaudited condensed consolidated financial statements are prepared in accordance with U.S. GAAP. The preparation of these unaudited condensed consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the applicable periods. We evaluate our estimates and assumptions on an ongoing basis. Our estimates are based on historical experience and various other factors that we believe to be reasonable under the circumstances. Our actual results could differ from these estimates. Refer to Critical Accounting Estimates within Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for further information on critical accounting estimates. Our significant accounting policies are discussed in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements in our Annual Report on Form 10-K. Any significant changes to these policies 41 during the six months ended July 31, 2023 are described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements to our unaudited condensed consolidated financial statements provided herein. Recent Accounting Pronouncements - Not Yet Adopted As of July 31, 2023, there were no recently issued accounting pronouncements not yet adopted that are expected to have a material impact on our unaudited condensed consolidated financial statements. Item 3. Quantitative and Qualitative Disclosures About Market Risk We are exposed to certain market risks in the ordinary course of our business. Market risk represents the risk of loss that may impact our financial position due to adverse changes in financial market prices and rates. Our market risk exposure is primarily a result of fluctuations in foreign currency exchange rates and interest rates. Foreign Currency Exchange Risk Our sales contracts are denominated predominantly in U.S. Dollars, Euros, British Pounds (GBP), and Japanese Yen. A portion of our operating expenses are incurred outside the United States and denominated in foreign currencies and are subject to fluctuations due to changes in foreign currency exchange rates, particularly changes in the GBP, Chinese Yuan and Indian Rupee. Additionally, fluctuations in foreign currency exchange rates may cause us to recognize transaction gains and losses in our unaudited condensed consolidated statement of comprehensive loss. The effect of a hypothetical 10% change in foreign currency exchange rates applicable to our business would not have a material impact on our unaudited condensed consolidated financial statements for the six months ended July 31, 2023 and 2022. Given the impact of foreign currency exchange rates has not been material to our historical operating results, we have not entered into derivative or hedging transactions, but we may do so in the future if our exposure to foreign currency should become more significant. As our international operations grow, we will continue to reassess our approach to manage our risk relating to fluctuations in currency rates. Interest Rate Risk We had cash and cash equivalents and short-term investments of $406.2 million as of July 31, 2023. Our cash and cash equivalents and short-term investments are held for working capital purposes. We do not make investments for trading or speculative purposes. A significant decrease in these market rates may adversely affect our expected operating results. The 2029 Notes have a fixed interest rate and therefore are not impacted by market rates. Our cash equivalents and short-term investments are subject to market risk due to changes in interest rates. Fixed rate securities may have their market value adversely affected due to a rise in interest rates. Due in part to these factors, our future investment income may fall short of our expectations due to changes in interest rates or we may suffer losses in principal if we are forced to sell securities that decline in market value due to changes in interest rates. However, because we classify our short-term investments as “available for sale,” no gains or losses are recognized due to changes in interest rates unless such securities are sold prior to maturity or decreases in fair value are determined to be other-than-temporary. As of July 31, 2023, a hypothetical 10% relative change in interest rates would not have had a material impact on the value of our cash equivalents and short-term investments or interest owed on our outstanding debt. Fluctuations in the value of our cash equivalents and short-term investments caused by a change in interest rates (gains or losses on the carrying value) are recorded in other comprehensive income, and are realized only if we sell the underlying securities prior to maturity. In addition, a hypothetical 10% relative change in interest rates would not have had a material impact on our operating results for the six months ended July 31, 2023. 42 Item 4. Controls and Procedures Evaluation of Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of July 31, 2023. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that as of July 31, 2023, our disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed in the reports we file and submit under the Exchange Act is recorded, processed, summarized and reported as and when required, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding its required disclosure. Changes in Internal Control Over Financial Reporting There was no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the period covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. Inherent Limitations on Effectiveness of Controls Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected. Accordingly, our disclosure controls and procedures provide reasonable assurance of achieving their objectives. 43 PART II—OTHER INFORMATION Item 1. Legal Proceedings For information regarding legal proceedings, see Note 13. Commitments and Contingencies of the Notes to Condensed Consolidated Financial Statements included in Item 1. Financial Statements of this Form 10-Q, which is incorporated by reference into this Item 1. Legal Proceedings . Item 1A. Risk Factors An investment in our common stock involves a high degree of risk, and the following is a summary of key risk factors when considering an investment. You should read the summary risks together with the more detailed discussion of risks set forth following this summary, as well as elsewhere in this Quarterly Report on Form 10-Q. Additional risks, beyond those summarized below or discussed elsewhere in this Quarterly Report on Form 10-Q, may apply to our activities or operations as currently conducted or as we may conduct them in the future or in the markets in which we operate or may in the future operate. Risks Related to Our Business and Industry • If we are unable to attract new customers and retain and expand sales to existing customers, our revenue growth could be slower than we expect and our business would be adversely affected. • Current and future economic uncertainty and other unfavorable conditions in our industry or the global economy could limit our growth and negatively affect our operating results. • If we fail to manage our growth and profitability plans effectively, our business, operating results, and financial condition could be adversely affected. • If the market for monetization platform software and related solutions, and consumer adoption of products and services that are provided through such solutions, develops slower than we expect, our growth may slow or stall, and our operating results could be adversely affected. • If we are unable to successfully execute our strategic initiatives, such as increasing our sales to large enterprise customers and expanding and strengthening our sales channels and relationships with system integrators, our business, operating results and financial condition could be adversely affected. • If we are unable to recruit or retain senior management or other key personnel and maintain our corporate culture, we may not be able to execute on our business strategy. • Currency exchange rate fluctuations may adversely affect our results of operations, which are reported in U.S. Dollars. • If we are unable to effectively compete in the market for our solutions or such markets develop slower than we expect our business, operating results, and financial condition would be adversely affected. • We have a history of net losses and may not achieve or sustain profitability. • Our revenue growth and ability to achieve and sustain profitability will depend, in part, on our ability to increase productivity of our sales force. • Our success depends in large part on a limited number of products, and if these products fail to gain market acceptance or our product development efforts are unsuccessful, our business, operating results, and financial condition could be adversely affected. • We face risks related to our debt obligations, including our convertible senior unsecured notes and warrants. • Our operating results, which are influenced by a variety of factors, have fluctuated in the past and may continue to fluctuate, making our future results difficult to predict accurately. • If we are not able to successfully and timely develop, enhance and deploy our products and multi-product strategy, our business, operating results, financial condition and growth prospects could be adversely affected. • We may be unable to integrate businesses we have or will acquire or to achieve expected benefits of such acquisitions. 44 • Our international operations expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. • If we fail to integrate our solution with a variety of systems, applications and platforms that are developed by others, our solution may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy • If our security measures are breached or if unauthorized access to customer, employee or other confidential data is otherwise obtained, or if our solution is perceived as not being secure, we may lose existing customers or fail to attract new customers, our business may be harmed and we may incur significant liabilities. • Privacy and security concerns, laws, and regulations, may reduce the effectiveness of our solution and adversely affect our business. • Failure to protect our intellectual property could adversely affect our business. • Any disruptions of service from our public cloud providers could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. Risks Related to Legal, Regulatory, Accounting, and Tax Matters • Adverse litigation judgments or settlements could expose us to significant monetary damages or limit our ability to operate our business. • If we are not able to satisfy government and industry-specific requirements, such as data protection, security, privacy, and export laws, our growth could be harmed. Risks Related to Ownership of Our Class A Common Stock • The market price of our Class A common stock has been, and will likely continue to be, volatile, and you could lose all or part of the value of your investment. • The dual class structure of our common stock has the effect of concentrating substantial influence with holders of our Class B common stock, including our CEO and his affiliates, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. Risks Related to Our Business and Industry If we are unable to attract new customers and retain and expand sales to existing customers, our revenue growth could be slower than we expect, and our business may be adversely affected. Our ability to achieve significant growth in revenue in the future will depend, in large part, upon our ability to attract new customers. This may be particularly challenging where an organization has already invested substantial personnel and financial resources to integrate billings and other business and financial management tools, including custom-built solutions, into its business, as such an organization may be reluctant or unwilling to invest in new products and services. As a result, selling our solution often requires sophisticated and costly sales efforts that are targeted at senior management. During the six months ended July 31, 2023, sales and marketing expenses represented approximately 40% of our total revenue. If we fail to attract new customers and fail to maintain and expand new customer relationships, our revenue may grow more slowly than we expect and our business may be adversely affected. Our future revenue growth also depends upon retaining and expanding sales and renewals of subscriptions to our solution with existing customers. If our existing customers do not expand their use of our solution over time or do not renew their subscriptions or if we receive requests from an increased number of customers for changes to payment or other terms as a result of the impact of macroeconomic conditions, including global economic uncertainty and increasing inflation and interest rates, on their businesses, our revenue may grow more slowly than expected, may not grow at all, or may decline. Our success is also dependent, in part, on our ability to effectively 45 differentiate and cross-sell our products. If we experience issues with successfully implementing or cross-selling our products, revenue may grow more slowly or may not grow at all. Our sales and marketing efforts also may be impacted by macroeconomic conditions and other events beyond our control. In light of current macroeconomic conditions and uncertainty, certain customers and prospective customers have reduced or delayed technology or other discretionary spending or otherwise are cautious about purchasing decisions and, as a result, we are experiencing longer sales cycles. If the impacts to customers and prospective customers of current macroeconomic conditions and uncertainty persist or worsen, our business, operating results, financial conditions and prospects could be materially and adversely affected. While we expect to expand our sales efforts, both domestically and internationally in the long term, in November 2022, we approved a workforce reduction impacting approximately 11% of our workforce. This reduction disproportionately impacted our go-to-market organization and consequently may adversely impact our ability to achieve our future operational targets. In the future, we may be unable to hire qualified sales personnel, may be unable to successfully train those sales personnel that we are able to hire, and sales personnel may not become fully productive on the timelines that we have projected or at all. Further, although we dedicate significant resources to sales and marketing programs, these sales and marketing programs may not have the desired effect and may not expand sales. We cannot assure you that our efforts would result in increased sales to existing customers and additional revenue. If our efforts to expand sales and renewals to existing customers are not successful, our business and operating results could be adversely affected. Our customers generally enter into subscription agreements with terms of one to five years and have no obligation to renew their subscriptions after the expiration of their initial subscription period. Moreover, our customers that do renew their subscriptions may renew for lower subscription or usage amounts or for shorter subscription periods. In addition, in the first year of a subscription, customers often purchase an increased level of professional services (such as deployment services) than they do in renewal years. Costs associated with maintaining a professional services department are relatively fixed in the short term while professional services revenue is dependent on the amount of billable work actually performed for customers in a period, the combination of which may result in variability in, and have a negative impact on, our gross profit. Customer renewals may decline or fluctuate as a result of a number of factors, including the breadth of early deployment, reductions in our customers’ spending levels, higher volumes of usage purchased upfront relative to actual usage during the subscription term, changes in customers’ business models and use cases, our customers’ satisfaction or dissatisfaction with our solution, our pricing or pricing structure, the pricing or capabilities of products or services offered by our competitors, or the effects of general macroeconomic conditions. If our customers do not renew their agreements with us, or renew on terms less favorable to us, our revenue may decline. Current and future economic uncertainty and other unfavorable conditions in our industry or the global economy have and may continue to limit our ability to grow our business and negatively affect our operating results. Our operating results may vary based on the impact of changes in the U.S. and global economy, including the effects of recession, fluctuations in inflation and interest rates, bank failures, debt ceiling negotiations, and general economic downturns, which can arise suddenly. As a result of current weakened macroeconomic conditions and uncertainty, and related corporate cost cutting and tighter budgets, we are experiencing longer sales cycles and collection periods. Prolonged macroeconomic weakness and uncertainty could continue to adversely affect the ability or willingness of our current and prospective customers to purchase or expand their purchase of our products, further delay customer purchasing decisions, reduce the value of customer contracts, affect attrition rates, or further lengthen collection periods, any of which could materially and adversely affect our business, operating results, financial conditions and prospects. We cannot predict the timing, strength, or duration of any economic downturn. Moreover, there has been recent turmoil in the global banking system, and continued disruptions in the banking system, both in the U.S. or abroad, may impact our or our customers’ liquidity and, as a result, negatively impact our business and operating results. If we fail to manage our growth and profitability plans effectively, our business, operating results, and financial condition could be adversely affected. If we are unable to manage our growth and profitability plans effectively, which may continue to be impacted by macroeconomic conditions and other factors outside of our control, our business, operating results, and financial condition could be adversely affected. To manage growth in our operations and personnel, we will need to continue 46 to improve and achieve efficiencies with respect to our operational, financial, and management controls and our reporting systems and procedures, including improving timely access to operational information to optimize business decisions. Failure to manage growth and profitability plans effectively could result in difficulty or delays in deploying customers, declines in quality or customer satisfaction, increases in costs, difficulties in introducing new products and services or enhancing existing products and services, loss of customers, or other operational difficulties in executing sales strategies, any of which could adversely affect our business performance and operating results. If the market for monetization platform software and related solutions, and consumer adoption of products and services that are provided through such solutions, develops slower than we expect, our growth may slow or stall, and our operating results could be adversely affected. Our success depends on companies investing in monetization solutions, including subscription or consumption management, revenue recognition and subscriber experience software and products, and consumers choosing to consume products and services through such solutions. Companies may be unwilling or unable to invest in monetization solutions due to the significant cost of such solutions or if they do not believe that the consumers of their products and services would be receptive to offerings on such monetization solutions, or they may choose to invest in such solutions more slowly than we expect. Our success will also depend, to a large extent, on the willingness of large enterprises that have adopted subscription or consumption business models utilizing cloud-based products and services to manage billings and financial accounting relating to their offerings. In addition, those enterprises that do shift to a subscription model may decide that they do not need a solution that offers the range of functionalities that we offer. Many companies have invested substantial effort and financial resources to develop custom-built applications or integrate traditional enterprise software into their businesses as they adopt recurring revenue business models and may be reluctant or unwilling to switch to different applications. Factors that may affect market acceptance and sales of our products and services inclu • the number of companies shifting to subscription business models; • the number of consumers and businesses adopting new, flexible ways to consume products and services; • the security capabilities, reliability, and availability of cloud-based services; • customer concerns with entrusting a third party to store and manage their data, especially transaction-critical, confidential, or sensitive data; • our ability to minimize the time and resources required to deploy our solution; • our ability to achieve and maintain high levels of customer satisfaction; • our ability to deploy upgrades and other changes to our solution without disruption to our customers; • the level of customization or configuration we offer; • the overall level of corporate spending and spending on quote-to-cash and revenue recognition solutions by our customers and prospects, including the impact of spending due to macroeconomic conditions; • general macroeconomic conditions, both in domestic and foreign markets, including the impacts associated with rising interest rates and inflation, slower growth or recession, geopolitical unrest and developments such as the ongoing conflict in Ukraine, bank failures, and debt ceiling negotiations; and • the price, performance, and availability of competing products and services. The markets for subscription products and services and for subscription management software may not develop further or may develop slower than we expect. If companies do not shift to subscription business models and subscription management software does not achieve widespread adoption, or if there is a reduction in demand for subscription products and services or subscription management software caused by technological challenges, weakening economic conditions, security or privacy concerns, decreases in corporate spending, a lack of customer acceptance, or otherwise, our business could be materially and adversely affected. In addition, our subscription agreements with our customers generally provide for a minimum monetization platform fee and usage-based fees, which depend on the total dollar amount that is invoiced or managed on our solution, or the total usage of our solution. Because a portion of our revenue depends on the volume of transactions that our customers process through our solution, if our customers do not adopt our solution throughout their business, if their businesses decline 47 or fail, or if they are unable to successfully shift to subscription business models, including if they fail to successfully deploy our solution, our revenue could decline and our operation results could be adversely impacted. If we are unable to grow our sales channels and our relationships with strategic partners, such as system integrators, management consulting firms, and resellers, sales of our products and services may suffer and our growth could be slower than we project. In addition to our direct sales force, we use strategic partners, such as system integrators, management consulting firms, strategic technology partners and resellers, to market, sell, and implement our solution. Historically, we have used these strategic partners to a limited degree, but we are prioritizing efforts to make these partners an increasingly important aspect of our business particularly with regard to enterprise and international sales and larger implementations of our products where these partners may have more expertise and established business relationships than we do. We have transitioned and expect to continue to transition a portion of our professional services implementations to these strategic partners, and as a result we expect our professional services revenue as an overall percentage of Zuora's total revenue to continue to decline over time. Our relationships with these strategic partners are still maturing, and we cannot assure you that these partners will be successful in marketing, selling or implementing our solution. Identifying these partners, negotiating and supporting relationships with them, including training them in how to sell or deploy our solution, and maintaining these relationships requires significant commitment of time and resources that may not yield a significant return on our investment in these relationships. Our future growth in revenue and ability to achieve and sustain profitability depends in part on our ability to identify, establish, and retain successful strategic partner relationships in the United States and internationally, which will take significant time and resources and involve significant risk. If we are unable to establish and maintain our relationships with these partners, or otherwise develop and expand our indirect distribution channel, our business, operating results, financial condition, or cash flows could be adversely affected. We also cannot be certain that we will be able to maintain successful relationships with any strategic partners and, to the extent that our strategic partners are unsuccessful in marketing, selling, or implementing our solution, our business, operating results, and financial condition could be adversely affected. Our strategic partners may market to our customers the products and services of several different companies, including products and services that compete with our solution. Because our strategic partners do not have an exclusive relationship with us, we cannot be certain that they will prioritize or provide adequate resources to marketing our solution. Moreover, divergence in strategy by any of these partners may materially adversely affect our ability to develop, market, sell, or support our solution. We cannot assure you that our strategic partners will continue to cooperate with us. In addition, actions taken or omitted to be taken by such parties may adversely affect us. We are unable to control the quantity or quality of resources that our systems integrator partners commit to deploying our products and services, or the quality or timeliness of such deployment. If our partners do not commit sufficient or qualified resources to these activities, our customers may be less satisfied, or less supportive with references, or may require the investment of our resources at discounted rates. These, and other failures by our partners to successfully deploy our products and services, may have an adverse effect on our business and our operating results. Our business depends largely on our ability to attract and retain talented employees, including senior management, and maintain our corporate culture. If we lose the services of Tien Tzuo, our founder, Chairman, and Chief Executive Officer, or other critical talent across our executive team and in other key roles, or fail to maintain our corporate culture, we may not be able to execute on our business strategy. Our future success depends on our continuing ability to attract, train, engage, assimilate, and retain highly skilled personnel, including software engineers, product management, sales, and professional services personnel. We have historically faced intense competition for qualified individuals from numerous software and other technology companies. Although our voluntary turnover decreased in fiscal 2023 as compared to fiscal 2022, we may experience heightened attrition, including of those with significant institutional knowledge and expertise, negatively impacting productivity and our corporate culture. We may not be able to retain our current key employees, or attract, train, assimilate, or retain other highly skilled personnel in the future, especially in light of uncertain macroeconomic conditions globally. For example, employees may seek new or different opportunities that offer greater compensation or benefits than we offer or are able to offer, making it difficult to retain them. In addition, we may incur significant costs to attract and retain highly skilled personnel, and we may lose new employees to our competitors or other technology companies before we realize the benefit of our investment in recruiting and training them. As we move into new countries, we will need to attract and recruit skilled personnel in those areas. If we are unable to attract and retain suitably qualified individuals who are capable of meeting our growing technical, operational, and managerial requirements on a timely basis or at all, our business may be adversely affected. 48 Further, given that our employees continue to be distributed globally and most of our employees continue to work remotely, we may find it increasingly difficult to maintain the beneficial aspects of our corporate culture that is focused on inclusivity and high performance, underlying the importance of employee connectivity and accountability. Additionally, we may periodically implement business strategies that impact our employees, including changes to our organizational structure or workforce adjustments such as our November 2022 workforce reduction. A workforce reduction or restructuring could have an adverse effect on our business, including creating negative employee morale and hindering our ability to meet operational targets due to loss of employees. To the extent our compensation programs and workplace culture are not viewed as competitive, or changes in our workforce or other initiatives are not viewed favorably, our ability to attract, retain, and motivate employees can be weakened, which could harm our results of operations. Our future success also depends in large part on the continued services of senior management and other key personnel. In particular, we are highly dependent on the services of Tien Tzuo, our founder, Chairman and Chief Executive Officer, who is critical to the development of our technology, platform, future vision, and strategic direction. We rely on our leadership team in the areas of operations, security, marketing, sales, support, and general and administrative functions, and on individual contributors such as those in sales and on our research and development team. Our senior management and other key personnel are all employed on an at-will basis, which means that they could terminate their employment with us at any time and for any reason, such as retirement or career change. If we lose the services of senior management or other key personnel and fail to execute effective succession planning for such key personnel, or if we are unable to attract, train, assimilate, and retain the highly skilled personnel we need, our business, operating results, and financial condition could be adversely affected. Volatility or lack of appreciation in our stock price may also affect our ability to attract and retain our key employees. Many of our senior personnel and other key employees have become, or will soon become, vested in a substantial amount of stock or stock options. Employees may be more likely to leave us if the exercise price of the options that they hold are significantly above the market price of our Class A common stock or, conversely, if the shares they own or the shares underlying their vested options have significantly appreciated in value relative to the original purchase price of such shares or the exercise price of such options. If we are unable to retain our employees, or if we need to increase our compensation expenses, including equity compensation expenses, to retain our employees, our business, results of operations, financial condition, and cash flows could be adversely affected. Currency exchange rate fluctuations may adversely affect our results of operations, which are reported in U.S. Dollars. Our international operations expose us to the effects of fluctuations in currency exchange rates, and may increase the cost of our solution to customers outside of the United States when the U.S. Dollar is stronger relative to other currencies. Currency exchange rate fluctuations have and may continue to adversely affect our business, operating results, financial condition, and cash flows. In addition, we incur expenses for employee compensation and other operating expenses at our non-U.S. locations in the local currency. Fluctuations in the exchange rates between the U.S. Dollar and other currencies could result in the dollar equivalent of such expenses being higher. Furthermore, volatile market conditions arising from macroeconomic conditions and geopolitical events, including the ongoing conflict in Ukraine, may result in significant fluctuations in exchange rates, and, in particular, a weakening of foreign currencies relative to the U.S. Dollar may negatively affect our revenue. This could have a negative impact on our operating results. Although we may in the future decide to undertake foreign exchange hedging transactions to cover a portion of our foreign currency exchange exposure, we currently do not hedge our exposure to foreign currency exchange risks. The market in which we participate is competitive, and our operating results could be harmed if we do not compete effectively. The market for our solutions, including our billing, collections, revenue recognition and subscriber experience offerings, is highly competitive, rapidly evolving, and fragmented, and subject to changing technology, shifting customer needs, and frequent introductions of new products and services. Many of our current and potential competitors have longer operating histories, access to alternative fundraising sources, significantly greater financial, technical, marketing, distribution or professional services experience, or other resources or greater name recognition than we do. In addition, many of our current and potential competitors 49 supply a wide variety of products to, and have strong and well-established relationships with, current and potential customers. As a result, our current and potential competitors may be able to respond more quickly and effectively than we can to new or changing opportunities, technologies, standards, or customer requirements or devote greater resources than we can to the development, promotion, and sale of their products and services. In addition, some current and potential competitors may offer products or services that address one or a limited number of functions at lower prices or with greater depth than our solution, or integrate or bundle such products and services with their other product offerings. Potential customers may prefer to purchase from their existing suppliers rather than from a new supplier. Our current and potential competitors may develop and market new technologies with comparable functionality to our solution. In addition, because our products and services are integral to our customers’ ability to accurately maintain books and records and prepare financial statements, our potential customers may prefer to purchase applications that are critical to their business from one of our larger, more established competitors, or leverage the software that they have already purchased from our competitors for their billing and accounting needs, or control such infrastructure internally. We may experience fewer customer orders, reduced gross margins, longer sales cycles, and loss of market share. This could lead us to decrease prices, implement alternative pricing structures, or introduce products and services available for free or a nominal price in order to remain competitive. We may not be able to compete successfully against current and future competitors, and our business, operating results, and financial condition will be adversely impacted if we fail to meet these competitive pressures. Our ability to compete successfully in our market depends on a number of factors, both within and outside of our control. Some of these factors inclu ease of use; subscription-based product features and functionality; ability to support the specific needs of companies with subscription business models; ability to integrate with other technology infrastructures and third-party applications; enterprise-grade performance and features such as system scalability, security, performance, and resiliency; vision for the market and product innovation; relationships with strategic partners, including system integrators, management consulting firms, and resellers; total cost of ownership; strength of sales and marketing efforts; brand awareness and reputation; and customer experience, including support and professional services. In addition, if we are unable to effectively articulate the value proposition of our solution to customers and prospects, we may face difficulties competing in the market, particularly in the current uncertain macroeconomic environment. Any failure by us to compete successfully in any one of these or other areas may reduce the demand for our solution, as well as adversely affect our business, operating results, and financial condition. Moreover, current and future competitors may also make strategic acquisitions or establish cooperative relationships among themselves or with others, including our current or future technology partners. By doing so, these competitors may increase their ability to meet the needs of our customers or potential customers. These developments could limit our ability to obtain revenue from existing and new customers. If we are unable to compete successfully against current and future competitors, our business, operating results, and financial condition could be adversely impacted. We have a history of net losses, anticipate increasing our operating expenses in the future, and may not achieve or sustain profitability. We have incurred net losses in each fiscal year since inception, including net losses of $198.0 million, $99.4 million, and $73.2 million in fiscal 2023, 2022, and 2021, respectively. We expect to incur net losses for the foreseeable future. As of July 31, 2023, we had an accumulated deficit of $803.3 million. We expect to make significant future expenditures related to the development and expansion of our business, including increasing our overall customer base, expanding relationships with existing customers, entering new vertical markets, expanding our global footprint, expanding and leveraging our relationships with strategic partners including system integrators to accelerate our growth, optimizing pricing and packaging, and expanding our operations and infrastructure, both domestically and internationally, and in connection with legal, accounting, and other administrative expenses related to operating as a public company. These efforts may prove more expensive than we currently anticipate, and we may not succeed in increasing our revenue sufficiently, or at all, to offset these increased expenses. In addition, we may delay or reevaluate some or all of the foregoing initiatives in the event that macroeconomic conditions or other factors beyond our control adversely impact our business or operating results. Any delays or reductions in spending in our business development or expansion efforts may negatively affect our ability to expand our operations and maintain or increase our sales. While our revenue has grown in recent years, if our revenue declines or fails to grow at a rate faster than these increases in our operating expenses, we will not be able to achieve and maintain profitability in future periods. As a result, we may continue to generate losses. We cannot assure you that we will achieve profitability in the future or that, if we do become profitable, we will be able to sustain profitability. 50 Our revenue growth and ability to achieve and sustain profitability will depend, in part, on being able to increase the productivity of our sales force. To date, most of our revenue has been attributable to the efforts of our direct sales force. In order to increase our revenue and achieve and sustain profitability, we must increase the productivity of our direct sales force, both in the United States and internationally, to generate additional revenue from new and existing customers. There is significant competition for sales personnel with the skills and technical knowledge that we require, and we may experience difficulties attracting qualified sales personnel to meet our needs in the future. Because our solution is often sold to large enterprises and involves long sales cycles and complex customer requirements, it is more difficult to find sales personnel with the specific skills and technical knowledge needed to sell our solution and, even if we are able to hire qualified personnel, doing so may be expensive. Our ability to achieve significant revenue growth will depend, in large part, on our success in recruiting, training, and retaining sufficient numbers of direct sales personnel to support our growth. Due to the complexities of our customer needs, new sales personnel require significant training and can take a number of months to achieve full productivity. Our recent hires and planned hires may not become productive as quickly as we expect and if our new sales employees do not become fully productive on the timelines that we have projected or at all, our revenue will not increase at anticipated levels and our ability to achieve long-term projections may be negatively impacted. We may also be unable to hire or retain sufficient numbers of qualified individuals in the markets where we do business or plan to do business. Furthermore, hiring sales personnel in new countries requires additional set up and upfront costs that we may not recover if the sales personnel fail to achieve full productivity. In addition, as we continue to grow, a larger percentage of our sales force will be new to our company and our solution, which may adversely affect our sales if we cannot train our sales force quickly or effectively. Attrition rates may increase, and we may also face integration challenges as we continue to seek to expand our sales force in the long-term. If we are unable to hire and train sufficient numbers of effective sales personnel, if attrition increases, or if the sales personnel are not successful in obtaining new customers or increasing sales to our existing customer base, our business will be adversely affected. We periodically change and make adjustments to our sales organization in response to market opportunities, competitive threats, management changes, product and service introductions or enhancements, acquisitions, sales performance, increases in sales headcount, cost levels, and other internal and external considerations, including potential changes and uncertainties associated with macroeconomic conditions or other factors beyond our control. Any future changes in our sales organization may result in a temporary reduction of productivity, which could negatively affect our rate of growth. In addition, any significant change to the way we structure our compensation of our sales organization may be disruptive and may affect our revenue growth. Our success depends in large part on a limited number of products. If these products fail to gain or lose market acceptance, our business will suffer. We derive substantially all of our revenue and cash flows from sales of subscriptions and associated deployment of our Zuora Platform , Zuora Billing, Zuora Revenue, and Zuora Payments products, and with the acquisition of Zephr, a digital subscriber experience platform, in fiscal 2023, we added the Zephr subscription experience product to our portfolio. As such, the continued growth in market demand for these products is critical to our success. Demand for our solution is affected by a number of factors, many of which are beyond our control, including macroeconomic factors, such as the impacts of inflation and rising interest rates on our customers and prospects, the growth or contraction of the Subscription Economy, continued market acceptance of our solution by customers for existing and new use cases, the timing of development and release of new products and services, features, and functionality introduced by our competitors, changes in accounting standards, laws or regulations, policies, guidelines, interpretations, or principles that would impact the functionality and use of our solution, and technological change. We expect that an increasing transition to disaggregated solutions that focus on addressing specific customer use cases would continue to disrupt the enterprise software space, enabling new competitors to emerge. We cannot assure you that our solutions and future enhancements to our solution will be able to address future advances in technology or the requirements of enterprise customers. If we are unable to meet customer demands in creating a flexible solution designed to address all these needs or otherwise achieve more widespread market acceptance of our solution, our business, operating results, financial condition, and growth prospects would be adversely affected. 51 We face risks related to our debt obligations, including our convertible senior unsecured notes and warrants. In March 2022, we issued $250.0 million aggregate principal amount of convertible senior unsecured notes due in 2029 (Initial Notes) and warrants for 7.5 million shares of our Class A common stock (Warrants) to Silver Lake Alpine II, L.P. (Silver Lake). We have also agreed to issue to Silver Lake an additional $150.0 million in senior unsecured notes in September 2023 (Additional Notes) (together with the Initial Notes, the “2029 Notes”). Our debt obligations under the 2029 Notes could adversely impact us. For example, these obligations coul • require us to use a substantial portion of our cash flow from operations to pay principal and interest on debt, or to repurchase our 2029 Notes when required upon the occurrence of certain events or otherwise pursuant to the terms thereof, which will reduce the amount of cash flow available to fund working capital, capital expenditures, acquisitions, and other business activities; • require us to use cash and/or issue shares of our Class A common stock to settle any obligations; • result in certain of our debt instruments being accelerated or being deemed to be in default if certain terms of default are triggered, such as applicable cross payment default and/or cross-acceleration provisions; • adversely impact our credit rating, which could increase future borrowing costs; • limit our future ability to raise funds for capital expenditures, strategic acquisitions or business opportunities, and other general corporate requirements; • restrict our ability to create or incur liens and engage in other transactions and activity; • increase our vulnerability to adverse economic and industry conditions; • dilute our earnings per share as a result of the conversion provisions in the 2029 Notes; and • place us at a competitive disadvantage compared to our less leveraged competitors. Additionally, due to certain settlement provisions in the Warrants, we have classified a portion of the Warrants as a current liability and revalue the liability on a quarterly basis, which may adversely affect our future operating results and financial condition as reported on a GAAP basis. We also have a $30.0 million revolving credit facility, which is currently undrawn, under an agreement with First Citizens Bank & Trust (which was assumed from Silicon Valley Bank). The credit facility contains restrictive covenants, including limitations on our ability to transfer or dispose of assets, merge with other companies or consummate certain changes of control, acquire other companies, pay dividends or repurchase our stock, incur additional indebtedness and liens and enter into new businesses. We therefore may not be able to engage in any of the foregoing transactions unless we obtain the consent of the lender or terminate the credit facility. Failure to comply with the covenants or other restrictions could result in a default. In addition, the credit facility is secured by substantially all of our non-intellectual property assets and requires us to satisfy certain financial covenants. Our ability to meet our payment obligations under our debt instruments depends on our ability to generate significant cash flows in the future. This, to some extent, is subject to market, economic, financial, competitive, legislative, and regulatory factors as well as other factors that are beyond our control. There can be no assurance that our business will generate cash flow from operations, or that additional capital will be available to us, in amounts sufficient to enable us to meet our debt payment obligations and to fund other liquidity needs. For example, we may utilize proceeds from the 2029 Notes for acquisitions or other investments that do not increase our enterprise value or we may otherwise be unable to generate sufficient cash flows to repay our debt obligations. See Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock of the Notes to Condensed Consolidated Financial Statements for more information about the 2029 Notes, Warrants and the revolving credit facility. Our operating results may fluctuate from quarter to quarter, which makes our future results difficult to predict. Our quarterly operating results have fluctuated in the past and may fluctuate in the future. As a result, you should not rely upon our past quarterly operating results as indicators of future performance. We have encountered, and will continue to encounter, risks and uncertainties frequently experienced by growing companies in rapidly 52 evolving markets, such as the risks and uncertainties described herein. Our operating results in any given quarter can be influenced by numerous factors, many of which are unpredictable or are outside of our control, includin • our ability to maintain and grow our customer base; • our ability to retain and increase revenue from existing customers; • our ability to introduce new products and services and enhance existing products and services; • our ability to integrate or implement our existing products and services on a timely basis or at all; • our ability to deploy our products successfully within our customers' information technology ecosystems; • our ability to enter into larger contracts; • increases or decreases in subscriptions to our platform; • our ability to sell to large enterprise customers; • the transaction volume that our customers process through our system; • our ability to respond to competitive developments, including competitors' pricing changes and their introduction of new products and services; • macroeconomic conditions, including the impact of foreign exchange fluctuations and rising interest rates and inflation, including wage inflation; • changes in the pricing of our products; • the productivity of our sales force; • our ability to grow our relationships with strategic partners such as system integrators and their effectiveness in increasing our sales and implementing our products; • changes in the mix of products and services that our customers use; • the length and complexity of our sales cycles; • cost to develop and upgrade our solution to incorporate new technologies; • seasonal purchasing patterns of our customers; • the impact of outages of our solution and reputational harm; • costs related to the acquisition of businesses, talent, technologies, or intellectual property, including potentially significant amortization costs and possible write-downs; • failures or breaches of security or privacy, and the costs associated with responding to and addressing any such failures or breaches; • changes to financial accounting standards and the interpretation of those standards that may affect the way we recognize and report our financial results, including changes in accounting rules governing recognition of revenue; • the impact of changes to financial accounting standards; • general economic and political conditions and government regulations in the countries where we currently operate or plan to expand; • decisions by us to incur additional expenses, such as increases in sales and marketing or research and development; • the timing of stock-based compensation expense; • political unrest, changes and uncertainty associated with terrorism, hostilities, war (including the ongoing conflict in Ukraine), natural disasters, pandemics, and the instability in the global banking system; and • potential costs to attract, onboard, retain, and motivate qualified personnel. 53 The impact of one or more of the foregoing and other factors may cause our operating results to vary significantly. As such, we believe that quarter-to-quarter comparisons of our operating results may not be meaningful and should not be relied upon as an indication of future performance. If we fail to meet or exceed the expectations of investors or securities analysts, then the trading price of our Class A common stock could fall substantially, and we could face costly lawsuits, including shareholder litigation. If we are not able to develop and release new products and services, or successful enhancements, new features, and modifications to our existing products and services, or otherwise successfully implement our multi-product strategy, our business could be adversely affected. Our industry and the market for our solutions is characterized by rapid technological change and innovations (such as the use of artificial intelligence and machine learning technologies), frequent new product and service introductions and enhancements, changing customer demands, and evolving industry standards. If we are unable to develop new products that achieve market acceptance, provide enhancements and new features, or innovate quickly enough to keep pace with these rapid technological developments, our business could be harmed.Additionally, because we provide billing and finance solutions to help our customers with compliance and financial reporting, changes in law, regulations, and accounting standards could impact the usefulness of our products and services and could necessitate changes or modifications to our products and services to accommodate such changes. Subscription management products and services, including our billing, collections and revenue recognition offerings, are inherently complex, and our ability to implement our multi-product strategy, including developing, releasing, marketing and selling new products and services or enhancements, new features and modifications to our existing products and services depends on several factors, including timely completion, competitive pricing, adequate quality testing, integration with new and existing technologies and our solution, and overall market acceptance. We cannot be sure that we will succeed in developing, marketing, and delivering on a timely and cost-effective basis enhancements or improvements to our platform or any new products and services that respond to continued changes in subscription management practices or new customer requirements, nor can we be sure that any enhancements or improvements to our platform or any new products and services will achieve market acceptance. Since developing our solution is complex, the timetable for the release of new products and enhancements to existing products is difficult to predict, and we may not offer new products and updates as rapidly as our customers require or expect. Any new products or services that we develop may not be introduced in a timely or cost-effective manner, may contain errors or defects, or may not achieve the broad market acceptance necessary to generate sufficient revenue. The introduction of new products and enhancements could also increase costs associated with customer support and customer success as demand for these services increase. This increase in cost could negatively impact profit margins, including our gross margin. Moreover, even if we introduce new products and services, we may experience a decline in revenue of our existing products and services that is not offset by revenue from the new products or services. For example, customers may delay making purchases of new products and services to permit them to make a more thorough evaluation of these products and services or until industry and marketplace reviews become widely available. Some customers may hesitate to migrate to a new product or service due to concerns regarding the complexity of migration or performance of the new product or service. In addition, we may lose existing customers who choose a competitor’s products and services or choose to utilize internally developed applications instead of our products and services. This could result in a temporary or permanent revenue shortfall and adversely affect our business. In addition, because our products and services are designed to interoperate with a variety of other internal or third-party software products and business systems applications, we will need to continuously modify and enhance our products and services to keep pace with changes in application programming interfaces (APIs), and other software and database technologies. We may not be successful in either developing these new products and services, modifications, and enhancements or in bringing them to market in a timely fashion. There is no assurance that we will successfully resolve such issues in a timely and cost-effective manner. Furthermore, modifications to existing platforms or technologies, including any APIs with which we interoperate, will increase our research and development expenses. Any failure of our products and services to operate effectively with each other or with other platforms and technologies could reduce the demand for our products and services, result in customer dissatisfaction, and adversely affect our business. 54 We may acquire or invest in additional companies, which may divert our management’s attention, result in additional dilution to our stockholders, and consume resources that are necessary to sustain our business. We may be unable to integrate acquired businesses and technologies successfully or to achieve the expected benefits of such acquisitions. Our business strategy includes acquiring other complementary products, technologies, or businesses, such as our acquisition of Zephr in September 2022. An acquisition, investment, or business relationship may result in unforeseen operating difficulties and expenditures. In particular, we may encounter difficulties assimilating or integrating the businesses, technologies, products, personnel, or operations of the acquired companies, particularly if the key personnel of the acquired companies choose not to work for us, if an acquired company’s software is not easily adapted to work with ours, or if we have difficulty retaining the customers of any acquired business due to changes in management or otherwise. Acquisitions may also disrupt our business, divert our resources, and require significant management attention that would otherwise be available for other business development activities. Moreover, the anticipated benefits of any acquisition, investment, or business relationship may not be realized or we may be exposed to unknown liabilities. We may in the future acquire or invest in additional businesses, products, technologies, or other assets. We also may enter into relationships with other businesses to expand our products and services or our ability to provide our products and services in foreign jurisdictions, which could involve preferred or exclusive licenses, additional channels of distribution, discount pricing, or investments in other companies. Negotiating these transactions can be time consuming, difficult, and expensive, and our ability to close these transactions may be subject to approvals that are beyond our control. In addition, we have limited experience in acquiring other businesses. We may be unable to find and identify desirable acquisition targets, may incorrectly estimate the value of a target, may fail to conduct effective due diligence on a target to identify problems or incompatibilities or obstacles to integration, or may not be successful in entering into an agreement with any particular target. Consequently, these transactions, even if undertaken and announced, may not close. For any transactions we undertake, we may: • issue additional equity securities that would dilute our stockholders; • use cash that we may need in the future to operate our business; • incur debt on terms unfavorable to us or that we are unable to repay; • incur large charges or substantial liabilities; • encounter difficulties retaining key employees of the acquired company or integrating diverse software codes or business cultures; and • become subject to adverse tax consequences, substantial depreciation, or deferred compensation charges. Any of these risks could adversely impact our business and operating results. A customer’s failure to deploy our solution after it enters into a subscription agreement with us, or the incorrect or improper deployment or use of our solution could result in customer dissatisfaction and negatively affect our business, operating results, financial condition, and growth prospects. Our solution is deployed in a wide variety of technology environments and into a broad range of complex workflows. We believe our future success will depend in part on our ability to increase both the speed and success of our deployments, by improving our deployment methodology, hiring and training qualified professionals, deepening relationships with deployment partners, and increasing our ability to integrate into large-scale, complex technology environments. We often assist our customers in deploying our solution, either directly or through our deployment partners. In other cases, customers rely on third-party partners to complete the deployment. In some cases, customers initially engage us to deploy our solution, but, for a variety of reasons, including strategic decisions not to utilize subscription business models, fail to ultimately deploy our solution. If we or our third-party partners are unable to deploy our solution successfully, or unable to do so in a timely manner and, as a result, customers do not utilize our solution, we would not be able to generate future revenue from such customers based on transaction or revenue volume and the upsell of additional products and services, and our future operating results could be adversely impacted. In addition, customers may also seek refunds of their initial subscription fee. 55 Moreover, customer perceptions of our solution may be impaired, our reputation and brand may suffer, and customers may choose not to renew or expand their use of our solution. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, our sales cycle may become longer and more expensive, we may encounter still greater pricing pressure and deployment and customization challenges, and we may have to delay revenue recognition for more complicated transactions, all of which could adversely impact our business and operating results. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, we may face greater costs, longer sales cycles, and less predictability in the completion of some of our sales. In this market segment, the customer’s decision to use our solution may be an enterprise-wide decision, in which case these types of sales frequently require approvals by multiple departments and executive-level personnel and require us to provide greater levels of customer education regarding the uses and benefits of our solution, as well as education regarding security, privacy, and scalability of our solution, especially for large “business to consumer” customers or those with extensive international operations. These large enterprise transactions might also be part of a customer’s broader business model or business systems transformation project, which are frequently subject to budget constraints, multiple approvals, and unplanned administrative, processing, security review, and other delays that could further lengthen the sales cycle. Larger enterprises typically have longer decision-making and deployment cycles, may have greater resources to develop and maintain customized tools and applications, demand more customization, require greater functionality and scalability, expect a broader range of services, demand that vendors take on a larger share of risks, demand increased levels of customer service and support, require acceptance provisions that can lead to a delay in revenue recognition, and expect greater payment flexibility from vendors. We are often required to spend time and resources to better familiarize potential customers with the value proposition of our solution. As a result of these factors, sales opportunities with large enterprises may require us to devote greater sales and administrative support and professional services resources to individual customers, which could increase our costs, lengthen our sales cycle, and divert our sales and professional services resources to a smaller number of larger customers. We may spend substantial time, effort, and money in our sales, design and implementation efforts without being successful in producing any sales or deploying our products in such a way that is satisfactory to our customers. All these factors can add further risk to business conducted with these customers. In addition, if sales expected from a large customer for a particular quarter are not realized in that quarter or at all, our business, operating results, and financial condition could be materially and adversely affected. Furthermore, our sales and implementation cycles could be interrupted or affected by other factors outside of our control. For example, due to global economic uncertainty, rising inflation and interest rates, and foreign exchange fluctuations, many large enterprises have generally reduced or delayed technology or other discretionary spending, which may materially and negatively impact our operating results, financial condition and prospects. Our long-term success depends, in part, on our ability to expand the sales of our solution to customers located outside of the United States. Our current international operations, and any further expansion of those operations, expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. We conduct our business activities in various foreign countries and have operations in North America, Europe, Asia, and Australia. During the six months ended July 31, 2023, we derived approximately 36% of our total revenue from customers located outside the United States. Our ability to manage our business and conduct our operations internationally requires considerable management attention and resources and is subject to the particular challenges of supporting a rapidly growing business in an environment of multiple cultures, customs, legal systems, regulatory systems, and commercial infrastructures. International expansion requires us to invest significant funds and other resources. Our operations in international markets may not develop at a rate that supports our level of investment. Expanding internationally may subject us to new risks that we have not faced before or increase risks that we currently face, including risks associated wit • recruiting and retaining talented and capable employees in foreign countries; • providing our solution to customers from different cultures, which may require us to adapt sales practices, modify our solution, and provide features necessary to effectively serve the local market; • compliance with multiple, conflicting, ambiguous or evolving governmental laws and regulations and court decisions, including those relating to employment matters, e-invoicing, consumer protection, privacy, data protection, information security, data residency, and encryption; 56 • longer sales cycles in some countries; • increased third-party costs relating to data centers outside of the United States; • generally longer payment cycles and greater difficulty in collecting accounts receivable; • credit risk and higher levels of payment fraud; • weaker privacy and intellectual property protection in some countries, including China and India; • compliance with anti-bribery laws, such as the U.S. Foreign Corrupt Practices Act of 1977, as amended (FCPA) and the UK Bribery Act 2010 (UK Bribery Act); • currency exchange rate fluctuations; • tariffs, export and import restrictions, restrictions on foreign investments, sanctions, and other trade barriers or protection measures; • foreign exchange controls that might prevent us from repatriating cash earned outside the United States; • economic instability and inflationary conditions; • political instability and unrest, including the effects of the ongoing conflict in Ukraine, especially as it impacts countries in Europe; • corporate espionage; • compliance with the laws of numerous taxing jurisdictions, both foreign and domestic, in which we conduct business, potential double taxation of our international earnings, and potentially adverse tax consequences due to changes in applicable U.S. and foreign tax laws; • continuing uncertainty regarding social, political, immigration, and tax and trade policies in the U.S. and abroad; • instability in the U.S. and international banking systems; • increased costs to establish and maintain effective controls at foreign locations; and • overall higher costs of doing business internationally. Our growth forecasts we have provided publicly may prove to be inaccurate, and even if the markets in which we compete achieve the forecasted growth, we cannot assure that our business will grow at similar rates, if at all. Growth forecasts are subject to significant uncertainty and are based on assumptions and estimates that may not prove to be accurate. The forecasts we have provided publicly relating to the expected growth of the markets in which we compete may prove to be inaccurate. Even if these markets experience the growth we forecast, we may not grow our business at similar rates, or at all. Our growth is subject to many factors, including our success in executing our business strategy, which is subject to many risks and uncertainties. Accordingly, the forecasts of market growth we have provided publicly should not be taken as indicative of our future growth. If we fail to offer high-quality support and training to our customers and third-party partners, our business and reputation will suffer. Once our solution is deployed to our customers, our customers rely on support services from us and from our third-party partners to resolve any related issues. High-quality education, training and support for our customers and third-party partners is important for the successful marketing and sale of our products and for the renewal of existing customers. The importance of high-quality customer and third-party partner training and support will increase as we expand our business and pursue new enterprises. If we or our third-party partners do not help our customers quickly resolve post-deployment issues, including configuring and using features, and provide them with effective ongoing customer support, our ability to upsell additional products to existing customers could suffer and our reputation with existing or potential customers could be harmed. 57 Future changes in market conditions or customer demand could require changes to our prices or pricing model, which could adversely affect our business, operating results, and financial condition. We generally charge our customers a flat fee for their use of our platform and a variable fee based on the amount of transaction volume they process through our system and the number of their subscribers. If our customers do not increase their transaction volume or the number of their subscribers, or an economic downturn reduces their transaction volume or the number of their subscribers, our revenue may be adversely impacted by customers reducing their contracted transaction volume. We have limited experience with respect to determining the optimal prices for our platform, and, as a result, we have in the past needed to and expect in the future to need to change our pricing model from time to time. As the market for our platform matures, or as new competitors introduce new products or services that compete with ours, we may be unable to attract or retain customers at the same price or based on the same pricing models as we have used historically. We may experience pressure to change our pricing model to defer fees until our customers have fully deployed our solution. Moreover, larger organizations, which comprise a large and growing component of our sales efforts, may demand substantial price concessions. As a result, in the future, we may be required to reduce our prices or change our pricing model, which could adversely affect our revenue, gross margin, profitability, financial position, and cash flow. If we fail to integrate our solution with a variety of operating systems, software applications, and hardware platforms that are developed by others, our solution may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Our solution must integrate with a variety of network, hardware, and software platforms, and we need to continuously modify and enhance our solution to adapt to changes in cloud-enabled hardware, software, networking, browser, and database technologies. We have developed our solution to be able to integrate with third-party SaaS applications, including the applications of software providers that compete with us, through the use of APIs. For example, Zuora CPQ integrates with certain capabilities of Salesforce using publicly available APIs. In general, we rely on the fact that the providers of such software systems, including Salesforce, continue to allow us access to their APIs to enable these integrations, and the terms with such companies may be subject to change from time to time. We also integrate certain aspects of our solution with other platform providers. Any change or deterioration in our relationship with any platform provider may adversely impact our business and operating results. Our business may be adversely impacted if any platform provide • discontinues or limits our access to its APIs; • makes changes to its platform; • terminates or does not allow us to renew or replace our contractual relationship; • modifies its terms of service or other policies, including fees charged to, or other restrictions on, us or other application developers, or changes how customer information is accessed by us or our customers; • establishes more favorable relationships with one or more of our competitors, or acquires one or more of our competitors or is acquired by a competitor and offers competing services to us; or • otherwise develops its own competitive offerings. In addition, we have benefited from these platform providers’ brand recognition, reputations, and customer bases. Any losses or shifts in the market position of these platform providers in general, in relation to one another or to new competitors or new technologies could lead to losses in our relationships or customers, or to our need to identify or transition to alternative channels for marketing our solutions. Such changes could consume substantial resources and may not be effective. If we are unable to respond to changes in a cost-effective manner, our solution may become less marketable, less competitive, or obsolete and our operating results may be negatively impacted. If we fail to develop, maintain, and enhance our brand and reputation cost-effectively, our business and financial condition may be adversely affected. We believe that developing, maintaining, and enhancing awareness and integrity of our brand and reputation in a cost-effective manner are important to achieving widespread acceptance of our solution and are important elements in attracting new customers and maintaining existing customers. We believe that the importance of our brand and reputation will increase as competition in our market further intensifies. Successful promotion of our 58 brand and the Subscription Economy concept will depend on the effectiveness of our marketing efforts, our ability to provide a reliable and useful solution at competitive prices, the perceived value of our solution, and our ability to provide quality customer support. In addition, the promotion of our brand requires us to make substantial expenditures, and we anticipate that the expenditures will increase as our market becomes more competitive, as we expand into new markets, and as more sales are generated through our strategic partners. Brand promotion activities may not yield increased revenue, and even if they do, the increased revenue may not offset the expenses we incur in building and maintaining our brand and reputation. We also rely on our customer base and community of end-users in a variety of ways, including to give us feedback on our solution and to provide user-based support to our other customers. If we fail to promote and maintain our brand successfully or to maintain loyalty among our customers, or if we incur substantial expenses in an unsuccessful attempt to promote and maintain our brand, we may fail to attract new customers and partners or retain our existing customers and partners and our business and financial condition may be adversely affected. Any negative publicity relating to our customers, employees, partners, or others associated with these parties, may also tarnish our own reputation simply by association and may reduce the value of our brand. Damage to our brand and reputation may result in reduced demand for our solution and increased risk of losing market share to our competitors. Any efforts to restore the value of our brand and rebuild our reputation may be costly and may not be successful. We employ third-party licensed software for use in or with our software, and the inability to maintain these licenses or errors in the software we license could result in increased costs or reduced service levels, which could adversely affect our business. Our software incorporates certain third-party software obtained under licenses from other companies. We anticipate that we will continue to rely on such third-party software and development tools from third parties in the foreseeable future. Although we believe that there are commercially reasonable alternatives to the third-party software we currently license, including open source software, this may not always be the case, or it may be difficult or costly to migrate to other third-party software. Our use of additional or alternative third-party software would require us to enter into license agreements with third parties. In addition, integration of our software with new third-party software may require significant work and require substantial investment of our time and resources. Also, any undetected or uncorrected errors or defects in third-party software could prevent the deployment or impair the functionality of our software, present security risks, delay new updates or enhancements to our solution, result in a failure of our solution, and injure our reputation. Certain of our operating results and financial metrics may be difficult to predict as a result of seasonality. Although we have not historically experienced significant seasonality with respect to our subscription revenue throughout the year, we have seen seasonality in our sales cycle as a large percentage of our customers make their purchases in the third month of any given quarter. In addition, our fourth quarter has historically been our strongest quarter. We believe that this results in part from the procurement, budgeting, and deployment cycles of many of our customers. We generally expect a relative increase in sales in the second half of each year as budgets of our customers for annual capital purchases are being fully utilized. We may be affected by seasonal trends in the future, particularly as our business matures. Such seasonality may result from a number of factors, including a slowdown in our customers’ procurement process during certain times of the year, both domestically and internationally, and customers choosing to spend remaining budgets shortly before the end of their fiscal years. These effects may become more pronounced as we target larger organizations and their larger budgets for sales of our solution. Additionally, this seasonality may be reflected to a much lesser extent, and sometimes may not be immediately apparent, in our revenue, due to the fact that we recognize subscription revenue over the term of the applicable subscription agreement. In addition, our ability to record professional services revenue can potentially vary based on the number of billable days in the given quarter, which is impacted by holidays and vacations. To the extent we 59 experience this seasonality, it may cause fluctuations in our operating results and financial metrics and make forecasting our future operating results and financial metrics more difficult. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy If our security measures are breached or if unauthorized access to customer, employee or other confidential data is otherwise obtained, or if our solution is perceived as not being secure, we may lose existing customers or fail to attract new customers, our business may be harmed and we may incur significant liabilities. Our solution involves the storage, transmission and processing of our customers’ proprietary data, including highly confidential financial information regarding their business, and personal or confidential information of our customers' customers or other end users. Additionally, we maintain our own proprietary, confidential and otherwise sensitive information, including employee information. While we have security measures in place to protect customer information and prevent data loss and other security breaches, these measures may be breached as a result of third-party action, including cyberattacks or other intentional misconduct by computer hackers, employee error, malfeasance or otherwise. The risk of a cybersecurity incident occurring has increased as more companies and individuals work remotely, potentially exposing us to new, complex threats. Additionally, due to political uncertainty and military actions such as those associated with the war in Ukraine, we and our service providers are vulnerable to heightened risks of cybersecurity incidents and security and privacy breaches from or affiliated with nation-state actors. If any unauthorized or inadvertent access to, or a security breach or incident impacting our platform or other systems or networks used in our business occurs, such event could result in the loss, alteration, or unavailability of data, unauthorized access to, or use or disclosure of data, and any such event, or the belief or perception that it has occurred, could result in a loss of business, severe reputational damage adversely affecting customer or investor confidence, regulatory investigations and orders, litigation, indemnity obligations, and damages for contract breach or penalties for violation of applicable laws or regulations. Service providers who store or otherwise process data on our behalf, including third party and public-cloud infrastructure, also face security risks. As we rely more on third-party and public-cloud infrastructure and other third-party service providers, we will become more dependent on third-party security measures to protect against unauthorized access, cyberattacks and the mishandling of customer, employee and other confidential data and we may be required to expend significant time and resources to address any incidents related to the failure of those third-party security measures. Our ability to monitor our third-party service providers' data security is limited, and in any event, attackers may be able to circumvent our third-party service providers' data security measures. There have been and may continue to be significant attacks on certain third-party providers, and we cannot guarantee that our or our third-party providers' systems and networks have not been breached or otherwise compromised, or that they do not contain exploitable defects or bugs that could result in a breach of or disruption to our systems and networks or the systems and networks of third parties that support us and our platform. We may also suffer breaches of, or incidents impacting, our internal systems. Security breaches or incidents impacting our platform or our internal systems could also result in significant costs incurred in order to remediate or otherwise respond to a breach or incident, which may include liability for stolen assets or information and repair of system damage that may have been caused, incentives offered to customers or other business partners in an effort to maintain business relationships after a breach, and other costs, expenses and liabilities. We may be required to or find it appropriate to expend substantial capital and other resources to alleviate problems caused by any actual or perceived security breaches or incidents. Additionally, many jurisdictions have enacted or may enact laws and regulations requiring companies to notify individuals of data security breaches involving certain types of personal data. These or other disclosures regarding a security breach or incident could result in negative publicity to us, which may cause our customers to lose confidence in the effectiveness of our data security measures which could impact our operating results. Despite our investments into measures designed to minimize the risk of security breaches, we may experience security incidents or breaches in the future due to elevated cyber threats. If a high profile security breach or incident occurs with respect to us, another Software as a Service (SaaS) provider or other technology company, our current and potential customers may lose trust in the security of our solution or in the SaaS business model generally, which could adversely impact our ability to retain existing customers or attract new ones. Such a breach or incident, or series of breaches or incidents, could also result in regulatory or contractual security requirements that could make compliance challenging. Even in the absence of any security breach or incident, customer concerns about 60 privacy, security, or data protection may deter them from using our platform for activities that involve personal or other sensitive information. Because the techniques used to obtain unauthorized access or to sabotage systems change frequently, and often are not identified until they are launched against a target, we may be unable to anticipate these techniques or to implement adequate preventative measures. We may also experience security breaches and incidents that may remain undetected for an extended period of time. Periodically, we experience cyber security events including “phishing” attacks targeting our employees, web application and infrastructure attacks and other information technology incidents that are typical for a SaaS company of our size. These threats continue to evolve in sophistication and volume and are difficult to detect and predict due to advances in electronic warfare techniques, new discoveries in the field of cryptography and new and sophisticated methods used by criminals including phishing, social engineering or other illicit acts. There can be no assurance that our defensive measures will prevent cyberattacks or other security breaches or incidents, and any such attacks, breaches or incidents could damage our brand and reputation and negatively impact our business. Because data security is a critical competitive factor in our industry, we make numerous statements in our privacy policy and customer agreements, through our certifications to standards and in our marketing materials, providing assurances about the security of our platform including detailed descriptions of security measures we employ. Should any of these statements be untrue, be perceived to be untrue, or become untrue, even through circumstances beyond our reasonable control, we may face claims of misrepresentation or deceptiveness by the U.S. Federal Trade Commission, state and foreign regulators and private litigants. Our insurance policies covering certain security and privacy damages and claim expenses may not be sufficient to compensate for all potential liability. Although we maintain cyber liability insurance, we cannot be certain that our coverage will be adequate for liabilities actually incurred, or that insurance will continue to be available to us on economically reasonable terms, or at all. In addition, like many similarly situated technology companies, we have a sizable number of research and development and other personnel located outside the United States, including in India and China, which has exposed and could continue to expose us to governmental and regulatory, as well as market and media, scrutiny, regarding the actual or perceived integrity of our platform or data security and privacy features. Any actual or perceived security compromise could reduce customer confidence in the effectiveness of our security measures, negatively affect our ability to attract new customers, and cause existing customers to reduce the use or stop using our solution, any of which could harm our business and reputation. Privacy and security concerns, laws, and regulations, may reduce the effectiveness of our solution and adversely affect our business. Governments and agencies worldwide have adopted or may adopt laws and regulations regarding the collection, use, storage, data residency, security, disclosure, transfer across borders and other processing of information obtained from individuals within jurisdictions. These laws and regulations increase the costs and burdens of compliance, including the ability to transfer information from, or a requirement to store in, particular jurisdictions and coul • impact our ability to offer our products and services in certain jurisdictions, • decrease demand for or require us to modify or restrict our product or services, or • impact our customers’ ability and willingness to use, adopt and deploy our solution globally. Compliance burdens or our inability to comply with such laws, regulations, and other obligations, could lead to reduced overall demand and impair our ability to maintain and grow our customer base and increase our revenue. We may be unable to make changes that are necessary or appropriate to address changes in laws, regulations, or other obligations in a commercially reasonable manner, in a timely fashion, or at all. Additionally, laws and regulations relating to the processing of information can vary significantly based on the jurisdiction. Some regions and countries have or are enacting strict laws and regulations, including the European Union (EU), China (PIPL), Australia, and India, as well as states within the United States, such as California, that may create conflicts, obligations or inconsistent compliance requirements. Despite our efforts to comply with these varying requirements, a regulator or supervisory authority may determine that we have not done so and subject us to fines, potentially costly remediation requirements, and public censure, which could harm our business. For 61 example, the European Union’s General Data Protection Regulation (GDPR) mandates requirements for processing personal data and imposes penalties of up to the greater of €20 million or 4% of worldwide revenue for non-compliance. In June 2021, the European Commission issued replacement standard contractual clauses (2021 SCCs) to govern the transfer of personal data to a country that has not been deemed adequate, such as the United States, that created additional requirements that potentially increase liability for data processors such as us. In addition, in the United States, we may be subject to both federal and state laws. Certain U.S. state laws may be more stringent or broader in scope, or offer greater individual rights, with respect to the protection of personal information than federal, international, or other state laws, and such laws may differ from each other, all of which may complicate compliance efforts. For example, California continues to be a critical state with respect to evolving consumer privacy laws after enacting the California Consumer Privacy Act (CCPA), later amended by the California Privacy Rights Act (the CPRA), which took effect in January 2023. Failure to comply with the CCPA and the CPRA may result in significant civil penalties, injunctive relief, or statutory or actual damages as determined by the CPPA and California Attorney General through its investigative authority. We also are bound by standards, contracts and other obligations relating to processing personal information that are more stringent than applicable laws and regulations. The costs of compliance with, and other burdens imposed by, these laws, regulations, and other obligations are significant. In addition, some companies, particularly larger or global enterprises, often will not contract with vendors that do not meet these rigorous obligations and often seek contract terms to ensure we are financially liable for any breach of these obligations. Accordingly, our or our vendors' failure, or perceived inability, to comply with these obligations may limit the demand, use and adoption of our solution, lead to regulatory investigations, breach of contract claims, litigation, damage our reputation and brand and lead to significant fines, penalties, or liabilities or slow the pace at which we close sales transactions, any of which could harm our business. In addition, there is no assurance that our privacy and security-related safeguards, including measures we may take to mitigate the risks of using third parties, will protect us from the risks associated with the third-party processing, storage, and transmission of such information. Privacy advocacy groups, the technology industry, and other industries have established or may establish various new, additional, or different self-regulatory standards that may place additional burdens on us. Our customers may require us or we may find it advisable to meet voluntary certifications or adhere to other standards established by them or third parties. Our customers may also expect us to take proactive stances or contractually require us to take certain actions should a request for personal information belonging to customers be received from a government or regulatory agency. If we are unable to maintain such certifications, comply with such standards, or meet such customer requests, it could reduce demand for our solution and adversely affect our business. Future laws, regulations, standards, and other obligations, actions by governments or other agencies, and changes in the interpretation or inconsistent interpretation of existing laws, regulations, standards, and other obligations could result in increased regulation, increased costs of compliance and penalties for non-compliance, costly changes to Zuora's products or their functionality, and limitations on processing personal information. Any failure or perceived failure by us (or the third parties with whom we have contracted to process such information) to comply with applicable privacy and security laws, policies or related contractual obligations, or any compromise of security that results in unauthorized access, use, or transmission of, personal user information, could result in a variety of claims against us, including litigation, governmental enforcement actions, investigations, and proceedings by data protection authorities, as well as fines, sanctions, loss of export privileges, damage to our reputation, or loss of customer confidence, any of which may have a material adverse effect on our business, operating results, and financial condition. Failure to protect our intellectual property could adversely affect our business. Our success depends in large part on our proprietary technology. We rely on various intellectual property rights, including patents, copyrights, trademarks, and trade secrets, as well as confidentiality provisions and contractual arrangements, to protect our proprietary rights. If we do not protect and enforce our intellectual property rights successfully, our competitive position may suffer, which could adversely impact our operating results. Our pending patent or trademark applications may not be allowed, or competitors may challenge the validity, enforceability or scope of our patents, copyrights, trademarks or the trade secret status of our proprietary information. There can be no assurance that additional patents will be issued or that any patents that are issued will provide significant protection for our intellectual property. There is also no assurance that we will be able to register trademarks that are critical to our business. In addition, our patents, copyrights, trademarks, trade secrets, and other intellectual property rights may not provide us a significant competitive advantage. There is no assurance that 62 the particular forms of intellectual property protection that we seek, including business decisions about when to file patents and when to maintain trade secrets, will be adequate to protect our business. Moreover U.S. patent law, developing jurisprudence regarding U.S. patent law, and possible future changes to U.S. or foreign patent laws and regulations may affect our ability to protect and enforce our intellectual property rights. In addition, the laws of some countries do not provide the same level of protection of our intellectual property as do the laws of the United States. As we expand our international activities, our exposure to unauthorized copying and use of our solution and proprietary information will likely increase. Despite our precautions, our intellectual property is vulnerable to unauthorized access through employee error or actions, theft, and cybersecurity incidents, and other security breaches. It may be possible for third parties to infringe upon or misappropriate our intellectual property, to copy our solution, and to use information that we regard as proprietary to create products and services that compete with ours. Effective intellectual property protection may not be available to us in every country in which our solution is available. For example, some foreign countries have compulsory licensing laws under which a patent owner must grant licenses to third parties. In addition, many countries limit the enforceability of patents against certain third parties, including government agencies or government contractors. In these countries, patents may provide limited or no benefit. We may need to expend additional resources to defend our intellectual property rights domestically or internationally, which could impair our business or adversely affect our domestic or international expansion. Moreover, we may not pursue or file patent applications or apply for registration of copyrights or trademarks in the United States and foreign jurisdictions in which we operate with respect to our potentially patentable inventions, works of authorship, marks and logos for a variety of reasons, including the cost of procuring such rights and the uncertainty involved in obtaining adequate protection from such applications and registrations. If we cannot adequately protect and defend our intellectual property, we may not remain competitive, and our business, operating results, and financial condition may be adversely affected. We enter into confidentiality and invention assignment agreements with our employees and consultants and enter into confidentiality agreements with other parties. We cannot assure you that these agreements will be effective in controlling access to, use of, and distribution of our proprietary information or in effectively securing exclusive ownership of intellectual property developed by our current or former employees and consultants. Further, these agreements may not prevent other parties from independently developing technologies that are substantially equivalent or superior to our solution. We may need to spend significant resources securing and monitoring our intellectual property rights, and we may or may not be able to detect infringement by third parties. Our competitive position may be harmed if we cannot detect infringement and enforce our intellectual property rights quickly or at all. In some circumstances, we may choose to not pursue enforcement because an infringer has a dominant intellectual property position or for other business reasons. In addition, competitors might avoid infringement by designing around our intellectual property rights or by developing non-infringing competing technologies. Litigation may be necessary in the future to enforce our intellectual property rights and to protect our trade secrets. Litigation brought to protect and enforce our intellectual property rights could be costly, time-consuming, and distracting to management, and could result in the impairment or loss of portions of our intellectual property. Further, our efforts to enforce our intellectual property rights may be met with defenses, counterclaims attacking the scope, validity, and enforceability of our intellectual property rights, or with counterclaims and countersuits asserting infringement by our products and services of third-party intellectual property rights. Our failure to secure, protect, and enforce our intellectual property rights could seriously adversely affect our brand and our business. Additionally, the United States Patent and Trademark Office and various foreign governmental patent agencies require compliance with a number of procedural, documentary, fee payment, and other similar provisions in order to complete the patent or trademark application process and to maintain issued patents or trademarks. There are situations in which noncompliance or non-payment can result in abandonment or lapse of the patent or trademark or associated application, resulting in partial or complete loss of patent or trademark rights in the relevant jurisdiction. If this occurs, it could have a material adverse effect on our business operations and financial condition. Errors, defects, or disruptions in our solution could diminish demand, harm our financial results, and subject us to liability. Our customers use our products for important aspects of their businesses, and any errors, defects, or disruptions to our solution, or other performance problems with our solution could harm our brand and reputation and may damage our customers’ businesses. We are also reliant on third-party software and infrastructure, including the infrastructure of the Internet, to provide our products and services. Any failure of or disruption to this 63 software and infrastructure could also make our solution unavailable to our customers. Our solution is constantly changing with new software releases, which may contain undetected errors when first introduced or released. Any errors, defects, disruptions in service, or other performance problems with our solution could result in negative publicity, loss of or delay in market acceptance of our products, loss of competitive position, delay of payment to us, lower renewal rates, or claims by customers for losses sustained by them. In such an event, we may be required, or may choose, for customer relations or other reasons, to expend additional resources in order to help correct the problem. Accordingly, any errors, defects, or disruptions to our solution could adversely impact our brand and reputation, revenue, and operating results. In addition, because our products and services are designed to interoperate with a variety of internal and third-party systems and infrastructures, we need to continuously modify and enhance our products and services to keep pace with changes in software technologies. We may not be successful in either developing these modifications and enhancements or resolving interoperability issues in a timely and cost-effective manner. Any failure of our products and services to continue to operate effectively with internal or third-party infrastructures and technologies could reduce the demand for our products and services, resulting in dissatisfaction of our customers, and may materially and adversely affect our business. Any disruption of service at our cloud providers, including Amazon Web Services and Microsoft's Azure cloud service, could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. We currently host our solution, serve our customers, and support our operations using Amazon Web Services (AWS), a provider of cloud infrastructure services, and have begun enabling new features and capabilities for our solution using Microsoft's Azure cloud service. We also leverage AWS in various geographic regions for our disaster recovery plans. We do not have control over the operations of the facilities of AWS or Azure. These facilities are vulnerable to damage or interruption from earthquakes, hurricanes, floods, fires, cyber security attacks, terrorist attacks, power losses, telecommunications failures, and similar events, including events due to the effects of climate change. The occurrence of a natural disaster or an act of terrorism, a decision to close the facilities without adequate notice, or other unanticipated problems could result in lengthy interruptions in our solution. In addition, breaks in the supply chain due to transportation issues or other factors could potentially disrupt the delivery of hardware needed to maintain these third-party systems or to run our business. The facilities also could be subject to break-ins, computer viruses, sabotage, intentional acts of vandalism, and other misconduct. Our solution’s continuing and uninterrupted performance is critical to our success. Because our products and services are used by our customers for billing and financial accounting purposes, it is critical that our solution be accessible without interruption or degradation of performance, and we typically provide our customers with service level commitments with respect to service uptime. Customers may become dissatisfied by any system failure that interrupts our ability to provide our solution to them. Outages could lead to the triggering of our service level agreements and the issuance of credits to our customers, in which case, we may not be fully indemnified for such losses by AWS or Azure. We may not be able to easily switch our public cloud providers, including AWS and Azure, to another cloud provider if there are disruptions or interference with our use of either facility. Sustained or repeated system failures would reduce the attractiveness of our solution to customers and result in contract terminations, thereby reducing revenue. Moreover, negative publicity arising from these types of disruptions could damage our reputation and may adversely impact use of our solution. We may not carry sufficient business interruption insurance to compensate us for losses that may occur as a result of any events that cause interruptions in our service. While our agreement with AWS expires in September 2024, AWS and our other cloud providers do not have an obligation to renew their agreements with us on commercially reasonable terms, or at all. If we are unable to renew our agreements with these providers on commercially reasonable terms, if our agreements with our providers are prematurely terminated, or if in the future we add additional public cloud providers, we may experience additional costs or service downtime in connection with the transfer to, or the addition of, new public cloud providers. If these providers were to increase the cost of their services, we may have to increase the price of our solution, and our operating results may be adversely impacted. We are vulnerable to intellectual property infringement claims brought against us by others. There has been considerable activity in our industry to develop and enforce intellectual property rights. Successful intellectual property infringement claims against us or certain third parties, such as our customers, 64 resellers, or strategic partners, could result in monetary liability or a material disruption in the conduct of our business. We cannot be certain that our products and services, content, and brand names do not or will not infringe valid patents, trademarks, copyrights, or other intellectual property rights held by third parties. We may be subject to legal proceedings and claims from time to time relating to the intellectual property of others in the ordinary course of our business. Any intellectual property litigation to which we might become a party, or for which we are required to provide indemnification, may require us to cease selling or using solutions that incorporate the intellectual property that we allegedly infringe, make substantial payments for legal fees, settlement payments, licensing costs, or other costs or damages, and obtaining a license, may not be available on reasonable terms or at all, thereby hindering our ability to sell or use the relevant technology, or require redesign of the allegedly infringing solutions to avoid infringement, which could be costly, time-consuming, or impossible. Any claims or litigation, regardless of merit, could cause us to incur significant expenses and, if successfully asserted against us, could require that we pay substantial damages or ongoing royalty payments, prevent us from offering our products and services, or require that we comply with other unfavorable terms. We do not have a significant patent portfolio, which could prevent us from deterring patent infringement claims through our own patent portfolio, and our competitors and others may now and in the future have significantly larger and more mature patent portfolios than we have. We may also be obligated to indemnify our customers or strategic partners in connection with such infringement claims, or to obtain licenses from third parties or modify our solution, and each such obligation could further exhaust our resources. Some of our intellectual property infringement indemnification obligations are contractually capped at a very high amount or not capped at all. Even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the time and attention of our management and other employees, and adversely affect our business and operating results. We expect that the occurrence of infringement claims is likely to grow as the market for subscription management products and services grows. Accordingly, our exposure to damages resulting from infringement claims could increase and this could further exhaust our financial and management resources. Our solution contains open source software components, and failure to comply with the terms of the underlying licenses could restrict our ability to sell our solution. Our solution incorporates certain open source software. An open source license typically permits the use, modification, and distribution of software in source code form subject to certain conditions. Some open source licenses contain conditions that any person who distributes or uses a modification or derivative work of software that was subject to an open source license make the modified version subject to the same open source license. Distributing or using software that is subject to this kind of open source license can lead to a requirement that certain aspects of our solution be distributed or made available in source code form. Although we do not believe that we have used open source software in a manner that might condition its use on our distribution of any portion of our solution in source code form, the interpretation of open source licenses is legally complex and, despite our efforts, it is possible that we may be liable for copyright infringement, breach of contract, or other claims if our use of open source software is adjudged to not comply with the applicable open source licenses. Moreover, we cannot assure you that our processes for controlling our use of open source software in our solution will be effective. If we have not complied with the terms of an applicable open source software license, we may need to seek licenses from third parties to continue offering our solution on terms that are not economically feasible, to re-engineer our solution to remove or replace the open source software, to discontinue the sale of our solution if re-engineering could not be accomplished on a timely basis, to pay monetary damages, or to make available the source code for aspects of our proprietary technology, any of which could adversely affect our business, operating results, and financial condition. In addition to risks related to license requirements, use of open source software can involve greater risks than those associated with use of third-party commercial software, as open source licensors generally do not provide warranties, assurances of title, performance, non-infringement, or controls on the origin of the software. There is typically no support available for open source software, and we cannot assure you that the authors of such open source software will not abandon further development and maintenance. Open source software may contain security vulnerabilities, and we may be subject to additional security risk by using open source software. Many of the risks associated with the use of open source software, such as the lack of warranties or assurances of title or performance, cannot be eliminated, and could, if not properly addressed, negatively affect our business. We have established processes to help alleviate these risks, including a review process for screening requests from our 65 development organizations for the use of open source software, but we cannot be sure that all open source software is identified or submitted for approval prior to use in our solution. Risks Related to Legal, Regulatory, Accounting, and Tax Matters Adverse litigation judgments or settlements could expose us to significant monetary damages or limit our ability to operate our business. From time to time, we face litigation or claims arising in or outside the ordinary course of business, which may include class actions, derivative actions, private actions, collective actions, investigations, and various other legal proceedings by stockholders, customers, employees, suppliers, competitors, government agencies, or others. The results of any such litigation, investigations, and other legal proceedings are inherently unpredictable and expensive. Any claims against us, whether meritorious or not, could be time consuming, result in costly litigation, damage our reputation, require significant amounts of management time, and divert significant resources. If legal proceedings were to be determined adversely to us, or we were to enter into a settlement arrangement, we could be exposed to significant monetary damages or limits on our ability to operate our business, which could have a material adverse effect on our business, financial condition, and operating results. For example, Zuora has entered into an agreement to settle the federal and state securities class action litigation matters pending in the U.S. District Court for the Northern District of California and in the Superior Court of the State of California, County of San Mateo, respectively. The combined settlement, which is subject to final court approval, provides for a payment of $75.5 million by Zuora, is recorded as an accrual and included in our unaudited condensed consolidated balance sheets as of July 31, 2023. For more information, see Note 13. Commitments and Contingencies of the Notes to Condensed Consolidated Financial Statements. If we are not able to satisfy data protection, security, privacy, and other government- and industry-specific requirements, our growth could be harmed. We are subject to data protection, security, privacy, and other government- and industry-specific requirements, including those that require us to notify individuals of data security and privacy incidents involving certain types of personal data. Security and privacy compromises experienced by us or our service providers may lead to public disclosures, which could harm our reputation, erode customer confidence in the effectiveness of our security and privacy measures, negatively impact our ability to attract new customers, cause existing customers to elect not to renew their subscriptions with us, or negatively impact our employee relationships or impair our ability to attract new employees. In addition, some of the industries we serve have industry-specific requirements relating to compliance with certain security, privacy and regulatory standards, such as those required by the Health Insurance Portability and Accountability Act. We also maintain compliance with the Payment Card Industry Data Security Standard, which is critical to the financial services and insurance industries. As we expand and sell into new verticals and regions, we will likely need to comply with these and other requirements to compete effectively. If we cannot comply or if we incur a violation in one or more of these requirements, our growth could be adversely impacted, and we could incur significant liability. Because we typically recognize subscription revenue over the term of the applicable agreement, a lack of subscription renewals or new subscription agreements may not be reflected immediately in our operating results and may be difficult to discern. We generally recognize subscription revenue from customers ratably over the terms of their contracts, which typically vary between one and three years. As a result, most of the subscription revenue we report in each quarter is derived from the recognition of unearned revenue relating to subscriptions entered into during previous quarters. Consequently, a decline in new or renewed subscriptions in any particular quarter would likely have a minor impact on our revenue results for that quarter, but could negatively affect our revenue in future quarters. Accordingly, the effect of significant downturns in sales and market acceptance of our solution, and potential changes in our pricing policies or rate of renewals, may not be fully reflected in our operating results until future periods. Moreover, our subscription model makes it difficult for us to rapidly increase our revenue through additional sales in any period, as revenue from new customers must be recognized over the applicable subscription term. We typically provide service level commitments under our customer contracts. If we fail to meet these contractual commitments, we could be obligated to provide credits or refunds for prepaid amounts related to unused subscription services or face contract terminations, which could adversely affect our operating results. 66 Our customer contracts typically provide for service level commitments, which relate to service uptime, response times, and escalation procedures. If we are unable to meet the stated service level commitments or suffer extended periods of unavailability for our solution, we may be contractually obligated to provide these customers with service credits, refunds for prepaid amounts related to unused subscription services, or other remedies, or we could face contract terminations. In addition, we could face legal claims for breach of contract, product liability, tort, or breach of warranty. Although we have contractual protections, such as warranty disclaimers and limitation of liability provisions, in our customer agreements, they may not fully or effectively protect us from claims by customers, commercial relationships, or other third parties. We may not be fully indemnified by our vendors for service interruptions beyond our control, and any insurance coverage we may have may not adequately cover all claims asserted against us, or may cover only a portion of such claims. In addition, even claims that ultimately are unsuccessful could result in our expenditure of funds in litigation and divert management’s time and other resources. Thus, our revenue could be harmed if we fail to meet our service level commitments under our agreements with our customers, including, but not limited to, maintenance response times and service outages. Typically, we have not been required to provide customers with service credits that have been material to our operating results, but we cannot assure you that we will not incur material costs associated with providing service credits to our customers in the future. Additionally, any failure to meet our service level commitments could adversely impact our reputation, business, operating results, and financial condition. Our customers may fail to pay us in accordance with the terms of their agreements, necessitating action by us to compel payment. We typically enter into non-cancelable agreements with our customers with a term of one to three years. If customers fail to pay us under the terms of our agreements, we may be adversely affected both from the inability to collect amounts due and the cost of enforcing the terms of our contracts, including litigation. The risk of such negative effects increases with the term length of our customer arrangements. Furthermore, some of our customers may seek bankruptcy protection or other similar relief and fail to pay amounts due to us, or pay those amounts more slowly, either of which could adversely affect our operating results, financial position, and cash flow. Although we have processes in place that are designed to monitor and mitigate these risks, we cannot guarantee these programs will be effective. If we are unable to adequately control these risks, our business, operating results and financial condition could be harmed. Our ability to use our net operating losses to offset future taxable income may be subject to certain limitations which could subject our business to increased tax liability. Our ability to use our net operating losses (NOLs) to offset future taxable income may be subject to certain limitations which could subject our business to higher tax liability. Utilization of the net operating loss may be subject to an annual limitation due to the "ownership change" limitations provided by Section 382 and 383 of the Internal Revenue Code of 1986, as amended, and other similar state provisions. Additionally, NOLs arising in tax years beginning after December 31, 2017 are subject to a 20-year carryover limitation and may expire if unused within that period. There is also a risk that due to legislative changes, such as suspensions on the use of NOLs, or other unforeseen reasons, our existing NOLs could expire or otherwise be unavailable to offset future income tax liabilities. In addition, under the Tax Cuts and Jobs Act of 2017, as modified by the Coronavirus Aid, Relief, and Economic Security Act, the amount of NOLs that we are permitted to deduct in any taxable year is limited to 80% of our taxable income in such year, where taxable income is determined without regard to the NOL deduction itself. As such, we may not be able to realize a tax benefit from the use of our NOLs, whether or not we attain profitability. We may need to raise additional capital required to grow our business, and we may not be able to raise capital on terms acceptable to us or at all. In order to support our growth and respond to business challenges, such as developing new features or enhancements to our solution to stay competitive, acquiring new technologies, and improving our infrastructure, we have made significant financial investments in our business, and we intend to continue to make such investments. As a result, to provide the funds required for these investments and other business endeavors, we may need to engage in equity or debt financings. For example, in March 2022, we issued to Silver Lake the Initial Notes and have agreed to issue to Silver Lake an additional $150.0 million in senior unsecured notes in September 2023. See Note 9. Debt of the Notes to Condensed Consolidated Financial Statements for more information about the 2029 Notes. If we raise additional funds through equity or convertible debt issuances, our existing stockholders may suffer significant dilution, and these securities could have rights, preferences, and privileges that are superior to that of holders of our common stock. If we obtain additional funds through debt financing, we may not be able to obtain 67 such financing on terms favorable to us. Such terms may involve additional restrictive covenants making it difficult to engage in capital raising activities and pursue business opportunities, including potential acquisitions. Future volatility in the trading price of our common stock may reduce our ability to access capital on favorable terms or at all. In addition, a recession, depression or other sustained adverse market event resulting from deteriorating macroeconomic factors could materially and adversely affect our business and the value of our common stock. If we are unable to obtain adequate financing or financing on terms satisfactory to us when we require it, our ability to continue to support our business growth and to respond to business challenges could be significantly impaired and our business may be adversely affected, requiring us to delay, reduce, or eliminate some or all of our operations. Failure to comply with anti-corruption and anti-money laundering laws, including the FCPA and similar laws associated with our activities outside of the United States, could subject us to penalties and other adverse consequences. We are subject to the FCPA, the U.S. domestic bribery statute contained in 18 U.S.C. § 201, the U.S. Travel Act, the USA PATRIOT Act, the UK Bribery Act, and possibly other anti-bribery and anti-money laundering laws in countries in which we conduct activities. We face significant risks if we fail to comply with the FCPA and other anti-corruption laws that prohibit companies and their employees and third-party intermediaries from promising, authorizing, offering, or providing, directly or indirectly, improper payments or benefits to foreign government officials, political parties, and private-sector recipients for the purpose of obtaining or retaining business, directing business to any person, or securing any advantage. In many foreign countries, particularly in countries with developing economies, it may be a local custom that businesses engage in practices that are prohibited by the FCPA or other applicable laws and regulations. In addition, we use various third parties to sell our solution and conduct our business abroad. We or our third-party intermediaries may have direct or indirect interactions with officials and employees of government agencies or state-owned or affiliated entities and we can be held liable for the corrupt or other illegal activities of these third-party intermediaries, our employees, representatives, contractors, partners, and agents, even if we do not explicitly authorize such activities. We have implemented an anti-corruption compliance program but cannot assure you that all of our employees and agents, as well as those companies to which we outsource certain of our business operations, will not take actions in violation of our policies and applicable law, for which we may be ultimately held responsible. Any violation of the FCPA, other applicable anti-corruption laws, and anti-money laundering laws could result in whistleblower complaints, adverse media coverage, investigations, loss of export privileges, or severe criminal or civil sanctions, which could have a materially adverse effect on our reputation, business, operating results, and prospects. In addition, responding to any enforcement action may result in a significant diversion of management’s attention and resources, significant defense costs, and other professional fees. We are required to comply with governmental export control laws and regulations. Our failure to comply with these laws and regulations could have an adverse effect on our business and operating results. Our solution is subject to governmental, including United States and European Union, export control laws and import regulations, and as a U.S. company we are covered by the U.S. sanctions regulations. U.S. export control and economic sanctions laws and regulations prohibit the shipment of certain products and services to U.S. embargoed or sanctioned countries, governments, entities and persons, and complying with export control and sanctions regulations for a particular sale may be time-consuming and may result in the delay or loss of sales opportunities. While we take precautions to prevent our solution from being exported in violation of these laws or engaging in any other activities that are subject to these regulations, if we were to fail to comply with U.S. export laws, U.S. Customs regulations and import regulations, U.S. economic sanctions, and other countries’ import and export laws, we could be subject to substantial civil and criminal penalties, including fines for our company, incarceration for responsible employees, reputational harm, and/or the possible loss of export or import privileges which could impact our ability to provide our solution to customers. We incorporate encryption technology into certain of our products and certain encryption products may be exported outside of the United States only by a license or a license exception. In addition, various countries regulate the import of certain encryption technology, including import permitting and licensing requirements, and have enacted laws that could limit our ability to distribute our products or could limit our customers’ ability to deploy our products in those countries. Although we take precautions to prevent our products from being provided in violation of such laws, we cannot assure you that inadvertent violations of such laws have not occurred or will not occur in connection with the distribution of our products despite the precautions we take. Governmental regulation of 68 encryption technology and regulation of imports or exports, or our failure to obtain required import or export approval for our products, could harm our international sales and adversely affect our operating results. Further, if our partners, including suppliers, fail to obtain required import, export, or re-export licenses or permits, we may also be impacted by becoming the subject of government investigations or penalties and therefore incur reputational harm. Changes in our solution or changes in export and import regulations may create delays in the introduction of our solution in international markets, prevent our customers with international operations from deploying our solution globally or, in some cases, prevent the export or import of our solution to certain countries, governments, or persons altogether. Any change in export or import laws or regulations, economic sanctions, or related legislation, shift in the enforcement or scope of existing laws and regulations, or change in the countries, governments, persons, or technologies targeted by such laws and regulations, could result in decreased use of our solution by, or in our decreased ability to export or sell our solution to, existing or potential customers such as customers with international operations or customers who are added to the restricted entities list published by the U.S. Office of Foreign Assets Control (OFAC). Any decreased use of our solution or limitation on our ability to export or sell our solution would likely harm our business, financial condition, and operating results. The applicability of sales, use and other tax laws or regulations in the U.S. and internationally on our business is uncertain. Adverse tax laws or regulations could be enacted or existing laws could be applied to us or our customers, which could subject us to additional tax liability and related interest and penalties, increase the costs of our services and adversely impact our business. The application of federal, state, local, and non-U.S. tax laws to services provided electronically is evolving. New income, sales, use, value-added, or other direct or indirect tax laws, statutes, rules, regulations, or ordinances could be enacted at any time (possibly with retroactive effect), and could be applied solely or disproportionately to services provided over the Internet or could otherwise materially affect our financial position and results of operations. Many countries in the European Union, as well as a number of other countries and organizations such as the Organization for Economic Cooperation and Development, have proposed or recommended changes to existing tax laws or have enacted new laws that could impact our tax obligations. As we expand the scale of our international business activities, any changes in the U.S. or foreign taxation of such activities may increase our worldwide effective tax rate and harm our business, results of operations, and financial condition. In addition, state, local, and foreign tax jurisdictions have differing rules and regulations governing sales, use, value-added, and other taxes, and these rules and regulations can be complex and are subject to varying interpretations that may change over time. Existing tax laws, statutes, rules, regulations, or ordinances could be interpreted, changed, modified, or applied adversely to us (possibly with retroactive effect), which could require us or our customers to pay additional tax amounts on prior sales and going forward, as well as require us or our customers to pay fines or penalties and interest for past amounts. Although our customer contracts typically provide that our customers must pay all applicable sales and similar taxes, our customers may be reluctant to pay back taxes and associated interest or penalties, or we may determine that it would not be commercially feasible to seek reimbursement. If we are required to collect and pay back taxes and associated interest and penalties, or we are unsuccessful in collecting such amounts from our customers, we could incur potentially substantial unplanned expenses, thereby adversely impacting our operating results and cash flows. Imposition of such taxes on our services going forward could also adversely affect our sales activity and have a negative impact on our operating results and cash flows. Our reported financial results may be adversely affected by changes in accounting principles generally accepted in the United States. Generally Accepted Accounting Principles (GAAP) is subject to interpretation by the Financial Accounting Standards Board (FASB), the SEC, and various bodies formed to promulgate and interpret appropriate accounting principles. A change in these principles or interpretations could have a significant effect on our reported financial results, and could affect the reporting of transactions completed before the announcement of a change. Any difficulties in implementing these pronouncements, including those described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements of the Notes to Condensed Consolidated Financial Statements , could cause us to fail to meet our financial reporting obligations, which could result in regulatory discipline and harm investors' confidence in us. 69 Risks Related to Ownership of Our Class A Common Stock The stock price of our Class A common stock has been and may continue to be volatile, and you could lose all or part of your investment. The market price of our Class A common stock since our initial public offering in 2018 has been and may continue to be volatile. In addition to factors discussed in this Form 10-Q, the market price of our Class A common stock may fluctuate significantly in response to numerous factors, many of which are beyond our control, includin • overall performance of the equity markets; • actual or anticipated fluctuations in our revenue and other operating results; • changes in the financial projections we may provide to the public or our failure to meet these projections; • failure of securities analysts to initiate or maintain coverage of us, changes in financial estimates by any securities analysts who follow our company, or our failure to meet these estimates or the expectations of investors; • recruitment or departure of key personnel; • the economy as a whole and market conditions in our industry; • negative publicity related to the real or perceived quality of our solution, as well as the failure to timely launch new products and services that gain market acceptance; • growth of the Subscription Economy; • rumors and market speculation involving us or other companies in our industry; • announcements by us or our competitors of new products, commercial relationships, or significant technical innovations; • acquisitions, strategic partnerships, joint ventures, or capital commitments; • issuance of shares of our common stock, including shares issued by us in an acquisition or upon conversion or exercise of some or all of our outstanding 2029 Notes and Warrants; • new laws or regulations or new interpretations of existing laws or regulations applicable to our business; • lawsuits threatened or filed against us, litigation involving our industry, or both; • developments or disputes concerning our or other parties’ products, services, or intellectual property rights; • the inclusion of our Class A common stock on stock market indexes, including the impact of rules adopted by certain index providers, such as S&P Dow Jones Indices and FTSE Russell, that limit or preclude inclusion of companies with multi-class capital structures; • changes in accounting standards, policies, guidelines, interpretations, or principles; • other events or factors, including those resulting from geopolitical developments such as war, incidents of terrorism, or responses to these events, including the ongoing conflict in Ukraine; • the impact of catastrophic events such as natural disasters or pandemics on the global macroeconomy, our operating results and enterprise technology spending; • sales of shares of our Class A common stock by us or our stockholders; • inflation; • fluctuations in interest rates; and • instability of the U.S. or international banking system. In addition, the stock markets have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many companies, particularly during the current period of macroeconomic uncertainty, including rising inflation, increasing interest rates and fluctuations in international currency rates, bank failures, debt ceiling negotiations, as well as the impacts of geopolitical developments. Stock 70 prices of many companies, and technology companies in particular, have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. These economic, political, regulatory and market conditions have and may continue to negatively impact the market price of our common stock. Volatility in our stock price also affects the value of our equity compensation, which affects our ability to recruit and retain employees. If we fail to meet expectations related to future growth, profitability, or other market expectations, our stock price may decline further, which could have a material adverse effect on investor confidence and employee retention. In addition, some companies that have experienced volatility in the market price of their securities have been subject to shareholder litigation. We have been and are currently subject to shareholder litigation, which is described in Note 13. Commitments and Contingencies of the Notes to Condensed Consolidated Financial Statements . This or any future shareholder litigation could subject us to substantial costs, divert resources and the attention of management from our business, and adversely affect our business. The market price of our Class A common stock could decline as a result of a substantial number of shares of our Class A common stock being issued or sold, which may make it more difficult for you to sell your Class A common stock at a time and price that you deem appropriate. As of July 31, 2023, a total of 132.4 million shares of Class A common stock and 8.1 million shares of Class B common stock were outstanding. Issuances of a substantial number of shares of our Class A common stock, including as a result of the exercise or conversion into Class A common stock of outstanding convertible notes, warrants, equity awards, shares of Class B common stock or other securities, could result in significant dilution to our existing stockholders and cause the market price of our Class A common stock to decline. From time to time, we may issue shares of common stock or securities convertible into shares of common stock in connection with a financing, an acquisition, investments, or otherwise. For example, as described in Note 9. Debt of the Notes to Consolidated Financial Statements, on March 24, 2022 (Initial Closing Date), we issued to Silver Lake convertible notes in the aggregate principal amount of $250.0 million as well as warrants to purchase up to 7.5 million shares of Class A common stock, and we have agreed to issue additional convertible notes in the aggregate principal amount of $150.0 million to Silver Lake 18 months after the Initial Closing Date (or sooner under certain conditions). In addition, under certain circumstances, the number of shares issuable upon conversion of the convertible notes or exercise of the Warrants may be subject to increase, as described in Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock of the Notes to Condensed Consolidated Financial Statements . The conversion of these convertible notes or exercise of these Warrants could result in a substantial number of shares of our Class A common stock being issued. Silver Lake is generally restricted from converting the convertible notes or exercising the Warrants, or transferring them, during the 18-month period following the Initial Closing Date (which 18-month period expires in September 2023), except in certain circumstances. In addition, we grant equity awards to employees, directors, and consultants under our 2018 Equity Incentive Plan on an ongoing basis and our employees have the right to purchase shares of our Class A common stock semi-annually under our 2018 Employee Stock Purchase Plan. As of July 31, 2023, there were a total of 24.4 million shares of Class A common stock subject to outstanding options and restricted stock units (RSUs), including performance stock units (PSUs). Subject to vesting and other applicable requirements, the shares issued upon the exercise of such options or settlement of such RSUs will be available for resale in the open market. Moreover, the market price of our Class A common stock could decline as a result of sales of a large number of shares of our Class A common stock in the market over a short period of time, such as sales by our directors, executive officers, or significant stockholders, sales by Zuora for employee tax withholding purposes upon vesting of RSUs or PSUs, and sales by employees during limited open trading windows. We also have granted and may grant from time to time certain registration rights that, subject to certain conditions, require us to file registration statements for the public resale of certain securities or to include such securities in registration statements that we may file on behalf of our company or other stockholders. If securities or industry analysts do not publish research, or publish inaccurate or unfavorable research, about our business, the price of our Class A common stock and trading volume could decline. The trading market for our Class A common stock depends in part on the research and reports that securities or industry analysts publish about us or our business. If few securities analysts commence coverage of us, or if industry analysts cease coverage of us, the trading price for our Class A common stock could be negatively affected. If one or more of the analysts who cover us downgrade our Class A common stock or publish inaccurate or unfavorable research about our business, the price of our Class A common stock would likely decline. If one or more 71 of these analysts cease coverage of us or fail to publish reports on us regularly, demand for our Class A common stock could decrease, which might cause our Class A common stock price and trading volume to decline. Even if our stock is actively covered by analysts, we do not have any control over the analysts or the measures that analysts or investors may rely upon to forecast our future results. For example, in order to assess our business activity in a given period, analysts and investors may look at the combination of revenue and changes in deferred revenue in a given period (sometimes referred to as “billings”). Over-reliance on billings or similar measures may result in analyst or investor forecasts that differ significantly from our own for a variety of reasons, includin • a relatively large number of transactions occur at the end of the quarter. Invoicing of those transactions may or may not occur before the end of the quarter based on a number of factors including receipt of information from the customer, volume of transactions, and holidays. A shift of a few days has little economic impact on our business, but will shift deferred revenue from one period into the next; • a shift in billing frequency (i.e., from monthly to quarterly or from quarterly to annually), which may distort trends; • subscriptions that have deferred start dates; and • services that are invoiced upon delivery. In addition, the revenue recognition disclosure obligations under Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers (Topic 606) are prepared on the basis of estimates that can change over time and on the basis of events over which we have no control. It is possible that analysts and investors may misinterpret our disclosure or that our methods for estimating this disclosure may differ significantly from others, which could lead to inaccurate or unfavorable forecasts by analysts and investors. The dual class structure of our common stock has the effect of concentrating voting control with holders of our Class B common stock, including our CEO, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. Our common stock consists of two classes, including our Class B common stock, which has ten votes per share, and our Class A common stock, which has one vote per share. As of July 31, 2023, our Class B common stock holds approximately 38% of the total voting power of our common stock, with our CEO and his affiliates holding substantially all of our Class B common stock. As a result, the holders of our Class B common stock, including our CEO, could substantially influence all matters submitted to our stockholders for approval until the earlier of (i) the date specified by a vote of the holders of 66 2/3% of the outstanding shares of Class B common stock, (ii) April 16, 2028, and (iii) the date the shares of Class B common stock cease to represent at least 5% of all outstanding shares of our common stock (such date referred to as the "Class B expiration"). Until the Class B expiration, the concentrated influence held by our Class B common stock limits or precludes your ability to influence corporate matters, including the election of directors, amendments of our organizational documents, and any merger, consolidation, sale of all or substantially all of our assets, or other major corporate transaction requiring stockholder approval. In addition, this may prevent or discourage unsolicited acquisition proposals or offers for our capital stock that you may feel are in your best interest as one of our stockholders. Future transfers by holders of Class B common stock will generally result in those shares converting to Class A common stock, subject to limited exceptions, such as certain permitted transfers effected for estate planning purposes. The conversion of Class B common stock to Class A common stock will have the effect, over time, of increasing the relative voting power of those holders of Class B common stock who retain their shares in the long term. The dual class structure of our common stock may adversely affect the trading market for our Class A common stock. Stock index providers, such as FTSE Russell, exclude or limit the eligibility of public companies with multiple classes of shares of common stock for certain indices. In addition, several shareholder advisory firms have announced their opposition to the use of multiple class structures. As a result, the dual class structure of our common stock may prevent the inclusion of our Class A common stock in such indices and may cause shareholder advisory firms to publish negative commentary about our corporate governance practices or otherwise seek to 72 cause us to change our capital structure. Any such exclusion from indices could result in a less active trading market for our Class A common stock. Any actions or publications by shareholder advisory firms critical of our corporate governance practices or capital structure could also adversely affect the value of our Class A common stock. We do not intend to pay dividends for the foreseeable future. We have never declared or paid any cash dividends on our common stock and do not intend to pay any cash dividends in the foreseeable future. Additionally, our ability to pay dividends on our common stock is limited by restrictions under the terms of our credit facility with SVB. We anticipate that for the foreseeable future we will retain all of our future earnings for use in the development of our business and for general corporate purposes. Any determination to pay dividends in the future will be at the discretion of our Board of Directors. Accordingly, investors must rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize any future gains on their investments. Provisions in our charter documents and under Delaware law could make an acquisition of our company more difficult, limit attempts by our stockholders to replace or remove our current management, limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees, and limit the market price of our Class A common stock. Provisions in our restated certificate of incorporation and amended and restated bylaws may have the effect of delaying or preventing a change of control or changes in our management. Our restated certificate of incorporation and amended and restated bylaws include provisions tha • provide that our Board of Directors will be classified into three classes of directors with staggered three-year terms; • permit the Board of Directors to establish the number of directors and fill any vacancies and newly-created directorships; • require supermajority voting to amend some provisions in our restated certificate of incorporation and amended and restated bylaws; • authorize the issuance of “blank check” preferred stock that our Board of Directors could use to implement a stockholder rights plan; • provide that only the chairman of our Board of Directors, our chief executive officer, lead independent director, or a majority of our Board of Directors will be authorized to call a special meeting of stockholders; • provide for a dual class common stock structure in which holders of our Class B common stock may have the ability to control the outcome of matters requiring stockholder approval, even if they own significantly less than a majority of the outstanding shares of our common stock, including the election of directors and significant corporate transactions, such as a merger or other sale of our company or its assets; • prohibit stockholder action by written consent, which requires all stockholder actions to be taken at a meeting of our stockholders; • provide that the Board of Directors is expressly authorized to make, alter, or repeal our bylaws; and • establish advance notice requirements for nominations for election to our Board of Directors or for proposing matters that can be acted upon by stockholders at annual stockholder meetings. In addition, our restated certificate of incorporation provides that, to the fullest extent permitted by law, the Court of Chancery of the State of Delaware is the exclusive forum any derivative action or proceeding brought on our behalf; any action asserting a breach of fiduciary duty; any action asserting a claim against us arising pursuant to the Delaware General Corporation Law, or DGCL, our restated certificate of incorporation, or our amended and restated bylaws; or any action asserting a claim against us that is governed by the internal affairs doctrine. This exclusive forum provision does not apply to suits brought to enforce a duty or liability created by the Exchange Act. It would apply, however, to a suit that falls within one or more of the categories enumerated in the exclusive forum provision. 73 Section 22 of the Securities Act of 1933, as amended (Securities Act), creates concurrent jurisdiction for federal and state courts over all claims brought to enforce any duty or liability created by the Securities Act or the rules and regulations thereunder. Our bylaws provide that the federal district courts of the United States of America will, to the fullest extent permitted by law, be the exclusive forum for resolving any complaint asserting a cause of action arising under the Securities Act (Federal Forum Provision). Our decision to adopt a Federal Forum Provision followed a decision by the Supreme Court of the State of Delaware holding that such provisions are facially valid under Delaware law. While there can be no assurance that federal or state courts will follow the holding of the Delaware Supreme Court or determine that the Federal Forum Provision should be enforced in a particular case, application of the Federal Forum Provision means that suits brought by our stockholders to enforce any duty or liability created by the Securities Act must be brought in federal court and cannot be brought in state court. Section 27 of the Exchange Act creates exclusive federal jurisdiction over all claims brought to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder. In addition, neither the exclusive forum provision nor the Federal Forum Provision applies to suits brought to enforce any duty or liability created by the Exchange Act. Accordingly, actions by our stockholders to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder must be brought in federal court. Our stockholders will not be deemed to have waived our compliance with the federal securities laws and the regulations promulgated thereunder. Any person or entity purchasing or otherwise acquiring or holding any interest in any of our securities shall be deemed to have notice of and consented to our exclusive forum provisions, including the Federal Forum Provision. These provisions may limit a stockholders’ ability to bring a claim in a judicial forum of their choosing for disputes with us or our directors, officers, or other employees, which may discourage lawsuits against us and our directors, officers, and other employees. Moreover, Section 203 of the DGCL may discourage, delay, or prevent a change of control of our company. Section 203 imposes certain restrictions on mergers, business combinations, and other transactions between us and holders of 15% or more of our common stock. General Risk Factors Political developments, economic uncertainty or downturns could adversely affect our business and operating results. Political developments impacting government spending and international trade, including future government shutdowns in the United States, debt ceiling negotiations, armed conflict such as the conflict in Ukraine, trade disputes and tariffs, inflation, and rising interest rates, may negatively impact markets and cause weaker macroeconomic conditions. The continuing effect of any or all of these political or other uncertainties could adversely impact demand for our products, harm our operations and weaken our financial results. In addition, in recent years, the United States and other significant markets have experienced cyclical downturns and worldwide economic conditions remain uncertain. Economic uncertainty and associated macroeconomic conditions, such as a recession or rising inflation rates or economic slowdown in the United States or internationally, including due to the ongoing conflict in Ukraine, make it extremely difficult for our customers and us to accurately forecast and plan future business activities, and could cause our customers to slow spending on our solution, which could delay and lengthen sales cycles. Furthermore, during uncertain economic times our customers may face issues gaining timely access to sufficient credit, which could result in an impairment of their ability to make timely payments to us. If that were to occur, we may be required to increase our allowance for credit losses and our results could be negatively impacted. We have customers in a variety of different industries. A significant downturn in the economic activity attributable to any particular industry may cause organizations to react by reducing their capital and operating expenditures in general or by specifically reducing their spending on information technology. In addition, our customers may delay or cancel information technology projects or seek to lower their costs by renegotiating vendor contracts. To the extent purchases of our solution are perceived by customers and potential customers to be discretionary, our revenue may be disproportionately affected by delays or reductions in general information technology spending. Also, customers may choose to develop in-house software or modify their legacy business software as an alternative to using our solution. Moreover, competitors may respond to challenging market conditions by lowering prices and attempting to lure away our customers. 74 We cannot predict the timing, strength, or duration of any economic slowdown or any subsequent recovery generally, or any industry in particular. If the conditions in the general economy and the markets in which we operate worsen from present levels, our business, financial condition, and operating results could be materially adversely affected. Moreover, there has been recent instability of the global banking system. Continued disruptions in the banking system, both in the U.S. or abroad, may impact our or our customers’ liquidity and, as a result, negatively impact our business and operating results. The requirements of being a public company may strain our resources, divert management’s attention, and affect our ability to attract and retain additional executive management and qualified board members. As a public company, we are subject to the reporting requirements of the Exchange Act, the Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley Act), the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the listing requirements of the New York Stock Exchange, and other applicable securities rules and regulations. Compliance with these rules and regulations are costly, time-consuming, and can require significant resources. Although we have already hired additional employees and outside consultants to comply with these requirements, we may need to add additional resources, which would increase our costs and expenses. In addition, changing laws, regulations, and standards relating to corporate governance and public disclosure are creating uncertainty for public companies, increasing legal and financial compliance costs, and making some activities more time consuming. For example, expected SEC rules on climate-related disclosures may require us to update our policies, processes or systems to reflect new or amended financial reporting standards. These laws, regulations, and standards, if and when adopted, are subject to varying interpretations, in many cases due to their lack of specificity, and, as a result, their application in practice may evolve over time as market practice develops or new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. If our efforts to comply with new laws, regulations, and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to their application and practice, regulatory authorities may initiate legal proceedings against us, and our business, financial position, and operating results or our revenue and operating profit targets may be adversely affected. The rules and regulations applicable to public companies make it more expensive for us to obtain and maintain director and officer liability insurance, and we may be required to accept reduced coverage or incur substantially higher costs to obtain coverage. These factors could also make it more difficult for us to attract and retain qualified members of our Board of Directors, particularly to serve on our audit committee and compensation committee, and qualified executive officers. As a result of disclosure of information in our public company filings, our business and financial condition is more visible, which may result in threatened or actual litigation, including by competitors and other third parties. If such claims are successful, our business and operating results could be adversely affected, and even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the resources of our management and adversely affect our business and operating results. In addition, as a result of our disclosure obligations as a public company, we have reduced flexibility and are under pressure to focus on short-term results, which may adversely affect our ability to achieve long-term profitability. If we fail to maintain an effective system of disclosure controls and internal control over financial reporting, our ability to produce timely and accurate financial statements or comply with applicable regulations could be impaired. As a public company, we are required, pursuant to Section 404 of the Sarbanes-Oxley Act, to furnish a report by management on, among other things, the effectiveness of our internal control over financial reporting. Effective internal control over financial reporting is necessary for us to provide reliable financial reports and, together with adequate disclosure controls and procedures, are designed to prevent fraud. Any failure to implement required new or improved controls, or difficulties encountered in their implementation, could cause us to fail to meet our reporting obligations. Ineffective internal controls could also cause investors to lose confidence in our reported financial information, which could have a negative effect on the trading price of our Class A common stock. This management 75 report will need to include disclosure of any material weaknesses identified by our management in our internal control over financial reporting, as well as a statement that our independent registered public accounting firm has issued an opinion on our internal control over financial reporting. Section 404(b) of the Sarbanes-Oxley Act requires our independent registered public accounting firm to annually attest to the effectiveness of our internal control over financial reporting, which has required, and will continue to require, increased costs, expenses, and management resources. An independent assessment of the effectiveness of our internal controls could detect problems that our management’s assessment might not. Undetected material weaknesses in our internal controls could lead to financial statement restatements and require us to incur the expense of remediation. We are required to disclose changes made in our internal controls and procedures on a quarterly basis. To comply with the requirements of being a public company, we have undertaken, and may need to further undertake in the future, various actions, such as implementing new internal controls and procedures and hiring additional accounting or internal audit staff. If we are unable to assert that our internal control over financial reporting is effective, or if our independent registered public accounting firm is unable to express an opinion on the effectiveness of our internal control, including as a result of any identified material weakness, we could lose investor confidence in the accuracy and completeness of our financial reports, which would cause the price of our Class A common stock to decline, and we may be subject to investigation or sanctions by the SEC. In addition, if we are unable to continue to meet these requirements, we may not be able to remain listed on the New York Stock Exchange. We may be adversely affected by natural disasters, pandemics, and other catastrophic events, and by man-made problems such as terrorism, that could disrupt our business operations. Our business continuity and disaster recovery plans may not adequately protect us from a serious disaster. Natural disasters, pandemics and epidemics, or other catastrophic events such as fire, power shortages, and other events beyond our control may cause damage or disruption to our operations, international commerce, and the global economy, and could have an adverse and material effect on our business, operating results, and financial condition. For example, as a result of the COVID-19 pandemic and its impacts on the global economy and financial markets, we experienced certain disruptions to our business operations, including delays and lengthening of our customary sales cycles, certain customers not purchasing or renewing our products or services, and requests for pricing and payment concessions by certain customers. As a result of the pandemic, we have also reduced our office footprint given that many of our employees continue to work remotely, and we incurred certain impairment charges related to office leases in the fourth quarter of fiscal 2023 as described in Note 12. Leases of the Notes to Condensed Consolidated Financial Statements , and may incur additional impairment charges in future periods if we are unable to sublease available office space at our corporate headquarters in California on acceptable terms. In the event of a significant resurgence of COVID-19 pandemic or other future public health crisis, we could experience similar or more significant impacts to our operations, which may adversely impact our business, financial condition and operating results. More generally, a public health crisis or other catastrophic event could adversely affect economies and financial markets and lead to an economic downturn, which could harm our business, financial condition, and operating results. In the event of a natural disaster, including a major earthquake, blizzard, wildfire, or hurricane, or other catastrophic event such as a fire, power loss, or telecommunications failure, we may be unable to continue our operations and may endure system interruptions, reputational harm, delays in development of our solution, lengthy interruptions in service, breaches of data security, and loss of critical data, all of which could have an adverse effect on our future operating results. For example, our corporate headquarters is located in California, a state that frequently experiences earthquakes and wildfires. Additionally, all the aforementioned risks may be further increased if we do not implement an effective disaster recovery plan or our partners’ disaster recovery plans prove to be inadequate. Investors’ expectations of our performance relating to environmental, social, and governance factors may expose us to new risks and require us to incur additional costs . Corporate responsibility, including environmental, social and governance (ESG) factors, is increasingly becoming a focus from certain investors, employees, and other stakeholders. Some investors may use these factors to guide their investment strategies and, in some cases, may choose not to invest in us if they believe our corporate responsibility policies are inadequate. Third-party providers of corporate responsibility ratings and reports on companies have increased to meet growing investor demand for measurement of corporate responsibility 76 performance. The criteria by which companies’ corporate responsibility practices are assessed may require significant expenditures. In May 2022, we announced our commitment to remain carbon neutral going forward, including by purchasing carbon offsets in future years, which may become increasingly more expensive. In addition, the corporate responsibility criteria could change, which could result in greater expectations of us and cause us to undertake more costly initiatives to satisfy such new criteria. If we elect not to or are unable to satisfy such new criteria, investors may conclude that our policies with respect to corporate responsibility are inadequate. We may face reputational damage in the event that our corporate responsibility procedures or standards do not meet the standards set by various constituencies. Furthermore, if our competitors’ corporate responsibility performance is perceived to be greater than ours, potential or current investors may elect to invest with our competitors instead. In addition, in the event that we communicate certain initiatives and goals regarding ESG matters, we could fail, or be perceived to fail, in our achievement of such initiatives or goals, or we could be criticized for the scope of such initiatives or goals. If we fail to satisfy the expectations of investors, employees, and other stakeholders, or, if our initiatives are not executed as planned, our reputation and business, operating results, and financial condition could be adversely impacted. Item 2. Unregistered Sales of Equity Securities and Use of Proceeds Not Applicable. Item 5. Other Information Rule 10b5-1 Trading Arrangements Our directors and officers are generally only able to trade in Zuora stock under a “10b5-1 trading arrangement”, as defined in Item 408 of Regulation S-K that is intended to satisfy the affirmative defense of Rule 10b51-(c) under the Exchange Act, subject to compliance with applicable regulations as well as Zuora's trading policies and share ownership requirements. During the three months ended July 31, 2023, the following directors and executive officers adopted a Rule 10b5-1 trading arrangement. Each 10b5-1 trading arrangement was entered into in writing during an open trading window, has a term of at least one year, and is subject to a mandatory cooling off period requirement (i.e., commencement of trading under the arrangement must begin the later of 90 days following adoption of the arrangement or two days following our periodic report on Form 10-Q or Form 10-K for the fiscal quarter in which the trading arrangement was adopted). Shares in each 10b5-1 trading arrangement that are subject to RSUs and PSUs may only be traded following satisfaction of applicable vesting requirements and, for PSUs, the achievement of pre-established performance goals. In addition, because of pricing (such as future share price targets) and timing conditions in each 10b5-1 trading arrangement, it is not yet determinable how many shares actually will be sold under each plan prior to its expiration date. On May 31, 2023 , Robert J.E. Traube , our President and Chief Revenue Officer , adopted a Rule 10b5-1 trading arrangement for the sale of up to (i) 31,024 shares of Class A common stock and (ii) the net shares (not yet determinable) after shares are withheld to satisfy tax obligations upon the vesting of 453,444 RSUs and 150,000 PSUs. This 10b5-1 trading arrangement is scheduled to expire on August 30, 2024. As of July 31, 2023, Mr. Traube held the following Zuora equity not subject to trading under his Rule 10b5-1 trading arrangemen 29,485 shares of Class A common stock, 335,135 unvested RSUs and 200,000 unvested PSUs. On June 21, 2023 , Andrew Cohen , our Chief Legal Officer and Corporate Secretary , adopted a Rule 10b5-1 trading arrangement for the sale of up to (i) 53,893 shares of Class A common stock and (ii) the net shares (not yet determinable) after shares are withheld to satisfy tax obligations upon the vesting of 154,167 RSUs and 75,000 PSUs. This trading arrangement, which is his first trading plan with Zuora, is scheduled to expire on August 30, 2024. As of July 31, 2023, Mr. Cohen held the following Zuora equity not subject to trading under his Rule 10b5-1 trading arrangemen 26,090 shares of Class A common stock, 101,666 unvested RSUs and 100,000 unvested PSUs. On June 21, 2023 , Todd McElhatton , our Chief Financial Officer , adopted a Rule 10b5-1 trading arrangement for the sale of up to (i) 80,000 shares of Class A common stock, (ii) 50,000 shares of Class A stock upon the vesting of RSUs, and (iii) the net shares (not yet determinable) after shares are withheld to satisfy tax obligations upon the vesting of 350,000 PSUs. This trading arrangement is scheduled to expire on September 20, 2024. As of July 31, 2023, Mr. McElhatton held the following Zuora equity not subject to trading under his Rule 10b5-1 trading arrangemen 97,875 shares of Class A common stock, 584,843 unvested RSUs and 200,000 unvested PSUs. 77 On June 22, 2023 , Tien Tzuo , our Chief Executive Officer and Chairman of the Board of Directors , adopted a Rule 10b5-1 trading arrangement primarily to exercise up to 250,000 shares quarterly under his Class B stock option that expires in November 2024 in order to minimize trading impacts from exercising the entire option at one time and to avoid triggering Hart-Scott-Rodino filing obligations that may arise if he were to acquire additional shares of Zuora as his RSU and PSU awards vest. Mr. Tzuo’s trading arrangement provides for the sale of up to (i) 250,000 shares subject to his Class B stock option quarterly over the one year duration of the plan, which includes shares sold to pay the exercise price and tax withholding obligations, and (ii) net shares (not yet determinable) after shares are withheld to satisfy tax obligations upon the vesting of 341,665 RSUs and 350,000 PSUs. This trading arrangement is scheduled to expire on September 6, 2024. As of July 31, 2023, Mr. Tzuo, through trusts of which he is a trustee, held the following aggregate Zuora equity not subject to trading under his Rule 10b5-1 trading arrangemen 7,759,945 shares of Class B common stock, 6,352 shares of Class A common stock, 1,083,691 options for Class B common stock, which are fully vested, 1.2 million options for Class A common stock, of which 915,625 shares were vested, 445,835 unvested RSUs and 350,000 unvested PSUs. 78 Item 6. Exhibits. Exhibit Number Incorporated By Reference Filed or Furnished Herewith Exhibit Description Form File No. Exhibit Filing Date 10.1* Offer Letter, dated May 18, 2023, between Peter Hirsch and the Registrant X 31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Exchange Act X 31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Exchange Act X 32.1** Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 X 32.2** Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 X 101.INS Inline XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document X 101.SCH Inline XBRL Taxonomy Extension Schema Document X 101.CAL Inline XBRL Taxonomy Extension Calculation Linkbase Document X 101.DEF Inline XBRL Taxonomy Extension Definition Linkbase Document X 101.LAB Inline XBRL Taxonomy Extension Label Linkbase Document X 101.PRE Inline XBRL Taxonomy Extension Presentation Linkbase Document X 104 Cover Page Interactive Data File (embedded within the Inline XBRL document and included in Exhibit 101). X * Indicates a management contract or compensatory plan or arrangement in which directors or executive officers are eligible to participate. ** The certifications furnished in Exhibits 32.1 and 32.2 hereto are deemed to accompany this Form 10-Q and are not deemed “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, nor shall they be deemed incorporated by reference into any filing under the Securities Act or the Exchange Act. 79 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZUORA, INC. Date: September 6, 2023 By: /s/ Todd McElhatton Todd McElhatton Chief Financial Officer (Principal Accounting and Financial Officer) |
Washington, DC 20549 _____________________________ FORM 10-Q _____________________________ (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended October 31, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to __________ Commission File Numbe 001-38451 _____________________________ Zuora, Inc . (Exact name of registrant as specified in its charter) _____________________________ Delaware 20-5530976 (State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification Number) 101 Redwood Shores Parkway , Redwood City , California 94065 (Address of principal executive offices) (Zip Code) ( 888 ) 976-9056 (Registrant’s telephone number, including area code) Not Applicable (Former name, former address and former fiscal year, if changed since last report) _____________________________ Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol(s) Name on each exchange on which registered Class A common stock, par value $0.0001 per share ZUO New York Stock Exchange Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☒ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☐ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ As of November 30, 2023, the number of shares of the Registrant ’ s Class A common stock outstand ing was 135.0 million and the number of shares of the Registrant ’ s Class B common stock outstanding was 8.1 million. Page PART I. FINANCIAL INFORMATION 3 Item 1. Financial Statements (unaudited) 3 Condensed Consolidated Balance Sheets as of October 31, 2023 and January 31, 2023 3 Condensed Consolidated Statements of Comprehensive Loss for the Three and Nine Months Ended October 31, 2023 and 2022 4 Condensed Consolidated Statements of Stockholders' Equity for the Three and Nine Months Ended October 31, 2023 and 2022 5 Condensed Consolidated Statements of Cash Flows for the Nine Months Ended October 31, 2023 and 2022 7 Notes to Unaudited Condensed Consolidated Financial Statements 8 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 25 Item 3. Quantitative and Qualitative Disclosures About Market Risk 43 Item 4. Controls and Procedures 44 PART II. OTHER INFORMATION 46 Item 1. Legal Proceedings 46 Item 1A. Risk Factors 46 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 79 Item 5. Other Information 79 Item 6. Exhibits 80 Signatures 81 SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS Unless the context otherwise requires, references in this Quarterly Report on Form 10-Q (Form 10-Q) to “Zuora,” “Company,” “our,” “us,” and “we” refer to Zuora, Inc. and, where appropriate, its consolidated subsidiaries. Our fiscal year end is January 31. References to “fiscal” followed by the year refer to the fiscal year ended January 31 for the referenced year. This Form 10-Q contains forward-looking statements within the meaning of the federal securities laws. All statements contained in this Form 10-Q, other than statements of historical fact, including statements regarding our future operating results and financial position, our business strategy and plans, market growth, and our objectives for future operations, are forward-looking statements. Words such as “believes,” “may,” “will,” “estimates,” “potential,” “continues,” “anticipates,” “intends,” “expects,” “could,” “would,” “projects,” “plans,” “targets,” and variations of such words and similar expressions are intended to identify forward-looking statements. Forward-looking statements contained in this Form 10-Q include, but are not limited to, statements about our expectations regardin • trends in revenue, cost of revenue, and gross margin; • economic uncertainty and associated trends in macroeconomic conditions, as well as geopolitical conditions, including the effects of recession, inflation, rising interest rates, bank failures, debt ceiling negotiations, potential government shutdowns, and wars; • currency exchange rate fluctuations; • trends and expectations in our operating and financial metrics, including customers with annual contract value equal to or greater than $250,000, dollar-based retention rate, annual recurring revenue, and growth of and within our customer base; • future acquisitions, the anticipated benefits of such acquisitions and our ability to integrate the operations and technology of any acquired company; • industry trends, projected growth, or trend analysis, including the shift to subscription business models; • our investments in our platform and the cost of third-party hosting fees; • the expansion and functionality of our technology offering, including expected benefits of such products and technology, and our ability to further penetrate our customer base; • trends in operating expenses, including research and development expense, sales and marketing expense, and general and administrative expense, and expectations regarding these expenses as a percentage of revenue; • our liquidity being sufficient to meet our working capital and capital expenditure needs for at least the next 12 months; • the impact of actions that we are taking to improve operational efficiencies and operating costs; • legal proceedings, including expectations regarding final court approval of the settlement of our shareholder litigation; • disruptions to the U.S. and international banking systems; and • other statements regarding our future operations, financial condition, prospects and business strategies, including our ability to sublease office space at our corporate headquarters in California. Such forward-looking statements are based on our expectations as of the date of this filing and are subject to a number of risks, uncertainties and assumptions, including but not limited to, risks detailed in the “Risk Factors” section of this Form 10-Q. Readers are urged to carefully review and consider the various disclosures made in this Form 10-Q and in other documents we file from time to time with the Securities and Exchange Commission (SEC) that disclose risks and uncertainties that may affect our business. Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time. It is not possible for us to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties and assumptions, the future events and circumstances discussed in this Form 1 10-Q may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements. You should not rely upon forward-looking statements as predictions of future events. The events and circumstances reflected in the forward-looking statements may not be achieved or occur. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, performance or achievements. In addition, the forward-looking statements in this Form 10-Q are made as of the date of this filing, and we do not undertake, and expressly disclaim any duty, to update such statements for any reason after the date of this Form 10-Q or to conform statements to actual results or revised expectations, except as required by law. 2 PART I—FINANCIAL INFORMATION Item 1. Financial Statements ZUORA, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (in thousands) (unaudited) October 31, 2023 January 31, 2023 Assets Current assets: Cash and cash equivalents $ 414,832 $ 203,239 Short-term investments 78,905 183,006 Accounts receivable, net of allowance for credit losses of $ 2,071 and $ 4,001 as of October 31, 2023 and January 31, 2023, respectively 78,297 91,740 Deferred commissions, current portion 15,298 16,282 Prepaid expenses and other current assets 23,554 24,285 Total current assets 610,886 518,552 Property and equipment, net 25,570 27,159 Operating lease right-of-use assets 25,296 22,768 Purchased intangibles, net 10,689 13,201 Deferred commissions, net of current portion 26,658 28,250 Goodwill 55,000 53,991 Other assets 4,035 4,677 Total assets $ 758,134 $ 668,598 Liabilities and stockholders’ equity Current liabiliti Accounts payable $ 465 $ 1,073 Accrued expenses and other current liabilities 27,810 103,678 Accrued employee liabilities 30,992 30,483 Deferred revenue, current portion 158,407 167,145 Operating lease liabilities, current portion 7,396 9,240 Total current liabilities 225,070 311,619 Long-term debt 356,645 210,403 Deferred revenue, net of current portion 1,719 442 Operating lease liabilities, net of current portion 38,060 37,924 Deferred tax liabilities 3,723 3,717 Other long-term liabilities 7,340 7,333 Total liabilities 632,557 571,438 Commitments and contingencies (Note 13) Stockholders’ equity: Class A common stock 13 13 Class B common stock 1 1 Additional paid-in capital 936,147 859,482 Accumulated other comprehensive loss ( 1,808 ) ( 919 ) Accumulated deficit ( 808,776 ) ( 761,417 ) Total stockholders’ equity 125,577 97,160 Total liabilities and stockholders’ equity $ 758,134 $ 668,598 See notes to unaudited condensed consolidated financial statements. 3 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (in thousands, except per share data) (unaudited) Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Reve Subscription $ 98,048 $ 86,567 $ 283,232 $ 248,878 Professional services 11,801 14,505 37,760 44,168 Total revenue 109,849 101,072 320,992 293,046 Cost of reve Subscription 20,378 21,727 62,304 60,024 Professional services 14,650 18,553 47,851 55,140 Total cost of revenue 35,028 40,280 110,155 115,164 Gross profit 74,821 60,792 210,837 177,882 Operating expens Research and development 27,504 28,413 79,428 77,639 Sales and marketing 40,245 46,973 124,488 132,576 General and administrative 15,893 19,327 54,160 55,433 Total operating expenses 83,642 94,713 258,076 265,648 Loss from operations ( 8,821 ) ( 33,921 ) ( 47,239 ) ( 87,766 ) Change in fair value of debt conversion and warrant liabilities 6,997 452 2,241 9,348 Interest expense ( 5,610 ) ( 4,444 ) ( 14,604 ) ( 10,647 ) Interest and other income (expense), net 2,272 1,187 13,639 98 Loss before income taxes ( 5,162 ) ( 36,726 ) ( 45,963 ) ( 88,967 ) Income tax provision 340 308 1,396 1,145 Net loss ( 5,502 ) ( 37,034 ) ( 47,359 ) ( 90,112 ) Comprehensive l Foreign currency translation adjustment ( 696 ) ( 973 ) ( 1,383 ) ( 1,648 ) Unrealized (loss) gain on available-for-sale securities ( 18 ) ( 337 ) 494 ( 1,013 ) Comprehensive loss $ ( 6,216 ) $ ( 38,344 ) $ ( 48,248 ) $ ( 92,773 ) Net loss per share, basic and diluted $ ( 0.04 ) $ ( 0.28 ) $ ( 0.34 ) $ ( 0.69 ) Weighted-average shares outstanding used in calculating net loss per share, basic and diluted 141,488 132,579 138,789 130,461 See notes to unaudited condensed consolidated financial statements. 4 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (in thousands) (unaudited) Nine Months Ended October 31, 2023 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Loss Deficit Equity Balance, January 31, 2023 127,384 $ 13 8,121 $ 1 $ 859,482 $ ( 919 ) $ ( 761,417 ) $ 97,160 Conversion of Class B common stock to Class A common stock 220 — ( 220 ) — — — — — Issuance of common stock upon exercise of stock options — — 214 — 1,000 — — 1,000 RSU and PSU releases 6,464 — — — — — — — Issuance of common stock under the ESPP 911 — — — 4,765 — — 4,765 Stock-based compensation — — — — 77,973 — — 77,973 Reclassification of warrants, net of allocated debt issuance costs, to Accrued expenses and other current liabilities — — — — ( 7,073 ) — — ( 7,073 ) Other comprehensive loss — — — — — ( 889 ) — ( 889 ) Net loss — — — — — — ( 47,359 ) ( 47,359 ) Balance, October 31, 2023 134,979 $ 13 8,115 $ 1 $ 936,147 $ ( 1,808 ) $ ( 808,776 ) $ 125,577 Three Months Ended October 31, 2023 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Loss Deficit Equity Balance, July 31, 2023 132,448 $ 13 8,119 $ 1 $ 917,081 $ ( 1,094 ) $ ( 803,274 ) $ 112,727 Conversion of Class B common stock to Class A common stock 17 — ( 17 ) — — — — — Issuance of common stock upon exercise of stock options — — 13 — 38 — — 38 RSU and PSU releases 2,514 — — — — — — — Stock-based compensation — — — — 26,101 — — 26,101 Reclassification of warrants, net of allocated debt issuance costs, to Accrued expenses and other current liabilities — — — — ( 7,073 ) — — ( 7,073 ) Other comprehensive loss — — — — — ( 714 ) — ( 714 ) Net loss — — — — — — ( 5,502 ) ( 5,502 ) Balance, October 31, 2023 134,979 $ 13 8,115 $ 1 $ 936,147 $ ( 1,808 ) $ ( 808,776 ) $ 125,577 See notes to unaudited condensed consolidated financial statements. 5 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (in thousands) (unaudited) Nine Months Ended October 31, 2022 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Loss Deficit Equity Balance, January 31, 2022 119,008 $ 12 9,048 $ 1 $ 734,149 $ ( 108 ) $ ( 563,447 ) $ 170,607 Conversion of Class B common stock to Class A common stock 1,276 — ( 1,276 ) — — — — — Issuance of common stock upon exercise of stock options 49 — 349 — 2,097 — — 2,097 RSU releases 4,418 1 — — — — — 1 Issuance of common stock under the ESPP 615 — — — 4,485 — — 4,485 Charitable donation of stock 101 — — — 1,000 — — 1,000 Stock-based compensation — — — — 80,045 — — 80,045 Issuance of warrants — — — — 18,442 — — 18,442 Other comprehensive loss — — — — — ( 2,661 ) — ( 2,661 ) Net loss — — — — — — ( 90,112 ) ( 90,112 ) Balance, October 31, 2022 125,467 $ 13 8,121 $ 1 $ 840,218 $ ( 2,769 ) $ ( 653,559 ) $ 183,904 Three Months Ended October 31, 2022 Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-in Comprehensive Accumulated Stockholders' Shares Amount Shares Amount Capital Loss Deficit Equity Balance, July 31, 2022 123,833 $ 12 8,122 $ 1 $ 810,636 $ ( 1,459 ) $ ( 616,525 ) $ 192,665 Conversion of Class B common stock to Class A common stock 111 — ( 111 ) — — — — — Issuance of common stock upon exercise of stock options — — 110 — 575 — — 575 RSU releases 1,523 1 — — — — — 1 Stock-based compensation — — — — 29,007 — — 29,007 Other comprehensive loss — — — — — ( 1,310 ) — ( 1,310 ) Net loss — — — — — — ( 37,034 ) ( 37,034 ) Balance, October 31, 2022 125,467 $ 13 8,121 $ 1 $ 840,218 $ ( 2,769 ) $ ( 653,559 ) $ 183,904 See notes to unaudited condensed consolidated financial statements. 6 ZUORA, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) (unaudited) Nine Months Ended October 31, 2023 2022 Cash flows from operating activiti Net loss $ ( 47,359 ) $ ( 90,112 ) Adjustments to reconcile net loss to net cash used in operating activiti Depreciation, amortization and accretion 13,684 13,725 Stock-based compensation 77,973 80,045 Provision for credit losses 457 1,403 Donation of common stock to charitable foundation — 1,000 Amortization of deferred commissions 14,415 14,250 Reduction in carrying amount of right-of-use assets 4,876 5,859 Change in fair value of debt conversion and warrant liabilities ( 2,241 ) ( 9,348 ) Change in fair value of contingent consideration — ( 1,800 ) Other 2,630 575 Changes in operating assets and liabiliti Accounts receivable 12,476 5,666 Prepaid expenses and other assets 878 ( 2,454 ) Deferred commissions ( 12,013 ) ( 15,418 ) Accounts payable ( 634 ) 3,415 Accrued expenses and other liabilities ( 82,904 ) 2,819 Accrued employee liabilities 509 282 Deferred revenue ( 7,461 ) ( 2,607 ) Operating lease liabilities ( 10,962 ) ( 9,979 ) Net cash used in operating activities ( 35,676 ) ( 2,679 ) Cash flows from investing activiti Purchases of property and equipment ( 6,913 ) ( 8,471 ) Purchases of short-term investments ( 66,665 ) ( 205,464 ) Maturities of short-term investments 175,128 89,013 Cash paid for acquisition ( 4,524 ) ( 41,000 ) Net cash provided by (used in) investing activities 97,026 ( 165,922 ) Cash flows from financing activiti Proceeds from issuance of convertible senior notes, net of issuance costs 145,861 233,901 Proceeds from issuance of common stock upon exercise of stock options 1,000 2,097 Proceeds from issuance of common stock under employee stock purchase plan 4,765 4,485 Principal payments on debt — ( 1,480 ) Net cash provided by financing activities 151,626 239,003 Effect of exchange rates on cash and cash equivalents ( 1,383 ) ( 1,648 ) Net increase in cash and cash equivalents 211,593 68,754 Cash and cash equivalents, beginning of period 203,239 113,507 Cash and cash equivalents, end of period $ 414,832 $ 182,261 Supplemental disclosure of non-cash investing and financing activiti Property and equipment purchases accrued or in accounts payable $ 68 $ 64 See notes to unaudited condensed consolidated financial statements. 7 ZUORA, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) Note 1. Overview and Basis of Presentation Description of Business Zuora, Inc. was incorporated in the state of Delaware in 2006 and began operations in 2007. Zuora’s fiscal year ends on January 31. Zuora is headquartered in Redwood City, California. Zuora provides a cloud-based subscription management platform, built to help companies monetize new services and operate dynamic, recurring revenue business models. Our solutions enable companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the quote-to-cash and revenue recognition process, including quoting, billing, collections and revenue recognition, and improving the subscriber experience. With Zuora’s solutions, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their subscription offerings, and build meaningful relationships with their subscribers. On September 2, 2022, Zuora acquired Zephr, a leading subscription experience platform used by global digital publishing and media companies. Additional information regarding the Zephr acquisition is contained in our Annual Report on Form 10-K for the fiscal year ended January 31, 2023, filed with the Securities and Exchange Commission (SEC) on April 3, 2023 (Annual Report on Form 10-K). References to “Zuora”, “us”, “our”, or “we” in these notes refer to Zuora, Inc. and its subsidiaries on a consolidated basis. Basis of Presentation and Principles of Consolidation The accompanying unaudited condensed consolidated financial statements, which include the accounts of Zuora and its wholly owned subsidiaries, have been prepared in conformity with accounting principles generally accepted in the United States (GAAP) and applicable rules and regulations of the SEC regarding interim financial reporting. All intercompany balances and transactions have been eliminated in consolidation. The unaudited condensed consolidated balance sheet as of January 31, 2023 included herein was derived from the audited financial statements as of that date, but does not include all disclosures including certain notes required by GAAP on an annual reporting basis. The unaudited condensed consolidated financial statements reflect all normal recurring adjustments necessary to present fairly the balance sheets, statements of comprehensive loss, statements of cash flows and statements of stockholders' equity for the interim periods, but are not necessarily indicative of the results of operations to be anticipated for the full fiscal year ending January 31, 2024 or any future period. The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in our Annual Report on Form 10-K for the fiscal year ended January 31, 2023. Use of Estimates The preparation of unaudited condensed consolidated financial statements in conformity with GAAP requires management to make certain estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the unaudited condensed consolidated financial statements, as well as reported amounts of revenue and expenses during the reporting period. Actual results could differ materially from those estimates. Our most significant estimates and assumptions are related to revenue recognition with respect to the determination of the relative standalone selling prices for our services; the expected period of benefit over which deferred commissions are amortized; valuation of stock-based awards and our convertible senior notes and warrants; estimates of allowance for credit losses; estimates of the fair value of goodwill and long-lived assets when evaluating for impairments and for assets acquired from acquisitions; useful lives of intangibles and other long-lived 8 assets; and the valuation of deferred income tax assets and contingencies. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Accordingly, actual results may differ materially from these estimates under different assumptions or conditions. Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements Our significant accounting policies are discussed in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements in our Annual Report on Form 10-K. There have been no significant changes to these policies during the nine months ended October 31, 2023. Note 3. Investments The amortized costs, unrealized gains and losses and estimated fair values of our short-term investments were as follows (in thousands): October 31, 2023 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 18,841 $ — $ ( 23 ) $ 18,818 Corporate bonds 8,095 — ( 11 ) 8,084 Commercial paper 52,051 — ( 48 ) 52,003 Total short-term investments $ 78,987 $ — $ ( 82 ) $ 78,905 January 31, 2023 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value U.S. government securities $ 34,865 $ — $ ( 377 ) $ 34,488 Corporate bonds 41,974 — ( 189 ) 41,785 Commercial paper 102,720 — — 102,720 Foreign government securities 4,023 — ( 10 ) 4,013 Total short-term investments $ 183,582 $ — $ ( 576 ) $ 183,006 There were no material realized gains or losses from sales of marketable securities that were reclassified out of accumulated other comprehensive loss into investment income during the three and nine months ended October 31, 2023 and 2022. We had no significant unrealized losses on our available-for-sale securities as of October 31, 2023 and January 31, 2023, and we do not expect material credit losses on our current investments in future periods. All securities had stated effective maturities of less than one year as of October 31, 2023. 9 Note 4. Fair Value Measurements The accounting guidance for fair value measurements establishes a three-tier hierarchy, which prioritizes the inputs used in the valuation methodologies in measuring fair value as follows: Level input Input definition Level 1 Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets Level 2 Inputs other than quoted prices included within Level 1 that are observable for the asset or liability through corroboration with market data at the measurement date Level 3 Unobservable inputs that reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date In general, and where applicable, we use quoted prices in active markets for identical assets or liabilities to determine fair value. If quoted prices in active markets for identical assets or liabilities are not available to determine fair value, then we use quoted prices for similar assets and liabilities or inputs other than the quoted prices that are observable either directly or indirectly. The following tables summarize our fair value hierarchy for our financial assets and liabilities measured at fair value on a recurring basis (in thousands): October 31, 2023 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 355,951 $ — $ — $ 355,951 Treasury bills 4,959 — — 4,959 Total cash equivalents $ 360,910 $ — $ — $ 360,910 Short-term investments: U.S. government securities $ — $ 18,818 $ — $ 18,818 Corporate bonds — 8,084 — 8,084 Commercial paper — 52,003 — 52,003 Total short-term investments $ — $ 78,905 $ — $ 78,905 Liabiliti Warrant liability $ — $ — $ 8,592 $ 8,592 Debt conversion liability — — 5,773 5,773 Total liabilities $ — $ — $ 14,365 $ 14,365 January 31, 2023 Level 1 Level 2 Level 3 Total Cash equivalents: Money market funds $ 184,580 $ — $ — $ 184,580 Short-term investments: U.S. government securities $ — $ 34,488 $ — $ 34,488 Corporate bonds — 41,785 — 41,785 Commercial paper — 102,720 — 102,720 Foreign government securities — 4,013 — 4,013 Total short-term investments $ — $ 183,006 $ — $ 183,006 Liabiliti Warrant liability $ — $ — $ 2,829 $ 2,829 10 Changes in our Level 3 fair value measurements were as follows (in thousands): Warrant Liability Balance, January 31, 2023 $ 2,829 Reclassification of warrants to Accrued expenses and other current liabilities 7,717 Change in fair value ( 1,954 ) Balance, October 31, 2023 $ 8,592 Additional information about the Warrant liability, including the fair value inputs, is included in Note 17. Warrants to Purchase Shares of Common Stock . Debt Conversion Liability Balance, January 31, 2023 $ — Initial measurement 6,060 Change in fair value ( 287 ) Balance, October 31, 2023 $ 5,773 Additional information about the debt conversion liability, including the fair value inputs, is included in Note 9. Debt . As of October 31, 2023, the net carrying amount of the 2029 Notes, defined in Note 9. Debt , was $ 356.6 million and the estimated fair value was $ 260.8 million. The fair value of the 2029 Notes is classified as a Level 3 measurement. The carrying amounts of certain financial instruments, including cash held in bank accounts, accounts receivable, accounts payable, and accrued expenses, approximate fair value due to their relatively short maturities. Note 5. Prepaid Expenses and Other Current Assets Prepaid expenses and other current assets consisted of the following (in thousands): October 31, 2023 January 31, 2023 Prepaid software subscriptions $ 7,718 $ 7,533 Taxes 4,196 3,860 Contract assets 2,995 1,325 Prepaid insurance 2,165 3,225 Prepaid hosting costs 1,257 871 Deposits 846 1,168 Insurance payments receivable — 2,000 Other 4,377 4,303 Total $ 23,554 $ 24,285 11 Note 6. Property and Equipment, Net Property and equipment, net consisted of the following (in thousands): October 31, 2023 January 31, 2023 Software $ 34,639 $ 32,778 Leasehold improvements 14,529 15,254 Computer equipment 11,093 11,780 Furniture and fixtures 4,243 3,793 64,504 63,605 L accumulated depreciation and amortization ( 38,934 ) ( 36,446 ) Total $ 25,570 $ 27,159 The following table summarizes the capitalized internal-use software costs included within the Software line item in the table above (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Internal-use software costs capitalized during the period $ 2,345 $ 1,621 $ 5,043 $ 5,770 October 31, 2023 January 31, 2023 Total capitalized internal-use software, net of accumulated amortization $ 13,921 $ 14,138 During the three and nine months ended October 31, 2023, we recorded an impairment charge of $ 1.2 million related to certain capitalized software which is included in Research and development in the accompanying unaudited condensed consolidated statements of comprehensive loss. No similar impairment charges were recorded in the three and nine months ended October 31, 2022. The following table summarizes total depreciation and amortization expense related to property and equipment, including amortization of internal-use software, included primarily in General and administrative and Cost of subscription revenue in the accompanying unaudited condensed consolidated statements of comprehensive loss (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Total depreciation and amortization expense $ 2,192 $ 2,646 $ 7,174 $ 7,013 12 Note 7. Purchased Intangible Assets and Goodwill The following tables summarize the purchased intangible asset balances (in thousands): October 31, 2023 Gross Carrying Amount Accumulated Amortization Net Carrying Amount Developed technology $ 17,997 $ ( 9,414 ) $ 8,583 Customer relationships 5,187 ( 3,646 ) 1,541 Trade name 1,709 ( 1,144 ) 565 Total $ 24,893 $ ( 14,204 ) $ 10,689 January 31, 2023 Gross Carrying Amount Accumulated Amortization Net Carrying Amount Developed technology $ 19,571 $ ( 9,194 ) $ 10,377 Customer relationships 5,187 ( 3,225 ) 1,962 Trade name 1,709 ( 847 ) 862 Total $ 26,467 $ ( 13,266 ) $ 13,201 During the three and nine months ended October 31, 2023, we recorded an impairment charge of $ 0.4 million related to intellectual property assets acquired in 2021 which is included in Cost of subscription revenue in the accompanying unaudited condensed consolidated statements of comprehensive loss. No similar impairment charges were recorded in the three and nine months ended October 31, 2022. Purchased intangible assets are being amortized to Cost of subscription revenue in the accompanying unaudited condensed consolidated statements of comprehensive loss on a straight-line basis over their estimated useful lives ranging from three to ten years . The following table summarizes amortization expense recognized on purchased intangible assets during the periods indicated (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Purchased intangible assets amortization expense $ 607 $ 586 $ 2,083 $ 1,512 Estimated future amortization expense for purchased intangible assets as of October 31, 2023 was as follows (in thousands): Fiscal year endin 2024 (remainder of the year) $ 607 2025 2,343 2026 1,874 2027 1,561 2028 1,561 Thereafter 2,743 Total estimated amortization expense $ 10,689 13 The following table represents the changes to goodwill (in thousands): Goodwill Balance, January 31, 2023 $ 53,991 Effects of foreign currency translation 499 Other 510 Balance, October 31, 2023 $ 55,000 Note 8. Accrued Expenses and Other Current Liabilities Accrued expenses and other current liabilities consisted of the following (in thousands): October 31, 2023 January 31, 2023 Warrant liability $ 8,592 $ 2,829 Debt conversion liability 5,773 — Accrued taxes 4,305 4,088 Accrued hosting and third-party licenses 2,800 4,374 Accrued outside services and consulting 2,138 3,507 Accrued interest 1,492 850 Litigation settlement — 75,000 Accrued contingent consideration — 4,420 Other accrued expenses 2,710 8,610 Total $ 27,810 $ 103,678 Note 9. Debt 2029 Notes On March 24, 2022 (Initial Closing Date), we issued convertible senior notes (Initial Notes) in the aggregate principal amount of $ 250.0 million pursuant to an agreement with certain entities affiliated with Silver Lake Alpine II, L.P. (Silver Lake). On September 22, 2023 (Subsequent Closing Date), we issued additional convertible senior notes in the aggregate principal amount of $ 150.0 million (Additional Notes and together with the Initial Notes, the “2029 Notes”) under the agreement with Silver Lake. The 2029 Notes represent senior unsecured obligations of Zuora. As a condition of the agreement with Silver Lake, we also issued warrants to Silver Lake to acquire up to 7.5 million shares of Class A common stock (Warrants). Refer to Note 17. Warrants to Purchase Shares of Common Stock for more information. The purchase price of the 2029 Notes is 98 % of the par value. The 2029 Notes bear interest at a rate of 3.95 % per annum, payable quarterly in cash, provided that we have the option to pay interest in kind at 5.50 % per annum. The 2029 Notes will mature on March 31, 2029, subject to earlier conversion or repurchase. The 2029 Notes are convertible at Silver Lake’s option into shares of our Class A common stock at an initial conversion rate of 50.0 shares per $ 1,000 principal amount ($ 20.00 per share, representing 20.0 million shares of Class A common stock), subject to customary anti-dilution adjustments. Any 2029 Notes that are converted in connection with a "make-whole fundamental change" are subject to an increase in the conversion rate under certain circumstances. The term "make-whole fundamental change" is defined in the indenture for the 2029 Notes, and generally refers to a "fundamental change" including a change in control of Zuora that meets certain specifications or the termination of trading of Zuora's stock on the New York Stock Exchange (or the NASDAQ Global Select Market or the NASDAQ Global Market, or any of their respective successors), in each case subject to certain exceptions and exclusions described in the indenture. On the Initial Closing Date, we concluded that the conversion option contained in the 2029 Notes qualified for a scope exception from derivative accounting and therefore was not bifurcated and accounted for separately from the Initial Notes. On the Subsequent Closing Date, we reassessed the classification of the conversion option and 14 concluded that a portion of the conversion option no longer qualified for equity classification under ASC 815-40 as a result of the issuance of the Additional Notes. Under certain make-whole fundamental change scenarios, we would be required to, at our option, either (i) seek and obtain stockholder approval prior to issuing 20 % or more of our outstanding common stock or voting power or (ii) pay cash in lieu of delivering any shares at or above such 20 % threshold. As a result of our sequencing policy described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements in our Annual Report on Form 10-K, we separated a portion of the conversion option representing approximately 1.4 million shares of Class A common stock issuable upon conversion of the 2029 Notes valued at $ 6.1 million as of the Subsequent Closing Date from the 2029 Notes and recorded a debt conversion liability at fair value on bifurcation, with an offset to the carrying amount of the 2029 Notes. For further information on our derivative financial instruments policy, refer to Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements in our Annual Report on Form 10-K. We will reassess the classification of the debt conversion liability in future reporting periods to determine if any further change is required. With certain exceptions, upon a "fundamental change" of Zuora, the holders of the 2029 Notes may require that we repurchase all or part of the principal amount of the 2029 Notes at a purchase price equal to the principal amount and accrued but unpaid interest outstanding, plus the total sum of all remaining scheduled interest payments through the remainder of the term of the 2029 Notes, at the 5.50 % paid in kind interest rate. At any time on or after the fifth anniversary of the Initial Closing Date, the holders of the 2029 Notes may require that we repurchase all or part of the principal amount of the Notes at a purchase price equal to the principal amount plus accrued interest through the date of repurchase. Upon certain events of default, the 2029 Notes may be declared due and payable (or will automatically become so under certain events of default), at a purchase price equal to the principal amount plus accrued interest through the date of repurchase. We have no right to redeem the 2029 Notes prior to maturity. We incurred an additional $ 4.1 million of debt issuance costs associated with the issuance of the Additional Notes. The 2029 Notes' debt issuance costs, debt discount, and associated derivatives are being amortized to interest expense using the effective interest rate method over the five year expected life of the 2029 Notes (representing the period from the contract date to the earliest noncontingent put date of May 24, 2027) and reflects an effective interest rate of 7.6 %. The carrying value of the 2029 Notes was classified as long-term and consisted of the following (in thousands): October 31, 2023 January 31, 2023 2029 Notes principal $ 400,000 $ 250,000 Unamortized debt issuance costs, debt discount, and associated derivatives ( 43,355 ) ( 39,597 ) Carrying value $ 356,645 $ 210,403 Interest expense related to the 2029 Notes, included in Interest expense in the accompanying unaudited condensed consolidated statements of comprehensive loss, was as follows (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Contractual interest expense $ 3,111 $ 2,469 $ 8,049 $ 5,953 Amortization of debt discount 2,443 1,967 6,441 4,634 Total interest expense $ 5,554 $ 4,436 $ 14,490 $ 10,587 15 We used a binomial lattice model to value the bifurcated derivatives contained in the 2029 Notes. ASC 815 does not permit an issuer to account separately for individual derivative terms and features embedded in hybrid financial instruments that require bifurcation and liability classification as derivative financial instruments. Rather, such terms and features must be combined together, and fair-valued as a single, compound embedded derivative. We selected a binomial lattice model to value the compound embedded derivative because we believe this technique is reflective of all significant assumptions that market participants would likely consider in negotiating the transfer of the 2029 Notes. Such assumptions include, among other inputs, stock price volatility, risk-free rates, credit risk assumptions, early redemption and conversion assumptions, and the potential for future adjustment of the conversion rate due to triggering events. Additionally, there are other embedded features contained in the 2029 Notes requiring bifurcation, other than the conversion option, which had no value as of October 31, 2023, the Subsequent Closing Date, and the Initial Closing Date due to management’s estimates of the likelihood of certain events, but that may have value in the future should those estimates change. The debt conversion liability's fair value was measured using a binomial lattice model using the following key inputs: October 31, 2023 September 22, 2023 Fair value of common stock $ 7.41 $ 8.44 Conversion price $ 20.00 $ 20.00 Expected volatility 47.5 % 47.5 % Risk-free interest rate 4.7 % 4.5 % Corporate bond yield 21.4 % 20.5 % Coupon interest rate 3.95 % 3.95 % We recognized a gain on the revaluation of the debt conversion liability, summarized in the table below (in thousands), which is included in Change in fair value of debt conversion and warrant liabilities in the accompanying unaudited condensed consolidated statements of comprehensive loss. Refer to Note 4. Fair Value Measurements for the fair value of the debt conversion liability. Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Change in fair value of debt conversion liability $ 287 $ — $ 287 $ — Debt Agreement We have a $ 30.0 million revolving credit facility under an agreement with Silicon Valley Bank, a division of First-Citizens Bank & Trust. This credit facility matures in October 2025. The interest rate under the credit facility is equal to the prime rate published by the Wall Street Journal minus 1.00 %. We had no t drawn down any amounts under the facility as of October 31, 2023. Note 10. Deferred Revenue and Performance Obligations The following table summarizes revenue recognized during the period that was included in the deferred revenue balance at the beginning of each respective period (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Revenue recognized from deferred revenue $ 80,407 $ 75,929 $ 153,729 $ 137,257 As of October 31, 2023, total remaining non-cancellable performance obligations under our subscription contracts with customers was approximately $ 554.2 million and we expect to recognize revenue on approximately 54 % of these remaining performance obligations over the next 12 months. Remaining performance obligations under our professional services contracts as of October 31, 2023 were not material. 16 Note 11. Geographical Information Disaggregation of Revenue Revenue by country, based on the customer’s address at the time of sale, was as follows (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 United States $ 70,312 $ 66,902 $ 205,067 $ 191,129 Others 39,537 34,170 115,925 101,917 Total $ 109,849 $ 101,072 $ 320,992 $ 293,046 Percentage of revenue by geographic ar United States 64 % 66 % 64 % 65 % Other 36 % 34 % 36 % 35 % Other than the United States, no individual country exceeded 10% of total revenue for the three and nine months ended October 31, 2023 and 2022. Long-lived assets Long-lived assets, which consist of property and equipment, net, deferred commissions, purchased intangible assets, net and operating lease right-of-use assets by geographic location, are based on the location of the legal entity that owns the asset. As of October 31, 2023 and January 31, 2023, no individual country exceeded 10% of total long-lived assets other than the United States. Note 12. Leases We have non-cancelable operating leases for our offices located in the U.S. and abroad. As of October 31, 2023, these leases expire on various dates between 2024 and 2030. Certain lease agreements include one or more options to renew, with renewal terms that can extend the lease up to seven years . We have the right to exercise or forego the lease renewal options. The lease agreements do not contain any material residual value guarantees or material restrictive covenants. The components of our long-term operating leases and related operating lease cost were as follows (in thousands): October 31, 2023 January 31, 2023 Operating lease right-of-use assets $ 25,296 $ 22,768 Operating lease liabilities, current portion $ 7,396 $ 9,240 Operating lease liabilities, net of current portion 38,060 37,924 Total operating lease liabilities $ 45,456 $ 47,164 Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Operating lease cost 1 $ 2,117 $ 2,337 $ 6,526 $ 7,589 _____________________________ 17 (1) Includes costs related to our short-term operating leases and is net of sublease income as follows (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Short-term operating lease costs $ 146 $ 118 $ 387 $ 317 Sublease income $ ( 98 ) $ — $ ( 293 ) $ — The future maturities of long-term operating lease liabilities for each fiscal year were as follows (in thousands): Maturities of Operating Lease Liabilities 2024 (remainder of the year) $ 2,377 2025 8,766 2026 8,694 2027 7,947 2028 7,863 Thereafter 17,484 Total lease payments 53,131 Less imputed interest ( 7,675 ) Present value of lease liabilities $ 45,456 Other supplemental information related to our long-term operating leases includes the following (dollars in thousands): October 31, 2023 January 31, 2023 Weighted-average remaining operating lease term 6.1 years 6.7 years Weighted-average operating lease discount rate 5.1 % 4.8 % Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Supplemental Cash Flow Information Cash paid for amounts included in the measurement of lease liabiliti Cash paid for operating leases $ 3,143 $ 2,639 $ 10,671 $ 9,461 New right-of-use assets obtained in exchange for lease liabiliti Operating leases obtained $ 427 $ 799 $ 7,400 $ 799 Note 13. Commitments and Contingencies Letters of Credit In connection with the execution of certain facility leases, we had bank issued irrevocable letters of credit for $ 4.5 million as of October 31, 2023 and January 31, 2023. No draws have been made under such letters of credit. Legal Proceedings From time to time, we may be subject to legal proceedings, as well as demands, claims and threatened litigation. The outcomes of legal proceedings and other contingencies are inherently unpredictable, subject to significant uncertainties, and could be material to our operating results and cash flows for a particular period. Regardless of the outcome, litigation can have an adverse impact on our business because of defense and settlement costs, diversion of management resources, and other factors. Other than the matters described below, 18 we are not currently party to any legal proceeding that we believe could have a material adverse effect on our business, operating results, cash flows, or financial condition should such litigation or claim be resolved unfavorably. Securities Class Action Litigation In June 2019, a putative securities class action lawsuit alleging violations of the federal securities laws was filed in the U.S. District Court for the Northern District of California naming Zuora and certain of its officers as defendants, seeking unspecified compensatory damages, fees and costs. In November 2019, the lead plaintiff filed a consolidated amended complaint asserting the same claims, which was captioned Roberts v. Zuora, Inc. , Case No. 3:19-CV-03422 (hereinafter referred to as "Federal Class Action"). In April and May 2020, two putative securities class action lawsuits alleging violations of the federal securities laws were filed and later consolidated in the Superior Court of the State of California, County of San Mateo, naming as defendants Zuora and certain of its current and former officers, its directors and the underwriters of Zuora's initial public offering (IPO), and seeking unspecified damages and other relief. In July 2020, the court entered an order consolidating the two lawsuits, and the lead plaintiffs filed a consolidated amended complaint asserting the same claims. The consolidated class action litigation was captioned Olsen v. Zuora, Inc ., Case No. 20-civ-1918 (hereinafter referred to as "State Class Action"). In March 2023, Zuora entered into an agreement to settle the Federal Class Action without any admission or concession of wrongdoing or liability by Zuora or the named defendants. In June 2023, Zuora reached an agreement to settle the State Class Action without any admission or concession of wrongdoing or liability by Zuora or the named defendants, and agreed to resolve the litigation as part of a combined resolution with the Federal Class Action. In August 2023, the combined settlement of the Federal Class Action and State Class Action received preliminary court approval, and Zuora paid an aggregate of $ 75.5 million of which $ 7.2 million was funded by Zuora’s insurance proceeds. The hearing for final approval of the settlement is scheduled for January 2024. Derivative Litigation In September 2019, two stockholder derivative lawsuits were filed and later consolidated in the U.S. District Court for the Northern District of California against certain of Zuora's directors and executive officers and naming Zuora as a nominal defendant. In May and June 2020, two additional stockholder derivative lawsuits were filed and later consolidated in the U.S. District Court for the District of Delaware against certain of Zuora's directors and current and former executive officers. In February and March 2021, two additional stockholder derivative lawsuits were filed and later consolidated in Delaware Chancery Court alleging similar claims based on the same underlying events. These derivative actions alleged claims based on events similar to those in the securities class actions and asserted causes of action against the individual defendants for breach of fiduciary duty, unjust enrichment, waste of corporate assets, and for alleged violation of federal securities laws. In February 2023, Zuora reached an agreement to settle the derivative litigation matters without any admission or concession of wrongdoing or liability by Zuora or the named defendants. In connection with the settlement, Zuora agreed to adopt and implement certain corporate governance modifications and pay $ 2.0 million for certain plaintiffs' attorney fees, which amount was paid by Zuora's insurance carriers in August 2023. The settlement received final court approval in September 2023. Other Contractual Obligations As of October 31, 2023, we have a contractual obligation to make $ 6.9 million in purchases of cloud computing services provided by one of our vendors by September 2024. 19 Note 14. Income Taxes The following table reflects our income tax provision, pretax loss and effective tax rate for the periods presented (in thousands, except percentages): Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Loss before income taxes $ ( 5,162 ) $ ( 36,726 ) $ ( 45,963 ) $ ( 88,967 ) Income tax provision 340 308 1,396 1,145 Effective tax rate ( 6.6 ) % ( 0.8 ) % ( 3.0 ) % ( 1.3 ) % The effective tax rates differ from the statutory rates primarily as a result of providing no benefit on pretax losses incurred in the United States, as we have determined that the benefit of the losses is not more likely than not to be realized. Note 15. Stockholders’ Equity Preferred Stock As of October 31, 2023, Zuora had authorized 10 million shares of preferred stock, each with a par value of $ 0.0001 per share. As of October 31, 2023, no shares of preferred stock were issued and outstanding. Common Stock Prior to Zuora's IPO, which was effective in April 2018, all shares of common stock then outstanding were reclassified into Class B common stock. Shares offered and sold in the IPO consisted of newly authorized shares of Class A common stock. Holders of Class A and Class B common stock are entitled to one vote per share and ten votes per share, respectively, and the shares of Class A common stock and Class B common stock are identical, except for voting rights and the right to convert Class B common stock to Class A common stock. As of October 31, 2023, Zuora had authorized 500 million shares of Class A common stock and 500 million shares of Class B common stock, each with a par value of $ 0.0001 per share. As of October 31, 2023, 135.0 million shares of Class A common stock and 8.1 million shares of Class B common stock were issued and outstanding. Accumulated Other Comprehensive Loss Components of accumulated other comprehensive loss were as follows (in thousands): Foreign Currency Translation Adjustment Unrealized Loss on Available-for-Sale Securities Total Balance, January 31, 2023 $ ( 343 ) $ ( 576 ) $ ( 919 ) Foreign currency translation adjustment ( 1,383 ) — ( 1,383 ) Unrealized gain on available-for-sale securities — 494 494 Balance, October 31, 2023 $ ( 1,726 ) $ ( 82 ) $ ( 1,808 ) There were no material reclassifications out of accumulated other comprehensive loss during the three and nine months ended October 31, 2023. Additionally, there was no material tax impact on the amounts presented. 20 Note 16. Employee Stock Plans Equity Incentive Plans Our 2018 Equity Incentive Plan (2018 Plan) authorizes the award of stock options, restricted stock awards, stock appreciation rights, restricted stock units (RSUs), performance awards, and stock bonuses. As of October 31, 2023, approximately 26.8 million shares of Class A common stock were reserved and available for issuance under the 2018 Plan. In addition, as of October 31, 2023, 4.0 million stock options and RSUs exercisable or settleable for Class B common stock were outstanding in the aggregate under our 2006 Stock Plan (2006 Plan) and 2015 Equity Incentive Plan (2015 Plan), which plans were terminated in May 2015 and April 2018, respectively. The 2006 Plan and 2015 Plan continue to govern outstanding equity awards granted thereunder. Stock Options The following tables summarize stock option activity and related information (in thousands, except weighted-average exercise price, weighted-average grant date fair value and average remaining contractual term): Shares Subject To Outstanding Stock Options Weighted-Average Exercise Price Average Remaining Contractual Term (Years) Aggregate Intrinsic Value Balance, January 31, 2023 7,761 $ 9.28 5.0 $ 14,505 Exercised ( 215 ) 4.57 Cancelled ( 775 ) 13.28 Forfeited ( 183 ) 12.67 Balance, October 31, 2023 6,588 8.87 4.0 12,205 Exercisable as of October 31, 2023 3,017 3.36 1.7 12,205 Vested and expected to vest as of October 31, 2023 6,563 $ 8.85 3.9 $ 12,205 Three Months Ended October 31, Nine Months Ended October 31, 2023 1 2022 1 2023 1 2022 Weighted-average grant date fair value per share of options granted during each respective period $ — $ — $ — $ 5.54 Aggregate intrinsic value of options exercised during each respective period $ 73 $ 356 $ 1,104 $ 2,386 _________________________________ (1) No stock options were granted during the three and nine months ended October 31, 2023, or the three months ended October 31, 2022. RSUs The following table summarizes RSU activity and related information (in thousands, except weighted-average grant date fair value): Number of RSUs Outstanding Weighted-Average Grant Date Fair Value Balance, January 31, 2023 12,504 $ 12.98 Granted 7,785 8.12 Vested ( 6,224 ) 11.87 Forfeited ( 1,398 ) 12.92 Balance, October 31, 2023 12,667 $ 10.54 21 Performance Stock Units (PSUs) In March 2022, July 2023, and September 2023, we granted PSUs to certain executives under our 2018 Plan. Each grant is divided into two or three tranches, each tranche having pre-established performance targets that if met, as determined quarterly by our Compensation Committee, would result in the shares attributable to such tranche being earned, subject to a service-based vesting condition. The shares attributable to unearned tranches will be forfeited on January 31, 2025 if the applicable performance criteria for such tranches are not met. Stock-based compensation expense is recognized if it is probable the performance targets (for each respective tranche) will be met during the performance period. As we previously disclosed in our Form 10-Q for the three months ended April 30, 2023 filed with the SEC on June 1, 2023, we modified the performance targets associated with the PSUs that were granted in March 2022. This resulted in $ 9.6 million of incremental compensation expense that is being recognized over the remaining vesting periods of the awards. The following table summarizes PSU activity and related information (in thousands, except weighted-average grant date fair value): Number of PSUs Outstanding Weighted-Average Grant Date Fair Value Balance, January 31, 2023 2,905 $ 15.21 Granted 420 10.24 Vested ( 240 ) 15.21 Forfeited ( 525 ) 15.21 Balance, October 31, 2023 2,560 $ 14.40 2018 Employee Stock Purchase Plan Our 2018 Employee Stock Purchase Plan (ESPP) is broadly available to our employees in the United States and certain other countries in which we operate. A total of 4.9 million shares of Class A common stock were reserved and available for issuance under the ESPP as of October 31, 2023. The ESPP provides for 24 -month offering periods beginning June 15 and December 15 of each year, and each offering period contains four six-month purchase periods. On each purchase date, ESPP participants will purchase shares of our Class A common stock at a price per share equal to 85 % of the lesser of (1) the fair market value of the Class A common stock on the offering date or (2) the fair market value of the Class A common stock on the purchase date. We estimated the fair value of ESPP purchase rights using a Black-Scholes option pricing model with the following assumptio Three and Nine Months Ended October 31, 2023 Three and Nine Months Ended October 31, 2022 Fair value of common stock $ 11.55 $ 8.91 Expected volatility 37.1 % - 45.7 % 44.4 % - 52.3 % Expected term (in years) 0.5 - 2.0 0.5 - 2.0 Risk-free interest rate 3.0 % - 4.8 % 2.3 % - 3.2 % Expected dividend yield — % — % 22 Stock-Based Compensation Expense Stock-based compensation expense was recorded in the following cost and expense categories in the accompanying unaudited condensed consolidated statements of comprehensive loss (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Cost of subscription revenue $ 2,350 $ 2,437 $ 6,889 $ 6,517 Cost of professional services revenue 2,747 3,479 8,997 10,186 Research and development 7,165 7,536 20,661 20,967 Sales and marketing 8,191 10,188 24,857 27,603 General and administrative 5,648 5,367 16,569 14,772 Total stock-based compensation expense $ 26,101 $ 29,007 $ 77,973 $ 80,045 As of October 31, 2023, unrecognized compensation costs related to unvested equity awards and the weighted-average remaining period over which those costs are expected to be recognized were as follows (dollars in thousands): Stock Options RSUs PSUs ESPP Unrecognized compensation costs $ 2,197 $ 114,874 $ 21,049 $ 5,722 Weighted-average remaining recognition period 1.2 years 1.9 years 1.3 years 0.8 years Note 17. Warrants to Purchase Shares of Common Stock In connection with the issuance of the 2029 Notes (discussed Note 9. Debt ), we issued to Silver Lake Warrants to acquire up to 7.5 million shares of Class A common stock, exercisable for a period of approximately seven years from the Initial Closing Date, and of which (i) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 20.00 per share, (ii) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 22.00 per share, and (iii) Warrants to purchase up to 2.5 million shares of Class A common stock are exercisable at $ 24.00 per share. In addition, Silver Lake can elect to exercise the Warrants on a net-exercise basis. In the event of a "make-whole fundamental change" (as defined in the Form of Warrant, which has a similar definition as in the indenture, described above in Note. 9 Debt ), the number of shares issuable by Zuora upon exercise of the Warrants may be increased, and the exercise price for the Warrants adjusted. As of October 31, 2023, all 7.5 million Warrants were outstanding. On the Initial Closing Date, we classified a portion of the Warrants as a current liability due to certain settlement provisions in the Warrants. Under certain make-whole fundamental change scenarios, we would be required to, at our option, either (i) obtain shareholder approval prior to issuing 20 % or more of our outstanding common stock or (ii) pay cash in lieu of delivering any shares at or above such 20 % threshold. As a result, we concluded that approximately 2.8 million Warrants valued at $ 12.0 million as of the Initial Closing Date did not qualify for equity classification under ASC 815-40, pursuant to our sequencing policy. As a result of the issuance of the Additional Notes, we reassessed the classification of the Warrants and concluded that no Warrants qualified for equity classification under ASC 815-40. Accordingly, we reclassified 4.7 million Warrants valued at $ 7.7 million from equity to liability as of the Subsequent Closing Date. We will reassess the classification of the Warrant liability in future reporting periods to determine if any change is required. The liability-classified warrants' fair value was measured using the Black-Scholes option pricing model using the following inputs: 23 October 31, 2023 September 22, 2023 January 31, 2023 Fair value of common stock 1 $ 7.41 $ 8.44 $ 7.24 Exercise price $ 20.00 - $ 24.00 $ 20.00 - $ 24.00 $ 22.00 - $ 24.00 Expected volatility 42.4 % 42.2 % 41.2 % Expected term (in years) 5.4 5.5 6.2 Risk-free interest rate 4.8 % 4.6 % 3.6 % Expected dividend yield — — — ______________ (1) The fair value of common stock as of January 31, 2023 was adjusted to reflect certain restrictions on the Warrants. Such restrictions expired in September 2023. We recognized gains on the revaluation of the liability-classified Warrants, summarized in the table below (in thousands), which are included in Change in fair value of debt conversion and warrant liabilities in the accompanying unaudited condensed consolidated statements of comprehensive loss. Refer to Note 4. Fair Value Measurements for the fair value of the liability-classified Warrants. Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Change in fair value of warrant liability $ 6,710 $ 452 $ 1,954 $ 9,348 Note 18. Net Loss Per Share The following table presents the calculation of basic and diluted net loss per share for the periods presented (in thousands, except per share data): Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Numerato Net loss $ ( 5,502 ) $ ( 37,034 ) $ ( 47,359 ) $ ( 90,112 ) Denominato Weighted-average common shares outstanding, basic and diluted 141,488 132,579 138,789 130,461 Net loss per share, basic and diluted $ ( 0.04 ) $ ( 0.28 ) $ ( 0.34 ) $ ( 0.69 ) Since we were in a net loss position for all periods presented, basic net loss per share attributable to common stockholders is the same as diluted net loss per share, as the inclusion of all potential common shares outstanding would have been anti-dilutive. Potentially dilutive securities that were not included in the diluted per share calculations because they would be anti-dilutive were as follows (in thousands): October 31, 2023 2022 2029 Notes conversion 20,000 12,500 Unvested RSUs issued and outstanding 12,667 14,234 Warrants 7,500 7,500 Issued and outstanding stock options 6,588 7,875 Unvested PSUs issued and outstanding 2,560 2,905 Shares committed under ESPP 598 439 Total 49,913 45,453 24 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements and related notes appearing elsewhere in this Form 10-Q and our Annual Report on Form 10-K for the fiscal year ended January 31, 2023 filed with the Securities and Exchange Commission (SEC) on April 3, 2023 (Annual Report on Form 10-K). As discussed in the section titled “Special Note Regarding Forward-Looking Statements,” the following discussion and analysis contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. Factors that could cause or contribute to these differences include, but are not limited to, those identified below and those discussed in the section titled “Risk Factors” under Part II, Item 1A in this Form 10-Q and in our Annual Report on Form 10-K. Our fiscal year ends on January 31. Overview Zuora provides a leading monetization suite that serves as an intelligent hub for modern businesses to monetize and orchestrate the complete quote-to-cash and revenue recognition process. Our solutions enable companies across multiple industries and geographies to launch, manage and scale a subscription business, automating the quote-to-cash and revenue recognition process, including quoting, billing, collections and revenue recognition, and improving the subscriber experience. With Zuora’s solutions, businesses can change pricing and packaging for products and services to grow and scale, efficiently comply with revenue recognition standards, analyze customer data to optimize their recurring revenue, including subscription and consumption-based models, and build meaningful relationships with their subscribers. Many of today’s enterprise software systems manage their quote-to-cash and revenue recognition process using software built for one-time transactions. These systems were not designed for the dynamic, ongoing nature of subscription, usage, or consumption-based pricing models, and can be extremely difficult to configure. In traditional product-based businesses, quote-to-cash and revenue recognition was a linear process – a customer orders a product, is billed for that product, payment is collected, and the revenue is recognized. These legacy product-based systems were not specifically designed to handle the complexities of managing ongoing customer relationships and recurring revenue models commonly found in subscription businesses, including billing proration, revenue recognition and reporting, and calculating the lifetime value of the customer. Using legacy or homegrown software to build a subscription business often results in inefficient processes with prolonged and complex manual downstream work, hard-coded customizations, and a proliferation of stock-keeping units (SKUs). However, enterprise business models are inherently dynamic, with multiple interactions, flexible pricing, global complexities, and continuously-evolving relationships and events. The capabilities to launch, price, and bill for products, facilitate and record cash receipts, process and recognize revenue, and analyze data to drive key decisions are mission critical and particularly complex for companies that operate at a global scale. As a result, as companies launch, grow, and scale their businesses, they often conclude that legacy systems are inadequate. This is where Zuora comes in. Our vision is “The World Subscribed” -- the idea that one day every company will be a part of the Subscription Economy. Our focus has been on providing the technology our customers need to thrive as a customer-centric, recurring revenue businesses. Our solutions include Zuora Platform, Zuora Billing, Zuora Revenue, Zuora Payments, Zephr, and other software products that support and expand upon these core offerings. Our software helps companies analyze data – including information such as which customers are delivering the most recurring revenue, or which segments are showing the highest churn, thus enabling customers to make informed decisions for their recurring revenue business and quickly implement changes such as launching new services, updating pricing (consumption, time, or outcome based), delivering new offerings, or making other changes to their customers’ experience. We also have a large ecosystem of global partners that can assist our customers with additional strategies and services throughout the monetization journey. Companies in a variety of industries - technology, manufacturing, media and entertainment, telecommunications, and many others - are using our solutions to monetize, scale and adapt to a world that is increasingly choosing ongoing digital services. 25 Fiscal Third Quarter Financial Performance Summary and Business Highlights: Our financial performance for the three months ended October 31, 2023 compared to the three months ended October 31, 2022 reflects the followin • Subscription revenue was $98.0 million, an increase of $11.5 million, or 13%; and total revenue was $109.8 million, an increase of $8.8 million, or 9%. On a constant currency basis, subscription revenue increased 14%; and total revenue increased 9%. • Gross profit was $74.8 million, or 68% of total of revenue, compared to $60.8 million, or 60% of total revenue. • Loss from operations was $8.8 million, or 8% of total revenue, compared to a loss of $33.9 million, or 34% of total revenue, an improvement in operating margin of 26 percentage points year-over-year. • We closed seven deals in the quarter ended October 31, 2023 with ACV equal to or greater than $500,000, two of which had ACV greater than $1.0 million. Key Operational and Financial Metrics We monitor the following key operational and financial metrics to evaluate our business, measure our performance, identify trends affecting our business, formulate business plans and make strategic decisio October 31, 2023 2022 Customers with ACV equal to or greater than $250,000 453 420 Dollar-based retention rate 108 % 109 % Annual recurring revenue growth 13 % 19 % Customers with Annual Contract Value Equal to or Greater than $250,000 We believe our ability to enter into larger contracts is indicative of broader adoption of our solutions by larger organizations. It also reflects our ability to expand our revenue footprint within our current customer base. We define ACV as the subscription revenue we would expect to recognize from that customer over the next twelve months, assuming no increases or reductions in their subscriptions. We define the number of customers at the end of any particular period as the number of parties or organizations that have entered into a distinct subscription contract with us and for which the term has not ended. Each party with whom we have entered into a distinct subscription contract is considered a unique customer, and in some cases, there may be more than one customer within a single organization. We had 453 customers with ACV equal to or greater than $250,000 as of October 31, 2023. We expect this metric to continue to increase over the remainder of the fiscal year. Dollar-Based Retention Rate We believe our dollar-based retention rate is a key measure of our ability to retain and expand revenue from our customer base over time. We calculate our dollar-based retention rate as of a period end by starting with the sum of the ACV from all customers as of twelve months prior to such period end, or prior period ACV. We then calculate the sum of the ACV from these same customers as of the current period end, or current period ACV. The current period ACV includes any upsells and also reflects contraction or attrition over the trailing twelve months, but excludes revenue from new customers added in the current period. We then divide the current period ACV by the prior period ACV to arrive at our dollar-based retention rate. Our dollar-based retention rate was 108% as of October 31, 2023. While the dollar-based retention rate can fluctuate in any particular quarter, we expect it to remain relatively consistent for the remainder of the fiscal year. Annual Recurring Revenue ARR represents the annualized recurring value at the time of initial booking or contract modification for all active subscription contracts at the end of a reporting period. ARR excludes the value of non-recurring revenue such 26 as professional services revenue as well as contracts with new customers with a term of less than one year. ARR should be viewed independently of revenue and deferred revenue, and is not intended to be a substitute for, or combined with, any of these items. Our ARR was $396.0 million as of October 31, 2023, compared to $350.7 million as of October 31, 2022, representing an increase of 13% year-over-year. We expect our ARR year-over-year growth rate to decrease slightly for the remainder of the fiscal year. Components of Our Results of Operations Revenue Subscription revenue. Subscription revenue consists of fees for access to, and use of, our products, as well as customer support and recurring services. We generate subscription fees pursuant to non-cancelable subscription agreements with terms that typically range from one to three years. Subscription revenue is primarily based on fees to access our services platform over the subscription term. We typically invoice customers in advance in either annual or quarterly installments. Customers can also elect to purchase additional volume blocks or products during the term of the contract. We typically recognize subscription revenue ratably over the term of the subscription period, beginning on the date that access to our platform is provisioned, which is generally on or about the date the subscription agreement is signed. Professional services revenue. Professional services revenue typically consists of fees for implementation services in connection with helping our customers deploy, configure, and optimize the use of our solutions. These services include systems integration, data migration, and process enhancement. Professional services projects generally take three to twelve months to complete. Once the contract is signed, we generally invoice for professional services on a time and materials basis, although we occasionally engage in fixed-price service engagements and invoice for those based upon agreed milestone payments. We recognize revenue as professional services are performed for time and materials engagements and on a proportional performance method when the professional services are performed under fixed fee engagements. While we will continue to utilize our own expert services team, we expect to continue to leverage our strategic partners for professional services implementations, and as a result we expect our professional services revenue to remain consistent or decrease over time as a percentage of total revenue. Deferred Revenue Deferred revenue consists of customer billings in advance of revenue being recognized from our subscription and support services and professional services arrangements. We primarily invoice our customers for subscription services arrangements annually, quarterly, or semi-annually in advance. Amounts anticipated to be recognized within one year of the balance sheet date are recorded as deferred revenue, current portion, and the remaining portion is recorded as deferred revenue, net of current portion in our unaudited condensed consolidated balance sheets. Overhead Allocation and Employee Compensation Costs We allocate shared costs, such as facilities costs (including rent, utilities, and depreciation on capital expenditures related to facilities shared by multiple departments), information technology costs, and certain administrative personnel costs to all departments based on headcount and location. As such, allocated shared costs are reflected in each cost of revenue and operating expenses category. Employee compensation costs consist of salaries, bonuses, commissions, benefits, and stock-based compensation. Cost of Revenue, Gross Profit and Gross Margin Cost of subscription revenue. Cost of subscription revenue consists primarily of costs related to hosting our platform and providing customer support. These costs include third-party hosting fees, employee compensation costs associated with maintaining our cloud-based infrastructure, amortization expenses associated with capitalized internal-use software and purchased technology, allocated overhead, software and maintenance costs, and outside services associated with the delivery of our subscription services. We intend to continue to invest in our platform infrastructure, including third-party hosting capacity, and support organizations. However, the level and timing of such investment in these areas could fluctuate and affect our cost of subscription revenue in the future. 27 Cost of professional services revenue. Cost of professional services revenue consists primarily of costs related to the deployment of our solutions. These costs include employee compensation costs for our professional services team, allocated overhead, travel costs, and costs of outside services associated with supplementing our internal staff. We believe that investment in our systems integrator partner network will lead to total margin improvement, however costs may fluctuate in the near term as we shift deployments to our partner network. Gross profit and gross margin. Our gross profit and gross margin may fluctuate from period to period as our revenue fluctuates, and as a result of the timing and amount of our investments to expand hosting capacity, including through third-party cloud providers, amortization expenses associated with our capitalized internal-use software and purchased technology, and our continued efforts to build our cloud infrastructure, support, and professional services teams. Operating Expenses Research and development. Research and development expense consists primarily of employee compensation costs, allocated overhead, and travel costs. We capitalize research and development costs associated with the development of internal-use software and we generally amortize these costs over a period of three years into the cost of subscription revenue. All other research and development costs are expensed as incurred. We believe that continued investment in our platform is important for our growth, and as such, we expect our research and development expense to remain relatively consistent or decrease as a percentage of total revenue for the remainder of the current fiscal year. Sales and marketing. Sales and marketing expense consists primarily of employee compensation costs, including the amortization of deferred commissions related to our sales personnel, allocated overhead, costs of general marketing and promotional activities, and travel costs. Commission costs that are incremental to obtaining a contract are amortized in sales and marketing expense over the period of benefit, which is expected to be five years. While we expect to continue to make investments as we expand our customer acquisition and retention efforts, we expect our sales and marketing expense to remain relatively consistent or decrease as a percentage of total revenue for the remainder of the current fiscal year. General and administrative. General and administrative expense consists primarily of employee compensation costs, allocated overhead, and travel costs for finance, accounting, legal, human resources, and recruiting personnel. In addition, general and administrative expense includes non-personnel costs, such as accounting fees, legal fees, charitable contributions, asset impairments, and all other supporting corporate expenses not allocated to other departments. We expect to incur ongoing costs as a result of operating as a public company, including costs related to compliance and reporting obligations of public companies, and continued investment to support our growing operations. As a result, we expect our general and administrative expense to remain relatively consistent as a percentage of total revenue for the remainder of the current fiscal year. Other income and expenses Other income and expenses primarily consists of fair value adjustments related to the debt conversion and warrant liabilities; amortization of discount and debt issuance costs and contractual interest on our convertible senior notes; interest income from our cash and cash equivalents and short-term investments; and foreign exchange fluctuations. Income Tax Provision Income tax provision consists primarily of income taxes related to foreign and state jurisdictions in which we conduct business. We maintain a full valuation allowance on our federal and state deferred tax assets as we have concluded that it is more likely than not that the deferred assets will not be utilized. 28 Results of Operations The following tables set forth our unaudited condensed consolidated results of operations for the periods presented in dollars and as a percentage of our total revenue (in thousands): Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Reve Subscription $ 98,048 $ 86,567 $ 283,232 $ 248,878 Professional services 11,801 14,505 37,760 44,168 Total revenue 109,849 101,072 320,992 293,046 Cost of reve Subscription 20,378 21,727 62,304 60,024 Professional services 14,650 18,553 47,851 55,140 Total cost of revenue 35,028 40,280 110,155 115,164 Gross profit 74,821 60,792 210,837 177,882 Operating expens Research and development 27,504 28,413 79,428 77,639 Sales and marketing 40,245 46,973 124,488 132,576 General and administrative 15,893 19,327 54,160 55,433 Total operating expenses 83,642 94,713 258,076 265,648 Loss from operations (8,821) (33,921) (47,239) (87,766) Change in fair value of debt conversion and warrant liabilities 6,997 452 2,241 9,348 Interest expense (5,610) (4,444) (14,604) (10,647) Interest and other income (expense), net 2,272 1,187 13,639 98 Loss before income taxes (5,162) (36,726) (45,963) (88,967) Income tax provision 340 308 1,396 1,145 Net loss $ (5,502) $ (37,034) $ (47,359) $ (90,112) 29 Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Reve Subscription 89 % 86 % 88 % 85 % Professional services 11 14 12 15 Total revenue 100 100 100 100 Cost of reve Subscription 19 21 19 20 Professional services 13 18 15 19 Total cost of revenue 32 40 34 39 Gross profit 68 60 66 61 Operating expens Research and development 25 28 25 26 Sales and marketing 37 46 39 45 General and administrative 14 19 17 19 Total operating expenses 76 94 80 91 Loss from operations (8) (34) (15) (30) Change in fair value of debt conversion and warrant liabilities 6 — 1 3 Interest expense (5) (4) (5) (4) Interest and other income (expense), net 2 1 4 — Loss before income taxes (5) (36) (14) (30) Income tax provision — — — — Net loss (5) % (37) % (15) % (31) % Note: Percentages in the table above may not sum due to rounding. Non-GAAP Financial Measures To supplement our unaudited condensed consolidated financial statements presented in accordance with U.S. GAAP, we monitor and consider non-GAAP financial measures includin non-GAAP cost of subscription revenue, non-GAAP subscription gross margin, non-GAAP cost of professional services revenue, non-GAAP professional services gross margin, non-GAAP gross profit, non-GAAP gross margin, non-GAAP income from operations, non-GAAP operating margin, non-GAAP net income (loss), non-GAAP net income (loss) per share, basic and diluted, adjusted free cash flow, and subscription revenue and total revenue that exclude the impact of foreign currency exchange rate fluctuations (constant currency basis). We use non-GAAP financial measures in conjunction with GAAP measures as part of our overall assessment of our performance, including the preparation of our annual operating budget and quarterly forecasts, to evaluate the effectiveness of our business strategies and to communicate with our Board of Directors concerning our financial performance. We believe these non-GAAP measures provide investors consistency and comparability with our past financial performance and facilitate period-to-period comparisons of our operating results. We also believe these non-GAAP measures are useful in evaluating our operating performance compared to that of other companies in our industry, as they generally eliminate the effects of certain items that may vary for different companies for reasons unrelated to overall operating performance. Investors are cautioned that there are material limitations associated with the use of non-GAAP financial measures as an analytical tool. The non-GAAP financial measures we use may be different from non-GAAP financial measures used by other companies, limiting their usefulness for comparison purposes. We compensate for these limitations by providing specific information regarding the GAAP items excluded from our non-GAAP financial measures. The presentation of these non-GAAP financial measures is not intended to be considered in isolation or as a substitute for, or superior to, financial information prepared and presented in accordance with GAAP. Reconciliations of our non-GAAP financial measures to the nearest respective GAAP measures are provided below. 30 We exclude the following items from one or more of our non-GAAP financial measu • Stock-based compensation expense . We exclude stock-based compensation expense, which is a non-cash expense, because we believe that excluding this item provides meaningful supplemental information regarding operational performance. In particular, stock-based compensation expense is not comparable across companies given it is calculated using a variety of valuation methodologies and subjective assumptions. • Amortization of acquired intangible assets . We exclude amortization of acquired intangible assets, which is a non-cash expense, because we do not believe it has a direct correlation to the operation of our business. • Charitable contributions . We exclude expenses associated with charitable donations of our common stock. We believe that excluding these non-cash expenses allows investors to make more meaningful comparisons between our operating results and those of other companies. • Shareholder litigation. We exclude non-recurring charges and benefits, net of insurance recoveries, including litigation expenses and settlements, related to shareholder litigation matters that are outside of the ordinary course of our business. We believe these charges and benefits do not have a direct correlation to the operations of our business and may vary in size depending on the timing and results of such litigation and related settlements. • Asset impairment . We exclude non-cash charges for impairment of assets, including impairments related to internal-use software and office leases. Impairment charges can vary significantly in terms of amount and timing and we do not consider these charges indicative of our current or past operating performance. Moreover, we believe that excluding the effects of these charges allows investors to make more meaningful comparisons between our operating results and those of other companies. • Change in fair value of debt conversion and warrant liabilities. We exclude fair value adjustments related to the debt conversion and warrant liabilities, which are non-cash gains or losses, as they can fluctuate significantly with changes in our stock price and market volatility, and do not reflect the underlying cash flows or operational results of the business. • Acquisition-related transactions . We exclude acquisition-related transactions (including integration-related charges) that are not related to our ongoing operations, including expenses we incurred and gains or losses recognized on contingent consideration related to our acquisition of Zephr. We do not consider these transactions reflective of our core business or ongoing operating performance. • Workforce reduction . We exclude charges related to the workforce reduction plan we approved in November 2022, including severance, health care and related expenses. We believe these charges are not indicative of our continuing operations. 31 The following tables provide a reconciliation of our GAAP to non-GAAP measures (in thousands, except percentages and per share data): Subscription Gross Margin Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Reconciliation of cost of subscription reve GAAP cost of subscription revenue $ 20,378 $ 21,727 $ 62,304 $ 60,024 L Stock-based compensation (2,350) (2,437) (6,889) (6,517) Amortization of acquired intangibles (607) (586) (2,083) (1,512) Asset impairment (439) — (439) — Workforce reduction — (147) (38) (147) Non-GAAP cost of subscription revenue $ 16,982 $ 18,557 $ 52,855 $ 51,848 GAAP subscription gross margin 79 % 75 % 78 % 76 % Non-GAAP subscription gross margin 83 % 79 % 81 % 79 % Professional Services Gross Margin Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Reconciliation of cost of professional services reve GAAP cost of professional services revenue $ 14,650 $ 18,553 $ 47,851 $ 55,140 L Stock-based compensation (2,747) (3,479) (8,997) (10,186) Workforce reduction — (399) (46) (399) Non-GAAP cost of professional services revenue $ 11,903 $ 14,675 $ 38,808 $ 44,555 GAAP professional services gross margin (24) % (28) % (27) % (25) % Non-GAAP professional services gross margin (1) % (1) % (3) % (1) % Total Gross Margin Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Reconciliation of gross prof GAAP gross profit $ 74,821 $ 60,792 $ 210,837 $ 177,882 A Stock-based compensation 5,097 5,916 15,886 16,703 Amortization of acquired intangibles 607 586 2,083 1,512 Asset impairment 439 — 439 — Workforce reduction — 546 84 546 Non-GAAP gross profit $ 80,964 $ 67,840 $ 229,329 $ 196,643 GAAP gross margin 68 % 60 % 66 % 61 % Non-GAAP gross margin 74 % 67 % 71 % 67 % 32 Operating (Loss) Income and Operating Margin Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Reconciliation of (loss) income from operatio GAAP loss from operations $ (8,821) $ (33,921) $ (47,239) $ (87,766) A Stock-based compensation 26,101 29,007 77,973 80,045 Amortization of acquired intangibles 607 586 2,083 1,512 Asset impairment 1,592 — 1,592 — Charitable contribution — — — 1,000 Shareholder litigation (3,508) 16 (3,265) 246 Acquisition-related transactions 19 1,268 211 1,612 Workforce reduction — 3,660 265 3,660 Non-GAAP income from operations $ 15,990 $ 616 $ 31,620 $ 309 GAAP operating margin (8) % (34) % (15) % (30) % Non-GAAP operating margin 15 % 1 % 10 % — % Net (Loss) Income and Net (Loss) Income Per Share Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Reconciliation of net (loss) income: GAAP net loss $ (5,502) $ (37,034) $ (47,359) $ (90,112) A Stock-based compensation 26,101 29,007 77,973 80,045 Amortization of acquired intangibles 607 586 2,083 1,512 Asset impairment 1,592 — 1,592 — Charitable contribution — — — 1,000 Shareholder litigation (3,508) 16 (3,265) 246 Change in fair value of debt conversion and warrant liabilities (6,997) (452) (2,241) (9,348) Acquisition-related transactions 19 1,268 211 1,612 Workforce reduction — 3,660 265 3,660 Non-GAAP net income (loss) $ 12,312 $ (2,949) $ 29,259 $ (11,385) GAAP net loss per share, basic and diluted 1 $ (0.04) $ (0.28) $ (0.34) $ (0.69) Non-GAAP net income (loss) per share, basic and diluted 1 $ 0.09 $ (0.02) $ 0.21 $ (0.09) _________________________________ (1) For the three months ended October 31, 2023 and 2022, GAAP and Non-GAAP net (loss) income per share are calculated based upon 141.5 million and 132.6 million basic and diluted weighted-average shares of common stock, respectively. For the nine months ended October 31, 2023 and 2022, GAAP and Non-GAAP net (loss) income per share are calculated based upon 138.8 million and 130.5 million basic and diluted weighted-average shares of common stock, respectively. 33 Adjusted Free Cash Flow Adjusted free cash flow is a non-GAAP measure that excludes acquisition-related costs (including integration-related charges) and expenses related to non-ordinary course litigation (including settlement charges) from GAAP operating cash flows, and includes capital expenditures. We include the impact of net purchases of property and equipment in our adjusted free cash flow calculation because we consider these capital expenditures to be a necessary component of our ongoing operations. We consider adjusted free cash flow to be a liquidity measure that provides useful information to management and investors about the amount of cash generated by our business, excluding such expenditures that are not related to our ongoing operations, but it is not intended to represent the residual cash flow available for discretionary expenditures. Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 2023 2022 Net cash used in operating activities (GAAP) $ (55,657) $ (4,861) $ (35,676) $ (2,679) A Shareholder litigation 71,377 54 72,130 237 Acquisition-related costs 28 — 135 — L Purchases of property and equipment (3,075) (2,387) (6,913) (8,471) Adjusted free cash flow (non-GAAP) $ 12,673 $ (7,194) $ 29,676 $ (10,913) Net cash provided by (used in) investing activities (GAAP) $ 2,005 $ (19,416) $ 97,026 $ (165,922) Net cash provided by financing activities (GAAP) $ 145,899 $ 575 $ 151,626 $ 239,003 Constant Currency Revenue We provide subscription revenue and total revenue, including year-over-year growth rates, adjusted to remove the impact of foreign currency rate fluctuations, which we refer to as constant currency. We believe providing revenue on a constant currency basis helps our investors to better understand our underlying performance. We calculate constant currency in a given period by applying the average currency exchange rates in the comparable period of the prior year to the local currency revenue in the current period. Three Months Ended October 31, Nine Months Ended October 31, 2023 2022 % Change 2023 2022 % Change (dollars in thousands) (dollars in thousands) Subscription revenue (GAAP) $ 98,048 $ 86,567 13 % $ 283,232 $ 248,878 14 % Effects of foreign currency rate fluctuations 821 5,594 Subscription revenue on a constant currency basis (Non-GAAP) $ 98,869 14 % $ 288,826 16 % Total revenue (GAAP) $ 109,849 $ 101,072 9 % $ 320,992 $ 293,046 10 % Effects of foreign currency rate fluctuations 711 5,592 Total revenue on a constant currency basis (Non-GAAP) $ 110,560 9 % $ 326,584 11 % 34 Comparison of the Three Months Ended October 31, 2023 and 2022 Revenue Three Months Ended October 31, 2023 2022 $ Change % Change (dollars in thousands) Reve Subscription $ 98,048 $ 86,567 $ 11,481 13 % Professional services 11,801 14,505 (2,704) (19) % Total revenue $ 109,849 $ 101,072 $ 8,777 9 % Percentage of reve Subscription 89 % 86 % Professional services 11 14 Total revenue 100 % 100 % Subscription revenue increased by $11.5 million, or 13%, for the three months ended October 31, 2023 compared to the three months ended October 31, 2022. The increase was driven by growth in our customer base, with new customers contributing approximately $3.4 million of the increase in subscription revenue, and increased transaction volume and sales of additional products to our existing customers contributing the remainder. We calculate subscription revenue from new customers during the quarter by adding the revenue recognized from new customers acquired in the 12 months prior to the reporting date. Professional services revenue decreased by $2.7 million, or 19%, for the three months ended October 31, 2023 as we continue to leverage our system integration partners for implementation of our solutions and due to the overall linearity and timing of projects. On a constant currency basis, subscription revenue was $98.9 million and increased 14%, and total revenue was $110.6 million and increased 9%, for the three months ended October 31, 2023 compared to the three months ended October 31, 2022. Cost of Revenue and Gross Margin Three Months Ended October 31, 2023 2022 $ Change % Change (dollars in thousands) Cost of reve Subscription $ 20,378 $ 21,727 $ (1,349) (6) % Professional services 14,650 18,553 (3,903) (21) % Total cost of revenue $ 35,028 $ 40,280 $ (5,252) (13) % Gross margin: Subscription 79 % 75 % Professional services (24) (28) Total gross margin 68 % 60 % Cost of subscription revenue decreased by $1.3 million, or 6%, for the three months ended October 31, 2023 compared to the three months ended October 31, 2022. The decrease in cost of subscription revenue was primarily due to a $1.0 million one-time vendor credit and a decrease of $0.5 million in allocated overhead. Cost of professional services revenue decreased by $3.9 million, or 21%, for the three months ended October 31, 2023 compared to the three months ended October 31, 2022. The decrease in cost of professional services revenue was primarily due to decreases of $3.0 million in employee compensation costs, $0.6 million in outside professional services costs, and $0.4 million in allocated overhead. 35 Our gross margin for subscription services increased to 79% for the three months ended October 31, 2023 compared to 75% for the three months ended October 31, 2022, primarily due to increased subscription revenue, optimization of our cloud hosting, and a one-time vendor credit. Our gross margin for professional services increased to (24)% for the three months ended October 31, 2023 compared to (28)% for the three months ended October 31, 2022, primarily due to decreased employee compensation costs. Operating Expenses Research and Development Three Months Ended October 31, 2023 2022 $ Change % Change (dollars in thousands) Research and development $ 27,504 $ 28,413 $ (909) (3) % Percentage of total revenue 25 % 28 % Research and development expense decreased by $0.9 million, or 3%, for the three months ended October 31, 2023 compared to the three months ended October 31, 2022, primarily due to a decrease of $1.8 million in outside professional services costs and $0.8 million higher capitalization of internal-use software costs, offset by a $1.2 million impairment of certain capitalized software and an increase of $0.6 million in employee compensation costs driven by increased headcount. Research and development expense decreased to 25% of total revenue for the three months ended October 31, 2023 from 28% for the three months ended October 31, 2022 primarily due to subscription revenue growth. Sales and Marketing Three Months Ended October 31, 2023 2022 $ Change % Change (dollars in thousands) Sales and marketing $ 40,245 $ 46,973 $ (6,728) (14) % Percentage of total revenue 37 % 46 % Sales and marketing expense decreased by $6.7 million, or 14%, for the three months ended October 31, 2023 compared to the three months ended October 31, 2022, primarily due to a decrease of $7.0 million in employee compensation costs driven by decreased headcount and stock-based compensation expense. Sales and marketing expense decreased to 37% of total revenue during the three months ended October 31, 2023 from 46% during the three months ended October 31, 2022, as a result of both subscription revenue growth and decreased employee related compensation costs. 36 General and Administrative Three Months Ended October 31, 2023 2022 $ Change % Change (dollars in thousands) General and administrative $ 15,893 $ 19,327 $ (3,434) (18) % Percentage of total revenue 14 % 19 % General and administrative expense decreased by $3.4 million, or 18%, for the three months ended October 31, 2023 compared to the three months ended October 31, 2022, primarily due to a $3.5 million decrease in securities litigation costs and a $2.8 million decrease in outside professional services costs, offset by a gain of $1.8 million related to the change in contingent consideration fair value associated with the Zephr acquisition in the three months ended October 31, 2022, and an increase of $0.5 million in allocated overhead. General and administrative expense decreased to 14% of total revenue during the three months ended October 31, 2023 from 19% of total revenue during the three months ended October 31, 2022, primarily due to subscription revenue growth. Other income and expenses Three Months Ended October 31, 2023 2022 $ Change % Change (dollars in thousands) Change in fair value of debt conversion and warrant liabilities $ 6,997 $ 452 $ 6,545 1448 % Interest expense $ (5,610) $ (4,444) $ (1,166) 26 % Interest and other income (expense), net $ 2,272 $ 1,187 $ 1,085 91 % During the three months ended October 31, 2023 we recognized a $7.0 million gain on revaluation of the debt conversion and warrant liabilities, compared to a $0.5 million gain on revaluation of the warrant liability in the three months ended October 31, 2022. Interest expense on our debt increased $1.2 million as a result of the issuance of additional debt under the 2029 Notes. Interest and other income (expense), net increased $1.1 million primarily due to increased interest income from higher interest rates on our investments and cash equivalents, partially offset by losses resulting from the revaluation of cash, accounts receivable, and accounts payable recorded in a foreign currency. Income Tax Provision Three Months Ended October 31, 2023 2022 $ Change % Change (dollars in thousands) Income tax provision $ 340 $ 308 $ 32 10 % We are subject to federal and state income taxes in the United States and taxes in foreign jurisdictions. For the three months ended October 31, 2023 and 2022, we recorded a tax provision of $0.3 million on a loss before income taxes of $5.2 million and $36.7 million, respectively. The effective tax rate for the three months ended October 31, 2023 and 2022 was (6.6)% and (0.8)%, respectively. The change in the effective tax rate was due primarily to an increase in foreign tax expense. The effective tax rate differs from the statutory rate primarily as a result of providing no benefit on pretax losses incurred in the United States. For the three months ended October 31, 2023 and 2022, we maintained a full valuation allowance on our U.S. federal and state net deferred tax assets as it was more likely than not that those deferred tax assets will not be realized. 37 Comparison of the Nine Months Ended October 31, 2023 and 2022 Revenue Nine Months Ended October 31, 2023 2022 $ Change % Change (dollars in thousands) Reve Subscription $ 283,232 $ 248,878 $ 34,354 14 % Professional services 37,760 44,168 (6,408) (15) % Total revenue $ 320,992 $ 293,046 $ 27,946 10 % Percentage of reve Subscription 88 % 85 % Professional services 12 15 Total revenue 100 % 100 % Subscription revenue increased by $34.4 million, or 14%, for the nine months ended October 31, 2023 compared to the nine months ended October 31, 2022. The increase was driven by growth in our customer base, with new customers contributing approximately $10.3 million of the increase in subscription revenue for the nine months ended October 31, 2023 compared to the nine months ended October 31, 2022 , and increased transaction volume and sales of additional products to our existing customers contributing the remainder. We calculate subscription revenue from new customers on a year-to-date basis by adding the revenue recognized from new customers acquired in the 12 months prior to each discrete quarter within the year-to-date period. Professional services revenue decreased by $6.4 million, or 15%, for the nine months ended October 31, 2023 compared to the nine months ended October 31, 2022, as we continue to leverage our system integration partners for implementation of our solutions and due to the overall linearity and timing of projects. On a constant currency basis, subscription revenue was $288.8 million and increased 16%, and total revenue was $326.6 million and increased 11%, for the nine months ended October 31, 2023 compared to the nine months ended October 31, 2022 . Cost of Revenue and Gross Margin Nine Months Ended October 31, 2023 2022 $ Change % Change (dollars in thousands) Cost of reve Subscription $ 62,304 $ 60,024 $ 2,280 4 % Professional services 47,851 55,140 (7,289) (13) % Total cost of revenue $ 110,155 $ 115,164 $ (5,009) (4) % Gross margin: Subscription 78 % 76 % Professional services (27) (25) Total gross margin 66 % 61 % Cost of subscription revenue increased by $2.3 million, or 4%, for the nine months ended October 31, 2023 compared to the nine months ended October 31, 2022. The increase in cost of subscription revenue was primarily driven by increases of $1.5 million in employee compensation costs, $1.4 million in cloud hosting costs, $1.3 million related to amortization of capitalized internal-use software costs and purchased technology, $0.6 million in third-party software costs, and a $0.4 million impairment charge, partially offset by a decrease of $2.3 million in outside professional services costs and a $1.0 million one-time vendor credit. 38 Cost of professional services revenue decreased by $7.3 million, or 13%, for the nine months ended October 31, 2023 compared to the nine months ended October 31, 2022. The decrease in cost of professional services revenue was primarily driven by decreases of $3.7 million in employee compensation costs, $3.2 million in outside professional services costs, and $0.6 million in allocated overhead. Our gross margin for subscription services increased to 78% for the nine months ended October 31, 2023, compared to 76% for the nine months ended October 31, 2022. Our gross margin for professional services decreased to (27)% for the nine months ended October 31, 2023 compared to (25)% for the nine months ended October 31, 2022, primarily due to decreased professional services revenue. Operating Expenses Research and Development Nine Months Ended October 31, 2023 2022 $ Change % Change (dollars in thousands) Research and development $ 79,428 $ 77,639 $ 1,789 2 % Percentage of total revenue 25 % 26 % Research and development expense increased by $1.8 million, or 2%, for the nine months ended October 31, 2023 compared to the nine months ended October 31, 2022. The increase in research and development expense was primarily driven by an increase of $4.4 million in employee compensation costs driven by increased headcount, a $1.2 million impairment of certain capitalized software, and increases of $0.6 million in allocated overhead, $0.5 million in travel costs, and $0.5 million related to data center costs and decreased capitalization of internal-use software, offset by decreases of $4.8 million in outside professional services costs and $0.9 million in third-party software costs. Research and development expense decreased to 25% from 26% of total revenue during the nine months ended October 31, 2023 compared to nine months ended October 31, 2022 primarily due to subscription revenue growth. Sales and Marketing Nine Months Ended October 31, 2023 2022 $ Change % Change (dollars in thousands) Sales and marketing $ 124,488 $ 132,576 $ (8,088) (6) % Percentage of total revenue 39 % 45 % Sales and marketing expense decreased by $8.1 million, or 6%, for the nine months ended October 31, 2023 compared to the nine months ended October 31, 2022, primarily due to decreases of $9.1 million in employee compensation costs driven by decreased headcount and stock-based compensation expense and $1.4 million in allocated overhead, partially offset by increases of $1.6 million in event costs and $0.6 million in travel costs. Sales and marketing expense decreased to 39% of total revenue during the nine months ended October 31, 2023 from 45% during the nine months ended October 31, 2022, due to subscription revenue growth and lower costs. 39 General and Administrative Nine Months Ended October 31, 2023 2022 $ Change % Change (dollars in thousands) General and administrative $ 54,160 $ 55,433 $ (1,273) (2) % Percentage of total revenue 17 % 19 % General and administrative expense decreased by $1.3 million, or 2%, for the nine months ended October 31, 2023 compared to the nine months ended October 31, 2022, primarily due to decreases of $3.9 million in outside professional services costs, $3.5 million in securities litigation related expenses, and $0.5 million in charitable donations, partially offset by an increase of $2.6 million in employee compensation costs driven by increased stock-based compensation expense, a $1.8 million gain related to the change in contingent consideration fair value associated with the Zephr acquisition, and increases of $1.0 million in allocated overhead and $0.6 million in other tax related costs. General and administrative expense decreased to 17% of total revenue during the nine months ended October 31, 2023 compared to 19% during the nine months ended October 31, 2022, primarily due to subscription revenue growth. Other income and expenses Nine Months Ended October 31, 2023 2022 $ Change % Change (dollars in thousands) Change in fair value of debt conversion and warrant liabilities $ 2,241 $ 9,348 $ (7,107) (76) % Interest expense $ (14,604) $ (10,647) $ (3,957) 37 % Interest and other income (expense), net $ 13,639 $ 98 $ 13,541 13817 % During the nine months ended October 31, 2023, we recognized a $2.2 million gain on revaluation of the debt conversion and warrant liabilities, compared to a $9.3 million gain recognized on revaluation of the warrant liability during the nine months ended October 31, 2022. Interest expense increased $4.0 million as a result of the issuance of additional debt under the 2029 Notes. Interest and other income (expense), net increased $13.5 million primarily due to increased interest income from higher interest rates on our investments and cash equivalents, and gains resulting from the revaluation of cash, accounts receivable, and payables recorded in a foreign currency. Income Tax Provision Nine Months Ended October 31, 2023 2022 $ Change % Change (dollars in thousands) Income tax provision $ 1,396 $ 1,145 $ 251 22 % We are subject to federal and state income taxes in the United States and taxes in foreign jurisdictions. For the nine months ended October 31, 2023 and 2022, we recorded a tax provision of $1.4 million and $1.1 million, respectively, on losses before income taxes of $46.0 million and $89.0 million, respectively. The effective tax rates for the nine months ended October 31, 2023 and 2022 were (3.0)% and (1.3)%, respectively. The change was due primarily to an increase in foreign tax expenses. The effective tax rate differs from the statutory rate primarily as a result of no benefit on pretax losses incurred in the United States. For the nine months ended October 31, 2023 and 2022, we maintained a full valuation allowance on our U.S. federal and state net deferred tax assets as it was more likely than not that those deferred tax assets will not be realized. 40 Liquidity and Capital Resources Liquidity is a measure of our ability to access sufficient cash flows to meet the short-term and long-term cash requirements of our business operations. As of October 31, 2023, we had cash and cash equivalents and short-term investments of $493.7 million that were primarily invested in deposit accounts, money market funds, corporate debt securities, commercial paper, and U.S. government securities. Our investments are highly rated and currently mature in one year or less. In addition to cash and investments, we finance our operations through cash flows generated from sales to our customers, which are generally billed in advance on an annual, quarterly, or semi-annual basis. In the short-term, we have our cash and investments, cash generated from our business, and our $30.0 million credit line available to fund our ongoing business operations as well as to finance any future acquisitions. In the long-term, we expect cash generated from our operations to increase, improving our ability to fund our operations and repay our debt obligations. The 2029 Notes issued to Silver Lake includes a conversion feature that, if triggered, will convert the notes to shares of our Class A common stock, after which we would no longer be required to repay the debt balance. The 2029 Notes are scheduled to mature in March 2029, but may be called by the noteholder as early as March 2027. If the 2029 Notes have not been converted by the maturity date or if they are otherwise called by the noteholder prior to maturity, we would be required to repay the debt balance in cash. Additionally, in connection with the 2029 Notes, we issued Warrants for 7.5 million shares of our Class A common stock that are exercisable between $20.00 - $24.00 per share which, if exercised, would contribute additional liquidity to our business. Refer to Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock . We believe our existing cash and cash equivalents, marketable securities, and cash flow from operations will be sufficient for at least the next 12 months to meet our requirements and plans for cash, including meeting our working capital requirements and capital expenditure requirements, servicing our debt and funding future acquisitions. In addition, we expect to have access to sufficient capital to repay the 2029 Notes if they are required to be settled in cash. For additional information about our debt, credit line and warrants see Note 9. Debt, and Note 17. Warrants to Purchase Shares of Common Stock of the Notes to Condensed Consolidated Financial Statements. Our ability to support our requirements and plans for cash, including meeting our working capital and capital expenditure requirements, will depend on many factors, including our revenue growth rate, the timing and the amount of cash received from customers, the expansion of sales and marketing activities, the timing and extent of spending to support research and development efforts, the repayment of the 2029 Notes, the cost to develop and support our offering, the introduction of new products and services, the continuing adoption of our products by customers, any acquisitions or investments that we make in complementary businesses, products, and technologies, and our ability to obtain equity or debt financing. We continually evaluate our capital needs and may decide to raise additional capital to fund the growth of our business for general corporate purposes through public or private equity offerings or through additional debt financing. We also may in the future make investments in or acquire businesses or technologies that could require us to seek additional equity or debt financing. To facilitate acquisitions or investments, we may seek additional equity or debt financing, which may not be available on terms favorable to us or at all. Sales of additional equity could result in dilution to our stockholders. We expect proceeds from the exercise of stock options in future years to be impacted by the increased mix of restricted stock units versus stock options granted to employees and to vary based on our share price. 41 Cash Flows The following table summarizes our cash flows for the periods indicated (in thousands): Nine Months Ended October 31, 2023 2022 Net cash used in operating activities $ (35,676) $ (2,679) Net cash provided by (used in) investing activities 97,026 (165,922) Net cash provided by financing activities 151,626 239,003 Effect of exchange rates on cash and cash equivalents (1,383) (1,648) Net increase in cash and cash equivalents $ 211,593 $ 68,754 Operating Activities Net cash used in operating activities of $35.7 million for the nine months ended October 31, 2023 was comprised primarily of payment to settle the securities class action litigation, customer collections for our subscription and professional services, cash payments for our personnel, sales and marketing efforts, infrastructure related costs, payments to vendors for products and services related to our ongoing business operations, interest income received on our short-term investments and cash equivalents, and interest paid on the Initial Notes. Net cash used in operating activities for the nine months ended October 31, 2023 increased $33.0 million compared to the same period last year, primarily due to $72.1 million paid for the securities class action settlement and related fees. Investing Activities Net cash provided by investing activities for the nine months ended October 31, 2023 was $97.0 million. We used $6.9 million to purchase property and equipment and to develop internal-use software as we continue to invest in and grow our business; had maturities of $108.5 million of short-term investments, net of purchases; and paid $4.5 million of contingent consideration in connection with the acquisition of Zephr. Net cash provided by investing activities for the nine months ended October 31, 2023 increased $262.9 million compared to the nine months ended October 31, 2022, primarily due to $108.5 million net maturities of short-term investments in the nine months ended October 31, 2023, compared to $116.5 million net purchases last year. In the nine months ended October 31, 2023, we paid $4.5 million in contingent consideration in connection with our acquisition of Zephr, compared to $41.0 million cash used to purchase Zephr in the nine months ended October 31, 2022. Payments for property and equipment were $1.6 million lower compared to the same period last year, primarily due to decreased spend on computer equipment in the nine months ended October 31, 2023. Financing Activities Net cash provided by financing activities for the nine months ended October 31, 2023 of $151.6 million was due to $145.9 million in net proceeds from issuance of the Additional Notes, $4.8 million of proceeds from issuance of common stock under the ESPP, and $1.0 million of proceeds from stock option exercises. Net cash provided by financing activities for the nine months ended October 31, 2023 decreased $87.4 million compared to the nine months ended October 31, 2022, primarily due to $145.9 million in net proceeds from issuance of the Additional Notes in the nine months ended October 31, 2023, compared to $233.9 million in net proceeds from issuance of the Initial Notes in the nine months ended October 31, 2022. 42 Obligations and Other Commitments Our material cash requirements from known contractual and other obligations consist of obligations under our operating leases for office space, the 2029 Notes, and a contractual commitment to one of our vendors for cloud computing services. For more information, please refer to Note 12. Leases, Note 9. Debt and Note 13. Commitments and Contingencies, respectively, of the Notes to Condensed Consolidated Financial Statements . As of October 31, 2023, our contractual obligations totaled $515.4 million with $32.1 million committed within the next twelve months. In the ordinary course of business, we enter into agreements of varying scope and terms pursuant to which we agree to indemnify customers, vendors, lessors, business partners, and other parties with respect to certain matters, including, but not limited to, losses arising out of the breach of such agreements, services to be provided by us, or from data breaches or intellectual property infringement claims made by third parties. In addition, we have entered into indemnification agreements with our directors and certain officers and employees that will require us, among other things, to indemnify them against certain liabilities that may arise by reason of their status or service as directors, officers, or employees. As of October 31, 2023, no demands had been made upon us to provide indemnification under such agreements and there were no claims that we are aware of that could have a material effect on our unaudited condensed consolidated balance sheets, unaudited condensed consolidated statements of comprehensive loss, or unaudited condensed consolidated statements of cash flows. Critical Accounting Policies and Estimates Our unaudited condensed consolidated financial statements are prepared in accordance with U.S. GAAP. The preparation of these unaudited condensed consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the applicable periods. We evaluate our estimates and assumptions on an ongoing basis. Our estimates are based on historical experience and various other factors that we believe to be reasonable under the circumstances. Our actual results could differ from these estimates. Refer to Critical Accounting Estimates within Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for further information on critical accounting estimates. Our significant accounting policies are discussed in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements in our Annual Report on Form 10-K. Any significant changes to these policies during the nine months ended October 31, 2023 are described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements to our unaudited condensed consolidated financial statements provided herein. Recent Accounting Pronouncements - Not Yet Adopted In November 2023, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2023-07, Segment Reporting (Topic 280): Improvements to Reportable Segment Disclosures . This ASU is intended to improve reportable segment disclosure requirements, primarily through enhanced disclosures about significant segment expenses. ASU 2023-07 will be effective for us for annual periods beginning with our fiscal year ending January 31, 2025, and interim periods thereafter. Early adoption is permitted. We are currently evaluating the impact of this pronouncement on our condensed consolidated financial statements. Item 3. Quantitative and Qualitative Disclosures About Market Risk We are exposed to certain market risks in the ordinary course of our business. Market risk represents the risk of loss that may impact our financial position due to adverse changes in financial market prices and rates. Our market risk exposure is primarily a result of fluctuations in foreign currency exchange rates and interest rates. 43 Foreign Currency Exchange Risk Our sales contracts are denominated predominantly in U.S. Dollars, Euros, British Pounds (GBP), and Japanese Yen. A portion of our operating expenses are incurred outside the United States and denominated in foreign currencies and are subject to fluctuations due to changes in foreign currency exchange rates, particularly changes in the GBP, Chinese Yuan and Indian Rupee. Additionally, fluctuations in foreign currency exchange rates may cause us to recognize transaction gains and losses in our unaudited condensed consolidated statement of comprehensive loss. The effect of a hypothetical 10% change in foreign currency exchange rates applicable to our business would not have a material impact on our unaudited condensed consolidated financial statements for the nine months ended October 31, 2023 and 2022. Given the impact of foreign currency exchange rates has not been material to our historical operating results, we have not entered into derivative or hedging transactions, but we may do so in the future if our exposure to foreign currency should become more significant. As our international operations grow, we will continue to reassess our approach to manage our risk relating to fluctuations in currency rates. Interest Rate Risk We had cash and cash equivalents and short-term investments of $493.7 million as of October 31, 2023. Our cash and cash equivalents and short-term investments are held for working capital purposes. We do not make investments for trading or speculative purposes. A significant decrease in these market rates may adversely affect our expected operating results. The 2029 Notes have a fixed interest rate and therefore are not impacted by market rates. Our cash equivalents and short-term investments are subject to market risk due to changes in interest rates. Fixed rate securities may have their market value adversely affected due to a rise in interest rates. Due in part to these factors, our future investment income may fall short of our expectations due to changes in interest rates or we may suffer losses in principal if we are forced to sell securities that decline in market value due to changes in interest rates. However, because we classify our short-term investments as “available for sale,” no gains or losses are recognized due to changes in interest rates unless such securities are sold prior to maturity or decreases in fair value are determined to be other-than-temporary. As of October 31, 2023, a hypothetical 10% relative change in interest rates would not have had a material impact on the value of our cash equivalents and short-term investments or interest owed on our outstanding debt. Fluctuations in the value of our cash equivalents and short-term investments caused by a change in interest rates (gains or losses on the carrying value) are recorded in other comprehensive income, and are realized only if we sell the underlying securities prior to maturity. In addition, a hypothetical 10% relative change in interest rates would not have had a material impact on our operating results for the nine months ended October 31, 2023. Item 4. Controls and Procedures Evaluation of Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of October 31, 2023. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that as of October 31, 2023, our disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed in the reports we file and submit under the Exchange Act is recorded, processed, summarized and reported as and when required, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding its required disclosure. Changes in Internal Control Over Financial Reporting There was no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the period covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 44 Inherent Limitations on Effectiveness of Controls Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected. Accordingly, our disclosure controls and procedures provide reasonable assurance of achieving their objectives. 45 PART II—OTHER INFORMATION Item 1. Legal Proceedings For information regarding legal proceedings, see Note 13. Commitments and Contingencies of the Notes to Condensed Consolidated Financial Statements included in Item 1. Financial Statements of this Form 10-Q, which is incorporated by reference into this Item 1. Legal Proceedings . Item 1A. Risk Factors An investment in our common stock involves a high degree of risk, and the following is a summary of key risk factors when considering an investment. You should read the summary risks together with the more detailed discussion of risks set forth following this summary, as well as elsewhere in this Quarterly Report on Form 10-Q. Additional risks, beyond those summarized below or discussed elsewhere in this Quarterly Report on Form 10-Q, may apply to our activities or operations as currently conducted or as we may conduct them in the future or in the markets in which we operate or may in the future operate. Risks Related to Our Business and Industry • If we are unable to attract new customers and retain and expand sales to existing customers, our revenue growth could be slower than we expect and our business would be adversely affected. • Current and future economic uncertainty and other unfavorable conditions in our industry or the global economy could limit our growth and negatively affect our operating results. • If we fail to manage our growth and profitability plans effectively, our business, operating results, and financial condition could be adversely affected. • If the market for monetization platform software and related solutions, and consumer adoption of products and services that are provided through such solutions, develops slower than we expect, our growth may slow or stall, and our operating results could be adversely affected. • If we are unable to successfully execute our strategic initiatives, such as increasing our sales to large enterprise customers and expanding and strengthening our sales channels and relationships with system integrators, our business, operating results and financial condition could be adversely affected. • If we are unable to recruit or retain senior management or other key personnel and maintain our corporate culture, we may not be able to execute on our business strategy. • If we are unable to effectively compete in the market for our solutions or such markets develop slower than we expect our business, operating results, and financial condition would be adversely affected. • We have a history of net losses and may not achieve or sustain profitability. • Our revenue growth and ability to achieve and sustain profitability will depend, in part, on our ability to increase productivity of our sales force. • Our success depends in large part on a limited number of products, and if these products fail to gain market acceptance or our product development efforts are unsuccessful, our business, operating results, and financial condition could be adversely affected. • Currency exchange rate fluctuations may adversely affect our results of operations, which are reported in U.S. Dollars. • We face risks related to our debt obligations, including our convertible senior unsecured notes and warrants. • Our operating results, which are influenced by a variety of factors, have fluctuated in the past and may continue to fluctuate, making our future results difficult to predict accurately. • If we are not able to successfully and timely develop, enhance and deploy our products and multi-product strategy, our business, operating results, financial condition and growth prospects could be adversely affected. • We may be unable to integrate businesses we have or will acquire or to achieve expected benefits of such acquisitions. 46 • Our international operations expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. • If we fail to integrate our solutions with a variety of systems, applications and platforms that are developed by others, our solutions may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy • If our security measures are breached or if unauthorized access to customer, employee or other confidential data is otherwise obtained, or if our solutions are perceived as not being secure, we may lose existing customers or fail to attract new customers, our business may be harmed and we may incur significant liabilities. • Privacy and security concerns, laws, and regulations, may adversely affect our business. • Failure to protect our intellectual property could adversely affect our business. • Any disruptions of service from our public cloud providers could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. Risks Related to Legal, Regulatory, Accounting, and Tax Matters • Adverse litigation judgments or settlements could expose us to significant monetary damages or limit our ability to operate our business. • If we are not able to satisfy government and industry-specific requirements, such as data protection, security, privacy, and export laws, our growth could be harmed. Risks Related to Ownership of Our Class A Common Stock • The market price of our Class A common stock has been, and will likely continue to be, volatile, and you could lose all or part of the value of your investment. • The dual class structure of our common stock has the effect of concentrating substantial influence with holders of our Class B common stock, including our CEO and his affiliates, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. Risks Related to Our Business and Industry If we are unable to attract new customers and retain and expand sales to existing customers, our revenue growth could be slower than we expect, and our business may be adversely affected. Our ability to achieve significant growth in revenue in the future will depend, in large part, upon our ability to attract new customers. This may be particularly challenging where an organization has already invested substantial personnel and financial resources to integrate billings and other business and financial management tools, including custom-built solutions, into its business, as such an organization may be reluctant or unwilling to invest in new products and services. As a result, selling our solutions often requires sophisticated and costly sales efforts that are targeted at senior management. During the nine months ended October 31, 2023, sales and marketing expenses represented approximately 39% of our total revenue. If we fail to attract new customers and fail to maintain and expand new customer relationships, our revenue may grow more slowly than we expect and our business may be adversely affected. Our future revenue growth also depends upon retaining and expanding sales and renewals of subscriptions to our solutions with existing customers. If our existing customers do not expand their use of our solutions over time or do not renew their subscriptions or if we receive requests from an increased number of customers for changes to payment or other terms as a result of the impact of macroeconomic conditions, including global economic uncertainty and increasing inflation and interest rates, on their businesses, our revenue may grow more slowly than expected, may not grow at all, or may decline. Our success is also dependent, in part, on our ability to effectively differentiate and cross-sell our products. If we experience issues with successfully implementing or cross-selling our products, revenue may grow more slowly or may not grow at all. 47 Our sales and marketing efforts also may be impacted by macroeconomic conditions and other events beyond our control. In light of current macroeconomic conditions and uncertainty, certain customers and prospective customers have reduced or delayed technology or other discretionary spending or otherwise are cautious about purchasing decisions and, as a result, we are experiencing longer sales cycles. If the impacts to customers and prospective customers of current macroeconomic conditions and uncertainty persist or worsen, our business, operating results, financial conditions and prospects could be materially and adversely affected. We currently expect to expand our sales efforts, both domestically and internationally in the long term, but any continuing business disruptions may negatively impact these efforts and adversely impact our business. In addition, we may be unable to hire qualified sales personnel, may be unable to successfully train those sales personnel that we are able to hire, and sales personnel may not become fully productive on the timelines that we have projected or at all. Further, although we dedicate significant resources to sales and marketing programs, these sales and marketing programs may not have the desired effect and may not expand sales. We cannot assure you that our efforts would result in increased sales to existing customers and additional revenue. If our efforts to expand sales and renewals to existing customers are not successful, our business and operating results could be adversely affected. Our customers generally enter into subscription agreements with terms of one to five years and have no obligation to renew their subscriptions after the expiration of their initial subscription period. Moreover, our customers that do renew their subscriptions may renew for lower subscription or usage amounts or for shorter subscription periods. In addition, in the first year of a subscription, customers often purchase an increased level of professional services (such as deployment services) than they do in renewal years. Costs associated with maintaining a professional services department are relatively fixed in the short term while professional services revenue is dependent on the amount of billable work actually performed for customers in a period, the combination of which may result in variability in, and have a negative impact on, our gross profit. Customer renewals may decline or fluctuate as a result of a number of factors, including the breadth of early deployment, reductions in our customers’ spending levels, higher volumes of usage purchased upfront relative to actual usage during the subscription term, changes in customers’ business models and use cases, our customers’ satisfaction or dissatisfaction with our solutions, our pricing or pricing structure, the pricing or capabilities of products or services offered by our competitors, or the effects of general macroeconomic conditions. If our customers do not renew their agreements with us, or renew on terms less favorable to us, our revenue may decline. Current and future economic uncertainty and other unfavorable conditions in our industry or the global economy have limited and may continue to limit our ability to grow our business and negatively affect our operating results. Our operating results may vary based on the impact of changes in the U.S. and global economy, including the effects of recession, fluctuations in inflation and interest rates, bank failures, debt ceiling negotiations, potential government shutdowns and general economic downturns, which can arise suddenly. As a result of current weakened macroeconomic conditions and uncertainty, and related corporate cost cutting and tighter budgets, we are experiencing longer sales cycles and collection periods. Prolonged macroeconomic weakness and uncertainty could continue to adversely affect the ability or willingness of our current and prospective customers to purchase or expand their purchase of our products, further delay customer purchasing decisions, reduce the value of customer contracts, affect attrition rates, or further lengthen collection periods, any of which could materially and adversely affect our business, operating results, financial conditions and prospects. We cannot predict the timing, strength, or duration of any economic downturn. Moreover, any continued disruptions in the banking system, both in the U.S. or abroad, may impact our or our customers’ liquidity and, as a result, negatively impact our business and operating results. If we fail to manage our growth and profitability plans effectively, our business, operating results, and financial condition could be adversely affected. If we are unable to manage our growth and profitability plans effectively, which may continue to be impacted by macroeconomic conditions and other factors outside of our control, our business, operating results, and financial condition could be adversely affected. To manage growth in our operations and personnel, we will need to continue to improve and achieve efficiencies with respect to our operational, financial, and management controls and our reporting systems and procedures, including improving timely access to operational information to optimize business decisions. Failure to manage growth and profitability plans effectively could result in difficulty or delays in deploying customers, declines in quality or customer satisfaction, increases in costs, difficulties in introducing new products and services or enhancing existing products and services, loss of customers, or other operational 48 difficulties in executing sales strategies, any of which could adversely affect our business performance and operating results. If the market for monetization platform software and related solutions, and consumer adoption of products and services that are provided through such solutions, develops slower than we expect, our growth may slow or stall, and our operating results could be adversely affected. Our success depends on companies investing in monetization solutions, including subscription or consumption management, revenue recognition and subscriber experience software and products, and consumers choosing to consume products and services through such solutions. Companies may be unwilling or unable to invest in monetization solutions due to the significant cost of such solutions or if they do not believe that the consumers of their products and services would be receptive to offerings on such monetization solutions, or they may choose to invest in such solutions more slowly than we expect. Our success will also depend, to a large extent, on the willingness of large enterprises that have adopted subscription or consumption business models utilizing cloud-based products and services to manage billings and financial accounting relating to their offerings. In addition, those enterprises that do shift to a subscription model may decide that they do not need a solution that offers the range of functionalities that we offer. Many companies have invested substantial effort and financial resources to develop custom-built applications or integrate traditional enterprise software into their businesses as they adopt recurring revenue business models and may be reluctant or unwilling to switch to different applications. Factors that may affect market acceptance and sales of our products and services inclu • the number of companies shifting to subscription business models; • the number of consumers and businesses adopting new, flexible ways to consume products and services; • the security capabilities, reliability, and availability of cloud-based services; • customer concerns with entrusting a third party to store and manage their data, especially transaction-critical, confidential, or sensitive data; • our ability to minimize the time and resources required to deploy our solutions; • our ability to achieve and maintain high levels of customer satisfaction; • our ability to deploy upgrades and other changes to our solutions without disruption to our customers; • the level of customization or configuration we offer; • the overall level of corporate spending and spending on quote-to-cash and revenue recognition solutions by our customers and prospects, including the impact of spending due to macroeconomic conditions; • general macroeconomic conditions, both in domestic and foreign markets, including the impacts associated with rising interest rates and inflation, slower growth or recession, geopolitical unrest and developments such as the ongoing conflicts in Ukraine and Israel, bank failures, and debt ceiling negotiations, potential government shutdowns; and • the price, performance, and availability of competing products and services. The markets for subscription products and services and for subscription management software may not develop further or may develop slower than we expect. If companies do not shift to subscription business models and subscription management software does not achieve widespread adoption, or if there is a reduction in demand for subscription products and services or subscription management software caused by technological challenges, weakening economic conditions, security or privacy concerns, decreases in corporate spending, a lack of customer acceptance, or otherwise, our business could be materially and adversely affected. In addition, our subscription agreements with our customers generally provide for a minimum monetization platform fee and usage-based fees, which depend on the total dollar amount that is invoiced or managed on our solutions, or the total usage of our solutions. Because a portion of our revenue depends on the volume of transactions that our customers process through our solutions, if our customers do not adopt our solutions throughout their business, if their businesses decline or fail, or if they are unable to successfully shift to subscription business models, including if they fail to successfully deploy our solutions, our revenue could decline and our operation results could be adversely impacted. 49 If we are unable to grow our sales channels and our relationships with strategic partners, such as system integrators, management consulting firms, and resellers, sales of our products and services may suffer and our growth could be slower than we project. In addition to our direct sales force, we use strategic partners, such as system integrators, management consulting firms, strategic technology partners and resellers, to market, sell, and implement our solutions. Historically, we have used these strategic partners to a limited degree, but we are prioritizing efforts to make these partners an increasingly important aspect of our business particularly with regard to enterprise and international sales and larger implementations of our products where these partners may have more expertise and established business relationships than we do. We have transitioned and expect to continue to transition a portion of our professional services implementations to these strategic partners, and as a result we expect our professional services revenue as an overall percentage of Zuora's total revenue to continue to decline over time. Our relationships with these strategic partners are still maturing, and we cannot assure you that these partners will be successful in marketing, selling or implementing our solutions. Identifying these partners, negotiating and supporting relationships with them, including training them in how to sell or deploy our solutions, and maintaining these relationships requires significant commitment of time and resources that may not yield a significant return on our investment in these relationships. Our future growth in revenue and ability to achieve and sustain profitability depends in part on our ability to identify, establish, and retain successful strategic partner relationships in the United States and internationally, which will take significant time and resources and involve significant risk. If we are unable to establish and maintain our relationships with these partners, or otherwise develop and expand our indirect distribution channel, our business, operating results, financial condition, or cash flows could be adversely affected. We also cannot be certain that we will be able to maintain successful relationships with any strategic partners and, to the extent that our strategic partners are unsuccessful in marketing, selling, or implementing our solutions, our business, operating results, and financial condition could be adversely affected. Our strategic partners may market to our customers the products and services of several different companies, including products and services that compete with our solutions. Because our strategic partners do not have an exclusive relationship with us, we cannot be certain that they will prioritize or provide adequate resources to marketing our solutions. Moreover, divergence in strategy by any of these partners may materially adversely affect our ability to develop, market, sell, or support our solutions. We cannot assure you that our strategic partners will continue to cooperate with us. In addition, actions taken or omitted to be taken by such parties may adversely affect us. We are unable to control the quantity or quality of resources that our systems integrator partners commit to deploying our products and services, or the quality or timeliness of such deployment. If our partners do not commit sufficient or qualified resources to these activities, our customers may be less satisfied, or less supportive with references, or may require the investment of our resources at discounted rates. These, and other failures by our partners to successfully deploy our products and services, may have an adverse effect on our business and our operating results. Our business depends largely on our ability to attract and retain talented employees, including senior management, and maintain our corporate culture. If we lose the services of Tien Tzuo, our founder, Chairman, and Chief Executive Officer, or other critical talent across our executive team and in other key roles, or fail to maintain our corporate culture, we may not be able to execute on our business strategy. Our future success depends on our continuing ability to attract, train, engage, assimilate, and retain highly skilled personnel, including software engineers, product management, sales, and professional services personnel. We have historically faced intense competition for qualified individuals from numerous software and other technology companies. Although we have experienced decreased voluntary turnover since fiscal 2022, we may experience heightened attrition, including of those with significant institutional knowledge and expertise, negatively impacting productivity and our corporate culture. We may not be able to retain our current key employees, or attract, train, assimilate, or retain other highly skilled personnel in the future, especially in light of uncertain macroeconomic and geopolitical conditions globally. For example, employees may seek new or different opportunities that offer greater compensation or benefits than we offer or are able to offer, making it difficult to retain them. In addition, we may incur significant costs to attract and retain highly skilled personnel, and we may lose new employees to our competitors or other technology companies before we realize the benefit of our investment in recruiting and training them. As we move into new countries, we will need to attract and recruit skilled personnel in those areas. If we are unable to attract and retain suitably qualified individuals who are capable of meeting our growing technical, operational, and managerial requirements on a timely basis or at all, our business may be adversely affected. Further, given that our employees continue to be distributed globally and most of our employees continue to work remotely, we may find it increasingly difficult to maintain the beneficial aspects of our corporate culture that is focused on inclusivity and high performance, underlying the importance of employee connectivity and accountability. 50 Additionally, we may periodically implement business strategies that impact our employees, including changes to our organizational structure or workforce adjustments such as our November 2022 workforce reduction. Workforce reductions or restructurings could have an adverse effect on our business, including creating negative employee morale and hindering our ability to meet operational targets due to loss of employees. To the extent our compensation programs and workplace culture are not viewed as competitive, or changes in our workforce or other initiatives are not viewed favorably, our ability to attract, retain, and motivate employees can be weakened, which could harm our results of operations. Our future success also depends in large part on the continued services of senior management, including Tien Tzuo, our founder, Chairman and Chief Executive Officer, who is critical to the development of our technology, platform, future vision, and strategic direction. We also rely on other leaders and key personnel across our company, including those in our sales, support, operations, and research and development teams, which are distributed in the U.S. and abroad. Our senior management and other key personnel are all employed on an at-will basis, which means that they could terminate their employment with us at any time and for any reason, such as retirement or career change. If we lose the services of senior management or other key personnel and fail to execute effective succession planning for such key personnel, or if we are unable to attract, train, assimilate, and retain the highly skilled personnel we need, our business, operating results, and financial condition could be adversely affected. Volatility or lack of appreciation in our stock price may also affect our ability to attract and retain our key employees. Many of our senior personnel and other key employees hold a substantial amount of equity awards and shares. Employees may be more likely to leave us if our stock price is depressed for an extended period of time as well as if the exercise price of stock options that they hold are significantly above the market price of our Class A common stock (or, conversely, if the equity or vested equity awards they hold have significantly appreciated in value). If we are unable to retain our employees, or if we need to increase our compensation expenses, including equity compensation expenses, to retain our employees, our business, results of operations, financial condition, and cash flows could be adversely affected. The market in which we participate is competitive, and our operating results could be harmed if we do not compete effectively. The market for our solutions, including our billing, collections, revenue recognition and subscriber experience offerings, is highly competitive, rapidly evolving, and fragmented, and subject to changing technology, shifting customer needs, and frequent introductions of new products and services. Many of our current and potential competitors have longer operating histories, access to alternative fundraising sources, significantly greater financial, technical, marketing, distribution or professional services experience, or other resources or greater name recognition than we do. In addition, many of our current and potential competitors supply a wide variety of products to, and have strong and well-established relationships with, current and potential customers. As a result, our current and potential competitors may be able to respond more quickly and effectively than we can to new or changing opportunities, technologies, standards, or customer requirements or devote greater resources than we can to the development, promotion, and sale of their products and services. In addition, some current and potential competitors may offer products or services that address one or a limited number of functions at lower prices or with greater depth than our solutions, or integrate or bundle such products and services with their other product offerings. Potential customers may prefer to purchase from their existing suppliers rather than from a new supplier. Our current and potential competitors may develop and market new technologies with comparable functionality to our solutions. In addition, because our products and services are integral to our customers’ ability to accurately maintain books and records and prepare financial statements, our potential customers may prefer to purchase applications that are critical to their business from one of our larger, more established competitors, or leverage the software that they have already purchased from our competitors for their billing and accounting needs, or control such infrastructure internally. We may experience fewer customer orders, reduced gross margins, longer sales cycles, and loss of market share. This could lead us to decrease prices, implement alternative pricing structures, or introduce products and services available for free or a nominal price in order to remain competitive. We may not be able to compete successfully against current and future competitors, and our business, operating results, and financial condition will be adversely impacted if we fail to meet these competitive pressures. Our ability to compete successfully in our market depends on a number of factors, both within and outside of our control. Some of these factors inclu ease of use; subscription-based product features and functionality; ability to support the specific needs of companies with subscription business models; ability to integrate with other 51 technology infrastructures and third-party applications; enterprise-grade performance and features such as system scalability, security, performance, and resiliency; vision for the market and product innovation; relationships with strategic partners, including system integrators, management consulting firms, and resellers; total cost of ownership; strength of sales and marketing efforts; brand awareness and reputation; and customer experience, including support and professional services. In addition, if we are unable to effectively articulate the value proposition of our solutions to customers and prospects, we may face difficulties competing in the market, particularly in the current uncertain macroeconomic environment. Any failure by us to compete successfully in any one of these or other areas may reduce the demand for our solutions, as well as adversely affect our business, operating results, and financial condition. Moreover, current and future competitors may also make strategic acquisitions or establish cooperative relationships among themselves or with others, including our current or future technology partners. By doing so, these competitors may increase their ability to meet the needs of our customers or potential customers. These developments could limit our ability to obtain revenue from existing and new customers. If we are unable to compete successfully against current and future competitors, our business, operating results, and financial condition could be adversely impacted. We have a history of net losses and may not achieve or sustain profitability. We have incurred net losses in each fiscal year since inception, including net losses of $198.0 million, $99.4 million, and $73.2 million in fiscal 2023, 2022, and 2021, respectively, and may continue to incur net losses in the future. As of October 31, 2023, we had an accumulated deficit of $808.8 million. As we grow, we expect to make additional expenditures related to the development and expansion of our business, including increasing our overall customer base, expanding relationships with existing customers, entering new vertical markets, expanding our global footprint, expanding and leveraging our relationships with strategic partners including system integrators to accelerate our growth, optimizing pricing and packaging, and expanding our operations and infrastructure. These efforts may prove more expensive than we currently anticipate, and we may not succeed in increasing our revenue sufficiently, or at all, to offset these increased expenses. In addition, we may delay or reevaluate some or all of the foregoing initiatives in the event that macroeconomic conditions or other factors beyond our control adversely impact our business or operating results. Any delays or reductions in spending in our business development or expansion efforts may negatively affect our ability to expand our operations and maintain or increase our sales. While our revenue has grown in recent years, if our revenue declines or fails to grow at a rate faster than these increases in our operating expenses, we may not be able to achieve or maintain profitability in future periods. Our revenue growth and ability to achieve and sustain profitability will depend, in part, on being able to increase the productivity of our sales force. To date, most of our revenue has been attributable to the efforts of our direct sales force. In order to increase our revenue and achieve and sustain profitability, we must increase the productivity of our direct sales force, both in the United States and internationally, to generate additional revenue from new and existing customers. There is significant competition for sales personnel with the skills and technical knowledge that we require, and we may experience difficulties attracting qualified sales personnel to meet our needs in the future. Because our solutions are often sold to large enterprises and may involve long sales cycles and complex customer requirements, it is more difficult to find sales personnel with the specific skills and technical knowledge needed to sell our solutions and, even if we are able to hire qualified personnel, doing so may be expensive. Our ability to achieve significant revenue growth will depend, in large part, on our success in recruiting, training, and retaining sufficient numbers of direct sales personnel to support our growth. Due to the complexities of our customer needs, new sales personnel require significant training and can take a number of months to achieve full productivity. Our recent hires and planned hires may not become productive as quickly as we expect and if our new sales employees do not become fully productive on the timelines that we have projected or at all, our revenue will not increase at anticipated levels and our ability to achieve long-term projections may be negatively impacted. We may also be unable to hire or retain sufficient numbers of qualified individuals in the markets where we do business or plan to do business. Furthermore, hiring sales personnel in new countries requires additional set up and upfront costs that we may not recover if the sales personnel fail to achieve full productivity. In addition, as we continue to grow, a larger percentage of our sales force will be new to our company and our solutions, which may adversely affect our sales if we cannot train our sales force quickly or effectively. Attrition rates may increase, and we may also face integration challenges as we continue to seek to expand our sales force in the long-term. If we are 52 unable to hire and train sufficient numbers of effective sales personnel, if attrition increases, or if the sales personnel are not successful in obtaining new customers or increasing sales to our existing customer base, our business will be adversely affected. We periodically change and make adjustments to our sales organization in response to market opportunities, competitive threats, management changes, product and service introductions or enhancements, acquisitions, sales performance, increases in sales headcount, cost levels, and other internal and external considerations, including potential changes and uncertainties associated with macroeconomic conditions or other factors beyond our control. Any future changes in our sales organization may result in a temporary reduction of productivity, which could negatively affect our rate of growth. In addition, any significant change to the way we structure our compensation of our sales organization may be disruptive and may affect our revenue growth. Our success depends in large part on a limited number of products. If these products fail to gain or lose market acceptance, our business will suffer. We derive substantially all of our revenue and cash flows from sales of subscriptions and associated deployment of our Zuora Platform , Zuora Billing, Zuora Revenue, and Zuora Payments products, and with the acquisition of Zephr, a digital subscriber experience platform, in fiscal 2023, we added the Zephr subscription experience product to our portfolio. As such, the continued growth in market demand for these products is critical to our success. Demand for our solutions is affected by a number of factors, many of which are beyond our control, including macroeconomic factors, such as the impacts of inflation and rising interest rates on our customers and prospects, the growth or contraction of the Subscription Economy, continued market acceptance of our solutions by customers for existing and new use cases, the timing of development and release of new products and services, features, and functionality introduced by our competitors, changes in accounting standards, laws or regulations, policies, guidelines, interpretations, or principles that would impact the functionality and use of our solutions, and technological change. We expect that an increasing transition to disaggregated solutions that focus on addressing specific customer use cases would continue to disrupt the enterprise software space, enabling new competitors to emerge. We cannot assure you that our solutions and future enhancements to our solutions will be able to address future advances in technology or the requirements of enterprise customers. If we are unable to meet customer demands in creating flexible solutions designed to address all these needs or otherwise achieve more widespread market acceptance of our solutions, our business, operating results, financial condition, and growth prospects would be adversely affected. Currency exchange rate fluctuations may adversely affect our results of operations, which are reported in U.S. Dollars. Our international operations expose us to the effects of fluctuations in currency exchange rates, and may increase the cost of our solutions to customers outside of the United States when the U.S. Dollar is stronger relative to other currencies. Currency exchange rate fluctuations have and may adversely affect our business, operating results, financial condition, and cash flows. In addition, we incur expenses for employee compensation and other operating expenses at our non-U.S. locations in the local currency. Fluctuations in the exchange rates between the U.S. Dollar and other currencies could result in the dollar equivalent of such expenses being higher. Furthermore, volatile market conditions arising from macroeconomic conditions and geopolitical events, including the ongoing conflicts in Ukraine and Israel, may result in significant fluctuations in exchange rates, and, in particular, a weakening of foreign currencies relative to the U.S. Dollar may negatively affect our revenue. This could have a negative impact on our operating results. Although we may in the future decide to undertake foreign exchange hedging transactions to cover a portion of our foreign currency exchange exposure, we currently do not hedge our exposure to foreign currency exchange risks. We face risks related to our debt obligations, including our convertible senior unsecured notes and warrants. We have issued $400.0 million aggregate principal amount of convertible senior unsecured notes due in 2029 (collectively, the "2029 Notes") and warrants for 7.5 million shares of our Class A common stock (Warrants) to Silver Lake Alpine II, L.P. (Silver Lake). Our debt obligations under the 2029 Notes could adversely impact us. For example, these obligations coul 53 • require us to use a substantial portion of our cash flow from operations to pay principal and interest on debt, or to repurchase our 2029 Notes when required upon the occurrence of certain events or otherwise pursuant to the terms thereof, which will reduce the amount of cash flow available to fund working capital, capital expenditures, acquisitions, and other business activities; • require us to use cash and/or issue shares of our Class A common stock to settle any obligations; • result in certain of our debt instruments being accelerated or being deemed to be in default if certain terms of default are triggered, such as applicable cross payment default and/or cross-acceleration provisions; • adversely impact our credit rating, which could increase future borrowing costs; • limit our future ability to raise funds for capital expenditures, strategic acquisitions or business opportunities, and other general corporate requirements; • restrict our ability to create or incur liens and engage in other transactions and activity; • increase our vulnerability to adverse economic and industry conditions; • dilute our earnings per share as a result of the conversion provisions in the 2029 Notes; and • place us at a competitive disadvantage compared to our less leveraged competitors. Additionally, due to certain settlement provisions in the Warrants, we have classified a portion of the Warrants as a current liability and revalue the liability on a quarterly basis, which may adversely affect our future operating results and financial condition as reported on a GAAP basis. We also have a $30.0 million revolving credit facility, which is currently undrawn, under an agreement with Silicon Valley Bank, a division of First-Citizens Bank & Trust. The credit facility contains restrictive covenants, including limitations on our ability to transfer or dispose of assets, merge with other companies or consummate certain changes of control, acquire other companies, pay dividends or repurchase our stock, incur additional indebtedness and liens and enter into new businesses. We therefore may not be able to engage in any of the foregoing transactions unless we obtain the consent of the lender or terminate the credit facility. Failure to comply with the covenants or other restrictions could result in a default. In addition, the credit facility is secured by substantially all of our non-intellectual property assets and requires us to satisfy certain financial covenants. Our ability to meet our payment obligations under our debt instruments depends on our ability to generate significant cash flows in the future. This, to some extent, is subject to market, economic, financial, competitive, legislative, and regulatory factors as well as other factors that are beyond our control. There can be no assurance that our business will generate cash flow from operations, or that additional capital will be available to us, in amounts sufficient to enable us to meet our debt payment obligations and to fund other liquidity needs. For example, we may utilize proceeds from the 2029 Notes for acquisitions or other investments that do not increase our enterprise value or we may otherwise be unable to generate sufficient cash flows to repay our debt obligations. See Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock of the Notes to Condensed Consolidated Financial Statements for more information about the 2029 Notes, Warrants and the revolving credit facility. Our operating results may fluctuate from quarter to quarter, which makes our future results difficult to predict. Our quarterly operating results have fluctuated in the past and may fluctuate in the future. As a result, you should not rely upon our past quarterly operating results as indicators of future performance. We have encountered, and will continue to encounter, risks and uncertainties frequently experienced by growing companies in rapidly evolving markets, such as the risks and uncertainties described herein. Our operating results in any given quarter can be influenced by numerous factors, many of which are unpredictable or are outside of our control, includin • our ability to maintain and grow our customer base; • our ability to retain and increase revenue from existing customers; • our ability to introduce new products and services and enhance existing products and services; • our ability to integrate or implement our existing products and services on a timely basis or at all; 54 • our ability to deploy our products successfully within our customers' information technology ecosystems; • our ability to enter into larger contracts; • increases or decreases in subscriptions to our platform; • our ability to sell to large enterprise customers; • the transaction volume that our customers process through our system; • our ability to respond to competitive developments, including competitors' pricing changes and their introduction of new products and services; • macroeconomic conditions, including the impact of foreign exchange fluctuations and rising interest rates and inflation, including wage inflation; • changes in the pricing of our products; • the productivity of our sales force; • our ability to grow our relationships with strategic partners such as system integrators and their effectiveness in increasing our sales and implementing our products; • changes in the mix of products and services that our customers use; • the length and complexity of our sales cycles; • cost to develop and upgrade our solutions to incorporate new technologies; • seasonal purchasing patterns of our customers; • the impact of outages of our solutions and reputational harm; • costs related to the acquisition of businesses, talent, technologies, or intellectual property, including potentially significant amortization costs and possible write-downs; • failures or breaches of security or privacy, and the costs associated with responding to and addressing any such failures or breaches; • changes to financial accounting standards and the interpretation of those standards that may affect the way we recognize and report our financial results, including changes in accounting rules governing recognition of revenue; • the impact of changes to financial accounting standards; • general economic and political conditions and government regulations in the countries where we currently operate or plan to expand; • decisions by us to incur additional expenses, such as increases in sales and marketing or research and development; • the timing of stock-based compensation expense; • political unrest, changes and uncertainty associated with terrorism, hostilities, war (including the ongoing conflicts in Ukraine and Israel), natural disasters, pandemics, and the continuing disruptions to the global banking system; and • potential costs to attract, onboard, retain, and motivate qualified personnel. The impact of one or more of the foregoing and other factors may cause our operating results to vary significantly. As such, we believe that quarter-to-quarter comparisons of our operating results may not be meaningful and should not be relied upon as an indication of future performance. If we fail to meet or exceed the expectations of investors or securities analysts, then the trading price of our Class A common stock could fall substantially, and we could face costly lawsuits, including shareholder litigation. 55 If we are not able to develop and release new products and services, or successful enhancements, new features, and modifications to our existing products and services, or otherwise successfully implement our multi-product strategy, our business could be adversely affected. Our industry and the market for our solutions are characterized by rapid technological change and innovations (such as the use of artificial intelligence and machine learning technologies), frequent new product and service introductions and enhancements, changing customer demands, and evolving industry standards. If we are unable to develop new products that achieve market acceptance, provide enhancements and new features, or innovate quickly enough to keep pace with these rapid technological developments, our business could be harmed.Additionally, because we provide billing and finance solutions to help our customers with compliance and financial reporting, changes in law, regulations, and accounting standards could impact the usefulness of our products and services and could necessitate changes or modifications to our products and services to accommodate such changes. Subscription management products and services, including our billing, collections and revenue recognition offerings, are inherently complex, and our ability to implement our multi-product strategy, including developing, releasing, marketing and selling new products and services or enhancements, new features and modifications to our existing products and services depends on several factors, including timely completion, competitive pricing, adequate quality testing, integration with new and existing technologies and our solutions, and overall market acceptance. We cannot be sure that we will succeed in developing, marketing, and delivering on a timely and cost-effective basis enhancements or improvements to our platform or any new products and services that respond to continued changes in subscription management practices or new customer requirements, nor can we be sure that any enhancements or improvements to our platform or any new products and services will achieve market acceptance. Since developing our solutions is complex, the timetable for the release of new products and enhancements to existing products is difficult to predict, and we may not offer new products and updates as rapidly as our customers require or expect. In addition, our product development efforts could be delayed or otherwise negatively impacted if there is an adverse geopolitical event in the countries where we operate, including in China and India where we have a sizable number of research and development employees. Any new products or services that we develop may not be introduced in a timely or cost-effective manner, may contain errors or defects, or may not achieve the broad market acceptance necessary to generate sufficient revenue. The introduction of new products and enhancements could also increase costs associated with customer support and customer success as demand for these services increase. This increase in cost could negatively impact profit margins, including our gross margin. Moreover, even if we introduce new products and services, we may experience a decline in revenue of our existing products and services that is not offset by revenue from the new products or services. For example, customers may delay making purchases of new products and services to permit them to make a more thorough evaluation of these products and services or until industry and marketplace reviews become widely available. Some customers may hesitate to migrate to a new product or service due to concerns regarding the complexity of migration or performance of the new product or service. In addition, we may lose existing customers who choose a competitor’s products and services or choose to utilize internally developed applications instead of our products and services. This could result in a temporary or permanent revenue shortfall and adversely affect our business. In addition, because our products and services are designed to interoperate with a variety of other internal or third-party software products and business systems applications, we will need to continuously modify and enhance our products and services to keep pace with changes in application programming interfaces (APIs), and other software and database technologies. We may not be successful in either developing these new products and services, modifications, and enhancements or in bringing them to market in a timely fashion. There is no assurance that we will successfully resolve such issues in a timely and cost-effective manner. Furthermore, modifications to existing platforms or technologies, including any APIs with which we interoperate, will increase our research and development expenses. Any failure of our products and services to operate effectively with each other or with other platforms and technologies could reduce the demand for our products and services, result in customer dissatisfaction, and adversely affect our business. 56 We may acquire or invest in additional companies, which may divert our management’s attention, result in additional dilution to our stockholders, and consume resources that are necessary to sustain our business. We may be unable to integrate acquired businesses and technologies successfully or to achieve the expected benefits of such acquisitions. Our business strategy includes acquiring other complementary products, technologies, or businesses, such as our acquisition of Zephr in September 2022. An acquisition, investment, or business relationship may result in unforeseen operating difficulties and expenditures. In particular, we may encounter difficulties assimilating or integrating the businesses, technologies, products, personnel, or operations of the acquired companies, particularly if the key personnel of the acquired companies choose not to work for us, if an acquired company’s software is not easily adapted to work with ours, or if we have difficulty retaining the customers of any acquired business due to changes in management or otherwise. Acquisitions may also disrupt our business, divert our resources, and require significant management attention that would otherwise be available for other business development activities. Moreover, the anticipated benefits of any acquisition, investment, or business relationship may not be realized or we may be exposed to unknown liabilities. We may in the future acquire or invest in additional businesses, products, technologies, or other assets. We also may enter into relationships with other businesses to expand our products and services or our ability to provide our products and services in foreign jurisdictions, which could involve preferred or exclusive licenses, additional channels of distribution, discount pricing, or investments in other companies. Negotiating these transactions can be time consuming, difficult, and expensive, and our ability to close these transactions may be subject to approvals that are beyond our control. In addition, we have limited experience in acquiring other businesses. We may be unable to find and identify desirable acquisition targets, may incorrectly estimate the value of a target, may fail to conduct effective due diligence on a target to identify problems or incompatibilities or obstacles to integration, or may not be successful in entering into an agreement with any particular target. Consequently, these transactions, even if undertaken and announced, may not close. For any transactions we undertake, we may: • issue additional equity securities that would dilute our stockholders; • use cash that we may need in the future to operate our business; • incur debt on terms unfavorable to us or that we are unable to repay; • incur large charges or substantial liabilities; • encounter difficulties retaining key employees of the acquired company or integrating diverse software codes or business cultures; and • become subject to adverse tax consequences, substantial depreciation, or deferred compensation charges. Any of these risks could adversely impact our business and operating results. A customer’s failure to deploy our solutions after it enters into a subscription agreement with us, or the incorrect or improper deployment or use of our solutions could result in customer dissatisfaction and negatively affect our business, operating results, financial condition, and growth prospects. Our solutions are deployed in a wide variety of technology environments and into a broad range of complex workflows. We believe our future success will depend in part on our ability to increase both the speed and success of our deployments, by improving our deployment methodology, hiring and training qualified professionals, deepening relationships with deployment partners, and increasing our ability to integrate into large-scale, complex technology environments. We often assist our customers in deploying our solutions, either directly or through our deployment partners. In other cases, customers rely on third-party partners to complete the deployment. In some cases, customers initially engage us to deploy our solutions, but, for a variety of reasons, including strategic decisions not to utilize subscription business models, fail to ultimately deploy our solutions. If we or our third-party partners are unable to deploy our solutions successfully, or unable to do so in a timely manner and, as a result, customers do not utilize our solutions, we would not be able to generate future revenue from such customers based on transaction or revenue volume and the upsell of additional products and services, and our future operating results could be adversely impacted. In addition, customers may also seek refunds of their initial subscription fee. 57 Moreover, customer perceptions of our solutions may be impaired, our reputation and brand may suffer, and customers may choose not to renew or expand their use of our solutions. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, our sales cycle may become longer and more expensive, we may encounter still greater pricing pressure and deployment and customization challenges, and we may have to delay revenue recognition for more complicated transactions, all of which could adversely impact our business and operating results. As a substantial portion of our sales efforts are increasingly targeted at large enterprise customers, we may face greater costs, longer sales cycles, and less predictability in the completion of some of our sales. In this market segment, the customer’s decision to use our solutions may be an enterprise-wide decision, in which case these types of sales frequently require approvals by multiple departments and executive-level personnel and require us to provide greater levels of customer education regarding the uses and benefits of our solutions, as well as education regarding security, privacy, and scalability of our solutions, especially for large “business to consumer” customers or those with extensive international operations. These large enterprise transactions might also be part of a customer’s broader business model or business systems transformation project, which are frequently subject to budget constraints, multiple approvals, and unplanned administrative, processing, security review, and other delays that could further lengthen the sales cycle. Larger enterprises typically have longer decision-making and deployment cycles, may have greater resources to develop and maintain customized tools and applications, demand more customization, require greater functionality and scalability, expect a broader range of services, demand that vendors take on a larger share of risks, demand increased levels of customer service and support, require acceptance provisions that can lead to a delay in revenue recognition, and expect greater payment flexibility from vendors. We are often required to spend time and resources to better familiarize potential customers with the value proposition of our solutions. As a result of these factors, sales opportunities with large enterprises may require us to devote greater sales and administrative support and professional services resources to individual customers, which could increase our costs, lengthen our sales cycle, and divert our sales and professional services resources to a smaller number of larger customers. We may spend substantial time, effort, and money in our sales, design and implementation efforts without being successful in producing any sales or deploying our products in such a way that is satisfactory to our customers. All these factors can add further risk to business conducted with these customers. In addition, if sales expected from a large customer for a particular quarter are not realized in that quarter or at all, our business, operating results, and financial condition could be materially and adversely affected. Furthermore, our sales and implementation cycles could be interrupted or affected by other factors outside of our control. For example, due to global economic uncertainty, rising inflation and interest rates, and foreign exchange fluctuations, many large enterprises have generally reduced or delayed technology or other discretionary spending, which may materially and negatively impact our operating results, financial condition and prospects. Our long-term success depends, in part, on our ability to expand the sales of our solutions to customers located outside of the United States. Our current international operations, and any further expansion of those operations, expose us to risks that could have a material adverse effect on our business, operating results, and financial condition. We conduct our business activities in various foreign countries and have operations in North America, Europe, Asia, and Australia. During the nine months ended October 31, 2023, we derived approximately 36% of our total revenue from customers located outside the United States. Our ability to manage our business and conduct our operations internationally requires considerable management attention and resources and is subject to the particular challenges of supporting a rapidly growing business in an environment of multiple cultures, customs, legal systems, regulatory systems, and commercial infrastructures. International expansion requires us to invest significant funds and other resources. Our operations in international markets may not develop at a rate that supports our level of investment. Our international operations, including any future expansion, may subject us to risks, including wit • recruiting and retaining talented and capable employees in foreign countries; • providing our solutions to customers from different cultures, which may require us to adapt sales practices, modify our solutions, and provide features necessary to effectively serve the local market; • compliance with multiple, conflicting, ambiguous or evolving governmental laws and regulations and court decisions, including those relating to employment matters, e-invoicing, consumer protection, privacy, data protection, information security, data residency, and encryption; 58 • longer sales cycles in some countries; • generally longer payment cycles and greater difficulty in collecting accounts receivable; • credit risk and higher levels of payment fraud; • weaker privacy and intellectual property protection in some countries, including China and India; • compliance with anti-bribery laws, such as the U.S. Foreign Corrupt Practices Act of 1977, as amended (FCPA) and the UK Bribery Act 2010 (UK Bribery Act); • currency exchange rate fluctuations; • tariffs, export and import restrictions, restrictions on foreign investments, sanctions, and other trade barriers or protection measures; • foreign exchange controls that might prevent us from repatriating cash earned outside the United States; • economic instability and inflationary conditions; • political instability and unrest, including the effects of the ongoing conflicts in Ukraine and Israel, especially as it impacts countries in Europe; • corporate espionage; • compliance with the laws of numerous taxing jurisdictions, both foreign and domestic, in which we conduct business, potential double taxation of our international earnings, and potentially adverse tax consequences due to changes in applicable U.S. and foreign tax laws; • continuing uncertainty regarding social, political, immigration, and tax and trade policies in the U.S. and abroad; • disruptions to the U.S. and international banking systems; • increased costs to establish and maintain effective controls at foreign locations; and • overall higher costs of doing business internationally. In addition, geopolitical tensions in countries where we operate may increase our costs of or otherwise prevent us from operating in these countries. If authorities in these locations impose costly or overly burdensome requirements or other sanctions, we may not be able to continue or may need to limit our operations in these countries. For example, we have approximately 150 employees in China, of which most are on our research and development and engineering operations teams. If trade relations between the U.S. and China continue to deteriorate or if sanctions or other regulatory requirements are imposed on our operations in China, it could negatively impact our business operations, product development plans, and financial condition. Our growth forecasts we have provided publicly may prove to be inaccurate, and even if the markets in which we compete achieve the forecasted growth, we cannot assure that our business will grow at similar rates, if at all. Growth forecasts are subject to significant uncertainty and are based on assumptions and estimates that may not prove to be accurate. The forecasts we have provided publicly relating to the expected growth of the markets in which we compete may prove to be inaccurate. Even if these markets experience the growth we forecast, we may not grow our business at similar rates, or at all. Our growth is subject to many factors, including our success in executing our business strategy, which is subject to many risks and uncertainties. Accordingly, the forecasts of market growth we have provided publicly should not be taken as indicative of our future growth. 59 If we fail to offer high-quality support and training to our customers and third-party partners, our business and reputation will suffer. Once our solutions are deployed to our customers, our customers rely on support services from us and from our third-party partners to resolve any related issues. High-quality education, training and support for our customers and third-party partners is important for the successful marketing and sale of our products and for the renewal of existing customers. The importance of high-quality customer and third-party partner training and support will increase as we expand our business and pursue new enterprises. If we or our third-party partners do not help our customers quickly resolve post-deployment issues, including configuring and using features, and provide them with effective ongoing customer support, our ability to upsell additional products to existing customers could suffer and our reputation with existing or potential customers could be harmed. Future changes in market conditions or customer demand could require changes to our prices or pricing model, which could adversely affect our business, operating results, and financial condition. We generally charge our customers a flat fee for their use of our platform and a variable fee based on the amount of transaction volume they process through our system and the number of their subscribers. If our customers do not increase their transaction volume or the number of their subscribers, or an economic downturn reduces their transaction volume or the number of their subscribers, our revenue may be adversely impacted by customers reducing their contracted transaction volume. We have limited experience with respect to determining the optimal prices for our platform, and, as a result, we have in the past needed to and expect in the future to need to change our pricing model from time to time. As the market for our platform matures, or as new competitors introduce new products or services that compete with ours, we may be unable to attract or retain customers at the same price or based on the same pricing models as we have used historically. We may experience pressure to change our pricing model to defer fees until our customers have fully deployed our solutions. Moreover, larger organizations, which comprise a large and growing component of our sales efforts, may demand substantial price concessions. As a result, in the future, we may be required to reduce our prices or change our pricing model, which could adversely affect our revenue, gross margin, profitability, financial position, and cash flow. If we fail to integrate our solutions with a variety of operating systems, software applications, and hardware platforms that are developed by others, our solutions may become less marketable, less competitive, or obsolete, and our operating results may be adversely affected. Our solutions must integrate with a variety of network, hardware, and software platforms, and we need to continuously modify and enhance our solutions to adapt to changes in cloud-enabled hardware, software, networking, browser, and database technologies. We have developed our solutions to be able to integrate with third-party SaaS applications, including the applications of software providers that compete with us, through the use of APIs. For example, Zuora CPQ integrates with certain capabilities of Salesforce using publicly available APIs. In general, we rely on the fact that the providers of such software systems, including Salesforce, continue to allow us access to their APIs to enable these integrations, and the terms with such companies may be subject to change from time to time. We also integrate certain aspects of our solutions with other platform providers. Any change or deterioration in our relationship with any platform provider may adversely impact our business and operating results. Our business may be adversely impacted if any platform provide • discontinues or limits our access to its APIs; • makes changes to its platform; • terminates or does not allow us to renew or replace our contractual relationship; • modifies its terms of service or other policies, including fees charged to, or other restrictions on, us or other application developers, or changes how customer information is accessed by us or our customers; • establishes more favorable relationships with one or more of our competitors, or acquires one or more of our competitors or is acquired by a competitor and offers competing services to us; or • otherwise develops its own competitive offerings. In addition, we have benefited from these platform providers’ brand recognition, reputations, and customer bases. Any losses or shifts in the market position of these platform providers in general, in relation to one another or 60 to new competitors or new technologies could lead to losses in our relationships or customers, or to our need to identify or transition to alternative channels for marketing our solutions. Such changes could consume substantial resources and may not be effective. If we are unable to respond to changes in a cost-effective manner, our solutions may become less marketable, less competitive, or obsolete and our operating results may be negatively impacted. If we fail to develop, maintain, and enhance our brand and reputation cost-effectively, our business and financial condition may be adversely affected. We believe that developing, maintaining, and enhancing awareness and integrity of our brand and reputation in a cost-effective manner are important to achieving widespread acceptance of our solutions and are important elements in attracting new customers and maintaining existing customers. We believe that the importance of our brand and reputation will increase as competition in our market further intensifies. Successful promotion of our brand and the Subscription Economy concept will depend on the effectiveness of our marketing efforts, our ability to provide reliable and useful solutions at competitive prices, the perceived value of our solutions, and our ability to provide quality customer support. In addition, the promotion of our brand requires us to make substantial expenditures, and we anticipate that the expenditures will increase as our market becomes more competitive, as we expand into new markets, and as more sales are generated through our strategic partners. Brand promotion activities may not yield increased revenue, and even if they do, the increased revenue may not offset the expenses we incur in building and maintaining our brand and reputation. We also rely on our customer base and community of end-users in a variety of ways, including to give us feedback on our solutions and to provide user-based support to our other customers. If we fail to promote and maintain our brand successfully or to maintain loyalty among our customers, or if we incur substantial expenses in an unsuccessful attempt to promote and maintain our brand, we may fail to attract new customers and partners or retain our existing customers and partners and our business and financial condition may be adversely affected. Any negative publicity relating to our customers, employees, partners, or others associated with these parties, may also tarnish our own reputation simply by association and may reduce the value of our brand. Damage to our brand and reputation may result in reduced demand for our solutions and increased risk of losing market share to our competitors. Any efforts to restore the value of our brand and rebuild our reputation may be costly and may not be successful. We employ third-party licensed software for use in or with our software, and the inability to maintain these licenses or errors in the software we license could result in increased costs or reduced service levels, which could adversely affect our business. Our software incorporates certain third-party software obtained under licenses from other companies. We anticipate that we will continue to rely on such third-party software and development tools from third parties in the foreseeable future. Although we believe that there are commercially reasonable alternatives to the third-party software we currently license, including open source software, this may not always be the case, or it may be difficult or costly to migrate to other third-party software. Our use of additional or alternative third-party software would require us to enter into license agreements with third parties. In addition, integration of our software with new third-party software may require significant work and require substantial investment of our time and resources. Also, any undetected or uncorrected errors or defects in third-party software could prevent the deployment or impair the functionality of our software, present security risks, delay new updates or enhancements to our solutions, result in a failure of our solutions, and injure our reputation. Certain of our operating results and financial metrics may be difficult to predict as a result of seasonality. Although we have not historically experienced significant seasonality with respect to our subscription revenue throughout the year, we have seen seasonality in our sales cycle as a large percentage of our customers make their purchases in the third month of any given quarter. In addition, our fourth quarter has historically been our strongest quarter. We believe that this results in part from the procurement, budgeting, and deployment cycles of many of our customers. We generally expect a relative increase in sales in the second half of each year as budgets of our customers for annual capital purchases are being fully utilized. We may be affected by seasonal trends in the future, particularly as our business matures. Such seasonality may result from a number of factors, including a slowdown in our customers’ procurement process during certain times of the year, both domestically and internationally, and customers choosing to spend remaining budgets shortly before the end of their fiscal years. These effects may become more pronounced as we target larger organizations and their larger budgets for sales of our solutions. Additionally, this seasonality may be reflected to a much lesser extent, and sometimes may not be immediately apparent, in our revenue, due to the fact that we recognize subscription revenue over the term of the applicable 61 subscription agreement. In addition, our ability to record professional services revenue can potentially vary based on the number of billable days in the given quarter, which is impacted by holidays and vacations. To the extent we experience this seasonality, it may cause fluctuations in our operating results and financial metrics and make forecasting our future operating results and financial metrics more difficult. Risks Related to Information Technology, Intellectual Property, and Data Security and Privacy If our security measures are breached or if unauthorized access to customer, employee or other confidential data is otherwise obtained, or if our solutions are perceived as not being secure, we may lose existing customers or fail to attract new customers, our business may be harmed and we may incur significant liabilities. Our solutions involve the storage, transmission and processing of our customers’ proprietary data, including highly confidential financial information regarding their business, and personal or confidential information of our customers' customers or other end users. Additionally, we maintain our own proprietary, confidential and otherwise sensitive information, including employee information. While we have security measures in place to protect customer information and prevent data loss and other security breaches, these measures may be breached as a result of third-party action, including cyberattacks or other intentional misconduct by computer hackers, employee error, malfeasance or otherwise. The risk of a cybersecurity incident occurring has increased as more companies and individuals work remotely, potentially exposing us to new, complex threats. Additionally, due to political uncertainty and military actions such as those associated with the conflicts in Ukraine and Israel, we and our service providers are vulnerable to heightened risks of cybersecurity incidents and security and privacy breaches from or affiliated with nation-state actors. If any unauthorized or inadvertent access to, or a security breach or incident impacting our platform or other systems or networks used in our business occurs, such event could result in the loss, alteration, or unavailability of data, unauthorized access to, or use or disclosure of data, and any such event, or the belief or perception that it has occurred, could result in a loss of business, severe reputational damage adversely affecting customer or investor confidence, regulatory investigations and orders, litigation, indemnity obligations, and damages for contract breach or penalties for violation of applicable laws or regulations. Service providers who store or otherwise process data on our behalf, including third party and public-cloud infrastructure, also face security risks. As we rely more on third-party and public-cloud infrastructure and other third-party service providers, we will become more dependent on third-party security measures to protect against unauthorized access, cyberattacks and the mishandling of customer, employee and other confidential data and we may be required to expend significant time and resources to address any incidents related to the failure of those third-party security measures. Our ability to monitor our third-party service providers' data security is limited, and in any event, attackers may be able to circumvent our third-party service providers' data security measures. There have been and may continue to be significant attacks on certain third-party providers, and we cannot guarantee that our or our third-party providers' systems and networks have not been breached or otherwise compromised, or that they do not contain exploitable defects or bugs that could result in a breach of or disruption to our systems and networks or the systems and networks of third parties that support us and our platform. We may also suffer breaches of, or incidents impacting, our internal systems. Security breaches or incidents impacting our platform or our internal systems could also result in significant costs incurred in order to remediate or otherwise respond to a breach or incident, which may include liability for stolen assets or information and repair of system damage that may have been caused, incentives offered to customers or other business partners in an effort to maintain business relationships after a breach, and other costs, expenses and liabilities. We may be required to or find it appropriate to expend substantial capital and other resources to alleviate problems caused by any actual or perceived security breaches or incidents. Additionally, the SEC and many jurisdictions have enacted or may enact laws and regulations requiring companies to disclose or otherwise provide notifications regarding data security breaches. For example, the SEC recently adopted cybersecurity risk management and disclosure rules, which require the disclosure of information pertaining to cybersecurity incidents and cybersecurity risk management, strategy, and governance. These or other disclosures regarding a security breach or incident could result in negative publicity to us, which may cause our customers to lose confidence in the effectiveness of our data security measures which could impact our operating results. Despite our investments into measures designed to minimize the risk of security breaches, we may experience security incidents or breaches in the future due to elevated cyber threats. If a high profile security breach or incident occurs with respect to us, another Software as a Service (SaaS) provider or other technology company, our current 62 and potential customers may lose trust in the security of our solutions or in the SaaS business model generally, which could adversely impact our ability to retain existing customers or attract new ones. Such a breach or incident, or series of breaches or incidents, could also result in regulatory or contractual security requirements that could make compliance challenging. Even in the absence of any security breach or incident, customer concerns about privacy, security, or data protection may deter them from using our platform for activities that involve personal or other sensitive information. Because the techniques used to obtain unauthorized access or to sabotage systems change frequently, and often are not identified until they are launched against a target, we may be unable to anticipate these techniques or to implement adequate preventative measures. We may also experience security breaches and incidents that may remain undetected for an extended period of time. Periodically, we experience cyber security events including “phishing” attacks targeting our employees, web application and infrastructure attacks and other information technology incidents that are typical for a SaaS company of our size. These threats continue to evolve in sophistication and volume and are difficult to detect and predict due to advances in electronic warfare techniques, new discoveries in the field of cryptography and new and sophisticated methods used by criminals including phishing, social engineering or other illicit acts. There can be no assurance that our defensive measures will prevent cyberattacks or other security breaches or incidents, and any such attacks, breaches or incidents could damage our brand and reputation and negatively impact our business. Because data security is a critical competitive factor in our industry, we make numerous statements in our privacy policy and customer agreements, through our certifications to standards and in our marketing materials, providing assurances about the security of our platform including detailed descriptions of security measures we employ. Should any of these statements be untrue, be perceived to be untrue, or become untrue, even through circumstances beyond our reasonable control, we may face claims of misrepresentation or deceptiveness by the U.S. Federal Trade Commission, state and foreign regulators and private litigants. Our insurance policies covering certain security and privacy damages and claim expenses may not be sufficient to compensate for all potential liability. Although we maintain cyber liability insurance, we cannot be certain that our coverage will be adequate for liabilities actually incurred, or that insurance will continue to be available to us on economically reasonable terms, or at all. In addition, like many similarly situated technology companies, we have a sizable number of research and development and other personnel located outside the United States, including in India and China, which has exposed and could continue to expose us to governmental and regulatory, as well as market and media, scrutiny, regarding the actual or perceived integrity of our platform or data security and privacy features. Any actual or perceived security compromise could reduce customer confidence in the effectiveness of our security measures, negatively affect our ability to attract new customers, and cause existing customers to reduce the use or stop using our solutions, any of which could harm our business and reputation. Privacy and security concerns, laws, and regulations, may adversely affect our business. Governments and agencies worldwide have adopted or may adopt laws and regulations regarding the collection, use, storage, data residency, security, disclosure, transfer across borders and other processing of information obtained from individuals within jurisdictions. These laws and regulations increase the costs and burdens of compliance, including the ability to transfer information from, or a requirement to store in, particular jurisdictions and coul • impact our ability to offer our products and services in certain jurisdictions, • decrease demand for or require us to modify or restrict our product or services, or • impact our customers’ ability and willingness to use, adopt and deploy our solutions globally. Compliance burdens or our inability to comply with such laws, regulations, and other obligations, could lead to reduced overall demand and impair our ability to maintain and grow our customer base and increase our revenue. We may be unable to make changes that are necessary or appropriate to address changes in laws, regulations, or other obligations in a commercially reasonable manner, in a timely fashion, or at all. Additionally, laws and regulations relating to the processing of information can vary significantly based on the jurisdiction. Some regions and countries have or are enacting strict laws and regulations, including the European Union (EU), China (PIPL), Australia, and India, as well as states within the United States, such as California, that 63 may create conflicts, obligations or inconsistent compliance requirements. Despite our efforts to comply with these varying requirements, a regulator or supervisory authority may determine that we have not done so and subject us to fines, potentially costly remediation requirements, and public censure, which could harm our business. For example, the European Union’s General Data Protection Regulation (GDPR) mandates requirements for processing personal data and imposes penalties of up to the greater of €20 million or 4% of worldwide revenue for non-compliance. In June 2021, the European Commission issued replacement standard contractual clauses (2021 SCCs) to govern the transfer of personal data to a country that has not been deemed adequate, such as the United States, that created additional requirements that potentially increase liability for data processors such as us. In addition, in the United States, we may be subject to both federal and state laws. Certain U.S. state laws may be more stringent or broader in scope, or offer greater individual rights, with respect to the protection of personal information than federal, international, or other state laws, and such laws may differ from each other, all of which may complicate compliance efforts. For example, California continues to be a critical state with respect to evolving consumer privacy laws after enacting the California Consumer Privacy Act (CCPA), later amended by the California Privacy Rights Act (the CPRA), which took effect in January 2023. Failure to comply with the CCPA and the CPRA may result in significant civil penalties, injunctive relief, or statutory or actual damages as determined by the CPPA and California Attorney General through its investigative authority. We also are bound by standards, contracts and other obligations relating to processing personal information that are more stringent than applicable laws and regulations. The costs of compliance with, and other burdens imposed by, these laws, regulations, and other obligations are significant. In addition, some companies, particularly larger or global enterprises, often will not contract with vendors that do not meet these rigorous obligations and often seek contract terms to ensure we are financially liable for any breach of these obligations. Accordingly, our or our vendors' failure, or perceived inability, to comply with these obligations may limit the demand, use and adoption of our solutions, lead to regulatory investigations, breach of contract claims, litigation, damage our reputation and brand and lead to significant fines, penalties, or liabilities or slow the pace at which we close sales transactions, any of which could harm our business. In addition, there is no assurance that our privacy and security-related safeguards, including measures we may take to mitigate the risks of using third parties, will protect us from the risks associated with the third-party processing, storage, and transmission of such information. Privacy advocacy groups, the technology industry, and other industries have established or may establish various new, additional, or different self-regulatory standards that may place additional burdens on us. Our customers may require us or we may find it advisable to meet voluntary certifications or adhere to other standards established by them or third parties. Our customers may also expect us to take proactive stances or contractually require us to take certain actions should a request for personal information belonging to customers be received from a government or regulatory agency. If we are unable to maintain such certifications, comply with such standards, or meet such customer requests, it could reduce demand for our solutions and adversely affect our business. Future laws, regulations, standards, and other obligations, actions by governments or other agencies, and changes in the interpretation or inconsistent interpretation of existing laws, regulations, standards, and other obligations could result in increased regulation, increased costs of compliance and penalties for non-compliance, costly changes to Zuora's products or their functionality, and limitations on processing personal information. Any failure or perceived failure by us (or the third parties with whom we have contracted to process such information) to comply with applicable privacy and security laws, policies or related contractual obligations, or any compromise of security that results in unauthorized access, use, or transmission of, personal user information, could result in a variety of claims against us, including litigation, governmental enforcement actions, investigations, and proceedings by data protection authorities, as well as fines, sanctions, loss of export privileges, damage to our reputation, or loss of customer confidence, any of which may have a material adverse effect on our business, operating results, and financial condition. Failure to protect our intellectual property could adversely affect our business. Our success depends in large part on our proprietary technology. We rely on various intellectual property rights, including patents, copyrights, trademarks, and trade secrets, as well as confidentiality provisions and contractual arrangements, to protect our proprietary rights. If we do not protect and enforce our intellectual property rights successfully, our competitive position may suffer, which could adversely impact our operating results. Our pending patent or trademark applications may not be allowed, or competitors may challenge the validity, enforceability or scope of our patents, copyrights, trademarks or the trade secret status of our proprietary information. There can be no assurance that additional patents will be issued or that any patents that are issued will 64 provide significant protection for our intellectual property. There is also no assurance that we will be able to register trademarks that are critical to our business. In addition, our patents, copyrights, trademarks, trade secrets, and other intellectual property rights may not provide us a significant competitive advantage. There is no assurance that the particular forms of intellectual property protection that we seek, including business decisions about when to file patents and when to maintain trade secrets, will be adequate to protect our business. Moreover U.S. patent law, developing jurisprudence regarding U.S. patent law, and possible future changes to U.S. or foreign patent laws and regulations may affect our ability to protect and enforce our intellectual property rights. In addition, the laws of some countries do not provide the same level of protection of our intellectual property as do the laws of the United States. As we expand our international activities, our exposure to unauthorized copying and use of our solutions and proprietary information will likely increase. Despite our precautions, our intellectual property is vulnerable to unauthorized access through employee error or actions, theft, and cybersecurity incidents, and other security breaches. It may be possible for third parties to infringe upon or misappropriate our intellectual property, to copy our solutions, and to use information that we regard as proprietary to create products and services that compete with ours. Effective intellectual property protection may not be available to us in every country in which our solutions are available. For example, some foreign countries have compulsory licensing laws under which a patent owner must grant licenses to third parties. In addition, many countries limit the enforceability of patents against certain third parties, including government agencies or government contractors. In these countries, patents may provide limited or no benefit. We may need to expend additional resources to defend our intellectual property rights domestically or internationally, which could impair our business or adversely affect our domestic or international expansion. Moreover, we may not pursue or file patent applications or apply for registration of copyrights or trademarks in the United States and foreign jurisdictions in which we operate with respect to our potentially patentable inventions, works of authorship, marks and logos for a variety of reasons, including the cost of procuring such rights and the uncertainty involved in obtaining adequate protection from such applications and registrations. If we cannot adequately protect and defend our intellectual property, we may not remain competitive, and our business, operating results, and financial condition may be adversely affected. We enter into confidentiality and invention assignment agreements with our employees and consultants and enter into confidentiality agreements with other parties. We cannot assure you that these agreements will be effective in controlling access to, use of, and distribution of our proprietary information or in effectively securing exclusive ownership of intellectual property developed by our current or former employees and consultants. Further, these agreements may not prevent other parties from independently developing technologies that are substantially equivalent or superior to our solutions. We may need to spend significant resources securing and monitoring our intellectual property rights, and we may or may not be able to detect infringement by third parties. Our competitive position may be harmed if we cannot detect infringement and enforce our intellectual property rights quickly or at all. In some circumstances, we may choose to not pursue enforcement because an infringer has a dominant intellectual property position or for other business reasons. In addition, competitors might avoid infringement by designing around our intellectual property rights or by developing non-infringing competing technologies. Litigation may be necessary in the future to enforce our intellectual property rights and to protect our trade secrets. Litigation brought to protect and enforce our intellectual property rights could be costly, time-consuming, and distracting to management, and could result in the impairment or loss of portions of our intellectual property. Further, our efforts to enforce our intellectual property rights may be met with defenses, counterclaims attacking the scope, validity, and enforceability of our intellectual property rights, or with counterclaims and countersuits asserting infringement by our products and services of third-party intellectual property rights. Our failure to secure, protect, and enforce our intellectual property rights could seriously adversely affect our brand and our business. Additionally, the United States Patent and Trademark Office and various foreign governmental patent agencies require compliance with a number of procedural, documentary, fee payment, and other similar provisions in order to complete the patent or trademark application process and to maintain issued patents or trademarks. There are situations in which noncompliance or non-payment can result in abandonment or lapse of the patent or trademark or associated application, resulting in partial or complete loss of patent or trademark rights in the relevant jurisdiction. If this occurs, it could have a material adverse effect on our business operations and financial condition. 65 Errors, defects, or disruptions in our solutions could diminish demand, harm our financial results, and subject us to liability. Our customers use our products for important aspects of their businesses, and any errors, defects, or disruptions to our solutions, or other performance problems with our solutions could harm our brand and reputation and may damage our customers’ businesses. We are also reliant on third-party software and infrastructure, including the infrastructure of the Internet, to provide our products and services. Any failure of or disruption to this software and infrastructure could also make our solutions unavailable to our customers. Our solutions are constantly changing with new software releases, which may contain undetected errors when first introduced or released. Any errors, defects, disruptions in service, or other performance problems with our solutions could result in negative publicity, loss of or delay in market acceptance of our products, loss of competitive position, delay of payment to us, lower renewal rates, or claims by customers for losses sustained by them. In such an event, we may be required, or may choose, for customer relations or other reasons, to expend additional resources in order to help correct the problem. Accordingly, any errors, defects, or disruptions to our solutions could adversely impact our brand and reputation, revenue, and operating results. In addition, because our products and services are designed to interoperate with a variety of internal and third-party systems and infrastructures, we need to continuously modify and enhance our products and services to keep pace with changes in software technologies. We may not be successful in either developing these modifications and enhancements or resolving interoperability issues in a timely and cost-effective manner. Any failure of our products and services to continue to operate effectively with internal or third-party infrastructures and technologies could reduce the demand for our products and services, resulting in dissatisfaction of our customers, and may materially and adversely affect our business. Any disruption of service at our cloud providers, including Amazon Web Services and Microsoft's Azure cloud service, could interrupt or delay our ability to deliver our services to our customers, which could harm our business and our financial results. We currently host our solutions, serve our customers, and support our operations using Amazon Web Services (AWS), a provider of cloud infrastructure services, and have begun enabling new features and capabilities for our solutions using Microsoft's Azure cloud service. We also leverage AWS in various geographic regions for our disaster recovery plans. We do not have control over the operations of the facilities of AWS or Azure. These facilities are vulnerable to damage or interruption from earthquakes, hurricanes, floods, fires, cyber security attacks, terrorist attacks, power losses, telecommunications failures, and similar events, including events due to the effects of climate change. The occurrence of a natural disaster or an act of terrorism, a decision to close the facilities without adequate notice, or other unanticipated problems could result in lengthy interruptions in our solutions. In addition, breaks in the supply chain due to transportation issues or other factors could potentially disrupt the delivery of hardware needed to maintain these third-party systems or to run our business. The facilities also could be subject to break-ins, computer viruses, sabotage, intentional acts of vandalism, and other misconduct. The continuing and uninterrupted performance of our solutions are critical to our success. Because our products and services are used by our customers for billing and financial accounting purposes, it is critical that our solutions be accessible without interruption or degradation of performance, and we typically provide our customers with service level commitments with respect to service uptime. Customers may become dissatisfied by any system failure that interrupts our ability to provide our solutions to them. Outages could lead to the triggering of our service level agreements and the issuance of credits to our customers, in which case, we may not be fully indemnified for such losses by AWS or Azure. We may not be able to easily switch our public cloud providers, including AWS and Azure, to another cloud provider if there are disruptions or interference with our use of either facility. Sustained or repeated system failures would reduce the attractiveness of our solutions to customers and result in contract terminations, thereby reducing revenue. Moreover, negative publicity arising from these types of disruptions could damage our reputation and may adversely impact use of our solutions. We may not carry sufficient business interruption insurance to compensate us for losses that may occur as a result of any events that cause interruptions in our service. While our agreement with AWS expires in September 2024, AWS and our other cloud providers do not have an obligation to renew their agreements with us on commercially reasonable terms, or at all. If we are unable to renew our agreements with these providers on commercially reasonable terms, if our agreements with our providers are prematurely terminated, or if in the future we add additional public cloud providers, we may experience additional costs or service downtime in connection with the transfer to, or the addition of, new public cloud providers. If these 66 providers were to increase the cost of their services, we may have to increase the price of our solutions, and our operating results may be adversely impacted. We are vulnerable to intellectual property infringement claims brought against us by others. There has been considerable activity in our industry to develop and enforce intellectual property rights. Successful intellectual property infringement claims against us or certain third parties, such as our customers, resellers, or strategic partners, could result in monetary liability or a material disruption in the conduct of our business. We cannot be certain that our products and services, content, and brand names do not or will not infringe valid patents, trademarks, copyrights, or other intellectual property rights held by third parties. We may be subject to legal proceedings and claims from time to time relating to the intellectual property of others in the ordinary course of our business. Any intellectual property litigation to which we might become a party, or for which we are required to provide indemnification, may require us to cease selling or using solutions that incorporate the intellectual property that we allegedly infringe, make substantial payments for legal fees, settlement payments, licensing costs, or other costs or damages, and obtaining a license, may not be available on reasonable terms or at all, thereby hindering our ability to sell or use the relevant technology, or require redesign of the allegedly infringing solutions to avoid infringement, which could be costly, time-consuming, or impossible. Any claims or litigation, regardless of merit, could cause us to incur significant expenses and, if successfully asserted against us, could require that we pay substantial damages or ongoing royalty payments, prevent us from offering our products and services, or require that we comply with other unfavorable terms. We do not have a significant patent portfolio, which could prevent us from deterring patent infringement claims through our own patent portfolio, and our competitors and others may now and in the future have significantly larger and more mature patent portfolios than we have. We may also be obligated to indemnify our customers or strategic partners in connection with such infringement claims, or to obtain licenses from third parties or modify our solutions, and each such obligation could further exhaust our resources. Some of our intellectual property infringement indemnification obligations are contractually capped at a very high amount or not capped at all. Even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the time and attention of our management and other employees, and adversely affect our business and operating results. We expect that the occurrence of infringement claims is likely to grow as the market for subscription management products and services grows. Accordingly, our exposure to damages resulting from infringement claims could increase and this could further exhaust our financial and management resources. Our solutions contain open source software components, and failure to comply with the terms of the underlying licenses could restrict our ability to sell our solutions. Our solutions incorporate certain open source software. An open source license typically permits the use, modification, and distribution of software in source code form subject to certain conditions. Some open source licenses contain conditions that any person who distributes or uses a modification or derivative work of software that was subject to an open source license make the modified version subject to the same open source license. Distributing or using software that is subject to this kind of open source license can lead to a requirement that certain aspects of our solutions be distributed or made available in source code form. Although we do not believe that we have used open source software in a manner that might condition its use on our distribution of any portion of our solutions in source code form, the interpretation of open source licenses is legally complex and, despite our efforts, it is possible that we may be liable for copyright infringement, breach of contract, or other claims if our use of open source software is adjudged to not comply with the applicable open source licenses. Moreover, we cannot assure you that our processes for controlling our use of open source software in our solutions will be effective. If we have not complied with the terms of an applicable open source software license, we may need to seek licenses from third parties to continue offering our solutions on terms that are not economically feasible, to re-engineer our solutions to remove or replace the open source software, to discontinue the sale of our solutions if re-engineering could not be accomplished on a timely basis, to pay monetary damages, or to make available the source code for aspects of our proprietary technology, any of which could adversely affect our business, operating results, and financial condition. In addition to risks related to license requirements, use of open source software can involve greater risks than those associated with use of third-party commercial software, as open source licensors generally do not provide warranties, assurances of title, performance, non-infringement, or controls on the origin of the software. There is 67 typically no support available for open source software, and we cannot assure you that the authors of such open source software will not abandon further development and maintenance. Open source software may contain security vulnerabilities, and we may be subject to additional security risk by using open source software. Many of the risks associated with the use of open source software, such as the lack of warranties or assurances of title or performance, cannot be eliminated, and could, if not properly addressed, negatively affect our business. We have established processes to help alleviate these risks, including a review process for screening requests from our development organizations for the use of open source software, but we cannot be sure that all open source software is identified or submitted for approval prior to use in our solutions. Risks Related to Legal, Regulatory, Accounting, and Tax Matters Adverse litigation judgments or settlements could expose us to significant monetary damages or limit our ability to operate our business. From time to time, we face litigation or claims arising in or outside the ordinary course of business, which may include class actions, derivative actions, private actions, collective actions, investigations, and various other legal proceedings by stockholders, customers, employees, suppliers, competitors, government agencies, or others. The results of any such litigation, investigations, and other legal proceedings are inherently unpredictable and expensive. Any claims against us, whether meritorious or not, could be time consuming, result in costly litigation, damage our reputation, require significant amounts of management time, and divert significant resources. If legal proceedings were to be determined adversely to us, or we were to enter into a settlement arrangement, we could be exposed to significant monetary damages or limits on our ability to operate our business, which could have a material adverse effect on our business, financial condition, and operating results. For example, in connection with the settlement of certain shareholder litigation, in the quarter ended October 31, 2023, we made a payment of $68.3 million (net of insurance proceeds). For more information on the shareholder litigation, see Note 13. Commitments and Contingencies of the Notes to Condensed Consolidated Financial Statements. If we are not able to satisfy data protection, security, privacy, and other government- and industry-specific requirements, our growth could be harmed. We are subject to data protection, security, privacy, and other government- and industry-specific requirements, including those that require us to notify individuals of data security and privacy incidents involving certain types of personal data. Security and privacy compromises experienced by us or our service providers may lead to public disclosures, which could harm our reputation, erode customer confidence in the effectiveness of our security and privacy measures, negatively impact our ability to attract new customers, cause existing customers to elect not to renew their subscriptions with us, or negatively impact our employee relationships or impair our ability to attract new employees. In addition, some of the industries we serve have industry-specific requirements relating to compliance with certain security, privacy and regulatory standards, such as those required by the Health Insurance Portability and Accountability Act. We also maintain compliance with the Payment Card Industry Data Security Standard, which is critical to the financial services and insurance industries. As we expand and sell into new verticals and regions, we will likely need to comply with these and other requirements to compete effectively. If we cannot comply or if we incur a violation in one or more of these requirements, our growth could be adversely impacted, and we could incur significant liability. Because we typically recognize subscription revenue over the term of the applicable agreement, a lack of subscription renewals or new subscription agreements may not be reflected immediately in our operating results and may be difficult to discern. We generally recognize subscription revenue from customers ratably over the terms of their contracts, which typically vary between one and three years. As a result, most of the subscription revenue we report in each quarter is derived from the recognition of unearned revenue relating to subscriptions entered into during previous quarters. Consequently, a decline in new or renewed subscriptions in any particular quarter would likely have a minor impact on our revenue results for that quarter, but could negatively affect our revenue in future quarters. Accordingly, the effect of significant downturns in sales and market acceptance of our solutions, and potential changes in our pricing policies or rate of renewals, may not be fully reflected in our operating results until future periods. Moreover, our subscription model makes it difficult for us to rapidly increase our revenue through additional sales in any period, as revenue from new customers must be recognized over the applicable subscription term. 68 We typically provide service level commitments under our customer contracts. If we fail to meet these contractual commitments, we could be obligated to provide credits or refunds for prepaid amounts related to unused subscription services or face contract terminations, which could adversely affect our operating results. Our customer contracts typically provide for service level commitments, which relate to service uptime, response times, and escalation procedures. If we are unable to meet the stated service level commitments or suffer extended periods of unavailability for our solutions, we may be contractually obligated to provide these customers with service credits, refunds for prepaid amounts related to unused subscription services, or other remedies, or we could face contract terminations. In addition, we could face legal claims for breach of contract, product liability, tort, or breach of warranty. Although we have contractual protections, such as warranty disclaimers and limitation of liability provisions, in our customer agreements, they may not fully or effectively protect us from claims by customers, commercial relationships, or other third parties. We may not be fully indemnified by our vendors for service interruptions beyond our control, and any insurance coverage we may have may not adequately cover all claims asserted against us, or may cover only a portion of such claims. In addition, even claims that ultimately are unsuccessful could result in our expenditure of funds in litigation and divert management’s time and other resources. Thus, our revenue could be harmed if we fail to meet our service level commitments under our agreements with our customers, including, but not limited to, maintenance response times and service outages. Typically, we have not been required to provide customers with service credits that have been material to our operating results, but we cannot assure you that we will not incur material costs associated with providing service credits to our customers in the future. Additionally, any failure to meet our service level commitments could adversely impact our reputation, business, operating results, and financial condition. Our customers may fail to pay us in accordance with the terms of their agreements, necessitating action by us to compel payment. We typically enter into non-cancelable agreements with our customers with a term of one to three years. If customers fail to pay us under the terms of our agreements, we may be adversely affected both from the inability to collect amounts due and the cost of enforcing the terms of our contracts, including litigation. The risk of such negative effects increases with the term length of our customer arrangements. Furthermore, some of our customers may seek bankruptcy protection or other similar relief and fail to pay amounts due to us, or pay those amounts more slowly, either of which could adversely affect our operating results, financial position, and cash flow. Although we have processes in place that are designed to monitor and mitigate these risks, we cannot guarantee these programs will be effective. If we are unable to adequately control these risks, our business, operating results and financial condition could be harmed. Our ability to use our net operating losses to offset future taxable income may be subject to certain limitations which could subject our business to increased tax liability. Our ability to use our net operating losses (NOLs) to offset future taxable income may be subject to certain limitations which could subject our business to higher tax liability. Utilization of the net operating loss may be subject to an annual limitation due to the "ownership change" limitations provided by Section 382 and 383 of the Internal Revenue Code of 1986, as amended, and other similar state provisions. Additionally, NOLs arising in tax years beginning after December 31, 2017 are subject to a 20-year carryover limitation and may expire if unused within that period. There is also a risk that due to legislative changes, such as suspensions on the use of NOLs, or other unforeseen reasons, our existing NOLs could expire or otherwise be unavailable to offset future income tax liabilities. In addition, under the Tax Cuts and Jobs Act of 2017, as modified by the Coronavirus Aid, Relief, and Economic Security Act, the amount of NOLs that we are permitted to deduct in any taxable year is limited to 80% of our taxable income in such year, where taxable income is determined without regard to the NOL deduction itself. As such, we may not be able to realize a tax benefit from the use of our NOLs, whether or not we attain profitability. We may need to raise additional capital required to grow our business, and we may not be able to raise capital on terms acceptable to us or at all. In order to support our growth and respond to business challenges, such as developing new features or enhancements to our solutions to stay competitive, acquiring new technologies, and improving our infrastructure, we have made significant financial investments in our business, and we intend to continue to make such investments. As a result, to provide the funds required for these investments and other business endeavors, we may need to engage in equity or debt financings. For example, we have issued $400.0 million in senior unsecured notes to Silver 69 Lake (2029 Notes), including $150.0 million that were issued in the quarter ended October 31, 2023. See Note 9. Debt of the Notes to Condensed Consolidated Financial Statements for more information about the 2029 Notes. If we raise additional funds through equity or convertible debt issuances, our existing stockholders may suffer significant dilution, and these securities could have rights, preferences, and privileges that are superior to that of holders of our common stock. If we obtain additional funds through debt financing, we may not be able to obtain such financing on terms favorable to us. Such terms may involve additional restrictive covenants making it difficult to engage in capital raising activities and pursue business opportunities, including potential acquisitions. Future volatility in the trading price of our common stock may reduce our ability to access capital on favorable terms or at all. In addition, a recession, depression or other sustained adverse market event resulting from deteriorating macroeconomic factors could materially and adversely affect our business and the value of our common stock. If we are unable to obtain adequate financing or financing on terms satisfactory to us when we require it, our ability to continue to support our business growth and to respond to business challenges could be significantly impaired and our business may be adversely affected, requiring us to delay, reduce, or eliminate some or all of our operations. Failure to comply with anti-corruption and anti-money laundering laws, including the FCPA and similar laws associated with our activities outside of the United States, could subject us to penalties and other adverse consequences. We are subject to the FCPA, the U.S. domestic bribery statute contained in 18 U.S.C. § 201, the U.S. Travel Act, the USA PATRIOT Act, the UK Bribery Act, and possibly other anti-bribery and anti-money laundering laws in countries in which we conduct activities. We face significant risks if we fail to comply with the FCPA and other anti-corruption laws that prohibit companies and their employees and third-party intermediaries from promising, authorizing, offering, or providing, directly or indirectly, improper payments or benefits to foreign government officials, political parties, and private-sector recipients for the purpose of obtaining or retaining business, directing business to any person, or securing any advantage. In many foreign countries, particularly in countries with developing economies, it may be a local custom that businesses engage in practices that are prohibited by the FCPA or other applicable laws and regulations. In addition, we use various third parties to sell our solutions and conduct our business abroad. We or our third-party intermediaries may have direct or indirect interactions with officials and employees of government agencies or state-owned or affiliated entities and we can be held liable for the corrupt or other illegal activities of these third-party intermediaries, our employees, representatives, contractors, partners, and agents, even if we do not explicitly authorize such activities. We have implemented an anti-corruption compliance program but cannot assure you that all of our employees and agents, as well as those companies to which we outsource certain of our business operations, will not take actions in violation of our policies and applicable law, for which we may be ultimately held responsible. Any violation of the FCPA, other applicable anti-corruption laws, and anti-money laundering laws could result in whistleblower complaints, adverse media coverage, investigations, loss of export privileges, or severe criminal or civil sanctions, which could have a materially adverse effect on our reputation, business, operating results, and prospects. In addition, responding to any enforcement action may result in a significant diversion of management’s attention and resources, significant defense costs, and other professional fees. We are required to comply with governmental export control laws and regulations. Our failure to comply with these laws and regulations could have an adverse effect on our business and operating results. Our solutions are subject to governmental, including United States and European Union, export control laws and import regulations, and as a U.S. company we are covered by the U.S. sanctions regulations. U.S. export control and economic sanctions laws and regulations prohibit the shipment of certain products and services to U.S. embargoed or sanctioned countries, governments, entities and persons, and complying with export control and sanctions regulations for a particular sale may be time-consuming and may result in the delay or loss of sales opportunities. While we take precautions to prevent our solutions from being exported in violation of these laws or engaging in any other activities that are subject to these regulations, if we were to fail to comply with U.S. export laws, U.S. Customs regulations and import regulations, U.S. economic sanctions, and other countries’ import and export laws, we could be subject to substantial civil and criminal penalties, including fines for our company, incarceration for responsible employees, reputational harm, and/or the possible loss of export or import privileges which could impact our ability to provide our solutions to customers. We incorporate encryption technology into certain of our products and certain encryption products may be exported outside of the United States only by a license or a license exception. In addition, various countries regulate 70 the import of certain encryption technology, including import permitting and licensing requirements, and have enacted laws that could limit our ability to distribute our products or could limit our customers’ ability to deploy our products in those countries. Although we take precautions to prevent our products from being provided in violation of such laws, we cannot assure you that inadvertent violations of such laws have not occurred or will not occur in connection with the distribution of our products despite the precautions we take. Governmental regulation of encryption technology and regulation of imports or exports, or our failure to obtain required import or export approval for our products, could harm our international sales and adversely affect our operating results. Further, if our partners, including suppliers, fail to obtain required import, export, or re-export licenses or permits, we may also be impacted by becoming the subject of government investigations or penalties and therefore incur reputational harm. Changes in our solutions or changes in export and import regulations may create delays in the introduction of our solutions in international markets, prevent our customers with international operations from deploying our solutions globally or, in some cases, prevent the export or import of our solutions to certain countries, governments, or persons altogether. Any change in export or import laws or regulations, economic sanctions, or related legislation, shift in the enforcement or scope of existing laws and regulations, or change in the countries, governments, persons, or technologies targeted by such laws and regulations, could result in decreased use of our solutions by, or in our decreased ability to export or sell our solutions to, existing or potential customers such as customers with international operations or customers who are added to the restricted entities list published by the U.S. Office of Foreign Assets Control (OFAC). Any decreased use of our solutions or limitation on our ability to export or sell our solutions would likely harm our business, financial condition, and operating results. The applicability of sales, use and other tax laws or regulations in the U.S. and internationally on our business is uncertain. Adverse tax laws or regulations could be enacted or existing laws could be applied to us or our customers, which could subject us to additional tax liability and related interest and penalties, increase the costs of our services and adversely impact our business. The application of federal, state, local, and non-U.S. tax laws to services provided electronically is evolving. New income, sales, use, value-added, or other direct or indirect tax laws, statutes, rules, regulations, or ordinances could be enacted at any time (possibly with retroactive effect), and could be applied solely or disproportionately to services provided over the Internet or could otherwise materially affect our financial position and results of operations. Many countries in the European Union, as well as a number of other countries and organizations such as the Organization for Economic Cooperation and Development, have proposed or recommended changes to existing tax laws or have enacted new laws that could impact our tax obligations. As we expand the scale of our international business activities, any changes in the U.S. or foreign taxation of such activities may increase our worldwide effective tax rate and harm our business, results of operations, and financial condition. In addition, state, local, and foreign tax jurisdictions have differing rules and regulations governing sales, use, value-added, and other taxes, and these rules and regulations can be complex and are subject to varying interpretations that may change over time. Existing tax laws, statutes, rules, regulations, or ordinances could be interpreted, changed, modified, or applied adversely to us (possibly with retroactive effect), which could require us or our customers to pay additional tax amounts on prior sales and going forward, as well as require us or our customers to pay fines or penalties and interest for past amounts. Although our customer contracts typically provide that our customers must pay all applicable sales and similar taxes, our customers may be reluctant to pay back taxes and associated interest or penalties, or we may determine that it would not be commercially feasible to seek reimbursement. If we are required to collect and pay back taxes and associated interest and penalties, or we are unsuccessful in collecting such amounts from our customers, we could incur potentially substantial unplanned expenses, thereby adversely impacting our operating results and cash flows. Imposition of such taxes on our services going forward could also adversely affect our sales activity and have a negative impact on our operating results and cash flows. Our reported financial results may be adversely affected by changes in accounting principles generally accepted in the United States. Generally Accepted Accounting Principles (GAAP) is subject to interpretation by the Financial Accounting Standards Board (FASB), the SEC, and various bodies formed to promulgate and interpret appropriate accounting principles. A change in these principles or interpretations could have a significant effect on our reported financial results, and could affect the reporting of transactions completed before the announcement of a change. Any difficulties in implementing these pronouncements, including those described in Note 2. Summary of Significant Accounting Policies and Recent Accounting Pronouncements of the Notes to Condensed Consolidated Financial 71 Statements , could cause us to fail to meet our financial reporting obligations, which could result in regulatory discipline and harm investors' confidence in us. Risks Related to Ownership of Our Class A Common Stock The stock price of our Class A common stock has been and may continue to be volatile, and you could lose all or part of your investment. The market price of our Class A common stock since our initial public offering in 2018 has been and may continue to be volatile. In addition to factors discussed in this Form 10-Q, the market price of our Class A common stock may fluctuate significantly in response to numerous factors, many of which are beyond our control, includin • overall performance of the equity markets; • actual or anticipated fluctuations in our revenue and other operating results; • changes in the financial projections we may provide to the public or our failure to meet these projections; • failure of securities analysts to initiate or maintain coverage of us, changes in financial estimates by any securities analysts who follow our company, or our failure to meet these estimates or the expectations of investors; • recruitment or departure of key personnel; • the economy as a whole and market conditions in our industry; • negative publicity related to the real or perceived quality of our solutions, as well as the failure to timely launch new products and services that gain market acceptance; • growth of the Subscription Economy; • rumors and market speculation involving us or other companies in our industry; • announcements by us or our competitors of new products, commercial relationships, or significant technical innovations; • acquisitions, strategic partnerships, joint ventures, or capital commitments; • issuance of shares of our common stock, including shares issued by us in an acquisition or upon conversion or exercise of some or all of our outstanding 2029 Notes and Warrants; • new laws or regulations or new interpretations of existing laws or regulations applicable to our business; • lawsuits threatened or filed against us, litigation involving our industry, or both; • developments or disputes concerning our or other parties’ products, services, or intellectual property rights; • the inclusion of our Class A common stock on stock market indexes, including the impact of rules adopted by certain index providers, such as S&P Dow Jones Indices and FTSE Russell, that limit or preclude inclusion of companies with multi-class capital structures; • changes in accounting standards, policies, guidelines, interpretations, or principles; • other events or factors, including those resulting from geopolitical developments such as war, incidents of terrorism, or responses to these events, including the ongoing conflicts in Ukraine and Israel; • the impact of catastrophic events such as natural disasters or pandemics on the global macroeconomy, our operating results and enterprise technology spending; • sales of shares of our Class A common stock by us or our stockholders; • inflation; • fluctuations in interest rates; and • disruptions to the U.S. or international banking system. 72 In addition, the stock markets have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many companies, particularly during the current period of macroeconomic uncertainty, including rising inflation, increasing interest rates and fluctuations in international currency rates, bank failures, debt ceiling negotiations, potential government shutdowns, as well as the impacts of geopolitical developments. Stock prices of many companies, and technology companies in particular, have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. These economic, political, regulatory and market conditions have and may continue to negatively impact the market price of our common stock. Volatility in our stock price also affects the value of our equity compensation, which affects our ability to recruit and retain employees. If we fail to meet expectations related to future growth, profitability, or other market expectations, our stock price may decline further, which could have a material adverse effect on investor confidence and employee retention. In addition, some companies that have experienced volatility in the market price of their securities have been subject to shareholder litigation. We have been subject to shareholder litigation, which is described in Note 13. Commitments and Contingencies of the Notes to Condensed Consolidated Financial Statements . Future shareholder litigation could subject us to substantial costs, divert resources and the attention of management from our business, and adversely affect our business. The market price of our Class A common stock could decline as a result of a substantial number of shares of our Class A common stock being issued or sold, which may make it more difficult for you to sell your Class A common stock at a time and price that you deem appropriate. As of November 30, 2023, a total of 135.0 million shares of Class A common stock and 8.1 million shares of Class B common stock were outstanding. Issuances of a substantial number of shares of our Class A common stock, including as a result of the exercise or conversion into Class A common stock of outstanding convertible notes, warrants, equity awards, shares of Class B common stock or other securities, could result in significant dilution to our existing stockholders and cause the market price of our Class A common stock to decline. From time to time, we may issue shares of common stock or securities convertible into shares of common stock in connection with a financing, an acquisition, investments, or otherwise. For example, as described in Note 9. Debt of the Notes to Consolidated Financial Statements, we have issued to Silver Lake convertible notes in the aggregate principal amount of $400.0 million, including $150.0 million that were issued during the quarter ended October 31, 2023, as well as warrants to purchase up to 7.5 million shares of Class A common stock. In addition, under certain circumstances, the number of shares issuable upon conversion of the convertible notes or exercise of the Warrants may be subject to increase, as described in Note 9. Debt and Note 17. Warrants to Purchase Shares of Common Stock of the Notes to Condensed Consolidated Financial Statements . The conversion of these convertible notes or exercise of these Warrants could result in a substantial number of shares of our Class A common stock being issued. In addition, we grant equity awards to employees, directors, and consultants under our 2018 Equity Incentive Plan on an ongoing basis and our employees have the right to purchase shares of our Class A common stock semi-annually under our 2018 Employee Stock Purchase Plan. As of October 31, 2023, there were a total of 21.8 million shares of Class A common stock subject to outstanding options and restricted stock units (RSUs), including performance stock units (PSUs). Subject to vesting and other applicable requirements, the shares issued upon the exercise of such options or settlement of such RSUs will be available for resale in the open market. Moreover, the market price of our Class A common stock could decline as a result of sales of a large number of shares of our Class A common stock in the market over a short period of time, such as sales by our directors, executive officers, or significant stockholders, sales by Zuora for employee tax withholding purposes upon vesting of RSUs or PSUs, and sales by employees during limited open trading windows. We also have granted and may grant from time to time certain registration rights that, subject to certain conditions, require us to file registration statements for the public resale of certain securities or to include such securities in registration statements that we may file on behalf of our company or other stockholders. If securities or industry analysts do not publish research, or publish inaccurate or unfavorable research, about our business, the price of our Class A common stock and trading volume could decline. The trading market for our Class A common stock depends in part on the research and reports that securities or industry analysts publish about us or our business. If few securities analysts commence coverage of us, or if industry analysts cease coverage of us, the trading price for our Class A common stock could be negatively affected. If one or more of the analysts who cover us downgrade our Class A common stock or publish inaccurate or unfavorable research about our business, the price of our Class A common stock would likely decline. If one or more 73 of these analysts cease coverage of us or fail to publish reports on us regularly, demand for our Class A common stock could decrease, which might cause our Class A common stock price and trading volume to decline. Even if our stock is actively covered by analysts, we do not have any control over the analysts or the measures that analysts or investors may rely upon to forecast our future results. For example, in order to assess our business activity in a given period, analysts and investors may look at the combination of revenue and changes in deferred revenue in a given period (sometimes referred to as “billings”). Over-reliance on billings or similar measures may result in analyst or investor forecasts that differ significantly from our own for a variety of reasons, includin • a relatively large number of transactions occur at the end of the quarter. Invoicing of those transactions may or may not occur before the end of the quarter based on a number of factors including receipt of information from the customer, volume of transactions, and holidays. A shift of a few days has little economic impact on our business, but will shift deferred revenue from one period into the next; • a shift in billing frequency (i.e., from monthly to quarterly or from quarterly to annually), which may distort trends; • subscriptions that have deferred start dates; and • services that are invoiced upon delivery. In addition, the revenue recognition disclosure obligations under Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers (Topic 606) are prepared on the basis of estimates that can change over time and on the basis of events over which we have no control. It is possible that analysts and investors may misinterpret our disclosure or that our methods for estimating this disclosure may differ significantly from others, which could lead to inaccurate or unfavorable forecasts by analysts and investors. The dual class structure of our common stock has the effect of concentrating voting control with holders of our Class B common stock, including our CEO, which limits or precludes your ability to influence corporate matters, including the election of directors and the approval of any change of control transaction. Our common stock consists of two classes, including our Class B common stock, which has ten votes per share, and our Class A common stock, which has one vote per share. As of October 31, 2023, our Class B common stock holds approximately 38% of the total voting power of our common stock, with our CEO and his affiliates holding substantially all of our Class B common stock. As a result, the holders of our Class B common stock, including our CEO, could substantially influence all matters submitted to our stockholders for approval until the earlier of (i) the date specified by a vote of the holders of 66 2/3% of the outstanding shares of Class B common stock, (ii) April 16, 2028, and (iii) the date the shares of Class B common stock cease to represent at least 5% of all outstanding shares of our common stock (such date referred to as the "Class B expiration"). Until the Class B expiration, the concentrated influence held by our Class B common stock limits or precludes your ability to influence corporate matters, including the election of directors, amendments of our organizational documents, and any merger, consolidation, sale of all or substantially all of our assets, or other major corporate transaction requiring stockholder approval. In addition, this may prevent or discourage unsolicited acquisition proposals or offers for our capital stock that you may feel are in your best interest as one of our stockholders. Future transfers by holders of Class B common stock will generally result in those shares converting to Class A common stock, subject to limited exceptions, such as certain permitted transfers effected for estate planning purposes. The conversion of Class B common stock to Class A common stock will have the effect, over time, of increasing the relative voting power of those holders of Class B common stock who retain their shares in the long term. The dual class structure of our common stock may adversely affect the trading market for our Class A common stock. Stock index providers, such as FTSE Russell, exclude or limit the eligibility of public companies with multiple classes of shares of common stock for certain indices. In addition, several shareholder advisory firms have announced their opposition to the use of multiple class structures. As a result, the dual class structure of our common stock may prevent the inclusion of our Class A common stock in such indices and may cause shareholder advisory firms to publish negative commentary about our corporate governance practices or otherwise seek to 74 cause us to change our capital structure. Any such exclusion from indices could result in a less active trading market for our Class A common stock. Any actions or publications by shareholder advisory firms critical of our corporate governance practices or capital structure could also adversely affect the value of our Class A common stock. We do not intend to pay dividends for the foreseeable future. We have never declared or paid any cash dividends on our common stock and do not intend to pay any cash dividends in the foreseeable future. Additionally, our ability to pay dividends on our common stock is limited by restrictions under the terms of our credit facility with Silicon Valley Bank, a division of First-Citizens Bank & Trust. We anticipate that for the foreseeable future we will retain all of our future earnings for use in the development of our business and for general corporate purposes. Any determination to pay dividends in the future will be at the discretion of our Board of Directors. Accordingly, investors must rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize any future gains on their investments. Provisions in our charter documents and under Delaware law could make an acquisition of our company more difficult, limit attempts by our stockholders to replace or remove our current management, limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees, and limit the market price of our Class A common stock. Provisions in our restated certificate of incorporation and amended and restated bylaws may have the effect of delaying or preventing a change of control or changes in our management. Our restated certificate of incorporation and amended and restated bylaws include provisions tha • provide that our Board of Directors will be classified into three classes of directors with staggered three-year terms; • permit the Board of Directors to establish the number of directors and fill any vacancies and newly-created directorships; • require supermajority voting to amend some provisions in our restated certificate of incorporation and amended and restated bylaws; • authorize the issuance of “blank check” preferred stock that our Board of Directors could use to implement a stockholder rights plan; • provide that only the chairman of our Board of Directors, our chief executive officer, lead independent director, or a majority of our Board of Directors will be authorized to call a special meeting of stockholders; • provide for a dual class common stock structure in which holders of our Class B common stock may have the ability to control the outcome of matters requiring stockholder approval, even if they own significantly less than a majority of the outstanding shares of our common stock, including the election of directors and significant corporate transactions, such as a merger or other sale of our company or its assets; • prohibit stockholder action by written consent, which requires all stockholder actions to be taken at a meeting of our stockholders; • provide that the Board of Directors is expressly authorized to make, alter, or repeal our bylaws; and • establish advance notice requirements for nominations for election to our Board of Directors or for proposing matters that can be acted upon by stockholders at annual stockholder meetings. In addition, our restated certificate of incorporation provides that, to the fullest extent permitted by law, the Court of Chancery of the State of Delaware is the exclusive forum any derivative action or proceeding brought on our behalf; any action asserting a breach of fiduciary duty; any action asserting a claim against us arising pursuant to the Delaware General Corporation Law, or DGCL, our restated certificate of incorporation, or our amended and restated bylaws; or any action asserting a claim against us that is governed by the internal affairs doctrine. This exclusive forum provision does not apply to suits brought to enforce a duty or liability created by the Exchange Act. It would apply, however, to a suit that falls within one or more of the categories enumerated in the exclusive forum provision. 75 Section 22 of the Securities Act of 1933, as amended (Securities Act), creates concurrent jurisdiction for federal and state courts over all claims brought to enforce any duty or liability created by the Securities Act or the rules and regulations thereunder. Our bylaws provide that the federal district courts of the United States of America will, to the fullest extent permitted by law, be the exclusive forum for resolving any complaint asserting a cause of action arising under the Securities Act (Federal Forum Provision). Our decision to adopt a Federal Forum Provision followed a decision by the Supreme Court of the State of Delaware holding that such provisions are facially valid under Delaware law. While there can be no assurance that federal or state courts will follow the holding of the Delaware Supreme Court or determine that the Federal Forum Provision should be enforced in a particular case, application of the Federal Forum Provision means that suits brought by our stockholders to enforce any duty or liability created by the Securities Act must be brought in federal court and cannot be brought in state court. Section 27 of the Exchange Act creates exclusive federal jurisdiction over all claims brought to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder. In addition, neither the exclusive forum provision nor the Federal Forum Provision applies to suits brought to enforce any duty or liability created by the Exchange Act. Accordingly, actions by our stockholders to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder must be brought in federal court. Our stockholders will not be deemed to have waived our compliance with the federal securities laws and the regulations promulgated thereunder. Any person or entity purchasing or otherwise acquiring or holding any interest in any of our securities shall be deemed to have notice of and consented to our exclusive forum provisions, including the Federal Forum Provision. These provisions may limit a stockholders’ ability to bring a claim in a judicial forum of their choosing for disputes with us or our directors, officers, or other employees, which may discourage lawsuits against us and our directors, officers, and other employees. Moreover, Section 203 of the DGCL may discourage, delay, or prevent a change of control of our company. Section 203 imposes certain restrictions on mergers, business combinations, and other transactions between us and holders of 15% or more of our common stock. General Risk Factors Political developments, economic uncertainty or downturns could adversely affect our business and operating results. Political developments impacting government spending and international trade, including future government shutdowns in the United States, debt ceiling negotiations, potential government shutdowns, armed conflict such as the conflicts in Ukraine and Israel, trade disputes and tariffs, including the U.S.’s ongoing trade disputes with China and other countries, inflation, and rising interest rates, may negatively impact markets and cause weaker macroeconomic conditions. The continuing effect of any or all of these political or other uncertainties could adversely impact demand for our products, harm our operations and weaken our financial results. In addition, in recent years, the United States and other significant markets have experienced cyclical downturns and worldwide economic conditions remain uncertain. Economic uncertainty and associated macroeconomic conditions, such as a recession or rising inflation rates or economic slowdown in the United States or internationally, including due to the ongoing conflicts in Ukraine and Israel, make it extremely difficult for our customers and us to accurately forecast and plan future business activities, and could cause our customers to slow spending on our solutions, which could delay and lengthen sales cycles. Furthermore, during uncertain economic times our customers may face issues gaining timely access to sufficient credit, which could result in an impairment of their ability to make timely payments to us. If that were to occur, we may be required to increase our allowance for credit losses and our results could be negatively impacted. We have customers in a variety of different industries. A significant downturn in the economic activity attributable to any particular industry may cause organizations to react by reducing their capital and operating expenditures in general or by specifically reducing their spending on information technology. In addition, our customers may delay or cancel information technology projects or seek to lower their costs by renegotiating vendor contracts. To the extent purchases of our solutions are perceived by customers and potential customers to be discretionary, our revenue may be disproportionately affected by delays or reductions in general information technology spending. Also, customers may choose to develop in-house software or modify their legacy business 76 software as an alternative to using our solutions. Moreover, competitors may respond to challenging market conditions by lowering prices and attempting to lure away our customers. We cannot predict the timing, strength, or duration of any economic slowdown or any subsequent recovery generally, or any industry in particular. If the conditions in the general economy and the markets in which we operate worsen from present levels, our business, financial condition, and operating results could be materially adversely affected. Moreover, continued disruptions in the banking system, both in the U.S. or abroad, may impact our or our customers’ liquidity and, as a result, negatively impact our business and operating results. The requirements of being a public company may strain our resources, divert management’s attention, and affect our ability to attract and retain additional executive management and qualified board members. As a public company, we are subject to the reporting requirements of the Exchange Act, the Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley Act), the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the listing requirements of the New York Stock Exchange, and other applicable securities rules and regulations. Compliance with these rules and regulations are costly, time-consuming, and can require significant resources. Although we have already hired additional employees and outside consultants to comply with these requirements, we may need to add additional resources, which would increase our costs and expenses. In addition, changing laws, regulations, and standards relating to corporate governance and public disclosure are creating uncertainty for public companies, increasing legal and financial compliance costs, and making some activities more time consuming. For example, expected SEC rules on climate-related disclosures may require us to update our policies, processes or systems to reflect new or amended financial reporting standards. These laws, regulations, and standards, if and when adopted, are subject to varying interpretations, in many cases due to their lack of specificity, and, as a result, their application in practice may evolve over time as market practice develops or new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. If our efforts to comply with new laws, regulations, and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to their application and practice, regulatory authorities may initiate legal proceedings against us, and our business, financial position, and operating results or our revenue and operating profit targets may be adversely affected. The rules and regulations applicable to public companies make it more expensive for us to obtain and maintain director and officer liability insurance, and we may be required to accept reduced coverage or incur substantially higher costs to obtain coverage. These factors could also make it more difficult for us to attract and retain qualified members of our Board of Directors, particularly to serve on our audit committee and compensation committee, and qualified executive officers. As a result of disclosure of information in our public company filings, our business and financial condition is more visible, which may result in threatened or actual litigation, including by competitors and other third parties. If such claims are successful, our business and operating results could be adversely affected, and even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the resources of our management and adversely affect our business and operating results. In addition, as a result of our disclosure obligations as a public company, we have reduced flexibility and are under pressure to focus on short-term results, which may adversely affect our ability to achieve long-term profitability. If we fail to maintain an effective system of disclosure controls and internal control over financial reporting, our ability to produce timely and accurate financial statements or comply with applicable regulations could be impaired. As a public company, we are required, pursuant to Section 404 of the Sarbanes-Oxley Act, to furnish a report by management on, among other things, the effectiveness of our internal control over financial reporting. Effective internal control over financial reporting is necessary for us to provide reliable financial reports and, together with adequate disclosure controls and procedures, are designed to prevent fraud. Any failure to implement required new or improved controls, or difficulties encountered in their implementation, could cause us to fail to meet our reporting 77 obligations. Ineffective internal controls could also cause investors to lose confidence in our reported financial information, which could have a negative effect on the trading price of our Class A common stock. This management report will need to include disclosure of any material weaknesses identified by our management in our internal control over financial reporting, as well as a statement that our independent registered public accounting firm has issued an opinion on our internal control over financial reporting. Section 404(b) of the Sarbanes-Oxley Act requires our independent registered public accounting firm to annually attest to the effectiveness of our internal control over financial reporting, which has required, and will continue to require, increased costs, expenses, and management resources. An independent assessment of the effectiveness of our internal controls could detect problems that our management’s assessment might not. Undetected material weaknesses in our internal controls could lead to financial statement restatements and require us to incur the expense of remediation. We are required to disclose changes made in our internal controls and procedures on a quarterly basis. To comply with the requirements of being a public company, we have undertaken, and may need to further undertake in the future, various actions, such as implementing new internal controls and procedures and hiring additional accounting or internal audit staff. If we are unable to assert that our internal control over financial reporting is effective, or if our independent registered public accounting firm is unable to express an opinion on the effectiveness of our internal control, including as a result of any identified material weakness, we could lose investor confidence in the accuracy and completeness of our financial reports, which would cause the price of our Class A common stock to decline, and we may be subject to investigation or sanctions by the SEC. In addition, if we are unable to continue to meet these requirements, we may not be able to remain listed on the New York Stock Exchange. We may be adversely affected by natural disasters, pandemics, and other catastrophic events, and by man-made problems such as terrorism, that could disrupt our business operations. Our business continuity and disaster recovery plans may not adequately protect us from a serious disaster. Natural disasters, pandemics and epidemics, or other catastrophic events such as fire, power shortages, and other events beyond our control may cause damage or disruption to our operations, international commerce, and the global economy, and could have an adverse and material effect on our business, operating results, and financial condition. For example, as a result of the COVID-19 pandemic and its impacts on the global economy and financial markets, we experienced certain disruptions to our business operations, including delays and lengthening of our customary sales cycles, certain customers not purchasing or renewing our products or services, and requests for pricing and payment concessions by certain customers. As a result of the pandemic, we have also reduced our office footprint given that many of our employees continue to work remotely, and we incurred certain impairment charges related to office leases in the fourth quarter of fiscal 2023 as described in Note 12. Leases of the Notes to Condensed Consolidated Financial Statements , and may incur additional impairment charges in future periods if we are unable to sublease available office space at our corporate headquarters in California on acceptable terms. In the event of a significant resurgence of COVID-19 pandemic or other future public health crisis, we could experience similar or more significant impacts to our operations, which may adversely impact our business, financial condition and operating results. More generally, a public health crisis or other catastrophic event could adversely affect economies and financial markets and lead to an economic downturn, which could harm our business, financial condition, and operating results. In the event of a natural disaster, including a major earthquake, blizzard, wildfire, or hurricane, or other catastrophic event such as a fire, power loss, or telecommunications failure, we may be unable to continue our operations and may endure system interruptions, reputational harm, delays in development of our solutions, lengthy interruptions in service, breaches of data security, and loss of critical data, all of which could have an adverse effect on our future operating results. For example, our corporate headquarters is located in California, a state that frequently experiences earthquakes and wildfires. Additionally, all the aforementioned risks may be further increased if we do not implement an effective disaster recovery plan or our partners’ disaster recovery plans prove to be inadequate. Investors’ expectations of our performance relating to environmental, social, and governance factors may expose us to new risks and require us to incur additional costs . Corporate responsibility, including environmental, social and governance (ESG) factors, is increasingly becoming a focus from certain investors, employees, and other stakeholders. Some investors may use these factors to guide their investment strategies and, in some cases, may choose not to invest in us if they believe our corporate 78 responsibility policies are inadequate. Third-party providers of corporate responsibility ratings and reports on companies have increased to meet growing investor demand for measurement of corporate responsibility performance. The criteria by which companies’ corporate responsibility practices are assessed may require significant expenditures. In May 2022, we announced our commitment to remain carbon neutral going forward, including by purchasing carbon offsets in future years, which may become increasingly more expensive. In addition, the corporate responsibility criteria could change, which could result in greater expectations of us and cause us to undertake more costly initiatives to satisfy such new criteria. If we elect not to or are unable to satisfy such new criteria, investors may conclude that our policies with respect to corporate responsibility are inadequate. We may face reputational damage in the event that our corporate responsibility procedures or standards do not meet the standards set by various constituencies. Furthermore, if our competitors’ corporate responsibility performance is perceived to be greater than ours, potential or current investors may elect to invest with our competitors instead. In addition, in the event that we communicate certain initiatives and goals regarding ESG matters, we could fail, or be perceived to fail, in our achievement of such initiatives or goals, or we could be criticized for the scope of such initiatives or goals. If we fail to satisfy the expectations of investors, employees, and other stakeholders, or, if our initiatives are not executed as planned, our reputation and business, operating results, and financial condition could be adversely impacted. Item 2. Unregistered Sales of Equity Securities and Use of Proceeds Not Applicable. Item 5. Other Information Rule 10b5-1 Trading Arrangements During the three months ended October 31, 2023, none of our directors or executive officers adopted or terminated any contract, instruction or written plan for the purchase or sale of Zuora securities that was intended to satisfy the affirmative defense conditions of Rule 10b5-1(c) or any “non-Rule 10b5-1 trading arrangement.” 79 Item 6. Exhibits. Exhibit Number Incorporated By Reference Filed or Furnished Herewith Exhibit Description Form File No. Exhibit Filing Date 4.1 F irst Supplemental Indenture, dated September 22, 2023, by and between U.S. Bank Trust Company , N ational A ssociation, as trustee . and the Registrant X 10.1 A mendment No. 1 to the Investment Agreement , dated September 22, 2023, by and between Silver Lake and the Registrant X 10.2 Letter Agreement, dated October 27, 2023, by and among First-Citizens Bank & Trust and the Registrant X 31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Exchange Act X 31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a) of the Exchange Act X 32.1* Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 X 32.2* Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 X 101.INS Inline XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document X 101.SCH Inline XBRL Taxonomy Extension Schema Document X 101.CAL Inline XBRL Taxonomy Extension Calculation Linkbase Document X 101.DEF Inline XBRL Taxonomy Extension Definition Linkbase Document X 101.LAB Inline XBRL Taxonomy Extension Label Linkbase Document X 101.PRE Inline XBRL Taxonomy Extension Presentation Linkbase Document X 104 Cover Page Interactive Data File (embedded within the Inline XBRL document and included in Exhibit 101). X * The certifications furnished in Exhibits 32.1 and 32.2 hereto are deemed to accompany this Form 10-Q and are not deemed “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, nor shall they be deemed incorporated by reference into any filing under the Securities Act or the Exchange Act. 80 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZUORA, INC. Date: December 7, 2023 By: /s/ Todd McElhatton Todd McElhatton Chief Financial Officer (Principal Financial Officer) Date: December 7, 2023 By: /s/ Matthew Dobson Matthew Dobson Chief Accounting Officer (Principal Accounting Officer) |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-K (Mark One) ☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the year ended December 31, 2021 ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 ZYNEX, INC. (Exact name of registrant as specified in its charter) Nevada 90-0275169 (State or other jurisdiction of incorporation or organization) (IRS Employer Identification No.) 9655 Maroon Circle , Englewood , CO 80112 (Address of principal executive offices) (Zip Code) Registrant’s telephone number, including area co ( 303 ) 703-4906 Securities registered pursuant to Section 12(b) of the Ac Title of each class Ticker symbol(s) Name of each exchange on which registered Common Stock, $0.001 par value per share ZYXI The Nasdaq Stock Market LLC Securities registered pursuant to Section 12(g) of the Ac Title of each class Common Stock, $0.001 par value Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. ◻ Yes ⌧ No Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. ◻ Yes ⌧ No Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. ⌧ Yes ◻ No Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). ⌧ Yes ◻ No Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ◻ Accelerated filer ◻ Non-accelerated filer ⌧ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ◻ Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ◻ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). ◻ Yes ⌧ No The aggregate market value of the registrant’s common stock held by non-affiliates of the registrant as of June 30, 2021, the last business day of the Registrant’s last completed second quarter, based upon the closing price of the common stock as reported by the Nasdaq Stock Market on such date was approximately $ 307.6 million. As of March 18, 2022, 41,454,160 shares of common stock are issued and 39,784,068 shares are outstanding. Documents incorporated by referen Portions of the Registrant’s definitive proxy statement relating to its 2021 annual meeting of shareholders (the “ Proxy Statement”) are incorporated by reference into Part III of this Annual Report on Form 10-K where indicated. The Proxy Statement will be filed with the U.S. Securities and Exchange Commission within 120 days after the end of the fiscal year to which this report relates. Table of Contents TABLE OF CONTENTS ZYNEX, INC ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 2021 Page PART I 2 Item 1. Business 2 Item 1A. Risk Factors 11 Item 1B. Unresolved Staff Comments 21 Item 2. Properties 22 Item 3. Legal Proceedings 22 Item 4. Mine Safety Disclosures 22 PART II 22 Item 5. Market For Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 22 Item 6. [R eserved] 23 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 23 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 32 Item 8. Financial Statements and Supplementary Data 32 Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosures 32 Item 9A. Controls and Procedures 32 Item 9B. Other Information 33 Item 9C. Disclosure Regrading Foreign Jurisdictions that Prevent Inspections 33 PART III 33 Item 10. Directors, Executive Officers and Corporate Governance 33 Item 11. Executive Compensation 33 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 33 Item 13. Certain Relationships and Related Transactions, and Director Independence 34 Item 14. Principal Accounting Fees and Services 34 PART IV 35 Item 15. Exhibits, Financial Statement Schedules 35 Item 16. Form 10-K Summary 37 Signatures 38 Table of Contents CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION This report includes statements of our expectations, intentions, plans, and beliefs that constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Nonetheless, it is important for an investor to understand that these statements involve risks and uncertainties. These statements relate to the discussion of our business strategies and our expectations concerning future operations, margins, profitability, liquidity, and capital resources and to analyses and other information that are based on forecasts of future results and estimates of amounts not yet determinable. We have used words such as “may,” “will,” “should,” “expect,” “intend,” “plan,” “anticipate,” “believe,” “think,” “estimate,” “seek,” “expect,” “predict,” “could,” “project,” “potential,” and other similar terms and phrases, including references to assumptions, in this report to identify forward-looking statements. These forward-looking statements are made based on expectations and beliefs concerning future events affecting us and are subject to uncertainties, risks and factors relating to our operations and business environment, all of which are difficult to predict and many of which are beyond our control, that could cause our actual results to differ materially from those matters expressed or implied by these forward-looking statements. Such risks and other factors also include those listed in Item 1A. “Risk Factors and elsewhere in this report and our other filings with the Securities and Exchange Commission. When considering these forward-looking statements, you should keep in mind the cautionary statements in this report and the documents incorporated by reference. New risks and uncertainties arise from time to time, and we cannot predict those events or how they may affect us. We assume no obligation to update any forward-looking statements after the date of this report as a result of new information, future events or developments, except as required by applicable laws and regulations. When used in this annual report, the terms the “Company,” “Zynex”, “we,” “us,” “ours,” and similar terms refer to Zynex, Inc., a Nevada corporation, and its subsidiaries, Zynex Medical, Inc., Zynex NeuroDiagnostics, Inc., Zynex Monitoring Solutions Inc., Kestrel Labs, Inc., Zynex Europe ApS and Pharmazy, Inc. As of the date of this annual report, our only operating subsidiary is Zynex Medical, Inc. (“ZMI”). Zynex Monitoring Solutions, Inc. (“ZMS”) has developed its fluid monitoring system product as described below. 1 Table of Contents PART I ITEM 1. BUSINESS History Zynex, Inc. was founded by Thomas Sandgaard in 1996, when he founded two privately held companies that eventually were folded into Zynex, Inc. Zynex, Inc., a Nevada corporation, is the parent company of and conducts business within five active and inactive subsidiaries. As of December 31, 2021, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO™ CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx™, a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. Food and Drug Administration (“FDA”) for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. As of December 31, 2021, the Company conducts most of its operations through its primary subsidiary, ZMI. ZMS has developed a CM-1500 fluid volume monitoring system which was granted 510(K) clearance in February 2020 by the FDA in the United States of America. ZMS filed a 510K application for the CM-1600 in December 2021, its next generation wireless fluid and blood volume system. ZMS has achieved no revenues to date. Our inactive subsidiaries include ZND and Pharmazy. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. The Company also dissolved its subsidiary Zynex Billing and Consulting, LLC (ZBC) as a result of its long-standing inactivity. Upon dissolution, the Company eliminated its non-controlling interest in ZBC. Substantially all of our consolidated revenue in 2021 and 2020 is attributable to ZMI. Our headquarters are located in Englewood, Colorado. Active Subsidiaries Zynex Medical, Inc. (ZMI): ZMI designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on drugs and medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All of our medical devices are designed to be patient friendly and designed for home use. Our devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of our medical devices are marketed in the U.S. and are subject to FDA regulation and approval. Our products require a physician’s prescription before they can be dispensed in the U.S. Our primary product is the NexWave device. The NexWave is marketed to physicians and therapists by our field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. ZMI distributes complementary products such as lumbar support, cervical traction, knee bracing, and hot/cold therapy. These complement our pain management products and are critical for physicians and therapists. These products require a prescription and are covered by most insurance plans and Medicare. ZMI designs, manufactures, and markets the NeuroMove product. The NeuroMove contains electromyography and electric stimulation technology that is primarily used for stroke, spinal cord and traumatic brain injury rehabilitation (“SCI”), by reaching parts of the brain to re-connect with muscles, also known as neuroplasticity. The NeuroMove product is primarily marketed to medical clinics. Zynex did not have material sales of this product in 2021 or 2020. 2 Table of Contents ZMI also designs, manufactures, and markets the InWave product, an in-home electrical stimulation device used to treat female urinary incontinence. The device requires a prescription and is covered by most insurance plans and Medicare. Zynex did not have material sales of this product in 2021 or 2020. Zynex Monitoring Solutions (ZMS): ZMS was formed in 2011 to develop and market medical devices for non-invasive patient monitoring beginning with our hemodynamic fluid monitor, the Zynex Fluid Monitoring System (“CM-1500”). The fluid volume monitor is a non-invasive medical device for monitoring relative fluid volume changes used in operating and recovery rooms to detect fluid loss during surgery and internal bleeding during recovery. The CM-1500 received 510(k) clearance from the FDA in February 2020. The fluid volume monitor has been tested in several Institutional Review Board (“IRB”) approved studies and was used in several blood donation settings where hundreds of subjects donated half a liter of blood, showing strong correlation to the index on the device. We have built a number of commercial devices in pilot-production and continue to refine the algorithms for the Blood Volume Index (BVI). We have received two U.S. utility patents for this unique application, the first in the fourth quarter of 2018 and the second in January 2021, and we believe this product could serve a currently unmet need in the market for safer surgeries and safer monitoring of patients during recovery. This CM-1500 has recently been subjected to multiple clinical studies, which are being utilized for collecting data to further validate the algorithm used to determine changes in relative fluid volume changes. ZMS completed a clinical trial in December 2021 with Wake Forest University to detect post-operative patient fluid status in the Post-Anesthesia Care Unit (“PACU”). ZMS also started enrollment in clinical trials with Vitalant Research Institute (the research arm of Vitalant, the nation's largest independent, nonprofit blood services provider) to track changes in the device's patented Relative Index during apheresis blood donation procedures and with DaVita Clinical Research characterizing changes in the device's patented Relative Index during hemodialysis procedures where a large volume of fluid is removed from patients. In addition to FDA clearance, we are pursuing European Union (“EU”) Certificate European (“CE”) Marking. CE Marking is a certification that a product meets the standards established by the 28 nations of the EU and qualifies for sale in the EU and 4-nation European Free Trade Association. As ZMS’ products are still in development, ZMS did not produce any revenue for the years ending December 31, 2021, and 2020. In addition to the fluid volume monitor, ZMS filed for a provisional patent for a non-invasive sepsis monitor in December 2020 and an updated utility patent filed in December 2021. Zynex International (Zynex Europe) (ZEU): ZEU was formed in 2012 to further progress Zynex’s international expansion. ZEU is currently conducting business and focused on sales and marketing our products within the international marketplace, upon receipt of necessary regulatory approvals. ZEU did not produce significant revenue for the years ended December 31, 2021, and 2020. SALES AND GROWTH STRATEGIES To date, ZMI accounts for substantially all of our revenue and profit. We are focused on expanding our sales force to address what we believe is an untapped market for electrotherapy products for pain management which has become more attractive due to large competitors exiting the market. As of December 31, 2021, we had approximately 400 field sales representatives on staff or in the hiring process, of which 6 were independent, contract representatives and the remainder were W-2 direct employees. We continue to hire field sales representatives at a rapid rate, focusing on the quality and caliber of each candidate with the goal of having approximately 500-600 sales representatives in the U.S. by the end of 2022. We will be focused on increasing performance management standards for our sales force. 3 Table of Contents In an effort to increase revenue and diversification in order to provide our prescribers and patients with diverse solutions for their pain management needs, we are continually adding new complementary products to our ZMI sales channel, such as our hot/cold therapy, cervical traction, knee braces and LSO back braces. In addition, in March 2020 we introduced a full catalog of over 3,300 physical therapy products to promote in the clinics which we serve. We believe adding these complementary products will increase our market share in the marketplace and, in the future, grow our core business by providing our electrotherapy patients additional non-pharmacological pain relief and complementary products to our manufactured devices. Distribution and Revenue Streams: Currently, substantially all of our revenue is generated through our ZMI subsidiary from our electrotherapy products. We sell through a direct sales force in United States. Our field sales representatives are engaged to sell in predefined geographic markets and are compensated with a base salary and commissions based on fixed amounts depending on the type of product sold and insurance carrier of the patient. Our efforts to date have been focused on the United States market. A significant portion of our revenue is derived from patients with insurance plans held by commercial health insurance carriers or government payers who pay on behalf of their insureds. The remaining portion of revenue is primarily received from workers’ compensation claims and attorneys representing injured patients, hospitals, clinics and private-pay individuals. A large part of our revenue is recurring. Recurring revenue results primarily from the sale of surface electrodes and batteries sent to existing patients with our units. Electrodes and batteries are consumable items that are considered an integral part of our products. Private Labeled Distributed Products In addition to our own products, we distribute, through our sales force, a number of private labeled supplies and complementary products from other domestic manufacturers. These products generally include patient consumables, such as electrodes and batteries plus cervical traction, lumbar support, knee braces and hot/cold therapy. Customarily, there are no formal contracts between vendors in the durable medical equipment industry. Replacement products and components are easily found, either from our own products or other manufacturers, and purchases are made by purchase order. 4 Table of Contents Products We currently market and sell Zynex-manufactured products and distribute complementary products and private labeled supplies for Zynex products, as indicated be Product Name Description Zynex Medical Products NexWave Dual channel, multi-modality IFC, TENS, NMES device NeuroMove Electromyography (EMG) — triggered electrical stimulation device InWave Electrical stimulation for treatment of female urinary incontinence E-Wave NMES device Private Labeled Supplies Electrodes Supplies, re-usable for delivery of electrical current to the body Batteries Supplies, for use in electrotherapy products Distributed Complementary Products Comfortrac/Saunders Cervical traction JetStream Hot/cold therapy LSO Back Braces Lumbar support Knee Braces Knee support Zynex Monitoring Solutions Products CM-1500 Zynex Fluid Monitoring System CM-1600 Zynex Wireless Fluid Monitoring System – Submitted to the FDA, December 2021, not yet FDA cleared. NiCO CO-Oximeter Laser-based Noninvasive CO-Oximeter (Not yet FDA cleared) HemeOx tHb Oximeter Laser-based Total Hemoglobin Pulse Oximeter (Not yet FDA cleared) Product Uses Pain Management and Control Standard electrotherapy is a clinically proven and medically accepted alternative to manage acute and chronic pain. Electrical stimulation has been shown to reduce most types of local pain, such as tennis elbow, neck or lower back pain, arthritis, and others. The devices used to accomplish this are commonly described as the TENS family of devices. Electrotherapy is not known to have any negative side effects, a significant advantage over most pain relief medications. The benefits of electrotherapy can inclu pain relief, increased blood flow, reduced edema, prevention of venous thrombosis, increased range-of-motion, prevention of muscle disuse atrophy, and reduced urinary incontinence. 5 Table of Contents Electrotherapy introduces an electrical current applied through surface electrodes. The electrical current “distorts” a pain signal on its way to the central nervous system and the brain, thus reducing the pain. Additionally, by applying higher levels of electricity, muscles contract and such contraction is believed to assist in the benefits mentioned above. Numerous clinical studies have been published over several decades showing the effectiveness of IFC and TENS for pain relief. Our primary electrotherapy device, the NexWave, has received FDA 510(k) clearance. The NexWave is a digital IFC, TENS and NMES device that delivers pain-alleviating electrotherapy. Stroke and Spinal Cord Injury Rehabilitation Our proprietary NeuroMove product is a Class II medical device that has been cleared by the FDA for stroke and SCI rehabilitation. Stroke and SCI usually affect a survivor’s mobility, functionality, speech, and memory, and the NeuroMove is designed to help the survivor regain movement and functionality. Sales of NeuroMove have not generated material revenue for the years ended December 31, 2021 and 2020. Hemodynamic Monitoring Hemodynamic monitoring is the process of measuring the blood flow and pressure exerted in the heart, veins, and arteries. It provides an assessment of a patient’s circulatory status and their ability to assure cardiac output and oxygen delivery to the body. Maintaining effective circulating blood volume and pressure are key to assuring adequate oxygen saturation and perfusion. Hemodynamic monitoring devices have been historically classified as, (a) invasive, using a central or pulmonary artery catheter, (b) minimally invasive, with the placement of an arterial line, and (c) noninvasive, where no device is inserted into the body for clinical assessment. The Zynex Fluid Monitoring System (CM-1500) and the Zynex Wireless Fluid Monitoring System (CM-1600) are noninvasive monitoring devices designed to measure relative changes in fluid volume in adult patients. Fluid status is determined using Zynex’s proprietary algorithm and expressed as the patented Relative IndexTM, a simple value designed to accurately trend patient vital signs and alert clinicians for early intervention. The Zynex Fluid Monitoring System (CM-1500) was cleared by the FDA in 2020. The Zynex Wireless Fluid Monitoring System (CM-1600) has been submitted to the FDA and is pending clearance. Pulse Oximetry Monitoring Pulse oximetry is a noninvasive method of measuring the oxygen saturation level (SpO2) of arterial blood. As one of the most common medical devices used in and out of hospitals around the world, pulse oximeters have gained widespread clinical acceptance as the standard of care for monitoring oxygen saturation. SpO2 has become the “fifth vital sign”, which, together with heart rate, blood pressure, respiratory rate, and temperature, provides crucial clinical information about a person’s health status. The NiCO™ Noninvasive CO-Oximeter, the first laser-based photoplethysmographic patient monitoring technology, is designed to noninvasively measure and monitor four crucial species of hemoglobin with unprecedented accuracy. The HemeOx™ Total Hemoglobin Pulse Oximeter is designed to noninvasively measure total hemoglobin and oxygen saturation, two critical parameters that typically require invasive arterial blood sampling for measurement. Total hemoglobin is a very commonly ordered blood test in healthcare, and HemeOx™ measures it with the continuous and noninvasive ease of a pulse oximeter at the patient bedside. The NiCO™ Noninvasive CO-Oximeter and the HemeOx™ Total Hemoglobin Pulse Oximeter have not yet been cleared by the FDA. 6 Table of Contents MARKETS Zynex Medical (ZMI): To date, the majority of our revenue has been generated by our ZMI electrotherapy products and private labeled supplies. Thus, we primarily compete in the home electrotherapy market for pain management, with products based on IFC, TENS and NMES devices and consumable supplies. We estimate the annual domestic market for home electrotherapy products at approximately $500 million. During 2020 and 2021, we grew our sales force to approximately 400 direct sales reps to address what we believe is an underserved electrotherapy market. The current opioid epidemic has been declared a health emergency, and we are uniquely positioned to help reduce the amount of opioids prescribed for treatment of chronic and acute pain symptoms. We are committed to providing health care professionals with alternatives to traditional opioid based treatment programs with our prescription-strength products which have no side-effects. This has never been more necessary than it is today considering the staggering statistics. ● Pain impacts the lives of more Americans than diabetes, heart disease, and cancer combined. ● Pain is the leading cause of disability, and seeking treatment for chronic or acute pain is the most common reason American’s seek health care. Approximately 50 million Americans suffer from chronic pain. ● Nearly 20 million Americans experienced high-impact chronic pain, defined as “limiting life or work activities on most days or every day”, in the past 3 months. ● If pharmaceuticals such as opioids continue to be used as the first line of defense, America will continue to see a rise in opioid misuse, addiction and drug-related deaths. We also distribute complementary products such as JetStream Hot/Cold Therapy, Knee bracing, Aspen LSO Back bracing and Comfortrac and Saunders cervical and lumbar traction units, all products targeted at treating acute as well as chronic pain with minimal side-effects. Key characteristics of our electrotherapy market ● Collection cycles of initial payment from insurance carriers can range from less than 30 days to many months and considerably longer for many attorney, personal injury, and workers’ compensation cases. Such delayed payment impacts our cash flow and can slow our growth or strain our liquidity. Collections are also impacted by whether effective billing submissions are made by our billing and collections department to the third-party payers. ● Prior to payment, third-party payers often make or take significant payment adjustments or discounts. This can also lead to denials and billing disputes with third-party payers. ● The majority of our revenue is generated by the sale of medical devices and from recurring patient supplies, specifically from our electrotherapy products sold through ZMI. We are reliant on third-party payer reimbursement. Zynex Monitoring Solutions (ZMS): ZMS is focused on developing products within the non-invasive multi-parameter patient-monitoring marketplace. ZMS is currently focusing on its fluid monitoring system, the recently announced sepsis monitor and the pulse oximetry products acquired in its acquisition of Kestrel. We believe our products, once released into the marketplace (of which there can be no guarantee), will compete against multiple competitors, ranging from large manufacturers with multiple business lines to small manufacturers that offer a limited range of products. We have not yet identified competitors for these products. ZMS has not generated any revenue. 7 Table of Contents Competition Since we are in the market for medical electrotherapy products, we face a mixture of competitors ranging from large manufacturers with multiple business lines to small manufacturers that offer a limited selection of products. Our principal competitors include International Rehabilitative Sciences, Inc. d/b/a RS Medical, EMSI, and H-Wave. In addition, we face competition from providers of alternative medical therapies, such as pharmaceutical companies. RESOURCES Manufacturing and Product Assembly Our manufacturing and product assembly strategy consists of the following elements: ● Compliance with relevant legal and regulatory requirements. ● Use of contract manufacturers as needed, thereby allowing us to quickly respond to changes in volume and avoid large capital investments for assembly and manufacturing equipment of certain product components. We believe there is a large pool of highly qualified contract manufacturers, domestically and internationally, for the type of manufacturing assistance needed for our manufactured devices. ● Utilization of in-house final assembly and test capabilities. ● Development of proprietary software and hardware for all products in house. ● Testing all units in a real-life, in-house environment to help ensure the highest possible quality and patient safety while reducing the cost of warranty repairs. We utilize contract manufacturers located in the U.S. to manufacture components for our NexWave and NeuroMove units and for some of our other products and assemble in-house for our NexWave and NeuroMove units. We do not have long-term supply agreements with our contract manufacturers, but we utilize purchase orders with agreed upon terms for our ongoing needs. We believe there are numerous suppliers that can manufacture our products and provide our required raw materials. Generally, we have been able to obtain adequate supplies of our required raw materials and components. We are always evaluating our suppliers for price, quality, delivery time and service. The reduction or interruption in supply, and an inability to develop alternative sources for such supply, could adversely affect our operations. Intellectual Property Zynex is committed to aggressively protect the intellectual property rights the Company has worked so hard to attain and to expand our intellectual property portfolio for advances to our existing products and for new products as they are developed. Zynex has recently received two new U.S. utility patents, as well as a utility patent in Europe, for our fluid monitoring system. The acquisition of Kestrel Labs, Inc. by Zynex Inc. included an intellectual property portfolio surrounding the acquired laser-based photoplethysmographic technology. This expands both the size and scope of Zynex’s intellectual property portfolio to include key aspects of the exciting pulse oximetry market. Zynex is trademarked in the U.S. We utilize non-disclosure and trade secret agreements with employees and third parties to protect our proprietary information. 8 Table of Contents GOVERNMENT REGULATION US Food and Drug Administration (FDA) All of our ZMI products are classified as Class II (Medium Risk) devices by the FDA, and clinical studies with our products are considered to be NSR (Non-Significant Risk Studies). Our business is regulated by the FDA, and all products typically require 510(k) market clearance before they can be put into commercial distribution. Section 510(k) of the Federal Food, Drug and Cosmetics Act, is available in certain instances for Class II (Medium Risk) products. It requires that before introducing most Class II devices into interstate commerce, the product must first submit information to the FDA demonstrating that the device is substantially equivalent in terms of safety and effectiveness to a device legally marketed prior to March 1976 or to devices that have been reclassified in accordance with the provisions of the Federal Food, Drug, and Cosmetic Act that do not require approval of a premarket approval application. When the FDA determines that the device is substantially equivalent, the agency issues a “clearance” letter that authorizes marketing of the product. We are also regulated by the FDA’s Good Manufacturing Practice (GMP) and Quality Systems Regulation (QSR). We believe that our products have obtained or are good candidates for the requisite FDA clearance or are exempt from the FDA clearance process. In November 2001, Zynex received FDA 510(k) clearance to market NeuroMove. In September 2011, Zynex received FDA 510(k) clearance to market the NexWave, our current generation IFC, TENS and NMES device. In August 2012, Zynex received FDA 510(k) clearance to market the InWave, our next generation muscle stimulator for treatment of female incontinence. Failure to comply with FDA requirements could adversely affect us. International Zynex continues to explore opportunities to gain regulatory clearance for its devices in markets outside of the U.S. CE marking is the medical device manufacturer's claim that a product meets the essential requirements of all relevant European Medical Device Directives. The CE mark is a legal requirement to place a device on the market in the EU. Zynex is currently in the process of applying for CE marking on several of its electrotherapy devices and its CM-1500 Zynex Fluid Monitoring System. The Far East, Middle East, Eastern Europe and Latin American markets have different regulatory requirements. We comply with applicable regulatory requirements within the markets in which we currently sell. If and when we decide to enter additional geographic areas, we intend to comply with applicable regulatory requirements within those markets. Zynex has received ISO13485: 2016 certification for its compliance with international standards in quality management systems for design, development, manufacturing and distribution of medical devices. This certification is not only important as assurance that we have the appropriate quality systems in place but is also crucial to our international expansion efforts as many countries require this certification as part of their regulatory approval. Government Regulation The delivery of health care services and products has become one of the most highly regulated professional and business endeavors in the United States. Both the federal government and individual state governments are responsible for overseeing the activities of individuals and businesses engaged in the delivery of health care services and products. Federal law and regulations are based primarily upon the Medicare and Medicaid programs. Each program is financed, at least in part, with federal funds. State jurisdiction is based upon the state’s interest in regulating the quality of health care in the state, regardless of the source of payment. Many state and local jurisdictions impose additional legal and regulatory requirements on our business including various states and local licenses, taxes, limitations regarding insurance claim submission and limitations on relationships with referral parties. Failure to comply with this myriad of regulations in a particular jurisdiction may subject us to fines or other penalties, including the inability to sell our products in certain jurisdictions. 9 Table of Contents Federal health care laws apply to us when we submit a claim to any other federally funded health care program, in addition to requirements to meet government standards. The principal federal laws that we must abide by in these situations inclu ● Those that prohibit the filing of false or improper claims for federal payment. ● Those that prohibit unlawful inducements for the referral of business reimbursable under federally funded health care programs. The federal government may impose criminal, civil and administrative penalties on anyone who files a false claim for reimbursement from federally funded programs. A federal law commonly known as the “anti-kickback law” prohibits the knowing or willful solicitation, receipt, offer or payment of any remuneration made in return ● The referral of patients covered under federally-funded health care programs; or ● The purchasing, leasing, ordering, or arranging for any goods, facility, items or service reimbursable under those programs. Research and Development During 2021 and 2020, we incurred approximately $2.6 million and $0.8 million, respectively, of research and development expenses. We expect our research and development expenditures to increase in 2022 as our ZMS business expands. HUMAN CAPITAL As of December 31, 2021, we employed 774 full time employees of which approximately 400 are employed as direct sales representatives in the field. Our employees are our most important assets and set the foundation for our ability to achieve our strategic objectives. All of our employees contribute to our success and, in particular, our sales representatives are instrumental in our ability to reach more patients in pain. The success and growth of our business depends in large part on our ability to attract, retain and develop a diverse population of talented and high-performing employees at all levels of our organization. To succeed in a competitive labor market, we have developed recruitment and retention strategies, objectives and measures that we focus on as part of the overall management of our business. These strategies, objectives and measures form our human capital management framework and are advanced through the following programs, policies and initiativ ● Competitive pay and benefits. Our compensation programs are designed to align the compensation of our employees with our performance and to provide the proper incentives to attract, retain, and motivate employees to achieve superior results. ● Training and development. We invest in learning opportunities that foster a growth mindset. Our formal offerings include a tuition reimbursement program, an e-learning program that all corporate employees have access to and in-house learning opportunities through the Company’s Zynex Growth and Development program. ● Health and Wellness. We invest in the health and wellness of our employees by offering monthly benefits and offer programs and support to assist our employees. 10 Table of Contents ITEM 1A. RISK FACTORS RISKS RELATED TO OUR BUSINESS We face risks related to health pandemics, particularly the outbreak of COVID-19 and subsequent variants, which could adversely affect our business and results of operations. Our business could be materially adversely affected by a widespread outbreak of contagious disease, including the recent outbreak of the novel coronavirus, known as COVID-19, which has spread to many countries throughout the world, including the United States. The effects of this outbreak on our business have included and could continue to include temporary closures of our providers and clinics and suspensions of elective surgical procedures. This has and could continue to impact our interactions and relationships with our customers. In addition to temporary closures of the providers and clinics that we serve, we could also experience temporary closures of the facilities of our suppliers, contract manufacturers, or other vendors in our supply chain, which could impact our business, interactions and relationships with our third-party suppliers and contractors, and results of operations. The extent to which the COVID-19 outbreak will impact business and the economy is highly uncertain and cannot be predicted. Accordingly, we cannot predict the extent to which our financial condition, results of operations and value of our common stock will be affected. The uncertainty surrounding the COVID-19 outbreak has caused the Company to increase its inventory in anticipation of possible supply chain shortages related to the COVID-19 virus. While the Company did not incur significant disruptions to its operations during 2020 and 2021, it is unable at this time to predict the impact that the COVID-19 virus will have on its business, financial position and operating results in future periods due to numerous uncertainties. We have encountered significant volatility in our recent operating results. The Company’s results from operations have improved significantly in recent years, but there have been significant volatility in our results over the past five years as reflected in the following table (in millions): Year Revenues Profit 2017 $ 23.4 $ 7.4 2018 $ 31.9 $ 9.6 2019 $ 45.5 $ 9.5 2020 $ 80.1 $ 9.1 2021 $ 130.3 $ 17.1 Our financial results could continue to be volatile, and there is no assurance we will continue our current increase in revenue and profits. We are dependent on reimbursement from third-party payers, most of whom are larger than we are and have substantially more employees and financial resources; changes in insurance reimbursement policies or application of them have resulted in decreased or delayed revenues. A large percentage of our revenues come from third-party payer reimbursement. Most of the third-party payers are large insurance companies with substantially more resources than we have. Upon delivery of our products to our patients, we directly bill the patients’ private insurance companies or government payers for reimbursement. If the third-party payers do not remit payment on a timely basis or if they change their policies to exclude or reduce coverage for our products, we would experience a decline in our revenue as well as cash flow. In addition, we may deliver products to patients and invoice based on past practices and billing experiences only to have third-party payers later deny coverage for such products. In some cases, our delivered product may not be covered pursuant to a policy statement of a third-party payer, despite a payment history with the third-party payer and benefits to the patients. A third-party payer may seek repayment of amounts previously paid for covered products. We maintain an allowance for provider discounts and amounts intended to cover legitimate requests for repayment. Failure to adequately identify and provide for amounts for resolution of repayment demands in our allowance for provider discounts could have a material adverse effect on our results of operations and cash flows. For government health care programs, if we identify a 11 Table of Contents deficiency in prior claims or practices, we may be required to repay amounts previously reimbursed to us by government health care programs. We frequently receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients, and other times include a significant number of refund claims in a single request which can accumulate to a significant amount. We review and evaluate these requests and determine if any refund is appropriate. During the adjudication process we review claims where we are rebilling or pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests, we are generally unable to determine if a refund request is valid. Although we cannot predict whether or when a request for repayment or our subsequent request for reimbursement will be resolved, it is not unusual for such matters to be unresolved for a long period of time. No assurances can be given with respect to our estimates for our allowance for provider discounts refund claim reimbursements and offsets or the ultimate outcome of the refund requests. We at times have concentrations of credit risk with third-party payers; failure to collect these and other billed receivables could adversely affect our cash flows and results of operations. The Company had receivables from one third-party payer at December 31, 2021 which made up approximately 22% of the accounts receivable balance. The Company had receivables from one third-party payer at December 31, 2020, which made up approximately 26% of the accounts receivable balance. Future changes in coverage and reimbursement policies for our products or reductions in reimbursement rates for our products by third party payers could adversely affect our business and results of operations. In the United States, our products are prescribed by physicians for their patients. Based on the prescription, which we consider an order, we submit a claim for payment directly to third-party payers such as private commercial insurance carriers, government payers and others as appropriate and the third-party payer reimburses us directly. Federal and state statutes, rules, or other regulatory measures that restrict coverage of our products or reimbursement rates could have an adverse effect on our ability to sell or rent our products or cause physical therapists and physicians to dispense and prescribe alternative, lower-cost products. There are significant estimating risks associated with the amount of revenue, related refund liabilities, accounts receivable and provider discounts that we recognize, and if we are unable to accurately estimate these amounts, it could impact the timing of our revenue recognition, have a significant impact on our operating results or lead to a restatement of our financial results. There are significant risks associated with the estimation of the amount of revenues, related refund liabilities, accounts receivable, and provider discounts that we recognize in a reporting period. The billing and collection process is complex due to ongoing insurance coverage changes, geographic coverage differences, differing interpretations of coverage, differing provider discount rates, and other third-party payer issues. Determining applicable primary and secondary coverage for our customers at any point in time, together with the changes in patient coverage that occur each month, require complex, resource-intensive processes. Errors in determining the correct coordination of benefits may result in refunds to payers. Revenues associated with government programs are also subject to estimating risk related to the amounts not paid by the primary government payer that will ultimately be collectable from other government programs paying secondary coverage, the patient’s commercial health plan secondary coverage or the patient. Collections, refunds and pay or retractions typically continue to occur for up to three years and longer after our products are provided. While we typically look to our past experience in collections with a payer in estimating amounts expected to be collected on current billings, recent trends and current changes in reimbursement practice, the overall healthcare environment, and other factors nonetheless could ultimately impact the amount of revenues recorded and the receivables ultimately collected. If our estimates of revenues, related refund liabilities, accounts receivable or provider discounts are materially inaccurate, it could impact the timing of our revenue recognition and have a significant impact on our operating results. It could also lead to a restatement of our financial results. 12 Table of Contents Tax laws and regulations require compliance efforts that can increase our cost of doing business and changes to these laws and regulations could impact financial results. We are subject to a variety of tax laws and regulations in the jurisdictions in which we do business. Maintaining compliance with these laws can increase our cost of doing business and failure to comply could result in audits or the imposition of fines or penalties. Further, our future effective tax rates in any of these jurisdictions could be affected, positively or negatively, by changing tax priorities, changes in statutory rates, or changes in tax laws or the interpretation thereof. The most significant recent example of this is the impact of the U.S Tax Cuts and Jobs Act of 2017 (the “Tax Act”) which was enacted on December 22, 2017. These changes significantly revised the ongoing U.S. corporate income tax law by lowering the U.S. federal corporate income tax rate from 35% to 21%, implementing a territorial tax system, imposing a one-time tax on foreign unremitted earnings and setting limitations on deductibility of certain costs, among other things. The Company has implemented the Tax Act and does not expect any significant changes related to the Tax Act at this time. The Patient Protection and Accountability act of 2010 has had an impact on our business which may be in part beneficial and in part detrimental. In March 2010, broad federal health care reform legislation was enacted in the United States. This legislation did not become effective immediately in total, and may be modified prior to the effective date of some provisions. This legislation has had an impact on our business in a variety of ways including increased number of Medicaid recipients, increased number of individuals with commercial insurance, additional audits conducted by public health insurance plans such as Medicaid and Medicare, changes to the rules that govern employer group health insurance and other factors that influence the acquisition and use of health insurance from private and public payers. This legislation has resulted in a change in reimbursement for certain durable medical equipment. We believe the new healthcare legislation and these changes to reimbursement have caused uncertainty with prescribers, which we believe contributed to our drop in orders and revenue during 2013 and 2014 and the lack of any significant increase in 2015. Orders and revenue increased in 2016 through 2021; however, we are currently unable to determine whether such trend will continue in future periods or whether the health care reform legislation will have other adverse consequences to our business and results of operations. To the extent prescribers write fewer prescriptions for our products or there is an adverse change to insurance reimbursement for our products, due to the new law or otherwise, our revenue and profitability will be materially adversely affected. The uncertainty of continuing healthcare changes and regulations may place our business model in doubt. There is some doubt on the continuation of the Affordable Care Act and the legislation that the current Congress will enact to replace it, if any. Because we cannot be certain about the continuation of the Affordable Care Act or any changes or replacements thereto, even if the Affordable Care Act remains the law of the land, there is also some doubt whether the President will support it or take regulatory action to negatively impact its benefits. The amount of uncertainty creates concern on our customer’s willingness to buy products which may, or may not, be covered by future health care benefits even if they are covered currently. Hospitals and clinicians may not buy, prescribe or use our products in sufficient numbers, which could result in decreased revenues and profits. Hospitals and clinicians may not accept any of our products as effective, reliable, or cost-effective. Factors that could prevent such institutional patient acceptance inclu ● If patients conclude that the costs of these products exceed the cost savings associated with the use of these products; ● If patients are financially unable to purchase these products; ● If adverse patient events occur with the use of these products, generating adverse publicity; ● If we lack adequate resources to provide sufficient education and training to our patients; ● If frequent product malfunctions occur, leading clinicians to believe that the products are unreliable; 13 Table of Contents ● Uncertainty regarding or change in government or third-party payer reimbursement policies for our products; and ● If physicians or other health care providers believe that our products will not be reimbursed by insurers or decide to prescribe competing products. Because our sales are dependent on prescriptions from physicians, if any of these or other factors result in fewer prescriptions for our products being written, we will have reduced revenues and may not be able to fully fund our operations. Although we experienced an increase in orders for our ZMI products during 2020 and 2021 compared to prior years, we can make no assurances that demand for our products will not decline in future periods. Any new competitor could be larger than us and have greater financial and other resources than we do, and those advantages could make it difficult for us to compete with them. Many competitors to our products may have substantially greater financial, technical, marketing, and other resources. Competition could result in fewer orders, reduced gross margins, and loss of market share. Our products are regulated by the FDA in the United States. Competitors may develop products that are substantially equivalent to our FDA-cleared products, thereby using our products as predicate devices to more quickly obtain FDA approval for their own products. If overall demand for our products should decrease it could have a material adverse effect on our operating results. Substantial competition is expected in the future in the area of stroke rehabilitation that may directly compete with our NeuroMove product. These competitors may use standard or novel signal processing techniques to detect muscular movement and generate stimulation to such muscles. Other companies may develop rehabilitation products that perform better and/or are less expensive than our products, which could have a material adverse effect on our operating results. Failure to keep pace with the latest technological changes could result in decreased revenues. The market for some of our products is characterized by rapid change and technological improvements. Failure to respond in a timely and cost-effective way to these technological developments could result in serious harm to our business and operating results. We have derived, and we expect to continue to derive, a substantial portion of our revenues from the development and sale of products in the medical device industry. As a result, our success will depend, in part, on our ability to develop and market product offerings that respond in a timely manner to the technological advances of our competitors, evolving industry standards and changing patient preferences. There is no assurance that we will keep up with technological improvements. O ur business could be adversely affected by reliance on sole suppliers. Notwithstanding our current multiple supplier approach, certain essential product components may be supplied in the future by sole, or a limited group of, suppliers. Most of our products and components are purchased through purchase orders rather than through long term supply agreements and large volumes of inventory may not be maintained. There may be shortages and delays in obtaining certain product components. Disruption of the supply or inventory of components could result in a significant increase in the costs of these components or could result in an inability to meet the demand for our products. In addition, if a change in the manufacturer of a key component is required, qualification of a new supplier may result in delays and additional expenses in meeting customer demand for products. These factors could adversely affect our revenues and ability to retain our experienced sales force. A third-party manufacturer’s inability to produce our goods on time and to our specifications could result in lost revenue. Third-party manufacturers assemble and manufacture components of the NexWave and NeuroMove and some of our other products to our specifications. The inability of a manufacturer to ship orders of our products in a timely manner or to meet our quality standards could cause us to miss the delivery date requirements of our patients for those items, which could result in cancellation of orders, refusal to accept deliveries or a reduction in purchase prices, any of which could have a material adverse effect on our revenues. Because of the timing and seriousness of our business, and the medical device industry in particular, the dates on which patients need and require shipments of products from us are critical. Further, because quality is a leading factor when patients, doctors, health insurance providers and distributors accept or reject goods, any decline in quality by our third-party manufacturers could be detrimental not only to a particular order, but also to our future relationship with that particular patient. 14 Table of Contents We could experience cost increases or disruptions in supply of raw materials or other components used in our products. Our third-party manufacturers that assemble and manufacture components for our products expect to incur significant costs related to procuring raw materials required to manufacture and assemble our product. The prices for these raw materials fluctuate depending on factors beyond our control including market conditions and global demand for these materials and could adversely affect our business, prospects, financial condition, results of operations, and cash flows. Further, any delays or disruptions in our supply chain could harm our business. For example, COVID-19, including associated variants, could cause disruptions to and delays in our operations, including shortages and delays in the supply of certain parts, including semiconductors, materials and equipment necessary for the production of our products, and the internal designs and processes we or third-parties may adopt in an effort to remedy or mitigate impacts of such disruptions and delays could result in higher costs. In addition, our business also depends on the continued supply of battery cells for our products. We are exposed to multiple risks relating to availability and pricing of quality battery cells. These risks inclu ● the inability or unwillingness of battery cell manufacturers to build or operate battery cell manufacturing plants to supply the numbers of battery cells (including the applicable chemistries) required to support the growth of the electric or plug-in hybrid vehicle industry as demand for such cells increases; ● disruption in the supply of battery cells due to quality issues or recalls by the battery cell manufacturers; and ● an increase in the cost, or decrease in the available supply of raw materials used in battery cells, such as lithium, nickel, and cobalt. Furthermore, currency fluctuations, tariffs or shortages in petroleum and other economic or political conditions may result in significant increases in freight charges and raw material costs. Substantial increases in the prices for raw materials or components would increase our operating costs and could reduce our margins. We depend upon third parties to manufacture and to supply key semiconductor chip components necessary for our products. We do not have long-term agreements with our semiconductor chip manufacturers and suppliers, and if these manufacturers or suppliers become unwilling or unable to provide an adequate supply of semiconductor chips, with respect to which there is a global shortage, we would not be able to find alternative sources in a timely manner and our business would be adversely impacted. Semiconductor chips are a vital input component to the electrical architecture of our products, controlling wide aspects of the products’ operations. Many of the key semiconductor chips we use in our products come from limited or single sources of supply, and therefore a disruption with any one manufacturer or supplier in our supply chain would have an adverse effect on our ability to effectively manufacture and timely deliver our products. We do not have any long- term supply contracts with any suppliers and purchase chips on a purchase order basis. Due to our reliance on these semiconductor chips, we are subject to the risk of shortages and long lead times in their supply. We are in the process of identifying alternative manufacturers for semiconductor chips. We have in the past experienced, and may in the future experience, semiconductor chip shortages, and the availability and cost of these components would be difficult to predict. For example, our manufacturers may experience temporary or permanent disruptions in their manufacturing operations due to equipment breakdowns, labor strikes or shortages, natural disasters, component or material shortages, cost increases, acquisitions, insolvency, changes in legal or regulatory requirements, or other similar problems. In particular, increased demand for semiconductor chips in 2020, due in part to the COVID-19 pandemic and increased demand for consumer electronics that use these chips, has resulted in a severe global shortage of chips in 2021. As a result, our ability to source semiconductor chips to be used in our products has been adversely affected. This shortage may result in increased chip delivery lead times, delays in the production of our products, and increased costs to source available semiconductor chips. To the extent this semiconductor chip shortage continues, and we are unable to mitigate the effects of this shortage, our ability to deliver sufficient quantities of our products to fulfill our preorders and to support our growth through sales to new customers would be adversely affected. In addition, we may be required to incur additional costs and expenses in managing ongoing chip shortages, including additional research and development expenses, engineering design and development costs in the event that new suppliers must be onboarded on an expedited basis. Further, ongoing delays in production and shipment of products due to a continuing shortage of semiconductor chips may harm our reputation and discourage additional preorders and sales, and otherwise materially and adversely affect our business and operations. 15 Table of Contents If we need to replace manufacturers, our expenses could increase resulting in smaller profit margins. We compete with other companies for the production capacity of our manufacturers and import quota capacity. Some of these competitors have greater financial and other resources than we have, and thus have an advantage in the competition for production and import quota capacity. If we experience a significant increase in demand, or if we need to replace an existing manufacturer, we may have to expand our third-party manufacturing capacity. We cannot assure that this additional capacity will be available when required on terms that are acceptable to us or similar to existing terms, which we have with our manufacturers, either from a production standpoint or a financial standpoint. We enter into a number of purchase order commitments specifying a time for delivery, method of payment, design and quality specifications and other standard industry provisions, but do not have long-term contracts with any manufacturer. None of the manufacturers we use produce our products exclusively. Should we be forced to replace one or more of our manufacturers, we may experience increased costs or an adverse operational impact due to delays in distribution and delivery of our products to our patients, which could cause us to lose patients or lose revenue because of late shipments. W e are a relatively small company with a limited number of products and staff. S ales fluctuations and employee turnover may adversely affect our business. We are a relatively small company. Consequently, compared to larger companies, sales fluctuations could have a greater impact on our revenue and profitability on a quarter-to-quarter and year-to-year basis and delays in patient orders could cause our operating results to vary significantly from quarter to quarter and year-to-year. In addition, as a small company we have limited staff and are heavily reliant on certain key personnel to operate our business. If a key employee were to leave the company it could have a material impact on our business and results of operations as we might not have sufficient depth in our staffing to fill the role that was previously being performed. A delay in filling the vacated position could put a strain on existing personnel or result in a failure to satisfy our contractual obligations or to effectively implement our internal controls, and materially harm our business. If we are unable to retain the services of Mr. Sandgaard or if we are unable to successfully recruit qualified managerial and sales personnel, we may not be able to continue our operations. Our success depends to a significant extent upon the continued service of Mr. Thomas Sandgaard, our Chief Executive Officer, Founder, and beneficial owner of approximately 38% of our outstanding stock. Loss of the services of Mr. Sandgaard could have a material adverse effect on our growth, revenues, and prospective business. There is currently no employment agreement with Mr. Sandgaard. We do not maintain key-man insurance on the life of Mr. Sandgaard. In addition, in order to successfully implement and manage our business plan, we will be dependent upon, among other things, successfully retaining and recruiting qualified managerial and sales personnel. Competition for qualified individuals is intense. Various factors, such as marketability of our products, our reputation, our liquidity, and sales commission structure can affect our ability to find, attract or retain sales personnel. There can be no assurance that we will be able to find and attract qualified new employees and sales representatives and retain existing employees and sales representatives. We need to maintain insurance coverage, which could become very expensive or have limited availability. Our marketing and sales of medical device products creates an inherent risk of claims for product liability. As a result, we carry product liability insurance and will continue to maintain insurance in amounts we consider adequate to protect us from claims. We cannot, however, be assured that we have resources sufficient to satisfy liability claims in excess of policy limits if required to do so. Also, if we are subject to such liability claims, there is no assurance that our insurance provider will continue to insure us at current levels or that our insurance rates will not substantially rise in the future, resulting in increased costs to us or forcing us to either pay higher premiums or reduce our coverage amounts, which would result in increased liability to claims. 16 Table of Contents We depend upon obtaining regulatory approval of any new products and/or manufacturing operations we develop and maintain approvals of current products; failure to obtain or maintain such regulatory approvals could result in increased costs, lost revenue, penalties and fines. Before marketing any new products, we will need to complete one or more clinical investigations of each product. There can be no assurance that the results of such clinical investigations will be favorable to us. We may not know the results of any study, favorable or unfavorable to us, until after the study has been completed. Such data must be submitted to the FDA as part of any regulatory filing seeking approval to market the product. Even if the results are favorable, the FDA may dispute the claims of safety, efficacy, or clinical utility and not allow the product to be marketed. The sales price of the product may not be enough to recoup the amount of our investment in conducting the investigative studies and we may expend significant funds on research and development on products that are rejected by the FDA. Some of our products are marketed based upon our interpretation of FDA regulation allowing for changes to an existing device. If our interpretations are incorrect, we could suffer consequences that could have a material adverse effect on our results of operations and cash flows and could result in fines and penalties. There can be no assurance that we will have the financial resources to complete development of any new products or to complete the regulatory approval process or to maintain regulatory compliance of existing products. We may not be able to obtain clearance of a 510(k) notification or approval of a de novo or pre-market approval application with respect to any products on a timely basis, if at all. If timely FDA clearance or approval of new products is not obtained, our business could be materially adversely affected. Clearance of a 510(k) notification or de novo application may also be required before marketing certain previously marketed products, which have been modified after they have been cleared. Should the FDA so require, the filing of a new 510(k) notification for the modification of the product may be required prior to marketing any modified device. To determine whether adequate compliance has been achieved, the FDA may inspect our facilities at any time. Such compliance can be difficult and costly to achieve and maintain. Our compliance status may change due to future changes in, or interpretations of, FDA regulations or other regulatory agencies. Such changes may result in the FDA withdrawing marketing clearance or requiring product recall. In addition, any changes or modifications to a device or its intended use may require us to reassess compliance with good manufacturing practices guidelines, potentially interrupting the marketing and sale of products. We may also fail to comply with complex FDA regulations due to their complexity or otherwise. Failure to comply with regulations could result in enforceable actions, including product seizures, product recalls, withdrawal of clearances or approvals, and civil and criminal penalties, any of which could have a material adverse effect on our operating results and reputation. O ur products are subject to recall even after receiving FDA or foreign clearance or approval, which would harm our reputation and business. We are subject to medical device reporting regulations that require us to report to the FDA or respective governmental authorities in other countries if our products cause or contribute to a death or serious injury or malfunction in a way that would be reasonably likely to contribute to death or serious injury if the malfunction were to recur. The FDA and similar governmental authorities in other countries have the authority to require the recall of our products in the event of material deficiencies or defects in design or manufacturing. A government mandated or voluntary recall by us could occur as a result of component failures, manufacturing errors or design defects, including defects in labeling. Any recall would divert managerial and financial resources and could harm our reputation with customers. We cannot assure you that we will not have product recalls in the future or that such recalls would not have a material adverse effect on our business. We have not undertaken any voluntary or involuntary recalls to date. We continue to incur expenses. This area of medical device research is subject to rapid and significant technological changes. Developments and advances in the medical industry by either competitors or other parties can affect our business in either a positive or negative manner. Developments and changes in technology that are favorable to us may significantly advance the potential of our research while developments and advances in research methods outside of the methods we are using may severely hinder, or halt completely our development. 17 Table of Contents We are a small company in terms of employees, technical and research resources. We expect to incur research and development, sales and marketing, and general and administrative expenses. These amounts may increase, and recently have in connection with our efforts to expand our sales force, before any commensurate incremental revenue from these efforts may be obtained and may adversely affect our potential profits and we may lack the liquidity to pay for such expenditures. These factors may also hinder our ability to meet changes in the medical industry as rapidly or effectively as competitors with more resources. Substantial costs could be incurred defending against claims of infringement. Other companies, including competitors, may obtain patents or other proprietary rights that would limit, interfere with, or otherwise circumscribe our ability to make, use, or sell products. Should there be a successful claim of infringement against us and if we could not license the alleged infringed technology at a reasonable cost, our business and operating results could be adversely affected. There has been substantial litigation regarding patent and other intellectual property rights in the medical device industry. The validity and breadth of claims covered in medical technology patents involve complex legal and factual questions for which important legal principles remain unresolved. Any litigation claims against us, independent of their validity, may result in substantial costs and the diversion of resources with no assurance of success. Intellectual property claims could cause us t ● Cease selling, incorporating, or using products that incorporate the challenged intellectual property; ● Obtain a license from the holder of the infringed intellectual property right, which may not be available on reasonable terms, if at all; and ● Re-design our products excluding the infringed intellectual property, which may not be possible. We may be unable to protect our trademarks, trade secrets and other intellectual property rights that are important to our business. We consider our trademarks, trade secrets, and other intellectual property an integral component of our success. We rely on trademark law and trade secret protection and confidentiality agreements with employees, customers, partners, and others to protect our intellectual property. Effective trademark and trade secret protection may not be available in every country in which our products are available. We obtained utility patents on the fluid monitoring system in 2021 and 2018 in the U.S. and in 2020 in Europe. We cannot be certain that we have taken adequate steps to protect our intellectual property, especially in countries where the laws may not protect our rights as fully as in the United States. In addition, if our third-party confidentiality agreements are breached, there may not be an adequate remedy available to us. If our trade secrets become publicly known, we may lose competitive advantages. We may fail to protect the privacy, integrity and security of customer information. We possess and process sensitive customer information and Protected Health Information protected by the Health Insurance Portability and Affordability Act (“HIPAA”). While we have taken reasonable and appropriate steps to protect that information, if our security procedures and controls were compromised, it could harm our business, reputation, results of operations and financial condition and may increase the costs we incur to protect against such information security breaches, such as increased investment in technology, the costs of compliance with health care privacy and consumer protection laws. A compromise of our privacy or security procedures could also subject us to liability under certain health care privacy laws applicable to us. Cyber-attacks and security vulnerabilities could lead to reduced revenue, increased costs, liability claims, or harm to our competitive position. Increased sophistication and activities of perpetrators of cyber-attacks have resulted in an increase in information security risks in recent years. Hackers develop and deploy viruses, worms, and other malicious software programs that attack products and services and gain access to networks and data centers. If we experience difficulties maintaining existing systems or implementing new systems, we could incur significant losses due to disruptions in our operations. Additionally, these systems contain valuable proprietary and confidential information and may contain personal data of our customers. A security breach could result in disruptions of our internal systems and business applications, harm to our competitive position from the compromise of confidential business information, or subject us to liability under laws that protect personal data. As cyber threats continue to evolve, we may be required to expend additional resources to continue to enhance our information security measures and/or to investigate and remediate any information security vulnerabilities. Any of these consequences would adversely affect our revenue and margins. 18 Table of Contents Expansion of our operations and sales internationally may subject us to additional risks, including risks associated with unexpected events. A component of our growth strategy is to expand our operations and sales internationally. There can be no assurance that we will be able to successfully market, sell, and deliver our products in foreign markets, or that we will be able to successfully expand our international operations. Global operations could cause us to be subject to unexpected, uncontrollable and rapidly changing risks, events, and circumstances. The following factors, among others, could adversely affect our business, financial condition and results of operatio ● difficulties in managing foreign operations and attracting and retaining appropriate levels of senior management and staffing; ● longer cash collection cycles; ● proper compliance with local tax laws which can be complex and may result in unintended adverse tax consequences; ● difficulties in enforcing agreements through foreign legal systems; ● failure to properly comply with U.S. and foreign laws and regulations applicable to our foreign activities including, without limitation, product approval, healthcare and employment law requirements and the Foreign Corrupt Practices Act; ● fluctuations in exchange rates that may affect product demand and may adversely affect the profitability in U.S. dollars of the products we provide in foreign markets; ● the ability to efficiently repatriate cash to the United States and transfer cash between foreign jurisdictions; and ● changes in general economic conditions or political circumstances in countries where we operate. Our acquisition of other companies could require significant management attention, disrupt our business, dilute stockholder value and adversely affect our operating results. As part of our business strategy, we recently made and may in the future acquire or make investments in other companies, solutions or technologies to, among other reasons, expand or enhance our product offerings. In the future, any significant acquisition would require the consent of our lenders. Any failure to receive such consent could delay or prohibit us from acquiring companies that we believe could enhance our business. We may not ultimately strengthen our competitive position or achieve our goals from our recent or any future acquisition, and any acquisitions we complete could be viewed negatively by users, customers, partners or investors. In addition, if we fail to integrate successfully such acquisitions, or the technologies associated with such acquisitions, into our company, the revenues and operating results of the combined company could be adversely affected. For example, we recently acquired Kestrel Labs, Inc. and we must effectively integrate the personnel, products, technologies and customers and develop and motivate new employees. In addition, we may not be able to successfully retain the customers and key personnel of such acquisitions over the longer term, which could also adversely affect our business. The integration of our recently-acquired business or future-acquired business will require significant time and resources, and we may not be able to manage the process successfully. We may not successfully evaluate or utilize the acquired business and accurately forecast the financial impact of the acquisition, including accounting charges. 19 Table of Contents We may have to pay cash, incur debt or issue equity securities to pay for any acquisition, each of which could affect our financial condition or the value of our capital stock. For example, in connection with our acquisition of Kestrel Labs, Inc., we paid an approximate value of $30.5 million, consisting of $16.1 million in cash which was financed through Bank of America N.A. and approximately $14.4 million in Zynex common stock, a portion of which is held in escrow until certain milestones are achieved. To fund any future acquisition, we may issue equity, which would result in dilution to our stockholders, or incur more debt, which would result in increased fixed obligations and could subject us to additional covenants or other restrictions that would impede our ability to manage our operations. If we are not able to integrate acquired businesses successfully, our business could be harmed. Our inability to successfully integrate our recent and future acquisitions could impede us from realizing all of the benefits of those acquisitions and could severely weaken our business operations. The integration process may disrupt our business and, if implemented ineffectively, may preclude realization of the full benefits expected by us and could harm our results of operations. In addition, the overall integration of the combining companies may result in unanticipated problems, expenses, liabilities, and competitive responses, and may cause our stock price to decline. The difficulties of integrating an acquisition include, among othe ● unanticipated issues in integration of information, communications, and other systems; ● unanticipated incompatibility of logistics, marketing, and administration methods; ● maintaining employee morale and retaining key employees; ● integrating the business cultures of both companies; ● preserving important strategic client relationships; ● consolidating corporate and administrative infrastructures and eliminating duplicative operations; and ● coordinating geographically separate organizations. In addition, even if the operations of an acquisition are integrated successfully, we may not realize the full benefits of the acquisition, including the synergies, cost savings, or growth opportunities that we expect. These benefits may not be achieved within the anticipated time frame, or at all. For example, the failure to get regulatory approval to sell certain products of an acquired business may significantly reduce the anticipated benefits of the acquisition and could harm our results of operations, even if we have put in place contingencies for the delivery of closing consideration, such as the escrowed shares held back in our acquisition of Kestrel Labs, Inc. Further, acquisitions may also cause us t ● issue securities that would dilute our current stockholders’ ownership percentage; ● use a substantial portion of our cash resources; ● increase our interest expense, leverage, and debt service requirements if we incur additional debt to pay for an acquisition; ● assume liabilities, including environmental liabilities, for which we do not have indemnification from the former owners or have indemnification that may be subject to dispute or concerns regarding the creditworthiness of the former owners; ● record goodwill and non-amortizable intangible assets that are subject to impairment testing on a regular basis and potential impairment charges; ● experience volatility in earnings due to changes in contingent consideration related to acquisition liability estimates; ● incur amortization expenses related to certain intangible assets; ● lose existing or potential contracts as a result of conflict of interest issues; ● incur large and immediate write-offs; or ● become subject to litigation. Our failure to comply with the covenants contained in our loan agreement could result in an event of default that could adversely affect our financial condition and ability to operate our business as planned. We currently have an outstanding term loan and line of credit with Bank of America, N.A. under which we are obligated to pay monthly amortization payments. Our loan agreement contains, and any agreements to refinance our debt likely will contain, financial and restrictive covenants. Our failure to comply with these covenants in the future may result in an event of default, which if not cured or waived, could result in the bank preventing us from accessing availability under our line of credit and requiring us to repay any outstanding borrowings. There can be no assurance that we will be able to obtain waivers in the event of covenant violations or that such waivers will be available on commercially acceptable terms. 20 Table of Contents In addition, the indebtedness under our loan agreement is secured by a security interest in substantially all of our tangible and intangible assets, and therefore, if we are unable to repay such indebtedness the bank could foreclose on these assets and sell the pledged equity interests, which would adversely affect our ability to operate our business. If any of these were to occur, we may not be able to continue operations as planned, implement our planned growth strategy or react to opportunities for or downturns in our business. Changes in financial accounting standards or practices may cause adverse, unexpected financial reporting fluctuations and affect our reported results of operations. We are required to prepare our financial statements in accordance with generally accepted accounting principles in the United States of America (“GAAP”), which is periodically revised and/or expanded. From time to time, we are required to adopt new or revised accounting standards issued by recognized authoritative bodies, including the Financial Accounting Standards Board (“FASB”) and the SEC. It is possible that future accounting standards we are required to adopt may require additional changes to the current accounting treatment that we apply to our financial statements and may require us to make significant changes to our reporting systems. Such changes could result in a material adverse impact on our business, results of operations and financial condition. RISKS RELATING TO OUR COMMON STOCK Sales of significant amounts of shares held by Mr. Sandgaard, or the prospect of these sales, could adversely affect the market price of our common stock Sales of significant amounts of shares held by Mr. Sandgaard, or the prospect of these sales, could adversely affect the market price of our common stock. Mr. Sandgaard’s stock ownership may discourage a potential acquirer from making a tender offer or otherwise attempting to obtain control of the Company, which in turn could reduce our stock price or prevent our stockholders from realizing a premium over our stock price. Our existing shareholders may experience dilution if we elect to raise equity capital Due to our past liquidity issues, we have had to raise capital in the form of debt and/or equity to meet our working capital needs. As recent as July 2020, we did raise capital through the issuance of equity to meet our working capital needs and to execute on our business strategy. We may also choose to issue equity or debt securities in the future to meet our liquidity or other needs which would result in additional dilution to our existing stockholders. Although we will attempt to minimize the dilutive impact of any future capital-raising activities, we cannot offer any assurance that we will be able to do so. We may have to issue additional shares of our common stock at prices at a discount from the then-current market price of our common stock. If we raise additional working capital, existing shareholders may experience dilution. We paid a dividend on our common stock, and cash used to pay dividends will not be available for other corporate purposes In 2018, our Board of Directors declared a special one-time dividend of $0.07 per share, which was paid in January 2019. In 2021, our Board of Directors declared a special one-time dividend of $0.10 per share, which was paid in January 2022. The decision to pay dividends in the future will depend on general business conditions, the impact of such payment on our financial condition, and other factors our Board of Directors may consider. If we elect to pay future dividends, this could reduce our cash reserves to levels that may be inadequate to fund expansions to our business plan or unanticipated contingent liabilities. Our stock price could become more volatile and your investment could lose value. All of the factors discussed in this section could affect our stock price. A significant drop in our stock price could also expose us to the risk of securities class actions lawsuits, which could result in substantial costs and divert management’s attention and resources, which could adversely affect our business ITEM 1B. UNRESOLVED STAFF COMMENTS None. 21 Table of Contents ITEM 2. PROPERTIES In October 2017, we signed a lease for a corporate headquarters in Englewood, Colorado beginning in January 2018. In March 2019, we signed an amendment to this lease, which allowed the Company to expand its corporate offices. An additional amendment was entered into on January 3, 2020 which expanded our corporate offices to approximately 85,681 square feet. During 2021, we moved our corporate headquarters to a new location, however, we continue to use the leased property for ZMS operations. The lease and subsequent amendments continue through June 30, 2023 with an option for a two-year extension through June 2025. In addition to our corporate headquarters, we entered into a lease agreement for a warehouse and production facility with approximately 50,488 square feet in September 2020. The lease continues through June 2026 with an option for a five-year extension through June 2031. In April 2021, we signed a sublease for a new corporate headquarters in Englewood, Colorado beginning in May 2021 for up to approximately 110,754 square feet. This lease runs through April 2028. We believe these leased properties are sufficient to support our current requirements and that we will be able to locate additional facilities as needed. See Note 11 to the Consolidated Financial Statements for additional information on these leases. ITEM 3. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 4. MINE SAFETY DISCLOSURES Not applicable. PART II ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES On February 12, 2019, our common stock began trading on The Nasdaq Capital Market under the symbol “ZYXI”. Prior to uplisting to the Nasdaq Capital Market, the Company’s common stock was quoted on the OTCQB (managed by OTC Markets, Inc) under the symbol “ZYXI.” As of March 18, 2022, there were 39,784,068 shares of common stock outstanding and approximately 267 record holders of our common stock. Recent Sales of Unregistered Securities None. Purchases of Equity Securities by the Issuer and Affiliated Purchasers None. Dividends Our Board of Directors declared a one-time special cash dividend of $0.07 per share during the fourth quarter of 2018, which was paid in January 2019 and a one-time cash dividend of $0.10 per share and a 10% stock dividend during the fourth quarter of 2021, which was paid out and issued in January 2022. There can be no guarantee that we will continue to pay dividends. Any future determination to pay cash dividends will be at the discretion of the Board of Directors and will be dependent upon our financial condition, results of operations, capital requirements and such other factors as the Board deems relevant. 22 Table of Contents ITEM 6. [RESERVED] Not required. ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This Annual Report on Form 10-K contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain FDA clearance and CE marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, and other risks described herein and included in “Item 1A-Risk Factors.” OVERVIEW We operate in one primary business segment, electrotherapy and pain management products. As of December 31, 2021, the Company’s only active subsidiary is ZMI, a wholly-owned Colorado corporation, through which the Company conducts its U.S. electrotherapy and pain management operations. ZMS, a wholly-owned Colorado corporation, has developed a fluid monitoring system, which has received two utility patents and FDA approval in the U.S. ZMS also acquired Kestrel during 2021, which had two pulse-oximeter products they are developing and numerous patents. However, ZMS has achieved no revenues to date. The following information should be read in conjunction with our Consolidated Financial Statements and related notes contained in this Annual Report. HIGHLIGHTS During the year ended December 31, 2021, the Company achieved the followin ZMI ● Achieved an 89% increase in order growth, 63% growth in revenue and 88% growth in net income compared to the prior year; ● Due to strong results and related cash flow, we declared a $0.10 cash dividend and a 10% stock dividend in November 2021; ● We moved into a larger corporate office to accommodate order and revenue growth by increasing staffing at the corporate level; and ● Expanded our pain management product line by adding knee braces. 23 Table of Contents ZMS ● Filed for FDA approval of the CM-1600 laser-based fluid monitoring system; and ● Acquired Kestrel Labs, Inc. on December 22, 2021 for an approximate value of $30.5 million, consisting of $16.1 million in cash which is being financed through Bank of America N.A. and approximately $14.4 million in Zynex common stock. SUMMARY Net revenue increased 63% in 2021 to $130.3 million from $80.1 million in 2020. Net income was $17.1 million and $9.1 million for the years ended December 31, 2021, and 2020, respectively. We generated cash flows from operating activities of $6.9 million during the year ended December 31, 2021. Increased orders for our devices and supplies and the related receivables and cash flows, which allowed us to grow our working capital at December 31, 2021 to $59.8 million, compared to $52.9 million as of December 31, 2020. RESULTS OF OPERATIONS The following table presents our consolidated statements of operations in comparative format (in thousands). For the Years Ended December 31, $ 2021 2020 change NET REVENUE Devices $ 36,613 $ 21,269 $ 15,344 Supplies 93,688 58,853 34,835 Total net revenue 130,301 80,122 50,179 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue – devices and supplies 27,321 17,417 9,904 Sales and marketing 54,290 34,133 20,157 General and administrative 26,324 18,323 8,001 Total costs of revenue and operating expenses 107,935 69,873 38,062 Income from operations 22,366 10,249 12,117 Other income/(expense) Loss on disposal of non-controlling interest — (77) 77 Interest expense (95) (19) (76) Other income/(expense), net (95) (96) 1 Income from operations before income taxes 22,271 10,153 12,118 Income tax expense 5,168 1,079 4,089 Net Income $ 17,103 $ 9,074 $ 8,029 Net income per sh Basic $ 0.45 $ 0.24 $ 0.20 Diluted $ 0.44 $ 0.24 $ 0.20 Weighted average basic shares outstanding 38,317 37,256 1,061 Weighted average diluted shares outstanding 39,197 38,438 759 24 Table of Contents The following table presents our consolidated statements of operations reflected as a percentage of total reve For the Years Ended December 31, 2021 2020 NET REVENUE Devices 28 % 27 % Supplies 72 % 73 % Total net revenue 100 % 100 % COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue – devices and supplies 21 % 22 % Sales and marketing 42 % 43 % General and administrative 20 % 23 % Total costs of revenue and operating expenses 83 % 87 % Income from operations 17 % 13 % Other income/(expense) Loss on disposal of non-controlling interest 0 % 0 % Interest expense 0 % 0 % Other income/(expense), net 0 % 0 % Income from operations before income taxes 17 % 13 % Income tax expense 4 % 1 % Net Income 14 % 11 % Net income per sh Basic 0.45 0.24 Diluted 0.44 0.24 Weighted average basic shares outstanding 38,317 37,256 Weighted average diluted shares outstanding 39,197 38,438 Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the health care industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the Consolidated Financial Statements for a more complete explanation of our revenue recognition policies. 25 Table of Contents We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $50.2 million or 63% to $130.3 million for the year ended December 31, 2021, from $80.1 million for the year ended December 31, 2020. The growth in net revenue is primarily related to the 89% growth in device orders which led to an increased customer base and drove higher sales of consumable supplies. Device Revenue Device revenue is related to the purchase or lease of our electrotherapy products as well as complementary products including cervical traction, lumbar support and hot/cold therapy products. Device revenue increased $15.3 million or 72% to $36.6 million for the year ended December 31, 2021, from $21.3 million for the year ended December 31, 2020. The increase in device revenue is related to the growth in our device and complementary product orders of 89% from 2020 to 2021 as a result of greater sales representative productivity. Supplies Revenue Supplies revenue is related to the sale of supplies, typically electrodes and batteries, for our products. Supplies revenue increased $34.8 million or 59% to $93.7 million for the year ended December 31, 2021, from $58.9 million for the year ended December 31, 2020. The increase in supplies revenue is primarily related to growth in our customer base from higher device sales in 2021 and prior years. Operating Expenses Costs of Revenue –Devices and Supplies Costs of revenue – devices and supplies consist primarily of device and supplies costs, operations labor and overhead, shipping and depreciation. Costs of revenue increased $9.9 million or 57% to $27.3 million for the year ended December 31, 2021, from $17.4 million for the year ended December 31, 2020. The increase in costs of revenue is directly related to the increase in device and supplies orders as well as our new production and inventory facility which opened in January 2021. As a percentage of revenue, cost of revenue –devices and supplies decreased to 21% for the year ended December 31, 2021 compared to 22% for the year ended December 31, 2020. The decrease in cost of revenue – devices and supplies as a percentage of revenue was due to expanding our supplier portfolio mix and reducing supply costs. Sales and Marketing Expense Sales and marketing expense primarily consists of employee-related costs, including commissions and other direct costs associated with these personnel including travel and marketing expenses. Sales and marketing expense for the year ended December 31, 2021 increased 59% to $54.3 million from $34.1 million for the year ended December 31, 2020. The increase in sales and marketing expense is primarily due to increased payroll costs, related to increased average direct sales reps during the year and a full year of our regional sales managers which we began adding in 2020. We also increased our internal sales support functions to assist patients during the sales process. Increased orders resulted in higher sales commissions as well as travel expenses. As a percentage of revenue, sales and marketing expense decreased to 42% for the year ended December 31, 2021 from 43% for the year ended December 31, 2020. The decrease as a percentage of revenue is primarily due to the increase in revenue and our sales force becoming more productive. 26 Table of Contents General and Administrative Expense General and administrative expense primarily consists of employee related costs, facilities expense, professional fees and depreciation and amortization. General and administrative expense for the year ended December 31, 2021 increased 44% to $26.3 million from $18.3 million for the year ended December 31, 2020. The increase in general and administrative expense is primarily due to the followin ● an increase of $3.3 million in compensation and benefits expense, including non-cash stock compensation expense, related to headcount growth in ZMI and $0.7M in ZMS. During 2021, the Company increased its average employee headcount for its billing and patient support activities by approximately 55%, or 96 employees; ● an increase of $2.6 million in other expenses, including professional fees, research and development supplies, sales tax, temporary labor costs and other general and administrative costs associated with the increase in order volumes; and ● an increase of $1.1 million in rent and facilities expenses as we entered into a new corporate headquarters lease during 2021. Much of the increase in facilities was non-cash as we received 21 months of free rent on the new corporate headquarters but for GAAP purposes the rent over the lease term is expensed on a straight-line basis. As a percentage of revenue, general and administrative expense decreased to 20% for the year ended December 31, 2021 from 23% for the year ended December 31, 2020. The decrease as a percentage of revenue is primarily due to increased revenue and leveraging our investment in general and administrative functions from prior years. The Company expects that general and administrative expenses will continue to increase through 2022 as the Company continues to expand its corporate headcount to accommodate continued order growth. Other Income (Expense) Other expense was $95,000 for the year ended December 31, 2021, of which $41,000 was related to interest on our finance lease obligations, $13,000 was related to interest on new debt. Other expense was $96,000 for the year ended December 31, 2020. Income Tax Expense We recorded income tax expense of $5.2 million and $1.1 million for the years ended December 31, 2021 and 2020, respectively. The effective income tax rate for the years ended December 31, 2021 and 2020 was 24% and 10%, respectively. The increase in expense and effective rate during 2021 is primarily due to a decrease in deductions related to stock option exercises. During 2021, discrete items related to stock-based compensation was $0.2 million as compared with $1.7 million in 2020. FINANCIAL CONDITION As of December 31, 2021, we had working capital of $59.8 million, compared to $52.9 million as of December 31, 2020. The increase in working capital is primarily due to the Company’s profitability from increased orders and related revenue during 2021. The increase in working capital is net of a cash dividend declared of $3.6 million which was paid in January 2022. We generated $6.9 million in operating cash flows during 2021. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. As of December 31, 2021, our principal source of liquidity was $42.6 million in cash and $28.6 million in accounts receivables. The increased cash balance at December 31, 2021 was primarily due to the profitability during the year as a result of increased orders and improved sales rep productivity. 27 Table of Contents Upon closing on the Kestrel acquisition we entered into a loan and credit facility agreement with Bank of America, N.A. The credit facility includes a line of credit in the amount of $4.0 million available until December 1, 2024. The loan is a fixed rate term loan in the amount of $16.0 million and has an interest rate equal to 2.8% per year. The term loan is payable in equal principal installments of $444,444 per month through December 1, 2024 plus interest on the first day of each month beginning January 1, 2022. See Note 7. Our anticipated uses of cash in the future will be to fund the expansion of our business. The Company does not anticipate any large expenditures for capital resources over the next 12 months. Net cash provided by operating activities for the years ended December 31, 2021 and 2020 was $6.9 million and $0.8 million, respectively. The increase in cash provided by operating activities for the year ended December 31, 2021 was primarily due to increased profitability in 2021 and an increase in non-cash lease expense and depreciation. The increase in cash provided by operating activities was partially offset by an increase in AR and Inventory. Cash provided by operating activities for the year ended December 31, 2020 was primarily due to profitability, which was offset by increased accounts receivable due to revenue growth. Net cash used in investing activities for the years ended December 31, 2021 and 2020 was $16.6 million and $1.0 million, respectively. Cash used in investing activities for the year ended December 31, 2021 was primarily related to the acquisition of Kestrel and the purchase of computer, office and warehouse equipment. Cash used in investing activities for the year ended December 31, 2020 was primarily related to the purchase of computer and office equipment. Net cash provided by financing activities for the year ended December 31, 2021 was $13.1 million compared with net cash provided by financing activities of $25.3 million for the year ended December 31, 2020. The cash provided by financing activities of $13.1 million for the year ended December 31, 2021 was primarily due to net proceeds from debt assumed in the Kestrel acquisition of $16.0 million, which is slightly offset by the purchase of treasury stock totaling $2.7 million. The $25.3 million of cash provided by financing activities for the year ended December 31, 2020 was primarily due to an equity offering in July 2020 for net proceeds of $25.2 million along with net proceeds from the exercise of stock options of $0.1 million. During 2021 there was no equity offering. We believe our cash, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash balance at December 31, 2021 of $42.6 million; ● Our working capital balance of $59.8 million; ● Our accounts receivable balance of $28.6 milli ● Our increasing profitability over the last 6 years; and ● Our planned capital expenditures of less than $1.0 million during 2022. 28 Table of Contents Contractual Obligations The following table summarizes the future cash disbursements to which we are contractually committed as of December 31, 2021 (in thousands). Total 2022 2023 2024 2025 2026 Thereafter Operating leases 21,190 3,569 2,982 3,496 3,567 3,362 4,214 Finance leases 513 154 152 116 76 15 — $ 21,703 $ 3,723 $ 3,134 $ 3,612 $ 3,643 $ 3,377 $ 4,214 We lease office and warehouse facilities under non-cancelable operating leases. The current office facility leases include our corporate headquarters and a production warehouse, both located in Englewood, Colorado. We also rent a small warehouse/office in Denmark. Rent expense was $3.5 million and $1.7 million for the years ended December 31, 2021 and 2020, respectively. A portion of the increase in facilities was non-cash as we received 21 months of free rent on the new corporate headquarters but for GAAP purposes the rent over the lease term is expensed on a straight-line basis. The Company also leases office equipment for its corporate and warehouse facilities under non-cancelable finance lease agreements. Off – Balance Sheet Arrangements As of December 31, 2021, and 2020, we had no off-balance sheet arrangements or obligations. CRITICAL ACCOUNTING POLICIES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with GAAP. We have identified the policies below as critical to our business operations and the understanding of our results of operations. Revenue Recognition and Accounts Receivable Revenue is generated primarily from sales and leases of our electrotherapy devices and related supplies and complementary products. Sales are primarily made with, and shipped, direct to the patient with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contract with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. Device Sales Device sales can be in the form of a purchase or a lease. Revenue for purchased devices is recognized in accordance with Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (ASC 606) when the device is delivered to the patient. 29 Table of Contents Revenue related to devices out on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, we concluded our transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since our leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Supplies Supplies revenue is recognized once delivered to the patient. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. Variable consideration A significant portion of the Company’s revenues are derived, and the related receivables are due, from patients with commercial or government health insurance plans. Revenues are estimated using the portfolio approach by third party payer type based upon historical rates of collection, the aging of receivables, trends in the historical reimbursement rates by third-party payer types and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Due to continuing changes in the health care industry and third-party payer reimbursement, it is possible our forecasting model to estimate collections could change, which could have an impact on our results of operations and cash flows. Any differences between estimated settlements and final determinations are reflected as an increase or a reduction to revenue in the period when such final determinations are known. Historically these differences have been immaterial and the Company has not had to go back and reassess the adjustments of future periods for past billing adjustments. The Company monitors the variability and uncertain timing over third-party payer types in our portfolios. If there is a change in our third-party payer mix over time, it could affect our net revenue and related receivables. We believe we have a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. 30 Table of Contents Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved. Income Taxes Significant judgment is required in determining our provision for income taxes. We assess the likelihood that our deferred tax asset will be recovered from future taxable income, and to the extent we believe that recovery is not likely, we establish a valuation allowance. We consider future taxable income projections, historical results and ongoing tax planning strategies in assessing the recoverability of deferred tax assets. However, adjustments could be required in the future if we determine that the amount to be realized is less or greater than the amount that we recorded. Such adjustments, if any, could have a material impact on our results of our operations. We use a recognition threshold and a measurement attribute for the financial statement recognition and measurement of tax positions taken or expected to be taken in a tax return. For those benefits to be recognized, a tax position must be more-likely-than-not to be sustained upon examination by taxing authorities. Acquisition Method of Accounting for Business Combinations We allocate the purchase price of acquired companies to the tangible and intangible assets acquired and liabilities assumed based on their estimated fair values. The excess of the purchase price over these fair values is recorded as goodwill. We engage independent third-party valuation specialists to assist us in determining the fair values of certain assets acquired and liabilities assumed. Such valuation require management to make significant estimates and assumptions, especially with respect to intangible assets. Different valuations approaches are used to value different types of intangible assets. Under the income approach, the relief from royalty method is a valuation technique which is used to estimate the value of certain intangible assets. This method utilizes projected financial information and hypothetical royalty rates to estimate the cost savings associated with asset ownership. The estimated cost savings are discounted for risk and the time value of money to estimate an intangible asset’s fair value. Management’s estimates of fair value are based upon assumptions believed to be reasonable, but which are inherently uncertain and unpredictable. If we do not achieve the results reflected in the assumptions and estimates, our goodwill impairment evaluations could be adversely affected, and we may impair a portion or all of our intangible assets, which would adversely affect our operating results in the period of impairment. Impairment of Long-lived Assets, including Goodwill We assess impairment of goodwill annually and other long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Long-lived assets consist of property and equipment, net and goodwill and intangible assets. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Contingent considerations We classify contingent consideration liabilities related to business acquisitions within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. We estimate the fair value of contingent consideration liabilities using a Monte Carlo simulation which is based on equity volatility, the risk-free rate, the normal variate, projected milestone dates, discount rates, and probabilities of payment. 31 Table of Contents ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK As a “Smaller Reporting Company”, this Item and the related disclosure is not required. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The consolidated financial statements, the notes thereto, and the report thereon of Plante & Moran, PLLC, are filed as part of this report starting on page F-1. ITEM 9. CHANGES IN ACCOUNTANTS None. ITEM 9A. CONTROLS AND PROCEDURES Evaluation of disclosure controls and procedures. We maintain “disclosure controls and procedures,” as such term is defined in Rule 13a-15(e) and 15d-15(f) under the Securities Exchange Act of 1934 (the “Exchange Act”), that are designed to provide reasonable assurance that information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. Our management, with the participation of the Chief Executive Officer and the Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures as of the end of the period covered by this Annual Report on Form 10-K. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were effective as of the end of such period. In designing and evaluating our disclosure controls and procedures, management recognized that disclosure controls and procedures, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the disclosure controls and procedures are met. Additionally, in designing disclosure controls and procedures, we are required to apply judgment in evaluating the cost-benefit relationship of possible disclosure controls and procedures. The design of any disclosure controls and procedures also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Management’s report on internal control over financial reporting. Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f). All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the 2013 framework set forth in the report entitled Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). The COSO framework summarizes each of the components of a company’s internal control system, including (i) the control environment, (ii) risk assessment, (iii) control activities, (iv) information and communication, and (v) monitoring. Based on our evaluation under the 2013 framework in Internal Control — Integrated Framework, our management concluded that our internal control over financial reporting was effective as of December 31, 2021. Changes in Internal Control over Financial Reporting During the quarter ended December 31, 2021, there was no change in our internal control over financial reporting or in other factors that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 32 Table of Contents ITEM 9B. OTHER INFORMATION None. ITEM 9C. DISCLOSURE REGARDING FOREIGN JURISDICTIONS THAT PREVENT INSPECTIONS Not applicable. PART III ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2021 in connection with the solicitation of proxies for the Company’s 2022 annual meeting of shareholders and is incorporated herein by reference. ITEM 11. EXECUTIVE COMPENSATION The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2021 and is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS. EQUITY COMPENSATION PLAN INFORMATION The following table provides information as of December 31, 2021 regarding shares of common stock available for issuance under our equity incentive plans (in thousands except exercise price) Number of Number of Securities Securities to be Remaining Available Issued Upon Weighted for Future Issuance Exercise of Average Exercise Under Equity Outstanding Price of Compensation Plans Options, Outstanding (excluding securities Warrants Options, Warrants reflected in the first and Rights and Rights column) Plan Category 2005 Stock Option Plan (1) (2) 325 $ 0.27 — Equity Compensation Plans not approved by Shareholders 28 0.22 — Warrants 99 2.40 2017 Stock Option Plan (3) 867 1.09 3,937 Total 1,319 $ 0.97 3,937 (1) All of these securities are available for issuance under the Zynex, Inc. 2005 Stock Option Plan, approved by the Board of Directors on January 3, 2005 and by our stockholders on December 30, 2005. (2) As of December 31, 2014, the 2005 Stock Option Plan was terminated. Termination of the plan did not affect the rights and obligations of the participants and the company arising under options previously granted. (3) The 2017 Stock Option Plan was approved by shareholders on June 1, 2017. The additional information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2021 and is incorporated herein by reference. 33 Table of Contents ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2021 and is incorporated herein by reference. The Board of Directors has determined that Messrs. Cress, Disbrow and Michaels who together comprise the Audit Committee, are all “independent directors” within the meaning of Rule 5605 of the NASDAQ Listing Rules. ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2021 and is incorporated herein by reference. 34 Table of Contents PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES Consolidated Financial Statements: Report of Independent Registered Public Accounting Firm ( Plante & Moran, PLLC , Denver, CO PCAOB firm ID 166 ) F-1 Consolidated Balance Sheets as of December 31, 2021 and 202 0 F-4 Consolidated Statements of Income for the years ended December 31, 2021 and 202 0 F-5 Consolidated Statements of Cash Flows for the years ended December 31, 2021 and 202 0 F-6 Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2021 and 202 0 F-7 Notes to Consolidated Financial Statements F-8 Exhibits: Exhibit Number Description 2.1 Asset Purchase Agreement, dated March 9, 2012, among Zynex NeuroDiagnostics, Inc., NeuroDyne Medical Corp. and the shareholders listed on Schedule A thereto (incorporated by reference to Exhibit 10.1 of the Company’s Current Report on Form 8-K filed on March 13, 2012) 3.1 Amended and Restated Articles of Incorporation (incorporated by reference to Exhibit 10.1 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 3.2 Amended and Restated Bylaws (incorporated by reference to Exhibit 10.2 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 4.1 Zynex, Inc 2017 Stock Incentive Plan (incorporated by reference to Exhibit 4.1 to the Company’s Report on form S-8 filed on September 6, 2017) 4.2* Description of registrant’s securities registered pursuant to Section 12 of the Securities Exchange Act of 1934 10.1† 2005 Stock Option Plan (incorporated by reference to Exhibit 10.5 of the Company’s Annual Report on Form 10-KSB for the year ended December 31, 2004) 10.2† Form of Indemnification Agreement for directors and executive officers (incorporated by reference to Exhibit 10.3 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 10.3† Employment agreement for Daniel J. Moorhead dated June 5, 2017 (incorporated by reference of Exhibit 10.1 to the Company’s Report on Form 8K filed on June 8, 2017) 10.4 Office Lease, effective October 20, 2017, between CSG Systems, Inc. and Zynex Medical, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on October 26, 2017). 10.5 Zynex, Inc. Non-Employee Director Compensation Plan (incorporated by reference to Exhibit 10.1 to the Company’s Report on Form 8-K filed on January 11, 2018) 10.6 Equity Distribution Agreement, dated October 29, 2019 between Zynex, Inc. and Piper Jaffray & Co. (incorporated by reference to Exhibit 1.1 of the Company’s Current Report on Form 8-K filed on October 29, 2019) 10.7 Amendment to Sublease Agreement, effective January 3, 2020, between CSG Systems, Inc. and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on January 7, 2020 35 Table of Contents Exhibit Number Description 10.8 Underwriting Agreement dated July 14, 2020, among certain selling stockholders, Piper Sandler & Co., and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on July 17, 2020) 10.9 Lease Agreement, effective September 30, 2020, between GIG CW Compark, LLC and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on October 6, 2020). 10.10 Sublease Agreement between Zynex, Inc. and Cognizant Trizetto Software Group, Inc. dated April 8, 2021 (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on April 9, 2021) 10.11 Stock Purchase Agreement by and among Kestrel Labs, Inc., Zynex Monitoring Solutions Inc., Zynex, Inc. and Selling Shareholders named herein dated as of December 22, 2021 (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on December 23, 2021) 10.12 The Loan Agreement and accompanying documents dated December 22, 2021 among Bank of America N.A., Zynex Medical, Inc., and Zynex Monitoring Solutions (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on December 30, 2021) 36 Table of Contents Exhibit Number Description 21* Subsidiaries of the Company 23.1* Consent of Plante & Moran, PLLC, Independent Registered Public Accounting Firm (Filed herewith) 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1* Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2* Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB* XBRL Taxonomy Label Linkbase Document 101.PRE* XBRL Presentation Linkbase Document 101.DEF* XBRL Taxonomy Extension Definition Linkbase Document 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith † Denotes management contract or compensatory plan or arrangement ITEM 16. FORM 10-K SUMMARY None. 37 Table of Contents SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ZYNEX, INC. Date: March 21, 2022 By : /s/ Thomas Sandgaard Thomas Sandgaard Chairman, President Chief Executive Officer and Principal Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Date Name and Title Signature March 21, 2022 Thomas Sandgaard, /s/ Thomas Sandgaard Chairman, President, Chief Executive Officer and Principal Executive Officer March 21, 2022 Daniel Moorhead /s/ Daniel Moorhead Chief Financial Officer and Principal Financial Officer March 21, 2022 Barry D. Michaels /s/ Barry D. Michaels Director March 21, 2022 Michael Cress /s/ Michael Cress Director March 21, 2022 Joshua R. Disbrow /s/ Joshua R. Disbrow Director 38 Table of Contents Report of Independent Registered Public Accounting Firm To the Stockholders and Board of Directors of Zynex, Inc. Opinion on the Financial Statements We have audited the accompanying consolidated balance sheets of Zynex, Inc. (the “Company”) as of December 31, 2021 and 2020, the related consolidated statements of income, stockholders' equity, and cash flows for each of the years in the two-year period ended December 31, 2021, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2021 and 2020, and the results of its operations and its cash flows for each of the years in the two-year period ended December 31, 2021, in conformity with accounting principles generally accepted in the United States of America. Basis for Opinion The Company's management is responsible for these financial statements. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion. Critical Audit Matters The critical audit matters communicated below are matters arising from the current period audit of the financial statements that were communicated or required to be communicated to the audit committee and that (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing a separate opinion on the critical audit matters or on the accounts or disclosures to which they relate. Estimation of Transaction Price and Variable Consideration for Revenue Recognition including related Valuation of Accounts Receivable – Refer to Note 2 to the Financial Statements Critical Audit Matter Description As described in Note 2 to the financial statements, revenue is derived from sales and leases of electrotherapy devices and sales of related supplies and complementary products. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. The Company estimates revenues using the portfolio approach based upon historical rates of collection, aging of receivables, product mix, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated variable consideration and relevant constraints for third-party payer refund requests, deductions and adjustments. F-1 Table of Contents We identified the Company's estimation of transaction price related to variable consideration for revenue recognition including the related valuation of accounts receivable as a critical audit matter. Auditing the Company's determination of variable consideration and the related constraint for revenue recognition including the recorded value for accounts receivable was challenging and complex due to the high degree of subjectivity involved in evaluating management’s estimates. This required a high degree of auditor judgment and increased extent of effort to audit and evaluate management’s key judgments. How the Critical Audit Matter Was Addressed in the Audit Our audit procedures related to revenue recognition and accounts receivable include the following, among othe ● We gained an understanding of the design of the controls over the Company's contracts with customers including those controls over the processes to develop key management estimates. ● We performed testing throughout the year on a sample of contracts to test the validity of sales transactions and cash receipts application. ● We also performed testing throughout the year on a quarterly basis over subsequent collections on recorded receivables. ● We evaluated the significant assumptions and the accuracy and completeness of the underlying data used in management’s calculations, including evaluating management’s estimate of historical reimbursement experience as well as expected future payment behavior through a combination of underlying data validation by inspection of source documents, independent recalculation of management’s analysis, review of correspondence with third-party payers, inquiries with management and evaluation of trends in collection rates and refund requests. ● We performed independent sensitivity analyses over the Company's significant assumptions embodied within their key estimates including evaluation of subsequent payment activity compared with management’s estimate of expected collection rates. Business Combination – Refer to Note 3 to the Financial Statements Critical Audit Matter Description As described in Note 3 to the financial statements, the Company acquired Kestrel Labs, Inc. (“Kestrel”) on December 22, 2021 for consideration of $30.5 million, including cash, stock and contingent consideration. The acquisition of Kestrel was accounted for under the acquisition method of accounting for business combinations. As such, assets acquired and liabilities assumed were recorded at their estimated fair values, including intangible assets of $10 million and contingent consideration of $9.7 million, as of the acquisition date. The contingent consideration consisted of potential payments in common stock of the Company for achieving FDA submission and approval and is remeasured to fair value each reporting period. The determination of fair value of identified intangible assets and contingent consideration required management to make significant estimates and assumptions and engage a valuation firm to assist with estimating the fair value of the intangible asset and contingent consideration liability. We identified the valuation of the intangible asset and contingent consideration liability as a critical audit matter. Auditing the Company’s accounting for the acquisition of Kestrel was challenging and complex due to the degree of subjectivity involved in evaluating the estimation uncertainty and key assumptions involved in determining the fair value of acquisition-related contingent consideration and intangible assets. Auditing the key assumptions in management’s estimates required a high degree of auditor judgment and increased effort. How the Critical Audit Matter Was Addressed in the Audit Our audit procedures related to the assumptions impacting the fair value calculation of the acquisition-related contingent consideration and intangible asset included the following, among othe Related to valuation of the acquisition-related contingent consideration liability: ● We gained an understanding of the design of the controls over the Company's accounting for the acquisition including controls over the process to develop estimates for the contingent consideration. F-2 Table of Contents ● We inquired of management to understand each milestone and key assumptions, including current progress and any results received to date and stock price volatility. ● We evaluated the reasonableness of the key assumptions by comparing them (1) internal communications to management and the Board of Directors, (2) information included in the Company’s external communications, and (3) regulatory trends to consider the impact of changes in the regulatory environment on the key assumptions. ● We independently corroborated the reasonableness of the key assumptions by verifying the process and timing necessary to achieve each milestone. ● With the assistance of our fair value specialists, we evaluated the reasonableness of the significant valuation assumptions and calculations by o Evaluating the appropriateness of the method used for estimating fair value, o Evaluating the reasonableness of the valuation assumptions utilized, including the discount rate, and o Testing the completeness and mathematical accuracy of the model used to determine the estimated fair value of the contingent consideration. Related to the valuation of intangible ass ● We gained an understanding of the design of the controls over the Company's accounting for the acquisition including controls over the process to develop estimates for the intangible asset. ● We inquired of management and the Company’s personnel to understand the key assumptions, including revenue growth rates, projected margins, and the royalty rate. ● We evaluated whether the assumptions used were reasonable by considering industry data and current market forecasts, and whether such assumptions were consistent with evidence obtained in other areas of the audit. ● With the assistance of our fair value specialists, we evaluated the reasonableness of the significant valuation assumptions and calculations by o Evaluating the appropriateness of the method used for estimating fair value, o Evaluating the reasonableness of the valuation assumptions utilized, including the discount rate, and o Testing the completeness and mathematical accuracy of the calculation used to determine the estimated fair value of the intangible asset. /s/ Plante & Moran, PLLC We have served as the Company’s auditor since 2016. Denver, Colorado March 21, 2022 F-3 Table of Contents ZYNEX, INC. CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) December 31, December 31, 2021 2020 ASSETS Current assets: Cash $ 42,612 $ 39,173 Accounts receivable, net 28,632 13,837 Inventory, net 10,756 8,635 Prepaid expenses and other 689 1,378 Total current assets 82,689 63,023 Property and equipment, net 2,186 1,925 Operating lease asset 16,338 5,993 Finance lease asset 389 321 Deposits 585 347 Intangible assets, net of accumulated amortization 9,975 — Goodwill 20,401 — Deferred income taxes 711 566 Total assets $ 133,274 $ 72,175 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable and accrued expenses 4,739 4,709 Cash dividends payable 3,629 8 Operating lease liability 2,859 2,051 Finance lease liability 118 77 Income taxes payable 2,296 280 Current portion of debt 5,333 — Accrued payroll and related taxes 3,897 2,992 Total current liabilities 22,871 10,117 Long-term liabiliti Long-term portion of debt, less issuance costs 10,605 — Contingent consideration 9,700 — Operating lease liability 15,856 4,920 Finance lease liability 317 283 Total liabilities 59,349 15,320 Commitments and contingencies Stockholders' equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of December 31, 2021 and December 31, 2020 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,400,834 issued and 39,737,890 outstanding as of December 31, 2021 (including 3,606,970 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 39,739,368 issued and 38,244,310 outstanding as of December 31, 2020 (including 3,452,379 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 41 36 Additional paid-in capital 80,397 37,235 Treasury stock of 1,246,399 and 1,071,220 shares, at December 31, 2021 and 2020, respectively, at cost ( 6,513 ) ( 3,846 ) Retained earnings — 23,430 Total stockholders' equity 73,925 56,855 Total liabilities and stockholders' equity $ 133,274 $ 72,175 See accompanying notes to consolidated financial statements. F-4 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) YEARS ENDED DECEMBER 31, 2021 AND 2020 For the Years Ended December 31, 2021 2020 NET REVENUE Devices $ 36,613 $ 21,269 Supplies 93,688 58,853 Total net revenue 130,301 80,122 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 27,321 17,417 Sales and marketing 54,290 34,133 General and administrative 26,324 18,323 Total costs of revenue and operating expenses 107,935 69,873 Income from operations 22,366 10,249 Other income/(expense) Loss on disposal of non-controlling interest — ( 77 ) Interest expense ( 95 ) ( 19 ) Other income/(expense), net ( 95 ) ( 96 ) Income from operations before income taxes 22,271 10,153 Income tax expense 5,168 1,079 Net Income $ 17,103 $ 9,074 Net income per sh Basic $ 0.45 $ 0.24 Diluted $ 0.44 $ 0.24 Weighted average basic shares outstanding 38,317 37,256 Weighted average diluted shares outstanding 39,197 38,438 See accompanying notes to consolidated financial statements. F-5 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) YEARS ENDED DECEMBER 31, 2021 AND 2020 For the Years Ended December 31, 2021 2020 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 17,103 $ 9,074 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation 2,261 1,572 Amortization 25 — Non-cash reserve charges ( 107 ) ( 238 ) Stock-based compensation 1,630 2,681 Non-cash lease expense 1,398 2 Benefit for deferred income taxes ( 146 ) ( 54 ) Change in operating assets and liabilities, net of the effects of acquisitio Accounts receivable ( 14,781 ) ( 8,004 ) Prepaid and other assets 690 ( 724 ) Accounts payable and other accrued expenses 2,889 3,773 Inventory ( 3,776 ) ( 7,323 ) Deposits ( 237 ) ( 18 ) Other — 77 Net cash provided by operating activities 6,949 818 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 609 ) ( 985 ) Business acquisition, net of cash acquired ( 15,997 ) — Net cash used in investing activities ( 16,606 ) ( 985 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 98 ) ( 57 ) Cash dividends paid ( 1 ) — Purchase of treasury stock ( 2,667 ) — Debt issuance costs ( 16 ) — Proceeds from issuance of common stock under equity offering, net — 25,203 Proceeds from the issuance of common stock on stock-based awards 161 566 Proceeds from debt 15,953 — Taxes withheld and paid on employees' equity awards ( 236 ) ( 412 ) Net cash provided by financing activities 13,096 25,300 Net increase in cash 3,439 25,133 Cash at beginning of period 39,173 14,040 Cash at end of period $ 42,612 $ 39,173 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 82 ) $ ( 19 ) Cash paid for rent $ ( 2,109 ) $ ( 1,633 ) Cash paid for income taxes $ ( 3,305 ) $ ( 894 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 13,240 $ 3,834 Right-of-use assets obtained in exchange for new finance lease liabilities $ 175 $ 225 Inventory transferred to property and equipment under lease $ 1,587 $ 811 Capital expenditures not yet paid $ 47 $ — Accrual for cash dividend payable $ 3,622 $ — Contingent consideration related to acquisition $ 9,700 $ — Stock issued for acquisition $ ( 4,701 ) $ — Stock dividend $ ( 36,911 ) $ — See accompanying notes to consolidated financial statements. F-6 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (DEFICIT) YEARS ENDED DECEMBER 31, 2021 AND 2020 (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) Additional Non- Total Common Stock Paid-in Treasury Retained Controlling Stockholders' Shares Amount Capital Stock Earnings Interest Equity Balance at December 31, 2019 36,041,371 $ 34 $ 9,198 $ ( 3,846 ) $ 14,356 $ ( 89 ) $ 19,653 Stock issued for public offering, net of issuance cost 1,375,000 1 25,202 — — — 25,203 Exercised and vested stock-based awards 854,406 1 566 — — — 567 Stock-based compensation expense — — 2,681 — — — 2,681 Shares of common stock withheld to pay taxes on employees' equity awards ( 26,467 ) — ( 412 ) — — — ( 412 ) Deconsolidation of non-controlling interest — — — — — 89 89 Net income — — — — 9,074 — 9,074 Balance at December 31, 2020 38,244,310 $ 36 $ 37,235 $ ( 3,846 ) $ 23,430 $ — $ 56,855 Exercised and vested stock-based awards 234,388 1 160 — — — 161 Warrants exercised 11,000 — — — — — — Stock-based compensation expense — — 1,630 — — — 1,630 Shares of common stock withheld to pay taxes on employees' equity awards ( 44,414 ) — ( 236 ) — — — ( 236 ) Purchase of treasury stock ( 175,179 ) — — ( 2,667 ) — — ( 2,667 ) Stock issued for acquisition 489,262 — 4,701 — — — 4,701 Escrow shares issued for acquisition 978,523 — — — — — — Cash dividends declared ($ 0.10 per share) — — — — ( 3,622 ) — ( 3,622 ) Stock dividends declared — 4 36,907 — ( 36,911 ) — — Net income — — — — 17,103 — 17,103 Balance at December 31, 2021 39,737,890 $ 41 $ 80,397 $ ( 6,513 ) $ — $ — $ 73,925 See accompanying notes to consolidated financial statements. F-7 Table of Contents ZYNEX, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 2021 AND 2020 (1) ORGANIZATION, NATURE OF BUSINESS Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of December 31, 2021, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s' laser-based products include the NiCO™ CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx™, a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. Food and Drug Administration (“FDA”) for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on drugs and medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All of our medical devices are designed to be patient friendly and designed for home use. Our devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of our medical devices are marketed in the U.S. and are subject to FDA regulation and approval. Our products require a physician’s prescription before they can be dispensed in the U.S. Our primary product is the NexWave device. The NexWave is marketed to physicians and therapists by our field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the years ended December 31, 2021, and 2020, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and health care providers. The Company declared a 10 % stock dividend on November 9, 2021, which was effective on January 21, 2022. Except as otherwise indicated, all related amounts reported in the consolidated financial statements, including common share quantities, earnings per share amounts and exercise prices of options, have been retroactively adjusted for the effect of this stock dividend. (2) SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. F-8 Table of Contents Non-controlling Interest Non-controlling interest in the equity of a subsidiary is accounted for and reported as a decrease in shareholders’ equity. Prior years’ non-controlling interest represents the 20 % ownership in the Company’s majority-owned inactive subsidiary, Zynex Billing, Corp (ZBC). During 2020, the Company dissolved ZBC due to inactivity and has no plans to restart operations. As a result, the Company recorded a loss of $ 77,000 on the dissolution related to the 20 % non-controlling interest, less liabilities that were written off. Use of Estimates Preparation of financial statements in conformity with generally accepted accounting principles in the United States of America (“GAAP”), requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying consolidated financial statements are associated with the expected net collectable value of its accounts receivable and related revenue, inventory reserves, the life of its leased unit devices, stock-based compensation, and valuation of long-lived assets acquired in business combinations and realizability of deferred tax assets. Fair Value of Financial Instruments The Company’s financial instruments include cash, accounts receivable, accounts payable and accrued liabilities. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at fair value which approximates book value as the long-term debt bears market rates of interest. The Company classifies contingent consideration liabilities related to business acquisitions within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. The Company estimates the fair value of contingent consideration liabilities using a Monte Carlo simulation. Changes in the fair value of contingent liabilities in subsequent periods are recorded as a loss (gain) in the statements of operations. Cash The Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. Short-term investments include investments with maturities greater than three months, but not exceeding 12 months, or highly liquid investments with maturities greater than 12 months that the Company intends to liquidate during the next 12 months for working capital needs. Accounts Receivable, Net The Company’s accounts receivables represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company bills the patient’s third-party payer or the patient. Billing adjustments represent the difference between the list prices and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written off after several appeals, which in some cases may take longer than twelve months. Primarily all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a small portion related to private pay individuals, attorney and auto claims. F-9 Table of Contents Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. Following are the components of inventory as of December 31, 2021 and 2020: December 31, 2021 December 31, 2020 Raw materials $ 4,471 $ 3,213 Work-in-process 345 1,455 Finished goods 4,468 4,119 Inventory in transit 1,624 — $ 10,908 $ 8,787 L reserve ( 152 ) ( 152 ) $ 10,756 $ 8,635 The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories equal to the difference between the costs of inventories on hand and the estimated market value based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Property and Equipment Property and equipment is recorded at cost. Repairs and maintenance expenditures are charged to expense as incurred. We compute depreciation expense on a straight-line basis over the estimated useful lives of the assets as follows: Classification Estimated Useful Life Office furniture and equipment 5 to 7 years Assembly equipment 7 years Vehicles 5 years Leasehold improvements Shorter of useful life or term of lease Leased devices 9 months Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For our finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For our operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on our Consolidated Balance Sheets. For additional information on our leases where the Company is the lessee, see Note 11- Leases. A significant portion of our device revenue is derived from patients who obtain our devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with Accounting Standards Codification (“ASC”) 842, Leases. Using the guidance in ASC 842, we concluded our transactions should be accounted for as operating leases based on the following criteri ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. F-10 Table of Contents ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since our leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Intangible Assets and Goodwill The Company records intangible assets based on estimated fair value on the date of acquisition. The finite-lived intangible assets are amortized on a straight-line basis over the estimated lives of the assets. The indefinite-lived intangible assets are not subject to amortization but are subject to impairment testing in the future. Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Revenue Recognition Revenue is derived from sales and leases of our electrotherapy devices and sales of related supplies and complementary products. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of our devices and supplies is recognized once the product is delivered to the patient, which is when control is deemed to have transferred to our patient. Sales of our devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third-party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. The following table provides a breakdown of net revenue related to devices accounted for as purchases subject to ASC 606 and leases subject to ASC 842 (in thousands): For the Years Ended December 31, 2021 2020 Device revenue Purchased $ 9,240 $ 6,390 Leased 27,373 14,879 Total device revenue $ 36,613 $ 21,269 F-11 Table of Contents Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the health care industry and third-party payer reimbursement, it is possible our forecasting model to estimate collections could change, which could have an impact on our results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. A change in the way estimates are determined can result from a number of factors, including changes in the reimbursement policies or practices of third-party payers, or changes in industry rates of reimbursement. The Company monitors the variability and uncertain timing over third-party payer types in our portfolios. If there is a change in our third-party payer mix over time, it could affect our net revenue and related receivables. We believe we have a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints for billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Impairment of Long-lived Assets The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Long-lived assets consist of property and equipment, net and intangible assets. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Impairment of Goodwill The Company tests goodwill at least annually for impairment. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting F-12 Table of Contents period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved. Earnings Per Share We calculate basic earnings per share on the basis of the weighted-average number of shares of common stock outstanding during the period. Diluted earnings per share is calculated using the weighted-average number of shares of common stock outstanding for the period plus the effect of potential dilutive common shares during the period using the treasury stock method. Potential shares of common stock outstanding include unvested restricted stock awards, shares held in escrow, vested and unvested unexercised stock options and common stock purchase warrants. Research and Development Research and development costs are expensed when incurred. Research and development expense for the years ended December 31, 2021 and 2020 was approximately $ 2.6 million and $ 0.8 million, respectively. Research and development, which includes salaries related to research and development and raw materials, are included in general and administrative expenses on the consolidated statement of comprehensive income. Income Taxes We record deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying consolidated balance sheets, as well as any operating loss and tax credit carry-forwards. We measure deferred tax assets and liabilities using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. We reduce deferred tax assets by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. We recognize tax benefits from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. Recently Issued Accounting Pronouncements In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) ("ASU 2016-13"), Measurement of Credit Losses on Financial Instruments. The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren't measured at fair value through net income. The standard will replace today's "incurred loss" approach with an "expected loss" model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. This ASU is effective for annual periods beginning after December 15, 2022, and interim periods therein for smaller reporting companies. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Corporation is currently evaluating the impact that the adoption of ASU 2016-13 will have on our financial condition, results of operations and cash flows. Management has evaluated other recently issued accounting pronouncements and does not believe that this pronouncement will have a material impact on the Company’s consolidated financial statements. (3) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel Labs, Inc. (“Kestrel”) and each of the shareholders of Kestrel (collectively, the "Selling Shareholders"). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to ZMS. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,334,350 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 889,566 of the Zynex Shares are being deposited in escrow (the “Escrow Shares”). The number of Escrow Shares is subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the F-13 Table of Contents Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10,000,000 divided by a 30 -day volume weighted average closing price of the Zynex common stock. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the Food and Drug Administration (the “FDA”) for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon notification from the FDA finding the Device can be marketed and sold in the United States. The amount of escrow shares were recalculated at December 31, 2021, and are included in the calculation of diluted earnings per share. The maximum amount of Zynex shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares. The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. F-14 Table of Contents Summary of Purchase Consideration Presented below is a summary of the total purchase consideration for the Kestrel business combinations (in thousands except share data): Shares (1) Fair Value Cash Total Closing date cash — $ — $ 16,000 $ 16,000 Working capital distribution — — 78 78 Total cash paid — $ — $ 16,078 $ 16,078 Closing date equity Issued shares 444,784 4,701 — 4,701 Escrow shares 889,566 9,700 — 9,700 Total equity 1,334,350 $ 14,401 $ — $ 14,401 Total consideration 1,334,350 $ 14,401 $ 16,078 $ 30,479 (1) The amount of shares issued and included in escrow were not retroactively adjusted for the 10 % stock dividend declared on November 9, 2021 and issued on January 21, 2022. Purchase Price Allocations Presented below is a summary of the purchase price allocations for the Kestrel business combinations on the acquisition date (in thousands): Purchase Price Allocation Current assets: Cash $ 80 Accounts receivable 15 Prepaid expenses and other 1 Total current assets $ 96 Long-term assets: Identifiable intangible assets 10,000 Total assets acquired $ 10,096 Less liabilities assu Accounts payable ( 18 ) Net identifiable assets acquired 10,078 Goodwill 20,401 Net assets acquired $ 30,479 The fair value of the identifiable intangibles assets is primarily related to patents which will be amortized over a useful life of 11 years . The excess of the purchase price over the fair value of the net assets acquired was recorded as goodwill. The goodwill is attributable to the benefits the Company expects to realize by enhancing its product offering and addressable markets, thereby contributing to an expanded revenue base. F-15 Table of Contents Pro forma Information The unaudited pro forma information for the year ended December 31, 2021 and 2020 was calculated after applying impact of acquisition date fair value adjustments. The pro forma financial information presents the combined results of operations of Zynex and Kestrel as if the acquisition had occurred on January 1, 2020 after giving effect to certain pro forma adjustments. The pro forma adjustments reflected in the table below include only those adjustments that are factually supportable and directly attributable to the acquisition (in thousands): Year Ended December 31, (unaudited) 2021 2020 Revenue $ 130,811 $ 80,414 Net income $ 16,404 $ 7,568 These pro forma adjustments inclu (i) a net increase in amortization expense to record amortization expense for the aforementioned acquired identifiable intangible assets, (ii) a net increase in interest expense as a result of related to borrowings that were put into place as part of the acquisition, (iii) an adjustment to record the acquisition-related transaction costs of $ 0.3 million in the period required, and (iv) the tax effect of the pro forma adjustments using the anticipated effective tax rate. The effective tax rate of the combined company could be materially different from the rate presented in this unaudited pro forma combined financial information. As further information becomes available, any such adjustment described above could be material to the amounts presented in the unaudited pro forma combined financial statements. The pro forma information does not purport to be indicative of the results of operations that would have resulted had the combination occurred at the beginning of each period presented, or of future results of the consolidated entities. (4) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): December 31, 2021 December 31, 2020 Property and equipment Office furniture and equipment $ 2,391 $ 2,362 Assembly equipment 100 143 Vehicles 203 198 Leasehold improvements 1,054 559 Sales rep demo units — 361 Leased devices 1,080 809 $ 4,828 $ 4,432 Less accumulated depreciation ( 2,642 ) ( 2,507 ) $ 2,186 $ 1,925 The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units of which are still with patients for which the Company cannot determine the current status. Total depreciation expense related to our purchased property and equipment was $ 0.9 million and $ 0.7 million for the years ended December 31, 2021 and 2020, respectively. Total depreciation expense related to devices out on lease was $ 1.4 million and $ 0.8 million for the years ended December 31, 2021 and 2020, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. During the year ended December 31, 2021, the Company began expensing product demo units sent to its territory managers to use in the field. F-16 Table of Contents (5) GOODWILL AND OTHER INTANGIBLES During the year ended December 31, the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 3). As of December 31, 2021, there was no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of December 31, 2021. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents $ 10,000 $ ( 25 ) $ 9,975 11.0 The following table summarizes the estimated future amortization expense to be recognized over the next years and periods thereaf December 31, (In thousands) 2022 $ 908 2023 908 2024 911 2025 908 2026 908 Thereafter 5,432 Total future amortization expense $ 9,975 (6) EARNINGS PER SHARE The calculation of basic and diluted earnings per share for the years ended December 31, 2021 and 2020 are as follows (in thousands, except per share data): For the Years Ended December 31, 2021 2020 Basic earnings per share Net income available to common stockholders $ 17,103 $ 9,074 Basic weighted-average shares outstanding 38,317 37,256 Basic earnings per share $ 0.45 $ 0.24 Diluted earnings per share Net income available to common stockholders $ 17,103 $ 9,074 Weighted-average shares outstanding 38,317 37,256 Effect of dilutive securities - options and restricted stock 880 1,182 Diluted weighted-average shares outstanding 39,197 38,438 Diluted earnings per share $ 0.44 $ 0.24 F-17 Table of Contents For the years ended December 31, 2021 and 2020, 0.4 million and 0.2 million shares of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. The basic and diluted weighted-average shares outstanding for both periods presented have been updated to include the retroactive impact of the 10% common stock dividend declared on November 11, 2021. (7) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”). Under this Loan Agreement, the Bank is extending two facilities to the Borrowers. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). The Borrower will pay interest on Facility 1 on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of December 31, 2021, we had not utilized this facility. The other facility being extended by the Bank to the Borrower is a fixed rate term loan in the amount of up to $ 16.0 million (“Facility 2”). Facility 2 is available in one disbursement from the Bank and the interest rate is equal to 2.8 % per year. The Borrower must pay interest on the first day of each month beginning January 1, 2022 and the Borrower will also repay the principal amount in equal installments of $ 444,444 per month through December 1, 2024. Facility 2 was entered into in conjunction with the purchase of Kestrel Labs. The following table summarizes future principal payments on long-term debt as of December 31, 2021: December 31, (In thousands) 2022 $ 5,333 2023 5,333 2024 5,334 Future principal payments 16,000 Less current portion ( 5,333 ) Less debt issuance costs ( 62 ) Long-term debt, net of debt issuance costs $ 10,605 (8) STOCK-BASED COMPENSATION PLANS Zynex, Inc. 2017 Stock Incentive Plan The Company currently has one active long-term incentive plan. The Company’s 2017 Stock Incentive Plan (the “2017 Stock Plan”) is the Company’s equity compensation plan and provides for grants of stock-based awards to employees, directors and other individuals providing services to the Company. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. The 2017 Stock Plan mandates a maximum award term of 10 years and stipulates that stock options be granted with prices not less than fair market value on the date of grant. Stock option awards generally vest over four years . Restricted stock awards typically vest quarterly over three years for grants issued to members of our Board of Directors and quarterly or annually over two to four years for grants issued to employees. For stock option awards, all awards granted under the 2017 Stock Plan are stock-settled with common stock issued upon exercise. For restricted stock awards, shares are issued to the recipient upon grant with a restrictive legend and are not included in the calculation of outstanding shares until vesting occurs. At December 31, 2021, there were 3.9 million shares available for future grants under the 2017 Stock Plan. Zynex, Inc. 2005 Stock Option Plan The 2005 Stock Option Plan (the “2005 Stock Plan”) expired as of December 31, 2014. Vesting provisions of the expired plan were to be determined by the Board of Directors. All stock options under the 2005 Stock Plan expire no later than ten years from the date of grant. Options granted in 2015, 2016 and through May 2017 prior to the approval of the 2017 Stock Incentive Plan were approved and certified by the board of directors on September 6, 2017 under the existing 2005 Stock Plan. F-18 Table of Contents As of December 31, 2021, the Company had the following stock options outstanding and exercisab Outstanding Number of Options Exercisable Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 325 325 Equity Compensation Plans not approved by Shareholders 28 28 2017 Stock Option Plan 412 317 Total 765 670 The Company received $ 0.2 million cash proceeds related to option exercises during the year ended December 31, 2021. The Company received cash proceeds of $ 0.6 million related to option exercises during the year ended December 31, 2020. The Company did not grant any stock options during the year ended December 31, 2021. The Company granted 14,000 stock options during the year ended December 31, 2020. The Company used the Black Scholes option pricing model to determine the fair value of stock option grants, using the following assumptions for the year ended December 31, 2020: Weighted average expected term 6.79 years Weighted average volatility 117 % Weighted average risk-free interest rate 1.59 % Dividend yield 0 % The weighted average expected term of stock options represents the period of time that the stock options granted are expected to be outstanding based on historical exercise trends. The weighted average expected volatility is based on the historical price volatility of the Company’s common stock. The weighted average risk-free interest rate represents the U.S. Treasury bill rate for the expected term of the related stock options. The dividend yield represents the Company’s anticipated cash dividend over the expected term of the stock options. Forfeitures are accounted for as they occur. The following table summarizes stock-based compensation expenses recorded in the condensed consolidated statements of operations (in thousands): For the Years Ended December 31, 2021 2020 Cost of revenue $ 56 $ 37 Sales and marketing expense 155 424 General, and administrative 1,419 2,220 Total stock based compensation expense $ 1,630 $ 2,681 The excess tax benefit associated with our stock-based compensation plans for the years ended December 31, 2021 and 2020, was approximately $ 0.2 million and $ 1.7 million, respectively. F-19 Table of Contents A combined summary of stock option activity for all plans for the years ended December 31, 2021 and 2020 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Shares Strike Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding at December 31, 2019 2,041 $ 2.25 Granted 15 $ 9.23 Exercised ( 684 ) $ 0.82 Forfeited ( 265 ) $ 4.25 Outstanding at December 31, 2020 1,107 $ 2.76 6.47 $ 10,483 Outstanding at December 31, 2020 1,107 $ 2.76 Granted — $ — Exercised ( 116 ) $ 4.87 Forfeited ( 226 ) $ 6.45 Outstanding at December 31, 2021 765 $ 1.36 4.68 $ 5,896 Exercisable at December 31, 2021 670 $ 0.99 4.33 $ 5,412 Outstanding Weighted average Number of Remaining Weighted Average Options Contractual Weighted Average Exercisable Number of Remaining Exercisable Exercisable Range (in thousands) Life (years) Strike Price Options (in thousands) Contractual Life (years) Strike Price $ 0 to $ 2.00 495 3.54 $ 0.31 495 3.54 $ 0.31 $ 2.01 to $ 4.00 244 6.65 $ 2.72 167 6.48 $ 2.62 $ 4.01 to $ 10.00 26 7.92 $ 8.51 8 7.82 $ 8.21 765 4.68 $ 1.36 670 4.33 $ 0.99 A summary of our unvested stock options as of December 31, 2021 and 2020 and related activity is presented below : Non-vested Weighted Shares Weighted Average Aggregate Under Average Remaining Intrinsic Option Grant Date Contractual Value (in thousands) Fair Value Life (Years) (in thousands) Non-vested at December 31, 2019 979 $ 4.03 Granted 15 8.88 Vested ( 276 ) 3.34 Forfeited ( 244 ) 4.36 Non-vested at December 31, 2020 474 $ 4.35 7.97 $ 3,677 Non-vested at December 31, 2020 474 $ 4.35 Granted — — Vested ( 167 ) 1.93 Forfeited ( 212 ) 6.48 Non-vested at December 31, 2021 95 $ 3.85 7.17 $ 484 F-20 Table of Contents A summary of restricted stock award activity under the 2017 Stock Plan for the years ended December 2021 and 2020 are presented be Number of Shares Weighted Average (in thousands) Grant Date Fair Value Outstanding at December 31, 2019 112 $ 5.28 Granted 352 $ 11.75 Vested ( 169 ) $ 7.76 Outstanding at December 31, 2020 295 $ 11.53 Outstanding at December 31, 2020 295 $ 11.53 Granted 381 $ 14.15 Vested ( 119 ) $ 10.92 Forfeited ( 103 ) $ 12.40 Outstanding at December 31, 2021 454 $ 13.69 The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on the Restricted Stock Awards typically occurs quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. As of December 31, 2021, there was approximately $ 5.5 million of total unrecognized compensation costs related to unvested stock options and restricted stock. These costs are expected to be recognized over a weighted average period of 2.7 years. The total intrinsic value of stock option exercises for the years ended December 31, 2021 and 2020 was $ 1.0 million and $ 9.6 million, respectively. The total fair value of restricted stock awards vested during the years ended December 31, 2021 and 2020 was $ 1.3 million. (9) STOCKHOLDERS’ EQUITY Equity Offering On July 17, 2020, the Company completed an underwritten public offering of an aggregate 2.75 million shares of common stock at a public offering price of $ 20.00 per common share. In the offering, 1.38 million shares of common stock were sold by the Company and 1.37 million shares of common stock were sold by Sandgaard Holdings, LLC, which is 100 % controlled by Thomas Sandgaard, CEO and Chairman of the Board of Directors. Net proceeds to the Company, after deducting for direct costs associated with the offering, were $ 25.2 million. Common Stock Dividend The Company's Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Treasury Stock On March 8, 2021, our Board of Directors approved a program to repurchase up to $ 10.0 million of our common stock at prevailing market prices either in the open market or through privately negotiated transactions through September 8, 2021. From the inception of the plan through September 8, 2021, the Company purchased 175,179 shares of our common stock for $ 2.7 million or an average price of $ 15.22 per share. F-21 Table of Contents Warrants A summary of stock warrant activity for the years ended December 31, 2021 and 2020 are presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding at December 31, 2019 110 $ 2.39 4.77 $ 525 Granted — $ — Exercised — $ — Forfeited — $ — Outstanding and exercisable at December 31, 2020 110 $ 2.39 3.76 $ 1,084 Outstanding at December 31, 2020 110 $ 2.39 3.76 $ 1,084 Granted — $ — Exercised ( 10 ) $ 2.27 2.76 192 Forfeited (1) ( 1 ) $ 2.27 2.76 25 Outstanding and exercisable at December 31, 2021 99 $ 2.40 2.76 $ 660 (1) Warrants were exercised under a net exercise provision in the warrant agreement. As a result, approximately 1,000 warrants were forfeited in lieu of cash payment for shares. (10) INCOME TAXES The pre-tax income from continuing operations on which the provision for income taxes was computed is as follows (in thousands): 2021 2020 United States $ 22,295 $ 10,185 Foreign ( 24 ) ( 32 ) Total 22,271 10,153 Income tax expense consists of the following for the years ended December 31, 2021 and 2020 (in thousands): 2021 2020 Current tax expense: Federal $ 4,289 $ 841 State 1,025 292 Total tax expense: 5,314 1,133 Deferred tax expense/(benefit): Federal ( 135 ) ( 122 ) State ( 11 ) 68 Total deferred tax expense/(benefit): $ ( 146 ) $ ( 54 ) Total $ 5,168 $ 1,079 F-22 Table of Contents A reconciliation of income tax computed at the U.S. statutory rate of 21 % to the effective income tax rate is as follows: 2021 2020 Statutory rate 21 % 21 % State taxes 4 % 3 % Permanent differences and other 0 % 1 % Stock based compensation ( 1 ) % ( 15 ) % Effective rate 24 % 10 % The tax effects of temporary differences that give rise to deferred tax assets (liabilities) at December 31, 2021 and 2020 are as follows (in thousands): 2021 2020 Deferred tax assets: Accrued expenses $ 26 $ 10 Lease liability 4,620 1,721 Accounts receivable 18 18 Inventory 484 495 Stock based compensation 271 306 Tax credits and NOL carryforward 8 20 Other — 1 Amortization 90 43 5,517 2,614 L valuation allowance — — Deferred tax assets $ 5,517 $ 2,614 Deferred tax liabiliti Property and equipment $ ( 599 ) $ ( 470 ) Finance lease ( 96 ) ( 78 ) Prepaid expenses ( 77 ) ( 20 ) Right-of-use-asset ( 4,034 ) ( 1,480 ) Deferred tax liabilities $ ( 4,806 ) $ ( 2,048 ) Net deferred tax assets $ 711 $ 566 As of December 31, 2021, the Company has net operating loss carryforwards in various states of approximately $ 0.2 million, which expire at various dates ranging from five to seven years . In addition, the Company had no recorded valuation allowances at December 31, 2021 and 2020. The accounting standard related to income taxes applies to all tax positions and defines the confidence level that a tax position must meet in order to be recognized in the financial statements. The accounting standard requires that the tax effects of a position be recognized only if it is "more-likely-than-not" to be sustained by the taxing authority as of the reporting date. If a tax position is not considered "more-likely-than-not" to be sustained, then no benefits of the position are to be recognized. Differences between financial and tax reporting which do not meet this threshold are required to be recorded as unrecognized tax benefits. This standard also provides guidance on the presentation of tax matters and the recognition of potential interest and penalties. As of December 31, 2021 and 2020, the Company does not have an unrecognized tax liability. The Company does not classify penalty and interest expense related to income tax liabilities as an income tax expense. Penalties and interest are included within general and administrative expenses on the consolidated statements of income. The Company files income tax returns in the U.S. and various state jurisdictions, and there are open statutes of limitations for taxing authorities to audit our tax returns from 2016 through the current period. F-23 Table of Contents (11) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. The Company entered into a sublease agreement on April 9, 2021 with Cognizant Trizetto Software Group, Inc. for up to approximately 110,754 square feet of office space as its new corporate headquarters. The term of the sublease began on May 1, 2021 and will run through April 29, 2028. The Company is entitled to rent credits equal to twenty-one months of base rent at the initial rate. During the first thirty-three months of the sublease, the rent per square foot is $ 26.50 . The price per square foot increases by an additional $ 0.50 during each subsequent twelve-month period of the sublease. Upon lease commencement, the Company recorded an operating lease liability and a corresponding right-of-use asset for $ 13.4 million each. The remaining lease term was 5.38 years at December 31, 2021. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.11 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.37 % which was used to measure its finance lease liability. The table below reconciles the undiscounted future minimum lease payments under the Company’s operating and finance leases to the total operating and capital lease liabilities recognized on the consolidated balance sheets as of December 31, 2021 (in thousands): Operating Lease Liability Finance Lease Liability 2022 3,569 154 2023 2,982 152 2024 3,496 116 2025 3,567 76 2026 3,362 15 Thereafter 4,214 — Total undiscounted future minimum lease payments $ 21,190 $ 513 L difference between undiscounted lease payments and discounted lease liabiliti ( 2,475 ) ( 78 ) Total lease liabilities $ 18,715 $ 435 Operating and finance lease costs were $ 3.7 million and $ 1.8 million for years ended December 31, 2021 and 2020, which were included in the consolidated statement of operations under the following headings (in thousands): For the years ended December 31, Operating Lease expense 2021 2020 Costs of revenue - devices and supplies $ 399 $ 208 Sales and marketing expense 1,186 564 General and administrative 1,964 909 Total operating lease expense $ 3,549 $ 1,681 Finance Lease expense Amortization of right-of-use ass Costs of revenue - devices and supplies $ 12 $ 8 Sales and marketing expense 35 20 General and administrative 58 33 Total amortization of right-of-use asset 105 61 Interest expense and other 41 20 Total finance lease expense $ 146 $ 81 F-24 Table of Contents The Company’s 10-K filing for the year ended December 31, 2020, included an error which disclosed $ 6.51 million of operating lease expense. The corrected operating lease expense of $1.68 million for the year ended December 31, 2020, is included in the table above. F-25 Table of Contents (12) FAIR VALUE CONSIDERATION The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at fair value which approximates book value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo models. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. Authoritative guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of December 31, 2021, by level within the fair value hierarc Fair Value Measurements at December 31, 2021 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable December 31, Assets Inputs Inputs 2021 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 9,700 $ — $ — $ 9,700 Total $ 9,700 $ — $ — $ 9,700 F-26 Table of Contents Contingent Consideration . The Company classifies its contingent consideration liability in connection with the acquisition of Kestrel Labs within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. The contingent consideration related to Kestrel was valued at $ 9.7 million using a Monte Carlo simulation as of December 22, 2021. As of December 31, 2021, the contingent consideration remained estimated at $ 9.7 million. The Company’s policy is to value contingent consideration liabilities using a Monte Carlo model. The Company did no t have any contingent consideration as of December 31, 2020. (13) COMMITMENTS AND CONTINGENCIES See Note 11 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management provides for them if losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (14) CONCENTRATIONS The Company is exposed to concentration of credit risk related primarily to its cash balances. The Company maintains its cash balances in major financial institutions that exceed amounts insured by the FDIC (up to $250,000, per financial institution as of December 31, 2021). The Company has not experienced any realized losses in such accounts and believes it is not exposed to any significant credit risk related to its cash. The Company had two major vendors from which it sourced approximately 34 % and one major vendor from which it soured approximately 22 %, respectively, of supplies for its electrotherapy products for the years ended December 31, 2021 and 2020. Management believes that its relationships with its suppliers are good. If the relationships were to be replaced, there may be a short-term disruption for a period of time in which products may not be available and additional expenses may be incurred as the Company locates additional or replacement suppliers. The Company had receivables from one third-party payer at December 31, 2021 which made up approximately 22 % of the accounts receivable balance. The Company had receivables from one third-party payer at December 31, 2020, which made up approximately 26 % of the accounts receivable balance. (15) RETIREMENT PLAN In 2012, the Company established a defined contribution retirement plan for its employees under section 401(k) of the Internal Revenue Code (the “401(k) Plan”) that is available to all employees 18 years of age or older with three months of service. All employee contributions are fully vested immediately and employer contributions vest over a period of four years. The Company has a discretionary employee match program and currently matches 35 % of first 6 % of an employee’s contributions. During the years ended December 31, 2021 and 2020, the Company recorded an expense of $ 0.5 million and $ 0.3 million, respectively, under the aforementioned plan, related to the Company match. F-27 Table of Contents (16) QUARTERLY FINANCIAL INFORMATION (UNAUDITED) Quarterly financial information is as follows (in thousands, except per share data): 2021 First Quarter Second Quarter Third Quarter Fourth Quarter Total Revenue $ 24,127 $ 31,022 $ 34,785 $ 40,367 L cost of revenue and operating expenses 25,207 27,209 26,739 28,780 Income from operations ( 1,080 ) 3,813 8,046 11,587 Income before income taxes ( 1,087 ) 3,768 8,028 11,562 Net income $ ( 706 ) $ 2,808 $ 6,107 $ 8,894 Net income per common sh Basic income per share - net income $ ( 0.02 ) $ 0.07 $ 0.16 $ 0.23 Diluted income per share - net income $ ( 0.02 ) $ 0.07 $ 0.16 $ 0.23 2020 First Quarter Second Quarter Third Quarter Fourth Quarter Total Revenue $ 15,228 $ 19,263 $ 20,026 $ 25,605 L cost of revenue and operating expenses 12,770 15,178 18,617 23,308 Income from operations 2,458 4,085 1,409 2,297 Income before income taxes 2,454 4,080 1,404 2,215 Net income $ 2,937 $ 3,017 $ 1,333 $ 1,787 Net income per common sh Basic income per share - net income $ 0.08 $ 0.08 $ 0.04 $ 0.05 Diluted income per share - net income $ 0.08 $ 0.08 $ 0.03 $ 0.05 F-28 Table of Contents (17) SUBSEQUENT EVENTS On January 21, 2022, the Company paid out the one-time special stock dividend of 10 % and cash dividend of $ 0.10 per share that was declared on November 9, 2021. The stock dividend resulted in an issuance of approximately 3.6 million additional shares of common stock and the cash distribution was approximately $ 3.6 million. All share amounts were updated retrospectively in this report to reflect this issuance. (18) COVID-19 In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. During 2020 and 2021, the Company’s operations were impacted by closures of clinics and reductions in elective surgeries which decreased availability of physicians to prescribe our products. Additionally, the Company had to navigate the impacts it had on employee and supply chain issues. While the Company did not see a significant impact on its operating results or financial position during the year ended December 31, 2021 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. F-29 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end March 31, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 303 ) 703-4906 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol Name of each exchange on which registered Common Stock, par value $0.001 per share ZYXI NASDAQ Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☐ Non-accelerated filer ☒ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of April 28, 2022 Common Stock, par value $0.001 39,046,098 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Consolidated Balance Sheets as of March 31, 2022 (unaudited) and December 31, 2021 3 Unaudited Consolidated Statements of Income for the three months ended March 31, 2022 and 2021 4 Unaudited Consolidated Statements of Cash Flows for the three months ended March 31, 2022 and 2021 5 Unaudited Consolidated Statements of Stockholders’ Equity for the three months ended March 31, 2022 and 2021 6 Unaudited Notes to Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 22 Item 3. Quantitative and Qualitative Disclosures About Market Risk 25 Item 4. Controls and Procedures 25 PART II—OTHER INFORMATION 27 Item 1. Legal Proceedings 27 Item 1A. Risk Factors 27 Item 2. Unregistered Sales of Equity Securities And Use of Proceeds 27 Item 3. Defaults Upon Senior Securities 27 Item 4. Mine Safety Disclosures 27 Item 5. Other Information 27 Item 6. Exhibits 28 SIGNATURES 29 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) March 31, December 31, 2022 2021 ASSETS Current assets: Cash $ 39,247 $ 42,612 Accounts receivable, net 27,845 28,632 Inventory, net 13,484 10,756 Prepaid expenses and other 1,600 689 Total current assets 82,176 82,689 Property and equipment, net 2,191 2,186 Operating lease asset 15,647 16,338 Finance lease asset 359 389 Deposits 585 585 Intangible assets, net of accumulated amortization 9,751 9,975 Goodwill 20,401 20,401 Deferred income taxes 931 711 Total assets $ 132,041 $ 133,274 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable and accrued expenses 6,541 4,739 Cash dividends payable 16 3,629 Operating lease liability 3,329 2,859 Finance lease liability 121 118 Income taxes payable 3,116 2,296 Current portion of debt 5,333 5,333 Accrued payroll and related taxes 3,912 3,897 Total current liabilities 22,368 22,871 Long-term liabiliti Long-term portion of debt, less issuance costs 9,277 10,605 Contingent consideration 9,500 9,700 Operating lease liability 14,792 15,856 Finance lease liability 286 317 Total liabilities 56,223 59,349 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of March 31, 2022 and December 31, 2021 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,476,068 issued and 39,776,816 outstanding as of March 31, 2022 41,400,834 issued and 39,737,890 outstanding as of December 31, 2021 (including 3,606,970 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 41 41 Additional paid-in capital 80,913 80,397 Treasury stock of 1,246,399 shares at March 31, 2022 and December 31, 2021, respectively, at cost ( 6,513 ) ( 6,513 ) Retained earnings 1,377 — Total stockholders’ equity 75,818 73,925 Total liabilities and stockholders’ equity $ 132,041 $ 133,274 The accompanying notes are an integral part of these consolidated financial statements 3 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended March 31, 2022 2021 NET REVENUE Devices $ 6,725 $ 6,365 Supplies 24,358 17,762 Total net revenue 31,083 24,127 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 6,921 5,886 Sales and marketing 14,424 13,827 General and administrative 7,832 5,495 Total costs of revenue and operating expenses 29,177 25,208 Income (loss) from operations 1,906 ( 1,081 ) Other income (expense) Gain on change in fair value of contingent consideration 200 — Interest expense ( 124 ) ( 9 ) Other income (expense), net 76 ( 9 ) Income (loss) from operations before income taxes 1,982 ( 1,090 ) Income tax expense 605 ( 384 ) Net income (loss) $ 1,377 $ ( 706 ) Net income (loss) per sh Basic $ 0.03 $ ( 0.02 ) Diluted $ 0.03 $ ( 0.02 ) Weighted average basic shares outstanding 39,765 38,321 Weighted average diluted shares outstanding 41,188 38,321 The accompanying notes are an integral part of these consolidated financial statements 4 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) For the Three Months Ended March 31, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss) $ 1,377 $ ( 706 ) Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activiti Depreciation 500 487 Amortization 229 — Non-cash reserve charges ( 9 ) 2 Stock-based compensation 589 108 Non-cash lease expense 97 55 Benefit for deferred income taxes ( 220 ) ( 378 ) Gain on change in fair value of contingent consideration ( 200 ) — Change in operating assets and liabiliti Accounts receivable 787 ( 1,037 ) Prepaid and other assets ( 912 ) ( 182 ) Accounts payable and other accrued expenses 2,583 ( 798 ) Inventory ( 3,067 ) ( 2,863 ) Deposits — 7 Net cash provided by (used in) operating activities 1,754 ( 5,305 ) CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 72 ) ( 299 ) Net cash used in investing activities ( 72 ) ( 299 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 28 ) ( 23 ) Cash dividends paid ( 3,613 ) — Purchase of treasury stock — ( 75 ) Proceeds from the issuance of common stock on stock-based awards 3 27 Principal payments on long-term debt ( 1,333 ) — Taxes withheld and paid on employees’ equity awards ( 76 ) ( 59 ) Net cash used in financing activities ( 5,047 ) ( 130 ) Net decrease in cash ( 3,365 ) ( 5,734 ) Cash at beginning of period 42,612 39,173 Cash at end of period $ 39,247 $ 33,439 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 89 ) $ ( 9 ) Cash paid for rent $ ( 995 ) $ ( 521 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 211 $ 162 Inventory transferred to property and equipment under lease $ 339 $ 473 Capital expenditures not yet paid $ 56 $ — Inventory transferred to property and equipment as demo devices $ — $ 67 The accompanying notes are an integral part of these consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2020 38,244,310 $ 36 $ 37,235 $ ( 3,846 ) $ 23,430 $ 56,855 Exercised and vested stock-based awards 63,546 1 29 — — 30 Stock-based compensation expense — — 108 — — 108 Warrants exercised 9,733 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 4,135 ) — ( 59 ) — — ( 59 ) Purchase of treasury stock ( 5,000 ) — — ( 75 ) — ( 75 ) Net loss — — — — ( 706 ) ( 706 ) Balance at March 31, 2021 38,308,454 37 37,313 ( 3,921 ) 22,724 56,153 Balance at December 31, 2021 39,737,890 $ 41 $ 80,397 $ ( 6,513 ) $ — $ 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 $ 39,776,816 $ 41 $ 80,913 $ ( 6,513 ) $ 1,377 $ 75,818 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of March 31, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (”Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel's laser-based products include the NiCO(TM) CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx(TM), a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on drugs and medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the three months ended March 31, 2022 and 2021, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. The Company's Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Except as otherwise indicated, all related amounts reported in the consolidated financial statements, including common share quantities, earnings per share amounts and exercise prices of options, have been retroactively adjusted for the effect of this stock dividend. Unaudited Consolidated Financial Statements The unaudited consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. Amounts as of December 31, 2021, are 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS derived from those audited consolidated financial statements. These interim consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of March 31, 2022 and the results of its operations and its cash flows for the periods presented. The results of operations for the three months ended March 31, 2022 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. Principles of Consolidation The accompanying consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, valuation of long-lived assets and realizability of deferred tax assets. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s Consolidated Balance Sheets. For additional information on the leases where the Company is the lessee, see Note 10- Leases. A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Accounts Receivable, Net The Company’s accounts receivables represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. Intangible Assets and Goodwill The Company records intangible assets based on estimated fair value on the date of acquisition. The finite-lived intangible assets are amortized on a straight-line basis over the estimated lives of the assets. The indefinite-lived intangible assets are not subject to amortization but are subject to impairment testing in the future. Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when control is deemed to have transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The following table provides a breakdown of net revenue related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606") and leases subject to ASC 842 (in thousands): For the Three Months March 31, 2022 2021 Device revenue Purchased $ 2,188 $ 2,332 Leased 4,537 4,033 Total Device revenue $ 6,725 $ 6,365 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Impairment of Long-lived Assets The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Long-lived assets consist of net property and equipment and intangible assets. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Impairment of Goodwill The Company tests goodwill at least annually for impairment. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Inventory, Net Inventories are stated at the lower of cost and net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. Following are the components of inventory (in thousands): March 31, 2022 December 31, 2021 Raw materials $ 3,617 $ 4,471 Work-in-process 1,031 345 Finished goods 5,255 4,468 Inventory in transit 3,733 1,624 $ 13,636 $ 10,908 L reserve ( 152 ) ( 152 ) $ 13,484 $ 10,756 The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. The Company has identified the Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as the chief operating decision-makers (“CODM”). The Company currently operates as one operating segment which includes two revenue typ Devices and Supplies. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. Recent Accounting Pronouncements In August 2020, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2020-06, Debt — Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging — Contracts in Entity’s Own Equity (Subtopic 815-40) (“ASU 2020-06”) to simplify accounting for certain financial instruments. ASU 2020-06 eliminates the current models that require separation of beneficial conversion and cash conversion features from convertible instruments and simplifies the derivative scope exception guidance pertaining to equity classification of contracts in an entity’s own equity. The new standard also introduces additional disclosures for convertible debt and freestanding instruments that are indexed to and settled in an entity’s own equity. ASU 2020-06 amends the diluted earnings per share guidance, including the requirement to use the if-converted method for all convertible instruments. ASU 2020-06 is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years, with early adoption permitted. The Company adopted ASU 2020-06 effective as of January 1, 2022. The adoption of ASU 2020-06 did not have an impact on the Company’s financial statements. In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) ("ASU 2016-13"), Measurement of Credit Losses on Financial Instruments. The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren't measured at fair value through net income. The standard will replace today's "incurred loss" approach with an "expected loss" model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. This ASU is effective for annual periods beginning after December 15, 2022, and interim periods therein for smaller reporting companies. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Company is currently evaluating the impact of the adoption of ASU 2016-13 on its financial condition, results of operations and cash flows, however, the Company believes this standard will only impact accounts receivable and estimates there will be no material impact to the Company’s financial statements. Management has evaluated other recently issued accounting pronouncements and does not believe that any of these pronouncements will have a material impact on the Company’s consolidated financial statements. (2) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): March 31, 2022 December 31, 2021 Property and equipment Office furniture and equipment $ 2,480 $ 2,391 Assembly equipment 100 100 Vehicles 203 203 Leasehold improvements 1,077 1,054 Capital projects 16 — Leased devices 958 1,080 $ 4,834 $ 4,828 Less accumulated depreciation ( 2,643 ) ( 2,642 ) $ 2,191 $ 2,186 Total depreciation expense related to property and equipment was $ 0.2 million and $ 0.1 million for the three months ended March 31, 2022 and 2021, respectively. Total depreciation expense related to devices out on lease was $ 0.3 million and $ 0.2 million for the three months ended March 31, 2022 and 2021, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS During the year ended December 31, 2021, the Company began expensing product demo units sent to its territory managers to use in the field. Total depreciation expense related to demo unit devices out with sales representatives was $ 0.1 million for the three months ended March 31, 2021. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units of which are still with patients for which the Company cannot determine the current status. (3) BUSINESS COMBINATIONS In December 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the "Selling Shareholders"). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,334,350 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 889,566 of the Zynex Shares are being held in escrow (the “Escrow Shares”). The number of Escrow Shares is subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon notification from the FDA finding the Device can be marketed and sold in the United States. The amount of Escrow Shares were recalculated at March 31, 2022 and are included in the calculation of diluted earnings per share. The maximum amount of Zynex Shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares of the Company (see Note 11 for more information regarding this liability). The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. Pro forma Information The unaudited pro forma information for the three months ended March 31, 2021 was calculated after applying impact of acquisition date fair value adjustments. The pro forma financial information presents the combined results of operations of Zynex and Kestrel as if the acquisition had occurred on January 1, 2021 after giving effect to certain pro forma adjustments. The pro forma adjustments reflected in the table below include only those adjustments that are factually supportable and directly attributable to the acquisition (in thousands): Three months ended March 31, 2021 (unaudited) Revenue $ 24,242 Net income $ ( 1,135 ) These pro forma adjustments inclu (i) a net increase in amortization expense to record amortization expense for the aforementioned acquired identifiable intangible assets, (ii) a net increase in interest expense related to borrowings that were put into place as part of the acquisition, (iii) an adjustment to record the acquisition-related transaction costs of $ 0.3 million in the period required, and (iv) the tax effect of the pro forma adjustments using the anticipated effective tax rate. The effective tax rate of the combined company could be materially different from the rate presented in this unaudited pro forma combined financial information. As further information becomes available, any such adjustment described above could be material to the amounts presented in the unaudited pro forma combined financial statements. The pro forma information does not purport to be indicative of the results of operations that would have resulted had the combination occurred at the beginning of each period presented, or of future results of the consolidated entities. (4) GOODWILL AND OTHER INTANGIBLE ASSETS 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 3). As of March 31, 2022, there were no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of March 31, 2022. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents $ 10,000 $ ( 249 ) $ 9,751 10.73 The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2022, next five fiscal years, and periods thereaf (In thousands) April 1, 2022 through December 31, 2022 $ 684 2023 908 2024 911 2025 908 2026 908 2027 908 Thereafter 4,524 Total future amortization expense $ 9,751 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (5) EARNINGS PER SHARE Basic earnings/(loss) per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period, calculated using the treasury-stock method for outstanding stock options. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. The calculation of basic and diluted earnings per share for the three months ended March 31, 2022 and 2021 are as follows (in thousands, except per share data): For the Three Months Ended March 31, 2022 2021 Basic earnings per share Net income (loss) available to common stockholders $ 1,377 $ ( 706 ) Basic weighted-average shares outstanding 39,765 38,321 Basic earnings (loss) per share $ 0.03 $ ( 0.02 ) Diluted earnings per share Net income (loss) available to common stockholders $ 1,377 $ ( 706 ) Weighted-average shares outstanding 39,765 38,321 Effect of dilutive securities - options and restricted stock 1,423 — Diluted weighted-average shares outstanding 41,188 38,321 Diluted earnings (loss) per share $ 0.03 $ ( 0.02 ) For the three months ended March 31, 2022 and 2021, 0.5 million and 1.1 million shares of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. The basic and diluted weighted-average shares outstanding for both periods presented have been updated to include the retroactive impact of the 10 % common stock dividend declared on November 9, 2021. (6) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). The Company will pay interest on Facility 1 on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of March 31, 2022, the Company had not utilized this facility. The other facility being extended by the Bank to the Company is a fixed rate term loan in the amount of up to $ 16.0 million (“Facility 2”). Facility 2 is available in one disbursement from the Bank and the interest rate is equal to 2.8 % per year. The Company must pay interest on the first day of each month beginning January 1, 2022 and the Company will also repay the principal amount in equal installments of $ 444,444 per month through December 1, 2024. Facility 2 was entered into in conjunction with the purchase of Kestrel Labs. The following table summarizes future principal payments on long-term debt as of March 31, 2022: 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS March 31, (In thousands) April 1, 2022 through December 31, 2022 $ 4,000 2023 5,333 2024 5,334 Future principal payments 14,667 Less current portion ( 5,333 ) Less debt issuance costs ( 57 ) Long-term debt, net of debt issuance costs $ 9,277 (7) STOCK-BASED COMPENSATION PLANS In June 2017, the Company’s stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5.5 million shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of the Company’s common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon vesting and are not included in outstanding shares until such vesting and issuance occurs. During the three months ended March 31, 2022 and 2021, no stock option awards were granted under the 2017 Stock Plan. At March 31, 2022, the Company had 0.8 million stock options outstanding and 0.7 million exercisable under the following pla Outstanding Exercisable Number of Options Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 324 324 Equity compensation plans not approved by shareholders 28 28 2017 Stock Option Plan 412 351 Total 764 703 During the three months ended March 31, 2022, 48,000 shares of restricted stock were granted to management under the 2017 Stock Plan. During the three months ended March 31, 2021, 72,000 shares of restricted stock were granted to management. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of the Company’s common stock on the date of grant. The vesting on the Restricted Stock is typically released quarterly over three years for the Board of Directors and annually or quarterly over two or four years for management. The following summarizes stock-based compensation expenses recorded in the consolidated statements of income (in thousands): For the Three Months Ended March 31, 2022 2021 Cost of Revenue $ 15 $ 15 Sales and marketing expense 59 15 General, and administrative 515 78 Total stock based compensation expense $ 589 $ 108 The Company received proceeds of $ 3,000 and $ 27,000 related to option exercises during the three months ended March 31, 2022 and 2021, respectively. A summary of stock option activity under all equity compensation plans for the three months ended March 31, 2022, is presented be 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2021 765 $ 1.36 4.68 $ 5,896 Exercised ( 1 ) $ 2.94 Outstanding at March 31, 2022 764 $ 1.36 4.43 $ 3,780 Exercisable at March 31, 2022 703 $ 1.11 4.21 $ 3,627 No stock option awards were granted or forfeited during the three months ended March 31, 2022. A summary of restricted stock award activity under all equity compensation plans for the three months ended March 31, 2022, is presented be Number of Weighted Shares Average Grant (in thousands) Date Fair Value Granted but not vested at December 31, 2021 454 $ 13.69 Granted 48 Forfeited ( 11 ) Vested ( 38 ) Granted but not vested at March 31, 2022 453 12.80 As of March 31, 2022, the Company had approximately $ 5.1 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.6 years. (8) STOCKHOLDERS’ EQUITY Common Stock Dividend The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Treasury Stock On March 8, 2021, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through September 8, 2021. From the inception of the plan through September 8, 2021, the Company purchased 175,179 shares of its common stock for $ 2.7 million or an average price of $ 15.22 per share. Warrants A summary of stock warrant activity for the three months ended March 31, 2022 is presented be 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2021 99 $ 2.40 2.76 $ 660 Granted — $ — Exercised — $ — Forfeited — $ — Outstanding and exercisable at March 31, 2022 99 $ 2.40 2.52 $ 379 (9) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits on stock option exercises. For the three months ended March 31, 2022 discrete items adjusted were $ 0.5 million. At March 31, 2022 and 2021, the Company estimated an annual effective tax rate of approximately 25.1 % and 25.2 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 30 % for the three months ended March 31, 2022. Discrete items recognized during the three months ended March 31, 2022 and 2021, resulted in a tax expense of approximately $ 0.1 million and a tax benefit of approximately $ 0.1 million, respectively. The Company recorded an income tax expense of $ 0.6 million and a tax benefit of $0.4 million for the three months ended March 31, 2022 and 2021, respectively. No taxes were paid during the three months ended March 31, 2022 and 2021. (10) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During March 2022, The Company entered into a lease agreement for approximately 4,162 square feet of office space for the operations of Kestrel Labs, Inc. in Boulder, Colorado. The lease begins on April 1, 2022 and will run through April 1, 2025. The rent and common area maintenance charges are equal to $ 17.00 per square foot with annual increases of 3 %. Upon lease commencement, the Company recorded an operating lease liability and corresponding right-of-use asset for $ 0.2 million each. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.08 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.38 % which was used to measure its finance lease liability. The weighted average remaining lease term was 5.19 years and 3.30 years for operating and finance leases, respectively, as of March 31, 2022. As of March 31, 2022, the maturities of the Company’s future minimum lease payments were as follows (in thousands): 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Operating Lease Liability Finance Lease Liability April 1, 2022 through December 31, 2022 2,627 115 2023 3,055 152 2024 3,571 116 2025 3,586 76 2026 3,361 15 2027 3,150 — Thereafter 1,064 — Total undiscounted future minimum lease payments $ 20,414 $ 474 L Difference between undiscounted lease payments and discounted lease liabiliti ( 2,293 ) ( 67 ) Total lease liabilities $ 18,121 $ 407 The components of lease expenses were as follows: Three Months Ended March 31, 2022 2021 Lease Operating lease Total operating lease expense $ 1,105 $ 610 Finance lease Total amortization of leased assets 30 21 Interest on lease liabilities 10 8 Total net lease cost $ 1,145 $ 639 For the three months ended March 31, 2022 and 2021, $ 0.1 million and $ 0.2 million of operating lease costs respectively, were incurred at the Company’s manufacturing and warehouse facility and were included in cost of sales. For the three months ended March 31, 2022 and 2021, $ 1.0 million and $ 0.4 million of operating lease costs, respectively, were included in selling, general and administrative expenses on the consolidated statement of income. (11) FAIR VALUE MEASUREMENTS The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo model. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. Authoritative guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of March 31, 2022, by level within the fair value hierarc Fair Value Measurements at March 31, 2022 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable March 31, Assets Inputs Inputs 2022 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 9,500 $ — $ — $ 9,500 Total $ 9,500 $ — $ — $ 9,500 The following table sets forth a summary of changes in the contingent consideration for the three months ended March 31, 2022 (in thousands): Contingent Consideration Balance as of December 31, 2021 $ 9,700 Gain on change in fair value of contingent consideration ( 200 ) Balance as of March 31, 2022 $ 9,500 (12) CONCENTRATIONS For the three months ended March 31, 2022, the Company sourced approximately 30 % of the components for its electrotherapy products from two significant vendors. For the three months ended March 31, 2021 the Company sourced approximately 32 % of components from two significant vendors. Management believes that its relationships with suppliers are good; however, if the relationships were to be replaced, there may be a short-term disruption to operations, a period of time in which products may not be available and additional expenses may be incurred. At March 31, 2022, the Company had receivables from one third-party payers that made up approximately 19 % of the net accounts receivable balance. At December 31, 2021, the Company had receivables from one third-party payer which made up approximately 22 % of the net accounts receivable balance. (13) COMMITMENTS AND CONTINGENCIES See Note 10 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. 20 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (14) SUBSEQUENT EVENTS On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. Under the share buyback program, buybacks may be made from time-to-time in open market and negotiated purchases, effective immediately through the next twelve months. This program does not obligate the Company to acquire any particular amount of common stock and the program may be suspended or discontinued at any time. The Company expects to finance the purchases with existing cash balances, which is not expected to have a material impact on capital levels. The Company repurchased $ 5.3 million of shares from April 12, 2022 through April 27, 2022. 21 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2021. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2021 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which include electrotherapy and pain management products. As of March 31, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO(TM) CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx(TM), a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. 22 Table of Contents RESULTS OF OPERATIONS Summary Net revenue was $31.1 million and $24.1 million for the three months ended March 31, 2022 and 2021, respectively. Net revenue increased 29% for the three-month period ended March 31, 2022. The Company had net income of $1.3 million during the three months ended March 31, 2022 as compared with a net loss of $0.7 million during the three months ended March 31, 2021. Cash flows provided by operating activities increased $7.1 million to $1.8 million during the three months ended March 31, 2022 as compared with cash flows used in operating activities of $5.3 million during the three months ended March 31, 2021. Working capital was $59.8 million at March 31, 2022 and at December 31, 2021. Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 1 to the Consolidated Financial Statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $7.0 million or 29% to $31.1 million for the three months ended March 31, 2022, from $24.1 million for the same period in 2021. The growth in net revenue is primarily related to the continued growth in device orders. In 2021, we saw annual order growth of 89% and additional order growth for the three months ended March 31, 2022 of 3%. Increased order growth has led to an increased customer base and drove higher sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our products. Device revenue increased $0.3 million or 6% to $6.7 million for the three months ended March 31, 2022, from $6.4 million for the same period in 2021. The growth in device revenue is primarily related to an increase in devices being leased in 2021 and an increase in orders of 3%. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our products. Supplies revenue increased $6.6 million or 37% to $24.4 million for the three months ended March 31, 2022, from $17.8 million for the same period in 2021. The increase in supplies revenue is primarily related to an increased customer base from increased device sales in 2022 and 2021. 23 Table of Contents Operating Expenses Cost of Revenue – Device and Supply Cost of Revenue – device and supply consist primarily of device and supply costs, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended March 31, 2022 increased 18% to $6.9 million from $5.9 million for the three months ended March 31, 2021. The increase in cost of revenue is primarily due to increased revenue. As a percentage of revenue, cost of revenue – device and supply decreased to 22% for the three months ended March 31, 2022 from 24% for the same period in 2021. The decrease as a percentage of revenue is due to increased volumes and expanding our supplier portfolio mix, both of which have allowed us to negotiate lower costs. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended March 31, 2022 increased 4% to $14.4 million from $13.8 million for the three months ended March 31, 2021. The increase in sales and marketing expense is primarily due to increased sales commissions. As a percentage of revenue, sales and marketing expense decreased to 46% for the three months ended March 31, 2022 from 57% for the same period in 2021. The decrease as a percentage of revenue is primarily due to the increase in revenue and our sales force becoming more productive. General and Administrative Expense General and administrative expenses primarily consist of employee related costs, and other direct costs associated with these personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for the three months ended March 31, 2022 increased 43% to $7.8 million from $5.5 million for the three months ended March 31, 2021.The increase in general and administrative expense is primarily due to increased rent and facilities expense as we moved our corporate headquarters during May 2021 and an increase in professional service expenses. As a percentage of revenue, general and administrative expense increased to 25% for the three months ended March 31, 2022 from 23% for the same period in 2021. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by increased revenue. Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 30% and 35% for the three months ended March 31, 2022 and 2021, respectively. Discrete items, primarily related to tax expense on stock option exercises, of $0.1 million and $0.1 million were recognized as a benefit against income tax expense for the three months ended March 31, 2022 and 2021, respectively. For the three months ended March 31, 2022 the Company has an income tax expense of approximately $0.6 million. For the three months ended March 31, 2021 the Company had an income tax benefit of approximately $0.4 million. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At March 31, 2022, our principal source of liquidity was $39.2 million in cash and $27.8 million in accounts receivable. Upon closing on the Kestrel acquisition we entered into a loan and credit facility agreement with Bank of America, N.A. The credit facility includes a line of credit in the amount of $4.0 million available until December 1, 2024. The loan is a fixed rate term loan in the amount of $16.0 million and has an interest rate equal to 2.8% per year. The term loan is payable in equal principal installments of $444,444 per month through December 1, 2024 plus interest on the first day of each month beginning January 1, 2022. See Note 6. Net cash provided by operating activities for the three months ended March 31, 2022 was $1.8 million compared with net cash used in operating activities of $5.3 million for the three months ended March 31, 2021. The increase in cash used in operating activities for the 24 Table of Contents three months ended March 31, 2022 was primarily due to positive net income in 2022 as well as an increase in accounts payable and accrued liabilities. Net cash used in investing activities for each of the three months ended March 31, 2022 and 2021 was $0.1 and $0.3 million, respectively. Cash used in investing activities for both periods was primarily related to office furniture and equipment and leasehold improvements at our new corporate headquarters for the three months ended March 31, 2022 and 2021. Net cash used in financing activities for the three months ended March 31, 2022 was $5.0 million compared with net cash used in financing activities of $0.1 million for the same period in 2021. Cash used in financing activities for the three months ended March 31, 2022 was primarily due to the payment of a $0.10 dividend to common shareholders, and principal payments on notes payable. The cash used in financing activities for the three months ended March 31, 2021 was primarily due to stock purchased through the stock buy back program. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash and cash equivalents balance at March 31, 2022 of $39.2 million; ● Our working capital balance of $59.8 million; and ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the Consolidated Financial Statements located within our Annual Report on Form 10-K for the year ended December 31, 2021, filed with the Securities and Exchange Commission on March 22, 2022. RISKS AND UNCERTAINTIES In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. While the Company did not incur significant disruptions to its operations during the three months ended March 31, 2022 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on such evaluation, our CEO and CFO have concluded that as of March 31, 2022, our disclosure controls and procedures are designed at a reasonable assurance level and are effective to provide reasonable assurance that information we are required to disclose 25 Table of Contents in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission (“SEC”), and that such information is accumulated and communicated to our management, including our CEO and CFO, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures and internal control over financial reporting, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures and internal control over financial reporting must reflect the fact that there are resource constraints and that management is required to apply judgment in evaluating the benefits of possible controls and procedures relative to their costs. Changes in Internal Control Over Financial Reporting During the three months ended March 31, 2022, there were no changes that materially affected or are reasonably likely to affect our internal control over financial reporting. 26 Table of Contents PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS As of the filing date of this Quarterly Report on Form 10-Q, there have been no material changes in the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2021, filed with the SEC on March 22, 2022. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities On April 11, 2022, our Board of Directors approved a program to repurchase up to $10.0 million of our common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. During the three month period ending March 31, 2022, the Company did not repurchase any shares of common stock. On March 8, 2021, our Board of Directors approved a program to repurchase up to $10.0 million of our common stock at prevailing market prices either in the open market or through privately negotiated transactions through September 8, 2021. From the inception of the plan through September 8, 2021, the Company purchased 175,179 shares of our common stock for $2.7 million or an average price of $15.22 per share. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION None 27 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 32.1** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 101.INS* XBRL Instance Document. 101.SCH* XBRL Taxonomy Extension Schema Document. 101.CAL* XBRL Taxonomy Calculation Linkbase Document. 101.LAB * XBRL Taxonomy Label Linkbase Document. 101.PRE * XBRL Presentation Linkbase Document. 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document. 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101 * Filed herewith ** Furnished herewith 28 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat April 28, 2022 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 29 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end June 30, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 303 ) 703-4906 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol Name of each exchange on which registered Common Stock, par value $0.001 per share ZYXI NASDAQ Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☐ Non-accelerated filer ☒ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of July 26, 2022 Common Stock, par value $0.001 38,406,658 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of June 30, 2022 (unaudited) and December 31, 2021 3 Unaudited Condensed Consolidated Statements of Income for the three and six months ended June 30, 2022 and 2021 4 Unaudited Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2022 and 2021 5 Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the three and six months ended June 30, 2022 and 2021 6 Unaudited Notes to Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 21 Item 3. Quantitative and Qualitative Disclosures About Market Risk 25 Item 4. Controls and Procedures 25 PART II—OTHER INFORMATION 26 Item 1. Legal Proceedings 26 Item 1A. Risk Factors 26 Item 2. Unregistered Sales of Equity Securities And Use of Proceeds 26 Item 3. Defaults Upon Senior Securities 26 Item 4. Mine Safety Disclosures 27 Item 5. Other Information 27 Item 6. Exhibits 28 SIGNATURES 29 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES) June 30, December 31, 2022 2021 ASSETS Current assets: Cash $ 26,877 $ 42,612 Accounts receivable, net 27,824 28,632 Inventory, net 14,572 10,756 Prepaid expenses and other 1,357 689 Total current assets 70,630 82,689 Property and equipment, net 2,277 2,186 Operating lease asset 14,719 16,338 Finance lease asset 329 389 Deposits 591 585 Intangible assets, net of accumulated amortization 9,525 9,975 Goodwill 20,401 20,401 Deferred income taxes 1,103 711 Total assets $ 119,575 $ 133,274 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabiliti Accounts payable and accrued expenses 5,236 4,739 Cash dividends payable 16 3,629 Operating lease liability 3,391 2,859 Finance lease liability 123 118 Income taxes payable 160 2,296 Current portion of debt 5,333 5,333 Accrued payroll and related taxes 4,564 3,897 Total current liabilities 18,823 22,871 Long-term liabiliti Long-term portion of debt, less issuance costs 7,949 10,605 Contingent consideration 9,600 9,700 Operating lease liability 13,941 15,856 Finance lease liability 253 317 Total liabilities 50,566 59,349 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of June 30, 2022 and December 31, 2021 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,619,965 issued and 38,403,566 outstanding as of June 30, 2022 41,400,834 issued and 39,737,890 outstanding as of December 31, 2021 (including 3,606,970 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 40 41 Additional paid-in capital 81,412 80,397 Treasury stock of 2,750,773 and 1,246,399 shares at June 30, 2022 and December 31, 2021, respectively, at cost ( 17,166 ) ( 6,513 ) Retained earnings 4,723 — Total stockholders’ equity 69,009 73,925 Total liabilities and stockholders’ equity $ 119,575 $ 133,274 The accompanying notes are an integral part of these condensed consolidated financial statements. 3 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended June 30, For the Six Months Ended June 30, 2022 2021 2022 2021 NET REVENUE Devices $ 9,505 $ 7,828 $ 16,230 $ 14,193 Supplies 27,254 23,194 51,612 40,956 Total net revenue 36,759 31,022 67,842 55,149 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 7,305 7,267 14,226 13,153 Sales and marketing 16,314 13,752 30,738 27,579 General and administrative 8,776 6,188 16,608 11,683 Total costs of revenue and operating expenses 32,395 27,207 61,572 52,415 Income from operations 4,364 3,815 6,270 2,734 Other income (expense) Gain (loss) on change in fair value of contingent consideration ( 100 ) — 100 — Interest expense ( 115 ) ( 45 ) ( 239 ) ( 54 ) Other income (expense), net ( 215 ) ( 45 ) ( 139 ) ( 54 ) Income from operations before income taxes 4,149 3,770 6,131 2,680 Income tax expense 803 962 1,408 578 Net income $ 3,346 $ 2,808 $ 4,723 $ 2,102 Net income per sh Basic $ 0.09 $ 0.07 $ 0.12 $ 0.05 Diluted $ 0.08 $ 0.07 $ 0.12 $ 0.05 Weighted average basic shares outstanding 38,851 38,291 39,305 38,306 Weighted average diluted shares outstanding 39,893 39,141 40,367 39,192 The accompanying notes are an integral part of these condensed consolidated financial statements. 4 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) ForThe Six Months Ended June 30, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 4,723 $ 2,102 Adjustments to reconcile net income to net cash provided by (used in) operating activiti Depreciation 1,025 1,094 Amortization 461 — Non-cash reserve charges ( 9 ) ( 35 ) Stock-based compensation 1,124 509 Non-cash lease expense 237 414 Provision (benefit) for deferred income taxes ( 392 ) 126 Gain on change in fair value of contingent consideration ( 100 ) — Change in operating assets and liabiliti Accounts receivable 808 ( 4,473 ) Prepaid and other assets ( 669 ) 191 Accounts payable and other accrued expenses ( 1,020 ) ( 1,570 ) Inventory ( 4,604 ) ( 2,398 ) Deposits ( 6 ) ( 238 ) Net cash provided by (used in) operating activities 1,578 ( 4,278 ) CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 212 ) ( 354 ) Net cash used in investing activities ( 212 ) ( 354 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 58 ) ( 44 ) Cash dividends paid ( 3,613 ) — Purchase of treasury stock ( 10,655 ) ( 2,120 ) Proceeds from the issuance of common stock on stock-based awards 14 88 Principal payments on long-term debt ( 2,667 ) — Taxes withheld and paid on employees’ equity awards ( 122 ) ( 135 ) Net cash used in financing activities ( 17,101 ) ( 2,211 ) Net decrease in cash ( 15,735 ) ( 6,843 ) Cash at beginning of period 42,612 39,173 Cash at end of period $ 26,877 $ 32,330 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 208 ) $ ( 54 ) Cash paid for rent $ ( 1,965 ) $ ( 1,069 ) Cash paid for income taxes $ ( 3,926 ) ( 335 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 211 $ 13,247 Right-of-use assets obtained in exchange for new finance lease liabilities $ — $ 162 Inventory transferred to property and equipment as demo devices $ — $ 519 Inventory transferred to property and equipment under lease $ 788 $ 473 Capital expenditures not yet paid $ 48 $ — The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2020 38,244,310 36 37,235 ( 3,846 ) 23,430 56,855 Exercised and vested stock-based awards 63,546 1 29 — — 30 Stock-based compensation expense — — 108 — — 108 Warrants exercised 9,733 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 4,135 ) — ( 59 ) — — ( 59 ) Purchase of treasury stock ( 5,000 ) — — ( 75 ) — ( 75 ) Net loss — — — — ( 706 ) ( 706 ) Balance at March 31, 2021 $ 38,308,454 $ 37 $ 37,313 $ ( 3,921 ) $ 22,724 $ 56,153 Exercised and vested stock-based awards, net of tax 93,709 — $ 59 $ — $ — $ 59 Stock-based compensation expense — — 401 — — $ 401 Shares of common stock withheld to pay taxes on employees’ equity awards ( 35,097 ) — ( 76 ) — — $ ( 76 ) Purchase of treasury stock ( 135,179 ) — — ( 2,045 ) — $ ( 2,045 ) Net income — — — — 2,808 $ 2,808 Balance at June 30, 2021 $ 38,231,887 $ 37 $ 37,697 $ ( 5,966 ) $ 25,532 $ 57,300 Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2021 39,737,890 41 80,397 ( 6,513 ) — 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 $ 39,776,816 $ 41 80,913 $ ( 6,513 ) $ 1,377 $ 75,818 Exercised and vested stock-based awards 178,727 1 11 — — 12 Stock-based compensation expense — — 535 — — 535 Shares of common stock withheld to pay taxes on employees’ equity awards ( 47,603 ) — ( 47 ) — — ( 47 ) Purchase of treasury stock ( 1,504,374 ) ( 2 ) — ( 10,653 ) — ( 10,655 ) Net income — — — — 3,346 3,346 Balance at June 30, 2022 $ 38,403,566 $ 40 $ 81,412 $ ( 17,166 ) $ 4,723 $ 69,009 The accompanying notes are an integral part of these condensed consolidated financial statements. 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of June 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (”Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the six months ended June 30, 2022 and 2021, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Except as otherwise indicated, all related amounts reported in the condensed consolidated financial statements, including common share quantities, earnings per share amounts and exercise prices of options, have been retroactively adjusted for the effect of this stock dividend. 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Unaudited Condensed Consolidated Financial Statements The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. Amounts as of December 31, 2021, are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of June 30, 2022 and the results of its operations and its cash flows for the periods presented. The results of operations for the six months ended June 30, 2022 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying condensed consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying condensed consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, assumptions related to the valuation of contingent consideration, and valuation of long-lived assets and realizability of deferred tax assets. Accounts Receivable, Net The Company’s accounts receivable represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. See Note 14 – Concentrations for discussion of significant customer accounts receivable balances. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing in the future.The Company tests goodwill at least annually for impairment. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when control is deemed to have transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The following table provides a breakdown of net revenue related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606") and leases subject to ASC 842 (in thousands): For the Three Months Ended June 30, For the Six Months Ended June 30, 2022 2021 2022 2021 Device revenue Purchased $ 2,268 $ 2,337 $ 4,457 $ 4,668 Leased 7,237 5,491 11,773 9,525 Total device revenue $ 9,505 $ 7,828 $ 16,230 $ 14,193 Supplies revenue 27,254 23,194 51,612 40,956 Total revenue $ 36,759 $ 31,022 $ 67,842 $ 55,149 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s condensed consolidated balance sheets. For additional information on the leases where the Company is the lessee, see Note 12- Leases. A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying condensed consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision-Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. Recent Accounting Pronouncements In August 2020, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2020-06, Debt — Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging — Contracts in Entity’s Own Equity 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Subtopic 815-40) (“ASU 2020-06”) to simplify accounting for certain financial instruments. ASU 2020-06 eliminates the current models that require separation of beneficial conversion and cash conversion features from convertible instruments and simplifies the derivative scope exception guidance pertaining to equity classification of contracts in an entity’s own equity. The new standard also introduces additional disclosures for convertible debt and freestanding instruments that are indexed to and settled in an entity’s own equity. ASU 2020-06 amends the diluted earnings per share guidance, including the requirement to use the if-converted method for all convertible instruments. ASU 2020-06 is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years, with early adoption permitted. The Company adopted ASU 2020-06 effective as of January 1, 2022. The adoption of ASU 2020-06 did not have an impact on the Company’s consolidated financial statements. In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) ("ASU 2016-13"), Measurement of Credit Losses on Financial Instruments. The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren't measured at fair value through net income. The standard will replace today's "incurred loss" approach with an "expected loss" model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. This ASU is effective for annual periods beginning after December 15, 2022, and interim periods therein for smaller reporting companies. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Company adopted this standard during the quarter ended June 30, 2022. The primary instrument that needed to be evaluated was the Company’s trade receivables and the impact was not material. Management has evaluated other recently issued accounting pronouncements and does not believe that any of these pronouncements will have a material impact on the Company’s condensed consolidated financial statements. (3) INVENTORY The components of inventory are as follows (in thousands): June 30, 2022 December 31, 2021 Raw materials $ 3,680 $ 4,471 Work-in-process 1,044 345 Finished goods 7,239 4,468 Inventory in transit 2,761 1,624 $ 14,724 $ 10,908 L reserve ( 152 ) ( 152 ) $ 14,572 $ 10,756 (4) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): June 30, 2022 December 31, 2021 Property and equipment Office furniture and equipment $ 2,537 $ 2,391 Assembly equipment 103 100 Vehicles 203 203 Leasehold improvements 1,165 1,054 Leased devices 1,072 1,080 5,080 4,828 Less accumulated depreciation ( 2,803 ) ( 2,642 ) $ 2,277 $ 2,186 Total depreciation expense related to our property and equipment was $ 0.2 million and $ 0.2 million for the three months ended June 30, 2022 and 2021, respectively. Depreciation expense for the six month periods ended June 30, 2022 and 2021 was $ 0.4 million and $ 0.3 million, respectively. 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Total depreciation expense related to devices out on lease was $ 0.4 million and $ 0.4 million for the three months ended June 30, 2022 and 2021, respectively. Depreciation expense related to devices out on lease was $ 0.7 million and $ 0.6 million for the six months ended June 30, 2022 and 2021, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. During the year ended December 31, 2021, the Company began expensing product demo units sent to its territory managers to use in the field. Total depreciation expense related to demo unit devices out with sales representatives was $ 0.1 million for the three months ended June 30, 2021. Total depreciation expense related to demo unit devices out with sales representatives was $ 0.2 million for the six months ended June 30, 2021. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units which are still with patients for which the Company cannot determine the current status. (5) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the “Selling Shareholders”). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,334,350 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 889,566 of the Zynex Shares are being held in escrow (the “Escrow Shares”). The number of Escrow Shares is subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon determination by the FDA that the Device can be marketed and sold in the United States. The amount of Escrow Shares were recalculated at June 30, 2022 and are included in the calculation of diluted earnings per share. The maximum amount of Zynex Shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares of the Company (see Note 13 for more information regarding this liability). The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. (6) GOODWILL AND OTHER INTANGIBLE ASSETS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 5). As of June 30, 2022, there were no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of June 30, 2022. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents at December 31, 2021 $ 10,000 $ ( 25 ) $ 9,975 11.00 Amortization expense ( 450 ) ( 450 ) Acquired patents at June 30, 2022 $ 10,000 $ ( 475 ) $ 9,525 10.48 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2022, next five fiscal years, and periods thereaf (In thousands) July 1, 2022 through December 31, 2022 $ 458 2023 908 2024 911 2025 908 2026 908 2027 908 Thereafter 4,524 Total future amortization expense $ 9,525 (7) EARNINGS PER SHARE Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period, calculated using the treasury-stock method for outstanding stock options. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. The calculation of basic and diluted earnings per share for the three and six months ended June 30, 2022 and 2021 are as follows (in thousands, except per share data): For the Three Months Ended June 30, For the Six Months Ended June 30, 2022 2021 2022 2021 Basic earnings per share Net income (loss) available to common stockholders $ 3,346 $ 2,808 4,723 2,102 Basic weighted-average shares outstanding 38,851 38,291 39,305 38,306 Basic earnings (loss) per share $ 0.09 $ 0.07 0.12 0.05 Diluted earnings per share Net income (loss) available to common stockholders $ 3,346 $ 2,808 4,723 2,102 Weighted-average shares outstanding 38,851 38,291 39,305 38,306 Effect of dilutive securities - options and restricted stock 1,042 850 1,062 886 Diluted weighted-average shares outstanding 39,893 39,141 40,367 39,192 Diluted earnings (loss) per share $ 0.08 $ 0.07 0.12 0.05 For the three and six months ended June 30, 2022, options to purchase 0.3 million and 0.3 million shares, respectively, of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. For the three and six months ended June 30, 2021, options to purchase 0.1 million and 0.2 million shares, respectively, of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. (8) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). The Company will pay interest on Facility 1 on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of June 30, 2022, the Company had not utilized this facility. 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The other facility being extended by the Bank to the Company is a fixed rate term loan in the amount of up to $16.0 million (“Facility 2”). Facility 2 was entered into and funded in conjunction with the purchase of Kestrel Labs the interest rate is equal to 2.8 % per year. The Company must pay interest on the first day of each month which began January 1, 2022 and the Company also repays the principal amount in equal installments of $ 444,444 per month through December 1, 2024. The following table summarizes future principal payments on long-term debt as of June 30, 2022: June 30, 2022 (In thousands) July 1, 2022 through December 31, 2022 $ 2,667 2023 5,333 2024 5,333 Future principal payments 13,333 Less current portion ( 5,333 ) Less debt issuance costs ( 51 ) Long-term debt, net of debt issuance costs $ 7,949 (9) STOCK-BASED COMPENSATION PLANS In June 2017, our stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5,500,000 shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of our common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon grant and are not included in outstanding shares until such vesting and issuance occurs. During the three and six months ended June 30, 2022 , 200,000 performance based stock option awards were granted under the 2017 Stock Plan. During the three and six months ended June 30, 2021, no stock option awards were granted under the 2017 Stock Plan. At June 30, 2022, the company had 0.8 million stock options outstanding and 0.6 million exercisable under the following pla Outstanding Exercisable Number of Options Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 213 213 Equity compensation plans not approved by shareholders — — 2017 Stock Option Plan 603 344 Total 816 557 During the three and six months ended June 30, 2022, 45,000 and 93,000 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. During the three and six months ended June 30, 2021, 33,000 and 104,500 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on the Restricted Stock Awards typically occur quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. The following summarizes stock-based compensation expenses recorded in the condensed consolidated statements of income (in thousands): For the Three Months Ended June 30, For the Six Months Ended June 30, 2022 2021 2022 2021 Cost of Revenue $ 12 $ 15 $ 27 $ 30 Sales and marketing expense 55 15 114 30 General, and administrative 468 371 983 449 Total stock based compensation expense $ 535 $ 401 $ 1,124 $ 509 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The Company received proceeds of $ 0.1 million related to option exercises during the three and six months ended June 30, 2022, respectively. The Company received proceeds of $ 0.1 million related to option exercises during each of the three and six months ended June 30, 2021, respectively. The Company granted 200,000 stock options during the three and six months ended June 30, 2022. The Company did no t grant any stock options during the three and six months ended June 30, 2021. The Company used the Black Scholes option pricing model to determine the fair value of stock option grants, using the following assumptions for the six months ended June 30, 2022: Expected term (years) 3.00 Risk-free interest rate 2.81 % Expected volatility 73.28 % Expected dividend yield — % A summary of stock option activity under all equity compensation plans for the six months ended June 30, 2022, is presented be Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2021 765 $ 1.36 4.68 $ 5,896 Granted 200 $ 6.23 Forfeited ( 2 ) $ 3.21 Exercised ( 147 ) $ 0.50 Outstanding at June 30, 2022 816 $ 2.70 5.59 $ 4,318 Exercisable at June 30, 2022 557 $ 1.27 3.95 $ 3,743 A summary of restricted stock award activity under all equity compensation plans for the six months ended June 30, 2022, is presented be Number of Weighted Shares Average Grant (in thousands) Date Fair Value Granted but not vested at December 31, 2021 454 $ 13.69 Granted 93 $ 6.66 Forfeited ( 11 ) $ 6.07 Vested ( 70 ) $ 14.32 Granted but not vested at June 30, 2022 466 12.22 As of June 30, 2022, the Company had approximately $ 5.1 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.5 years. (10) STOCKHOLDERS’ EQUITY Common Stock Dividend The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Treasury Stock On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through June 30 2022, the Company purchased 84,500 shares of its common stock for $ 0.7 million or an average price of $ 7.74 per share. On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. Warrants A summary of stock warrant activity for the six months ended June 30, 2022 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2021 99 $ 2.40 2.76 $ 660 Granted — $ — Exercised — $ — Forfeited — $ — Outstanding and exercisable at June 30, 2022 99 $ 2.40 2.27 $ 451 (11) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits on stock option exercises. For the three and six months ended June 30, 2022 discrete items adjusted were ($ 0.9 ) million and ($ 0.4 ) million, respectively. At June 30, 2022 and 2021, the Company is estimating an annual effective tax rate of approximately 25 % and 26 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 23 % for the six months ended June 30, 2022. The Company recorded income tax expense of $ 0.8 million and $ 1.4 million for the three and six months ended June 30, 2022, respectively, and income tax expense of $ 1.0 million and $ 0.6 million for the three and six months ended June 30, 2021. Taxes of $ 3.9 million and $ 0.3 million were paid during the six months ended June 30, 2022 and 2021, respectively. (12) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During March 2022, The Company entered into a lease agreement for approximately 4,162 square feet of office space for the operations of Kestrel Labs, Inc. in Boulder, Colorado. The lease began on April 1, 2022 and will run through April 1, 2025. The rent and common area maintenance charges are equal to $ 17.00 per square foot with annual increases of 3 %. Upon lease commencement, the Company recorded an operating lease liability and corresponding right-of-use asset for $ 0.2 million each. 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.06 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.38 % which was used to measure its finance lease liability. The weighted average remaining lease term was 5.04 years and 2.91 years for operating and finance leases, respectively, as of June 30, 2022. As of June 30, 2022, the maturities of the Company’s future minimum lease payments were as follows (in thousands): Operating Lease Liability Finance Lease Liability July 1, 2022 through December 31, 2022 1,658 73 2023 3,055 152 2024 3,571 116 2025 3,586 76 2026 3,362 15 2027 3,150 — Thereafter 1,064 — Total undiscounted future minimum lease payments $ 19,446 $ 432 L Difference between undiscounted lease payments and discounted lease liabiliti ( 2,114 ) ( 56 ) Total lease liabilities $ 17,332 $ 376 The components of lease expenses were as follows: Three Months Ended Six Months Ended June 30, June 30, Operating Lease expense 2022 2021 2022 2021 Costs of revenue - devices and supplies $ 100 $ 181 $ 201 $ 359 Sales and marketing expense 126 76 257 133 General and administrative 887 658 1,761 1,033 Total operating lease expense $ 1,113 $ 915 $ 2,219 $ 1,525 Finance Lease expense Amortization of right-of-use ass Costs of revenue - devices and supplies $ 15 $ 14 $ 31 $ 26 Selling, general and administrative 14 14 28 28 Total amortization of right-of-use asset 29 28 59 54 Interest expense and other 9 20 19 28 Total finance lease expense $ 38 $ 48 $ 78 $ 82 (13) FAIR VALUE MEASUREMENTS The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo model. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. Authoritative guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of June 30, 2022, by level within the fair value hierarc Fair Value Measurements at June 30, 2022 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable June 30, Assets Inputs Inputs 2022 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 9,600 $ — $ — $ 9,600 Total $ 9,600 $ — $ — $ 9,600 The following table sets forth a summary of changes in the contingent consideration for the three months ended June 30, 2022 (in thousands): Contingent Consideration Balance as of December 31, 2021 $ 9,700 Gain on change in fair value of contingent consideration ( 100 ) Balance as of June, 2022 $ 9,600 (14) CONCENTRATIONS For the three months ended June 30, 2022, the Company sourced approximately 58 % of the supplies for its electrotherapy products from four significant vendors. For the same period in 2021, the Company sourced approximately 31 % of the supplies for its electrotherapy products from one significant vendor. For the six months ended June 30, 2022, the Company sourced approximately 53 % of supplies for its electrotherapy products from four significant vendors. For the same period in 2021, the Company sourced approximately 35 % of supplies for its electrotherapy products from two significant vendors. Management believes that its relationships with suppliers are good; however, if the relationships were to be replaced, there may be a short-term disruption to operations, a period of time in which products may not be available and additional expenses may be incurred. 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS At June 30, 2022, the Company had receivables from one third-party payer that made up approximately 18 % of the net accounts receivable balance. At December 31, 2021, the Company had receivables from one third-party payer which made up approximately 22 % of the net accounts receivable balance. (15) COMMITMENTS AND CONTINGENCIES See Note 12 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (16) SUBSEQUENT EVENTS No subsequent events identified through July 28, 2022. 20 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2021. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2021 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which include electrotherapy and pain management products. As of June 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. RESULTS OF OPERATIONS Summary Net revenue was $36.8 million and $31.0 million for the three months ended June 30, 2022 and 2021, respectively, and $67.8 million and $55.1 million for the six months ended June 30, 2022 and 2021, respectively. Net revenue increased 18% and 23% for the three and six-month periods ended June 30, 2022, respectively. Net income was $3.3 million for the three months ended June 30, 2022 compared with $2.8 million during the same period in 2021. Net income was $4.7 million for the six months ended June 30, 2022 compared with $2.1 million during the same period in 2021. Cash provided by operating activities was $1.6 million during the six months ended June 30, 2022. Working capital was $51.8 million and $59.8 million as of June 30, 2022 and December 31, 2021, respectively. 21 Table of Contents Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the condensed financial statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $5.7 million or 18% to $36.7 million for the three months ended June 30, 2022, from $31.0 million for the same period in 2021. Net revenue increased $12.7 million or 23% to $67.8 million for the six months ended June 30, 2022, from $55.1 million for the same period in 2021. For both the three and six-month periods ended June 30, 2022, the growth in net revenue from the same periods in 2021 is primarily related to a 10% and 6% growth in device orders, respectively, which resulted from an increased customer base and led to higher sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our products. Device revenue increased $1.7 million or 21% to $9.5 million for the three months ended June 30, 2022, from $7.8 million for the same period in 2021. Device revenue increased $2.0 million or 14% to $16.2 million for the six months ended June 30, 2022, from $14.2 million for the same period in 2021. For both the three and six-month periods ended June 30, 2022, the growth in net revenue from the same periods in 2021 is primarily related to growth in sales of devices, device orders, and an increase in leased device sales. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our electrotherapy products. Supplies revenue increased $4.1 million or 18% to $27.3 million for the three months ended June 30, 2022, from $23.2 million for the same period in 2021. Supplies revenue increased $10.6 million or 26% to $51.6 million for the six months ended June 30, 2022, from $41.0 million for the same period in 2021. The increase in supplies revenue is primarily related to an increased customer base from increased device sales in 2022 and 2021. 22 Table of Contents Operating Expenses Cost of Revenue – Devices and Supplies Cost of Revenue – devices and supplies consist primarily of device and supply costs, facilities, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended June 30, 2022 remained flat at $7.3 million. As a percentage of revenue, cost of revenue – devices and supplies decreased to 20% for the three months ended June 30, 2022 from 23% for the same period in 2021. Cost of revenue for the six months ended June 30, 2022 increased 8% to $14.2 million from $13.2 million for the same period in 2021. As a percentage of revenue, cost of revenue – device and supply decreased to 21% for the six months ended June 30, 2022 from 24% for the same period in 2021. The decrease as a percentage of revenue, in both periods presented above, is due to increased volumes and expanding our supplier portfolio mix, both of which have allowed us to negotiate lower costs. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended June 30, 2022 increased 19% to $16.3 million from $13.8 million for the same period in 2021. The increase in sales and marketing expense is primarily due to increased commission and incentive pay related to inflation and rising wages in the U.S. which has created a very competitive job market. As a percentage of revenue, sales and marketing expense remained flat at 44% for the three months ended June 30, 2022 and 2021, respectively. Sales and marketing expense for the six months ended June 30, 2022 increased 11% to $30.7 million from $27.6 million for the same period in 2021. The increase in sales and marketing expense is primarily due to increased commission and incentive pay related to inflation and rising wages in the U.S. which has created a very competitive job market. As a percentage of revenue, sales and marketing expense decreased to 45% and 50% for the six months ended June 30, 2022 and 2021, respectively. The decrease as a percentage of revenue is primarily due to the increase in revenue during the period, slightly offset by the additional expenses noted above. General and Administrative Expense General and administrative expenses primarily consist of employee-related costs, and other direct costs associated with these personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for the three months ended June 30, 2022 increased 42% to $8.8 million from $6.2 million for the same period in 2021. The increase in general and administrative expense for the three months is primarily due to increased compensation and benefit expense related to headcount growth at ZMS, increased rent and facilities expense as we moved our corporate headquarters during May 2021, and an increase in research and development expenses for ZMS. As a percentage of revenue, general and administrative expense increased to 24% for the three months ended June 30, 2022 from 20% for the same period in 2021. The increase as a percentage of revenue is primarily due to the items noted above, partially offset by the increase in revenue during the period . General and administrative expense for the six months ended June 30, 2022 increased 42% to $16.6 million from $11.7 million for the same period in 2021. The increase in general and administrative expense for the six months is primarily due to increased compensation and benefit expense related to headcount growth at ZMS, increases in rent and facilities expense as we moved our corporate headquarters during May 2021, research and development expenses for ZMS, and amortization of intangible assets acquired from the Kestrel acquisition in December 2021. As a percentage of revenue, general and administrative expense increased to 24% for the six months ended June 30, 2022 from 21% for the same period in 2021. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by the increase in revenue during the period. Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 19% and 23% for the 23 Table of Contents three and six months ended June 30, 2022, respectively. Discrete items, primarily related to excess tax benefits related to stock option exercises, of ($0.9) million and ($0.4) million for the three and six months ended June 30, 2022, respectively, are recognized as a benefit against income tax expense. For the three and six months ended June 30, 2022 the Company had an income tax expense of approximately $0.8 million and $1.4 million, respectively. The Company recorded income tax expense of $1.0 million and $0.6 million for the three and six months ended June 30, 2021. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At June 30, 2022, our principal source of liquidity was $26.9 million in cash and $27.8 million in accounts receivable. Net cash provided by operating activities for the six months ended June 30, 2022 was $1.6 million compared with net cash used in operating activities of $4.3 million for the six months ended June 30, 2021. The increase in cash provided by operating activities for the six months ended June 30, 2022 was primarily due to an increase in net income as well as a decrease in the receivables balance. The increase was partially offset by increased inventory due to our order growth, in-transit inventory, plus increased stockpiles in anticipation of possible supply chain shortages. Net cash used in investing activities for the six months ended June 30, 2022 and 2020 was $0.2 million and $0.4 million, respectively. Cash used in investing activities for the six months ended June 30, 2022 was primarily related to leasehold improvements at our new facility for Kestrel and the purchase of computer equipment. Cash used in investing activities for the six months ended June 30, 2021 was primarily related to the purchase of leasehold improvements at our manufacturing and warehouse facility . Net cash used in financing activities for the six months ended June 30, 2021 was $17.1 million compared with net cash used in financing activities of $2.2 million for the same period in 2021. Net cash used in financing activities for the six months ended June 30, 2022 was primarily due to purchases of treasury stock, payment of cash dividends in January 2022, and principal payments on long-term debt. Net cash used in financing activities for the six months ended June 30, 2021 was primarily due to purchases of treasury stock. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash and cash equivalents balance at June 30, 2022 of $26.9 million; ● Our working capital balance of $51.8 million; ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the consolidated financial statements located within our Annual Report on Form 10-K for the year ended December 31, 2021, filed with the Securities and Exchange Commission on March 22, 2022. OFF BALANCE SHEET ARRANGEMENTS The Company had no significant off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to our stockholders. 24 Table of Contents RISKS AND UNCERTAINTIES In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. While the Company did not incur significant disruptions to its operations during the three months ended June 30, 2022 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A. ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on such evaluation, our CEO and CFO have concluded that as of June 30, 2022, our disclosure controls and procedures are designed at a reasonable assurance level and are effective to provide reasonable assurance that information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission (“SEC”), and that such information is accumulated and communicated to our management, including our CEO and CFO, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures and internal control over financial reporting, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures and internal control over financial reporting must reflect the fact that there are resource constraints and that management is required to apply judgment in evaluating the benefits of possible controls and procedures relative to their costs. Changes in Internal Control Over Financial Reporting During the six months ended June 30, 2022, there were no changes that materially affected or are reasonably likely to affect our internal control over financial reporting. 25 Table of Contents PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS As of the filing date of this Quarterly Report on Form 10-Q, there have been no material changes in the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2021, filed with the SEC on March 22, 2022. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities Total Number of In Thousands Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan April 11 - April 30, 2022 Share repurchase program (1) 959,874 $ 7.15 959,874 3,132 May 1 - May 31, 2022 Share repurchase program (1) 460,000 $ 6.81 1,419,874 — June 10 - June 30, 2022 Share repurchase program (2) 84,500 $ 7.74 84,500 9,346 Quarter Total Share repurchase program (1) 1,419,874.00 $ 7.04 1,419,874 — Share repurchase program (2) 84,500.00 $ 7.74 84,500 9,346 (1)Shares were purchased through the Company’s publicly announced share repurchase program dated Aprill 11, 2022. The program was fully utilitzed during the Company’s second quarter. (2)Shares were purchased through the Company’s publicly announced share repurchase program dated June 9, 2022. The program expires on June 9, 2023. On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through June 30 2022, the Company purchased 84,500 shares of its common stock for $0.7 million or an average price of $7.74 per share. On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $10.0 million or an average price of $7.04 per share which completed this program. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. 26 Table of Contents ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION None. 27 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB * XBRL Taxonomy Label Linkbase Document 101.PRE * XBRL Presentation Linkbase Document 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document * Filed herewith ** Furnished herewith 28 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat July 28, 2022 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 29 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end September 30, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 800 ) 495-6670 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Ticker symbol(s) Name of each exchange on which registered Common Stock, $0.001 par value per share ZYXI The Nasdaq Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☐ Non-accelerated filer ☒ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of October 25, 2022 Common Stock, par value $0.001 37,453,445 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of September 30, 2022 (unaudited) and December 31, 2021 3 Unaudited Condensed Consolidated Statements of Operations for the three and nine months ended September 30, 2022 and 2021 4 Unaudited Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2022 and 2021 5 Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the three and nine months ended September 30, 2022 and 2021 6 Unaudited Notes to Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 22 Item 3. Quantitative and Qualitative Disclosures About Market Risk 26 Item 4. Controls and Procedures 26 PART II—OTHER INFORMATION 27 Item 1. Legal Proceedings 27 Item 1A. Risk Factors 27 Item 2. Unregistered Sales of Equity Securities And Use of Proceeds 27 Item 3. Defaults Upon Senior Securities 27 Item 4. Mine Safety Disclosures 27 Item 5. Other Information 27 Item 6. Exhibits 28 SIGNATURES 29 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES) September 30, 2022 December 31, (unaudited) 2021 ASSETS Current assets: Cash $ 23,532 $ 42,612 Accounts receivable, net 28,350 28,632 Inventory, net 14,366 10,756 Prepaid expenses and other 1,134 689 Total current assets 67,382 82,689 Property and equipment, net 2,199 2,186 Operating lease asset 13,783 16,338 Finance lease asset 300 389 Deposits 591 585 Intangible assets, net of accumulated amortization 9,296 9,975 Goodwill 20,401 20,401 Deferred income taxes 1,483 711 Total assets $ 115,435 $ 133,274 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabiliti Accounts payable and accrued expenses 5,139 4,739 Cash dividends payable 16 3,629 Operating lease liability 2,943 2,859 Finance lease liability 126 118 Income taxes payable 916 2,296 Current portion of debt 5,333 5,333 Accrued payroll and related taxes 5,297 3,897 Total current liabilities 19,770 22,871 Long-term liabiliti Long-term portion of debt, less issuance costs 6,621 10,605 Contingent consideration 9,700 9,700 Operating lease liability 13,936 15,856 Finance lease liability 221 317 Total liabilities 50,248 59,349 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of September 30, 2022 and December 31, 2021 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,625,663 issued and 37,467,494 outstanding as of September 30, 2022 41,400,834 issued and 39,737,890 outstanding as of December 31, 2021 (including 3,606,970 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 39 41 Additional paid-in capital 81,873 80,397 Treasury stock of 3,738,224 and 1,246,399 shares at September 30, 2022 and December 31, 2021, respectively, at cost ( 26,321 ) ( 6,513 ) Retained earnings 9,596 — Total stockholders’ equity 65,187 73,925 Total liabilities and stockholders’ equity $ 115,435 $ 133,274 The accompanying notes are an integral part of these condensed consolidated financial statements. 3 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended September 30, For the Nine Months Ended September 30, 2022 2021 2022 2021 NET REVENUE Devices $ 11,349 $ 9,071 $ 27,579 $ 23,264 Supplies 30,171 25,715 81,783 66,671 Total net revenue 41,520 34,786 109,362 89,935 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 8,391 6,837 22,617 19,990 Sales and marketing 17,212 13,083 47,950 40,662 General and administrative 9,359 6,820 25,967 18,503 Total costs of revenue and operating expenses 34,962 26,740 96,534 79,155 Income from operations 6,558 8,046 12,828 10,780 Other (expense) Loss on change in fair value of contingent consideration ( 100 ) — — — Interest expense ( 106 ) ( 18 ) ( 345 ) ( 72 ) Other (expense) net ( 206 ) ( 18 ) ( 345 ) ( 72 ) Income from operations before income taxes 6,352 8,028 12,483 10,708 Income tax expense 1,479 1,921 2,887 2,499 Net income $ 4,873 $ 6,107 $ 9,596 $ 8,209 Net income per sh Basic $ 0.13 $ 0.16 $ 0.25 $ 0.21 Diluted $ 0.13 $ 0.16 $ 0.24 $ 0.21 Weighted average basic shares outstanding 38,046 38,245 38,881 38,286 Weighted average diluted shares outstanding 38,865 39,043 39,729 39,142 The accompanying notes are an integral part of these condensed consolidated financial statements. 4 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) For The Nine Months Ended September 30, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 9,596 $ 8,209 Adjustments to reconcile net income to net cash provided by (used in) operating activiti Depreciation 1,590 1,689 Amortization 695 — Non-cash reserve charges 65 ( 83 ) Stock-based compensation 1,702 1,042 Non-cash lease expense 720 905 Provision (benefit) for deferred income taxes ( 772 ) 190 Change in operating assets and liabiliti Accounts receivable 282 ( 10,397 ) Prepaid and other assets ( 446 ) 276 Accounts payable and other accrued expenses 364 ( 284 ) Inventory ( 4,801 ) ( 1,898 ) Deposits ( 6 ) ( 238 ) Net cash provided by (used in) operating activities 8,989 ( 589 ) CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 332 ) ( 420 ) Net cash used in investing activities ( 332 ) ( 420 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 87 ) ( 73 ) Cash dividends paid ( 3,613 ) — Purchase of treasury stock ( 19,811 ) ( 2,667 ) Proceeds from the issuance of common stock on stock-based awards 27 127 Principal payments on long-term debt ( 4,000 ) — Taxes withheld and paid on employees’ equity awards ( 253 ) ( 183 ) Net cash used in financing activities ( 27,737 ) ( 2,796 ) Net decrease in cash ( 19,080 ) ( 3,805 ) Cash at beginning of period 42,612 39,173 Cash at end of period $ 23,532 $ 35,368 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 317 ) $ ( 72 ) Cash paid for rent $ ( 2,592 ) $ ( 1,510 ) Cash paid for income taxes ( 5,028 ) ( 1,019 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 211 $ 13,240 Right-of-use assets obtained in exchange for new finance lease liabilities $ — $ 175 Inventory transferred to property and equipment as demo devices $ — $ 125 Inventory transferred to property and equipment under lease $ 1,191 $ 1,254 Capital expenditures not yet paid $ 56 $ 56 The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2020 38,244,310 $ 36 $ 37,235 $ ( 3,846 ) $ 23,430 $ 56,855 Exercised and vested stock-based awards 63,546 1 29 — — 30 Stock-based compensation expense — — 108 — — 108 Warrants exercised 9,733 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 4,135 ) — ( 59 ) — — ( 59 ) Purchase of treasury stock ( 5,000 ) — — ( 75 ) — ( 75 ) Net loss — — — — ( 706 ) ( 706 ) Balance at March 31, 2021 38,308,454 $ 37 $ 37,313 $ ( 3,921 ) $ 22,724 $ 56,153 Exercised and vested stock-based awards, net of tax 93,709 — $ 59 $ — $ — 59 Stock-based compensation expense — — 401 — — 401 Shares of common stock withheld to pay taxes on employees’ equity awards ( 35,097 ) — ( 76 ) — — ( 76 ) Purchase of treasury stock ( 135,179 ) — — ( 2,045 ) — ( 2,045 ) Net income — — — — 2,808 2,808 Balance at June 30, 2021 38,231,887 $ 37 $ 37,697 $ ( 5,966 ) $ 25,532 $ 57,300 Exercised and vested stock-based awards, net of tax 49,682 — $ 38 $ — $ — 38 Stock-based compensation expense — — 533 — — 533 Shares of common stock withheld to pay taxes on employees’ equity awards ( 3,671 ) — ( 48 ) — — ( 48 ) Purchase of treasury stock ( 35,000 ) — — ( 547 ) — ( 547 ) Net income — — — — 6,107 6,107 Balance at September 30, 2021 38,242,898 $ 37 $ 38,220 $ ( 6,513 ) $ 31,639 $ 63,383 Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2021 39,737,890 $ 41 $ 80,397 $ ( 6,513 ) $ — $ 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 39,776,816 $ 41 80,913 $ ( 6,513 ) $ 1,377 $ 75,818 Exercised and vested stock-based awards 178,727 1 11 — — 12 Stock-based compensation expense — — 535 — — 535 Shares of common stock withheld to pay taxes on employees’ equity awards ( 47,603 ) — ( 47 ) — — ( 47 ) Purchase of treasury stock ( 1,504,374 ) ( 2 ) — ( 10,653 ) — ( 10,655 ) Net income — — — — 3,346 3,346 Balance at June 30, 2022 38,403,566 $ 40 $ 81,412 $ ( 17,166 ) $ 4,723 $ 69,009 Exercised and vested stock-based awards 68,060 — 13 — — 13 Stock-based compensation expense — — 578 — — 578 Shares of common stock withheld to pay taxes on employees' equity awards ( 16,681 ) — ( 130 ) — — ( 130 ) Purchase of treasury stock ( 987,451 ) ( 1 ) — ( 9,155 ) — ( 9,156 ) Net income — — — — 4,873 4,873 Balance at September 30, 2022 37,467,494 $ 39 $ 81,873 $ ( 26,321 ) $ 9,596 $ 65,187 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS NOTE (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of September 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100 % of Kestrel Labs, Inc. (”Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the nine months ended September 30, 2022 and 2021, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Except as otherwise indicated, all related amounts reported in the condensed consolidated financial statements, including common share quantities, earnings per share amounts and exercise prices of options, have been retroactively adjusted for the effect of this stock dividend. 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Unaudited Condensed Consolidated Financial Statements The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. Amounts as of December 31, 2021, are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of September 30, 2022 and the results of its operations and its cash flows for the periods presented. The results of operations for the nine months ended September 30, 2022 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. NOTE (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying condensed consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying condensed consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, assumptions related to the valuation of contingent consideration, and valuation of long-lived assets and realizability of deferred tax assets. Accounts Receivable, Net The Company’s accounts receivable represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. The Company maintains a constraint for third-party payer refund requests, deductions and adjustments. See Note 14 – Concentrations for discussion of significant customer accounts receivable balances. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing in the future. The Company utilized the simplified test for goodwill impairment. The amount recognized for impairment is equal to the difference between the carrying value and the asset’s fair value. The valuation methods used in the quantitative fair value assessment was a discounted cash flow method and required management to make certain assumptions and estimates regarding certain industry trends and future profitability of our reporting units. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when the performance obligation has been met and the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when the performance obligation has been met and the product has been transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The following table provides a breakdown of disaggregated net revenues for the three and nine months ended September 30, 2022, and 2021 related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606") and leases subject to ASC 842 (in thousands): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2022 2021 2022 2021 Device revenue Purchased $ 2,900 $ 2,076 $ 7,357 $ 6,734 Leased 8,449 6,995 20,222 16,530 Total device revenue $ 11,349 $ 9,071 $ 27,579 $ 23,264 Supplies revenue 30,171 25,715 81,783 66,671 Total revenue $ 41,520 $ 34,786 $ 109,362 $ 89,935 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s condensed consolidated balance sheets. For additional information on the leases where the Company is the lessee, see Note 12- Leases. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying condensed consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the Chief Operating Decision-Makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision-Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. The Inflation Reduction Act (“IRA”) was enacted into law on August 16, 2022. Included in the IRA was a provision to implement a 15% corporate alternative minimum tax on corporations whose average annual adjusted financial statement income during the most recently completed three year period exceeds $1 billion. This provision is effective for tax years beginning after December 31, 2022. We are in the process of evaluating the provisions of the IRA, but we do not currently believe the IRA will have a material impact on our reported results, cash flows or financial position when it becomes effective. Recent Accounting Pronouncements In August 2020, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2020-06, Debt — Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging — Contracts in Entity’s Own Equity (Subtopic 815-40) (“ASU 2020-06”) to simplify accounting for certain financial instruments. ASU 2020-06 eliminates the current models that require separation of beneficial conversion and cash conversion features from convertible instruments and simplifies the derivative scope exception guidance pertaining to equity classification of contracts in an entity’s own equity. The new standard also introduces additional disclosures for convertible debt and freestanding instruments that are indexed to and settled in an entity’s own equity. ASU 2020-06 amends the diluted earnings per share guidance, including the requirement to use the if-converted method for all convertible instruments. ASU 2020-06 is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years, with early adoption permitted. The Company adopted ASU 2020-06 effective as of January 1, 2022. The adoption of ASU 2020-06 did not have an impact on the Company’s condensed consolidated financial statements. In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) (“ASU 2016-13”), Measurement of Credit Losses on Financial Instruments. The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren’t measured at fair value through net income. The standard will replace today’s “incurred loss” approach with an “expected loss” model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. This ASU is effective for annual periods beginning after December 15, 2022, and interim periods therein for smaller reporting companies. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Company adopted this standard during the quarter ended September 30, 2022. The primary instrument that needed to be evaluated was the Company’s trade receivables and the impact was not material. NOTE (3) INVENTORY The components of inventory as of September 30, 2022, and December 31, 2021 are as follows (in thousands): September 30, 2022 December 31, 2021 Raw materials $ 3,709 $ 4,471 Work-in-process 487 345 Finished goods 8,919 4,468 Inventory in transit 1,403 1,624 $ 14,518 $ 10,908 L reserve ( 152 ) ( 152 ) $ 14,366 $ 10,756 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS NOTE (4) PROPERTY AND EQUIPMENT The components of property and equipment as of September 30, 2022, and December 31, 2021 are as follows (in thousands): September 30, 2022 December 31, 2021 Property and equipment Office furniture and equipment $ 2,657 $ 2,391 Assembly equipment 103 100 Vehicles 203 203 Leasehold improvements 1,173 1,054 Leased devices 1,117 1,080 5,253 4,828 Less accumulated depreciation ( 3,054 ) ( 2,642 ) $ 2,199 $ 2,186 Total depreciation expense related to our property and equipment was $ 0.1 million and $ 0.2 million for the three months ended September 30, 2022 and 2021, respectively. Depreciation expense for the nine month periods ended September 30, 2022 and 2021 was $ 0.5 million and $ 0.7 million, respectively. Total depreciation expense related to devices out on lease was $ 0.3 million and $ 0.4 million for the three months ended September 30, 2022 and 2021, respectively. Depreciation expense related to devices out on lease was $ 1.0 million and $ 1.0 million for the nine months ended September 30, 2022 and 2021, respectively. Depreciation on leased units is reflected in the condensed consolidated statements of operations as cost of revenue. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units which are still with patients for which the Company cannot determine the current status. 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS NOTE (5) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the “Selling Shareholders”). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,334,350 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 889,566 of the Zynex Shares are being held in escrow (the “Escrow Shares”). The number of Escrow Shares is subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon determination by the FDA that the Device can be marketed and sold in the United States. The amount of Escrow Shares were recalculated at September 30, 2022 and are included in the calculation of diluted earnings per share. The maximum amount of Zynex Shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares of the Company (see Note 13 for more information regarding this liability). The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. NOTE (6) GOODWILL AND OTHER INTANGIBLE ASSETS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 5). For the nine months ended September 30, 2022, there was no change in the carrying amount of goodwill, there were no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of September 30, 2022. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents at December 31, 2021 $ 10,000 $ ( 25 ) $ 9,975 11.00 Amortization expense ( 679 ) ( 679 ) Acquired patents at September 30, 2022 $ 10,000 $ ( 704 ) $ 9,296 10.23 The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2022, next five fiscal years, and periods thereaf (In thousands) October 1, 2022 through December 31, 2022 $ 229 2023 908 2024 911 2025 908 2026 908 2027 908 Thereafter 4,524 Total future amortization expense $ 9,296 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS NOTE (7) EARNINGS PER SHARE Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period, calculated using the treasury-stock method for outstanding stock options. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. The calculation of basic and diluted earnings per share for the three and nine months ended September 30, 2022 and 2021 are as follows (in thousands, except per share data): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2022 2021 2022 2021 Basic earnings per share Net income available to common stockholders $ 4,873 $ 6,107 9,596 8,209 Basic weighted-average shares outstanding 38,046 38,245 38,881 38,286 Basic earnings per share $ 0.13 $ 0.16 0.25 0.21 Diluted earnings per share Net income available to common stockholders $ 4,873 $ 6,107 9,596 8,209 Weighted-average shares outstanding 38,046 38,245 38,881 38,286 Effect of dilutive securities - options and restricted stock 819 798 848 856 Diluted weighted-average shares outstanding 38,865 39,043 39,729 39,142 Diluted earnings per share $ 0.13 $ 0.16 0.24 0.21 For both the three and nine months ended September 30, 2022, options to purchase 6,000 and 22,000 shares of common stock were excluded from the dilutive stock calculation, respectively, because their effect would have been anti-dilutive. For both the three and nine months ended September 30, 2021, options to purchase 268,000 and 176,000 shares of common stock were excluded from the dilutive stock calculation, respectively, because their effect would have been anti-dilutive. NOTE (8) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). The Company will pay interest on Facility 1 on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of September 30, 2022, the Company had not utilized this facility. The other facility being extended by the Bank to the Company is a fixed rate term loan in the amount of up to $ 16.0 million (“Facility 2”). Facility 2 was entered into and funded in conjunction with the purchase of Kestrel Labs. The interest rate is equal to 2.8 % per year. The Company must pay interest on the first day of each month which began January 1, 2022 and the Company also repays the principal amount in equal installments of $ 444,444 per month through December 1, 2024. 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The following table summarizes future principal payments on long-term debt as of September 30, 2022: September 30, 2022 (In thousands) October 1, 2022 through December 31, 2022 $ 1,333 2023 5,333 2024 5,334 Future principal payments 12,000 Less current portion ( 5,333 ) Less debt issuance costs ( 46 ) Long-term debt, net of debt issuance costs $ 6,621 NOTE (9) STOCK-BASED COMPENSATION PLANS In June 2017, our stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5.5 million shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of our common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon grant and are not included in outstanding shares until such vesting and issuance occurs. During the three months ended September 30, 2022, no stock option awards were granted under the 2017 Stock Plan. During the nine months ended September 30, 2022, 200,000 performance based stock option awards were granted under the 2017 Stock Plan. During the three and nine months ended September 30, 2021, no stock option awards were granted under the 2017 Stock Plan. At September 30, 2022, the company had 0.8 million stock options outstanding and 0.6 million exercisable under the following pla Outstanding Exercisable Number of Options Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 211 211 Equity compensation plans not approved by shareholders — — 2017 Stock Option Plan 592 342 Total 803 553 During the three and nine months ended September 30, 2022, 50,000 and 143,000 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. During the three and nine months ended September 30, 2021, 222,000 and 349,000 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on the Restricted Stock Awards typically occurs quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. The following summarizes stock-based compensation expenses recorded in the condensed consolidated statements of operations (in thousands): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2022 2021 2022 2021 Cost of Revenue $ 13 $ 12 $ 40 $ 42 Sales and marketing expense 16 48 130 78 General, and administrative 549 473 1,532 922 Total stock based compensation expense $ 578 $ 533 $ 1,702 $ 1,042 The Company received minimal cash proceeds related to option exercises during the three months ended September 30, 2022. The Company received cash proceeds of $ 0.1 million related to option exercises during the nine months ended September 30, 2022. The Company received minimal cash proceeds related to option exercises during the three months ended September 30, 2021. The Company received cash proceeds of $ 0.1 million related to option exercises during the nine months ended September 30, 2021. 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The Company used the Black Scholes option pricing model to determine the fair value of stock option grants, using the following assumptions during the nine months ended September 30, 2022: Expected term (years) 3.00 Risk-free interest rate 2.81 % Expected volatility 73.28 % Expected dividend yield — % A summary of stock option activity under all equity compensation plans for the nine months ended September 30, 2022, is presented be Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2021 765 $ 1.36 4.68 $ 5,896 Granted 200 $ 6.23 Forfeited ( 11 ) $ 2.98 Exercised ( 151 ) $ 0.57 Outstanding at September, 2022 803 $ 2.70 5.38 $ 5,112 Exercisable at September 30, 2022 553 $ 1.27 3.76 $ 4,314 A summary of restricted stock award activity under all equity compensation plans for the nine months ended September 30, 2022, is presented be Number of Weighted Shares Average Grant (in thousands) Date Fair Value Granted but not vested at December 31, 2021 454 $ 13.69 Granted 143 $ 7.39 Forfeited ( 43 ) $ 10.13 Vested ( 134 ) $ 13.44 Granted but not vested at September 30, 2022 420 $ 11.82 As of September 30, 2022, the Company had approximately $ 4.5 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.35 years. NOTE (10) STOCKHOLDERS’ EQUITY Common Stock Dividend The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Treasury Stock On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through September 30 2022, the Company purchased 1,071,951 shares of its common stock for $ 9.8 million or an average price of $ 9.15 per share. 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. Warrants A summary of stock warrant activity for the nine months ended September 30, 2022 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2021 99 $ 2.40 2.76 $ 660 Granted — $ — Exercised — $ — Forfeited — $ — Outstanding and exercisable at September 30, 2022 99 $ 2.40 2.02 $ 518 NOTE (11) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits on stock option exercises. For the three and nine months ended September 30, 2022 discrete items adjusted were $ 0.2 million and $( 0.2 ) million, respectively. At September 30, 2022 and 2021 the Company is currently estimating an annual effective tax rate of approximately 23 % and 25 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 23 % for the nine months ended September 30, 2022. The Company recorded income tax expense of $ 1.5 million and $ 2.9 million for the three and nine months ended September 30, 2022, respectively, and income tax expense of $ 1.9 million and $ 2.5 million for the three and nine months ended September 30, 2021. Income taxes of $ 5.0 million and $ 1.0 million were paid during the nine months ended September 30, 2022 and 2021, respectively. NOTE (12) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During March 2022, The Company entered into a lease agreement for approximately 4,162 square feet of office space for the operations of Kestrel Labs, Inc. in Boulder, Colorado. The lease began on April 1, 2022 and will run through April 1, 2025. The rent and common area maintenance charges are equal to $ 17.00 per square foot with annual increases of 3 %. Upon lease commencement, the Company recorded an operating lease liability and corresponding right-of-use asset for $ 0.2 million each. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.05 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.39 % which was used to measure its finance lease liability. The weighted average remaining lease term was 4.90 years and 2.85 years for operating and finance leases, respectively, as of September 30, 2022. 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS As of September 30, 2022, the maturities of the Company’s future minimum lease payments were as follows (in thousands): Operating Lease Liability Finance Lease Liability October 1, 2022 through December 31, 2022 1,030 38 2023 3,055 152 2024 3,571 116 2025 3,586 76 2026 3,362 15 2027 3,150 — Thereafter 1,064 — Total undiscounted future minimum lease payments $ 18,818 $ 397 L Difference between undiscounted lease payments and discounted lease liabiliti ( 1,939 ) ( 50 ) Total lease liabilities $ 16,879 $ 347 The components of lease expenses were as follows: Three Months Ended Nine Months Ended September 30, September 30, 2022 2021 2022 2021 Lease Operating lease Total operating lease expense $ 1,125 $ 1,072 $ 3,344 $ 2,415 Finance lease Total amortization of leased assets 30 29 89 78 Interest on lease liabilities 9 11 28 31 Total net lease cost $ 1,164 $ 1,112 $ 3,461 $ 2,524 Operating lease costs related to our manufacturing and warehouse facility were included in cost of sales while all other operating lease costs were included in general and administrative expenses on the consolidated statement of operations. NOTE (13) FAIR VALUE MEASUREMENTS The Company measures the fair value of financial assets and liabilities based on the guidance of ASC 820 “Fair Value Measurements and Disclosures” (“ASC 820”) which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo model. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of September 30, 2022, by level within the fair value hierarc Fair Value Measurements at September 30, 2022 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable September 30, Assets Inputs Inputs 2022 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 9,700 $ — $ — $ 9,700 Total $ 9,700 $ — $ — $ 9,700 The following table sets forth a summary of changes in the contingent consideration for the nine months ended September 30, 2022 (in thousands): Contingent Consideration Balance as of December 31, 2021 $ 9,700 Gain on change in fair value of contingent consideration — Balance as of September 30, 2022 $ 9,700 NOTE (14) CONCENTRATIONS For the three months ended September 30, 2022, the Company sourced approximately 39 % of the supplies for its electrotherapy products from two significant vendors. For the same period in 2021, the Company sourced approximately 51 % of the supplies for its electrotherapy products from three significant vendors. For the nine months ended September 30, 2022, the Company sourced approximately 33 % of supplies for its electrotherapy products from two significant vendors. For the same period in 2021, the Company sourced approximately 36 % of supplies for its electrotherapy products from two significant vendors. At September 30, 2022, the Company had receivables from one third-party payer that made up approximately 15 % of the net accounts receivable balance. At December 31, 2021, the Company had receivables from one third-party payer which made up approximately 22 % of the net accounts receivable balance. NOTE (15) COMMITMENTS AND CONTINGENCIES See Note 12 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be 20 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. NOTE (16) SUBSEQUENT EVENTS No subsequent events identified through October 27, 2022. 21 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2021. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2021 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which include electrotherapy and pain management products. As of September 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. RESULTS OF OPERATIONS Summary Net revenue was $41.5 million and $34.8 million for the three months ended September 30, 2022 and 2021, respectively, and $109.4 million and $89.9 million for the nine months ended September 30, 2022 and 2021, respectively. Net revenue increased 19% and 22% for the three and nine months ended September 30, 2022, respectively. Net income was $4.9 million for the three months ended September 30, 2022 compared with $6.1 million during the same period in 2021. Net income was $9.6 million for the nine months ended September 30, 2022 compared with $8.2 million during the same period in 2021. Cash provided by operating activities was $9.0 million during the nine months ended September 30, 2022. Working capital was $47.6 million and $59.8 million as of September 30, 2022 and December 31, 2021, respectively. 22 Table of Contents Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the condensed financial statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $6.7 million or 19% to $41.5 million for the three months ended September 30, 2022, from $34.8 million for the same period in 2021. Net revenue increased $19.4 million or 22% to $109.4 million for the nine months ended September 30, 2022, from $89.9 million for the same period in 2021. For the three and nine months ended September 30, 2022, the growth in net revenue from the same periods in 2021 is primarily related to a 34% and 15% growth in device orders, respectively, which led to an increased customer base and drove higher sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our electrotherapy and complimentary products. Device revenue increased $2.2 million or 25% to $11.3 million for the three months ended September 30, 2022, from $9.1 million for the same period in 2021. Device revenue increased $4.3 million or 19% to $27.6 million for the nine months ended September 30, 2022, from $23.3 million for the same period in 2021. For both the three and nine-month periods ended September 30, 2022, the growth in net revenue from the same periods in 2021 is primarily related to growth in sales of devices and an increase in leased device sales. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our electrotherapy products. Supplies revenue increased $4.5 million or 17% to $30.2 million for the three months ended September 30, 2022, from $25.7 million for the same period in 2021. Supplies revenue increased $15.1 million or 23% to $81.8 million for the nine months ended September 30, 2022, from $66.7 million for the same period in 2021. The increase in supplies revenue is primarily related to an increased customer base from increased device sales in 2022 and 2021. 23 Table of Contents Operating Expenses Cost of Revenue – Device and Supply Cost of Revenue – device and supply consist primarily of device and supply costs, facilities, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended September 30, 2022 increased 23% to $8.4 million from $6.8 million for the same period in 2021. As a percentage of revenue, cost of revenue – device and supply remained at 20% for the three months ended September 30, 2022 and 2021. Cost of revenue for the nine months ended September 30, 2022 increased 13% to $22.6 million from $20.0 million for the same period in 2021. As a percentage of revenue, cost of revenue – device and supply decreased to 21% for the nine months ended September 30, 2022 compared to 22% for the same period in 2021. The decrease as a percentage of revenue, for the nine months ended September 30, 2022, is due to increased volumes and expanding our supplier portfolio mix, both of which have allowed us to negotiate lower costs. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended September 30, 2022 increased 32% to $17.2 million from $13.1 million for the same period in 2021. Sales and marketing expense for the nine months ended September 30, 2022 increased 18% to $48.0 million from $40.7 million for the same period in 2021. The increase in sales and marketing expense is primarily due to increased commission and incentive pay related to inflation and rising wages in the U.S. As a percentage of revenue, sales and marketing expense increased to 41% for the three months ended September 30, 2022 from 38% for the same period in 2021 primarily due to the aforementioned expenses. As a percentage of revenue, sales and marketing expense decreased to 44% for the nine months ended September 30, 2022 from 45% for the same period in 2021. The decrease as a percentage of revenue is primarily due to the increase in revenue during the period, slightly offset by the additional expenses noted above. General and Administrative Expense General and administrative expenses primarily consist of employee-related costs, and other direct costs associated with out personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for the three months ended September 30, 2022 increased 37% to $9.4 million from $6.8 million for the same period in 2021. The increase in general and administrative expense for the three months is primarily due to increased compensation and benefit expense related to headcount growth at ZMI and an increase in research and development expenses for ZMS. As a percentage of revenue, general and administrative expense increased to 23% for the three months ended September 30, 2022 from 20% for the same period in 2021. The increase as a percentage of revenue is primarily due to the items noted above, partially offset by the increase in revenue during the period. General and administrative expense for the nine months ended September 30, 2022 increased 40% to $26.0 million from $18.5 million for the same period in 2021. The increase in general and administrative expense for the nine months is primarily due to increased compensation and benefit expense related to increased salaries at ZMI, increases in rent and facilities expense as we moved our corporate headquarters during May 2021, research and development expenses for ZMS, and amortization of intangible assets acquired from the Kestrel acquisition in December 2021. As a percentage of revenue, general and administrative expense increased to 24% for the nine months ended September 30, 2022 from 21% for the same period in 2021. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by the increase in revenue during the period. 24 Table of Contents Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 23% for both the three and nine months ended September 30, 2022. Discrete items, primarily related to excess tax benefits related to stock option exercises, of $0.2 million and $(0.2) million for the three and nine months ended September 30, 2022, respectively, are recognized as a benefit against income tax expense. For the three and nine months ended September 30, 2022 the Company had an income tax expense of approximately $1.5 million and $2.9 million, respectively. The Company recorded income tax expense of $1.9 million and $2.5 million for the three and nine months ended September 30, 2021. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At September 30, 2022, our principal source of liquidity was $23.5 million in cash and $28.4 million in accounts receivable. Net cash provided by operating activities for the nine months ended September 30, 2022 was $9.0 million compared with net cash used in operating activities of $0.6 million for the nine months ended September 30, 2021. The increase in cash provided by operating activities for the nine months ended September 30, 2022 was primarily due to an increase in net income and the change in accounts receivable. The increase was partially offset by increased inventory due to our order growth and in-transit inventory. Net cash used in investing activities for the nine months ended September 30, 2022 and 2021 was $0.3 million and $0.4 million, respectively. Cash used in investing activities for the nine months ended September 30, 2022 was primarily related to leasehold improvements at our new facility related to the acquisition of Kestrel and the purchase of computer equipment. Cash used in investing activities for the nine months ended September 30, 2021 was primarily related to leasehold improvements at our new manufacturing and warehouse facilities. Net cash used in financing activities for the nine months ended September 30, 2022 was $27.7 million compared with net cash used in financing activities of $2.8 million for the same period in 2021. Net cash used in financing activities for the nine months ended September 30, 2022 was primarily due to purchases of treasury stock, payment of cash dividends in January 2022, and principal payments on long-term debt. Net cash used in financing activities for the nine months ended September 30, 2021 was primarily due to purchases of treasury stock. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash and cash equivalents balance at September 30, 2022 of $23.5 million; ● Our working capital balance of $47.6 million; and ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the consolidated financial statements located within our Annual Report on Form 10-K for the year ended December 31, 2021, filed with the Securities and Exchange Commission on March 22, 2022. 25 Table of Contents RISKS AND UNCERTAINTIES In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. While the Company did not incur significant disruptions to its operations during the three months ended September 30, 2022 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A. ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on such evaluation, our CEO and CFO have concluded that as of September 30, 2022, our disclosure controls and procedures are designed at a reasonable assurance level and are effective to provide reasonable assurance that information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission (“SEC”), and that such information is accumulated and communicated to our management, including our CEO and CFO, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures and internal control over financial reporting, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures and internal control over financial reporting must reflect the fact that there are resource constraints and that management is required to apply judgment in evaluating the benefits of possible controls and procedures relative to their costs. Changes in Internal Control Over Financial Reporting During the nine months ended September 30, 2022, there were no changes that materially affected or are reasonably likely to affect our internal control over financial reporting. 26 Table of Contents PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS As of the filing date of this Quarterly Report on Form 10-Q, there have been no material changes in the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2021, filed with the SEC on March 22, 2022. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities Total Number of In Thousands Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan July 1 - July 31, 2022 Share repurchase program (1) 10,000 $ 7.56 94,500 9,271 August 1 - August 31, 2022 Share repurchase program (1) 613,239 $ 9.38 707,739 3,520 September 1 - September 30, 2022 Share repurchase program (1) 364,212 $ 9.13 1,071,951 196 Quarter Total Share repurchase program (1) 987,451 $ 9.15 1,071,951 196 (1) Shares were purchased through the Company’s publicly announced share repurchase program approved by the Company’s Board of Directors on June 9, 2022. The program expires at the earlier of June 9, 2023 or reaching $10.0 million of repurchases. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION None. 27 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1** Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB * XBRL Taxonomy Label Linkbase Document 101.PRE * XBRL Presentation Linkbase Document 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith ** Furnished herewith 28 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat October 27, 2022 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 29 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-K (Mark One) ☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the year ended December 31, 2022 ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 ZYNEX, INC. (Exact name of registrant as specified in its charter) Nevada 90-0275169 (State or other jurisdiction of incorporation or organization) (IRS Employer Identification No.) 9655 Maroon Circle , Englewood , CO 80112 (Address of principal executive offices) (Zip Code) Registrant’s telephone number, including area co ( 303 ) 703-4906 Securities registered pursuant to Section 12(b) of the Ac Title of each class Ticker symbol(s) Name of each exchange on which registered Common Stock, $0.001 par value per share ZYXI The Nasdaq Stock Market LLC Securities registered pursuant to Section 12(g) of the Ac Title of each class Common Stock, $0.001 par value Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. ☐ Yes ☒ No Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. ☐ Yes ☒ No Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. ☒ Yes ☐ No Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). ☒ Yes ☐ No Indicate by check mark whether the registrant is a large, accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large, accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large, accelerated filer ☐ Accelerated filer ☒ Non-accelerated filer ☐ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ☒ If securities are registered pursuant to Section 12(b) of the Act, indicate by check mark whether the financial statements of the registrant included in the filing reflect the correction of an error to previously issued financial statements. ☐ Indicate by check mark whether any of those error corrections are restatements that required a recovery analysis of incentive-based compensation received by any of the registrant’s executive officers during the relevant recovery period pursuant to §240.10D-1(b). ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). ☐ Yes ☒ No The aggregate market value of the registrant’s common stock held by non-affiliates of the registrant as of June 30, 2022, the last business day of the Registrant’s last completed second quarter, based upon the closing price of the common stock as reported by the Nasdaq Stock Market on such date was approximately $ 175.2 million. As of March 13, 2023, 41,531,169 shares of common stock are issued and 36,634,459 shares are outstanding. Documents incorporated by referen Portions of the Registrant’s definitive proxy statement relating to its 2023 annual meeting of stockholders (the “ Proxy Statement”) are incorporated by reference into Part III of this Annual Report on Form 10-K where indicated. The Proxy Statement will be filed with the U.S. Securities and Exchange Commission within 120 days after the end of the fiscal year to which this report relates. Table of Contents TABLE OF CONTENTS ZYNEX, INC. ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 2022 Page PART I 2 Item 1. Business 2 Item 1A. Risk Factors 11 Item 1B. Unresolved Staff Comments 28 Item 2. Properties 28 Item 3. Legal Proceedings 29 Item 4. Mine Safety Disclosures 29 PART II 30 Item 5. Market For Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 30 Item 6. [R eserved] 31 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 31 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 40 Item 8. Financial Statements and Supplementary Data 40 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures 40 Item 9A. Controls and Procedures 41 Item 9B. Other Information 42 Item 9C. Disclosure Regrading Foreign Jurisdictions that Prevent Inspections 42 PART III 43 Item 10. Directors, Executive Officers and Corporate Governance 43 Item 11. Executive Compensation 43 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 43 Item 13. Certain Relationships and Related Transactions, and Director Independence 44 Item 14. Principal Accounting Fees and Services 44 PART IV 45 Item 15. Exhibits, Financial Statement Schedules 45 Item 16. Form 10-K Summary 47 Signatures 48 Table of Contents CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION This report includes statements of our expectations, intentions, plans, and beliefs that constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Nonetheless, it is important for an investor to understand that these statements involve risks and uncertainties. These statements relate to the discussion of our business strategies and our expectations concerning future operations, margins, profitability, liquidity, and capital resources and to analyses and other information that are based on forecasts of future results and estimates of amounts not yet determinable. We have used words such as “may,” “will,” “should,” “expect,” “intend,” “plan,” “anticipate,” “believe,” “think,” “estimate,” “seek,” “expect,” “predict,” “could,” “project,” “potential,” and other similar terms and phrases, including references to assumptions, in this report to identify forward-looking statements. These forward-looking statements are made based on expectations and beliefs concerning future events affecting us and are subject to uncertainties, risks and factors relating to our operations and business environment, all of which are difficult to predict and many of which are beyond our control, that could cause our actual results to differ materially from those matters expressed or implied by these forward-looking statements. Such risks and other factors also include those listed in Item 1A. “Risk Factors” and elsewhere in this report and our other filings with the Securities and Exchange Commission. When considering these forward-looking statements, you should keep in mind the cautionary statements in this report and the documents incorporated by reference. New risks and uncertainties arise from time to time, and we cannot predict those events or how they may affect us. We assume no obligation to update any forward-looking statements after the date of this report as a result of new information, future events or developments, except as required by applicable laws and regulations. When used in this annual report, the terms the “Company,” “Zynex”, “we,” “us,” “ours,” and similar terms refer to Zynex, Inc., a Nevada corporation, and its subsidiaries, Zynex Medical, Inc., Zynex NeuroDiagnostics, Inc., Zynex Monitoring Solutions Inc., Kestrel Labs, Inc., Zynex Europe ApS, and Pharmazy, Inc. As of the date of this annual report, our only operating subsidiary is Zynex Medical, Inc. (“ZMI”). Zynex Monitoring Solutions, Inc. (“ZMS”) has developed its fluid monitoring system product as described below. 1 Table of Contents PART I ITEM 1. BUSINESS History Zynex, Inc. was founded by Thomas Sandgaard in 1996, when he founded two privately held companies that eventually were folded into Zynex, Inc. Zynex, Inc., a Nevada corporation, is the parent company of six active and inactive subsidiaries. As of December 31, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Kestrel Labs, Inc. (“Kestrel,” a wholly-owned Colorado corporation), Zynex Europe (“ZEU,” a wholly-owned Colorado corporation), Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation), and Pharmazy, Inc. (“Pharmazy,” a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO™ CO-Oximeter, a noninvasive multi-parameter pulse oximeter, and HemeOx™, a noninvasive total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. ZMS has developed the CM-1500 monitoring system (“CM-1500”) which was granted 510(k) clearance in February 2020 by the FDA in the United States of America. ZMS filed a 510(k) application for the CM-1600 in December 2021, its next generation wireless monitoring system (“CM-1600”) and is continuing to work with the FDA on obtaining clearance. ZMS has achieved no revenues to date. Substantially all of the Company’s consolidated revenue in 2022 and 2021 is attributable to ZMI. Our headquarters are located in Englewood, Colorado. Active Subsidiaries Zynex Medical, Inc. (ZMI): ZMI designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All of our medical devices are designed to be patient friendly and designed for home use. Our devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of our medical devices are marketed in the U.S. and are subject to FDA regulation and clearance. Our products require a physician’s prescription before they can be dispensed in the U.S. Our primary product is the NexWave device. The NexWave is marketed to physicians and therapists by our field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. ZMI distributes complementary products such as lumbar support, cervical traction, knee bracing, and hot/cold therapy. These complement our pain management products and are critical for physicians and therapists. These products require a prescription and are covered by most insurance plans and Medicare. ZMI designs, manufactures, and markets the NeuroMove product. The NeuroMove contains electromyography and electric stimulation technology that is primarily used for stroke, spinal cord and traumatic brain injury rehabilitation (“SCI”), by reaching parts of the brain to re-connect with muscles, also known as neuroplasticity. The NeuroMove product is primarily marketed to medical clinics. Zynex did not have material sales of this product in 2022 or 2021. ZMI also designs, manufactures, and markets the InWave product, an in-home electrical stimulation device used to treat female urinary incontinence. The device requires a prescription and is covered by most insurance plans and Medicare. Zynex did not have material sales of this product in 2022 or 2021. 2 Table of Contents Zynex Monitoring Solutions (ZMS): ZMS was formed in 2011 to develop and market medical devices for non-invasive patient monitoring beginning with our Zynex Monitoring System. The monitor is a non-invasive medical device for monitoring relative fluid volume changes used in operating and recovery rooms to detect fluid loss during surgery and internal bleeding during recovery. The CM-1500 received 510(k) clearance from the FDA in February 2020. The Zynex Monitoring System has been tested in several Institutional Review Board (“IRB”) approved clinical studies, both in well-controlled healthy volunteer settings as well as in clinical use environments. In 2022, the clinical trials were expanded to include the next generation CM-1600. Enrollment was completed in the apheresis blood donation study with Vitalant Research Institute (the research arm of Vitalant, the nation’s largest independent, nonprofit blood services provider) to track changes in the device’s patented Relative Index (“RI”) during apheresis blood donation procedures. Multiple studies were also completed at Yale University where volunteer study subjects underwent simulated hemorrhage using a lower body negative pressure chamber while wearing the device. Finally, enrollment was initiated in a large-scale multi-site study to measure the sensitivity and specificity of the CM-1600 at detecting minor blood loss, which is anticipated to finish recruitment and data collection in the first half of 2023. We have built a number of commercial devices in pilot-production and continue to refine the algorithms for the patented Relative Index. We have received two U.S. utility patents for this unique application, the first in the fourth quarter of 2018 and the second in the first quarter of 2021, and we believe this product could serve a currently unmet need in the market for safer surgeries and safer monitoring of patients during recovery. In addition to FDA clearance, we are pursuing European Union (“EU”) Certificate European (“CE”) Marking. CE Marking is a certification that a product meets the standards established by the 27 nations of the EU and qualifies for sale in the EU and 4-nation European Free Trade Association. In early 2022, the integration of Kestrel and their pulse oximetry products into the ZMS organization was completed. Pulse oximetry is a commonly used noninvasive monitoring method for estimation of oxygen saturation in arterial blood. The inaccuracies of traditional Light Emitting Diode (“LED”)-based pulse oximeters have recently been highlighted specific to skin pigmentation bias and the inability to accurately measure blood oxygen levels in the presence of other conditions such as in cases of carbon monoxide poisoning or methemoglobinemia. ZMS’s investigational laser-based products are designed to address these inaccuracies and include the novel NiCO™ CO-Oximeter, and HemeOx™, a total hemoglobin oximeter that is designed to enable continuous noninvasive arterial blood monitoring. NiCO is anticipated to be submitted to the FDA for clearance in the third quarter of 2023. As ZMS’ products are still in development, ZMS did not produce any revenue for the years ending December 31, 2022 and 2021. In addition to the fluid volume monitor, ZMS filed for a provisional patent for a non-invasive sepsis monitor in December 2020 and an updated utility patent filed in December 2021. SALES AND GROWTH STRATEGIES To date, ZMI accounts for substantially all of our revenue and profit. We are focused on expanding our sales force to address what we believe is an untapped market for electrotherapy products for pain management which has become more attractive due to large competitors exiting the market. As of December 31, 2022, we had approximately 450 field sales representatives on staff or in the hiring process. We continue to hire field sales representatives at a rapid rate, focusing on the quality of each candidate with the goal of having approximately 500-600 sales representatives in the U.S. by the end of 2023. We will be focused on increasing performance management standards for our sales force. In an effort to increase revenue and diversification in order to provide our prescribers and patients with diverse solutions for their pain management needs, we are continually adding new complementary products to our ZMI sales channel, such as our hot/cold therapy, cervical traction, knee braces and LSO back braces. In addition, in March 2020 we introduced a full catalog of over 3,300 physical therapy products to promote in the clinics which we serve. We believe adding these complementary products will increase our market share in the marketplace and, in the future, grow our core business by providing our electrotherapy patients additional non-pharmacological pain relief and complementary products to our manufactured devices. 3 Table of Contents Distribution and Revenue Streams: Currently, substantially all of our revenue is generated through our ZMI subsidiary from our electrotherapy products. We sell through a direct sales force in United States. Our field sales representatives are engaged to sell in predefined geographic markets and are compensated with a base salary and incentives based on the type of product sold and insurance. Our efforts to date have been focused on the United States market. Our revenue is derived from several sources including patients with insurance plans held by commercial health insurance carriers or government payers who pay on behalf of their insureds. The remaining portion of revenue is primarily received from workers’ compensation claims and attorneys representing injured patients, hospitals, clinics and private-pay individuals. A large part of our revenue is recurring. Recurring revenue results primarily from the sale of surface electrodes and batteries sent to existing patients with our units. Electrodes and batteries are consumable items that are considered an integral part of our products. Private Labeled Distributed Products In addition to our own products, we distribute, through our sales force, a number of private labeled supplies and complementary products from other domestic manufacturers. These products generally include patient consumables, such as electrodes and batteries plus cervical traction, lumbar support, knee braces and hot/cold therapy. Customarily, there are no formal contracts between vendors in the durable medical equipment industry. Replacement products and components are easily found, either from our own products or other manufacturers, and purchases are made by purchase order. Products We currently market and sell Zynex-manufactured products and distribute complementary products and private labeled supplies for Zynex products, as indicated be Product Name Description Zynex Medical Products NexWave Dual channel, multi-modality IFC, TENS, NMES device NeuroMove Electromyography (EMG) — triggered electrical stimulation device InWave Electrical stimulation for treatment of female urinary incontinence E-Wave NMES device Private Labeled Supplies Electrodes Supplies, re-usable for delivery of electrical current to the body Batteries Supplies, for use in electrotherapy products Distributed Complementary Products Comfortrac/Saunders Cervical traction JetStream Hot/cold therapy LSO Back Braces Lumbar support 4 Table of Contents Knee Braces Knee support Zynex Monitoring Solutions Products (Products in Development, Not Yet Available for Sale) CM-1500 Zynex Fluid Monitoring System CM-1600 Zynex Wireless Fluid Monitoring System – Submitted to the FDA, December 2021, not yet FDA cleared. NiCO CO-Oximeter Laser-based Noninvasive CO-Oximeter (Not yet FDA cleared) HemeOx tHb Oximeter Laser-based Total Hemoglobin Pulse Oximeter (Not yet FDA cleared) Product Uses Pain Management and Control Standard electrotherapy is a clinically proven and medically accepted alternative to manage acute and chronic pain. Electrical stimulation has been shown to reduce most types of local pain, such as tennis elbow, neck or lower back pain, arthritis, and others. The devices used to accomplish this are commonly described as the TENS family of devices. Electrotherapy is not known to have any negative side effects, a significant advantage over most pain relief medications. The benefits of electrotherapy can inclu pain relief, increased blood flow, reduced edema, prevention of venous thrombosis, increased range-of-motion, prevention of muscle disuse atrophy, and reduced urinary incontinence. Electrotherapy introduces an electrical current applied through surface electrodes. The electrical current “distorts” a pain signal on its way to the central nervous system and the brain, thus reducing the pain. Additionally, by applying higher levels of electricity, muscles contract and such contraction is believed to assist in the benefits mentioned above. Numerous clinical studies have been published over several decades showing the effectiveness of IFC and TENS for pain relief. Our primary electrotherapy device, the NexWave, has received FDA 510(k) clearance. The NexWave is a digital IFC, TENS and NMES device that delivers pain-alleviating electrotherapy. Stroke and Spinal Cord Injury Rehabilitation Our proprietary NeuroMove product is a Class II medical device that has been cleared by the FDA for stroke rehabilitation. Stroke and SCI usually affect a survivor’s mobility, functionality, speech, and memory, and the NeuroMove is designed to help the survivor regain movement and functionality. Sales of NeuroMove did not generate material revenue for the years ended December 31, 2022 and 2021. Hemodynamic Monitoring Hemodynamic monitoring is the process of measuring the blood flow and pressure exerted in the heart, veins, and arteries. It provides an assessment of a patient’s circulatory status and their ability to assure cardiac output and oxygen delivery to the body. Maintaining effective circulating blood volume and pressure are key to assuring adequate oxygen saturation and perfusion. Hemodynamic monitoring devices have been historically classified as, (a) invasive, using a central or pulmonary artery catheter, (b) minimally invasive, with the placement of an arterial line, and (c) noninvasive, where no device is inserted into the body for clinical assessment. 5 Table of Contents The Zynex Fluid Monitoring System CM-1500 and the Zynex Wireless Fluid Monitoring System CM-1600 are noninvasive monitoring devices designed to measure relative changes in fluid volume in adult patients. Fluid status is determined using Zynex’s proprietary algorithm and expressed as the patented Relative Index™, a simple value designed to accurately trend patient vital signs and alert clinicians for early intervention. The CM-1500 was cleared by the FDA in 2020. The CM-1600 has been submitted to the FDA and is pending clearance. Pulse Oximetry Monitoring Pulse oximetry is a noninvasive method of measuring the oxygen saturation level (“SpO2”) of arterial blood. As one of the most common medical devices used in and out of hospitals around the world, pulse oximeters have gained widespread clinical acceptance as the standard of care for monitoring oxygen saturation. SpO2 has become the “fifth vital sign”, which, together with heart rate, blood pressure, respiratory rate, and temperature, provides crucial clinical information about a person’s health status. The NiCO™ Noninvasive CO-Oximeter, the first laser-based photoplethysmographic patient monitoring technology, is designed to noninvasively measure and monitor four crucial species of hemoglobin with unprecedented accuracy. The HemeOx™ Total Hemoglobin Pulse Oximeter is designed to noninvasively measure total hemoglobin and oxygen saturation, two critical parameters that typically require invasive arterial blood sampling for measurement. Total hemoglobin is a very commonly ordered blood test in healthcare, and HemeOx™ measures it with the continuous and noninvasive ease of a pulse oximeter at the patient bedside. The NiCO™ Noninvasive CO-Oximeter and the HemeOx™ Total Hemoglobin Pulse Oximeter have not yet been cleared by the FDA. MARKETS Zynex Medical (ZMI): To date, the majority of our revenue has been generated by our ZMI electrotherapy products and private labeled supplies. Thus, we primarily compete in the home electrotherapy market for pain management, with products based on IFC, TENS and NMES devices and consumable supplies. We estimate the annual domestic market for home electrotherapy products at approximately $500 million to $1 billion. During 2022 and 2021, we maintained our sales force of approximately 450 direct sales representatives to address what we believe is an underserved electrotherapy market. The current opioid epidemic has been declared a health emergency, and we are uniquely positioned to help reduce the amount of opioids prescribed for treatment of chronic and acute pain symptoms. We are committed to providing health care professionals with alternatives to traditional opioid based treatment programs with our prescription-strength products which have no side effects. This has never been more necessary than it is today considering the staggering statistics. ● Pain impacts the lives of more Americans than diabetes, heart disease, and cancer combined. ● Pain is the leading cause of disability, and seeking treatment for chronic or acute pain is the most common reason American’s seek health care. Approximately 50 million Americans suffer from chronic pain. ● Nearly 20 million Americans experienced high-impact chronic pain, defined as “limiting life or work activities on most days or every day”, in the past 3 months. ● If pharmaceuticals such as opioids continue to be used as the first line of defense, America will continue to see a rise in opioid misuse, addiction and drug-related deaths. We also distribute complementary products such as JetStream Hot/Cold Therapy, Knee bracing, LSO Back bracing and Comfortrac and Saunders cervical and lumbar traction units, all products targeted at treating acute as well as chronic pain with minimal side-effects. 6 Table of Contents Key characteristics of our electrotherapy market ● Collection cycles of initial payment from insurance carriers can range from less than 30 days to many months and considerably longer for many attorney, personal injury, and workers’ compensation cases. Such delayed payment impacts our cash flow and can slow our growth or strain our liquidity. Collections are also impacted by whether effective billing submissions are made by our billing and collections department to the third-party payers. ● Prior to payment, third-party payers often make or take significant payment adjustments or discounts. This can also lead to denials and billing disputes with third-party payers. ● The majority of our revenue is generated by the sale of medical devices and from recurring patient supplies, specifically from our electrotherapy products sold through ZMI. We are reliant on third-party payer reimbursement. Zynex Monitoring Solutions (ZMS): ZMS is focused on developing products within the non-invasive multi-parameter patient-monitoring marketplace. ZMS is currently focusing on its fluid monitoring system, the sepsis monitor and the pulse oximetry products acquired in its acquisition of Kestrel. We believe our products, once released into the marketplace (of which there can be no guarantee), will compete against multiple competitors, ranging from large manufacturers with multiple business lines to small manufacturers that offer a limited range of products. ZMS has not generated any revenue. Competition Since we are in the market for medical electrotherapy products, we face a mixture of competitors ranging from large manufacturers with multiple business lines to small manufacturers that offer a limited selection of products. Our principal competitors include International Rehabilitative Sciences, Inc. d/b/a RS Medical, EMSI, and H-Wave. In addition, we face competition from providers of alternative medical therapies, such as pharmaceutical companies. RESOURCES Manufacturing and Product Assembly Our manufacturing and product assembly strategy consists of the following elements: ● Compliance with relevant legal and regulatory requirements. ● Use of contract manufacturers as needed, thereby allowing us to quickly respond to changes in volume and avoid large capital investments for assembly and manufacturing equipment of certain product components. We believe there is a large pool of highly qualified contract manufacturers, domestically and internationally, for the type of manufacturing assistance needed for our manufactured devices. ● Utilization of in-house final assembly and test capabilities. ● Development of proprietary software and hardware for all products in house. ● Testing all units in a real-life, in-house environment to help ensure the highest possible quality and patient safety while reducing the cost of warranty repairs. 7 Table of Contents We utilize contract manufacturers located in the U.S. to manufacture components for our NexWave and NeuroMove units and for some of our other products and assemble in-house for our NexWave and NeuroMove units. We do not have long-term supply agreements with our contract manufacturers, but we utilize purchase orders with agreed upon terms for our ongoing needs. We believe there are numerous suppliers that can manufacture our products and provide our required raw materials. Generally, we have been able to obtain adequate supplies of our required raw materials and components. We are always evaluating our suppliers for price, quality, delivery time and service. The reduction or interruption in supply, and an inability to develop alternative sources for such supply, could adversely affect our operations. Intellectual Property Zynex is committed to aggressively protecting the intellectual property rights the Company has worked so hard to obtain and to expand our intellectual property portfolio for advances to our existing products and for new products as they are developed. Zynex has received two U.S. utility patents, as well as a utility patent in Europe, for our fluid monitoring system. The acquisition of Kestrel Labs, Inc. by Zynex Inc. included an intellectual property portfolio surrounding the acquired laser-based photoplethysmographic technology. This expands both the size and scope of Zynex’s intellectual property portfolio to include key aspects of the exciting pulse oximetry market. Zynex is trademarked in the U.S. We utilize non-disclosure and trade secret agreements with employees and third parties to protect our proprietary information. GOVERNMENT REGULATION US Food and Drug Administration (FDA) All of our ZMI products are classified as Class II (Medium Risk) devices by the FDA, and clinical studies with our products are considered to be NSR (Non-Significant Risk Studies). Our business is regulated by the FDA, and all products typically require 510(k) market clearance before they can be put into commercial distribution. Section 510(k) of the Federal Food, Drug and Cosmetic Act, is available in certain instances for Class II devices. It requires that before introducing most Class II devices into interstate commerce, the sponsor must first submit information to the FDA demonstrating that the device is substantially equivalent in terms of safety and effectiveness to a device legally marketed prior to March 1976 or to devices that have been reclassified in accordance with the provisions of the Federal Food, Drug, and Cosmetic Act that do not require approval of a premarket approval application. When the FDA determines that the device is substantially equivalent, the agency issues a “clearance” letter that authorizes marketing of the product. We are also regulated by the FDA’s Quality System Regulation (QSR), which sets forth current Good Manufacturing Practice (GMP) requirements for devices. We believe that our products have obtained or are good candidates for the requisite FDA clearance or are exempt from the FDA clearance process. In November 2001, Zynex received FDA 510(k) clearance to market NeuroMove. In September 2011, Zynex received FDA 510(k) clearance to market the NexWave, our current generation IFC, TENS and NMES device. In August 2012, Zynex received FDA 510(k) clearance to market the InWave, our next generation muscle stimulator for treatment of female incontinence. Failure to comply with FDA requirements could adversely affect us. International Zynex continues to explore opportunities to gain regulatory clearance for its devices in markets outside of the U.S. CE marking is the medical device manufacturer’s claim that a product meets the essential requirements of all relevant European Medical Device Directives. The CE mark is a legal requirement to place a device on the market in the EU. Zynex is currently in the process of applying for CE marking on several of its electrotherapy devices and its CM-1500 Zynex Fluid Monitoring System. We comply with applicable regulatory requirements within the markets in which we currently sell. If and when we decide to enter additional geographic areas, we intend to comply with applicable regulatory requirements within those markets. 8 Table of Contents Zynex has received ISO13485: 2016 certification for its compliance with international standards in quality management systems for design, development, manufacturing and distribution of medical devices. This certification is not only important as assurance that we have the appropriate quality systems in place but is also crucial to our international expansion efforts as many countries require this certification as part of their regulatory approval. Government Regulation The delivery of health care services and products has become one of the most highly regulated professional and business endeavors in the United States. Both the federal government and individual state governments are responsible for overseeing the activities of individuals and businesses engaged in the delivery of health care services and products. Federal law and regulations are based primarily upon the Medicare and Medicaid programs. Each program is financed, at least in part, with federal funds. State jurisdiction is based upon the state’s interest in regulating the quality of health care in the state, regardless of the source of payment. Many state and local jurisdictions impose additional legal and regulatory requirements on our business including various states and local licenses, taxes, limitations regarding insurance claim submission and limitations on relationships with referral parties. Failure to comply with this myriad of regulations in a particular jurisdiction may subject us to fines or other penalties, including the inability to sell our products in certain jurisdictions. Federal health care laws apply to us when we submit a claim to any other federally funded health care program, in addition to requirements to meet government standards. The principal federal laws that we must abide by in these situations inclu ● Those that prohibit the filing of false or improper claims for federal payment. ● Those that prohibit unlawful inducements for the referral of business reimbursable under federally funded health care programs. The federal government may impose criminal, civil and administrative penalties on anyone who files a false claim for reimbursement from federally funded programs. A federal law commonly known as the “anti-kickback law” prohibits the knowing or willful solicitation, receipt, offer or payment of any remuneration made in return ● The referral of patients covered under federally-funded health care programs; or ● The purchasing, leasing, ordering, or arranging for any goods, facility, items or service reimbursable under those programs. Healthcare Regulation Federal and state healthcare laws, including fraud and abuse and health information privacy and security laws, also apply to our business. If we fail to comply with those laws, we could face substantial penalties and our business, results of operations, financial condition and prospects could be adversely affected. The laws that may affect our ability to operate include but are not limited t the federal Anti-Kickback Statute, which prohibits. among other things, soliciting, receiving, offering or paying remuneration, directly or indirectly, to induce, or in return for, the purchase or recommendation of an item or service reimbursable under a federal healthcare program, such as the Medicare and Medicaid programs; and federal civil and criminal false claims laws and civil monetary penalty laws, which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid, or other third-party payers that are false or fraudulent. Additionally, we are subject to state law equivalents of each of the above federal laws, which may be broader in scope and apply regardless of whether the payer is a federal healthcare program, and many of which differ from each other in significant ways and may not have the same effect, further complicate compliance efforts. Numerous federal and state laws, including state security breach notification laws, state health information privacy laws and federal and state consumer protection laws, govern the collection, use and disclosure of personal information. In addition, most healthcare providers who are expected to prescribe our products and from whom we obtain patient health information, are subject to privacy and security requirements under the Health Insurance Portability and Accountability Act of 1996, as amended by the Health Information Technology and Clinical Health Act, or HIPAA. We could be subject to criminal penalties if we knowingly obtain individually 9 Table of Contents identifiable health information from a HIPAA-covered entity, including healthcare providers, in a manner that is not authorized or permitted by HIPAA. The legislative and regulatory landscape for privacy and data protection continues to evolve, and there has been an increasing amount of focus on privacy and data protection issues with the potential to affect our business, including recently enacted laws in a majority of states requiring security breach notification. These laws could create liability for us or increase our cost of doing business. In addition, the Physician Payments Sunshine Act, enacted as part of the Patient Protection and Affordable Care Act of 2010, or the ACA, created a federal requirement under the federal Open Payments program, that requires certain manufacturers to track and report to the Centers for Medicare and Medicaid Services, or CMS, annually certain payments and other transfers of value provided to physicians and certain advanced non-physician health care practitioners and teaching hospitals made in the previous calendar year, as well as ownership and investment interests held by physicians and their immediate family members. In addition, there are also an increasing number of state laws that require manufacturers to make reports to states on pricing and marketing information. These laws may affect our sales, marketing, and other promotional activities by imposing administrative and compliance burdens on us. In addition, given the lack of clarity with respect to these laws and their implementation, our reporting actions could be subject to the penalty provisions of the pertinent state and federal authorities. Research and Development During 2022 and 2021, we incurred approximately $7.1 million and $2.6 million in expenses, respectively, related to our ZMS operations. During 2022, approximately $1.0 million of the expenses qualified for Section 174 - “Amortization of Research and Experimental Expenditures” tax treatment. We expect our research and development expenses to increase in 2023 as our ZMS business expands. HUMAN CAPITAL As of December 31, 2022, we employed approximately 900 full time employees. Our employees are our most important assets and set the foundation for our ability to achieve our strategic objectives. All of our employees contribute to our success and, in particular, our sales representatives are instrumental in our ability to reach more patients in pain. The success and growth of our business depends in large part on our ability to attract, retain and develop a diverse population of talented and high-performing employees at all levels of our organization. To succeed in a competitive labor market, we have developed recruitment and retention strategies, objectives and measures that we focus on as part of the overall management of our business. These strategies, objectives and measures form our human capital management framework and are advanced through the following programs, policies and initiativ ● Competitive pay and benefits. Our compensation programs are designed to align the compensation of our employees with our performance and to provide the proper incentives to attract, retain, and motivate employees to achieve superior results. ● Training and development. We invest in learning opportunities that foster a growth mindset. Our formal offerings include a tuition reimbursement program, an e-learning program that all corporate employees have access to and in-house learning opportunities through the Company’s Zynex Growth and Development program. ● Health and Wellness. We invest in the health and wellness of our employees by offering monthly benefits and offer programs and support to assist our employees. 10 Table of Contents ITEM 1A. RISK FACTORS RISKS RELATED TO OUR BUSINESS AND THE INDUSTRY IN WHICH WE OPERATE Unfavorable global economic conditions could adversely affect our business, financial condition or results of operations. Our results of operations could be adversely affected by general conditions in the global economy and in the global financial markets, including conditions that are outside of our control, such as the impact of health and safety concerns, including SARS-CoV-2 (severe acute respiratory syndrome coronavirus 2) (“ COVID -19”) pandemic and various variants, as well as the recent inflation in the United States, foreign and domestic government sanctions imposed on Russia as a result of its recent invasion of Ukraine, and other disruptions to global supply chains. Each of these events has caused or may continue to result in extreme volatility and disruptions in the capital and credit markets. A severe or prolonged economic downturn, whether due to inflationary pressures or otherwise, could result in a variety of risks to our business, including weakened demand for our products and our ability to raise additional capital when needed on acceptable terms, if at all. A weak or declining economy could strain our suppliers, possibly resulting in supply disruption, or cause delays in payments for our services by third-party payors or our collaborators. Any of the foregoing could harm our business and we cannot anticipate all the ways in which the current economic climate and financial market conditions could adversely impact our business. A pandemic, epidemic, or outbreak of an infectious disease, such as of COVID-19 and subsequent variants, may materially and adversely affect our business and results of operations. Public health crises such as pandemics or similar outbreaks could adversely impact our business. In 2019, COVID-19 surfaced in Wuhan, China and has since spread worldwide. The COVID -19 pandemic is evolving, and to date has led to the implementation of various responses, including government-imposed quarantines, travel restrictions and other public health safety measures. The effects of this outbreak on our business have included and could continue to include temporary closures of our providers and clinics and suspensions of elective surgical procedures. This has and could continue to impact our interactions and relationships with our customers. 11 Table of Contents In addition to temporary closures of the providers and clinics that we serve, we could also experience temporary closures of the facilities of our suppliers, contract manufacturers, or other vendors in our supply chain, which could impact our business, interactions and relationships with our third-party suppliers and contractors, and results of operations. The extent to which COVID-19 will impact our future business and the economy, will also depend on future developments, which are highly uncertain and cannot be predicted with confidence, including the duration of the pandemic, adverse impacts of the Omicron COVID-19 variant or other COVID-19 variants, new information that will emerge concerning the severity of COVID-19 and the actions to contain COVID-19 or treat its impact, among others. Accordingly, we cannot predict the extent to which our financial condition, results of operations and value of our common stock will be affected. The uncertainty surrounding the COVID-19 outbreak has caused the Company to increase its inventory in anticipation of possible supply chain shortages related to the COVID-19 virus. While we did not incur significant disruptions to our operations during 2021 and 2022, we are unable at this time to predict with confidence the impact that COVID-19 will have on our business, financial position and operating results in future periods due to numerous uncertainties. Rapid technological change could cause our products to become obsolete and if we do not enhance our product offerings through our research and development efforts, we may be unable to effectively compete. The technologies underlying our products are subject to rapid and profound technological change. Competition intensifies as technical advances in each field are made and become more widely known. We can give no assurance that others will not develop services, products, or processes with significant advantages over the products, services, and processes that we offer or are seeking to develop. Any such occurrence could have a material and adverse effect on our business, results of operations and financial condition. We plan to enhance and broaden our product offerings in response to changing customer demands and competitive pressure and technologies, but we may not be successful. The success of any new product offering or enhancement to an existing product will depend on numerous factors, including our ability t ● properly identify and anticipate physician and patient needs; ● develop and introduce new products or product enhancements in a timely manner; ● adequately protect our intellectual property and avoid infringing upon the intellectual property rights of third parties; ● demonstrate the safety and efficacy of new products, including through the conduct of additional clinical trials; ● obtain the necessary regulatory clearances or approvals for new products or product enhancements; and ● achieve adequate coverage and reimbursement for our products. If we do not develop and, when necessary, obtain regulatory clearance or approval for new products or product enhancements in time to meet market demand, or if there is insufficient demand for these products or enhancements, our results of operations will suffer. Our research and development efforts may require a substantial investment of time and resources before we are adequately able to determine the commercial viability of a new product, technology, material or other innovation. In addition, even if we are able to successfully develop enhancements or new generations of our products, these enhancements or new generations of products may not be covered or reimbursed by government healthcare programs such as Medicare or private health plans, may not produce sales in excess of the costs of development and/or may be quickly rendered obsolete by changing customer preferences or the introduction by our competitors of products embodying new technologies or features. 12 Table of Contents We are dependent on reimbursement from third-party payers, most of whom are larger than we are and have substantially more employees and financial resources; changes in insurance reimbursement policies or application of them have resulted in decreased or delayed revenues. A large percentage of our revenues come from third-party payer reimbursement. Most of the third-party payers are large insurance companies with substantially more resources than we have. Upon delivery of our products to our patients, we directly bill the patients’ private insurance companies or government payers for reimbursement. If the third-party payers do not remit payment on a timely basis or if they change their policies to exclude or reduce coverage for our products, we would experience a decline in our revenue as well as cash flow. In addition, we may deliver products to patients and invoice based on past practices and billing experiences only to have third-party payers later deny coverage for such products. In some cases, our delivered product may not be covered pursuant to a policy statement of a third-party payer, despite a payment history with the third-party payer and benefits to the patients. A third-party payer may seek repayment of amounts previously paid for covered products. We maintain an allowance for provider discounts and amounts intended to cover legitimate requests for repayment. Failure to adequately identify and provide for amounts for resolution of repayment demands in our allowance for provider discounts could have a material adverse effect on our results of operations and cash flows. For government health care programs, if we identify a deficiency in prior claims or practices, we may be required to repay amounts previously reimbursed to us by government health care programs. We frequently receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients, and other times include a significant number of refund claims in a single request which can accumulate to a significant amount. We review and evaluate these requests and determine if any refund is appropriate. During the adjudication process we review claims where we are rebilling or pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests, we are generally unable to determine if a refund request is valid. Although we cannot predict whether or when a request for repayment or our subsequent request for reimbursement will be resolved, it is not unusual for such matters to be unresolved for a long period of time. No assurances can be given with respect to our estimates for our allowance for provider discounts refund claim reimbursements and offsets or the ultimate outcome of the refund requests. We are dependent on our Medicare Supplier Number. We are required to have a Medicare Supplier Number in order to have the ability to bill Medicare for services provided to Medicare patients. Furthermore, all third-party and Medicaid contracts require us to have a Medicare Supplier Number. We are required to comply with Medicare DMEPOS Supplier Standards in order to maintain such number. If we are unable to comply with the relevant standards, we could lose our Medicare Supplier Number. Without such number, we would be unable to continue our various third-party and Medicaid contracts. A significant portion of our revenues are dependent upon our Medicare Supplier Number, the loss of which would materially and adversely affect our business, financial condition, results of operations and cash flows. The Center for Medicare and Medicaid Services (“CMS”) requires that all Durable Medical Equipment providers must be accredited by a CMS-approved accreditation organization. On February 1, 2013, we initially received accreditation from the Accreditation Commission for Health Care (“ACHC”), and we have remained accredited to date. If we lost our accredited status, our business, financial condition, revenues and results of operations would be materially and adversely affected. 13 Table of Contents We face periodic reviews and billing audits from governmental and private payers, and these audits could have adverse results that may negatively impact our business. As a result of our participation in the Medicaid program and our registration in the Medicare program, we are subject to various governmental reviews and audits to verify our compliance with these programs and applicable laws and regulations. We also are subject to audits under various government programs in which third-party firms engaged by CMS conduct extensive reviews of claims data and medical and other records to identify potential improper payments under the Medicare program. Private pay sources also reserve the right to conduct audits. If billing errors are identified in the sample of reviewed claims, the billing error can be extrapolated to all claims filed which could result in a larger overpayment than originally identified in the sample of reviewed claims. Our costs to respond to and defend reviews and audits may be significant and could have a material adverse effect on our business, financial condition, results of operations and cash flows. Moreover, an adverse review or audit could result in: ● required refunding or retroactive adjustment of amounts we have been paid by governmental or private payers; ● state or Federal agencies imposing fines, penalties and other sanctions on us; ● loss of our right to participate in the Medicare program, state programs, or one or more private payer networks; or ● damage to our business and reputation in various markets. Any one of these results could have a material adverse effect on our business, financial condition, results of operations and cash flows. Failure to secure and maintain adequate coverage and reimbursement from third-party payers could adversely affect acceptance of our products and reduce our revenues. The majority of our revenues come from third-party payers, primarily insurance companies. In the U.S., private payers cover the largest segment of the population, with the remainder either uninsured or covered by governmental payers. The majority of the third-party payers outside the U.S. are government agencies, government sponsored entities or other payers operating under significant regulatory requirements from national or regional governments. Third-party payers may decline to cover and reimburse certain procedures, supplies or services. Additionally, some third-party payers may decline to cover and reimburse our products for a particular patient even if the payer has a favorable coverage policy addressing our products or previously approved reimbursement for our products. Additionally, private and government payers may consider the cost of a treatment in approving coverage or in setting reimbursement for the treatment. Private and government payers are increasingly challenging the prices charged for medical products and services. Additionally, the containment of healthcare costs has become a priority of governments. Adoption of additional price controls and cost-containment measures, and adoption of more restrictive policies in jurisdictions with existing controls and measures, could further limit our revenues and operating results. If third-party payers do not consider our products or the combination of our products with additional treatments to be cost-justified under a required cost-testing model, they may not cover our products for their populations or, if they do, the level of reimbursement may not be sufficient to allow us to sell our products on a profitable basis. Reimbursement for the treatment of patients with medical devices is governed by complex mechanisms. These mechanisms vary widely among countries, can be informal, somewhat unpredictable, and evolve constantly, reflecting the efforts of these countries to reduce public spending on healthcare. As a result, obtaining and maintaining reimbursement for the treatment of patients with medical devices has become more challenging. We cannot guarantee that the use of our products will receive reimbursement approvals and cannot guarantee that our existing reimbursement approvals will be maintained in any country. Our failure to secure or maintain adequate coverage or reimbursement for our products by third-party payers in the U.S. or in the other jurisdictions in which we market our products could have a material adverse effect on our business, revenues and results of operations and cause our stock price to decline. 14 Table of Contents We may not be successful in maintaining the reimbursement codes necessary to facilitate accurate and timely billing for our products or physician services attendant to our products . Third-party payers, healthcare systems, government agencies or other groups often issue reimbursement codes to facilitate billing for products and physician services used in the delivery of healthcare. If we are unable to maintain the Healthcare Common Procedure Coding System codes (“HCPCS codes”) for physician services related to our products, our revenues and results may be affected by the absence of such HCPCS codes, as physicians may be less likely to prescribe the therapy when there is no certainty that adequate reimbursement will be available for the time, effort, skill, practice expense and malpractice costs required to provide the therapy to patients. Outside the U.S., we have not secured codes to describe our products or to document physician services related to the delivery of therapy using our products. The failure to obtain and maintain these codes could affect the growth of our business. We at times have concentrations of credit risk with third-party payers; failure to collect these and other billed receivables could adversely affect our cash flows and results of operations. The Company had receivables from one third-party payer at December 31, 2022 which made up approximately 14% of the accounts receivable balance. The Company had receivables from one third-party payer at December 31, 2021, which made up approximately 22% of the accounts receivable balance. Future changes in coverage and reimbursement policies for our products or reductions in reimbursement rates for our products by third party payers could adversely affect our business and results of operations. In the United States, our products are prescribed by physicians for their patients. Based on the prescription, which we consider an order, we submit a claim for payment directly to third-party payers such as private commercial insurance carriers, government payers and others as appropriate and the third-party payer reimburses us directly. Federal and state statutes, rules, or other regulatory measures that restrict coverage of our products or reimbursement rates could have an adverse effect on our ability to sell or rent our products or cause physical therapists and physicians to dispense and prescribe alternative, lower-cost products. There are significant estimating risks associated with the amount of revenue, related refund liabilities, accounts receivable and provider discounts that we recognize, and if we are unable to accurately estimate these amounts, it could impact the timing of our revenue recognition, and cash collections, have a significant impact on our operating results or lead to a restatement of our financial results. There are significant risks associated with the estimation of the amount of revenues, related refund liabilities, accounts receivable, and provider discounts that we recognize in a reporting period. The billing and collection process is complex due to ongoing insurance coverage changes, geographic coverage differences, differing interpretations of coverage, differing provider discount rates, and other third-party payer issues. Determining applicable primary and secondary coverage for our customers at any point in time, together with the changes in patient coverage that occur each month, require complex, resource-intensive processes. Errors in determining the correct coordination of benefits may result in refunds to payers. Revenues associated with government programs are also subject to estimating risk related to the amounts not paid by the primary government payer that will ultimately be collectable from other government programs paying secondary coverage, the patient’s commercial health plan secondary coverage or the patient. Collections, refunds and pay or retractions typically continue to occur for up to three years and longer after our products are provided. While we typically look to our past experience in collections with a payer in estimating amounts expected to be collected on current billings, recent trends and current changes in reimbursement practice, the overall healthcare environment, and other factors nonetheless could ultimately impact the amount of revenues recorded and the receivables ultimately collected. If our estimates of revenues, related refund liabilities, accounts receivable or provider discounts are materially inaccurate, it could impact the timing of our revenue recognition and have a significant impact on our operating results. It could also lead to a restatement of our financial results. 15 Table of Contents Tax laws and regulations require compliance efforts that can increase our cost of doing business and changes to these laws and regulations could impact financial results. We are subject to a variety of tax laws and regulations in the jurisdictions in which we do business. Maintaining compliance with these laws can increase our cost of doing business and failure to comply could result in audits or the imposition of fines or penalties. Further, our future effective tax rates in any of these jurisdictions could be affected, positively or negatively, by changing tax priorities, changes in statutory rates, or changes in tax laws or the interpretation thereof. The most significant recent example of this is the impact of the U.S Tax Cuts and Jobs Act of 2017 (the “Tax Act”) which was enacted on December 22, 2017. These changes significantly revised the ongoing U.S. corporate income tax law by lowering the U.S. federal corporate income tax rate from 35% to 21%, implementing a territorial tax system, imposing a one-time tax on foreign unremitted earnings and setting limitations on deductibility of certain costs, among other things. The Company has implemented the Tax Act and does not expect any significant changes related to the Tax Act at this time. The impact of healthcare reform legislation and other changes in the healthcare industry and in healthcare spending on us is currently unknown, but may harm our business. Our revenue is dependent on the healthcare industry and could be affected by changes in healthcare spending and policy. The healthcare industry is subject to changing political, regulatory and other influences. The Patient Protection and Affordable Care Act, or PPACA, made major changes in how health care is delivered and reimbursed, and increased access to health insurance benefits to the uninsured and underinsured population of the United States. The PPACA, among other things, increased the number of individuals with Medicaid and private insurance coverage, implemented reimbursement policies that tie payment to quality, facilitated the creation of accountable care organizations that may use capitation and other alternative payment methodologies, strengthened enforcement of fraud and abuse laws and encouraged the use of information technology. Such changes in the regulatory environment may also result in changes to our payer mix that may affect our operations and net revenue. In addition, certain provisions of the PPACA authorize voluntary demonstration projects, which include the development of bundling payments for acute, inpatient hospital services, physician services and post-acute services for episodes of hospital care. Further, the PPACA may negatively impact payers by increasing medical costs generally, which could have an effect on the industry and potentially impact our business and revenue as payers seek to offset these increases by reducing costs in other areas. The full impact of these changes on us cannot be determined at this time. We are also impacted by the Medicare Access and CHIP Reauthorization Act, under which physicians must choose to participate in one of two payment formulas, Merit-Based Incentive Payment System, or MIPS, or Alternative Payment Models, or APMs. Beginning in 2019, MIPS allows eligible physicians to receive upward or downward adjustments to their Medicare Part B payments based on certain quality and cost metrics, among other measures. As an alternative, physicians can choose to participate in an Advanced APM. Advanced APMs are exempt from the MIPS requirements, and physicians who are meaningful participants in APMs will receive bonus payments from Medicare pursuant to the law. In addition, current and prior healthcare reform proposals have included the concept of creating a single payer or public option for health insurance. If enacted, these proposals could have an extensive impact on the healthcare industry, including us. We are unable predict whether such reforms may be enacted or their impact on our operations. We expect that additional state and federal healthcare reform measures will be adopted in the future, any of which could limit the amounts that federal and state governments and other third-party payers will pay for healthcare services, which could harm our business, financial condition and results of operations.] 16 Table of Contents The Patient Protection and Affordable Care Act of 2010 has had an impact on our business which may be in part beneficial and in part detrimental. In March 2010, broad federal health care reform legislation was enacted in the United States. This legislation did not become effective immediately in total, and may be modified prior to the effective date of some provisions. This legislation has had an impact on our business in a variety of ways including increased number of Medicaid recipients, increased number of individuals with commercial insurance, additional audits conducted by public health insurance plans such as Medicaid and Medicare, changes to the rules that govern employer group health insurance and other factors that influence the acquisition and use of health insurance from private and public payers. This legislation has resulted in a change in reimbursement for certain durable medical equipment. We believe the new healthcare legislation and these changes to reimbursement have caused uncertainty with prescribers, which we believe contributed to our drop in orders and revenue during 2013 and 2014 and the lack of any significant increase in 2015. Orders and revenue increased in 2016 through 2022; however, we are currently unable to determine whether such trend will continue in future periods or whether the health care reform legislation will have other adverse consequences to our business and results of operations. To the extent prescribers write fewer prescriptions for our products or there is an adverse change to insurance reimbursement for our products, due to the new law or otherwise, our revenue and profitability will be materially adversely affected. The uncertainty of continuing healthcare changes and regulations may negatively affect our business. There is some doubt on the continuation of the Affordable Care Act and the legislation that the current Congress will enact to replace it, if any. Because we cannot be certain about the continuation of the Affordable Care Act or any changes or replacements thereto, even if the Affordable Care Act remains the law of the land, there is also some doubt whether the President will support it or take regulatory action to negatively impact its benefits. The amount of uncertainty creates concern on our customer’s willingness to buy products which may, or may not, be covered by future health care benefits even if they are covered currently. We are subject, directly or indirectly, to United States federal and state healthcare fraud and abuse and false claims laws and regulations. Prosecutions under such laws have increased in recent years and we may become subject to such litigation. If we are unable to or have not fully complied with such laws, we could face substantial penalties. Our operations are subject to various state and federal fraud and abuse laws, including, without limitation, the federal Anti-Kickback Statute, the federal Stark Law and the federal False Claims Act. These laws may impact, among other things, our sales, marketing and education programs. The federal Anti-Kickback Statute prohibits persons from knowingly and willfully soliciting, offering, receiving or providing remuneration, directly or indirectly, in exchange for or to induce either the referral of an individual, or the furnishing or arranging for a good or service, for which payment may be made under a federal healthcare program such as the Medicare and Medicaid programs. Several courts have interpreted the statute’s intent requirement to mean that if any one purpose of an arrangement involving remuneration is to induce referrals of federal healthcare covered business, the statute has been violated. In addition, a person or entity does not need to have actual knowledge of the statute or specific intent to violate it in order to have committed a violation. The Anti-Kickback Statute is broad and, despite a series of narrow safe harbors, prohibits many arrangements and practices that are lawful in businesses outside of the healthcare industry. Penalties for violations of the federal Anti-Kickback Statute include criminal penalties and civil sanctions such as fines, imprisonment and possible exclusion from Medicare, Medicaid and other federal healthcare programs. Many states have also adopted laws similar to the federal Anti-Kickback Statute, some of which apply to the referral of patients for healthcare items or services reimbursed by any source, not only the Medicare and Medicaid programs. 17 Table of Contents The federal Ethics in Patient Referrals Act of 1989, commonly known as the “Stark Law,” prohibits, subject to certain exceptions, physician referrals of Medicare and, as applicable under state law, Medicaid patients to an entity providing certain “designated health services” if the physician or an immediate family member has any financial relationship with the entity. The Stark Law also prohibits the entity receiving the referral from billing any good or service furnished pursuant to an unlawful referral. Various states have corollary laws to the Stark Law, including laws that require physicians to disclose any financial interest they may have with a healthcare provider to their patients when referring patients to that provider. Both the scope and exceptions for such laws vary from state to state. The federal False Claims Act prohibits persons from knowingly filing, or causing to be filed, a false claim to, or the knowing use of false statements to obtain payment from the federal government. The False Claims Act defines “knowingly” to include actual knowledge, acting in deliberate ignorance of the truth or falsity of information, or acting in deliberate disregard of the truth or falsity of information. False Claims Act liability includes liability for reverse false claims for avoiding or decreasing an obligation to pay or transmit money to the government. This includes False Claims Act liability for failing to report and return overpayments within 60 days of the date on which the overpayment is “identified.” Penalties under the False Claims Act can include exclusion from the Medicare program. In addition, the government may assert that a claim including items or services resulting from a violation of the federal Anti-Kickback Statute constitutes a false or fraudulent claim for purposes of the False Claims Act. Suits filed under the False Claims Act, known as qui tam actions, can be brought by any individual on behalf of the government and such individuals, commonly known as “whistleblowers,” may share in any amounts paid by the entity to the government in fines or settlement. The frequency of filing qui tam actions has increased significantly in recent years, causing greater numbers of medical device , pharmaceutical and healthcare companies to have to defend a False Claims Act action. When an entity is determined to have violated the federal False Claims Act, it may be required to pay up to three times the actual damages sustained by the government, plus civil penalties for each separate false claim. Various states have also enacted laws modeled after the federal False Claims Act. HIPAA, and its implementing regulations, also created additional federal criminal statutes that prohibit knowingly and willfully executing, or attempting to execute, a scheme to defraud any healthcare benefit program or obtain, by means of false or fraudulent pretenses, representations, or promises, any of the money or property owned by, or under the custody or control of, any healthcare benefit program, regardless of the payor (e.g., public or private) and knowingly and willfully falsifying, concealing or covering up by any trick or device a material fact or making any materially false statements in connection with the delivery of, or payment for, healthcare benefits, items or services relating to healthcare matters. Similar to the federal Anti-Kickback Statute, a person or entity does not need to have actual knowledge of the statute or specific intent to violate it in order to have committed a violation. From time to time, the Company has been and is involved in various governmental audits, investigations and reviews related to its operations. Reviews and investigations can lead to government actions, resulting in the assessment of damages, civil or criminal fines or penalties, or other sanctions, including restrictions or changes in the way we conduct business, loss of licensure or exclusion from participation in Medicare, Medicaid or other government programs. Additionally, as a result of these investigations, healthcare providers and entities may face litigation or have to agree to settlements that can include monetary penalties and onerous compliance and reporting requirements as part of a consent decree or corporate integrity agreement, or Corporate Integrity Agreement (“CIA”). If we fail to comply with applicable laws, regulations and rules, its financial condition and results of operations could be adversely affected. Furthermore, becoming subject to these governmental investigations, audits and reviews may result in substantial costs and divert management’s attention from the business as we cooperate with the government authorities, regardless of whether the particular investigation, audit or review leads to the identification of underlying issues. We are unable to predict whether we could be subject to actions under any of these laws, or the impact of such actions. If we are found to be in violation of any of the laws described above or other applicable state and federal fraud and abuse laws, we may be subject to penalties, including civil and criminal penalties, damages, fines, exclusion from Medicare, Medicaid and other government healthcare reimbursement programs and the curtailment or restructuring of its operations. Hospitals and clinicians may not buy, prescribe or use our products in sufficient numbers, which could result in decreased revenues and profits. Hospitals and clinicians may not accept any of our products as effective, reliable, or cost-effective. Factors that could prevent such institutional patient acceptance inclu ● If patients conclude that the costs of these products exceed the cost savings associated with the use of these products; ● If patients are financially unable to purchase these products; 18 Table of Contents ● If adverse patient events occur with the use of these products, generating adverse publicity; ● If we lack adequate resources to provide sufficient education and training to our patients; ● If frequent product malfunctions occur, leading clinicians to believe that the products are unreliable; ● Uncertainty regarding or change in government or third-party payer reimbursement policies for our products; and ● If physicians or other health care providers believe that our products will not be reimbursed by insurers or decide to prescribe competing products. Because our sales are dependent on prescriptions from physicians, if any of these or other factors result in fewer prescriptions for our products being written, we will have reduced revenues and may not be able to fully fund our operations. Although we experienced an increase in orders for our ZMI products during 2021 and 2022 compared to prior years, we can make no assurances that demand for our products will not decline in future periods. Any new competitor could be larger than us and have greater financial and other resources than we do, and those advantages could make it difficult for us to compete with them. Many competitors to our products may have substantially greater financial, technical, marketing, and other resources. Competition could result in fewer orders, reduced gross margins, and loss of market share. Our products are regulated by the FDA in the United States. Competitors may develop products that are substantially equivalent to our FDA-cleared products, thereby using our products as predicate devices to more quickly obtain FDA approval for their own products. If overall demand for our products should decrease it could have a material adverse effect on our operating results. Substantial competition is expected in the future in the area of stroke rehabilitation that may directly compete with our NeuroMove product. These competitors may use standard or novel signal processing techniques to detect muscular movement and generate stimulation to such muscles. Other companies may develop rehabilitation products that perform better and/or are less expensive than our products, which could have a material adverse effect on our operating results. Failure to keep pace with the latest technological changes could result in decreased revenues. The market for some of our products is characterized by rapid change and technological improvements. Failure to respond in a timely and cost-effective way to these technological developments could result in serious harm to our business and operating results. We have derived, and we expect to continue to derive, a substantial portion of our revenues from the development and sale of products in the medical device industry. As a result, our success will depend, in part, on our ability to develop and market product offerings that respond in a timely manner to the technological advances of our competitors, evolving industry standards and changing patient preferences. There is no assurance that we will keep up with technological improvements. O ur business could be adversely affected by reliance on sole suppliers. Notwithstanding our current multiple supplier approach, certain essential product components may be supplied in the future by sole, or a limited group of, suppliers. Most of our products and components are purchased through purchase orders rather than through long term supply agreements and large volumes of inventory may not be maintained. There may be shortages and delays in obtaining certain product components. Disruption of the supply or inventory of components could result in a significant increase in the costs of these components or could result in an inability to meet the demand for our products. In addition, if a change in the manufacturer of a key component is required, qualification of a new supplier may result in delays and additional expenses in meeting customer demand for products. These factors could adversely affect our revenues and ability to retain our experienced sales force. 19 Table of Contents A third-party manufacturer’s inability to produce our products’ components on time and to our specifications could result in lost revenue. Third-party manufacturers assemble and manufacture components of the NexWave and NeuroMove and some of our other products to our specifications. The inability of a manufacturer to ship orders of our products in a timely manner or to meet our quality standards could cause us to miss the delivery date requirements of our patients for those items, which could result in cancellation of orders, refusal to accept deliveries or a reduction in purchase prices, any of which could have a material adverse effect on our revenues. Because of the timing and seriousness of our business, and the medical device industry in particular, the dates on which patients need and require shipments of products from us are critical. Further, because quality is a leading factor when patients, doctors, health insurance providers and distributors accept or reject goods, any decline in quality by our third-party manufacturers could be detrimental not only to a particular order, but also to our future relationship with that particular patient. We could experience cost increases or disruptions in supply of raw materials or other components used in our products. Our third-party manufacturers that assemble and manufacture components for our products expect to incur significant costs related to procuring raw materials required to manufacture and assemble our product. The prices for these raw materials fluctuate depending on factors beyond our control including market conditions and global demand for these materials and could adversely affect our business, prospects, financial condition, results of operations, and cash flows. Further, any delays or disruptions in our supply chain could harm our business. For example, COVID-19, including associated variants, could cause disruptions to and delays in our operations, including shortages and delays in the supply of certain parts, including semiconductors, materials and equipment necessary for the production of our products, and the internal designs and processes we or third-parties may adopt in an effort to remedy or mitigate impacts of such disruptions and delays could result in higher costs. In addition, our business also depends on the continued supply of battery cells for our products. We are exposed to multiple risks relating to availability and pricing of quality battery cells. These risks inclu ● the inability or unwillingness of battery cell manufacturers to build or operate battery cell manufacturing plants to supply the numbers of battery cells (including the applicable chemistries) required to support the growth of the electric or plug-in hybrid vehicle industry as demand for such cells increases; ● disruption in the supply of battery cells due to quality issues or recalls by the battery cell manufacturers; and ● an increase in the cost, or decrease in the available supply of raw materials used in battery cells, such as lithium, nickel, and cobalt. Furthermore, currency fluctuations, tariffs or shortages in petroleum and other economic or political conditions may result in significant increases in freight charges and raw material costs. Substantial increases in the prices for raw materials or components would increase our operating costs and could reduce our margins. We depend upon third parties to manufacture and to supply key semiconductor chip components necessary for our products. We do not have long-term agreements with our semiconductor chip manufacturers and suppliers, and if these manufacturers or suppliers become unwilling or unable to provide an adequate supply of semiconductor chips, with respect to which there is a global shortage, we would not be able to find alternative sources in a timely manner and our business would be adversely impacted. Semiconductor chips are a vital input component to the electrical architecture of our products, controlling wide aspects of the products’ operations. Many of the key semiconductor chips we use in our products come from limited or single sources of supply, and therefore a disruption with any one manufacturer or supplier in our supply chain would have an adverse effect on our ability to effectively manufacture and timely deliver our products. We do not have any long- term supply contracts with any suppliers and purchase chips on a purchase order basis. Due to our reliance on these semiconductor chips, we are subject to the risk of shortages and long lead times in their supply. We are in the process of identifying alternative manufacturers for semiconductor chips. We have in the past experienced, and may in the future experience, semiconductor chip shortages, and the availability and cost of these components would be difficult to predict. For example, our manufacturers may experience temporary or permanent disruptions in their manufacturing operations due to equipment breakdowns, labor strikes or shortages, natural disasters, component or material shortages, cost increases, acquisitions, insolvency, changes in legal or regulatory requirements, or other similar problems. 20 Table of Contents In particular, increased demand for semiconductor chips in 2020, due in part to the COVID-19 pandemic and increased demand for consumer electronics that use these chips, has resulted in a severe global shortage of chips in 2021 and 2022. As a result, our ability to source semiconductor chips to be used in our products has been adversely affected. This shortage may result in increased chip delivery lead times, delays in the production of our products, and increased costs to source available semiconductor chips. To the extent this semiconductor chip shortage continues, and we are unable to mitigate the effects of this shortage, our ability to deliver sufficient quantities of our products to fulfill our preorders and to support our growth through sales to new customers would be adversely affected. In addition, we may be required to incur additional costs and expenses in managing ongoing chip shortages, including additional research and development expenses, engineering design and development costs in the event that new suppliers must be onboarded on an expedited basis. Further, ongoing delays in production and shipment of products due to a continuing shortage of semiconductor chips may harm our reputation and discourage additional preorders and sales, and otherwise materially and adversely affect our business and operations. If we need to replace manufacturers, our expenses and cost of goods could increase resulting in smaller profit margins. We compete with other companies for the production capacity of our manufacturers and import quota capacity. Some of these competitors have greater financial and other resources than we have, and thus have an advantage in the competition for production and import quota capacity. If we experience a significant increase in demand, or if we need to replace an existing manufacturer, we may have to expand our third-party manufacturing capacity. We cannot assure that this additional capacity will be available when required on terms that are acceptable to us or similar to existing terms, which we have with our manufacturers, either from a production standpoint or a financial standpoint. We enter into a number of purchase order commitments specifying a time for delivery, method of payment, design and quality specifications and other standard industry provisions, but do not have long-term contracts with any manufacturer. None of the manufacturers we use produce our products exclusively. Should we be forced to replace one or more of our manufacturers, we may experience increased costs or an adverse operational impact due to delays in distribution and delivery of our products to our patients, which could cause us to lose patients or lose revenue because of late shipments. W e are a relatively small company with a limited number of products and staff. S ales fluctuations and employee turnover may adversely affect our business. We are a relatively small company. Consequently, compared to larger companies, sales fluctuations could have a greater impact on our revenue and profitability on a quarter-to-quarter and year-to-year basis and delays in patient orders could cause our operating results to vary significantly from quarter to quarter and year-to-year. In addition, as a small company we have limited staff and are heavily reliant on certain key personnel to operate our business. If a key employee were to leave the company it could have a material impact on our business and results of operations as we might not have sufficient depth in our staffing to fill the role that was previously being performed. A delay in filling the vacated position could put a strain on existing personnel or result in a failure to satisfy our contractual obligations or to effectively implement our internal controls, and materially harm our business. If we are unable to retain the services of Mr. Sandgaard or if we are unable to successfully recruit qualified managerial and sales personnel, we may not be able to continue our operations. Our success depends to a significant extent upon the continued service of Mr. Thomas Sandgaard, our Chief Executive Officer, Founder, and beneficial owner of approximately 41% of our outstanding stock. Loss of the services of Mr. Sandgaard could have a material adverse effect on our growth, revenues, and prospective business. There is currently no employment agreement with Mr. Sandgaard. We do not maintain key-man insurance on the life of Mr. Sandgaard. In addition, in order to successfully implement and manage our business plan, we will be dependent upon, among other things, successfully retaining and recruiting qualified managerial and sales personnel. Competition for qualified individuals is intense. Various factors, such as marketability of our products, our reputation, our liquidity, and sales commission structure can affect our ability to find, attract or retain sales personnel. There can be no assurance that we will be able to find and attract qualified new employees and sales representatives and retain existing employees and sales representatives. 21 Table of Contents We need to maintain insurance coverage, which could become very expensive or have limited availability. Our marketing and sales of medical device products creates an inherent risk of claims for product liability. As a result, we carry product liability insurance and will continue to maintain insurance in amounts we consider adequate to protect us from claims. We cannot, however, be assured that we have resources sufficient to satisfy liability claims in excess of policy limits if required to do so. Also, if we are subject to such liability claims, there is no assurance that our insurance provider will continue to insure us at current levels or that our insurance rates will not substantially rise in the future, resulting in increased costs to us or forcing us to either pay higher premiums or reduce our coverage amounts, which would result in increased liability to claims. Although we do not manufacture the products we distribute, if one of the products distributed by us proves to be defective or is misused by a health care practitioner or patient, we may be subject to liability that could adversely affect our financial condition and results of operations. Although we do not manufacture the products that we distribute, a defect in the design or manufacture of a product distributed or serviced by us, or a failure of a product distributed by us to perform for the use specified, could have a material and adverse effect on our reputation in the industry and subject us to claims of liability for injuries and otherwise. Misuse of the product distributed by us by a practitioner or patient that results in injury could similarly subject us to liability. Any substantial underinsured loss could have a material and adverse effect on our business, financial condition, results of operations and cash flows. Furthermore, any impairment of our reputation could have a material and adverse effect on our revenues and prospects for future business. We depend upon obtaining regulatory clearance of new products and/or manufacturing operations we develop and maintain clearances of current products; failure to obtain or maintain such regulatory clearances could result in increased costs, lost revenue, penalties and fines. Before marketing certain new products, we will need to complete one or more clinical investigations of each product. There can be no assurance that the results of such clinical investigations will be favorable to us. We may not know the results of any study, favorable or unfavorable to us, until after the study has been completed. Such data must be submitted to the FDA as part of any regulatory filing seeking clearance to market the product. Even if the results are favorable, the FDA may dispute the claims of safety, efficacy, or clinical utility and not allow the product to be marketed. The sales price of the product may not be enough to recoup the amount of our investment in conducting the investigative studies and we may expend significant funds on research and development on products that are rejected by the FDA. Some of our products are marketed based upon our interpretation of FDA regulation allowing for changes to an existing device. If our interpretations are incorrect, we could suffer consequences that could have a material adverse effect on our results of operations and cash flows and could result in fines and penalties. There can be no assurance that we will have the financial resources to complete development of any new products or to complete the regulatory clearance process or to maintain regulatory compliance of existing products. We may not be able to obtain clearance of a 510(k) pre-market notification or grant of a de novo classification request or approval of a pre-market approval application with respect to any products on a timely basis, if at all. If timely FDA clearance or approval of new products is not obtained, our business could be materially adversely affected. Clearance of a 510(k) pre-market notification or de novo application may also be required before marketing certain previously marketed products, which have been modified after they have been cleared. Should the FDA so require, the filing of a new 510(k) pre-market notification for the modification of the product may be required prior to marketing any modified device. To determine whether adequate compliance has been achieved, the FDA may inspect our facilities at any time. Such compliance can be difficult and costly to achieve and maintain. Our compliance status may change due to future changes in, or interpretations of, FDA regulations or other regulatory agencies. Such changes may result in the FDA withdrawing marketing clearance or requiring or requesting product recall. In addition, any changes or modifications to a device or its intended use may require us to reassess compliance with good manufacturing practices guidelines, potentially interrupting the marketing and sale of products. We may also fail to comply with complex FDA regulations due to their complexity or otherwise. Failure to comply with regulations could result in enforceable actions, including product seizures, product recalls, withdrawal of clearances or approvals, injunctions, and civil and criminal penalties, any of which could have a material adverse effect on our operating results and reputation. 22 Table of Contents O ur products are subject to recall even after receiving FDA or foreign clearance or approval, which would harm our reputation and business. We are subject to medical device reporting regulations that require us to report to the FDA or respective governmental authorities in other countries if our products cause or contribute to a death or serious injury or malfunction in a way that would be reasonably likely to cause or contribute to death or serious injury if the malfunction were to recur. The FDA and similar governmental authorities in other countries have the authority to require the recall of our products in the event of material deficiencies or defects in design or manufacturing. A government mandated or voluntary recall by us could occur as a result of component failures, manufacturing errors or design defects, including defects in labeling. Any recall would divert managerial and financial resources and could harm our reputation with customers. We cannot assure you that we will not have product recalls in the future or that such recalls would not have a material adverse effect on our business. We have not undertaken any voluntary or mandatory recalls to date. We continue to incur expenses. This area of medical device research is subject to rapid and significant technological changes. Developments and advances in the medical industry by either competitors or other parties can affect our business in either a positive or negative manner. Developments and changes in technology that are favorable to us may significantly advance the potential of our research while developments and advances in research methods outside of the methods we are using may severely hinder, or halt completely our development. We are a small company in terms of employees, technical and research resources. We expect to incur research and development, sales and marketing, and general and administrative expenses. These amounts may increase, and recently have in connection with our efforts to expand our sales force, before any commensurate incremental revenue from these efforts may be obtained and may adversely affect our potential profits and we may lack the liquidity to pay for such expenditures. These factors may also hinder our ability to meet changes in the medical industry as rapidly or effectively as competitors with more resources. Substantial costs could be incurred defending against claims of intellectual property infringement. Other companies, including competitors, may obtain patents or other proprietary intellectual property rights that would limit, interfere with, or otherwise circumscribe our ability to make, use, or sell products. Should there be a successful claim of infringement against us and if we could not license the alleged infringed technology at a reasonable cost, our business and operating results could be adversely affected. There has been substantial litigation regarding patent and other intellectual property rights in the medical device industry. The validity and breadth of claims covered in medical technology patents involve complex legal and factual questions for which important legal principles remain unresolved. Any litigation claims against us, independent of their validity, may result in substantial costs and the diversion of resources with no assurance of success. Intellectual property claims could cause us t ● Cease selling, incorporating, or using products that incorporate the challenged intellectual property; ● Obtain a license from the holder of the infringed intellectual property right, which may not be available on reasonable terms, if at all; and ● Re-design our products excluding the infringed intellectual property, which may not be possible. We may be unable to protect our trademarks, trade secrets and other intellectual property rights that are important to our business. We consider our trademarks, trade secrets, and other intellectual property an integral component of our success. We rely on trademark law and trade secret protection and confidentiality agreements with employees, customers, partners, and others to protect our intellectual property. Effective trademark and trade secret protection may not be available in every country in which our products are available. We obtained utility patents on the fluid monitoring system in 2021 and 2018 in the U.S. and in 2020 in Europe. We cannot be certain that we have taken adequate steps to protect our intellectual property, especially in countries where the laws may not protect our rights as fully as in the United States. In addition, if our third-party confidentiality agreements are breached, there may not be an adequate remedy available to us. If our trade secrets become publicly known, we may lose competitive advantages. 23 Table of Contents We may fail to protect the privacy, integrity and security of customer information. We possess and process sensitive customer information and Protected Health Information protected by the Health Insurance Portability and Affordability Act (“HIPAA”). While we have taken reasonable and appropriate steps to protect that information, if our security procedures and controls were compromised, it could harm our business, reputation, results of operations and financial condition and may increase the costs we incur to protect against such information security breaches, such as increased investment in technology, the costs of compliance with health care privacy and consumer protection laws. A compromise of our privacy or security procedures could also subject us to liability under certain health care privacy laws applicable to us. Other federal and state laws restrict the use and protect the privacy and security of personally identifiable information are, in many cases, are not preempted by HIPAA and may be subject to varying interpretations by the courts and government agencies. These varying interpretations can create complex compliance issues for us and our partners and potentially expose us to additional expense, adverse publicity and liability, any of which could adversely affect our business. There is ongoing concern from privacy advocates, regulators and others regarding data privacy and security issues, and the number of jurisdictions with data privacy and security laws has been increasing. Also, there are ongoing public policy discussions regarding whether the standards for de-identification, anonymization or pseudonymization of health information are sufficient, and the risk of re-identification sufficiently small, to adequately protect patient privacy. We expect that there will continue to be new proposed and amended laws, regulations and industry standards concerning privacy, data protection and information security in the United States, such as the California Consumer Privacy Act (“CCPA”), as amended by the California Privacy Rights Act (“CPRA”), which amendments went into effect on January 1, 2023, The CCPA creates specific obligations with respect to processing and storing personal information, and the CPRA amendments created a new state agency that is vested with authority to implement and enforce the CCPA. Additionally, a similar law went into effect in Virginia on January 1, 2023, and further US-state comprehensive privacy laws are set to go into effect throughout 2023, including laws in Colorado, Connecticut, and Utah. These laws are substantially similar in scope and contain many of the same requirements and exceptions as the CCPA, including a general exemption for clinical trial data and limited obligations for entities regulated by HIPAA. However, we cannot yet determine the full impact these laws or other such future laws, regulations and standards may have on our current or future business. Any of these laws may broaden their scope in the future, and similar laws have been proposed on both a federal level and in more than half of the states in the U.S. A number of other states have proposed new privacy laws, some of which are similar to the above discussed recently passed laws. Such proposed legislation, if enacted, may add additional complexity, variation in requirements, restrictions and potential legal risk, require additional investment of resources in compliance programs, impact strategies and the availability of previously useful data and could result in increased compliance costs and/or changes in business practices and policies. The existence of comprehensive privacy laws in different states in the country would make our compliance obligations more complex and costly and may increase the likelihood that we may be subject to enforcement actions or otherwise incur liability for noncompliance. Cyber-attacks and security vulnerabilities could lead to reduced revenue, increased costs, liability claims, or harm to our competitive position. Increased sophistication and activities of perpetrators of cyber-attacks have resulted in an increase in information security risks in recent years. Hackers develop and deploy viruses, worms, and other malicious software programs that attack products and services and gain access to networks and data centers. In addition to extracting sensitive information, such attacks could include the deployment of harmful malware, ransomware, denial-of-service attacks, social engineering and other means to affect service reliability and threaten the confidentiality, integrity and availability of information. The prevalent use of mobile devices also increases the risk of data security incidents. If we experience difficulties maintaining existing systems or implementing new systems, we could incur significant losses due to disruptions in our operations. Additionally, these systems contain valuable proprietary and confidential information and may contain personal data of our customers. While we believe we have taken reasonable steps to protect such data, techniques used to gain unauthorized access to data and systems, disable or degrade service, or sabotage systems, are constantly evolving, and we may be unable to anticipate such techniques or implement adequate preventative measures to avoid unauthorized access or other adverse impacts to such data or our systems. In addition, some of our third-party service providers and partners also collect and/or store our sensitive information and our customers’ data on our behalf, and these service providers and partners are subject to similar threats of cyber-attacks and other malicious internet-based activities, which could also expose us to risk of loss, litigation, and potential liability. A security breach could result in disruptions of our internal systems and business applications, harm to our competitive position from the compromise of confidential business information, or subject us to liability under laws that protect personal data. Additionally, actual, potential or anticipated attacks may cause us to incur increasing costs, including costs to deploy additional personnel and protection technologies, train employees, and engage third-party experts and consultants. Specifically, as 24 Table of Contents cyber threats continue to evolve, we may be required to expend additional resources to continue to enhance our information security measures and/or to investigate and remediate any information security vulnerabilities. Any of these consequences would adversely affect our revenue and margins. Additionally, although we maintain cybersecurity insurance coverage, we cannot be certain that such coverage will be adequate for data security liabilities actually incurred, will cover any indemnification claims against us relating to any incident, will continue to be available to us on economically reasonable terms, or at all, or that any insurer will not deny coverage as to any future claim. The successful assertion of one or more large claims against us that exceed available insurance coverage, or the occurrence of changes in our insurance policies, including premium increases or the imposition of large deductible or co-insurance requirements, could have a material adverse effect on our reputation, business, prospects, results of operations and financial condition. We have identified a material weakness in our internal controls over financial reporting and may identify additional material weaknesses in the future or otherwise fail to maintain an effective system of internal controls, which may result in material misstatements of our consolidated financial statements or cause us to fail to meet our periodic reporting obligations. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of a company’s annual or interim financial statements will not be prevented or detected on a timely basis. We identified a material weakness in our internal controls over financial reporting as of December 31, 2022, related to information technology general controls, or ITGCs, that were not designed and operating effectively to ensure (i) appropriate segregation of duties was in place to perform program changes and (ii) the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted. Although the material weakness identified above did not result in any material misstatements in our consolidated financial statements for the periods presented and there were no changes to previously released financial results, our management concluded that these control weaknesses constitute a material weakness and that our internal control was not effective as of December 31, 2022. Our management is committed to take comprehensive actions to remediate the material weakness in internal control over financial reporting. We are in the process of developing and implementing remediation plans to address the material weakness described above. While we are committed to designing and implementing new controls and measures to remediate this material weakness, we cannot assure you that the measures will be sufficient to remediate the material weakness or avoid the identification of additional material weaknesses in the future. Our failure to implement and maintain effective internal control over financial reporting could result in errors in our consolidated financial statements that could result in a restatement of our financial statements and could cause us to fail to meet our periodic reporting obligations, any of which could diminish investor confidence in us and cause a decline in the price of our common stock. Expansion of our operations and sales internationally may subject us to additional risks, including risks associated with unexpected events. A component of our growth strategy is to expand our operations and sales internationally. There can be no assurance that we will be able to successfully market, sell, and deliver our products in foreign markets, or that we will be able to successfully expand our international operations. Global operations could cause us to be subject to unexpected, uncontrollable and rapidly changing risks, events, and circumstances. The following factors, among others, could adversely affect our business, financial condition and results of operatio ● difficulties in managing foreign operations and attracting and retaining appropriate levels of senior management and staffing; ● longer cash collection cycles; ● proper compliance with local tax laws which can be complex and may result in unintended adverse tax consequences; ● difficulties in enforcing agreements through foreign legal systems; 25 Table of Contents ● failure to properly comply with U.S. and foreign laws and regulations applicable to our foreign activities including, without limitation, product approval, healthcare and employment law requirements and the Foreign Corrupt Practices Act; ● fluctuations in exchange rates that may affect product demand and may adversely affect the profitability in U.S. dollars of the products we provide in foreign markets; ● the ability to efficiently repatriate cash to the United States and transfer cash between foreign jurisdictions; and ● changes in general economic conditions or political circumstances in countries where we operate. Our acquisition of other companies could require significant management attention, disrupt our business, dilute stockholder value and adversely affect our operating results. As part of our business strategy, we have made and may in the future acquire or make investments in other companies, solutions or technologies to, among other reasons, expand or enhance our product offerings. In the future, any significant acquisition would require the consent of our lenders. Any failure to receive such consent could delay or prohibit us from acquiring companies that we believe could enhance our business. We may not ultimately strengthen our competitive position or achieve our goals from our recent or any future acquisition, and any acquisitions we complete could be viewed negatively by users, customers, partners or investors. In addition, if we fail to integrate successfully such acquisitions, or the technologies associated with such acquisitions, into our company, the revenues and operating results of the combined company could be adversely affected. For example, in December 2021 we acquired Kestrel Labs, Inc. and we must effectively integrate the personnel, products, technologies and customers and develop and motivate new employees. In addition, we may not be able to successfully retain the customers and key personnel of such acquisitions over the longer term, which could also adversely affect our business. The integration of our recently-acquired business or future-acquired business will require significant time and resources, and we may not be able to manage the process successfully. We may not successfully evaluate or utilize the acquired business and accurately forecast the financial impact of the acquisition, including accounting charges. We may have to pay cash, incur debt or issue equity securities to pay for any acquisition, each of which could affect our financial condition or the value of our capital stock. For example, in connection with our acquisition of Kestrel Labs, Inc., we paid an approximate value of $30.5 million, consisting of $16.1 million in cash which was financed through Bank of America N.A. and approximately $14.4 million in shares of our common stock, a portion of which is held in escrow until certain milestones are achieved. To fund any future acquisition, we may issue equity, which would result in dilution to our stockholders, or incur more debt, which would result in increased fixed obligations and could subject us to additional covenants or other restrictions that would impede our ability to manage our operations. If we are not able to integrate acquired businesses successfully, our business could be harmed. Our inability to successfully integrate our recent and future acquisitions could impede us from realizing all of the benefits of those acquisitions and could severely weaken our business operations. The integration process may disrupt our business and, if implemented ineffectively, may preclude realization of the full benefits expected by us and could harm our results of operations. In addition, the overall integration of the combining companies may result in unanticipated problems, expenses, liabilities, and competitive responses, and may cause our stock price to decline. The difficulties of integrating an acquisition include, among othe ● unanticipated issues in integration of information, communications, and other systems; ● unanticipated incompatibility of logistics, marketing, and administration methods; ● maintaining employee morale and retaining key employees; ● integrating the business cultures of both companies; ● preserving important strategic client relationships; 26 Table of Contents ● consolidating corporate and administrative infrastructures and eliminating duplicative operations; and ● coordinating geographically separate organizations. In addition, even if the operations of an acquisition are integrated successfully, we may not realize the full benefits of the acquisition, including the synergies, cost savings, or growth opportunities that we expect. These benefits may not be achieved within the anticipated time frame, or at all. For example, the failure to get regulatory approval to sell certain products of an acquired business may significantly reduce the anticipated benefits of the acquisition and could harm our results of operations, even if we have put in place contingencies for the delivery of closing consideration, such as the escrowed shares held back in our acquisition of Kestrel Labs, Inc. Further, acquisitions may also cause us t ● issue securities that would dilute our current stockholders’ ownership percentage; ● use a substantial portion of our cash resources; ● increase our interest expense, leverage, and debt service requirements if we incur additional debt to pay for an acquisition; ● assume liabilities, including environmental liabilities, for which we do not have indemnification from the former owners or have indemnification that may be subject to dispute or concerns regarding the creditworthiness of the former owners; ● record goodwill and non-amortizable intangible assets that are subject to impairment testing on a regular basis and potential impairment charges; ● experience volatility in earnings due to changes in contingent consideration related to acquisition liability estimates; ● incur amortization expenses related to certain intangible assets; ● lose existing or potential contracts as a result of conflict of interest issues; ● incur large and immediate write-offs; or ● become subject to litigation. Our failure to comply with the covenants contained in our loan agreement could result in an event of default that could adversely affect our financial condition and ability to operate our business as planned. We currently have an outstanding term loan and line of credit with Bank of America, N.A. under which we are obligated to pay monthly amortization payments. Our loan agreement contains, and any agreements to refinance our debt likely will contain, financial and restrictive covenants. Our failure to comply with these covenants in the future may result in an event of default, which if not cured or waived, could result in the bank preventing us from accessing availability under our line of credit and requiring us to repay any outstanding borrowings. There can be no assurance that we will be able to obtain waivers in the event of covenant violations or that such waivers will be available on commercially acceptable terms. In addition, the indebtedness under our loan agreement is secured by a security interest in substantially all of our tangible and intangible assets, and therefore, if we are unable to repay such indebtedness the bank could foreclose on these assets and sell the pledged equity interests, which would adversely affect our ability to operate our business. If any of these were to occur, we may not be able to continue operations as planned, implement our planned growth strategy or react to opportunities for or downturns in our business. 27 Table of Contents Changes in financial accounting standards or practices may cause adverse, unexpected financial reporting fluctuations and affect our reported results of operations. We are required to prepare our financial statements in accordance with generally accepted accounting principles in the United States of America (“GAAP”), which is periodically revised and/or expanded. From time to time, we are required to adopt new or revised accounting standards issued by recognized authoritative bodies, including the Financial Accounting Standards Board (“FASB”) and the SEC. It is possible that future accounting standards we are required to adopt may require additional changes to the current accounting treatment that we apply to our financial statements and may require us to make significant changes to our reporting systems. Such changes could result in a material adverse impact on our business, results of operations and financial condition. RISKS RELATED TO OUR COMMON STOCK Sales of significant amounts of shares held by Mr. Sandgaard, or the prospect of these sales, could adversely affect the market price of our common stock Sales of significant amounts of shares held by Mr. Sandgaard, or the prospect of these sales, could adversely affect the market price of our common stock. Mr. Sandgaard’s stock ownership may discourage a potential acquirer from making a tender offer or otherwise attempting to obtain control of the Company, which in turn could reduce our stock price or prevent our stockholders from realizing a premium over our stock price. Our existing stockholders may experience dilution if we elect to raise equity capital Due to our past liquidity issues, we have had to raise capital in the form of debt and/or equity to meet our working capital needs. We may also choose to issue equity or debt securities in the future to meet our liquidity or other needs which would result in additional dilution to our existing stockholders. Although we will attempt to minimize the dilutive impact of any future capital-raising activities, we cannot offer any assurance that we will be able to do so. We may have to issue additional shares of our common stock at prices at a discount from the then-current market price of our common stock. If we raise additional working capital, existing stockholders may experience dilution. We paid a dividend on our common stock, and cash used to pay dividends will not be available for other corporate purposes In 2018, our Board of Directors declared a special one-time dividend of $0.07 per share, which was paid in January 2019. In 2021, our Board of Directors declared a special one-time dividend of $0.10 per share, which was paid in January 2022. The decision to pay dividends in the future will depend on general business conditions, the impact of such payment on our financial condition, and other factors our Board of Directors may consider. If we elect to pay future dividends, this could reduce our cash reserves to levels that may be inadequate to fund expansions to our business plan or unanticipated contingent liabilities. Our stock price could become more volatile and your investment could lose value. All of the factors discussed in this section could affect our stock price. A significant drop in our stock price could also expose us to the risk of securities class actions lawsuits, which could result in substantial costs and divert management’s attention and resources, which could adversely affect our business ITEM 1B. UNRESOLVED STAFF COMMENTS None. ITEM 2. PROPERTIES In October 2017, we signed a lease for our former corporate headquarters in Englewood, Colorado beginning in January 2018. In March 2019, we signed an amendment to this lease, which allowed the Company to expand its corporate offices. An additional amendment was entered into on January 3, 2020, which expanded our former corporate offices to approximately 85,681 square feet. During 2021, we moved our corporate headquarters to a new location, however, we continue to use the leased property for ZMS operations. The lease and subsequent amendments continue through June 30, 2023 with an option for a two-year extension through June 2025. 28 Table of Contents In addition to our corporate headquarters, we entered into a lease agreement for a warehouse and production facility with approximately 50,488 square feet in September 2020. The lease continues through June 2026 with an option for a five-year extension through June 2031. In April 2021, we signed a sublease for a new corporate headquarters in Englewood, Colorado beginning in May 2021 for up to approximately 110,754 square feet. This lease runs through April 2028. During March 2022, we entered into a lease agreement for approximately 4,162 square feet of office space for the operations of ZMS in Boulder, Colorado. The lease began on April 1, 2022 and will run through April 1, 2025. We believe these leased properties are sufficient to support our current requirements and that we will be able to locate additional facilities as needed. See Note 11 to the Consolidated Financial Statements for additional information on these leases. ITEM 3. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 4. MINE SAFETY DISCLOSURES Not applicable. 29 Table of Contents PART II ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES On February 12, 2019, our common stock began trading on The Nasdaq Capital Market under the symbol “ZYXI”. Prior to uplisting to the Nasdaq Capital Market, the Company’s common stock was quoted on the OTCQB (managed by OTC Markets, Inc) under the symbol “ZYXI.” As of March 13, 2023, there were 36,634,459 shares of common stock outstanding and approximately 154 record holders of our common stock. Recent Sales of Unregistered Securities None. Purchases of Equity Securities by the Issuer and Affiliated Purchasers Issuer Purchases of Equity Securities The following table sets forth a summary of the Company’s purchases of common stock during the fourth quarter of 2022 pursuant to the Company’s authorized share repurchase program: (In Thousands) Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan October 1 - October 31, 2022 Share repurchase program (1) 19,653 $ 9.74 1,091,604 — November 1 - November, 2022 Share repurchase program (2) 312,035 $ 13.16 312,035 5,893 December 1 – December 31, 2022 Share repurchase program (2) 183,103 $ 13.87 495,138 3,352 Quarter Total Share repurchase program (1) 19,653 $ 9.74 1,091,604 — Share repurchase program (2) 495,138 $ 13.43 495,138 3,352 (1) Shares were purchased through the Company’s publicly announced share repurchase program dated June 9, 2022. The program was fully utilized during the Company’s fourth quarter. (2) Shares were purchased through the Company’s publicly announced share repurchase program approved by the Company’s Board of Directors on October 31, 2022. The program expires at the earlier of October 31, 2023 or reaching $10.0 million of repurchases. Dividends Our Board of Directors declared a special cash dividend of $0.10 per share and a 10% stock dividend during the fourth quarter of 2021, which was paid out and issued in January 2022. There can be no guarantee that we will continue to pay dividends. Any future determination to pay cash dividends will be at the discretion of the Board of Directors and will be dependent upon our financial condition, results of operations, capital requirements and such other factors as the Board deems relevant. 30 Table of Contents ITEM 6. [RESERVED] Not required. ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This Annual Report on Form 10-K contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain FDA clearance and CE marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, and other risks described herein and included in “Item 1A-Risk Factors.” OVERVIEW We operate in one primary business segment, electrotherapy and pain management products. As of December 31, 2022, the Company’s only active subsidiary is ZMI, a wholly-owned Colorado corporation, through which the Company conducts its U.S. electrotherapy and pain management operations. ZMS, a wholly-owned Colorado corporation, has developed a fluid monitoring system, which has received two utility patents and FDA approval in the U.S. ZMS also acquired Kestrel during 2021, which had two pulse-oximeter products they are developing and numerous patents. However, ZMS has achieved no revenues to date. The following information should be read in conjunction with our Consolidated Financial Statements and related notes contained in this Annual Report. HIGHLIGHTS During the year ended December 31, 2022, the Company achieved the followin ZMI ● Achieved a 23% increase in order growth, 21% growth in revenue, and a 98% increase in operating cash flows compared to the prior year; ● Recorded net income of $17.0 million and our 7 th consecutive profitable year; ● Achieved higher sales representative productivity with increase revenue per sales representative; ● Due to strong results and related cash flow, we repurchased over $26 million worth of Company stock; ● Ranked 11 th in Forbes list of “Americas Best Small Companies 2023”; ● Ranked 33 rd in the Top 100 Healthcare Technology Companies of 2022 according to The Healthcare Technology Report; ● Included in the Deloitte Technology Fast 500 Fastest Growing Companies for a 4 th consecutive year. 31 Table of Contents ZMS ● Fully integrated Kestrel Labs, Inc. in Q1 2022. ● Completed multiple IRB-approved clinical studies including the apheresis blood donation study with Vitalant Research Institute, and studies at Yale University where subjects underwent simulated hemorrhage using a lower body negative pressure chamber. ● Applied to the U.S. Food and Drug Administration (“FDA”) in Q1 2023 for consideration through its Breakthrough Devices Program for NiCO. Inflation Reduction Act On August 16, 2022, President Biden signed the Inflation Reduction Act of 2022, or IRA, into law, which among other things, (i) directs the U.S. Department of Health and Human Services, or HHS, to negotiate the price of certain high-expenditure, single-source drugs and biologics covered under Medicare, and subjects drug manufacturers to civil monetary penalties and a potential excise tax for offering a price that is not equal to or less than the negotiated “maximum fair price” under the law; (ii) imposes rebates under Medicare Part B and Medicare Part D to penalize drug price increases that outpace inflation; and (iii) redesigns the Medicare Part D program, increasing manufacturer rebates within the catastrophic coverage phase. The IRA permits HHS to implement many of these provisions through guidance, as opposed to regulation, for the initial years. These provisions will take effect progressively beginning in fiscal year 2023, although they may be subject to legal challenges. It is currently unclear how the IRA will be effectuated but is likely to have a significant impact on the pharmaceutical industry. The IRA also includes various tax provisions, including an excise tax on stock repurchases, expanded tax credits for clean energy incentives, and a corporate alternative minimum tax that generally applies to U.S. corporations with average adjusted financial statement income over a three year period in excess of $1 billion. The Company does not expect these tax provision to materially impact its financial statements. SUMMARY Net revenue increased 21% in 2022 to $158.2 million from $130.3 million in 2021. Net income was $17.0 million and $17.1 million for the years ended December 31, 2022, and 2021, respectively. Cash flows from operating activities increased 98% or $6.8 million to $13.7 million for the year ended December 31, 2022. Increased orders for our devices and supplies and the related receivables and cash flows, which allowed us to repurchase $26.4 million of common stock and maintain working capital of $48.5 million at December 31, 2022. 32 Table of Contents RESULTS OF OPERATIONS The following table presents our consolidated statements of operations in comparative format (in thousands). For the Years Ended December 31, $ 2022 2021 change NET REVENUE Devices $ 43,497 $ 36,613 $ 6,884 Supplies 114,670 93,688 20,982 Total net revenue 158,167 130,301 27,866 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue – devices and supplies 32,005 27,321 4,684 Sales and marketing 67,116 54,290 12,826 General and administrative 36,108 26,324 9,784 Total costs of revenue and operating expenses 135,229 107,935 27,294 Income from operations 22,938 22,366 572 Other expense Loss on change in fair value of contingent consideration (300) — (300) Interest expense (440) (95) (345) Other expense, net (740) (95) (645) Income from operations before income taxes 22,198 22,271 (73) Income tax expense 5,150 5,168 (18) Net income $ 17,048 $ 17,103 $ (55) Net income per sh Basic $ 0.44 $ 0.45 $ (0.00) Diluted $ 0.44 $ 0.44 $ (0.00) Weighted average basic shares outstanding 38,467 38,317 150 Weighted average diluted shares outstanding 39,127 39,197 (70) 33 Table of Contents The following table presents our consolidated statements of operations reflected as a percentage of total reve For the Years Ended December 31, 2022 2021 NET REVENUE Devices 28 % 28 % Supplies 72 % 72 % Total net revenue 100 % 100 % COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue – devices and supplies 20 % 21 % Sales and marketing 42 % 42 % General and administrative 23 % 20 % Total costs of revenue and operating expenses 85 % 83 % Income from operations 15 % 17 % Other income/(expense) Loss on change in fair value of contingent consideration 0 % 0 % Interest expense 0 % 0 % Other income/(expense), net 0 % 0 % Income from operations before income taxes 14 % 17 % Income tax expense 3 % 4 % Net income 12 % 13 % Net income per sh Basic 0.44 0.45 Diluted 0.44 0.44 Weighted average basic shares outstanding 38,467 38,317 Weighted average diluted shares outstanding 39,127 39,197 Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the health care industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the Consolidated Financial Statements for a more complete explanation of our revenue recognition policies. 34 Table of Contents We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $27.9 million or 21% to $158.2 million for the year ended December 31, 2022, from $130.3 million for the year ended December 31, 2021. The growth in net revenue is primarily related to the 23% growth in device orders which led to an increased customer base and drove higher sales of consumable supplies. Device Revenue Device revenue is related to the purchase or lease of our electrotherapy products as well as complementary products including cervical traction, lumbar support, knee braces and hot/cold therapy products. Device revenue increased $6.9 million or 19% to $43.5 million for the year ended December 31, 2022, from $36.6 million for the year ended December 31, 2021. The increase in device revenue is related to the growth in our device and complementary product orders of 23% from 2021 to 2022 as a result of greater sales representative productivity. Supplies Revenue Supplies revenue is related to the sale of supplies, typically electrodes and batteries, for our products. Supplies revenue increased $21.0 million or 22% to $114.7 million for the year ended December 31, 2022, from $93.7 million for the year ended December 31, 2021. The increase in supplies revenue is primarily related to growth in our customer base from higher device sales in 2022 and prior years. Operating Expenses Costs of Revenue –Devices and Supplies Costs of revenue – devices and supplies consist primarily of device and supplies costs, operations labor and overhead, shipping and depreciation. Costs of revenue increased $4.7 million or 17% to $32.0 million for the year ended December 31, 2022, from $27.3 million for the year ended December 31, 2021. The increase in costs of revenue is directly related to the increase in device and supplies orders. As a percentage of revenue, cost of revenue –devices and supplies decreased to 20% for the year ended December 31, 2022 compared to 21% for the year ended December 31, 2021. The decrease in cost of revenue – devices and supplies as a percentage of revenue was due to expanding our supplier portfolio mix and reducing supply costs. Sales and Marketing Expense Sales and marketing expense primarily consists of employee-related costs, including commissions and other direct costs associated with these personnel including travel and marketing expenses. Sales and marketing expense for the year ended December 31, 2022 increased 24% to $67.1 million from $54.3 million for the year ended December 31, 2021. The increase in sales and marketing expense is primarily due to increased salaries of sales personnel related to an expanded sales force, tightened job market and inflation. Increased orders resulted in higher sales commissions as well as travel expenses. As a percentage of revenue, sales and marketing expense remained flat at 42% for both years ended December 31, 2022 and 2021. 35 Table of Contents General and Administrative Expense General and administrative expense primarily consists of employee related costs, facilities expense, professional fees and depreciation and amortization. General and administrative expense for the year ended December 31, 2022 increased 37% to $36.1 million from $26.3 million for the year ended December 31, 2021. The increase in general and administrative expense is primarily due to the followin ● an increase of $2.6 million and $2.5 million in compensation and benefits expense, including non-cash stock compensation expense, related to headcount growth and inflationary salary increases for ZMI and ZMS, respectively; ● an increase of $3.3 million in other expenses, including professional fees, ZMS product development, and other general and administrative costs associated with the increase in order volumes; ● an increase of $0.7 million in rent and facilities expenses due to a full year of expense, as we entered into a new corporate headquarters lease during May 2021. Much of the increase in facilities was non-cash as we received 21 months of free rent on the new corporate headquarters but for GAAP purposes the rent over the lease term is expensed on a straight-line basis; and ● an increase of $0.9 million in amortization expense related due to a full year of expense of the intangible assets acquired in December 2021. As a percentage of revenue, general and administrative expense increased to 23% for the year ended December 31, 2022 from 20% for the year ended December 31, 2021. The increase as a percentage of revenue is primarily due to the aforementioned increase in expenses, partially offset by increased revenue during the year ended December 31, 2022. The Company expects that general and administrative expenses will continue to increase through 2023 as the Company continues to expand its corporate headcount to accommodate continued order growth and continued research and development activities at ZMS. Other Income (Expense) Other expense was $0.7 million for the year ended December 31, 2022, of which $0.4 million was related to interest on debt obtained in December 2021, and a $0.3 million loss on the change in fair value of contingent consideration acquired in December 2021. Other expense was $0.1 million for the year ended December 31, 2021. Income Tax Expense We recorded income tax expense of $5.2 million and $5.2 million for the years ended December 31, 2022 and 2021, respectively. The effective income tax rate for the years ended December 31, 2022 and 2021 was 23% and 24%, respectively. The decrease in the effective rate during 2022 is primarily due to research and development credits. FINANCIAL CONDITION As of December 31, 2022, we had working capital of $48.5 million, compared to $59.8 million as of December 31, 2021. The decrease in working capital is primarily due to decreases in cash due to the Company’s repurchase of $26.6 million of Company stock, a cash dividend of $3.6 million which was paid in January 2022, and principal payments on our long-term loan of $5.3 million during 2022. We generated $13.7 million and $6.9 million in operating cash flows during the years ended December 31, 2022 and 2021, respectively. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. As of December 31, 2022, our principal source of liquidity was $20.1 million in cash, $35.1 million in accounts receivables, and our working capital balance of $48.5 million. 36 Table of Contents Upon closing on the Kestrel acquisition in December 2021, we entered into a loan and credit facility agreement with Bank of America, N.A. The credit facility includes a line of credit in the amount of $4.0 million available until December 1, 2024, which the Company has not drawn from since inception of the agreement. The loan is a fixed rate term loan in the amount of $16.0 million and has an interest rate equal to 2.8% per year. The term loan is payable in equal principal installments of $0.4 million per month through December 1, 2024 plus interest on the first day of each month beginning January 1, 2022. (See Note 7). Our anticipated uses of cash in the future will be to fund the expansion of our business. Net cash provided by operating activities for the years ended December 31, 2022 and 2021 was $13.7 million and $6.9 million, respectively. The increase in cash provided by operating activities for the year ended December 31, 2022 was primarily due to increased collections in 2022, and an increase in non-cash amortization and stock compensation expenses. Cash provided by operating activities for the year ended December 31, 2021 was primarily due to profitability, which was offset by increased accounts receivable due to revenue growth. Net cash used in investing activities for the years ended December 31, 2022 and 2021 was $0.4 million and $16.6 million, respectively. Cash used in investing activities for the year ended December 31, 2022 was primarily related to the purchase of computer, office and warehouse equipment. Cash used in investing activities for the year ended December 31, 2021 was primarily related to the acquisition of Kestrel and the purchase of computer, office and warehouse equipment. Net cash used in financing activities for the year ended December 31, 2022 was $35.8 million compared with net cash provided by financing activities of $13.1 million for the year ended December 31, 2021. The cash used in financing activities of $35.8 million for the year ended December 31, 2022 was primarily due to the repurchase of Company stock totaling $26.4 million, principal payments made on our term loan totaling $5.3 million and the payment of cash dividends in January 2022 totaling $3.6 million. The cash provided by financing activities of $13.1 million for the year ended December 31, 2021 was primarily due to net proceeds from debt assumed in the Kestrel acquisition of $16.0 million, which is slightly offset by the purchase of treasury stock totaling $2.7 million. We believe our cash, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash balance at December 31, 2022 of $20.1 million; ● Our working capital balance of $48.5 million; ● Our accounts receivable balance of $35.1 million; ● Our increasing profitability over the last 7 years; and ● Our planned capital expenditures of approximately $2.0 million during 2023 . Contractual Obligations The following table summarizes the future cash disbursements to which we are contractually committed as of December 31, 2022 (in thousands). Total 2023 2024 2025 2026 2027 Thereafter Operating leases 17,788 3,055 3,571 3,586 3,362 3,150 1,064 Finance leases 359 152 116 76 15 — — $ 18,147 $ 3,207 $ 3,687 $ 3,662 $ 3,377 $ 3,150 $ 1,064 We lease office and warehouse facilities under non-cancelable operating leases. The current office facility leases include our current and former corporate headquarters and a production warehouse, all located in Englewood, Colorado and a lease in Boulder, Colorado 37 Table of Contents for the operations of ZMS Boulder. We also rent a small office in Denmark. Rent expense was $4.5 million and $3.5 million for the years ended December 31, 2022 and 2021, respectively. A portion of the increase in facilities was non-cash as we received 21 months of free rent on the new corporate headquarters but for GAAP purposes, the rent is expensed over the lease term on a straight-line basis. The Company also leases office equipment for its corporate and warehouse facilities under non-cancelable finance lease agreements. CRITICAL ACCOUNTING POLICIES AND SIGNIFICANT ESTIMATES In preparing our consolidated financial statements in accordance with GAAP, we are required to make estimates and assumptions that affect the amounts of assets, liabilities, revenue, costs and expenses, and disclosure of contingent liabilities that are reported in the consolidated financial statements and accompanying disclosures. We believe that the estimates, assumptions and judgments involved in the accounting policies described below have the greatest potential impact on our financial statements because they involve the most difficult, subjective or complex judgments about the effect of matters that are inherently uncertain. Therefore, we consider these to be our critical accounting policies. Accordingly, we evaluate our estimates and assumptions on an ongoing basis. Our actual results may differ from these estimates and assumptions. See Note 2 to the Consolidated Financial Statements of this Annual Report on Form 10-K for information about these critical accounting policies, as well as a description our other accounting policies. Revenue Recognition and Accounts Receivable Revenue is generated primarily from sales and leases of our electrotherapy devices and related supplies and complementary products. Sales are primarily made with, and shipped, direct to the patient with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contract with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. Device Sales Device sales can be in the form of a purchase or a lease. Revenue for purchased devices is recognized in accordance with Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (ASC 606) when the device is delivered to the patient and all performance obligations are fulfilled. Revenue related to devices out on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, we concluded our transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. 38 Table of Contents Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since our leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Supplies Supplies revenue is recognized once supplies are delivered to the patient. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. Variable Consideration A significant portion of the Company’s revenues are derived, and the related receivables are due, from patients with commercial or government health insurance plans. Revenues are estimated using the portfolio approach by third party payer type based upon historical rates of collection, the aging of receivables, trends in the historical reimbursement rates by third-party payer types and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Due to continuing changes in the health care industry and third-party payer reimbursement, it is possible our forecasting model to estimate collections could change, which could have an impact on our results of operations and cash flows. Any differences between estimated settlements and final determinations are reflected as an increase or a reduction to revenue in the period when such final determinations are known. Historically these differences have been immaterial, and the Company has not had to go back and reassess the adjustments of future periods for past billing adjustments. The Company monitors the variability and uncertain timing over third-party payer types in our portfolios. If there is a change in our third-party payer mix over time, it could affect our net revenue and related receivables. We believe we have a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved. Income Taxes Significant judgment is required in determining our provision for income taxes. We assess the likelihood that our deferred tax asset will be recovered from future taxable income, and to the extent we believe that recovery is not likely, we establish a valuation allowance. We consider future taxable income projections, historical results and ongoing tax planning strategies in assessing the recoverability of deferred tax assets. However, adjustments could be required in the future if we determine that the amount to be realized is less or greater than the amount that we recorded. Such adjustments, if any, could have a material impact on our results of our operations. We use a recognition threshold and a measurement attribute for the financial statement recognition and measurement of tax positions taken or expected to be taken in a tax return. For those benefits to be recognized, a tax position must be more-likely-than-not to be sustained upon examination by taxing authorities. 39 Table of Contents Acquisition Method of Accounting for Business Combinations We allocate the purchase price of acquired companies to the tangible and intangible assets acquired and liabilities assumed based on their estimated fair values. The excess of the purchase price over these fair values is recorded as goodwill. We engage independent third-party valuation specialists to assist us in determining the fair values of certain assets acquired and liabilities assumed. Such valuation require management to make significant estimates and assumptions, especially with respect to intangible assets. Different valuations approaches are used to value different types of intangible assets. Under the income approach, the relief from royalty method is a valuation technique which is used to estimate the value of certain intangible assets. This method utilizes projected financial information and hypothetical royalty rates to estimate the cost savings associated with asset ownership. The estimated cost savings are discounted for risk and the time value of money to estimate an intangible asset’s fair value. Management’s estimates of fair value are based upon assumptions believed to be reasonable, but which are inherently uncertain and unpredictable. If we do not achieve the results reflected in the assumptions and estimates, our goodwill impairment evaluations could be adversely affected, and we may impair a portion or all of our intangible assets, which would adversely affect our operating results in the period of impairment. Impairment of Long-lived Assets, Including Goodwill We assess impairment of goodwill annually and other long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Long-lived assets consist of property and equipment, net and goodwill and intangible assets. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Contingent Considerations We classify contingent consideration liabilities related to business acquisitions within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. We estimate the fair value of contingent consideration liabilities using a Monte Carlo simulation which is based on equity volatility, the risk-free rate, the normal variate, projected milestone dates, discount rates, and probabilities of payment. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK As a “Smaller Reporting Company”, this Item and the related disclosure is not required. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The consolidated financial statements, the notes thereto, and the report thereon of Marcum LLP, are filed as part of this report starting on page F-2. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. None. 40 Table of Contents ITEM 9A. CONTROLS AND PROCEDURES Evaluation of disclosure controls and procedures Our management, including our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934), as amended, or the Exchange Act, as of December 31, 2022. Based on management’s review, with participation of our Chief Executive Officer and Chief Financial Officer, the Chief Executive Officer and Chief Financial Officer have concluded that, as of the quarter ended December 31, 2022, our disclosure controls and procedures were not effective due to the material weakness in internal control over financial reporting as described below. Management’s report on internal control over financial reporting Our management is responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(e) of the Exchange Act). Management, with the participation of our Chief Executive Officer and Chief Financial Officer, has assessed the effectiveness of internal control over financial reporting as of December 31, 2022, based upon the framework in Internal Control- Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission, or COSO. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the Company’s annual or interim financial statements will not be prevented or detected on a timely basis. Based upon this evaluation and the material weakness identified below, our management concluded that our internal control over financial reporting was not effective as of December 31, 2022. Material Weakness in Internal Control We identified a material weakness related to Information Technology General Controls (ITGCs) that were not designed and operating effectively to ensure (i) appropriate segregation of duties was in place to perform program changes and (ii) the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted. The material weakness identified above did not result in any material misstatements in our financial statements or disclosures, and there were no changes to previously released financial results. Our management concluded that the consolidated financial statements included in this Annual Report on Form 10-K, present fairly, in all material respects, our financial position, results of operations, and cash flows for the periods presented in accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP. The effectiveness of our internal control over financial reporting as of December 31, 2022, has been audited by Marcum LLP as stated in their report, which is included in Item 8 of this Annual Report on Form 10-K. Remediation Plan Our management is committed to maintaining a strong internal control environment. In response to the identified material weakness above, management will take comprehensive actions to remediate the material weakness in internal control over financial reporting. We are in the process of developing and implementing remediation plans to address the material weakness described above. Changes in Internal Control over Financial Reporting Except for the items referred to above, there were no changes in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the quarter ended December 31, 2022 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting. Inherent Limitation on the Effectiveness of Internal Control Our management, including our Chief Executive Officer and Chief Financial Officer, do not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by 41 Table of Contents management override of the controls. The design of any system of controls is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with policies or procedures may deteriorate. Due to inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. ITEM 9B. OTHER INFORMATION None. ITEM 9C. DISCLOSURE REGARDING FOREIGN JURISDICTIONS THAT PREVENT INSPECTIONS Not applicable. 42 Table of Contents PART III ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2022 in connection with the solicitation of proxies for the Company’s 2023 annual meeting of stockholders and is incorporated herein by reference. ITEM 11. EXECUTIVE COMPENSATION The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2022 and is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS. EQUITY COMPENSATION PLAN INFORMATION The following table provides information as of December 31, 2022 regarding shares of common stock available for issuance under our equity incentive plans (in thousands except exercise price): Number of Number of Securities Securities to be Remaining Available Issued Upon Weighted for Future Issuance Exercise of Average Exercise Under Equity Outstanding Price of Compensation Plans Options, Outstanding (excluding securities Warrants Options, Warrants reflected in the first and Rights and Rights column) Plan Category 2005 Stock Option Plan (1) (2) 211 $ 0.20 — Warrants 99 2.40 — 2017 Stock Option Plan (3) 1,005 2.07 3,836 Total 1,315 $ 1.79 3,836 (1) All of these securities are available for issuance under the Zynex, Inc. 2005 Stock Option Plan, approved by the Board of Directors on January 3, 2005 and by our stockholders on December 30, 2005. (2) As of December 31, 2014, the 2005 Stock Option Plan was terminated. Termination of the plan did not affect the rights and obligations of the participants and the company arising under options previously granted. (3) The 2017 Stock Option Plan was approved by stockholders on June 1, 2017. The additional information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2022 and is incorporated herein by reference. 43 Table of Contents ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2022 and is incorporated herein by reference. The Board of Directors has determined that Messrs. Cress, Disbrow and Michaels who together comprise the Audit Committee, are all “independent directors” within the meaning of Rule 5605 of the NASDAQ Listing Rules. ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2022 and is incorporated herein by reference. 44 Table of Contents PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES Consolidated Financial Statements: Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting F-1 Report of Independent Registered Public Accounting Firm (Marcum LLP, New York, NY PCAOB firm ID 688 ) F-3 Report of Independent Registered Public Accounting Firm (Plante & Moran, PLLC, Denver, CO PCAOB firm ID 166 ) F-5 Consolidated Balance Sheets as of December 31, 2022 and 2021 F-6 Consolidated Statements of Income for the years ended December 31, 2022 and 2021 F-7 Consolidated Statements of Cash Flows for the years ended December 31, 2022 and 2021 F-8 Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2022 and 2021 F-9 Notes to Consolidated Financial Statements F-10 Exhibits: Exhibit Number Description 2.1 Asset Purchase Agreement, dated March 9, 2012, among Zynex NeuroDiagnostics, Inc., NeuroDyne Medical Corp. and the shareholders listed on Schedule A thereto (incorporated by reference to Exhibit 10.1 of the Company’s Current Report on Form 8-K filed on March 13, 2012) 3.1 Amended and Restated Articles of Incorporation (incorporated by reference to Exhibit 10.1 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 3.2 Amended and Restated Bylaws (incorporated by reference to Exhibit 10.2 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 4.1 Zynex, Inc 2017 Stock Incentive Plan (incorporated by reference to Exhibit 4.1 to the Company’s Report on form S-8 filed on September 6, 2017) 4.2 Description of registrant’s securities registered pursuant to Section 12 of the Securities Exchange Act of 1934 (incorporated by reference to Exhibit 4.2 to the Company’s Annual Report on Form 10-K filed on March 22, 2022) 10.1† 2005 Stock Option Plan (incorporated by reference to Exhibit 10.5 of the Company’s Annual Report on Form 10-KSB for the year ended December 31, 2004) 10.2† Form of Indemnification Agreement for directors and executive officers (incorporated by reference to Exhibit 10.3 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 10.3† Employment agreement for Daniel J. Moorhead dated June 5, 2017 (incorporated by reference of Exhibit 10.1 to the Company’s Report on Form 8K filed on June 8, 2017) 10.4 Office Lease, effective October 20, 2017, between CSG Systems, Inc. and Zynex Medical, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on October 26, 2017). 10.5 Zynex, Inc. Non-Employee Director Compensation Plan (incorporated by reference to Exhibit 10.1 to the Company’s Report on Form 8-K filed on January 11, 2018) 10.6 Equity Distribution Agreement, dated October 29, 2019 between Zynex, Inc. and Piper Jaffray & Co. (incorporated by reference to Exhibit 1.1 of the Company’s Current Report on Form 8-K filed on October 29, 2019) 45 Table of Contents Exhibit Number Description 10.7 Amendment to Sublease Agreement, effective January 3, 2020, between CSG Systems, Inc. and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on January 7, 2020 10.8 Underwriting Agreement dated July 14, 2020, among certain selling stockholders, Piper Sandler & Co., and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on July 17, 2020) 10.9 Lease Agreement, effective September 30, 2020, between GIG CW Compark, LLC and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on October 6, 2020). 10.10 Sublease Agreement between Zynex, Inc. and Cognizant Trizetto Software Group, Inc. dated April 8, 2021 (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on April 9, 2021) 10.11 Stock Purchase Agreement by and among Kestrel Labs, Inc., Zynex Monitoring Solutions Inc., Zynex, Inc. and Selling Shareholders named herein dated as of December 22, 2021 (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on December 23, 2021) 10.12 The Loan Agreement and accompanying documents dated December 22, 2021 among Bank of America N.A., Zynex Medical, Inc., and Zynex Monitoring Solutions (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on December 30, 2021) 46 Table of Contents Exhibit Number Description 21* Subsidiaries of the Company 23.1* Consent of Marcum LLP, Independent Registered Public Accounting Firm (Filed herewith) 23.2* Consent of Plante & Moran, PLLC, Independent Registered Public Accounting Firm (Filed herewith) 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1* Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2* Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB* XBRL Taxonomy Label Linkbase Document 101.PRE* XBRL Presentation Linkbase Document 101.DEF* XBRL Taxonomy Extension Definition Linkbase Document 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith † Denotes management contract or compensatory plan or arrangement ITEM 16. FORM 10-K SUMMARY None. 47 Table of Contents SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ZYNEX, INC. Date: March 13, 2023 By : /s/ Thomas Sandgaard Thomas Sandgaard Chairman, President, Chief Executive Officer and Principal Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Date Name and Title Signature March 13, 2023 Thomas Sandgaard, /s/ Thomas Sandgaard Chairman, President, Chief Executive Officer and Principal Executive Officer March 13, 2023 Daniel Moorhead /s/ Daniel Moorhead Chief Financial Officer and Principal Financial Officer March 13, 2023 Barry D. Michaels /s/ Barry D. Michaels Director March 13, 2023 Michael Cress /s/ Michael Cress Director March 13, 2023 Joshua R. Disbrow /s/ Joshua R. Disbrow Director 48 Table of Contents Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting To the Shareholders and Board of Directors of Zynex, Inc. Adverse Opinion on Internal Control over Financial Reporting We have audited Zynex, Inc. ’s (the “Company”) internal control over financial reporting as of December 31, 2022 , based on criteria established in Internal Control-Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. In our opinion, because of the effect of the material weaknesses described in the following paragraph on the achievement of the objectives of the control criteria, the Company has not maintained effective internal control over financial reporting as of December 31 2022, based on criteria established in Internal Control-Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. A material weakness is a control deficiency, or combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the Company’s annual or interim financial statements will not be prevented or detected on a timely basis. The following material weaknesses have been identified and included in “ Management’s Annual Report on Internal Control Over Financial Reporting”: IT General Controls (“ITGC”), deficiencies were identified Information technology general controls (ITGCs) were not designed and operating effectively to ensure (i) that appropriate segregation of duties was in place to perform program changes and (ii) that the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted This material weakness was considered in determining the nature, timing and extent of audit tests applied in our audit of the fiscal December 31, 2022 consolidated financial statements, and this report does not affect our report dated March 13, 2023 on those financial statements. We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the consolidated balance sheets as of December 31, 2022 and the related consolidated statements of income, shareholders’ equity, and cash flows for the December 31, 2022 of the Company and our report dated March 13, 2023 expressed an unqualified opinion on those financial statements. Basis for Opinion The Company’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying “Management Annual Report on Internal Control Over Financial Reporting”. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. F-1 Table of Contents Definition and Limitations of Internal Control over Financial Reporting A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of the inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that degree of compliance with the policies or procedures may deteriorate. Marcum llp New York March 13, 2023 F-2 Table of Contents Report of Independent Registered Public Accounting Firm To the Shareholders and Board of Directors of Zynex Inc. Opinion on the Financial Statements We have audited the accompanying consolidated balance sheet of Zynex Medical, Inc. (the “Company”) as of December 31, 2022, the related consolidated statements of income , stockholders’ equity and cash flows for the one year in the period ended December 31, 2022, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2022, and the results of its operations and its cash flows for each of the year in the period ended December 31, 2022, in conformity with accounting principles generally accepted in the United States of America. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the Company’s internal control over financial reporting as of December 31, 2022, based on the criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in 2013 and our report dated March 13, 2023 , expressed an adverse opinion on the effectiveness of the Company’s internal control over financial reporting because of the existence of material weaknesses. Basis for Opinion These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audit included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audit also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audit provide a reasonable basis for our opinion. Critical Audit Matters The critical audit matters communicated below are matters arising from the current period audit of the financial statements that were communicated or required to be communicated to the audit committee and tha (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate. Estimation of Transaction Price and Variable Consideration for Revenue Recognition including related Valuation of Accounts Receivable Critical Audit Matter Description The Company’s revenue is derived from sales and leases of electrotherapy devices and sales of related supplies and complementary products. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. The Company estimates revenues using the portfolio approach based upon historical rates of collection, aging of receivables, product mix, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated variable consideration and relevant constraints for third-party payer refund requests, deductions and adjustments. F-3 Table of Contents We identified the Company’s estimation of transaction price related to variable consideration for revenue recognition, including the related valuation of accounts receivable, as a critical audit matter. Auditing the Company's determination of variable consideration and the related constraint for revenue recognition including the recorded value for accounts receivable was challenging and complex due to the high degree of subjectivity involved in evaluating management’s estimates. This required a high degree of auditor judgment and increased extent of effort to audit and evaluate management’s key judgments. How the Critical Audit Matter Was Addressed in the Audit Our audit procedures related to revenue recognition and accounts receivable include the following, among othe · We gained an understanding of the design of the controls over the Company ’ s contracts with customers including those controls over the processes to develop key management estimates. · We performed testing throughout the year on a sample of contracts to test the validity of sales transactions and cash receipts application. · We evaluated the significant assumptions and the accuracy and completeness of the underlying data used in management ’ s calculations, including evaluating management ’ s estimate of historical reimbursement experience as well as expected future payment behavior through a combination of underlying data validation by inspection of source documents, independent recalculation of management ’ s analysis, review of correspondence with third-party payers, inquiries with management and evaluation of trends in collection rates and refund requests. · We performed independent sensitivity analyses over the Company's significant assumptions embodied within their key estimates including evaluation of subsequent payment activity compared with management ’ s estimate of expected collection rates. /s/ Marcum LLP Marcum LLP We have served as the Company’s auditor since 2022. New York, NY March 13, 2023 F-4 Table of Contents Report of Independent Registered Public Accounting Firm To the Stockholders and Board of Directors of Zynex, Inc. Opinion on the Financial Statements We have audited the accompanying consolidated balance sheet of Zynex, Inc. (the “Company”) as of December 31, 2021 and the related consolidated statements of income, stockholders' equity, and cash flow for the year ended December 31, 2021, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2021, and the results of its operations and its cash flows for the year ended December 31, 2021, in conformity with accounting principles generally accepted in the United States of America. Basis for Opinion The Company's management is responsible for these financial statements. Our responsibility is to express an opinion on the Company’s financial statements based on our audit. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company was not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audit, we were required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. Our audit included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audit also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audit provides a reasonable basis for our opinion. /s/ Plante & Moran, PLLC We served as the Company’s auditor from 2016-2022. Denver, Colorado March 21, 2022 F-5 Table of Contents ZYNEX, INC. CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) December 31, December 31, 2022 2021 ASSETS Current assets: Cash $ 20,144 $ 42,612 Accounts receivable, net 35,063 28,632 Inventory, net 13,484 10,756 Prepaid expenses and other 868 689 Total current assets 69,559 82,689 Property and equipment, net 2,175 2,186 Operating lease asset 12,841 16,338 Finance lease asset 270 389 Deposits 591 585 Intangible assets, net of accumulated amortization 9,067 9,975 Goodwill 20,401 20,401 Deferred income taxes 1,562 711 Total assets $ 116,466 $ 133,274 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable and accrued expenses 5,601 4,739 Cash dividends payable 16 3,629 Operating lease liability 2,476 2,859 Finance lease liability 128 118 Income taxes payable 1,995 2,296 Current portion of debt 5,333 5,333 Accrued payroll and related taxes 5,537 3,897 Total current liabilities 21,086 22,871 Long-term liabiliti Long-term portion of debt, less issuance costs 5,293 10,605 Contingent consideration 10,000 9,700 Operating lease liability 13,541 15,856 Finance lease liability 188 317 Total liabilities 50,108 59,349 Commitments and contingencies (Note 13) Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of December 31, 2022 and December 31, 2021 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,658,132 issued and 36,825,081 outstanding as of December 31, 2022 41,400,834 issued and 39,737,890 outstanding as of December 31, 2021 (including 3,606,970 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 39 41 Additional paid-in capital 82,431 80,397 Treasury stock of 4,253,015 and 1,246,399 shares, at December 31, 2022 and 2021, respectively, at cost ( 33,160 ) ( 6,513 ) Retained earnings 17,048 — Total stockholders’ equity 66,358 73,925 Total liabilities and stockholders’ equity $ 116,466 $ 133,274 See accompanying notes to consolidated financial statements. F-6 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) YEARS ENDED DECEMBER 31, 2022 AND 2021 For the Years Ended December 31, 2022 2021 NET REVENUE Devices $ 43,497 $ 36,613 Supplies 114,670 93,688 Total net revenue 158,167 130,301 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 32,005 27,321 Sales and marketing 67,116 54,290 General and administrative 36,108 26,324 Total costs of revenue and operating expenses 135,229 107,935 Income from operations 22,938 22,366 Other expense Loss on change in fair value of contingent consideration ( 300 ) — Interest expense ( 440 ) ( 95 ) Other expense, net ( 740 ) ( 95 ) Income from operations before income taxes 22,198 22,271 Income tax expense 5,150 5,168 Net income $ 17,048 $ 17,103 Net income per sh Basic $ 0.44 $ 0.45 Diluted $ 0.44 $ 0.44 Weighted average basic shares outstanding 38,467 38,317 Weighted average diluted shares outstanding 39,127 39,197 See accompanying notes to consolidated financial statements. F-7 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) YEARS ENDED DECEMBER 31, 2022 AND 2021 For the Years Ended December 31, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 17,048 $ 17,103 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation 2,197 2,261 Amortization 930 25 Non-cash reserve charges 82 ( 107 ) Stock-based compensation 2,342 1,630 Non-cash lease expense 800 1,398 Loss on change in fair value of contingent consideration 300 — Benefit for deferred income taxes ( 851 ) ( 146 ) Change in operating assets and liabilities, net of the effects of acquisitio Accounts receivable ( 6,430 ) ( 14,781 ) Prepaid and other assets ( 180 ) 690 Accounts payable and other accrued expenses 1,834 2,889 Inventory ( 4,320 ) ( 3,776 ) Deposits ( 6 ) ( 237 ) Net cash provided by operating activities 13,746 6,949 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 418 ) ( 609 ) Business acquisition, net of cash acquired — ( 15,997 ) Net cash used in investing activities ( 418 ) ( 16,606 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 118 ) ( 98 ) Cash dividends paid ( 3,613 ) ( 1 ) Purchase of treasury stock ( 26,426 ) ( 2,667 ) Debt issuance costs — ( 16 ) Proceeds from the issuance of common stock on stock-based awards 46 161 Proceeds from debt — 15,953 Principal payments on long-term debt ( 5,333 ) — Taxes withheld and paid on employees' equity awards ( 352 ) ( 236 ) Net cash (used in) provided by financing activities ( 35,796 ) 13,096 Net increase (decrease) in cash ( 22,468 ) 3,439 Cash at beginning of period 42,612 39,173 Cash at end of period $ 20,144 $ 42,612 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 391 ) $ ( 82 ) Cash paid for rent $ ( 3,622 ) $ ( 2,109 ) Cash paid for income taxes $ ( 6,294 ) $ ( 3,305 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 211 $ 13,240 Right-of-use assets obtained in exchange for new finance lease liabilities $ — $ 175 Inventory transferred to property and equipment under lease $ 1,592 $ 1,587 Capital expenditures not yet paid $ 138 $ 47 Treasury stock not yet paid $ 224 $ — Accrual for cash dividend payable $ — $ 3,622 Contingent consideration related to acqusition $ — $ 9,700 Stock issued for acquisition $ — $ ( 4,701 ) Stock dividend $ — $ ( 36,911 ) See accompanying notes to consolidated financial statements. F-8 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY YEARS ENDED DECEMBER 31, 2022 AND 2021 (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2020 38,244,310 $ 36 $ 37,235 $ ( 3,846 ) $ 23,430 $ 56,855 Exercised and vested stock-based awards 234,388 1 160 — — 161 Warrants exercised 11,000 — — — — — Stock-based compensation expense — — 1,630 — — 1,630 Shares of common stock withheld to pay taxes on employees’ equity awards ( 44,414 ) — ( 236 ) — — ( 236 ) Purchase of treasury stock ( 175,179 ) — — ( 2,667 ) — ( 2,667 ) Stock issued for acquisition 489,262 — 4,701 — — 4,701 Escrow shares issued for acquisition 978,523 — — — — — Cash dividends declared ($ 0.10 per share) — — — — ( 3,622 ) ( 3,622 ) Stock dividends declared — 4 36,907 — ( 36,911 ) — Net income — — — — 17,103 17,103 Balance at December 31, 2021 39,737,890 $ 41 $ 80,397 $ ( 6,513 ) $ — $ 73,925 Exercised and vested stock-based awards 322,237 1 45 — — 46 Stock-based compensation expense — — 2,342 — — 2,342 Shares of common stock withheld to pay taxes on employees’ equity awards ( 83,201 ) — ( 353 ) — — ( 353 ) Purchase of treasury stock ( 3,006,616 ) ( 3 ) — ( 26,647 ) — ( 26,650 ) Escrow shares adjustment ( 156,673 ) — — — — — Stock dividend adjustments 11,444 — — — — — Net income — — — — 17,048 17,048 Balance at December 31, 2022 36,825,081 $ 39 $ 82,431 $ ( 33,160 ) $ 17,048 $ 66,358 See accompanying notes to consolidated financial statements. F-9 Table of Contents ZYNEX, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 2022 AND 2021 (1) ORGANIZATION, NATURE OF BUSINESS Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of December 31, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Kestrel Labs, Inc. (“Kestrel,” a wholly-owned Colorado corporation), Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100 % of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO™ CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx™, a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. Food and Drug Administration (“FDA”) for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on drugs and medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All of our medical devices are designed to be patient friendly and designed for home use. Our devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of our medical devices are marketed in the U.S. and are subject to FDA regulation and approval. Our products require a physician’s prescription before they can be dispensed in the U.S. Our primary product is the NexWave device. The NexWave is marketed to physicians and therapists by our field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the years ended December 31, 2022, and 2021, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and health care providers. The Company declared a 10 % stock dividend on November 9, 2021, which was effective on January 21, 2022. Except as otherwise indicated, all related amounts reported in the consolidated financial statements, including common share quantities, earnings per share amounts and exercise prices of options, have been retroactively adjusted for the effect of this stock dividend. (2) SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. F-10 Table of Contents Use of Estimates Preparation of financial statements in conformity with generally accepted accounting principles in the United States of America (“GAAP”), requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying consolidated financial statements are associated with the expected net collectable value of its accounts receivable and related revenue, inventory reserves, the life of its leased unit devices, stock-based compensation, valuation of long-lived assets acquired in business combinations, valuation of contingent consideration and realizability of deferred tax assets. Fair Value of Financial Instruments The Company’s financial instruments include cash, accounts receivable, accounts payable and accrued liabilities. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at fair value which approximates book value as the long-term debt bears market rates of interest. The Company classifies contingent consideration liabilities related to business acquisitions within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. The Company estimates the fair value of contingent consideration liabilities using a Monte Carlo simulation. Changes in the fair value of contingent liabilities in subsequent periods are recorded as a loss (gain) in the statements of operations. Cash The Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. Short-term investments include investments with maturities greater than three months, but not exceeding 12 months, or highly liquid investments with maturities greater than 12 months that the Company intends to liquidate during the next 12 months for working capital needs. Accounts Receivable, Net The Company’s accounts receivables represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company bills the patient’s third-party payer or the patient. Billing adjustments represent the difference between the list prices and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written off after several appeals, which in some cases may take longer than twelve months. Primarily all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a small portion related to private pay individuals, attorney and auto claims. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. Following are the components of inventory as of December 31, 2022 and 2021: December 31, 2022 December 31, 2021 Raw materials $ 3,506 $ 4,471 Work-in-process 1,205 345 Finished goods 7,750 4,468 Inventory in transit 1,291 1,624 $ 13,752 $ 10,908 L reserve ( 268 ) ( 152 ) $ 13,484 $ 10,756 F-11 Table of Contents The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories equal to the difference between the costs of inventories on hand and the estimated market value based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Property and equipment is recorded at cost. Repairs and maintenance expenditures are charged to expense as incurred. We compute depreciation expense on a straight-line basis over the estimated useful lives of the assets as follows: Classification Estimated Useful Life Office furniture and equipment 5 to 7 years Assembly equipment 7 years Vehicles 5 years Leasehold improvements Shorter of useful life or term of lease Leased devices 9 months Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For our finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For our operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on our Consolidated Balance Sheets. For additional information on our leases where the Company is the lessee, see Note 11- Leases. F-12 Table of Contents A significant portion of our device revenue is derived from patients who obtain our devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with Accounting Standards Codification (“ASC”) 842, Leases. Using the guidance in ASC 842, we concluded our transactions should be accounted for as operating leases based on the following criteri ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since our leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when control is deemed to have transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. The following table provides a breakdown of net revenue related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606”) and leases subject to ASC 842 (in thousands): For the Years Ended December 31, 2022 2021 Device revenue Purchased $ 14,393 $ 9,240 Leased 29,104 27,373 Total device revenue 43,497 36,613 Supplies revenue 114,670 93,688 Total revenue $ 158,167 $ 130,301 F-13 Table of Contents Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing in the future. The Company tests goodwill at least annually for impairment. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Advertising and Marketing Costs Advertising and marketing costs are expensed as incurred. Advertising and marketing costs are included in Sales and marketing expense in the Company's Consolidated Statements of Income. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision-Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. F-14 Table of Contents Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved. Earnings Per Share The Company calculates basic earnings per share on the basis of the weighted-average number of shares of common stock outstanding during the period. Diluted earnings per share is calculated using the weighted-average number of shares of common stock outstanding for the period plus the effect of potential dilutive common shares during the period using the treasury stock method. Potential shares of common stock outstanding include unvested restricted stock awards, shares held in escrow, vested and unvested unexercised stock options and common stock purchase warrants. Research and Development Research and development costs are expensed when incurred. During 2022 and 2021, we incurred research and development expenses of approximately $ 7.1 million and $ 2.6 million, respectively, related to our ZMS operations. During 2022, approximately $ 1.0 million of the expenses qualified for Section 174 - “Amortization of Research and Experimental Expenditures” tax treatment. Research and development, which includes salaries related to research and development and raw materials, are included in general and administrative expenses on the consolidated statements of comprehensive income. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. Recently Issued Accounting Pronouncements In August 2020, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2020-06, Debt — Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging — Contracts in Entity’s Own Equity (Subtopic 815-40) (“ASU 2020-06”) to simplify accounting for certain financial instruments. ASU 2020-06 eliminates the current models that require separation of beneficial conversion and cash conversion features from convertible instruments and simplifies the derivative scope exception guidance pertaining to equity classification of contracts in an entity’s own equity. The new standard also introduces additional disclosures for convertible debt and freestanding instruments that are indexed to and settled in an entity’s own equity. ASU 2020-06 amends the diluted earnings per share guidance, including the requirement to use the if-converted method for all convertible instruments. ASU 2020-06 is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years, with early adoption permitted. The Company adopted ASU 2020-06 effective as of January 1, 2022. The adoption of ASU 2020-06 did not have an impact on the Company’s consolidated financial statements. F-15 Table of Contents In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) (“ASU 2016-13”), Measurement of Credit Losses on Financial Instruments. The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren’t measured at fair value through net income. The standard will replace today’s “incurred loss” approach with an “expected loss” model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. This ASU is effective for annual periods beginning after December 15, 2022, and interim periods therein for smaller reporting companies. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Company adopted this standard during the quarter ended June 30, 2022. The primary instrument that needed to be evaluated was the Company’s trade receivables and the impact was not material. Management has evaluated other recently issued accounting pronouncements and does not believe that those pronouncements will have a material impact on the Company’s consolidated financial statements. (3) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel Labs, Inc. (“Kestrel”) and each of the shareholders of Kestrel (collectively, the “Selling Shareholders”). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to ZMS. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,467,785 , (as adjusted pursuant to the stock dividend, see note 1) shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 978,524 of the Zynex Shares were deposited in escrow (the “Escrow Shares”). The number of Escrow Shares is subject to adjustment on the one-year anniversary of the Closing Date based on the number of shares equal to $ 10 million divided by a 30 -day volume weighted average closing price of the Zynex common stock. The Escrow Shares were adjusted on the anniversary date, which resulted in the cancellation of 156,673 Escrow Shares. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the Food and Drug Administration (the “FDA”) for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon notification from the FDA finding the Device can be marketed and sold in the United States. The amount of escrow shares were recalculated at December 31, 2021, and are included in the calculation of diluted earnings per share for December 31, 2021. No additional calculation was required for the Escrow Shares at December 31, 2022, as the Escrow Share number was finalized on the anniversary date, and the shares are included in the Company’s calculation of basic earnings per share. The maximum amount of Zynex shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares. The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. Summary of Purchase Consideration Presented below is a summary of the total purchase consideration for the Kestrel business combinations (in thousands except share data): Shares (1) Fair Value Cash Total Closing date cash — $ — $ 16,000 $ 16,000 Working capital distribution — — 78 78 Total cash paid — $ — $ 16,078 $ 16,078 Closing date equity Issued shares 444,784 4,701 — 4,701 Escrow shares 889,566 9,700 — 9,700 Total equity 1,334,350 $ 14,401 $ — $ 14,401 Total consideration 1,334,350 $ 14,401 $ 16,078 $ 30,479 F-16 Table of Contents (1) The amount of shares issued and included in escrow were not retroactively adjusted in the table above for the 10 % stock dividend declared on November 9, 2021 and issued on January 21, 2022. The issued and escrow shares after retroactive adjustment for the 10 % stock dividend were 489,262 and 978,523 shares, respectively, as shown in the Consolidated Statements of Stockholders’ Equity. Purchase Price Allocations Presented below is a summary of the purchase price allocations for the Kestrel business combinations on the acquisition date (in thousands): Purchase Price Allocation Current assets: Cash $ 80 Accounts receivable 15 Prepaid expenses and other 1 Total current assets $ 96 Long-term assets: Identifiable intangible assets 10,000 Total assets acquired $ 10,096 Less liabilities assu Accounts payable ( 18 ) Net identifiable assets acquired 10,078 Goodwill 20,401 Net assets acquired $ 30,479 The fair value of the identifiable intangibles assets is primarily related to patents which will be amortized over a useful life of 11 years . The excess of the purchase price over the fair value of the net assets acquired was recorded as goodwill. The goodwill is attributable to the benefits the Company expects to realize by enhancing its product offering and addressable markets, thereby contributing to an expanded revenue base. (4) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): December 31, 2022 December 31, 2021 Property and equipment Office furniture and equipment $ 2,819 $ 2,391 Assembly equipment 110 100 Vehicles 203 203 Leasehold improvements 1,173 1,054 Leased devices 1,162 1,080 $ 5,467 $ 4,828 Less accumulated depreciation ( 3,292 ) ( 2,642 ) $ 2,175 $ 2,186 The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units of which are still with patients for which the Company cannot determine the current status. Total depreciation expense related to our purchased property and equipment was $ 0.7 million and $ 0.9 million for the years ended December 31, 2022 and 2021, respectively. F-17 Table of Contents Total depreciation expense related to devices out on lease was $ 1.5 million and $ 1.4 million for the years ended December 31, 2022 and 2021, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. (5) GOODWILL AND OTHER INTANGIBLES During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 3). As of December 31, 2022, there was no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of December 31, 2022. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents $ 10,000 $ ( 933 ) $ 9,067 10.0 The following table summarizes the estimated future amortization expense to be recognized over the next years and periods thereaf December 31, (In thousands) 2023 $ 908 2024 911 2025 908 2026 908 2027 908 Thereafter 4,524 Total future amortization expense $ 9,067 (6) EARNINGS PER SHARE The calculation of basic and diluted earnings per share for the years ended December 31, 2022 and 2021 are as follows (in thousands, except per share data): For the Years Ended December 31, 2022 2021 Basic earnings per share Net income available to common stockholders $ 17,048 $ 17,103 Basic weighted-average shares outstanding 38,467 38,317 Basic earnings per share $ 0.44 $ 0.45 Diluted earnings per share Net income available to common stockholders $ 17,048 $ 17,103 Weighted-average shares outstanding 38,467 38,317 Effect of dilutive securities - options and restricted stock 660 880 Diluted weighted-average shares outstanding 39,127 39,197 Diluted earnings per share $ 0.44 $ 0.44 F-18 Table of Contents For the years ended December 31, 2022 and 2021, 0.1 million and 0.4 million shares of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. The basic and diluted weighted-average shares outstanding for December 31, 2021 has been updated to include the retroactive impact of the 10 % common stock dividend declared on November 11, 2021. (7) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”). Under this Loan Agreement, the Bank is extending two facilities to the Borrowers. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). The Borrower pays interest on Facility 1 on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the Bloomberg Short-term Bank Yield Index (“BSBY”) Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of December 31, 2022, the Company has not utilized this facility and has no balance outstanding. The other facility being extended by the Bank to the Borrower is a fixed rate term loan in the amount of $ 16.0 million (“Facility 2”) bearing interest at 2.8 % per year. The Borrower pays interest on the first day of each month beginning January 1, 2022 and the Borrower repays the principal amount in equal installments of $ 0.4 million per month through December 1, 2024. Facility 2 was entered into in conjunction with the purchase of Kestrel Labs. The following table summarizes future principal payments on long-term debt as of December 31, 2022: December 31, (In thousands) 2023 5,333 2024 5,334 Future principal payments 10,667 Less current portion ( 5,333 ) Less debt issuance costs ( 41 ) Long-term debt, net of debt issuance costs $ 5,293 (8) STOCK-BASED COMPENSATION PLANS Zynex, Inc. 2017 Stock Incentive Plan The Company currently has one active long-term incentive plan. The Company’s 2017 Stock Incentive Plan (the “2017 Stock Plan”) is the Company’s equity compensation plan and provides for grants of stock-based awards to employees, directors and other individuals providing services to the Company. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. The 2017 Stock Plan mandates a maximum award term of 10 years and stipulates that stock options be granted with prices not less than fair market value on the date of grant. Stock option awards generally vest over four years . Restricted stock awards typically vest quarterly over three years for grants issued to members of our Board of Directors and quarterly or annually over two to four years for grants issued to employees. For stock option awards, all awards granted under the 2017 Stock Plan are stock-settled with common stock issued upon exercise. For restricted stock awards, shares are issued to the recipient upon grant with a restrictive legend and are not included in the calculation of outstanding shares until vesting occurs. At December 31, 2022, there were 3.8 million shares available for future grants under the 2017 Stock Plan. Zynex, Inc. 2005 Stock Option Plan The 2005 Stock Option Plan (the “2005 Stock Plan”) expired as of December 31, 2014. Vesting provisions of the expired plan were to be determined by the Board of Directors. All stock options under the 2005 Stock Plan expire no later than ten years from the date of grant. Options granted in 2015, 2016 and through May 2017 prior to the approval of the 2017 Stock Incentive Plan were approved and certified by the board of directors on September 6, 2017 under the existing 2005 Stock Plan. F-19 Table of Contents As of December 31, 2022, the Company had the following stock options outstanding and exercisab Outstanding Number of Options Exercisable Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 211 211 2017 Stock Option Plan 582 346 Total 793 557 The Company received $ 0.1 million cash proceeds related to option exercises during the year ended December 31, 2022. The Company received cash proceeds of $ 0.2 million related to option exercises during the year ended December 31, 2021. During the year ended December 31, 2022, 0.2 million performance based stock option awards were granted under the 2017 Stock Plan. During the year ended December 31, 2021, no stock option awards were granted under the 2017 Stock Plan. The Company used the Black Scholes option pricing model to determine the fair value of stock option grants, using the following assumptions during the year ended December 31, 2022. Weighted average expected term 3 years Weighted average volatility 73 % Weighted average risk-free interest rate 2.81 % Dividend yield 0 % The weighted average expected term of stock options represents the period of time that the stock options granted are expected to be outstanding based on historical exercise trends. The weighted average expected volatility is based on the historical price volatility of the Company’s common stock. The weighted average risk-free interest rate represents the U.S. Treasury bill rate for the expected term of the related stock options. The dividend yield represents the Company’s anticipated cash dividend over the expected term of the stock options. Forfeitures are accounted for as they occur. The following table summarizes stock-based compensation expenses recorded in the condensed consolidated statements of operations (in thousands): For the Years Ended December 31, 2022 2021 Cost of Revenue $ 47 $ 56 Sales and marketing expense 2,104 155 General, and administrative 191 1,419 Total stock based compensation expense $ 2,342 $ 1,630 The excess tax benefit associated with our stock-based compensation plans for the years ended December 31, 2022 and 2021, was approximately $ 0.0 million and $ 0.2 million, respectively. F-20 Table of Contents A combined summary of stock option activity for all plans for the years ended December 31, 2022 and 2021 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Shares Strike Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding at December 31, 2020 1,107 $ 2.76 Granted — $ — Exercised ( 116 ) $ 4.87 Forfeited ( 226 ) $ 6.45 Outstanding at December 31, 2021 765 $ 1.36 4.68 $ Granted 200 $ 6.23 Exercised ( 157 ) $ 0.66 Forfeited ( 15 ) $ 4.18 Outstanding at December 31, 2022 793 $ 2.67 5.03 $ Exercisable at December 31, 2022 557 $ 1.31 3.40 $ Outstanding Weighted average Number of Remaining Weighted Average Options Contractual Weighted Average Exercisable Number of Remaining Exercisable Exercisable Range (in thousands) Life (years) Strike Price Options (in thousands) Contractual Life (years) Strike Price $ 0 to $ 2.00 354 2.31 $ 0.30 354 2.31 $ 0.30 $ 2.01 to $ 4.00 217 5.56 $ 2.69 187 5.48 $ 2.65 $ 4.01 to $ 10.00 222 8.86 $ 6.45 15 3.23 $ 8.33 793 5.03 $ 2.67 557 3.40 $ 1.31 A summary of our unvested stock options as of December 31, 2022 and 2021 and related activity is presented be Non-vested Shares Weighted Under Average Option Grant Date (in thousands) Fair Value Non-vested at December 31, 2020 474 $ 4.35 Granted — — Vested ( 167 ) 1.93 Forfeited ( 212 ) 6.48 Non-vested at December 31, 2021 95 $ 3.85 Granted 200 6.23 Vested ( 49 ) 4.12 Forfeited ( 9 ) 5.49 Non-vested at December 31, 2022 237 $ 5.90 F-21 Table of Contents A summary of restricted stock award activity under the 2017 Stock Plan for the years ended December 2022 and 2021 are presented be Number of Shares Weighted Average (in thousands) Grant Date Fair Value Outstanding at December 31, 2020 295 $ 11.53 Granted 381 $ 14.15 Vested ( 119 ) $ 10.92 Forfeited ( 103 ) $ 12.40 Outstanding at December 31, 2021 454 $ 13.69 Granted 186 $ 8.52 Vested ( 165 ) $ 12.90 Forfeited ( 52 ) $ 10.60 Outstanding at December 31, 2022 423 $ 11.94 The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on the Restricted Stock Awards typically occurs quarterly over three years for the Board of Directors and quarterly or annually over two to four years for employees. As of December 31, 2022, there was approximately $ 4.3 million of total unrecognized compensation costs related to unvested stock options and restricted stock. These costs are expected to be recognized over a weighted average period of 2.3 years. The total intrinsic value of stock option exercises for the years ended December 31, 2022 and 2021 was $ 1.1 million and $ 1.0 million, respectively. The total fair value of restricted stock awards vested during the years ended December 31, 2022 and 2021 was $ 1.4 million and $ 1.3 million, respectively. (9) STOCKHOLDERS’ EQUITY Common Stock Dividend The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Treasury Stock On March 8, 2021, our Board of Directors approved a program to repurchase up to $ 10.0 million of our common stock at prevailing market prices either in the open market or through privately negotiated transactions through September 8, 2021. From the inception of the plan through September 8, 2021, the Company purchased 175,179 shares of our common stock for $ 2.7 million or an average price of $ 15.22 per share. On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through October 4, 2022, the Company purchased 1,091,604 shares of its common stock for $ 10.0 million for an average price of $ 9.06 per share which completed this program. F-22 Table of Contents On October 31, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through October 31, 2023. From the inception of the plan through December 31, 2022, the Company purchased 495,138 shares of its common stock for $ 6.6 million or an average price of $ 13.43 per share. Subsequent to December 31, 2022, the Company purchased 232,698 shares of its common stock for an average price of $ 14.41 per share which completed this program. Warrants A summary of stock warrant activity for the years ended December 31, 2022 and 2021 are presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding at December 31, 2020 110 $ 2.39 3.76 $ 1,084 Granted — $ — Exercised ( 10 ) $ 2.27 2.76 192 Forfeited (1) ( 1 ) $ 2.27 2.76 25 Outstanding and exercisable at December 31, 2021 99 $ 2.39 2.76 $ 660 Granted — $ — Exercised — $ — — — Forfeited — $ — — — Outstanding and exercisable at December 31, 2022 99 $ 2.39 1.76 $ 1,140 (1) Warrants were exercised under a net exercise provision in the warrant agreement. As a result, approximately 1,000 warrants were forfeited in lieu of cash payment for shares during 2021. (10) INCOME TAXES The pre-tax income from continuing operations on which the provision for income taxes was computed is as follows (in thousands) 2022 2021 United States $ 22,220 $ 22,295 Foreign ( 22 ) ( 24 ) Total 22,198 22,271 Income tax expense consists of the following for the years ended December 31, 2022 and 2021 (in thousands): 2022 2021 Current tax expense: Federal $ 4,891 $ 4,289 State 1,110 1,025 Total tax expense: 6,001 5,314 Deferred tax expense/(benefit) Federal ( 730 ) ( 135 ) State ( 121 ) ( 11 ) Total deferred tax expense/(benefit) $ ( 851 ) $ ( 146 ) Total $ 5,150 $ 5,168 F-23 Table of Contents A reconciliation of income tax computed at the U.S. statutory rate of 21 % to the effective income tax rate is as follows: 2022 2021 Statutory rate 21 % 21 % State taxes 3 % 4 % Stock based compensation 0 % ( 1 ) % Research and development credit ( 1 ) % 0 % Effective rate 23 % 24 % The tax effects of temporary differences that give rise to deferred tax assets (liabilities) at December 31, 2022 and 2021 are as follows (in thousands): 2022 2021 Deferred tax assets: Accrued expenses $ 31 $ 26 Lease liability 3,955 4,620 Accounts receivable 18 18 Inventory 198 484 Stock based compensation 253 271 Right of use asset — 8 Amortization — 90 Section 174 costs 991 — 5,446 5,517 Deferred tax assets $ 5,446 $ 5,517 Deferred tax liabiliti Property and equipment ( 519 ) ( 599 ) Finance lease ( 67 ) ( 96 ) Prepaid expenses ( 116 ) ( 77 ) Right-of-use asset ( 3,170 ) ( 4,034 ) Amortization ( 12 ) — Deferred tax liabilities $ ( 3,884 ) $ ( 4,806 ) Net deferred tax assets $ 1,562 $ 711 As of December 31, 2022, the Company has no net operating loss. The Company had no recorded valuation allowances at December 31, 2022 and 2021. The accounting standard related to income taxes applies to all tax positions and defines the confidence level that a tax position must meet in order to be recognized in the financial statements. The accounting standard requires that the tax effects of a position be recognized only if it is “more-likely-than-not” to be sustained by the taxing authority as of the reporting date. If a tax position is not considered “more-likely-than-not” to be sustained, then no benefits of the position are to be recognized. Differences between financial and tax reporting which do not meet this threshold are required to be recorded as unrecognized tax benefits. This standard also provides guidance on the presentation of tax matters and the recognition of potential interest and penalties. As of December 31, 2022 and 2021, the Company does not have an unrecognized tax liability. The Company does not classify penalty and interest expense related to income tax liabilities as an income tax expense. Penalties and interest are included within general and administrative expenses on the consolidated statements of income. The Company files income tax returns in the U.S. and various state jurisdictions, and there are open statutes of limitations for taxing authorities to audit our tax returns from 2017 through the current period. F-24 Table of Contents (11) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During March 2022, the Company entered into a lease agreement for approximately 4,162 square feet of office space for the operations of ZMS in Boulder, Colorado. The lease began on April 1, 2022 and will run through April 1, 2025. The rent and common area maintenance charges are equal to $ 17.00 per square foot with annual increases of 3 % . Upon lease commencement, the Company recorded an operating lease liability and corresponding right-of-use asset for $ 0.2 million each. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.03 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.39 % which was used to measure its finance lease liability. As of December 31, 2022, the Company’s operating and financing leases have a weighted average remaining term of 4.76 years and 2.63 years respectively. The table below reconciles the undiscounted future minimum lease payments under the Company’s operating and finance leases to the total operating and capital lease liabilities recognized on the consolidated balance sheets as of December 31, 2022 (in thousands): Operating Lease Liability Finance Lease Liability 2023 3,055 152 2024 3,571 116 2025 3,586 76 2026 3,362 15 2027 3,150 — 2028 1,064 — Total undiscounted future minimum lease payments $ 17,788 $ 359 L Difference between undiscounted lease payments and discounted lease liabilities ( 1,771 ) ( 43 ) Total lease liabilities $ 16,017 $ 316 Operating and finance lease costs were $ 4.6 million and $ 3.7 million for years ended December 31, 2022 and 2021, which were included in the consolidated statement of income under the following headings (in thousands): For the years ended December 31, Operating Lease expense 2022 2021 Costs of revenue - devices and supplies $ 359 $ 399 Sales and marketing expense 1,456 1,186 General and administrative 2,643 1,964 Total operating lease expense $ 4,458 $ 3,549 Finance Lease expense Amortization of right-of-use ass Sales and marketing expense $ 117 $ 104 General and administrative 2 1 Total amortization of right-of-use asset 119 104 Interest expense and other 36 41 Total finance lease expense $ 155 $ 145 Prior year amounts for Financing Lease expense have been reclassified for consistency with the current year presentation. These reclassifications had no effect on the reported results of operations. F-25 Table of Contents (12) FAIR VALUE CONSIDERATION The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at fair value which approximates book value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo models. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. Authoritative guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of December 31, 2022, by level within the fair value hierarc Fair Value Measurements at December 31, 2022 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable December 31, Assets Inputs Inputs 2022 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 10,000 $ — $ — $ 10,000 Total $ 10,000 $ — $ — $ 10,000 Contingent Consideration . The Company classifies its contingent consideration liability in connection with the acquisition of Kestrel Labs within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. F-26 Table of Contents The contingent consideration related to Kestrel was valued at $ 9.7 million using a Monte Carlo simulation as of December 22, 2021. As of December 31, 2022, the contingent consideration was estimated at $ 10.0 million, the adjustment of $ 0.3 million was recorded as a loss on change in fair value of contingent consideration in the Company’s Consolidated Statements of Income. The Company’s policy is to value contingent consideration liabilities using a Monte Carlo model. (13) COMMITMENTS AND CONTINGENCIES See Note 11 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management provides for them if losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (14) CONCENTRATIONS The Company is exposed to concentration of credit risk related primarily to its cash balances. The Company maintains its cash balances in major financial institutions that exceed amounts insured by the FDIC (up to $250,000, per financial institution as of December 31, 2022). The Company has not experienced any realized losses in such accounts and believes it is not exposed to any significant credit risk related to its cash. The Company had two major vendors from which it sourced approximately 28 % and two major vendors from which it sourced approximately 34 %, respectively, of supplies for its electrotherapy products for the years ended December 31, 2022 and 2021. Management believes that its relationships with its suppliers are good. If the relationships were to be replaced, there may be a short-term disruption for a period of time in which products may not be available and additional expenses may be incurred as the Company locates additional or replacement suppliers. The Company had receivables from one third-party payer at December 31, 2022 which made up approximately 14 % of the accounts receivable balance. The Company had receivables from one third-party payer at December 31, 2021, which made up approximately 22 % of the accounts receivable balance. (15) RETIREMENT PLAN In 2012, the Company established a defined contribution retirement plan for its employees under section 401(k) of the Internal Revenue Code (the “401(k) Plan”) that is available to all employees 18 years of age or older with at least three months of service. All employee contributions are fully vested immediately and employer contributions vest over a period of four years . The Company has a discretionary employee match program and currently matches 35 % of first 6 % of an employee’s contributions. During the years ended December 31, 2022 and 2021, the Company recorded an expense of $ 0.7 million and $ 0.5 million, respectively, under the aforementioned plan, related to the Company match. F-27 Table of Contents (16) QUARTERLY FINANCIAL INFORMATION (UNAUDITED) Quarterly financial information is as follows (in thousands, except per share data): 2022 First Quarter Second Quarter Third Quarter Fourth Quarter Total Revenue $ 31,083 $ 36,759 $ 41,520 $ 48,805 L cost of revenue and operating expenses 29,177 32,395 34,962 38,695 Income from operations 1,906 4,364 6,558 10,110 Income before income taxes 1,982 4,149 6,352 9,715 Net income $ 1,377 $ 3,346 $ 4,873 $ 7,452 Net income per common sh Basic income per share - net income $ 0.03 $ 0.09 $ 0.13 $ 0.20 Diluted income per share - net income $ 0.03 $ 0.08 $ 0.13 $ 0.20 2021 First Quarter Second Quarter Third Quarter Fourth Quarter Total Revenue $ 24,127 $ 31,022 $ 34,785 $ 40,367 L cost of revenue and operating expenses 25,207 27,209 26,739 28,780 Income from operations ( 1,080 ) 3,813 8,046 11,587 Income before income taxes ( 1,087 ) 3,768 8,028 11,562 Net income $ ( 706 ) $ 2,808 $ 6,107 $ 8,894 Net income per common sh Basic income per share - net income $ ( 0.02 ) $ 0.07 $ 0.16 $ 0.24 Diluted income per share - net income $ ( 0.02 ) $ 0.07 $ 0.16 $ 0.23 (17) SUBSEQUENT EVENTS During February 2023, the Company entered into a lease agreement for approximately 41,427 square feet of office space for the operations of ZMS in Englewood, CO. The lease commences on July 1, 2023 and runs through December 31,2028. At the expiration of the lease term the Company has the option to renew the lease for one additional five year period. The Company is entitled to rent abatements for the first six months of the lease. Payments based on the initial rate of $ 24.75 per square foot begin in January 2024. The price per square foot increases by an additional $ 0.50 during each subsequent twelve-month period of the lease after the abatement period . (18) COVID -19 In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. During 2020 and 2021, the Company’s operations were impacted by closures of clinics and reductions in elective surgeries which decreased availability of physicians to prescribe our products. Additionally, the Company had to navigate the impacts it had on employee and supply chain issues. While the Company did not see a significant impact on its operating results or financial position during the year ended December 31, 2022 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. F-28 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end March 31, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 800 ) 495-6670 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Ticker Symbol Name of each exchange on which registered Common Stock, $0.001 par value per share ZYXI The Nasdaq Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☐ Non-accelerated filer ☒ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of April 27, 2023 Common Stock, par value $0.001 36,655,451 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of March 31, 2023 (unaudited) and December 31, 2022 3 Unaudited Condensed Consolidated Statements of Income for the three months ended March 31, 2023 and 2022 4 Unaudited Condensed Consolidated Statements of Cash Flows for the three months ended March 31, 2023 and 2022 5 Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the three months ended March 31, 2023 and 2022 6 Unaudited Notes to Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 21 Item 3. Quantitative and Qualitative Disclosures About Market Risk 24 Item 4. Controls and Procedures 24 PART II—OTHER INFORMATION 26 Item 1. Legal Proceedings 26 Item 1A. Risk Factors 26 Item 2. Unregistered Sales of Equity Securities And Use of Proceeds 26 Item 3. Defaults Upon Senior Securities 27 Item 4. Mine Safety Disclosures 27 Item 5. Other Information 27 Item 6. Exhibits 28 SIGNATURES 29 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES) March 31, December 31, 2023 2022 (unaudited) ASSETS Current assets: Cash $ 16,792 $ 20,144 Accounts receivable, net 32,060 35,063 Inventory, net 14,184 13,484 Prepaid expenses and other 2,130 868 Total current assets 65,166 69,559 Property and equipment, net 2,281 2,175 Operating lease asset 11,888 12,841 Finance lease asset 240 270 Deposits 683 591 Intangible assets, net of accumulated amortization 8,843 9,067 Goodwill 20,401 20,401 Deferred income taxes 1,554 1,562 Total assets $ 111,056 $ 116,466 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabiliti Accounts payable and accrued expenses 5,650 5,601 Cash dividends payable 16 16 Operating lease liability 2,003 2,476 Finance lease liability 127 128 Income taxes payable 2,015 1,995 Current portion of debt 5,333 5,333 Accrued payroll and related taxes 5,915 5,537 Total current liabilities 21,059 21,086 Long-term liabiliti Long-term portion of debt, less issuance costs 3,964 5,293 Contingent consideration 8,600 10,000 Operating lease liability 12,788 13,541 Finance lease liability 159 188 Total liabilities 46,570 50,108 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of March 31, 2023 and December 31, 2022 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,575,386 issued and 36,646,041 outstanding as of March 31, 2023 41,658,132 issued and 36,825,081 outstanding as of December 31, 2022 39 39 Additional paid-in capital 82,343 82,431 Treasury stock of 4,485,713 and 4,253,015 shares at March 31, 2023 and December 31, 2022, respectively, at cost ( 36,513 ) ( 33,160 ) Retained earnings 18,617 17,048 Total stockholders’ equity 64,486 66,358 Total liabilities and stockholders’ equity $ 111,056 $ 116,466 The accompanying notes are an integral part of these condensed consolidated financial statements 3 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended March 31, 2023 2022 NET REVENUE Devices $ 11,944 $ 6,725 Supplies 30,226 24,358 Total net revenue 42,170 31,083 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 9,269 6,921 Sales and marketing 21,227 14,424 General and administrative 11,390 7,832 Total costs of revenue and operating expenses 41,886 29,177 Income from operations 284 1,906 Other income (expense) Gain on sale of fixed assets 2 — Change in fair value of contingent consideration 1,400 200 Interest expense ( 84 ) ( 124 ) Other income, net 1,318 76 Income from operations before income taxes 1,602 1,982 Income tax expense 33 605 Net income $ 1,569 $ 1,377 Net income per sh Basic $ 0.04 $ 0.03 Diluted $ 0.04 $ 0.03 Weighted average basic shares outstanding 36,694 39,765 Weighted average diluted shares outstanding 37,442 41,188 The accompanying notes are an integral part of these condensed consolidated financial statements 4 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) For the Three Months Ended March 31, 2023 2022 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 1,569 $ 1,377 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation 615 500 Amortization 229 229 Non-cash reserve charges 408 ( 9 ) Stock-based compensation 307 589 Non-cash lease expense ( 272 ) 97 Benefit for deferred income taxes 8 ( 220 ) Gain on change in fair value of contingent consideration ( 1,400 ) ( 200 ) Gain on sale of fixed assets ( 2 ) — Change in operating assets and liabiliti Accounts receivable 2,596 787 Prepaid and other assets ( 1,262 ) ( 912 ) Accounts payable and other accrued expenses 369 2,583 Inventory ( 1,139 ) ( 3,067 ) Deposits ( 92 ) — Net cash provided by operating activities 1,934 1,754 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 184 ) ( 72 ) Proceeds on sale of fixed assets 10 — Net cash used in investing activities ( 174 ) ( 72 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 31 ) ( 28 ) Cash dividends paid — ( 3,613 ) Purchase of treasury stock ( 3,353 ) — Proceeds from the issuance of common stock on stock-based awards 27 3 Principal payments on long-term debt ( 1,333 ) ( 1,333 ) Taxes withheld and paid on employees’ equity awards ( 422 ) ( 76 ) Net cash used in financing activities ( 5,112 ) ( 5,047 ) Net decrease in cash ( 3,352 ) ( 3,365 ) Cash at beginning of period 20,144 42,612 Cash at end of period $ 16,792 $ 39,247 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 90 ) $ ( 89 ) Cash paid for rent $ ( 1,382 ) $ ( 995 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ — $ 211 Inventory transferred to property and equipment under lease $ 438 $ 339 Capital expenditures not yet paid $ 77 $ 56 The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2021 39,737,890 $ 41 $ 80,397 $ ( 6,513 ) $ — $ 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 39,776,816 41 80,913 ( 6,513 ) 1,377 75,818 Balance at December 31, 2022 36,825,081 $ 39 $ 82,431 $ ( 33,160 ) $ 17,048 $ 66,358 Exercised and vested stock-based awards 66,045 — 27 — — 27 Stock-based compensation expense — — 307 — — 307 Warrants exercised 10,000 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 22,387 ) — ( 422 ) — — ( 422 ) Purchase of treasury stock ( 232,698 ) — — ( 3,353 ) — ( 3,353 ) Net income — — — — 1,569 1,569 Balance at March 31, 2023 $ 36,646,041 $ 39 $ 82,343 $ ( 36,513 ) $ 18,617 $ 64,486 The accompanying notes are an integral part of these condensed consolidated financial statements. 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS NOTE (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of March 31, 2023, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100 % of Kestrel Labs, Inc. (”Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the three months ended March 31, 2023 and 2022, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. Unaudited Condensed Consolidated Financial Statements The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. Amounts as of December 31, 2022, are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of March 31, 2023 and the results of its operations and its cash flows for the periods presented. The results of operations for the three months ended March 31, 2023 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS NOTE (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying condensed consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying condensed consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, assumptions related to the valuation of contingent consideration, and valuation of long-lived assets and realizability of deferred tax assets. Accounts Receivable, Net The Company’s accounts receivable represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. The Company maintains a constraint for third-party payer refund requests, deductions and adjustments. The Company recorded an allowance for uncollectible accounts of $ 0.4 million during the three months ended March 31, 2023, which is included in the general and administrative section of the condensed consolidated statements of income. See Note 14 – Concentrations for discussion of significant customer accounts receivable balances. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing in the future. The Company utilized the simplified test for goodwill impairment. The amount recognized for impairment is equal to the difference between the carrying value and the asset’s fair value. The valuation methods used in the quantitative fair value assessment was a discounted cash flow method and required management to make certain assumptions and estimates regarding certain industry trends and future profitability of our reporting units. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when the performance obligation has been met and the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when the performance obligation has been met and the product has been transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. The following table provides a breakdown of disaggregated net revenues for the three months ended March 31, 2023 and 2022 related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606”), leases subject to ASC 842, and supplies (in thousands): For the Three Months March 31, 2023 2022 Device revenue Purchased $ 4,642 $ 2,188 Leased 7,302 4,537 Total device revenue 11,944 6,725 Supplies revenue 30,226 24,358 Total revenue $ 42,170 $ 31,083 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s condensed consolidated balance sheets. For additional information on the leases where the Company is the lessee, see Note 12- Leases. A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying condensed consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the Chief Operating Decision Makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. The Inflation Reduction Act (“IRA”) was enacted into law on August 16, 2022. Included in the IRA was a provision to implement a 15% corporate alternative minimum tax on corporations whose average annual adjusted financial statement income during the most recently completed three year period exceeds $1 billion. This provision is effective for tax years beginning after December 31, 2022. We are in the process of evaluating the provisions of the IRA, but we do not currently believe the IRA will have a material impact on our reported results, cash flows or financial position when it becomes effective. Recent Accounting Pronouncements Management has evaluated recently issued accounting pronouncements and does not believe that any of these pronouncements will have a material impact on the Company’s consolidated financial statements. 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS NOTE (3) INVENTORY The components of inventory as of March 31, 2023, and December 31, 2022 are as follows (in thousands): March 31, 2023 December 31, 2022 Raw materials $ 3,225 $ 3,506 Work-in-process 1,614 1,205 Finished goods 7,854 7,750 Inventory in transit 1,759 1,291 $ 14,452 $ 13,752 L reserve ( 268 ) ( 268 ) $ 14,184 $ 13,484 NOTE (4) PROPERTY AND EQUIPMENT The components of property and equipment as of March 31, 2023 and December 31, 2022 are as follows (in thousands): March 31, 2023 December 31, 2022 Property and equipment Office furniture and equipment $ 3,034 $ 2,819 Assembly equipment 138 110 Vehicles 203 203 Leasehold improvements 1,173 1,173 Leased devices 1,249 1,162 $ 5,797 $ 5,467 Less accumulated depreciation ( 3,516 ) ( 3,292 ) $ 2,281 $ 2,175 Total depreciation expense related to property and equipment was $ 0.2 million for the three months ended March 31, 2023 and 2022. Total depreciation expense related to devices out on lease was $ 0.4 million and $ 0.3 million for the three months ended March 31, 2023 and 2022, respectively. Depreciation on leased units is reflected in the condensed consolidated statement of operations as cost of revenue. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units of which are still with patients for which the Company cannot determine the current status. NOTE (5) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the ‘Selling Shareholders’). Under the Agreement, the Selling Shareholders sold all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,467,785 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 978,524 of the Zynex Shares were deposited in escrow (the “Escrow Shares”). The number of Escrow Shares were subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. The Escrow Shares were adjusted on the anniversary date, which resulted in the cancellation of 156,673 Escrow Shares. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon determination by the FDA that the Device can be marketed and sold in the United States. The amount of escrow shares were recalculated at March 31, 2022, and are included in the calculation of diluted earnings per share for March 31, 2022. No additional calculation was required for the Escrow Shares at March 31, 2023, as the Escrow 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Share number was finalized on the anniversary date, and the shares are included in the Company’s calculation of basic earnings per share. The maximum amount of Zynex Shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares of the Company (see Note 13 for more information regarding this liability). The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. NOTE (6) GOODWILL AND OTHER INTANGIBLE ASSETS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 5). For the three months ended March 31, 2023, there was no change in the carrying amount of goodwill, there were no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of March 31, 2023. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents at December 31, 2022 $ 10,000 $ ( 933 ) $ 9,067 10 Amortization expense ( 224 ) ( 224 ) Acquired patents at March 31, 2023 $ 10,000 $ ( 1,157 ) $ 8,843 9.73 The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2023, the next five fiscal years, and periods thereaf (In thousands) April 1, 2023 through December 31, 2023 $ 684 2024 911 2025 908 2026 908 2027 908 2028 911 Thereafter 3,613 Total future amortization expense $ 8,843 NOTE (7) EARNINGS PER SHARE Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period, calculated using the treasury-stock method for outstanding stock options. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The calculation of basic and diluted earnings per share for the three months ended March 31, 2023 and 2022 are as follows (in thousands, except per share data): For the Three Months Ended March 31, 2023 2022 Basic earnings per share Net income available to common stockholders $ 1,569 $ 1,377 Basic weighted-average shares outstanding 36,694 39,765 Basic earnings per share $ 0.04 $ 0.03 Diluted earnings per share Net income available to common stockholders $ 1,569 $ 1,377 Weighted-average shares outstanding 36,694 39,765 Effect of dilutive securities - options and restricted stock 748 1,423 Diluted weighted-average shares outstanding 37,442 41,188 Diluted earnings per share $ 0.04 $ 0.03 For the three months ended March 31, 2023 and 2022, 12,000 and 450,000 shares of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. NOTE (8) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). Interest on Facility 1 is due on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of March 31, 2023, the Company had not utilized this facility. The other facility being extended by the Bank to the Company is a fixed rate term loan in the amount of $ 16.0 million (“Facility 2”). Facility 2 was entered into and funded in conjunction with the purchase of Kestrel Labs. The interest rate is equal to 2.8 % per year. The Company must pay interest on the first day of each month which began January 1, 2022 and the Company also repays the principal amount in equal installments of $ 444,444 per month through December 1, 2024. The following table summarizes future principal payments on long-term debt as of March 31, 2023: March 31, (In thousands) April 1, 2023 through December 31, 2023 $ 4,000 2024 5,333 Future principal payments 9,333 Less current portion ( 5,333 ) Less debt issuance costs ( 36 ) Long-term debt, net of debt issuance costs $ 3,964 NOTE (9) STOCK-BASED COMPENSATION PLANS In June 2017, the Company’s stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5.5 million shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of the Company’s common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon grant and are not included in outstanding shares until such vesting and issuance occurs. 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS During the three months ended March 31, 2023 and 2022, no stock option awards were granted under the 2017 Stock Plan. At March 31, 2023, the Company had 0.6 million stock options outstanding and exercisable under the following pla Outstanding Exercisable Number of Options Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 211 211 2017 Stock Option Plan 356 355 Total 567 566 During the three months ended March 31, 2023, and 2022, 62,000 shares and 48,000 shares of restricted stock, respectively, were granted to management under the 2017 Stock Plan. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of the Company’s common stock on the date of grant. The vesting on the Restricted Stock Awards typically occurs quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. The following summarizes stock-based compensation expenses recorded in the condensed consolidated statements of operations (in thousands): For the Three Months Ended March 31, 2023 2022 Cost of Revenue $ 8 $ 15 Sales and marketing expense 61 59 General, and administrative 238 515 Total stock based compensation expense $ 307 $ 589 The Company received cash proceeds of $ 27,000 and $ 3,000 related to option exercises during the three months ended March 31, 2023 and 2022, respectively. A summary of stock option activity under all equity compensation plans for the three months ended March 31, 2023, is presented be Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2022 793 $ 2.67 5.03 $ 8,908 Granted — — Forfeited ( 206 ) 6.30 Exercised ( 20 ) 6.07 Outstanding at March 31, 2023 567 $ 1.24 3.32 $ 6,104 Exercisable at March 31, 2023 566 $ 1.22 3.31 $ 6,099 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS A summary of restricted stock award activity under all equity compensation plans for the three months ended March 31, 2023, is presented be Number of Weighted Shares Average (in thousands) Grant Date Fair Value Granted but not vested at December 31, 2022 431 $ 11.92 Granted 62 12.10 Forfeited ( 3 ) 14.51 Vested ( 46 ) 12.96 Granted but not vested at March 31, 2023 444 $ 11.82 As of March 31, 2023, the Company had approximately $ 4.5 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.39 years. NOTE (10) STOCKHOLDERS’ EQUITY Treasury Stock On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through October 4, 2022, the Company purchased 1,091,604 shares of its common stock for $ 10.0 million for an average price of $ 9.06 per share which completed this program. On October 31, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through October 31, 2023. From the inception of the plan through December 31, 2022, the Company purchased 495,138 shares of its common stock for $ 6.6 million or an average price of $ 13.43 per share. From the inception of the plan through March 31, 2023, the Company purchased 727,836 shares of its common stock for $ 10 million or an average price of $ 13.74 per share which completed this program. Warrants A summary of stock warrant activity for the three months ended March 31, 2023 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2022 99 $ 2.39 1.76 $ 1,140 Granted — $ — Exercised ( 8 ) $ 2.27 Forfeited ( 2 ) $ — Outstanding and exercisable at March 31, 2023 89 $ 2.41 1.52 $ 853 (1) Warrants were exercised under a net exercise provision in the warrant agreement. As a result, approximately 2,000 warrants were forfeited in lieu of cash payment for shares during the three months ended March 31, 2023. 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS NOTE (11) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits from stock option exercises and the tax impact of the change in fair value of contingent consideration. For the three months ended March 31, 2023 and 2022, discrete items adjusted were $ 1.5 million and $ 0.5 million, respectively. At March 31, 2023 and 2022, the Company is currently estimating an annual effective tax rate of approximately 24.5 % and 25.1 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 2 % and 30 % for the three months ended March 31, 2023 and 2022, respectively. The decrease in the Company’s effective income tax rate for the three months ended March 31, 2023 compared to the same period in 2022, primarily relate to the tax impact of discrete items. Discrete items recognized during the three months ended March 31, 2023 and 2022, resulted in a tax benefit of approximately $ 0.4 million and a tax expense of approximately $ 0.1 million, respectively. The Company recorded an income tax expense of $ 33,000 and a tax expense of $ 605,000 for the three months ended March 31, 2023 and 2022, respectively. No taxes were paid during the three months ended March 31, 2023 and 2022. NOTE (12) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.01 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.40 % which was used to measure its finance lease liability. The weighted average remaining lease term was 4.64 years and 2.42 years for operating and finance leases, respectively, as of March 31, 2023. As of March 31, 2023, the maturities of the Company’s future minimum lease payments were as follows (in thousands): Operating Lease Liability Finance Lease Liability April 1, 2023 through December 31, 2023 1,672 114 2024 3,571 116 2025 3,586 76 2026 3,362 15 2027 3,149 — 2028 1,064 — Total undiscounted future minimum lease payments $ 16,404 $ 321 L Difference between undiscounted lease payments and discounted lease liabiliti ( 1,613 ) ( 35 ) Total lease liabilities $ 14,791 $ 286 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The components of lease expenses were as follows: Three Months Ended March 31, 2023 2022 Lease Operating lease Total operating lease expense $ 1,121 $ 1,105 Finance lease Total amortization of leased assets 30 30 Interest on lease liabilities 7 10 Total net lease cost $ 1,158 $ 1,145 For the three months ended March 31, 2023 and 2022, $ 0.1 million of operating lease costs were incurred at the Company’s manufacturing and warehouse facility and were included in cost of sales. For the three months ended March 31, 2023 and 2022, $ 1.0 million of operating lease costs were included in selling, general and administrative expenses on the condensed consolidated statement of income. NOTE (13) FAIR VALUE MEASUREMENTS The Company measures the fair value of financial assets and liabilities based on the guidance of ASC 820 “Fair Value Measurements and Disclosures” (“ASC 820”) which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo model. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of March 31, 2023, by level within the fair value hierarc Fair Value Measurements at March 31, 2023 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable March 31, Assets Inputs Inputs 2023 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 8,600 $ — $ — $ 8,600 Total $ 8,600 $ — $ — $ 8,600 The following table sets forth a summary of changes in the contingent consideration for the three months ended March 31, 2023 (in thousands): Contingent Consideration Balance as of December 31, 2022 $ 10,000 Change in fair value of contingent consideration ( 1,400 ) Balance as of March 31, 2023 $ 8,600 NOTE (14) CONCENTRATIONS For the three months ended March 31, 2023, the Company sourced approximately 39 % of the components for its electrotherapy products from three significant vendors. For the three months ended March 31, 2022 the Company sourced approximately 30 % of components from two significant vendors. At March 31, 2023, the Company had receivables from one third-party payer that made up approximately 13 % of the net accounts receivable balance. At December 31, 2022, the Company had receivables from one third-party payer which made up approximately 14 % of the net accounts receivable balance. 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS NOTE (15) COMMITMENTS AND CONTINGENCIES See Note 12 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. NOTE (16) SUBSEQUENT EVENTS No subsequent events identified through April 27, 2023. 20 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2022. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2022 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which includes electrotherapy and pain management products. As of March 31, 2023, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. RESULTS OF OPERATIONS Summary Net revenue was $42.2 million and $31.1 million for the three months ended March 31, 2023 and 2022, respectively. Net revenue increased 36% for the three-month period ended March 31, 2023. The Company had net income of $1.6 million during the three months ended March 31, 2023 as compared with net income of $1.4 million during the three months ended March 31, 2022. Cash flows provided by operating activities increased $0.1 million to $1.9 million during the three months ended March 31, 2023 as compared with cash flows used in operating activities of $1.8 million during the three months ended March 31, 2022. Working capital was $44.1 and $48.5 million at March 31, 2023 and December 31, 2022, respectively. Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. 21 Table of Contents Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the condensed consolidated financial statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $11.1 million or 36% to $42.2 million for the three months ended March 31, 2023, from $31.1 million for the same period in 2022. The growth in net revenue is primarily related to the continued growth in device orders. In 2022, we saw annual order growth of 23% and additional order growth for the three months ended March 31, 2023 of 61%. Increased order growth has led to an increased customer base and drove higher sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our electrotherapy and complimentary products. Device revenue increased $5.2 million or 78% to $11.9 million for the three months ended March 31, 2023, from $6.7 million for the same period in 2022. The growth in device revenue is primarily related to an increase in orders of 61%. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our electrotherapy products. Supplies revenue increased $5.8 million or 24% to $30.2 million for the three months ended March 31, 2023, from $24.4 million for the same period in 2022. The increase in supplies revenue is primarily related to an increased customer base from increased device sales in 2023 and 2022. Operating Expenses Cost of Revenue – Device and Supply Cost of Revenue – device and supply consist primarily of device and supply costs, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended March 31, 2023 increased 34% to $9.3 million from $6.9 million for the three months ended March 31, 2022. The increase in cost of revenue is primarily due to increased revenue. As a percentage of revenue, cost of revenue – device and supply remained flat at 22% for the three months ended March 31, 2023 and 2022. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended March 31, 2023 increased 47% to $21.2 million from $14.4 million for the three months ended March 31, 2022. The increase in sales and marketing expense is primarily due to increased headcount and related salary and incentive compensation expenses. As a percentage of revenue, sales and marketing expense increased to 50% for the three months ended March 31, 2023 from 46% for the same period in 2022. The increase as a percentage of revenue is primarily due to the increased headcount and related salary and incentive compensation expenses, offset by an increase in revenue. General and Administrative Expense General and administrative expenses primarily consist of employee related costs, and other direct costs associated with these personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for 22 Table of Contents the three months ended March 31, 2023 increased 45% to $11.4 million from $7.8 million for the three months ended March 31, 2022. The increase in general and administrative expense is primarily due to increased head count within our billing department, increased professional and legal service expenses, a recorded allowance for uncollectible accounts, and increased headcount and research & development costs at ZMS. As a percentage of revenue, general and administrative expense increased to 27% for the three months ended March 31, 2023 from 25% for the same period in 2022. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by increased revenue. Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 2.5% and 30% for the three months ended March 31, 2023 and 2022, respectively. Discrete items, primarily related to tax benefits on change in fair value of contingent consideration and stock option exercises, of $0.4 million were recognized as a benefit against income tax expense for the three months ended March 31, 2023. Discrete items, primarily related to tax expense on stock option exercises of $0.1 million were recognized as a benefit against income tax expense for the three months ended March 31, 2022. For the three months ended March 31, 2023 and 2022 the Company has an income tax expense of approximately $33,000 and $605,000, respectively. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At March 31, 2023, our principal source of liquidity was $16.8 million in cash and $32.1 million in accounts receivable. Net cash provided by operating activities for the three months ended March 31, 2023 was $1.9 million compared with net cash provided by operating activities of $1.8 million for the three months ended March 31, 2022. The increase in cash used in operating activities for the three months ended March 31, 2023 was primarily due to an increase in net income. Net cash used in investing activities for each of the three months ended March 31, 2023 and 2022 was $0.2 and $0.1 million, respectively. Cash used in investing activities for the three months ended March 31, 2023 was primarily related to the purchase of property and equipment. Cash used in investing activities for the three months ended March 31, 2022 was primarily related to the purchase office furniture and equipment and leasehold improvements at our corporate headquarters. Net cash used in financing activities for the three months ended March 31, 2023 was $5.1 million compared with net cash used in financing activities of $5.0 million for the same period in 2022. Cash used in financing activities for the three months ended March 31, 2023 was primarily due to the repurchase of our common stock of $3.4 million and principal payments on notes payable of $1.3 million. Cash used in financing activities for the three months ended March 31, 2022 was primarily due to the payment of a $0.10 dividend to common shareholders totaling $3.6 million, and principal payments on notes payable of $1.3 million. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash balance at March 31, 2023 of $16.8 million; ● Our working capital balance of $44.1 million; and ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the consolidated financial statements located within our Annual Report on Form 10-K for the year ended December 31, 2022, filed with the Securities and Exchange Commission on March 14, 2023. 23 Table of Contents RISKS AND UNCERTAINTIES In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. While the Company did not incur significant disruptions to its operations during the three months ended March 31, 2023 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Evaluation of disclosure controls and procedures Our management, including our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934), as amended, or the Exchange Act, as of March 31, 2023. Based on management’s review, with participation of our Chief Executive Officer and Chief Financial Officer, the Chief Executive Officer and Chief Financial Officer have concluded that, as of the quarter ended March 31, 2023, our disclosure controls and procedures were not effective due to the material weakness in internal control over financial reporting as described below. Material Weakness in Internal Control We identified a material weakness related to Information Technology General Controls (ITGCs) that were not designed and operating effectively to ensure (i) appropriate segregation of duties was in place to perform program changes and (ii) the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted. The material weakness identified above did not result in any material misstatements in our financial statements or disclosures, and there were no changes to previously released financial results. Our management concluded that the consolidated financial statements included in the Annual Report on Form 10-K, present fairly, in all material respects, our financial position, results of operations, and cash flows for the periods presented in accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP. The effectiveness of our internal control over financial reporting as of December 31, 2022, has been audited by Marcum LLP as stated in their report, which is included in Item 8 of the Annual Report on Form 10-K. Remediation Plan Our management is committed to maintaining a strong internal control environment. In response to the identified material weakness above, management will take comprehensive actions to remediate the material weakness in internal control over financial reporting. We are in the process of developing and implementing remediation plans to address the material weakness described above. Changes in Internal Control over Financial Reporting Except for the items referred to above, there were no changes in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the quarter ended March 31, 2023 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting. Inherent Limitation on the Effectiveness of Internal Control Our management, including our Chief Executive Officer and Chief Financial Officer, do not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system will be met. 24 Table of Contents Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by management override of the controls. The design of any system of controls is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with policies or procedures may deteriorate. Due to inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. 25 Table of Contents PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS Other than the additional risk factor disclosed below, there are no other material changes from the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022 filed with the SEC on March 14, 2023. Adverse developments affecting the financial services industry, including events or concerns involving liquidity, defaults or non-performance by financial institutions or transactional counterparties, could adversely affect our business, financial condition or results of operations. Events involving limited liquidity, defaults, non-performance or other adverse developments that affect financial institutions, transactional counterparties or other companies in the financial services industry or the financial services industry generally, or concerns or rumors about any events of these kinds or other similar risks, have in the past and may in the future lead to market-wide liquidity problems. Most recently, on March 10, 2023, Silicon Valley Bank (“SVB”) was closed by the California Department of Financial Protection and Innovation, which appointed the Federal Deposit Insurance Corporation (“FDIC”) as receiver. Similarly, on March 12, 2023, Signature Bank and Silvergate Capital Corp. were each swept into receivership. Although we assess our banking and customer relationships as we believe necessary or appropriate, our access to funding sources and other credit arrangements in amounts adequate to finance or capitalize our current and projected future business operations could be significantly impacted. In addition, investor concerns regarding the U.S. or international financial systems could result in less favorable commercial financing terms, including higher interest rates or costs and tighter financial and operating covenants, or systemic limitations on access to credit and liquidity sources, thereby making it more difficult for us to acquire financing on acceptable terms or at all. Any decline in available funding or access to our cash and liquidity resources could, among other risks, adversely impact our ability to meet our operating expenses, financial obligations or fulfill our other obligations, result in breaches of our contractual obligations or result in violations of federal or state wage and hour laws. Any of these impacts, or any other impacts resulting from the factors described above or other related or similar factors not described above, could have material adverse impacts on our liquidity and our business, financial condition or results of operations. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities 26 Table of Contents Total Number of In Thousands Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan January 1 - January 31, 2023 Share repurchase program (1) 116,000 $ 15.66 611,138 1,536 February 1 - February 28, 2023 Share repurchase program (1) 116,698 $ 13.16 727,836 — March 1 - March 31, 2023 Share repurchase program (1) — $ — 727,836 — Quarter Total Share repurchase program (1) 232,698 $ 14.41 727,836 — (1) Shares were purchased through the Company’s publicly announced share repurchase program approved by the Company’s Board of Directors on October 31, 2022. The program was fully utilized during the Company’s first quarter. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION None 27 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 32.1** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 101.INS* XBRL Instance Document. 101.SCH* XBRL Taxonomy Extension Schema Document. 101.CAL* XBRL Taxonomy Calculation Linkbase Document. 101.LAB * XBRL Taxonomy Label Linkbase Document. 101.PRE * XBRL Presentation Linkbase Document. 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document. 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith ** Furnished herewith 28 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat April 27, 2023 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 29 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end June 30, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 303 ) 703-4906 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol Name of each exchange on which registered Common Stock, par value $0.001 per share ZYXI NASDAQ Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☒ Non-accelerated filer ☐ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of July 26, 2023 Common Stock, par value $0.001 35,925,522 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of June 30, 2023 (unaudited) and December 31, 2022 3 Unaudited Condensed Consolidated Statements of Income for the three and six months ended June 30, 2023 and 2022 4 Unaudited Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2023 and 2022 5 Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the three and six months ended June 30, 2023 and 2022 6 Unaudited Notes to Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 22 Item 3. Quantitative and Qualitative Disclosures About Market Risk 26 Item 4. Controls and Procedures 26 PART II—OTHER INFORMATION 28 Item 1. Legal Proceedings 28 Item 1A. Risk Factors 28 Item 2. Unregistered Sales of Equity Securities And Use of Proceeds 28 Item 3. Defaults Upon Senior Securities 28 Item 4. Mine Safety Disclosures 28 Item 5. Other Information 28 Item 6. Exhibits 29 SIGNATURES 30 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES) June 30, 2023 December 31, (unaudited) 2022 ASSETS Current assets: Cash $ 58,749 $ 20,144 Accounts receivable, net 32,957 35,063 Inventory, net 14,325 13,484 Prepaid expenses and other 1,529 868 Total current assets 107,560 69,559 Property and equipment, net 2,373 2,175 Operating lease asset 10,923 12,841 Finance lease asset 211 270 Deposits 683 591 Intangible assets, net of accumulated amortization 8,616 9,067 Goodwill 20,401 20,401 Deferred income taxes 1,802 1,562 Total assets $ 152,569 $ 116,466 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabiliti Accounts payable and accrued expenses 5,930 5,601 Cash dividends payable 14 16 Operating lease liability 1,921 2,476 Finance lease liability 122 128 Income taxes payable — 1,995 Current portion of debt — 5,333 Accrued payroll and related taxes 6,108 5,537 Total current liabilities 14,095 21,086 Long-term liabiliti Long-term portion of debt, less issuance costs — 5,293 Convertible senior notes, less issuance costs 57,155 — Contingent consideration 6,900 10,000 Operating lease liability 12,020 13,541 Finance lease liability 132 188 Total liabilities 90,302 50,108 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of June 30, 2023 and December 31, 2022 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,639,575 issued and 36,014,243 outstanding as of June 30, 2023 41,658,132 issued and 36,825,081 outstanding as of December 31, 2022 36 39 Additional paid-in capital 82,888 82,431 Treasury stock of 5,151,913 and 4,253,015 shares at June 30, 2023 and December 31, 2022, respectively, at cost ( 42,628 ) ( 33,160 ) Retained earnings 21,971 17,048 Total stockholders’ equity 62,267 66,358 Total liabilities and stockholders’ equity $ 152,569 $ 116,466 The accompanying notes are an integral part of these condensed consolidated financial statements. 3 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended June 30, For the Six Months Ended June 30, 2023 2022 2023 2022 NET REVENUE Devices $ 13,743 $ 9,505 $ 25,687 $ 16,230 Supplies 31,209 27,254 61,435 51,612 Total net revenue 44,952 36,759 87,122 67,842 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 9,272 7,305 18,541 14,226 Sales and marketing 21,609 16,314 42,836 30,738 General and administrative 11,358 8,776 22,748 16,608 Total costs of revenue and operating expenses 42,239 32,395 84,125 61,572 Income from operations 2,713 4,364 2,997 6,270 Other income (expense) Gain on sale of fixed assets — — 2 — Gain (loss) on change in fair value of contingent consideration 1,700 ( 100 ) 3,100 100 Interest expense, net ( 317 ) ( 115 ) ( 401 ) ( 239 ) Other income (expense), net 1,383 ( 215 ) 2,701 ( 139 ) Income from operations before income taxes 4,096 4,149 5,698 6,131 Income tax expense 742 803 775 1,408 Net income $ 3,354 $ 3,346 $ 4,923 $ 4,723 Net income per sh Basic $ 0.09 $ 0.09 $ 0.13 $ 0.12 Diluted $ 0.09 $ 0.08 $ 0.13 $ 0.12 Weighted average basic shares outstanding 36,435 38,851 36,564 39,305 Weighted average diluted shares outstanding 37,061 39,893 37,249 40,367 The accompanying notes are an integral part of these condensed consolidated financial statements. 4 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) For the Six Months Ended June 30, 2023 2022 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 4,923 $ 4,723 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation 1,311 1,025 Amortization 620 461 Non-cash reserve charges ( 91 ) ( 9 ) Stock-based compensation 967 1,124 Non-cash lease expense ( 158 ) 237 Benefit for deferred income taxes ( 240 ) ( 392 ) Gain on change in fair value of contingent consideration ( 3,100 ) ( 100 ) Gain on sale of fixed assets ( 2 ) — Change in operating assets and liabiliti Accounts receivable 2,106 808 Prepaid and other assets ( 661 ) ( 669 ) Accounts payable and other accrued expenses ( 1,172 ) ( 1,020 ) Inventory ( 1,736 ) ( 4,604 ) Deposits ( 92 ) ( 6 ) Net cash provided by operating activities 2,675 1,578 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 394 ) ( 212 ) Proceeds on sale of fixed assets 10 — Net cash used in investing activities ( 384 ) ( 212 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 62 ) ( 58 ) Cash dividends paid ( 1 ) ( 3,613 ) Purchase of treasury stock ( 9,468 ) ( 10,655 ) Proceeds from issuance of convertible senior notes, net of issuance costs 57,026 — Proceeds from the issuance of common stock on stock-based awards 32 14 Principal payments on long-term debt ( 10,667 ) ( 2,667 ) Taxes withheld and paid on employees’ equity awards ( 546 ) ( 122 ) Net cash provided by (used in) financing activities 36,314 ( 17,101 ) Net increase (decrease) in cash 38,605 ( 15,735 ) Cash at beginning of period 20,144 42,612 Cash at end of period $ 58,749 $ 26,877 Supplemental disclosure of cash flow informati Cash paid on interest, net $ ( 260 ) $ ( 208 ) Cash paid for rent $ ( 2,378 ) $ ( 1,965 ) Cash paid for income taxes $ ( 2,985 ) ( 3,926 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ — $ 211 Vesting of restricted stock awards $ ( 3 ) $ — Inventory transferred to property and equipment under lease $ 894 $ 788 Capital expenditures not yet paid $ 78 $ 48 Non-cash dividend adjustment $ ( 1 ) $ — The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2021 39,737,890 41 80,397 ( 6,513 ) — 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 39,776,816 $ 41 80,913 $ ( 6,513 ) $ 1,377 $ 75,818 Exercised and vested stock-based awards 178,727 1 11 — — 12 Stock-based compensation expense — — 535 — — 535 Shares of common stock withheld to pay taxes on employees’ equity awards ( 47,603 ) — ( 47 ) — — ( 47 ) Purchase of treasury stock ( 1,504,374 ) ( 2 ) — ( 10,653 ) — ( 10,655 ) Net income — — — — 3,346 3,346 Balance at June 30, 2022 38,403,566 $ 40 $ 81,412 $ ( 17,166 ) $ 4,723 $ 69,009 Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2022 36,825,081 39 82,431 ( 33,160 ) 17,048 66,358 Exercised and vested stock-based awards 66,045 — 27 — — 27 Stock-based compensation expense — — 307 — — 307 Warrants exercised 10,000 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 22,387 ) — ( 422 ) — — ( 422 ) Purchase of treasury stock ( 232,698 ) — — ( 3,353 ) — ( 3,353 ) Net income — — — — 1,569 1,569 Balance at March 31, 2023 36,646,041 $ 39 $ 82,343 $ ( 36,513 ) $ 18,617 $ 64,486 Exercised and vested stock-based awards 45,626 — 9 — — 9 Stock-based compensation expense — — 660 — — 660 Shares of common stock withheld to pay taxes on employees’ equity awards ( 11,224 ) ( 3 ) ( 124 ) — — ( 127 ) Purchase of treasury stock ( 666,200 ) — — ( 6,115 ) — ( 6,115 ) Net income — — — — 3,354 3,354 Balance at June 30, 2023 36,014,243 $ 36 $ 82,888 $ ( 42,628 ) $ 21,971 $ 62,267 The accompanying notes are an integral part of these condensed consolidated financial statements. 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of June 30, 2023, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100 % of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the six months ended June 30, 2023 and 2022, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. Unaudited Condensed Consolidated Financial Statements The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. Amounts as of December 31, 2022, are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of June 30, 2023 and the results of its operations and its cash flows for the periods presented. The results of operations for the six months ended June 30, 2023 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying condensed consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying condensed consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, assumptions related to the valuation of contingent consideration, and valuation of long-lived assets and realizability of deferred tax assets. Accounts Receivable, Net The Company’s accounts receivable represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. The Company maintains a constraint for third-party payer refund requests, deductions and adjustments. See Note 15 – Concentrations for discussion of significant customer accounts receivable balances. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Useful lives of finite-lived intangible assets by each asset category are summarized be 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Estimated Useful Lives in years Patents 11 Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing in the future. The Company utilized the simplified test for goodwill impairment. The amount recognized for impairment is equal to the difference between the carrying value and the asset’s fair value. The valuation methods used in the quantitative fair value assessment was a discounted cash flow method and required management to make certain assumptions and estimates regarding certain industry trends and future profitability of our reporting units. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when the performance obligation has been met and the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when the performance obligation has been met and the product has been transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. The following table provides a breakdown of disaggregated net revenues for the three and six months ended June 30, 2023 and 2022 related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606”), leases subject to ASC 842 – “Leases” (“ASC 842”), and supplies (in thousands): For the Three Months Ended June 30, For the Six Months Ended June 30, 2023 2022 2023 2022 Device revenue Purchased $ 4,781 $ 2,268 $ 9,422 $ 4,457 Leased 8,962 7,237 16,265 11,773 Total device revenue $ 13,743 $ 9,505 $ 25,687 $ 16,230 Supplies revenue 31,209 27,254 61,435 51,612 Total revenue $ 44,952 $ 36,759 $ 87,122 $ 67,842 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s condensed consolidated balance sheets. For additional information on the leases where the Company is the lessee, see Note 13- Leases. A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying condensed consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision-Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. The Inflation Reduction Act (“IRA”) was enacted into law on August 16, 2022. Included in the IRA was a provision to implement a 15% corporate alternative minimum tax on corporations whose average annual adjusted financial statement income during the most recently completed three year period exceeds $1 billion. This provision is effective for tax years beginning after December 31, 2022. We are in the process of evaluating the provisions of the IRA, but we do not currently believe the IRA will have a material impact on our reported results, cash flows or financial position when it becomes effective. Recent Accounting Pronouncements Management has evaluated recently issued accounting pronouncements and does not believe that any of these pronouncements will have a material impact on the Company’s consolidated financial statements. 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (3) INVENTORY The components of inventory are as follows (in thousands): June 30, 2023 December 31, 2022 Raw materials $ 3,998 $ 3,506 Work-in-process 785 1,205 Finished goods 7,724 7,750 Inventory in transit 2,086 1,291 $ 14,593 $ 13,752 L reserve ( 268 ) ( 268 ) $ 14,325 $ 13,484 (4) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): June 30, 2023 December 31, 2022 Property and equipment Office furniture and equipment $ 3,105 $ 2,819 Assembly equipment 141 110 Vehicles 203 203 Leasehold improvements 1,173 1,173 Leased devices 1,289 1,162 Capital projects 137 — $ 6,048 $ 5,467 Less accumulated depreciation ( 3,675 ) ( 3,292 ) $ 2,373 $ 2,175 Total depreciation expense related to our property and equipment was $ 0.2 million for the three months ended June 30, 2023 and 2022. Depreciation expense for the six month periods ended June 30, 2023 and 2022 was $ 0.4 million. Total depreciation expense related to devices out on lease was $ 0.5 million and $ 0.4 million for the three months ended June 30, 2023 and 2022, respectively. Depreciation expense related to devices out on lease was $ 0.9 million and $ 0.7 million for the six months ended June 30, 2023 and 2022, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units which are still with patients for which the Company cannot determine the current status. (5) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the “Selling Shareholders”). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,467,785 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares were subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 978,524 of the Zynex Shares were deposited in escrow (the “Escrow Shares”). The number of Escrow Shares were subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. The Escrow Shares were adjusted on the anniversary date, which resulted in the cancellation of 156,673 Escrow Shares. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS the Device in the United States. The other half of the Escrow Shares will be released upon determination by the FDA that the Device can be marketed and sold in the United States. The amount of escrow shares were recalculated at June 30, 2022, and are included in the calculation of diluted earnings per share for June 30, 2022. No additional calculation was required for the Escrow Shares at June 30, 2023, as the Escrow Share number was finalized on the anniversary date, and the shares are included in the Company’s calculation of basic earnings per share. The maximum amount of Zynex Shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares of the Company (see Note 14 - Fair Value Measurements for more information regarding this liability). The acquisition of Kestrel has been accounted for as a business combination under ASC 805 – “Business Combinations” (“ASC 805”). Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. (6) GOODWILL AND OTHER INTANGIBLE ASSETS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 5 – Business Combinations). As of June 30, 2023, there was no change in the carrying amount of goodwill, and there were no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of June 30, 2023. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents at December 31, 2022 $ 10,000 $ ( 933 ) $ 9,067 10.00 Amortization expense ( 451 ) ( 451 ) Acquired patents at June 30, 2023 $ 10,000 $ ( 1,384 ) $ 8,616 9.48 The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2023, next five fiscal years, and periods thereaf (In thousands) July 1, 2023 through December 31, 2023 458 2024 911 2025 908 2026 908 2027 908 Thereafter 4,523 Total future amortization expense $ 8,616 (7) EARNINGS PER SHARE Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period. Dilution resulting from stock-based compensation plans is determined using the treasury stock method and dilution resulting from the 2023 Convertible Senior Notes is determined using the if-converted method. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The calculation of basic and diluted earnings per share for the three and six months ended June 30, 2023 and 2022 are as follows (in thousands, except per share data): For the Three Months Ended June 30, For the Six Months Ended June 30, 2023 2022 2023 2022 Basic earnings per share Net income $ 3,354 $ 3,346 $ 4,923 $ 4,723 Basic weighted average shares outstanding 36,435 38,851 36,564 39,305 Basic earnings per share $ 0.09 0.09 0.13 0.12 Diluted earnings per share Net income $ 3,354 3,346 4,923 4,723 Weighted average shares outstanding 36,435 38,851 36,564 39,305 Effect of dilutive securities - options and restricted stock 626 1,042 685 1,062 Diluted weighted-average shares outstanding 37,061 39,893 37,249 40,367 Diluted earnings per share $ 0.09 0.08 $ 0.13 $ 0.12 For the three and six months ended June 30, 2023, equity grants of 39,000 and 21,000 shares of common stock, respectively, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. For the three and six months ended June 30, 2022, equity grants of 293,000 and 341,000 shares of common stock, respectively, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. For three and six months ended June 30, 2023, conversion options to purchase 3.2 million and 1.6 million shares, respectively, resulting from the 2023 Convertible Senior Notes, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive (see Note 9 – Convertible Senior Notes). (8) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets were pledged as collateral. One facility was a line of credit in the amount of $ 4.0 million available until December 1, 2024 (the “Facility 1”). Interest on Facility 1 was due on the first day of each month beginning January 1, 2022. The interest rate was an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . The Company did not utilize the facility during the three and six months ended June 30, 2023 and June 30, 2022. During May 2023, the facility was terminated. The other facility extended by the Bank to the Company was a fixed rate term loan in the amount of up to $ 16.0 million (the “Facility 2”). Facility 2 was entered into and funded in conjunction with the purchase of Kestrel Labs at an interest rate equal to 2.8 % per year. The Company had to pay interest on the first day of each month which began January 1, 2022 and the Company also repaid the principal amount in equal installments of $ 444,444 per month. All unpaid interest and principal on Facility 2 was fully paid off and the Facility was terminated during May 2023. (9) CONVERTIBLE SENIOR NOTES In May 2023, the Company issued $ 52.5 million aggregate principal amount of 5.00 % Convertible Senior Notes due May 15, 2026 (the “2023 Convertible Senior Notes”). In May 2023, the Company issued an additional $ 7.5 million aggregate principal amount of the 2023 Convertible Senior Notes upon the exercise by the initial purchasers of their over-allotment option. Interest on the 2023 Convertible Senior Notes is payable semiannually in arrears, beginning November 15, 2023. The 2023 Convertible Senior Notes will mature on May 15, 2026, unless earlier converted or repurchased, and are redeemable at the option of the Company on or after May 20, 2025. The 2023 Convertible Senior Notes are direct, unsecured, and unsubordinated obligations of the Company, ranking equally with all of the Company’s other unsecured and unsubordinated indebtedness from time to time outstanding, and are effectively subordinated to all secured indebtedness of the Company. 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Holders may convert their 2023 Convertible Senior Notes at their option prior to the close of business on the business day preceding September 30, 2023, but only under the following circumstanc during any calendar quarter (and only during such calendar quarter), if the last reported sale price of the Company’s common stock for at least twenty trading days (whether or not consecutive) during the period of thirty consecutive trading days ending on, and including, the last trading day of the immediately preceding calendar quarter is greater than or equal to 130 % of the conversion price on each applicable trading day as determined by the Company; during the five business day period after any ten consecutive trading day period (the “Measurement Period”) in which the trading price per $ 1,000 principal amount of 2023 Convertible Senior Notes for each trading day of the Measurement Period was less than 98 % of the product of the last reported sale price of the common stock and the conversion rate on each such trading day; or upon the occurrence of certain corporate events specified in the indenture governing the 2023 Convertible Senior Notes. On or after February 15, 2026, a holder may convert all or any portion of its 2023 Convertible Senior Notes at any time prior to the close of business on the second scheduled trading day immediately preceding the maturity date regardless of the foregoing conditions. The Company will settle conversions of the 2023 Convertible Senior Notes by paying cash up to the aggregate principal amount of the 2023 Convertible Senior Notes to be converted and paying or delivering, as the case may be, cash, shares of common stock or a combination of cash and shares of common stock, at the Company’s election, in respect of the remainder, if any, of the Company's conversion obligation in excess of the aggregate principal amount of the 2023 Convertible Senior Notes being converted. The 2023 Convertible Senior Notes are initially convertible at a rate of 92.8031 shares of common stock per $ 1,000 principal amount converted, which is approximately equal to $ 10.78 per share of common stock. The conversion rate will be subject to adjustment upon the occurrence of certain specified events but will not be adjusted for accrued and unpaid interest. In addition, upon the occurrence of a make-whole fundamental change, which includes certain change in control transactions, the approval by Zynex’s stockholders of any plan or proposal for the liquidation or dissolution of Zynex and certain de-listing events with respect to Zynex’s common stock, the Company will, in certain circumstances, increase the conversion rate by a number of additional shares of common stock for conversions in connection with the make-whole fundamental change. Upon the occurrence of a fundamental change, holders of the 2023 Convertible Senior Notes may require the Company to purchase all or a portion of their 2023 Convertible Senior Notes, in principal amounts equal to $ 1,000 or an integral multiple thereof, for cash at a price equal to 100 % of the principal amount of the 2023 Convertible Senior Notes to be purchased plus any accrued and unpaid interest. The following table summarizes the minimum interest payments over the remainder of 2023 and next three fiscal years until maturity in May 2026. (In thousands) July 1, 2023 through December 31, 2023 $ 1,592 2024 3,050 2025 3,042 2026 1,508 (10) STOCK-BASED COMPENSATION PLANS In June 2017, our stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5,500,000 shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of our common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon grant and are not included in outstanding shares until such vesting and issuance occurs. 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS During the three and six months ended June 30, 2023, no stock option awards were granted under the 2017 Stock Plan. During the three and six months ended June 30, 2022, 200,000 stock option awards were granted under the 2017 Stock Plan. At June 30, 2023, the company had 0.6 million stock options outstanding and 0.6 million exercisable under the following pla Outstanding Exercisable Number of Options Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 211 211 2017 Stock Option Plan 351 350 Total 562 561 During the three and six months ended June 30, 2023, 72,000 and 134,000 shares of restricted stock were granted under the 2017 Stock Plan, respectively. During the three and six months ended June 30, 2022, 45,000 and 93,000 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on restricted stock awards typically occur quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. The following summarizes stock-based compensation expenses recorded in the condensed consolidated statements of income (in thousands): For the Three Months Ended June 30, For the Six Months Ended June 30, 2023 2022 2023 2022 Cost of Revenue $ 7 $ 12 $ 15 $ 27 Sales and marketing expense 69 55 130 114 General, and administrative 584 468 822 983 Total stock based compensation expense $ 660 $ 535 $ 967 $ 1,124 The Company received proceeds of $ 0.1 million related to option exercises during the three and six months ended June 30, 2023. The Company received proceeds of $ 0.1 million related to option exercises during each of the three and six months ended June 30, 2022. No stock option awards were granted by the Company during the three and six months ended June 30, 2023. A summary of stock option activity under all equity compensation plans for the six months ended June 30, 2023, is presented be Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2022 793 $ 2.67 5.03 $ 8,908 Granted — $ — Forfeited ( 206 ) $ 6.30 Exercised ( 25 ) $ 5.38 Outstanding at June 30, 2023 562 $ 1.23 3.05 $ 4,701 Exercisable at June 30, 2023 561 $ 1.21 3.04 $ 4,699 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS A summary of restricted stock award activity under all equity compensation plans for the six months ended June 30, 2023, is presented be Number of Shares Weighted Average (in thousands) Grant Date Fair Value Granted but not vested at December 31, 2022 431 $ 11.92 Granted 134 10.81 Forfeited ( 4 ) 12.65 Vested ( 88 ) 12.14 Granted but not vested at June 30, 2023 473 $ 11.56 As of June 30, 2023, the Company had approximately $ 4.5 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.3 years. (11) STOCKHOLDERS’ EQUITY Treasury Stock On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through October 4, 2022, the Company purchased 1,091,604 shares of its common stock for $ 10.0 million for an average price of $ 9.06 per share which completed this program. On October 31, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through October 31, 2023. From the inception of the plan through December 31, 2022, the Company purchased 495,138 shares of its common stock for $ 6.6 million or an average price of $ 13.43 per share. From the inception of the plan through March 31, 2023, the Company purchased 727,836 shares of its common stock for $ 10 million or an average price of $ 13.74 per share which completed this program. On May 10, 2023, the disinterested members of the Board of Directors and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on May 10, 2023 of $ 9.61 per share for $ 2.9 million. See Note 17 - Related Parties for additional information. On June 13, 2023, the disinterested members of the Board of Directors and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on June 13, 2023, of $ 8.62 per share for $ 2.6 million. See Note 17 - Related Parties for additional information. On June 13, 2023, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 13, 2024. From the inception of the plan through June 30 2023, the Company purchased 66,200 shares of its common stock for $ 0.6 million or an average price of $ 9.76 per share. 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Warrants A summary of stock warrant activity for the six months ended June 30, 2023 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2022 99 $ 2.39 1.76 $ 1,140 Granted — $ — Exercised ( 8 ) $ 2.27 Forfeited ( 2 ) $ — Outstanding and exercisable at June 30, 2023 89 $ 2.41 1.27 $ 639 (12) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits from stock option exercises and the tax impact of the change in fair value of contingent consideration. For the three months ended June 30, 2023 and 2022 discrete items adjusted were ($ 1.6 ) million and ($ 0.9 ) million, respectively. For the six months ended June 30, 2023 and 2022 discrete items adjusted were ($ 3.1 ) million and ($ 0.4 ) million, respectively. At June 30, 2023 and 2022, the Company is estimating an annual effective tax rate of approximately 27 % and 25 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 14 % and 23 % for the six months ended June 30, 2023 and 2022, respectively. The decrease in the Company’s effective income tax rate for the six months ended June 30, 2023 compared to the same period in 2022, primarily relate to the tax impact of discrete items, in particular the change in fair value of contingent consideration recorded during the current quarter which is not expected to be taxable. The Company recorded income tax expense of $ 0.7 million and $ 0.8 million for the three and six months ended June 30, 2023, respectively, and income tax expense of $ 0.8 million and $ 1.4 million for the three and six months ended June 30, 2022, respectively. Taxes of $ 3.0 million and $ 3.9 million were paid during the six months ended June 30, 2023 and 2022, respectively. (13) LEASES The Company categorizes leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During February 2023, the Company entered into a lease agreement for approximately 41,427 square feet of office space for the operations of ZMS in Englewood, CO. The lease commences on July 1, 2023 and runs through December 31, 2028. At the expiration of the lease term the Company has the option to renew the lease for one additional five year period. The Company is entitled to rent abatements for the first six months of the lease and tenant improvement allowances. Payments based on the initial rate of $ 24.75 per square foot begin in January 2024. The price per square foot increases by an additional $ 0.50 during each subsequent twelve-month period of the lease after the abatement period. The Company anticipates the recognition of a lease liability of $ 4.2 million related to the lease during the Company’s third quarter of 2023, which is excluded from the future minimum lease payments table below. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 3.99 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.40 % which was used to measure its finance lease liability. The weighted average remaining lease term was 4.55 years and 2.23 years for operating and finance leases, respectively, as of June 30, 2023. 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS As of June 30, 2023, the maturities of the Company’s future minimum lease payments were as follows (in thousands): Operating Lease Liability Finance Lease Liability July 1, 2023 through December 31, 2023 $ 677 $ 76 2024 3,571 116 2025 3,586 76 2026 3,362 15 2027 3,150 — 2028 1,064 — Total undiscounted future minimum lease payments $ 15,410 $ 283 L difference between undiscounted lease payments and discounted lease liabiliti ( 1,469 ) ( 29 ) Total lease liabilities $ 13,941 $ 254 The components of lease expenses were as follows: Three Months Ended Six Months Ended June 30, June 30, 2023 2022 2023 2022 Lease Operating lease Total operating lease expense $ 1,121 $ 1,113 $ 2,242 $ 2,219 Finance lease Total amortization of leased assets 29 29 59 59 Interest on lease liabilities 7 9 14 19 Total net lease cost $ 1,157 $ 1,151 $ 2,315 $ 2,297 For the three months ended June 30, 2023 and 2022, $ 0.1 million and $ 0.2 million, respectively, of operating lease costs were incurred at the Company’s manufacturing and warehouse facility and were included in cost of sales. For the three and six months ended June 30, 2023 and 2022, $ 1.0 million and $ 2.0 million, respectively, of operating lease costs were included in selling, general and administrative expenses on the condensed consolidated statement of income. (14) FAIR VALUE MEASUREMENTS The Company measures the fair value of financial assets and liabilities based on the guidance of ASC 820 “Fair Value Measurements and Disclosures” (“ASC 820”) which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo model. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of June 30, 2023, by level within the fair value hierarc Fair Value Measurements at June 30, 2023 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable June 30, Assets Inputs Inputs 2023 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 6,900 $ — $ — $ 6,900 Total $ 6,900 $ — $ — $ 6,900 The following table sets forth a summary of changes in the contingent consideration for the three months ended June 30, 2023 (in thousands): Contingent Consideration Balance as of December 31, 2022 $ 10,000 Change in fair value of contingent consideration ( 3,100 ) Balance as of June 30, 2023 $ 6,900 (15) CONCENTRATIONS For the three months ended June 30, 2023, the Company sourced approximately 24 % of the supplies for its electrotherapy products from two significant vendors. For the same period in 2022, the Company sourced approximately 58 % of the supplies for its electrotherapy products from four significant vendors. For the six months ended June 30, 2023, the Company sourced approximately 26 % of supplies for its electrotherapy products from two significant vendors. For the same period in 2022, the Company sourced approximately 53 % of supplies for its electrotherapy products from four significant vendors. At June 30, 2023, the Company had no receivables from any third-party payers that made up over 10 % of the net accounts receivable balance. At December 31, 2022, the Company had receivables from one third-party payer which made up approximately 14 % of the net accounts receivable balance. (16) COMMITMENTS AND CONTINGENCIES See Note 13 for details regarding commitments under the Company’s long-term leases. 20 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (17) RELATED PARTIES On May 10, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 common shares of ZYXI from Mr. Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on May 10, 2023 of $ 9.61 per share, resulting in a total transactional value of $ 2,883,000 . On June 13, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 common shares of ZYXI from Mr. Sandgaard at the closing market price on June 13, 2023, of $ 8.62 per share, resulting in a total transactional value of $ 2,586,000 . At the time of each aforementioned transactions, the disinterested Board and Audit Committee Members deemed it to be in the best interest of The Company to purchase the shares as they believe the current market price for the Company’s stock is undervalued and the Company’s cash position is such that the purchase of shares from Mr. Sandgaard is a good use of the Company’s funds at the time of each transaction. For each transaction, the following impacts were discussed before approval of the s (i) the Company’s cash position and capital needs for its continuing operations; (ii) the alternative uses for the cash used to purchase the Sandgaard Shares, including repayment of outstanding indebtedness; (iii) the possible effect on earnings per share and book value per share; (iv) and the potential effect of the trading of the Company’s shares, if Mr. Sandgaard were to sell the shares in the open market. (18) SUBSEQUENT EVENTS No subsequent events identified through July 27, 2023. 21 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2022. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2022 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which include electrotherapy and pain management products. As of June 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which were incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. On June 15, 2023, Zynex, Inc entered into an investor relations consulting agreement with MZHCI, LLC. RESULTS OF OPERATIONS Summary Net revenue was $45.0 million and $36.8 million for the three months ended June 30, 2023 and 2022, respectively, and $87.1 million and $67.8 million for the six months ended June 30, 2023 and 2022, respectively. Net revenue increased 22% and 28% for the three and six-month periods ended June 30, 2023, respectively. Net income was $3.4 million for the three months ended June 30, 2023 compared with $3.3 million during the same period in 2022. Net income was $4.9 million for the six months ended June 30, 2023 compared with $4.7 million during the same period in 2022. Cash provided by operating activities was $2.7 million during the six months ended June 30, 2023 compared with $1.6 million during the same period in 2022. Working capital was $93.5 million and $48.5 million as of June 30, 2023 and December 31, 2022, respectively. 22 Table of Contents Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the condensed financial statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $8.2 million or 22% to $45.0 million for the three months ended June 30, 2023, from $36.8 million for the same period in 2022. Net revenue increased $19.3 million or 28% to $87.1 million for the six months ended June 30, 2023, from $67.8 million for the same period in 2022. For both the three and six-month periods ended June 30, 2023, the growth in net revenue from the same periods in 2022 is primarily related to a 51% and 55% growth in device orders, respectively, which resulted from a larger customer base and led to increased sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our products. Device revenue increased $4.2 million or 45% to $13.7 million for the three months ended June 30, 2023, from $9.5 million for the same period in 2022. Device revenue increased $9.5 million or 58% to $25.7 million for the six months ended June 30, 2023, from $16.2 million for the same period in 2022. For both the three and six-month periods ended June 30, 2023, the growth in net revenue from the same periods in 2022 is primarily related to a 51% and 55% growth in device orders, respectively. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our electrotherapy products. Supplies revenue increased $3.9 million or 15% to $31.2 million for the three months ended June 30, 2023, from $27.3 million for the same period in 2022. Supplies revenue increased $9.8 million or 19% to $61.4 million for the six months ended June 30, 2023, from $51.6 million for the same period in 2022. The increase in supplies revenue is primarily related to an increased customer base from increased device sales in 2022 and 2023. 23 Table of Contents Operating Expenses Cost of Revenue – Devices and Supplies Cost of Revenue – devices and supplies consist primarily of device and supply costs, facilities, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended June 30, 2023 increased 27% to $9.3 million from $7.3 million from the same period in 2022. As a percentage of revenue, cost of revenue – devices and supplies increased to 21% from 20% for the three months ended June 30, 2023 and 2022, respectively. Cost of revenue for the six months ended June 30, 2023 increased 30% to $18.5 million from $14.2 million for the same period in 2022. As a percentage of revenue, cost of revenue – device and supply remained flat at 21% for the six months ended June 30, 2023 and 2022. The increase in cost of revenue – devices and supplies, in the three and six month periods ending June 30, 2023, is due to increased volumes related to higher revenue. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee-related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended June 30, 2023 increased 32% to $21.6 million from $16.3 million for the same period in 2022. The increase in sales and marketing expense is primarily due to increased commission and incentive pay from increased orders, increased headcount of our sales force, and rising wages in the U.S. due to a very competitive job market. As a percentage of revenue, sales and marketing expense increased to 48% from 44% for the three months ended June 30, 2023 and 2022, respectively, primarily due to the aforementioned expenses, offset by increased revenue. Sales and marketing expense for the six months ended June 30, 2023 increased 39% to $42.8 million from $30.7 million for the same period in 2022. The increase in sales and marketing expense is primarily due to increased commission and incentive pay from increased orders, and inflation and rising wages in the U.S. due to a very competitive job market. As a percentage of revenue, sales and marketing expense increased to 49% from 45% for the six months ended June 30, 2023 and 2022, respectively. The increase as a percentage of revenue is primarily due to the additional expenses noted above, slightly offset by the increase in revenue during the period. General and Administrative Expense General and administrative expenses primarily consist of employee-related costs, and other direct costs associated with these personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for the three months ended June 30, 2023 increased 29% to $11.4 million from $8.8 million for the same period in 2022. The increase in general and administrative expense for the three months is primarily due to increased compensation and benefit expense related to headcount growth, and professional fees due to additional external resources and additional compliance fees related to Section 404(b) of the Sarbanes-Oxley Act of 2002. As a percentage of revenue, general and administrative expense increased to 25% for the three months ended June 30, 2023 from 24% for the same period in 2022. The increase as a percentage of revenue is primarily due to the items noted above, partially offset by the increase in revenue during the period. General and administrative expense for the six months ended June 30, 2023 increased 37% to $22.7 million from $16.6 million for the same period in 2022. The increase in general and administrative expense for the six months is primarily due to increased compensation and benefit expense related to headcount growth, increased professional and legal service expenses. As a percentage of revenue, general and administrative expense increased to 26% for the six months ended June 30, 2023 from 24% for the same period in 2022. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by the increase in revenue during the period. Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 18% and 14% for the three and six months ended June 30, 2023, respectively. Discrete items, primarily related to the tax impact of the change in fair value of contingent consideration, of ($1.6) million and ($3.1) million for the three and six months ended June 30, 2023, respectively, are 24 Table of Contents recognized as a benefit against income tax expense. For the three and six months ended June 30, 2023 the Company recorded an income tax expense of approximately $0.7 million and $0.8 million, respectively. The Company recorded income tax expense of $0.8 million and $1.4 million for the three and six months ended June 30, 2022, respectively. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At June 30, 2023, our principal source of liquidity was $58.7 million in cash and $33.0 million in accounts receivable. Net cash provided by operating activities for the six months ended June 30, 2023 was $2.7 million compared with net cash provided by operating activities of $1.6 million for the six months ended June 30, 2022. The increase in cash provided by operating activities for the six months ended June 30, 2023 was primarily due to an increase in net income as well as a decrease in the receivables balance. The increase was partially offset by the change in fair value of contingent consideration. Net cash used in investing activities for the six months ended June 30, 2023 and 2022 was $0.4 million and $0.2 million, respectively. Cash used in investing activities for the six months ended June 30, 2023 was primarily related to the build out of our facility for the operations of ZMS, and the purchase of computer equipment. Cash used in investing activities for the six months ended June 30, 2022 was primarily related to the purchase of leasehold improvements for the operations of the ZMS Boulder location and the purchase of computer equipment. Net cash provided by financing activities for the six months ended June 30, 2023 was $36.3 million compared with net cash used in financing activities of $17.1 million for the same period in 2022. Net cash provided by financing activities for the six months ended June 30, 2023 was primarily due to the proceeds from the issuance of the 2023 Convertible Senior Notes, offset by purchases of treasury stock, and principal payments and termination of long-term debt. Net cash used in financing activities for the six months ended June 30, 2022 was primarily due to purchases of treasury stock, payment of cash dividends in January 2022, and principal payments on long-term debt. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash balance at June 30, 2023 of $58.7 million; ● Our working capital balance of $93.5 million; ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the consolidated financial statements located within our Annual Report on Form 10-K for the year ended December 31, 2022, filed with the Securities and Exchange Commission on March 14, 2023. COVID-19 UPDATE In December 2019, a novel strain of coronavirus (“COVID-19”) emerged and spread to other countries, including the United States. In March 2020, the World Health Organization declared COVID-19 as a pandemic (the “COVID-19 pandemic”). The COVID-19 pandemic, including multiple variants, resulted in governments around the world implementing stringent measures to help control the spread of the virus, including quarantines, “shelter in place” and “stay at home” orders, travel restrictions, business interruptions and other measures. Although the World Health Organization declared an end to the COVID-19 pandemic on May 5, 2023, we continue to actively monitor the impact of COVID-19. While the Company did not incur significant disruptions to its operations during the three months ended June 30, 2023 from COVID-19, the full extent of COVID-19 on our operations and the markets we serve remains uncertain and will depend largely on future developments related to COVID-19, including infection rates increasing or returning in various 25 Table of Contents geographic areas, variations of COVID-19, actions by government authorities to contain the outbreak or treat its impact, such as reimposing previously lifted measures or putting in place additional restrictions, and the widespread distribution and acceptance of an effective vaccine, among other things. Future developments regarding COVID-19 and its effects cannot be accurately predicted. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A. ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Evaluation of disclosure controls and procedures Our management, including our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934), as amended, or the Exchange Act, as of June 30, 2023. Based on management’s review, with participation of our Chief Executive Officer and Chief Financial Officer, the Chief Executive Officer and Chief Financial Officer have concluded that, as of the quarter ended June 30, 2023, our disclosure controls and procedures were not effective due to the material weakness in internal control over financial reporting as described below. Material Weakness in Internal Control We identified a material weakness related to Information Technology General Controls (ITGCs) that were not designed and operating effectively to ensure (i) appropriate segregation of duties was in place to perform program changes and (ii) the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted. The material weakness identified above did not result in any material misstatements in our financial statements or disclosures, and there were no changes to previously released financial results. Our management concluded that the consolidated financial statements included in the Annual Report on Form 10-K, present fairly, in all material respects, our financial position, results of operations, and cash flows for the periods presented in accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP. The effectiveness of our internal control over financial reporting as of December 31, 2022, has been audited by Marcum LLP as stated in their report, which is included in Item 8 of the Annual Report on Form 10-K. Remediation Plan Our management is committed to maintaining a strong internal control environment. In response to the identified material weakness above, management will take comprehensive actions to remediate the material weakness in internal control over financial reporting. We are in the process of developing and implementing remediation plans to address the material weakness described above. Changes in Internal Control over Financial Reporting Except for the items referred to above, there were no changes in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the quarter ended June 30, 2023 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting. Inherent Limitation on the Effectiveness of Internal Control Our management, including our Chief Executive Officer and Chief Financial Officer, do not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by management override of the controls. The design of any system of controls is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with 26 Table of Contents policies or procedures may deteriorate. Due to inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. 27 Table of Contents PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS There have been no material changes from the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022 filed with the SEC on March 14, 2023 and our Quarterly Report on Form 10-Q for the period ended March 31, 2023 filed with the SEC on April 27, 2023. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities Total Number of In Thousands Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan April 1 - May 31, 2023 Share repurchase program (1) 300,000 $ 9.61 300,000 — June 1 - June 30, 2023 Share repurchase program (2) 300,000 $ 8.62 300,000 — Share repurchase program (3) 66,200 $ 9.76 66,200 9,354 Quarter Total Share repurchase program (1) 300,000 $ 9.61 300,000 — Share repurchase program (2) 300,000 $ 8.62 300,000 — Share repurchase program (3) 66,200 $ 9.76 66,200 9,354 (1) On May 10, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chief Executive Officer, at the closing market price on May 10, 2023 of $9.61 per share. (2) On June 13, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chief Executive Officer, at the closing market price on June 13, 2023, of $8.62 per share. (3) Shares were purchased through the Company’s publicly announced share repurchase program dated June 13, 2023. The program expires on June 13, 2024. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION N o n e . 28 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 4.1 Indenture, dated as of May 9, 2023, between Zynex, Inc. and U.S. Bank Trust Company, National Association, as trustee. (incorporated by reference to Exhibit 4.1 of the Company’s Current Report on Form 8-K filed on May 9, 2023) 4.2 Form of certificate representing the 5.00% Convertible Senior Notes due 2023 (included as Exhibit A to Exhibit 4.1) 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB * XBRL Taxonomy Label Linkbase Document 101.PRE * XBRL Presentation Linkbase Document 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith ** Furnished herewith 29 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat July 27, 2023 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 30 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end September 30, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 303 ) 703-4906 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol Name of each exchange on which registered Common Stock, par value $0.001 per share ZYXI NASDAQ Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☒ Non-accelerated filer ☐ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of October 26, 2023 Common Stock, par value $0.001 33,903,777 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of September 30, 2023 (unaudited) and December 31, 2022 3 Unaudited Condensed Consolidated Statements of Income for the three and nine months ended September 30, 2023 and 2022 4 Unaudited Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2023 and 2022 5 Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the three and nine months ended September 30, 2023 and 2022 6 Unaudited Notes to Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 23 Item 3. Quantitative and Qualitative Disclosures About Market Risk 27 Item 4. Controls and Procedures 27 PART II—OTHER INFORMATION 28 Item 1. Legal Proceedings 28 Item 1A. Risk Factors 28 Item 2. Unregistered Sales of Equity Securities, Use of Proceeds, and Issuer Purchases of Equity Securities 28 Item 3. Defaults Upon Senior Securities 28 Item 4. Mine Safety Disclosures 28 Item 5. Other Information 28 Item 6. Exhibits 29 SIGNATURES 30 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES) September 30, 2023 December 31, (unaudited) 2022 ASSETS Current assets: Cash and cash equivalents $ 42,517 $ 20,144 Short-term investments, net 9,924 — Accounts receivable, net 33,288 35,063 Inventory, net 14,186 13,484 Prepaid expenses and other 3,008 868 Total current assets 102,923 69,559 Property and equipment, net 2,468 2,175 Operating lease asset 13,168 12,841 Finance lease asset 637 270 Deposits 409 591 Intangible assets, net of accumulated amortization 8,387 9,067 Goodwill 20,401 20,401 Deferred income taxes 3,036 1,562 Total assets $ 151,429 $ 116,466 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabiliti Accounts payable and accrued expenses 8,050 5,617 Operating lease liability 3,072 2,476 Finance lease liability 210 128 Income taxes payable 1,996 1,995 Current portion of debt — 5,333 Accrued payroll and related taxes 6,515 5,537 Total current liabilities 19,843 21,086 Long-term liabiliti Long-term portion of debt, less issuance costs — 5,293 Convertible senior notes, less issuance costs 57,375 — Contingent consideration — 10,000 Operating lease liability 15,154 13,541 Finance lease liability 475 188 Total liabilities 92,847 50,108 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of September 30, 2023 and December 31, 2022 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,702,560 issued and 34,220,824 outstanding as of September 30, 2023 41,658,132 issued and 36,825,081 outstanding as of December 31, 2022 34 39 Additional paid-in capital 90,543 82,431 Treasury stock of 6,996,129 and 4,253,015 shares at September 30, 2023 and December 31, 2022, respectively, at cost ( 57,560 ) ( 33,160 ) Retained earnings 25,565 17,048 Total stockholders’ equity 58,582 66,358 Total liabilities and stockholders’ equity $ 151,429 $ 116,466 The accompanying notes are an integral part of these condensed consolidated financial statements. 3 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended September 30, For the Nine Months Ended September 30, 2023 2022 2023 2022 NET REVENUE Devices $ 16,855 $ 11,349 $ 42,542 $ 27,579 Supplies 33,060 30,171 94,495 81,783 Total net revenue 49,915 41,520 137,037 109,362 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 9,553 8,391 28,094 22,617 Sales and marketing 22,146 17,212 64,982 47,950 General and administrative 12,731 9,359 35,479 25,967 Total costs of revenue and operating expenses 44,430 34,962 128,555 96,534 Income from operations 5,485 6,558 8,482 12,828 Other income (expense) Gain on sale of fixed assets 37 — 39 — Gain (loss) on change in fair value of contingent consideration ( 245 ) ( 100 ) 2,855 — Interest expense, net ( 327 ) ( 106 ) ( 728 ) ( 345 ) Other income (expense), net ( 535 ) ( 206 ) 2,166 ( 345 ) Income from operations before income taxes 4,950 6,352 10,648 12,483 Income tax expense 1,356 1,479 2,131 2,887 Net income $ 3,594 $ 4,873 $ 8,517 $ 9,596 Net income per sh Basic $ 0.10 $ 0.13 $ 0.24 $ 0.25 Diluted $ 0.10 $ 0.13 $ 0.23 $ 0.24 Weighted average basic shares outstanding 35,531 38,046 36,216 38,881 Weighted average diluted shares outstanding 36,103 38,865 36,866 39,729 The accompanying notes are an integral part of these condensed consolidated financial statements. 4 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) For the Nine Months Ended September 30, 2023 2022 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 8,517 $ 9,596 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation 1,984 1,590 Amortization 1,078 695 Non-cash reserve charges ( 91 ) 65 Stock-based compensation 1,621 1,702 Non-cash lease expense 568 720 Benefit for deferred income taxes ( 1,473 ) ( 772 ) Gain on change in fair value of contingent consideration ( 2,855 ) — Gain on sale of fixed assets ( 39 ) — Change in operating assets and liabiliti Short-term investments ( 114 ) — Accounts receivable 1,775 282 Prepaid and other assets ( 826 ) ( 446 ) Accounts payable and other accrued expenses 3,312 364 Inventory ( 2,071 ) ( 4,801 ) Deposits 182 ( 6 ) Net cash provided by operating activities 11,568 8,989 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 630 ) ( 332 ) Purchase of short-term investments ( 9,810 ) — Proceeds on sale of fixed assets 50 — Net cash used in investing activities ( 10,390 ) ( 332 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 95 ) ( 87 ) Cash dividends paid ( 1 ) ( 3,613 ) Purchase of treasury stock ( 24,402 ) ( 19,811 ) Proceeds from issuance of convertible senior notes, net of issuance costs 57,018 — Proceeds from the issuance of common stock on stock-based awards 33 27 Principal payments on long-term debt ( 10,667 ) ( 4,000 ) Taxes withheld and paid on employees’ equity awards ( 691 ) ( 253 ) Net cash provided by (used in) financing activities 21,195 ( 27,737 ) Net increase (decrease) in cash 22,373 ( 19,080 ) Cash at beginning of period 20,144 42,612 Cash at end of period $ 42,517 $ 23,532 Supplemental disclosure of cash flow informati Cash received (paid) on interest, net $ 452 $ ( 317 ) Cash paid for rent $ ( 2,522 ) $ ( 2,592 ) Cash paid for income taxes $ ( 3,541 ) $ ( 5,028 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 4,214 $ 211 Right-of-use assets obtained in exchange for new finance lease liabilities $ 464 $ — Lease incentive $ 1,400 $ — Vesting of restricted stock awards $ ( 3 ) $ — Inventory transferred to property and equipment under lease $ 1,369 $ 1,191 Capital expenditures not yet paid $ 101 $ 56 Non-cash dividend adjustment $ ( 1 ) $ — The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2021 39,737,890 41 80,397 ( 6,513 ) — 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 39,776,816 $ 41 $ 80,913 $ ( 6,513 ) $ 1,377 $ 75,818 Exercised and vested stock-based awards 178,727 1 11 — — 12 Stock-based compensation expense — — 535 — — 535 Shares of common stock withheld to pay taxes on employees’ equity awards ( 47,603 ) — ( 47 ) — — ( 47 ) Purchase of treasury stock ( 1,504,374 ) ( 2 ) — ( 10,653 ) — ( 10,655 ) Net income — — — — 3,346 3,346 Balance at June 30, 2022 38,403,566 $ 40 $ 81,412 $ ( 17,166 ) $ 4,723 $ 69,009 Exercised and vested stock-based awards, net of tax 68,060 — $ 13 $ — $ — 13 Stock-based compensation expense — — 578 — — 578 Shares of common stock withheld to pay taxes on employees’ equity awards ( 16,681 ) — ( 130 ) — — ( 130 ) Purchase of treasury stock ( 987,451 ) ( 1 ) — ( 9,155 ) — ( 9,156 ) Net income — — — — 4,873 4,873 Balance at September 30, 2022 37,467,494 $ 39 $ 81,873 $ ( 26,321 ) $ 9,596 $ 65,187 Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2022 36,825,081 39 82,431 ( 33,160 ) 17,048 66,358 Exercised and vested stock-based awards 66,045 — 27 — — 27 Stock-based compensation expense — — 307 — — 307 Warrants exercised 10,000 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 22,387 ) — ( 422 ) — — ( 422 ) Purchase of treasury stock ( 232,698 ) — — ( 3,353 ) — ( 3,353 ) Net income — — — — 1,569 1,569 Balance at March 31, 2023 36,646,041 $ 39 $ 82,343 $ ( 36,513 ) $ 18,617 $ 64,486 Exercised and vested stock-based awards 45,626 — 9 — — 9 Stock-based compensation expense — — 660 — — 660 Shares of common stock withheld to pay taxes on employees’ equity awards ( 11,224 ) ( 3 ) ( 124 ) — — ( 127 ) Purchase of treasury stock ( 666,200 ) — — ( 6,115 ) — ( 6,115 ) Net income — — — — 3,354 3,354 Balance at June 30, 2023 36,014,243 $ 36 $ 82,888 $ ( 42,628 ) $ 21,971 $ 62,267 Exercised and vested stock-based awards 69,915 — 1 — — 1 Stock-based compensation expense — — 654 — — 654 Shares of common stock withheld to pay taxes on employees’ equity awards ( 19,118 ) — ( 145 ) — — ( 145 ) Purchase of treasury stock ( 1,844,216 ) ( 2 ) — ( 14,932 ) — ( 14,934 ) Escrow share lock-up adjustment — — 7,145 — — 7,145 Net income — — — — 3,594 3,594 Balance at September 30, 2023 34,220,824 $ 34 90,543 $ ( 57,560 ) $ 25,565 $ 58,582 The accompanying notes are an integral part of these condensed consolidated financial statements. 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of September 30, 2023, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100 % of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the nine months ended September 30, 2023 and 2022, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. Unaudited Condensed Consolidated Financial Statements The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. Amounts as of December 31, 2022, are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of September 30, 2023 and the results of its operations and its cash flows for the periods presented. The results of operations for the nine months ended September 30, 2023 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying condensed consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying condensed consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, assumptions related to the valuation of contingent consideration, and valuation of long-lived assets and realizability of deferred tax assets. Cash, Cash Equivalents, and Short-Term Investments Cash equivalents consist of highly liquid investments with remaining maturities of three months or less at the date of purchase. We classify investments with maturities of greater than three months but less than one year as short-term investments. Short-term investments are classified as held-to-maturity as the Company has the positive intent and ability to hold the investments until maturity. Held-to-maturity investments are carried at amortized cost. Due to the short-term nature, the carrying amounts reported in the consolidated balance sheet approximate fair value. Accounts Receivable, Net The Company’s accounts receivable represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. The Company maintains a constraint for third-party payer refund requests, deductions and adjustments. See Note 15 – Concentrations for discussion of significant customer accounts receivable balances. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing. The Company utilizes the simplified test for goodwill impairment. The amount recognized for impairment is equal to the difference between the carrying value and the asset’s fair value. The valuation methods used in the quantitative fair value assessment was a discounted cash flow method and required management to make certain assumptions and estimates regarding certain industry trends and future profitability of our reporting units. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when the performance obligation has been met and the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when the performance obligation has been met and the product has been transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The following table provides a breakdown of disaggregated net revenues for the three and nine months ended September 30, 2023 and 2022 related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606”), leases subject to ASC 842 – “Leases” (“ASC 842”), and supplies (in thousands): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2023 2022 2023 2022 Device revenue Purchased $ 7,022 $ 2,900 $ 16,444 $ 7,357 Leased 9,833 8,449 26,098 20,222 Total device revenue $ 16,855 $ 11,349 $ 42,542 $ 27,579 Supplies revenue 33,060 30,171 94,495 81,783 Total revenue $ 49,915 $ 41,520 $ 137,037 $ 109,362 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s condensed consolidated balance sheets. For additional information on the leases where the Company is the lessee, see Note 14 - Leases. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying condensed consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision-Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The Inflation Reduction Act (“IRA”) was enacted into law on August 16, 2022. Included in the IRA was a provision to implement a 15% corporate alternative minimum tax on corporations whose average annual adjusted financial statement income during the most recently completed three year period exceeds $1 billion. This provision is effective for tax years beginning after December 31, 2022. We are in the process of evaluating the provisions of the IRA, but we do not currently believe the IRA will have a material impact on our reported results, cash flows or financial position when it becomes effective. Recent Accounting Pronouncements On October 9, 2023, the Financial Accounting Standards Board (“FASB”) issued ASU (“Accounting Standards Update”) 2023-06 which amends the disclosure or presentation requirements related to various subtopics in the FASB ASC. The amendments in ASU 2023-06 modify the disclosure or presentation requirements of a variety of Topics in the ASC. Certain of the amendments represent clarifications to or technical corrections of the current requirements. For entities subject to the SEC’s existing disclosure requirements and for entities required to file or furnish financial statements with or to the SEC in preparation for the sale of or for purposes of issuing securities that are not subject to contractual restrictions on transfer, the effective date for each amendment will be the date on which the SEC’s removal of that related disclosure from Regulation S-X or Regulation S-K becomes effective, with early adoption prohibited. For all entities, if by June 30, 2027, the SEC has not removed the applicable requirement from Regulation S-X or Regulation S-K, the pending content of the related amendment will be removed from the Codification and will not become effective for any entity. Management is evaluating the impacts of the recently issued ASU. Management does not believe that any other recently issued accounting pronouncements will have a material impact on the Company’s consolidated financial statements. (3) FAIR VALUE OF FINANCIAL INSTRUMENTS ASC 820, Fair Value Measurements (“ASC 820”) states that fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or a liability. The three-tiered fair value hierarchy, which prioritizes which inputs should be used in measuring fair value, is comprised o (Level I) observable inputs such as quoted prices in active markets; (Level II) inputs other than quoted prices in active markets that are observable either directly or indirectly and (Level III) unobservable inputs for which there is little or no market data. The fair value hierarchy requires the use of observable market data when available in determining fair value. The Company’s asset and liability classified financial instruments include cash and cash equivalents, short-term investments, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash and equivalents, short-term investments, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. During the year ended December 31, 2022 the Company did not have any cash equivalents or short-term investments. The following table shows the Company’s cash, cash equivalents and short-term investments by significant investment category as of September 30, 2023 (in thousands): September 30, 2023 Cash and Short Investment Fair Cash Term Cost Gains Value Equivalents Investments Cash (1) 12,579 - 12,579 12,579 - U.S. Treasury Securities (2) 39,446 416 39,862 29,938 9,924 Total 52,025 416 52,441 42,517 9,924 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (1) Level I fair value estimates are based on observable inputs such as quoted prices in active markets. (2) Level II fair value estimates are based on observable inputs other than quoted prices in active markets for identical assets and liabilities, quoted prices for identical or similar assets or liabilities in inactive markets, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities . The fair value of acquisition-related contingent consideration was based on a Monte Carlo model prior to September 30, 2023 which was included in Level III of the fair value hierarchy. See Note 6 - Business Combinations for additional details on the removal of contingent consideration during the quarter ended September 30, 2023. The following table sets forth a summary of changes in the contingent consideration for the nine months ended September 30, 2023 (in thousands): Contingent Consideration Balance as of December 31, 2022 $ 10,000 Change in fair value of contingent consideration ( 2,855 ) Escrow share adjustment ( 7,145 ) Balance as of September 30, 2023 $ — (4) INVENTORY The components of inventory are as follows (in thousands): September 30, 2023 December 31, 2022 Raw materials $ 3,408 $ 3,506 Work-in-process 1,419 1,205 Finished goods 8,573 7,750 Inventory in transit 1,054 1,291 $ 14,454 $ 13,752 L reserve ( 268 ) ( 268 ) $ 14,186 $ 13,484 (5) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): September 30, 2023 December 31, 2022 Property and equipment Office furniture and equipment $ 3,190 $ 2,819 Assembly equipment 212 110 Vehicles 151 203 Leasehold improvements 1,173 1,173 Leased devices 1,332 1,162 Capital projects 234 — $ 6,292 $ 5,467 Less accumulated depreciation ( 3,824 ) ( 3,292 ) $ 2,468 $ 2,175 Total depreciation expense related to our property and equipment was $ 0.2 million and $ 0.1 million for the three months ended September 30, 2023 and 2022, respectively. Depreciation expense for the nine months ended September 30, 2023 and 2022, was $ 0.6 million and $ 0.5 million, respectively. 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Total depreciation expense related to devices out on lease was $ 0.5 million and $ 0.3 million for the three months ended September 30, 2023 and 2022, respectively. Depreciation expense related to devices out on lease was $ 1.4 million and $ 1.0 million for the nine months ended September 30, 2023 and 2022, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units which are still with patients for which the Company cannot determine the current status. (6) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the “Selling Shareholders”). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,467,785 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares were subject to a lock-up agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 978,524 of the Zynex Shares were deposited in escrow (the “Escrow Shares”). The number of Escrow Shares were subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. The Escrow Shares were adjusted on the anniversary date, which resulted in the cancellation of 156,673 Escrow Shares. Half of the Escrow Shares were to be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell the Device in the United States. The other half of the Escrow Shares were to be released upon determination by the FDA that the Device can be marketed and sold in the United States. On July 27, 2023, the Company, ZMS, Kestrel, and the Selling Shareholders, entered into an amendment to the Stock Purchase Agreement (the “Amendment”). The parties entered into the Amendment to modify certain terms of the Agreement related to the conditions to be satisfied for the release of the Escrow Shares to the Selling Shareholders. The Escrow Shares were released from escrow, simultaneously, the selling stockholders entered into a lock-up agreement. The lock-up agreement includes two lock-up periods which release certain restrictions on the Selling Shareholders on December 31, 2023 and June 30, 2024, respectively. The amount of Escrow Shares were recalculated at September 30, 2022, and are included in the calculation of diluted earnings per share for September 30, 2022. No additional calculation was required at September 30, 2023, as the Escrow Shares were released from escrow, and the shares are included in the Company’s calculation of basic earnings per share. The acquisition of Kestrel has been accounted for as a business combination under ASC 805 – “Business Combinations” (“ASC 805”). Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. (7) GOODWILL AND OTHER INTANGIBLE ASSETS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in Goodwill of $ 20.4 million (see Note 6 – Business Combinations). As of September 30, 2023, there was no change in the carrying amount of goodwill, and there were no impairment indicators of the Company’s net asset value. 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The following table provides the summary of the Company’s intangible assets as of September 30, 2023. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents at December 31, 2022 $ 10,000 $ ( 933 ) $ 9,067 10.00 Amortization expense ( 680 ) ( 680 ) Acquired patents at September 30, 2023 $ 10,000 $ ( 1,613 ) $ 8,387 9.23 The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2023, next five fiscal years, and periods thereaf December 31, (In thousands) October 1, 2023 through December 31, 2023 229 2024 911 2025 908 2026 908 2027 908 Thereafter 4,523 Total future amortization expense $ 8,387 (8) EARNINGS PER SHARE Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period. Dilution resulting from stock-based compensation plans is determined using the treasury stock method and dilution resulting from the 2023 Convertible Senior Notes is determined using the if-converted method. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. The calculation of basic and diluted earnings per share for the three and nine months ended September 30, 2023 and 2022 are as follows (in thousands, except per share data): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2023 2022 2023 2022 Basic earnings per share Net income $ 3,594 $ 4,873 $ 8,517 $ 9,596 Basic weighted average shares outstanding 35,531 38,046 36,216 38,881 Basic earnings per share $ 0.10 0.13 0.24 0.25 Diluted earnings per share Net income $ 3,594 4,873 8,517 9,596 Weighted average shares outstanding 35,531 38,046 36,216 38,881 Effect of dilutive securities - options and restricted stock 572 819 650 848 Diluted weighted-average shares outstanding 36,103 38,865 36,866 39,729 Diluted earnings per share $ 0.10 0.13 $ 0.23 $ 0.24 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS For the three and nine months ended September 30, 2023, equity grants of 92,000 and 34,000 shares of common stock, respectively, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. For the three and nine months ended September 30, 2022, equity grants of 6,000 and 22,000 shares of common stock, respectively, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. For the three and nine months ended September 30, 2023, conversion options to purchase 5.6 million and 3.0 million shares, respectively, resulting from the 2023 Convertible Senior Notes, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive (see Note 10 – Convertible Senior Notes). (9) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets were pledged as collateral. One facility was a line of credit in the amount of $ 4.0 million available until December 1, 2024 (the “Facility 1”). Interest on Facility 1 was due on the first day of each month beginning January 1, 2022. The interest rate was an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . The Company did not utilize the facility during the three and nine months ended September 30, 2023 and September 30, 2022. During May 2023, the facility was terminated. The other facility extended by the Bank to the Company was a fixed rate term loan in the amount of up to $ 16.0 million (the “Facility 2”). Facility 2 was entered into and funded in conjunction with the purchase of Kestrel Labs at an interest rate equal to 2.8 % per year. The Company had to pay interest on the first day of each month which began January 1, 2022 and the Company also repaid the principal amount in equal installments of $ 444,444 per month. All unpaid interest and principal on Facility 2 was fully paid off and the Facility was terminated during May 2023. (10) CONVERTIBLE SENIOR NOTES In May 2023, the Company issued $ 52.5 million aggregate principal amount of 5.00 % Convertible Senior Notes due May 15, 2026 (the “2023 Convertible Senior Notes”). In May 2023, the Company issued an additional $ 7.5 million aggregate principal amount of the 2023 Convertible Senior Notes upon the exercise by the initial purchasers of their over-allotment option. Interest on the 2023 Convertible Senior Notes is payable semiannually in arrears, beginning November 15, 2023. The 2023 Convertible Senior Notes will mature on May 15, 2026, unless earlier converted or repurchased, and are redeemable at the option of the Company on or after May 20, 2025. The 2023 Convertible Senior Notes are direct, unsecured, and unsubordinated obligations of the Company, ranking equally with all of the Company’s other unsecured and unsubordinated indebtedness from time to time outstanding, and are effectively subordinated to all secured indebtedness of the Company. Holders may convert their 2023 Convertible Senior Notes at their option prior to the close of business on the business day preceding September 30, 2023, but only under the following circumstanc during any calendar quarter (and only during such calendar quarter), if the last reported sale price of the Company’s common stock for at least twenty trading days (whether or not consecutive) during the period of thirty consecutive trading days ending on, and including, the last trading day of the immediately preceding calendar quarter is greater than or equal to 130 % of the conversion price on each applicable trading day as determined by the Company; during the five business day period after any ten consecutive trading day period (the “Measurement Period”) in which the trading price per $ 1,000 principal amount of 2023 Convertible Senior Notes for each trading day of the Measurement Period was less than 98 % of the product of the last reported sale price of the common stock and the conversion rate on each such trading day; or upon the occurrence of certain corporate events specified in the indenture governing the 2023 Convertible Senior Notes. On or after February 15, 2026, a holder may convert all or any portion of its 2023 Convertible Senior Notes at any time prior to the close of business on the second scheduled trading day immediately preceding the maturity date regardless of the foregoing conditions. The Company will settle conversions of the 2023 Convertible Senior Notes by paying cash up to the aggregate principal amount of the 2023 Convertible Senior Notes to be converted and paying or delivering, as the case may be, cash, shares of common stock or a 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS combination of cash and shares of common stock, at the Company’s election, in respect of the remainder, if any, of the Company's conversion obligation in excess of the aggregate principal amount of the 2023 Convertible Senior Notes being converted. The 2023 Convertible Senior Notes are initially convertible at a rate of 92.8031 shares of common stock per $ 1,000 principal amount converted, which is approximately equal to $ 10.78 per share of common stock. The conversion rate will be subject to adjustment upon the occurrence of certain specified events but will not be adjusted for accrued and unpaid interest. In addition, upon the occurrence of a make-whole fundamental change, which includes certain change in control transactions, the approval by Zynex’s stockholders of any plan or proposal for the liquidation or dissolution of Zynex and certain de-listing events with respect to Zynex’s common stock, the Company will, in certain circumstances, increase the conversion rate by a number of additional shares of common stock for conversions in connection with the make-whole fundamental change. Upon the occurrence of a fundamental change, holders of the 2023 Convertible Senior Notes may require the Company to purchase all or a portion of their 2023 Convertible Senior Notes, in principal amounts equal to $ 1,000 or an integral multiple thereof, for cash at a price equal to 100 % of the principal amount of the 2023 Convertible Senior Notes to be purchased plus any accrued and unpaid interest. The following table summarizes the minimum interest payments over the remainder of 2023 and next three fiscal years until maturity in May 2026. (In thousands) October 1, 2023 through December 31, 2023 $ 1,592 2024 3,050 2025 3,042 2026 1,508 (11) STOCK-BASED COMPENSATION PLANS In June 2017, our stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5,500,000 shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of our common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon grant and are not included in outstanding shares until such vesting and issuance occurs. During the three and nine months ended September 30, 2023, no stock option awards were granted under the 2017 Stock Plan. During the three months ended September 30, 2022 no stock option awards were granted under the 2017 Stock Plan. During the nine months ended September 30, 2022, 200,000 stock option awards were granted under the 2017 Stock Plan. At September 30, 2023, the Company had 0.6 million stock options outstanding and 0.6 million exercisable under the following pla Outstanding Exercisable Number of Options Number of Options Outstanding Number of Options Exercisable Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 211 211 2017 Stock Option Plan 351 351 Total 562 562 During the three and nine months ended September 30, 2023, 86,000 and 223,000 shares of restricted stock were granted under the 2017 Stock Plan, respectively. During the three and nine months ended September 30, 2022, 50,000 and 143,000 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on restricted stock awards typically occur quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The following summarizes stock-based compensation expenses recorded in the condensed consolidated statements of income (in thousands): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2023 2022 2023 2022 Cost of Revenue $ 10 $ 13 $ 26 $ 40 Sales and marketing expense 53 16 182 130 General, and administrative 591 549 1,413 1,532 Total stock based compensation expense $ 654 $ 578 $ 1,621 $ 1,702 The Company received proceeds of $ 0.1 million related to option exercises during the three and nine months ended September 30, 2023. The Company received proceeds of $ 0.1 million related to option exercises during each of the three and nine months ended September 30, 2022. No stock option awards were granted by the Company during the three and nine months ended September 30, 2023. A summary of stock option activity under all equity compensation plans for the nine months ended September 30, 2023, is presented be Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2022 793 $ 2.67 5.03 $ 8,908 Granted — $ — Forfeited ( 206 ) $ 6.30 Exercised ( 25 ) $ 5.36 Outstanding at September 30, 2023 562 $ 1.22 2.80 $ 3,807 Exercisable at September 30, 2023 562 $ 1.22 2.80 $ 3,807 A summary of restricted stock award activity under all equity compensation plans for the nine months ended September 30, 2023, is presented be Number of Shares Weighted Average (in thousands) Grant Date Fair Value Granted but not vested at December 31, 2022 431 $ 11.92 Granted 223 9.88 Forfeited ( 11 ) 11.71 Vested ( 157 ) 11.90 Granted but not vested at September 30, 2023 486 $ 11.82 As of September 30, 2023, the Company had approximately $ 4.5 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.4 years. (12) STOCKHOLDERS’ EQUITY Treasury Stock On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through October 4, 2022, the Company purchased 1,091,604 shares of its common stock for $ 10.0 million for an average price of $ 9.06 per share which completed this program. On October 31, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through October 31, 2023. From the inception of the plan through December 31, 2022, the Company purchased 495,138 shares of its common stock for $ 6.6 million or an average price of $ 13.43 per share. From the inception of the plan through March 31, 2023, the Company purchased 727,836 shares of its common stock for $ 10 million or an average price of $ 13.74 per share which completed this program. On May 10, 2023, the disinterested members of the Board of Directors and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on May 10, 2023 of $ 9.61 per share for $ 2.9 million. See Note 17 - Related Parties for additional information. On June 13, 2023, the disinterested members of the Board of Directors and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on June 13, 2023, of $ 8.62 per share for $ 2.6 million. See Note 17 - Related Parties for additional information. On June 13, 2023, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 13, 2024. From the inception of the plan through September 30 2023, the Company purchased 1,242,892 shares of its common stock for $ 10.0 million or an average price of $ 8.05 per share, which completed this program. On September 11, 2023, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through September 13, 2024. From the inception of the plan through September 30 2023, the Company purchased 667,524 shares of its common stock for $ 5.6 million or an average price of $ 8.36 per share. Warrants A summary of stock warrant activity for the nine months ended September 30, 2023 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2022 99 $ 2.39 1.76 $ 1,140 Granted — $ — Exercised ( 8 ) $ 2.27 Forfeited ( 2 ) $ — Outstanding and exercisable at September 30, 2023 89 $ 2.41 1.02 $ 497 (13) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits or expense from stock option exercises, the tax impact of the change in fair value of contingent consideration, and true ups related to the filed tax return. For the three months ended September 30, 2023 and 2022 discrete items adjusted were $ 1.1 million and $ 0.2 million, respectively. For the nine months ended September 30, 2023 and 2022 discrete items adjusted were ($ 2.1 ) million and ($ 0.2 ) million, respectively. At September 30, 2023 and 2022, the Company is estimating an 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS annual effective tax rate of approximately 25 % and 23 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 20 % and 23 % for the nine months ended September 30, 2023 and 2022, respectively. The decrease in the Company’s effective income tax rate for the nine months ended September 30, 2023 compared to the same period in 2022, is primarily related to the tax impact of discrete items, in particular the change in fair value of contingent consideration recorded during the year which is not expected to be taxable. The Company recorded income tax expense of $ 1.4 million and $ 2.1 million for the three and nine months ended September 30, 2023, respectively, and income tax expense of $ 1.5 million and $ 2.9 million for the three and nine months ended September 30, 2022, respectively. Taxes of $ 3.5 million and $ 5.0 million were paid during the nine months ended September 30, 2023 and 2022, respectively. (14) LEASES The Company categorizes leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During February 2023, the Company entered into a lease agreement for approximately 41,427 square feet of office space for the operations of ZMS in Englewood, CO. The lease commences on July 1, 2023 and runs through December 31, 2028. At the expiration of the lease term the Company has the option to renew the lease for one additional five year period. The Company is entitled to rent abatements for the first six months of the lease and tenant improvement allowances. Payments based on the initial rate of $ 24.75 per square foot begin in January 2024. The price per square foot increases by an additional $ 0.50 during each subsequent twelve-month period of the lease after the abatement period. Upon lease commencement, the Company recorded an operating lease liability of $ 4.2 million and a corresponding right-of-use asset for $ 2.8 million. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.75 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 3.03 % which was used to measure its finance lease liability. The weighted average remaining lease term was 4.55 years and 4.09 years for operating and finance leases, respectively, as of September 30, 2023. As of September 30, 2023, the maturities of the Company’s future minimum lease payments were as follows (in thousands): Operating Lease Liability Finance Lease Liability October 1, 2023 through December 31, 2023 $ 533 $ 37 2024 4,511 209 2025 4,632 169 2026 4,428 108 2027 4,237 93 2028 2,172 93 Total undiscounted future minimum lease payments $ 20,513 $ 709 L difference between undiscounted lease payments and discounted lease liabiliti ( 2,287 ) ( 24 ) Total lease liabilities $ 18,226 $ 685 20 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The components of lease expenses were as follows: Three Months Ended Nine Months Ended September 30, September 30, 2023 2022 2023 2022 Lease Operating lease Total operating lease expense $ 889 $ 1,125 $ 3,131 $ 3,344 Finance lease Total amortization of leased assets 37 30 96 89 Interest on lease liabilities 5 9 19 28 Total net lease cost $ 931 $ 1,164 $ 3,246 $ 3,461 For the three months ended September 30, 2023 and 2022, $ 0.8 million and $ 1.0 million, respectively, of operating lease costs were included in selling, general and administrative expenses on the condensed consolidated statement of income. For the nine months ended September 30, 2023 and 2022, $ 2.9 million and $ 3.1 million, respectively, of operating lease costs were included in selling, general and administrative expenses on the condensed consolidated statement of income. All other operating lease costs were incurred at the Company’s manufacturing and warehouse facility and were included in cost of sales for the three and nine months ended September 30, 2023 and 2022. (15) CONCENTRATIONS For the three months ended September 30, 2023, the Company sourced approximately 57 % of the supplies for its electrotherapy products from four significant vendors. For the same period in 2022, the Company sourced approximately 39 % of the supplies for its electrotherapy products from two significant vendors. For the nine months ended September 30, 2023, the Company sourced approximately 47 % of supplies for its electrotherapy products from four significant vendors. For the same period in 2022, the Company sourced approximately 33 % of supplies for its electrotherapy products from two significant vendors. At September 30, 2023, the Company had no receivables from any third-party payers that made up over 10 % of the net accounts receivable balance. At December 31, 2022, the Company had receivables from one third-party payer which made up approximately 14 % of the net accounts receivable balance. (16) COMMITMENTS AND CONTINGENCIES See Note 14 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (17) RELATED PARTIES On May 10, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 common shares of ZYXI from Mr. Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on May 10, 2023 of $ 9.61 per share, resulting in a total transactional value of $ 2,883,000 . On June 13, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 common shares of ZYXI from Mr. Sandgaard at the closing market price on June 13, 2023, of $ 8.62 per share, resulting in a total transactional value of $ 2,586,000 . 21 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS At the time of each aforementioned transactions, the disinterested Board and Audit Committee Members deemed it to be in the best interest of The Company to purchase the shares as they believe the current market price for the Company’s stock is undervalued and the Company’s cash position is such that the purchase of shares from Mr. Sandgaard is a good use of the Company’s funds at the time of each transaction. For each transaction, the following impacts were discussed before approval of the s (i) the Company’s cash position and capital needs for its continuing operations; (ii) the alternative uses for the cash used to purchase the Sandgaard Shares, including repayment of outstanding indebtedness; (iii) the possible effect on earnings per share and book value per share; (iv) and the potential effect of the trading of the Company’s shares, if Mr. Sandgaard were to sell the shares in the open market. (18) SUBSEQUENT EVENTS There were no subsequent events identified through October 26, 2023. 22 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2022. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2022 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which include electrotherapy and pain management products. As of September 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which were incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. RESULTS OF OPERATIONS Summary Net revenue was $49.9 million and $41.5 million for the three months ended September 30, 2023 and 2022, respectively, and $137.0 million and $109.4 million for the nine months ended September 30, 2023 and 2022, respectively. Net revenue increased 20% and 25% for the three and nine months ended September 30, 2023, respectively. For both the three and nine months ended September 30, 2023, device orders increased 39% and 49%, respectively, from the same periods in 2022. Net income was $3.6 million for the three months ended September 30, 2023 compared with $4.9 million during the same period in 2022. Net income was $8.5 million for the nine months ended September 30, 2023 compared with $9.6 million during the same period in 2022. Cash provided by operating activities was $11.6 million during the nine months ended September 30, 2023 compared with $9.0 million during the same period in 2022. Working capital was $83.1 million and $48.5 million as of September 30, 2023 and December 31, 2022, respectively. 23 Table of Contents Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the condensed financial statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $8.4 million or 20% to $49.9 million for the three months ended September 30, 2023, from $41.5 million for the same period in 2022. Net revenue increased $27.7 million or 25% to $137.0 million for the nine months ended September 30, 2023, from $109.4 million for the same period in 2022. For both the three and nine months ended September 30, 2023, the growth in net revenue from the same periods in 2022 is primarily related to a 39% and 49% growth in device orders, respectively, which resulted from a larger customer base and led to increased sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our products. Device revenue increased $5.5 million or 49% to $16.9 million for the three months ended September 30, 2023, from $11.3 million for the same period in 2022. Device revenue increased $15.0 million or 54% to $42.5 million for the nine months ended September 30, 2023, from $27.6 million for the same period in 2022. For both the three and nine months ended September 30, 2023, the growth in net revenue from the same periods in 2022 is primarily related to a 39% and 49% growth in device orders, respectively. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our electrotherapy products. Supplies revenue increased $2.9 million or 10% to $33.1 million for the three months ended September 30, 2023, from $30.2 million for the same period in 2022. Supplies revenue increased $12.7 million or 16% to $94.5 million for the nine months ended September 30, 2023, from $81.8 million for the same period in 2022. The increase in supplies revenue is primarily related to an increased customer base from increased device orders in 2022 and 2023. 24 Table of Contents Operating Expenses Cost of Revenue – Devices and Supplies Cost of Revenue – devices and supplies consist primarily of device and supply costs, facilities, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended September 30, 2023 increased $1.2 million or 14% to $9.6 million from $8.4 million from the same period in 2022. As a percentage of revenue, cost of revenue – devices and supplies decreased to 19% from 20% for the three months ended September 30, 2023 and 2022, respectively. Cost of revenue for the nine months ended September 30, 2023 increased $5.5 million or 24% to $28.1 million from $22.6 million for the same period in 2022. As a percentage of revenue, cost of revenue – device and supply remained flat at 21% for the nine months ended September 30, 2023 and 2022. The increase in cost of revenue – devices and supplies, in the three and nine months ended September 30, 2023, is due to increased volumes related to higher revenue. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee-related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended September 30, 2023 increased $4.9 million or 29% to $22.1 million from $17.2 million for the same period in 2022. The increase in sales and marketing expense is primarily due to increased commission and incentive pay from increased orders, increased headcount of our sales force, and rising wages in the U.S. due to a very competitive job market. As a percentage of revenue, sales and marketing expense increased to 44% from 41% for the three months ended September 30, 2023 and 2022, respectively, primarily due to the aforementioned expenses, offset by increased revenue. Sales and marketing expense for the nine months ended September 30, 2023 increased $17.0 million or 36% to $65.0 million from $48.0 million for the same period in 2022. The increase in sales and marketing expense is primarily due to increased commission and incentive pay from increased orders, and inflation and rising wages in the U.S. due to a very competitive job market. As a percentage of revenue, sales and marketing expense increased to 47% from 44% for the nine months ended September 30, 2023 and 2022, respectively. The increase as a percentage of revenue is primarily due to the additional expenses noted above, slightly offset by the increase in revenue during the period. General and Administrative Expense General and administrative expenses primarily consist of employee-related costs, and other direct costs associated with these personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for the three months ended September 30, 2023 increased $3.4 million or 36% to $12.7 million from $9.4 million for the same period in 2022. The increase in general and administrative expense for the three months is primarily due to increased compensation and benefit expense related to headcount growth at ZMS and within the billing departments, and professional fees due to additional external resources and additional compliance fees related to Section 404(b) of the Sarbanes-Oxley Act of 2002. As a percentage of revenue, general and administrative expense increased to increased to 26% for the three months ended September 30, 2023 from 23% for the same period in 2022. The increase as a percentage of revenue is primarily due to the items noted above, partially offset by the increase in revenue during the period. General and administrative expense for the nine months ended September 30, 2023 increased $9.5 million or 37% to $35.5 million from $26.0 million for the same period in 2022. The increase in general and administrative expense for the nine months is primarily due to increased compensation and benefit expense related to headcount growth at ZMS and within the billing departments, and increased professional and legal service expenses. As a percentage of revenue, general and administrative expense increased to 26% for the nine months ended September 30, 2023 from 24% for the same period in 2022. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by the increase in revenue during the period. Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 27% and 20% for the three and nine months ended September 30, 2023, respectively. Discrete items, primarily related to the tax impact of the change in fair 25 Table of Contents value of contingent consideration, of $(0.2) million and $2.9 million for the three and nine months ended September 30, 2023, respectively, are recognized as a benefit against income tax expense. For the three and nine months ended September 30, 2023 the Company recorded an income tax expense of approximately $1.4 million and $2.1 million, respectively. The Company recorded income tax expense of $1.5 million and $2.9 million for the three and nine months ended September 30, 2022, respectively. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At September 30, 2023, our principal source of liquidity was $42.5 million in cash and cash equivalents, $9.9 million in short-term investments and $33.3 million in accounts receivable. Net cash provided by operating activities for the nine months ended September 30, 2023 was $11.6 million compared with net cash provided by operating activities of $9.0 million for the nine months ended September 30, 2022. The increase in cash provided by operating activities for the nine months ended September 30, 2023 was primarily due to a decrease in the receivables balance and a decrease in inventory. The increase was partially offset by the change in fair value of contingent consideration. Net cash used in investing activities for the nine months ended September 30, 2023 and 2022 was $10.4 million and $0.3 million, respectively. Cash used in investing activities for the nine months ended September 30, 2023 was primarily related to the purchase of short-term investments, and purchases of property and equipment related to the build out of our facility for the operations of ZMS. Cash used in investing activities for the nine months ended September 30, 2022 was primarily related to the purchase of leasehold improvements for the operations of the ZMS Boulder location and the purchase of computer equipment. Net cash provided by financing activities for the nine months ended September 30, 2023 was $21.2 million compared with net cash used in financing activities of $27.7 million for the same period in 2022. Net cash provided by financing activities for the nine months ended September 30, 2023 was primarily due to $57.0 million in net proceeds from the issuance of the 2023 Convertible Senior Notes, offset by purchases of $24.4 million in treasury stock, and principal payments and termination payments on long-term debt totaling $10.7 million. Net cash used in financing activities for the nine months ended September 30, 2022 was primarily due to purchases of $19.8 million in treasury stock, payments of $3.6 million for cash dividends in January 2022, and principal payments on long-term debt totaling $4.0 million. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash and cash equivalents balance at September 30, 2023 of $42.5 million; ● Our working capital balance of $83.1 million; ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the consolidated financial statements located within our Annual Report on Form 10-K for the year ended December 31, 2022, filed with the Securities and Exchange Commission on March 14, 2023. COVID-19 UPDATE In December 2019, a novel strain of coronavirus (“COVID-19”) emerged and spread to other countries, including the United States. In March 2020, the World Health Organization declared COVID-19 as a pandemic (the “COVID-19 pandemic”). The COVID-19 pandemic, including multiple variants, resulted in governments around the world implementing stringent measures to help control the spread of the virus, including quarantines, “shelter in place” and “stay at home” orders, travel restrictions, business interruptions and other measures. 26 Table of Contents Although the World Health Organization declared an end to the COVID-19 pandemic on May 5, 2023, we continue to actively monitor the impact of COVID-19. While the Company did not incur significant disruptions to its operations during the three and nine months ended September 30, 2023 from COVID-19, the full extent of COVID-19 on our operations and the markets we serve remains uncertain and will depend largely on future developments related to COVID-19, including infection rates increasing or returning in various geographic areas, variations of COVID-19, actions by government authorities to contain the outbreak or treat its impact, such as reimposing previously lifted measures or putting in place additional restrictions, and the widespread distribution and acceptance of an effective vaccine, among other things. Future developments regarding COVID-19 and its effects cannot be accurately predicted. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A. ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Evaluation of disclosure controls and procedures Our management, including our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934), as amended, or the Exchange Act, as of September 30, 2023. Based on management’s review, with participation of our Chief Executive Officer and Chief Financial Officer, the Chief Executive Officer and Chief Financial Officer have concluded that, as of the quarter ended September 30, 2023, our disclosure controls and procedures were not effective due to the material weakness in internal control over financial reporting as described below. Material Weakness in Internal Control We identified a material weakness related to Information Technology General Controls (ITGCs) that were not designed and operating effectively to ensure (i) appropriate segregation of duties was in place to perform program changes and (ii) the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted. The material weakness identified above did not result in any material misstatements in our financial statements or disclosures, and there were no changes to previously released financial results. Our management concluded that the consolidated financial statements included in the Annual Report on Form 10-K, present fairly, in all material respects, our financial position, results of operations, and cash flows for the periods presented in accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP. The effectiveness of our internal control over financial reporting as of December 31, 2022, has been audited by Marcum LLP as stated in their report, which is included in Item 8 of the Annual Report on Form 10-K. Remediation Plan Our management is committed to maintaining a strong internal control environment. In response to the identified material weakness above, management will take comprehensive actions to remediate the material weakness in internal control over financial reporting. We are in the process of developing and implementing remediation plans to address the material weakness described above. Changes in Internal Control over Financial Reporting Except for the items referred to above, there were no changes in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the quarter ended September 30, 2023 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting. Inherent Limitation on the Effectiveness of Internal Control Our management, including our Chief Executive Officer and Chief Financial Officer, do not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by 27 Table of Contents management override of the controls. The design of any system of controls is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with policies or procedures may deteriorate. Due to inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS There have been no material changes from the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022 filed with the SEC on March 14, 2023. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES, USE OF PROCEEDS , AND ISSUER PURCHASES OF EQUITY SECURITIES Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities Total Number of In Thousands Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan July 1 - August 31, 2023 Share repurchase program (1) 619,216 $ 8.24 685,416 4,253 September 1 - September 30, 2023 Share repurchase program (1) 557,476 $ 8.62 1,242,892 — Share repurchase program (2) 667,524 $ 8.36 667,524 4,420 Quarter Total Share repurchase program (1) 1,176,692 $ 8.42 1,242,892 — Share repurchase program (2) 667,524 $ 8.36 667,524 4,420 (1) Shares were purchased through the Company’s publicly announced share repurchase program dated June 13, 2023. The program was fully utilized during the Company's third quarter. (2) Shares were purchased through the Company’s publicly announced share repurchase program dated September 11, 2023. The program expires on September 13, 2024. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION N o n e . 28 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 10.1 Amendment to Stock Purchase Agreement by and among Kestrel Labs, Inc., Zynex Monitoring Solutions Inc., Zynex, Inc. and Selling Shareholders named herein dated as of July 27, 2023 (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K filed with the SEC on July 31, 2023) 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB * XBRL Taxonomy Label Linkbase Document 101.PRE * XBRL Presentation Linkbase Document 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith ** Furnished herewith 29 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat October 26, 2023 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 30 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-K (Mark One) ☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the year ended December 31, 2021 ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 ZYNEX, INC. (Exact name of registrant as specified in its charter) Nevada 90-0275169 (State or other jurisdiction of incorporation or organization) (IRS Employer Identification No.) 9655 Maroon Circle , Englewood , CO 80112 (Address of principal executive offices) (Zip Code) Registrant’s telephone number, including area co ( 303 ) 703-4906 Securities registered pursuant to Section 12(b) of the Ac Title of each class Ticker symbol(s) Name of each exchange on which registered Common Stock, $0.001 par value per share ZYXI The Nasdaq Stock Market LLC Securities registered pursuant to Section 12(g) of the Ac Title of each class Common Stock, $0.001 par value Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. ◻ Yes ⌧ No Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. ◻ Yes ⌧ No Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. ⌧ Yes ◻ No Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). ⌧ Yes ◻ No Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ◻ Accelerated filer ◻ Non-accelerated filer ⌧ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ◻ Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ◻ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). ◻ Yes ⌧ No The aggregate market value of the registrant’s common stock held by non-affiliates of the registrant as of June 30, 2021, the last business day of the Registrant’s last completed second quarter, based upon the closing price of the common stock as reported by the Nasdaq Stock Market on such date was approximately $ 307.6 million. As of March 18, 2022, 41,454,160 shares of common stock are issued and 39,784,068 shares are outstanding. Documents incorporated by referen Portions of the Registrant’s definitive proxy statement relating to its 2021 annual meeting of shareholders (the “ Proxy Statement”) are incorporated by reference into Part III of this Annual Report on Form 10-K where indicated. The Proxy Statement will be filed with the U.S. Securities and Exchange Commission within 120 days after the end of the fiscal year to which this report relates. Table of Contents TABLE OF CONTENTS ZYNEX, INC ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 2021 Page PART I 2 Item 1. Business 2 Item 1A. Risk Factors 11 Item 1B. Unresolved Staff Comments 21 Item 2. Properties 22 Item 3. Legal Proceedings 22 Item 4. Mine Safety Disclosures 22 PART II 22 Item 5. Market For Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 22 Item 6. [R eserved] 23 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 23 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 32 Item 8. Financial Statements and Supplementary Data 32 Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosures 32 Item 9A. Controls and Procedures 32 Item 9B. Other Information 33 Item 9C. Disclosure Regrading Foreign Jurisdictions that Prevent Inspections 33 PART III 33 Item 10. Directors, Executive Officers and Corporate Governance 33 Item 11. Executive Compensation 33 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 33 Item 13. Certain Relationships and Related Transactions, and Director Independence 34 Item 14. Principal Accounting Fees and Services 34 PART IV 35 Item 15. Exhibits, Financial Statement Schedules 35 Item 16. Form 10-K Summary 37 Signatures 38 Table of Contents CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION This report includes statements of our expectations, intentions, plans, and beliefs that constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Nonetheless, it is important for an investor to understand that these statements involve risks and uncertainties. These statements relate to the discussion of our business strategies and our expectations concerning future operations, margins, profitability, liquidity, and capital resources and to analyses and other information that are based on forecasts of future results and estimates of amounts not yet determinable. We have used words such as “may,” “will,” “should,” “expect,” “intend,” “plan,” “anticipate,” “believe,” “think,” “estimate,” “seek,” “expect,” “predict,” “could,” “project,” “potential,” and other similar terms and phrases, including references to assumptions, in this report to identify forward-looking statements. These forward-looking statements are made based on expectations and beliefs concerning future events affecting us and are subject to uncertainties, risks and factors relating to our operations and business environment, all of which are difficult to predict and many of which are beyond our control, that could cause our actual results to differ materially from those matters expressed or implied by these forward-looking statements. Such risks and other factors also include those listed in Item 1A. “Risk Factors and elsewhere in this report and our other filings with the Securities and Exchange Commission. When considering these forward-looking statements, you should keep in mind the cautionary statements in this report and the documents incorporated by reference. New risks and uncertainties arise from time to time, and we cannot predict those events or how they may affect us. We assume no obligation to update any forward-looking statements after the date of this report as a result of new information, future events or developments, except as required by applicable laws and regulations. When used in this annual report, the terms the “Company,” “Zynex”, “we,” “us,” “ours,” and similar terms refer to Zynex, Inc., a Nevada corporation, and its subsidiaries, Zynex Medical, Inc., Zynex NeuroDiagnostics, Inc., Zynex Monitoring Solutions Inc., Kestrel Labs, Inc., Zynex Europe ApS and Pharmazy, Inc. As of the date of this annual report, our only operating subsidiary is Zynex Medical, Inc. (“ZMI”). Zynex Monitoring Solutions, Inc. (“ZMS”) has developed its fluid monitoring system product as described below. 1 Table of Contents PART I ITEM 1. BUSINESS History Zynex, Inc. was founded by Thomas Sandgaard in 1996, when he founded two privately held companies that eventually were folded into Zynex, Inc. Zynex, Inc., a Nevada corporation, is the parent company of and conducts business within five active and inactive subsidiaries. As of December 31, 2021, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO™ CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx™, a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. Food and Drug Administration (“FDA”) for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. As of December 31, 2021, the Company conducts most of its operations through its primary subsidiary, ZMI. ZMS has developed a CM-1500 fluid volume monitoring system which was granted 510(K) clearance in February 2020 by the FDA in the United States of America. ZMS filed a 510K application for the CM-1600 in December 2021, its next generation wireless fluid and blood volume system. ZMS has achieved no revenues to date. Our inactive subsidiaries include ZND and Pharmazy. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. The Company also dissolved its subsidiary Zynex Billing and Consulting, LLC (ZBC) as a result of its long-standing inactivity. Upon dissolution, the Company eliminated its non-controlling interest in ZBC. Substantially all of our consolidated revenue in 2021 and 2020 is attributable to ZMI. Our headquarters are located in Englewood, Colorado. Active Subsidiaries Zynex Medical, Inc. (ZMI): ZMI designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on drugs and medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All of our medical devices are designed to be patient friendly and designed for home use. Our devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of our medical devices are marketed in the U.S. and are subject to FDA regulation and approval. Our products require a physician’s prescription before they can be dispensed in the U.S. Our primary product is the NexWave device. The NexWave is marketed to physicians and therapists by our field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. ZMI distributes complementary products such as lumbar support, cervical traction, knee bracing, and hot/cold therapy. These complement our pain management products and are critical for physicians and therapists. These products require a prescription and are covered by most insurance plans and Medicare. ZMI designs, manufactures, and markets the NeuroMove product. The NeuroMove contains electromyography and electric stimulation technology that is primarily used for stroke, spinal cord and traumatic brain injury rehabilitation (“SCI”), by reaching parts of the brain to re-connect with muscles, also known as neuroplasticity. The NeuroMove product is primarily marketed to medical clinics. Zynex did not have material sales of this product in 2021 or 2020. 2 Table of Contents ZMI also designs, manufactures, and markets the InWave product, an in-home electrical stimulation device used to treat female urinary incontinence. The device requires a prescription and is covered by most insurance plans and Medicare. Zynex did not have material sales of this product in 2021 or 2020. Zynex Monitoring Solutions (ZMS): ZMS was formed in 2011 to develop and market medical devices for non-invasive patient monitoring beginning with our hemodynamic fluid monitor, the Zynex Fluid Monitoring System (“CM-1500”). The fluid volume monitor is a non-invasive medical device for monitoring relative fluid volume changes used in operating and recovery rooms to detect fluid loss during surgery and internal bleeding during recovery. The CM-1500 received 510(k) clearance from the FDA in February 2020. The fluid volume monitor has been tested in several Institutional Review Board (“IRB”) approved studies and was used in several blood donation settings where hundreds of subjects donated half a liter of blood, showing strong correlation to the index on the device. We have built a number of commercial devices in pilot-production and continue to refine the algorithms for the Blood Volume Index (BVI). We have received two U.S. utility patents for this unique application, the first in the fourth quarter of 2018 and the second in January 2021, and we believe this product could serve a currently unmet need in the market for safer surgeries and safer monitoring of patients during recovery. This CM-1500 has recently been subjected to multiple clinical studies, which are being utilized for collecting data to further validate the algorithm used to determine changes in relative fluid volume changes. ZMS completed a clinical trial in December 2021 with Wake Forest University to detect post-operative patient fluid status in the Post-Anesthesia Care Unit (“PACU”). ZMS also started enrollment in clinical trials with Vitalant Research Institute (the research arm of Vitalant, the nation's largest independent, nonprofit blood services provider) to track changes in the device's patented Relative Index during apheresis blood donation procedures and with DaVita Clinical Research characterizing changes in the device's patented Relative Index during hemodialysis procedures where a large volume of fluid is removed from patients. In addition to FDA clearance, we are pursuing European Union (“EU”) Certificate European (“CE”) Marking. CE Marking is a certification that a product meets the standards established by the 28 nations of the EU and qualifies for sale in the EU and 4-nation European Free Trade Association. As ZMS’ products are still in development, ZMS did not produce any revenue for the years ending December 31, 2021, and 2020. In addition to the fluid volume monitor, ZMS filed for a provisional patent for a non-invasive sepsis monitor in December 2020 and an updated utility patent filed in December 2021. Zynex International (Zynex Europe) (ZEU): ZEU was formed in 2012 to further progress Zynex’s international expansion. ZEU is currently conducting business and focused on sales and marketing our products within the international marketplace, upon receipt of necessary regulatory approvals. ZEU did not produce significant revenue for the years ended December 31, 2021, and 2020. SALES AND GROWTH STRATEGIES To date, ZMI accounts for substantially all of our revenue and profit. We are focused on expanding our sales force to address what we believe is an untapped market for electrotherapy products for pain management which has become more attractive due to large competitors exiting the market. As of December 31, 2021, we had approximately 400 field sales representatives on staff or in the hiring process, of which 6 were independent, contract representatives and the remainder were W-2 direct employees. We continue to hire field sales representatives at a rapid rate, focusing on the quality and caliber of each candidate with the goal of having approximately 500-600 sales representatives in the U.S. by the end of 2022. We will be focused on increasing performance management standards for our sales force. 3 Table of Contents In an effort to increase revenue and diversification in order to provide our prescribers and patients with diverse solutions for their pain management needs, we are continually adding new complementary products to our ZMI sales channel, such as our hot/cold therapy, cervical traction, knee braces and LSO back braces. In addition, in March 2020 we introduced a full catalog of over 3,300 physical therapy products to promote in the clinics which we serve. We believe adding these complementary products will increase our market share in the marketplace and, in the future, grow our core business by providing our electrotherapy patients additional non-pharmacological pain relief and complementary products to our manufactured devices. Distribution and Revenue Streams: Currently, substantially all of our revenue is generated through our ZMI subsidiary from our electrotherapy products. We sell through a direct sales force in United States. Our field sales representatives are engaged to sell in predefined geographic markets and are compensated with a base salary and commissions based on fixed amounts depending on the type of product sold and insurance carrier of the patient. Our efforts to date have been focused on the United States market. A significant portion of our revenue is derived from patients with insurance plans held by commercial health insurance carriers or government payers who pay on behalf of their insureds. The remaining portion of revenue is primarily received from workers’ compensation claims and attorneys representing injured patients, hospitals, clinics and private-pay individuals. A large part of our revenue is recurring. Recurring revenue results primarily from the sale of surface electrodes and batteries sent to existing patients with our units. Electrodes and batteries are consumable items that are considered an integral part of our products. Private Labeled Distributed Products In addition to our own products, we distribute, through our sales force, a number of private labeled supplies and complementary products from other domestic manufacturers. These products generally include patient consumables, such as electrodes and batteries plus cervical traction, lumbar support, knee braces and hot/cold therapy. Customarily, there are no formal contracts between vendors in the durable medical equipment industry. Replacement products and components are easily found, either from our own products or other manufacturers, and purchases are made by purchase order. 4 Table of Contents Products We currently market and sell Zynex-manufactured products and distribute complementary products and private labeled supplies for Zynex products, as indicated be Product Name Description Zynex Medical Products NexWave Dual channel, multi-modality IFC, TENS, NMES device NeuroMove Electromyography (EMG) — triggered electrical stimulation device InWave Electrical stimulation for treatment of female urinary incontinence E-Wave NMES device Private Labeled Supplies Electrodes Supplies, re-usable for delivery of electrical current to the body Batteries Supplies, for use in electrotherapy products Distributed Complementary Products Comfortrac/Saunders Cervical traction JetStream Hot/cold therapy LSO Back Braces Lumbar support Knee Braces Knee support Zynex Monitoring Solutions Products CM-1500 Zynex Fluid Monitoring System CM-1600 Zynex Wireless Fluid Monitoring System – Submitted to the FDA, December 2021, not yet FDA cleared. NiCO CO-Oximeter Laser-based Noninvasive CO-Oximeter (Not yet FDA cleared) HemeOx tHb Oximeter Laser-based Total Hemoglobin Pulse Oximeter (Not yet FDA cleared) Product Uses Pain Management and Control Standard electrotherapy is a clinically proven and medically accepted alternative to manage acute and chronic pain. Electrical stimulation has been shown to reduce most types of local pain, such as tennis elbow, neck or lower back pain, arthritis, and others. The devices used to accomplish this are commonly described as the TENS family of devices. Electrotherapy is not known to have any negative side effects, a significant advantage over most pain relief medications. The benefits of electrotherapy can inclu pain relief, increased blood flow, reduced edema, prevention of venous thrombosis, increased range-of-motion, prevention of muscle disuse atrophy, and reduced urinary incontinence. 5 Table of Contents Electrotherapy introduces an electrical current applied through surface electrodes. The electrical current “distorts” a pain signal on its way to the central nervous system and the brain, thus reducing the pain. Additionally, by applying higher levels of electricity, muscles contract and such contraction is believed to assist in the benefits mentioned above. Numerous clinical studies have been published over several decades showing the effectiveness of IFC and TENS for pain relief. Our primary electrotherapy device, the NexWave, has received FDA 510(k) clearance. The NexWave is a digital IFC, TENS and NMES device that delivers pain-alleviating electrotherapy. Stroke and Spinal Cord Injury Rehabilitation Our proprietary NeuroMove product is a Class II medical device that has been cleared by the FDA for stroke and SCI rehabilitation. Stroke and SCI usually affect a survivor’s mobility, functionality, speech, and memory, and the NeuroMove is designed to help the survivor regain movement and functionality. Sales of NeuroMove have not generated material revenue for the years ended December 31, 2021 and 2020. Hemodynamic Monitoring Hemodynamic monitoring is the process of measuring the blood flow and pressure exerted in the heart, veins, and arteries. It provides an assessment of a patient’s circulatory status and their ability to assure cardiac output and oxygen delivery to the body. Maintaining effective circulating blood volume and pressure are key to assuring adequate oxygen saturation and perfusion. Hemodynamic monitoring devices have been historically classified as, (a) invasive, using a central or pulmonary artery catheter, (b) minimally invasive, with the placement of an arterial line, and (c) noninvasive, where no device is inserted into the body for clinical assessment. The Zynex Fluid Monitoring System (CM-1500) and the Zynex Wireless Fluid Monitoring System (CM-1600) are noninvasive monitoring devices designed to measure relative changes in fluid volume in adult patients. Fluid status is determined using Zynex’s proprietary algorithm and expressed as the patented Relative IndexTM, a simple value designed to accurately trend patient vital signs and alert clinicians for early intervention. The Zynex Fluid Monitoring System (CM-1500) was cleared by the FDA in 2020. The Zynex Wireless Fluid Monitoring System (CM-1600) has been submitted to the FDA and is pending clearance. Pulse Oximetry Monitoring Pulse oximetry is a noninvasive method of measuring the oxygen saturation level (SpO2) of arterial blood. As one of the most common medical devices used in and out of hospitals around the world, pulse oximeters have gained widespread clinical acceptance as the standard of care for monitoring oxygen saturation. SpO2 has become the “fifth vital sign”, which, together with heart rate, blood pressure, respiratory rate, and temperature, provides crucial clinical information about a person’s health status. The NiCO™ Noninvasive CO-Oximeter, the first laser-based photoplethysmographic patient monitoring technology, is designed to noninvasively measure and monitor four crucial species of hemoglobin with unprecedented accuracy. The HemeOx™ Total Hemoglobin Pulse Oximeter is designed to noninvasively measure total hemoglobin and oxygen saturation, two critical parameters that typically require invasive arterial blood sampling for measurement. Total hemoglobin is a very commonly ordered blood test in healthcare, and HemeOx™ measures it with the continuous and noninvasive ease of a pulse oximeter at the patient bedside. The NiCO™ Noninvasive CO-Oximeter and the HemeOx™ Total Hemoglobin Pulse Oximeter have not yet been cleared by the FDA. 6 Table of Contents MARKETS Zynex Medical (ZMI): To date, the majority of our revenue has been generated by our ZMI electrotherapy products and private labeled supplies. Thus, we primarily compete in the home electrotherapy market for pain management, with products based on IFC, TENS and NMES devices and consumable supplies. We estimate the annual domestic market for home electrotherapy products at approximately $500 million. During 2020 and 2021, we grew our sales force to approximately 400 direct sales reps to address what we believe is an underserved electrotherapy market. The current opioid epidemic has been declared a health emergency, and we are uniquely positioned to help reduce the amount of opioids prescribed for treatment of chronic and acute pain symptoms. We are committed to providing health care professionals with alternatives to traditional opioid based treatment programs with our prescription-strength products which have no side-effects. This has never been more necessary than it is today considering the staggering statistics. ● Pain impacts the lives of more Americans than diabetes, heart disease, and cancer combined. ● Pain is the leading cause of disability, and seeking treatment for chronic or acute pain is the most common reason American’s seek health care. Approximately 50 million Americans suffer from chronic pain. ● Nearly 20 million Americans experienced high-impact chronic pain, defined as “limiting life or work activities on most days or every day”, in the past 3 months. ● If pharmaceuticals such as opioids continue to be used as the first line of defense, America will continue to see a rise in opioid misuse, addiction and drug-related deaths. We also distribute complementary products such as JetStream Hot/Cold Therapy, Knee bracing, Aspen LSO Back bracing and Comfortrac and Saunders cervical and lumbar traction units, all products targeted at treating acute as well as chronic pain with minimal side-effects. Key characteristics of our electrotherapy market ● Collection cycles of initial payment from insurance carriers can range from less than 30 days to many months and considerably longer for many attorney, personal injury, and workers’ compensation cases. Such delayed payment impacts our cash flow and can slow our growth or strain our liquidity. Collections are also impacted by whether effective billing submissions are made by our billing and collections department to the third-party payers. ● Prior to payment, third-party payers often make or take significant payment adjustments or discounts. This can also lead to denials and billing disputes with third-party payers. ● The majority of our revenue is generated by the sale of medical devices and from recurring patient supplies, specifically from our electrotherapy products sold through ZMI. We are reliant on third-party payer reimbursement. Zynex Monitoring Solutions (ZMS): ZMS is focused on developing products within the non-invasive multi-parameter patient-monitoring marketplace. ZMS is currently focusing on its fluid monitoring system, the recently announced sepsis monitor and the pulse oximetry products acquired in its acquisition of Kestrel. We believe our products, once released into the marketplace (of which there can be no guarantee), will compete against multiple competitors, ranging from large manufacturers with multiple business lines to small manufacturers that offer a limited range of products. We have not yet identified competitors for these products. ZMS has not generated any revenue. 7 Table of Contents Competition Since we are in the market for medical electrotherapy products, we face a mixture of competitors ranging from large manufacturers with multiple business lines to small manufacturers that offer a limited selection of products. Our principal competitors include International Rehabilitative Sciences, Inc. d/b/a RS Medical, EMSI, and H-Wave. In addition, we face competition from providers of alternative medical therapies, such as pharmaceutical companies. RESOURCES Manufacturing and Product Assembly Our manufacturing and product assembly strategy consists of the following elements: ● Compliance with relevant legal and regulatory requirements. ● Use of contract manufacturers as needed, thereby allowing us to quickly respond to changes in volume and avoid large capital investments for assembly and manufacturing equipment of certain product components. We believe there is a large pool of highly qualified contract manufacturers, domestically and internationally, for the type of manufacturing assistance needed for our manufactured devices. ● Utilization of in-house final assembly and test capabilities. ● Development of proprietary software and hardware for all products in house. ● Testing all units in a real-life, in-house environment to help ensure the highest possible quality and patient safety while reducing the cost of warranty repairs. We utilize contract manufacturers located in the U.S. to manufacture components for our NexWave and NeuroMove units and for some of our other products and assemble in-house for our NexWave and NeuroMove units. We do not have long-term supply agreements with our contract manufacturers, but we utilize purchase orders with agreed upon terms for our ongoing needs. We believe there are numerous suppliers that can manufacture our products and provide our required raw materials. Generally, we have been able to obtain adequate supplies of our required raw materials and components. We are always evaluating our suppliers for price, quality, delivery time and service. The reduction or interruption in supply, and an inability to develop alternative sources for such supply, could adversely affect our operations. Intellectual Property Zynex is committed to aggressively protect the intellectual property rights the Company has worked so hard to attain and to expand our intellectual property portfolio for advances to our existing products and for new products as they are developed. Zynex has recently received two new U.S. utility patents, as well as a utility patent in Europe, for our fluid monitoring system. The acquisition of Kestrel Labs, Inc. by Zynex Inc. included an intellectual property portfolio surrounding the acquired laser-based photoplethysmographic technology. This expands both the size and scope of Zynex’s intellectual property portfolio to include key aspects of the exciting pulse oximetry market. Zynex is trademarked in the U.S. We utilize non-disclosure and trade secret agreements with employees and third parties to protect our proprietary information. 8 Table of Contents GOVERNMENT REGULATION US Food and Drug Administration (FDA) All of our ZMI products are classified as Class II (Medium Risk) devices by the FDA, and clinical studies with our products are considered to be NSR (Non-Significant Risk Studies). Our business is regulated by the FDA, and all products typically require 510(k) market clearance before they can be put into commercial distribution. Section 510(k) of the Federal Food, Drug and Cosmetics Act, is available in certain instances for Class II (Medium Risk) products. It requires that before introducing most Class II devices into interstate commerce, the product must first submit information to the FDA demonstrating that the device is substantially equivalent in terms of safety and effectiveness to a device legally marketed prior to March 1976 or to devices that have been reclassified in accordance with the provisions of the Federal Food, Drug, and Cosmetic Act that do not require approval of a premarket approval application. When the FDA determines that the device is substantially equivalent, the agency issues a “clearance” letter that authorizes marketing of the product. We are also regulated by the FDA’s Good Manufacturing Practice (GMP) and Quality Systems Regulation (QSR). We believe that our products have obtained or are good candidates for the requisite FDA clearance or are exempt from the FDA clearance process. In November 2001, Zynex received FDA 510(k) clearance to market NeuroMove. In September 2011, Zynex received FDA 510(k) clearance to market the NexWave, our current generation IFC, TENS and NMES device. In August 2012, Zynex received FDA 510(k) clearance to market the InWave, our next generation muscle stimulator for treatment of female incontinence. Failure to comply with FDA requirements could adversely affect us. International Zynex continues to explore opportunities to gain regulatory clearance for its devices in markets outside of the U.S. CE marking is the medical device manufacturer's claim that a product meets the essential requirements of all relevant European Medical Device Directives. The CE mark is a legal requirement to place a device on the market in the EU. Zynex is currently in the process of applying for CE marking on several of its electrotherapy devices and its CM-1500 Zynex Fluid Monitoring System. The Far East, Middle East, Eastern Europe and Latin American markets have different regulatory requirements. We comply with applicable regulatory requirements within the markets in which we currently sell. If and when we decide to enter additional geographic areas, we intend to comply with applicable regulatory requirements within those markets. Zynex has received ISO13485: 2016 certification for its compliance with international standards in quality management systems for design, development, manufacturing and distribution of medical devices. This certification is not only important as assurance that we have the appropriate quality systems in place but is also crucial to our international expansion efforts as many countries require this certification as part of their regulatory approval. Government Regulation The delivery of health care services and products has become one of the most highly regulated professional and business endeavors in the United States. Both the federal government and individual state governments are responsible for overseeing the activities of individuals and businesses engaged in the delivery of health care services and products. Federal law and regulations are based primarily upon the Medicare and Medicaid programs. Each program is financed, at least in part, with federal funds. State jurisdiction is based upon the state’s interest in regulating the quality of health care in the state, regardless of the source of payment. Many state and local jurisdictions impose additional legal and regulatory requirements on our business including various states and local licenses, taxes, limitations regarding insurance claim submission and limitations on relationships with referral parties. Failure to comply with this myriad of regulations in a particular jurisdiction may subject us to fines or other penalties, including the inability to sell our products in certain jurisdictions. 9 Table of Contents Federal health care laws apply to us when we submit a claim to any other federally funded health care program, in addition to requirements to meet government standards. The principal federal laws that we must abide by in these situations inclu ● Those that prohibit the filing of false or improper claims for federal payment. ● Those that prohibit unlawful inducements for the referral of business reimbursable under federally funded health care programs. The federal government may impose criminal, civil and administrative penalties on anyone who files a false claim for reimbursement from federally funded programs. A federal law commonly known as the “anti-kickback law” prohibits the knowing or willful solicitation, receipt, offer or payment of any remuneration made in return ● The referral of patients covered under federally-funded health care programs; or ● The purchasing, leasing, ordering, or arranging for any goods, facility, items or service reimbursable under those programs. Research and Development During 2021 and 2020, we incurred approximately $2.6 million and $0.8 million, respectively, of research and development expenses. We expect our research and development expenditures to increase in 2022 as our ZMS business expands. HUMAN CAPITAL As of December 31, 2021, we employed 774 full time employees of which approximately 400 are employed as direct sales representatives in the field. Our employees are our most important assets and set the foundation for our ability to achieve our strategic objectives. All of our employees contribute to our success and, in particular, our sales representatives are instrumental in our ability to reach more patients in pain. The success and growth of our business depends in large part on our ability to attract, retain and develop a diverse population of talented and high-performing employees at all levels of our organization. To succeed in a competitive labor market, we have developed recruitment and retention strategies, objectives and measures that we focus on as part of the overall management of our business. These strategies, objectives and measures form our human capital management framework and are advanced through the following programs, policies and initiativ ● Competitive pay and benefits. Our compensation programs are designed to align the compensation of our employees with our performance and to provide the proper incentives to attract, retain, and motivate employees to achieve superior results. ● Training and development. We invest in learning opportunities that foster a growth mindset. Our formal offerings include a tuition reimbursement program, an e-learning program that all corporate employees have access to and in-house learning opportunities through the Company’s Zynex Growth and Development program. ● Health and Wellness. We invest in the health and wellness of our employees by offering monthly benefits and offer programs and support to assist our employees. 10 Table of Contents ITEM 1A. RISK FACTORS RISKS RELATED TO OUR BUSINESS We face risks related to health pandemics, particularly the outbreak of COVID-19 and subsequent variants, which could adversely affect our business and results of operations. Our business could be materially adversely affected by a widespread outbreak of contagious disease, including the recent outbreak of the novel coronavirus, known as COVID-19, which has spread to many countries throughout the world, including the United States. The effects of this outbreak on our business have included and could continue to include temporary closures of our providers and clinics and suspensions of elective surgical procedures. This has and could continue to impact our interactions and relationships with our customers. In addition to temporary closures of the providers and clinics that we serve, we could also experience temporary closures of the facilities of our suppliers, contract manufacturers, or other vendors in our supply chain, which could impact our business, interactions and relationships with our third-party suppliers and contractors, and results of operations. The extent to which the COVID-19 outbreak will impact business and the economy is highly uncertain and cannot be predicted. Accordingly, we cannot predict the extent to which our financial condition, results of operations and value of our common stock will be affected. The uncertainty surrounding the COVID-19 outbreak has caused the Company to increase its inventory in anticipation of possible supply chain shortages related to the COVID-19 virus. While the Company did not incur significant disruptions to its operations during 2020 and 2021, it is unable at this time to predict the impact that the COVID-19 virus will have on its business, financial position and operating results in future periods due to numerous uncertainties. We have encountered significant volatility in our recent operating results. The Company’s results from operations have improved significantly in recent years, but there have been significant volatility in our results over the past five years as reflected in the following table (in millions): Year Revenues Profit 2017 $ 23.4 $ 7.4 2018 $ 31.9 $ 9.6 2019 $ 45.5 $ 9.5 2020 $ 80.1 $ 9.1 2021 $ 130.3 $ 17.1 Our financial results could continue to be volatile, and there is no assurance we will continue our current increase in revenue and profits. We are dependent on reimbursement from third-party payers, most of whom are larger than we are and have substantially more employees and financial resources; changes in insurance reimbursement policies or application of them have resulted in decreased or delayed revenues. A large percentage of our revenues come from third-party payer reimbursement. Most of the third-party payers are large insurance companies with substantially more resources than we have. Upon delivery of our products to our patients, we directly bill the patients’ private insurance companies or government payers for reimbursement. If the third-party payers do not remit payment on a timely basis or if they change their policies to exclude or reduce coverage for our products, we would experience a decline in our revenue as well as cash flow. In addition, we may deliver products to patients and invoice based on past practices and billing experiences only to have third-party payers later deny coverage for such products. In some cases, our delivered product may not be covered pursuant to a policy statement of a third-party payer, despite a payment history with the third-party payer and benefits to the patients. A third-party payer may seek repayment of amounts previously paid for covered products. We maintain an allowance for provider discounts and amounts intended to cover legitimate requests for repayment. Failure to adequately identify and provide for amounts for resolution of repayment demands in our allowance for provider discounts could have a material adverse effect on our results of operations and cash flows. For government health care programs, if we identify a 11 Table of Contents deficiency in prior claims or practices, we may be required to repay amounts previously reimbursed to us by government health care programs. We frequently receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients, and other times include a significant number of refund claims in a single request which can accumulate to a significant amount. We review and evaluate these requests and determine if any refund is appropriate. During the adjudication process we review claims where we are rebilling or pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests, we are generally unable to determine if a refund request is valid. Although we cannot predict whether or when a request for repayment or our subsequent request for reimbursement will be resolved, it is not unusual for such matters to be unresolved for a long period of time. No assurances can be given with respect to our estimates for our allowance for provider discounts refund claim reimbursements and offsets or the ultimate outcome of the refund requests. We at times have concentrations of credit risk with third-party payers; failure to collect these and other billed receivables could adversely affect our cash flows and results of operations. The Company had receivables from one third-party payer at December 31, 2021 which made up approximately 22% of the accounts receivable balance. The Company had receivables from one third-party payer at December 31, 2020, which made up approximately 26% of the accounts receivable balance. Future changes in coverage and reimbursement policies for our products or reductions in reimbursement rates for our products by third party payers could adversely affect our business and results of operations. In the United States, our products are prescribed by physicians for their patients. Based on the prescription, which we consider an order, we submit a claim for payment directly to third-party payers such as private commercial insurance carriers, government payers and others as appropriate and the third-party payer reimburses us directly. Federal and state statutes, rules, or other regulatory measures that restrict coverage of our products or reimbursement rates could have an adverse effect on our ability to sell or rent our products or cause physical therapists and physicians to dispense and prescribe alternative, lower-cost products. There are significant estimating risks associated with the amount of revenue, related refund liabilities, accounts receivable and provider discounts that we recognize, and if we are unable to accurately estimate these amounts, it could impact the timing of our revenue recognition, have a significant impact on our operating results or lead to a restatement of our financial results. There are significant risks associated with the estimation of the amount of revenues, related refund liabilities, accounts receivable, and provider discounts that we recognize in a reporting period. The billing and collection process is complex due to ongoing insurance coverage changes, geographic coverage differences, differing interpretations of coverage, differing provider discount rates, and other third-party payer issues. Determining applicable primary and secondary coverage for our customers at any point in time, together with the changes in patient coverage that occur each month, require complex, resource-intensive processes. Errors in determining the correct coordination of benefits may result in refunds to payers. Revenues associated with government programs are also subject to estimating risk related to the amounts not paid by the primary government payer that will ultimately be collectable from other government programs paying secondary coverage, the patient’s commercial health plan secondary coverage or the patient. Collections, refunds and pay or retractions typically continue to occur for up to three years and longer after our products are provided. While we typically look to our past experience in collections with a payer in estimating amounts expected to be collected on current billings, recent trends and current changes in reimbursement practice, the overall healthcare environment, and other factors nonetheless could ultimately impact the amount of revenues recorded and the receivables ultimately collected. If our estimates of revenues, related refund liabilities, accounts receivable or provider discounts are materially inaccurate, it could impact the timing of our revenue recognition and have a significant impact on our operating results. It could also lead to a restatement of our financial results. 12 Table of Contents Tax laws and regulations require compliance efforts that can increase our cost of doing business and changes to these laws and regulations could impact financial results. We are subject to a variety of tax laws and regulations in the jurisdictions in which we do business. Maintaining compliance with these laws can increase our cost of doing business and failure to comply could result in audits or the imposition of fines or penalties. Further, our future effective tax rates in any of these jurisdictions could be affected, positively or negatively, by changing tax priorities, changes in statutory rates, or changes in tax laws or the interpretation thereof. The most significant recent example of this is the impact of the U.S Tax Cuts and Jobs Act of 2017 (the “Tax Act”) which was enacted on December 22, 2017. These changes significantly revised the ongoing U.S. corporate income tax law by lowering the U.S. federal corporate income tax rate from 35% to 21%, implementing a territorial tax system, imposing a one-time tax on foreign unremitted earnings and setting limitations on deductibility of certain costs, among other things. The Company has implemented the Tax Act and does not expect any significant changes related to the Tax Act at this time. The Patient Protection and Accountability act of 2010 has had an impact on our business which may be in part beneficial and in part detrimental. In March 2010, broad federal health care reform legislation was enacted in the United States. This legislation did not become effective immediately in total, and may be modified prior to the effective date of some provisions. This legislation has had an impact on our business in a variety of ways including increased number of Medicaid recipients, increased number of individuals with commercial insurance, additional audits conducted by public health insurance plans such as Medicaid and Medicare, changes to the rules that govern employer group health insurance and other factors that influence the acquisition and use of health insurance from private and public payers. This legislation has resulted in a change in reimbursement for certain durable medical equipment. We believe the new healthcare legislation and these changes to reimbursement have caused uncertainty with prescribers, which we believe contributed to our drop in orders and revenue during 2013 and 2014 and the lack of any significant increase in 2015. Orders and revenue increased in 2016 through 2021; however, we are currently unable to determine whether such trend will continue in future periods or whether the health care reform legislation will have other adverse consequences to our business and results of operations. To the extent prescribers write fewer prescriptions for our products or there is an adverse change to insurance reimbursement for our products, due to the new law or otherwise, our revenue and profitability will be materially adversely affected. The uncertainty of continuing healthcare changes and regulations may place our business model in doubt. There is some doubt on the continuation of the Affordable Care Act and the legislation that the current Congress will enact to replace it, if any. Because we cannot be certain about the continuation of the Affordable Care Act or any changes or replacements thereto, even if the Affordable Care Act remains the law of the land, there is also some doubt whether the President will support it or take regulatory action to negatively impact its benefits. The amount of uncertainty creates concern on our customer’s willingness to buy products which may, or may not, be covered by future health care benefits even if they are covered currently. Hospitals and clinicians may not buy, prescribe or use our products in sufficient numbers, which could result in decreased revenues and profits. Hospitals and clinicians may not accept any of our products as effective, reliable, or cost-effective. Factors that could prevent such institutional patient acceptance inclu ● If patients conclude that the costs of these products exceed the cost savings associated with the use of these products; ● If patients are financially unable to purchase these products; ● If adverse patient events occur with the use of these products, generating adverse publicity; ● If we lack adequate resources to provide sufficient education and training to our patients; ● If frequent product malfunctions occur, leading clinicians to believe that the products are unreliable; 13 Table of Contents ● Uncertainty regarding or change in government or third-party payer reimbursement policies for our products; and ● If physicians or other health care providers believe that our products will not be reimbursed by insurers or decide to prescribe competing products. Because our sales are dependent on prescriptions from physicians, if any of these or other factors result in fewer prescriptions for our products being written, we will have reduced revenues and may not be able to fully fund our operations. Although we experienced an increase in orders for our ZMI products during 2020 and 2021 compared to prior years, we can make no assurances that demand for our products will not decline in future periods. Any new competitor could be larger than us and have greater financial and other resources than we do, and those advantages could make it difficult for us to compete with them. Many competitors to our products may have substantially greater financial, technical, marketing, and other resources. Competition could result in fewer orders, reduced gross margins, and loss of market share. Our products are regulated by the FDA in the United States. Competitors may develop products that are substantially equivalent to our FDA-cleared products, thereby using our products as predicate devices to more quickly obtain FDA approval for their own products. If overall demand for our products should decrease it could have a material adverse effect on our operating results. Substantial competition is expected in the future in the area of stroke rehabilitation that may directly compete with our NeuroMove product. These competitors may use standard or novel signal processing techniques to detect muscular movement and generate stimulation to such muscles. Other companies may develop rehabilitation products that perform better and/or are less expensive than our products, which could have a material adverse effect on our operating results. Failure to keep pace with the latest technological changes could result in decreased revenues. The market for some of our products is characterized by rapid change and technological improvements. Failure to respond in a timely and cost-effective way to these technological developments could result in serious harm to our business and operating results. We have derived, and we expect to continue to derive, a substantial portion of our revenues from the development and sale of products in the medical device industry. As a result, our success will depend, in part, on our ability to develop and market product offerings that respond in a timely manner to the technological advances of our competitors, evolving industry standards and changing patient preferences. There is no assurance that we will keep up with technological improvements. O ur business could be adversely affected by reliance on sole suppliers. Notwithstanding our current multiple supplier approach, certain essential product components may be supplied in the future by sole, or a limited group of, suppliers. Most of our products and components are purchased through purchase orders rather than through long term supply agreements and large volumes of inventory may not be maintained. There may be shortages and delays in obtaining certain product components. Disruption of the supply or inventory of components could result in a significant increase in the costs of these components or could result in an inability to meet the demand for our products. In addition, if a change in the manufacturer of a key component is required, qualification of a new supplier may result in delays and additional expenses in meeting customer demand for products. These factors could adversely affect our revenues and ability to retain our experienced sales force. A third-party manufacturer’s inability to produce our goods on time and to our specifications could result in lost revenue. Third-party manufacturers assemble and manufacture components of the NexWave and NeuroMove and some of our other products to our specifications. The inability of a manufacturer to ship orders of our products in a timely manner or to meet our quality standards could cause us to miss the delivery date requirements of our patients for those items, which could result in cancellation of orders, refusal to accept deliveries or a reduction in purchase prices, any of which could have a material adverse effect on our revenues. Because of the timing and seriousness of our business, and the medical device industry in particular, the dates on which patients need and require shipments of products from us are critical. Further, because quality is a leading factor when patients, doctors, health insurance providers and distributors accept or reject goods, any decline in quality by our third-party manufacturers could be detrimental not only to a particular order, but also to our future relationship with that particular patient. 14 Table of Contents We could experience cost increases or disruptions in supply of raw materials or other components used in our products. Our third-party manufacturers that assemble and manufacture components for our products expect to incur significant costs related to procuring raw materials required to manufacture and assemble our product. The prices for these raw materials fluctuate depending on factors beyond our control including market conditions and global demand for these materials and could adversely affect our business, prospects, financial condition, results of operations, and cash flows. Further, any delays or disruptions in our supply chain could harm our business. For example, COVID-19, including associated variants, could cause disruptions to and delays in our operations, including shortages and delays in the supply of certain parts, including semiconductors, materials and equipment necessary for the production of our products, and the internal designs and processes we or third-parties may adopt in an effort to remedy or mitigate impacts of such disruptions and delays could result in higher costs. In addition, our business also depends on the continued supply of battery cells for our products. We are exposed to multiple risks relating to availability and pricing of quality battery cells. These risks inclu ● the inability or unwillingness of battery cell manufacturers to build or operate battery cell manufacturing plants to supply the numbers of battery cells (including the applicable chemistries) required to support the growth of the electric or plug-in hybrid vehicle industry as demand for such cells increases; ● disruption in the supply of battery cells due to quality issues or recalls by the battery cell manufacturers; and ● an increase in the cost, or decrease in the available supply of raw materials used in battery cells, such as lithium, nickel, and cobalt. Furthermore, currency fluctuations, tariffs or shortages in petroleum and other economic or political conditions may result in significant increases in freight charges and raw material costs. Substantial increases in the prices for raw materials or components would increase our operating costs and could reduce our margins. We depend upon third parties to manufacture and to supply key semiconductor chip components necessary for our products. We do not have long-term agreements with our semiconductor chip manufacturers and suppliers, and if these manufacturers or suppliers become unwilling or unable to provide an adequate supply of semiconductor chips, with respect to which there is a global shortage, we would not be able to find alternative sources in a timely manner and our business would be adversely impacted. Semiconductor chips are a vital input component to the electrical architecture of our products, controlling wide aspects of the products’ operations. Many of the key semiconductor chips we use in our products come from limited or single sources of supply, and therefore a disruption with any one manufacturer or supplier in our supply chain would have an adverse effect on our ability to effectively manufacture and timely deliver our products. We do not have any long- term supply contracts with any suppliers and purchase chips on a purchase order basis. Due to our reliance on these semiconductor chips, we are subject to the risk of shortages and long lead times in their supply. We are in the process of identifying alternative manufacturers for semiconductor chips. We have in the past experienced, and may in the future experience, semiconductor chip shortages, and the availability and cost of these components would be difficult to predict. For example, our manufacturers may experience temporary or permanent disruptions in their manufacturing operations due to equipment breakdowns, labor strikes or shortages, natural disasters, component or material shortages, cost increases, acquisitions, insolvency, changes in legal or regulatory requirements, or other similar problems. In particular, increased demand for semiconductor chips in 2020, due in part to the COVID-19 pandemic and increased demand for consumer electronics that use these chips, has resulted in a severe global shortage of chips in 2021. As a result, our ability to source semiconductor chips to be used in our products has been adversely affected. This shortage may result in increased chip delivery lead times, delays in the production of our products, and increased costs to source available semiconductor chips. To the extent this semiconductor chip shortage continues, and we are unable to mitigate the effects of this shortage, our ability to deliver sufficient quantities of our products to fulfill our preorders and to support our growth through sales to new customers would be adversely affected. In addition, we may be required to incur additional costs and expenses in managing ongoing chip shortages, including additional research and development expenses, engineering design and development costs in the event that new suppliers must be onboarded on an expedited basis. Further, ongoing delays in production and shipment of products due to a continuing shortage of semiconductor chips may harm our reputation and discourage additional preorders and sales, and otherwise materially and adversely affect our business and operations. 15 Table of Contents If we need to replace manufacturers, our expenses could increase resulting in smaller profit margins. We compete with other companies for the production capacity of our manufacturers and import quota capacity. Some of these competitors have greater financial and other resources than we have, and thus have an advantage in the competition for production and import quota capacity. If we experience a significant increase in demand, or if we need to replace an existing manufacturer, we may have to expand our third-party manufacturing capacity. We cannot assure that this additional capacity will be available when required on terms that are acceptable to us or similar to existing terms, which we have with our manufacturers, either from a production standpoint or a financial standpoint. We enter into a number of purchase order commitments specifying a time for delivery, method of payment, design and quality specifications and other standard industry provisions, but do not have long-term contracts with any manufacturer. None of the manufacturers we use produce our products exclusively. Should we be forced to replace one or more of our manufacturers, we may experience increased costs or an adverse operational impact due to delays in distribution and delivery of our products to our patients, which could cause us to lose patients or lose revenue because of late shipments. W e are a relatively small company with a limited number of products and staff. S ales fluctuations and employee turnover may adversely affect our business. We are a relatively small company. Consequently, compared to larger companies, sales fluctuations could have a greater impact on our revenue and profitability on a quarter-to-quarter and year-to-year basis and delays in patient orders could cause our operating results to vary significantly from quarter to quarter and year-to-year. In addition, as a small company we have limited staff and are heavily reliant on certain key personnel to operate our business. If a key employee were to leave the company it could have a material impact on our business and results of operations as we might not have sufficient depth in our staffing to fill the role that was previously being performed. A delay in filling the vacated position could put a strain on existing personnel or result in a failure to satisfy our contractual obligations or to effectively implement our internal controls, and materially harm our business. If we are unable to retain the services of Mr. Sandgaard or if we are unable to successfully recruit qualified managerial and sales personnel, we may not be able to continue our operations. Our success depends to a significant extent upon the continued service of Mr. Thomas Sandgaard, our Chief Executive Officer, Founder, and beneficial owner of approximately 38% of our outstanding stock. Loss of the services of Mr. Sandgaard could have a material adverse effect on our growth, revenues, and prospective business. There is currently no employment agreement with Mr. Sandgaard. We do not maintain key-man insurance on the life of Mr. Sandgaard. In addition, in order to successfully implement and manage our business plan, we will be dependent upon, among other things, successfully retaining and recruiting qualified managerial and sales personnel. Competition for qualified individuals is intense. Various factors, such as marketability of our products, our reputation, our liquidity, and sales commission structure can affect our ability to find, attract or retain sales personnel. There can be no assurance that we will be able to find and attract qualified new employees and sales representatives and retain existing employees and sales representatives. We need to maintain insurance coverage, which could become very expensive or have limited availability. Our marketing and sales of medical device products creates an inherent risk of claims for product liability. As a result, we carry product liability insurance and will continue to maintain insurance in amounts we consider adequate to protect us from claims. We cannot, however, be assured that we have resources sufficient to satisfy liability claims in excess of policy limits if required to do so. Also, if we are subject to such liability claims, there is no assurance that our insurance provider will continue to insure us at current levels or that our insurance rates will not substantially rise in the future, resulting in increased costs to us or forcing us to either pay higher premiums or reduce our coverage amounts, which would result in increased liability to claims. 16 Table of Contents We depend upon obtaining regulatory approval of any new products and/or manufacturing operations we develop and maintain approvals of current products; failure to obtain or maintain such regulatory approvals could result in increased costs, lost revenue, penalties and fines. Before marketing any new products, we will need to complete one or more clinical investigations of each product. There can be no assurance that the results of such clinical investigations will be favorable to us. We may not know the results of any study, favorable or unfavorable to us, until after the study has been completed. Such data must be submitted to the FDA as part of any regulatory filing seeking approval to market the product. Even if the results are favorable, the FDA may dispute the claims of safety, efficacy, or clinical utility and not allow the product to be marketed. The sales price of the product may not be enough to recoup the amount of our investment in conducting the investigative studies and we may expend significant funds on research and development on products that are rejected by the FDA. Some of our products are marketed based upon our interpretation of FDA regulation allowing for changes to an existing device. If our interpretations are incorrect, we could suffer consequences that could have a material adverse effect on our results of operations and cash flows and could result in fines and penalties. There can be no assurance that we will have the financial resources to complete development of any new products or to complete the regulatory approval process or to maintain regulatory compliance of existing products. We may not be able to obtain clearance of a 510(k) notification or approval of a de novo or pre-market approval application with respect to any products on a timely basis, if at all. If timely FDA clearance or approval of new products is not obtained, our business could be materially adversely affected. Clearance of a 510(k) notification or de novo application may also be required before marketing certain previously marketed products, which have been modified after they have been cleared. Should the FDA so require, the filing of a new 510(k) notification for the modification of the product may be required prior to marketing any modified device. To determine whether adequate compliance has been achieved, the FDA may inspect our facilities at any time. Such compliance can be difficult and costly to achieve and maintain. Our compliance status may change due to future changes in, or interpretations of, FDA regulations or other regulatory agencies. Such changes may result in the FDA withdrawing marketing clearance or requiring product recall. In addition, any changes or modifications to a device or its intended use may require us to reassess compliance with good manufacturing practices guidelines, potentially interrupting the marketing and sale of products. We may also fail to comply with complex FDA regulations due to their complexity or otherwise. Failure to comply with regulations could result in enforceable actions, including product seizures, product recalls, withdrawal of clearances or approvals, and civil and criminal penalties, any of which could have a material adverse effect on our operating results and reputation. O ur products are subject to recall even after receiving FDA or foreign clearance or approval, which would harm our reputation and business. We are subject to medical device reporting regulations that require us to report to the FDA or respective governmental authorities in other countries if our products cause or contribute to a death or serious injury or malfunction in a way that would be reasonably likely to contribute to death or serious injury if the malfunction were to recur. The FDA and similar governmental authorities in other countries have the authority to require the recall of our products in the event of material deficiencies or defects in design or manufacturing. A government mandated or voluntary recall by us could occur as a result of component failures, manufacturing errors or design defects, including defects in labeling. Any recall would divert managerial and financial resources and could harm our reputation with customers. We cannot assure you that we will not have product recalls in the future or that such recalls would not have a material adverse effect on our business. We have not undertaken any voluntary or involuntary recalls to date. We continue to incur expenses. This area of medical device research is subject to rapid and significant technological changes. Developments and advances in the medical industry by either competitors or other parties can affect our business in either a positive or negative manner. Developments and changes in technology that are favorable to us may significantly advance the potential of our research while developments and advances in research methods outside of the methods we are using may severely hinder, or halt completely our development. 17 Table of Contents We are a small company in terms of employees, technical and research resources. We expect to incur research and development, sales and marketing, and general and administrative expenses. These amounts may increase, and recently have in connection with our efforts to expand our sales force, before any commensurate incremental revenue from these efforts may be obtained and may adversely affect our potential profits and we may lack the liquidity to pay for such expenditures. These factors may also hinder our ability to meet changes in the medical industry as rapidly or effectively as competitors with more resources. Substantial costs could be incurred defending against claims of infringement. Other companies, including competitors, may obtain patents or other proprietary rights that would limit, interfere with, or otherwise circumscribe our ability to make, use, or sell products. Should there be a successful claim of infringement against us and if we could not license the alleged infringed technology at a reasonable cost, our business and operating results could be adversely affected. There has been substantial litigation regarding patent and other intellectual property rights in the medical device industry. The validity and breadth of claims covered in medical technology patents involve complex legal and factual questions for which important legal principles remain unresolved. Any litigation claims against us, independent of their validity, may result in substantial costs and the diversion of resources with no assurance of success. Intellectual property claims could cause us t ● Cease selling, incorporating, or using products that incorporate the challenged intellectual property; ● Obtain a license from the holder of the infringed intellectual property right, which may not be available on reasonable terms, if at all; and ● Re-design our products excluding the infringed intellectual property, which may not be possible. We may be unable to protect our trademarks, trade secrets and other intellectual property rights that are important to our business. We consider our trademarks, trade secrets, and other intellectual property an integral component of our success. We rely on trademark law and trade secret protection and confidentiality agreements with employees, customers, partners, and others to protect our intellectual property. Effective trademark and trade secret protection may not be available in every country in which our products are available. We obtained utility patents on the fluid monitoring system in 2021 and 2018 in the U.S. and in 2020 in Europe. We cannot be certain that we have taken adequate steps to protect our intellectual property, especially in countries where the laws may not protect our rights as fully as in the United States. In addition, if our third-party confidentiality agreements are breached, there may not be an adequate remedy available to us. If our trade secrets become publicly known, we may lose competitive advantages. We may fail to protect the privacy, integrity and security of customer information. We possess and process sensitive customer information and Protected Health Information protected by the Health Insurance Portability and Affordability Act (“HIPAA”). While we have taken reasonable and appropriate steps to protect that information, if our security procedures and controls were compromised, it could harm our business, reputation, results of operations and financial condition and may increase the costs we incur to protect against such information security breaches, such as increased investment in technology, the costs of compliance with health care privacy and consumer protection laws. A compromise of our privacy or security procedures could also subject us to liability under certain health care privacy laws applicable to us. Cyber-attacks and security vulnerabilities could lead to reduced revenue, increased costs, liability claims, or harm to our competitive position. Increased sophistication and activities of perpetrators of cyber-attacks have resulted in an increase in information security risks in recent years. Hackers develop and deploy viruses, worms, and other malicious software programs that attack products and services and gain access to networks and data centers. If we experience difficulties maintaining existing systems or implementing new systems, we could incur significant losses due to disruptions in our operations. Additionally, these systems contain valuable proprietary and confidential information and may contain personal data of our customers. A security breach could result in disruptions of our internal systems and business applications, harm to our competitive position from the compromise of confidential business information, or subject us to liability under laws that protect personal data. As cyber threats continue to evolve, we may be required to expend additional resources to continue to enhance our information security measures and/or to investigate and remediate any information security vulnerabilities. Any of these consequences would adversely affect our revenue and margins. 18 Table of Contents Expansion of our operations and sales internationally may subject us to additional risks, including risks associated with unexpected events. A component of our growth strategy is to expand our operations and sales internationally. There can be no assurance that we will be able to successfully market, sell, and deliver our products in foreign markets, or that we will be able to successfully expand our international operations. Global operations could cause us to be subject to unexpected, uncontrollable and rapidly changing risks, events, and circumstances. The following factors, among others, could adversely affect our business, financial condition and results of operatio ● difficulties in managing foreign operations and attracting and retaining appropriate levels of senior management and staffing; ● longer cash collection cycles; ● proper compliance with local tax laws which can be complex and may result in unintended adverse tax consequences; ● difficulties in enforcing agreements through foreign legal systems; ● failure to properly comply with U.S. and foreign laws and regulations applicable to our foreign activities including, without limitation, product approval, healthcare and employment law requirements and the Foreign Corrupt Practices Act; ● fluctuations in exchange rates that may affect product demand and may adversely affect the profitability in U.S. dollars of the products we provide in foreign markets; ● the ability to efficiently repatriate cash to the United States and transfer cash between foreign jurisdictions; and ● changes in general economic conditions or political circumstances in countries where we operate. Our acquisition of other companies could require significant management attention, disrupt our business, dilute stockholder value and adversely affect our operating results. As part of our business strategy, we recently made and may in the future acquire or make investments in other companies, solutions or technologies to, among other reasons, expand or enhance our product offerings. In the future, any significant acquisition would require the consent of our lenders. Any failure to receive such consent could delay or prohibit us from acquiring companies that we believe could enhance our business. We may not ultimately strengthen our competitive position or achieve our goals from our recent or any future acquisition, and any acquisitions we complete could be viewed negatively by users, customers, partners or investors. In addition, if we fail to integrate successfully such acquisitions, or the technologies associated with such acquisitions, into our company, the revenues and operating results of the combined company could be adversely affected. For example, we recently acquired Kestrel Labs, Inc. and we must effectively integrate the personnel, products, technologies and customers and develop and motivate new employees. In addition, we may not be able to successfully retain the customers and key personnel of such acquisitions over the longer term, which could also adversely affect our business. The integration of our recently-acquired business or future-acquired business will require significant time and resources, and we may not be able to manage the process successfully. We may not successfully evaluate or utilize the acquired business and accurately forecast the financial impact of the acquisition, including accounting charges. 19 Table of Contents We may have to pay cash, incur debt or issue equity securities to pay for any acquisition, each of which could affect our financial condition or the value of our capital stock. For example, in connection with our acquisition of Kestrel Labs, Inc., we paid an approximate value of $30.5 million, consisting of $16.1 million in cash which was financed through Bank of America N.A. and approximately $14.4 million in Zynex common stock, a portion of which is held in escrow until certain milestones are achieved. To fund any future acquisition, we may issue equity, which would result in dilution to our stockholders, or incur more debt, which would result in increased fixed obligations and could subject us to additional covenants or other restrictions that would impede our ability to manage our operations. If we are not able to integrate acquired businesses successfully, our business could be harmed. Our inability to successfully integrate our recent and future acquisitions could impede us from realizing all of the benefits of those acquisitions and could severely weaken our business operations. The integration process may disrupt our business and, if implemented ineffectively, may preclude realization of the full benefits expected by us and could harm our results of operations. In addition, the overall integration of the combining companies may result in unanticipated problems, expenses, liabilities, and competitive responses, and may cause our stock price to decline. The difficulties of integrating an acquisition include, among othe ● unanticipated issues in integration of information, communications, and other systems; ● unanticipated incompatibility of logistics, marketing, and administration methods; ● maintaining employee morale and retaining key employees; ● integrating the business cultures of both companies; ● preserving important strategic client relationships; ● consolidating corporate and administrative infrastructures and eliminating duplicative operations; and ● coordinating geographically separate organizations. In addition, even if the operations of an acquisition are integrated successfully, we may not realize the full benefits of the acquisition, including the synergies, cost savings, or growth opportunities that we expect. These benefits may not be achieved within the anticipated time frame, or at all. For example, the failure to get regulatory approval to sell certain products of an acquired business may significantly reduce the anticipated benefits of the acquisition and could harm our results of operations, even if we have put in place contingencies for the delivery of closing consideration, such as the escrowed shares held back in our acquisition of Kestrel Labs, Inc. Further, acquisitions may also cause us t ● issue securities that would dilute our current stockholders’ ownership percentage; ● use a substantial portion of our cash resources; ● increase our interest expense, leverage, and debt service requirements if we incur additional debt to pay for an acquisition; ● assume liabilities, including environmental liabilities, for which we do not have indemnification from the former owners or have indemnification that may be subject to dispute or concerns regarding the creditworthiness of the former owners; ● record goodwill and non-amortizable intangible assets that are subject to impairment testing on a regular basis and potential impairment charges; ● experience volatility in earnings due to changes in contingent consideration related to acquisition liability estimates; ● incur amortization expenses related to certain intangible assets; ● lose existing or potential contracts as a result of conflict of interest issues; ● incur large and immediate write-offs; or ● become subject to litigation. Our failure to comply with the covenants contained in our loan agreement could result in an event of default that could adversely affect our financial condition and ability to operate our business as planned. We currently have an outstanding term loan and line of credit with Bank of America, N.A. under which we are obligated to pay monthly amortization payments. Our loan agreement contains, and any agreements to refinance our debt likely will contain, financial and restrictive covenants. Our failure to comply with these covenants in the future may result in an event of default, which if not cured or waived, could result in the bank preventing us from accessing availability under our line of credit and requiring us to repay any outstanding borrowings. There can be no assurance that we will be able to obtain waivers in the event of covenant violations or that such waivers will be available on commercially acceptable terms. 20 Table of Contents In addition, the indebtedness under our loan agreement is secured by a security interest in substantially all of our tangible and intangible assets, and therefore, if we are unable to repay such indebtedness the bank could foreclose on these assets and sell the pledged equity interests, which would adversely affect our ability to operate our business. If any of these were to occur, we may not be able to continue operations as planned, implement our planned growth strategy or react to opportunities for or downturns in our business. Changes in financial accounting standards or practices may cause adverse, unexpected financial reporting fluctuations and affect our reported results of operations. We are required to prepare our financial statements in accordance with generally accepted accounting principles in the United States of America (“GAAP”), which is periodically revised and/or expanded. From time to time, we are required to adopt new or revised accounting standards issued by recognized authoritative bodies, including the Financial Accounting Standards Board (“FASB”) and the SEC. It is possible that future accounting standards we are required to adopt may require additional changes to the current accounting treatment that we apply to our financial statements and may require us to make significant changes to our reporting systems. Such changes could result in a material adverse impact on our business, results of operations and financial condition. RISKS RELATING TO OUR COMMON STOCK Sales of significant amounts of shares held by Mr. Sandgaard, or the prospect of these sales, could adversely affect the market price of our common stock Sales of significant amounts of shares held by Mr. Sandgaard, or the prospect of these sales, could adversely affect the market price of our common stock. Mr. Sandgaard’s stock ownership may discourage a potential acquirer from making a tender offer or otherwise attempting to obtain control of the Company, which in turn could reduce our stock price or prevent our stockholders from realizing a premium over our stock price. Our existing shareholders may experience dilution if we elect to raise equity capital Due to our past liquidity issues, we have had to raise capital in the form of debt and/or equity to meet our working capital needs. As recent as July 2020, we did raise capital through the issuance of equity to meet our working capital needs and to execute on our business strategy. We may also choose to issue equity or debt securities in the future to meet our liquidity or other needs which would result in additional dilution to our existing stockholders. Although we will attempt to minimize the dilutive impact of any future capital-raising activities, we cannot offer any assurance that we will be able to do so. We may have to issue additional shares of our common stock at prices at a discount from the then-current market price of our common stock. If we raise additional working capital, existing shareholders may experience dilution. We paid a dividend on our common stock, and cash used to pay dividends will not be available for other corporate purposes In 2018, our Board of Directors declared a special one-time dividend of $0.07 per share, which was paid in January 2019. In 2021, our Board of Directors declared a special one-time dividend of $0.10 per share, which was paid in January 2022. The decision to pay dividends in the future will depend on general business conditions, the impact of such payment on our financial condition, and other factors our Board of Directors may consider. If we elect to pay future dividends, this could reduce our cash reserves to levels that may be inadequate to fund expansions to our business plan or unanticipated contingent liabilities. Our stock price could become more volatile and your investment could lose value. All of the factors discussed in this section could affect our stock price. A significant drop in our stock price could also expose us to the risk of securities class actions lawsuits, which could result in substantial costs and divert management’s attention and resources, which could adversely affect our business ITEM 1B. UNRESOLVED STAFF COMMENTS None. 21 Table of Contents ITEM 2. PROPERTIES In October 2017, we signed a lease for a corporate headquarters in Englewood, Colorado beginning in January 2018. In March 2019, we signed an amendment to this lease, which allowed the Company to expand its corporate offices. An additional amendment was entered into on January 3, 2020 which expanded our corporate offices to approximately 85,681 square feet. During 2021, we moved our corporate headquarters to a new location, however, we continue to use the leased property for ZMS operations. The lease and subsequent amendments continue through June 30, 2023 with an option for a two-year extension through June 2025. In addition to our corporate headquarters, we entered into a lease agreement for a warehouse and production facility with approximately 50,488 square feet in September 2020. The lease continues through June 2026 with an option for a five-year extension through June 2031. In April 2021, we signed a sublease for a new corporate headquarters in Englewood, Colorado beginning in May 2021 for up to approximately 110,754 square feet. This lease runs through April 2028. We believe these leased properties are sufficient to support our current requirements and that we will be able to locate additional facilities as needed. See Note 11 to the Consolidated Financial Statements for additional information on these leases. ITEM 3. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 4. MINE SAFETY DISCLOSURES Not applicable. PART II ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES On February 12, 2019, our common stock began trading on The Nasdaq Capital Market under the symbol “ZYXI”. Prior to uplisting to the Nasdaq Capital Market, the Company’s common stock was quoted on the OTCQB (managed by OTC Markets, Inc) under the symbol “ZYXI.” As of March 18, 2022, there were 39,784,068 shares of common stock outstanding and approximately 267 record holders of our common stock. Recent Sales of Unregistered Securities None. Purchases of Equity Securities by the Issuer and Affiliated Purchasers None. Dividends Our Board of Directors declared a one-time special cash dividend of $0.07 per share during the fourth quarter of 2018, which was paid in January 2019 and a one-time cash dividend of $0.10 per share and a 10% stock dividend during the fourth quarter of 2021, which was paid out and issued in January 2022. There can be no guarantee that we will continue to pay dividends. Any future determination to pay cash dividends will be at the discretion of the Board of Directors and will be dependent upon our financial condition, results of operations, capital requirements and such other factors as the Board deems relevant. 22 Table of Contents ITEM 6. [RESERVED] Not required. ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This Annual Report on Form 10-K contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain FDA clearance and CE marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, and other risks described herein and included in “Item 1A-Risk Factors.” OVERVIEW We operate in one primary business segment, electrotherapy and pain management products. As of December 31, 2021, the Company’s only active subsidiary is ZMI, a wholly-owned Colorado corporation, through which the Company conducts its U.S. electrotherapy and pain management operations. ZMS, a wholly-owned Colorado corporation, has developed a fluid monitoring system, which has received two utility patents and FDA approval in the U.S. ZMS also acquired Kestrel during 2021, which had two pulse-oximeter products they are developing and numerous patents. However, ZMS has achieved no revenues to date. The following information should be read in conjunction with our Consolidated Financial Statements and related notes contained in this Annual Report. HIGHLIGHTS During the year ended December 31, 2021, the Company achieved the followin ZMI ● Achieved an 89% increase in order growth, 63% growth in revenue and 88% growth in net income compared to the prior year; ● Due to strong results and related cash flow, we declared a $0.10 cash dividend and a 10% stock dividend in November 2021; ● We moved into a larger corporate office to accommodate order and revenue growth by increasing staffing at the corporate level; and ● Expanded our pain management product line by adding knee braces. 23 Table of Contents ZMS ● Filed for FDA approval of the CM-1600 laser-based fluid monitoring system; and ● Acquired Kestrel Labs, Inc. on December 22, 2021 for an approximate value of $30.5 million, consisting of $16.1 million in cash which is being financed through Bank of America N.A. and approximately $14.4 million in Zynex common stock. SUMMARY Net revenue increased 63% in 2021 to $130.3 million from $80.1 million in 2020. Net income was $17.1 million and $9.1 million for the years ended December 31, 2021, and 2020, respectively. We generated cash flows from operating activities of $6.9 million during the year ended December 31, 2021. Increased orders for our devices and supplies and the related receivables and cash flows, which allowed us to grow our working capital at December 31, 2021 to $59.8 million, compared to $52.9 million as of December 31, 2020. RESULTS OF OPERATIONS The following table presents our consolidated statements of operations in comparative format (in thousands). For the Years Ended December 31, $ 2021 2020 change NET REVENUE Devices $ 36,613 $ 21,269 $ 15,344 Supplies 93,688 58,853 34,835 Total net revenue 130,301 80,122 50,179 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue – devices and supplies 27,321 17,417 9,904 Sales and marketing 54,290 34,133 20,157 General and administrative 26,324 18,323 8,001 Total costs of revenue and operating expenses 107,935 69,873 38,062 Income from operations 22,366 10,249 12,117 Other income/(expense) Loss on disposal of non-controlling interest — (77) 77 Interest expense (95) (19) (76) Other income/(expense), net (95) (96) 1 Income from operations before income taxes 22,271 10,153 12,118 Income tax expense 5,168 1,079 4,089 Net Income $ 17,103 $ 9,074 $ 8,029 Net income per sh Basic $ 0.45 $ 0.24 $ 0.20 Diluted $ 0.44 $ 0.24 $ 0.20 Weighted average basic shares outstanding 38,317 37,256 1,061 Weighted average diluted shares outstanding 39,197 38,438 759 24 Table of Contents The following table presents our consolidated statements of operations reflected as a percentage of total reve For the Years Ended December 31, 2021 2020 NET REVENUE Devices 28 % 27 % Supplies 72 % 73 % Total net revenue 100 % 100 % COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue – devices and supplies 21 % 22 % Sales and marketing 42 % 43 % General and administrative 20 % 23 % Total costs of revenue and operating expenses 83 % 87 % Income from operations 17 % 13 % Other income/(expense) Loss on disposal of non-controlling interest 0 % 0 % Interest expense 0 % 0 % Other income/(expense), net 0 % 0 % Income from operations before income taxes 17 % 13 % Income tax expense 4 % 1 % Net Income 14 % 11 % Net income per sh Basic 0.45 0.24 Diluted 0.44 0.24 Weighted average basic shares outstanding 38,317 37,256 Weighted average diluted shares outstanding 39,197 38,438 Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the health care industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the Consolidated Financial Statements for a more complete explanation of our revenue recognition policies. 25 Table of Contents We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $50.2 million or 63% to $130.3 million for the year ended December 31, 2021, from $80.1 million for the year ended December 31, 2020. The growth in net revenue is primarily related to the 89% growth in device orders which led to an increased customer base and drove higher sales of consumable supplies. Device Revenue Device revenue is related to the purchase or lease of our electrotherapy products as well as complementary products including cervical traction, lumbar support and hot/cold therapy products. Device revenue increased $15.3 million or 72% to $36.6 million for the year ended December 31, 2021, from $21.3 million for the year ended December 31, 2020. The increase in device revenue is related to the growth in our device and complementary product orders of 89% from 2020 to 2021 as a result of greater sales representative productivity. Supplies Revenue Supplies revenue is related to the sale of supplies, typically electrodes and batteries, for our products. Supplies revenue increased $34.8 million or 59% to $93.7 million for the year ended December 31, 2021, from $58.9 million for the year ended December 31, 2020. The increase in supplies revenue is primarily related to growth in our customer base from higher device sales in 2021 and prior years. Operating Expenses Costs of Revenue –Devices and Supplies Costs of revenue – devices and supplies consist primarily of device and supplies costs, operations labor and overhead, shipping and depreciation. Costs of revenue increased $9.9 million or 57% to $27.3 million for the year ended December 31, 2021, from $17.4 million for the year ended December 31, 2020. The increase in costs of revenue is directly related to the increase in device and supplies orders as well as our new production and inventory facility which opened in January 2021. As a percentage of revenue, cost of revenue –devices and supplies decreased to 21% for the year ended December 31, 2021 compared to 22% for the year ended December 31, 2020. The decrease in cost of revenue – devices and supplies as a percentage of revenue was due to expanding our supplier portfolio mix and reducing supply costs. Sales and Marketing Expense Sales and marketing expense primarily consists of employee-related costs, including commissions and other direct costs associated with these personnel including travel and marketing expenses. Sales and marketing expense for the year ended December 31, 2021 increased 59% to $54.3 million from $34.1 million for the year ended December 31, 2020. The increase in sales and marketing expense is primarily due to increased payroll costs, related to increased average direct sales reps during the year and a full year of our regional sales managers which we began adding in 2020. We also increased our internal sales support functions to assist patients during the sales process. Increased orders resulted in higher sales commissions as well as travel expenses. As a percentage of revenue, sales and marketing expense decreased to 42% for the year ended December 31, 2021 from 43% for the year ended December 31, 2020. The decrease as a percentage of revenue is primarily due to the increase in revenue and our sales force becoming more productive. 26 Table of Contents General and Administrative Expense General and administrative expense primarily consists of employee related costs, facilities expense, professional fees and depreciation and amortization. General and administrative expense for the year ended December 31, 2021 increased 44% to $26.3 million from $18.3 million for the year ended December 31, 2020. The increase in general and administrative expense is primarily due to the followin ● an increase of $3.3 million in compensation and benefits expense, including non-cash stock compensation expense, related to headcount growth in ZMI and $0.7M in ZMS. During 2021, the Company increased its average employee headcount for its billing and patient support activities by approximately 55%, or 96 employees; ● an increase of $2.6 million in other expenses, including professional fees, research and development supplies, sales tax, temporary labor costs and other general and administrative costs associated with the increase in order volumes; and ● an increase of $1.1 million in rent and facilities expenses as we entered into a new corporate headquarters lease during 2021. Much of the increase in facilities was non-cash as we received 21 months of free rent on the new corporate headquarters but for GAAP purposes the rent over the lease term is expensed on a straight-line basis. As a percentage of revenue, general and administrative expense decreased to 20% for the year ended December 31, 2021 from 23% for the year ended December 31, 2020. The decrease as a percentage of revenue is primarily due to increased revenue and leveraging our investment in general and administrative functions from prior years. The Company expects that general and administrative expenses will continue to increase through 2022 as the Company continues to expand its corporate headcount to accommodate continued order growth. Other Income (Expense) Other expense was $95,000 for the year ended December 31, 2021, of which $41,000 was related to interest on our finance lease obligations, $13,000 was related to interest on new debt. Other expense was $96,000 for the year ended December 31, 2020. Income Tax Expense We recorded income tax expense of $5.2 million and $1.1 million for the years ended December 31, 2021 and 2020, respectively. The effective income tax rate for the years ended December 31, 2021 and 2020 was 24% and 10%, respectively. The increase in expense and effective rate during 2021 is primarily due to a decrease in deductions related to stock option exercises. During 2021, discrete items related to stock-based compensation was $0.2 million as compared with $1.7 million in 2020. FINANCIAL CONDITION As of December 31, 2021, we had working capital of $59.8 million, compared to $52.9 million as of December 31, 2020. The increase in working capital is primarily due to the Company’s profitability from increased orders and related revenue during 2021. The increase in working capital is net of a cash dividend declared of $3.6 million which was paid in January 2022. We generated $6.9 million in operating cash flows during 2021. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. As of December 31, 2021, our principal source of liquidity was $42.6 million in cash and $28.6 million in accounts receivables. The increased cash balance at December 31, 2021 was primarily due to the profitability during the year as a result of increased orders and improved sales rep productivity. 27 Table of Contents Upon closing on the Kestrel acquisition we entered into a loan and credit facility agreement with Bank of America, N.A. The credit facility includes a line of credit in the amount of $4.0 million available until December 1, 2024. The loan is a fixed rate term loan in the amount of $16.0 million and has an interest rate equal to 2.8% per year. The term loan is payable in equal principal installments of $444,444 per month through December 1, 2024 plus interest on the first day of each month beginning January 1, 2022. See Note 7. Our anticipated uses of cash in the future will be to fund the expansion of our business. The Company does not anticipate any large expenditures for capital resources over the next 12 months. Net cash provided by operating activities for the years ended December 31, 2021 and 2020 was $6.9 million and $0.8 million, respectively. The increase in cash provided by operating activities for the year ended December 31, 2021 was primarily due to increased profitability in 2021 and an increase in non-cash lease expense and depreciation. The increase in cash provided by operating activities was partially offset by an increase in AR and Inventory. Cash provided by operating activities for the year ended December 31, 2020 was primarily due to profitability, which was offset by increased accounts receivable due to revenue growth. Net cash used in investing activities for the years ended December 31, 2021 and 2020 was $16.6 million and $1.0 million, respectively. Cash used in investing activities for the year ended December 31, 2021 was primarily related to the acquisition of Kestrel and the purchase of computer, office and warehouse equipment. Cash used in investing activities for the year ended December 31, 2020 was primarily related to the purchase of computer and office equipment. Net cash provided by financing activities for the year ended December 31, 2021 was $13.1 million compared with net cash provided by financing activities of $25.3 million for the year ended December 31, 2020. The cash provided by financing activities of $13.1 million for the year ended December 31, 2021 was primarily due to net proceeds from debt assumed in the Kestrel acquisition of $16.0 million, which is slightly offset by the purchase of treasury stock totaling $2.7 million. The $25.3 million of cash provided by financing activities for the year ended December 31, 2020 was primarily due to an equity offering in July 2020 for net proceeds of $25.2 million along with net proceeds from the exercise of stock options of $0.1 million. During 2021 there was no equity offering. We believe our cash, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash balance at December 31, 2021 of $42.6 million; ● Our working capital balance of $59.8 million; ● Our accounts receivable balance of $28.6 milli ● Our increasing profitability over the last 6 years; and ● Our planned capital expenditures of less than $1.0 million during 2022. 28 Table of Contents Contractual Obligations The following table summarizes the future cash disbursements to which we are contractually committed as of December 31, 2021 (in thousands). Total 2022 2023 2024 2025 2026 Thereafter Operating leases 21,190 3,569 2,982 3,496 3,567 3,362 4,214 Finance leases 513 154 152 116 76 15 — $ 21,703 $ 3,723 $ 3,134 $ 3,612 $ 3,643 $ 3,377 $ 4,214 We lease office and warehouse facilities under non-cancelable operating leases. The current office facility leases include our corporate headquarters and a production warehouse, both located in Englewood, Colorado. We also rent a small warehouse/office in Denmark. Rent expense was $3.5 million and $1.7 million for the years ended December 31, 2021 and 2020, respectively. A portion of the increase in facilities was non-cash as we received 21 months of free rent on the new corporate headquarters but for GAAP purposes the rent over the lease term is expensed on a straight-line basis. The Company also leases office equipment for its corporate and warehouse facilities under non-cancelable finance lease agreements. Off – Balance Sheet Arrangements As of December 31, 2021, and 2020, we had no off-balance sheet arrangements or obligations. CRITICAL ACCOUNTING POLICIES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with GAAP. We have identified the policies below as critical to our business operations and the understanding of our results of operations. Revenue Recognition and Accounts Receivable Revenue is generated primarily from sales and leases of our electrotherapy devices and related supplies and complementary products. Sales are primarily made with, and shipped, direct to the patient with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contract with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. Device Sales Device sales can be in the form of a purchase or a lease. Revenue for purchased devices is recognized in accordance with Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (ASC 606) when the device is delivered to the patient. 29 Table of Contents Revenue related to devices out on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, we concluded our transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since our leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Supplies Supplies revenue is recognized once delivered to the patient. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. Variable consideration A significant portion of the Company’s revenues are derived, and the related receivables are due, from patients with commercial or government health insurance plans. Revenues are estimated using the portfolio approach by third party payer type based upon historical rates of collection, the aging of receivables, trends in the historical reimbursement rates by third-party payer types and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Due to continuing changes in the health care industry and third-party payer reimbursement, it is possible our forecasting model to estimate collections could change, which could have an impact on our results of operations and cash flows. Any differences between estimated settlements and final determinations are reflected as an increase or a reduction to revenue in the period when such final determinations are known. Historically these differences have been immaterial and the Company has not had to go back and reassess the adjustments of future periods for past billing adjustments. The Company monitors the variability and uncertain timing over third-party payer types in our portfolios. If there is a change in our third-party payer mix over time, it could affect our net revenue and related receivables. We believe we have a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. 30 Table of Contents Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved. Income Taxes Significant judgment is required in determining our provision for income taxes. We assess the likelihood that our deferred tax asset will be recovered from future taxable income, and to the extent we believe that recovery is not likely, we establish a valuation allowance. We consider future taxable income projections, historical results and ongoing tax planning strategies in assessing the recoverability of deferred tax assets. However, adjustments could be required in the future if we determine that the amount to be realized is less or greater than the amount that we recorded. Such adjustments, if any, could have a material impact on our results of our operations. We use a recognition threshold and a measurement attribute for the financial statement recognition and measurement of tax positions taken or expected to be taken in a tax return. For those benefits to be recognized, a tax position must be more-likely-than-not to be sustained upon examination by taxing authorities. Acquisition Method of Accounting for Business Combinations We allocate the purchase price of acquired companies to the tangible and intangible assets acquired and liabilities assumed based on their estimated fair values. The excess of the purchase price over these fair values is recorded as goodwill. We engage independent third-party valuation specialists to assist us in determining the fair values of certain assets acquired and liabilities assumed. Such valuation require management to make significant estimates and assumptions, especially with respect to intangible assets. Different valuations approaches are used to value different types of intangible assets. Under the income approach, the relief from royalty method is a valuation technique which is used to estimate the value of certain intangible assets. This method utilizes projected financial information and hypothetical royalty rates to estimate the cost savings associated with asset ownership. The estimated cost savings are discounted for risk and the time value of money to estimate an intangible asset’s fair value. Management’s estimates of fair value are based upon assumptions believed to be reasonable, but which are inherently uncertain and unpredictable. If we do not achieve the results reflected in the assumptions and estimates, our goodwill impairment evaluations could be adversely affected, and we may impair a portion or all of our intangible assets, which would adversely affect our operating results in the period of impairment. Impairment of Long-lived Assets, including Goodwill We assess impairment of goodwill annually and other long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Long-lived assets consist of property and equipment, net and goodwill and intangible assets. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Contingent considerations We classify contingent consideration liabilities related to business acquisitions within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. We estimate the fair value of contingent consideration liabilities using a Monte Carlo simulation which is based on equity volatility, the risk-free rate, the normal variate, projected milestone dates, discount rates, and probabilities of payment. 31 Table of Contents ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK As a “Smaller Reporting Company”, this Item and the related disclosure is not required. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The consolidated financial statements, the notes thereto, and the report thereon of Plante & Moran, PLLC, are filed as part of this report starting on page F-1. ITEM 9. CHANGES IN ACCOUNTANTS None. ITEM 9A. CONTROLS AND PROCEDURES Evaluation of disclosure controls and procedures. We maintain “disclosure controls and procedures,” as such term is defined in Rule 13a-15(e) and 15d-15(f) under the Securities Exchange Act of 1934 (the “Exchange Act”), that are designed to provide reasonable assurance that information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. Our management, with the participation of the Chief Executive Officer and the Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures as of the end of the period covered by this Annual Report on Form 10-K. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were effective as of the end of such period. In designing and evaluating our disclosure controls and procedures, management recognized that disclosure controls and procedures, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the disclosure controls and procedures are met. Additionally, in designing disclosure controls and procedures, we are required to apply judgment in evaluating the cost-benefit relationship of possible disclosure controls and procedures. The design of any disclosure controls and procedures also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Management’s report on internal control over financial reporting. Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f). All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the 2013 framework set forth in the report entitled Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). The COSO framework summarizes each of the components of a company’s internal control system, including (i) the control environment, (ii) risk assessment, (iii) control activities, (iv) information and communication, and (v) monitoring. Based on our evaluation under the 2013 framework in Internal Control — Integrated Framework, our management concluded that our internal control over financial reporting was effective as of December 31, 2021. Changes in Internal Control over Financial Reporting During the quarter ended December 31, 2021, there was no change in our internal control over financial reporting or in other factors that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 32 Table of Contents ITEM 9B. OTHER INFORMATION None. ITEM 9C. DISCLOSURE REGARDING FOREIGN JURISDICTIONS THAT PREVENT INSPECTIONS Not applicable. PART III ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2021 in connection with the solicitation of proxies for the Company’s 2022 annual meeting of shareholders and is incorporated herein by reference. ITEM 11. EXECUTIVE COMPENSATION The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2021 and is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS. EQUITY COMPENSATION PLAN INFORMATION The following table provides information as of December 31, 2021 regarding shares of common stock available for issuance under our equity incentive plans (in thousands except exercise price) Number of Number of Securities Securities to be Remaining Available Issued Upon Weighted for Future Issuance Exercise of Average Exercise Under Equity Outstanding Price of Compensation Plans Options, Outstanding (excluding securities Warrants Options, Warrants reflected in the first and Rights and Rights column) Plan Category 2005 Stock Option Plan (1) (2) 325 $ 0.27 — Equity Compensation Plans not approved by Shareholders 28 0.22 — Warrants 99 2.40 2017 Stock Option Plan (3) 867 1.09 3,937 Total 1,319 $ 0.97 3,937 (1) All of these securities are available for issuance under the Zynex, Inc. 2005 Stock Option Plan, approved by the Board of Directors on January 3, 2005 and by our stockholders on December 30, 2005. (2) As of December 31, 2014, the 2005 Stock Option Plan was terminated. Termination of the plan did not affect the rights and obligations of the participants and the company arising under options previously granted. (3) The 2017 Stock Option Plan was approved by shareholders on June 1, 2017. The additional information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2021 and is incorporated herein by reference. 33 Table of Contents ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2021 and is incorporated herein by reference. The Board of Directors has determined that Messrs. Cress, Disbrow and Michaels who together comprise the Audit Committee, are all “independent directors” within the meaning of Rule 5605 of the NASDAQ Listing Rules. ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2021 and is incorporated herein by reference. 34 Table of Contents PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES Consolidated Financial Statements: Report of Independent Registered Public Accounting Firm ( Plante & Moran, PLLC , Denver, CO PCAOB firm ID 166 ) F-1 Consolidated Balance Sheets as of December 31, 2021 and 202 0 F-4 Consolidated Statements of Income for the years ended December 31, 2021 and 202 0 F-5 Consolidated Statements of Cash Flows for the years ended December 31, 2021 and 202 0 F-6 Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2021 and 202 0 F-7 Notes to Consolidated Financial Statements F-8 Exhibits: Exhibit Number Description 2.1 Asset Purchase Agreement, dated March 9, 2012, among Zynex NeuroDiagnostics, Inc., NeuroDyne Medical Corp. and the shareholders listed on Schedule A thereto (incorporated by reference to Exhibit 10.1 of the Company’s Current Report on Form 8-K filed on March 13, 2012) 3.1 Amended and Restated Articles of Incorporation (incorporated by reference to Exhibit 10.1 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 3.2 Amended and Restated Bylaws (incorporated by reference to Exhibit 10.2 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 4.1 Zynex, Inc 2017 Stock Incentive Plan (incorporated by reference to Exhibit 4.1 to the Company’s Report on form S-8 filed on September 6, 2017) 4.2* Description of registrant’s securities registered pursuant to Section 12 of the Securities Exchange Act of 1934 10.1† 2005 Stock Option Plan (incorporated by reference to Exhibit 10.5 of the Company’s Annual Report on Form 10-KSB for the year ended December 31, 2004) 10.2† Form of Indemnification Agreement for directors and executive officers (incorporated by reference to Exhibit 10.3 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 10.3† Employment agreement for Daniel J. Moorhead dated June 5, 2017 (incorporated by reference of Exhibit 10.1 to the Company’s Report on Form 8K filed on June 8, 2017) 10.4 Office Lease, effective October 20, 2017, between CSG Systems, Inc. and Zynex Medical, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on October 26, 2017). 10.5 Zynex, Inc. Non-Employee Director Compensation Plan (incorporated by reference to Exhibit 10.1 to the Company’s Report on Form 8-K filed on January 11, 2018) 10.6 Equity Distribution Agreement, dated October 29, 2019 between Zynex, Inc. and Piper Jaffray & Co. (incorporated by reference to Exhibit 1.1 of the Company’s Current Report on Form 8-K filed on October 29, 2019) 10.7 Amendment to Sublease Agreement, effective January 3, 2020, between CSG Systems, Inc. and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on January 7, 2020 35 Table of Contents Exhibit Number Description 10.8 Underwriting Agreement dated July 14, 2020, among certain selling stockholders, Piper Sandler & Co., and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on July 17, 2020) 10.9 Lease Agreement, effective September 30, 2020, between GIG CW Compark, LLC and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on October 6, 2020). 10.10 Sublease Agreement between Zynex, Inc. and Cognizant Trizetto Software Group, Inc. dated April 8, 2021 (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on April 9, 2021) 10.11 Stock Purchase Agreement by and among Kestrel Labs, Inc., Zynex Monitoring Solutions Inc., Zynex, Inc. and Selling Shareholders named herein dated as of December 22, 2021 (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on December 23, 2021) 10.12 The Loan Agreement and accompanying documents dated December 22, 2021 among Bank of America N.A., Zynex Medical, Inc., and Zynex Monitoring Solutions (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on December 30, 2021) 36 Table of Contents Exhibit Number Description 21* Subsidiaries of the Company 23.1* Consent of Plante & Moran, PLLC, Independent Registered Public Accounting Firm (Filed herewith) 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1* Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2* Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB* XBRL Taxonomy Label Linkbase Document 101.PRE* XBRL Presentation Linkbase Document 101.DEF* XBRL Taxonomy Extension Definition Linkbase Document 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith † Denotes management contract or compensatory plan or arrangement ITEM 16. FORM 10-K SUMMARY None. 37 Table of Contents SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ZYNEX, INC. Date: March 21, 2022 By : /s/ Thomas Sandgaard Thomas Sandgaard Chairman, President Chief Executive Officer and Principal Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Date Name and Title Signature March 21, 2022 Thomas Sandgaard, /s/ Thomas Sandgaard Chairman, President, Chief Executive Officer and Principal Executive Officer March 21, 2022 Daniel Moorhead /s/ Daniel Moorhead Chief Financial Officer and Principal Financial Officer March 21, 2022 Barry D. Michaels /s/ Barry D. Michaels Director March 21, 2022 Michael Cress /s/ Michael Cress Director March 21, 2022 Joshua R. Disbrow /s/ Joshua R. Disbrow Director 38 Table of Contents Report of Independent Registered Public Accounting Firm To the Stockholders and Board of Directors of Zynex, Inc. Opinion on the Financial Statements We have audited the accompanying consolidated balance sheets of Zynex, Inc. (the “Company”) as of December 31, 2021 and 2020, the related consolidated statements of income, stockholders' equity, and cash flows for each of the years in the two-year period ended December 31, 2021, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2021 and 2020, and the results of its operations and its cash flows for each of the years in the two-year period ended December 31, 2021, in conformity with accounting principles generally accepted in the United States of America. Basis for Opinion The Company's management is responsible for these financial statements. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion. Critical Audit Matters The critical audit matters communicated below are matters arising from the current period audit of the financial statements that were communicated or required to be communicated to the audit committee and that (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing a separate opinion on the critical audit matters or on the accounts or disclosures to which they relate. Estimation of Transaction Price and Variable Consideration for Revenue Recognition including related Valuation of Accounts Receivable – Refer to Note 2 to the Financial Statements Critical Audit Matter Description As described in Note 2 to the financial statements, revenue is derived from sales and leases of electrotherapy devices and sales of related supplies and complementary products. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. The Company estimates revenues using the portfolio approach based upon historical rates of collection, aging of receivables, product mix, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated variable consideration and relevant constraints for third-party payer refund requests, deductions and adjustments. F-1 Table of Contents We identified the Company's estimation of transaction price related to variable consideration for revenue recognition including the related valuation of accounts receivable as a critical audit matter. Auditing the Company's determination of variable consideration and the related constraint for revenue recognition including the recorded value for accounts receivable was challenging and complex due to the high degree of subjectivity involved in evaluating management’s estimates. This required a high degree of auditor judgment and increased extent of effort to audit and evaluate management’s key judgments. How the Critical Audit Matter Was Addressed in the Audit Our audit procedures related to revenue recognition and accounts receivable include the following, among othe ● We gained an understanding of the design of the controls over the Company's contracts with customers including those controls over the processes to develop key management estimates. ● We performed testing throughout the year on a sample of contracts to test the validity of sales transactions and cash receipts application. ● We also performed testing throughout the year on a quarterly basis over subsequent collections on recorded receivables. ● We evaluated the significant assumptions and the accuracy and completeness of the underlying data used in management’s calculations, including evaluating management’s estimate of historical reimbursement experience as well as expected future payment behavior through a combination of underlying data validation by inspection of source documents, independent recalculation of management’s analysis, review of correspondence with third-party payers, inquiries with management and evaluation of trends in collection rates and refund requests. ● We performed independent sensitivity analyses over the Company's significant assumptions embodied within their key estimates including evaluation of subsequent payment activity compared with management’s estimate of expected collection rates. Business Combination – Refer to Note 3 to the Financial Statements Critical Audit Matter Description As described in Note 3 to the financial statements, the Company acquired Kestrel Labs, Inc. (“Kestrel”) on December 22, 2021 for consideration of $30.5 million, including cash, stock and contingent consideration. The acquisition of Kestrel was accounted for under the acquisition method of accounting for business combinations. As such, assets acquired and liabilities assumed were recorded at their estimated fair values, including intangible assets of $10 million and contingent consideration of $9.7 million, as of the acquisition date. The contingent consideration consisted of potential payments in common stock of the Company for achieving FDA submission and approval and is remeasured to fair value each reporting period. The determination of fair value of identified intangible assets and contingent consideration required management to make significant estimates and assumptions and engage a valuation firm to assist with estimating the fair value of the intangible asset and contingent consideration liability. We identified the valuation of the intangible asset and contingent consideration liability as a critical audit matter. Auditing the Company’s accounting for the acquisition of Kestrel was challenging and complex due to the degree of subjectivity involved in evaluating the estimation uncertainty and key assumptions involved in determining the fair value of acquisition-related contingent consideration and intangible assets. Auditing the key assumptions in management’s estimates required a high degree of auditor judgment and increased effort. How the Critical Audit Matter Was Addressed in the Audit Our audit procedures related to the assumptions impacting the fair value calculation of the acquisition-related contingent consideration and intangible asset included the following, among othe Related to valuation of the acquisition-related contingent consideration liability: ● We gained an understanding of the design of the controls over the Company's accounting for the acquisition including controls over the process to develop estimates for the contingent consideration. F-2 Table of Contents ● We inquired of management to understand each milestone and key assumptions, including current progress and any results received to date and stock price volatility. ● We evaluated the reasonableness of the key assumptions by comparing them (1) internal communications to management and the Board of Directors, (2) information included in the Company’s external communications, and (3) regulatory trends to consider the impact of changes in the regulatory environment on the key assumptions. ● We independently corroborated the reasonableness of the key assumptions by verifying the process and timing necessary to achieve each milestone. ● With the assistance of our fair value specialists, we evaluated the reasonableness of the significant valuation assumptions and calculations by o Evaluating the appropriateness of the method used for estimating fair value, o Evaluating the reasonableness of the valuation assumptions utilized, including the discount rate, and o Testing the completeness and mathematical accuracy of the model used to determine the estimated fair value of the contingent consideration. Related to the valuation of intangible ass ● We gained an understanding of the design of the controls over the Company's accounting for the acquisition including controls over the process to develop estimates for the intangible asset. ● We inquired of management and the Company’s personnel to understand the key assumptions, including revenue growth rates, projected margins, and the royalty rate. ● We evaluated whether the assumptions used were reasonable by considering industry data and current market forecasts, and whether such assumptions were consistent with evidence obtained in other areas of the audit. ● With the assistance of our fair value specialists, we evaluated the reasonableness of the significant valuation assumptions and calculations by o Evaluating the appropriateness of the method used for estimating fair value, o Evaluating the reasonableness of the valuation assumptions utilized, including the discount rate, and o Testing the completeness and mathematical accuracy of the calculation used to determine the estimated fair value of the intangible asset. /s/ Plante & Moran, PLLC We have served as the Company’s auditor since 2016. Denver, Colorado March 21, 2022 F-3 Table of Contents ZYNEX, INC. CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) December 31, December 31, 2021 2020 ASSETS Current assets: Cash $ 42,612 $ 39,173 Accounts receivable, net 28,632 13,837 Inventory, net 10,756 8,635 Prepaid expenses and other 689 1,378 Total current assets 82,689 63,023 Property and equipment, net 2,186 1,925 Operating lease asset 16,338 5,993 Finance lease asset 389 321 Deposits 585 347 Intangible assets, net of accumulated amortization 9,975 — Goodwill 20,401 — Deferred income taxes 711 566 Total assets $ 133,274 $ 72,175 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable and accrued expenses 4,739 4,709 Cash dividends payable 3,629 8 Operating lease liability 2,859 2,051 Finance lease liability 118 77 Income taxes payable 2,296 280 Current portion of debt 5,333 — Accrued payroll and related taxes 3,897 2,992 Total current liabilities 22,871 10,117 Long-term liabiliti Long-term portion of debt, less issuance costs 10,605 — Contingent consideration 9,700 — Operating lease liability 15,856 4,920 Finance lease liability 317 283 Total liabilities 59,349 15,320 Commitments and contingencies Stockholders' equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of December 31, 2021 and December 31, 2020 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,400,834 issued and 39,737,890 outstanding as of December 31, 2021 (including 3,606,970 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 39,739,368 issued and 38,244,310 outstanding as of December 31, 2020 (including 3,452,379 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 41 36 Additional paid-in capital 80,397 37,235 Treasury stock of 1,246,399 and 1,071,220 shares, at December 31, 2021 and 2020, respectively, at cost ( 6,513 ) ( 3,846 ) Retained earnings — 23,430 Total stockholders' equity 73,925 56,855 Total liabilities and stockholders' equity $ 133,274 $ 72,175 See accompanying notes to consolidated financial statements. F-4 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) YEARS ENDED DECEMBER 31, 2021 AND 2020 For the Years Ended December 31, 2021 2020 NET REVENUE Devices $ 36,613 $ 21,269 Supplies 93,688 58,853 Total net revenue 130,301 80,122 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 27,321 17,417 Sales and marketing 54,290 34,133 General and administrative 26,324 18,323 Total costs of revenue and operating expenses 107,935 69,873 Income from operations 22,366 10,249 Other income/(expense) Loss on disposal of non-controlling interest — ( 77 ) Interest expense ( 95 ) ( 19 ) Other income/(expense), net ( 95 ) ( 96 ) Income from operations before income taxes 22,271 10,153 Income tax expense 5,168 1,079 Net Income $ 17,103 $ 9,074 Net income per sh Basic $ 0.45 $ 0.24 Diluted $ 0.44 $ 0.24 Weighted average basic shares outstanding 38,317 37,256 Weighted average diluted shares outstanding 39,197 38,438 See accompanying notes to consolidated financial statements. F-5 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) YEARS ENDED DECEMBER 31, 2021 AND 2020 For the Years Ended December 31, 2021 2020 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 17,103 $ 9,074 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation 2,261 1,572 Amortization 25 — Non-cash reserve charges ( 107 ) ( 238 ) Stock-based compensation 1,630 2,681 Non-cash lease expense 1,398 2 Benefit for deferred income taxes ( 146 ) ( 54 ) Change in operating assets and liabilities, net of the effects of acquisitio Accounts receivable ( 14,781 ) ( 8,004 ) Prepaid and other assets 690 ( 724 ) Accounts payable and other accrued expenses 2,889 3,773 Inventory ( 3,776 ) ( 7,323 ) Deposits ( 237 ) ( 18 ) Other — 77 Net cash provided by operating activities 6,949 818 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 609 ) ( 985 ) Business acquisition, net of cash acquired ( 15,997 ) — Net cash used in investing activities ( 16,606 ) ( 985 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 98 ) ( 57 ) Cash dividends paid ( 1 ) — Purchase of treasury stock ( 2,667 ) — Debt issuance costs ( 16 ) — Proceeds from issuance of common stock under equity offering, net — 25,203 Proceeds from the issuance of common stock on stock-based awards 161 566 Proceeds from debt 15,953 — Taxes withheld and paid on employees' equity awards ( 236 ) ( 412 ) Net cash provided by financing activities 13,096 25,300 Net increase in cash 3,439 25,133 Cash at beginning of period 39,173 14,040 Cash at end of period $ 42,612 $ 39,173 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 82 ) $ ( 19 ) Cash paid for rent $ ( 2,109 ) $ ( 1,633 ) Cash paid for income taxes $ ( 3,305 ) $ ( 894 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 13,240 $ 3,834 Right-of-use assets obtained in exchange for new finance lease liabilities $ 175 $ 225 Inventory transferred to property and equipment under lease $ 1,587 $ 811 Capital expenditures not yet paid $ 47 $ — Accrual for cash dividend payable $ 3,622 $ — Contingent consideration related to acquisition $ 9,700 $ — Stock issued for acquisition $ ( 4,701 ) $ — Stock dividend $ ( 36,911 ) $ — See accompanying notes to consolidated financial statements. F-6 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (DEFICIT) YEARS ENDED DECEMBER 31, 2021 AND 2020 (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) Additional Non- Total Common Stock Paid-in Treasury Retained Controlling Stockholders' Shares Amount Capital Stock Earnings Interest Equity Balance at December 31, 2019 36,041,371 $ 34 $ 9,198 $ ( 3,846 ) $ 14,356 $ ( 89 ) $ 19,653 Stock issued for public offering, net of issuance cost 1,375,000 1 25,202 — — — 25,203 Exercised and vested stock-based awards 854,406 1 566 — — — 567 Stock-based compensation expense — — 2,681 — — — 2,681 Shares of common stock withheld to pay taxes on employees' equity awards ( 26,467 ) — ( 412 ) — — — ( 412 ) Deconsolidation of non-controlling interest — — — — — 89 89 Net income — — — — 9,074 — 9,074 Balance at December 31, 2020 38,244,310 $ 36 $ 37,235 $ ( 3,846 ) $ 23,430 $ — $ 56,855 Exercised and vested stock-based awards 234,388 1 160 — — — 161 Warrants exercised 11,000 — — — — — — Stock-based compensation expense — — 1,630 — — — 1,630 Shares of common stock withheld to pay taxes on employees' equity awards ( 44,414 ) — ( 236 ) — — — ( 236 ) Purchase of treasury stock ( 175,179 ) — — ( 2,667 ) — — ( 2,667 ) Stock issued for acquisition 489,262 — 4,701 — — — 4,701 Escrow shares issued for acquisition 978,523 — — — — — — Cash dividends declared ($ 0.10 per share) — — — — ( 3,622 ) — ( 3,622 ) Stock dividends declared — 4 36,907 — ( 36,911 ) — — Net income — — — — 17,103 — 17,103 Balance at December 31, 2021 39,737,890 $ 41 $ 80,397 $ ( 6,513 ) $ — $ — $ 73,925 See accompanying notes to consolidated financial statements. F-7 Table of Contents ZYNEX, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 2021 AND 2020 (1) ORGANIZATION, NATURE OF BUSINESS Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of December 31, 2021, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s' laser-based products include the NiCO™ CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx™, a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. Food and Drug Administration (“FDA”) for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on drugs and medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All of our medical devices are designed to be patient friendly and designed for home use. Our devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of our medical devices are marketed in the U.S. and are subject to FDA regulation and approval. Our products require a physician’s prescription before they can be dispensed in the U.S. Our primary product is the NexWave device. The NexWave is marketed to physicians and therapists by our field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the years ended December 31, 2021, and 2020, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and health care providers. The Company declared a 10 % stock dividend on November 9, 2021, which was effective on January 21, 2022. Except as otherwise indicated, all related amounts reported in the consolidated financial statements, including common share quantities, earnings per share amounts and exercise prices of options, have been retroactively adjusted for the effect of this stock dividend. (2) SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. F-8 Table of Contents Non-controlling Interest Non-controlling interest in the equity of a subsidiary is accounted for and reported as a decrease in shareholders’ equity. Prior years’ non-controlling interest represents the 20 % ownership in the Company’s majority-owned inactive subsidiary, Zynex Billing, Corp (ZBC). During 2020, the Company dissolved ZBC due to inactivity and has no plans to restart operations. As a result, the Company recorded a loss of $ 77,000 on the dissolution related to the 20 % non-controlling interest, less liabilities that were written off. Use of Estimates Preparation of financial statements in conformity with generally accepted accounting principles in the United States of America (“GAAP”), requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying consolidated financial statements are associated with the expected net collectable value of its accounts receivable and related revenue, inventory reserves, the life of its leased unit devices, stock-based compensation, and valuation of long-lived assets acquired in business combinations and realizability of deferred tax assets. Fair Value of Financial Instruments The Company’s financial instruments include cash, accounts receivable, accounts payable and accrued liabilities. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at fair value which approximates book value as the long-term debt bears market rates of interest. The Company classifies contingent consideration liabilities related to business acquisitions within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. The Company estimates the fair value of contingent consideration liabilities using a Monte Carlo simulation. Changes in the fair value of contingent liabilities in subsequent periods are recorded as a loss (gain) in the statements of operations. Cash The Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. Short-term investments include investments with maturities greater than three months, but not exceeding 12 months, or highly liquid investments with maturities greater than 12 months that the Company intends to liquidate during the next 12 months for working capital needs. Accounts Receivable, Net The Company’s accounts receivables represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company bills the patient’s third-party payer or the patient. Billing adjustments represent the difference between the list prices and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written off after several appeals, which in some cases may take longer than twelve months. Primarily all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a small portion related to private pay individuals, attorney and auto claims. F-9 Table of Contents Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. Following are the components of inventory as of December 31, 2021 and 2020: December 31, 2021 December 31, 2020 Raw materials $ 4,471 $ 3,213 Work-in-process 345 1,455 Finished goods 4,468 4,119 Inventory in transit 1,624 — $ 10,908 $ 8,787 L reserve ( 152 ) ( 152 ) $ 10,756 $ 8,635 The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories equal to the difference between the costs of inventories on hand and the estimated market value based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Property and Equipment Property and equipment is recorded at cost. Repairs and maintenance expenditures are charged to expense as incurred. We compute depreciation expense on a straight-line basis over the estimated useful lives of the assets as follows: Classification Estimated Useful Life Office furniture and equipment 5 to 7 years Assembly equipment 7 years Vehicles 5 years Leasehold improvements Shorter of useful life or term of lease Leased devices 9 months Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For our finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For our operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on our Consolidated Balance Sheets. For additional information on our leases where the Company is the lessee, see Note 11- Leases. A significant portion of our device revenue is derived from patients who obtain our devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with Accounting Standards Codification (“ASC”) 842, Leases. Using the guidance in ASC 842, we concluded our transactions should be accounted for as operating leases based on the following criteri ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. F-10 Table of Contents ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since our leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Intangible Assets and Goodwill The Company records intangible assets based on estimated fair value on the date of acquisition. The finite-lived intangible assets are amortized on a straight-line basis over the estimated lives of the assets. The indefinite-lived intangible assets are not subject to amortization but are subject to impairment testing in the future. Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Revenue Recognition Revenue is derived from sales and leases of our electrotherapy devices and sales of related supplies and complementary products. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of our devices and supplies is recognized once the product is delivered to the patient, which is when control is deemed to have transferred to our patient. Sales of our devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third-party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. The following table provides a breakdown of net revenue related to devices accounted for as purchases subject to ASC 606 and leases subject to ASC 842 (in thousands): For the Years Ended December 31, 2021 2020 Device revenue Purchased $ 9,240 $ 6,390 Leased 27,373 14,879 Total device revenue $ 36,613 $ 21,269 F-11 Table of Contents Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the health care industry and third-party payer reimbursement, it is possible our forecasting model to estimate collections could change, which could have an impact on our results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. A change in the way estimates are determined can result from a number of factors, including changes in the reimbursement policies or practices of third-party payers, or changes in industry rates of reimbursement. The Company monitors the variability and uncertain timing over third-party payer types in our portfolios. If there is a change in our third-party payer mix over time, it could affect our net revenue and related receivables. We believe we have a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints for billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Impairment of Long-lived Assets The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Long-lived assets consist of property and equipment, net and intangible assets. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Impairment of Goodwill The Company tests goodwill at least annually for impairment. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting F-12 Table of Contents period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved. Earnings Per Share We calculate basic earnings per share on the basis of the weighted-average number of shares of common stock outstanding during the period. Diluted earnings per share is calculated using the weighted-average number of shares of common stock outstanding for the period plus the effect of potential dilutive common shares during the period using the treasury stock method. Potential shares of common stock outstanding include unvested restricted stock awards, shares held in escrow, vested and unvested unexercised stock options and common stock purchase warrants. Research and Development Research and development costs are expensed when incurred. Research and development expense for the years ended December 31, 2021 and 2020 was approximately $ 2.6 million and $ 0.8 million, respectively. Research and development, which includes salaries related to research and development and raw materials, are included in general and administrative expenses on the consolidated statement of comprehensive income. Income Taxes We record deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying consolidated balance sheets, as well as any operating loss and tax credit carry-forwards. We measure deferred tax assets and liabilities using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. We reduce deferred tax assets by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. We recognize tax benefits from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. Recently Issued Accounting Pronouncements In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) ("ASU 2016-13"), Measurement of Credit Losses on Financial Instruments. The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren't measured at fair value through net income. The standard will replace today's "incurred loss" approach with an "expected loss" model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. This ASU is effective for annual periods beginning after December 15, 2022, and interim periods therein for smaller reporting companies. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Corporation is currently evaluating the impact that the adoption of ASU 2016-13 will have on our financial condition, results of operations and cash flows. Management has evaluated other recently issued accounting pronouncements and does not believe that this pronouncement will have a material impact on the Company’s consolidated financial statements. (3) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel Labs, Inc. (“Kestrel”) and each of the shareholders of Kestrel (collectively, the "Selling Shareholders"). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to ZMS. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,334,350 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 889,566 of the Zynex Shares are being deposited in escrow (the “Escrow Shares”). The number of Escrow Shares is subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the F-13 Table of Contents Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10,000,000 divided by a 30 -day volume weighted average closing price of the Zynex common stock. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the Food and Drug Administration (the “FDA”) for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon notification from the FDA finding the Device can be marketed and sold in the United States. The amount of escrow shares were recalculated at December 31, 2021, and are included in the calculation of diluted earnings per share. The maximum amount of Zynex shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares. The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. F-14 Table of Contents Summary of Purchase Consideration Presented below is a summary of the total purchase consideration for the Kestrel business combinations (in thousands except share data): Shares (1) Fair Value Cash Total Closing date cash — $ — $ 16,000 $ 16,000 Working capital distribution — — 78 78 Total cash paid — $ — $ 16,078 $ 16,078 Closing date equity Issued shares 444,784 4,701 — 4,701 Escrow shares 889,566 9,700 — 9,700 Total equity 1,334,350 $ 14,401 $ — $ 14,401 Total consideration 1,334,350 $ 14,401 $ 16,078 $ 30,479 (1) The amount of shares issued and included in escrow were not retroactively adjusted for the 10 % stock dividend declared on November 9, 2021 and issued on January 21, 2022. Purchase Price Allocations Presented below is a summary of the purchase price allocations for the Kestrel business combinations on the acquisition date (in thousands): Purchase Price Allocation Current assets: Cash $ 80 Accounts receivable 15 Prepaid expenses and other 1 Total current assets $ 96 Long-term assets: Identifiable intangible assets 10,000 Total assets acquired $ 10,096 Less liabilities assu Accounts payable ( 18 ) Net identifiable assets acquired 10,078 Goodwill 20,401 Net assets acquired $ 30,479 The fair value of the identifiable intangibles assets is primarily related to patents which will be amortized over a useful life of 11 years . The excess of the purchase price over the fair value of the net assets acquired was recorded as goodwill. The goodwill is attributable to the benefits the Company expects to realize by enhancing its product offering and addressable markets, thereby contributing to an expanded revenue base. F-15 Table of Contents Pro forma Information The unaudited pro forma information for the year ended December 31, 2021 and 2020 was calculated after applying impact of acquisition date fair value adjustments. The pro forma financial information presents the combined results of operations of Zynex and Kestrel as if the acquisition had occurred on January 1, 2020 after giving effect to certain pro forma adjustments. The pro forma adjustments reflected in the table below include only those adjustments that are factually supportable and directly attributable to the acquisition (in thousands): Year Ended December 31, (unaudited) 2021 2020 Revenue $ 130,811 $ 80,414 Net income $ 16,404 $ 7,568 These pro forma adjustments inclu (i) a net increase in amortization expense to record amortization expense for the aforementioned acquired identifiable intangible assets, (ii) a net increase in interest expense as a result of related to borrowings that were put into place as part of the acquisition, (iii) an adjustment to record the acquisition-related transaction costs of $ 0.3 million in the period required, and (iv) the tax effect of the pro forma adjustments using the anticipated effective tax rate. The effective tax rate of the combined company could be materially different from the rate presented in this unaudited pro forma combined financial information. As further information becomes available, any such adjustment described above could be material to the amounts presented in the unaudited pro forma combined financial statements. The pro forma information does not purport to be indicative of the results of operations that would have resulted had the combination occurred at the beginning of each period presented, or of future results of the consolidated entities. (4) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): December 31, 2021 December 31, 2020 Property and equipment Office furniture and equipment $ 2,391 $ 2,362 Assembly equipment 100 143 Vehicles 203 198 Leasehold improvements 1,054 559 Sales rep demo units — 361 Leased devices 1,080 809 $ 4,828 $ 4,432 Less accumulated depreciation ( 2,642 ) ( 2,507 ) $ 2,186 $ 1,925 The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units of which are still with patients for which the Company cannot determine the current status. Total depreciation expense related to our purchased property and equipment was $ 0.9 million and $ 0.7 million for the years ended December 31, 2021 and 2020, respectively. Total depreciation expense related to devices out on lease was $ 1.4 million and $ 0.8 million for the years ended December 31, 2021 and 2020, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. During the year ended December 31, 2021, the Company began expensing product demo units sent to its territory managers to use in the field. F-16 Table of Contents (5) GOODWILL AND OTHER INTANGIBLES During the year ended December 31, the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 3). As of December 31, 2021, there was no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of December 31, 2021. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents $ 10,000 $ ( 25 ) $ 9,975 11.0 The following table summarizes the estimated future amortization expense to be recognized over the next years and periods thereaf December 31, (In thousands) 2022 $ 908 2023 908 2024 911 2025 908 2026 908 Thereafter 5,432 Total future amortization expense $ 9,975 (6) EARNINGS PER SHARE The calculation of basic and diluted earnings per share for the years ended December 31, 2021 and 2020 are as follows (in thousands, except per share data): For the Years Ended December 31, 2021 2020 Basic earnings per share Net income available to common stockholders $ 17,103 $ 9,074 Basic weighted-average shares outstanding 38,317 37,256 Basic earnings per share $ 0.45 $ 0.24 Diluted earnings per share Net income available to common stockholders $ 17,103 $ 9,074 Weighted-average shares outstanding 38,317 37,256 Effect of dilutive securities - options and restricted stock 880 1,182 Diluted weighted-average shares outstanding 39,197 38,438 Diluted earnings per share $ 0.44 $ 0.24 F-17 Table of Contents For the years ended December 31, 2021 and 2020, 0.4 million and 0.2 million shares of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. The basic and diluted weighted-average shares outstanding for both periods presented have been updated to include the retroactive impact of the 10% common stock dividend declared on November 11, 2021. (7) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”). Under this Loan Agreement, the Bank is extending two facilities to the Borrowers. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). The Borrower will pay interest on Facility 1 on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of December 31, 2021, we had not utilized this facility. The other facility being extended by the Bank to the Borrower is a fixed rate term loan in the amount of up to $ 16.0 million (“Facility 2”). Facility 2 is available in one disbursement from the Bank and the interest rate is equal to 2.8 % per year. The Borrower must pay interest on the first day of each month beginning January 1, 2022 and the Borrower will also repay the principal amount in equal installments of $ 444,444 per month through December 1, 2024. Facility 2 was entered into in conjunction with the purchase of Kestrel Labs. The following table summarizes future principal payments on long-term debt as of December 31, 2021: December 31, (In thousands) 2022 $ 5,333 2023 5,333 2024 5,334 Future principal payments 16,000 Less current portion ( 5,333 ) Less debt issuance costs ( 62 ) Long-term debt, net of debt issuance costs $ 10,605 (8) STOCK-BASED COMPENSATION PLANS Zynex, Inc. 2017 Stock Incentive Plan The Company currently has one active long-term incentive plan. The Company’s 2017 Stock Incentive Plan (the “2017 Stock Plan”) is the Company’s equity compensation plan and provides for grants of stock-based awards to employees, directors and other individuals providing services to the Company. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. The 2017 Stock Plan mandates a maximum award term of 10 years and stipulates that stock options be granted with prices not less than fair market value on the date of grant. Stock option awards generally vest over four years . Restricted stock awards typically vest quarterly over three years for grants issued to members of our Board of Directors and quarterly or annually over two to four years for grants issued to employees. For stock option awards, all awards granted under the 2017 Stock Plan are stock-settled with common stock issued upon exercise. For restricted stock awards, shares are issued to the recipient upon grant with a restrictive legend and are not included in the calculation of outstanding shares until vesting occurs. At December 31, 2021, there were 3.9 million shares available for future grants under the 2017 Stock Plan. Zynex, Inc. 2005 Stock Option Plan The 2005 Stock Option Plan (the “2005 Stock Plan”) expired as of December 31, 2014. Vesting provisions of the expired plan were to be determined by the Board of Directors. All stock options under the 2005 Stock Plan expire no later than ten years from the date of grant. Options granted in 2015, 2016 and through May 2017 prior to the approval of the 2017 Stock Incentive Plan were approved and certified by the board of directors on September 6, 2017 under the existing 2005 Stock Plan. F-18 Table of Contents As of December 31, 2021, the Company had the following stock options outstanding and exercisab Outstanding Number of Options Exercisable Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 325 325 Equity Compensation Plans not approved by Shareholders 28 28 2017 Stock Option Plan 412 317 Total 765 670 The Company received $ 0.2 million cash proceeds related to option exercises during the year ended December 31, 2021. The Company received cash proceeds of $ 0.6 million related to option exercises during the year ended December 31, 2020. The Company did not grant any stock options during the year ended December 31, 2021. The Company granted 14,000 stock options during the year ended December 31, 2020. The Company used the Black Scholes option pricing model to determine the fair value of stock option grants, using the following assumptions for the year ended December 31, 2020: Weighted average expected term 6.79 years Weighted average volatility 117 % Weighted average risk-free interest rate 1.59 % Dividend yield 0 % The weighted average expected term of stock options represents the period of time that the stock options granted are expected to be outstanding based on historical exercise trends. The weighted average expected volatility is based on the historical price volatility of the Company’s common stock. The weighted average risk-free interest rate represents the U.S. Treasury bill rate for the expected term of the related stock options. The dividend yield represents the Company’s anticipated cash dividend over the expected term of the stock options. Forfeitures are accounted for as they occur. The following table summarizes stock-based compensation expenses recorded in the condensed consolidated statements of operations (in thousands): For the Years Ended December 31, 2021 2020 Cost of revenue $ 56 $ 37 Sales and marketing expense 155 424 General, and administrative 1,419 2,220 Total stock based compensation expense $ 1,630 $ 2,681 The excess tax benefit associated with our stock-based compensation plans for the years ended December 31, 2021 and 2020, was approximately $ 0.2 million and $ 1.7 million, respectively. F-19 Table of Contents A combined summary of stock option activity for all plans for the years ended December 31, 2021 and 2020 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Shares Strike Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding at December 31, 2019 2,041 $ 2.25 Granted 15 $ 9.23 Exercised ( 684 ) $ 0.82 Forfeited ( 265 ) $ 4.25 Outstanding at December 31, 2020 1,107 $ 2.76 6.47 $ 10,483 Outstanding at December 31, 2020 1,107 $ 2.76 Granted — $ — Exercised ( 116 ) $ 4.87 Forfeited ( 226 ) $ 6.45 Outstanding at December 31, 2021 765 $ 1.36 4.68 $ 5,896 Exercisable at December 31, 2021 670 $ 0.99 4.33 $ 5,412 Outstanding Weighted average Number of Remaining Weighted Average Options Contractual Weighted Average Exercisable Number of Remaining Exercisable Exercisable Range (in thousands) Life (years) Strike Price Options (in thousands) Contractual Life (years) Strike Price $ 0 to $ 2.00 495 3.54 $ 0.31 495 3.54 $ 0.31 $ 2.01 to $ 4.00 244 6.65 $ 2.72 167 6.48 $ 2.62 $ 4.01 to $ 10.00 26 7.92 $ 8.51 8 7.82 $ 8.21 765 4.68 $ 1.36 670 4.33 $ 0.99 A summary of our unvested stock options as of December 31, 2021 and 2020 and related activity is presented below : Non-vested Weighted Shares Weighted Average Aggregate Under Average Remaining Intrinsic Option Grant Date Contractual Value (in thousands) Fair Value Life (Years) (in thousands) Non-vested at December 31, 2019 979 $ 4.03 Granted 15 8.88 Vested ( 276 ) 3.34 Forfeited ( 244 ) 4.36 Non-vested at December 31, 2020 474 $ 4.35 7.97 $ 3,677 Non-vested at December 31, 2020 474 $ 4.35 Granted — — Vested ( 167 ) 1.93 Forfeited ( 212 ) 6.48 Non-vested at December 31, 2021 95 $ 3.85 7.17 $ 484 F-20 Table of Contents A summary of restricted stock award activity under the 2017 Stock Plan for the years ended December 2021 and 2020 are presented be Number of Shares Weighted Average (in thousands) Grant Date Fair Value Outstanding at December 31, 2019 112 $ 5.28 Granted 352 $ 11.75 Vested ( 169 ) $ 7.76 Outstanding at December 31, 2020 295 $ 11.53 Outstanding at December 31, 2020 295 $ 11.53 Granted 381 $ 14.15 Vested ( 119 ) $ 10.92 Forfeited ( 103 ) $ 12.40 Outstanding at December 31, 2021 454 $ 13.69 The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on the Restricted Stock Awards typically occurs quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. As of December 31, 2021, there was approximately $ 5.5 million of total unrecognized compensation costs related to unvested stock options and restricted stock. These costs are expected to be recognized over a weighted average period of 2.7 years. The total intrinsic value of stock option exercises for the years ended December 31, 2021 and 2020 was $ 1.0 million and $ 9.6 million, respectively. The total fair value of restricted stock awards vested during the years ended December 31, 2021 and 2020 was $ 1.3 million. (9) STOCKHOLDERS’ EQUITY Equity Offering On July 17, 2020, the Company completed an underwritten public offering of an aggregate 2.75 million shares of common stock at a public offering price of $ 20.00 per common share. In the offering, 1.38 million shares of common stock were sold by the Company and 1.37 million shares of common stock were sold by Sandgaard Holdings, LLC, which is 100 % controlled by Thomas Sandgaard, CEO and Chairman of the Board of Directors. Net proceeds to the Company, after deducting for direct costs associated with the offering, were $ 25.2 million. Common Stock Dividend The Company's Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Treasury Stock On March 8, 2021, our Board of Directors approved a program to repurchase up to $ 10.0 million of our common stock at prevailing market prices either in the open market or through privately negotiated transactions through September 8, 2021. From the inception of the plan through September 8, 2021, the Company purchased 175,179 shares of our common stock for $ 2.7 million or an average price of $ 15.22 per share. F-21 Table of Contents Warrants A summary of stock warrant activity for the years ended December 31, 2021 and 2020 are presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding at December 31, 2019 110 $ 2.39 4.77 $ 525 Granted — $ — Exercised — $ — Forfeited — $ — Outstanding and exercisable at December 31, 2020 110 $ 2.39 3.76 $ 1,084 Outstanding at December 31, 2020 110 $ 2.39 3.76 $ 1,084 Granted — $ — Exercised ( 10 ) $ 2.27 2.76 192 Forfeited (1) ( 1 ) $ 2.27 2.76 25 Outstanding and exercisable at December 31, 2021 99 $ 2.40 2.76 $ 660 (1) Warrants were exercised under a net exercise provision in the warrant agreement. As a result, approximately 1,000 warrants were forfeited in lieu of cash payment for shares. (10) INCOME TAXES The pre-tax income from continuing operations on which the provision for income taxes was computed is as follows (in thousands): 2021 2020 United States $ 22,295 $ 10,185 Foreign ( 24 ) ( 32 ) Total 22,271 10,153 Income tax expense consists of the following for the years ended December 31, 2021 and 2020 (in thousands): 2021 2020 Current tax expense: Federal $ 4,289 $ 841 State 1,025 292 Total tax expense: 5,314 1,133 Deferred tax expense/(benefit): Federal ( 135 ) ( 122 ) State ( 11 ) 68 Total deferred tax expense/(benefit): $ ( 146 ) $ ( 54 ) Total $ 5,168 $ 1,079 F-22 Table of Contents A reconciliation of income tax computed at the U.S. statutory rate of 21 % to the effective income tax rate is as follows: 2021 2020 Statutory rate 21 % 21 % State taxes 4 % 3 % Permanent differences and other 0 % 1 % Stock based compensation ( 1 ) % ( 15 ) % Effective rate 24 % 10 % The tax effects of temporary differences that give rise to deferred tax assets (liabilities) at December 31, 2021 and 2020 are as follows (in thousands): 2021 2020 Deferred tax assets: Accrued expenses $ 26 $ 10 Lease liability 4,620 1,721 Accounts receivable 18 18 Inventory 484 495 Stock based compensation 271 306 Tax credits and NOL carryforward 8 20 Other — 1 Amortization 90 43 5,517 2,614 L valuation allowance — — Deferred tax assets $ 5,517 $ 2,614 Deferred tax liabiliti Property and equipment $ ( 599 ) $ ( 470 ) Finance lease ( 96 ) ( 78 ) Prepaid expenses ( 77 ) ( 20 ) Right-of-use-asset ( 4,034 ) ( 1,480 ) Deferred tax liabilities $ ( 4,806 ) $ ( 2,048 ) Net deferred tax assets $ 711 $ 566 As of December 31, 2021, the Company has net operating loss carryforwards in various states of approximately $ 0.2 million, which expire at various dates ranging from five to seven years . In addition, the Company had no recorded valuation allowances at December 31, 2021 and 2020. The accounting standard related to income taxes applies to all tax positions and defines the confidence level that a tax position must meet in order to be recognized in the financial statements. The accounting standard requires that the tax effects of a position be recognized only if it is "more-likely-than-not" to be sustained by the taxing authority as of the reporting date. If a tax position is not considered "more-likely-than-not" to be sustained, then no benefits of the position are to be recognized. Differences between financial and tax reporting which do not meet this threshold are required to be recorded as unrecognized tax benefits. This standard also provides guidance on the presentation of tax matters and the recognition of potential interest and penalties. As of December 31, 2021 and 2020, the Company does not have an unrecognized tax liability. The Company does not classify penalty and interest expense related to income tax liabilities as an income tax expense. Penalties and interest are included within general and administrative expenses on the consolidated statements of income. The Company files income tax returns in the U.S. and various state jurisdictions, and there are open statutes of limitations for taxing authorities to audit our tax returns from 2016 through the current period. F-23 Table of Contents (11) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. The Company entered into a sublease agreement on April 9, 2021 with Cognizant Trizetto Software Group, Inc. for up to approximately 110,754 square feet of office space as its new corporate headquarters. The term of the sublease began on May 1, 2021 and will run through April 29, 2028. The Company is entitled to rent credits equal to twenty-one months of base rent at the initial rate. During the first thirty-three months of the sublease, the rent per square foot is $ 26.50 . The price per square foot increases by an additional $ 0.50 during each subsequent twelve-month period of the sublease. Upon lease commencement, the Company recorded an operating lease liability and a corresponding right-of-use asset for $ 13.4 million each. The remaining lease term was 5.38 years at December 31, 2021. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.11 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.37 % which was used to measure its finance lease liability. The table below reconciles the undiscounted future minimum lease payments under the Company’s operating and finance leases to the total operating and capital lease liabilities recognized on the consolidated balance sheets as of December 31, 2021 (in thousands): Operating Lease Liability Finance Lease Liability 2022 3,569 154 2023 2,982 152 2024 3,496 116 2025 3,567 76 2026 3,362 15 Thereafter 4,214 — Total undiscounted future minimum lease payments $ 21,190 $ 513 L difference between undiscounted lease payments and discounted lease liabiliti ( 2,475 ) ( 78 ) Total lease liabilities $ 18,715 $ 435 Operating and finance lease costs were $ 3.7 million and $ 1.8 million for years ended December 31, 2021 and 2020, which were included in the consolidated statement of operations under the following headings (in thousands): For the years ended December 31, Operating Lease expense 2021 2020 Costs of revenue - devices and supplies $ 399 $ 208 Sales and marketing expense 1,186 564 General and administrative 1,964 909 Total operating lease expense $ 3,549 $ 1,681 Finance Lease expense Amortization of right-of-use ass Costs of revenue - devices and supplies $ 12 $ 8 Sales and marketing expense 35 20 General and administrative 58 33 Total amortization of right-of-use asset 105 61 Interest expense and other 41 20 Total finance lease expense $ 146 $ 81 F-24 Table of Contents The Company’s 10-K filing for the year ended December 31, 2020, included an error which disclosed $ 6.51 million of operating lease expense. The corrected operating lease expense of $1.68 million for the year ended December 31, 2020, is included in the table above. F-25 Table of Contents (12) FAIR VALUE CONSIDERATION The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at fair value which approximates book value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo models. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. Authoritative guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of December 31, 2021, by level within the fair value hierarc Fair Value Measurements at December 31, 2021 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable December 31, Assets Inputs Inputs 2021 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 9,700 $ — $ — $ 9,700 Total $ 9,700 $ — $ — $ 9,700 F-26 Table of Contents Contingent Consideration . The Company classifies its contingent consideration liability in connection with the acquisition of Kestrel Labs within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. The contingent consideration related to Kestrel was valued at $ 9.7 million using a Monte Carlo simulation as of December 22, 2021. As of December 31, 2021, the contingent consideration remained estimated at $ 9.7 million. The Company’s policy is to value contingent consideration liabilities using a Monte Carlo model. The Company did no t have any contingent consideration as of December 31, 2020. (13) COMMITMENTS AND CONTINGENCIES See Note 11 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management provides for them if losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (14) CONCENTRATIONS The Company is exposed to concentration of credit risk related primarily to its cash balances. The Company maintains its cash balances in major financial institutions that exceed amounts insured by the FDIC (up to $250,000, per financial institution as of December 31, 2021). The Company has not experienced any realized losses in such accounts and believes it is not exposed to any significant credit risk related to its cash. The Company had two major vendors from which it sourced approximately 34 % and one major vendor from which it soured approximately 22 %, respectively, of supplies for its electrotherapy products for the years ended December 31, 2021 and 2020. Management believes that its relationships with its suppliers are good. If the relationships were to be replaced, there may be a short-term disruption for a period of time in which products may not be available and additional expenses may be incurred as the Company locates additional or replacement suppliers. The Company had receivables from one third-party payer at December 31, 2021 which made up approximately 22 % of the accounts receivable balance. The Company had receivables from one third-party payer at December 31, 2020, which made up approximately 26 % of the accounts receivable balance. (15) RETIREMENT PLAN In 2012, the Company established a defined contribution retirement plan for its employees under section 401(k) of the Internal Revenue Code (the “401(k) Plan”) that is available to all employees 18 years of age or older with three months of service. All employee contributions are fully vested immediately and employer contributions vest over a period of four years. The Company has a discretionary employee match program and currently matches 35 % of first 6 % of an employee’s contributions. During the years ended December 31, 2021 and 2020, the Company recorded an expense of $ 0.5 million and $ 0.3 million, respectively, under the aforementioned plan, related to the Company match. F-27 Table of Contents (16) QUARTERLY FINANCIAL INFORMATION (UNAUDITED) Quarterly financial information is as follows (in thousands, except per share data): 2021 First Quarter Second Quarter Third Quarter Fourth Quarter Total Revenue $ 24,127 $ 31,022 $ 34,785 $ 40,367 L cost of revenue and operating expenses 25,207 27,209 26,739 28,780 Income from operations ( 1,080 ) 3,813 8,046 11,587 Income before income taxes ( 1,087 ) 3,768 8,028 11,562 Net income $ ( 706 ) $ 2,808 $ 6,107 $ 8,894 Net income per common sh Basic income per share - net income $ ( 0.02 ) $ 0.07 $ 0.16 $ 0.23 Diluted income per share - net income $ ( 0.02 ) $ 0.07 $ 0.16 $ 0.23 2020 First Quarter Second Quarter Third Quarter Fourth Quarter Total Revenue $ 15,228 $ 19,263 $ 20,026 $ 25,605 L cost of revenue and operating expenses 12,770 15,178 18,617 23,308 Income from operations 2,458 4,085 1,409 2,297 Income before income taxes 2,454 4,080 1,404 2,215 Net income $ 2,937 $ 3,017 $ 1,333 $ 1,787 Net income per common sh Basic income per share - net income $ 0.08 $ 0.08 $ 0.04 $ 0.05 Diluted income per share - net income $ 0.08 $ 0.08 $ 0.03 $ 0.05 F-28 Table of Contents (17) SUBSEQUENT EVENTS On January 21, 2022, the Company paid out the one-time special stock dividend of 10 % and cash dividend of $ 0.10 per share that was declared on November 9, 2021. The stock dividend resulted in an issuance of approximately 3.6 million additional shares of common stock and the cash distribution was approximately $ 3.6 million. All share amounts were updated retrospectively in this report to reflect this issuance. (18) COVID-19 In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. During 2020 and 2021, the Company’s operations were impacted by closures of clinics and reductions in elective surgeries which decreased availability of physicians to prescribe our products. Additionally, the Company had to navigate the impacts it had on employee and supply chain issues. While the Company did not see a significant impact on its operating results or financial position during the year ended December 31, 2021 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. F-29 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end March 31, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 303 ) 703-4906 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol Name of each exchange on which registered Common Stock, par value $0.001 per share ZYXI NASDAQ Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☐ Non-accelerated filer ☒ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of April 28, 2022 Common Stock, par value $0.001 39,046,098 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Consolidated Balance Sheets as of March 31, 2022 (unaudited) and December 31, 2021 3 Unaudited Consolidated Statements of Income for the three months ended March 31, 2022 and 2021 4 Unaudited Consolidated Statements of Cash Flows for the three months ended March 31, 2022 and 2021 5 Unaudited Consolidated Statements of Stockholders’ Equity for the three months ended March 31, 2022 and 2021 6 Unaudited Notes to Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 22 Item 3. Quantitative and Qualitative Disclosures About Market Risk 25 Item 4. Controls and Procedures 25 PART II—OTHER INFORMATION 27 Item 1. Legal Proceedings 27 Item 1A. Risk Factors 27 Item 2. Unregistered Sales of Equity Securities And Use of Proceeds 27 Item 3. Defaults Upon Senior Securities 27 Item 4. Mine Safety Disclosures 27 Item 5. Other Information 27 Item 6. Exhibits 28 SIGNATURES 29 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) March 31, December 31, 2022 2021 ASSETS Current assets: Cash $ 39,247 $ 42,612 Accounts receivable, net 27,845 28,632 Inventory, net 13,484 10,756 Prepaid expenses and other 1,600 689 Total current assets 82,176 82,689 Property and equipment, net 2,191 2,186 Operating lease asset 15,647 16,338 Finance lease asset 359 389 Deposits 585 585 Intangible assets, net of accumulated amortization 9,751 9,975 Goodwill 20,401 20,401 Deferred income taxes 931 711 Total assets $ 132,041 $ 133,274 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable and accrued expenses 6,541 4,739 Cash dividends payable 16 3,629 Operating lease liability 3,329 2,859 Finance lease liability 121 118 Income taxes payable 3,116 2,296 Current portion of debt 5,333 5,333 Accrued payroll and related taxes 3,912 3,897 Total current liabilities 22,368 22,871 Long-term liabiliti Long-term portion of debt, less issuance costs 9,277 10,605 Contingent consideration 9,500 9,700 Operating lease liability 14,792 15,856 Finance lease liability 286 317 Total liabilities 56,223 59,349 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of March 31, 2022 and December 31, 2021 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,476,068 issued and 39,776,816 outstanding as of March 31, 2022 41,400,834 issued and 39,737,890 outstanding as of December 31, 2021 (including 3,606,970 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 41 41 Additional paid-in capital 80,913 80,397 Treasury stock of 1,246,399 shares at March 31, 2022 and December 31, 2021, respectively, at cost ( 6,513 ) ( 6,513 ) Retained earnings 1,377 — Total stockholders’ equity 75,818 73,925 Total liabilities and stockholders’ equity $ 132,041 $ 133,274 The accompanying notes are an integral part of these consolidated financial statements 3 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended March 31, 2022 2021 NET REVENUE Devices $ 6,725 $ 6,365 Supplies 24,358 17,762 Total net revenue 31,083 24,127 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 6,921 5,886 Sales and marketing 14,424 13,827 General and administrative 7,832 5,495 Total costs of revenue and operating expenses 29,177 25,208 Income (loss) from operations 1,906 ( 1,081 ) Other income (expense) Gain on change in fair value of contingent consideration 200 — Interest expense ( 124 ) ( 9 ) Other income (expense), net 76 ( 9 ) Income (loss) from operations before income taxes 1,982 ( 1,090 ) Income tax expense 605 ( 384 ) Net income (loss) $ 1,377 $ ( 706 ) Net income (loss) per sh Basic $ 0.03 $ ( 0.02 ) Diluted $ 0.03 $ ( 0.02 ) Weighted average basic shares outstanding 39,765 38,321 Weighted average diluted shares outstanding 41,188 38,321 The accompanying notes are an integral part of these consolidated financial statements 4 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) For the Three Months Ended March 31, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss) $ 1,377 $ ( 706 ) Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activiti Depreciation 500 487 Amortization 229 — Non-cash reserve charges ( 9 ) 2 Stock-based compensation 589 108 Non-cash lease expense 97 55 Benefit for deferred income taxes ( 220 ) ( 378 ) Gain on change in fair value of contingent consideration ( 200 ) — Change in operating assets and liabiliti Accounts receivable 787 ( 1,037 ) Prepaid and other assets ( 912 ) ( 182 ) Accounts payable and other accrued expenses 2,583 ( 798 ) Inventory ( 3,067 ) ( 2,863 ) Deposits — 7 Net cash provided by (used in) operating activities 1,754 ( 5,305 ) CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 72 ) ( 299 ) Net cash used in investing activities ( 72 ) ( 299 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 28 ) ( 23 ) Cash dividends paid ( 3,613 ) — Purchase of treasury stock — ( 75 ) Proceeds from the issuance of common stock on stock-based awards 3 27 Principal payments on long-term debt ( 1,333 ) — Taxes withheld and paid on employees’ equity awards ( 76 ) ( 59 ) Net cash used in financing activities ( 5,047 ) ( 130 ) Net decrease in cash ( 3,365 ) ( 5,734 ) Cash at beginning of period 42,612 39,173 Cash at end of period $ 39,247 $ 33,439 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 89 ) $ ( 9 ) Cash paid for rent $ ( 995 ) $ ( 521 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 211 $ 162 Inventory transferred to property and equipment under lease $ 339 $ 473 Capital expenditures not yet paid $ 56 $ — Inventory transferred to property and equipment as demo devices $ — $ 67 The accompanying notes are an integral part of these consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2020 38,244,310 $ 36 $ 37,235 $ ( 3,846 ) $ 23,430 $ 56,855 Exercised and vested stock-based awards 63,546 1 29 — — 30 Stock-based compensation expense — — 108 — — 108 Warrants exercised 9,733 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 4,135 ) — ( 59 ) — — ( 59 ) Purchase of treasury stock ( 5,000 ) — — ( 75 ) — ( 75 ) Net loss — — — — ( 706 ) ( 706 ) Balance at March 31, 2021 38,308,454 37 37,313 ( 3,921 ) 22,724 56,153 Balance at December 31, 2021 39,737,890 $ 41 $ 80,397 $ ( 6,513 ) $ — $ 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 $ 39,776,816 $ 41 $ 80,913 $ ( 6,513 ) $ 1,377 $ 75,818 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of March 31, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (”Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel's laser-based products include the NiCO(TM) CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx(TM), a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on drugs and medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the three months ended March 31, 2022 and 2021, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. The Company's Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Except as otherwise indicated, all related amounts reported in the consolidated financial statements, including common share quantities, earnings per share amounts and exercise prices of options, have been retroactively adjusted for the effect of this stock dividend. Unaudited Consolidated Financial Statements The unaudited consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. Amounts as of December 31, 2021, are 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS derived from those audited consolidated financial statements. These interim consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of March 31, 2022 and the results of its operations and its cash flows for the periods presented. The results of operations for the three months ended March 31, 2022 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. Principles of Consolidation The accompanying consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, valuation of long-lived assets and realizability of deferred tax assets. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s Consolidated Balance Sheets. For additional information on the leases where the Company is the lessee, see Note 10- Leases. A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Accounts Receivable, Net The Company’s accounts receivables represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. Intangible Assets and Goodwill The Company records intangible assets based on estimated fair value on the date of acquisition. The finite-lived intangible assets are amortized on a straight-line basis over the estimated lives of the assets. The indefinite-lived intangible assets are not subject to amortization but are subject to impairment testing in the future. Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when control is deemed to have transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The following table provides a breakdown of net revenue related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606") and leases subject to ASC 842 (in thousands): For the Three Months March 31, 2022 2021 Device revenue Purchased $ 2,188 $ 2,332 Leased 4,537 4,033 Total Device revenue $ 6,725 $ 6,365 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Impairment of Long-lived Assets The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Long-lived assets consist of net property and equipment and intangible assets. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Impairment of Goodwill The Company tests goodwill at least annually for impairment. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Inventory, Net Inventories are stated at the lower of cost and net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. Following are the components of inventory (in thousands): March 31, 2022 December 31, 2021 Raw materials $ 3,617 $ 4,471 Work-in-process 1,031 345 Finished goods 5,255 4,468 Inventory in transit 3,733 1,624 $ 13,636 $ 10,908 L reserve ( 152 ) ( 152 ) $ 13,484 $ 10,756 The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. The Company has identified the Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as the chief operating decision-makers (“CODM”). The Company currently operates as one operating segment which includes two revenue typ Devices and Supplies. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. Recent Accounting Pronouncements In August 2020, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2020-06, Debt — Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging — Contracts in Entity’s Own Equity (Subtopic 815-40) (“ASU 2020-06”) to simplify accounting for certain financial instruments. ASU 2020-06 eliminates the current models that require separation of beneficial conversion and cash conversion features from convertible instruments and simplifies the derivative scope exception guidance pertaining to equity classification of contracts in an entity’s own equity. The new standard also introduces additional disclosures for convertible debt and freestanding instruments that are indexed to and settled in an entity’s own equity. ASU 2020-06 amends the diluted earnings per share guidance, including the requirement to use the if-converted method for all convertible instruments. ASU 2020-06 is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years, with early adoption permitted. The Company adopted ASU 2020-06 effective as of January 1, 2022. The adoption of ASU 2020-06 did not have an impact on the Company’s financial statements. In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) ("ASU 2016-13"), Measurement of Credit Losses on Financial Instruments. The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren't measured at fair value through net income. The standard will replace today's "incurred loss" approach with an "expected loss" model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. This ASU is effective for annual periods beginning after December 15, 2022, and interim periods therein for smaller reporting companies. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Company is currently evaluating the impact of the adoption of ASU 2016-13 on its financial condition, results of operations and cash flows, however, the Company believes this standard will only impact accounts receivable and estimates there will be no material impact to the Company’s financial statements. Management has evaluated other recently issued accounting pronouncements and does not believe that any of these pronouncements will have a material impact on the Company’s consolidated financial statements. (2) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): March 31, 2022 December 31, 2021 Property and equipment Office furniture and equipment $ 2,480 $ 2,391 Assembly equipment 100 100 Vehicles 203 203 Leasehold improvements 1,077 1,054 Capital projects 16 — Leased devices 958 1,080 $ 4,834 $ 4,828 Less accumulated depreciation ( 2,643 ) ( 2,642 ) $ 2,191 $ 2,186 Total depreciation expense related to property and equipment was $ 0.2 million and $ 0.1 million for the three months ended March 31, 2022 and 2021, respectively. Total depreciation expense related to devices out on lease was $ 0.3 million and $ 0.2 million for the three months ended March 31, 2022 and 2021, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS During the year ended December 31, 2021, the Company began expensing product demo units sent to its territory managers to use in the field. Total depreciation expense related to demo unit devices out with sales representatives was $ 0.1 million for the three months ended March 31, 2021. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units of which are still with patients for which the Company cannot determine the current status. (3) BUSINESS COMBINATIONS In December 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the "Selling Shareholders"). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,334,350 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 889,566 of the Zynex Shares are being held in escrow (the “Escrow Shares”). The number of Escrow Shares is subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon notification from the FDA finding the Device can be marketed and sold in the United States. The amount of Escrow Shares were recalculated at March 31, 2022 and are included in the calculation of diluted earnings per share. The maximum amount of Zynex Shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares of the Company (see Note 11 for more information regarding this liability). The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. Pro forma Information The unaudited pro forma information for the three months ended March 31, 2021 was calculated after applying impact of acquisition date fair value adjustments. The pro forma financial information presents the combined results of operations of Zynex and Kestrel as if the acquisition had occurred on January 1, 2021 after giving effect to certain pro forma adjustments. The pro forma adjustments reflected in the table below include only those adjustments that are factually supportable and directly attributable to the acquisition (in thousands): Three months ended March 31, 2021 (unaudited) Revenue $ 24,242 Net income $ ( 1,135 ) These pro forma adjustments inclu (i) a net increase in amortization expense to record amortization expense for the aforementioned acquired identifiable intangible assets, (ii) a net increase in interest expense related to borrowings that were put into place as part of the acquisition, (iii) an adjustment to record the acquisition-related transaction costs of $ 0.3 million in the period required, and (iv) the tax effect of the pro forma adjustments using the anticipated effective tax rate. The effective tax rate of the combined company could be materially different from the rate presented in this unaudited pro forma combined financial information. As further information becomes available, any such adjustment described above could be material to the amounts presented in the unaudited pro forma combined financial statements. The pro forma information does not purport to be indicative of the results of operations that would have resulted had the combination occurred at the beginning of each period presented, or of future results of the consolidated entities. (4) GOODWILL AND OTHER INTANGIBLE ASSETS 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 3). As of March 31, 2022, there were no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of March 31, 2022. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents $ 10,000 $ ( 249 ) $ 9,751 10.73 The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2022, next five fiscal years, and periods thereaf (In thousands) April 1, 2022 through December 31, 2022 $ 684 2023 908 2024 911 2025 908 2026 908 2027 908 Thereafter 4,524 Total future amortization expense $ 9,751 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (5) EARNINGS PER SHARE Basic earnings/(loss) per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period, calculated using the treasury-stock method for outstanding stock options. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. The calculation of basic and diluted earnings per share for the three months ended March 31, 2022 and 2021 are as follows (in thousands, except per share data): For the Three Months Ended March 31, 2022 2021 Basic earnings per share Net income (loss) available to common stockholders $ 1,377 $ ( 706 ) Basic weighted-average shares outstanding 39,765 38,321 Basic earnings (loss) per share $ 0.03 $ ( 0.02 ) Diluted earnings per share Net income (loss) available to common stockholders $ 1,377 $ ( 706 ) Weighted-average shares outstanding 39,765 38,321 Effect of dilutive securities - options and restricted stock 1,423 — Diluted weighted-average shares outstanding 41,188 38,321 Diluted earnings (loss) per share $ 0.03 $ ( 0.02 ) For the three months ended March 31, 2022 and 2021, 0.5 million and 1.1 million shares of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. The basic and diluted weighted-average shares outstanding for both periods presented have been updated to include the retroactive impact of the 10 % common stock dividend declared on November 9, 2021. (6) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). The Company will pay interest on Facility 1 on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of March 31, 2022, the Company had not utilized this facility. The other facility being extended by the Bank to the Company is a fixed rate term loan in the amount of up to $ 16.0 million (“Facility 2”). Facility 2 is available in one disbursement from the Bank and the interest rate is equal to 2.8 % per year. The Company must pay interest on the first day of each month beginning January 1, 2022 and the Company will also repay the principal amount in equal installments of $ 444,444 per month through December 1, 2024. Facility 2 was entered into in conjunction with the purchase of Kestrel Labs. The following table summarizes future principal payments on long-term debt as of March 31, 2022: 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS March 31, (In thousands) April 1, 2022 through December 31, 2022 $ 4,000 2023 5,333 2024 5,334 Future principal payments 14,667 Less current portion ( 5,333 ) Less debt issuance costs ( 57 ) Long-term debt, net of debt issuance costs $ 9,277 (7) STOCK-BASED COMPENSATION PLANS In June 2017, the Company’s stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5.5 million shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of the Company’s common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon vesting and are not included in outstanding shares until such vesting and issuance occurs. During the three months ended March 31, 2022 and 2021, no stock option awards were granted under the 2017 Stock Plan. At March 31, 2022, the Company had 0.8 million stock options outstanding and 0.7 million exercisable under the following pla Outstanding Exercisable Number of Options Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 324 324 Equity compensation plans not approved by shareholders 28 28 2017 Stock Option Plan 412 351 Total 764 703 During the three months ended March 31, 2022, 48,000 shares of restricted stock were granted to management under the 2017 Stock Plan. During the three months ended March 31, 2021, 72,000 shares of restricted stock were granted to management. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of the Company’s common stock on the date of grant. The vesting on the Restricted Stock is typically released quarterly over three years for the Board of Directors and annually or quarterly over two or four years for management. The following summarizes stock-based compensation expenses recorded in the consolidated statements of income (in thousands): For the Three Months Ended March 31, 2022 2021 Cost of Revenue $ 15 $ 15 Sales and marketing expense 59 15 General, and administrative 515 78 Total stock based compensation expense $ 589 $ 108 The Company received proceeds of $ 3,000 and $ 27,000 related to option exercises during the three months ended March 31, 2022 and 2021, respectively. A summary of stock option activity under all equity compensation plans for the three months ended March 31, 2022, is presented be 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2021 765 $ 1.36 4.68 $ 5,896 Exercised ( 1 ) $ 2.94 Outstanding at March 31, 2022 764 $ 1.36 4.43 $ 3,780 Exercisable at March 31, 2022 703 $ 1.11 4.21 $ 3,627 No stock option awards were granted or forfeited during the three months ended March 31, 2022. A summary of restricted stock award activity under all equity compensation plans for the three months ended March 31, 2022, is presented be Number of Weighted Shares Average Grant (in thousands) Date Fair Value Granted but not vested at December 31, 2021 454 $ 13.69 Granted 48 Forfeited ( 11 ) Vested ( 38 ) Granted but not vested at March 31, 2022 453 12.80 As of March 31, 2022, the Company had approximately $ 5.1 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.6 years. (8) STOCKHOLDERS’ EQUITY Common Stock Dividend The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Treasury Stock On March 8, 2021, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through September 8, 2021. From the inception of the plan through September 8, 2021, the Company purchased 175,179 shares of its common stock for $ 2.7 million or an average price of $ 15.22 per share. Warrants A summary of stock warrant activity for the three months ended March 31, 2022 is presented be 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2021 99 $ 2.40 2.76 $ 660 Granted — $ — Exercised — $ — Forfeited — $ — Outstanding and exercisable at March 31, 2022 99 $ 2.40 2.52 $ 379 (9) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits on stock option exercises. For the three months ended March 31, 2022 discrete items adjusted were $ 0.5 million. At March 31, 2022 and 2021, the Company estimated an annual effective tax rate of approximately 25.1 % and 25.2 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 30 % for the three months ended March 31, 2022. Discrete items recognized during the three months ended March 31, 2022 and 2021, resulted in a tax expense of approximately $ 0.1 million and a tax benefit of approximately $ 0.1 million, respectively. The Company recorded an income tax expense of $ 0.6 million and a tax benefit of $0.4 million for the three months ended March 31, 2022 and 2021, respectively. No taxes were paid during the three months ended March 31, 2022 and 2021. (10) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During March 2022, The Company entered into a lease agreement for approximately 4,162 square feet of office space for the operations of Kestrel Labs, Inc. in Boulder, Colorado. The lease begins on April 1, 2022 and will run through April 1, 2025. The rent and common area maintenance charges are equal to $ 17.00 per square foot with annual increases of 3 %. Upon lease commencement, the Company recorded an operating lease liability and corresponding right-of-use asset for $ 0.2 million each. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.08 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.38 % which was used to measure its finance lease liability. The weighted average remaining lease term was 5.19 years and 3.30 years for operating and finance leases, respectively, as of March 31, 2022. As of March 31, 2022, the maturities of the Company’s future minimum lease payments were as follows (in thousands): 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Operating Lease Liability Finance Lease Liability April 1, 2022 through December 31, 2022 2,627 115 2023 3,055 152 2024 3,571 116 2025 3,586 76 2026 3,361 15 2027 3,150 — Thereafter 1,064 — Total undiscounted future minimum lease payments $ 20,414 $ 474 L Difference between undiscounted lease payments and discounted lease liabiliti ( 2,293 ) ( 67 ) Total lease liabilities $ 18,121 $ 407 The components of lease expenses were as follows: Three Months Ended March 31, 2022 2021 Lease Operating lease Total operating lease expense $ 1,105 $ 610 Finance lease Total amortization of leased assets 30 21 Interest on lease liabilities 10 8 Total net lease cost $ 1,145 $ 639 For the three months ended March 31, 2022 and 2021, $ 0.1 million and $ 0.2 million of operating lease costs respectively, were incurred at the Company’s manufacturing and warehouse facility and were included in cost of sales. For the three months ended March 31, 2022 and 2021, $ 1.0 million and $ 0.4 million of operating lease costs, respectively, were included in selling, general and administrative expenses on the consolidated statement of income. (11) FAIR VALUE MEASUREMENTS The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo model. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. Authoritative guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of March 31, 2022, by level within the fair value hierarc Fair Value Measurements at March 31, 2022 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable March 31, Assets Inputs Inputs 2022 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 9,500 $ — $ — $ 9,500 Total $ 9,500 $ — $ — $ 9,500 The following table sets forth a summary of changes in the contingent consideration for the three months ended March 31, 2022 (in thousands): Contingent Consideration Balance as of December 31, 2021 $ 9,700 Gain on change in fair value of contingent consideration ( 200 ) Balance as of March 31, 2022 $ 9,500 (12) CONCENTRATIONS For the three months ended March 31, 2022, the Company sourced approximately 30 % of the components for its electrotherapy products from two significant vendors. For the three months ended March 31, 2021 the Company sourced approximately 32 % of components from two significant vendors. Management believes that its relationships with suppliers are good; however, if the relationships were to be replaced, there may be a short-term disruption to operations, a period of time in which products may not be available and additional expenses may be incurred. At March 31, 2022, the Company had receivables from one third-party payers that made up approximately 19 % of the net accounts receivable balance. At December 31, 2021, the Company had receivables from one third-party payer which made up approximately 22 % of the net accounts receivable balance. (13) COMMITMENTS AND CONTINGENCIES See Note 10 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. 20 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (14) SUBSEQUENT EVENTS On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. Under the share buyback program, buybacks may be made from time-to-time in open market and negotiated purchases, effective immediately through the next twelve months. This program does not obligate the Company to acquire any particular amount of common stock and the program may be suspended or discontinued at any time. The Company expects to finance the purchases with existing cash balances, which is not expected to have a material impact on capital levels. The Company repurchased $ 5.3 million of shares from April 12, 2022 through April 27, 2022. 21 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2021. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2021 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which include electrotherapy and pain management products. As of March 31, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO(TM) CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx(TM), a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. 22 Table of Contents RESULTS OF OPERATIONS Summary Net revenue was $31.1 million and $24.1 million for the three months ended March 31, 2022 and 2021, respectively. Net revenue increased 29% for the three-month period ended March 31, 2022. The Company had net income of $1.3 million during the three months ended March 31, 2022 as compared with a net loss of $0.7 million during the three months ended March 31, 2021. Cash flows provided by operating activities increased $7.1 million to $1.8 million during the three months ended March 31, 2022 as compared with cash flows used in operating activities of $5.3 million during the three months ended March 31, 2021. Working capital was $59.8 million at March 31, 2022 and at December 31, 2021. Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 1 to the Consolidated Financial Statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $7.0 million or 29% to $31.1 million for the three months ended March 31, 2022, from $24.1 million for the same period in 2021. The growth in net revenue is primarily related to the continued growth in device orders. In 2021, we saw annual order growth of 89% and additional order growth for the three months ended March 31, 2022 of 3%. Increased order growth has led to an increased customer base and drove higher sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our products. Device revenue increased $0.3 million or 6% to $6.7 million for the three months ended March 31, 2022, from $6.4 million for the same period in 2021. The growth in device revenue is primarily related to an increase in devices being leased in 2021 and an increase in orders of 3%. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our products. Supplies revenue increased $6.6 million or 37% to $24.4 million for the three months ended March 31, 2022, from $17.8 million for the same period in 2021. The increase in supplies revenue is primarily related to an increased customer base from increased device sales in 2022 and 2021. 23 Table of Contents Operating Expenses Cost of Revenue – Device and Supply Cost of Revenue – device and supply consist primarily of device and supply costs, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended March 31, 2022 increased 18% to $6.9 million from $5.9 million for the three months ended March 31, 2021. The increase in cost of revenue is primarily due to increased revenue. As a percentage of revenue, cost of revenue – device and supply decreased to 22% for the three months ended March 31, 2022 from 24% for the same period in 2021. The decrease as a percentage of revenue is due to increased volumes and expanding our supplier portfolio mix, both of which have allowed us to negotiate lower costs. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended March 31, 2022 increased 4% to $14.4 million from $13.8 million for the three months ended March 31, 2021. The increase in sales and marketing expense is primarily due to increased sales commissions. As a percentage of revenue, sales and marketing expense decreased to 46% for the three months ended March 31, 2022 from 57% for the same period in 2021. The decrease as a percentage of revenue is primarily due to the increase in revenue and our sales force becoming more productive. General and Administrative Expense General and administrative expenses primarily consist of employee related costs, and other direct costs associated with these personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for the three months ended March 31, 2022 increased 43% to $7.8 million from $5.5 million for the three months ended March 31, 2021.The increase in general and administrative expense is primarily due to increased rent and facilities expense as we moved our corporate headquarters during May 2021 and an increase in professional service expenses. As a percentage of revenue, general and administrative expense increased to 25% for the three months ended March 31, 2022 from 23% for the same period in 2021. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by increased revenue. Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 30% and 35% for the three months ended March 31, 2022 and 2021, respectively. Discrete items, primarily related to tax expense on stock option exercises, of $0.1 million and $0.1 million were recognized as a benefit against income tax expense for the three months ended March 31, 2022 and 2021, respectively. For the three months ended March 31, 2022 the Company has an income tax expense of approximately $0.6 million. For the three months ended March 31, 2021 the Company had an income tax benefit of approximately $0.4 million. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At March 31, 2022, our principal source of liquidity was $39.2 million in cash and $27.8 million in accounts receivable. Upon closing on the Kestrel acquisition we entered into a loan and credit facility agreement with Bank of America, N.A. The credit facility includes a line of credit in the amount of $4.0 million available until December 1, 2024. The loan is a fixed rate term loan in the amount of $16.0 million and has an interest rate equal to 2.8% per year. The term loan is payable in equal principal installments of $444,444 per month through December 1, 2024 plus interest on the first day of each month beginning January 1, 2022. See Note 6. Net cash provided by operating activities for the three months ended March 31, 2022 was $1.8 million compared with net cash used in operating activities of $5.3 million for the three months ended March 31, 2021. The increase in cash used in operating activities for the 24 Table of Contents three months ended March 31, 2022 was primarily due to positive net income in 2022 as well as an increase in accounts payable and accrued liabilities. Net cash used in investing activities for each of the three months ended March 31, 2022 and 2021 was $0.1 and $0.3 million, respectively. Cash used in investing activities for both periods was primarily related to office furniture and equipment and leasehold improvements at our new corporate headquarters for the three months ended March 31, 2022 and 2021. Net cash used in financing activities for the three months ended March 31, 2022 was $5.0 million compared with net cash used in financing activities of $0.1 million for the same period in 2021. Cash used in financing activities for the three months ended March 31, 2022 was primarily due to the payment of a $0.10 dividend to common shareholders, and principal payments on notes payable. The cash used in financing activities for the three months ended March 31, 2021 was primarily due to stock purchased through the stock buy back program. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash and cash equivalents balance at March 31, 2022 of $39.2 million; ● Our working capital balance of $59.8 million; and ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the Consolidated Financial Statements located within our Annual Report on Form 10-K for the year ended December 31, 2021, filed with the Securities and Exchange Commission on March 22, 2022. RISKS AND UNCERTAINTIES In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. While the Company did not incur significant disruptions to its operations during the three months ended March 31, 2022 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on such evaluation, our CEO and CFO have concluded that as of March 31, 2022, our disclosure controls and procedures are designed at a reasonable assurance level and are effective to provide reasonable assurance that information we are required to disclose 25 Table of Contents in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission (“SEC”), and that such information is accumulated and communicated to our management, including our CEO and CFO, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures and internal control over financial reporting, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures and internal control over financial reporting must reflect the fact that there are resource constraints and that management is required to apply judgment in evaluating the benefits of possible controls and procedures relative to their costs. Changes in Internal Control Over Financial Reporting During the three months ended March 31, 2022, there were no changes that materially affected or are reasonably likely to affect our internal control over financial reporting. 26 Table of Contents PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS As of the filing date of this Quarterly Report on Form 10-Q, there have been no material changes in the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2021, filed with the SEC on March 22, 2022. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities On April 11, 2022, our Board of Directors approved a program to repurchase up to $10.0 million of our common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. During the three month period ending March 31, 2022, the Company did not repurchase any shares of common stock. On March 8, 2021, our Board of Directors approved a program to repurchase up to $10.0 million of our common stock at prevailing market prices either in the open market or through privately negotiated transactions through September 8, 2021. From the inception of the plan through September 8, 2021, the Company purchased 175,179 shares of our common stock for $2.7 million or an average price of $15.22 per share. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION None 27 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 32.1** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 101.INS* XBRL Instance Document. 101.SCH* XBRL Taxonomy Extension Schema Document. 101.CAL* XBRL Taxonomy Calculation Linkbase Document. 101.LAB * XBRL Taxonomy Label Linkbase Document. 101.PRE * XBRL Presentation Linkbase Document. 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document. 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101 * Filed herewith ** Furnished herewith 28 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat April 28, 2022 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 29 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end June 30, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 303 ) 703-4906 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol Name of each exchange on which registered Common Stock, par value $0.001 per share ZYXI NASDAQ Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☐ Non-accelerated filer ☒ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of July 26, 2022 Common Stock, par value $0.001 38,406,658 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of June 30, 2022 (unaudited) and December 31, 2021 3 Unaudited Condensed Consolidated Statements of Income for the three and six months ended June 30, 2022 and 2021 4 Unaudited Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2022 and 2021 5 Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the three and six months ended June 30, 2022 and 2021 6 Unaudited Notes to Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 21 Item 3. Quantitative and Qualitative Disclosures About Market Risk 25 Item 4. Controls and Procedures 25 PART II—OTHER INFORMATION 26 Item 1. Legal Proceedings 26 Item 1A. Risk Factors 26 Item 2. Unregistered Sales of Equity Securities And Use of Proceeds 26 Item 3. Defaults Upon Senior Securities 26 Item 4. Mine Safety Disclosures 27 Item 5. Other Information 27 Item 6. Exhibits 28 SIGNATURES 29 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES) June 30, December 31, 2022 2021 ASSETS Current assets: Cash $ 26,877 $ 42,612 Accounts receivable, net 27,824 28,632 Inventory, net 14,572 10,756 Prepaid expenses and other 1,357 689 Total current assets 70,630 82,689 Property and equipment, net 2,277 2,186 Operating lease asset 14,719 16,338 Finance lease asset 329 389 Deposits 591 585 Intangible assets, net of accumulated amortization 9,525 9,975 Goodwill 20,401 20,401 Deferred income taxes 1,103 711 Total assets $ 119,575 $ 133,274 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabiliti Accounts payable and accrued expenses 5,236 4,739 Cash dividends payable 16 3,629 Operating lease liability 3,391 2,859 Finance lease liability 123 118 Income taxes payable 160 2,296 Current portion of debt 5,333 5,333 Accrued payroll and related taxes 4,564 3,897 Total current liabilities 18,823 22,871 Long-term liabiliti Long-term portion of debt, less issuance costs 7,949 10,605 Contingent consideration 9,600 9,700 Operating lease liability 13,941 15,856 Finance lease liability 253 317 Total liabilities 50,566 59,349 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of June 30, 2022 and December 31, 2021 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,619,965 issued and 38,403,566 outstanding as of June 30, 2022 41,400,834 issued and 39,737,890 outstanding as of December 31, 2021 (including 3,606,970 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 40 41 Additional paid-in capital 81,412 80,397 Treasury stock of 2,750,773 and 1,246,399 shares at June 30, 2022 and December 31, 2021, respectively, at cost ( 17,166 ) ( 6,513 ) Retained earnings 4,723 — Total stockholders’ equity 69,009 73,925 Total liabilities and stockholders’ equity $ 119,575 $ 133,274 The accompanying notes are an integral part of these condensed consolidated financial statements. 3 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended June 30, For the Six Months Ended June 30, 2022 2021 2022 2021 NET REVENUE Devices $ 9,505 $ 7,828 $ 16,230 $ 14,193 Supplies 27,254 23,194 51,612 40,956 Total net revenue 36,759 31,022 67,842 55,149 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 7,305 7,267 14,226 13,153 Sales and marketing 16,314 13,752 30,738 27,579 General and administrative 8,776 6,188 16,608 11,683 Total costs of revenue and operating expenses 32,395 27,207 61,572 52,415 Income from operations 4,364 3,815 6,270 2,734 Other income (expense) Gain (loss) on change in fair value of contingent consideration ( 100 ) — 100 — Interest expense ( 115 ) ( 45 ) ( 239 ) ( 54 ) Other income (expense), net ( 215 ) ( 45 ) ( 139 ) ( 54 ) Income from operations before income taxes 4,149 3,770 6,131 2,680 Income tax expense 803 962 1,408 578 Net income $ 3,346 $ 2,808 $ 4,723 $ 2,102 Net income per sh Basic $ 0.09 $ 0.07 $ 0.12 $ 0.05 Diluted $ 0.08 $ 0.07 $ 0.12 $ 0.05 Weighted average basic shares outstanding 38,851 38,291 39,305 38,306 Weighted average diluted shares outstanding 39,893 39,141 40,367 39,192 The accompanying notes are an integral part of these condensed consolidated financial statements. 4 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) ForThe Six Months Ended June 30, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 4,723 $ 2,102 Adjustments to reconcile net income to net cash provided by (used in) operating activiti Depreciation 1,025 1,094 Amortization 461 — Non-cash reserve charges ( 9 ) ( 35 ) Stock-based compensation 1,124 509 Non-cash lease expense 237 414 Provision (benefit) for deferred income taxes ( 392 ) 126 Gain on change in fair value of contingent consideration ( 100 ) — Change in operating assets and liabiliti Accounts receivable 808 ( 4,473 ) Prepaid and other assets ( 669 ) 191 Accounts payable and other accrued expenses ( 1,020 ) ( 1,570 ) Inventory ( 4,604 ) ( 2,398 ) Deposits ( 6 ) ( 238 ) Net cash provided by (used in) operating activities 1,578 ( 4,278 ) CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 212 ) ( 354 ) Net cash used in investing activities ( 212 ) ( 354 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 58 ) ( 44 ) Cash dividends paid ( 3,613 ) — Purchase of treasury stock ( 10,655 ) ( 2,120 ) Proceeds from the issuance of common stock on stock-based awards 14 88 Principal payments on long-term debt ( 2,667 ) — Taxes withheld and paid on employees’ equity awards ( 122 ) ( 135 ) Net cash used in financing activities ( 17,101 ) ( 2,211 ) Net decrease in cash ( 15,735 ) ( 6,843 ) Cash at beginning of period 42,612 39,173 Cash at end of period $ 26,877 $ 32,330 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 208 ) $ ( 54 ) Cash paid for rent $ ( 1,965 ) $ ( 1,069 ) Cash paid for income taxes $ ( 3,926 ) ( 335 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 211 $ 13,247 Right-of-use assets obtained in exchange for new finance lease liabilities $ — $ 162 Inventory transferred to property and equipment as demo devices $ — $ 519 Inventory transferred to property and equipment under lease $ 788 $ 473 Capital expenditures not yet paid $ 48 $ — The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2020 38,244,310 36 37,235 ( 3,846 ) 23,430 56,855 Exercised and vested stock-based awards 63,546 1 29 — — 30 Stock-based compensation expense — — 108 — — 108 Warrants exercised 9,733 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 4,135 ) — ( 59 ) — — ( 59 ) Purchase of treasury stock ( 5,000 ) — — ( 75 ) — ( 75 ) Net loss — — — — ( 706 ) ( 706 ) Balance at March 31, 2021 $ 38,308,454 $ 37 $ 37,313 $ ( 3,921 ) $ 22,724 $ 56,153 Exercised and vested stock-based awards, net of tax 93,709 — $ 59 $ — $ — $ 59 Stock-based compensation expense — — 401 — — $ 401 Shares of common stock withheld to pay taxes on employees’ equity awards ( 35,097 ) — ( 76 ) — — $ ( 76 ) Purchase of treasury stock ( 135,179 ) — — ( 2,045 ) — $ ( 2,045 ) Net income — — — — 2,808 $ 2,808 Balance at June 30, 2021 $ 38,231,887 $ 37 $ 37,697 $ ( 5,966 ) $ 25,532 $ 57,300 Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2021 39,737,890 41 80,397 ( 6,513 ) — 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 $ 39,776,816 $ 41 80,913 $ ( 6,513 ) $ 1,377 $ 75,818 Exercised and vested stock-based awards 178,727 1 11 — — 12 Stock-based compensation expense — — 535 — — 535 Shares of common stock withheld to pay taxes on employees’ equity awards ( 47,603 ) — ( 47 ) — — ( 47 ) Purchase of treasury stock ( 1,504,374 ) ( 2 ) — ( 10,653 ) — ( 10,655 ) Net income — — — — 3,346 3,346 Balance at June 30, 2022 $ 38,403,566 $ 40 $ 81,412 $ ( 17,166 ) $ 4,723 $ 69,009 The accompanying notes are an integral part of these condensed consolidated financial statements. 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of June 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (”Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the six months ended June 30, 2022 and 2021, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Except as otherwise indicated, all related amounts reported in the condensed consolidated financial statements, including common share quantities, earnings per share amounts and exercise prices of options, have been retroactively adjusted for the effect of this stock dividend. 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Unaudited Condensed Consolidated Financial Statements The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. Amounts as of December 31, 2021, are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of June 30, 2022 and the results of its operations and its cash flows for the periods presented. The results of operations for the six months ended June 30, 2022 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying condensed consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying condensed consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, assumptions related to the valuation of contingent consideration, and valuation of long-lived assets and realizability of deferred tax assets. Accounts Receivable, Net The Company’s accounts receivable represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. See Note 14 – Concentrations for discussion of significant customer accounts receivable balances. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing in the future.The Company tests goodwill at least annually for impairment. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when control is deemed to have transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The following table provides a breakdown of net revenue related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606") and leases subject to ASC 842 (in thousands): For the Three Months Ended June 30, For the Six Months Ended June 30, 2022 2021 2022 2021 Device revenue Purchased $ 2,268 $ 2,337 $ 4,457 $ 4,668 Leased 7,237 5,491 11,773 9,525 Total device revenue $ 9,505 $ 7,828 $ 16,230 $ 14,193 Supplies revenue 27,254 23,194 51,612 40,956 Total revenue $ 36,759 $ 31,022 $ 67,842 $ 55,149 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s condensed consolidated balance sheets. For additional information on the leases where the Company is the lessee, see Note 12- Leases. A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying condensed consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision-Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. Recent Accounting Pronouncements In August 2020, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2020-06, Debt — Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging — Contracts in Entity’s Own Equity 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Subtopic 815-40) (“ASU 2020-06”) to simplify accounting for certain financial instruments. ASU 2020-06 eliminates the current models that require separation of beneficial conversion and cash conversion features from convertible instruments and simplifies the derivative scope exception guidance pertaining to equity classification of contracts in an entity’s own equity. The new standard also introduces additional disclosures for convertible debt and freestanding instruments that are indexed to and settled in an entity’s own equity. ASU 2020-06 amends the diluted earnings per share guidance, including the requirement to use the if-converted method for all convertible instruments. ASU 2020-06 is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years, with early adoption permitted. The Company adopted ASU 2020-06 effective as of January 1, 2022. The adoption of ASU 2020-06 did not have an impact on the Company’s consolidated financial statements. In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) ("ASU 2016-13"), Measurement of Credit Losses on Financial Instruments. The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren't measured at fair value through net income. The standard will replace today's "incurred loss" approach with an "expected loss" model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. This ASU is effective for annual periods beginning after December 15, 2022, and interim periods therein for smaller reporting companies. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Company adopted this standard during the quarter ended June 30, 2022. The primary instrument that needed to be evaluated was the Company’s trade receivables and the impact was not material. Management has evaluated other recently issued accounting pronouncements and does not believe that any of these pronouncements will have a material impact on the Company’s condensed consolidated financial statements. (3) INVENTORY The components of inventory are as follows (in thousands): June 30, 2022 December 31, 2021 Raw materials $ 3,680 $ 4,471 Work-in-process 1,044 345 Finished goods 7,239 4,468 Inventory in transit 2,761 1,624 $ 14,724 $ 10,908 L reserve ( 152 ) ( 152 ) $ 14,572 $ 10,756 (4) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): June 30, 2022 December 31, 2021 Property and equipment Office furniture and equipment $ 2,537 $ 2,391 Assembly equipment 103 100 Vehicles 203 203 Leasehold improvements 1,165 1,054 Leased devices 1,072 1,080 5,080 4,828 Less accumulated depreciation ( 2,803 ) ( 2,642 ) $ 2,277 $ 2,186 Total depreciation expense related to our property and equipment was $ 0.2 million and $ 0.2 million for the three months ended June 30, 2022 and 2021, respectively. Depreciation expense for the six month periods ended June 30, 2022 and 2021 was $ 0.4 million and $ 0.3 million, respectively. 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Total depreciation expense related to devices out on lease was $ 0.4 million and $ 0.4 million for the three months ended June 30, 2022 and 2021, respectively. Depreciation expense related to devices out on lease was $ 0.7 million and $ 0.6 million for the six months ended June 30, 2022 and 2021, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. During the year ended December 31, 2021, the Company began expensing product demo units sent to its territory managers to use in the field. Total depreciation expense related to demo unit devices out with sales representatives was $ 0.1 million for the three months ended June 30, 2021. Total depreciation expense related to demo unit devices out with sales representatives was $ 0.2 million for the six months ended June 30, 2021. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units which are still with patients for which the Company cannot determine the current status. (5) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the “Selling Shareholders”). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,334,350 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 889,566 of the Zynex Shares are being held in escrow (the “Escrow Shares”). The number of Escrow Shares is subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon determination by the FDA that the Device can be marketed and sold in the United States. The amount of Escrow Shares were recalculated at June 30, 2022 and are included in the calculation of diluted earnings per share. The maximum amount of Zynex Shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares of the Company (see Note 13 for more information regarding this liability). The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. (6) GOODWILL AND OTHER INTANGIBLE ASSETS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 5). As of June 30, 2022, there were no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of June 30, 2022. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents at December 31, 2021 $ 10,000 $ ( 25 ) $ 9,975 11.00 Amortization expense ( 450 ) ( 450 ) Acquired patents at June 30, 2022 $ 10,000 $ ( 475 ) $ 9,525 10.48 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2022, next five fiscal years, and periods thereaf (In thousands) July 1, 2022 through December 31, 2022 $ 458 2023 908 2024 911 2025 908 2026 908 2027 908 Thereafter 4,524 Total future amortization expense $ 9,525 (7) EARNINGS PER SHARE Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period, calculated using the treasury-stock method for outstanding stock options. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. The calculation of basic and diluted earnings per share for the three and six months ended June 30, 2022 and 2021 are as follows (in thousands, except per share data): For the Three Months Ended June 30, For the Six Months Ended June 30, 2022 2021 2022 2021 Basic earnings per share Net income (loss) available to common stockholders $ 3,346 $ 2,808 4,723 2,102 Basic weighted-average shares outstanding 38,851 38,291 39,305 38,306 Basic earnings (loss) per share $ 0.09 $ 0.07 0.12 0.05 Diluted earnings per share Net income (loss) available to common stockholders $ 3,346 $ 2,808 4,723 2,102 Weighted-average shares outstanding 38,851 38,291 39,305 38,306 Effect of dilutive securities - options and restricted stock 1,042 850 1,062 886 Diluted weighted-average shares outstanding 39,893 39,141 40,367 39,192 Diluted earnings (loss) per share $ 0.08 $ 0.07 0.12 0.05 For the three and six months ended June 30, 2022, options to purchase 0.3 million and 0.3 million shares, respectively, of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. For the three and six months ended June 30, 2021, options to purchase 0.1 million and 0.2 million shares, respectively, of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. (8) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). The Company will pay interest on Facility 1 on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of June 30, 2022, the Company had not utilized this facility. 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The other facility being extended by the Bank to the Company is a fixed rate term loan in the amount of up to $16.0 million (“Facility 2”). Facility 2 was entered into and funded in conjunction with the purchase of Kestrel Labs the interest rate is equal to 2.8 % per year. The Company must pay interest on the first day of each month which began January 1, 2022 and the Company also repays the principal amount in equal installments of $ 444,444 per month through December 1, 2024. The following table summarizes future principal payments on long-term debt as of June 30, 2022: June 30, 2022 (In thousands) July 1, 2022 through December 31, 2022 $ 2,667 2023 5,333 2024 5,333 Future principal payments 13,333 Less current portion ( 5,333 ) Less debt issuance costs ( 51 ) Long-term debt, net of debt issuance costs $ 7,949 (9) STOCK-BASED COMPENSATION PLANS In June 2017, our stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5,500,000 shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of our common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon grant and are not included in outstanding shares until such vesting and issuance occurs. During the three and six months ended June 30, 2022 , 200,000 performance based stock option awards were granted under the 2017 Stock Plan. During the three and six months ended June 30, 2021, no stock option awards were granted under the 2017 Stock Plan. At June 30, 2022, the company had 0.8 million stock options outstanding and 0.6 million exercisable under the following pla Outstanding Exercisable Number of Options Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 213 213 Equity compensation plans not approved by shareholders — — 2017 Stock Option Plan 603 344 Total 816 557 During the three and six months ended June 30, 2022, 45,000 and 93,000 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. During the three and six months ended June 30, 2021, 33,000 and 104,500 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on the Restricted Stock Awards typically occur quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. The following summarizes stock-based compensation expenses recorded in the condensed consolidated statements of income (in thousands): For the Three Months Ended June 30, For the Six Months Ended June 30, 2022 2021 2022 2021 Cost of Revenue $ 12 $ 15 $ 27 $ 30 Sales and marketing expense 55 15 114 30 General, and administrative 468 371 983 449 Total stock based compensation expense $ 535 $ 401 $ 1,124 $ 509 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The Company received proceeds of $ 0.1 million related to option exercises during the three and six months ended June 30, 2022, respectively. The Company received proceeds of $ 0.1 million related to option exercises during each of the three and six months ended June 30, 2021, respectively. The Company granted 200,000 stock options during the three and six months ended June 30, 2022. The Company did no t grant any stock options during the three and six months ended June 30, 2021. The Company used the Black Scholes option pricing model to determine the fair value of stock option grants, using the following assumptions for the six months ended June 30, 2022: Expected term (years) 3.00 Risk-free interest rate 2.81 % Expected volatility 73.28 % Expected dividend yield — % A summary of stock option activity under all equity compensation plans for the six months ended June 30, 2022, is presented be Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2021 765 $ 1.36 4.68 $ 5,896 Granted 200 $ 6.23 Forfeited ( 2 ) $ 3.21 Exercised ( 147 ) $ 0.50 Outstanding at June 30, 2022 816 $ 2.70 5.59 $ 4,318 Exercisable at June 30, 2022 557 $ 1.27 3.95 $ 3,743 A summary of restricted stock award activity under all equity compensation plans for the six months ended June 30, 2022, is presented be Number of Weighted Shares Average Grant (in thousands) Date Fair Value Granted but not vested at December 31, 2021 454 $ 13.69 Granted 93 $ 6.66 Forfeited ( 11 ) $ 6.07 Vested ( 70 ) $ 14.32 Granted but not vested at June 30, 2022 466 12.22 As of June 30, 2022, the Company had approximately $ 5.1 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.5 years. (10) STOCKHOLDERS’ EQUITY Common Stock Dividend The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Treasury Stock On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through June 30 2022, the Company purchased 84,500 shares of its common stock for $ 0.7 million or an average price of $ 7.74 per share. On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. Warrants A summary of stock warrant activity for the six months ended June 30, 2022 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2021 99 $ 2.40 2.76 $ 660 Granted — $ — Exercised — $ — Forfeited — $ — Outstanding and exercisable at June 30, 2022 99 $ 2.40 2.27 $ 451 (11) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits on stock option exercises. For the three and six months ended June 30, 2022 discrete items adjusted were ($ 0.9 ) million and ($ 0.4 ) million, respectively. At June 30, 2022 and 2021, the Company is estimating an annual effective tax rate of approximately 25 % and 26 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 23 % for the six months ended June 30, 2022. The Company recorded income tax expense of $ 0.8 million and $ 1.4 million for the three and six months ended June 30, 2022, respectively, and income tax expense of $ 1.0 million and $ 0.6 million for the three and six months ended June 30, 2021. Taxes of $ 3.9 million and $ 0.3 million were paid during the six months ended June 30, 2022 and 2021, respectively. (12) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During March 2022, The Company entered into a lease agreement for approximately 4,162 square feet of office space for the operations of Kestrel Labs, Inc. in Boulder, Colorado. The lease began on April 1, 2022 and will run through April 1, 2025. The rent and common area maintenance charges are equal to $ 17.00 per square foot with annual increases of 3 %. Upon lease commencement, the Company recorded an operating lease liability and corresponding right-of-use asset for $ 0.2 million each. 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.06 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.38 % which was used to measure its finance lease liability. The weighted average remaining lease term was 5.04 years and 2.91 years for operating and finance leases, respectively, as of June 30, 2022. As of June 30, 2022, the maturities of the Company’s future minimum lease payments were as follows (in thousands): Operating Lease Liability Finance Lease Liability July 1, 2022 through December 31, 2022 1,658 73 2023 3,055 152 2024 3,571 116 2025 3,586 76 2026 3,362 15 2027 3,150 — Thereafter 1,064 — Total undiscounted future minimum lease payments $ 19,446 $ 432 L Difference between undiscounted lease payments and discounted lease liabiliti ( 2,114 ) ( 56 ) Total lease liabilities $ 17,332 $ 376 The components of lease expenses were as follows: Three Months Ended Six Months Ended June 30, June 30, Operating Lease expense 2022 2021 2022 2021 Costs of revenue - devices and supplies $ 100 $ 181 $ 201 $ 359 Sales and marketing expense 126 76 257 133 General and administrative 887 658 1,761 1,033 Total operating lease expense $ 1,113 $ 915 $ 2,219 $ 1,525 Finance Lease expense Amortization of right-of-use ass Costs of revenue - devices and supplies $ 15 $ 14 $ 31 $ 26 Selling, general and administrative 14 14 28 28 Total amortization of right-of-use asset 29 28 59 54 Interest expense and other 9 20 19 28 Total finance lease expense $ 38 $ 48 $ 78 $ 82 (13) FAIR VALUE MEASUREMENTS The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo model. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. Authoritative guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of June 30, 2022, by level within the fair value hierarc Fair Value Measurements at June 30, 2022 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable June 30, Assets Inputs Inputs 2022 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 9,600 $ — $ — $ 9,600 Total $ 9,600 $ — $ — $ 9,600 The following table sets forth a summary of changes in the contingent consideration for the three months ended June 30, 2022 (in thousands): Contingent Consideration Balance as of December 31, 2021 $ 9,700 Gain on change in fair value of contingent consideration ( 100 ) Balance as of June, 2022 $ 9,600 (14) CONCENTRATIONS For the three months ended June 30, 2022, the Company sourced approximately 58 % of the supplies for its electrotherapy products from four significant vendors. For the same period in 2021, the Company sourced approximately 31 % of the supplies for its electrotherapy products from one significant vendor. For the six months ended June 30, 2022, the Company sourced approximately 53 % of supplies for its electrotherapy products from four significant vendors. For the same period in 2021, the Company sourced approximately 35 % of supplies for its electrotherapy products from two significant vendors. Management believes that its relationships with suppliers are good; however, if the relationships were to be replaced, there may be a short-term disruption to operations, a period of time in which products may not be available and additional expenses may be incurred. 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS At June 30, 2022, the Company had receivables from one third-party payer that made up approximately 18 % of the net accounts receivable balance. At December 31, 2021, the Company had receivables from one third-party payer which made up approximately 22 % of the net accounts receivable balance. (15) COMMITMENTS AND CONTINGENCIES See Note 12 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (16) SUBSEQUENT EVENTS No subsequent events identified through July 28, 2022. 20 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2021. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2021 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which include electrotherapy and pain management products. As of June 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. RESULTS OF OPERATIONS Summary Net revenue was $36.8 million and $31.0 million for the three months ended June 30, 2022 and 2021, respectively, and $67.8 million and $55.1 million for the six months ended June 30, 2022 and 2021, respectively. Net revenue increased 18% and 23% for the three and six-month periods ended June 30, 2022, respectively. Net income was $3.3 million for the three months ended June 30, 2022 compared with $2.8 million during the same period in 2021. Net income was $4.7 million for the six months ended June 30, 2022 compared with $2.1 million during the same period in 2021. Cash provided by operating activities was $1.6 million during the six months ended June 30, 2022. Working capital was $51.8 million and $59.8 million as of June 30, 2022 and December 31, 2021, respectively. 21 Table of Contents Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the condensed financial statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $5.7 million or 18% to $36.7 million for the three months ended June 30, 2022, from $31.0 million for the same period in 2021. Net revenue increased $12.7 million or 23% to $67.8 million for the six months ended June 30, 2022, from $55.1 million for the same period in 2021. For both the three and six-month periods ended June 30, 2022, the growth in net revenue from the same periods in 2021 is primarily related to a 10% and 6% growth in device orders, respectively, which resulted from an increased customer base and led to higher sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our products. Device revenue increased $1.7 million or 21% to $9.5 million for the three months ended June 30, 2022, from $7.8 million for the same period in 2021. Device revenue increased $2.0 million or 14% to $16.2 million for the six months ended June 30, 2022, from $14.2 million for the same period in 2021. For both the three and six-month periods ended June 30, 2022, the growth in net revenue from the same periods in 2021 is primarily related to growth in sales of devices, device orders, and an increase in leased device sales. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our electrotherapy products. Supplies revenue increased $4.1 million or 18% to $27.3 million for the three months ended June 30, 2022, from $23.2 million for the same period in 2021. Supplies revenue increased $10.6 million or 26% to $51.6 million for the six months ended June 30, 2022, from $41.0 million for the same period in 2021. The increase in supplies revenue is primarily related to an increased customer base from increased device sales in 2022 and 2021. 22 Table of Contents Operating Expenses Cost of Revenue – Devices and Supplies Cost of Revenue – devices and supplies consist primarily of device and supply costs, facilities, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended June 30, 2022 remained flat at $7.3 million. As a percentage of revenue, cost of revenue – devices and supplies decreased to 20% for the three months ended June 30, 2022 from 23% for the same period in 2021. Cost of revenue for the six months ended June 30, 2022 increased 8% to $14.2 million from $13.2 million for the same period in 2021. As a percentage of revenue, cost of revenue – device and supply decreased to 21% for the six months ended June 30, 2022 from 24% for the same period in 2021. The decrease as a percentage of revenue, in both periods presented above, is due to increased volumes and expanding our supplier portfolio mix, both of which have allowed us to negotiate lower costs. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended June 30, 2022 increased 19% to $16.3 million from $13.8 million for the same period in 2021. The increase in sales and marketing expense is primarily due to increased commission and incentive pay related to inflation and rising wages in the U.S. which has created a very competitive job market. As a percentage of revenue, sales and marketing expense remained flat at 44% for the three months ended June 30, 2022 and 2021, respectively. Sales and marketing expense for the six months ended June 30, 2022 increased 11% to $30.7 million from $27.6 million for the same period in 2021. The increase in sales and marketing expense is primarily due to increased commission and incentive pay related to inflation and rising wages in the U.S. which has created a very competitive job market. As a percentage of revenue, sales and marketing expense decreased to 45% and 50% for the six months ended June 30, 2022 and 2021, respectively. The decrease as a percentage of revenue is primarily due to the increase in revenue during the period, slightly offset by the additional expenses noted above. General and Administrative Expense General and administrative expenses primarily consist of employee-related costs, and other direct costs associated with these personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for the three months ended June 30, 2022 increased 42% to $8.8 million from $6.2 million for the same period in 2021. The increase in general and administrative expense for the three months is primarily due to increased compensation and benefit expense related to headcount growth at ZMS, increased rent and facilities expense as we moved our corporate headquarters during May 2021, and an increase in research and development expenses for ZMS. As a percentage of revenue, general and administrative expense increased to 24% for the three months ended June 30, 2022 from 20% for the same period in 2021. The increase as a percentage of revenue is primarily due to the items noted above, partially offset by the increase in revenue during the period . General and administrative expense for the six months ended June 30, 2022 increased 42% to $16.6 million from $11.7 million for the same period in 2021. The increase in general and administrative expense for the six months is primarily due to increased compensation and benefit expense related to headcount growth at ZMS, increases in rent and facilities expense as we moved our corporate headquarters during May 2021, research and development expenses for ZMS, and amortization of intangible assets acquired from the Kestrel acquisition in December 2021. As a percentage of revenue, general and administrative expense increased to 24% for the six months ended June 30, 2022 from 21% for the same period in 2021. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by the increase in revenue during the period. Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 19% and 23% for the 23 Table of Contents three and six months ended June 30, 2022, respectively. Discrete items, primarily related to excess tax benefits related to stock option exercises, of ($0.9) million and ($0.4) million for the three and six months ended June 30, 2022, respectively, are recognized as a benefit against income tax expense. For the three and six months ended June 30, 2022 the Company had an income tax expense of approximately $0.8 million and $1.4 million, respectively. The Company recorded income tax expense of $1.0 million and $0.6 million for the three and six months ended June 30, 2021. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At June 30, 2022, our principal source of liquidity was $26.9 million in cash and $27.8 million in accounts receivable. Net cash provided by operating activities for the six months ended June 30, 2022 was $1.6 million compared with net cash used in operating activities of $4.3 million for the six months ended June 30, 2021. The increase in cash provided by operating activities for the six months ended June 30, 2022 was primarily due to an increase in net income as well as a decrease in the receivables balance. The increase was partially offset by increased inventory due to our order growth, in-transit inventory, plus increased stockpiles in anticipation of possible supply chain shortages. Net cash used in investing activities for the six months ended June 30, 2022 and 2020 was $0.2 million and $0.4 million, respectively. Cash used in investing activities for the six months ended June 30, 2022 was primarily related to leasehold improvements at our new facility for Kestrel and the purchase of computer equipment. Cash used in investing activities for the six months ended June 30, 2021 was primarily related to the purchase of leasehold improvements at our manufacturing and warehouse facility . Net cash used in financing activities for the six months ended June 30, 2021 was $17.1 million compared with net cash used in financing activities of $2.2 million for the same period in 2021. Net cash used in financing activities for the six months ended June 30, 2022 was primarily due to purchases of treasury stock, payment of cash dividends in January 2022, and principal payments on long-term debt. Net cash used in financing activities for the six months ended June 30, 2021 was primarily due to purchases of treasury stock. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash and cash equivalents balance at June 30, 2022 of $26.9 million; ● Our working capital balance of $51.8 million; ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the consolidated financial statements located within our Annual Report on Form 10-K for the year ended December 31, 2021, filed with the Securities and Exchange Commission on March 22, 2022. OFF BALANCE SHEET ARRANGEMENTS The Company had no significant off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to our stockholders. 24 Table of Contents RISKS AND UNCERTAINTIES In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. While the Company did not incur significant disruptions to its operations during the three months ended June 30, 2022 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A. ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on such evaluation, our CEO and CFO have concluded that as of June 30, 2022, our disclosure controls and procedures are designed at a reasonable assurance level and are effective to provide reasonable assurance that information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission (“SEC”), and that such information is accumulated and communicated to our management, including our CEO and CFO, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures and internal control over financial reporting, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures and internal control over financial reporting must reflect the fact that there are resource constraints and that management is required to apply judgment in evaluating the benefits of possible controls and procedures relative to their costs. Changes in Internal Control Over Financial Reporting During the six months ended June 30, 2022, there were no changes that materially affected or are reasonably likely to affect our internal control over financial reporting. 25 Table of Contents PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS As of the filing date of this Quarterly Report on Form 10-Q, there have been no material changes in the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2021, filed with the SEC on March 22, 2022. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities Total Number of In Thousands Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan April 11 - April 30, 2022 Share repurchase program (1) 959,874 $ 7.15 959,874 3,132 May 1 - May 31, 2022 Share repurchase program (1) 460,000 $ 6.81 1,419,874 — June 10 - June 30, 2022 Share repurchase program (2) 84,500 $ 7.74 84,500 9,346 Quarter Total Share repurchase program (1) 1,419,874.00 $ 7.04 1,419,874 — Share repurchase program (2) 84,500.00 $ 7.74 84,500 9,346 (1)Shares were purchased through the Company’s publicly announced share repurchase program dated Aprill 11, 2022. The program was fully utilitzed during the Company’s second quarter. (2)Shares were purchased through the Company’s publicly announced share repurchase program dated June 9, 2022. The program expires on June 9, 2023. On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through June 30 2022, the Company purchased 84,500 shares of its common stock for $0.7 million or an average price of $7.74 per share. On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $10.0 million or an average price of $7.04 per share which completed this program. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. 26 Table of Contents ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION None. 27 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB * XBRL Taxonomy Label Linkbase Document 101.PRE * XBRL Presentation Linkbase Document 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document * Filed herewith ** Furnished herewith 28 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat July 28, 2022 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 29 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end September 30, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 800 ) 495-6670 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Ticker symbol(s) Name of each exchange on which registered Common Stock, $0.001 par value per share ZYXI The Nasdaq Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☐ Non-accelerated filer ☒ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of October 25, 2022 Common Stock, par value $0.001 37,453,445 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of September 30, 2022 (unaudited) and December 31, 2021 3 Unaudited Condensed Consolidated Statements of Operations for the three and nine months ended September 30, 2022 and 2021 4 Unaudited Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2022 and 2021 5 Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the three and nine months ended September 30, 2022 and 2021 6 Unaudited Notes to Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 22 Item 3. Quantitative and Qualitative Disclosures About Market Risk 26 Item 4. Controls and Procedures 26 PART II—OTHER INFORMATION 27 Item 1. Legal Proceedings 27 Item 1A. Risk Factors 27 Item 2. Unregistered Sales of Equity Securities And Use of Proceeds 27 Item 3. Defaults Upon Senior Securities 27 Item 4. Mine Safety Disclosures 27 Item 5. Other Information 27 Item 6. Exhibits 28 SIGNATURES 29 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES) September 30, 2022 December 31, (unaudited) 2021 ASSETS Current assets: Cash $ 23,532 $ 42,612 Accounts receivable, net 28,350 28,632 Inventory, net 14,366 10,756 Prepaid expenses and other 1,134 689 Total current assets 67,382 82,689 Property and equipment, net 2,199 2,186 Operating lease asset 13,783 16,338 Finance lease asset 300 389 Deposits 591 585 Intangible assets, net of accumulated amortization 9,296 9,975 Goodwill 20,401 20,401 Deferred income taxes 1,483 711 Total assets $ 115,435 $ 133,274 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabiliti Accounts payable and accrued expenses 5,139 4,739 Cash dividends payable 16 3,629 Operating lease liability 2,943 2,859 Finance lease liability 126 118 Income taxes payable 916 2,296 Current portion of debt 5,333 5,333 Accrued payroll and related taxes 5,297 3,897 Total current liabilities 19,770 22,871 Long-term liabiliti Long-term portion of debt, less issuance costs 6,621 10,605 Contingent consideration 9,700 9,700 Operating lease liability 13,936 15,856 Finance lease liability 221 317 Total liabilities 50,248 59,349 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of September 30, 2022 and December 31, 2021 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,625,663 issued and 37,467,494 outstanding as of September 30, 2022 41,400,834 issued and 39,737,890 outstanding as of December 31, 2021 (including 3,606,970 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 39 41 Additional paid-in capital 81,873 80,397 Treasury stock of 3,738,224 and 1,246,399 shares at September 30, 2022 and December 31, 2021, respectively, at cost ( 26,321 ) ( 6,513 ) Retained earnings 9,596 — Total stockholders’ equity 65,187 73,925 Total liabilities and stockholders’ equity $ 115,435 $ 133,274 The accompanying notes are an integral part of these condensed consolidated financial statements. 3 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended September 30, For the Nine Months Ended September 30, 2022 2021 2022 2021 NET REVENUE Devices $ 11,349 $ 9,071 $ 27,579 $ 23,264 Supplies 30,171 25,715 81,783 66,671 Total net revenue 41,520 34,786 109,362 89,935 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 8,391 6,837 22,617 19,990 Sales and marketing 17,212 13,083 47,950 40,662 General and administrative 9,359 6,820 25,967 18,503 Total costs of revenue and operating expenses 34,962 26,740 96,534 79,155 Income from operations 6,558 8,046 12,828 10,780 Other (expense) Loss on change in fair value of contingent consideration ( 100 ) — — — Interest expense ( 106 ) ( 18 ) ( 345 ) ( 72 ) Other (expense) net ( 206 ) ( 18 ) ( 345 ) ( 72 ) Income from operations before income taxes 6,352 8,028 12,483 10,708 Income tax expense 1,479 1,921 2,887 2,499 Net income $ 4,873 $ 6,107 $ 9,596 $ 8,209 Net income per sh Basic $ 0.13 $ 0.16 $ 0.25 $ 0.21 Diluted $ 0.13 $ 0.16 $ 0.24 $ 0.21 Weighted average basic shares outstanding 38,046 38,245 38,881 38,286 Weighted average diluted shares outstanding 38,865 39,043 39,729 39,142 The accompanying notes are an integral part of these condensed consolidated financial statements. 4 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) For The Nine Months Ended September 30, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 9,596 $ 8,209 Adjustments to reconcile net income to net cash provided by (used in) operating activiti Depreciation 1,590 1,689 Amortization 695 — Non-cash reserve charges 65 ( 83 ) Stock-based compensation 1,702 1,042 Non-cash lease expense 720 905 Provision (benefit) for deferred income taxes ( 772 ) 190 Change in operating assets and liabiliti Accounts receivable 282 ( 10,397 ) Prepaid and other assets ( 446 ) 276 Accounts payable and other accrued expenses 364 ( 284 ) Inventory ( 4,801 ) ( 1,898 ) Deposits ( 6 ) ( 238 ) Net cash provided by (used in) operating activities 8,989 ( 589 ) CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 332 ) ( 420 ) Net cash used in investing activities ( 332 ) ( 420 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 87 ) ( 73 ) Cash dividends paid ( 3,613 ) — Purchase of treasury stock ( 19,811 ) ( 2,667 ) Proceeds from the issuance of common stock on stock-based awards 27 127 Principal payments on long-term debt ( 4,000 ) — Taxes withheld and paid on employees’ equity awards ( 253 ) ( 183 ) Net cash used in financing activities ( 27,737 ) ( 2,796 ) Net decrease in cash ( 19,080 ) ( 3,805 ) Cash at beginning of period 42,612 39,173 Cash at end of period $ 23,532 $ 35,368 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 317 ) $ ( 72 ) Cash paid for rent $ ( 2,592 ) $ ( 1,510 ) Cash paid for income taxes ( 5,028 ) ( 1,019 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 211 $ 13,240 Right-of-use assets obtained in exchange for new finance lease liabilities $ — $ 175 Inventory transferred to property and equipment as demo devices $ — $ 125 Inventory transferred to property and equipment under lease $ 1,191 $ 1,254 Capital expenditures not yet paid $ 56 $ 56 The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2020 38,244,310 $ 36 $ 37,235 $ ( 3,846 ) $ 23,430 $ 56,855 Exercised and vested stock-based awards 63,546 1 29 — — 30 Stock-based compensation expense — — 108 — — 108 Warrants exercised 9,733 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 4,135 ) — ( 59 ) — — ( 59 ) Purchase of treasury stock ( 5,000 ) — — ( 75 ) — ( 75 ) Net loss — — — — ( 706 ) ( 706 ) Balance at March 31, 2021 38,308,454 $ 37 $ 37,313 $ ( 3,921 ) $ 22,724 $ 56,153 Exercised and vested stock-based awards, net of tax 93,709 — $ 59 $ — $ — 59 Stock-based compensation expense — — 401 — — 401 Shares of common stock withheld to pay taxes on employees’ equity awards ( 35,097 ) — ( 76 ) — — ( 76 ) Purchase of treasury stock ( 135,179 ) — — ( 2,045 ) — ( 2,045 ) Net income — — — — 2,808 2,808 Balance at June 30, 2021 38,231,887 $ 37 $ 37,697 $ ( 5,966 ) $ 25,532 $ 57,300 Exercised and vested stock-based awards, net of tax 49,682 — $ 38 $ — $ — 38 Stock-based compensation expense — — 533 — — 533 Shares of common stock withheld to pay taxes on employees’ equity awards ( 3,671 ) — ( 48 ) — — ( 48 ) Purchase of treasury stock ( 35,000 ) — — ( 547 ) — ( 547 ) Net income — — — — 6,107 6,107 Balance at September 30, 2021 38,242,898 $ 37 $ 38,220 $ ( 6,513 ) $ 31,639 $ 63,383 Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2021 39,737,890 $ 41 $ 80,397 $ ( 6,513 ) $ — $ 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 39,776,816 $ 41 80,913 $ ( 6,513 ) $ 1,377 $ 75,818 Exercised and vested stock-based awards 178,727 1 11 — — 12 Stock-based compensation expense — — 535 — — 535 Shares of common stock withheld to pay taxes on employees’ equity awards ( 47,603 ) — ( 47 ) — — ( 47 ) Purchase of treasury stock ( 1,504,374 ) ( 2 ) — ( 10,653 ) — ( 10,655 ) Net income — — — — 3,346 3,346 Balance at June 30, 2022 38,403,566 $ 40 $ 81,412 $ ( 17,166 ) $ 4,723 $ 69,009 Exercised and vested stock-based awards 68,060 — 13 — — 13 Stock-based compensation expense — — 578 — — 578 Shares of common stock withheld to pay taxes on employees' equity awards ( 16,681 ) — ( 130 ) — — ( 130 ) Purchase of treasury stock ( 987,451 ) ( 1 ) — ( 9,155 ) — ( 9,156 ) Net income — — — — 4,873 4,873 Balance at September 30, 2022 37,467,494 $ 39 $ 81,873 $ ( 26,321 ) $ 9,596 $ 65,187 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS NOTE (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of September 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100 % of Kestrel Labs, Inc. (”Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the nine months ended September 30, 2022 and 2021, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Except as otherwise indicated, all related amounts reported in the condensed consolidated financial statements, including common share quantities, earnings per share amounts and exercise prices of options, have been retroactively adjusted for the effect of this stock dividend. 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Unaudited Condensed Consolidated Financial Statements The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. Amounts as of December 31, 2021, are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of September 30, 2022 and the results of its operations and its cash flows for the periods presented. The results of operations for the nine months ended September 30, 2022 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. NOTE (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying condensed consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying condensed consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, assumptions related to the valuation of contingent consideration, and valuation of long-lived assets and realizability of deferred tax assets. Accounts Receivable, Net The Company’s accounts receivable represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. The Company maintains a constraint for third-party payer refund requests, deductions and adjustments. See Note 14 – Concentrations for discussion of significant customer accounts receivable balances. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing in the future. The Company utilized the simplified test for goodwill impairment. The amount recognized for impairment is equal to the difference between the carrying value and the asset’s fair value. The valuation methods used in the quantitative fair value assessment was a discounted cash flow method and required management to make certain assumptions and estimates regarding certain industry trends and future profitability of our reporting units. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when the performance obligation has been met and the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when the performance obligation has been met and the product has been transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The following table provides a breakdown of disaggregated net revenues for the three and nine months ended September 30, 2022, and 2021 related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606") and leases subject to ASC 842 (in thousands): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2022 2021 2022 2021 Device revenue Purchased $ 2,900 $ 2,076 $ 7,357 $ 6,734 Leased 8,449 6,995 20,222 16,530 Total device revenue $ 11,349 $ 9,071 $ 27,579 $ 23,264 Supplies revenue 30,171 25,715 81,783 66,671 Total revenue $ 41,520 $ 34,786 $ 109,362 $ 89,935 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s condensed consolidated balance sheets. For additional information on the leases where the Company is the lessee, see Note 12- Leases. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying condensed consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the Chief Operating Decision-Makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision-Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. The Inflation Reduction Act (“IRA”) was enacted into law on August 16, 2022. Included in the IRA was a provision to implement a 15% corporate alternative minimum tax on corporations whose average annual adjusted financial statement income during the most recently completed three year period exceeds $1 billion. This provision is effective for tax years beginning after December 31, 2022. We are in the process of evaluating the provisions of the IRA, but we do not currently believe the IRA will have a material impact on our reported results, cash flows or financial position when it becomes effective. Recent Accounting Pronouncements In August 2020, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2020-06, Debt — Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging — Contracts in Entity’s Own Equity (Subtopic 815-40) (“ASU 2020-06”) to simplify accounting for certain financial instruments. ASU 2020-06 eliminates the current models that require separation of beneficial conversion and cash conversion features from convertible instruments and simplifies the derivative scope exception guidance pertaining to equity classification of contracts in an entity’s own equity. The new standard also introduces additional disclosures for convertible debt and freestanding instruments that are indexed to and settled in an entity’s own equity. ASU 2020-06 amends the diluted earnings per share guidance, including the requirement to use the if-converted method for all convertible instruments. ASU 2020-06 is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years, with early adoption permitted. The Company adopted ASU 2020-06 effective as of January 1, 2022. The adoption of ASU 2020-06 did not have an impact on the Company’s condensed consolidated financial statements. In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) (“ASU 2016-13”), Measurement of Credit Losses on Financial Instruments. The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren’t measured at fair value through net income. The standard will replace today’s “incurred loss” approach with an “expected loss” model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. This ASU is effective for annual periods beginning after December 15, 2022, and interim periods therein for smaller reporting companies. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Company adopted this standard during the quarter ended September 30, 2022. The primary instrument that needed to be evaluated was the Company’s trade receivables and the impact was not material. NOTE (3) INVENTORY The components of inventory as of September 30, 2022, and December 31, 2021 are as follows (in thousands): September 30, 2022 December 31, 2021 Raw materials $ 3,709 $ 4,471 Work-in-process 487 345 Finished goods 8,919 4,468 Inventory in transit 1,403 1,624 $ 14,518 $ 10,908 L reserve ( 152 ) ( 152 ) $ 14,366 $ 10,756 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS NOTE (4) PROPERTY AND EQUIPMENT The components of property and equipment as of September 30, 2022, and December 31, 2021 are as follows (in thousands): September 30, 2022 December 31, 2021 Property and equipment Office furniture and equipment $ 2,657 $ 2,391 Assembly equipment 103 100 Vehicles 203 203 Leasehold improvements 1,173 1,054 Leased devices 1,117 1,080 5,253 4,828 Less accumulated depreciation ( 3,054 ) ( 2,642 ) $ 2,199 $ 2,186 Total depreciation expense related to our property and equipment was $ 0.1 million and $ 0.2 million for the three months ended September 30, 2022 and 2021, respectively. Depreciation expense for the nine month periods ended September 30, 2022 and 2021 was $ 0.5 million and $ 0.7 million, respectively. Total depreciation expense related to devices out on lease was $ 0.3 million and $ 0.4 million for the three months ended September 30, 2022 and 2021, respectively. Depreciation expense related to devices out on lease was $ 1.0 million and $ 1.0 million for the nine months ended September 30, 2022 and 2021, respectively. Depreciation on leased units is reflected in the condensed consolidated statements of operations as cost of revenue. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units which are still with patients for which the Company cannot determine the current status. 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS NOTE (5) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the “Selling Shareholders”). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,334,350 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 889,566 of the Zynex Shares are being held in escrow (the “Escrow Shares”). The number of Escrow Shares is subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon determination by the FDA that the Device can be marketed and sold in the United States. The amount of Escrow Shares were recalculated at September 30, 2022 and are included in the calculation of diluted earnings per share. The maximum amount of Zynex Shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares of the Company (see Note 13 for more information regarding this liability). The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. NOTE (6) GOODWILL AND OTHER INTANGIBLE ASSETS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 5). For the nine months ended September 30, 2022, there was no change in the carrying amount of goodwill, there were no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of September 30, 2022. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents at December 31, 2021 $ 10,000 $ ( 25 ) $ 9,975 11.00 Amortization expense ( 679 ) ( 679 ) Acquired patents at September 30, 2022 $ 10,000 $ ( 704 ) $ 9,296 10.23 The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2022, next five fiscal years, and periods thereaf (In thousands) October 1, 2022 through December 31, 2022 $ 229 2023 908 2024 911 2025 908 2026 908 2027 908 Thereafter 4,524 Total future amortization expense $ 9,296 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS NOTE (7) EARNINGS PER SHARE Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period, calculated using the treasury-stock method for outstanding stock options. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. The calculation of basic and diluted earnings per share for the three and nine months ended September 30, 2022 and 2021 are as follows (in thousands, except per share data): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2022 2021 2022 2021 Basic earnings per share Net income available to common stockholders $ 4,873 $ 6,107 9,596 8,209 Basic weighted-average shares outstanding 38,046 38,245 38,881 38,286 Basic earnings per share $ 0.13 $ 0.16 0.25 0.21 Diluted earnings per share Net income available to common stockholders $ 4,873 $ 6,107 9,596 8,209 Weighted-average shares outstanding 38,046 38,245 38,881 38,286 Effect of dilutive securities - options and restricted stock 819 798 848 856 Diluted weighted-average shares outstanding 38,865 39,043 39,729 39,142 Diluted earnings per share $ 0.13 $ 0.16 0.24 0.21 For both the three and nine months ended September 30, 2022, options to purchase 6,000 and 22,000 shares of common stock were excluded from the dilutive stock calculation, respectively, because their effect would have been anti-dilutive. For both the three and nine months ended September 30, 2021, options to purchase 268,000 and 176,000 shares of common stock were excluded from the dilutive stock calculation, respectively, because their effect would have been anti-dilutive. NOTE (8) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). The Company will pay interest on Facility 1 on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of September 30, 2022, the Company had not utilized this facility. The other facility being extended by the Bank to the Company is a fixed rate term loan in the amount of up to $ 16.0 million (“Facility 2”). Facility 2 was entered into and funded in conjunction with the purchase of Kestrel Labs. The interest rate is equal to 2.8 % per year. The Company must pay interest on the first day of each month which began January 1, 2022 and the Company also repays the principal amount in equal installments of $ 444,444 per month through December 1, 2024. 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The following table summarizes future principal payments on long-term debt as of September 30, 2022: September 30, 2022 (In thousands) October 1, 2022 through December 31, 2022 $ 1,333 2023 5,333 2024 5,334 Future principal payments 12,000 Less current portion ( 5,333 ) Less debt issuance costs ( 46 ) Long-term debt, net of debt issuance costs $ 6,621 NOTE (9) STOCK-BASED COMPENSATION PLANS In June 2017, our stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5.5 million shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of our common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon grant and are not included in outstanding shares until such vesting and issuance occurs. During the three months ended September 30, 2022, no stock option awards were granted under the 2017 Stock Plan. During the nine months ended September 30, 2022, 200,000 performance based stock option awards were granted under the 2017 Stock Plan. During the three and nine months ended September 30, 2021, no stock option awards were granted under the 2017 Stock Plan. At September 30, 2022, the company had 0.8 million stock options outstanding and 0.6 million exercisable under the following pla Outstanding Exercisable Number of Options Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 211 211 Equity compensation plans not approved by shareholders — — 2017 Stock Option Plan 592 342 Total 803 553 During the three and nine months ended September 30, 2022, 50,000 and 143,000 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. During the three and nine months ended September 30, 2021, 222,000 and 349,000 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on the Restricted Stock Awards typically occurs quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. The following summarizes stock-based compensation expenses recorded in the condensed consolidated statements of operations (in thousands): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2022 2021 2022 2021 Cost of Revenue $ 13 $ 12 $ 40 $ 42 Sales and marketing expense 16 48 130 78 General, and administrative 549 473 1,532 922 Total stock based compensation expense $ 578 $ 533 $ 1,702 $ 1,042 The Company received minimal cash proceeds related to option exercises during the three months ended September 30, 2022. The Company received cash proceeds of $ 0.1 million related to option exercises during the nine months ended September 30, 2022. The Company received minimal cash proceeds related to option exercises during the three months ended September 30, 2021. The Company received cash proceeds of $ 0.1 million related to option exercises during the nine months ended September 30, 2021. 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The Company used the Black Scholes option pricing model to determine the fair value of stock option grants, using the following assumptions during the nine months ended September 30, 2022: Expected term (years) 3.00 Risk-free interest rate 2.81 % Expected volatility 73.28 % Expected dividend yield — % A summary of stock option activity under all equity compensation plans for the nine months ended September 30, 2022, is presented be Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2021 765 $ 1.36 4.68 $ 5,896 Granted 200 $ 6.23 Forfeited ( 11 ) $ 2.98 Exercised ( 151 ) $ 0.57 Outstanding at September, 2022 803 $ 2.70 5.38 $ 5,112 Exercisable at September 30, 2022 553 $ 1.27 3.76 $ 4,314 A summary of restricted stock award activity under all equity compensation plans for the nine months ended September 30, 2022, is presented be Number of Weighted Shares Average Grant (in thousands) Date Fair Value Granted but not vested at December 31, 2021 454 $ 13.69 Granted 143 $ 7.39 Forfeited ( 43 ) $ 10.13 Vested ( 134 ) $ 13.44 Granted but not vested at September 30, 2022 420 $ 11.82 As of September 30, 2022, the Company had approximately $ 4.5 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.35 years. NOTE (10) STOCKHOLDERS’ EQUITY Common Stock Dividend The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Treasury Stock On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through September 30 2022, the Company purchased 1,071,951 shares of its common stock for $ 9.8 million or an average price of $ 9.15 per share. 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. Warrants A summary of stock warrant activity for the nine months ended September 30, 2022 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2021 99 $ 2.40 2.76 $ 660 Granted — $ — Exercised — $ — Forfeited — $ — Outstanding and exercisable at September 30, 2022 99 $ 2.40 2.02 $ 518 NOTE (11) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits on stock option exercises. For the three and nine months ended September 30, 2022 discrete items adjusted were $ 0.2 million and $( 0.2 ) million, respectively. At September 30, 2022 and 2021 the Company is currently estimating an annual effective tax rate of approximately 23 % and 25 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 23 % for the nine months ended September 30, 2022. The Company recorded income tax expense of $ 1.5 million and $ 2.9 million for the three and nine months ended September 30, 2022, respectively, and income tax expense of $ 1.9 million and $ 2.5 million for the three and nine months ended September 30, 2021. Income taxes of $ 5.0 million and $ 1.0 million were paid during the nine months ended September 30, 2022 and 2021, respectively. NOTE (12) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During March 2022, The Company entered into a lease agreement for approximately 4,162 square feet of office space for the operations of Kestrel Labs, Inc. in Boulder, Colorado. The lease began on April 1, 2022 and will run through April 1, 2025. The rent and common area maintenance charges are equal to $ 17.00 per square foot with annual increases of 3 %. Upon lease commencement, the Company recorded an operating lease liability and corresponding right-of-use asset for $ 0.2 million each. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.05 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.39 % which was used to measure its finance lease liability. The weighted average remaining lease term was 4.90 years and 2.85 years for operating and finance leases, respectively, as of September 30, 2022. 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS As of September 30, 2022, the maturities of the Company’s future minimum lease payments were as follows (in thousands): Operating Lease Liability Finance Lease Liability October 1, 2022 through December 31, 2022 1,030 38 2023 3,055 152 2024 3,571 116 2025 3,586 76 2026 3,362 15 2027 3,150 — Thereafter 1,064 — Total undiscounted future minimum lease payments $ 18,818 $ 397 L Difference between undiscounted lease payments and discounted lease liabiliti ( 1,939 ) ( 50 ) Total lease liabilities $ 16,879 $ 347 The components of lease expenses were as follows: Three Months Ended Nine Months Ended September 30, September 30, 2022 2021 2022 2021 Lease Operating lease Total operating lease expense $ 1,125 $ 1,072 $ 3,344 $ 2,415 Finance lease Total amortization of leased assets 30 29 89 78 Interest on lease liabilities 9 11 28 31 Total net lease cost $ 1,164 $ 1,112 $ 3,461 $ 2,524 Operating lease costs related to our manufacturing and warehouse facility were included in cost of sales while all other operating lease costs were included in general and administrative expenses on the consolidated statement of operations. NOTE (13) FAIR VALUE MEASUREMENTS The Company measures the fair value of financial assets and liabilities based on the guidance of ASC 820 “Fair Value Measurements and Disclosures” (“ASC 820”) which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo model. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of September 30, 2022, by level within the fair value hierarc Fair Value Measurements at September 30, 2022 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable September 30, Assets Inputs Inputs 2022 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 9,700 $ — $ — $ 9,700 Total $ 9,700 $ — $ — $ 9,700 The following table sets forth a summary of changes in the contingent consideration for the nine months ended September 30, 2022 (in thousands): Contingent Consideration Balance as of December 31, 2021 $ 9,700 Gain on change in fair value of contingent consideration — Balance as of September 30, 2022 $ 9,700 NOTE (14) CONCENTRATIONS For the three months ended September 30, 2022, the Company sourced approximately 39 % of the supplies for its electrotherapy products from two significant vendors. For the same period in 2021, the Company sourced approximately 51 % of the supplies for its electrotherapy products from three significant vendors. For the nine months ended September 30, 2022, the Company sourced approximately 33 % of supplies for its electrotherapy products from two significant vendors. For the same period in 2021, the Company sourced approximately 36 % of supplies for its electrotherapy products from two significant vendors. At September 30, 2022, the Company had receivables from one third-party payer that made up approximately 15 % of the net accounts receivable balance. At December 31, 2021, the Company had receivables from one third-party payer which made up approximately 22 % of the net accounts receivable balance. NOTE (15) COMMITMENTS AND CONTINGENCIES See Note 12 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be 20 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. NOTE (16) SUBSEQUENT EVENTS No subsequent events identified through October 27, 2022. 21 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2021. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2021 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which include electrotherapy and pain management products. As of September 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. RESULTS OF OPERATIONS Summary Net revenue was $41.5 million and $34.8 million for the three months ended September 30, 2022 and 2021, respectively, and $109.4 million and $89.9 million for the nine months ended September 30, 2022 and 2021, respectively. Net revenue increased 19% and 22% for the three and nine months ended September 30, 2022, respectively. Net income was $4.9 million for the three months ended September 30, 2022 compared with $6.1 million during the same period in 2021. Net income was $9.6 million for the nine months ended September 30, 2022 compared with $8.2 million during the same period in 2021. Cash provided by operating activities was $9.0 million during the nine months ended September 30, 2022. Working capital was $47.6 million and $59.8 million as of September 30, 2022 and December 31, 2021, respectively. 22 Table of Contents Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the condensed financial statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $6.7 million or 19% to $41.5 million for the three months ended September 30, 2022, from $34.8 million for the same period in 2021. Net revenue increased $19.4 million or 22% to $109.4 million for the nine months ended September 30, 2022, from $89.9 million for the same period in 2021. For the three and nine months ended September 30, 2022, the growth in net revenue from the same periods in 2021 is primarily related to a 34% and 15% growth in device orders, respectively, which led to an increased customer base and drove higher sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our electrotherapy and complimentary products. Device revenue increased $2.2 million or 25% to $11.3 million for the three months ended September 30, 2022, from $9.1 million for the same period in 2021. Device revenue increased $4.3 million or 19% to $27.6 million for the nine months ended September 30, 2022, from $23.3 million for the same period in 2021. For both the three and nine-month periods ended September 30, 2022, the growth in net revenue from the same periods in 2021 is primarily related to growth in sales of devices and an increase in leased device sales. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our electrotherapy products. Supplies revenue increased $4.5 million or 17% to $30.2 million for the three months ended September 30, 2022, from $25.7 million for the same period in 2021. Supplies revenue increased $15.1 million or 23% to $81.8 million for the nine months ended September 30, 2022, from $66.7 million for the same period in 2021. The increase in supplies revenue is primarily related to an increased customer base from increased device sales in 2022 and 2021. 23 Table of Contents Operating Expenses Cost of Revenue – Device and Supply Cost of Revenue – device and supply consist primarily of device and supply costs, facilities, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended September 30, 2022 increased 23% to $8.4 million from $6.8 million for the same period in 2021. As a percentage of revenue, cost of revenue – device and supply remained at 20% for the three months ended September 30, 2022 and 2021. Cost of revenue for the nine months ended September 30, 2022 increased 13% to $22.6 million from $20.0 million for the same period in 2021. As a percentage of revenue, cost of revenue – device and supply decreased to 21% for the nine months ended September 30, 2022 compared to 22% for the same period in 2021. The decrease as a percentage of revenue, for the nine months ended September 30, 2022, is due to increased volumes and expanding our supplier portfolio mix, both of which have allowed us to negotiate lower costs. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended September 30, 2022 increased 32% to $17.2 million from $13.1 million for the same period in 2021. Sales and marketing expense for the nine months ended September 30, 2022 increased 18% to $48.0 million from $40.7 million for the same period in 2021. The increase in sales and marketing expense is primarily due to increased commission and incentive pay related to inflation and rising wages in the U.S. As a percentage of revenue, sales and marketing expense increased to 41% for the three months ended September 30, 2022 from 38% for the same period in 2021 primarily due to the aforementioned expenses. As a percentage of revenue, sales and marketing expense decreased to 44% for the nine months ended September 30, 2022 from 45% for the same period in 2021. The decrease as a percentage of revenue is primarily due to the increase in revenue during the period, slightly offset by the additional expenses noted above. General and Administrative Expense General and administrative expenses primarily consist of employee-related costs, and other direct costs associated with out personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for the three months ended September 30, 2022 increased 37% to $9.4 million from $6.8 million for the same period in 2021. The increase in general and administrative expense for the three months is primarily due to increased compensation and benefit expense related to headcount growth at ZMI and an increase in research and development expenses for ZMS. As a percentage of revenue, general and administrative expense increased to 23% for the three months ended September 30, 2022 from 20% for the same period in 2021. The increase as a percentage of revenue is primarily due to the items noted above, partially offset by the increase in revenue during the period. General and administrative expense for the nine months ended September 30, 2022 increased 40% to $26.0 million from $18.5 million for the same period in 2021. The increase in general and administrative expense for the nine months is primarily due to increased compensation and benefit expense related to increased salaries at ZMI, increases in rent and facilities expense as we moved our corporate headquarters during May 2021, research and development expenses for ZMS, and amortization of intangible assets acquired from the Kestrel acquisition in December 2021. As a percentage of revenue, general and administrative expense increased to 24% for the nine months ended September 30, 2022 from 21% for the same period in 2021. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by the increase in revenue during the period. 24 Table of Contents Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 23% for both the three and nine months ended September 30, 2022. Discrete items, primarily related to excess tax benefits related to stock option exercises, of $0.2 million and $(0.2) million for the three and nine months ended September 30, 2022, respectively, are recognized as a benefit against income tax expense. For the three and nine months ended September 30, 2022 the Company had an income tax expense of approximately $1.5 million and $2.9 million, respectively. The Company recorded income tax expense of $1.9 million and $2.5 million for the three and nine months ended September 30, 2021. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At September 30, 2022, our principal source of liquidity was $23.5 million in cash and $28.4 million in accounts receivable. Net cash provided by operating activities for the nine months ended September 30, 2022 was $9.0 million compared with net cash used in operating activities of $0.6 million for the nine months ended September 30, 2021. The increase in cash provided by operating activities for the nine months ended September 30, 2022 was primarily due to an increase in net income and the change in accounts receivable. The increase was partially offset by increased inventory due to our order growth and in-transit inventory. Net cash used in investing activities for the nine months ended September 30, 2022 and 2021 was $0.3 million and $0.4 million, respectively. Cash used in investing activities for the nine months ended September 30, 2022 was primarily related to leasehold improvements at our new facility related to the acquisition of Kestrel and the purchase of computer equipment. Cash used in investing activities for the nine months ended September 30, 2021 was primarily related to leasehold improvements at our new manufacturing and warehouse facilities. Net cash used in financing activities for the nine months ended September 30, 2022 was $27.7 million compared with net cash used in financing activities of $2.8 million for the same period in 2021. Net cash used in financing activities for the nine months ended September 30, 2022 was primarily due to purchases of treasury stock, payment of cash dividends in January 2022, and principal payments on long-term debt. Net cash used in financing activities for the nine months ended September 30, 2021 was primarily due to purchases of treasury stock. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash and cash equivalents balance at September 30, 2022 of $23.5 million; ● Our working capital balance of $47.6 million; and ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the consolidated financial statements located within our Annual Report on Form 10-K for the year ended December 31, 2021, filed with the Securities and Exchange Commission on March 22, 2022. 25 Table of Contents RISKS AND UNCERTAINTIES In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. While the Company did not incur significant disruptions to its operations during the three months ended September 30, 2022 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A. ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on such evaluation, our CEO and CFO have concluded that as of September 30, 2022, our disclosure controls and procedures are designed at a reasonable assurance level and are effective to provide reasonable assurance that information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission (“SEC”), and that such information is accumulated and communicated to our management, including our CEO and CFO, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures and internal control over financial reporting, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures and internal control over financial reporting must reflect the fact that there are resource constraints and that management is required to apply judgment in evaluating the benefits of possible controls and procedures relative to their costs. Changes in Internal Control Over Financial Reporting During the nine months ended September 30, 2022, there were no changes that materially affected or are reasonably likely to affect our internal control over financial reporting. 26 Table of Contents PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS As of the filing date of this Quarterly Report on Form 10-Q, there have been no material changes in the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2021, filed with the SEC on March 22, 2022. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities Total Number of In Thousands Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan July 1 - July 31, 2022 Share repurchase program (1) 10,000 $ 7.56 94,500 9,271 August 1 - August 31, 2022 Share repurchase program (1) 613,239 $ 9.38 707,739 3,520 September 1 - September 30, 2022 Share repurchase program (1) 364,212 $ 9.13 1,071,951 196 Quarter Total Share repurchase program (1) 987,451 $ 9.15 1,071,951 196 (1) Shares were purchased through the Company’s publicly announced share repurchase program approved by the Company’s Board of Directors on June 9, 2022. The program expires at the earlier of June 9, 2023 or reaching $10.0 million of repurchases. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION None. 27 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1** Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB * XBRL Taxonomy Label Linkbase Document 101.PRE * XBRL Presentation Linkbase Document 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith ** Furnished herewith 28 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat October 27, 2022 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 29 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-K (Mark One) ☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the year ended December 31, 2022 ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 ZYNEX, INC. (Exact name of registrant as specified in its charter) Nevada 90-0275169 (State or other jurisdiction of incorporation or organization) (IRS Employer Identification No.) 9655 Maroon Circle , Englewood , CO 80112 (Address of principal executive offices) (Zip Code) Registrant’s telephone number, including area co ( 303 ) 703-4906 Securities registered pursuant to Section 12(b) of the Ac Title of each class Ticker symbol(s) Name of each exchange on which registered Common Stock, $0.001 par value per share ZYXI The Nasdaq Stock Market LLC Securities registered pursuant to Section 12(g) of the Ac Title of each class Common Stock, $0.001 par value Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. ☐ Yes ☒ No Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. ☐ Yes ☒ No Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. ☒ Yes ☐ No Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). ☒ Yes ☐ No Indicate by check mark whether the registrant is a large, accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large, accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large, accelerated filer ☐ Accelerated filer ☒ Non-accelerated filer ☐ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ☒ If securities are registered pursuant to Section 12(b) of the Act, indicate by check mark whether the financial statements of the registrant included in the filing reflect the correction of an error to previously issued financial statements. ☐ Indicate by check mark whether any of those error corrections are restatements that required a recovery analysis of incentive-based compensation received by any of the registrant’s executive officers during the relevant recovery period pursuant to §240.10D-1(b). ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). ☐ Yes ☒ No The aggregate market value of the registrant’s common stock held by non-affiliates of the registrant as of June 30, 2022, the last business day of the Registrant’s last completed second quarter, based upon the closing price of the common stock as reported by the Nasdaq Stock Market on such date was approximately $ 175.2 million. As of March 13, 2023, 41,531,169 shares of common stock are issued and 36,634,459 shares are outstanding. Documents incorporated by referen Portions of the Registrant’s definitive proxy statement relating to its 2023 annual meeting of stockholders (the “ Proxy Statement”) are incorporated by reference into Part III of this Annual Report on Form 10-K where indicated. The Proxy Statement will be filed with the U.S. Securities and Exchange Commission within 120 days after the end of the fiscal year to which this report relates. Table of Contents TABLE OF CONTENTS ZYNEX, INC. ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 2022 Page PART I 2 Item 1. Business 2 Item 1A. Risk Factors 11 Item 1B. Unresolved Staff Comments 28 Item 2. Properties 28 Item 3. Legal Proceedings 29 Item 4. Mine Safety Disclosures 29 PART II 30 Item 5. Market For Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 30 Item 6. [R eserved] 31 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 31 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 40 Item 8. Financial Statements and Supplementary Data 40 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures 40 Item 9A. Controls and Procedures 41 Item 9B. Other Information 42 Item 9C. Disclosure Regrading Foreign Jurisdictions that Prevent Inspections 42 PART III 43 Item 10. Directors, Executive Officers and Corporate Governance 43 Item 11. Executive Compensation 43 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 43 Item 13. Certain Relationships and Related Transactions, and Director Independence 44 Item 14. Principal Accounting Fees and Services 44 PART IV 45 Item 15. Exhibits, Financial Statement Schedules 45 Item 16. Form 10-K Summary 47 Signatures 48 Table of Contents CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION This report includes statements of our expectations, intentions, plans, and beliefs that constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Nonetheless, it is important for an investor to understand that these statements involve risks and uncertainties. These statements relate to the discussion of our business strategies and our expectations concerning future operations, margins, profitability, liquidity, and capital resources and to analyses and other information that are based on forecasts of future results and estimates of amounts not yet determinable. We have used words such as “may,” “will,” “should,” “expect,” “intend,” “plan,” “anticipate,” “believe,” “think,” “estimate,” “seek,” “expect,” “predict,” “could,” “project,” “potential,” and other similar terms and phrases, including references to assumptions, in this report to identify forward-looking statements. These forward-looking statements are made based on expectations and beliefs concerning future events affecting us and are subject to uncertainties, risks and factors relating to our operations and business environment, all of which are difficult to predict and many of which are beyond our control, that could cause our actual results to differ materially from those matters expressed or implied by these forward-looking statements. Such risks and other factors also include those listed in Item 1A. “Risk Factors” and elsewhere in this report and our other filings with the Securities and Exchange Commission. When considering these forward-looking statements, you should keep in mind the cautionary statements in this report and the documents incorporated by reference. New risks and uncertainties arise from time to time, and we cannot predict those events or how they may affect us. We assume no obligation to update any forward-looking statements after the date of this report as a result of new information, future events or developments, except as required by applicable laws and regulations. When used in this annual report, the terms the “Company,” “Zynex”, “we,” “us,” “ours,” and similar terms refer to Zynex, Inc., a Nevada corporation, and its subsidiaries, Zynex Medical, Inc., Zynex NeuroDiagnostics, Inc., Zynex Monitoring Solutions Inc., Kestrel Labs, Inc., Zynex Europe ApS, and Pharmazy, Inc. As of the date of this annual report, our only operating subsidiary is Zynex Medical, Inc. (“ZMI”). Zynex Monitoring Solutions, Inc. (“ZMS”) has developed its fluid monitoring system product as described below. 1 Table of Contents PART I ITEM 1. BUSINESS History Zynex, Inc. was founded by Thomas Sandgaard in 1996, when he founded two privately held companies that eventually were folded into Zynex, Inc. Zynex, Inc., a Nevada corporation, is the parent company of six active and inactive subsidiaries. As of December 31, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Kestrel Labs, Inc. (“Kestrel,” a wholly-owned Colorado corporation), Zynex Europe (“ZEU,” a wholly-owned Colorado corporation), Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation), and Pharmazy, Inc. (“Pharmazy,” a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO™ CO-Oximeter, a noninvasive multi-parameter pulse oximeter, and HemeOx™, a noninvasive total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. ZMS has developed the CM-1500 monitoring system (“CM-1500”) which was granted 510(k) clearance in February 2020 by the FDA in the United States of America. ZMS filed a 510(k) application for the CM-1600 in December 2021, its next generation wireless monitoring system (“CM-1600”) and is continuing to work with the FDA on obtaining clearance. ZMS has achieved no revenues to date. Substantially all of the Company’s consolidated revenue in 2022 and 2021 is attributable to ZMI. Our headquarters are located in Englewood, Colorado. Active Subsidiaries Zynex Medical, Inc. (ZMI): ZMI designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All of our medical devices are designed to be patient friendly and designed for home use. Our devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of our medical devices are marketed in the U.S. and are subject to FDA regulation and clearance. Our products require a physician’s prescription before they can be dispensed in the U.S. Our primary product is the NexWave device. The NexWave is marketed to physicians and therapists by our field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. ZMI distributes complementary products such as lumbar support, cervical traction, knee bracing, and hot/cold therapy. These complement our pain management products and are critical for physicians and therapists. These products require a prescription and are covered by most insurance plans and Medicare. ZMI designs, manufactures, and markets the NeuroMove product. The NeuroMove contains electromyography and electric stimulation technology that is primarily used for stroke, spinal cord and traumatic brain injury rehabilitation (“SCI”), by reaching parts of the brain to re-connect with muscles, also known as neuroplasticity. The NeuroMove product is primarily marketed to medical clinics. Zynex did not have material sales of this product in 2022 or 2021. ZMI also designs, manufactures, and markets the InWave product, an in-home electrical stimulation device used to treat female urinary incontinence. The device requires a prescription and is covered by most insurance plans and Medicare. Zynex did not have material sales of this product in 2022 or 2021. 2 Table of Contents Zynex Monitoring Solutions (ZMS): ZMS was formed in 2011 to develop and market medical devices for non-invasive patient monitoring beginning with our Zynex Monitoring System. The monitor is a non-invasive medical device for monitoring relative fluid volume changes used in operating and recovery rooms to detect fluid loss during surgery and internal bleeding during recovery. The CM-1500 received 510(k) clearance from the FDA in February 2020. The Zynex Monitoring System has been tested in several Institutional Review Board (“IRB”) approved clinical studies, both in well-controlled healthy volunteer settings as well as in clinical use environments. In 2022, the clinical trials were expanded to include the next generation CM-1600. Enrollment was completed in the apheresis blood donation study with Vitalant Research Institute (the research arm of Vitalant, the nation’s largest independent, nonprofit blood services provider) to track changes in the device’s patented Relative Index (“RI”) during apheresis blood donation procedures. Multiple studies were also completed at Yale University where volunteer study subjects underwent simulated hemorrhage using a lower body negative pressure chamber while wearing the device. Finally, enrollment was initiated in a large-scale multi-site study to measure the sensitivity and specificity of the CM-1600 at detecting minor blood loss, which is anticipated to finish recruitment and data collection in the first half of 2023. We have built a number of commercial devices in pilot-production and continue to refine the algorithms for the patented Relative Index. We have received two U.S. utility patents for this unique application, the first in the fourth quarter of 2018 and the second in the first quarter of 2021, and we believe this product could serve a currently unmet need in the market for safer surgeries and safer monitoring of patients during recovery. In addition to FDA clearance, we are pursuing European Union (“EU”) Certificate European (“CE”) Marking. CE Marking is a certification that a product meets the standards established by the 27 nations of the EU and qualifies for sale in the EU and 4-nation European Free Trade Association. In early 2022, the integration of Kestrel and their pulse oximetry products into the ZMS organization was completed. Pulse oximetry is a commonly used noninvasive monitoring method for estimation of oxygen saturation in arterial blood. The inaccuracies of traditional Light Emitting Diode (“LED”)-based pulse oximeters have recently been highlighted specific to skin pigmentation bias and the inability to accurately measure blood oxygen levels in the presence of other conditions such as in cases of carbon monoxide poisoning or methemoglobinemia. ZMS’s investigational laser-based products are designed to address these inaccuracies and include the novel NiCO™ CO-Oximeter, and HemeOx™, a total hemoglobin oximeter that is designed to enable continuous noninvasive arterial blood monitoring. NiCO is anticipated to be submitted to the FDA for clearance in the third quarter of 2023. As ZMS’ products are still in development, ZMS did not produce any revenue for the years ending December 31, 2022 and 2021. In addition to the fluid volume monitor, ZMS filed for a provisional patent for a non-invasive sepsis monitor in December 2020 and an updated utility patent filed in December 2021. SALES AND GROWTH STRATEGIES To date, ZMI accounts for substantially all of our revenue and profit. We are focused on expanding our sales force to address what we believe is an untapped market for electrotherapy products for pain management which has become more attractive due to large competitors exiting the market. As of December 31, 2022, we had approximately 450 field sales representatives on staff or in the hiring process. We continue to hire field sales representatives at a rapid rate, focusing on the quality of each candidate with the goal of having approximately 500-600 sales representatives in the U.S. by the end of 2023. We will be focused on increasing performance management standards for our sales force. In an effort to increase revenue and diversification in order to provide our prescribers and patients with diverse solutions for their pain management needs, we are continually adding new complementary products to our ZMI sales channel, such as our hot/cold therapy, cervical traction, knee braces and LSO back braces. In addition, in March 2020 we introduced a full catalog of over 3,300 physical therapy products to promote in the clinics which we serve. We believe adding these complementary products will increase our market share in the marketplace and, in the future, grow our core business by providing our electrotherapy patients additional non-pharmacological pain relief and complementary products to our manufactured devices. 3 Table of Contents Distribution and Revenue Streams: Currently, substantially all of our revenue is generated through our ZMI subsidiary from our electrotherapy products. We sell through a direct sales force in United States. Our field sales representatives are engaged to sell in predefined geographic markets and are compensated with a base salary and incentives based on the type of product sold and insurance. Our efforts to date have been focused on the United States market. Our revenue is derived from several sources including patients with insurance plans held by commercial health insurance carriers or government payers who pay on behalf of their insureds. The remaining portion of revenue is primarily received from workers’ compensation claims and attorneys representing injured patients, hospitals, clinics and private-pay individuals. A large part of our revenue is recurring. Recurring revenue results primarily from the sale of surface electrodes and batteries sent to existing patients with our units. Electrodes and batteries are consumable items that are considered an integral part of our products. Private Labeled Distributed Products In addition to our own products, we distribute, through our sales force, a number of private labeled supplies and complementary products from other domestic manufacturers. These products generally include patient consumables, such as electrodes and batteries plus cervical traction, lumbar support, knee braces and hot/cold therapy. Customarily, there are no formal contracts between vendors in the durable medical equipment industry. Replacement products and components are easily found, either from our own products or other manufacturers, and purchases are made by purchase order. Products We currently market and sell Zynex-manufactured products and distribute complementary products and private labeled supplies for Zynex products, as indicated be Product Name Description Zynex Medical Products NexWave Dual channel, multi-modality IFC, TENS, NMES device NeuroMove Electromyography (EMG) — triggered electrical stimulation device InWave Electrical stimulation for treatment of female urinary incontinence E-Wave NMES device Private Labeled Supplies Electrodes Supplies, re-usable for delivery of electrical current to the body Batteries Supplies, for use in electrotherapy products Distributed Complementary Products Comfortrac/Saunders Cervical traction JetStream Hot/cold therapy LSO Back Braces Lumbar support 4 Table of Contents Knee Braces Knee support Zynex Monitoring Solutions Products (Products in Development, Not Yet Available for Sale) CM-1500 Zynex Fluid Monitoring System CM-1600 Zynex Wireless Fluid Monitoring System – Submitted to the FDA, December 2021, not yet FDA cleared. NiCO CO-Oximeter Laser-based Noninvasive CO-Oximeter (Not yet FDA cleared) HemeOx tHb Oximeter Laser-based Total Hemoglobin Pulse Oximeter (Not yet FDA cleared) Product Uses Pain Management and Control Standard electrotherapy is a clinically proven and medically accepted alternative to manage acute and chronic pain. Electrical stimulation has been shown to reduce most types of local pain, such as tennis elbow, neck or lower back pain, arthritis, and others. The devices used to accomplish this are commonly described as the TENS family of devices. Electrotherapy is not known to have any negative side effects, a significant advantage over most pain relief medications. The benefits of electrotherapy can inclu pain relief, increased blood flow, reduced edema, prevention of venous thrombosis, increased range-of-motion, prevention of muscle disuse atrophy, and reduced urinary incontinence. Electrotherapy introduces an electrical current applied through surface electrodes. The electrical current “distorts” a pain signal on its way to the central nervous system and the brain, thus reducing the pain. Additionally, by applying higher levels of electricity, muscles contract and such contraction is believed to assist in the benefits mentioned above. Numerous clinical studies have been published over several decades showing the effectiveness of IFC and TENS for pain relief. Our primary electrotherapy device, the NexWave, has received FDA 510(k) clearance. The NexWave is a digital IFC, TENS and NMES device that delivers pain-alleviating electrotherapy. Stroke and Spinal Cord Injury Rehabilitation Our proprietary NeuroMove product is a Class II medical device that has been cleared by the FDA for stroke rehabilitation. Stroke and SCI usually affect a survivor’s mobility, functionality, speech, and memory, and the NeuroMove is designed to help the survivor regain movement and functionality. Sales of NeuroMove did not generate material revenue for the years ended December 31, 2022 and 2021. Hemodynamic Monitoring Hemodynamic monitoring is the process of measuring the blood flow and pressure exerted in the heart, veins, and arteries. It provides an assessment of a patient’s circulatory status and their ability to assure cardiac output and oxygen delivery to the body. Maintaining effective circulating blood volume and pressure are key to assuring adequate oxygen saturation and perfusion. Hemodynamic monitoring devices have been historically classified as, (a) invasive, using a central or pulmonary artery catheter, (b) minimally invasive, with the placement of an arterial line, and (c) noninvasive, where no device is inserted into the body for clinical assessment. 5 Table of Contents The Zynex Fluid Monitoring System CM-1500 and the Zynex Wireless Fluid Monitoring System CM-1600 are noninvasive monitoring devices designed to measure relative changes in fluid volume in adult patients. Fluid status is determined using Zynex’s proprietary algorithm and expressed as the patented Relative Index™, a simple value designed to accurately trend patient vital signs and alert clinicians for early intervention. The CM-1500 was cleared by the FDA in 2020. The CM-1600 has been submitted to the FDA and is pending clearance. Pulse Oximetry Monitoring Pulse oximetry is a noninvasive method of measuring the oxygen saturation level (“SpO2”) of arterial blood. As one of the most common medical devices used in and out of hospitals around the world, pulse oximeters have gained widespread clinical acceptance as the standard of care for monitoring oxygen saturation. SpO2 has become the “fifth vital sign”, which, together with heart rate, blood pressure, respiratory rate, and temperature, provides crucial clinical information about a person’s health status. The NiCO™ Noninvasive CO-Oximeter, the first laser-based photoplethysmographic patient monitoring technology, is designed to noninvasively measure and monitor four crucial species of hemoglobin with unprecedented accuracy. The HemeOx™ Total Hemoglobin Pulse Oximeter is designed to noninvasively measure total hemoglobin and oxygen saturation, two critical parameters that typically require invasive arterial blood sampling for measurement. Total hemoglobin is a very commonly ordered blood test in healthcare, and HemeOx™ measures it with the continuous and noninvasive ease of a pulse oximeter at the patient bedside. The NiCO™ Noninvasive CO-Oximeter and the HemeOx™ Total Hemoglobin Pulse Oximeter have not yet been cleared by the FDA. MARKETS Zynex Medical (ZMI): To date, the majority of our revenue has been generated by our ZMI electrotherapy products and private labeled supplies. Thus, we primarily compete in the home electrotherapy market for pain management, with products based on IFC, TENS and NMES devices and consumable supplies. We estimate the annual domestic market for home electrotherapy products at approximately $500 million to $1 billion. During 2022 and 2021, we maintained our sales force of approximately 450 direct sales representatives to address what we believe is an underserved electrotherapy market. The current opioid epidemic has been declared a health emergency, and we are uniquely positioned to help reduce the amount of opioids prescribed for treatment of chronic and acute pain symptoms. We are committed to providing health care professionals with alternatives to traditional opioid based treatment programs with our prescription-strength products which have no side effects. This has never been more necessary than it is today considering the staggering statistics. ● Pain impacts the lives of more Americans than diabetes, heart disease, and cancer combined. ● Pain is the leading cause of disability, and seeking treatment for chronic or acute pain is the most common reason American’s seek health care. Approximately 50 million Americans suffer from chronic pain. ● Nearly 20 million Americans experienced high-impact chronic pain, defined as “limiting life or work activities on most days or every day”, in the past 3 months. ● If pharmaceuticals such as opioids continue to be used as the first line of defense, America will continue to see a rise in opioid misuse, addiction and drug-related deaths. We also distribute complementary products such as JetStream Hot/Cold Therapy, Knee bracing, LSO Back bracing and Comfortrac and Saunders cervical and lumbar traction units, all products targeted at treating acute as well as chronic pain with minimal side-effects. 6 Table of Contents Key characteristics of our electrotherapy market ● Collection cycles of initial payment from insurance carriers can range from less than 30 days to many months and considerably longer for many attorney, personal injury, and workers’ compensation cases. Such delayed payment impacts our cash flow and can slow our growth or strain our liquidity. Collections are also impacted by whether effective billing submissions are made by our billing and collections department to the third-party payers. ● Prior to payment, third-party payers often make or take significant payment adjustments or discounts. This can also lead to denials and billing disputes with third-party payers. ● The majority of our revenue is generated by the sale of medical devices and from recurring patient supplies, specifically from our electrotherapy products sold through ZMI. We are reliant on third-party payer reimbursement. Zynex Monitoring Solutions (ZMS): ZMS is focused on developing products within the non-invasive multi-parameter patient-monitoring marketplace. ZMS is currently focusing on its fluid monitoring system, the sepsis monitor and the pulse oximetry products acquired in its acquisition of Kestrel. We believe our products, once released into the marketplace (of which there can be no guarantee), will compete against multiple competitors, ranging from large manufacturers with multiple business lines to small manufacturers that offer a limited range of products. ZMS has not generated any revenue. Competition Since we are in the market for medical electrotherapy products, we face a mixture of competitors ranging from large manufacturers with multiple business lines to small manufacturers that offer a limited selection of products. Our principal competitors include International Rehabilitative Sciences, Inc. d/b/a RS Medical, EMSI, and H-Wave. In addition, we face competition from providers of alternative medical therapies, such as pharmaceutical companies. RESOURCES Manufacturing and Product Assembly Our manufacturing and product assembly strategy consists of the following elements: ● Compliance with relevant legal and regulatory requirements. ● Use of contract manufacturers as needed, thereby allowing us to quickly respond to changes in volume and avoid large capital investments for assembly and manufacturing equipment of certain product components. We believe there is a large pool of highly qualified contract manufacturers, domestically and internationally, for the type of manufacturing assistance needed for our manufactured devices. ● Utilization of in-house final assembly and test capabilities. ● Development of proprietary software and hardware for all products in house. ● Testing all units in a real-life, in-house environment to help ensure the highest possible quality and patient safety while reducing the cost of warranty repairs. 7 Table of Contents We utilize contract manufacturers located in the U.S. to manufacture components for our NexWave and NeuroMove units and for some of our other products and assemble in-house for our NexWave and NeuroMove units. We do not have long-term supply agreements with our contract manufacturers, but we utilize purchase orders with agreed upon terms for our ongoing needs. We believe there are numerous suppliers that can manufacture our products and provide our required raw materials. Generally, we have been able to obtain adequate supplies of our required raw materials and components. We are always evaluating our suppliers for price, quality, delivery time and service. The reduction or interruption in supply, and an inability to develop alternative sources for such supply, could adversely affect our operations. Intellectual Property Zynex is committed to aggressively protecting the intellectual property rights the Company has worked so hard to obtain and to expand our intellectual property portfolio for advances to our existing products and for new products as they are developed. Zynex has received two U.S. utility patents, as well as a utility patent in Europe, for our fluid monitoring system. The acquisition of Kestrel Labs, Inc. by Zynex Inc. included an intellectual property portfolio surrounding the acquired laser-based photoplethysmographic technology. This expands both the size and scope of Zynex’s intellectual property portfolio to include key aspects of the exciting pulse oximetry market. Zynex is trademarked in the U.S. We utilize non-disclosure and trade secret agreements with employees and third parties to protect our proprietary information. GOVERNMENT REGULATION US Food and Drug Administration (FDA) All of our ZMI products are classified as Class II (Medium Risk) devices by the FDA, and clinical studies with our products are considered to be NSR (Non-Significant Risk Studies). Our business is regulated by the FDA, and all products typically require 510(k) market clearance before they can be put into commercial distribution. Section 510(k) of the Federal Food, Drug and Cosmetic Act, is available in certain instances for Class II devices. It requires that before introducing most Class II devices into interstate commerce, the sponsor must first submit information to the FDA demonstrating that the device is substantially equivalent in terms of safety and effectiveness to a device legally marketed prior to March 1976 or to devices that have been reclassified in accordance with the provisions of the Federal Food, Drug, and Cosmetic Act that do not require approval of a premarket approval application. When the FDA determines that the device is substantially equivalent, the agency issues a “clearance” letter that authorizes marketing of the product. We are also regulated by the FDA’s Quality System Regulation (QSR), which sets forth current Good Manufacturing Practice (GMP) requirements for devices. We believe that our products have obtained or are good candidates for the requisite FDA clearance or are exempt from the FDA clearance process. In November 2001, Zynex received FDA 510(k) clearance to market NeuroMove. In September 2011, Zynex received FDA 510(k) clearance to market the NexWave, our current generation IFC, TENS and NMES device. In August 2012, Zynex received FDA 510(k) clearance to market the InWave, our next generation muscle stimulator for treatment of female incontinence. Failure to comply with FDA requirements could adversely affect us. International Zynex continues to explore opportunities to gain regulatory clearance for its devices in markets outside of the U.S. CE marking is the medical device manufacturer’s claim that a product meets the essential requirements of all relevant European Medical Device Directives. The CE mark is a legal requirement to place a device on the market in the EU. Zynex is currently in the process of applying for CE marking on several of its electrotherapy devices and its CM-1500 Zynex Fluid Monitoring System. We comply with applicable regulatory requirements within the markets in which we currently sell. If and when we decide to enter additional geographic areas, we intend to comply with applicable regulatory requirements within those markets. 8 Table of Contents Zynex has received ISO13485: 2016 certification for its compliance with international standards in quality management systems for design, development, manufacturing and distribution of medical devices. This certification is not only important as assurance that we have the appropriate quality systems in place but is also crucial to our international expansion efforts as many countries require this certification as part of their regulatory approval. Government Regulation The delivery of health care services and products has become one of the most highly regulated professional and business endeavors in the United States. Both the federal government and individual state governments are responsible for overseeing the activities of individuals and businesses engaged in the delivery of health care services and products. Federal law and regulations are based primarily upon the Medicare and Medicaid programs. Each program is financed, at least in part, with federal funds. State jurisdiction is based upon the state’s interest in regulating the quality of health care in the state, regardless of the source of payment. Many state and local jurisdictions impose additional legal and regulatory requirements on our business including various states and local licenses, taxes, limitations regarding insurance claim submission and limitations on relationships with referral parties. Failure to comply with this myriad of regulations in a particular jurisdiction may subject us to fines or other penalties, including the inability to sell our products in certain jurisdictions. Federal health care laws apply to us when we submit a claim to any other federally funded health care program, in addition to requirements to meet government standards. The principal federal laws that we must abide by in these situations inclu ● Those that prohibit the filing of false or improper claims for federal payment. ● Those that prohibit unlawful inducements for the referral of business reimbursable under federally funded health care programs. The federal government may impose criminal, civil and administrative penalties on anyone who files a false claim for reimbursement from federally funded programs. A federal law commonly known as the “anti-kickback law” prohibits the knowing or willful solicitation, receipt, offer or payment of any remuneration made in return ● The referral of patients covered under federally-funded health care programs; or ● The purchasing, leasing, ordering, or arranging for any goods, facility, items or service reimbursable under those programs. Healthcare Regulation Federal and state healthcare laws, including fraud and abuse and health information privacy and security laws, also apply to our business. If we fail to comply with those laws, we could face substantial penalties and our business, results of operations, financial condition and prospects could be adversely affected. The laws that may affect our ability to operate include but are not limited t the federal Anti-Kickback Statute, which prohibits. among other things, soliciting, receiving, offering or paying remuneration, directly or indirectly, to induce, or in return for, the purchase or recommendation of an item or service reimbursable under a federal healthcare program, such as the Medicare and Medicaid programs; and federal civil and criminal false claims laws and civil monetary penalty laws, which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid, or other third-party payers that are false or fraudulent. Additionally, we are subject to state law equivalents of each of the above federal laws, which may be broader in scope and apply regardless of whether the payer is a federal healthcare program, and many of which differ from each other in significant ways and may not have the same effect, further complicate compliance efforts. Numerous federal and state laws, including state security breach notification laws, state health information privacy laws and federal and state consumer protection laws, govern the collection, use and disclosure of personal information. In addition, most healthcare providers who are expected to prescribe our products and from whom we obtain patient health information, are subject to privacy and security requirements under the Health Insurance Portability and Accountability Act of 1996, as amended by the Health Information Technology and Clinical Health Act, or HIPAA. We could be subject to criminal penalties if we knowingly obtain individually 9 Table of Contents identifiable health information from a HIPAA-covered entity, including healthcare providers, in a manner that is not authorized or permitted by HIPAA. The legislative and regulatory landscape for privacy and data protection continues to evolve, and there has been an increasing amount of focus on privacy and data protection issues with the potential to affect our business, including recently enacted laws in a majority of states requiring security breach notification. These laws could create liability for us or increase our cost of doing business. In addition, the Physician Payments Sunshine Act, enacted as part of the Patient Protection and Affordable Care Act of 2010, or the ACA, created a federal requirement under the federal Open Payments program, that requires certain manufacturers to track and report to the Centers for Medicare and Medicaid Services, or CMS, annually certain payments and other transfers of value provided to physicians and certain advanced non-physician health care practitioners and teaching hospitals made in the previous calendar year, as well as ownership and investment interests held by physicians and their immediate family members. In addition, there are also an increasing number of state laws that require manufacturers to make reports to states on pricing and marketing information. These laws may affect our sales, marketing, and other promotional activities by imposing administrative and compliance burdens on us. In addition, given the lack of clarity with respect to these laws and their implementation, our reporting actions could be subject to the penalty provisions of the pertinent state and federal authorities. Research and Development During 2022 and 2021, we incurred approximately $7.1 million and $2.6 million in expenses, respectively, related to our ZMS operations. During 2022, approximately $1.0 million of the expenses qualified for Section 174 - “Amortization of Research and Experimental Expenditures” tax treatment. We expect our research and development expenses to increase in 2023 as our ZMS business expands. HUMAN CAPITAL As of December 31, 2022, we employed approximately 900 full time employees. Our employees are our most important assets and set the foundation for our ability to achieve our strategic objectives. All of our employees contribute to our success and, in particular, our sales representatives are instrumental in our ability to reach more patients in pain. The success and growth of our business depends in large part on our ability to attract, retain and develop a diverse population of talented and high-performing employees at all levels of our organization. To succeed in a competitive labor market, we have developed recruitment and retention strategies, objectives and measures that we focus on as part of the overall management of our business. These strategies, objectives and measures form our human capital management framework and are advanced through the following programs, policies and initiativ ● Competitive pay and benefits. Our compensation programs are designed to align the compensation of our employees with our performance and to provide the proper incentives to attract, retain, and motivate employees to achieve superior results. ● Training and development. We invest in learning opportunities that foster a growth mindset. Our formal offerings include a tuition reimbursement program, an e-learning program that all corporate employees have access to and in-house learning opportunities through the Company’s Zynex Growth and Development program. ● Health and Wellness. We invest in the health and wellness of our employees by offering monthly benefits and offer programs and support to assist our employees. 10 Table of Contents ITEM 1A. RISK FACTORS RISKS RELATED TO OUR BUSINESS AND THE INDUSTRY IN WHICH WE OPERATE Unfavorable global economic conditions could adversely affect our business, financial condition or results of operations. Our results of operations could be adversely affected by general conditions in the global economy and in the global financial markets, including conditions that are outside of our control, such as the impact of health and safety concerns, including SARS-CoV-2 (severe acute respiratory syndrome coronavirus 2) (“ COVID -19”) pandemic and various variants, as well as the recent inflation in the United States, foreign and domestic government sanctions imposed on Russia as a result of its recent invasion of Ukraine, and other disruptions to global supply chains. Each of these events has caused or may continue to result in extreme volatility and disruptions in the capital and credit markets. A severe or prolonged economic downturn, whether due to inflationary pressures or otherwise, could result in a variety of risks to our business, including weakened demand for our products and our ability to raise additional capital when needed on acceptable terms, if at all. A weak or declining economy could strain our suppliers, possibly resulting in supply disruption, or cause delays in payments for our services by third-party payors or our collaborators. Any of the foregoing could harm our business and we cannot anticipate all the ways in which the current economic climate and financial market conditions could adversely impact our business. A pandemic, epidemic, or outbreak of an infectious disease, such as of COVID-19 and subsequent variants, may materially and adversely affect our business and results of operations. Public health crises such as pandemics or similar outbreaks could adversely impact our business. In 2019, COVID-19 surfaced in Wuhan, China and has since spread worldwide. The COVID -19 pandemic is evolving, and to date has led to the implementation of various responses, including government-imposed quarantines, travel restrictions and other public health safety measures. The effects of this outbreak on our business have included and could continue to include temporary closures of our providers and clinics and suspensions of elective surgical procedures. This has and could continue to impact our interactions and relationships with our customers. 11 Table of Contents In addition to temporary closures of the providers and clinics that we serve, we could also experience temporary closures of the facilities of our suppliers, contract manufacturers, or other vendors in our supply chain, which could impact our business, interactions and relationships with our third-party suppliers and contractors, and results of operations. The extent to which COVID-19 will impact our future business and the economy, will also depend on future developments, which are highly uncertain and cannot be predicted with confidence, including the duration of the pandemic, adverse impacts of the Omicron COVID-19 variant or other COVID-19 variants, new information that will emerge concerning the severity of COVID-19 and the actions to contain COVID-19 or treat its impact, among others. Accordingly, we cannot predict the extent to which our financial condition, results of operations and value of our common stock will be affected. The uncertainty surrounding the COVID-19 outbreak has caused the Company to increase its inventory in anticipation of possible supply chain shortages related to the COVID-19 virus. While we did not incur significant disruptions to our operations during 2021 and 2022, we are unable at this time to predict with confidence the impact that COVID-19 will have on our business, financial position and operating results in future periods due to numerous uncertainties. Rapid technological change could cause our products to become obsolete and if we do not enhance our product offerings through our research and development efforts, we may be unable to effectively compete. The technologies underlying our products are subject to rapid and profound technological change. Competition intensifies as technical advances in each field are made and become more widely known. We can give no assurance that others will not develop services, products, or processes with significant advantages over the products, services, and processes that we offer or are seeking to develop. Any such occurrence could have a material and adverse effect on our business, results of operations and financial condition. We plan to enhance and broaden our product offerings in response to changing customer demands and competitive pressure and technologies, but we may not be successful. The success of any new product offering or enhancement to an existing product will depend on numerous factors, including our ability t ● properly identify and anticipate physician and patient needs; ● develop and introduce new products or product enhancements in a timely manner; ● adequately protect our intellectual property and avoid infringing upon the intellectual property rights of third parties; ● demonstrate the safety and efficacy of new products, including through the conduct of additional clinical trials; ● obtain the necessary regulatory clearances or approvals for new products or product enhancements; and ● achieve adequate coverage and reimbursement for our products. If we do not develop and, when necessary, obtain regulatory clearance or approval for new products or product enhancements in time to meet market demand, or if there is insufficient demand for these products or enhancements, our results of operations will suffer. Our research and development efforts may require a substantial investment of time and resources before we are adequately able to determine the commercial viability of a new product, technology, material or other innovation. In addition, even if we are able to successfully develop enhancements or new generations of our products, these enhancements or new generations of products may not be covered or reimbursed by government healthcare programs such as Medicare or private health plans, may not produce sales in excess of the costs of development and/or may be quickly rendered obsolete by changing customer preferences or the introduction by our competitors of products embodying new technologies or features. 12 Table of Contents We are dependent on reimbursement from third-party payers, most of whom are larger than we are and have substantially more employees and financial resources; changes in insurance reimbursement policies or application of them have resulted in decreased or delayed revenues. A large percentage of our revenues come from third-party payer reimbursement. Most of the third-party payers are large insurance companies with substantially more resources than we have. Upon delivery of our products to our patients, we directly bill the patients’ private insurance companies or government payers for reimbursement. If the third-party payers do not remit payment on a timely basis or if they change their policies to exclude or reduce coverage for our products, we would experience a decline in our revenue as well as cash flow. In addition, we may deliver products to patients and invoice based on past practices and billing experiences only to have third-party payers later deny coverage for such products. In some cases, our delivered product may not be covered pursuant to a policy statement of a third-party payer, despite a payment history with the third-party payer and benefits to the patients. A third-party payer may seek repayment of amounts previously paid for covered products. We maintain an allowance for provider discounts and amounts intended to cover legitimate requests for repayment. Failure to adequately identify and provide for amounts for resolution of repayment demands in our allowance for provider discounts could have a material adverse effect on our results of operations and cash flows. For government health care programs, if we identify a deficiency in prior claims or practices, we may be required to repay amounts previously reimbursed to us by government health care programs. We frequently receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients, and other times include a significant number of refund claims in a single request which can accumulate to a significant amount. We review and evaluate these requests and determine if any refund is appropriate. During the adjudication process we review claims where we are rebilling or pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests, we are generally unable to determine if a refund request is valid. Although we cannot predict whether or when a request for repayment or our subsequent request for reimbursement will be resolved, it is not unusual for such matters to be unresolved for a long period of time. No assurances can be given with respect to our estimates for our allowance for provider discounts refund claim reimbursements and offsets or the ultimate outcome of the refund requests. We are dependent on our Medicare Supplier Number. We are required to have a Medicare Supplier Number in order to have the ability to bill Medicare for services provided to Medicare patients. Furthermore, all third-party and Medicaid contracts require us to have a Medicare Supplier Number. We are required to comply with Medicare DMEPOS Supplier Standards in order to maintain such number. If we are unable to comply with the relevant standards, we could lose our Medicare Supplier Number. Without such number, we would be unable to continue our various third-party and Medicaid contracts. A significant portion of our revenues are dependent upon our Medicare Supplier Number, the loss of which would materially and adversely affect our business, financial condition, results of operations and cash flows. The Center for Medicare and Medicaid Services (“CMS”) requires that all Durable Medical Equipment providers must be accredited by a CMS-approved accreditation organization. On February 1, 2013, we initially received accreditation from the Accreditation Commission for Health Care (“ACHC”), and we have remained accredited to date. If we lost our accredited status, our business, financial condition, revenues and results of operations would be materially and adversely affected. 13 Table of Contents We face periodic reviews and billing audits from governmental and private payers, and these audits could have adverse results that may negatively impact our business. As a result of our participation in the Medicaid program and our registration in the Medicare program, we are subject to various governmental reviews and audits to verify our compliance with these programs and applicable laws and regulations. We also are subject to audits under various government programs in which third-party firms engaged by CMS conduct extensive reviews of claims data and medical and other records to identify potential improper payments under the Medicare program. Private pay sources also reserve the right to conduct audits. If billing errors are identified in the sample of reviewed claims, the billing error can be extrapolated to all claims filed which could result in a larger overpayment than originally identified in the sample of reviewed claims. Our costs to respond to and defend reviews and audits may be significant and could have a material adverse effect on our business, financial condition, results of operations and cash flows. Moreover, an adverse review or audit could result in: ● required refunding or retroactive adjustment of amounts we have been paid by governmental or private payers; ● state or Federal agencies imposing fines, penalties and other sanctions on us; ● loss of our right to participate in the Medicare program, state programs, or one or more private payer networks; or ● damage to our business and reputation in various markets. Any one of these results could have a material adverse effect on our business, financial condition, results of operations and cash flows. Failure to secure and maintain adequate coverage and reimbursement from third-party payers could adversely affect acceptance of our products and reduce our revenues. The majority of our revenues come from third-party payers, primarily insurance companies. In the U.S., private payers cover the largest segment of the population, with the remainder either uninsured or covered by governmental payers. The majority of the third-party payers outside the U.S. are government agencies, government sponsored entities or other payers operating under significant regulatory requirements from national or regional governments. Third-party payers may decline to cover and reimburse certain procedures, supplies or services. Additionally, some third-party payers may decline to cover and reimburse our products for a particular patient even if the payer has a favorable coverage policy addressing our products or previously approved reimbursement for our products. Additionally, private and government payers may consider the cost of a treatment in approving coverage or in setting reimbursement for the treatment. Private and government payers are increasingly challenging the prices charged for medical products and services. Additionally, the containment of healthcare costs has become a priority of governments. Adoption of additional price controls and cost-containment measures, and adoption of more restrictive policies in jurisdictions with existing controls and measures, could further limit our revenues and operating results. If third-party payers do not consider our products or the combination of our products with additional treatments to be cost-justified under a required cost-testing model, they may not cover our products for their populations or, if they do, the level of reimbursement may not be sufficient to allow us to sell our products on a profitable basis. Reimbursement for the treatment of patients with medical devices is governed by complex mechanisms. These mechanisms vary widely among countries, can be informal, somewhat unpredictable, and evolve constantly, reflecting the efforts of these countries to reduce public spending on healthcare. As a result, obtaining and maintaining reimbursement for the treatment of patients with medical devices has become more challenging. We cannot guarantee that the use of our products will receive reimbursement approvals and cannot guarantee that our existing reimbursement approvals will be maintained in any country. Our failure to secure or maintain adequate coverage or reimbursement for our products by third-party payers in the U.S. or in the other jurisdictions in which we market our products could have a material adverse effect on our business, revenues and results of operations and cause our stock price to decline. 14 Table of Contents We may not be successful in maintaining the reimbursement codes necessary to facilitate accurate and timely billing for our products or physician services attendant to our products . Third-party payers, healthcare systems, government agencies or other groups often issue reimbursement codes to facilitate billing for products and physician services used in the delivery of healthcare. If we are unable to maintain the Healthcare Common Procedure Coding System codes (“HCPCS codes”) for physician services related to our products, our revenues and results may be affected by the absence of such HCPCS codes, as physicians may be less likely to prescribe the therapy when there is no certainty that adequate reimbursement will be available for the time, effort, skill, practice expense and malpractice costs required to provide the therapy to patients. Outside the U.S., we have not secured codes to describe our products or to document physician services related to the delivery of therapy using our products. The failure to obtain and maintain these codes could affect the growth of our business. We at times have concentrations of credit risk with third-party payers; failure to collect these and other billed receivables could adversely affect our cash flows and results of operations. The Company had receivables from one third-party payer at December 31, 2022 which made up approximately 14% of the accounts receivable balance. The Company had receivables from one third-party payer at December 31, 2021, which made up approximately 22% of the accounts receivable balance. Future changes in coverage and reimbursement policies for our products or reductions in reimbursement rates for our products by third party payers could adversely affect our business and results of operations. In the United States, our products are prescribed by physicians for their patients. Based on the prescription, which we consider an order, we submit a claim for payment directly to third-party payers such as private commercial insurance carriers, government payers and others as appropriate and the third-party payer reimburses us directly. Federal and state statutes, rules, or other regulatory measures that restrict coverage of our products or reimbursement rates could have an adverse effect on our ability to sell or rent our products or cause physical therapists and physicians to dispense and prescribe alternative, lower-cost products. There are significant estimating risks associated with the amount of revenue, related refund liabilities, accounts receivable and provider discounts that we recognize, and if we are unable to accurately estimate these amounts, it could impact the timing of our revenue recognition, and cash collections, have a significant impact on our operating results or lead to a restatement of our financial results. There are significant risks associated with the estimation of the amount of revenues, related refund liabilities, accounts receivable, and provider discounts that we recognize in a reporting period. The billing and collection process is complex due to ongoing insurance coverage changes, geographic coverage differences, differing interpretations of coverage, differing provider discount rates, and other third-party payer issues. Determining applicable primary and secondary coverage for our customers at any point in time, together with the changes in patient coverage that occur each month, require complex, resource-intensive processes. Errors in determining the correct coordination of benefits may result in refunds to payers. Revenues associated with government programs are also subject to estimating risk related to the amounts not paid by the primary government payer that will ultimately be collectable from other government programs paying secondary coverage, the patient’s commercial health plan secondary coverage or the patient. Collections, refunds and pay or retractions typically continue to occur for up to three years and longer after our products are provided. While we typically look to our past experience in collections with a payer in estimating amounts expected to be collected on current billings, recent trends and current changes in reimbursement practice, the overall healthcare environment, and other factors nonetheless could ultimately impact the amount of revenues recorded and the receivables ultimately collected. If our estimates of revenues, related refund liabilities, accounts receivable or provider discounts are materially inaccurate, it could impact the timing of our revenue recognition and have a significant impact on our operating results. It could also lead to a restatement of our financial results. 15 Table of Contents Tax laws and regulations require compliance efforts that can increase our cost of doing business and changes to these laws and regulations could impact financial results. We are subject to a variety of tax laws and regulations in the jurisdictions in which we do business. Maintaining compliance with these laws can increase our cost of doing business and failure to comply could result in audits or the imposition of fines or penalties. Further, our future effective tax rates in any of these jurisdictions could be affected, positively or negatively, by changing tax priorities, changes in statutory rates, or changes in tax laws or the interpretation thereof. The most significant recent example of this is the impact of the U.S Tax Cuts and Jobs Act of 2017 (the “Tax Act”) which was enacted on December 22, 2017. These changes significantly revised the ongoing U.S. corporate income tax law by lowering the U.S. federal corporate income tax rate from 35% to 21%, implementing a territorial tax system, imposing a one-time tax on foreign unremitted earnings and setting limitations on deductibility of certain costs, among other things. The Company has implemented the Tax Act and does not expect any significant changes related to the Tax Act at this time. The impact of healthcare reform legislation and other changes in the healthcare industry and in healthcare spending on us is currently unknown, but may harm our business. Our revenue is dependent on the healthcare industry and could be affected by changes in healthcare spending and policy. The healthcare industry is subject to changing political, regulatory and other influences. The Patient Protection and Affordable Care Act, or PPACA, made major changes in how health care is delivered and reimbursed, and increased access to health insurance benefits to the uninsured and underinsured population of the United States. The PPACA, among other things, increased the number of individuals with Medicaid and private insurance coverage, implemented reimbursement policies that tie payment to quality, facilitated the creation of accountable care organizations that may use capitation and other alternative payment methodologies, strengthened enforcement of fraud and abuse laws and encouraged the use of information technology. Such changes in the regulatory environment may also result in changes to our payer mix that may affect our operations and net revenue. In addition, certain provisions of the PPACA authorize voluntary demonstration projects, which include the development of bundling payments for acute, inpatient hospital services, physician services and post-acute services for episodes of hospital care. Further, the PPACA may negatively impact payers by increasing medical costs generally, which could have an effect on the industry and potentially impact our business and revenue as payers seek to offset these increases by reducing costs in other areas. The full impact of these changes on us cannot be determined at this time. We are also impacted by the Medicare Access and CHIP Reauthorization Act, under which physicians must choose to participate in one of two payment formulas, Merit-Based Incentive Payment System, or MIPS, or Alternative Payment Models, or APMs. Beginning in 2019, MIPS allows eligible physicians to receive upward or downward adjustments to their Medicare Part B payments based on certain quality and cost metrics, among other measures. As an alternative, physicians can choose to participate in an Advanced APM. Advanced APMs are exempt from the MIPS requirements, and physicians who are meaningful participants in APMs will receive bonus payments from Medicare pursuant to the law. In addition, current and prior healthcare reform proposals have included the concept of creating a single payer or public option for health insurance. If enacted, these proposals could have an extensive impact on the healthcare industry, including us. We are unable predict whether such reforms may be enacted or their impact on our operations. We expect that additional state and federal healthcare reform measures will be adopted in the future, any of which could limit the amounts that federal and state governments and other third-party payers will pay for healthcare services, which could harm our business, financial condition and results of operations.] 16 Table of Contents The Patient Protection and Affordable Care Act of 2010 has had an impact on our business which may be in part beneficial and in part detrimental. In March 2010, broad federal health care reform legislation was enacted in the United States. This legislation did not become effective immediately in total, and may be modified prior to the effective date of some provisions. This legislation has had an impact on our business in a variety of ways including increased number of Medicaid recipients, increased number of individuals with commercial insurance, additional audits conducted by public health insurance plans such as Medicaid and Medicare, changes to the rules that govern employer group health insurance and other factors that influence the acquisition and use of health insurance from private and public payers. This legislation has resulted in a change in reimbursement for certain durable medical equipment. We believe the new healthcare legislation and these changes to reimbursement have caused uncertainty with prescribers, which we believe contributed to our drop in orders and revenue during 2013 and 2014 and the lack of any significant increase in 2015. Orders and revenue increased in 2016 through 2022; however, we are currently unable to determine whether such trend will continue in future periods or whether the health care reform legislation will have other adverse consequences to our business and results of operations. To the extent prescribers write fewer prescriptions for our products or there is an adverse change to insurance reimbursement for our products, due to the new law or otherwise, our revenue and profitability will be materially adversely affected. The uncertainty of continuing healthcare changes and regulations may negatively affect our business. There is some doubt on the continuation of the Affordable Care Act and the legislation that the current Congress will enact to replace it, if any. Because we cannot be certain about the continuation of the Affordable Care Act or any changes or replacements thereto, even if the Affordable Care Act remains the law of the land, there is also some doubt whether the President will support it or take regulatory action to negatively impact its benefits. The amount of uncertainty creates concern on our customer’s willingness to buy products which may, or may not, be covered by future health care benefits even if they are covered currently. We are subject, directly or indirectly, to United States federal and state healthcare fraud and abuse and false claims laws and regulations. Prosecutions under such laws have increased in recent years and we may become subject to such litigation. If we are unable to or have not fully complied with such laws, we could face substantial penalties. Our operations are subject to various state and federal fraud and abuse laws, including, without limitation, the federal Anti-Kickback Statute, the federal Stark Law and the federal False Claims Act. These laws may impact, among other things, our sales, marketing and education programs. The federal Anti-Kickback Statute prohibits persons from knowingly and willfully soliciting, offering, receiving or providing remuneration, directly or indirectly, in exchange for or to induce either the referral of an individual, or the furnishing or arranging for a good or service, for which payment may be made under a federal healthcare program such as the Medicare and Medicaid programs. Several courts have interpreted the statute’s intent requirement to mean that if any one purpose of an arrangement involving remuneration is to induce referrals of federal healthcare covered business, the statute has been violated. In addition, a person or entity does not need to have actual knowledge of the statute or specific intent to violate it in order to have committed a violation. The Anti-Kickback Statute is broad and, despite a series of narrow safe harbors, prohibits many arrangements and practices that are lawful in businesses outside of the healthcare industry. Penalties for violations of the federal Anti-Kickback Statute include criminal penalties and civil sanctions such as fines, imprisonment and possible exclusion from Medicare, Medicaid and other federal healthcare programs. Many states have also adopted laws similar to the federal Anti-Kickback Statute, some of which apply to the referral of patients for healthcare items or services reimbursed by any source, not only the Medicare and Medicaid programs. 17 Table of Contents The federal Ethics in Patient Referrals Act of 1989, commonly known as the “Stark Law,” prohibits, subject to certain exceptions, physician referrals of Medicare and, as applicable under state law, Medicaid patients to an entity providing certain “designated health services” if the physician or an immediate family member has any financial relationship with the entity. The Stark Law also prohibits the entity receiving the referral from billing any good or service furnished pursuant to an unlawful referral. Various states have corollary laws to the Stark Law, including laws that require physicians to disclose any financial interest they may have with a healthcare provider to their patients when referring patients to that provider. Both the scope and exceptions for such laws vary from state to state. The federal False Claims Act prohibits persons from knowingly filing, or causing to be filed, a false claim to, or the knowing use of false statements to obtain payment from the federal government. The False Claims Act defines “knowingly” to include actual knowledge, acting in deliberate ignorance of the truth or falsity of information, or acting in deliberate disregard of the truth or falsity of information. False Claims Act liability includes liability for reverse false claims for avoiding or decreasing an obligation to pay or transmit money to the government. This includes False Claims Act liability for failing to report and return overpayments within 60 days of the date on which the overpayment is “identified.” Penalties under the False Claims Act can include exclusion from the Medicare program. In addition, the government may assert that a claim including items or services resulting from a violation of the federal Anti-Kickback Statute constitutes a false or fraudulent claim for purposes of the False Claims Act. Suits filed under the False Claims Act, known as qui tam actions, can be brought by any individual on behalf of the government and such individuals, commonly known as “whistleblowers,” may share in any amounts paid by the entity to the government in fines or settlement. The frequency of filing qui tam actions has increased significantly in recent years, causing greater numbers of medical device , pharmaceutical and healthcare companies to have to defend a False Claims Act action. When an entity is determined to have violated the federal False Claims Act, it may be required to pay up to three times the actual damages sustained by the government, plus civil penalties for each separate false claim. Various states have also enacted laws modeled after the federal False Claims Act. HIPAA, and its implementing regulations, also created additional federal criminal statutes that prohibit knowingly and willfully executing, or attempting to execute, a scheme to defraud any healthcare benefit program or obtain, by means of false or fraudulent pretenses, representations, or promises, any of the money or property owned by, or under the custody or control of, any healthcare benefit program, regardless of the payor (e.g., public or private) and knowingly and willfully falsifying, concealing or covering up by any trick or device a material fact or making any materially false statements in connection with the delivery of, or payment for, healthcare benefits, items or services relating to healthcare matters. Similar to the federal Anti-Kickback Statute, a person or entity does not need to have actual knowledge of the statute or specific intent to violate it in order to have committed a violation. From time to time, the Company has been and is involved in various governmental audits, investigations and reviews related to its operations. Reviews and investigations can lead to government actions, resulting in the assessment of damages, civil or criminal fines or penalties, or other sanctions, including restrictions or changes in the way we conduct business, loss of licensure or exclusion from participation in Medicare, Medicaid or other government programs. Additionally, as a result of these investigations, healthcare providers and entities may face litigation or have to agree to settlements that can include monetary penalties and onerous compliance and reporting requirements as part of a consent decree or corporate integrity agreement, or Corporate Integrity Agreement (“CIA”). If we fail to comply with applicable laws, regulations and rules, its financial condition and results of operations could be adversely affected. Furthermore, becoming subject to these governmental investigations, audits and reviews may result in substantial costs and divert management’s attention from the business as we cooperate with the government authorities, regardless of whether the particular investigation, audit or review leads to the identification of underlying issues. We are unable to predict whether we could be subject to actions under any of these laws, or the impact of such actions. If we are found to be in violation of any of the laws described above or other applicable state and federal fraud and abuse laws, we may be subject to penalties, including civil and criminal penalties, damages, fines, exclusion from Medicare, Medicaid and other government healthcare reimbursement programs and the curtailment or restructuring of its operations. Hospitals and clinicians may not buy, prescribe or use our products in sufficient numbers, which could result in decreased revenues and profits. Hospitals and clinicians may not accept any of our products as effective, reliable, or cost-effective. Factors that could prevent such institutional patient acceptance inclu ● If patients conclude that the costs of these products exceed the cost savings associated with the use of these products; ● If patients are financially unable to purchase these products; 18 Table of Contents ● If adverse patient events occur with the use of these products, generating adverse publicity; ● If we lack adequate resources to provide sufficient education and training to our patients; ● If frequent product malfunctions occur, leading clinicians to believe that the products are unreliable; ● Uncertainty regarding or change in government or third-party payer reimbursement policies for our products; and ● If physicians or other health care providers believe that our products will not be reimbursed by insurers or decide to prescribe competing products. Because our sales are dependent on prescriptions from physicians, if any of these or other factors result in fewer prescriptions for our products being written, we will have reduced revenues and may not be able to fully fund our operations. Although we experienced an increase in orders for our ZMI products during 2021 and 2022 compared to prior years, we can make no assurances that demand for our products will not decline in future periods. Any new competitor could be larger than us and have greater financial and other resources than we do, and those advantages could make it difficult for us to compete with them. Many competitors to our products may have substantially greater financial, technical, marketing, and other resources. Competition could result in fewer orders, reduced gross margins, and loss of market share. Our products are regulated by the FDA in the United States. Competitors may develop products that are substantially equivalent to our FDA-cleared products, thereby using our products as predicate devices to more quickly obtain FDA approval for their own products. If overall demand for our products should decrease it could have a material adverse effect on our operating results. Substantial competition is expected in the future in the area of stroke rehabilitation that may directly compete with our NeuroMove product. These competitors may use standard or novel signal processing techniques to detect muscular movement and generate stimulation to such muscles. Other companies may develop rehabilitation products that perform better and/or are less expensive than our products, which could have a material adverse effect on our operating results. Failure to keep pace with the latest technological changes could result in decreased revenues. The market for some of our products is characterized by rapid change and technological improvements. Failure to respond in a timely and cost-effective way to these technological developments could result in serious harm to our business and operating results. We have derived, and we expect to continue to derive, a substantial portion of our revenues from the development and sale of products in the medical device industry. As a result, our success will depend, in part, on our ability to develop and market product offerings that respond in a timely manner to the technological advances of our competitors, evolving industry standards and changing patient preferences. There is no assurance that we will keep up with technological improvements. O ur business could be adversely affected by reliance on sole suppliers. Notwithstanding our current multiple supplier approach, certain essential product components may be supplied in the future by sole, or a limited group of, suppliers. Most of our products and components are purchased through purchase orders rather than through long term supply agreements and large volumes of inventory may not be maintained. There may be shortages and delays in obtaining certain product components. Disruption of the supply or inventory of components could result in a significant increase in the costs of these components or could result in an inability to meet the demand for our products. In addition, if a change in the manufacturer of a key component is required, qualification of a new supplier may result in delays and additional expenses in meeting customer demand for products. These factors could adversely affect our revenues and ability to retain our experienced sales force. 19 Table of Contents A third-party manufacturer’s inability to produce our products’ components on time and to our specifications could result in lost revenue. Third-party manufacturers assemble and manufacture components of the NexWave and NeuroMove and some of our other products to our specifications. The inability of a manufacturer to ship orders of our products in a timely manner or to meet our quality standards could cause us to miss the delivery date requirements of our patients for those items, which could result in cancellation of orders, refusal to accept deliveries or a reduction in purchase prices, any of which could have a material adverse effect on our revenues. Because of the timing and seriousness of our business, and the medical device industry in particular, the dates on which patients need and require shipments of products from us are critical. Further, because quality is a leading factor when patients, doctors, health insurance providers and distributors accept or reject goods, any decline in quality by our third-party manufacturers could be detrimental not only to a particular order, but also to our future relationship with that particular patient. We could experience cost increases or disruptions in supply of raw materials or other components used in our products. Our third-party manufacturers that assemble and manufacture components for our products expect to incur significant costs related to procuring raw materials required to manufacture and assemble our product. The prices for these raw materials fluctuate depending on factors beyond our control including market conditions and global demand for these materials and could adversely affect our business, prospects, financial condition, results of operations, and cash flows. Further, any delays or disruptions in our supply chain could harm our business. For example, COVID-19, including associated variants, could cause disruptions to and delays in our operations, including shortages and delays in the supply of certain parts, including semiconductors, materials and equipment necessary for the production of our products, and the internal designs and processes we or third-parties may adopt in an effort to remedy or mitigate impacts of such disruptions and delays could result in higher costs. In addition, our business also depends on the continued supply of battery cells for our products. We are exposed to multiple risks relating to availability and pricing of quality battery cells. These risks inclu ● the inability or unwillingness of battery cell manufacturers to build or operate battery cell manufacturing plants to supply the numbers of battery cells (including the applicable chemistries) required to support the growth of the electric or plug-in hybrid vehicle industry as demand for such cells increases; ● disruption in the supply of battery cells due to quality issues or recalls by the battery cell manufacturers; and ● an increase in the cost, or decrease in the available supply of raw materials used in battery cells, such as lithium, nickel, and cobalt. Furthermore, currency fluctuations, tariffs or shortages in petroleum and other economic or political conditions may result in significant increases in freight charges and raw material costs. Substantial increases in the prices for raw materials or components would increase our operating costs and could reduce our margins. We depend upon third parties to manufacture and to supply key semiconductor chip components necessary for our products. We do not have long-term agreements with our semiconductor chip manufacturers and suppliers, and if these manufacturers or suppliers become unwilling or unable to provide an adequate supply of semiconductor chips, with respect to which there is a global shortage, we would not be able to find alternative sources in a timely manner and our business would be adversely impacted. Semiconductor chips are a vital input component to the electrical architecture of our products, controlling wide aspects of the products’ operations. Many of the key semiconductor chips we use in our products come from limited or single sources of supply, and therefore a disruption with any one manufacturer or supplier in our supply chain would have an adverse effect on our ability to effectively manufacture and timely deliver our products. We do not have any long- term supply contracts with any suppliers and purchase chips on a purchase order basis. Due to our reliance on these semiconductor chips, we are subject to the risk of shortages and long lead times in their supply. We are in the process of identifying alternative manufacturers for semiconductor chips. We have in the past experienced, and may in the future experience, semiconductor chip shortages, and the availability and cost of these components would be difficult to predict. For example, our manufacturers may experience temporary or permanent disruptions in their manufacturing operations due to equipment breakdowns, labor strikes or shortages, natural disasters, component or material shortages, cost increases, acquisitions, insolvency, changes in legal or regulatory requirements, or other similar problems. 20 Table of Contents In particular, increased demand for semiconductor chips in 2020, due in part to the COVID-19 pandemic and increased demand for consumer electronics that use these chips, has resulted in a severe global shortage of chips in 2021 and 2022. As a result, our ability to source semiconductor chips to be used in our products has been adversely affected. This shortage may result in increased chip delivery lead times, delays in the production of our products, and increased costs to source available semiconductor chips. To the extent this semiconductor chip shortage continues, and we are unable to mitigate the effects of this shortage, our ability to deliver sufficient quantities of our products to fulfill our preorders and to support our growth through sales to new customers would be adversely affected. In addition, we may be required to incur additional costs and expenses in managing ongoing chip shortages, including additional research and development expenses, engineering design and development costs in the event that new suppliers must be onboarded on an expedited basis. Further, ongoing delays in production and shipment of products due to a continuing shortage of semiconductor chips may harm our reputation and discourage additional preorders and sales, and otherwise materially and adversely affect our business and operations. If we need to replace manufacturers, our expenses and cost of goods could increase resulting in smaller profit margins. We compete with other companies for the production capacity of our manufacturers and import quota capacity. Some of these competitors have greater financial and other resources than we have, and thus have an advantage in the competition for production and import quota capacity. If we experience a significant increase in demand, or if we need to replace an existing manufacturer, we may have to expand our third-party manufacturing capacity. We cannot assure that this additional capacity will be available when required on terms that are acceptable to us or similar to existing terms, which we have with our manufacturers, either from a production standpoint or a financial standpoint. We enter into a number of purchase order commitments specifying a time for delivery, method of payment, design and quality specifications and other standard industry provisions, but do not have long-term contracts with any manufacturer. None of the manufacturers we use produce our products exclusively. Should we be forced to replace one or more of our manufacturers, we may experience increased costs or an adverse operational impact due to delays in distribution and delivery of our products to our patients, which could cause us to lose patients or lose revenue because of late shipments. W e are a relatively small company with a limited number of products and staff. S ales fluctuations and employee turnover may adversely affect our business. We are a relatively small company. Consequently, compared to larger companies, sales fluctuations could have a greater impact on our revenue and profitability on a quarter-to-quarter and year-to-year basis and delays in patient orders could cause our operating results to vary significantly from quarter to quarter and year-to-year. In addition, as a small company we have limited staff and are heavily reliant on certain key personnel to operate our business. If a key employee were to leave the company it could have a material impact on our business and results of operations as we might not have sufficient depth in our staffing to fill the role that was previously being performed. A delay in filling the vacated position could put a strain on existing personnel or result in a failure to satisfy our contractual obligations or to effectively implement our internal controls, and materially harm our business. If we are unable to retain the services of Mr. Sandgaard or if we are unable to successfully recruit qualified managerial and sales personnel, we may not be able to continue our operations. Our success depends to a significant extent upon the continued service of Mr. Thomas Sandgaard, our Chief Executive Officer, Founder, and beneficial owner of approximately 41% of our outstanding stock. Loss of the services of Mr. Sandgaard could have a material adverse effect on our growth, revenues, and prospective business. There is currently no employment agreement with Mr. Sandgaard. We do not maintain key-man insurance on the life of Mr. Sandgaard. In addition, in order to successfully implement and manage our business plan, we will be dependent upon, among other things, successfully retaining and recruiting qualified managerial and sales personnel. Competition for qualified individuals is intense. Various factors, such as marketability of our products, our reputation, our liquidity, and sales commission structure can affect our ability to find, attract or retain sales personnel. There can be no assurance that we will be able to find and attract qualified new employees and sales representatives and retain existing employees and sales representatives. 21 Table of Contents We need to maintain insurance coverage, which could become very expensive or have limited availability. Our marketing and sales of medical device products creates an inherent risk of claims for product liability. As a result, we carry product liability insurance and will continue to maintain insurance in amounts we consider adequate to protect us from claims. We cannot, however, be assured that we have resources sufficient to satisfy liability claims in excess of policy limits if required to do so. Also, if we are subject to such liability claims, there is no assurance that our insurance provider will continue to insure us at current levels or that our insurance rates will not substantially rise in the future, resulting in increased costs to us or forcing us to either pay higher premiums or reduce our coverage amounts, which would result in increased liability to claims. Although we do not manufacture the products we distribute, if one of the products distributed by us proves to be defective or is misused by a health care practitioner or patient, we may be subject to liability that could adversely affect our financial condition and results of operations. Although we do not manufacture the products that we distribute, a defect in the design or manufacture of a product distributed or serviced by us, or a failure of a product distributed by us to perform for the use specified, could have a material and adverse effect on our reputation in the industry and subject us to claims of liability for injuries and otherwise. Misuse of the product distributed by us by a practitioner or patient that results in injury could similarly subject us to liability. Any substantial underinsured loss could have a material and adverse effect on our business, financial condition, results of operations and cash flows. Furthermore, any impairment of our reputation could have a material and adverse effect on our revenues and prospects for future business. We depend upon obtaining regulatory clearance of new products and/or manufacturing operations we develop and maintain clearances of current products; failure to obtain or maintain such regulatory clearances could result in increased costs, lost revenue, penalties and fines. Before marketing certain new products, we will need to complete one or more clinical investigations of each product. There can be no assurance that the results of such clinical investigations will be favorable to us. We may not know the results of any study, favorable or unfavorable to us, until after the study has been completed. Such data must be submitted to the FDA as part of any regulatory filing seeking clearance to market the product. Even if the results are favorable, the FDA may dispute the claims of safety, efficacy, or clinical utility and not allow the product to be marketed. The sales price of the product may not be enough to recoup the amount of our investment in conducting the investigative studies and we may expend significant funds on research and development on products that are rejected by the FDA. Some of our products are marketed based upon our interpretation of FDA regulation allowing for changes to an existing device. If our interpretations are incorrect, we could suffer consequences that could have a material adverse effect on our results of operations and cash flows and could result in fines and penalties. There can be no assurance that we will have the financial resources to complete development of any new products or to complete the regulatory clearance process or to maintain regulatory compliance of existing products. We may not be able to obtain clearance of a 510(k) pre-market notification or grant of a de novo classification request or approval of a pre-market approval application with respect to any products on a timely basis, if at all. If timely FDA clearance or approval of new products is not obtained, our business could be materially adversely affected. Clearance of a 510(k) pre-market notification or de novo application may also be required before marketing certain previously marketed products, which have been modified after they have been cleared. Should the FDA so require, the filing of a new 510(k) pre-market notification for the modification of the product may be required prior to marketing any modified device. To determine whether adequate compliance has been achieved, the FDA may inspect our facilities at any time. Such compliance can be difficult and costly to achieve and maintain. Our compliance status may change due to future changes in, or interpretations of, FDA regulations or other regulatory agencies. Such changes may result in the FDA withdrawing marketing clearance or requiring or requesting product recall. In addition, any changes or modifications to a device or its intended use may require us to reassess compliance with good manufacturing practices guidelines, potentially interrupting the marketing and sale of products. We may also fail to comply with complex FDA regulations due to their complexity or otherwise. Failure to comply with regulations could result in enforceable actions, including product seizures, product recalls, withdrawal of clearances or approvals, injunctions, and civil and criminal penalties, any of which could have a material adverse effect on our operating results and reputation. 22 Table of Contents O ur products are subject to recall even after receiving FDA or foreign clearance or approval, which would harm our reputation and business. We are subject to medical device reporting regulations that require us to report to the FDA or respective governmental authorities in other countries if our products cause or contribute to a death or serious injury or malfunction in a way that would be reasonably likely to cause or contribute to death or serious injury if the malfunction were to recur. The FDA and similar governmental authorities in other countries have the authority to require the recall of our products in the event of material deficiencies or defects in design or manufacturing. A government mandated or voluntary recall by us could occur as a result of component failures, manufacturing errors or design defects, including defects in labeling. Any recall would divert managerial and financial resources and could harm our reputation with customers. We cannot assure you that we will not have product recalls in the future or that such recalls would not have a material adverse effect on our business. We have not undertaken any voluntary or mandatory recalls to date. We continue to incur expenses. This area of medical device research is subject to rapid and significant technological changes. Developments and advances in the medical industry by either competitors or other parties can affect our business in either a positive or negative manner. Developments and changes in technology that are favorable to us may significantly advance the potential of our research while developments and advances in research methods outside of the methods we are using may severely hinder, or halt completely our development. We are a small company in terms of employees, technical and research resources. We expect to incur research and development, sales and marketing, and general and administrative expenses. These amounts may increase, and recently have in connection with our efforts to expand our sales force, before any commensurate incremental revenue from these efforts may be obtained and may adversely affect our potential profits and we may lack the liquidity to pay for such expenditures. These factors may also hinder our ability to meet changes in the medical industry as rapidly or effectively as competitors with more resources. Substantial costs could be incurred defending against claims of intellectual property infringement. Other companies, including competitors, may obtain patents or other proprietary intellectual property rights that would limit, interfere with, or otherwise circumscribe our ability to make, use, or sell products. Should there be a successful claim of infringement against us and if we could not license the alleged infringed technology at a reasonable cost, our business and operating results could be adversely affected. There has been substantial litigation regarding patent and other intellectual property rights in the medical device industry. The validity and breadth of claims covered in medical technology patents involve complex legal and factual questions for which important legal principles remain unresolved. Any litigation claims against us, independent of their validity, may result in substantial costs and the diversion of resources with no assurance of success. Intellectual property claims could cause us t ● Cease selling, incorporating, or using products that incorporate the challenged intellectual property; ● Obtain a license from the holder of the infringed intellectual property right, which may not be available on reasonable terms, if at all; and ● Re-design our products excluding the infringed intellectual property, which may not be possible. We may be unable to protect our trademarks, trade secrets and other intellectual property rights that are important to our business. We consider our trademarks, trade secrets, and other intellectual property an integral component of our success. We rely on trademark law and trade secret protection and confidentiality agreements with employees, customers, partners, and others to protect our intellectual property. Effective trademark and trade secret protection may not be available in every country in which our products are available. We obtained utility patents on the fluid monitoring system in 2021 and 2018 in the U.S. and in 2020 in Europe. We cannot be certain that we have taken adequate steps to protect our intellectual property, especially in countries where the laws may not protect our rights as fully as in the United States. In addition, if our third-party confidentiality agreements are breached, there may not be an adequate remedy available to us. If our trade secrets become publicly known, we may lose competitive advantages. 23 Table of Contents We may fail to protect the privacy, integrity and security of customer information. We possess and process sensitive customer information and Protected Health Information protected by the Health Insurance Portability and Affordability Act (“HIPAA”). While we have taken reasonable and appropriate steps to protect that information, if our security procedures and controls were compromised, it could harm our business, reputation, results of operations and financial condition and may increase the costs we incur to protect against such information security breaches, such as increased investment in technology, the costs of compliance with health care privacy and consumer protection laws. A compromise of our privacy or security procedures could also subject us to liability under certain health care privacy laws applicable to us. Other federal and state laws restrict the use and protect the privacy and security of personally identifiable information are, in many cases, are not preempted by HIPAA and may be subject to varying interpretations by the courts and government agencies. These varying interpretations can create complex compliance issues for us and our partners and potentially expose us to additional expense, adverse publicity and liability, any of which could adversely affect our business. There is ongoing concern from privacy advocates, regulators and others regarding data privacy and security issues, and the number of jurisdictions with data privacy and security laws has been increasing. Also, there are ongoing public policy discussions regarding whether the standards for de-identification, anonymization or pseudonymization of health information are sufficient, and the risk of re-identification sufficiently small, to adequately protect patient privacy. We expect that there will continue to be new proposed and amended laws, regulations and industry standards concerning privacy, data protection and information security in the United States, such as the California Consumer Privacy Act (“CCPA”), as amended by the California Privacy Rights Act (“CPRA”), which amendments went into effect on January 1, 2023, The CCPA creates specific obligations with respect to processing and storing personal information, and the CPRA amendments created a new state agency that is vested with authority to implement and enforce the CCPA. Additionally, a similar law went into effect in Virginia on January 1, 2023, and further US-state comprehensive privacy laws are set to go into effect throughout 2023, including laws in Colorado, Connecticut, and Utah. These laws are substantially similar in scope and contain many of the same requirements and exceptions as the CCPA, including a general exemption for clinical trial data and limited obligations for entities regulated by HIPAA. However, we cannot yet determine the full impact these laws or other such future laws, regulations and standards may have on our current or future business. Any of these laws may broaden their scope in the future, and similar laws have been proposed on both a federal level and in more than half of the states in the U.S. A number of other states have proposed new privacy laws, some of which are similar to the above discussed recently passed laws. Such proposed legislation, if enacted, may add additional complexity, variation in requirements, restrictions and potential legal risk, require additional investment of resources in compliance programs, impact strategies and the availability of previously useful data and could result in increased compliance costs and/or changes in business practices and policies. The existence of comprehensive privacy laws in different states in the country would make our compliance obligations more complex and costly and may increase the likelihood that we may be subject to enforcement actions or otherwise incur liability for noncompliance. Cyber-attacks and security vulnerabilities could lead to reduced revenue, increased costs, liability claims, or harm to our competitive position. Increased sophistication and activities of perpetrators of cyber-attacks have resulted in an increase in information security risks in recent years. Hackers develop and deploy viruses, worms, and other malicious software programs that attack products and services and gain access to networks and data centers. In addition to extracting sensitive information, such attacks could include the deployment of harmful malware, ransomware, denial-of-service attacks, social engineering and other means to affect service reliability and threaten the confidentiality, integrity and availability of information. The prevalent use of mobile devices also increases the risk of data security incidents. If we experience difficulties maintaining existing systems or implementing new systems, we could incur significant losses due to disruptions in our operations. Additionally, these systems contain valuable proprietary and confidential information and may contain personal data of our customers. While we believe we have taken reasonable steps to protect such data, techniques used to gain unauthorized access to data and systems, disable or degrade service, or sabotage systems, are constantly evolving, and we may be unable to anticipate such techniques or implement adequate preventative measures to avoid unauthorized access or other adverse impacts to such data or our systems. In addition, some of our third-party service providers and partners also collect and/or store our sensitive information and our customers’ data on our behalf, and these service providers and partners are subject to similar threats of cyber-attacks and other malicious internet-based activities, which could also expose us to risk of loss, litigation, and potential liability. A security breach could result in disruptions of our internal systems and business applications, harm to our competitive position from the compromise of confidential business information, or subject us to liability under laws that protect personal data. Additionally, actual, potential or anticipated attacks may cause us to incur increasing costs, including costs to deploy additional personnel and protection technologies, train employees, and engage third-party experts and consultants. Specifically, as 24 Table of Contents cyber threats continue to evolve, we may be required to expend additional resources to continue to enhance our information security measures and/or to investigate and remediate any information security vulnerabilities. Any of these consequences would adversely affect our revenue and margins. Additionally, although we maintain cybersecurity insurance coverage, we cannot be certain that such coverage will be adequate for data security liabilities actually incurred, will cover any indemnification claims against us relating to any incident, will continue to be available to us on economically reasonable terms, or at all, or that any insurer will not deny coverage as to any future claim. The successful assertion of one or more large claims against us that exceed available insurance coverage, or the occurrence of changes in our insurance policies, including premium increases or the imposition of large deductible or co-insurance requirements, could have a material adverse effect on our reputation, business, prospects, results of operations and financial condition. We have identified a material weakness in our internal controls over financial reporting and may identify additional material weaknesses in the future or otherwise fail to maintain an effective system of internal controls, which may result in material misstatements of our consolidated financial statements or cause us to fail to meet our periodic reporting obligations. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of a company’s annual or interim financial statements will not be prevented or detected on a timely basis. We identified a material weakness in our internal controls over financial reporting as of December 31, 2022, related to information technology general controls, or ITGCs, that were not designed and operating effectively to ensure (i) appropriate segregation of duties was in place to perform program changes and (ii) the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted. Although the material weakness identified above did not result in any material misstatements in our consolidated financial statements for the periods presented and there were no changes to previously released financial results, our management concluded that these control weaknesses constitute a material weakness and that our internal control was not effective as of December 31, 2022. Our management is committed to take comprehensive actions to remediate the material weakness in internal control over financial reporting. We are in the process of developing and implementing remediation plans to address the material weakness described above. While we are committed to designing and implementing new controls and measures to remediate this material weakness, we cannot assure you that the measures will be sufficient to remediate the material weakness or avoid the identification of additional material weaknesses in the future. Our failure to implement and maintain effective internal control over financial reporting could result in errors in our consolidated financial statements that could result in a restatement of our financial statements and could cause us to fail to meet our periodic reporting obligations, any of which could diminish investor confidence in us and cause a decline in the price of our common stock. Expansion of our operations and sales internationally may subject us to additional risks, including risks associated with unexpected events. A component of our growth strategy is to expand our operations and sales internationally. There can be no assurance that we will be able to successfully market, sell, and deliver our products in foreign markets, or that we will be able to successfully expand our international operations. Global operations could cause us to be subject to unexpected, uncontrollable and rapidly changing risks, events, and circumstances. The following factors, among others, could adversely affect our business, financial condition and results of operatio ● difficulties in managing foreign operations and attracting and retaining appropriate levels of senior management and staffing; ● longer cash collection cycles; ● proper compliance with local tax laws which can be complex and may result in unintended adverse tax consequences; ● difficulties in enforcing agreements through foreign legal systems; 25 Table of Contents ● failure to properly comply with U.S. and foreign laws and regulations applicable to our foreign activities including, without limitation, product approval, healthcare and employment law requirements and the Foreign Corrupt Practices Act; ● fluctuations in exchange rates that may affect product demand and may adversely affect the profitability in U.S. dollars of the products we provide in foreign markets; ● the ability to efficiently repatriate cash to the United States and transfer cash between foreign jurisdictions; and ● changes in general economic conditions or political circumstances in countries where we operate. Our acquisition of other companies could require significant management attention, disrupt our business, dilute stockholder value and adversely affect our operating results. As part of our business strategy, we have made and may in the future acquire or make investments in other companies, solutions or technologies to, among other reasons, expand or enhance our product offerings. In the future, any significant acquisition would require the consent of our lenders. Any failure to receive such consent could delay or prohibit us from acquiring companies that we believe could enhance our business. We may not ultimately strengthen our competitive position or achieve our goals from our recent or any future acquisition, and any acquisitions we complete could be viewed negatively by users, customers, partners or investors. In addition, if we fail to integrate successfully such acquisitions, or the technologies associated with such acquisitions, into our company, the revenues and operating results of the combined company could be adversely affected. For example, in December 2021 we acquired Kestrel Labs, Inc. and we must effectively integrate the personnel, products, technologies and customers and develop and motivate new employees. In addition, we may not be able to successfully retain the customers and key personnel of such acquisitions over the longer term, which could also adversely affect our business. The integration of our recently-acquired business or future-acquired business will require significant time and resources, and we may not be able to manage the process successfully. We may not successfully evaluate or utilize the acquired business and accurately forecast the financial impact of the acquisition, including accounting charges. We may have to pay cash, incur debt or issue equity securities to pay for any acquisition, each of which could affect our financial condition or the value of our capital stock. For example, in connection with our acquisition of Kestrel Labs, Inc., we paid an approximate value of $30.5 million, consisting of $16.1 million in cash which was financed through Bank of America N.A. and approximately $14.4 million in shares of our common stock, a portion of which is held in escrow until certain milestones are achieved. To fund any future acquisition, we may issue equity, which would result in dilution to our stockholders, or incur more debt, which would result in increased fixed obligations and could subject us to additional covenants or other restrictions that would impede our ability to manage our operations. If we are not able to integrate acquired businesses successfully, our business could be harmed. Our inability to successfully integrate our recent and future acquisitions could impede us from realizing all of the benefits of those acquisitions and could severely weaken our business operations. The integration process may disrupt our business and, if implemented ineffectively, may preclude realization of the full benefits expected by us and could harm our results of operations. In addition, the overall integration of the combining companies may result in unanticipated problems, expenses, liabilities, and competitive responses, and may cause our stock price to decline. The difficulties of integrating an acquisition include, among othe ● unanticipated issues in integration of information, communications, and other systems; ● unanticipated incompatibility of logistics, marketing, and administration methods; ● maintaining employee morale and retaining key employees; ● integrating the business cultures of both companies; ● preserving important strategic client relationships; 26 Table of Contents ● consolidating corporate and administrative infrastructures and eliminating duplicative operations; and ● coordinating geographically separate organizations. In addition, even if the operations of an acquisition are integrated successfully, we may not realize the full benefits of the acquisition, including the synergies, cost savings, or growth opportunities that we expect. These benefits may not be achieved within the anticipated time frame, or at all. For example, the failure to get regulatory approval to sell certain products of an acquired business may significantly reduce the anticipated benefits of the acquisition and could harm our results of operations, even if we have put in place contingencies for the delivery of closing consideration, such as the escrowed shares held back in our acquisition of Kestrel Labs, Inc. Further, acquisitions may also cause us t ● issue securities that would dilute our current stockholders’ ownership percentage; ● use a substantial portion of our cash resources; ● increase our interest expense, leverage, and debt service requirements if we incur additional debt to pay for an acquisition; ● assume liabilities, including environmental liabilities, for which we do not have indemnification from the former owners or have indemnification that may be subject to dispute or concerns regarding the creditworthiness of the former owners; ● record goodwill and non-amortizable intangible assets that are subject to impairment testing on a regular basis and potential impairment charges; ● experience volatility in earnings due to changes in contingent consideration related to acquisition liability estimates; ● incur amortization expenses related to certain intangible assets; ● lose existing or potential contracts as a result of conflict of interest issues; ● incur large and immediate write-offs; or ● become subject to litigation. Our failure to comply with the covenants contained in our loan agreement could result in an event of default that could adversely affect our financial condition and ability to operate our business as planned. We currently have an outstanding term loan and line of credit with Bank of America, N.A. under which we are obligated to pay monthly amortization payments. Our loan agreement contains, and any agreements to refinance our debt likely will contain, financial and restrictive covenants. Our failure to comply with these covenants in the future may result in an event of default, which if not cured or waived, could result in the bank preventing us from accessing availability under our line of credit and requiring us to repay any outstanding borrowings. There can be no assurance that we will be able to obtain waivers in the event of covenant violations or that such waivers will be available on commercially acceptable terms. In addition, the indebtedness under our loan agreement is secured by a security interest in substantially all of our tangible and intangible assets, and therefore, if we are unable to repay such indebtedness the bank could foreclose on these assets and sell the pledged equity interests, which would adversely affect our ability to operate our business. If any of these were to occur, we may not be able to continue operations as planned, implement our planned growth strategy or react to opportunities for or downturns in our business. 27 Table of Contents Changes in financial accounting standards or practices may cause adverse, unexpected financial reporting fluctuations and affect our reported results of operations. We are required to prepare our financial statements in accordance with generally accepted accounting principles in the United States of America (“GAAP”), which is periodically revised and/or expanded. From time to time, we are required to adopt new or revised accounting standards issued by recognized authoritative bodies, including the Financial Accounting Standards Board (“FASB”) and the SEC. It is possible that future accounting standards we are required to adopt may require additional changes to the current accounting treatment that we apply to our financial statements and may require us to make significant changes to our reporting systems. Such changes could result in a material adverse impact on our business, results of operations and financial condition. RISKS RELATED TO OUR COMMON STOCK Sales of significant amounts of shares held by Mr. Sandgaard, or the prospect of these sales, could adversely affect the market price of our common stock Sales of significant amounts of shares held by Mr. Sandgaard, or the prospect of these sales, could adversely affect the market price of our common stock. Mr. Sandgaard’s stock ownership may discourage a potential acquirer from making a tender offer or otherwise attempting to obtain control of the Company, which in turn could reduce our stock price or prevent our stockholders from realizing a premium over our stock price. Our existing stockholders may experience dilution if we elect to raise equity capital Due to our past liquidity issues, we have had to raise capital in the form of debt and/or equity to meet our working capital needs. We may also choose to issue equity or debt securities in the future to meet our liquidity or other needs which would result in additional dilution to our existing stockholders. Although we will attempt to minimize the dilutive impact of any future capital-raising activities, we cannot offer any assurance that we will be able to do so. We may have to issue additional shares of our common stock at prices at a discount from the then-current market price of our common stock. If we raise additional working capital, existing stockholders may experience dilution. We paid a dividend on our common stock, and cash used to pay dividends will not be available for other corporate purposes In 2018, our Board of Directors declared a special one-time dividend of $0.07 per share, which was paid in January 2019. In 2021, our Board of Directors declared a special one-time dividend of $0.10 per share, which was paid in January 2022. The decision to pay dividends in the future will depend on general business conditions, the impact of such payment on our financial condition, and other factors our Board of Directors may consider. If we elect to pay future dividends, this could reduce our cash reserves to levels that may be inadequate to fund expansions to our business plan or unanticipated contingent liabilities. Our stock price could become more volatile and your investment could lose value. All of the factors discussed in this section could affect our stock price. A significant drop in our stock price could also expose us to the risk of securities class actions lawsuits, which could result in substantial costs and divert management’s attention and resources, which could adversely affect our business ITEM 1B. UNRESOLVED STAFF COMMENTS None. ITEM 2. PROPERTIES In October 2017, we signed a lease for our former corporate headquarters in Englewood, Colorado beginning in January 2018. In March 2019, we signed an amendment to this lease, which allowed the Company to expand its corporate offices. An additional amendment was entered into on January 3, 2020, which expanded our former corporate offices to approximately 85,681 square feet. During 2021, we moved our corporate headquarters to a new location, however, we continue to use the leased property for ZMS operations. The lease and subsequent amendments continue through June 30, 2023 with an option for a two-year extension through June 2025. 28 Table of Contents In addition to our corporate headquarters, we entered into a lease agreement for a warehouse and production facility with approximately 50,488 square feet in September 2020. The lease continues through June 2026 with an option for a five-year extension through June 2031. In April 2021, we signed a sublease for a new corporate headquarters in Englewood, Colorado beginning in May 2021 for up to approximately 110,754 square feet. This lease runs through April 2028. During March 2022, we entered into a lease agreement for approximately 4,162 square feet of office space for the operations of ZMS in Boulder, Colorado. The lease began on April 1, 2022 and will run through April 1, 2025. We believe these leased properties are sufficient to support our current requirements and that we will be able to locate additional facilities as needed. See Note 11 to the Consolidated Financial Statements for additional information on these leases. ITEM 3. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 4. MINE SAFETY DISCLOSURES Not applicable. 29 Table of Contents PART II ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES On February 12, 2019, our common stock began trading on The Nasdaq Capital Market under the symbol “ZYXI”. Prior to uplisting to the Nasdaq Capital Market, the Company’s common stock was quoted on the OTCQB (managed by OTC Markets, Inc) under the symbol “ZYXI.” As of March 13, 2023, there were 36,634,459 shares of common stock outstanding and approximately 154 record holders of our common stock. Recent Sales of Unregistered Securities None. Purchases of Equity Securities by the Issuer and Affiliated Purchasers Issuer Purchases of Equity Securities The following table sets forth a summary of the Company’s purchases of common stock during the fourth quarter of 2022 pursuant to the Company’s authorized share repurchase program: (In Thousands) Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan October 1 - October 31, 2022 Share repurchase program (1) 19,653 $ 9.74 1,091,604 — November 1 - November, 2022 Share repurchase program (2) 312,035 $ 13.16 312,035 5,893 December 1 – December 31, 2022 Share repurchase program (2) 183,103 $ 13.87 495,138 3,352 Quarter Total Share repurchase program (1) 19,653 $ 9.74 1,091,604 — Share repurchase program (2) 495,138 $ 13.43 495,138 3,352 (1) Shares were purchased through the Company’s publicly announced share repurchase program dated June 9, 2022. The program was fully utilized during the Company’s fourth quarter. (2) Shares were purchased through the Company’s publicly announced share repurchase program approved by the Company’s Board of Directors on October 31, 2022. The program expires at the earlier of October 31, 2023 or reaching $10.0 million of repurchases. Dividends Our Board of Directors declared a special cash dividend of $0.10 per share and a 10% stock dividend during the fourth quarter of 2021, which was paid out and issued in January 2022. There can be no guarantee that we will continue to pay dividends. Any future determination to pay cash dividends will be at the discretion of the Board of Directors and will be dependent upon our financial condition, results of operations, capital requirements and such other factors as the Board deems relevant. 30 Table of Contents ITEM 6. [RESERVED] Not required. ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This Annual Report on Form 10-K contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain FDA clearance and CE marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, and other risks described herein and included in “Item 1A-Risk Factors.” OVERVIEW We operate in one primary business segment, electrotherapy and pain management products. As of December 31, 2022, the Company’s only active subsidiary is ZMI, a wholly-owned Colorado corporation, through which the Company conducts its U.S. electrotherapy and pain management operations. ZMS, a wholly-owned Colorado corporation, has developed a fluid monitoring system, which has received two utility patents and FDA approval in the U.S. ZMS also acquired Kestrel during 2021, which had two pulse-oximeter products they are developing and numerous patents. However, ZMS has achieved no revenues to date. The following information should be read in conjunction with our Consolidated Financial Statements and related notes contained in this Annual Report. HIGHLIGHTS During the year ended December 31, 2022, the Company achieved the followin ZMI ● Achieved a 23% increase in order growth, 21% growth in revenue, and a 98% increase in operating cash flows compared to the prior year; ● Recorded net income of $17.0 million and our 7 th consecutive profitable year; ● Achieved higher sales representative productivity with increase revenue per sales representative; ● Due to strong results and related cash flow, we repurchased over $26 million worth of Company stock; ● Ranked 11 th in Forbes list of “Americas Best Small Companies 2023”; ● Ranked 33 rd in the Top 100 Healthcare Technology Companies of 2022 according to The Healthcare Technology Report; ● Included in the Deloitte Technology Fast 500 Fastest Growing Companies for a 4 th consecutive year. 31 Table of Contents ZMS ● Fully integrated Kestrel Labs, Inc. in Q1 2022. ● Completed multiple IRB-approved clinical studies including the apheresis blood donation study with Vitalant Research Institute, and studies at Yale University where subjects underwent simulated hemorrhage using a lower body negative pressure chamber. ● Applied to the U.S. Food and Drug Administration (“FDA”) in Q1 2023 for consideration through its Breakthrough Devices Program for NiCO. Inflation Reduction Act On August 16, 2022, President Biden signed the Inflation Reduction Act of 2022, or IRA, into law, which among other things, (i) directs the U.S. Department of Health and Human Services, or HHS, to negotiate the price of certain high-expenditure, single-source drugs and biologics covered under Medicare, and subjects drug manufacturers to civil monetary penalties and a potential excise tax for offering a price that is not equal to or less than the negotiated “maximum fair price” under the law; (ii) imposes rebates under Medicare Part B and Medicare Part D to penalize drug price increases that outpace inflation; and (iii) redesigns the Medicare Part D program, increasing manufacturer rebates within the catastrophic coverage phase. The IRA permits HHS to implement many of these provisions through guidance, as opposed to regulation, for the initial years. These provisions will take effect progressively beginning in fiscal year 2023, although they may be subject to legal challenges. It is currently unclear how the IRA will be effectuated but is likely to have a significant impact on the pharmaceutical industry. The IRA also includes various tax provisions, including an excise tax on stock repurchases, expanded tax credits for clean energy incentives, and a corporate alternative minimum tax that generally applies to U.S. corporations with average adjusted financial statement income over a three year period in excess of $1 billion. The Company does not expect these tax provision to materially impact its financial statements. SUMMARY Net revenue increased 21% in 2022 to $158.2 million from $130.3 million in 2021. Net income was $17.0 million and $17.1 million for the years ended December 31, 2022, and 2021, respectively. Cash flows from operating activities increased 98% or $6.8 million to $13.7 million for the year ended December 31, 2022. Increased orders for our devices and supplies and the related receivables and cash flows, which allowed us to repurchase $26.4 million of common stock and maintain working capital of $48.5 million at December 31, 2022. 32 Table of Contents RESULTS OF OPERATIONS The following table presents our consolidated statements of operations in comparative format (in thousands). For the Years Ended December 31, $ 2022 2021 change NET REVENUE Devices $ 43,497 $ 36,613 $ 6,884 Supplies 114,670 93,688 20,982 Total net revenue 158,167 130,301 27,866 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue – devices and supplies 32,005 27,321 4,684 Sales and marketing 67,116 54,290 12,826 General and administrative 36,108 26,324 9,784 Total costs of revenue and operating expenses 135,229 107,935 27,294 Income from operations 22,938 22,366 572 Other expense Loss on change in fair value of contingent consideration (300) — (300) Interest expense (440) (95) (345) Other expense, net (740) (95) (645) Income from operations before income taxes 22,198 22,271 (73) Income tax expense 5,150 5,168 (18) Net income $ 17,048 $ 17,103 $ (55) Net income per sh Basic $ 0.44 $ 0.45 $ (0.00) Diluted $ 0.44 $ 0.44 $ (0.00) Weighted average basic shares outstanding 38,467 38,317 150 Weighted average diluted shares outstanding 39,127 39,197 (70) 33 Table of Contents The following table presents our consolidated statements of operations reflected as a percentage of total reve For the Years Ended December 31, 2022 2021 NET REVENUE Devices 28 % 28 % Supplies 72 % 72 % Total net revenue 100 % 100 % COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue – devices and supplies 20 % 21 % Sales and marketing 42 % 42 % General and administrative 23 % 20 % Total costs of revenue and operating expenses 85 % 83 % Income from operations 15 % 17 % Other income/(expense) Loss on change in fair value of contingent consideration 0 % 0 % Interest expense 0 % 0 % Other income/(expense), net 0 % 0 % Income from operations before income taxes 14 % 17 % Income tax expense 3 % 4 % Net income 12 % 13 % Net income per sh Basic 0.44 0.45 Diluted 0.44 0.44 Weighted average basic shares outstanding 38,467 38,317 Weighted average diluted shares outstanding 39,127 39,197 Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the health care industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the Consolidated Financial Statements for a more complete explanation of our revenue recognition policies. 34 Table of Contents We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $27.9 million or 21% to $158.2 million for the year ended December 31, 2022, from $130.3 million for the year ended December 31, 2021. The growth in net revenue is primarily related to the 23% growth in device orders which led to an increased customer base and drove higher sales of consumable supplies. Device Revenue Device revenue is related to the purchase or lease of our electrotherapy products as well as complementary products including cervical traction, lumbar support, knee braces and hot/cold therapy products. Device revenue increased $6.9 million or 19% to $43.5 million for the year ended December 31, 2022, from $36.6 million for the year ended December 31, 2021. The increase in device revenue is related to the growth in our device and complementary product orders of 23% from 2021 to 2022 as a result of greater sales representative productivity. Supplies Revenue Supplies revenue is related to the sale of supplies, typically electrodes and batteries, for our products. Supplies revenue increased $21.0 million or 22% to $114.7 million for the year ended December 31, 2022, from $93.7 million for the year ended December 31, 2021. The increase in supplies revenue is primarily related to growth in our customer base from higher device sales in 2022 and prior years. Operating Expenses Costs of Revenue –Devices and Supplies Costs of revenue – devices and supplies consist primarily of device and supplies costs, operations labor and overhead, shipping and depreciation. Costs of revenue increased $4.7 million or 17% to $32.0 million for the year ended December 31, 2022, from $27.3 million for the year ended December 31, 2021. The increase in costs of revenue is directly related to the increase in device and supplies orders. As a percentage of revenue, cost of revenue –devices and supplies decreased to 20% for the year ended December 31, 2022 compared to 21% for the year ended December 31, 2021. The decrease in cost of revenue – devices and supplies as a percentage of revenue was due to expanding our supplier portfolio mix and reducing supply costs. Sales and Marketing Expense Sales and marketing expense primarily consists of employee-related costs, including commissions and other direct costs associated with these personnel including travel and marketing expenses. Sales and marketing expense for the year ended December 31, 2022 increased 24% to $67.1 million from $54.3 million for the year ended December 31, 2021. The increase in sales and marketing expense is primarily due to increased salaries of sales personnel related to an expanded sales force, tightened job market and inflation. Increased orders resulted in higher sales commissions as well as travel expenses. As a percentage of revenue, sales and marketing expense remained flat at 42% for both years ended December 31, 2022 and 2021. 35 Table of Contents General and Administrative Expense General and administrative expense primarily consists of employee related costs, facilities expense, professional fees and depreciation and amortization. General and administrative expense for the year ended December 31, 2022 increased 37% to $36.1 million from $26.3 million for the year ended December 31, 2021. The increase in general and administrative expense is primarily due to the followin ● an increase of $2.6 million and $2.5 million in compensation and benefits expense, including non-cash stock compensation expense, related to headcount growth and inflationary salary increases for ZMI and ZMS, respectively; ● an increase of $3.3 million in other expenses, including professional fees, ZMS product development, and other general and administrative costs associated with the increase in order volumes; ● an increase of $0.7 million in rent and facilities expenses due to a full year of expense, as we entered into a new corporate headquarters lease during May 2021. Much of the increase in facilities was non-cash as we received 21 months of free rent on the new corporate headquarters but for GAAP purposes the rent over the lease term is expensed on a straight-line basis; and ● an increase of $0.9 million in amortization expense related due to a full year of expense of the intangible assets acquired in December 2021. As a percentage of revenue, general and administrative expense increased to 23% for the year ended December 31, 2022 from 20% for the year ended December 31, 2021. The increase as a percentage of revenue is primarily due to the aforementioned increase in expenses, partially offset by increased revenue during the year ended December 31, 2022. The Company expects that general and administrative expenses will continue to increase through 2023 as the Company continues to expand its corporate headcount to accommodate continued order growth and continued research and development activities at ZMS. Other Income (Expense) Other expense was $0.7 million for the year ended December 31, 2022, of which $0.4 million was related to interest on debt obtained in December 2021, and a $0.3 million loss on the change in fair value of contingent consideration acquired in December 2021. Other expense was $0.1 million for the year ended December 31, 2021. Income Tax Expense We recorded income tax expense of $5.2 million and $5.2 million for the years ended December 31, 2022 and 2021, respectively. The effective income tax rate for the years ended December 31, 2022 and 2021 was 23% and 24%, respectively. The decrease in the effective rate during 2022 is primarily due to research and development credits. FINANCIAL CONDITION As of December 31, 2022, we had working capital of $48.5 million, compared to $59.8 million as of December 31, 2021. The decrease in working capital is primarily due to decreases in cash due to the Company’s repurchase of $26.6 million of Company stock, a cash dividend of $3.6 million which was paid in January 2022, and principal payments on our long-term loan of $5.3 million during 2022. We generated $13.7 million and $6.9 million in operating cash flows during the years ended December 31, 2022 and 2021, respectively. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. As of December 31, 2022, our principal source of liquidity was $20.1 million in cash, $35.1 million in accounts receivables, and our working capital balance of $48.5 million. 36 Table of Contents Upon closing on the Kestrel acquisition in December 2021, we entered into a loan and credit facility agreement with Bank of America, N.A. The credit facility includes a line of credit in the amount of $4.0 million available until December 1, 2024, which the Company has not drawn from since inception of the agreement. The loan is a fixed rate term loan in the amount of $16.0 million and has an interest rate equal to 2.8% per year. The term loan is payable in equal principal installments of $0.4 million per month through December 1, 2024 plus interest on the first day of each month beginning January 1, 2022. (See Note 7). Our anticipated uses of cash in the future will be to fund the expansion of our business. Net cash provided by operating activities for the years ended December 31, 2022 and 2021 was $13.7 million and $6.9 million, respectively. The increase in cash provided by operating activities for the year ended December 31, 2022 was primarily due to increased collections in 2022, and an increase in non-cash amortization and stock compensation expenses. Cash provided by operating activities for the year ended December 31, 2021 was primarily due to profitability, which was offset by increased accounts receivable due to revenue growth. Net cash used in investing activities for the years ended December 31, 2022 and 2021 was $0.4 million and $16.6 million, respectively. Cash used in investing activities for the year ended December 31, 2022 was primarily related to the purchase of computer, office and warehouse equipment. Cash used in investing activities for the year ended December 31, 2021 was primarily related to the acquisition of Kestrel and the purchase of computer, office and warehouse equipment. Net cash used in financing activities for the year ended December 31, 2022 was $35.8 million compared with net cash provided by financing activities of $13.1 million for the year ended December 31, 2021. The cash used in financing activities of $35.8 million for the year ended December 31, 2022 was primarily due to the repurchase of Company stock totaling $26.4 million, principal payments made on our term loan totaling $5.3 million and the payment of cash dividends in January 2022 totaling $3.6 million. The cash provided by financing activities of $13.1 million for the year ended December 31, 2021 was primarily due to net proceeds from debt assumed in the Kestrel acquisition of $16.0 million, which is slightly offset by the purchase of treasury stock totaling $2.7 million. We believe our cash, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash balance at December 31, 2022 of $20.1 million; ● Our working capital balance of $48.5 million; ● Our accounts receivable balance of $35.1 million; ● Our increasing profitability over the last 7 years; and ● Our planned capital expenditures of approximately $2.0 million during 2023 . Contractual Obligations The following table summarizes the future cash disbursements to which we are contractually committed as of December 31, 2022 (in thousands). Total 2023 2024 2025 2026 2027 Thereafter Operating leases 17,788 3,055 3,571 3,586 3,362 3,150 1,064 Finance leases 359 152 116 76 15 — — $ 18,147 $ 3,207 $ 3,687 $ 3,662 $ 3,377 $ 3,150 $ 1,064 We lease office and warehouse facilities under non-cancelable operating leases. The current office facility leases include our current and former corporate headquarters and a production warehouse, all located in Englewood, Colorado and a lease in Boulder, Colorado 37 Table of Contents for the operations of ZMS Boulder. We also rent a small office in Denmark. Rent expense was $4.5 million and $3.5 million for the years ended December 31, 2022 and 2021, respectively. A portion of the increase in facilities was non-cash as we received 21 months of free rent on the new corporate headquarters but for GAAP purposes, the rent is expensed over the lease term on a straight-line basis. The Company also leases office equipment for its corporate and warehouse facilities under non-cancelable finance lease agreements. CRITICAL ACCOUNTING POLICIES AND SIGNIFICANT ESTIMATES In preparing our consolidated financial statements in accordance with GAAP, we are required to make estimates and assumptions that affect the amounts of assets, liabilities, revenue, costs and expenses, and disclosure of contingent liabilities that are reported in the consolidated financial statements and accompanying disclosures. We believe that the estimates, assumptions and judgments involved in the accounting policies described below have the greatest potential impact on our financial statements because they involve the most difficult, subjective or complex judgments about the effect of matters that are inherently uncertain. Therefore, we consider these to be our critical accounting policies. Accordingly, we evaluate our estimates and assumptions on an ongoing basis. Our actual results may differ from these estimates and assumptions. See Note 2 to the Consolidated Financial Statements of this Annual Report on Form 10-K for information about these critical accounting policies, as well as a description our other accounting policies. Revenue Recognition and Accounts Receivable Revenue is generated primarily from sales and leases of our electrotherapy devices and related supplies and complementary products. Sales are primarily made with, and shipped, direct to the patient with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contract with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. Device Sales Device sales can be in the form of a purchase or a lease. Revenue for purchased devices is recognized in accordance with Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (ASC 606) when the device is delivered to the patient and all performance obligations are fulfilled. Revenue related to devices out on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, we concluded our transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. 38 Table of Contents Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since our leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Supplies Supplies revenue is recognized once supplies are delivered to the patient. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. Variable Consideration A significant portion of the Company’s revenues are derived, and the related receivables are due, from patients with commercial or government health insurance plans. Revenues are estimated using the portfolio approach by third party payer type based upon historical rates of collection, the aging of receivables, trends in the historical reimbursement rates by third-party payer types and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Due to continuing changes in the health care industry and third-party payer reimbursement, it is possible our forecasting model to estimate collections could change, which could have an impact on our results of operations and cash flows. Any differences between estimated settlements and final determinations are reflected as an increase or a reduction to revenue in the period when such final determinations are known. Historically these differences have been immaterial, and the Company has not had to go back and reassess the adjustments of future periods for past billing adjustments. The Company monitors the variability and uncertain timing over third-party payer types in our portfolios. If there is a change in our third-party payer mix over time, it could affect our net revenue and related receivables. We believe we have a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved. Income Taxes Significant judgment is required in determining our provision for income taxes. We assess the likelihood that our deferred tax asset will be recovered from future taxable income, and to the extent we believe that recovery is not likely, we establish a valuation allowance. We consider future taxable income projections, historical results and ongoing tax planning strategies in assessing the recoverability of deferred tax assets. However, adjustments could be required in the future if we determine that the amount to be realized is less or greater than the amount that we recorded. Such adjustments, if any, could have a material impact on our results of our operations. We use a recognition threshold and a measurement attribute for the financial statement recognition and measurement of tax positions taken or expected to be taken in a tax return. For those benefits to be recognized, a tax position must be more-likely-than-not to be sustained upon examination by taxing authorities. 39 Table of Contents Acquisition Method of Accounting for Business Combinations We allocate the purchase price of acquired companies to the tangible and intangible assets acquired and liabilities assumed based on their estimated fair values. The excess of the purchase price over these fair values is recorded as goodwill. We engage independent third-party valuation specialists to assist us in determining the fair values of certain assets acquired and liabilities assumed. Such valuation require management to make significant estimates and assumptions, especially with respect to intangible assets. Different valuations approaches are used to value different types of intangible assets. Under the income approach, the relief from royalty method is a valuation technique which is used to estimate the value of certain intangible assets. This method utilizes projected financial information and hypothetical royalty rates to estimate the cost savings associated with asset ownership. The estimated cost savings are discounted for risk and the time value of money to estimate an intangible asset’s fair value. Management’s estimates of fair value are based upon assumptions believed to be reasonable, but which are inherently uncertain and unpredictable. If we do not achieve the results reflected in the assumptions and estimates, our goodwill impairment evaluations could be adversely affected, and we may impair a portion or all of our intangible assets, which would adversely affect our operating results in the period of impairment. Impairment of Long-lived Assets, Including Goodwill We assess impairment of goodwill annually and other long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Long-lived assets consist of property and equipment, net and goodwill and intangible assets. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Contingent Considerations We classify contingent consideration liabilities related to business acquisitions within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. We estimate the fair value of contingent consideration liabilities using a Monte Carlo simulation which is based on equity volatility, the risk-free rate, the normal variate, projected milestone dates, discount rates, and probabilities of payment. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK As a “Smaller Reporting Company”, this Item and the related disclosure is not required. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The consolidated financial statements, the notes thereto, and the report thereon of Marcum LLP, are filed as part of this report starting on page F-2. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. None. 40 Table of Contents ITEM 9A. CONTROLS AND PROCEDURES Evaluation of disclosure controls and procedures Our management, including our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934), as amended, or the Exchange Act, as of December 31, 2022. Based on management’s review, with participation of our Chief Executive Officer and Chief Financial Officer, the Chief Executive Officer and Chief Financial Officer have concluded that, as of the quarter ended December 31, 2022, our disclosure controls and procedures were not effective due to the material weakness in internal control over financial reporting as described below. Management’s report on internal control over financial reporting Our management is responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(e) of the Exchange Act). Management, with the participation of our Chief Executive Officer and Chief Financial Officer, has assessed the effectiveness of internal control over financial reporting as of December 31, 2022, based upon the framework in Internal Control- Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission, or COSO. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the Company’s annual or interim financial statements will not be prevented or detected on a timely basis. Based upon this evaluation and the material weakness identified below, our management concluded that our internal control over financial reporting was not effective as of December 31, 2022. Material Weakness in Internal Control We identified a material weakness related to Information Technology General Controls (ITGCs) that were not designed and operating effectively to ensure (i) appropriate segregation of duties was in place to perform program changes and (ii) the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted. The material weakness identified above did not result in any material misstatements in our financial statements or disclosures, and there were no changes to previously released financial results. Our management concluded that the consolidated financial statements included in this Annual Report on Form 10-K, present fairly, in all material respects, our financial position, results of operations, and cash flows for the periods presented in accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP. The effectiveness of our internal control over financial reporting as of December 31, 2022, has been audited by Marcum LLP as stated in their report, which is included in Item 8 of this Annual Report on Form 10-K. Remediation Plan Our management is committed to maintaining a strong internal control environment. In response to the identified material weakness above, management will take comprehensive actions to remediate the material weakness in internal control over financial reporting. We are in the process of developing and implementing remediation plans to address the material weakness described above. Changes in Internal Control over Financial Reporting Except for the items referred to above, there were no changes in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the quarter ended December 31, 2022 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting. Inherent Limitation on the Effectiveness of Internal Control Our management, including our Chief Executive Officer and Chief Financial Officer, do not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by 41 Table of Contents management override of the controls. The design of any system of controls is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with policies or procedures may deteriorate. Due to inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. ITEM 9B. OTHER INFORMATION None. ITEM 9C. DISCLOSURE REGARDING FOREIGN JURISDICTIONS THAT PREVENT INSPECTIONS Not applicable. 42 Table of Contents PART III ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2022 in connection with the solicitation of proxies for the Company’s 2023 annual meeting of stockholders and is incorporated herein by reference. ITEM 11. EXECUTIVE COMPENSATION The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2022 and is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS. EQUITY COMPENSATION PLAN INFORMATION The following table provides information as of December 31, 2022 regarding shares of common stock available for issuance under our equity incentive plans (in thousands except exercise price): Number of Number of Securities Securities to be Remaining Available Issued Upon Weighted for Future Issuance Exercise of Average Exercise Under Equity Outstanding Price of Compensation Plans Options, Outstanding (excluding securities Warrants Options, Warrants reflected in the first and Rights and Rights column) Plan Category 2005 Stock Option Plan (1) (2) 211 $ 0.20 — Warrants 99 2.40 — 2017 Stock Option Plan (3) 1,005 2.07 3,836 Total 1,315 $ 1.79 3,836 (1) All of these securities are available for issuance under the Zynex, Inc. 2005 Stock Option Plan, approved by the Board of Directors on January 3, 2005 and by our stockholders on December 30, 2005. (2) As of December 31, 2014, the 2005 Stock Option Plan was terminated. Termination of the plan did not affect the rights and obligations of the participants and the company arising under options previously granted. (3) The 2017 Stock Option Plan was approved by stockholders on June 1, 2017. The additional information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2022 and is incorporated herein by reference. 43 Table of Contents ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2022 and is incorporated herein by reference. The Board of Directors has determined that Messrs. Cress, Disbrow and Michaels who together comprise the Audit Committee, are all “independent directors” within the meaning of Rule 5605 of the NASDAQ Listing Rules. ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2022 and is incorporated herein by reference. 44 Table of Contents PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES Consolidated Financial Statements: Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting F-1 Report of Independent Registered Public Accounting Firm (Marcum LLP, New York, NY PCAOB firm ID 688 ) F-3 Report of Independent Registered Public Accounting Firm (Plante & Moran, PLLC, Denver, CO PCAOB firm ID 166 ) F-5 Consolidated Balance Sheets as of December 31, 2022 and 2021 F-6 Consolidated Statements of Income for the years ended December 31, 2022 and 2021 F-7 Consolidated Statements of Cash Flows for the years ended December 31, 2022 and 2021 F-8 Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2022 and 2021 F-9 Notes to Consolidated Financial Statements F-10 Exhibits: Exhibit Number Description 2.1 Asset Purchase Agreement, dated March 9, 2012, among Zynex NeuroDiagnostics, Inc., NeuroDyne Medical Corp. and the shareholders listed on Schedule A thereto (incorporated by reference to Exhibit 10.1 of the Company’s Current Report on Form 8-K filed on March 13, 2012) 3.1 Amended and Restated Articles of Incorporation (incorporated by reference to Exhibit 10.1 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 3.2 Amended and Restated Bylaws (incorporated by reference to Exhibit 10.2 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 4.1 Zynex, Inc 2017 Stock Incentive Plan (incorporated by reference to Exhibit 4.1 to the Company’s Report on form S-8 filed on September 6, 2017) 4.2 Description of registrant’s securities registered pursuant to Section 12 of the Securities Exchange Act of 1934 (incorporated by reference to Exhibit 4.2 to the Company’s Annual Report on Form 10-K filed on March 22, 2022) 10.1† 2005 Stock Option Plan (incorporated by reference to Exhibit 10.5 of the Company’s Annual Report on Form 10-KSB for the year ended December 31, 2004) 10.2† Form of Indemnification Agreement for directors and executive officers (incorporated by reference to Exhibit 10.3 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 10.3† Employment agreement for Daniel J. Moorhead dated June 5, 2017 (incorporated by reference of Exhibit 10.1 to the Company’s Report on Form 8K filed on June 8, 2017) 10.4 Office Lease, effective October 20, 2017, between CSG Systems, Inc. and Zynex Medical, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on October 26, 2017). 10.5 Zynex, Inc. Non-Employee Director Compensation Plan (incorporated by reference to Exhibit 10.1 to the Company’s Report on Form 8-K filed on January 11, 2018) 10.6 Equity Distribution Agreement, dated October 29, 2019 between Zynex, Inc. and Piper Jaffray & Co. (incorporated by reference to Exhibit 1.1 of the Company’s Current Report on Form 8-K filed on October 29, 2019) 45 Table of Contents Exhibit Number Description 10.7 Amendment to Sublease Agreement, effective January 3, 2020, between CSG Systems, Inc. and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on January 7, 2020 10.8 Underwriting Agreement dated July 14, 2020, among certain selling stockholders, Piper Sandler & Co., and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on July 17, 2020) 10.9 Lease Agreement, effective September 30, 2020, between GIG CW Compark, LLC and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on October 6, 2020). 10.10 Sublease Agreement between Zynex, Inc. and Cognizant Trizetto Software Group, Inc. dated April 8, 2021 (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on April 9, 2021) 10.11 Stock Purchase Agreement by and among Kestrel Labs, Inc., Zynex Monitoring Solutions Inc., Zynex, Inc. and Selling Shareholders named herein dated as of December 22, 2021 (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on December 23, 2021) 10.12 The Loan Agreement and accompanying documents dated December 22, 2021 among Bank of America N.A., Zynex Medical, Inc., and Zynex Monitoring Solutions (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on December 30, 2021) 46 Table of Contents Exhibit Number Description 21* Subsidiaries of the Company 23.1* Consent of Marcum LLP, Independent Registered Public Accounting Firm (Filed herewith) 23.2* Consent of Plante & Moran, PLLC, Independent Registered Public Accounting Firm (Filed herewith) 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1* Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2* Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB* XBRL Taxonomy Label Linkbase Document 101.PRE* XBRL Presentation Linkbase Document 101.DEF* XBRL Taxonomy Extension Definition Linkbase Document 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith † Denotes management contract or compensatory plan or arrangement ITEM 16. FORM 10-K SUMMARY None. 47 Table of Contents SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ZYNEX, INC. Date: March 13, 2023 By : /s/ Thomas Sandgaard Thomas Sandgaard Chairman, President, Chief Executive Officer and Principal Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Date Name and Title Signature March 13, 2023 Thomas Sandgaard, /s/ Thomas Sandgaard Chairman, President, Chief Executive Officer and Principal Executive Officer March 13, 2023 Daniel Moorhead /s/ Daniel Moorhead Chief Financial Officer and Principal Financial Officer March 13, 2023 Barry D. Michaels /s/ Barry D. Michaels Director March 13, 2023 Michael Cress /s/ Michael Cress Director March 13, 2023 Joshua R. Disbrow /s/ Joshua R. Disbrow Director 48 Table of Contents Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting To the Shareholders and Board of Directors of Zynex, Inc. Adverse Opinion on Internal Control over Financial Reporting We have audited Zynex, Inc. ’s (the “Company”) internal control over financial reporting as of December 31, 2022 , based on criteria established in Internal Control-Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. In our opinion, because of the effect of the material weaknesses described in the following paragraph on the achievement of the objectives of the control criteria, the Company has not maintained effective internal control over financial reporting as of December 31 2022, based on criteria established in Internal Control-Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. A material weakness is a control deficiency, or combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the Company’s annual or interim financial statements will not be prevented or detected on a timely basis. The following material weaknesses have been identified and included in “ Management’s Annual Report on Internal Control Over Financial Reporting”: IT General Controls (“ITGC”), deficiencies were identified Information technology general controls (ITGCs) were not designed and operating effectively to ensure (i) that appropriate segregation of duties was in place to perform program changes and (ii) that the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted This material weakness was considered in determining the nature, timing and extent of audit tests applied in our audit of the fiscal December 31, 2022 consolidated financial statements, and this report does not affect our report dated March 13, 2023 on those financial statements. We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the consolidated balance sheets as of December 31, 2022 and the related consolidated statements of income, shareholders’ equity, and cash flows for the December 31, 2022 of the Company and our report dated March 13, 2023 expressed an unqualified opinion on those financial statements. Basis for Opinion The Company’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying “Management Annual Report on Internal Control Over Financial Reporting”. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. F-1 Table of Contents Definition and Limitations of Internal Control over Financial Reporting A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of the inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that degree of compliance with the policies or procedures may deteriorate. Marcum llp New York March 13, 2023 F-2 Table of Contents Report of Independent Registered Public Accounting Firm To the Shareholders and Board of Directors of Zynex Inc. Opinion on the Financial Statements We have audited the accompanying consolidated balance sheet of Zynex Medical, Inc. (the “Company”) as of December 31, 2022, the related consolidated statements of income , stockholders’ equity and cash flows for the one year in the period ended December 31, 2022, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2022, and the results of its operations and its cash flows for each of the year in the period ended December 31, 2022, in conformity with accounting principles generally accepted in the United States of America. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the Company’s internal control over financial reporting as of December 31, 2022, based on the criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in 2013 and our report dated March 13, 2023 , expressed an adverse opinion on the effectiveness of the Company’s internal control over financial reporting because of the existence of material weaknesses. Basis for Opinion These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audit included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audit also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audit provide a reasonable basis for our opinion. Critical Audit Matters The critical audit matters communicated below are matters arising from the current period audit of the financial statements that were communicated or required to be communicated to the audit committee and tha (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate. Estimation of Transaction Price and Variable Consideration for Revenue Recognition including related Valuation of Accounts Receivable Critical Audit Matter Description The Company’s revenue is derived from sales and leases of electrotherapy devices and sales of related supplies and complementary products. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. The Company estimates revenues using the portfolio approach based upon historical rates of collection, aging of receivables, product mix, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated variable consideration and relevant constraints for third-party payer refund requests, deductions and adjustments. F-3 Table of Contents We identified the Company’s estimation of transaction price related to variable consideration for revenue recognition, including the related valuation of accounts receivable, as a critical audit matter. Auditing the Company's determination of variable consideration and the related constraint for revenue recognition including the recorded value for accounts receivable was challenging and complex due to the high degree of subjectivity involved in evaluating management’s estimates. This required a high degree of auditor judgment and increased extent of effort to audit and evaluate management’s key judgments. How the Critical Audit Matter Was Addressed in the Audit Our audit procedures related to revenue recognition and accounts receivable include the following, among othe · We gained an understanding of the design of the controls over the Company ’ s contracts with customers including those controls over the processes to develop key management estimates. · We performed testing throughout the year on a sample of contracts to test the validity of sales transactions and cash receipts application. · We evaluated the significant assumptions and the accuracy and completeness of the underlying data used in management ’ s calculations, including evaluating management ’ s estimate of historical reimbursement experience as well as expected future payment behavior through a combination of underlying data validation by inspection of source documents, independent recalculation of management ’ s analysis, review of correspondence with third-party payers, inquiries with management and evaluation of trends in collection rates and refund requests. · We performed independent sensitivity analyses over the Company's significant assumptions embodied within their key estimates including evaluation of subsequent payment activity compared with management ’ s estimate of expected collection rates. /s/ Marcum LLP Marcum LLP We have served as the Company’s auditor since 2022. New York, NY March 13, 2023 F-4 Table of Contents Report of Independent Registered Public Accounting Firm To the Stockholders and Board of Directors of Zynex, Inc. Opinion on the Financial Statements We have audited the accompanying consolidated balance sheet of Zynex, Inc. (the “Company”) as of December 31, 2021 and the related consolidated statements of income, stockholders' equity, and cash flow for the year ended December 31, 2021, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2021, and the results of its operations and its cash flows for the year ended December 31, 2021, in conformity with accounting principles generally accepted in the United States of America. Basis for Opinion The Company's management is responsible for these financial statements. Our responsibility is to express an opinion on the Company’s financial statements based on our audit. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company was not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audit, we were required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. Our audit included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audit also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audit provides a reasonable basis for our opinion. /s/ Plante & Moran, PLLC We served as the Company’s auditor from 2016-2022. Denver, Colorado March 21, 2022 F-5 Table of Contents ZYNEX, INC. CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) December 31, December 31, 2022 2021 ASSETS Current assets: Cash $ 20,144 $ 42,612 Accounts receivable, net 35,063 28,632 Inventory, net 13,484 10,756 Prepaid expenses and other 868 689 Total current assets 69,559 82,689 Property and equipment, net 2,175 2,186 Operating lease asset 12,841 16,338 Finance lease asset 270 389 Deposits 591 585 Intangible assets, net of accumulated amortization 9,067 9,975 Goodwill 20,401 20,401 Deferred income taxes 1,562 711 Total assets $ 116,466 $ 133,274 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable and accrued expenses 5,601 4,739 Cash dividends payable 16 3,629 Operating lease liability 2,476 2,859 Finance lease liability 128 118 Income taxes payable 1,995 2,296 Current portion of debt 5,333 5,333 Accrued payroll and related taxes 5,537 3,897 Total current liabilities 21,086 22,871 Long-term liabiliti Long-term portion of debt, less issuance costs 5,293 10,605 Contingent consideration 10,000 9,700 Operating lease liability 13,541 15,856 Finance lease liability 188 317 Total liabilities 50,108 59,349 Commitments and contingencies (Note 13) Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of December 31, 2022 and December 31, 2021 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,658,132 issued and 36,825,081 outstanding as of December 31, 2022 41,400,834 issued and 39,737,890 outstanding as of December 31, 2021 (including 3,606,970 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 39 41 Additional paid-in capital 82,431 80,397 Treasury stock of 4,253,015 and 1,246,399 shares, at December 31, 2022 and 2021, respectively, at cost ( 33,160 ) ( 6,513 ) Retained earnings 17,048 — Total stockholders’ equity 66,358 73,925 Total liabilities and stockholders’ equity $ 116,466 $ 133,274 See accompanying notes to consolidated financial statements. F-6 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) YEARS ENDED DECEMBER 31, 2022 AND 2021 For the Years Ended December 31, 2022 2021 NET REVENUE Devices $ 43,497 $ 36,613 Supplies 114,670 93,688 Total net revenue 158,167 130,301 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 32,005 27,321 Sales and marketing 67,116 54,290 General and administrative 36,108 26,324 Total costs of revenue and operating expenses 135,229 107,935 Income from operations 22,938 22,366 Other expense Loss on change in fair value of contingent consideration ( 300 ) — Interest expense ( 440 ) ( 95 ) Other expense, net ( 740 ) ( 95 ) Income from operations before income taxes 22,198 22,271 Income tax expense 5,150 5,168 Net income $ 17,048 $ 17,103 Net income per sh Basic $ 0.44 $ 0.45 Diluted $ 0.44 $ 0.44 Weighted average basic shares outstanding 38,467 38,317 Weighted average diluted shares outstanding 39,127 39,197 See accompanying notes to consolidated financial statements. F-7 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) YEARS ENDED DECEMBER 31, 2022 AND 2021 For the Years Ended December 31, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 17,048 $ 17,103 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation 2,197 2,261 Amortization 930 25 Non-cash reserve charges 82 ( 107 ) Stock-based compensation 2,342 1,630 Non-cash lease expense 800 1,398 Loss on change in fair value of contingent consideration 300 — Benefit for deferred income taxes ( 851 ) ( 146 ) Change in operating assets and liabilities, net of the effects of acquisitio Accounts receivable ( 6,430 ) ( 14,781 ) Prepaid and other assets ( 180 ) 690 Accounts payable and other accrued expenses 1,834 2,889 Inventory ( 4,320 ) ( 3,776 ) Deposits ( 6 ) ( 237 ) Net cash provided by operating activities 13,746 6,949 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 418 ) ( 609 ) Business acquisition, net of cash acquired — ( 15,997 ) Net cash used in investing activities ( 418 ) ( 16,606 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 118 ) ( 98 ) Cash dividends paid ( 3,613 ) ( 1 ) Purchase of treasury stock ( 26,426 ) ( 2,667 ) Debt issuance costs — ( 16 ) Proceeds from the issuance of common stock on stock-based awards 46 161 Proceeds from debt — 15,953 Principal payments on long-term debt ( 5,333 ) — Taxes withheld and paid on employees' equity awards ( 352 ) ( 236 ) Net cash (used in) provided by financing activities ( 35,796 ) 13,096 Net increase (decrease) in cash ( 22,468 ) 3,439 Cash at beginning of period 42,612 39,173 Cash at end of period $ 20,144 $ 42,612 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 391 ) $ ( 82 ) Cash paid for rent $ ( 3,622 ) $ ( 2,109 ) Cash paid for income taxes $ ( 6,294 ) $ ( 3,305 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 211 $ 13,240 Right-of-use assets obtained in exchange for new finance lease liabilities $ — $ 175 Inventory transferred to property and equipment under lease $ 1,592 $ 1,587 Capital expenditures not yet paid $ 138 $ 47 Treasury stock not yet paid $ 224 $ — Accrual for cash dividend payable $ — $ 3,622 Contingent consideration related to acqusition $ — $ 9,700 Stock issued for acquisition $ — $ ( 4,701 ) Stock dividend $ — $ ( 36,911 ) See accompanying notes to consolidated financial statements. F-8 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY YEARS ENDED DECEMBER 31, 2022 AND 2021 (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2020 38,244,310 $ 36 $ 37,235 $ ( 3,846 ) $ 23,430 $ 56,855 Exercised and vested stock-based awards 234,388 1 160 — — 161 Warrants exercised 11,000 — — — — — Stock-based compensation expense — — 1,630 — — 1,630 Shares of common stock withheld to pay taxes on employees’ equity awards ( 44,414 ) — ( 236 ) — — ( 236 ) Purchase of treasury stock ( 175,179 ) — — ( 2,667 ) — ( 2,667 ) Stock issued for acquisition 489,262 — 4,701 — — 4,701 Escrow shares issued for acquisition 978,523 — — — — — Cash dividends declared ($ 0.10 per share) — — — — ( 3,622 ) ( 3,622 ) Stock dividends declared — 4 36,907 — ( 36,911 ) — Net income — — — — 17,103 17,103 Balance at December 31, 2021 39,737,890 $ 41 $ 80,397 $ ( 6,513 ) $ — $ 73,925 Exercised and vested stock-based awards 322,237 1 45 — — 46 Stock-based compensation expense — — 2,342 — — 2,342 Shares of common stock withheld to pay taxes on employees’ equity awards ( 83,201 ) — ( 353 ) — — ( 353 ) Purchase of treasury stock ( 3,006,616 ) ( 3 ) — ( 26,647 ) — ( 26,650 ) Escrow shares adjustment ( 156,673 ) — — — — — Stock dividend adjustments 11,444 — — — — — Net income — — — — 17,048 17,048 Balance at December 31, 2022 36,825,081 $ 39 $ 82,431 $ ( 33,160 ) $ 17,048 $ 66,358 See accompanying notes to consolidated financial statements. F-9 Table of Contents ZYNEX, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 2022 AND 2021 (1) ORGANIZATION, NATURE OF BUSINESS Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of December 31, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Kestrel Labs, Inc. (“Kestrel,” a wholly-owned Colorado corporation), Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100 % of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO™ CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx™, a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. Food and Drug Administration (“FDA”) for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on drugs and medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All of our medical devices are designed to be patient friendly and designed for home use. Our devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of our medical devices are marketed in the U.S. and are subject to FDA regulation and approval. Our products require a physician’s prescription before they can be dispensed in the U.S. Our primary product is the NexWave device. The NexWave is marketed to physicians and therapists by our field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the years ended December 31, 2022, and 2021, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and health care providers. The Company declared a 10 % stock dividend on November 9, 2021, which was effective on January 21, 2022. Except as otherwise indicated, all related amounts reported in the consolidated financial statements, including common share quantities, earnings per share amounts and exercise prices of options, have been retroactively adjusted for the effect of this stock dividend. (2) SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. F-10 Table of Contents Use of Estimates Preparation of financial statements in conformity with generally accepted accounting principles in the United States of America (“GAAP”), requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying consolidated financial statements are associated with the expected net collectable value of its accounts receivable and related revenue, inventory reserves, the life of its leased unit devices, stock-based compensation, valuation of long-lived assets acquired in business combinations, valuation of contingent consideration and realizability of deferred tax assets. Fair Value of Financial Instruments The Company’s financial instruments include cash, accounts receivable, accounts payable and accrued liabilities. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at fair value which approximates book value as the long-term debt bears market rates of interest. The Company classifies contingent consideration liabilities related to business acquisitions within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. The Company estimates the fair value of contingent consideration liabilities using a Monte Carlo simulation. Changes in the fair value of contingent liabilities in subsequent periods are recorded as a loss (gain) in the statements of operations. Cash The Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. Short-term investments include investments with maturities greater than three months, but not exceeding 12 months, or highly liquid investments with maturities greater than 12 months that the Company intends to liquidate during the next 12 months for working capital needs. Accounts Receivable, Net The Company’s accounts receivables represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company bills the patient’s third-party payer or the patient. Billing adjustments represent the difference between the list prices and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written off after several appeals, which in some cases may take longer than twelve months. Primarily all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a small portion related to private pay individuals, attorney and auto claims. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. Following are the components of inventory as of December 31, 2022 and 2021: December 31, 2022 December 31, 2021 Raw materials $ 3,506 $ 4,471 Work-in-process 1,205 345 Finished goods 7,750 4,468 Inventory in transit 1,291 1,624 $ 13,752 $ 10,908 L reserve ( 268 ) ( 152 ) $ 13,484 $ 10,756 F-11 Table of Contents The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories equal to the difference between the costs of inventories on hand and the estimated market value based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Property and equipment is recorded at cost. Repairs and maintenance expenditures are charged to expense as incurred. We compute depreciation expense on a straight-line basis over the estimated useful lives of the assets as follows: Classification Estimated Useful Life Office furniture and equipment 5 to 7 years Assembly equipment 7 years Vehicles 5 years Leasehold improvements Shorter of useful life or term of lease Leased devices 9 months Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For our finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For our operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on our Consolidated Balance Sheets. For additional information on our leases where the Company is the lessee, see Note 11- Leases. F-12 Table of Contents A significant portion of our device revenue is derived from patients who obtain our devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with Accounting Standards Codification (“ASC”) 842, Leases. Using the guidance in ASC 842, we concluded our transactions should be accounted for as operating leases based on the following criteri ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since our leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when control is deemed to have transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. The following table provides a breakdown of net revenue related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606”) and leases subject to ASC 842 (in thousands): For the Years Ended December 31, 2022 2021 Device revenue Purchased $ 14,393 $ 9,240 Leased 29,104 27,373 Total device revenue 43,497 36,613 Supplies revenue 114,670 93,688 Total revenue $ 158,167 $ 130,301 F-13 Table of Contents Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing in the future. The Company tests goodwill at least annually for impairment. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Advertising and Marketing Costs Advertising and marketing costs are expensed as incurred. Advertising and marketing costs are included in Sales and marketing expense in the Company's Consolidated Statements of Income. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision-Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. F-14 Table of Contents Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved. Earnings Per Share The Company calculates basic earnings per share on the basis of the weighted-average number of shares of common stock outstanding during the period. Diluted earnings per share is calculated using the weighted-average number of shares of common stock outstanding for the period plus the effect of potential dilutive common shares during the period using the treasury stock method. Potential shares of common stock outstanding include unvested restricted stock awards, shares held in escrow, vested and unvested unexercised stock options and common stock purchase warrants. Research and Development Research and development costs are expensed when incurred. During 2022 and 2021, we incurred research and development expenses of approximately $ 7.1 million and $ 2.6 million, respectively, related to our ZMS operations. During 2022, approximately $ 1.0 million of the expenses qualified for Section 174 - “Amortization of Research and Experimental Expenditures” tax treatment. Research and development, which includes salaries related to research and development and raw materials, are included in general and administrative expenses on the consolidated statements of comprehensive income. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. Recently Issued Accounting Pronouncements In August 2020, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2020-06, Debt — Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging — Contracts in Entity’s Own Equity (Subtopic 815-40) (“ASU 2020-06”) to simplify accounting for certain financial instruments. ASU 2020-06 eliminates the current models that require separation of beneficial conversion and cash conversion features from convertible instruments and simplifies the derivative scope exception guidance pertaining to equity classification of contracts in an entity’s own equity. The new standard also introduces additional disclosures for convertible debt and freestanding instruments that are indexed to and settled in an entity’s own equity. ASU 2020-06 amends the diluted earnings per share guidance, including the requirement to use the if-converted method for all convertible instruments. ASU 2020-06 is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years, with early adoption permitted. The Company adopted ASU 2020-06 effective as of January 1, 2022. The adoption of ASU 2020-06 did not have an impact on the Company’s consolidated financial statements. F-15 Table of Contents In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) (“ASU 2016-13”), Measurement of Credit Losses on Financial Instruments. The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren’t measured at fair value through net income. The standard will replace today’s “incurred loss” approach with an “expected loss” model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. This ASU is effective for annual periods beginning after December 15, 2022, and interim periods therein for smaller reporting companies. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Company adopted this standard during the quarter ended June 30, 2022. The primary instrument that needed to be evaluated was the Company’s trade receivables and the impact was not material. Management has evaluated other recently issued accounting pronouncements and does not believe that those pronouncements will have a material impact on the Company’s consolidated financial statements. (3) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel Labs, Inc. (“Kestrel”) and each of the shareholders of Kestrel (collectively, the “Selling Shareholders”). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to ZMS. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,467,785 , (as adjusted pursuant to the stock dividend, see note 1) shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 978,524 of the Zynex Shares were deposited in escrow (the “Escrow Shares”). The number of Escrow Shares is subject to adjustment on the one-year anniversary of the Closing Date based on the number of shares equal to $ 10 million divided by a 30 -day volume weighted average closing price of the Zynex common stock. The Escrow Shares were adjusted on the anniversary date, which resulted in the cancellation of 156,673 Escrow Shares. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the Food and Drug Administration (the “FDA”) for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon notification from the FDA finding the Device can be marketed and sold in the United States. The amount of escrow shares were recalculated at December 31, 2021, and are included in the calculation of diluted earnings per share for December 31, 2021. No additional calculation was required for the Escrow Shares at December 31, 2022, as the Escrow Share number was finalized on the anniversary date, and the shares are included in the Company’s calculation of basic earnings per share. The maximum amount of Zynex shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares. The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. Summary of Purchase Consideration Presented below is a summary of the total purchase consideration for the Kestrel business combinations (in thousands except share data): Shares (1) Fair Value Cash Total Closing date cash — $ — $ 16,000 $ 16,000 Working capital distribution — — 78 78 Total cash paid — $ — $ 16,078 $ 16,078 Closing date equity Issued shares 444,784 4,701 — 4,701 Escrow shares 889,566 9,700 — 9,700 Total equity 1,334,350 $ 14,401 $ — $ 14,401 Total consideration 1,334,350 $ 14,401 $ 16,078 $ 30,479 F-16 Table of Contents (1) The amount of shares issued and included in escrow were not retroactively adjusted in the table above for the 10 % stock dividend declared on November 9, 2021 and issued on January 21, 2022. The issued and escrow shares after retroactive adjustment for the 10 % stock dividend were 489,262 and 978,523 shares, respectively, as shown in the Consolidated Statements of Stockholders’ Equity. Purchase Price Allocations Presented below is a summary of the purchase price allocations for the Kestrel business combinations on the acquisition date (in thousands): Purchase Price Allocation Current assets: Cash $ 80 Accounts receivable 15 Prepaid expenses and other 1 Total current assets $ 96 Long-term assets: Identifiable intangible assets 10,000 Total assets acquired $ 10,096 Less liabilities assu Accounts payable ( 18 ) Net identifiable assets acquired 10,078 Goodwill 20,401 Net assets acquired $ 30,479 The fair value of the identifiable intangibles assets is primarily related to patents which will be amortized over a useful life of 11 years . The excess of the purchase price over the fair value of the net assets acquired was recorded as goodwill. The goodwill is attributable to the benefits the Company expects to realize by enhancing its product offering and addressable markets, thereby contributing to an expanded revenue base. (4) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): December 31, 2022 December 31, 2021 Property and equipment Office furniture and equipment $ 2,819 $ 2,391 Assembly equipment 110 100 Vehicles 203 203 Leasehold improvements 1,173 1,054 Leased devices 1,162 1,080 $ 5,467 $ 4,828 Less accumulated depreciation ( 3,292 ) ( 2,642 ) $ 2,175 $ 2,186 The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units of which are still with patients for which the Company cannot determine the current status. Total depreciation expense related to our purchased property and equipment was $ 0.7 million and $ 0.9 million for the years ended December 31, 2022 and 2021, respectively. F-17 Table of Contents Total depreciation expense related to devices out on lease was $ 1.5 million and $ 1.4 million for the years ended December 31, 2022 and 2021, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. (5) GOODWILL AND OTHER INTANGIBLES During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 3). As of December 31, 2022, there was no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of December 31, 2022. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents $ 10,000 $ ( 933 ) $ 9,067 10.0 The following table summarizes the estimated future amortization expense to be recognized over the next years and periods thereaf December 31, (In thousands) 2023 $ 908 2024 911 2025 908 2026 908 2027 908 Thereafter 4,524 Total future amortization expense $ 9,067 (6) EARNINGS PER SHARE The calculation of basic and diluted earnings per share for the years ended December 31, 2022 and 2021 are as follows (in thousands, except per share data): For the Years Ended December 31, 2022 2021 Basic earnings per share Net income available to common stockholders $ 17,048 $ 17,103 Basic weighted-average shares outstanding 38,467 38,317 Basic earnings per share $ 0.44 $ 0.45 Diluted earnings per share Net income available to common stockholders $ 17,048 $ 17,103 Weighted-average shares outstanding 38,467 38,317 Effect of dilutive securities - options and restricted stock 660 880 Diluted weighted-average shares outstanding 39,127 39,197 Diluted earnings per share $ 0.44 $ 0.44 F-18 Table of Contents For the years ended December 31, 2022 and 2021, 0.1 million and 0.4 million shares of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. The basic and diluted weighted-average shares outstanding for December 31, 2021 has been updated to include the retroactive impact of the 10 % common stock dividend declared on November 11, 2021. (7) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”). Under this Loan Agreement, the Bank is extending two facilities to the Borrowers. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). The Borrower pays interest on Facility 1 on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the Bloomberg Short-term Bank Yield Index (“BSBY”) Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of December 31, 2022, the Company has not utilized this facility and has no balance outstanding. The other facility being extended by the Bank to the Borrower is a fixed rate term loan in the amount of $ 16.0 million (“Facility 2”) bearing interest at 2.8 % per year. The Borrower pays interest on the first day of each month beginning January 1, 2022 and the Borrower repays the principal amount in equal installments of $ 0.4 million per month through December 1, 2024. Facility 2 was entered into in conjunction with the purchase of Kestrel Labs. The following table summarizes future principal payments on long-term debt as of December 31, 2022: December 31, (In thousands) 2023 5,333 2024 5,334 Future principal payments 10,667 Less current portion ( 5,333 ) Less debt issuance costs ( 41 ) Long-term debt, net of debt issuance costs $ 5,293 (8) STOCK-BASED COMPENSATION PLANS Zynex, Inc. 2017 Stock Incentive Plan The Company currently has one active long-term incentive plan. The Company’s 2017 Stock Incentive Plan (the “2017 Stock Plan”) is the Company’s equity compensation plan and provides for grants of stock-based awards to employees, directors and other individuals providing services to the Company. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. The 2017 Stock Plan mandates a maximum award term of 10 years and stipulates that stock options be granted with prices not less than fair market value on the date of grant. Stock option awards generally vest over four years . Restricted stock awards typically vest quarterly over three years for grants issued to members of our Board of Directors and quarterly or annually over two to four years for grants issued to employees. For stock option awards, all awards granted under the 2017 Stock Plan are stock-settled with common stock issued upon exercise. For restricted stock awards, shares are issued to the recipient upon grant with a restrictive legend and are not included in the calculation of outstanding shares until vesting occurs. At December 31, 2022, there were 3.8 million shares available for future grants under the 2017 Stock Plan. Zynex, Inc. 2005 Stock Option Plan The 2005 Stock Option Plan (the “2005 Stock Plan”) expired as of December 31, 2014. Vesting provisions of the expired plan were to be determined by the Board of Directors. All stock options under the 2005 Stock Plan expire no later than ten years from the date of grant. Options granted in 2015, 2016 and through May 2017 prior to the approval of the 2017 Stock Incentive Plan were approved and certified by the board of directors on September 6, 2017 under the existing 2005 Stock Plan. F-19 Table of Contents As of December 31, 2022, the Company had the following stock options outstanding and exercisab Outstanding Number of Options Exercisable Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 211 211 2017 Stock Option Plan 582 346 Total 793 557 The Company received $ 0.1 million cash proceeds related to option exercises during the year ended December 31, 2022. The Company received cash proceeds of $ 0.2 million related to option exercises during the year ended December 31, 2021. During the year ended December 31, 2022, 0.2 million performance based stock option awards were granted under the 2017 Stock Plan. During the year ended December 31, 2021, no stock option awards were granted under the 2017 Stock Plan. The Company used the Black Scholes option pricing model to determine the fair value of stock option grants, using the following assumptions during the year ended December 31, 2022. Weighted average expected term 3 years Weighted average volatility 73 % Weighted average risk-free interest rate 2.81 % Dividend yield 0 % The weighted average expected term of stock options represents the period of time that the stock options granted are expected to be outstanding based on historical exercise trends. The weighted average expected volatility is based on the historical price volatility of the Company’s common stock. The weighted average risk-free interest rate represents the U.S. Treasury bill rate for the expected term of the related stock options. The dividend yield represents the Company’s anticipated cash dividend over the expected term of the stock options. Forfeitures are accounted for as they occur. The following table summarizes stock-based compensation expenses recorded in the condensed consolidated statements of operations (in thousands): For the Years Ended December 31, 2022 2021 Cost of Revenue $ 47 $ 56 Sales and marketing expense 2,104 155 General, and administrative 191 1,419 Total stock based compensation expense $ 2,342 $ 1,630 The excess tax benefit associated with our stock-based compensation plans for the years ended December 31, 2022 and 2021, was approximately $ 0.0 million and $ 0.2 million, respectively. F-20 Table of Contents A combined summary of stock option activity for all plans for the years ended December 31, 2022 and 2021 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Shares Strike Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding at December 31, 2020 1,107 $ 2.76 Granted — $ — Exercised ( 116 ) $ 4.87 Forfeited ( 226 ) $ 6.45 Outstanding at December 31, 2021 765 $ 1.36 4.68 $ Granted 200 $ 6.23 Exercised ( 157 ) $ 0.66 Forfeited ( 15 ) $ 4.18 Outstanding at December 31, 2022 793 $ 2.67 5.03 $ Exercisable at December 31, 2022 557 $ 1.31 3.40 $ Outstanding Weighted average Number of Remaining Weighted Average Options Contractual Weighted Average Exercisable Number of Remaining Exercisable Exercisable Range (in thousands) Life (years) Strike Price Options (in thousands) Contractual Life (years) Strike Price $ 0 to $ 2.00 354 2.31 $ 0.30 354 2.31 $ 0.30 $ 2.01 to $ 4.00 217 5.56 $ 2.69 187 5.48 $ 2.65 $ 4.01 to $ 10.00 222 8.86 $ 6.45 15 3.23 $ 8.33 793 5.03 $ 2.67 557 3.40 $ 1.31 A summary of our unvested stock options as of December 31, 2022 and 2021 and related activity is presented be Non-vested Shares Weighted Under Average Option Grant Date (in thousands) Fair Value Non-vested at December 31, 2020 474 $ 4.35 Granted — — Vested ( 167 ) 1.93 Forfeited ( 212 ) 6.48 Non-vested at December 31, 2021 95 $ 3.85 Granted 200 6.23 Vested ( 49 ) 4.12 Forfeited ( 9 ) 5.49 Non-vested at December 31, 2022 237 $ 5.90 F-21 Table of Contents A summary of restricted stock award activity under the 2017 Stock Plan for the years ended December 2022 and 2021 are presented be Number of Shares Weighted Average (in thousands) Grant Date Fair Value Outstanding at December 31, 2020 295 $ 11.53 Granted 381 $ 14.15 Vested ( 119 ) $ 10.92 Forfeited ( 103 ) $ 12.40 Outstanding at December 31, 2021 454 $ 13.69 Granted 186 $ 8.52 Vested ( 165 ) $ 12.90 Forfeited ( 52 ) $ 10.60 Outstanding at December 31, 2022 423 $ 11.94 The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on the Restricted Stock Awards typically occurs quarterly over three years for the Board of Directors and quarterly or annually over two to four years for employees. As of December 31, 2022, there was approximately $ 4.3 million of total unrecognized compensation costs related to unvested stock options and restricted stock. These costs are expected to be recognized over a weighted average period of 2.3 years. The total intrinsic value of stock option exercises for the years ended December 31, 2022 and 2021 was $ 1.1 million and $ 1.0 million, respectively. The total fair value of restricted stock awards vested during the years ended December 31, 2022 and 2021 was $ 1.4 million and $ 1.3 million, respectively. (9) STOCKHOLDERS’ EQUITY Common Stock Dividend The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Treasury Stock On March 8, 2021, our Board of Directors approved a program to repurchase up to $ 10.0 million of our common stock at prevailing market prices either in the open market or through privately negotiated transactions through September 8, 2021. From the inception of the plan through September 8, 2021, the Company purchased 175,179 shares of our common stock for $ 2.7 million or an average price of $ 15.22 per share. On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through October 4, 2022, the Company purchased 1,091,604 shares of its common stock for $ 10.0 million for an average price of $ 9.06 per share which completed this program. F-22 Table of Contents On October 31, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through October 31, 2023. From the inception of the plan through December 31, 2022, the Company purchased 495,138 shares of its common stock for $ 6.6 million or an average price of $ 13.43 per share. Subsequent to December 31, 2022, the Company purchased 232,698 shares of its common stock for an average price of $ 14.41 per share which completed this program. Warrants A summary of stock warrant activity for the years ended December 31, 2022 and 2021 are presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding at December 31, 2020 110 $ 2.39 3.76 $ 1,084 Granted — $ — Exercised ( 10 ) $ 2.27 2.76 192 Forfeited (1) ( 1 ) $ 2.27 2.76 25 Outstanding and exercisable at December 31, 2021 99 $ 2.39 2.76 $ 660 Granted — $ — Exercised — $ — — — Forfeited — $ — — — Outstanding and exercisable at December 31, 2022 99 $ 2.39 1.76 $ 1,140 (1) Warrants were exercised under a net exercise provision in the warrant agreement. As a result, approximately 1,000 warrants were forfeited in lieu of cash payment for shares during 2021. (10) INCOME TAXES The pre-tax income from continuing operations on which the provision for income taxes was computed is as follows (in thousands) 2022 2021 United States $ 22,220 $ 22,295 Foreign ( 22 ) ( 24 ) Total 22,198 22,271 Income tax expense consists of the following for the years ended December 31, 2022 and 2021 (in thousands): 2022 2021 Current tax expense: Federal $ 4,891 $ 4,289 State 1,110 1,025 Total tax expense: 6,001 5,314 Deferred tax expense/(benefit) Federal ( 730 ) ( 135 ) State ( 121 ) ( 11 ) Total deferred tax expense/(benefit) $ ( 851 ) $ ( 146 ) Total $ 5,150 $ 5,168 F-23 Table of Contents A reconciliation of income tax computed at the U.S. statutory rate of 21 % to the effective income tax rate is as follows: 2022 2021 Statutory rate 21 % 21 % State taxes 3 % 4 % Stock based compensation 0 % ( 1 ) % Research and development credit ( 1 ) % 0 % Effective rate 23 % 24 % The tax effects of temporary differences that give rise to deferred tax assets (liabilities) at December 31, 2022 and 2021 are as follows (in thousands): 2022 2021 Deferred tax assets: Accrued expenses $ 31 $ 26 Lease liability 3,955 4,620 Accounts receivable 18 18 Inventory 198 484 Stock based compensation 253 271 Right of use asset — 8 Amortization — 90 Section 174 costs 991 — 5,446 5,517 Deferred tax assets $ 5,446 $ 5,517 Deferred tax liabiliti Property and equipment ( 519 ) ( 599 ) Finance lease ( 67 ) ( 96 ) Prepaid expenses ( 116 ) ( 77 ) Right-of-use asset ( 3,170 ) ( 4,034 ) Amortization ( 12 ) — Deferred tax liabilities $ ( 3,884 ) $ ( 4,806 ) Net deferred tax assets $ 1,562 $ 711 As of December 31, 2022, the Company has no net operating loss. The Company had no recorded valuation allowances at December 31, 2022 and 2021. The accounting standard related to income taxes applies to all tax positions and defines the confidence level that a tax position must meet in order to be recognized in the financial statements. The accounting standard requires that the tax effects of a position be recognized only if it is “more-likely-than-not” to be sustained by the taxing authority as of the reporting date. If a tax position is not considered “more-likely-than-not” to be sustained, then no benefits of the position are to be recognized. Differences between financial and tax reporting which do not meet this threshold are required to be recorded as unrecognized tax benefits. This standard also provides guidance on the presentation of tax matters and the recognition of potential interest and penalties. As of December 31, 2022 and 2021, the Company does not have an unrecognized tax liability. The Company does not classify penalty and interest expense related to income tax liabilities as an income tax expense. Penalties and interest are included within general and administrative expenses on the consolidated statements of income. The Company files income tax returns in the U.S. and various state jurisdictions, and there are open statutes of limitations for taxing authorities to audit our tax returns from 2017 through the current period. F-24 Table of Contents (11) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During March 2022, the Company entered into a lease agreement for approximately 4,162 square feet of office space for the operations of ZMS in Boulder, Colorado. The lease began on April 1, 2022 and will run through April 1, 2025. The rent and common area maintenance charges are equal to $ 17.00 per square foot with annual increases of 3 % . Upon lease commencement, the Company recorded an operating lease liability and corresponding right-of-use asset for $ 0.2 million each. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.03 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.39 % which was used to measure its finance lease liability. As of December 31, 2022, the Company’s operating and financing leases have a weighted average remaining term of 4.76 years and 2.63 years respectively. The table below reconciles the undiscounted future minimum lease payments under the Company’s operating and finance leases to the total operating and capital lease liabilities recognized on the consolidated balance sheets as of December 31, 2022 (in thousands): Operating Lease Liability Finance Lease Liability 2023 3,055 152 2024 3,571 116 2025 3,586 76 2026 3,362 15 2027 3,150 — 2028 1,064 — Total undiscounted future minimum lease payments $ 17,788 $ 359 L Difference between undiscounted lease payments and discounted lease liabilities ( 1,771 ) ( 43 ) Total lease liabilities $ 16,017 $ 316 Operating and finance lease costs were $ 4.6 million and $ 3.7 million for years ended December 31, 2022 and 2021, which were included in the consolidated statement of income under the following headings (in thousands): For the years ended December 31, Operating Lease expense 2022 2021 Costs of revenue - devices and supplies $ 359 $ 399 Sales and marketing expense 1,456 1,186 General and administrative 2,643 1,964 Total operating lease expense $ 4,458 $ 3,549 Finance Lease expense Amortization of right-of-use ass Sales and marketing expense $ 117 $ 104 General and administrative 2 1 Total amortization of right-of-use asset 119 104 Interest expense and other 36 41 Total finance lease expense $ 155 $ 145 Prior year amounts for Financing Lease expense have been reclassified for consistency with the current year presentation. These reclassifications had no effect on the reported results of operations. F-25 Table of Contents (12) FAIR VALUE CONSIDERATION The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at fair value which approximates book value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo models. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. Authoritative guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of December 31, 2022, by level within the fair value hierarc Fair Value Measurements at December 31, 2022 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable December 31, Assets Inputs Inputs 2022 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 10,000 $ — $ — $ 10,000 Total $ 10,000 $ — $ — $ 10,000 Contingent Consideration . The Company classifies its contingent consideration liability in connection with the acquisition of Kestrel Labs within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. F-26 Table of Contents The contingent consideration related to Kestrel was valued at $ 9.7 million using a Monte Carlo simulation as of December 22, 2021. As of December 31, 2022, the contingent consideration was estimated at $ 10.0 million, the adjustment of $ 0.3 million was recorded as a loss on change in fair value of contingent consideration in the Company’s Consolidated Statements of Income. The Company’s policy is to value contingent consideration liabilities using a Monte Carlo model. (13) COMMITMENTS AND CONTINGENCIES See Note 11 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management provides for them if losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (14) CONCENTRATIONS The Company is exposed to concentration of credit risk related primarily to its cash balances. The Company maintains its cash balances in major financial institutions that exceed amounts insured by the FDIC (up to $250,000, per financial institution as of December 31, 2022). The Company has not experienced any realized losses in such accounts and believes it is not exposed to any significant credit risk related to its cash. The Company had two major vendors from which it sourced approximately 28 % and two major vendors from which it sourced approximately 34 %, respectively, of supplies for its electrotherapy products for the years ended December 31, 2022 and 2021. Management believes that its relationships with its suppliers are good. If the relationships were to be replaced, there may be a short-term disruption for a period of time in which products may not be available and additional expenses may be incurred as the Company locates additional or replacement suppliers. The Company had receivables from one third-party payer at December 31, 2022 which made up approximately 14 % of the accounts receivable balance. The Company had receivables from one third-party payer at December 31, 2021, which made up approximately 22 % of the accounts receivable balance. (15) RETIREMENT PLAN In 2012, the Company established a defined contribution retirement plan for its employees under section 401(k) of the Internal Revenue Code (the “401(k) Plan”) that is available to all employees 18 years of age or older with at least three months of service. All employee contributions are fully vested immediately and employer contributions vest over a period of four years . The Company has a discretionary employee match program and currently matches 35 % of first 6 % of an employee’s contributions. During the years ended December 31, 2022 and 2021, the Company recorded an expense of $ 0.7 million and $ 0.5 million, respectively, under the aforementioned plan, related to the Company match. F-27 Table of Contents (16) QUARTERLY FINANCIAL INFORMATION (UNAUDITED) Quarterly financial information is as follows (in thousands, except per share data): 2022 First Quarter Second Quarter Third Quarter Fourth Quarter Total Revenue $ 31,083 $ 36,759 $ 41,520 $ 48,805 L cost of revenue and operating expenses 29,177 32,395 34,962 38,695 Income from operations 1,906 4,364 6,558 10,110 Income before income taxes 1,982 4,149 6,352 9,715 Net income $ 1,377 $ 3,346 $ 4,873 $ 7,452 Net income per common sh Basic income per share - net income $ 0.03 $ 0.09 $ 0.13 $ 0.20 Diluted income per share - net income $ 0.03 $ 0.08 $ 0.13 $ 0.20 2021 First Quarter Second Quarter Third Quarter Fourth Quarter Total Revenue $ 24,127 $ 31,022 $ 34,785 $ 40,367 L cost of revenue and operating expenses 25,207 27,209 26,739 28,780 Income from operations ( 1,080 ) 3,813 8,046 11,587 Income before income taxes ( 1,087 ) 3,768 8,028 11,562 Net income $ ( 706 ) $ 2,808 $ 6,107 $ 8,894 Net income per common sh Basic income per share - net income $ ( 0.02 ) $ 0.07 $ 0.16 $ 0.24 Diluted income per share - net income $ ( 0.02 ) $ 0.07 $ 0.16 $ 0.23 (17) SUBSEQUENT EVENTS During February 2023, the Company entered into a lease agreement for approximately 41,427 square feet of office space for the operations of ZMS in Englewood, CO. The lease commences on July 1, 2023 and runs through December 31,2028. At the expiration of the lease term the Company has the option to renew the lease for one additional five year period. The Company is entitled to rent abatements for the first six months of the lease. Payments based on the initial rate of $ 24.75 per square foot begin in January 2024. The price per square foot increases by an additional $ 0.50 during each subsequent twelve-month period of the lease after the abatement period . (18) COVID -19 In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. During 2020 and 2021, the Company’s operations were impacted by closures of clinics and reductions in elective surgeries which decreased availability of physicians to prescribe our products. Additionally, the Company had to navigate the impacts it had on employee and supply chain issues. While the Company did not see a significant impact on its operating results or financial position during the year ended December 31, 2022 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. F-28 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end March 31, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 800 ) 495-6670 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Ticker Symbol Name of each exchange on which registered Common Stock, $0.001 par value per share ZYXI The Nasdaq Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☐ Non-accelerated filer ☒ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of April 27, 2023 Common Stock, par value $0.001 36,655,451 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of March 31, 2023 (unaudited) and December 31, 2022 3 Unaudited Condensed Consolidated Statements of Income for the three months ended March 31, 2023 and 2022 4 Unaudited Condensed Consolidated Statements of Cash Flows for the three months ended March 31, 2023 and 2022 5 Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the three months ended March 31, 2023 and 2022 6 Unaudited Notes to Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 21 Item 3. Quantitative and Qualitative Disclosures About Market Risk 24 Item 4. Controls and Procedures 24 PART II—OTHER INFORMATION 26 Item 1. Legal Proceedings 26 Item 1A. Risk Factors 26 Item 2. Unregistered Sales of Equity Securities And Use of Proceeds 26 Item 3. Defaults Upon Senior Securities 27 Item 4. Mine Safety Disclosures 27 Item 5. Other Information 27 Item 6. Exhibits 28 SIGNATURES 29 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES) March 31, December 31, 2023 2022 (unaudited) ASSETS Current assets: Cash $ 16,792 $ 20,144 Accounts receivable, net 32,060 35,063 Inventory, net 14,184 13,484 Prepaid expenses and other 2,130 868 Total current assets 65,166 69,559 Property and equipment, net 2,281 2,175 Operating lease asset 11,888 12,841 Finance lease asset 240 270 Deposits 683 591 Intangible assets, net of accumulated amortization 8,843 9,067 Goodwill 20,401 20,401 Deferred income taxes 1,554 1,562 Total assets $ 111,056 $ 116,466 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabiliti Accounts payable and accrued expenses 5,650 5,601 Cash dividends payable 16 16 Operating lease liability 2,003 2,476 Finance lease liability 127 128 Income taxes payable 2,015 1,995 Current portion of debt 5,333 5,333 Accrued payroll and related taxes 5,915 5,537 Total current liabilities 21,059 21,086 Long-term liabiliti Long-term portion of debt, less issuance costs 3,964 5,293 Contingent consideration 8,600 10,000 Operating lease liability 12,788 13,541 Finance lease liability 159 188 Total liabilities 46,570 50,108 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of March 31, 2023 and December 31, 2022 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,575,386 issued and 36,646,041 outstanding as of March 31, 2023 41,658,132 issued and 36,825,081 outstanding as of December 31, 2022 39 39 Additional paid-in capital 82,343 82,431 Treasury stock of 4,485,713 and 4,253,015 shares at March 31, 2023 and December 31, 2022, respectively, at cost ( 36,513 ) ( 33,160 ) Retained earnings 18,617 17,048 Total stockholders’ equity 64,486 66,358 Total liabilities and stockholders’ equity $ 111,056 $ 116,466 The accompanying notes are an integral part of these condensed consolidated financial statements 3 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended March 31, 2023 2022 NET REVENUE Devices $ 11,944 $ 6,725 Supplies 30,226 24,358 Total net revenue 42,170 31,083 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 9,269 6,921 Sales and marketing 21,227 14,424 General and administrative 11,390 7,832 Total costs of revenue and operating expenses 41,886 29,177 Income from operations 284 1,906 Other income (expense) Gain on sale of fixed assets 2 — Change in fair value of contingent consideration 1,400 200 Interest expense ( 84 ) ( 124 ) Other income, net 1,318 76 Income from operations before income taxes 1,602 1,982 Income tax expense 33 605 Net income $ 1,569 $ 1,377 Net income per sh Basic $ 0.04 $ 0.03 Diluted $ 0.04 $ 0.03 Weighted average basic shares outstanding 36,694 39,765 Weighted average diluted shares outstanding 37,442 41,188 The accompanying notes are an integral part of these condensed consolidated financial statements 4 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) For the Three Months Ended March 31, 2023 2022 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 1,569 $ 1,377 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation 615 500 Amortization 229 229 Non-cash reserve charges 408 ( 9 ) Stock-based compensation 307 589 Non-cash lease expense ( 272 ) 97 Benefit for deferred income taxes 8 ( 220 ) Gain on change in fair value of contingent consideration ( 1,400 ) ( 200 ) Gain on sale of fixed assets ( 2 ) — Change in operating assets and liabiliti Accounts receivable 2,596 787 Prepaid and other assets ( 1,262 ) ( 912 ) Accounts payable and other accrued expenses 369 2,583 Inventory ( 1,139 ) ( 3,067 ) Deposits ( 92 ) — Net cash provided by operating activities 1,934 1,754 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 184 ) ( 72 ) Proceeds on sale of fixed assets 10 — Net cash used in investing activities ( 174 ) ( 72 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 31 ) ( 28 ) Cash dividends paid — ( 3,613 ) Purchase of treasury stock ( 3,353 ) — Proceeds from the issuance of common stock on stock-based awards 27 3 Principal payments on long-term debt ( 1,333 ) ( 1,333 ) Taxes withheld and paid on employees’ equity awards ( 422 ) ( 76 ) Net cash used in financing activities ( 5,112 ) ( 5,047 ) Net decrease in cash ( 3,352 ) ( 3,365 ) Cash at beginning of period 20,144 42,612 Cash at end of period $ 16,792 $ 39,247 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 90 ) $ ( 89 ) Cash paid for rent $ ( 1,382 ) $ ( 995 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ — $ 211 Inventory transferred to property and equipment under lease $ 438 $ 339 Capital expenditures not yet paid $ 77 $ 56 The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2021 39,737,890 $ 41 $ 80,397 $ ( 6,513 ) $ — $ 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 39,776,816 41 80,913 ( 6,513 ) 1,377 75,818 Balance at December 31, 2022 36,825,081 $ 39 $ 82,431 $ ( 33,160 ) $ 17,048 $ 66,358 Exercised and vested stock-based awards 66,045 — 27 — — 27 Stock-based compensation expense — — 307 — — 307 Warrants exercised 10,000 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 22,387 ) — ( 422 ) — — ( 422 ) Purchase of treasury stock ( 232,698 ) — — ( 3,353 ) — ( 3,353 ) Net income — — — — 1,569 1,569 Balance at March 31, 2023 $ 36,646,041 $ 39 $ 82,343 $ ( 36,513 ) $ 18,617 $ 64,486 The accompanying notes are an integral part of these condensed consolidated financial statements. 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS NOTE (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of March 31, 2023, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100 % of Kestrel Labs, Inc. (”Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the three months ended March 31, 2023 and 2022, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. Unaudited Condensed Consolidated Financial Statements The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. Amounts as of December 31, 2022, are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of March 31, 2023 and the results of its operations and its cash flows for the periods presented. The results of operations for the three months ended March 31, 2023 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS NOTE (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying condensed consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying condensed consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, assumptions related to the valuation of contingent consideration, and valuation of long-lived assets and realizability of deferred tax assets. Accounts Receivable, Net The Company’s accounts receivable represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. The Company maintains a constraint for third-party payer refund requests, deductions and adjustments. The Company recorded an allowance for uncollectible accounts of $ 0.4 million during the three months ended March 31, 2023, which is included in the general and administrative section of the condensed consolidated statements of income. See Note 14 – Concentrations for discussion of significant customer accounts receivable balances. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing in the future. The Company utilized the simplified test for goodwill impairment. The amount recognized for impairment is equal to the difference between the carrying value and the asset’s fair value. The valuation methods used in the quantitative fair value assessment was a discounted cash flow method and required management to make certain assumptions and estimates regarding certain industry trends and future profitability of our reporting units. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when the performance obligation has been met and the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when the performance obligation has been met and the product has been transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. The following table provides a breakdown of disaggregated net revenues for the three months ended March 31, 2023 and 2022 related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606”), leases subject to ASC 842, and supplies (in thousands): For the Three Months March 31, 2023 2022 Device revenue Purchased $ 4,642 $ 2,188 Leased 7,302 4,537 Total device revenue 11,944 6,725 Supplies revenue 30,226 24,358 Total revenue $ 42,170 $ 31,083 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s condensed consolidated balance sheets. For additional information on the leases where the Company is the lessee, see Note 12- Leases. A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying condensed consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the Chief Operating Decision Makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. The Inflation Reduction Act (“IRA”) was enacted into law on August 16, 2022. Included in the IRA was a provision to implement a 15% corporate alternative minimum tax on corporations whose average annual adjusted financial statement income during the most recently completed three year period exceeds $1 billion. This provision is effective for tax years beginning after December 31, 2022. We are in the process of evaluating the provisions of the IRA, but we do not currently believe the IRA will have a material impact on our reported results, cash flows or financial position when it becomes effective. Recent Accounting Pronouncements Management has evaluated recently issued accounting pronouncements and does not believe that any of these pronouncements will have a material impact on the Company’s consolidated financial statements. 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS NOTE (3) INVENTORY The components of inventory as of March 31, 2023, and December 31, 2022 are as follows (in thousands): March 31, 2023 December 31, 2022 Raw materials $ 3,225 $ 3,506 Work-in-process 1,614 1,205 Finished goods 7,854 7,750 Inventory in transit 1,759 1,291 $ 14,452 $ 13,752 L reserve ( 268 ) ( 268 ) $ 14,184 $ 13,484 NOTE (4) PROPERTY AND EQUIPMENT The components of property and equipment as of March 31, 2023 and December 31, 2022 are as follows (in thousands): March 31, 2023 December 31, 2022 Property and equipment Office furniture and equipment $ 3,034 $ 2,819 Assembly equipment 138 110 Vehicles 203 203 Leasehold improvements 1,173 1,173 Leased devices 1,249 1,162 $ 5,797 $ 5,467 Less accumulated depreciation ( 3,516 ) ( 3,292 ) $ 2,281 $ 2,175 Total depreciation expense related to property and equipment was $ 0.2 million for the three months ended March 31, 2023 and 2022. Total depreciation expense related to devices out on lease was $ 0.4 million and $ 0.3 million for the three months ended March 31, 2023 and 2022, respectively. Depreciation on leased units is reflected in the condensed consolidated statement of operations as cost of revenue. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units of which are still with patients for which the Company cannot determine the current status. NOTE (5) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the ‘Selling Shareholders’). Under the Agreement, the Selling Shareholders sold all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,467,785 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 978,524 of the Zynex Shares were deposited in escrow (the “Escrow Shares”). The number of Escrow Shares were subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. The Escrow Shares were adjusted on the anniversary date, which resulted in the cancellation of 156,673 Escrow Shares. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon determination by the FDA that the Device can be marketed and sold in the United States. The amount of escrow shares were recalculated at March 31, 2022, and are included in the calculation of diluted earnings per share for March 31, 2022. No additional calculation was required for the Escrow Shares at March 31, 2023, as the Escrow 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Share number was finalized on the anniversary date, and the shares are included in the Company’s calculation of basic earnings per share. The maximum amount of Zynex Shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares of the Company (see Note 13 for more information regarding this liability). The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. NOTE (6) GOODWILL AND OTHER INTANGIBLE ASSETS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 5). For the three months ended March 31, 2023, there was no change in the carrying amount of goodwill, there were no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of March 31, 2023. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents at December 31, 2022 $ 10,000 $ ( 933 ) $ 9,067 10 Amortization expense ( 224 ) ( 224 ) Acquired patents at March 31, 2023 $ 10,000 $ ( 1,157 ) $ 8,843 9.73 The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2023, the next five fiscal years, and periods thereaf (In thousands) April 1, 2023 through December 31, 2023 $ 684 2024 911 2025 908 2026 908 2027 908 2028 911 Thereafter 3,613 Total future amortization expense $ 8,843 NOTE (7) EARNINGS PER SHARE Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period, calculated using the treasury-stock method for outstanding stock options. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The calculation of basic and diluted earnings per share for the three months ended March 31, 2023 and 2022 are as follows (in thousands, except per share data): For the Three Months Ended March 31, 2023 2022 Basic earnings per share Net income available to common stockholders $ 1,569 $ 1,377 Basic weighted-average shares outstanding 36,694 39,765 Basic earnings per share $ 0.04 $ 0.03 Diluted earnings per share Net income available to common stockholders $ 1,569 $ 1,377 Weighted-average shares outstanding 36,694 39,765 Effect of dilutive securities - options and restricted stock 748 1,423 Diluted weighted-average shares outstanding 37,442 41,188 Diluted earnings per share $ 0.04 $ 0.03 For the three months ended March 31, 2023 and 2022, 12,000 and 450,000 shares of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. NOTE (8) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). Interest on Facility 1 is due on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of March 31, 2023, the Company had not utilized this facility. The other facility being extended by the Bank to the Company is a fixed rate term loan in the amount of $ 16.0 million (“Facility 2”). Facility 2 was entered into and funded in conjunction with the purchase of Kestrel Labs. The interest rate is equal to 2.8 % per year. The Company must pay interest on the first day of each month which began January 1, 2022 and the Company also repays the principal amount in equal installments of $ 444,444 per month through December 1, 2024. The following table summarizes future principal payments on long-term debt as of March 31, 2023: March 31, (In thousands) April 1, 2023 through December 31, 2023 $ 4,000 2024 5,333 Future principal payments 9,333 Less current portion ( 5,333 ) Less debt issuance costs ( 36 ) Long-term debt, net of debt issuance costs $ 3,964 NOTE (9) STOCK-BASED COMPENSATION PLANS In June 2017, the Company’s stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5.5 million shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of the Company’s common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon grant and are not included in outstanding shares until such vesting and issuance occurs. 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS During the three months ended March 31, 2023 and 2022, no stock option awards were granted under the 2017 Stock Plan. At March 31, 2023, the Company had 0.6 million stock options outstanding and exercisable under the following pla Outstanding Exercisable Number of Options Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 211 211 2017 Stock Option Plan 356 355 Total 567 566 During the three months ended March 31, 2023, and 2022, 62,000 shares and 48,000 shares of restricted stock, respectively, were granted to management under the 2017 Stock Plan. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of the Company’s common stock on the date of grant. The vesting on the Restricted Stock Awards typically occurs quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. The following summarizes stock-based compensation expenses recorded in the condensed consolidated statements of operations (in thousands): For the Three Months Ended March 31, 2023 2022 Cost of Revenue $ 8 $ 15 Sales and marketing expense 61 59 General, and administrative 238 515 Total stock based compensation expense $ 307 $ 589 The Company received cash proceeds of $ 27,000 and $ 3,000 related to option exercises during the three months ended March 31, 2023 and 2022, respectively. A summary of stock option activity under all equity compensation plans for the three months ended March 31, 2023, is presented be Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2022 793 $ 2.67 5.03 $ 8,908 Granted — — Forfeited ( 206 ) 6.30 Exercised ( 20 ) 6.07 Outstanding at March 31, 2023 567 $ 1.24 3.32 $ 6,104 Exercisable at March 31, 2023 566 $ 1.22 3.31 $ 6,099 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS A summary of restricted stock award activity under all equity compensation plans for the three months ended March 31, 2023, is presented be Number of Weighted Shares Average (in thousands) Grant Date Fair Value Granted but not vested at December 31, 2022 431 $ 11.92 Granted 62 12.10 Forfeited ( 3 ) 14.51 Vested ( 46 ) 12.96 Granted but not vested at March 31, 2023 444 $ 11.82 As of March 31, 2023, the Company had approximately $ 4.5 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.39 years. NOTE (10) STOCKHOLDERS’ EQUITY Treasury Stock On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through October 4, 2022, the Company purchased 1,091,604 shares of its common stock for $ 10.0 million for an average price of $ 9.06 per share which completed this program. On October 31, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through October 31, 2023. From the inception of the plan through December 31, 2022, the Company purchased 495,138 shares of its common stock for $ 6.6 million or an average price of $ 13.43 per share. From the inception of the plan through March 31, 2023, the Company purchased 727,836 shares of its common stock for $ 10 million or an average price of $ 13.74 per share which completed this program. Warrants A summary of stock warrant activity for the three months ended March 31, 2023 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2022 99 $ 2.39 1.76 $ 1,140 Granted — $ — Exercised ( 8 ) $ 2.27 Forfeited ( 2 ) $ — Outstanding and exercisable at March 31, 2023 89 $ 2.41 1.52 $ 853 (1) Warrants were exercised under a net exercise provision in the warrant agreement. As a result, approximately 2,000 warrants were forfeited in lieu of cash payment for shares during the three months ended March 31, 2023. 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS NOTE (11) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits from stock option exercises and the tax impact of the change in fair value of contingent consideration. For the three months ended March 31, 2023 and 2022, discrete items adjusted were $ 1.5 million and $ 0.5 million, respectively. At March 31, 2023 and 2022, the Company is currently estimating an annual effective tax rate of approximately 24.5 % and 25.1 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 2 % and 30 % for the three months ended March 31, 2023 and 2022, respectively. The decrease in the Company’s effective income tax rate for the three months ended March 31, 2023 compared to the same period in 2022, primarily relate to the tax impact of discrete items. Discrete items recognized during the three months ended March 31, 2023 and 2022, resulted in a tax benefit of approximately $ 0.4 million and a tax expense of approximately $ 0.1 million, respectively. The Company recorded an income tax expense of $ 33,000 and a tax expense of $ 605,000 for the three months ended March 31, 2023 and 2022, respectively. No taxes were paid during the three months ended March 31, 2023 and 2022. NOTE (12) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.01 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.40 % which was used to measure its finance lease liability. The weighted average remaining lease term was 4.64 years and 2.42 years for operating and finance leases, respectively, as of March 31, 2023. As of March 31, 2023, the maturities of the Company’s future minimum lease payments were as follows (in thousands): Operating Lease Liability Finance Lease Liability April 1, 2023 through December 31, 2023 1,672 114 2024 3,571 116 2025 3,586 76 2026 3,362 15 2027 3,149 — 2028 1,064 — Total undiscounted future minimum lease payments $ 16,404 $ 321 L Difference between undiscounted lease payments and discounted lease liabiliti ( 1,613 ) ( 35 ) Total lease liabilities $ 14,791 $ 286 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The components of lease expenses were as follows: Three Months Ended March 31, 2023 2022 Lease Operating lease Total operating lease expense $ 1,121 $ 1,105 Finance lease Total amortization of leased assets 30 30 Interest on lease liabilities 7 10 Total net lease cost $ 1,158 $ 1,145 For the three months ended March 31, 2023 and 2022, $ 0.1 million of operating lease costs were incurred at the Company’s manufacturing and warehouse facility and were included in cost of sales. For the three months ended March 31, 2023 and 2022, $ 1.0 million of operating lease costs were included in selling, general and administrative expenses on the condensed consolidated statement of income. NOTE (13) FAIR VALUE MEASUREMENTS The Company measures the fair value of financial assets and liabilities based on the guidance of ASC 820 “Fair Value Measurements and Disclosures” (“ASC 820”) which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo model. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of March 31, 2023, by level within the fair value hierarc Fair Value Measurements at March 31, 2023 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable March 31, Assets Inputs Inputs 2023 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 8,600 $ — $ — $ 8,600 Total $ 8,600 $ — $ — $ 8,600 The following table sets forth a summary of changes in the contingent consideration for the three months ended March 31, 2023 (in thousands): Contingent Consideration Balance as of December 31, 2022 $ 10,000 Change in fair value of contingent consideration ( 1,400 ) Balance as of March 31, 2023 $ 8,600 NOTE (14) CONCENTRATIONS For the three months ended March 31, 2023, the Company sourced approximately 39 % of the components for its electrotherapy products from three significant vendors. For the three months ended March 31, 2022 the Company sourced approximately 30 % of components from two significant vendors. At March 31, 2023, the Company had receivables from one third-party payer that made up approximately 13 % of the net accounts receivable balance. At December 31, 2022, the Company had receivables from one third-party payer which made up approximately 14 % of the net accounts receivable balance. 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS NOTE (15) COMMITMENTS AND CONTINGENCIES See Note 12 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. NOTE (16) SUBSEQUENT EVENTS No subsequent events identified through April 27, 2023. 20 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2022. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2022 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which includes electrotherapy and pain management products. As of March 31, 2023, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. RESULTS OF OPERATIONS Summary Net revenue was $42.2 million and $31.1 million for the three months ended March 31, 2023 and 2022, respectively. Net revenue increased 36% for the three-month period ended March 31, 2023. The Company had net income of $1.6 million during the three months ended March 31, 2023 as compared with net income of $1.4 million during the three months ended March 31, 2022. Cash flows provided by operating activities increased $0.1 million to $1.9 million during the three months ended March 31, 2023 as compared with cash flows used in operating activities of $1.8 million during the three months ended March 31, 2022. Working capital was $44.1 and $48.5 million at March 31, 2023 and December 31, 2022, respectively. Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. 21 Table of Contents Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the condensed consolidated financial statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $11.1 million or 36% to $42.2 million for the three months ended March 31, 2023, from $31.1 million for the same period in 2022. The growth in net revenue is primarily related to the continued growth in device orders. In 2022, we saw annual order growth of 23% and additional order growth for the three months ended March 31, 2023 of 61%. Increased order growth has led to an increased customer base and drove higher sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our electrotherapy and complimentary products. Device revenue increased $5.2 million or 78% to $11.9 million for the three months ended March 31, 2023, from $6.7 million for the same period in 2022. The growth in device revenue is primarily related to an increase in orders of 61%. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our electrotherapy products. Supplies revenue increased $5.8 million or 24% to $30.2 million for the three months ended March 31, 2023, from $24.4 million for the same period in 2022. The increase in supplies revenue is primarily related to an increased customer base from increased device sales in 2023 and 2022. Operating Expenses Cost of Revenue – Device and Supply Cost of Revenue – device and supply consist primarily of device and supply costs, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended March 31, 2023 increased 34% to $9.3 million from $6.9 million for the three months ended March 31, 2022. The increase in cost of revenue is primarily due to increased revenue. As a percentage of revenue, cost of revenue – device and supply remained flat at 22% for the three months ended March 31, 2023 and 2022. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended March 31, 2023 increased 47% to $21.2 million from $14.4 million for the three months ended March 31, 2022. The increase in sales and marketing expense is primarily due to increased headcount and related salary and incentive compensation expenses. As a percentage of revenue, sales and marketing expense increased to 50% for the three months ended March 31, 2023 from 46% for the same period in 2022. The increase as a percentage of revenue is primarily due to the increased headcount and related salary and incentive compensation expenses, offset by an increase in revenue. General and Administrative Expense General and administrative expenses primarily consist of employee related costs, and other direct costs associated with these personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for 22 Table of Contents the three months ended March 31, 2023 increased 45% to $11.4 million from $7.8 million for the three months ended March 31, 2022. The increase in general and administrative expense is primarily due to increased head count within our billing department, increased professional and legal service expenses, a recorded allowance for uncollectible accounts, and increased headcount and research & development costs at ZMS. As a percentage of revenue, general and administrative expense increased to 27% for the three months ended March 31, 2023 from 25% for the same period in 2022. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by increased revenue. Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 2.5% and 30% for the three months ended March 31, 2023 and 2022, respectively. Discrete items, primarily related to tax benefits on change in fair value of contingent consideration and stock option exercises, of $0.4 million were recognized as a benefit against income tax expense for the three months ended March 31, 2023. Discrete items, primarily related to tax expense on stock option exercises of $0.1 million were recognized as a benefit against income tax expense for the three months ended March 31, 2022. For the three months ended March 31, 2023 and 2022 the Company has an income tax expense of approximately $33,000 and $605,000, respectively. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At March 31, 2023, our principal source of liquidity was $16.8 million in cash and $32.1 million in accounts receivable. Net cash provided by operating activities for the three months ended March 31, 2023 was $1.9 million compared with net cash provided by operating activities of $1.8 million for the three months ended March 31, 2022. The increase in cash used in operating activities for the three months ended March 31, 2023 was primarily due to an increase in net income. Net cash used in investing activities for each of the three months ended March 31, 2023 and 2022 was $0.2 and $0.1 million, respectively. Cash used in investing activities for the three months ended March 31, 2023 was primarily related to the purchase of property and equipment. Cash used in investing activities for the three months ended March 31, 2022 was primarily related to the purchase office furniture and equipment and leasehold improvements at our corporate headquarters. Net cash used in financing activities for the three months ended March 31, 2023 was $5.1 million compared with net cash used in financing activities of $5.0 million for the same period in 2022. Cash used in financing activities for the three months ended March 31, 2023 was primarily due to the repurchase of our common stock of $3.4 million and principal payments on notes payable of $1.3 million. Cash used in financing activities for the three months ended March 31, 2022 was primarily due to the payment of a $0.10 dividend to common shareholders totaling $3.6 million, and principal payments on notes payable of $1.3 million. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash balance at March 31, 2023 of $16.8 million; ● Our working capital balance of $44.1 million; and ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the consolidated financial statements located within our Annual Report on Form 10-K for the year ended December 31, 2022, filed with the Securities and Exchange Commission on March 14, 2023. 23 Table of Contents RISKS AND UNCERTAINTIES In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. While the Company did not incur significant disruptions to its operations during the three months ended March 31, 2023 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Evaluation of disclosure controls and procedures Our management, including our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934), as amended, or the Exchange Act, as of March 31, 2023. Based on management’s review, with participation of our Chief Executive Officer and Chief Financial Officer, the Chief Executive Officer and Chief Financial Officer have concluded that, as of the quarter ended March 31, 2023, our disclosure controls and procedures were not effective due to the material weakness in internal control over financial reporting as described below. Material Weakness in Internal Control We identified a material weakness related to Information Technology General Controls (ITGCs) that were not designed and operating effectively to ensure (i) appropriate segregation of duties was in place to perform program changes and (ii) the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted. The material weakness identified above did not result in any material misstatements in our financial statements or disclosures, and there were no changes to previously released financial results. Our management concluded that the consolidated financial statements included in the Annual Report on Form 10-K, present fairly, in all material respects, our financial position, results of operations, and cash flows for the periods presented in accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP. The effectiveness of our internal control over financial reporting as of December 31, 2022, has been audited by Marcum LLP as stated in their report, which is included in Item 8 of the Annual Report on Form 10-K. Remediation Plan Our management is committed to maintaining a strong internal control environment. In response to the identified material weakness above, management will take comprehensive actions to remediate the material weakness in internal control over financial reporting. We are in the process of developing and implementing remediation plans to address the material weakness described above. Changes in Internal Control over Financial Reporting Except for the items referred to above, there were no changes in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the quarter ended March 31, 2023 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting. Inherent Limitation on the Effectiveness of Internal Control Our management, including our Chief Executive Officer and Chief Financial Officer, do not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system will be met. 24 Table of Contents Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by management override of the controls. The design of any system of controls is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with policies or procedures may deteriorate. Due to inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. 25 Table of Contents PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS Other than the additional risk factor disclosed below, there are no other material changes from the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022 filed with the SEC on March 14, 2023. Adverse developments affecting the financial services industry, including events or concerns involving liquidity, defaults or non-performance by financial institutions or transactional counterparties, could adversely affect our business, financial condition or results of operations. Events involving limited liquidity, defaults, non-performance or other adverse developments that affect financial institutions, transactional counterparties or other companies in the financial services industry or the financial services industry generally, or concerns or rumors about any events of these kinds or other similar risks, have in the past and may in the future lead to market-wide liquidity problems. Most recently, on March 10, 2023, Silicon Valley Bank (“SVB”) was closed by the California Department of Financial Protection and Innovation, which appointed the Federal Deposit Insurance Corporation (“FDIC”) as receiver. Similarly, on March 12, 2023, Signature Bank and Silvergate Capital Corp. were each swept into receivership. Although we assess our banking and customer relationships as we believe necessary or appropriate, our access to funding sources and other credit arrangements in amounts adequate to finance or capitalize our current and projected future business operations could be significantly impacted. In addition, investor concerns regarding the U.S. or international financial systems could result in less favorable commercial financing terms, including higher interest rates or costs and tighter financial and operating covenants, or systemic limitations on access to credit and liquidity sources, thereby making it more difficult for us to acquire financing on acceptable terms or at all. Any decline in available funding or access to our cash and liquidity resources could, among other risks, adversely impact our ability to meet our operating expenses, financial obligations or fulfill our other obligations, result in breaches of our contractual obligations or result in violations of federal or state wage and hour laws. Any of these impacts, or any other impacts resulting from the factors described above or other related or similar factors not described above, could have material adverse impacts on our liquidity and our business, financial condition or results of operations. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities 26 Table of Contents Total Number of In Thousands Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan January 1 - January 31, 2023 Share repurchase program (1) 116,000 $ 15.66 611,138 1,536 February 1 - February 28, 2023 Share repurchase program (1) 116,698 $ 13.16 727,836 — March 1 - March 31, 2023 Share repurchase program (1) — $ — 727,836 — Quarter Total Share repurchase program (1) 232,698 $ 14.41 727,836 — (1) Shares were purchased through the Company’s publicly announced share repurchase program approved by the Company’s Board of Directors on October 31, 2022. The program was fully utilized during the Company’s first quarter. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION None 27 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 32.1** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 101.INS* XBRL Instance Document. 101.SCH* XBRL Taxonomy Extension Schema Document. 101.CAL* XBRL Taxonomy Calculation Linkbase Document. 101.LAB * XBRL Taxonomy Label Linkbase Document. 101.PRE * XBRL Presentation Linkbase Document. 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document. 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith ** Furnished herewith 28 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat April 27, 2023 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 29 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end June 30, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 303 ) 703-4906 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol Name of each exchange on which registered Common Stock, par value $0.001 per share ZYXI NASDAQ Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☒ Non-accelerated filer ☐ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of July 26, 2023 Common Stock, par value $0.001 35,925,522 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of June 30, 2023 (unaudited) and December 31, 2022 3 Unaudited Condensed Consolidated Statements of Income for the three and six months ended June 30, 2023 and 2022 4 Unaudited Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2023 and 2022 5 Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the three and six months ended June 30, 2023 and 2022 6 Unaudited Notes to Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 22 Item 3. Quantitative and Qualitative Disclosures About Market Risk 26 Item 4. Controls and Procedures 26 PART II—OTHER INFORMATION 28 Item 1. Legal Proceedings 28 Item 1A. Risk Factors 28 Item 2. Unregistered Sales of Equity Securities And Use of Proceeds 28 Item 3. Defaults Upon Senior Securities 28 Item 4. Mine Safety Disclosures 28 Item 5. Other Information 28 Item 6. Exhibits 29 SIGNATURES 30 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES) June 30, 2023 December 31, (unaudited) 2022 ASSETS Current assets: Cash $ 58,749 $ 20,144 Accounts receivable, net 32,957 35,063 Inventory, net 14,325 13,484 Prepaid expenses and other 1,529 868 Total current assets 107,560 69,559 Property and equipment, net 2,373 2,175 Operating lease asset 10,923 12,841 Finance lease asset 211 270 Deposits 683 591 Intangible assets, net of accumulated amortization 8,616 9,067 Goodwill 20,401 20,401 Deferred income taxes 1,802 1,562 Total assets $ 152,569 $ 116,466 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabiliti Accounts payable and accrued expenses 5,930 5,601 Cash dividends payable 14 16 Operating lease liability 1,921 2,476 Finance lease liability 122 128 Income taxes payable — 1,995 Current portion of debt — 5,333 Accrued payroll and related taxes 6,108 5,537 Total current liabilities 14,095 21,086 Long-term liabiliti Long-term portion of debt, less issuance costs — 5,293 Convertible senior notes, less issuance costs 57,155 — Contingent consideration 6,900 10,000 Operating lease liability 12,020 13,541 Finance lease liability 132 188 Total liabilities 90,302 50,108 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of June 30, 2023 and December 31, 2022 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,639,575 issued and 36,014,243 outstanding as of June 30, 2023 41,658,132 issued and 36,825,081 outstanding as of December 31, 2022 36 39 Additional paid-in capital 82,888 82,431 Treasury stock of 5,151,913 and 4,253,015 shares at June 30, 2023 and December 31, 2022, respectively, at cost ( 42,628 ) ( 33,160 ) Retained earnings 21,971 17,048 Total stockholders’ equity 62,267 66,358 Total liabilities and stockholders’ equity $ 152,569 $ 116,466 The accompanying notes are an integral part of these condensed consolidated financial statements. 3 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended June 30, For the Six Months Ended June 30, 2023 2022 2023 2022 NET REVENUE Devices $ 13,743 $ 9,505 $ 25,687 $ 16,230 Supplies 31,209 27,254 61,435 51,612 Total net revenue 44,952 36,759 87,122 67,842 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 9,272 7,305 18,541 14,226 Sales and marketing 21,609 16,314 42,836 30,738 General and administrative 11,358 8,776 22,748 16,608 Total costs of revenue and operating expenses 42,239 32,395 84,125 61,572 Income from operations 2,713 4,364 2,997 6,270 Other income (expense) Gain on sale of fixed assets — — 2 — Gain (loss) on change in fair value of contingent consideration 1,700 ( 100 ) 3,100 100 Interest expense, net ( 317 ) ( 115 ) ( 401 ) ( 239 ) Other income (expense), net 1,383 ( 215 ) 2,701 ( 139 ) Income from operations before income taxes 4,096 4,149 5,698 6,131 Income tax expense 742 803 775 1,408 Net income $ 3,354 $ 3,346 $ 4,923 $ 4,723 Net income per sh Basic $ 0.09 $ 0.09 $ 0.13 $ 0.12 Diluted $ 0.09 $ 0.08 $ 0.13 $ 0.12 Weighted average basic shares outstanding 36,435 38,851 36,564 39,305 Weighted average diluted shares outstanding 37,061 39,893 37,249 40,367 The accompanying notes are an integral part of these condensed consolidated financial statements. 4 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) For the Six Months Ended June 30, 2023 2022 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 4,923 $ 4,723 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation 1,311 1,025 Amortization 620 461 Non-cash reserve charges ( 91 ) ( 9 ) Stock-based compensation 967 1,124 Non-cash lease expense ( 158 ) 237 Benefit for deferred income taxes ( 240 ) ( 392 ) Gain on change in fair value of contingent consideration ( 3,100 ) ( 100 ) Gain on sale of fixed assets ( 2 ) — Change in operating assets and liabiliti Accounts receivable 2,106 808 Prepaid and other assets ( 661 ) ( 669 ) Accounts payable and other accrued expenses ( 1,172 ) ( 1,020 ) Inventory ( 1,736 ) ( 4,604 ) Deposits ( 92 ) ( 6 ) Net cash provided by operating activities 2,675 1,578 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 394 ) ( 212 ) Proceeds on sale of fixed assets 10 — Net cash used in investing activities ( 384 ) ( 212 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 62 ) ( 58 ) Cash dividends paid ( 1 ) ( 3,613 ) Purchase of treasury stock ( 9,468 ) ( 10,655 ) Proceeds from issuance of convertible senior notes, net of issuance costs 57,026 — Proceeds from the issuance of common stock on stock-based awards 32 14 Principal payments on long-term debt ( 10,667 ) ( 2,667 ) Taxes withheld and paid on employees’ equity awards ( 546 ) ( 122 ) Net cash provided by (used in) financing activities 36,314 ( 17,101 ) Net increase (decrease) in cash 38,605 ( 15,735 ) Cash at beginning of period 20,144 42,612 Cash at end of period $ 58,749 $ 26,877 Supplemental disclosure of cash flow informati Cash paid on interest, net $ ( 260 ) $ ( 208 ) Cash paid for rent $ ( 2,378 ) $ ( 1,965 ) Cash paid for income taxes $ ( 2,985 ) ( 3,926 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ — $ 211 Vesting of restricted stock awards $ ( 3 ) $ — Inventory transferred to property and equipment under lease $ 894 $ 788 Capital expenditures not yet paid $ 78 $ 48 Non-cash dividend adjustment $ ( 1 ) $ — The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2021 39,737,890 41 80,397 ( 6,513 ) — 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 39,776,816 $ 41 80,913 $ ( 6,513 ) $ 1,377 $ 75,818 Exercised and vested stock-based awards 178,727 1 11 — — 12 Stock-based compensation expense — — 535 — — 535 Shares of common stock withheld to pay taxes on employees’ equity awards ( 47,603 ) — ( 47 ) — — ( 47 ) Purchase of treasury stock ( 1,504,374 ) ( 2 ) — ( 10,653 ) — ( 10,655 ) Net income — — — — 3,346 3,346 Balance at June 30, 2022 38,403,566 $ 40 $ 81,412 $ ( 17,166 ) $ 4,723 $ 69,009 Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2022 36,825,081 39 82,431 ( 33,160 ) 17,048 66,358 Exercised and vested stock-based awards 66,045 — 27 — — 27 Stock-based compensation expense — — 307 — — 307 Warrants exercised 10,000 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 22,387 ) — ( 422 ) — — ( 422 ) Purchase of treasury stock ( 232,698 ) — — ( 3,353 ) — ( 3,353 ) Net income — — — — 1,569 1,569 Balance at March 31, 2023 36,646,041 $ 39 $ 82,343 $ ( 36,513 ) $ 18,617 $ 64,486 Exercised and vested stock-based awards 45,626 — 9 — — 9 Stock-based compensation expense — — 660 — — 660 Shares of common stock withheld to pay taxes on employees’ equity awards ( 11,224 ) ( 3 ) ( 124 ) — — ( 127 ) Purchase of treasury stock ( 666,200 ) — — ( 6,115 ) — ( 6,115 ) Net income — — — — 3,354 3,354 Balance at June 30, 2023 36,014,243 $ 36 $ 82,888 $ ( 42,628 ) $ 21,971 $ 62,267 The accompanying notes are an integral part of these condensed consolidated financial statements. 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of June 30, 2023, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100 % of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the six months ended June 30, 2023 and 2022, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. Unaudited Condensed Consolidated Financial Statements The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. Amounts as of December 31, 2022, are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of June 30, 2023 and the results of its operations and its cash flows for the periods presented. The results of operations for the six months ended June 30, 2023 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying condensed consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying condensed consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, assumptions related to the valuation of contingent consideration, and valuation of long-lived assets and realizability of deferred tax assets. Accounts Receivable, Net The Company’s accounts receivable represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. The Company maintains a constraint for third-party payer refund requests, deductions and adjustments. See Note 15 – Concentrations for discussion of significant customer accounts receivable balances. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Useful lives of finite-lived intangible assets by each asset category are summarized be 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Estimated Useful Lives in years Patents 11 Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing in the future. The Company utilized the simplified test for goodwill impairment. The amount recognized for impairment is equal to the difference between the carrying value and the asset’s fair value. The valuation methods used in the quantitative fair value assessment was a discounted cash flow method and required management to make certain assumptions and estimates regarding certain industry trends and future profitability of our reporting units. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when the performance obligation has been met and the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when the performance obligation has been met and the product has been transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. The following table provides a breakdown of disaggregated net revenues for the three and six months ended June 30, 2023 and 2022 related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606”), leases subject to ASC 842 – “Leases” (“ASC 842”), and supplies (in thousands): For the Three Months Ended June 30, For the Six Months Ended June 30, 2023 2022 2023 2022 Device revenue Purchased $ 4,781 $ 2,268 $ 9,422 $ 4,457 Leased 8,962 7,237 16,265 11,773 Total device revenue $ 13,743 $ 9,505 $ 25,687 $ 16,230 Supplies revenue 31,209 27,254 61,435 51,612 Total revenue $ 44,952 $ 36,759 $ 87,122 $ 67,842 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s condensed consolidated balance sheets. For additional information on the leases where the Company is the lessee, see Note 13- Leases. A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying condensed consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision-Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. The Inflation Reduction Act (“IRA”) was enacted into law on August 16, 2022. Included in the IRA was a provision to implement a 15% corporate alternative minimum tax on corporations whose average annual adjusted financial statement income during the most recently completed three year period exceeds $1 billion. This provision is effective for tax years beginning after December 31, 2022. We are in the process of evaluating the provisions of the IRA, but we do not currently believe the IRA will have a material impact on our reported results, cash flows or financial position when it becomes effective. Recent Accounting Pronouncements Management has evaluated recently issued accounting pronouncements and does not believe that any of these pronouncements will have a material impact on the Company’s consolidated financial statements. 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (3) INVENTORY The components of inventory are as follows (in thousands): June 30, 2023 December 31, 2022 Raw materials $ 3,998 $ 3,506 Work-in-process 785 1,205 Finished goods 7,724 7,750 Inventory in transit 2,086 1,291 $ 14,593 $ 13,752 L reserve ( 268 ) ( 268 ) $ 14,325 $ 13,484 (4) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): June 30, 2023 December 31, 2022 Property and equipment Office furniture and equipment $ 3,105 $ 2,819 Assembly equipment 141 110 Vehicles 203 203 Leasehold improvements 1,173 1,173 Leased devices 1,289 1,162 Capital projects 137 — $ 6,048 $ 5,467 Less accumulated depreciation ( 3,675 ) ( 3,292 ) $ 2,373 $ 2,175 Total depreciation expense related to our property and equipment was $ 0.2 million for the three months ended June 30, 2023 and 2022. Depreciation expense for the six month periods ended June 30, 2023 and 2022 was $ 0.4 million. Total depreciation expense related to devices out on lease was $ 0.5 million and $ 0.4 million for the three months ended June 30, 2023 and 2022, respectively. Depreciation expense related to devices out on lease was $ 0.9 million and $ 0.7 million for the six months ended June 30, 2023 and 2022, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units which are still with patients for which the Company cannot determine the current status. (5) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the “Selling Shareholders”). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,467,785 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares were subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 978,524 of the Zynex Shares were deposited in escrow (the “Escrow Shares”). The number of Escrow Shares were subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. The Escrow Shares were adjusted on the anniversary date, which resulted in the cancellation of 156,673 Escrow Shares. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS the Device in the United States. The other half of the Escrow Shares will be released upon determination by the FDA that the Device can be marketed and sold in the United States. The amount of escrow shares were recalculated at June 30, 2022, and are included in the calculation of diluted earnings per share for June 30, 2022. No additional calculation was required for the Escrow Shares at June 30, 2023, as the Escrow Share number was finalized on the anniversary date, and the shares are included in the Company’s calculation of basic earnings per share. The maximum amount of Zynex Shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares of the Company (see Note 14 - Fair Value Measurements for more information regarding this liability). The acquisition of Kestrel has been accounted for as a business combination under ASC 805 – “Business Combinations” (“ASC 805”). Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. (6) GOODWILL AND OTHER INTANGIBLE ASSETS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 5 – Business Combinations). As of June 30, 2023, there was no change in the carrying amount of goodwill, and there were no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of June 30, 2023. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents at December 31, 2022 $ 10,000 $ ( 933 ) $ 9,067 10.00 Amortization expense ( 451 ) ( 451 ) Acquired patents at June 30, 2023 $ 10,000 $ ( 1,384 ) $ 8,616 9.48 The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2023, next five fiscal years, and periods thereaf (In thousands) July 1, 2023 through December 31, 2023 458 2024 911 2025 908 2026 908 2027 908 Thereafter 4,523 Total future amortization expense $ 8,616 (7) EARNINGS PER SHARE Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period. Dilution resulting from stock-based compensation plans is determined using the treasury stock method and dilution resulting from the 2023 Convertible Senior Notes is determined using the if-converted method. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The calculation of basic and diluted earnings per share for the three and six months ended June 30, 2023 and 2022 are as follows (in thousands, except per share data): For the Three Months Ended June 30, For the Six Months Ended June 30, 2023 2022 2023 2022 Basic earnings per share Net income $ 3,354 $ 3,346 $ 4,923 $ 4,723 Basic weighted average shares outstanding 36,435 38,851 36,564 39,305 Basic earnings per share $ 0.09 0.09 0.13 0.12 Diluted earnings per share Net income $ 3,354 3,346 4,923 4,723 Weighted average shares outstanding 36,435 38,851 36,564 39,305 Effect of dilutive securities - options and restricted stock 626 1,042 685 1,062 Diluted weighted-average shares outstanding 37,061 39,893 37,249 40,367 Diluted earnings per share $ 0.09 0.08 $ 0.13 $ 0.12 For the three and six months ended June 30, 2023, equity grants of 39,000 and 21,000 shares of common stock, respectively, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. For the three and six months ended June 30, 2022, equity grants of 293,000 and 341,000 shares of common stock, respectively, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. For three and six months ended June 30, 2023, conversion options to purchase 3.2 million and 1.6 million shares, respectively, resulting from the 2023 Convertible Senior Notes, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive (see Note 9 – Convertible Senior Notes). (8) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets were pledged as collateral. One facility was a line of credit in the amount of $ 4.0 million available until December 1, 2024 (the “Facility 1”). Interest on Facility 1 was due on the first day of each month beginning January 1, 2022. The interest rate was an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . The Company did not utilize the facility during the three and six months ended June 30, 2023 and June 30, 2022. During May 2023, the facility was terminated. The other facility extended by the Bank to the Company was a fixed rate term loan in the amount of up to $ 16.0 million (the “Facility 2”). Facility 2 was entered into and funded in conjunction with the purchase of Kestrel Labs at an interest rate equal to 2.8 % per year. The Company had to pay interest on the first day of each month which began January 1, 2022 and the Company also repaid the principal amount in equal installments of $ 444,444 per month. All unpaid interest and principal on Facility 2 was fully paid off and the Facility was terminated during May 2023. (9) CONVERTIBLE SENIOR NOTES In May 2023, the Company issued $ 52.5 million aggregate principal amount of 5.00 % Convertible Senior Notes due May 15, 2026 (the “2023 Convertible Senior Notes”). In May 2023, the Company issued an additional $ 7.5 million aggregate principal amount of the 2023 Convertible Senior Notes upon the exercise by the initial purchasers of their over-allotment option. Interest on the 2023 Convertible Senior Notes is payable semiannually in arrears, beginning November 15, 2023. The 2023 Convertible Senior Notes will mature on May 15, 2026, unless earlier converted or repurchased, and are redeemable at the option of the Company on or after May 20, 2025. The 2023 Convertible Senior Notes are direct, unsecured, and unsubordinated obligations of the Company, ranking equally with all of the Company’s other unsecured and unsubordinated indebtedness from time to time outstanding, and are effectively subordinated to all secured indebtedness of the Company. 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Holders may convert their 2023 Convertible Senior Notes at their option prior to the close of business on the business day preceding September 30, 2023, but only under the following circumstanc during any calendar quarter (and only during such calendar quarter), if the last reported sale price of the Company’s common stock for at least twenty trading days (whether or not consecutive) during the period of thirty consecutive trading days ending on, and including, the last trading day of the immediately preceding calendar quarter is greater than or equal to 130 % of the conversion price on each applicable trading day as determined by the Company; during the five business day period after any ten consecutive trading day period (the “Measurement Period”) in which the trading price per $ 1,000 principal amount of 2023 Convertible Senior Notes for each trading day of the Measurement Period was less than 98 % of the product of the last reported sale price of the common stock and the conversion rate on each such trading day; or upon the occurrence of certain corporate events specified in the indenture governing the 2023 Convertible Senior Notes. On or after February 15, 2026, a holder may convert all or any portion of its 2023 Convertible Senior Notes at any time prior to the close of business on the second scheduled trading day immediately preceding the maturity date regardless of the foregoing conditions. The Company will settle conversions of the 2023 Convertible Senior Notes by paying cash up to the aggregate principal amount of the 2023 Convertible Senior Notes to be converted and paying or delivering, as the case may be, cash, shares of common stock or a combination of cash and shares of common stock, at the Company’s election, in respect of the remainder, if any, of the Company's conversion obligation in excess of the aggregate principal amount of the 2023 Convertible Senior Notes being converted. The 2023 Convertible Senior Notes are initially convertible at a rate of 92.8031 shares of common stock per $ 1,000 principal amount converted, which is approximately equal to $ 10.78 per share of common stock. The conversion rate will be subject to adjustment upon the occurrence of certain specified events but will not be adjusted for accrued and unpaid interest. In addition, upon the occurrence of a make-whole fundamental change, which includes certain change in control transactions, the approval by Zynex’s stockholders of any plan or proposal for the liquidation or dissolution of Zynex and certain de-listing events with respect to Zynex’s common stock, the Company will, in certain circumstances, increase the conversion rate by a number of additional shares of common stock for conversions in connection with the make-whole fundamental change. Upon the occurrence of a fundamental change, holders of the 2023 Convertible Senior Notes may require the Company to purchase all or a portion of their 2023 Convertible Senior Notes, in principal amounts equal to $ 1,000 or an integral multiple thereof, for cash at a price equal to 100 % of the principal amount of the 2023 Convertible Senior Notes to be purchased plus any accrued and unpaid interest. The following table summarizes the minimum interest payments over the remainder of 2023 and next three fiscal years until maturity in May 2026. (In thousands) July 1, 2023 through December 31, 2023 $ 1,592 2024 3,050 2025 3,042 2026 1,508 (10) STOCK-BASED COMPENSATION PLANS In June 2017, our stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5,500,000 shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of our common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon grant and are not included in outstanding shares until such vesting and issuance occurs. 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS During the three and six months ended June 30, 2023, no stock option awards were granted under the 2017 Stock Plan. During the three and six months ended June 30, 2022, 200,000 stock option awards were granted under the 2017 Stock Plan. At June 30, 2023, the company had 0.6 million stock options outstanding and 0.6 million exercisable under the following pla Outstanding Exercisable Number of Options Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 211 211 2017 Stock Option Plan 351 350 Total 562 561 During the three and six months ended June 30, 2023, 72,000 and 134,000 shares of restricted stock were granted under the 2017 Stock Plan, respectively. During the three and six months ended June 30, 2022, 45,000 and 93,000 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on restricted stock awards typically occur quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. The following summarizes stock-based compensation expenses recorded in the condensed consolidated statements of income (in thousands): For the Three Months Ended June 30, For the Six Months Ended June 30, 2023 2022 2023 2022 Cost of Revenue $ 7 $ 12 $ 15 $ 27 Sales and marketing expense 69 55 130 114 General, and administrative 584 468 822 983 Total stock based compensation expense $ 660 $ 535 $ 967 $ 1,124 The Company received proceeds of $ 0.1 million related to option exercises during the three and six months ended June 30, 2023. The Company received proceeds of $ 0.1 million related to option exercises during each of the three and six months ended June 30, 2022. No stock option awards were granted by the Company during the three and six months ended June 30, 2023. A summary of stock option activity under all equity compensation plans for the six months ended June 30, 2023, is presented be Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2022 793 $ 2.67 5.03 $ 8,908 Granted — $ — Forfeited ( 206 ) $ 6.30 Exercised ( 25 ) $ 5.38 Outstanding at June 30, 2023 562 $ 1.23 3.05 $ 4,701 Exercisable at June 30, 2023 561 $ 1.21 3.04 $ 4,699 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS A summary of restricted stock award activity under all equity compensation plans for the six months ended June 30, 2023, is presented be Number of Shares Weighted Average (in thousands) Grant Date Fair Value Granted but not vested at December 31, 2022 431 $ 11.92 Granted 134 10.81 Forfeited ( 4 ) 12.65 Vested ( 88 ) 12.14 Granted but not vested at June 30, 2023 473 $ 11.56 As of June 30, 2023, the Company had approximately $ 4.5 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.3 years. (11) STOCKHOLDERS’ EQUITY Treasury Stock On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through October 4, 2022, the Company purchased 1,091,604 shares of its common stock for $ 10.0 million for an average price of $ 9.06 per share which completed this program. On October 31, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through October 31, 2023. From the inception of the plan through December 31, 2022, the Company purchased 495,138 shares of its common stock for $ 6.6 million or an average price of $ 13.43 per share. From the inception of the plan through March 31, 2023, the Company purchased 727,836 shares of its common stock for $ 10 million or an average price of $ 13.74 per share which completed this program. On May 10, 2023, the disinterested members of the Board of Directors and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on May 10, 2023 of $ 9.61 per share for $ 2.9 million. See Note 17 - Related Parties for additional information. On June 13, 2023, the disinterested members of the Board of Directors and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on June 13, 2023, of $ 8.62 per share for $ 2.6 million. See Note 17 - Related Parties for additional information. On June 13, 2023, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 13, 2024. From the inception of the plan through June 30 2023, the Company purchased 66,200 shares of its common stock for $ 0.6 million or an average price of $ 9.76 per share. 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Warrants A summary of stock warrant activity for the six months ended June 30, 2023 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2022 99 $ 2.39 1.76 $ 1,140 Granted — $ — Exercised ( 8 ) $ 2.27 Forfeited ( 2 ) $ — Outstanding and exercisable at June 30, 2023 89 $ 2.41 1.27 $ 639 (12) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits from stock option exercises and the tax impact of the change in fair value of contingent consideration. For the three months ended June 30, 2023 and 2022 discrete items adjusted were ($ 1.6 ) million and ($ 0.9 ) million, respectively. For the six months ended June 30, 2023 and 2022 discrete items adjusted were ($ 3.1 ) million and ($ 0.4 ) million, respectively. At June 30, 2023 and 2022, the Company is estimating an annual effective tax rate of approximately 27 % and 25 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 14 % and 23 % for the six months ended June 30, 2023 and 2022, respectively. The decrease in the Company’s effective income tax rate for the six months ended June 30, 2023 compared to the same period in 2022, primarily relate to the tax impact of discrete items, in particular the change in fair value of contingent consideration recorded during the current quarter which is not expected to be taxable. The Company recorded income tax expense of $ 0.7 million and $ 0.8 million for the three and six months ended June 30, 2023, respectively, and income tax expense of $ 0.8 million and $ 1.4 million for the three and six months ended June 30, 2022, respectively. Taxes of $ 3.0 million and $ 3.9 million were paid during the six months ended June 30, 2023 and 2022, respectively. (13) LEASES The Company categorizes leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During February 2023, the Company entered into a lease agreement for approximately 41,427 square feet of office space for the operations of ZMS in Englewood, CO. The lease commences on July 1, 2023 and runs through December 31, 2028. At the expiration of the lease term the Company has the option to renew the lease for one additional five year period. The Company is entitled to rent abatements for the first six months of the lease and tenant improvement allowances. Payments based on the initial rate of $ 24.75 per square foot begin in January 2024. The price per square foot increases by an additional $ 0.50 during each subsequent twelve-month period of the lease after the abatement period. The Company anticipates the recognition of a lease liability of $ 4.2 million related to the lease during the Company’s third quarter of 2023, which is excluded from the future minimum lease payments table below. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 3.99 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.40 % which was used to measure its finance lease liability. The weighted average remaining lease term was 4.55 years and 2.23 years for operating and finance leases, respectively, as of June 30, 2023. 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS As of June 30, 2023, the maturities of the Company’s future minimum lease payments were as follows (in thousands): Operating Lease Liability Finance Lease Liability July 1, 2023 through December 31, 2023 $ 677 $ 76 2024 3,571 116 2025 3,586 76 2026 3,362 15 2027 3,150 — 2028 1,064 — Total undiscounted future minimum lease payments $ 15,410 $ 283 L difference between undiscounted lease payments and discounted lease liabiliti ( 1,469 ) ( 29 ) Total lease liabilities $ 13,941 $ 254 The components of lease expenses were as follows: Three Months Ended Six Months Ended June 30, June 30, 2023 2022 2023 2022 Lease Operating lease Total operating lease expense $ 1,121 $ 1,113 $ 2,242 $ 2,219 Finance lease Total amortization of leased assets 29 29 59 59 Interest on lease liabilities 7 9 14 19 Total net lease cost $ 1,157 $ 1,151 $ 2,315 $ 2,297 For the three months ended June 30, 2023 and 2022, $ 0.1 million and $ 0.2 million, respectively, of operating lease costs were incurred at the Company’s manufacturing and warehouse facility and were included in cost of sales. For the three and six months ended June 30, 2023 and 2022, $ 1.0 million and $ 2.0 million, respectively, of operating lease costs were included in selling, general and administrative expenses on the condensed consolidated statement of income. (14) FAIR VALUE MEASUREMENTS The Company measures the fair value of financial assets and liabilities based on the guidance of ASC 820 “Fair Value Measurements and Disclosures” (“ASC 820”) which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo model. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of June 30, 2023, by level within the fair value hierarc Fair Value Measurements at June 30, 2023 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable June 30, Assets Inputs Inputs 2023 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 6,900 $ — $ — $ 6,900 Total $ 6,900 $ — $ — $ 6,900 The following table sets forth a summary of changes in the contingent consideration for the three months ended June 30, 2023 (in thousands): Contingent Consideration Balance as of December 31, 2022 $ 10,000 Change in fair value of contingent consideration ( 3,100 ) Balance as of June 30, 2023 $ 6,900 (15) CONCENTRATIONS For the three months ended June 30, 2023, the Company sourced approximately 24 % of the supplies for its electrotherapy products from two significant vendors. For the same period in 2022, the Company sourced approximately 58 % of the supplies for its electrotherapy products from four significant vendors. For the six months ended June 30, 2023, the Company sourced approximately 26 % of supplies for its electrotherapy products from two significant vendors. For the same period in 2022, the Company sourced approximately 53 % of supplies for its electrotherapy products from four significant vendors. At June 30, 2023, the Company had no receivables from any third-party payers that made up over 10 % of the net accounts receivable balance. At December 31, 2022, the Company had receivables from one third-party payer which made up approximately 14 % of the net accounts receivable balance. (16) COMMITMENTS AND CONTINGENCIES See Note 13 for details regarding commitments under the Company’s long-term leases. 20 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (17) RELATED PARTIES On May 10, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 common shares of ZYXI from Mr. Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on May 10, 2023 of $ 9.61 per share, resulting in a total transactional value of $ 2,883,000 . On June 13, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 common shares of ZYXI from Mr. Sandgaard at the closing market price on June 13, 2023, of $ 8.62 per share, resulting in a total transactional value of $ 2,586,000 . At the time of each aforementioned transactions, the disinterested Board and Audit Committee Members deemed it to be in the best interest of The Company to purchase the shares as they believe the current market price for the Company’s stock is undervalued and the Company’s cash position is such that the purchase of shares from Mr. Sandgaard is a good use of the Company’s funds at the time of each transaction. For each transaction, the following impacts were discussed before approval of the s (i) the Company’s cash position and capital needs for its continuing operations; (ii) the alternative uses for the cash used to purchase the Sandgaard Shares, including repayment of outstanding indebtedness; (iii) the possible effect on earnings per share and book value per share; (iv) and the potential effect of the trading of the Company’s shares, if Mr. Sandgaard were to sell the shares in the open market. (18) SUBSEQUENT EVENTS No subsequent events identified through July 27, 2023. 21 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2022. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2022 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which include electrotherapy and pain management products. As of June 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which were incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. On June 15, 2023, Zynex, Inc entered into an investor relations consulting agreement with MZHCI, LLC. RESULTS OF OPERATIONS Summary Net revenue was $45.0 million and $36.8 million for the three months ended June 30, 2023 and 2022, respectively, and $87.1 million and $67.8 million for the six months ended June 30, 2023 and 2022, respectively. Net revenue increased 22% and 28% for the three and six-month periods ended June 30, 2023, respectively. Net income was $3.4 million for the three months ended June 30, 2023 compared with $3.3 million during the same period in 2022. Net income was $4.9 million for the six months ended June 30, 2023 compared with $4.7 million during the same period in 2022. Cash provided by operating activities was $2.7 million during the six months ended June 30, 2023 compared with $1.6 million during the same period in 2022. Working capital was $93.5 million and $48.5 million as of June 30, 2023 and December 31, 2022, respectively. 22 Table of Contents Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the condensed financial statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $8.2 million or 22% to $45.0 million for the three months ended June 30, 2023, from $36.8 million for the same period in 2022. Net revenue increased $19.3 million or 28% to $87.1 million for the six months ended June 30, 2023, from $67.8 million for the same period in 2022. For both the three and six-month periods ended June 30, 2023, the growth in net revenue from the same periods in 2022 is primarily related to a 51% and 55% growth in device orders, respectively, which resulted from a larger customer base and led to increased sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our products. Device revenue increased $4.2 million or 45% to $13.7 million for the three months ended June 30, 2023, from $9.5 million for the same period in 2022. Device revenue increased $9.5 million or 58% to $25.7 million for the six months ended June 30, 2023, from $16.2 million for the same period in 2022. For both the three and six-month periods ended June 30, 2023, the growth in net revenue from the same periods in 2022 is primarily related to a 51% and 55% growth in device orders, respectively. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our electrotherapy products. Supplies revenue increased $3.9 million or 15% to $31.2 million for the three months ended June 30, 2023, from $27.3 million for the same period in 2022. Supplies revenue increased $9.8 million or 19% to $61.4 million for the six months ended June 30, 2023, from $51.6 million for the same period in 2022. The increase in supplies revenue is primarily related to an increased customer base from increased device sales in 2022 and 2023. 23 Table of Contents Operating Expenses Cost of Revenue – Devices and Supplies Cost of Revenue – devices and supplies consist primarily of device and supply costs, facilities, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended June 30, 2023 increased 27% to $9.3 million from $7.3 million from the same period in 2022. As a percentage of revenue, cost of revenue – devices and supplies increased to 21% from 20% for the three months ended June 30, 2023 and 2022, respectively. Cost of revenue for the six months ended June 30, 2023 increased 30% to $18.5 million from $14.2 million for the same period in 2022. As a percentage of revenue, cost of revenue – device and supply remained flat at 21% for the six months ended June 30, 2023 and 2022. The increase in cost of revenue – devices and supplies, in the three and six month periods ending June 30, 2023, is due to increased volumes related to higher revenue. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee-related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended June 30, 2023 increased 32% to $21.6 million from $16.3 million for the same period in 2022. The increase in sales and marketing expense is primarily due to increased commission and incentive pay from increased orders, increased headcount of our sales force, and rising wages in the U.S. due to a very competitive job market. As a percentage of revenue, sales and marketing expense increased to 48% from 44% for the three months ended June 30, 2023 and 2022, respectively, primarily due to the aforementioned expenses, offset by increased revenue. Sales and marketing expense for the six months ended June 30, 2023 increased 39% to $42.8 million from $30.7 million for the same period in 2022. The increase in sales and marketing expense is primarily due to increased commission and incentive pay from increased orders, and inflation and rising wages in the U.S. due to a very competitive job market. As a percentage of revenue, sales and marketing expense increased to 49% from 45% for the six months ended June 30, 2023 and 2022, respectively. The increase as a percentage of revenue is primarily due to the additional expenses noted above, slightly offset by the increase in revenue during the period. General and Administrative Expense General and administrative expenses primarily consist of employee-related costs, and other direct costs associated with these personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for the three months ended June 30, 2023 increased 29% to $11.4 million from $8.8 million for the same period in 2022. The increase in general and administrative expense for the three months is primarily due to increased compensation and benefit expense related to headcount growth, and professional fees due to additional external resources and additional compliance fees related to Section 404(b) of the Sarbanes-Oxley Act of 2002. As a percentage of revenue, general and administrative expense increased to 25% for the three months ended June 30, 2023 from 24% for the same period in 2022. The increase as a percentage of revenue is primarily due to the items noted above, partially offset by the increase in revenue during the period. General and administrative expense for the six months ended June 30, 2023 increased 37% to $22.7 million from $16.6 million for the same period in 2022. The increase in general and administrative expense for the six months is primarily due to increased compensation and benefit expense related to headcount growth, increased professional and legal service expenses. As a percentage of revenue, general and administrative expense increased to 26% for the six months ended June 30, 2023 from 24% for the same period in 2022. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by the increase in revenue during the period. Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 18% and 14% for the three and six months ended June 30, 2023, respectively. Discrete items, primarily related to the tax impact of the change in fair value of contingent consideration, of ($1.6) million and ($3.1) million for the three and six months ended June 30, 2023, respectively, are 24 Table of Contents recognized as a benefit against income tax expense. For the three and six months ended June 30, 2023 the Company recorded an income tax expense of approximately $0.7 million and $0.8 million, respectively. The Company recorded income tax expense of $0.8 million and $1.4 million for the three and six months ended June 30, 2022, respectively. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At June 30, 2023, our principal source of liquidity was $58.7 million in cash and $33.0 million in accounts receivable. Net cash provided by operating activities for the six months ended June 30, 2023 was $2.7 million compared with net cash provided by operating activities of $1.6 million for the six months ended June 30, 2022. The increase in cash provided by operating activities for the six months ended June 30, 2023 was primarily due to an increase in net income as well as a decrease in the receivables balance. The increase was partially offset by the change in fair value of contingent consideration. Net cash used in investing activities for the six months ended June 30, 2023 and 2022 was $0.4 million and $0.2 million, respectively. Cash used in investing activities for the six months ended June 30, 2023 was primarily related to the build out of our facility for the operations of ZMS, and the purchase of computer equipment. Cash used in investing activities for the six months ended June 30, 2022 was primarily related to the purchase of leasehold improvements for the operations of the ZMS Boulder location and the purchase of computer equipment. Net cash provided by financing activities for the six months ended June 30, 2023 was $36.3 million compared with net cash used in financing activities of $17.1 million for the same period in 2022. Net cash provided by financing activities for the six months ended June 30, 2023 was primarily due to the proceeds from the issuance of the 2023 Convertible Senior Notes, offset by purchases of treasury stock, and principal payments and termination of long-term debt. Net cash used in financing activities for the six months ended June 30, 2022 was primarily due to purchases of treasury stock, payment of cash dividends in January 2022, and principal payments on long-term debt. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash balance at June 30, 2023 of $58.7 million; ● Our working capital balance of $93.5 million; ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the consolidated financial statements located within our Annual Report on Form 10-K for the year ended December 31, 2022, filed with the Securities and Exchange Commission on March 14, 2023. COVID-19 UPDATE In December 2019, a novel strain of coronavirus (“COVID-19”) emerged and spread to other countries, including the United States. In March 2020, the World Health Organization declared COVID-19 as a pandemic (the “COVID-19 pandemic”). The COVID-19 pandemic, including multiple variants, resulted in governments around the world implementing stringent measures to help control the spread of the virus, including quarantines, “shelter in place” and “stay at home” orders, travel restrictions, business interruptions and other measures. Although the World Health Organization declared an end to the COVID-19 pandemic on May 5, 2023, we continue to actively monitor the impact of COVID-19. While the Company did not incur significant disruptions to its operations during the three months ended June 30, 2023 from COVID-19, the full extent of COVID-19 on our operations and the markets we serve remains uncertain and will depend largely on future developments related to COVID-19, including infection rates increasing or returning in various 25 Table of Contents geographic areas, variations of COVID-19, actions by government authorities to contain the outbreak or treat its impact, such as reimposing previously lifted measures or putting in place additional restrictions, and the widespread distribution and acceptance of an effective vaccine, among other things. Future developments regarding COVID-19 and its effects cannot be accurately predicted. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A. ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Evaluation of disclosure controls and procedures Our management, including our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934), as amended, or the Exchange Act, as of June 30, 2023. Based on management’s review, with participation of our Chief Executive Officer and Chief Financial Officer, the Chief Executive Officer and Chief Financial Officer have concluded that, as of the quarter ended June 30, 2023, our disclosure controls and procedures were not effective due to the material weakness in internal control over financial reporting as described below. Material Weakness in Internal Control We identified a material weakness related to Information Technology General Controls (ITGCs) that were not designed and operating effectively to ensure (i) appropriate segregation of duties was in place to perform program changes and (ii) the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted. The material weakness identified above did not result in any material misstatements in our financial statements or disclosures, and there were no changes to previously released financial results. Our management concluded that the consolidated financial statements included in the Annual Report on Form 10-K, present fairly, in all material respects, our financial position, results of operations, and cash flows for the periods presented in accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP. The effectiveness of our internal control over financial reporting as of December 31, 2022, has been audited by Marcum LLP as stated in their report, which is included in Item 8 of the Annual Report on Form 10-K. Remediation Plan Our management is committed to maintaining a strong internal control environment. In response to the identified material weakness above, management will take comprehensive actions to remediate the material weakness in internal control over financial reporting. We are in the process of developing and implementing remediation plans to address the material weakness described above. Changes in Internal Control over Financial Reporting Except for the items referred to above, there were no changes in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the quarter ended June 30, 2023 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting. Inherent Limitation on the Effectiveness of Internal Control Our management, including our Chief Executive Officer and Chief Financial Officer, do not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by management override of the controls. The design of any system of controls is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with 26 Table of Contents policies or procedures may deteriorate. Due to inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. 27 Table of Contents PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS There have been no material changes from the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022 filed with the SEC on March 14, 2023 and our Quarterly Report on Form 10-Q for the period ended March 31, 2023 filed with the SEC on April 27, 2023. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities Total Number of In Thousands Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan April 1 - May 31, 2023 Share repurchase program (1) 300,000 $ 9.61 300,000 — June 1 - June 30, 2023 Share repurchase program (2) 300,000 $ 8.62 300,000 — Share repurchase program (3) 66,200 $ 9.76 66,200 9,354 Quarter Total Share repurchase program (1) 300,000 $ 9.61 300,000 — Share repurchase program (2) 300,000 $ 8.62 300,000 — Share repurchase program (3) 66,200 $ 9.76 66,200 9,354 (1) On May 10, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chief Executive Officer, at the closing market price on May 10, 2023 of $9.61 per share. (2) On June 13, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chief Executive Officer, at the closing market price on June 13, 2023, of $8.62 per share. (3) Shares were purchased through the Company’s publicly announced share repurchase program dated June 13, 2023. The program expires on June 13, 2024. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION N o n e . 28 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 4.1 Indenture, dated as of May 9, 2023, between Zynex, Inc. and U.S. Bank Trust Company, National Association, as trustee. (incorporated by reference to Exhibit 4.1 of the Company’s Current Report on Form 8-K filed on May 9, 2023) 4.2 Form of certificate representing the 5.00% Convertible Senior Notes due 2023 (included as Exhibit A to Exhibit 4.1) 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB * XBRL Taxonomy Label Linkbase Document 101.PRE * XBRL Presentation Linkbase Document 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith ** Furnished herewith 29 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat July 27, 2023 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 30 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end September 30, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 303 ) 703-4906 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol Name of each exchange on which registered Common Stock, par value $0.001 per share ZYXI NASDAQ Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☒ Non-accelerated filer ☐ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of October 26, 2023 Common Stock, par value $0.001 33,903,777 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of September 30, 2023 (unaudited) and December 31, 2022 3 Unaudited Condensed Consolidated Statements of Income for the three and nine months ended September 30, 2023 and 2022 4 Unaudited Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2023 and 2022 5 Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the three and nine months ended September 30, 2023 and 2022 6 Unaudited Notes to Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 23 Item 3. Quantitative and Qualitative Disclosures About Market Risk 27 Item 4. Controls and Procedures 27 PART II—OTHER INFORMATION 28 Item 1. Legal Proceedings 28 Item 1A. Risk Factors 28 Item 2. Unregistered Sales of Equity Securities, Use of Proceeds, and Issuer Purchases of Equity Securities 28 Item 3. Defaults Upon Senior Securities 28 Item 4. Mine Safety Disclosures 28 Item 5. Other Information 28 Item 6. Exhibits 29 SIGNATURES 30 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES) September 30, 2023 December 31, (unaudited) 2022 ASSETS Current assets: Cash and cash equivalents $ 42,517 $ 20,144 Short-term investments, net 9,924 — Accounts receivable, net 33,288 35,063 Inventory, net 14,186 13,484 Prepaid expenses and other 3,008 868 Total current assets 102,923 69,559 Property and equipment, net 2,468 2,175 Operating lease asset 13,168 12,841 Finance lease asset 637 270 Deposits 409 591 Intangible assets, net of accumulated amortization 8,387 9,067 Goodwill 20,401 20,401 Deferred income taxes 3,036 1,562 Total assets $ 151,429 $ 116,466 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabiliti Accounts payable and accrued expenses 8,050 5,617 Operating lease liability 3,072 2,476 Finance lease liability 210 128 Income taxes payable 1,996 1,995 Current portion of debt — 5,333 Accrued payroll and related taxes 6,515 5,537 Total current liabilities 19,843 21,086 Long-term liabiliti Long-term portion of debt, less issuance costs — 5,293 Convertible senior notes, less issuance costs 57,375 — Contingent consideration — 10,000 Operating lease liability 15,154 13,541 Finance lease liability 475 188 Total liabilities 92,847 50,108 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of September 30, 2023 and December 31, 2022 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,702,560 issued and 34,220,824 outstanding as of September 30, 2023 41,658,132 issued and 36,825,081 outstanding as of December 31, 2022 34 39 Additional paid-in capital 90,543 82,431 Treasury stock of 6,996,129 and 4,253,015 shares at September 30, 2023 and December 31, 2022, respectively, at cost ( 57,560 ) ( 33,160 ) Retained earnings 25,565 17,048 Total stockholders’ equity 58,582 66,358 Total liabilities and stockholders’ equity $ 151,429 $ 116,466 The accompanying notes are an integral part of these condensed consolidated financial statements. 3 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended September 30, For the Nine Months Ended September 30, 2023 2022 2023 2022 NET REVENUE Devices $ 16,855 $ 11,349 $ 42,542 $ 27,579 Supplies 33,060 30,171 94,495 81,783 Total net revenue 49,915 41,520 137,037 109,362 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 9,553 8,391 28,094 22,617 Sales and marketing 22,146 17,212 64,982 47,950 General and administrative 12,731 9,359 35,479 25,967 Total costs of revenue and operating expenses 44,430 34,962 128,555 96,534 Income from operations 5,485 6,558 8,482 12,828 Other income (expense) Gain on sale of fixed assets 37 — 39 — Gain (loss) on change in fair value of contingent consideration ( 245 ) ( 100 ) 2,855 — Interest expense, net ( 327 ) ( 106 ) ( 728 ) ( 345 ) Other income (expense), net ( 535 ) ( 206 ) 2,166 ( 345 ) Income from operations before income taxes 4,950 6,352 10,648 12,483 Income tax expense 1,356 1,479 2,131 2,887 Net income $ 3,594 $ 4,873 $ 8,517 $ 9,596 Net income per sh Basic $ 0.10 $ 0.13 $ 0.24 $ 0.25 Diluted $ 0.10 $ 0.13 $ 0.23 $ 0.24 Weighted average basic shares outstanding 35,531 38,046 36,216 38,881 Weighted average diluted shares outstanding 36,103 38,865 36,866 39,729 The accompanying notes are an integral part of these condensed consolidated financial statements. 4 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) For the Nine Months Ended September 30, 2023 2022 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 8,517 $ 9,596 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation 1,984 1,590 Amortization 1,078 695 Non-cash reserve charges ( 91 ) 65 Stock-based compensation 1,621 1,702 Non-cash lease expense 568 720 Benefit for deferred income taxes ( 1,473 ) ( 772 ) Gain on change in fair value of contingent consideration ( 2,855 ) — Gain on sale of fixed assets ( 39 ) — Change in operating assets and liabiliti Short-term investments ( 114 ) — Accounts receivable 1,775 282 Prepaid and other assets ( 826 ) ( 446 ) Accounts payable and other accrued expenses 3,312 364 Inventory ( 2,071 ) ( 4,801 ) Deposits 182 ( 6 ) Net cash provided by operating activities 11,568 8,989 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 630 ) ( 332 ) Purchase of short-term investments ( 9,810 ) — Proceeds on sale of fixed assets 50 — Net cash used in investing activities ( 10,390 ) ( 332 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 95 ) ( 87 ) Cash dividends paid ( 1 ) ( 3,613 ) Purchase of treasury stock ( 24,402 ) ( 19,811 ) Proceeds from issuance of convertible senior notes, net of issuance costs 57,018 — Proceeds from the issuance of common stock on stock-based awards 33 27 Principal payments on long-term debt ( 10,667 ) ( 4,000 ) Taxes withheld and paid on employees’ equity awards ( 691 ) ( 253 ) Net cash provided by (used in) financing activities 21,195 ( 27,737 ) Net increase (decrease) in cash 22,373 ( 19,080 ) Cash at beginning of period 20,144 42,612 Cash at end of period $ 42,517 $ 23,532 Supplemental disclosure of cash flow informati Cash received (paid) on interest, net $ 452 $ ( 317 ) Cash paid for rent $ ( 2,522 ) $ ( 2,592 ) Cash paid for income taxes $ ( 3,541 ) $ ( 5,028 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 4,214 $ 211 Right-of-use assets obtained in exchange for new finance lease liabilities $ 464 $ — Lease incentive $ 1,400 $ — Vesting of restricted stock awards $ ( 3 ) $ — Inventory transferred to property and equipment under lease $ 1,369 $ 1,191 Capital expenditures not yet paid $ 101 $ 56 Non-cash dividend adjustment $ ( 1 ) $ — The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2021 39,737,890 41 80,397 ( 6,513 ) — 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 39,776,816 $ 41 $ 80,913 $ ( 6,513 ) $ 1,377 $ 75,818 Exercised and vested stock-based awards 178,727 1 11 — — 12 Stock-based compensation expense — — 535 — — 535 Shares of common stock withheld to pay taxes on employees’ equity awards ( 47,603 ) — ( 47 ) — — ( 47 ) Purchase of treasury stock ( 1,504,374 ) ( 2 ) — ( 10,653 ) — ( 10,655 ) Net income — — — — 3,346 3,346 Balance at June 30, 2022 38,403,566 $ 40 $ 81,412 $ ( 17,166 ) $ 4,723 $ 69,009 Exercised and vested stock-based awards, net of tax 68,060 — $ 13 $ — $ — 13 Stock-based compensation expense — — 578 — — 578 Shares of common stock withheld to pay taxes on employees’ equity awards ( 16,681 ) — ( 130 ) — — ( 130 ) Purchase of treasury stock ( 987,451 ) ( 1 ) — ( 9,155 ) — ( 9,156 ) Net income — — — — 4,873 4,873 Balance at September 30, 2022 37,467,494 $ 39 $ 81,873 $ ( 26,321 ) $ 9,596 $ 65,187 Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2022 36,825,081 39 82,431 ( 33,160 ) 17,048 66,358 Exercised and vested stock-based awards 66,045 — 27 — — 27 Stock-based compensation expense — — 307 — — 307 Warrants exercised 10,000 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 22,387 ) — ( 422 ) — — ( 422 ) Purchase of treasury stock ( 232,698 ) — — ( 3,353 ) — ( 3,353 ) Net income — — — — 1,569 1,569 Balance at March 31, 2023 36,646,041 $ 39 $ 82,343 $ ( 36,513 ) $ 18,617 $ 64,486 Exercised and vested stock-based awards 45,626 — 9 — — 9 Stock-based compensation expense — — 660 — — 660 Shares of common stock withheld to pay taxes on employees’ equity awards ( 11,224 ) ( 3 ) ( 124 ) — — ( 127 ) Purchase of treasury stock ( 666,200 ) — — ( 6,115 ) — ( 6,115 ) Net income — — — — 3,354 3,354 Balance at June 30, 2023 36,014,243 $ 36 $ 82,888 $ ( 42,628 ) $ 21,971 $ 62,267 Exercised and vested stock-based awards 69,915 — 1 — — 1 Stock-based compensation expense — — 654 — — 654 Shares of common stock withheld to pay taxes on employees’ equity awards ( 19,118 ) — ( 145 ) — — ( 145 ) Purchase of treasury stock ( 1,844,216 ) ( 2 ) — ( 14,932 ) — ( 14,934 ) Escrow share lock-up adjustment — — 7,145 — — 7,145 Net income — — — — 3,594 3,594 Balance at September 30, 2023 34,220,824 $ 34 90,543 $ ( 57,560 ) $ 25,565 $ 58,582 The accompanying notes are an integral part of these condensed consolidated financial statements. 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of September 30, 2023, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100 % of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the nine months ended September 30, 2023 and 2022, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. Unaudited Condensed Consolidated Financial Statements The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. Amounts as of December 31, 2022, are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of September 30, 2023 and the results of its operations and its cash flows for the periods presented. The results of operations for the nine months ended September 30, 2023 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying condensed consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying condensed consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, assumptions related to the valuation of contingent consideration, and valuation of long-lived assets and realizability of deferred tax assets. Cash, Cash Equivalents, and Short-Term Investments Cash equivalents consist of highly liquid investments with remaining maturities of three months or less at the date of purchase. We classify investments with maturities of greater than three months but less than one year as short-term investments. Short-term investments are classified as held-to-maturity as the Company has the positive intent and ability to hold the investments until maturity. Held-to-maturity investments are carried at amortized cost. Due to the short-term nature, the carrying amounts reported in the consolidated balance sheet approximate fair value. Accounts Receivable, Net The Company’s accounts receivable represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. The Company maintains a constraint for third-party payer refund requests, deductions and adjustments. See Note 15 – Concentrations for discussion of significant customer accounts receivable balances. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing. The Company utilizes the simplified test for goodwill impairment. The amount recognized for impairment is equal to the difference between the carrying value and the asset’s fair value. The valuation methods used in the quantitative fair value assessment was a discounted cash flow method and required management to make certain assumptions and estimates regarding certain industry trends and future profitability of our reporting units. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when the performance obligation has been met and the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when the performance obligation has been met and the product has been transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The following table provides a breakdown of disaggregated net revenues for the three and nine months ended September 30, 2023 and 2022 related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606”), leases subject to ASC 842 – “Leases” (“ASC 842”), and supplies (in thousands): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2023 2022 2023 2022 Device revenue Purchased $ 7,022 $ 2,900 $ 16,444 $ 7,357 Leased 9,833 8,449 26,098 20,222 Total device revenue $ 16,855 $ 11,349 $ 42,542 $ 27,579 Supplies revenue 33,060 30,171 94,495 81,783 Total revenue $ 49,915 $ 41,520 $ 137,037 $ 109,362 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s condensed consolidated balance sheets. For additional information on the leases where the Company is the lessee, see Note 14 - Leases. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying condensed consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision-Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The Inflation Reduction Act (“IRA”) was enacted into law on August 16, 2022. Included in the IRA was a provision to implement a 15% corporate alternative minimum tax on corporations whose average annual adjusted financial statement income during the most recently completed three year period exceeds $1 billion. This provision is effective for tax years beginning after December 31, 2022. We are in the process of evaluating the provisions of the IRA, but we do not currently believe the IRA will have a material impact on our reported results, cash flows or financial position when it becomes effective. Recent Accounting Pronouncements On October 9, 2023, the Financial Accounting Standards Board (“FASB”) issued ASU (“Accounting Standards Update”) 2023-06 which amends the disclosure or presentation requirements related to various subtopics in the FASB ASC. The amendments in ASU 2023-06 modify the disclosure or presentation requirements of a variety of Topics in the ASC. Certain of the amendments represent clarifications to or technical corrections of the current requirements. For entities subject to the SEC’s existing disclosure requirements and for entities required to file or furnish financial statements with or to the SEC in preparation for the sale of or for purposes of issuing securities that are not subject to contractual restrictions on transfer, the effective date for each amendment will be the date on which the SEC’s removal of that related disclosure from Regulation S-X or Regulation S-K becomes effective, with early adoption prohibited. For all entities, if by June 30, 2027, the SEC has not removed the applicable requirement from Regulation S-X or Regulation S-K, the pending content of the related amendment will be removed from the Codification and will not become effective for any entity. Management is evaluating the impacts of the recently issued ASU. Management does not believe that any other recently issued accounting pronouncements will have a material impact on the Company’s consolidated financial statements. (3) FAIR VALUE OF FINANCIAL INSTRUMENTS ASC 820, Fair Value Measurements (“ASC 820”) states that fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or a liability. The three-tiered fair value hierarchy, which prioritizes which inputs should be used in measuring fair value, is comprised o (Level I) observable inputs such as quoted prices in active markets; (Level II) inputs other than quoted prices in active markets that are observable either directly or indirectly and (Level III) unobservable inputs for which there is little or no market data. The fair value hierarchy requires the use of observable market data when available in determining fair value. The Company’s asset and liability classified financial instruments include cash and cash equivalents, short-term investments, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash and equivalents, short-term investments, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. During the year ended December 31, 2022 the Company did not have any cash equivalents or short-term investments. The following table shows the Company’s cash, cash equivalents and short-term investments by significant investment category as of September 30, 2023 (in thousands): September 30, 2023 Cash and Short Investment Fair Cash Term Cost Gains Value Equivalents Investments Cash (1) 12,579 - 12,579 12,579 - U.S. Treasury Securities (2) 39,446 416 39,862 29,938 9,924 Total 52,025 416 52,441 42,517 9,924 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (1) Level I fair value estimates are based on observable inputs such as quoted prices in active markets. (2) Level II fair value estimates are based on observable inputs other than quoted prices in active markets for identical assets and liabilities, quoted prices for identical or similar assets or liabilities in inactive markets, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities . The fair value of acquisition-related contingent consideration was based on a Monte Carlo model prior to September 30, 2023 which was included in Level III of the fair value hierarchy. See Note 6 - Business Combinations for additional details on the removal of contingent consideration during the quarter ended September 30, 2023. The following table sets forth a summary of changes in the contingent consideration for the nine months ended September 30, 2023 (in thousands): Contingent Consideration Balance as of December 31, 2022 $ 10,000 Change in fair value of contingent consideration ( 2,855 ) Escrow share adjustment ( 7,145 ) Balance as of September 30, 2023 $ — (4) INVENTORY The components of inventory are as follows (in thousands): September 30, 2023 December 31, 2022 Raw materials $ 3,408 $ 3,506 Work-in-process 1,419 1,205 Finished goods 8,573 7,750 Inventory in transit 1,054 1,291 $ 14,454 $ 13,752 L reserve ( 268 ) ( 268 ) $ 14,186 $ 13,484 (5) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): September 30, 2023 December 31, 2022 Property and equipment Office furniture and equipment $ 3,190 $ 2,819 Assembly equipment 212 110 Vehicles 151 203 Leasehold improvements 1,173 1,173 Leased devices 1,332 1,162 Capital projects 234 — $ 6,292 $ 5,467 Less accumulated depreciation ( 3,824 ) ( 3,292 ) $ 2,468 $ 2,175 Total depreciation expense related to our property and equipment was $ 0.2 million and $ 0.1 million for the three months ended September 30, 2023 and 2022, respectively. Depreciation expense for the nine months ended September 30, 2023 and 2022, was $ 0.6 million and $ 0.5 million, respectively. 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Total depreciation expense related to devices out on lease was $ 0.5 million and $ 0.3 million for the three months ended September 30, 2023 and 2022, respectively. Depreciation expense related to devices out on lease was $ 1.4 million and $ 1.0 million for the nine months ended September 30, 2023 and 2022, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units which are still with patients for which the Company cannot determine the current status. (6) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the “Selling Shareholders”). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,467,785 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares were subject to a lock-up agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 978,524 of the Zynex Shares were deposited in escrow (the “Escrow Shares”). The number of Escrow Shares were subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. The Escrow Shares were adjusted on the anniversary date, which resulted in the cancellation of 156,673 Escrow Shares. Half of the Escrow Shares were to be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell the Device in the United States. The other half of the Escrow Shares were to be released upon determination by the FDA that the Device can be marketed and sold in the United States. On July 27, 2023, the Company, ZMS, Kestrel, and the Selling Shareholders, entered into an amendment to the Stock Purchase Agreement (the “Amendment”). The parties entered into the Amendment to modify certain terms of the Agreement related to the conditions to be satisfied for the release of the Escrow Shares to the Selling Shareholders. The Escrow Shares were released from escrow, simultaneously, the selling stockholders entered into a lock-up agreement. The lock-up agreement includes two lock-up periods which release certain restrictions on the Selling Shareholders on December 31, 2023 and June 30, 2024, respectively. The amount of Escrow Shares were recalculated at September 30, 2022, and are included in the calculation of diluted earnings per share for September 30, 2022. No additional calculation was required at September 30, 2023, as the Escrow Shares were released from escrow, and the shares are included in the Company’s calculation of basic earnings per share. The acquisition of Kestrel has been accounted for as a business combination under ASC 805 – “Business Combinations” (“ASC 805”). Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. (7) GOODWILL AND OTHER INTANGIBLE ASSETS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in Goodwill of $ 20.4 million (see Note 6 – Business Combinations). As of September 30, 2023, there was no change in the carrying amount of goodwill, and there were no impairment indicators of the Company’s net asset value. 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The following table provides the summary of the Company’s intangible assets as of September 30, 2023. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents at December 31, 2022 $ 10,000 $ ( 933 ) $ 9,067 10.00 Amortization expense ( 680 ) ( 680 ) Acquired patents at September 30, 2023 $ 10,000 $ ( 1,613 ) $ 8,387 9.23 The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2023, next five fiscal years, and periods thereaf December 31, (In thousands) October 1, 2023 through December 31, 2023 229 2024 911 2025 908 2026 908 2027 908 Thereafter 4,523 Total future amortization expense $ 8,387 (8) EARNINGS PER SHARE Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period. Dilution resulting from stock-based compensation plans is determined using the treasury stock method and dilution resulting from the 2023 Convertible Senior Notes is determined using the if-converted method. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. The calculation of basic and diluted earnings per share for the three and nine months ended September 30, 2023 and 2022 are as follows (in thousands, except per share data): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2023 2022 2023 2022 Basic earnings per share Net income $ 3,594 $ 4,873 $ 8,517 $ 9,596 Basic weighted average shares outstanding 35,531 38,046 36,216 38,881 Basic earnings per share $ 0.10 0.13 0.24 0.25 Diluted earnings per share Net income $ 3,594 4,873 8,517 9,596 Weighted average shares outstanding 35,531 38,046 36,216 38,881 Effect of dilutive securities - options and restricted stock 572 819 650 848 Diluted weighted-average shares outstanding 36,103 38,865 36,866 39,729 Diluted earnings per share $ 0.10 0.13 $ 0.23 $ 0.24 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS For the three and nine months ended September 30, 2023, equity grants of 92,000 and 34,000 shares of common stock, respectively, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. For the three and nine months ended September 30, 2022, equity grants of 6,000 and 22,000 shares of common stock, respectively, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. For the three and nine months ended September 30, 2023, conversion options to purchase 5.6 million and 3.0 million shares, respectively, resulting from the 2023 Convertible Senior Notes, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive (see Note 10 – Convertible Senior Notes). (9) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets were pledged as collateral. One facility was a line of credit in the amount of $ 4.0 million available until December 1, 2024 (the “Facility 1”). Interest on Facility 1 was due on the first day of each month beginning January 1, 2022. The interest rate was an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . The Company did not utilize the facility during the three and nine months ended September 30, 2023 and September 30, 2022. During May 2023, the facility was terminated. The other facility extended by the Bank to the Company was a fixed rate term loan in the amount of up to $ 16.0 million (the “Facility 2”). Facility 2 was entered into and funded in conjunction with the purchase of Kestrel Labs at an interest rate equal to 2.8 % per year. The Company had to pay interest on the first day of each month which began January 1, 2022 and the Company also repaid the principal amount in equal installments of $ 444,444 per month. All unpaid interest and principal on Facility 2 was fully paid off and the Facility was terminated during May 2023. (10) CONVERTIBLE SENIOR NOTES In May 2023, the Company issued $ 52.5 million aggregate principal amount of 5.00 % Convertible Senior Notes due May 15, 2026 (the “2023 Convertible Senior Notes”). In May 2023, the Company issued an additional $ 7.5 million aggregate principal amount of the 2023 Convertible Senior Notes upon the exercise by the initial purchasers of their over-allotment option. Interest on the 2023 Convertible Senior Notes is payable semiannually in arrears, beginning November 15, 2023. The 2023 Convertible Senior Notes will mature on May 15, 2026, unless earlier converted or repurchased, and are redeemable at the option of the Company on or after May 20, 2025. The 2023 Convertible Senior Notes are direct, unsecured, and unsubordinated obligations of the Company, ranking equally with all of the Company’s other unsecured and unsubordinated indebtedness from time to time outstanding, and are effectively subordinated to all secured indebtedness of the Company. Holders may convert their 2023 Convertible Senior Notes at their option prior to the close of business on the business day preceding September 30, 2023, but only under the following circumstanc during any calendar quarter (and only during such calendar quarter), if the last reported sale price of the Company’s common stock for at least twenty trading days (whether or not consecutive) during the period of thirty consecutive trading days ending on, and including, the last trading day of the immediately preceding calendar quarter is greater than or equal to 130 % of the conversion price on each applicable trading day as determined by the Company; during the five business day period after any ten consecutive trading day period (the “Measurement Period”) in which the trading price per $ 1,000 principal amount of 2023 Convertible Senior Notes for each trading day of the Measurement Period was less than 98 % of the product of the last reported sale price of the common stock and the conversion rate on each such trading day; or upon the occurrence of certain corporate events specified in the indenture governing the 2023 Convertible Senior Notes. On or after February 15, 2026, a holder may convert all or any portion of its 2023 Convertible Senior Notes at any time prior to the close of business on the second scheduled trading day immediately preceding the maturity date regardless of the foregoing conditions. The Company will settle conversions of the 2023 Convertible Senior Notes by paying cash up to the aggregate principal amount of the 2023 Convertible Senior Notes to be converted and paying or delivering, as the case may be, cash, shares of common stock or a 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS combination of cash and shares of common stock, at the Company’s election, in respect of the remainder, if any, of the Company's conversion obligation in excess of the aggregate principal amount of the 2023 Convertible Senior Notes being converted. The 2023 Convertible Senior Notes are initially convertible at a rate of 92.8031 shares of common stock per $ 1,000 principal amount converted, which is approximately equal to $ 10.78 per share of common stock. The conversion rate will be subject to adjustment upon the occurrence of certain specified events but will not be adjusted for accrued and unpaid interest. In addition, upon the occurrence of a make-whole fundamental change, which includes certain change in control transactions, the approval by Zynex’s stockholders of any plan or proposal for the liquidation or dissolution of Zynex and certain de-listing events with respect to Zynex’s common stock, the Company will, in certain circumstances, increase the conversion rate by a number of additional shares of common stock for conversions in connection with the make-whole fundamental change. Upon the occurrence of a fundamental change, holders of the 2023 Convertible Senior Notes may require the Company to purchase all or a portion of their 2023 Convertible Senior Notes, in principal amounts equal to $ 1,000 or an integral multiple thereof, for cash at a price equal to 100 % of the principal amount of the 2023 Convertible Senior Notes to be purchased plus any accrued and unpaid interest. The following table summarizes the minimum interest payments over the remainder of 2023 and next three fiscal years until maturity in May 2026. (In thousands) October 1, 2023 through December 31, 2023 $ 1,592 2024 3,050 2025 3,042 2026 1,508 (11) STOCK-BASED COMPENSATION PLANS In June 2017, our stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5,500,000 shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of our common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon grant and are not included in outstanding shares until such vesting and issuance occurs. During the three and nine months ended September 30, 2023, no stock option awards were granted under the 2017 Stock Plan. During the three months ended September 30, 2022 no stock option awards were granted under the 2017 Stock Plan. During the nine months ended September 30, 2022, 200,000 stock option awards were granted under the 2017 Stock Plan. At September 30, 2023, the Company had 0.6 million stock options outstanding and 0.6 million exercisable under the following pla Outstanding Exercisable Number of Options Number of Options Outstanding Number of Options Exercisable Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 211 211 2017 Stock Option Plan 351 351 Total 562 562 During the three and nine months ended September 30, 2023, 86,000 and 223,000 shares of restricted stock were granted under the 2017 Stock Plan, respectively. During the three and nine months ended September 30, 2022, 50,000 and 143,000 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on restricted stock awards typically occur quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The following summarizes stock-based compensation expenses recorded in the condensed consolidated statements of income (in thousands): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2023 2022 2023 2022 Cost of Revenue $ 10 $ 13 $ 26 $ 40 Sales and marketing expense 53 16 182 130 General, and administrative 591 549 1,413 1,532 Total stock based compensation expense $ 654 $ 578 $ 1,621 $ 1,702 The Company received proceeds of $ 0.1 million related to option exercises during the three and nine months ended September 30, 2023. The Company received proceeds of $ 0.1 million related to option exercises during each of the three and nine months ended September 30, 2022. No stock option awards were granted by the Company during the three and nine months ended September 30, 2023. A summary of stock option activity under all equity compensation plans for the nine months ended September 30, 2023, is presented be Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2022 793 $ 2.67 5.03 $ 8,908 Granted — $ — Forfeited ( 206 ) $ 6.30 Exercised ( 25 ) $ 5.36 Outstanding at September 30, 2023 562 $ 1.22 2.80 $ 3,807 Exercisable at September 30, 2023 562 $ 1.22 2.80 $ 3,807 A summary of restricted stock award activity under all equity compensation plans for the nine months ended September 30, 2023, is presented be Number of Shares Weighted Average (in thousands) Grant Date Fair Value Granted but not vested at December 31, 2022 431 $ 11.92 Granted 223 9.88 Forfeited ( 11 ) 11.71 Vested ( 157 ) 11.90 Granted but not vested at September 30, 2023 486 $ 11.82 As of September 30, 2023, the Company had approximately $ 4.5 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.4 years. (12) STOCKHOLDERS’ EQUITY Treasury Stock On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through October 4, 2022, the Company purchased 1,091,604 shares of its common stock for $ 10.0 million for an average price of $ 9.06 per share which completed this program. On October 31, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through October 31, 2023. From the inception of the plan through December 31, 2022, the Company purchased 495,138 shares of its common stock for $ 6.6 million or an average price of $ 13.43 per share. From the inception of the plan through March 31, 2023, the Company purchased 727,836 shares of its common stock for $ 10 million or an average price of $ 13.74 per share which completed this program. On May 10, 2023, the disinterested members of the Board of Directors and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on May 10, 2023 of $ 9.61 per share for $ 2.9 million. See Note 17 - Related Parties for additional information. On June 13, 2023, the disinterested members of the Board of Directors and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on June 13, 2023, of $ 8.62 per share for $ 2.6 million. See Note 17 - Related Parties for additional information. On June 13, 2023, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 13, 2024. From the inception of the plan through September 30 2023, the Company purchased 1,242,892 shares of its common stock for $ 10.0 million or an average price of $ 8.05 per share, which completed this program. On September 11, 2023, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through September 13, 2024. From the inception of the plan through September 30 2023, the Company purchased 667,524 shares of its common stock for $ 5.6 million or an average price of $ 8.36 per share. Warrants A summary of stock warrant activity for the nine months ended September 30, 2023 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2022 99 $ 2.39 1.76 $ 1,140 Granted — $ — Exercised ( 8 ) $ 2.27 Forfeited ( 2 ) $ — Outstanding and exercisable at September 30, 2023 89 $ 2.41 1.02 $ 497 (13) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits or expense from stock option exercises, the tax impact of the change in fair value of contingent consideration, and true ups related to the filed tax return. For the three months ended September 30, 2023 and 2022 discrete items adjusted were $ 1.1 million and $ 0.2 million, respectively. For the nine months ended September 30, 2023 and 2022 discrete items adjusted were ($ 2.1 ) million and ($ 0.2 ) million, respectively. At September 30, 2023 and 2022, the Company is estimating an 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS annual effective tax rate of approximately 25 % and 23 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 20 % and 23 % for the nine months ended September 30, 2023 and 2022, respectively. The decrease in the Company’s effective income tax rate for the nine months ended September 30, 2023 compared to the same period in 2022, is primarily related to the tax impact of discrete items, in particular the change in fair value of contingent consideration recorded during the year which is not expected to be taxable. The Company recorded income tax expense of $ 1.4 million and $ 2.1 million for the three and nine months ended September 30, 2023, respectively, and income tax expense of $ 1.5 million and $ 2.9 million for the three and nine months ended September 30, 2022, respectively. Taxes of $ 3.5 million and $ 5.0 million were paid during the nine months ended September 30, 2023 and 2022, respectively. (14) LEASES The Company categorizes leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During February 2023, the Company entered into a lease agreement for approximately 41,427 square feet of office space for the operations of ZMS in Englewood, CO. The lease commences on July 1, 2023 and runs through December 31, 2028. At the expiration of the lease term the Company has the option to renew the lease for one additional five year period. The Company is entitled to rent abatements for the first six months of the lease and tenant improvement allowances. Payments based on the initial rate of $ 24.75 per square foot begin in January 2024. The price per square foot increases by an additional $ 0.50 during each subsequent twelve-month period of the lease after the abatement period. Upon lease commencement, the Company recorded an operating lease liability of $ 4.2 million and a corresponding right-of-use asset for $ 2.8 million. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.75 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 3.03 % which was used to measure its finance lease liability. The weighted average remaining lease term was 4.55 years and 4.09 years for operating and finance leases, respectively, as of September 30, 2023. As of September 30, 2023, the maturities of the Company’s future minimum lease payments were as follows (in thousands): Operating Lease Liability Finance Lease Liability October 1, 2023 through December 31, 2023 $ 533 $ 37 2024 4,511 209 2025 4,632 169 2026 4,428 108 2027 4,237 93 2028 2,172 93 Total undiscounted future minimum lease payments $ 20,513 $ 709 L difference between undiscounted lease payments and discounted lease liabiliti ( 2,287 ) ( 24 ) Total lease liabilities $ 18,226 $ 685 20 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The components of lease expenses were as follows: Three Months Ended Nine Months Ended September 30, September 30, 2023 2022 2023 2022 Lease Operating lease Total operating lease expense $ 889 $ 1,125 $ 3,131 $ 3,344 Finance lease Total amortization of leased assets 37 30 96 89 Interest on lease liabilities 5 9 19 28 Total net lease cost $ 931 $ 1,164 $ 3,246 $ 3,461 For the three months ended September 30, 2023 and 2022, $ 0.8 million and $ 1.0 million, respectively, of operating lease costs were included in selling, general and administrative expenses on the condensed consolidated statement of income. For the nine months ended September 30, 2023 and 2022, $ 2.9 million and $ 3.1 million, respectively, of operating lease costs were included in selling, general and administrative expenses on the condensed consolidated statement of income. All other operating lease costs were incurred at the Company’s manufacturing and warehouse facility and were included in cost of sales for the three and nine months ended September 30, 2023 and 2022. (15) CONCENTRATIONS For the three months ended September 30, 2023, the Company sourced approximately 57 % of the supplies for its electrotherapy products from four significant vendors. For the same period in 2022, the Company sourced approximately 39 % of the supplies for its electrotherapy products from two significant vendors. For the nine months ended September 30, 2023, the Company sourced approximately 47 % of supplies for its electrotherapy products from four significant vendors. For the same period in 2022, the Company sourced approximately 33 % of supplies for its electrotherapy products from two significant vendors. At September 30, 2023, the Company had no receivables from any third-party payers that made up over 10 % of the net accounts receivable balance. At December 31, 2022, the Company had receivables from one third-party payer which made up approximately 14 % of the net accounts receivable balance. (16) COMMITMENTS AND CONTINGENCIES See Note 14 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (17) RELATED PARTIES On May 10, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 common shares of ZYXI from Mr. Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on May 10, 2023 of $ 9.61 per share, resulting in a total transactional value of $ 2,883,000 . On June 13, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 common shares of ZYXI from Mr. Sandgaard at the closing market price on June 13, 2023, of $ 8.62 per share, resulting in a total transactional value of $ 2,586,000 . 21 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS At the time of each aforementioned transactions, the disinterested Board and Audit Committee Members deemed it to be in the best interest of The Company to purchase the shares as they believe the current market price for the Company’s stock is undervalued and the Company’s cash position is such that the purchase of shares from Mr. Sandgaard is a good use of the Company’s funds at the time of each transaction. For each transaction, the following impacts were discussed before approval of the s (i) the Company’s cash position and capital needs for its continuing operations; (ii) the alternative uses for the cash used to purchase the Sandgaard Shares, including repayment of outstanding indebtedness; (iii) the possible effect on earnings per share and book value per share; (iv) and the potential effect of the trading of the Company’s shares, if Mr. Sandgaard were to sell the shares in the open market. (18) SUBSEQUENT EVENTS There were no subsequent events identified through October 26, 2023. 22 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2022. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2022 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which include electrotherapy and pain management products. As of September 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which were incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. RESULTS OF OPERATIONS Summary Net revenue was $49.9 million and $41.5 million for the three months ended September 30, 2023 and 2022, respectively, and $137.0 million and $109.4 million for the nine months ended September 30, 2023 and 2022, respectively. Net revenue increased 20% and 25% for the three and nine months ended September 30, 2023, respectively. For both the three and nine months ended September 30, 2023, device orders increased 39% and 49%, respectively, from the same periods in 2022. Net income was $3.6 million for the three months ended September 30, 2023 compared with $4.9 million during the same period in 2022. Net income was $8.5 million for the nine months ended September 30, 2023 compared with $9.6 million during the same period in 2022. Cash provided by operating activities was $11.6 million during the nine months ended September 30, 2023 compared with $9.0 million during the same period in 2022. Working capital was $83.1 million and $48.5 million as of September 30, 2023 and December 31, 2022, respectively. 23 Table of Contents Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the condensed financial statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $8.4 million or 20% to $49.9 million for the three months ended September 30, 2023, from $41.5 million for the same period in 2022. Net revenue increased $27.7 million or 25% to $137.0 million for the nine months ended September 30, 2023, from $109.4 million for the same period in 2022. For both the three and nine months ended September 30, 2023, the growth in net revenue from the same periods in 2022 is primarily related to a 39% and 49% growth in device orders, respectively, which resulted from a larger customer base and led to increased sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our products. Device revenue increased $5.5 million or 49% to $16.9 million for the three months ended September 30, 2023, from $11.3 million for the same period in 2022. Device revenue increased $15.0 million or 54% to $42.5 million for the nine months ended September 30, 2023, from $27.6 million for the same period in 2022. For both the three and nine months ended September 30, 2023, the growth in net revenue from the same periods in 2022 is primarily related to a 39% and 49% growth in device orders, respectively. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our electrotherapy products. Supplies revenue increased $2.9 million or 10% to $33.1 million for the three months ended September 30, 2023, from $30.2 million for the same period in 2022. Supplies revenue increased $12.7 million or 16% to $94.5 million for the nine months ended September 30, 2023, from $81.8 million for the same period in 2022. The increase in supplies revenue is primarily related to an increased customer base from increased device orders in 2022 and 2023. 24 Table of Contents Operating Expenses Cost of Revenue – Devices and Supplies Cost of Revenue – devices and supplies consist primarily of device and supply costs, facilities, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended September 30, 2023 increased $1.2 million or 14% to $9.6 million from $8.4 million from the same period in 2022. As a percentage of revenue, cost of revenue – devices and supplies decreased to 19% from 20% for the three months ended September 30, 2023 and 2022, respectively. Cost of revenue for the nine months ended September 30, 2023 increased $5.5 million or 24% to $28.1 million from $22.6 million for the same period in 2022. As a percentage of revenue, cost of revenue – device and supply remained flat at 21% for the nine months ended September 30, 2023 and 2022. The increase in cost of revenue – devices and supplies, in the three and nine months ended September 30, 2023, is due to increased volumes related to higher revenue. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee-related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended September 30, 2023 increased $4.9 million or 29% to $22.1 million from $17.2 million for the same period in 2022. The increase in sales and marketing expense is primarily due to increased commission and incentive pay from increased orders, increased headcount of our sales force, and rising wages in the U.S. due to a very competitive job market. As a percentage of revenue, sales and marketing expense increased to 44% from 41% for the three months ended September 30, 2023 and 2022, respectively, primarily due to the aforementioned expenses, offset by increased revenue. Sales and marketing expense for the nine months ended September 30, 2023 increased $17.0 million or 36% to $65.0 million from $48.0 million for the same period in 2022. The increase in sales and marketing expense is primarily due to increased commission and incentive pay from increased orders, and inflation and rising wages in the U.S. due to a very competitive job market. As a percentage of revenue, sales and marketing expense increased to 47% from 44% for the nine months ended September 30, 2023 and 2022, respectively. The increase as a percentage of revenue is primarily due to the additional expenses noted above, slightly offset by the increase in revenue during the period. General and Administrative Expense General and administrative expenses primarily consist of employee-related costs, and other direct costs associated with these personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for the three months ended September 30, 2023 increased $3.4 million or 36% to $12.7 million from $9.4 million for the same period in 2022. The increase in general and administrative expense for the three months is primarily due to increased compensation and benefit expense related to headcount growth at ZMS and within the billing departments, and professional fees due to additional external resources and additional compliance fees related to Section 404(b) of the Sarbanes-Oxley Act of 2002. As a percentage of revenue, general and administrative expense increased to increased to 26% for the three months ended September 30, 2023 from 23% for the same period in 2022. The increase as a percentage of revenue is primarily due to the items noted above, partially offset by the increase in revenue during the period. General and administrative expense for the nine months ended September 30, 2023 increased $9.5 million or 37% to $35.5 million from $26.0 million for the same period in 2022. The increase in general and administrative expense for the nine months is primarily due to increased compensation and benefit expense related to headcount growth at ZMS and within the billing departments, and increased professional and legal service expenses. As a percentage of revenue, general and administrative expense increased to 26% for the nine months ended September 30, 2023 from 24% for the same period in 2022. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by the increase in revenue during the period. Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 27% and 20% for the three and nine months ended September 30, 2023, respectively. Discrete items, primarily related to the tax impact of the change in fair 25 Table of Contents value of contingent consideration, of $(0.2) million and $2.9 million for the three and nine months ended September 30, 2023, respectively, are recognized as a benefit against income tax expense. For the three and nine months ended September 30, 2023 the Company recorded an income tax expense of approximately $1.4 million and $2.1 million, respectively. The Company recorded income tax expense of $1.5 million and $2.9 million for the three and nine months ended September 30, 2022, respectively. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At September 30, 2023, our principal source of liquidity was $42.5 million in cash and cash equivalents, $9.9 million in short-term investments and $33.3 million in accounts receivable. Net cash provided by operating activities for the nine months ended September 30, 2023 was $11.6 million compared with net cash provided by operating activities of $9.0 million for the nine months ended September 30, 2022. The increase in cash provided by operating activities for the nine months ended September 30, 2023 was primarily due to a decrease in the receivables balance and a decrease in inventory. The increase was partially offset by the change in fair value of contingent consideration. Net cash used in investing activities for the nine months ended September 30, 2023 and 2022 was $10.4 million and $0.3 million, respectively. Cash used in investing activities for the nine months ended September 30, 2023 was primarily related to the purchase of short-term investments, and purchases of property and equipment related to the build out of our facility for the operations of ZMS. Cash used in investing activities for the nine months ended September 30, 2022 was primarily related to the purchase of leasehold improvements for the operations of the ZMS Boulder location and the purchase of computer equipment. Net cash provided by financing activities for the nine months ended September 30, 2023 was $21.2 million compared with net cash used in financing activities of $27.7 million for the same period in 2022. Net cash provided by financing activities for the nine months ended September 30, 2023 was primarily due to $57.0 million in net proceeds from the issuance of the 2023 Convertible Senior Notes, offset by purchases of $24.4 million in treasury stock, and principal payments and termination payments on long-term debt totaling $10.7 million. Net cash used in financing activities for the nine months ended September 30, 2022 was primarily due to purchases of $19.8 million in treasury stock, payments of $3.6 million for cash dividends in January 2022, and principal payments on long-term debt totaling $4.0 million. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash and cash equivalents balance at September 30, 2023 of $42.5 million; ● Our working capital balance of $83.1 million; ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the consolidated financial statements located within our Annual Report on Form 10-K for the year ended December 31, 2022, filed with the Securities and Exchange Commission on March 14, 2023. COVID-19 UPDATE In December 2019, a novel strain of coronavirus (“COVID-19”) emerged and spread to other countries, including the United States. In March 2020, the World Health Organization declared COVID-19 as a pandemic (the “COVID-19 pandemic”). The COVID-19 pandemic, including multiple variants, resulted in governments around the world implementing stringent measures to help control the spread of the virus, including quarantines, “shelter in place” and “stay at home” orders, travel restrictions, business interruptions and other measures. 26 Table of Contents Although the World Health Organization declared an end to the COVID-19 pandemic on May 5, 2023, we continue to actively monitor the impact of COVID-19. While the Company did not incur significant disruptions to its operations during the three and nine months ended September 30, 2023 from COVID-19, the full extent of COVID-19 on our operations and the markets we serve remains uncertain and will depend largely on future developments related to COVID-19, including infection rates increasing or returning in various geographic areas, variations of COVID-19, actions by government authorities to contain the outbreak or treat its impact, such as reimposing previously lifted measures or putting in place additional restrictions, and the widespread distribution and acceptance of an effective vaccine, among other things. Future developments regarding COVID-19 and its effects cannot be accurately predicted. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A. ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Evaluation of disclosure controls and procedures Our management, including our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934), as amended, or the Exchange Act, as of September 30, 2023. Based on management’s review, with participation of our Chief Executive Officer and Chief Financial Officer, the Chief Executive Officer and Chief Financial Officer have concluded that, as of the quarter ended September 30, 2023, our disclosure controls and procedures were not effective due to the material weakness in internal control over financial reporting as described below. Material Weakness in Internal Control We identified a material weakness related to Information Technology General Controls (ITGCs) that were not designed and operating effectively to ensure (i) appropriate segregation of duties was in place to perform program changes and (ii) the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted. The material weakness identified above did not result in any material misstatements in our financial statements or disclosures, and there were no changes to previously released financial results. Our management concluded that the consolidated financial statements included in the Annual Report on Form 10-K, present fairly, in all material respects, our financial position, results of operations, and cash flows for the periods presented in accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP. The effectiveness of our internal control over financial reporting as of December 31, 2022, has been audited by Marcum LLP as stated in their report, which is included in Item 8 of the Annual Report on Form 10-K. Remediation Plan Our management is committed to maintaining a strong internal control environment. In response to the identified material weakness above, management will take comprehensive actions to remediate the material weakness in internal control over financial reporting. We are in the process of developing and implementing remediation plans to address the material weakness described above. Changes in Internal Control over Financial Reporting Except for the items referred to above, there were no changes in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the quarter ended September 30, 2023 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting. Inherent Limitation on the Effectiveness of Internal Control Our management, including our Chief Executive Officer and Chief Financial Officer, do not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by 27 Table of Contents management override of the controls. The design of any system of controls is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with policies or procedures may deteriorate. Due to inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS There have been no material changes from the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022 filed with the SEC on March 14, 2023. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES, USE OF PROCEEDS , AND ISSUER PURCHASES OF EQUITY SECURITIES Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities Total Number of In Thousands Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan July 1 - August 31, 2023 Share repurchase program (1) 619,216 $ 8.24 685,416 4,253 September 1 - September 30, 2023 Share repurchase program (1) 557,476 $ 8.62 1,242,892 — Share repurchase program (2) 667,524 $ 8.36 667,524 4,420 Quarter Total Share repurchase program (1) 1,176,692 $ 8.42 1,242,892 — Share repurchase program (2) 667,524 $ 8.36 667,524 4,420 (1) Shares were purchased through the Company’s publicly announced share repurchase program dated June 13, 2023. The program was fully utilized during the Company's third quarter. (2) Shares were purchased through the Company’s publicly announced share repurchase program dated September 11, 2023. The program expires on September 13, 2024. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION N o n e . 28 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 10.1 Amendment to Stock Purchase Agreement by and among Kestrel Labs, Inc., Zynex Monitoring Solutions Inc., Zynex, Inc. and Selling Shareholders named herein dated as of July 27, 2023 (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K filed with the SEC on July 31, 2023) 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB * XBRL Taxonomy Label Linkbase Document 101.PRE * XBRL Presentation Linkbase Document 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith ** Furnished herewith 29 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat October 26, 2023 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 30 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-K (Mark One) ☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the year ended December 31, 2021 ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 ZYNEX, INC. (Exact name of registrant as specified in its charter) Nevada 90-0275169 (State or other jurisdiction of incorporation or organization) (IRS Employer Identification No.) 9655 Maroon Circle , Englewood , CO 80112 (Address of principal executive offices) (Zip Code) Registrant’s telephone number, including area co ( 303 ) 703-4906 Securities registered pursuant to Section 12(b) of the Ac Title of each class Ticker symbol(s) Name of each exchange on which registered Common Stock, $0.001 par value per share ZYXI The Nasdaq Stock Market LLC Securities registered pursuant to Section 12(g) of the Ac Title of each class Common Stock, $0.001 par value Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. ◻ Yes ⌧ No Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. ◻ Yes ⌧ No Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. ⌧ Yes ◻ No Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). ⌧ Yes ◻ No Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ◻ Accelerated filer ◻ Non-accelerated filer ⌧ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ◻ Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ◻ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). ◻ Yes ⌧ No The aggregate market value of the registrant’s common stock held by non-affiliates of the registrant as of June 30, 2021, the last business day of the Registrant’s last completed second quarter, based upon the closing price of the common stock as reported by the Nasdaq Stock Market on such date was approximately $ 307.6 million. As of March 18, 2022, 41,454,160 shares of common stock are issued and 39,784,068 shares are outstanding. Documents incorporated by referen Portions of the Registrant’s definitive proxy statement relating to its 2021 annual meeting of shareholders (the “ Proxy Statement”) are incorporated by reference into Part III of this Annual Report on Form 10-K where indicated. The Proxy Statement will be filed with the U.S. Securities and Exchange Commission within 120 days after the end of the fiscal year to which this report relates. Table of Contents TABLE OF CONTENTS ZYNEX, INC ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 2021 Page PART I 2 Item 1. Business 2 Item 1A. Risk Factors 11 Item 1B. Unresolved Staff Comments 21 Item 2. Properties 22 Item 3. Legal Proceedings 22 Item 4. Mine Safety Disclosures 22 PART II 22 Item 5. Market For Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 22 Item 6. [R eserved] 23 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 23 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 32 Item 8. Financial Statements and Supplementary Data 32 Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosures 32 Item 9A. Controls and Procedures 32 Item 9B. Other Information 33 Item 9C. Disclosure Regrading Foreign Jurisdictions that Prevent Inspections 33 PART III 33 Item 10. Directors, Executive Officers and Corporate Governance 33 Item 11. Executive Compensation 33 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 33 Item 13. Certain Relationships and Related Transactions, and Director Independence 34 Item 14. Principal Accounting Fees and Services 34 PART IV 35 Item 15. Exhibits, Financial Statement Schedules 35 Item 16. Form 10-K Summary 37 Signatures 38 Table of Contents CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION This report includes statements of our expectations, intentions, plans, and beliefs that constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Nonetheless, it is important for an investor to understand that these statements involve risks and uncertainties. These statements relate to the discussion of our business strategies and our expectations concerning future operations, margins, profitability, liquidity, and capital resources and to analyses and other information that are based on forecasts of future results and estimates of amounts not yet determinable. We have used words such as “may,” “will,” “should,” “expect,” “intend,” “plan,” “anticipate,” “believe,” “think,” “estimate,” “seek,” “expect,” “predict,” “could,” “project,” “potential,” and other similar terms and phrases, including references to assumptions, in this report to identify forward-looking statements. These forward-looking statements are made based on expectations and beliefs concerning future events affecting us and are subject to uncertainties, risks and factors relating to our operations and business environment, all of which are difficult to predict and many of which are beyond our control, that could cause our actual results to differ materially from those matters expressed or implied by these forward-looking statements. Such risks and other factors also include those listed in Item 1A. “Risk Factors and elsewhere in this report and our other filings with the Securities and Exchange Commission. When considering these forward-looking statements, you should keep in mind the cautionary statements in this report and the documents incorporated by reference. New risks and uncertainties arise from time to time, and we cannot predict those events or how they may affect us. We assume no obligation to update any forward-looking statements after the date of this report as a result of new information, future events or developments, except as required by applicable laws and regulations. When used in this annual report, the terms the “Company,” “Zynex”, “we,” “us,” “ours,” and similar terms refer to Zynex, Inc., a Nevada corporation, and its subsidiaries, Zynex Medical, Inc., Zynex NeuroDiagnostics, Inc., Zynex Monitoring Solutions Inc., Kestrel Labs, Inc., Zynex Europe ApS and Pharmazy, Inc. As of the date of this annual report, our only operating subsidiary is Zynex Medical, Inc. (“ZMI”). Zynex Monitoring Solutions, Inc. (“ZMS”) has developed its fluid monitoring system product as described below. 1 Table of Contents PART I ITEM 1. BUSINESS History Zynex, Inc. was founded by Thomas Sandgaard in 1996, when he founded two privately held companies that eventually were folded into Zynex, Inc. Zynex, Inc., a Nevada corporation, is the parent company of and conducts business within five active and inactive subsidiaries. As of December 31, 2021, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO™ CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx™, a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. Food and Drug Administration (“FDA”) for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. As of December 31, 2021, the Company conducts most of its operations through its primary subsidiary, ZMI. ZMS has developed a CM-1500 fluid volume monitoring system which was granted 510(K) clearance in February 2020 by the FDA in the United States of America. ZMS filed a 510K application for the CM-1600 in December 2021, its next generation wireless fluid and blood volume system. ZMS has achieved no revenues to date. Our inactive subsidiaries include ZND and Pharmazy. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. The Company also dissolved its subsidiary Zynex Billing and Consulting, LLC (ZBC) as a result of its long-standing inactivity. Upon dissolution, the Company eliminated its non-controlling interest in ZBC. Substantially all of our consolidated revenue in 2021 and 2020 is attributable to ZMI. Our headquarters are located in Englewood, Colorado. Active Subsidiaries Zynex Medical, Inc. (ZMI): ZMI designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on drugs and medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All of our medical devices are designed to be patient friendly and designed for home use. Our devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of our medical devices are marketed in the U.S. and are subject to FDA regulation and approval. Our products require a physician’s prescription before they can be dispensed in the U.S. Our primary product is the NexWave device. The NexWave is marketed to physicians and therapists by our field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. ZMI distributes complementary products such as lumbar support, cervical traction, knee bracing, and hot/cold therapy. These complement our pain management products and are critical for physicians and therapists. These products require a prescription and are covered by most insurance plans and Medicare. ZMI designs, manufactures, and markets the NeuroMove product. The NeuroMove contains electromyography and electric stimulation technology that is primarily used for stroke, spinal cord and traumatic brain injury rehabilitation (“SCI”), by reaching parts of the brain to re-connect with muscles, also known as neuroplasticity. The NeuroMove product is primarily marketed to medical clinics. Zynex did not have material sales of this product in 2021 or 2020. 2 Table of Contents ZMI also designs, manufactures, and markets the InWave product, an in-home electrical stimulation device used to treat female urinary incontinence. The device requires a prescription and is covered by most insurance plans and Medicare. Zynex did not have material sales of this product in 2021 or 2020. Zynex Monitoring Solutions (ZMS): ZMS was formed in 2011 to develop and market medical devices for non-invasive patient monitoring beginning with our hemodynamic fluid monitor, the Zynex Fluid Monitoring System (“CM-1500”). The fluid volume monitor is a non-invasive medical device for monitoring relative fluid volume changes used in operating and recovery rooms to detect fluid loss during surgery and internal bleeding during recovery. The CM-1500 received 510(k) clearance from the FDA in February 2020. The fluid volume monitor has been tested in several Institutional Review Board (“IRB”) approved studies and was used in several blood donation settings where hundreds of subjects donated half a liter of blood, showing strong correlation to the index on the device. We have built a number of commercial devices in pilot-production and continue to refine the algorithms for the Blood Volume Index (BVI). We have received two U.S. utility patents for this unique application, the first in the fourth quarter of 2018 and the second in January 2021, and we believe this product could serve a currently unmet need in the market for safer surgeries and safer monitoring of patients during recovery. This CM-1500 has recently been subjected to multiple clinical studies, which are being utilized for collecting data to further validate the algorithm used to determine changes in relative fluid volume changes. ZMS completed a clinical trial in December 2021 with Wake Forest University to detect post-operative patient fluid status in the Post-Anesthesia Care Unit (“PACU”). ZMS also started enrollment in clinical trials with Vitalant Research Institute (the research arm of Vitalant, the nation's largest independent, nonprofit blood services provider) to track changes in the device's patented Relative Index during apheresis blood donation procedures and with DaVita Clinical Research characterizing changes in the device's patented Relative Index during hemodialysis procedures where a large volume of fluid is removed from patients. In addition to FDA clearance, we are pursuing European Union (“EU”) Certificate European (“CE”) Marking. CE Marking is a certification that a product meets the standards established by the 28 nations of the EU and qualifies for sale in the EU and 4-nation European Free Trade Association. As ZMS’ products are still in development, ZMS did not produce any revenue for the years ending December 31, 2021, and 2020. In addition to the fluid volume monitor, ZMS filed for a provisional patent for a non-invasive sepsis monitor in December 2020 and an updated utility patent filed in December 2021. Zynex International (Zynex Europe) (ZEU): ZEU was formed in 2012 to further progress Zynex’s international expansion. ZEU is currently conducting business and focused on sales and marketing our products within the international marketplace, upon receipt of necessary regulatory approvals. ZEU did not produce significant revenue for the years ended December 31, 2021, and 2020. SALES AND GROWTH STRATEGIES To date, ZMI accounts for substantially all of our revenue and profit. We are focused on expanding our sales force to address what we believe is an untapped market for electrotherapy products for pain management which has become more attractive due to large competitors exiting the market. As of December 31, 2021, we had approximately 400 field sales representatives on staff or in the hiring process, of which 6 were independent, contract representatives and the remainder were W-2 direct employees. We continue to hire field sales representatives at a rapid rate, focusing on the quality and caliber of each candidate with the goal of having approximately 500-600 sales representatives in the U.S. by the end of 2022. We will be focused on increasing performance management standards for our sales force. 3 Table of Contents In an effort to increase revenue and diversification in order to provide our prescribers and patients with diverse solutions for their pain management needs, we are continually adding new complementary products to our ZMI sales channel, such as our hot/cold therapy, cervical traction, knee braces and LSO back braces. In addition, in March 2020 we introduced a full catalog of over 3,300 physical therapy products to promote in the clinics which we serve. We believe adding these complementary products will increase our market share in the marketplace and, in the future, grow our core business by providing our electrotherapy patients additional non-pharmacological pain relief and complementary products to our manufactured devices. Distribution and Revenue Streams: Currently, substantially all of our revenue is generated through our ZMI subsidiary from our electrotherapy products. We sell through a direct sales force in United States. Our field sales representatives are engaged to sell in predefined geographic markets and are compensated with a base salary and commissions based on fixed amounts depending on the type of product sold and insurance carrier of the patient. Our efforts to date have been focused on the United States market. A significant portion of our revenue is derived from patients with insurance plans held by commercial health insurance carriers or government payers who pay on behalf of their insureds. The remaining portion of revenue is primarily received from workers’ compensation claims and attorneys representing injured patients, hospitals, clinics and private-pay individuals. A large part of our revenue is recurring. Recurring revenue results primarily from the sale of surface electrodes and batteries sent to existing patients with our units. Electrodes and batteries are consumable items that are considered an integral part of our products. Private Labeled Distributed Products In addition to our own products, we distribute, through our sales force, a number of private labeled supplies and complementary products from other domestic manufacturers. These products generally include patient consumables, such as electrodes and batteries plus cervical traction, lumbar support, knee braces and hot/cold therapy. Customarily, there are no formal contracts between vendors in the durable medical equipment industry. Replacement products and components are easily found, either from our own products or other manufacturers, and purchases are made by purchase order. 4 Table of Contents Products We currently market and sell Zynex-manufactured products and distribute complementary products and private labeled supplies for Zynex products, as indicated be Product Name Description Zynex Medical Products NexWave Dual channel, multi-modality IFC, TENS, NMES device NeuroMove Electromyography (EMG) — triggered electrical stimulation device InWave Electrical stimulation for treatment of female urinary incontinence E-Wave NMES device Private Labeled Supplies Electrodes Supplies, re-usable for delivery of electrical current to the body Batteries Supplies, for use in electrotherapy products Distributed Complementary Products Comfortrac/Saunders Cervical traction JetStream Hot/cold therapy LSO Back Braces Lumbar support Knee Braces Knee support Zynex Monitoring Solutions Products CM-1500 Zynex Fluid Monitoring System CM-1600 Zynex Wireless Fluid Monitoring System – Submitted to the FDA, December 2021, not yet FDA cleared. NiCO CO-Oximeter Laser-based Noninvasive CO-Oximeter (Not yet FDA cleared) HemeOx tHb Oximeter Laser-based Total Hemoglobin Pulse Oximeter (Not yet FDA cleared) Product Uses Pain Management and Control Standard electrotherapy is a clinically proven and medically accepted alternative to manage acute and chronic pain. Electrical stimulation has been shown to reduce most types of local pain, such as tennis elbow, neck or lower back pain, arthritis, and others. The devices used to accomplish this are commonly described as the TENS family of devices. Electrotherapy is not known to have any negative side effects, a significant advantage over most pain relief medications. The benefits of electrotherapy can inclu pain relief, increased blood flow, reduced edema, prevention of venous thrombosis, increased range-of-motion, prevention of muscle disuse atrophy, and reduced urinary incontinence. 5 Table of Contents Electrotherapy introduces an electrical current applied through surface electrodes. The electrical current “distorts” a pain signal on its way to the central nervous system and the brain, thus reducing the pain. Additionally, by applying higher levels of electricity, muscles contract and such contraction is believed to assist in the benefits mentioned above. Numerous clinical studies have been published over several decades showing the effectiveness of IFC and TENS for pain relief. Our primary electrotherapy device, the NexWave, has received FDA 510(k) clearance. The NexWave is a digital IFC, TENS and NMES device that delivers pain-alleviating electrotherapy. Stroke and Spinal Cord Injury Rehabilitation Our proprietary NeuroMove product is a Class II medical device that has been cleared by the FDA for stroke and SCI rehabilitation. Stroke and SCI usually affect a survivor’s mobility, functionality, speech, and memory, and the NeuroMove is designed to help the survivor regain movement and functionality. Sales of NeuroMove have not generated material revenue for the years ended December 31, 2021 and 2020. Hemodynamic Monitoring Hemodynamic monitoring is the process of measuring the blood flow and pressure exerted in the heart, veins, and arteries. It provides an assessment of a patient’s circulatory status and their ability to assure cardiac output and oxygen delivery to the body. Maintaining effective circulating blood volume and pressure are key to assuring adequate oxygen saturation and perfusion. Hemodynamic monitoring devices have been historically classified as, (a) invasive, using a central or pulmonary artery catheter, (b) minimally invasive, with the placement of an arterial line, and (c) noninvasive, where no device is inserted into the body for clinical assessment. The Zynex Fluid Monitoring System (CM-1500) and the Zynex Wireless Fluid Monitoring System (CM-1600) are noninvasive monitoring devices designed to measure relative changes in fluid volume in adult patients. Fluid status is determined using Zynex’s proprietary algorithm and expressed as the patented Relative IndexTM, a simple value designed to accurately trend patient vital signs and alert clinicians for early intervention. The Zynex Fluid Monitoring System (CM-1500) was cleared by the FDA in 2020. The Zynex Wireless Fluid Monitoring System (CM-1600) has been submitted to the FDA and is pending clearance. Pulse Oximetry Monitoring Pulse oximetry is a noninvasive method of measuring the oxygen saturation level (SpO2) of arterial blood. As one of the most common medical devices used in and out of hospitals around the world, pulse oximeters have gained widespread clinical acceptance as the standard of care for monitoring oxygen saturation. SpO2 has become the “fifth vital sign”, which, together with heart rate, blood pressure, respiratory rate, and temperature, provides crucial clinical information about a person’s health status. The NiCO™ Noninvasive CO-Oximeter, the first laser-based photoplethysmographic patient monitoring technology, is designed to noninvasively measure and monitor four crucial species of hemoglobin with unprecedented accuracy. The HemeOx™ Total Hemoglobin Pulse Oximeter is designed to noninvasively measure total hemoglobin and oxygen saturation, two critical parameters that typically require invasive arterial blood sampling for measurement. Total hemoglobin is a very commonly ordered blood test in healthcare, and HemeOx™ measures it with the continuous and noninvasive ease of a pulse oximeter at the patient bedside. The NiCO™ Noninvasive CO-Oximeter and the HemeOx™ Total Hemoglobin Pulse Oximeter have not yet been cleared by the FDA. 6 Table of Contents MARKETS Zynex Medical (ZMI): To date, the majority of our revenue has been generated by our ZMI electrotherapy products and private labeled supplies. Thus, we primarily compete in the home electrotherapy market for pain management, with products based on IFC, TENS and NMES devices and consumable supplies. We estimate the annual domestic market for home electrotherapy products at approximately $500 million. During 2020 and 2021, we grew our sales force to approximately 400 direct sales reps to address what we believe is an underserved electrotherapy market. The current opioid epidemic has been declared a health emergency, and we are uniquely positioned to help reduce the amount of opioids prescribed for treatment of chronic and acute pain symptoms. We are committed to providing health care professionals with alternatives to traditional opioid based treatment programs with our prescription-strength products which have no side-effects. This has never been more necessary than it is today considering the staggering statistics. ● Pain impacts the lives of more Americans than diabetes, heart disease, and cancer combined. ● Pain is the leading cause of disability, and seeking treatment for chronic or acute pain is the most common reason American’s seek health care. Approximately 50 million Americans suffer from chronic pain. ● Nearly 20 million Americans experienced high-impact chronic pain, defined as “limiting life or work activities on most days or every day”, in the past 3 months. ● If pharmaceuticals such as opioids continue to be used as the first line of defense, America will continue to see a rise in opioid misuse, addiction and drug-related deaths. We also distribute complementary products such as JetStream Hot/Cold Therapy, Knee bracing, Aspen LSO Back bracing and Comfortrac and Saunders cervical and lumbar traction units, all products targeted at treating acute as well as chronic pain with minimal side-effects. Key characteristics of our electrotherapy market ● Collection cycles of initial payment from insurance carriers can range from less than 30 days to many months and considerably longer for many attorney, personal injury, and workers’ compensation cases. Such delayed payment impacts our cash flow and can slow our growth or strain our liquidity. Collections are also impacted by whether effective billing submissions are made by our billing and collections department to the third-party payers. ● Prior to payment, third-party payers often make or take significant payment adjustments or discounts. This can also lead to denials and billing disputes with third-party payers. ● The majority of our revenue is generated by the sale of medical devices and from recurring patient supplies, specifically from our electrotherapy products sold through ZMI. We are reliant on third-party payer reimbursement. Zynex Monitoring Solutions (ZMS): ZMS is focused on developing products within the non-invasive multi-parameter patient-monitoring marketplace. ZMS is currently focusing on its fluid monitoring system, the recently announced sepsis monitor and the pulse oximetry products acquired in its acquisition of Kestrel. We believe our products, once released into the marketplace (of which there can be no guarantee), will compete against multiple competitors, ranging from large manufacturers with multiple business lines to small manufacturers that offer a limited range of products. We have not yet identified competitors for these products. ZMS has not generated any revenue. 7 Table of Contents Competition Since we are in the market for medical electrotherapy products, we face a mixture of competitors ranging from large manufacturers with multiple business lines to small manufacturers that offer a limited selection of products. Our principal competitors include International Rehabilitative Sciences, Inc. d/b/a RS Medical, EMSI, and H-Wave. In addition, we face competition from providers of alternative medical therapies, such as pharmaceutical companies. RESOURCES Manufacturing and Product Assembly Our manufacturing and product assembly strategy consists of the following elements: ● Compliance with relevant legal and regulatory requirements. ● Use of contract manufacturers as needed, thereby allowing us to quickly respond to changes in volume and avoid large capital investments for assembly and manufacturing equipment of certain product components. We believe there is a large pool of highly qualified contract manufacturers, domestically and internationally, for the type of manufacturing assistance needed for our manufactured devices. ● Utilization of in-house final assembly and test capabilities. ● Development of proprietary software and hardware for all products in house. ● Testing all units in a real-life, in-house environment to help ensure the highest possible quality and patient safety while reducing the cost of warranty repairs. We utilize contract manufacturers located in the U.S. to manufacture components for our NexWave and NeuroMove units and for some of our other products and assemble in-house for our NexWave and NeuroMove units. We do not have long-term supply agreements with our contract manufacturers, but we utilize purchase orders with agreed upon terms for our ongoing needs. We believe there are numerous suppliers that can manufacture our products and provide our required raw materials. Generally, we have been able to obtain adequate supplies of our required raw materials and components. We are always evaluating our suppliers for price, quality, delivery time and service. The reduction or interruption in supply, and an inability to develop alternative sources for such supply, could adversely affect our operations. Intellectual Property Zynex is committed to aggressively protect the intellectual property rights the Company has worked so hard to attain and to expand our intellectual property portfolio for advances to our existing products and for new products as they are developed. Zynex has recently received two new U.S. utility patents, as well as a utility patent in Europe, for our fluid monitoring system. The acquisition of Kestrel Labs, Inc. by Zynex Inc. included an intellectual property portfolio surrounding the acquired laser-based photoplethysmographic technology. This expands both the size and scope of Zynex’s intellectual property portfolio to include key aspects of the exciting pulse oximetry market. Zynex is trademarked in the U.S. We utilize non-disclosure and trade secret agreements with employees and third parties to protect our proprietary information. 8 Table of Contents GOVERNMENT REGULATION US Food and Drug Administration (FDA) All of our ZMI products are classified as Class II (Medium Risk) devices by the FDA, and clinical studies with our products are considered to be NSR (Non-Significant Risk Studies). Our business is regulated by the FDA, and all products typically require 510(k) market clearance before they can be put into commercial distribution. Section 510(k) of the Federal Food, Drug and Cosmetics Act, is available in certain instances for Class II (Medium Risk) products. It requires that before introducing most Class II devices into interstate commerce, the product must first submit information to the FDA demonstrating that the device is substantially equivalent in terms of safety and effectiveness to a device legally marketed prior to March 1976 or to devices that have been reclassified in accordance with the provisions of the Federal Food, Drug, and Cosmetic Act that do not require approval of a premarket approval application. When the FDA determines that the device is substantially equivalent, the agency issues a “clearance” letter that authorizes marketing of the product. We are also regulated by the FDA’s Good Manufacturing Practice (GMP) and Quality Systems Regulation (QSR). We believe that our products have obtained or are good candidates for the requisite FDA clearance or are exempt from the FDA clearance process. In November 2001, Zynex received FDA 510(k) clearance to market NeuroMove. In September 2011, Zynex received FDA 510(k) clearance to market the NexWave, our current generation IFC, TENS and NMES device. In August 2012, Zynex received FDA 510(k) clearance to market the InWave, our next generation muscle stimulator for treatment of female incontinence. Failure to comply with FDA requirements could adversely affect us. International Zynex continues to explore opportunities to gain regulatory clearance for its devices in markets outside of the U.S. CE marking is the medical device manufacturer's claim that a product meets the essential requirements of all relevant European Medical Device Directives. The CE mark is a legal requirement to place a device on the market in the EU. Zynex is currently in the process of applying for CE marking on several of its electrotherapy devices and its CM-1500 Zynex Fluid Monitoring System. The Far East, Middle East, Eastern Europe and Latin American markets have different regulatory requirements. We comply with applicable regulatory requirements within the markets in which we currently sell. If and when we decide to enter additional geographic areas, we intend to comply with applicable regulatory requirements within those markets. Zynex has received ISO13485: 2016 certification for its compliance with international standards in quality management systems for design, development, manufacturing and distribution of medical devices. This certification is not only important as assurance that we have the appropriate quality systems in place but is also crucial to our international expansion efforts as many countries require this certification as part of their regulatory approval. Government Regulation The delivery of health care services and products has become one of the most highly regulated professional and business endeavors in the United States. Both the federal government and individual state governments are responsible for overseeing the activities of individuals and businesses engaged in the delivery of health care services and products. Federal law and regulations are based primarily upon the Medicare and Medicaid programs. Each program is financed, at least in part, with federal funds. State jurisdiction is based upon the state’s interest in regulating the quality of health care in the state, regardless of the source of payment. Many state and local jurisdictions impose additional legal and regulatory requirements on our business including various states and local licenses, taxes, limitations regarding insurance claim submission and limitations on relationships with referral parties. Failure to comply with this myriad of regulations in a particular jurisdiction may subject us to fines or other penalties, including the inability to sell our products in certain jurisdictions. 9 Table of Contents Federal health care laws apply to us when we submit a claim to any other federally funded health care program, in addition to requirements to meet government standards. The principal federal laws that we must abide by in these situations inclu ● Those that prohibit the filing of false or improper claims for federal payment. ● Those that prohibit unlawful inducements for the referral of business reimbursable under federally funded health care programs. The federal government may impose criminal, civil and administrative penalties on anyone who files a false claim for reimbursement from federally funded programs. A federal law commonly known as the “anti-kickback law” prohibits the knowing or willful solicitation, receipt, offer or payment of any remuneration made in return ● The referral of patients covered under federally-funded health care programs; or ● The purchasing, leasing, ordering, or arranging for any goods, facility, items or service reimbursable under those programs. Research and Development During 2021 and 2020, we incurred approximately $2.6 million and $0.8 million, respectively, of research and development expenses. We expect our research and development expenditures to increase in 2022 as our ZMS business expands. HUMAN CAPITAL As of December 31, 2021, we employed 774 full time employees of which approximately 400 are employed as direct sales representatives in the field. Our employees are our most important assets and set the foundation for our ability to achieve our strategic objectives. All of our employees contribute to our success and, in particular, our sales representatives are instrumental in our ability to reach more patients in pain. The success and growth of our business depends in large part on our ability to attract, retain and develop a diverse population of talented and high-performing employees at all levels of our organization. To succeed in a competitive labor market, we have developed recruitment and retention strategies, objectives and measures that we focus on as part of the overall management of our business. These strategies, objectives and measures form our human capital management framework and are advanced through the following programs, policies and initiativ ● Competitive pay and benefits. Our compensation programs are designed to align the compensation of our employees with our performance and to provide the proper incentives to attract, retain, and motivate employees to achieve superior results. ● Training and development. We invest in learning opportunities that foster a growth mindset. Our formal offerings include a tuition reimbursement program, an e-learning program that all corporate employees have access to and in-house learning opportunities through the Company’s Zynex Growth and Development program. ● Health and Wellness. We invest in the health and wellness of our employees by offering monthly benefits and offer programs and support to assist our employees. 10 Table of Contents ITEM 1A. RISK FACTORS RISKS RELATED TO OUR BUSINESS We face risks related to health pandemics, particularly the outbreak of COVID-19 and subsequent variants, which could adversely affect our business and results of operations. Our business could be materially adversely affected by a widespread outbreak of contagious disease, including the recent outbreak of the novel coronavirus, known as COVID-19, which has spread to many countries throughout the world, including the United States. The effects of this outbreak on our business have included and could continue to include temporary closures of our providers and clinics and suspensions of elective surgical procedures. This has and could continue to impact our interactions and relationships with our customers. In addition to temporary closures of the providers and clinics that we serve, we could also experience temporary closures of the facilities of our suppliers, contract manufacturers, or other vendors in our supply chain, which could impact our business, interactions and relationships with our third-party suppliers and contractors, and results of operations. The extent to which the COVID-19 outbreak will impact business and the economy is highly uncertain and cannot be predicted. Accordingly, we cannot predict the extent to which our financial condition, results of operations and value of our common stock will be affected. The uncertainty surrounding the COVID-19 outbreak has caused the Company to increase its inventory in anticipation of possible supply chain shortages related to the COVID-19 virus. While the Company did not incur significant disruptions to its operations during 2020 and 2021, it is unable at this time to predict the impact that the COVID-19 virus will have on its business, financial position and operating results in future periods due to numerous uncertainties. We have encountered significant volatility in our recent operating results. The Company’s results from operations have improved significantly in recent years, but there have been significant volatility in our results over the past five years as reflected in the following table (in millions): Year Revenues Profit 2017 $ 23.4 $ 7.4 2018 $ 31.9 $ 9.6 2019 $ 45.5 $ 9.5 2020 $ 80.1 $ 9.1 2021 $ 130.3 $ 17.1 Our financial results could continue to be volatile, and there is no assurance we will continue our current increase in revenue and profits. We are dependent on reimbursement from third-party payers, most of whom are larger than we are and have substantially more employees and financial resources; changes in insurance reimbursement policies or application of them have resulted in decreased or delayed revenues. A large percentage of our revenues come from third-party payer reimbursement. Most of the third-party payers are large insurance companies with substantially more resources than we have. Upon delivery of our products to our patients, we directly bill the patients’ private insurance companies or government payers for reimbursement. If the third-party payers do not remit payment on a timely basis or if they change their policies to exclude or reduce coverage for our products, we would experience a decline in our revenue as well as cash flow. In addition, we may deliver products to patients and invoice based on past practices and billing experiences only to have third-party payers later deny coverage for such products. In some cases, our delivered product may not be covered pursuant to a policy statement of a third-party payer, despite a payment history with the third-party payer and benefits to the patients. A third-party payer may seek repayment of amounts previously paid for covered products. We maintain an allowance for provider discounts and amounts intended to cover legitimate requests for repayment. Failure to adequately identify and provide for amounts for resolution of repayment demands in our allowance for provider discounts could have a material adverse effect on our results of operations and cash flows. For government health care programs, if we identify a 11 Table of Contents deficiency in prior claims or practices, we may be required to repay amounts previously reimbursed to us by government health care programs. We frequently receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients, and other times include a significant number of refund claims in a single request which can accumulate to a significant amount. We review and evaluate these requests and determine if any refund is appropriate. During the adjudication process we review claims where we are rebilling or pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests, we are generally unable to determine if a refund request is valid. Although we cannot predict whether or when a request for repayment or our subsequent request for reimbursement will be resolved, it is not unusual for such matters to be unresolved for a long period of time. No assurances can be given with respect to our estimates for our allowance for provider discounts refund claim reimbursements and offsets or the ultimate outcome of the refund requests. We at times have concentrations of credit risk with third-party payers; failure to collect these and other billed receivables could adversely affect our cash flows and results of operations. The Company had receivables from one third-party payer at December 31, 2021 which made up approximately 22% of the accounts receivable balance. The Company had receivables from one third-party payer at December 31, 2020, which made up approximately 26% of the accounts receivable balance. Future changes in coverage and reimbursement policies for our products or reductions in reimbursement rates for our products by third party payers could adversely affect our business and results of operations. In the United States, our products are prescribed by physicians for their patients. Based on the prescription, which we consider an order, we submit a claim for payment directly to third-party payers such as private commercial insurance carriers, government payers and others as appropriate and the third-party payer reimburses us directly. Federal and state statutes, rules, or other regulatory measures that restrict coverage of our products or reimbursement rates could have an adverse effect on our ability to sell or rent our products or cause physical therapists and physicians to dispense and prescribe alternative, lower-cost products. There are significant estimating risks associated with the amount of revenue, related refund liabilities, accounts receivable and provider discounts that we recognize, and if we are unable to accurately estimate these amounts, it could impact the timing of our revenue recognition, have a significant impact on our operating results or lead to a restatement of our financial results. There are significant risks associated with the estimation of the amount of revenues, related refund liabilities, accounts receivable, and provider discounts that we recognize in a reporting period. The billing and collection process is complex due to ongoing insurance coverage changes, geographic coverage differences, differing interpretations of coverage, differing provider discount rates, and other third-party payer issues. Determining applicable primary and secondary coverage for our customers at any point in time, together with the changes in patient coverage that occur each month, require complex, resource-intensive processes. Errors in determining the correct coordination of benefits may result in refunds to payers. Revenues associated with government programs are also subject to estimating risk related to the amounts not paid by the primary government payer that will ultimately be collectable from other government programs paying secondary coverage, the patient’s commercial health plan secondary coverage or the patient. Collections, refunds and pay or retractions typically continue to occur for up to three years and longer after our products are provided. While we typically look to our past experience in collections with a payer in estimating amounts expected to be collected on current billings, recent trends and current changes in reimbursement practice, the overall healthcare environment, and other factors nonetheless could ultimately impact the amount of revenues recorded and the receivables ultimately collected. If our estimates of revenues, related refund liabilities, accounts receivable or provider discounts are materially inaccurate, it could impact the timing of our revenue recognition and have a significant impact on our operating results. It could also lead to a restatement of our financial results. 12 Table of Contents Tax laws and regulations require compliance efforts that can increase our cost of doing business and changes to these laws and regulations could impact financial results. We are subject to a variety of tax laws and regulations in the jurisdictions in which we do business. Maintaining compliance with these laws can increase our cost of doing business and failure to comply could result in audits or the imposition of fines or penalties. Further, our future effective tax rates in any of these jurisdictions could be affected, positively or negatively, by changing tax priorities, changes in statutory rates, or changes in tax laws or the interpretation thereof. The most significant recent example of this is the impact of the U.S Tax Cuts and Jobs Act of 2017 (the “Tax Act”) which was enacted on December 22, 2017. These changes significantly revised the ongoing U.S. corporate income tax law by lowering the U.S. federal corporate income tax rate from 35% to 21%, implementing a territorial tax system, imposing a one-time tax on foreign unremitted earnings and setting limitations on deductibility of certain costs, among other things. The Company has implemented the Tax Act and does not expect any significant changes related to the Tax Act at this time. The Patient Protection and Accountability act of 2010 has had an impact on our business which may be in part beneficial and in part detrimental. In March 2010, broad federal health care reform legislation was enacted in the United States. This legislation did not become effective immediately in total, and may be modified prior to the effective date of some provisions. This legislation has had an impact on our business in a variety of ways including increased number of Medicaid recipients, increased number of individuals with commercial insurance, additional audits conducted by public health insurance plans such as Medicaid and Medicare, changes to the rules that govern employer group health insurance and other factors that influence the acquisition and use of health insurance from private and public payers. This legislation has resulted in a change in reimbursement for certain durable medical equipment. We believe the new healthcare legislation and these changes to reimbursement have caused uncertainty with prescribers, which we believe contributed to our drop in orders and revenue during 2013 and 2014 and the lack of any significant increase in 2015. Orders and revenue increased in 2016 through 2021; however, we are currently unable to determine whether such trend will continue in future periods or whether the health care reform legislation will have other adverse consequences to our business and results of operations. To the extent prescribers write fewer prescriptions for our products or there is an adverse change to insurance reimbursement for our products, due to the new law or otherwise, our revenue and profitability will be materially adversely affected. The uncertainty of continuing healthcare changes and regulations may place our business model in doubt. There is some doubt on the continuation of the Affordable Care Act and the legislation that the current Congress will enact to replace it, if any. Because we cannot be certain about the continuation of the Affordable Care Act or any changes or replacements thereto, even if the Affordable Care Act remains the law of the land, there is also some doubt whether the President will support it or take regulatory action to negatively impact its benefits. The amount of uncertainty creates concern on our customer’s willingness to buy products which may, or may not, be covered by future health care benefits even if they are covered currently. Hospitals and clinicians may not buy, prescribe or use our products in sufficient numbers, which could result in decreased revenues and profits. Hospitals and clinicians may not accept any of our products as effective, reliable, or cost-effective. Factors that could prevent such institutional patient acceptance inclu ● If patients conclude that the costs of these products exceed the cost savings associated with the use of these products; ● If patients are financially unable to purchase these products; ● If adverse patient events occur with the use of these products, generating adverse publicity; ● If we lack adequate resources to provide sufficient education and training to our patients; ● If frequent product malfunctions occur, leading clinicians to believe that the products are unreliable; 13 Table of Contents ● Uncertainty regarding or change in government or third-party payer reimbursement policies for our products; and ● If physicians or other health care providers believe that our products will not be reimbursed by insurers or decide to prescribe competing products. Because our sales are dependent on prescriptions from physicians, if any of these or other factors result in fewer prescriptions for our products being written, we will have reduced revenues and may not be able to fully fund our operations. Although we experienced an increase in orders for our ZMI products during 2020 and 2021 compared to prior years, we can make no assurances that demand for our products will not decline in future periods. Any new competitor could be larger than us and have greater financial and other resources than we do, and those advantages could make it difficult for us to compete with them. Many competitors to our products may have substantially greater financial, technical, marketing, and other resources. Competition could result in fewer orders, reduced gross margins, and loss of market share. Our products are regulated by the FDA in the United States. Competitors may develop products that are substantially equivalent to our FDA-cleared products, thereby using our products as predicate devices to more quickly obtain FDA approval for their own products. If overall demand for our products should decrease it could have a material adverse effect on our operating results. Substantial competition is expected in the future in the area of stroke rehabilitation that may directly compete with our NeuroMove product. These competitors may use standard or novel signal processing techniques to detect muscular movement and generate stimulation to such muscles. Other companies may develop rehabilitation products that perform better and/or are less expensive than our products, which could have a material adverse effect on our operating results. Failure to keep pace with the latest technological changes could result in decreased revenues. The market for some of our products is characterized by rapid change and technological improvements. Failure to respond in a timely and cost-effective way to these technological developments could result in serious harm to our business and operating results. We have derived, and we expect to continue to derive, a substantial portion of our revenues from the development and sale of products in the medical device industry. As a result, our success will depend, in part, on our ability to develop and market product offerings that respond in a timely manner to the technological advances of our competitors, evolving industry standards and changing patient preferences. There is no assurance that we will keep up with technological improvements. O ur business could be adversely affected by reliance on sole suppliers. Notwithstanding our current multiple supplier approach, certain essential product components may be supplied in the future by sole, or a limited group of, suppliers. Most of our products and components are purchased through purchase orders rather than through long term supply agreements and large volumes of inventory may not be maintained. There may be shortages and delays in obtaining certain product components. Disruption of the supply or inventory of components could result in a significant increase in the costs of these components or could result in an inability to meet the demand for our products. In addition, if a change in the manufacturer of a key component is required, qualification of a new supplier may result in delays and additional expenses in meeting customer demand for products. These factors could adversely affect our revenues and ability to retain our experienced sales force. A third-party manufacturer’s inability to produce our goods on time and to our specifications could result in lost revenue. Third-party manufacturers assemble and manufacture components of the NexWave and NeuroMove and some of our other products to our specifications. The inability of a manufacturer to ship orders of our products in a timely manner or to meet our quality standards could cause us to miss the delivery date requirements of our patients for those items, which could result in cancellation of orders, refusal to accept deliveries or a reduction in purchase prices, any of which could have a material adverse effect on our revenues. Because of the timing and seriousness of our business, and the medical device industry in particular, the dates on which patients need and require shipments of products from us are critical. Further, because quality is a leading factor when patients, doctors, health insurance providers and distributors accept or reject goods, any decline in quality by our third-party manufacturers could be detrimental not only to a particular order, but also to our future relationship with that particular patient. 14 Table of Contents We could experience cost increases or disruptions in supply of raw materials or other components used in our products. Our third-party manufacturers that assemble and manufacture components for our products expect to incur significant costs related to procuring raw materials required to manufacture and assemble our product. The prices for these raw materials fluctuate depending on factors beyond our control including market conditions and global demand for these materials and could adversely affect our business, prospects, financial condition, results of operations, and cash flows. Further, any delays or disruptions in our supply chain could harm our business. For example, COVID-19, including associated variants, could cause disruptions to and delays in our operations, including shortages and delays in the supply of certain parts, including semiconductors, materials and equipment necessary for the production of our products, and the internal designs and processes we or third-parties may adopt in an effort to remedy or mitigate impacts of such disruptions and delays could result in higher costs. In addition, our business also depends on the continued supply of battery cells for our products. We are exposed to multiple risks relating to availability and pricing of quality battery cells. These risks inclu ● the inability or unwillingness of battery cell manufacturers to build or operate battery cell manufacturing plants to supply the numbers of battery cells (including the applicable chemistries) required to support the growth of the electric or plug-in hybrid vehicle industry as demand for such cells increases; ● disruption in the supply of battery cells due to quality issues or recalls by the battery cell manufacturers; and ● an increase in the cost, or decrease in the available supply of raw materials used in battery cells, such as lithium, nickel, and cobalt. Furthermore, currency fluctuations, tariffs or shortages in petroleum and other economic or political conditions may result in significant increases in freight charges and raw material costs. Substantial increases in the prices for raw materials or components would increase our operating costs and could reduce our margins. We depend upon third parties to manufacture and to supply key semiconductor chip components necessary for our products. We do not have long-term agreements with our semiconductor chip manufacturers and suppliers, and if these manufacturers or suppliers become unwilling or unable to provide an adequate supply of semiconductor chips, with respect to which there is a global shortage, we would not be able to find alternative sources in a timely manner and our business would be adversely impacted. Semiconductor chips are a vital input component to the electrical architecture of our products, controlling wide aspects of the products’ operations. Many of the key semiconductor chips we use in our products come from limited or single sources of supply, and therefore a disruption with any one manufacturer or supplier in our supply chain would have an adverse effect on our ability to effectively manufacture and timely deliver our products. We do not have any long- term supply contracts with any suppliers and purchase chips on a purchase order basis. Due to our reliance on these semiconductor chips, we are subject to the risk of shortages and long lead times in their supply. We are in the process of identifying alternative manufacturers for semiconductor chips. We have in the past experienced, and may in the future experience, semiconductor chip shortages, and the availability and cost of these components would be difficult to predict. For example, our manufacturers may experience temporary or permanent disruptions in their manufacturing operations due to equipment breakdowns, labor strikes or shortages, natural disasters, component or material shortages, cost increases, acquisitions, insolvency, changes in legal or regulatory requirements, or other similar problems. In particular, increased demand for semiconductor chips in 2020, due in part to the COVID-19 pandemic and increased demand for consumer electronics that use these chips, has resulted in a severe global shortage of chips in 2021. As a result, our ability to source semiconductor chips to be used in our products has been adversely affected. This shortage may result in increased chip delivery lead times, delays in the production of our products, and increased costs to source available semiconductor chips. To the extent this semiconductor chip shortage continues, and we are unable to mitigate the effects of this shortage, our ability to deliver sufficient quantities of our products to fulfill our preorders and to support our growth through sales to new customers would be adversely affected. In addition, we may be required to incur additional costs and expenses in managing ongoing chip shortages, including additional research and development expenses, engineering design and development costs in the event that new suppliers must be onboarded on an expedited basis. Further, ongoing delays in production and shipment of products due to a continuing shortage of semiconductor chips may harm our reputation and discourage additional preorders and sales, and otherwise materially and adversely affect our business and operations. 15 Table of Contents If we need to replace manufacturers, our expenses could increase resulting in smaller profit margins. We compete with other companies for the production capacity of our manufacturers and import quota capacity. Some of these competitors have greater financial and other resources than we have, and thus have an advantage in the competition for production and import quota capacity. If we experience a significant increase in demand, or if we need to replace an existing manufacturer, we may have to expand our third-party manufacturing capacity. We cannot assure that this additional capacity will be available when required on terms that are acceptable to us or similar to existing terms, which we have with our manufacturers, either from a production standpoint or a financial standpoint. We enter into a number of purchase order commitments specifying a time for delivery, method of payment, design and quality specifications and other standard industry provisions, but do not have long-term contracts with any manufacturer. None of the manufacturers we use produce our products exclusively. Should we be forced to replace one or more of our manufacturers, we may experience increased costs or an adverse operational impact due to delays in distribution and delivery of our products to our patients, which could cause us to lose patients or lose revenue because of late shipments. W e are a relatively small company with a limited number of products and staff. S ales fluctuations and employee turnover may adversely affect our business. We are a relatively small company. Consequently, compared to larger companies, sales fluctuations could have a greater impact on our revenue and profitability on a quarter-to-quarter and year-to-year basis and delays in patient orders could cause our operating results to vary significantly from quarter to quarter and year-to-year. In addition, as a small company we have limited staff and are heavily reliant on certain key personnel to operate our business. If a key employee were to leave the company it could have a material impact on our business and results of operations as we might not have sufficient depth in our staffing to fill the role that was previously being performed. A delay in filling the vacated position could put a strain on existing personnel or result in a failure to satisfy our contractual obligations or to effectively implement our internal controls, and materially harm our business. If we are unable to retain the services of Mr. Sandgaard or if we are unable to successfully recruit qualified managerial and sales personnel, we may not be able to continue our operations. Our success depends to a significant extent upon the continued service of Mr. Thomas Sandgaard, our Chief Executive Officer, Founder, and beneficial owner of approximately 38% of our outstanding stock. Loss of the services of Mr. Sandgaard could have a material adverse effect on our growth, revenues, and prospective business. There is currently no employment agreement with Mr. Sandgaard. We do not maintain key-man insurance on the life of Mr. Sandgaard. In addition, in order to successfully implement and manage our business plan, we will be dependent upon, among other things, successfully retaining and recruiting qualified managerial and sales personnel. Competition for qualified individuals is intense. Various factors, such as marketability of our products, our reputation, our liquidity, and sales commission structure can affect our ability to find, attract or retain sales personnel. There can be no assurance that we will be able to find and attract qualified new employees and sales representatives and retain existing employees and sales representatives. We need to maintain insurance coverage, which could become very expensive or have limited availability. Our marketing and sales of medical device products creates an inherent risk of claims for product liability. As a result, we carry product liability insurance and will continue to maintain insurance in amounts we consider adequate to protect us from claims. We cannot, however, be assured that we have resources sufficient to satisfy liability claims in excess of policy limits if required to do so. Also, if we are subject to such liability claims, there is no assurance that our insurance provider will continue to insure us at current levels or that our insurance rates will not substantially rise in the future, resulting in increased costs to us or forcing us to either pay higher premiums or reduce our coverage amounts, which would result in increased liability to claims. 16 Table of Contents We depend upon obtaining regulatory approval of any new products and/or manufacturing operations we develop and maintain approvals of current products; failure to obtain or maintain such regulatory approvals could result in increased costs, lost revenue, penalties and fines. Before marketing any new products, we will need to complete one or more clinical investigations of each product. There can be no assurance that the results of such clinical investigations will be favorable to us. We may not know the results of any study, favorable or unfavorable to us, until after the study has been completed. Such data must be submitted to the FDA as part of any regulatory filing seeking approval to market the product. Even if the results are favorable, the FDA may dispute the claims of safety, efficacy, or clinical utility and not allow the product to be marketed. The sales price of the product may not be enough to recoup the amount of our investment in conducting the investigative studies and we may expend significant funds on research and development on products that are rejected by the FDA. Some of our products are marketed based upon our interpretation of FDA regulation allowing for changes to an existing device. If our interpretations are incorrect, we could suffer consequences that could have a material adverse effect on our results of operations and cash flows and could result in fines and penalties. There can be no assurance that we will have the financial resources to complete development of any new products or to complete the regulatory approval process or to maintain regulatory compliance of existing products. We may not be able to obtain clearance of a 510(k) notification or approval of a de novo or pre-market approval application with respect to any products on a timely basis, if at all. If timely FDA clearance or approval of new products is not obtained, our business could be materially adversely affected. Clearance of a 510(k) notification or de novo application may also be required before marketing certain previously marketed products, which have been modified after they have been cleared. Should the FDA so require, the filing of a new 510(k) notification for the modification of the product may be required prior to marketing any modified device. To determine whether adequate compliance has been achieved, the FDA may inspect our facilities at any time. Such compliance can be difficult and costly to achieve and maintain. Our compliance status may change due to future changes in, or interpretations of, FDA regulations or other regulatory agencies. Such changes may result in the FDA withdrawing marketing clearance or requiring product recall. In addition, any changes or modifications to a device or its intended use may require us to reassess compliance with good manufacturing practices guidelines, potentially interrupting the marketing and sale of products. We may also fail to comply with complex FDA regulations due to their complexity or otherwise. Failure to comply with regulations could result in enforceable actions, including product seizures, product recalls, withdrawal of clearances or approvals, and civil and criminal penalties, any of which could have a material adverse effect on our operating results and reputation. O ur products are subject to recall even after receiving FDA or foreign clearance or approval, which would harm our reputation and business. We are subject to medical device reporting regulations that require us to report to the FDA or respective governmental authorities in other countries if our products cause or contribute to a death or serious injury or malfunction in a way that would be reasonably likely to contribute to death or serious injury if the malfunction were to recur. The FDA and similar governmental authorities in other countries have the authority to require the recall of our products in the event of material deficiencies or defects in design or manufacturing. A government mandated or voluntary recall by us could occur as a result of component failures, manufacturing errors or design defects, including defects in labeling. Any recall would divert managerial and financial resources and could harm our reputation with customers. We cannot assure you that we will not have product recalls in the future or that such recalls would not have a material adverse effect on our business. We have not undertaken any voluntary or involuntary recalls to date. We continue to incur expenses. This area of medical device research is subject to rapid and significant technological changes. Developments and advances in the medical industry by either competitors or other parties can affect our business in either a positive or negative manner. Developments and changes in technology that are favorable to us may significantly advance the potential of our research while developments and advances in research methods outside of the methods we are using may severely hinder, or halt completely our development. 17 Table of Contents We are a small company in terms of employees, technical and research resources. We expect to incur research and development, sales and marketing, and general and administrative expenses. These amounts may increase, and recently have in connection with our efforts to expand our sales force, before any commensurate incremental revenue from these efforts may be obtained and may adversely affect our potential profits and we may lack the liquidity to pay for such expenditures. These factors may also hinder our ability to meet changes in the medical industry as rapidly or effectively as competitors with more resources. Substantial costs could be incurred defending against claims of infringement. Other companies, including competitors, may obtain patents or other proprietary rights that would limit, interfere with, or otherwise circumscribe our ability to make, use, or sell products. Should there be a successful claim of infringement against us and if we could not license the alleged infringed technology at a reasonable cost, our business and operating results could be adversely affected. There has been substantial litigation regarding patent and other intellectual property rights in the medical device industry. The validity and breadth of claims covered in medical technology patents involve complex legal and factual questions for which important legal principles remain unresolved. Any litigation claims against us, independent of their validity, may result in substantial costs and the diversion of resources with no assurance of success. Intellectual property claims could cause us t ● Cease selling, incorporating, or using products that incorporate the challenged intellectual property; ● Obtain a license from the holder of the infringed intellectual property right, which may not be available on reasonable terms, if at all; and ● Re-design our products excluding the infringed intellectual property, which may not be possible. We may be unable to protect our trademarks, trade secrets and other intellectual property rights that are important to our business. We consider our trademarks, trade secrets, and other intellectual property an integral component of our success. We rely on trademark law and trade secret protection and confidentiality agreements with employees, customers, partners, and others to protect our intellectual property. Effective trademark and trade secret protection may not be available in every country in which our products are available. We obtained utility patents on the fluid monitoring system in 2021 and 2018 in the U.S. and in 2020 in Europe. We cannot be certain that we have taken adequate steps to protect our intellectual property, especially in countries where the laws may not protect our rights as fully as in the United States. In addition, if our third-party confidentiality agreements are breached, there may not be an adequate remedy available to us. If our trade secrets become publicly known, we may lose competitive advantages. We may fail to protect the privacy, integrity and security of customer information. We possess and process sensitive customer information and Protected Health Information protected by the Health Insurance Portability and Affordability Act (“HIPAA”). While we have taken reasonable and appropriate steps to protect that information, if our security procedures and controls were compromised, it could harm our business, reputation, results of operations and financial condition and may increase the costs we incur to protect against such information security breaches, such as increased investment in technology, the costs of compliance with health care privacy and consumer protection laws. A compromise of our privacy or security procedures could also subject us to liability under certain health care privacy laws applicable to us. Cyber-attacks and security vulnerabilities could lead to reduced revenue, increased costs, liability claims, or harm to our competitive position. Increased sophistication and activities of perpetrators of cyber-attacks have resulted in an increase in information security risks in recent years. Hackers develop and deploy viruses, worms, and other malicious software programs that attack products and services and gain access to networks and data centers. If we experience difficulties maintaining existing systems or implementing new systems, we could incur significant losses due to disruptions in our operations. Additionally, these systems contain valuable proprietary and confidential information and may contain personal data of our customers. A security breach could result in disruptions of our internal systems and business applications, harm to our competitive position from the compromise of confidential business information, or subject us to liability under laws that protect personal data. As cyber threats continue to evolve, we may be required to expend additional resources to continue to enhance our information security measures and/or to investigate and remediate any information security vulnerabilities. Any of these consequences would adversely affect our revenue and margins. 18 Table of Contents Expansion of our operations and sales internationally may subject us to additional risks, including risks associated with unexpected events. A component of our growth strategy is to expand our operations and sales internationally. There can be no assurance that we will be able to successfully market, sell, and deliver our products in foreign markets, or that we will be able to successfully expand our international operations. Global operations could cause us to be subject to unexpected, uncontrollable and rapidly changing risks, events, and circumstances. The following factors, among others, could adversely affect our business, financial condition and results of operatio ● difficulties in managing foreign operations and attracting and retaining appropriate levels of senior management and staffing; ● longer cash collection cycles; ● proper compliance with local tax laws which can be complex and may result in unintended adverse tax consequences; ● difficulties in enforcing agreements through foreign legal systems; ● failure to properly comply with U.S. and foreign laws and regulations applicable to our foreign activities including, without limitation, product approval, healthcare and employment law requirements and the Foreign Corrupt Practices Act; ● fluctuations in exchange rates that may affect product demand and may adversely affect the profitability in U.S. dollars of the products we provide in foreign markets; ● the ability to efficiently repatriate cash to the United States and transfer cash between foreign jurisdictions; and ● changes in general economic conditions or political circumstances in countries where we operate. Our acquisition of other companies could require significant management attention, disrupt our business, dilute stockholder value and adversely affect our operating results. As part of our business strategy, we recently made and may in the future acquire or make investments in other companies, solutions or technologies to, among other reasons, expand or enhance our product offerings. In the future, any significant acquisition would require the consent of our lenders. Any failure to receive such consent could delay or prohibit us from acquiring companies that we believe could enhance our business. We may not ultimately strengthen our competitive position or achieve our goals from our recent or any future acquisition, and any acquisitions we complete could be viewed negatively by users, customers, partners or investors. In addition, if we fail to integrate successfully such acquisitions, or the technologies associated with such acquisitions, into our company, the revenues and operating results of the combined company could be adversely affected. For example, we recently acquired Kestrel Labs, Inc. and we must effectively integrate the personnel, products, technologies and customers and develop and motivate new employees. In addition, we may not be able to successfully retain the customers and key personnel of such acquisitions over the longer term, which could also adversely affect our business. The integration of our recently-acquired business or future-acquired business will require significant time and resources, and we may not be able to manage the process successfully. We may not successfully evaluate or utilize the acquired business and accurately forecast the financial impact of the acquisition, including accounting charges. 19 Table of Contents We may have to pay cash, incur debt or issue equity securities to pay for any acquisition, each of which could affect our financial condition or the value of our capital stock. For example, in connection with our acquisition of Kestrel Labs, Inc., we paid an approximate value of $30.5 million, consisting of $16.1 million in cash which was financed through Bank of America N.A. and approximately $14.4 million in Zynex common stock, a portion of which is held in escrow until certain milestones are achieved. To fund any future acquisition, we may issue equity, which would result in dilution to our stockholders, or incur more debt, which would result in increased fixed obligations and could subject us to additional covenants or other restrictions that would impede our ability to manage our operations. If we are not able to integrate acquired businesses successfully, our business could be harmed. Our inability to successfully integrate our recent and future acquisitions could impede us from realizing all of the benefits of those acquisitions and could severely weaken our business operations. The integration process may disrupt our business and, if implemented ineffectively, may preclude realization of the full benefits expected by us and could harm our results of operations. In addition, the overall integration of the combining companies may result in unanticipated problems, expenses, liabilities, and competitive responses, and may cause our stock price to decline. The difficulties of integrating an acquisition include, among othe ● unanticipated issues in integration of information, communications, and other systems; ● unanticipated incompatibility of logistics, marketing, and administration methods; ● maintaining employee morale and retaining key employees; ● integrating the business cultures of both companies; ● preserving important strategic client relationships; ● consolidating corporate and administrative infrastructures and eliminating duplicative operations; and ● coordinating geographically separate organizations. In addition, even if the operations of an acquisition are integrated successfully, we may not realize the full benefits of the acquisition, including the synergies, cost savings, or growth opportunities that we expect. These benefits may not be achieved within the anticipated time frame, or at all. For example, the failure to get regulatory approval to sell certain products of an acquired business may significantly reduce the anticipated benefits of the acquisition and could harm our results of operations, even if we have put in place contingencies for the delivery of closing consideration, such as the escrowed shares held back in our acquisition of Kestrel Labs, Inc. Further, acquisitions may also cause us t ● issue securities that would dilute our current stockholders’ ownership percentage; ● use a substantial portion of our cash resources; ● increase our interest expense, leverage, and debt service requirements if we incur additional debt to pay for an acquisition; ● assume liabilities, including environmental liabilities, for which we do not have indemnification from the former owners or have indemnification that may be subject to dispute or concerns regarding the creditworthiness of the former owners; ● record goodwill and non-amortizable intangible assets that are subject to impairment testing on a regular basis and potential impairment charges; ● experience volatility in earnings due to changes in contingent consideration related to acquisition liability estimates; ● incur amortization expenses related to certain intangible assets; ● lose existing or potential contracts as a result of conflict of interest issues; ● incur large and immediate write-offs; or ● become subject to litigation. Our failure to comply with the covenants contained in our loan agreement could result in an event of default that could adversely affect our financial condition and ability to operate our business as planned. We currently have an outstanding term loan and line of credit with Bank of America, N.A. under which we are obligated to pay monthly amortization payments. Our loan agreement contains, and any agreements to refinance our debt likely will contain, financial and restrictive covenants. Our failure to comply with these covenants in the future may result in an event of default, which if not cured or waived, could result in the bank preventing us from accessing availability under our line of credit and requiring us to repay any outstanding borrowings. There can be no assurance that we will be able to obtain waivers in the event of covenant violations or that such waivers will be available on commercially acceptable terms. 20 Table of Contents In addition, the indebtedness under our loan agreement is secured by a security interest in substantially all of our tangible and intangible assets, and therefore, if we are unable to repay such indebtedness the bank could foreclose on these assets and sell the pledged equity interests, which would adversely affect our ability to operate our business. If any of these were to occur, we may not be able to continue operations as planned, implement our planned growth strategy or react to opportunities for or downturns in our business. Changes in financial accounting standards or practices may cause adverse, unexpected financial reporting fluctuations and affect our reported results of operations. We are required to prepare our financial statements in accordance with generally accepted accounting principles in the United States of America (“GAAP”), which is periodically revised and/or expanded. From time to time, we are required to adopt new or revised accounting standards issued by recognized authoritative bodies, including the Financial Accounting Standards Board (“FASB”) and the SEC. It is possible that future accounting standards we are required to adopt may require additional changes to the current accounting treatment that we apply to our financial statements and may require us to make significant changes to our reporting systems. Such changes could result in a material adverse impact on our business, results of operations and financial condition. RISKS RELATING TO OUR COMMON STOCK Sales of significant amounts of shares held by Mr. Sandgaard, or the prospect of these sales, could adversely affect the market price of our common stock Sales of significant amounts of shares held by Mr. Sandgaard, or the prospect of these sales, could adversely affect the market price of our common stock. Mr. Sandgaard’s stock ownership may discourage a potential acquirer from making a tender offer or otherwise attempting to obtain control of the Company, which in turn could reduce our stock price or prevent our stockholders from realizing a premium over our stock price. Our existing shareholders may experience dilution if we elect to raise equity capital Due to our past liquidity issues, we have had to raise capital in the form of debt and/or equity to meet our working capital needs. As recent as July 2020, we did raise capital through the issuance of equity to meet our working capital needs and to execute on our business strategy. We may also choose to issue equity or debt securities in the future to meet our liquidity or other needs which would result in additional dilution to our existing stockholders. Although we will attempt to minimize the dilutive impact of any future capital-raising activities, we cannot offer any assurance that we will be able to do so. We may have to issue additional shares of our common stock at prices at a discount from the then-current market price of our common stock. If we raise additional working capital, existing shareholders may experience dilution. We paid a dividend on our common stock, and cash used to pay dividends will not be available for other corporate purposes In 2018, our Board of Directors declared a special one-time dividend of $0.07 per share, which was paid in January 2019. In 2021, our Board of Directors declared a special one-time dividend of $0.10 per share, which was paid in January 2022. The decision to pay dividends in the future will depend on general business conditions, the impact of such payment on our financial condition, and other factors our Board of Directors may consider. If we elect to pay future dividends, this could reduce our cash reserves to levels that may be inadequate to fund expansions to our business plan or unanticipated contingent liabilities. Our stock price could become more volatile and your investment could lose value. All of the factors discussed in this section could affect our stock price. A significant drop in our stock price could also expose us to the risk of securities class actions lawsuits, which could result in substantial costs and divert management’s attention and resources, which could adversely affect our business ITEM 1B. UNRESOLVED STAFF COMMENTS None. 21 Table of Contents ITEM 2. PROPERTIES In October 2017, we signed a lease for a corporate headquarters in Englewood, Colorado beginning in January 2018. In March 2019, we signed an amendment to this lease, which allowed the Company to expand its corporate offices. An additional amendment was entered into on January 3, 2020 which expanded our corporate offices to approximately 85,681 square feet. During 2021, we moved our corporate headquarters to a new location, however, we continue to use the leased property for ZMS operations. The lease and subsequent amendments continue through June 30, 2023 with an option for a two-year extension through June 2025. In addition to our corporate headquarters, we entered into a lease agreement for a warehouse and production facility with approximately 50,488 square feet in September 2020. The lease continues through June 2026 with an option for a five-year extension through June 2031. In April 2021, we signed a sublease for a new corporate headquarters in Englewood, Colorado beginning in May 2021 for up to approximately 110,754 square feet. This lease runs through April 2028. We believe these leased properties are sufficient to support our current requirements and that we will be able to locate additional facilities as needed. See Note 11 to the Consolidated Financial Statements for additional information on these leases. ITEM 3. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 4. MINE SAFETY DISCLOSURES Not applicable. PART II ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES On February 12, 2019, our common stock began trading on The Nasdaq Capital Market under the symbol “ZYXI”. Prior to uplisting to the Nasdaq Capital Market, the Company’s common stock was quoted on the OTCQB (managed by OTC Markets, Inc) under the symbol “ZYXI.” As of March 18, 2022, there were 39,784,068 shares of common stock outstanding and approximately 267 record holders of our common stock. Recent Sales of Unregistered Securities None. Purchases of Equity Securities by the Issuer and Affiliated Purchasers None. Dividends Our Board of Directors declared a one-time special cash dividend of $0.07 per share during the fourth quarter of 2018, which was paid in January 2019 and a one-time cash dividend of $0.10 per share and a 10% stock dividend during the fourth quarter of 2021, which was paid out and issued in January 2022. There can be no guarantee that we will continue to pay dividends. Any future determination to pay cash dividends will be at the discretion of the Board of Directors and will be dependent upon our financial condition, results of operations, capital requirements and such other factors as the Board deems relevant. 22 Table of Contents ITEM 6. [RESERVED] Not required. ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This Annual Report on Form 10-K contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain FDA clearance and CE marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, and other risks described herein and included in “Item 1A-Risk Factors.” OVERVIEW We operate in one primary business segment, electrotherapy and pain management products. As of December 31, 2021, the Company’s only active subsidiary is ZMI, a wholly-owned Colorado corporation, through which the Company conducts its U.S. electrotherapy and pain management operations. ZMS, a wholly-owned Colorado corporation, has developed a fluid monitoring system, which has received two utility patents and FDA approval in the U.S. ZMS also acquired Kestrel during 2021, which had two pulse-oximeter products they are developing and numerous patents. However, ZMS has achieved no revenues to date. The following information should be read in conjunction with our Consolidated Financial Statements and related notes contained in this Annual Report. HIGHLIGHTS During the year ended December 31, 2021, the Company achieved the followin ZMI ● Achieved an 89% increase in order growth, 63% growth in revenue and 88% growth in net income compared to the prior year; ● Due to strong results and related cash flow, we declared a $0.10 cash dividend and a 10% stock dividend in November 2021; ● We moved into a larger corporate office to accommodate order and revenue growth by increasing staffing at the corporate level; and ● Expanded our pain management product line by adding knee braces. 23 Table of Contents ZMS ● Filed for FDA approval of the CM-1600 laser-based fluid monitoring system; and ● Acquired Kestrel Labs, Inc. on December 22, 2021 for an approximate value of $30.5 million, consisting of $16.1 million in cash which is being financed through Bank of America N.A. and approximately $14.4 million in Zynex common stock. SUMMARY Net revenue increased 63% in 2021 to $130.3 million from $80.1 million in 2020. Net income was $17.1 million and $9.1 million for the years ended December 31, 2021, and 2020, respectively. We generated cash flows from operating activities of $6.9 million during the year ended December 31, 2021. Increased orders for our devices and supplies and the related receivables and cash flows, which allowed us to grow our working capital at December 31, 2021 to $59.8 million, compared to $52.9 million as of December 31, 2020. RESULTS OF OPERATIONS The following table presents our consolidated statements of operations in comparative format (in thousands). For the Years Ended December 31, $ 2021 2020 change NET REVENUE Devices $ 36,613 $ 21,269 $ 15,344 Supplies 93,688 58,853 34,835 Total net revenue 130,301 80,122 50,179 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue – devices and supplies 27,321 17,417 9,904 Sales and marketing 54,290 34,133 20,157 General and administrative 26,324 18,323 8,001 Total costs of revenue and operating expenses 107,935 69,873 38,062 Income from operations 22,366 10,249 12,117 Other income/(expense) Loss on disposal of non-controlling interest — (77) 77 Interest expense (95) (19) (76) Other income/(expense), net (95) (96) 1 Income from operations before income taxes 22,271 10,153 12,118 Income tax expense 5,168 1,079 4,089 Net Income $ 17,103 $ 9,074 $ 8,029 Net income per sh Basic $ 0.45 $ 0.24 $ 0.20 Diluted $ 0.44 $ 0.24 $ 0.20 Weighted average basic shares outstanding 38,317 37,256 1,061 Weighted average diluted shares outstanding 39,197 38,438 759 24 Table of Contents The following table presents our consolidated statements of operations reflected as a percentage of total reve For the Years Ended December 31, 2021 2020 NET REVENUE Devices 28 % 27 % Supplies 72 % 73 % Total net revenue 100 % 100 % COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue – devices and supplies 21 % 22 % Sales and marketing 42 % 43 % General and administrative 20 % 23 % Total costs of revenue and operating expenses 83 % 87 % Income from operations 17 % 13 % Other income/(expense) Loss on disposal of non-controlling interest 0 % 0 % Interest expense 0 % 0 % Other income/(expense), net 0 % 0 % Income from operations before income taxes 17 % 13 % Income tax expense 4 % 1 % Net Income 14 % 11 % Net income per sh Basic 0.45 0.24 Diluted 0.44 0.24 Weighted average basic shares outstanding 38,317 37,256 Weighted average diluted shares outstanding 39,197 38,438 Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the health care industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the Consolidated Financial Statements for a more complete explanation of our revenue recognition policies. 25 Table of Contents We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $50.2 million or 63% to $130.3 million for the year ended December 31, 2021, from $80.1 million for the year ended December 31, 2020. The growth in net revenue is primarily related to the 89% growth in device orders which led to an increased customer base and drove higher sales of consumable supplies. Device Revenue Device revenue is related to the purchase or lease of our electrotherapy products as well as complementary products including cervical traction, lumbar support and hot/cold therapy products. Device revenue increased $15.3 million or 72% to $36.6 million for the year ended December 31, 2021, from $21.3 million for the year ended December 31, 2020. The increase in device revenue is related to the growth in our device and complementary product orders of 89% from 2020 to 2021 as a result of greater sales representative productivity. Supplies Revenue Supplies revenue is related to the sale of supplies, typically electrodes and batteries, for our products. Supplies revenue increased $34.8 million or 59% to $93.7 million for the year ended December 31, 2021, from $58.9 million for the year ended December 31, 2020. The increase in supplies revenue is primarily related to growth in our customer base from higher device sales in 2021 and prior years. Operating Expenses Costs of Revenue –Devices and Supplies Costs of revenue – devices and supplies consist primarily of device and supplies costs, operations labor and overhead, shipping and depreciation. Costs of revenue increased $9.9 million or 57% to $27.3 million for the year ended December 31, 2021, from $17.4 million for the year ended December 31, 2020. The increase in costs of revenue is directly related to the increase in device and supplies orders as well as our new production and inventory facility which opened in January 2021. As a percentage of revenue, cost of revenue –devices and supplies decreased to 21% for the year ended December 31, 2021 compared to 22% for the year ended December 31, 2020. The decrease in cost of revenue – devices and supplies as a percentage of revenue was due to expanding our supplier portfolio mix and reducing supply costs. Sales and Marketing Expense Sales and marketing expense primarily consists of employee-related costs, including commissions and other direct costs associated with these personnel including travel and marketing expenses. Sales and marketing expense for the year ended December 31, 2021 increased 59% to $54.3 million from $34.1 million for the year ended December 31, 2020. The increase in sales and marketing expense is primarily due to increased payroll costs, related to increased average direct sales reps during the year and a full year of our regional sales managers which we began adding in 2020. We also increased our internal sales support functions to assist patients during the sales process. Increased orders resulted in higher sales commissions as well as travel expenses. As a percentage of revenue, sales and marketing expense decreased to 42% for the year ended December 31, 2021 from 43% for the year ended December 31, 2020. The decrease as a percentage of revenue is primarily due to the increase in revenue and our sales force becoming more productive. 26 Table of Contents General and Administrative Expense General and administrative expense primarily consists of employee related costs, facilities expense, professional fees and depreciation and amortization. General and administrative expense for the year ended December 31, 2021 increased 44% to $26.3 million from $18.3 million for the year ended December 31, 2020. The increase in general and administrative expense is primarily due to the followin ● an increase of $3.3 million in compensation and benefits expense, including non-cash stock compensation expense, related to headcount growth in ZMI and $0.7M in ZMS. During 2021, the Company increased its average employee headcount for its billing and patient support activities by approximately 55%, or 96 employees; ● an increase of $2.6 million in other expenses, including professional fees, research and development supplies, sales tax, temporary labor costs and other general and administrative costs associated with the increase in order volumes; and ● an increase of $1.1 million in rent and facilities expenses as we entered into a new corporate headquarters lease during 2021. Much of the increase in facilities was non-cash as we received 21 months of free rent on the new corporate headquarters but for GAAP purposes the rent over the lease term is expensed on a straight-line basis. As a percentage of revenue, general and administrative expense decreased to 20% for the year ended December 31, 2021 from 23% for the year ended December 31, 2020. The decrease as a percentage of revenue is primarily due to increased revenue and leveraging our investment in general and administrative functions from prior years. The Company expects that general and administrative expenses will continue to increase through 2022 as the Company continues to expand its corporate headcount to accommodate continued order growth. Other Income (Expense) Other expense was $95,000 for the year ended December 31, 2021, of which $41,000 was related to interest on our finance lease obligations, $13,000 was related to interest on new debt. Other expense was $96,000 for the year ended December 31, 2020. Income Tax Expense We recorded income tax expense of $5.2 million and $1.1 million for the years ended December 31, 2021 and 2020, respectively. The effective income tax rate for the years ended December 31, 2021 and 2020 was 24% and 10%, respectively. The increase in expense and effective rate during 2021 is primarily due to a decrease in deductions related to stock option exercises. During 2021, discrete items related to stock-based compensation was $0.2 million as compared with $1.7 million in 2020. FINANCIAL CONDITION As of December 31, 2021, we had working capital of $59.8 million, compared to $52.9 million as of December 31, 2020. The increase in working capital is primarily due to the Company’s profitability from increased orders and related revenue during 2021. The increase in working capital is net of a cash dividend declared of $3.6 million which was paid in January 2022. We generated $6.9 million in operating cash flows during 2021. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. As of December 31, 2021, our principal source of liquidity was $42.6 million in cash and $28.6 million in accounts receivables. The increased cash balance at December 31, 2021 was primarily due to the profitability during the year as a result of increased orders and improved sales rep productivity. 27 Table of Contents Upon closing on the Kestrel acquisition we entered into a loan and credit facility agreement with Bank of America, N.A. The credit facility includes a line of credit in the amount of $4.0 million available until December 1, 2024. The loan is a fixed rate term loan in the amount of $16.0 million and has an interest rate equal to 2.8% per year. The term loan is payable in equal principal installments of $444,444 per month through December 1, 2024 plus interest on the first day of each month beginning January 1, 2022. See Note 7. Our anticipated uses of cash in the future will be to fund the expansion of our business. The Company does not anticipate any large expenditures for capital resources over the next 12 months. Net cash provided by operating activities for the years ended December 31, 2021 and 2020 was $6.9 million and $0.8 million, respectively. The increase in cash provided by operating activities for the year ended December 31, 2021 was primarily due to increased profitability in 2021 and an increase in non-cash lease expense and depreciation. The increase in cash provided by operating activities was partially offset by an increase in AR and Inventory. Cash provided by operating activities for the year ended December 31, 2020 was primarily due to profitability, which was offset by increased accounts receivable due to revenue growth. Net cash used in investing activities for the years ended December 31, 2021 and 2020 was $16.6 million and $1.0 million, respectively. Cash used in investing activities for the year ended December 31, 2021 was primarily related to the acquisition of Kestrel and the purchase of computer, office and warehouse equipment. Cash used in investing activities for the year ended December 31, 2020 was primarily related to the purchase of computer and office equipment. Net cash provided by financing activities for the year ended December 31, 2021 was $13.1 million compared with net cash provided by financing activities of $25.3 million for the year ended December 31, 2020. The cash provided by financing activities of $13.1 million for the year ended December 31, 2021 was primarily due to net proceeds from debt assumed in the Kestrel acquisition of $16.0 million, which is slightly offset by the purchase of treasury stock totaling $2.7 million. The $25.3 million of cash provided by financing activities for the year ended December 31, 2020 was primarily due to an equity offering in July 2020 for net proceeds of $25.2 million along with net proceeds from the exercise of stock options of $0.1 million. During 2021 there was no equity offering. We believe our cash, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash balance at December 31, 2021 of $42.6 million; ● Our working capital balance of $59.8 million; ● Our accounts receivable balance of $28.6 milli ● Our increasing profitability over the last 6 years; and ● Our planned capital expenditures of less than $1.0 million during 2022. 28 Table of Contents Contractual Obligations The following table summarizes the future cash disbursements to which we are contractually committed as of December 31, 2021 (in thousands). Total 2022 2023 2024 2025 2026 Thereafter Operating leases 21,190 3,569 2,982 3,496 3,567 3,362 4,214 Finance leases 513 154 152 116 76 15 — $ 21,703 $ 3,723 $ 3,134 $ 3,612 $ 3,643 $ 3,377 $ 4,214 We lease office and warehouse facilities under non-cancelable operating leases. The current office facility leases include our corporate headquarters and a production warehouse, both located in Englewood, Colorado. We also rent a small warehouse/office in Denmark. Rent expense was $3.5 million and $1.7 million for the years ended December 31, 2021 and 2020, respectively. A portion of the increase in facilities was non-cash as we received 21 months of free rent on the new corporate headquarters but for GAAP purposes the rent over the lease term is expensed on a straight-line basis. The Company also leases office equipment for its corporate and warehouse facilities under non-cancelable finance lease agreements. Off – Balance Sheet Arrangements As of December 31, 2021, and 2020, we had no off-balance sheet arrangements or obligations. CRITICAL ACCOUNTING POLICIES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with GAAP. We have identified the policies below as critical to our business operations and the understanding of our results of operations. Revenue Recognition and Accounts Receivable Revenue is generated primarily from sales and leases of our electrotherapy devices and related supplies and complementary products. Sales are primarily made with, and shipped, direct to the patient with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contract with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. Device Sales Device sales can be in the form of a purchase or a lease. Revenue for purchased devices is recognized in accordance with Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (ASC 606) when the device is delivered to the patient. 29 Table of Contents Revenue related to devices out on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, we concluded our transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since our leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Supplies Supplies revenue is recognized once delivered to the patient. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. Variable consideration A significant portion of the Company’s revenues are derived, and the related receivables are due, from patients with commercial or government health insurance plans. Revenues are estimated using the portfolio approach by third party payer type based upon historical rates of collection, the aging of receivables, trends in the historical reimbursement rates by third-party payer types and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Due to continuing changes in the health care industry and third-party payer reimbursement, it is possible our forecasting model to estimate collections could change, which could have an impact on our results of operations and cash flows. Any differences between estimated settlements and final determinations are reflected as an increase or a reduction to revenue in the period when such final determinations are known. Historically these differences have been immaterial and the Company has not had to go back and reassess the adjustments of future periods for past billing adjustments. The Company monitors the variability and uncertain timing over third-party payer types in our portfolios. If there is a change in our third-party payer mix over time, it could affect our net revenue and related receivables. We believe we have a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. 30 Table of Contents Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved. Income Taxes Significant judgment is required in determining our provision for income taxes. We assess the likelihood that our deferred tax asset will be recovered from future taxable income, and to the extent we believe that recovery is not likely, we establish a valuation allowance. We consider future taxable income projections, historical results and ongoing tax planning strategies in assessing the recoverability of deferred tax assets. However, adjustments could be required in the future if we determine that the amount to be realized is less or greater than the amount that we recorded. Such adjustments, if any, could have a material impact on our results of our operations. We use a recognition threshold and a measurement attribute for the financial statement recognition and measurement of tax positions taken or expected to be taken in a tax return. For those benefits to be recognized, a tax position must be more-likely-than-not to be sustained upon examination by taxing authorities. Acquisition Method of Accounting for Business Combinations We allocate the purchase price of acquired companies to the tangible and intangible assets acquired and liabilities assumed based on their estimated fair values. The excess of the purchase price over these fair values is recorded as goodwill. We engage independent third-party valuation specialists to assist us in determining the fair values of certain assets acquired and liabilities assumed. Such valuation require management to make significant estimates and assumptions, especially with respect to intangible assets. Different valuations approaches are used to value different types of intangible assets. Under the income approach, the relief from royalty method is a valuation technique which is used to estimate the value of certain intangible assets. This method utilizes projected financial information and hypothetical royalty rates to estimate the cost savings associated with asset ownership. The estimated cost savings are discounted for risk and the time value of money to estimate an intangible asset’s fair value. Management’s estimates of fair value are based upon assumptions believed to be reasonable, but which are inherently uncertain and unpredictable. If we do not achieve the results reflected in the assumptions and estimates, our goodwill impairment evaluations could be adversely affected, and we may impair a portion or all of our intangible assets, which would adversely affect our operating results in the period of impairment. Impairment of Long-lived Assets, including Goodwill We assess impairment of goodwill annually and other long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Long-lived assets consist of property and equipment, net and goodwill and intangible assets. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Contingent considerations We classify contingent consideration liabilities related to business acquisitions within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. We estimate the fair value of contingent consideration liabilities using a Monte Carlo simulation which is based on equity volatility, the risk-free rate, the normal variate, projected milestone dates, discount rates, and probabilities of payment. 31 Table of Contents ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK As a “Smaller Reporting Company”, this Item and the related disclosure is not required. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The consolidated financial statements, the notes thereto, and the report thereon of Plante & Moran, PLLC, are filed as part of this report starting on page F-1. ITEM 9. CHANGES IN ACCOUNTANTS None. ITEM 9A. CONTROLS AND PROCEDURES Evaluation of disclosure controls and procedures. We maintain “disclosure controls and procedures,” as such term is defined in Rule 13a-15(e) and 15d-15(f) under the Securities Exchange Act of 1934 (the “Exchange Act”), that are designed to provide reasonable assurance that information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. Our management, with the participation of the Chief Executive Officer and the Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures as of the end of the period covered by this Annual Report on Form 10-K. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were effective as of the end of such period. In designing and evaluating our disclosure controls and procedures, management recognized that disclosure controls and procedures, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the disclosure controls and procedures are met. Additionally, in designing disclosure controls and procedures, we are required to apply judgment in evaluating the cost-benefit relationship of possible disclosure controls and procedures. The design of any disclosure controls and procedures also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Management’s report on internal control over financial reporting. Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f). All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the 2013 framework set forth in the report entitled Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). The COSO framework summarizes each of the components of a company’s internal control system, including (i) the control environment, (ii) risk assessment, (iii) control activities, (iv) information and communication, and (v) monitoring. Based on our evaluation under the 2013 framework in Internal Control — Integrated Framework, our management concluded that our internal control over financial reporting was effective as of December 31, 2021. Changes in Internal Control over Financial Reporting During the quarter ended December 31, 2021, there was no change in our internal control over financial reporting or in other factors that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 32 Table of Contents ITEM 9B. OTHER INFORMATION None. ITEM 9C. DISCLOSURE REGARDING FOREIGN JURISDICTIONS THAT PREVENT INSPECTIONS Not applicable. PART III ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2021 in connection with the solicitation of proxies for the Company’s 2022 annual meeting of shareholders and is incorporated herein by reference. ITEM 11. EXECUTIVE COMPENSATION The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2021 and is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS. EQUITY COMPENSATION PLAN INFORMATION The following table provides information as of December 31, 2021 regarding shares of common stock available for issuance under our equity incentive plans (in thousands except exercise price) Number of Number of Securities Securities to be Remaining Available Issued Upon Weighted for Future Issuance Exercise of Average Exercise Under Equity Outstanding Price of Compensation Plans Options, Outstanding (excluding securities Warrants Options, Warrants reflected in the first and Rights and Rights column) Plan Category 2005 Stock Option Plan (1) (2) 325 $ 0.27 — Equity Compensation Plans not approved by Shareholders 28 0.22 — Warrants 99 2.40 2017 Stock Option Plan (3) 867 1.09 3,937 Total 1,319 $ 0.97 3,937 (1) All of these securities are available for issuance under the Zynex, Inc. 2005 Stock Option Plan, approved by the Board of Directors on January 3, 2005 and by our stockholders on December 30, 2005. (2) As of December 31, 2014, the 2005 Stock Option Plan was terminated. Termination of the plan did not affect the rights and obligations of the participants and the company arising under options previously granted. (3) The 2017 Stock Option Plan was approved by shareholders on June 1, 2017. The additional information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2021 and is incorporated herein by reference. 33 Table of Contents ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2021 and is incorporated herein by reference. The Board of Directors has determined that Messrs. Cress, Disbrow and Michaels who together comprise the Audit Committee, are all “independent directors” within the meaning of Rule 5605 of the NASDAQ Listing Rules. ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2021 and is incorporated herein by reference. 34 Table of Contents PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES Consolidated Financial Statements: Report of Independent Registered Public Accounting Firm ( Plante & Moran, PLLC , Denver, CO PCAOB firm ID 166 ) F-1 Consolidated Balance Sheets as of December 31, 2021 and 202 0 F-4 Consolidated Statements of Income for the years ended December 31, 2021 and 202 0 F-5 Consolidated Statements of Cash Flows for the years ended December 31, 2021 and 202 0 F-6 Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2021 and 202 0 F-7 Notes to Consolidated Financial Statements F-8 Exhibits: Exhibit Number Description 2.1 Asset Purchase Agreement, dated March 9, 2012, among Zynex NeuroDiagnostics, Inc., NeuroDyne Medical Corp. and the shareholders listed on Schedule A thereto (incorporated by reference to Exhibit 10.1 of the Company’s Current Report on Form 8-K filed on March 13, 2012) 3.1 Amended and Restated Articles of Incorporation (incorporated by reference to Exhibit 10.1 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 3.2 Amended and Restated Bylaws (incorporated by reference to Exhibit 10.2 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 4.1 Zynex, Inc 2017 Stock Incentive Plan (incorporated by reference to Exhibit 4.1 to the Company’s Report on form S-8 filed on September 6, 2017) 4.2* Description of registrant’s securities registered pursuant to Section 12 of the Securities Exchange Act of 1934 10.1† 2005 Stock Option Plan (incorporated by reference to Exhibit 10.5 of the Company’s Annual Report on Form 10-KSB for the year ended December 31, 2004) 10.2† Form of Indemnification Agreement for directors and executive officers (incorporated by reference to Exhibit 10.3 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 10.3† Employment agreement for Daniel J. Moorhead dated June 5, 2017 (incorporated by reference of Exhibit 10.1 to the Company’s Report on Form 8K filed on June 8, 2017) 10.4 Office Lease, effective October 20, 2017, between CSG Systems, Inc. and Zynex Medical, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on October 26, 2017). 10.5 Zynex, Inc. Non-Employee Director Compensation Plan (incorporated by reference to Exhibit 10.1 to the Company’s Report on Form 8-K filed on January 11, 2018) 10.6 Equity Distribution Agreement, dated October 29, 2019 between Zynex, Inc. and Piper Jaffray & Co. (incorporated by reference to Exhibit 1.1 of the Company’s Current Report on Form 8-K filed on October 29, 2019) 10.7 Amendment to Sublease Agreement, effective January 3, 2020, between CSG Systems, Inc. and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on January 7, 2020 35 Table of Contents Exhibit Number Description 10.8 Underwriting Agreement dated July 14, 2020, among certain selling stockholders, Piper Sandler & Co., and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on July 17, 2020) 10.9 Lease Agreement, effective September 30, 2020, between GIG CW Compark, LLC and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on October 6, 2020). 10.10 Sublease Agreement between Zynex, Inc. and Cognizant Trizetto Software Group, Inc. dated April 8, 2021 (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on April 9, 2021) 10.11 Stock Purchase Agreement by and among Kestrel Labs, Inc., Zynex Monitoring Solutions Inc., Zynex, Inc. and Selling Shareholders named herein dated as of December 22, 2021 (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on December 23, 2021) 10.12 The Loan Agreement and accompanying documents dated December 22, 2021 among Bank of America N.A., Zynex Medical, Inc., and Zynex Monitoring Solutions (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on December 30, 2021) 36 Table of Contents Exhibit Number Description 21* Subsidiaries of the Company 23.1* Consent of Plante & Moran, PLLC, Independent Registered Public Accounting Firm (Filed herewith) 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1* Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2* Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB* XBRL Taxonomy Label Linkbase Document 101.PRE* XBRL Presentation Linkbase Document 101.DEF* XBRL Taxonomy Extension Definition Linkbase Document 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith † Denotes management contract or compensatory plan or arrangement ITEM 16. FORM 10-K SUMMARY None. 37 Table of Contents SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ZYNEX, INC. Date: March 21, 2022 By : /s/ Thomas Sandgaard Thomas Sandgaard Chairman, President Chief Executive Officer and Principal Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Date Name and Title Signature March 21, 2022 Thomas Sandgaard, /s/ Thomas Sandgaard Chairman, President, Chief Executive Officer and Principal Executive Officer March 21, 2022 Daniel Moorhead /s/ Daniel Moorhead Chief Financial Officer and Principal Financial Officer March 21, 2022 Barry D. Michaels /s/ Barry D. Michaels Director March 21, 2022 Michael Cress /s/ Michael Cress Director March 21, 2022 Joshua R. Disbrow /s/ Joshua R. Disbrow Director 38 Table of Contents Report of Independent Registered Public Accounting Firm To the Stockholders and Board of Directors of Zynex, Inc. Opinion on the Financial Statements We have audited the accompanying consolidated balance sheets of Zynex, Inc. (the “Company”) as of December 31, 2021 and 2020, the related consolidated statements of income, stockholders' equity, and cash flows for each of the years in the two-year period ended December 31, 2021, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2021 and 2020, and the results of its operations and its cash flows for each of the years in the two-year period ended December 31, 2021, in conformity with accounting principles generally accepted in the United States of America. Basis for Opinion The Company's management is responsible for these financial statements. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion. Critical Audit Matters The critical audit matters communicated below are matters arising from the current period audit of the financial statements that were communicated or required to be communicated to the audit committee and that (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing a separate opinion on the critical audit matters or on the accounts or disclosures to which they relate. Estimation of Transaction Price and Variable Consideration for Revenue Recognition including related Valuation of Accounts Receivable – Refer to Note 2 to the Financial Statements Critical Audit Matter Description As described in Note 2 to the financial statements, revenue is derived from sales and leases of electrotherapy devices and sales of related supplies and complementary products. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. The Company estimates revenues using the portfolio approach based upon historical rates of collection, aging of receivables, product mix, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated variable consideration and relevant constraints for third-party payer refund requests, deductions and adjustments. F-1 Table of Contents We identified the Company's estimation of transaction price related to variable consideration for revenue recognition including the related valuation of accounts receivable as a critical audit matter. Auditing the Company's determination of variable consideration and the related constraint for revenue recognition including the recorded value for accounts receivable was challenging and complex due to the high degree of subjectivity involved in evaluating management’s estimates. This required a high degree of auditor judgment and increased extent of effort to audit and evaluate management’s key judgments. How the Critical Audit Matter Was Addressed in the Audit Our audit procedures related to revenue recognition and accounts receivable include the following, among othe ● We gained an understanding of the design of the controls over the Company's contracts with customers including those controls over the processes to develop key management estimates. ● We performed testing throughout the year on a sample of contracts to test the validity of sales transactions and cash receipts application. ● We also performed testing throughout the year on a quarterly basis over subsequent collections on recorded receivables. ● We evaluated the significant assumptions and the accuracy and completeness of the underlying data used in management’s calculations, including evaluating management’s estimate of historical reimbursement experience as well as expected future payment behavior through a combination of underlying data validation by inspection of source documents, independent recalculation of management’s analysis, review of correspondence with third-party payers, inquiries with management and evaluation of trends in collection rates and refund requests. ● We performed independent sensitivity analyses over the Company's significant assumptions embodied within their key estimates including evaluation of subsequent payment activity compared with management’s estimate of expected collection rates. Business Combination – Refer to Note 3 to the Financial Statements Critical Audit Matter Description As described in Note 3 to the financial statements, the Company acquired Kestrel Labs, Inc. (“Kestrel”) on December 22, 2021 for consideration of $30.5 million, including cash, stock and contingent consideration. The acquisition of Kestrel was accounted for under the acquisition method of accounting for business combinations. As such, assets acquired and liabilities assumed were recorded at their estimated fair values, including intangible assets of $10 million and contingent consideration of $9.7 million, as of the acquisition date. The contingent consideration consisted of potential payments in common stock of the Company for achieving FDA submission and approval and is remeasured to fair value each reporting period. The determination of fair value of identified intangible assets and contingent consideration required management to make significant estimates and assumptions and engage a valuation firm to assist with estimating the fair value of the intangible asset and contingent consideration liability. We identified the valuation of the intangible asset and contingent consideration liability as a critical audit matter. Auditing the Company’s accounting for the acquisition of Kestrel was challenging and complex due to the degree of subjectivity involved in evaluating the estimation uncertainty and key assumptions involved in determining the fair value of acquisition-related contingent consideration and intangible assets. Auditing the key assumptions in management’s estimates required a high degree of auditor judgment and increased effort. How the Critical Audit Matter Was Addressed in the Audit Our audit procedures related to the assumptions impacting the fair value calculation of the acquisition-related contingent consideration and intangible asset included the following, among othe Related to valuation of the acquisition-related contingent consideration liability: ● We gained an understanding of the design of the controls over the Company's accounting for the acquisition including controls over the process to develop estimates for the contingent consideration. F-2 Table of Contents ● We inquired of management to understand each milestone and key assumptions, including current progress and any results received to date and stock price volatility. ● We evaluated the reasonableness of the key assumptions by comparing them (1) internal communications to management and the Board of Directors, (2) information included in the Company’s external communications, and (3) regulatory trends to consider the impact of changes in the regulatory environment on the key assumptions. ● We independently corroborated the reasonableness of the key assumptions by verifying the process and timing necessary to achieve each milestone. ● With the assistance of our fair value specialists, we evaluated the reasonableness of the significant valuation assumptions and calculations by o Evaluating the appropriateness of the method used for estimating fair value, o Evaluating the reasonableness of the valuation assumptions utilized, including the discount rate, and o Testing the completeness and mathematical accuracy of the model used to determine the estimated fair value of the contingent consideration. Related to the valuation of intangible ass ● We gained an understanding of the design of the controls over the Company's accounting for the acquisition including controls over the process to develop estimates for the intangible asset. ● We inquired of management and the Company’s personnel to understand the key assumptions, including revenue growth rates, projected margins, and the royalty rate. ● We evaluated whether the assumptions used were reasonable by considering industry data and current market forecasts, and whether such assumptions were consistent with evidence obtained in other areas of the audit. ● With the assistance of our fair value specialists, we evaluated the reasonableness of the significant valuation assumptions and calculations by o Evaluating the appropriateness of the method used for estimating fair value, o Evaluating the reasonableness of the valuation assumptions utilized, including the discount rate, and o Testing the completeness and mathematical accuracy of the calculation used to determine the estimated fair value of the intangible asset. /s/ Plante & Moran, PLLC We have served as the Company’s auditor since 2016. Denver, Colorado March 21, 2022 F-3 Table of Contents ZYNEX, INC. CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) December 31, December 31, 2021 2020 ASSETS Current assets: Cash $ 42,612 $ 39,173 Accounts receivable, net 28,632 13,837 Inventory, net 10,756 8,635 Prepaid expenses and other 689 1,378 Total current assets 82,689 63,023 Property and equipment, net 2,186 1,925 Operating lease asset 16,338 5,993 Finance lease asset 389 321 Deposits 585 347 Intangible assets, net of accumulated amortization 9,975 — Goodwill 20,401 — Deferred income taxes 711 566 Total assets $ 133,274 $ 72,175 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable and accrued expenses 4,739 4,709 Cash dividends payable 3,629 8 Operating lease liability 2,859 2,051 Finance lease liability 118 77 Income taxes payable 2,296 280 Current portion of debt 5,333 — Accrued payroll and related taxes 3,897 2,992 Total current liabilities 22,871 10,117 Long-term liabiliti Long-term portion of debt, less issuance costs 10,605 — Contingent consideration 9,700 — Operating lease liability 15,856 4,920 Finance lease liability 317 283 Total liabilities 59,349 15,320 Commitments and contingencies Stockholders' equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of December 31, 2021 and December 31, 2020 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,400,834 issued and 39,737,890 outstanding as of December 31, 2021 (including 3,606,970 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 39,739,368 issued and 38,244,310 outstanding as of December 31, 2020 (including 3,452,379 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 41 36 Additional paid-in capital 80,397 37,235 Treasury stock of 1,246,399 and 1,071,220 shares, at December 31, 2021 and 2020, respectively, at cost ( 6,513 ) ( 3,846 ) Retained earnings — 23,430 Total stockholders' equity 73,925 56,855 Total liabilities and stockholders' equity $ 133,274 $ 72,175 See accompanying notes to consolidated financial statements. F-4 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) YEARS ENDED DECEMBER 31, 2021 AND 2020 For the Years Ended December 31, 2021 2020 NET REVENUE Devices $ 36,613 $ 21,269 Supplies 93,688 58,853 Total net revenue 130,301 80,122 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 27,321 17,417 Sales and marketing 54,290 34,133 General and administrative 26,324 18,323 Total costs of revenue and operating expenses 107,935 69,873 Income from operations 22,366 10,249 Other income/(expense) Loss on disposal of non-controlling interest — ( 77 ) Interest expense ( 95 ) ( 19 ) Other income/(expense), net ( 95 ) ( 96 ) Income from operations before income taxes 22,271 10,153 Income tax expense 5,168 1,079 Net Income $ 17,103 $ 9,074 Net income per sh Basic $ 0.45 $ 0.24 Diluted $ 0.44 $ 0.24 Weighted average basic shares outstanding 38,317 37,256 Weighted average diluted shares outstanding 39,197 38,438 See accompanying notes to consolidated financial statements. F-5 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) YEARS ENDED DECEMBER 31, 2021 AND 2020 For the Years Ended December 31, 2021 2020 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 17,103 $ 9,074 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation 2,261 1,572 Amortization 25 — Non-cash reserve charges ( 107 ) ( 238 ) Stock-based compensation 1,630 2,681 Non-cash lease expense 1,398 2 Benefit for deferred income taxes ( 146 ) ( 54 ) Change in operating assets and liabilities, net of the effects of acquisitio Accounts receivable ( 14,781 ) ( 8,004 ) Prepaid and other assets 690 ( 724 ) Accounts payable and other accrued expenses 2,889 3,773 Inventory ( 3,776 ) ( 7,323 ) Deposits ( 237 ) ( 18 ) Other — 77 Net cash provided by operating activities 6,949 818 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 609 ) ( 985 ) Business acquisition, net of cash acquired ( 15,997 ) — Net cash used in investing activities ( 16,606 ) ( 985 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 98 ) ( 57 ) Cash dividends paid ( 1 ) — Purchase of treasury stock ( 2,667 ) — Debt issuance costs ( 16 ) — Proceeds from issuance of common stock under equity offering, net — 25,203 Proceeds from the issuance of common stock on stock-based awards 161 566 Proceeds from debt 15,953 — Taxes withheld and paid on employees' equity awards ( 236 ) ( 412 ) Net cash provided by financing activities 13,096 25,300 Net increase in cash 3,439 25,133 Cash at beginning of period 39,173 14,040 Cash at end of period $ 42,612 $ 39,173 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 82 ) $ ( 19 ) Cash paid for rent $ ( 2,109 ) $ ( 1,633 ) Cash paid for income taxes $ ( 3,305 ) $ ( 894 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 13,240 $ 3,834 Right-of-use assets obtained in exchange for new finance lease liabilities $ 175 $ 225 Inventory transferred to property and equipment under lease $ 1,587 $ 811 Capital expenditures not yet paid $ 47 $ — Accrual for cash dividend payable $ 3,622 $ — Contingent consideration related to acquisition $ 9,700 $ — Stock issued for acquisition $ ( 4,701 ) $ — Stock dividend $ ( 36,911 ) $ — See accompanying notes to consolidated financial statements. F-6 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (DEFICIT) YEARS ENDED DECEMBER 31, 2021 AND 2020 (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) Additional Non- Total Common Stock Paid-in Treasury Retained Controlling Stockholders' Shares Amount Capital Stock Earnings Interest Equity Balance at December 31, 2019 36,041,371 $ 34 $ 9,198 $ ( 3,846 ) $ 14,356 $ ( 89 ) $ 19,653 Stock issued for public offering, net of issuance cost 1,375,000 1 25,202 — — — 25,203 Exercised and vested stock-based awards 854,406 1 566 — — — 567 Stock-based compensation expense — — 2,681 — — — 2,681 Shares of common stock withheld to pay taxes on employees' equity awards ( 26,467 ) — ( 412 ) — — — ( 412 ) Deconsolidation of non-controlling interest — — — — — 89 89 Net income — — — — 9,074 — 9,074 Balance at December 31, 2020 38,244,310 $ 36 $ 37,235 $ ( 3,846 ) $ 23,430 $ — $ 56,855 Exercised and vested stock-based awards 234,388 1 160 — — — 161 Warrants exercised 11,000 — — — — — — Stock-based compensation expense — — 1,630 — — — 1,630 Shares of common stock withheld to pay taxes on employees' equity awards ( 44,414 ) — ( 236 ) — — — ( 236 ) Purchase of treasury stock ( 175,179 ) — — ( 2,667 ) — — ( 2,667 ) Stock issued for acquisition 489,262 — 4,701 — — — 4,701 Escrow shares issued for acquisition 978,523 — — — — — — Cash dividends declared ($ 0.10 per share) — — — — ( 3,622 ) — ( 3,622 ) Stock dividends declared — 4 36,907 — ( 36,911 ) — — Net income — — — — 17,103 — 17,103 Balance at December 31, 2021 39,737,890 $ 41 $ 80,397 $ ( 6,513 ) $ — $ — $ 73,925 See accompanying notes to consolidated financial statements. F-7 Table of Contents ZYNEX, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 2021 AND 2020 (1) ORGANIZATION, NATURE OF BUSINESS Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of December 31, 2021, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s' laser-based products include the NiCO™ CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx™, a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. Food and Drug Administration (“FDA”) for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on drugs and medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All of our medical devices are designed to be patient friendly and designed for home use. Our devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of our medical devices are marketed in the U.S. and are subject to FDA regulation and approval. Our products require a physician’s prescription before they can be dispensed in the U.S. Our primary product is the NexWave device. The NexWave is marketed to physicians and therapists by our field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the years ended December 31, 2021, and 2020, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and health care providers. The Company declared a 10 % stock dividend on November 9, 2021, which was effective on January 21, 2022. Except as otherwise indicated, all related amounts reported in the consolidated financial statements, including common share quantities, earnings per share amounts and exercise prices of options, have been retroactively adjusted for the effect of this stock dividend. (2) SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. F-8 Table of Contents Non-controlling Interest Non-controlling interest in the equity of a subsidiary is accounted for and reported as a decrease in shareholders’ equity. Prior years’ non-controlling interest represents the 20 % ownership in the Company’s majority-owned inactive subsidiary, Zynex Billing, Corp (ZBC). During 2020, the Company dissolved ZBC due to inactivity and has no plans to restart operations. As a result, the Company recorded a loss of $ 77,000 on the dissolution related to the 20 % non-controlling interest, less liabilities that were written off. Use of Estimates Preparation of financial statements in conformity with generally accepted accounting principles in the United States of America (“GAAP”), requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying consolidated financial statements are associated with the expected net collectable value of its accounts receivable and related revenue, inventory reserves, the life of its leased unit devices, stock-based compensation, and valuation of long-lived assets acquired in business combinations and realizability of deferred tax assets. Fair Value of Financial Instruments The Company’s financial instruments include cash, accounts receivable, accounts payable and accrued liabilities. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at fair value which approximates book value as the long-term debt bears market rates of interest. The Company classifies contingent consideration liabilities related to business acquisitions within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. The Company estimates the fair value of contingent consideration liabilities using a Monte Carlo simulation. Changes in the fair value of contingent liabilities in subsequent periods are recorded as a loss (gain) in the statements of operations. Cash The Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. Short-term investments include investments with maturities greater than three months, but not exceeding 12 months, or highly liquid investments with maturities greater than 12 months that the Company intends to liquidate during the next 12 months for working capital needs. Accounts Receivable, Net The Company’s accounts receivables represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company bills the patient’s third-party payer or the patient. Billing adjustments represent the difference between the list prices and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written off after several appeals, which in some cases may take longer than twelve months. Primarily all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a small portion related to private pay individuals, attorney and auto claims. F-9 Table of Contents Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. Following are the components of inventory as of December 31, 2021 and 2020: December 31, 2021 December 31, 2020 Raw materials $ 4,471 $ 3,213 Work-in-process 345 1,455 Finished goods 4,468 4,119 Inventory in transit 1,624 — $ 10,908 $ 8,787 L reserve ( 152 ) ( 152 ) $ 10,756 $ 8,635 The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories equal to the difference between the costs of inventories on hand and the estimated market value based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Property and Equipment Property and equipment is recorded at cost. Repairs and maintenance expenditures are charged to expense as incurred. We compute depreciation expense on a straight-line basis over the estimated useful lives of the assets as follows: Classification Estimated Useful Life Office furniture and equipment 5 to 7 years Assembly equipment 7 years Vehicles 5 years Leasehold improvements Shorter of useful life or term of lease Leased devices 9 months Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For our finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For our operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on our Consolidated Balance Sheets. For additional information on our leases where the Company is the lessee, see Note 11- Leases. A significant portion of our device revenue is derived from patients who obtain our devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with Accounting Standards Codification (“ASC”) 842, Leases. Using the guidance in ASC 842, we concluded our transactions should be accounted for as operating leases based on the following criteri ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. F-10 Table of Contents ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since our leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Intangible Assets and Goodwill The Company records intangible assets based on estimated fair value on the date of acquisition. The finite-lived intangible assets are amortized on a straight-line basis over the estimated lives of the assets. The indefinite-lived intangible assets are not subject to amortization but are subject to impairment testing in the future. Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Revenue Recognition Revenue is derived from sales and leases of our electrotherapy devices and sales of related supplies and complementary products. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of our devices and supplies is recognized once the product is delivered to the patient, which is when control is deemed to have transferred to our patient. Sales of our devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third-party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. The following table provides a breakdown of net revenue related to devices accounted for as purchases subject to ASC 606 and leases subject to ASC 842 (in thousands): For the Years Ended December 31, 2021 2020 Device revenue Purchased $ 9,240 $ 6,390 Leased 27,373 14,879 Total device revenue $ 36,613 $ 21,269 F-11 Table of Contents Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the health care industry and third-party payer reimbursement, it is possible our forecasting model to estimate collections could change, which could have an impact on our results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. A change in the way estimates are determined can result from a number of factors, including changes in the reimbursement policies or practices of third-party payers, or changes in industry rates of reimbursement. The Company monitors the variability and uncertain timing over third-party payer types in our portfolios. If there is a change in our third-party payer mix over time, it could affect our net revenue and related receivables. We believe we have a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints for billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Impairment of Long-lived Assets The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Long-lived assets consist of property and equipment, net and intangible assets. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Impairment of Goodwill The Company tests goodwill at least annually for impairment. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting F-12 Table of Contents period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved. Earnings Per Share We calculate basic earnings per share on the basis of the weighted-average number of shares of common stock outstanding during the period. Diluted earnings per share is calculated using the weighted-average number of shares of common stock outstanding for the period plus the effect of potential dilutive common shares during the period using the treasury stock method. Potential shares of common stock outstanding include unvested restricted stock awards, shares held in escrow, vested and unvested unexercised stock options and common stock purchase warrants. Research and Development Research and development costs are expensed when incurred. Research and development expense for the years ended December 31, 2021 and 2020 was approximately $ 2.6 million and $ 0.8 million, respectively. Research and development, which includes salaries related to research and development and raw materials, are included in general and administrative expenses on the consolidated statement of comprehensive income. Income Taxes We record deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying consolidated balance sheets, as well as any operating loss and tax credit carry-forwards. We measure deferred tax assets and liabilities using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. We reduce deferred tax assets by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. We recognize tax benefits from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. Recently Issued Accounting Pronouncements In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) ("ASU 2016-13"), Measurement of Credit Losses on Financial Instruments. The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren't measured at fair value through net income. The standard will replace today's "incurred loss" approach with an "expected loss" model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. This ASU is effective for annual periods beginning after December 15, 2022, and interim periods therein for smaller reporting companies. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Corporation is currently evaluating the impact that the adoption of ASU 2016-13 will have on our financial condition, results of operations and cash flows. Management has evaluated other recently issued accounting pronouncements and does not believe that this pronouncement will have a material impact on the Company’s consolidated financial statements. (3) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel Labs, Inc. (“Kestrel”) and each of the shareholders of Kestrel (collectively, the "Selling Shareholders"). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to ZMS. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,334,350 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 889,566 of the Zynex Shares are being deposited in escrow (the “Escrow Shares”). The number of Escrow Shares is subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the F-13 Table of Contents Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10,000,000 divided by a 30 -day volume weighted average closing price of the Zynex common stock. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the Food and Drug Administration (the “FDA”) for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon notification from the FDA finding the Device can be marketed and sold in the United States. The amount of escrow shares were recalculated at December 31, 2021, and are included in the calculation of diluted earnings per share. The maximum amount of Zynex shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares. The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. F-14 Table of Contents Summary of Purchase Consideration Presented below is a summary of the total purchase consideration for the Kestrel business combinations (in thousands except share data): Shares (1) Fair Value Cash Total Closing date cash — $ — $ 16,000 $ 16,000 Working capital distribution — — 78 78 Total cash paid — $ — $ 16,078 $ 16,078 Closing date equity Issued shares 444,784 4,701 — 4,701 Escrow shares 889,566 9,700 — 9,700 Total equity 1,334,350 $ 14,401 $ — $ 14,401 Total consideration 1,334,350 $ 14,401 $ 16,078 $ 30,479 (1) The amount of shares issued and included in escrow were not retroactively adjusted for the 10 % stock dividend declared on November 9, 2021 and issued on January 21, 2022. Purchase Price Allocations Presented below is a summary of the purchase price allocations for the Kestrel business combinations on the acquisition date (in thousands): Purchase Price Allocation Current assets: Cash $ 80 Accounts receivable 15 Prepaid expenses and other 1 Total current assets $ 96 Long-term assets: Identifiable intangible assets 10,000 Total assets acquired $ 10,096 Less liabilities assu Accounts payable ( 18 ) Net identifiable assets acquired 10,078 Goodwill 20,401 Net assets acquired $ 30,479 The fair value of the identifiable intangibles assets is primarily related to patents which will be amortized over a useful life of 11 years . The excess of the purchase price over the fair value of the net assets acquired was recorded as goodwill. The goodwill is attributable to the benefits the Company expects to realize by enhancing its product offering and addressable markets, thereby contributing to an expanded revenue base. F-15 Table of Contents Pro forma Information The unaudited pro forma information for the year ended December 31, 2021 and 2020 was calculated after applying impact of acquisition date fair value adjustments. The pro forma financial information presents the combined results of operations of Zynex and Kestrel as if the acquisition had occurred on January 1, 2020 after giving effect to certain pro forma adjustments. The pro forma adjustments reflected in the table below include only those adjustments that are factually supportable and directly attributable to the acquisition (in thousands): Year Ended December 31, (unaudited) 2021 2020 Revenue $ 130,811 $ 80,414 Net income $ 16,404 $ 7,568 These pro forma adjustments inclu (i) a net increase in amortization expense to record amortization expense for the aforementioned acquired identifiable intangible assets, (ii) a net increase in interest expense as a result of related to borrowings that were put into place as part of the acquisition, (iii) an adjustment to record the acquisition-related transaction costs of $ 0.3 million in the period required, and (iv) the tax effect of the pro forma adjustments using the anticipated effective tax rate. The effective tax rate of the combined company could be materially different from the rate presented in this unaudited pro forma combined financial information. As further information becomes available, any such adjustment described above could be material to the amounts presented in the unaudited pro forma combined financial statements. The pro forma information does not purport to be indicative of the results of operations that would have resulted had the combination occurred at the beginning of each period presented, or of future results of the consolidated entities. (4) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): December 31, 2021 December 31, 2020 Property and equipment Office furniture and equipment $ 2,391 $ 2,362 Assembly equipment 100 143 Vehicles 203 198 Leasehold improvements 1,054 559 Sales rep demo units — 361 Leased devices 1,080 809 $ 4,828 $ 4,432 Less accumulated depreciation ( 2,642 ) ( 2,507 ) $ 2,186 $ 1,925 The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units of which are still with patients for which the Company cannot determine the current status. Total depreciation expense related to our purchased property and equipment was $ 0.9 million and $ 0.7 million for the years ended December 31, 2021 and 2020, respectively. Total depreciation expense related to devices out on lease was $ 1.4 million and $ 0.8 million for the years ended December 31, 2021 and 2020, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. During the year ended December 31, 2021, the Company began expensing product demo units sent to its territory managers to use in the field. F-16 Table of Contents (5) GOODWILL AND OTHER INTANGIBLES During the year ended December 31, the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 3). As of December 31, 2021, there was no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of December 31, 2021. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents $ 10,000 $ ( 25 ) $ 9,975 11.0 The following table summarizes the estimated future amortization expense to be recognized over the next years and periods thereaf December 31, (In thousands) 2022 $ 908 2023 908 2024 911 2025 908 2026 908 Thereafter 5,432 Total future amortization expense $ 9,975 (6) EARNINGS PER SHARE The calculation of basic and diluted earnings per share for the years ended December 31, 2021 and 2020 are as follows (in thousands, except per share data): For the Years Ended December 31, 2021 2020 Basic earnings per share Net income available to common stockholders $ 17,103 $ 9,074 Basic weighted-average shares outstanding 38,317 37,256 Basic earnings per share $ 0.45 $ 0.24 Diluted earnings per share Net income available to common stockholders $ 17,103 $ 9,074 Weighted-average shares outstanding 38,317 37,256 Effect of dilutive securities - options and restricted stock 880 1,182 Diluted weighted-average shares outstanding 39,197 38,438 Diluted earnings per share $ 0.44 $ 0.24 F-17 Table of Contents For the years ended December 31, 2021 and 2020, 0.4 million and 0.2 million shares of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. The basic and diluted weighted-average shares outstanding for both periods presented have been updated to include the retroactive impact of the 10% common stock dividend declared on November 11, 2021. (7) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”). Under this Loan Agreement, the Bank is extending two facilities to the Borrowers. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). The Borrower will pay interest on Facility 1 on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of December 31, 2021, we had not utilized this facility. The other facility being extended by the Bank to the Borrower is a fixed rate term loan in the amount of up to $ 16.0 million (“Facility 2”). Facility 2 is available in one disbursement from the Bank and the interest rate is equal to 2.8 % per year. The Borrower must pay interest on the first day of each month beginning January 1, 2022 and the Borrower will also repay the principal amount in equal installments of $ 444,444 per month through December 1, 2024. Facility 2 was entered into in conjunction with the purchase of Kestrel Labs. The following table summarizes future principal payments on long-term debt as of December 31, 2021: December 31, (In thousands) 2022 $ 5,333 2023 5,333 2024 5,334 Future principal payments 16,000 Less current portion ( 5,333 ) Less debt issuance costs ( 62 ) Long-term debt, net of debt issuance costs $ 10,605 (8) STOCK-BASED COMPENSATION PLANS Zynex, Inc. 2017 Stock Incentive Plan The Company currently has one active long-term incentive plan. The Company’s 2017 Stock Incentive Plan (the “2017 Stock Plan”) is the Company’s equity compensation plan and provides for grants of stock-based awards to employees, directors and other individuals providing services to the Company. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. The 2017 Stock Plan mandates a maximum award term of 10 years and stipulates that stock options be granted with prices not less than fair market value on the date of grant. Stock option awards generally vest over four years . Restricted stock awards typically vest quarterly over three years for grants issued to members of our Board of Directors and quarterly or annually over two to four years for grants issued to employees. For stock option awards, all awards granted under the 2017 Stock Plan are stock-settled with common stock issued upon exercise. For restricted stock awards, shares are issued to the recipient upon grant with a restrictive legend and are not included in the calculation of outstanding shares until vesting occurs. At December 31, 2021, there were 3.9 million shares available for future grants under the 2017 Stock Plan. Zynex, Inc. 2005 Stock Option Plan The 2005 Stock Option Plan (the “2005 Stock Plan”) expired as of December 31, 2014. Vesting provisions of the expired plan were to be determined by the Board of Directors. All stock options under the 2005 Stock Plan expire no later than ten years from the date of grant. Options granted in 2015, 2016 and through May 2017 prior to the approval of the 2017 Stock Incentive Plan were approved and certified by the board of directors on September 6, 2017 under the existing 2005 Stock Plan. F-18 Table of Contents As of December 31, 2021, the Company had the following stock options outstanding and exercisab Outstanding Number of Options Exercisable Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 325 325 Equity Compensation Plans not approved by Shareholders 28 28 2017 Stock Option Plan 412 317 Total 765 670 The Company received $ 0.2 million cash proceeds related to option exercises during the year ended December 31, 2021. The Company received cash proceeds of $ 0.6 million related to option exercises during the year ended December 31, 2020. The Company did not grant any stock options during the year ended December 31, 2021. The Company granted 14,000 stock options during the year ended December 31, 2020. The Company used the Black Scholes option pricing model to determine the fair value of stock option grants, using the following assumptions for the year ended December 31, 2020: Weighted average expected term 6.79 years Weighted average volatility 117 % Weighted average risk-free interest rate 1.59 % Dividend yield 0 % The weighted average expected term of stock options represents the period of time that the stock options granted are expected to be outstanding based on historical exercise trends. The weighted average expected volatility is based on the historical price volatility of the Company’s common stock. The weighted average risk-free interest rate represents the U.S. Treasury bill rate for the expected term of the related stock options. The dividend yield represents the Company’s anticipated cash dividend over the expected term of the stock options. Forfeitures are accounted for as they occur. The following table summarizes stock-based compensation expenses recorded in the condensed consolidated statements of operations (in thousands): For the Years Ended December 31, 2021 2020 Cost of revenue $ 56 $ 37 Sales and marketing expense 155 424 General, and administrative 1,419 2,220 Total stock based compensation expense $ 1,630 $ 2,681 The excess tax benefit associated with our stock-based compensation plans for the years ended December 31, 2021 and 2020, was approximately $ 0.2 million and $ 1.7 million, respectively. F-19 Table of Contents A combined summary of stock option activity for all plans for the years ended December 31, 2021 and 2020 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Shares Strike Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding at December 31, 2019 2,041 $ 2.25 Granted 15 $ 9.23 Exercised ( 684 ) $ 0.82 Forfeited ( 265 ) $ 4.25 Outstanding at December 31, 2020 1,107 $ 2.76 6.47 $ 10,483 Outstanding at December 31, 2020 1,107 $ 2.76 Granted — $ — Exercised ( 116 ) $ 4.87 Forfeited ( 226 ) $ 6.45 Outstanding at December 31, 2021 765 $ 1.36 4.68 $ 5,896 Exercisable at December 31, 2021 670 $ 0.99 4.33 $ 5,412 Outstanding Weighted average Number of Remaining Weighted Average Options Contractual Weighted Average Exercisable Number of Remaining Exercisable Exercisable Range (in thousands) Life (years) Strike Price Options (in thousands) Contractual Life (years) Strike Price $ 0 to $ 2.00 495 3.54 $ 0.31 495 3.54 $ 0.31 $ 2.01 to $ 4.00 244 6.65 $ 2.72 167 6.48 $ 2.62 $ 4.01 to $ 10.00 26 7.92 $ 8.51 8 7.82 $ 8.21 765 4.68 $ 1.36 670 4.33 $ 0.99 A summary of our unvested stock options as of December 31, 2021 and 2020 and related activity is presented below : Non-vested Weighted Shares Weighted Average Aggregate Under Average Remaining Intrinsic Option Grant Date Contractual Value (in thousands) Fair Value Life (Years) (in thousands) Non-vested at December 31, 2019 979 $ 4.03 Granted 15 8.88 Vested ( 276 ) 3.34 Forfeited ( 244 ) 4.36 Non-vested at December 31, 2020 474 $ 4.35 7.97 $ 3,677 Non-vested at December 31, 2020 474 $ 4.35 Granted — — Vested ( 167 ) 1.93 Forfeited ( 212 ) 6.48 Non-vested at December 31, 2021 95 $ 3.85 7.17 $ 484 F-20 Table of Contents A summary of restricted stock award activity under the 2017 Stock Plan for the years ended December 2021 and 2020 are presented be Number of Shares Weighted Average (in thousands) Grant Date Fair Value Outstanding at December 31, 2019 112 $ 5.28 Granted 352 $ 11.75 Vested ( 169 ) $ 7.76 Outstanding at December 31, 2020 295 $ 11.53 Outstanding at December 31, 2020 295 $ 11.53 Granted 381 $ 14.15 Vested ( 119 ) $ 10.92 Forfeited ( 103 ) $ 12.40 Outstanding at December 31, 2021 454 $ 13.69 The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on the Restricted Stock Awards typically occurs quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. As of December 31, 2021, there was approximately $ 5.5 million of total unrecognized compensation costs related to unvested stock options and restricted stock. These costs are expected to be recognized over a weighted average period of 2.7 years. The total intrinsic value of stock option exercises for the years ended December 31, 2021 and 2020 was $ 1.0 million and $ 9.6 million, respectively. The total fair value of restricted stock awards vested during the years ended December 31, 2021 and 2020 was $ 1.3 million. (9) STOCKHOLDERS’ EQUITY Equity Offering On July 17, 2020, the Company completed an underwritten public offering of an aggregate 2.75 million shares of common stock at a public offering price of $ 20.00 per common share. In the offering, 1.38 million shares of common stock were sold by the Company and 1.37 million shares of common stock were sold by Sandgaard Holdings, LLC, which is 100 % controlled by Thomas Sandgaard, CEO and Chairman of the Board of Directors. Net proceeds to the Company, after deducting for direct costs associated with the offering, were $ 25.2 million. Common Stock Dividend The Company's Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Treasury Stock On March 8, 2021, our Board of Directors approved a program to repurchase up to $ 10.0 million of our common stock at prevailing market prices either in the open market or through privately negotiated transactions through September 8, 2021. From the inception of the plan through September 8, 2021, the Company purchased 175,179 shares of our common stock for $ 2.7 million or an average price of $ 15.22 per share. F-21 Table of Contents Warrants A summary of stock warrant activity for the years ended December 31, 2021 and 2020 are presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding at December 31, 2019 110 $ 2.39 4.77 $ 525 Granted — $ — Exercised — $ — Forfeited — $ — Outstanding and exercisable at December 31, 2020 110 $ 2.39 3.76 $ 1,084 Outstanding at December 31, 2020 110 $ 2.39 3.76 $ 1,084 Granted — $ — Exercised ( 10 ) $ 2.27 2.76 192 Forfeited (1) ( 1 ) $ 2.27 2.76 25 Outstanding and exercisable at December 31, 2021 99 $ 2.40 2.76 $ 660 (1) Warrants were exercised under a net exercise provision in the warrant agreement. As a result, approximately 1,000 warrants were forfeited in lieu of cash payment for shares. (10) INCOME TAXES The pre-tax income from continuing operations on which the provision for income taxes was computed is as follows (in thousands): 2021 2020 United States $ 22,295 $ 10,185 Foreign ( 24 ) ( 32 ) Total 22,271 10,153 Income tax expense consists of the following for the years ended December 31, 2021 and 2020 (in thousands): 2021 2020 Current tax expense: Federal $ 4,289 $ 841 State 1,025 292 Total tax expense: 5,314 1,133 Deferred tax expense/(benefit): Federal ( 135 ) ( 122 ) State ( 11 ) 68 Total deferred tax expense/(benefit): $ ( 146 ) $ ( 54 ) Total $ 5,168 $ 1,079 F-22 Table of Contents A reconciliation of income tax computed at the U.S. statutory rate of 21 % to the effective income tax rate is as follows: 2021 2020 Statutory rate 21 % 21 % State taxes 4 % 3 % Permanent differences and other 0 % 1 % Stock based compensation ( 1 ) % ( 15 ) % Effective rate 24 % 10 % The tax effects of temporary differences that give rise to deferred tax assets (liabilities) at December 31, 2021 and 2020 are as follows (in thousands): 2021 2020 Deferred tax assets: Accrued expenses $ 26 $ 10 Lease liability 4,620 1,721 Accounts receivable 18 18 Inventory 484 495 Stock based compensation 271 306 Tax credits and NOL carryforward 8 20 Other — 1 Amortization 90 43 5,517 2,614 L valuation allowance — — Deferred tax assets $ 5,517 $ 2,614 Deferred tax liabiliti Property and equipment $ ( 599 ) $ ( 470 ) Finance lease ( 96 ) ( 78 ) Prepaid expenses ( 77 ) ( 20 ) Right-of-use-asset ( 4,034 ) ( 1,480 ) Deferred tax liabilities $ ( 4,806 ) $ ( 2,048 ) Net deferred tax assets $ 711 $ 566 As of December 31, 2021, the Company has net operating loss carryforwards in various states of approximately $ 0.2 million, which expire at various dates ranging from five to seven years . In addition, the Company had no recorded valuation allowances at December 31, 2021 and 2020. The accounting standard related to income taxes applies to all tax positions and defines the confidence level that a tax position must meet in order to be recognized in the financial statements. The accounting standard requires that the tax effects of a position be recognized only if it is "more-likely-than-not" to be sustained by the taxing authority as of the reporting date. If a tax position is not considered "more-likely-than-not" to be sustained, then no benefits of the position are to be recognized. Differences between financial and tax reporting which do not meet this threshold are required to be recorded as unrecognized tax benefits. This standard also provides guidance on the presentation of tax matters and the recognition of potential interest and penalties. As of December 31, 2021 and 2020, the Company does not have an unrecognized tax liability. The Company does not classify penalty and interest expense related to income tax liabilities as an income tax expense. Penalties and interest are included within general and administrative expenses on the consolidated statements of income. The Company files income tax returns in the U.S. and various state jurisdictions, and there are open statutes of limitations for taxing authorities to audit our tax returns from 2016 through the current period. F-23 Table of Contents (11) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. The Company entered into a sublease agreement on April 9, 2021 with Cognizant Trizetto Software Group, Inc. for up to approximately 110,754 square feet of office space as its new corporate headquarters. The term of the sublease began on May 1, 2021 and will run through April 29, 2028. The Company is entitled to rent credits equal to twenty-one months of base rent at the initial rate. During the first thirty-three months of the sublease, the rent per square foot is $ 26.50 . The price per square foot increases by an additional $ 0.50 during each subsequent twelve-month period of the sublease. Upon lease commencement, the Company recorded an operating lease liability and a corresponding right-of-use asset for $ 13.4 million each. The remaining lease term was 5.38 years at December 31, 2021. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.11 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.37 % which was used to measure its finance lease liability. The table below reconciles the undiscounted future minimum lease payments under the Company’s operating and finance leases to the total operating and capital lease liabilities recognized on the consolidated balance sheets as of December 31, 2021 (in thousands): Operating Lease Liability Finance Lease Liability 2022 3,569 154 2023 2,982 152 2024 3,496 116 2025 3,567 76 2026 3,362 15 Thereafter 4,214 — Total undiscounted future minimum lease payments $ 21,190 $ 513 L difference between undiscounted lease payments and discounted lease liabiliti ( 2,475 ) ( 78 ) Total lease liabilities $ 18,715 $ 435 Operating and finance lease costs were $ 3.7 million and $ 1.8 million for years ended December 31, 2021 and 2020, which were included in the consolidated statement of operations under the following headings (in thousands): For the years ended December 31, Operating Lease expense 2021 2020 Costs of revenue - devices and supplies $ 399 $ 208 Sales and marketing expense 1,186 564 General and administrative 1,964 909 Total operating lease expense $ 3,549 $ 1,681 Finance Lease expense Amortization of right-of-use ass Costs of revenue - devices and supplies $ 12 $ 8 Sales and marketing expense 35 20 General and administrative 58 33 Total amortization of right-of-use asset 105 61 Interest expense and other 41 20 Total finance lease expense $ 146 $ 81 F-24 Table of Contents The Company’s 10-K filing for the year ended December 31, 2020, included an error which disclosed $ 6.51 million of operating lease expense. The corrected operating lease expense of $1.68 million for the year ended December 31, 2020, is included in the table above. F-25 Table of Contents (12) FAIR VALUE CONSIDERATION The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at fair value which approximates book value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo models. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. Authoritative guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of December 31, 2021, by level within the fair value hierarc Fair Value Measurements at December 31, 2021 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable December 31, Assets Inputs Inputs 2021 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 9,700 $ — $ — $ 9,700 Total $ 9,700 $ — $ — $ 9,700 F-26 Table of Contents Contingent Consideration . The Company classifies its contingent consideration liability in connection with the acquisition of Kestrel Labs within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. The contingent consideration related to Kestrel was valued at $ 9.7 million using a Monte Carlo simulation as of December 22, 2021. As of December 31, 2021, the contingent consideration remained estimated at $ 9.7 million. The Company’s policy is to value contingent consideration liabilities using a Monte Carlo model. The Company did no t have any contingent consideration as of December 31, 2020. (13) COMMITMENTS AND CONTINGENCIES See Note 11 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management provides for them if losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (14) CONCENTRATIONS The Company is exposed to concentration of credit risk related primarily to its cash balances. The Company maintains its cash balances in major financial institutions that exceed amounts insured by the FDIC (up to $250,000, per financial institution as of December 31, 2021). The Company has not experienced any realized losses in such accounts and believes it is not exposed to any significant credit risk related to its cash. The Company had two major vendors from which it sourced approximately 34 % and one major vendor from which it soured approximately 22 %, respectively, of supplies for its electrotherapy products for the years ended December 31, 2021 and 2020. Management believes that its relationships with its suppliers are good. If the relationships were to be replaced, there may be a short-term disruption for a period of time in which products may not be available and additional expenses may be incurred as the Company locates additional or replacement suppliers. The Company had receivables from one third-party payer at December 31, 2021 which made up approximately 22 % of the accounts receivable balance. The Company had receivables from one third-party payer at December 31, 2020, which made up approximately 26 % of the accounts receivable balance. (15) RETIREMENT PLAN In 2012, the Company established a defined contribution retirement plan for its employees under section 401(k) of the Internal Revenue Code (the “401(k) Plan”) that is available to all employees 18 years of age or older with three months of service. All employee contributions are fully vested immediately and employer contributions vest over a period of four years. The Company has a discretionary employee match program and currently matches 35 % of first 6 % of an employee’s contributions. During the years ended December 31, 2021 and 2020, the Company recorded an expense of $ 0.5 million and $ 0.3 million, respectively, under the aforementioned plan, related to the Company match. F-27 Table of Contents (16) QUARTERLY FINANCIAL INFORMATION (UNAUDITED) Quarterly financial information is as follows (in thousands, except per share data): 2021 First Quarter Second Quarter Third Quarter Fourth Quarter Total Revenue $ 24,127 $ 31,022 $ 34,785 $ 40,367 L cost of revenue and operating expenses 25,207 27,209 26,739 28,780 Income from operations ( 1,080 ) 3,813 8,046 11,587 Income before income taxes ( 1,087 ) 3,768 8,028 11,562 Net income $ ( 706 ) $ 2,808 $ 6,107 $ 8,894 Net income per common sh Basic income per share - net income $ ( 0.02 ) $ 0.07 $ 0.16 $ 0.23 Diluted income per share - net income $ ( 0.02 ) $ 0.07 $ 0.16 $ 0.23 2020 First Quarter Second Quarter Third Quarter Fourth Quarter Total Revenue $ 15,228 $ 19,263 $ 20,026 $ 25,605 L cost of revenue and operating expenses 12,770 15,178 18,617 23,308 Income from operations 2,458 4,085 1,409 2,297 Income before income taxes 2,454 4,080 1,404 2,215 Net income $ 2,937 $ 3,017 $ 1,333 $ 1,787 Net income per common sh Basic income per share - net income $ 0.08 $ 0.08 $ 0.04 $ 0.05 Diluted income per share - net income $ 0.08 $ 0.08 $ 0.03 $ 0.05 F-28 Table of Contents (17) SUBSEQUENT EVENTS On January 21, 2022, the Company paid out the one-time special stock dividend of 10 % and cash dividend of $ 0.10 per share that was declared on November 9, 2021. The stock dividend resulted in an issuance of approximately 3.6 million additional shares of common stock and the cash distribution was approximately $ 3.6 million. All share amounts were updated retrospectively in this report to reflect this issuance. (18) COVID-19 In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. During 2020 and 2021, the Company’s operations were impacted by closures of clinics and reductions in elective surgeries which decreased availability of physicians to prescribe our products. Additionally, the Company had to navigate the impacts it had on employee and supply chain issues. While the Company did not see a significant impact on its operating results or financial position during the year ended December 31, 2021 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. F-29 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end March 31, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 303 ) 703-4906 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol Name of each exchange on which registered Common Stock, par value $0.001 per share ZYXI NASDAQ Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☐ Non-accelerated filer ☒ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of April 28, 2022 Common Stock, par value $0.001 39,046,098 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Consolidated Balance Sheets as of March 31, 2022 (unaudited) and December 31, 2021 3 Unaudited Consolidated Statements of Income for the three months ended March 31, 2022 and 2021 4 Unaudited Consolidated Statements of Cash Flows for the three months ended March 31, 2022 and 2021 5 Unaudited Consolidated Statements of Stockholders’ Equity for the three months ended March 31, 2022 and 2021 6 Unaudited Notes to Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 22 Item 3. Quantitative and Qualitative Disclosures About Market Risk 25 Item 4. Controls and Procedures 25 PART II—OTHER INFORMATION 27 Item 1. Legal Proceedings 27 Item 1A. Risk Factors 27 Item 2. Unregistered Sales of Equity Securities And Use of Proceeds 27 Item 3. Defaults Upon Senior Securities 27 Item 4. Mine Safety Disclosures 27 Item 5. Other Information 27 Item 6. Exhibits 28 SIGNATURES 29 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) March 31, December 31, 2022 2021 ASSETS Current assets: Cash $ 39,247 $ 42,612 Accounts receivable, net 27,845 28,632 Inventory, net 13,484 10,756 Prepaid expenses and other 1,600 689 Total current assets 82,176 82,689 Property and equipment, net 2,191 2,186 Operating lease asset 15,647 16,338 Finance lease asset 359 389 Deposits 585 585 Intangible assets, net of accumulated amortization 9,751 9,975 Goodwill 20,401 20,401 Deferred income taxes 931 711 Total assets $ 132,041 $ 133,274 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable and accrued expenses 6,541 4,739 Cash dividends payable 16 3,629 Operating lease liability 3,329 2,859 Finance lease liability 121 118 Income taxes payable 3,116 2,296 Current portion of debt 5,333 5,333 Accrued payroll and related taxes 3,912 3,897 Total current liabilities 22,368 22,871 Long-term liabiliti Long-term portion of debt, less issuance costs 9,277 10,605 Contingent consideration 9,500 9,700 Operating lease liability 14,792 15,856 Finance lease liability 286 317 Total liabilities 56,223 59,349 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of March 31, 2022 and December 31, 2021 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,476,068 issued and 39,776,816 outstanding as of March 31, 2022 41,400,834 issued and 39,737,890 outstanding as of December 31, 2021 (including 3,606,970 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 41 41 Additional paid-in capital 80,913 80,397 Treasury stock of 1,246,399 shares at March 31, 2022 and December 31, 2021, respectively, at cost ( 6,513 ) ( 6,513 ) Retained earnings 1,377 — Total stockholders’ equity 75,818 73,925 Total liabilities and stockholders’ equity $ 132,041 $ 133,274 The accompanying notes are an integral part of these consolidated financial statements 3 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended March 31, 2022 2021 NET REVENUE Devices $ 6,725 $ 6,365 Supplies 24,358 17,762 Total net revenue 31,083 24,127 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 6,921 5,886 Sales and marketing 14,424 13,827 General and administrative 7,832 5,495 Total costs of revenue and operating expenses 29,177 25,208 Income (loss) from operations 1,906 ( 1,081 ) Other income (expense) Gain on change in fair value of contingent consideration 200 — Interest expense ( 124 ) ( 9 ) Other income (expense), net 76 ( 9 ) Income (loss) from operations before income taxes 1,982 ( 1,090 ) Income tax expense 605 ( 384 ) Net income (loss) $ 1,377 $ ( 706 ) Net income (loss) per sh Basic $ 0.03 $ ( 0.02 ) Diluted $ 0.03 $ ( 0.02 ) Weighted average basic shares outstanding 39,765 38,321 Weighted average diluted shares outstanding 41,188 38,321 The accompanying notes are an integral part of these consolidated financial statements 4 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) For the Three Months Ended March 31, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss) $ 1,377 $ ( 706 ) Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activiti Depreciation 500 487 Amortization 229 — Non-cash reserve charges ( 9 ) 2 Stock-based compensation 589 108 Non-cash lease expense 97 55 Benefit for deferred income taxes ( 220 ) ( 378 ) Gain on change in fair value of contingent consideration ( 200 ) — Change in operating assets and liabiliti Accounts receivable 787 ( 1,037 ) Prepaid and other assets ( 912 ) ( 182 ) Accounts payable and other accrued expenses 2,583 ( 798 ) Inventory ( 3,067 ) ( 2,863 ) Deposits — 7 Net cash provided by (used in) operating activities 1,754 ( 5,305 ) CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 72 ) ( 299 ) Net cash used in investing activities ( 72 ) ( 299 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 28 ) ( 23 ) Cash dividends paid ( 3,613 ) — Purchase of treasury stock — ( 75 ) Proceeds from the issuance of common stock on stock-based awards 3 27 Principal payments on long-term debt ( 1,333 ) — Taxes withheld and paid on employees’ equity awards ( 76 ) ( 59 ) Net cash used in financing activities ( 5,047 ) ( 130 ) Net decrease in cash ( 3,365 ) ( 5,734 ) Cash at beginning of period 42,612 39,173 Cash at end of period $ 39,247 $ 33,439 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 89 ) $ ( 9 ) Cash paid for rent $ ( 995 ) $ ( 521 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 211 $ 162 Inventory transferred to property and equipment under lease $ 339 $ 473 Capital expenditures not yet paid $ 56 $ — Inventory transferred to property and equipment as demo devices $ — $ 67 The accompanying notes are an integral part of these consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2020 38,244,310 $ 36 $ 37,235 $ ( 3,846 ) $ 23,430 $ 56,855 Exercised and vested stock-based awards 63,546 1 29 — — 30 Stock-based compensation expense — — 108 — — 108 Warrants exercised 9,733 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 4,135 ) — ( 59 ) — — ( 59 ) Purchase of treasury stock ( 5,000 ) — — ( 75 ) — ( 75 ) Net loss — — — — ( 706 ) ( 706 ) Balance at March 31, 2021 38,308,454 37 37,313 ( 3,921 ) 22,724 56,153 Balance at December 31, 2021 39,737,890 $ 41 $ 80,397 $ ( 6,513 ) $ — $ 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 $ 39,776,816 $ 41 $ 80,913 $ ( 6,513 ) $ 1,377 $ 75,818 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of March 31, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (”Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel's laser-based products include the NiCO(TM) CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx(TM), a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on drugs and medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the three months ended March 31, 2022 and 2021, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. The Company's Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Except as otherwise indicated, all related amounts reported in the consolidated financial statements, including common share quantities, earnings per share amounts and exercise prices of options, have been retroactively adjusted for the effect of this stock dividend. Unaudited Consolidated Financial Statements The unaudited consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. Amounts as of December 31, 2021, are 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS derived from those audited consolidated financial statements. These interim consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of March 31, 2022 and the results of its operations and its cash flows for the periods presented. The results of operations for the three months ended March 31, 2022 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. Principles of Consolidation The accompanying consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, valuation of long-lived assets and realizability of deferred tax assets. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s Consolidated Balance Sheets. For additional information on the leases where the Company is the lessee, see Note 10- Leases. A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Accounts Receivable, Net The Company’s accounts receivables represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. Intangible Assets and Goodwill The Company records intangible assets based on estimated fair value on the date of acquisition. The finite-lived intangible assets are amortized on a straight-line basis over the estimated lives of the assets. The indefinite-lived intangible assets are not subject to amortization but are subject to impairment testing in the future. Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when control is deemed to have transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The following table provides a breakdown of net revenue related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606") and leases subject to ASC 842 (in thousands): For the Three Months March 31, 2022 2021 Device revenue Purchased $ 2,188 $ 2,332 Leased 4,537 4,033 Total Device revenue $ 6,725 $ 6,365 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Impairment of Long-lived Assets The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Long-lived assets consist of net property and equipment and intangible assets. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Impairment of Goodwill The Company tests goodwill at least annually for impairment. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Inventory, Net Inventories are stated at the lower of cost and net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. Following are the components of inventory (in thousands): March 31, 2022 December 31, 2021 Raw materials $ 3,617 $ 4,471 Work-in-process 1,031 345 Finished goods 5,255 4,468 Inventory in transit 3,733 1,624 $ 13,636 $ 10,908 L reserve ( 152 ) ( 152 ) $ 13,484 $ 10,756 The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. The Company has identified the Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as the chief operating decision-makers (“CODM”). The Company currently operates as one operating segment which includes two revenue typ Devices and Supplies. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. Recent Accounting Pronouncements In August 2020, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2020-06, Debt — Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging — Contracts in Entity’s Own Equity (Subtopic 815-40) (“ASU 2020-06”) to simplify accounting for certain financial instruments. ASU 2020-06 eliminates the current models that require separation of beneficial conversion and cash conversion features from convertible instruments and simplifies the derivative scope exception guidance pertaining to equity classification of contracts in an entity’s own equity. The new standard also introduces additional disclosures for convertible debt and freestanding instruments that are indexed to and settled in an entity’s own equity. ASU 2020-06 amends the diluted earnings per share guidance, including the requirement to use the if-converted method for all convertible instruments. ASU 2020-06 is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years, with early adoption permitted. The Company adopted ASU 2020-06 effective as of January 1, 2022. The adoption of ASU 2020-06 did not have an impact on the Company’s financial statements. In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) ("ASU 2016-13"), Measurement of Credit Losses on Financial Instruments. The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren't measured at fair value through net income. The standard will replace today's "incurred loss" approach with an "expected loss" model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. This ASU is effective for annual periods beginning after December 15, 2022, and interim periods therein for smaller reporting companies. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Company is currently evaluating the impact of the adoption of ASU 2016-13 on its financial condition, results of operations and cash flows, however, the Company believes this standard will only impact accounts receivable and estimates there will be no material impact to the Company’s financial statements. Management has evaluated other recently issued accounting pronouncements and does not believe that any of these pronouncements will have a material impact on the Company’s consolidated financial statements. (2) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): March 31, 2022 December 31, 2021 Property and equipment Office furniture and equipment $ 2,480 $ 2,391 Assembly equipment 100 100 Vehicles 203 203 Leasehold improvements 1,077 1,054 Capital projects 16 — Leased devices 958 1,080 $ 4,834 $ 4,828 Less accumulated depreciation ( 2,643 ) ( 2,642 ) $ 2,191 $ 2,186 Total depreciation expense related to property and equipment was $ 0.2 million and $ 0.1 million for the three months ended March 31, 2022 and 2021, respectively. Total depreciation expense related to devices out on lease was $ 0.3 million and $ 0.2 million for the three months ended March 31, 2022 and 2021, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS During the year ended December 31, 2021, the Company began expensing product demo units sent to its territory managers to use in the field. Total depreciation expense related to demo unit devices out with sales representatives was $ 0.1 million for the three months ended March 31, 2021. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units of which are still with patients for which the Company cannot determine the current status. (3) BUSINESS COMBINATIONS In December 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the "Selling Shareholders"). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,334,350 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 889,566 of the Zynex Shares are being held in escrow (the “Escrow Shares”). The number of Escrow Shares is subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon notification from the FDA finding the Device can be marketed and sold in the United States. The amount of Escrow Shares were recalculated at March 31, 2022 and are included in the calculation of diluted earnings per share. The maximum amount of Zynex Shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares of the Company (see Note 11 for more information regarding this liability). The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. Pro forma Information The unaudited pro forma information for the three months ended March 31, 2021 was calculated after applying impact of acquisition date fair value adjustments. The pro forma financial information presents the combined results of operations of Zynex and Kestrel as if the acquisition had occurred on January 1, 2021 after giving effect to certain pro forma adjustments. The pro forma adjustments reflected in the table below include only those adjustments that are factually supportable and directly attributable to the acquisition (in thousands): Three months ended March 31, 2021 (unaudited) Revenue $ 24,242 Net income $ ( 1,135 ) These pro forma adjustments inclu (i) a net increase in amortization expense to record amortization expense for the aforementioned acquired identifiable intangible assets, (ii) a net increase in interest expense related to borrowings that were put into place as part of the acquisition, (iii) an adjustment to record the acquisition-related transaction costs of $ 0.3 million in the period required, and (iv) the tax effect of the pro forma adjustments using the anticipated effective tax rate. The effective tax rate of the combined company could be materially different from the rate presented in this unaudited pro forma combined financial information. As further information becomes available, any such adjustment described above could be material to the amounts presented in the unaudited pro forma combined financial statements. The pro forma information does not purport to be indicative of the results of operations that would have resulted had the combination occurred at the beginning of each period presented, or of future results of the consolidated entities. (4) GOODWILL AND OTHER INTANGIBLE ASSETS 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 3). As of March 31, 2022, there were no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of March 31, 2022. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents $ 10,000 $ ( 249 ) $ 9,751 10.73 The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2022, next five fiscal years, and periods thereaf (In thousands) April 1, 2022 through December 31, 2022 $ 684 2023 908 2024 911 2025 908 2026 908 2027 908 Thereafter 4,524 Total future amortization expense $ 9,751 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (5) EARNINGS PER SHARE Basic earnings/(loss) per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period, calculated using the treasury-stock method for outstanding stock options. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. The calculation of basic and diluted earnings per share for the three months ended March 31, 2022 and 2021 are as follows (in thousands, except per share data): For the Three Months Ended March 31, 2022 2021 Basic earnings per share Net income (loss) available to common stockholders $ 1,377 $ ( 706 ) Basic weighted-average shares outstanding 39,765 38,321 Basic earnings (loss) per share $ 0.03 $ ( 0.02 ) Diluted earnings per share Net income (loss) available to common stockholders $ 1,377 $ ( 706 ) Weighted-average shares outstanding 39,765 38,321 Effect of dilutive securities - options and restricted stock 1,423 — Diluted weighted-average shares outstanding 41,188 38,321 Diluted earnings (loss) per share $ 0.03 $ ( 0.02 ) For the three months ended March 31, 2022 and 2021, 0.5 million and 1.1 million shares of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. The basic and diluted weighted-average shares outstanding for both periods presented have been updated to include the retroactive impact of the 10 % common stock dividend declared on November 9, 2021. (6) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). The Company will pay interest on Facility 1 on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of March 31, 2022, the Company had not utilized this facility. The other facility being extended by the Bank to the Company is a fixed rate term loan in the amount of up to $ 16.0 million (“Facility 2”). Facility 2 is available in one disbursement from the Bank and the interest rate is equal to 2.8 % per year. The Company must pay interest on the first day of each month beginning January 1, 2022 and the Company will also repay the principal amount in equal installments of $ 444,444 per month through December 1, 2024. Facility 2 was entered into in conjunction with the purchase of Kestrel Labs. The following table summarizes future principal payments on long-term debt as of March 31, 2022: 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS March 31, (In thousands) April 1, 2022 through December 31, 2022 $ 4,000 2023 5,333 2024 5,334 Future principal payments 14,667 Less current portion ( 5,333 ) Less debt issuance costs ( 57 ) Long-term debt, net of debt issuance costs $ 9,277 (7) STOCK-BASED COMPENSATION PLANS In June 2017, the Company’s stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5.5 million shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of the Company’s common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon vesting and are not included in outstanding shares until such vesting and issuance occurs. During the three months ended March 31, 2022 and 2021, no stock option awards were granted under the 2017 Stock Plan. At March 31, 2022, the Company had 0.8 million stock options outstanding and 0.7 million exercisable under the following pla Outstanding Exercisable Number of Options Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 324 324 Equity compensation plans not approved by shareholders 28 28 2017 Stock Option Plan 412 351 Total 764 703 During the three months ended March 31, 2022, 48,000 shares of restricted stock were granted to management under the 2017 Stock Plan. During the three months ended March 31, 2021, 72,000 shares of restricted stock were granted to management. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of the Company’s common stock on the date of grant. The vesting on the Restricted Stock is typically released quarterly over three years for the Board of Directors and annually or quarterly over two or four years for management. The following summarizes stock-based compensation expenses recorded in the consolidated statements of income (in thousands): For the Three Months Ended March 31, 2022 2021 Cost of Revenue $ 15 $ 15 Sales and marketing expense 59 15 General, and administrative 515 78 Total stock based compensation expense $ 589 $ 108 The Company received proceeds of $ 3,000 and $ 27,000 related to option exercises during the three months ended March 31, 2022 and 2021, respectively. A summary of stock option activity under all equity compensation plans for the three months ended March 31, 2022, is presented be 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2021 765 $ 1.36 4.68 $ 5,896 Exercised ( 1 ) $ 2.94 Outstanding at March 31, 2022 764 $ 1.36 4.43 $ 3,780 Exercisable at March 31, 2022 703 $ 1.11 4.21 $ 3,627 No stock option awards were granted or forfeited during the three months ended March 31, 2022. A summary of restricted stock award activity under all equity compensation plans for the three months ended March 31, 2022, is presented be Number of Weighted Shares Average Grant (in thousands) Date Fair Value Granted but not vested at December 31, 2021 454 $ 13.69 Granted 48 Forfeited ( 11 ) Vested ( 38 ) Granted but not vested at March 31, 2022 453 12.80 As of March 31, 2022, the Company had approximately $ 5.1 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.6 years. (8) STOCKHOLDERS’ EQUITY Common Stock Dividend The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Treasury Stock On March 8, 2021, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through September 8, 2021. From the inception of the plan through September 8, 2021, the Company purchased 175,179 shares of its common stock for $ 2.7 million or an average price of $ 15.22 per share. Warrants A summary of stock warrant activity for the three months ended March 31, 2022 is presented be 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2021 99 $ 2.40 2.76 $ 660 Granted — $ — Exercised — $ — Forfeited — $ — Outstanding and exercisable at March 31, 2022 99 $ 2.40 2.52 $ 379 (9) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits on stock option exercises. For the three months ended March 31, 2022 discrete items adjusted were $ 0.5 million. At March 31, 2022 and 2021, the Company estimated an annual effective tax rate of approximately 25.1 % and 25.2 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 30 % for the three months ended March 31, 2022. Discrete items recognized during the three months ended March 31, 2022 and 2021, resulted in a tax expense of approximately $ 0.1 million and a tax benefit of approximately $ 0.1 million, respectively. The Company recorded an income tax expense of $ 0.6 million and a tax benefit of $0.4 million for the three months ended March 31, 2022 and 2021, respectively. No taxes were paid during the three months ended March 31, 2022 and 2021. (10) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During March 2022, The Company entered into a lease agreement for approximately 4,162 square feet of office space for the operations of Kestrel Labs, Inc. in Boulder, Colorado. The lease begins on April 1, 2022 and will run through April 1, 2025. The rent and common area maintenance charges are equal to $ 17.00 per square foot with annual increases of 3 %. Upon lease commencement, the Company recorded an operating lease liability and corresponding right-of-use asset for $ 0.2 million each. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.08 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.38 % which was used to measure its finance lease liability. The weighted average remaining lease term was 5.19 years and 3.30 years for operating and finance leases, respectively, as of March 31, 2022. As of March 31, 2022, the maturities of the Company’s future minimum lease payments were as follows (in thousands): 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Operating Lease Liability Finance Lease Liability April 1, 2022 through December 31, 2022 2,627 115 2023 3,055 152 2024 3,571 116 2025 3,586 76 2026 3,361 15 2027 3,150 — Thereafter 1,064 — Total undiscounted future minimum lease payments $ 20,414 $ 474 L Difference between undiscounted lease payments and discounted lease liabiliti ( 2,293 ) ( 67 ) Total lease liabilities $ 18,121 $ 407 The components of lease expenses were as follows: Three Months Ended March 31, 2022 2021 Lease Operating lease Total operating lease expense $ 1,105 $ 610 Finance lease Total amortization of leased assets 30 21 Interest on lease liabilities 10 8 Total net lease cost $ 1,145 $ 639 For the three months ended March 31, 2022 and 2021, $ 0.1 million and $ 0.2 million of operating lease costs respectively, were incurred at the Company’s manufacturing and warehouse facility and were included in cost of sales. For the three months ended March 31, 2022 and 2021, $ 1.0 million and $ 0.4 million of operating lease costs, respectively, were included in selling, general and administrative expenses on the consolidated statement of income. (11) FAIR VALUE MEASUREMENTS The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo model. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. Authoritative guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of March 31, 2022, by level within the fair value hierarc Fair Value Measurements at March 31, 2022 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable March 31, Assets Inputs Inputs 2022 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 9,500 $ — $ — $ 9,500 Total $ 9,500 $ — $ — $ 9,500 The following table sets forth a summary of changes in the contingent consideration for the three months ended March 31, 2022 (in thousands): Contingent Consideration Balance as of December 31, 2021 $ 9,700 Gain on change in fair value of contingent consideration ( 200 ) Balance as of March 31, 2022 $ 9,500 (12) CONCENTRATIONS For the three months ended March 31, 2022, the Company sourced approximately 30 % of the components for its electrotherapy products from two significant vendors. For the three months ended March 31, 2021 the Company sourced approximately 32 % of components from two significant vendors. Management believes that its relationships with suppliers are good; however, if the relationships were to be replaced, there may be a short-term disruption to operations, a period of time in which products may not be available and additional expenses may be incurred. At March 31, 2022, the Company had receivables from one third-party payers that made up approximately 19 % of the net accounts receivable balance. At December 31, 2021, the Company had receivables from one third-party payer which made up approximately 22 % of the net accounts receivable balance. (13) COMMITMENTS AND CONTINGENCIES See Note 10 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. 20 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (14) SUBSEQUENT EVENTS On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. Under the share buyback program, buybacks may be made from time-to-time in open market and negotiated purchases, effective immediately through the next twelve months. This program does not obligate the Company to acquire any particular amount of common stock and the program may be suspended or discontinued at any time. The Company expects to finance the purchases with existing cash balances, which is not expected to have a material impact on capital levels. The Company repurchased $ 5.3 million of shares from April 12, 2022 through April 27, 2022. 21 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2021. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2021 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which include electrotherapy and pain management products. As of March 31, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO(TM) CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx(TM), a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. 22 Table of Contents RESULTS OF OPERATIONS Summary Net revenue was $31.1 million and $24.1 million for the three months ended March 31, 2022 and 2021, respectively. Net revenue increased 29% for the three-month period ended March 31, 2022. The Company had net income of $1.3 million during the three months ended March 31, 2022 as compared with a net loss of $0.7 million during the three months ended March 31, 2021. Cash flows provided by operating activities increased $7.1 million to $1.8 million during the three months ended March 31, 2022 as compared with cash flows used in operating activities of $5.3 million during the three months ended March 31, 2021. Working capital was $59.8 million at March 31, 2022 and at December 31, 2021. Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 1 to the Consolidated Financial Statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $7.0 million or 29% to $31.1 million for the three months ended March 31, 2022, from $24.1 million for the same period in 2021. The growth in net revenue is primarily related to the continued growth in device orders. In 2021, we saw annual order growth of 89% and additional order growth for the three months ended March 31, 2022 of 3%. Increased order growth has led to an increased customer base and drove higher sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our products. Device revenue increased $0.3 million or 6% to $6.7 million for the three months ended March 31, 2022, from $6.4 million for the same period in 2021. The growth in device revenue is primarily related to an increase in devices being leased in 2021 and an increase in orders of 3%. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our products. Supplies revenue increased $6.6 million or 37% to $24.4 million for the three months ended March 31, 2022, from $17.8 million for the same period in 2021. The increase in supplies revenue is primarily related to an increased customer base from increased device sales in 2022 and 2021. 23 Table of Contents Operating Expenses Cost of Revenue – Device and Supply Cost of Revenue – device and supply consist primarily of device and supply costs, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended March 31, 2022 increased 18% to $6.9 million from $5.9 million for the three months ended March 31, 2021. The increase in cost of revenue is primarily due to increased revenue. As a percentage of revenue, cost of revenue – device and supply decreased to 22% for the three months ended March 31, 2022 from 24% for the same period in 2021. The decrease as a percentage of revenue is due to increased volumes and expanding our supplier portfolio mix, both of which have allowed us to negotiate lower costs. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended March 31, 2022 increased 4% to $14.4 million from $13.8 million for the three months ended March 31, 2021. The increase in sales and marketing expense is primarily due to increased sales commissions. As a percentage of revenue, sales and marketing expense decreased to 46% for the three months ended March 31, 2022 from 57% for the same period in 2021. The decrease as a percentage of revenue is primarily due to the increase in revenue and our sales force becoming more productive. General and Administrative Expense General and administrative expenses primarily consist of employee related costs, and other direct costs associated with these personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for the three months ended March 31, 2022 increased 43% to $7.8 million from $5.5 million for the three months ended March 31, 2021.The increase in general and administrative expense is primarily due to increased rent and facilities expense as we moved our corporate headquarters during May 2021 and an increase in professional service expenses. As a percentage of revenue, general and administrative expense increased to 25% for the three months ended March 31, 2022 from 23% for the same period in 2021. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by increased revenue. Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 30% and 35% for the three months ended March 31, 2022 and 2021, respectively. Discrete items, primarily related to tax expense on stock option exercises, of $0.1 million and $0.1 million were recognized as a benefit against income tax expense for the three months ended March 31, 2022 and 2021, respectively. For the three months ended March 31, 2022 the Company has an income tax expense of approximately $0.6 million. For the three months ended March 31, 2021 the Company had an income tax benefit of approximately $0.4 million. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At March 31, 2022, our principal source of liquidity was $39.2 million in cash and $27.8 million in accounts receivable. Upon closing on the Kestrel acquisition we entered into a loan and credit facility agreement with Bank of America, N.A. The credit facility includes a line of credit in the amount of $4.0 million available until December 1, 2024. The loan is a fixed rate term loan in the amount of $16.0 million and has an interest rate equal to 2.8% per year. The term loan is payable in equal principal installments of $444,444 per month through December 1, 2024 plus interest on the first day of each month beginning January 1, 2022. See Note 6. Net cash provided by operating activities for the three months ended March 31, 2022 was $1.8 million compared with net cash used in operating activities of $5.3 million for the three months ended March 31, 2021. The increase in cash used in operating activities for the 24 Table of Contents three months ended March 31, 2022 was primarily due to positive net income in 2022 as well as an increase in accounts payable and accrued liabilities. Net cash used in investing activities for each of the three months ended March 31, 2022 and 2021 was $0.1 and $0.3 million, respectively. Cash used in investing activities for both periods was primarily related to office furniture and equipment and leasehold improvements at our new corporate headquarters for the three months ended March 31, 2022 and 2021. Net cash used in financing activities for the three months ended March 31, 2022 was $5.0 million compared with net cash used in financing activities of $0.1 million for the same period in 2021. Cash used in financing activities for the three months ended March 31, 2022 was primarily due to the payment of a $0.10 dividend to common shareholders, and principal payments on notes payable. The cash used in financing activities for the three months ended March 31, 2021 was primarily due to stock purchased through the stock buy back program. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash and cash equivalents balance at March 31, 2022 of $39.2 million; ● Our working capital balance of $59.8 million; and ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the Consolidated Financial Statements located within our Annual Report on Form 10-K for the year ended December 31, 2021, filed with the Securities and Exchange Commission on March 22, 2022. RISKS AND UNCERTAINTIES In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. While the Company did not incur significant disruptions to its operations during the three months ended March 31, 2022 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on such evaluation, our CEO and CFO have concluded that as of March 31, 2022, our disclosure controls and procedures are designed at a reasonable assurance level and are effective to provide reasonable assurance that information we are required to disclose 25 Table of Contents in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission (“SEC”), and that such information is accumulated and communicated to our management, including our CEO and CFO, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures and internal control over financial reporting, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures and internal control over financial reporting must reflect the fact that there are resource constraints and that management is required to apply judgment in evaluating the benefits of possible controls and procedures relative to their costs. Changes in Internal Control Over Financial Reporting During the three months ended March 31, 2022, there were no changes that materially affected or are reasonably likely to affect our internal control over financial reporting. 26 Table of Contents PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS As of the filing date of this Quarterly Report on Form 10-Q, there have been no material changes in the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2021, filed with the SEC on March 22, 2022. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities On April 11, 2022, our Board of Directors approved a program to repurchase up to $10.0 million of our common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. During the three month period ending March 31, 2022, the Company did not repurchase any shares of common stock. On March 8, 2021, our Board of Directors approved a program to repurchase up to $10.0 million of our common stock at prevailing market prices either in the open market or through privately negotiated transactions through September 8, 2021. From the inception of the plan through September 8, 2021, the Company purchased 175,179 shares of our common stock for $2.7 million or an average price of $15.22 per share. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION None 27 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 32.1** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 101.INS* XBRL Instance Document. 101.SCH* XBRL Taxonomy Extension Schema Document. 101.CAL* XBRL Taxonomy Calculation Linkbase Document. 101.LAB * XBRL Taxonomy Label Linkbase Document. 101.PRE * XBRL Presentation Linkbase Document. 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document. 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101 * Filed herewith ** Furnished herewith 28 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat April 28, 2022 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 29 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end June 30, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 303 ) 703-4906 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol Name of each exchange on which registered Common Stock, par value $0.001 per share ZYXI NASDAQ Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☐ Non-accelerated filer ☒ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of July 26, 2022 Common Stock, par value $0.001 38,406,658 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of June 30, 2022 (unaudited) and December 31, 2021 3 Unaudited Condensed Consolidated Statements of Income for the three and six months ended June 30, 2022 and 2021 4 Unaudited Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2022 and 2021 5 Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the three and six months ended June 30, 2022 and 2021 6 Unaudited Notes to Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 21 Item 3. Quantitative and Qualitative Disclosures About Market Risk 25 Item 4. Controls and Procedures 25 PART II—OTHER INFORMATION 26 Item 1. Legal Proceedings 26 Item 1A. Risk Factors 26 Item 2. Unregistered Sales of Equity Securities And Use of Proceeds 26 Item 3. Defaults Upon Senior Securities 26 Item 4. Mine Safety Disclosures 27 Item 5. Other Information 27 Item 6. Exhibits 28 SIGNATURES 29 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES) June 30, December 31, 2022 2021 ASSETS Current assets: Cash $ 26,877 $ 42,612 Accounts receivable, net 27,824 28,632 Inventory, net 14,572 10,756 Prepaid expenses and other 1,357 689 Total current assets 70,630 82,689 Property and equipment, net 2,277 2,186 Operating lease asset 14,719 16,338 Finance lease asset 329 389 Deposits 591 585 Intangible assets, net of accumulated amortization 9,525 9,975 Goodwill 20,401 20,401 Deferred income taxes 1,103 711 Total assets $ 119,575 $ 133,274 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabiliti Accounts payable and accrued expenses 5,236 4,739 Cash dividends payable 16 3,629 Operating lease liability 3,391 2,859 Finance lease liability 123 118 Income taxes payable 160 2,296 Current portion of debt 5,333 5,333 Accrued payroll and related taxes 4,564 3,897 Total current liabilities 18,823 22,871 Long-term liabiliti Long-term portion of debt, less issuance costs 7,949 10,605 Contingent consideration 9,600 9,700 Operating lease liability 13,941 15,856 Finance lease liability 253 317 Total liabilities 50,566 59,349 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of June 30, 2022 and December 31, 2021 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,619,965 issued and 38,403,566 outstanding as of June 30, 2022 41,400,834 issued and 39,737,890 outstanding as of December 31, 2021 (including 3,606,970 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 40 41 Additional paid-in capital 81,412 80,397 Treasury stock of 2,750,773 and 1,246,399 shares at June 30, 2022 and December 31, 2021, respectively, at cost ( 17,166 ) ( 6,513 ) Retained earnings 4,723 — Total stockholders’ equity 69,009 73,925 Total liabilities and stockholders’ equity $ 119,575 $ 133,274 The accompanying notes are an integral part of these condensed consolidated financial statements. 3 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended June 30, For the Six Months Ended June 30, 2022 2021 2022 2021 NET REVENUE Devices $ 9,505 $ 7,828 $ 16,230 $ 14,193 Supplies 27,254 23,194 51,612 40,956 Total net revenue 36,759 31,022 67,842 55,149 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 7,305 7,267 14,226 13,153 Sales and marketing 16,314 13,752 30,738 27,579 General and administrative 8,776 6,188 16,608 11,683 Total costs of revenue and operating expenses 32,395 27,207 61,572 52,415 Income from operations 4,364 3,815 6,270 2,734 Other income (expense) Gain (loss) on change in fair value of contingent consideration ( 100 ) — 100 — Interest expense ( 115 ) ( 45 ) ( 239 ) ( 54 ) Other income (expense), net ( 215 ) ( 45 ) ( 139 ) ( 54 ) Income from operations before income taxes 4,149 3,770 6,131 2,680 Income tax expense 803 962 1,408 578 Net income $ 3,346 $ 2,808 $ 4,723 $ 2,102 Net income per sh Basic $ 0.09 $ 0.07 $ 0.12 $ 0.05 Diluted $ 0.08 $ 0.07 $ 0.12 $ 0.05 Weighted average basic shares outstanding 38,851 38,291 39,305 38,306 Weighted average diluted shares outstanding 39,893 39,141 40,367 39,192 The accompanying notes are an integral part of these condensed consolidated financial statements. 4 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) ForThe Six Months Ended June 30, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 4,723 $ 2,102 Adjustments to reconcile net income to net cash provided by (used in) operating activiti Depreciation 1,025 1,094 Amortization 461 — Non-cash reserve charges ( 9 ) ( 35 ) Stock-based compensation 1,124 509 Non-cash lease expense 237 414 Provision (benefit) for deferred income taxes ( 392 ) 126 Gain on change in fair value of contingent consideration ( 100 ) — Change in operating assets and liabiliti Accounts receivable 808 ( 4,473 ) Prepaid and other assets ( 669 ) 191 Accounts payable and other accrued expenses ( 1,020 ) ( 1,570 ) Inventory ( 4,604 ) ( 2,398 ) Deposits ( 6 ) ( 238 ) Net cash provided by (used in) operating activities 1,578 ( 4,278 ) CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 212 ) ( 354 ) Net cash used in investing activities ( 212 ) ( 354 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 58 ) ( 44 ) Cash dividends paid ( 3,613 ) — Purchase of treasury stock ( 10,655 ) ( 2,120 ) Proceeds from the issuance of common stock on stock-based awards 14 88 Principal payments on long-term debt ( 2,667 ) — Taxes withheld and paid on employees’ equity awards ( 122 ) ( 135 ) Net cash used in financing activities ( 17,101 ) ( 2,211 ) Net decrease in cash ( 15,735 ) ( 6,843 ) Cash at beginning of period 42,612 39,173 Cash at end of period $ 26,877 $ 32,330 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 208 ) $ ( 54 ) Cash paid for rent $ ( 1,965 ) $ ( 1,069 ) Cash paid for income taxes $ ( 3,926 ) ( 335 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 211 $ 13,247 Right-of-use assets obtained in exchange for new finance lease liabilities $ — $ 162 Inventory transferred to property and equipment as demo devices $ — $ 519 Inventory transferred to property and equipment under lease $ 788 $ 473 Capital expenditures not yet paid $ 48 $ — The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2020 38,244,310 36 37,235 ( 3,846 ) 23,430 56,855 Exercised and vested stock-based awards 63,546 1 29 — — 30 Stock-based compensation expense — — 108 — — 108 Warrants exercised 9,733 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 4,135 ) — ( 59 ) — — ( 59 ) Purchase of treasury stock ( 5,000 ) — — ( 75 ) — ( 75 ) Net loss — — — — ( 706 ) ( 706 ) Balance at March 31, 2021 $ 38,308,454 $ 37 $ 37,313 $ ( 3,921 ) $ 22,724 $ 56,153 Exercised and vested stock-based awards, net of tax 93,709 — $ 59 $ — $ — $ 59 Stock-based compensation expense — — 401 — — $ 401 Shares of common stock withheld to pay taxes on employees’ equity awards ( 35,097 ) — ( 76 ) — — $ ( 76 ) Purchase of treasury stock ( 135,179 ) — — ( 2,045 ) — $ ( 2,045 ) Net income — — — — 2,808 $ 2,808 Balance at June 30, 2021 $ 38,231,887 $ 37 $ 37,697 $ ( 5,966 ) $ 25,532 $ 57,300 Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2021 39,737,890 41 80,397 ( 6,513 ) — 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 $ 39,776,816 $ 41 80,913 $ ( 6,513 ) $ 1,377 $ 75,818 Exercised and vested stock-based awards 178,727 1 11 — — 12 Stock-based compensation expense — — 535 — — 535 Shares of common stock withheld to pay taxes on employees’ equity awards ( 47,603 ) — ( 47 ) — — ( 47 ) Purchase of treasury stock ( 1,504,374 ) ( 2 ) — ( 10,653 ) — ( 10,655 ) Net income — — — — 3,346 3,346 Balance at June 30, 2022 $ 38,403,566 $ 40 $ 81,412 $ ( 17,166 ) $ 4,723 $ 69,009 The accompanying notes are an integral part of these condensed consolidated financial statements. 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of June 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (”Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the six months ended June 30, 2022 and 2021, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Except as otherwise indicated, all related amounts reported in the condensed consolidated financial statements, including common share quantities, earnings per share amounts and exercise prices of options, have been retroactively adjusted for the effect of this stock dividend. 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Unaudited Condensed Consolidated Financial Statements The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. Amounts as of December 31, 2021, are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of June 30, 2022 and the results of its operations and its cash flows for the periods presented. The results of operations for the six months ended June 30, 2022 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying condensed consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying condensed consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, assumptions related to the valuation of contingent consideration, and valuation of long-lived assets and realizability of deferred tax assets. Accounts Receivable, Net The Company’s accounts receivable represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. See Note 14 – Concentrations for discussion of significant customer accounts receivable balances. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing in the future.The Company tests goodwill at least annually for impairment. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when control is deemed to have transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The following table provides a breakdown of net revenue related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606") and leases subject to ASC 842 (in thousands): For the Three Months Ended June 30, For the Six Months Ended June 30, 2022 2021 2022 2021 Device revenue Purchased $ 2,268 $ 2,337 $ 4,457 $ 4,668 Leased 7,237 5,491 11,773 9,525 Total device revenue $ 9,505 $ 7,828 $ 16,230 $ 14,193 Supplies revenue 27,254 23,194 51,612 40,956 Total revenue $ 36,759 $ 31,022 $ 67,842 $ 55,149 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s condensed consolidated balance sheets. For additional information on the leases where the Company is the lessee, see Note 12- Leases. A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying condensed consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision-Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. Recent Accounting Pronouncements In August 2020, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2020-06, Debt — Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging — Contracts in Entity’s Own Equity 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Subtopic 815-40) (“ASU 2020-06”) to simplify accounting for certain financial instruments. ASU 2020-06 eliminates the current models that require separation of beneficial conversion and cash conversion features from convertible instruments and simplifies the derivative scope exception guidance pertaining to equity classification of contracts in an entity’s own equity. The new standard also introduces additional disclosures for convertible debt and freestanding instruments that are indexed to and settled in an entity’s own equity. ASU 2020-06 amends the diluted earnings per share guidance, including the requirement to use the if-converted method for all convertible instruments. ASU 2020-06 is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years, with early adoption permitted. The Company adopted ASU 2020-06 effective as of January 1, 2022. The adoption of ASU 2020-06 did not have an impact on the Company’s consolidated financial statements. In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) ("ASU 2016-13"), Measurement of Credit Losses on Financial Instruments. The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren't measured at fair value through net income. The standard will replace today's "incurred loss" approach with an "expected loss" model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. This ASU is effective for annual periods beginning after December 15, 2022, and interim periods therein for smaller reporting companies. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Company adopted this standard during the quarter ended June 30, 2022. The primary instrument that needed to be evaluated was the Company’s trade receivables and the impact was not material. Management has evaluated other recently issued accounting pronouncements and does not believe that any of these pronouncements will have a material impact on the Company’s condensed consolidated financial statements. (3) INVENTORY The components of inventory are as follows (in thousands): June 30, 2022 December 31, 2021 Raw materials $ 3,680 $ 4,471 Work-in-process 1,044 345 Finished goods 7,239 4,468 Inventory in transit 2,761 1,624 $ 14,724 $ 10,908 L reserve ( 152 ) ( 152 ) $ 14,572 $ 10,756 (4) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): June 30, 2022 December 31, 2021 Property and equipment Office furniture and equipment $ 2,537 $ 2,391 Assembly equipment 103 100 Vehicles 203 203 Leasehold improvements 1,165 1,054 Leased devices 1,072 1,080 5,080 4,828 Less accumulated depreciation ( 2,803 ) ( 2,642 ) $ 2,277 $ 2,186 Total depreciation expense related to our property and equipment was $ 0.2 million and $ 0.2 million for the three months ended June 30, 2022 and 2021, respectively. Depreciation expense for the six month periods ended June 30, 2022 and 2021 was $ 0.4 million and $ 0.3 million, respectively. 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Total depreciation expense related to devices out on lease was $ 0.4 million and $ 0.4 million for the three months ended June 30, 2022 and 2021, respectively. Depreciation expense related to devices out on lease was $ 0.7 million and $ 0.6 million for the six months ended June 30, 2022 and 2021, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. During the year ended December 31, 2021, the Company began expensing product demo units sent to its territory managers to use in the field. Total depreciation expense related to demo unit devices out with sales representatives was $ 0.1 million for the three months ended June 30, 2021. Total depreciation expense related to demo unit devices out with sales representatives was $ 0.2 million for the six months ended June 30, 2021. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units which are still with patients for which the Company cannot determine the current status. (5) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the “Selling Shareholders”). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,334,350 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 889,566 of the Zynex Shares are being held in escrow (the “Escrow Shares”). The number of Escrow Shares is subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon determination by the FDA that the Device can be marketed and sold in the United States. The amount of Escrow Shares were recalculated at June 30, 2022 and are included in the calculation of diluted earnings per share. The maximum amount of Zynex Shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares of the Company (see Note 13 for more information regarding this liability). The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. (6) GOODWILL AND OTHER INTANGIBLE ASSETS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 5). As of June 30, 2022, there were no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of June 30, 2022. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents at December 31, 2021 $ 10,000 $ ( 25 ) $ 9,975 11.00 Amortization expense ( 450 ) ( 450 ) Acquired patents at June 30, 2022 $ 10,000 $ ( 475 ) $ 9,525 10.48 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2022, next five fiscal years, and periods thereaf (In thousands) July 1, 2022 through December 31, 2022 $ 458 2023 908 2024 911 2025 908 2026 908 2027 908 Thereafter 4,524 Total future amortization expense $ 9,525 (7) EARNINGS PER SHARE Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period, calculated using the treasury-stock method for outstanding stock options. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. The calculation of basic and diluted earnings per share for the three and six months ended June 30, 2022 and 2021 are as follows (in thousands, except per share data): For the Three Months Ended June 30, For the Six Months Ended June 30, 2022 2021 2022 2021 Basic earnings per share Net income (loss) available to common stockholders $ 3,346 $ 2,808 4,723 2,102 Basic weighted-average shares outstanding 38,851 38,291 39,305 38,306 Basic earnings (loss) per share $ 0.09 $ 0.07 0.12 0.05 Diluted earnings per share Net income (loss) available to common stockholders $ 3,346 $ 2,808 4,723 2,102 Weighted-average shares outstanding 38,851 38,291 39,305 38,306 Effect of dilutive securities - options and restricted stock 1,042 850 1,062 886 Diluted weighted-average shares outstanding 39,893 39,141 40,367 39,192 Diluted earnings (loss) per share $ 0.08 $ 0.07 0.12 0.05 For the three and six months ended June 30, 2022, options to purchase 0.3 million and 0.3 million shares, respectively, of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. For the three and six months ended June 30, 2021, options to purchase 0.1 million and 0.2 million shares, respectively, of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. (8) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). The Company will pay interest on Facility 1 on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of June 30, 2022, the Company had not utilized this facility. 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The other facility being extended by the Bank to the Company is a fixed rate term loan in the amount of up to $16.0 million (“Facility 2”). Facility 2 was entered into and funded in conjunction with the purchase of Kestrel Labs the interest rate is equal to 2.8 % per year. The Company must pay interest on the first day of each month which began January 1, 2022 and the Company also repays the principal amount in equal installments of $ 444,444 per month through December 1, 2024. The following table summarizes future principal payments on long-term debt as of June 30, 2022: June 30, 2022 (In thousands) July 1, 2022 through December 31, 2022 $ 2,667 2023 5,333 2024 5,333 Future principal payments 13,333 Less current portion ( 5,333 ) Less debt issuance costs ( 51 ) Long-term debt, net of debt issuance costs $ 7,949 (9) STOCK-BASED COMPENSATION PLANS In June 2017, our stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5,500,000 shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of our common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon grant and are not included in outstanding shares until such vesting and issuance occurs. During the three and six months ended June 30, 2022 , 200,000 performance based stock option awards were granted under the 2017 Stock Plan. During the three and six months ended June 30, 2021, no stock option awards were granted under the 2017 Stock Plan. At June 30, 2022, the company had 0.8 million stock options outstanding and 0.6 million exercisable under the following pla Outstanding Exercisable Number of Options Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 213 213 Equity compensation plans not approved by shareholders — — 2017 Stock Option Plan 603 344 Total 816 557 During the three and six months ended June 30, 2022, 45,000 and 93,000 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. During the three and six months ended June 30, 2021, 33,000 and 104,500 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on the Restricted Stock Awards typically occur quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. The following summarizes stock-based compensation expenses recorded in the condensed consolidated statements of income (in thousands): For the Three Months Ended June 30, For the Six Months Ended June 30, 2022 2021 2022 2021 Cost of Revenue $ 12 $ 15 $ 27 $ 30 Sales and marketing expense 55 15 114 30 General, and administrative 468 371 983 449 Total stock based compensation expense $ 535 $ 401 $ 1,124 $ 509 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The Company received proceeds of $ 0.1 million related to option exercises during the three and six months ended June 30, 2022, respectively. The Company received proceeds of $ 0.1 million related to option exercises during each of the three and six months ended June 30, 2021, respectively. The Company granted 200,000 stock options during the three and six months ended June 30, 2022. The Company did no t grant any stock options during the three and six months ended June 30, 2021. The Company used the Black Scholes option pricing model to determine the fair value of stock option grants, using the following assumptions for the six months ended June 30, 2022: Expected term (years) 3.00 Risk-free interest rate 2.81 % Expected volatility 73.28 % Expected dividend yield — % A summary of stock option activity under all equity compensation plans for the six months ended June 30, 2022, is presented be Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2021 765 $ 1.36 4.68 $ 5,896 Granted 200 $ 6.23 Forfeited ( 2 ) $ 3.21 Exercised ( 147 ) $ 0.50 Outstanding at June 30, 2022 816 $ 2.70 5.59 $ 4,318 Exercisable at June 30, 2022 557 $ 1.27 3.95 $ 3,743 A summary of restricted stock award activity under all equity compensation plans for the six months ended June 30, 2022, is presented be Number of Weighted Shares Average Grant (in thousands) Date Fair Value Granted but not vested at December 31, 2021 454 $ 13.69 Granted 93 $ 6.66 Forfeited ( 11 ) $ 6.07 Vested ( 70 ) $ 14.32 Granted but not vested at June 30, 2022 466 12.22 As of June 30, 2022, the Company had approximately $ 5.1 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.5 years. (10) STOCKHOLDERS’ EQUITY Common Stock Dividend The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Treasury Stock On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through June 30 2022, the Company purchased 84,500 shares of its common stock for $ 0.7 million or an average price of $ 7.74 per share. On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. Warrants A summary of stock warrant activity for the six months ended June 30, 2022 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2021 99 $ 2.40 2.76 $ 660 Granted — $ — Exercised — $ — Forfeited — $ — Outstanding and exercisable at June 30, 2022 99 $ 2.40 2.27 $ 451 (11) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits on stock option exercises. For the three and six months ended June 30, 2022 discrete items adjusted were ($ 0.9 ) million and ($ 0.4 ) million, respectively. At June 30, 2022 and 2021, the Company is estimating an annual effective tax rate of approximately 25 % and 26 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 23 % for the six months ended June 30, 2022. The Company recorded income tax expense of $ 0.8 million and $ 1.4 million for the three and six months ended June 30, 2022, respectively, and income tax expense of $ 1.0 million and $ 0.6 million for the three and six months ended June 30, 2021. Taxes of $ 3.9 million and $ 0.3 million were paid during the six months ended June 30, 2022 and 2021, respectively. (12) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During March 2022, The Company entered into a lease agreement for approximately 4,162 square feet of office space for the operations of Kestrel Labs, Inc. in Boulder, Colorado. The lease began on April 1, 2022 and will run through April 1, 2025. The rent and common area maintenance charges are equal to $ 17.00 per square foot with annual increases of 3 %. Upon lease commencement, the Company recorded an operating lease liability and corresponding right-of-use asset for $ 0.2 million each. 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.06 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.38 % which was used to measure its finance lease liability. The weighted average remaining lease term was 5.04 years and 2.91 years for operating and finance leases, respectively, as of June 30, 2022. As of June 30, 2022, the maturities of the Company’s future minimum lease payments were as follows (in thousands): Operating Lease Liability Finance Lease Liability July 1, 2022 through December 31, 2022 1,658 73 2023 3,055 152 2024 3,571 116 2025 3,586 76 2026 3,362 15 2027 3,150 — Thereafter 1,064 — Total undiscounted future minimum lease payments $ 19,446 $ 432 L Difference between undiscounted lease payments and discounted lease liabiliti ( 2,114 ) ( 56 ) Total lease liabilities $ 17,332 $ 376 The components of lease expenses were as follows: Three Months Ended Six Months Ended June 30, June 30, Operating Lease expense 2022 2021 2022 2021 Costs of revenue - devices and supplies $ 100 $ 181 $ 201 $ 359 Sales and marketing expense 126 76 257 133 General and administrative 887 658 1,761 1,033 Total operating lease expense $ 1,113 $ 915 $ 2,219 $ 1,525 Finance Lease expense Amortization of right-of-use ass Costs of revenue - devices and supplies $ 15 $ 14 $ 31 $ 26 Selling, general and administrative 14 14 28 28 Total amortization of right-of-use asset 29 28 59 54 Interest expense and other 9 20 19 28 Total finance lease expense $ 38 $ 48 $ 78 $ 82 (13) FAIR VALUE MEASUREMENTS The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo model. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. Authoritative guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of June 30, 2022, by level within the fair value hierarc Fair Value Measurements at June 30, 2022 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable June 30, Assets Inputs Inputs 2022 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 9,600 $ — $ — $ 9,600 Total $ 9,600 $ — $ — $ 9,600 The following table sets forth a summary of changes in the contingent consideration for the three months ended June 30, 2022 (in thousands): Contingent Consideration Balance as of December 31, 2021 $ 9,700 Gain on change in fair value of contingent consideration ( 100 ) Balance as of June, 2022 $ 9,600 (14) CONCENTRATIONS For the three months ended June 30, 2022, the Company sourced approximately 58 % of the supplies for its electrotherapy products from four significant vendors. For the same period in 2021, the Company sourced approximately 31 % of the supplies for its electrotherapy products from one significant vendor. For the six months ended June 30, 2022, the Company sourced approximately 53 % of supplies for its electrotherapy products from four significant vendors. For the same period in 2021, the Company sourced approximately 35 % of supplies for its electrotherapy products from two significant vendors. Management believes that its relationships with suppliers are good; however, if the relationships were to be replaced, there may be a short-term disruption to operations, a period of time in which products may not be available and additional expenses may be incurred. 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS At June 30, 2022, the Company had receivables from one third-party payer that made up approximately 18 % of the net accounts receivable balance. At December 31, 2021, the Company had receivables from one third-party payer which made up approximately 22 % of the net accounts receivable balance. (15) COMMITMENTS AND CONTINGENCIES See Note 12 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (16) SUBSEQUENT EVENTS No subsequent events identified through July 28, 2022. 20 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2021. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2021 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which include electrotherapy and pain management products. As of June 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. RESULTS OF OPERATIONS Summary Net revenue was $36.8 million and $31.0 million for the three months ended June 30, 2022 and 2021, respectively, and $67.8 million and $55.1 million for the six months ended June 30, 2022 and 2021, respectively. Net revenue increased 18% and 23% for the three and six-month periods ended June 30, 2022, respectively. Net income was $3.3 million for the three months ended June 30, 2022 compared with $2.8 million during the same period in 2021. Net income was $4.7 million for the six months ended June 30, 2022 compared with $2.1 million during the same period in 2021. Cash provided by operating activities was $1.6 million during the six months ended June 30, 2022. Working capital was $51.8 million and $59.8 million as of June 30, 2022 and December 31, 2021, respectively. 21 Table of Contents Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the condensed financial statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $5.7 million or 18% to $36.7 million for the three months ended June 30, 2022, from $31.0 million for the same period in 2021. Net revenue increased $12.7 million or 23% to $67.8 million for the six months ended June 30, 2022, from $55.1 million for the same period in 2021. For both the three and six-month periods ended June 30, 2022, the growth in net revenue from the same periods in 2021 is primarily related to a 10% and 6% growth in device orders, respectively, which resulted from an increased customer base and led to higher sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our products. Device revenue increased $1.7 million or 21% to $9.5 million for the three months ended June 30, 2022, from $7.8 million for the same period in 2021. Device revenue increased $2.0 million or 14% to $16.2 million for the six months ended June 30, 2022, from $14.2 million for the same period in 2021. For both the three and six-month periods ended June 30, 2022, the growth in net revenue from the same periods in 2021 is primarily related to growth in sales of devices, device orders, and an increase in leased device sales. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our electrotherapy products. Supplies revenue increased $4.1 million or 18% to $27.3 million for the three months ended June 30, 2022, from $23.2 million for the same period in 2021. Supplies revenue increased $10.6 million or 26% to $51.6 million for the six months ended June 30, 2022, from $41.0 million for the same period in 2021. The increase in supplies revenue is primarily related to an increased customer base from increased device sales in 2022 and 2021. 22 Table of Contents Operating Expenses Cost of Revenue – Devices and Supplies Cost of Revenue – devices and supplies consist primarily of device and supply costs, facilities, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended June 30, 2022 remained flat at $7.3 million. As a percentage of revenue, cost of revenue – devices and supplies decreased to 20% for the three months ended June 30, 2022 from 23% for the same period in 2021. Cost of revenue for the six months ended June 30, 2022 increased 8% to $14.2 million from $13.2 million for the same period in 2021. As a percentage of revenue, cost of revenue – device and supply decreased to 21% for the six months ended June 30, 2022 from 24% for the same period in 2021. The decrease as a percentage of revenue, in both periods presented above, is due to increased volumes and expanding our supplier portfolio mix, both of which have allowed us to negotiate lower costs. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended June 30, 2022 increased 19% to $16.3 million from $13.8 million for the same period in 2021. The increase in sales and marketing expense is primarily due to increased commission and incentive pay related to inflation and rising wages in the U.S. which has created a very competitive job market. As a percentage of revenue, sales and marketing expense remained flat at 44% for the three months ended June 30, 2022 and 2021, respectively. Sales and marketing expense for the six months ended June 30, 2022 increased 11% to $30.7 million from $27.6 million for the same period in 2021. The increase in sales and marketing expense is primarily due to increased commission and incentive pay related to inflation and rising wages in the U.S. which has created a very competitive job market. As a percentage of revenue, sales and marketing expense decreased to 45% and 50% for the six months ended June 30, 2022 and 2021, respectively. The decrease as a percentage of revenue is primarily due to the increase in revenue during the period, slightly offset by the additional expenses noted above. General and Administrative Expense General and administrative expenses primarily consist of employee-related costs, and other direct costs associated with these personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for the three months ended June 30, 2022 increased 42% to $8.8 million from $6.2 million for the same period in 2021. The increase in general and administrative expense for the three months is primarily due to increased compensation and benefit expense related to headcount growth at ZMS, increased rent and facilities expense as we moved our corporate headquarters during May 2021, and an increase in research and development expenses for ZMS. As a percentage of revenue, general and administrative expense increased to 24% for the three months ended June 30, 2022 from 20% for the same period in 2021. The increase as a percentage of revenue is primarily due to the items noted above, partially offset by the increase in revenue during the period . General and administrative expense for the six months ended June 30, 2022 increased 42% to $16.6 million from $11.7 million for the same period in 2021. The increase in general and administrative expense for the six months is primarily due to increased compensation and benefit expense related to headcount growth at ZMS, increases in rent and facilities expense as we moved our corporate headquarters during May 2021, research and development expenses for ZMS, and amortization of intangible assets acquired from the Kestrel acquisition in December 2021. As a percentage of revenue, general and administrative expense increased to 24% for the six months ended June 30, 2022 from 21% for the same period in 2021. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by the increase in revenue during the period. Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 19% and 23% for the 23 Table of Contents three and six months ended June 30, 2022, respectively. Discrete items, primarily related to excess tax benefits related to stock option exercises, of ($0.9) million and ($0.4) million for the three and six months ended June 30, 2022, respectively, are recognized as a benefit against income tax expense. For the three and six months ended June 30, 2022 the Company had an income tax expense of approximately $0.8 million and $1.4 million, respectively. The Company recorded income tax expense of $1.0 million and $0.6 million for the three and six months ended June 30, 2021. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At June 30, 2022, our principal source of liquidity was $26.9 million in cash and $27.8 million in accounts receivable. Net cash provided by operating activities for the six months ended June 30, 2022 was $1.6 million compared with net cash used in operating activities of $4.3 million for the six months ended June 30, 2021. The increase in cash provided by operating activities for the six months ended June 30, 2022 was primarily due to an increase in net income as well as a decrease in the receivables balance. The increase was partially offset by increased inventory due to our order growth, in-transit inventory, plus increased stockpiles in anticipation of possible supply chain shortages. Net cash used in investing activities for the six months ended June 30, 2022 and 2020 was $0.2 million and $0.4 million, respectively. Cash used in investing activities for the six months ended June 30, 2022 was primarily related to leasehold improvements at our new facility for Kestrel and the purchase of computer equipment. Cash used in investing activities for the six months ended June 30, 2021 was primarily related to the purchase of leasehold improvements at our manufacturing and warehouse facility . Net cash used in financing activities for the six months ended June 30, 2021 was $17.1 million compared with net cash used in financing activities of $2.2 million for the same period in 2021. Net cash used in financing activities for the six months ended June 30, 2022 was primarily due to purchases of treasury stock, payment of cash dividends in January 2022, and principal payments on long-term debt. Net cash used in financing activities for the six months ended June 30, 2021 was primarily due to purchases of treasury stock. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash and cash equivalents balance at June 30, 2022 of $26.9 million; ● Our working capital balance of $51.8 million; ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the consolidated financial statements located within our Annual Report on Form 10-K for the year ended December 31, 2021, filed with the Securities and Exchange Commission on March 22, 2022. OFF BALANCE SHEET ARRANGEMENTS The Company had no significant off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to our stockholders. 24 Table of Contents RISKS AND UNCERTAINTIES In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. While the Company did not incur significant disruptions to its operations during the three months ended June 30, 2022 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A. ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on such evaluation, our CEO and CFO have concluded that as of June 30, 2022, our disclosure controls and procedures are designed at a reasonable assurance level and are effective to provide reasonable assurance that information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission (“SEC”), and that such information is accumulated and communicated to our management, including our CEO and CFO, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures and internal control over financial reporting, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures and internal control over financial reporting must reflect the fact that there are resource constraints and that management is required to apply judgment in evaluating the benefits of possible controls and procedures relative to their costs. Changes in Internal Control Over Financial Reporting During the six months ended June 30, 2022, there were no changes that materially affected or are reasonably likely to affect our internal control over financial reporting. 25 Table of Contents PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS As of the filing date of this Quarterly Report on Form 10-Q, there have been no material changes in the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2021, filed with the SEC on March 22, 2022. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities Total Number of In Thousands Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan April 11 - April 30, 2022 Share repurchase program (1) 959,874 $ 7.15 959,874 3,132 May 1 - May 31, 2022 Share repurchase program (1) 460,000 $ 6.81 1,419,874 — June 10 - June 30, 2022 Share repurchase program (2) 84,500 $ 7.74 84,500 9,346 Quarter Total Share repurchase program (1) 1,419,874.00 $ 7.04 1,419,874 — Share repurchase program (2) 84,500.00 $ 7.74 84,500 9,346 (1)Shares were purchased through the Company’s publicly announced share repurchase program dated Aprill 11, 2022. The program was fully utilitzed during the Company’s second quarter. (2)Shares were purchased through the Company’s publicly announced share repurchase program dated June 9, 2022. The program expires on June 9, 2023. On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through June 30 2022, the Company purchased 84,500 shares of its common stock for $0.7 million or an average price of $7.74 per share. On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $10.0 million or an average price of $7.04 per share which completed this program. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. 26 Table of Contents ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION None. 27 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB * XBRL Taxonomy Label Linkbase Document 101.PRE * XBRL Presentation Linkbase Document 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document * Filed herewith ** Furnished herewith 28 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat July 28, 2022 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 29 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end September 30, 2022 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 800 ) 495-6670 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Ticker symbol(s) Name of each exchange on which registered Common Stock, $0.001 par value per share ZYXI The Nasdaq Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☐ Non-accelerated filer ☒ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of October 25, 2022 Common Stock, par value $0.001 37,453,445 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of September 30, 2022 (unaudited) and December 31, 2021 3 Unaudited Condensed Consolidated Statements of Operations for the three and nine months ended September 30, 2022 and 2021 4 Unaudited Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2022 and 2021 5 Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the three and nine months ended September 30, 2022 and 2021 6 Unaudited Notes to Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 22 Item 3. Quantitative and Qualitative Disclosures About Market Risk 26 Item 4. Controls and Procedures 26 PART II—OTHER INFORMATION 27 Item 1. Legal Proceedings 27 Item 1A. Risk Factors 27 Item 2. Unregistered Sales of Equity Securities And Use of Proceeds 27 Item 3. Defaults Upon Senior Securities 27 Item 4. Mine Safety Disclosures 27 Item 5. Other Information 27 Item 6. Exhibits 28 SIGNATURES 29 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES) September 30, 2022 December 31, (unaudited) 2021 ASSETS Current assets: Cash $ 23,532 $ 42,612 Accounts receivable, net 28,350 28,632 Inventory, net 14,366 10,756 Prepaid expenses and other 1,134 689 Total current assets 67,382 82,689 Property and equipment, net 2,199 2,186 Operating lease asset 13,783 16,338 Finance lease asset 300 389 Deposits 591 585 Intangible assets, net of accumulated amortization 9,296 9,975 Goodwill 20,401 20,401 Deferred income taxes 1,483 711 Total assets $ 115,435 $ 133,274 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabiliti Accounts payable and accrued expenses 5,139 4,739 Cash dividends payable 16 3,629 Operating lease liability 2,943 2,859 Finance lease liability 126 118 Income taxes payable 916 2,296 Current portion of debt 5,333 5,333 Accrued payroll and related taxes 5,297 3,897 Total current liabilities 19,770 22,871 Long-term liabiliti Long-term portion of debt, less issuance costs 6,621 10,605 Contingent consideration 9,700 9,700 Operating lease liability 13,936 15,856 Finance lease liability 221 317 Total liabilities 50,248 59,349 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of September 30, 2022 and December 31, 2021 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,625,663 issued and 37,467,494 outstanding as of September 30, 2022 41,400,834 issued and 39,737,890 outstanding as of December 31, 2021 (including 3,606,970 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 39 41 Additional paid-in capital 81,873 80,397 Treasury stock of 3,738,224 and 1,246,399 shares at September 30, 2022 and December 31, 2021, respectively, at cost ( 26,321 ) ( 6,513 ) Retained earnings 9,596 — Total stockholders’ equity 65,187 73,925 Total liabilities and stockholders’ equity $ 115,435 $ 133,274 The accompanying notes are an integral part of these condensed consolidated financial statements. 3 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended September 30, For the Nine Months Ended September 30, 2022 2021 2022 2021 NET REVENUE Devices $ 11,349 $ 9,071 $ 27,579 $ 23,264 Supplies 30,171 25,715 81,783 66,671 Total net revenue 41,520 34,786 109,362 89,935 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 8,391 6,837 22,617 19,990 Sales and marketing 17,212 13,083 47,950 40,662 General and administrative 9,359 6,820 25,967 18,503 Total costs of revenue and operating expenses 34,962 26,740 96,534 79,155 Income from operations 6,558 8,046 12,828 10,780 Other (expense) Loss on change in fair value of contingent consideration ( 100 ) — — — Interest expense ( 106 ) ( 18 ) ( 345 ) ( 72 ) Other (expense) net ( 206 ) ( 18 ) ( 345 ) ( 72 ) Income from operations before income taxes 6,352 8,028 12,483 10,708 Income tax expense 1,479 1,921 2,887 2,499 Net income $ 4,873 $ 6,107 $ 9,596 $ 8,209 Net income per sh Basic $ 0.13 $ 0.16 $ 0.25 $ 0.21 Diluted $ 0.13 $ 0.16 $ 0.24 $ 0.21 Weighted average basic shares outstanding 38,046 38,245 38,881 38,286 Weighted average diluted shares outstanding 38,865 39,043 39,729 39,142 The accompanying notes are an integral part of these condensed consolidated financial statements. 4 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) For The Nine Months Ended September 30, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 9,596 $ 8,209 Adjustments to reconcile net income to net cash provided by (used in) operating activiti Depreciation 1,590 1,689 Amortization 695 — Non-cash reserve charges 65 ( 83 ) Stock-based compensation 1,702 1,042 Non-cash lease expense 720 905 Provision (benefit) for deferred income taxes ( 772 ) 190 Change in operating assets and liabiliti Accounts receivable 282 ( 10,397 ) Prepaid and other assets ( 446 ) 276 Accounts payable and other accrued expenses 364 ( 284 ) Inventory ( 4,801 ) ( 1,898 ) Deposits ( 6 ) ( 238 ) Net cash provided by (used in) operating activities 8,989 ( 589 ) CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 332 ) ( 420 ) Net cash used in investing activities ( 332 ) ( 420 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 87 ) ( 73 ) Cash dividends paid ( 3,613 ) — Purchase of treasury stock ( 19,811 ) ( 2,667 ) Proceeds from the issuance of common stock on stock-based awards 27 127 Principal payments on long-term debt ( 4,000 ) — Taxes withheld and paid on employees’ equity awards ( 253 ) ( 183 ) Net cash used in financing activities ( 27,737 ) ( 2,796 ) Net decrease in cash ( 19,080 ) ( 3,805 ) Cash at beginning of period 42,612 39,173 Cash at end of period $ 23,532 $ 35,368 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 317 ) $ ( 72 ) Cash paid for rent $ ( 2,592 ) $ ( 1,510 ) Cash paid for income taxes ( 5,028 ) ( 1,019 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 211 $ 13,240 Right-of-use assets obtained in exchange for new finance lease liabilities $ — $ 175 Inventory transferred to property and equipment as demo devices $ — $ 125 Inventory transferred to property and equipment under lease $ 1,191 $ 1,254 Capital expenditures not yet paid $ 56 $ 56 The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2020 38,244,310 $ 36 $ 37,235 $ ( 3,846 ) $ 23,430 $ 56,855 Exercised and vested stock-based awards 63,546 1 29 — — 30 Stock-based compensation expense — — 108 — — 108 Warrants exercised 9,733 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 4,135 ) — ( 59 ) — — ( 59 ) Purchase of treasury stock ( 5,000 ) — — ( 75 ) — ( 75 ) Net loss — — — — ( 706 ) ( 706 ) Balance at March 31, 2021 38,308,454 $ 37 $ 37,313 $ ( 3,921 ) $ 22,724 $ 56,153 Exercised and vested stock-based awards, net of tax 93,709 — $ 59 $ — $ — 59 Stock-based compensation expense — — 401 — — 401 Shares of common stock withheld to pay taxes on employees’ equity awards ( 35,097 ) — ( 76 ) — — ( 76 ) Purchase of treasury stock ( 135,179 ) — — ( 2,045 ) — ( 2,045 ) Net income — — — — 2,808 2,808 Balance at June 30, 2021 38,231,887 $ 37 $ 37,697 $ ( 5,966 ) $ 25,532 $ 57,300 Exercised and vested stock-based awards, net of tax 49,682 — $ 38 $ — $ — 38 Stock-based compensation expense — — 533 — — 533 Shares of common stock withheld to pay taxes on employees’ equity awards ( 3,671 ) — ( 48 ) — — ( 48 ) Purchase of treasury stock ( 35,000 ) — — ( 547 ) — ( 547 ) Net income — — — — 6,107 6,107 Balance at September 30, 2021 38,242,898 $ 37 $ 38,220 $ ( 6,513 ) $ 31,639 $ 63,383 Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2021 39,737,890 $ 41 $ 80,397 $ ( 6,513 ) $ — $ 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 39,776,816 $ 41 80,913 $ ( 6,513 ) $ 1,377 $ 75,818 Exercised and vested stock-based awards 178,727 1 11 — — 12 Stock-based compensation expense — — 535 — — 535 Shares of common stock withheld to pay taxes on employees’ equity awards ( 47,603 ) — ( 47 ) — — ( 47 ) Purchase of treasury stock ( 1,504,374 ) ( 2 ) — ( 10,653 ) — ( 10,655 ) Net income — — — — 3,346 3,346 Balance at June 30, 2022 38,403,566 $ 40 $ 81,412 $ ( 17,166 ) $ 4,723 $ 69,009 Exercised and vested stock-based awards 68,060 — 13 — — 13 Stock-based compensation expense — — 578 — — 578 Shares of common stock withheld to pay taxes on employees' equity awards ( 16,681 ) — ( 130 ) — — ( 130 ) Purchase of treasury stock ( 987,451 ) ( 1 ) — ( 9,155 ) — ( 9,156 ) Net income — — — — 4,873 4,873 Balance at September 30, 2022 37,467,494 $ 39 $ 81,873 $ ( 26,321 ) $ 9,596 $ 65,187 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS NOTE (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of September 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100 % of Kestrel Labs, Inc. (”Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the nine months ended September 30, 2022 and 2021, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Except as otherwise indicated, all related amounts reported in the condensed consolidated financial statements, including common share quantities, earnings per share amounts and exercise prices of options, have been retroactively adjusted for the effect of this stock dividend. 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Unaudited Condensed Consolidated Financial Statements The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. Amounts as of December 31, 2021, are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of September 30, 2022 and the results of its operations and its cash flows for the periods presented. The results of operations for the nine months ended September 30, 2022 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. NOTE (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying condensed consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying condensed consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, assumptions related to the valuation of contingent consideration, and valuation of long-lived assets and realizability of deferred tax assets. Accounts Receivable, Net The Company’s accounts receivable represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. The Company maintains a constraint for third-party payer refund requests, deductions and adjustments. See Note 14 – Concentrations for discussion of significant customer accounts receivable balances. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing in the future. The Company utilized the simplified test for goodwill impairment. The amount recognized for impairment is equal to the difference between the carrying value and the asset’s fair value. The valuation methods used in the quantitative fair value assessment was a discounted cash flow method and required management to make certain assumptions and estimates regarding certain industry trends and future profitability of our reporting units. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when the performance obligation has been met and the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when the performance obligation has been met and the product has been transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The following table provides a breakdown of disaggregated net revenues for the three and nine months ended September 30, 2022, and 2021 related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606") and leases subject to ASC 842 (in thousands): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2022 2021 2022 2021 Device revenue Purchased $ 2,900 $ 2,076 $ 7,357 $ 6,734 Leased 8,449 6,995 20,222 16,530 Total device revenue $ 11,349 $ 9,071 $ 27,579 $ 23,264 Supplies revenue 30,171 25,715 81,783 66,671 Total revenue $ 41,520 $ 34,786 $ 109,362 $ 89,935 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s condensed consolidated balance sheets. For additional information on the leases where the Company is the lessee, see Note 12- Leases. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying condensed consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the Chief Operating Decision-Makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision-Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. The Inflation Reduction Act (“IRA”) was enacted into law on August 16, 2022. Included in the IRA was a provision to implement a 15% corporate alternative minimum tax on corporations whose average annual adjusted financial statement income during the most recently completed three year period exceeds $1 billion. This provision is effective for tax years beginning after December 31, 2022. We are in the process of evaluating the provisions of the IRA, but we do not currently believe the IRA will have a material impact on our reported results, cash flows or financial position when it becomes effective. Recent Accounting Pronouncements In August 2020, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2020-06, Debt — Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging — Contracts in Entity’s Own Equity (Subtopic 815-40) (“ASU 2020-06”) to simplify accounting for certain financial instruments. ASU 2020-06 eliminates the current models that require separation of beneficial conversion and cash conversion features from convertible instruments and simplifies the derivative scope exception guidance pertaining to equity classification of contracts in an entity’s own equity. The new standard also introduces additional disclosures for convertible debt and freestanding instruments that are indexed to and settled in an entity’s own equity. ASU 2020-06 amends the diluted earnings per share guidance, including the requirement to use the if-converted method for all convertible instruments. ASU 2020-06 is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years, with early adoption permitted. The Company adopted ASU 2020-06 effective as of January 1, 2022. The adoption of ASU 2020-06 did not have an impact on the Company’s condensed consolidated financial statements. In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) (“ASU 2016-13”), Measurement of Credit Losses on Financial Instruments. The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren’t measured at fair value through net income. The standard will replace today’s “incurred loss” approach with an “expected loss” model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. This ASU is effective for annual periods beginning after December 15, 2022, and interim periods therein for smaller reporting companies. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Company adopted this standard during the quarter ended September 30, 2022. The primary instrument that needed to be evaluated was the Company’s trade receivables and the impact was not material. NOTE (3) INVENTORY The components of inventory as of September 30, 2022, and December 31, 2021 are as follows (in thousands): September 30, 2022 December 31, 2021 Raw materials $ 3,709 $ 4,471 Work-in-process 487 345 Finished goods 8,919 4,468 Inventory in transit 1,403 1,624 $ 14,518 $ 10,908 L reserve ( 152 ) ( 152 ) $ 14,366 $ 10,756 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS NOTE (4) PROPERTY AND EQUIPMENT The components of property and equipment as of September 30, 2022, and December 31, 2021 are as follows (in thousands): September 30, 2022 December 31, 2021 Property and equipment Office furniture and equipment $ 2,657 $ 2,391 Assembly equipment 103 100 Vehicles 203 203 Leasehold improvements 1,173 1,054 Leased devices 1,117 1,080 5,253 4,828 Less accumulated depreciation ( 3,054 ) ( 2,642 ) $ 2,199 $ 2,186 Total depreciation expense related to our property and equipment was $ 0.1 million and $ 0.2 million for the three months ended September 30, 2022 and 2021, respectively. Depreciation expense for the nine month periods ended September 30, 2022 and 2021 was $ 0.5 million and $ 0.7 million, respectively. Total depreciation expense related to devices out on lease was $ 0.3 million and $ 0.4 million for the three months ended September 30, 2022 and 2021, respectively. Depreciation expense related to devices out on lease was $ 1.0 million and $ 1.0 million for the nine months ended September 30, 2022 and 2021, respectively. Depreciation on leased units is reflected in the condensed consolidated statements of operations as cost of revenue. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units which are still with patients for which the Company cannot determine the current status. 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS NOTE (5) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the “Selling Shareholders”). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,334,350 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 889,566 of the Zynex Shares are being held in escrow (the “Escrow Shares”). The number of Escrow Shares is subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon determination by the FDA that the Device can be marketed and sold in the United States. The amount of Escrow Shares were recalculated at September 30, 2022 and are included in the calculation of diluted earnings per share. The maximum amount of Zynex Shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares of the Company (see Note 13 for more information regarding this liability). The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. NOTE (6) GOODWILL AND OTHER INTANGIBLE ASSETS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 5). For the nine months ended September 30, 2022, there was no change in the carrying amount of goodwill, there were no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of September 30, 2022. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents at December 31, 2021 $ 10,000 $ ( 25 ) $ 9,975 11.00 Amortization expense ( 679 ) ( 679 ) Acquired patents at September 30, 2022 $ 10,000 $ ( 704 ) $ 9,296 10.23 The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2022, next five fiscal years, and periods thereaf (In thousands) October 1, 2022 through December 31, 2022 $ 229 2023 908 2024 911 2025 908 2026 908 2027 908 Thereafter 4,524 Total future amortization expense $ 9,296 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS NOTE (7) EARNINGS PER SHARE Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period, calculated using the treasury-stock method for outstanding stock options. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. The calculation of basic and diluted earnings per share for the three and nine months ended September 30, 2022 and 2021 are as follows (in thousands, except per share data): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2022 2021 2022 2021 Basic earnings per share Net income available to common stockholders $ 4,873 $ 6,107 9,596 8,209 Basic weighted-average shares outstanding 38,046 38,245 38,881 38,286 Basic earnings per share $ 0.13 $ 0.16 0.25 0.21 Diluted earnings per share Net income available to common stockholders $ 4,873 $ 6,107 9,596 8,209 Weighted-average shares outstanding 38,046 38,245 38,881 38,286 Effect of dilutive securities - options and restricted stock 819 798 848 856 Diluted weighted-average shares outstanding 38,865 39,043 39,729 39,142 Diluted earnings per share $ 0.13 $ 0.16 0.24 0.21 For both the three and nine months ended September 30, 2022, options to purchase 6,000 and 22,000 shares of common stock were excluded from the dilutive stock calculation, respectively, because their effect would have been anti-dilutive. For both the three and nine months ended September 30, 2021, options to purchase 268,000 and 176,000 shares of common stock were excluded from the dilutive stock calculation, respectively, because their effect would have been anti-dilutive. NOTE (8) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). The Company will pay interest on Facility 1 on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of September 30, 2022, the Company had not utilized this facility. The other facility being extended by the Bank to the Company is a fixed rate term loan in the amount of up to $ 16.0 million (“Facility 2”). Facility 2 was entered into and funded in conjunction with the purchase of Kestrel Labs. The interest rate is equal to 2.8 % per year. The Company must pay interest on the first day of each month which began January 1, 2022 and the Company also repays the principal amount in equal installments of $ 444,444 per month through December 1, 2024. 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The following table summarizes future principal payments on long-term debt as of September 30, 2022: September 30, 2022 (In thousands) October 1, 2022 through December 31, 2022 $ 1,333 2023 5,333 2024 5,334 Future principal payments 12,000 Less current portion ( 5,333 ) Less debt issuance costs ( 46 ) Long-term debt, net of debt issuance costs $ 6,621 NOTE (9) STOCK-BASED COMPENSATION PLANS In June 2017, our stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5.5 million shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of our common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon grant and are not included in outstanding shares until such vesting and issuance occurs. During the three months ended September 30, 2022, no stock option awards were granted under the 2017 Stock Plan. During the nine months ended September 30, 2022, 200,000 performance based stock option awards were granted under the 2017 Stock Plan. During the three and nine months ended September 30, 2021, no stock option awards were granted under the 2017 Stock Plan. At September 30, 2022, the company had 0.8 million stock options outstanding and 0.6 million exercisable under the following pla Outstanding Exercisable Number of Options Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 211 211 Equity compensation plans not approved by shareholders — — 2017 Stock Option Plan 592 342 Total 803 553 During the three and nine months ended September 30, 2022, 50,000 and 143,000 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. During the three and nine months ended September 30, 2021, 222,000 and 349,000 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on the Restricted Stock Awards typically occurs quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. The following summarizes stock-based compensation expenses recorded in the condensed consolidated statements of operations (in thousands): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2022 2021 2022 2021 Cost of Revenue $ 13 $ 12 $ 40 $ 42 Sales and marketing expense 16 48 130 78 General, and administrative 549 473 1,532 922 Total stock based compensation expense $ 578 $ 533 $ 1,702 $ 1,042 The Company received minimal cash proceeds related to option exercises during the three months ended September 30, 2022. The Company received cash proceeds of $ 0.1 million related to option exercises during the nine months ended September 30, 2022. The Company received minimal cash proceeds related to option exercises during the three months ended September 30, 2021. The Company received cash proceeds of $ 0.1 million related to option exercises during the nine months ended September 30, 2021. 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The Company used the Black Scholes option pricing model to determine the fair value of stock option grants, using the following assumptions during the nine months ended September 30, 2022: Expected term (years) 3.00 Risk-free interest rate 2.81 % Expected volatility 73.28 % Expected dividend yield — % A summary of stock option activity under all equity compensation plans for the nine months ended September 30, 2022, is presented be Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2021 765 $ 1.36 4.68 $ 5,896 Granted 200 $ 6.23 Forfeited ( 11 ) $ 2.98 Exercised ( 151 ) $ 0.57 Outstanding at September, 2022 803 $ 2.70 5.38 $ 5,112 Exercisable at September 30, 2022 553 $ 1.27 3.76 $ 4,314 A summary of restricted stock award activity under all equity compensation plans for the nine months ended September 30, 2022, is presented be Number of Weighted Shares Average Grant (in thousands) Date Fair Value Granted but not vested at December 31, 2021 454 $ 13.69 Granted 143 $ 7.39 Forfeited ( 43 ) $ 10.13 Vested ( 134 ) $ 13.44 Granted but not vested at September 30, 2022 420 $ 11.82 As of September 30, 2022, the Company had approximately $ 4.5 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.35 years. NOTE (10) STOCKHOLDERS’ EQUITY Common Stock Dividend The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Treasury Stock On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through September 30 2022, the Company purchased 1,071,951 shares of its common stock for $ 9.8 million or an average price of $ 9.15 per share. 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. Warrants A summary of stock warrant activity for the nine months ended September 30, 2022 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2021 99 $ 2.40 2.76 $ 660 Granted — $ — Exercised — $ — Forfeited — $ — Outstanding and exercisable at September 30, 2022 99 $ 2.40 2.02 $ 518 NOTE (11) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits on stock option exercises. For the three and nine months ended September 30, 2022 discrete items adjusted were $ 0.2 million and $( 0.2 ) million, respectively. At September 30, 2022 and 2021 the Company is currently estimating an annual effective tax rate of approximately 23 % and 25 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 23 % for the nine months ended September 30, 2022. The Company recorded income tax expense of $ 1.5 million and $ 2.9 million for the three and nine months ended September 30, 2022, respectively, and income tax expense of $ 1.9 million and $ 2.5 million for the three and nine months ended September 30, 2021. Income taxes of $ 5.0 million and $ 1.0 million were paid during the nine months ended September 30, 2022 and 2021, respectively. NOTE (12) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During March 2022, The Company entered into a lease agreement for approximately 4,162 square feet of office space for the operations of Kestrel Labs, Inc. in Boulder, Colorado. The lease began on April 1, 2022 and will run through April 1, 2025. The rent and common area maintenance charges are equal to $ 17.00 per square foot with annual increases of 3 %. Upon lease commencement, the Company recorded an operating lease liability and corresponding right-of-use asset for $ 0.2 million each. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.05 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.39 % which was used to measure its finance lease liability. The weighted average remaining lease term was 4.90 years and 2.85 years for operating and finance leases, respectively, as of September 30, 2022. 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS As of September 30, 2022, the maturities of the Company’s future minimum lease payments were as follows (in thousands): Operating Lease Liability Finance Lease Liability October 1, 2022 through December 31, 2022 1,030 38 2023 3,055 152 2024 3,571 116 2025 3,586 76 2026 3,362 15 2027 3,150 — Thereafter 1,064 — Total undiscounted future minimum lease payments $ 18,818 $ 397 L Difference between undiscounted lease payments and discounted lease liabiliti ( 1,939 ) ( 50 ) Total lease liabilities $ 16,879 $ 347 The components of lease expenses were as follows: Three Months Ended Nine Months Ended September 30, September 30, 2022 2021 2022 2021 Lease Operating lease Total operating lease expense $ 1,125 $ 1,072 $ 3,344 $ 2,415 Finance lease Total amortization of leased assets 30 29 89 78 Interest on lease liabilities 9 11 28 31 Total net lease cost $ 1,164 $ 1,112 $ 3,461 $ 2,524 Operating lease costs related to our manufacturing and warehouse facility were included in cost of sales while all other operating lease costs were included in general and administrative expenses on the consolidated statement of operations. NOTE (13) FAIR VALUE MEASUREMENTS The Company measures the fair value of financial assets and liabilities based on the guidance of ASC 820 “Fair Value Measurements and Disclosures” (“ASC 820”) which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo model. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of September 30, 2022, by level within the fair value hierarc Fair Value Measurements at September 30, 2022 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable September 30, Assets Inputs Inputs 2022 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 9,700 $ — $ — $ 9,700 Total $ 9,700 $ — $ — $ 9,700 The following table sets forth a summary of changes in the contingent consideration for the nine months ended September 30, 2022 (in thousands): Contingent Consideration Balance as of December 31, 2021 $ 9,700 Gain on change in fair value of contingent consideration — Balance as of September 30, 2022 $ 9,700 NOTE (14) CONCENTRATIONS For the three months ended September 30, 2022, the Company sourced approximately 39 % of the supplies for its electrotherapy products from two significant vendors. For the same period in 2021, the Company sourced approximately 51 % of the supplies for its electrotherapy products from three significant vendors. For the nine months ended September 30, 2022, the Company sourced approximately 33 % of supplies for its electrotherapy products from two significant vendors. For the same period in 2021, the Company sourced approximately 36 % of supplies for its electrotherapy products from two significant vendors. At September 30, 2022, the Company had receivables from one third-party payer that made up approximately 15 % of the net accounts receivable balance. At December 31, 2021, the Company had receivables from one third-party payer which made up approximately 22 % of the net accounts receivable balance. NOTE (15) COMMITMENTS AND CONTINGENCIES See Note 12 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be 20 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. NOTE (16) SUBSEQUENT EVENTS No subsequent events identified through October 27, 2022. 21 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2021. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2021 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which include electrotherapy and pain management products. As of September 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. RESULTS OF OPERATIONS Summary Net revenue was $41.5 million and $34.8 million for the three months ended September 30, 2022 and 2021, respectively, and $109.4 million and $89.9 million for the nine months ended September 30, 2022 and 2021, respectively. Net revenue increased 19% and 22% for the three and nine months ended September 30, 2022, respectively. Net income was $4.9 million for the three months ended September 30, 2022 compared with $6.1 million during the same period in 2021. Net income was $9.6 million for the nine months ended September 30, 2022 compared with $8.2 million during the same period in 2021. Cash provided by operating activities was $9.0 million during the nine months ended September 30, 2022. Working capital was $47.6 million and $59.8 million as of September 30, 2022 and December 31, 2021, respectively. 22 Table of Contents Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the condensed financial statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $6.7 million or 19% to $41.5 million for the three months ended September 30, 2022, from $34.8 million for the same period in 2021. Net revenue increased $19.4 million or 22% to $109.4 million for the nine months ended September 30, 2022, from $89.9 million for the same period in 2021. For the three and nine months ended September 30, 2022, the growth in net revenue from the same periods in 2021 is primarily related to a 34% and 15% growth in device orders, respectively, which led to an increased customer base and drove higher sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our electrotherapy and complimentary products. Device revenue increased $2.2 million or 25% to $11.3 million for the three months ended September 30, 2022, from $9.1 million for the same period in 2021. Device revenue increased $4.3 million or 19% to $27.6 million for the nine months ended September 30, 2022, from $23.3 million for the same period in 2021. For both the three and nine-month periods ended September 30, 2022, the growth in net revenue from the same periods in 2021 is primarily related to growth in sales of devices and an increase in leased device sales. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our electrotherapy products. Supplies revenue increased $4.5 million or 17% to $30.2 million for the three months ended September 30, 2022, from $25.7 million for the same period in 2021. Supplies revenue increased $15.1 million or 23% to $81.8 million for the nine months ended September 30, 2022, from $66.7 million for the same period in 2021. The increase in supplies revenue is primarily related to an increased customer base from increased device sales in 2022 and 2021. 23 Table of Contents Operating Expenses Cost of Revenue – Device and Supply Cost of Revenue – device and supply consist primarily of device and supply costs, facilities, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended September 30, 2022 increased 23% to $8.4 million from $6.8 million for the same period in 2021. As a percentage of revenue, cost of revenue – device and supply remained at 20% for the three months ended September 30, 2022 and 2021. Cost of revenue for the nine months ended September 30, 2022 increased 13% to $22.6 million from $20.0 million for the same period in 2021. As a percentage of revenue, cost of revenue – device and supply decreased to 21% for the nine months ended September 30, 2022 compared to 22% for the same period in 2021. The decrease as a percentage of revenue, for the nine months ended September 30, 2022, is due to increased volumes and expanding our supplier portfolio mix, both of which have allowed us to negotiate lower costs. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended September 30, 2022 increased 32% to $17.2 million from $13.1 million for the same period in 2021. Sales and marketing expense for the nine months ended September 30, 2022 increased 18% to $48.0 million from $40.7 million for the same period in 2021. The increase in sales and marketing expense is primarily due to increased commission and incentive pay related to inflation and rising wages in the U.S. As a percentage of revenue, sales and marketing expense increased to 41% for the three months ended September 30, 2022 from 38% for the same period in 2021 primarily due to the aforementioned expenses. As a percentage of revenue, sales and marketing expense decreased to 44% for the nine months ended September 30, 2022 from 45% for the same period in 2021. The decrease as a percentage of revenue is primarily due to the increase in revenue during the period, slightly offset by the additional expenses noted above. General and Administrative Expense General and administrative expenses primarily consist of employee-related costs, and other direct costs associated with out personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for the three months ended September 30, 2022 increased 37% to $9.4 million from $6.8 million for the same period in 2021. The increase in general and administrative expense for the three months is primarily due to increased compensation and benefit expense related to headcount growth at ZMI and an increase in research and development expenses for ZMS. As a percentage of revenue, general and administrative expense increased to 23% for the three months ended September 30, 2022 from 20% for the same period in 2021. The increase as a percentage of revenue is primarily due to the items noted above, partially offset by the increase in revenue during the period. General and administrative expense for the nine months ended September 30, 2022 increased 40% to $26.0 million from $18.5 million for the same period in 2021. The increase in general and administrative expense for the nine months is primarily due to increased compensation and benefit expense related to increased salaries at ZMI, increases in rent and facilities expense as we moved our corporate headquarters during May 2021, research and development expenses for ZMS, and amortization of intangible assets acquired from the Kestrel acquisition in December 2021. As a percentage of revenue, general and administrative expense increased to 24% for the nine months ended September 30, 2022 from 21% for the same period in 2021. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by the increase in revenue during the period. 24 Table of Contents Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 23% for both the three and nine months ended September 30, 2022. Discrete items, primarily related to excess tax benefits related to stock option exercises, of $0.2 million and $(0.2) million for the three and nine months ended September 30, 2022, respectively, are recognized as a benefit against income tax expense. For the three and nine months ended September 30, 2022 the Company had an income tax expense of approximately $1.5 million and $2.9 million, respectively. The Company recorded income tax expense of $1.9 million and $2.5 million for the three and nine months ended September 30, 2021. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At September 30, 2022, our principal source of liquidity was $23.5 million in cash and $28.4 million in accounts receivable. Net cash provided by operating activities for the nine months ended September 30, 2022 was $9.0 million compared with net cash used in operating activities of $0.6 million for the nine months ended September 30, 2021. The increase in cash provided by operating activities for the nine months ended September 30, 2022 was primarily due to an increase in net income and the change in accounts receivable. The increase was partially offset by increased inventory due to our order growth and in-transit inventory. Net cash used in investing activities for the nine months ended September 30, 2022 and 2021 was $0.3 million and $0.4 million, respectively. Cash used in investing activities for the nine months ended September 30, 2022 was primarily related to leasehold improvements at our new facility related to the acquisition of Kestrel and the purchase of computer equipment. Cash used in investing activities for the nine months ended September 30, 2021 was primarily related to leasehold improvements at our new manufacturing and warehouse facilities. Net cash used in financing activities for the nine months ended September 30, 2022 was $27.7 million compared with net cash used in financing activities of $2.8 million for the same period in 2021. Net cash used in financing activities for the nine months ended September 30, 2022 was primarily due to purchases of treasury stock, payment of cash dividends in January 2022, and principal payments on long-term debt. Net cash used in financing activities for the nine months ended September 30, 2021 was primarily due to purchases of treasury stock. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash and cash equivalents balance at September 30, 2022 of $23.5 million; ● Our working capital balance of $47.6 million; and ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the consolidated financial statements located within our Annual Report on Form 10-K for the year ended December 31, 2021, filed with the Securities and Exchange Commission on March 22, 2022. 25 Table of Contents RISKS AND UNCERTAINTIES In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. While the Company did not incur significant disruptions to its operations during the three months ended September 30, 2022 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A. ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on such evaluation, our CEO and CFO have concluded that as of September 30, 2022, our disclosure controls and procedures are designed at a reasonable assurance level and are effective to provide reasonable assurance that information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission (“SEC”), and that such information is accumulated and communicated to our management, including our CEO and CFO, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures and internal control over financial reporting, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures and internal control over financial reporting must reflect the fact that there are resource constraints and that management is required to apply judgment in evaluating the benefits of possible controls and procedures relative to their costs. Changes in Internal Control Over Financial Reporting During the nine months ended September 30, 2022, there were no changes that materially affected or are reasonably likely to affect our internal control over financial reporting. 26 Table of Contents PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS As of the filing date of this Quarterly Report on Form 10-Q, there have been no material changes in the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2021, filed with the SEC on March 22, 2022. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities Total Number of In Thousands Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan July 1 - July 31, 2022 Share repurchase program (1) 10,000 $ 7.56 94,500 9,271 August 1 - August 31, 2022 Share repurchase program (1) 613,239 $ 9.38 707,739 3,520 September 1 - September 30, 2022 Share repurchase program (1) 364,212 $ 9.13 1,071,951 196 Quarter Total Share repurchase program (1) 987,451 $ 9.15 1,071,951 196 (1) Shares were purchased through the Company’s publicly announced share repurchase program approved by the Company’s Board of Directors on June 9, 2022. The program expires at the earlier of June 9, 2023 or reaching $10.0 million of repurchases. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION None. 27 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1** Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB * XBRL Taxonomy Label Linkbase Document 101.PRE * XBRL Presentation Linkbase Document 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith ** Furnished herewith 28 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat October 27, 2022 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 29 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-K (Mark One) ☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the year ended December 31, 2022 ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 ZYNEX, INC. (Exact name of registrant as specified in its charter) Nevada 90-0275169 (State or other jurisdiction of incorporation or organization) (IRS Employer Identification No.) 9655 Maroon Circle , Englewood , CO 80112 (Address of principal executive offices) (Zip Code) Registrant’s telephone number, including area co ( 303 ) 703-4906 Securities registered pursuant to Section 12(b) of the Ac Title of each class Ticker symbol(s) Name of each exchange on which registered Common Stock, $0.001 par value per share ZYXI The Nasdaq Stock Market LLC Securities registered pursuant to Section 12(g) of the Ac Title of each class Common Stock, $0.001 par value Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. ☐ Yes ☒ No Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. ☐ Yes ☒ No Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. ☒ Yes ☐ No Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). ☒ Yes ☐ No Indicate by check mark whether the registrant is a large, accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large, accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large, accelerated filer ☐ Accelerated filer ☒ Non-accelerated filer ☐ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ☒ If securities are registered pursuant to Section 12(b) of the Act, indicate by check mark whether the financial statements of the registrant included in the filing reflect the correction of an error to previously issued financial statements. ☐ Indicate by check mark whether any of those error corrections are restatements that required a recovery analysis of incentive-based compensation received by any of the registrant’s executive officers during the relevant recovery period pursuant to §240.10D-1(b). ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). ☐ Yes ☒ No The aggregate market value of the registrant’s common stock held by non-affiliates of the registrant as of June 30, 2022, the last business day of the Registrant’s last completed second quarter, based upon the closing price of the common stock as reported by the Nasdaq Stock Market on such date was approximately $ 175.2 million. As of March 13, 2023, 41,531,169 shares of common stock are issued and 36,634,459 shares are outstanding. Documents incorporated by referen Portions of the Registrant’s definitive proxy statement relating to its 2023 annual meeting of stockholders (the “ Proxy Statement”) are incorporated by reference into Part III of this Annual Report on Form 10-K where indicated. The Proxy Statement will be filed with the U.S. Securities and Exchange Commission within 120 days after the end of the fiscal year to which this report relates. Table of Contents TABLE OF CONTENTS ZYNEX, INC. ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 2022 Page PART I 2 Item 1. Business 2 Item 1A. Risk Factors 11 Item 1B. Unresolved Staff Comments 28 Item 2. Properties 28 Item 3. Legal Proceedings 29 Item 4. Mine Safety Disclosures 29 PART II 30 Item 5. Market For Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 30 Item 6. [R eserved] 31 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations 31 Item 7A. Quantitative and Qualitative Disclosures About Market Risk 40 Item 8. Financial Statements and Supplementary Data 40 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures 40 Item 9A. Controls and Procedures 41 Item 9B. Other Information 42 Item 9C. Disclosure Regrading Foreign Jurisdictions that Prevent Inspections 42 PART III 43 Item 10. Directors, Executive Officers and Corporate Governance 43 Item 11. Executive Compensation 43 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 43 Item 13. Certain Relationships and Related Transactions, and Director Independence 44 Item 14. Principal Accounting Fees and Services 44 PART IV 45 Item 15. Exhibits, Financial Statement Schedules 45 Item 16. Form 10-K Summary 47 Signatures 48 Table of Contents CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION This report includes statements of our expectations, intentions, plans, and beliefs that constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Nonetheless, it is important for an investor to understand that these statements involve risks and uncertainties. These statements relate to the discussion of our business strategies and our expectations concerning future operations, margins, profitability, liquidity, and capital resources and to analyses and other information that are based on forecasts of future results and estimates of amounts not yet determinable. We have used words such as “may,” “will,” “should,” “expect,” “intend,” “plan,” “anticipate,” “believe,” “think,” “estimate,” “seek,” “expect,” “predict,” “could,” “project,” “potential,” and other similar terms and phrases, including references to assumptions, in this report to identify forward-looking statements. These forward-looking statements are made based on expectations and beliefs concerning future events affecting us and are subject to uncertainties, risks and factors relating to our operations and business environment, all of which are difficult to predict and many of which are beyond our control, that could cause our actual results to differ materially from those matters expressed or implied by these forward-looking statements. Such risks and other factors also include those listed in Item 1A. “Risk Factors” and elsewhere in this report and our other filings with the Securities and Exchange Commission. When considering these forward-looking statements, you should keep in mind the cautionary statements in this report and the documents incorporated by reference. New risks and uncertainties arise from time to time, and we cannot predict those events or how they may affect us. We assume no obligation to update any forward-looking statements after the date of this report as a result of new information, future events or developments, except as required by applicable laws and regulations. When used in this annual report, the terms the “Company,” “Zynex”, “we,” “us,” “ours,” and similar terms refer to Zynex, Inc., a Nevada corporation, and its subsidiaries, Zynex Medical, Inc., Zynex NeuroDiagnostics, Inc., Zynex Monitoring Solutions Inc., Kestrel Labs, Inc., Zynex Europe ApS, and Pharmazy, Inc. As of the date of this annual report, our only operating subsidiary is Zynex Medical, Inc. (“ZMI”). Zynex Monitoring Solutions, Inc. (“ZMS”) has developed its fluid monitoring system product as described below. 1 Table of Contents PART I ITEM 1. BUSINESS History Zynex, Inc. was founded by Thomas Sandgaard in 1996, when he founded two privately held companies that eventually were folded into Zynex, Inc. Zynex, Inc., a Nevada corporation, is the parent company of six active and inactive subsidiaries. As of December 31, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Kestrel Labs, Inc. (“Kestrel,” a wholly-owned Colorado corporation), Zynex Europe (“ZEU,” a wholly-owned Colorado corporation), Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation), and Pharmazy, Inc. (“Pharmazy,” a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO™ CO-Oximeter, a noninvasive multi-parameter pulse oximeter, and HemeOx™, a noninvasive total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. ZMS has developed the CM-1500 monitoring system (“CM-1500”) which was granted 510(k) clearance in February 2020 by the FDA in the United States of America. ZMS filed a 510(k) application for the CM-1600 in December 2021, its next generation wireless monitoring system (“CM-1600”) and is continuing to work with the FDA on obtaining clearance. ZMS has achieved no revenues to date. Substantially all of the Company’s consolidated revenue in 2022 and 2021 is attributable to ZMI. Our headquarters are located in Englewood, Colorado. Active Subsidiaries Zynex Medical, Inc. (ZMI): ZMI designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All of our medical devices are designed to be patient friendly and designed for home use. Our devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of our medical devices are marketed in the U.S. and are subject to FDA regulation and clearance. Our products require a physician’s prescription before they can be dispensed in the U.S. Our primary product is the NexWave device. The NexWave is marketed to physicians and therapists by our field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. ZMI distributes complementary products such as lumbar support, cervical traction, knee bracing, and hot/cold therapy. These complement our pain management products and are critical for physicians and therapists. These products require a prescription and are covered by most insurance plans and Medicare. ZMI designs, manufactures, and markets the NeuroMove product. The NeuroMove contains electromyography and electric stimulation technology that is primarily used for stroke, spinal cord and traumatic brain injury rehabilitation (“SCI”), by reaching parts of the brain to re-connect with muscles, also known as neuroplasticity. The NeuroMove product is primarily marketed to medical clinics. Zynex did not have material sales of this product in 2022 or 2021. ZMI also designs, manufactures, and markets the InWave product, an in-home electrical stimulation device used to treat female urinary incontinence. The device requires a prescription and is covered by most insurance plans and Medicare. Zynex did not have material sales of this product in 2022 or 2021. 2 Table of Contents Zynex Monitoring Solutions (ZMS): ZMS was formed in 2011 to develop and market medical devices for non-invasive patient monitoring beginning with our Zynex Monitoring System. The monitor is a non-invasive medical device for monitoring relative fluid volume changes used in operating and recovery rooms to detect fluid loss during surgery and internal bleeding during recovery. The CM-1500 received 510(k) clearance from the FDA in February 2020. The Zynex Monitoring System has been tested in several Institutional Review Board (“IRB”) approved clinical studies, both in well-controlled healthy volunteer settings as well as in clinical use environments. In 2022, the clinical trials were expanded to include the next generation CM-1600. Enrollment was completed in the apheresis blood donation study with Vitalant Research Institute (the research arm of Vitalant, the nation’s largest independent, nonprofit blood services provider) to track changes in the device’s patented Relative Index (“RI”) during apheresis blood donation procedures. Multiple studies were also completed at Yale University where volunteer study subjects underwent simulated hemorrhage using a lower body negative pressure chamber while wearing the device. Finally, enrollment was initiated in a large-scale multi-site study to measure the sensitivity and specificity of the CM-1600 at detecting minor blood loss, which is anticipated to finish recruitment and data collection in the first half of 2023. We have built a number of commercial devices in pilot-production and continue to refine the algorithms for the patented Relative Index. We have received two U.S. utility patents for this unique application, the first in the fourth quarter of 2018 and the second in the first quarter of 2021, and we believe this product could serve a currently unmet need in the market for safer surgeries and safer monitoring of patients during recovery. In addition to FDA clearance, we are pursuing European Union (“EU”) Certificate European (“CE”) Marking. CE Marking is a certification that a product meets the standards established by the 27 nations of the EU and qualifies for sale in the EU and 4-nation European Free Trade Association. In early 2022, the integration of Kestrel and their pulse oximetry products into the ZMS organization was completed. Pulse oximetry is a commonly used noninvasive monitoring method for estimation of oxygen saturation in arterial blood. The inaccuracies of traditional Light Emitting Diode (“LED”)-based pulse oximeters have recently been highlighted specific to skin pigmentation bias and the inability to accurately measure blood oxygen levels in the presence of other conditions such as in cases of carbon monoxide poisoning or methemoglobinemia. ZMS’s investigational laser-based products are designed to address these inaccuracies and include the novel NiCO™ CO-Oximeter, and HemeOx™, a total hemoglobin oximeter that is designed to enable continuous noninvasive arterial blood monitoring. NiCO is anticipated to be submitted to the FDA for clearance in the third quarter of 2023. As ZMS’ products are still in development, ZMS did not produce any revenue for the years ending December 31, 2022 and 2021. In addition to the fluid volume monitor, ZMS filed for a provisional patent for a non-invasive sepsis monitor in December 2020 and an updated utility patent filed in December 2021. SALES AND GROWTH STRATEGIES To date, ZMI accounts for substantially all of our revenue and profit. We are focused on expanding our sales force to address what we believe is an untapped market for electrotherapy products for pain management which has become more attractive due to large competitors exiting the market. As of December 31, 2022, we had approximately 450 field sales representatives on staff or in the hiring process. We continue to hire field sales representatives at a rapid rate, focusing on the quality of each candidate with the goal of having approximately 500-600 sales representatives in the U.S. by the end of 2023. We will be focused on increasing performance management standards for our sales force. In an effort to increase revenue and diversification in order to provide our prescribers and patients with diverse solutions for their pain management needs, we are continually adding new complementary products to our ZMI sales channel, such as our hot/cold therapy, cervical traction, knee braces and LSO back braces. In addition, in March 2020 we introduced a full catalog of over 3,300 physical therapy products to promote in the clinics which we serve. We believe adding these complementary products will increase our market share in the marketplace and, in the future, grow our core business by providing our electrotherapy patients additional non-pharmacological pain relief and complementary products to our manufactured devices. 3 Table of Contents Distribution and Revenue Streams: Currently, substantially all of our revenue is generated through our ZMI subsidiary from our electrotherapy products. We sell through a direct sales force in United States. Our field sales representatives are engaged to sell in predefined geographic markets and are compensated with a base salary and incentives based on the type of product sold and insurance. Our efforts to date have been focused on the United States market. Our revenue is derived from several sources including patients with insurance plans held by commercial health insurance carriers or government payers who pay on behalf of their insureds. The remaining portion of revenue is primarily received from workers’ compensation claims and attorneys representing injured patients, hospitals, clinics and private-pay individuals. A large part of our revenue is recurring. Recurring revenue results primarily from the sale of surface electrodes and batteries sent to existing patients with our units. Electrodes and batteries are consumable items that are considered an integral part of our products. Private Labeled Distributed Products In addition to our own products, we distribute, through our sales force, a number of private labeled supplies and complementary products from other domestic manufacturers. These products generally include patient consumables, such as electrodes and batteries plus cervical traction, lumbar support, knee braces and hot/cold therapy. Customarily, there are no formal contracts between vendors in the durable medical equipment industry. Replacement products and components are easily found, either from our own products or other manufacturers, and purchases are made by purchase order. Products We currently market and sell Zynex-manufactured products and distribute complementary products and private labeled supplies for Zynex products, as indicated be Product Name Description Zynex Medical Products NexWave Dual channel, multi-modality IFC, TENS, NMES device NeuroMove Electromyography (EMG) — triggered electrical stimulation device InWave Electrical stimulation for treatment of female urinary incontinence E-Wave NMES device Private Labeled Supplies Electrodes Supplies, re-usable for delivery of electrical current to the body Batteries Supplies, for use in electrotherapy products Distributed Complementary Products Comfortrac/Saunders Cervical traction JetStream Hot/cold therapy LSO Back Braces Lumbar support 4 Table of Contents Knee Braces Knee support Zynex Monitoring Solutions Products (Products in Development, Not Yet Available for Sale) CM-1500 Zynex Fluid Monitoring System CM-1600 Zynex Wireless Fluid Monitoring System – Submitted to the FDA, December 2021, not yet FDA cleared. NiCO CO-Oximeter Laser-based Noninvasive CO-Oximeter (Not yet FDA cleared) HemeOx tHb Oximeter Laser-based Total Hemoglobin Pulse Oximeter (Not yet FDA cleared) Product Uses Pain Management and Control Standard electrotherapy is a clinically proven and medically accepted alternative to manage acute and chronic pain. Electrical stimulation has been shown to reduce most types of local pain, such as tennis elbow, neck or lower back pain, arthritis, and others. The devices used to accomplish this are commonly described as the TENS family of devices. Electrotherapy is not known to have any negative side effects, a significant advantage over most pain relief medications. The benefits of electrotherapy can inclu pain relief, increased blood flow, reduced edema, prevention of venous thrombosis, increased range-of-motion, prevention of muscle disuse atrophy, and reduced urinary incontinence. Electrotherapy introduces an electrical current applied through surface electrodes. The electrical current “distorts” a pain signal on its way to the central nervous system and the brain, thus reducing the pain. Additionally, by applying higher levels of electricity, muscles contract and such contraction is believed to assist in the benefits mentioned above. Numerous clinical studies have been published over several decades showing the effectiveness of IFC and TENS for pain relief. Our primary electrotherapy device, the NexWave, has received FDA 510(k) clearance. The NexWave is a digital IFC, TENS and NMES device that delivers pain-alleviating electrotherapy. Stroke and Spinal Cord Injury Rehabilitation Our proprietary NeuroMove product is a Class II medical device that has been cleared by the FDA for stroke rehabilitation. Stroke and SCI usually affect a survivor’s mobility, functionality, speech, and memory, and the NeuroMove is designed to help the survivor regain movement and functionality. Sales of NeuroMove did not generate material revenue for the years ended December 31, 2022 and 2021. Hemodynamic Monitoring Hemodynamic monitoring is the process of measuring the blood flow and pressure exerted in the heart, veins, and arteries. It provides an assessment of a patient’s circulatory status and their ability to assure cardiac output and oxygen delivery to the body. Maintaining effective circulating blood volume and pressure are key to assuring adequate oxygen saturation and perfusion. Hemodynamic monitoring devices have been historically classified as, (a) invasive, using a central or pulmonary artery catheter, (b) minimally invasive, with the placement of an arterial line, and (c) noninvasive, where no device is inserted into the body for clinical assessment. 5 Table of Contents The Zynex Fluid Monitoring System CM-1500 and the Zynex Wireless Fluid Monitoring System CM-1600 are noninvasive monitoring devices designed to measure relative changes in fluid volume in adult patients. Fluid status is determined using Zynex’s proprietary algorithm and expressed as the patented Relative Index™, a simple value designed to accurately trend patient vital signs and alert clinicians for early intervention. The CM-1500 was cleared by the FDA in 2020. The CM-1600 has been submitted to the FDA and is pending clearance. Pulse Oximetry Monitoring Pulse oximetry is a noninvasive method of measuring the oxygen saturation level (“SpO2”) of arterial blood. As one of the most common medical devices used in and out of hospitals around the world, pulse oximeters have gained widespread clinical acceptance as the standard of care for monitoring oxygen saturation. SpO2 has become the “fifth vital sign”, which, together with heart rate, blood pressure, respiratory rate, and temperature, provides crucial clinical information about a person’s health status. The NiCO™ Noninvasive CO-Oximeter, the first laser-based photoplethysmographic patient monitoring technology, is designed to noninvasively measure and monitor four crucial species of hemoglobin with unprecedented accuracy. The HemeOx™ Total Hemoglobin Pulse Oximeter is designed to noninvasively measure total hemoglobin and oxygen saturation, two critical parameters that typically require invasive arterial blood sampling for measurement. Total hemoglobin is a very commonly ordered blood test in healthcare, and HemeOx™ measures it with the continuous and noninvasive ease of a pulse oximeter at the patient bedside. The NiCO™ Noninvasive CO-Oximeter and the HemeOx™ Total Hemoglobin Pulse Oximeter have not yet been cleared by the FDA. MARKETS Zynex Medical (ZMI): To date, the majority of our revenue has been generated by our ZMI electrotherapy products and private labeled supplies. Thus, we primarily compete in the home electrotherapy market for pain management, with products based on IFC, TENS and NMES devices and consumable supplies. We estimate the annual domestic market for home electrotherapy products at approximately $500 million to $1 billion. During 2022 and 2021, we maintained our sales force of approximately 450 direct sales representatives to address what we believe is an underserved electrotherapy market. The current opioid epidemic has been declared a health emergency, and we are uniquely positioned to help reduce the amount of opioids prescribed for treatment of chronic and acute pain symptoms. We are committed to providing health care professionals with alternatives to traditional opioid based treatment programs with our prescription-strength products which have no side effects. This has never been more necessary than it is today considering the staggering statistics. ● Pain impacts the lives of more Americans than diabetes, heart disease, and cancer combined. ● Pain is the leading cause of disability, and seeking treatment for chronic or acute pain is the most common reason American’s seek health care. Approximately 50 million Americans suffer from chronic pain. ● Nearly 20 million Americans experienced high-impact chronic pain, defined as “limiting life or work activities on most days or every day”, in the past 3 months. ● If pharmaceuticals such as opioids continue to be used as the first line of defense, America will continue to see a rise in opioid misuse, addiction and drug-related deaths. We also distribute complementary products such as JetStream Hot/Cold Therapy, Knee bracing, LSO Back bracing and Comfortrac and Saunders cervical and lumbar traction units, all products targeted at treating acute as well as chronic pain with minimal side-effects. 6 Table of Contents Key characteristics of our electrotherapy market ● Collection cycles of initial payment from insurance carriers can range from less than 30 days to many months and considerably longer for many attorney, personal injury, and workers’ compensation cases. Such delayed payment impacts our cash flow and can slow our growth or strain our liquidity. Collections are also impacted by whether effective billing submissions are made by our billing and collections department to the third-party payers. ● Prior to payment, third-party payers often make or take significant payment adjustments or discounts. This can also lead to denials and billing disputes with third-party payers. ● The majority of our revenue is generated by the sale of medical devices and from recurring patient supplies, specifically from our electrotherapy products sold through ZMI. We are reliant on third-party payer reimbursement. Zynex Monitoring Solutions (ZMS): ZMS is focused on developing products within the non-invasive multi-parameter patient-monitoring marketplace. ZMS is currently focusing on its fluid monitoring system, the sepsis monitor and the pulse oximetry products acquired in its acquisition of Kestrel. We believe our products, once released into the marketplace (of which there can be no guarantee), will compete against multiple competitors, ranging from large manufacturers with multiple business lines to small manufacturers that offer a limited range of products. ZMS has not generated any revenue. Competition Since we are in the market for medical electrotherapy products, we face a mixture of competitors ranging from large manufacturers with multiple business lines to small manufacturers that offer a limited selection of products. Our principal competitors include International Rehabilitative Sciences, Inc. d/b/a RS Medical, EMSI, and H-Wave. In addition, we face competition from providers of alternative medical therapies, such as pharmaceutical companies. RESOURCES Manufacturing and Product Assembly Our manufacturing and product assembly strategy consists of the following elements: ● Compliance with relevant legal and regulatory requirements. ● Use of contract manufacturers as needed, thereby allowing us to quickly respond to changes in volume and avoid large capital investments for assembly and manufacturing equipment of certain product components. We believe there is a large pool of highly qualified contract manufacturers, domestically and internationally, for the type of manufacturing assistance needed for our manufactured devices. ● Utilization of in-house final assembly and test capabilities. ● Development of proprietary software and hardware for all products in house. ● Testing all units in a real-life, in-house environment to help ensure the highest possible quality and patient safety while reducing the cost of warranty repairs. 7 Table of Contents We utilize contract manufacturers located in the U.S. to manufacture components for our NexWave and NeuroMove units and for some of our other products and assemble in-house for our NexWave and NeuroMove units. We do not have long-term supply agreements with our contract manufacturers, but we utilize purchase orders with agreed upon terms for our ongoing needs. We believe there are numerous suppliers that can manufacture our products and provide our required raw materials. Generally, we have been able to obtain adequate supplies of our required raw materials and components. We are always evaluating our suppliers for price, quality, delivery time and service. The reduction or interruption in supply, and an inability to develop alternative sources for such supply, could adversely affect our operations. Intellectual Property Zynex is committed to aggressively protecting the intellectual property rights the Company has worked so hard to obtain and to expand our intellectual property portfolio for advances to our existing products and for new products as they are developed. Zynex has received two U.S. utility patents, as well as a utility patent in Europe, for our fluid monitoring system. The acquisition of Kestrel Labs, Inc. by Zynex Inc. included an intellectual property portfolio surrounding the acquired laser-based photoplethysmographic technology. This expands both the size and scope of Zynex’s intellectual property portfolio to include key aspects of the exciting pulse oximetry market. Zynex is trademarked in the U.S. We utilize non-disclosure and trade secret agreements with employees and third parties to protect our proprietary information. GOVERNMENT REGULATION US Food and Drug Administration (FDA) All of our ZMI products are classified as Class II (Medium Risk) devices by the FDA, and clinical studies with our products are considered to be NSR (Non-Significant Risk Studies). Our business is regulated by the FDA, and all products typically require 510(k) market clearance before they can be put into commercial distribution. Section 510(k) of the Federal Food, Drug and Cosmetic Act, is available in certain instances for Class II devices. It requires that before introducing most Class II devices into interstate commerce, the sponsor must first submit information to the FDA demonstrating that the device is substantially equivalent in terms of safety and effectiveness to a device legally marketed prior to March 1976 or to devices that have been reclassified in accordance with the provisions of the Federal Food, Drug, and Cosmetic Act that do not require approval of a premarket approval application. When the FDA determines that the device is substantially equivalent, the agency issues a “clearance” letter that authorizes marketing of the product. We are also regulated by the FDA’s Quality System Regulation (QSR), which sets forth current Good Manufacturing Practice (GMP) requirements for devices. We believe that our products have obtained or are good candidates for the requisite FDA clearance or are exempt from the FDA clearance process. In November 2001, Zynex received FDA 510(k) clearance to market NeuroMove. In September 2011, Zynex received FDA 510(k) clearance to market the NexWave, our current generation IFC, TENS and NMES device. In August 2012, Zynex received FDA 510(k) clearance to market the InWave, our next generation muscle stimulator for treatment of female incontinence. Failure to comply with FDA requirements could adversely affect us. International Zynex continues to explore opportunities to gain regulatory clearance for its devices in markets outside of the U.S. CE marking is the medical device manufacturer’s claim that a product meets the essential requirements of all relevant European Medical Device Directives. The CE mark is a legal requirement to place a device on the market in the EU. Zynex is currently in the process of applying for CE marking on several of its electrotherapy devices and its CM-1500 Zynex Fluid Monitoring System. We comply with applicable regulatory requirements within the markets in which we currently sell. If and when we decide to enter additional geographic areas, we intend to comply with applicable regulatory requirements within those markets. 8 Table of Contents Zynex has received ISO13485: 2016 certification for its compliance with international standards in quality management systems for design, development, manufacturing and distribution of medical devices. This certification is not only important as assurance that we have the appropriate quality systems in place but is also crucial to our international expansion efforts as many countries require this certification as part of their regulatory approval. Government Regulation The delivery of health care services and products has become one of the most highly regulated professional and business endeavors in the United States. Both the federal government and individual state governments are responsible for overseeing the activities of individuals and businesses engaged in the delivery of health care services and products. Federal law and regulations are based primarily upon the Medicare and Medicaid programs. Each program is financed, at least in part, with federal funds. State jurisdiction is based upon the state’s interest in regulating the quality of health care in the state, regardless of the source of payment. Many state and local jurisdictions impose additional legal and regulatory requirements on our business including various states and local licenses, taxes, limitations regarding insurance claim submission and limitations on relationships with referral parties. Failure to comply with this myriad of regulations in a particular jurisdiction may subject us to fines or other penalties, including the inability to sell our products in certain jurisdictions. Federal health care laws apply to us when we submit a claim to any other federally funded health care program, in addition to requirements to meet government standards. The principal federal laws that we must abide by in these situations inclu ● Those that prohibit the filing of false or improper claims for federal payment. ● Those that prohibit unlawful inducements for the referral of business reimbursable under federally funded health care programs. The federal government may impose criminal, civil and administrative penalties on anyone who files a false claim for reimbursement from federally funded programs. A federal law commonly known as the “anti-kickback law” prohibits the knowing or willful solicitation, receipt, offer or payment of any remuneration made in return ● The referral of patients covered under federally-funded health care programs; or ● The purchasing, leasing, ordering, or arranging for any goods, facility, items or service reimbursable under those programs. Healthcare Regulation Federal and state healthcare laws, including fraud and abuse and health information privacy and security laws, also apply to our business. If we fail to comply with those laws, we could face substantial penalties and our business, results of operations, financial condition and prospects could be adversely affected. The laws that may affect our ability to operate include but are not limited t the federal Anti-Kickback Statute, which prohibits. among other things, soliciting, receiving, offering or paying remuneration, directly or indirectly, to induce, or in return for, the purchase or recommendation of an item or service reimbursable under a federal healthcare program, such as the Medicare and Medicaid programs; and federal civil and criminal false claims laws and civil monetary penalty laws, which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid, or other third-party payers that are false or fraudulent. Additionally, we are subject to state law equivalents of each of the above federal laws, which may be broader in scope and apply regardless of whether the payer is a federal healthcare program, and many of which differ from each other in significant ways and may not have the same effect, further complicate compliance efforts. Numerous federal and state laws, including state security breach notification laws, state health information privacy laws and federal and state consumer protection laws, govern the collection, use and disclosure of personal information. In addition, most healthcare providers who are expected to prescribe our products and from whom we obtain patient health information, are subject to privacy and security requirements under the Health Insurance Portability and Accountability Act of 1996, as amended by the Health Information Technology and Clinical Health Act, or HIPAA. We could be subject to criminal penalties if we knowingly obtain individually 9 Table of Contents identifiable health information from a HIPAA-covered entity, including healthcare providers, in a manner that is not authorized or permitted by HIPAA. The legislative and regulatory landscape for privacy and data protection continues to evolve, and there has been an increasing amount of focus on privacy and data protection issues with the potential to affect our business, including recently enacted laws in a majority of states requiring security breach notification. These laws could create liability for us or increase our cost of doing business. In addition, the Physician Payments Sunshine Act, enacted as part of the Patient Protection and Affordable Care Act of 2010, or the ACA, created a federal requirement under the federal Open Payments program, that requires certain manufacturers to track and report to the Centers for Medicare and Medicaid Services, or CMS, annually certain payments and other transfers of value provided to physicians and certain advanced non-physician health care practitioners and teaching hospitals made in the previous calendar year, as well as ownership and investment interests held by physicians and their immediate family members. In addition, there are also an increasing number of state laws that require manufacturers to make reports to states on pricing and marketing information. These laws may affect our sales, marketing, and other promotional activities by imposing administrative and compliance burdens on us. In addition, given the lack of clarity with respect to these laws and their implementation, our reporting actions could be subject to the penalty provisions of the pertinent state and federal authorities. Research and Development During 2022 and 2021, we incurred approximately $7.1 million and $2.6 million in expenses, respectively, related to our ZMS operations. During 2022, approximately $1.0 million of the expenses qualified for Section 174 - “Amortization of Research and Experimental Expenditures” tax treatment. We expect our research and development expenses to increase in 2023 as our ZMS business expands. HUMAN CAPITAL As of December 31, 2022, we employed approximately 900 full time employees. Our employees are our most important assets and set the foundation for our ability to achieve our strategic objectives. All of our employees contribute to our success and, in particular, our sales representatives are instrumental in our ability to reach more patients in pain. The success and growth of our business depends in large part on our ability to attract, retain and develop a diverse population of talented and high-performing employees at all levels of our organization. To succeed in a competitive labor market, we have developed recruitment and retention strategies, objectives and measures that we focus on as part of the overall management of our business. These strategies, objectives and measures form our human capital management framework and are advanced through the following programs, policies and initiativ ● Competitive pay and benefits. Our compensation programs are designed to align the compensation of our employees with our performance and to provide the proper incentives to attract, retain, and motivate employees to achieve superior results. ● Training and development. We invest in learning opportunities that foster a growth mindset. Our formal offerings include a tuition reimbursement program, an e-learning program that all corporate employees have access to and in-house learning opportunities through the Company’s Zynex Growth and Development program. ● Health and Wellness. We invest in the health and wellness of our employees by offering monthly benefits and offer programs and support to assist our employees. 10 Table of Contents ITEM 1A. RISK FACTORS RISKS RELATED TO OUR BUSINESS AND THE INDUSTRY IN WHICH WE OPERATE Unfavorable global economic conditions could adversely affect our business, financial condition or results of operations. Our results of operations could be adversely affected by general conditions in the global economy and in the global financial markets, including conditions that are outside of our control, such as the impact of health and safety concerns, including SARS-CoV-2 (severe acute respiratory syndrome coronavirus 2) (“ COVID -19”) pandemic and various variants, as well as the recent inflation in the United States, foreign and domestic government sanctions imposed on Russia as a result of its recent invasion of Ukraine, and other disruptions to global supply chains. Each of these events has caused or may continue to result in extreme volatility and disruptions in the capital and credit markets. A severe or prolonged economic downturn, whether due to inflationary pressures or otherwise, could result in a variety of risks to our business, including weakened demand for our products and our ability to raise additional capital when needed on acceptable terms, if at all. A weak or declining economy could strain our suppliers, possibly resulting in supply disruption, or cause delays in payments for our services by third-party payors or our collaborators. Any of the foregoing could harm our business and we cannot anticipate all the ways in which the current economic climate and financial market conditions could adversely impact our business. A pandemic, epidemic, or outbreak of an infectious disease, such as of COVID-19 and subsequent variants, may materially and adversely affect our business and results of operations. Public health crises such as pandemics or similar outbreaks could adversely impact our business. In 2019, COVID-19 surfaced in Wuhan, China and has since spread worldwide. The COVID -19 pandemic is evolving, and to date has led to the implementation of various responses, including government-imposed quarantines, travel restrictions and other public health safety measures. The effects of this outbreak on our business have included and could continue to include temporary closures of our providers and clinics and suspensions of elective surgical procedures. This has and could continue to impact our interactions and relationships with our customers. 11 Table of Contents In addition to temporary closures of the providers and clinics that we serve, we could also experience temporary closures of the facilities of our suppliers, contract manufacturers, or other vendors in our supply chain, which could impact our business, interactions and relationships with our third-party suppliers and contractors, and results of operations. The extent to which COVID-19 will impact our future business and the economy, will also depend on future developments, which are highly uncertain and cannot be predicted with confidence, including the duration of the pandemic, adverse impacts of the Omicron COVID-19 variant or other COVID-19 variants, new information that will emerge concerning the severity of COVID-19 and the actions to contain COVID-19 or treat its impact, among others. Accordingly, we cannot predict the extent to which our financial condition, results of operations and value of our common stock will be affected. The uncertainty surrounding the COVID-19 outbreak has caused the Company to increase its inventory in anticipation of possible supply chain shortages related to the COVID-19 virus. While we did not incur significant disruptions to our operations during 2021 and 2022, we are unable at this time to predict with confidence the impact that COVID-19 will have on our business, financial position and operating results in future periods due to numerous uncertainties. Rapid technological change could cause our products to become obsolete and if we do not enhance our product offerings through our research and development efforts, we may be unable to effectively compete. The technologies underlying our products are subject to rapid and profound technological change. Competition intensifies as technical advances in each field are made and become more widely known. We can give no assurance that others will not develop services, products, or processes with significant advantages over the products, services, and processes that we offer or are seeking to develop. Any such occurrence could have a material and adverse effect on our business, results of operations and financial condition. We plan to enhance and broaden our product offerings in response to changing customer demands and competitive pressure and technologies, but we may not be successful. The success of any new product offering or enhancement to an existing product will depend on numerous factors, including our ability t ● properly identify and anticipate physician and patient needs; ● develop and introduce new products or product enhancements in a timely manner; ● adequately protect our intellectual property and avoid infringing upon the intellectual property rights of third parties; ● demonstrate the safety and efficacy of new products, including through the conduct of additional clinical trials; ● obtain the necessary regulatory clearances or approvals for new products or product enhancements; and ● achieve adequate coverage and reimbursement for our products. If we do not develop and, when necessary, obtain regulatory clearance or approval for new products or product enhancements in time to meet market demand, or if there is insufficient demand for these products or enhancements, our results of operations will suffer. Our research and development efforts may require a substantial investment of time and resources before we are adequately able to determine the commercial viability of a new product, technology, material or other innovation. In addition, even if we are able to successfully develop enhancements or new generations of our products, these enhancements or new generations of products may not be covered or reimbursed by government healthcare programs such as Medicare or private health plans, may not produce sales in excess of the costs of development and/or may be quickly rendered obsolete by changing customer preferences or the introduction by our competitors of products embodying new technologies or features. 12 Table of Contents We are dependent on reimbursement from third-party payers, most of whom are larger than we are and have substantially more employees and financial resources; changes in insurance reimbursement policies or application of them have resulted in decreased or delayed revenues. A large percentage of our revenues come from third-party payer reimbursement. Most of the third-party payers are large insurance companies with substantially more resources than we have. Upon delivery of our products to our patients, we directly bill the patients’ private insurance companies or government payers for reimbursement. If the third-party payers do not remit payment on a timely basis or if they change their policies to exclude or reduce coverage for our products, we would experience a decline in our revenue as well as cash flow. In addition, we may deliver products to patients and invoice based on past practices and billing experiences only to have third-party payers later deny coverage for such products. In some cases, our delivered product may not be covered pursuant to a policy statement of a third-party payer, despite a payment history with the third-party payer and benefits to the patients. A third-party payer may seek repayment of amounts previously paid for covered products. We maintain an allowance for provider discounts and amounts intended to cover legitimate requests for repayment. Failure to adequately identify and provide for amounts for resolution of repayment demands in our allowance for provider discounts could have a material adverse effect on our results of operations and cash flows. For government health care programs, if we identify a deficiency in prior claims or practices, we may be required to repay amounts previously reimbursed to us by government health care programs. We frequently receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients, and other times include a significant number of refund claims in a single request which can accumulate to a significant amount. We review and evaluate these requests and determine if any refund is appropriate. During the adjudication process we review claims where we are rebilling or pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests, we are generally unable to determine if a refund request is valid. Although we cannot predict whether or when a request for repayment or our subsequent request for reimbursement will be resolved, it is not unusual for such matters to be unresolved for a long period of time. No assurances can be given with respect to our estimates for our allowance for provider discounts refund claim reimbursements and offsets or the ultimate outcome of the refund requests. We are dependent on our Medicare Supplier Number. We are required to have a Medicare Supplier Number in order to have the ability to bill Medicare for services provided to Medicare patients. Furthermore, all third-party and Medicaid contracts require us to have a Medicare Supplier Number. We are required to comply with Medicare DMEPOS Supplier Standards in order to maintain such number. If we are unable to comply with the relevant standards, we could lose our Medicare Supplier Number. Without such number, we would be unable to continue our various third-party and Medicaid contracts. A significant portion of our revenues are dependent upon our Medicare Supplier Number, the loss of which would materially and adversely affect our business, financial condition, results of operations and cash flows. The Center for Medicare and Medicaid Services (“CMS”) requires that all Durable Medical Equipment providers must be accredited by a CMS-approved accreditation organization. On February 1, 2013, we initially received accreditation from the Accreditation Commission for Health Care (“ACHC”), and we have remained accredited to date. If we lost our accredited status, our business, financial condition, revenues and results of operations would be materially and adversely affected. 13 Table of Contents We face periodic reviews and billing audits from governmental and private payers, and these audits could have adverse results that may negatively impact our business. As a result of our participation in the Medicaid program and our registration in the Medicare program, we are subject to various governmental reviews and audits to verify our compliance with these programs and applicable laws and regulations. We also are subject to audits under various government programs in which third-party firms engaged by CMS conduct extensive reviews of claims data and medical and other records to identify potential improper payments under the Medicare program. Private pay sources also reserve the right to conduct audits. If billing errors are identified in the sample of reviewed claims, the billing error can be extrapolated to all claims filed which could result in a larger overpayment than originally identified in the sample of reviewed claims. Our costs to respond to and defend reviews and audits may be significant and could have a material adverse effect on our business, financial condition, results of operations and cash flows. Moreover, an adverse review or audit could result in: ● required refunding or retroactive adjustment of amounts we have been paid by governmental or private payers; ● state or Federal agencies imposing fines, penalties and other sanctions on us; ● loss of our right to participate in the Medicare program, state programs, or one or more private payer networks; or ● damage to our business and reputation in various markets. Any one of these results could have a material adverse effect on our business, financial condition, results of operations and cash flows. Failure to secure and maintain adequate coverage and reimbursement from third-party payers could adversely affect acceptance of our products and reduce our revenues. The majority of our revenues come from third-party payers, primarily insurance companies. In the U.S., private payers cover the largest segment of the population, with the remainder either uninsured or covered by governmental payers. The majority of the third-party payers outside the U.S. are government agencies, government sponsored entities or other payers operating under significant regulatory requirements from national or regional governments. Third-party payers may decline to cover and reimburse certain procedures, supplies or services. Additionally, some third-party payers may decline to cover and reimburse our products for a particular patient even if the payer has a favorable coverage policy addressing our products or previously approved reimbursement for our products. Additionally, private and government payers may consider the cost of a treatment in approving coverage or in setting reimbursement for the treatment. Private and government payers are increasingly challenging the prices charged for medical products and services. Additionally, the containment of healthcare costs has become a priority of governments. Adoption of additional price controls and cost-containment measures, and adoption of more restrictive policies in jurisdictions with existing controls and measures, could further limit our revenues and operating results. If third-party payers do not consider our products or the combination of our products with additional treatments to be cost-justified under a required cost-testing model, they may not cover our products for their populations or, if they do, the level of reimbursement may not be sufficient to allow us to sell our products on a profitable basis. Reimbursement for the treatment of patients with medical devices is governed by complex mechanisms. These mechanisms vary widely among countries, can be informal, somewhat unpredictable, and evolve constantly, reflecting the efforts of these countries to reduce public spending on healthcare. As a result, obtaining and maintaining reimbursement for the treatment of patients with medical devices has become more challenging. We cannot guarantee that the use of our products will receive reimbursement approvals and cannot guarantee that our existing reimbursement approvals will be maintained in any country. Our failure to secure or maintain adequate coverage or reimbursement for our products by third-party payers in the U.S. or in the other jurisdictions in which we market our products could have a material adverse effect on our business, revenues and results of operations and cause our stock price to decline. 14 Table of Contents We may not be successful in maintaining the reimbursement codes necessary to facilitate accurate and timely billing for our products or physician services attendant to our products . Third-party payers, healthcare systems, government agencies or other groups often issue reimbursement codes to facilitate billing for products and physician services used in the delivery of healthcare. If we are unable to maintain the Healthcare Common Procedure Coding System codes (“HCPCS codes”) for physician services related to our products, our revenues and results may be affected by the absence of such HCPCS codes, as physicians may be less likely to prescribe the therapy when there is no certainty that adequate reimbursement will be available for the time, effort, skill, practice expense and malpractice costs required to provide the therapy to patients. Outside the U.S., we have not secured codes to describe our products or to document physician services related to the delivery of therapy using our products. The failure to obtain and maintain these codes could affect the growth of our business. We at times have concentrations of credit risk with third-party payers; failure to collect these and other billed receivables could adversely affect our cash flows and results of operations. The Company had receivables from one third-party payer at December 31, 2022 which made up approximately 14% of the accounts receivable balance. The Company had receivables from one third-party payer at December 31, 2021, which made up approximately 22% of the accounts receivable balance. Future changes in coverage and reimbursement policies for our products or reductions in reimbursement rates for our products by third party payers could adversely affect our business and results of operations. In the United States, our products are prescribed by physicians for their patients. Based on the prescription, which we consider an order, we submit a claim for payment directly to third-party payers such as private commercial insurance carriers, government payers and others as appropriate and the third-party payer reimburses us directly. Federal and state statutes, rules, or other regulatory measures that restrict coverage of our products or reimbursement rates could have an adverse effect on our ability to sell or rent our products or cause physical therapists and physicians to dispense and prescribe alternative, lower-cost products. There are significant estimating risks associated with the amount of revenue, related refund liabilities, accounts receivable and provider discounts that we recognize, and if we are unable to accurately estimate these amounts, it could impact the timing of our revenue recognition, and cash collections, have a significant impact on our operating results or lead to a restatement of our financial results. There are significant risks associated with the estimation of the amount of revenues, related refund liabilities, accounts receivable, and provider discounts that we recognize in a reporting period. The billing and collection process is complex due to ongoing insurance coverage changes, geographic coverage differences, differing interpretations of coverage, differing provider discount rates, and other third-party payer issues. Determining applicable primary and secondary coverage for our customers at any point in time, together with the changes in patient coverage that occur each month, require complex, resource-intensive processes. Errors in determining the correct coordination of benefits may result in refunds to payers. Revenues associated with government programs are also subject to estimating risk related to the amounts not paid by the primary government payer that will ultimately be collectable from other government programs paying secondary coverage, the patient’s commercial health plan secondary coverage or the patient. Collections, refunds and pay or retractions typically continue to occur for up to three years and longer after our products are provided. While we typically look to our past experience in collections with a payer in estimating amounts expected to be collected on current billings, recent trends and current changes in reimbursement practice, the overall healthcare environment, and other factors nonetheless could ultimately impact the amount of revenues recorded and the receivables ultimately collected. If our estimates of revenues, related refund liabilities, accounts receivable or provider discounts are materially inaccurate, it could impact the timing of our revenue recognition and have a significant impact on our operating results. It could also lead to a restatement of our financial results. 15 Table of Contents Tax laws and regulations require compliance efforts that can increase our cost of doing business and changes to these laws and regulations could impact financial results. We are subject to a variety of tax laws and regulations in the jurisdictions in which we do business. Maintaining compliance with these laws can increase our cost of doing business and failure to comply could result in audits or the imposition of fines or penalties. Further, our future effective tax rates in any of these jurisdictions could be affected, positively or negatively, by changing tax priorities, changes in statutory rates, or changes in tax laws or the interpretation thereof. The most significant recent example of this is the impact of the U.S Tax Cuts and Jobs Act of 2017 (the “Tax Act”) which was enacted on December 22, 2017. These changes significantly revised the ongoing U.S. corporate income tax law by lowering the U.S. federal corporate income tax rate from 35% to 21%, implementing a territorial tax system, imposing a one-time tax on foreign unremitted earnings and setting limitations on deductibility of certain costs, among other things. The Company has implemented the Tax Act and does not expect any significant changes related to the Tax Act at this time. The impact of healthcare reform legislation and other changes in the healthcare industry and in healthcare spending on us is currently unknown, but may harm our business. Our revenue is dependent on the healthcare industry and could be affected by changes in healthcare spending and policy. The healthcare industry is subject to changing political, regulatory and other influences. The Patient Protection and Affordable Care Act, or PPACA, made major changes in how health care is delivered and reimbursed, and increased access to health insurance benefits to the uninsured and underinsured population of the United States. The PPACA, among other things, increased the number of individuals with Medicaid and private insurance coverage, implemented reimbursement policies that tie payment to quality, facilitated the creation of accountable care organizations that may use capitation and other alternative payment methodologies, strengthened enforcement of fraud and abuse laws and encouraged the use of information technology. Such changes in the regulatory environment may also result in changes to our payer mix that may affect our operations and net revenue. In addition, certain provisions of the PPACA authorize voluntary demonstration projects, which include the development of bundling payments for acute, inpatient hospital services, physician services and post-acute services for episodes of hospital care. Further, the PPACA may negatively impact payers by increasing medical costs generally, which could have an effect on the industry and potentially impact our business and revenue as payers seek to offset these increases by reducing costs in other areas. The full impact of these changes on us cannot be determined at this time. We are also impacted by the Medicare Access and CHIP Reauthorization Act, under which physicians must choose to participate in one of two payment formulas, Merit-Based Incentive Payment System, or MIPS, or Alternative Payment Models, or APMs. Beginning in 2019, MIPS allows eligible physicians to receive upward or downward adjustments to their Medicare Part B payments based on certain quality and cost metrics, among other measures. As an alternative, physicians can choose to participate in an Advanced APM. Advanced APMs are exempt from the MIPS requirements, and physicians who are meaningful participants in APMs will receive bonus payments from Medicare pursuant to the law. In addition, current and prior healthcare reform proposals have included the concept of creating a single payer or public option for health insurance. If enacted, these proposals could have an extensive impact on the healthcare industry, including us. We are unable predict whether such reforms may be enacted or their impact on our operations. We expect that additional state and federal healthcare reform measures will be adopted in the future, any of which could limit the amounts that federal and state governments and other third-party payers will pay for healthcare services, which could harm our business, financial condition and results of operations.] 16 Table of Contents The Patient Protection and Affordable Care Act of 2010 has had an impact on our business which may be in part beneficial and in part detrimental. In March 2010, broad federal health care reform legislation was enacted in the United States. This legislation did not become effective immediately in total, and may be modified prior to the effective date of some provisions. This legislation has had an impact on our business in a variety of ways including increased number of Medicaid recipients, increased number of individuals with commercial insurance, additional audits conducted by public health insurance plans such as Medicaid and Medicare, changes to the rules that govern employer group health insurance and other factors that influence the acquisition and use of health insurance from private and public payers. This legislation has resulted in a change in reimbursement for certain durable medical equipment. We believe the new healthcare legislation and these changes to reimbursement have caused uncertainty with prescribers, which we believe contributed to our drop in orders and revenue during 2013 and 2014 and the lack of any significant increase in 2015. Orders and revenue increased in 2016 through 2022; however, we are currently unable to determine whether such trend will continue in future periods or whether the health care reform legislation will have other adverse consequences to our business and results of operations. To the extent prescribers write fewer prescriptions for our products or there is an adverse change to insurance reimbursement for our products, due to the new law or otherwise, our revenue and profitability will be materially adversely affected. The uncertainty of continuing healthcare changes and regulations may negatively affect our business. There is some doubt on the continuation of the Affordable Care Act and the legislation that the current Congress will enact to replace it, if any. Because we cannot be certain about the continuation of the Affordable Care Act or any changes or replacements thereto, even if the Affordable Care Act remains the law of the land, there is also some doubt whether the President will support it or take regulatory action to negatively impact its benefits. The amount of uncertainty creates concern on our customer’s willingness to buy products which may, or may not, be covered by future health care benefits even if they are covered currently. We are subject, directly or indirectly, to United States federal and state healthcare fraud and abuse and false claims laws and regulations. Prosecutions under such laws have increased in recent years and we may become subject to such litigation. If we are unable to or have not fully complied with such laws, we could face substantial penalties. Our operations are subject to various state and federal fraud and abuse laws, including, without limitation, the federal Anti-Kickback Statute, the federal Stark Law and the federal False Claims Act. These laws may impact, among other things, our sales, marketing and education programs. The federal Anti-Kickback Statute prohibits persons from knowingly and willfully soliciting, offering, receiving or providing remuneration, directly or indirectly, in exchange for or to induce either the referral of an individual, or the furnishing or arranging for a good or service, for which payment may be made under a federal healthcare program such as the Medicare and Medicaid programs. Several courts have interpreted the statute’s intent requirement to mean that if any one purpose of an arrangement involving remuneration is to induce referrals of federal healthcare covered business, the statute has been violated. In addition, a person or entity does not need to have actual knowledge of the statute or specific intent to violate it in order to have committed a violation. The Anti-Kickback Statute is broad and, despite a series of narrow safe harbors, prohibits many arrangements and practices that are lawful in businesses outside of the healthcare industry. Penalties for violations of the federal Anti-Kickback Statute include criminal penalties and civil sanctions such as fines, imprisonment and possible exclusion from Medicare, Medicaid and other federal healthcare programs. Many states have also adopted laws similar to the federal Anti-Kickback Statute, some of which apply to the referral of patients for healthcare items or services reimbursed by any source, not only the Medicare and Medicaid programs. 17 Table of Contents The federal Ethics in Patient Referrals Act of 1989, commonly known as the “Stark Law,” prohibits, subject to certain exceptions, physician referrals of Medicare and, as applicable under state law, Medicaid patients to an entity providing certain “designated health services” if the physician or an immediate family member has any financial relationship with the entity. The Stark Law also prohibits the entity receiving the referral from billing any good or service furnished pursuant to an unlawful referral. Various states have corollary laws to the Stark Law, including laws that require physicians to disclose any financial interest they may have with a healthcare provider to their patients when referring patients to that provider. Both the scope and exceptions for such laws vary from state to state. The federal False Claims Act prohibits persons from knowingly filing, or causing to be filed, a false claim to, or the knowing use of false statements to obtain payment from the federal government. The False Claims Act defines “knowingly” to include actual knowledge, acting in deliberate ignorance of the truth or falsity of information, or acting in deliberate disregard of the truth or falsity of information. False Claims Act liability includes liability for reverse false claims for avoiding or decreasing an obligation to pay or transmit money to the government. This includes False Claims Act liability for failing to report and return overpayments within 60 days of the date on which the overpayment is “identified.” Penalties under the False Claims Act can include exclusion from the Medicare program. In addition, the government may assert that a claim including items or services resulting from a violation of the federal Anti-Kickback Statute constitutes a false or fraudulent claim for purposes of the False Claims Act. Suits filed under the False Claims Act, known as qui tam actions, can be brought by any individual on behalf of the government and such individuals, commonly known as “whistleblowers,” may share in any amounts paid by the entity to the government in fines or settlement. The frequency of filing qui tam actions has increased significantly in recent years, causing greater numbers of medical device , pharmaceutical and healthcare companies to have to defend a False Claims Act action. When an entity is determined to have violated the federal False Claims Act, it may be required to pay up to three times the actual damages sustained by the government, plus civil penalties for each separate false claim. Various states have also enacted laws modeled after the federal False Claims Act. HIPAA, and its implementing regulations, also created additional federal criminal statutes that prohibit knowingly and willfully executing, or attempting to execute, a scheme to defraud any healthcare benefit program or obtain, by means of false or fraudulent pretenses, representations, or promises, any of the money or property owned by, or under the custody or control of, any healthcare benefit program, regardless of the payor (e.g., public or private) and knowingly and willfully falsifying, concealing or covering up by any trick or device a material fact or making any materially false statements in connection with the delivery of, or payment for, healthcare benefits, items or services relating to healthcare matters. Similar to the federal Anti-Kickback Statute, a person or entity does not need to have actual knowledge of the statute or specific intent to violate it in order to have committed a violation. From time to time, the Company has been and is involved in various governmental audits, investigations and reviews related to its operations. Reviews and investigations can lead to government actions, resulting in the assessment of damages, civil or criminal fines or penalties, or other sanctions, including restrictions or changes in the way we conduct business, loss of licensure or exclusion from participation in Medicare, Medicaid or other government programs. Additionally, as a result of these investigations, healthcare providers and entities may face litigation or have to agree to settlements that can include monetary penalties and onerous compliance and reporting requirements as part of a consent decree or corporate integrity agreement, or Corporate Integrity Agreement (“CIA”). If we fail to comply with applicable laws, regulations and rules, its financial condition and results of operations could be adversely affected. Furthermore, becoming subject to these governmental investigations, audits and reviews may result in substantial costs and divert management’s attention from the business as we cooperate with the government authorities, regardless of whether the particular investigation, audit or review leads to the identification of underlying issues. We are unable to predict whether we could be subject to actions under any of these laws, or the impact of such actions. If we are found to be in violation of any of the laws described above or other applicable state and federal fraud and abuse laws, we may be subject to penalties, including civil and criminal penalties, damages, fines, exclusion from Medicare, Medicaid and other government healthcare reimbursement programs and the curtailment or restructuring of its operations. Hospitals and clinicians may not buy, prescribe or use our products in sufficient numbers, which could result in decreased revenues and profits. Hospitals and clinicians may not accept any of our products as effective, reliable, or cost-effective. Factors that could prevent such institutional patient acceptance inclu ● If patients conclude that the costs of these products exceed the cost savings associated with the use of these products; ● If patients are financially unable to purchase these products; 18 Table of Contents ● If adverse patient events occur with the use of these products, generating adverse publicity; ● If we lack adequate resources to provide sufficient education and training to our patients; ● If frequent product malfunctions occur, leading clinicians to believe that the products are unreliable; ● Uncertainty regarding or change in government or third-party payer reimbursement policies for our products; and ● If physicians or other health care providers believe that our products will not be reimbursed by insurers or decide to prescribe competing products. Because our sales are dependent on prescriptions from physicians, if any of these or other factors result in fewer prescriptions for our products being written, we will have reduced revenues and may not be able to fully fund our operations. Although we experienced an increase in orders for our ZMI products during 2021 and 2022 compared to prior years, we can make no assurances that demand for our products will not decline in future periods. Any new competitor could be larger than us and have greater financial and other resources than we do, and those advantages could make it difficult for us to compete with them. Many competitors to our products may have substantially greater financial, technical, marketing, and other resources. Competition could result in fewer orders, reduced gross margins, and loss of market share. Our products are regulated by the FDA in the United States. Competitors may develop products that are substantially equivalent to our FDA-cleared products, thereby using our products as predicate devices to more quickly obtain FDA approval for their own products. If overall demand for our products should decrease it could have a material adverse effect on our operating results. Substantial competition is expected in the future in the area of stroke rehabilitation that may directly compete with our NeuroMove product. These competitors may use standard or novel signal processing techniques to detect muscular movement and generate stimulation to such muscles. Other companies may develop rehabilitation products that perform better and/or are less expensive than our products, which could have a material adverse effect on our operating results. Failure to keep pace with the latest technological changes could result in decreased revenues. The market for some of our products is characterized by rapid change and technological improvements. Failure to respond in a timely and cost-effective way to these technological developments could result in serious harm to our business and operating results. We have derived, and we expect to continue to derive, a substantial portion of our revenues from the development and sale of products in the medical device industry. As a result, our success will depend, in part, on our ability to develop and market product offerings that respond in a timely manner to the technological advances of our competitors, evolving industry standards and changing patient preferences. There is no assurance that we will keep up with technological improvements. O ur business could be adversely affected by reliance on sole suppliers. Notwithstanding our current multiple supplier approach, certain essential product components may be supplied in the future by sole, or a limited group of, suppliers. Most of our products and components are purchased through purchase orders rather than through long term supply agreements and large volumes of inventory may not be maintained. There may be shortages and delays in obtaining certain product components. Disruption of the supply or inventory of components could result in a significant increase in the costs of these components or could result in an inability to meet the demand for our products. In addition, if a change in the manufacturer of a key component is required, qualification of a new supplier may result in delays and additional expenses in meeting customer demand for products. These factors could adversely affect our revenues and ability to retain our experienced sales force. 19 Table of Contents A third-party manufacturer’s inability to produce our products’ components on time and to our specifications could result in lost revenue. Third-party manufacturers assemble and manufacture components of the NexWave and NeuroMove and some of our other products to our specifications. The inability of a manufacturer to ship orders of our products in a timely manner or to meet our quality standards could cause us to miss the delivery date requirements of our patients for those items, which could result in cancellation of orders, refusal to accept deliveries or a reduction in purchase prices, any of which could have a material adverse effect on our revenues. Because of the timing and seriousness of our business, and the medical device industry in particular, the dates on which patients need and require shipments of products from us are critical. Further, because quality is a leading factor when patients, doctors, health insurance providers and distributors accept or reject goods, any decline in quality by our third-party manufacturers could be detrimental not only to a particular order, but also to our future relationship with that particular patient. We could experience cost increases or disruptions in supply of raw materials or other components used in our products. Our third-party manufacturers that assemble and manufacture components for our products expect to incur significant costs related to procuring raw materials required to manufacture and assemble our product. The prices for these raw materials fluctuate depending on factors beyond our control including market conditions and global demand for these materials and could adversely affect our business, prospects, financial condition, results of operations, and cash flows. Further, any delays or disruptions in our supply chain could harm our business. For example, COVID-19, including associated variants, could cause disruptions to and delays in our operations, including shortages and delays in the supply of certain parts, including semiconductors, materials and equipment necessary for the production of our products, and the internal designs and processes we or third-parties may adopt in an effort to remedy or mitigate impacts of such disruptions and delays could result in higher costs. In addition, our business also depends on the continued supply of battery cells for our products. We are exposed to multiple risks relating to availability and pricing of quality battery cells. These risks inclu ● the inability or unwillingness of battery cell manufacturers to build or operate battery cell manufacturing plants to supply the numbers of battery cells (including the applicable chemistries) required to support the growth of the electric or plug-in hybrid vehicle industry as demand for such cells increases; ● disruption in the supply of battery cells due to quality issues or recalls by the battery cell manufacturers; and ● an increase in the cost, or decrease in the available supply of raw materials used in battery cells, such as lithium, nickel, and cobalt. Furthermore, currency fluctuations, tariffs or shortages in petroleum and other economic or political conditions may result in significant increases in freight charges and raw material costs. Substantial increases in the prices for raw materials or components would increase our operating costs and could reduce our margins. We depend upon third parties to manufacture and to supply key semiconductor chip components necessary for our products. We do not have long-term agreements with our semiconductor chip manufacturers and suppliers, and if these manufacturers or suppliers become unwilling or unable to provide an adequate supply of semiconductor chips, with respect to which there is a global shortage, we would not be able to find alternative sources in a timely manner and our business would be adversely impacted. Semiconductor chips are a vital input component to the electrical architecture of our products, controlling wide aspects of the products’ operations. Many of the key semiconductor chips we use in our products come from limited or single sources of supply, and therefore a disruption with any one manufacturer or supplier in our supply chain would have an adverse effect on our ability to effectively manufacture and timely deliver our products. We do not have any long- term supply contracts with any suppliers and purchase chips on a purchase order basis. Due to our reliance on these semiconductor chips, we are subject to the risk of shortages and long lead times in their supply. We are in the process of identifying alternative manufacturers for semiconductor chips. We have in the past experienced, and may in the future experience, semiconductor chip shortages, and the availability and cost of these components would be difficult to predict. For example, our manufacturers may experience temporary or permanent disruptions in their manufacturing operations due to equipment breakdowns, labor strikes or shortages, natural disasters, component or material shortages, cost increases, acquisitions, insolvency, changes in legal or regulatory requirements, or other similar problems. 20 Table of Contents In particular, increased demand for semiconductor chips in 2020, due in part to the COVID-19 pandemic and increased demand for consumer electronics that use these chips, has resulted in a severe global shortage of chips in 2021 and 2022. As a result, our ability to source semiconductor chips to be used in our products has been adversely affected. This shortage may result in increased chip delivery lead times, delays in the production of our products, and increased costs to source available semiconductor chips. To the extent this semiconductor chip shortage continues, and we are unable to mitigate the effects of this shortage, our ability to deliver sufficient quantities of our products to fulfill our preorders and to support our growth through sales to new customers would be adversely affected. In addition, we may be required to incur additional costs and expenses in managing ongoing chip shortages, including additional research and development expenses, engineering design and development costs in the event that new suppliers must be onboarded on an expedited basis. Further, ongoing delays in production and shipment of products due to a continuing shortage of semiconductor chips may harm our reputation and discourage additional preorders and sales, and otherwise materially and adversely affect our business and operations. If we need to replace manufacturers, our expenses and cost of goods could increase resulting in smaller profit margins. We compete with other companies for the production capacity of our manufacturers and import quota capacity. Some of these competitors have greater financial and other resources than we have, and thus have an advantage in the competition for production and import quota capacity. If we experience a significant increase in demand, or if we need to replace an existing manufacturer, we may have to expand our third-party manufacturing capacity. We cannot assure that this additional capacity will be available when required on terms that are acceptable to us or similar to existing terms, which we have with our manufacturers, either from a production standpoint or a financial standpoint. We enter into a number of purchase order commitments specifying a time for delivery, method of payment, design and quality specifications and other standard industry provisions, but do not have long-term contracts with any manufacturer. None of the manufacturers we use produce our products exclusively. Should we be forced to replace one or more of our manufacturers, we may experience increased costs or an adverse operational impact due to delays in distribution and delivery of our products to our patients, which could cause us to lose patients or lose revenue because of late shipments. W e are a relatively small company with a limited number of products and staff. S ales fluctuations and employee turnover may adversely affect our business. We are a relatively small company. Consequently, compared to larger companies, sales fluctuations could have a greater impact on our revenue and profitability on a quarter-to-quarter and year-to-year basis and delays in patient orders could cause our operating results to vary significantly from quarter to quarter and year-to-year. In addition, as a small company we have limited staff and are heavily reliant on certain key personnel to operate our business. If a key employee were to leave the company it could have a material impact on our business and results of operations as we might not have sufficient depth in our staffing to fill the role that was previously being performed. A delay in filling the vacated position could put a strain on existing personnel or result in a failure to satisfy our contractual obligations or to effectively implement our internal controls, and materially harm our business. If we are unable to retain the services of Mr. Sandgaard or if we are unable to successfully recruit qualified managerial and sales personnel, we may not be able to continue our operations. Our success depends to a significant extent upon the continued service of Mr. Thomas Sandgaard, our Chief Executive Officer, Founder, and beneficial owner of approximately 41% of our outstanding stock. Loss of the services of Mr. Sandgaard could have a material adverse effect on our growth, revenues, and prospective business. There is currently no employment agreement with Mr. Sandgaard. We do not maintain key-man insurance on the life of Mr. Sandgaard. In addition, in order to successfully implement and manage our business plan, we will be dependent upon, among other things, successfully retaining and recruiting qualified managerial and sales personnel. Competition for qualified individuals is intense. Various factors, such as marketability of our products, our reputation, our liquidity, and sales commission structure can affect our ability to find, attract or retain sales personnel. There can be no assurance that we will be able to find and attract qualified new employees and sales representatives and retain existing employees and sales representatives. 21 Table of Contents We need to maintain insurance coverage, which could become very expensive or have limited availability. Our marketing and sales of medical device products creates an inherent risk of claims for product liability. As a result, we carry product liability insurance and will continue to maintain insurance in amounts we consider adequate to protect us from claims. We cannot, however, be assured that we have resources sufficient to satisfy liability claims in excess of policy limits if required to do so. Also, if we are subject to such liability claims, there is no assurance that our insurance provider will continue to insure us at current levels or that our insurance rates will not substantially rise in the future, resulting in increased costs to us or forcing us to either pay higher premiums or reduce our coverage amounts, which would result in increased liability to claims. Although we do not manufacture the products we distribute, if one of the products distributed by us proves to be defective or is misused by a health care practitioner or patient, we may be subject to liability that could adversely affect our financial condition and results of operations. Although we do not manufacture the products that we distribute, a defect in the design or manufacture of a product distributed or serviced by us, or a failure of a product distributed by us to perform for the use specified, could have a material and adverse effect on our reputation in the industry and subject us to claims of liability for injuries and otherwise. Misuse of the product distributed by us by a practitioner or patient that results in injury could similarly subject us to liability. Any substantial underinsured loss could have a material and adverse effect on our business, financial condition, results of operations and cash flows. Furthermore, any impairment of our reputation could have a material and adverse effect on our revenues and prospects for future business. We depend upon obtaining regulatory clearance of new products and/or manufacturing operations we develop and maintain clearances of current products; failure to obtain or maintain such regulatory clearances could result in increased costs, lost revenue, penalties and fines. Before marketing certain new products, we will need to complete one or more clinical investigations of each product. There can be no assurance that the results of such clinical investigations will be favorable to us. We may not know the results of any study, favorable or unfavorable to us, until after the study has been completed. Such data must be submitted to the FDA as part of any regulatory filing seeking clearance to market the product. Even if the results are favorable, the FDA may dispute the claims of safety, efficacy, or clinical utility and not allow the product to be marketed. The sales price of the product may not be enough to recoup the amount of our investment in conducting the investigative studies and we may expend significant funds on research and development on products that are rejected by the FDA. Some of our products are marketed based upon our interpretation of FDA regulation allowing for changes to an existing device. If our interpretations are incorrect, we could suffer consequences that could have a material adverse effect on our results of operations and cash flows and could result in fines and penalties. There can be no assurance that we will have the financial resources to complete development of any new products or to complete the regulatory clearance process or to maintain regulatory compliance of existing products. We may not be able to obtain clearance of a 510(k) pre-market notification or grant of a de novo classification request or approval of a pre-market approval application with respect to any products on a timely basis, if at all. If timely FDA clearance or approval of new products is not obtained, our business could be materially adversely affected. Clearance of a 510(k) pre-market notification or de novo application may also be required before marketing certain previously marketed products, which have been modified after they have been cleared. Should the FDA so require, the filing of a new 510(k) pre-market notification for the modification of the product may be required prior to marketing any modified device. To determine whether adequate compliance has been achieved, the FDA may inspect our facilities at any time. Such compliance can be difficult and costly to achieve and maintain. Our compliance status may change due to future changes in, or interpretations of, FDA regulations or other regulatory agencies. Such changes may result in the FDA withdrawing marketing clearance or requiring or requesting product recall. In addition, any changes or modifications to a device or its intended use may require us to reassess compliance with good manufacturing practices guidelines, potentially interrupting the marketing and sale of products. We may also fail to comply with complex FDA regulations due to their complexity or otherwise. Failure to comply with regulations could result in enforceable actions, including product seizures, product recalls, withdrawal of clearances or approvals, injunctions, and civil and criminal penalties, any of which could have a material adverse effect on our operating results and reputation. 22 Table of Contents O ur products are subject to recall even after receiving FDA or foreign clearance or approval, which would harm our reputation and business. We are subject to medical device reporting regulations that require us to report to the FDA or respective governmental authorities in other countries if our products cause or contribute to a death or serious injury or malfunction in a way that would be reasonably likely to cause or contribute to death or serious injury if the malfunction were to recur. The FDA and similar governmental authorities in other countries have the authority to require the recall of our products in the event of material deficiencies or defects in design or manufacturing. A government mandated or voluntary recall by us could occur as a result of component failures, manufacturing errors or design defects, including defects in labeling. Any recall would divert managerial and financial resources and could harm our reputation with customers. We cannot assure you that we will not have product recalls in the future or that such recalls would not have a material adverse effect on our business. We have not undertaken any voluntary or mandatory recalls to date. We continue to incur expenses. This area of medical device research is subject to rapid and significant technological changes. Developments and advances in the medical industry by either competitors or other parties can affect our business in either a positive or negative manner. Developments and changes in technology that are favorable to us may significantly advance the potential of our research while developments and advances in research methods outside of the methods we are using may severely hinder, or halt completely our development. We are a small company in terms of employees, technical and research resources. We expect to incur research and development, sales and marketing, and general and administrative expenses. These amounts may increase, and recently have in connection with our efforts to expand our sales force, before any commensurate incremental revenue from these efforts may be obtained and may adversely affect our potential profits and we may lack the liquidity to pay for such expenditures. These factors may also hinder our ability to meet changes in the medical industry as rapidly or effectively as competitors with more resources. Substantial costs could be incurred defending against claims of intellectual property infringement. Other companies, including competitors, may obtain patents or other proprietary intellectual property rights that would limit, interfere with, or otherwise circumscribe our ability to make, use, or sell products. Should there be a successful claim of infringement against us and if we could not license the alleged infringed technology at a reasonable cost, our business and operating results could be adversely affected. There has been substantial litigation regarding patent and other intellectual property rights in the medical device industry. The validity and breadth of claims covered in medical technology patents involve complex legal and factual questions for which important legal principles remain unresolved. Any litigation claims against us, independent of their validity, may result in substantial costs and the diversion of resources with no assurance of success. Intellectual property claims could cause us t ● Cease selling, incorporating, or using products that incorporate the challenged intellectual property; ● Obtain a license from the holder of the infringed intellectual property right, which may not be available on reasonable terms, if at all; and ● Re-design our products excluding the infringed intellectual property, which may not be possible. We may be unable to protect our trademarks, trade secrets and other intellectual property rights that are important to our business. We consider our trademarks, trade secrets, and other intellectual property an integral component of our success. We rely on trademark law and trade secret protection and confidentiality agreements with employees, customers, partners, and others to protect our intellectual property. Effective trademark and trade secret protection may not be available in every country in which our products are available. We obtained utility patents on the fluid monitoring system in 2021 and 2018 in the U.S. and in 2020 in Europe. We cannot be certain that we have taken adequate steps to protect our intellectual property, especially in countries where the laws may not protect our rights as fully as in the United States. In addition, if our third-party confidentiality agreements are breached, there may not be an adequate remedy available to us. If our trade secrets become publicly known, we may lose competitive advantages. 23 Table of Contents We may fail to protect the privacy, integrity and security of customer information. We possess and process sensitive customer information and Protected Health Information protected by the Health Insurance Portability and Affordability Act (“HIPAA”). While we have taken reasonable and appropriate steps to protect that information, if our security procedures and controls were compromised, it could harm our business, reputation, results of operations and financial condition and may increase the costs we incur to protect against such information security breaches, such as increased investment in technology, the costs of compliance with health care privacy and consumer protection laws. A compromise of our privacy or security procedures could also subject us to liability under certain health care privacy laws applicable to us. Other federal and state laws restrict the use and protect the privacy and security of personally identifiable information are, in many cases, are not preempted by HIPAA and may be subject to varying interpretations by the courts and government agencies. These varying interpretations can create complex compliance issues for us and our partners and potentially expose us to additional expense, adverse publicity and liability, any of which could adversely affect our business. There is ongoing concern from privacy advocates, regulators and others regarding data privacy and security issues, and the number of jurisdictions with data privacy and security laws has been increasing. Also, there are ongoing public policy discussions regarding whether the standards for de-identification, anonymization or pseudonymization of health information are sufficient, and the risk of re-identification sufficiently small, to adequately protect patient privacy. We expect that there will continue to be new proposed and amended laws, regulations and industry standards concerning privacy, data protection and information security in the United States, such as the California Consumer Privacy Act (“CCPA”), as amended by the California Privacy Rights Act (“CPRA”), which amendments went into effect on January 1, 2023, The CCPA creates specific obligations with respect to processing and storing personal information, and the CPRA amendments created a new state agency that is vested with authority to implement and enforce the CCPA. Additionally, a similar law went into effect in Virginia on January 1, 2023, and further US-state comprehensive privacy laws are set to go into effect throughout 2023, including laws in Colorado, Connecticut, and Utah. These laws are substantially similar in scope and contain many of the same requirements and exceptions as the CCPA, including a general exemption for clinical trial data and limited obligations for entities regulated by HIPAA. However, we cannot yet determine the full impact these laws or other such future laws, regulations and standards may have on our current or future business. Any of these laws may broaden their scope in the future, and similar laws have been proposed on both a federal level and in more than half of the states in the U.S. A number of other states have proposed new privacy laws, some of which are similar to the above discussed recently passed laws. Such proposed legislation, if enacted, may add additional complexity, variation in requirements, restrictions and potential legal risk, require additional investment of resources in compliance programs, impact strategies and the availability of previously useful data and could result in increased compliance costs and/or changes in business practices and policies. The existence of comprehensive privacy laws in different states in the country would make our compliance obligations more complex and costly and may increase the likelihood that we may be subject to enforcement actions or otherwise incur liability for noncompliance. Cyber-attacks and security vulnerabilities could lead to reduced revenue, increased costs, liability claims, or harm to our competitive position. Increased sophistication and activities of perpetrators of cyber-attacks have resulted in an increase in information security risks in recent years. Hackers develop and deploy viruses, worms, and other malicious software programs that attack products and services and gain access to networks and data centers. In addition to extracting sensitive information, such attacks could include the deployment of harmful malware, ransomware, denial-of-service attacks, social engineering and other means to affect service reliability and threaten the confidentiality, integrity and availability of information. The prevalent use of mobile devices also increases the risk of data security incidents. If we experience difficulties maintaining existing systems or implementing new systems, we could incur significant losses due to disruptions in our operations. Additionally, these systems contain valuable proprietary and confidential information and may contain personal data of our customers. While we believe we have taken reasonable steps to protect such data, techniques used to gain unauthorized access to data and systems, disable or degrade service, or sabotage systems, are constantly evolving, and we may be unable to anticipate such techniques or implement adequate preventative measures to avoid unauthorized access or other adverse impacts to such data or our systems. In addition, some of our third-party service providers and partners also collect and/or store our sensitive information and our customers’ data on our behalf, and these service providers and partners are subject to similar threats of cyber-attacks and other malicious internet-based activities, which could also expose us to risk of loss, litigation, and potential liability. A security breach could result in disruptions of our internal systems and business applications, harm to our competitive position from the compromise of confidential business information, or subject us to liability under laws that protect personal data. Additionally, actual, potential or anticipated attacks may cause us to incur increasing costs, including costs to deploy additional personnel and protection technologies, train employees, and engage third-party experts and consultants. Specifically, as 24 Table of Contents cyber threats continue to evolve, we may be required to expend additional resources to continue to enhance our information security measures and/or to investigate and remediate any information security vulnerabilities. Any of these consequences would adversely affect our revenue and margins. Additionally, although we maintain cybersecurity insurance coverage, we cannot be certain that such coverage will be adequate for data security liabilities actually incurred, will cover any indemnification claims against us relating to any incident, will continue to be available to us on economically reasonable terms, or at all, or that any insurer will not deny coverage as to any future claim. The successful assertion of one or more large claims against us that exceed available insurance coverage, or the occurrence of changes in our insurance policies, including premium increases or the imposition of large deductible or co-insurance requirements, could have a material adverse effect on our reputation, business, prospects, results of operations and financial condition. We have identified a material weakness in our internal controls over financial reporting and may identify additional material weaknesses in the future or otherwise fail to maintain an effective system of internal controls, which may result in material misstatements of our consolidated financial statements or cause us to fail to meet our periodic reporting obligations. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of a company’s annual or interim financial statements will not be prevented or detected on a timely basis. We identified a material weakness in our internal controls over financial reporting as of December 31, 2022, related to information technology general controls, or ITGCs, that were not designed and operating effectively to ensure (i) appropriate segregation of duties was in place to perform program changes and (ii) the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted. Although the material weakness identified above did not result in any material misstatements in our consolidated financial statements for the periods presented and there were no changes to previously released financial results, our management concluded that these control weaknesses constitute a material weakness and that our internal control was not effective as of December 31, 2022. Our management is committed to take comprehensive actions to remediate the material weakness in internal control over financial reporting. We are in the process of developing and implementing remediation plans to address the material weakness described above. While we are committed to designing and implementing new controls and measures to remediate this material weakness, we cannot assure you that the measures will be sufficient to remediate the material weakness or avoid the identification of additional material weaknesses in the future. Our failure to implement and maintain effective internal control over financial reporting could result in errors in our consolidated financial statements that could result in a restatement of our financial statements and could cause us to fail to meet our periodic reporting obligations, any of which could diminish investor confidence in us and cause a decline in the price of our common stock. Expansion of our operations and sales internationally may subject us to additional risks, including risks associated with unexpected events. A component of our growth strategy is to expand our operations and sales internationally. There can be no assurance that we will be able to successfully market, sell, and deliver our products in foreign markets, or that we will be able to successfully expand our international operations. Global operations could cause us to be subject to unexpected, uncontrollable and rapidly changing risks, events, and circumstances. The following factors, among others, could adversely affect our business, financial condition and results of operatio ● difficulties in managing foreign operations and attracting and retaining appropriate levels of senior management and staffing; ● longer cash collection cycles; ● proper compliance with local tax laws which can be complex and may result in unintended adverse tax consequences; ● difficulties in enforcing agreements through foreign legal systems; 25 Table of Contents ● failure to properly comply with U.S. and foreign laws and regulations applicable to our foreign activities including, without limitation, product approval, healthcare and employment law requirements and the Foreign Corrupt Practices Act; ● fluctuations in exchange rates that may affect product demand and may adversely affect the profitability in U.S. dollars of the products we provide in foreign markets; ● the ability to efficiently repatriate cash to the United States and transfer cash between foreign jurisdictions; and ● changes in general economic conditions or political circumstances in countries where we operate. Our acquisition of other companies could require significant management attention, disrupt our business, dilute stockholder value and adversely affect our operating results. As part of our business strategy, we have made and may in the future acquire or make investments in other companies, solutions or technologies to, among other reasons, expand or enhance our product offerings. In the future, any significant acquisition would require the consent of our lenders. Any failure to receive such consent could delay or prohibit us from acquiring companies that we believe could enhance our business. We may not ultimately strengthen our competitive position or achieve our goals from our recent or any future acquisition, and any acquisitions we complete could be viewed negatively by users, customers, partners or investors. In addition, if we fail to integrate successfully such acquisitions, or the technologies associated with such acquisitions, into our company, the revenues and operating results of the combined company could be adversely affected. For example, in December 2021 we acquired Kestrel Labs, Inc. and we must effectively integrate the personnel, products, technologies and customers and develop and motivate new employees. In addition, we may not be able to successfully retain the customers and key personnel of such acquisitions over the longer term, which could also adversely affect our business. The integration of our recently-acquired business or future-acquired business will require significant time and resources, and we may not be able to manage the process successfully. We may not successfully evaluate or utilize the acquired business and accurately forecast the financial impact of the acquisition, including accounting charges. We may have to pay cash, incur debt or issue equity securities to pay for any acquisition, each of which could affect our financial condition or the value of our capital stock. For example, in connection with our acquisition of Kestrel Labs, Inc., we paid an approximate value of $30.5 million, consisting of $16.1 million in cash which was financed through Bank of America N.A. and approximately $14.4 million in shares of our common stock, a portion of which is held in escrow until certain milestones are achieved. To fund any future acquisition, we may issue equity, which would result in dilution to our stockholders, or incur more debt, which would result in increased fixed obligations and could subject us to additional covenants or other restrictions that would impede our ability to manage our operations. If we are not able to integrate acquired businesses successfully, our business could be harmed. Our inability to successfully integrate our recent and future acquisitions could impede us from realizing all of the benefits of those acquisitions and could severely weaken our business operations. The integration process may disrupt our business and, if implemented ineffectively, may preclude realization of the full benefits expected by us and could harm our results of operations. In addition, the overall integration of the combining companies may result in unanticipated problems, expenses, liabilities, and competitive responses, and may cause our stock price to decline. The difficulties of integrating an acquisition include, among othe ● unanticipated issues in integration of information, communications, and other systems; ● unanticipated incompatibility of logistics, marketing, and administration methods; ● maintaining employee morale and retaining key employees; ● integrating the business cultures of both companies; ● preserving important strategic client relationships; 26 Table of Contents ● consolidating corporate and administrative infrastructures and eliminating duplicative operations; and ● coordinating geographically separate organizations. In addition, even if the operations of an acquisition are integrated successfully, we may not realize the full benefits of the acquisition, including the synergies, cost savings, or growth opportunities that we expect. These benefits may not be achieved within the anticipated time frame, or at all. For example, the failure to get regulatory approval to sell certain products of an acquired business may significantly reduce the anticipated benefits of the acquisition and could harm our results of operations, even if we have put in place contingencies for the delivery of closing consideration, such as the escrowed shares held back in our acquisition of Kestrel Labs, Inc. Further, acquisitions may also cause us t ● issue securities that would dilute our current stockholders’ ownership percentage; ● use a substantial portion of our cash resources; ● increase our interest expense, leverage, and debt service requirements if we incur additional debt to pay for an acquisition; ● assume liabilities, including environmental liabilities, for which we do not have indemnification from the former owners or have indemnification that may be subject to dispute or concerns regarding the creditworthiness of the former owners; ● record goodwill and non-amortizable intangible assets that are subject to impairment testing on a regular basis and potential impairment charges; ● experience volatility in earnings due to changes in contingent consideration related to acquisition liability estimates; ● incur amortization expenses related to certain intangible assets; ● lose existing or potential contracts as a result of conflict of interest issues; ● incur large and immediate write-offs; or ● become subject to litigation. Our failure to comply with the covenants contained in our loan agreement could result in an event of default that could adversely affect our financial condition and ability to operate our business as planned. We currently have an outstanding term loan and line of credit with Bank of America, N.A. under which we are obligated to pay monthly amortization payments. Our loan agreement contains, and any agreements to refinance our debt likely will contain, financial and restrictive covenants. Our failure to comply with these covenants in the future may result in an event of default, which if not cured or waived, could result in the bank preventing us from accessing availability under our line of credit and requiring us to repay any outstanding borrowings. There can be no assurance that we will be able to obtain waivers in the event of covenant violations or that such waivers will be available on commercially acceptable terms. In addition, the indebtedness under our loan agreement is secured by a security interest in substantially all of our tangible and intangible assets, and therefore, if we are unable to repay such indebtedness the bank could foreclose on these assets and sell the pledged equity interests, which would adversely affect our ability to operate our business. If any of these were to occur, we may not be able to continue operations as planned, implement our planned growth strategy or react to opportunities for or downturns in our business. 27 Table of Contents Changes in financial accounting standards or practices may cause adverse, unexpected financial reporting fluctuations and affect our reported results of operations. We are required to prepare our financial statements in accordance with generally accepted accounting principles in the United States of America (“GAAP”), which is periodically revised and/or expanded. From time to time, we are required to adopt new or revised accounting standards issued by recognized authoritative bodies, including the Financial Accounting Standards Board (“FASB”) and the SEC. It is possible that future accounting standards we are required to adopt may require additional changes to the current accounting treatment that we apply to our financial statements and may require us to make significant changes to our reporting systems. Such changes could result in a material adverse impact on our business, results of operations and financial condition. RISKS RELATED TO OUR COMMON STOCK Sales of significant amounts of shares held by Mr. Sandgaard, or the prospect of these sales, could adversely affect the market price of our common stock Sales of significant amounts of shares held by Mr. Sandgaard, or the prospect of these sales, could adversely affect the market price of our common stock. Mr. Sandgaard’s stock ownership may discourage a potential acquirer from making a tender offer or otherwise attempting to obtain control of the Company, which in turn could reduce our stock price or prevent our stockholders from realizing a premium over our stock price. Our existing stockholders may experience dilution if we elect to raise equity capital Due to our past liquidity issues, we have had to raise capital in the form of debt and/or equity to meet our working capital needs. We may also choose to issue equity or debt securities in the future to meet our liquidity or other needs which would result in additional dilution to our existing stockholders. Although we will attempt to minimize the dilutive impact of any future capital-raising activities, we cannot offer any assurance that we will be able to do so. We may have to issue additional shares of our common stock at prices at a discount from the then-current market price of our common stock. If we raise additional working capital, existing stockholders may experience dilution. We paid a dividend on our common stock, and cash used to pay dividends will not be available for other corporate purposes In 2018, our Board of Directors declared a special one-time dividend of $0.07 per share, which was paid in January 2019. In 2021, our Board of Directors declared a special one-time dividend of $0.10 per share, which was paid in January 2022. The decision to pay dividends in the future will depend on general business conditions, the impact of such payment on our financial condition, and other factors our Board of Directors may consider. If we elect to pay future dividends, this could reduce our cash reserves to levels that may be inadequate to fund expansions to our business plan or unanticipated contingent liabilities. Our stock price could become more volatile and your investment could lose value. All of the factors discussed in this section could affect our stock price. A significant drop in our stock price could also expose us to the risk of securities class actions lawsuits, which could result in substantial costs and divert management’s attention and resources, which could adversely affect our business ITEM 1B. UNRESOLVED STAFF COMMENTS None. ITEM 2. PROPERTIES In October 2017, we signed a lease for our former corporate headquarters in Englewood, Colorado beginning in January 2018. In March 2019, we signed an amendment to this lease, which allowed the Company to expand its corporate offices. An additional amendment was entered into on January 3, 2020, which expanded our former corporate offices to approximately 85,681 square feet. During 2021, we moved our corporate headquarters to a new location, however, we continue to use the leased property for ZMS operations. The lease and subsequent amendments continue through June 30, 2023 with an option for a two-year extension through June 2025. 28 Table of Contents In addition to our corporate headquarters, we entered into a lease agreement for a warehouse and production facility with approximately 50,488 square feet in September 2020. The lease continues through June 2026 with an option for a five-year extension through June 2031. In April 2021, we signed a sublease for a new corporate headquarters in Englewood, Colorado beginning in May 2021 for up to approximately 110,754 square feet. This lease runs through April 2028. During March 2022, we entered into a lease agreement for approximately 4,162 square feet of office space for the operations of ZMS in Boulder, Colorado. The lease began on April 1, 2022 and will run through April 1, 2025. We believe these leased properties are sufficient to support our current requirements and that we will be able to locate additional facilities as needed. See Note 11 to the Consolidated Financial Statements for additional information on these leases. ITEM 3. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 4. MINE SAFETY DISCLOSURES Not applicable. 29 Table of Contents PART II ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES On February 12, 2019, our common stock began trading on The Nasdaq Capital Market under the symbol “ZYXI”. Prior to uplisting to the Nasdaq Capital Market, the Company’s common stock was quoted on the OTCQB (managed by OTC Markets, Inc) under the symbol “ZYXI.” As of March 13, 2023, there were 36,634,459 shares of common stock outstanding and approximately 154 record holders of our common stock. Recent Sales of Unregistered Securities None. Purchases of Equity Securities by the Issuer and Affiliated Purchasers Issuer Purchases of Equity Securities The following table sets forth a summary of the Company’s purchases of common stock during the fourth quarter of 2022 pursuant to the Company’s authorized share repurchase program: (In Thousands) Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan October 1 - October 31, 2022 Share repurchase program (1) 19,653 $ 9.74 1,091,604 — November 1 - November, 2022 Share repurchase program (2) 312,035 $ 13.16 312,035 5,893 December 1 – December 31, 2022 Share repurchase program (2) 183,103 $ 13.87 495,138 3,352 Quarter Total Share repurchase program (1) 19,653 $ 9.74 1,091,604 — Share repurchase program (2) 495,138 $ 13.43 495,138 3,352 (1) Shares were purchased through the Company’s publicly announced share repurchase program dated June 9, 2022. The program was fully utilized during the Company’s fourth quarter. (2) Shares were purchased through the Company’s publicly announced share repurchase program approved by the Company’s Board of Directors on October 31, 2022. The program expires at the earlier of October 31, 2023 or reaching $10.0 million of repurchases. Dividends Our Board of Directors declared a special cash dividend of $0.10 per share and a 10% stock dividend during the fourth quarter of 2021, which was paid out and issued in January 2022. There can be no guarantee that we will continue to pay dividends. Any future determination to pay cash dividends will be at the discretion of the Board of Directors and will be dependent upon our financial condition, results of operations, capital requirements and such other factors as the Board deems relevant. 30 Table of Contents ITEM 6. [RESERVED] Not required. ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This Annual Report on Form 10-K contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain FDA clearance and CE marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, and other risks described herein and included in “Item 1A-Risk Factors.” OVERVIEW We operate in one primary business segment, electrotherapy and pain management products. As of December 31, 2022, the Company’s only active subsidiary is ZMI, a wholly-owned Colorado corporation, through which the Company conducts its U.S. electrotherapy and pain management operations. ZMS, a wholly-owned Colorado corporation, has developed a fluid monitoring system, which has received two utility patents and FDA approval in the U.S. ZMS also acquired Kestrel during 2021, which had two pulse-oximeter products they are developing and numerous patents. However, ZMS has achieved no revenues to date. The following information should be read in conjunction with our Consolidated Financial Statements and related notes contained in this Annual Report. HIGHLIGHTS During the year ended December 31, 2022, the Company achieved the followin ZMI ● Achieved a 23% increase in order growth, 21% growth in revenue, and a 98% increase in operating cash flows compared to the prior year; ● Recorded net income of $17.0 million and our 7 th consecutive profitable year; ● Achieved higher sales representative productivity with increase revenue per sales representative; ● Due to strong results and related cash flow, we repurchased over $26 million worth of Company stock; ● Ranked 11 th in Forbes list of “Americas Best Small Companies 2023”; ● Ranked 33 rd in the Top 100 Healthcare Technology Companies of 2022 according to The Healthcare Technology Report; ● Included in the Deloitte Technology Fast 500 Fastest Growing Companies for a 4 th consecutive year. 31 Table of Contents ZMS ● Fully integrated Kestrel Labs, Inc. in Q1 2022. ● Completed multiple IRB-approved clinical studies including the apheresis blood donation study with Vitalant Research Institute, and studies at Yale University where subjects underwent simulated hemorrhage using a lower body negative pressure chamber. ● Applied to the U.S. Food and Drug Administration (“FDA”) in Q1 2023 for consideration through its Breakthrough Devices Program for NiCO. Inflation Reduction Act On August 16, 2022, President Biden signed the Inflation Reduction Act of 2022, or IRA, into law, which among other things, (i) directs the U.S. Department of Health and Human Services, or HHS, to negotiate the price of certain high-expenditure, single-source drugs and biologics covered under Medicare, and subjects drug manufacturers to civil monetary penalties and a potential excise tax for offering a price that is not equal to or less than the negotiated “maximum fair price” under the law; (ii) imposes rebates under Medicare Part B and Medicare Part D to penalize drug price increases that outpace inflation; and (iii) redesigns the Medicare Part D program, increasing manufacturer rebates within the catastrophic coverage phase. The IRA permits HHS to implement many of these provisions through guidance, as opposed to regulation, for the initial years. These provisions will take effect progressively beginning in fiscal year 2023, although they may be subject to legal challenges. It is currently unclear how the IRA will be effectuated but is likely to have a significant impact on the pharmaceutical industry. The IRA also includes various tax provisions, including an excise tax on stock repurchases, expanded tax credits for clean energy incentives, and a corporate alternative minimum tax that generally applies to U.S. corporations with average adjusted financial statement income over a three year period in excess of $1 billion. The Company does not expect these tax provision to materially impact its financial statements. SUMMARY Net revenue increased 21% in 2022 to $158.2 million from $130.3 million in 2021. Net income was $17.0 million and $17.1 million for the years ended December 31, 2022, and 2021, respectively. Cash flows from operating activities increased 98% or $6.8 million to $13.7 million for the year ended December 31, 2022. Increased orders for our devices and supplies and the related receivables and cash flows, which allowed us to repurchase $26.4 million of common stock and maintain working capital of $48.5 million at December 31, 2022. 32 Table of Contents RESULTS OF OPERATIONS The following table presents our consolidated statements of operations in comparative format (in thousands). For the Years Ended December 31, $ 2022 2021 change NET REVENUE Devices $ 43,497 $ 36,613 $ 6,884 Supplies 114,670 93,688 20,982 Total net revenue 158,167 130,301 27,866 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue – devices and supplies 32,005 27,321 4,684 Sales and marketing 67,116 54,290 12,826 General and administrative 36,108 26,324 9,784 Total costs of revenue and operating expenses 135,229 107,935 27,294 Income from operations 22,938 22,366 572 Other expense Loss on change in fair value of contingent consideration (300) — (300) Interest expense (440) (95) (345) Other expense, net (740) (95) (645) Income from operations before income taxes 22,198 22,271 (73) Income tax expense 5,150 5,168 (18) Net income $ 17,048 $ 17,103 $ (55) Net income per sh Basic $ 0.44 $ 0.45 $ (0.00) Diluted $ 0.44 $ 0.44 $ (0.00) Weighted average basic shares outstanding 38,467 38,317 150 Weighted average diluted shares outstanding 39,127 39,197 (70) 33 Table of Contents The following table presents our consolidated statements of operations reflected as a percentage of total reve For the Years Ended December 31, 2022 2021 NET REVENUE Devices 28 % 28 % Supplies 72 % 72 % Total net revenue 100 % 100 % COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue – devices and supplies 20 % 21 % Sales and marketing 42 % 42 % General and administrative 23 % 20 % Total costs of revenue and operating expenses 85 % 83 % Income from operations 15 % 17 % Other income/(expense) Loss on change in fair value of contingent consideration 0 % 0 % Interest expense 0 % 0 % Other income/(expense), net 0 % 0 % Income from operations before income taxes 14 % 17 % Income tax expense 3 % 4 % Net income 12 % 13 % Net income per sh Basic 0.44 0.45 Diluted 0.44 0.44 Weighted average basic shares outstanding 38,467 38,317 Weighted average diluted shares outstanding 39,127 39,197 Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the health care industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the Consolidated Financial Statements for a more complete explanation of our revenue recognition policies. 34 Table of Contents We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $27.9 million or 21% to $158.2 million for the year ended December 31, 2022, from $130.3 million for the year ended December 31, 2021. The growth in net revenue is primarily related to the 23% growth in device orders which led to an increased customer base and drove higher sales of consumable supplies. Device Revenue Device revenue is related to the purchase or lease of our electrotherapy products as well as complementary products including cervical traction, lumbar support, knee braces and hot/cold therapy products. Device revenue increased $6.9 million or 19% to $43.5 million for the year ended December 31, 2022, from $36.6 million for the year ended December 31, 2021. The increase in device revenue is related to the growth in our device and complementary product orders of 23% from 2021 to 2022 as a result of greater sales representative productivity. Supplies Revenue Supplies revenue is related to the sale of supplies, typically electrodes and batteries, for our products. Supplies revenue increased $21.0 million or 22% to $114.7 million for the year ended December 31, 2022, from $93.7 million for the year ended December 31, 2021. The increase in supplies revenue is primarily related to growth in our customer base from higher device sales in 2022 and prior years. Operating Expenses Costs of Revenue –Devices and Supplies Costs of revenue – devices and supplies consist primarily of device and supplies costs, operations labor and overhead, shipping and depreciation. Costs of revenue increased $4.7 million or 17% to $32.0 million for the year ended December 31, 2022, from $27.3 million for the year ended December 31, 2021. The increase in costs of revenue is directly related to the increase in device and supplies orders. As a percentage of revenue, cost of revenue –devices and supplies decreased to 20% for the year ended December 31, 2022 compared to 21% for the year ended December 31, 2021. The decrease in cost of revenue – devices and supplies as a percentage of revenue was due to expanding our supplier portfolio mix and reducing supply costs. Sales and Marketing Expense Sales and marketing expense primarily consists of employee-related costs, including commissions and other direct costs associated with these personnel including travel and marketing expenses. Sales and marketing expense for the year ended December 31, 2022 increased 24% to $67.1 million from $54.3 million for the year ended December 31, 2021. The increase in sales and marketing expense is primarily due to increased salaries of sales personnel related to an expanded sales force, tightened job market and inflation. Increased orders resulted in higher sales commissions as well as travel expenses. As a percentage of revenue, sales and marketing expense remained flat at 42% for both years ended December 31, 2022 and 2021. 35 Table of Contents General and Administrative Expense General and administrative expense primarily consists of employee related costs, facilities expense, professional fees and depreciation and amortization. General and administrative expense for the year ended December 31, 2022 increased 37% to $36.1 million from $26.3 million for the year ended December 31, 2021. The increase in general and administrative expense is primarily due to the followin ● an increase of $2.6 million and $2.5 million in compensation and benefits expense, including non-cash stock compensation expense, related to headcount growth and inflationary salary increases for ZMI and ZMS, respectively; ● an increase of $3.3 million in other expenses, including professional fees, ZMS product development, and other general and administrative costs associated with the increase in order volumes; ● an increase of $0.7 million in rent and facilities expenses due to a full year of expense, as we entered into a new corporate headquarters lease during May 2021. Much of the increase in facilities was non-cash as we received 21 months of free rent on the new corporate headquarters but for GAAP purposes the rent over the lease term is expensed on a straight-line basis; and ● an increase of $0.9 million in amortization expense related due to a full year of expense of the intangible assets acquired in December 2021. As a percentage of revenue, general and administrative expense increased to 23% for the year ended December 31, 2022 from 20% for the year ended December 31, 2021. The increase as a percentage of revenue is primarily due to the aforementioned increase in expenses, partially offset by increased revenue during the year ended December 31, 2022. The Company expects that general and administrative expenses will continue to increase through 2023 as the Company continues to expand its corporate headcount to accommodate continued order growth and continued research and development activities at ZMS. Other Income (Expense) Other expense was $0.7 million for the year ended December 31, 2022, of which $0.4 million was related to interest on debt obtained in December 2021, and a $0.3 million loss on the change in fair value of contingent consideration acquired in December 2021. Other expense was $0.1 million for the year ended December 31, 2021. Income Tax Expense We recorded income tax expense of $5.2 million and $5.2 million for the years ended December 31, 2022 and 2021, respectively. The effective income tax rate for the years ended December 31, 2022 and 2021 was 23% and 24%, respectively. The decrease in the effective rate during 2022 is primarily due to research and development credits. FINANCIAL CONDITION As of December 31, 2022, we had working capital of $48.5 million, compared to $59.8 million as of December 31, 2021. The decrease in working capital is primarily due to decreases in cash due to the Company’s repurchase of $26.6 million of Company stock, a cash dividend of $3.6 million which was paid in January 2022, and principal payments on our long-term loan of $5.3 million during 2022. We generated $13.7 million and $6.9 million in operating cash flows during the years ended December 31, 2022 and 2021, respectively. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. As of December 31, 2022, our principal source of liquidity was $20.1 million in cash, $35.1 million in accounts receivables, and our working capital balance of $48.5 million. 36 Table of Contents Upon closing on the Kestrel acquisition in December 2021, we entered into a loan and credit facility agreement with Bank of America, N.A. The credit facility includes a line of credit in the amount of $4.0 million available until December 1, 2024, which the Company has not drawn from since inception of the agreement. The loan is a fixed rate term loan in the amount of $16.0 million and has an interest rate equal to 2.8% per year. The term loan is payable in equal principal installments of $0.4 million per month through December 1, 2024 plus interest on the first day of each month beginning January 1, 2022. (See Note 7). Our anticipated uses of cash in the future will be to fund the expansion of our business. Net cash provided by operating activities for the years ended December 31, 2022 and 2021 was $13.7 million and $6.9 million, respectively. The increase in cash provided by operating activities for the year ended December 31, 2022 was primarily due to increased collections in 2022, and an increase in non-cash amortization and stock compensation expenses. Cash provided by operating activities for the year ended December 31, 2021 was primarily due to profitability, which was offset by increased accounts receivable due to revenue growth. Net cash used in investing activities for the years ended December 31, 2022 and 2021 was $0.4 million and $16.6 million, respectively. Cash used in investing activities for the year ended December 31, 2022 was primarily related to the purchase of computer, office and warehouse equipment. Cash used in investing activities for the year ended December 31, 2021 was primarily related to the acquisition of Kestrel and the purchase of computer, office and warehouse equipment. Net cash used in financing activities for the year ended December 31, 2022 was $35.8 million compared with net cash provided by financing activities of $13.1 million for the year ended December 31, 2021. The cash used in financing activities of $35.8 million for the year ended December 31, 2022 was primarily due to the repurchase of Company stock totaling $26.4 million, principal payments made on our term loan totaling $5.3 million and the payment of cash dividends in January 2022 totaling $3.6 million. The cash provided by financing activities of $13.1 million for the year ended December 31, 2021 was primarily due to net proceeds from debt assumed in the Kestrel acquisition of $16.0 million, which is slightly offset by the purchase of treasury stock totaling $2.7 million. We believe our cash, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash balance at December 31, 2022 of $20.1 million; ● Our working capital balance of $48.5 million; ● Our accounts receivable balance of $35.1 million; ● Our increasing profitability over the last 7 years; and ● Our planned capital expenditures of approximately $2.0 million during 2023 . Contractual Obligations The following table summarizes the future cash disbursements to which we are contractually committed as of December 31, 2022 (in thousands). Total 2023 2024 2025 2026 2027 Thereafter Operating leases 17,788 3,055 3,571 3,586 3,362 3,150 1,064 Finance leases 359 152 116 76 15 — — $ 18,147 $ 3,207 $ 3,687 $ 3,662 $ 3,377 $ 3,150 $ 1,064 We lease office and warehouse facilities under non-cancelable operating leases. The current office facility leases include our current and former corporate headquarters and a production warehouse, all located in Englewood, Colorado and a lease in Boulder, Colorado 37 Table of Contents for the operations of ZMS Boulder. We also rent a small office in Denmark. Rent expense was $4.5 million and $3.5 million for the years ended December 31, 2022 and 2021, respectively. A portion of the increase in facilities was non-cash as we received 21 months of free rent on the new corporate headquarters but for GAAP purposes, the rent is expensed over the lease term on a straight-line basis. The Company also leases office equipment for its corporate and warehouse facilities under non-cancelable finance lease agreements. CRITICAL ACCOUNTING POLICIES AND SIGNIFICANT ESTIMATES In preparing our consolidated financial statements in accordance with GAAP, we are required to make estimates and assumptions that affect the amounts of assets, liabilities, revenue, costs and expenses, and disclosure of contingent liabilities that are reported in the consolidated financial statements and accompanying disclosures. We believe that the estimates, assumptions and judgments involved in the accounting policies described below have the greatest potential impact on our financial statements because they involve the most difficult, subjective or complex judgments about the effect of matters that are inherently uncertain. Therefore, we consider these to be our critical accounting policies. Accordingly, we evaluate our estimates and assumptions on an ongoing basis. Our actual results may differ from these estimates and assumptions. See Note 2 to the Consolidated Financial Statements of this Annual Report on Form 10-K for information about these critical accounting policies, as well as a description our other accounting policies. Revenue Recognition and Accounts Receivable Revenue is generated primarily from sales and leases of our electrotherapy devices and related supplies and complementary products. Sales are primarily made with, and shipped, direct to the patient with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contract with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. Device Sales Device sales can be in the form of a purchase or a lease. Revenue for purchased devices is recognized in accordance with Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (ASC 606) when the device is delivered to the patient and all performance obligations are fulfilled. Revenue related to devices out on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, we concluded our transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. 38 Table of Contents Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since our leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Supplies Supplies revenue is recognized once supplies are delivered to the patient. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. Variable Consideration A significant portion of the Company’s revenues are derived, and the related receivables are due, from patients with commercial or government health insurance plans. Revenues are estimated using the portfolio approach by third party payer type based upon historical rates of collection, the aging of receivables, trends in the historical reimbursement rates by third-party payer types and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Due to continuing changes in the health care industry and third-party payer reimbursement, it is possible our forecasting model to estimate collections could change, which could have an impact on our results of operations and cash flows. Any differences between estimated settlements and final determinations are reflected as an increase or a reduction to revenue in the period when such final determinations are known. Historically these differences have been immaterial, and the Company has not had to go back and reassess the adjustments of future periods for past billing adjustments. The Company monitors the variability and uncertain timing over third-party payer types in our portfolios. If there is a change in our third-party payer mix over time, it could affect our net revenue and related receivables. We believe we have a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved. Income Taxes Significant judgment is required in determining our provision for income taxes. We assess the likelihood that our deferred tax asset will be recovered from future taxable income, and to the extent we believe that recovery is not likely, we establish a valuation allowance. We consider future taxable income projections, historical results and ongoing tax planning strategies in assessing the recoverability of deferred tax assets. However, adjustments could be required in the future if we determine that the amount to be realized is less or greater than the amount that we recorded. Such adjustments, if any, could have a material impact on our results of our operations. We use a recognition threshold and a measurement attribute for the financial statement recognition and measurement of tax positions taken or expected to be taken in a tax return. For those benefits to be recognized, a tax position must be more-likely-than-not to be sustained upon examination by taxing authorities. 39 Table of Contents Acquisition Method of Accounting for Business Combinations We allocate the purchase price of acquired companies to the tangible and intangible assets acquired and liabilities assumed based on their estimated fair values. The excess of the purchase price over these fair values is recorded as goodwill. We engage independent third-party valuation specialists to assist us in determining the fair values of certain assets acquired and liabilities assumed. Such valuation require management to make significant estimates and assumptions, especially with respect to intangible assets. Different valuations approaches are used to value different types of intangible assets. Under the income approach, the relief from royalty method is a valuation technique which is used to estimate the value of certain intangible assets. This method utilizes projected financial information and hypothetical royalty rates to estimate the cost savings associated with asset ownership. The estimated cost savings are discounted for risk and the time value of money to estimate an intangible asset’s fair value. Management’s estimates of fair value are based upon assumptions believed to be reasonable, but which are inherently uncertain and unpredictable. If we do not achieve the results reflected in the assumptions and estimates, our goodwill impairment evaluations could be adversely affected, and we may impair a portion or all of our intangible assets, which would adversely affect our operating results in the period of impairment. Impairment of Long-lived Assets, Including Goodwill We assess impairment of goodwill annually and other long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Long-lived assets consist of property and equipment, net and goodwill and intangible assets. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Contingent Considerations We classify contingent consideration liabilities related to business acquisitions within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. We estimate the fair value of contingent consideration liabilities using a Monte Carlo simulation which is based on equity volatility, the risk-free rate, the normal variate, projected milestone dates, discount rates, and probabilities of payment. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK As a “Smaller Reporting Company”, this Item and the related disclosure is not required. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The consolidated financial statements, the notes thereto, and the report thereon of Marcum LLP, are filed as part of this report starting on page F-2. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. None. 40 Table of Contents ITEM 9A. CONTROLS AND PROCEDURES Evaluation of disclosure controls and procedures Our management, including our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934), as amended, or the Exchange Act, as of December 31, 2022. Based on management’s review, with participation of our Chief Executive Officer and Chief Financial Officer, the Chief Executive Officer and Chief Financial Officer have concluded that, as of the quarter ended December 31, 2022, our disclosure controls and procedures were not effective due to the material weakness in internal control over financial reporting as described below. Management’s report on internal control over financial reporting Our management is responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(e) of the Exchange Act). Management, with the participation of our Chief Executive Officer and Chief Financial Officer, has assessed the effectiveness of internal control over financial reporting as of December 31, 2022, based upon the framework in Internal Control- Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission, or COSO. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the Company’s annual or interim financial statements will not be prevented or detected on a timely basis. Based upon this evaluation and the material weakness identified below, our management concluded that our internal control over financial reporting was not effective as of December 31, 2022. Material Weakness in Internal Control We identified a material weakness related to Information Technology General Controls (ITGCs) that were not designed and operating effectively to ensure (i) appropriate segregation of duties was in place to perform program changes and (ii) the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted. The material weakness identified above did not result in any material misstatements in our financial statements or disclosures, and there were no changes to previously released financial results. Our management concluded that the consolidated financial statements included in this Annual Report on Form 10-K, present fairly, in all material respects, our financial position, results of operations, and cash flows for the periods presented in accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP. The effectiveness of our internal control over financial reporting as of December 31, 2022, has been audited by Marcum LLP as stated in their report, which is included in Item 8 of this Annual Report on Form 10-K. Remediation Plan Our management is committed to maintaining a strong internal control environment. In response to the identified material weakness above, management will take comprehensive actions to remediate the material weakness in internal control over financial reporting. We are in the process of developing and implementing remediation plans to address the material weakness described above. Changes in Internal Control over Financial Reporting Except for the items referred to above, there were no changes in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the quarter ended December 31, 2022 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting. Inherent Limitation on the Effectiveness of Internal Control Our management, including our Chief Executive Officer and Chief Financial Officer, do not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by 41 Table of Contents management override of the controls. The design of any system of controls is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with policies or procedures may deteriorate. Due to inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. ITEM 9B. OTHER INFORMATION None. ITEM 9C. DISCLOSURE REGARDING FOREIGN JURISDICTIONS THAT PREVENT INSPECTIONS Not applicable. 42 Table of Contents PART III ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2022 in connection with the solicitation of proxies for the Company’s 2023 annual meeting of stockholders and is incorporated herein by reference. ITEM 11. EXECUTIVE COMPENSATION The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2022 and is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS. EQUITY COMPENSATION PLAN INFORMATION The following table provides information as of December 31, 2022 regarding shares of common stock available for issuance under our equity incentive plans (in thousands except exercise price): Number of Number of Securities Securities to be Remaining Available Issued Upon Weighted for Future Issuance Exercise of Average Exercise Under Equity Outstanding Price of Compensation Plans Options, Outstanding (excluding securities Warrants Options, Warrants reflected in the first and Rights and Rights column) Plan Category 2005 Stock Option Plan (1) (2) 211 $ 0.20 — Warrants 99 2.40 — 2017 Stock Option Plan (3) 1,005 2.07 3,836 Total 1,315 $ 1.79 3,836 (1) All of these securities are available for issuance under the Zynex, Inc. 2005 Stock Option Plan, approved by the Board of Directors on January 3, 2005 and by our stockholders on December 30, 2005. (2) As of December 31, 2014, the 2005 Stock Option Plan was terminated. Termination of the plan did not affect the rights and obligations of the participants and the company arising under options previously granted. (3) The 2017 Stock Option Plan was approved by stockholders on June 1, 2017. The additional information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2022 and is incorporated herein by reference. 43 Table of Contents ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2022 and is incorporated herein by reference. The Board of Directors has determined that Messrs. Cress, Disbrow and Michaels who together comprise the Audit Committee, are all “independent directors” within the meaning of Rule 5605 of the NASDAQ Listing Rules. ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES The information required by this item will be included in the Proxy Statement, which will be filed with the Securities and Exchange Commission not later than 120 days after the end of our fiscal year ended December 31, 2022 and is incorporated herein by reference. 44 Table of Contents PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES Consolidated Financial Statements: Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting F-1 Report of Independent Registered Public Accounting Firm (Marcum LLP, New York, NY PCAOB firm ID 688 ) F-3 Report of Independent Registered Public Accounting Firm (Plante & Moran, PLLC, Denver, CO PCAOB firm ID 166 ) F-5 Consolidated Balance Sheets as of December 31, 2022 and 2021 F-6 Consolidated Statements of Income for the years ended December 31, 2022 and 2021 F-7 Consolidated Statements of Cash Flows for the years ended December 31, 2022 and 2021 F-8 Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2022 and 2021 F-9 Notes to Consolidated Financial Statements F-10 Exhibits: Exhibit Number Description 2.1 Asset Purchase Agreement, dated March 9, 2012, among Zynex NeuroDiagnostics, Inc., NeuroDyne Medical Corp. and the shareholders listed on Schedule A thereto (incorporated by reference to Exhibit 10.1 of the Company’s Current Report on Form 8-K filed on March 13, 2012) 3.1 Amended and Restated Articles of Incorporation (incorporated by reference to Exhibit 10.1 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 3.2 Amended and Restated Bylaws (incorporated by reference to Exhibit 10.2 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 4.1 Zynex, Inc 2017 Stock Incentive Plan (incorporated by reference to Exhibit 4.1 to the Company’s Report on form S-8 filed on September 6, 2017) 4.2 Description of registrant’s securities registered pursuant to Section 12 of the Securities Exchange Act of 1934 (incorporated by reference to Exhibit 4.2 to the Company’s Annual Report on Form 10-K filed on March 22, 2022) 10.1† 2005 Stock Option Plan (incorporated by reference to Exhibit 10.5 of the Company’s Annual Report on Form 10-KSB for the year ended December 31, 2004) 10.2† Form of Indemnification Agreement for directors and executive officers (incorporated by reference to Exhibit 10.3 of the Company’s Current Report on Form 8-K filed on October 7, 2008) 10.3† Employment agreement for Daniel J. Moorhead dated June 5, 2017 (incorporated by reference of Exhibit 10.1 to the Company’s Report on Form 8K filed on June 8, 2017) 10.4 Office Lease, effective October 20, 2017, between CSG Systems, Inc. and Zynex Medical, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on October 26, 2017). 10.5 Zynex, Inc. Non-Employee Director Compensation Plan (incorporated by reference to Exhibit 10.1 to the Company’s Report on Form 8-K filed on January 11, 2018) 10.6 Equity Distribution Agreement, dated October 29, 2019 between Zynex, Inc. and Piper Jaffray & Co. (incorporated by reference to Exhibit 1.1 of the Company’s Current Report on Form 8-K filed on October 29, 2019) 45 Table of Contents Exhibit Number Description 10.7 Amendment to Sublease Agreement, effective January 3, 2020, between CSG Systems, Inc. and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on January 7, 2020 10.8 Underwriting Agreement dated July 14, 2020, among certain selling stockholders, Piper Sandler & Co., and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on July 17, 2020) 10.9 Lease Agreement, effective September 30, 2020, between GIG CW Compark, LLC and Zynex, Inc. (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on October 6, 2020). 10.10 Sublease Agreement between Zynex, Inc. and Cognizant Trizetto Software Group, Inc. dated April 8, 2021 (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on April 9, 2021) 10.11 Stock Purchase Agreement by and among Kestrel Labs, Inc., Zynex Monitoring Solutions Inc., Zynex, Inc. and Selling Shareholders named herein dated as of December 22, 2021 (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on December 23, 2021) 10.12 The Loan Agreement and accompanying documents dated December 22, 2021 among Bank of America N.A., Zynex Medical, Inc., and Zynex Monitoring Solutions (incorporated by reference to Exhibit 10.1 of the Company’s Report on Form 8-K filed on December 30, 2021) 46 Table of Contents Exhibit Number Description 21* Subsidiaries of the Company 23.1* Consent of Marcum LLP, Independent Registered Public Accounting Firm (Filed herewith) 23.2* Consent of Plante & Moran, PLLC, Independent Registered Public Accounting Firm (Filed herewith) 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1* Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2* Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB* XBRL Taxonomy Label Linkbase Document 101.PRE* XBRL Presentation Linkbase Document 101.DEF* XBRL Taxonomy Extension Definition Linkbase Document 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith † Denotes management contract or compensatory plan or arrangement ITEM 16. FORM 10-K SUMMARY None. 47 Table of Contents SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. ZYNEX, INC. Date: March 13, 2023 By : /s/ Thomas Sandgaard Thomas Sandgaard Chairman, President, Chief Executive Officer and Principal Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Date Name and Title Signature March 13, 2023 Thomas Sandgaard, /s/ Thomas Sandgaard Chairman, President, Chief Executive Officer and Principal Executive Officer March 13, 2023 Daniel Moorhead /s/ Daniel Moorhead Chief Financial Officer and Principal Financial Officer March 13, 2023 Barry D. Michaels /s/ Barry D. Michaels Director March 13, 2023 Michael Cress /s/ Michael Cress Director March 13, 2023 Joshua R. Disbrow /s/ Joshua R. Disbrow Director 48 Table of Contents Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting To the Shareholders and Board of Directors of Zynex, Inc. Adverse Opinion on Internal Control over Financial Reporting We have audited Zynex, Inc. ’s (the “Company”) internal control over financial reporting as of December 31, 2022 , based on criteria established in Internal Control-Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. In our opinion, because of the effect of the material weaknesses described in the following paragraph on the achievement of the objectives of the control criteria, the Company has not maintained effective internal control over financial reporting as of December 31 2022, based on criteria established in Internal Control-Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. A material weakness is a control deficiency, or combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the Company’s annual or interim financial statements will not be prevented or detected on a timely basis. The following material weaknesses have been identified and included in “ Management’s Annual Report on Internal Control Over Financial Reporting”: IT General Controls (“ITGC”), deficiencies were identified Information technology general controls (ITGCs) were not designed and operating effectively to ensure (i) that appropriate segregation of duties was in place to perform program changes and (ii) that the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted This material weakness was considered in determining the nature, timing and extent of audit tests applied in our audit of the fiscal December 31, 2022 consolidated financial statements, and this report does not affect our report dated March 13, 2023 on those financial statements. We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the consolidated balance sheets as of December 31, 2022 and the related consolidated statements of income, shareholders’ equity, and cash flows for the December 31, 2022 of the Company and our report dated March 13, 2023 expressed an unqualified opinion on those financial statements. Basis for Opinion The Company’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying “Management Annual Report on Internal Control Over Financial Reporting”. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. F-1 Table of Contents Definition and Limitations of Internal Control over Financial Reporting A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of the inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that degree of compliance with the policies or procedures may deteriorate. Marcum llp New York March 13, 2023 F-2 Table of Contents Report of Independent Registered Public Accounting Firm To the Shareholders and Board of Directors of Zynex Inc. Opinion on the Financial Statements We have audited the accompanying consolidated balance sheet of Zynex Medical, Inc. (the “Company”) as of December 31, 2022, the related consolidated statements of income , stockholders’ equity and cash flows for the one year in the period ended December 31, 2022, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2022, and the results of its operations and its cash flows for each of the year in the period ended December 31, 2022, in conformity with accounting principles generally accepted in the United States of America. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the Company’s internal control over financial reporting as of December 31, 2022, based on the criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in 2013 and our report dated March 13, 2023 , expressed an adverse opinion on the effectiveness of the Company’s internal control over financial reporting because of the existence of material weaknesses. Basis for Opinion These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audit included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audit also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audit provide a reasonable basis for our opinion. Critical Audit Matters The critical audit matters communicated below are matters arising from the current period audit of the financial statements that were communicated or required to be communicated to the audit committee and tha (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate. Estimation of Transaction Price and Variable Consideration for Revenue Recognition including related Valuation of Accounts Receivable Critical Audit Matter Description The Company’s revenue is derived from sales and leases of electrotherapy devices and sales of related supplies and complementary products. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. The Company estimates revenues using the portfolio approach based upon historical rates of collection, aging of receivables, product mix, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated variable consideration and relevant constraints for third-party payer refund requests, deductions and adjustments. F-3 Table of Contents We identified the Company’s estimation of transaction price related to variable consideration for revenue recognition, including the related valuation of accounts receivable, as a critical audit matter. Auditing the Company's determination of variable consideration and the related constraint for revenue recognition including the recorded value for accounts receivable was challenging and complex due to the high degree of subjectivity involved in evaluating management’s estimates. This required a high degree of auditor judgment and increased extent of effort to audit and evaluate management’s key judgments. How the Critical Audit Matter Was Addressed in the Audit Our audit procedures related to revenue recognition and accounts receivable include the following, among othe · We gained an understanding of the design of the controls over the Company ’ s contracts with customers including those controls over the processes to develop key management estimates. · We performed testing throughout the year on a sample of contracts to test the validity of sales transactions and cash receipts application. · We evaluated the significant assumptions and the accuracy and completeness of the underlying data used in management ’ s calculations, including evaluating management ’ s estimate of historical reimbursement experience as well as expected future payment behavior through a combination of underlying data validation by inspection of source documents, independent recalculation of management ’ s analysis, review of correspondence with third-party payers, inquiries with management and evaluation of trends in collection rates and refund requests. · We performed independent sensitivity analyses over the Company's significant assumptions embodied within their key estimates including evaluation of subsequent payment activity compared with management ’ s estimate of expected collection rates. /s/ Marcum LLP Marcum LLP We have served as the Company’s auditor since 2022. New York, NY March 13, 2023 F-4 Table of Contents Report of Independent Registered Public Accounting Firm To the Stockholders and Board of Directors of Zynex, Inc. Opinion on the Financial Statements We have audited the accompanying consolidated balance sheet of Zynex, Inc. (the “Company”) as of December 31, 2021 and the related consolidated statements of income, stockholders' equity, and cash flow for the year ended December 31, 2021, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2021, and the results of its operations and its cash flows for the year ended December 31, 2021, in conformity with accounting principles generally accepted in the United States of America. Basis for Opinion The Company's management is responsible for these financial statements. Our responsibility is to express an opinion on the Company’s financial statements based on our audit. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company was not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audit, we were required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. Our audit included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audit also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audit provides a reasonable basis for our opinion. /s/ Plante & Moran, PLLC We served as the Company’s auditor from 2016-2022. Denver, Colorado March 21, 2022 F-5 Table of Contents ZYNEX, INC. CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) December 31, December 31, 2022 2021 ASSETS Current assets: Cash $ 20,144 $ 42,612 Accounts receivable, net 35,063 28,632 Inventory, net 13,484 10,756 Prepaid expenses and other 868 689 Total current assets 69,559 82,689 Property and equipment, net 2,175 2,186 Operating lease asset 12,841 16,338 Finance lease asset 270 389 Deposits 591 585 Intangible assets, net of accumulated amortization 9,067 9,975 Goodwill 20,401 20,401 Deferred income taxes 1,562 711 Total assets $ 116,466 $ 133,274 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabiliti Accounts payable and accrued expenses 5,601 4,739 Cash dividends payable 16 3,629 Operating lease liability 2,476 2,859 Finance lease liability 128 118 Income taxes payable 1,995 2,296 Current portion of debt 5,333 5,333 Accrued payroll and related taxes 5,537 3,897 Total current liabilities 21,086 22,871 Long-term liabiliti Long-term portion of debt, less issuance costs 5,293 10,605 Contingent consideration 10,000 9,700 Operating lease liability 13,541 15,856 Finance lease liability 188 317 Total liabilities 50,108 59,349 Commitments and contingencies (Note 13) Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of December 31, 2022 and December 31, 2021 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,658,132 issued and 36,825,081 outstanding as of December 31, 2022 41,400,834 issued and 39,737,890 outstanding as of December 31, 2021 (including 3,606,970 shares declared as a stock dividend on November 9, 2021 and issued on January 21, 2022) 39 41 Additional paid-in capital 82,431 80,397 Treasury stock of 4,253,015 and 1,246,399 shares, at December 31, 2022 and 2021, respectively, at cost ( 33,160 ) ( 6,513 ) Retained earnings 17,048 — Total stockholders’ equity 66,358 73,925 Total liabilities and stockholders’ equity $ 116,466 $ 133,274 See accompanying notes to consolidated financial statements. F-6 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) YEARS ENDED DECEMBER 31, 2022 AND 2021 For the Years Ended December 31, 2022 2021 NET REVENUE Devices $ 43,497 $ 36,613 Supplies 114,670 93,688 Total net revenue 158,167 130,301 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 32,005 27,321 Sales and marketing 67,116 54,290 General and administrative 36,108 26,324 Total costs of revenue and operating expenses 135,229 107,935 Income from operations 22,938 22,366 Other expense Loss on change in fair value of contingent consideration ( 300 ) — Interest expense ( 440 ) ( 95 ) Other expense, net ( 740 ) ( 95 ) Income from operations before income taxes 22,198 22,271 Income tax expense 5,150 5,168 Net income $ 17,048 $ 17,103 Net income per sh Basic $ 0.44 $ 0.45 Diluted $ 0.44 $ 0.44 Weighted average basic shares outstanding 38,467 38,317 Weighted average diluted shares outstanding 39,127 39,197 See accompanying notes to consolidated financial statements. F-7 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) YEARS ENDED DECEMBER 31, 2022 AND 2021 For the Years Ended December 31, 2022 2021 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 17,048 $ 17,103 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation 2,197 2,261 Amortization 930 25 Non-cash reserve charges 82 ( 107 ) Stock-based compensation 2,342 1,630 Non-cash lease expense 800 1,398 Loss on change in fair value of contingent consideration 300 — Benefit for deferred income taxes ( 851 ) ( 146 ) Change in operating assets and liabilities, net of the effects of acquisitio Accounts receivable ( 6,430 ) ( 14,781 ) Prepaid and other assets ( 180 ) 690 Accounts payable and other accrued expenses 1,834 2,889 Inventory ( 4,320 ) ( 3,776 ) Deposits ( 6 ) ( 237 ) Net cash provided by operating activities 13,746 6,949 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 418 ) ( 609 ) Business acquisition, net of cash acquired — ( 15,997 ) Net cash used in investing activities ( 418 ) ( 16,606 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 118 ) ( 98 ) Cash dividends paid ( 3,613 ) ( 1 ) Purchase of treasury stock ( 26,426 ) ( 2,667 ) Debt issuance costs — ( 16 ) Proceeds from the issuance of common stock on stock-based awards 46 161 Proceeds from debt — 15,953 Principal payments on long-term debt ( 5,333 ) — Taxes withheld and paid on employees' equity awards ( 352 ) ( 236 ) Net cash (used in) provided by financing activities ( 35,796 ) 13,096 Net increase (decrease) in cash ( 22,468 ) 3,439 Cash at beginning of period 42,612 39,173 Cash at end of period $ 20,144 $ 42,612 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 391 ) $ ( 82 ) Cash paid for rent $ ( 3,622 ) $ ( 2,109 ) Cash paid for income taxes $ ( 6,294 ) $ ( 3,305 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 211 $ 13,240 Right-of-use assets obtained in exchange for new finance lease liabilities $ — $ 175 Inventory transferred to property and equipment under lease $ 1,592 $ 1,587 Capital expenditures not yet paid $ 138 $ 47 Treasury stock not yet paid $ 224 $ — Accrual for cash dividend payable $ — $ 3,622 Contingent consideration related to acqusition $ — $ 9,700 Stock issued for acquisition $ — $ ( 4,701 ) Stock dividend $ — $ ( 36,911 ) See accompanying notes to consolidated financial statements. F-8 Table of Contents ZYNEX, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY YEARS ENDED DECEMBER 31, 2022 AND 2021 (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2020 38,244,310 $ 36 $ 37,235 $ ( 3,846 ) $ 23,430 $ 56,855 Exercised and vested stock-based awards 234,388 1 160 — — 161 Warrants exercised 11,000 — — — — — Stock-based compensation expense — — 1,630 — — 1,630 Shares of common stock withheld to pay taxes on employees’ equity awards ( 44,414 ) — ( 236 ) — — ( 236 ) Purchase of treasury stock ( 175,179 ) — — ( 2,667 ) — ( 2,667 ) Stock issued for acquisition 489,262 — 4,701 — — 4,701 Escrow shares issued for acquisition 978,523 — — — — — Cash dividends declared ($ 0.10 per share) — — — — ( 3,622 ) ( 3,622 ) Stock dividends declared — 4 36,907 — ( 36,911 ) — Net income — — — — 17,103 17,103 Balance at December 31, 2021 39,737,890 $ 41 $ 80,397 $ ( 6,513 ) $ — $ 73,925 Exercised and vested stock-based awards 322,237 1 45 — — 46 Stock-based compensation expense — — 2,342 — — 2,342 Shares of common stock withheld to pay taxes on employees’ equity awards ( 83,201 ) — ( 353 ) — — ( 353 ) Purchase of treasury stock ( 3,006,616 ) ( 3 ) — ( 26,647 ) — ( 26,650 ) Escrow shares adjustment ( 156,673 ) — — — — — Stock dividend adjustments 11,444 — — — — — Net income — — — — 17,048 17,048 Balance at December 31, 2022 36,825,081 $ 39 $ 82,431 $ ( 33,160 ) $ 17,048 $ 66,358 See accompanying notes to consolidated financial statements. F-9 Table of Contents ZYNEX, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 2022 AND 2021 (1) ORGANIZATION, NATURE OF BUSINESS Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of December 31, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Kestrel Labs, Inc. (“Kestrel,” a wholly-owned Colorado corporation), Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which was incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100 % of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO™ CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx™, a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. Food and Drug Administration (“FDA”) for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on drugs and medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All of our medical devices are designed to be patient friendly and designed for home use. Our devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of our medical devices are marketed in the U.S. and are subject to FDA regulation and approval. Our products require a physician’s prescription before they can be dispensed in the U.S. Our primary product is the NexWave device. The NexWave is marketed to physicians and therapists by our field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the years ended December 31, 2022, and 2021, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and health care providers. The Company declared a 10 % stock dividend on November 9, 2021, which was effective on January 21, 2022. Except as otherwise indicated, all related amounts reported in the consolidated financial statements, including common share quantities, earnings per share amounts and exercise prices of options, have been retroactively adjusted for the effect of this stock dividend. (2) SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. F-10 Table of Contents Use of Estimates Preparation of financial statements in conformity with generally accepted accounting principles in the United States of America (“GAAP”), requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying consolidated financial statements are associated with the expected net collectable value of its accounts receivable and related revenue, inventory reserves, the life of its leased unit devices, stock-based compensation, valuation of long-lived assets acquired in business combinations, valuation of contingent consideration and realizability of deferred tax assets. Fair Value of Financial Instruments The Company’s financial instruments include cash, accounts receivable, accounts payable and accrued liabilities. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at fair value which approximates book value as the long-term debt bears market rates of interest. The Company classifies contingent consideration liabilities related to business acquisitions within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. The Company estimates the fair value of contingent consideration liabilities using a Monte Carlo simulation. Changes in the fair value of contingent liabilities in subsequent periods are recorded as a loss (gain) in the statements of operations. Cash The Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. Short-term investments include investments with maturities greater than three months, but not exceeding 12 months, or highly liquid investments with maturities greater than 12 months that the Company intends to liquidate during the next 12 months for working capital needs. Accounts Receivable, Net The Company’s accounts receivables represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company bills the patient’s third-party payer or the patient. Billing adjustments represent the difference between the list prices and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written off after several appeals, which in some cases may take longer than twelve months. Primarily all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a small portion related to private pay individuals, attorney and auto claims. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. Following are the components of inventory as of December 31, 2022 and 2021: December 31, 2022 December 31, 2021 Raw materials $ 3,506 $ 4,471 Work-in-process 1,205 345 Finished goods 7,750 4,468 Inventory in transit 1,291 1,624 $ 13,752 $ 10,908 L reserve ( 268 ) ( 152 ) $ 13,484 $ 10,756 F-11 Table of Contents The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories equal to the difference between the costs of inventories on hand and the estimated market value based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Property and equipment is recorded at cost. Repairs and maintenance expenditures are charged to expense as incurred. We compute depreciation expense on a straight-line basis over the estimated useful lives of the assets as follows: Classification Estimated Useful Life Office furniture and equipment 5 to 7 years Assembly equipment 7 years Vehicles 5 years Leasehold improvements Shorter of useful life or term of lease Leased devices 9 months Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For our finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For our operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on our Consolidated Balance Sheets. For additional information on our leases where the Company is the lessee, see Note 11- Leases. F-12 Table of Contents A significant portion of our device revenue is derived from patients who obtain our devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with Accounting Standards Codification (“ASC”) 842, Leases. Using the guidance in ASC 842, we concluded our transactions should be accounted for as operating leases based on the following criteri ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since our leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when control of the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when control is deemed to have transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. The following table provides a breakdown of net revenue related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606”) and leases subject to ASC 842 (in thousands): For the Years Ended December 31, 2022 2021 Device revenue Purchased $ 14,393 $ 9,240 Leased 29,104 27,373 Total device revenue 43,497 36,613 Supplies revenue 114,670 93,688 Total revenue $ 158,167 $ 130,301 F-13 Table of Contents Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing in the future. The Company tests goodwill at least annually for impairment. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Advertising and Marketing Costs Advertising and marketing costs are expensed as incurred. Advertising and marketing costs are included in Sales and marketing expense in the Company's Consolidated Statements of Income. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision-Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. F-14 Table of Contents Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved. Earnings Per Share The Company calculates basic earnings per share on the basis of the weighted-average number of shares of common stock outstanding during the period. Diluted earnings per share is calculated using the weighted-average number of shares of common stock outstanding for the period plus the effect of potential dilutive common shares during the period using the treasury stock method. Potential shares of common stock outstanding include unvested restricted stock awards, shares held in escrow, vested and unvested unexercised stock options and common stock purchase warrants. Research and Development Research and development costs are expensed when incurred. During 2022 and 2021, we incurred research and development expenses of approximately $ 7.1 million and $ 2.6 million, respectively, related to our ZMS operations. During 2022, approximately $ 1.0 million of the expenses qualified for Section 174 - “Amortization of Research and Experimental Expenditures” tax treatment. Research and development, which includes salaries related to research and development and raw materials, are included in general and administrative expenses on the consolidated statements of comprehensive income. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. Recently Issued Accounting Pronouncements In August 2020, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2020-06, Debt — Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging — Contracts in Entity’s Own Equity (Subtopic 815-40) (“ASU 2020-06”) to simplify accounting for certain financial instruments. ASU 2020-06 eliminates the current models that require separation of beneficial conversion and cash conversion features from convertible instruments and simplifies the derivative scope exception guidance pertaining to equity classification of contracts in an entity’s own equity. The new standard also introduces additional disclosures for convertible debt and freestanding instruments that are indexed to and settled in an entity’s own equity. ASU 2020-06 amends the diluted earnings per share guidance, including the requirement to use the if-converted method for all convertible instruments. ASU 2020-06 is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years, with early adoption permitted. The Company adopted ASU 2020-06 effective as of January 1, 2022. The adoption of ASU 2020-06 did not have an impact on the Company’s consolidated financial statements. F-15 Table of Contents In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) (“ASU 2016-13”), Measurement of Credit Losses on Financial Instruments. The standard significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren’t measured at fair value through net income. The standard will replace today’s “incurred loss” approach with an “expected loss” model for instruments measured at amortized cost. For available-for-sale debt securities, entities will be required to record allowances rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. This ASU is effective for annual periods beginning after December 15, 2022, and interim periods therein for smaller reporting companies. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. The Company adopted this standard during the quarter ended June 30, 2022. The primary instrument that needed to be evaluated was the Company’s trade receivables and the impact was not material. Management has evaluated other recently issued accounting pronouncements and does not believe that those pronouncements will have a material impact on the Company’s consolidated financial statements. (3) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel Labs, Inc. (“Kestrel”) and each of the shareholders of Kestrel (collectively, the “Selling Shareholders”). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to ZMS. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,467,785 , (as adjusted pursuant to the stock dividend, see note 1) shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 978,524 of the Zynex Shares were deposited in escrow (the “Escrow Shares”). The number of Escrow Shares is subject to adjustment on the one-year anniversary of the Closing Date based on the number of shares equal to $ 10 million divided by a 30 -day volume weighted average closing price of the Zynex common stock. The Escrow Shares were adjusted on the anniversary date, which resulted in the cancellation of 156,673 Escrow Shares. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the Food and Drug Administration (the “FDA”) for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon notification from the FDA finding the Device can be marketed and sold in the United States. The amount of escrow shares were recalculated at December 31, 2021, and are included in the calculation of diluted earnings per share for December 31, 2021. No additional calculation was required for the Escrow Shares at December 31, 2022, as the Escrow Share number was finalized on the anniversary date, and the shares are included in the Company’s calculation of basic earnings per share. The maximum amount of Zynex shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares. The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. Summary of Purchase Consideration Presented below is a summary of the total purchase consideration for the Kestrel business combinations (in thousands except share data): Shares (1) Fair Value Cash Total Closing date cash — $ — $ 16,000 $ 16,000 Working capital distribution — — 78 78 Total cash paid — $ — $ 16,078 $ 16,078 Closing date equity Issued shares 444,784 4,701 — 4,701 Escrow shares 889,566 9,700 — 9,700 Total equity 1,334,350 $ 14,401 $ — $ 14,401 Total consideration 1,334,350 $ 14,401 $ 16,078 $ 30,479 F-16 Table of Contents (1) The amount of shares issued and included in escrow were not retroactively adjusted in the table above for the 10 % stock dividend declared on November 9, 2021 and issued on January 21, 2022. The issued and escrow shares after retroactive adjustment for the 10 % stock dividend were 489,262 and 978,523 shares, respectively, as shown in the Consolidated Statements of Stockholders’ Equity. Purchase Price Allocations Presented below is a summary of the purchase price allocations for the Kestrel business combinations on the acquisition date (in thousands): Purchase Price Allocation Current assets: Cash $ 80 Accounts receivable 15 Prepaid expenses and other 1 Total current assets $ 96 Long-term assets: Identifiable intangible assets 10,000 Total assets acquired $ 10,096 Less liabilities assu Accounts payable ( 18 ) Net identifiable assets acquired 10,078 Goodwill 20,401 Net assets acquired $ 30,479 The fair value of the identifiable intangibles assets is primarily related to patents which will be amortized over a useful life of 11 years . The excess of the purchase price over the fair value of the net assets acquired was recorded as goodwill. The goodwill is attributable to the benefits the Company expects to realize by enhancing its product offering and addressable markets, thereby contributing to an expanded revenue base. (4) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): December 31, 2022 December 31, 2021 Property and equipment Office furniture and equipment $ 2,819 $ 2,391 Assembly equipment 110 100 Vehicles 203 203 Leasehold improvements 1,173 1,054 Leased devices 1,162 1,080 $ 5,467 $ 4,828 Less accumulated depreciation ( 3,292 ) ( 2,642 ) $ 2,175 $ 2,186 The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units of which are still with patients for which the Company cannot determine the current status. Total depreciation expense related to our purchased property and equipment was $ 0.7 million and $ 0.9 million for the years ended December 31, 2022 and 2021, respectively. F-17 Table of Contents Total depreciation expense related to devices out on lease was $ 1.5 million and $ 1.4 million for the years ended December 31, 2022 and 2021, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. (5) GOODWILL AND OTHER INTANGIBLES During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 3). As of December 31, 2022, there was no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of December 31, 2022. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents $ 10,000 $ ( 933 ) $ 9,067 10.0 The following table summarizes the estimated future amortization expense to be recognized over the next years and periods thereaf December 31, (In thousands) 2023 $ 908 2024 911 2025 908 2026 908 2027 908 Thereafter 4,524 Total future amortization expense $ 9,067 (6) EARNINGS PER SHARE The calculation of basic and diluted earnings per share for the years ended December 31, 2022 and 2021 are as follows (in thousands, except per share data): For the Years Ended December 31, 2022 2021 Basic earnings per share Net income available to common stockholders $ 17,048 $ 17,103 Basic weighted-average shares outstanding 38,467 38,317 Basic earnings per share $ 0.44 $ 0.45 Diluted earnings per share Net income available to common stockholders $ 17,048 $ 17,103 Weighted-average shares outstanding 38,467 38,317 Effect of dilutive securities - options and restricted stock 660 880 Diluted weighted-average shares outstanding 39,127 39,197 Diluted earnings per share $ 0.44 $ 0.44 F-18 Table of Contents For the years ended December 31, 2022 and 2021, 0.1 million and 0.4 million shares of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. The basic and diluted weighted-average shares outstanding for December 31, 2021 has been updated to include the retroactive impact of the 10 % common stock dividend declared on November 11, 2021. (7) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”). Under this Loan Agreement, the Bank is extending two facilities to the Borrowers. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). The Borrower pays interest on Facility 1 on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the Bloomberg Short-term Bank Yield Index (“BSBY”) Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of December 31, 2022, the Company has not utilized this facility and has no balance outstanding. The other facility being extended by the Bank to the Borrower is a fixed rate term loan in the amount of $ 16.0 million (“Facility 2”) bearing interest at 2.8 % per year. The Borrower pays interest on the first day of each month beginning January 1, 2022 and the Borrower repays the principal amount in equal installments of $ 0.4 million per month through December 1, 2024. Facility 2 was entered into in conjunction with the purchase of Kestrel Labs. The following table summarizes future principal payments on long-term debt as of December 31, 2022: December 31, (In thousands) 2023 5,333 2024 5,334 Future principal payments 10,667 Less current portion ( 5,333 ) Less debt issuance costs ( 41 ) Long-term debt, net of debt issuance costs $ 5,293 (8) STOCK-BASED COMPENSATION PLANS Zynex, Inc. 2017 Stock Incentive Plan The Company currently has one active long-term incentive plan. The Company’s 2017 Stock Incentive Plan (the “2017 Stock Plan”) is the Company’s equity compensation plan and provides for grants of stock-based awards to employees, directors and other individuals providing services to the Company. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. The 2017 Stock Plan mandates a maximum award term of 10 years and stipulates that stock options be granted with prices not less than fair market value on the date of grant. Stock option awards generally vest over four years . Restricted stock awards typically vest quarterly over three years for grants issued to members of our Board of Directors and quarterly or annually over two to four years for grants issued to employees. For stock option awards, all awards granted under the 2017 Stock Plan are stock-settled with common stock issued upon exercise. For restricted stock awards, shares are issued to the recipient upon grant with a restrictive legend and are not included in the calculation of outstanding shares until vesting occurs. At December 31, 2022, there were 3.8 million shares available for future grants under the 2017 Stock Plan. Zynex, Inc. 2005 Stock Option Plan The 2005 Stock Option Plan (the “2005 Stock Plan”) expired as of December 31, 2014. Vesting provisions of the expired plan were to be determined by the Board of Directors. All stock options under the 2005 Stock Plan expire no later than ten years from the date of grant. Options granted in 2015, 2016 and through May 2017 prior to the approval of the 2017 Stock Incentive Plan were approved and certified by the board of directors on September 6, 2017 under the existing 2005 Stock Plan. F-19 Table of Contents As of December 31, 2022, the Company had the following stock options outstanding and exercisab Outstanding Number of Options Exercisable Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 211 211 2017 Stock Option Plan 582 346 Total 793 557 The Company received $ 0.1 million cash proceeds related to option exercises during the year ended December 31, 2022. The Company received cash proceeds of $ 0.2 million related to option exercises during the year ended December 31, 2021. During the year ended December 31, 2022, 0.2 million performance based stock option awards were granted under the 2017 Stock Plan. During the year ended December 31, 2021, no stock option awards were granted under the 2017 Stock Plan. The Company used the Black Scholes option pricing model to determine the fair value of stock option grants, using the following assumptions during the year ended December 31, 2022. Weighted average expected term 3 years Weighted average volatility 73 % Weighted average risk-free interest rate 2.81 % Dividend yield 0 % The weighted average expected term of stock options represents the period of time that the stock options granted are expected to be outstanding based on historical exercise trends. The weighted average expected volatility is based on the historical price volatility of the Company’s common stock. The weighted average risk-free interest rate represents the U.S. Treasury bill rate for the expected term of the related stock options. The dividend yield represents the Company’s anticipated cash dividend over the expected term of the stock options. Forfeitures are accounted for as they occur. The following table summarizes stock-based compensation expenses recorded in the condensed consolidated statements of operations (in thousands): For the Years Ended December 31, 2022 2021 Cost of Revenue $ 47 $ 56 Sales and marketing expense 2,104 155 General, and administrative 191 1,419 Total stock based compensation expense $ 2,342 $ 1,630 The excess tax benefit associated with our stock-based compensation plans for the years ended December 31, 2022 and 2021, was approximately $ 0.0 million and $ 0.2 million, respectively. F-20 Table of Contents A combined summary of stock option activity for all plans for the years ended December 31, 2022 and 2021 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Shares Strike Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding at December 31, 2020 1,107 $ 2.76 Granted — $ — Exercised ( 116 ) $ 4.87 Forfeited ( 226 ) $ 6.45 Outstanding at December 31, 2021 765 $ 1.36 4.68 $ Granted 200 $ 6.23 Exercised ( 157 ) $ 0.66 Forfeited ( 15 ) $ 4.18 Outstanding at December 31, 2022 793 $ 2.67 5.03 $ Exercisable at December 31, 2022 557 $ 1.31 3.40 $ Outstanding Weighted average Number of Remaining Weighted Average Options Contractual Weighted Average Exercisable Number of Remaining Exercisable Exercisable Range (in thousands) Life (years) Strike Price Options (in thousands) Contractual Life (years) Strike Price $ 0 to $ 2.00 354 2.31 $ 0.30 354 2.31 $ 0.30 $ 2.01 to $ 4.00 217 5.56 $ 2.69 187 5.48 $ 2.65 $ 4.01 to $ 10.00 222 8.86 $ 6.45 15 3.23 $ 8.33 793 5.03 $ 2.67 557 3.40 $ 1.31 A summary of our unvested stock options as of December 31, 2022 and 2021 and related activity is presented be Non-vested Shares Weighted Under Average Option Grant Date (in thousands) Fair Value Non-vested at December 31, 2020 474 $ 4.35 Granted — — Vested ( 167 ) 1.93 Forfeited ( 212 ) 6.48 Non-vested at December 31, 2021 95 $ 3.85 Granted 200 6.23 Vested ( 49 ) 4.12 Forfeited ( 9 ) 5.49 Non-vested at December 31, 2022 237 $ 5.90 F-21 Table of Contents A summary of restricted stock award activity under the 2017 Stock Plan for the years ended December 2022 and 2021 are presented be Number of Shares Weighted Average (in thousands) Grant Date Fair Value Outstanding at December 31, 2020 295 $ 11.53 Granted 381 $ 14.15 Vested ( 119 ) $ 10.92 Forfeited ( 103 ) $ 12.40 Outstanding at December 31, 2021 454 $ 13.69 Granted 186 $ 8.52 Vested ( 165 ) $ 12.90 Forfeited ( 52 ) $ 10.60 Outstanding at December 31, 2022 423 $ 11.94 The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on the Restricted Stock Awards typically occurs quarterly over three years for the Board of Directors and quarterly or annually over two to four years for employees. As of December 31, 2022, there was approximately $ 4.3 million of total unrecognized compensation costs related to unvested stock options and restricted stock. These costs are expected to be recognized over a weighted average period of 2.3 years. The total intrinsic value of stock option exercises for the years ended December 31, 2022 and 2021 was $ 1.1 million and $ 1.0 million, respectively. The total fair value of restricted stock awards vested during the years ended December 31, 2022 and 2021 was $ 1.4 million and $ 1.3 million, respectively. (9) STOCKHOLDERS’ EQUITY Common Stock Dividend The Company’s Board of Directors declared a cash dividend of $ 0.10 per share and a stock dividend of 10 % per share on November 9, 2021. The cash dividend of $ 3.6 million was paid out on January 21, 2022 to stockholders of record as of January 6, 2022. The 10 % stock dividend declaration resulted in the issuance of an additional 3.6 million shares on January 21, 2022 to stockholders of record as of January 6, 2022. Treasury Stock On March 8, 2021, our Board of Directors approved a program to repurchase up to $ 10.0 million of our common stock at prevailing market prices either in the open market or through privately negotiated transactions through September 8, 2021. From the inception of the plan through September 8, 2021, the Company purchased 175,179 shares of our common stock for $ 2.7 million or an average price of $ 15.22 per share. On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through October 4, 2022, the Company purchased 1,091,604 shares of its common stock for $ 10.0 million for an average price of $ 9.06 per share which completed this program. F-22 Table of Contents On October 31, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through October 31, 2023. From the inception of the plan through December 31, 2022, the Company purchased 495,138 shares of its common stock for $ 6.6 million or an average price of $ 13.43 per share. Subsequent to December 31, 2022, the Company purchased 232,698 shares of its common stock for an average price of $ 14.41 per share which completed this program. Warrants A summary of stock warrant activity for the years ended December 31, 2022 and 2021 are presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding at December 31, 2020 110 $ 2.39 3.76 $ 1,084 Granted — $ — Exercised ( 10 ) $ 2.27 2.76 192 Forfeited (1) ( 1 ) $ 2.27 2.76 25 Outstanding and exercisable at December 31, 2021 99 $ 2.39 2.76 $ 660 Granted — $ — Exercised — $ — — — Forfeited — $ — — — Outstanding and exercisable at December 31, 2022 99 $ 2.39 1.76 $ 1,140 (1) Warrants were exercised under a net exercise provision in the warrant agreement. As a result, approximately 1,000 warrants were forfeited in lieu of cash payment for shares during 2021. (10) INCOME TAXES The pre-tax income from continuing operations on which the provision for income taxes was computed is as follows (in thousands) 2022 2021 United States $ 22,220 $ 22,295 Foreign ( 22 ) ( 24 ) Total 22,198 22,271 Income tax expense consists of the following for the years ended December 31, 2022 and 2021 (in thousands): 2022 2021 Current tax expense: Federal $ 4,891 $ 4,289 State 1,110 1,025 Total tax expense: 6,001 5,314 Deferred tax expense/(benefit) Federal ( 730 ) ( 135 ) State ( 121 ) ( 11 ) Total deferred tax expense/(benefit) $ ( 851 ) $ ( 146 ) Total $ 5,150 $ 5,168 F-23 Table of Contents A reconciliation of income tax computed at the U.S. statutory rate of 21 % to the effective income tax rate is as follows: 2022 2021 Statutory rate 21 % 21 % State taxes 3 % 4 % Stock based compensation 0 % ( 1 ) % Research and development credit ( 1 ) % 0 % Effective rate 23 % 24 % The tax effects of temporary differences that give rise to deferred tax assets (liabilities) at December 31, 2022 and 2021 are as follows (in thousands): 2022 2021 Deferred tax assets: Accrued expenses $ 31 $ 26 Lease liability 3,955 4,620 Accounts receivable 18 18 Inventory 198 484 Stock based compensation 253 271 Right of use asset — 8 Amortization — 90 Section 174 costs 991 — 5,446 5,517 Deferred tax assets $ 5,446 $ 5,517 Deferred tax liabiliti Property and equipment ( 519 ) ( 599 ) Finance lease ( 67 ) ( 96 ) Prepaid expenses ( 116 ) ( 77 ) Right-of-use asset ( 3,170 ) ( 4,034 ) Amortization ( 12 ) — Deferred tax liabilities $ ( 3,884 ) $ ( 4,806 ) Net deferred tax assets $ 1,562 $ 711 As of December 31, 2022, the Company has no net operating loss. The Company had no recorded valuation allowances at December 31, 2022 and 2021. The accounting standard related to income taxes applies to all tax positions and defines the confidence level that a tax position must meet in order to be recognized in the financial statements. The accounting standard requires that the tax effects of a position be recognized only if it is “more-likely-than-not” to be sustained by the taxing authority as of the reporting date. If a tax position is not considered “more-likely-than-not” to be sustained, then no benefits of the position are to be recognized. Differences between financial and tax reporting which do not meet this threshold are required to be recorded as unrecognized tax benefits. This standard also provides guidance on the presentation of tax matters and the recognition of potential interest and penalties. As of December 31, 2022 and 2021, the Company does not have an unrecognized tax liability. The Company does not classify penalty and interest expense related to income tax liabilities as an income tax expense. Penalties and interest are included within general and administrative expenses on the consolidated statements of income. The Company files income tax returns in the U.S. and various state jurisdictions, and there are open statutes of limitations for taxing authorities to audit our tax returns from 2017 through the current period. F-24 Table of Contents (11) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During March 2022, the Company entered into a lease agreement for approximately 4,162 square feet of office space for the operations of ZMS in Boulder, Colorado. The lease began on April 1, 2022 and will run through April 1, 2025. The rent and common area maintenance charges are equal to $ 17.00 per square foot with annual increases of 3 % . Upon lease commencement, the Company recorded an operating lease liability and corresponding right-of-use asset for $ 0.2 million each. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.03 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.39 % which was used to measure its finance lease liability. As of December 31, 2022, the Company’s operating and financing leases have a weighted average remaining term of 4.76 years and 2.63 years respectively. The table below reconciles the undiscounted future minimum lease payments under the Company’s operating and finance leases to the total operating and capital lease liabilities recognized on the consolidated balance sheets as of December 31, 2022 (in thousands): Operating Lease Liability Finance Lease Liability 2023 3,055 152 2024 3,571 116 2025 3,586 76 2026 3,362 15 2027 3,150 — 2028 1,064 — Total undiscounted future minimum lease payments $ 17,788 $ 359 L Difference between undiscounted lease payments and discounted lease liabilities ( 1,771 ) ( 43 ) Total lease liabilities $ 16,017 $ 316 Operating and finance lease costs were $ 4.6 million and $ 3.7 million for years ended December 31, 2022 and 2021, which were included in the consolidated statement of income under the following headings (in thousands): For the years ended December 31, Operating Lease expense 2022 2021 Costs of revenue - devices and supplies $ 359 $ 399 Sales and marketing expense 1,456 1,186 General and administrative 2,643 1,964 Total operating lease expense $ 4,458 $ 3,549 Finance Lease expense Amortization of right-of-use ass Sales and marketing expense $ 117 $ 104 General and administrative 2 1 Total amortization of right-of-use asset 119 104 Interest expense and other 36 41 Total finance lease expense $ 155 $ 145 Prior year amounts for Financing Lease expense have been reclassified for consistency with the current year presentation. These reclassifications had no effect on the reported results of operations. F-25 Table of Contents (12) FAIR VALUE CONSIDERATION The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at fair value which approximates book value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo models. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. Authoritative guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of December 31, 2022, by level within the fair value hierarc Fair Value Measurements at December 31, 2022 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable December 31, Assets Inputs Inputs 2022 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 10,000 $ — $ — $ 10,000 Total $ 10,000 $ — $ — $ 10,000 Contingent Consideration . The Company classifies its contingent consideration liability in connection with the acquisition of Kestrel Labs within Level 3 as factors used to develop the estimated fair value are unobservable inputs that are not supported by market activity. F-26 Table of Contents The contingent consideration related to Kestrel was valued at $ 9.7 million using a Monte Carlo simulation as of December 22, 2021. As of December 31, 2022, the contingent consideration was estimated at $ 10.0 million, the adjustment of $ 0.3 million was recorded as a loss on change in fair value of contingent consideration in the Company’s Consolidated Statements of Income. The Company’s policy is to value contingent consideration liabilities using a Monte Carlo model. (13) COMMITMENTS AND CONTINGENCIES See Note 11 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management provides for them if losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (14) CONCENTRATIONS The Company is exposed to concentration of credit risk related primarily to its cash balances. The Company maintains its cash balances in major financial institutions that exceed amounts insured by the FDIC (up to $250,000, per financial institution as of December 31, 2022). The Company has not experienced any realized losses in such accounts and believes it is not exposed to any significant credit risk related to its cash. The Company had two major vendors from which it sourced approximately 28 % and two major vendors from which it sourced approximately 34 %, respectively, of supplies for its electrotherapy products for the years ended December 31, 2022 and 2021. Management believes that its relationships with its suppliers are good. If the relationships were to be replaced, there may be a short-term disruption for a period of time in which products may not be available and additional expenses may be incurred as the Company locates additional or replacement suppliers. The Company had receivables from one third-party payer at December 31, 2022 which made up approximately 14 % of the accounts receivable balance. The Company had receivables from one third-party payer at December 31, 2021, which made up approximately 22 % of the accounts receivable balance. (15) RETIREMENT PLAN In 2012, the Company established a defined contribution retirement plan for its employees under section 401(k) of the Internal Revenue Code (the “401(k) Plan”) that is available to all employees 18 years of age or older with at least three months of service. All employee contributions are fully vested immediately and employer contributions vest over a period of four years . The Company has a discretionary employee match program and currently matches 35 % of first 6 % of an employee’s contributions. During the years ended December 31, 2022 and 2021, the Company recorded an expense of $ 0.7 million and $ 0.5 million, respectively, under the aforementioned plan, related to the Company match. F-27 Table of Contents (16) QUARTERLY FINANCIAL INFORMATION (UNAUDITED) Quarterly financial information is as follows (in thousands, except per share data): 2022 First Quarter Second Quarter Third Quarter Fourth Quarter Total Revenue $ 31,083 $ 36,759 $ 41,520 $ 48,805 L cost of revenue and operating expenses 29,177 32,395 34,962 38,695 Income from operations 1,906 4,364 6,558 10,110 Income before income taxes 1,982 4,149 6,352 9,715 Net income $ 1,377 $ 3,346 $ 4,873 $ 7,452 Net income per common sh Basic income per share - net income $ 0.03 $ 0.09 $ 0.13 $ 0.20 Diluted income per share - net income $ 0.03 $ 0.08 $ 0.13 $ 0.20 2021 First Quarter Second Quarter Third Quarter Fourth Quarter Total Revenue $ 24,127 $ 31,022 $ 34,785 $ 40,367 L cost of revenue and operating expenses 25,207 27,209 26,739 28,780 Income from operations ( 1,080 ) 3,813 8,046 11,587 Income before income taxes ( 1,087 ) 3,768 8,028 11,562 Net income $ ( 706 ) $ 2,808 $ 6,107 $ 8,894 Net income per common sh Basic income per share - net income $ ( 0.02 ) $ 0.07 $ 0.16 $ 0.24 Diluted income per share - net income $ ( 0.02 ) $ 0.07 $ 0.16 $ 0.23 (17) SUBSEQUENT EVENTS During February 2023, the Company entered into a lease agreement for approximately 41,427 square feet of office space for the operations of ZMS in Englewood, CO. The lease commences on July 1, 2023 and runs through December 31,2028. At the expiration of the lease term the Company has the option to renew the lease for one additional five year period. The Company is entitled to rent abatements for the first six months of the lease. Payments based on the initial rate of $ 24.75 per square foot begin in January 2024. The price per square foot increases by an additional $ 0.50 during each subsequent twelve-month period of the lease after the abatement period . (18) COVID -19 In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. During 2020 and 2021, the Company’s operations were impacted by closures of clinics and reductions in elective surgeries which decreased availability of physicians to prescribe our products. Additionally, the Company had to navigate the impacts it had on employee and supply chain issues. While the Company did not see a significant impact on its operating results or financial position during the year ended December 31, 2022 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. F-28 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end March 31, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 800 ) 495-6670 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Ticker Symbol Name of each exchange on which registered Common Stock, $0.001 par value per share ZYXI The Nasdaq Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☐ Non-accelerated filer ☒ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of April 27, 2023 Common Stock, par value $0.001 36,655,451 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of March 31, 2023 (unaudited) and December 31, 2022 3 Unaudited Condensed Consolidated Statements of Income for the three months ended March 31, 2023 and 2022 4 Unaudited Condensed Consolidated Statements of Cash Flows for the three months ended March 31, 2023 and 2022 5 Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the three months ended March 31, 2023 and 2022 6 Unaudited Notes to Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 21 Item 3. Quantitative and Qualitative Disclosures About Market Risk 24 Item 4. Controls and Procedures 24 PART II—OTHER INFORMATION 26 Item 1. Legal Proceedings 26 Item 1A. Risk Factors 26 Item 2. Unregistered Sales of Equity Securities And Use of Proceeds 26 Item 3. Defaults Upon Senior Securities 27 Item 4. Mine Safety Disclosures 27 Item 5. Other Information 27 Item 6. Exhibits 28 SIGNATURES 29 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES) March 31, December 31, 2023 2022 (unaudited) ASSETS Current assets: Cash $ 16,792 $ 20,144 Accounts receivable, net 32,060 35,063 Inventory, net 14,184 13,484 Prepaid expenses and other 2,130 868 Total current assets 65,166 69,559 Property and equipment, net 2,281 2,175 Operating lease asset 11,888 12,841 Finance lease asset 240 270 Deposits 683 591 Intangible assets, net of accumulated amortization 8,843 9,067 Goodwill 20,401 20,401 Deferred income taxes 1,554 1,562 Total assets $ 111,056 $ 116,466 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabiliti Accounts payable and accrued expenses 5,650 5,601 Cash dividends payable 16 16 Operating lease liability 2,003 2,476 Finance lease liability 127 128 Income taxes payable 2,015 1,995 Current portion of debt 5,333 5,333 Accrued payroll and related taxes 5,915 5,537 Total current liabilities 21,059 21,086 Long-term liabiliti Long-term portion of debt, less issuance costs 3,964 5,293 Contingent consideration 8,600 10,000 Operating lease liability 12,788 13,541 Finance lease liability 159 188 Total liabilities 46,570 50,108 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of March 31, 2023 and December 31, 2022 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,575,386 issued and 36,646,041 outstanding as of March 31, 2023 41,658,132 issued and 36,825,081 outstanding as of December 31, 2022 39 39 Additional paid-in capital 82,343 82,431 Treasury stock of 4,485,713 and 4,253,015 shares at March 31, 2023 and December 31, 2022, respectively, at cost ( 36,513 ) ( 33,160 ) Retained earnings 18,617 17,048 Total stockholders’ equity 64,486 66,358 Total liabilities and stockholders’ equity $ 111,056 $ 116,466 The accompanying notes are an integral part of these condensed consolidated financial statements 3 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended March 31, 2023 2022 NET REVENUE Devices $ 11,944 $ 6,725 Supplies 30,226 24,358 Total net revenue 42,170 31,083 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 9,269 6,921 Sales and marketing 21,227 14,424 General and administrative 11,390 7,832 Total costs of revenue and operating expenses 41,886 29,177 Income from operations 284 1,906 Other income (expense) Gain on sale of fixed assets 2 — Change in fair value of contingent consideration 1,400 200 Interest expense ( 84 ) ( 124 ) Other income, net 1,318 76 Income from operations before income taxes 1,602 1,982 Income tax expense 33 605 Net income $ 1,569 $ 1,377 Net income per sh Basic $ 0.04 $ 0.03 Diluted $ 0.04 $ 0.03 Weighted average basic shares outstanding 36,694 39,765 Weighted average diluted shares outstanding 37,442 41,188 The accompanying notes are an integral part of these condensed consolidated financial statements 4 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) For the Three Months Ended March 31, 2023 2022 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 1,569 $ 1,377 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation 615 500 Amortization 229 229 Non-cash reserve charges 408 ( 9 ) Stock-based compensation 307 589 Non-cash lease expense ( 272 ) 97 Benefit for deferred income taxes 8 ( 220 ) Gain on change in fair value of contingent consideration ( 1,400 ) ( 200 ) Gain on sale of fixed assets ( 2 ) — Change in operating assets and liabiliti Accounts receivable 2,596 787 Prepaid and other assets ( 1,262 ) ( 912 ) Accounts payable and other accrued expenses 369 2,583 Inventory ( 1,139 ) ( 3,067 ) Deposits ( 92 ) — Net cash provided by operating activities 1,934 1,754 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 184 ) ( 72 ) Proceeds on sale of fixed assets 10 — Net cash used in investing activities ( 174 ) ( 72 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 31 ) ( 28 ) Cash dividends paid — ( 3,613 ) Purchase of treasury stock ( 3,353 ) — Proceeds from the issuance of common stock on stock-based awards 27 3 Principal payments on long-term debt ( 1,333 ) ( 1,333 ) Taxes withheld and paid on employees’ equity awards ( 422 ) ( 76 ) Net cash used in financing activities ( 5,112 ) ( 5,047 ) Net decrease in cash ( 3,352 ) ( 3,365 ) Cash at beginning of period 20,144 42,612 Cash at end of period $ 16,792 $ 39,247 Supplemental disclosure of cash flow informati Cash paid for interest $ ( 90 ) $ ( 89 ) Cash paid for rent $ ( 1,382 ) $ ( 995 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ — $ 211 Inventory transferred to property and equipment under lease $ 438 $ 339 Capital expenditures not yet paid $ 77 $ 56 The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2021 39,737,890 $ 41 $ 80,397 $ ( 6,513 ) $ — $ 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 39,776,816 41 80,913 ( 6,513 ) 1,377 75,818 Balance at December 31, 2022 36,825,081 $ 39 $ 82,431 $ ( 33,160 ) $ 17,048 $ 66,358 Exercised and vested stock-based awards 66,045 — 27 — — 27 Stock-based compensation expense — — 307 — — 307 Warrants exercised 10,000 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 22,387 ) — ( 422 ) — — ( 422 ) Purchase of treasury stock ( 232,698 ) — — ( 3,353 ) — ( 3,353 ) Net income — — — — 1,569 1,569 Balance at March 31, 2023 $ 36,646,041 $ 39 $ 82,343 $ ( 36,513 ) $ 18,617 $ 64,486 The accompanying notes are an integral part of these condensed consolidated financial statements. 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS NOTE (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of March 31, 2023, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100 % of Kestrel Labs, Inc. (”Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the three months ended March 31, 2023 and 2022, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. Unaudited Condensed Consolidated Financial Statements The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. Amounts as of December 31, 2022, are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of March 31, 2023 and the results of its operations and its cash flows for the periods presented. The results of operations for the three months ended March 31, 2023 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS NOTE (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying condensed consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying condensed consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, assumptions related to the valuation of contingent consideration, and valuation of long-lived assets and realizability of deferred tax assets. Accounts Receivable, Net The Company’s accounts receivable represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. The Company maintains a constraint for third-party payer refund requests, deductions and adjustments. The Company recorded an allowance for uncollectible accounts of $ 0.4 million during the three months ended March 31, 2023, which is included in the general and administrative section of the condensed consolidated statements of income. See Note 14 – Concentrations for discussion of significant customer accounts receivable balances. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing in the future. The Company utilized the simplified test for goodwill impairment. The amount recognized for impairment is equal to the difference between the carrying value and the asset’s fair value. The valuation methods used in the quantitative fair value assessment was a discounted cash flow method and required management to make certain assumptions and estimates regarding certain industry trends and future profitability of our reporting units. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when the performance obligation has been met and the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when the performance obligation has been met and the product has been transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. The following table provides a breakdown of disaggregated net revenues for the three months ended March 31, 2023 and 2022 related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606”), leases subject to ASC 842, and supplies (in thousands): For the Three Months March 31, 2023 2022 Device revenue Purchased $ 4,642 $ 2,188 Leased 7,302 4,537 Total device revenue 11,944 6,725 Supplies revenue 30,226 24,358 Total revenue $ 42,170 $ 31,083 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s condensed consolidated balance sheets. For additional information on the leases where the Company is the lessee, see Note 12- Leases. A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842, Leases. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying condensed consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the Chief Operating Decision Makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. The Inflation Reduction Act (“IRA”) was enacted into law on August 16, 2022. Included in the IRA was a provision to implement a 15% corporate alternative minimum tax on corporations whose average annual adjusted financial statement income during the most recently completed three year period exceeds $1 billion. This provision is effective for tax years beginning after December 31, 2022. We are in the process of evaluating the provisions of the IRA, but we do not currently believe the IRA will have a material impact on our reported results, cash flows or financial position when it becomes effective. Recent Accounting Pronouncements Management has evaluated recently issued accounting pronouncements and does not believe that any of these pronouncements will have a material impact on the Company’s consolidated financial statements. 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS NOTE (3) INVENTORY The components of inventory as of March 31, 2023, and December 31, 2022 are as follows (in thousands): March 31, 2023 December 31, 2022 Raw materials $ 3,225 $ 3,506 Work-in-process 1,614 1,205 Finished goods 7,854 7,750 Inventory in transit 1,759 1,291 $ 14,452 $ 13,752 L reserve ( 268 ) ( 268 ) $ 14,184 $ 13,484 NOTE (4) PROPERTY AND EQUIPMENT The components of property and equipment as of March 31, 2023 and December 31, 2022 are as follows (in thousands): March 31, 2023 December 31, 2022 Property and equipment Office furniture and equipment $ 3,034 $ 2,819 Assembly equipment 138 110 Vehicles 203 203 Leasehold improvements 1,173 1,173 Leased devices 1,249 1,162 $ 5,797 $ 5,467 Less accumulated depreciation ( 3,516 ) ( 3,292 ) $ 2,281 $ 2,175 Total depreciation expense related to property and equipment was $ 0.2 million for the three months ended March 31, 2023 and 2022. Total depreciation expense related to devices out on lease was $ 0.4 million and $ 0.3 million for the three months ended March 31, 2023 and 2022, respectively. Depreciation on leased units is reflected in the condensed consolidated statement of operations as cost of revenue. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units of which are still with patients for which the Company cannot determine the current status. NOTE (5) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the ‘Selling Shareholders’). Under the Agreement, the Selling Shareholders sold all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,467,785 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares are subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 978,524 of the Zynex Shares were deposited in escrow (the “Escrow Shares”). The number of Escrow Shares were subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. The Escrow Shares were adjusted on the anniversary date, which resulted in the cancellation of 156,673 Escrow Shares. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell the Device in the United States. The other half of the Escrow Shares will be released upon determination by the FDA that the Device can be marketed and sold in the United States. The amount of escrow shares were recalculated at March 31, 2022, and are included in the calculation of diluted earnings per share for March 31, 2022. No additional calculation was required for the Escrow Shares at March 31, 2023, as the Escrow 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Share number was finalized on the anniversary date, and the shares are included in the Company’s calculation of basic earnings per share. The maximum amount of Zynex Shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares of the Company (see Note 13 for more information regarding this liability). The acquisition of Kestrel has been accounted for as a business combination under ASC 805. Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. NOTE (6) GOODWILL AND OTHER INTANGIBLE ASSETS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 5). For the three months ended March 31, 2023, there was no change in the carrying amount of goodwill, there were no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of March 31, 2023. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents at December 31, 2022 $ 10,000 $ ( 933 ) $ 9,067 10 Amortization expense ( 224 ) ( 224 ) Acquired patents at March 31, 2023 $ 10,000 $ ( 1,157 ) $ 8,843 9.73 The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2023, the next five fiscal years, and periods thereaf (In thousands) April 1, 2023 through December 31, 2023 $ 684 2024 911 2025 908 2026 908 2027 908 2028 911 Thereafter 3,613 Total future amortization expense $ 8,843 NOTE (7) EARNINGS PER SHARE Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period, calculated using the treasury-stock method for outstanding stock options. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The calculation of basic and diluted earnings per share for the three months ended March 31, 2023 and 2022 are as follows (in thousands, except per share data): For the Three Months Ended March 31, 2023 2022 Basic earnings per share Net income available to common stockholders $ 1,569 $ 1,377 Basic weighted-average shares outstanding 36,694 39,765 Basic earnings per share $ 0.04 $ 0.03 Diluted earnings per share Net income available to common stockholders $ 1,569 $ 1,377 Weighted-average shares outstanding 36,694 39,765 Effect of dilutive securities - options and restricted stock 748 1,423 Diluted weighted-average shares outstanding 37,442 41,188 Diluted earnings per share $ 0.04 $ 0.03 For the three months ended March 31, 2023 and 2022, 12,000 and 450,000 shares of common stock were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. NOTE (8) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets have been pledged as collateral. One facility is a line of credit in the amount of $ 4.0 million available until December 1, 2024 (“Facility 1”). Interest on Facility 1 is due on the first day of each month beginning January 1, 2022. The interest rate is an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . As of March 31, 2023, the Company had not utilized this facility. The other facility being extended by the Bank to the Company is a fixed rate term loan in the amount of $ 16.0 million (“Facility 2”). Facility 2 was entered into and funded in conjunction with the purchase of Kestrel Labs. The interest rate is equal to 2.8 % per year. The Company must pay interest on the first day of each month which began January 1, 2022 and the Company also repays the principal amount in equal installments of $ 444,444 per month through December 1, 2024. The following table summarizes future principal payments on long-term debt as of March 31, 2023: March 31, (In thousands) April 1, 2023 through December 31, 2023 $ 4,000 2024 5,333 Future principal payments 9,333 Less current portion ( 5,333 ) Less debt issuance costs ( 36 ) Long-term debt, net of debt issuance costs $ 3,964 NOTE (9) STOCK-BASED COMPENSATION PLANS In June 2017, the Company’s stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5.5 million shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of the Company’s common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon grant and are not included in outstanding shares until such vesting and issuance occurs. 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS During the three months ended March 31, 2023 and 2022, no stock option awards were granted under the 2017 Stock Plan. At March 31, 2023, the Company had 0.6 million stock options outstanding and exercisable under the following pla Outstanding Exercisable Number of Options Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 211 211 2017 Stock Option Plan 356 355 Total 567 566 During the three months ended March 31, 2023, and 2022, 62,000 shares and 48,000 shares of restricted stock, respectively, were granted to management under the 2017 Stock Plan. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of the Company’s common stock on the date of grant. The vesting on the Restricted Stock Awards typically occurs quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. The following summarizes stock-based compensation expenses recorded in the condensed consolidated statements of operations (in thousands): For the Three Months Ended March 31, 2023 2022 Cost of Revenue $ 8 $ 15 Sales and marketing expense 61 59 General, and administrative 238 515 Total stock based compensation expense $ 307 $ 589 The Company received cash proceeds of $ 27,000 and $ 3,000 related to option exercises during the three months ended March 31, 2023 and 2022, respectively. A summary of stock option activity under all equity compensation plans for the three months ended March 31, 2023, is presented be Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2022 793 $ 2.67 5.03 $ 8,908 Granted — — Forfeited ( 206 ) 6.30 Exercised ( 20 ) 6.07 Outstanding at March 31, 2023 567 $ 1.24 3.32 $ 6,104 Exercisable at March 31, 2023 566 $ 1.22 3.31 $ 6,099 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS A summary of restricted stock award activity under all equity compensation plans for the three months ended March 31, 2023, is presented be Number of Weighted Shares Average (in thousands) Grant Date Fair Value Granted but not vested at December 31, 2022 431 $ 11.92 Granted 62 12.10 Forfeited ( 3 ) 14.51 Vested ( 46 ) 12.96 Granted but not vested at March 31, 2023 444 $ 11.82 As of March 31, 2023, the Company had approximately $ 4.5 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.39 years. NOTE (10) STOCKHOLDERS’ EQUITY Treasury Stock On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through October 4, 2022, the Company purchased 1,091,604 shares of its common stock for $ 10.0 million for an average price of $ 9.06 per share which completed this program. On October 31, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through October 31, 2023. From the inception of the plan through December 31, 2022, the Company purchased 495,138 shares of its common stock for $ 6.6 million or an average price of $ 13.43 per share. From the inception of the plan through March 31, 2023, the Company purchased 727,836 shares of its common stock for $ 10 million or an average price of $ 13.74 per share which completed this program. Warrants A summary of stock warrant activity for the three months ended March 31, 2023 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2022 99 $ 2.39 1.76 $ 1,140 Granted — $ — Exercised ( 8 ) $ 2.27 Forfeited ( 2 ) $ — Outstanding and exercisable at March 31, 2023 89 $ 2.41 1.52 $ 853 (1) Warrants were exercised under a net exercise provision in the warrant agreement. As a result, approximately 2,000 warrants were forfeited in lieu of cash payment for shares during the three months ended March 31, 2023. 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS NOTE (11) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits from stock option exercises and the tax impact of the change in fair value of contingent consideration. For the three months ended March 31, 2023 and 2022, discrete items adjusted were $ 1.5 million and $ 0.5 million, respectively. At March 31, 2023 and 2022, the Company is currently estimating an annual effective tax rate of approximately 24.5 % and 25.1 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 2 % and 30 % for the three months ended March 31, 2023 and 2022, respectively. The decrease in the Company’s effective income tax rate for the three months ended March 31, 2023 compared to the same period in 2022, primarily relate to the tax impact of discrete items. Discrete items recognized during the three months ended March 31, 2023 and 2022, resulted in a tax benefit of approximately $ 0.4 million and a tax expense of approximately $ 0.1 million, respectively. The Company recorded an income tax expense of $ 33,000 and a tax expense of $ 605,000 for the three months ended March 31, 2023 and 2022, respectively. No taxes were paid during the three months ended March 31, 2023 and 2022. NOTE (12) LEASES The Company categorize leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.01 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.40 % which was used to measure its finance lease liability. The weighted average remaining lease term was 4.64 years and 2.42 years for operating and finance leases, respectively, as of March 31, 2023. As of March 31, 2023, the maturities of the Company’s future minimum lease payments were as follows (in thousands): Operating Lease Liability Finance Lease Liability April 1, 2023 through December 31, 2023 1,672 114 2024 3,571 116 2025 3,586 76 2026 3,362 15 2027 3,149 — 2028 1,064 — Total undiscounted future minimum lease payments $ 16,404 $ 321 L Difference between undiscounted lease payments and discounted lease liabiliti ( 1,613 ) ( 35 ) Total lease liabilities $ 14,791 $ 286 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The components of lease expenses were as follows: Three Months Ended March 31, 2023 2022 Lease Operating lease Total operating lease expense $ 1,121 $ 1,105 Finance lease Total amortization of leased assets 30 30 Interest on lease liabilities 7 10 Total net lease cost $ 1,158 $ 1,145 For the three months ended March 31, 2023 and 2022, $ 0.1 million of operating lease costs were incurred at the Company’s manufacturing and warehouse facility and were included in cost of sales. For the three months ended March 31, 2023 and 2022, $ 1.0 million of operating lease costs were included in selling, general and administrative expenses on the condensed consolidated statement of income. NOTE (13) FAIR VALUE MEASUREMENTS The Company measures the fair value of financial assets and liabilities based on the guidance of ASC 820 “Fair Value Measurements and Disclosures” (“ASC 820”) which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo model. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of March 31, 2023, by level within the fair value hierarc Fair Value Measurements at March 31, 2023 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable March 31, Assets Inputs Inputs 2023 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 8,600 $ — $ — $ 8,600 Total $ 8,600 $ — $ — $ 8,600 The following table sets forth a summary of changes in the contingent consideration for the three months ended March 31, 2023 (in thousands): Contingent Consideration Balance as of December 31, 2022 $ 10,000 Change in fair value of contingent consideration ( 1,400 ) Balance as of March 31, 2023 $ 8,600 NOTE (14) CONCENTRATIONS For the three months ended March 31, 2023, the Company sourced approximately 39 % of the components for its electrotherapy products from three significant vendors. For the three months ended March 31, 2022 the Company sourced approximately 30 % of components from two significant vendors. At March 31, 2023, the Company had receivables from one third-party payer that made up approximately 13 % of the net accounts receivable balance. At December 31, 2022, the Company had receivables from one third-party payer which made up approximately 14 % of the net accounts receivable balance. 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS NOTE (15) COMMITMENTS AND CONTINGENCIES See Note 12 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. NOTE (16) SUBSEQUENT EVENTS No subsequent events identified through April 27, 2023. 20 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2022. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2022 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which includes electrotherapy and pain management products. As of March 31, 2023, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. RESULTS OF OPERATIONS Summary Net revenue was $42.2 million and $31.1 million for the three months ended March 31, 2023 and 2022, respectively. Net revenue increased 36% for the three-month period ended March 31, 2023. The Company had net income of $1.6 million during the three months ended March 31, 2023 as compared with net income of $1.4 million during the three months ended March 31, 2022. Cash flows provided by operating activities increased $0.1 million to $1.9 million during the three months ended March 31, 2023 as compared with cash flows used in operating activities of $1.8 million during the three months ended March 31, 2022. Working capital was $44.1 and $48.5 million at March 31, 2023 and December 31, 2022, respectively. Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. 21 Table of Contents Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the condensed consolidated financial statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $11.1 million or 36% to $42.2 million for the three months ended March 31, 2023, from $31.1 million for the same period in 2022. The growth in net revenue is primarily related to the continued growth in device orders. In 2022, we saw annual order growth of 23% and additional order growth for the three months ended March 31, 2023 of 61%. Increased order growth has led to an increased customer base and drove higher sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our electrotherapy and complimentary products. Device revenue increased $5.2 million or 78% to $11.9 million for the three months ended March 31, 2023, from $6.7 million for the same period in 2022. The growth in device revenue is primarily related to an increase in orders of 61%. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our electrotherapy products. Supplies revenue increased $5.8 million or 24% to $30.2 million for the three months ended March 31, 2023, from $24.4 million for the same period in 2022. The increase in supplies revenue is primarily related to an increased customer base from increased device sales in 2023 and 2022. Operating Expenses Cost of Revenue – Device and Supply Cost of Revenue – device and supply consist primarily of device and supply costs, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended March 31, 2023 increased 34% to $9.3 million from $6.9 million for the three months ended March 31, 2022. The increase in cost of revenue is primarily due to increased revenue. As a percentage of revenue, cost of revenue – device and supply remained flat at 22% for the three months ended March 31, 2023 and 2022. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended March 31, 2023 increased 47% to $21.2 million from $14.4 million for the three months ended March 31, 2022. The increase in sales and marketing expense is primarily due to increased headcount and related salary and incentive compensation expenses. As a percentage of revenue, sales and marketing expense increased to 50% for the three months ended March 31, 2023 from 46% for the same period in 2022. The increase as a percentage of revenue is primarily due to the increased headcount and related salary and incentive compensation expenses, offset by an increase in revenue. General and Administrative Expense General and administrative expenses primarily consist of employee related costs, and other direct costs associated with these personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for 22 Table of Contents the three months ended March 31, 2023 increased 45% to $11.4 million from $7.8 million for the three months ended March 31, 2022. The increase in general and administrative expense is primarily due to increased head count within our billing department, increased professional and legal service expenses, a recorded allowance for uncollectible accounts, and increased headcount and research & development costs at ZMS. As a percentage of revenue, general and administrative expense increased to 27% for the three months ended March 31, 2023 from 25% for the same period in 2022. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by increased revenue. Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 2.5% and 30% for the three months ended March 31, 2023 and 2022, respectively. Discrete items, primarily related to tax benefits on change in fair value of contingent consideration and stock option exercises, of $0.4 million were recognized as a benefit against income tax expense for the three months ended March 31, 2023. Discrete items, primarily related to tax expense on stock option exercises of $0.1 million were recognized as a benefit against income tax expense for the three months ended March 31, 2022. For the three months ended March 31, 2023 and 2022 the Company has an income tax expense of approximately $33,000 and $605,000, respectively. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At March 31, 2023, our principal source of liquidity was $16.8 million in cash and $32.1 million in accounts receivable. Net cash provided by operating activities for the three months ended March 31, 2023 was $1.9 million compared with net cash provided by operating activities of $1.8 million for the three months ended March 31, 2022. The increase in cash used in operating activities for the three months ended March 31, 2023 was primarily due to an increase in net income. Net cash used in investing activities for each of the three months ended March 31, 2023 and 2022 was $0.2 and $0.1 million, respectively. Cash used in investing activities for the three months ended March 31, 2023 was primarily related to the purchase of property and equipment. Cash used in investing activities for the three months ended March 31, 2022 was primarily related to the purchase office furniture and equipment and leasehold improvements at our corporate headquarters. Net cash used in financing activities for the three months ended March 31, 2023 was $5.1 million compared with net cash used in financing activities of $5.0 million for the same period in 2022. Cash used in financing activities for the three months ended March 31, 2023 was primarily due to the repurchase of our common stock of $3.4 million and principal payments on notes payable of $1.3 million. Cash used in financing activities for the three months ended March 31, 2022 was primarily due to the payment of a $0.10 dividend to common shareholders totaling $3.6 million, and principal payments on notes payable of $1.3 million. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash balance at March 31, 2023 of $16.8 million; ● Our working capital balance of $44.1 million; and ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the consolidated financial statements located within our Annual Report on Form 10-K for the year ended December 31, 2022, filed with the Securities and Exchange Commission on March 14, 2023. 23 Table of Contents RISKS AND UNCERTAINTIES In December 2019, a novel Coronavirus disease (“COVID-19”) was reported and on March 11, 2020, the World Health Organization characterized COVID-19 as a pandemic. While the Company did not incur significant disruptions to its operations during the three months ended March 31, 2023 from COVID-19, it is unable at this time to predict the impact that COVID-19 will have on its business, financial position and operating results in future periods due to numerous uncertainties. The Company has been and continues to closely monitor the impact of the pandemic on all aspects of its business. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Evaluation of disclosure controls and procedures Our management, including our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934), as amended, or the Exchange Act, as of March 31, 2023. Based on management’s review, with participation of our Chief Executive Officer and Chief Financial Officer, the Chief Executive Officer and Chief Financial Officer have concluded that, as of the quarter ended March 31, 2023, our disclosure controls and procedures were not effective due to the material weakness in internal control over financial reporting as described below. Material Weakness in Internal Control We identified a material weakness related to Information Technology General Controls (ITGCs) that were not designed and operating effectively to ensure (i) appropriate segregation of duties was in place to perform program changes and (ii) the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted. The material weakness identified above did not result in any material misstatements in our financial statements or disclosures, and there were no changes to previously released financial results. Our management concluded that the consolidated financial statements included in the Annual Report on Form 10-K, present fairly, in all material respects, our financial position, results of operations, and cash flows for the periods presented in accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP. The effectiveness of our internal control over financial reporting as of December 31, 2022, has been audited by Marcum LLP as stated in their report, which is included in Item 8 of the Annual Report on Form 10-K. Remediation Plan Our management is committed to maintaining a strong internal control environment. In response to the identified material weakness above, management will take comprehensive actions to remediate the material weakness in internal control over financial reporting. We are in the process of developing and implementing remediation plans to address the material weakness described above. Changes in Internal Control over Financial Reporting Except for the items referred to above, there were no changes in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the quarter ended March 31, 2023 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting. Inherent Limitation on the Effectiveness of Internal Control Our management, including our Chief Executive Officer and Chief Financial Officer, do not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system will be met. 24 Table of Contents Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by management override of the controls. The design of any system of controls is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with policies or procedures may deteriorate. Due to inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. 25 Table of Contents PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS Other than the additional risk factor disclosed below, there are no other material changes from the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022 filed with the SEC on March 14, 2023. Adverse developments affecting the financial services industry, including events or concerns involving liquidity, defaults or non-performance by financial institutions or transactional counterparties, could adversely affect our business, financial condition or results of operations. Events involving limited liquidity, defaults, non-performance or other adverse developments that affect financial institutions, transactional counterparties or other companies in the financial services industry or the financial services industry generally, or concerns or rumors about any events of these kinds or other similar risks, have in the past and may in the future lead to market-wide liquidity problems. Most recently, on March 10, 2023, Silicon Valley Bank (“SVB”) was closed by the California Department of Financial Protection and Innovation, which appointed the Federal Deposit Insurance Corporation (“FDIC”) as receiver. Similarly, on March 12, 2023, Signature Bank and Silvergate Capital Corp. were each swept into receivership. Although we assess our banking and customer relationships as we believe necessary or appropriate, our access to funding sources and other credit arrangements in amounts adequate to finance or capitalize our current and projected future business operations could be significantly impacted. In addition, investor concerns regarding the U.S. or international financial systems could result in less favorable commercial financing terms, including higher interest rates or costs and tighter financial and operating covenants, or systemic limitations on access to credit and liquidity sources, thereby making it more difficult for us to acquire financing on acceptable terms or at all. Any decline in available funding or access to our cash and liquidity resources could, among other risks, adversely impact our ability to meet our operating expenses, financial obligations or fulfill our other obligations, result in breaches of our contractual obligations or result in violations of federal or state wage and hour laws. Any of these impacts, or any other impacts resulting from the factors described above or other related or similar factors not described above, could have material adverse impacts on our liquidity and our business, financial condition or results of operations. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities 26 Table of Contents Total Number of In Thousands Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan January 1 - January 31, 2023 Share repurchase program (1) 116,000 $ 15.66 611,138 1,536 February 1 - February 28, 2023 Share repurchase program (1) 116,698 $ 13.16 727,836 — March 1 - March 31, 2023 Share repurchase program (1) — $ — 727,836 — Quarter Total Share repurchase program (1) 232,698 $ 14.41 727,836 — (1) Shares were purchased through the Company’s publicly announced share repurchase program approved by the Company’s Board of Directors on October 31, 2022. The program was fully utilized during the Company’s first quarter. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION None 27 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 32.1** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002. 101.INS* XBRL Instance Document. 101.SCH* XBRL Taxonomy Extension Schema Document. 101.CAL* XBRL Taxonomy Calculation Linkbase Document. 101.LAB * XBRL Taxonomy Label Linkbase Document. 101.PRE * XBRL Presentation Linkbase Document. 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document. 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith ** Furnished herewith 28 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat April 27, 2023 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 29 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end June 30, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 303 ) 703-4906 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol Name of each exchange on which registered Common Stock, par value $0.001 per share ZYXI NASDAQ Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☒ Non-accelerated filer ☐ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of July 26, 2023 Common Stock, par value $0.001 35,925,522 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of June 30, 2023 (unaudited) and December 31, 2022 3 Unaudited Condensed Consolidated Statements of Income for the three and six months ended June 30, 2023 and 2022 4 Unaudited Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2023 and 2022 5 Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the three and six months ended June 30, 2023 and 2022 6 Unaudited Notes to Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 22 Item 3. Quantitative and Qualitative Disclosures About Market Risk 26 Item 4. Controls and Procedures 26 PART II—OTHER INFORMATION 28 Item 1. Legal Proceedings 28 Item 1A. Risk Factors 28 Item 2. Unregistered Sales of Equity Securities And Use of Proceeds 28 Item 3. Defaults Upon Senior Securities 28 Item 4. Mine Safety Disclosures 28 Item 5. Other Information 28 Item 6. Exhibits 29 SIGNATURES 30 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES) June 30, 2023 December 31, (unaudited) 2022 ASSETS Current assets: Cash $ 58,749 $ 20,144 Accounts receivable, net 32,957 35,063 Inventory, net 14,325 13,484 Prepaid expenses and other 1,529 868 Total current assets 107,560 69,559 Property and equipment, net 2,373 2,175 Operating lease asset 10,923 12,841 Finance lease asset 211 270 Deposits 683 591 Intangible assets, net of accumulated amortization 8,616 9,067 Goodwill 20,401 20,401 Deferred income taxes 1,802 1,562 Total assets $ 152,569 $ 116,466 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabiliti Accounts payable and accrued expenses 5,930 5,601 Cash dividends payable 14 16 Operating lease liability 1,921 2,476 Finance lease liability 122 128 Income taxes payable — 1,995 Current portion of debt — 5,333 Accrued payroll and related taxes 6,108 5,537 Total current liabilities 14,095 21,086 Long-term liabiliti Long-term portion of debt, less issuance costs — 5,293 Convertible senior notes, less issuance costs 57,155 — Contingent consideration 6,900 10,000 Operating lease liability 12,020 13,541 Finance lease liability 132 188 Total liabilities 90,302 50,108 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of June 30, 2023 and December 31, 2022 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,639,575 issued and 36,014,243 outstanding as of June 30, 2023 41,658,132 issued and 36,825,081 outstanding as of December 31, 2022 36 39 Additional paid-in capital 82,888 82,431 Treasury stock of 5,151,913 and 4,253,015 shares at June 30, 2023 and December 31, 2022, respectively, at cost ( 42,628 ) ( 33,160 ) Retained earnings 21,971 17,048 Total stockholders’ equity 62,267 66,358 Total liabilities and stockholders’ equity $ 152,569 $ 116,466 The accompanying notes are an integral part of these condensed consolidated financial statements. 3 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended June 30, For the Six Months Ended June 30, 2023 2022 2023 2022 NET REVENUE Devices $ 13,743 $ 9,505 $ 25,687 $ 16,230 Supplies 31,209 27,254 61,435 51,612 Total net revenue 44,952 36,759 87,122 67,842 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 9,272 7,305 18,541 14,226 Sales and marketing 21,609 16,314 42,836 30,738 General and administrative 11,358 8,776 22,748 16,608 Total costs of revenue and operating expenses 42,239 32,395 84,125 61,572 Income from operations 2,713 4,364 2,997 6,270 Other income (expense) Gain on sale of fixed assets — — 2 — Gain (loss) on change in fair value of contingent consideration 1,700 ( 100 ) 3,100 100 Interest expense, net ( 317 ) ( 115 ) ( 401 ) ( 239 ) Other income (expense), net 1,383 ( 215 ) 2,701 ( 139 ) Income from operations before income taxes 4,096 4,149 5,698 6,131 Income tax expense 742 803 775 1,408 Net income $ 3,354 $ 3,346 $ 4,923 $ 4,723 Net income per sh Basic $ 0.09 $ 0.09 $ 0.13 $ 0.12 Diluted $ 0.09 $ 0.08 $ 0.13 $ 0.12 Weighted average basic shares outstanding 36,435 38,851 36,564 39,305 Weighted average diluted shares outstanding 37,061 39,893 37,249 40,367 The accompanying notes are an integral part of these condensed consolidated financial statements. 4 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) For the Six Months Ended June 30, 2023 2022 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 4,923 $ 4,723 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation 1,311 1,025 Amortization 620 461 Non-cash reserve charges ( 91 ) ( 9 ) Stock-based compensation 967 1,124 Non-cash lease expense ( 158 ) 237 Benefit for deferred income taxes ( 240 ) ( 392 ) Gain on change in fair value of contingent consideration ( 3,100 ) ( 100 ) Gain on sale of fixed assets ( 2 ) — Change in operating assets and liabiliti Accounts receivable 2,106 808 Prepaid and other assets ( 661 ) ( 669 ) Accounts payable and other accrued expenses ( 1,172 ) ( 1,020 ) Inventory ( 1,736 ) ( 4,604 ) Deposits ( 92 ) ( 6 ) Net cash provided by operating activities 2,675 1,578 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 394 ) ( 212 ) Proceeds on sale of fixed assets 10 — Net cash used in investing activities ( 384 ) ( 212 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 62 ) ( 58 ) Cash dividends paid ( 1 ) ( 3,613 ) Purchase of treasury stock ( 9,468 ) ( 10,655 ) Proceeds from issuance of convertible senior notes, net of issuance costs 57,026 — Proceeds from the issuance of common stock on stock-based awards 32 14 Principal payments on long-term debt ( 10,667 ) ( 2,667 ) Taxes withheld and paid on employees’ equity awards ( 546 ) ( 122 ) Net cash provided by (used in) financing activities 36,314 ( 17,101 ) Net increase (decrease) in cash 38,605 ( 15,735 ) Cash at beginning of period 20,144 42,612 Cash at end of period $ 58,749 $ 26,877 Supplemental disclosure of cash flow informati Cash paid on interest, net $ ( 260 ) $ ( 208 ) Cash paid for rent $ ( 2,378 ) $ ( 1,965 ) Cash paid for income taxes $ ( 2,985 ) ( 3,926 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ — $ 211 Vesting of restricted stock awards $ ( 3 ) $ — Inventory transferred to property and equipment under lease $ 894 $ 788 Capital expenditures not yet paid $ 78 $ 48 Non-cash dividend adjustment $ ( 1 ) $ — The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2021 39,737,890 41 80,397 ( 6,513 ) — 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 39,776,816 $ 41 80,913 $ ( 6,513 ) $ 1,377 $ 75,818 Exercised and vested stock-based awards 178,727 1 11 — — 12 Stock-based compensation expense — — 535 — — 535 Shares of common stock withheld to pay taxes on employees’ equity awards ( 47,603 ) — ( 47 ) — — ( 47 ) Purchase of treasury stock ( 1,504,374 ) ( 2 ) — ( 10,653 ) — ( 10,655 ) Net income — — — — 3,346 3,346 Balance at June 30, 2022 38,403,566 $ 40 $ 81,412 $ ( 17,166 ) $ 4,723 $ 69,009 Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2022 36,825,081 39 82,431 ( 33,160 ) 17,048 66,358 Exercised and vested stock-based awards 66,045 — 27 — — 27 Stock-based compensation expense — — 307 — — 307 Warrants exercised 10,000 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 22,387 ) — ( 422 ) — — ( 422 ) Purchase of treasury stock ( 232,698 ) — — ( 3,353 ) — ( 3,353 ) Net income — — — — 1,569 1,569 Balance at March 31, 2023 36,646,041 $ 39 $ 82,343 $ ( 36,513 ) $ 18,617 $ 64,486 Exercised and vested stock-based awards 45,626 — 9 — — 9 Stock-based compensation expense — — 660 — — 660 Shares of common stock withheld to pay taxes on employees’ equity awards ( 11,224 ) ( 3 ) ( 124 ) — — ( 127 ) Purchase of treasury stock ( 666,200 ) — — ( 6,115 ) — ( 6,115 ) Net income — — — — 3,354 3,354 Balance at June 30, 2023 36,014,243 $ 36 $ 82,888 $ ( 42,628 ) $ 21,971 $ 62,267 The accompanying notes are an integral part of these condensed consolidated financial statements. 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of June 30, 2023, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100 % of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the six months ended June 30, 2023 and 2022, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. Unaudited Condensed Consolidated Financial Statements The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. Amounts as of December 31, 2022, are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of June 30, 2023 and the results of its operations and its cash flows for the periods presented. The results of operations for the six months ended June 30, 2023 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying condensed consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying condensed consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, assumptions related to the valuation of contingent consideration, and valuation of long-lived assets and realizability of deferred tax assets. Accounts Receivable, Net The Company’s accounts receivable represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. The Company maintains a constraint for third-party payer refund requests, deductions and adjustments. See Note 15 – Concentrations for discussion of significant customer accounts receivable balances. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Useful lives of finite-lived intangible assets by each asset category are summarized be 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Estimated Useful Lives in years Patents 11 Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing in the future. The Company utilized the simplified test for goodwill impairment. The amount recognized for impairment is equal to the difference between the carrying value and the asset’s fair value. The valuation methods used in the quantitative fair value assessment was a discounted cash flow method and required management to make certain assumptions and estimates regarding certain industry trends and future profitability of our reporting units. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when the performance obligation has been met and the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when the performance obligation has been met and the product has been transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. The following table provides a breakdown of disaggregated net revenues for the three and six months ended June 30, 2023 and 2022 related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606”), leases subject to ASC 842 – “Leases” (“ASC 842”), and supplies (in thousands): For the Three Months Ended June 30, For the Six Months Ended June 30, 2023 2022 2023 2022 Device revenue Purchased $ 4,781 $ 2,268 $ 9,422 $ 4,457 Leased 8,962 7,237 16,265 11,773 Total device revenue $ 13,743 $ 9,505 $ 25,687 $ 16,230 Supplies revenue 31,209 27,254 61,435 51,612 Total revenue $ 44,952 $ 36,759 $ 87,122 $ 67,842 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s condensed consolidated balance sheets. For additional information on the leases where the Company is the lessee, see Note 13- Leases. A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying condensed consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision-Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. The Inflation Reduction Act (“IRA”) was enacted into law on August 16, 2022. Included in the IRA was a provision to implement a 15% corporate alternative minimum tax on corporations whose average annual adjusted financial statement income during the most recently completed three year period exceeds $1 billion. This provision is effective for tax years beginning after December 31, 2022. We are in the process of evaluating the provisions of the IRA, but we do not currently believe the IRA will have a material impact on our reported results, cash flows or financial position when it becomes effective. Recent Accounting Pronouncements Management has evaluated recently issued accounting pronouncements and does not believe that any of these pronouncements will have a material impact on the Company’s consolidated financial statements. 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (3) INVENTORY The components of inventory are as follows (in thousands): June 30, 2023 December 31, 2022 Raw materials $ 3,998 $ 3,506 Work-in-process 785 1,205 Finished goods 7,724 7,750 Inventory in transit 2,086 1,291 $ 14,593 $ 13,752 L reserve ( 268 ) ( 268 ) $ 14,325 $ 13,484 (4) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): June 30, 2023 December 31, 2022 Property and equipment Office furniture and equipment $ 3,105 $ 2,819 Assembly equipment 141 110 Vehicles 203 203 Leasehold improvements 1,173 1,173 Leased devices 1,289 1,162 Capital projects 137 — $ 6,048 $ 5,467 Less accumulated depreciation ( 3,675 ) ( 3,292 ) $ 2,373 $ 2,175 Total depreciation expense related to our property and equipment was $ 0.2 million for the three months ended June 30, 2023 and 2022. Depreciation expense for the six month periods ended June 30, 2023 and 2022 was $ 0.4 million. Total depreciation expense related to devices out on lease was $ 0.5 million and $ 0.4 million for the three months ended June 30, 2023 and 2022, respectively. Depreciation expense related to devices out on lease was $ 0.9 million and $ 0.7 million for the six months ended June 30, 2023 and 2022, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units which are still with patients for which the Company cannot determine the current status. (5) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the “Selling Shareholders”). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,467,785 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares were subject to a lockup agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 978,524 of the Zynex Shares were deposited in escrow (the “Escrow Shares”). The number of Escrow Shares were subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. The Escrow Shares were adjusted on the anniversary date, which resulted in the cancellation of 156,673 Escrow Shares. Half of the Escrow Shares will be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS the Device in the United States. The other half of the Escrow Shares will be released upon determination by the FDA that the Device can be marketed and sold in the United States. The amount of escrow shares were recalculated at June 30, 2022, and are included in the calculation of diluted earnings per share for June 30, 2022. No additional calculation was required for the Escrow Shares at June 30, 2023, as the Escrow Share number was finalized on the anniversary date, and the shares are included in the Company’s calculation of basic earnings per share. The maximum amount of Zynex Shares that may be released are limited to 19.9 % of the total number of common shares and total voting power of common shares of the Company (see Note 14 - Fair Value Measurements for more information regarding this liability). The acquisition of Kestrel has been accounted for as a business combination under ASC 805 – “Business Combinations” (“ASC 805”). Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. (6) GOODWILL AND OTHER INTANGIBLE ASSETS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in goodwill of $ 20.4 million (see Note 5 – Business Combinations). As of June 30, 2023, there was no change in the carrying amount of goodwill, and there were no impairment indicators of the Company’s net asset value. The following table provides the summary of the Company’s intangible assets as of June 30, 2023. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents at December 31, 2022 $ 10,000 $ ( 933 ) $ 9,067 10.00 Amortization expense ( 451 ) ( 451 ) Acquired patents at June 30, 2023 $ 10,000 $ ( 1,384 ) $ 8,616 9.48 The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2023, next five fiscal years, and periods thereaf (In thousands) July 1, 2023 through December 31, 2023 458 2024 911 2025 908 2026 908 2027 908 Thereafter 4,523 Total future amortization expense $ 8,616 (7) EARNINGS PER SHARE Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period. Dilution resulting from stock-based compensation plans is determined using the treasury stock method and dilution resulting from the 2023 Convertible Senior Notes is determined using the if-converted method. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The calculation of basic and diluted earnings per share for the three and six months ended June 30, 2023 and 2022 are as follows (in thousands, except per share data): For the Three Months Ended June 30, For the Six Months Ended June 30, 2023 2022 2023 2022 Basic earnings per share Net income $ 3,354 $ 3,346 $ 4,923 $ 4,723 Basic weighted average shares outstanding 36,435 38,851 36,564 39,305 Basic earnings per share $ 0.09 0.09 0.13 0.12 Diluted earnings per share Net income $ 3,354 3,346 4,923 4,723 Weighted average shares outstanding 36,435 38,851 36,564 39,305 Effect of dilutive securities - options and restricted stock 626 1,042 685 1,062 Diluted weighted-average shares outstanding 37,061 39,893 37,249 40,367 Diluted earnings per share $ 0.09 0.08 $ 0.13 $ 0.12 For the three and six months ended June 30, 2023, equity grants of 39,000 and 21,000 shares of common stock, respectively, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. For the three and six months ended June 30, 2022, equity grants of 293,000 and 341,000 shares of common stock, respectively, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. For three and six months ended June 30, 2023, conversion options to purchase 3.2 million and 1.6 million shares, respectively, resulting from the 2023 Convertible Senior Notes, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive (see Note 9 – Convertible Senior Notes). (8) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets were pledged as collateral. One facility was a line of credit in the amount of $ 4.0 million available until December 1, 2024 (the “Facility 1”). Interest on Facility 1 was due on the first day of each month beginning January 1, 2022. The interest rate was an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . The Company did not utilize the facility during the three and six months ended June 30, 2023 and June 30, 2022. During May 2023, the facility was terminated. The other facility extended by the Bank to the Company was a fixed rate term loan in the amount of up to $ 16.0 million (the “Facility 2”). Facility 2 was entered into and funded in conjunction with the purchase of Kestrel Labs at an interest rate equal to 2.8 % per year. The Company had to pay interest on the first day of each month which began January 1, 2022 and the Company also repaid the principal amount in equal installments of $ 444,444 per month. All unpaid interest and principal on Facility 2 was fully paid off and the Facility was terminated during May 2023. (9) CONVERTIBLE SENIOR NOTES In May 2023, the Company issued $ 52.5 million aggregate principal amount of 5.00 % Convertible Senior Notes due May 15, 2026 (the “2023 Convertible Senior Notes”). In May 2023, the Company issued an additional $ 7.5 million aggregate principal amount of the 2023 Convertible Senior Notes upon the exercise by the initial purchasers of their over-allotment option. Interest on the 2023 Convertible Senior Notes is payable semiannually in arrears, beginning November 15, 2023. The 2023 Convertible Senior Notes will mature on May 15, 2026, unless earlier converted or repurchased, and are redeemable at the option of the Company on or after May 20, 2025. The 2023 Convertible Senior Notes are direct, unsecured, and unsubordinated obligations of the Company, ranking equally with all of the Company’s other unsecured and unsubordinated indebtedness from time to time outstanding, and are effectively subordinated to all secured indebtedness of the Company. 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Holders may convert their 2023 Convertible Senior Notes at their option prior to the close of business on the business day preceding September 30, 2023, but only under the following circumstanc during any calendar quarter (and only during such calendar quarter), if the last reported sale price of the Company’s common stock for at least twenty trading days (whether or not consecutive) during the period of thirty consecutive trading days ending on, and including, the last trading day of the immediately preceding calendar quarter is greater than or equal to 130 % of the conversion price on each applicable trading day as determined by the Company; during the five business day period after any ten consecutive trading day period (the “Measurement Period”) in which the trading price per $ 1,000 principal amount of 2023 Convertible Senior Notes for each trading day of the Measurement Period was less than 98 % of the product of the last reported sale price of the common stock and the conversion rate on each such trading day; or upon the occurrence of certain corporate events specified in the indenture governing the 2023 Convertible Senior Notes. On or after February 15, 2026, a holder may convert all or any portion of its 2023 Convertible Senior Notes at any time prior to the close of business on the second scheduled trading day immediately preceding the maturity date regardless of the foregoing conditions. The Company will settle conversions of the 2023 Convertible Senior Notes by paying cash up to the aggregate principal amount of the 2023 Convertible Senior Notes to be converted and paying or delivering, as the case may be, cash, shares of common stock or a combination of cash and shares of common stock, at the Company’s election, in respect of the remainder, if any, of the Company's conversion obligation in excess of the aggregate principal amount of the 2023 Convertible Senior Notes being converted. The 2023 Convertible Senior Notes are initially convertible at a rate of 92.8031 shares of common stock per $ 1,000 principal amount converted, which is approximately equal to $ 10.78 per share of common stock. The conversion rate will be subject to adjustment upon the occurrence of certain specified events but will not be adjusted for accrued and unpaid interest. In addition, upon the occurrence of a make-whole fundamental change, which includes certain change in control transactions, the approval by Zynex’s stockholders of any plan or proposal for the liquidation or dissolution of Zynex and certain de-listing events with respect to Zynex’s common stock, the Company will, in certain circumstances, increase the conversion rate by a number of additional shares of common stock for conversions in connection with the make-whole fundamental change. Upon the occurrence of a fundamental change, holders of the 2023 Convertible Senior Notes may require the Company to purchase all or a portion of their 2023 Convertible Senior Notes, in principal amounts equal to $ 1,000 or an integral multiple thereof, for cash at a price equal to 100 % of the principal amount of the 2023 Convertible Senior Notes to be purchased plus any accrued and unpaid interest. The following table summarizes the minimum interest payments over the remainder of 2023 and next three fiscal years until maturity in May 2026. (In thousands) July 1, 2023 through December 31, 2023 $ 1,592 2024 3,050 2025 3,042 2026 1,508 (10) STOCK-BASED COMPENSATION PLANS In June 2017, our stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5,500,000 shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of our common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon grant and are not included in outstanding shares until such vesting and issuance occurs. 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS During the three and six months ended June 30, 2023, no stock option awards were granted under the 2017 Stock Plan. During the three and six months ended June 30, 2022, 200,000 stock option awards were granted under the 2017 Stock Plan. At June 30, 2023, the company had 0.6 million stock options outstanding and 0.6 million exercisable under the following pla Outstanding Exercisable Number of Options Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 211 211 2017 Stock Option Plan 351 350 Total 562 561 During the three and six months ended June 30, 2023, 72,000 and 134,000 shares of restricted stock were granted under the 2017 Stock Plan, respectively. During the three and six months ended June 30, 2022, 45,000 and 93,000 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on restricted stock awards typically occur quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. The following summarizes stock-based compensation expenses recorded in the condensed consolidated statements of income (in thousands): For the Three Months Ended June 30, For the Six Months Ended June 30, 2023 2022 2023 2022 Cost of Revenue $ 7 $ 12 $ 15 $ 27 Sales and marketing expense 69 55 130 114 General, and administrative 584 468 822 983 Total stock based compensation expense $ 660 $ 535 $ 967 $ 1,124 The Company received proceeds of $ 0.1 million related to option exercises during the three and six months ended June 30, 2023. The Company received proceeds of $ 0.1 million related to option exercises during each of the three and six months ended June 30, 2022. No stock option awards were granted by the Company during the three and six months ended June 30, 2023. A summary of stock option activity under all equity compensation plans for the six months ended June 30, 2023, is presented be Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2022 793 $ 2.67 5.03 $ 8,908 Granted — $ — Forfeited ( 206 ) $ 6.30 Exercised ( 25 ) $ 5.38 Outstanding at June 30, 2023 562 $ 1.23 3.05 $ 4,701 Exercisable at June 30, 2023 561 $ 1.21 3.04 $ 4,699 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS A summary of restricted stock award activity under all equity compensation plans for the six months ended June 30, 2023, is presented be Number of Shares Weighted Average (in thousands) Grant Date Fair Value Granted but not vested at December 31, 2022 431 $ 11.92 Granted 134 10.81 Forfeited ( 4 ) 12.65 Vested ( 88 ) 12.14 Granted but not vested at June 30, 2023 473 $ 11.56 As of June 30, 2023, the Company had approximately $ 4.5 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.3 years. (11) STOCKHOLDERS’ EQUITY Treasury Stock On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through October 4, 2022, the Company purchased 1,091,604 shares of its common stock for $ 10.0 million for an average price of $ 9.06 per share which completed this program. On October 31, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through October 31, 2023. From the inception of the plan through December 31, 2022, the Company purchased 495,138 shares of its common stock for $ 6.6 million or an average price of $ 13.43 per share. From the inception of the plan through March 31, 2023, the Company purchased 727,836 shares of its common stock for $ 10 million or an average price of $ 13.74 per share which completed this program. On May 10, 2023, the disinterested members of the Board of Directors and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on May 10, 2023 of $ 9.61 per share for $ 2.9 million. See Note 17 - Related Parties for additional information. On June 13, 2023, the disinterested members of the Board of Directors and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on June 13, 2023, of $ 8.62 per share for $ 2.6 million. See Note 17 - Related Parties for additional information. On June 13, 2023, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 13, 2024. From the inception of the plan through June 30 2023, the Company purchased 66,200 shares of its common stock for $ 0.6 million or an average price of $ 9.76 per share. 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Warrants A summary of stock warrant activity for the six months ended June 30, 2023 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2022 99 $ 2.39 1.76 $ 1,140 Granted — $ — Exercised ( 8 ) $ 2.27 Forfeited ( 2 ) $ — Outstanding and exercisable at June 30, 2023 89 $ 2.41 1.27 $ 639 (12) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits from stock option exercises and the tax impact of the change in fair value of contingent consideration. For the three months ended June 30, 2023 and 2022 discrete items adjusted were ($ 1.6 ) million and ($ 0.9 ) million, respectively. For the six months ended June 30, 2023 and 2022 discrete items adjusted were ($ 3.1 ) million and ($ 0.4 ) million, respectively. At June 30, 2023 and 2022, the Company is estimating an annual effective tax rate of approximately 27 % and 25 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 14 % and 23 % for the six months ended June 30, 2023 and 2022, respectively. The decrease in the Company’s effective income tax rate for the six months ended June 30, 2023 compared to the same period in 2022, primarily relate to the tax impact of discrete items, in particular the change in fair value of contingent consideration recorded during the current quarter which is not expected to be taxable. The Company recorded income tax expense of $ 0.7 million and $ 0.8 million for the three and six months ended June 30, 2023, respectively, and income tax expense of $ 0.8 million and $ 1.4 million for the three and six months ended June 30, 2022, respectively. Taxes of $ 3.0 million and $ 3.9 million were paid during the six months ended June 30, 2023 and 2022, respectively. (13) LEASES The Company categorizes leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During February 2023, the Company entered into a lease agreement for approximately 41,427 square feet of office space for the operations of ZMS in Englewood, CO. The lease commences on July 1, 2023 and runs through December 31, 2028. At the expiration of the lease term the Company has the option to renew the lease for one additional five year period. The Company is entitled to rent abatements for the first six months of the lease and tenant improvement allowances. Payments based on the initial rate of $ 24.75 per square foot begin in January 2024. The price per square foot increases by an additional $ 0.50 during each subsequent twelve-month period of the lease after the abatement period. The Company anticipates the recognition of a lease liability of $ 4.2 million related to the lease during the Company’s third quarter of 2023, which is excluded from the future minimum lease payments table below. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 3.99 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 9.40 % which was used to measure its finance lease liability. The weighted average remaining lease term was 4.55 years and 2.23 years for operating and finance leases, respectively, as of June 30, 2023. 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS As of June 30, 2023, the maturities of the Company’s future minimum lease payments were as follows (in thousands): Operating Lease Liability Finance Lease Liability July 1, 2023 through December 31, 2023 $ 677 $ 76 2024 3,571 116 2025 3,586 76 2026 3,362 15 2027 3,150 — 2028 1,064 — Total undiscounted future minimum lease payments $ 15,410 $ 283 L difference between undiscounted lease payments and discounted lease liabiliti ( 1,469 ) ( 29 ) Total lease liabilities $ 13,941 $ 254 The components of lease expenses were as follows: Three Months Ended Six Months Ended June 30, June 30, 2023 2022 2023 2022 Lease Operating lease Total operating lease expense $ 1,121 $ 1,113 $ 2,242 $ 2,219 Finance lease Total amortization of leased assets 29 29 59 59 Interest on lease liabilities 7 9 14 19 Total net lease cost $ 1,157 $ 1,151 $ 2,315 $ 2,297 For the three months ended June 30, 2023 and 2022, $ 0.1 million and $ 0.2 million, respectively, of operating lease costs were incurred at the Company’s manufacturing and warehouse facility and were included in cost of sales. For the three and six months ended June 30, 2023 and 2022, $ 1.0 million and $ 2.0 million, respectively, of operating lease costs were included in selling, general and administrative expenses on the condensed consolidated statement of income. (14) FAIR VALUE MEASUREMENTS The Company measures the fair value of financial assets and liabilities based on the guidance of ASC 820 “Fair Value Measurements and Disclosures” (“ASC 820”) which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. The Company’s asset and liability classified financial instruments include cash, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The fair value of acquisition-related contingent consideration is based on a Monte Carlo model. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions of what market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is broken down into three levels based on reliability of the inputs as follows: 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Level 1: Inputs that reflect unadjusted quoted prices in active markets that are accessible to Zynex for identical assets or liabilities; Level 2: Inputs include quoted prices for similar assets and liabilities in active or inactive markets or that are observable for the asset or liability either directly or indirectly; and Level 3: Unobservable inputs that are supported by little or no market activity. The Company’s assets and liabilities which are measured at fair value on a recurring basis are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. The Company’s policy is to recognize transfers in and/or out of fair value hierarchy as of the date in which the event or change in circumstances caused the transfer. The Company has consistently applied the valuation techniques discussed below in all periods presented. The following table presents Company’s financial liabilities that were accounted for at fair value on a recurring basis as of June 30, 2023, by level within the fair value hierarc Fair Value Measurements at June 30, 2023 Quoted Priced in Active Markets Significant for Other Significant Fair Value at Identical Observable Unobservable June 30, Assets Inputs Inputs 2023 (Level 1) (Level 2) (Level 3) (In thousands) Contingent consideration $ 6,900 $ — $ — $ 6,900 Total $ 6,900 $ — $ — $ 6,900 The following table sets forth a summary of changes in the contingent consideration for the three months ended June 30, 2023 (in thousands): Contingent Consideration Balance as of December 31, 2022 $ 10,000 Change in fair value of contingent consideration ( 3,100 ) Balance as of June 30, 2023 $ 6,900 (15) CONCENTRATIONS For the three months ended June 30, 2023, the Company sourced approximately 24 % of the supplies for its electrotherapy products from two significant vendors. For the same period in 2022, the Company sourced approximately 58 % of the supplies for its electrotherapy products from four significant vendors. For the six months ended June 30, 2023, the Company sourced approximately 26 % of supplies for its electrotherapy products from two significant vendors. For the same period in 2022, the Company sourced approximately 53 % of supplies for its electrotherapy products from four significant vendors. At June 30, 2023, the Company had no receivables from any third-party payers that made up over 10 % of the net accounts receivable balance. At December 31, 2022, the Company had receivables from one third-party payer which made up approximately 14 % of the net accounts receivable balance. (16) COMMITMENTS AND CONTINGENCIES See Note 13 for details regarding commitments under the Company’s long-term leases. 20 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (17) RELATED PARTIES On May 10, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 common shares of ZYXI from Mr. Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on May 10, 2023 of $ 9.61 per share, resulting in a total transactional value of $ 2,883,000 . On June 13, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 common shares of ZYXI from Mr. Sandgaard at the closing market price on June 13, 2023, of $ 8.62 per share, resulting in a total transactional value of $ 2,586,000 . At the time of each aforementioned transactions, the disinterested Board and Audit Committee Members deemed it to be in the best interest of The Company to purchase the shares as they believe the current market price for the Company’s stock is undervalued and the Company’s cash position is such that the purchase of shares from Mr. Sandgaard is a good use of the Company’s funds at the time of each transaction. For each transaction, the following impacts were discussed before approval of the s (i) the Company’s cash position and capital needs for its continuing operations; (ii) the alternative uses for the cash used to purchase the Sandgaard Shares, including repayment of outstanding indebtedness; (iii) the possible effect on earnings per share and book value per share; (iv) and the potential effect of the trading of the Company’s shares, if Mr. Sandgaard were to sell the shares in the open market. (18) SUBSEQUENT EVENTS No subsequent events identified through July 27, 2023. 21 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2022. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2022 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which include electrotherapy and pain management products. As of June 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which were incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. On June 15, 2023, Zynex, Inc entered into an investor relations consulting agreement with MZHCI, LLC. RESULTS OF OPERATIONS Summary Net revenue was $45.0 million and $36.8 million for the three months ended June 30, 2023 and 2022, respectively, and $87.1 million and $67.8 million for the six months ended June 30, 2023 and 2022, respectively. Net revenue increased 22% and 28% for the three and six-month periods ended June 30, 2023, respectively. Net income was $3.4 million for the three months ended June 30, 2023 compared with $3.3 million during the same period in 2022. Net income was $4.9 million for the six months ended June 30, 2023 compared with $4.7 million during the same period in 2022. Cash provided by operating activities was $2.7 million during the six months ended June 30, 2023 compared with $1.6 million during the same period in 2022. Working capital was $93.5 million and $48.5 million as of June 30, 2023 and December 31, 2022, respectively. 22 Table of Contents Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the condensed financial statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $8.2 million or 22% to $45.0 million for the three months ended June 30, 2023, from $36.8 million for the same period in 2022. Net revenue increased $19.3 million or 28% to $87.1 million for the six months ended June 30, 2023, from $67.8 million for the same period in 2022. For both the three and six-month periods ended June 30, 2023, the growth in net revenue from the same periods in 2022 is primarily related to a 51% and 55% growth in device orders, respectively, which resulted from a larger customer base and led to increased sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our products. Device revenue increased $4.2 million or 45% to $13.7 million for the three months ended June 30, 2023, from $9.5 million for the same period in 2022. Device revenue increased $9.5 million or 58% to $25.7 million for the six months ended June 30, 2023, from $16.2 million for the same period in 2022. For both the three and six-month periods ended June 30, 2023, the growth in net revenue from the same periods in 2022 is primarily related to a 51% and 55% growth in device orders, respectively. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our electrotherapy products. Supplies revenue increased $3.9 million or 15% to $31.2 million for the three months ended June 30, 2023, from $27.3 million for the same period in 2022. Supplies revenue increased $9.8 million or 19% to $61.4 million for the six months ended June 30, 2023, from $51.6 million for the same period in 2022. The increase in supplies revenue is primarily related to an increased customer base from increased device sales in 2022 and 2023. 23 Table of Contents Operating Expenses Cost of Revenue – Devices and Supplies Cost of Revenue – devices and supplies consist primarily of device and supply costs, facilities, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended June 30, 2023 increased 27% to $9.3 million from $7.3 million from the same period in 2022. As a percentage of revenue, cost of revenue – devices and supplies increased to 21% from 20% for the three months ended June 30, 2023 and 2022, respectively. Cost of revenue for the six months ended June 30, 2023 increased 30% to $18.5 million from $14.2 million for the same period in 2022. As a percentage of revenue, cost of revenue – device and supply remained flat at 21% for the six months ended June 30, 2023 and 2022. The increase in cost of revenue – devices and supplies, in the three and six month periods ending June 30, 2023, is due to increased volumes related to higher revenue. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee-related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended June 30, 2023 increased 32% to $21.6 million from $16.3 million for the same period in 2022. The increase in sales and marketing expense is primarily due to increased commission and incentive pay from increased orders, increased headcount of our sales force, and rising wages in the U.S. due to a very competitive job market. As a percentage of revenue, sales and marketing expense increased to 48% from 44% for the three months ended June 30, 2023 and 2022, respectively, primarily due to the aforementioned expenses, offset by increased revenue. Sales and marketing expense for the six months ended June 30, 2023 increased 39% to $42.8 million from $30.7 million for the same period in 2022. The increase in sales and marketing expense is primarily due to increased commission and incentive pay from increased orders, and inflation and rising wages in the U.S. due to a very competitive job market. As a percentage of revenue, sales and marketing expense increased to 49% from 45% for the six months ended June 30, 2023 and 2022, respectively. The increase as a percentage of revenue is primarily due to the additional expenses noted above, slightly offset by the increase in revenue during the period. General and Administrative Expense General and administrative expenses primarily consist of employee-related costs, and other direct costs associated with these personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for the three months ended June 30, 2023 increased 29% to $11.4 million from $8.8 million for the same period in 2022. The increase in general and administrative expense for the three months is primarily due to increased compensation and benefit expense related to headcount growth, and professional fees due to additional external resources and additional compliance fees related to Section 404(b) of the Sarbanes-Oxley Act of 2002. As a percentage of revenue, general and administrative expense increased to 25% for the three months ended June 30, 2023 from 24% for the same period in 2022. The increase as a percentage of revenue is primarily due to the items noted above, partially offset by the increase in revenue during the period. General and administrative expense for the six months ended June 30, 2023 increased 37% to $22.7 million from $16.6 million for the same period in 2022. The increase in general and administrative expense for the six months is primarily due to increased compensation and benefit expense related to headcount growth, increased professional and legal service expenses. As a percentage of revenue, general and administrative expense increased to 26% for the six months ended June 30, 2023 from 24% for the same period in 2022. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by the increase in revenue during the period. Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 18% and 14% for the three and six months ended June 30, 2023, respectively. Discrete items, primarily related to the tax impact of the change in fair value of contingent consideration, of ($1.6) million and ($3.1) million for the three and six months ended June 30, 2023, respectively, are 24 Table of Contents recognized as a benefit against income tax expense. For the three and six months ended June 30, 2023 the Company recorded an income tax expense of approximately $0.7 million and $0.8 million, respectively. The Company recorded income tax expense of $0.8 million and $1.4 million for the three and six months ended June 30, 2022, respectively. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At June 30, 2023, our principal source of liquidity was $58.7 million in cash and $33.0 million in accounts receivable. Net cash provided by operating activities for the six months ended June 30, 2023 was $2.7 million compared with net cash provided by operating activities of $1.6 million for the six months ended June 30, 2022. The increase in cash provided by operating activities for the six months ended June 30, 2023 was primarily due to an increase in net income as well as a decrease in the receivables balance. The increase was partially offset by the change in fair value of contingent consideration. Net cash used in investing activities for the six months ended June 30, 2023 and 2022 was $0.4 million and $0.2 million, respectively. Cash used in investing activities for the six months ended June 30, 2023 was primarily related to the build out of our facility for the operations of ZMS, and the purchase of computer equipment. Cash used in investing activities for the six months ended June 30, 2022 was primarily related to the purchase of leasehold improvements for the operations of the ZMS Boulder location and the purchase of computer equipment. Net cash provided by financing activities for the six months ended June 30, 2023 was $36.3 million compared with net cash used in financing activities of $17.1 million for the same period in 2022. Net cash provided by financing activities for the six months ended June 30, 2023 was primarily due to the proceeds from the issuance of the 2023 Convertible Senior Notes, offset by purchases of treasury stock, and principal payments and termination of long-term debt. Net cash used in financing activities for the six months ended June 30, 2022 was primarily due to purchases of treasury stock, payment of cash dividends in January 2022, and principal payments on long-term debt. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash balance at June 30, 2023 of $58.7 million; ● Our working capital balance of $93.5 million; ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the consolidated financial statements located within our Annual Report on Form 10-K for the year ended December 31, 2022, filed with the Securities and Exchange Commission on March 14, 2023. COVID-19 UPDATE In December 2019, a novel strain of coronavirus (“COVID-19”) emerged and spread to other countries, including the United States. In March 2020, the World Health Organization declared COVID-19 as a pandemic (the “COVID-19 pandemic”). The COVID-19 pandemic, including multiple variants, resulted in governments around the world implementing stringent measures to help control the spread of the virus, including quarantines, “shelter in place” and “stay at home” orders, travel restrictions, business interruptions and other measures. Although the World Health Organization declared an end to the COVID-19 pandemic on May 5, 2023, we continue to actively monitor the impact of COVID-19. While the Company did not incur significant disruptions to its operations during the three months ended June 30, 2023 from COVID-19, the full extent of COVID-19 on our operations and the markets we serve remains uncertain and will depend largely on future developments related to COVID-19, including infection rates increasing or returning in various 25 Table of Contents geographic areas, variations of COVID-19, actions by government authorities to contain the outbreak or treat its impact, such as reimposing previously lifted measures or putting in place additional restrictions, and the widespread distribution and acceptance of an effective vaccine, among other things. Future developments regarding COVID-19 and its effects cannot be accurately predicted. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A. ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Evaluation of disclosure controls and procedures Our management, including our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934), as amended, or the Exchange Act, as of June 30, 2023. Based on management’s review, with participation of our Chief Executive Officer and Chief Financial Officer, the Chief Executive Officer and Chief Financial Officer have concluded that, as of the quarter ended June 30, 2023, our disclosure controls and procedures were not effective due to the material weakness in internal control over financial reporting as described below. Material Weakness in Internal Control We identified a material weakness related to Information Technology General Controls (ITGCs) that were not designed and operating effectively to ensure (i) appropriate segregation of duties was in place to perform program changes and (ii) the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted. The material weakness identified above did not result in any material misstatements in our financial statements or disclosures, and there were no changes to previously released financial results. Our management concluded that the consolidated financial statements included in the Annual Report on Form 10-K, present fairly, in all material respects, our financial position, results of operations, and cash flows for the periods presented in accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP. The effectiveness of our internal control over financial reporting as of December 31, 2022, has been audited by Marcum LLP as stated in their report, which is included in Item 8 of the Annual Report on Form 10-K. Remediation Plan Our management is committed to maintaining a strong internal control environment. In response to the identified material weakness above, management will take comprehensive actions to remediate the material weakness in internal control over financial reporting. We are in the process of developing and implementing remediation plans to address the material weakness described above. Changes in Internal Control over Financial Reporting Except for the items referred to above, there were no changes in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the quarter ended June 30, 2023 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting. Inherent Limitation on the Effectiveness of Internal Control Our management, including our Chief Executive Officer and Chief Financial Officer, do not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by management override of the controls. The design of any system of controls is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with 26 Table of Contents policies or procedures may deteriorate. Due to inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. 27 Table of Contents PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS There have been no material changes from the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022 filed with the SEC on March 14, 2023 and our Quarterly Report on Form 10-Q for the period ended March 31, 2023 filed with the SEC on April 27, 2023. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities Total Number of In Thousands Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan April 1 - May 31, 2023 Share repurchase program (1) 300,000 $ 9.61 300,000 — June 1 - June 30, 2023 Share repurchase program (2) 300,000 $ 8.62 300,000 — Share repurchase program (3) 66,200 $ 9.76 66,200 9,354 Quarter Total Share repurchase program (1) 300,000 $ 9.61 300,000 — Share repurchase program (2) 300,000 $ 8.62 300,000 — Share repurchase program (3) 66,200 $ 9.76 66,200 9,354 (1) On May 10, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chief Executive Officer, at the closing market price on May 10, 2023 of $9.61 per share. (2) On June 13, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chief Executive Officer, at the closing market price on June 13, 2023, of $8.62 per share. (3) Shares were purchased through the Company’s publicly announced share repurchase program dated June 13, 2023. The program expires on June 13, 2024. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION N o n e . 28 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 4.1 Indenture, dated as of May 9, 2023, between Zynex, Inc. and U.S. Bank Trust Company, National Association, as trustee. (incorporated by reference to Exhibit 4.1 of the Company’s Current Report on Form 8-K filed on May 9, 2023) 4.2 Form of certificate representing the 5.00% Convertible Senior Notes due 2023 (included as Exhibit A to Exhibit 4.1) 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB * XBRL Taxonomy Label Linkbase Document 101.PRE * XBRL Presentation Linkbase Document 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith ** Furnished herewith 29 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat July 27, 2023 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 30 |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period end September 30, 2023 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 001-38804 Zynex, Inc. (Exact name of registrant as specified in its charter) NEVADA 90-0275169 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 9655 Maroon Cir . Englewood , CO 80112 (Address of principal executive offices) (Zip Code) ( 303 ) 703-4906 (Registrant’s telephone number, including area code) (Former name, former address and former fiscal year, if changed since last report) Securities registered pursuant to Section 12(b) of the Ac Title of each class Trading Symbol Name of each exchange on which registered Common Stock, par value $0.001 per share ZYXI NASDAQ Stock Market LLC Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☒ Non-accelerated filer ☐ Smaller reporting company ☒ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒ Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. Class Shares Outstanding as of October 26, 2023 Common Stock, par value $0.001 33,903,777 Table of Contents ZYNEX, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q Page PART I—FINANCIAL INFORMATION 3 Item 1. Financial Statements 3 Condensed Consolidated Balance Sheets as of September 30, 2023 (unaudited) and December 31, 2022 3 Unaudited Condensed Consolidated Statements of Income for the three and nine months ended September 30, 2023 and 2022 4 Unaudited Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2023 and 2022 5 Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the three and nine months ended September 30, 2023 and 2022 6 Unaudited Notes to Condensed Consolidated Financial Statements 7 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 23 Item 3. Quantitative and Qualitative Disclosures About Market Risk 27 Item 4. Controls and Procedures 27 PART II—OTHER INFORMATION 28 Item 1. Legal Proceedings 28 Item 1A. Risk Factors 28 Item 2. Unregistered Sales of Equity Securities, Use of Proceeds, and Issuer Purchases of Equity Securities 28 Item 3. Defaults Upon Senior Securities 28 Item 4. Mine Safety Disclosures 28 Item 5. Other Information 28 Item 6. Exhibits 29 SIGNATURES 30 2 Table of Contents PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ZYNEX, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES) September 30, 2023 December 31, (unaudited) 2022 ASSETS Current assets: Cash and cash equivalents $ 42,517 $ 20,144 Short-term investments, net 9,924 — Accounts receivable, net 33,288 35,063 Inventory, net 14,186 13,484 Prepaid expenses and other 3,008 868 Total current assets 102,923 69,559 Property and equipment, net 2,468 2,175 Operating lease asset 13,168 12,841 Finance lease asset 637 270 Deposits 409 591 Intangible assets, net of accumulated amortization 8,387 9,067 Goodwill 20,401 20,401 Deferred income taxes 3,036 1,562 Total assets $ 151,429 $ 116,466 LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabiliti Accounts payable and accrued expenses 8,050 5,617 Operating lease liability 3,072 2,476 Finance lease liability 210 128 Income taxes payable 1,996 1,995 Current portion of debt — 5,333 Accrued payroll and related taxes 6,515 5,537 Total current liabilities 19,843 21,086 Long-term liabiliti Long-term portion of debt, less issuance costs — 5,293 Convertible senior notes, less issuance costs 57,375 — Contingent consideration — 10,000 Operating lease liability 15,154 13,541 Finance lease liability 475 188 Total liabilities 92,847 50,108 Commitments and contingencies Stockholders’ equity: Preferred stock, $ 0.001 par value; 10,000,000 shares authorized; no shares issued and outstanding as of September 30, 2023 and December 31, 2022 — — Common stock, $ 0.001 par value; 100,000,000 shares authorized; 41,702,560 issued and 34,220,824 outstanding as of September 30, 2023 41,658,132 issued and 36,825,081 outstanding as of December 31, 2022 34 39 Additional paid-in capital 90,543 82,431 Treasury stock of 6,996,129 and 4,253,015 shares at September 30, 2023 and December 31, 2022, respectively, at cost ( 57,560 ) ( 33,160 ) Retained earnings 25,565 17,048 Total stockholders’ equity 58,582 66,358 Total liabilities and stockholders’ equity $ 151,429 $ 116,466 The accompanying notes are an integral part of these condensed consolidated financial statements. 3 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (unaudited) For the Three Months Ended September 30, For the Nine Months Ended September 30, 2023 2022 2023 2022 NET REVENUE Devices $ 16,855 $ 11,349 $ 42,542 $ 27,579 Supplies 33,060 30,171 94,495 81,783 Total net revenue 49,915 41,520 137,037 109,362 COSTS OF REVENUE AND OPERATING EXPENSES Costs of revenue - devices and supplies 9,553 8,391 28,094 22,617 Sales and marketing 22,146 17,212 64,982 47,950 General and administrative 12,731 9,359 35,479 25,967 Total costs of revenue and operating expenses 44,430 34,962 128,555 96,534 Income from operations 5,485 6,558 8,482 12,828 Other income (expense) Gain on sale of fixed assets 37 — 39 — Gain (loss) on change in fair value of contingent consideration ( 245 ) ( 100 ) 2,855 — Interest expense, net ( 327 ) ( 106 ) ( 728 ) ( 345 ) Other income (expense), net ( 535 ) ( 206 ) 2,166 ( 345 ) Income from operations before income taxes 4,950 6,352 10,648 12,483 Income tax expense 1,356 1,479 2,131 2,887 Net income $ 3,594 $ 4,873 $ 8,517 $ 9,596 Net income per sh Basic $ 0.10 $ 0.13 $ 0.24 $ 0.25 Diluted $ 0.10 $ 0.13 $ 0.23 $ 0.24 Weighted average basic shares outstanding 35,531 38,046 36,216 38,881 Weighted average diluted shares outstanding 36,103 38,865 36,866 39,729 The accompanying notes are an integral part of these condensed consolidated financial statements. 4 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS) (unaudited) For the Nine Months Ended September 30, 2023 2022 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 8,517 $ 9,596 Adjustments to reconcile net income to net cash provided by operating activiti Depreciation 1,984 1,590 Amortization 1,078 695 Non-cash reserve charges ( 91 ) 65 Stock-based compensation 1,621 1,702 Non-cash lease expense 568 720 Benefit for deferred income taxes ( 1,473 ) ( 772 ) Gain on change in fair value of contingent consideration ( 2,855 ) — Gain on sale of fixed assets ( 39 ) — Change in operating assets and liabiliti Short-term investments ( 114 ) — Accounts receivable 1,775 282 Prepaid and other assets ( 826 ) ( 446 ) Accounts payable and other accrued expenses 3,312 364 Inventory ( 2,071 ) ( 4,801 ) Deposits 182 ( 6 ) Net cash provided by operating activities 11,568 8,989 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ( 630 ) ( 332 ) Purchase of short-term investments ( 9,810 ) — Proceeds on sale of fixed assets 50 — Net cash used in investing activities ( 10,390 ) ( 332 ) CASH FLOWS FROM FINANCING ACTIVITIES: Payments on finance lease obligations ( 95 ) ( 87 ) Cash dividends paid ( 1 ) ( 3,613 ) Purchase of treasury stock ( 24,402 ) ( 19,811 ) Proceeds from issuance of convertible senior notes, net of issuance costs 57,018 — Proceeds from the issuance of common stock on stock-based awards 33 27 Principal payments on long-term debt ( 10,667 ) ( 4,000 ) Taxes withheld and paid on employees’ equity awards ( 691 ) ( 253 ) Net cash provided by (used in) financing activities 21,195 ( 27,737 ) Net increase (decrease) in cash 22,373 ( 19,080 ) Cash at beginning of period 20,144 42,612 Cash at end of period $ 42,517 $ 23,532 Supplemental disclosure of cash flow informati Cash received (paid) on interest, net $ 452 $ ( 317 ) Cash paid for rent $ ( 2,522 ) $ ( 2,592 ) Cash paid for income taxes $ ( 3,541 ) $ ( 5,028 ) Supplemental disclosure of non-cash investing and financing activiti Right-of-use assets obtained in exchange for new operating lease liabilities $ 4,214 $ 211 Right-of-use assets obtained in exchange for new finance lease liabilities $ 464 $ — Lease incentive $ 1,400 $ — Vesting of restricted stock awards $ ( 3 ) $ — Inventory transferred to property and equipment under lease $ 1,369 $ 1,191 Capital expenditures not yet paid $ 101 $ 56 Non-cash dividend adjustment $ ( 1 ) $ — The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents ZYNEX, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA) (unaudited) Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2021 39,737,890 41 80,397 ( 6,513 ) — 73,925 Exercised and vested stock-based awards 38,355 — 3 — — 3 Stock-based compensation expense — — 589 — — 589 Shares of common stock withheld to pay taxes on employees’ equity awards ( 10,873 ) — ( 76 ) — — ( 76 ) Stock dividend adjustments 11,444 — — — — — Net income — — — — 1,377 1,377 Balance at March 31, 2022 39,776,816 $ 41 $ 80,913 $ ( 6,513 ) $ 1,377 $ 75,818 Exercised and vested stock-based awards 178,727 1 11 — — 12 Stock-based compensation expense — — 535 — — 535 Shares of common stock withheld to pay taxes on employees’ equity awards ( 47,603 ) — ( 47 ) — — ( 47 ) Purchase of treasury stock ( 1,504,374 ) ( 2 ) — ( 10,653 ) — ( 10,655 ) Net income — — — — 3,346 3,346 Balance at June 30, 2022 38,403,566 $ 40 $ 81,412 $ ( 17,166 ) $ 4,723 $ 69,009 Exercised and vested stock-based awards, net of tax 68,060 — $ 13 $ — $ — 13 Stock-based compensation expense — — 578 — — 578 Shares of common stock withheld to pay taxes on employees’ equity awards ( 16,681 ) — ( 130 ) — — ( 130 ) Purchase of treasury stock ( 987,451 ) ( 1 ) — ( 9,155 ) — ( 9,156 ) Net income — — — — 4,873 4,873 Balance at September 30, 2022 37,467,494 $ 39 $ 81,873 $ ( 26,321 ) $ 9,596 $ 65,187 Additional Total Common Stock Paid-in Treasury Retained Stockholders’ Shares Amount Capital Stock Earnings Equity Balance at December 31, 2022 36,825,081 39 82,431 ( 33,160 ) 17,048 66,358 Exercised and vested stock-based awards 66,045 — 27 — — 27 Stock-based compensation expense — — 307 — — 307 Warrants exercised 10,000 — — — — — Shares of common stock withheld to pay taxes on employees’ equity awards ( 22,387 ) — ( 422 ) — — ( 422 ) Purchase of treasury stock ( 232,698 ) — — ( 3,353 ) — ( 3,353 ) Net income — — — — 1,569 1,569 Balance at March 31, 2023 36,646,041 $ 39 $ 82,343 $ ( 36,513 ) $ 18,617 $ 64,486 Exercised and vested stock-based awards 45,626 — 9 — — 9 Stock-based compensation expense — — 660 — — 660 Shares of common stock withheld to pay taxes on employees’ equity awards ( 11,224 ) ( 3 ) ( 124 ) — — ( 127 ) Purchase of treasury stock ( 666,200 ) — — ( 6,115 ) — ( 6,115 ) Net income — — — — 3,354 3,354 Balance at June 30, 2023 36,014,243 $ 36 $ 82,888 $ ( 42,628 ) $ 21,971 $ 62,267 Exercised and vested stock-based awards 69,915 — 1 — — 1 Stock-based compensation expense — — 654 — — 654 Shares of common stock withheld to pay taxes on employees’ equity awards ( 19,118 ) — ( 145 ) — — ( 145 ) Purchase of treasury stock ( 1,844,216 ) ( 2 ) — ( 14,932 ) — ( 14,934 ) Escrow share lock-up adjustment — — 7,145 — — 7,145 Net income — — — — 3,594 3,594 Balance at September 30, 2023 34,220,824 $ 34 90,543 $ ( 57,560 ) $ 25,565 $ 58,582 The accompanying notes are an integral part of these condensed consolidated financial statements. 6 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION Organization Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. The Company operates in one primary business segment, medical devices which include electrotherapy and pain management products. As of September 30, 2023, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). ZMS has developed a fluid monitoring system which received approval by the U.S. Food and Drug Administration (“FDA”) during 2020 and is still awaiting CE Marking in Europe. ZMS has achieved no revenues to date. The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation). The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100 % of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the FDA for market clearance. All activities related to Kestrel flow through the ZMS subsidiary. Nature of Business The Company designs, manufactures and markets medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. The Company’s devices are intended for pain management to reduce reliance on medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IFC”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). All the Company’s medical devices are designed to be patient friendly and designed for home use. The devices are small, portable, battery operated and include an electrical pulse generator which is connected to the body via electrodes. All of the medical devices are marketed in the U.S. and are subject to FDA regulation and approval. All of the products require a physician’s prescription before they can be dispensed in the U.S. The Company’s primary product is the NexWave device. The NexWave is marketed to physicians and therapists by the Company’s field sales representatives. The NexWave requires consumable supplies, such as electrodes and batteries, which are shipped to patients on a recurring monthly basis, as needed. During the nine months ended September 30, 2023 and 2022, the Company generated all of its revenue in North America from sales and supplies of its devices to patients and healthcare providers. Unaudited Condensed Consolidated Financial Statements The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the SEC in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. Amounts as of December 31, 2022, are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of September 30, 2023 and the results of its operations and its cash flows for the periods presented. The results of operations for the nine months ended September 30, 2023 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year. 7 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The accompanying condensed consolidated financial statements include the accounts of Zynex, Inc. and its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation. Use of Estimates Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying condensed consolidated financial statements are associated with the allowance for billing adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation, assumptions related to the valuation of contingent consideration, and valuation of long-lived assets and realizability of deferred tax assets. Cash, Cash Equivalents, and Short-Term Investments Cash equivalents consist of highly liquid investments with remaining maturities of three months or less at the date of purchase. We classify investments with maturities of greater than three months but less than one year as short-term investments. Short-term investments are classified as held-to-maturity as the Company has the positive intent and ability to hold the investments until maturity. Held-to-maturity investments are carried at amortized cost. Due to the short-term nature, the carrying amounts reported in the consolidated balance sheet approximate fair value. Accounts Receivable, Net The Company’s accounts receivable represent unconditional rights to consideration and are generated when a patient receives one of the Company’s devices, related supplies or complementary products. In conjunction with fulfilling the Company’s obligation to deliver a product, the Company invoices the patient’s third-party payer and/or the patient. Billing adjustments represent the difference between the list price and the reimbursement rates set by third-party payers, including Medicare, commercial payers and amounts billed directly to the patient. Specific amounts, if uncollected over a period of time, may be written-off after several appeals, which in some cases may take longer than twelve months. Substantially all of the Company’s receivables are due from patients with commercial or government health plans and workers compensation claims with a smaller portion related to private pay individuals, attorney, and auto claims. The Company maintains a constraint for third-party payer refund requests, deductions and adjustments. See Note 15 – Concentrations for discussion of significant customer accounts receivable balances. Inventory, Net Inventories are stated at the lower of cost or net realizable value. Cost is computed using standard costs, which approximates actual costs on an average cost basis. The Company monitors inventory for turnover and obsolescence and records losses for excess and obsolete inventory, as appropriate. The Company provides reserves for estimated excess and obsolete inventories based upon assumptions about future demand. If future demand is less favorable than currently projected by management, additional inventory write-downs may be required. Long-lived Assets The Company records intangible assets based on estimated fair value on the date of acquisition. Long-lived assets consist of net property and equipment and intangible assets. The finite-lived intangible assets are patents and are amortized on a straight-line basis over the estimated lives of the assets. The Company assesses impairment of long-lived assets when events or changes in circumstances indicates that their carrying value amount may not be recoverable. Circumstances which could trigger a review include, but are not limited t (i) significant decreases in 8 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS the market price of the asset; (ii) significant adverse changes in the business climate or legal or regulatory factors; (iii) or, expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life. If the estimated future undiscounted cash flows, excluding interest charges, from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. Useful lives of finite-lived intangible assets by each asset category are summarized be Estimated Useful Lives in years Patents 11 Goodwill Goodwill is recorded as the difference between the fair value of the purchase consideration and the estimated fair value of the net identifiable tangible and intangible assets acquired. Goodwill is not subject to amortization but is subject to impairment testing. The Company utilizes the simplified test for goodwill impairment. The amount recognized for impairment is equal to the difference between the carrying value and the asset’s fair value. The valuation methods used in the quantitative fair value assessment was a discounted cash flow method and required management to make certain assumptions and estimates regarding certain industry trends and future profitability of our reporting units. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level. The estimates of fair value and the determination of reporting units requires management judgment. Revenue Recognition Revenue is derived from sales and leases of the Company’s electrotherapy devices and sales of related supplies and complementary products. Device sales can be in the form of a purchase or a lease. Supplies needed for the device can be set up as a recurring shipment or ordered through the customer support team or online store as needed. The Company recognizes revenue when the performance obligation has been met and the product has been transferred to the patient, in the amount that reflects the consideration the Company expects to receive. In general, revenue from sales of devices and supplies is recognized once the product is delivered to the patient, which is when the performance obligation has been met and the product has been transferred to the patient. Sales of devices and supplies are primarily shipped directly to the patient, with a small amount of revenue generated from sales to distributors. In the healthcare industry there is often a third party involved that will pay on the patients’ behalf for purchased or leased devices and supplies. The terms of the separate arrangement impact certain aspects of the contracts, with patients covered by third party payers, such as contract type, performance obligations and transaction price, but for purposes of revenue recognition the contract with the customer refers to the arrangement between the Company and the patient. The Company does not have any material deferred revenue in the normal course of business as each performance obligation is met upon delivery of goods to the patient. There are no substantial costs incurred through support or warranty obligations. 9 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The following table provides a breakdown of disaggregated net revenues for the three and nine months ended September 30, 2023 and 2022 related to devices accounted for as purchases subject to Accounting Standards Codification (“ASC”) 606 – “Revenue from Contracts with Customers” (“ASC 606”), leases subject to ASC 842 – “Leases” (“ASC 842”), and supplies (in thousands): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2023 2022 2023 2022 Device revenue Purchased $ 7,022 $ 2,900 $ 16,444 $ 7,357 Leased 9,833 8,449 26,098 20,222 Total device revenue $ 16,855 $ 11,349 $ 42,542 $ 27,579 Supplies revenue 33,060 30,171 94,495 81,783 Total revenue $ 49,915 $ 41,520 $ 137,037 $ 109,362 Revenues are estimated using the portfolio approach by third-party payer type based upon historical rates of collection, aging of receivables, trends in historical reimbursement rates by third-party payer types, and current relationships and experience with the third-party payers, which includes estimated constraints for third-party payer refund requests, deductions and adjustments. Inherent in these estimates is the risk that they will have to be revised as additional information becomes available and constraints are released. Specifically, the complexity of third-party payer billing arrangements and the uncertainty of reimbursement amounts for certain products from third-party payers or unanticipated requirements to refund payments previously received may result in adjustments to amounts originally recorded. Settlements with third-party payers for retroactive revenue adjustments due to audits, reviews or investigations are considered variable consideration and are included in the determination of the estimated transaction price using the expected amount method. These adjustments to transaction price are estimated based on the terms of the payment agreement with the payer, correspondence from the payer and historical settlement activity, including an assessment to ensure that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the retroactive adjustment is subsequently resolved. Due to continuing changes in the healthcare industry and third-party payer reimbursement, it is possible the Company’s forecasting model to estimate collections could change, which could have an impact on the Company’s results of operations and cash flows. Any differences between estimated and actual collectability are reflected in the period in which received. Historically these differences have been immaterial, and the Company has not had a significant reversal of revenue from prior periods. The Company monitors the variability and uncertain timing over third-party payer types in the portfolios. If there is a change in the Company’s third-party payer mix over time, it could affect net revenue and related receivables. The Company believes it has a sufficient history of collection experience to estimate the net collectible amounts by third-party payer type. However, changes to constraints related to billing adjustments and refund requests have historically fluctuated and may continue to fluctuate significantly from quarter to quarter and year to year. Leases The Company determines if an arrangement is a lease at inception or modification of a contract. The Company recognizes finance and operating lease right-of-use assets and liabilities at the lease commencement date based on the estimated present value of the remaining lease payments over the lease term. For the finance leases, the Company uses the implicit rate to determine the present value of future lease payments. For operating leases that do not provide an implicit rate, the Company uses incremental borrowing rates to determine the present value of future lease payments. The Company includes options to extend or terminate a lease in the lease term when it is reasonably certain to exercise such options. The Company recognizes leases with an initial term of 12 months or less as lease expense over the lease term and those leases are not recorded on the Company’s condensed consolidated balance sheets. For additional information on the leases where the Company is the lessee, see Note 14 - Leases. 10 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS A significant portion of device revenue is derived from patients who obtain devices under month-to-month lease arrangements where the Company is the lessor. Revenue related to devices on lease is recognized in accordance with ASC 842. Using the guidance in ASC 842, the Company concluded the transactions should be accounted for as operating leases based on the following criteria be ● The lease does not transfer ownership of the underlying asset to the lessee by the end of the lease term. ● The lease does not grant the lessee an option to purchase the underlying asset that the lessee is reasonably certain to exercise. ● The lease term is month to month, which does not meet the major part of the remaining economic life of the underlying asset. However, if the commencement date falls at or near the end of the economic life of the underlying asset, this criterion shall not be used for purposes of classifying the lease. ● There is no residual value guaranteed and the present value of the sum of the lease payments does not equal or exceed substantially all of the fair value of the underlying asset ● The underlying asset is expected to have alternative uses to the lessor at the end of the lease term. Lease commencement occurs upon delivery of the device to the patient. The Company retains title to the leased device and those devices are classified as property and equipment on the balance sheet. Since the leases are month-to-month and can be returned by the patient at any time, revenue is recognized monthly for the duration of the period in which the patient retains the device. Debt Issuance Costs Debt issuance costs are costs incurred to obtain new debt financing. Debt issuance costs are presented in the accompanying condensed consolidated balance sheets as a reduction in the carrying value of the debt and are accreted to interest expense using the effective interest method. Stock-based Compensation The Company accounts for stock-based compensation through recognition of the cost of employee services received in exchange for an award of equity instruments, which is measured based on the grant date fair value of the award that is ultimately expected to vest during the period. The stock-based compensation expenses are recognized over the period during which an employee is required to provide service in exchange for the award (the requisite service period, which in the Company’s case is the same as the vesting period). For awards subject to the achievement of performance metrics, stock-based compensation expense is recognized when it becomes probable that the performance conditions will be achieved over the respective performance period. Segment Information The Company defines operating segments as components of the business enterprise for which separate financial information is reviewed regularly by the chief operating decision-makers to evaluate performance and to make operating decisions. The Company has identified our Chief Executive Officer, Chief Financial Officer, and Chief Operating Officer as our Chief Operating Decision-Makers (“CODM”). The Company currently operates business as one operating segment which includes two revenue typ Devices and Supplies. Income Taxes The Company records deferred tax assets and liabilities for the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in the accompanying condensed consolidated balance sheets, as well as operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance if, based on available evidence, it is more likely than not that these benefits will not be realized. Tax benefits are recognized from uncertain tax positions if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. 11 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The Inflation Reduction Act (“IRA”) was enacted into law on August 16, 2022. Included in the IRA was a provision to implement a 15% corporate alternative minimum tax on corporations whose average annual adjusted financial statement income during the most recently completed three year period exceeds $1 billion. This provision is effective for tax years beginning after December 31, 2022. We are in the process of evaluating the provisions of the IRA, but we do not currently believe the IRA will have a material impact on our reported results, cash flows or financial position when it becomes effective. Recent Accounting Pronouncements On October 9, 2023, the Financial Accounting Standards Board (“FASB”) issued ASU (“Accounting Standards Update”) 2023-06 which amends the disclosure or presentation requirements related to various subtopics in the FASB ASC. The amendments in ASU 2023-06 modify the disclosure or presentation requirements of a variety of Topics in the ASC. Certain of the amendments represent clarifications to or technical corrections of the current requirements. For entities subject to the SEC’s existing disclosure requirements and for entities required to file or furnish financial statements with or to the SEC in preparation for the sale of or for purposes of issuing securities that are not subject to contractual restrictions on transfer, the effective date for each amendment will be the date on which the SEC’s removal of that related disclosure from Regulation S-X or Regulation S-K becomes effective, with early adoption prohibited. For all entities, if by June 30, 2027, the SEC has not removed the applicable requirement from Regulation S-X or Regulation S-K, the pending content of the related amendment will be removed from the Codification and will not become effective for any entity. Management is evaluating the impacts of the recently issued ASU. Management does not believe that any other recently issued accounting pronouncements will have a material impact on the Company’s consolidated financial statements. (3) FAIR VALUE OF FINANCIAL INSTRUMENTS ASC 820, Fair Value Measurements (“ASC 820”) states that fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or a liability. The three-tiered fair value hierarchy, which prioritizes which inputs should be used in measuring fair value, is comprised o (Level I) observable inputs such as quoted prices in active markets; (Level II) inputs other than quoted prices in active markets that are observable either directly or indirectly and (Level III) unobservable inputs for which there is little or no market data. The fair value hierarchy requires the use of observable market data when available in determining fair value. The Company’s asset and liability classified financial instruments include cash and cash equivalents, short-term investments, accounts receivable, accounts payable, accrued liabilities, and contingent consideration. The carrying amounts of financial instruments, including cash and equivalents, short-term investments, accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities. The Company measures its long-term debt at book value which approximates fair value as the long-term debt bears market rates of interest. The valuation policies are determined by management, and the Company’s Board of Directors is informed of any policy change. During the year ended December 31, 2022 the Company did not have any cash equivalents or short-term investments. The following table shows the Company’s cash, cash equivalents and short-term investments by significant investment category as of September 30, 2023 (in thousands): September 30, 2023 Cash and Short Investment Fair Cash Term Cost Gains Value Equivalents Investments Cash (1) 12,579 - 12,579 12,579 - U.S. Treasury Securities (2) 39,446 416 39,862 29,938 9,924 Total 52,025 416 52,441 42,517 9,924 12 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (1) Level I fair value estimates are based on observable inputs such as quoted prices in active markets. (2) Level II fair value estimates are based on observable inputs other than quoted prices in active markets for identical assets and liabilities, quoted prices for identical or similar assets or liabilities in inactive markets, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities . The fair value of acquisition-related contingent consideration was based on a Monte Carlo model prior to September 30, 2023 which was included in Level III of the fair value hierarchy. See Note 6 - Business Combinations for additional details on the removal of contingent consideration during the quarter ended September 30, 2023. The following table sets forth a summary of changes in the contingent consideration for the nine months ended September 30, 2023 (in thousands): Contingent Consideration Balance as of December 31, 2022 $ 10,000 Change in fair value of contingent consideration ( 2,855 ) Escrow share adjustment ( 7,145 ) Balance as of September 30, 2023 $ — (4) INVENTORY The components of inventory are as follows (in thousands): September 30, 2023 December 31, 2022 Raw materials $ 3,408 $ 3,506 Work-in-process 1,419 1,205 Finished goods 8,573 7,750 Inventory in transit 1,054 1,291 $ 14,454 $ 13,752 L reserve ( 268 ) ( 268 ) $ 14,186 $ 13,484 (5) PROPERTY AND EQUIPMENT The components of property and equipment are as follows (in thousands): September 30, 2023 December 31, 2022 Property and equipment Office furniture and equipment $ 3,190 $ 2,819 Assembly equipment 212 110 Vehicles 151 203 Leasehold improvements 1,173 1,173 Leased devices 1,332 1,162 Capital projects 234 — $ 6,292 $ 5,467 Less accumulated depreciation ( 3,824 ) ( 3,292 ) $ 2,468 $ 2,175 Total depreciation expense related to our property and equipment was $ 0.2 million and $ 0.1 million for the three months ended September 30, 2023 and 2022, respectively. Depreciation expense for the nine months ended September 30, 2023 and 2022, was $ 0.6 million and $ 0.5 million, respectively. 13 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Total depreciation expense related to devices out on lease was $ 0.5 million and $ 0.3 million for the three months ended September 30, 2023 and 2022, respectively. Depreciation expense related to devices out on lease was $ 1.4 million and $ 1.0 million for the nine months ended September 30, 2023 and 2022, respectively. Depreciation on leased units is reflected on the income statement as cost of revenue. The Company monitors devices out on lease for potential loss and places an estimated reserve on the net book value based on an analysis of the number of units which are still with patients for which the Company cannot determine the current status. (6) BUSINESS COMBINATIONS On December 22, 2021, the Company and its wholly-owned subsidiary Zynex Monitoring Solutions, Inc., entered into a Stock Purchase Agreement (the “Agreement”) with Kestrel and each of the shareholders of Kestrel (collectively, the “Selling Shareholders”). Under the Agreement, the Selling Shareholders agreed to sell all of the outstanding common stock of Kestrel (the “Kestrel Shares”) to the Company. The consideration for the Kestrel Shares consisted of $ 16.1 million cash and 1,467,785 shares of the Company’s common stock (the “Zynex Shares”). All of the Zynex Shares were subject to a lock-up agreement for a period of one year from the closing date under the Agreement (the “Closing Date”). The Agreement provides the Selling Shareholders with piggyback registration rights. 978,524 of the Zynex Shares were deposited in escrow (the “Escrow Shares”). The number of Escrow Shares were subject to adjustment on the one-year anniversary of the Closing Date (or in connection with any Liquidation Event (as defined in the Agreement) that occurs prior to such anniversary date) based on the number of shares equal to $ 10.0 million divided by a 30-day volume weighted average closing price of the Company’s common stock. The Escrow Shares were adjusted on the anniversary date, which resulted in the cancellation of 156,673 Escrow Shares. Half of the Escrow Shares were to be released on submission of a dossier on a laser-based photoplethysmographic device (the “Device”) to the FDA for permission to market and sell the Device in the United States. The other half of the Escrow Shares were to be released upon determination by the FDA that the Device can be marketed and sold in the United States. On July 27, 2023, the Company, ZMS, Kestrel, and the Selling Shareholders, entered into an amendment to the Stock Purchase Agreement (the “Amendment”). The parties entered into the Amendment to modify certain terms of the Agreement related to the conditions to be satisfied for the release of the Escrow Shares to the Selling Shareholders. The Escrow Shares were released from escrow, simultaneously, the selling stockholders entered into a lock-up agreement. The lock-up agreement includes two lock-up periods which release certain restrictions on the Selling Shareholders on December 31, 2023 and June 30, 2024, respectively. The amount of Escrow Shares were recalculated at September 30, 2022, and are included in the calculation of diluted earnings per share for September 30, 2022. No additional calculation was required at September 30, 2023, as the Escrow Shares were released from escrow, and the shares are included in the Company’s calculation of basic earnings per share. The acquisition of Kestrel has been accounted for as a business combination under ASC 805 – “Business Combinations” (“ASC 805”). Under ASC 805, assets acquired, and liabilities assumed in a business combination must be recorded at their fair values as of the acquisition date. (7) GOODWILL AND OTHER INTANGIBLE ASSETS During the year ended December 31, 2021 the Company completed the acquisition of Kestrel, which resulted in Goodwill of $ 20.4 million (see Note 6 – Business Combinations). As of September 30, 2023, there was no change in the carrying amount of goodwill, and there were no impairment indicators of the Company’s net asset value. 14 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The following table provides the summary of the Company’s intangible assets as of September 30, 2023. Weighted- Average Gross Remaining Carrying Accumulated Net Carrying Life (in Amount Amortization Amount years) Acquired patents at December 31, 2022 $ 10,000 $ ( 933 ) $ 9,067 10.00 Amortization expense ( 680 ) ( 680 ) Acquired patents at September 30, 2023 $ 10,000 $ ( 1,613 ) $ 8,387 9.23 The following table summarizes the estimated future amortization expense to be recognized over the remainder of 2023, next five fiscal years, and periods thereaf December 31, (In thousands) October 1, 2023 through December 31, 2023 229 2024 911 2025 908 2026 908 2027 908 Thereafter 4,523 Total future amortization expense $ 8,387 (8) EARNINGS PER SHARE Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period. Dilution resulting from stock-based compensation plans is determined using the treasury stock method and dilution resulting from the 2023 Convertible Senior Notes is determined using the if-converted method. In periods of losses, diluted loss per share is computed on the same basis as basic loss per share as the inclusion of any other potential common shares outstanding would be anti-dilutive. The calculation of basic and diluted earnings per share for the three and nine months ended September 30, 2023 and 2022 are as follows (in thousands, except per share data): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2023 2022 2023 2022 Basic earnings per share Net income $ 3,594 $ 4,873 $ 8,517 $ 9,596 Basic weighted average shares outstanding 35,531 38,046 36,216 38,881 Basic earnings per share $ 0.10 0.13 0.24 0.25 Diluted earnings per share Net income $ 3,594 4,873 8,517 9,596 Weighted average shares outstanding 35,531 38,046 36,216 38,881 Effect of dilutive securities - options and restricted stock 572 819 650 848 Diluted weighted-average shares outstanding 36,103 38,865 36,866 39,729 Diluted earnings per share $ 0.10 0.13 $ 0.23 $ 0.24 15 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS For the three and nine months ended September 30, 2023, equity grants of 92,000 and 34,000 shares of common stock, respectively, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. For the three and nine months ended September 30, 2022, equity grants of 6,000 and 22,000 shares of common stock, respectively, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive. For the three and nine months ended September 30, 2023, conversion options to purchase 5.6 million and 3.0 million shares, respectively, resulting from the 2023 Convertible Senior Notes, were excluded from the dilutive stock calculation because their effect would have been anti-dilutive (see Note 10 – Convertible Senior Notes). (9) NOTES PAYABLE The Company entered into a loan agreement (the “Loan Agreement”) with Bank of America, N.A. (the “Bank”) in December 2021. Under this Loan Agreement, the Bank extended two facilities to the Company. Specified assets were pledged as collateral. One facility was a line of credit in the amount of $ 4.0 million available until December 1, 2024 (the “Facility 1”). Interest on Facility 1 was due on the first day of each month beginning January 1, 2022. The interest rate was an annual rate equal to the sum of (i) the greater of the BSBY Daily Floating Rate or (ii) the Index Floor (as defined in the Loan Agreement), plus 2.00 % . The Company did not utilize the facility during the three and nine months ended September 30, 2023 and September 30, 2022. During May 2023, the facility was terminated. The other facility extended by the Bank to the Company was a fixed rate term loan in the amount of up to $ 16.0 million (the “Facility 2”). Facility 2 was entered into and funded in conjunction with the purchase of Kestrel Labs at an interest rate equal to 2.8 % per year. The Company had to pay interest on the first day of each month which began January 1, 2022 and the Company also repaid the principal amount in equal installments of $ 444,444 per month. All unpaid interest and principal on Facility 2 was fully paid off and the Facility was terminated during May 2023. (10) CONVERTIBLE SENIOR NOTES In May 2023, the Company issued $ 52.5 million aggregate principal amount of 5.00 % Convertible Senior Notes due May 15, 2026 (the “2023 Convertible Senior Notes”). In May 2023, the Company issued an additional $ 7.5 million aggregate principal amount of the 2023 Convertible Senior Notes upon the exercise by the initial purchasers of their over-allotment option. Interest on the 2023 Convertible Senior Notes is payable semiannually in arrears, beginning November 15, 2023. The 2023 Convertible Senior Notes will mature on May 15, 2026, unless earlier converted or repurchased, and are redeemable at the option of the Company on or after May 20, 2025. The 2023 Convertible Senior Notes are direct, unsecured, and unsubordinated obligations of the Company, ranking equally with all of the Company’s other unsecured and unsubordinated indebtedness from time to time outstanding, and are effectively subordinated to all secured indebtedness of the Company. Holders may convert their 2023 Convertible Senior Notes at their option prior to the close of business on the business day preceding September 30, 2023, but only under the following circumstanc during any calendar quarter (and only during such calendar quarter), if the last reported sale price of the Company’s common stock for at least twenty trading days (whether or not consecutive) during the period of thirty consecutive trading days ending on, and including, the last trading day of the immediately preceding calendar quarter is greater than or equal to 130 % of the conversion price on each applicable trading day as determined by the Company; during the five business day period after any ten consecutive trading day period (the “Measurement Period”) in which the trading price per $ 1,000 principal amount of 2023 Convertible Senior Notes for each trading day of the Measurement Period was less than 98 % of the product of the last reported sale price of the common stock and the conversion rate on each such trading day; or upon the occurrence of certain corporate events specified in the indenture governing the 2023 Convertible Senior Notes. On or after February 15, 2026, a holder may convert all or any portion of its 2023 Convertible Senior Notes at any time prior to the close of business on the second scheduled trading day immediately preceding the maturity date regardless of the foregoing conditions. The Company will settle conversions of the 2023 Convertible Senior Notes by paying cash up to the aggregate principal amount of the 2023 Convertible Senior Notes to be converted and paying or delivering, as the case may be, cash, shares of common stock or a 16 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS combination of cash and shares of common stock, at the Company’s election, in respect of the remainder, if any, of the Company's conversion obligation in excess of the aggregate principal amount of the 2023 Convertible Senior Notes being converted. The 2023 Convertible Senior Notes are initially convertible at a rate of 92.8031 shares of common stock per $ 1,000 principal amount converted, which is approximately equal to $ 10.78 per share of common stock. The conversion rate will be subject to adjustment upon the occurrence of certain specified events but will not be adjusted for accrued and unpaid interest. In addition, upon the occurrence of a make-whole fundamental change, which includes certain change in control transactions, the approval by Zynex’s stockholders of any plan or proposal for the liquidation or dissolution of Zynex and certain de-listing events with respect to Zynex’s common stock, the Company will, in certain circumstances, increase the conversion rate by a number of additional shares of common stock for conversions in connection with the make-whole fundamental change. Upon the occurrence of a fundamental change, holders of the 2023 Convertible Senior Notes may require the Company to purchase all or a portion of their 2023 Convertible Senior Notes, in principal amounts equal to $ 1,000 or an integral multiple thereof, for cash at a price equal to 100 % of the principal amount of the 2023 Convertible Senior Notes to be purchased plus any accrued and unpaid interest. The following table summarizes the minimum interest payments over the remainder of 2023 and next three fiscal years until maturity in May 2026. (In thousands) October 1, 2023 through December 31, 2023 $ 1,592 2024 3,050 2025 3,042 2026 1,508 (11) STOCK-BASED COMPENSATION PLANS In June 2017, our stockholders approved the 2017 Stock Incentive Plan (the “2017 Stock Plan”) with a maximum of 5,500,000 shares reserved for issuance. Awards permitted under the 2017 Stock Plan inclu Stock Options and Restricted Stock. Awards issued under the 2017 Stock Plan are at the discretion of the Board of Directors. As applicable, awards are granted with an exercise price equal to the closing price of our common stock on the date of grant and generally vest over four years . Restricted Stock Awards are issued to the recipient upon grant and are not included in outstanding shares until such vesting and issuance occurs. During the three and nine months ended September 30, 2023, no stock option awards were granted under the 2017 Stock Plan. During the three months ended September 30, 2022 no stock option awards were granted under the 2017 Stock Plan. During the nine months ended September 30, 2022, 200,000 stock option awards were granted under the 2017 Stock Plan. At September 30, 2023, the Company had 0.6 million stock options outstanding and 0.6 million exercisable under the following pla Outstanding Exercisable Number of Options Number of Options Outstanding Number of Options Exercisable Number of Options (in thousands) (in thousands) Plan Category 2005 Stock Option Plan 211 211 2017 Stock Option Plan 351 351 Total 562 562 During the three and nine months ended September 30, 2023, 86,000 and 223,000 shares of restricted stock were granted under the 2017 Stock Plan, respectively. During the three and nine months ended September 30, 2022, 50,000 and 143,000 shares of restricted stock were granted to the Board of Directors and management under the 2017 Stock Plan, respectively. The fair market value of restricted shares for share-based compensation expensing is equal to the closing price of our common stock on the date of grant. The vesting on restricted stock awards typically occur quarterly over three years for the Board of Directors and quarterly or annually over two to four years for management. 17 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The following summarizes stock-based compensation expenses recorded in the condensed consolidated statements of income (in thousands): For the Three Months Ended September 30, For the Nine Months Ended September 30, 2023 2022 2023 2022 Cost of Revenue $ 10 $ 13 $ 26 $ 40 Sales and marketing expense 53 16 182 130 General, and administrative 591 549 1,413 1,532 Total stock based compensation expense $ 654 $ 578 $ 1,621 $ 1,702 The Company received proceeds of $ 0.1 million related to option exercises during the three and nine months ended September 30, 2023. The Company received proceeds of $ 0.1 million related to option exercises during each of the three and nine months ended September 30, 2022. No stock option awards were granted by the Company during the three and nine months ended September 30, 2023. A summary of stock option activity under all equity compensation plans for the nine months ended September 30, 2023, is presented be Weighted- Weighted- Average Aggregate Number of Average Remaining Intrinsic Shares Exercise Contractual Value (in thousands) Price Term (Years) (in thousands) Outstanding at December 31, 2022 793 $ 2.67 5.03 $ 8,908 Granted — $ — Forfeited ( 206 ) $ 6.30 Exercised ( 25 ) $ 5.36 Outstanding at September 30, 2023 562 $ 1.22 2.80 $ 3,807 Exercisable at September 30, 2023 562 $ 1.22 2.80 $ 3,807 A summary of restricted stock award activity under all equity compensation plans for the nine months ended September 30, 2023, is presented be Number of Shares Weighted Average (in thousands) Grant Date Fair Value Granted but not vested at December 31, 2022 431 $ 11.92 Granted 223 9.88 Forfeited ( 11 ) 11.71 Vested ( 157 ) 11.90 Granted but not vested at September 30, 2023 486 $ 11.82 As of September 30, 2023, the Company had approximately $ 4.5 million of unrecognized compensation expense related to stock options and restricted stock awards that will be recognized over a weighted average period of approximately 2.4 years. (12) STOCKHOLDERS’ EQUITY Treasury Stock On April 11, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of its common stock at prevailing market prices either in the open market or through privately negotiated transactions through April 11, 2023. From the inception of the plan through May 31, 2022 the Company purchased 1,419,874 shares of its common stock for $ 10.0 million or an average price of $ 7.04 per share which completed this program. 18 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS On June 9, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 9, 2023. From the inception of the plan through October 4, 2022, the Company purchased 1,091,604 shares of its common stock for $ 10.0 million for an average price of $ 9.06 per share which completed this program. On October 31, 2022, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through October 31, 2023. From the inception of the plan through December 31, 2022, the Company purchased 495,138 shares of its common stock for $ 6.6 million or an average price of $ 13.43 per share. From the inception of the plan through March 31, 2023, the Company purchased 727,836 shares of its common stock for $ 10 million or an average price of $ 13.74 per share which completed this program. On May 10, 2023, the disinterested members of the Board of Directors and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on May 10, 2023 of $ 9.61 per share for $ 2.9 million. See Note 17 - Related Parties for additional information. On June 13, 2023, the disinterested members of the Board of Directors and Audit Committee approved the purchase of 300,000 shares of the Company’s common stock from Thomas Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on June 13, 2023, of $ 8.62 per share for $ 2.6 million. See Note 17 - Related Parties for additional information. On June 13, 2023, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through June 13, 2024. From the inception of the plan through September 30 2023, the Company purchased 1,242,892 shares of its common stock for $ 10.0 million or an average price of $ 8.05 per share, which completed this program. On September 11, 2023, the Company’s Board of Directors approved a program to repurchase up to $ 10.0 million of the Company’s common stock at prevailing market prices either in the open market or through privately negotiated transactions through September 13, 2024. From the inception of the plan through September 30 2023, the Company purchased 667,524 shares of its common stock for $ 5.6 million or an average price of $ 8.36 per share. Warrants A summary of stock warrant activity for the nine months ended September 30, 2023 is presented be Weighted Weighted Average Aggregate Number of Average Remaining Intrinsic Warrants Exercise Contractual Value (in thousands) Price Life (Years) (in thousands) Outstanding and exercisable at December 31, 2022 99 $ 2.39 1.76 $ 1,140 Granted — $ — Exercised ( 8 ) $ 2.27 Forfeited ( 2 ) $ — Outstanding and exercisable at September 30, 2023 89 $ 2.41 1.02 $ 497 (13) INCOME TAXES The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, primarily related to excess tax benefits or expense from stock option exercises, the tax impact of the change in fair value of contingent consideration, and true ups related to the filed tax return. For the three months ended September 30, 2023 and 2022 discrete items adjusted were $ 1.1 million and $ 0.2 million, respectively. For the nine months ended September 30, 2023 and 2022 discrete items adjusted were ($ 2.1 ) million and ($ 0.2 ) million, respectively. At September 30, 2023 and 2022, the Company is estimating an 19 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS annual effective tax rate of approximately 25 % and 23 %, respectively. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to various factors. The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 20 % and 23 % for the nine months ended September 30, 2023 and 2022, respectively. The decrease in the Company’s effective income tax rate for the nine months ended September 30, 2023 compared to the same period in 2022, is primarily related to the tax impact of discrete items, in particular the change in fair value of contingent consideration recorded during the year which is not expected to be taxable. The Company recorded income tax expense of $ 1.4 million and $ 2.1 million for the three and nine months ended September 30, 2023, respectively, and income tax expense of $ 1.5 million and $ 2.9 million for the three and nine months ended September 30, 2022, respectively. Taxes of $ 3.5 million and $ 5.0 million were paid during the nine months ended September 30, 2023 and 2022, respectively. (14) LEASES The Company categorizes leases at their inception as either operating or financing leases. Leases include various office and warehouse facilities which have been categorized as operating leases while certain equipment is leased under financing leases. During February 2023, the Company entered into a lease agreement for approximately 41,427 square feet of office space for the operations of ZMS in Englewood, CO. The lease commences on July 1, 2023 and runs through December 31, 2028. At the expiration of the lease term the Company has the option to renew the lease for one additional five year period. The Company is entitled to rent abatements for the first six months of the lease and tenant improvement allowances. Payments based on the initial rate of $ 24.75 per square foot begin in January 2024. The price per square foot increases by an additional $ 0.50 during each subsequent twelve-month period of the lease after the abatement period. Upon lease commencement, the Company recorded an operating lease liability of $ 4.2 million and a corresponding right-of-use asset for $ 2.8 million. The Company’s operating leases do not provide an implicit rate, and therefore the Company uses its incremental borrowing rate as the discount rate when measuring the lease liability. The incremental borrowing rate represents an estimate of the interest rate the Company would incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of a lease. The Company’s weighted average borrowing rate was determined to be 4.75 % for its operating lease liabilities. The Company’s equipment lease agreements have a weighted average rate of 3.03 % which was used to measure its finance lease liability. The weighted average remaining lease term was 4.55 years and 4.09 years for operating and finance leases, respectively, as of September 30, 2023. As of September 30, 2023, the maturities of the Company’s future minimum lease payments were as follows (in thousands): Operating Lease Liability Finance Lease Liability October 1, 2023 through December 31, 2023 $ 533 $ 37 2024 4,511 209 2025 4,632 169 2026 4,428 108 2027 4,237 93 2028 2,172 93 Total undiscounted future minimum lease payments $ 20,513 $ 709 L difference between undiscounted lease payments and discounted lease liabiliti ( 2,287 ) ( 24 ) Total lease liabilities $ 18,226 $ 685 20 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The components of lease expenses were as follows: Three Months Ended Nine Months Ended September 30, September 30, 2023 2022 2023 2022 Lease Operating lease Total operating lease expense $ 889 $ 1,125 $ 3,131 $ 3,344 Finance lease Total amortization of leased assets 37 30 96 89 Interest on lease liabilities 5 9 19 28 Total net lease cost $ 931 $ 1,164 $ 3,246 $ 3,461 For the three months ended September 30, 2023 and 2022, $ 0.8 million and $ 1.0 million, respectively, of operating lease costs were included in selling, general and administrative expenses on the condensed consolidated statement of income. For the nine months ended September 30, 2023 and 2022, $ 2.9 million and $ 3.1 million, respectively, of operating lease costs were included in selling, general and administrative expenses on the condensed consolidated statement of income. All other operating lease costs were incurred at the Company’s manufacturing and warehouse facility and were included in cost of sales for the three and nine months ended September 30, 2023 and 2022. (15) CONCENTRATIONS For the three months ended September 30, 2023, the Company sourced approximately 57 % of the supplies for its electrotherapy products from four significant vendors. For the same period in 2022, the Company sourced approximately 39 % of the supplies for its electrotherapy products from two significant vendors. For the nine months ended September 30, 2023, the Company sourced approximately 47 % of supplies for its electrotherapy products from four significant vendors. For the same period in 2022, the Company sourced approximately 33 % of supplies for its electrotherapy products from two significant vendors. At September 30, 2023, the Company had no receivables from any third-party payers that made up over 10 % of the net accounts receivable balance. At December 31, 2022, the Company had receivables from one third-party payer which made up approximately 14 % of the net accounts receivable balance. (16) COMMITMENTS AND CONTINGENCIES See Note 14 for details regarding commitments under the Company’s long-term leases. From time to time, the Company may become party to litigation and other claims in the ordinary course of business. To the extent that such claims and litigation arise, management would accrue the estimated exposure for such events when losses are determined to be both probable and estimable. On occasion, the Company engages outside counsel related to a broad range of topics including employment law, third-party payer matters, intellectual property and regulatory and compliance matters. The Company is currently not a party to any material pending legal proceedings that would give rise to potential loss contingencies. (17) RELATED PARTIES On May 10, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 common shares of ZYXI from Mr. Sandgaard, Chairman, President, Chief Executive Officer and Principal Executive Officer, at the closing market price on May 10, 2023 of $ 9.61 per share, resulting in a total transactional value of $ 2,883,000 . On June 13, 2023, the disinterested Board and Audit Committee approved the purchase of 300,000 common shares of ZYXI from Mr. Sandgaard at the closing market price on June 13, 2023, of $ 8.62 per share, resulting in a total transactional value of $ 2,586,000 . 21 Table of Contents ZYNEX, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS At the time of each aforementioned transactions, the disinterested Board and Audit Committee Members deemed it to be in the best interest of The Company to purchase the shares as they believe the current market price for the Company’s stock is undervalued and the Company’s cash position is such that the purchase of shares from Mr. Sandgaard is a good use of the Company’s funds at the time of each transaction. For each transaction, the following impacts were discussed before approval of the s (i) the Company’s cash position and capital needs for its continuing operations; (ii) the alternative uses for the cash used to purchase the Sandgaard Shares, including repayment of outstanding indebtedness; (iii) the possible effect on earnings per share and book value per share; (iv) and the potential effect of the trading of the Company’s shares, if Mr. Sandgaard were to sell the shares in the open market. (18) SUBSEQUENT EVENTS There were no subsequent events identified through October 26, 2023. 22 Table of Contents ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Notice Regarding Forward-Looking Statements This quarterly report contains statements that are forward-looking, such as statements relating to plans for future organic growth and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the ability to engage effective sales representatives, the need to obtain U.S. Food and Drug Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or leased to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce key components of our products on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the impact of COVID-19 on our business, and other risks described herein and in our Annual Report on Form 10-K for the year ended December 31, 2022. These interim financial statements and the information contained in this Quarterly Report on Form 10-Q should be read in conjunction with the annual audited consolidated financial statements, and notes to consolidated financial statements, included in the Company’s 2022 Annual Report on Form 10-K and subsequently filed reports, which have previously been filed with the Securities and Exchange Commission. General Zynex, Inc. (a Nevada corporation) has its headquarters in Englewood, Colorado. We operate in one primary business segment, medical devices which include electrotherapy and pain management products. As of September 30, 2022, the Company’s only active subsidiaries are Zynex Medical, Inc. (“ZMI,” a wholly-owned Colorado corporation) through which the Company conducts most of its operations, and Zynex Monitoring Solutions, Inc. (“ZMS,” a wholly-owned Colorado corporation). The Company’s inactive subsidiaries include Zynex Europe, Zynex NeuroDiagnostics, Inc. (“ZND,” a wholly-owned Colorado corporation) and Pharmazy, Inc. (“Pharmazy”, a wholly-owned Colorado Corporation), which were incorporated in June 2015. The Company’s compounding pharmacy operated as a division of ZMI dba as Pharmazy through January 2016. In December 2021, the Company acquired 100% of Kestrel Labs, Inc. (“Kestrel”), a laser-based, noninvasive patient monitoring technology company. Kestrel’s laser-based products include the NiCO TM CO-Oximeter, a multi-parameter pulse oximeter, and HemeOx TM , a total hemoglobin oximeter that enables continuous arterial blood monitoring. Both NiCO and HemeOx are yet to be presented to the U.S. FDA for market clearance. All activities related to Kestrel flow through our ZMS subsidiary. The term “the Company” refers to Zynex, Inc. and its active and inactive subsidiaries. RESULTS OF OPERATIONS Summary Net revenue was $49.9 million and $41.5 million for the three months ended September 30, 2023 and 2022, respectively, and $137.0 million and $109.4 million for the nine months ended September 30, 2023 and 2022, respectively. Net revenue increased 20% and 25% for the three and nine months ended September 30, 2023, respectively. For both the three and nine months ended September 30, 2023, device orders increased 39% and 49%, respectively, from the same periods in 2022. Net income was $3.6 million for the three months ended September 30, 2023 compared with $4.9 million during the same period in 2022. Net income was $8.5 million for the nine months ended September 30, 2023 compared with $9.6 million during the same period in 2022. Cash provided by operating activities was $11.6 million during the nine months ended September 30, 2023 compared with $9.0 million during the same period in 2022. Working capital was $83.1 million and $48.5 million as of September 30, 2023 and December 31, 2022, respectively. 23 Table of Contents Net Revenue Net revenues are comprised of device and supply sales, constrained by estimated third-party payer reimbursement deductions. The reserve for billing allowance adjustments and allowance for uncollectible accounts are adjusted on an ongoing basis in conjunction with the processing of third-party payer insurance claims and other customer collection history. Product device revenue is primarily comprised of sales and rentals of our electrotherapy products and also includes complementary products such as our cervical traction, lumbar support and hot/cold therapy products. Supplies revenue is primarily comprised of sales of our consumable supplies to patients using our electrotherapy products, consisting primarily of surface electrodes and batteries. Revenue related to both devices and supplies is reported net, after adjustments for estimated third-party payer reimbursement deductions and estimated allowance for uncollectible accounts. The deductions are known throughout the healthcare industry as billing adjustments whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the sales prices charged by us. The deductions from gross revenue also take into account the estimated denials, net of resubmitted billings of claims for products placed with patients which may affect collectability. See our Significant Accounting Policies in Note 2 to the condensed financial statements for a more complete explanation of our revenue recognition policies. We occasionally receive, and expect to continue to receive, refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in our industry. These requests are sometimes related to a few patients and other times include a significant number of refund claims in a single request. We review and evaluate these requests and determine if any refund is appropriate. We also review claims that have been resubmitted or where we are pursuing additional reimbursement from that insurance provider. We frequently have significant offsets against such refund requests which may result in amounts that are due to us in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests we are generally unable to determine if a refund request is valid. Net revenue increased $8.4 million or 20% to $49.9 million for the three months ended September 30, 2023, from $41.5 million for the same period in 2022. Net revenue increased $27.7 million or 25% to $137.0 million for the nine months ended September 30, 2023, from $109.4 million for the same period in 2022. For both the three and nine months ended September 30, 2023, the growth in net revenue from the same periods in 2022 is primarily related to a 39% and 49% growth in device orders, respectively, which resulted from a larger customer base and led to increased sales of consumable supplies. Device Revenue Device revenue is related to the sale or lease of our products. Device revenue increased $5.5 million or 49% to $16.9 million for the three months ended September 30, 2023, from $11.3 million for the same period in 2022. Device revenue increased $15.0 million or 54% to $42.5 million for the nine months ended September 30, 2023, from $27.6 million for the same period in 2022. For both the three and nine months ended September 30, 2023, the growth in net revenue from the same periods in 2022 is primarily related to a 39% and 49% growth in device orders, respectively. Supplies Revenue Supplies revenue is related to the sale of supplies, primarily electrodes and batteries, for our electrotherapy products. Supplies revenue increased $2.9 million or 10% to $33.1 million for the three months ended September 30, 2023, from $30.2 million for the same period in 2022. Supplies revenue increased $12.7 million or 16% to $94.5 million for the nine months ended September 30, 2023, from $81.8 million for the same period in 2022. The increase in supplies revenue is primarily related to an increased customer base from increased device orders in 2022 and 2023. 24 Table of Contents Operating Expenses Cost of Revenue – Devices and Supplies Cost of Revenue – devices and supplies consist primarily of device and supply costs, facilities, operations labor and overhead, shipping and depreciation. Cost of revenue for the three months ended September 30, 2023 increased $1.2 million or 14% to $9.6 million from $8.4 million from the same period in 2022. As a percentage of revenue, cost of revenue – devices and supplies decreased to 19% from 20% for the three months ended September 30, 2023 and 2022, respectively. Cost of revenue for the nine months ended September 30, 2023 increased $5.5 million or 24% to $28.1 million from $22.6 million for the same period in 2022. As a percentage of revenue, cost of revenue – device and supply remained flat at 21% for the nine months ended September 30, 2023 and 2022. The increase in cost of revenue – devices and supplies, in the three and nine months ended September 30, 2023, is due to increased volumes related to higher revenue. Sales and Marketing Expense Sales and marketing expenses primarily consist of employee-related costs, including commissions and other direct costs associated with these personnel including travel expenses and marketing campaign and related expenses. Sales and marketing expense for the three months ended September 30, 2023 increased $4.9 million or 29% to $22.1 million from $17.2 million for the same period in 2022. The increase in sales and marketing expense is primarily due to increased commission and incentive pay from increased orders, increased headcount of our sales force, and rising wages in the U.S. due to a very competitive job market. As a percentage of revenue, sales and marketing expense increased to 44% from 41% for the three months ended September 30, 2023 and 2022, respectively, primarily due to the aforementioned expenses, offset by increased revenue. Sales and marketing expense for the nine months ended September 30, 2023 increased $17.0 million or 36% to $65.0 million from $48.0 million for the same period in 2022. The increase in sales and marketing expense is primarily due to increased commission and incentive pay from increased orders, and inflation and rising wages in the U.S. due to a very competitive job market. As a percentage of revenue, sales and marketing expense increased to 47% from 44% for the nine months ended September 30, 2023 and 2022, respectively. The increase as a percentage of revenue is primarily due to the additional expenses noted above, slightly offset by the increase in revenue during the period. General and Administrative Expense General and administrative expenses primarily consist of employee-related costs, and other direct costs associated with these personnel including facilities and travel expenses and professional fees, depreciation and amortization. General and administrative expense for the three months ended September 30, 2023 increased $3.4 million or 36% to $12.7 million from $9.4 million for the same period in 2022. The increase in general and administrative expense for the three months is primarily due to increased compensation and benefit expense related to headcount growth at ZMS and within the billing departments, and professional fees due to additional external resources and additional compliance fees related to Section 404(b) of the Sarbanes-Oxley Act of 2002. As a percentage of revenue, general and administrative expense increased to increased to 26% for the three months ended September 30, 2023 from 23% for the same period in 2022. The increase as a percentage of revenue is primarily due to the items noted above, partially offset by the increase in revenue during the period. General and administrative expense for the nine months ended September 30, 2023 increased $9.5 million or 37% to $35.5 million from $26.0 million for the same period in 2022. The increase in general and administrative expense for the nine months is primarily due to increased compensation and benefit expense related to headcount growth at ZMS and within the billing departments, and increased professional and legal service expenses. As a percentage of revenue, general and administrative expense increased to 26% for the nine months ended September 30, 2023 from 24% for the same period in 2022. The increase as a percentage of revenue is primarily due to the aforementioned expenses, partially offset by the increase in revenue during the period. Income Taxes The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s effective income tax rate was 27% and 20% for the three and nine months ended September 30, 2023, respectively. Discrete items, primarily related to the tax impact of the change in fair 25 Table of Contents value of contingent consideration, of $(0.2) million and $2.9 million for the three and nine months ended September 30, 2023, respectively, are recognized as a benefit against income tax expense. For the three and nine months ended September 30, 2023 the Company recorded an income tax expense of approximately $1.4 million and $2.1 million, respectively. The Company recorded income tax expense of $1.5 million and $2.9 million for the three and nine months ended September 30, 2022, respectively. LIQUIDITY AND CAPITAL RESOURCES We have historically financed operations through cash flows from operations, debt and equity transactions. At September 30, 2023, our principal source of liquidity was $42.5 million in cash and cash equivalents, $9.9 million in short-term investments and $33.3 million in accounts receivable. Net cash provided by operating activities for the nine months ended September 30, 2023 was $11.6 million compared with net cash provided by operating activities of $9.0 million for the nine months ended September 30, 2022. The increase in cash provided by operating activities for the nine months ended September 30, 2023 was primarily due to a decrease in the receivables balance and a decrease in inventory. The increase was partially offset by the change in fair value of contingent consideration. Net cash used in investing activities for the nine months ended September 30, 2023 and 2022 was $10.4 million and $0.3 million, respectively. Cash used in investing activities for the nine months ended September 30, 2023 was primarily related to the purchase of short-term investments, and purchases of property and equipment related to the build out of our facility for the operations of ZMS. Cash used in investing activities for the nine months ended September 30, 2022 was primarily related to the purchase of leasehold improvements for the operations of the ZMS Boulder location and the purchase of computer equipment. Net cash provided by financing activities for the nine months ended September 30, 2023 was $21.2 million compared with net cash used in financing activities of $27.7 million for the same period in 2022. Net cash provided by financing activities for the nine months ended September 30, 2023 was primarily due to $57.0 million in net proceeds from the issuance of the 2023 Convertible Senior Notes, offset by purchases of $24.4 million in treasury stock, and principal payments and termination payments on long-term debt totaling $10.7 million. Net cash used in financing activities for the nine months ended September 30, 2022 was primarily due to purchases of $19.8 million in treasury stock, payments of $3.6 million for cash dividends in January 2022, and principal payments on long-term debt totaling $4.0 million. We believe our cash and cash equivalents, together with anticipated cash flow from operations will be sufficient to meet our working capital, and capital expenditure requirements for at least the next twelve months. In making this assessment, we considered the followin ● Our cash and cash equivalents balance at September 30, 2023 of $42.5 million; ● Our working capital balance of $83.1 million; ● Our projected income and cash flows for the next 12 months. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Please refer to the “Management’s Discussion and Analysis of Financial Condition and Results of Operation” and Note 2 to the consolidated financial statements located within our Annual Report on Form 10-K for the year ended December 31, 2022, filed with the Securities and Exchange Commission on March 14, 2023. COVID-19 UPDATE In December 2019, a novel strain of coronavirus (“COVID-19”) emerged and spread to other countries, including the United States. In March 2020, the World Health Organization declared COVID-19 as a pandemic (the “COVID-19 pandemic”). The COVID-19 pandemic, including multiple variants, resulted in governments around the world implementing stringent measures to help control the spread of the virus, including quarantines, “shelter in place” and “stay at home” orders, travel restrictions, business interruptions and other measures. 26 Table of Contents Although the World Health Organization declared an end to the COVID-19 pandemic on May 5, 2023, we continue to actively monitor the impact of COVID-19. While the Company did not incur significant disruptions to its operations during the three and nine months ended September 30, 2023 from COVID-19, the full extent of COVID-19 on our operations and the markets we serve remains uncertain and will depend largely on future developments related to COVID-19, including infection rates increasing or returning in various geographic areas, variations of COVID-19, actions by government authorities to contain the outbreak or treat its impact, such as reimposing previously lifted measures or putting in place additional restrictions, and the widespread distribution and acceptance of an effective vaccine, among other things. Future developments regarding COVID-19 and its effects cannot be accurately predicted. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK N/A. ITEM 4. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Evaluation of disclosure controls and procedures Our management, including our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934), as amended, or the Exchange Act, as of September 30, 2023. Based on management’s review, with participation of our Chief Executive Officer and Chief Financial Officer, the Chief Executive Officer and Chief Financial Officer have concluded that, as of the quarter ended September 30, 2023, our disclosure controls and procedures were not effective due to the material weakness in internal control over financial reporting as described below. Material Weakness in Internal Control We identified a material weakness related to Information Technology General Controls (ITGCs) that were not designed and operating effectively to ensure (i) appropriate segregation of duties was in place to perform program changes and (ii) the activities of individuals with access to modify data and make program changes were appropriately monitored. Business process controls (automated and manual) that are dependent on the affected ITGCs were also deemed ineffective because they could have been adversely impacted. The material weakness identified above did not result in any material misstatements in our financial statements or disclosures, and there were no changes to previously released financial results. Our management concluded that the consolidated financial statements included in the Annual Report on Form 10-K, present fairly, in all material respects, our financial position, results of operations, and cash flows for the periods presented in accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP. The effectiveness of our internal control over financial reporting as of December 31, 2022, has been audited by Marcum LLP as stated in their report, which is included in Item 8 of the Annual Report on Form 10-K. Remediation Plan Our management is committed to maintaining a strong internal control environment. In response to the identified material weakness above, management will take comprehensive actions to remediate the material weakness in internal control over financial reporting. We are in the process of developing and implementing remediation plans to address the material weakness described above. Changes in Internal Control over Financial Reporting Except for the items referred to above, there were no changes in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the quarter ended September 30, 2023 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting. Inherent Limitation on the Effectiveness of Internal Control Our management, including our Chief Executive Officer and Chief Financial Officer, do not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by 27 Table of Contents management override of the controls. The design of any system of controls is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with policies or procedures may deteriorate. Due to inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS There have been no material changes from the risk factors previously disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022 filed with the SEC on March 14, 2023. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES, USE OF PROCEEDS , AND ISSUER PURCHASES OF EQUITY SECURITIES Items 2(a) and 2(b) are not applicable. (c) Stock Repurchases. Issuer Purchases of Equity Securities Total Number of In Thousands Shares Maximum Value Purchased as of Shares That Total Average Part of a May Yet Be Number of Price Publicly Purchased Shares Paid Per Announced Under the Period Purchased Share Plan Plan July 1 - August 31, 2023 Share repurchase program (1) 619,216 $ 8.24 685,416 4,253 September 1 - September 30, 2023 Share repurchase program (1) 557,476 $ 8.62 1,242,892 — Share repurchase program (2) 667,524 $ 8.36 667,524 4,420 Quarter Total Share repurchase program (1) 1,176,692 $ 8.42 1,242,892 — Share repurchase program (2) 667,524 $ 8.36 667,524 4,420 (1) Shares were purchased through the Company’s publicly announced share repurchase program dated June 13, 2023. The program was fully utilized during the Company's third quarter. (2) Shares were purchased through the Company’s publicly announced share repurchase program dated September 11, 2023. The program expires on September 13, 2024. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. MINE SAFETY DISCLOSURES N/A ITEM 5. OTHER INFORMATION N o n e . 28 Table of Contents ITEM 6. EXHIBITS Exhibit Number Description 10.1 Amendment to Stock Purchase Agreement by and among Kestrel Labs, Inc., Zynex Monitoring Solutions Inc., Zynex, Inc. and Selling Shareholders named herein dated as of July 27, 2023 (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K filed with the SEC on July 31, 2023) 31.1* Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 32.1** Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2** Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) as Adopted Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 101.INS* XBRL Instance Document 101.SCH* XBRL Taxonomy Extension Schema Document 101.CAL* XBRL Taxonomy Calculation Linkbase Document 101.LAB * XBRL Taxonomy Label Linkbase Document 101.PRE * XBRL Presentation Linkbase Document 101.DEF * XBRL Taxonomy Extension Definition Linkbase Document 104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101) * Filed herewith ** Furnished herewith 29 Table of Contents SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ZYNEX, INC. /s/ Daniel J. Moorhead Dat October 26, 2023 Daniel J. Moorhead Chief Financial Officer (Principal Financial and Accounting Officer) 30 |